UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended: Commission File No.
June 30, 2003 0-26589
FIRST NATIONAL LINCOLN CORPORATION
(Exact name of registrant as specified in its charter)
MAINE 01-0404322
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No)
MAIN STREET, DAMARISCOTTA, MAINE 04543
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (207) 563 - 3195
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding twelve months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No[ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). Yes [X] No[ ]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at August 13, 2003
Common Stock, Par One Cent 2,424,185
FIRST NATIONAL LINCOLN CORPORATION
INDEX
PART 1 Financial Information (Unaudited)
Page No.
Item 1:
Selected Financial Data .................................... 1
Independent Accountants' Review Report ..................... 2
Financial Statements
Consolidated Balance Sheets -
June 30,2003, June 30,2002 and December 31, 2002 3 - 4
Consolidated Statements of Income - for the three and six
Months ended June 30,2003 and June 30,2002 .......... 5 - 6
Consolidated Statements of Changes in Shareholders' Equity -
for the six months ended June 30,2003 and June 30,2002 7 - 8
Consolidated Statements of Cash Flows - for the six months
ended June 30,2003 and June 30,2002 .................. 9 - 10
Notes to Financial Statements - for the six months
ended June 30,2003 and June 30,2002 11 - 15
Item 2: Management's Discussion and Analysis of
Financial Condition and Results of Operations .......... 16 - 23
Item 3: Quantitative and Qualitative Disclosures
About Market Risk ...................................... 24 - 26
Item 4: Controls and Procedures ................................ 27
PART II Other Information
Item 1: Legal Proceedings ...................................... 28
Item 2: Changes in Securities .................................. 29
Item 3: Defaults Upon Senior Securities ........................ 30
Item 4: Submission of Matters to a Vote of Security Holders .... 31
Item 5: Other Information ...................................... 32
Item 6: Exhibits and Reports on Form 8-K ....................... 33
Signatures .......................................................... 34
PART I.
ITEM 1. FINANCIAL STATEMENTS
FIRST NATIONAL LINCOLN CORPORATION AND SUBSIDIARY
SELECTED FINANCIAL DATA (Unaudited)
- -----------------------------------------------------------------------------
For the six months For the quarters
Dollars in thousands, ended June 30, ended June 30,
except for per share amounts 2003 2002 2003 2002
- -----------------------------------------------------------------------------
Summary of Operations
Operating Income $16,105 $16,492 $8,014 $8,420
Operating Expense 11,373 12,086 5,622 6,066
Net Interest Income 8,264 8,489 4,164 4,326
Provision for Loan Losses 450 690 225 280
Net Income 3,408 3,119 1,729 1,646
- -----------------------------------------------------------------------------
Per Common Share Data
Basic Earnings per Share $1.41 $1.30 $0.71 $0.69
Diluted Earnings per Share 1.37 1.26 0.70 0.66
Cash Dividends Declared 0.55 0.47 0.28 0.24
Book Value 18.83 16.64 18.83 16.64
Market Value 39.18 28.25 39.18 28.25
- -----------------------------------------------------------------------------
Financial Ratios
Return on Average Equity (a) 15.68% 16.46% 15.60% 17.14%
Return on Average Assets (a) 1.35% 1.40% 1.35% 1.44%
Average Equity to Average Assets 8.63% 8.53% 8.67% 8.40%
Net Interest Margin Tax-Equivalent (a) 3.65% 4.20% 3.63% 4.16%
Dividend Payout Ratio 39.01% 36.06% 39.44% 34.89%
Allowance for Loan
Losses/Total Loans 1.08% 1.07% 1.08% 1.07%
Non-Performing Loans
to Total Loans 0.30% 0.51% 0.30% 0.51%
Non-Performing Assets
to Total Assets 0.23% 0.42% 0.23% 0.42%
Efficiency Ratio (b) 49.06% 49.30% 48.70% 48.92%
- -----------------------------------------------------------------------------
At Period End
Total Assets 531,127 478,622 531,127 478,622
Total Loans 367,915 324,511 367,915 324,511
Total Investment Securities 128,291 128,350 128,291 128,350
Total Deposits 359,010 308,294 359,010 308,294
Total Shareholders' Equity 45,602 39,903 45,602 39,903
- -----------------------------------------------------------------------------
(a) Annualized using a 365-day basis
(b) The Company uses the following formula in calculating its efficiency ratio
Non-Interest Expense - Loss on Securities Sales
- ------------------------------------------------------------------------------
Tax-Equivalent Net Interest Income + Non-Interest Income - Gains on Securities
Page 1
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
The Board of Directors and Shareholders
First National Lincoln Corporation
We have reviewed the accompanying interim consolidated financial information of
First National Lincoln Corporation and Subsidiary as of June 30, 2003 and 2002,
and for the three- and six-month periods then ended. These financial statements
are the responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit in
accordance with U.S. generally accepted auditing standards, the objective of
which is to express an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that
should be made to the accompanying financial statements for them to be in
conformity with U.S. generally accepted accounting principles.
Berry, Dunn, McNeil & Parker
Portland, Maine
August 11, 2003
Page 2
FIRST NATIONAL LINCOLN CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS (Unaudited)
- ------------------------------------------------------------------------------
(000 OMITTED except per share data June 30, June 30, December 31,
and number of shares) 2003 2002 2002
- ------------------------------------------------------------------------------
Assets
Cash and due from banks $ 12,973 $ 9,573 $ 14,181
Overnight funds sold 6,100 - 9,325
------- ------- -------
Cash and cash equivalents 19,073 9,573 23,506
------- ------- -------
Investments:
Available for sale 64,339 53,452 56,410
Held to maturity (market values $66,204
at 6/30/03, $75,583 at 6/30/02 and
$67,421 at 12/31/02) 63,952 74,898 65,663
Loans held for sale
(fair value approximates cost) 1,162 2,272 2,613
Loans 367,915 324,511 332,074
Less: allowance for loan losses 3,987 3,468 3,700
------- ------- -------
Net loans 363,928 321,043 328,374
------- ------- -------
Accrued interest receivable 2,922 3,129 2,642
Bank premises and equipment,
net of accumulated depreciation 7,659 7,783 7,833
Other real estate owned 75 195 255
Other assets 8,017 6,277 6,772
------- ------- -------
Total Assets $ 531,127 $ 478,622 $ 494,068
======= ======= =======
Page 3
CONSOLIDATED BALANCE SHEETS, CONTINUED
- ------------------------------------------------------------------------------
June 30, June 30, December 31,
2003 2002 2002
- ------------------------------------------------------------------------------
Liabilities
Demand deposits $ 27,035 $ 24,103 $ 25,484
NOW deposits 49,985 43,762 46,989
Money market deposits 86,566 61,986 80,805
Savings deposits 64,735 51,063 59,521
Certificates of deposit 69,867 75,151 71,169
Certificates $100,000 and over 60,822 52,229 50,256
------- ------- -------
Total deposits 359,010 308,294 334,224
------- ------- -------
Borrowed funds 121,933 126,734 113,365
Other liabilities 4,582 3,691 3,784
------- ------- -------
Total Liabilities 485,525 438,719 451,373
------- ------- -------
Shareholders' Equity
Common stock 25 25 25
Additional paid-in capital 4,687 4,687 4,687
Retained earnings 40,399 36,019 38,322
Net unrealized gains on
securities available for sale 2,919 1,363 2,170
Treasury stock (2,428) (2,191) (2,509)
------- ------- -------
Total Shareholders' Equity 45,602 39,903 42,695
------- ------- -------
Total Liabilities
& Shareholders' Equity $ 531,127 $ 478,622 $ 494,068
======= ======= =======
- -----------------------------------------------------------------------------
Number of shares authorized 6,000,000 6,000,000 6,000,000
Number of shares issued 2,481,270 2,481,270 2,481,270
Number of shares outstanding 2,422,085 2,397,611 2,414,693
Book value per share $18.83 $16.64 $17.68
- --------------------------------------------------------------------------
See Independent Accountants' Review Report. The accompanying notes are an
integral part of these consolidated financial statements.
Page 4
FIRST NATIONAL LINCOLN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
- ------------------------------------------------------------------------------
(000 OMITTED except per share data For the six months ended June 30,
and number of shares) 2003 2002
- ------------------------------------------------------------------------------
Interest and dividend income
Interest and fees on loans $ 10,591 $ 11,028
Interest on deposits with other banks 48 5
Interest and dividends on investments 3,033 3,524
-------- --------
Total interest and dividend income 13,672 14,557
-------- --------
Interest expense
Interest on deposits 3,282 3,775
Interest on borrowed funds 2,126 2,293
-------- --------
Total interest expense 5,408 6,068
-------- --------
Net interest income 8,264 8,489
Provision for loan losses 450 690
-------- --------
Net interest income after provision for loan losses 7,814 7,799
-------- --------
Other operating income
Fiduciary income 374 383
Service charges on deposit accounts 565 469
Other operating income 1,494 1,083
-------- --------
Total other operating income 2,433 1,935
-------- --------
Other operating expenses
Salaries and employee benefits 2,831 2,661
Occupancy expense 393 358
Furniture and equipment expense 701 624
Other 1,590 1,685
-------- --------
Total other operating expenses 5,515 5,328
-------- --------
Income before income taxes 4,732 4,406
Applicable income taxes 1,324 1,287
-------- --------
NET INCOME $ 3,408 $ 3,119
======== ========
- -----------------------------------------------------------------------------
Earnings per common share
Basic earnings per share $1.41 $1.30
Diluted earnings per share $1.37 $1.26
Cash dividends declared per share $0.55 $0.47
Weighted average number of shares outstanding 2,420,026 2,393,296
Incremental Shares 61,790 82,116
- -----------------------------------------------------------------------------
See Independent Accountants' Review Report. The accompanying notes are an
integral part of these consolidated financial statements.
Page 5
FIRST NATIONAL LINCOLN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME, CONTINUED
- ------------------------------------------------------------------------------
(000 OMITTED except per share data For the quarters ended June 30,
and number of shares) 2003 2002
- ------------------------------------------------------------------------------
Interest and dividend income
Interest and fees on loans $ 5,326 $ 5,555
Interest on deposits with other banks 5 0
Interest and dividends on investments 1,473 1,848
------- -------
Total interest and dividend income 6,804 7,403
------- -------
Interest expense
Interest on deposits 1,578 1,875
Interest on borrowed funds 1,062 1,202
------- -------
Total interest expense 2,640 3,077
------- -------
Net interest income 4,164 4,326
Provision for loan losses 225 280
------- -------
Net interest income after provision for loan losses 3,939 4,046
------- -------
Other operating income
Fiduciary income 185 198
Service charges on deposit accounts 298 250
Other operating income 727 569
------- -------
Total other operating income 1,210 1,017
------- -------
Other operating expenses
Salaries and employee benefits 1,419 1,304
Occupancy expense 201 172
Furniture and equipment expense 343 314
Other 794 919
------- -------
Total other operating expenses 2,757 2,709
------- -------
Income before income taxes 2,392 2,354
Applicable income taxes 663 708
------- -------
NET INCOME $ 1,729 $ 1,646
======= =======
- ------------------------------------------------------------------------------
Earnings per common share
Basic earnings per share $0.71 $0.69
Diluted earnings per share $0.70 $0.66
Cash dividends declared per share $0.28 $0.24
Weighted average number of shares outstanding 2,421,265 2,393,213
Incremental Shares 63,169 85,924
- ------------------------------------------------------------------------------
See Accountants' Review Report. The accompanying notes are an integral part of
these consolidated financial statements.
Page 6
FIRST NATIONAL LINCOLN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (Unaudited)
<table>
<caption>
- ----------------------------------------------------------------------------------------------
For the six months ended June 30, 2002
- ----------------------------------------------------------------------------------------------
(000 omitted except for share data) Net
unrealized
gain Total
Number of Additional on securities share-
common Common paid-in Retained available Treasury holders'
shares stock capital earnings for sale stock equity
<s> <c> <c> <c> <c> <c> <c> <c>
- ----------------------------------------------------------------------------------------------
Balance at
December 31,
2001 2,391,375 $25 $4,687 $34,030 $ 784 $(2,192) $37,334
--------- --- ------ ------- ------ ------- -------
Net income - - - 3,119 - - 3,119
Net unrealized
gain on
securities
available for
sale, net of
tax expense of
$298 - - - - 579 - 579
--------- --- ------ ------- ------ ------- -------
Comprehensive
income - - - 3,119 579 - 3,698
Cash dividends
declared - - - (1,130) - - (1,130)
Treasury stock
purchases (8,001) - - - - (225) (225)
Treasury stock
sales 14,237 - - - - 226 226
--------- --- ------ ------- ------ ------- -------
Balance
at June 30,
2002 2,397,611 $25 $4,687 $36,019 $1,363 $(2,191) $39,903
========= === ====== ======= ====== ======= =======
- ----------------------------------------------------------------------------------------------
Page 7
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY, CONTINUED
- ----------------------------------------------------------------------------------------------
For the six months ended June 30, 2003
- ----------------------------------------------------------------------------------------------
(000 omitted except for share data) Net
unrealized
gain Total
Number of Additional on securities share-
common Common paid-in Retained available Treasury holders'
shares stock capital earnings for sale stock equity
- ----------------------------------------------------------------------------------------------
Balance at
December 31,
2002 2,414,693 $25 $4,687 $38,322 $2,170 $(2,509) $42,695
--------- --- ------ ------- ----- ------- -------
Net income - - - 3,408 - - 3,408
Net unrealized
gain on
securities
available for
sale, net of
taxes of
$386 - - - - 749 - 749
--------- --- ------ ------ ------ ------- -------
Comprehensive
income - - - 3,408 749 - 4,157
Cash dividends
declared - - - (1,331) - - (1,331)
Treasury stock
purchases (5,014) - - - - (170) (170)
Treasury stock
sales 12,406 - - - - 251 251
--------- --- ------ ------- ------ ------- --------
Balance
at June 30,
2003 2,422,085 $25 $4,687 $40,399 $2,919 $(2,428) $45,602
========= === ====== ======= ====== ======= =======
- ----------------------------------------------------------------------------------------------
See Independent Accountants' Review Report. The accompanying notes are an integral part of these
consolidated financial statements.
</table>
Page 8
FIRST NATIONAL LINCOLN CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
- -------------------------------------------------------------------------------
For the six months ended June 30,
(000 omitted) 2003 2002
- -------------------------------------------------------------------------------
Cash flows from operating activities
Net income $ 3,408 3,119
Adjustments to reconcile net income to
net cash provided(used) by operating activities:
Depreciation 498 464
Provision for loan losses 450 690
Loans originated for resale (32,742) (15,028)
Proceeds from sales and transfers of loans 34,193 13,222
Net gain on sale of other real estate owned (24) 0
Net increase in other assets and accrued interest (1,525) (555)
Net increase in other liabilities 362 253
Net amortization (accretion) of
premiums (discounts) on investments 81 (379)
------ ------
Net cash provided by operating activities 4,701 1,786
------ ------
Cash flows from investing activities
Proceeds from maturities, payments and calls of
securities available for sale 8,526 1,571
Proceeds from maturities, payments and calls of
securities to be held to maturity 21,567 10,756
Proceeds from sales of other real estate owned 204 7
Purchases of securities available for sale (15,311) (3,189)
Purchases of securities to be held to maturity (19,946) (28,046)
Net increase in loans (36,004) (23,429)
Capital expenditures (324) (684)
------ ------
Net cash used in investing activities (41,288) (43,014)
------ ------
Cash flows from financing activities
Net increase in demand deposits, savings,
money market and club accounts 15,522 52,041
Net increase (decrease) in
certificates of deposit 9,264 (6,436)
Advances on long-term borrowings 25,000 17,000
Repayment on long-term borrowings (12,000) -
Net decrease in short-term borrowings (4,432) (21,623)
Payment to repurchase common stock (170) (225)
Proceeds from sale of treasury stock 251 226
Dividends paid (1,281) (1,076)
------ ------
Net cash provided by financing activities 32,154 39,907
------ ------
Page 9
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
- -------------------------------------------------------------------------------
For the six months ended June 30,
2003 2002
- -------------------------------------------------------------------------------
Net decrease in cash and cash equivalents (4,433) (1,321)
Cash and cash equivalents at beginning of period 23,506 10,894
------ ------
Cash and cash equivalents at end of period $19,073 9,573
====== ======
- -------------------------------------------------------------------------------
Interest paid $ 5,501 $ 6,063
Income taxes paid 1,139 1,170
Non-cash transactions
Change in net unrealized gain on
available for sale securities 1,135 877
- ------------------------------------------------------------------------------
See Independent Accountants' Review Report. The accompanying notes are an
integral part of these consolidated financial statements.
Page 10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - STOCK OPTIONS
First National Lincoln Corporation (the Company) established a stock option
plan in 1995. Under the plan, the Company may grant options to its employees
for up to 200,000 shares of common stock. Only incentive stock options may be
granted under the plan. The option price of each option grant is determined by
the Options Committee of the Board of Directors, and in no instance shall be
less than the fair market value on the date of the grant. An option's maximum
term is ten years from the date of grant.
The Company applies Accounting Principles Board Opinion No.25 and related
interpretations in accounting for the stock option plan. Accordingly, no
compensation cost has been recognized. The following table illustrates the
effect on net income and earnings per share if the Company had applied the fair
value recognition provisions of Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation", to stock-based employee
compensation.
- -------------------------------------------------------------------------------
For the six months For the three months
ended June 30, ended June 30,
In thousands, except for per share data 2003 2002 2003 2002
- -------------------------------------------------------------------------------
Net income
As reported $ 3,408 3,119 $ 1,729 1,646
Value of option grants, net of tax - 60 - -
----- ----- ----- -----
Pro forma 3,408 3,059 1,729 1,646
===== ===== ===== =====
Basic earnings per share
As reported 1.41 1.30 0.71 0.69
Value of option grants, net of tax - 0.03 - -
----- ----- ----- -----
Pro forma 1.41 1.27 0.71 0.69
===== ===== ===== =====
Diluted earnings per share
As reported 1.37 1.26 0.70 0.66
Value of option grants, net of tax - 0.02 - -
----- ----- ----- -----
Pro forma 1.37 1.24 0.70 0.66
===== ===== ===== =====
- -------------------------------------------------------------------------------
No options were granted in 2003. The fair market value of options granted
in 2002, net of tax, was $60,000, with a weighted average fair market value of
options granted of $8.32. The fair market value is estimated using the Black-
Scholes option pricing model and the following assumptions: quarterly dividends
of $0.22, risk-free interest rate of 1.59%, volatility of 37.73%, and an
expected life of 10 years.
Page 11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
A summary of the status of the Company's Stock Option Plan as of June 30,
2003, and changes during the six months then ended, is presented below.
- -------------------------------------------------------------------------------
Number of Weighted Average
Shares Exercise Price
- -------------------------------------------------------------------------------
Balance at December 31, 2002 104,800 $12.88
Granted during the period 0 0
Exercised during the period (6,300) 7.07
------- ------
Balance at June 30, 2003 98,500 $13.25
======= ======
- -------------------------------------------------------------------------------
NOTE 2 - BASIS OF PRESENTATION
First National Lincoln Corporation is a financial holding company that owns all
of the common stock of The First National Bank of Damariscotta (the Bank). The
accompanying unaudited consolidated financial statements have been prepared in
accordance with U.S. generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of Management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. All significant intercompany transactions and balances are
eliminated in consolidation. The income reported for the 2003 periods is not
necessarily indicative of the results that may be expected for the year ending
December 31, 2003. For further information, refer to the consolidated financial
statements and footnotes thereto included in the Company's annual report on
Form 10-K for the year ended December 31, 2002.
Page 12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
NOTE 3 - EARNINGS PER SHARE
The following tables set forth the computation of basic and diluted earnings
per share for the six months ended June 30, 2003 and 2002:
- -----------------------------------------------------------------------------
For the six months ended June 30, 2003
- -----------------------------------------------------------------------------
In thousands, except for number of Income Shares Per-Share
shares and per share data (Numerator) (Denominator) Amount
- -----------------------------------------------------------------------------
Net income as reported $ 3,408
-------
Basic EPS: Income available
to common shareholders $ 3,408 2,420,026 $ 1.41
Effect of dilutive securities:
incentive stock options 61,790
------- --------- ------
Diluted EPS: Income available
to common shareholders plus
assumed conversions $ 3,408 2,481,816 $ 1.37
======= ========= ======
- -----------------------------------------------------------------------------
- -----------------------------------------------------------------------------
For the six months ended June 30, 2002
- -----------------------------------------------------------------------------
In thousands, except for number of Income Shares Per-Share
shares and per share data (Numerator) (Denominator) Amount
- -----------------------------------------------------------------------------
Net income as reported $ 3,119
-------
Basic EPS: Income available
to common shareholders $ 3,119 2,393,296 $ 1.30
Effect of dilutive securities:
incentive stock options 82,116
------- --------- ------
Diluted EPS: Income available
to common shareholders plus
assumed conversions $ 3,119 2,475,412 $ 1.26
======= ========= ======
- -----------------------------------------------------------------------------
Page 13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
The following tables set forth the computation of basic and diluted earnings
per share for the three months ended June 30, 2003 and 2002:
- -----------------------------------------------------------------------------
For the three months ended June 30, 2003
- -----------------------------------------------------------------------------
In thousands, except for number of Income Shares Per-Share
shares and per share data (Numerator) (Denominator) Amount
- -----------------------------------------------------------------------------
Net income as reported $ 1,729
-------
Basic EPS: Income available
to common shareholders $ 1,729 2,421,265 $ 0.71
Effect of dilutive securities:
incentive stock options 63,169
------- --------- ------
Diluted EPS: Income available
to common shareholders plus
assumed conversions $ 1,729 2,484,434 $ 0.70
======= ========= ======
- -----------------------------------------------------------------------------
- -----------------------------------------------------------------------------
For the three months ended June 30, 2002
- -----------------------------------------------------------------------------
In thousands, except for number of Income Shares Per-Share
shares and per share data (Numerator) (Denominator) Amount
- -----------------------------------------------------------------------------
Net income as reported $ 1,646
-------
Basic EPS: Income available
to common shareholders $ 1,646 2,393,213 $ 0.69
Effect of dilutive securities:
incentive stock options 85,924
------- --------- ------
Diluted EPS: Income available
to common shareholders plus
assumed conversions $ 1,646 2,479,137 $ 0.66
======= ========= ======
- -----------------------------------------------------------------------------
All earnings per share calculations have been made using the weighted
average number of shares outstanding during the period. All of the dilutive
securities are incentive stock options granted to certain key members of
Management. The dilutive number of shares has been calculated using the
treasury method, assuming that all granted options were exercisable at the end
of each period.
NOTE 4 - RECENT ACCOUNTING DEVELOPMENTS
Financial Accounting Standards Board (FASB) Interpretation Number 45
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others", an interpretation of FASB
Statements No. 5, 57, and 107 and rescission of FASB Interpretation No. 34
(FIN 45), was issued in November 2002.
Page 14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
The initial recognition and initial measurement provisions of this
Interpretation are applicable on a prospective basis to guarantees issued or
modified after December 31, 2002, irrespective of the guarantor's fiscal year-
end. The disclosure requirements in this Interpretation are effective for
financial statements of interim or annual periods ending after December 15,
2002.
Financial and standby letters of credit are included in the scope of FIN
45, while commercial letters of credit are not. A guarantor of financial and
standby letters of credit is required to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee.
This Interpretation contains disclosures to be made by a guarantor in its
interim and annual financial statements about its obligations under certain
guarantees that it has issued. This interpretation does not have a material
effect on the Company's consolidated financial statements.
In 2003, FASB issued Statement of Financial Accounting Standards (SFAS)
No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging
Activities." The Statement amends and clarifies accounting for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities under Statement 133.
The amendment requires contracts with comparable characteristics be
accounted for similarly. This Statement clarifies under what circumstances a
contract with an initial net investment meets the characteristic of a
derivative as discussed in Statement 133. In addition, it clarifies when a
derivative contains a financing component that warrants special reporting in
the statement of cash flows and amends certain other existing pronouncements.
SFAS 149 is effective for contracts entered into or modified after June
30, 2003, except as stated below and for hedging relationships designated after
June 30, 2003. The guidance should be applied prospectively.
The provisions of this Statement that relate to Statement 133
Implementation Issues that have been effective for fiscal quarters that began
prior to June 15, 2003, should continue to be applied in accordance with their
respective effective dates. In addition, certain provisions relating to forward
purchases or sales of when-issued securities or other securities that do not
yet exist, should be applied to existing contracts as well as new contracts
entered into after June 30, 2003. SFAS No. 149 does not affect the Company's
consolidated financial condition and results of operations.
In May 2003, FASB issued Statement No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity."
This Statement establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or an asset in some circumstances).
The requirements of this Statement apply to issuers' classification and
measurement of freestanding financial instruments, including those that
comprise more than one option or forward contract.
This Statement is effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003, except for mandatorily
redeemable financial instruments of nonpublic entities. It is to be implemented
by reporting the cumulative effect of a change in an accounting principle for
financial instruments created before the issuance date of the Statement and
still existing at the beginning of the interim period of adoption.
This Statement is not expected to have a material effect on the Company's
consolidated financial statements.
Page 15
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CRITICAL ACCOUNTING POLICIES
Management's discussion and analysis of the Company's financial condition is
based on the consolidated financial statements which are prepared in accordance
with accounting principles generally accepted in the United States. The
preparation of such financial statements requires Management to make estimates
and assumptions that affect the reported amounts of assets, liabilities,
revenues and expenses and related disclosure of contingent assets and
liabilities. On an ongoing basis, Management evaluates its estimates, including
those related to the allowance for loan losses. Management bases its estimates
on historical experience and on various other assumptions that are believed to
be reasonable under the circumstances, the results of which form the basis in
making judgments about the carrying values of assets that are not readily
apparent from other sources. Actual results could differ from the amount
derived from Management's estimates and assumptions under different assumptions
or conditions.
Management believes the allowance for loan losses is a critical accounting
policy that requires the most significant estimates and assumptions used in the
preparation of the consolidated financial statements. The allowance for loan
losses is based on Management's evaluation of the level of the allowance
required in relation to the estimated loss exposure in the loan portfolio.
Management believes the allowance for loan losses is a significant estimate and
therefore regularly evaluates it for adequacy by taking into consideration
factors such as prior loan loss experience, the character and size of the loan
portfolio, business and economic conditions and Management's estimation of
potential losses. The use of different estimates or assumptions could produce
different provisions for loan losses.
EARNINGS SUMMARY
Net income for the six months ended June 30, 2003 was $3,408,000, an increase
of 9.3% over net income of $3,119,000 in the comparable period of 2002.
Increased non-interest income coupled with controlled operating expenses
were the primary factors in the Company's increased earnings. While assets
grew, interest margins decreased, resulting in a decrease in net interest
income of $225,000 or 2.7% for the six-month period when compared to the first
six months of 2002. Between December 31, 2002 and June 30, 2003, the loan and
investment portfolios increased by a combined $42.1 million, which Management
views as an excellent rate of growth.
Fully diluted earnings per share for the first six months of 2003 were
$1.37, an 8.7% increase over the $1.26 reported for the first six months of
2002.
Net income for the three months ended June 30, 2003 was $1,729,000, an
increase of 5.0% over net income of $1,646,000 in the comparable period of
2002.
Increased non-interest income coupled with controlled operating expenses
were again the primary factors in the Company's increased earnings. While
assets grew, interest margins decreased, resulting in a decrease in net
interest income of $162,000 or 3.7% for the three-month period. This decrease
was more than offset by a $193,000 increase in non-interest income -- led by
income from strong mortgage origination volume.
Fully diluted earnings per share for the second quarter of 2003 were
$0.70, a 6.1% increase over the $0.66 reported for the second quarter of 2002.
Page 16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS, CONTINUED
NET INTEREST INCOME
Total interest income of $13,672,000 for the six months ended June 30, 2003 is
a 6.1% decrease from total interest income of $14,557,000 in the comparable
period of 2002. Total interest expense of $5,408,000 for the first six months
of 2003 is a 10.9% decrease from total interest expense of $6,068,000 for the
first six months of 2002. The decreases in both interest income and interest
expense were due to significantly lower interest rates resulting from current
economic conditions, despite significantly higher balances for both assets and
liabilities. At the same time, the low interest rate climate brought on by
recent Federal Reserve Board actions resulted in a high level of residential
mortgage refinance activity during the period, during which the Bank sold an
increased amount of its secondary-market-qualifying mortgage production. This,
along with above-average growth in core deposits, resulted in high levels of
liquidity, which were in turn invested in low-rate overnight deposits causing
compression of the net interest margin.
The combination of lower interest rates and sale of mortgage loans resulted
in net interest income of $8,264,000 for the six months ended June 30, 2003, a
2.7% decline from the $8,489,000 reported for the same period in 2002. This was
more than compensated for by income recognized from the sale of mortgage loans,
which was recorded in non-interest income.
Total interest income of $6,804,000 for the three months ended June 30,
2003 is an 8.1% decrease from total interest income of $7,403,000 in the
comparable period of 2002. Total interest expense of $2,640,000 for the three
months ended June 30, 2003, is a 14.2% decrease from total interest expense of
$3,077,000 for the second quarter of 2002. The decreases in both interest
income and interest expense for the second quarter of 2003 occurred for the
same reasons cited for the first six months of 2003. The combination of lower
interest rates and sale of mortgage loans resulted in net interest income of
$4,164,000 for the three months ended June 30, 2003, a 3.7% decline from the
$4,326,000 reported for the same period in 2002. This, again, was more than
compensated for by income recognized from the sale of mortgage loans, which was
recorded in non-interest income.
The Company's net interest margin on a tax-equivalent basis decreased from
4.20% in the first six months of 2002 to 3.65% in the first six months of 2003,
and from 4.16% in the second quarter of 2002 to 3.63% in the second quarter of
2003. Tax equivalency is calculated using a 35% effective tax rate.
The following table presents the effect of tax-exempt income on the
calculation of the net interest margin:
- ------------------------------------------------------------------------------
For the six months For the three months
ended June 30, ended June 30,
(in thousands) 2003 2002 2003 2002
- ------------------------------------------------------------------------------
Net interest income as presented $ 8,264 $ 8,489 $ 4,164 $ 4,326
Effect of tax-exempt income 490 336 259 170
----- ----- ----- -----
Net interest income, tax equivalent $8,754 $ 8,825 $ 4,423 $ 4,496
===== ===== ===== =====
- ------------------------------------------------------------------------------
Page 17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS, CONTINUED
PROVISION FOR LOAN LOSSES
A $450,000 provision to the allowance for loan losses was made during the first
six months of 2003, a $240,000 decrease from the $690,000 provision made for
the same period of 2002. While commercial loan growth has been substantial in
the first six months of 2003, the lower level of provision in 2003 was the
result of several factors, including lower levels of past-due loans and lower
levels of net charge-offs. The Company's net loss ratio on loans for the first
six months of 2003 was 0.04% in comparison to 0.07% for the first six months of
2002. In additon, the deterioration of one large credit due to weakness in the
commercial fishing industry led to a higher level of provision for the first
six months of 2002.
NON-INTEREST INCOME
Non-interest income was $2,433,000 for the six months ended June 30, 2003, an
increase of 25.7% from the $1,935,000 reported for the first six months of
2002. The increase in other operating income was due primarily to mortgage
origination and servicing income and higher merchant credit card processing
income. Demand for residential mortgages was strong in the first six months of
2003. The Bank sold $34.2 million of residential loans in the first six months
of 2003 compared to $13.2 million in the first six months of 2002. This
resulted in increased gains on sales of loans. In addition, the balances of
loans serviced for others increased by $13.4 million during the period.
Non-interest income was $1,210,000 for the three months ended June 30,
2003, an increase of 19.0% over the $1,017,000 reported for the three months
ended June 30, 2002. The increase in non-interest income was due primarily to
mortgage origination and servicing income. There were also increases in
merchant credit card processing income and service charge income on deposit
accounts.
NON-INTEREST EXPENSE
Non-interest expense of $5,515,000 for the six months ended June 30, 2003, is
an increase of 3.5% from non-interest expense of $5,328,000 for the first six
months of 2002. This increase has been primarily due to higher personnel costs
related to the strong asset and income growth experienced by the Company, as
well as higher health care insurance premiums. In addition, there were
increases in merchant credit card processing costs which were offset by an
increase in merchant credit card processing income. Included in 2002's other
operating expense was a $75,000 one-time expense representing the write-down of
a repossessed asset.
Non-interest expense of $2,757,000 for the three months ended June 30,
2003, is an increase of 1.8% over non-interest expense of $2,709,000 for the
three months ended June 30, 2002. This increase has been primarily due to
higher personnel costs related to the strong asset and income growth
experienced by the Company, as well as higher health care insurance premiums.
In addition, there were increases in merchant credit card processing costs
which were offset by an increase in merchant credit card processing income.
INCOME TAXES
Income taxes on operating earnings increased to $1,324,000 for the first six
months of 2003 from $1,287,000 for the same period a year ago. The increase is
in line with the increase in pre-tax income.
Page 18
AVERAGE DAILY BALANCE SHEET
The following table shows the Company's average daily balance sheets for the
six-month periods ended June 30, 2003 and 2002
- --------------------------------------------------------------------------
Six-Month Periods ended June 30,
Dollars in thousands 2003 2002
- --------------------------------------------------------------------------
Cash and due from banks $ 9,396 8,504
Overnight funds sold 9,927 604
Investments
U.S. Treasury securities & government agencies 47,437 58,209
Obligations of states & political subdivisions 27,695 20,682
Other securities 48,228 35,812
--------- ---------
Total investments 123,360 114,703
--------- ---------
Loans held for sale 2,145 1,902
--------- ---------
Loans
Commercial 128,379 106,884
Consumer 26,748 29,797
State and municipal 11,850 7,668
Real estate 181,826 163,985
--------- ---------
Total loans 348,803 308,334
Allowance for loan losses (3,804) (3,186)
--------- ---------
Net loans 344,999 305,148
--------- ---------
Bank premises and equipment, net 7,832 7,717
Other assets 10,000 9,447
--------- ---------
Total assets $ 507,659 448,025
========= =========
Deposits
Demand $ 24,115 20,844
NOW 48,233 43,369
Money market 87,441 26,206
Savings 60,808 48,941
Certificates of deposit 69,615 79,791
Certificates of deposit over $100,000 51,412 55,366
--------- ---------
Total deposits 341,624 274,517
--------- ---------
Borrowed funds 117,912 132,109
Other liabilities 4,306 3,181
--------- ---------
Total liabilities 463,842 409,807
--------- ---------
Common stock 25 25
Additional paid in capital 4,687 4,687
Retained earnings 39,307 34,958
Net unrealized gain on
securities available for sale 2,254 721
Treasury stock (2,456) (2,173)
--------- ---------
Total capital 43,817 38,218
--------- ---------
Total liabilities and capital $ 507,659 448,025
========= =========
Page 19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS, CONTINUED
INVESTMENTS
The Company's investment portfolio increased by $6.2 million or 5.1% between
December 31, 2002, and June 30, 2003. A portion of the portfolio consists of
callable securities, some of which were called by issuers and replaced at lower
yields. At June 30, 2003, the Company's available-for-sale portfolio had an
unrealized gain, net of taxes, of $2.9 million, which is in line with the
interest rate climate seen in the first six months of 2003.
LOANS
Loans grew by $35.8 million or 10.8% during the first six months of 2003. The
growth in commercial loans was $17.4 million or 14.6% and municipal loans
increased $2.3 million or 24.6%. The residential mortgage portfolio increased
by $6.0 million or 4.2% and home equity lines of credit grew $12.0 million or
39.0% -- the result of competitive product pricing and marketing.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses represents the amount available for credit losses
inherent in the Company's loan portfolio. Loans are charged off when they are
deemed uncollectible, after giving consideration to factors such as the
customer's financial condition, underlying collateral and guarantees, as well
as general and industry economic conditions.
In general, the Company determines the appropriate overall reserve for
loan losses based upon periodic, systematic reviews of its portfolio to
identify inherent losses and Management's judgment about various qualitative
factors. These reviews result in the identification and quantification of loss
factors, which are used in determining the amount of the allowance for loan
losses. The Company periodically evaluates prevailing economic and business
conditions, industry concentrations, changes in the size and characteristics of
the portfolio and other pertinent factors. Portions of the allowance for loan
losses are quantified to cover the estimated losses inherent in each loan
category based on the results of this detailed review process.
Commercial loans are individually reviewed and assigned a credit risk
rating from "1" (low risk of loss) to "8" (high risk of loss). For non-impaired
loans with a credit risk rating of "1" to "7", estimated loss factors based on
historical loss experience (ranging from two to five years) are used to
calculate a loan loss reserve for each credit risk rating classification.
Qualitative adjustments are also made based upon Management's assessment of
prevailing economic conditions, trends in volumes and terms of loans, levels
and trends in delinquencies and non-accruals, and the effect of changes in
lending policies. A specific allocation is made for impaired loans (loans on
non-accrual status, as well as loans with a credit risk rating of "8"), which
are measured at the net present value of future cash flows, discounted at the
loan's effective interest rate, or at fair market value of collateral if the
loan is collateral dependent. The combination of these analyses is the basis
for the determination of the commercial loan portion of the allowance for loan
losses.
Consumer loans, which include credit cards, residential mortgages, home
equity loans/lines, and direct/indirect loans, are generally evaluated as a
group based on product type. The determination of the consumer loan portion of
the allowance for loan losses is based on a five-year average of annual
historical losses, adjusted for the qualitative factors noted above.
Page 20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS, CONTINUED
The results of all analyses are reviewed and discussed by the Directors'
Loan Committee. An integral component of the Company's risk management process
is to ensure the proper quantification of the reserve for loan losses based
upon an analysis of risk characteristics, demonstrated losses, loan
segmentations, and other factors. Reserve methodology is reviewed on a periodic
basis and modified as appropriate. The unallocated component of the allowance
for loan losses represents Management's view that, given the complexities of
the loan portfolio, there are estimable losses that have been incurred within
the portfolio but not yet specifically identified.
Based on this analysis, including the aforementioned assumptions, the
Company believes that the allowance for loan losses is adequate as of June 30,
2003. As of that date, the balance of $3,987,000 was 1.08% of total loans,
compared to 1.11% at December 31, 2002 and 1.07% at June 30, 2002. Loans
considered to be impaired according to SFAS 114/118 totalled $1,109,000 at June
30, 2003, compared to $1,070,000 at December 31, 2002. The portion of the
allowance for loan losses allocated to impaired loans at June 30, 2003, was
$239,000 compared to $297,000 at December 31, 2002.
DEPOSITS
During the first six months of 2003, deposits increased by $24.8 million or
7.4% over December 31, 2002. Core deposits (demand, NOW, savings and money
market accounts) grew by $15.5 million or 7.3% in the first six months of 2003.
During the same period, certificates of deposit increased $9.3 million as a
result of restructuring the liability side of the Company's balance sheets.
As of June 30, 2003, deposits grew year-over-year by 16.5%, or $50.7
million. Demand deposits grew $2.9 million, NOW accounts $6.2 million, savings
$13.7 million, money market accounts $24.6 million and certificates of deposit
by $3.3 million. The increase in deposit balances is the result of generating
addition deposit funding in the Bank's primary market area.
BORROWED FUNDS
The Company's funding includes borrowings from the Federal Home Loan Bank, the
Federal Reserve Bank of Boston, and repurchase agreements. The Company utilizes
borrowings as an additional source of funding for both loans and investments,
enabling it to grow its balance sheet and, in turn, grow its revenues. They may
also be used to carry out interest rate risk management stategies, and are
increased as other sources of funding decrease, including core deposits and
certificates of deposit. During the six months ended June 30, 2003, borrowed
funds increased by $8.6 million or 7.6% from December 31, 2002.
Between June 30, 2002 and June 30, 2003, core deposits grew substantially,
meeting the Bank's liquidity needs created by the growth in the loan and
investment portfolios. Borrowed funds decreased $4.8 million or 3.8% during
this period.
Page 21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS, CONTINUED
SHAREHOLDERS' EQUITY AND CAPITAL RESOURCES
Shareholders' equity as of June 30, 2003 was $45,602,000, compared to
$42,695,000 as of December 31, 2002. The Company's strong earnings performance
in the first six months months of 2003 provided a significant addition to
retained earnings and was accompanied by an increase in the net unrealized gain
on available-for-sale securities, as required under SFAS 115.
During 2002, the Company increased its dividend each quarter to end the
year at a quarterly dividend rate of 26 cents per share. In 2003, a cash
dividend of 27 cents per share was declared in the first quarter of 2003
compared to 23 cents in the first quarter of 2002 and a cash dividend of 28
cents per share was declared in the second quarter of 2003 compared to 24 cents
in the second quarter of 2002.
Regulatory leverage capital ratios for the Company were 8.31% and 8.19% at
June 30, 2003 and December 31, 2002, respectively. The Company had a tier one
risk-based capital ratio of 11.64% and tier two risk-based capital ratio of
12.73% at June 30, 2003, compared to 12.32% and 13.45%, respectively, at
December 31, 2002. These are comfortably above the standards to be rated "well-
capitalized" by regulatory authorities -- qualifying the Company for lower
deposit-insurance premiums.
On September 23, 2002, the Company announced that its Board of Directors
authorized the repurchase of up to 5.0% of the outstanding shares of the
Company's common stock, or slightly more than 120,000 shares. The Company
expects such repurchases to be effected from time to time, in the open market,
in private transactions or otherwise, during a period of up to 24 months. The
amount and timing of shares to be purchased will be subject to market
conditions and will be based on several factors, including the price of the
Company's stock and the level of stock issuances under the Company's employee
stock plans. No assurance can be given as to the specific timing of the share
repurchases or as to whether and to what extent the share repurchase will be
consummated. In Management's opinion, the Company has adequate capital
resources to undertake this repurchase plan. As of June 30, 2003, the Company
had repurchased 26,069 shares under the 2002 repurchase plan - including 21,054
shares in the fourth quarter of 2002 and 5,014 shares in the first two quarters
of 2003.
CONTRACTUAL OBLIGATIONS
The following table sets forth the contractual obligations of the Company as of
June 30, 2003:
- -------------------------------------------------------------------------------
Less than 1-3 4-5 More than
Dollars in thousands Total 1 Year Years Years 5 Years
- -------------------------------------------------------------------------------
Borrowed funds $ 121,933 45,433 37,000 12,000 27,500
Operating leases 283 79 128 76 -
Certificates of deposit 130,689 64,921 54,739 11,029 -
------- ------- ------ ------ ------
Total $ 252,905 110,433 91,867 23,105 27,500
======= ======= ====== ====== ======
Commitments to extend
credit and
unused lines of credit $ 63,882 63,882 - - -
- -------------------------------------------------------------------------------
Page 22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS, CONTINUED
LIQUIDITY MANAGEMENT
As of June 30, 2003 the Bank had primary sources of liquidity of $37.4 million
and an additional $119.8 million of secondary sources. It is Management's
opinion that this is adequate. In its Asset/Liability policy, the Bank has
adopted guidelines for liquidity. The Company is not aware of any
recommendations by the regulatory authorities which, if they were to be
implemented, would have a material effect on the Corporation's liquidity,
capital resources or results of operations.
NON-PERFORMING ASSETS
At June 30, 2003, loans on non-accrual status totaled $1,109,000, which
compares to non-accrual loans of $1,070,000 as of December 31, 2002. In
addition to loans on non-accrual status at June 30, 2003, loans past due 90
days or more and accruing (calculated on a constant 30-day month basis) totaled
$139,000, which compares to $406,000 as of December 31, 2002. The Company
continues to accrue interest on these loans because it believes collection of
the interest is reasonably assured.
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
No material off-balance sheet risk exists that requires a separate liability
presentation.
SALE OF LOANS
No recourse obligations have been incurred in connection with the sale of
loans.
FORWARD-LOOKING STATEMENTS
Certain disclosures in Management's Discussion and Analysis of Financial
Condition and Results of Operations contain certain forward-looking statements
(as defined in the Private Securities Litigation Reform Act of 1995). In
preparing these disclosures, Management must make assumptions, including, but
not limited to, the level of future interest rates, prepayments on loans and
investment securities, required levels of capital, needs for liquidity, and the
adequacy of the allowance for loan losses. These forward-looking statements may
be subject to significant known and unknown risks uncertainties, and other
factors, including, but not limited to, those matters referred to in the
preceding sentence.
Although First National Lincoln Corporation believes that the expectations
reflected in such forward-looking statements are reasonable, actual results may
differ materially from the results discussed in these forward-looking
statements. Readers are cautioned not to place undue reliance on these forward
looking statements, which speak only as of the date hereof. The Company
undertakes no obligation to republish revised forward-looking statements to
reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events. Readers are also urged to carefully review
and consider the various disclosures made by the Company which attempt to
advise interested parties of the facts which affect the Company's business.
Page 23
Item 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK MANAGEMENT
Market risk is the risk of loss arising from adverse changes in the fair value
of financial instruments due to changes in interest rates. First National
Lincoln Corporation's market risk is composed primarily of interest rate risk.
The Bank's Asset/Liability Committee (ALCO) is responsible for reviewing the
interest rate sensitivity position of the Company and establishing policies to
monitor and limit exposure to interest rate risk. All guidelines and policies
established by ALCO have been approved by the Board of Directors.
ASSET/LIABILITY MANAGEMENT
The primary goal of asset/liability management is to maximize net interest
income within the interest rate risk limits set by ALCO. Interest rate risk is
monitored through the use of two complementary measures: static gap analysis
and earnings simulation modeling. While each measurement has limitations, taken
together they represent a reasonably comprehensive view of the magnitude of
interest rate risk in the Company, the level of risk through time, and the
amount of exposure to changes in certain interest rate relationships.
Static gap analysis measures the amount of repricing risk embedded in the
balance sheet at a point in time. It does so by comparing the differences in
the repricing characteristics of assets and liabilities. A gap is defined as
the difference between the principal amount of assets and liabilities which
reprice within a specified time period. The Bank's cumulative one-year gap, at
June 30, 2003, was 10.2% of total assets. ALCO's policy limit for the one-year
gap is plus or minus 20% of total assets. Core deposits with non-contractual
maturities are presented based upon historical patterns of balance attrition
and pricing behavior which are reviewed at least annually.
The gap repricing distributions include principal cash flows from
residential mortgage loans and mortgage-backed securities in the time frames in
which they are expected to be received. Mortgage prepayments are estimated by
applying industry median projections of prepayment speeds to portfolio segments
based on coupon range and loan age.
Page 24
MARKET RISK MANAGEMENT, CONTINUED
A summary of the Bank's static gap, as of June 30, 2003, is presented in the
following table:
- -------------------------------------------------------------------------------
0-90 91-365 1-5 5+
Dollars in thousands days days years years
- -------------------------------------------------------------------------------
Investment securities at
amortized cost $ 16,718 27,111 47,168 36,473
Loans held for sale 10 45 373 734
Loans 139,181 70,762 128,240 29,732
Other interest-earning assets 6,100 4,570 - -
Non-rate-sensitive assets - - - 22,592
-------- -------- -------- --------
Total assets $ 162,009 102,488 175,781 89,531
-------- -------- -------- --------
Interest-bearing deposits 123,121 38,874 65,768 104,212
Borrowed funds 34,430 11,003 49,000 27,500
Non-rate-sensitive
liabilities and equity 700 2,250 13,475 59,476
-------- -------- -------- --------
Total liabilities and equity $ 158,251 52,127 128,243 191,188
-------- -------- -------- --------
Period gap $ 3,758 50,361 47,538 (101,657)
========= ======== ======== ========
Percent of total assets 0.71% 9.51% 8.97% -19.19%
Cumulative gap (current) $ 3,758 54,119 101,657 -
Percent of total assets 0.71% 10.21% 19.19% 0.0%
- -------------------------------------------------------------------------------
The earnings simulation model forecasts captures the impact of changing
interest rates on one-year and two-year net interest income. The modeling
process calculates changes in interest income received and interest expense
paid on all interest-earning assets and interest-bearing liabilities reflected
on the Company's balance sheet. None of the assets used in the simulation are
held for trading purposes. The modeling is done for a variety of scenarios that
incorporate changes in the absolute level of interest rates as well as basis
risk, as represented by changes in the shape of the yield curve and changes in
interest rate relationships. Management evaluates the effects on income of
alternative interest rate scenarios against earnings in a stable interest rate
environment. This analysis is also most useful in determining the short-run
earnings exposures to changes in customer behavior involving loan payments and
deposit additions and withdrawals.
The Bank's most recent simulation model projects net interest income would
decrease by approximately 0.18% of stable-rate net interest income if rates
fall gradually by one percentage point over the next year, and increase by
approximately 0.37% if rates rise gradually by two percentage points. Both
scenarios are well within ALCO's policy limit of a decrease in net interest
income of no more than 10.0% given a 2.0% move in interest rates, up or down.
Management believes this reflects a reasonable interest rate risk position. In
year two, and assuming no additional movement in rates, the model forecasts
that net interest income would be lower than that earned in a stable rate
environment by 1.46% in a falling-rate scenario and decrease by 0.90% in a
rising rate scenario when compared to the year one base scenario.
Page 25
MARKET RISK MANAGEMENT, CONTINUED
This dynamic simulation model includes assumptions about how the balance
sheet is likely to evolve through time and in different interest rate
environments. Loans and deposits are projected to maintain stable balances. All
maturities, calls and prepayments in the securities portfolio are assumed to be
reinvested in similar assets. Mortgage loan prepayment assumptions are
developed from industry median estimates of prepayment speeds for portfolios
with similar coupon ranges and seasoning. Non-contractual deposit volatility
and pricing are assumed to follow historical patterns. The sensitivities of key
assumptions are analyzed annually and reviewed by ALCO.
A summary of the Bank's interest rate risk simulation modeling, as of June
30, 2003 is presented in the following table:
- -------------------------------------------------------------
Changes in Net Interest Income 2003
- -------------------------------------------------------------
Year 1
Projected change if rates decrease by 1.0% -0.18%
Projected change if rates increase by 2.0% +0.37%
- -------------------------------------------------------------
Year 2
Projected change if rates decrease by 1.0% -1.46%
Projected change if rates increase by 2.0% -0.90%
- -------------------------------------------------------------
The information for static gap and changes in net interest income
presented in this section pertains to the Bank only and does not include a
small volume of assets and liabilities owned by the Company and included in its
consolidated financial statements as of June 30, 2003. In Management's opinion,
the Bank-only information would not be materially different than that for the
Company's consolidated balances. This sensitivity analysis 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, among others, the nature and timing of interest rate
levels, yield curve shape, prepayments on loans and securities, deposit decay
rates, pricing decisions on loans and deposits, and reinvestment/ replacement
of asset and liability cash flows. 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.
INTEREST RATE RISK MANAGEMENT
A variety of financial instruments can be used to manage interest rate
sensitivity. These may include investment securities, interest rate swaps, and
interest rate caps and floors. Frequently called interest rate derivatives,
interest rate swaps, caps and floors have characteristics similar to securities
but possess the advantages of customization of the risk-reward profile of the
instrument, minimization of balance sheet leverage and improvement of
liquidity. As of June 30, 2003, the Company was not using any derivative
instruments for interest rate risk management.
The Company engages an independent consultant to periodically review its
interest rate risk position, as well as the effectiveness of simulation
modeling and reasonableness of assumptions used. As of June 30, 2003, there
were no significant differences between the views of the independent consultant
and Management regarding the Company's interest rate risk exposure. Management
expects interest rates may rise in the second half of 2003 and believes that
the current level of interest rate risk is acceptable.
Page 26
Item 4: Controls and Procedures
(a) Evaluation of disclosure controls and procedures.
As required by new Rule 13a-15 under the Securities Exchange Act of 1934, as of
the end of the period covered by this report, the Company carried out an
evaluation under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures. Based upon that evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective to ensure that information
required to be disclosed by the Company in the reports it files or submits
under the Exchange Act is recorded, processed, summarized and reported, within
the time periods specified in the Securities and Exchange Commission's rules
and forms. In connection with the new rules, the Company is currently in the
process of further reviewing and documenting disclosure controls and
procedures, including internal controls and procedures for financial reporting,
and may from time to time make changes aimed at enhancing their effectiveness
and to ensure that these systems evolve with the Company's business.
(b) Changes in internal controls.
None.
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PART II
ITEM 1. LEGAL PROCEEDINGS
The Company was not involved in any legal proceedings requiring disclosure
under Item 103 of Regulation S-K during the reporting period.
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ITEM 2. CHANGES IN SECURITIES
None
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ITEM 3. DEFAULT UPON SENIOR SECURITIES
None.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Two proposals were submitted to a vote of security holders at the
Company's Annual Meeting of Shareholders, held on Tuesday, April 29, 2003, at
11:00 a.m. Eastern Daylight Time. Only shareholders of record as of the close
of business on March 10, 2003 (the "Voting Record Date") were entitled to vote
at the Annual Meeting. On the Voting Record Date, there were 2,419,762 shares
of Common Stock of the Company, one cent par value, issued and outstanding, and
the Company had no other class of equity securities outstanding. Each share of
Common Stock was entitled to one vote at the Annual Meeting on all matters
properly presented thereat.
PROPOSAL 1: To ratify the Board of Directors' vote to fix the number of
Directors at ten.
The Articles of Incorporation of the Company provide that the Board of
Directors shall consist of not fewer than five nor more than twenty-five
persons as determined by the Board prior to each Annual Meeting, with Directors
serving for "staggered terms" of three years. A resolution of the Board of
Directors adopted pursuant to the Company's Articles of Incorporation has
established the number of Directors at ten.
The results of the shareholder voting had 2,211,208 shares in favor, 2,621
shares against, 14,738 shares withheld voting, and 191,195 shares not voting.
PROPOSAL 2: Election of Directors
The following are nominees for three-year terms as Director Expiring in 2006:
Daniel R. Daigneault has served as President, Chief Executive Officer and
as a member of the Board of Directors of both the Company and The First
National Bank of Damariscotta (the "Bank"), the Company's wholly owned
subsidiary, since 1994. Prior to being employed by the Bank, Mr. Daigneault was
Vice President, Senior Commercial Loan Officer and Chief Financial Officer at
Camden National Bank, Camden, Maine. Mr. Daigneault is past Chairman of the
Maine Bankers Association and past President of the Boothbay Region YMCA Board
of Trustees.
Dana L. Dow has served as a Director of the Company and the Bank since
1999. Mr. Dow is President of Dow Furniture, located in Waldoboro, Maine, which
he purchased from his father in 1977 and Dow's Fine Furniture located in
Rockland, Maine. Prior to purchasing Dow Furniture, Mr. Dow taught chemistry
and physics at Medomak Valley High School.
Robert B. Gregory has served as a Director of the Company and the Bank
since 1987 and has served as Chairman of both the Company and the Bank since
September 1998. Mr. Gregory has been a practicing attorney since 1980, first in
Lewiston, Maine and since 1983 in Damariscotta, Maine.
The results of the shareholder voting had 2,188,251 shares in favor,
31,597 shares against, 8,719 withheld voting, and 191,195 shares not voting.
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ITEM 5: OTHER INFORMATION
None.
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ITEM 6: EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
A. EXHIBITS
14.1 CODE OF ETHICS FOR SENIOR FINANCIAL OFFICERS UNDER
SECTION 406 OF THE SARBANES-OXLEY ACT OF 2002
31.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER UNDER
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 REGARDING
THE QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2003
31.2 CERTIFICATION OF CHIEF fINANCIAL OFFICER UNDER
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 REGARDING
THE QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2003
32.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER UNDER
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 REGARDING
THE QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2003
32.2 CERTIFICATION OF CHIEF FINANCIAL OFFICER UNDER
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 REGARDING
THE QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2003
B. REPORTS ON FORM 8-K
The Company's press release announcing the first quarter 2003 earnings was
filed on Form 8-K under item 5 on April 15, 2003.
The Company's press release announcing the second quarter 2003 dividend
declaration was filed on Form 8-K under item 5 on June 19, 2003.
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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.
FIRST NATIONAL LINCOLN CORPORATION
August 14, 2003 /s/ Daniel R. Daigneault
Date Daniel R. Daigneault
President & Chief Executive Officer
August 14, 2003 /s/ F. Stephen Ward
Date F. Stephen Ward
Treasurer & Chief Financial Officer
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