FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Quarterly Period Ended September 30, 1999
Commission File Number 000-19235
SUMMIT FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
SOUTH CAROLINA 57-0892056
(State or other jurisdiction (I.R.S. Employer
of incorporation or Identification No.)
organization)
Post Office Box 1087
937 North Pleasantburg Drive
Greenville, South Carolina 29602
(Address, including zip code, of principal executive offices)
(864) 242-2265
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. 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.
As of October 20, 1999, 3,055,704 shares of $1.00 par value common stock were
outstanding.
SUMMIT FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
September 30, December 31,
1999 1998
--------------- --------------
(Unaudited)
ASSETS
Cash and due from banks $ 4,774 $ 5,377
Interest-bearing bank balances 3,434 623
Federal funds sold 3,030 400
Investments available for sale 24,961 27,102
Loans, net of unearned income and net of
allowance for loan losses of $2,065 and $1,827 142,187 128,842
Premises and equipment, net 2,984 3,101
Accrued interest receivable 1,170 1,132
Other assets 4,271 3,908
--------------- --------------
$ 186,811 $ 170,485
=============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Noninterest-bearing demand $ 15,747 $ 20,877
Interest-bearing demand 10,499 8,541
Savings and money market 63,412 50,047
Time deposits, $100,000 and over 19,838 17,801
Other time deposits 48,636 42,977
--------------- --------------
158,132 140,243
Federal funds purchased and repurchase agreements - 3,566
Other short-term borrowings 500 820
FHLB advances 9,000 8,000
Accrued interest payable 954 1,052
Other liabilities 1,359 1,130
--------------- --------------
169,945 154,811
--------------- --------------
Shareholders' equity:
Common stock, $1.00 par value; 20,000,000
shares authorized; issued and
outstanding 3,055,704 and 3,038,706 shares 3,056 3,039
Additional paid-in capital 12,779 12,726
Retained earnings 1,766 -
Accumulated other comprehensive (loss)
income, net of tax (407) 313
Nonvested resticted stock (328) (404)
--------------- --------------
Total shareholders' equity 16,866 15,674
--------------- --------------
$ 186,811 $ 170,485
=============== ==============
<FN>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SUMMIT FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars, except per share data, in Thousands)
(Unaudited)
For the Three Months Ended For the Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
----------- ----------- ----------- -----------
Interest Income:
Loans $ 3,531 $ 3,102 $ 10,014 $ 9,134
Taxable investment securities 231 270 700 906
Nontaxable investment securities 124 108 370 289
Federal funds sold 54 161 66 351
Other 51 50 96 148
----------- ----------- ----------- -----------
3,991 3,691 11,246 10,828
----------- ----------- ----------- -----------
Interest Expense:
Deposits 1,607 1,632 4,432 4,906
Other 130 115 409 259
----------- ----------- ----------- -----------
1,737 1,747 4,841 5,165
----------- ----------- ----------- -----------
Net interest income 2,254 1,944 6,405 5,663
Provision for loan losses (108) (40) (318) (141)
----------- ----------- ----------- -----------
Net interest income after
provision for loan losses 2,146 1,904 6,087 5,522
----------- ----------- ----------- -----------
Noninterest Income:
Service charges and fees on deposit accounts 52 62 158 160
Credit card service fees and income 84 70 243 223
Gain on sale of securities - - 22 1
Insurance commission fee income 64 58 186 239
Other income 169 149 544 483
----------- ----------- ----------- -----------
369 339 1,153 1,106
----------- ----------- ----------- -----------
Noninterest Expenses:
Salaries, wages and benefits 879 773 2,573 2,417
Occupancy 150 119 437 339
Furniture and equipment 176 140 487 414
Other expenses 456 427 1,277 1,299
----------- ----------- ----------- -----------
1,661 1,459 4,774 4,469
----------- ----------- ----------- -----------
Income before income taxes 854 784 2,466 2,159
Income taxes (237) (284) (700) (789)
----------- ----------- ----------- -----------
Net income $ 617 $ 500 $ 1,766 $ 1,370
=========== =========== =========== ===========
Net income per common share:
Basic $ .20 $ .16 $ .58 $ .45
Diluted $ .17 $ .14 $ .50 $ .38
Average common shares outstanding:
Basic 3,051,000 3,032,000 3,048,000 3,029,000
Diluted 3,545,000 3,607,000 3,563,000 3,587,000
<FN>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SUMMIT FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(Dollars in Thousands)
(Unaudited)
Accumulated
other
Additional comprehensive Nonvested
Common paid-in Retained (loss) restricted
stock capital earnings income, net stock
------------ -------------- ---------- ------------- -----------
Balance at December 31, 1997 $ 3,022 $ 10,762 - $ 90 ($505)
Net income for the nine months
ended September 30, 1998 - - 1,370 - -
Other comprehensive income:
Unrealized holding gains on securities
arising during the period, net of
tax of $105 - - - 208 -
Comprehensive income - - - - -
Employee stock options exercised 11 41 - - -
Amortization of deferred
compensation on restricted stock - - - - 76
------------ -------------- ---------- ------------- -----------
Balance at September 30, 1998 $ 3,033 $ 10,803 $ 1,370 $ 298 ($429)
============ ============== ========== ============= ===========
Balance at December 31, 1998 $ 3,039 $ 12,726 - $ 313 ($404)
Net income for the nine months
ended September 30, 1999 - - 1,766 - -
Other comprehensive income:
Unrealized gain on securities:
Unrealized holding losses arising during
the period, net of tax of ($441) - - - (704) -
Less: reclassification adjustment for gains
included in net income, net of tax of $6 - - - (16) -
-------------
Other comprehensive loss - - - (720) -
-------------
Comprehensive income - - - - -
Employee stock options exercised 17 53 - - -
Amortization of deferred
compensation on restricted stock - - - - 76
------------ -------------- ---------- ------------- -----------
Balance at September 30, 1999 $ 3,056 $ 12,779 $ 1,766 ($407) ($328)
============ ============== ========== ============= ===========
Total
shareholders'
equity
---------------
Balance at December 31, 1997 $ 13,369
Net income for the nine months
ended September 30, 1998 1,370
Other comprehensive income:
Unrealized holding gains on securities
arising during the period, net of
tax of $105 208
---------------
Comprehensive income 1,578
---------------
Employee stock options exercised 52
Amortization of deferred
compensation on restricted stock 76
---------------
Balance at September 30, 1998 $ 15,075
===============
Balance at December 31, 1998 $ 15,674
Net income for the nine months
ended September 30, 1999 1,766
Other comprehensive income:
Unrealized gain on securities:
Unrealized holding losses arising during
the period, net of tax of ($441) -
Less: reclassification adjustment for gains
included in net income, net of tax of $6 -
Other comprehensive loss (720)
---------------
Comprehensive income 1,046
---------------
Employee stock options exercised 70
Amortization of deferred
compensation on restricted stock 76
---------------
Balance at September 30, 1999 $ 16,866
===============
<FN>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SUMMIT FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
(Unaudited)
For the Nine Months Ended
September 30,
-------------
1999 1998
--------- --------
Cash flows from operating activities:
Net income $ 1,766 $ 1,370
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 318 141
Depreciation and amortization 387 325
Gain on sale of equipment and vehicles (26) -
Gain on sale securities available for sale (22) (1)
Net amortization of net premium on investments 62 26
Amortization of deferred compensation on restricted stock 76 76
(Increase) decrease in other assets (255) 143
Increase (decrease) in other liabilities 572 (107)
--------- --------
Net cash provided by operating activities 2,878 1,973
--------- --------
Cash flows from investing activities:
Purchases of securities available for sale (3,889) (9,524)
Proceeds from maturities of securities available for sale 3,808 8,817
Proceeds from sales of securities available for sale 1,021 951
Purchases of investments in FHLB and other stock (146) (84)
Purchases of company-owned life insurance - (1,725)
Net increase in loans (13,662) (2,644)
Purchases of premises and equipment (294) (801)
Proceeds from sale of equipment and vehicles 49 -
--------- --------
Net cash used in investing activities (13,113) (5,010)
--------- --------
Cash flows from financing activities:
Net increase in deposit accounts 17,889 1,688
Net decrease in federal funds purchased (3,566) 33
Repayment of other short-term borrowings (320) -
Proceeds from FHLB advances 10,550 6,500
Repayments of FHLB advances (9,550) (2,500)
Proceeds from employee stock options exercised 70 52
--------- --------
Net cash provided by financing activities 15,073 5,773
--------- --------
Net increase in cash and cash equivalents 4,838 2,736
Cash and cash equivalents, beginning of period 6,400 9,361
--------- --------
Cash and cash equivalents, end of period $ 11,238 $12,097
========= ========
SUPPLEMENTAL INFORMATION:
Cash paid during the period for interest $ 4,938 $ 5,497
Cash paid during the period for income taxes $ 800 $ 595
Change in fair market value of investment securities
available for sale, net of income taxes ($720) $ 208
<FN>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SUMMIT FINANCIAL CORPORATION
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1999
NOTE 1 - BASIS OF PRESENTATION:
Summit Financial Corporation (the Company), a South Carolina corporation,
is the parent holding company for Summit National Bank (the Bank), a nationally
chartered bank, and Freedom Finance, Inc. (the Finance Company), a consumer
finance company.
Through its bank subsidiary, which commenced operations in July 1990, the
Company provides a full range of banking services, including the taking of
demand and time deposits and the making of commercial and consumer loans. The
Bank currently has three full service branch locations in Greenville, South
Carolina. In 1997, the Bank incorporated Summit Investment Services, Inc. as a
wholly-owned subsidiary to offer nondeposit products and financial management
services. The Finance Company commenced operations in November 1994 and makes
and services small installment loans to individuals from its eleven offices
throughout South Carolina.
The accompanying consolidated financial statements include the accounts of
the Company and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation. The unaudited consolidated
financial statements of the Company at September 30, 1999 and for the three and
nine month periods ended September 30, 1999 and 1998 were prepared in accordance
with the instructions for Form 10-Q. In the opinion of management, all
adjustments (consisting only of items of a normal recurring nature) necessary
for a fair presentation of the financial position at September 30, 1999, and the
results of operations and cash flows for the periods ended September 30, 1999
and 1998 have been included. The results for the three or nine month period
ended September 30, 1999 are not necessarily indicative of the results that may
be expected for the full year or any other interim period.
The consolidated financial statements are prepared in conformity with
generally accepted accounting principles ("GAAP") which requires management to
make estimates and assumptions. These estimates and assumptions affect the
reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements. In addition,
the estimates affect the reported income and expense during the reporting
period. Actual results could differ from these estimates and assumptions.
These consolidated financial statements do not include all disclosures
required by generally accepted accounting principles and should be read in
conjunction with the Company's audited consolidated financial statements and
related notes for the year ended December 31, 1998 included in the Company's
1998 Annual Report on Form 10-K.
NOTE 2 - CASH FLOW INFORMATION:
For the purposes of reporting cash flows, cash includes currency and
coin, cash items in process of collection and due from banks. Included in cash
and cash equivalents are federal funds sold and overnight investments. The
Company considers the amounts included in the balance sheet line items, "Cash
and due from banks", "Interest-bearing bank balances" and "Federal funds sold"
to be cash and cash equivalents. These accounts totaled $11,238,000 and
$12,097,000 at September 30, 1999 and 1998, respectively.
NOTE 3 - PER SHARE INFORMATION:
The following is a reconciliation of the denominators of the basic and
diluted per share computations for net income for the three and the nine months
ended September 30, 1999 and 1998. There is no required reconciliation of the
numerator from the net income reported on the accompanying statements of income.
All average share and per share data have been restated to reflect all stock
distributions and the 1998 two-for-one stock split as of the earliest period
presented. (Dollars, except per share data, in thousands).
For the Three Months Ended September 30,
1999 1999 1998 1998
---------- ---------- ---------- ----------
BASIC DILUTED BASIC DILUTED
---------- ---------- ---------- ----------
Net Income $ 617 $ 617 $ 500 $ 500
---------- ---------- ---------- ----------
Weighted average shares
outstanding 3,051,590 3,051,590 3,032,333 3,032,333
Effective of Dilutive Securities:
Stock options and restricted stock - 493,009 - 574,106
---------- ---------- ---------- ----------
3,051,590 3,544,599 3,032,333 3,606,439
---------- ---------- ---------- ----------
Per-share amount $ 0.20 $ 0.17 $ 0.16 $ 0.14
========== ========== ========== ==========
For the Nine Months Ended September 30,
1999 1999 1998 1998
---------- ---------- ---------- ----------
BASIC DILUTED BASIC DILUTED
--------- ---------- ---------- ----------
Net Income $ 1,766 $ 1,766 $ 1,370 $ 1,370
---------- ---------- ---------- ----------
Weighted average shares
outstanding 3,048,020 3,048,020 3,028,510 3,028,510
Effective of Dilutive Securities:
Stock options and restricted stock - 515,128 - 558,009
---------- ---------- ---------- ----------
3,048,020 3,563,148 3,028,510 3,586,519
---------- ---------- ---------- ----------
Per-share amount $ 0.58 $ 0.50 $ 0.45 $ 0.38
========== ========== ========== ==========
NOTE 4 - SEGMENT INFORMATION:
The Company reports information about its operating segments in accordance
with SFAS 131, "Disclosures about Segments of an Enterprise and Related
Information". Summit Financial Corporation is the parent holding company for
Summit National Bank ("Bank"), a nationally chartered bank, and Freedom Finance,
Inc. ("Finance"), a consumer finance company. The Company considers the Bank
and the Finance Company separate business segments which are evaluated regularly
by the chief operating decision maker in deciding how to allocate resources and
assess performance.
Financial performance for each segment is detailed in the following tables.
Included in the "Corporate" column are amounts for general corporate activities
and eliminations of intersegment transactions.
For the quarter ended At and for the nine months ended
September 30, 1999 September 30, 1999
Bank Finance Corporate TOTAL Bank Finance Corporate TOTAL
--------- --------- ----------- --------- -------- --------- ----------- --------
Interest income $ 3,598 $ 420 ($27) $ 3,991 $10,047 $ 1,271 ($72) $11,246
Interest expense (1,729) (73) 65 (1,737) (4,815) (208) 182 (4,841)
--------- --------- ----------- --------- -------- --------- ----------- --------
Net interest income 1,869 347 38 2,254 5,232 1,063 110 6,405
Provision for loan losses (60) (48) - (108) (200) (118) - (318)
Other income 296 85 (12) 369 938 251 (36) 1,153
Other expenses (1,273) (386) (2) (1,661) (3,641) (1,126) (7) (4,774)
--------- --------- ----------- --------- -------- --------- ----------- --------
Income before taxes 832 (2) 24 854 2,329 70 67 2,466
Income taxes (234) 7 (10) (237) (660) (18) (22) (700)
--------- --------- ----------- --------- -------- --------- ----------- --------
Net income $ 598 $ 5 $ 14 $ 617 $ 1,669 $ 52 $ 45 $ 1,766
========= ========= =========== ========= ======== ========= =========== ========
Net loans $140,710 $ 2,761 ($1,284) $142,187
========= ========= =========== =========
Total assets $184,545 $ 3,593 ($1,327) $186,811
========= ========= =========== =========
For the quarter ended At and for the nine months ended
September 30, 1998 September 30, 1998
Bank Finance Corporate TOTAL Bank Finance Corporate TOTAL
--------- --------- ----------- --------- -------- --------- ----------- --------
Interest income $ 3,335 $ 373 ($17) $ 3,691 $ 9,714 $ 1,168 ($54) $10,828
Interest expense (1,729) (72) 54 (1,747) (5,109) (216) 160 (5,165)
--------- --------- ----------- --------- -------- --------- ----------- --------
Net interest income 1,606 301 37 1,944 4,605 952 106 5,663
Provision for loan losses (10) (30) - (40) (70) (71) - (141)
Other income 281 70 (12) 339 920 222 (36) 1,106
Other expenses (1,075) (382) (2) (1,459) (3,299) (1,156) (14) (4,469)
--------- --------- ----------- --------- -------- --------- ----------- --------
Income before taxes 802 (41) 23 784 2,156 (53) 56 2,159
Income taxes (291) 13 (6) (284) (787) 15 (17) (789)
--------- --------- ----------- --------- -------- --------- ----------- --------
Net income $ 511 ($28) $ 17 $ 500 $ 1,369 ($38) $ 39 $ 1,370
========= ========= =========== ========= ======== ========= =========== ========
Net loans $118,010 $ 2,295 ($775) $119,530
========= ========= =========== =========
Total assets $165,273 $ 3,289 ($860) $167,702
========= ========= =========== =========
SUMMIT FINANCIAL CORPORATION
PART I. FINANCIAL INFORMATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with
the consolidated financial statements and related notes and with the statistical
information and financial data appearing in this report as well as the Annual
Report of Summit Financial Corporation (the "Company") on Form 10K for the year
ended December 31, 1998. Results of operations for the nine month period ended
September 30, 1999 are not necessarily indicative of results to be attained for
any other period.
FORWARD-LOOKING STATEMENTS
Statements included in this report which are not historical in nature are
intended to be, and are hereby identified as, "forward-looking statements" for
purposes of the safe harbor provided by Section 21E of the Securities Exchange
Act of 1934, as amended (the "Act"). In addition, certain statements in future
filings by the Company with the Securities and Exchange Commission, in press
releases and in oral and written statements made by or with the approval of the
Company which are not statements of historical fact constitute forward-looking
statements within the meaning of the Act. The Company cautions readers that
forward-looking statements, including without limitation, those relating to the
Company's future business prospects, plans, objectives, future economic
performance, revenues, working capital, liquidity, capital needs, interest
costs, income or loss, income or loss per share, dividends and other financial
items are subject to certain risks and uncertainties that could cause actual
results to differ materially from those indicated in the forward-looking
statements due to several important factors herein identified, among others, and
other risks and factors identified from time to time in the Company's reports
filed with the Securities and Exchange Commission.
The risks and uncertainties that may affect the operations, performance,
development and results of the Company's business include, but are not limited
to, the following: projections regarding the estimated annualized financial
impact from the sale of the credit cards; risks from changes in economic,
monetary policy and industry conditions; changes in interest rates; inflation;
risks inherent in making loans including repayment risks and value of
collateral; fluctuations in consumer spending; the demand for the Company's
products and services; dependence on senior management; technological changes;
ability to increase market share and control expenses; acquisitions; changes in
accounting policies and practices; costs and effects of litigation; recently
enacted or proposed legislation; and year 2000 readiness.
Such forward-looking statements speak only as of the date on which such
statements are made, and the Company undertakes no obligation to update any
forward-looking statement to reflect events or circumstances after the date on
which such statement is made to reflect the occurrence of unanticipated events.
OVERVIEW
Summit Financial Corporation is a financial institution holding company
headquartered in Greenville, South Carolina. The Company has a wholly-owned
bank subsidiary, Summit National Bank (the "Bank") and a wholly-owned consumer
finance company subsidiary, Freedom Finance, Inc. (the "Finance Company").
During the quarter ended September 30, 1999, the Company's net income
totaled $617,000 or $.17 per diluted share. This is compared to net income of
$500,000 or $.14 per diluted share for the same quarterly period of 1998 or an
increase of 23.5%. For the first nine months of 1999 the Company reported net
income of $1,766,000 or $.50 per diluted share, an improvement of approximately
$396,000 (28.9%) from the net income for the first nine months of 1998 of
$1,370,000 or $.38 per diluted share.
BALANCE SHEET ACTIVITY
Total assets increased $16.3 million or 9.6% from December 31, 1998 to
September 30, 1999. Deposits increased approximately $17.9 million or 12.8%
during the period. A majority of the increase in deposits was in the money
market account category which accounted for $13.4 million of the increase.
The increase in deposits funded gross loan growth of $13.6 million (10.4%), the
$2.8 million (451%) increase in interest-bearing deposits, and the $2.6 million
(657%) increase in federal funds sold during the same period.
ALLOWANCE FOR LOAN LOSSES
The amount charged to the provision for loan losses by the Bank and the
Finance Company is based on management's judgment as to the amounts required to
maintain an allowance adequate to provide for probable losses inherent in the
loan portfolio. The level of this allowance is dependent upon growth in the
loan portfolios; the total amount of past due loans; nonperforming loans; known
loan deteriorations and/or concentrations of credit; trends in portfolio volume,
maturity and composition; estimated collateral values; general economic
conditions; and management's assessment of inherent losses based upon internal
credit grading of the loans and periodic reviews and assessments of credit risk
associated with particular loans.
At September 30, 1999, the consolidated allowance for loan losses was $2.1
million or 1.43% of total loans net of unearned income. This compares to an
allowance of $1.8 million or 1.47% of total loans net of unearned income at
September 30, 1998. For the quarter ended September 30, 1999, the Company
reported consolidated net charge-offs of $93,000 or 0.07% of average loans on an
annualized basis. This is compared to consolidated net charge-offs of $52,000
or 0.17% (annualized) of average loans for the comparable quarter of 1998.
There were no loans on nonaccrual status at either September 30, 1999 or 1998.
Loans past due 90 days and greater totaled $267,000 or 0.18% of gross loans at
September 30, 1999 and $365,000 or 0.30% of gross loans at September 30, 1998.
Generally loans of the Bank are placed on nonaccrual status at the earlier of
when they are 90 days past due or when the collection of interest becomes
doubtful. Loans of the Finance Company are not classified as nonaccrual, but
are charged-off when they become 150 days contractually past due or earlier if
the loan is deemed uncollectible. The allowance for loan losses at September
30, 1999 represents management's estimate of probable losses inherent in the
loan portfolio at that date.
EARNINGS REVIEW FOR THE QUARTERS ENDED SEPTEMBER 30, 1999 AND 1998
GENERAL
The Company reported consolidated net income for the quarter ended
September 30, 1999 of $617,000, compared to net income of $500,000 for the
quarter ended September 30, 1998, or an improvement of approximately $117,000 or
23.5%. The increase in consolidated earnings for the 1999 period is primarily
attributable to the $310,000 or 15.9% increase in the Company's net interest
income related to the higher level of average earning assets which increased
8.9% in 1999 as compared to the prior year. Also contributing to the higher net
interest income is the reduction in the Company's average cost of liabilities
which more than offset the higher level of interest-bearing liabilities and
resulted in lower interest expense. Also contributing to the higher net income
was the 8.7% increase in other income and the reduction in the effective income
tax rate due to a higher level of tax-free municipal securities. Offsetting
these items is the increase in other operating expenses of approximately 13.8%
and the higher provision for loan losses of $68,000 or 170%.
NET INTEREST INCOME
Net interest income is the difference between the interest earned on assets
and the interest paid for the liabilities used to support those assets. It is
the largest component of the Company's earnings and changes in it have the
greatest impact on net income. Variations in the volume and mix of assets and
liabilities and their relative sensitivity to interest rate movements determine
changes in net interest income. During the quarter ended September 30, 1999,
the Company recorded consolidated net interest income of $2.3 million, a 15.9%
increase from the net interest income of $1.9 million for the quarter ended
September 30, 1998. The increase in this amount is directly related to the
increase in the average earning asset and interest-bearing liability volume of
the Company of 8.9% and 10.7% respectively, combined with the 31 basis point
increase in net interest margin for the Company.
For the quarters ended September 30, 1999 and 1998, the Company's
consolidated net interest margin was 5.23% and 4.92%, respectively. The net
interest margin is calculated as annualized net interest income divided by
year-to-date average earning assets. The increase in consolidated net interest
margin is related primarily to the lower average cost of liabilities in 1999 as
higher priced certificates of deposit matured and were replaced with deposits of
lower current market rates. Also contributing to the lower cost of funds is the
shift of the deposit portfolio to a higher percentage of floating rate money
market accounts which averaged 38.5% of total deposits for the third quarter of
1999.
INTEREST INCOME
For the quarter ended September 30, 1999, the Company's earning assets
averaged $175.8 million and had an average yield of 9.15%. This compares to
average earning assets of $161.4 million for the third quarter of 1998, yielding
9.21%. Thus, the 8.9% increase in volume of earning assets, offset somewhat by
the 6 basis point reduction in average yield, accounts for the $300,000 (8.1%)
increase in interest income between the third quarter of 1998 and 1999.
Consolidated loans averaged approximately 81% of the Company's average
earning assets for the third quarter of 1999 compared to 74% for the prior year.
The majority of the Company's loans are tied to the prime rate (approximately
64% of the Bank's portfolio is at floating rates at September 30, 1999), which
averaged 8.10% and 8.50% for the quarters ended September 30, 1999 and 1998
respectively. During the third quarter of 1999, consolidated loans averaged
$142.6 million, yielding an average rate of 9.82%, compared to $119.9 million,
yielding an average rate of 10.26% for the third quarter of 1998. The 44 basis
point decrease in the average yield on loans is primarily related to the lower
prime lending rate which decreased 40 basis points between the third quarter of
1998 and 1999. The higher level of average loans (which increased 18.9%) offset
the decrease in average rate and resulted in an increase in consolidated
interest income on loans of $429,000 or 13.8%.
Investment securities averaged $25.3 million or 14.4% of average earning
assets and yielded 6.56% (tax equivalent basis) during the third quarter of
1999, compared to average securities of $26.8 million yielding 6.42% (tax
equivalent basis) for the quarter ended September 30, 1998. The increase in
average yield of the investment portfolio is related to the portfolio mix and
the percentage of higher yielding tax-free municipal securities in the portfolio
in 1999 as compared to the prior year. This increase partially offset the 5.5%
reduction in average securities and resulted in the decrease of interest income
on securities of $23,000.
INTEREST EXPENSE
The Company's interest expense for both the quarters ended September 30,
1999 and 1998 was $1.7 million. The 52 basis point reduction in average rate on
liabilities was offset by the 10.7% increase in volume of interest-bearing
liabilities resulting in a $10,000 reduction in interest expense.
Interest-bearing liabilities averaged $149.2 million for the third quarter of
1999 with an average rate of 4.62%. This compares to average interest-bearing
liabilities of $134.8 million with an average rate of 5.14% for the quarter
ended September 30, 1998. The decrease in the average rate on liabilities is
the result of maturities of certificates of deposit that were subsequently
renewed at lower current market rates and the shift of deposits to a larger
percentage of lower cost, floating rate deposits which were repriced immediately
as the prime rate dropped in the fourth quarter of 1998. At September 30, 1999,
money market deposits accounted for 40% of total deposits compared to 34% for
the prior year.
PROVISION FOR LOAN LOSSES
The amount charged to the provision for loan losses by the Bank and the
Finance Company is based on management's judgment as to the amounts required to
maintain an allowance adequate to provide for probable losses inherent in the
loan portfolio. While it is the Company's policy to provide for loan losses in
the current period in which a loss is considered probable, there are additional
risks of losses which cannot be quantified precisely or attributed to particular
loans or classes of loans. Management uses the best information available to
make evaluations, however, future adjustments to the allowance may be necessary
if economic conditions differ substantially from the assumptions used in making
evaluations. The Company is also subject to regulatory examinations and
determinations as to the adequacy of the allowance, which may take into account
such factors as the methodology used to calculate the allowance for loan losses
and the size of the allowance in comparison to a group of peer companies
identified by the regulatory agencies.
Included in the net income for the quarter ended September 30, 1999 is a
provision for loan losses of $108,000 compared to a provision of $40,000 for the
third quarter of 1998. The higher net loan originations for the third quarter
of 1999 as compared to the same period of 1998, led to the increase in the
provision for loan losses in the current year.
NONINTEREST INCOME AND EXPENSES
Noninterest income, which is primarily related to service charges on
customers' deposit accounts; credit card interchange fees; merchant discount
fees; commissions on nondeposit investment product sales and insurance product
sales; and mortgage origination fees, was $369,000 for the quarter ended
September 30, 1999 compared to $340,000 for the third quarter of September 30,
1998, or an increase of 8.7%. The increase was related to the higher level of
activity and transactions of the Bank generating other income in the normal
course of business.
For the quarter ended September 30, 1999, total noninterest overhead
expenses were $1.7 million which is an increase of $202,000 or 13.8% over the
amount incurred for the quarter ended September 30, 1998 of $1.5 million. The
most significant item included in other expenses is salaries, wages and benefits
which amounted to $879,000 for the quarter ended September 30, 1999 as compared
to $773,000 for the quarter ended September 30, 1998. The increase of $106,000
or 13.7% is a result of normal annual raises, and additional staff added at the
new branch of the Bank in the fourth quarter of 1998.
The 25.9% ($31,000) increase in occupancy and the 25.8% ($36,000) increase
in furniture, fixtures, and equipment ("FFE") between the third quarters of 1999
and 1998 was directly related to normal expenses, including rent, utilities,
depreciation, property taxes, maintenance and insurance, associated with the new
Bank branch facility which opened in the fourth quarter of 1998.
Included in the line item "other expenses", which increased $29,000 or 6.9%
from the comparable quarter of 1998, are charges for OCC assessments; property
and bond insurance; ATM switch fees; credit card expenses; professional
services; education and seminars; advertising and public relations; and other
branch and customer related expenses. The increase was related to the higher
level of activity in the normal course of business for the Bank.
INCOME TAXES
For the quarter ended September 30, 1999, the Company reported $237,000 in
income tax expense, or an effective tax rate of 27.8%. This is compared to
income tax expense of $285,000 for the same quarter of the prior year, or an
effective tax rate of 36.3%. The reduction in the effective rate is primarily
related to the higher level of tax-free municipal investments in 1999.
EARNINGS REVIEW FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
GENERAL
The Company reported consolidated net income for the nine months ended
September 30, 1999 of $1,766,000, compared to net income of $1,370,000 for the
nine months ended September 30, 1998, or an improvement of approximately
$396,000 or 28.9%. The increase in consolidated earnings for the 1999 period is
primarily attributable to the $742,000 or 13.1% increase in the Company's net
interest income related to the higher level of average earning assets which
increased 5.9% in 1999 as compared to the prior year. Also contributing to the
higher net interest income is the reduction in the Company's average cost of
liabilities which more than offset the higher level of interest-bearing
liabilities and resulted in a 6.3% reduction in interest expense. Also
contributing to the higher net income was the 4.3% increase in other income and
the reduction in the effective income tax rate due to a higher level of tax-free
municipal securities. Offsetting these items is the increase in other operating
expenses of approximately 6.8% and the higher provision for loan losses of
$177,000 or 126%.
NET INTEREST INCOME
Net interest income, the difference between the interest earned and
interest paid, is the largest component of the Company's earnings and changes in
it have the greatest impact on net income. Variations in the volume and mix of
assets and liabilities and their relative sensitivity to interest rate movements
determine changes in net interest income. During the nine months ended
September 30, 1999, the Company recorded consolidated net interest income of
$6.4 million, a 13.1% increase from the net interest income of $5.7 million for
the nine months ended September 30, 1998. The increase in this amount is
directly related to the increase in the average earning asset and
interest-bearing liability volume of the Company of 5.9% and 5.8% respectively,
combined with the 36 basis point increase in the net interest margin for the
Company.
For the nine months ended September 30, 1999 and 1998, the Company's
consolidated net interest margin was 5.29% and 4.93%, respectively. The net
interest margin is calculated as annualized net interest income divided by
year-to-date average earning assets. The increase in consolidated net interest
margin is related primarily to the lower average cost liabilities in 1999 as
higher priced certificates of deposit matured and were replaced with deposits of
lower current market rates. Also contributing to the lower cost of funds is the
shift of the deposit portfolio to a higher percentage of floating rate money
market accounts which averaged 38.4% of total deposits for the first nine months
of 1999.
INTEREST INCOME
For the nine months ended September 30, 1999, the Company's earning assets
averaged $166.8 million and had an average yield of 9.17%. This compares to
average earning assets of $157.6 million for the first nine months of 1998,
yielding approximately 9.31%. Thus, the 5.9% increase in volume of average
earning assets, offset by the 14 basis point reduction in average yield,
accounts for the $418,000 (3.9%) increase in interest income between 1998 and
1999.
Consolidated loans averaged approximately 82% of the Company's average
earning assets for the first nine months of 1999 compared to 75% for the prior
year. The majority of the Company's loans are tied to the prime rate
(approximately 64% of the Bank's portfolio is at floating rates at September 30,
1999), which averaged 7.87% and 8.50% for the nine months ended September 30,
1999 and 1998, respectively. During the first nine months of 1999, consolidated
loans averaged $136.9 million, yielding an average of 9.78%, compared to $118.6
million, yielding an average of 10.30% for the first nine months of 1998. The
52 basis point decrease in the average yield on loans is primarily related to
the lower prime lending rate which decreased 63 basis points during the fourth
quarter of 1998. The higher level of average loans (which increased 15.4%)
offset the decrease in average rate and resulted in an increase in consolidated
interest income on loans of $880,000 or 9.6%.
Investment securities averaged $26.0 million or 16% of average earning
assets and yielded 6.48% (tax equivalent basis) during the first nine months of
1999, compared to average securities of $27.5 million yielding 6.54% (tax
equivalent basis) for the nine months ended September 30, 1998. The decrease in
the average yield of the investment portfolio is related to the portfolio mix
and the timing of higher yielding securities maturing. This decrease, combined
with the 5.3% reduction in average securities and resulted in the decrease of
interest income on securities of $126,000.
INTEREST EXPENSE
The Company's interest expense for the nine months ended September 30, 1999
was $4.8 million. The decrease of 6.3% from the comparable nine months in 1998
of $5.2 million was directly related to the 59 basis point reduction in the
average rate on liabilities, offset by the 5.8% increase in volume.
Interest-bearing liabilities averaged $140.0 million for the first nine months
of 1999 with an average rate of 4.62%. This is compared to average
interest-bearing liabilities of $132.4 million with an average rate of 5.21% for
the nine months ended September 30, 1998. The decrease in the average rate on
liabilities is the result of maturities of certificates of deposit renewed at
lower current market rates and the shift of deposits to a larger percentage of
lower cost, floating rate deposits which were repriced immediately as the prime
rate dropped in the fourth quarter of 1998. At September 30, 1999, money market
deposits accounted for 40% of total deposits compared to 36% for the prior year.
PROVISION FOR LOAN LOSSES
As previously discussed under the quarterly analysis, the amount charged to
the provision for loan losses by the Bank and the Finance Company is based on
management's judgment as to the amounts required to maintain an allowance
adequate to provide for probable losses inherent in the loan portfolio.
Included in the net income for the nine months ended September 30, 1999 is
a provision for loan losses of $318,000 compared to a provision of $141,000 for
the first nine months of 1998. The higher net loan originations for the first
nine months of 1999, which totaled $13.6 million compared to $2.6 million for
1998, led to the increase in the provision for loan losses in the current year.
NONINTEREST INCOME AND EXPENSES
Noninterest income, which is primarily related to service charges on
customers' deposit accounts; credit card interchange fees; merchant discount
fees; commissions on nondeposit investment product sales and insurance product
sales; and mortgage origination fees, was $1.2 million for the nine months ended
September 30, 1999 compared to $1.1 million for the first nine months of 1998,
or an increase of 4.3%. Reductions in the volume of activity generating
insurance commission income was offset by increases in other income items
related to gains on sales of available for sale investment securities and
company vehicles. Other increases are related to the higher level of activity
and transactions of the Bank generating other income in the normal course of
business.
For the nine months ended September 30, 1999, noninterest expenses were
$4.8 million which is an increase of 6.8% over the amount incurred for the nine
months ended September 30, 1998 of $4.5 million. The most significant item
included in other expenses is salaries, wages and benefits which amounted to
$2.6 million for the nine months ended September 30, 1999 as compared to $2.4
million for the nine months ended September 30, 1998. The increase of $156,000
or 6.5% is a result of normal annual raises, and additional staff added at the
new branch of the Bank in the fourth quarter of 1998.
The 28.8% ($98,000) increase in occupancy and the 17.7% ($73,000) increase
in furniture, fixtures, and equipment ("FFE") between the first nine months of
1999 and 1998 is directly related to normal expenses, including rent, utilities,
depreciation, property taxes, maintenance and insurance, associated with the new
Bank branch facility which opened in the fourth quarter of 1998.
Included in the line item "other expenses", which decreased $22,000 or 1.7%
from the comparable period of 1998, are charges for OCC assessments; property
and bond insurance; ATM switch fees; credit card expenses; professional
services; education and seminars; advertising and public relations; and other
branch and customer related expenses. The decrease is primarily related to
reductions in advertising, education, professional services, and travel which
were incurred in 1998 at higher levels than experienced in 1999.
INCOME TAXES
For the nine months ended September 30, 1999, the Company reported $700,000
in income tax expense, or an effective tax rate of 28.4%. This is compared to
income tax expense of $789,000 for the same period of the prior year, or an
effective tax rate of 36.5%. The reduction in the effective rate is primarily
related to the higher level of tax-free municipal investments in 1999.
LIQUIDITY
Liquidity management involves meeting the cash flow requirements of the
Company both at the holding company level as well as the subsidiary level. The
Company's bank subsidiary must maintain an adequate liquidity position in order
to respond to the short-term demand for funds caused by the withdrawals from
deposit accounts, maturities of repurchase agreements, extensions of credit and
for the payment of operating expenses. Maintaining an adequate level of
liquidity is accomplished through a combination of liquid assets (those which
can easily be converted into cash) and access to additional sources of funds.
The Company's primary liquid assets are cash and due from banks, federal funds
sold, unpledged investment securities available for sale, other short-term
investments and maturing loans. The Bank's liquidity ratio, which is an
indication of the a company's ability to meet its short term funding
obligations, was 15% and 20%, respectively, at September 30, 1999 and 1998. In
management's opinion, the Company maintains adequate levels of liquidity by
retaining liquid assets and assets which can easily be converted into cash and
by maintaining access to various sources of funds. The primary sources of funds
available through the Bank include borrowing on a short-term basis from the
Federal Home Loan Bank and Federal Reserve System, purchasing federal funds from
other financial institutions, and increasing deposits by raising rates paid. At
September 30, 1999, the Company had approximately $33 million available credit
under its FHLB and correspondent bank borrowing facilities.
Summit Financial Corporation ("Summit Financial"), the parent holding
company, has limited liquidity needs. Summit Financial requires liquidity to
pay limited operating expenses, to service its debt, and to provide funding to
its consumer finance subsidiary, Freedom Finance. Summit Financial has
approximately $1.8 million in available liquidity remaining from its initial
public offering and the retention of earnings. All of this liquidity was
advanced to the Finance Company to fund its operations as of September 30, 1999.
In addition, Summit Financial has an available line of credit totaling $2.5
million with an unaffiliated financial institution, all of which was available
at September 30, 1999. Additional sources of liquidity for Summit Financial
include unsecured borrowings from individuals, management fees and debt service
which are paid by its subsidiaries.
Liquidity needs of Freedom Finance, primarily for the funding of loan
originations, acquisitions, and operating expenses, have been met to date
through the initial capital investment of $500,000 made by Summit Financial,
borrowings from an unrelated private investor, and line of credit facilities
provided by Summit Financial and Summit National Bank, its sister company.
The Company's management believes its liquidity sources are adequate to
meet its operating needs and does not know of any trends, events or
uncertainties that may result in a significant adverse affect on the Company's
liquidity position.
CAPITAL RESOURCES
Total equity at September 30, 1999 was $16.9 million or 9.0% of total
assets. This is compared to $15.1 million or 8.9% of total assets at September
30, 1998. The $1.8 million increase in total shareholders' equity resulted from
the retention of earnings and stock issued pursuant to the Company's incentive
stock option plan, offset by the increase in unrealized loss on available for
sales securities.
Book value per share at September 30, 1999 and 1998 was $5.52 and $4.97,
respectively. Tangible book value per share at September 30, 1999 and 1998 was
$5.34 and $4.74, respectively. Tangible book value was below book value as a
result of the purchase premiums associated with branch acquisitions of Freedom
Finance which were accounted for as purchases.
To date, the capital needs of the Company have been met through the
retention of net income and from the proceeds of its initial offering of common
stock. The Company has no commitments or immediate plans for any significant
capital expenditures outside the normal course of business. The Company's
management does not know of any trends, events or uncertainties that may result
in the Company's capital resources materially increasing or decreasing.
The Company and the Bank are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have a
material effect on the financial statements. Under capital adequacy guidelines
and the regulatory framework for prompt corrective action, the Company and the
Bank must meet specific capital guidelines that involve quantitative measures of
the Company's and the Bank's assets, liabilities and certain off-balance sheet
items as calculated under regulatory accounting practices. The Company's and
the Bank's capital amounts and classification are also subject to qualitative
judgments by the regulators about components, risk weightings, and other
factors.
The Company and the Bank are required to maintain minimum amounts and
ratios of total risk-based capital, Tier 1 capital, and Tier 1 leverage capital
as set forth in the table following. Management believes, as of September 30,
1999, that the Company and the Bank meet all capital adequacy requirements to
which they are subject. At September 30, 1999 and 1998, the Bank is categorized
as "well capitalized" under the regulatory framework for prompt corrective
action. There are no current conditions or events that management believes
would change the Company's or the Bank's category.
The following table presents the Company's and the Bank's actual capital
amounts (dollars in thousands) and ratios at September 30, 1999 as well as the
minimum calculated amounts for each regulatory defined category.
RISK-BASED CAPITAL CALCULATION
FOR CAPITAL TO BE CATEGORIZED
ACTUAL ADEQUACY PURPOSES "WELL-CAPITALIZED"
------------- ---------------- -----------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------- ------ ------- ------ ------- ------
AS OF SEPTEMBER 30, 1999
THE COMPANY
Total capital to risk-weighted assets $18,996 12.30% $12,359 8.00% N.A.
Tier 1 capital to risk-weighted assets $17,065 11.05% $ 6,180 4.00% N.A.
Tier 1 capital to average assets $17,065 9.64% $ 7,082 4.00% N.A.
THE BANK
Total capital to risk-weighted assets $17,191 11.30% $12,166 8.00% $15,207 10.00%
Tier 1 capital to risk-weighted assets $15,372 10.11% $ 6,083 4.00% $ 9,124 6.00%
Tier 1 capital to average assets $15,375 8.79% $ 6,992 4.00% $ 8,740 5.00%
AS OF SEPTEMBER 30,1998
THE COMPANY
Total capital to risk-weighted assets $16,161 12.25% $10,556 8.00% N.A.
Tier 1 capital to risk-weighted assets $14,514 11.00% $ 5,278 4.00% N.A.
Tier 1 capital to average assets $14,514 8.76% $ 6,625 4.00% N.A.
THE BANK
Total capital to risk-weighted assets $14,749 11.40% $10,350 8.00% $12,937 10.00%
Tier 1 capital to risk-weighted assets $13,161 10.17% $ 5,175 4.00% $ 7,762 6.00%
Tier 1 capital to average assets $13,161 8.06% $ 6,528 4.00% $ 8,160 5.00%
EFFECT OF INFLATION AND CHANGING PRICES
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles which require the measurement of
financial position and results of operations in terms of historical dollars,
without consideration of changes in the relative purchasing power over time due
to inflation.
The yield on a majority of the Company's earning assets adjusts
simultaneously with changes in the general level of interest rates.
Approximately 40% of the Company's liabilities at September 30, 1999 had fixed
terms that can be repriced only at maturity. During periods of rising interest
rates, as experienced in the third quarter of 1999, the Company's assets reprice
faster than the supporting liabilities. This may cause an increase in the net
interest margin until the fixed rate deposits mature and are repriced at higher
current market rates, thus narrowing the difference between what the Company
earns on its assets and what it pays on its liabilities. Given the Company's
current balance sheet structure, the opposite effect (that is, a decrease in net
interest income) is realized in a declining rate environment. The degree of
interest rate sensitivity of the Company's assets and liabilities and the
differences in timing of repricing assets and liabilities provides an indication
of the extent to which the Company's net interest income may be affected by
interest rate movements.
ACCOUNTING, REPORTING AND REGULATORY MATTERS
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS 133 changes the previous
accounting definition of a derivative and discusses the appropriateness of hedge
accounting for various forms of hedging activities. Under this standard, all
derivatives are measured at fair value and recognized in the statement of
financial position as assets or liabilities. This standard is effective for all
fiscal quarters of all fiscal years beginning after June 15, 2000, with earlier
adoption permitted, as amended by SFAS 137. Because the Company has no
derivative activity at this time, management does not expect that this standard
will have a significant effect on the Company.
YEAR 2000
The Company recognizes that there is a business risk in computerized
systems as the calendar rolls into the next century. The Federal Financial
Institutions Examination Council ("FFIEC") issued an interagency statement on
May 5, 1997, providing an outline for institutions to effectively manage the
Year 2000 ("Y2K") challenges. The Company has developed an ongoing plan
designed to ensure that its operational and financial systems will not be
adversely affected by Y2K software failures due to processing errors arising
from calculations using dates after December 31, 1999. The Company has an
internal task force assigned to this project and the Board of Directors and
management of the Company have established Year 2000 compliance as a strategic
initiative.
The Company has completed the assessment phase of the project in which all
critical applications are identified and programming issues determined. In
conjunction with this phase, the Company inventoried all of its hardware,
software, and environmental or other non-computerized systems. Each inventory
item (equipment, application, or service provider system) has been prioritized
and evaluated as to its Y2K compliance. Currently, all systems identified as
"mission critical" have been certified as Y2K compliant by the vendors providing
the software applications or hardware. The Company has successfully completed
its testing phase for both the mission critical applications as well as other
inventoried items. The Company has also completed both its remediation and
business resumption contingency plans and is in the validation phase for the
resumption plan. In the business resumption contingency plan, all possible
scenarios have attempted to be addressed, including the resources and procedures
necessary to manually process transactions in the event the core systems do not
function on January 1, 2000. While the Company believes that it has available
resources to assure Y2K compliance, it is to some extent dependent on vendor
cooperation. Accordingly, management is in constant contact with its various
vendors and is monitoring their Y2K efforts on an on-going basis.
In addition to the internal processing risks associated with the Year 2000
issue, the Company has made every attempt to address external risks, primarily
credit and liquidity, associated with our major customers and their Year 2000
remediation efforts. The way that these material customers approach and comply
with Y2K readiness will have a potentially significant impact on the Company.
In an effort to identify and manage the risks posed by those customers, the
Company has (1) identified material customers; (2) evaluated their Year 2000
preparedness through questionnaires and interviews; (3) assessed their Year 2000
risk to the Company; and (4) implemented appropriate controls to manage and
mitigate their Year 2000 related risk to the Company. The controls implemented
may include ongoing monitoring of a customer's Y2K remediation efforts, review
and adjustment of credit maturities, obtaining additional collateral, or
including specific Year 2000 language in loan agreements, as appropriate.
Management is also addressing all new relationships for Y2K risk. Currently,
there are no significant customers which are rated as a "high" Year 2000 risk
and which the Company believes a risk of loss is present. Other components of
the Company's Year 2000 Customer Awareness Program include questionnaires for
major customers, hosting seminars for customers, employee training seminars,
distributing the Company's "Year 2000 Position Statement" which contains the
initiatives and status of the Company's Y2K efforts, and informative mailers and
brochures describing the Year 2000 challenges in general as well as specific
information related to the Company.
At this time, the Company believes the cost of making modifications to
correct any Y2K issues will be nominal. Corrections and "fixes" to software
provided by third-party vendors is covered in the annual maintenance fees paid
by the Company on a regular basis. In addition, equipment and software
acquisition expenses are not expected to materially differ from historical
levels as the Company routinely upgrades and purchases technologically advanced
software and hardware on a continual basis and expects to specifically evaluate
and test such purchases for Y2K compliance. There has been no significant
change to the Company's existing technology plans due to any Year 2000 issues.
The Company's management believes it has adequately addressed the Year 2000
issue and has adequate resources and personnel executing the Year 2000 Action
Plan to ensure compliance in accordance with the timeframes established in the
plan and as mandated by the regulatory agencies which oversee the Company and
its subsidiaries. The Company's bank subsidiary has already been subject to and
will undergo additional examinations of its Year 2000 initiatives to ensure
compliance with all regulatory requirements. Management does not know of any
trends, events, or uncertainities related to the Year 2000 issues that it
believes may result in a significant adverse effect on the Company's financial
position.
INTEREST RATE SENSITIVITY
Achieving consistent growth in net interest income is the primary goal of
the Company's asset/liability function. The Company's profitability is affected
by fluctuations in interest rates. The Company attempts to control the mix and
maturities of assets and liabilities to maintain a reasonable balance between
exposure to interest rate fluctuations and earnings and to achieve consistent
growth in net interest income. The Company seeks to accomplish this goal while
maintaining adequate liquidity and capital. A sudden and substantial increase
in interest rates may adversely impact the Company's earnings to the extent that
the interest rates on interest-earning assets and interest-bearing liabilities
do not change at the same speed, to the same extent or on the same basis. The
Company's asset/liability mix is sufficiently balanced so that the effect of
interest rates moving in either direction is not expected to be significant over
time.
The Company's Asset/Liability Committee ("ALCO") uses a simulation model,
among other techniques, to assist in achieving consistent growth in net interest
income while managing interest rate risk. The model takes into account, over a
12 month period or longer if necessary, interest rate changes as well as changes
in the mix and volume of assets and liabilities. The model simulates the
Company's balance sheet and income statement under several different rate
scenarios and rate shocks. The model's inputs (such as interest rates and
levels of loans and deposits) are updated as necessary throughout the year in
order to maintain a current forecast as assumptions change. According to the
model, the Company is presently positioned so that net interest income will
increase slightly if interest rates rise in the near term and will decrease
slightly if interest rates decline in the near term.
The Company also uses interest rate sensitivity gap analysis to monitor the
relationship between the maturity and repricing of its interest-earning assets
and interest-bearing liabilities. Interest rate sensitivity gap is defined as
the difference between the amount of interest-earning assets maturing or
repricing within a specific time period and the amount of interest-bearing
liabilities maturing or repricing within the same time period. The static
interest sensitivity gap position, while not a complete measure of interest
sensitivity, is also reviewed periodically to provide insights related to static
repricing structure of assets and liabilities. At September 30, 1999, on a
cumulative basis through 12 months, rate-sensitive liabilities exceed
rate-sensitive assets, resulting in a 12 month period liability sensitive
position at the date of $26.0 million. When the effective change ratio (the
historical relative movement of each asset's and liability's rates in relation
to a 100 basis point change in the prime rate) is applied to the interest gap
position, the Company is actually in an asset sensitive position over a 12 month
period and the entire repricing lives of the assets and liabilities. This is
primarily due to the fact that approximately 64% of the loan portfolio moves
immediately on a one-to-one ratio with a change in the prime rate, while the
deposit accounts do not increase or decrease as much relative to a prime rate
movement.
The Company's asset sensitive position means that assets reprice faster
than the liabilities, resulting in increases in the net interest income during
periods of rising rates and decreases in net interest income when market rates
decline. In the fourth quarter of 1998, interest rates dropped, leading to
declines in the average yield on assets for the first six months of 1999 as
compared to 1998, until rates began to increase in the third quarter of 1999.
However, the Company was able to increase the net interest margin in 1999 as
compared to 1998 due to the reduction in the overall cost of funds based
primarily on (1) the higher percentage of floating rate deposits in 1999 as
compared to 1998; and (2) the maturities of higher priced certificates of
deposit throughout 1998 which were replaced with CDs at lower current rates
during the year.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and
rates. The Company's market risk arises principally from interest rate risk
inherent in its lending, deposit and borrowing activities. Management actively
monitors and manages its interest rate risk exposure. Although the Company
manages other risks, as in credit quality and liquidity risk, in the normal
course of business, management considers interest rate risk to be its most
significant market risk and it could potentially have the largest material
effect on the Company's financial condition and results of operations. Other
types of market risks, such as foreign currency exchange rate risk and commodity
price risk, do not arise in the normal course of the Company's business
activities.
The Bank's ALCO monitors and considers methods of managing the rate and
sensitivity repricing characteristics of the balance sheet components consistent
with maintaining acceptable levels of changes in net portfolio value ("NPV") and
net interest income. Net portfolio value represents the market value of
portfolio equity and is equal to the market value of assets minus the market
value of liabilities, with adjustments made for off-balance sheet items over a
range of assumed changes in market interest rates. A primary purpose of the
Company's asset and liability management is to manage interest rate risk to
effectively invest the Company's capital and to preserve the value created by
its core business operations. As such, certain management monitoring processes
are designed to minimize the impact of sudden and sustained changes in interest
rates on NPV and net interest income.
The Company's exposure to interest rate risk is reviewed on a periodic
basis by the Board of Directors and the ALCO which is charged with the
responsibility to maintain the level of sensitivity of the Bank's net portfolio
value within Board approved limits. Interest rate risk exposure is measured
using interest rate sensitivity analysis by computing estimated changes in NPV
of its cash flows from assets, liabilities, and off-balance sheet items in the
event of a range of assumed changes in market interest rates. This analysis
assesses the risk of loss in market risk sensitive instruments in the event of a
sudden and sustained 100 - 400 basis points increase or decrease in the market
interest rates. The Company's Board of Directors has adopted an interest rate
risk policy which establishes maximum allowable decreases in NPV in the event of
a sudden and sustained increase or decrease in market interest rates.
As of September 30, 1999, there was no substantial change from the interest
rate sensitivity analysis or the market value of portfolio equity for various
changes in interest rates calculated as of December 31, 1998. The foregoing
disclosures related to the market risk of the Company should be read in
conjunction with the Company's audited consolidated financial statements,
related notes and management's discussion and analysis of financial condition
and results of operations for the year ended December 31, 1998 included in the
Company's 1998 Annual Report on Form 10-K.
SUMMIT FINANCIAL CORPORATION
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
The Corporation and its subsidiaries from time to time may be involved as
plaintiff or defendant in various legal actions incident to its business. There
are no material actions currently pending.
Item 2. Changes in Securities.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to the shareholders for a vote at any time during the
quarter.
Item 5. Other Information.
None.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
27.1 Financial Data Schedule
(b) Reports on Form 8-K:
None.
SUMMIT FINANCIAL CORPORATION
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.
SUMMIT FINANCIAL CORPORATION
Dated: November 8, 1999
/s/ J. Randolph Potter
- -------------------------
J. Randolph Potter, President
and Chief Executive Officer
Dated: November 8, 1999
/s/ Blaise B. Bettendorf
- ---------------------------
Blaise B. Bettendorf, Senior Vice President
and Chief Financial Officer