EXHIBIT 99.7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (JUNE 30, 2005)
Management's Discussion and Analysis of Financial Condition and Results of
Operations (Management's Discussion) concerns Fulton Financial Corporation (the
Corporation), a financial holding company incorporated under the laws of the
Commonwealth of Pennsylvania in 1982, and its wholly owned subsidiaries. This
discussion and analysis should be read in conjunction with the consolidated
financial statements and notes presented in this report.
FORWARD-LOOKING STATEMENTS
The Corporation has made, and may continue to make, certain forward-looking
statements with respect to its acquisition and growth strategies, management of
net interest income and margin, the ability to realize gains on equity
investments, allowance and provision for loan losses, expected levels of certain
non-interest expenses and the liquidity position of the Corporation and Parent
Company. The Corporation cautions that these forward-looking statements are
subject to various assumptions, risks and uncertainties. Because of the
possibility of changes in these assumptions, risks and uncertainties, actual
results could differ materially from forward-looking statements.
In addition to the factors identified herein, the following could cause actual
results to differ materially from such forward-looking statements: pricing
pressures on loan and deposit products, actions of bank and non-bank
competitors, changes in local and national economic conditions, changes in
regulatory requirements, actions of the Federal Reserve Board (FRB),
creditworthiness of current borrowers, customers' acceptance of the
Corporation's products and services and acquisition pricing and the ability of
the Corporation to continue making acquisitions.
The Corporation's forward-looking statements are relevant only as of the date on
which such statements are made. By making any forward-looking statements, the
Corporation assumes no duty to update them to reflect new, changing or
unanticipated events or circumstances.
RESULTS OF OPERATIONS
Overview
As a financial institution with a focus on traditional banking activities, the
Corporation generates the majority of its revenue through net interest income,
or the difference between interest income earned on loans and investments and
interest paid on deposits and borrowings. Growth in net interest income is
dependent upon balance sheet growth and maintaining or increasing the net
interest margin, which is net interest income as a percentage of average
interest-earning assets. The Corporation also generates revenue through fees
earned on the various services and products offered to its customers and through
sales of assets, such as loans, investments, or properties. Offsetting these
revenue sources are provisions for credit losses on loans, other operating
expenses and income taxes.
The Corporation's net income for the second quarter of 2005 increased $3.8
million, or 10.1%, from $37.8 million in 2004 to $41.6 million in 2005. Diluted
net income per share increased $0.03, or 12.5%, from $0.24 in 2004 to $0.27 in
2005. The percentage increase in net income per share was slightly lower than
the net income increase as the average number of shares outstanding increased as
a result of shares issued for acquisitions. The Corporation realized annualized
returns on average assets of 1.46% and average equity of 13.94% during the
second quarter of 2005. The annualized return on average tangible equity, which
is net income, as adjusted for intangible amortization, net of tax, divided by
average shareholders' equity, excluding goodwill and intangible assets, was
20.98% for the quarter.
The Corporation adopted Statement of Financial Accounting Standards No. 123R,
"Share-Based Payment" (Statement 123R) in the quarter ended September 30, 2005.
Statement 123R requires that the fair value of equity awards to employees be
recognized as compensation expense over the period during which an employee is
required to provide service in exchange for such award. The Corporation adopted
Statement 123R using "modified retrospective application" and, therefore, all
financial information in this report has been restated to reflect the impact of
adoption. See Note E,
110
"Stock-Based Compensation" in the Notes to Consolidated Financial Statements for
information on the impact of adopting Statement 123R and its effect on prior
periods.
The increase in net income compared to the second quarter of 2004 resulted from
an $11.2 million increase in net interest income and a $5.6 million increase in
other income (excluding security gains), offset by a $3.9 million decrease in
security gains, a $7.6 million increase in other expenses and a $1.6 million
increase in income taxes. Net interest income growth resulted from increases in
average earning assets, due to the acquisition of First Washington FinancialCorp
(First Washington) in December 2004 (see "Acquisitions" below) and internal
growth. The net interest margin increased 5.1% compared to the second quarter of
2004, compounding the impact of the earning asset growth.
The following summarizes some of the more significant factors that influenced
the Corporation's second quarter 2005 results.
Interest Rates - Changes in the interest rate environment can have an effect on
both the Corporation's net interest income and its non-interest income. The
interest rate environment is commonly evaluated based on the shape of the U. S.
Treasury yield curve (Yield Curve), which plots the yields on treasury issues
over various maturity periods. During the past year, the Yield Curve has
flattened, with short-term rates increasing and longer-term rates decreasing.
Floating rate loans, short-term borrowings and savings and time deposit rates
are generally influenced by short-term rates. The FRB raised the Federal funds
rate nine times since June 2004, for a total increase of 225 basis points (from
1.00% to 3.25%). The Corporation's prime lending rate had a corresponding
increase, from 4.00% to 6.25%. The increase in short-term rates initially
benefited the Corporation as floating rate loans quickly adjusted to higher
rates, while increases in deposit rates - which are more discretionary - were
less pronounced. As a result, the Corporation realized an increase in net
interest margin in the third and fourth quarters of 2004 and the first quarter
of 2005.
During the second quarter of 2005, competitive pressures resulted in increases
in deposit rates. In addition, the Corporation issued $100 million of
subordinated debt at 5.35% at the end of March 2005. As a result, the net
interest margin decreased three basis points compared to the first quarter of
2005.
With respect to longer-term rates, the 10-year treasury yield, which is a common
benchmark for evaluating residential mortgage rates, decreased to 3.94% at June
30, 2005 as compared to 4.58% at June 30, 2004. Mortgage rates have been
generally low over the past several years, generating strong refinance activity
and significant gains for the Corporation as fixed rate residential mortgages
are generally sold in the secondary market. With the decrease in long-term rates
from the prior year, origination volume and the resulting gains on sales of
these loans have remained strong, contributing to the Corporation's non-interest
income.
The Corporation manages its risk associated with changes in interest rates
through the techniques documented in the "Market Risk" section of Management's
Discussion. As of June 30, 2005, the Corporation projects improvements in net
interest income in a rising rate environment. Increases in long-term rates,
however, may have a detrimental impact on mortgage loan origination volumes and
related gains on sales of mortgage loans.
Earning Assets - The Corporation's interest-earning assets increased from 2004
to 2005 as a result of the First Washington acquisition and strong internal loan
growth. This growth also contributed to the increase in net interest income.
With improving regional economic conditions the Corporation is optimistic that
internal loan growth in the short-term will continue to be strong.
From 2004 to 2005, the Corporation experienced a shift in its composition of
interest-earning assets from investments (23.3% of total average
interest-earning assets in 2005, compared to 27.7% in 2004) to loans (74.8% in
2005 compared to 71.1% in 2004). This change resulted from strong loan demand
being funded with the proceeds from maturing investment securities, primarily
mortgage-backed securities. The movement to higher-yielding loans has had a
positive effect on the Corporation's net interest income and net interest
margin.
111
Asset Quality - Asset quality refers to the underlying credit characteristics of
borrowers and the likelihood that defaults on contractual payments will result
in charge-offs of account balances. Asset quality is generally a function of
economic conditions, but can be managed through conservative underwriting and
sound collection policies and procedures.
The Corporation continued to maintain excellent asset quality, attributable to
its credit culture and underwriting policies. Asset quality measures such as
non-performing assets to total assets and net charge-offs to average loans
improved in comparison to 2004, resulting in a lower provision for loan losses
in the second quarter of 2005. While overall asset quality has remained strong,
deterioration in quality of one or several significant accounts could have a
detrimental impact and result in losses that may not be foreseeable based on
current information. In addition, rising interest rates could increase the total
payments of borrowers and could have a negative impact on the ability of some to
pay according to the terms of their loans.
Equity Markets - As noted in the "Market Risk" section of Management's
Discussion, equity valuations can have an impact on the Corporation's financial
performance. In particular, bank stocks account for a significant portion of the
Corporation's equity investment portfolio. Gains on sales of these equities have
been a recurring component of the Corporation's earnings for many years,
including the second quarters of 2005 and 2004, with total gains of $1.4 million
and $5.3 million, respectively. Declines in bank stock portfolio values could
have a detrimental impact on the Corporation's ability to recognize gains from
these sales.
Acquisitions - In April 2004, the Corporation acquired Resource Bankshares
Corporation (Resource), an $890 million financial holding company located in
Virginia Beach, Virginia whose primary subsidiary was Resource Bank. This was
the Corporation's first acquisition in Virginia, allowing it to enter a new
geographic market. In December 2004, the Corporation acquired First Washington,
a $490 million bank holding company located in Windsor, New Jersey whose primary
subsidiary was First Washington State Bank (FWSB). Results for 2005 in
comparison to 2004 were impacted by these acquisitions, as documented in the
appropriate sections of Management's Discussion.
In July 2005, the Corporation acquired SVB Financial Services, Inc. (SVB) of
Somerville, New Jersey. SVB was a $530 million bank holding company whose
primary subsidiary was Somerset Valley Bank, which operates 11 community-banking
offices in Somerset, Hunterdon and Middlesex counties in New Jersey. The
acquisition was completed on July 1, 2005. For additional information on the
terms of this acquisition, see Note I, "Subsequent Events", in the Notes to
Consolidated Financial Statements.
Acquisitions have long been a supplement to the Corporation's internal growth.
These recent acquisitions provide the opportunity for additional growth, as they
will allow the Corporation's existing products and services to be sold in new
markets. The Corporation's acquisition strategy focuses on high growth areas
with strong market demographics and targets organizations that have a comparable
corporate culture, strong performance and good asset quality, among other
factors. Under its "super-community" banking philosophy, acquired organizations
generally retain their status as separate legal entities, unless consolidation
with an existing affiliate bank is practical. Back office functions are
generally consolidated to maximize efficiencies.
Merger and acquisition activity in the financial services industry has been very
competitive in recent years, as evidenced by the prices paid for certain
acquisitions. While the Corporation has been an active acquirer, management is
committed to basing its pricing on rational economic models. Management will
continue to focus on generating growth in the most cost-effective manner.
Merger and acquisition activity also impacted the Corporation's capital and
liquidity. In order to complete acquisitions, the Corporation must have
strategies in place to maintain appropriate levels of capital and to provide
necessary cash resources. In March 2005, the Corporation issued $100 million of
subordinated debt, in part to support treasury stock repurchases related to
acquisitions. This financing instrument also qualifies as a component of total
regulatory capital. See additional information in the "liquidity" section of
Management's Discussion.
112
Quarter Ended June 30, 2005 versus Quarter Ended June 30, 2004
Results for the second quarter of 2005 compared to the results of the second
quarter of 2004 were impacted by the December 2004 acquisition of FWSB, whose
results are included in 2005 amounts, but not in 2004.
Net Interest Income
Net interest income increased $11.2 million, or 12.6% ($7.0 million, or 7.9%,
excluding FWSB), to $99.9 million in 2005 from $88.7 million in 2004. The
increase was due to both average balance growth, with total earning assets
increasing 7.0%, and an improving net interest margin. The average taxable
equivalent yield on earning assets increased 69 basis points (a 13.5% increase)
over 2004 while the cost of interest-bearing liabilities increased 62 basis
points (a 37.1% increase). This resulted in a 19 basis point increase in net
interest margin compared to the same period in 2004. The Corporation continues
to manage its asset/liability position and interest rate risk through the
methods discussed in the "Market Risk" section of Management's Discussion.
The following table provides a comparative average balance sheet and net
interest income analysis for the second quarter of 2005 as compared to the same
period in 2004. Interest income and yields are presented on a tax-equivalent
basis, using a 35% Federal tax rate. The discussion following this table is
based on these tax-equivalent amounts. All dollar amounts are in thousands.
113
QUARTER ENDED JUNE 30, 2005 QUARTER ENDED JUNE 30, 2004
--------------------------------- ---------------------------------
AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST RATE (1) BALANCE INTEREST RATE (1)
----------- -------- -------- ----------- -------- --------
ASSETS
Interest-earning assets:
Loans and leases.................. $ 7,823,737 $124,080 6.36% $ 6,946,626 $ 97,705 5.65%
Taxable investment securities..... 1,965,683 18,257 3.71 2,299,834 19,652 3.39
Tax-exempt investment securities.. 341,044 4,227 4.96 272,891 3,822 5.60
Equity securities................. 129,980 1,341 4.14 137,528 1,196 3.49
----------- -------- ---- ----------- -------- ----
Total investment securities.......... 2,436,707 23,825 3.91 2,710,253 24,670 3.62
Mortgage loans held for sale...... 152,503 2,699 7.08 115,658 1,962 6.79
Other interest-earning assets..... 47,819 348 2.90 6,717 19 1.09
----------- -------- ---- ----------- -------- ----
Total interest-earning assets........ 10,460,766 150,952 5.79% 9,779,254 124,356 5.10%
Noninterest-earning assets:
Cash and due from banks........... 342,592 332,653
Premises and equipment............ 152,123 130,737
Other assets...................... 554,557 448,946
Less: Allowance for loan losses... (91,209) (86,800)
----------- -----------
Total Assets................... $11,418,829 $10,604,790
=========== ===========
LIABILITIES AND EQUITY
Interest-bearing liabilities:
Demand deposits................... $ 1,484,772 $ 3,309 0.89% $ 1,362,761 $ 1,634 0.48%
Savings deposits.................. 1,986,909 5,859 1.18 1,857,175 2,637 0.57
Time deposits..................... 3,019,818 21,936 2.91 2,841,569 18,074 2.56
----------- -------- ---- ----------- -------- ----
Total interest-bearing deposits...... 6,491,499 31,104 1.92 6,061,505 22,345 1.48
Short-term borrowings............. 1,180,975 7,914 2.68 1,282,657 3,135 0.98
Long-term debt.................... 841,650 9,668 4.59 656,803 7,838 4.70
----------- -------- ---- ----------- -------- ----
Total interest-bearing liabilities... 8,514,124 48,686 2.29% 8,000,965 33,318 1.67%
Noninterest-bearing liabilities:
Demand deposits................... 1,567,611 1,386,770
Other............................. 139,888 114,219
----------- -----------
Total Liabilities.............. 10,221,623 9,501,954
Shareholders' equity................. 1,197,206 1,102,836
----------- -----------
Total Liabilities and
Shareholders' Equity........ $11,418,829 $10,604,790
=========== ===========
Net interest income/
net interest margin (FTE)......... 102,266 3.92% 91,038 3.73%
==== ====
Tax equivalent adjustment............ (2,341) (2,332)
-------- --------
Net interest income.................. $ 99,925 $ 88,706
======== ========
(1) Presented on a fully taxable equivalent (FTE) basis using a 35% Federal tax
rate.
114
The following table summarizes the changes in interest income and expense due to
changes in average balances (volume) and changes in rates:
2005 VS. 2004
INCREASE (DECREASE) DUE
TO CHANGE IN
------------------------------
VOLUME RATE NET
-------- -------- --------
(in thousands)
Interest income on:
Loans and leases ....................... $13,280 $13,095 $26,375
Taxable investment securities .......... (2,981) 1,586 (1,395)
Tax-exempt investment securities ....... 894 (489) 405
Equity securities ...................... (68) 213 145
Mortgage loans held for sale ........... 654 83 737
Other interest-earning assets .......... 262 67 329
------- ------- -------
Total interest-earning assets ....... $12,041 $14,555 $26,596
======= ======= =======
Interest expense on:
Demand deposits ........................ $ 159 $ 1,516 $ 1,675
Savings deposits ....................... 198 3,024 3,222
Time deposits .......................... 1,201 2,661 3,862
Short-term borrowings .................. (268) 5,047 4,779
Long-term debt ......................... 2,153 (323) 1,830
------- ------- -------
Total interest-bearing liabilities .. $ 3,443 $11,925 $15,368
======= ======= =======
Interest income increased $26.6 million, or 21.4%, mainly as a result of both
the increased yield on interest earning assets and growth in average balances.
Interest income increased $14.6 million as a result of the 69 basis point
increase in rates. An additional $12.0 million increase was realized from the
7.0% increase in average balances.
Average loans increased $877.1 million, or 12.6%. The following presents the
growth in average loans by category:
THREE MONTHS ENDED INCREASE
JUNE 30 (DECREASE)
----------------------- -----------------
2005 2004 $ %
---------- ---------- --------- -----
(dollars in thousands)
Commercial - industrial and financial ... $1,970,926 $1,776,940 $ 193,986 10.9%
Commercial - agricultural ............... 319,853 331,575 (11,722) (3.5)
Real estate - commercial mortgage ....... 2,537,606 2,216,617 320,989 14.5
Real estate - commercial construction ... 388,113 312,312 75,801 24.3
Real estate - residential mortgage ...... 570,061 519,353 50,708 9.8
Real estate - residential construction .. 344,823 241,053 103,770 43.0
Real estate - home equity ............... 1,127,228 959,267 167,961 17.5
Consumer ................................ 502,031 517,226 (15,195) (2.9)
Leasing and other ....................... 63,096 72,283 (9,187) (12.7)
---------- ---------- --------- -----
Total ................................ $7,823,737 $6,946,626 $ 877,111 12.6%
========== ========== ========= =====
115
FWSB contributed $251.6 million to the increase in average loans, presented by
type in the following table:
THREE MONTHS
ENDED JUNE 30
---------------
2005 2004 INCREASE
-------- ---- --------
(in thousands)
Commercial - industrial and financial ... $ 51,553 $-- $ 51,553
Commercial - agricultural ............... -- -- --
Real estate - commercial mortgage ....... 129,435 -- 129,435
Real estate - commercial construction ... 19,894 -- 19,894
Real estate - residential mortgage ...... 11,430 -- 11,430
Real estate - residential construction .. 258 -- 258
Real estate - home equity ............... 34,913 -- 34,913
Consumer ................................ 3,737 -- 3,737
Leasing and other ....................... 397 -- 397
-------- --- --------
Total ................................ $251,617 $-- $251,617
======== === ========
The following table presents the growth in average loans, by type, excluding the
average balances contributed by FWSB:
THREE MONTHS INCREASE
ENDED JUNE 30 (DECREASE)
----------------------- ----------------
2005 2004 $ %
---------- ---------- -------- -----
(dollars in thousands)
Commercial - industrial and financial ... $1,919,373 $1,776,940 $142,433 8.0%
Commercial - agricultural ............... 319,853 331,575 (11,722) (3.5)
Real estate - commercial mortgage ....... 2,408,171 2,216,617 191,554 8.6
Real estate - commercial construction ... 368,219 312,312 55,907 17.9
Real estate - residential mortgage ...... 558,631 519,353 39,278 7.6
Real estate - residential construction .. 344,565 241,053 103,512 42.9
Real estate - home equity ............... 1,092,315 959,267 133,048 13.9
Consumer ................................ 498,294 517,226 (18,932) (3.7)
Leasing and other ....................... 62,699 72,283 (9,584) (13.3)
---------- ---------- -------- -----
Total ................................ $7,572,120 $6,946,626 $625,495 9.0%
========== ========== ======== =====
Excluding the impact of FWSB, loan growth continued to be particularly strong in
the commercial and commercial mortgage categories, which together increased
$334.0 million, or 8.4%. Commercial agricultural loans decreased $11.7 million,
or 3.5% due to agricultural customers using excess funds to pay down loans,
instead of expanding their facilities. Residential mortgage and residential
construction increased $142.8 million, or 18.8%, mainly due to an increase in
residential construction lending at Resource Bank. Home equity loans increased
$133.0 million, or 13.9%, due to promotional efforts and customers using home
equity loans as a cost-effective refinance alternative. Consumer loans decreased
slightly, reflecting repayment of these loans with tax-advantaged residential
mortgage or home equity loans.
The average yield on loans during the second quarter of 2005 was 6.36%, a 71
basis point, or 12.6%, increase over 2004. This reflects the impact of a
significant portfolio of floating rate loans, which reprice to higher rates when
interest rates rise.
Average investment securities decreased $273.5 million, or 10.1%. Excluding the
impact of FWSB, this decrease was $506.7 million, or 18.7%. During the past
twelve months, maturities of investment securities exceeded purchases of new
investments, with the resulting net inflow of funds used to support loan growth.
The average yield on investment securities increased 29 basis points, from 3.62%
in 2004 to 3.91% in 2005.
116
Interest expense increased $15.4 million, or 46.1%, to $48.7 million in the
second quarter of 2005, from $33.3 million in the second quarter of 2004.
Interest expense increased $11.9 million as a result of the 62 basis point
increase in the cost of total interest-bearing liabilities, with the remaining
$3.4 million increase due to an increase in average balances, The cost of
interest-bearing deposits increased 44 basis points, or 29.7%, from 1.48% in
2004 to 1.92% in 2005. This increase was due to rising rates in general as a
result of the FRB's rate increases over the past twelve months.
The following table presents average deposits by category:
THREE MONTHS
ENDED JUNE 30 INCREASE
----------------------- ---------------
2005 2004 $ %
---------- ---------- -------- ----
(dollars in thousands)
Noninterest-bearing demand .. $1,567,611 $1,386,770 $180,841 13.0%
Interest-bearing demand ..... 1,484,771 1,362,761 122,010 9.0
Savings/money market ........ 1,986,909 1,857,174 129,735 7.0
Time deposits ............... 3,019,819 2,841,570 178,249 6.3
---------- ---------- -------- ----
Total .................... $8,059,110 $7,448,275 $610,836 8.2%
========== ========== ======== ====
The FWSB acquisition accounted for approximately $419.6 million of the increase
in average balances. The following table presents the average balance impact of
the acquisition, by type:
THREE MONTHS
ENDED JUNE 30
---------------
2005 2004 INCREASE
-------- ---- --------
(in thousands)
Noninterest-bearing demand .. $ 79,743 $-- $ 79,743
Interest-bearing demand ..... 54,268 -- 54,268
Savings/money market ........ 51,082 -- 51,082
Time deposits ............... 234,556 -- 234,556
-------- --- --------
Total .................... $419,649 $-- $419,649
======== === ========
The following table presents the growth in average deposits, by type, excluding
the contribution of FWSB:
THREE MONTHS
ENDED JUNE 30 INCREASE
----------------------- ---------------
2005 2004 $ %
---------- ---------- -------- ----
(dollars in thousands)
Noninterest-bearing demand .. $1,487,868 $1,386,770 $101,098 7.3%
Interest-bearing demand ..... 1,430,503 1,362,761 67,742 5.0
Savings/money market ........ 1,935,827 1,857,174 78,653 4.2
Time deposits ............... 2,785,263 2,841,570 (56,307) (2.0)
---------- ---------- -------- ----
Total .................... $7,639,461 $7,448,276 $191,185 2.6%
========== ========== ======== ====
Average borrowings increased $83.2 million, or 4.3%, to $2.0 billion in the
second quarter of 2005. FWSB added $51.3 million to short-term borrowings and
$9.5 million to long-term debt. Excluding FWSB, average short-term borrowings
decreased $152.9 million, or 11.9%, to $1.1 billion in 2005, while average
long-term debt increased $175.4 million, or 26.7%, to $832.2 million. The
decrease in short-term borrowings was mainly due to a decrease in Federal funds
purchased as funds from deposits and investment maturities were sufficient to
fund increases in loans. The increase in long-term debt was partially due to the
Corporation's issuance of $100.0 million of ten-year subordinated notes in March
117
2005. The remaining increase was mainly due to an increase in Federal Home Loan
Bank Advances. The Corporation locked in longer-term rates in anticipation of
increasing rates. As with the U.S. Treasury yields, longer-term FHLB rates have
decreased over the last year.
Provision and Allowance for Loan Losses
The following table summarizes loans outstanding (net of unearned income):
JUNE 30 December 31 June 30
2005 2004 2004
---------- ----------- ----------
(in thousands)
Commercial - industrial and financial.... $1,991,480 $1,946,962 $1,818,568
Commercial - agricultural................ 322,791 326,176 324,466
Real-estate - commercial mortgage........ 2,556,990 2,461,016 2,240,228
Real-estate - commercial construction.... 396,159 348,846 314,903
Real-estate - residential mortgage....... 558,845 543,072 504,320
Real-estate - residential construction... 347,614 277,940 245,963
Real estate - home equity................ 1,141,749 1,108,249 1,004,532
Consumer................................. 485,489 506,290 522,574
Leasing and other........................ 60,391 65,996 66,757
---------- ---------- ----------
Total................................. $7,861,508 $7,584,547 $7,042,311
========== ========== ==========
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The following table summarizes the activity in the Corporation's allowance for
loan losses:
THREE MONTHS ENDED
JUNE 30
-----------------------
2005 2004
---------- ----------
(dollars in thousands)
Loans outstanding at end of period (net of unearned)... $7,861,508 $7,042,311
========== ==========
Daily average balance of loans and leases.............. $7,823,737 $6,946,626
========== ==========
Balance at beginning of period......................... $ 90,127 $ 78,271
Loans charged-off:
Commercial, financial and agricultural.............. 729 510
Real estate - mortgage.............................. 54 203
Consumer............................................ 836 808
Leasing and other................................... 41 48
---------- ----------
Total loans charged-off............................. 1,660 1,569
---------- ----------
Recoveries of loans previously charged-off:
Commercial, financial and agricultural.............. 479 574
Real estate - mortgage.............................. 467 114
Consumer............................................ 242 412
Leasing and other................................... 22 25
---------- ----------
Total recoveries.................................... 1,210 1,125
---------- ----------
Net loans charged-off.................................. 450 444
Provision for loan losses.............................. 725 800
Allowance purchased (Resource)......................... -- 7,912
---------- ----------
Balance at end of period............................... $ 90,402 $ 86,539
========== ==========
Net charge-offs to average loans (annualized).......... 0.02% 0.03%
========== ==========
Allowance for loan losses to loans outstanding......... 1.15% 1.23%
========== ==========
The following table summarizes the Corporation's non-performing assets:
JUNE 30 DECEMBER 31 JUNE 30
2005 2004 2004
------- ----------- -------
(dollars in thousands)
Non-accrual loans........................ $20,820 $22,574 $21,961
Loans 90 days past due and accruing...... 7,453 8,318 9,314
Other real estate owned (OREO)........... 3,478 2,209 1,119
------- ------- -------
Total non-performing assets.............. $31,751 $33,101 $32,394
======= ======= =======
Non-accrual loans/Total loans............ 0.26% 0.30% 0.31%
Non-performing assets/Total assets....... 0.27% 0.30% 0.31%
Allowance/Non-performing loans........... 320% 290% 277%
The provision for loan losses for the second quarter of 2005 totaled $725,000, a
decrease of $75,000, or 9.4%, from the same period in 2004. Net charge-offs
totaled $450,000, or 0.02% of average loans on an annualized basis, during the
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second quarter of 2005, compared to $444,000 or 0.03% in net charge-offs, for
the second quarter of 2004. Non-performing assets decreased to $31.8 million, or
0.27% of total assets, at June 30, 2005, from $32.4 million, or 0.31% of total
assets, at June 30, 2004.
Management believes that the allowance balance of $90.4 million at June 30, 2005
is sufficient to cover losses inherent in the loan portfolio on that date and is
appropriate based on applicable accounting standards.
Other Income
The following table presents the components of other income:
THREE MONTHS ENDED
JUNE 30 INCREASE (DECREASE)
------------------ -------------------
2005 2004 $ %
------- ------- ------- -----
(in thousands)
Investment management and trust services ... $ 8,966 $ 8,637 $ 329 3.8%
Service charges on deposit accounts ........ 9,960 9,929 31 0.3
Other service charges and fees ............. 7,142 4,970 2,172 43.7
Gain on sale of mortgage loans ............. 6,290 6,050 240 4.0
Investment securities gains ................ 1,418 5,349 (3,931) (73.5)
Gain on sale of deposits ................... 2,201 -- 2,201 N/A
Other ...................................... 2,338 1,727 611 35.4
------- ------- ------- -----
Total ................................... $38,315 $36,662 $ 1,653 4.5%
======= ======= ======= =====
Total other income for the quarter ended June 30, 2005 was $38.3 million, an
increase of $1.7 million, or 4.5%, over the comparable period in 2004. Excluding
investment securities gains, which decreased from $5.3 million in 2004 to $1.4
million in 2005, other income increased $5.6 million, or 17.8%.
Other service charges and fees increased $2.2 million, or 43.7%, due to a
one-time increase in credit card merchant fee income and fees on letters of
credit. During the second quarter of 2005, the Corporation sold three branches
and related deposits in two separate transactions. The sale resulted in $2.2
million of gains primarily from the premiums paid on the $36.7 million of
deposits sold. The $611,000 increase in other income resulted from growth in
various categories.
Investment securities gains decreased $3.9 million, or 73.5%. Investment
securities gains during the second quarter of 2005 consisted of net realized
gains of $1.4 million on the sale of equity securities and $56,000 on the sale
of available for sale debt securities. Investment securities gains during the
second quarter of 2004 consisted of net realized gains of $3.3 million on the
sale of equity securities and $2.0 million on the sale of available for sale
debt securities.
120
Other Expenses
The following table presents the components of other expenses:
THREE MONTHS ENDED INCREASE
JUNE 30 (DECREASE)
------------------ --------------
2005 2004 $ %
------- ------- ------ -----
(dollars in thousands)
Salaries and employee benefits ... $45,235 $41,894 $3,341 8.0%
Net occupancy expense ............ 6,549 5,859 690 11.8
Equipment expense ................ 2,888 2,749 139 5.1
Data processing .................. 3,321 2,868 453 15.8
Advertising ...................... 2,276 1,914 362 18.9
Intangible amortization .......... 1,168 1,356 (188) (13.9)
Other ............................ 16,752 13,957 2,795 20.0
------- ------- ------ -----
Total ......................... $78,189 $70,597 $7,592 10.8%
======= ======= ====== =====
Total other expenses increased $7.6 million, or 10.8%, in 2005, including $3.4
million due to FWSB, detailed as follows:
THREE MONTHS ENDED
JUNE 30
------------------
2005 2004 INCREASE
------ ---- --------
(in thousands)
Salaries and employee benefits ... $1,291 $-- $1,291
Net occupancy expense ............ 358 -- 358
Equipment expense ................ 157 -- 157
Data processing .................. 122 -- 122
Advertising ...................... 55 -- 55
Intangible amortization .......... 154 -- 154
Other ............................ 1,269 -- 1,269
------ --- ------
Total ......................... $3,406 $-- $3,406
====== === ======
The following table presents the components of other expenses, excluding the
amounts contributed by FWSB, for the quarter ended June 30, 2005:
THREE MONTHS ENDED INCREASE
JUNE 30 (DECREASE)
------------------ --------------
2005 2004 $ %
------- ------- ------ -----
(dollars in thousands)
Salaries and employee benefits ... $43,944 $41,894 $2,050 4.9%
Net occupancy expense ............ 6,191 5,859 332 5.7
Equipment expense ................ 2,731 2,749 (18) (0.7)
Data processing .................. 3,199 2,868 331 11.5
Advertising ...................... 2,221 1,914 307 16.0
Intangible amortization .......... 1,014 1,356 (342) (25.2)
Other ............................ 15,483 13,957 1,526 10.9
------- ------- ------ -----
Total ......................... $74,783 $70,597 $4,186 5.9%
======= ======= ====== =====
121
The discussion that follows addresses changes in other expenses, excluding FWSB.
Salaries and employee benefits increased $2.1 million, or 4.9%, in comparison to
the second quarter of 2004. The salary expense component increased $1.4 million,
or 4.2%, driven by salary increases for existing employees and an increase in
average full-time equivalent employees from 3,298 in the second quarter of 2004
to 3,317 in the second quarter of 2005. Employee benefits increased $626,000, or
7.6%, in comparison to the second quarter of 2004 driven mainly by increases in
healthcare costs.
Net occupancy expense increased $332,000, or 5.7%, to $6.2 million in 2005. The
increase resulted from the expansion of the branch network and the addition of
new office space for existing affiliates. Equipment expense decreased $18,000,
or 0.7%, due to lower depreciation expense as certain equipment became fully
depreciated.
Data processing expense, which consists mainly of fees paid for outsourced back
office systems, increased $331,000, or 11.5%, due to the continued growth in
transaction volumes. Advertising expense increased $307,000, or 16.0%, due to
promotional campaigns particularly in retail lines of business. Intangible
amortization decreased $342,000, or 25.2%, in the second quarter of 2005.
Intangible amortization consists of the amortization of unidentifiable
intangible assets related to branch and loan acquisitions, core deposit
intangible assets, and other identified intangible assets. Since many of these
intangibles are amortized using accelerated methods, amortization expense of
existing intangibles decreases over time. Other expense increased $1.5 million,
or 10.9%, due to the timing of certain expenses.
Income Taxes
Income tax expense for the second quarter of 2005 was $17.7 million, a $1.6
million, or 9.6%, increase from $16.2 million in 2004. The Corporation's
effective tax rate for the second quarter of 2005 was approximately 29.9%, as
compared to 30.0% in 2004. The effective rate is lower than the Federal
statutory rate of 35% due mainly to investments in tax-free municipal securities
and federal tax credits from investments in low and moderate income housing
partnerships.
Six Months Ended June 30, 2005 versus Six Months Ended June 30, 2004
Results for the first six months of 2005 when compared to the results of 2004
were impacted by the acquisitions of Resource Bank in April 2004 and FWSB in
December 2004. In the following discussion these are collectively referred to as
the "Acquisitions".
Net Interest Income
Net interest income increased $26.5 million, or 15.4%, to $198.2 million in 2005
from $171.7 million in 2004. This increase was due to both average balance
growth, with total earning assets increasing 10.2%, and an improving net
interest margin. The average yield on earning assets increased 57 basis points
(an 11.1% increase) over 2004 while the cost of interest-bearing liabilities
increased 51 basis points (a 30.5% increase). This resulted in an 18 basis point
increase in net interest margin compared to the same period in 2004. The
Corporation continues to manage its asset/liability position and interest rate
risk through the methods discussed in the "Market Risk" section of Management's
Discussion.
The following table provides a comparative average balance sheet and net
interest income analysis for the first six months of 2005 as compared to the
same period in 2004. Interest income and yields are presented on a
tax-equivalent basis, using a 35% Federal tax rate. The discussion following
this table is based on these tax-equivalent amounts. All dollar amounts are in
thousands.
122
SIX MONTHS ENDED JUNE 30, 2005 SIX MONTHS ENDED JUNE 30, 2004
----------------------------------- -----------------------------------
AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST (1) RATE (1) BALANCE INTEREST (1) RATE (1)
----------- ------------ -------- ----------- ------------ --------
ASSETS
Interest-earning assets:
Loans and leases.................. $ 7,749,797 $241,461 6.28% $ 6,567,307 $187,000 5.72%
Taxable investment securities..... 1,974,723 36,518 3.69 2,351,126 41,388 3.49
Tax-exempt investment securities.. 338,215 8,481 5.02 274,517 7,631 5.56
Equity securities................. 126,907 2,611 4.13 134,540 2,389 3.56
----------- -------- ---- ----------- -------- ----
Total investment securities.......... 2,439,845 47,610 3.90 2,760,183 51,408 3.70
Mortgage loans held for sale...... 132,670 4,511 6.80 65,435 2,201 6.73
Other interest-earning assets..... 38,313 524 2.74 5,231 29 1.12
----------- -------- ---- ----------- -------- ----
Total interest-earning assets..... 10,360,625 294,106 5.71% 9,398,156 240,638 5.14%
Noninterest-earning assets:
Cash and due from banks........... 332,747 316,721
Premises and equipment............ 150,579 126,083
Other assets...................... 562,889 383,127
Less: Allowance for loan losses... (90,851) (82,766)
----------- -----------
Total Assets................... $11,315,989 $10,141,321
=========== ===========
LIABILITIES AND EQUITY
Interest-bearing liabilities:
Demand deposits................... $ 1,489,850 $ 6,279 0.85% $ 1,315,716 $ 2,989 0.46%
Savings deposits.................. 1,949,573 10,324 1.07 1,808,638 5,143 0.57
Time deposits..................... 3,008,161 42,309 2.84 2,636,657 34,563 2.64
----------- -------- ---- ----------- -------- ----
Total interest-bearing deposits...... 6,447,584 58,912 1.84 5,761,011 42,695 1.49
Short-term borrowings............. 1,210,053 14,738 2.44 1,313,972 6,462 0.98
Long-term debt.................... 761,992 17,598 4.64 613,439 15,130 4.85
----------- -------- ---- ----------- -------- ----
Total interest-bearing liabilities... 8,419,629 91,248 2.18% 7,688,422 64,287 1.67%
Noninterest-bearing liabilities:
Demand deposits................... 1,538,526 1,322,155
Other............................. 133,554 103,784
----------- -----------
Total Liabilities.............. 10,091,709 9,114,361
Shareholders' equity................. 1,224,280 1,026,960
----------- -----------
Total Liabilities and
Shareholders' Equity........ $11,315,989 $10,141,321
=========== ===========
Net interest income/net interest
margin (FTE)...................... 202,858 3.94% 176,351 3.76%
==== ====
Tax equivalent adjustment............ (4,685) (4,678)
-------- --------
Net interest income.................. $198,173 $171,673
======== ========
(1) Presented on a fully taxable equivalent (FTE) basis using a 35% Federal tax
rate.
123
The following table summarizes the changes in interest income and expense due to
changes in average balances (volume) and changes in rates:
2005 VS. 2004
INCREASE (DECREASE) DUE
TO CHANGE IN
---------------------------
VOLUME RATE NET
------- ------- -------
(in thousands)
Interest income on:
Loans and leases ....................... $35,361 $19,100 $54,461
Taxable investment securities .......... (6,958) 2,088 (4,870)
Tax-exempt investment securities ....... 1,631 (781) 850
Equity securities ...................... (143) 365 222
Mortgage loans held for sale ........... 2,280 30 2,310
Other interest-earning assets .......... 401 94 495
------- ------- -------
Total interest-earning assets ....... $32,572 $20,896 $53,468
======= ======= =======
Interest expense on:
Demand deposits ........................ $ 438 $ 2,852 $ 3,290
Savings deposits ....................... 427 4,754 5,181
Time deposits .......................... 5,033 2,713 7,746
Short-term borrowings .................. (549) 8,825 8,276
Long-term debt ......................... 3,442 (974) 2,468
------- ------- -------
Total interest-bearing liabilities .. $ 8,791 $18,170 $26,961
======= ======= =======
Interest income increased $53.5 million, or 22.2%, due to a combination of
increases in average interest-earning assets, which contributed $32.6 million to
the increase, and increases in average yields, which resulted in a $20.9 million
increase.
Average interest-earning assets increased $962.5 million, or 10.2%, mainly as a
result of a $709.0 million contribution from the Acquisitions. Internal growth
in average loans of $474.4 million was more than offset by a $612.3 million
decline in average investments. However, this change in the mix of earning
assets contributed to the 57 basis point increase in average yields.
The Corporation's average loan portfolio increased $1.2 billion, or 18.0%, as
shown by type in the following table:
SIX MONTHS ENDED
JUNE 30 INCREASE (DECREASE)
----------------------- -------------------
2005 2004 $ %
---------- ---------- ---------- -----
(dollars in thousands)
Commercial - industrial and financial ... $1,987,810 $1,691,552 $ 296,258 17.5%
Commercial - agricultural ............... 323,257 340,386 (17,129) (5.0)
Real estate - commercial mortgage ....... 2,488,974 2,115,053 373,921 17.7
Real estate - commercial construction ... 375,603 283,068 92,535 32.7
Real estate - residential mortgage ...... 565,272 480,601 84,671 17.6
Real estate - residential construction .. 327,459 142,258 185,201 130.2
Real estate - home equity ............... 1,117,139 928,917 188,222 20.3
Consumer ................................ 501,252 515,086 (13,834) (2.7)
Leasing and other ....................... 63,031 70,386 (7,355) (10.4)
---------- ---------- ---------- -----
Total ................................ $7,749,797 $6,567,307 $1,182,490 18.0%
========== ========== ========== =====
124
The Acquisition contributed approximately $709.0 million to the increase in
average balances. The following table presents the average balance impact of the
Acquisitions, by type:
SIX MONTHS ENDED
JUNE 30
---------------------
2005 2004 INCREASE
---------- -------- --------
(in thousands)
Commercial - industrial and financial ... $ 187,095 $ 52,853 $134,242
Commercial - agricultural ............... 1,601 195 1,406
Real estate - commercial mortgage ....... 298,143 82,991 215,152
Real estate - commercial construction ... 108,154 35,752 72,402
Real estate - residential mortgage ...... 90,158 34,625 55,533
Real estate - residential construction .. 270,978 98,694 172,284
Real estate - home equity ............... 51,971 4,510 47,461
Consumer ................................ 6,240 1,329 4,911
Leasing and other ....................... 7,018 1,363 5,655
---------- -------- --------
Total ................................ $1,021,358 $312,312 $709,046
========== ======== ========
The following table presents the growth in average loans, by type, excluding the
average balances contributed by the Acquisitions:
SIX MONTHS ENDED
JUNE 30 INCREASE (DECREASE)
----------------------- -------------------
2005 2004 $ %
---------- ---------- -------- -----
(dollars in thousands)
Commercial - industrial and financial ... $1,800,715 $1,638,699 $162,016 9.9%
Commercial - agricultural ............... 321,656 340,191 (18,535) (5.4)
Real estate - commercial mortgage ....... 2,190,831 2,032,062 158,769 7.8
Real estate - commercial construction ... 267,449 247,316 20,133 8.1
Real estate - residential mortgage ...... 475,114 445,976 29,138 6.5
Real estate - residential construction .. 56,481 43,564 12,917 29.7
Real estate - home equity ............... 1,065,168 924,407 140,761 15.2
Consumer ................................ 495,012 513,757 (18,745) (3.6)
Leasing and other ....................... 56,013 69,023 (13,010) (18.8)
---------- ---------- -------- -----
Total ................................ $6,728,439 $6,254,995 $473,444 7.6%
========== ========== ======== =====
Excluding the impact of the Acquisitions, average loan growth continued to be
particularly strong in the commercial and commercial mortgage categories, which
together increased $320.8 million, or 8.7%. Commercial agricultural loans
decreased $18.5 million, or 5.4% due to agricultural customers using excess
funds to pay down loans, instead of expanding their facilities. Residential
mortgage and residential construction increased $42.1 million, or 8.6%. Home
equity loans increased $140.8 million, or 15.2%, due to promotional efforts and
customers using home equity loans as a cost-effective refinance alternative.
Consumer loans decreased slightly, reflecting repayment of these loans with
tax-advantaged residential mortgage or home equity loans. Leasing and other
loans decreased $13.0 million, or 18.8%.
The average yield on loans during the first six months of 2005 was 6.28%, a 56
basis point, or 9.8%, increase over 2004. This reflects the impact of a
significant portfolio of floating rate loans, which reprice to higher rates when
interest rates rise, as they have over the past twelve months.
125
Average investment securities decreased $320.3 million, or 11.6%. Excluding the
impact of the Acquisitions, this decrease was $612.3 million, or 22.6%. During
the past twelve months, maturities of investment securities exceeded purchases
as funds were used to support loan growth and reduce short-term borrowings. The
average yield on investment securities increased 20 basis points from 3.70% in
2004 to 3.90% in 2005.
Interest expense increased $27.0 million, or 41.9%, to $91.2 million in the
first six months of 2005 from $64.3 million in the first six months of 2004.
Interest expense increased $18.2 million as a result of the 51 basis point
increase in the cost of total interest-bearing liabilities, with the remaining
increase of $8.8 million due to an increase in average balances. The cost of
interest-bearing deposits increased 35 basis points, or 23.5%, from 1.49% in
2004 to 1.84% in 2005. This increase was due to rising rates in general as a
result of the FRB's rate increases over the past twelve months.
The following table presents the growth in average deposits by category:
SIX MONTHS ENDED
JUNE 30 INCREASE
----------------------- ---------------
2005 2004 $ %
---------- ---------- -------- ----
(dollars in thousands)
Noninterest-bearing demand .. $1,538,526 $1,322,155 $216,371 16.4%
Interest-bearing demand ..... 1,489,850 1,315,716 174,134 13.2
Savings/money market ........ 1,949,573 1,808,638 140,935 7.8
Time deposits ............... 3,008,161 2,636,657 371,504 14.1
---------- ---------- -------- ----
Total .................... $7,986,110 $7,083,166 $902,944 12.7%
========== ========== ======== ====
The Acquisitions accounted for approximately $809.1 million of the increase in
average balances. The following table presents the average balance impact of the
Acquisitions, by type:
SIX MONTHS ENDED
JUNE 30
---------------------
2005 2004 INCREASE
---------- -------- --------
(in thousands)
Noninterest-bearing demand .. $ 119,004 $ 19,187 $ 99,817
Interest-bearing demand ..... 103,032 27,453 75,579
Savings/money market ........ 161,079 22,391 138,688
Time deposits ............... 714,762 219,739 495,023
---------- -------- --------
Total .................... $1,097,877 $288,770 $809,107
========== ======== ========
The following table presents the growth in average deposits, by type, excluding
the contribution of the Acquisitions:
SIX MONTHS ENDED
JUNE 30 INCREASE (DECREASE)
----------------------- -------------------
2005 2004 $ %
---------- ---------- --------- -------
(dollars in thousands)
Noninterest-bearing demand .. $1,419,522 $1,302,968 $ 116,554 8.9%
Interest-bearing demand ..... 1,386,818 1,288,263 98,555 7.7
Savings/money market ........ 1,788,494 1,786,247 2,247 0.1
Time deposits ............... 2,293,399 2,416,918 (123,519) (5.1)
---------- ---------- --------- ----
Total .................... $6,888,233 $6,794,396 $ 93,837 1.4%
========== ========== ========= ====
126
Average borrowings increased $44.6 million, or 2.3%, to $2.0 billion in the
first six months of 2005. The Acquisitions added $160.5 million to short-term
borrowings and $75.7 million to long-term debt. Excluding the Acquisitions,
average short-term borrowings decreased $264.4 million, or 21.3%, to $978.3
million in 2005, while average long-term debt increased $72.8 million, or 12.7%,
to $647.1 million. The decrease in short-term borrowings was mainly due to a
decrease in Federal funds purchased as funds from deposit growth and investment
maturities were sufficient to fund increases in loans. The increase in long-term
debt was partially due to the Corporation's issuance of $100.0 million of
ten-year subordinated notes in March 2005.
Provision and Allowance for Loan Losses
The following table summarizes the activity in the Corporation's allowance for
loan losses:
SIX MONTHS ENDED
JUNE 30
-----------------------
2005 2004
---------- ----------
(dollars in thousands)
Loans outstanding at end of period (net of unearned) .. $7,861,508 $7,042,311
========== ==========
Daily average balance of loans and leases ............. $7,749,797 $6,567,307
========== ==========
Balance at beginning of period ........................ $ 89,627 $ 77,700
Loans charged-off:
Commercial, financial and agricultural ............. 1,552 1,489
Real estate - mortgage ............................. 241 967
Consumer ........................................... 1,601 1,595
Leasing and other .................................. 85 181
---------- ----------
Total loans charged-off ............................ 3,479 4,232
---------- ----------
Recoveries of loans previously charged-off:
Commercial, financial and agricultural ............. 1,176 1,091
Real estate - mortgage ............................. 917 560
Consumer ........................................... 608 911
Leasing and other .................................. 28 57
---------- ----------
Total recoveries ................................... 2,729 2,619
---------- ----------
Net loans charged-off ................................. 750 1,613
Provision for loan losses ............................. 1,525 2,540
Allowance purchased (Resource) ........................ -- 7,912
---------- ----------
Balance at end of period .............................. $ 90,402 $ 86,539
========== ==========
Net charge-offs to average loans (annualized) ......... 0.02% 0.05%
========== ==========
Allowance for loan losses to loans outstanding ........ 1.15% 1.23%
========== ==========
The provision for loan losses for the first six months of 2005 totaled $1.5
million, a decrease of $1.0 million, or 40.0%, from the same period in 2004. Net
charge-offs totaled $750,000, or 0.02% of average loans on an annualized basis,
during the first six months of 2005, an $863,000 improvement over the $1.6
million, or 0.05%, in net charge-offs for the first six months of 2004.
Non-performing assets decreased to $31.8 million, or 0.27% of total assets, at
June 30, 2005, from $32.4 million, or 0.30% of total assets, at June 30, 2004.
127
Management believes that the allowance balance of $90.4 million at June 30, 2005
is sufficient to cover losses inherent in the loan portfolio on that date and is
appropriate based on applicable accounting standards.
Other Income
The following table presents the components of other income:
SIX MONTHS ENDED
JUNE 30 INCREASE (DECREASE)
----------------- -------------------
2005 2004 $ %
------- ------- ------- -----
(dollars in thousands)
Investment management and trust services .. $17,985 $17,282 $ 703 4.1%
Service charges on deposit accounts ....... 19,292 19,434 (142) (0.7)
Other service charges and fees ............ 12,698 9,996 2,702 27.0
Gain on sale of mortgage loans ............ 12,339 7,764 4,575 58.9
Investment securities gains ............... 4,733 11,177 (6,444) (57.7)
Gain on sale of deposits .................. 2,201 -- 2,201 N/A
Other ..................................... 4,920 3,047 1,873 61.5
------- ------- ------- -----
Total .................................. $74,168 $68,700 $ 5,468 8.0%
======= ======= ======= =====
Total other income for the six months ended June 30, 2005 was $74.2 million, an
increase of $5.5 million, or 8.0%, over the comparable period in 2004. Excluding
investment securities gains, which decreased from $11.2 million in 2004 to $4.7
million in 2005, other income increased $11.9 million, or 20.7%. The
Acquisitions contributed $7.1 million to this increase.
Gains on sale of mortgage loans increased $4.6 million with the Acquisitions,
mainly Resource Bank, contributing $4.1 million of the increase. Service charges
on deposit accounts decreased $142,000, or 0.7%, (excluding the Acquisitions,
service charges on deposit accounts decreased $681,000). The decrease was mainly
due to increases in existing customers' balances resulting in lower service
charges for those accounts. Other service charges and fees increased $2.7
million, or 27.0%, due mainly to a one-time increase in credit card merchant fee
income and letter of credit fees.
During the second quarter of 2005, the Corporation sold three branches and
related deposits in two separate transactions. The sales resulted in $2.2
million of gains, primarily from the premiums paid on the deposits, which
totaled $36.7 million. Other income increased $1.9 million, or 61.5%, with the
Acquisitions accounting for $1.1 million of the increase and approximately
$600,000 resulting from the change in the fair values of certain derivatives
related to forward commitments for loan sales.
Investment securities gains decreased $6.4 million, or 57.7%. These gains during
the first six months of 2005 consisted of net realized gains of $3.9 million on
the sale of equity securities and $845,000 on the sale of available-for-sale
debt securities. Investment securities gains during the first six months of 2004
consisted of net realized gains of $8.1 million on the sale of equity securities
and $3.1 million on the sale of available-for-sale debt securities. See the
"Market Risk" section of Management's Discussion for information on the risks
associated with the Corporation's portfolio of equity securities.
128
Other Expenses
The following table presents the components of other expenses:
SIX MONTHS ENDED
JUNE 30 INCREASE
------------------- --------------
2005 2004 $ %
-------- -------- ------- ----
(dollars in thousands)
Salaries and employee benefits ... $ 89,532 $ 78,724 $10,808 13.7%
Net occupancy expense ............ 14,047 11,377 2,670 23.5
Equipment expense ................ 5,958 5,390 568 10.5
Data processing .................. 6,490 5,687 803 14.1
Advertising ...................... 4,249 3,442 807 23.4
Intangible amortization .......... 2,347 2,347 -- --
Other ............................ 29,393 25,974 3,419 13.2
-------- -------- ------- ----
Total ......................... $152,016 $132,941 $19,075 14.3%
======== ======== ======= ====
Total other expenses increased $19.1 million, or 14.3%, in 2005, including $15.5
million due to the Acquisitions, as follows:
SIX MONTHS ENDED
JUNE 30
----------------
2005 2004 INCREASE
------- ------ --------
(in thousands)
Salaries and employee benefits ... $12,315 $4,472 $ 7,843
Net occupancy expense ............ 2,226 621 1,605
Equipment expense ................ 1,106 380 726
Data processing .................. 941 239 702
Advertising ...................... 546 173 373
Intangible amortization .......... 520 127 393
Other ............................ 5,536 1,656 3,880
------- ------ -------
Total ......................... $23,190 $7,668 $15,522
======= ====== =======
The following table presents the components of other expenses, excluding the
amounts contributed by the Acquisitions:
SIX MONTHS ENDED INCREASE
JUNE 30 (DECREASE)
------------------- --------------
2005 2004 $ %
-------- -------- ------ -----
(dollars in thousands)
Salaries and employee benefits ... $ 77,217 $ 74,252 $2,965 4.0%
Net occupancy expense ............ 11,821 10,756 1,065 9.9
Equipment expense ................ 4,852 5,010 (158) (3.2)
Data processing .................. 5,549 5,448 101 1.9
Advertising ...................... 3,703 3,269 434 13.3
Intangible amortization .......... 1,827 2,220 (393) (17.7)
Other ............................ 23,857 24,318 (461) (1.9)
-------- -------- ------ -----
Total ......................... $128,826 $125,273 $3,553 2.8%
======== ======== ====== =====
129
The discussion that follows addresses changes in other expenses, excluding the
Acquisitions.
Salaries and employee benefits increased $3.0 million, or 4.0%, in comparison to
the first six months of 2004. The salary expense component increased $1.9
million, or 3.2%, driven by salary increases for existing employees. Average
full-time equivalent employees decreased from 2,906 in the first six months of
2004 to 2,891 in the first six months of 2005. Employee benefits increased $1.1
million, or 7.5%, in comparison to the first six months of 2004 driven mainly by
continued increases in healthcare costs.
Net occupancy expense increased $1.1 million, or 9.9%, to $11.8 million in 2005.
The increase resulted from the expansion of the branch network and the addition
of new office space for existing affiliates. Equipment expense decreased
$158,000, or 3.2%, due to lower depreciation expense as certain equipment became
fully depreciated.
Data processing expense, which consists mainly of fees paid for outsourced back
office systems, increased $101,000, or 1.9%. Advertising expense increased
$434,000, or 13.3%, due to the timing of promotional campaigns. Intangible
amortization decreased $393,000, or 17.7%, in the first six months of 2005.
Intangible amortization consists of the amortization of unidentifiable
intangible assets related to branch and loan acquisitions, core deposit
intangible assets, and other identified intangible assets. Since many of these
intangibles are amortized using accelerated methods, amortization expense of
existing intangibles decreases over time. Other expense decreased $461,000, or
1.9%, mainly as a result of several non-recurring items, including a reduction
of the reserve for legal contingencies.
Income Taxes
Income tax expense for the first six months of 2005 was $35.8 million, a $4.4
million, or 14.2%, increase from $31.3 million in 2004. The Corporation's
effective tax rate was approximately 30.1% in 2005 as compared to 29.9% in 2004.
The effective rate is lower than the Federal statutory rate of 35% due mainly to
investments in tax-free municipal securities and federal tax credits from
investments in low and moderate income housing partnerships.
FINANCIAL CONDITION
Total assets of the Corporation increased $412.7 million, or 3.7%, to $11.6
billion at June 30, 2005, compared to $11.2 billion at December 31, 2004.
Increases occurred in loans ($277.0 million, or 3.7%), loans held for sale
($78.8 million, or 49.6%), and cash balances ($80.5 million, or 29.0%), while
investment securities decreased modestly ($20.5 million, or 0.8%) and other
earnings assets decreased $14.1 million.
Commercial loans and mortgages grew $184.6 million, or 3.6%, during the
six-month period, while residential mortgages increased $85.4 million, or 10.4%,
mainly in construction loans. The increase in loans held for sale resulted from
a continued decrease in residential mortgage rates during the period and an
expansion of the Corporation's mortgage banking business. The $80.5 million
increase in cash and due from banks was due to the nature of these accounts as
daily balances can fluctuate up or down in the normal course of business.
Deposits increased $244.1 million, or 3.1%, from December 31, 2004 to $8.1
billion. Noninterest-bearing deposits increased $104.1 million, or 6.9%, while
interest-bearing demand deposits decreased $30.1. million, or 2.0%, and savings
deposits increased $48.3 million, or 2.5%. Time deposits increased $121.8
million, or 4.1%, as rates have become more attractive to consumers.
Short-term borrowings, which consist mainly of Federal funds purchased and
customer cash management accounts, decreased $59.9 million, or 5.0%, during the
first six months of 2005. The decrease in short-term borrowings was mainly
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due to a decrease in Federal funds purchased, as funds from other sources
including deposits and investment maturities, were sufficient to fund increases
in loans.
Long-term debt increased $267.5 million, or 39.1%, partially due to $100.0
million of subordinated debt issued in March 2005. See the "Liquidity" section
of Management's Discussion for a summary of the terms of this debt. The
remaining increase was mainly due to an increase in Federal Home Loan Bank
Advances. The Corporation locked in longer-term rates in anticipation of
increasing rates. As with the U.S. Treasury yields, longer-term FHLB rates have
decreased over the last year.
Capital Resources
Total shareholders' equity decreased $48.3 million, or 3.9%, during the first
six months of 2005. Increases due to net income of $83.0 million and $7.2
million in stock issuances were offset by $85.2 million in stock repurchases,
$43.5 million in cash dividends to shareholders, $9.0 million in unrealized
losses on securities, and $1.0 million in unrealized losses on derivative
financial instruments.
The Corporation periodically implements stock repurchase plans for various
corporate purposes. In addition to evaluating the financial benefits of
implementing repurchase plans, management also considers liquidity needs, the
current market price per share and regulatory limitations. In December 2004, the
Board of Directors approved an extension of an existing repurchase plan from
December 31, 2004 to June 30, 2005 and increased the total number of shares that
could be repurchased to 5.0 million. During the second quarter of 2005, the
Corporation repurchased 4.3 million shares under an "accelerated share
repurchase" plan (ASR), bringing the total shares purchased during the first six
months of 2005 to 5.0 million and completing the board-approved repurchase plan.
See Note L in the Notes to Consolidated Financial Statements for additional
information on the ASR.
The Corporation and its subsidiary banks are subject to various regulatory
capital requirements administered by banking regulators. Failure to meet minimum
capital requirements can initiate certain actions by regulators that could have
a material effect on the Corporation's financial statements. The regulations
require that banks maintain minimum amounts and ratios of total and Tier I
capital (as defined in the regulations) to risk weighted assets (as defined),
and Tier I capital to average assets (as defined). As of June 30, 2005, the
Corporation and each of its bank subsidiaries met the minimum requirements. In
addition, the Corporation and each of its bank subsidiaries' capital ratios
exceeded the amounts required to be considered "well-capitalized" as defined in
the regulations. The following table summarizes the Corporation's capital ratios
in comparison to regulatory requirements as of June 30:
REGULATORY MINIMUM
----------------------
JUNE 30 DECEMBER 31 CAPITAL WELL
2005 2004 ADEQUACY CAPITALIZED
------- ----------- -------- -----------
Total Capital (to Risk Weighted Assets) ..... 12.4% 11.8% 8.0% 10.0%
Tier I Capital to (Risk Weighted Assets) .... 10.1% 10.6% 4.0% 6.0%
Tier I Capital (to Average Assets) .......... 7.7% 8.8% 3.0% 5.0%
Liquidity
The Corporation must maintain a sufficient level of liquid assets to meet the
cash needs of its customers, who, as depositors, may want to withdraw funds or
who, as borrowers, need credit availability. Liquidity is provided on a
continuous basis through scheduled and unscheduled principal and interest
payments on outstanding loans and investments and through the availability of
deposits and borrowings. In addition, the Corporation can borrow on a secured
basis from the Federal Home Loan Bank to meet short-term liquidity needs.
The Corporation's sources and uses of cash were discussed in general terms in
the net interest income section of Management's Discussion. The Consolidated
Statements of Cash Flows provide additional information. The Corporation
generated $28.2 million in cash from operating activities during the first six
months of 2005. Operating cash flows were
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significantly lower than net income of $83.0 million, mainly due to cash
outflows to fund loans originated for sale that had not yet been sold as of June
30, 2005. Investing activities resulted in a net cash outflow of $280.9 million,
as purchases of investment securities and loan originations exceeded sales and
maturities of investment securities. Finally, financing activities resulted in a
net inflow of $333.3 million due to increases in both deposits and borrowings,
offset by dividends paid to shareholders and repurchases of treasury stock.
Liquidity must also be managed at the Fulton Financial Corporation Parent
Company level. For safety and soundness reasons, banking regulations limit the
amount of cash that can be transferred from subsidiary banks to the Parent
Company in the form of loans and dividends. Generally, these limitations are
based on the subsidiary banks' regulatory capital levels and their net income.
Until 2004, the Parent Company had been able to meet its cash needs through
normal, allowable dividends and loans. However, as a result of increased
acquisition activity and stock repurchase plans, the Parent Company's cash needs
have increased, requiring additional sources of funds.
In July 2004, the Parent Company entered into a revolving line of credit
agreement with an unaffiliated bank. Under the terms of the agreement, the
Parent Company can borrow up to $50.0 million (which may be increased to $100.0
million upon request) with interest calculated at the one-month London Interbank
Offering Rate (LIBOR) plus 0.625%. The credit agreement requires the Corporation
to maintain certain financial ratios related to capital strength and earnings.
At June 30, 2005, the Corporation had borrowed $20.0 million on the line and was
in compliance with all covenants under the credit agreement.
In March 2005, the Parent Company issued $100 million of ten year subordinated
notes at a fixed rate of 5.35%. Interest is paid semi-annually, beginning in
October 2005 and the notes mature on April 1, 2015. In addition to providing
funds to the Parent Company, this subordinated debt is also a component of total
regulatory capital.
These borrowing arrangements supplement the liquidity available from
subsidiaries through dividends and borrowings and provide some flexibility in
Parent Company cash management. Management continues to monitor the liquidity
and capital needs of the Parent Company and will implement appropriate
strategies, as necessary, to remain well capitalized and to meet its cash needs.
In addition to its normal recurring and operating cash needs, the Parent Company
paid approximately $20.7 million in cash on July 1, 2005 for a portion of the
SVB acquisition. See Note I, "Subsequent Events" in the Notes to Consolidated
Financial Statements for a summary of the terms of this transaction.
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