SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED MARCH 31, 2000
COMMISSION FILE NUMBER 0-11595
MERCHANTS BANCSHARES, INC.
(A DELAWARE CORPORATION)
EMPLOYER IDENTIFICATION NO. 03-0287342
164 College Street, Burlington, VT 05401
Telephone: (802) 658-3400
Indicate by check mark whether the registrant 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 has been subject to such
filing requirement for the past 90 days.
YES X NO
----- -----
4,278,217 Shares Common Stock $.01 Par Outstanding March 31, 2000
MERCHANTS BANCSHARES, INC.
INDEX TO FORM 10-Q
PART I
ITEM 1 FINANCIAL STATEMENTS
Consolidated Balance Sheets
March 31, 2000 and December 31, 1999 1
Consolidated Statements of Operations
For the three months ended March 31, 2000 and 1999 2
Consolidated Statements of Comprehensive Income
For the three months ended March 31, 2000 and 1999 3
Consolidated Statement of Changes in Stockholders' Equity
For the three months ended March 31, 2000 and 1999 and
the Year ended December 31, 1999 4
Consolidated Statements of Cash Flows
For the three months ended March 31, 2000 and 1999 5
Footnotes to Financial Statements as of March 31, 2000 6-7
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 8-12
PART II - OTHER INFORMATION
ITEM 1 Legal Proceedings 13-14
ITEM 2 Changes in Securities NONE
ITEM 3 Defaults upon Senior Securities NONE
ITEM 4 Submission of Matters to a Vote of Security Holders NONE
ITEM 5 Other Information NONE
ITEM 6 Exhibits and Reports on Form 8-K NONE
SIGNATURES 15
Merchants Bancshares, Inc.
Consolidated Balance Sheets
March 31, December 31,
(In thousands except share and per share data) 2000 1999
-------------------------
Unaudited
ASSETS
Cash and Due from Banks $ 31,558 $ 23,746
Investments:
Debt Securities Held for Sale 76,373 72,229
Debt Securities Held to Maturity 126,531 126,281
(Fair Value of $121,833 and $122,305)
Trading Securities 1,034 1,075
-----------------------
Total Investments 203,938 199,585
-----------------------
Loans 457,936 453,692
Reserve for possible loan losses 11,141 11,189
-----------------------
Net Loans 446,795 442,503
-----------------------
Federal Home Loan Bank Stock 3,362 2,951
Federal Funds Sold 4,500 --
Bank Premises and Equipment, Net 13,109 13,175
Investment in Real Estate Limited Partnerships 2,870 2,751
Other Real Estate Owned 125 133
Other Assets 16,150 16,519
-----------------------
Total Assets $722,407 $701,363
=======================
LIABILITIES
Deposits:
Demand $ 85,201 $ 86,160
Savings, NOW and Money Market Accounts 389,255 369,929
Time Deposits $100 thousand and Greater 27,335 25,590
Other Time 133,967 131,564
-----------------------
Total Deposits 635,758 613,243
-----------------------
Demand Note Due U.S. Treasury 1,830 4,000
Other Short-Term Borrowings 12,000 7,000
Other Liabilities 6,426 6,013
Long-Term Debt 1,567 6,371
-----------------------
Total Liabilities 657,581 636,627
-----------------------
Commitments and Contingencies (Note 4)
STOCKHOLDERS' EQUITY
Preferred Stock Class A Non-Voting
Authorized - 200,000, Outstanding 0 -- --
Preferred Stock Class B Voting
Authorized - 1,500,000, Outstanding 0 -- --
Common Stock, $.01 Par Value 44 44
Shares Authorized 7,500,000
Outstanding, Current Period 4,134,541
Prior Period 4,194,810
Capital in Excess of Par Value 33,072 33,072
Retained Earnings 36,972 35,368
Treasury Stock (At Cost) (6,017) (4,699)
Current Period 300,079
Prior Period 239,810
Deferred Compensation Arrangements 2,378 2,372
Unrealized losses on Securities Available
for Sale, Net (1,623) (1,421)
-----------------------
Total Stockholders' Equity 64,826 64,736
-----------------------
Total Liabilities and Stockholders' Equity $722,407 $701,363
=======================
The accompanying notes are an integral part of these consolidated financial
statements.
Merchants Bancshares, Inc.
Consolidated Statements of Operations
Unaudited
Quarter Ended March 31,
(In thousands except per share data) 2000 1999
-----------------------
INTEREST AND DIVIDEND INCOME
Interest and Fees on Loans $10,024 $ 8,949
Interest and Dividends on Investments
U.S. Treasury and Agency Obligations 2,879 2,697
Other 538 220
------------------
Total Interest Income 13,441 11,866
------------------
INTEREST EXPENSE
Savings, NOW and Money Market Accounts 3,060 2,323
Time Deposits $100 Thousand and Greater 381 339
Other Time Deposits 1,554 1,578
Other Borrowed Funds 210 162
Debt 157 116
------------------
Total Interest Expense 5,362 4,518
------------------
Net Interest Income 8,079 7,348
Provision for Possible Loan Losses (357) --
------------------
Net Interest Income after Provision
for Loan Losses 8,436 7,348
------------------
NONINTEREST INCOME
Trust Company Income 432 443
Service Charges on Deposits 846 655
Settlement proceeds -- 1,326
Gain on Sale of Investments, Net 1 --
Other 331 259
------------------
Total Noninterest Income 1,610 2,683
------------------
NONINTEREST EXPENSES
Salaries and Wages 2,656 2,360
Employee Benefits 773 633
Occupancy Expense, Net 579 732
Equipment Expense 630 565
Legal and Professional Fees 264 637
Marketing 311 178
Equity in Losses of Real Estate
Limited Partnerships 150 129
Expenses - Other Real Estate Owned 59 87
Loss on Disposition of Fixed Assets 21 52
Other 1,289 1,066
------------------
Total Noninterest Expenses 6,732 6,439
------------------
Income Before Income Taxes 3,314 3,592
Provision for Income Taxes 832 869
------------------
NET INCOME $ 2,482 $ 2,723
==================
Basic Earnings Per Common Share $ 0.58 $ 0.62
Diluted Earnings Per Common Share $ 0.58 $ 0.62
The accompanying notes are an integral part of these consolidated financial
statements.
Merchants Bancshares, Inc.
Consolidated Statements of Comprehensive Income
Unaudited
Three Months Ended
March 31,
(In thousands) 2000 1999
------------------
Net Income as Reported $2,482 $2,723
Change in Net Unrealized Appreciation (Depreciation)
of Securities, Net of Tax (226) (241)
----------------
Comprehensive Income Before Transfers
From Available for Sale to Held to Maturity 2,256 2,482
Impact of transfer of Securities from Available
for Sale to Held to Maturity 24 (3)
----------------
Comprehensive Income $2,280 $2,479
================
The accompanying notes are an integral part of these consolidated financial
statements.
Merchants Bancshares, Inc.
Consolidated Statements of Changes in Stockholders' Equity
For the Year Ended December 31, 1999 and
the three months ended March 31, 2000 and 1999
Unaudited
Net Unrealized
Appreciation
Capital in Deferred (Depreciation)
Common Excess of Retained Treasury Compensation of Investment
(In thousands) Stock Par Value Earnings Stock Arrangements Securities Total
----------------------------------------------------------------------------------
Balance, December 31, 1998 $44 $33,073 $28,308 $(3,133) $2,166 $ 371 $60,829
Net Income -- -- 2,723 -- -- -- 2,723
Purchase of Treasury Stock -- -- -- (513) -- -- (513)
Issuance of Stock under
Employee Stock Option Plans -- -- -- 1 28 -- 29
Dividends Paid -- -- (809) -- -- -- (809)
Unearned Compensation --
Restricted Stock Awards -- 5 -- -- (4) -- 1
Change in Net Unrealized Appreciation
(Depreciation) of Securities
Available for Sale, Net of Tax -- -- -- -- -- (241) (241)
Change in Net Unrealized Appreciation
of Securities Transferred to the Held
to Maturity Portfolio, Net of Tax -- -- -- -- -- (3) (3)
---------------------------------------------------------------------------------
Balance March 31, 1999 44 33,078 30,222 (3,645) 2,190 127 62,016
Net Income -- -- 7,727 -- -- -- 7,727
Purchase of Treasury Stock -- -- -- (1,107) -- -- (1,107)
Issuance of Stock under
Employee Stock Option Plans -- (1) -- 22 -- -- 21
Issuance of Stock under
Deferred Compensation Arrangements -- -- -- 31 (59) -- (28)
Dividends Paid -- -- (2,581) -- -- (2,581)
Unearned Compensation --
Restricted Stock Awards -- (5) -- -- (10) -- (15)
Deferred Compensation Arrangements -- -- -- -- 251 -- 251
Change in Net Unrealized Appreciation
(Depreciation) of Securities
Available for Sale, Net of Tax -- -- -- -- -- (926) (926)
Effect of transfers of Securities
Available for sale to the Held to
Maturity Portfolio, Net of Tax -- -- -- -- -- (665) (665)
Change in Net Unrealized Appreciation
of Securities Transferred to the Held
to Maturity Portfolio, Net of Tax -- -- -- -- -- 43 43
---------------------------------------------------------------------------------
Balance, December 31, 1999 44 33,072 35,368 (4,699) 2,372 (1,421) 64,736
Net Income -- -- 2,482 -- -- -- 2,482
Purchase of Treasury Stock -- -- -- (1,368) -- -- (1,368)
Issuance of Stock under
Deferred Compensation Arrangements -- -- -- 50 (50) --
Dividends Paid -- -- (878) -- -- (878)
Unearned Compensation --
Restricted Stock Awards -- -- -- -- 56 -- 56
Change in Net Unrealized Appreciation
(Depreciation) of Securities
Available for Sale, Net of Tax -- -- -- -- -- (226) (226)
Change in Net Unrealized Appreciation
of Securities Transferred to the Held
to Maturity Portfolio, Net of Tax -- -- -- -- -- 24 24
---------------------------------------------------------------------------------
Balance, March 31, 2000 $44 $33,072 $36,972 $(6,017) $2,378 $(1,623) $64,826
The accompanying notes are an integral part of these consolidated financial
statements.
Merchants Bancshares, Inc.
Consolidated Statement of Cash Flows
Unaudited
For the three months ended March 31, 2000 1999
--------------------
(In thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 2,482 $ 2,723
Adjustments to Reconcile Net Income to Net Cash
Provided by Operating Activities:
Provision for Possible Loan Losses (357) --
Provision for Depreciation and Amortization 654 615
Net Gains on Sales of Investment Securities 1 --
Net Losses on Sales of Premises and Equipment 21 52
Net Gains on Sales of Other Real Estate Owned -- (61)
Equity in Losses of Real Estate Limited Partnerships 150 129
Changes in Assets and Liabilities:
(Increase) Decrease in Interest Receivable 162 (20)
Decrease in Interest Payable (193) (340)
Decrease in Other Assets 207 381
Increase (Decrease) in Other Liabilities 606 (991)
--------------------
Net Cash Provided by Operating Activities 3,733 2,488
--------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from Sales of Investment Securities Available for Sale 8,998 --
Proceeds from Maturities of Securities Available for Sale 2,633 3,143
Proceeds from Maturities of Securities Held to Maturity 2,249 9,213
Purchases of Federal Home Loan Bank Stock (411) (468)
Proceeds from Sales of Other Real Estate Owned -- 486
Purchases of Available for Sale Investment Securities (16,109) (14,044)
Purchases of Held to Maturity Investment Securities (2,487) (4,969)
Loan Originations in Excess of Principal Repayments (3,839) (4,913)
Investments in Real Estate Limited Partnerships (269) (430)
Purchases of Premises and Equipment (252) (147)
--------------------
Net Cash Used in Investing Activities (9,487) (12,129)
--------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net Increase (Decrease) in Deposits 22,515 (6,657)
Net Increase in Other Borrowed Funds 2,830 7,022
Principal Payments on Debt (5,033) (2)
Cash Dividends Paid (878) (835)
Acquisition of Treasury Stock (1,368) (513)
--------------------
Net Cash Provided by (Used In) Financing Activities 18,066 (985)
--------------------
Increase (Decrease) in Cash and Cash Equivalents 12,312 (10,626)
Cash and Cash Equivalents Beginning of Year 23,746 30,528
--------------------
Cash and Cash Equivalents End of Period $ 36,058 $ 19,902
====================
Total Interest Payments $ 5,556 $ 4,859
Total Income Tax Payments -- 1,600
Distribution of Stock Under Deferred Compensation Arrangements 50 31
The accompanying notes are an integral part of these consolidated financial
statements.
MERCHANTS BANCSHARES, INC.
MARCH 31, 2000
NOTES TO FINANCIAL STATEMENTS:
See the Form 10-K filed as of December 31, 1999, for additional information.
NOTE 1: RECENT ACCOUNTING DEVELOPMENTS
In June 1998 the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting
for Derivative Instruments and Hedging Activities". This statement
establishes standards for reporting and accounting for derivative
instruments ("derivatives") and hedging activities. The statement requires
that derivatives be reported as assets or liabilities in the Consolidated
Balance Sheets and that derivatives be reported at fair value. The statement
establishes criteria for accounting for changes in the fair value of
derivatives based on the intended use of the derivatives. The statement is
effective for all fiscal quarters of fiscal years beginning after June 15,
2000. Based on Merchants Bank's (the Bank's) current use of derivatives
Merchants Bancshares, Inc. (the Company) does not expect the adoption of
SFAS No. 133 to have a material impact on the Company's financial position
or results of operations.
NOTE 2: EARNINGS PER SHARE
The following table presents a reconciliation of the calculations of basic
and diluted earnings per share for the quarter ended March 31, 2000:
Net Per Share
Quarter Ended March 31, 2000 Income Shares Amount
------------------------------
(In thousands except share
and per share data)
Basic Earnings Per Share:
Income Available to Common Shareholders $2,482 4,301,255 $0.58
Diluted Earnings Per Share:
Options issued to Executives -- 3,957
Income available to Common Shareholders
Plus Assumed Conversions $2,482 4,305,212 $0.58
============================
Basic earnings per common share were computed by dividing net income by the
weighted average number of shares of common stock outstanding during the
quarter. The computation of diluted earnings per share for the quarter ended
March 31, 2000, excludes the effect of assuming the exercise of certain
outstanding stock options because the effect would be anti-dilutive. As of
March 31, 2000 there were 218,420 of such options outstanding with exercise
prices ranging from $20.438 to $30.500.
NOTE 3: STOCK REPURCHASE PROGRAM
On April 20, 2000, the Company announced that its Board of Directors had
decided to rescind the existing stock repurchase plan. The Board adopted a
new stock repurchase program, which authorized the Company to repurchase,
through April 2001, up to 200 thousand shares of its own securities. Under
the repurchase plan the stock may be purchased from time to time, subject to
prevailing market conditions. Purchases are to be made on the open market
and funded from available cash. The Company purchased 83 thousand of its own
shares at a total cost of $1.8 million under the former program. The Company
had repurchased 14 thousand of its own shares, at a total cost of $261
thousand, under the new repurchase program, as of May 5, 2000.
NOTE 4: COMMITMENTS AND CONTINGENCIES:
The Bank is a counterclaim defendant in a litigation entitled "Pasquale and
Vatsala Vescio, Counterclaim Plaintiffs v. The Merchants Bank, Counterclaim
Defendant", now pending in the United States Bankruptcy Court for the
District of Vermont.
In this litigation, the Vescios have made a number of "lender liability"
claims dealing with a commercial development known as Brattleboro West in
Brattleboro, Vermont. The pending litigation arose out of a suit to
foreclose on several real estate mortgages and personal property delivered
to the Bank as collateral by the Vescios in connection with the financing of
a supermarket in the Brattleboro West project and various other projects.
Among other things, the Vescios have alleged that the Bank or its
representatives violated supposed oral promises in connection with the
origination and funding of the project, and have claimed that the Bank is
liable to them for damages based on the Bank's supposed "control" of the
project and its alleged breach of covenants of "good faith" which the
plaintiffs believe are to be implied from the loan documents. In addition,
the plaintiffs have contended that the Bank breached a duty of care they
believe it owed to them, and have claimed that the Bank should not have
exercised its contract rights when the loan went into default, but should
have resolved the default in a way that was more favorable to the borrowers.
Trial concluded in United States Bankruptcy Court in November 1998. In June
1999 before entry of any findings or a decision on the merits, the trial
judge recused himself from all cases involving the Bank. He completed his
term as bankruptcy judge on July 31, 1999. On September 30, 1999, United
States District Court Judge William Sessions withdrew the reference of the
case to the Bankruptcy Court and ruled that he would decide the case himself
on the basis of a combination of the Bankruptcy Court trial record and
rehearing certain testimony of certain witnesses. The parties subsequently
stipulated to waive any rehearing of testimony and submission of further
evidence and to submit the case to the District Court for a decision on the
merits based on the existing trial record. The timing of a decision on the
merits of the case at the trial level cannot be predicted at this time.
Although it is not possible at this stage to predict the outcome of this
litigation, the Bank believes that it has meritorious defenses to the
plaintiffs' allegations. The Bank intends to vigorously defend itself
against these claims.
On March 25, 1999, Merchants Trust Company received, as trustee, a recovery
of $4.8 million on account of settlement of a 1994 class action suit filed
in the United States District Court for the District of Minnesota. The Trust
Company's claims, and the class action, arose from investments made by the
Trust Company in the so-called Piper Jaffray Institutional Government Income
Portfolio ("Piper Jaffray") on behalf of the plaintiffs. In the first
quarter of 1999 the Company realized $1.3 million as a result of that
recovery. During the third quarter of 1999 the Trust Company disbursed the
recovery, partly to itself and the balance in accordance with instructions
provided by the Company's insurance carrier, pursuant to an agreement made
with the carrier in December 1994.
On March 22, 2000, lawyers representing the beneficiaries of two Trust
Company accounts filed an action in Chittenden, Vermont Superior Court
against Merchants Bancshares and others, asserting that their clients and
others similarly situated were not fully reimbursed for damages allegedly
suffered in connection with certain investments made by Merchants Trust
Company during 1993 and 1994 in Piper Jaffray on their behalf, and
complaining, among other matters, that the disbursement of the recovery as
described in the immediately-preceding paragraph was improper. The Complaint
asserts, among other matters, that the Trust Company and others violated the
Vermont Consumer Fraud Act, were negligent and made negligent
misrepresentations, and breached duties of trust. The Complaint seeks
certification of the action as a class action, unspecified damages, and
other relief. The litigation is at a very early stage. While it is not
possible to predict its outcome, the Company believes full reimbursement has
been provided, that such disbursement was proper, that class action
certification is inappropriate, and that the claims for relief lack merit.
The Company and certain of its subsidiaries have been named as defendants in
various other legal proceedings arising from their normal business
activities. Although the amount of any ultimate liability with respect to
such proceedings cannot be determined, in the opinion of management, based
upon the opinion of counsel on the outcome of such proceedings, any such
liability will not have a material effect on the consolidated financial
position of the Company and its subsidiaries.
NOTE 5: RECLASSIFICATION
Certain amounts reported for prior periods have been reclassified to be
consistent with the current period presentation.
MERCHANTS BANCSHARES, INC.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
All adjustments necessary for a fair statement of the three months ended
March 31, 2000 and 1999 have been included in the financial statements. The
information was prepared from the books of Merchants Bancshares, Inc. (the
Company) and its subsidiaries, Merchants Bank (the Bank) and Merchants
Properties, Inc., without audit.
OVERVIEW
Merchants Bancshares, Inc. earned net income of $2.48 million, or basic and
diluted earnings per share of $.58 for the quarter ended March 31, 2000,
compared to $2.72 million, or basic and diluted earnings per share of $.62
per share for the same period a year earlier. The return on average assets
and return on average equity for the first quarter of 2000 were 1.41% and
15.45%, respectively, compared to 1.72% and 17.78% for the first quarter of
1999.
During the quarter the Bank recognized a recovery on a previously charged
down loans of $357 thousand. This amount was credited to income through the
provision for loan losses. The Bank also incurred a $103 thousand prepayment
fee associated with the early pay-off of $5 million in long term debt
during the quarter.
RESULTS OF OPERATIONS
Net Interest Income: Net interest income for the first quarter of 2000 was
$8.1 million, compared to $7.3 million for the same quarter one year ago.
The yield on net interest earning assets has decreased by seven basis points
in the first quarter of 2000 and is 18 basis points lower for the first
three months of 2000 compared to the same period in 1999. The increase in
net interest income for the comparable three month periods is a result of
higher levels of average earning assets, which offset the decline in the net
yield. The Bank's average interest earning assets were $71 million higher
for the three nine months of 2000 than they were for the first three months
of 1999. At the same time, the Bank's interest bearing liabilities were $68
million higher than the same period in 1999. The Bank's average yield on
interest earning assets decreased nine basis points for the first three
months of 2000 compared to the same period in 1999; while the cost of funds
has increased by four basis points, resulting in a decrease in the interest
rate spread of 13 basis points. The schedule on page 12 shows the yield
analysis for the periods reported.
Provision for Loan Losses: The improved asset quality achieved over the last
few years will be maintained as the portfolio grows in adherence to the
strong underwriting standards that have been established. Management's
analysis of the reserve adequacy concluded that a provision for possible
loan losses was not necessary during the first three months of 2000.
Additionally, the Bank recognized recoveries on previously charged down
loans of $357 thousand. This amount was credited to income through the
provision for loan losses. See the discussion of Non-Performing Assets on
pages 10 to 11 for more information on the loan loss reserve.
Non-interest income: Excluding certain litigation settlement proceeds of
$1.3 million received in 1999, non-interest income increased by $253
thousand for the first three months of 2000 compared to 1999. (For more
information on the settlement proceeds see Part II, Item 1, Legal
Proceedings.) The increase in noninterest income is primarily a result of
increases in the Bank's overdraft charges. The increase in overdraft revenue
has been partially offset by a decrease in monthly service charge revenue.
Monthly service charges decreased by $28 thousand for the first quarter of
2000 compared to the first quarter of 1999. The decrease in service charge
revenue is due primarily to the success of the Bank's FreedomLYNX(r) checking
account product, which generally charges no monthly fees. Other noninterest
income increased by $72 thousand from the first quarter of 1999 to the first
quarter of 2000, primarily due to increased ATM and debit card volumes.
Non-interest expenses: Total non-interest expenses for the first quarter of
2000 have increased $293 thousand (4.5%) over the same period in 1999.
Marketing expenses were $133 thousand higher for the first three months of
2000 compared to the same period in 1999 as the Bank's sales efforts have
continued to fuel the continued strong core deposit growth the Bank has
experienced this year (see Balance Sheet Analysis).
Salaries, wages and employee benefits have increased by $436 thousand
(14.6%) for the first quarter of 2000 compared to the first quarter of 1999.
The Bank's incentive costs have increased by $122 thousand from the first
quarter of 1999 to the first quarter of 2000. These higher incentive costs
are a result of the Bank's successful sales efforts and overall increased
profitability of its core activities. Additionally, the Bank completed its
purchase of its two new locations in Rutland and Bellows Falls, Vermont during
the fourth quarter of 1999, resulting in the addition of 11 new full-time
equivalent employees. The Bank has also experienced large increases in its
costs for employee health insurance, which have increased $55 thousand (28%)
for the first three months of 2000 compared to 1999 due to higher premiums.
Occupancy expenses were $153 thousand lower for the first quarter of 2000
than the first quarter of 1999. This decrease is due primarily to a one-time
charge taken in 1999 as a result of the Bank's vacating a property under
lease. Legal and professional fees have decreased $373 thousand (59%) for
the quarter. The higher amount during the first quarter of 1999 resulted
primarily from the timing of expenses incurred by the Bank as it defended
itself in certain litigation. For more information on this litigation see
Part II, Item 1, Legal Proceedings.
BALANCE SHEET ANALYSIS
Quarterly average deposits for the first quarter of 2000 were $10.5 million
(1.72%) higher than the fourth quarter of 1999. Deposit balances at quarter-
end were $22.5 million (3.7%) higher than balances at December 31, 1999. The
Bank has seen strong and sustained deposit growth at a time of year when
deposits balances historically decline. The Bank's continued focused sales
efforts have fueled this growth. Due to the efforts of our sales staff more
than 8,000 new deposit accounts were opened during the first three months of
the year.
Total loans have increased $4.2 million for the first three months of the
year. Most of the growth in the loan portfolio during the first quarter was
in the commercial mortgage portfolio, which increased by $3 million from
$172 million to $175 million over the course of the quarter. The Bank's
commercial loan portfolio also increased during the first quarter, from
$72.3 million to $74.8 million, a $2.5 million (3.4%) increase. The Bank
also continued to experience growth in its streamlined portfolio mortgage
product, RealLYNX(tm), during the first quarter. Balances grew $663 thousand
during the first three months of the year. Installment loans and Homelines
decreased $1.1 million during the quarter, a reflection of the current
highly competitive environment for these types of credits. The Bank's
investment portfolio has grown $4.4 million during the first three months of
the year as excess deposits have been redeployed into the investment
portfolio.
In the ordinary course of business, Merchants Bank makes commitments for
possible future extensions of credit. On March 31, 2000, the Bank was
obligated to fund $7.1 million of standby letters of credit. No losses are
anticipated in connection with these commitments.
YEAR 2000
The Company, like most users of computers, computer software, and equipment
utilizing computer software, faced a critical challenge regarding the Year
2000 date change. The bank regulatory agencies which regulate the conduct of
the Company, the Bank and the Trust Company, through the auspices of the
Federal Financial Institutions Examination Council (FFIEC) issued compliance
guidelines requiring financial institutions to develop and implement plans
to address the Year 2000 issue. During the past two and a half years, the
Company devoted substantial time and resources toward ensuring that the
Company's and its subsidiaries' operations would not be adversely impacted
by the pending date change. The Bank's primary regulator, the Federal
Deposit Insurance Corporation monitored the Bank's planning and
implementation process on a regular basis. The Company also contracted with
a national accounting firm to perform an independent review of the Company's
Year 2000 preparations. These reviews were completed during 1998 and 1999.
The Company is pleased to report that the Year 2000 date change was managed
with no reported problems. Computer systems all functioned as expected and
there were no interruptions in service. The Bank experienced no substantial
deposit run-off, and none of the Bank's contingency plans had to be
implemented. The Bank is not aware of any significant borrowers who have
been negatively impacted by the Year 2000 date change such that it would
impair their ability to repay their loans. The Bank's Year 2000 preparedness
plan includes monitoring certain key dates in 2000. The Bank has experienced
no problems to date.
RISK MANAGEMENT
There have been no significant changes in the Company's risk profile, or
management's risk management practices, since year-end.
INCOME TAXES
The Company recognized $300 thousand in low income housing tax credits for
the first three months of 2000 and $355 thousand for the same period in
1999, representing the amount of the income tax credits earned during those
quarters. The recognition of low income housing tax credits has reduced the
Company's effective tax rate to 25% for the quarter ended March 31, 2000.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity, as it pertains to banking, can be defined as the ability to
generate cash in the most economical way to satisfy loan demand, deposit
withdrawal demand, and to meet other business opportunities, which require
cash. The Bank has a number of sources of liquid funds; including $25
million in available Federal Funds lines of credit at March 31, 2000; an
overnight line of credit with the Federal Home Loan Bank (FHLB) of $15
million; an estimated additional borrowing capacity with FHLB of $100
million; and the ability to borrow through the use of repurchase agreements,
collateralized by the Bank's investments, with certain approved
counterparties.
NON-PERFORMING ASSETS AND THE RESERVE FOR POSSIBLE LOAN LOSSES
- --------------------------------------------------------------
The following tables summarize the Bank's non-performing assets as of March
31, 2000, December 31, 1999, and March 31, 1999:
(In thousands) March 31, December 31, March 31,
2000 1999 1999
------------------------------------
Nonaccrual Loans $3,573 $2,800 $2,433
Loans Past Due 90 Days or More
and Still Accruing 123 199 63
Restructured Loans 399 689 479
---------------------------------
Total Non-performing Loans (NPL) 4,095 3,688 2,975
Other Real Estate Owned 125 133 57
---------------------------------
Total Non-performing Assets (NPA) $4,220 $3,821 $3,032
=================================
Note: Included in nonaccrual loans are certain loans whose terms have
been substantially modified in troubled debt restructuring.
Discussion of events affecting NPA: Significant events affecting the
categories of NPA are discussed below:
Nonaccrual Loans:
- -----------------
During the first quarter of 2000 approximately $346 thousand in
reductions to nonaccrual loans were offset in part by approximately
$1.1 million of additions. Of the reported increase, approximately
$282 thousand was concentrated in one commercial account, with the
remaining balance comprised of loans from seventeen borrowers. All
seventeen of these borrowers have relationships with the Bank of less
than $100 thousand, with residential mortgages comprising the majority
of these loans.
Loans Past Due 90 Days:
- -----------------------
Loans past due 90 days decreased $76 thousand in the first quarter,
after increasing $174 thousand in the quarter ended December 31, 1999.
Restructured Loans:
- -------------------
There was a net increase of $290 thousand in restructured loans during
the first quarter of 2000 primarily attributable to the transfer of
two loans, totaling $299 thousand, to nonaccrual.
The reserve for possible loan losses is based on management's estimate of
the amount required to reflect the risks in the loan portfolio, based on
circumstances and conditions at each reporting date. Merchants Bank reviews
the adequacy of the Reserve for Possible Loan Losses ("RPLL") at least
quarterly. Factors considered in evaluating the adequacy of the reserve
include previous loss experience, current economic conditions and their
effect on the borrowers, the performance of individual loans in relation to
contract terms and estimated fair values of properties to be foreclosed. The
method used in determining the amount of the RPLL is not based on
maintaining a specific percentage of RPLL to total loans or total
nonperforming assets. Rather, the methodology is a comprehensive analytical
process of assessing the credit risk inherent in the loan portfolio. This
assessment incorporates a broad range of factors, which indicate both
general, and specific credit risk, as well as a consistent methodology for
quantifying probable credit losses. Losses are charged against the RPLL when
management believes that the collectibility of principal is doubtful. To the
extent management determines the level of anticipated losses in the
portfolio have significantly increased or diminished, the RPLL is adjusted
through current earnings. As part of the Bank's analysis of specific credit
risk, detailed and extensive reviews are done on larger credits and
problematic credits identified on the watched asset list, nonperforming
asset listings and internal credit rating reports. Loans deemed impaired at
March 31, 2000 totaled $1.7 million, of this total $1.0 million are included
as non-performing assets in the table above. Impaired loans have been
allocated $651 thousand of the RPLL.
The continued high level of the RPLL reflects management's current
strategies and efforts to maintain the reserve at a level adequate to
provide for loan losses based on an evaluation of known and inherent risks
in the loan portfolio. Among the factors that management considers in
establishing the level of the reserve are overall findings from an analysis
of individual loans, the overall risk characteristics and size of the loan
portfolio, past credit loss history, management's assessment of current
economic and real estate market conditions and estimates of the current
value of the underlying collateral.
The following table reflects the Bank's non-performing asset and coverage
ratios as of March 31, 2000, December 31, 1999, and March 31, 1999:
March 31, December 31, March 31,
2000 1999 1999
------------------------------------
Percentage of Non-performing
Loans to Total Loans 0.89% 0.81% 0.72%
Percentage of Non-performing
Assets to Total Loans plus Other
Real Estate Owned 0.92% 0.84% 0.74%
Percentage of RPLL to Total Loans 2.43% 2.47% 2.75%
Percentage of RPLL to NPL 272% 303% 379%
Percentage of RPLL to NPA 264% 293% 372%
Management considers the balance of the RPLL adequate at March 31, 2000.
Management's assessment of the adequacy of the RPLL concluded that a
provision was not necessary during the first quarter of 2000.
Merchants Bancshares, Inc.
Supplemental Information
Unaudited
Three Months Ended
---------------------------------------------------------------
March 31, 2000 March 31, 1999
(In thousands except share and per share data)
Interest Interest
Average Income/ Average Average Income/ Average
(Fully Taxable Equivalent) Balance Expense Rate Balance Expense Rate
---------------------------------------------------------------
INTEREST EARNING ASSETS
Loans (1) $455,372 $ 9,886 8.71% $408,938 $ 8,963 8.89%
Taxable Investments 204,722 3,389 6.64% 181,244 2,903 6.50%
Federal Funds Sold and Securities Purchased
Under Agreements to Resell 1,886 28 5.95% 1,280 14 4.44%
--------------------------------------------------------------
Total Interest Earning Assets $661,980 $13,303 8.06% $591,462 $11,880 8.15%
==============================================================
INTEREST BEARING LIABILITIES
Savings, NOW and Money Market Deposits $375,345 $3,060 3.27% $312,628 $ 2,323 3.01%
Time Deposits 158,639 1,935 4.89% 151,323 1,917 5.14%
--------------------------------------------------------------
Total Savings and Time Deposits 533,984 4,995 3.75% 463,951 4,240 3.71%
Federal Funds Purchased 1,238 19 6.16% 2,081 26 5.07%
Other Borrowed Funds 13,260 199 6.02% 11,171 136 4.95%
Debt (2) 3,616 55 6.10% 6,824 116 6.89%
--------------------------------------------------------------
Total Interest Bearing Liabilities 552,098 5,268 3.83% 484,027 4,518 3.79%
Other Liabilities & Stockholders' Equity
(Net of Non-Interest Earning Assets) 109,882 107,435
-------- --------
Total Liabilities & Stockholders' Equity
(Net of Non-Interest Earning Assets) $661,980 $591,462
======== ========
Rate Spread 4.23% 4.36%
==== ====
Net Yield on Interest Earning Assets 4.87% 5.05%
==== ====
<FN>
<F1> Includes principal balance of non-accrual loans and fees on loans.
<F2> Excludes prepayment fee of $102 related to the early repayment of
certain long-term debt.
</FN>
MERCHANTS BANCSHARES, INC.
MARCH 31, 2000
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
The Bank is a counterclaim defendant in a litigation entitled "Pasquale and
Vatsala Vescio, Counterclaim Plaintiffs v. The Merchants Bank, Counterclaim
Defendant", now pending in the United States Bankruptcy Court for the
District of Vermont.
In this litigation, the Vescios have made a number of "lender liability"
claims dealing with a commercial development known as Brattleboro West in
Brattleboro, Vermont. The pending litigation arose out of a suit to
foreclose on several real estate mortgages and personal property delivered
to the Bank as collateral by the Vescios in connection with the financing of
a supermarket in the Brattleboro West project and various other projects.
Among other things, the Vescios have alleged that the Bank or its
representatives violated supposed oral promises in connection with the
origination and funding of the project, and have claimed that the Bank is
liable to them for damages based on the Bank's supposed "control" of the
project and its alleged breach of covenants of "good faith" which the
plaintiffs believe are to be implied from the loan documents. In addition,
the plaintiffs have contended that the Bank breached a duty of care they
believe it owed to them, and have claimed that the Bank should not have
exercised its contract rights when the loan went into default, but should
have resolved the default in a way that was more favorable to the borrowers.
Trial concluded in United States Bankruptcy Court in November 1998. In June
1999 before entry of any findings or a decision on the merits, the trial
judge recused himself from all cases involving the Bank. He completed his
term as bankruptcy judge on July 31, 1999. On September 30, 1999, United
States District Court Judge William Sessions withdrew the reference of the
case to the Bankruptcy Court and ruled that he would decide the case himself
on the basis of a combination of the Bankruptcy Court trial record and
rehearing certain testimony of certain witnesses. The parties subsequently
stipulated to waive any rehearing of testimony and submission of further
evidence and to submit the case to the District Court for a decision on the
merits based on the existing trial record. The timing of a decision on the
merits of the case at the trial level cannot be predicted at this time.
Although it is not possible at this stage to predict the outcome of this
litigation, the Bank believes that it has meritorious defenses to the
plaintiffs' allegations. The Bank intends to vigorously defend itself
against these claims.
On March 25, 1999, Merchants Trust Company received, as trustee, a recovery
of $4.8 million on account of settlement of a 1994 class action suit filed
in the United States District Court for the District of Minnesota. The Trust
Company's claims, and the class action, arose from investments made by the
Trust Company in the so-called Piper Jaffray Institutional Government Income
Portfolio ("Piper Jaffray") on behalf of the plaintiffs. In the first
quarter of 1999 the Company realized $1.3 million as a result of that
recovery. During the third quarter of 1999 the Trust Company disbursed the
recovery, partly to itself and the balance in accordance with instructions
provided by the Company's insurance carrier, pursuant to an agreement made
with the carrier in December 1994.
On March 22, 2000, lawyers representing the beneficiaries of two Trust
Company accounts filed an action in Chittenden, Vermont Superior Court
against Merchants Bancshares and others, asserting that their clients and
others similarly situated were not fully reimbursed for damages allegedly
suffered in connection with certain investments made by Merchants Trust
Company during 1993 and 1994 in Piper Jaffray on their behalf, and
complaining, among other matters, that the disbursement of the recovery as
described in the immediately-preceding paragraph was improper. The Complaint
asserts, among other matters, that the Trust Company and others violated the
Vermont Consumer Fraud Act, were negligent and made negligent
misrepresentations, and breached duties of trust. The Complaint seeks
certification of the action as a class action, unspecified damages, and
other relief. The litigation is at a very early stage. While it is not
possible to predict its outcome, the Company believes full reimbursement has
been provided, that such disbursement was proper, that class action
certification is inappropriate, and that the claims for relief lack merit.
The Company and certain of its subsidiaries have been named as defendants in
various other legal proceedings arising from their normal business
activities. Although the amount of any ultimate liability with respect to
such proceedings cannot be determined, in the opinion of management, based
upon the opinion of counsel on the outcome of such proceedings, any such
liability will not have a material effect on the consolidated financial
position of the Company and its subsidiaries.
Item 2 - Changes in Securities - NONE
Item 3 - Defaults upon Senior Securities - NONE
Item 4 - Submission of Matters to a Vote of Security Holders - NONE
Item 5 - Other Issues - NONE
Item 6 - Exhibits and Reports on Form 8-K - NONE
MERCHANTS BANCSHARES, INC.
FORM 10-Q
MARCH 31, 2000
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.
Merchants Bancshares, Inc.
/s/ Joseph L. Boutin
--------------------
Joseph L. Boutin, President
/s/ Janet P. Spitler
--------------------
Janet P. Spitler, Treasurer
May 10, 2000
------------
Date