UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED June 30, 2001
-------------
OR
[ ] TRANSITION REPORT PURSANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIOD FROM ____________to_____________.
Commission File number 0-1173
CITY HOLDING COMPANY
(Exact name of registrant as specified in its charter)
West Virginia 55-0619957
------------- ----------
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
25 Gatewater Road
Charleston, West Virginia, 25313
(Address of principal executive officers)
(304) 769-1100
(Registrant's telephone number, including area code)
Not applicable
(Former name, former address and former fiscal year, if
changed since last report)
Indicate by check mark whether the registrant has (1) filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE
PRECEDING FIVE YEARS
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by the court. Yes [ ]No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
Common stock, $2.50 Par Value - 16,887,934 shares as of August 10, 2001.
1
FORWARD-LOOKING STATEMENTS
All statements other than statements of historical fact included in this
Form 10-Q Quarterly Report, including statements in Management's Discussion and
Analysis of Financial Condition and Result of Operations are, or may be deemed
to be, forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Exchange Act of 1934. Such
information involves risks and uncertainties that could result in the Company's
actual results differing from those projected in the forward-looking
information. Important factors that could cause actual results to differ
materially from those discussed in such forward-looking statements include: (1)
the Company's restructuring program announced on July 31, 2001, may not have the
effects intended, or such effects may not produce the results expected; (2) the
Company may continue to experience high levels of loan losses and may not be
successful in hiring additional personnel necessary to improve the effectiveness
of managing the risk in the Company's loan portfolio, thus resulting in
increased loan loss allocations or capital needs; (3) the Company may not timely
complete the divestiture of its California banking operations; (4) regulatory
rulings affecting, among other things, the Company's and its banking
subsidiaries' regulatory capital may change, resulting in the need for increased
capital levels with a resulting adverse effect on expected earnings and dividend
capability; (5) changes in the interest rate environment may have results on the
Company's operating results materially different from those anticipated by the
Company's market risk management functions; (6) changes in general economic
conditions and increased competition could adversely affect the Company's
operating results; and (7) changes in other regulations and government policies
affecting bank holding companies and their subsidiaries, including changes in
monetary policies, could negatively impact the Company's operating results.
Forward-looking statements made herein reflect management's expectations as of
the date such statements are made. Such information is provided to assist
stockholders and potential investors in understanding current and anticipated
financial operations of the Company and is included pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. The Company
undertakes no obligation to update any forward-looking statement to reflect
events or circumstances that arise after the date such statements are made.
2
Index
City Holding Company and Subsidiaries
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets - June 30, 2001 and December 31, 2000
Consolidated Statements of Income - Six months ended June 30, 2001
and 2000 and Three months ended June 30, 2001 and 2000
Consolidated Statements of Changes in Stockholders' Equity - Six
months ended June 30, 2001 and 2000
Consolidated Statements of Cash Flows - Six months ended June 30,
2001 and 2000
Notes to Consolidated Financial Statements - June 30, 2001
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Part II. Other Information
Item 1. Legal Proceedings
Item 2. Changes in Securities
Item 3. Defaults upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
Signature
3
PART I, ITEM 1 - FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
June 30 December 31
2001 2000
--------------------------
(Unaudited)
Assets
Cash and due from banks $ 70,538 $ 87,990
Federal funds sold 59,166 2,638
--------------------------
Cash and Cash Equivalents 129,704 90,628
Securities available for sale, at fair value 292,307 385,462
Loans:
Gross loans 1,786,315 1,968,159
Allowance for loan losses (45,748) (40,627)
--------------------------
Net Loans 1,740,567 1,927,532
Loans held for sale 15,744 17,900
Retained interests 66,195 85,206
Premises and equipment 48,640 56,924
Accrued interest receivable 14,987 18,242
Other assets 96,468 89,606
--------------------------
Total Assets $2,404,612 $2,671,500
==========================
Liabilities
Deposits:
Noninterest-bearing $ 277,084 $ 271,358
Interest-bearing 1,681,809 1,812,583
--------------------------
Total Deposits 1,958,893 2,083,941
Short-term borrowings 153,079 248,766
Long-term debt 30,692 34,832
Corporation-obligated mandatorily redeemable capital securities of subsidiary trusts
holding solely subordinated debentures of City Holding Company 87,500 87,500
Other liabilities 27,574 53,004
--------------------------
Total Liabilities 2,257,738 2,508,043
Stockholders' Equity
Preferred stock, par value $25 per share: authorized - 500,000 shares: none issued
Common stock, par value $2.50 per share: 50,000,000 shares authorized; 16,892,913
shares issued and outstanding at June 30, 2001 and December 31, 2000, including 4,979
in treasury 42,232 42,232
Capital surplus 59,174 59,174
Retained earnings 41,351 67,152
Cost of common stock in treasury (136) (136)
Accumulated other comprehensive income (loss) 4,253 (4,965)
--------------------------
Total Stockholders' Equity 146,874 163,457
--------------------------
Total Liabilities and Stockholders' Equity $2,404,612 $2,671,500
==========================
See notes to consolidated financial statements.
4
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands, except earnings per share data)
Six Months Ended June 30
2001 2000
--------------------------
Interest Income
Interest and fees on loans $ 81,175 $ 90,500
Interest on investment securities:
Taxable 8,004 8,505
Tax-exempt 1,767 2,359
Interest on retained interests 2,296 87
Interest on federal funds sold 155 112
--------------------------
Total Interest Income 93,397 101,563
Interest Expense
Interest on deposits 39,276 38,240
Interest on short-term borrowings 5,817 9,636
Interest on long-term debt 1,116 3,193
Interest on trust preferred securities 4,010 4,008
--------------------------
Total Interest Expense 50,219 55,077
--------------------------
Net Interest Income 43,178 46,486
Provision for loan losses 16,010 4,170
--------------------------
Net Interest Income After Provision for Loan Losses 27,168 42,316
Non-Interest Income
Investment securities gains 1,242 2
Service charges 7,295 5,095
Mortgage loan servicing fees 245 9,755
Net origination fees on junior-lien mortgages 598 1,621
Gain on sale of loans 2,568 993
Other income 9,286 8,171
--------------------------
Total Non-Interest Income 21,234 25,637
Non-Interest Expense
Salaries and employee benefits 21,686 27,129
Occupancy, excluding depreciation 3,251 3,781
Depreciation 4,893 6,031
Advertising 1,369 2,643
Retained interest impairment 2,182 --
Other expenses 27,906 22,098
--------------------------
Total Non-Interest Expense 61,287 61,682
--------------------------
(Loss) Income Before Income Taxes and Cumulative Effect of Accounting Change (12,885) 6,271
Income tax (benefit) expense (5,070) 1,957
--------------------------
(Loss) Income Before Cumulative Effect of Accounting Change (7,815) 4,314
Cumulative effect of accounting change, net of tax (17,985) --
--------------------------
Net (Loss) Income $(25,800) $ 4,314
==========================
Basic (Loss) Earnings per Share
(Loss) income before cumulative effect of accounting change $ (0.46) $ 0.26
Cumulative effect of accounting change (1.07) --
--------------------------
Net (Loss) Income $ (1.53) $ 0.26
==========================
Diluted (Loss) Earnings per Share
(Loss) income before cumulative effect of accounting change $ (0.46) $ 0.26
Cumulative effect of accounting change (1.07) --
--------------------------
Net (Loss) Income $ (1.53) $ 0.26
==========================
Average Common Shares Outstanding:
Basic 16,888 16,877
==========================
Diluted 16,888 16,877
==========================
See notes to consolidated financial statements.
5
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands, except earnings per share data)
Three Months Ended June 30
2001 2000
----------------------------
Interest Income
Interest and fees on loans $ 39,119 $46,750
Interest on investment securities:
Taxable 3,605 4,225
Tax-exempt 855 1,171
Interest on retained interests 2,251 46
Interest on federal funds sold 123 54
----------------------------
Total Interest Income 45,953 52,246
Interest Expense
Interest on deposits 18,568 20,219
Interest on short-term borrowings 2,408 4,969
Interest on long-term debt 402 1,604
Interest on trust preferred securities 2,005 2,004
----------------------------
Total Interest Expense 23,383 28,796
----------------------------
Net Interest Income 22,570 23,450
Provision for loan losses 10,280 2,085
----------------------------
Net Interest Income After Provision for Loan Losses 12,290 21,365
Non-Interest Income
Investment securities gains 421 2
Service charges 4,361 2,691
Mortgage loan servicing fees 213 4,901
Net origination fees on junior-lien mortgages 58 719
Gain (loss) on sale of loans 1,363 (35)
Other income 6,104 3,711
----------------------------
Total Non-Interest Income 12,520 11,989
Non-Interest Expense
Salaries and employee benefits 10,235 14,708
Occupancy, excluding depreciation 1,643 1,934
Depreciation 2,416 3,013
Advertising 772 1,032
Retained interest impairment -- --
Other expenses 13,344 12,221
----------------------------
Total Non-Interest Expense 28,410 32,908
----------------------------
(Loss) Income Before Income Taxes and Cumulative Effect of Accounting Change (3,600) 446
Income Tax (Benefit) Expense (1,530) 151
----------------------------
(Loss) Income Before Cumulative Effect of Accounting Change (2,070) $ 295
Cumulative effect of accounting change, net of tax (17,985) --
----------------------------
Net (Loss) Income $(20,055) $ 295
============================
Basic (Loss) Earnings per Share
(Loss) income before cumulative effect of accounting change $(0.12) $0.02
Cumulative effect of accounting change (1.07) --
----------------------------
Net (Loss) Income $(1.19) $0.02
============================
Diluted (Loss) Earnings per Share
(Loss) income before cumulative effect of accounting change $(0.12) $0.02
Cumulative effect of accounting change (1.07) --
----------------------------
Net (Loss) Income $(1.19) $0.02
============================
Average Common Shares Outstanding:
Basic 16,888 16,878
============================
Diluted 16,888 16,878
============================
See notes to consolidated financial statements.
6
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
CITY HOLDING COMPANY AND SUBSIDIARIES
SIX MONTHS ENDED JUNE 30, 2001 AND 2000
(in thousands)
Accumulated
Other Total
Common Capital Retained Treasury Comprehensive Stockholders'
Stock Surplus Earnings Stock (Loss) Income Equity
------------------------------------------------------------------------
Balances at December 31, 2000 $42,232 $59,174 $ 67,152 $(136) $(4,965) $163,457
Comprehensive income:
Net loss (25,800) (25,800)
Other comprehensive income:
Unrealized gain on securities and retained interests
of $9,217, net of reclassification adjustment for
for included in net income of $0 9,217 9,217
--------------
Total comprehensive loss (16,583)
-----------------------------------------------------------------------
Balances at June 30, 2001 $42,232 $59,174 $ 41,352 $(136) $ 4,252 $146,874
========================================================================
Accumulated
Other Total
Common Capital Retained Treasury Comprehensive Stockholders'
Stock Surplus Earnings Stock Loss Equity
------------------------------------------------------------------------
Balances at December 31, 1999 $42,199 $59,164 $112,951 $(285) $(15,487) $198,542
Comprehensive income:
Net income 4,314 4,314
Other comprehensive income:
Unrealized loss on securities of $349, net of
reclassification adjustment for gains included in net
income of $1 (348) (348)
----------
Total comprehensive income 3,966
Cash dividends declared ($.28/share) (4,725) (4,725)
Issuance of contingently-issuable shares of common stock 33 10 149 192
---------------------------------------------------------------------------
Balances at June 30, 2000 $42,232 $59,174 $112,540 $(136) $(15,835) $197,975
===========================================================================
See notes to consolidated financial statements.
7
CONSOLIDATED STATEMENTS OF CASH FLOWS
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
Six Months Ended June 30
2001 2000
--------------------------------------
Operating Activities
(Loss) income before cumulative effect of accounting change $ (7,815) $ 4,314
Cumulative effect of accounting change, net of tax (17,985) -
----------------------------------
Net (loss) income (25,800) 4,314
Adjustments to reconcile net (loss) income to net cash provided by
operating activities:
Net amortization 475 3,155
Provision for depreciation 4,893 6,031
Provision for loan losses 16,010 4,170
Loans originated for sale (92,935) (160,961)
Purchases of loans held for sale -- (16,065)
Proceeds from loans sold 97,659 204,223
Realized gains on loans sold (2,568) (993)
Realized investment securities gains (1,242) (2)
Decrease (increase) in retained interests (2,296) 12
Decrease in accrued interest receivable 3,255 13
Decrease (increase) in other assets 9,427 (13,210)
(Decrease) increase in other liabilities (16,674) 4,942
----------------------------------
Net Cash (Used in) Provided by Operating Activities (9,796) 35,629
Investing Activities
Proceeds from sales of securities available for sale 104,120 32,492
Proceeds from maturities and calls of securities available for sale 119,649 17,652
Purchases of securities available for sale (122,178) (31,584)
Net decrease (increase) in loans 168,415 (123,765)
Net purchases (sales) of premises and equipment 1,201 (1,882)
----------------------------------
Net Cash Provided by (Used in) Investing Activities 271,207 (107,087)
Financing Activities
Net increase in noninterest-bearing deposits 5,726 26,781
Net (decrease) increase in interest-bearing deposits (130,774) 138,377
Net decrease in short-term borrowings (95,687) (67,107)
Repayment of long-term debt (1,600) (50,000)
Cash dividends paid - (4,725)
----------------------------------
Net Cash (Used in) Provided by Financing Activities (222,335) 43,326
----------------------------------
Increase (Decrease) in Cash and Cash Equivalents 39,076 (28,132)
Cash and Cash Equivalents at beginning of period 90,628 122,112
----------------------------------
Cash and Cash Equivalents at end of period $ 129,704 $ 93,980
==================================
See notes to consolidated financial statements.
8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
June 30, 2001
NOTE A - BASIS OF PRESENTATION
The accompanying consolidated financial statements, which are unaudited,
include all the accounts of City Holding Company ("the Parent Company") and its
wholly-owned subsidiaries (collectively, "the Company"). All material
intercompany transactions have been eliminated. The consolidated financial
statements include all adjustments that, in the opinion of management, are
necessary for a fair presentation of the results of operations and financial
condition for each of the periods presented. Such adjustments are of a normal
recurring nature. The results of operations for the six months ended June 30,
2001, are not necessarily indicative of the results of operations that can be
expected for the year ending December 31, 2001. The Company's accounting and
reporting policies conform with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Such policies require management to make estimates and
develop assumptions that affect the amounts reported in the consolidated
financial statements and related footnotes. Actual results could differ from
management's estimates. Certain amounts in the unaudited consolidated financial
statements have been reclassified. Such reclassifications had no impact on net
income or stockholders' equity in any period presented. For further information,
refer to the consolidated financial statements and footnotes thereto
incorporated by reference in the City Holding Company Annual Report on Form 10-K
for the year ended December 31, 2000.
NOTE B - SECURITIZATIONS and RETAINED INTERESTS
As of June 30, 2001 and December 31, 2000, the Company reported retained
interests in its securitizations of approximately $66.20 million and $85.21
million, respectively. The value of the retained interests is determined using
cash flow modeling techniques that incorporate key assumptions related to
default, prepayment, and discount rates. As a result of economic forecasts
released during the first quarter of 2001 and the completion of the Company's
sale of the loan servicing responsibilities for its securitized loans to an
independent third party, the Company increased its projected cumulative default
projection from 13.68% as of December 31, 2000, to 17.15% as of March 31, 2001.
This change in assumption resulted in a decline of approximately $21.22 million
(pre-tax) in the estimated fair value of the Company's retained interests during
the first quarter of 2001. Under accounting rules in effect as of March 31,
2001, the Company recorded a $2.18 million (pre-tax) impairment charge in its
Consolidated Statements of Income and a $19.04 million (pre-tax) unrealized loss
in its Stockholders' Equity during the first quarter of 2001.
9
On April 1, 2001, the Company adopted the accounting provisions of
Emerging Issues Task Force Issue 99-20 ("Issue 99-20") as required. Issue 99-20
set forth specific accounting guidance regarding the recognition of interest
income on, and impairment of, retained interests in securitized loans. The
required adoption of Issue 99-20 resulted in the Company recording a $29.98
million (pre-tax), or $17.99 million (net of tax) cumulative effect of
accounting change during the second quarter of 2001. In conjunction with
recording this cumulative effect of accounting change, unrealized losses on the
retained interests that were previously recorded as negative adjustments through
the Accumulated Other Comprehensive Loss component of Stockholders' Equity were
reversed and recorded through the Company's Consolidated Statements of Income in
accordance with the new accounting rules.
In addition to establishing specific guidance related to determining
whether impairment exists in the Company's retained interests, Issue 99-20 also
set forth requirements for the recognition of interest income on retained
interests in securitized loans. Issue 99-20 requires that interest income on
retained interests be recognized over the life of the retained interest using
the effective yield method. Using the effective yield approach, the Company re-
instituted the accrual of interest income on its retained interests, recognizing
$2.25 million (pre-tax) of interest income during the second quarter of 2001.
Key assumptions used in estimating the fair value of the Company's
retained interests as of June 30, 2001 and December 31, 2000, were as follows:
June 30 December 31
2001 2000
-----------------------------------
Prepayment speed (CPR) 15%-21% 15%-21%
Weighted average cumulative defaults 16.47% 13.68%
Weighted average discount rate 14.00% 14.00%
At June 30, 2001, the sensitivity of the current estimated fair value of
retained interests to immediate 10% and 20% adverse changes were as follows:
Book value at June 30, 2001 (in thousands) $ 66,195
Prepayment curve:
Impact on fair value of 10% increase in prepayment curve 746
Impact on fair value of 20% increase in prepayment curve 1,540
Default curve:
Impact on fair value of 10% increase in default curve (6,358)
Impact on fair value of 20% increase in default curve (11,955)
Discount rate:
Impact on fair value of 10% increase in discount rate (5,882)
Impact on fair value of 20% increase in discount rate (11,165)
10
These sensitivity analyses are hypothetical. As these figures indicate, any
change in estimated fair value based on a 10% variation in assumptions cannot be
extrapolated because the relationship of the change in assumption to the change
in fair value is not linear. Also, in this table, the effect of a variation in a
particular assumption on the fair value of the retained interests is calculated
independent from any change in another assumption; in reality, changes in one
factor may result in changes in another, which may magnify or counteract the
sensitivities.
The Company's securitization program, which was terminated during the
second quarter of 1999, only included fixed rate, junior lien residential
mortgage loans. The table below summarizes information regarding delinquencies,
net credit losses, and outstanding collateral balances of securitized loans for
the dates presented:
June 30 December 31 June 30
2001 2000 2000
-------------------------------------
Total principal amount of loans outstanding $451,863 $533,009 $592,542
Principal amount of loans 60 days or more past due 14,232 12,263 10,613
Net credit losses during the period 11,466 21,977 11,226
The principal amount of loans outstanding is not included in the
Consolidated Balance Sheets of the Company.
NOTE C - SHORT-TERM BORROWINGS
Short-term borrowings include $128.14 million and $131.73 million as of
June 30, 2001 and December 31, 2000, respectively, of securities sold under
agreement to repurchase. The underlying securities included in repurchase
agreements remain under the Company's control during the effective period of the
agreements. Advances obtained from the Federal Home Loan Bank ("FHLB") of $90.50
million are also included in short-term borrowings as of December 31, 2000.
There were no advances from the FHLB outstanding at June 30, 2001.
At June 30, 2001, short-term borrowings also include a $24.93 million
obligation of the Parent Company pursuant to debt agreements maintained with an
unrelated third party. Of the total obligation, $10.53 million is outstanding
under a line of credit agreement and $14.40 million is outstanding under a term
loan agreement. Both the term note and the line of credit mature on January 15,
2002. On June 29, 2001, the Company remitted a $1.60 million principal payment
against these obligations. Both agreements require interest payments quarterly
and have variable interest rates (8.00% at June 30, 2001).
The Company has pledged the common stock of City National Bank, Del Amo
Savings Bank, and Frontier Bancorp as collateral for both the term loan and the
line of credit. Both the term loan and the line of credit contain identical
restrictive provisions applicable to the Parent Company and its subsidiaries.
Such provisions include minimum tangible capital requirements, minimum loan loss
reserve coverage ratios, maximum non-performing loan ratios, minimum net worth
requirements, and limitations on additional debt. Additionally, City National
Bank must maintain regulatory capital sufficient to be considered as "well
capitalized" by its primary regulators.
11
Effective June 30, 2001, the Company entered into an amendment
to the term note and the line of credit that modified the covenants associated
with minimum loan loss reserve coverage and maximum non-performing loan
ratios. The amendment enabled the Company to remain in compliance with the
convenant governing the Company's non-performing loans ratios.
NOTE D - LONG TERM DEBT
The Company, through its banking subsidiaries, maintains long-term financing
from the FHLB as follows:
June 30, 2001
-----------------------------------
Amount Amount
Available Outstanding Interest Rate Maturity Date
- -------------------------------------------------------------------------------
(in thousands)
$ 5,000 $ 5,000 5.48% February 2008
10,000 10,000 4.86 October 2008
--------
$15,000
========
As of June 30, 2001 and December 31, 2000, the Company also included $15.69
million and $19.83 million, respectively, in its Long Term Debt representing a
fully-collateralized obligation outstanding with Freddie Mac. Collateral for
this obligation includes a pool of qualifying, first lien mortgage loans that
were sold to Freddie Mac with full recourse. The outstanding balance of this
financing will decline as the principal balances of the underlying loans are
repaid. Because the loans were sold with full recourse, the outstanding
principal balance of the underlying loan pool is included in the Company's loan
portfolio.
NOTE E - TRUST PREFERRED SECURITIES
The Company has formed two statutory business trusts under the laws of the
state of Delaware. The trusts are 100% owned finance subsidiaries of the Company
and exist for the exclusive purpose of (i) issuing trust preferred capital
securities ("Capital Securities"), which represent preferred undivided
beneficial interests in the assets of the trusts, (ii) using the proceeds from
the sale of the Capital Securities to acquire junior subordinated debentures
("Debentures") issued by the Company, and (iii) engaging in only those
activities necessary or incidental thereto. The Debentures are the sole assets
of the trusts and the Company's payments under the Debentures are the sole
source of revenue of the trusts. The Debentures and the related income statement
effects are eliminated in the Company's consolidated financial statements.
12
On June 6, 2001, the Company announced the deferral of the third quarter
dividend, scheduled for payment on July 31, 2001, on the City Holding Capital
Trust II Capital Securities. The Company also announced that dividend payments
on both City Holding Capital Trust and City Holding Capital Trust II would be
deferred through January 31, 2002. The Company has the option to defer payment
of the distributions for an extended period up to five years, so long as the
Company is not in default as to the terms of the Debentures. The Company has
irrevocably and unconditionally guaranteed the obligations of the trusts, but
only to the extent of funds held by the trusts. Distributions on the Capital
Securities are cumulative. Although it has elected to defer such payments, the
Company is continuing to accrue and record interest expense in its Consolidated
Statements of Income associated with the trust preferred securities.
The Capital Securities are subject to mandatory redemption to the extent of
any early redemption of the Debentures and upon maturity of the Debentures, as
outlined below. The following table summarizes the Company's two trusts:
Liquidation Stated
Payment Value per Issuance Maturity
Trust Amount Rate Frequency Share Date Date
- -------------------------------------------------------------------------------------------------------------------------
City Holding Capital Trust $30,000 9.150% Semi-annually $1,000 March 1998 April 2028 (a)
City Holding Capital Trust II 57,500 9.125 Quarterly 25 October 1998 October 2028 (b)
-------------
$87,500
=============
(a) Redeemable prior to maturity at the option of the Company (i) on or after
April, 1, 2008, in whole at any time or in part from time to time, at
declining redemption prices ranging from 104.58% to 100.00% on April 1,
2018 and thereafter, (ii) in whole, but not in part, at any time within 90
days following the occurrence and during the continuation of certain pre-
defined events.
(b) Redeemable prior to maturity at the option of the Company (i) on or after
October 31, 2003, in whole at any time or in part from time to time, or
(ii) prior to October 31, 2003, in whole, but not in part, at any time
within 90 days following the occurrence and during the continuation of
certain pre-defined events.
The obligations outstanding under the aforementioned trusts are classified as
"Corporation-obligated mandatorily redeemable preferred securities of subsidiary
trusts holding solely junior subordinated debentures of City Holding Company" in
the liabilities section of the Consolidated Balance Sheets. Distributions on the
capital securities are recorded in the Consolidated Statements of Income as
interest expense. The Company's interest payments on the debentures are fully
tax-deductible.
NOTE F - COMMITMENTS AND CONTINGENT LIABILITIES
In the normal course of business, certain financial products are offered by
the Company to accommodate the financial needs of its customers. Loan
commitments (lines of credit) represent the principal off-balance sheet
financial product offered by the Company. At June 30, 2001, commitments
outstanding to extend credit totaled approximately $195.13 million. To a much
lesser extent, the Company offers standby letters of credit, which require
payments to be made on behalf of customers when certain specified future events
occur. Amounts outstanding pursuant to such standby letters of credit were $8.33
million as of June 30, 2001. Substantially all standby letters of credit have
historically expired unfunded.
13
Both of the above arrangements have credit risks essentially the same as that
involved in extending loans to customers and are subject to the Company's
standard credit policies. Collateral is obtained based on management's credit
assessment of the customer. Management does not anticipate any material losses
as a result of these commitments.
NOTE G - NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement No. 141 ("Statement No. 141"), Business Combinations, and Statement
No. 142 ("Statement No. 142"), Goodwill and Other Intangible Assets. Statement
No. 141, which supercedes Accounting Principles Board Opinion No. 16, requires
that the purchase method of accounting be used for all business combinations
completed after June 30, 2001. Statement No. 141 also establishes specific
criteria for the recognition of intangible assets separately from goodwill, and
requires that unallocated negative goodwill be written off immediately as an
extraordinary gain. Statement No. 142, which supercedes Accounting Principles
Board Opinion No. 17, will require that goodwill and intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment at least annually in accordance with the provisions of Statement No.
142. Statement No. 142 will also require that intangible assets with definite
useful lives be amortized over their respective estimated useful lives to their
estimated residual values, and reviewed for impairment in accordance with FASB
Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of. The provisions of Statement No. 141 are
effective immediately and the provisions of Statement No. 142 will be effective
for fiscal years beginning after December 15, 2001. The Company estimates the
benefit associated with the elimination of goodwill amortization in 2002 to
approximate $660,000 (pre-tax). However, impairment testing of remaining
balances of goodwill and other intangible assets will be performed periodically
in accordance with Statement No. 142 and may result in charges against earnings
that cannot currently be quantified, as such testing is predicated on facts and
circumstances as of the date the impairmet analysis is performed.
In June 1998, the FASB issued Statement No. 133, Accounting for Derivative
Instruments and Hedging Activities. The provisions of this statement require
that derivative instruments be carried at fair value on the balance sheet and
allows hedge accounting when specific criteria are met. The provisions of this
statement, as amended, become effective for quarterly and annual reporting
beginning January 1, 2001. The impact of adopting the provisions of this
statement on the Company's financial position or results of operations
subsequent to the effective date is not currently estimable and will depend on
the financial position of the Company and the nature and purpose of the
derivative instruments in use by management at that time.
14
NOTE H - SEGMENT INFORMATION
The Company operates the following business segments: community banking,
mortgage banking, and other financial services. These business segments are
primarily identified by the products or services offered and the channels
through which the product or service is offered. The community banking
operations consists of various community banks that offer customers traditional
banking products and services through various delivery channels. The mortgage
banking operations include the origination, acquisition, servicing, and sale of
mortgage loans. The other financial services business segment consists of
nontraditional services offered to customers, such as investment advisory,
insurance, and internet technology products. Another defined business segment of
the Company is corporate support, which includes the parent company and other
support needs. Selected segment information is included in the following table:
Other
Community Mortgage Financial General
(in thousands) Banking Banking Services Corporate Eliminations Consolidated
------------------------------------------------------------------------------
For the six months ended June 30, 2001
Net interest income (expense) $ 48,885 $ (4,568) $ (37) $(1,102) $ - $ 43,178
Provision for loan losses 16,010 - - - - 16,010
------------------------------------------------------------------------------
Net interest income after provision for loan losses 32,875 (4,568) (37) (1,102) - 27,168
Other income 12,979 2,364 6,652 2,473 (3,234) 21,234
Other expenses 47,291 6,776 5,689 4,765 (3,234) 61,287
------------------------------------------------------------------------------
(Loss) income before income taxes and cumulative
effect of accounting change (1,437) (8,980) 926 (3,394) - (12,885)
Income tax (benefit) expense (448) (3,834) 596 (1,384) - (5,070)
------------------------------------------------------------------------------
(Loss) income before cumulative effect of
accounting change (989) (5,146) 330 (2,010) - (7,815)
Cumulative effect of accounting change, net of tax - (17,985) - - - (17,985)
------------------------------------------------------------------------------
Net (Loss) income $ (989) $(23,131) $ 330 $(2,010) $ $ (25,800)
==============================================================================
Average assets $2,528,493 $116,392 $ 8,415 $ 7,133 $(120,759) $2,539,674
==============================================================================
For the six months ended June 30, 2000
Net interest income (expense) $ 52,741 $ (5,108) $ (136) $(1,011) $ - $ 46,486
Provision for loan losses 4,170 - - - - 4,170
------------------------------------------------------------------------------
Net interest income after provision for loan losses 48,571 (5,108) (136) (1,011) - 42,316
Other income 9,213 12,304 7,238 1,145 (4,263) 25,637
Other expenses 38,708 14,611 7,559 5,067 (4,263) 61,682
------------------------------------------------------------------------------
Income before income taxes 19,076 (7,415) (457) (4,933) - 6,271
Income tax expense (benefit) 6,612 (2,947) (141) (1,568) - 1,957
Net Income (loss) $ 12,464 $ (4,468) $ (316) $(3,365) $ - $ 4,314
==============================================================================
Average assets $2,766,776 $182,513 $13,306 $10,286 $(185,637) $2,787,244
==============================================================================
15
Other
Community Mortgage Financial General
(in thousands) Banking Banking Services Corporate Eliminations Consolidated
------------------------------------------------------------------------------
For the three months ended June 30, 2001
Net interest income (expense) $ 24,222 $ (1,117) $ 17 $ (552) $ - $ 22,570
Provision for loan losses 10,280 - - - - 10,280
------------------------------------------------------------------------------
Net interest income after provision for loan losses 13,942 (1,117) 17 (552) - 12,290
Other income 7,131 1,221 4,335 1,249 (1,416) 12,520
Other expenses 25,765 1,297 1,011 1,753 (1,416) 28,410
------------------------------------------------------------------------------
(Loss) income before income taxes and cumulative
effect of accounting change (4,692) (1,193) 3,341 (1,056) - (3,600)
Income tax (benefit) expense (1,861) (605) 1,383 (447) - (1,530)
(Loss) income before cumulative effect of
accounting change (2,831) (588) 1,958 (609) (2,070)
Cumulative effect of accounting change, net of tax - (17,985) - - - (17,985)
------------------------------------------------------------------------------
Net (Loss) income $ (2,831) $(18,573) $ 1,958 $ (609) $ - $ (20,055)
==============================================================================
Average assets $2,466,254 $112,511 $ 8,597 $ 6,961 $(124,067) $2,470,256
==============================================================================
For the three months ended June 30, 2000
Net interest income (expense) $ 26,303 $ (2,264) $ (64) $ (525) $ - $ 23,450
Provision for loan losses 2,085 - - - - 2,085
------------------------------------------------------------------------------
Net interest income after provision for loan losses 24,218 (2,264) (64) (525) - 21,365
Other income 4,607 5,326 3,848 1,140 (2,932) 11,989
Other expenses 21,264 7,147 4,110 3,319 (2,932) 32,908
------------------------------------------------------------------------------
Income before income taxes 7,561 (4,085) (326) (2,704) - 446
Income tax expense (benefit) 2,705 (2,420) (102) (33) - 151
------------------------------------------------------------------------------
Net Income (loss) $ 4,856 $ (1,665) $ (224) $(2,671) $ - $ 295
==============================================================================
Average assets $2,783,799 $203,091 $12,908 $ 8,532 $(183,602) $2,824,728
==============================================================================
16
NOTE I - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share:
Six months ended June 30,
2001 2000
----------------------------
(in thousands, except per share data)
Numerator:
Net (loss) income $(25,800) $ 4,314
============================
Denominator:
Denominator for basic (loss) earnings per share:
Average shares outstanding 16,888 16,877
Effect of dilutive securities:
Employee stock options - -
Contingently issuable stock - -
----------------------------
Dilutive potential common shares - -
----------------------------
Denominator for diluted (loss) earnings per share 16,888 16,877
============================
Basic (loss) earnings per share $ (1.53) $ 0.26
============================
Diluted (loss) earnings per share $ (1.53) $ 0.26
============================
Three months ended June 30,
2001 2000
-------------------------------
(in thousands, except per share data)
Numerator:
Net (loss) income $(20,055) $ 295
============================
Denominator:
Denominator for basic (loss) earnings per share:
Average shares outstanding 16,888 16,878
Effect of dilutive securities:
Employee stock options - -
Contingently issuable stock - -
---------------------------
Dilutive potential common shares - -
---------------------------
Denominator for diluted (loss) earnings per share 16,888 16,878
===========================
Basic (loss) earnings per share $ (1.19) $ 0.02
============================
Diluted (loss) earnings per share $ (1.19) $ 0.02
============================
17
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RECENT DEVELOPMENTS
On July 31, 2001, the Company announced a comprehensive restructuring
program that is intended to result in an annualized expense reduction of $7.4
million (pre-tax). The plan includes the elimination of duplicate operations,
implementation of staffing rationalization and other adjustments to the
Company's operations as it sharpens its focus on its core West Virginia market.
As part of the plan, the Company expects to reduce its workforce by up to 275
employees by October 31, 2001, through attrition and terminations. The Company
expects to take restructuring charges of approximately $1.4 million (after-tax)
in the third and fourth quarters of 2001 as it implements this program.
FINANCIAL SUMMARY
Six Months Ended June 30, 2001 vs. 2000
The Company reported a consolidated net loss for the six months ended June
30, 2001 of $25.80 million or $1.53 per common share, compared to net income of
$4.31 million or $0.26 per share for the first six months of 2000. The 2001 net
loss includes a $17.99 million, or $1.07 per share, loss resulting from the
Company's required adoption of new accounting rules associated with accounting
for the Company's retained interest in securitized loans (see Securitizations
and Retained Interests).
In addition to the charge against earnings associated with the accounting
change and first quarter 2001 non-recurring charges of $7.33 million (pre-tax),
the Company's earnings through June 30, 2001 were negatively affected by a
significant increase in the provision for loan losses, non-recurring charges
against income recorded during the second quarter of 2001, and a continued
decline in net interest income. As more fully discussed under the caption
Allowance and Provision for Loan Losses, the consolidated provision for loan
losses increased $11.84 million, or 284%, from $4.17 million for the first six
months of 2000 to $16.01 million in 2001. As further discussed under the caption
Non-Interest Income and Expense, the Company recorded approximately $3.14
million (pre-tax) in non-recurring expenses during the second quarter of 2001,
in addition to the $7.33 million recorded during the first quarter of 2001.
These second quarter 2001 charges against income included a $1.69 million charge
to reflect the estimated fair value of facilities the Company intends to sell
and a $1.45 million charge to write-off capitalized software that no longer fits
the Company's business model. Net interest income declined $3.63 million, or
7.59%, from $47.76 million (tax equivalent basis) for the first six months of
2000 to $44.13 million in 2001 (see Net Interest Income).
18
Three Months Ended June 30, 2001 vs. 2000
The Company reported a consolidated net loss for the three months ended
June 30, 2001 of $20.06 million or $1.19 million per common share, compared to
net income of $295,000 or $0.02 per share for the second quarter of 2000. The
2001 net loss includes a $17.99 million, or $1.07 per share, loss resulting from
the Company's required adoption of new accounting rules associated with the
accounting for the Company's retained interests in securitized loans.
In addition to the charge against earnings associated with the accounting
change (see Securitizations and Retained Interests), the Company's second
quarter 2001 earnings were negative affected by a significant increase in the
provision for loan losses, the non-recurring charges recorded during the second
quarter of 2001, and a decline in net interest income. As more fully discussed
under the caption Allowance and Provision for Loan Losses, the consolidated
provision for loan losses increased $8.20 million, or 393%, from $2.08 million
in the second quarter of 2000 to $10.28 million in the second quarter of 2001 as
the Company continued to address credit quality concerns within the core loan
portfolio. As discussed above and under the caption Non-Interest Income and
Expense, the Company recorded $3.14 million (pre-tax) in non-recurring charges
against income during the second quarter of 2001 associated with its continuing
reorganization. As further discussed under the caption Net Interest Income, the
Company experienced a decline of $1.05 million in tax-equivalent net interest
income in the second quarter of 2001, as compared to the second quarter of 2000.
NET INTEREST INCOME
Six Months Ended June 30, 2001 vs. 2000
On a tax equivalent basis, net interest income declined $3.63 million, or
7.59%, from $47.76 million for the first six months of 2000 to $44.13 million in
2001. The combination of overall declines in the average balance of interest-
earning assets held by the Company and recent declines in interest rates
initiated by the Federal Reserve Board resulted in an $8.49 million decline in
interest income for the six months ended June 30, 2001 as compared to the same
period in 2000. More specifically, the mortgage banking segment experienced a
decline in the average balance of loans held for sale of $100.56 million, or
85.29%, from $117.90 million for the six months ended June 30, 2000 to $17.34
million in 2001. This decline in average balances, due to the Company's exit
from the specialty-finance business line, resulted in a $4.95 million decline in
interest income in 2001 versus 2000. Within the community banking segment, the
average balance of the core loan portfolio declined $56.45 million, or 2.91%,
from $1.94 billion in 2000 to $1.89 billion in 2001, resulting in a $2.42
million decline in interest income. The core loan portfolio was also affected by
the declining trend in interest rates, resulting in an additional $1.11 million
reduction in interest income. When combined, interest income earned on the
Company's core loan portfolio and its loans held for sale portfolio declined
$9.33 million from 2000 to 2001. The current interest rate environment also
resulted in a $1.41 million decline in interest earned on the Company's
19
securities portfolio as lower yields were available on US Treasury and US Agency
securities. These declines in interest income were partially offset by a $2.21
million increase, from 2000 to 2001, in interest income earned on the Company's
retained interests in securitized loans. Having adopted the new rules associated
with the accounting for retained interests on April 1, 2001, the Company re-
instituted the accrual of interest income on the retained interests during the
second quarter of 2001.
Although interest income declined approximately $8.49 million from 2000 to
2001, interest expense only declined $4.86 million during the same period.
Higher costing, non-core deposits, such as brokered deposits and "special"
certificates of deposit maintained by the Company during the first half of 2001
actually resulted in an increase in interest expense on time deposits of $2.28
million, or 8.59%, from $26.49 million during the first six months of 2000 to
$28.77 million for the same period of 2001. These products generally provide for
a fixed interest rate and, therefore, do not re-price immediately with changes
in the interest rate environment. Given the improved liquidity position of the
community banking segment, reliance on these higher costing funds declined
during the second quarter of 2001 and should result in an overall lower cost of
funds for the remainder of 2001. As the average balance of the Company's loan
portfolios declined during the first half of 2001, the average balance of short-
term borrowings and long-term debt has declined as well. The declines in these
funding sources resulted in a $5.90 million, or 45.96%, decline in interest
expense associated with external borrowings from 2000 to 2001.
Three Months Ended June 30, 2001 vs. 2000
On a tax equivalent basis, net interest income declined $1.05 million, or
4.36%, from $24.08 million in the second quarter of 2000 to $23.03 million in
the second quarter of 2001. Although interest income declined $6.46 million from
the second quarter of 2000 to the same period of 2001, this decline was
partially offset by a decline in interest expense of $5.41 million over these
same periods. As noted previously, both declines in the average balance of
interest-earning assets and declines in the interest rate environment led to the
overall decline in interest income. During the three months ended June 30, 2001,
however, the Company's reduced reliance on higher costing, non-core deposits and
external borrowings also declined and resulted in an overall decline in interest
expense. Additionally, the Company re-instituted the accrual of interest income
on its retained interests in securitized loans beginning April 1, 2001. As a
result, the Company recognized $2.25 million of interest income on its retained
interests during the second quarter of 2001, versus only $46,000 of interest
income during the second quarter of 2000. These changes within the Company's
balance sheet resulted in a 26 basis point improvement in the Company's net
interest margin, which increased from 3.79% for the three months ended June 30,
2000 to 4.05% for the quarter ended June 30, 2001.
20
AVERAGE BALANCE SHEETS and NET INTEREST INCOME
(in thousands)
Six months ended June 30,
2001 2000
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
-----------------------------------------------------------------------------------
Assets
Loan portfolio (1) $1,885,105 $80,343 8.52% $1,941,559 $ 83,868 8.64%
Loans held for sale 17,340 832 9.60 117,903 6,632 11.25
Securities:
Taxable 290,098 8,004 5.52 266,878 8,505 6.37
Tax-exempt (2) 70,641 2,718 7.70 96,569 3,629 7.52
-----------------------------------------------------------------------------------
Total securities 360,739 10,722 5.94 363,447 12,134 6.68
Retained interest in securitized loans 74,684 2,296 6.15 76,957 87 0.23
Federal funds sold 7,113 155 4.36 3,274 112 6.84
-----------------------------------------------------------------------------------
Total earning assets 2,344,981 $94,348 8.05% 2,503,140 $102,833 8.22%
Cash and due from banks 62,648 75,316
Bank premises and equipment 56,816 64,687
Other assets 114,796 171,435
Less: allowance for possible
loan losses (39,567) (27,334)
-----------------------------------------------------------------------------------
Total assets $2,539,674 $2,787,244
===================================================================================
Liabilities
Demand deposits $ 422,489 $ 6,134 2.90% $ 415,805 $ 6,273 3.02%
Savings deposits 293,049 4,371 2.98 326,159 5,473 3.36
Time deposits 1,028,935 28,771 5.59 1,021,472 26,494 5.19
Short-term borrowings 204,791 5,817 5.68 329,091 9,636 5.86
Long-term debt 33,990 1,116 6.57 105,443 3,193 6.06
Trust preferred securities 87,500 4,010 9.17 87,500 4,008 9.16
-----------------------------------------------------------------------------------
Total interest-bearing liabilities 2,070,754 50,219 4.85 2,285,470 55,077 4.82
Demand deposits 260,420 244,173
Other liabilities 51,020 58,250
Stockholders' equity 157,480 199,351
-----------------------------------------------------------------------------------
Total liabilities and stockholders'
equity $2,539,674 $2,787,244
===================================================================================
Net interest income $44,129 $ 47,756
===================================================================================
Net yield on earning assets 3.76% 3.82%
===================================================================================
(1) For purposes of this table, non-accruing loans have been included in
average balances and loan fees, which are immaterial, have been included in
interest income.
(2) Computed on a fully federal tax-equivalent basis assuming a tax rate of
approximately 35%.
21
RATE VOLUME ANALYSIS OF CHANGES IN INTEREST INCOME AND EXPENSE
(in thousands)
Six months ended June 30,
2001 vs. 2000
Increase (Decrease)
Due to Change In:
Volume Rate Net
----------------------------------
Interest-earning assets:
Loan portfolio $(2,416) $(1,109) $(3,525)
Loans held for sale (4,947) (853) (5,800)
Securities:
Taxable 1,599 (2,100) (501)
Tax-exempt (1) (1,155) 244 (911)
----------------------------------
Total securities 444 (1,856) (1,412)
Retained interest in securitized loans (8) 2,217 2,209
Federal funds sold 157 (114) 43
----------------------------------
Total interest-earning assets $(6,770) $(1,715) $(8,485)
==================================
Interest-bearing liabilities:
Demand deposits $ 241 $ (380) $ (139)
Savings deposits (526) (576) (1,102)
Time deposits 195 2,082 2,277
Short-term borrowings (3,539) (280) (3,819)
Long-term debt (2,804) 727 (2,077)
Trust preferred securities - 2 2
----------------------------------
Total interest-bearing liabilities $(6,433) $ 1,575 $(4,858)
==================================
Net Interest Income $ (337) $(3,290) $(3,627)
==================================
(1) Fully federal taxable equivalent using a tax rate of 35%.
The change in interest due to both rate and volume has been allocated to volume
and rate changes in proportion to the relationship of the absolute dollar
amounts of the change in each.
22
AVERAGE BALANCE SHEETS and NET INTEREST INCOME
(in thousands)
Three months ended June 30,
2001 2000
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
-----------------------------------------------------------------------------------
Assets
Loan portfolio (1) $1,841,321 $38,614 8.39% $1,976,355 $43,359 8.78%
Loans held for sale 23,689 505 8.53 119,792 3,391 11.32
Securities:
Taxable 267,419 3,605 5.39 264,357 4,225 6.39
Tax-exempt (2) 67,883 1,315 7.75 97,776 1,801 7.37
-----------------------------------------------------------------------------------
Total securities 335,302 4,920 5.87 362,133 6,026 6.66
Retained interest in securitized loans 64,745 2,251 13.91 76,956 46 0.24
Federal funds sold 10,593 123 4.64 2,912 54 7.42
-----------------------------------------------------------------------------------
Total earning assets 2,275,650 $46,413 8.16% 2,538,148 $52,876 8.33%
Cash and due from banks 61,357 76,031
Bank premises and equipment 55,550 63,934
Other assets 117,340 174,140
Less: allowance for possible
loan losses (39,641) (27,526)
-----------------------------------------------------------------------------------
Total assets $2,470,256 $2,824,727
===================================================================================
Liabilities
Demand deposits $ 432,690 $ 2,960 2.74% $ 411,490 $ 3,109 3.02%
Savings deposits 294,916 2,024 2.75 322,956 2,717 3.37
Time deposits 986,865 13,584 5.51 1,075,291 14,393 5.35
Short-term borrowings 179,381 2,408 5.37 326,875 4,969 6.08
Long-term debt 33,457 402 4.81 94,852 1,604 6.76
Trust preferred securities 87,500 2,005 9.17 87,500 2,004 9.16
-----------------------------------------------------------------------------------
Total interest-bearing liabilities 2,014,809 23,383 4.64 2,318,964 28,796 4.97
Demand deposits 264,263 247,609
Other liabilities 40,512 58,356
Stockholders' equity 150,672 199,798
-----------------------------------------------------------------------------------
Total liabilities and stockholders'
equity $2,470,256 $2,824,727
===================================================================================
Net interest income $23,030 $24,080
===================================================================================
Net yield on earning assets 4.05% 3.79%
===================================================================================
(1) For purposes of this table, non-accruing loans have been included in
average balances and loan fees, which are immaterial, have been included in
interest income.
(2) Computed on a fully federal tax-equivalent basis assuming a tax rate of
approximately 35%.
23
RATE VOLUME ANALYSIS OF CHANGES IN INTEREST INCOME AND EXPENSE
(in thousands)
Three months ended June 30,
2001 vs. 2000
Increase (Decrease)
Due to Change In:
Volume Rate Net
--------------------------------------
Interest-earning assets:
Loan portfolio $(2,883) $(1,862) $(4,745)
Loans held for sale (2,207) (679) (2,886)
Securities:
Taxable 322 (942) (620)
Tax-exempt (1) (1,053) 567 (486)
--------------------------------------
Total securities (731) (375) (1,106)
Retained interest in securitized loans (52) 2,257 2,205
Federal funds sold 202 (133) 69
--------------------------------------
Total interest-earning assets $(5,671) $ (792) $(6,463)
======================================
Interest-bearing liabilities:
Demand deposits $ 777 $ (926) $ (149)
Savings deposits (222) (471) (693)
Time deposits (3,030) 2,221 (809)
Short-term borrowings (2,034) (527) (2,561)
Long-term debt (831) (371) (1,202)
Trust preferred securities - 1 1
--------------------------------------
Total interest-bearing liabilities $(5,340) $ (73) $(5,413)
======================================
Net Interest Income $ (331) $ (719) $(1,050)
======================================
(1) Fully federal taxable equivalent using a tax rate of 35%.
The change in interest due to both rate and volume has been allocated to volume
and rate changes in proportion to the relationship of the absolute dollar
amounts of the change in each.
24
LOAN PORTFOLIO
The composition of the Company's loan portfolio as of June 30, 2001 and
December 31, 2000, is presented in the following table:
June 30, 2001 December 31, 2000
------------------------------------
Commercial, financial and agricultural $ 600,769 $ 637,870
Real estate-mortgage 883,810 959,457
Installment loans to individuals 301,736 370,832
------------------------------------
Total loans $1,786,315 $1,968,159
====================================
Allowance and Provision for Loan Losses
As has been disclosed in recent quarters and as evidenced by the significant
increase in loan charge-offs as outlined below, the Company has continued to
experience a negative trend in credit quality and above-average risk in its core
loan portfolio. Over the past several months, the Company has utilized
independent third parties to assist in performing detailed loan reviews,
implemented more stringent internal risk-coding of individual loans, and
curtailed new loan production as the Company works to address the total risk
inherent in the Company's core loan portfolio. The curtailment of new loan
production is evidenced by the significant decline in the outstanding balance of
loans from December 31, 2000 to June 30, 2001 and has been achieved by
restricting lending authority in the Company's branch network and instituting
changes to its product pricing methodology. As the Company continues to devote
significant resources to its credit administration and lending activities, it
expects the trend of reduced new loan volume to continue for the remainder of
2001.
In evaluating credit risk, the Company systematically monitors the loan
portfolio and the adequacy of the allowance for loan losses on a monthly basis
to provide for losses in the portfolio. Through the Company's internal loan
review department, management assesses the risk in each loan type based on
historical trends, the general economic environment of its local markets,
individual loan performance and other relevant factors. Individual credits are
selected throughout the year for detail loan reviews, which are utilized by
management to assess the risk in the portfolio and the adequacy of the
allowance. Due to the nature of commercial lending, evaluation of the adequacy
of the allowance as it relates to these loan types is often based more upon
specific credit review, with consideration given to historical charge-off
percentages and general economic conditions. Conversely, due to the homogeneous
nature of the real estate and installment portfolios, the portions of the
allowance allocated to those portfolios are primarily based on prior charge-off
history and general economic conditions, with less emphasis placed on
specifically reviewing individual credits, unless circumstances suggest that
specific reviews are necessary. In these categories, specific loan reviews would
be conducted on higher balance and higher risk loans. In evaluating the adequacy
of the allowance, management considers both quantitative and qualitative
factors. Quantitative factors include actual repayment characteristics and loan
performance, cash flow analyses, and estimated fair values of underlying
collateral. Qualitative factors generally include overall trends within the
portfolio, composition of the portfolio, changes in pricing or underwriting,
25
seasoning of the portfolio, and general economic conditions. Reserves not
specifically allocated to individual credits are generally determined by
analyzing potential exposure and other qualitative factors that could negatively
impact the adequacy of the allowance. Determination of such reserves is
subjective in nature and requires management to periodically reassess the
validity of its assumptions. Differences between net charge-offs and estimated
losses are assessed such that management can timely modify its evaluation model
to ensure that adequate provision has been made for risk in the total loan
portfolio.
For the first six months of 2001, the Company recorded a provision for loan
losses of $16.01 million, compared to $4.17 million for the first half of 2000.
This $11.84 million, or 284%, increase from 2000 was due to a significant
increase in both net charge-offs during the first half of 2001 and non-
performing loans as of June 30, 2001. Net charge-offs increased $7.48 million in
2001, as compared to 2000, with $6.52 million of the total increase attributable
to the commercial loan portfolio. Similarly, non-performing loans, particularly
loans placed on non-accrual status, increased $22.23 million, from $14.36
million at June 30, 2000 to $36.59 million at June 30, 2001. Non-accrual loans
increased $17.79 million, from $12.00 million at June 30, 2000 to $29.79 million
at June 30, 2001. Of the total non-accrual loans as of June 30, 2001, $21.06
million, or 70.70%, are commercial loans. As a result of these trends within the
commercial portfolio, management initiated a process during the second quarter
of 2001 to review the majority of the Company's commercial loans. Risk factors
and further credit deterioration during the second quarter of 2001
associated with several larger credits were identified as a result of this
process that resulted in certain credits being downgraded, requiring an increase
in specific reserves against those loans. Management continues to focus
significant attention to the Company's credit quality issues and has centralized
the underwriting and loan approval process for new commercial credits under the
supervision of the Senior Credit Officer. Additionally, the Company has
significantly tightened its credit standards for all new commercial loan
production.
As the Company continues to address its credit quality concerns and
completes its process improvement for identifying problem loans within the
portfolio, the Company has maintained a relatively high coverage ratio, compared
to industry averages, of "allowance for loan losses to total loans" of 2.56% as
of June 30, 2001. This coverage ratio reflects an increase of 50 basis points
from March 31, 2001 and is due, in large part, to the increase in non-performing
loans discussed previously. Although the Company anticipates maintaining a
higher-than-average coverage ratio as it addresses its credit quality concerns,
the Company expects that its loan loss experience will begin to more closely
approximate industry averages by the end of 2001. Through this process, however,
26
the Company believes that a higher-than-average coverage ratio is warranted due
to the aforementioned trends in the Company's credit quality. Based on factors
known to management as of June 30, 2001, the Company believes that the
consolidated allowance for loans losses is adequate to provide for losses
inherent in the portfolio as of June 30, 2001.
Six months ended June 30, Year ended December 31,
Allowance for Loan Losses 2001 2000 2000
----------------------------------------------------------------------
Balance at beginning of period $ 40,627 $27,113 $ 27,113
Charge-offs:
Commercial, financial and agricultural (7,454) (507) (5,081)
Real estate-mortgage (1,683) (499) (1,703)
Installment loans to individuals (3,373) (3,656) (7,839)
----------------------------------------------------------------------
Totals (12,510) (4,662) (14,623)
Recoveries:
Commercial, financial and agricultural 639 213 890
Real estate-mortgage 185 124 179
Installment loans to individuals 797 915 1,588
----------------------------------------------------------------------
Totals 1,621 1,252 2,657
----------------------------------------------------------------------
Net charge-offs (10,889) (3,410) (11,966)
Provision for loan losses 16,010 4,170 25,480
----------------------------------------------------------------------
Balance at end of period $ 45,748 $27,873 $ 40,627
======================================================================
As a Percent of Average Total Loans:
Net charge-offs 1.16% 0.35% 0.61%
Provision for loan losses 1.70 0.43 1.29
As a Percent of Non-Performing Loans:
Allowance for loan losses 125.04% 194.16% 199.88%
As of June 30, As of December 31,
2001 2000 2000
------------------------------------------------------------------
Summary of Non-performing Assets
Non-accrual loans $29,787 $11,995 $16,676
Accruing loans past due 90 days or more 6,316 1,673 3,350
Restructured loans 483 688 300
------------------------------------------------------------------
Total non-performing loans 36,586 14,356 20,326
Other real estate owned 3,971 5,265 3,488
------------------------------------------------------------------
Total non-performing assets $40,557 $19,621 $23,814
==================================================================
LOANS HELD FOR SALE
Loans held for sale represent mortgage loans the Company has either
purchased or originated with the intent to sell and includes traditional fixed-
rate and junior lien mortgage loans. Of the total $15.74 million of loans
reported as "held-for-sale" as of June 30, 2001, $13.48 million represented
27
traditional fixed-rate mortgage loans. The remaining $2.26 million represented
junior lien mortgage loans. The majority of loans reported as "held-for-sale"
were originated under pre-established purchase commitments from independent
third parties. Once funded, these loans are generally sold, servicing released,
to end investors within 60-90 days.
As of June 30, 2001, the Company has terminated its affiliation with
loan production offices in Maryland, and Georgia. Of the total balance of loans
classified as "held-for-sale" as of June 30, 2001, these offices originated
$7.46 million. It is expected that the majority of those loans remaining as of
June 30, 2001 will be sold during the third quarter of 2001.
During the first six months of 2001, the Company originated $92.94
million in loans held for sale and sold $97.66 million during the same period.
This compares to originations of $160.96 million, purchases of $16.07 million
and sales of $204.22 million during the first six months of 2000. As a result of
the Company's termination of its affiliation with the loan production offices in
Maryland and Georgia, the Company expects its loans originated for sale will
continue to decline as this production is not being replaced within the Company.
SECURITIZATIONS and RETAINED INTERESTS
Amounts reported as Retained Interests in the Consolidated Balance
Sheets represent the estimated fair value of future cash flows expected to be
received by the Company resulting from the six securitizations of fixed rate,
junior lien mortgage loans completed by the Company between 1997 and 1999. The
estimated fair value of the retained interests is determined by performing cash
flow modeling techniques that incorporate assumptions regarding prepayment and
default rates expected to be experienced by the underlying collateral pools.
Using these assumptions, the Company forecasts the expected amount and timing of
cash flows it expects to receive and applies a selected interest rate to
discount those anticipated cash flows to determine their estimated fair values.
Key assumptions used in estimating the fair value of the Company's retained
interests as of March 31, 2001 and December 31, 2000, were as follows:
June 30 December 31
2001 2000
---------------------------------
Prepayment speed (CPR) 15%-21% 15%-21%
Weighted average cumulative defaults 16.47% 13.68%
Weighted average discount rate 14.00% 14.00%
Using the aforementioned assumptions, the estimated fair value of the
retained interests were approximately $66.20 million and $85.21 million, as of
June 30, 2001 and December 31, 2000, respectively. As a result of economic
forecasts released during the first quarter of 2001 and the completion of the
Company's sale of the loan servicing responsibilities for its securitized loans
28
to an independent third party, the Company increased its projected cumulative
default projection from 13.68% as of December 31, 2000, to 17.15% as of March
31, 2001. This change in assumption resulted in a decline of approximately
$21.22 million (pre-tax) in the estimated fair value of the Company's retained
interests during the first quarter of 2001. Under accounting rules in effect as
of March 31, 2001, the Company recorded a $2.18 million (pre-tax) impairment
charge in its Consolidated Statements of Income and a $19.04 million (pre-tax)
unrealized loss in its Stockholders' Equity during the first quarter of 2001.
On April 1, 2001, the Company adopted the accounting provisions of
Emerging Issues Task Force Issue 99-20 ("Issue 99-20") as required. Issue 99-20
set forth specific accounting guidance regarding the recognition of interest
income on, and impairment of, retained interests in securitized loans. The
required adoption of Issue 99-20 resulted in the Company recording a $29.98
million (pre-tax), or $17.99 million (net of tax) cumulative effect of
accounting change on April 1, 2001. In conjunction with recording this
cumulative effect of accounting change, unrealized losses on the retained
interests that were previously recorded as negative adjustments through the
Accumulated Other Comprehensive Loss component of Stockholders' Equity were
reversed and recorded through the Company's Consolidated Statements of Income in
accordance with the new accounting rules.
In addition to establishing specific guidance related to determining
whether impairment exists in the Company's retained interests, Issue 99-20 also
set forth requirements for the recognition of interest income on retained
interests in securitized loans. Issue 99-20 requires that interest income on
retained interests be recognized over the life of the retained interest using
the effective yield method. Using the effective yield approach, the Company re-
instituted the accrual of interest income on its retained interests, recognizing
$2.25 million (pre-tax) of interest income during the second quarter of 2001.
LOAN SERVICING
As disclosed in the Annual Report on Form 10-K for the year ended
December 31, 2000, the Company sold its mortgage servicing rights associated
with approximately $1.10 billion of junior lien and Title I mortgage loans.
During the first quarter of 2001, the Company completed the sale and transfer of
this loan servicing portfolio to the buyer and the Company's interim loan
servicing agreement with the buyer expired. The sub-servicing agreement had been
entered into to assist in the transition of the loan servicing portfolio from
the Company to the buyer. The Company continues to provide loan servicing
operations for certain pools of loans that were not included in this
transaction. As of June 30, 2001, the unpaid principal balances of loans
serviced for others approximated $96.70 million, compared to $1.20 billion at
December 31, 2000. There are no mortgage servicing rights recorded in the
Consolidated Balance Sheets for these loans.
29
The Company did, however, record a $1.90 million (pre-tax) charge
against first quarter 2001 earnings to reflect an estimated contractual
obligation to FannieMae associated with a loan servicing portfolio acquired by
the Company in 1998. As a condition to the Company's acquisition of the rights
to service a pool of loans owned by FannieMae, the Company became subject to
certain loan repurchase requirements for Title I loans if those loans were found
to have documentation deficiencies. Although the Company did not originate these
loans, it became obligated to repurchase the loans as a condition to FannieMae's
approval to transfer loan servicing responsibilities to the Company. The Company
had negotiated an agreement with FannieMae that provided for payment of this
obligation to FannieMae through the remittance of excess cash flows on loans
serviced by the Company for FannieMae. However, the transfer of the Company's
loan servicing operations during the first quarter of 2001 created uncertainty
in the size and timing of any excess cash flows resulting in the Company's first
quarter 2001 charge against earnings. During the second quarter of 2001, the
Company's liability to FannieMae was reduced by $208,000 as a result of excess
cash flows collected and remitted to FannieMae on the Company's behalf. This
recovery of previously recorded expense was recorded as a reduction of Non-
interest expense in the Company's Consolidated Statements of Income.
NON-INTEREST INCOME AND EXPENSE
Six Months Ended June 30, 2001 vs. 2000
Non-Interest Income: Non-interest income declined $4.40 million, or 17.17%, from
$25.64 million for the first six months of 2000 to $21.23 million for the first
half of 2001. This decline was associated with the mortgage banking segment and
was due to the Company's exit from the specialty-finance business line, as
revenues derived from loan servicing and loan origination fees declined $10.53
million, or 92.59%, from $11.38 million for the first six months of 2000 to
$843,000 in 2001. More specifically, the sale of the loan servicing operation
resulted in a $9.51 million, or 97.49%, decline in loan servicing revenues.
These declines were partially offset by a $1.58 million increase in gains
realized from loan sales, which increased from $993,000 in the first half of
2000 to $2.57 million in 2001. Of the total $2.57 million in gains recognized in
2001, $1.70 million was attributable to loans originated by the Maryland and
Georgia loan production offices. As previously noted, the Company has terminated
its affiliation with those loan production offices as of June 30, 2001.
Within the community banking segment, service charge revenues increased
$2.20 million, or 43.18%, from $5.10 million for the six months ended June 30,
2000 to $7.30 million for the same period of 2001. During the second quarter of
2001, the Company implemented policy changes that resulted in substantially
30
higher collection rates of service charges and related fees that led to this
increase in service charge revenues. Other income increased $1.13 million, or
13.65%, from $8.17 million in the first half of 2000 to $9.29 million in 2001,
including a $3.37 million gain recognized on the sale of the Company's internet
service and direct mail divisions which were sold during the second quarter of
2001. Excluding this gain, Other Income declined $2.25 million, or 27.56%, due
primarily to the Company's exit from its specialty-finance loan origination and
servicing operations.
Non-Interest Expense: Non-interest expense remained relatively unchanged, with
$61.68 million reported for the six months ended June 30, 2000 and $61.29
million reported for the same period in 2001. However, compensation expense (as
reported) actually declined $5.44 million, or 20.06%, from $27.13 million for
the first half of 2000 to $21.69 million in 2001. In 2000 and 2001, the Company
recognized $2.54 million and $1.28 million, respectively, in non-recurring
compensation costs associated with officer and employee terminations and
severance-related issues. Excluding these non-recurring charges, compensation
costs declined $4.18 million, or 17.01%, from $24.59 million in 2000 to $20.41
million in 2001. This decline corresponds to a 24.55% decline in full-time
equivalent employees of the Company from June 30, 2000 to June 30, 2001. The
Company's closure of its specialty-finance loan origination operations, its sale
of its loan servicing, internet service and direct mail operations, and the
continuing reorganization within its community banking segment resulted in a
decline of 353 FTEs, from 1,438 FTEs at June 30, 2000 to 1,085 FTEs as of June
30, 2001.
In addition to the decline in compensation costs, total occupancy and
depreciation expenses declined $1.67 million, or 17.00%, from $9.81 million for
the six months ended June 30, 2000 to $8.14 million for the same period of 2001.
This decline, along with the decline in advertising costs, was primarily the
result of the Company's closure and/or divestiture of certain divisions,
including the Company's exit from specialty-finance operations, and other
reorganization initiatives.
Offsetting these non-interest expense declines, the Company recorded
several non-recurring charges during the first half of 2001. As previously
discussed, the Company recorded a $2.18 million (pre-tax) charge associated with
the impairment of its retained interests, a $1.90 million (pre-tax) charge for a
contractual obligation to FannieMae, and a $1.97 million (pre-tax) charge to
reflect the estimated fair value of the Company's direct mail division prior to
the sale of that division. Additionally, the Company recorded a $1.69 million
charge to reflect the estimated fair value of certain facilities it plans to
sell and a $1.45 million charge to write-off capitalized software that no longer
fits the Company's business model.
Three Months Ended June 30, 2001 vs. 2000
Non-Interest Income: Non-interest income increased $531,000, or 4.43%, from
$11.99 million for the quarter ended June 30, 2000 to $12.52 million for the
same period in 2001. Within the community banking segment, revenues associated
31
with service charge income increased $1.67 million, or 62.06%, from $2.69
million in the second quarter of 2000 to $4.36 million in 2001. This increase
was due to policy changes implemented by the Company during the second quarter
of 2001 that resulted in substantially higher collection rates on service
charges and related fees. Offsetting this increase in revenues, mortgage banking
revenues declined $3.95 million, or 70.74%, from $5.59 million in the second
quarter of 2000 to $1.63 million in the second quarter of 2001. Most notably,
the sale of the Company's specialty-finance loan servicing division resulted in
a $4.69 million decrease in loan servicing fees, from $4.90 million in the
second quarter of 2000 to $213,000 in the same period of 2001. Although gains
realized from loan sales increased significantly in 2001 as compared to 2000,
most of the gains recognized in 2001 were associated with loans originated by
the Company's Maryland and Georgia loan production offices. As noted above, the
Company has since terminated its affiliation with those offices. Additionally,
the Company's other financial services business segment recorded a $3.37 million
(pre-tax) gain (included in Other Income) on the sale of the Company's internet
service and direct mail divisions during the second quarter of 2001.
Non-Interest Expense: During the second quarter of 2000, the Company recorded
$4.02 million (pre-tax) of non-recurring, non-interest expenses associated with
officer and employee terminations and the closure of its California loan
origination divisions. During the second quarter of 2001, the Company recorded
$3.13 million (pre-tax) of non-recurring, non-interest expenses associated with
facilities the Company intends to sell and capitalized software the Company will
no longer utilize in its operations. Excluding these non-recurring charges
against income, total non-interest expense declined $3.61 million, or 12.50%,
from $28.89 million in the second quarter of 2000 to $25.28 million in 2001.
Although overall declines in occupancy and depreciation expenses were achieved
as a result of the Company's closure and/or divestiture of certain divisions,
the majority of the total decline was associated with compensation costs. As
noted above, the 24.55% decline in full-time equivalent employees of the Company
has resulted in a corresponding decline in compensation costs incurred.
MARKET RISK MANAGEMENT
Market risk is the risk of loss due to adverse changes in current and
future cash flows, fair values, earnings or capital due to adverse movements in
interest rates and other factors, including foreign exchange rates and commodity
prices. Because the Company has no significant foreign exchange activities and
holds no commodities, interest rate risk represents the primary risk factor
affecting the Company's balance sheet and net interest margin. Significant
changes in interest rates by the Federal Reserve could result in similar changes
in LIBOR interest rates, prime rates, and other benchmark interest rates that
could affect the estimated fair value of the Company's investment securities
portfolio, interest paid on the Company's short-term and long-term borrowings,
interest earned on the Company's loan portfolio and interest paid on its deposit
accounts. The Company's Asset and Liability Committee ("the Committee") has been
delegated the responsibility of managing the Company's interest-sensitive
balance sheet accounts to maximize earnings while managing interest rate risk.
32
The Committee, comprised of various members of executive and senior management,
is also responsible for establishing policies to monitor and limit the Company's
exposure to interest rate risk and to manage the Company's liquidity position.
The Committee satisfies its responsibilities through monthly meetings during
which product pricing issues, liquidity measures and interest sensitivity
positions are monitored.
LIQUIDITY
The adequacy of the Company's liquidity position is evaluated at the
subsidiary bank level and at the Parent Company level. Within the community
banking segment, the Company manages its liquidity position to effectively and
economically satisfy the funding needs of its customers, to accommodate the
scheduled repayment of borrowings, and to provide the funding necessary for
asset growth. The focus of the Company's liquidity management function within
the community banks is on deposit customers. The Company attempts to maintain a
stable core deposit base as its primary funding source. The Company also manages
relationships with external funding sources, including the Federal Home Loan
Bank, to provide the banking subsidiaries with additional sources of liquidity.
Additionally, City National has utilized the capital markets, including the
issuance of brokered deposits, as another source of liquidity. Aside from
funding sources, the community banks also seek to manage liquidity by
maintaining a sufficient percentage of their total assets as liquid assets, for
example the Company's securities portfolio, that could be sold if necessary to
provide additional funding sources. As of June 30, 2001, the Company believes
that the community banking subsidiaries maintained a sufficient liquidity
position to satisfy their funding and cash needs.
However, the Company believes that deficiencies exist at the Parent
Company level related to the Parent Company's liquidity position at June 30,
2001. The primary sources of cash for the Parent Company are the payment of
dividends from the subsidiary banks. Regulatory guidelines restrict the ability
of the subsidiary banks to transfer funds to the Parent Company in the form of
dividends. The approval of the banks' primary regulator is required prior to the
payment of dividends by a subsidiary bank in excess of the bank's earnings
retained in the current year plus retained net profits for the preceding two
years. As a result of the net losses recorded thus far in 2001 and in 2000 and
depressed earnings at the bank level in 1999, the subsidiary banks are required
to request and obtain regulatory approval prior to the payment of dividends to
the Parent Company. During the first six months of 2001, City National received
approval from the OCC to pay $5.87 million in special dividends to the Parent
Company. These funds were used by the Parent Company to satisfy $3.99 million in
debt service requirements, through June 30, 2001, associated with the Parent
Company's outstanding trust preferred securities. Additionally, the Parent
Company utilized $1.60 million of these funds to reduce the outstanding
principal balance of its debt obligations maintained with an unrelated third
33
party institution. However, the OCC has broad discretionary authority as it
considers any additional dividend requests to be submitted by City National. The
approvals to pay dividends to the Parent Company thus far in 2001 is not
necessarily indicative of future OCC determinations.
Although the sources of cash for the Parent Company are extremely
limited, the cash needs of the Parent Company are significant. Interest payments
are required in 2001 associated with the Company's two trust-preferred issues,
its third-party term note and line of credit, and its line of credit maintained
with City National. Scheduled interest payments on the Company's trust-preferred
securities for the remainder of 2001 approximate $4.00 million, excluding the
$3.99 million interest paid through June 30, 2001. The amounts outstanding on
the term note and line of credit combined approximate $24.93 million as of June
30, 2001. Both the term note and the line of credit are scheduled to mature on
January 15, 2002.
As a result of the liquidity issues at the Parent Company and the net
losses reported thus far in 2001 and in 2000, the Company announced on June 6,
2001, that the third quarter dividend, scheduled for payment on July 31, 2001,
on City Holding Capital Trust II preferred stock and future dividend payments on
both City Holding Capital Trust and City Holding Capital Trust II preferred
stock would be deferred through January 31, 2002. The terms of the trust
preferred agreements provide for the deferral of interest payments, if so
elected, on the trust preferred securities for up to five years, so long as
there has been no event of default, which includes bankruptcy, failure to pay
principal payments when due, and other events as defined in the documents
governing the issuance of these securities. In January 2001, the Company
announced a suspension in the payment of dividends to its common stockholders.
In part to address these liquidity issues at the Parent Company, the
Company continues to actively market its California banking franchises. If the
divestiture of those entities is successful, the majority of the proceeds
obtained from the sale would be used to repay a significant portion of the
remaining balance of the Company's debt obligation with the unrelated third
party institution. Additionally, as long as City National continues to maintain
adequate capital levels and, at a minimum a 10.00% Total Capital ratio, it will
seek regulatory approval to pay cash dividends to the Parent Company to fund the
operational costs of the Parent Company and to enable the Parent Company to
satisfy its debt service requirements on its term note and line of credit.
Ultimately, however, a significant improvement in operating results generated at
the subsidiary bank level will be necessary to provide the dividend capabilities
needed to relieve the liquidity issues at the Parent Company and enable the
Company to reinstitute the payment of dividends to both its trust preferred and
common stockholders. To this end, the Company continues to implement a
reorganization plan to improve the overall efficiency and earnings performance
of the Company by refocusing the Company's resources on its West Virginia
community banking segment. As previously discussed, the Company has divested or
closed the majority of its non-core, non-bank operations. The Company has also
identified facilities that are no longer necessary to the Company's operations
34
and it will sell. As previously noted, the Company recently announced its
intention to reduce its workforce by approximately 275 full-time equivalents
during the second half of 2001 as it reorganizes and reengineers its processes.
Each of the aforementioned steps has been undertaken to improve the long-term
operating efficiency and earnings capabilities of the Company, which is expected
to result in the eventual restoration of dividends to both trust preferred and
common stockholders.
CAPITAL RESOURCES
During the first six months of 2001, the Company reported a net loss of
$25.80 million, partially offset by $9.22 million in other comprehensive income.
As a result, stockholders' equity declined $16.58 million, or 10.14%, during the
first half of 2001, from $163.46 million at December 31, 2000 to $146.87 million
at June 30, 2001. The net loss of $25.80 million includes the cumulative effect
of a change in accounting associated with the Company's retained interests in
securitized loans. The other comprehensive income of $9.22 million includes the
combined effect of reversing the negative fair value adjustments previously
recorded associated with the retained interests and recording unrealized gains
in the Company's investment securities portfolio.
Regulatory guidelines require the Company to maintain a minimum total
capital to risk-adjusted assets ratio of 8%, with at least one-half of capital
consisting of tangible common stockholders' equity and a minimum Tier I leverage
ratio of 4%. At June 30, 2001, the Company's total capital to risk-adjusted
assets ratio was 10.33% and its Tier I capital ratio was 7.13%, compared to
11.61% and 9.05%, respectively, at December 31, 2000. The Company's leverage
ratio at June 30, 2001 and December 31, 2000 was 6.07% and 7.94%, respectively.
Similarly, the Company's banking subsidiaries are also required to
maintain minimum capital levels as set forth by various regulatory agencies.
Under capital adequacy guidelines, the banking subsidiaries are required to
maintain minimum total capital, Tier I capital, and leverage ratios of 8.00%,
4.00%, and 4.00%, respectively. As previously discussed, City National entered
into a formal agreement with the OCC during 2000. One of the provisions of the
agreement requires City National to maintain its total capital ratio at least
equal to 10.00%. As of June 30, 2001, the Company's lead bank, City National,
reported total capital, Tier I capital, and leverage ratios of 11.57%, 10.31%,
and 8.75%, respectively. As of December 31, 2000, City National reported total
capital, Tier I capital, and leverage ratios of 12.72%, 11.47%, and 10.10%,
respectively.
35
Due to the net loss reported at both the consolidated and bank levels
thus far in 2001 and in 2000 and depressed earnings in 1999, the Company has
suspended the payment of dividends to its common stockholders. The dividend
suspension is also due to the liquidity issues faced by the Parent Company, as
discussed under the caption Liquidity. The strategic repositioning of the
Company is expected to have a positive effect on the long-term earnings
capabilities of the Company and City National. Combined with the Company's focus
on restoring asset quality and effectively managing its risks, the Company
anticipates experiencing an improved capital position over the long term,
although achievement of these objectives is by no means assured (see Forward
Looking Statements).
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK
The information called for by this item is provided under the caption
"Market Risk Management" under Item 2--Management Discussion and Analysis of
Financial Condition and Results of Operations.
36
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company is party to
various legal actions that
are incidental to its
business. While the outcome
of legal actions cannot be
predicted with certainty,
the Company believes that
the outcome of any of these
proceedings, or all of them
combined, will not have a
material adverse effect on
its consolidated financial
position, results of
operations, or cash flows.
Item 2. Changes in Securities None
Item 3. Defaults Upon Senior Securities None
Item 4. Submission of Matters to a
Vote of Security Holders:
The Company held its Annual Meeting of Shareholders on June 13, 2001 at which
time shareholders were to consider two proposals, as follows:
1. Election of seven Class II directors to serve for a term
of three years and three Class I directors to serve for
a term of two years.
2. Ratification of the Board of Directors' appointment of
Ernst & Young LLP as independent auditors of the Company
for 2001.
The vote tabulation for each matter was as follows:
1. Election of Directors to the Board of Directors:
Director Votes For Votes Withheld
- -----------------------------------------------------------------------------
Class II Directors:
Tracy W. Hylton, II 12,079,720 666,825
C. Dallas Kayser 12,160,173 586,372
Edward M. Payne, III 12,039,457 707,088
Gerald R. Francis 11,987,980 758,565
Oshel B. Craigo 13,648,287 675,571
Sharon H. Rowe 12,073,402 673,143
William H. File, III 12,089,200 657,345
Class I Directors:
Robert E. Grist 12,169,208 577,337
James L. Rossi 12,192,592 553,953
Mary H. Williams 12,176,305 570,240
2. Ratification of the Board of Directors' appointment of
Ernst & Young LLP as independent auditors of the
Company for 2001:
Votes For Votes Against Abstentions
-------------------------------------------------------------
12,198,968 560,440 144,867
Item 5. Other Information None
Item 6 Exhibits and Reports on Form 8-K:
37
Reports on Form 8-K
On June 11, 2001, the Company filed a Current Report on
Form 8-K, announcing the third quarter dividend payment
of City Holding Capital Trust II Preferred Stock
scheduled for July 31 would be deferred. The Company also
announced that dividend payments on City Holding Capital
Trust and City Holding Capital Trust II would be deferred
through January 31, 2002.
On June 22, 2001, the Company filed a Current Report on
Form 8-K, attaching a news release announcing that its
Board of Directors approved the adoption of a Stockholder
Rights Plan under which all stockholders of record as of
July 1, 2001 would receive rights to purchase a new
series of preferred stock.
SIGNATURE
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CITY HOLDING COMPANY
Date: August 14, 2001
By: /s/ Michael D. Dean
-------------------------------
Michael D. Dean
Senior Vice President - Finance,
Chief Accounting Officer and
Duly Authorized Officer
38