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 September 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 incorporation or (IRS Employer Identification
organization) Number)
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 November 10, 2001.
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 sale of its California banking operations and such sale, if
completed, may not have the result currently anticipated; (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 - September 30, 2001 and
December 31, 2000
Consolidated Statements of Income - Nine months ended
September 30, 2001 and 2000 and Three months ended
September 30, 2001 and 2000
Consolidated Statements of Changes in Stockholders' Equity -
Nine months ended September 30, 2001 and 2000
Consolidated Statements of Cash Flows - Nine months ended
September 30, 2001 and 2000
Notes to Consolidated Financial Statements - September 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)
September 30 December 31
2001 2000
----------------------------
(Unaudited)
Assets
Cash and due from banks $ 61,491 $ 87,990
Federal funds sold 124,976 2,638
----------------------------
Cash and Cash Equivalents 186,467 90,628
Securities available for sale, at fair value 323,995 385,462
Loans:
Gross loans 1,662,934 1,968,159
Allowance for loan losses (57,196) (40,627)
----------------------------
Net Loans 1,605,738 1,927,532
Loans held for sale 7,066 17,900
Retained interests 68,666 85,206
Premises and equipment 46,375 56,924
Accrued interest receivable 14,163 18,242
Other assets 100,209 89,606
----------------------------
Total Assets $2,352,679 $2,671,500
============================
Liabilities
Deposits:
Noninterest-bearing $ 270,372 $ 271,358
Interest-bearing 1,645,858 1,812,583
----------------------------
Total Deposits 1,916,230 2,083,941
Short-term borrowings 141,368 248,766
Long-term debt 29,742 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 36,476 53,004
----------------------------
Total Liabilities 2,211,316 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 September 30, 2001 and December 31, 2000, including
4,979 in treasury 42,232 42,232
Capital surplus 59,174 59,174
Retained earnings 33,557 67,152
Cost of common stock in treasury (136) (136)
Accumulated other comprehensive income (loss) 6,536 (4,965)
----------------------------
Total Stockholders' Equity 141,363 163,457
----------------------------
Total Liabilities and Stockholders' Equity $2,352,679 $2,671,500
============================
See notes to consolidated financial statements (unaudited).
4
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands, except earnings per share data)
Nine Months Ended September 30
2001 2000
---------------------------
Interest Income
Interest and fees on loans $117,932 $136,521
Interest on investment securities:
Taxable 11,529 12,789
Tax-exempt 2,570 3,504
Interest on retained interests 4,802 168
Interest on federal funds sold 762 137
---------------------------
Total Interest Income 137,595 153,119
Interest Expense
Interest on deposits 55,555 60,590
Interest on short-term borrowings 7,476 14,298
Interest on long-term debt 1,650 3,700
Interest on trust preferred securities 6,034 6,013
---------------------------
Total Interest Expense 70,715 84,601
---------------------------
Net Interest Income 66,880 68,518
Provision for loan losses 30,358 8,450
---------------------------
Net Interest Income After Provision for Loan Losses 36,522 60,068
Non-Interest Income
Investment securities gains 1,817 2
Service charges 12,146 7,900
Mortgage loan servicing fees 295 14,294
Net origination fees on junior-lien mortgages 598 2,211
Gain (loss) on sale of loans 2,879 (2,309)
Other income 11,708 12,103
---------------------------
Total Non-Interest Income 29,443 34,201
Non-Interest Expense
Salaries and employee benefits 33,583 37,827
Occupancy, excluding depreciation 4,701 5,564
Depreciation 6,972 9,008
Advertising 1,937 3,280
Retained interest impairment 2,182
Other expenses 42,486 33,652
---------------------------
Total Non-Interest Expense 91,861 89,331
---------------------------
(Loss) Income Before Income Taxes and Cumulative Effect of Accounting Change (25,896) 4,938
Income tax (benefit) expense (10,286) 1,545
---------------------------
(Loss) Income Before Cumulative Effect of Accounting Change (15,610) 3,393
Cumulative effect of accounting change, net of tax (17,985) --
---------------------------
Net (Loss) Income $(33,595) $ 3,393
===========================
Basic (Loss) Earnings per Share
(Loss) income before cumulative effect of accounting change $(0.92) $0.20
Cumulative effect of accounting change (1.07) --
---------------------------
Net (Loss) Income $(1.99) $0.20
===========================
Diluted (Loss) Earnings per Share
(Loss) income before cumulative effect of accounting change $(0.92) $0.20
Cumulative effect of accounting change (1.07) --
---------------------------
Net (Loss) Income $(1.99) $0.20
===========================
Average Common Shares Outstanding:
Basic 16,888 16,880
===========================
Diluted 16,888 16,880
===========================
See notes to consolidated financial statements (unaudited).
5
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands, except earnings per share data)
Three Months Ended September 30
2001 2000
----------------------------
Interest Income
Interest and fees on loans $ 36,757 $46,021
Interest on investment securities:
Taxable 3,525 4,284
Tax-exempt 803 1,145
Interest on retained interests 2,506 50
Interest on federal funds sold 607 56
----------------------------
Total Interest Income 44,198 51,556
Interest Expense
Interest on deposits 16,279 22,350
Interest on short-term borrowings 1,659 4,662
Interest on long-term debt 534 507
Interest on trust preferred securities 2,024 2,005
----------------------------
Total Interest Expense 20,496 29,524
----------------------------
Net Interest Income 23,702 22,032
Provision for loan losses 14,348 4,280
----------------------------
Net Interest Income After Provision for Loan Losses 9,354 17,752
Non-Interest Income
Investment securities gains 575 -
Service charges 4,851 2,805
Mortgage loan servicing fees 50 4,539
Net origination fees on junior-lien mortgages - 590
Gain (loss) on sale of loans 311 (3,302)
Other income 2,422 3,932
----------------------------
Total Non-Interest Income 8,209 8,564
Non-Interest Expense
Salaries and employee benefits 11,897 10,698
Occupancy, excluding depreciation 1,450 1,783
Depreciation 2,079 2,977
Advertising 568 637
Retained interest impairment - -
Other expenses 14,580 11,554
----------------------------
Total Non-Interest Expense 30,574 27,649
----------------------------
Loss Before Income Taxes and Cumulative Effect of Accounting Change (13,011) (1,333)
Income Tax Benefit (5,216) (412)
----------------------------
Loss Before Cumulative Effect of Accounting Change (7,795) $ (921)
Cumulative effect of accounting change, net of tax - -
----------------------------
Net Loss $ (7,795) $ (921)
============================
Basic Loss per Share
Loss before cumulative effect of accounting change $(0.46) $(0.05)
Cumulative effect of accounting change - -
----------------------------
Net Loss $(0.46) $(0.05)
============================
Diluted Loss per Share
Loss before cumulative effect of accounting change $(0.46) $(0.05)
Cumulative effect of accounting change - -
----------------------------
Net Loss $(0.46) $(0.05)
============================
Average Common Shares Outstanding:
Basic 16,888 16,888
============================
Diluted 16,888 16,888
============================
See notes to consolidated financial statements (unaudited).
6
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (Unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
NINE MONTHS ENDED SEPTEMBER 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 (33,595) (33,595)
Other comprehensive income:
Unrealized gain on securities and retained interests
of $11,501, net of reclassification adjustment for
gains included in net income of $0 11,501 11,501
-------------
Total comprehensive loss (22,094)
----------------------------------------------------------------------------
Balances at September 30, 2001 $42,232 $59,174 $ 33,557 $(136) $ 6,536 $141,363
============================================================================
Accumulated
Other Total
Common Capital Retained Treasury Comprehensive Stockholders'
Stock Surplus Earnings Stock (Loss) Income Equity
----------------------------------------------------------------------------
Balances at December 31, 1999 $42,199 $59,164 $112,951 $(285) $(15,487) $198,542
Comprehensive income:
Net income 3,393 3,393
Other comprehensive income:
Unrealized gain on securities of $1,854, net of
reclassification adjustment for gains included in
net income of $1 1,853 1,853
-------------
Total comprehensive income 5,246
Cash dividends declared ($.36/share) (6,075) (6,075)
Issuance of contingently-issuable shares of common stock 33 10 149 192
----------------------------------------------------------------------------
Balances at September 30, 2000 $42,232 $59,174 $110,269 $(136) $(13,634) $197,905
============================================================================
See notes to consolidated financial statements (unaudited).
7
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
Nine Months Ended September 30
2001 2000
------------------------------
Operating Activities
Net (loss) income $ (33,595) $ 3,393
Cumulative effect of accounting change, net of tax 17,985 -
------------------------------
(Loss) income before cumulative effective of accounting change (15,610) 3,393
Adjustments to reconcile net (loss) income to net cash provided by
operating activities:
Net amortization 719 4,718
Provision for depreciation 6,972 9,008
Provision for loan losses 30,358 8,450
Loans originated for sale (93,875) (193,098)
Purchases of loans held for sale - (16,065)
Proceeds from loans sold 107,588 300,707
Realized (gains) losses on loans sold (2,879) 2,309
Realized investment securities gains (1,817) (2)
(Increase) decrease in retained interests (2,620) 17
Decrease (increase) in accrued interest receivable 4,079 (1,135)
Increase in other assets (5,867) (6,359)
(Decrease) increase in other liabilities (16,528) 4,539
------------------------------
Net Cash Provided by Operating Activities 10,520 107,404
Investing Activities
Proceeds from sales of securities available for sale 179,120 22,764
Proceeds from maturities and calls of securities available for sale 144,127 38,366
Purchases of securities available for sale (250,552) (50,458)
Net decrease (increase) in loans 291,436 (137,918)
Net (purchases) sales of premises and equipment 1,387 (2,351)
------------------------------
Net Cash Provided by (Used in) Investing Activities 365,518 (129,597)
Financing Activities
Net (decrease) increase in noninterest-bearing deposits (986) 4,724
Net (decrease) increase in interest-bearing deposits (166,725) 139,376
Net decrease in short-term borrowings (107,398) (97,918)
Repayment of long-term debt (5,090) (60,000)
Cash dividends paid - (6,075)
------------------------------
Net Cash Used in Financing Activities (280,199) (19,893)
------------------------------
Increase (Decrease) in Cash and Cash Equivalents 95,839 (42,086)
Cash and Cash Equivalents at beginning of period 90,628 122,112
------------------------------
Cash and Cash Equivalents at end of period $ 186,467 $ 80,026
==============================
See notes to consolidated financial statements (unaudited).
8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
September 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 nine months ended September
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 September 30, 2001 and December 31, 2000, the Company reported
retained interests in its securitizations of approximately $68.67 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
$4.80 million (pre-tax) of interest income through September 30, 2001.
Key assumptions used in estimating the fair value of the Company's
retained interests as of September 30, 2001 and December 31, 2000, were as
follows:
September 30 December 31
2001 2000
--------------------------------
Prepayment speed (CPR) 15%-21% 15%-21%
Weighted average cumulative defaults 15.99% 13.68%
Weighted average discount rate 14.00% 14.00%
At September 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 September 30, 2001 (in thousands) $68,666
Prepayment curve:
Impact on fair value of 10% increase in prepayment curve 5,338
Impact on fair value of 20% increase in prepayment curve 6,144
Default curve:
Impact on fair value of 10% increase in default curve (556)
Impact on fair value of 20% increase in default curve (4,732)
Discount rate:
Impact on fair value of 10% increase in discount rate (1,138)
Impact on fair value of 20% increase in discount rate (6,282)
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 nine and twelve month periods presented:
September 30 December 31 September 30
2001 2000 2000
--------------------------------------------------
Total principal amount of loans outstanding $408,712 $533,009 $564,356
Principal amount of loans 60 days or more past due 14,139 12,263 11,710
Net credit losses during the period 17,981 21,977 16,408
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 $118.03 million and $131.73 million as of
September 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 September 30, 2001.
At September 30, 2001, short-term borrowings also include a $23.33
million obligation of the Parent Company pursuant to debt agreements maintained
with an unrelated third party. Of the total obligation, $8.93 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. The Company has remitted $3.20 million in principal payments
through September 30, 2001 and expects to repay the majority of the remaining
outstanding balance from the proceeds to be obtained from the sale of its
California banking operations (See Note I). Both agreements require interest
payments quarterly and have variable interest rates (7.00% at September 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 covenant
governing the Company's non-performing loans ratio. As of September 30, 2001,
the Company is in compliance with the loan covenants of the term note and the
line of credit agreements.
NOTE D - LONG TERM DEBT
The Company, through its banking subsidiaries, maintains long-term financing
from the FHLB as follows:
September 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 September 30, 2001 and December 31, 2000, the Company also included
$14.74 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 September 30, 2001, commitments
outstanding to extend credit totaled approximately $173.61 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 $5.03
million as of September 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 impairment 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, became effective for quarterly and annual reporting
beginning January 1, 2001. The impact of adopting the provisions of this
statement was not material to the Company's financial position or results of
operations.
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 nine months ended September 30, 2001
Net interest income (expense) $ 74,168 $ (5,678) $ (48) $(1,562) $ - $ 66,880
Provision for loan losses 30,358 - - - - 30,358
------------------------------------------------------------------------------
Net interest income after provision for loan losses 43,810 (5,678) (48) (1,562) - 36,522
Other income 20,525 2,416 7,305 2,474 (3,277) 29,443
Other expenses 75,721 7,094 6,428 5,895 (3,277) 91,861
------------------------------------------------------------------------------
(Loss) income before income taxes and cumulative
effect of accounting change (11,386) (10,356) 829 (4,983) - (25,896)
Income tax (benefit) expense (4,466) (4,360) 575 (2,035) - (10,286)
------------------------------------------------------------------------------
(Loss) income before cumulative effect of
accounting change (6,920) (5,996) 254 (2,948) - (15,610)
Cumulative effect of accounting change, net of tax - (17,985) - - - (17,985)
------------------------------------------------------------------------------
Net (Loss) income $ (6,920) $(23,981) $ 254 $(2,948) $ - $ (33,595)
==============================================================================
Average assets $2,483,860 $109,396 $ 7,256 $ 7,098 $ (119,688) $2,487,922
==============================================================================
For the nine months ended September 30, 2000
Net interest income (expense) $ 78,063 $ (7,710) $ (229) $(1,606) $ - $ 68,518
Provision for loan losses 8,450 - - - - 8,450
------------------------------------------------------------------------------
Net interest income after provision for loan losses 69,613 (7,710) (229) (1,606) - 60,068
Other income 13,810 14,069 10,339 2,353 (6,370) 34,201
Other expenses 58,172 20,138 10,752 6,639 (6,370) 89,331
------------------------------------------------------------------------------
Income before income taxes 25,251 (13,779) (642) (5,892) - 4,938
Income tax expense (benefit) 8,913 (5,368) (194) (1,806) - 1,545
------------------------------------------------------------------------------
Net Income (loss) $ 16,338 $ (8,411) $ (448) $(4,086) $ - $ 3,393
==============================================================================
Average assets $2,758,942 $172,609 $13,270 $10,881 $ (163,655) $2,792,048
==============================================================================
15
Other
Community Mortgage Financial General
(in thousands) Banking Banking Services Corporate Eliminations Consolidated
-----------------------------------------------------------------------------
For the three months ended September 30, 2001
Net interest income (expense) $ 25,283 $ (1,110) $ (11) $ (460) $ - $ 23,702
Provision for loan losses 14,348 - - - - 14,348
-----------------------------------------------------------------------------
Net interest income after provision for loan losses 10,935 (1,110) (11) (460) - 9,354
Other income 7,546 52 653 1 (43) 8,209
Other expenses 28,430 317 739 1,130 (43) 30,573
-----------------------------------------------------------------------------
(Loss) income before income taxes and cumulative
effect of accounting change (9,949) (1,375) (97) (1,589) - (13,010)
Income tax (benefit) expense (4,018) (525) (21) (651) - (5,215)
-----------------------------------------------------------------------------
(Loss) income before cumulative effect of
accounting change (5,931) (850) (76) (938) - (7,795)
Cumulative effect of accounting change, net of tax - - - - - -
-----------------------------------------------------------------------------
Net (Loss) income $ (5,931) $ (850) $ (76) $ (938) $ - $ (7,795)
=============================================================================
Average assets $2,393,175 $ 95,632 $ 4,977 $ 7,029 $ (117,580) $2,383,233
=============================================================================
For the three months ended September 30, 2000
Net interest income (expense) $ 25,322 $ (2,602) $ (93) $ (595) $ - $ 22,032
Provision for loan losses 4,280 - - - - 4,280
-----------------------------------------------------------------------------
Net interest income after provision for loan losses 21,042 (2,602) (93) (595) - 17,752
Other income 4,597 1,765 3,101 1,208 (2,107) 8,564
Other expenses 19,464 5,527 3,193 1,572 (2,107) 27,649
-----------------------------------------------------------------------------
Income before income taxes 6,175 (6,364) (185) (959) - (1,333)
Income tax expense (benefit) 2,301 (2,421) (53) (239) - (412)
-----------------------------------------------------------------------------
Net Income (loss) $ 3,874 $ (3,943) $ (132) $ (720) $ - $ (921)
=============================================================================
Average assets $2,766,037 $144,504 $13,200 $ 8,190 $ (130,380) $2,801,551
=============================================================================
NOTE I - SUBSEQUENT EVENT
On October 26, 2001, the Company announced that the proposed sale of its
California banking operations had been approved by regulatory authorities. The
Company expects to receive approximately $22.30 million cash in exchange for all
of the outstanding common stock of its California banking franchises (i.e. Del
Amo Savings Bank and Frontier Bancorp). As of September 30, 2001, the California
banks reported total assets, net loans and total deposits of approximately $198
million, $152 million, and $178 million, respectively. The proceeds to be
obtained from this sale will be used to repay a significant portion of the
Parent Company's outstanding debt obligation disclosed in Note C. The
transaction is expected to close during the fourth quarter of 2001.
16
NOTE J - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share:
Nine months ended September 30,
2001 2000
-------------------------------------
(in thousands, except per share data)
Numerator:
Net (loss) income $(33,595) $ 3,393
================================
Denominator:
Denominator for basic (loss) earnings per share:
Average shares outstanding 16,888 16,880
Effect of dilutive securities:
Employee stock options - -
Contingently issuable stock - -
--------------------------------
Dilutive potential common shares - -
--------------------------------
Denominator for diluted (loss) earnings per share 16,888 16,880
================================
Basic (loss) earnings per share $ (1.97) $ 0.20
================================
Diluted (loss) earnings per share $ (1.97) $ 0.20
================================
Three months ended September 30,
2001 2000
-------------------------------------
(in thousands, except per share data)
Numerator:
Net (loss) income $ (7,795) $ (921)
=====================================
Denominator:
Denominator for basic (loss) earnings per share:
Average shares outstanding 16,888 16,888
Effect of dilutive securities:
Employee stock options - -
Contingently issuable stock - -
-------------------------------------
Dilutive potential common shares - -
-------------------------------------
Denominator for diluted (loss) earnings per share 16,888 16,888
=====================================
Basic (loss) earnings per share $ (0.46) $ (0.05)
=====================================
Diluted (loss) earnings per share $ (0.46) $ (0.05)
=====================================
17
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
FINANCIAL SUMMARY
Nine Months Ended September 30, 2001 vs. 2000
The Company reported a consolidated net loss of $33.60 million, or $1.97
per common share, for the nine months ended September 30, 2001, compared to net
income of $3.39 million, or $0.20 per common share, for the same period of 2000.
The 2001 net loss includes a $17.99 million (after-tax), or $1.07 per share,
loss resulting from the Company's required adoption of new accounting rules
associated with its retained interests in securitized loans (see Securitizations
and Retained Interests). Additionally, the consolidated provision for loan
losses increased $21.91 million (pre-tax), or 259%, from $8.45 million for the
first nine months of 2000 to $30.36 million in 2001 (see Allowance and Provision
for Loan Losses). While these two areas represent the most significant reasons
for the 2001 net loss, the Company has also recorded a number of non-recurring
charges against income as it implements its strategy to more fully focus on its
core community banking operations in West Virginia. These non-recurring charges
are more fully discussed under the caption Non-Interest Income and Expense.
Three Months Ended September 30, 2001 vs. 2000
The Company reported a consolidated net loss of $7.80 million, or $0.46 per
common share, for the three months ended September 30, 2001, compared to a net
loss of $921,000, or $0.05 per common share, in 2000. The third quarter 2001 net
loss was most significantly impacted by the $14.35 million consolidated
provision for loan losses recorded during the period. This represents an
increase of $10.07 million (pre-tax), or 235%, over the $4.28 million provision
for loan losses recorded during the third quarter of 2000. As more fully
discussed under the caption Non-Interest Income and Expense, the Company
reported a significant increase in fee income derived from its community banking
operations which helped to offset the decline in fee revenues derived from its
mortgage banking segment. Non-interest expense increased $2.93 million or 10.58%
from $27.65 million for the third quarter of 2000 to $30.57 million for the
third quarter of 2001, primarily as a result of non-recurring charges associated
with litigation expenses accrued ($3.00 million), employee severance and
outplacement services ($2.20 million), and loan repurchase obligations ($1.30
million).
NET INTEREST INCOME
Nine Months Ended September 30, 2001 vs. 2000
On a tax equivalent basis, net interest income declined $2.14 million, or
3.04%, from $70.41 million for the first nine months of 2000 to $68.26 million
18
for the same period in 2001. As illustrated in the following tables, this
decline was due to contraction of the Company's interest-sensitive assets and
liabilities resulting primarily from the curtailment of new loan production
within the community banking segment and the Company's exit from speciality
finance lending operations within the mortgage banking segment. Volume
reductions in the Company's loan portfolio and loans held for sale
classifications have lead to a decreased reliance on higher costing external
borrowings, brokered deposits, and other higher-priced time deposits. Volume
reductions in loan categories from 2000 to 2001 resulted in a $14.38 million
decline in interest income, while volume reductions in time deposits and
external funding sources resulted in a $11.25 million decline in interest
expense. The overall reduction in the volume of interest-sensitive assets and
liabilities resulted in a $2.45 million decline in tax equivalent net interest
income from 2000 to 2001.
This decline was partially offset by a $304,000 increase in net interest
income from 2000 to 2001 resulting from changes in interest rates. A combination
of the lower interest rate environment, re-pricing the Company's existing
deposit products, and re-establishing the accrual of interest income on the
Company's retained interests in securitized loans helped to drive this increase
in net interest income specific to interest rates. More specifically, the
combined effect of the lower interest rate environment and re-pricing the
Company's existing deposit products resulted in a decline of $2.95 million in
interest expense. Re-establishing the accrual of interest income on the
Company's retained interests resulted in an increase in interest income of $4.68
million from 2000 to 2001. Combined, these events resulted in an increase in net
interest income of $7.63 million, which was partially offset by a $4.21 million
decline in interest earned on loan products and a $2.21 million decline in
earnings derived from the Company's investment securities portfolio.
Three Months Ended September 30, 2001 vs. 2000
On a tax equivalent basis, net interest income increased $1.49 million, or
6.56%, from $22.65 million for the third quarter of 2000 to $24.13 million in
2001. This quarter-to-quarter increase was primarily the result of the lower
interest rate environment, re-pricing the Company's deposit products, and re-
establishing the accrual of interest income on the Company's retained interests
in securitized loans. As evidenced in the following table for the three month
period ended September 30, 2001 versus 2000, the interest rate component of the
net interest income computation resulted in a $4.02 million improvement in net
interest income. The Company's weighted average cost of interest-bearing funds
declined 93 basis points, from 5.17% for the third quarter of 2000 to 4.24% for
the third quarter of 2001. In addition to the decline in funding costs, re-
establishing the accrual of interest income on the Company's retained interests
resulted in a $2.50 million increase in net interest income from 2000 to 2001.
Volume declines in the Company's loan classifications resulted in a $7.33
million decline in interest income, which was partially offset by the $4.30
million impact on interest expense of volume declines in higher-costing brokered
deposits and other time deposits.
19
AVERAGE BALANCE SHEETS and NET INTEREST INCOME
(in thousands)
Nine months ended September 30,
2001 2000
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
-----------------------------------------------------------------------------
Assets
Loan portfolio (1) $1,830,159 $116,950 8.52% $1,960,584 $127,702 8.68%
Loans held for sale 15,572 982 8.41 103,750 8,819 11.33
Securities:
Taxable 286,702 11,529 5.36 264,589 12,789 6.44
Tax-exempt (2) 68,468 3,954 7.70 99,558 5,391 7.22
-----------------------------------------------------------------------------
Total securities 355,170 15,483 5.81 364,147 18,180 6.66
Retained interest in securitized loans 72,105 4,802 8.88 76,955 137 0.24
Federal funds sold 30,072 762 3.38 3,805 168 5.89
-----------------------------------------------------------------------------
Total earning assets 2,303,078 $138,979 8.05% 2,509,241 $155,006 8.24%
Cash and due from banks 61,716 74,000
Bank premises and equipment 54,031 63,501
Other assets 110,952 172,687
Less: allowance for possible
loan losses (41,855) (27,381)
-----------------------------------------------------------------------------
Total assets $2,487,922 $2,792,048
=============================================================================
Liabilities
Demand deposits $ 417,073 $ 8,273 2.64% $ 410,867 $ 9,376 3.04%
Savings deposits 290,693 6,133 2.81 319,698 8,158 3.40
Time deposits 1,001,672 41,149 5.48 1,068,635 43,056 5.37
Short-term borrowings 187,010 7,476 5.33 314,792 14,298 6.06
Long-term debt 32,643 1,650 6.74 83,834 3,700 5.88
Trust preferred securities 87,792 6,034 9.16 87,500 6,013 9.16
-----------------------------------------------------------------------------
Total interest-bearing liabilities 2,016,883 70,715 4.67 2,285,326 84,601 4.94
Demand deposits 274,312 247,554
Other liabilities 41,821 59,398
Stockholders' equity 154,906 199,770
-----------------------------------------------------------------------------
Total liabilities and stockholders'
equity $2,487,922 $2,792,048
=============================================================================
Net interest income $ 68,264 $ 70,405
=============================================================================
Net yield on earning assets 3.95% 3.74%
=============================================================================
(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%.
20
RATE VOLUME ANALYSIS OF CHANGES IN INTEREST INCOME AND EXPENSE
(in thousands)
Nine months ended September 30,
2001 vs. 2000
Increase (Decrease)
Due to Change In:
Volume Rate Net
---------------------------------------
Interest-earning assets:
Loan portfolio $ (8,370) $(2,382) $(10,752)
Loans held for sale (6,011) (1,826) (7,837)
Securities:
Taxable 1,485 (2,745) (1,260)
Tax-exempt (1) (1,973) 536 (1,437)
---------------------------------------
Total securities (488) (2,209) (2,697)
Retained interest in securitized loans (15) 4,680 4,665
Federal funds sold 739 (145) 594
---------------------------------------
Total interest-earning assets $(14,145) $(1,882) $(16,027)
=======================================
Interest-bearing liabilities:
Demand deposits $ 224 $(1,327) $ (1,103)
Savings deposits (696) (1,329) (2,025)
Time deposits (3,167) 1,260 (1,907)
Short-term borrowings (5,267) (1,555) (6,822)
Long-term debt (2,814) 764 (2,050)
Trust preferred securities 20 1 21
---------------------------------------
Total interest-bearing liabilities $(11,700) $(2,186) $(13,886)
=======================================
Net Interest Income $ (2,445) $ 304 $ (2,141)
=======================================
(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.
21
AVERAGE BALANCE SHEETS and NET INTEREST INCOME
(in thousands)
Three months ended September 30,
2001 2000
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
------------------------------------------------------------------------------
Assets
Loan portfolio (1) $1,726,843 $36,607 8.48% $1,998,037 $43,834 8.78%
Loans held for sale 7,310 150 8.21 75,934 2,187 11.52
Securities:
Taxable 280,021 3,525 5.04 266,070 4,284 6.44
Tax-exempt (2) 64,192 1,235 7.70 99,461 1,762 7.09
------------------------------------------------------------------------------
Total securities 344,213 4,760 5.53 365,531 6,046 6.62
Retained interest in securitized loans 67,030 2,506 14.95 76,949 50 0.26
Federal funds sold 72,367 607 3.36 4,855 56 7.61
------------------------------------------------------------------------------
Total earning assets 2,217,763 $44,630 8.05% 2,521,306 $52,173 8.28%
Cash and due from banks 59,884 71,398
Bank premises and equipment 48,551 61,154
Other assets 103,392 175,167
Less: allowance for possible
loan losses (46,357) (27,474)
------------------------------------------------------------------------------
Total assets $2,383,233 $2,801,551
==============================================================================
Liabilities
Demand deposits $ 425,934 $ 2,139 2.01% $ 401,097 $ 3,103 3.09%
Savings deposits 292,433 1,762 2.41 306,915 2,685 3.50
Time deposits 948,035 12,378 5.22 1,161,935 16,562 5.70
Short-term borrowings 149,884 1,659 4.43 286,506 4,662 6.51
Long-term debt 29,993 534 7.12 41,087 507 4.94
Trust preferred securities 88,300 2,024 9.17 87,500 2,005 9.17
------------------------------------------------------------------------------
Total interest-bearing liabilities 1,934,579 20,496 4.24 2,285,040 29,524 5.17
Demand deposits 275,012 254,243
Other liabilities 23,781 61,668
Stockholders' equity 149,861 200,600
------------------------------------------------------------------------------
Total liabilities and stockholders'
equity $2,383,233 $2,801,551
==============================================================================
Net interest income $24,134 $22,649
==============================================================================
Net yield on earning assets 4.35% 3.59%
==============================================================================
(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%.
22
RATE VOLUME ANALYSIS OF CHANGES IN INTEREST INCOME AND EXPENSE
(in thousands)
Three months ended September 30,
2001 vs. 2000
Increase (Decrease)
Due to Change In:
Volume Rate Net
-------------------------------------
Interest-earning assets:
Loan portfolio $(5,789) $(1,438) $(7,227)
Loans held for sale (1,545) (492) (2,037)
Securities:
Taxable 1,302 (2,061) (759)
Tax-exempt (1) (1,400) 873 (527)
-------------------------------------
Total securities (98) (1,188) (1,286)
Retained interest in securitized loans (46) 2,502 2,456
Federal funds sold 660 (109) 551
-------------------------------------
Total interest-earning assets $(6,818) $ (725) $(7,543)
=====================================
Interest-bearing liabilities:
Demand deposits $ 1,162 $(2,126) $ (964)
Savings deposits (122) (801) (923)
Time deposits (2,873) (1,311) (4,184)
Short-term borrowings (1,798) (1,205) (3,003)
Long-term debt (670) 697 27
Trust preferred securities 18 1 19
-------------------------------------
Total interest-bearing liabilities $(4,283) $(4,745) $(9,028)
=====================================
Net Interest Income $(2,535) $ 4,020 $ 1,485
=====================================
(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.
23
LOAN PORTFOLIO
The composition of the Company's loan portfolio as of September 30, 2001
and December 31, 2000, is presented in the following table:
(in thousands) September 30, 2001 December 31, 2000
----------------------------------------
Commercial, financial and agricultural $ 556,325 $ 637,870
Real estate-mortgage 838,368 959,457
Installment loans to individuals 268,241 370,832
----------------------------------------
Total loans $1,662,934 $1,968,159
========================================
Allowance and Provision for Loan Losses
Through the third quarter of 2001, the Company continued to identify credit
deterioration and experience negative trends in the credit quality of its loan
portfolio. Credit quality remains less than satisfactory as evidenced by the
high level of non-performing loans, especially those loans placed on non-accrual
status. While the aggregate credit risk inherent in the loan portfolio as of
September 30, 2001 remains high, the Company believes that significant progress
has been made in recent months in improving the credit risk management and
identification processes. A combination of detailed loan reviews performed by
senior and executive management, independent third parties, and the Company's
loan review and credit administration functions have resulted in the
identification of credit relationships the Company classifies as having higher
credit risk. Specifically within the commercial loan portfolio, senior
management has implemented a policy to hold weekly meetings to address
delinquency trends. Actions taken resulting from these meetings have resulted in
a stabilization of delinquencies within the portfolio and improved
identification of potential problem credits in recent months. Additionally, the
implementation of a centralized loan approval process and tightened credit
standards has resulted in improved underwriting of new loans and renewals of
existing credits. The Company is also assembling a loan workout group, which is
aimed at facilitating a reduction in problem credits in the loan portfolio.
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. 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, the
determination of the allowance as it relates to these loan types is often based
more upon specific credit review, with consideration given to the potential
impairment of certain credits and the historical charge-off percentages of the
portfolio, adjusted for general economic conditions and other inherent risk
factors. Conversely, due to the homogeneous nature of the real estate and
24
installment portfolios, the determination of the allowance related to these
portfolios is primarily based on prior charge-off history of each portfolio,
adjusted for general economic conditions and other inherent risk factors. 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, 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 so that management can modify its evaluation
model efficiently, in an effort to ensure that adequate provision has been made
for risk in the total loan portfolio.
At September 30, 2001, the allowance for loan losses was $57.20 million,
compared to $40.63 million as of December 31, 2000. The increase in the
allowance in 2001 has resulted in a provision for loan losses of $30.36 million
recorded during the first nine months of 2001, compared to net charge-offs of
$13.79 million recorded during this same time period. These numbers reflect a
$21.91 million, or 259%, increase in the provision for loan losses and a $5.45
million, or 65.26%, increase in net charge-offs, respectively, as compared to
the nine months ended September 30, 2000. The increase in the allowance for loan
losses was primarily due to an increase in the allowance allocated to the
commercial loan portfolio. At December 31, 2000 and June 30, 2001, $23.24
million and $30.14 million of the allowance for loan losses was allocated to the
commercial portfolio. As of September 30, 2001, the allocation attributable to
the commercial portfolio had increased to $44.86 million. The majority of this
increase during the third quarter of 2001 was due to a $33.59 million increase
in loans graded as high risk as management identified further credit
deterioration in certain loans based on the completion of its review of all
commercial loans during the third quarter. Management has continued to enhance
its methodology for assessing credit risk throughout 2001 and these enhancements
have identified a significant migration of commercial loans, especially loans
originated in 1999 and 2000 during unprecedented commercial loan growth, into
higher risk loan categories. As previously discussed, new commercial loan
production has been significantly curtailed during 2001 while the Company
implements a more stringent commercial lending process.
25
The allowance allocated to the installment portfolio has declined $4.69
million, or 39.64%, from $11.84 million as of December 31, 2000 to $7.15 million
as of September 30, 2001. The decline in this allocation of the allowance is
consistent with the decline in balances outstanding within the installment loan
portfolio. The outstanding balance of installment loans has declined $102.59
million, or 27.67%, from $370.83 million as of December 31, 2000 to $268.24
million as of September 30, 2001. The allowance allocated to the mortgage
portfolio has declined $690,000, or 12.44%, from $5.55 million at December 31,
2000 to $4.86 million at September 30, 2001. The decline in this allocation is
also consistent with the decline in balances outstanding in the portfolio. The
outstanding balance of mortgage loans has declined $121.09 million, or 12.62%,
from $959.46 million at December 31, 2000 to $838.37 million at September 30,
2001. In contrast to the commercial portfolio, which has experienced a
significant increase in net charge-offs and non-performing loans, the
installment and mortgage portfolios have not experienced as significant an
increase in negative credit quality trends.
As previously discussed, net charge-offs in 2001 have increased
significantly, in comparison to 2000, as the Company aggressively works to
resolve credit concerns within the commercial portfolio. Of total net charge-
offs in 2001, commercial loan charge-offs represented $7.64 million or 55.37%.
Despite the significant increase in net charge-offs recorded thus far in 2001,
non-performing loans have increased from $20.33 million as of December 31, 2000
to $32.86 million as of September 30, 2001. This represents an increase of
$12.53 million, or 61.63%, in non-performing loans in 2001 and was a
contributing factor considered for the significant increase in the allowance and
provision for loan losses. Although recent actions taken by the Company have
begun to stabilize delinquency trends, improve processes for the timely
identification of problem credits, and require tighter credit standards on new
loan volume, the Company still has a significant balance of non-performing
loans, particularly loans placed on non-accrual status.
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 average total loans" of
3.13% as of September 30, 2001, compared to 2.56% as of June 30, 2001. The
increase in the coverage ratio during the third quarter of 2001 was due to the
increase in the allocation of the allowance to the commercial portfolio and
other factors discussed above, coupled with a continuing decline in the amount
of loans outstanding as of September 30, 2001. Based on factors known to
management as of September 30, 2001, the Company believes that the consolidated
allowance for loans losses is adequate to provide for probable losses inherent
in the portfolio as of September 30, 2001.
26
Nine months ended September 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 (9,277) (2,886) (5,081)
Real estate-mortgage (2,155) (1,435) (1,703)
Installment loans to individuals (5,467) (5,736) (7,839)
--------------------------------------------------------------
Totals (16,899) (10,058) (14,623)
Recoveries:
Commercial, financial and agricultural 1,642 370 890
Real estate-mortgage 271 136 179
Installment loans to individuals 1,197 1,207 1,588
-------------------------------------------------------------
Totals 3,110 1,714 2,657
--------------------------------------------------------------
Net charge-offs (13,789) (8,344) (11,966)
Provision for loan losses 30,358 8,450 25,480
-------------------------------------------------------------
Balance at end of period $ 57,196 $ 27,219 $ 40,627
==============================================================
As a Percent of Average Total Loans:
Net charge-offs 1.00% 0.57% 0.61%
Provision for loan losses 2.21 0.57 1.29
As a Percent of Non-Performing Loans:
Allowance for loan losses 174.05% 155.40% 199.88%
As of September 30, As of December 31,
2001 2000 2000
--------------------------------------------------------------
Summary of Non-performing Assets
Non-accrual loans $28,044 $13,704 $16,676
Accruing loans past due 90 days or more 3,916 3,128 3,350
Restructured loans 902 683 300
--------------------------------------------------------------
Total non-performing loans 32,862 17,515 20,326
Other real estate owned 2,836 4,456 3,488
--------------------------------------------------------------
Total non-performing assets $35,698 $21,971 $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 $7.07 million of loans
reported as "held-for-sale" as of September 30, 2001, $4.90 million represented
traditional fixed-rate mortgage loans. The remaining $2.17 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 September 30,
2001, these offices originated $3.83 million.
27
During the first nine months of 2001, the Company originated $93.88
million in loans held for sale and sold $107.59 million during the same period.
This compares to originations of $193.10 million, purchases of $16.07 million
and sales of $300.71 million during the first nine 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 September 30, 2001 and December 31, 2000, were as follows:
September 30 December 31
2001 2000
--------------------------------
Prepayment speed (CPR) 15%-21% 15%-21%
Weighted average cumulative defaults 15.99% 13.68%
Weighted average discount rate 14.00% 14.00%
Using the aforementioned assumptions, the estimated fair value of the
retained interests was approximately $68.67 million and $85.21 million, as of
September 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
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.
28
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 beginning
April 1, 2001 and has recognized $4.80 million (pre-tax) interest income through
September 30, 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 September 30, 2001, the unpaid principal balances of loans
serviced for others approximated $85.78 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.
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
29
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 and third quarters of
2001, the Company's liability to FannieMae was reduced by $327,000 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
Nine Months Ended September 30, 2001 vs. 2000
Non-Interest Income: Within the community banking segment, revenues derived from
service charges have increased significantly in 2001, as compared to 2000. The
Company implemented policy changes during the second quarter of 2001 that
resulted in substantially higher collection rates on service charges and related
fees. Additionally, during the third quarter of 2001, the Company initiated an
increase in "per item" service charges to more closely match the Company's in-
market competitors. As a result of these changes, service charge revenue
increased $4.25 million, or 53.75%, from $7.90 million for the nine months ended
September 30, 2000 to $12.15 million in 2001.
The increase in service charge revenues was more than offset by a $10.42
million, or 73.43%, decline in fee income derived from the Company's mortgage
banking segment. Consistent with the Company's exit from the specialty-finance
business line, revenues from loan servicing, loan origination and loan sales
have declined considerably, from $14.20 million for the nine months ended
September 30, 2000 to $3.77 million in 2001.
Additionally, gains realized from investment securities transactions
have increased from $2,000 for the nine months ended September 30, 2000 to $1.82
million in 2001. This increase is primarily due to the Company's implementation
of an investment strategy designed to produce capital gains, as opposed to
interest income, in order to utilize capital loss carryforwards, which expire in
2004 and 2005, available to the Company for income tax purposes.
Non-Interest Expense: Within non-interest expense, salaries and benefits
expense, as reported, declined $4.24 million, or 11.22%, from $37.83 million for
the nine months ended September 30, 2000 to $33.58 million in 2001. However, in
2001 and 2000, the Company recognized $3.42 million and $2.54 million,
respectively, in non-recurring compensation costs associated with employee
terminations and severance-related issues. The non-recurring charge recognized
in 2001 includes a $2.14 million charge, recorded during the third quarter of
2001, for severance and outplacement benefits associated with the Company's
reorganization and staffing reduction. Excluding these non-recurring charges,
recurring compensation costs declined $5.13 million, or 14.54%, from $35.29
million in 2000 to $30.16 million in 2001. As of September 30, 2001, the Company
reported 905 full time equivalent employees, compared to 1,383 full time
equivalent employees as of September 30, 2000. With the completion of the sale
of the California banks and the severance program discussed above, the Company
expects to maintain approximately 800 full time equivalent positions.
30
Occupancy and depreciation expenses, combined, declined $2.90 million,
or 19.90%, from $14.57 million for the nine months ended September 30, 2000 to
$11.67 million in 2001. This decline was primarily the result of the Company's
closure and/or divestiture of certain divisions, including the Company's exit
from specialty-finance loan origination and servicing operations. This decline
is also due to the overall reorganization of the Company's community banking
operations, including the consolidation of operations, and the closure of
certain offices.
Offsetting the declines in expense associated with compensation,
occupancy and depreciation, other expenses increased $8.83 million, or 26.25%,
from $33.65 million for the nine months ended September 30, 2000 to $42.49
million in 2001. During 2001, the Company has recorded a number of non-recurring
charges against income, including:
- A $3.00 million charge for litigation arising out of developments during
the third quarter of 2001 which increased the probability of an
unfavorable outcome in litigation related to operations the Company has
either sold or closed;
- A $3.20 million charge for contractual obligations to repurchase loans
sold or securitized without credit recourse upon which the Company is
obligated to compensate the purchasers for deficiencies in documentation
previously warranted by the Company. This charge includes the previously
disclosed (see Loan Servicing) $1.90 million charge to reflect an
estimated contractual obligation to FannieMae associated with a loan
servicing portfolio acquired by the Company in 1998 and a $1.30 million
charge to reflect an estimated obligation to repurchase previously sold
or securitized loans for documentation deficiencies found to exist in the
loan files. Over the past few years, the Company sold over $2 billion of
first lien and junior lien mortgage loans to various parties and, in
doing so, made representations and warranties as to the adequacy of the
loan file documentation. To date, the Company has incurred charges
against income of approximately $150,000 associated with repurchase
obligations on loans that were sold during this time and found to have
loan file document deficiencies;
- A $1.97 million charge to reflect the estimated fair value of the
Company's direct mail division prior to its sale;
- A $1.69 million charge to reflect the estimated fair value of certain
facilities the Company plans to sell; and
- A $1.65 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: As previously discussed, the Company's policy changes and
modifications to its fee schedules related to service charges have resulted in a
substantial increase in service charge revenues in 2001. These changes resulted
in a $2.05 million, or 72.94%, increase in service charge income from $2.81
million for the third quarter of 2000 to $4.85 million in 2001. Mortgage banking
revenues declined $1.47 million, or 80.24%, during this same time period as a
result of the Company's exit from specialty-finance operations. Other income
declined $1.51 million, or 38.40%, primarily as a result of the Company's exit
from internet service and direct mail/marketing operations.
31
Non-Interest Expense: Excluding the $2.14 million charge for severance and
outplacement services recorded during the third quarter of 2001, recurring
salaries and employee benefits expense declined $941,000, or 8.80%, from $10.70
million for the third quarter of 2000 to $9.76 million for the third quarter of
2001. Additionally, occupancy and depreciation expense, combined, decreased
$1.23 million, or 25.86%, from $4.76 million in 2000 to $3.53 million in 2001.
These declines are due to the reorganization of the Company's operations and
implementation of its strategy to refocus on its core West Virginia community
banking operations.
Other expenses increased $3.03 million, or 26.19%, from $11.55 million
during the third quarter of 2000 to $14.58 million in 2001. During the third
quarter of 2001, the Company recorded a $3.00 million charge associated with on-
going litigation (as previously discussed) and a $1.30 million charge for the
repurchase of loans sold or securitized (also previously discussed). Excluding
these non-recurring charges against income, other expenses declined $1.27
million, or 11.03%, from quarter-to-quarter, consistent with the Company's
overall reorganization and expense reduction strategy.
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.
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
32
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 September 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 September 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 nine months of 2001, City National received
approval from the Office of the Comptroller of the Currency ("OCC") to pay $8.87
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 $3.20 million of these
funds to reduce the outstanding principal balance of its debt obligations
maintained with an unrelated third 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 are not necessarily indicative of future OCC
determinations.
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,
33
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.
On October 26, 2001, the Company announced that the proposed sale of its
California banking operations had been approved by regulatory authorities. The
Company expects to receive approximately $22.30 million cash in exchange for all
of the outstanding common stock of its California banking franchises. The
proceeds to be obtained from this sale will be used to repay a significant
portion of the Parent Company's outstanding debt obligations with an unrelated
third party. The amounts outstanding on the term note and the line of credit,
both of which mature on January 15, 2002, approximate $23.33 million as of
September 30, 2001. On November 6, 2001, the Parent Company remitted an
additional principal payment of $1.00 million, reducing the outstanding balance
to $22.33 million.
To address the remaining liquidity issues at the Parent Company, 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 remaining 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 and it will sell. The
Company has substantially implemented its plan to reduce its workforce by
approximately 275 full-time equivalents 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.
34
CAPITAL RESOURCES
During the first nine months of 2001, the Company reported a net loss of
$33.60 million, partially offset by $11.50 million in other comprehensive
income. As a result, stockholders' equity declined $22.09 million, or 13.52%,
during the first nine months of 2001, from $163.46 million at December 31, 2000
to $141.36 million at September 30, 2001. The net loss of $33.60 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 $11.50 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 September 30, 2001, the Company's total capital to risk-adjusted
assets ratio was 10.91% and its Tier I capital ratio was 7.43%, compared to
11.61% and 9.05%, respectively, at December 31, 2000. The Company's leverage
ratio at September 30, 2001 and December 31, 2000 was 6.08% 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 September 30, 2001, the Company's lead bank, City
National, reported total capital, Tier I capital, and leverage ratios of 12.21%,
10.94%, and 9.07%, 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.
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 announced in
January 2001 a suspension in 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).
35
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: None
Item 5. Other Information None
Item 6 Exhibits and Reports on Form 8-K:
Exhibits
10 (a) Form of Employment Agreement, dated as of April 12,
2001, by and between City Holding Company and
William L. Butcher
10 (b) Form of Employment Agreement, dated as of May 15,
2001, by and between City Holding Company and
Craig Stilwell
10 (c) Form of Employment Agreement, dated as of May 16,
2001, by and between City Holding Company and
John S. Loeber
10 (d) Form of Employment Agreement, dated as of June 11,
2001, by and between City Holding Company and
Charles R. Hageboeck
Reports on Form 8-K
On August 31, 2001, the Company filed a Current Report on
Form 8-K, announcing that it had signed a definitive
agreement to sell its California banks, Frontier State
Bank and Del Amo Savings Bank, FSB to FirstFed Financial
Corp.
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: November 14, 2001
By: /s/ Michael D. Dean
----------------------------
Michael D. Dean
Senior Vice President - Finance,
Chief Accounting Officer and
Duly Authorized Officer
37