SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended Commission File Number
September 30, 1998 0-1173
CITY HOLDING COMPANY
(Exact name of registrant as specified in its charter)
West Virginia 55-0619957
(State of other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
25 Gatewater Road
Charleston, West Virginia 25313
(Address of principal offices)
Registrant's telephone number, including area code: (304) 769-1100.
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 report(s), and (2) has been subject to such filing
requirements for the past 90 days.
Yes xx No
------ ------
The number of shares outstanding of the issuer's common stock as of November 13,
1998.
Common Stock, $2.50 Par Value - 6,660,717 shares
THIS REPORT CONTAINS____PAGES.
EXHIBIT INDEX IS LOCATED ON PAGE .
Index
City Holding Company and Subsidiaries
This form 10-Q may include forward-looking financial information within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. Such forward-looking information is identified
by phrases such as the Company "expects" or "anticipates" and words of similar
effect. The Company's actual results achieved may differ materially from those
projected in the forward-looking information. Factors that could cause such a
difference include, among others: changes in interest rates and economic and
other market conditions generally and in the Company's principal markets;
competition for origination and servicing of mortgage loans, particularly loans
with high loan-to-value ratios; disruption of retail originations; changes in
regulations and government policies affecting banks and their subsidiaries,
including changes in monetary policies; and remediation of Year 2000 issues. The
forward-looking financial information is provided to assist investors and
Company stockholders in understanding anticipated future financial operations of
the Company and are included pursuant to the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Further, the Company disclaims
any intent or obligation to update this forward-looking financial information.
PART I FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets -September 30, 1998
(unaudited) and December 31, 1997
Consolidated Statements of Income (unaudited) -- Nine
months ended September 30, 1998 and 1997 and the
three months ended September 30, 1998 and 1997
Consolidated Statements of Changes in Stockholders'
Equity (unaudited) -- Nine months ended September 30,
1998 and 1997
Consolidated Statements of Cash Flows (unaudited) --
Nine months ended September 30, 1998 and 1997
Notes to Consolidated Financial Statements (unaudited) - September 30, 1998
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
Exhibit Index
PART I. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
Item I. SEPTEMBER 30 DECEMBER 31
1998 1997
---- ----
(unaudited)
ASSETS
Cash and due from banks $ 37,236 $ 47,207
Federal funds sold 1,484 40,028
------------------ -----------
CASH AND CASH EQUIVALENTS 38,720 87,235
Securities available for sale, at fair value 160,355 162,912
Loans:
Gross loans 959,697 787,716
Unearned income (6,769) (7,354)
Allowance for possible loan losses (8,898) (7,673)
------------------ -----------
NET LOANS 944,030 772,689
Loans held for sale 267,543 134,990
Bank premises and equipment 52,358 36,635
Accrued interest receivable 12,557 8,677
Other assets 115,435 63,005
------------------ -----------
TOTAL ASSETS $ 1,590,998 $ 1,266,143
================== ===========
LIABILITIES
Deposits:
Noninterest-bearing $ 155,493 $ 136,842
Interest-bearing 1,016,191 801,656
------------------ -----------
TOTAL DEPOSITS 1,171,684 938,498
Short-term borrowings 131,156 130,191
Long-term borrowings 105,000 68,400
Corporation-obligated mandatorily redeemable preferred securities
of subsidiary trust holding solely junior subordinated debentures of City
Holding Company ("Trust Preferred Securities") 30,000 -
Other liabilities 29,539 22,799
------------------ -----------
TOTAL LIABILITIES 1,467,379 1,159,888
STOCKHOLDERS' EQUITY
Preferred stock, par value $25 a share:
Authorized-500,000 shares; none issued
Common stock, par value $2.50 a share: authorized
20,000,000 shares; issued 6,749,785 shares as of September 30, 1998 and
6,427,309 shares as of December 31, 1997, including 89,070 and 11,130
shares in treasury at September 30, 1998 and
December 31, 1997, respectively. 16,874 16,067
Capital surplus 63,645 48,769
Retained earnings 46,770 40,374
Cost of common stock in treasury (3,706) (310)
Accumulated other comprehensive income 36 1,355
------------------ -----------
TOTAL STOCKHOLDERS' EQUITY 123,619 106,255
------------------ -----------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 1,590,998 $ 1,266,143
================== ===========
CONSOLIDATED STATEMENTS OF INCOME
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands, except per share data)
NINE MONTH PERIOD ENDED
SEPTEMBER 30
1998 1997
---- ----
(unaudited) ( unaudited)
INTEREST INCOME
Interest and fees on loans $ 74,853 $ 62,572
Interest on investment securities:
Taxable 6,097 6,798
Tax-exempt 1,232 1,442
Other interest income 1,293 63
---------- ------------
TOTAL INTEREST INCOME 83,475 70,875
INTEREST EXPENSE
Interest on deposits 30,378 24,324
Interest on short-term borrowings 5,278 5,720
Interest on long-term debt 5,063 2,040
---------- ------------
TOTAL INTEREST EXPENSE 40,719 32,084
NET INTEREST INCOME 42,756 38,791
PROVISION FOR POSSIBLE LOAN LOSSES 2,047 1,221
---------- ------------
NET INTEREST INCOME AFTER
PROVISION FOR POSSIBLE LOAN LOSSES 40,709 37,570
OTHER INCOME
Investment securities gains 27 15
Service charges 3,791 3,163
Mortgage loan servicing fees 12,255 8,417
Net origination fees on junior mortgages 11,486 -
Gain on sale of loans 12,811 1,333
Other 9,535 3,461
---------- ------------
TOTAL OTHER INCOME 49,905 16,389
OTHER EXPENSES
Salaries and employee benefits 29,516 21,118
Occupancy, excluding depreciation 4,355 2,635
Depreciation 5,864 3,553
Advertising 16,131 1,411
Other 19,562 10,631
---------- ------------
TOTAL OTHER EXPENSES 75,428 39,348
INCOME BEFORE INCOME TAXES 15,186 14,611
INCOME TAXES 5,014 5,122
---------- ------------
NET INCOME $ 10,172 $ 9,489
========== ============
Basic earnings per common share $ 1.53 $ 1.56
========== ============
Diluted earnings per common share $ 1.52 $ 1.56
========== ============
Average common shares outstanding:
Basic 6,626,780 6,069,669
========== ============
Diluted 6,686,687 6,086,360
========== ============
CONSOLIDATED STATEMENTS OF INCOME
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands, except per share data)
THREE MONTH PERIOD ENDED
SEPTMEBER 30
1998 1997
---- ----
(unaudited) (unaudited)
INTEREST INCOME
Interest and fees on loans $ 25,762 $ 22,009
Interest on investment securities:
Taxable 1,964 2,342
Tax-exempt 404 468
Other interest income 619 4
------------- -----------
TOTAL INTEREST INCOME 28,749 24,823
INTEREST EXPENSE
Interest on deposits 11,004 8,473
Interest on short-term borrowings 1,803 2,241
Interest on long-term debt 1,654 788
------------- -----------
TOTAL INTEREST EXPENSE 14,461 11,502
NET INTEREST INCOME 14,288 13,321
PROVISION FOR POSSIBLE LOAN LOSSES 846 393
------------- -----------
NET INTEREST INCOME AFTER
PROVISION FOR POSSIBLE LOAN LOSSES 13,442 12,928
OTHER INCOME
Investment securities gains 11 4
Service charges 1,399 1,077
Mortgage loan servicing fees 4,246 3,065
Net origination fees on junior mortgages 5,269 -
Gain on sale of loans 5,478 450
Other 1,506 1,894
------------- -----------
TOTAL OTHER INCOME 17,909 6,490
OTHER EXPENSES
Salaries and employee benefits 10,114 7,127
Occupancy, excluding depreciation 1,711 890
Depreciation 2,203 1,292
Advertising 7,012 687
Other 5,187 4,160
------------- -----------
TOTAL OTHER EXPENSES 26,227 14,156
INCOME BEFORE INCOME TAXES 5,124 5,262
INCOME TAXES 1,364 1,777
------------- -----------
NET INCOME $ 3,760 $ 3,485
============ =============
Basic earnings per common share $ 0.56 $ 0.57
============ =============
Diluted earnings per common share $ 0.56 $ 0.57
============ =============
Average common shares outstanding:
Basic 6,699,977 6,071,327
============ =============
Diluted 6,778,891 6,089,988
============ =============
CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS' EQUITY (unaudited)
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
ACCUMULATED
OTHER TOTAL
COMMON CAPITAL RETAINED TREASURY COMPREHENSIVE STOCKHOLDERS'
STOCK SURPLUS EARNINGS STOCK INCOME EQUITY
-------------- ------------ ------------- -------------- ------------------ ------------------
Nine Months Ended September 30, 1998
Balances at December 31, 1997 $16,067 $48,769 $40,374 $ (310) $1,355 $106,255
Comprehensive Income:
Net income 10,172 10,172
Other comprehensive income, net of
tax:
Unrealized holding loss on (1,303) (1,303)
securities arising during the
period (16) (16)
------ ------
Less: reclassification adjustment (1,319) (1,319)
-------
for gains realized in net income
Other comprehensive income
Comprehensive Income 8,853
Cash Dividends Declared ($0.57/share) (3,776) (3,776)
Exercise of 3,279 stock options (89) 156 67
Purchase of 81,219 shares of (3,552) (3,552)
treasury stock
Common stock issued in acquisitions 807 14,965 15,772
------------ ------------ -------------- ------------- ------------------ -----------------
Balances at September 30, 1998 $ 16,874 $ 63,645 $46,770 $(3,706) $ 36 $ 123,619
------------ ------------ -------------- ------------- ------------------ -----------------
ACCUMULATED
OTHER TOTAL
COMMON CAPITAL RETAINED TREASURY COMPREHENSIVE STOCKHOLDERS'
STOCK SURPLUS EARNINGS STOCK INCOME EQUITY
-------------- ------------ ------------- ------------- ------------------ ------------------
Nine Months Ended September 30, 1997
Balances at December 31, 1996 $ 13,998 $ 35,426 $ 30,246 $ (300) $ 3 $ 79,373
Comprehensive Income:
Net income 9,489 9,489
Other comprehensive income, net of tax:
Unrealized holding gains on
securities arising during the 1,080 1,080
period
Less: Reclassification adjustment (9) (9)
----- -----
for gains realized in net income
Other comprehensive income 1,071 1,071
-----
Comprehensive Income 10,560
Cash Dividends Declared ($0.54/share) (3,278) (3,278)
Exercise of 2,627 stock options 7 58 65
Sale of 2,511 shares of treasury stock 13 67 80
Purchase of 2,300 shares of
treasury stock (77) (77)
Common stock issued in acquisitions 1,202 298 2,150 19 3,669
------------ ------------ -------------- ------------- ----------------- -----------------
Balances at September 30, 1997 $ 15,207 $ 35,795 $ 38,607 $ (310) $ 1,093 $ 90,392
------------ ------------ -------------- ------------- ----------------- -----------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
NINE MONTH PERIOD ENDED
SEPTEMBR 30
1998 1997
---- ----
(unaudited) (unaudited)
OPERATING ACTIVITIES
Net Income $ 10,172 $ 9,489
Adjustments to reconcile net income to net cash used in operating activities:
Net amortization 2,609 761
Provision for depreciation 5,864 3,553
Provision for possible loan losses 2,047 1,221
Loans originated for sale (429,316) (81,385)
Purchases of loans held for sale (621,527) (550,125)
Proceeds from loans sold 931,101 455,043
Realized gains on loans sold (12,811) (1,333)
Realized investment securities gains (27) (15)
Increase in accrued interest receivable (3,288) (3,013)
Increase in other assets (42,973) (4,279)
Increase in other liabilities 3,401 3,449
----- -----
NET CASH USED IN OPERATING ACTIVITIES (154,748) (166,634)
INVESTING ACTIVITIES
Proceeds from sales of securities available for sale 17,221 21,963
Proceeds from maturities of securities available for sale 65,540 34,672
Purchases of securities available for sale (78,997) (67,226)
Proceeds from maturities and calls of investment securities - 1,863
Net increase in loans (64,787) (49,177)
Net cash acquired in acquisitions 2,584 9,126
Purchases of premises and equipment (20,352) (3,965)
-------- -------
NET CASH USED IN INVESTING ACTIVITIES (78,791) (52,744)
FINANCING ACTIVITIES
Net increase (decrease) in noninterest-bearing deposits 18,447 (6,380)
Net increase in interest-bearing deposits 112,171 43,431
Net increase in short-term borrowings 909 159,279
Proceeds from long-term debt 62,300 30,150
Repayment of long-term debt (30,700) -
Proceeds from issuance of Trust Preferred Securities 29,158 -
Exercise of stock options 67 65
Purchases of treasury stock (3,552) (77)
Proceeds from sales of treasury stock - 80
Cash dividends paid (3,776) (3,278)
------- -------
NET CASH PROVIDED BY FINANCING ACTIVITIES 185,024 223,270
------- -------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (48,515) 3,892
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 87,235 47,764
------ ------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 38,720 $ 51,656
============== =============
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
September 30, 1998
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include
all the accounts of City Holding Company (the Parent Company or City Holding)
and its wholly owned subsidiaries (collectively, the Company). All material
intercompany transactions have been eliminated. The consolidated financial
statements include all adjustments, which 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 three and nine month periods
ended September 30, 1998, are not necessarily indicative of the results of
operations that can be expected for the year ending December 31, 1998. 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 included in the City Holding Company annual
report on Form 10-K for the year ended December 31, 1997.
NOTE B - MERGERS AND ACQUISITIONS
On August 7, 1998, the Company announced that it had signed a
definitive agreement to merge with Horizon Bancorp, Inc. Expected to be
accounted for as a pooling of interests, the merger entails an exchange of
$45.00 in City Holding common stock, subject to adjustment, for each share of
Horizon common stock. If, based on trading prices near the closing of the
transaction, the value of City Holding stock is between $40.50 and $44.40,
Horizon shareholders will receive $45.00 in City Holding common stock for each
share of Horizon common stock. If the value of City Holding common stock is less
than $40.50, Horizon shareholders will receive 1.111 shares of City Holding
stock for each share of Horizon common stock. If the value of City Holding
common stock is greater than $44.50, Horizon shareholders will receive 1.011
shares of City Holding stock for each share of Horizon common stock. The merger
is subject to the approval of City Holding and Horizon shareholders and
applicable regulatory authorities and is expected to close during the fourth
quarter of 1998. Horizon has granted City Holding an option, exercisable under
certain circumstances, to purchase up to 19.9% of the total shares of Horizon
common stock outstanding and City Holding has granted Horizon a similar option
on its own shares of common stock.
The following unaudited selected pro forma financial data of City
Holding and Horizon combined is derived from the historical financial statements
of City Holding and Horizon:
(In thousands) As of Septmeber 30
-------------------------
1998 1997
-------------------------
Total assets $2,651,234 $2,354,158
For the nine months For the three months
ended September 30 ended September 30
1998 1997 1998 1997
--------------------------------------------------
Net interest Income $77,911 $72,308 $26,386 $24,987
Net income 20,311 19,770 6,575 7,012
The pro forma information provided above does not purport to be
indicative of the results that would have been obtained if the operations were
combined during the periods presented or of results that may occur in the
furure.
Effective April 1, 1998, the Company consummated its acquisition of Del
Amo Savings Bank, FSB (Del Amo). Del Amo is a federally chartered savings bank,
headquartered in Torrance, California with total assets and total deposits of
approximately $116 million and $102 million, respectively, at March 31, 1998.
The merger involved the exchange of approximately 261,000 shares of the
Company's common stock for all of the outstanding shares of Del Amo. This
transaction was accounted for under the purchase method of accounting.
Accordingly, the results of operations have been included in the consolidated
totals from the date of acquisition. Due to the immaterial impact on the
Company's financial statements, no proforma information has been included for
the information provided herein.
In January 1998, City National Bank of West Virginia (City National), a
wholly-owned subsidiary of the Company, acquired Jarrett/Aim Communications,
Inc. (Jarrett/Aim), a printing and direct mail corporation. In March 1998, City
National acquired Morton Specialty Insurance Partners, Inc. (Morton Insurance),
an insurance brokerage that offers property and casualty insurance and bonding
programs to established commercial and industrial clients, primarily in
energy-related industries. In April 1998, City National acquired CityNet
Corporation (CityNet) and MarCom, Inc. (MarCom), an Internet service provider
and web site development firm, respectively. These transactions were accounted
for under the purchase method of accounting. Accordingly, the results of
operations attributable to these transactions have been included in the
consolidated totals from the dates of the acquisitions. The assets of
Jarrett/Aim, Morton Insurance, CityNet and MarCom represent less than 1% of the
total assets of the Company. Accordingly, no proforma information has been
included for the information provided herein.
NOTE C - TRUST PREFERRED SECURITIES
On October 27, 1998, City Holding Capital Trust II, ("Capital Trust
II"), a special-purpose statutory trust subsidiary of the Company sold via
public offering $57.5 million in 9.125% trust preferred capital securities (the
"Capital Securities") and issued $1.8 million of common securities to the
Company. Distributions on the Capital Securities will be payable quarterly and
each Capital Security has a stated liquidation value of $25. To fund Capital
Trust II, the Company sold to Capital Trust II $59.3 million in 9.125% Junior
Subordinated Debentures (the "Debentures") with a stated maturity date of
October 31, 2028. The sole assets of Capital Trust II are the Debentures. Cash
distributions on the Capital Securities are made to the extent interest on the
Debentures is received by Capital Trust II. The Company, through various
agreements, has irrevocably and unconditionally guaranteed all of Capital Trust
II's obligations under the Capital Securities regarding the payment of
distributions and payment on liquidation or redemption of the Capital
Securities, but only to the extent of funds held by Capital Trust II. The
Capital Securities are subject to mandatory redemption (i) in whole, but not in
part, at the Stated Maturity upon repayment of the Junior Subordinated
Debentures, (ii) prior to October 31, 2003, in whole, but not in part,
contemporaneously with the optional redemption at any time by the Company of the
Junior Subordinated Debentures at any time within 90 days following an event of
certain changes or amendments to regulatory requirements or federal income tax
rules and (iii) in whole or in part, at any time on or after October 31, 2003,
contemporaneously with the optional redemption by the Company of the Junior
Subordinated Debentures at a redemption price equal to the aggregate liquidation
amount of the Capital Securities plus accumulated but unpaid distributions
thereon. After deducting expenses incurred in the issuance, the Company received
proceeds of $55.34 million from the Capital Securities offering.
On March 31, 1998, City Holding Capital Trust (the "Trust"), a
special-purpose statutory trust subsidiary of the Company, issued $30 million in
9.15% trust preferred capital securities (the "Capital Securities") to certain
qualified institutional buyers and $928,000 of common securities (the "Common
Securities") to the Company. Distributions on the Capital Securities are payable
semi-annually, and each Capital Security has a stated liquidation amount of
$1,000. To fund the Trust, the Company sold to the Trust $30.9 million in 9.15%
Junior Subordinated Debentures (the "Debentures") with a stated maturity date of
April 1, 2028. The sole assets of the Trust are the Debentures. Cash
distributions on the Capital Securities are made to the extent interest on the
Debentures is received by the Trust. The Company, through various agreements,
has irrevocably and unconditionally guaranteed all of the Trust's obligations
under the Capital Securities regarding the payment of distributions and payment
on liquidation or redemption of the Capital Securities, but only to the extent
of funds held by the Trust. In the event of certain changes or amendments to
regulatory requirements or federal tax rules, the Capital Securities are
redeemable in whole at par or, if greater, a make-whole amount. Otherwise, the
Capital Securities are generally redeemable in whole or in part on or after
April 1, 2008, at a declining redemption price ranging from 104.58% to 100% of
the liquidation amount. On or after April 1, 2018, the Capital Securities may be
redeemed at 100% of the liquidation amount. After deducting expenses incurred in
the issuance, the Company received proceeds of $29.2 million from the Capital
Securities offering.
The offering of the Capital Securities issued in March 1998 is
classified as "Corporation-obligated mandatorily redeemable preferred securities
of subsidiary trust 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 of the Company as interest expense. The Company's payments
on the Debentures are fully tax deductible.
The Company has included the proceeds from the March 1998 offering in
its Tier I capital. Additionally, the Company will be able to immediately
include approximately $10.5 million of Trust Preferred Securities sold in
October 1998 in its Tier I capital calculations. The remaining $47.0 million is
includable in the Company's total risk-based capital computations. It is
expected that upon consummation of the Company's proposed merger with Horizon
Bancorp, the remaining $47.0 million would then qualify for treatment as Tier I
capital.
NOTE D - NEW ACCOUNTING PRONOUNCEMENTS
Effective January 1, 1998, the Company adopted Financial Accounting
Standards Board (FASB) Statement 130, Reporting Comprehensive Income. Statement
130 establishes new rules for the reporting and display of comprehensive income
and its components; however, the adoption of this Statement had no impact on the
Company's net income or shareholders' equity. Statement 130 requires unrealized
gains or losses on the Company's securities, which prior to adoption were
reported separately in shareholders' equity, to be included in other
comprehensive income. Prior year financial statements have been reclassified to
conform to the requirements of Statement 130. For the nine months in the periods
ended September 30, 1998 and 1997, total comprehensive income approximated $8.85
million and $10.56 million, respectively. For the three months in the periods
ended September 30, 1998 and 1997, comprehensive income approximated $1.98
million and $4.00 million, respectively.
As of January 1, 1998, the Company adopted the provisions of SFAS No.
125, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities," relating to repurchase agreements, securities
lending and other similar transactions and pledged collateral, which had been
delayed until after December 31, 1997 by SFAS No. 127, "Deferral of the
Effective Date of Certain Provisions of FASB Statement 125, an amendment of FASB
Statement 125." The effect of adopting the additional provisions of Statement
125 as amended by Statement 127 had no material impact on the Company's
financial position or results of operations. During 1997, the FASB issued
Statement 131, "Disclosures about Segments of an Enterprise and Related
Information", which is effective for fiscal years beginning after December 15,
1997. This statement requires public companies to disclose certain information
about reportable operating segments in complete sets of financial statements of
the company and in interim condensed financial statements. However, the
provisions of this statement do not require the disclosure of segment
information in interim financial statements in the initial year of application;
therefore no such disclosures are included herein. These disclosure requirements
will have no effect on the Company's financial position or results of
operations.
In June 1998, the FASB issued Statement No. 133, "Accounting for
Derivative Instruments and Hedging Activities" (Statement 133), which requires
all derivatives to be recorded on the balance sheet at fair value and
establishes "special" accounting for fair value, cash flow, and foreign currency
hedges. Statement 133 is effective for years beginning after June 15, 1999 and
the impact of adopting this Statement in the year 2000 cannot be determined at
this time.
NOTE E - LONG-TERM BORROWINGS
Long-term borrowings consist of a $35,000,000 revolving line of credit
of the Parent Company with a variable rate based on the lesser of the adjusted
LIBOR rate plus 1.50% per annum or the lender's base rate less .25% per annum
(7.125% at September 30, 1998) due on December 31, 1998 but renewable annually.
As of September 30, 1998, the outstanding balance was $35,000,000. Interest on
this obligation is payable quarterly, and the Parent Company has pledged the
common stock of City National as collateral for the revolving credit loan. The
Company paid $35 million on the line of credit in October 1998 with proceeds
received from Capital Trust II (See Note D).
In addition to the Parent Company's line of credit, City National
maintains long-term financing from the Federal Home Loan Bank (FHLB) in the form
of Long-Term LIBOR Floaters as follows:
Amount Interest Maturity
Outstanding Rate Date
----------------------- ------------------------ ------------------------
$ 10,000,000 5.60% July 2002
25,000,000 5.39 September 2002
25,000,000 4.89 January 2008
5,000,000 5.48 February 2008
Additionally, Del Amo maintains long-term, fixed-rate financing from
the Federal Home Loan Bank (FHLB) as follows:
Amount Interest Maturity
Outstanding Rate Date
----------------------- ------------------------ ------------------------
$ 2,000,000 6.58% June 2000
1,500,000 6.94 June 2005
1,500,000 7.14 June 2015
As of September 30, 1998, City National has maximum available credit with the
FHLB of approximately $269 million, which is collateralized by a blanket lien on
all residential and multi-family mortgage loans, and eligible government and
agency securities. Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS HIGHLIGHTS
FINANCIAL POSITION
Total assets increased $324.86 million or approximately 25.66% during
the first nine months of 1998. The acquisition of Del Amo (Note B) represented
approximately $116 million of the increase. Excluding the addition of Del Amo,
net portfolio loans have increased approximately 7.68% or $59 million. Loans
held for sale, consisting primarily of loans purchased or originated with the
intent to sell or securitize, increased $133 million or 98.19%. See LOAN
PORTFOLIO and LOANS HELD FOR SALE for further discussion. The increase in net
loans and loans held for sale was funded primarily by an increase in deposits
and long-term borrowings (including the Trust Preferred Securities) of $233.17
million or 24.85% and $66.60 million or 97.37%, respectively. Other assets
increased $52.4 million during the nine months ended September 30, 1998
primarily due to an additional $35.93 million in retained interests recorded as
a result of three asset-backed securitization transactions recorded during the
nine month period. See LOANS HELD FOR SALE for further discussion. Total
stockholders' equity increased $17.36 million during the first nine months of
1998 primarily due to net income recorded during the period of $10.17 million
less dividends paid of $3.78 million and treasury stock acquisitions of $3.40
million plus $15.77 million related to common stock issued in acquisitions.
THREE MONTHS ENDED SEPTEMBER 30, 1998 and 1997
The Company reported net income of $3.76 million for the three months
ended September 30, 1998 compared to net income of $3.49 million for the quarter
ended September 30, 1997. This increase of $270,000, or 7.74%, was attributable
to an increase in net interest income, after provision for possible loan losses,
of $514,000 and an increase in other income of $11.42 million which was offset
by an increase in other expenses of $12.07 million. Additionally, income tax
expense for the period declined $413,000 as compared to the same period in 1997
due to a state income tax credit utilized by the Company during the three months
ended September 30, 1998.
The Company defines its mortgage-banking related activities to include
the wholesale acquisition and retail origination of junior lien, and to a lesser
extent certain conventional, mortgage loans, sales of those loans to independent
third parties, securitization of the junior lien mortgage product, and loan
servicing activities. The increase in non-interest income is primarily the
result of the continued growth of the Company's mortgage-banking operations. Of
the approximate $11.42 million increase in non-interest income, $5.27 million is
attributable to net junior lien mortgage origination fees recognized during the
three months ended September 30, 1998, compared to no such income during the
same period of 1997. The Company began its retail origination of junior lien
mortgage loans during the fourth quarter of 1997.
An additional $5.03 million of the increase in non-interest income is
attributable to gains recognized on the sale of loans. During the three months
ended September 30, 1998, the Company reported gains on loan sales of
approximately $5.48 million compared to $450,000 during the same period of 1997.
Of the $5.48 million reported in 1998, approximately $2.69 million and $2.79
million was attributable to secondary market loan sales and loan
securitizations, respectively. Increases in income derived from mortgage loan
servicing activities accounted for approximately $1.18 million of the increase
in non-interest income. This increase is the result of the growth in loans
serviced for others from approximately $1.13 billion at September 30, 1997 to
$1.66 billion at September 30, 1998.
The increase of approximately $12.07 million or 85.27%, during the
third quarter of 1998 as compared to the same period of 1997, in non-interest
expense is also largely attributable to the growth experienced by the Company in
its mortgage-banking activities. Advertising expense has increased approximately
$6.33 million for the three months ended September 30, 1998 as compared to the
three months ended September 30, 1997. This increase is directly the result of
the nationwide advertising for and the direct mail solicitation of junior lien
mortgage loans. In addition to advertising expense, personnel costs have
increased approximately $2.99 million or 41.91% from $7.13 million to $10.11
million for the three months in the periods ended September 30, 1997 and 1998,
respectively. Of the $2.99 million increase, approximately $1.97 million is
attributable to new divisions and affiliates of the Company either acquired or
formed since September 30, 1997. This increase does not include approximately
$6.09 million of personnel costs incurred by the Company's new retail
origination divisions directly related to the origination of junior lien
mortgage loans. Those expenses have been netted against loan origination fees in
the consolidated statements of income.
Occupancy and depreciation expenses have increased $1.73 million for
the three months ended September 30, 1998 as compared to the same period in
1997. Of this increase, approximately $1.48 million is attributable to divisions
and affiliates acquired or formed by the Company since September 30, 1997. Other
expenses increased $1.03 million during this same period, primarily the result
of approximately $840,000 charged to expense related to the Company's third
quarter loan securitization.
Basic and diluted earnings per share were $0.56 and $0.57 for the third
quarter of 1998 and 1997, respectively.
NINE MONTHS ENDED SEPTEMBER 30, 1998 and 1997
The Company reported net income of $10.17 million for the nine months
ended September 30, 1998 compared to $9.49 million for the nine months ended
September 30, 1997. This increase of $680,000 or 7.17%, was primarily due to an
increase in net interest income, after provision for possible loan losses, of
$3.14 million plus an increase in other income of $33.52 million less an
increase in other expenses of $36.08 million. Similar to the comparison of the
three month periods ended September 30, 1998 and 1997, mortgage-banking related
activities have primarily represented the growth in both non-interest income and
expenses for the nine month periods.
Non-interest income increased 204% from $16.39 million to $49.91
million during the nine months ended September 30, 1997 and 1998, respectively.
Of the $33.52 million increase, $11.49 million is due to net origination fees on
junior lien mortgage loans recognized during the nine months ended September 30,
1998 compared to no such income during the same period in 1997. As previously
discussed, the Company generally began its retail origination of junior lien
mortgage loans during the fourth quarter of 1997. Additionally, gains on the
sale of loans increased $11.48 million for the nine months ended September 30,
1998 as compared to the same period in 1997. Of the $12.81 million reported as
gain on loan sales, approximately $6.37 million and $6.44 million were
attributable to secondary market loan sales and loan securitizations,
respectively. Increases derived from mortgage loan servicing activities
accounted for approximately $3.84 million of the increase in non-interest
income.
Other income has increased approximately $6.07 million or 175% from
$3.46 million for the nine month period ended September 30, 1997 to $9.54
million for the same period in 1998. This increase is directly attributable to
other non-interest revenue earned by divisions or affiliates acquired or formed
by the Company since September 30, 1997, including approximately $1.72 million
associated with fees earned by the Company's insurance brokerage division during
1998.
Non-interest expense increased 91.69% from $39.35 million to $75.43
million during the nine months ended September 30, 1997 and 1998, respectively.
Of the $36.08 million increase, approximately $14.72 million is related to
advertising expenses. Of the $14.72 million increase in advertising expenses,
$14.30 million is directly related to the nationwide advertising for and direct
mail solicitation of junior lien mortgage loans. In addition to advertising
expenses, personnel costs have increased approximately $8.40 million or 39.77%
from $21.12 million for the nine months ended September 30, 1997 to $29.52
million for the same period in 1998. Of the $8.40 million increase, $6.31
million is attributable to new divisions and affiliates either acquired or
formed by the Company since September 30, 1997. This increase does not include
approximately $11.13 million of personnel costs incurred by the Company's new
retail loan origination divisions directly related to the origination of junior
lien mortgage loans. Those expenses have been netted against loan origination
fees in the consolidated statements of income. Occupancy and depreciation
expenses have increased approximately $4.03 million or 65.14% for the nine
months ended September 30, 1998 as compared to the same period in 1997. Of this
increase, approximately $3.35 million is attributable to divisions or affiliates
acquired or formed by the Company since September 30, 1998.
Other expenses have increased approximately $8.93 million or 84.01%
from $10.63 million for the nine months ended September 30, 1997 to $19.56
million for the same period in 1998. Of this $8.93 million increase, $7.58
million is attributable to divisions or affiliates acquired or formed by the
Company since September 30, 1997, including approximately $2.20 million
associated with costs of completing the Company's securitized loan transactions
during 1998.
Net income for the first nine months also benefited from an increase of
$3.14 million in the Company's net interest income during the first nine months
of 1998 as compared to the same period of 1997. The addition of Del Amo
represented approximately $1.79 million of this increase. Basic earnings per
share were $1.53 and $1.56 for the nine months ended September 30, 1998 and
1997, respectively. Diluted earnings per share were $1.52 and $1.56 for the same
periods, respectively.
SELECTED RATIOS
The return on average assets (ROA) for the third quarter of 1998 was
.95% compared to 1.15% in the third quarter of 1997. The return on average
shareholder's equity (ROE) for the third quarter of 1998 was 12.04% compared to
15.46% for the third quarter of 1997. For the nine months ended September 30,
1998, ROA was .94% compared to 1.08% for the period in 1997. ROE was 11.38% and
14.49% for the first nine months of 1998 and 1997, respectively.
The dividend payout ratio of 33.93% for the quarter ended September 30,
1998 represents an increase of 7.44% from the dividend payout ratio of 31.58%
for the quarter ended September 30, 1997. The dividend payout ratio was 37.25%
and 34.62% for the nine months ended September 30, 1998 and 1997, respectively.
Since 1988, the Company has paid dividends on a quarterly basis, and expects to
continue to do so in the future.
LOAN PORTFOLIO
The composition of the Company's loan portfolio (in thousands) is
presented in the following table:
September 30 December 31
1998 1997
---- ----
Commercial, financial and agricultural $ 260,419 $ 232,602
Real Estate-Mortgage 507,139 371,974
Real Estate-Construction 31,247 28,427
Installment and other 160,892 154,713
Unearned Income (6,769) (7,354)
-------- ----------
TOTAL $ 952,928 $ 780,362
========= ==========
Loans Held for Sale
Junior lien and similar mortgage loans $ 248,463 $ 114,462
Conventional mortgage loans 19,075 20,528
------- --------
TOTAL $ 267,543 $ 134,990
========= ==========
LOANS HELD FOR SALE
Loans held for sale generally represent mortgage loans the Company has
either purchased, through its wholesale division, or originated with the intent
to sell or securitize and are carried at the lower of aggregate cost or
estimated market value. Through its four retail loan origination platforms, the
Company originates high loan-to-value (LTV) debt consolidation and other junior
lien mortgage loans on a nationwide level. These loans are expected to either be
securitized by the Company or sold to independent third parties within 90-180
days.
The Company's origination and acquisition of loans to be securitized
or sold is expected to continue to have a positive impact on the Company's
operating results. However, this increased return is not achieved without a
degree of risk of loss to the Company. Such risks include credit risk related to
the quality of the underlying loan and the borrower's financial capability to
repay the loan, market risk related to the continued attractiveness of the loan
product to both borrowers and end-investors, and interest rate risk related to
potential changes in interest rates and the resulting repricing of both
financial assets and liabilities. The Company seeks to manage this risk by
continuously improving policies and procedures designed to reduce the risk of
loss to a level commensurate with the return being earned on the Company's
investment.
In addition to continuously focusing on improving policies and
procedures in this area, management also utilizes its asset-backed
securitization program to mitigate the risk of loss. By securitizing originated
and purchased junior lien mortgage loans, the Company effectively removes these
loans from its balance sheet by creating an investment security or securities,
supported by the cash flows generated by these loans, and selling the resulting
security or securities to independent third parties. As part of this process,
the Company provides credit enhancement, in the form of overcollateralization,
with respect to the investment security or securities created. As a result, the
Company does maintain a certain level of credit risk and interest rate risk
related to these loans.
During the first three quarters of 1998, the Company originated
$429.32 million and purchased $621.53 million in loans held for sale and sold
$918.29 million during the same period. This compares to originations of $81.39
million, purchases of $550.13 million, and sales of $455.04 million during the
first three quarters of 1997.
On September 24, 1998, the Company sold approximately $132.92 million
of junior lien mortgage loans held for sale through an asset-backed
securitization transaction. As a result, the Company recorded a retained
interest of approximately $16.23 million. The amount recorded as retained
interest is computed by estimating the future cash flows of the loans and giving
consideration to certain assumptions regarding the performance of the underlying
collateral loans. The three most significant assumptions used in this valuation
process include: (1) prepayment rates, the rates at which borrowers will fully
repay loan balances in advance of established amortization periods; (2) default
rates, the rates at which collateral loans will become uncollectible; and (3)
discount rates, the rates used by management to discount the estimated future
cash flows such that the present value of those cash flows can be estimated.
For the nine months ended September 30, 1998, the Company completed
three asset-backed securitization transactions which have resulted in an
additional $35.93 million recorded as retained interests. As of September 30,
1998, the Company has approximately $41.46 million, including accrued interest,
recorded in Other Assets representing the Company's total retained interests in
its securitized loan pools. Significant assumptions used to estimate the value
of the retained interest include:
Prepayment rates Between 17-21% CPR
Default rates Approximating 10% cumulative losses
Weighted average discount rates Between 12-14%
LOAN SERVICING
Mortgage loans serviced for others are not included in the accompanying
consolidated balance sheets. They consist primarily of FHA Title I home
improvement loans and debt consolidation loans secured by junior lien mortgages.
The unpaid principal balances of mortgage loans serviced for others was $1.66
billion and $1.25 billion at September 30, 1998 and December 31, 1997,
respectively. The unpaid principal balances of intercompany mortgage loans
serviced was $234.60 million at September 30, 1998.
On June 29, 1998, the Company (through City National) completed its
strategic investment in Mego Mortgage Corporation (Mego), a specialty financial
services company that originates and purchases conventional home improvement,
high loan-to-value debt consolidation, and other similar loans. Concurrent with
this investment, City National (through its loan servicing division, City
Mortgage Services) acquired the right to service approximately $536 million of
consumer mortgage loans previously serviced by Mego and the exclusive right to
service up to an additional $ 1 billion of mortgage loans originated or acquired
by Mego in the future.
Mortgage loan servicing rights of $7.51 million and $2.46 million at
September 30, 1998 and December 31, 1997, respectively, are included in other
assets in the accompanying balance sheets. Amortization of mortgage loan
servicing rights approximated $439,000 and $246,000 during the nine months ended
September 30, 1998 and September 30, 1997, respectively. ASSET QUALITY AND
ALLOWANCE FOR LOAN LOSSES
The following table summarizes the Company's risk elements for the
periods ending September 30, 1998 and December 31, 1997. The Company's coverage
ratio of nonperforming assets and potential problem loans continues to be strong
at 83.94% as of September 30, 1998.
Management is of the opinion that the allowance for loan losses is
adequate to provide for probable future losses inherent in the portfolio.
RISK ELEMENTS
(in thousands)
Nine Months
Ended Year Ended
September 30 December 31
1998 1997
---- ----
ALLOWANCE FOR LOAN LOSSES
Balance at beginning of period $ 7,673 $ 7,281
Charge-offs (1,856) (1,899)
Recoveries 249 419
--------- --------
Net charge-offs (1,607) (1,480)
Provision for loan possible losses 2,047 1,662
Balance of acquired subsidiary 785 210
--------- --------
Balance at end of period $ 8,898 $ 7,673
========= ========
AS A PERCENT OF AVERAGE TOTAL LOANS
Net charge-offs .24% .20%
Provision for possible loan losses .31% .22%
Allowance for loan losses 1.02% 1.01%
September 30 December 31
1998 1997
---- ----
NON-PERFORMING ASSETS
Other real estate owned $ 2,527 $ 1,263
Non-accrual loans 4,173 3,758
Accruing loans past due 90 days
or more 2,501 1,858
Restructured loans 1,049 331
------------------ --------------------
Total non-performing Assets $ 10,250 $ 7,210
POTENTIAL PROBLEM LOANS $ 351 $ 204
AS A PERCENT OF NON-PERFORMING ASSETS
AND POTENTIAL PROBLEM LOANS
Allowance for loan losses 83.94% 103.49%
ACCRUING LOANS PAST DUE 90 DAYS OR MORE
AS A PERCENT OF AVERAGE TOTAL LOANS 0.29% 0.25%
INTEREST RATE SENSITIVITY AND LIQUIDITY
Interest Rate Sensitivity: The Company manages its liquidity position
to reduce interest rate risk, which is the susceptibility of assets and
liabilities to declines in value as a result of changes in general market
interest rates. The Company seeks to reduce the risk through asset and liability
management, where the goal is to optimize the balance between earnings and
interest rate risk. The Company measures interest rate risk through interest
sensitivity gap analysis as illustrated in the following table. At September 30,
1998, the one year period shows a negative gap (liability sensitive) of $377
million. This analysis is a "static gap" presentation and movements in deposit
rates offered by City National and Del Amo lag behind movements in the prime
rate. Such time lags affect the repricing frequency of many items on the
Company's balance sheet. Accordingly, the sensitivity of deposits to changes in
market rates may differ significantly from the related contractual terms. The
table is first presented without adjustment for expected repricing behavior.
Then, as presented in the "management adjustment" line, these balances have been
notionally distributed over the first three periods to reflect those portions of
such accounts that are expected to reprice fully with market rates over the
respective periods. The distribution of the balances over the repricing periods
represents an aggregation of such allocations by each of the banking divisions,
and is based upon historical experience with their individual markets and
customers. Management expects to continue the same pricing methodology in
response to market rate changes; however, management adjustments may change as
customer preferences, competitive market conditions, liquidity, and loan growth
change. Also presented in the management adjustment line are loan prepayment
assumptions, which may differ from the related contractual terms of the loans.
These balances have been distributed over the four periods to reflect those
loans that are expected to be repaid in full prior to their maturity date. After
management adjustments, the table shows a negative gap in the one-year period of
$99 million. A negative gap position is advantageous when interest rates are
falling because interest-bearing liabilities are being repriced at lower rates
and in greater volume, which has a positive effect on net interest income.
However, when interest rates are rising, this position produces the converse
effect. Consequently, the Company has experienced a slight decline in its net
interest margin during the past two years and is somewhat vulnerable to a rapid
rise in interest rates in 1998. These declines in net interest margin did not
translate into declines in net interest income because of increases in the
volume of interest-earning assets.
INTEREST RATE SENSITIVITY GAPS
(in thousands)
1 to 3 MO. 3 to 12 MO. 1 to 5 YRS. Over 5 YRS. Total
---------------- --------------- -------------- ---------------- --------------
ASSETS
Gross loans $ 220,957 $ 129,493 $ 467,622 $ 137,466 $ 955,538
Loans held for sale 267,543 0 0 0 267,543
Securities 27,132 17,788 92,014 23,421 160,355
Federal funds sold 1,484 0 0 0 1,484
Retained interest in securitized loans 40,287 0 0 0 40,287
--------------- -------------- -------------- ---------------- --------------
Total interest earning assets $557,403 $147,281 $559,636 $160,887 $1,425,207
--------------- -------------- -------------- ---------------- --------------
LIABILITIES
Savings and NOW Accounts $ 429,525 $ 0 $ 0 $ 0 $ 429,525
All other interest bearing deposits 127,881 288,027 150,817 19,941 586,666
Short term and other borrowings 131,156 0 0 0 131,156
Long term borrowings 105,000 0 0 0 105,000
Trust preferred securities 0 0 0 30,000 30,000
--------------- -------------- -------------- ---------------- --------------
Total interest bearing liabilities $793,562 $288,027 $ 150,817 $ 49,941 $1,282,477
--------------- -------------- -------------- ---------------- --------------
Interest sensitivity gap ($236,159) ($140,746) $408,819 $110,946 $ 142,860
--------------- -------------- -------------- ---------------- --------------
Cumulative sensitivity gap ($236,159) ($376,905) $31,914 $142,860
=============== ============== ============== ================ ==============
Management adjustments $ 351,191 ($73,683) ($250,343) ($27,165)
Cumulative management adjusted gap $115,032 ($99,397) $59,079 $142,860
=============== ============== ============== ================ ==============
The table above includes various assumptions and estimates by management as to
maturity and repricing patterns. Future interest margins will be impacted by
balances and rates which are subject to change periodically throughout the year.
Liquidity: Although management is comfortable with its liquidity
position, it recognizes the need to pursue additional liquidity sources in an
effort to reduce the Company's reliance on funding received from the Federal
Home Loan Bank.
In the fourth quarter of 1997, a New York investment bank committed to
issue up to $100 million of the Company's certificates of deposit. The
activation of this commitment is solely at the discretion of the Company. The
certificates of deposit could be issued in maturities up to five years at a rate
equal to a comparable treasury maturity plus a market based spread. At September
30, 1998, $32 million of the certificates of deposit had been sold under this
commitment at an average rate and term of approximately 5.70% and two years,
respectively. There can be no assurance that the Company will issue additional
certificates of deposit pursuant to this arrangement.
Additionally, the Company has been successful in utilizing the capital
markets as an additional source of liquidity. Through the Company's asset-backed
securitization program and through the Company's issuance of Trust Preferred
Securities, the Company has been able to diversify its available funding
sources. Sales of the Company's junior lien mortgage loans to independent third
parties have also provided the Company with an additional source of liquidity.
Management seeks to maintain adequate liquidity to generate sufficient
cash flow to fund the Company's operations on a timely basis, to continue its
dividend distribution to shareholders, and to manage its liquidity position to
provide for continued asset growth. The Company does not have a high
concentration of volatile funds and all such funds are invested in assets of
comparable maturity. Management is not aware of any trends, demands, commitments
or uncertainties that have resulted or are reasonably likely to result in
material changes in liquidity.
The Company's cash and cash equivalents, represented by cash, due from
banks and federal funds sold, are a product of its operating, investing and
financing activities. These activities are set forth in the Company's
Consolidated Statements of Cash Flows included elsewhere herein. Cash was used
from operating activities in the first nine months of 1998 and 1997 due to cash
outlays for loans originated for sale and purchases of loans held for sale. Net
cash was used in investing activities for both periods presented which is
indicative of the Company's net increases in loan volume and purchases of
securities available for sale. Cash was provided by financing activities during
each period, as a result of net increases in deposits and long-term borrowings,
and the issuance of Trust Preferred Securities in March 1998.
CAPITAL RESOURCES
As a bank holding company, City Holding Company is subject to
regulation by the Federal Reserve Board under the Bank Holding Company Act of
1956. In January 1989, the Federal Reserve published risk-based capital
guidelines in final form which are applicable to bank holding companies. Such
guidelines define items in the calculation of risk-weighted assets. At September
30, 1998, the regulatory minimum ratio of qualified total capital to
risk-weighted assets (including certain off-balance-sheet items, such as standby
letters of credit) is 8 percent. At least half of the total capital is to be
comprised of "Tier 1 capital", or the Company's common stockholders' equity, and
minority interest in consolidated subsidiary, net of intangibles. The remainder
("Tier 2 capital") may consist of certain other prescribed instruments and a
limited amount of loan loss reserves.
In addition, the Federal Reserve Board has established minimum leverage
ratio (Tier 1 capital to quarterly average tangible assets) guidelines for bank
holding companies. These guidelines provide for a minimum ratio of 3 percent for
bank holding companies that meet certain specified criteria, including that they
have the highest regulatory rating. All other bank holding companies will be
required to maintain a leverage ratio of 3 percent plus an additional cushion of
a least 100 to 200 basis points. The guidelines also provide that banking
organizations experiencing internal growth or making acquisitions will be
expected to maintain strong capital positions substantially above the minimum
supervisory levels, without significant reliance on intangible assets.
The following table presents comparative capital ratios and related
dollar amounts of capital for the Company, including minimal amounts required by
the Company's regulatory authorities:
Dollars in Thousands
September 30 December 31
1998 1997
----- ----
Capital Components
Tier 1 risk-based capital $ 114,935 $ 82,842
Total risk-based capital 123,833 90,515
Capital Ratios
Tier 1 risk-based 7.84% 9.16%
Total risk-based 8.45 10.00
Leverage 7.43 6.49
Regulatory Minimum
Tier 1 risk-based (dollar/ratio) $ 58,646/4.00% $ 36,191/4.00%
Total risk-based (dollar/ratio) 117,293/8.00 72,381/8.00
Leverage (dollar/ratio) 61,914/4.00 51,094/4.00
Actual capital ratios noted above reflect management's emphasis on
strong asset quality and a history of retained net income. However, the
asset-backed securitization program undertaken by the Company to generate future
earnings does, in the short-term, negatively impact the aforementioned ratios.
As of September 30, 1998, the Company is required to provide equity capital
against approximately $313 million of off-balance sheet items. The unpaid
principal balance of securitized loan pools approximated $307 million at
September 30, 1998. Under the low-level recourse rules required by the Company's
regulatory authorities, the Company, as a result of maintaining a retained
interest in its securitized loan pools, is required to include the lesser of:
(1) the product of the recorded balance of its retained interests multiplied by
a factor of 12.5, or (2) the unpaid principal balance of the securitized loans
in its risk-weighted assets when computing capital ratios. Thus, actual capital
ratios are less than they would have been had the Company not maintained a
retained interest in its securitization transactions or had the Company sold
those loans to independent third parties separate from a securitization
transaction.
However, as evidenced above, the Company's actual capital ratios
sufficiently exceed minimum levels of capital as required by the Company's
regulatory authorities and management is committed to maintaining its capital
ratios at such levels. Through continued improvement in operating results, in
part from future earnings to be derived from completed securitization
transactions, continued emphasis on high asset quality, and effective management
of risk, management expects that the Company will continue to maintain its
capital position. Doing so enables the Company to continue its pursuit of
strategic acquisitions and other growth opportunities which, when transacted,
further enhance the overall capital position of the Company.
As more fully discussed in Note D to the financial statements, the
Company, pursuant to rulings released by the Federal Reserve Board in October
1996, has included its Trust Preferred Securities issued in March 1998 in its
Tier I capital calculations. Although not reflected in the aforementioned
capital ratios, the Company will be able to immediately include approximately
$10.5 million of Trust Preferred Securities sold in October 1998 in its Tier I
capital calculations. The remaining $47.0 million is includable in the Company's
total risk-based capital computations. It is expected that upon consummation of
the Company's proposed merger with Horizon Bancorp, the remaining $47.0 million
would then qualify for treatment as Tier I capital. The following table sets
forth the Company's pro forma capital ratios and related dollar amounts of
capital reflecting the impact of including the Trust Preferred Securities sold
in October 1998:
Dollars in Thousands
September 30, 1998
-----------------------------------
Capital Components
Tier 1 risk-based capital $ 125,435
Total risk-based capital 180,833
Capital Ratios
Tier 1 risk-based 8.56%
Total risk-based 12.33
Leverage 8.10
IMPACT OF THE YEAR 2000
The Year 2000 Issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of the
Company's computer programs or hardware that have date-sensitive software or
embedded chips may recognize a date using "00" as the year 1900 rather than the
year 2000. This could result in a system failure or miscalculations causing
disruptions of operations, including, among other things, a temporary inability
to process transactions or engage in similar normal business activities.
Based on management's assessment of this issue, the Company determined
that it would be required to modify or replace significant portions of its
software and certain hardware so that those systems will properly utilize dates
beyond December 31, 1999. The Company presently believes that with modifications
or replacements of certain software and hardware, the Year 2000 issue can be
mitigated. However, to the extent that such modifications or replacements are
not made, or are not completed timely, the Year 2000 issue could have a material
impact on the operations of the Company.
The Company's plan to resolve the Year 2000 issue was initiated
throughout the Company in January 1997. The project is sponsored and closely
monitored by both senior and executive level management. The Office of the
Comptroller of the Currency (OCC) and the Federal Financial Institutions
Examination Council recommend that all systems reprogramming efforts be
completed by December 31, 1998 to allow for sufficient testing and
implementation. Management intends to meet or exceed this recommendation. Plan
components are being executed in accordance with guidelines that have been
mandated by the OCC. The Company's approach to Year 2000 compliance encompasses
five industry standard phases:
1. Awareness Phase
2. Assessment Phase
3. Renovation Phase
4. Validation Phase
5. Implementation Phase
To date, the Company has completed the Awareness, Assessment, and Renovation
phases of the project. Currently, the Company is approximately 90% complete in
the validation phase and has recently begun the implementation phase in certain
areas.
Having begun the implementation phase, management believes that
the risks affecting the Company associated with the Year 2000 issue should be
minimal. The majority of the critical applications affecting the Company have
been addressed and management believes that solid solutions have been
implemented to address areas of concern. Accordingly, the Company's management
does not believe that the Year 2000 presents a material exposure as it relates
to the Company's products and services. In addition, the Company has gathered
information about the Year 2000 compliance status of its significant vendors,
suppliers, and customers and continues to monitor their compliance. To date, the
Company's management is not aware of any such party with a Year 2000 issue that
would materially impact the Company's results of operations, liquidity, or
capital resources. However, the Company has no means of ensuring that such
parties will be Year 2000 ready. The inability of such parties to complete their
Year 2000 resolution process in a timely manner could materially impact the
Company. The effect of non-compliance by such parties is not determinable.
The Company has utilized both internal and external resources to
reprogram or replace, test, and implement the software and operating equipment
for Year 2000 modifications and will continue to do so. The sum of the costs
incurred to-date and the estimated costs remaining to be incurred is not
material to the consolidated financial statements.
Management of the Company believes it has an effective program in place
to resolve the Year 2000 issue in a timely manner and in accordance with the
guidelines set forth by its regulatory authorities. As noted above, the Company
has not yet completed all necessary phases of the Year 2000 program. In the
event that the Company does not complete any additional phases of its program,
the Company could experience significant difficulties in processing daily
operating activities. In addition, disruptions in the economy generally
resulting from Year 2000 issues could also materially adversely affect the
Company. The Company could be subject to litigation for computer systems product
failure, for example, or failure to properly date business records. The amount
of potential liability and lost income cannot be reasonably estimated at this
time.
NET INTEREST INCOME
Net interest income, on a fully federal tax-equivalent basis, improved
from the third quarter of 1997 to the third quarter of 1998 by approximately
$942,000 due to an increase in net earning assets. Net yield on earning assets
decreased between the respective periods from 4.79% to 4.05%. Earning asset
yields declined 77 basis points (100 basis points equal one percent) to 8.08%,
and the cost of interest-bearing liabilities declined 13 basis points to 4.55%.
The $6.57 million decrease in net interest income due to a change in the rate,
as shown in the following table, was offset with a $7.51 million increase in net
interest income due to a change in the volume. Volume increases, particularly in
the real estate loan portfolio and the deposit base, between the quarter ended
September 30, 1997 and 1998 were primarily attributable to the addition of Del
Amo in 1998. Additionally, the average balance of loans held for sale increased
approximately $106 million or 57.52% between the two periods.
Net interest income, on a fully federal tax-equivalent basis, improved
from the nine months ended September 30, 1997 to the nine months ended September
30, 1998 by approximately $3.89 million due to an increase in net earning
assets. Net yield on earning assets decreased between periods from 4.83% to
4.45%. Earning asset yields decreased 14 basis points to 8.61%, and the cost of
interest-bearing liabilities increased 17 basis points to 4.70%. The $2.98
million decrease in net interest income due to a change in the rate, as shown in
the following table, was offset by a $6.86 million increase in net interest
income due to a change in the volume. Similar to the quarter-to-quarter
comparison discussed above, the addition of Del Amo in 1998 has resulted in the
majority of the volume increases, particularly in the real estate loan portfolio
and total deposit base. Additionally, the average balance of loans held for sale
for the nine month periods increased approximately $81.06 million or 50.50% from
1997 to 1998.
EARNING ASSETS AND INTEREST-BEARING LIABILITIES
(in thousands)
Quarter Ended
September 30
1998 1997
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
--------------------------------------------------------------------------------
EARNING ASSETS:
Loans (1)
Commercial and industrial $ 252,634 $ 4,802 7.60% $ 245,294 $ 5,606 9.14%
Real estate 538,971 10,981 8.15% 372,348 8,074 8.67%
Consumer obligations 152,123 3,774 9.92% 147,204 3,671 9.98%
--------------------------------------------------------------------------------
Total loans 943,728 19,557 8.29% 764,846 17,351 9.07%
Loans held for sale 290,911 6,205 8.53% 184,687 4,658 10.09%
Securities
Taxable 141,102 1,964 5.57% 148,154 2,342 6.32%
Tax-exempt (2) 31,194 621 7.97% 34,668 709 8.18%
--------------------------------------------------------------------------------
Total securities 172,296 2,585 6.00% 182,822 3,051 6.68%
Retained interest in securitized loans 26,157 616 9.42% - - -
Federal funds sold 185 3 5.51% 262 4 6.11%
--------------------------------------------------------------------------------
Total earning assets 1,433,277 28,966 8.08% 1,132,617 25,064 8.85%
Cash and due from banks 33,305 - - 35,406 - -
Bank premises and equipment 51,114 - - 30,967 - -
Other assets 74,070 - - 20,285 - -
Less: allowance for possible loan losses (8,792) - - (7,915) - -
--------------------------------------------------------------------------------
Total assets $ 1,582,974 - - $1,211,360 - -
================================================================================
INTEREST-BEARING LIABILITIES:
Demand deposits $ 185,248 1,516 3.27% $ 134,145 $ 1,107 3.30%
Savings deposits 234,085 1,876 3.21% 222,642 1,657 2.98%
Time deposits 555,800 7,612 5.48% 418,092 5,709 5.46%
Short-term borrowings 179,762 1,803 4.01% 162,977 2,241 5.50%
Long-term debt 86,454 963 4.45% 44,452 788 7.09%
Trust preferred securities 30,000 692 9.22% - - -
--------------------------------------------------------------------------------
Total interest-bearing liabilities 1,271,349 14,462 4.55% 982,308 11,502 4.68%
Demand deposits 160,117 - - 126,862 - -
Other liabilities 26,624 - - 12,025 - -
Stockholders' equity 124,883 - - 90,165 - -
--------------------------------------------------------------------------------
Total liabilities and
Stockholders' equity $ 1,582,973 - - $1,211,360 - -
================================================================================
Net interest income $ 14,504 $ 13,562
================================================================================
Net yield on earning assets 4.05% 4.79%
================================================================================
(1) For purposes of this table, non-accruing loans have been included in average
balances and loan fees, which are immaterial, have been included in interest
income.
(2) Computed on a fully federal tax-equivalent basis assuming a tax rate of
approximately 35% in 1998 and 34% in 1997.
RATE VOLUME ANALYSIS OF
CHANGES IN INTEREST INCOME AND EXPENSE
(in thousands)
Quarter Ended
September 30
1998 VS. 1997
Increase (Decrease)
Due to Change In:
Volume Rate Net
--------------------- ------------------- -------------------
INTEREST INCOME FROM:
Loans
Commercial and Industrial $ 1,018 $ (1,822) $ (804)
Real estate 5,999 (3,092) 2,907
Consumer obligations 221 (118) 103
------------------- ------------------ -------------------
Total loans 7,238 (5,032) 2,206
Loans held for sale 6,125 (4,578) 1,547
Investment securities
Taxable (108) (270) (378)
Tax-exempt (1) (70) (18) (88)
------------------- ------------------ -------------------
Total investment securities (178) (288) (466)
Retained interest in securitized loans 616 - 616
Federal funds sold (1) 0 (1)
------------------- ------------------ -------------------
Total interest-earning assets $ 13,800 $ (9,898) $ 3,902
INTEREST EXPENSE ON:
Demand deposits 472 (63) 409
Savings deposits 88 131 219
Time deposits 1,886 17 1,903
Short-term borrowings 1,217 (1,655) (438)
Long-term debt 1,808 (1,633) 175
Trust preferred securities 692 - 692
------------------- ------------------ -------------------
Total interest-bearing liabilities $ 6,163 $ (3,203) $ 2,960
------------------- ------------------ -------------------
NET INTEREST INCOME $ 7,637 $ (6,695) $ 942
=================== ================== ===================
(1) Fully federal taxable equivalent using a tax rate of 35% in 1998 and 34% in
1997.
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.
EARNING ASSETS AND INTEREST-BEARING LIABILITIES
(in thousands)
Nine Months Ended
September 30
1998 1997
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
--------------------------------------------------------------------------------
EARNING ASSETS:
Loans (1)
Commercial and industrial $ 244,860 $15,856 8.63% $ 245,876 $ 16,060 8.71%
Real estate 484,041 29,994 8.26% 355,642 23,239 8.71%
Consumer obligations 147,715 10,995 9.94% 146,439 10,870 9.90%
--------------------------------------------------------------------------------
Total loans 876,316 56,845 8.65% 747,957 50,169 8.94%
Loans held for sale 241,895 18,008 9.93% 160,832 12,403 10.28%
Securities
Taxable 134,098 6,097 6.06% 145,348 6,798 6.24%
Tax-exempt (2) 31,520 1,895 8.02% 35,236 2,185 8.27%
--------------------------------------------------------------------------------
Total securities 165,618 7,992 6.43% 180,584 8,983 6.63%
Retained interest in securitized loans 15,637 1,175 10.02% - - -
Federal funds sold 2,795 118 5.63% 1,952 63 4.30%
--------------------------------------------------------------------------------
Total earning assets 1,302,261 84,138 8.61% 1,091,325 71,618 8.75%
Cash and due from banks 34,544 - - 36,004 - -
Bank premises and equipment 46,507 - - 31,170 - -
Other assets 70,044 - - 19,147 - -
Less: allowance for possible loan losses
(8,679) - - (7,719) - -
--------------------------------------------------------------------------------
Total assets $ 1,444,677 - - $1,169,927 - -
=============== =========== =========== ============= ============ ============
INTEREST-BEARING LIABILITIES:
Demand deposits $166,959 $ 4,097 3.27% $125,417 $ 2,824 3.00%
Savings deposits 227,997 7,355 4.30% 222,050 5,135 3.08%
Time deposits 510,637 18,926 4.94% 411,200 16,365 5.31%
Short-term borrowings 140,439 5,278 5.01% 146,513 5,720 5.21%
Long-term debt 87,868 3,680 5.58% 39,845 2,640 6.83%
Trust preferred securities 20,220 1,383 9.12% - - -
--------------------------------------------------------------------------------
Total interest-bearing liabilities 1,154,120 40,719 4.70% 945,025 32,084 4.53%
Demand deposits 147,273 - - 126,425 - -
Other liabilities 24,134 - - 11,135 - -
Stockholders' equity 119,150 - - 87,342 - -
--------------------------------------------------------------------------------
Total liabilities and
Stockholders' equity $ 1,444,677 - - $1,169,927 - -
================================================================================
Net interest income $ 43,419 $ 39,534
================================================================================
Net yield on earning assets 4.45% 4.83%
================================================================================
(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% in 1998 and 34% in 1997.
RATE VOLUME ANALYSIS OF
CHANGES IN INTEREST INCOME AND EXPENSE
(in thousands)
Nine Months Ended
September 30
1998 VS. 1997
Increase (Decrease)
Due to Change In:
Volume Rate Net
--------------------- ------------------- -------------------
INTEREST INCOME FROM:
Loans
Commercial and Industrial $ (66) $ (138) $ (204)
Real estate 8,711 (1,956) 6,755
Consumer obligations 73 52 125
------------------- ------------------ -------------------
Total loans 8,718 (2,042) 6,676
Loans held for sale 6,443 (838) 5,605
Investment securities
Taxable (515) (186) (701)
Tax-exempt (1) (225) (65) (290)
------------------- ------------------ -------------------
Total investment securities (740) (251) (991)
Retained interest in securitized loans 1,175 - 1,175
Federal funds sold 12 43 55
------------------- ------------------ -------------------
Total interest-earning assets $ 15,608 $ (3,088) $ 12,520
INTEREST EXPENSE ON:
Demand deposits 1,006 297 1,303
Savings deposits 141 (10) 131
Time deposits 4,071 549 4,620
Short-term borrowings (232) (210) (442)
Long-term debt 2,285 (645) 1,640
Trust preferred securities 1,383 - 1,383
------------------- ------------------ -------------------
Total interest-bearing liabilities $ 8,654 $ (19) $ 8,635
------------------- ------------------ -------------------
NET INTEREST INCOME $ 6,954 $ (3,069) $ 3,885
=================== ================== ===================
(2) Fully federal taxable equivalent using a tax rate of 35% in 1998 and 34% in
1997.
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.
Item 3. Quantitative and Qualitative Disclosures and Market Risk Not Applicable
PART II OTHER INFORMATION
Item 1. Legal Proceedings - None
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 8-K -
Exhibit
Number Exhibit
------ -------
11 Computation of Earnings per Share
27 Financial Data Schedule for the Nine Months
Ending September 30, 1998
On September 14, 1998, the Company filed its report on Form 8-K
announcing pursuant to Item 5 that the Company had entered into
an Agreement and Plan of Reorganization with Horizon Bancorp,
Inc. (Horizon). Additionally, pursuant to Item 7 of Form 8-K,
the Company included as exhibits (i) certain unaudited
consolidated financial information of Horizon, (ii)
Management's Discussion and Analysis of Financial Condition and
Results of Operations as included in Horizon's Form 10-Q for
the quarter ended June 30, 1998; (iii) certain audited
consolidated financial information of Horizon; and (iv)
Management's Discussion and Analysis of Financial Condition and
Results of Operations as incorporated by reference in Horizon's
Form 10-K for the year ended December 31, 1997.
S I G N A T U R E
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
CITY HOLDING COMPANY
November 13, 1998 By /s/ Michael D. Dean
----------------------------------
Michael D. Dean
Senior Vice President - Finance
Principal Accounting Officer and
Duly Authorized Officer
EXHIBIT INDEX
Exhibit Index
11 Computation of Earnings per Share
27 Financial Data Schedule for the Nine Months Ending
September 30, 1998