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 March 31, 2006
--------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________________ to _______________
Commission file number 0 - 20957.
---------------------------------------------
SUN BANCORP, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
New Jersey 52-1382541
- --------------------------------------------- ----------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification)
226 Landis Avenue, Vineland, New Jersey 08360
---------------------------------------------
(Address of principal executive offices)
(Zip Code)
(856) 691 - 7700
----------------
(Registrant's telephone number, including area code)
______________________________________________________________________
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer" and "large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer Accelerated filer X Non-accelerated filer
--- --- ---
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12-b2 of the Exchange Act). Yes No X .
--- ---
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 practicable date.
$ 1.00 Par Value Common Stock 19,168,593 May 9, 2006
- --------------------------------------------------------------------------------
Class Number of shares outstanding Date
SUN BANCORP, INC.
INDEX
Page
----
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Unaudited Condensed Consolidated Statements of Financial Condition
at March 31, 2006 and December 31, 2005 3
Unaudited Condensed Consolidated Statements of Income
for the Three Months Ended March 31, 2006 and 2005 4
Unaudited Condensed Consolidated Statements of Shareholders' Equity
for the Three Months Ended March 31, 2006 and 2005 5
Unaudited Condensed Consolidated Statements of Cash Flows
for the Three Months Ended March 31, 2006 and 2005 6
Notes to Unaudited Condensed Consolidated Financial Statements 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 17
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK 24
ITEM 4. CONTROLS AND PROCEDURES 26
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 27
ITEM 1A. Risk Factors 27
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds 27
ITEM 3. Defaults upon Senior Securities 27
ITEM 4. Submission of Matters to a Vote of Security Holders 27
ITEM 5. Other Information 27
ITEM 6. Exhibits 28
SIGNATURES 29
CERTIFICATIONS 30
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Dollars in thousands, except par value amounts)
MARCH 31, DECEMBER 31,
2006 2005
---- ----
ASSETS
Cash and due from banks $ 75,539 $ 74,387
Interest-bearing bank balances 9,185 2,707
Federal funds sold 54,946 8,368
---------- ----------
Cash and cash equivalents 139,670 85,462
Investment securities available for sale (amortized cost -
$616,702; 3/06 and $688,073; 12/05) 605,704 676,630
Investment securities held to maturity (estimated fair value-
$29,475; 3/06 and $31,734; 12/05) 30,318 32,445
Loans receivable (net of allowance for loan losses -
$24,448; 3/06 and $22,463; 12/05) 2,190,182 2,027,753
Restricted equity investments 20,434 19,991
Bank properties and equipment, net 43,643 42,110
Real estate owned 1,600 1,449
Accrued interest receivable 16,215 15,148
Goodwill 128,311 104,891
Intangible assets, net 32,148 29,939
Deferred taxes, net 5,722 6,761
Bank owned life insurance 56,070 55,627
Other assets 15,781 9,683
---------- ----------
TOTAL $3,285,798 $3,107,889
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Deposits $2,603,040 $2,471,648
Advances from the Federal Home Loan Bank (FHLB) 119,382 124,546
Securities sold under agreements to repurchase - FHLB 70,000 60,000
Securities sold under agreements to repurchase - customers 42,236 59,021
Obligations under capital lease 5,367 5,400
Junior subordinated debentures 108,250 77,322
Other liabilities 16,168 14,299
---------- ----------
Total liabilities 2,964,443 2,812,236
---------- ----------
Commitments and contingencies
SHAREHOLDERS' EQUITY
Preferred stock, $1 par value, 1,000,000 shares authorized, none issued - -
Common stock, $1 par value, 25,000,000 shares authorized,
issued: 19,148,670; 3/06 and 18,168,530; 12/05 19,149 18,169
Additional paid-in capital 284,412 264,152
Retained earnings 24,930 20,757
Accumulated other comprehensive loss (7,136) (7,425)
---------- ----------
Total shareholders' equity 321,355 295,653
---------- ----------
TOTAL $3,285,798 $3,107,889
========== ==========
- --------------------------------------------------------------------------------
See notes to unaudited condensed consolidated financial statements.
3
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except per share amounts)
FOR THE THREE MONTHS
ENDED MARCH 31,
---------------
2006 2005
------- -------
INTEREST INCOME:
Interest and fees on loans $36,595 $29,076
Interest on taxable investment securities 5,577 6,128
Interest on non-taxable investment securities 256 468
Interest and dividends on restricted equity investments 314 188
Interest on federal funds sold 280 40
------- -------
Total interest income 43,022 35,900
------- -------
INTEREST EXPENSE:
Interest on deposits 13,647 8,124
Interest on short-term borrowed funds 3,044 2,422
Interest on junior subordinated debentures 1,910 1,126
------- -------
Total interest expense 18,601 11,672
------- -------
Net interest income 24,421 24,228
PROVISION FOR LOAN LOSSES 625 525
------- -------
Net interest income after provision for loan losses 23,796 23,703
------- -------
NON-INTEREST INCOME:
Service charges on deposit accounts 2,124 2,238
Other service charges 78 45
Gain on sale of bank properties and equipment - 100
Gain on sale of loans 284 341
Loss on sale of investment securities (20) -
Gain on derivative instruments 366 136
Other 1,564 1,325
------- -------
Total non-interest income 4,396 4,185
------- -------
NON-INTEREST EXPENSES:
Salaries and employee benefits 11,477 10,244
Occupancy expense 2,944 3,079
Equipment expense 1,927 1,978
Data processing expense 1,059 931
Amortization of intangible assets 1,188 1,147
Other 3,678 3,055
------- -------
Total non-interest expenses 22,273 20,434
------- -------
INCOME BEFORE INCOME TAXES 5,919 7,454
INCOME TAXES 1,746 2,341
------- -------
NET INCOME $ 4,173 $ 5,113
======= =======
Basic earnings per share $ 0.21 $ 0.27
======= =======
Diluted earnings per share $ 0.20 $ 0.25
======= =======
Weighted average shares - basic 19,783,965 18,910,956
========== ==========
Weighted average shares - diluted 21,012,311 20,339,634
========== ==========
- -----------------------------------------------------------------------
See notes to unaudited condensed consolidated financial statements.
4
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND MARCH 31, 2005
(In thousands)
ACCUMULATED
ADDITIONAL OTHER
COMMON PAID-IN RETAINED COMPREHENSIVE TREASURY
STOCK CAPITAL EARNINGS LOSS STOCK TOTAL
----- ------- -------- ---- ----- -----
BALANCE, JANUARY 1, 2006 $18,169 $264,152 $20,757 $(7,425) - $295,653
Other comprehensive income:
Net income - - 4,173 - - 4,173
Other comprehensive income - net change
in unrealized loss on securities
available for sale, net of tax of $156 - - - 289 - 289
--------
Comprehensive income - - - - - 4,462
--------
Exercise of stock options 133 896 - - - 1,029
Issuance of common stock 15 284 299
Common stock issued in acquisition 832 16,997 - - - 17,829
Stock options exchanged in acquisition - 1,954 - - - 1,954
Share-based compensation - 129 - - - 129
-------- -------- ------- -------- ---- --------
BALANCE, MARCH 31, 2006 $ 19,149 $284,412 $24,930 $ (7,136) - $321,355
======== ======== ======= ======== ==== ========
ACCUMULATED
ADDITIONAL OTHER
COMMON PAID-IN RETAINED COMPREHENSIVE TREASURY
STOCK CAPITAL EARNINGS LOSS STOCK TOTAL
----- ------- -------- ---- ----- -----
BALANCE, JANUARY 1, 2005 $17,205 $244,108 $21,718 $(2,765) $(1,046) $279,220
Comprehensive income:
Net income - - 5,113 - - 5,113
Net change in unrealized gain on
securities available for sale, net of
taxes of $1,587 - - - (3,310) - (3,310)
--------
Comprehensive income - - - - - 1,803
--------
Exercise of stock options 147 343 - - - 490
Issuance of common stock 8 166 - - - 174
Stock dividends 856 19,458 (20,314) - - -
------- -------- ------- -------- ------ --------
BALANCE, MARCH 31, 2005 $18,216 $264,075 $ 6,517 $(6,075) $(1,046) $281,687
======= ======== ======= ======== ====== ========
- --------------------------------------------------------------------------------
See notes to unaudited condensed consolidated financial statements.
5
SUN BANCORP, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
FOR THE THREE MONTHS
ENDED MARCH 31,
---------------------
2006 2005
OPERATING ACTIVITIES:
Net income $ 4,173 $ 5,113
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses 625 525
Depreciation and amortization 1,357 1,128
Net (accretion) amortization of investments securities (309) 248
Amortization of intangible assets 1,188 1,147
Write down of book value of fixed assets 6 24
Loss on sale of investment securities available for sale 20 -
Gain on sale of bank properties and equipment - (100)
Gain on sale of real estate owned (28) (198)
Gain on sale of loans (284) (341)
Increase in cash value of bank owned life insurance (BOLI) (443) (406)
Deferred income taxes (336) 85
Share-based compensation 129 13
Share contributed to employee benefit plans 139 -
Proceeds from the sale of loans 12,713 10,250
Originations of loans held for sale (14,093) (11,548)
Change in assets and liabilities which (used) provided cash:
Accrued interest receivable (311) (1,846)
Other assets (5,207) (1,102)
Other liabilities (356) (637)
-------- --------
Net cash (used in) provided by operating activities (1,017) 2,355
-------- --------
INVESTING ACTIVITIES:
Purchases of investment securities available for sale (4,803) (36,744)
Purchase of restricted equity securities (241) (1,252)
Proceeds from maturities, prepayments or calls of available for sale 98,226 78,808
Proceeds from maturities, prepayments or calls of held to maturity 2,107 -
Proceeds from sale of investment securities 10,786 -
Net increase in loans (39,094) (36,525)
Purchase of bank properties and equipment (878) (1,292)
Proceeds from the sale of bank properties and equipment - 100
Proceeds from sale of real estate owned 477 1,672
Net cash paid for bank acquisition (15,101) -
-------- --------
Net cash provided by investing activities 51,479 4,767
-------- --------
FINANCING ACTIVITIES:
Net decrease in deposits (16,622) (45,415)
Purchase price adjustment of branch assets purchased - 363
Net (repayments) borrowings under line of credit and repurchase agreements (11,982) 41,464
Excess tax benefit from share-based compensation 233 -
Proceeds from exercise of stock options 1,029 490
Proceeds from issuance of subordinated debt 30,928 -
Proceeds from issuance of common stock 160 174
-------- --------
Net cash provided by (used in) financing activities 3,746 (2,924)
-------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS 54,208 4,198
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 85,462 74,902
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $139,670 $ 79,100
======== ========
- --------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid $ 16,369 $ 10,681
Income taxes paid $ 928 $ 750
- --------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURE OF NON-CASH ITEMS
Transfer of loans to real estate owned $ 600 -
Net assets acquired and purchase adjustments in bank acquisition $ 34,884 -
Value of shares issued in bank acquisition $ 17,829 -
Fair value of options exchanged in bank acquisition $ 1,954 -
- --------------------------------------------------------------------------------
See notes to the unaudited condensed consolidated financial statements.
6
SUN BANCORP, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(All dollar amounts presented in the tables, except per share amounts, are in
thousands.)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF FINANCIAL STATEMENT PRESENTATION - The unaudited condensed
consolidated financial statements include the accounts of Sun Bancorp,
Inc. and its subsidiaries (the "Company"). Its principal wholly owned
subsidiary is Sun National Bank (the "Bank"). All significant
intercompany balances and transactions have been eliminated in
consolidation.
The accompanying unaudited condensed consolidated financial statements
were prepared in accordance with instructions to Form 10-Q, and
therefore, do not include information or footnotes necessary for a
complete presentation of financial position, results of operations,
changes in equity and cash flows in conformity with accounting
principles generally accepted in the United States of America. However,
all normal recurring adjustments that, in the opinion of management,
are necessary for a fair presentation of the consolidated financial
statements have been included. These financial statements should be
read in conjunction with the audited consolidated financial statements
and the accompanying notes thereto included in the Company's Annual
Report on Form 10-K for the period ended December 31, 2005. The results
for the three months ended March 31, 2006 are not necessarily
indicative of the results that may be expected for the fiscal year
ending December 31, 2006 or any other period.
RECLASSIFICATIONS - Certain items previously reported in the 2005
financial statements have been reclassified to conform to the current
presentation.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS - The
preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities, disclosure of
contingent assets and liabilities at the date of the financial
statements and the reported amounts of income and expenses during the
reporting period. The significant estimates include the allowance for
loan losses, goodwill, intangible assets, deferred tax asset valuation
allowance and derivative financial instruments. Actual results could
differ from those estimates.
STOCK DIVIDEND - On April 20, 2006, the Company's Board of Directors
declared a 5% stock dividend to be paid on May 18, 2006 to shareholders
of record on May 8, 2006. Accordingly, per share data have been
adjusted for all periods presented.
SHARE-BASED COMPENSATION - Stock based compensation is accounted for in
accordance with Statement of Financial Accounting Standards ("SFAS")
No. 123 (revised 2004), Share-Based Payment ("SFAS 123R"). The Company
adopted SFAS 123R on January 1, 2006. The Company establishes fair
value for its equity awards to determine its cost recognizes the
related expense over the appropriate vesting period using the
straight-line method. The grant date fair value is calculated using the
Black-Scholes option valuation model.
RECENT ACCOUNTING PRONOUNCEMENTS - In February 2006, the Financial
Accounting Standards Board (the "FASB") issued SFAS No. 155, Accounting
for Certain Hybrid Financial Instruments. This Statement amends SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities,
and SFAS No. 140, Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities. This Statement resolves
issues addressed in SFAS No. 133 Implementation Issue No. D1,
Application of Statement 133 to Beneficial Interest in Securitized
Financial Assets. This Statement is effective for all financial
instruments acquired or issued after the beginning of an entity's first
fiscal year that begins after September 15, 2006. The Company is still
continuing to evaluate the impact of this pronouncement and does not
expect that the guidance will have a material effect on the Company's
financial position or results of operations.
7
In March 2006, the FASB issued SFAS No. 156 Accounting for Servicing of
Financial Assets an amendment of FASB Statement No. 140 ("SFAS 140" and
"SFAS 156"). SFAS 140 establishes, among other things, the accounting
for all separately recognized servicing assets and servicing
liabilities. SFAS 156 amends SFAS 140 to require that all separately
recognized servicing assets and servicing liabilities be initially
measured at fair value, if practicable. This Statement permits, but
does not require, the subsequent measurement of separately recognized
servicing assets and servicing liabilities at fair value. Under this
Statement, an entity can elect subsequent fair value measurement to
account for its separately recognized servicing assets and servicing
liabilities. Adoption of this Statement is required as of the beginning
of the first fiscal year that begins after September 15, 2006. Upon
adoption, the Company will apply the requirements for recognition and
initial measurement of servicing assets and servicing liabilities
prospectively to all transactions. The Company will adopt SFAS 156 for
the fiscal year beginning January 1, 2007 and is evaluating the impact
of this pronouncement.
(2) SHARE-BASED COMPENSATION
During 2003, the Company adopted the prospective method for fair value
recognition of SFAS No. 123 for all options granted after January 1,
2003. Options granted prior to January 1, 2003 continued to be
accounted for under APB No. 25, and related interpretations. On January
1, 2006, the Company adopted SFAS 123R, using a modified prospective
application. Accordingly, prior period amounts have not been restated.
Upon adoption of SFAS 123R, the Company recognized through earnings,
the fair value of the remaining unvested portion of options granted
prior to January 1, 2003 that were accounted for under the provisions
of APB No. 25 in addition to options that were currently being expensed
under the provisions of SFAS 123. The following table further
illustrates the impact of implementing SFAS 123R on the Company.
FOR THE THREE MONTH
PERIOD ENDED
MARCH 31, 2006
-------------------
Share-based compensation calculated under the expensing provisions of
SFAS 123 (adopted prospectively January 1, 2003) $ 61
Incremental share-based compensation required under the expensing
provisions of SFAS 123R (unvested portion of options granted prior
to January 1, 2003) 68
----
Total share-based compensation (pre-tax) $129
====
The following table illustrates the effect on net income and earnings
per share if the Company had applied the fair value recognition
provisions of SFAS No. 123R for all periods presented using the
Black-Scholes option pricing model to stock-based employee
compensation.
FOR THE THREE
MONTHS ENDED
MARCH 31,
-------------------
2006 2005
---- ----
Reported net income available to shareholders $4,173 $5,113
Add: Total stock-based employee compensation
expense included in reported net income (net of
tax) 77 5
Deduct: Total stock-based employee compensation expense
determined under fair value method (net of tax) (77) (105)
------ ------
Pro forma net income available to shareholders $4,173 $5,013
====== ======
Earnings per share:
Basic - as reported $ 0.21 $ 0.27
Basic - pro forma $ 0.21 $ 0.27
Diluted - as reported $ 0.20 $ 0.25
Diluted - pro forma $ 0.20 $ 0.25
8
The purpose of the Company's stock-based incentive plans is to attract
and retain personnel for positions of substantial responsibility and to
provide additional incentive to certain officers, directors, advisory
directors, employees and other persons to promote the success of the
Company. Under the Company's Stock Plans, options expire ten years
after the date of grant, unless terminated earlier under the option
terms. A Committee of non-employee directors has the authority to
determine the conditions upon which the options granted will vest.
Options are granted at the then fair market value of the Company's
stock and typically will vest evenly over five years. The grant date
fair value is calculated using the Black-Scholes option valuation
model. The fair value of options granted after January 1, 2006 will be
expensed using the straight-line method as permitted by SFAS 123R.
A summary of award activity under the stock option plans as of March
31, 2006 and changes during the three month period is presented below:
WEIGHTED
NUMBER EXERCISE
OF OPTIONS PRICE OPTIONS
OUTSTANDING PER SHARE EXERCISABLE
----------- --------- -----------
January 1, 2006 3,325,152 $ 9.63 2,934,965
Granted 5,250 $ 19.32
Exercised (139,369) $ 9.52
Expired - -
Exchanged in Advantage acquisition 168,905 $ 7.76
---------
March 31, 2006 3,359,938 $ 9.64 2,964,502
=========
The weighted average remaining contractual term was approximately 4.2
years for options outstanding and 3.8 years for stock options
exercisable as of March 31, 2006.
As of March 31, 2006, there was $697,000 of total unrecognized
compensation cost related to nonvested options granted under the stock
option plans. That cost is expected to be recognized over a weighted
average period of 1.09 years.
The total intrinsic value (the excess of the market price over the
exercise price) was $30.3 million for stock options outstanding and
$28.0 million for stock options exercisable.
The amount of cash received from the exercise of stock options was
approximately $1.0 million and the total tax benefit for the three
months ended March 31, 2006 was approximately $233,000.
During the three months ended March 31, 2006, the Company granted 5,250
options to one employee. The fair value of the stock options granted
was estimated on the date of grant using the Black-Scholes option
valuation model that uses the assumptions noted in the following table.
The risk free rate of return is based on the U.S. Treasury yield curve
in effect at the time of grant. The expected life of the stock option
was estimated using the historical exercise behavior of employees at a
particular level of management who were granted options with a ten year
term. Stock options have historically been granted with this term, and
therefore information necessary to make this estimate was available.
The expected volatility was based on the historical volatility for a
period of three years ending on the date of grant. Utilizing a period
greater than this was not representative the Company's view of its
current stock volatility. There were no option grants during the first
quarter of 2005.
Fair value of options granted during the quarter $ 7.42
Risk free rate of return 4.45%
Expected option life in months 120
Expected volatility 30%
Expected dividends -
9
(3) ACQUISITION
On January 19, 2006, the Company acquired Advantage Bank ("Advantage").
The merger agreement permitted Advantage shareholders to elect to
receive either $19.00 in cash or .87 shares of Sun common stock subject
to adjustment or proration under certain circumstances. The merger
agreement also provided for an overall requirement that 50 percent of
the outstanding Advantage shares be exchanged for the Company's common
stock. Accordingly, the Company paid Advantage stockholders $17.3
million in cash and issued approximately 832,000 shares of the
Company's common stock. On the date of merger, Advantage's assets
totaled approximately $164 million, loan receivables, net of allowances
for loan losses, were approximately $124 million, investments
securities were approximately $29 million and total deposits were
approximately $148 million. The Company recorded $23.4 million in
goodwill and $3.4 million in intangible assets. Included in goodwill
was $1.9 million relating to the fair value of options exchanged.
(4) INVESTMENT SECURITIES
The amortized cost of investment securities and the approximate fair
value were as follows:
MARCH 31, 2006
------------------------------------------------------
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---- ----- ------ -----
Available for Sale
------------------
U.S. Treasury obligations $59,643 - $ (143) $ 59,500
U.S. Government agencies and
mortgage-backed securities 520,150 $ 2 (10,676) 509,476
State and municipal obligations 34,299 187 (368) 34,118
Other 2,610 - - 2,610
-------- ----- -------- --------
Total $616,702 $ 189 $(11,187) $605,704
======== ===== ======== ========
Held to Maturity
----------------
Mortgage-backed securities $ 30,318 - $ (843) $ 29,475
======== ===== ======== ========
DECEMBER 31, 2005
------------------------------------------------------
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---- ----- ------ -----
Available for Sale
------------------
U.S. Treasury obligations $ 59,237 - $ (145) $ 59,092
U.S. Government agencies and
mortgage-backed securities 596,823 - (11,142) 585,681
State and municipal obligations 28,050 $198 (354) 27,894
Other 3,963 - - 3,963
-------- ---- -------- --------
Total $688,073 $198 $(11,641) $676,630
======== ==== ======== ========
Held to Maturity
----------------
Mortgage-backed securities $ 32,445 - $ (711) $ 31,734
======== ==== ======== ========
10
The following table provides the gross unrealized losses and fair value,
aggregated by investment category and length of time the individual securities
have been in a continuous unrealized loss position at March 31, 2006 and 2005:
MARCH 31, 2006
-----------------------------------------------------------------------------------------
LESS THAN 12 MONTHS 12 MONTHS OR LONGER TOTAL
--------------------------- --------------------------- ---------------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
---------- ------ ---------- ------ ---------- ------
U.S. Treasury
obligations $49,494 $ (96) $ 10,006 $ (47) $ 59,500 $ (143)
U.S. Government
agencies and
mortgage-backed
securities 50,280 (557) 486,694 (10,962) 536,974 (11,519)
State and municipal
obligations 18,854 (151) 6,058 (217) 24,912 (368)
-------- ----- -------- -------- -------- --------
Total $118,628 $(804) $502,758 $(11,226) $621,386 $(12,030)
======== ===== ======== ======== ======== ========
DECEMBER 31, 2005
-----------------------------------------------------------------------------------------
LESS THAN 12 MONTHS 12 MONTHS OR LONGER TOTAL
--------------------------- --------------------------- ---------------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
---------- ------ ---------- ------ ---------- ------
U.S. Treasury
obligations $48,963 $ (35) $ 10,129 $ (110) $ 59,092 $ (145)
U.S. Government
agencies and
mortgage-backed
securities 102,670 (1,003) 514,745 (10,850) 617,415 (11,853)
State and municipal
obligations 15,975 (238) 3,381 (116) 19,356 (354)
-------- ------- -------- -------- -------- --------
Total $167,608 $(1,276) $528,255 $(11,076) $695,863 $(12,352)
======== ======= ======== ======== ======== ========
At March 31, 2006, 98.0% of the unrealized losses in the security
portfolio were comprised of securities issued by U.S. Government
agencies, U.S. Government sponsored agencies and other securities rated
investment grade by at least one bond credit rating service. The
Company believes that the price movements in these securities are
dependent upon the movement in market interest rates particularly given
the negligible inherent credit risk for these securities. At March 31,
2006, the unrealized loss in the category 12 months or longer of $11.2
million consisted of 88 securities having an aggregate unrealized loss
of 2.1%. The securities represented U.S. Treasury, Federal Agency
issues and nine securities currently rated Aaa by at least one bond
credit rating service. At March 31, 2006, securities in a gross
unrealized loss position for less than 12 months consisted of 66
securities having an aggregate unrealized loss of 0.7% from the Bank's
amortized cost basis.
11
(5) LOANS
The components of loans as of March 31, 2006 and December 31, 2005 were
as follows:
MARCH 31, 2006 DECEMBER 31, 2005
-------------- -----------------
Commercial and industrial $1,846,580 $1,732,202
Home equity 183,363 155,561
Second mortgages 72,344 53,881
Residential real estate 28,846 30,162
Other 83,497 78,410
---------- ----------
Total gross loans 2,214,630 2,050,216
Allowance for loan losses (24,448) (22,463)
---------- ----------
Net Loans $2,190,182 $2,027,753
---------- ----------
Non-accrual loans $ 11,049 $ 9,957
========== ==========
(6) ALLOWANCE FOR LOAN LOSSES
Changes in the allowance for loan losses were as follows:
FOR THE THREE MONTH
PERIOD ENDED FOR THE YEAR ENDED
MARCH 31, 2006 DECEMBER 31, 2005
-------------- -----------------
Balance, beginning of period $22,463 $22,037
Charge-offs (200) (2,641)
Recoveries 301 757
------- -------
Net recoveries (charge-offs) 101 (1,884)
Provision for loan losses 625 2,310
Purchased allowance from bank acquisition 1,259 -
------- -------
Balance, end of period $24,448 $22,463
======= =======
The provision for loan losses charged to expense is based upon past
loan loss experience and an evaluation of estimated losses in the
current loan portfolio, including the evaluation of impaired loans
under SFAS Nos. 114 and 118. A loan is considered to be impaired when,
based upon current information and events, it is probable that the
Company will be unable to collect all amounts due according to the
contractual terms of the loan.
An insignificant delay or insignificant shortfall in amount of payments
does not necessarily result in a loan being identified as impaired. For
this purpose, delays less than 90 days are considered to be
insignificant.
Impairment losses are included in the provision for loan losses. Large
groups of smaller balance, homogeneous loans are collectively evaluated
for impairment, except for those loans restructured under a troubled
debt restructuring. Loans collectively evaluated for impairment include
consumer loans and residential real estate loans, and are not included
in the data that follow:
12
MARCH 31, 2006 DECEMBER 31, 2005
-------------- -----------------
Impaired loans with related allowance for loan
losses calculated under SFAS No. 114 $ 8,175 $ 7,954
Impaired loans with no related allowance for loan
losses calculated under SFAS No. 114 11,258 10,061
------- -------
Total impaired loans $19,433 $18,015
======= =======
Valuation allowance related to impaired loans $ 2,713 $ 2,381
======= =======
FOR THE THREE FOR THE
MONTHS ENDED YEAR ENDED
MARCH 31, 2006 DECEMBER 31, 2005
-------------- -----------------
Average impaired loans $19,192 $31,181
======= =======
Interest income recognized on impaired loans $213 $994
==== ====
Cash basis interest income recognized on impaired loans $36 $494
=== ====
(7) REAL ESTATE OWNED
Real estate owned at March 31, 2006 and December 31, 2005 was as
follows:
MARCH 31, 2006 DECEMBER 31, 2005
-------------- -----------------
Commercial properties $1,000 $1,066
Residential properties 600 62
Bank properties - 321
------ ------
Total $1,600 $1,449
====== ======
(8) DEPOSITS
Deposits consist of the following major classifications:
MARCH 31, 2006 DECEMBER 31, 2005
-------------- -----------------
Demand deposits - interest bearing $ 861,467 $ 886,773
Demand deposits - non-interest bearing 505,111 529,878
Savings deposits 357,020 386,821
Time certificates under $100,000 556,322 443,535
Time certificates $100,000 or more 323,120 224,641
---------- ----------
Total $2,603,040 $2,471,648
========== ==========
13
(9) JUNIOR SUBORDINATED DEBENTURES HELD BY TRUSTS THAT ISSUED CAPITAL DEBT
The following is a summary of the outstanding capital securities issued
by each Issuer Trust and the junior subordinated debentures issued by
the Company to each Trust as of March 31, 2006:
Capital Securities Junior Subordinated Debentures
---------------------------------------------------------------------------------------------------
Stated Distribution Principal Redeemable
Issuer Trust Issuance Date Value Rate Amount Maturity Beginning
------------ ------------- ----- ---- ------ -------- ---------
6-mo LIBOR
Sun Trust III April 22, 2002 $ 20,000 plus 3.70% $ 20,619 April 22, 2032 April 22, 2007
3-mo LIBOR
Sun Trust IV July 7, 2002 10,000 plus 3.65% 10,310 October 7, 2032 July 7, 2007
3-mo LIBOR
Sun Trust V December 18, 2003 15,000 plus 2.80% 15,464 December 30, 2033 December 30, 2008
3-mo LIBOR
Sun Trust VI December 19, 2003 25,000 plus 2.80% 25,774 January 23, 2034 January 23, 2009
3-mo LIBOR
CBNJ Trust I December 19, 2002 5,000 plus 3.35% 5.155 January 7, 2033 January 7, 2008
Sun Trust VII January 17, 2006 30,000 6.24% Fixed 30,928 March 15, 2036 March 15, 2011
-------- --------
$105,000 $108,250
======== ========
While the capital securities are deconsolidated in accordance with
Generally Accepted Accounting Principles (GAAP), they continue to
qualify as Tier 1 capital under federal regulatory guidelines. In March
2005, the Federal Reserve amended its risk-based capital standards to
expressly allow the continued limited inclusion of outstanding and
prospective issuances of trust preferred securities in a bank holding
company's Tier 1 capital, subject to tightened quantitative limits. The
Federal Reserve's amended rule will, effective March 31, 2009, limit
capital securities and other restricted core capital elements to 25% of
all core capital elements, net of goodwill less any associated deferred
tax liability. Management has developed a capital plan for the Company
and the Bank that should allow the Company and the Bank to maintain
"well-capitalized" regulatory capital levels.
The Issuer Trusts are wholly owned unconsolidated subsidiaries of the
Company and have no independent operations. The obligations of Issuer
Trusts are fully and unconditionally guaranteed by the Company. The
debentures are unsecured and rank subordinate and junior in right of
payment to all indebtedness, liabilities and obligations of the
Company. Interest on the debentures is cumulative and payable in
arrears. Proceeds from any redemption of debentures would cause a
mandatory redemption of capital securities having an aggregate
liquidation amount equal to the principal amount of debentures
redeemed.
Sun Trust III variable annual rate will not exceed 11.00% through five
years from its issuance. Sun Trust IV variable annual rate will not
exceed 11.95% through five years from its issuance. Sun Trust V and Sun
Trust VI do not have interest rate caps. CBNJ Trust I was acquired in
the July 2004 acquisition of Community Bancorp of New Jersey. CBNJ
Trust I variable annual rate will not exceed 12.5% through five years
from its issuance. In January 2006, the Company issued an additional
$30.0 million of Trust Preferred Securities (Sun Trust VII) of which
the annual rate will be fixed at 6.24% until March 15, 2011. Of the
$30.0 million, approximately $17 million was used to fund the purchase
of Advantage with the remaining $13 million being used for general
corporate purposes.
(10) EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income, by the
weighted average number of shares of common stock net of treasury
shares outstanding during the period. Diluted earnings per share is
calculated by dividing net income by the weighted average number of
shares of common
14
stock net of treasury shares outstanding increased by the weighted
average dilutive common stock options outstanding reduced by the
number of common shares that are assumed to have been purchased by the
Company with the proceeds from the exercise of the options (treasury
stock method) along with the assumed tax benefit from the exercise of
non-qualified options. These purchases were assumed to have been made
at the average market price of the common stock, which is based on the
daily closing price. Retroactive recognition has been given to market
values, common stock outstanding and potential common shares for
periods prior to the date of the Company's stock dividends.
Earnings per share for the periods presented are as follows:
FOR THE
THREE MONTHS
ENDED MARCH 31,
-----------------
2006 2005
---- ----
Net income $4,173 $5,113
Dilutive stock options outstanding 3,280,260 3,390,294
Average exercise price per share $9.07 $8.85
Average market price $18.92 $21.56
Average common shares outstanding 19,783,965 18,910,956
Increase in shares due to exercise of
options - diluted basis 1,228,346 1,428,678
---------- ----------
Adjusted shares outstanding - diluted 21,012,311 20,339,634
========== ==========
Net earnings per share - basic $0.21 $0.27
Net earnings per share - diluted $0.20 $0.25
Options that could potentially dilute basic EPS
in the future that were not included in the
computation of diluted EPS because to do so
would have been antidilutive for the period
presented 157,445 2,881
========== ==========
(11) DERIVATIVE FINANCIAL INSTRUMENTS.
The Company utilizes certain derivative financial instruments to
enhance its ability to manage interest rate risk that exists as part
of its ongoing business operations. As of March 31, 2006, derivative
financial instruments have been entered into to hedge the interest
rate risk associated with certain fixed rate commercial loans. In
general, the derivative transactions fall into one of two types, a
bank hedge of a specific fixed rate loan or a hedged derivative
offering to a Bank customer. In those transactions in which the Bank
hedges a specific fixed rate loan, the derivative is executed for
periods that match the related underlying exposures and do not
constitute positions independent of these exposures. For derivatives
offered to Bank customers, the economic risk of the customer
transaction is offset by a mirror position with a non-affiliated third
party.
As noted above, the Company currently utilizes interest rate swaps to
hedge specified assets. The Company does not use derivative financial
instruments for trading or speculative purposes. Interest rate swaps
were entered into as fair value hedges for the purpose of modifying
the interest rate characteristics of certain commercial loans. The
interest rate swaps involve no exchange of principal either at
inception or upon maturity; rather, it involves the periodic exchange
of interest payments arising from an underlying notional value.
Financial derivatives involve, to varying degrees, interest rate,
market and credit risk. The Company manages these risks as part of its
asset and liability management process and through credit policies
15
and procedures. The Company seeks to minimize counterparty credit risk
by establishing credit limits, and generally requiring bilateral
netting and collateral agreements.
For those derivative instruments that are designated and qualify as
hedging instruments, the Company must designate the hedging
instrument, based on the exposure being hedged, as either a fair value
hedge, a cash flow hedge or a hedge of a net investment in a foreign
operation. Currently, the Company only participates in fair value
hedges.
FAIR VALUE HEDGES - INTEREST RATE SWAPS
The Company has entered into interest rate swap arrangements to
exchange the payments on fixed rate commercial loan receivables for
variable rate payments based on LIBOR. The interest rate swaps involve
no exchange of principal either at inception or maturity and have
maturities and call options identical to the fixed rate loan
agreements. The arrangements have been designated as fair value
hedges. The swaps are carried at their fair value and the carrying
amount of the commercial loans includes the net change in their fair
values since the inception of the hedge. Because the hedging
arrangement is considered highly effective, changes in the fair value
of interest rate swaps exactly offset the corresponding changes in the
fair value of the commercial loans and, as a result, the changes in
fair value do not result in an impact on net income.
Information pertaining to outstanding interest rate swap agreements
was as follows:
March 31,
-----------------------------
2006 2005
---- ----
Notional amount $40,226 $27,356
Weighted average pay rate 6.59% 6.05%
Weighted average receive rate 6.60% 5.18%
Weighted average maturity in years 7.1 7.6
Unrealized gain relating to interest rate swaps $ 1,353 $ 237
CUSTOMER DERIVATIVES
The Company entered into several commercial loan swaps in order to
provide commercial loan clients the ability to swap from variable to
fixed interest rates. Under these agreements, the Company enters into
a variable rate loan agreement with a client in addition to a swap
agreement. This swap agreement effectively swaps the client's variable
rate loan into a fixed rate loan. The Company then enters into a
corresponding swap agreement with a third party in order to swap its
exposure on the variable to fixed rate swap on the commercial loan. At
March 31, 2006 and 2005, the notional amount of such arrangements was
$393.9 million and $51.6 million, respectively. As the interest rate
swaps with the clients and third parties are not designated as hedges
under SFAS No. 133, the instruments are marked to market in earnings.
As the interest rate swaps are structured to offset each other,
changes in market values will have no net earnings impact.
16
THE COMPANY MAY FROM TIME TO TIME MAKE WRITTEN OR ORAL "FORWARD-LOOKING
STATEMENTS," INCLUDING STATEMENTS CONTAINED IN THE COMPANY'S FILINGS WITH THE
SECURITIES AND EXCHANGE COMMISSION (INCLUDING THIS QUARTERLY REPORT ON FORM 10-Q
AND THE EXHIBITS THERETO), IN ITS REPORTS TO SHAREHOLDERS AND IN OTHER
COMMUNICATIONS BY THE COMPANY, WHICH ARE MADE IN GOOD FAITH BY THE COMPANY
PURSUANT TO THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995.
THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES, SUCH AS
STATEMENTS OF THE COMPANY'S PLANS, OBJECTIVES, EXPECTATIONS, ESTIMATES AND
INTENTIONS, THAT ARE SUBJECT TO CHANGE BASED ON VARIOUS IMPORTANT FACTORS (SOME
OF WHICH ARE BEYOND THE COMPANY'S CONTROL). THE FOLLOWING FACTORS, AMONG OTHERS,
COULD CAUSE THE COMPANY'S FINANCIAL PERFORMANCE TO DIFFER MATERIALLY FROM THE
PLANS, OBJECTIVES, EXPECTATIONS, ESTIMATES AND INTENTIONS EXPRESSED IN SUCH
FORWARD-LOOKING STATEMENTS: THE STRENGTH OF THE UNITED STATES ECONOMY IN GENERAL
AND THE STRENGTH OF THE LOCAL ECONOMIES IN WHICH THE COMPANY CONDUCTS
OPERATIONS; THE EFFECTS OF, AND CHANGES IN, TRADE, MONETARY AND FISCAL POLICIES
AND LAWS, INCLUDING INTEREST RATE POLICIES OF THE BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM, INFLATION, INTEREST RATE, MARKET AND MONETARY
FLUCTUATIONS; THE TIMELY DEVELOPMENT OF AND ACCEPTANCE OF NEW PRODUCTS AND
SERVICES OF THE COMPANY AND THE PERCEIVED OVERALL VALUE OF THESE PRODUCTS AND
SERVICES BY USERS, INCLUDING THE FEATURES, PRICING AND QUALITY COMPARED TO
COMPETITORS' PRODUCTS AND SERVICES; THE IMPACT OF CHANGES IN FINANCIAL SERVICES'
LAWS AND REGULATIONS (INCLUDING LAWS CONCERNING TAXES, BANKING, RISK-BASED
CAPITAL GUIDELINES AND REPORTING INSTRUCTIONS, SECURITIES AND INSURANCE);
TECHNOLOGICAL CHANGES; ACQUISITIONS; CHANGES IN CONSUMER SPENDING AND SAVING
HABITS; AND THE SUCCESS OF THE COMPANY AT MANAGING THE RISKS INVOLVED IN THE
FOREGOING.
THE COMPANY CAUTIONS THAT THE FOREGOING LIST OF IMPORTANT FACTORS IS NOT
EXCLUSIVE. THE COMPANY DOES NOT UNDERTAKE TO UPDATE ANY FORWARD-LOOKING
STATEMENT, WHETHER WRITTEN OR ORAL, THAT MAY BE MADE FROM TIME TO TIME BY OR ON
BEHALF OF THE COMPANY.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(All dollar amounts presented in the tables, except per share amounts, are in
thousands.)
CRITICAL ACCOUNTING POLICIES, JUDGMENTS AND ESTIMATES
The discussion and analysis of the financial condition and results of
operations are based on the unaudited condensed consolidated financial
statements, which are prepared in conformity with accounting principles
generally accepted in the United States of America. The preparation of these
financial statements requires management to make estimates and assumptions
affecting the reported amounts of assets, liabilities, revenue and expenses.
Management evaluates these estimates and assumptions on an ongoing basis,
including those described below. Management bases its estimates on historical
experience and various other factors and assumptions that are believed to be
reasonable under the circumstances. These form the bases for making judgments on
the carrying value of assets and liabilities that are not readily apparent from
other sources. Actual results may differ from these estimates under different
assumptions or conditions.
ALLOWANCE FOR LOAN LOSSES. Through the Bank, the Company originates loans
that it intends to hold for the foreseeable future or until maturity or
repayment. The Bank may not be able to collect all principal and interest due on
these loans. Allowance for loan losses represents management's estimate of
probable credit losses inherent in the loan portfolio as of the balance sheet
date. The determination of the allowance for loan losses requires management to
make significant estimates with respect to the amounts and timing of losses and
market and economic conditions. The allowance for loan losses is maintained at a
level that management considers adequate to provide for estimated losses and
impairment based upon an evaluation of known and inherent risk in the loan
portfolio. Loan impairment is evaluated based on the fair value of collateral or
estimated net realizable value. A provision for loan losses is charged to
operations based on management's evaluation of the estimated losses that have
been incurred in the Company's loan portfolio. It is the policy of management to
provide for losses on unidentified loans in its portfolio in addition to
classified loans.
Management monitors its allowance for loan losses on a quarterly basis and
makes adjustments to the allowance through the provision for loan losses as
economic conditions and other pertinent factors indicate. In this context, a
series of qualitative factors are used in a methodology as the Company's
measurement of how current circumstances are affecting the loan portfolio.
Included in these qualitative factors are:
o Levels of past due, classified and non-accrual loans, troubled debt
restructurings and modifications
o Nature and volume of loans
o Changes in lending policies and procedures, underwriting standards,
collections, charge offs and recoveries
o National and local economic and business conditions, including various
market segments
o Concentrations of credit and changes in levels of such concentrations
o Effect of external factors on the level of estimated credit losses in the
current portfolio.
Additionally, historic loss experience over the trailing eight quarters is
taken into account. In determining the allowance for loan losses, management has
established both specific and general pooled allowances. Values assigned to the
qualitative factors and those developed from historic loss experience provide a
dynamic basis for the calculation of reserve factors for both pass-rated loans
(general pooled allowance) and those criticized and classified loans without
SFAS No. 114 reserves (specific allowance). The amount of the specific allowance
is determined through a loan-by-loan analysis of certain large dollar commercial
loans. Loans not individually reviewed are evaluated as a group using reserve
factor percentages based on historic loss experience and the qualitative factors
described above. In determining the appropriate level of the general pooled
allowance, management makes estimates based on internal risk ratings, which take
into account such factors as debt service coverage, loan to value ratios, and
external factors. Estimates are periodically measured against actual loss
experience.
As changes in the Company's operating environment occur and as recent loss
experience ebbs and flows, the factors for each category of loan based on type
and risk rating will change to reflect current circumstances and the quality of
the loan portfolio.
18
Although the Company maintains its allowance for loan losses at levels
considered adequate to provide for the inherent risk of loss in its loan
portfolio, if economic conditions differ substantially from the assumptions used
in making the evaluations there can be no assurance that future losses will not
exceed estimated amounts or that additional provisions for loan losses will not
be required in future periods. Accordingly, a decline in the national economy or
the local economies of the areas in which the loans are concentrated could
result in an increase in loan delinquencies, foreclosures or repossessions
resulting in increased charge-off amounts and the need for additional loan loss
allowances in future periods. In addition, the Company's determination as to the
amount of its allowance for loan losses is subject to review by its primary
regulator, the OCC, as part of its examination process. This may result in the
establishment of an additional allowance based upon the judgment of the OCC
after a review of the information available at the time of the OCC examination.
ACCOUNTING FOR INCOME TAXES. The Company accounts for income taxes in
accordance with SFAS No. 109, which requires the recording of deferred income
taxes that reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting purposes and
the amounts used for income tax purposes. Management exercises significant
judgment in the evaluation of the amount and timing of the recognition of the
resulting tax assets and liabilities. The judgments and estimates required for
the evaluation are updated based upon changes in business factors and the tax
laws.
VALUATION OF GOODWILL. The Company assesses the impairment of goodwill at
least annually and whenever events or significant changes in circumstance
indicate that the carrying value may not be recoverable. Factors that the
Company considers important in determining whether to perform an impairment
review include significant under-performance relative to forecasted operating
results and significant negative industry or economic trends. If the Company
determines that the carrying value of goodwill may not be recoverable, then the
Company will assess impairment based on a projection of future cash flows and
measure the amount of impairment based on fair value.
SHARE-BASED COMPENSATION. The Company accounts for stock based compensation
in accordance with the fair value recognition provisions of SFAS 123R. Under the
fair value provisions of SFAS 123R, stock based compensation cost is measured at
the grant date based on the value of the award and is recognized as expense over
the appropriate vesting period. Determining the fair value of stock based awards
at grant date requires judgment, including estimating the expected term of the
stock options and the expected volatility of the Company's stock. In addition,
judgment is required in estimating the amount of stock based awards that are
expected to be forfeited. If actual results differ significantly from these
estimates or different key assumptions were used, it could have a material
effect on the Company's Consolidated Financial Statements. See Note 2 of the
Notes to the Unaudited Condensed Consolidated Financial Statements for
additional information regarding stock based compensation expense.
FINANCIAL CONDITION
Total assets increased $177.9 million or 5.7% from $3.11 billion at
December 31, 2005 to $3.29 billion at March 31, 2006. Cash and cash equivalents
increased $54.2 million, net loans receivable increased $162.4 million and
investment securities available for sale decreased $70.9 million. On January 19,
2006, the Company acquired Advantage Bank. On the date of merger, Advantage's
assets totaled approximately $164 million, loan receivables, net of allowances
for loan losses, were approximately $124 million, investments securities were
approximately $29 million and total deposits were approximately $148 million.
The Company recorded $23.4 million in goodwill and $3.4 million in intangible
assets. Included in goodwill was $1.9 million relating to the fair value of
stock options exchanged.
Investment securities available for sale decreased $70.9 million or 10.5%,
from $676.6 million at December 31, 2005 to $605.7 million at March 31, 2006.
The decrease was primarily the result of the planned reduction of investment
securities through normal maturities, calls or principle repayments with the
proceeds used to supplement loan funding. This reduction of investment
securities is expected to continue during 2006 to further supplement the Bank's
loan portfolio growth.
Net loans receivable at March 31, 2006 were $2.19 billion, an increase of
$162.4 million from $2.03 billion at December 31, 2005. During the quarter, the
Company acquired approximately $124 million in loans as a result of the
Advantage acquisition and experienced approximately $41 million in prepayments.
19
First quarter 2006 loan growth adjusted for the acquisition and prepayments was
approximately 3.6%. The ratio of allowance for loan losses to total loans was
1.10% at March 31, 2006 compared to 1.10% at December 31, 2005.
Non-performing loans were $11.4 million at March 31, 2006 compared to $10.1
million at December 31, 2005. The ratio of allowance for loan losses to total
non-performing loans was 214.5% at March 31, 2006 compared to 223.0% at December
31, 2005. Non-performing assets were $13.0 million at March 31, 2006 compared to
$11.6 million at December 31, 2005. The ratio of non-performing assets to total
loans and real estate owned was 0.59% at March 31, 2006 compared to 0.56% at
December 31, 2005.
Other assets increased $6.1 million from $9.7 million at December 31, 2005,
to $15.8 million at March 31, 2006. The increase is primarily the result of a
commitment to purchase $5.4 million of when-issued investment securities. These
securities settled in April 2006.
Total deposits were $2.60 billion at March 31, 2006, reflecting a $131.4
million increase from December 31, 2005. During the quarter, the Company
acquired approximately $148 million in deposits as a result of the Advantage
acquisition. Core deposits represented 66.2% and 73.0% of total deposits at
March 31, 2006 and December 31, 2005, respectively.
Total shareholders' equity increased $25.7 million, from $295.7 million at
December 31, 2005, to $321.4 million at March 31, 2006. The increase was
primarily the result of net income amounting to $4.2 million, and the
acquisition of Advantage which increased equity by $19.8 million.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity management is a daily and long-term business function. The
Company's liquidity, represented in part by cash and cash equivalents, is a
product of its operating, investing and financing activities. Proceeds from
repayment and maturities of loans, sales and maturities of investment
securities, net income and increases in deposits and borrowings are the primary
sources of liquidity of the Company.
The Company anticipates that cash and cash equivalents on hand, the cash
flow from assets as well as other sources of funds will provide adequate
liquidity for the Company's future operating, investing and financing needs. In
addition to cash and cash equivalents of $139.7 million at March 31, 2006, the
Company had additional secured borrowing capacity with the FHLB of approximately
$124.1 million and other sources of approximately $49 million.
A major source of the Company's funding is deposits, which management
believes will be sufficient to meet the Company's long-term daily operating
liquidity needs. The ability of the Company to retain and attract new deposits
is dependent upon the variety and effectiveness of its customer account
products, customer service and convenience, and rates paid to customers. The
Company also obtains funds from the repayment and maturities of loans as well as
sales and maturities of investment securities. Additional funds can be obtained
from a variety of sources including federal funds purchased, securities sold
under agreements to repurchase, FHLB advances, loan sales or participations and
other secured and unsecured borrowings. It is anticipated that FHLB advances and
securities sold under agreements to repurchase will be secondary sources of
funding, and management expects there to be adequate collateral for such funding
requirements.
The Company's primary uses of funds are the origination of loans, the
funding of the Company's maturing certificates of deposit, deposit withdrawals
and the repayment of borrowings. Certificates of deposit scheduled to mature
during the 12 months ending March 31, 2007 total $598.9 million. The Company
will continue to price certificates of deposit for retention as well as provide
fixed rate funding in the expected rising rate environment. However, based on
market conditions and other liquidity considerations, it may also avail itself
of the secondary borrowings discussed above.
During the three months ended March 31, 2006, net loans grew approximately
$162.4 million or 8.0% of which approximately $124 million is attributable to
the Advantage acquisition. The Company anticipates that cash and cash
equivalents on hand, the cash flow from assets, particularly investment
securities, as well as other sources of funds will provide adequate liquidity
for the Company's future operating, investing and financing needs. In addition
to cash and cash equivalents of $139.7 million at March 31, 2006, the Company's
estimated cash flow from securities with maturities of less than one year and
principal payments from mortgage-backed securities over the next twelve months
totaled $317.1 million. In addition, the FHLB provides a reliable source of
funds with a wide variety of terms and structures. Management will continue to
monitor the Company's liquidity and maintain it at a level deemed adequate but
not excessive.
20
Management has developed a capital plan for the Company and the Bank that
should allow the Company and the Bank to grow capital internally at levels
sufficient for achieving its internal growth projections while managing its
operating and financial risks. The Company has also considered a contingent
capital plan, and when appropriate, the Company's Board of Directors may
consider various capital raising alternatives. The principle components of the
capital plan are to generate additional capital through retained earnings from
internal growth, access the capital markets for external sources of capital,
such as common equity and trust preferred securities, when necessary or
appropriate, redeem existing capital instruments and refinance such instruments
at lower rates when conditions permit and maintain sufficient capital for safe
and sound operations. The capital plan is not expected to have a material impact
on the Company's liquidity. It is the Company's intention to maintain
"well-capitalized" risk-based capital levels.
While the capital securities are deconsolidated in accordance with GAAP,
they continue to qualify as Tier 1 capital under federal regulatory guidelines.
In March 2005, the Federal Reserve amended its risk-based capital standards to
expressly allow the continued limited inclusion of outstanding and prospective
issuances of trust preferred securities in a bank holding company's Tier 1
capital, subject to tightened quantitative limits. The Federal Reserve's amended
rule, effective March 31, 2009, will limit capital securities and other
restricted core capital elements to 25% of all core capital elements, net of
goodwill less any associated deferred tax liability.
As part of its capital plan, the Company, through its deconsolidated trust
subsidiaries, issued trust preferred securities that qualify as Tier 1 or core
capital of the Company, subject to a 25% capital limitation under risk-based
capital guidelines developed by the Federal Reserve Board. The portion that
exceeds the 25% capital limitation qualifies as Tier 2, or supplementary capital
of the Company. At March 31, 2006, the full amount of the Company's $105.0
million in trust preferred securities qualify as Tier 1.
DISCLOSURES ABOUT COMMERCIAL COMMITMENTS
Standby letters of credit are conditional commitments issued by the Company
to guarantee the performance of a customer to a third party. The guarantees are
primarily issued to support private borrowing arrangements. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers. In the event of a draw by the
beneficiary that complies with the terms of the letter of credit, the Company
would be required to honor the commitment. The Company takes various forms of
collateral, such as real estate assets and customer business assets to secure
the commitment. Additionally, all letters of credit are supported by
indemnification agreements executed by the customer. The maximum undiscounted
exposure related to these commitments at March 31, 2006 was $64.2 million, and
the portion of the exposure not covered by collateral was approximately $17.2
million. The Company believes that the utilization rate of these letters of
credit will continue to be substantially less than the amount of these
commitments, as has been the Company's experience to date.
COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND
2005
OVERVIEW. Net income for the first quarter of 2006 was $4.2 million or
$0.20 per diluted share, down from $5.1 million or $0.25 per diluted share in
the first quarter of 2005. Despite an increase in average interest-earning
assets of $137.5 million or 5.0%, net interest income grew slightly to $24.6
million at March 31, 2006 from $24.5 million at March 31, 2005. Net interest
margin continues to be impacted by the flattening yield curve resulting in a
margin decline of 15 basis points over the comparable period. The Company's
first quarter results were also impacted by an increase in non-interest expenses
of $1.8 million offset by an increase in non-interest income of $211,000 and a
decrease in income taxes of $595,000.
NET INTEREST INCOME. Net interest income (on a tax-equivalent basis)
increased $90,000, or 0.4% to $24.6 million for the three months ended March 31,
2006 from $24.5 million for the same period in 2005. Net interest income (on a
tax-equivalent basis) increased $1.9 million due to volume, the majority of
which was due to an increase of $137.5 million in the average balance of
interest-earning assets offset by a $123.8 million increase in interest-bearing
liabilities. The rate component offset the $1.9 million volume related increase
by $1.8 million. This was due to an increase of 105 basis points in the average
cost of interest-bearing liabilities or $5.6 million offset by an increase of 72
basis points in the average yield on interest-earning assets or $3.8 million.
The interest rate spread and margin (on a tax-equivalent basis) for the
three months ended March 31, 2006 was 2.87% and 3.40%, respectively, compared to
3.20% and 3.55%, respectively, for the same
21
period in 2005. The yield on average interest-earning assets increased 72 basis
points from 5.25% for the three months ended March 31, 2005 to 5.97% for the
same period in 2006, while the cost of funds on average interest-bearing
liabilities increased 105 basis points from 2.05% for the three months ended
March 31, 2005 to 3.10% for the same period in 2006. The decrease in interest
rate spread reflects the impact of the continued market competitiveness for both
loans and deposits and the flat yield curve.
22
The following table sets forth a summary of average balances with
corresponding interest income (on a tax-equivalent basis) and interest expense
as well as average yield and cost information for the periods presented. Average
balances are derived from daily balances.
AT OR FOR THE THREE MONTHS AT OR FOR THE THREE MONTHS
ENDED ENDED
MARCH 31, 2006 MARCH 31, 2005
------------------------------- -------------------------------
AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE INTEREST YIELD/COST BALANCE INTEREST YIELD/COST
------- ------------------- ------- -------------------
Interest-earning assets:
Loans receivable (1), (2):
Commercial and industrial $1,811,832 $30,594 6.75% $1,617,334 $25,135 6.22%
Home equity 170,523 2,743 6.43 126,069 1,499 4.76
Second mortgage 66,426 998 6.01 49,210 756 6.15
Residential real estate 29,472 623 8.45 26,241 475 7.24
Other 82,450 1,637 7.94 67,606 1,211 7.17
---------- ------- ---------- -------
Total loans receivable 2,160,703 36,595 6.77 1,886,460 29,076 6.17
Investment securities (3) 693,637 6,139 3.54 855,347 6,993 3.27
Interest-bearing deposit with banks 12,372 145 4.69 6,428 31 1.93
Federal funds sold 25,735 280 4.35 6,666 40 2.40
---------- ------- ---------- -------
Total interest-earning assets 2,892,447 43,159 5.97 2,754,901 36,140 5.25
---------- ------- ---------- -------
Cash and due from banks 80,098 78,500
Bank properties and equipment 43,308 36,792
Goodwill and intangible assets 151,678 134,789
Other assets 58,289 53,663
Non-interest-earning assets 333,373 303,744
---------- ----------
Total assets $3,225,820 $3,058,645
========== ==========
Interest-bearing liabilities:
Interest-bearing deposit accounts:
Interest-bearing demand deposits $ 882,548 5,344 2.42% $ 804,275 2,708 1.35%
Savings deposits 372,757 1,366 1.47 442,588 1,121 1.01
Time deposits 781,604 6,937 3.55 653,212 4,295 2.63
---------- ------- ---------- -------
Total interest-bearing deposit
accounts 2,036,909 13,647 2.68 1,900,075 8,124 1.71
---------- ------- ---------- -------
Borrowed money:
Federal funds purchased 4,483 53 4.73 9,587 68 2.84
Securities sold under agreements to
repurchase 42,219 405 3.84 69,793 320 1.83
FHLB advances 207,901 2,357 4.53 219,130 2,034 3.71
Junior subordinated debentures 102,752 1,910 7.44 77,322 1,126 5.82
Obligations under capital lease 5,399 229 7.27 - - -
---------- ------- ---------- -------
Total borrowings 362,754 4,954 5.46 375,832 3,548 3.78
---------- ------- ---------- -------
Total interest-bearing liabilities 2,399,663 18,601 3.10 2,275,907 11,672 2.05
---------- ------- ---------- -------
Non-interest-bearing demand deposits 496,249 487,915
Other liabilities 17,480 13,316
---------- ----------
Non-interest-bearing liabilities 513,729 501,231
---------- ----------
Total liabilities 2,913,392 2,777,138
Shareholders' equity 312,428 281,507
---------- ----------
Total liabilities and shareholders'
equity $3,225,820 $3,058,645
========== ==========
Net interest income $24,558 $24,468
======= =======
Interest rate spread (4) 2.87% 3.20%
====== ======
Net interest margin (5) 3.40% 3.55%
====== ======
Ratio of average interest-earning assets to
average interest-bearing liabilities 120.54% 121.05%
====== ======
<FN>
- --------------------------------------------------------------------------------------------------------------
(1) Average balances include non-accrual loans.
(2) Loan fees are included in interest income and the amount is not material
for this analysis.
(3) Interest earned on non-taxable investment securities is shown on a tax
equivalent basis assuming a 35% marginal federal tax rate for all periods.
(4) Interest rate spread represents the difference between the average yield on
interest-earning assets and the average cost of interest-bearing
liabilities.
(5) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
</FN>
23
The table below sets forth certain information regarding changes in interest
income and interest expense of the Company for the periods indicated. For each
category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume
(changes in average volume multiplied by old rate) and (ii) changes in rate
(changes in rate multiplied by old average volume). The combined effect of
changes in both volume and rate has been allocated to volume or rate changes in
proportion to the absolute dollar amounts of the change in each.
THREE MONTHS ENDED MARCH 31,
2006 VS. 2005
-----------------------------------
INCREASE (DECREASE)
DUE TO
-----------------------------------
VOLUME RATE NET
------ ---- ---
Interest income
Loans receivable:
Commercial and industrial $3,175 $ 2,284 $5,459
Home equity 624 620 1,244
Second mortgage 259 (17) 242
Residential real estate 63 85 148
Other 286 140 426
------ ------- -----
Total loans receivable 4,407 3,112 7,519
Investment securities (1,398) 544 (854)
Interest-bearing deposits accounts 45 69 114
Federal funds sold 187 53 240
------ ------- ------
Total interest-earning assets $3,241 $ 3,778 $7,019
Interest expense
Interest-bearing deposit accounts:
Interest-bearing demand deposit $ 286 $ 2,350 $2,636
Savings deposits (197) 442 245
Time deposits 950 1,692 2,642
------ ------- ------
Total interest-bearing deposit accounts 1,039 4,484 5,523
Borrowed money:
Federal funds purchased (47) 32 (15)
Securities sold under agreements to
repurchase (163) 248 85
FHLB advances (109) 432 323
Junior Subordinated Debentures 426 358 784
Obligations under capital lease 229 - 229
------ ------- ------
Total borrowed money 336 1,070 1,406
Total interest-bearing liabilities 1,375 5,554 6,929
------ ------- ------
Net change in net interest income $1,866 $(1,776) $ 90
====== ======= ======
Interest income (on a tax-equivalent basis) increased by $7.1 million, to
$43.2 million for the three months ended March 31, 2006 from $36.1 million for
the same period in 2005. The increase in interest income was due to an increase
in interest rates, which increased the yield on average interest-earning assets
by 72 basis points, or $3.8 million, and a 5.0% increase in the average balance
of interest-earning assets which produced an increase in interest income of $3.2
million.
Interest expense increased $6.9 million, or 59.0%, to $18.6 million for the
three months ended March 31, 2006 compared to $11.7 million for the same period
in 2005. The increase in interest expense was due to an increase in interest
rates, which increased the cost of average interest-bearing liabilities by 105
basis points, or $5.6 million, and a 5.4% increase in the average balance of
interest-bearing liabilities which produced an increase in interest expense of
$1.4 million.
24
PROVISION FOR LOAN LOSSES. For the three months ended March 31, 2006, the
provision for loan losses was $625,000, compared to $525,000 for the same period
in 2005. The Company focuses on its loan portfolio management and credit review
process to address the current risk profile of the portfolio and manage troubled
credits. This analysis includes evaluations of concentrations of credit, past
loss experience, current economic conditions, amount and composition of the loan
portfolio, estimated fair value of underlying collateral, loan commitments
outstanding, delinquencies and other factors.
NON-INTEREST INCOME. Non-interest income increased $211,000 or 5.0% for the
three-month period ended March 31, 2006 compared to the three-month period ended
March 31, 2005. This increase was primarily the result of an increase of
$230,000 in income earned on commercial loan derivative products, a $103,000
increase on third-party investment and advisory services, an increase in
interchange fees of $70,000 and an increase of $40,000 in BOLI investment
income. Offsetting these increases were decreases in service charges on deposit
accounts and gains of sale of fixed assets of $114,000 and $100,000,
respectively.
NON-INTEREST EXPENSES. Non-interest expenses increased $1.8 million or 9.0%
for the three-month period ended March 31, 2006 compared to the three-month
period ended March 31, 2005. Of the $1.8 million increase, approximately
$590,000 was attributable to the Advantage acquisition. The increase from the
comparable quarter was primarily the result of an increase of $1.2 million in
salaries, an increase in advertising of $193,000 and a decrease in gain on sale
of other real estate owned of $170,000.
INCOME TAXES. Income taxes decreased $595,000 for the three months ended
March 31, 2006 as compared to the same period in 2005. The decrease resulted
from lower pre-tax earnings and a decrease in the Company's effective tax rate
from 31.4% at March 31, 2005 to 29.5% at March 31, 2006.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ASSET AND LIABILITY MANAGEMENT
Interest rate, credit and operational risks are among the most significant
market risks impacting the performance of the Company. Interest rate risk is
reviewed monthly by the Asset Liability Committee ("ALCO"), composed of senior
management representatives from a variety of areas within the Company. ALCO
devises strategies and tactics to maintain the net interest income of the
Company within acceptable ranges over a variety of interest rate scenarios.
Should the Company's risk modeling indicate an undesired exposure to changes in
interest rates, there are a number of remedial options available including
changing the investment portfolio characteristics, and changing loan and deposit
pricing strategies. Two of the tools used in monitoring the Company's
sensitivity to interest rate changes are gap analysis and net interest income
simulation.
GAP ANALYSIS. Banks are concerned with the extent to which they are able to
match maturities or repricing characteristics of interest-earning assets and
interest-bearing liabilities. Such matching is facilitated by examining the
extent to which such assets and liabilities are interest-rate sensitive and by
monitoring the bank's interest rate sensitivity gap. An asset or liability is
considered to be interest-rate sensitive if it will mature or reprice within a
specific time period, over the interest-bearing liabilities maturing or
repricing within that same time period. On a monthly basis, the Company and the
Bank monitor their gap, primarily cumulative through one year maturities.
At March 31, 2006, total interest-earning assets maturing or repricing
within one year exceeded interest-bearing liabilities maturing or repricing
during the same time period by $118.6 million, representing a positive one-year
gap ratio of 3.61%. All amounts are categorized by their actual maturity,
anticipated call or repricing date with the exception of interest-bearing demand
deposits and savings deposits. Though the rates on interest-bearing demand and
savings deposits generally trend with open market rates, they often do not fully
adjust to open market rates and frequently adjust with a time lag. As a result
of prior experience during periods of rate volatility and management's estimate
of future rate sensitivities, the Company allocates the interest-bearing demand
deposits and savings deposits based on an estimated decay rate for those
deposits.
25
NET INTEREST INCOME SIMULATION. Due to the inherent limitations of gap
analysis, the Company also uses simulation models to measure the impact of
changing interest rates on its operations. The simulation model attempts to
capture the cash flow and repricing characteristics of the current assets and
liabilities on the Company's balance sheet. Assumptions regarding such things as
prepayments, rate change behaviors, level and composition of new balance sheet
activity and new product lines are incorporated into the simulation model. Net
interest income is simulated over a twelve month horizon under a variety of
linear yield curve shifts, subject to certain limits agreed to by ALCO. The
Company uses a base interest rate scenario provided by a third party econometric
modeling service.
Actual results may differ from the simulated results due to such factors as
the timing, magnitude and frequency of interest rate changes, changes in market
conditions, management strategies and differences in actual versus forecasted
balance sheet composition and activity.
The following table shows the Company's estimated earnings sensitivity
profile versus the most likely rate forecast from Global Insights as of March
31, 2006:
Change in Interest Rates Percentage Change in Net Interest Income
(Basis Points) Year 1
-------------- ------
+200 +0.8%
+100 +0.5%
-100 -0.3%
-200 -0.8%
DERIVATIVE FINANCIAL INSTRUMENTS. The Company utilizes certain derivative
financial instruments to enhance its ability to manage interest rate risk that
exists as part of its ongoing business operations. As of March 31, 2006,
derivative financial instruments have been entered into to hedge the interest
rate risk associated with certain fixed rate commercial loans. In general, the
derivative transactions fall into one of two types, a bank hedge of a specific
fixed rate loan or a hedged derivative offering to a Bank customer. In those
transactions in which the Bank hedges a specific fixed rate loan, the derivative
is executed for periods that match the related underlying exposures and do not
constitute positions independent of these exposures. For derivatives offered to
Bank customers, the economic risk of the customer transaction is offset by a
mirror position with a non-affiliated third party.
As noted above, the Company currently utilizes interest rate swaps to hedge
specified assets. The Company does not use derivative financial instruments for
trading or speculative purposes. Interest rate swaps were entered into as fair
value hedges for the purpose of modifying the interest rate characteristics of
certain commercial loans. The interest rate swaps involve no exchange of
principal either at inception or upon maturity; rather, it involves the periodic
exchange of interest payments arising from an underlying notional value.
Financial derivatives involve, to varying degrees, interest rate, market
and credit risk. The Company manages these risks as part of its asset and
liability management process and through credit policies and procedures. The
Company seeks to minimize counterparty credit risk by establishing credit
limits, and generally requiring bilateral netting and collateral agreements.
For those derivative instruments that are designated and qualify as hedging
instruments, the Company must designate the hedging instrument, based on the
exposure being hedged, as either a fair value hedge, a cash flow hedge or a
hedge of a net investment in a foreign operation. Currently, the Company only
participates in fair value hedges.
FAIR VALUE HEDGES - INTEREST RATE SWAPS
The Company has entered into interest rate swap arrangements to exchange
the payments on fixed rate commercial loan receivables for variable rate
payments based on LIBOR. The interest rate swaps involve no exchange of
principal either at inception or maturity and have maturities and call options
identical to the fixed rate loan agreements. The arrangements have been
designated as fair value hedges. The swaps are carried at their fair value and
the carrying amount of the commercial loans includes the net change in their
fair values since the inception of the hedge. Because the hedging arrangement is
considered highly effective, changes in the fair value of interest rate swaps
exactly offset the corresponding changes in the fair
26
value of the commercial loans and, as a result, the changes in fair value do not
result in an impact on net income.
Information pertaining to outstanding interest rate swap agreements was as
follows:
March 31,
-----------------------
2006 2005
Notional amount $40,226 $27,356
Weighted average pay rate 6.59% 6.05%
Weighted average receive rate 6.60% 5.18%
Weighted average maturity in years 7.1 7.6
Unrealized gain relating to interest rate swaps $ 1,353 $ 237
CUSTOMER DERIVATIVES
The Company entered into several commercial loan swaps in order to provide
commercial loan clients the ability to swap from variable to fixed interest
rates. Under these agreements, the Company enters into a variable rate loan
agreement with a client in addition to a swap agreement. This swap agreement
effectively swaps the client's variable rate loan into a fixed rate loan. The
Company then enters into a corresponding swap agreement with a third party in
order to swap its exposure on the variable to fixed rate swap on the commercial
loan. At March 31, 2006 and 2005, the notional amount of such arrangements was
$393.9 million and $51.6 million, respectively. As the interest rate swaps with
the clients and third parties are not designated as hedges under SFAS No. 133,
the instruments are marked to market in earnings. As the interest rate swaps are
structured to offset each other, changes in market values will have no net
earnings impact.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures. Based on their evaluation
------------------------------------------------
of the Company's disclosure controls and procedures (as defined in Rule
13a-15(e) under the Securities Exchange Act of 1934 (the "Exchange Act")), the
Company's principal executive officer and principal financial officer have
concluded that as of the end of the period covered by this Quarterly Report on
Form 10-Q such disclosure controls and procedures are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms and is accumulated and communicated to the Company's management,
including the principal executive officer and principal financial officer, as
appropriate to allow timely decisions regarding required disclosures.
(b) Changes in internal control over financial reporting. During the quarter
------------------------------------------------------
under report, there was no change in the Company's internal control over
financial reporting that has materially affected, or is reasonably likely to
materially affect, the Company's internal control over financial reporting.
27
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not engaged in any legal proceedings of a material
nature at March 31, 2006. From time to time, the Company is a party to
legal proceedings in the ordinary course of business wherein it
enforces its security interest in loans.
ITEM 1A. RISK FACTORS
Management of the Company does not believe there have been any
material changes to the Risk Factors previously disclosed under Item
1A. of the Company's Form 10K for the year ended December 31, 2005,
previously filed with the Securities and Exchange Commission.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS
Exhibit 31 Certifications Pursuant to ss.302 of the Sarbanes-Oxley
Act of 2003.
Exhibit 32 Certification Pursuant to ss.906 of the Sarbanes-Oxley
Act of 2003.
28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Sun Bancorp, Inc.
--------------------------------------
(Registrant)
/s/ Thomas A. Bracken
Date: May 10, 2006 --------------------------------------
Thomas A. Bracken
President and Chief Executive Officer
/s/ Dan A. Chila
Date: May 10, 2006 --------------------------------------
Dan A. Chila
Executive Vice President and
Chief Financial Officer
29