FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 0-10674
SUSQUEHANNA BANCSHARES, INC.
----------------------------
(Exact name of Registrant as specified in its Charter)
Pennsylvania 23-2201716
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(State or other jurisdiction of (I.R.S. Employer
incorporation of organization) Identification No.)
26 North Cedar Street
Lititz, Pennsylvania 17543
--------------------------
(Address of principal executive offices) (Zip Code)
(717) 626-4721
--------------
(Registrant's telephone number, including area code)
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 the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date.
As of October 31, 1998 the Registrant had 33,826,203 shares of common stock
outstanding.
1
SUSQUEHANNA BANCSHARES, INC.
INDEX
SEQUENTIAL
PAGE
REFERENCE
PART I. FINANCIAL INFORMATION 3
Item 1. FINANCIAL STATEMENTS 3
Consolidated Balance Sheets - as of September 30, 1998 and 1997
and December 31, 1997 3
Consolidated Statements of Income - for the three months ended
and nine months ended September 30, 1998 and 1997 4
Consolidated Statements of Cash Flow - for the nine months
periods ended September 30, 1998 and 1997 5
Notes to Consolidated Financial Statements 6-8
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
RESULTS OF OPERATIONS AND
FINANCIAL CONDITION 9-17
PART II. OTHER INFORMATION 18
Item 6. EXHIBITS AND REPORTS ON FORM 8-K 18
SIGNATURES 18
EXHIBIT INDEX 19
PART I. FINANCIAL INFORMATION
Item 1 FINANCIAL STATEMENTS
--------------------
Susquehanna Bancshares, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
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(Dollars in thousands) September 30 December 31 September 30
ASSETS 1998 1997 1997
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Cash and due from banks $ 77,843 $ 97,341 $ 100,298
Short-term investments 31,056 41,850 35,027
Investment securities available for sale 804,559 573,576 577,913
Investment securities held to maturity 67,538 83,102 90,978
(Fair values of $68,695; $83,983 and $91,818)
Loans and leases, net of unearned income 2,641,439 2,569,613 2,538,761
Less: Allowance for loan and lease losses 34,528 34,550 34,547
---------- ---------- ----------
Net loans and leases 2,606,911 2,535,063 2,504,214
---------- ---------- ----------
Premises and equipment (net) 49,559 47,185 45,103
Accrued income receivable 22,169 22,234 21,866
Other assets 125,023 124,536 104,271
---------- ---------- ----------
Total assets $3,784,658 $3,524,887 $3,479,670
========== ========== ==========
LIABILITIES & STOCKHOLDERS' EQUITY
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Deposits:
Demand $ 356,180 $ 351,943 $ 345,504
Interest-bearing demand 843,638 802,130 763,314
Savings 423,079 424,715 424,857
Time 1,115,180 1,108,205 1,130,469
Time of $100 or more 144,522 164,224 146,509
---------- ---------- ----------
Total deposits 2,882,599 2,851,217 2,810,653
---------- ---------- ----------
Short-term borrowings 123,658 103,323 115,312
Long-term debt 370,329 181,888 170,932
Accrued interest, taxes, and expenses payable 31,167 30,291 32,696
Other liabilities 7,838 11,430 10,794
---------- ---------- ----------
Total liabilities 3,415,591 3,178,149 3,140,387
Stockholders' equity:
Common stock
Authorized: 100,000,000; 32,000,000; and 32,000,000 shares
$2.00 par value, respectively
Issued: 33,885,569; 22,586,416; and 22,572,362, respectively 67,771 45,171 45,145
Surplus 55,218 77,519 77,255
Retained earnings 238,696 220,491 214,214
Accumulated other comprehensive income, net of taxes of $4,306;
$2,381 and $1,465, respectively 7,940 3,712 2,824
Less: Treasury stock, (54,366; 30,454; and 30,454 common
shares at cost, respectively) 558 155 155
---------- ---------- ----------
Total stockholders' equity 369,067 346,738 339,283
---------- ---------- ----------
Total liabilities and stockholders' equity $3,784,658 $3,524,887 $3,479,670
========== ========== ==========
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The accompanying notes are an integral part of these financial statements.
3
Susquehanna Bancshares, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
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THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
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(In thousands, except per share) 1998 1997 1998 1997
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INTEREST INCOME
Interest and fees on loans and leases $ 57,752 $ 56,618 $171,389 $164,090
Interest on investment securities: Taxable 11,660 8,544 33,677 24,998
Tax-exempt 1,342 1,308 3,907 3,775
Interest on short-term investments 516 862 2,695 2,814
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Total interest income 71,270 67,332 211,668 195,677
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INTEREST EXPENSE
Interest on deposits:
Interest-bearing demand 6,834 6,255 20,257 17,745
Savings 2,394 2,666 7,445 8,080
Time 17,764 17,497 53,053 50,348
Interest on short-term borrowings 1,378 1,376 3,574 3,239
Interest on long-term debt 5,750 2,700 16,432 7,610
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Total interest expense 34,120 30,494 100,761 87,022
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Net interest income 37,150 36,838 110,907 108,655
Provision for loan and lease losses 1,375 981 3,860 3,407
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Net interest income after provision for loan and lease losses 35,775 35,857 107,047 105,248
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OTHER INCOME
Service charges on deposit accounts 2,112 1,738 5,821 4,854
Other service charges, commissions, fees 809 920 2,993 2,380
Income from fiduciary-related activities 981 819 2,834 2,529
Gain on sale of mortgages 1,218 799 3,643 2,042
Other operating income 2,521 1,736 7,354 5,064
Investment security gains/(losses) 30 64 58 112
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Total other income 7,671 6,076 22,703 16,981
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OTHER EXPENSES
Salaries and employee benefits 14,068 13,387 41,726 42,991
Net occupancy expense 2,147 1,935 6,107 5,824
Furniture and equipment expense 1,891 1,532 5,220 4,481
FDIC insurance premiums 180 186 537 558
Other operating expenses 9,055 9,186 28,484 25,786
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Total other expenses 27,341 26,226 82,074 79,640
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Income before income taxes 16,105 15,707 47,676 42,589
Provision for income taxes 5,155 4,977 15,256 13,398
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Net income $ 10,950 $ 10,730 $ 32,420 $ 29,191
====================================================================================================================================
Per share information:
Basic earnings $ 0.32 $ 0.32 $ 0.96 $ 0.88
Diluted earnings $ 0.32 $ 0.32 $ 0.95 $ 0.88
Cash dividends $ 0.14 $ 0.14 $ 0.42 $ 0.41
Average shares outstanding: Basic 33,835 33,811 33,835 33,243
Diluted 34,001 33,893 34,029 33,301
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The accompanying notes are an integral part of these financial statements.
4
Susquehanna Bancshares, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
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(Dollars in thousands)
Nine months ended September 30 1998 1997
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OPERATING ACTIVITIES:
Net income $ 32,420 $ 29,191
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation, amortization and accretion 8,986 8,148
Provision for loan and lease losses 3,860 3,407
Gain on securities transactions (58) (112)
Gain on sale of loans (3,643) (2,042)
Gain on sale of other real estate owned (102) (219)
Mortgage loans originated for resale (211,155) (109,809)
Sale of mortgage loans originated for resale 208,109 105,165
(Increase)/decrease in accrued interest receivable 65 (42)
Increase/(decrease) in accrued interest payable (328) (309)
Decrease in accrued expenses and taxes payable 1,204 3,169
Other, net (4,195) (1,810)
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Net cash provided by operating activities 35,163 34,737
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INVESTING ACTIVITIES:
Proceeds from the sale of available-for-sale securities 33,986 32,857
Proceeds from the maturity of investment securities 212,578 186,252
Purchase of available-for-sale securities (456,408) (206,278)
Purchase of held-to-maturity securities -- (1,373)
Net increase in loans and leases (74,864) (110,871)
Capital expenditures (6,586) (4,055)
Purchase of Bank-Owned Life Insurance -- (25,000)
Net cash (paid)/received in acquisition -- 3,579
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Net cash (used for)/provided from investing activities (291,294) (124,889)
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FINANCING ACTIVITIES:
Net increase/(decrease) in deposits 31,382 (33,047)
Net (decrease)/increase in short-term borrowings 20,335 14,662
Proceeds from issuance of long-term debt 225,000 65,000
Repayment of long-term debt (36,559) (18,311)
Proceeds from issuance of common stock 374 329
Cash paid for treasury stock (440) --
Cash paid for fractional shares (38) (43)
Dividends paid (14,215) (13,078)
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Net cash provided from/(used for) financing activities 225,839 15,512
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Net increase/(decrease) in cash and cash equivalents (30,292) (74,640)
Cash and cash equivalents at January 1 139,191 209,965
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Cash and cash equivalents at September 30 $ 108,899 $ 135,325
====================================================================================================================================
Cash and cash equivalents:
Cash and due from banks $ 77,843 $ 100,298
Short-term investments 31,056 35,027
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Cash and cash equivalents at September 30 $ 108,899 $ 135,325
====================================================================================================================================
Interest paid on deposits, short-term borrowings, and long-term debt was
$101,089 in 1998, and $87,331 in 1997. Income taxes paid were $14,475 in 1998,
and $11,719 in 1997. Amounts transferred to other real estate owned were $5,845
in 1998, and $3,356 in 1997.
On July 30, 1997, Susquehanna acquired Founders' Bank, Bryn Mawr, PA. At
the time of the acquisition, loans acquired were $79,776; investment securities
were $19,130; and deposits were $92,520.
The accompanying notes are an integral part of these financial statements.
5
Susquehanna Bancshares, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share)
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- ----------------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
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Common Retained
Nine Month Periods Ended September 30 Stock Surplus Earnings
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Balance - January 1, 1997 $29,331 $85,165 $197,765
Comprehensive income:
Net income 29,191
Change in unrealized gain/(loss) on securities, net of
taxes of $807 and reclassification adjustment of $112
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Total comprehensive income 29,191
Common stock issued under
employee benefit plans 24 305
Effect of three-for-two stock split 14,669 (14,707)
Acquisition of Founders' Bank 1,121 6,497 336
Cash paid for fractional shares of acquired entities (5)
Cash dividends declared:
Per common share of $0.41 (13,078)
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Balance - September 30, 1997 $45,145 $77,255 $214,214
==================================================================================================================================
Balance - January 1, 1998 $45,171 $77,519 $220,491
Comprehensive income:
Net income 32,420
Change in unrealized gain/(loss) on securities, net of
taxes of $1,925 and reclassification adjustment of $58
- ----------------------------------------------------------------------------------------------------------------------------------
Total comprehensive income 32,420
Common stock issued under
employee benefit plans 12 325
Effect of three-for-two stock split 22,588 (22,626)
Purchase of treasury stock
Cash dividends paid:
Per common share of $0.42 (14,215)
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Balance - September 30, 1998 $67,771 $55,218 $238,696
==================================================================================================================================
Accumulated
Other
Comprehensive Treasury Total
Nine Month Periods Ended September 30 Income Stock Equity
- ----------------------------------------------------------------------------------------------------------------------------------
Balance - January 1, 1997 $1,190 ($155) $313,296
Comprehensive income:
Net income 29,191
Change in unrealized gain/(loss) on securities, net of
taxes of $807 and reclassification adjustment of $112 1,828 1,828
- ----------------------------------------------------------------------------------------------------------------------------------
Total comprehensive income 1,828 31,019
Common stock issued under
employee benefit plans 329
Effect of three-for-two stock split (38)
Acquisition of Founders' Bank (194) 7,760
Cash paid for fractional shares of acquired entities (5)
Cash dividends declared:
Per common share of $0.41 (13,078)
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Balance - September 30, 1997 $2,824 ($155) $339,283
==================================================================================================================================
Balance - January 1, 1998 $3,712 ($155) $346,738
Comprehensive income:
Net income 32,420
Change in unrealized gain/(loss) on securities, net of
taxes of $1,925 and reclassification adjustment of $58 4,228 4,228
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Total comprehensive income 4,228 36,648
Common stock issued under
employee benefit plans 37 374
Effect of three-for-two stock split (38)
Purchase of treasury stock (440) (440)
Cash dividends paid:
Per common share of $0.42 (14,215)
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Balance - September 30, 1998 $7,940 ($558) $369,067
==================================================================================================================================
ACCOUNTING POLICIES
The information contained in this report is unaudited and is subject to
year-end adjustments. However, in the opinion of management, the information
reflects all adjustments necessary for a fair statement of results for the
periods ended September 30, 1998 and 1997.
The accounting policies of Susquehanna Bancshares, Inc. & Subsidiaries
("Susquehanna"), as applied in the consolidated interim financial statements
presented herein, are substantially the same as those followed on an annual
basis as presented on pages 45 through 47 of the Annual Report on Form 10-K for
the fiscal year ended December 31, 1997.
On June 15, 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities", ("SFAS 133"). SFAS 133 is effective for all fiscal quarters for all
fiscal years beginning after June 15, 1999. SFAS 133 requires that derivative
instruments be recorded on the balance sheet at their fair value. Changes in the
fair value of derivatives are to be recorded each period in current earnings or
other comprehensive income, depending on whether a derivative is designated as
part of a hedge transaction and, if it is, the type of hedge transaction.
Management anticipates that the adoption of SFAS 133 will not have a significant
effect on Susquehanna's results of operations or its financial position.
On July 1, 1998, Susquehanna paid a three-for-two stock split in the
form of a stock dividend. Per share information has been adjusted to reflect the
stock split.
6
Susquehanna Bancshares, Inc. and Subsidiaries
INVESTMENT SECURITIES
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The amortized costs and fair values of securities are as follows:
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September 30, 1998 December 31, 1997
-------------------------------- -------------------------------
(In thousands) Amortized cost Fair value Amortized cost Fair value
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Available-for-sale:
U.S. Treasury $ 68,362 $ 69,367 $118,972 $119,624
U.S. Government agencies 187,129 188,938 231,410 232,238
State & municipal 52,882 54,074 31,470 32,200
Mortgage-backed 410,614 413,375 91,695 92,176
Corporates 46,051 46,572 72,136 72,672
Equities 27,275 32,233 21,800 24,666
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792,313 804,559 567,483 573,576
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Held-to-maturity:
U.S. Treasury $ 500 $ 500 $ 750 $ 750
State & municipal 62,836 63,967 75,882 76,739
Mortgage-backed 4,177 4,203 6,420 6,444
Corporates 25 25 50 50
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67,538 68,695 83,102 83,983
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Total investment securities $859,851 $873,254 $650,585 $657,559
====================================================================================================================================
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LOANS AND LEASES
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Loans and leases, net of unearned income at September 30, 1998 and December 31, 1997, were as follows:
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September 30, December 31,
(In thousands) 1998 1997
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Commercial, financial, and agricultural $ 285,545 $ 303,587
Real estate - construction 258,191 225,971
Real estate - mortgage 1,703,098 1,664,240
Consumer 323,974 311,393
Leases 70,631 64,422
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Total loans and leases $2,641,439 $2,569,613
====================================================================================================================================
IMPAIRED LOANS
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An analysis of impaired loans as of September 30, 1998 and December 31, 1997, is presented as follows:
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September 30, December 31,
(Dollars in thousands) 1998 1997
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Impaired loans without a related reserve $ 7,605 $11,070
Impaired loans with a reserve 3,974 1,814
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Total impaired loans $11,579 $12,884
====================================================================================================================================
Reserve for impaired loans $ 1,158 $ 269
====================================================================================================================================
An analysis of impaired loans for the three and nine months periods ended September 30, 1998 and 1997 is presented as follows:
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Three Months Ended Nine Months Ended
September 30 September 30
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1998 1997 1998 1997
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Average balance of impaired loans $11,632 $15,459 $12,239 $14,467
Interest income on impaired loans (cash-basis) 90 285 203 865
7
Susquehanna Bancshares, Inc. and Subsidiaries
SHORT-TERM BORROWINGS
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Short-term borrowings at September 30, 1998 and December 31, 1997, were as follows:
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September 30, December 31,
(In thousands) 1998 1997
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Securities sold under repurchase agreements $82,805 $81,351
Treasury tax and loan notes 8,587 9,472
Federal funds purchased 4,400 8,500
Federal Home Loan Bank borrowings 27,866 4,000
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Total short-term borrowings $123,658 $103,323
==================================================================================================================================
LONG TERM DEBT
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Long-term debt at September 30, 1998 and December 31, 1997, was as follows:
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September 30, December 31,
1998 1997
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Subsidiaries:
Term note due July, 1998 $0 $5,000
Installment note due June, 1999 15 28
Term note due July, 2003 10,000 0
FHLB advances in varying maturities through July, 2011 274,800 91,340
Term loan note due September, 2014 514 520
Parent:
Senior notes due February, 2003 35,000 35,000
Subordinated notes due February, 2005 50,000 50,000
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Total long-term debt $370,329 $181,888
==================================================================================================================================
EARNINGS-PER-SHARE
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The following tables sets forth the calculation of basic and diluted earnings per share for the periods ended September 30, 1998
and 1997:
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For the three months ended September 30
-------------------------------------------------------------------------
1998 1997
-------------------------------- ---------------------------------
Per Share Per Share
Income Shares Amount Income Shares Amount
- ----------------------------------------------------------------------------------------------------------------------------------
Basic Earnings per Share:
Income available to common stockholders $10,950 33,835 $0.32 $10,730 33,811 $0.32
Effect of Diluted Securities:
Stock options outstanding 166 82
-------- --------
Diluted Earnings per Share:
Income available to common stockholders
and assumed conversion $10,950 34,001 $0.32 $10,730 33,893 $0.32
==================================================================================================================================
For the nine months ended September 30
-------------------------------------------------------------------------
1998 1997
-------------------------------- ---------------------------------
Per Share Per Share
Income Shares Amount Income Shares Amount
- ----------------------------------------------------------------------------------------------------------------------------------
Basic Earnings per Share:
Income available to common stockholders $32,420 33,835 $0.96 $29,191 33,243 $0.88
Effect of Diluted Securities:
Stock options outstanding 194 58
-------- --------
Diluted Earnings per Share:
Income available to common stockholders
and assumed conversion $32,420 34,029 $0.95 $29,191 33,301 $0.88
==================================================================================================================================
8
Item 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE RESULTS OF
------------------------------------------------------
OPERATIONS AND FINANCIAL CONDITION
----------------------------------
Management's discussion and analysis of the significant changes in the
consolidated results of operations, financial condition, and cash flows of
Susquehanna Bancshares, Inc. ("Susquehanna") is set forth below for the periods
indicated. All per share data has been adjusted to reflect the three-for-two
stock split paid July 1, 1998.
Certain statements in this document may be considered to be
"forward-looking statements" as that term is defined in the U.S. Private
Securities Litigation Reform Act of 1995. These statements include the words
"expect", "estimate", "project", "anticipate", "should", "intend",
"probability", "risk", "target", "objective" and similar expressions or
variations on such expressions. In particular, this document includes
forward-looking statements relating, but not limited to, Susquehanna's potential
exposures to Year 2000 compliance issues and various types of market risks, such
as interest rate risk and credit risk. These statements are subject to certain
risks and uncertainties. For example, certain market risk disclosures are
dependent on choices about key model characteristics and assumptions and are
subject to various limitations. By their nature, certain market risk disclosures
are only estimates and could be materially different from what actually occurs
in the future. As a result, actual income gains and losses could materially
differ from those that have been estimated. Other factors that could cause
actual results to differ materially from those estimated by the forward-looking
statements contained in this document include, but are not limited to: general
economic conditions in market areas which Susquehanna has significant business
activities or investments; the monetary and interest rate policies of the Board
of Governors of the Federal Reserve System; inflation; deflation; unanticipated
turbulence in interest rates; changes in laws, regulations and taxes; changes in
competition and pricing environments; natural disasters; the inability to hedge
certain risks economically; the adequacy of loss reserves; acquisitions or
restructurings; technological changes; changes in consumer spending and saving
habits; and the success of Susquehanna in managing the risks involved in the
foregoing.
One transaction occurred which affects the comparability of
Susquehanna's financial performance for the first nine months of 1998 compared
with the first nine months of 1997. On July 31, 1997, Susquehanna acquired
Founders' Bank, Bryn Mawr, Pennsylvania, through an exchange of 560,353 shares
of common stock (prior to the split) to the shareholders of Founders' based on
an exchange ratio of .566 shares of Susquehanna common stock (prior to the
split) for each share of Founders' outstanding capital stock. The transaction
was accounted for under the pooling-of-interests method of accounting. At the
time of the acquisition, Founders' reported total assets of $103 million.
Results of operations for Founders' prior to the acquisition were not
significant to Susquehanna's consolidated financial statements, and accordingly,
Susquehanna's prior period consolidated financial statements have not been
restated for Founders'.
Earnings Summary
----------------
Susquehanna's net income for the third quarter of 1998 was $11.0
million, a 2% increase over the net income of $10.7 million reported in the
third quarter of 1997. Net income for the nine months ended September 30, 1998
was $32.4 million, or 11% above the $29.2 million achieved for the same period
of 1997.
9
Susquehanna's earnings performance was affected by significant growth
in non-interest income resulting primarily from an increase in mortgage-banking
activities and bank-owned life insurance ("BOLI") income. Non-interest income
was $1.6 million or 26% higher in the third quarter of 1998 compared with the
third quarter of 1997. For the nine months, non-interest income grew 34% or $5.7
million in 1998 compared with 1997.
Diluted earnings per share ("EPS") were $0.32 per share for the third
quarter of 1998 and 1997. Return on average assets ("ROA"), and return on
average equity ("ROE"), decreased from 1.23% and 12.75%, respectively, in the
third quarter of 1997 to 1.15% and 11.99%, respectively, in the third quarter of
1998. For the third quarter of 1998, tangible EPS, ROA and ROE were $0.35,
1.24%, and 14.20%, respectively.
For the nine months ended September 30, 1998, diluted EPS increased 8%,
to $0.95 per share compared with $0.88 per share for the same period of 1997.
ROE increased from 12.08% for the first nine months of 1997 to 12.18% for the
same period in 1998. However, ROA decreased from 1.17% for the first nine months
of 1997 to 1.16% for the same period in 1998. For the nine months ended
September 30, 1998, tangible EPS, ROA, and ROE were $1.02, 1.25%, and 14.46%,
respectively.
Total assets at September 30, 1998 of $3.8 billion were $305 million
higher than one year ago. Loans totaled $2.6 billion at September 30, 1998,
compared to $2.5 billion at September 30, 1997, and deposits were $2.9 billion
at September 30, 1998 compared to $2.8 billion at September 30, 1997. Equity
capital was $369 million at September 30, 1998, or $10.91 per share, compared to
$339 million, or $10.03 per share, at September 30, 1997.
Net Interest Income
-------------------
The major source of operating revenues is net interest income, which
rose to a level of $37.2 million in the third quarter of 1998 compared to $36.8
million for the same period in 1997. For the nine months ended September 30,
1998, net interest income was $110.9 million compared with $108.7 million for
the nine months ended September 30, 1997. Net interest income is the income
which remains after deducting, from total income generated by earning assets,
the interest expense attributable to the acquisition of the funds required to
support earning assets. Income from earning assets includes income from loans,
income from investment securities and income from short-term investments. The
amount of interest income is dependent upon many factors including the volume of
earning assets, the general level of interest rates, the dynamics of the change
in interest rates, and levels of non-performing assets. The cost of funds varies
with the amount of funds necessary to support earning assets, the rates paid to
attract and hold deposits, rates paid on borrowed funds, and the levels of
non-interest bearing demand deposits and equity capital.
Table 1 presents average balances, taxable equivalent interest income
and expenses and yields earned or paid on these assets and liabilities of
Susquehanna. For purposes of calculating taxable equivalent interest income,
tax-exempt interest has been adjusted using a marginal tax rate of 35% in order
to equate the yield to that of taxable interest rates. Net interest income as a
percentage of net interest income and other income was 83% and 86% for the
quarters ended September 30, 1998 and 1997, respectively, and was 83% and 86%
for the nine months ended September 30, 1998 and 1997, respectively.
Net interest income increased $2.3 million and $0.3 million,
respectively, during the first nine months and third quarter of 1998 compared to
the first nine months and third quarter of
10
1997. However, the net interest margin for the nine months ended declined to
4.39% from 4.78% and for the quarter ended to 4.31% from 4.67% for 1998 versus
1997, respectively. During the first quarter of 1998, Susquehanna began an
investment program to better utilize its capital and to reduce its tax burden.
This program, which purchased $175 million of GNMA securities funded by Federal
Home Loan Bank borrowings, caused about half of the decline in the net interest
margin. The remaining decline in net interest margin was primarily due to lower
reinvestment rates on loans and higher deposit costs resulting from market
forces impacting product pricing.
Other Income
------------
Non-interest income increased $1.6 million or 26% from $6.1 million in
the third quarter of 1997 to $7.7 million in the third quarter of 1998. This
increase resulted primarily from an increase in gains on mortgage sales of $0.4
million, an increase in deposit fees of $0.4 million and an increase of $0.6
million in BOLI income.
For the nine months ended September 30, 1998, non-interest income
increased $5.7 million or 34% over the same period of 1997. Gain on the sale of
mortgages was $1.6 million higher and BOLI income was $2.0 million higher in
1998 compared with 1997. The $0.7 million gain realized on the sale of the
mortgage servicing rights during the second quarter of 1998 and an increase in
deposit fees of $1.0 million also contributed to the favorable variance.
Other income as a percentage of net interest income and other income
was 17% and 14% for the quarters ended September 30, 1998 and 1997,
respectively, and was 17% and 14% for the nine months ended September 30, 1998
and 1997, respectively.
Other Expenses
--------------
Total non-interest expenses increased $1.1 million or 4% from $26.2
million in the third quarter of 1997 to $27.3 million in the third quarter of
1998. For the nine months ended September 30, 1998, non-interest expenses
increased $2.5 million or 3% over the same period of 1997. During the third
quarter of 1998, Susquehanna incurred unusual charges of $1.2 million related to
Year 2000 systems remediation. Total year-to-date costs for Year 2000
remediation are $1.9 million at September 30, 1998. Susquehanna estimates that
total consulting costs it will incur regarding Year 2000 remediation during 1998
and 1999 will total $4.0 million ($3.0 million in 1998 and $1.0 million in
1999). This is $1.0 million higher than the original estimate. The original
estimate of $7.0 million regarding the purchase of new software and hardware
associated with Susquehanna's systems conversion projects has not changed.
Income Taxes
------------
Susquehanna's effective tax rate increased slightly to 32.00% for the
first nine months of 1998 from 31.46% for the first nine months of 1997.
Risk Assets
-----------
Table 2 shows a decrease in nonperforming assets from $27.3 million at
December 31, 1997 to $26.9 million at September 30, 1998, while nonperforming
assets to period-end loans and OREO declined from 1.06% at December 31, 1997 to
1.02% at September 30, 1998. Loan loss reserve to non-performing loans at
September 30, 1998 was 149% compared with 150% at December 31, 1997.
11
Provision and Allowance for Loan and Lease Losses
-------------------------------------------------
As illustrated in Table 3, the provision increased to $1.4 million in
the third quarter of 1998 compared with $1.0 million in the third quarter of
1997. Net charge-offs decreased $0.5 million for the same periods.
For the nine months ended September 30, 1998, the provision was $3.9
million compared with $3.4 million for the same period of 1997. Net charge-offs
for the nine months ended September 30, 1998 decreased $0.2 million over the
same period of 1997. The allowance at September 30, 1998 was 1.31% of period-end
loans and leases compared to 1.36% at September 30, 1997.
Capital Resources
-----------------
Capital elements for Susquehanna are segmented into two tiers. Tier I
capital represents shareholders' equity reduced by most intangible assets, while
total capital includes certain allowable long-term debt and the general portion
of the allowance for loan and lease losses limited to 1.25% of risk-adjusted
assets. The minimum Tier I capital ratio is 4%; Susquehanna's ratio at September
30, 1998 was 12.37%. The minimum total capital (Tier II) ratio is 8%;
Susquehanna's ratio at September 30, 1998 was 15.52%. The minimum leverage ratio
is 4%; Susquehanna's leverage ratio at September 30, 1998 was 8.71%.
Market Risks
------------
The types of market risk exposures generally faced by banking entities
include interest rate risk, liquidity risk, equity market price risk, foreign
currency risk and commodity price risk. Due to the nature of its operations,
only interest rate and liquidity risks are significant to Susquehanna.
Liquidity and interest rate risk are related but distinctly different
from one another. The maintenance of adequate liquidity -- the ability to meet
the cash requirements of its customers and other financial commitments -- is a
fundamental aspect of Susquehanna's asset/liability management strategy.
Susquehanna's policy of diversifying its funding sources -- purchased funds,
repurchase agreements, and deposit accounts -- allows it to avoid undue
concentration in any single financial market and also to avoid heavy funding
requirements within short periods of time. At September 30, 1998, Susquehanna's
subsidiary banks and its savings bank have unused lines of credit available to
them from the Federal Home Loan Bank totaling $390 million.
However, liquidity is not entirely dependent on increasing
Susquehanna's liability balances. Liquidity can also be generated from maturing
or readily marketable assets. The carrying value of investment securities
maturing within one year amounted to $115 million at September 30, 1998. These
maturing investments represent 13% of total investment securities. Short-term
investments amounted to $31 million and represent additional sources of
liquidity. Consequently, Susquehanna's exposure to liquidity risk is not
considered significant.
Closely related to the management of liquidity is the management of
interest rate risk, which focuses on maintaining stability in the net interest
margin, an important factor in earnings growth. Interest rate sensitivity is the
matching or mismatching of the maturity and rate structure of the
interest-bearing assets and liabilities. Management's objective to control the
difference in the timing of the rate changes for these assets and liabilities to
preserve a satisfactory net interest margin. In doing so, Susquehanna endeavors
to maximize earnings in an environment of
12
changing interest rates. However, there is a lag in maintaining the desired
matching because the repricing of products does occur at varying time intervals.
Susquehanna employs a variety of methods to monitor interest rate risk.
By dividing the assets and liabilities into three groups -- fixed rate, floating
rate and those which reprice only at management's discretion -- strategies are
developed which are designed to minimize exposure to interest rate fluctuations.
Management also utilizes gap and interest rate shock analyses to evaluate
interest rate sensitivity.
Susquehanna's policy, as approved by its Board of Directors, is for
Susquehanna to experience no more than a 15% decline in net interest income and
no more than a 25% decline in economic equity for a 200 basis point shock
(immediate change) in interest rates. The assumptions used for the interest rate
shock analysis are reviewed and updated on a periodic basis. Based upon the most
recent interest rate shock analysis, Susquehanna was well within the policy
limits.
Impact of the Year 2000 Issue
-----------------------------
The following section contains forward-looking statements which involve
risks and uncertainties. Susquehanna's actual impact of the Year 2000 issue
could materially differ from that which is anticipated in these forward-looking
statements as a result of certain factors identified below.
The "Year 2000 Issue" is the result of computer programs having been
written using two digits rather than four to define the applicable year. Any of
Susquehanna's computer systems that have date-sensitive software or date
sensitive hardware 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, send statements, or engage in similar normal business
activities.
Based on an ongoing assessment, Susquehanna has determined that it will
be required to modify or replace portions of its software and hardware so that
its computer systems will properly utilize dates beyond December 31, 1999.
Susquehanna presently believes that as a result of modifications to existing
software and hardware and conversions to new software and hardware, the Year
2000 Issue can be mitigated. However, if such modifications and conversions are
not made, or are not completed on a timely basis, the Year 2000 Issue could have
a material adverse impact on the operations of Susquehanna. Susquehanna is
currently on schedule.
Included within the scope of Susquehanna's Year 2000 Action Plan is the
assessment of non-information technology systems with embedded chips.
Susquehanna's assessment process generally includes inventorying such equipment
and making a determination as to the Year 2000 readiness status of these items.
This assessment has been completed. No Year 2000 modifications or replacements
of a material nature have been identified for non-information technology
systems.
Susquehanna's Year 2000 Action Plan has been categorized into five
phases: Awareness, Assessment, Renovation (testing), Validation and
Implementation. The initial focus within those phases has been on systems and
vendors that are related to mission critical business processes. Mission
critical processes are defined as those areas of the business whose continued
operations are required in order to provide basic banking services. As of this
date, the Awareness and Assessment phases have been completed. The Renovation
and Validation phases are in progress
13
and on schedule to be completed before December 31, 1998. The Implementation
phase is expected to be completed by the end of the first quarter of 1999. In
addition to the mission critical business processes, all other business
processes are subject to Y2K remediation programs and are expected to be
remediated before December 31, 1999.
Susquehanna has initiated formal communications with all of its vendors
and large commercial customers to determine the extent to which Susquehanna is
vulnerable to those third parties' failure to remediate their own Year 2000
Issue. Susquehanna's estimated Year 2000 project costs include the costs and
time associated with the impact of a third party's Year 2000 Issue, and are
based on presently available information.
For significant vendors, Susquehanna will validate that they are Year
2000 compliant by December 31, 1998 or make plans to switch to a new vendor or
system that is compliant. For insignificant vendors, Susquehanna will not
necessarily validate that they are Year 2000 compliant. However, for any
insignificant vendor who responds that they will not be compliant by December
31, 1998, Susquehanna will seek a new vendor or system that is compliant. For
large commercial loan customers, Susquehanna will take appropriate action based
upon the customer's response.
Susquehanna believes that it will be Year 2000 ready before December
31, 1999 and testing to date has not revealed a need for business remediation
contingency plans for core or other internal processing systems. Exposure to
counter-parties and other directly related external vendors is deemed limited
and requires only nominal contingency planning such as the designation of an
alternative vendor. The greatest risk is believed to be through external parties
that are not within our control. A significant electrical failure, for example,
may require the company to limit or even eliminate services until power is
restored. Backup records will be produced immediately prior to January 1, 2000
to assure an orderly resumption of business if major disruptions occur. Further,
business resumption contingency planning is being done throughout the company in
order to assure rapid and disciplined approaches to handling any unexpected
occurrence.
Susquehanna is utilizing both internal and external resources to
reprogram, or replace, and test its software and hardware for Year 2000
modifications. Concurrent with the Year 2000 project, Susquehanna is also
converting all its major data processing systems, both hardware and software, to
current Year 2000 compliant technology. Susquehanna plans to complete both the
Year 2000 and systems conversion projects by March 31, 1999 for all critical
systems. The total cost of the Year 2000 and systems conversion projects is
estimated at $11 million. Of the total projects' cost, approximately $7 million
is attributable to the purchase of new software and hardware which will be
capitalized. The remaining $4 million will be expensed as incurred during 1998
and 1999. These costs are not expected to have a material effect on the results
of operations of Susquehanna.
The costs of the projects and the date on which the Company plans to
complete both the Year 2000 modifications and systems conversions are based on
management's best estimates, which were derived utilizing numerous assumptions
of future events including the continued availability of certain resources,
third party modification plans and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could differ
materially from those plans. Specific factors that might cause such material
differences include, but are not limited to, the availability and cost of
personnel trained in this area, the ability to locate and correct all relevant
computer codes, and similar uncertainties.
14
As a bank holding company, Susquehanna and its subsidiaries are subject
to the regulation and oversight of various banking regulators. Their oversight
includes the provision of specific timetables, programs and guidance regarding
Year 2000 issues. Regulatory examination of the holding company, and its
subsidiaries', Year 2000 program are conducted on a quarterly basis and reports
are submitted by Susquehanna Bancshares, Inc. to the regulators on a periodic
basis.
15
Susquehanna Bancshares, Inc. and Subsidiaries
TABLE 1 - DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY
INTEREST RATES AND INTEREST DIFFERENTIAL - TAX EQUIVALENT BASIS
- ----------------------------------------------------------------------------------------------------------------------------------
For the Three Month Period Ended For the Three Month Period Ended
September 30, 1998 September 30, 1997
- ---------------------------------------------------------------------------------------- ------------------------------------
Average Average
Balance Interest Rate (%) Balance Interest Rate (%)
- ----------------------------------------------------------------------------------------------------------------------------------
Assets
Short - term investments $38,819 $516 5.27 $62,510 $862 5.47
Investment securities:
Taxable 738,929 11,660 6.26 538,539 8,544 6.29
Tax - advantaged 116,763 2,059 7.00 114,091 2,010 6.99
- ----------------------------------------------------------------------------------------------------------------------------------
Total investment securities 855,692 13,719 6.36 652,630 10,554 6.42
- ----------------------------------------------------------------------------------------------------------------------------------
Loans and leases, (net):
Taxable 2,578,845 56,982 8.77 2,463,520 55,860 9.00
Tax - advantaged 50,428 1,185 9.32 47,392 1,166 9.76
- ----------------------------------------------------------------------------------------------------------------------------------
Total loans and leases 2,629,273 58,167 8.78 2,510,912 57,026 9.01
- ----------------------------------------------------------------------------------------------------------------------------------
Total interest - earning assets 3,523,784 $72,402 8.15 3,226,052 $68,442 8.42
==================== =====================
Allowance for loan and lease losses (34,139) (35,332)
Other non - earning assets 285,282 257,160
- ----------------------------------------------------------------- -----------
Total assets $3,774,927 $3,447,880
================================================================= ===========
Liabilities & Equity
Deposits:
Interest - bearing demand $846,423 $6,834 3.20 $782,006 $6,255 3.17
Savings 433,442 2,394 2.19 431,942 2,666 2.45
Time 1,260,304 17,764 5.59 1,260,745 17,497 5.51
Short - term borrowings 105,582 1,378 5.18 102,486 1,376 5.33
Long - term debt 365,745 5,750 6.24 153,859 2,700 6.96
- ----------------------------------------------------------------------------------------------------------------------------------
Total interest - bearing liabilities 3,011,496 $34,120 4.50 2,731,038 $30,494 4.43
==================== =====================
Demand deposits 360,719 331,967
Other liabilities 40,521 50,937
- ----------------------------------------------------------------- -----------
Total liabilities $3,412,736 $3,113,942
- ----------------------------------------------------------------- -----------
Stockholders' equity 362,191 333,938
- ----------------------------------------------------------------- -----------
Total liabilities & stockholders' equity $3,774,927 $3,447,880
================================================================= ===========
Net interest income / yield on
average earning assets $38,282 4.31 $37,948 4.67
==================== =====================
- ----------------------------------------------------------------------------------------------------------------------------------
For the Nine Month Period Ended For the Nine Month Period Ended
September 30, 1998 September 30, 1997
- ----------------------------------------------------------------------------------------------------------------------------------
Average Average
Balance Interest Rate (%) Balance Interest Rate (%)
- ----------------------------------------------------------------------------------------------------------------------------------
Assets
Short - term investments $65,699 $2,695 5.48 $68,636 $2,814 5.48
Investment securities:
Taxable 702,835 33,677 6.41 531,653 24,998 6.29
Tax - advantaged 113,321 5,998 7.08 110,451 5,797 7.02
- ----------------------------------------------------------------------------------------------------------------------------------
Total investment securities 816,156 39,675 6.50 642,104 30,795 6.41
- ----------------------------------------------------------------------------------------------------------------------------------
Loans and leases, (net):
Taxable 2,545,309 169,044 8.88 2,372,202 161,934 9.13
Tax - advantaged 51,306 3,608 9.40 46,466 3,317 9.54
- ----------------------------------------------------------------------------------------------------------------------------------
Total loans and leases 2,596,615 172,652 8.89 2,418,668 165,251 9.13
- ----------------------------------------------------------------------------------------------------------------------------------
Total interest - earning assets 3,478,470 $215,022 8.26 3,129,408 $198,860 8.50
==================== =====================
Allowance for loan and lease losses (34,239) (34,279)
Other non - earning assets 285,827 250,862
- ----------------------------------------------------------------- -----------
Total assets $3,730,058 $3,345,991
================================================================= ===========
Liabilities & Equity
Deposits:
Interest - bearing demand $834,797 $20,257 3.24 $759,792 $17,745 3.12
Savings 431,242 7,445 2.31 434,927 8,080 2.48
Time 1,267,406 53,053 5.60 1,233,483 50,348 5.46
Short - term borrowings 92,080 3,574 5.19 83,463 3,239 5.19
Long - term debt 347,640 16,432 6.32 142,987 7,610 7.12
- ----------------------------------------------------------------------------------------------------------------------------------
Total interest - bearing liabilities 2,973,165 $100,761 4.53 2,654,652 $87,022 4.38
==================== =====================
Demand deposits 358,822 321,880
Other liabilities 42,212 46,288
- ----------------------------------------------------------------- -----------
Total liabilities $3,374,199 $3,022,820
- ----------------------------------------------------------------- -----------
Stockholders' equity 355,859 323,171
- ----------------------------------------------------------------- -----------
Total liabilities & stockholders' equity $3,730,058 $3,345,991
================================================================= ===========
Net interest income / yield on
average earning assets $114,261 4.39 $111,838 4.78
==================== =====================
For purposes of calculating loan yields, the average loan volume
includes non-accrual loans. For purposes of calculating yields on non-taxable
interest income, the taxable equivalent adjustment is made to equate non-taxable
interest on the same basis as taxable interest. The marginal tax rate is 35%.
Susquehanna Bancshares, Inc. and Subsidiaries
TABLE 2 - RISK ASSETS
- --------------------------------------------------------------------------------------------------------------------------------
September 30, December 31, September 30,
(Dollars in thousands) 1998 1997 1997
- --------------------------------------------------------------------------------------------------------------------------------
Nonperforming assets:
Nonaccrual loans and leases $21,972 $22,964 $24,862
Restructured accrual loans 1,243 --- ---
Other real estate owned 3,637 4,379 4,258
- --------------------------------------------------------------------------------------------------------------------------------
Total nonperforming assets $26,852 $27,343 $29,120
- --------------------------------------------------------------------------------------------------------------------------------
As a percent of period-end loans and leases and
other real estate owned 1.02% 1.06% 1.15%
Loans and leases contractually
past due 90 days and still accruing $8,196 $6,760 $7,494
TABLE 3 - ALLOWANCE FOR LOAN AND LEASE LOSSES
- --------------------------------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
(Dollars in thousands) 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------------------------------------
Balance - Beginning of period $34,321 $33,799 $34,550 $33,800
Additions charged to operating expenses 1,375 981 3,860 3,407
Allowance acquired in business combination --- 1,460 --- 1,460
- --------------------------------------------------------------------------------------------------------------------------------
35,696 36,240 38,410 38,667
- --------------------------------------------------------------------------------------------------------------------------------
Charge-offs (1,399) (2,017) (4,865) (5,046)
Recoveries 231 324 983 926
- --------------------------------------------------------------------------------------------------------------------------------
Net charge-offs (1,168) (1,693) (3,882) (4,120)
- --------------------------------------------------------------------------------------------------------------------------------
Balance - Period end $34,528 $34,547 $34,528 $34,547
- --------------------------------------------------------------------------------------------------------------------------------
Net charge-offs as a percent of average loans and leases(annualized) 0.18% 0.27% 0.20% 0.23%
Allowance as a percent of period-end loans and leases 1.31% 1.36% 1.31% 1.36%
Average loans and leases $2,629,273 $2,510,912 $2,596,615 $2,418,668
Period-end loans and leases 2,641,439 2,538,761 2,641,439 2,538,761
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
a). Exhibits
--------
3.1 Registrant's Articles of Incorporation.
3.2 Registrant's By-laws.
3.3 Amendment of June 1, 1998 to Registrant's Articles
of Incorporation.
27.1 Financial Data Schedule.
b). Report on Form 8 - K. NONE
--------------------
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.
SUSQUEHANNA BANCSHARES, INC.
November 10, 1998
/s/ Robert S. Bolinger
----------------------
Robert S. Bolinger
President and Chief Executive Officer
November 10, 1998
/s/ Drew K. Hostetter
----------------------
Drew K. Hostetter
Vice President, Treasurer,
and Chief Financial Officer
18
Exhibit Index
-------------
Exhibit Description Method
- ------- ----------- ------
3.1 Articles of Incorporation. Previously filed. Incorporated
by reference to Attachment E
to the Registrant's Joint
Proxy Statement/Prospectus
on Registrant's Registration
Statement on Form S-4,
Registration No. 33-76319.
3.2 By-laws. Previously filed. Incorporated
by reference to
Exhibit(3)(b) of Registrant's
Annual Report on Form 10-K
for the fiscal year ended
December 31, 1994.
3.3 Amendment of June 1, 1998 Previously filed. Incorporated
to Registrant's Articles of by reference to Exhibit 3.3 of
Incorporation. Registrant's Quarterly Report
on Form 10-Q for the quarterly
period ended June 30, 1998.
27.1 Financial Data Schedule. Submitted electronically to
the Securities and Exchange
Commission for information
only and not filed.
19