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NORTH
COUNTRY
FINANCIAL
CORPORATION
2001
ANNUAL
REPORT
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TABLE OF CONTENTS
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To Our Shareholders............................................................1
Comparative Highlights.........................................................2
Five Year Comparisons..........................................................3
Independent Auditor's Report...................................................5
Consolidated Balance Sheets....................................................7
Consolidated Statements of Income..............................................8
Consolidated Statements of Changes in Shareholders' Equity.....................9
Consolidated Statements of Cash Flows.........................................10
Notes to Consolidated Financial Statements....................................12
Selected Financial Data.......................................................32
Summary Quarterly Financial Information.......................................33
Market Information............................................................34
Management's Discussion and Analysis of Financial
Condition and Results of Operations.........................................35
Board of Directors............................................................46
TO OUR SHAREHOLDERS
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[Corporation letterhead]
Dear Shareholder:
Your corporation ended 2001 with increases in net income, earnings per share,
retained earnings and shareholder's equity, compared to the previous year.
Management focused on increasing profits from existing operations. Our primary
subsidiary, North Country Bank and Trust, opened two new branch offices; one in
Boyne City, another in Ishpeming; and sold four. We currently have 26 branch
offices conveniently located throughout the Upper Peninsula and northern Lower
Michigan.
Although net assets decreased by approximately $30 million or 4.5% compared to
2000, the decrease is largely attributed to the sale of branch offices of the
bank in St. Ignace, Mackinac Island, Naubinway and Curtis, with total deposits
of $22.7 million.
Your North Country Mortgage Company subsidiary experienced a significant rise in
refinancing home mortgages, as the federal government lowered the federal funds
rate to a 40-year low.
This year, your common stock began trading on the NASDAQ Small Cap Market. We
also changed our trading symbol from NCUF to NCFC, effective August 31, 2001.
Your Board of Directors was expanded by six members, all of whom previously
served on the Board of Directors of North Country Bank and Trust. This action
increases the perspective with which we view our business and will enable the
board to more efficiently handle its workload as we continue to grow.
North Country Bank and Trust began sponsoring Economic Index reports on a
quarterly basis in 2001. These are the first reports in our region to include
wide ranging economic data as well as comments from Chamber of Commerce
representatives. In addition to receiving extensive media coverage of these
reports, we believe they provide vital information for commercial businesses in
our area.
The events of September 11 and an unseasonably warm winter began slowing our
local economy during the fourth quarter of 2001. As always, your bank maintains
adequate reserves to handle slow-paying or problem loans. We closely monitor our
loan portfolio at all times.
Next year, our bank customers will begin hearing about our new GENERATIONS GOLD
program, offering discounts and savings on a variety of products and services
our customers use everyday such as travel, long distance phone services and
pharmacy - in addition to a local merchant discount program. Ours will be the
only bank in northern Michigan to offer such a program. So, despite what was
considered a challenging fourth quarter in 2001, we are optimistic about 2002.
Thank you for your continued confidence and support.
Respectfully,
---------------------- ----------------------- ----------------------
RONALD G. FORD MICHAEL C. HENRICKSEN BERNARD A. BOUSCHOR
Chairman and C.E.O. Vice Chairman Vice Chairman
1
COMPARATIVE HIGHLIGHTS
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Dollars in thousands, except per share data
BALANCE SHEET STATISTICS 2001 2000 % CHANGE
Assets $636,629 $666,996 (4.61)%
Net loans 493,968 532,235 (7.19)
Deposits 482,524 531,883 (9.28)
Shareholders' equity 47,889 44,617 7.33
Shares of stock outstanding 7,019,152 6,993,684 0.36
Book value per share 6.82 6.38 6.90
OPERATING STATISTICS
Total income $60,562 $61,536 (1.58)%
Total expense 54,000 55,408 (2.54)
Income before income taxes 6,562 6,128 7.08
Net income 5,774 5,183 11.40
Basic earnings per share .82 .74 10.81
Diluted earnings per share .82 .73 12.33
DIVIDEND SUMMARY
(CASH DIVIDENDS DECLARED PER COMMON SHARE)
Quarter Ending
March 31 .10 .05
June 30 .10 .05
September 30 .10 .14
December 31 .00 .10
Total dividends .30 .34 (11.76)%
The above summary should be read in connection with the related consolidated
financial statements and notes included elsewhere in this report.
BUSINESS OF THE CORPORATION
North Country Financial Corporation is a registered bank holding company formed
under the Bank Holding Company Act of 1956, as amended. The principal assets of
the Corporation are its ownership of all of the outstanding capital stock of
North Country Bank and Trust, North Country Financial Group, North Country
Capital Trust, First Rural Relending Company, and First Manistique Agency. North
Country Bank and Trust, headquartered in Traverse City, Michigan, provides a
full range of commercial and retail banking services to customers in Michigan.
North Country Bank and Trust owns North Country Mortgage Company LLC, North
Country Employee Leasing Company LLC, and NCB Real Estate Company. North Country
Mortgage Company LLC is engaged in the business of mortgage lending and
brokering. North Country Employee Leasing Company LLC provides employees to
North Country Bank and Trust. NCB Real Estate Company owns several properties
used by the Bank. North Country Financial Group provides tax-exempt
lease/purchase financing to municipalities. North Country Capital Trust was
formed solely for the issuance of trust preferred securities. First Rural
Relending Company is a rural lending corporation. First Manistique Agency is
engaged in the selling of insurance.
FORM 10-K
A copy of the Annual Report to the Securities and Exchange Commission on Form
10-K is available without charge by writing Gary Klein, North Country Financial
Corporation, 1011 Noteware Drive, Traverse City, Michigan 49686.
MARKET SUMMARY
The common stock of North Country Financial Corporation was been traded in
private sales from October 1976 until April 18, 2000 at which time the stock
started trading on the NASDAQ Bulletin Board system. During 2001 the Corporation
received approval from Nasdaq for its common stock to be traded on the Nasdaq
Small Cap Market. The Corporation's symbol also changed from NCFU to NCFC. The
Corporation has 2,002 shareholders of record, as of January 31, 2002.
2
FIVE YEAR COMPARISONS
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ASSETS
Total assets on a consolidated
basis decreased by 4.6% during 2001
[BAR GRAPH] to $637 million. Total assets
have increased $215 million since
the end of 1997, an increase of
51% in four years.
PLOT POINTS:
1997 421,434
1998 471,381
1999 568,442
2000 666,996
2001 636,629
SECURITIES
Our portfolio of securities decreased
during 2001 to $62 million.
[BAR GRAPH] Management has utilized excess
deposit funds and the proceeds of
several borrowings to purchase high
yield and high quality investment
securities.
PLOT POINTS:
1997 10,103
1998 8,676
1999 43,343
2000 72,066
2001 61,885
NET LOANS Total net loans decreased
7.2% to $494 million in 2001. Even
[BAR GRAPH] though loan demand has slowed, our
primary lending objective continues to
PLOT POINTS: be one of selecting the highest
quality credits. Total loan losses
have remained at an acceptable level,
1997 367,000 and we continue to maintain a loan
1998 406,000 loss allowance above regulatory
1999 460,000 guidelines. The allowance for loan
2000 532,000 losses totaled $10 million at the end
2001 494,000 of 2001. We expect loan demand to
continue, with the majority being
commercial and business loans, which
represent 79% of the loan portfolio.
3
FIVE YEAR COMPARISONS
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DEPOSITS
Total Deposits decreased by 9.3% to
$483 million. In 2001, we paid our
[BAR GRAPH] depositors interest of $21 million
which goes back into our regional
economy.
PLOT POINTS:
1997 360,549
1998 404,961
1999 462,998
2000 531,883
2001 482,524
SHAREHOLDERS' EQUITY
During 2001, $3.3 million was added to
shareholdes' equity, increasing total
[BAR GRAPH] equity by 7.3%. In addition, cash
dividends of $0.30 per share, or
$2.1 million, were declared to our
shareholders during 2001. Book value
per share increased from $6.38 at
December 31, 2000 to $6.82 at
December 31, 2001.
PLOT POINTS:
1997 36,592
1998 39,469
1999 40,820
2000 44,617
2001 47,889
NET INCOME
Net income for 2001 was $5.8 million
as compared to $5.2 million for 2000.
[BAR GRAPH] Basic earnings per share for 2001
totaled $0.82 as compared to $0.74 for
2000.
PLOT POINTS:
1997 4,106
1998 4,561
1999 6,356
2000 5,183
2001 5,774
4
INDEPENDENT AUDITOR'S REPORT
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INDEPENDENT AUDITOR'S REPORT
TO THE SHAREHOLDERS OF
NORTH COUNTRY FINANCIAL CORPORATION
TRAVERSE CITY, MICHIGAN
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5
INDEPENDENT AUDITOR'S REPORT
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Independent Auditor's Report
Board of Directors and Shareholders
North Country Financial Corporation
Traverse City, Michigan
We have audited the accompanying consolidated balance sheets of North Country
Financial Corporation and Subsidiaries as of December 31, 2001 and 2000, and the
related consolidated statements of income, changes in shareholders' equity, and
cash flows for each of the three years in the period ended December 31, 2001.
These financial statements are the responsibility of the Corporation's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of North Country
Financial Corporation and Subsidiaries at December 31, 2001 and 2000, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 2001 in conformity with accounting principles
generally accepted in the United States.
Wipfli Ullrich Bertelson LLP
January 25, 2002
Appleton, Wisconsin
6
CONSOLIDATED BALANCE SHEETS
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
December 31, 2001 and 2000
(Dollars in Thousands)
- --------------------------------------------------------------------------------
2001 2000
---- ----
ASSETS
------
Cash and due from banks $ 25,163 $ 20,829
Federal funds sold 11,584 -0-
-------- --------
Cash and cash equivalents 36,747 20,829
Interest-bearing deposits in other financial institutions 634 -0-
Securities available for sale 61,885 72,066
Federal Home Loan Bank stock 4,375 3,989
Total loans 504,412 541,689
Allowance for loan losses (10,444) (9,454)
-------- --------
Net loans 493,968 532,235
Premises and equipment 18,637 18,850
Other assets 20,383 19,027
-------- --------
TOTAL ASSETS $636,629 $666,996
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LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Non-interest-bearing deposits $ 46,342 $ 50,479
Interest-bearing deposits 436,182 481,404
-------- --------
Total deposits 482,524 531,883
Federal funds purchased -0- 1,800
Borrowings 88,549 69,235
Other liabilities 5,217 7,011
-------- --------
Total liabilities 576,290 609,929
-------- --------
Guaranteed preferred beneficial interests in the
Corporation's subordinated debentures 12,450 12,450
-------- --------
Shareholders' equity:
Preferred stock - No par value:
Authorized 500,000 shares, no shares outstanding
Common stock - No par value:
Authorized - 18,000,000 shares
Issued and outstanding -- 7,019,152 and
6,993,684 shares at December 31, 2001 and 2000,
respectively 16,175 16,029
Retained earnings 31,554 27,887
Accumulated other comprehensive income 160 701
-------- --------
Total shareholders' equity 47,889 44,617
-------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $636,629 $666,996
======== ========
See accompanying notes to consolidated financial statements.
7
CONSOLIDATED STATEMENTS OF INCOME
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2001, 2000 and 1999
(Dollars in Thousands, Except Per Share Data)
- --------------------------------------------------------------------------------
2001 2000 1999
---- ---- ----
Interest income:
Interest and fees on loans
Taxable $41,373 $46,292 $36,903
Tax-exempt 3,405 3,771 3,554
Interest on securities:
Taxable 5,065 3,462 1,438
Tax-exempt 327 643 232
Other interest income 500 515 422
------- ------- -------
Total interest income 50,670 54,683 42,549
------- ------- -------
Interest expense:
Deposits 21,205 24,555 18,282
Borrowings 4,814 3,726 1,651
Subordinated debentures 823 1,140 669
------- ------- -------
Total interest expense 26,842 29,421 20,602
------- ------- -------
Net interest income 23,828 25,262 21,947
Provision for loan losses 3,200 5,875 1,457
------- ------- -------
Net interest income after provision for loan losses 20,628 19,387 20,490
------- ------- -------
Other income:
Service fees 1,851 1,982 1,965
Net security gains 1,073 110 -0-
Gain on sale of branches 1,386 292 430
Other loan and lease income 5,600 2,924 -0-
Gain (loss) on sale of property and equipment (349) 35 382
Other 331 1,510 761
------- ------- -------
Total other income 9,892 6,853 3,538
------- ------- -------
Other expenses:
Salaries, commissions and related benefits 11,882 9,433 6,362
Furniture and equipment expense 1,734 1,664 1,367
Occupancy expense 1,659 1,238 1,246
Data processing 1,609 1,722 1,370
Accounting, legal and consulting fees 1,435 1,118 874
Loan and deposit expense 1,387 1,078 343
Telephone 1,153 897 690
Amortization of acquisition intangibles 1,057 810 699
Advertising expense 794 942 594
Other 1,248 1,210 2,392
------- ------- -------
Total other expenses 23,958 20,112 15,937
------- ------- -------
Income before provision for income taxes 6,562 6,128 8,091
Provision for income taxes 788 945 1,735
------- ------- -------
Net income $ 5,774 $ 5,183 $ 6,356
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Earnings per share:
Basic $ 0.82 $ 0.74 $ 0.90
======= ======= =======
Diluted $ 0.82 $ 0.73 $ 0.89
======= ======= =======
See accompanying notes to consolidated financial statements.
8
See accompanying notes to consolidated financial statements.
9
Consolidated Statements of
Changes in Shareholders' Equity
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2001, 2000 and 1999
(Dollars in Thousands, Except Per Share Data)
- --------------------------------------------------------------------------------
Accumulated
Shares of Other
Common Common Retained Comprehensive
Stock Stock Earnings Income (Deficit) Total
--------- --------- ---------- ---------------- ---------
Balance, January 1, 1999 7,130,760 $ 19,436 $ 19,989 $ 44 $ 39,469
Net income 6,356 6,356
Other comprehensive deficit:
Net unrealized loss on
securities available for sale (700) (700)
----------
Total comprehensive income 5,656
Dividends declared ($.18 per share) (1,287) (1,287)
Issuance of common stock 22,407 480 480
Retirement of common stock (152,991) (3,498) (3,498)
--------- -------- -------- ----- ----------
Balance, December 31, 1999 7,000,176 16,418 25,058 (656) 40,820
Net income 5,183 5,183
Other comprehensive income:
Net unrealized gain on
securities available for sale 1,357 1,357
----------
Total comprehensive income 6,540
Dividends declared ($.34 per share) (2,354) (2,354)
Issuance of common stock 51,489 498 498
Retirement of common stock (57,981) (887) (887)
--------- -------- -------- ----- ----------
Balance, December 31, 2000 6,993,684 16,029 27,887 701 44,617
Net income 5,774 5,774
Other comprehensive deficit:
Net unrealized loss on
securities available for sale (541) (541)
----------
Total comprehensive income 5,233
Dividends declared ($.30 per share) (2,107) (2,107)
Issuance of common stock 30,533 239 239
Retirement of common stock (5,065) (93) (93)
--------- -------- -------- ----- ----------
Balance, December 31, 2001 7,019,152 $ 16,175 $ 31,554 $ 160 $ 47,889
========= ======== ======== ===== ==========
Consolidated Statements of Cash Flows
10
CONSOLIDATED STATEMENTS OF CASH FLOWS
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2001, 2000 and 1999
(Dollars in Thousands)
- --------------------------------------------------------------------------------
2001 2000 1999
--------- -------- --------
Increase (decrease) in cash and cash equivalents:
Cash flows from operating activities:
Net income $ 5,774 $ 5,183 $ 6,356
--------- -------- --------
Adjustments to reconcile net income to
net cash provided by operating activities:
Provision for loan losses 3,200 5,875 1,457
Provision for depreciation and net
amortization 2,683 2,281 2,247
Proceeds from loan sales 13,617 6,129 15,173
Loans originated for sale (13,371) (6,068) (15,146)
Gains on sales of:
Loans held for sale (246) (61) (27)
Securities (1,073) (110) -0-
Premises, equipment and other real estate 349 (35) (382)
Branches (1,386) (292) (430)
Change in other assets 6 (2,891) (503)
Change in other liabilities (1481) 622 (1,610)
---------- -------- --------
Total adjustments 2,298 5,450 3,999
--------- -------- --------
Net cash provided by operating activities 8,072 10,633 10,355
--------- -------- --------
Cash flows from investing activities:
Net (increase) decrease in interest-bearing
deposits in other financial institutions (634) 679 (679)
Payment for purchases of securities available for sale (85,917) (53,542) (38,875)
Proceeds from sale of securities available for sale 74,681 23,576 -0-
Proceeds from maturities of securities available for sale 21,715 3,543 3,131
Purchase of Federal Home Loan Bank stock (386) (955) -0-
Net increase in loans 30,643 (79,854) (57,168)
Proceeds from sale of premises, equipment,
and other real estate 1,693 2,096 1,231
Capital expenditures (2,298) (1,659) (2,603)
Net cash paid for branch sales (20,565) (4,540) (10,001)
Net cash provided from acquisitions -0- 13,985 15,504
---------- -------- --------
Net cash provided by (used in) investing activities 18,932 (96,671) (89,460)
---------- -------- --------
See accompanying notes to consolidated financial statements.
11
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
Years Ended December 31, 2001, 2000 and 1999
(Dollars in Thousands)
- --------------------------------------------------------------------------------
2001 2000 1999
-------- -------- -------
Cash flows from financing activities:
Net increase (decrease) in deposits $(26,639) $ 58,594 $ 51,440
Net increase (decrease) in federal funds
purchased (1,800) 1,800 -0-
Proceeds from borrowings 20,000 80,000 36,000
Principal payments on borrowings (686) (57,643) (12,392)
Net proceeds from issuance of guaranteed
preferred beneficial interests in the
Corporation's subordinated debentures -0- -0- 11,882
Proceeds from issuance of common stock 239 498 480
Retirement of common stock (93) (887) (3,498)
Dividends paid (2,107) (1,655) (1,287)
-------- -------- -------
Net cash provided by (used in) financing activities (11,086) 80,707 82,625
-------- -------- -------
Net increase (decrease) in cash and cash
equivalents 15,918 (5,331) 3,250
Cash and cash equivalents at beginning 20,829 26,160 22,640
-------- -------- -------
Cash and cash equivalents at end $ 36,747 $ 20,829 $ 26,160
======== ======== ========
Supplemental cash flow information:
Cash paid during the year for:
Interest $ 27,853 $ 27,929 $ 20,359
Income taxes 1,175 2,530 540
Noncash investing and financing activities:
Transfer of foreclosures from loans to
other real estate 4,413 1,481 1,561
Assets and liabilities acquired in acquisitions:
Premises and equipment -0- 204 286
Acquisition intangibles -0- 918 1,680
Other assets -0- 449 -0-
Deposits -0- 15,149 17,463
Other liabilities -0- 407 7
Assets and liabilities divested in branch sales:
Loans 11 8 -0-
Premises and equipment 705 31 65
Other assets 89 -0- -0-
Acquisition intangibles -0- -0- 370
Deposits 22,720 4,858 10,866
Other liabilities 36 13 -0-
See accompanying notes to consolidated financial statements.
12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accounting policies of North Country Financial Corporation (the
"Corporation") and Subsidiaries conform to accounting principles generally
accepted in the United States and prevailing practices within the banking
industry. Significant accounting policies are summarized below.
Principles of Consolidation
The consolidated financial statements include the accounts of the Corporation
and its wholly owned subsidiaries, North Country Bank and Trust (the "Bank"),
North Country Financial Group, North Country Capital Trust, and other minor
subsidiaries, after elimination of intercompany transactions and accounts.
Nature of Operations
The Corporation's and the Bank's revenues and assets are derived primarily from
the banking industry. The Bank's primary market area is Michigan. The Bank
provides to its customers commercial, real estate, agricultural, and consumer
loans, as well as a variety of traditional deposit products. A significant
portion of the Bank's commercial loan portfolio consists of leases to commercial
and governmental entities, which are secured by various types of equipment.
These leases are dispersed geographically throughout the country.
While the Corporation's chief decision makers monitor the revenue streams of the
various Corporation products and services, operations are managed and financial
performance is evaluated on a Corporation-wide basis. Accordingly, all of the
Corporation's banking operations are considered by management to be aggregated
in one reportable operating segment.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during the period.
Actual results could differ from those estimates.
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash on
hand, non-interest-bearing deposits in correspondent banks, and federal funds
sold. Generally, federal funds are purchased and sold for one-day periods.
Securities
The Corporation's securities are classified and accounted for as securities
available for sale. These securities are stated at fair value. Premiums and
discounts are recognized in interest income using the interest method over the
period to maturity. Unrealized holding gains and losses, net of tax, on
securities available for sale, are reported as accumulated other comprehensive
income within shareholders' equity until realized.
Gains and losses on the sale of securities are determined using the
specific-identification method.
Federal Home Loan Bank Stock
As a member of the Federal Home Loan Bank (FHLB) system, the Bank is required to
hold stock in the FHLB based on the anticipated level of borrowings to be
advanced. This stock is recorded at cost, which approximates fair value.
Transfer of the stock is substantially restricted.
13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Loans Held for Sale
Loans held for sale represent originations of fixed-rate, first mortgage loans
recorded at cost. The loans are sold at fair value shortly after origination
based on an agreement with an outside mortgage company.
Interest Income and Fees on Loans
Interest on loans is accrued and credited to income based on the principal
amount outstanding. The accrual of interest on loans is discontinued when, in
the opinion of management, there is an indication that the borrower may be
unable to meet payments as they become due. Upon such discontinuance, all unpaid
accrued interest is reversed. Loan-origination fees are credited to income when
received and the related loan origination costs are expensed as incurred.
Capitalization of the fees net of the related costs would not have a material
effect on the consolidated financial statements.
Allowance for Loan Losses
The allowance for loan losses includes specific allowances related to commercial
loans, which have been judged to be impaired. A loan is impaired when, based on
current information, it is probable that the Corporation will not collect all
amounts due in accordance with the contractual terms of the loan agreement.
These specific allowances are based on discounted cash flows of expected future
payments using the loan's initial effective interest rate or the fair value of
the collateral if the loan is collateral dependent.
The Corporation continues to maintain a general allowance for loan losses for
loans not considered impaired. The allowance for loan losses is maintained at a
level which management believes is adequate to provide for possible loan losses.
Management periodically evaluates the adequacy of the allowance using the
Corporation's past loan loss experience, known and inherent risks in the
portfolio, composition of the portfolio, current economic conditions, and other
factors. The allowance does not include the affects of expected losses related
to future events or future changes in economic conditions. This evaluation is
inherently subjective since it requires material estimates that may be
susceptible to significant change. Loans are charged against the allowance for
loan losses when management believes the collectibility of the principal is
unlikely. In addition, various regulatory agencies periodically review the
allowance for loan losses. These agencies may require additions to the allowance
for loan losses based on their judgments of collectibility.
In management's opinion, the allowance for loan losses is adequate to cover
probable losses relating to specifically identified loans, as well as probable
losses inherent in the balance of the loan portfolio as of the balance sheet
date.
Other Real Estate
Other real estate is carried at the lower of cost or fair value, less estimated
sales costs.
Premises and Equipment
Premises and equipment are stated at cost. Maintenance and repair costs are
charged to expense as incurred. Gains or losses on disposition of premises and
equipment are reflected in income. Depreciation is computed on the straight-line
method and is based on the estimated useful lives of the assets.
Acquisition Intangibles
The Corporation's acquisition intangibles include the value of ongoing customer
relationships (core deposits) and the excess of cost over the fair value of net
assets acquired (goodwill) arising from the purchase of certain assets and the
assumption of certain liabilities from unrelated entities. Core deposit
intangibles are amortized over a 10-year period and goodwill is amortized over
periods ranging from 15 to 25 years. Acquisition intangibles are periodically
reviewed for impairment. Any impairment in the intangibles would be recorded
against income in the period of impairment.
14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
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NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Advertising Costs
Advertising costs are expensed as incurred.
Earnings Per Common Share
Basic earnings per common share is net income divided by the weighted average
number of common shares outstanding during the period. Diluted earnings per
common share includes the dilutive effect of additional potential common shares
issuable under stock options and deferred stock compensation agreements.
Comprehensive Income
Comprehensive income consists of net income and other comprehensive income
(deficit). Other comprehensive income (deficit) includes unrealized gains and
losses on securities available for sale, net of tax, which are recognized as a
separate component of equity, accumulated other comprehensive income (deficit).
Income Taxes
Deferred income taxes have been provided under the liability method. Deferred
tax assets and liabilities are determined based upon the difference between the
financial statement and tax bases of assets and liabilities as measured by the
enacted tax rates which will be in effect when these differences are expected to
reverse. Deferred tax expense (credit) is the result of changes in the deferred
tax asset and liability.
Off-Balance-Sheet Financial Instruments
In the ordinary course of business, the Corporation has entered into
off-balance-sheet financial instruments consisting of commitments to extend
credit, commitments under credit card arrangements, commercial letters of
credit, and standby letters of credit. Such financial instruments are recorded
in the consolidated financial statements when they become payable.
Future Accounting Change
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 141, "Business Combinations" and
SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 supersedes
Accounting Principal Board (APB) Opinion No. 16, "Business Combinations", and
SFAS No. 38, "Accounting for Preacquisition Contingencies of Purchased
Enterprises." SFAS No. 141 requires the use of the purchase method of accounting
for business combinations initiated after June 30, 2001. SFAS No. 142 supersedes
APB Opinion No. 17, "Intangible Assets." SFAS No. 142 addresses how intangible
assets acquired outside of a business combination should be accounted for upon
acquisition and how goodwill and other intangible assets should be accounted for
after they have been initially recognized. SFAS No. 142 eliminates the
amortization for goodwill and other intangible assets with indefinite lives.
Other intangible assets with a finite life will be amortized over their useful
life. Goodwill and other intangible assets with indefinite useful lives shall be
tested for impairment annually or more frequently if events or changes in
circumstances indicate that the asset may be impaired. SFAS No. 142 is effective
for fiscal years beginning after December 15, 2001. The Corporation's adoption
of SFAS No. 142 on January 1, 2002 did not have a material impact on the
consolidated financial statements as of the date of adoption.
Reclassifications
Certain amounts in the 2000 and 1999 consolidated financial statements have been
reclassified to conform to the 2001 presentation.
15
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 2 - ACQUISITIONS AND DIVESTURES
In June 2000, the Corporation acquired branches in Glen Arbor and Alanson from
Old Kent Bank. The Corporation assumed deposits of $15,149,000 and other
liabilities of $44,000. Property and equipment of $139,000 was also acquired.
The transaction resulted in core deposit intangibles and goodwill of $664,000.
In August 2000, the Corporation acquired American Financial Mortgage
Corporation, a Michigan based mortgage company, through a stock purchase. Total
assets acquired and liabilities assumed were $514,000 and $363,000,
respectively. The transaction resulted in goodwill of $254,000. In August 2001
American Financial Mortgage Corporation ceased operations.
In May 1999, the Corporation acquired branches in Kaleva and Mancelona from
Huntington National Bank. The Corporation assumed deposits of $17,463,000 and
other liabilities of $7,000. Premises and equipment of $286,000 was also
acquired. The transaction resulted in core deposit intangibles and goodwill of
$1,680,000.
The above acquisitions have been accounted for under the purchase method of
accounting. Accordingly, the assets, liabilities, and results of operations are
included in the Corporation's consolidated financial statements as of and
subsequent to the respective acquisition dates. Note 7 provides information
regarding acquisition intangibles.
In July 2001, the Corporation sold deposits and certain assets of the St. Ignace
and Mackinaw Island branches and in November 2001, sold deposits and certain
assets of the Curtis and Naubinway branches. Deposits of $22,720,000, other
liabilities of $36,000, and assets of $ 794,000 were divested in transactions
that resulted in a gain on sale of $1,386,000.
In January 2000, the Corporation sold a branch in Garden. Deposits of
$4,858,000, other liabilities of $13,000, and assets of $39,000 were divested in
the transaction which resulted in a net gain on sale of $292,000.
In July 1999, the Corporation sold branches in Rudyard and Cedarville. Deposits
of $10,866,000 and premises and equipment of $65,000 were divested in the
transaction at a premium of $800,000. After consideration for unamortized
intangible assets related to such branches, the transaction resulted in a net
gain on sale of $430,000.
Information regarding assets and liabilities acquired or divested in these
transactions is presented on the consolidated statements of cash flows.
NOTE 3 - RESTRICTIONS ON CASH AND CASH EQUIVALENTS
Cash and cash equivalents in the amount of $9,715,000 and $8,657,000 were
restricted at December 31, 2001 and 2000, respectively, to meet the reserve
requirements of the Federal Reserve System.
NOTE 4 - SECURITIES AVAILABLE FOR SALE
The amortized cost and estimated fair value of securities available for sale as
of December 31 are as follows (dollars in thousands):
2001
-----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gains Losses Fair Value
----------- ----------- ---------- -----------
U.S. Treasury securities and
obligations of U.S. government agencies $ 3,350 $ $ 222 $ 3,128
Obligations of states and political subdivisions 5,288 215 85 5,418
Corporate securities 8,063 508 8,571
Mortgage-related securities 44,941 85 258 44,768
------- ------ ------ -------
Total securities available for sale $61,642 $ 808 $ 565 $61,885
======= ====== ====== =======
16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 4 - SECURITIES AVAILABLE FOR SALE (CONTINUED)
2000
-----------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gains Losses Fair Value
--------- --------- -------- -----------
U.S. Treasury securities and
obligations of U.S. government agencies $10,946 $ 33 $ 97 $10,882
Obligations of states and political subdivisions 14,754 858 70 15,542
Corporate securities 4,553 237 50 4,740
Mortgage-related securities 40,752 231 81 40,902
------- ------- ------ -------
Total securities available for sale $71,005 $ 1,359 $ 298 $72,066
======= ======= ====== =======
Following is a summary of the proceeds from sales of securities available for
sale, as well as gross gains and losses for the years ended December 31 (dollars
in thousands):
2001 2000 1999
------- ------- ------
Proceeds from sale of securities $74,681 $23,576 $-0-
Gross gains on sales 1,116 110 -0-
Gross losses on sales 43 -0- -0-
The amortized cost and estimated fair value of securities available for sale at
December 31, 2001, by contractual maturity, are shown below (dollars in
thousands). Contractual maturities may differ from expected maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties.
Amortized Estimated
Cost Fair Value
--------- ----------
Due in one year or less $ 55 $ 56
Due after one year through five years 2,237 2,332
Due after five years through ten years 1,538 1,612
Due after ten years 12,871 13,117
------- -------
16,701 17,117
Mortgage-related securities 44,941 44,768
------- -------
Total $61,642 $61,885
======= =======
The amortized cost and estimated fair value of securities pledged to secure
treasury deposits was $769,000 and $771,000, respectively, as of December 31,
2001. See note 9 for information on securities pledged to secure borrowings from
the Federal Home Loan Bank.
17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 5 - LOANS
The composition of loans at December 31 follows (dollars in thousands):
2001 2000
-------- --------
Commercial, financial, and agricultural $314,853 $308,421
Commercial and governmental leases 82,442 97,167
1-4 family residential real estate 93,574 113,834
Consumer 9,516 13,059
Construction 4,027 9,208
-------- --------
Total loans $504,412 $541,689
======== ========
An analysis of the allowance for loan losses for the years ended December 31
follows (dollars in thousands):
2001 2000 1999
-------- -------- --------
Balance, January 1 $ 9,454 $ 6,863 $ 6,112
Provision for loan losses 3,200 5,875 1,457
Recoveries on loans 748 144 102
Loans charged off (2,958) (3,428) (808)
-------- -------- --------
Balance, December 31 $ 10,444 $ 9,454 $ 6,863
======== ======== ========
The aggregate amount of nonperforming residential and consumer loans was
approximately $960,000 and $258,000 at December 31, 2001 and 2000 respectively.
Nonperforming loans are those which are contractually past due 90 days or more
as to interest or principal payments, on nonaccrual status, or loans, the terms
of which, have been renegotiated to provide a reduction or deferral of interest
or principal. The interest income recorded and that which would have been
recorded had residential and consumer nonaccrual and renegotiated loans been
current or not troubled, are not material to the consolidated financial
statements for the years ended December 31, 2001 and 2000. The nonperforming
commercial loans are reflected in the information regarding impaired loans.
Information regarding impaired loans follows (dollars in thousands):
As of December 31:
2001 2000 1999
------- ------- -------
Investment in impaired loans $25,524 $19,514 $ 5,604
Impaired loans on non-accrual 3,055 10,507 -0-
Amount of the allowance allocated 3,708 3,451 704
For the years ended December 31:
2001 2000 1999
------- ------- -------
Average investment in impaired loans $23,154 $22,650 $ 6,128
Interest income recognized during impairment 1,521 1,125 298
Interest income that would have been recognized
on an accrual basis 1,597 1,478 369
Cash-basis interest income recognized 1,072 832 299
The Bank, in the ordinary course of business, grants loans to the Corporation's
executive officers and directors, including their families and firms in which
they are principal owners. Activity in such loans during 2001 is summarized
below (dollars in thousands).
Substantially all loans to executive officers and directors were made on the
same terms, including interest rates and collateral, as those prevailing at the
time for comparable transactions with others and did not involve more than the
normal risk of collectibility or present other unfavorable features.
18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 5 - LOANS (CONTINUED)
Loans outstanding, January 1, 2001 $ 12,789
New loans 4,678
Repayment (6,813)
Net activity related to new or retired directors for 2001 30
--------
Loans outstanding, December 31, 2001 $ 10,684
========
NOTE 6 - PREMISES AND EQUIPMENT
Details of premises and equipment at December 31 follow (dollars in thousands):
2001 2000
------- -------
Land $ 2,698 $ 2,781
Buildings and improvements 15,987 15,374
Furniture, fixtures, and equipment 9,434 10,812
------- -------
Totals 28,119 28,967
Less - Accumulated depreciation and amortization 9,482 10,117
------- -------
Net book value $18,637 $18,850
======= =======
Depreciation and amortization of premises and equipment charged to operating
expenses amounted to $1,672,000 in 2001, $1,582,000 in 2000 and $1,523,000 in
1999.
NOTE 7 - ACQUISITION INTANGIBLES
Included in other assets are intangible assets acquired through acquisitions.
Acquisition intangibles consist of the following as of December 31, net of
amortization (dollars in thousands):
2001 2000
------ ------
Goodwill $3,536 $4,073
Core deposit intangible 2,118 2,637
------ ------
Total acquisition intangibles $5,654 $6,710
====== ======
NOTE 8 - DEPOSITS
The distribution of deposits at December 31 is as follows (dollars in
thousands):
2001 2000
-------- --------
Non-interest-bearing demand deposits $ 46,342 $ 50,479
Savings, money market, and interest-bearing demand deposits 247,863 241,787
Time deposits 188,319 239,617
-------- --------
Total deposits $482,524 $531,883
======== ========
Retail time deposits of $100,000 or more were $37,387,000 and $66,163,000 at
December 31, 2001 and 2000, respectively. Interest expense on retail time
deposits of $100,000 or more was $2,731,000, $3,522,000 and $1,357,000 for the
years ended December 31, 2001, 2000 and 1999, respectively. Brokered time
deposits were $24,964,000, $14,964,000 and $0 at
19
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 8 - DEPOSITS (CONTINUED)
December 31, 2001, 2000 and 1999, respectively. Interest expense on brokered
deposits was $1,387,000, $863,000 and $0 for the years ended December 31, 2001,
2000 and 1999, respectively.
Maturities of time deposits outstanding at December 31, 2001, are as follows
(dollars in thousands):
2002 $148,164
2003 19,002
2004 16,551
2005 2,748
2006 98
Thereafter 1,756
--------
$188,319
========
NOTE 9 - BORROWINGS
Borrowings consist of the following at December 31 (dollars in thousands):
2001 2000
-------- --------
Federal Home Loan Bank:
Fixed-rate advance at 7.37%, maturing April 15, 2004 $ 96 $ 115
Fixed-rate advance at 7.59%, maturing May 17, 2004 169 203
Fixed-rate advance at 6.35%, maturing July 7, 2004 1,000 1,000
Fixed-rate advance at 6.50%, maturing October 17, 2005 1,651 1,974
Fixed-rate advance at 7.06%, maturing May 15, 2006 3,951 4,196
Adjustable-rate advance, callable June 24, 2002,
maturing June 23, 2008, 5.49% at December 31, 2001 and 2000 10,000 10,000
Adjustable-rate advance, callable January 22, 2002
maturing October 21, 2009, 5.66% at December 31, 2001 and 2000 10,000 10,000
Adjustable-rate advance, callable February 22, 2002,
maturing February 22, 2010, 6.22% at December 31, 2001 and 2000 10,000 10,000
Adjustable-rate advance, callable March 22, 2002,
maturing June 22, 2010, 6.50% at December 31, 2001 and 2000 10,000 10,000
Adjustable-rate advance, callable March 25, 2002,
maturing June 23, 2010, 5.99% at December 31, 2001 and 2000 5,000 5,000
Adjustable-rate advance, callable March 20, 2002,
maturing December 20, 2010, 4.98% at December 31, 2001 and 2000 5,000 5,000
Adjustable-rate advance, callable December 29, 2003,
maturing December 28, 2010, 5.16% at December 31, 2001 and 2000 10,000 10,000
Adjustable-rate advance, callable January 8, 2002,
maturing January 10, 2011, 4.50% at December 31, 2001 10,000 -0-
Adjustable-rate advance, callable February 5, 2002,
maturing February 5, 2011, 4.35% at December 31,2001 10,000 -0-
------- -------
86,867 67,488
Farmers Home Administration:
Fixed-rate note payable to Farmers Home Administration,
maturing August 24, 2024, interest payable at 1% 1,682 1,747
------- -------
Total borrowings $88,549 $69,235
======= =======
20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 9 - BORROWINGS (CONTINUED)
- -------------------
Maturities of borrowings outstanding at December 31, 2001, are as follows
(dollars in thousands):
2002 $ 734
2003 788
2004 1,987
2005 881
2006 2,810
Thereafter 81,349
-------
$88,549
=======
The Federal Home Loan Bank borrowings are collateralized by the following: a
blanket collateral agreement on the Corporation's 1-4 family residential real
estate; U.S. Government agency and Mortgage-Backed securities with an amortized
cost and estimated fair value of $47,432,000 and $47,035,000, respectively, at
December 31, 2001; and by Federal Home Loan Bank stock owned by the Bank
totaling $4,375,000 at December 31, 2001. Prepayment of the advances is subject
to the provisions and conditions of the credit policy of the Federal Home Loan
Bank of Indianapolis in effect as of December 31, 2001.
The Farmers Home Administration borrowing is collateralized by loans totaling
$1,600,000 originated and held by the Corporation's wholly owned subsidiary,
First Rural Relending, and guaranteed by the Corporation.
NOTE 10 - INCOME TAXES
The components of the federal income tax provision for the years ended December
31 follow (dollars in thousands):
2001 2000 1999
---- ---- ----
Current tax expense $1,310 $ 2,062 $1,853
Deferred tax credit (522) (1,117) (118)
------ ------- ------
Total provision for income taxes $ 788 $ 945 $1,735
====== ======= ======
Deferred income taxes are provided for the temporary differences between the
financial reporting and tax bases of the Corporation's assets and liabilities.
The major components of net deferred tax assets at December 31 are as follows
(dollars in thousands):
2001 2000
---- ----
Deferred tax assets:
Allowance for loan losses $ 3,457 $ 3,050
Deferred compensation 379 495
Other 162 -0-
------- --------
Total deferred tax assets 3,998 3,545
------- --------
Deferred tax liabilities:
Depreciation (999) (1,058)
Unrealized gain on securities available for sale (83) (360)
Other (139) (149)
------- --------
Total deferred tax liabilities (1,221) (1,567)
------- --------
Net deferred tax asset $ 2,777 $ 1,978
======= ========
21
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 10 - INCOME TAXES (CONTINUED)
- ----------------------
A summary of the source of differences between income taxes at the federal
statutory rate and the provision for income taxes for the years ended December
31 follows (dollars in thousands):
2001 2000 1999
---- ---- ----
Tax expense at statutory rate $2,231 $ 2,084 $ 2,751
Increase (decrease) in taxes resulting from:
Tax-exempt interest (1,115) (1,263) (1,122)
Other (328) 124 106
------ ------- -------
Provision for income taxes $ 788 $ 945 $ 1,735
====== ======= =======
Included in the total provision for income taxes are expenses of $365,000,
$37,000 and $0 for the years ended December 31, 2001, 2000 and 1999,
respectively, related to security transactions.
NOTE 11 - RETIREMENT PLAN
The Corporation has established a 401(k) profit-sharing plan. Employees who have
completed three months of service and attained the age of 18 are eligible to
participate in the plan. Eligible employees can elect to have a portion, not to
exceed 15%, of their annual compensation paid into the plan. In addition, the
Corporation may make discretionary contributions into the plan. Retirement plan
contributions charged to operations totaled $180,000, $153,000 and $159,000 for
2001, 2000 and 1999, respectively.
NOTE 12 - DEFERRED COMPENSATION PLANS
As an incentive to retain key members of management and directors, the
Corporation has a deferred compensation plan, with benefits based on the number
of years the individuals have served the Corporation. A liability is recorded on
a present value basis and discounted using current market rates. The liability
may change depending upon changes in long-term interest rates. The liability at
December 31, 2001 and 2000, for vested benefits under this plan, was $1,191,000
and $1,206,000, respectively. The Corporation maintains life insurance policies
on the plan participants. Death benefits received from the life insurance
policies will be used to offset the obligations under the plan. The cash
surrender value of the policies was $1,345,000 and $1,047,000 at December 31,
2001 and 2000, respectively.
The Corporation sponsored a deferred stock compensation plan for directors,
which was terminated in January 2001. Directors were allowed to defer their
director's fees under the plan. The deferred compensation was computed as stock
equivalents as the compensation was earned. Upon termination of the plan,
directors received the deferred compensation in the form of common stock or
cash. The liability to this plan was $485,000 at December 31, 2000.
Deferred compensation expense for the plans was $104,000, $339,000 and $248,000
for 2001, 2000 and 1999, respectively.
NOTE 13 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S
SUBORDINATED DEBENTURES
In May 1999, the Corporation formed a Delaware business trust, North Country
Capital Trust (the "Trust"). All of the common securities of this special
purpose trust are owned by the Corporation. The Trust exists solely to issue
capital securities. For financial reporting purposes, the Trust is reported as a
subsidiary and is consolidated into the financial statements of the Corporation.
The capital securities are presented as a separate line item on the consolidated
balance sheet as guaranteed preferred beneficial interests in the Corporation's
subordinated debentures (trust preferred securities).
22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 13 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S
- ------------------------------------------------------------------------
SUBORDINATED DEBENTURES (CONTINUED)
- --------------------------
The Trust has issued trust preferred securities and invested the net proceeds in
subordinated debentures issued to the Trust by the Corporation. The subordinated
debentures are the sole asset of the Trust. The Corporation, through guarantees
and agreements, has fully and unconditionally guaranteed all of the Trust's
obligations under the trust preferred securities.
The Federal Reserve Bank has accorded the trust preferred securities Tier I
capital status. The ability to apply Tier I capital treatment, as well as to
deduct the expense of the subordinated debentures for income tax purposes,
provided the Corporation with a cost-effective way to raise regulatory capital.
The trust preferred securities are not included as a component of total
shareholders' equity on the consolidated balance sheet.
The trust preferred securities carry a floating rate of the three month LIBOR
plus 2.5% and have a stated maturity date of May 14, 2029. The rate at December
31, 2001 was 4.525%. The securities are redeemable at par after May 14, 2009.
Distributions on the trust preferred securities are payable quarterly on
February 14, May 14, August 14 and November 14.
NOTE 14 - SHAREHOLDERS' EQUITY
Earnings per share are based upon the weighted average number of shares
outstanding. The following shows the computation of basic and diluted earnings
per share for the years ended December 31 (dollars in thousands, except per
share data):
Weighted
Average
Number of Earnings Per
Net Income Shares Share
---------- --------- ------------
2001
Earnings per share - Basic $ 5,774 7,018,921 $ 0.82
======
Effect of stock options - Net 2,414
Effect of deferred stock compensation 319
-------- ---------
Earnings per share - Diluted $ 5,774 7,021,653 $ 0.82
======== ========= ======
2000
Earnings per share - Basic $ 5,183 6,980,979 $ 0.74
======
Effect of stock options - Net 6,409
Effect of deferred stock compensation 77,538
-------- ---------
Earnings per share - Diluted $ 5,183 7,064,926 $ 0.73
======== ========= ======
1999
Earnings per share - Basic $ 6,536 7,031,203 $ 0.90
======
Effect of stock options - Net 67,972
Effect of deferred stock compensation 21,886
-------- ---------
Earnings per share - Diluted $ 6,536 7,121,061 $ 0.89
======== ========= ======
23
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 14 - SHAREHOLDERS' EQUITY (CONTINUED)
- ------------------------------
The Corporation is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Corporation's consolidated financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt corrective
action, the Corporation must meet specific capital guidelines that involve
quantitative measures of the Corporation's assets, liabilities, and certain
off-balance-sheet items as calculated under regulatory accounting practices. The
Corporation's capital amounts and classification are also subject to qualitative
judgments by the regulators about components, risk weightings, and other
factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Corporation to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier I capital to risk-weighted assets and of Tier I
capital to average assets. Management believes, as of December 31, 2001, the
Corporation meets all capital adequacy requirements to which it is subject.
As of December 31, 2001, the most recent notification from the Federal Deposit
Insurance Corporation categorized the Bank as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based,
and Tier I leverage ratios as set forth in the table. There are no conditions or
events since that notification that management believes have changed the
subsidiary bank's category.
The Corporation's and the Bank's actual and required capital amounts and ratios
as of December 31 are as follows (dollars in thousands):
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
------------- ------------------------ ---------------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
2001
- ----
Total capital (to risk-
weighted assets):
Consolidated $60,131 12.3% > = $38,899 > = 8.0% N/A
North Country Bank & Trust $59,334 12.2% > = $38,707 8.0% > = $48,384 > = 10.0%
Tier I capital (to risk-
weighted assets):
Consolidated $ 53,999 11.1% > = $19,449 > = 4.0% N/A
North Country Bank & Trust $ 53,233 11.0% > = $19,353 > = 4.0x% > = $29,030 > = 6.0%
Tier I capital (to average assets):
Consolidated $ 53,999 8.4% > = $25,593 > = 4.0% N/A
North Country Bank & Trust $ 53,233 8.4% > = $25,465 > = 4.0% > = $31,832 > = 5.0%
24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 14 - SHAREHOLDERS' EQUITY (CONTINUED)
- ------------------------------
2000
- ----
Total capital (to risk- weighted assets):
Consolidated $55,285 11.3% > = $39,497 > = 8.0% N/A
North Country Bank & Trust $55,428 11.2% > = $39,241 > = 8.0% > = $49,051 > = 10.0%
Tier I capital (to risk- weighted assets):
Consolidated $49,097 10.0% > = $19,638 > = 4.0% N/A
North Country Bank & Trust $49,271 10.1% > = $19,513 > = 4.0% > = $29,269 > = 6.0%
Tier I capital (to average assets):
Consolidated $49,097 7.6% > = $25,840 > = 4.0% N/A
North Country Bank & Trust $49,271 7.6% > = $25,932 > = 4.0% > = $32,415 > = 5.0%
The Bank is restricted, by banking regulations, from making dividend
distributions above prescribed amounts. At December 31, 2001, the Bank could
have paid $20,627,000 of additional dividends to the Corporation without prior
regulatory approval.
In June 2000, the Board of Directors adopted a Shareholder Rights Plan to
protect shareholders against attempts to acquire control of the Corporation by
means of "creeping" acquisitions in the open market, a hostile tender offer made
at less than a full and fair price, and other takeover tactics that can be used
to deprive shareholders of the ability to get a full and fair price for all of
their shares in the context of a change in control. The Rights Plan was not
adopted in response to any specific effort to acquire control of the
Corporation.
NOTE 15 - STOCK OPTION PLANS
The Corporation sponsors three stock option plans. One plan was approved during
2000 and applies to officers, employees and nonemployee directors. A total of
500,000 shares were made available for grant under this plan. The other two
plans, one for officers and employees and the other for nonemployee directors,
were approved in 1997. A total of 600,000 shares were made available for grant
under these plans. Options under all of the plans are granted at the discretion
of a committee of the Corporation's Board of Directors. Options to purchase
shares of the Corporation's stock are granted at a price equal to the market
price of the stock at the date of grant. The committee determines the vesting of
the options when they are granted as established under the plan.
The fair value of each option granted is estimated on the grant date using the
Black-Scholes methodology. The following assumptions were made in estimating
fair value for options granted for the years ended December 31:
2001 2000 1999
---- ---- ----
Dividend yield 3.90% 2.88% 0.90%
Risk-free interest rate 1.62% 7.00% 5.50%
Weighted average expected life (years) 7.0 7.0 7.0
Expected volatility 32.07% 31.45% 16.46%
The weighted average fair value of options granted as of their grant date, using
the assumptions shown above, was computed at $2.69 per share for options granted
in 2001, $1.68 per share for options granted in 2000 and $0.94 per share for
options granted in 1999.
25
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 15 - STOCK OPTION PLANS (CONTINUED)
- ----------------------------
No compensation cost has been recognized for the plans. Had compensation cost
been determined on the basis of fair value, net income and earnings per share
would have been reduced for the years ended December 31, as follows (dollars in
thousands except per share data):
2001 2000 1999
---- ---- ----
Net income:
----------
As reported $ 5,774 $ 5,183 $ 6,356
======= ======= =======
Pro forma $ 5,313 $ 5,043 $ 6,288
======= ======= =======
Earnings per share - Basic:
As reported $ 0.82 $ 0.74 $ 0.90
======= ======= =======
Pro forma $ 0.76 $ 0.72 $ 0.89
======= ======= =======
Earnings per share - Diluted:
As reported $ 0.82 $ 0.73 $ 0.89
======= ======= =======
Pro forma $ 0.76 $ 0.71 $ 0.88
======= ======= =======
Following is a summary of stock option transactions for the years ended
December 31:
Number of Shares
----------------------------------
2001 2000 1999
---- ---- ----
Outstanding at beginning of year 677,997 573,145 331,895
Granted during the year 216,800 201,700 244,400
Expired during the year -0- (84,698) -0-
Exercised during the year (at prices
ranging from $4.17 to $4.26 per share) -0- (12,150) (3,150)
-------- -------- --------
Outstanding at end of year 894,747 677,997 573,145
======== ======== ========
Weighted average exercise price per share
at end of year $ 14.50 $ 16.65 $ 18.34
======== ======== ========
Available for grant at end of year 120,573 337,373 39,073
======== ======== ========
Options granted during 2001 were granted at a price of $7.80. Options granted in
2000 were granted at prices of $9.25, $12.00 and $15.00. Options granted in 1999
were granted at a price of $20.00. Under these plans, options expire ten years
after the date of grant.
26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 15 - STOCK OPTION PLANS (CONTINUED)
- ----------------------------
Following is a summary of the options outstanding at December 31, 2001:
Outstanding Options Exercisable Options
------------------------------------ -------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Exercise Contractual Exercise Exercise
Price Range Number Life-Years Price Number Price
----------- ------ ----------- -------- ------- --------
$4.25 to $15.00 541,997 8.07 $ 10.85 470,531 $ 10.88
$19.00 to $20.33 352,800 7.08 20.11 244,800 20.16
------- ---- ------- ------- -------
894,797 7.68 $ 14.50 715,331 $ 14.06
======= ==== ======= ======= =======
NOTE 16 - OTHER COMPREHENSIVE INCOME (DEFICIT)
Other comprehensive income (deficit) components and related taxes were as
follows (dollars in thousands):
2001 2000 1999
---- ---- ----
Unrealized holding gains (losses) on
available for sale securities $ 255 $ 2,166 $ (1,061)
Less reclassification adjustments for gains
later recognized in income 1,073 110 -0-
------- ------- --------
Net unrealized gains (losses) (818) 2,056 (1,061)
Tax effect (277) 699 (361)
------- ------- --------
Other comprehensive income (deficit) $ (541) $ 1,357 $ (700)
======= ======= ========
NOTE 17 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK
Financial Instruments With Off-Balance-Sheet Risk
The Corporation is a party to financial instruments with off-balance-sheet risk
in the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit and standby
letters of credit. Those instruments involve, to varying degrees, elements of
credit risk in excess of the amount recognized in the balance sheets.
The Corporation's exposure to credit loss, in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit and
standby letters of credit, is represented by the contractual amount of those
instruments. The Corporation uses the same credit policies in making commitments
and conditional obligations as it does for on-balance-sheet instruments. These
commitments at December 31 are as follows (dollars in thousands):
2001 2000
---- ----
Commitments to extend credit $ 112,587 $ 119,763
Standby letters of credit 13,967 14,601
Credit card commitments 5,394 5,612
--------- ---------
$ 131,948 $ 139,976
========= =========
27
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 17 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK (CONTINUED)
- -----------------------------------------------------
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Corporation evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Corporation upon extension of credit, is based on
management's credit evaluation of the party. Collateral held varies but may
include accounts receivable; inventory; property, plant, and equipment; and
income-producing commercial properties.
Standby letters of credit are conditional commitments issued by the Corporation
to guarantee the performance of a customer to a third party. Those guarantees
are primarily issued to support public and 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. The commitments are
structured to allow for 100% collateralization on all standby letters of credit.
Credit card commitments are commitments on credit cards issued by the
Corporation's subsidiary and serviced by other companies. These commitments are
unsecured.
Contingencies
In the normal course of business, the Corporation is involved in various legal
proceedings. In the opinion of management, any liability resulting from such
proceedings would not have a material adverse effect on the consolidated
financial statements.
Concentration of Credit Risk
The Corporation's subsidiary Bank grants commercial, residential, agricultural,
and consumer loans throughout Michigan. The Bank's most prominent concentration
in the loan portfolio relates to commercial loans to entities within the hotel
and tourism industry. This concentration represents $97.7 million or 24.3% of
the commercial loan portfolio. The remainder of the commercial loan portfolio is
diversified in such categories as gaming, petroleum, forestry, and agriculture.
Due to the diversity of the Bank's locations, the ability of debtors of
residential and consumer loans to honor their obligations is not tied to any
particular economic sector.
NOTE 18 - FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair value estimates, methods, and assumptions are set forth below for the
Corporation's financial instruments:
Cash, cash equivalents and interest-beating deposits - The carrying values
approximate the fair values for these assets.
Securities - Fair values are based on quoted market prices where available. If a
quoted market price is not available, fair value is estimated using quoted
market prices for similar securities.
Federal Home Loan Bank stock - Federal Home Loan Bank stock is carried at cost,
which is its redeemable value, since the market for this stock is limited.
Loans - Fair values are estimated for portfolios of loans with similar financial
characteristics. Loans are segregated by type such as commercial, residential
mortgage, and other consumer. The fair value of loans is calculated by
discounting scheduled cash flows using discount rates reflecting the credit and
interest rate risk inherent in the loan.
The methodology in determining fair value of nonaccrual loans is to average them
into the blended interest rate at 0% interest. This has the effect of decreasing
the carrying amount below the risk-free rate amount and therefore discounts the
estimated fair value.
Impaired loans are measured at the estimated fair value of the expected future
cash flows at the loan's effective interest rate or the fair value of the
collateral for loans which are collateral dependent. Therefore, the carrying
values of impaired loans
28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 18 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
- ---------------------------------------------
approximate the estimated fair values for these assets.
Deposit liabilities - The fair value of deposits with no stated maturity, such
as non-interest-bearing demand deposits and savings, is equal to the amount
payable on demand at the reporting date. The fair value of time deposits is
based on the discounted value of contractual cash flows applying interest rates
currently being offered on similar time deposits.
Federal funds purchased and borrowings - Rates currently available for debt with
similar terms and remaining maturities are used to estimate the fair value of
existing debt. The fair value of borrowed funds due on demand is the amount
payable at the reporting date.
Guaranteed preferred beneficial interests in the Corporation's subordinated
debentures - The carrying value is considered to estimate fair value as this
financial instrument reprices frequently and fully.
Off-balance-sheet instruments - The fair value of commitments is estimated using
the fees currently charged to enter into similar agreements, taking into account
the remaining terms of the agreements, the current interest rates, and the
present creditworthiness of the counterparties. Since this amount is immaterial,
no amounts for fair value are presented.
The following table presents information for financial instruments at December
31 (dollars in thousands):
2001 2000
---------------------- -----------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
--------- ---------- --------- ----------
Financial assets:
Cash and cash equivalents $ 36,747 $ 36,747 $ 20,829 $ 20,829
Interest-bearing deposits 634 634 -0- -0-
Securities available for sale 61,885 61,885 72,066 72,066
Federal Home Loan Bank stock 4,375 4,375 3,989 3,989
Net loans 493,968 506,498 532,235 535,318
--------- --------- --------- ---------
Total financial assets $ 597,609 $ 610,139 $ 629,119 $ 632,202
========= ========= ========= =========
Financial liabilities:
Deposits $ 482,524 $ 486,618 $ 531,883 $ 531,567
Federal funds purchased and
borrowings 88,549 93,626 71,035 72,281
Guaranteed preferred beneficial
interests in the Corporation's
subordinated debentures 12,450 12,450 12,450 12,450
--------- --------- --------- ---------
Total financial liabilities $ 583,523 $ 592,694 $ 615,368 $ 616,298
========= ========= ========= =========
Limitations - Fair value estimates are made at a specific point in time based on
relevant market information and information about the financial instrument.
These estimates do not reflect any premium or discount that could result from
offering for sale at one time the Corporation's entire holdings of a particular
financial instrument. Because no market exists for a significant portion of the
Corporation's financial instruments, fair value estimates are based on judgments
regarding future expected loss experience, current economic conditions, risk
characteristics of various financial instruments, and other factors. These
estimates are subjective in nature and involve uncertainties and matters of
significant judgment and therefore cannot be determined with precision. Changes
in assumptions could significantly affect the estimates. Fair value estimates
are based on existing on- and off-balance-sheet financial instruments without
attempting to estimate the value of anticipated future business and the value of
assets and liabilities that are not considered financial instruments.
Significant assets and liabilities that are not considered financial assets or
liabilities include premises and equipment, other assets, and other liabilities.
In addition, the tax ramifications related to the realization of the unrealized
gains a,nd losses can have a significant effect on fair value estimates and have
not been considered in the estimates.
29
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS
BALANCE SHEETS
December 31, 2001 and 2000
(Dollars in Thousands)
2001 2000
------- -------
ASSETS
Cash and cash equivalents $ 42 $ 132
Securities available for sale 266 233
Investment in subsidiaries 59,372 57,323
Other assets 1,167 1,188
------- -------
TOTAL ASSETS $60,847 $58,876
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Dividends payable $ 0 $ 699
Other liabilities 122 724
------- -------
Total liabilities 122 1,423
Subordinated debentures 12,836 12,836
Total shareholders' equity 47,889 44,617
------- -------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $60,847 $58,876
======= =======
30
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
STATEMENTS OF INCOME
Years Ended December 31, 2001, 2000 and 1999
(Dollars in Thousands)
2001 2000 1999
------- ------- -------
Income:
Dividends received from subsidiaries $ 3,850 $ 1,900 $ 3,150
Other 25 48 24
------- ------- -------
Total income 3,875 1,948 3,174
------- ------- -------
Expenses:
Salaries and benefits 41 64 82
Interest 848 1,175 760
Other 192 323 364
------- ------- -------
Total expenses 1,081 1,562 1,206
------- ------- -------
Income before credit for income
taxes and equity in undistributed net
income of subsidiaries 2,794 386 1,968
Credit for income taxes (368) (400) (402)
------- ------- -------
Income before equity in undistributed
net income of subsidiaries 3,162 786 2,370
Equity in undistributed net income of
subsidiaries 2,612 4,397 3,986
------- ------- -------
Net income $ 5,774 $ 5,183 $ 6,356
======= ======= =======
31
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
STATEMENTS OF CASH FLOWS
Years Ended December 31, 2001, 2000 and 1999
(Dollars in Thousands)
2001 2000 1999
-------- -------- --------
Increase (decrease) in cash and cash equivalents:
Cash flows from operating activities:
Net income $ 5,774 $ 5,183 $ 6,356
-------- -------- --------
Adjustments to reconcile net income to net cash
provided by operating activities:
(Gain) loss on sale of premise and equipment -0- -0- 4
Provision for depreciation and amortization 29 29 9
Equity in undistributed net income of subsidiaries (2,612) (4,397) (3,986)
Change in other assets (8) 323 (606)
Change in other liabilities (1,312) 149 (70)
-------- -------- --------
Total adjustments (3,903) (3,896) (4,649)
-------- -------- --------
Net cash provided by operating activities 1,871 1,287 1,707
-------- -------- --------
Cash flows from investing activities:
Investment in subsidiaries -0- -0- (9,561)
Payment for purchase of securities available for sale -0- -0- -0-
Proceeds from sales of securities available for sale -0- -0- -0-
Proceeds from sale of premise and equipment -0- -0- -0-
Capital expenditures -0- -0- -0-
-------- -------- --------
Net cash used in investing activities -0- -0- (9,561)
-------- -------- --------
Cash flows from financing activities:
Proceeds from borrowings -0- -0- 15,836
Principal payments on borrowings -0- -0- (3,788)
Proceeds from issuance of common stock 239 498 480
Retirement of common stock (93) (887) (3,498)
Dividends paid (2,107) (1,655) (1,287)
-------- -------- --------
Net cash provided by (used in) financing activities (1,961) (2,044) 7,743
-------- -------- --------
Net decrease in cash and cash equivalents (90) (757) (111)
Cash and cash equivalents at beginning 132 889 1,000
-------- -------- --------
Cash and cash equivalents at end $ 42 $ 132 $ 889
======== ======== ========
32
SELECTED FINANCIAL DATA
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
SELECTED FINANCIAL DATA
(Unaudited)
(Dollars in Thousands, Except Per Share Data)
Years ended December 31,
-----------------------------------------------------------------
2001 2000 1999 1998 1997
--------- --------- --------- --------- ---------
Selected Financial Condition Data:
Total assets $ 636,269 $ 666,996 $ 568,442 $ 471,381 $ 421,434
Loans 504,412 541,689 466,621 411,720 372,519
Securities 61,885 72,066 43,343 8,676 10,103
Deposits 482,524 531,883 462,998 404,961 360,549
Borrowings 88,549 69,235 46,878 23,270 19,628
Total equity 47,889 44,617 40,820 39,469 36,592
Selected Operations Data:
Interest income $ 50,670 $ 54,683 $ 42,549 $ 38,498 $ 35,964
Interest expense (26,842) (29,421) (20,602) (17,815) (15,898)
--------- --------- --------- --------- ---------
Net interest income 23,828 25,262 21,947 20,683 20,066
Provision for loan losses (3,200) (5,875) (1,457) (1,200) (1,398)
Net security gains (losses) 1,073 110 -0- 45 (60)
Other income 8,819 6,743 3,538 2,606 1,698
Other expenses (23,958) (20,112) (15,937) (16,603) (14,797)
--------- --------- --------- --------- ---------
Income before income taxes 6,562 6,128 8,091 5,531 5,509
Provision for income taxes (788) (945) (1,735) (970) (1,403)
--------- --------- --------- --------- ---------
Net income $ 5,774 $ 5,183 $ 6,356 $ 4,561 $ 4,106
========= ========= ========= ========= =========
Per Share Data:*
Net income - Basic $ 0.82 $ 0.74 $ 0.90 $ 0.65 $ 0.58
Net income - Diluted 0.82 0.73 0.89 0.64 0.57
Cash dividends declared 0.30 0.34 0.18 0.17 0.16
Book value 6.82 6.38 5.83 5.54 5.13
Financial Ratios:
Return on average equity 12.48% 12.13% 15.83% 11.18% 11.29%
Return on average assets 0.89% 0.84% 1.22% 0.98% 1.00%
Dividend payout ratio 36.48% 45.42% 20.25% 27.43% 28.79%
Average equity to average assets 7.10% 6.92% 7.70% 8.75% 8.85%
* Adjusted for 3 for 1 stock split on August 25, 1998
33
SUMMARY QUARTERLY FINANCIAL INFORMATION
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
SUMMARY QUARTERLY FINANCIAL INFORMATION
(Unaudited)
(Dollars in Thousands, Except Per Share Data)
Three months ended,
-------------------------------------------------
March 31 June 30 September 30 December 31
--------- -------- ------------ -----------
2001
Selected Operations Data:
Interest income $ 13,904 $ 13,232 $ 12,842 $ 10,692
Interest expense 7,811 7,176 6,566 5,289
-------- -------- -------- --------
Net interest income 6,093 6,056 6,276 5,403
Provision for loan losses (800) (275) (825) (1,300)
Net security gains 455 58 -0- 560
Other income 2,031 2,858 2,439 1,491
Other expenses (5,973) (6,850) (5,742) (5,393)
-------- -------- -------- --------
Income before income taxes 1,806 1,847 2,148 761
Provision for income taxes (220) (219) (261) (88)
-------- -------- -------- --------
Net income $ 1,586 $ 1,628 $ 1,887 $ 673
======== ======== ======== ========
Per Share Data:
Net income - Basic $ 0.23 $ 0.23 $ 0.27 $ 0.09
Net income - Diluted 0.23 0.23 0.27 0.09
2000
Selected Operations Data:
Interest income $ 12,272 $ 13,661 $ 14,261 $ 14,489
Interest expense (6,250) (7,365) (7,785) (8,021)
-------- -------- -------- --------
Net interest income 6,022 6,296 6,476 6,468
Provision for loan losses (350) (1,525) (2,500) (1,500)
Net security gains -0- 49 61 -0-
Other income 966 1,407 1,847 2,633
Other expenses (4,214) (4,515) (5,588) (5,795)
-------- -------- -------- --------
Income before income taxes 2,424 1,663 235 1,806
Provision for income taxes (474) (201) 94 (364)
-------- -------- -------- --------
Net income $ 1,950 $ 1,462 $ 329 $ 1,442
======== ======== ======== ========
Per Share Data:
Net income - Basic $ 0.28 $ 0.21 $ 0.05 $ 0.20
Net income - Diluted 0.28 0.21 0.05 0.19
34
MARKET INFORMATION
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES
- --------------------------------------------------------------------------------
MARKET INFORMATION
(Unaudited)
Prior to April 18, 2000, there had been no active market for the Corporation's
common stock and no published information with respect to its market price.
There had been occasional direct sales by shareholders of which the
Corporation's common stock sold at a premium to book value. The price was
reported to management in most of these transactions, but management has no way
of confirming the prices that were reported. Effective April 18, 2000, the
Corporation's common stock was traded on the NASDAQ Bulletin Board under the
symbol "NCUF." During 2001 the Corporation's stock began trading on the NASDAQ
Small Cap Market. Effective on August 31, 2001 the Corporation changed its
trading symbol from "NCUF" to "NCFC."
The following table sets forth the range of high and low bid prices of the
Corporation's common stock from April 18, 2000 through December 31, 2001, as
reported by NASDAQ. The table sets forth the high and low price of the
Corporation's common stock from January 1, 2000 to April 17, 2000, as reported
to management. Quotations for the NASDAQ Bulletin Board and Small Cap Market
reflect inter-dealer prices, without retail mark-up, markdown or commission, and
may not reflect actual transactions.
Three months ended,
-----------------------------------------------------
March 31 June 30 September 30 December 31
-------- ------- ------------ -----------
2001
- ----
High $7.38 $ 9.50 $ 9.35 $8.50
Low 6.00 6.50 7.86 7.35
2000
- ----
High $20.00 $14.00 $11.50 $7.75
Low 14.00 11.13 6.50 5.13
The Corporation has 2,002 shareholders of record as of January 31, 2002.
35
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
HIGHLIGHTS
Decreases in interest rates during 2001 had the greatest impact on interest
income during the year. This impact on interest income, as a function of rate,
can be directly attributed to the actions taken by the Federal Reserve. During
2001, in its effort to address the slowing economy, the Federal Reserve reduced
the Fed Funds Rate, the rate charged the interbank market for purchase of excess
reserve balances, by 475 basis points, from 6.5% to 1.75%. For North Country
Financial Corporation ("the Corporation"), 2001 was a year of monitoring and
restructuring its balance sheet to address the volatile rate environment.
Although the Corporation decreased in assets by 4.6%, growth remains an
important element of the Corporation's strategy, and management continues to
believe that the continued success and profitability of the Corporation depends
on continuing to attract credit-worthy, and profitable assets both internally
and through market expansion.
At December 31, 2001, the Corporation had total assets of $636.6 million, a
decrease of $30.4 million from December 31, 2000. During 2001, net loans
decreased 7.2% or $38.3 million to $494.0 million. Of the total decrease in
loans, $20.3 million was in the residential real estate loan portfolio mostly
attributed to borrowers refinanced from variable to fixed rate loans. In
addition, the Corporation's security portfolio decreased $10.2 million from 2000
to 2001 to $61.9 at December 31, 2001. Total deposits decreased 9.3% or $49.4
million. This decrease in deposits includes a net decrease of $22.7 million
related to branch sales, and the remaining $26.7 million decrease in deposits,
were deposits that matured primarily in the 6.00% to 7.50% range, as the
Corporation elected to pursue shorter term, less costly sources of funding.
Even though assets decreased by $30.4 million during 2001, the trend line from
1997 through 2001 shows that assets have increased by 51% or $ 215 million.
During the same five-year period, net loans grew $127 million, or 34.6%, and
securities increased $51.7 million, or 511%.
Growth will continue to be an important element of the Corporation's strategy,
and selective bank and branch acquisitions may continue to occur as
opportunities arise. The Corporation's banking offices are located in Michigan,
a state that covers a large geographic area and has a low population density.
Because of the nature of this market area, the cost of operating the
Corporation's banking network is higher than the average for banking companies
the same size as the Corporation.
Even though interest rates have decreased dramatically over the past year,
earnings have increased from 2000 to 2001, and overall earnings have been strong
over the past several years. Net income was $5.8 million, $5.2 million, and $6.4
million for 2001, 2000 and 1999, respectively. Return on average shareholders'
equity was 12.5%, 12.1% and 15.8%, for 2001, 2000 and 1999, respectively. Basic
earnings per share were $0.82 in 2001, $0.74 in 2000 and $0.90 in 1999,
representing an increase of 10.8% from 2000 to 2001 and a decrease of 17.8% from
1999 to 2000. The fluctuations in net income from 1999 through 2001 were
primarily a result of changes in the provisions for loan losses. The provision
for loan losses for 2001 totaled $3.2 million as compared to $5.9 million in
2000 and $1.5 million in 1999.
36
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
FINANCIAL CONDITION
Loans
Loans represented 79.2% of total assets at the end of 2001, compared to 81.2% at
the end of 2000. The loan to deposit ratio increased from 101.8% at December 31,
2000 to 104.5% at December 31, 2001. Loans provide the most attractive earning
asset yield available to the Corporation and management believes the personnel
and controls are in place to successfully manage the loan portfolio.
Accordingly, management intends to continue to maintain loans at the highest
possible level within the constraints of adequate liquidity.
Following is a summary of the Corporation's loan balances at December 31 (in
thousands):
Percent
2001 2000 Change
-------- ------- -------
Commercial real estate $ 77,892 $ 90,635 (14.1)%
Commercial, financial, and agricultural 236,961 217,786 8.8
Leases:
Commercial 37,247 41,962 (11.2)
Governmental 45,195 55,205 (18.1)
1 - 4 family residential real estate 93,574 113,834 (17.8)
Consumer 9,516 13,059 (27.1)
Construction 4,027 9,208 (56.3)
-------- -------- ------
Total $504,412 $541,689 (6.9)%
======== ======== ======
The Corporation has four major categories of lending activities. Three
categories, commercial, residential real estate, and consumer, are generally
with customers in Michigan. The fourth major lending line, commercial and
governmental leasing, takes place on a nationwide basis. Management believes,
that as interest rates become more stable and the slow down in the economy turns
around, there will be growth in these categories in the future.
As shown in the table above, with the exception of the commercial, financial,
and agricultural category, overall loan balances have decreased during 2001.
During 2001, total commercial financing (including real estate and leases)
decreased by $13.5 million or 3.2%. The commercial, financial, and agricultural
loan activity is largely due to the efforts of the relationship bankers and
their ability to penetrate growth markets primarily in lower Michigan but also
in areas such as Marquette and Sault Ste. Marie. The most prominent type of
financing, at $97.7 million or 24.3% of all commercial financing continues to
focus on hospitality and tourism related industries. The remainder of the
commercial loan portfolio is diversified in such categories as gaming,
petroleum, forestry, and farming.
In addition to traditional commercial lending, the Corporation finances
commercial and governmental leases throughout the country. As illustrated in the
table above, a significant portion of the leasing activity is to governmental
units, including Native American organizations. The Corporation has developed
expertise and contacts in the leasing business that provide it with
opportunities to purchase credit-worthy leases at attractive yields. Management
closely reviews the credit quality of each proposed lease before entering into a
financing agreement. The lease agreements are strictly financing; while the
Corporation has access to the underlying equipment as collateral, there is no
interest in the residual value of the equipment. Management continues to pursue
leases both through unrelated entities and the Corporation's subsidiary, North
Country Financial Group, in Denver, Colorado. This corporation is engaged in the
business of public finance and focuses on providing tax-exempt financing to
municipalities located throughout the United States.
37
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
===============================================================================
Real estate lending on 1-4 family residences comprises the second largest
portion of the loan portfolio. This past year, residential real estate loans
declined by 17.8% or by $20.3 million to $93.6 million. Approximately 86% of
residential real estate loans are adjustable rate products that have an annual
interest adjustment. These loans typically have a maximum adjustment of two
percentage points annually and five percentage points over the life of the loan.
The Corporation continues to sell longer-term, fixed rate products, and with the
falling interest rate environment, activity in this area has increased in 2001.
Consumer lending represents a small percentage of the Corporation's loan
portfolio. At December 31, 2001, consumer loans totaled $9.5 million, or 1.9% of
the total portfolio. Consumer loans continue to decrease both in dollars and in
percentage in relation to the overall loan portfolio. This decrease is
intentional as consumer lending is a highly competitive, and traditionally a
higher cost, area of lending. The Corporation will continue to originate
consumer loans; however, this is not seen as a high priority lending area at the
current time.
At the end of 2001, the allowance for loan losses totaled $10.4 million,
representing 2.07% of total loans. The allowance is maintained by management at
a level considered adequate to cover losses currently anticipated based on past
loss experience, general economic conditions, information about specific
borrower situations including their financial position and collateral values,
and other factors and estimates which are subject to change over time. In
management's opinion, the allowance for loan losses is adequate to cover
probable losses related to specifically identified loans, as well as probable
losses inherent in the balance of the loan portfolio.
The Corporation's credit quality history is demonstrated in the following table
(dollars in thousands):
2001 2000 1999
------- ------- ------
Allowance to total loans at end of year 2.1% 1.7% 1.5%
Net charge-offs during the year $ 2,210 $ 3,284 $ 706
Net charge-offs to average outstanding loans 0.5% 0.7% 0.2%
Net charge-offs to beginning allowance balance 23.41% 47.9% 11.6%
Nonaccrual loans at end of year $ 4,015 $10,547 $ 95
Loans 90 days or more delinquent at end of year
(excluding nonaccrual loans) $ 9,131 $ 3,117 $2,452
Management analyzes the allowance for loan losses in detail on a quarterly basis
to ensure the losses inherent in the portfolio are properly considered. The
Corporation's success in maintaining strong credit quality is demonstrated in
its historical charge-off experience. Net charge-offs to average loans
outstanding was 0.5%, 0.7% and 0.2% for the years ended December 31, 2001, 2000
and 1999, respectively. Net charge-offs for the year ended December 31, 2001
decreased $1.1 million from the previous year. The provision for loan loss was
decreased $2.7 million from $5.9 million for the year ended December 31, 2000 to
$3.2 million for the year ended December 31, 2001.
Nonaccrual loans have decreased $6.5 million from December 31, 2000 to December
31, 2001 while loans 90 days or more past due and still accruing have increased
by $6.0 million during that same time period. At December 31, 2001, loans to two
commercial borrowers represented $3.1 million of the $4.0 million of nonaccrual
loans. Included in the December 31, 2001 totals for loans 90 days or more
delinquent and still accruing are loans to two commercial borrowers totaling
$5.0 million; the remaining balance of loans 90 days or more delinquent consists
of twenty-nine smaller commercial, residential real estate and consumer loans.
Management continues to monitor the situation on the non-performing loans and
has taken actions to reduce the level of non-performing loans.
38
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
SECURITIES
During 2001, the security portfolio continued to be an important component of
the Corporation's strategy to diversify its asset base. Securities decreased
$10.2 million in 2001, from $72.1 million at December 31, 2000 to $61.9 million
at December 31, 2001.. The security portfolio is diversified among U.S. Treasury
and agency securities, obligations of states and political subdivisions,
corporate securities and mortgage-related securities. The carrying value of the
Corporation's securities is as follows at December 31 (dollars in thousands):
2001 2000
------- -------
U.S. Treasury securities and obligations of
U.S. government agencies $ 3,128 $10,882
Obligations of states and political subdivisions 5,418 15,542
Corporate securities 8,571 4,740
Mortgage-related securities 44,768 40,902
------- -------
Total securities $61,885 $72,066
======= =======
The Corporation's policy is to purchase securities of high credit quality,
consistent with its asset/liability management strategies. During the year
securities were purchased and sold as steps in the process of effectively
managing the interest-rate-risk profile of the portfolio. A net gain of
approximately $1.1 was recognized during the year with the proceeds from the
sale of securities used to purchase new securities and for liquidity purposes.
Mortgage-related securities have maturities ranging up to 30 years, while the
remaining securities have maturities ranging primarily from one to 15 years. The
Corporation classifies all securities as available for sale, in order to
maintain adequate liquidity and to maximize its ability to react to changing
market conditions.
DEPOSITS
Total deposits at December 31, 2001, were $482.5 million compared to $531.9
million at the end of 2000. The decrease of $49.4 million during 2001 included a
net decrease of $22.7 million related to branch closings. The remaining $26.7
million decrease in deposits, were deposits that matured primarily in the 6.00%
to 7.50% range, as the Corporation elected to pursue shorter term, less costly
sources of funding.
The most significant decrease in deposits has been in the time deposit category.
As of December 31, 2001, time deposits represented $188.3 million, or 39.0% of
the Corporation's total deposit base. Retail deposits over $100,000, totaling
$37.4 million and $66.2 million at December 31, 2001 and 2000, respectively, are
from governmental entities, other financial institutions, and individual
customers. Brokered deposits, which the Corporation began issuing in 2000,
account for $25.0 million of total deposits at December 31, 2001, and $15.0
million of total deposits at December 31, 2000.
The Corporation continues to offer its premium-based certificate of deposit
program. Customers can elect to receive one of several products in place of cash
interest payments on term certificates. The Corporation offers firearms, golf
clubs, diamond jewelry, and grandfather clocks under these programs. The most
successful and long-standing of the programs is the firearm program, which is
offered to sports enthusiasts nationally. Under the premium-based certificate of
deposit program, the Corporation records the cost of the product given as a
discount from the face amount of the certificate of deposit and recognizes
interest expense on the effective interest method over the life of the
certificate. Total certificates of deposits outstanding under this program were
$2.0 million at December 31, 2001 and 2000.
39
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
BORROWINGS
As previously mentioned, the Corporation's branch network is a relatively high
cost network in comparison to peer banking companies. Accordingly, the
Corporation continues to utilize alternative funding sources to provide funds
for investing and lending activities. Borrowings increased during 2001 from
$69.2 million to $88.5 million. At December 31, 2001, a majority of the
borrowings were from the Federal Home Loan Bank of Indianapolis with both fixed
and variable interest rates and stated maturities ranging through 2011. The
increase in borrowings during the year is in accordance with the Corporation's
asset/liability management strategies to match borrowings with assets of similar
terms. From time-to-time, alternative sources of funding can be obtained at
interest rates that are competitive with, or lower than, retail deposit rates
and with inconsequential administrative costs. Management anticipates borrowings
will continue to be a significant part of the overall funding mix of the
Corporation.
SHAREHOLDERS' EQUITY
See the discussion under "CAPITAL" below.
RESULTS OF OPERATIONS
SUMMARY
Net income was $5.8 million, $5.2 million, and $6.4 million for 2001, 2000 and
1999, respectively. The increase in net income of $0.6 million from 2000 to 2001
is the result of an increase in other income of $3.0 million, decreases in the
provision for loan losses of $2.7 million and $0.2 million in provisions for
income taxes during the year, offset by a decrease of $1.8 million in net
interest income on a tax equivalent basis and an increase in other expenses of
$3.8 million. Basic earnings per share were $0.82 in 2001, $0.74 in 2000 and
$0.90 in 1999, an increase of 10.8% from 2000 to 2001 and a decrease of 17.8%
from 1999 to 2000.
Net interest income is the primary source of earnings. On a tax equivalent
basis, net interest income decreased to $25.7 million in 2001, from $27.5
million in 2000. Net interest income decreased 6.5% from 2000 to 2001 and
increased 15.2% from 1999 to 2000. The decrease in net interest income in 2001
is attributable primarily to the decrease in rates within the lending area and
the increase in net interest income in 2000 is attributed to the increase in
volume within the lending and securities areas.
Noninterest income continues to provide a strong secondary source of revenue for
the Corporation, increasing to $9.9 million in 2001, from $6.9 million in 2000
and $3.5 million in 1999. Of the $3.0 million increase in noninterest income
from 2000 to 2001, $2.7 million is related to other loan and lease income
generated. Income from noninterest sources will be an important component of the
Corporation's future earnings as net interest margins continue to tighten due to
competitive pressures.
Noninterest expense increased in 2001 to $24.0 million from $20.1 million in
2000, as compared to $15.9 million in 1999. Directly related to the mortgage
subsidiary fee income above are commissions of $3.6 million and $2.3 million
included in noninterest expense for 2001 and 2000, respectively. Management
continues to manage noninterest expense in an effort to maintain strong earnings
for the Corporation.
NET INTEREST INCOME
Net interest income is a function of the difference, or margin, between the
average yield earned on interest-earning assets and the average rate paid on
interest-bearing obligations. The net interest spread is affected by economic
and competitive factors that influence rates, loan demand, and deposit flows.
The Corporation's net interest margin, on a tax equivalent basis, has declined
during 2001, from 4.3% to 3.8%.
40
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
Net interest income decreased $1.8 million on a tax equivalent basis for 2001 as
compared to 2000, and increased $3.6 million on a tax equivalent basis for 2000
as compared to 1999. Decreases in interest rates during 2001 had the greatest
impact on interest income during the year. This impact on interest income, as a
function of rate, can be directly attributed to the actions taken by the Federal
Reserve. During 2001, in its effort to address the slowing economy, the Federal
Reserve reduced the Fed Funds Rate, the rate charged the interbank market for
purchase of excess reserve balances, by 475 basis points, from 6.5% to 1.75.
Although the volume in average interest-earning assets increased, interest
income related to interest-earning assets decreased significantly due to the
unfavorable impact of the Federal Reserve's interest rate reductions. Management
is optimistic that as rates become less volatile and as the volume of higher
yielding loans and lease assets grow, interest income will increase.
Total interest expense was $26.8 million in 2001, compared to $29.4 million and
$20.6 million in 2000 and 1999, respectively. The reduction in interest expense
during 2001 was primarily due to the decrease in the rates of interest-bearing
obligations. For 2001, interest expense on deposits represented 79% of total
interest expense. The remaining 21% relates to the Corporation's alternative
sources of funding, namely borrowings and the trust preferred securities. As
discussed in the previous paragraph, decreases in rates on deposits were
directly impacted by the actions of the Federal Reserve during 2001. Management
monitors the rates paid on deposit products and evaluates alternative funding
sources on a regular basis in an effort to control interest expense.
The following table presents the amount of interest income from average
interest-earning assets and the yields earned on those assets, as well as the
interest expense on average interest-bearing obligations and the rates paid on
those obligations. All average balances are daily average balances.
Years ended December 31,
------------------------------------------------------------------------------------------------------
2001 2000 1999
---------------------------------- ------------------------------ --------------------------------
Average Interest Average Interest Average Interest
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
----------- -------- ------ ----------- --------- ------- ----------- --------- ------
(Dollars in Thousands)
Interest-earning assets:
Loans receivable(1),(2),(3) $ 529,354 $ 46,532 8.79% $ 515,685 $ 52,005 10.08% $ 434,723 $ 42,288 9.73%
Taxable securities 62,300 5,065 8.13 40,532 3,462 8.54 16,040 1,438 8.97
Nontaxable securities(2) 5,615 495 8.82 11,456 974 8.50 4,201 352 8.38
Other interest-earning
assets 18,075 500 2.77 12,699 515 4.06 11,310 422 3.73
--------- -------- ----- --------- -------- ----- --------- -------- ----
Total interest-earning
assets 615,344 52,592 8.55 580,372 56,956 9.81 466,274 44,500 9.54
--------- -------- ----- --------- -------- ----- --------- -------- ----
Interest-bearing obligations:
Savings deposits 243,475 9,812 4.03 254,286 11,895 4.68 265,868 11,045 4.15
Time deposits 223,509 11,393 5.10 205,900 12,660 6.15 131,545 7,237 5.50
Borrowings 88,268 4,814 5.45 62,087 3,726 6.00 29,748 1,651 5.55
Subordinated debentures 12,450 823 6.61 12,450 1,140 9.16 7,781 669 8.60
--------- -------- ----- -------- -------- ----- --------- -------- ----
Total interest-bearing
obligations 567,702 26,842 4.73 534,723 29,421 5.50 434,942 20,602 4.74
--------- -------- ----- -------- -------- ----- --------- -------- ----
Net interest income $ 25,750 $ 27,535 $ 23,898
======== ======== ========
Net interest rate spread 3.82% 4.31% 4.80%
===== ===== ====
Net earning assets $ 47,642 $ 45,649 $ 31,332
========= ======== =========
Net yield on average
interest-earning assets 4.18% 4.74% 5.13%
===== ===== ====
Average interest-earning assets
to average interest-bearing
obligations 1.08X 1.09X 1.07X
===== ======== =========
- ---------------------
1 For purposes of these computations, non-accruing loans are included in the
daily average loan amounts outstanding.
2 The amount of interest income on nontaxable securities and loans has been
adjusted to a tax equivalent basis using a 34% tax rate.
3 Interest income on loans includes loan fees.
41
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
The following table presents the dollar amount of changes in interest income and
interest expense for major components of interest-earning assets and
interest-bearing obligations. It distinguishes between changes related to higher
or lower outstanding balances and changes due to the levels and fluctuations in
interest rates. For each category of interest-earning assets and
interest-bearing obligations, information is provided for changes attributable
to (i) changes in volume (i.e. changes in volume multiplied by old rate) and
(ii) changes in rate (i.e. changes in rate multiplied by old volume). For
purposes of this table, changes attributable to both rate and volume, which
cannot be segregated, have been allocated proportionately to the change due to
volume and the change due to rate.
Years ended December 31,
---------------------------------------------------------------------------------
2001 vs. 2000 2000 vs. 1999
--------------------------------------- --------------------------------------
Increase Increase
(Decrease) (Decrease)
Due to Total Due to Total
------------------------- Increase ------------------------ Increase
Volume Rate (Decrease) Volume Rate (Decrease)
---------- ----------- ---------- ---------- ---------- ----------
(Dollars in Thousands)
Interest-earning assets:
Loans receivable $ 1,348 (6,821) (5,473) $ 8,117 $ 1,600 $ 9,717
Taxable securities 1,777 (174) 1,603 2,095 (71) 2,024
Nontaxable securities (514) 35 (479) 617 5 622
Other interest-earning assets 178 (193) (15) 54 39 93
---------- ----------- ---------- ---------- ---------- ----------
Total interest-earning assets $ 2,789 $ (7,153) (4,364) $ 10,883 $ 1,573 12,456
========== =========== ---------- ========== ========== ----------
Interest-bearing obligations:
Savings deposits $ (489) (1,594) (2,083) $ (497) $ 1,347 850
Time deposits 1,021 (2,288) (1,267) (4,489) 934 5,423
Borrowings 1,453 (365) 1,088 1,931 144 2,075
Subordinated debentures -0- (317) (317) 425 46 471
----------- ----------- ---------- ---------- ---------- ----------
Total interest-bearing
obligations $ 1,985 $ (4,564) (2,579) $ 6,348 $ 2,471 8,819
========== =========== ---------- ========== ========== ----------
Net interest income $ (1,785) $ 3,637
========== ==========
Provision for Loan Losses
The Corporation maintains the allowance for loan losses at a level considered
adequate to cover losses inherent in the loan portfolio. The Corporation records
a provision for loan losses necessary to maintain the allowance at an adequate
level after considering factors such as loan charge-offs and recoveries, changes
in the loan portfolio composition, loan growth, and other economic factors as
more fully described in Note 1 to the accompanying financial statements. The
decrease in the provision for loan losses to $3.2 million in 2001, as compared
to $5.9 million for 2000, is primarily due to the decrease in loans throughout
2001. This decrease in loans resulted in the allowance for loan losses, as a
percentage of total loans, increasing to 2.1% at December 31, 2001 compared to
1.7% and 1.5% at December 31, 2000 and 1999, respectively. Management continues
to monitor the loan portfolio risk in order to maintain an adequate level of
allowance for loan losses.
Noninterest Income
Noninterest income was $9.9 million, $6.9 million, and $3.5 million in 2001,
2000 and 1999, respectively. The principal sources of noninterest income were
other loans and lease income, service fees on deposit accounts, gain on sale of
branches and net security gains. Other loan and lease income increased
approximately $2.7 million in 2001 as compared to 2000. The increase in other
loan and lease income was mainly due to increases in residential loan fees
resulting from a more favorable rate environment for fixed rate borrowers and
from our mortgage subsidiary operations, one of which was active for most of the
current year, versus only part of 2000 and nonexistent in 1999. See Note 2 to
the accompanying financial statements for further discussion on the mortgage
subsidiary. The decrease in service charges on deposits, when compared to the
prior two years, is attributed to the decrease in deposits during 2001. In
addition, $1.4 million was recorded on the sale of branches as discussed in Note
2 to the Consolidated Financial Statements, and net security gains exceeded
prior year security gains by approximately $1.0 million.
42
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
NONINTEREST EXPENSE
Noninterest expense was $24.0 million, $20.1 million, and $15.9 million in 2001,
2000, and 1999, respectively. The increase in noninterest expense for 2001 is
primarily due to $2.4 million increases in salaries, commissions and related
benefits mostly attributed to higher residential real estate activity, $0.4
million in occupancy expense, $0.3 million in accounting, legal and consulting
fees, $0.3 million in loan and deposit expense, $0.3 in telephone expense and
$0.2 million in amortization of acquisition intangibles.
FEDERAL INCOME TAXES
The provision for income taxes is 12.0% of pretax income in 2001, compared to
15.4% in 2000 and 21.5% in 1999. Prior to 2000, the Corporation provided for
additional taxes on open issues. These issues were resolved in 2001 with no
negative tax impact. Therefore, the additional provisions for these issues were
reversed in 2001 resulting in a provision for income taxes below historical
rates. Future provisions for income taxes will be based on the federal corporate
income tax rate of 34%, adjusted for tax-exempt interest income.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
The Corporation's primary market risk exposure is interest rate risk which
management actively manages. The Corporation has no market risk sensitive
instruments held for trading purposes. In the relatively low interest rate
environment of the past two years, borrowers have generally tried to extend the
maturities and repricing periods on their loans and place deposits in demand, or
very short-term accounts. Management has taken various actions to offset the
imbalance that these tendencies would otherwise create. In general, management
tries to write commercial and real estate loans at variable rates or, when
forced to offer fixed rates due to competitive pressures, write fixed rate loans
for relatively short terms. Conversely, management has attempted to offer
deposit products designed to steer depositors to longer periods or less interest
sensitive type accounts.
Beyond general efforts to shorten the loan pricing periods and extend deposit
maturities, management can manage interest rate risk by the maturity periods of
securities purchased, selling securities available for sale, and borrowing funds
with targeted maturity periods, among other strategies. Also, the rate of
interest rate changes can impact the actions taken since the speed of change
affects borrowers and depositors differently.
43
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
Exposure to interest rate risk is reviewed on a regular basis by the
Corporation's Executive Committee. Interest rate risk is the potential of
economic losses due to future interest rate changes. These economic losses can
be reflected as a loss of future net interest income and/or a loss of current
fair market values. The objective is to measure the effect of interest rate
changes on net interest income and to structure the composition of the balance
sheet to minimize interest rate risk and at the same time maximize income.
Management realizes certain risks are inherent and that the goal is to identify
and minimize the risks. Tools used by management include maturity and repricing
GAP analyses and interest rate sensitivity analyses. Following is the
Corporation's repricing GAP table at December 31, 2001 (dollars in thousands):
1 - 90 91 - 365 2 - 5 Over 5
Days Days Years Years Total
--------- --------- --------- --------- ---------
Interest-earning assets:
Loans receivable $ 282,128 $ 94,887 $ 83,204 $ 44,193 $ 504,412
Securities 2,935 8,910 23,030 27,010 61,885
Other 12,218 -0- -0- 4,375 16,593
--------- --------- --------- --------- ---------
Total interest-earning assets 297,281 103,797 106,234 75,578 582,890
--------- --------- --------- --------- ---------
Interest-bearing obligations:
Savings deposits 247,863 -0- -0- -0- 247,863
Time deposits 69,928 78,776 38,399 1,215 188,318
Borrowings -0- 637 2,568 85,344 88,549
Subordinated debentures 12,450 -0- -0- -0- 12,450
--------- --------- --------- --------- ---------
Total interest-bearing obligations 330,241 79,413 40,967 86,559 537,180
--------- --------- --------- --------- ---------
GAP $ (32,960) $ 24,384 $ 65,267 $ (10,981) $ 45,710
========= ========= ========= ========= =========
Cumulative GAP $ (32,960) $ (8,576) $ 56,691 $ 45,710 $ 45,710
========= ========= ========= ========= =========
The above analysis indicates that at December 31, 2001, the Corporation had a
cumulative liability sensitivity GAP position of $8.6 million within the
one-year timeframe. The Corporation 's cumulative liability sensitive GAP
suggests that if market interest rates increase in the next twelve months, the
Corporation has the potential to earn less net interest income. Conversely, if
market interest rates continue to decrease in the next twelve months, the above
GAP position suggests the Corporation's net interest income would increase.
A limitation of the traditional GAP analysis is that it does not consider the
timing or magnitude of noncontractual repricing or expected prepayments. In
addition, the GAP analysis treats savings, NOW and money market accounts as
repricing within 90 days, while experience suggests that these categories of
deposits are actually comparatively resistant to rate sensitivity. Considering
the limitations of the GAP analysis, and based on the results of other interest
rate risk management tools used by the Corporation, management believes the
Corporation is properly positioned against significant changes in interest rates
without significantly altering operating results.
44
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
FOREIGN EXCHANGE RISK
In addition to managing interest rate risk, management also actively manages
risk associated with foreign exchange. The Corporation provides foreign exchange
services, makes loans to, and accepts deposits from, Canadian customers
primarily at its banking offices in Sault Ste. Marie. To protect against foreign
exchange risk, the Corporation monitors the volume of Canadian deposits it takes
in and then invests these Canadian funds in Canadian commercial loans and
securities. As of December 31, 2001, the Corporation had excess Canadian assets
of $7.4 million (or $4.6 million in U.S. dollars). Management feels the exposure
to short-term foreign exchange risk is minimal and at an acceptable level for
the Corporation.
OFF-BALANCE-SHEET RISK
Derivative financial instruments include futures, forwards, interest rate swaps,
option contracts and other financial instruments with similar characteristics.
The Corporation currently does not enter into futures, forwards, swaps or
options. However, the Corporation is party to financial instruments with
off-balance-sheet risk in the normal course of business to meet the financing
needs of its customers. These financial instruments include commitments to
extend credit and standby letters of credit and involve to varying degrees,
elements of credit and interest rate risk in excess of the amount recognized in
the consolidated balance sheets. Commitments to extend credit are agreements to
lend to a customer as long as there is no violation of any condition established
in the contract. Commitments generally have fixed expiration dates and may
require collateral from the borrower if deemed necessary by the Corporation.
Standby letters of credit are conditional commitments issued by the Corporation
to guarantee the performance of a customer to a third party up to a stipulated
amount and with specified terms and conditions.
Commitments to extend credit and standby letters of credit are not recorded as
an asset or liability by the Corporation until the instrument is exercised.
LIQUIDITY
The Corporation's primary sources of funds include principal payments on
securities and loans, sales of securities available for sale, sales of loans
held for sale, deposits from customers, borrowings from the Federal Home Loan
Bank and other sources and the issuance of common stock. While scheduled
repayments of securities and loans are predictable sources of funds, deposit
flows and loan prepayments are greatly influenced by general interest rates,
economic conditions and competition. In an attempt to minimize the effects of
such fluctuation in funding sources, management has increased its borrowings
from the Federal Home Loan Bank. In addition, the Corporation has ready access
to significant sources of liquidity on an almost immediate basis through
arrangements with the Federal Home Loan Bank and other financial institutions.
Management anticipates no difficulty in maintaining liquidity at the levels
necessary to conduct the Corporation's day-to-day business activities.
CAPITAL
It is the policy of the Corporation to maintain capital at a level consistent
with both safe and sound operations and proper leverage to generate an
appropriate return on shareholders' equity. Capital formation has been key to
the Corporation's growth. During 2001, 2000 and 1999, the Corporation raised
$0.2 million, $0.5 million and $0.5 million, respectively, in capital through
the issuance of common stock related to the exercise of stock options and the
dividend reinvestment program. Net income exceeded dividends declared by $3.7
million in 2001, $2.8 million in 2000 and $5.1 million in 1999. These increases
in capital were offset by the retirement of common stock of $0.1 million in
2001, $0.9 million in 2000 and $3.5 million in 1999. The Corporation will
repurchase common stock from time-to-time when management believes such
repurchases will enhance the return to its common shareholders. Overall,
shareholders' equity increased by $3.3 million in 2001 and by $3.8 million in
2000.
During 1999, the Corporation formed a Delaware business trust, North Country
Capital Trust, solely to issue capital, or trust preferred securities. Through
this entity, $12.5 million of trust preferred securities were issued in 1999;
the net proceeds were invested in subordinated debentures issued to the trust by
the Corporation. The Federal Reserve Bank has accorded the trust preferred
securities Tier I capital treatment for regulatory purposes. The ability to
apply Tier I capital treatment has positioned the Corporation for future growth
without diluting the common shareholder base.
Should additional capital be required to take advantage of expansion
opportunities, management believes the demand for the Corporation's common stock
could provide for additional capital to the extent that such capital cannot be
internally generated.
45
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
================================================================================
As a banking company, the Corporation is required to maintain certain levels of
capital under government regulation. There are several measurements of
regulatory capital and the Corporation is required to meet minimum requirements
under each measurement. The Federal banking regulators have also established
capital classifications beyond the minimum requirements in order to risk-rate
deposit insurance premiums and to provide trigger points for prompt corrective
action in the event an institution becomes financially troubled.
Regulatory capital is not the same as shareholders' equity reported in the
accompanying financial statements. Certain assets cannot be considered assets
for regulatory purposes. The Corporation's acquisition intangibles are examples
of such assets.
Presented below is a summary of the Corporation's consolidated capital position
in comparison to regulatory requirements:
Tier I Tier I Total
Capital to Capital to Capital to
Average Risk Weighted Risk Weighted
Assets Assets Assets
---------- ------------- -------------
Regulatory minimum for capital adequacy purposes 4.0% 4.0% 8.0%
The Corporation:
December 31, 2001 8.4% 11.1% 12.4%
December 31, 2000 7.6% 10.0% 11.2%
ISSUED BUT NOT YET ADOPTED ACCOUNTING POLICIES
See Note 1 to the accompanying financial statements for a discussion of
accounting pronouncements issued by the Financial Accounting Standards Board
which the Corporation is not required to implement until periods subsequent to
December 31, 2001.
IMPACT OF INFLATION AND CHANGING PRICES
The accompanying financial statements have been prepared in accordance with
generally accepted accounting principles, which require the measurement of
financial position and results of operations in historical dollars without
considering the change in the relative purchasing power of money over time due
to inflation. The impact of inflation is reflected in the increased cost of the
Corporation's operations. Nearly all the assets and liabilities of the
Corporation are financial, unlike industrial or commercial companies. As a
result, the Corporation's performance is directly impacted by changes in
interest rates, which are indirectly influenced by inflationary expectations.
The Corporation's ability to match the interest sensitivity of its financial
assets to the interest sensitivity of its financial liabilities tends to
minimize the effect of changes in interest rates on the Corporation's
performance. Changes in interest rates do not necessarily move to the same
extent as changes in the price of goods and services.
46
BOARD OF DIRECTORS
================================================================================
NORTH COUNTRY FINANCIAL CORPORATION
RONALD G. FORD............................Chairman and Chief Executive Officer, North Country Financial Corporation
DENNIS BITTNER............................................................................Owner, Bittner Engineering
BERNARD A. BOUSCHOR.................................................Tribal Chairman, Sault Tribe of Chippewa Indians
STANLEY J. GEROU II.......................................Owner, Days Inn & Comfort Inn (Munising), Gerou Excavating
MICHAEL C. HENRICKSEN......................................................................Owner, Satellite Services
WESLEY W. HOFFMAN..................................................President, Wesley W. Hoffman and Associates, P.C.
JOHN D. LINDROTH..............................................................President, Superior State Agency, Inc.
STEVE MADIGAN............................................................Owner, Madigan-Pingatore Insurance Services
JOHN P. MILLER......................................................................Retired, Peoples Store Co., Inc.
SPENCER SHUNK.................................................................................Owner, Shunk Furniture
GLEN TOLKSDORF...............................................................................Owner, Tolksdorf Realty
NORTH COUNTRY BANK AND TRUST
RONALD G. FORD............................Chairman and Chief Executive Officer, North Country Financial Corporation
DENNIS BITTNER............................................................................Owner, Bittner Engineering
BERNARD A. BOUSCHOR.................................................Tribal Chairman, Sault Tribe of Chippewa Indians
STANLEY J. GEROU II.......................................Owner, Days Inn & Comfort Inn (Munising), Gerou Excavating
MICHAEL C. HENRICKSEN......................................................................Owner, Satellite Services
WESLEY W. HOFFMAN..................................................President, Wesley W. Hoffman and Associates, P.C.
JOHN D. LINDROTH..............................................................President, Superior State Agency, Inc.
SHERRY L. LITTLEJOHN ................... President, North Country Bank & Trust, North Country Financial Corporation
STEVE MADIGAN............................................................Owner, Madigan-Pingatore Insurance Services
JOHN P. MILLER......................................................................Retired, Peoples Store Co., Inc.
SPENCER SHUNK.................................................................................Owner, Shunk Furniture
GLEN TOLKSDORF...............................................................................Owner, Tolksdorf Realty
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CONTACTS
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NORTH COUNTRY FINANCIAL CORPORATION
EXECUTIVE OFFICE
1011 Noteware Drive
Traverse City, Michigan 49686
231-935-3120 or 1-888-343-8147
NORTH COUNTRY FINANCIAL CORPORATION
EXECUTIVE OFFICERS
Ronald G. Ford
Chairman
Chief Executive Officer
Sherry L. Littlejohn
President
Chief Operating Officer
Gary W. Klein
Executive Vice President
Chief Financial Officer
SHAREHOLDER INFORMATION
For information or assistance with questions, please
contact North Country Financial Corporation Investor Relations at
906-341-8401 or 1-888-343-8147
DIVIDEND REINVESTMENT PLAN
Shareholders may acquire additional shares of
North Country Financial Corporation stock through the
Dividend Reinvestment Plan. For information, please contact
Registrar & Transfer Company Investor Relations at
1-800-368-5948
STOCK TRANSFER AGENT
For questions regarding transfer of stock, please contact
Registrar & Transfer Company Investor Relations at
1-800-368-5948
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