SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934.
For the fiscal year ended December 31, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934.
For the transition period from ________ to__________
Commission File Number: 0-18415
IBT BANCORP, INC.
-------------------------------------------------------
(Exact name of registrant as specified in its charter)
Michigan 38-2830092
- -------------------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) identification No.)
200 East Broadway Street, Mt. Pleasant, Michigan 48858
- ---------------------------------------------------- ----------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (989) 772-9471
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
- ---------------------------------- -----------------------------------------
Securities registered pursuant to Section 12(g) of the Act:
Common Stock - No Par Value
- --------------------------------------------------------------------------------
(Title of Class)
Indicated by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. [ ] Yes [X] No
Indicated by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act. [ ] Yes [X] No
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. [X] Yes [ ] No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated file, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act (Check
One).
[ ] Large accelerated filer [X] Accelerated Filer [ ] Non-accelerated filer
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). [ ] Yes [X] No
The aggregate market value of the voting stock held by non-affiliates of the
registrant was approximately $218,887,000 as of February 9, 2006.
The number of shares outstanding of the registrant's Common Stock (no par value)
was 4,974,715 as of February 9, 2006.
DOCUMENTS INCORPORATED BY REFERENCE
(Such documents are incorporated herein only to the extent specifically set
forth in response to an item herein.)
Documents Part of Form 10-K Incorporated into
--------- -----------------------------------
IBT Bancorp, Inc. Proxy Statement
for its Annual Meeting of Shareholders Part III
to be held April 18, 2006
PART I
ITEM 1. BUSINESS
GENERAL
IBT Bancorp, Inc. (the Corporation) is a registered financial services holding
company incorporated in September 1988 under Michigan law. The Corporation has
six subsidiaries: Isabella Bank and Trust, Farmers State Bank of Breckenridge,
(together, "the Banks"), IBT Title and Insurance Agency, Inc. ("IBT Title"), IBT
Personnel, LLC, IB&T Employee Leasing, LLC, and Financial Group Information
Services. Isabella Bank and Trust has seventeen banking offices located
throughout Isabella County, northeastern Montcalm County, Mecosta County and
southern Clare County, all of which are located in central Michigan. Farmers
State Bank of Breckenridge has four offices located in Gratiot and Saginaw
Counties. IBT Title provides title insurance, abstract searches, and closes
loans in Isabella, Montcalm, Clare, Mecosta, and Newaygo Counties. IBT
Personnel, LLC and IB & T Employee Leasing, LLC, are employee leasing companies.
Financial Group Information Services provides computer services to the
Corporation's other subsidiaries. All employees of the Corporation are employed
by IBT Personnel and IB & T Employee Leasing and are leased to each individual
subsidiary. The principal city in which the Corporation operates is Mount
Pleasant, which has a population of approximately 26,000. Markets served include
Isabella, Gratiot, Mecosta, southwestern Midland, western Saginaw, northern
Montcalm, and southern Clare counties. The area includes significant
agricultural production, light manufacturing, retail, gaming and tourism, and
two universities with enrollment of approximately 30,000 students. The area
unemployment rate is approximately 5.7% and average household income is $38,000.
Isabella Bank and Trust sponsors the IBT Foundation (the "Foundation"), which is
a nonprofit entity formed for the purpose of distributing charitable donations
to recipient organizations generally located in the communities serviced by
Isabella Bank and Trust. The Isabella Bank and Trust periodically makes
charitable contributions in the form of cash transfers to the Foundation. The
Foundation is administered by members of the Corporation's Board of Directors.
The assets and transactions of the Foundation are not included in the
consolidated financial statements of IBT Bancorp, Inc. The assets of the
Foundation as of December 31, 2005 approximated $1.6 million.
COMPETITION
The Corporation competes with other commercial banks, many of which are
subsidiaries of other bank holding companies, savings and loan associations,
mortgage brokers, finance companies, credit unions, and retail brokerage firms.
The Banks are community banks and focus on providing high-quality, personalized
service at a fair price. The Banks offer a broad array of banking services to
businesses, institutions, and individuals. Deposit services offered include
checking accounts, savings accounts, certificates of deposit, and direct
deposits. Lending activity includes loans made pursuant to lines of credit, real
estate loans, consumer loans, student loans, and credit card loans. Other
financial related products include trust services, title insurance, stocks,
investment securities, bonds, mutual fund sales, 24 hour banking service locally
and nationally through shared automatic teller machines, and safe deposit box
rentals.
LENDING
The Banks limit lending activities to local markets and have not purchased any
loans from the secondary market. They do not make loans to fund leveraged
buyouts, they have no foreign corporate or government loans, or limited
corporate debt securities. The general lending philosophy is to avoid
concentrations to individuals and business segments. The following table sets
forth the composition of the Corporation's loan portfolio as of December 31,
2005.
2
LOANS BY MAJOR LENDING CATEGORY
(in thousands) Amount %
-------- ------
Residential real estate
One to four family residential $208,380 43.12%
Construction and land development 17,871 3.70%
-------- ------
Total 226,251 46.82%
Commercial
Commercial real estate 111,997 23.18%
Farmland 29,575 6.12%
Agricultural production 19,849 4.11%
Commercial and other 67,544 13.98%
-------- ------
Total 228,965 47.38%
Other Individual
Other personal 26,304 5.44%
Credit cards 1,722 0.36%
-------- ------
Total 28,026 5.80%
-------- ------
TOTAL $483,242 100.00%
======== ======
First and second residential mortgages are the single largest category of loans
(46.82% of total loans). The Corporation, through its Banks, offers 3 and 5 year
fixed rate balloon mortgages with a maximum 30 year amortization, and 15 and 30
year amortized fixed rate loans. Fixed rate loans with an amortization of 15
years are generally sold and all loans with an amortization of greater than 15
years are sold upon origination to the Federal Home Loan Mortgage Association
("Freddie Mac"). Fixed rate residential mortgage loans with an amortization of
15 years or less may be held for future sale or sold upon origination. Factors
used in determining when to sell these mortgages include management's judgment
about the direction of interest rates, the Corporation's need for fixed rate
assets in the management of its interest rate sensitivity, and overall loan
demand.
Lending policies generally limit the maximum loan-to-value ratio on residential
mortgages to 95% of the lower of appraised value of the property or the purchase
price, with the condition that private mortgage insurance is required on loans
with loan-to-value ratios in excess of 80%. The majority of the loans have a
loan-to-value ratio of less than 80%. Underwriting criteria for residential real
estate loans include: evaluation of the borrower's ability to make monthly
payments, the value of the property securing the loan, the payment of principal,
interest, taxes, and hazard insurance does not exceed 28% of a borrower's gross
income, all debt servicing does not exceed 36% of income, acceptable credit
reports, verification of employment, income, and financial information.
Appraisals are performed by independent appraisers. Escrow accounts for taxes
and insurance are required on all loans with loan-to-value ratio in excess of
80%. All mortgage loan requests are reviewed by a mortgage loan committee; loans
in excess of $400,000 require the approval of the subsidiary Bank's Internal
Loan Committee, Board of Directors, or its loan committee.
3
Construction and land development loans consist mostly of 1 to 4 family
residential properties. These loans have a 6 to 9 month maturity and are made
using the same underwriting criteria as residential mortgages. Loan proceeds are
disbursed in increments as construction progresses and inspections warrant.
Construction loans are either converted to permanent loans at the completion of
construction or are paid off from financing through another financial
institution.
Commercial loans, which include loans for farmland and agricultural production,
state and political subdivisions, commercial real estate, and commercial
operating loans equaled 47.38% of the Corporation's loan portfolio at December
31, 2005. Repayment of commercial loans is often dependent upon the successful
operation and management of a business; thus, these loans generally involve
greater risk than other types of lending. The Corporation minimizes its risk by
generally limiting the amount of loans to any one borrower to $6.4 million on a
consolidated basis at its subsidiary banks. Borrowers with credit needs of more
than $6.4 million are serviced through the use of loan participations with other
commercial banks. All commercial real estate loans require loan-to-value limits
of less than 80%. Depending upon the type of loan, past credit history, and
current operating results, the Corporation may require the borrower to pledge
accounts receivable, inventory, and fixed assets. Personal guarantees are
generally required from the owners of closely held corporations, partnerships,
and proprietorships. In addition, the Corporation requires annual financial
statements, prepares cash flow analysis, and reviews credit reports.
Consumer loans granted include automobile loans, secured and unsecured personal
loans, credit cards, student loans, and overdraft protection. Loans are
amortized generally for a period of up to 6 years. The underwriting emphasis is
on a borrower's ability to pay rather than collateral value. No installment
loans are sold to the secondary market.
SUPERVISION AND REGULATION
The Corporation is subject to supervision and regulation by the Securities and
Exchange Commission under the Securities Act of 1933 and the Securities Exchange
Act of 1934 and by the Federal Reserve Board under the Bank Holding Company Act
of 1956 as amended ("BHC Act") and Financial Services Holding Company Act of
2000. A bank holding company and its subsidiaries are able to conduct only the
business of commercial banking and activities closely related or incidental to
it. (See Regulation below.)
Isabella Bank and Trust and Farmers State Bank of Breckenridge are chartered by
the State of Michigan. The Banks are members of the Federal Reserve System and
their deposits are insured by the Federal Deposit Insurance Corporation to the
extent provided by law. The Banks are members of the Federal Home Loan Bank of
Indianapolis. The Banks are supervised and regulated by the Michigan Office of
Financial and Insurance Services (OFIS), and the Federal Reserve Board. (See
Regulation below.)
IBT Title, a non-banking subsidiary of IBT Bancorp, Inc., is a licensed title
insurance agency and is subject to regulation by the OFIS, as well as the
Federal Real Estate Settlement Procedures Act. IBT Title owns a membership
interest in similar title insurance agencies, FSSB Title, LLC. and LTI Title,
LLC.
4
PERSONNEL
As of December 31, 2005, the Corporation had 15 full-time leased employees,
Isabella Bank and Trust had 180 leased employees, Farmers State Bank of
Breckenridge had 46 leased employees, IBT Title had 22 leased employees,
Financial Group Information Services had 13 leased employees, and IBT Personnel
LLC and IB & T Employee Leasing LLC have 2 shared leased employees. The
Corporation provides group life, health, accident, disability and other
insurance programs for employees and a number of other employee benefit
programs. The Corporation believes its relationship with its employees to be
good.
LEGAL PROCEEDINGS
There are various claims and lawsuits in which the Corporation's Banks are
periodically involved, such as claims to enforce liens, condemnation proceedings
on making and servicing of real property loans and other issues incidental to
the Banks' business. However, neither the Corporation nor the Banks are involved
in any material pending litigation.
AVAILABLE INFORMATION
The Corporation does not maintain a website. Consequently, the Corporation's
Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Definitive Proxy
Statements, Current Reports on Form 8-K and amendments to those reports are not
available on a Corporate website. The Corporation will provide paper copies of
its SEC reports free of charge upon request of a shareholder.
The SEC maintains an internet site (http://www.sec.gov) that contains reports,
proxy and information statements and other information regarding the Corporation
(CIK #0000842517) and other issuers.
REGULATION
The earnings and growth of the banking industry and therefore the earnings of
the Corporation and of the Banks are affected by the credit policies of monetary
authorities, including the Federal Reserve System. An important function of the
Federal Reserve System is to regulate the national supply of bank credit in
order to combat recession and curb inflationary pressures. Among the instruments
of monetary policy used by the Federal Reserve to implement these objectives are
open market operations in U.S. Treasury securities, changes in the discount rate
on member bank borrowing, and changes in reserve requirements against member
bank deposits. These methods are used in varying combinations to influence
overall growth of bank loans, investments and deposits and may also affect
interest rates charged on loans or paid for deposits. The monetary policies of
the Federal Reserve System have had a significant effect on the operating
results of commercial banks and related financial service providers in the past
and are expected to continue to do so in the future. The effect of such policies
upon the future business and earnings of the Corporation and the banks cannot be
predicted.
THE CORPORATION
The Corporation, as a financial services holding company, is regulated under the
BHC Act, and is subject to the supervision of the Board of Governors of the
Federal Reserve System ("Federal Reserve Board"). The Corporation is registered
as a financial services holding company with the Federal Reserve Board and is
required to file with the Federal Reserve Board an annual report and such
additional information as the Federal Reserve Board requires. The Federal
Reserve Board may also make inspections and examinations of the Corporation and
its subsidiaries.
5
Prior to March 13, 2000, a bank holding company generally was prohibited under
the BHC Act from acquiring the beneficial ownership or control of more than 5%
of the voting shares or substantially all the assets of any company, including a
bank, without the Federal Reserve Board's prior approval. Also, prior to March
13, 2000, a bank holding company generally was limited to engaging in banking
and such other activities as determined by the Federal Reserve Board to be
closely related to banking.
Under the Gramm-Leach-Bliley Act of 1999 ("GLB Act"), beginning March 13, 2000,
an eligible bank holding company may elect to become a financial holding company
and thereafter affiliate with securities firms and insurance companies and
engage in other activities that are financial in nature. The GLB Act defines
"financial in nature" to include securities underwriting, dealing and market
making; sponsoring mutual funds and investment companies; insurance underwriting
and agency; merchant banking activities; activities that the Federal Reserve
Board has determined to be closely related to banking; and other activities that
the Federal Reserve Board, after consultation with the Secretary of the
Treasury, determines by regulation or order to be financial in nature or
incidental to a financial activity. No Federal Reserve Board approval is
required for a financial holding company to acquire a company, other than a bank
holding company, bank or savings association, engaged in activities that are
financial in nature or incidental to activities that are financial in nature, as
defined in the GLB Act or as determined by the Federal Reserve Board.
A bank holding company is eligible to become a financial holding company if each
of its subsidiary banks and savings associations is well capitalized under the
prompt corrective action provisions of the Federal Deposit Insurance Act ("FDI
Act"), is well managed and has a rating under the Community Reinvestment Act
(CRA) of satisfactory or better. If any bank or savings association subsidiary
of a financial holding company ceases to be well capitalized or well managed,
the Federal Reserve Board may require the financial holding company to divest
the subsidiary. Alternatively, the financial holding company may elect to
conform its activities to those permissible for bank holding companies that do
not elect to become financial holding companies. If any bank or savings
association subsidiary of a financial holding company receives a CRA rating of
less than satisfactory, the financial holding company will be prohibited from
engaging in new activities or acquiring companies other than bank holding
companies, banks or savings associations.
The Corporation became a financial holding company effective March 13, 2000. It
continues to maintain its status as a bank holding company for purposes of other
Federal Reserve Board regulations.
Under Federal Reserve Board policy, the Corporation is expected to act as a
source of financial strength to its subsidiary banks and to commit resources to
support its subsidiaries. This support may be required at times when, in the
absence of such Federal Reserve Board policy, the Corporation would not
otherwise be required to provide it.
Under Michigan law, if the capital of a Michigan state chartered bank (such as
the Banks) has become impaired by losses or otherwise, the Commissioner of the
OFIS may require that the deficiency in capital be met by assessment upon the
banks' stockholders pro rata on the amount of capital stock held by each, and if
any such assessment is not paid by any stockholder within 30 days of the date of
mailing of notice thereof to such stockholder, cause the sale of the stock of
such stockholder to pay such assessment and the costs of sale of such stock.
Any capital loans by a bank holding company to any of its subsidiary banks are
subordinate in right of payment to deposits and to certain other indebtedness of
such subsidiary bank. In the event of a bank holding company's bankruptcy, any
commitment by the bank holding company to a federal bank regulatory agency to
maintain the capital of a subsidiary bank will be assumed by the bankruptcy
trustee and entitled to a priority of payment.
6
This priority would apply to guarantees of capital plans under the Federal
Deposit Insurance Corporation Improvement Act of 1991.
The Sarbanes-Oxley Act of 2002 ("SOX") contains important requirements for
public companies in the area of financial disclosure and corporate governance.
In accordance with Section 302(a) of SOX, a written certification by the
Corporation's principal executive and financial officer is required. This
certification attests that the Corporation's quarterly and annual reports filed
with the SEC do not contain any untrue statement of a material fact. See the
Certifications filed as Exhibits 31 (a) and (b) to this Form 10-K for such
certification of the financial statements and other information for this 2005
Form 10-K. The Corporation has also implemented a program designed to comply
with Section 404 of SOX, which included the identification of significant
processes and accounts, documentation of the design of control effectiveness
over process and entity level controls, and testing of the operating
effectiveness of key controls. See Item 9A, "Controls and Procedures" for the
Corporation's evaluation of its disclosure controls and procedures.
Certain additional information concerning regulatory guidelines for capital
adequacy and other regulatory matters is presented herein under the caption
"Capital" on page 29 and "Note 14 - Commitments and Other Matters" and "Note 15
- - Minimum Regulatory Capital" on page 55-56 and 56-57, respectively.
SUBSIDIARY BANKS
The Banks are subject to regulation and examination primarily by OFIS. As
insured state banks, which are members of the Federal Reserve Bank of Chicago,
the Banks are also subject to regulation and examination by the FDIC and the
Federal Reserve Board.
The agencies and federal and state laws extensively regulate various aspects of
the banking business including, among other things, permissible types and
amounts of loans, investments and other activities, capital adequacy, branching,
interest rates on loans and on deposits and the safety and soundness of banking
practices.
Banking laws and regulations also restrict transactions by insured banks owned
by a bank holding company, including loans to and certain purchases from the
parent holding company, non-bank and bank subsidiaries of the parent holding
company, principal shareholders, officers, directors and their affiliates, and
investments by the subsidiary banks in the shares or securities of the parent
holding company (or any of the other non-bank or bank affiliates), acceptance of
such shares or securities as collateral security for loans to any borrower.
The Banks are also subject to legal limitations on the frequency and amount of
dividends that can be paid to the Corporation. For example, a Michigan state
chartered bank may not declare a cash dividend or a dividend in kind except out
of net profits then on hand after deducting all losses and bad debts, and then
only if it will have a surplus amounting to not less than 20% of its capital
after the payment of the dividend. Moreover, a Michigan state chartered bank may
not declare or pay any cash dividend or dividend in kind until the cumulative
dividends on its preferred stock, if any, have been paid in full. Further, if
the surplus of a Michigan state chartered bank is at any time less than the
amount of its capital, before the declaration of a cash dividend or dividend in
kind, it must transfer to surplus not less than 10% of its net profits for the
preceding half-year (in the case of quarterly or semi-annual dividends) or the
preceding two consecutive half-year periods (in the case of annual dividends).
The payment of dividends by the Corporation and the Banks is also affected by
various regulatory requirements and policies, such as the requirement to
maintain adequate capital above regulatory guidelines. Federal laws impose
further restrictions on the payment of dividends by insured banks that fail to
meet specified capital levels. The FDIC may prevent an insured bank from paying
dividends if the bank is in default of payment of any assessment due to the
FDIC. In addition, payment of dividends by a bank may be prevented by the
applicable
7
federal regulatory authority if such payment is determined, by reason of the
financial condition of such bank, to be an unsafe and unsound banking practice.
The Federal Reserve Board and the FDIC have issued policy statements providing
that bank holding companies and insured banks should generally pay dividends
only out of current operating earnings.
The aforementioned regulations and restrictions may limit the Corporation's
ability to obtain funds from its subsidiary banks for its cash needs, including
payment of dividends and operating expenses.
The activities and operations of the Banks are also subject to other federal and
state laws and regulations, including usury and consumer credit laws, the
Federal Truth-in-Lending Act, Truth-in-Saving and Regulation Z of the Federal
Reserve Board and the Federal Bank Merger Act.
ITEM 1A. RISK FACTORS
In the normal course of business the Corporation is exposed to various risks.
These risks include credit risk, interest rate risk, liquidity risk, operational
risk, compliance risk, economic risk, accounting risk, and disruption of
infrastructure. These risks, if not managed correctly, could have a significant
impact on earnings and capital. Management balances the Corporation's strategic
goals, including revenue and profitability objectives, with associated risks
through the use of asset and liability committees (ALCO) at the individual bank
subsidiaries as well as corporate asset and liability committees.
The primary responsibility for risk management lies with ALCO members. Policies,
systems and procedures have been adopted to identify, assess, control, monitor,
and manage in each risk area. Senior management continually reviews the adequacy
and effectiveness of these policies, systems, and procedures.
CREDIT RISK
Credit risk is defined as the risk impacting earnings or capital due to an
obligor's failure to meet the terms of a loan or an investment, or otherwise
failing to perform as agreed. Credit risk occurs any time an institution relies
on another party, issuer, or borrower's performance.
To manage the credit risk arising from lending activities, the Corporation's
most significant source of credit risk, management maintains what it believes
are sound underwriting policies and procedures. Management continuously monitors
asset quality in order to manage the Company's credit risk to determine the
appropriateness of valuation allowances. These valuation allowances take into
consideration various factors including, but not limited to, local, regional,
and national economic conditions.
INTEREST RATE RISK
Interest rate risk is the timing differences in the maturity or repricing
frequency of a financial institution's interest earning assets and its interest
bearing liabilities. Management monitors the potential effects of changes in
interest rates through rate shock and gap analyses. To help mitigate the effects
of interest rate risk, management makes significant efforts to stagger projected
cash flows and maturities of interest sensitive assets and liabilities.
LIQUIDITY RISK
Liquidity risk is the risk to earnings or capital arising from the Bank's
inability to meet its obligations when they come due without incurring
unacceptable losses. Liquidity risk includes the inability to manage unplanned
decreases or changes in funding sources, or failure to recognize or address
changes in market conditions that affect the ability to liquidate assets quickly
and with minimal loss in value. The Corporation has significant borrowing
capacity through correspondent banks as well as the ability to sell investments
to fund potential cash
8
shortages.
OPERATIONAL RISK
Operational risk is the risk of loss resulting from inadequate or failed
internal processes, people, and systems, or external events. The Corporation is
exposed to operational risk which includes reputation risk and transaction risk.
Reputation risk is developing and retaining marketplace confidence in handling
customers' financial transactions in an appropriate manner as well as protecting
the safety and soundness of the institution. Transaction risk includes losses
from fraud, error, the inability to deliver products or services, and loss or
theft of information. Transaction risk also encompasses product development and
delivery, transaction processing, information technology systems, and the
internal control environment.
To help minimize the potential losses due to operational risks, management has
established an internal audit department and has retained the services of a
certified public accounting firm to perform internal audit work. The focus of
these internal audit procedures is to verify the validity and appropriateness of
various transactions and processes. The results of these procedures are reported
to the Corporation's audit committee.
COMPLIANCE RISK
Compliance risk is the risk of loss from violations of, or nonconformance with
laws, rules, regulations, prescribed practices, or ethical standards. This
includes new or revised tax, accounting, and other laws, regulations, rules and
standards that could significantly impact strategic initiatives, results of
operations, and financial condition. The financial services industry is
extensively regulated and must meet regulatory standards set by the FASB, SEC
and other regulatory bodies. Federal and state laws and regulations are designed
primarily to protect the deposit insurance funds and consumers, and not
necessarily to benefit the Corporation's shareholders. The nature, extent, and
timing of the adoption of significant new laws, changes in existing laws, or
repeal of existing laws may have a material impact on the Corporation's
business, results of operations, and financial condition, the effect of which is
impossible to predict at this time.
The Corporation's compliance department periodically assesses the adequacy and
effectiveness of the Corporation's processes for controlling and managing its
principal compliance risks.
ECONOMIC CONDITIONS
An economic downturn within the Corporation's market or the nation as a whole
could negatively impact household and corporate incomes. This could lead to
decreased demand for both loan and deposit products, leading to an increase of
customers who fail to pay interest or principal on their loans. Management
continually monitors key economic indicators to help them anticipate the
possible effects of downturns in the local, regional, and national economies.
ACCOUNTING RISK
The Corporation's consolidated financial statements conform with generally
accepted accounting principles, which require management to make estimates and
assumptions that affect the amounts reported in the consolidated financial
statements. These estimates are based on information available to management at
the time the estimates are made. Actual results could differ from those
estimates. For further discussion regarding significant accounting estimates,
see "Note 1- Summary of Significant Accounting Policies" in the attached Notes
to the Consolidated Financial Statements.
DISRUPTION OF INFRASTRUCTURE
The Corporation's operations depend upon its technological and physical
infrastructure, including its equipment and facilities. Extended disruption of
its vital infrastructure by fire, power loss, natural disaster,
telecommunications failure, computer hacking and viruses, or other events
outside of the Corporation's control,
9
could affect the financial outcome of the Corporation or the financial services
industry as a whole. The Corporation has developed disaster recovery plans,
which provide detailed instructions to cover all significant aspects of the
Corporation's operations.
ITEM 1B. UNRESOLVED SEC STAFF COMMENTS
None.
ITEM 2. PROPERTIES
The Corporation owns one building. Isabella Bank and Trust owns 16 branches and
leases one and Farmers State Bank of Breckenridge owns three branches and leases
one loan production office. IBT Title owns one office, and leases three. The
Corporation's facilities current, planned, and best use is for conducting its
current activities with the exception of approximately 8% of the main office,
and 45% of the Clare office, which is leased to tenants. In management's
opinion, each facility has sufficient capacity and is in good condition. The
following table sets forth the location of the Corporation's offices, as well as
certain additional information relating to those offices as of December 31,
2005.
10
Year Approximate Net
Facility Square Book Value
Opened Footage 12/31/2005 (1)
--------- ----------- --------------
IBT Bancorp
200 East Broadway (2)
Mt. Pleasant, Michigan 1903 27,640 336,533
Isabella Bank & Trust
Customer Service Center (2)
139 East Broadway
Mt. Pleasant, Michigan 1985 23,636 961,383
Operations Center (13)
2750 Three Leaves Drive
Mt. Pleasant, Michigan 2001 15,000 1,410,970
Isabella County Branch Offices
1416 East Pickard (3)
Mt. Pleasant, Michigan 1983 1,450 422,754
2133 South Mission (6)
Mt. Pleasant, Michigan 1976 1,560 307,985
200 South University (4)
Mt. Pleasant, Michigan 1964 1,795 49,068
1402 West High
Mt. Pleasant, Michigan 1973 2,150 85,817
401 East Main Street (5)
Blanchard, Michigan 1911 6,561 15,057
500 East Wright Avenue
Shepherd, Michigan 1980 1,830 185,063
3388 N. Woodruff Rd.
Weidman, Michigan 1975 5,400 88,086
1867 Winn Road
Beal City, Michigan 1977 1,100 43,309
11
Year Approximate Net
Facility Square Book Value
Opened Footage 12/31/2005 (1)
-------- ----------- --------------
Montcalm County Branch Office
313 W. Bridge Street (6)
Six Lakes, Michigan 1966 1,527 338,796
Clare County Branch Offices
532 N. McEwan Street
Clare, Michigan 1993 7,300 350,566
1125 N. McEwan Street
Clare, Michigan 1997 525 360,677
Mecosta County Division Branch Offices
21440 Perry Street (11) 2004 4,742 1,830,754
Big Rapids, Michigan
220 W. Wheatland Street
Remus, Michigan (10) 1998 4,273 486,233
240 E. Northern Avenue
Barryton, Michigan (12) 1998 4,273 444,687
8529 - 100th Avenue (8)
Stanwood, Michigan 1998 2,665 9,188
IBT Title
Isabella County
209 E. Broadway
Mt. Pleasant, Michigan 1998 2,640 187,802
Mecosta County (8)
119 Michigan Avenue
Big Rapids, Michigan 1999 1,700 21,987
Clare County (8)
404 N. McEwan
Clare, Michigan 2001 1,450 12,967
12
Year Approximate Net
Facility Square Book Value
Opened Footage 12/31/2005 (1)
-------- ----------- --------------
Benchmark Title (8)
219 S. Lafayette St.
Greenville, Michigan 2004 1,580 5,809
Farmers State Bank of Breckenridge
Main Office
316 E. Saginaw
Breckenridge, Michigan 1967 13,700 474,836
Ithaca Branch
1402 E. Center
Ithaca, Michigan 1991 2,387 212,287
Hemlock Branch (9)
16490 Gratiot
Hemlock, Michigan 1994 1,840 850,003
(1) includes land and buildings
(2) remodeled in 2001 and 2005
(3) substantially remodeled in 1990
(4) partially remodeled in 1986 and 1988
(5) substantially remodeled in 1976 and partially remodeled in 1986
(6) substantially remodeled in 1992 and 1996
(7) substantially remodeled in 1985 and 1993
(8) leased facilities
(9) substantially remodeled in 2002
(10) substantially remodeled in 2003
(11) new office in 2004
(12) substantially remodeled in 2004
(13) FGIS offices located here
ITEM 3. LEGAL PROCEEDINGS
The Corporation and its Banks are not involved in any material pending legal
proceedings. The Banks, because of the nature of their business, are at times
subject to numerous pending and threatened legal actions that arise out of the
normal course of their business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of 2005 to a vote of
security holders through the solicitation of proxies or otherwise.
13
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDERS' MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
COMMON STOCK AND DIVIDEND INFORMATION
There is no established market for the Corporation's common stock or public
information with respect to its market price. There are occasional sales by
shareholders of which management of the Corporation is aware. From January 1,
2004 through December 31, 2005 there were, so far as management knows, 267 sales
of the Corporation's common stock. These sales involved 185,437 shares. The
prices were reported to management in only some of the transactions and
management cannot confirm the prices that were reported during this period. The
highest known price paid for the Corporation's stock was $40 per share in the
fourth quarter of 2005, and the lowest price was $36.36 per share in the first
quarter of 2004. The following is a summary of all known transfers since January
1, 2004. All of the information has been adjusted to reflect the 10% stock
dividend paid February 15, 2006.
Number of Number of Sale Price
Period Sales Shares Low High
- ------------------ --------- --------- ------- -------
2004
First Quarter 13 6,651 $ 36.36 $ 38.18
Second Quarter 21 36,740 38.18 38.18
Third Quarter 36 8,402 38.18 38.18
Fourth Quarter 9 3,951 38.18 38.18
2005
First Quarter 34 19,429 38.18 38.18
Second Quarter 53 59,717 38.18 38.18
Third Quarter 60 24,654 38.18 38.18
Fourth Quarter 41 25,893 38.18 40.00
The following table sets forth the cash dividends paid for the following
quarters, adjusted for the 10% stock dividend paid on February 15, 2006.
Per Share
2005 2004
------ ------
First Quarter $ 0.10 $ 0.10
Second Quarter 0.10 0.10
Third Quarter 0.10 0.10
Fourth Quarter 0.30 0.27
------ ------
Total $ 0.60 $ 0.57
====== ======
IBT Bancorp's authorized common stock consists of 10,000,000 shares, of which
4,974,715 shares are issued and outstanding as of December 31, 2005. As of year
end 2005, there were 2,238 shareholders of record.
14
In October 2002, the Corporation's Board of Directors authorized the repurchase
of up to $2 million of the Corporation's common stock. This authorization does
not have an expiration date. Based on repurchases since October 2002, the
Corporation is currently able to repurchase up to $1.7 million of its common
stock or 42,500 shares under the repurchase authorization. The following table
provides information as of December 31, 2005, with respect to this plan:
Maximum Shares That
May Be Purchased Under
Shares Repurchased the Plans or Programs
---------------------- ----------------------
Average Price
(Dollars in thousands) Number Per Share
- --------------------------------------------------------------------------------------------
Balance, September 30, 2005 42,500
October 1 - 31, 2005 - $ - -
November 1 - 30, 2005 - - -
December 1 - 31, 2005 - - -
- --------------------------------------------------------------------------------------------
Balance December 31, 2005 - $ - 42,500
============================================================================================
ITEM 6. SELECTED FINANCIAL DATA
RESULTS OF OPERATIONS
Two key measures of earnings performance commonly used in the banking industry
are return on average assets and return on average shareholders' equity. Return
on average assets measures the ability of a corporation to profitably and
efficiently employ its resources. The Corporation's return on average assets was
0.97% in 2005, 0.98% in 2004, and 1.09% in 2003. Return on average equity
indicates how effectively a corporation is able to generate earnings on capital
invested by its shareholders. The Corporation's return on average shareholders'
equity was 9.07% in 2005, 9.39% in 2004, and 10.95% in 2003.
15
SUMMARY OF SELECTED FINANCIAL DATA
(DOLLARS IN THOUSANDS EXCEPT PER SHARE DATA)
2005 2004 2003 2002 2001
-------- -------- -------- -------- --------
INCOME STATEMENT DATA
Total interest income $ 36,882 $ 33,821 $ 35,978 $ 38,161 $ 40,798
Net interest income 23,909 23,364 23,528 22,905 21,538
Provision for loan losses 777 735 1,455 1,025 770
Net income 6,776 6,645 7,205 6,925 6,066
BALANCE SHEET DATA
End of year assets $741,654 $678,034 $664,079 $652,717 $592,143
Daily average assets 700,624 675,157 659,323 623,507 566,547
Daily average deposits 576,091 567,145 563,600 549,970 494,847
Daily average loans/net 459,310 430,854 399,008 390,613 399,239
Daily average equity 74,682 70,787 65,770 59,540 54,787
PER SHARE DATA (1)
Net income $ 1.25 $ 1.24 $ 1.36 $ 1.33 $ 1.17
Cash dividends 0.60 0.57 0.55 0.50 0.45
Book value (at year end) 14.78 13.48 12.94 12.09 10.99
FINANCIAL RATIOS
Shareholders' equity to assets (year end) 10.91% 10.71% 10.38% 9.71% 9.60%
Net income to average equity 9.07 9.39 10.95 11.63 11.07
Cash dividend payout to net income 48.02 46.20 39.99 37.33 38.36
Net income to average assets 0.97 0.98 1.09 1.11 1.07
2005 2004
--------------------------------- ---------------------------------
Quarterly Operating Results: 4th 3rd 2nd 1st 4th 3rd 2nd 1st
------ ------ ------ ------ ------ ------ ------ ------
Total interest income $9,832 $9,439 $8,983 $8,628 $8,563 $8,415 $8,393 $8,450
Interest expense 3,719 3,425 3,064 2,765 2,659 2,562 2,566 2,670
Net interest income 6,113 6,014 5,919 5,863 5,904 5,853 5,827 5,780
Provision for loan losses 262 196 109 210 150 120 225 240
Noninterest income 2,192 2,328 2,099 1,857 1,963 2,063 2,199 1,940
Noninterest expenses 5,514 5,891 5,622 5,857 5,724 5,502 5,477 5,568
Net income 1,924 1,744 1,765 1,343 1,663 1,749 1,756 1,477
Per Share of Common Stock: (1)
Net income $ 0.35 $ 0.32 $ 0.33 $ 0.25 $ 0.31 $ 0.33 $ 0.33 $ 0.27
Cash dividends 0.30 0.10 0.10 0.10 0.27 0.10 0.10 0.10
Book value (at quarter end) 14.78 14.02 13.85 13.42 13.48 13.46 12.94 13.26
(1) Retroactively restated for the 10% stock dividend paid on February 15,
2006.
16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
IBT BANCORP FINANCIAL REVIEW
(All dollars in thousands)
The following is management's discussion and analysis of the financial condition
and results of operations for IBT Bancorp (the Corporation). This discussion and
analysis is intended to provide a better understanding of the financial
statements and statistical data included elsewhere in the Annual Report.
CRITICAL ACCOUNTING POLICIES: The Corporation's significant accounting policies
are set forth in Note 1 of the Consolidated Financial Statements. Of these
significant accounting policies, the Corporation considers its policies
regarding the allowance for loan losses and servicing assets to be its most
critical accounting policies.
The allowance for loan losses requires management's most subjective and complex
judgment. Changes in economic conditions can have a significant impact on the
allowance for loan losses and therefore the provision for loan losses and
results of operations. The Corporation has developed appropriate policies and
procedures for assessing the adequacy of the allowance for loan losses,
recognizing that this process requires a number of assumptions and estimates
with respect to its loan portfolio. The Corporation's assessments may be
impacted in future periods by changes in economic conditions, the impact of
regulatory examinations, and the discovery of information with respect to
borrowers that is not known to management at the time of the issuance of the
consolidated financial statements. For additional discussion concerning the
Corporation's allowance for loan losses and related matters, see Provision for
Loan Losses and Allowance for Loan Losses.
Servicing assets are evaluated for impairment based upon the fair value of the
rights as compared to amortized cost. Impairment is determined by stratifying
rights by predominant characteristics, such as interest rates and terms. Fair
value is determined using prices for similar assets with similar
characteristics, when available, or based upon discounted cash flows using
market-based assumptions. Impairment is recognized through a valuation allowance
for an individual stratum, to the extent that fair value is less than the
capitalized amount for the stratum.
17
TABLE 1. DISTRIBUTION OF ASSETS, LIABILITIES, AND SHAREHOLDERS' EQUITY
INTEREST RATE AND INTEREST DIFFERENTIAL
The following schedules present the daily average amount outstanding for each
major category of interest earning assets, nonearning assets, interest bearing
liabilities, and noninterest bearing liabilities. This schedule also presents an
analysis of interest income and interest expense for the periods indicated. All
interest income is reported on a fully taxable equivalent (FTE) basis using a
34% federal income tax rate. Nonaccruing loans, for the purpose of the following
computations, are included in the average loan amounts outstanding. Federal
Reserve and Federal Home Loan Bank Equity holdings are included in Other
Investments.
2005 2004 2003
------------------------------ ------------------------------ ------------------------------
Tax Average Tax Average Tax Average
Average Equivalent Yield\ Average Equivalent Yield\ Average Equivalent Yield\
Balance Interest Rate Balance Interest Rate Balance Interest Rate
--------- --------- ------- --------- ---------- ------- --------- ---------- -------
INTEREST EARNING ASSETS:
Loans $466,001 $ 30,682 6.58% $437,438 $ 27,801 6.36% $404,953 $ 29,196 7.21%
Taxable investment securities 106,025 3,487 3.29 114,806 3,696 3.22 123,927 4,437 3.58
Non-taxable investment securities 63,271 3,818 6.03 55,882 3,206 5.74 49,531 3,099 6.26
Federal funds sold 3,882 116 2.99 4,516 30 0.66 16,311 193 1.18
Other 5,060 199 3.93 2,978 178 5.98 2,857 151 5.29
-------- --------- ---- -------- --------- ---- -------- ---------- ----
Total earning assets 644,239 38,302 5.95 615,620 34,911 5.67 597,579 37,076 6.20
NON EARNING ASSETS:
Allowance for loan losses (6,691) (6,584) (5,946)
Cash and due from banks 19,955 23,831 26,840
Premises and equipment 17,544 18,147 15,646
Accrued income and other assets 25,577 24,143 25,204
-------- -------- --------
Total assets $700,624 $675,157 $659,323
======== ======== ========
INTEREST BEARING LIABILITIES:
Interest-bearing demand deposits $103,684 1,001 0.97 $106,471 569 0.53 $113,206 1,057 0.93
Savings deposits 157,238 1,571 1.00 157,819 872 0.55 141,227 1,325 0.94
Time deposits 245,559 8,802 3.58 238,323 7,950 3.34 247,516 9,228 3.73
Other borrowed funds 37,209 1,599 4.30 27,328 1,066 3.90 18,812 840 4.47
-------- --------- ---- -------- --------- ---- -------- ---------- ----
Total interest bearing liabilities 543,690 12,973 2.39 529,941 10,457 1.97 520,761 12,450 2.39
NONINTEREST BEARING LIABILITIES:
Demand deposits 69,610 64,531 61,651
Other 12,642 9,898 11,141
Shareholders' equity 74,682 70,787 65,770
-------- -------- --------
Total liabilities and equity $700,624 $675,157 $659,323
======== ======== ========
Net interest income (FTE) $ 25,329 $ 24,454 $ 24,626
========= ======== ==========
Net yield on interest earning
assets (FTE) ---- ---- ----
3.93% 3.97% 4.12%
==== ==== ====
18
NET INTEREST INCOME
The Corporation derives the majority of its gross income from interest earned on
loans and investments, while its most significant expense is the interest cost
incurred for funds used. Net interest income is the amount by which interest
income on earning assets exceeds the interest cost of deposits and borrowings.
Net interest income is influenced by changes in the balance and mix of assets
and liabilities and market interest rates. Management exerts some control over
these factors, however, Federal Reserve monetary policy and competition have a
significant impact. Interest income includes loan fees of $1,142 in 2005, $1,102
in 2004, and $1,752 in 2003. For analytical purposes, net interest income is
adjusted to a "taxable equivalent" basis by adding the income tax savings from
interest on tax-exempt loans and securities, thus making year-to-year
comparisons more meaningful.
TABLE 2. VOLUME AND RATE VARIANCE ANALYSIS
The following table details the dollar amount of changes in FTE net interest
income for each major category of interest earning assets and interest bearing
liabilities and the amount of change attributable to changes in average balances
(volume) or average rates. The change in interest due to both volume and rate
has been allocated to volume and rate changes in proportion to the relationship
of the absolute dollar amounts of the change in each.
2005 Compared to 2004 2004 Compared to 2003
Increase (Decrease) Due to Increase (Decrease) Due to
---------------------------------- --------------------------------------
Volume Rate Net Volume Rate Net
------- ------- ------- ------- -------- --------
CHANGES IN INTEREST INCOME:
Loans $ 1,857 $ 1,024 $ 2,881 $ 2,231 $ (3,626) $ (1,395)
Taxable investment securities (287) 78 (209) (313) (428) (741)
Nontaxable investment securities 440 172 612 378 (271) 107
Federal funds sold (5) 91 86 (101) (62) (163)
Other 96 (75) 21 7 20 27
------- ------- ------- ------- -------- --------
Total changes in interest income 2,101 1,290 3,391 2,202 (4,367) (2,165)
Interest bearing demand deposits (15) 447 432 (60) (428) (488)
Savings deposits (3) 702 699 141 (594) (453)
Time deposits 247 605 852 (333) (945) (1,278)
Federal funds purchased 416 117 533 343 (117) 226
------- ------- ------- ------- -------- --------
Total changes in interest expense 645 1,871 2,516 91 (2,084) (1,993)
------- ------- ------- ------- -------- --------
Net change in interest margin (FTE) $ 1,456 $ (581) $ 875 $ 2,111 $ (2,283) $ (172)
======= ======= ======= ======= ======== ========
19
As shown in Tables 1 and 2, when comparing year ending December 31, 2005 to
2004, fully taxable equivalent (FTE) net interest income increased $875 or
3.58%. An increase of 4.65% in average interest earning assets provided $2,101
of FTE interest income. The majority of this growth was funded by a 2.59%
increase in interest bearing liabilities, resulting in $645 of additional
interest expense. Overall, changes in volume resulted in $1,456 in additional
FTE interest income. The average FTE interest rate earned on assets increased by
0.28%, increasing FTE interest income by $1,290, and the average rate paid on
deposits and borrowings increased by 0.42%, increasing interest expense by
$1,871. The net change related to interest rates earned and paid was a $581
decrease in FTE net interest income.
The Corporation's FTE net yield as a percentage of average earning assets
decreased 0.04% to 3.93%. The narrowing of the spread between interest bearing
assets and liabilities is a result of the steep increase in short term interest
rates, while long term rates have remained essentially unchanged. The ten year
yield curve as of December 31, 2005 was nearly flat. The increasing short term
interest rates have raised the cost of funding as a large portion of interest
bearing liabilities reprice with short term rates. Net interest margins have
also been adversely impacted by a continuing increase in the reliance on
interest bearing liabilities to fund interest earning assets.
As shown in Tables 1 and 2, when comparing year ending December 31, 2004 to
2003, fully taxable equivalent (FTE) net interest income decreased $172 or
0.70%. An increase of 3.02% in average interest earning assets provided $2,202
of FTE interest income. The majority of this growth was funded by a 1.76%
increase in interest bearing liabilities, resulting in $91 of additional
interest expense. Overall, changes in volume resulted in $2,111 in additional
FTE interest income. The average FTE interest rate earned on assets decreased by
0.53%, decreasing FTE interest income by $4,367, and the average rate paid on
deposits decreased by 0.42%, decreasing interest expense by $2,084. The net
change related to interest rates earned and paid was a $2,283 decrease in FTE
net interest income.
The Corporation's FTE net yield as a percentage of average earning assets
decreased 0.15%. A $650 decline in loan fees in 2004 from 2003 accounted for
0.10% of the decline. The decline in these fees was a result of a $140.1 million
decline in the origination and sales of residential mortgages to the secondary
market as the refinancing boom has slowed. The remaining decline was a result of
the average rate earned on earning assets declining faster than the average rate
paid on interest bearing liabilities.
PROVISION FOR LOAN LOSSES
The viability of any financial institution is ultimately determined by its
management of credit risk. Net loans outstanding represent 64.8% of the
Corporation's total year end assets and is the Corporation's single largest
concentration of risk. Poor operating performance may result from the failure to
control credit risk. Given the importance of maintaining sound underwriting
practices, the Banks' Boards of Directors and senior management teams spend a
large portion of their time and effort in loan review. The provision for loan
losses is the amount added to the allowance for loan losses on a monthly basis.
The allowance for loan losses is management's estimation of potential losses
inherent in the loan portfolio, and is maintained at a level considered by
management to be adequate to absorb potential losses. Evaluation of the
allowance for loan losses and the provision for loan losses is based on a review
of the changes in the type and volume of the loan portfolio, reviews of specific
loans to evaluate their collectibility, past and recent loan loss history,
financial condition of borrowers, the amount of impaired loans, overall economic
conditions, and other factors. This evaluation is inherently subjective as it
requires material estimates, including the amounts and timing of future cash
flows expected to be received on impaired loans that may be subject to
significant change.
20
As shown in Table 3, total loans outstanding increased 6.7% in 2005 and
increased 7.4% in 2004. The provision for loan losses in 2005 was $777, a $42
increase from 2004 and a $678 decrease from 2003. Net charge offs to average
loans was 0.07% in 2005 and 0.11% in 2004, and have averaged 0.15% during the
past 5 years versus the average of 0.19% for all commercial banks in the State
of Michigan.
Despite a decrease of .04 %in net charge offs to total loans, and a decline in
substandard loans, the Corporation increased its provision by $42 in 2005. The
primary factor affecting the 2005 provision is an increase in the average amount
of loans past due less than 90 days. It is management's judgment that the
weaknesses in Michigan's economy as seen by an unemployment rate 40% higher than
the national average, a decline in the State's gross domestic product, and a
decline in real estate activity warrants a cautious approach in determining its
necessary loan loss reserves. This cautious approach is further enhanced by
management's internal analysis of its loans showing a slight decrease in overall
loan quality.
The 2003 provision for loan losses was increased as a result of a combination of
factors. During the last quarter of 2003 the Corporation experienced a decline
in the overall credit quality of its outstanding agricultural loans. The
Corporation undertook a detailed review of the credit quality of all significant
agricultural lending relationships, and identified the most significant troubled
loans. The primary factor for the decline in the credit quality was a result of
three consecutive years of weak cash flows due to both low farm commodity prices
and unfavorable growing conditions in mid-Michigan. The Corporation tightened
its credit granting standards during 2003 and continues to monitor existing
relationships for further deterioration.
The allowance to loan losses as a percentage of loans increased from 1.42% as of
December 31, 2004 to 1.43% as of December 31, 2005. Management believes that the
allowance for loans is adequate as of December 31, 2005.
21
TABLE 3. SUMMARY OF LOAN LOSS EXPERIENCE
The following is a summary of loan balances at the end of each year and their
daily average balances, changes in the allowance for loan losses arising from
loans charged off and recoveries on loans previously charged off, and additions
to the allowance that have been expensed.
Year Ended December 31
2005 2004 2003 2002 2001
-------- -------- -------- -------- --------
Amount of loans outstanding at the end
of year $483,242 $452,895 $421,860 $390,860 $389,712
======== ======== ======== ======== ========
Average gross loans outstanding for
the year $466,001 $437,438 $404,953 $396,234 $404,586
======== ======== ======== ======== ========
Allowance for loan losses - January 1 $ 6,444 $ 6,204 $ 5,593 $ 5,471 $ 5,162
Loans charged off
Commercial and agricultural 101 561 578 506 271
Real estate mortgage 166 - 117 236 70
Personal 376 374 445 460 351
-------- -------- -------- -------- --------
TOTAL LOANS CHARGED OFF 643 935 1,140 1,202 692
Recoveries
Commercial and agricultural 105 191 93 140 35
Real estate mortgage - 62 29 18 41
Personal 216 187 174 141 155
-------- -------- -------- -------- --------
TOTAL RECOVERIES 321 440 296 299 231
-------- -------- -------- -------- --------
Net chargeoffs 322 495 844 903 461
Provision charged to income 777 735 1,455 1,025 770
-------- -------- -------- -------- --------
ALLOWANCE FOR LOAN LOSSES - DECEMBER 31 $ 6,899 $ 6,444 $ 6,204 $ 5,593 $ 5,471
======== ======== ======== ======== ========
Ratio of net charge offs during the year
to average loans outstanding 0.07% 0.11% 0.21% 0.23% 0.11%
======== ======== ======== ======== ========
Ratio of allowance for loan losses
to loans outstanding at year end 1.43% 1.42% 1.47% 1.43% 1.40%
======== ======== ======== ======== ========
As shown in Table 4, the percentage of loans classified as nonperforming by the
Corporation as of December 31, 2005 and 2004 was 0.65% and 0.73% of total loans,
respectively and was below the September 30, 2005 ratio of 0.79% for all
commercial banks in the State of Michigan. Average nonperforming loans for the
peer group were 0.49%. The peer group is a composite of financial information of
all bank holding companies with assets between $500 million and $1 billion;
there were 393 bank holding companies in the Corporation's peer group nationwide
for the period indicated. The Banks' policies, including a loan considered
impaired under Statement of Financial Accounting Standards No. 118, are to
transfer a loan to nonaccrual status whenever it is determined that interest
should be recorded on the cash basis instead of the accrual basis because of a
deterioration in the financial position of the borrower, or a determination that
payment in full, including all interest and principal contractually due cannot
be expected, or the loan has been in default for a period of 90 days or more,
unless it is both well secured and in the process of collection.
22
TABLE 4. NONPERFORMING LOANS
The following loans are all the credits which require classification for state
or federal regulatory purposes:
December 31
2005 2004 2003 2002 2001
-------- ------- -------- -------- -------
Nonaccrual loans $ 1,375 $ 1,900 $ 4,121 $ 2,484 $ 1,346
Accruing loans past due 90 days or more 1,058 702 1,380 1,840 1,219
Restructured loans 725 686 - 479
-------- ------- -------- -------- -------
TOTAL NONPERFORMING LOANS $ 3,158 $ 3,288 $ 5,501 $ 4,803 $ 2,565
======== ======= ======== ======== =======
NONPERFORMING LOANS AS A % OF LOANS 0.65% 0.73% 1.30% 1.23% 0.66%
======== ======= ======== ======== =======
As of December 31, 2005, there were no other interest bearing assets which
required classification. Management is not aware of any recommendations by
regulatory agencies that, if implemented, would have a material impact on the
Corporation's liquidity, capital, or operations.
Management's internal analysis of the estimated range for the allowance was
$3,310 to $7,875 as of December 31, 2005. In management's opinion, the allowance
for loan losses of $6,899 is adequate as of December 31, 2005. Management has
allocated, as reflected in Table 5, the allowance for loan losses to the
following categories: 46.9% to commercial and agricultural loans; 46.8% to real
estate loans; 5.8% to installment loans; 0.5% to impaired loans. The above
allocation is not intended to imply limitations on usage of the allowance. The
entire allowance is available to fund loan losses without regard to loan type.
23
TABLE 5. ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses has been allocated according to the amount deemed
to be reasonably necessary to provide for the probability of losses being
incurred within the following categories:
2005 2004 2003 2002 2001
------------------- ------------------- ------------------- ------------------- -------------------
% of Each % of Each % of Each % of Each % of Each
Category Category Category Category Category
Allowance to Total Allowance to Total Allowance to Total Allowance to Total Allowance to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
--------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
Commercial and agricultural $ 2,771 46.9% $ 2,634 42.3% $ 2,140 41.5% $ 1,868 44.1% $ 2,081 41.6%
Real estate mortgage 1,192 46.8 1,463 50.5 1,584 47.8 1,649 45.5 1,408 47.8
Installment 2,286 5.8 1,606 6.6 1,614 9.6 1,679 9.7 1,577 10.5
Impaired loans 184 0.5 304 0.6 622 1.1 103 0.7 56 0.1
Unallocated 466 - 437 - 244 - 294 - 349 -
-------- --------- --------- --------- --------- --------- --------- --------- --------- -------
Total $ 6,899 100.0% $ 6,444 100.0% $ 6,204 100.0% $ 5,593 100.0% $ 5,471 100.0%
======== ========= ========= ========= ========= ========= ========= ========= ========= =======
NONINTEREST INCOME
Noninterest income consists of trust fees, service charges on deposit accounts,
fees for other financial services, gain on the sale of mortgage loans, title
insurance revenue, and other insignificant categories. As is the case for many
financial institutions, management believes fee income is increasingly important
as a source of net earnings and expects this trend to continue. There was a $311
or 3.81% increase in noninterest income from these sources during 2005.
Significant changes during 2005 include a $193 increase in service charges and
fees, a $394 increase from the sale of title insurance and related services, a
$207 decrease from the gain on sale of mortgage loans, and a $69 decrease in
other income.
Included in the $193 increase in other service charges and fees were increases
of $276 in NSF and overdraft fees, $114 in trust revenues, and $52 in ATM and
debit card fees. These increases were offset by a $252 decrease in mortgage
servicing income.
The $69 decrease in other income included decreases of $104 from the gain on
sale of securities, $63 in building rent, and $21 in other income. These
decreases were offset by an increase of $119 from income on bank owned life
insurance.
During 2005, the Corporation had an average investment of $10.3 million in
bank-owned life insurance, a $365 increase over 2004. The average net rate
earned on the investment was approximately 3.52% in 2005(versus 4.10% in 2004)
and, because of the instruments' tax free accumulation of earnings have a
taxable equivalent rate of 5.34%. The rates on these contracts are adjustable
annually on their anniversary date. These policies are placed with five
different insurance companies with an S & P rating of A- or better.
Included in noninterest income is a $270 gain from the sale of $38,624 of
mortgages during 2005 versus a $477 gain on the sale of $55,055 of mortgages
during 2004. The Corporation has established a policy that all fixed rate
mortgage loans with an amortization of greater than 15 years will be sold.
During 2005, most 15-year fixed rate mortgage loans originated were sold on the
secondary market. These loans were sold without recourse, with servicing rights
retained.
24
Noninterest income decreased $2,580 or 24.0% in 2004 when compared to 2003.
Significant changes during 2004 include a $383 decrease from the sale of title
insurance and related services, an $873 decrease in mortgage servicing income,
and a $1,614 decrease in gains on the sale of real estate mortgages, offset by a
$313 increase in overdraft fees. During 2004, the Corporation had an average
investment of $10.1 million in bank-owned life insurance, a $139 increase over
2003. The average net rate earned on the investment was approximately 4.10% in
2004 (versus 4.8% in 2003) and, had a taxable equivalent rate of 6.22%. The
rates on these contracts are adjustable annually on their anniversary date. The
investment was placed with five separate insurance companies with S&P ratings of
AA+ or better.
NONINTEREST EXPENSES
Noninterest expenses increased $613 or 2.75% during 2005. Compensation and
benefits increased $863 or 6.80%, occupancy and furniture and equipment expenses
increased $222 or 5.57%, and other expenses including charitable donations
decreased $472 or 8.43%. Noninterest expenses net of noninterest income divided
by average total assets equaled 2.06% in 2005, 2.09% in 2004, and 1.95% in 2003.
The $863 increase in compensation and benefits included a $247 or 2.62% increase
in salaries expense and a $616 or 18.95% increase in benefits expense. The
majority of the increase in benefit expense is related to a $466 increase in
medical expenses, which was the result of higher than normal medical claims in
2005, and a $96 increase in pension expenses and other retirement expenses. The
Corporation continues to evaluate medical costs and is researching alternatives
to minimize the effects of escalating health care costs.
The $222 increase in occupancy and furniture and equipment expenses includes an
increase of depreciation expense of $183, a $69 increase in ATM and debit card
fees, and a $36 increase in other expenses. These increases were partially
offset by a $66 decrease in computer costs. Of the $183 increase in
depreciation, $152 relates to an increase in furniture and equipment
depreciation, as a result of the Corporation investing in new computer software
in 2005 and 2004.
The $472 decrease in other expenses, including charitable donations, is
comprised of a decrease of $336 or 45.8% in SOX compliance costs and a $136
decrease in various other expense items.
Comparing 2004 to 2003, noninterest expenses decreased $1,307 or 5.5% during
2004. Compensation and benefits expense, which is the largest component of
noninterest expenses, decreased $660 or 4.9%. Salaries decreased $459 and
employee benefits decreased $218. While there were normal merit and promotional
salary increases the net decrease is primarily related to the reduction in
compensation related to the decline in mortgage loan activity, as well as a
decrease related to a 22.7% decline in medical insurance expenses, both of which
were offset by a 13.8% increase in pension expense.
Occupancy and furniture and equipment expenses decreased $43 or 1.1% in 2004.
The decrease is related to a reduction in depreciation expense. All other
operating expenses decreased $604. The most significant decreases are related to
donations, offset by an increase in professional services principally associated
with SOX mandated compliance efforts. Isabella Bank and Trust contributed
approximately $27 in 2004 to the IBT Foundation compared to a contribution of
$870 made in 2003.(See Note 14 to the accompanying Consolidated Financial
Statements.)
FEDERAL INCOME TAXES
Federal income tax expense for 2005 was $1,948 or 22.3% of pre-tax income
compared to $1,878 or 22.0% of pre-tax income in 2004 and $2,035 or 22.0% in
2003. A reconcilement of actual federal income tax expense reported
25
and the amount computed at the federal statutory rate of 34% is found in Note
12, Federal Income Taxes, in notes to the accompanying Consolidated Financial
Statements.
ANALYSIS OF CHANGES IN FINANCIAL CONDITION
Total assets were $741,654 at December 31, 2005, an increase of $63,620 or 9.4%
over year end 2004. Asset growth was primarily funded by a $28,602 increase in
deposits and a $21,183 increase in other borrowed funds. A discussion of changes
in balance sheet amounts by major categories follows.
INVESTMENT SECURITIES
The primary objective of the Corporation's investing activities is to provide
for safety of the principal invested. Secondary considerations include the need
for earnings, liquidity, and the Corporation's overall exposure to changes in
interest rates. During 2005, the Corporation's net holdings of investment
securities increased $20,853. Table 6 shows the carrying value of investment
securities available for sale and held to maturity. Securities held to maturity
in 2004 and 2003, which are stated at amortized cost, consist mostly of local
municipal bond issues, and U.S. Agencies. Securities not classified by
management as held to maturity are classified as available-for-sale and are
stated at fair value.
TABLE 6. INVESTMENT PORTFOLIO
The following is a schedule of the carrying value of investment securities
available for sale and held to maturity:
December 31
2005 2004 2003
----------- ----------- ----------
Available for sale
U.S. Government and federal agencies $ 52,913 $ 51,279 $ 75,803
States and political subdivisions 95,435 84,632 76,656
Corporate 13,220 4,754 3,242
Mortgage-backed 21,838 21,365 14,131
----------- ----------- ----------
TOTAL $ 183,406 $ 162,030 $ 169,832
=========== =========== ==========
Held to maturity
Mortgage-backed $ - $ 3 $ 9
States and political subdivisions - 520 1,303
----------- ----------- ----------
TOTAL $ - $ 523 $ 1,312
=========== =========== ==========
Excluding those holdings of the investment portfolio in U.S. Government and
federal agencies, there were no investments in securities of any one issuer that
exceeded 10% of shareholders' equity. The Corporation has a policy prohibiting
investments in securities that it deems are unsuitable due to their inherent
credit or market risks. Prohibited investments include stripped mortgage backed
securities, zero coupon bonds, nongovernment agency asset backed securities, and
structured notes.
26
The following is a schedule of maturities of each category of investment
securities (at carrying value) and their weighted average yield as of December
31, 2005:
TABLE 7. SCHEDULE OF MATURITIES OF INVESTMENT SECURITIES AND
WEIGHTED AVERAGE YIELDS
After One After Five
Year But Years But
Within Within Within After
One Year Five Years Ten Years Ten Years
Amount Yield Amount Yield Amount Yield Amount Yield
---------- ------- ---------- ------- -------- ------- -------- --------
Available for Sale
U.S. Government and
federal agencies $ 24,268 3.22% $ 28,645 3.31% $ - - $ - -
States and political
subdivisions 16,535 4.78% 50,233 4.54% 26,902 4.92% 1,765 4.65%
Mortgage-backed - - 21,838 3.98% - - - -
Corporate 10,695 5.30% 2,525 3.24% - - - -
---------- ------- ---------- ------- -------- ------- -------- --------
TOTAL $ 51,498 4.16% $ 103,241 4.05% $ 26,902 4.92% $ 1,765 4.65%
========== ======= ========== ======= ======== ======= ======== ========
LOANS
The largest component of earning assets is loans. The proper management of
credit and market risk inherent in loans is critical to the financial well-being
of the Corporation. To control these risks, the Corporation has adopted strict
underwriting standards. The standards include prohibitions against lending
outside the Corporation's defined market area, lending limits to a single
borrower, and strict loan to collateral value limits. The Corporation also
monitors and limits loan concentrations extended to volatile industries. The
Corporation has no foreign loans and there were no concentrations greater than
10% of total loans that are not disclosed as a separate category in Table 8.
TABLE 8. LOAN PORTFOLIO
2005 2004 2003 2002 2001
--------- ---------- --------- --------- ---------
Commercial $ 179,541 $ 146,152 $ 129,392 $ 126,591 $ 115,457
Agricultural 49,424 49,179 52,044 54,788 50,524
Residential real estate mortgage 226,251 227,421 199,455 170,452 181,946
Installment 28,026 30,143 40,969 39,029 41,785
--------- ---------- --------- --------- ---------
$ 483,242 $ 452,895 $ 421,860 $ 390,860 $ 389,712
========= ========== ========= ========= =========
Total loans increased $30,347 in 2005. The increase was primarily in commercial
loans due to a change in the focus related to lending products. As of December
31, 2005, as a percentage of total loans, commercial loans were 37.2%,
agricultural were 10.2%, residential real estate mortgages were 46.8%, and
installments were 5.8%.
27
DEPOSITS
Total deposits increased $28,602 and were $592,478 at year end 2005, a 5.1%
increase from 2004. Average deposits increased 1.6% in 2005 and 0.6% in 2004.
During 2005, average noninterest bearing deposits increased 7.9%, interest
bearing demand deposits decreased 2.6%, savings deposits decreased 0.4%, and
time deposits increased 3.0%. Time deposits over $100 as a percentage of total
deposits equaled 14.4% and 12.9% as of December 31, 2005 and 2004, respectively.
TABLE 9. AVERAGE DEPOSITS
2005 2004 2003
------------------- ----------------- ------------------
Amount Rate Amount Rate Amount Rate
----------- ---- ---------- ---- ---------- ----
Noninterest bearing demand deposits $ 69,610 $ 64,532 $ 61,651
Interest bearing demand deposits 103,684 0.97% 106,471 0.53% 113,206 0.93%
Savings deposits 157,238 1.00% 157,819 0.55% 141,227 0.94%
Tme deposits 245,559 3.58% 238,323 3.34% 247,516 3.73%
----------- ---------- ----------
TOTAL $ 576,091 $ 567,145 $ 563,600
=========== ========== ==========
TABLE 10. MATURITIES OF TIME CERTIFICATES OF DEPOSIT OVER $100,000
December 31
2005 2004 2003
--------- --------- --------
Maturity
Within 3 months $ 17,197 $ 14,415 $ 18,068
Within 3 to 6 months 12,914 12,762 11,475
Within 6 to 12 months 24,708 14,216 8,184
Over 12 months 30,789 31,431 31,746
--------- --------- --------
TOTAL $ 85,608 $ 72,824 $ 69,473
========= ========= ========
Within the banking industry there is agreement that competition from mutual
funds and annuities has had a significant impact on deposit growth. In response,
the Corporation's subsidiaries now offer mutual funds and annuities to its
customers. The Corporation's trust department also offers a variety of financial
products in addition to traditional estate services.
28
CAPITAL
The capital of the Corporation consists solely of common stock, capital surplus,
retained earnings, and accumulated other comprehensive income / (loss). Total
capital increased $8,308 in 2005. The Corporation offers dividend reinvestment
and employee and director stock purchase plans. Under the provisions of these
Plans, the Corporation issued 78,303 shares of common stock generating $2,684 of
capital during 2005, and 57,388 shares of common stock generating $2,001 of
capital in 2004. The Corporation also offers share based payment awards through
its equity compensation plan (See Note 16). Pursuant to this plan, the
Corporation generated $2,704 of capital in 2005. In October 2002 the Board of
Directors authorized management to repurchase up to $2.0 million of the
Corporation's common stock. A total of 4,571 shares were repurchased in 2004 at
an average price of $42 per share. There were no shares repurchased in 2005.
Accumulated other comprehensive income decreased $602 and consists of a $1,816
decrease in unrealized gain on available-for-sale investment securities reduced
by a gain of $1,214 related to the recognition of a reduction in the additional
minimum pension liability.
The Federal Reserve Board's current recommended minimum primary capital to
assets requirement is 6.0%. The Corporation's primary capital to average assets,
which consists of shareholders' equity plus the allowance for loan losses less
acquisition intangibles, was 12.12% at year end 2005. There are no commitments
for significant capital expenditures.
The Federal Reserve Board has established a minimum risk based capital standard.
Under this standard, a framework has been established that assigns risk weights
to each category of on and off-balance-sheet items to arrive at risk adjusted
total assets. Regulatory capital is divided by the risk adjusted assets with the
resulting ratio compared to the minimum standard to determine whether a
corporation has adequate capital. The minimum standard is 8%, of which at least
4% must consist of equity capital net of goodwill. The following table sets
forth the percentages required under the Risk Based Capital guidelines and the
Corporation's values at December 31, 2005:
Percentage of Capital to Risk Adjusted Assets:
IBT Bancorp
December 31, 2005
Required Actual
-------- ------
Equity Capital 4.00% 15.89%
Secondary Capital 4.00% 1.25%
-------- ------
Total Capital 8.00% 17.14%
======== ======
IBT Bancorp's secondary capital includes only the allowance for loan losses. The
percentage for the secondary capital under the required column is the maximum
amount allowed from all sources.
The Federal Reserve also prescribes minimum capital requirements for the
Corporation's subsidiary Banks. At December 31, 2005, the Banks exceeded these
minimums. For further information regarding the Banks' capital requirements,
refer to Note 15 of the Notes to the accompanying Consolidated Financial
Statements, Regulatory Capital Matters.
29
LIQUIDITY
Liquidity management is designed to have adequate resources available to meet
depositor and borrower discretionary demands for funds. Liquidity is also
required to fund expanding operations, investment opportunities, and payment of
cash dividends. The primary sources of the Corporation's liquidity are cash and
cash equivalents and available-for-sale investment securities.
As of December 31, 2005 and 2004, cash and cash equivalents equaled 4.2% and
3.1%, respectively, of total assets. Net cash provided from operations was
$18,452 in 2005 and $12,742 in 2004. Net cash provided by financing activities
equaled $49,215 in 2005 and $7,837 in 2004. The Corporation's investing
activities used cash amounting to $57,602 in 2005 and $31,037 in 2004. The
accumulated effect of the Corporation's operating, investing, and financing
activities on cash and cash equivalents was a $10,065 increase in 2005 and a
$10,458 decrease in 2004.
In addition to cash and cash equivalents, available-for-sale investment
securities are another source of liquidity. Securities available for sale
equaled $183,406 as of December 31, 2005 and $162,030 as of December 31, 2004.
In addition to these primary sources of liquidity, the Corporation has the
ability to borrow in the federal funds market and at both the Federal Reserve
Bank and the Federal Home Loan Bank. The Corporation's liquidity is considered
adequate by the management of the Corporation.
INTEREST RATE SENSITIVITY
Interest rate sensitivity management aims at achieving reasonable stability in
the net interest margin through periods of changing interest rates. Interest
rate sensitivity is determined by the amount of earning assets and interest
bearing liabilities repricing within a specific time period, and their relative
sensitivity to a change in interest rates. One tool used by management to
measure interest rate sensitivity is gap analysis. As shown in Table 11, the gap
analysis depicts the Corporation's position for specific time periods and the
cumulative gap as a percentage of total assets.
Investment securities and other investments are scheduled according to their
contractual maturity. Fixed rate loans are included in the appropriate time
frame based on their scheduled amortization. Variable rate loans are included in
the time frame of their earliest repricing. Of the $483,242 in total loans,
$90,387 are variable rate loans. Time deposit liabilities are scheduled based on
their contractual maturity except for variable rate time deposits in the amount
of $1,370 that are included in the 0 to 3 month time frame.
Savings, NOW accounts, and money market accounts have no contractual maturity
date and are believed to be predominantly noninterest rate sensitive by
management. These accounts have been classified in the gap table according to
their estimated withdrawal rates based upon management's analysis of deposit
runoff over the past five years. Management believes this runoff experience is
consistent with its expectation for the future. As of December 31, 2005, the
Corporation had $23,354 more assets than liabilities maturing within one year. A
positive gap position results when more assets, within a specified time frame,
mature or reprice than liabilities.
30
TABLE 11. INTEREST RATE SENSITIVITY
The following table shows the time periods and the amount of assets and
liabilities available for interest rate repricing as of December 31, 2005. For
purposes of this analysis, nonaccrual loans and the allowance for loan losses
are excluded.
0 to 3 4 to 12 1 to 5 Over 5
Months Months Years Years
---------- ------------ ---------- ---------
Interest Sensitive Assets
Investment securities $ 3,124 $ 52,522 $ 94,921 $ 32,839
Loans 120,733 68,566 262,154 30,414
---------- ------------ ---------- ---------
TOTAL $ 123,857 $ 121,088 $ 357,075 $ 63,253
========== ============ ========== =========
Interest Sensitive Liabilities
Borrowed funds $ 14,266 $ 3,000 $ 21,899 $ 13,000
Time deposits 36,398 109,612 114,600 381
Savings 10,404 12,517 130,476 -
Interest bearing demand 31,485 3,909 68,857 -
---------- ------------ ---------- ---------
TOTAL $ 92,553 $ 129,038 $ 335,832 $ 13,381
========== ============ ========== =========
Cumulative gap (deficiency) $ 31,304 $ 23,354 $ 44,597 $ 94,469
Cumulative gap (deficiency as a % of assets) 4.22% 3.15% 6.01% 12.74%
TABLE 12. LOAN MATURITY AND INTEREST RATE SENSITIVITY
The following table shows the maturity of commercial and agricultural loans
outstanding at December 31, 2005. Also provided are the amounts due after one
year, classified according to the sensitivity to changes in interest rates.
Due in
1 Year 1 to 5 Over 5
or Less Years Years Total
--------- --------- -------- ---------
Commercial and agricultural $ 68,031 $ 154,661 $ 6,273 $ 228,965
========= ========= ======== =========
Interest Sensitivity
Loans maturing after one year that have:
Fixed interest rates $ 130,225 $ 4,918
Variable interest rates 24,436 1,355
--------- --------
TOTAL $ 154,661 $ 6,273
========= ========
31
ITEM 7 A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Corporation's primary market risks are interest rate risk and, to a lesser
extent, liquidity risk. The Corporation has no foreign exchange risk, holds
limited loans outstanding to oil and gas concerns, holds no trading account
assets, nor does it utilize interest rate swaps or derivatives, except for
interest rate locks, in the management of its interest rate risk. Any changes in
foreign exchange rates or commodity prices would have an insignificant impact,
if any, on the Corporation's interest income and cash flows. The Corporation
does have a significant amount of loans extended to borrowers in agricultural
production. Their cash flow and their ability to service their debt is largely
dependent on the commodity prices for corn, soybeans, sugar beets, milk, beef,
and a variety of dry beans. The Corporation mitigates these risks by using
conservative price and production yields when calculating a borrower's available
cash flow to service their debt.
Interest rate risk ("IRR") is the exposure of the Corporation's net interest
income, its primary source of income, to changes in interest rates. IRR results
from the difference in the maturity or repricing frequency of a financial
institution's interest earning assets and its interest bearing liabilities. IRR
is the fundamental method in which financial institutions earn income and create
shareholder value. Excessive exposure to IRR could pose a significant risk to
the Corporation's earnings and capital.
The Federal Reserve, the Corporation's primary Federal regulator, has adopted a
policy requiring the Board of Directors and senior management to effectively
manage the various risks that can have a material impact on the safety and
soundness of the Corporation. The risks include credit, interest rate,
liquidity, operational, and reputational. The Corporation has policies,
procedures and internal controls for measuring and managing these risks.
Specifically, the IRR policy and procedures include defining acceptable types
and terms of investments and funding sources, liquidity requirements, limits on
investments in long term assets, limiting the mismatch in repricing opportunity
of assets and liabilities, and the frequency of measuring and reporting to the
Board of Directors.
The Corporation uses several techniques to manage IRR. The first method is gap
analysis. Gap analysis measures the cash flows and/or the earliest repricing of
the Corporation's interest bearing assets and liabilities. This analysis is
useful for measuring trends in the repricing characteristics of the balance
sheet. Significant assumptions are required in this process because of the
imbedded repricing options contained in assets and liabilities. A substantial
portion of the Corporation's assets are invested in loans and mortgage backed
securities. These assets have imbedded options that allow the borrower to repay
the balance prior to maturity without penalty. The amount of prepayments is
dependent upon many factors, including the interest rate of a given loan in
comparison to the current interest rate for residential mortgages, the level of
sales of used homes, and the overall availability of credit in the market place.
Generally, a decrease in interest rates will result in an increase in the
Corporation's cash flows from these assets. Investment securities, other than
those that are callable, do not have any significant imbedded options. Savings
and checking deposits may generally be withdrawn on request without prior
notice. The timing of cash flow from these deposits is estimated based on
historical experience. Time deposits have penalties that discourage early
withdrawals.
The second technique used in the management of IRR is to combine the projected
cash flows and repricing characteristics generated by the gap analysis and the
interest rates associated with those cash flows to project future interest
income. By changing the amount and timing of the cash flows and the repricing
interest rates of those cash flows, the Corporation can project the effect of
changing interest rates on its interest income. Based on the projections
prepared for the year ended December 31, 2005 the Corporation's net interest
income would increase during a period of increasing long term interest rates.
The following tables provide information about the Corporation's assets and
liabilities that are sensitive to changes in interest rates as of December 31,
2005 and 2004. The Corporation has no interest rate swaps, futures
32
contracts, or other derivative financial options. The principal amounts of
assets and time deposits maturing were calculated based on the contractual
maturity dates. Savings and NOW accounts are based on management's estimate of
their future cash flows.
QUANTITATIVE DISCLOSURES OF MARKET RISK
(dollars in thousands) December 31, 2005 Fair Value
------------------------------------------------------------------------------------------ ----------
2006 2007 2008 2009 2010 Thereafter Total 12/31/05
----------- ------------ ----------- ----------- ----------- ---------- ----------- ----------
Rate sensitive assets
Other interest bearing
assets $ 3,251 $ - $ - $ - $ - $ - $ 3,251 $ 3,251
Average interest rates 2.49% - - - - - 2.49%
Fixed interest rate
securities $ 55,646 $ 41,790 $ 28,358 $ 14,484 $ 10,289 $ 32,839 $ 183,406 $ 183,406
Average interest rates 4.02% 3.39% 3.53% 3.91% 3.83% 3.52% 3.60%
Fixed interest rate loans $ 100,287 $ 72,422 $ 81,034 $ 52,992 $ 55,706 $ 30,414 $ 392,855 $ 396,277
Average interest rates 6.24% 6.09% 6.22% 5.96% 6.41% 6.20% 6.19%
Variable interest rate loans $ 48,475 $ 16,265 $ 16,143 $ 5,309 $ 4,121 $ 74 $ 90,387 $ 90,387
Average interest rates 8.46% 7.95% 7.76% 7.74% 7.87% 6.42% 8.19%
Rate sensitive liabilities
Borrowed funds $ 17,266 $ 5,000 $ 5,113 $ 3,500 $ 8,286 $ 13,000 $ 52,165 $ 52,216
Average interest rates 4.02% 3.72% 4.77% 3.66% 5.11% 4.84% 4.42%
Savings and NOW accounts $ 58,315 $ 84,868 $ 83,657 $ 23,708 $ 7,100 $ - $ 257,648 $ 257,648
Average interest rates 2.97% 1.05% 0.88% 0.74% 0.93% - 1.36%
Fixed interest rate time
deposits $ 144,640 $ 48,977 $ 27,856 $ 17,451 $ 20,316 $ 381 $ 259,621 $ 259,245
Average interest rates 3.71% 3.99% 3.82% 3.76% 4.23% 5.29% 3.82%
Variable interest rate time
deposits $ 972 $ 391 $ 7 $ - $ - $ - $ 1,370 $ 1,370
Average interest rates 3.51% 3.54% 3.55% - - - 3.52%
December 31, 2004 Fair Value
--------------------------------------------------------------------------------- ------------
2005 2006 2007 2008 2009 Thereafter Total 12/31/04
---------- --------- ---------- ---------- --------- ---------- ----------- ------------
Rate sensitive assets
Other interest bearing assets $ 199 $ - $ - $ - $ - $ - $ 199 $ 199
Average interest rates 3.79% - - - - - 3.79%
Fixed interest rate securities $ 15,039 $ 26,096 $ 32,359 $ 24,812 $ 8,024 $ 56,223 $ 162,553 $ 162,567
Average interest rates 3.87% 3.17% 2.99% 3.25% 3.81% 3.72% 3.43%
Fixed interest rate loans $ 67,089 $ 53,281 $ 69,581 $ 58,933 $ 68,047 $ 41,601 $ 358,532 $ 326,590
Average interest rates 6.44% 6.31% 6.08% 6.10% 5.81% 5.25% 6.04%
Variable interest rate loans $ 64,199 $ 4,434 $ 8,054 $ 8,481 $ 6,320 $ 2,875 $ 94,363 $ 94,363
Average interest rates 6.22% 6.28% 6.30% 6.01% 6.32% 8.65% 6.29%
Rate sensitive liabilities
Borrowed funds $ 3,504 $ 10,500 $ 4,166 $ - $ 3,500 $ 9,312 $ 30,982 $ 26,466
Average interest rates 2.19% 3.86% 3.49% 0.00% 3.66% 5.16% 3.99%
Savings and NOW accounts $ 63,549 $ 56,872 $ 73,117 $ 36,878 $ 28,915 $ 4,547 $ 263,878 $ 263,876
Average interest rates 1.09% 0.56% 0.50% 0.35% 0.76% 0.55% 0.66%
Fixed interest rate time
deposits $ 118,333 $ 46,859 $ 34,415 $ 17,600 $ 12,805 $ 2,852 $ 232,864 $ 219,135
Average interest rates 3.01% 3.87% 3.91% 3.43% 3.51% 4.11% 3.39%
Variable interest rate time
deposits $ 855 $ 543 $ - $ - $ - $ - $ 1,398 $ 1,398
Average interest rates 2.02% 2.01% - - - - 2.02%
33
FORWARD LOOKING STATEMENTS
This report contains certain forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. The Corporation intends such
forward-looking statements to be covered by the safe harbor provisions for
forward-looking statements contained in the Private Securities Reform Act of
1995, and is including this statement for purposes of these safe harbor
provisions. Forward-looking statements, which are based on certain assumptions
and describe future plans, strategies and expectations of the Corporation, are
generally identifiable by use of the words "believe," "expect," "intend,"
"anticipate," "estimate," "project," or similar expressions. The Corporation's
ability to predict results or the actual effect of future plans or strategies is
inherently uncertain. Factors which could have a material adverse effect on the
operations and future prospects of the Corporation and the subsidiaries include,
but are not limited to, changes in interest rates, general economic conditions,
legislative/regulatory changes, monetary and fiscal policies of the U.S.
Government including policies of the U.S. Treasury and the Federal Reserve
Board, the quality or composition of the loan or investment portfolios, demand
for loan products, deposit flows, competition, demand for financial services in
the Corporation's market area, and accounting principles, policies and
guidelines. These risks and uncertainties should be considered in evaluating
forward-looking statements and undue reliance should not be placed on such
statements. Further information concerning the Corporation and its business,
including additional factors that could materially affect the Corporation's
financial results, is included in the Corporation's filings with the Securities
and Exchange Commission.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following consolidated financial statements of the registrant and the report
of the independent registered public accounting firm are set forth on pages 35
through 65 of this report:
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets
Consolidated Statements of Changes in Shareholders' Equity
Consolidated Statements of Income
Consolidated Statements of Comprehensive Income
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
The supplementary data regarding quarterly results of operations are set forth
under the table headed "Summary of Selected Financial Data" under Item 6 on Page
16 of this report.
34
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Shareholders and Board of Directors
IBT Bancorp, Inc.
Mt. Pleasant, Michigan
We have audited the accompanying consolidated balance sheets of IBT BANCORP,
INC. as of December 31, 2005 and 2004, and the related consolidated statements
of changes in shareholders' equity, income, comprehensive income, and cash flows
for each of the years in the three-year period ended December 31, 2005. We also
have audited management's assessment, included in the accompanying Management's
Report on Internal Control over Financial Reporting, that IBT BANCORP, INC.
maintained effective internal control over financial reporting as of December
31, 2005, based on criteria established in the Internal Control-Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). IBT BANCORP, INC'S management is responsible for these
consolidated financial statements, for maintaining effective internal control
over financial reporting, and for its assessment of the effectiveness of
internal control over financial reporting. Our responsibility is to express an
opinion on these consolidated financial statements, an opinion on management's
assessment, and an opinion on the effectiveness of the IBT BANCORP, INC.'S
internal control over financial reporting, based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement and whether
effective internal control over financial reporting was maintained in all
material respects. Our audits of the consolidated financial statements included
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements, assessing the accounting principles used
and significant estimates made by management, and evaluating the overall
financial statement presentation. Our audit of internal control over financial
reporting included obtaining an understanding of internal control over financial
reporting, evaluating management's assessment, testing and evaluating the design
and operating effectiveness of internal control, and performing such other
procedures as we considered necessary in the circumstances. We believe that our
audits provide a reasonable basis for our opinions.
A corporation's internal control over financial reporting is a process designed
to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of consolidated financial statements for external purposes
in accordance with generally accepted accounting principles. A corporation's
internal control over financial reporting includes those policies and procedures
that (1) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of
the corporation; (2) provide reasonable assurance that transactions are recorded
as necessary to permit preparation of consolidated financial statements in
accordance with generally accepted accounting principles, and that receipts and
expenditures of the corporation are being made only in accordance with
authorizations of management and directors of the corporation; and (3) provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the corporation's assets that could have a
material effect on the consolidated financial statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may
35
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of IBT
BANCORP, INC. as of December 31, 2005 and 2004, and the consolidated results of
their operations and their cash flows for each of the years in the three-year
period ended December 31, 2005 in conformity with accounting principles
generally accepted in the United States. Also, in our opinion, management's
assessment that IBT BANCORP, INC. maintained effective internal control over
financial reporting as of December 31, 2005 is fairly stated, in all material
respects, based on criteria established in the Internal Control-Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). Furthermore, in our opinion, IBT BANCORP, INC. maintained, in
all material respects, effective internal control over financial reporting as of
December 31, 2005, based on criteria established in the Internal
Control-Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission (COSO).
REHMANN ROBSON P.C.
Saginaw, Michigan
March 3, 2006
36
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
December 31
2005 2004
-------------- -------------
ASSETS
Cash and demand deposits due from banks $ 30,825 $ 20,760
Investment securities
Securities available for sale (amortized cost of
$185,688 in 2005 and $161,561 in 2004) 183,406 162,030
Securities held to maturity (fair value -
$537 in 2004) - 523
-------------- -------------
TOTAL INVESTMENT SECURITIES 183,406 162,553
Mortgage loans available for sale 744 2,339
Loans (net of the allowance for loan losses) 476,343 446,451
Premises and equipment 19,172 18,533
Bank-owned life insurance 10,533 10,168
Accrued interest receivable 4,786 4,315
Acquisition intangibles and goodwill, net 3,253 3,347
Other assets 12,592 9,568
-------------- -------------
TOTAL ASSETS $ 741,654 $ 678,034
============== =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits
Noninterest bearing $ 73,839 $ 65,736
NOW accounts 104,251 101,362
Certificates of deposit and other savings 328,780 323,954
Certificates of deposit over $100,000 85,608 72,824
-------------- -------------
TOTAL DEPOSITS 592,478 563,876
Other borrowed funds 52,165 30,982
Escrow funds payable 9,823 1,725
Accrued interest and other liabilities 6,286 8,857
-------------- -------------
TOTAL LIABILITIES 660,752 605,440
Shareholders' Equity
Common stock -- no par value
10,000,000 shares authorized; outstanding--
4,974,715 in 2005 (4,896,412 in 2004) 72,296 66,908
Retained earnings 10,112 6,590
Accumulated other comprehensive loss (1,506) (904)
-------------- -------------
TOTAL SHAREHOLDERS' EQUITY 80,902 72,594
-------------- -------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 741,654 $ 678,034
============== =============
The accompanying notes are an integral part of these consolidated financial
statements.
37
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(Dollars in thousands)
Year Ended December 31
2005 2004 2003
----------- ------------ ---------
NUMBER OF SHARES OF COMMON STOCK OUTSTANDING
Balance at beginning of year 4,896,412 4,403,404 4,336,283
Common stock dividends - 440,191 -
Issuance of common stock 78,303 57,388 70,340
Common stock repurchased - (4,571) (3,219)
----------- ------------ ---------
BALANCE END OF YEAR 4,974,715 4,896,412 4,403,404
=========== ============ =========
COMMON STOCK
Balance at beginning of year $ 66,908 $ 47,491 $ 45,610
Common stock dividends - 17,608 -
Issuance of common stock 2,684 2,001 2,008
Share based payment awards under equity compensation plan 2,704 - -
Common stock repurchased - (192) (127)
----------- ------------ ---------
BALANCE END OF YEAR 72,296 66,908 47,491
RETAINED EARNINGS
Balance at beginning of year 6,590 20,623 16,299
Net income 6,776 6,645 7,205
Common stock dividends - (17,608) -
Cash dividends ($0.60 per share in 2005,
$0.57 per share in 2004 ,$0.55 per share in 2003) (3,254) (3,070) (2,881)
----------- ------------ ---------
BALANCE END OF YEAR 10,112 6,590 20,623
ACCUMULATED OTHER COMPREHENSIVE LOSS
Balance at beginning of year (904) 822 1,548
Other comprehensive loss (602) (1,726) (726)
----------- ------------ ---------
BALANCE END OF YEAR (1,506) (904) 822
----------- ------------ ---------
TOTAL SHAREHOLDERS' EQUITY END OF YEAR $ 80,902 $ 72,594 $ 68,936
=========== ============ =========
The accompanying notes are an integral part of these consolidated financial
statements.
38
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS EXCEPT PER SHARE DATA)
YEAR ENDED DECEMBER 31
2005 2004 2003
------------ ------------ ----------
INTEREST INCOME
Loans, including fees $ 30,682 $ 27,801 $ 29,193
Investment securities
Taxable 3,487 3,696 4,437
Nontaxable 2,398 2,116 2,004
Federal funds sold and other 315 208 344
------------ ------------ ----------
TOTAL INTEREST INCOME 36,882 33,821 35,978
INTEREST EXPENSE
Deposits 11,374 9,391 11,610
Borrowings 1,599 1,066 840
------------ ------------ ----------
TOTAL INTEREST EXPENSE 12,973 10,457 12,450
------------ ------------ ----------
NET INTEREST INCOME 23,909 23,364 23,528
Provision for loan losses 777 735 1,455
------------ ------------ ----------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 23,132 22,629 22,073
NONINTEREST INCOME
Service charges and fees 4,928 4,735 5,141
Title insurance revenue 2,351 1,957 2,340
Gain on sale of mortgage loans 270 477 2,091
Other 927 996 1,173
------------ ------------ ----------
TOTAL NONINTEREST INCOME 8,476 8,165 10,745
NONINTEREST EXPENSES
Compensation and benefits 13,548 12,685 13,345
Occupancy 1,553 1,504 1,471
Furniture and equipment 2,657 2,484 2,560
Charitable donations 79 109 1,158
Other 5,047 5,489 5,044
------------ ------------ ----------
TOTAL NONINTEREST EXPENSES 22,884 22,271 23,578
INCOME BEFORE FEDERAL INCOME TAXES 8,724 8,523 9,240
Federal income taxes 1,948 1,878 2,035
------------ ------------ ----------
NET INCOME $ 6,776 $ 6,645 $ 7,205
============ ============ ==========
Net income per basic share of common stock $ 1.25 $ 1.24 $ 1.36
============ ============ ==========
The accompanying notes are an integral part of these consolidated financial
statements.
39
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Dollars in thousands)
Year Ending December 31
2005 2004 2003
------------ ----------- ----------
NET INCOME $ 6,776 $ 6,645 $ 7,205
------------ ----------- ----------
Other comprehensive loss before income taxes:
Unrealized losses on available-for-sale securities:
Unrealized holding losses arising during period (2,749) (2,527) (1,223)
Reclassification adjustment for net realized gains
included in net income (2) (106) (85)
Reversal of minimum pension liability adjustment 1,839 18 208
------------ ----------- ----------
Other comprehensive loss before
income tax benefit (912) (2,615) (1,100)
Income tax benefit related to other
comprehensive loss 310 889 374
------------ ----------- ----------
OTHER COMPREHENSIVE LOSS (602) (1,726) (726)
------------ ----------- ----------
COMPREHENSIVE INCOME $ 6,174 $ 4,919 $ 6,479
============ =========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
40
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Year Ended December 31
2005 2004 2003
------------ ----------- -----------
OPERATING ACTIVITIES
Net income $ 6,776 $ 6,645 $ 7,205
Reconciliation of net income to cash provided by operations:
Provision for loan losses 777 735 1,455
Depreciation 1,735 1,552 1,703
Net amortization of investment securities 957 1,558 1,592
Realized gain on sale of investment securities (2) (106) (85)
Amortization and impairment of mortgage servicing rights 140 135 643
Increase in cash value of life insurance (365) (427) (608)
Amortization of acquisition intangibles 94 93 94
Deferred income taxes (benefit) 263 305 (41)
Changes in operating assets and liabilities which provided (used) cash
Loans held for sale 1,595 1,976 9,077
Interest receivable (471) 219 363
Other assets (1,443) (1,235) (1,008)
Escrow funds payable 8,098 (1,033) (328)
Accrued interest and other liabilities 298 2,325 (198)
------------ ----------- -----------
NET CASH PROVIDED BY OPERATING ACTIVITIES 18,452 12,742 19,864
INVESTING ACTIVITIES
Activity in available-for-sale securities
Maturities, calls, and sales 31,962 72,633 49,776
Purchases (57,044) (68,892) (64,710)
Activity in held to maturity securities
Maturities, calls, and sales 523 765 620
Net increase in loans (30,669) (31,531) (31,615)
Purchases of premises and equipment (2,374) (4,300) (3,018)
Acquisition of title office - - (36)
Redemption of cash value life insurance - 288 389
------------ ----------- -----------
NET CASH USED IN INVESTING ACTIVITIES (57,602) (31,037) (48,594)
FINANCING ACTIVITIES
Net increase (decrease) in noninterest bearing deposits 8,103 (2,024) 4,654
Net increase (decrease) in interest bearing deposits 20,499 (1,807) 1,597
Net increase in other borrowed funds 21,183 12,929 260
Cash dividends paid on common stock (3,254) (3,070) (2,881)
Proceeds from the issuance of common stock 2,684 2,001 2,008
Common stock repurchased - (192) (127)
------------ ----------- -----------
NET CASH PROVIDED BY FINANCING ACTIVITIES 49,215 7,837 5,511
------------ ----------- -----------
INCREASE (DECREASE) IN CASH AND CASH EQUIVELANTS 10,065 (10,458) (23,219)
Cash and cash equivelants at beginning of year 20,760 31,218 54,437
------------ ----------- -----------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 30,825 $ 20,760 $ 31,218
============ =========== ===========
Supplemental cash flows information:
Interest paid $ 12,814 $ 10,420 $ 12,450
Federal income taxes paid 1,000 2,569 2,034
The accompanying notes are an integral part of these consolidated financial
statements.
41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION AND CONSOLIDATION: The consolidated financial statements
include the accounts of IBT Bancorp, Inc. (the "Corporation"), a financial
services holding company, and its wholly owned subsidiaries, Isabella Bank and
Trust, Farmers State Bank of Breckenridge, IBT Title and Insurance Agency, Inc.,
Financial Group Information Services, and its majority owned subsidiaries, IBT
Personnel, LLC (79%), and IB&T Employee Leasing, LLC (79%). All intercompany
balances and accounts have been eliminated in consolidation.
NATURE OF OPERATIONS: IBT Bancorp, Inc. is a financial services holding company
offering a wide array of financial products and services in mid-Michigan. Its
banking subsidiaries, Isabella Bank and Trust and Farmers State Bank of
Breckenridge, offer banking services through 21 locations, 24-hour banking
services locally and nationally through shared automatic teller machines, and
direct deposits to businesses, institutions, and individuals. Lending services
offered include commercial real estate loans and lines of credit, agricultural
loans, residential real estate loans, consumer loans, student loans, and credit
cards. Deposit services include interest and noninterest bearing checking
accounts, savings accounts, money market accounts, and certificates of deposit.
Other related financial products include trust services, safe deposit box
rentals, and credit life insurance. Active competition, principally from other
commercial banks, savings banks and credit unions, exists in all of the Banks'
principal markets. The Corporation's results of operations can be significantly
affected by changes in interest rates or changes in the local economic
environment.
IBT Title and Insurance Agency, Inc. (IBT Title) does business under the names
Isabella County Abstract and Title, Mecosta County Abstract and Title, IBT Title
Clare, and Benchmark Title of Greenville. IBT Title provides title insurance and
abstract searches, and closes real estate loans.
Financial Group Information Services provides information technology services
for all of IBT Bancorp's subsidiaries.
IBT Personnel and IB&T Employee Leasing provide payroll services, benefit
administration, and other human resource services to IBT Bancorp's subsidiaries.
USE OF ESTIMATES: In preparing consolidated financial statements in conformity
with generally accepted accounting principles, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the consolidated balance sheet and reported
amounts of revenues and expenses during the reporting year. Actual results could
differ from those estimates.
Material estimates that are particularly susceptible to significant change in
the near term relate to the determination of the allowance for loan losses, the
valuation of mortgage servicing rights, the valuation of real estate acquired in
connection with foreclosures or in satisfaction of loans. In connection with the
determination of the allowance for loan losses and the carrying value of
foreclosed real estate, management obtains independent appraisals for
significant properties.
SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK: Most of the Corporation's
activities conducted are with customers located within the central Michigan
area. A significant amount of its outstanding loans are secured by real estate
or are made to finance agricultural production. Other than these types of loans,
there is no significant concentration to any other industry or customer.
42
CASH AND CASH EQUIVALENTS: For purposes of the consolidated statements of cash
flows, cash and cash equivalents include cash and balances due from banks,
federal funds sold, and other deposit accounts, all of which mature within
ninety days.
SECURITIES: Debt securities that management has the positive intent and ability
to hold to maturity are classified as "held to maturity" and recorded at
amortized cost. Securities not classified as held to maturity are classified as
"available for sale" and recorded at fair value, with unrealized gains and
losses, net of the effect of deferred income taxes, excluded from earnings and
reported in other comprehensive income.
Purchase premiums and discounts are recognized in interest income using the
interest method over the terms of the securities. Declines in the fair value of
held-to-maturity and available-for-sale securities below their cost that are
deemed to be other than temporary are reflected in earnings as realized losses.
In estimating other-then-temporary impairment losses, management considers (1)
the length of time and the extent to which the fair value has been less than
cost, (2) the financial condition and near-term prospects of the issuer, and (3)
the intent and ability of the Corporation to retain its investment in the issuer
for a period of time sufficient to allow for any anticipated recovery in fair
value. Gains and losses on the sale of securities are recorded on the trade date
and are determined using the specific identification method.
LOANS: Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or payoff are reported at their outstanding
principal balance adjusted for any charge offs, the allowance for loans losses,
and any deferred fees or costs on originated loans. Interest income on loans is
accrued over the term of the loan based on the principal amount outstanding.
Loan origination fees and certain direct loan origination costs are capitalized
and recognized as a component of interest income over the term of the loan using
the constant yield method.
The accrual of interest on mortgage and commercial loans is discontinued at the
time the loan is 90 days or more past due unless the credit is well-secured and
in the process of collection. Credit card loans and other personal loans are
typically charged off no later than 180 days past due. Past due status is based
on contractual terms of the loan. In all cases, loans are placed on nonaccrual
or charged off at an earlier date if collection of principal or interest is
considered doubtful.
For loans that are placed on non-accrual status or charged-off, all interest
accrued in the current calendar year, but not collected, is reversed against
interest income while interest accrued in prior calendar years, but not
collected is charged against the allowance for loan losses. The interest on
these loans is accounted for on the cash-basis or cost-recovery method, until
qualifying for return to accrual. Loans are returned to accrual status when all
principal and interest amounts contractually due are brought current and future
payments are reasonably assured.
ALLOWANCE FOR LOAN LOSSES: The allowance for loan losses is established as
losses are estimated to have occurred through a provision for loan losses
charged to earnings. Loan losses are charged against the allowance when
management believes the uncollectibility of the loan balance is confirmed.
Subsequent recoveries, if any, are credited to the allowance.
The allowance for loan losses is evaluated on a regular basis by management and
is based upon management's periodic review of the collectibility of the loans in
light of historical experience, the nature and volume of the loan portfolio,
adverse situations that may affect the borrower's ability to repay, estimated
value of any underlying collateral and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revision as more information becomes available.
43
The allowance consists of specific, general and unallocated components. The
specific component relates to loans that are classified as either doubtful,
substandard or special mention. For such loans that are also classified as
impaired, an allowance is established when the discounted cash flows (or
collateral value or observable market price) of the impaired loan is lower than
the carrying value of that loan. The general component covers non-classified
loans and is based on historical loss experience adjusted for qualitative
factors. An unallocated component is maintained to cover uncertainties that
management believes affect its estimate of probable losses. The unallocated
component of the allowance reflects the margin of imprecision inherent in the
underlying assumptions used in the methodologies for estimating specific and
general losses in the portfolio.
A loan is considered impaired when, based on current information and events, it
is probable that the Banks will be unable to collect the scheduled payments of
principal or interest when due according to the contractual terms of the loan
agreement. Factors considered by management in determining impairment include
payment status, collateral value, and the probability of collecting scheduled
principal and interest payments when due. Loans that experience insignificant
payment delays and payment shortfalls generally are not classified as impaired.
Management determines the significance of payment delays and payment shortfalls
on a case-by-case basis, taking into consideration all of the circumstance
surrounding the loan and the borrower, including the length of the delay, the
reason for the delay, the borrower's prior payment record, and the amount of the
shortfall in relation to the principal and interest owed. Impairment is measured
on a loan by loan basis for commercial and construction loans by either the
present value of expected future cash flows discounted at the loan's effective
interest rate, the loan's obtainable market price, or the fair value of the
collateral if the loan is collateral dependent.
Large groups of smaller balance homogeneous loans are collectively evaluated for
impairment. Accordingly, the Corporation does not separately identify individual
consumer and residential loans for impairment disclosures, unless such loans are
the subject of a restructuring agreement.
LOANS HELD FOR SALE: Mortgage loans originated and intended for sale in the
secondary market are carried at the lower of aggregate cost or fair value as
determined by aggregating outstanding commitments from investors or current
investor yield requirements. Net unrealized losses, if any, are recognized
through a valuation allowance by charges to income.
Mortgage loans held for sale are generally sold with the mortgage servicing
rights retained by the Banks. The carrying value of mortgage loans sold is
reduced by the cost allocated to the associated mortgage servicing rights. Gains
or losses on sales of mortgage loans are recognized based on the difference
between the selling price and the carrying value of the related mortgage loans
sold.
TRANSFERS OF FINANCIAL ASSETS: Transfers of financial assets, including held for
sale mortgage loans, as described above, and participation loans are accounted
for as sales when control over the assets has been surrendered. Control over
transferred assets is determined to be surrendered when 1) the assets have been
isolated from the Banks, 2) the transferee obtains the right (free of conditions
that constrain it from taking advantage of the right) to pledge or exchange the
transferred assets and 3) the Banks do not maintain effective control over the
transferred assets through an agreement to repurchase them before their
maturity.
SERVICING: Servicing assets are recognized as separate assets when rights are
acquired through purchase or through sale of financial assets. Generally,
purchased servicing rights are capitalized at the cost to acquire the rights.
For sales of mortgage loans, a portion of the cost of originating the loan is
allocated to the servicing right based on relative fair value. Fair value is
based on market prices for comparable mortgage servicing contracts, when
available, or alternatively, is based on a valuation model that calculates the
present value of estimated future net servicing income. The valuation model
incorporates assumptions that market participants would use
44
in estimating future net servicing income, such as the cost to service, the
discount rate, the custodial earnings rate, an inflation rate, ancillary income,
prepayment speeds and default rates and losses. Capitalized servicing rights are
reported in other assets and are amortized into non-interest income in
proportion to, and over the period of, the estimated future net servicing income
of the underlying financial assets.
Servicing assets are evaluated for impairment based upon the fair value of the
rights as compared to amortized cost. Impairment is determined by stratifying
rights into tranches based on predominant risk characteristics, such as interest
rate, loan type, and investor type. Impairment is recognized through a valuation
allowance for an individual tranche, to the extent that fair value is less than
the capitalized amount for the tranche. If the Corporation later determines that
all or a portion of the impairment no longer exists for a particular tranche, a
reduction of the allowance may be recorded as an increase to income.
Servicing fee income is recorded for fees earned for servicing loans. The fees
are based on a contractual percentage of the outstanding principal; or a fixed
amount per loan and are recorded as income when earned. The amortization of
mortgage servicing rights is netted against loan servicing fee income, a
component of noninterest income.
OFF-BALANCE-SHEET CREDIT RELATED FINANCIAL INSTRUMENTS: In the ordinary course
of business, the Corporation has entered into commitments to extend credit,
including commitments under credit card arrangements, home equity lines of
credit, commercial letters of credit, and standby letters of credit. Such
financial instruments are recorded only when funded.
FORECLOSED ASSETS: Assets acquired through, or in lieu, of loan foreclosure are
initially recorded at the lower of the Bank's carrying amount or fair value less
estimated selling costs at the date of transfer, establishing a new cost basis.
Any write-downs based on the asset's fair value at the date of acquisition are
charged to the allowance for loan losses. After foreclosure, property held for
sale is carried at the lower of the new cost basis or fair value less costs to
sell. Impairment losses on property to be held and used are measured at the
amount by which the carrying amount of property exceeds its fair value. Costs of
significant property improvements are capitalized, whereas costs relating to
holding property are expensed. The portion of interest costs relating to
development of real estate is capitalized. Valuations are periodically performed
by management, and any subsequent write-downs are recorded as a charge to
operations, if necessary, to reduce the carrying value of a property to the
lower of its cost or fair value less costs to sell.
PREMISES AND EQUIPMENT: Land is carried at cost. Buildings and equipment are
carried at cost less accumulated depreciation. Depreciation is computed
principally by the straight line method based upon the useful lives of the
assets which generally range from 5 to 30 years. Maintenance, repairs and minor
alterations are charged to current operations as expenditures occur and major
improvements are capitalized.
RESTRICTED INVESTMENTS: Included in other assets are restricted securities of
$3,080 in 2005 and $2,910 in 2004. Restricted securities include the stock of
the Federal Reserve Bank and the Federal Home Loan Bank and have no contractual
maturity.
BANK OWNED LIFE INSURANCE: The Corporation has purchased life insurance policies
on key members of management. In the event of death of one of these individuals,
the Corporation would receive a specified cash payment equal to the face value
of the policy. Such policies are recorded at their cash surrender value, or the
amount that can be realized. Increases in cash surrender value in excess of
premiums paid are reported as other noninterest income.
45
ACQUISITION INTANGIBLES AND GOODWILL: Isabella Bank and Trust previously
acquired branch facilities and related deposits in a business combination
accounted for as a purchase. The acquisition of the branches included amounts
related to the valuation of customer deposit relationships (core deposit
intangibles). The core deposit intangible is included in other assets and is
being amortized on the straight line basis over nine years, the expected life of
the acquired relationship. Goodwill is included in other assets and is not
amortized but is evaluated for impairment at least annually.
FEDERAL INCOME TAXES: Federal income taxes are provided for the tax effects of
transactions reported in the consolidated financial statements and consist of
taxes currently due plus deferred income taxes. Deferred income taxes are
recognized for temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes. Deferred income tax assets and liabilities represent the future tax
return consequences of those differences, which will either be taxable or
deductible when the assets or liabilities are recorded or settled. Valuation
allowances are established when necessary to reduce deferred tax assets to the
amount expected to be realized. As changes in income tax laws or rates are
enacted, deferred tax assets and liabilities are adjusted through the provision
for income taxes.
EARNINGS PER COMMON SHARE: Net income per share amounts are computed by dividing
net income by the weighted average number of shares outstanding. All per share
amounts have been adjusted for the stock dividend paid February 15, 2006. The
weighted average numbers of common shares outstanding were 5,416,961 in 2005;
5,344,585 in 2004; and 5,270,085 in 2003, as adjusted for the 10% stock dividend
paid February 15, 2006.
RECLASSIFICATIONS: Certain amounts reported in the 2004 and 2003 consolidated
financial statements have been reclassified to conform with the 2005
presentation.
RECENT ACCOUNTING PRONOUNCEMENTS: In April 2005, the Securities and Exchange
Commission adopted a new rule that amends the compliance dates for
implementation of Financial Accounting Standards Board's ("FASB") Statement of
Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment"
(SFAS No. 123R). The Statement requires that compensation cost relating to
share-based payment transactions be recognized in financial statements and that
this cost be measured based on the fair value of the equity or liability
instruments issued. SFAS No. 123R covers a wide range of share-based
compensation arrangements including share options, restricted share plans,
performance-based awards, share appreciation rights, and employee share purchase
plans. The Corporation will adopt SFAS No. 123R on January 1, 2006 and due to
the Plan amendment discussed in Note 16, does not believe the impact the
adoption of the standard will have a material impact on the Corporation's
results of operations.
NOTE 2 - RESTRICTIONS ON CASH AND AMOUNTS DUE FROM BANKS
Banking regulations require banks to maintain cash reserve balances in currency
or as deposits with the Federal Reserve Bank. At December 31, 2005 and 2004, the
reserve balances amounted to $711 and $849, respectively.
46
NOTE 3 - INVESTMENT SECURITIES
The amortized cost and fair value of securities, with gross unrealized gains and
losses, are as follows as of December 31:
2005
-----------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- --------
Securities Available-for-Sale
U.S. Government and federal agencies $ 53,953 $ - $ 1,040 $ 52,913
States and political subdivisions 95,976 532 1,073 95,435
Corporate 13,294 3 77 13,220
Mortgage-backed 22,465 22 649 21,838
--------- ------- --------- --------
TOTAL $ 185,688 $ 557 $ 2,839 $183,406
========= ======== ========= ========
2004
-----------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- --------
Securities Available-for-Sale
U.S. Government and federal agencies $ 51,704 $ 38 $ 463 $ 51,279
States and political subdivisions 83,619 1,433 420 84,632
Corporate 4,766 31 43 4,754
Mortgage-backed 21,472 111 218 21,365
--------- ---------- ---------- --------
TOTAL $ 161,561 $ 1,613 $ 1,144 $162,030
========= ========== ========== ========
Securities Held-to-Maturity
Mortgage-backed $ 3 $ - $ - $ 3
States and political subdivisions 520 18 4 534
--------- ---------- ---------- --------
TOTAL $523 $ 18 $ 4 $ 537
========= ========== ========== ========
At December 31, 2005 and 2004 investment securities with carrying values of
approximately $10,516 and $18,972 were pledged to secure public deposits and for
other purposes as necessary or required by law. At December 31, 2005 and 2004,
the carrying amount of securities pledged to secure repurchase agreements was
$8,832 and $1,017, respectively.
47
The amortized cost and fair value of available-for-sale securities by
contractual maturity at December 31, 2005 are as follows:
Available for Sale
----------------------
Amortized Fair
Cost Value
-------- --------
Within 1 year $ 51,883 $ 51,498
Over 1 year through 5 years 82,534 81,403
After 5 years through 10 years 27,044 26,902
Over 10 years 1,762 1,765
-------- --------
163,223 161,568
Mortgage-backed securities 22,465 21,838
-------- --------
$185,688 $183,406
======== ========
During 2005, 2004, and 2003, proceeds from sale of securities available for sale
amounted to $4,588, $45,044, and $16,874, respectively. Gross realized gains
amounted to $9, $129, and $85, respectively. Gross realized losses amounted to
$7, $23, and $0, respectively. The tax provision applicable to these net
realized gains and losses amounted to $0, $36, and $31, respectively.
Information pertaining to securities with gross unrealized losses at December
31, 2005, aggregated by investment category and length of time that individual
securities have been in continuous loss position, follows:
Less Than Twelve Months Over Twelve Months
----------------------- --------------------
Gross Gross
Unrealized Fair Unrealized Fair
Losses Value Losses Value
---------- ---------- ---------- -------
Securities Available-for-Sale
U.S. Government and federal agency $ 157 $ 17,155 $ 883 $35,171
States and political subdivisions 397 27,687 676 26,633
Corporate 1 931 76 3,563
Mortgage-backed 106 7,053 543 13,169
------- --------- ------- -------
Total securities available-for-sale $ 661 $ 52,826 $ 2,178 $78,536
======= ========= ======= =======
Management evaluates securities for other-than-temporary impairment at least on
a quarterly basis, and more frequently when economic or market concerns warrant
such evaluation. Consideration is given to (1) the length of time and extent to
which the fair value has been less than cost, (2) the financial condition and
near-term prospects of the issuer, and (3) the intent and ability of the
Corporation to retain its investment in the issuer for a period of time
sufficient to allow for any anticipated recovery in fair value.
In analyzing an issuer's financial condition, management considers whether the
securities are issued by the federal government or its agencies, whether
downgrades by bond rating agencies have occurred, and industry
48
analysts' reports. As management has the ability to hold debt securities until
maturity, or for the foreseeable future if classified as available for sale, no
declines are deemed to be other than temporary.
NOTE 4 - LOANS
The Banks grant commercial, agricultural, consumer and residential loans to
customers situated primarily in Isabella, Gratiot, Mecosta, Southwestern
Midland, Western Saginaw, Northern Montcalm and Southern Clare counties in
mid-Michigan. The ability of the borrowers to honor their repayment obligations
is often dependent upon the real estate, agricultural, and general economic
conditions of this region. Substantially all of the consumer and residential
mortgage loans are secured by various items of property, while commercial loans
are secured primarily by real estate, business assets and personal guarantees; a
portion of loans are unsecured.
A summary of the major classifications of loans is as follows:
DECEMBER 31
2005 2004
-------- --------
Mortgage loans on real estate
Residential 1-4 family $160,542 $152,706
Commercial 111,997 96,739
Agricultural 29,575 32,383
Construction 17,871 35,384
Second mortgages 24,560 17,143
Equity lines of credit 23,278 22,188
-------- --------
Total mortgage loans 367,823 356,543
Commercial and agricultural loans
Commercial 67,544 49,413
Agricultural production 19,849 16,796
-------- --------
Total comercial and agricultural loans 87,393 66,209
Consumer installment loans
Personal 26,304 28,463
Credit cards 1,722 1,680
-------- --------
Total consumer installment loans 28,026 30,143
Total Loans 483,242 452,895
Less: Allowance for loan losses 6,899 6,444
-------- --------
LOANS, NET $476,343 $446,451
======== ========
49
A summary of changes in the allowance for loan losses follows:
Year Ended December 31:
2005 2004 2003
------- ------- -------
Balance at beginning of year $ 6,444 $ 6,204 $ 5,593
Loans charged off (643) (935) (1,140)
Recoveries 321 440 296
Provision charged to income 777 735 1,455
------- ------- -------
BALANCE AT END OF YEAR $ 6,899 $ 6,444 $ 6,204
======= ======= =======
The following is a summary of information pertaining to impaired loans at
December 31:
2005 2004 2003
------ ------ ------
Impaired loans without a valuation allowance $2,211 $1,786 $1,836
Impaired loans with a valuation allowance 314 448 2,787
------ ------ ------
Total impaired loans $2,525 $2,234 $4,623
====== ====== ======
Valuation allowance related to impaired loans $ 184 $ 304 $ 622
Total nonaccrual loans $1,375 $1,900 $4,121
Accruing loans past due 90 days or more $1,058 $ 702 $1,380
Average investment in impaired loans $2,531 $2,949 $5,155
Interest income recognized on impaired loans was not significant during any of
the three years in the period ended December 31, 2005. No additional funds are
committed to be advanced in connection with impaired loans.
NOTE 5 - SERVICING
Residential mortgage loans serviced for others are not included in the
accompanying consolidated balance sheets. The unpaid principal balances of
mortgages serviced for others was $256,358, $253,282 and $245,709 at December
31, 2005, 2004, and 2003 respectively. Servicing loans for others generally
consists of collecting mortgage payments, maintaining escrow accounts,
disbursing payments to investors and taxing authorities, and foreclosure
processing.
The following table summarizes the changes in each year of the carrying value of
mortgage servicing rights included in other assets as of December 31:
2005 2004 2003
------- ------- -------
Balance at beginning of year $ 2,046 $ 1,714 $ 511
Mortgage servicing rights capitalized 2,520 2,633 3,369
Accumulated amortization (2,429) (2,279) (1,955)
Impairment valuation allowance (12) (22) (211)
------- ------- -------
BALANCE AT END OF YEAR $ 2,125 $ 2,046 $ 1,714
======= ======= =======
50
Activity in the impairment valuation allowance consisted of reductions of $10,
$189, and $427 for the years ended December 31, 2005, 2004, and 2003.
NOTE 6 - PREMISES AND EQUIPMENT
A summary of premises and equipment at December 31 follows:
2005 2004
------- -------
Land $ 3,027 $ 3,027
Buildings and improvements 12,528 11,054
Furniture and equipment 21,003 20,614
------- -------
Total 36,558 34,695
Less accumulated depreciation 17,386 16,162
------- -------
PREMISES AND EQUIPMENT, NET $19,172 $18,533
======= =======
Depreciation expense amounted to $1,735, $1,552 and $1,703 in 2005, 2004, and
2003, respectively.
NOTE 7 - GOODWILL AND OTHER INTANGIBLE ASSETS
Included in other assets on the accompanying consolidated balance sheets are the
following amounts as of December 31:
2005 2004
------ ------
Branch acquisition goodwill $2,036 $2,036
Title company goodwill 1,100 1,100
------ ------
Total goodwill 3,136 3,136
Core deposit intangibles, net 117 211
------ ------
$3,253 $3,347
====== ======
The core deposit intangibles are being amortized on a straight-line basis over
nine years. Management periodically reviews these assets to determine whether
the carrying values have been impaired.
NOTE 8 - DEPOSITS
Scheduled maturities of time deposits for the years succeeding December 31, 2005
are as follows:
Year Amount
- ---- --------
2006 $145,612
2007 49,368
2008 27,863
2009 17,451
2010 20,316
Thereafter 381
Interest expense on time deposits greater than $100 was $2,751 in 2005, $2,140
in 2004, and $2,127 in 2003.
51
NOTE 9 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase, which are classified as secured
borrowings, generally mature within one to four days from the transaction date.
Securities sold under agreements to repurchase are reflected at the amount of
cash received in connection with the transaction. The U.S. government agency
securities underlying the agreements have a carrying value and a fair value of
approximately $8,832 and $1,017 at December 31, 2005 and 2004, respectively.
Such securities remain under the control of the Corporation. The Corporation may
be required to pledge additional collateral based on the fair value of the
underlying securities.
NOTE 10 - BORROWED FUNDS
Borrowed funds consist of the following obligations at December 31:
2005 2004
------- -------
Federal Home Loan Bank advances $45,286 $27,312
Federal Funds purchased 6,500 2,974
Securities sold under agreements to repurchase 266 530
Unsecured note payable 113 166
------- -------
$52,165 $30,982
======= =======
The Federal Home Loan Bank borrowings are collateralized by a blanket lien on
all qualified 1-to-4 family whole mortgage loans and U.S. government and federal
agency securities. Advances are also secured by FHLB stock owned by the Banks.
The maturity and weighted average interest rates of FHLB advances follows at
December 31:
2005
----------------
Amount Rate
------- -----
Fixed rate advances due 2006 $ 5,500 2.76%
Two Year putable advance due 2006 5,000 5.08%
Fixed rate advances due 2007 5,000 3.72%
Fixed rate advances due 2008 6,000 4.79%
Fixed rate advances due 2009 3,500 3.66%
Fixed rate advances due 2010 5,286 5.18%
One Year putable advance due 2010 3,000 4.98%
Fixed rate advances due 2012 2,000 4.90%
Fixed rate advances due 2015 10,000 4.84%
------- ----
$45,286 4.44%
======= ====
52
2004
--------------
Amount Rate
------- ----
Fixed rate advances due 2006 $ 5,500 2.76%
Two Year putable advance due 2006 5,000 5.08%
Fixed rate advances due 2007 4,000 3.64%
Fixed rate advances due 2009 3,500 3.66%
Fixed rate advances due 2010 4,312 5.39%
One Year putable advance due 2010 3,000 4.98%
Fixed rate advances due 2012 2,000 4.90%
------- ----
$27,312 4.24%
======= ====
The unsecured note payable has an imputed interest rate of 4.16% and is payable
in annual installments of $60,000, including interest, through July 2007 .
NOTE 11 - OTHER NON-INTEREST EXPENSES
A summary of expenses included in Other Non-Interest Expenses for the year ended
December 31:
2005 2004 2003
------ ------ ------
Director fees $ 503 $ 496 $ 459
Marketing and advertising 624 522 538
SOX 404 compliance 398 734 -
Other, not individually significant 3,522 3,737 4,047
------ ------ ------
$5,047 $5,489 $5,044
====== ====== ======
NOTE 12 - FEDERAL INCOME TAXES
Components of the consolidated provision for income taxes are as follows for the
year ended December 31:
2005 2004 2003
------- ------- -------
Currently payable $ 1,685 $ 1,573 $ 2,076
Deferred taxes / (benefit) 263 305 (41)
------- ------- -------
FEDERAL INCOME TAXES $ 1,948 $ 1,878 $ 2,035
======= ======= =======
The reconciliation of the provision for federal income taxes and the amount
computed at the federal statutory tax rate of 34% of income before federal
income taxes is as follows for the year ended December 31:
2005 2004 2003
------- ------- -------
Income at statutory rate $ 2,966 $ 2,898 $ 3,142
Effect of nontaxable income and nondeductible expenses (1,018) (1,020) (1,107)
------- ------- -------
PROVISION FOR FEDERAL INCOME TAXES $ 1,948 $ 1,878 $ 2,035
======= ======= =======
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant
53
components of the Corporation's deferred tax assets and liabilities, included in
other assets, as of December 31 are as follows:
2005 2004
------ ------
DEFERRED TAX ASSETS
Allowance for loan losses $1,550 $1,411
Deferred directors' fees 919 886
Employee benefit plans 531 756
Core deposit premium and acquisition expenses 23 107
Net unrealized loss on minimum pension liability - 625
Net unrealized loss on available-for-sale securities 776 -
Other 51 63
------ ------
TOTAL DEFERRED TAX ASSETS 3,850 3,848
====== ======
DEFERRED TAX LIABILITIES
Prepaid pension asset 730 595
Premises and equipment 663 745
Accretion on securities 35 19
Net unrealized gain on available-for-sale securities - 160
Other 226 181
------ ------
TOTAL DEFERRED TAX LIABILITIES 1,654 1,700
------ ------
NET DEFERRED TAX ASSETS $2,196 $2,148
====== ======
NOTE 13 - OFF-BALANCE-SHEET ACTIVITIES
CREDIT-RELATED FINANCIAL INSTRUMENTS
The Corporation is party to credit related financial instruments with
off-balance-sheet risk. These instruments are entered into in the normal course
of business to meet the financing needs of its customers. These financial
instruments, which include commitments to extend credit and standby letters of
credit, involve, to varying degrees, elements of credit and interest rate risk
in excess of the amounts recognized in the consolidated balance sheets. The
contract or notional amounts of these instruments reflect the extent of
involvement the Corporation has in a particular class of financial instrument.
The Corporation is exposed to credit-related loss in the event of nonperformance
by the counter parties to the financial instruments for commitments to extend
credit and standby letters of credit is represented by the contractual notional
amount of those instruments. The Corporation uses the same credit policies in
deciding to make these commitments as it does for extending loans to customers.
Commitments to extend credit, which totaled $69,591 and $67,590 at December 31,
2005 and 2004, respectively, are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have variable interest rates, fixed expiration dates, or other
termination clauses and may require the payment of a fee.
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 private borrowing
54
arrangements, including commercial paper, bond financing, and similar
transactions. At December 31, 2005 and 2004 the Corporation had a total of
$1,565 and $991, respectively, in outstanding standby letters of credit.
Generally, these commitments to extend credit and letters of credit mature
within one year. The credit risk involved in these transactions is essentially
the same as that involved in extending loans to customers. The Corporation
evaluates each customer's credit worthiness on a case-by-case basis. The amount
of collateral obtained, if deemed necessary by the Corporation upon the
extension of credit, is based on management's credit evaluation of the borrower.
Collateral held varies but may include accounts receivable, inventory, property,
plant and equipment, and other income producing commercial properties.
INTEREST RATE RISK MANAGEMENT - DERIVATIVE LOAN INSTRUMENTS
The Corporation enters into rate lock commitments to extend credit to borrowers
for generally a 30-day or 60-day period for the origination of loans. Unfunded
loans for which commitments have been entered into are called "pipeline loans".
Some of these rate lock commitments will ultimately expire without being
completed. To the extent that a loan is ultimately granted and the borrower
ultimately accepts the terms of the loan, these rate lock commitments expose the
Corporation to variability in the fair value due to changes in interest rates.
If interest rates increase, the value of these rate lock commitments decreases.
Conversely, if interest rates decrease, the value of these rate lock commitments
increases.
To mitigate the effect of this interest rate risk, the Banks enter into
offsetting derivative contracts, primarily forward loan sale commitments. The
contracts allow for cash settlement. The forward loan sale commitments lock in
an interest rate and price for the sale of loans, similar to the specific rate
lock loan commitments classified as derivates. Such commitments, along with any
related fees received from potential borrowers, are considered derivatives.
The notional amount of undesignated interest rate lock commitments was $234 and
$1,618 at December 31, 2005 and 2004, respectively.
The fair value of the rate lock loan commitments related to the origination or
acquisition of mortgage loans that will be held for sale and the forward loan
sale commitments are deemed insignificant by management and, accordingly, are
not recorded in these consolidated financial statements.
NOTE 14 - COMMITMENTS AND OTHER MATTERS
Isabella Bank and Trust sponsors the IBT Foundation (the "Foundation"), which is
a nonprofit entity formed for the purpose of distributing charitable donations
to recipient organizations generally located in the communities serviced by
Isabella Bank and Trust. The Bank periodically makes charitable contributions in
the form of cash transfers to the Foundation. The Foundation is administered by
members of the Isabella Bank and Trust Board of Directors. The assets and
transactions of the Foundation are not included in the consolidated financial
statements of IBT Bancorp, Inc. Donations made to the Foundation by Isabella
Bank and Trust included in charitable donations reported in noninterest expense
were $0, $27 and $870 in 2005, 2004 and 2003, respectively. The assets of the
Foundation as of December 31, 2005 approximated $1.6 million.
Banking regulations limit the transfer of assets in the form of dividends,
loans, or advances from the subsidiary Banks to the Corporation. At December 31,
2005, substantially all of the subsidiary Banks' assets were restricted from
transfer to the Corporation in the form of loans or advances. Consequently, bank
dividends are the principal source of funds for the Corporation. Payment of
dividends without regulatory approval is limited to the current years retained
net income plus retained net income for the preceding two years, less any
required
55
transfers to capital surplus. At January 1, 2006, the amount available for
dividends without regulatory approval was approximately $700.
The Corporation maintains a self-funded medical plan under which the Corporation
is responsible for the first $50 per year of claims made by a covered
individual. Medical claims are subject to a lifetime maximum of $3,000 per
covered individual. Expenses are accrued based on estimates of the aggregate
liability for claims incurred and the Corporation's experience. Expenses were
$1,650 in 2005, $1,184 in 2004 and $1,532 in 2003.
The Corporation offers dividend reinvestment and employee and director stock
purchase plans. The dividend reinvestment plan allows shareholders to purchase
previously unissued IBT Bancorp common shares. The stock purchase plan allows
employees and directors to purchase IBT Bancorp common stock through payroll
deduction. The number of shares authorized for issuance under these plans are
280,000 with 145,282 shares unissued at December 31, 2005. During 2005, 2004 and
2003, 58,019 shares were issued for $2,180, 57,388 shares were issued for
$2,001, and 70,340 shares were issued for $2,008, respectively, in cash pursuant
to these plans.
The subsidiary Banks of the Corporation have obtained approval to borrow up to
$64,000 from the Federal Home Loan Bank (FHLB) of Indianapolis. Under the terms
of the agreement, the Banks may obtain advances at the stated rate at the time
of the borrowings. The Banks have agreed to pledge eligible mortgage loans and
U.S. Treasury and governmental agencies as collateral for any such borrowings.
NOTE 15 - MINIMUM REGULATORY CAPITAL REQUIREMENTS
The Corporation (on a consolidated basis) and its subsidiary banks, Isabella
Bank and Trust and Farmers State Bank of Breckenridge ("Banks") are subject to
various regulatory capital requirements administered by their primary regulator,
the Federal Reserve Bank. Failure to meet minimum capital requirements can
initiate mandatory and possibly additional discretionary actions by the Federal
Reserve, that if undertaken, could have a material effect on the Corporation's
and Banks' financial statements. Under the Federal Reserve's capital adequacy
guidelines and the regulatory framework for prompt corrective action, the
Corporation and the Banks must meet specific capital guidelines that include
quantitative measures of their assets, liabilities, capital, and certain
off-balance-sheet items, as calculated under regulatory accounting standards.
The Banks' capital amounts and classifications are also subject to qualitative
judgments by the Federal Reserve about components, risk weightings, and other
factors. Prompt corrective action provisions are not applicable to bank holding
companies.
Quantitative measures established by regulation to ensure capital adequacy
require the Corporation and the Banks to maintain minimum amounts and ratios
(set forth in the following table) of total and Tier capital (as defined in the
regulations) to risk-weighted assets (as defined) and of Tier 1 capital (as
defined) to average assets (as defined). Management believes, as of December 31,
2005 and 2004, that the Corporation and the Banks meet all capital adequacy
requirements to which they are subject.
As of December 31, 2005, the most recent notifications from the Federal Reserve
Bank categorized the Banks as well capitalized under the regulatory framework
for prompt corrective action. To be categorized as well capitalized, an
institution must maintain total risk based, Tier 1 risk-based, and Tier 1
leverage ratios as set forth in the following tables. There are no conditions or
events since the notifications that management believes has changed the Banks'
categories.
56
The Corporation's and each Bank's actual capital amounts (in thousands) and
ratios are also presented in the table.
Minimum
To Be Well
Minimum Capitalized Under
Capital Prompt Corrective
Actual Requirement Action Provisions
--------------- --------------- -----------------
Amount Ratio Amount Ratio Amount Ratio
-------- ----- -------- ----- -------- ------
DECEMBER 31, 2005
Total capital to risk weighted assets
Isabella Bank & Trust $ 48,092 12.4% $ 31,040 8.0% $ 38,800 10.0%
Farmers State Bank of Breckenridge 14,162 14.7 7,733 8.0 9,667 10.0
Consolidated 85,184 17.1 39,761 8.0 N/A N/A
Tier 1 capital to risk weighted assets
Isabella Bank & Trust 43,458 11.2 15,520 4.0 23,280 6.0
Farmers State Bank of Breckenridge 12,941 13.4 3,867 4.0 5,800 6.0
Consolidated 78,963 15.9 19,881 4.0 N/A N/A
Tier 1 capital to average assets
Isabella Bank & Trust 43,458 7.6 23,011 4.0 28,763 5.0
Farmers State Bank of Breckenridge 12,941 9.5 5,426 4.0 6,783 5.0
Consolidated 78,963 11.3 27,886 4.0 N/A N/A
DECEMBER 31, 2004
Total capital to risk weighted assets
Isabella Bank & Trust $ 47,720 13.1% $ 29,042 8.0% $ 36,303 10.0%
Farmers State Bank of Breckenridge 14,033 15.5 7,242 8.0 9,052 10.0
Consolidated 75,340 16.4 36,764 8.0 N/A N/A
Tier 1 capital to risk weighted assets
Isabella Bank & Trust 43,351 11.9 14,521 4.0 21,782 6.0
Farmers State Bank of Breckenridge 12,890 14.2 3,621 4.0 5,431 6.0
Consolidated 69,587 15.1 18,382 4.0 N/A N/A
Tier 1 capital to average assets
Isabella Bank & Trust 43,351 8.1 21,536 4.0 26,920 5.0
Farmers State Bank of Breckenridge 12,890 10.4 4,970 4.0 6,213 5.0
Consolidated 69,587 10.4 26,866 4.0 N/A N/A
NOTE 16 - BENEFIT PLANS
DEFINED BENEFIT PENSION PLAN
The Corporation has a defined benefit pension plan covering substantially all of
its employees. The benefits are based on years of service and the employees'
five highest consecutive years of compensation out of the last ten years of
service. The funding policy is to contribute annually the maximum amount that
can be deducted for federal income tax purposes. Contributions are intended to
provide not only for benefits attributed to services to date but also for those
expected to be earned in the future.
The Corporation uses a January 1, 2005 measurement date for this pension plan.
57
Changes in the projected benefit obligation and plan assets during each year,
the funded status of the plan and a reconciliation to the amount recognized in
the Corporation's consolidated balance sheets are summarized as follows at
December 31:
2005 2004 2003
------- ------- -------
Change in projected benefit obligation
Benefit obligation, January 1 $ 8,783 $ 8,083 $ 6,949
Service cost 513 410 391
Interest cost 540 518 463
Actuarial loss 25 144 687
Benefits paid (304) (372) (407)
------- ------- -------
BENEFIT OBLIGATION, DECEMBER 31 $ 9,557 $ 8,783 $ 8,083
======= ======= =======
Change in plan assets
Fair value of plan assets, January 1 $ 6,311 $ 5,427 $ 4,830
Investment return 351 348 479
Corporation contribution 1,251 908 525
Benefits paid (304) (372) (407)
------- ------- -------
FAIR VALUE OF PLAN ASSETS, DECEMBER 31 $ 7,609 $ 6,311 $ 5,427
======= ======= =======
Reconciliation of funded status
Funded status $(1,948) $(2,472) $(2,656)
Unrecognized prior service cost 58 76 94
Unrecognized net loss from experience
different than that assumed and
effects and changes in assumptions 4,037 4,146 4,254
Additional minimum pension liability -- (1,915) (1,951)
------- ------- -------
PREPAID (ACCRUED) BENEFIT COST $ 2,147 $ (165) $ (259)
======= ======= =======
The accumulated benefit obligation was $7,079, and $6,476 at December 31, 2005
and 2004, respectively, resulting in a prepaid pension of $2,147 in 2005 and a
pension liability of $165 in 2004.
An adjustment to record the additional minimum pension liability as of December
31, 2004 was established by the recording of an intangible pension asset of $76,
and a reduction to other comprehensive loss of $1,839 and $18 in 2005 and 2004,
respectively.
58
The net amount recognized in the consolidated balance sheets consists of the
following accounts at December 31:
Pension Benefits
2005 2004
-------- ------
Prepaid (accrued) benefit cost $ 2,147 $ (165)
Intangible asset - 76
Accumulated other comprehensive loss - 1,839
-------- ------
Net amount recognized 2,147 1,750
======== ======
2005 2004
-------- ------
Revsersal of minimum pension liability included as a
reduction of other comprehensive loss $ 1,839 $ 18
======== ======
Net pension expense consists of the following components for the year ended
December 31:
2005 2004 2003
--------- -------- ---------
Service cost on benefits earned for
serviced rendered during the year $ 558 $ 518 $ 391
Interest cost on projected benefit obligation 540 501 463
Expected return on plan assets (463) (430) (390)
Amortization of unrecognized transition asset - - (22)
Amortization of unrecognized prior service cost 18 18 18
Amortization of unrecognized actuarial net loss 201 213 188
--------- -------- ---------
NET PENSION EXPENSE $ 854 $ 820 $ 648
========= ======== =========
Actuarial assumptions used in determining the projected benefit obligation are
as follows for the year ended December 31:
2005 2004 2003
---- ---- ----
Weighted average discount rate 6.25% 6.25% 6.25%
Rate of increase in future compensation 4.50% 4.50% 4.50%
Expected long-term rate of return 7.50% 8.00% 8.00%
The actual weighted average assumptions used in determining the net periodic
pension costs are as follows for the year ended December 31:
2005 2004 2003
---- ---- ----
Discount rate 6.25% 6.75% 6.75%
Rate of compensation increase 4.50% 4.50% 4.50%
Expected long-term return on plan assets 7.50% 8.00% 8.00%
The weighted average discount rate has remained unchanged at 6.25%. The discount
rate decreased to 6.25% in 2005 from 6.75% in 2004. The expected long term rate
of return is based on the Corporation's actual
59
recommended rate. The factors used to establish the rate include historical plan
performance, comparison of rates used by similar plans with similar asset
allocations, and historical performance of long-term investments.
The Corporation's pension plan weighted-average asset allocations by asset
category are as follows at December 31:
Asset Category 2005 2004
- ----------------- ------ ------
Equity securities 64.2% 51.5%
Debt securities 28.7% 33.9%
Other 7.1% 14.6%
------ ------
Total 100.00% 100.00%
====== ======
Debt securities include certificates of deposit with the Banks in the amounts of
$1,173 (15% of total plan assets) and $1,082 (17% of total plan assets) at
December 31, 2005 and 2004, respectively. Also included in other is $537 (7% of
total plan assets) and $881 (14% of total plan assets) of funds in a money
market account with Isabella Bank and Trust as of December 31, 2005 and 2004,
respectively.
The Corporation's investment policy for the benefit plan includes asset holdings
in publicly traded equities, U.S. Government agency obligations and investment
grade corporate and municipal bonds. The policy restricts equity investment to
less than 20% of equity investments in any sector and to less than 4% of plans
assets in any one company. The Corporation's weighted asset allocations in 2005
and 2004 were as follows:
Equity securities 55% to 65%
Debt securities 25% to 35%
Real estate 0.00%
Other 15.00%
The plan's investment in equity securities in 2004 were less than the 55%
minimum established in the Corporation's investment policy as a result of a $640
contribution to the plan on December 29, 2004. The contribution was in a money
market fund, which is included in other; these funds were substantially
re-invested by January 15, 2005.
The asset mix, the sector weighting of equity investments, and debt issues to
hold are based on a third party investment advisor retained by the Corporation
to manage the plan. The Corporation reviews the performance of the advisor no
less than annually.
The Corporation expects to contribute approximately $900 to the pension plan in
2006.
60
Estimated future benefit payments, which reflect expected future service, as
appropriate, are as follows for the next ten years:
Year Amount
- ----------------- -----------
2006 $ 313
2007 315
2008 321
2009 328
2010 358
Years 2011 - 2015 2,594
OTHER EMPLOYEE BENEFIT PLANS
The Corporation maintains a nonqualified supplementary retirement plan for
officers to provide supplemental retirement benefits and death benefits to each
participant. Insurance policies, designed primarily to fund death benefits, have
been purchased on the life of each participant with the Corporation as the sole
owner and beneficiary of the policies. Expenses related to this program for
2005, 2004, and 2003 were $85, $65, and $388, respectively, and are being
recognized over the participants' expected years of service.
The Corporation maintains a non-leveraged employee stock ownership plan (ESOP)
and a profit sharing plan which cover substantially all of its employees.
Contributions to the Plans are discretionary and are approved by the Board of
Directors and recorded as compensation expense. Compensation expense related to
the plans for 2005, 2004, and 2003 was $11, $11, and $122, respectively. Total
shares outstanding related to the ESOP at December 31, 2005 and 2004 were
159,987 and 166,155, respectively, and were included in the computation of
dividends and earnings per share in each of the respective years.
401(k) PLAN
The Corporation has a 401(k) plan in which substantially all employees are
eligible to participate. Employees may contribute up to 15% of their
compensation subject to certain limits based on federal tax laws. The
Corporation began making matching contributions equal to 25% of the first 3% of
an employee's compensation contributed to the plan in 2005. Employees are 0%
vested through their first three years of employment and are 100% vested after 3
years of service. For the year ended December 31, 2005, expense attributable to
the Plan amounted to $49.
EQUITY COMPENSATION PLAN
Pursuant to the terms of a Deferred Director fee plan, which was amended
effective December 31, 2005, directors of the Corporation and its subsidiaries
are required to defer at least 25% of their earned board fees. Deferred fees are
converted on a quarterly basis into stock units of the Corporation's common
stock. The fees are converted to stock units based on the purchase price for a
share of common stock under the Corporation's Dividend Reinvestment Plan. Stock
units credited to a participant's account are eligible for stock and cash
dividends as declared. Upon retirement from the board, a participant is eligible
to receive one share of common stock for each one stock unit. Prior to December
31, 2005, the Plan contained a cash payout option, and a liability was recorded
in the consolidated financial statements. The Plan as modified does not allow
for cash settlement, and therefore such share-based payment awards qualify for
classification as equity. In connection with the amendment, $2,704 was
reclassified from other liabilities and recorded as an addition to the common
stock account All authorized but unissued shares of common stock are eligible
for issuance under this Plan. As
61
of December 31, 2005 and 2004, 161,571 and 163,871 shares respectively were to
be issued under this plan, as adjusted for the 10% stock dividend.
NOTE 17 - RELATED PARTY TRANSACTIONS
In the ordinary course of business, the Banks have granted loans to principal
officers and directors and their affiliates (including their families and
companies in which they have 10% or more ownership) amounting to $9,679 and
$9,505 at December 31, 2005 and 2004, respectively. During 2005, total principal
additions were $7,718 and total principal payments were $7,544.
Total deposits of these principal officers and directors and their affiliates
amounted to $6,685 and $5,629 at December 31, 2005 and 2004, respectively. In
addition, the IBT Bancorp's defined benefit plan and the Employee Stock
Ownership Plan (Note 16) held deposits with the Banks aggregating $1,710 and
$497, and $1,963 and $475 respectively at December 31, 2005 and 2004.
NOTE 18 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The fair value of a financial instrument is the current amount that would be
exchanged between willing parties, other than in a forced liquidation. Fair
value is best determined based upon quoted market prices. However, in many
instances, there are no quoted market prices for the Corporation's various
financial instruments. In cases where quoted market prices are not available,
fair values are based on estimates using present value or other valuation
techniques. Those techniques are significantly affected by the assumptions used,
including the discount rate and estimates of future cash flows. Accordingly, the
fair value estimates may not be realized in an immediate settlement of the
instrument. SFAS No. 107 excludes certain financial instruments and all
non-financial instruments from its disclosure requirements. These include, among
other elements, the estimated earning power of core deposit accounts, the
trained work force, customer goodwill and similar items. Accordingly, the
aggregate of the fair value amounts presented are not necessarily indicative of
the underlying fair value of the Corporation.
The following methods and assumptions were used by the Corporation in estimating
fair value disclosures for financial instruments.
CASH AND CASH EQUIVALENTS: The carrying amounts of cash and short-term
instruments approximate fair values.
INVESTMENT SECURITIES: Fair values for investment securities are based on quoted
market prices, where available. If quoted market prices are unavailable, fair
values are based on quoted market prices of comparable instruments.
MORTGAGE LOANS HELD FOR SALE: Fair values of mortgage loans held for sale are
based on commitments on hand from investors or prevailing market prices.
LOANS RECEIVABLE: Fair values for variable rate loans that reprice frequently
with, fair values are based on carrying values. Fixed rate loans are valued
using present value discounted cash flow techniques. The discount rate used in
these calculations was the U.S. government bond rate for securities with similar
maturities adjusted for servicing costs, credit loss, and prepayment risk.
DEPOSIT LIABILITIES: Demand, savings, and money market deposits are, by
definition, equal to the amount payable on demand at the reporting date (i.e.,
their carrying amounts). Fair values for variable rate certificates
62
of deposit approximate their recorded book balance. Fair values for fixed-rate
certificates of deposit are estimated using discounted cash flow calculation
that applies interest rates currently being offered on certificates to a
schedule of aggregated expected monthly maturities on time deposits.
BORROWED FUNDS: The carrying amounts of federal funds purchased and borrowings
under repurchase agreements approximate their fair value. The fair values of
other borrowings are estimated using discounted cash flow analyses based on the
Corporation's current incremental borrowing rates for similar types of borrowing
arrangements.
ACCRUED INTEREST: The carrying amounts of accrued interest approximate fair
value.
OFF-BALANCE-SHEET CREDIT-RELATED INSTRUMENTS: Fair values for off-balance-sheet
lending commitments are based on fees currently charged to enter into similar
agreements, taking into consideration the remaining terms of the agreements and
the counterparties' credit standings. The Corporation does not charge fees for
lending commitments; thus it is not practicable to estimate the fair value of
these instruments.
The following sets forth the estimated fair value and recorded carrying values
of the Corporation's financial instruments as of December 31:
2005 2004
------------------------- --------------------
Estimated Carrying Estimated Carrying
Fair Value Value Fair Value Value
---------- ---------- ---------- --------
ASSETS
Cash and demand deposits due
from banks $ 30,825 $ 30,825 $ 20,760 $ 20,760
Investment securities 183,406 183,406 162,567 162,553
Mortgage loans available for sale 757 744 2,334 2,339
Net loans 479,765 476,343 412,175 446,451
Accrued interest receivable 4,786 4,786 4,315 4,315
Mortgage servicing rights 2,125 2,125 2,046 2,046
LIABILITIES
Deposits with no stated
maturities 331,487 331,487 329,612 329,612
Deposits with stated maturities 260,615 260,991 220,533 234,264
Borrowed funds 52,216 52,165 26,466 30,982
Accrued interest payable 857 857 702 702
NOTE 19 - PARENT COMPANY ONLY FINANCIAL INFORMATION
63
December 31
CONDENSED BALANCE SHEET 2005 2004
--------- -----------
Cash on deposit at subsidiary Banks $ 8,749 $ 7,219
Securities available for sale 4,789 3,703
Investments in subsidiaries 61,841 63,999
Premises and equipment 3,025 103
Other assets 3,576 2,411
--------- -----------
TOTAL ASSETS $ 81,980 $ 77,435
========= ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Other liabilities $ 1,078 $ 4,841
Shareholders' equity 80,902 72,594
--------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 81,980 $ 77,435
========= ===========
Year Ended December 31
CONDENSED STATEMENTS OF INCOME 2005 2004 2003
-------- --------- --------
Income
Dividends from subsidiaries $ 7,275 $ 3,500 $ 3,825
Interest income 182 139 128
Management fee and other 1,384 643 423
-------- --------- --------
TOTAL INCOME 8,841 4,282 4,376
Expenses 2,808 2,065 1,114
-------- --------- --------
Income before income tax benefit and equity in
undistributed earnings of subsidiaries 6,033 2,217 3,262
Federal income tax benefit 478 470 218
-------- --------- --------
6,511 2,687 3,480
Undistributed earnings of subsidiaries 265 3,958 3,725
-------- --------- --------
NET INCOME $ 6,776 $ 6,645 $ 7,205
======== ========= ========
64
Year Ended December 31
CONDENSED STATEMENTS OF CASH FLOWS 2005 2004 2003
------- ------- -------
OPERATING ACTIVITIES
Net income $ 6,776 $ 6,645 $ 7,205
Adjustments to reconcile net income
to cash provided by operations
Undistributed earnings of subsidiaries (265) (3,958) (3,725)
Provision for depreciation 533 21 19
Net amortization of securities 27 12 -
Deferred income taxes (benefit) 680 (13) (348)
Changes in operating assets and liabilities which (used) provided cash
Interest receivable (29) (4) (2)
Other assets (746) (1,031) 717
Accrued interest and other expenses (894) 809 675
------- ------- -------
NET CASH PROVIDED BY OPERATING ACTIVITIES 6,082 2,481 4,541
INVESTING ACTIVITIES
Activity in available-for-sale securities
Maturities, calls, and sales 344 260 185
Purchases (1,523) (1,846) (820)
Purchases of equipment and premises (3,455) (7) (38)
Repayment of investment in subsidiaries 652 - 34
------- ------- -------
NET CASH USED IN INVESTING ACTIVITIES (3,982) (1,593) (639)
FINANCING ACTIVITIES
Cash dividends paid on common stock (3,254) (3,070) (2,881)
Proceeds from the issuance of common stock 2,684 2,001 2,008
Common stock repurchased - (192) (127)
------- ------- -------
NET CASH USED IN FINANCING ACTIVITIES (570) (1,261) (1,000)
------- ------- -------
INCREASE (DECREASE) IN CASH AND CASH EQUIVELANTS 1,530 (373) 2,902
Cash and cash equivelants at beginning of year 7,219 7,592 4,690
------- ------- -------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 8,749 $ 7,219 $ 7,592
======= ======= =======
65
NOTE 20 - OPERATING SEGMENTS
The Corporation's reportable segments are based on legal entities that account
for at least 10% of operating results. The accounting policies are the same as
those discussed in Note 1 to the Consolidated Financial Statements. The
Corporation evaluates performance based principally on net income and asset
quality of the respective segments. A summary of selected financial information
for the Corporation's reportable segments follows:
All Others
Isabella Bank Farmers (Including
and Trust State Bank Parent) Total
------------- ---------- ---------- ----------
2005
Total assets $ 583,505 $ 136,853 $ 21,296 $ 741,654
Interest income 28,867 7,939 76 36,882
Net interest income 18,436 5,289 184 23,909
Provision for loan losses 585 192 - 777
Net income (loss) 5,900 1,456 (580) 6,776
2004
Total assets $ 542,759 $ 125,350 $ 9,925 $ 678,034
Interest income 26,436 7,258 127 33,821
Net interest income 18,247 4,919 198 23,364
Provision for loan losses 550 185 - 735
Net income (loss) 6,073 1,345 (773) 6,645
2003
Total assets $ 527,805 $ 127,124 $ 9,150 $ 664,079
Interest income 28,013 7,797 168 35,978
Net interest income 18,295 5,005 228 23,528
Provision for loan losses 570 885 - 1,455
Net income (loss) 6,415 1,008 (218) 7,205
NOTE 21 - POTENTIAL ACQUISITION
On December 22, 2005, IBT Bancorp, Inc. signed a definitive agreement to acquire
Farwell State Savings Bank. The acquisition is subject to a number of
contingencies including but not limited to regulatory approval.
66
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES
None
ITEM 9 A. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Corporation's management carried out an evaluation, under the supervision
and with the participation of the Chief Executive Officer and Principal
Financial Officer, of the effectiveness of the design and operation of the
Corporation's disclosure controls and procedures (as such term is defined in
Rules 13a-15(e) and 15(d)-15(e) under the Securities Exchange Act of 1934 (the
"Exchange Act")) as of December 31, 2005, pursuant to Exchange Act Rule 13a-15.
Based upon that evaluation, the Chief Executive Officer and Principal Financial
Officer concluded that the Corporation's disclosure controls and procedures as
of December 31, 2005, are effective in timely alerting them to material
information relating to the Corporation (including its consolidated
subsidiaries) required to be included in the Corporation's periodic filings
under the Exchange Act.
CHANGES IN INTERNAL CONTROL
The Corporation also conducted an evaluation of internal control over financial
reporting to determine whether any changes occurred during the quarter ended
December 31, 2005, that have materially affected, or are reasonably likely to
materially affect, the Corporation's internal control over financial reporting.
Based on this evaluation, management has concluded that there have been no such
changes during the quarter ended December 31, 2005.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
We are responsible for the preparation and integrity of our published
consolidated financial statements. The consolidated financial statements have
been prepared in accordance with accounting principles generally accepted in the
United States of America and, accordingly, include amounts based on judgments
and estimates made by our management. We also prepared the other information
included in the annual report and are responsible for its accuracy and
consistency with the consolidated financial statements.
We are responsible for establishing and maintaining a system of internal control
over financial reporting, which is intended to provide reasonable assurance to
our management and Board of Directors regarding the reliability of our
consolidated financial statements. The system includes but is not limited to:
- A documented organizational structure and division of
responsibility;
- Established policies and procedures, including a code of conduct to
foster a strong ethical climate which is communicated throughout the
company;
- Internal auditors that monitor the operation of the internal control
system and report findings and recommendations to management and the
Audit Committee;
- Procedures for taking action in response to an internal audit
finding or recommendation;
- Regular reviews of our consolidated financial statements by
qualified individuals; and
- The careful selection, training and development of our people.
There are inherent limitations in the effectiveness of any system of internal
control, including the possibility of human error and the circumvention or
overriding of controls. Also, the effectiveness of an internal control
67
system may change over time. We have implemented a system of internal control
that was designed to provide reasonable assurance regarding the reliability of
financial reporting and the preparation of consolidated financial statements for
external purposes in accordance with generally accepted accounting principles.
We have assessed our internal control system in relation to criteria for
effective internal control over financial reporting described in "Internal
Control-Integrated Framework" issued by the Committee of Sponsoring
Organizations (COSO) of the Treadway Commission. Based upon these criteria, we
believe that, as of December 31, 2005, our system of internal control over
financial reporting was effective.
The independent registered public accounting firm, Rehmann Robson PC, has
audited our 2005 consolidated financial statements. Rehmann Robson PC was given
unrestricted access to all financial records and related data, including minutes
of all meetings of stockholders, the Board of Directors and committees of the
Board. Rehmann Robson PC has issued an unqualified audit opinion on our 2005
consolidated financial statements as a result of the audit and also has issued
an attestation report on management's assessment of its internal control over
financial reporting.
IBT Bancorp, Inc.
By:
/s/ Dennis P. Angner
- ---------------------------------
Dennis P. Angner
Chief Executive Officer
March 1, 2006
/s/ Peggy L. Wheeler
- ---------------------------------
Peggy L. Wheeler
Principal Financial Officer
March 1, 2006
ITEM 9 B. OTHER INFORMATION
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
For information concerning directors and certain executive officers of the
Corporation, see "Election of Directors" and "Section 16(a) Beneficial Ownership
Reporting Compliance" in the Corporation's 2005 Annual Meeting Proxy Statement
("Proxy Statement") which is incorporated herein by reference.
For Information concerning the Corporation's Audit Committee financial experts,
see "Committees of the Board of Directors and Meeting Attendance" in the Proxy
Statement which is incorporated herein by reference.
The Corporation has adopted a Code of Business Conduct and Ethics that applies
to the Corporation's Chief Executive Officer and Principal Financial Officer.
The Corporation shall provide to any person without charge upon request, a copy
of its Code of Business Conduct and Ethics. Written requests should be sent to:
Secretary, IBT Bancorp, Inc., 200 East Broadway, Mount Pleasant, Michigan 48858.
68
ITEM 11. EXECUTIVE COMPENSATION
For information concerning executive compensation, see "Executive Officers,"
"Report on Executive Compensation," "The Defined Benefit Pension Plan,"
"Compensation Committee Interlocks and Insider Participation," "Remuneration of
Directors," and "Stock Performance" in the Proxy Statement which is incorporated
herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED SHAREHOLDER MATTERS
For information concerning the security ownership of certain owners and
management, see "Security Ownership of Certain Beneficial Owners and Management"
in the Proxy Statement which is incorporated herein by reference.
EQUITY COMPENSATION PLAN INFORMATION
The following table provides information as of December 31, 2005, with respect
to compensation plans under which common shares of the Corporation are
authorized for issuance to directors, officers or employees in exchange for
consideration in the form of goods or services.
Number of Securities
Remaining
Number of Securities Available for Future
to be Issued Weighted Average Issuance
Upon Exercise of Exercise Price Under Equity
Outstanding of Outstanding Compensation Plans
Options, Warrants, Options, Warrants, (Excluding Securities
and Rights and Rights Reflected in Column (A))
Plan Category (A) (B) (C)
-------------------- ------------------- ------------------------
Equity compensation plans approved by
Shareholders: None - - -
Equity compensation plans not
approved by shareholders:
1984 deferred director fee plan* 161,571 (1) (1)
-------
TOTAL 161,571
=======
(1) Pursuant to the terms of a Deferred Director fee plan, which was amended
effective December 31, 2005, directors of the Corporation and its subsidiaries
are required to defer at least 25% of their earned board fees. Deferred fees are
converted on a quarterly basis into stock units of the Corporation's common
stock. The fees are converted to stock units based on the purchase price for a
share of common stock under the Corporation's Dividend Reinvestment Plan. Stock
units credited to a participant's account are eligible for stock and cash
dividends as declared. Upon retirement from the board, a participant is eligible
to receive one share of common
69
stock for each one stock unit. Prior to December 31, 2005, the Plan contained a
cash payout option, and a liability was recorded in the consolidated financial
statements. The Plan as modified does not allow for cash settlement, and
therefore such share-based payment awards qualify for classification as equity.
In connection with the amendment, $2,704 was reclassified from other liabilities
and recorded as an addition to the common stock account All authorized but
unissued shares of common stock are eligible for issuance under this Plan. As of
December 31, 2005 and 2004, 161,571 and 163,871 shares
(*) As adjusted for the 10% stock dividend paid February 15, 2006.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
For information concerning certain relationships and related transactions, see
"Indebtedness of and Transactions with Management" in the Proxy Statement, which
is incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
For information concerning the principal accountant fees and services see "Fees
for Professional Services Provided by Rehmann Robson P.C." and "Pre-approval
Policies and Procedures" in the Proxy Statement which is incorporated herein by
reference.
70
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) 1. Financial Statements:
The following consolidated financial statements of IBT Bancorp are
incorporated by reference in Item 8:
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets Consolidated Statements of Changes in
Shareholders' Equity
Consolidated Statements of Income
Consolidated Statements of Comprehensive Income
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
2. Financial Statement Schedules:
All schedules are omitted because they are neither applicable nor required, or
because the required information is included in the consolidated financial
statements or related notes.
3. See the exhibits listed below under Item 15(b):
(b) The following exhibits required by Item 601 of Regulation S-K are filed as
part of this report:
3(a) Amended Articles of Incorporation (1)
3(b) Amendment to the Articles of Incorporation (2)
3(c) Amendment to the Articles of Incorporation (4)
3(d) Amendment to the Articles of Incorporation (4)
3(e) Amended Bylaws (8)
10(a) Isabella Bank & Trust Executive Supplemental Income
Agreement (2)*
10(b) Isabella Bank & Trust Deferred Compensation Plan (3)*
10(c) IBT Bancorp, Inc. and Related Companies Deferred
Compensation Plan for Directors (5)*
10(d) Isabella Bank and Trust Death Benefit Only Agreement
(6)*
10(e) Deferred Compensation Plan for Non-Employee Directors
(9)*
14 Code of Business Conduct and Ethics (7)
21 Subsidiaries of the Registrant
23 Consent of Rehmann Robson, P.C. Independent Registered
Public Accounting Firm
31 (a) Certification pursuant to section 302 of the
Sarbanes-Oxley Act of 2002 by the Chief Executive
Officer
31 (b) Certification pursuant to section 302 of the
Sarbanes-Oxley Act of 2002 by the Principal Financial
Officer
32 Section 1350 Certification of Chief Executive Officer
and Chief Financial Officer
(1) Previously filed as an Exhibit to the IBT Bancorp, Inc. Form 10-K, dated
March 12, 1991, and incorporated herein by reference.
(2) Previously filed as an Exhibit to the IBT Bancorp, Inc. Form 10-K, dated
March 26, 1994, and incorporated herein by reference.
(3) Previously filed as an Exhibit to IBT Bancorp, Inc. Form 10-K, dated March
26, 1996, and incorporated
71
herein by reference.
(4) Previously filed as an Exhibit to IBT Bancorp, Inc. Form 10-K, dated March
22, 2000, and incorporated herein by reference.
(5) Previously filed as an Exhibit to IBT Bancorp, Inc. Form 10-K, dated March
27, 2001, and incorporated herein by reference.
(6) Previously filed as an Exhibit to IBT Bancorp, Inc. Form 10-K, dated March
25, 2002, and incorporated herein by reference.
(7) Previously filed as an Exhibit to IBT Bancorp, Inc. Form 10-K, dated March
15, 2004 and incorporated herein by reference.
(8) Previously filed as an Exhibit to IBT Bancorp, Inc. Form 10-K, dated March
16, 2005, and incorporated herein by reference.
(9) Previously filed as an Exhibit to IBT Bancorp, Inc. Current Report on Form
8-K, dated December 14, 2005, and incorporated herein by reference.
(*) Management Contract or Compensatory Plan or Arrangement.
72
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this annual report to be signed on
its behalf by the undersigned, thereunto duly authorized.
IBT BANCORP, INC.
(Registrant)
by: /s/Dennis P. Angner Date: March 6, 2006
-------------------------
Dennis P. Angner
President and Chief Executive Officer
Pursuant to the requirements of the Securities and Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signatures Capacity Date
---------- ------------------- --------------
/s/Dennis P. Angner President and Chief March 06, 2006
- ----------------------------------- Executive Officer
Dennis P. Angner and Director
/s/Richard J. Barz Director March 06, 2006
- -----------------------------------
Richard J. Barz
/s/Sandra L. Caul Director March 13, 2006
- -----------------------------------
Sandra L. Caul
/s/James C. Fabiano Director March 06, 2006
- -----------------------------------
James C. Fabiano
/s/David W. Hole Director March 13, 2006
- -----------------------------------
David W. Hole
/s/David J. Maness Director March 06, 2006
- -----------------------------------
David J. Maness
/s/W. Joseph Manifold Director March 06, 2006
- -----------------------------------
W. Joseph Manifold
/s/Timothy M. Miller Director March 13, 2006
- -----------------------------------
Timothy Miller
73
/s/Ronald E. Schumacher Director March 06, 2006
- -----------------------------------
Ronald E. Schumacher
/s/William J. Strickler Director March 13, 2006
- -----------------------------------
William J. Strickler
/s/Dale Weburg Director March 13, 2006
- -----------------------------------
Dale Weburg
/s/Peggy L. Wheeler Sr. Vice President March 06, 2006
- ----------------------------------- and Controller
(Principal
Financial Officer)
74
IBT Bancorp
FORM 10-K
Index to Exhibits
Exhibit Form 10-K
Number Exhibit Page Number
- ------- ------- -----------
21 Subsidiaries of the Registrant 76
23 Consent of Rehmann Robson P.C. 77
Independent Registered Public Accounting Firm
31 (a) Certification pursuant to Rule 13a - 14(a) of the Chief Executive 78
Officer
31 (b) Certification pursuant to Rule 13a - 14(a) of the 79
Principal Financial Officer
32 Section 1350 Certification of Chief Executive Officer and 80
Chief Financial Officer
75