To Our Shareholders and Friends:
The year 2006 was a challenging year for most businesses operating in Michigan.
We were no exception. But, we had some significant accomplishments:
- Grew our Commercial Loan portfolio by 9%
- Grew our Deposits by 2%
- Named one of the top 6 SBA lenders in southeast Michigan
- Named one of the "Metropolitan Detroit's 101 Best and Brightest
Companies to Work For"
- Completed a total redesign of our Website, www.psbnetbank.com
- Received an "Outstanding" CRA rating from the FDIC
Our total assets as of December 31, 2006 were $497,234,000 compared to
$495,011,000 on December 31, 2005. Our lending portfolio increased to
$398,344,000 as of December 31, 2006 compared to $365,093,000 as of December
31, 2005. Deposits increased to $433,960,000 on December 31, 2006 compared to
$424,658,000 in 2005. Our 2006 earnings were $2,888,000 or $.95 per average
outstanding share compared to $4,005,000 or $1.32 per average outstanding share
in 2005.
We do not expect the Michigan business climate to be much better in 2007 than it
was in 2006. Thus, we took some significant actions that had a negative impact
in 2006 but will better position us for increased earnings in 2007 and beyond.
Mike Tierney joined us on July 5th as President and CEO of Peoples State Bank.
He became President and CEO of our holding company, PSB Group, Inc., on January
1, 2007. We are fortunate to have a person with Mike's vision, experience,
knowledge, and energy leading our corporation into the future. We are confident
Mike and our dedicated team of associates will continue to grow our bank in the
markets we serve.
We are all excited about 2007. During the year, we plan to:
- Open a new branch in Troy (January)
- Introduce a new simplified, integrated family of Personal Deposit
Products that reward customers for their relationship with our bank
(April)
- Develop and launch several new Business Cash Management Products
including Remote Deposit, Positive Pay, ARP, and enhanced ACH
offerings (April-June)
- Roll out a new, expanded set of Business Deposit Products that
include analyzed accounts and statements (May)
- Open a new branch in Grosse Pointe Woods (October)
- Transition to a more customer-focused, sales organization
- Increase our customer base and earnings
Thank you for your support. It has been a pleasure serving you!
Sincerely,
/s/ David L. Wood /s/ Robert L. Cole
David L. Wood Robert L. Cole
Chairman of the Board President & Ceo
PSB GROUP, INC.
- --------------------------------------------------------------------------------
CONSOLIDATED FINANCIAL REPORT
DECEMBER 31, 2006
PSB GROUP, INC.
- --------------------------------------------------------------------------------
CONTENTS
REPORT LETTER 1
CONSOLIDATED FINANCIAL STATEMENTS
Balance Sheet 2
Statement of Operations 3
Statement of Stockholders' Equity 4
Statement of Cash Flows 5
Notes to Consolidated Financial Statements 6-41
(PLANTE MORAN LOGO) PLANTE & MORAN, PLLC
Suite 500
2601 Cambridge Court
Auburn Hills, MI 48326
Tel: 248.375.7100
Fax: 248.375.7101
plantemoran.com
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders
PSB Group, Inc.
We have audited the accompanying consolidated balance sheet of PSB Group, Inc.
as of December 31, 2006 and 2005 and the related consolidated statements of
operations, stockholders' equity, and cash flows for each year in the three-year
period ended December 31, 2006. These consolidated financial statements are the
responsibility of the Corporation's management. Our responsibility is to express
an opinion on these consolidated financial statements 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. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of PSB
Group, Inc. as of December 31, 2006 and 2005 and the consolidated results of
their operations and cash flows for each year in the three-year period ended
December 31, 2006, in conformity with accounting principles generally accepted
in the United States of America.
/s/ Plante & Morean, PLLC
Auburn Hills, Michigan
March 12, 2007
A member of
(MRI LOGO)
A worldwide assocation of indpendent accounting firms
PSB GROUP, INC.
- --------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEET
(000S OMITTED, EXCEPT PER SHARE DATA)
December 31
----------------------
2006 2005
--------- ---------
ASSETS
Cash and due from banks (Note 2) $ 13,950 $ 12,261
Securities - Available for sale (Note 3) 63,748 93,645
Loans (Note 4) 398,344 365,093
Less allowance for possible loan losses (Note 4) (4,257) (3,670)
--------- ---------
Net loans 394,087 361,423
Loans held for sale 3,693 6,235
Bank premises and equipment (Note 5) 12,731 12,663
Accrued interest receivable 2,776 2,406
Goodwill (Note 1) 4,458 4,458
Other assets (Note 9) 1,791 1,920
--------- ---------
Total assets $ 497,234 $ 495,011
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Deposits:
Noninterest-bearing $ 59,320 $ 54,445
Interest-bearing (Note 6) 374,640 370,213
--------- ---------
Total deposits 433,960 424,658
Short-term borrowings (Note 7) 16,875 20,440
Long-term debt (Note 8) 744 5,770
Accrued taxes, interest, and other liabilities (Note 9) 1,409 963
--------- ---------
Total liabilities 452,988 451,831
STOCKHOLDERS' EQUITY (Notes 8, 10, 11, 14, and 17)
Common stock:
Authorized - 5,000,000 shares, no par value
Issued and outstanding - 3,034,152 shares in 2006 and
3,029,152 shares in 2005 20,496 20,406
Unearned ESOP benefits (Note 8) (744) (770)
Common stock held in trust (Note 8) (230) (230)
Deferred compensation obligation (Note 8) 230 230
Additional paid in capital - stock options/awards (12) --
Retained earnings 25,062 24,357
Accumulated other comprehensive income (Note 1) (556) (813)
--------- ---------
Total stockholders' equity 44,246 43,180
--------- ---------
Total liabilities and stockholders' equity $ 497,234 $ 495,011
========= =========
See Notes to Consolidated
Financial Statements.
2
PSB GROUP, INC.
- --------------------------------------------------------------------------------
Consolidated Statement of Operations
(000S OMITTED, EXCEPT PER SHARE DATA)
Year Ended December 31
-----------------------------------------
2006 2005 2004
----------- ----------- -----------
INTEREST INCOME
Loans, including fees $ 28,603 $ 23,942 $ 20,780
Securities:
Taxable 2,159 2,676 1,183
Tax-exempt 1,234 872 619
Federal funds sold 63 28 51
----------- ----------- -----------
Total interest income 32,059 27,518 22,633
INTEREST EXPENSE
Deposits 12,860 8,777 5,546
Short-term borrowings 261 368 61
Long-term debt 70 224 224
----------- ----------- -----------
Total interest expense 13,191 9,369 5,831
----------- ----------- -----------
NET INTEREST INCOME - Before provision for loan losses 18,868 18,149 16,802
PROVISION FOR LOAN LOSSES (Note 4) 1,839 1,554 1,200
----------- ----------- -----------
NET INTEREST INCOME - After provision for loan losses 17,029 16,595 15,602
OTHER OPERATING INCOME
Service charges on deposit accounts 2,295 2,399 2,477
Gain on sale of mortgages 1,041 1,411 1,216
Gain (loss) on sale of available-for-sale securities (221) (16) 9
Other income 1,888 2,495 2,124
----------- ----------- -----------
Total other operating income 5,003 6,289 5,826
OTHER OPERATING EXPENSES
Salaries and employee benefits (Note 8) 9,413 9,276 8,267
Occupancy costs (Note 5) 4,100 3,580 3,065
Legal and professional 1,106 1,036 1,145
Other operating expenses 3,631 3,480 3,170
----------- ----------- -----------
Total other operating expenses 18,250 17,372 15,647
----------- ----------- -----------
INCOME - Before federal income taxes 3,782 5,512 5,781
FEDERAL INCOME TAXES (Note 9) 894 1,507 1,563
----------- ----------- -----------
NET INCOME $ 2,888 $ 4,005 $ 4,218
=========== =========== ===========
PER SHARE DATA
Weighted average shares outstanding 3,031,618 3,025,727 3,029,152
Basic earnings $ 0.95 $ 1.32 $ 1.39
See Notes to Consolidated
Financial Statements.
3
PSB GROUP, INC.
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(000S OMITTED, EXCEPT PER SHARE DATA)
Additional
Paid in Accumulated
Capital - Common Other
Unearned Stock Stock Deferred Comprehensive Total
Number of Common ESOP Options and Held in Compensation Retained Income Stockholders'
Shares Stock Benefits Awards Trust Obligation Earnings (Loss) Equity
--------- ------- -------- ----------- ------- ------------ -------- ------------- -------------
BALANCE - January 1,
2004 2,885,073 $17,560 $ -- $ -- $ -- $ -- $ 23,104 $ 347 $ 41,011
Comprehensive income
(Note 1):
Net income 4,218 4,218
Change in
unrealized gain
on securities
available for
sale (257) (257)
-------------
Total
comprehensive
income 3,961
Cash dividends -
$0.66 per share -- -- -- -- -- -- (1,991) -- (1,991)
--------- ------- -------- ----------- ------- ------------ -------- ------------- -------------
BALANCE - December
31, 2004 2,885,073 17,560 -- -- -- -- 25,331 90 42,981
Comprehensive income
(Note 1):
Net income 4,005 4,005
Change in
unrealized gain
on securities
available for
sale (903) (903)
-------------
Total
comprehensive
income 3,102
Stock dividend (5%)
(Note 10) 144,079 2,846 (2,846) --
Cash dividends -
$0.70 per share (2,133) (2,133)
Establish unearned
ESOP benefit
(Note 8) (770) (770)
Purchase of common
stock by trust
(Note 8) (230) (230)
Deferred
compensation
(Note 8) -- -- -- -- -- 230 -- -- 230
--------- ------- -------- ----------- ------- ------------ -------- ------------- -------------
BALANCE - December
31, 2005 3,029,152 20,406 (770) -- (230) 230 24,357 (813) 43,180
Comprehensive income
(Note 1):
Net income 2,888 2,888
Change in
unrealized gain
on securities
available for
sale 257 257
-------------
Total
comprehensive
income 3,145
Stock awards 5,000 90 -- 90
Additional paid in
capital - stock
options (12) (12)
Cash dividends -
$0.72 per share (2,183) (2,183)
Earned ESOP benefit 26 26
--------- ------- -------- ----------- ------- ------------ -------- ------------- -------------
BALANCE - December
31, 2006 3,034,152 $20,496 $ (744) $ (12) $ (230) $ 230 $ 25,062 $ (556) $ 44,246
========= ======= ======== =========== ======= ============ ======== ============= =============
Book value per share is $14.58, $14.25 and $14.19 at December 31, 2006, 2005,
and 2004, respectively.
See Notes to Consolidated
Financial Statements.
4
PSB GROUP, INC.
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CASH FLOWS
(000S OMITTED)
Year Ended December 31
--------------------------------
2006 2005 2004
-------- -------- --------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 2,888 $ 4,005 $ 4,218
Adjustments to reconcile net income to net cash from operating activities:
Depreciation and amortization 1,392 1,320 1,238
Provision for loan loss 1,839 1,554 1,200
Non-cash stock options/awards expense 78 -- --
Accretion and amortization of securities 65 358 116
Deferred income taxes (53) 101 --
(Gain) loss on sale of available-for-sale securities 221 16 (9)
Gain on sale of mortgages (1,041) (1,411) (1,216)
Origination and purchase of loans held for sale (83,276) (75,474) (67,721)
Sale of loans held for sale 86,859 73,038 67,176
Increase in accrued interest receivable (370) (262) (619)
(Increase) decrease in other assets 49 (579) 442
Increase (decrease) in accrued interest payable and other liabilities 446 (822) 137
-------- -------- --------
Net cash provided by operating activities 9,097 1,844 4,962
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of securities available for sale (9,338) (50,011) (73,555)
Proceeds from maturities of securities available for sale 16,388 25,104 29,107
Proceeds from sale of securities available for sale 22,951 20,644 446
Net increase in loans (34,503) (27,697) (14,105)
Capital expenditures (1,460) (3,479) (2,643)
-------- -------- --------
Net cash used in investing activities (5,962) (35,439) (60,750)
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in time deposits 30,548 18,304 3,854
Net increase (decrease) in other deposits (21,246) (4,778) 56,290
Net increase (decrease) in short-term borrowings (3,565) 20,440 (2,420)
Principal payments on long-term debt (5,000) -- --
Purchase of common stock to be held in trust -- (230) --
Cash dividends (2,183) (2,133) (1,991)
-------- -------- --------
Net cash provided by (used in) financing activities (1,446) 31,603 55,733
-------- -------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,689 (1,992) (55)
CASH AND CASH EQUIVALENTS - Beginning of year 12,261 14,253 14,308
-------- -------- --------
CASH AND CASH EQUIVALENTS - End of year $ 13,950 $ 12,261 $ 14,253
======== ======== ========
SUPPLEMENTAL INFORMATION - Cash paid for
Interest $ 13,052 $ 9,322 $ 5,809
Income taxes 880 2,640 1,190
See Notes to Consolidated
Financial Statements.
5
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION AND CONSOLIDATION - The consolidated financial
statements include the accounts of PSB Group, Inc. (the "Corporation") and
its wholly owned subsidiaries, Peoples State Bank, Inc. (the "Bank") and
PSB Capital, Inc. (Capital). PSB Title Insurance Agency, Inc. (PSB) and
Universal Mortgage Company (UMC) are wholly owned subsidiaries of Peoples
State Bank, Inc. All significant intercompany transactions are eliminated
in consolidation.
PSB Group, Inc. was formed on February 28, 2003 as a bank holding company
for the purpose of owning Peoples State Bank, Inc. pursuant to a plan of
reorganization adopted by the Bank and its stockholders. Pursuant to the
reorganization, each share of Peoples State Bank, Inc. stock held by
existing stockholders of the Bank was exchanged for three shares of common
stock of PSB Group, Inc. The reorganization had no consolidated financial
statement impact. Share amounts for all prior periods presented have been
restated to reflect the reorganization.
USE OF ESTIMATES - The accounting and reporting policies of PSB Group,
Inc. conform to accounting principles generally accepted in the United
States of America. Management is required to make significant estimates
(such as the allowance for possible loan losses, deferred taxes,
foreclosed assets, valuation of intangible assets, and goodwill) and
assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from these
estimates and assumptions.
NATURE OF OPERATIONS - The Corporation provides full-service banking
through 13 branch offices and six loan origination offices to the Michigan
communities of Wayne, Oakland, Macomb, and Genesee counties.
6
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK - Most of the
Corporation's activities are with customers located within Michigan. Note
3 discusses the types of securities in which the Corporation invests. Note
4 discusses the types of lending in which the Corporation engages. The
Corporation does not have any significant concentrations to any one
customer, but does have a significant concentration of lending to
non-residential commercial real estate entities.
CASH AND CASH EQUIVALENTS - For purposes of the consolidated statement of
cash flows, cash and cash equivalents include cash and balances due from
banks, federal funds sold, and securities purchased under agreements to
resell, all of which had original maturities of 90 days or less.
SECURITIES - Debt securities that management has the positive intent and
the ability to hold to maturity are classified as "held to maturity" and
recorded at amortized cost. Securities not classified as held to maturity
or trading, including equity securities with readily determinable fair
values, are classified as "available for sale" and are recorded at fair
value, with unrealized gains and losses, net of related 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
values 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. Gains and losses on the sale of securities are
recorded on the trade date and are determined using the specific
identification method.
LOANS - The Corporation grants mortgage, commercial, and consumer loans to
customers. Loans are reported at their outstanding unpaid principal
balances, adjusted for charge offs, the allowance for loan losses, and any
deferred fees or costs on originated loans. Interest income is accrued on
the unpaid principal balance. Loan origination fees, net of certain direct
origination costs, are recognized as an adjustment of the related loan
yield using the interest method.
7
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The accrual of interest on loans is discontinued at the time the loan is
90 days delinquent unless the credit is well-secured and in the process of
collection. In all cases, loans are placed on nonaccrual or charged off at
an earlier date if principal or interest is considered doubtful.
All interest accrued but not collected for loans that are placed on
nonaccrual or charged off is reversed against interest income. 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 the principal and interest amounts
contractually due are brought current and future payments are reasonably
assured.
LOANS HELD FOR SALE - Loans originated and intended for sale in the
secondary market are carried at the lower of cost or estimated fair value
in the aggregate. Net unrealized losses, if any, are recognized in a
valuation allowance by charges to income.
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 a 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 on 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.
8
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The allowance consists of specific, general, and unallocated components.
The specific components relate 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 nonclassified loans and is based on historical loss
experience adjusted for qualitative factors. An unallocated component is
maintained to cover uncertainties that could affect management's 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 Corporation will be unable to collect the
scheduled payments of principal and 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 circumstances
surrounding the loan and the borrower, including length of the delay, the
reasons for the delay, the borrower's prior payment record, and the amount
of the shortfall in relation to the principal and interest owed.
9
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
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 homogenous loans are collectively evaluated for
impairment. Accordingly, the Corporation does not separately identify
individual consumer and residential loans for impairment disclosures.
OFF-BALANCE-SHEET INSTRUMENTS - In the ordinary course of business, the
Corporation has entered into commitments to extend credit, including
commitments under credit card arrangements, commercial letters of credit,
and standby letters of credit.
FORECLOSED ASSETS - Assets acquired through, or in lieu of, loan
foreclosure are held for sale and are initially recorded at fair value at
the date of the foreclosure, establishing a new cost basis. Subsequent to
foreclosure, valuations are periodically performed by management and the
assets are carried at the lower of carrying amount or fair value less cost
to sell. Revenue and expenses from operations and changes in the valuation
allowance are included in net expenses from foreclosed assets.
BANK PREMISES AND EQUIPMENT - Land is carried at cost. Premises and
equipment are stated at cost, less accumulated depreciation and
amortization. Depreciation, computed on the straight-line method, is
charged to operations over the estimated useful lives of the properties.
Leasehold improvements are amortized over the terms of their respective
leases or the estimated useful lives of the improvements, whichever is
shorter.
INCOME TAXES - Deferred income tax assets and liabilities are determined
using the liability (or balance sheet) method. Under this method, the net
deferred tax asset or liability is determined based on the tax effects of
the various temporary differences between the book and tax bases of the
various balance sheet assets and liabilities and gives current recognition
to changes in tax rates and laws.
10
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
EARNINGS PER COMMON SHARE - Basic earnings per share represents income
available to common stockholders divided by the weighted-average number of
common shares outstanding during the period. Diluted earnings per share
reflects additional common shares that would have been outstanding if
dilutive potential common shares had been issued, as well as any
adjustment to income that would result from the assumed issuance.
Potential common shares that may be issued by the Corporation relate
solely to outstanding stock options, and are determined using the treasury
stock method. As of December 31, 2006, the outstanding stock options would
have an anti-dilutive effect and therefore have not been included in the
calculation of diluted earnings per share.
EMPLOYEE STOCK OWNERSHIP PLAN (ESOP) -- Compensation expense is recognized
as ESOP shares are committed to be released. Allocated and committed to be
released ESOP shares are considered outstanding for earnings per share
calculation based on debt service payments. Other ESOP shares are excluded
from earnings per share calculation. Dividends declared on allocated ESOP
shares are charged to retained earnings. Dividends declared on unallocated
ESOP shares are used to satisfy debt service. The value of unearned shares
to be allocated to ESOP participants for future services not yet performed
is reflected as a reduction of stockholders' equity.
COMPREHENSIVE INCOME - Accounting principles generally require that
revenue, expenses, gains, and losses be included in net income. Certain
changes in assets and liabilities, however, such as unrealized gains and
losses on available-for-sale securities, are reported as a separate
component of the equity section of the balance sheet. Such items, along
with net income, are components of comprehensive income.
11
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The components of accumulated other comprehensive income and related tax
effects are as follows (000s omitted):
2006 2005 2004
------- ------- -------
Unrealized holding gains(losses) on
available-for-sale securities $ (842) $(1,232) $ 137
Tax effect (286) (419) 47
------- ------- -------
Accumulated other comprehensive
income $ (556) $ (813) $ 90
======= ======= =======
GOODWILL - Goodwill results from business acquisitions and represents the
excess of the purchase price over the fair value of acquired tangible
assets and liabilities and identifiable intangible assets. Goodwill is not
amortized but it is assessed at least annually for impairment, and any
such impairment will be recognized in the period identified. Goodwill
totaling approximately $358,000 was recorded during the year ended
December 31, 2005 bringing the total to $4,458,000.
FASB INTERPRETATION NO. 48, ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES --
AN INTERPRETATION OF FASB STATEMENT NO. 109 (FIN 48)
In July 2006, the Financial Accounting Standards Board (FASB) issued this
interpretation to clarify the accounting for uncertainty in tax positions.
FIN 48 requires, among other matters, that the Company recognize in its
financial statements the impact of a tax position, if that position is
more likely than not of being sustained on audit, based on the technical
merits of the position. The provisions of FIN 48 are effective as of the
beginning of the Company's 2007 fiscal year, with any cumulative effect of
the change in accounting principle recorded as an adjustment to opening
retained earnings. The Company is currently evaluating the impact of
adopting FIN 48 on the financial statements.
12
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FINANCIAL ACCOUNTING STANDARD NUMBER 157 FAIR VALUE MEASUREMENTS
This statement clarifies the definition of fair value, establishes a
framework for measuring fair value, and expands the disclosures on fair
value measurements. It applies under other accounting pronouncements that
require or permit fair value measurements and does not require any new
fair value measurements. SFAS No. 157 is effective for fiscal years
beginning after November 15, 2007. The Company has not determined the
impact the adoption of SFAS 157 will have on the financial statements.
STOCK OPTION PLAN AND ADOPTION OF SFAS 123R - In December 2004, the
Financial Accounting Standards Board ("FASB") issued SFAS No. 123(R),
"Share-based Payment" ("SFAS 123R"), a revision to Statement No. 123,
"Accounting for Stock-based Compensation." This standard required the
Company to measure the cost of employee services received in exchange for
equity awards, including stock options based on the grant date fair
(calculated) value of the awards. The cost will be recognized as
compensation expense over the vesting period of the awards.
The Company adopted the provisions of SFAS 123R as of January 1, 2006. The
standard provides for a modified prospective application. Under this
method, the Company began recognizing compensation cost for equity based
compensation for all new or modified grants after the date of adoption. In
addition, the Company is recognizing the unvested portion of the grant
date fair value of awards issued prior to adoption based on the fair
values previously calculated for disclosure purposes. Prior periods have
not been restated.
Prior to January 1, 2006, the Company used the intrinsic value method
under APB 25 to account for its stock option plans. No compensation cost
was recognized for the Company's plans for 2005 as all options granted
under those plans had an exercise price above the market value of the
underlying stock on the grant date.
13
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The effect of adoption of SFAS 123R in 2006 was a decrease in income from
operations and income before income taxes of $78,000 and a decrease in net
income of $51,000.
The following table shows the effects on net income in 2006 and 2005 had
compensation cost been measured using the fair value method previously
calculated for disclosure purposes:
2006 2005 2004
--------- --------- ---------
Net Income, as reported $ 2,888 $ 4,005 $ 4,218
Add: Compensation costs included in net income 27 -- --
Less compensation costs based on the fair value method 27 5 --
--------- --------- ---------
Pro forma net income $ 2,888 $ 4,000 $ 4,218
========= ========= =========
As reported earnings per share $ 0.95 $ 1.32 $ 1.39
Proforma earnings per share $ 0.95 $ 1.32 $ 1.39
As reported earnings per diluted share $ 0.95 $ 1.32 $ 1.39
Pro forma earnings per diluted share $ 0.95 $ 1.32 $ 1.39
The fair value of each option award is estimated on the date of grant using a
Black Scholes option valuation model that uses the weighted average assumptions
noted in the following table. Expected volatilities are based on the monthly
changes in the Company's stock price over a three year period. The Company uses
historical data to estimate option exercise and employee termination within the
valuation model. The risk-free rate for periods within the contractual life of
the option is based on the U.S. Treasury yield curve in effect at the time of
grant.
2006 2005
------- -------
Dividend yield 3.67% 3.50%
Expected average life (years) 7.00 7.00
Volatility 15.11% 16.21%
Risk-free interest rate 5.09% 4.12%
14
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 2 - RESTRICTIONS ON CASH AND AMOUNTS DUE FROM BANKS
The Corporation is required to maintain average balances on hand or with
the Federal Reserve Bank. At December 31, 2006 and 2005, these reserve
balances amounted to $3,376,000 and $2,986,000, respectively.
NOTE 3 - SECURITIES
The amortized cost and estimated market value of securities are as follows
(000s omitted):
2006
--------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gains Losses Market Value
--------- ---------- ---------- ------------
Available-for-sale securities:
U.S. Treasury securities and obligations of U.S.
government corporations and agencies $ 34,203 $ 13 $ (643) $ 33,573
Obligations of state and political
subdivisions 27,855 68 (255) 27,668
Corporate debt securities 1,000 -- (25) 975
Other 1,532 -- -- 1,532
--------- ---------- ---------- ------------
Total available-for-sale securities $ 64,590 $ 81 $ (923) $ 63,748
========= ========== ========== ============
2005
--------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gains Losses Market Value
--------- ---------- ---------- ------------
Available-for-sale securities:
U.S. Treasury securities and obligations of U.S.
government corporations and agencies $ 60,428 $ 3 $ (1,186) $ 59,245
Obligations of state and political
subdivisions 31,714 96 (130) 31,680
Corporate debt securities 1,000 -- (15) 985
Other 1,735 -- -- 1,735
--------- ---------- ---------- ------------
Total available-for-sale securities $ 94,877 $ 99 $ (1,331) $ 93,645
========= ========== ========== ============
15
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 3 - SECURITIES (CONTINUED)
The amortized cost and estimated market value of securities at December 31,
2006, by contractual maturity, are shown below. Expected maturities will differ
from contractual maturities because issuers may have the right to call or prepay
obligations with or without call or prepayment penalties (000s omitted):
Available for Sale
---------------------
Amortized Market
Cost Value
--------- -------
Due in one year or less $ 430 $ 431
Due in one through five years 17,703 17,430
Due after five years through ten years 18,121 18,013
Due after ten years 7,589 7,499
--------- -------
Total 43,843 43,373
Federal agency pools 19,215 18,843
Other 1,532 1,532
--------- -------
Total $ 64,590 $63,748
========= =======
Proceeds from the sale of available-for-sale securities during 2006, 2005,
and 2004 were $22,951,000, $20,644,000, and $446,000, respectively.
16
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 3 - SECURITIES (CONTINUED)
Information pertaining to securities with gross unrealized losses at December
31, 2006 and 2005, aggregated by investment category and length of time that
individual securities have been in a continuous loss position, follows (000s
omitted):
2006
-------------------------------------------------
Less Than Twelve Months Over Twelve Months
----------------------- -----------------------
Gross Gross
Unrealized Unrealized
Losses Fair Value Losses Fair Value
---------- ---------- ---------- ----------
Available-for-sale securities:
U.S. Treasury securities and obligations
of U.S. government corporations
and agencies $ 48 $ 3,560 $ 595 $ 26,520
Obligations of state and political
subdivisions 75 5,478 180 13,016
Corporate debt securities 25 975 -- --
Other -- -- -- --
---------- ---------- ---------- ----------
Total available-for-sale
securities $ 148 $ 10,013 $ 775 $ 39,536
========== ========== ========== ==========
2005
-------------------------------------------------
Less Than Twelve Months Over Twelve Months
----------------------- -----------------------
Gross Gross
Unrealized Unrealized
Losses Fair Value Losses Fair Value
---------- ---------- ---------- ----------
Available-for-sale securities:
U.S. Treasury securities and obligations
of U.S. government corporations and
agencies $ 446 $ 23,032 $ 740 $ 35,713
Obligations of state and political
subdivisions 130 14,379 -- --
Corporate debt securities 15 985 -- --
Other -- -- -- --
---------- ---------- ---------- ----------
Total available-for-sale
securities $ 591 $ 38,396 $ 740 $ 35,713
========== ========== ========== ==========
17
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 3 - SECURITIES (CONTINUED)
At December 31, 2006 and 2005, securities having a carrying value of
$5,007,093 and $2,500,000 (market value of $4,877,350 and $2,418,750),
respectively, were pledged to secure public deposits, repurchase
agreements, and for other purposes required by law.
NOTE 4 - LOANS
A summary of the balances of loans at December 31, 2006 and 2005 is as
follows (000s omitted):
2006 2005
--------- ---------
Mortgage loans on real estate:
Residential 1-4 family $ 82,165 $ 88,733
Commercial 198,001 170,445
Construction 34,544 26,611
Second mortgages 9,282 8,920
Equity lines of credit 12,302 12,380
--------- ---------
Total mortgage loans 336,294 307,089
Commercial loans 51,949 46,409
Consumer installment loans 10,709 12,213
--------- ---------
Subtotal 398,952 365,711
Less allowances for loan losses (4,257) (3,670)
Net deferred loan fees (608) (618)
--------- ---------
Loans - Net $ 394,087 $ 361,423
========= =========
18
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 4 - LOANS (CONTINUED)
An analysis of the allowance for loan losses is as follows (000s omitted):
2006 2005 2004
------- ------- -------
Balance - Beginning of year $ 3,670 $ 3,394 $ 3,887
Loan loss provision 1,839 1,554 1,200
Loan losses (1,716) (1,880) (2,318)
Loan loss recoveries 464 602 625
------- ------- -------
Balance - End of year $ 4,257 $ 3,670 $ 3,394
======= ======= =======
As a percentage of total loans 1.07 1.01 1.00
======= ======= =======
The following is a summary of information pertaining to impaired loans
(000s omitted):
2006 2005
------ ------
Impaired loans without a valuation allowance $ 645 $ 449
Impaired loans with a valuation allowance 4,343 3,953
------ ------
Total impaired loans $4,988 $4,402
====== ======
Valuation allowance related to impaired loans $ 763 $ 556
====== ======
Total non-accrual loans $3,069 $1,651
====== ======
Total loans past due 90 days or more and still accruing $4,148 $2,044
====== ======
2006 2005 2004
------ ------ ------
Average investment in impaired loans $3,375 $1,945 $1,363
====== ====== ======
Interest income recognized on impaired loans $ 305 $ 218 $ 11
====== ====== ======
Interest income recognized on a cash basis on
impaired loans $ 167 $ 201 $ 13
====== ====== ======
No additional funds are committed to be advanced in connection with
impaired loans.
19
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 5 - BANK PREMISES AND EQUIPMENT
Bank premises and equipment at December 31, 2006 and 2005 consisted of the
following (000s omitted):
2006 2005
------- -------
Land $ 2,129 $ 2,323
Buildings and improvements 10,030 10,819
Construction in process 1,906 105
Furniture, fixtures, and equipment 10,865 10,679
------- -------
Total bank premises and equipment 24,930 23,926
Less accumulated depreciation and amortization 12,199 11,263
------- -------
Net carrying amount $12,731 $12,663
======= =======
Depreciation expense totaled $1,392,000, $1,320,000, and $1,238,000 during
2006, 2005, and 2004, respectively.
Pursuant to the terms of non-cancelable lease agreements in effect at
December 31, 2006 pertaining to banking premises and equipment, future
minimum rent commitments under various operating leases are as follows
(000s omitted):
2007 $ 702
2008 525
2009 526
2010 439
2011 425
Thereafter 1,498
------
Total $4,115
======
Total rent expense for the years ended December 31, 2006, 2005, and 2004
amounted to $771,000, $556,000, and $450,000, respectively.
20
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 6 - DEPOSITS
Interest-bearing deposits at December 31, 2006 and 2005 consisted of the
following (000s omitted):
2006 2005
-------- --------
NOW accounts $ 35,872 $ 33,143
Savings 124,676 145,753
Money market demand 26,300 34,073
Time:
$100,000 and over 89,834 66,918
Under $100,000 97,958 90,326
-------- --------
Total interest-bearing deposits $374,640 $370,213
======== ========
The remaining maturities of certificates of deposit outstanding at
December 31, 2006 are as follows (000s omitted):
Under $100,000
$100,000 and Over
-------- --------
2007 $ 78,676 $ 79,599
2008 10,169 4,673
2009 3,042 3,056
2010 2,997 344
2011 1,367 743
Thereafter 1,707 1,419
-------- --------
Total $ 97,958 $ 89,834
======== ========
21
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 7 - BORROWING ARRANGEMENTS
The Corporation has an agreement with the Federal Home Loan Bank of
Indianapolis under which the Corporation may obtain advances up to an
aggregate amount of $26,000,000. The interest rates on outstanding
advances as of December 31, 2005 ranged from 4.38% to 4.59%. The
Corporation has provided a blanket pledge of all of the Corporation's
residential mortgage loans as collateral on advances under this agreement.
The Corporation also borrows Federal Funds on an overnight basis to meet
short-term liquidity needs. Short-term borrowings outstanding as of
December 31 are as follows (000s omitted):
2006 2005
------- -------
Short-term FHLB advances $ -- $12,500
Federal Funds Purchased 16,875 7,940
------- -------
Total $16,875 $20,440
NOTE 8 - BENEFIT PLANS
The Corporation has a defined contribution 401(k), employee
profit-sharing, and Employee Stock Ownership (ESOP) plan covering
substantially all employees. Employer matching contributions are
discretionary. The Corporation typically matches 100 percent of the first
3 percent of employee contributions and 50 percent of the next 3 percent
of employee contributions to the 401(k) plan. Employer 401(k) matching
contributions and profit-sharing contributions are at the discretion of
the Corporation's Board of Directors. Employer 401(k) matching
contributions to the plan were approximately $218,000, $217,000, and
$224,000 during 2006, 2005, and 2004, respectively. Employer
profit-sharing contributions made to the ESOP were approximately $175,000,
$100,000, and $100,000 during 2006, 2005, and 2004, respectively.
22
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 8 - BENEFIT PLANS (CONTINUED)
The ESOP has entered into a 6 year note payable with an outside financial
institution. The terms of the note include a variable rate payable, due in
annual installments to 2011, floating at LIBOR plus 1.75 which was 7.10%
at December 31, 2006. The Corporation has guaranteed the loan, with the
ESOP stock pledged as collateral. Since ESOP debt is guaranteed by the
Corporation, it is reflected on the consolidated balance sheet as a
liability with a related amount shown as a reduction in stockholders'
equity.
As of December 31, 2006, scheduled maturities of the ESOP note payable are
as follows (000s omitted):
2007 $154
2008 154
2009 154
2010 154
2011 128
----
Total $744
====
The shares held by the ESOP are held in a suspense account for allocation
to the participants as the loan is repaid. Shares held by the ESOP include
the following at December 31, 2006 and had a fair value of approximately
$1,333,000:
Allocated 41,318
Committed to be allocated --
Unallocated 38,501
------
Total 79,819
23
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 8 - BENEFIT PLANS (CONTINUED)
The Corporation also has entered into deferred compensation arrangements
with certain of its directors. Amounts deferred under the arrangements are
invested in Corporation common stock and are maintained in a rabbi trust.
The Corporation has 11,499 shares of common stock reserved for the various
plans with a related obligation of $230,000 established within
stockholders' equity as of December 31, 2006. The arrangements are
accounted for in accordance with EITF Issue No. 97-14, Accounting for
Deferred Compensation Arrangements Where Amounts Earned Are Held in a
Rabbi Trust and Invested. Assets of the rabbi trust are consolidated with
the Corporation, and the value of the Corporation's stock held in the
rabbi trust is classified in stockholders' equity and generally accounted
for in a manner similar to treasury stock.
The Corporation recognizes the original amount of deferred compensation as
the basis for recognition in the rabbi trust. Changes in fair value owed
to directors are not recognized as the arrangements do not permit
diversification and must be settled by the delivery of a fixed number of
shares of the Corporation's common stock. The Rabbi Trust purchased 11,499
shares as of December 31, 2006. The shares were purchased at a price of
$20 per share. There were no transactions involving the rabbi trust prior
to the year ended December 31, 2005. During 2006, the Rabbi Trust
collected $8,279 in dividends on the 11,499 shares held.
24
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 9 - FEDERAL INCOME TAXES
The provision for federal income taxes reflected in the consolidated
statement of operations for the years ended December 31, 2006, 2005, and
2004 consisted of the following (000s omitted):
2006 2005 2004
------ ------ ------
Current expense $ 947 $1,406 $1,563
Deferred (benefit) expense (53) 101 --
------ ------ ------
Total income tax expense $ 894 $1,507 $1,563
====== ====== ======
A reconciliation of the difference between total federal income tax
expense and the amount computed by applying the statutory tax rates to
income before income taxes follows:
Percent of Pretax Income
---------------------------
2006 2005 2004
---- ---- ----
Amount computed at statutory rates 34 34 34
Decrease resulting from:
Tax-exempt municipal interest (11) (5) (9)
Other 1 (2) 2
---- ---- ----
Reported tax expense 24 27 27
==== ==== ====
25
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 9 - FEDERAL INCOME TAXES (CONTINUED)
The details of the net deferred tax asset (liability) at December 31, 2006
and 2005 are as follows (000s omitted):
2006 2005
------ ------
Deferred tax assets:
Provision for loan losses $ 860 $ 737
Net deferred loan fees 200 204
Accrued employee benefits 32 46
Deferred compensation 234 196
Unrealized losses on investment securities
available for sale 286 419
Other 36 35
------ ------
Total deferred tax assets 1,648 1,637
Deferred tax liabilities:
Property and equipment 625 674
Original issue discount 467 351
Unrealized gains on investment securities
available for sale -- --
Other 184 160
------ ------
Total deferred tax liabilities 1,276 1,185
------ ------
Net deferred tax asset $ 372 $ 452
====== ======
26
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 10 - STOCK TRANSACTIONS
On April 21, 2005, the Board approved a 5 percent stock dividend to
holders of record of common stock of the Corporation on June 1, 2005.
Earnings per share and cash dividends per share for all years presented
have been adjusted in the accompanying consolidated financial statements
to reflect the stock dividend.
NOTE 11 - STOCK-BASED COMPENSATION
During 2004, the Corporation adopted the PSB Group, Inc. 2004 Stock
Compensation Plan and has reserved 450,000 shares of common stock for
issuance under the plan. Vesting is to be specified at the time of grant
and options will expire 10 years after the grant date. The exercise price
of each option granted will not be below the fair market value of the
Corporation's common stock on the date of the grant.
In addition to the stock options granted, there were stock awards of 5,000
shares granted in 2006. The awards were valued at $18 per share at the
grant date. One half of the shares (2,500) vested in 2006, with 1,250 of
the remaining shares to vest in 2008 and 1,250 in 2010. Total share-based
compensation cost for both the stock options and awards that has been
charged against income was $78,000 and $0 for 2006 and 2005, respectively.
Total income tax benefit recognized in the income statement for
share-based compensation was $27,000 and $0 for 2006 and 2005
respectively.
The weighted-average grant-date fair value of options granted during the
years 2006 and 2005 was $73,800 and $49,500, respectively. As of December
31, 2006, there was approximately $72,000 of total unrecognized
compensation cost related to nonvested share-based compensation
arrangements granted under the Plan. That cost is expected to be
recognized over a weighted-average period of 4.5 years.
27
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 11 - STOCK-BASED COMPENSATION (CONTINUED)
A summary of the Corporation's option activity for the year ended December 31,
2006 is as follows:
2005 2006
----------------- --------------------------------------------
Weighted
Average
Weighted Weighted Remaining
Number Average Number Average Contractual Aggregate
of Exercise of Exercise Term (in Instrinsic
Shares Price Shares Price years) Value
------ -------- ------ -------- ----------- ----------
Options outstanding -
Beginning of year -- $ -- 31,100 $ 24.42 8.5 --
Options granted 31,100 24.42 32,000 18.00 9.5 --
Options exercised -- -- -- -- -- --
Options forfeited -- -- 1,000 24.42 8.5 --
------ ------ -----------
Options outstanding -
End of year 31,100 $ 24.42 62,100 $ 21.11 9.0 --
====== ====== ===========
Exercisable at end of year -- $ -- 10,024 $ 24.42 8.5 --
Information pertaining to options outstanding at December 31, 2006 is as
follows:
Options
Options Outstanding Exercisable
--------------------------------- -----------
Weighted
Average
Exercise Number Remaining Number
Price Outstanding Contractual Life Outstanding
- -------- ----------- ---------------- -----------
$ 24.42 31,100 8.5 10,024
$ 18.00 32,000 9.5 --
28
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 12 - OFF-BALANCE-SHEET ACTIVITIES
CREDIT-RELATED FINANCIAL INSTRUMENTS - The Corporation is a party to
credit-related financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit, standby
letters of credit, and commercial letters of credit. Such commitments
involve, to varying degrees, elements of credit and interest rate risk in
excess of the amount recognized in the consolidated balance sheet.
The Corporation's exposure to credit loss is represented by the
contractual amount of these commitments. The Corporation follows the same
credit policies in making commitments as it does for on-balance-sheet
instruments.
At December 31, 2006 and 2005, the following financial instruments were
outstanding whose contract amounts represent credit risk (000s omitted):
2006 2005
---- ----
Commitments to grant loans $ 38,177 $ 19,389
Unfunded commitments under lines of credit 40,735 47,206
Commercial and standby letters of credit 5,377 3,064
29
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 12 - OFF-BALANCE-SHEET ACTIVITIES (CONTINUED)
Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination
clauses and may require payment of a fee. The commitments for equity lines
of credit may expire without being drawn upon. Therefore, the total
commitment amounts do not necessarily represent future cash requirements.
The amount of collateral obtained, if it is deemed necessary by the
Corporation, is based on management's credit evaluation of the customer.
Unfunded commitments under commercial lines of credit, revolving credit
lines, and overdraft protection agreements are commitments for possible
future extensions of credit to existing customers. These lines of credit
are generally collateralized and usually do not contain a specified
maturity date and may not be drawn upon to the total extent to which the
Corporation is committed.
Commercial and standby letters of credit are conditional commitments
issued by the Corporation to guarantee the performance of a customer to a
third party. These letters of credit are primarily used to support public
and private borrowing arrangements. Essentially all letters of credit
issued have expiration dates within one year.
Almost all of the standby letters of credit are secured and, in the event
of nonperformance by the customers, the Corporation has rights to the
underlying collateral provided including commercial real estate, physical
plant and property, inventory, receivables, cash, and marketable
securities.
COLLATERAL REQUIREMENTS - To reduce credit risk related to the use of
credit-related financial instruments, the Corporation might deem it
necessary to obtain collateral. The amount and nature of the collateral
obtained are based on the Bank's credit evaluation of the customer.
Collateral held varies, but may include cash, securities, accounts
receivable, inventory, property, plant, and equipment, and real estate.
30
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 13 - LEGAL CONTINGENCIES
Various legal claims also arise from time to time in the normal course of
business which, in the opinion of management, will have no material effect
on the Corporation's consolidated financial statements.
NOTE 14 - RESTRICTIONS ON DIVIDENDS, LOANS, AND ADVANCES
Federal and state banking regulations place certain restrictions on
dividends paid and loans or advances made by the Bank. The total amount of
dividends that may be paid at any date is generally limited to the
retained earnings of the Bank, and loans or advances are limited to 10
percent of the Bank's capital stock and surplus on a secured basis.
At December 31, 2006, the Bank's retained earnings available for the
payment of dividends was $13,857,000. Accordingly, $30,571,000 of the
Corporation's equity in the net assets of the Bank was restricted at
December 31, 2006. Funds available for loans or advances by the Bank to
the Corporation amounted to $4,478,000.
In addition, dividends paid by the Bank would be prohibited if the effect
thereof would cause the Bank's capital to be reduced below applicable
minimum capital requirements.
NOTE 15 - RELATED PARTY TRANSACTIONS
In the ordinary course of business, the Corporation has granted loans to
principal officers and directors and their affiliates amounting to
$2,117,000 at December 31, 2006 and $1,317,000 at December 31, 2005.
During the year ended December 31, 2006, total principal additions were
$911,000 and total principal payments were $112,000.
Deposits from related parties held by the Corporation at December 31, 2006
and 2005 amounted to $1,985,000 and $1,702,000, respectively.
31
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 16 - FAIR VALUE 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 on 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 107 excludes certain
financial instruments and all nonfinancial instruments from its disclosure
requirements. Accordingly, the aggregate fair value amounts presented may
not necessarily represent 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.
SECURITIES - Fair values for securities are based on quoted market prices.
LOANS HELD FOR SALE - Fair values for loans held for sale are based on
commitments on hand from investors or prevailing market prices.
32
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
LOANS RECEIVABLE - For variable-rate loans that reprice frequently and
with no significant change in credit risk, fair values are based on
carrying values. Fair values for certain mortgage loans (e.g., one- to
four-family residential), credit card loans, and other consumer loans are
based on quoted market prices of similar loans sold in conjunction with
securitization transactions, adjusted for differences in loan
characteristics. Fair values for other loans (e.g., commercial real estate
and investment property mortgage loans, commercial, and industrial loans)
are estimated using discounted cash flow analyses, using interest rates
currently being offered for loans with similar terms to borrowers of
similar credit quality. Fair values for nonperforming loans are estimated
using discounted cash flow analyses or underlying collateral values, where
applicable.
DEPOSIT LIABILITIES - The fair values disclosed for demand deposits (e.g.,
interest and noninterest checking, passbook savings, and certain types of
money market accounts) are, by definition, equal to the amount payable on
demand at the reporting date (i.e., their carrying amounts). The carrying
amounts of variable-rate, fixed-term money market accounts and
certificates of deposit approximate their fair values at the reporting
date. Fair values for fixed-rate certificates of deposit are estimated
using a discounted cash flow calculation that applies interest rates
currently being offered on certificates to a schedule of aggregated
expected monthly maturities on time deposits.
LONG-TERM BORROWINGS - The fair values of the Corporation's long-term
borrowings are estimated using discounted cash flow analyses based on the
Bank's current incremental borrowing rates for similar types of borrowing
arrangements.
33
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
SHORT-TERM BORROWINGS - The carrying amounts of federal funds purchased,
borrowings under repurchase agreements, and other short-term borrowings
maturing within 90 days approximate their fair values. Fair values of
other short-term 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.
OTHER INSTRUMENTS - The fair values of other financial instruments,
including loan commitments and unfunded letters of credit, based on a
discounted cash flow analyses, are not material.
The estimated fair values and related carrying or notional amounts of the
Corporation's financial instruments are as follows (000s omitted):
2006 2005
------------------------ ----------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
--------- ---------- -------- ----------
Assets:
Cash and short-term
investments $ 13,950 $ 13,950 $ 12,261 $ 12,261
Securities 63,748 63,748 93,645 93,645
Loans 394,087 393,230 361,423 361,140
Loans held for sale 3,693 3,693 6,235 6,235
Accrued interest receivable 2,776 2,776 2,406 2,406
Liabilities:
Noninterest-bearing deposits 59,320 59,320 54,445 54,445
Interest-bearing deposits 374,640 362,020 370,213 370,030
Short-term borrowings 16,875 16,875 20,440 20,440
Long-term debt 744 744 5,770 5,689
Accrued interest payable 433 433 296 296
34
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 17 - REGULATORY MATTERS
The Corporation (on a consolidated basis) and the Bank are subject to
various regulatory capital requirements administered by federal banking
agencies. Failure to meet minimum capital requirements can initiate
certain mandatory and discretionary actions by regulators that could have
a direct material effect on the Corporation's and the Bank's consolidated
financial statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Corporation and the Bank must
meet specific capital guidelines that involve quantitative measures of
their assets, liabilities, and certain off-balance-sheet items as
calculated under regulatory accounting practices. The capital amounts and
classification are also subject to qualitative judgments by the regulators
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 Bank to maintain minimum amounts and
ratios (set forth in the following table) of total Tier I capital (as
defined in the regulations) to risk-weighted assets (as defined) and Tier
I capital (as defined) to average assets (as defined). Management
believes, as of December 31, 2006 and 2005, that the Corporation and the
Bank met all capital adequacy requirements to which they are subject.
35
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 17 - REGULATORY MATTERS (CONTINUED)
As of December 31, 2006, the most recent notification from the Bank's
primary regulator categorized the Bank as well-capitalized under the
regulatory framework for prompt corrective action. To be categorized as
well-capitalized, an institution must maintain minimum total risk-based,
Tier I risked-based, and Tier I leverage ratios as set forth in the
following tables. There are no conditions or events since the notification
that management believes have changed the Bank's category. The
Corporation's and the Bank's actual capital amounts and ratios as of
December 31, 2006 and 2005 are also presented in the table.
For Capital To Be Well-
Actual Adequacy Purposes capitalized
------------------ -------------------- -----------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
As of December 31, 2006:
Total capital
(to risk-weighted assets)
PSB Group, Inc. $ 44,346 11.22% $ 31,600 > 8.0% N/A > N/A
--- ---
Peoples State Bank $ 44,758 11.32% $ 31,600 > 8.0% $ 39,500 > 10.0%
--- ---
Tier I capital
(to risk-weighted assets)
PSB Group, Inc. $ 40,089 10.14% $ 15,800 > 4.0% N/A > N/A
--- ---
Peoples State Bank $ 40,501 10.25% $ 15,800 > 4.0% $ 23,700 > 6.0%
--- ---
Tier I capital
(to average assets)
PSB Group, Inc. $ 40,089 8.21% $ 19,500 > 4.0% N/A > N/A
--- ---
Peoples State Bank $ 40,501 8.30% $ 19,500 > 4.0% $ 24,400 > 5.0%
--- ---
As of December 31, 2005:
Total capital
(to risk-weighted assets)
PSB Group, Inc. $ 43,001 11.74% $ 29,300 > 8.0% N/A > N/A
--- ---
Peoples State Bank $ 43,259 11.81% $ 29,300 > 8.0% $ 36,600 > 10.0%
--- ---
Tier I capital
(to risk-weighted assets)
PSB Group, Inc. $ 39,305 10.73% $ 14,700 > 4.0% N/A > N/A
--- ---
Peoples State Bank $ 39,563 10.80% $ 14,700 > 4.0% $ 22,000 > 6.0%
--- ---
Tier I capital
(to average assets)
PSB Group, Inc. $ 39,305 8.07% $ 19,500 > 4.0% N/A > N/A
--- ---
Peoples State Bank $ 39,563 8.13% $ 19,500 > 4.0% $ 24,300 > 5.0%
--- ---
36
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 18 - CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY
The following represents the condensed financial statements of PSB Group,
Inc. (the "Parent") only. The Parent-only financial information should be
read in conjunction with the Corporation's consolidated financial
statements.
The condensed balance sheet at December 31 is as follows (000s omitted):
2006 2005
---- ----
ASSETS
Cash at subsidiary bank $ 673 $ 816
Investment in subsidiaries 44,478 43,258
Other 296 222
------- -------
Total assets $45,447 $44,296
======= =======
LIABILITIES
Borrowings - ESOP $ 744 $ 770
Deferred Compensation 457 346
------- -------
Total liabilities $ 1,201 $ 1,116
STOCKHOLDERS' EQUITY $44,246 $43,180
------- -------
LIABILITIES AND STOCKHOLDERS' EQUITY $45,447 $44,296
======= =======
37
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 18 - CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY (CONTINUED)
The condensed statement of operations for the years ended December 31, 2006,
2005 and 2004 is as follows (000s omitted):
2006 2005 2004
---- ---- ----
Operating income - dividends from subsidiaries $ 2,150 $ 2,300 $ 1,050
Operating expense (223) (230) (234)
-------- -------- --------
Income - Before income taxes and equity in
undistributed income of subsidiaries 1,927 2,070 816
Income tax benefit 76 78 80
-------- -------- --------
Income - Before equity in undistibuted
income of subsidiaries 2,003 2,148 896
Equity in undistributed income of subsidiaries 885 1,857 3,322
-------- -------- --------
Net income $ 2,888 $ 4,005 $ 4,218
======== ======== ========
38
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 18 - CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY (CONTINUED)
The condensed statement of cash flows for the years ended December 31,
2006, 2005 and 2004 is as follows (000s omitted):
2006 2005 2004
------- ------- -------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 2,888 $ 4,005 $ 4,218
Adjustments to reconcile net income to net cash
from operating activities:
Depreciation and amortization -- 2 --
Equity in undistributed income
of subsidiaries (885) (1,857) (3,323)
Net change in other assets (74) (77) (78)
Net change in other liabilities 111 346 --
------- ------- -------
Net cash provided by
operating activities 2,040 2,419 817
CASH FLOWS FROM INVESTING ACTIVITIES -
Investment in subsidiaries -- (50) --
CASH FLOWS FROM FINANCING ACTIVITIES -
Cash dividends (2,183) (2,133) (1,991)
------- ------- -------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS (143) 236 (1,174)
CASH AND CASH EQUIVALENTS - Beginning of year 816 580 1,754
------- ------- -------
CASH AND CASH EQUIVALENTS - End of year $ 673 $ 816 $ 580
======= ======= =======
39
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 19 -- SUMMARY OF QUARTERLY FINANCIAL STATEMENTS (UNAUDITED)
The following quarterly financial information is unaudited, however, in the
opinion of management, the information reflects all adjustments which are
necessary for the fair presentation of the results of operations for the periods
presented.
YEAR ENDED DECEMBER 31, 2006
---------------------------------------------------
1ST QTR 2ND QTR 3RD QTR 4TH QTR
--------- --------- --------- ---------
Interest income $ 7,603 $ 7,923 $ 8,253 $ 8,280
Interest expense 3,019 3,267 3,469 3,436
--------- ---------- ---------- ----------
Net interest income 4,584 4,656 4,784 4,844
Provision for loan losses 188 291 605 755
--------- ---------- ---------- ----------
Net interest income after
provision for loan losses 4,396 4,365 4,179 4,089
Non-interest income 1,322 1,351 1,296 1,034
Non-interest expense 4,765 4,454 4,478 4,553
--------- ---------- ---------- ----------
Income before income taxes 953 1,262 997 570
Income Tax 218 324 245 107
--------- ---------- ---------- ----------
Net Income $ 735 $ 938 $ 752 $ 463
========= ========== ========== ==========
Earnings per share:
Basic $ 0.24 $ 0.31 $ 0.25 $ 0.15
Diluted $ 0.24 $ 0.31 $ 0.25 $ 0.15
Cash dividends declared per share $ 0.18 $ 0.18 $ 0.18 $ 0.18
40
PSB GROUP, INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005, AND 2004
NOTE 19 -- SUMMARY OF QUARTERLY FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
YEAR ENDED DECEMBER 31, 2005
---------------------------------------------------
1ST QTR 2ND QTR 3RD QTR 4TH QTR
--------- --------- --------- ---------
Interest income $ 6,292 $ 6,680 $ 7,106 $ 7,440
Interest expense 1,901 2,185 2,488 2,795
--------- ---------- ---------- ----------
Net interest income 4,391 4,495 4,618 4,645
Provision for loan losses 404 145 644 361
--------- ---------- ---------- ----------
Net interest income after
provision for loan losses 3,987 4,350 3,974 4,284
Non-interest income 1,449 1,612 1,692 1,536
Non-interest expense 4,186 4,120 4,200 4,866
--------- ---------- ---------- ----------
Income before income taxes 1,250 1,842 1,466 954
Income Tax 363 560 420 164
--------- ---------- ---------- ----------
Net Income $ 887 $ 1,282 $ 1,046 $ 790
========= ========== ========== ==========
Earnings per share:
Basic $ 0.29 $ 0.42 $ 0.35 $ 0.26
Diluted $ 0.29 $ 0.42 $ 0.35 $ 0.26
Cash dividends declared per share $ 0.17 $ 0.17 $ 0.18 $ 0.18
41
PSB GROUP, INC.
---------------------------
MANAGEMENT FINANCIAL REPORT
DECEMBER 31, 2006
TABLE OF CONTENTS
Selected Financial Information .......................................... 43
Management's Discussion and Analysis .................................... 44-45
Market Information ...................................................... 56
Performance Graph ....................................................... 57
INFORMATION CONCERNING FORWARD-LOOKING STATEMENTS
Statements contained in this report which are not historical facts are
"forward-looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These
statements involve important known and unknown risks, uncertainties and other
factors and can be identified by phrases using "estimate," "anticipate,"
"believe," "project," "expect," "intend," "predict," "potential," "future,"
"may," "should" and similar expressions or words. Such forward-looking
statements are subject to risk and uncertainties which could cause actual
results to differ materially from those projected. Such risks and uncertainties
include potential changes in interest rates, competitive factors in the
financial services industry, general economic conditions, the effect of new
legislation and other risks detailed in documents file by the Company with the
Securities and Exchange Commission from time to time.
42
PSB GROUP, INC.
================================================================================
SELECTED FINANCIAL INFORMATION
FOR THE YEARS ENDED DECEMBER 31
--------------------------------------------------------------
(Dollars in Thousands)
2006 2005 2004 2003 2002
---------- ---------- ---------- ---------- ----------
SUMMARY OF INCOME
Interest income 32,059 27,518 22,633 22,096 24,421
Interest expense 13,191 9,369 5,831 5,463 6,816
---------- ---------- ---------- ---------- ----------
Net Interest income 18,868 18,149 16,802 16,633 17,605
Provision (credit) for possible loan losses 1,839 1,554 1,200 -- (800)
---------- ---------- ---------- ---------- ----------
Net interest income after provision for
possible loan losses 17,029 16,595 15,602 16,633 18,405
Non-interest income 5,003 6,289 5,826 6,035 4,668
Non-interest expense 18,250 17,372 15,647 16,998 15,734
---------- ---------- ---------- ---------- ----------
Income before income tax expense 3,782 5,512 5,781 5,670 7,339
Income tax expense 894 1,507 1,563 1,457 2,050
---------- ---------- ---------- ---------- ----------
Net income 2,888 4,005 4,218 4,213 5,289
========== ========== ========== ========== ==========
PER SHARE DATA
Basic earnings per common share 0.95 1.32 1.39 1.29 1.60
Diluted earnings per common share 0.95 1.32 1.39 1.29 1.60
Cash dividends 0.72 0.70 0.66 0.61 0.67
Period end book value per common share 14.58 14.25 14.19 13.54 13.75
Weighted average number of common
shares outstanding 3,031,618 3,025,727 3,029,152 3,258,672 3,305,601
SELECTED BALANCES (AT PERIOD END)
Securities 63,748 93,645 91,125 47,619 87,498
Loans, net 394,087 361,423 335,280 322,375 280,970
Total assets 497,234 495,011 461,342 401,511 402,589
Total deposits 433,960 424,658 411,132 350,988 340,780
Borrowings 17,619 26,210 5,000 7,420 14,210
Total stockholders' equity 44,246 42,950 42,981 41,011 45,473
SELECTED RATIOS
Return on average assets 0.58% 0.83% 0.99% 1.04% 1.33%
Return on average total stockholders' equity 6.65% 9.22% 10.08% 9.30% 12.06%
Average equity to average assets 8.74% 8.97% 9.79% 11.23% 11.05%
Net interest margin (1) 4.04% 3.99% 4.19% 4.41% 4.74%
Efficiency ratio (2) 76.45% 71.09% 69.15% 74.99% 70.64%
Dividend payout ratio (3) 76% 53% 47% 47% 41%
ASSET QUALITY RATIOS
Allowance for possible loan losses to:
Ending total loans 1.07% 1.00% 1.00% 1.19% 1.62%
Non-performing assets 53.03% 81.27% 84.62% 87.11% 110.73%
Non-performing assets to ending total loans 2.02% 1.24% 1.18% 1.37% 1.46%
Net loan charge-offs to average loans 0.33% 0.36% 0.49% 0.24% 0.06%
CAPITAL RATIOS
Total capital to risk-weighted assets 11.22% 11.74% 12.54% 13.27% 15.58%
Tier 1 capital to risk-weighted assets 10.14% 10.73% 11.54% 12.02% 14.32%
Tier 1 capital to average assets 8.21% 8.07% 8.62% 9.13% 10.20%
(1) Net interest margin is net interest income divided by average earning
assets.
(2) Efficiency ratio is calculated by dividing non-interest expense by the sum
of net interest income plus non-interest income.
(3) Dividend payout ratio is calculated by dividing dividends paid during the
period by net income for the period.
43
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
OVERVIEW. PSB Group, Inc. (the "Corporation") was formed on February 28,
2003 as a bank holding company for the purpose of owning Peoples State Bank (the
"Bank") pursuant to a plan of reorganization adopted by the Bank and its
stockholders. Pursuant to the reorganization, each share of Peoples State Bank
stock held by existing stockholders of the Bank was exchanged for three shares
of common stock of PSB Group, Inc. The reorganization had no consolidated
financial statement impact. Share amounts for all prior periods presented have
been restated to reflect the reorganization.
The consolidated financial statements include the accounts of PSB Group,
Inc. and its wholly owned subsidiaries, Peoples State Bank and PSB Capital, Inc.
PSB Insurance Agency, Inc. and Universal Mortgage Company are wholly owned
subsidiaries of Peoples State Bank. PSB Capital, Inc. was formed in October,
2004. Through December 31, 2006, there had been no business transacted by PSB
Capital, Inc. All significant inter-company transactions are eliminated in
consolidation.
Net income is derived primarily from net interest income, which is the
difference between interest earned on the Bank's loan and investment portfolios
and its cost of funds, primarily interest paid on deposits and borrowings. The
volume of, and yields earned, on loans and investments and the volume of, and
rates paid, on deposits and borrowings, determine net interest income.
FINANCIAL CONDITION. Assets consist of loans, investment securities, bank
premises and equipment, cash and other operating assets. At December 31, 2006,
the Corporation had assets totaling $497.2 million compared to $495 million at
December 31, 2005. Total assets increased $2.2 million, or .4% during 2006. Net
loans increased $32.7 million in 2006. Most of this increase was funded by a
$29.9 million decrease in our investment portfolio as we redeployed funds to
higher yielding loans. Loans held for sale decreased $2.5 million compared to
December 31, 2005, as our mortgage origination activities slowed at the end of
2006. We were able to increase total deposits over the year by $9.3 million. We
used this growth in deposits to pay-down our long-term debt by $5 million and
our short-term borrowings by $3.6 million. Non-interest bearing deposits
increased $4.9 million, certificates of deposit increased $30.5 million and Now
balances increased $2.7 million. The increase in these deposit products was
partially offset by a $21.1 million decrease in savings balances and a $7.8
million decrease in money market demand balances as customers traded the
liquidity of savings and money market demand balances for the higher rates of
certificates of deposit.
Loans -- Loans consist primarily of commercial, residential mortgage, and
consumer products offered in the communities served by the Bank. Total loans,
net of the allowance for loan losses, at December 31, 2006, increased to $394.1
million, up $32.7 million, or 9% for the year. Over the last four years, total
loans have grown at an average of approximately 9% per year. We expect this
growth to continue in the foreseeable future.
Commercial and construction loans increased from $243.5 million to $284.5
million, an increase of $41 million or 16.8% during 2006. During 2005,
commercial and construction loans increased $36 million or 17.3% from $207.5
million at December 31, 2004. The continued increase in 2006 was primarily the
result of aggressive marketing, the continued presence of the Bank in its market
areas and the desire of customers to deal with a community bank.
1-4 family residential mortgage loan balances totaled $82.2 and $88.7
million as of December 31, 2006 and 2005, respectively. Residential mortgage
loan balances decreased $6.6 million or 7.4% during 2006. 1-4 family residential
loans decreased $6.2 million or 6.5% during 2005. The decrease over the past two
years was primarily the result of management's decision to allow fixed rate
mortgages to run-off and replace them with adjustable rate loans, as well as the
slowing demand in our markets.
44
Consumer loans decreased $1.5 million or 12.3% in 2006 from $12.2 million
to $10.7 million. This decrease was partly the result of management's decision
to let our indirect loan portfolio continue to run off during 2006.
The following table shows the details of the Bank's loan portfolio as of
the dates indicated. Mortgages on real estate include 1-4 family residential,
commercial real estate, construction loans, second mortgages and equity lines of
credit (see Note 4 to the financial statements). Loan balances are shown net of
unearned income.
<Table>
<Caption>
December 31,
--------------------------------------------------------
2006 2005 2004 2003 2002
-------- -------- -------- -------- --------
(in thousands)
Mortgages on real estate $335,809 $306,586 $272,756 $245,520 $197,540
Commercial 51,827 46,294 47,608 53,725 63,330
Consumer 10,708 12,213 18,310 27,017 24,732
-------- -------- -------- -------- --------
Total Loans $398,344 $365,093 $338,674 $326,262 $285,602
======== ======== ======== ======== ========
</Table>
The following table shows the loans by category as of December 31, 2006
and the period in which they mature. Loan balances are shown net of unearned
income.
<Table>
<Caption>
Loans maturing
One year After More than one year
One year to five five --------------------
or less years years Total Fixed Variable
-------- -------- -------- -------- -------- --------
(in thousands)
Mortgages on real estate $ 59,053 $216,636 $ 60,120 $335,809 $190,181 $ 86,575
Commercial 14,224 29,834 7,769 51,827 24,278 13,324
Consumer 577 6,239 3,892 10,708 9,897 235
-------- -------- -------- -------- -------- --------
Total Loans $ 73,854 $252,709 $ 71,781 $398,344 $224,356 $100,134
======== ======== ======== ======== ======== ========
</Table>
In 2006, as the result of a $33.3 million increase in total loans and net
charge-offs of $1.3 million, management recorded a $1.8 million loan loss
provision in order to keep the allowance at an appropriate level. This compares
to a $26.4 million increase in loans, $1.3 million in net charge-offs and a $1.6
million provision in 2005. The Bank's investment in impaired loans was $4.9
million at December 31, 2006 compared to $4.4 million at December 31, 2005. The
Bank's allowance for possible loan losses to impaired loans was at a ratio of
87% and 83% as of December 31, 2006 and 2005, respectively. At December 31,
2006, the allowance for possible loan losses totaled $4.3 million, or 1.07% of
total outstanding loans. This compares to a $3.7 million allowance at December
31, 2005 that was 1.0% of total outstanding loans.
45
The following table shows the detail of non-performing loans as of the dates
indicated.
<Table>
<Caption>
2006 2005 2004 2003 2002
------ ------ ------ ------ ------
(in thousands)
Nonaccrual loans $3,069 $1,651 $2,297 $1,496 $2,746
Loans past due 90 or more days 4,148 2,044 717 1,189 306
Renegotiated loans 486 515 586 808 907
------ ------ ------ ------ ------
Total non-performing loans 7,703 4,210 3,600 3,493 3,959
Other real estate owned 325 306 411 969 224
------ ------ ------ ------ ------
Total non-performing assets $8,028 $4,516 $4,011 $4,462 $4,183
====== ====== ====== ====== ======
Total non-performing loans to total loans 1.93% 1.15% 1.06% 1.07% 1.39%
Total non-performing assets to total assets 1.61% 0.91% 0.87% 1.11% 1.03%
</Table>
The Bank places loans in non-accrual status when, in the opinion of
management, uncertainty exists as to the ultimate collection of principal and
interest. The Bank has no foreign loans. Management knows of no loans which have
not been disclosed above which cause it to have doubts as to the ability of such
borrowers to comply with the contractual loan terms, or which may have a
material effect on the Bank's balance sheet or results from operations. Total
non-performing loans increased $3.5 million in 2006 to $7.7 million. We believe
this increase is due mainly to the poor overall economic conditions in the state
of Michigan. Other real estate increased $19 thousand in 2006. As of December
31, 2006, other real estate consists of four properties. Other real estate is
carried on the books at the lower of, fair value less the estimated cost to
sell, or, the carrying amount of the loan at the date of foreclosure.
The following table shows the allocation of the allowance for loan losses
by specific category as of the dates indicated.
<Table>
<Caption>
December 31,
-----------------------------------------------------------------------------------------------------------------
2006 2005 2004 2003 2002
--------------------- --------------------- --------------------- --------------------- ---------------------
(in thousands)
Percent of Percent of Percent of Percent of Percent of
Loans in Loans in Loans in Loans in Loans in
Each Each Each Each Each
Category Category Category Category Category
Allocated to Total Allocated to Total Allocated to Total Allocated to Total Allocated to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
--------- ---------- --------- ---------- --------- ---------- --------- ---------- --------- ----------
Mortgages $716 84.30% $609 84.09% $839 80.50% $121 75.30% $396 69.60%
Commercial 2,895 13.01% 2,221 12.56% 1,478 14.10% 1,971 16.50% 2,476 21.90%
Consumer 528 2.69% 690 3.35% 551 5.40% 1,134 8.20% 1,345 8.50%
Unallocated 118 n/a 150 n/a 526 n/a 661 n/a 415 n/a
--------- ---------- --------- ---------- --------- ---------- --------- ---------- --------- ----------
Total $4,257 100.00% $3,670 100.00% $3,394 100.00% $3,887 100.00% $4,632 100.00%
</Table>
Investment securities -- Investment securities totaled $63.7 million as of
December 31, 2006 versus $93.6 million as of December 31, 2005, a decrease of
$29.9 million. Each of these figures includes adjustments for fluctuations in
market values on available for sale securities (see Note 3 to the financial
statements). During 2006, the Bank sold certain securities that generated $221
thousand in securities losses. This compares to $16 thousand lost on the sale of
securities in 2005.
46
The following table shows the amortized cost and the fair market value of
the Bank's security portfolio as of the dates indicated.
<Table>
<Caption>
December 31,
-----------------------------------------------
2006 2005
--------------------- ---------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- ------- --------- -------
Available-for-sale securities: (in thousands)
U. S. treasury securities and
obligations of other U.S.
government agencies $34,203 $33,573 $60,428 $59,245
Obligations of states and
political subdivisions 27,855 27,668 31,714 31,680
Mortgage-backed securities -- -- -- --
Corporate debt securities 1,000 975 1,000 985
Equities 1,532 1,532 1,735 1,735
------- ------- ------- -------
Total available-for-sale
securities 64,590 63,748 94,877 93,645
======= ======= ======= =======
</Table>
Maturity of the investment securities (at par value) and the weighted
average yield for each range of maturities as of December 31, 2006 are shown in
the table below. The yields on municipal securities are on a tax equivalent.
basis.
<Table>
<Caption>
From one to From five to After ten
One year or less five years ten years years Equity Total
---------------- ---------------- ---------------- ---------------- ---------------- ----------------
Dollar Yield Dollar Yield Dollar Yield Dollar Yield Dollar Yield Dollar Yield
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
(in thousands)
Obligations
of U.S.
government
agencies $ -- 0.00% $28,147 4.18% $ 6,104 5.30% $ -- -- $ -- -- $34,251 4.38%
Obligations
of states
and political
subdivisions 430 6.71% 2,670 5.59% 17,835 5.55% 6,795 5.74% -- -- 27,730 5.62%
Mortgage-backed
securities -- -- -- -- -- -- -- -- -- -- -- --
Corporate
debt
securities -- -- -- -- -- -- 1,000 8.59% -- -- 1,000 8.59%
Equity
securities
& others -- -- -- -- -- -- -- -- 1,532 4.86% 1,532 4.86%
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
Total $ 430 6.71% $30,817 4.30% $23,939 5.49% $ 7,795 6.11% $ 1,532 4.86% $64,513 4.99%
======= ======= ======= ======= ======= ======= ======= ======= ======= ======= ======= =======
</Table>
Deposits -- The Bank depends primarily upon customer deposits and
short-term borrowing for funds with which to conduct its business. Bank deposits
consist primarily of retail deposit products including checking and savings
accounts from individuals and businesses, NOW accounts, money market demand
accounts and time deposit accounts (CDs). Deposits totaled $434.0 million and
$424.7 million at December 31, 2006 and 2005, respectively, an increase of $9.3
million, or 2.2%. Certificates of deposit increased the most ($30.5 million) in
2006 followed by non-interest bearing demand ($4.9 million) and NOW accounts
($2.7 million). These increases were partially offset by a $21.1 million
decrease in savings balances and a $7.8 million decrease in money market
balances. Savings deposits increased the most ($22.8 million) in 2005 followed
by certificates of deposit ($18.3 million). These increases were partially
offset by a $22.8 million decrease in money market balances, a $3 million
decrease in non-interest bearing demand and a $1.7 million decrease in NOW
balances.
47
Management relies on lower-interest bearing demand and savings deposit
accounts to fund a significant portion of the Bank's operations. These accounts
greatly improve net interest margins because of the lower interest rates
expected by the customers. Non-interest bearing demand deposits plus the lower
rate savings balances (excludes Prime Savings Plus) totaled $105.5 million at
December 31, 2006.
The following table shows the details of the Bank's deposit balances as of
the dates indicated.
<Table>
<Caption>
December 31,
------------------------------------
2006 2005 2004
-------- -------- --------
(in thousands)
Noninterest bearing
demand deposits $ 59,320 $ 54,445 $ 57,479
NOW accounts 35,872 33,143 34,868
Savings 124,676 145,753 122,947
Money market demand 26,300 34,073 56,898
Time under $100,000 97,958 90,326 75,081
Time over $100,000 89,834 66,918 63,859
-------- -------- --------
Total deposits $433,960 $424,658 $411,132
======== ======== ========
</Table>
The following table shows the maturity breakdown of the Bank's time
deposits over $100,000 as of December 31, 2006.
<Table>
<Caption>
December 31, 2006
-----------------
Time Deposits Over $100,000 (in thousands)
Maturing in:
Less than three months $ 45,428
Three through six months 13,849
Six months through one year 20,322
Over one year 10,235
-----------------
Total deposits $ 89,834
=================
</Table>
Borrowings -- The Bank had overnight federal funds borrowings of
$16,875,000 and $744,000 in ESOP notes payable outstanding as of December 31,
2006. This compares to $5,000,000 in long-term FHLB advances, $770,000 in ESOP
notes payable and $20,440,000 in short-term borrowings outstanding at December
31, 2005.
48
The following table shows the balance, term and interest rate of the
Bank's borrowings:
<Table>
<Caption>
Outstanding as of
----------------------------------
12/31/2006 12/31/2005
---------------- ---------------
Year (dollars in thousands)
Type Matures Dollar Yield Dollar Yield
- ------------------------ --------- -------- ----- ------- -----
Federal Funds Purchased overnight $ 16,875 5.27% $ 7,940 4.25%
FHLB Advance 1/30/2006 $ -- 0.00% $ 5,000 4.38%
FHLB Advance 2/28/2006 $ -- 0.00% $ 5,000 4.52%
FHLB Advance 3/30/2006 $ -- 0.00% $ 2,500 4.59%
-------- -------
Total Short-term $ 16,875 $20,440
======== =======
FHLB Advance 2011 $ -- 0.00% $ 5,000 4.43%
ESOP Note Payable 2011 $ 744 7.10% $ 770 6.20%
-------- -------
Total long-term $ 744 $ 5,770
======== =======
</Table>
Contractual Obligations - The Corporation is party to certain contractual
financial obligations, including the repayment of debt and operating lease
payments. These future financial obligations are presented below:
<Table>
<Caption>
Payments due - as of December 31, 2006
---------------------------------------------------------
(in thousands)
0-12 1-3 4-5 After
Months Years Years 5 Years Total
------- ------ ------ ------ -------
Operating Leases $ 702 $1,051 $ 864 $1,498 $ 4,115
Federal Funds $16,875 $ -- $ -- $ -- $16,875
ESOP Note Payable $ 154 $ 308 $ 282 $ -- $ 744
FHLB Advances $ -- $ -- $ -- $ -- $ --
------- ------ ------ ------ -------
Total $17,731 $1,359 $1,146 $1,498 $21,734
======= ====== ====== ====== =======
</Table>
Off Balance Sheet Obligations -- At December 31, 2006, the Corporation had
commitments to extend credit of $78.9 million and a $5.4 million obligation
under a stand-by letter of credit.
RESULTS OF OPERATIONS. Net income for the year ended December 31, 2006 was
$2.9 million, compared to $4.0 million earned in 2005. Net interest income
increased $719 thousand in 2006 and non-interest income decreased $1.3 million.
The $1.8 million provision for loan losses compares to a $1.6 million provision
in 2005. In addition to the increased provision and drop in non-interest income,
2006 net income was hurt by an $878 thousand increase in non-interest expense.
Interest and fee income on loans increased approximately $4.7 million in
2006. This increase was the result of a $32.1 million increase in average loans
in 2006, plus a higher interest rate environment.
Interest income on investments decreased $120 thousand in 2006. This
decrease was due to a large extent to a $17.4 million decrease in average
investments in 2006. Higher yields on the portfolio in 2006 allowed us to
mitigate the drop in investment income. During 2006 we allowed our investment
portfolio to pay-down as we redeployed some of these funds to higher yielding
loans. In addition, we restructured the portfolio to increase our average
investment in tax-free municipal securities and help reduce our overall income
tax expense.
49
44
Interest expense increased $3.8 million in 2006. Of this increase,
approximately $3.1 million is due to increased balances and rising rates on our
certificates of deposit. Average CD balances in 2006 were $40.1 million higher
than the 2005 average. Interest expense on our Prime Savings Plus product was
$929 thousand higher in 2006 than 2005. This increase was due in part to higher
average balances in 2006, but mainly to higher rates paid in 2006. These
increases were partially offset by a drop in interest expense on our money
market balances. Our average money market balances decreased $12.5 million from
the 2005 average as customers seemed willing to trade in the liquidity of money
market accounts for the higher rates on the certificates of deposit. Interest
expense on our borrowings dropped in 2006. Interest on our short-term debt
decreased $107 thousand due mainly to lower average federal funds borrowings in
2006. Interest on our long-term debt dropped $154 thousand due to the fact that
we paid our $5,000,000 long-term advance from the Federal Home Loan Bank in
April 2006.
The following table presents the Bank's consolidated balance of earning
assets, interest bearing liabilities, the amount of interest income or interest
expense attributable to each category, the average yield or rate for each
category and the net interest margin for the periods indicated. Interest income
is stated on a non-tax equivalent basis. Non-accrual loan balances are included
in the loan totals.
Year ended December 31,
----------------------------------------------------------------------------------------------------
2006 2005 2004
---- ---- ----
Average Average Average
Balance Interest Rate Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ---- ------- -------- ----
(dollars in thousands)
Federal funds sold $ 1,311 $ 63 4.81% $ 1,107 $ 28 2.53% $ 2,845 $ 51 1.79%
Investment securities
- - taxable $ 52,846 $ 2,159 4.09% $ 78,193 $ 2,676 3.42% $ 37,955 $ 1,183 3.12%
Investment securities
- - tax-exempt $ 31,063 $ 1,234 3.97% $ 23,319 $ 872 3.74% $ 17,866 $ 619 3.46%
Loans, net of unearned
income $381,569 $28,603 7.50% $352,643 $23,942 6.79% $342,809 $20,780 6.06%
-------- ------- -------- ------- -------- -------
Total earning assets $466,789 $32,059 6.87% $455,262 $27,518 6.04% $401,475 $22,633 5.64%
======== ======= ======== ======= ======== =======
Interest bearing deposits $385,217 $12,860 3.34% $363,812 $ 8,777 2.41% $314,120 $ 5,546 1.77%
Funds borrowed $ 7,384 $ 331 4.48% $ 14,346 $ 592 4.13% $ 9,503 $ 285 3.00%
-------- ------- -------- ------- -------- -------
Total interest bearing
liabilities $392,601 $13,191 3.36% $378,158 $ 9,369 2.48% $323,623 $ 5,831 1.80%
======== ------- ======== ------- ======== -------
Net interest income $18,868 $18,149 $16,802
======= ======= =======
Net interest spread 3.51% 3.56% 3.84%
Net interest margin 4.04% 3.99% 4.19%
The following table shows the dollar amount of changes in interest
income for each major category of interest earning asset, interest expense for
each major category of interest bearing liability and the amount of the change
attributable to changes in average balances (volume) or average interest rates
for the periods shown.
2006 compared to 2005 2005 compared to 2004
------------------------------------------- -------------------------------------------
Change Change Change Change Change Change
due to due to due to Total due to due to due to Total
Rate Volume Mix Change Rate Volume Mix Change
---- ------ --- ------ ---- ------ --- ------
(in thousands)
Federal funds sold $ 25 $ 5 $ 5 $ 35 $ 21 $ (31) $ (13) $ (23)
Investment securities - taxable $ 524 $ (867) $(174) $ (517) $ 113 $ 1,255 $ 125 $ 1,493
Investment securities - tax-exempt $ 54 $ 290 $ 18 $ 362 $ 50 $ 189 $ 14 $ 253
Loans, net of unearned income $ 2,504 $ 1,964 $ 193 $ 4,661 $2,503 $ 596 $ 63 $ 3,162
------- ------- ----- ------- ------ ------- ----- -------
Total interest income $ 3,107 $ 1,392 $ 42 $ 4,541 $2,687 $ 2,009 $ 189 $ 4,885
------- ------- ----- ------- ------ ------- ----- -------
Interest bearing deposits $ 3,374 $ 516 $ 193 $ 4,083 $2,010 $ 880 $ 341 $ 3,231
Funds borrowed $ 50 $ (288) $ (23) $ (261) $ 107 $ 145 $ 55 $ 307
------- ------- ----- ------- ------ ------- ----- -------
Total interest expense $ 3,424 $ 228 $ 170 $ 3,822 $2,117 $ 1,025 $ 396 $ 3,538
------- ------- ----- ------- ------ ------- ----- -------
Net interest income $ (317) $ 1,164 $(128) $ 719 $ 570 $ 984 $(207) $ 1,347
======= ======= ===== ======= ====== ======= ===== =======
50
Management expects market interest rates to remain relatively flat for
the first six months of 2007, then drop slightly during the second half of the
year. A change in interest rates, either rising or falling, is not expected to
have a significant impact on the Bank's net interest income. The Bank's
Asset/Liability Committee meets regularly to, among other things, monitor
interest rate fluctuations and to change product mix and pricing in an effort to
provide steady growth in net interest income.
The following table presents the changes in the allowance for loan losses during
the periods indicated.
December 31,
-------------------------------------------------------
2006 2005 2004 2003 2002
---- ---- ---- ---- ----
(in thousands)
Balance - Beginning of year $ 3,670 $ 3,394 $ 3,887 $ 4,632 $ 5,585
Loans charged off:
Mortgages on real estate (205) (536) (287) (175) (32)
Commercial (1,229) (702) (1,089) (145) (782)
Consumer (282) (642) (942) (1,233) (1,348)
------- ------- ------- ------- -------
Total Charge offs (1,716) (1,880) (2,318) (1,553) (2,162)
Recoveries on loans previously charged off:
Mortgages on real estate -- 80 1 5 --
Commercial 241 225 315 474 1,541
Consumer 223 297 309 329 468
------- ------- ------- ------- -------
Total Recoveries 464 602 625 808 2,009
Provision for loan losses 1,839 1,554 1,200 -- (800)
------- ------- ------- ------- -------
Balance - End of year $ 4,257 $ 3,670 $ 3,394 $ 3,887 $ 4,632
======= ======= ======= ======= =======
Non-performing loans increased $3.5 million to $7.7 million at December
31, 2006 (see page 41). Of this $3.5 million increase in non-performing loans,
$2.0 million is commercial loans and $1.4 million is residential real estate. We
attribute this growth in non-performing loans to the generally poor economic
conditions in the state of Michigan. Net charge-offs remained flat in 2006 at
$1.3 million. After analysis of the allowance for loan losses, management
determined that a $1.8 million provision was necessary to keep the allowance for
loan losses at an adequate level. This compares to a $1.6 million provision in
2005 and a $1.2 million provision in 2004.
Non-interest income, which consists of service charges and other fees
of $5,003,000, $6,289,000 and $5,826,000, was recorded for the years ended
December 31, 2006, 2005 and 2004, respectively. This represents a 20% decrease
in non-interest income in 2006 compared to an 8% increase in 2005. We realized
an $104 thousand decrease in deposit service charges in 2006. We also realized a
$370 thousand drop in the gains on the sale of mortgages as our mortgage
activity slowed in 2006. We realized a $205 thousand increase in the losses on
the sale of securities in 2006 as we sold certain low yielding investments and
re-invested in higher yielding securities or loans. We also realized a $607
thousand drop in other operating income. This included a $680 thousand drop in
loan related fee income. Approximately $400 thousand of this was due to an
increase in deferred commercial loan fee income. In addition, we experienced a
$151 thousand drop in commercial loan broker fees. We also realized a $160
thousand drop in mortgage related fees as our mortgage activity slowed in 2006.
The increase in non-interest income in 2005 was due primarily to a $195 thousand
increase in the gain on the sale of mortgages and a $245 thousand increase in
commercial loan broker fees, which is included in other income. The increase in
the gain on the sale of mortgage loans was partly due to the acquisition of
three new mortgage origination offices by Universal Mortgage Company when it
acquired Nations One, an independent mortgage originator in June, 2005.
51
Non-interest expense, which includes salaries and benefits, occupancy
and other operating expenses, increased to $18.3 million in 2006 from $17.4
million in 2005, an increase of $878 thousand or 5.1%. Salary and benefits
expense increased $137 thousand in 2006. Salaries increased $226, thousand
partially due to a slight increase in FTE in 2006, but also because we had two
presidents on the payroll for approximately six months as we transitioned from
the retiring president, Robert L. Cole, to his replacement, Michael J. Tierney.
In addition, incentives expense, including stock options and stock grants,
increased $196 thousand in 2006 and the cost of hospitalization and dental
insurance increased $96 thousand. These increases in salaries and benefits were
partially offset by a $138 thousand decrease in mortgage commissions, a $31
thousand decrease in overtime and a $265 thousand decrease in commercial loan
related compensation as we deferred this expense and will recognize it over the
life of the related loans.
Occupancy costs increased $520 thousand in 2006. Of this, $339 thousand
was due to our three newest branches. Two of the three operated for a full year
in 2006 versus a partial year in 2005 and the third is our newest branch that
opened in January 2007. In addition, we realized $116 thousand in losses in
writing down the value of a bank branch and two mortgage offices that will be
closed in the near future. We also realized a $21 thousand loss on the write-off
of certain mortgage origination software that is no longer in use. We took these
write-downs/write-offs in order to better position the Corporation for the
future.
Legal and professional fees increased $70 thousand in 2006. We were
able to reduce legal expenses by approximately $80 thousand in 2006 but this was
more than offset by increased accounting/auditing expenses as we were subject to
examinations in 2006 that we were not subject to in the past, such as a Bank
Secrecy Act review.
Other operating expenses increased in $151 thousand in 2006. Of this,
advertising and marketing expenses increased $205 thousand and telephone expense
increased $75 thousand. These increases were partially offset by a $90 thousand
drop in mortgage loan expenses and a $43 thousand drop in miscellaneous losses.
Total other operating expense increased $1.8 million in 2005 over 2004.
This increase was mainly due to increased staffing brought about by the opening
of two new bank branches and the acquisition of the three new mortgage loan
production offices in 2005. A portion of this increase was also due to the
increased cost of employee benefits. Occupancy expense increased $515 thousand
in 2005, due mainly to the opening of the two new bank branches and the
acquisition of the three new mortgage production offices. The new offices
accounted for approximately $400 thousand of this increase. Another $114
thousand was the result of the write-down in the value of a branch facility that
is no longer in use, and in the process of being sold. Legal and professional
fees decreased $109 thousand during 2005 as accounting fees dropped $48 thousand
and consulting fees were reduced by $65 thousand. Other operating expenses
increased $310 thousand during 2005. This increase includes a $45 thousand
increase in stationery and supplies, a $43 thousand increase in telephone
expense, an $84 thousand increase in Michigan Single Business Tax and a $73
thousand increase in miscellaneous losses.
LIQUIDITY AND CAPITAL RESOURCES. Liquidity is the measurement of the
Bank's ability to have adequate cash or access to cash to meet financial
obligations when due, as well as to fund corporate expansion or other
activities. The Bank expects to meet its liquidity requirements through a
combination of working capital provided by operating activities, attracting
customer deposits, advances under Federal Home Loan Bank credit facilities, and
possible future periodic sales of mortgages into secondary markets. Management
believes that the Bank's cash flow will be sufficient to support its existing
operations for the foreseeable future.
Net income and depreciation and amortization continue to be the primary
sources of cash from operating activities. During 2006, net income provided $2.9
million of cash compared to $4.0 million during 2005 and $4.2 million during
2004. Depreciation and amortization was a non-cash expense totaling $1.4
52
million for the year ended December 31, 2006, $1.3 million in 2005 and $1.2
million in 2004. These non-cash items had been included in net income for
purposes of calculating the results of operations during the respective years,
and therefore are added to or subtracted from net income in determining cash
flow from operating activities.
The primary uses of cash for the Bank are the funding of customer
loans, purchase of investment securities and the repayment of customer deposits.
The Bank's primary sources of cash are customer deposits, proceeds from the
maturity or sale of investment securities, repayment of loans, and advances on
borrowings from the Federal Home Loan Bank, of which the Bank cannot exceed $26
million. During 2006, the Bank had a net cash outlay of $34.5 million from the
increase in the loan portfolio. This compares to a net cash outlay of $27.7
million in 2005 and $14.1 million in 2004.
The Bank purchased $9 million, $50 million and $74 million in
securities during 2006, 2005, and 2004, respectively. Securities sales or
maturities totaled $39.3 million, $45.7 million and $29.6 million respectively,
for each of those periods.
The Bank experienced a net increase in deposits of $9.3 million in 2006
compared to a net increase in customer deposits of $13.5 million in 2005 and a
net increase of $60.1 million in 2004. The Bank realized a net decrease in cash
of $8.6 million from the pay-down of debt in 2006, compared to generating $20.4
million through increased borrowings in 2005 and a $2.4 million net pay-down of
debt in 2004.
The Corporation had capital of $44.2 million at December 31, 2006 and
$43.2 million at December 31, 2005. Our $2.9 million in net income in 2006 was
offset by $2.2 million in cash dividends and a $257 thousand increase in the
unrealized gains/losses on available for sale securities. During 2005, capital
remained relatively flat at approximately $43 million. The $4 million in net
income in 2005 was offset by $2.1 million in cash dividends, a $900 thousand
decrease in unrealized gains/losses on available for sale securities and a $1
million repurchase of common stock. At December 31, 2006, the ratio of
stockholders' equity to total assets was 8.9% compared to 8.7% at December 31,
2005. The capital levels of the Bank and the Corporation exceed the minimum
guidelines for being considered well capitalized (see note 17 to the financial
statements). Management believes the capital levels will be adequate to, among
other things, fund banking activities for the foreseeable future.
At December 31, 2006, the Bank held cash and cash equivalents of
approximately $14 million and the entire investment portfolio of $63.7 million
was classified as available-for-sale. The amortized cost of the
available-for-sale securities exceeded the estimated market value by
approximately $800 thousand at December 31, 2006.
.
The primary impact of inflation on the Corporation's operations is
increased asset yields, deposit costs and operating overhead. Unlike most
industrial companies, virtually all of the assets and liabilities of a financial
institution are monetary in nature. As a result, interest rates generally have a
more significant impact on a financial institution's performance than they would
on non-financial companies. Although interest rates do not necessarily move in
the same direction, or to the same extent, as the prices of goods and services,
increases in inflation generally have resulted in increased interest rates. The
effects of inflation can magnify the growth of assets and if significant,
require that equity capital increase at a faster rate than would otherwise be
necessary.
53
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
To a great extent, the Corporation's operating strategies focus on
asset/liability management. The purpose of its Asset/Liability Management Policy
is to provide stable net interest income growth while both maintaining adequate
liquidity and protecting the Bank's earnings from undue interest rate risk. The
Bank follows its Asset/Liability Management Policy for controlling exposure to
interest rate risk. The Asset/Liability Management Policy is established by
Management and is approved by the Board of Directors. Because of loan
repayments, the investment securities due to mature in 2007 and available lines
of credit, management believes the Bank is sufficiently liquid.
The Asset/Liability Management Policy also is designed to maintain an
appropriate balance between rate-sensitive assets and liabilities in order to
maximize interest rate spreads. The Bank monitors the sensitivity of its assets
and liabilities with respect to changes in interest rates and maturities and
directs the allocation of its funds accordingly. The strategy of the Bank has
been to maintain, to the extent possible, a balanced position between assets and
liabilities and to place appropriate emphasis on the sensitivity of its assets.
The following table sets forth the estimated maturity or re-pricing and
the resulting interest sensitivity gap, of the Bank's interest-earning assets
and interest-bearing liabilities at December 31, 2006 and the cumulative
interest sensitivity gap at December 31, 2006. The amounts in the table are
derived from internal data of the Bank and could be significantly affected by
external factors such as changes in prepayment assumptions, early withdrawals of
deposits and competition.
Estimated Maturity or Re-pricing at December 31, 2004
-----------------------------------------------------
Three months to
Less than less than one One to five Due after
three months year years five years Total
------------ ---- ----- ---------- -----
Interest earning assets:
Securities (1) (2) $ 1,758 $ 883 $ 16,962 $ 44,145 $ 63,748
Loans 119,260 22,529 193,230 63,325 398,344
--------- --------- --------- -------- --------
Total interest earning assets $ 121,018 $ 23,412 $ 210,192 $107,470 $462,092
========= ========= ========= ======== ========
Interest bearing liabilities:
Savings and interest bearing
demand deposits $ 186,848 $ -- $ -- $ -- $186,848
Time deposits 70,142 88,336 29,314 -- 187,792
Short term borrowings 16,875 -- -- -- 16,875
Long term borrowings 154 -- 590 -- 744
--------- --------- --------- -------- --------
Total interest bearing liabilites $ 274,019 $ 88,336 $ 29,904 $- $392,259
========= ========= ========= ======== ========
Interest rate sensitivity gap - current $(153,001) $ (64,924) $ 180,288 $107,470 $ 69,833
========= ========= ========= ======== ========
Interest rate sensitivity gap - cumulative $(153,001) $(217,925) $ (37,637) $ 69,833
========= ========= ========= ========
Cumulative interest rate sensitivity
gap as a percent of total assets -30.77% -43.83% -7.57% 14.04%
========= ========= ========= ========
- ----------
(1) Equity investments have been placed in the 0-3 month category.
(2) Re-pricing is based on anticipated call dates, and may vary from
contractual maturities.
Certain shortcomings are inherent in the method of analysis presented in the
foregoing table. For example, although certain assets and liabilities may have
similar maturities and periods to re-pricing, they may react differently to
changes in market interest rates. Also, interest rates on assets and liabilities
may fluctuate in advance of changes in market interest rates, while interest
rates on other assets and liabilities may follow
54
changes in market interest rates. Additionally, certain assets have features
that restrict changes in the interest rates of such assets, both on a short-term
basis and over the lives of such assets. The gap table presented above is based
on stated maturities and next re-pricing dates and does not take into account
prepayment or withdrawal assumptions. In the event of a change in market
interest rates, prepayments and early withdrawals could cause significant
deviation from the stated maturities and re-pricings.
According to the traditional banking industry static gap table set
forth above, the Bank was liability sensitive with a negative cumulative
one-year gap of $217.9 million or 47% of interest-earning assets at December 31,
2006. In general, based upon this analysis, and the Bank's mix of deposits, loan
and investments, increases in interest rates would be expected to result in a
decrease in the Bank's net interest margin. However, a different tool, an
interest sensitivity model, is the primary tool used in assessing interest rate
risk, by estimating the effect that specific upward and downward changes in
interest rates would have on pre-tax net interest income. Key assumptions used
in the model include prepayment speeds on mortgage related assets; changes in
market conditions, loan volumes and pricing; and management's determination of
core deposit sensitivity. These assumptions are inherently uncertain and, as a
result, the model can not precisely predict the impact of higher or lower
interest rates on net interest income. Actual results will differ from simulated
results due to timing, magnitude and frequency of interest rate changes and
changes in other market conditions.
Based on the December 31, 2006 simulation, the Company is in a neutral
position relative to interest rate changes. Based on the position of the balance
sheet and management's assumptions concerning core deposit sensitivity and other
assumptions, net interest income will not be significantly impacted whether
rates rise or fall.
APPLICATION OF CRITICAL ACCOUNTING POLICIES
ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses is calculated
with the objective of maintaining a reserve sufficient to absorb estimated
probable loan losses. Loan losses are charged against the allowance when
management believes loan balances are uncollectible. Subsequent recoveries, if
any, are credited to the allowance. Management's determination of the adequacy
of the allowance is based on periodic evaluations of the loan portfolio and
other relevant factors. This evaluation is inherently subjective as it requires
an estimate of the loss content for each risk rating and for each impaired loan,
an estimate of the amounts and timing of expected future cash flows and an
estimate of the value of collateral.
A loan is considered impaired when, based on current information and
events, it is probable that the Bank will be unable to collect the scheduled
payments of principal and 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 principal and interest payments when due. 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 homogeneous loans are
collectively evaluated for impairment. Accordingly, the Bank does not separately
identify individual consumer and residential loans for impairment disclosures.
ACCOUNTING FOR GOODWILL -- Effective January 1, 2002, the Corporation
adopted Statement of Financial Standard No. 142, "Goodwill and Other Intangible
Assets" (SFAS 142), which changes the Corporation's accounting for goodwill and
other intangible assets. Generally, intangible assets that meet certain criteria
are recognized and subsequently amortized over their estimated useful lives.
Goodwill and intangible assets with indefinite lives are not amortized. However,
such assets are tested for impairment at adoption of SFAS 142 and at least
annually thereafter. No impairment loss was recorded upon the adoption of SFAS
142 in 2002, nor has any impairment loss been recorded since.
55
56
MARKET INFORMATION
The table below shows, for the periods indicated, the high and low prices for
common stock in the over-the-counter market of which PSB Group, Inc. is aware.
This information was obtained from a third-party reporting service and while we
believe the information is correct, we do not warrant its accuracy. These
quotations may represent inter-dealer prices without retail mark-ups, mark-downs
or commissions and do not necessarily represent actual stock transactions. There
is not an active market for the common stock of PSB Group, Inc.
2006 HIGH LOW DIVIDEND DECLARED
---- ---- --- -----------------
FIRST QUARTER $17.70 $17.00 $0.18
SECOND QUARTER $17.30 $15.70 $0.18
THIRD QUARTER $16.85 $15.50 $0.18
FOURTH QUARTER $19.00 $16.10 $0.18
2005 HIGH LOW DIVIDEND DECLARED
---- ---- --- -----------------
FIRST QUARTER $23.02 $21.50 $0.17
SECOND QUARTER $22.50 $18.52 $0.17
THIRD QUARTER $19.83 $18.56 $0.18
FOURTH QUARTER $19.15 $17.25 $0.18
On December 31, 2006, PSB Group, Inc. had 418 holders of record of its common
stock. The stock is quoted on the OTC Bulletin Board under the symbol "PSBG.OB".
Howe Barnes Investments, Inc. and Monroe Securities, Inc. are market makers in
the stock.
Contact Information:
- -------------------
Nick Bach, Vice President Russel Feltes
Howe Barnes Investments, Inc. Monroe Securities, Inc.
222 Riverside Plaza 343 West Erie Street, Suite 410
Chicago, IL 60606 Chicago, IL 60610
(800) 800-4693 (800) 766-5560
www.howebarnes.com www.monroesecurities.com
ANNUAL MEETING OF SHAREHOLDERS
THE ANNUAL MEETING OF THE SHAREHOLDERS OF PSB GROUP, INC. WILL BE HELD AT 2:00
PM, TUESDAY, APRIL 24, 2007 AT THE FOLLOWING LOCATION:
UKRAINIAN CULTURAL CENTER
26601 RYAN ROAD
WARREN, MI 48091
SHAREHOLDERS ARE INVITED TO ATTEND.
56
PERFORMANCE GRAPH
The following graph compares the cumulative total shareholder return on the
Company's common stock ("PSBG"), with the cumulative return for the NASDAQ
Index, the $100 - $500 OTC-BB and Pink Banks and the Midwest Quadrant OTC-BB and
Pink Banks Index over the same period, assuming the investment of $100 on
December 31, 2000, and reinvestment of all dividends.
PSB GROUP, INC.
(PERFORMANCE GRAPH)
PERIOD ENDING
-------------------------------------------------------------------------------------
INDEX 12/31/01 12/31/02 12/31/03 12/31/04 12/31/05 12/31/06
- -----------------------------------------------------------------------------------------------------------------------------------
PSB Group, Inc. 100.00 134.85 195.36 186.86 165.54 164.85
NASDAQ Composite 100.00 68.76 103.67 113.16 115.57 127.58
SNL $100M-$500M OTC-BB & Pink Banks 100.00 119.95 162.94 196.93 218.70 239.40
SNL Midwest OTC-BB & Pink Banks 100.00 128.26 161.90 192.90 200.83 211.50
SOURCE : SNL FINANCIAL LC, CHARLOTTESVILLE, VA (434) 977-1600
(C) 2007 www.snl.com
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