UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________ to __________________
Commission file number 001-31940
F.N.B. CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Florida 25-1255406
- --------------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
One F.N.B. Boulevard, Hermitage, PA 16148
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(724) 981-6000
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes X No
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at July 31, 2004
----- ----------------------------
Common Stock, $0.01 Par Value 46,259,838 Shares
F.N.B. CORPORATION
FORM 10-Q
June 30, 2004
INDEX
PAGE
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets (unaudited) 2
Consolidated Statements of Income (unaudited) 3
Consolidated Statements of Cash Flows (unaudited) 5
Consolidated Statement of Stockholders' Equity (unaudited) 6
Notes to Consolidated Financial Statements 7
Report of Independent Registered Public Accounting Firm 19
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 20
Item 3. Quantitative and Qualitative Disclosures About Market Risk 36
Item 4. Controls and Procedures 36
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 37
Item 2. Changes in Securities, Use of Proceeds and Issuer
Purchases of Equity Securities 37
Item 3. Defaults Upon Senior Securities 37
Item 4. Submission of Matters to a Vote of Security Holders 37
Item 5. Other Information 38
Item 6. Exhibits and Reports on Form 8-K 38
Signatures 40
1
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DOLLARS IN THOUSANDS, EXCEPT PAR VALUES
JUNE 30, DECEMBER 31,
2004 2003
----------- -----------
UNAUDITED
-----------
ASSETS
Cash and due from banks $ 99,171 $ 105,160
Interest bearing deposits with banks 408 1,152
Securities available for sale 1,101,229 878,667
Securities held to maturity (fair
value of $45,206 and $24,823) 45,794 24,030
Mortgage loans held for sale 3,893 1,435
Loans, net of unearned income of $29,750 and $31,646 3,226,889 3,259,197
Allowance for loan losses (46,099) (46,139)
----------- -----------
NET LOANS 3,180,790 3,213,058
----------- -----------
Premises and equipment 75,671 79,618
Goodwill 28,940 28,710
Other assets 235,199 225,344
Assets of discontinued operations -- 3,751,136
----------- -----------
TOTAL ASSETS $ 4,771,095 $ 8,308,310
=========== ===========
LIABILITIES
Deposits:
Non-interest bearing demand $ 589,146 $ 592,795
Savings and NOW 1,439,348 1,513,526
Certificates and other time deposits 1,329,298 1,333,189
----------- -----------
TOTAL DEPOSITS 3,357,792 3,439,510
Other liabilities 62,615 58,096
Short-term borrowings 417,935 232,966
Long-term debt 700,245 584,808
Liabilities of discontinued operations -- 3,386,021
----------- -----------
TOTAL LIABILITIES 4,538,587 7,701,401
----------- -----------
STOCKHOLDERS' EQUITY
Common stock - $0.01 par value
Authorized - 500,000,000 shares
Issued - 46,357,995 and 46,354,673 shares 464 464
Additional paid-in capital 222,884 586,009
Retained earnings 19,341 11,532
Accumulated other comprehensive income (7,052) 10,251
Deferred stock compensation (1,858) --
Treasury stock - 61,668 and 40,764 shares at cost (1,271) (1,347)
----------- -----------
TOTAL STOCKHOLDERS' EQUITY 232,508 606,909
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 4,771,095 $ 8,308,310
=========== ===========
See accompanying Notes to Consolidated Financial Statements
2
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA
UNAUDITED
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------- --------------------------
2004 2003 2004 2003
-------- -------- -------- --------
INTEREST INCOME
Loans, including fees $ 50,790 $ 54,615 $102,385 $112,395
Securities:
Taxable 9,816 8,944 19,311 16,211
Nontaxable 616 1,076 1,186 2,159
Dividends 291 442 605 855
Other 3 19 5 23
-------- -------- -------- --------
TOTAL INTEREST INCOME 61,516 65,096 123,492 131,643
-------- -------- -------- --------
INTEREST EXPENSE
Deposits 12,578 14,872 25,005 29,900
Short-term borrowings 1,506 2,022 2,617 3,563
Long-term debt 5,964 6,181 12,197 11,006
-------- -------- -------- --------
TOTAL INTEREST EXPENSE 20,048 23,075 39,819 44,469
-------- -------- -------- --------
NET INTEREST INCOME 41,468 42,021 83,673 87,174
Provision for loan losses 3,620 3,903 8,242 8,030
-------- -------- -------- --------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 37,848 38,118 75,431 79,144
-------- -------- -------- --------
NON-INTEREST INCOME
Service charges 8,507 8,607 16,563 17,032
Insurance commissions and fees 2,498 2,426 4,904 4,812
Securities commissions and fees 1,191 1,084 2,532 2,125
Trust 1,676 1,994 3,549 3,763
Gain on sale of securities 522 772 967 1,154
Gain on sale of loans 815 818 1,082 1,600
Gain on sale of branches -- -- 4,135 --
Other 2,171 2,136 4,417 4,283
-------- -------- -------- --------
TOTAL NON-INTEREST INCOME 17,380 17,837 38,149 34,769
-------- -------- -------- --------
55,228 55,955 113,580 113,913
-------- -------- -------- --------
NON-INTEREST EXPENSE
Salaries and employee benefits 17,040 18,987 35,294 38,988
Net occupancy 2,692 2,703 5,406 5,612
Equipment 3,268 3,997 6,286 7,624
Other 10,457 10,624 21,082 21,376
-------- -------- -------- --------
TOTAL NON-INTEREST EXPENSE 33,457 36,311 68,068 73,600
-------- -------- -------- --------
INCOME BEFORE INCOME TAXES 21,771 19,644 45,512 40,313
Income taxes 6,706 5,574 14,225 11,634
-------- -------- -------- --------
INCOME FROM CONTINUING OPERATIONS 15,065 14,070 31,287 28,679
Earnings from discontinued operations,
net of taxes of $5,404 and $9,792 -- 10,586 -- 19,305
-------- -------- -------- --------
NET INCOME $ 15,065 $ 24,656 $ 31,287 $ 47,984
======== ======== ======== ========
3
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (CONTINUED)
DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA
UNAUDITED
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- --------------------
2004 2003 2004 2003
----- ----- ----- -----
NET INCOME PER COMMON SHARE:
Basic:
Continuing operations $ .33 $ .31 $ .68 $ .62
Discontinued operations -- .23 -- .42
----- ----- ----- -----
$ .33 $ .54 $ .68 $1.04
===== ===== ===== =====
Diluted:
Continuing operations $ .32 $ .30 $ .66 $ .61
Discontinued operations -- .23 -- .41
----- ----- ----- -----
$ .32 $ .53 $ .66 $1.02
===== ===== ===== =====
CASH DIVIDENDS PER COMMON SHARE $ .23 $ .24 $ .46 $ .45
===== ===== ===== =====
See accompanying Notes to Consolidated Financial Statements
4
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
DOLLARS IN THOUSANDS
UNAUDITED
SIX MONTHS ENDED
-----------------------------
JUNE 30,
-----------------------------
2004 2003
--------- ---------
OPERATING ACTIVITIES
Net income from continuing operations $ 31,287 $ 28,679
Net income from discontinued operations -- 19,305
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 5,997 5,155
Provision for loan losses 8,242 8,030
Deferred taxes 9,962 13,175
Net gain on sale of securities (967) (1,154)
Net gain on sale of loans (1,082) (1,600)
Proceeds from sale of loans 54,205 74,885
Loans originated for sale (55,581) (75,358)
Net change in:
Interest receivable (955) 914
Interest payable (5,325) (427)
Change in net assets of discontinued operations -- (20,142)
Other, net (1,831) (27,836)
--------- ---------
Net cash flows from operating activities 43,952 23,626
--------- ---------
INVESTING ACTIVITIES
Net change in:
Interest bearing deposits with banks 744 (2,067)
Loans 23,547 (9,770)
Bank Owned Life Insurance -- 1,505
Securities available for sale:
Purchases (399,748) (493,281)
Sales 8,346 82,271
Maturities 144,435 164,927
Securities held to maturity:
Purchases (24,167) --
Maturities 2,380 1,679
Increase in premises and equipment (859) 564
Cash paid in purchase business combinations,
net of cash acquired -- (150,200)
--------- ---------
Net cash flows from investing activities (245,322) (404,372)
--------- ---------
FINANCING ACTIVITIES
Net change in:
Non-interest bearing deposits, savings and NOW (87,279) 180,330
Time deposits 5,561 (110,554)
Short-term borrowings 184,969 197,043
Increase in long-term debt 124,834 153,581
Decrease in long-term debt (9,397) (12,809)
Purchase of treasury stock (12,936) (20,361)
Issuance of treasury stock 10,883 16,364
Cash dividends paid (21,254) (20,743)
--------- ---------
Net cash flows from financing activities 195,381 382,851
--------- ---------
NET (DECREASE) INCREASE IN CASH AND DUE FROM BANKS (5,989) 2,105
Cash and due from banks at beginning of period 105,160 129,443
--------- ---------
CASH AND DUE FROM BANKS AT END OF PERIOD $ 99,171 $ 131,548
========= =========
See accompanying Notes to Consolidated Financial Statements
5
F.N.B. CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
DOLLARS IN THOUSANDS
UNAUDITED
Accumulated
Other
Compre- Additional Compre- Deferred
hensive Common Paid-In Retained hensive Stock Treasury
Income Stock Capital Earnings Income Compensation Stock Total
-------- -------- ---------- -------- ----------- ------------ -------- ---------
Balance at December 31, 2003 $ 464 $ 586,009 $ 11,532 $ 10,251 $ (1,347) $ 606,909
Net income $ 31,287 31,287 31,287
Change in other comprehensive
income (loss) (15,406) (15,406) (15,406)
--------
Comprehensive income $ 15,881
========
Cash dividends declared -
$0.46 per share (21,254) (21,254)
Purchase of common stock (12,937) (12,937)
Issuance of common stock 93 (2,224) 13,013 10,882
Change in deferred stock
compensation $ (1,858) (1,858)
Spin-off of Florida operations (363,218) (1,897) (365,115)
-------- ---------- -------- ----------- ------------ -------- ---------
Balance at June 30, 2004 $ 464 $ 222,884 $ 19,341 $ (7,052) $ (1,858) $ (1,271) $ 232,508
======== ========== ======== =========== ============ ======== =========
See accompanying Notes to Consolidated Financial Statements
6
F.N.B. CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
JUNE 30, 2004
BUSINESS
F.N.B. Corporation (the Corporation) is a diversified financial
services company headquartered in Hermitage, Pennsylvania. The Corporation owns
and operates First National Bank of Pennsylvania, First National Trust Company,
First National Investment Services Company, F.N.B. Investment Advisors, Inc.,
First National Insurance Agency, Inc. and Regency Finance Company. It has full
service banking offices located in Pennsylvania and Ohio and consumer finance
operations in Pennsylvania, Ohio and Tennessee.
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include
the accounts of the Corporation and its subsidiaries. The Corporation's
consolidated financial statements have historically included subsidiaries in
which the Corporation has a controlling financial interest. This requirement has
been applied to subsidiaries in which the Corporation has a majority voting
interest. Investments in companies in which the Corporation controls operating
and financing decisions (principally defined as owning a voting or economic
interest greater than 50%) are consolidated. In accordance with Financial
Accounting Standards Board Interpretation No. (FIN) 46, Consolidation of
Variable Interest Entities, an Interpretation of ARB No. 51, the Corporation
considers a voting rights entity to be a subsidiary and consolidates it if the
Corporation has a controlling financial interest in the entity. Variable
interest entities are consolidated if the Corporation is exposed to the majority
of the variable interest entity's expected losses and/or residual returns (i.e.,
the Corporation is considered to be the primary beneficiary). All significant
intercompany balances and transactions have been eliminated. Certain
reclassifications have been made to the prior years' financial statements to
conform to the current year's presentation.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
DISCONTINUED OPERATIONS
On January 1, 2004, the Corporation completed the spin-off of its
Florida operations into a separate, publicly traded company known as First
National Bankshares of Florida, Inc. (Bankshares). Effective January 1, 2004,
the Corporation transferred all of its Florida operations to Bankshares. At the
same time, the Corporation distributed all of the outstanding stock of
Bankshares to the Corporation's shareholders of record as of December 26, 2003.
Shareholders eligible for the distribution received one share of Bankshares
common stock for each outstanding share of the Corporation's common stock held.
Immediately following the distribution, the Corporation and its subsidiaries did
not own any shares of Bankshares common stock and Bankshares became an
independent public company.
7
The Corporation incurred approximately $49.7 million, including $10.5
million incurred by Bankshares, in restructuring expense during 2003 directly
attributable to the spin-off of Bankshares. These expenses consisted of a
prepayment penalty for refinancing Federal Home Loan Bank (FHLB) debt, early
retirement expenses, involuntary separation costs, professional fees and
miscellaneous other expenses. As of December 31, 2003, a liability of $12.4
million remained in connection with these expenses. This liability has been
reduced during the first six months of 2004 as follows (in thousands):
Liability at December 31, 2003 $ 12,436
Liability at Bankshares (5,200)
Reduction in liability:
Early retirement expenses and involuntary
separation costs (2,587)
Professional fees (471)
Miscellaneous other expenses (316)
--------
Liability at June 30, 2004 $ 3,862
========
This remaining liability of $3.9 million consists of $3.7 million in
early retirement expenses and involuntary separation costs, $24,000 in
professional fees and $134,000 in miscellaneous other expenses.
As a result of the spin-off, the Florida operations' 2003 earnings have
been reclassified as discontinued operations on the consolidated statement of
income, and assets and liabilities related to these discontinued operations have
been disclosed separately on the consolidated balance sheet for 2003.
EQUITY METHOD INVESTMENT
The Corporation accounts for its 14.1% ownership of the common stock of
Sun Bancorp, Inc. under the equity method. The carrying value of the
Corporation's investment in Sun Bancorp is adjusted for the Corporation's share
of Sun Bancorp's earnings and reduced by dividends received from Sun Bancorp.
Sun Bancorp, a bank holding company headquartered in Lewisburg, Pennsylvania, is
a publicly traded company under the stock symbol "SUBI" on the Nasdaq Stock
Market. The carrying value of the investment included in other assets was $23.3
million at June 30, 2004.
On April 20, 2004, Omega Financial Corporation and Sun Bancorp, Inc.
jointly announced that Omega Financial Corporation has agreed to acquire Sun
Bancorp, Inc. Under the terms of the agreement, Sun Bancorp shareholders will be
entitled to receive either 0.664 shares of Omega Financial common stock for each
share of Sun Bancorp common stock or $23.25 in cash for each share held, subject
to a pro rata allocation such that 20% of Sun Bancorp common stock shall be paid
in cash and 80% shall be in the form of Omega Financial common stock. The
Corporation currently owns 1,090,122 shares of Sun Bancorp common stock.
COMMON STOCK DIVIDEND
Prior period per share amounts have been adjusted for common stock
dividends, including the 5 percent stock dividend declared on April 28, 2003.
8
MERGERS AND ACQUISITIONS
On July 26, 2004, the Corporation announced that it had signed a
definitive agreement to acquire the assets of Morrell, Butz and Junker, Inc.
(MBJ), a full-service insurance agency based in Pittsburgh, Pennsylvania. MBJ is
one of the largest independent insurance agencies in western Pennsylvania with
revenues of $4.0 million. MBJ, which offers property and casualty, life and
health, and group benefits coverage to both commercial and individual clients,
became a part of the Corporation's existing insurance agency, First National
Insurance Agency, Inc., doubling the size of the Corporation's insurance
division. This transaction closed on July 30, 2004.
On May 6, 2004, the Corporation announced that it had signed a
definitive merger agreement to acquire Slippery Rock Financial Corporation
(Slippery Rock)(OTC BB: SRCK), a bank holding company headquartered in Slippery
Rock, Pennsylvania with $335.0 million in assets, in a stock and cash
transaction valued at $78.5 million. Under the terms of the merger agreement,
shareholders of Slippery Rock may elect to receive $28.00 in cash or 1.41 shares
of the Corporation's common stock for each share of Slippery Rock common stock.
The merger agreement allocation procedures provide for the exchange of 15
percent of Slippery Rock shares for cash and the remaining Slippery Rock shares
exchanged for the Corporation's common stock. This transaction is scheduled to
close during the fourth quarter of 2004, pending regulatory and shareholder
approval.
On April 30, 2004, Regency Finance Company (Regency), a subsidiary of
the Corporation, completed its previously announced acquisition of eight
consumer finance offices in the greater Columbus, Ohio area from The Modern
Finance Company, an affiliate of Thaxton Group, Inc., headquartered in South
Carolina. This acquisition added approximately $7.0 million in net loan
outstandings to Regency's portfolio.
The Corporation regularly evaluates the potential acquisition of, and
holds discussions with, various acquisition candidates and, as a general rule,
the Corporation publicly announces such acquisitions only after a definitive
merger agreement has been reached.
DEBENTURES DUE TO A STATUTORY TRUST
During the first quarter of 2003, F.N.B. Statutory Trust I (Statutory
Trust), an unconsolidated subsidiary trust, issued $125.0 million of
Corporation-obligated mandatorily redeemable capital securities (capital
securities). The proceeds from the sale of the capital securities were invested
in junior subordinated debt securities of the Corporation (debentures). The
Statutory Trust was formed for the sole purpose of issuing the capital
securities and investing the proceeds from the sale of such capital securities
in the debentures. The debentures held by the Statutory Trust are its sole
assets. Distributions on the capital securities issued by the Statutory Trust
are recorded as interest expense by the Corporation. The capital securities are
subject to mandatory redemption, in whole or in part, upon repayment of the
debentures. The capital securities bear interest at a floating rate per annum
equal to the three-month LIBOR plus 325 basis points. The rate in effect at June
30, 2004 was 4.36%. The Corporation has entered into agreements which, taken
collectively, fully and unconditionally guarantee the capital securities subject
to the terms of each of the guarantees. The debentures held by the Statutory
Trust qualify as Tier 1 capital under Federal Reserve Board guidelines and are
first redeemable, in whole or in part, by the Corporation on or after March 31,
2008.
9
PREFERRED STOCK REDEMPTION
The Corporation completed the planned redemption of its Preferred Stock
Series A and Preferred Stock Series B during 2003. In connection with the
redemption, the Corporation issued shares of its common stock out of treasury
stock in exchange for the remaining outstanding preferred stock. The Corporation
issued 15,882 and 264,568 shares of its common stock for the remaining 19,174
and 98,851 shares of Preferred Stock Series A and Preferred Stock Series B,
respectively. As a result of the redemption, the Corporation no longer has any
shares of Preferred Stock.
NEW ACCOUNTING STANDARDS
Financial Accounting Standards Statement (FAS) 148, Accounting for
Stock-Based Compensation - Transition and Disclosure, was issued in December
2002. It provides alternative methods of accounting for stock-based employee
compensation. In addition, it amends disclosure requirements in both annual and
interim financial statements about the method of accounting for stock-based
compensation and the effect of the method used on reported results. The
Corporation continues to account for its stock-based compensation under
Accounting Principles Board (APB) Opinion 25, Accounting for Stock Issued to
Employees. Therefore, FAS 148 is not expected to have a material impact on the
Corporation's financial condition or results of operations.
FIN 46, Consolidation of Variable Interest Entities, an Interpretation
of ARB No. 51, was issued in January 2003 and amended in December 2003. FIN 46
addresses consolidation by business enterprises of variable interest entities
which have certain characteristics. FIN 46 applies immediately to variable
interest entities created after January 31, 2003. It applies in the first fiscal
year or interim period beginning after December 15, 2003, to variable interest
entities in which an enterprise holds a variable interest that was acquired
before February 1, 2003. The Corporation has limited partnership investments in
affordable housing projects, for which it provides funding as a limited partner
and receives tax credit for any losses incurred by the projects based on its
partnership share. The Corporation's interest in these entities were acquired
prior to February 1, 2003. At June 30, 2004, the Corporation had recorded
investments in other assets on its balance sheet of approximately $2.5 million
associated with these investments. The Corporation currently adjusts the
carrying value of these investments for any losses incurred by the limited
partnership through earnings. The Corporation determined that it is not the
primary beneficiary of these partnerships and will not consolidate them.
Additionally, the Corporation determined that it is not the primary beneficiary
of Statutory Trust and will not consolidate it.
FAS 146, Accounting for Costs Associated with Exit or Disposal
Activities, was issued in June 2002 and requires that a liability for a cost
associated with an exit or disposal activity be recognized when the liability is
incurred. FAS 146 also establishes that fair value is the objective for initial
measurement of the liability. The provisions of FAS 146 became effective for the
Corporation on January 1, 2003. The costs incurred in connection with the
spin-off of Bankshares were accounted for in accordance with the provisions of
FAS 146.
The American Institute of Certified Public Accountants issued Statement
of Position (SOP) 03-3, Accounting for Certain Loans or Debt Securities Acquired
in a Transfer, in December 2003. SOP 03-3 addresses accounting for differences
between contractual cash flows and cash flows expected to be collected from an
investors initial investment in loans or debt securities acquired in a transfer
if those differences are attributable, at least in part, to credit quality. SOP
03-3 does not apply to loans originated by the entity. The provisions of SOP
03-3 are effective for loans acquired in fiscal years beginning after December
31, 2004.
10
The Securities and Exchange Commission issued Staff Accounting Bulletin
(SAB) 105, Application of Accounting Principles to Loan Commitments, in March
2004. SAB 105 informs registrants that the fair value of the recorded loan
commitments that are required to follow derivative accounting under FAS 133,
Accounting for Derivative Instruments and Hedging Activities, should not
consider the expected future cash flows related to the associated servicing of a
future loan. The provisions of SAB 105 are required to be applied to loan
commitments accounted for as derivatives that are entered into after March 31,
2004. The implementation of SAB 105 did not have a significant impact on the
Corporation's financial condition, results of operations or cash flows.
SECURITIES
Following is a summary of the fair value of securities available for
sale (in thousands):
JUNE 30, DECEMBER 31,
2004 2003
---------- ------------
U.S. Treasury and other U.S. Government
agencies and corporations $ 188,621 $ 124,163
Mortgage-backed securities of U.S.
Government agencies 801,255 634,669
States of the U.S. and political subdivisions 30,888 42,408
Other debt securities 33,403 32,299
---------- ----------
Total debt securities 1,054,167 833,539
Equity securities 47,062 45,128
---------- ----------
$1,101,229 $ 878,667
========== ==========
Following is a summary of the amortized cost of securities held to
maturity (in thousands):
JUNE 30, DECEMBER 31,
2004 2003
------- ------------
U.S. Treasury and other U.S. Government
agencies and corporations $ 2,725 $ 3,761
States of the U.S. and political subdivisions 39,910 17,105
Other debt securities 3,159 3,164
------- -------
$45,794 $24,030
======= =======
BORROWINGS
Following is a summary of short-term borrowings (in thousands):
JUNE 30, DECEMBER 31,
2004 2003
-------- ------------
Securities sold under repurchase agreements $122,128 $ 81,444
Federal funds purchased 145,865 865
Federal Home Loan Bank advances 6,000 6,000
Subordinated notes 143,689 144,006
Other short-term borrowings 253 651
-------- --------
$417,935 $232,966
======== ========
11
Following is a summary of long-term debt (in thousands):
JUNE 30, DECEMBER 31,
2004 2003
-------- ------------
Federal Home Loan Bank advances $540,156 $425,141
Debentures due to Statutory Trust 128,866 128,866
Subordinated notes 30,934 30,517
Other long-term debt 289 284
-------- --------
$700,245 $584,808
======== ========
The Corporation's banking subsidiary has available credit with the FHLB
of $1.5 billion, of which $546.2 million was used as of June 30, 2004. These
advances are secured by residential real estate loans and FHLB stock and are
scheduled to mature in various amounts periodically through the year 2012.
EARNINGS PER SHARE
Basic earnings per share is calculated by dividing net income, adjusted
for declared dividends on preferred stock, by the weighted average number of
shares of common stock outstanding.
Diluted earnings per common share is calculated by dividing net income
by the weighted average number of shares of common stock outstanding, assuming
conversion of outstanding convertible preferred stock from the beginning of the
year and the exercise of stock options. Such adjustments to net income and the
weighted average number of shares of common stock are made only when such
adjustments dilute earnings per share.
The following tables set forth the computation of basic and diluted
earnings per share (in thousands, except per share data):
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------ ------------------------------
2004 2003 2004 2003
------------ ------------ ------------ ------------
BASIC
Net income from
continuing operations $ 15,065 $ 14,070 $ 31,287 $ 28,679
Net income from
discontinued operations -- 10,586 -- 19,305
Less: Preferred stock
dividends declared -- (8) -- (62)
------------ ------------ ------------ ------------
Earnings applicable to
basic earnings per share $ 15,065 $ 24,648 $ 31,287 $ 47,922
============ ============ ============ ============
Average common shares outstanding 46,265,852 46,067,008 46,219,548 46,052,374
============ ============ ============ ============
Basic earnings per share:
From continuing operations $ .33 $ .31 $ .68 $ .62
From discontinued operations -- .23 -- .42
------------ ------------ ------------ ------------
Net income $ .33 $ .54 $ .68 $ 1.04
============ ============ ============ ============
12
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
2004 2003 2004 2003
----------- ----------- ----------- -----------
DILUTED
Net income from
continuing operations $ 15,065 $ 14,070 $ 31,287 $ 28,679
Net income from
discontinued operations -- 10,586 -- 19,305
----------- ----------- ----------- -----------
Earnings applicable to
diluted earnings per share $ 15,065 $ 24,656 $ 31,287 $ 47,984
=========== =========== =========== ===========
Average common shares outstanding 46,265,852 46,067,008 46,219,548 46,052,374
Convertible preferred stock -- 17,941 -- 143,360
Net effect of dilutive stock
options based on the treasury
stock method 777,159 802,811 835,483 692,554
----------- ----------- ----------- -----------
47,043,011 46,887,760 47,055,031 46,888,288
=========== =========== =========== ===========
Diluted earnings per share:
From continuing operations $ .32 $ .30 $ .66 $ .61
From discontinued operations -- .23 -- .41
----------- ----------- ----------- -----------
Net income $ .32 $ .53 $ .66 $ 1.02
=========== =========== =========== ===========
STOCK-BASED COMPENSATION
In accordance with FAS 148, the following table shows pro forma net
income and earnings per share assuming stock-based compensation had been
expensed based on the fair value of the compensation granted along with
significant assumptions used in the Black-Scholes option pricing model (dollars
in thousands, except per share data):
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net income from
continuing operations $ 15,065 $ 14,070 $ 31,287 $ 28,679
Stock-based employee compensation
cost included in net income from
continuing operations, net of tax 34 19 337 37
Stock-based employee compensation
cost determined if the fair
value method had been applied
to all awards, net of tax (593) (741) (1,224) (1,490)
---------- ---------- ---------- ----------
Pro forma net income from
continuing operations $ 14,506 $ 13,348 $ 30,400 $ 27,226
========== ========== ========== ==========
Earnings per share from continuing operations:
Basic as reported $ .33 $ .31 $ .68 $ .62
Basic pro forma .31 .29 .66 .59
Diluted as reported $ .32 $ .30 $ .66 $ .61
Diluted pro forma .31 .28 .65 .58
Assumptions:
Risk-free interest rate 3.86% 2.93% 3.86% 2.93%
Dividend yield 4.16% 2.95% 4.16% 2.95%
Expected stock price volatility .25% .21% .25% .25%
Expected life (years) 5.00 5.00 5.00 5.00
Fair value of options granted $ 11.79 $ 11.79 $ 11.79 $ 11.79
13
As a result of the Corporation's spin-off of its Florida operations,
the Corporation developed a methodology designed to adjust the number and
exercise price of outstanding F.N.B. Corporation stock options immediately
following the completion of the spin-off for the purpose of preserving the
equivalent value of these stock options that existed as of the close of business
on December 31, 2003. As of June 30, 2004, the Corporation had options
outstanding to purchase 2,088,585 shares of common stock at an average price of
$11.22 per share.
During the first quarter of 2004, the Corporation issued 107,285
restricted shares of common stock to key employees and directors of the
Corporation under its 2001 Incentive Plan. Under this program, shares awarded to
management are earned, in part, by delivering certain financial performance
results when compared to peers. The rewards are earned over three- to five-year
periods. The unvested portion of these awards, totaling $1.9 million at June 30,
2004, is reflected as deferred stock compensation in the stockholders' equity
section of the Corporation's balance sheet.
RETIREMENT AND OTHER POSTRETIREMENT BENEFIT PLANS
The net periodic benefit cost for the defined benefit plans includes
the following components (in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
--------------------- ---------------------
2004 2003 2004 2003
------- ------- ------- -------
Service cost $ 955 $ 888 $ 1,910 $ 1,776
Interest cost 1,560 1,467 3,120 2,934
Expected return on plan assets (1,671) (1,373) (3,342) (2,746)
Net amortization 223 232 446 464
------- ------- ------- -------
Net periodic cost $ 1,067 $ 1,214 $ 2,134 $ 2,428
======= ======= ======= =======
Net periodic postretirement benefit cost includes the following
components (in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
----------------- -----------------
2004 2003 2004 2003
---- ---- ---- ----
Service cost $ 82 $ 73 $164 $146
Interest cost 99 91 198 182
One time charge for
voluntary retirement -- 37 -- 74
Net amortization 34 25 68 50
---- ---- ---- ----
Net periodic cost $215 $226 $430 $452
==== ==== ==== ====
The Corporation sponsors retirement plans for the benefit of its
employees. In conjunction with the spin-off of its Florida operations, a portion
of the obligations associated with these plans was transferred to Bankshares. Of
the December 31, 2003 obligations reported in the Retirement Plans footnote in
the Corporation's 2003 Annual Report on Form 10-K, $88.1 million of the $98.7
million accumulated benefit obligation and $101.7 of the $114.0 million
projected benefit obligation remained with the Corporation after the spin-off.
The fair value of plan assets, which was $84.9 million at December 31, 2003,
remained entirely with the Corporation. Of the $11.0 million pension expense for
the year ended December 31, 2003, $8.0 million was attributable to continuing
operations. With respect to the Other Postretirement Benefit Plans footnote in
the Corporation's 2003 Annual Report on Form 10-K, these obligations remained
entirely with the Corporation after the spin-off and the related postretirement
benefit cost was entirely attributable to continuing operations.
14
The Corporation's subsidiaries participate in a qualified 401(k)
defined contribution plan under which eligible employees may contribute a
percentage of their salary. The Corporation matches 50 percent of an eligible
employee's contribution on the first 6 percent that the employee defers.
Employees are generally eligible to participate upon completing 90 days of
service and having attained age 21. Employer contributions become 20 percent
vested when an employee has completed one year of service, and vest at a rate of
20 percent per year thereafter. The Corporation's contribution expense was
$621,000 for the six months ended June 30, 2004.
CASH FLOW INFORMATION
Following is a summary of supplemental cash flow information (in
thousands):
Six Months Ended
June 30,
2004 2003
-------- --------
Cash paid for:
Interest $ 45,144 $ 44,896
Taxes 8,012 8,981
Noncash Investing and Financing Activities:
Acquisition of real estate in settlement of loans 1,886 1,136
Loans granted in the sale of other real estate 124 10
Spin-off of Florida operations 365,115 --
COMPREHENSIVE INCOME
The components of comprehensive income, net of related tax, are as
follows (in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
------------------------ ------------------------
2004 2003 2004 2003
-------- -------- -------- --------
Net income from
continuing operations $ 15,065 $ 14,070 $ 31,287 $ 28,679
Net income from
discontinued operations -- 10,586 -- 19,305
Other comprehensive income (loss):
Unrealized gains (losses) on securities:
Unrealized holding gains
(losses) arising during
the period (21,941) 11,929 (14,945) 9,785
Less: reclassification
adjustment for gains
included in net income (339) (502) (629) (750)
Minimum pension liability
adjustment -- -- 168 --
-------- -------- -------- --------
Other comprehensive income (loss) (22,280) 11,427 (15,406) 9,035
-------- -------- -------- --------
Comprehensive income (loss) $ (7,215) $ 36,083 $ 15,881 $ 57,019
======== ======== ======== ========
15
BUSINESS SEGMENTS
The Corporation operates in four reportable segments: community
banking, wealth management, insurance and consumer finance. The Corporation's
community banking subsidiary offers services traditionally offered by
full-service commercial banks, including commercial and individual demand and
time deposit accounts and commercial, mortgage and individual installment loans.
Wealth Management provides a broad range of personal and corporate fiduciary
services including the administration of decedent and trust estates. In
addition, it offers various alternative products, including securities brokerage
and investment advisory services, mutual funds, insurance and annuities. The
Corporation's insurance business includes a full-service insurance agency
offering all lines of commercial and personal insurance through major carriers.
It also includes a reinsurer. The Corporation's consumer finance subsidiary is
primarily involved in making personal installment loans to individuals. This
activity is funded through the sale of the Corporation's subordinated notes at
the finance company's branch offices. The all other segment includes the parent
company, other non-bank subsidiaries and eliminations, which are necessary for
purposes of reconciling to the consolidated amounts. The following tables
provide financial information for these segments of the Corporation (in
thousands).
16
At or for the three months Community Wealth Consumer All
ended June 30, 2004 Banking Management Insurance Finance Other Consolidated
---------- ---------- ---------- ---------- ---------- ------------
Interest income $ 54,249 $ 8 $ 7 $ 7,706 $ (454) $ 61,516
Interest expense 17,220 2 -- 1,169 1,657 20,048
Provision for loan losses 2,010 -- -- 1,610 -- 3,620
Non-interest income 12,376 3,039 1,046 629 290 17,380
Non-interest expense, excluding
intangible amortization 25,583 2,349 1,027 3,493 486 32,938
Intangible amortization 492 -- 27 -- -- 519
Income tax expense (benefit) 6,615 262 9 762 (942) 6,706
Net income (loss) 14,705 434 (10) 1,301 (1,365) 15,065
Total assets 4,562,221 5,713 7,627 152,666 42,868 4,771,095
Total intangibles 33,284 1 3,325 1,809 -- 38,419
At or for the three months Community Wealth Consumer All
ended June 30, 2003 Banking Management Insurance Finance Other Consolidated
---------- ---------- ---------- ---------- ---------- ------------
Interest income $ 58,594 $ 2 $ 6 $ 7,065 $ (571) $ 65,096
Interest expense 20,626 4 1 1,266 1,178 23,075
Provision for loan losses 2,519 -- -- 1,384 -- 3,903
Non-interest income 9,177 3,162 704 442 4,352 17,837
Non-interest expense, excluding
intangible amortization 24,100 2,609 758 3,164 5,137 35,768
Intangible amortization 492 1 28 -- 22 543
Income tax expense (benefit) 5,814 313 (23) 605 (1,135) 5,574
Net income (loss) from
continuing operations 14,220 237 (54) 1,088 (1,421) 14,070
Net income from discontinued
operations 9,578 1 1,007 -- -- 10,586
Net income (loss) 23,798 238 953 1,088 (1,421) 24,656
Total assets from continuing
operations 4,425,154 3,640 7,392 148,408 13,083 4,597,677
Total intangibles from
continuing operations 32,764 13 4,889 1,809 -- 39,475
17
At or for the six months Community Wealth Consumer All
ended June 30, 2004 Banking Management Insurance Finance Other Consolidated
---------- ---------- ---------- ---------- ---------- ------------
Interest income $ 109,522 $ 10 $ 12 $ 14,791 $ (843) $ 123,492
Interest expense 34,236 5 -- 2,365 3,213 39,819
Provision for loan losses 5,010 -- -- 3,232 -- 8,242
Non-interest income 28,053 6,440 2,373 1,060 223 38,149
Non-interest expense, excluding
intangible amortization 52,479 4,806 2,054 6,696 995 67,030
Intangible amortization 984 1 53 -- -- 1,038
Income tax expense (benefit) 14,137 615 131 1,336 (1,994) 14,225
Net income (loss) 30,729 1,023 147 2,222 (2,834) 31,287
Total assets 4,562,221 5,713 7,627 152,666 42,868 4,771,095
Total intangibles 33,284 1 3,325 1,809 -- 38,419
At or for the six months Community Wealth Consumer All
ended June 30, 2003 Banking Management Insurance Finance Other Consolidated
------- ---------- --------- ------- ----- ------------
Interest income $ 118,432 $ 2 $ 21 $ 14,136 $ (948) $ 131,643
Interest expense 41,237 4 4 2,709 515 44,469
Provision for loan losses 5,256 -- -- 2,774 -- 8,030
Non-interest income 22,516 6,094 1,760 910 3,489 34,769
Non-interest expense, excluding
intangible amortization 52,242 5,221 1,700 6,282 7,069 72,514
Intangible amortization 984 2 57 -- 43 1,086
Income tax expense (benefit) 12,336 313 26 1,188 (2,229) 11,634
Net income (loss) from
continuing operations 28,893 556 (6) 2,093 (2,857) 28,679
Net income from discontinued
operations 17,634 (96) 1,767 -- -- 19,305
Net income (loss) 46,527 460 1,761 2,093 (2,857) 47,984
Total assets from continuing
operations 4,425,154 3,640 7,392 148,408 13,083 4,597,677
Total intangibles from
continuing operations 32,764 13 4,889 1,809 -- 39,475
18
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors
F.N.B. Corporation
We have reviewed the accompanying consolidated balance sheet of F.N.B.
Corporation and subsidiaries (F.N.B. Corporation) as of June 30, 2004, and the
related consolidated statements of income for the three-month and six-month
periods ended June 30, 2004 and 2003, and the consolidated statements of cash
flows for the six-month periods ended June 30, 2004 and 2003, and the
consolidated statement of stockholders' equity for the six- month period ended
June 30, 2004. These financial statements are the responsibility of F.N.B.
Corporation's management.
We conducted our review in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the consolidated interim financial statements referred to above for
them to be in conformity with U.S. generally accepted accounting principles.
We have previously audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheet of F.N.B. Corporation as of December 31, 2003, and the related
consolidated statements of income, shareholders' equity, and cash flows for the
year then ended (not presented herein) and in our report dated February 24,
2004, we expressed an unqualified opinion on those consolidated financial
statements. In our opinion, the information set forth in the accompanying
consolidated balance sheet as of December 31, 2003, is fairly stated, in all
material respects, in relation to the consolidated balance sheet from which it
has been derived.
/s/ERNST & YOUNG LLP
August 9, 2004
19
PART I
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
Management's discussion and analysis represents an overview of the
results of operations and financial condition of the Corporation. This
discussion and analysis should be read in conjunction with the consolidated
financial statements and notes hereto.
IMPORTANT NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in this Form 10-Q are "forward-looking" within the
meaning of the Private Securities Litigation Reform Act of 1995, which
statements generally can be identified by the use of forward-looking
terminology, such as "may," "will," "expect," "estimate," "anticipate,"
"believe," "target," "plan," "project" or "continue" or the negatives thereof or
other variations thereon or similar terminology, and are made on the basis of
management's plans and current analyses of the Corporation, its business and the
industry as a whole. These forward-looking statements are subject to risks and
uncertainties, including, but not limited to, economic conditions, competition,
interest rate sensitivity and exposure to regulatory and legislative changes.
The above factors in some cases have affected, and in the future could affect,
the Corporation's financial performance and could cause actual results to differ
materially from those expressed or implied in such forward-looking statements.
The Corporation does not undertake to publicly update or revise its
forward-looking statements even if experience or future changes make it clear
that any projected results expressed or implied therein will not be realized.
FINANCIAL INFORMATION SUMMARY
On January 1, 2004, the Corporation completed the spin-off of its
Florida operations into a separate, publicly traded company. As a result of the
spin-off, the Florida operations' 2003 earnings have been reclassified to
discontinued operations in the consolidated statement of income, and assets and
liabilities related to these discontinued operations have been disclosed
separately on the consolidated balance sheet for 2003. Net income was $31.3
million for the first six months of 2004 compared to net income from continuing
operations of $28.7 million for the first six months of 2003. Diluted earnings
per share were $.66 for the first six months of 2004 compared to diluted
earnings from continuing operations of $.61 for the first six months of 2003.
Net income for the first six months of 2004 included an after-tax gain on the
sale of two branches of $2.7 million.
Common ratios for results of operations include the return on average
assets and the return on average equity. The Corporation's return on average
assets was 1.36% for the first six months of 2004, while its return on average
equity was 26.03% for the same period.
CRITICAL ACCOUNTING POLICIES
The Corporation's significant accounting policies as described in the
"Notes to Consolidated Financial Statements" under "Summary of Significant
Accounting Policies" in the Corporation's 2003 Annual Report on Form 10-K filed
with the Securities and Exchange Commission remain unchanged.
20
FIRST SIX MONTHS OF 2004 AS COMPARED TO FIRST SIX MONTHS OF 2003:
The following table provides average balances and yields and rates on
interest earning assets and interest bearing liabilities (dollars in thousands):
Six Months Ended June 30 2004 2003
--------------------------------------- --------------------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
---------- -------- ------ ---------- -------- ------
ASSETS
Interest earning assets:
Interest bearing deposits
with banks $ 1,077 $ 6 1.12% $ 3,635 $ 15 0.83%
Federal funds sold 43 -- 0.89 1,635 8 0.99
Securities:
Taxable 929,242 19,767 4.28 683,432 15,299 4.51
Non-taxable (1) 73,069 1,970 5.42 138,297 4,686 6.83
Loans (1) (2) 3,247,741 102,943 6.37 3,224,844 113,035 7.07
---------- -------- ---------- --------
Total interest
earning assets 4,251,172 124,686 5.90 4,051,843 133,043 6.62
---------- -------- ---------- --------
Cash and due from banks 98,483 97,832
Allowance for loan losses (47,263) (47,281)
Premises and equipment 77,749 87,402
Assets of discontinued
operations -- 3,241,899
Other assets 253,996 235,434
---------- ----------
$4,634,137 $7,667,129
========== ==========
LIABILITIES
Interest bearing liabilities:
Deposits:
Interest bearing demand $ 811,332 $ 2,812 0.70 $ 734,865 $ 3,033 0.83
Savings 651,353 1,760 0.54 488,430 1,662 0.69
Other time 1,310,850 20,433 3.13 1,527,298 25,205 3.33
Repurchase agreements 122,709 522 0.86 124,265 578 0.94
Other short-term borrowings 250,312 2,095 1.68 188,317 2,985 3.20
Long-term debt 595,718 12,197 4.12 477,229 11,006 4.65
---------- -------- ---------- --------
Total interest
bearing liabilities 3,742,274 39,819 2.14 3,540,404 44,469 2.53
---------- -------- ---------- --------
Non-interest bearing,
demand deposits 581,435 560,406
Liabilities of discontinued
operations -- 2,888,080
Other liabilities 68,725 67,912
---------- ----------
4,392,434 7,056,802
---------- ----------
STOCKHOLDERS' EQUITY 241,702 610,327
---------- ----------
$4,634,136 $7,667,129
========== ==========
Net interest earning assets $ 508,898 $ 511,439
========== ==========
Net interest income $ 84,867 $ 88,574
======== ========
Net interest spread 3.76% 4.09%
===== =====
Net interest margin (3) 4.01% 4.41%
===== =====
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) Average balance includes non-accrual loans. Loans consist of average
total loans less average unearned income. The amount of loan fees
included in interest income on loans is immaterial.
(3) Net interest margin is calculated by dividing the difference between
total interest earned and total interest paid by average interest
earning assets.
21
The following table sets forth certain information regarding changes in
net interest income attributable to changes in the volumes and rates of interest
earning assets and interest bearing liabilities for the six months ended June
30, 2004 as compared to the six months ended June 30, 2003 (in thousands):
Volume Rate Net
-------- -------- --------
Interest Income:
Interest bearing deposits with banks $ (18) $ 9 $ (9)
Federal funds sold (4) (4) (8)
Securities (1) 3,317 (1,565) 1,752
Loans (1) 780 (10,872) (10,092)
-------- -------- --------
4,075 (12,432) (8,357)
-------- -------- --------
Interest Expense:
Deposits:
Interest bearing demand 437 (658) (221)
Savings 281 (183) 98
Other time (3,351) (1,421) (4,772)
Repurchase agreements (7) (49) (56)
Other short-term borrowings 2,010 (2,900) (890)
Long-term debt 2,202 (1,011) 1,191
-------- -------- --------
1,572 (6,222) (4,650)
-------- -------- --------
Net Change $ 2,503 $ (6,210) $ (3,707)
======== ======== ========
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) The amount of change not solely due to rate or volume changes was
allocated between the change due to rate and the change due to volume
based on the net size of the rate and volume changes.
During 2003, in order to help revive economic growth, the Federal
Reserve Board reduced its target federal funds rate to the lowest level in
nearly 45 years. During the first and second quarter of 2003, concerns about
continued economic weakness and possible disinflation drove mid-term and
long-term treasury yields down significantly. This, in turn, sparked the
refinancing of mortgages in the Corporation's loan and mortgage-backed
securities portfolios. Thus, the lower interest rate levels experienced during
2003 and 2004 contributed to the decline in net interest margin as the
yield on earning assets declined by more than the rate on interest bearing
liabilities. The impact of future rate changes on the Corporation's net income
is discussed further within the "Liquidity and Interest Rate Sensitivity"
section.
Net Interest Income
Net interest income, the Corporation's primary source of earnings, is
the amount by which interest and fees generated by interest earning assets,
primarily loans and securities, exceed interest expense on deposits and borrowed
funds. Net interest income totaled $83.7 million for the first six months of
2004, as compared to $87.2 million for the first six months of 2003. On a fully
taxable equivalent basis, net interest income totaled $84.9 million and $88.6
million for these same periods, respectively. On a fully taxable equivalent
basis, net interest income consisted of interest income of $124.7 million and
interest expense of $39.8 million for the first six months of 2004 compared to
$133.0 million and $44.5 million for each, respectively, for the first six
months of 2003. The Corporation's net
22
interest margin decreased 40 basis points to 4.01% for the six months ended June
30, 2004 as compared to 4.41% for the six months ended June 30, 2003.
Total interest income, on a fully taxable equivalent basis, decreased
$8.4 million or 6.3% for the first six months of 2004, as compared to the first
six months of 2003. This decrease was the result of lower yield, partially
offset by higher average earning assets. The impact of the lower yield was $12.4
million while the impact of higher average earning assets was $4.1 million. The
decrease in yield was caused primarily by loan refinancing activity and
scheduled repricing of adjustable rate loans to lower market rates, coupled with
accelerated prepayments of mortgage-backed securities. Average earning assets
increased by $199.3 million or 4.9% from the first six months of 2003 to the
first six months of 2004. This growth was primarily due to an increase of $180.6
million in average investment securities coupled with an increase of $22.9
million in average loan outstandings. Commercial, direct installment and
consumer lines of credit increased a combined $262.4 million from the first six
months of 2003, while planned reductions in indirect installment, residential
mortgages and lease financing combined for a decrease of $229.8 million over
this same period. This shift in loan mix is the result of the Corporation's
strategic initiatives to improve asset quality and fee income while focusing
on more advantageous loan originations consistent with relationship
lending.
Total interest expense decreased $4.7 million or 10.5% for the first
six months of 2004, as compared to the first six months of 2003. This decrease
was driven primarily by the lower rate paid on interest bearing liabilities,
partially offset by an increase in average interest bearing liabilities to fund
the growth in earning assets. The impact of a lower rate paid was $6.2 million
while the impact of higher average interest bearing liabilities was $1.6
million. The decrease in rates paid was driven primarily by actions taken by the
Corporation to reduce rates paid on deposits and a reduction in the cost of
debt, which was the result of the early retirement of FHLB borrowings during the
third quarter of 2003. Average balances for total deposits and repurchase
agreements, other short-term borrowings and long-term debt increased by $21.4
million, $62.0 million and $118.5 million, respectively, for the six months
ended June 30, 2004 as compared to the six months ended June 30, 2003.
PROVISION FOR LOAN LOSSES
The provision for loan losses was $8.2 million for the first six months
of 2004, as compared to $8.0 million for the first six months of 2003. The
allowance for loan losses as a percentage of total loans remained constant at
1.43% for both June 30, 2004 and June 30, 2003.
NON-INTEREST INCOME
Total non-interest income was $38.1 million for the first six months of
2004, as compared to $34.8 million for the same period of 2003. The first six
months of 2004 included a gain on the sale of two branches totaling $4.1
million. The Corporation's fee income from insurance and wealth management
activities increased 2.7% to $11.0 million for the six months ended June 30,
2004 as compared to the six months ended June 30, 2003. Contingent fee income
from insurance operations and increased sales of annuities and mutual funds
through the branch network contributed to the higher fee income in 2004.
Partially offsetting these increases, gain on the sale of mortgage loans
decreased $518,000 due to a lower volume of mortgage loan originations as higher
interest rates in 2004 have led to a slowdown in mortgage refinancing activity.
23
NON-INTEREST EXPENSE
Total non-interest expense was $68.1 million for the first six months
of 2004, as compared to $73.6 million for the first six months of 2003. In
concert with the spin-off of its Florida operations, the Corporation initiated a
cost reduction initiative in the third quarter of 2003 and completed it by
December 31, 2003. As a result of this cost reduction initiative, the
Corporation realized an expense reduction of $5.5 million, or 7.5%, for the
first six months of 2004, as compared to the first six months of 2003. The
resulting efficiency ratio for the first six months of 2004 was 54.49%, which
included a benefit of 1.89% from the gain on the sale of branches.
INCOME TAXES
The Corporation's income tax was $14.2 million for the first six months
of 2004 compared to $11.6 million for the same period of 2003. The effective tax
rate of 31.3% for the six months ended June 30, 2004 was lower than the 35.0%
federal statutory tax rate due to the tax benefits resulting from tax-exempt
instruments and excludable dividend income.
24
SECOND QUARTER OF 2004 AS COMPARED TO SECOND QUARTER OF 2003:
The following table provides average balances and yields and rates on
interest earning assets and interest bearing liabilities (dollars in thousands):
Quarter Ended June 30
2004 2003
-------------------------------------- ----------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
ASSETS ---------- -------- ------ ---------- -------- -----
Interest earning assets:
Interest bearing deposits
with banks $ 1,493 $ 3 0.81% $ 5,922 $ 11 0.75%
Federal funds sold -- -- -- 3,150 8 1.02
Securities:
Taxable 942,152 10,042 4.29 803,992 8,472 4.23
Non-taxable (1) 75,849 1,006 5.33 134,700 2,363 7.04
Loans (1) (2) 3,232,935 51,062 6.35 3,227,472 54,927 6.83
---------- -------- ---------- --------
Total interest
earning assets 4,252,429 62,113 5.87 4,175,236 65,781 6.32
---------- -------- ---------- --------
Cash and due from banks 99,742 108,969
Allowance for loan losses (47,336) (47,161)
Premises and equipment 76,780 97,013
Assets of discontinued
operations -- 3,666,530
Other assets 255,615 208,886
---------- ----------
$4,637,230 $8,209,473
========== ==========
LIABILITIES
Interest bearing liabilities:
Deposits:
Interest bearing demand $ 847,556 $ 1,612 0.76 $ 800,156 $ 1,908 0.96
Savings 604,162 702 0.47 491,377 774 0.63
Other time 1,315,482 10,264 3.14 1,490,213 12,190 3.28
Repurchase agreements 128,337 280 0.88 103,560 294 1.14
Other short-term borrowings 235,144 1,226 2.10 289,649 1,728 2.39
Long-term debt 605,049 5,964 3.96 555,211 6,181 4.47
---------- -------- ---------- --------
Total interest
bearing liabilities 3,735,730 20,048 2.16 3,730,166 23,075 2.48
---------- -------- ---------- --------
Non-interest bearing,
demand deposits 593,299 569,989
Liabilities of discontinued
operations -- 3,235,309
Other liabilities 68,534 60,747
---------- ----------
4,397,563 7,596,211
---------- ----------
STOCKHOLDERS' EQUITY 239,667 613,262
---------- ----------
$4,637,230 $8,209,473
========== ==========
Net interest earning assets $ 516,699 $ 445,070
========== ==========
Net interest income $ 42,065 $ 42,706
======== ========
Net interest spread 3.72% 3.84%
====
Net interest margin (3) 3.98% 4.10%
====
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) Average balance includes non-accrual loans. Loans consist of average
total loans less average unearned income. The amount of loan fees
included in interest income on loans is immaterial.
(3) Net interest margin is calculated by dividing the difference between
total interest earned and total interest paid by average interest
earning assets.
25
The following table sets forth certain information regarding changes in
net interest income attributable to changes in the volumes and rates of interest
earning assets and interest bearing liabilities for the quarter ended June 30,
2004 as compared to the quarter ended June 30, 2003 (in thousands):
Volume Rate Net
------- ------- -------
Interest Income:
Interest bearing deposits with banks $ (9) $ 1 $ (8)
Federal funds sold (4) (4) (8)
Securities (1) 578 (365) 213
Loans (1) 95 (3,960) (3,865)
------- ------- -------
660 (4,328) (3,668)
------- ------- -------
Interest Expense:
Deposits:
Interest bearing demand 118 (414) (296)
Savings 676 (748) (72)
Other time (1,412) (514) (1,926)
Repurchase agreements 300 (314) (14)
Other short-term borrowings (305) (197) (502)
Long-term debt 801 (1,018) (217)
------- ------- -------
178 (3,205) (3,027)
------- ------- -------
Net Change $ 482 $(1,123) $ (641)
======= ======= =======
(1) The amounts are reflected on a fully taxable equivalent basis using the
federal statutory tax rate of 35% adjusted for certain federal tax
preferences. The Corporation believes this measure to be the preferred
industry measurement of net interest income and provides relevant
comparison between taxable and non-taxable amounts.
(2) The amount of change not solely due to rate or volume changes was
allocated between the change due to rate and the change due to volume
based on the net size of the rate and volume changes.
NET INTEREST INCOME
During the second quarter of 2004, net interest income of $41.5 million
decreased $553,000 or 1.3% from the same period last year. While the
Corporation's net interest margin decreased 12 basis points to 3.98% in the
second quarter of 2004, earning assets increased $77.2 million or 1.8% from the
same period last year.
Total interest income of $61.5 million for the second quarter of 2004
decreased $3.6 million or 5.5% from the same period last year, primarily due to
a decrease of 45 basis points in the yield on earning assets to 5.87% in the
second quarter of 2004. A lower interest rate environment in 2004 as compared to
2003 led to lower yields earned on loans and investment securities. Partially
offsetting the decrease in yield, average earning assets of $4.3 billion for the
second quarter of 2004 increased $77.2 million or 1.8% primarily driven by
growth in the investment security portfolio. In addition, average loan
outstandings increased $5.5 million in the second quarter of 2004 from the same
period last year. While commercial and consumer loans grew a combined $241.6
million, indirect loans, mortgage loans and automobile leases decreased a
combined $224.4. These strategic changes in the Corporation's loan mix are
designed to improve asset quality, generate fee income and focus on more
advantageous loan originations consistent with interest rate risk management and
relationship lending.
26
Total interest expense of $20.0 million for the second quarter of 2004
decreased $3.0 million or 13.1% from the same period last year, primarily due to
a decrease of 32 basis points in the Corporation's cost of funds to 2.16% in the
second quarter of this year. This decrease was a direct result of the
Corporation's efforts to reduce rates paid on deposits coupled with customers
re-investing funds into lower rate certificates of deposit. In addition, the
Corporation early retired higher rate FHLB borrowings in the third quarter of
2003.
PROVISION FOR LOAN LOSSES
The provision for loan losses totaled $3.6 million for the second
quarter of 2004, as compared to $3.9 million for the second quarter of 2003, as
credit quality improvements during the second quarter of 2004 permitted a
reduction in the provision for loan losses for the quarter. These improvements
are evidenced by a decrease of 6 basis points in net charge-offs to average
loans to .46% for the second quarter of 2004. Additionally, non-performing loans
to total loans decreased 5 basis points to .87% for the second quarter of 2004,
while non-performing assets to total assets decreased 5 basis points to .66% for
this same period.
NON-INTEREST INCOME
Non-interest income of $17.4 million for the second quarter of 2004
decreased $457,000 or 2.6% from the second quarter of 2003, primarily due to a
decrease of $250,000 in gain on sales of securities. Wealth management fees,
comprised of trust income and securities commissions and fees, also decreased
slightly to $2.9 million in the second quarter of 2004 from $3.1 million in the
second quarter of 2003.
NON-INTEREST EXPENSE
Non-interest expense of $33.5 million in the second quarter of 2004
decreased $2.9 million or 7.9% from the same period last year, driven primarily
by the Corporation's cost reduction initiative implemented during the second
half of 2003 in anticipation of the spin-off of the Florida operations. More
specifically, salaries and employee benefits expense of $17.0 million and
occupancy and equipment expense of $6.0 million in the second quarter of 2004
decreased $1.9 million or 10.3% and $740,000 or 11.0%, respectively, from the
same period last year.
INCOME TAXES
The Corporation's income tax expense of $6.7 million for the second
quarter of 2004 compared to $5.6 million for the same period of 2003. This
increase was driven primarily by an increase in pretax income coupled with an
increase in the Corporation's effective tax rate to 30.8% in the second quarter
of 2004, compared to 28.4% for the same period last year. This increase in
effective tax rate was driven by a decrease in the mix of tax-exempt earning
assets this year.
27
LIQUIDITY AND INTEREST RATE SENSITIVITY
The Corporation's goal in liquidity management is to meet the cash flow
requirements of depositors and borrowers as well as the operating cash needs of
the Corporation, with cost-effective funding. Liquidity is centrally managed on
a daily basis by treasury personnel. In addition, the Corporate Asset/Liability
Committee (ALCO), which includes members of executive management, reviews
liquidity on a periodic basis and approves significant changes in strategies
which affect balance sheet or cash flow positions. The Board of Directors has
established an Asset/Liability Policy in order to achieve and maintain earnings
performance consistent with long-term goals while maintaining acceptable levels
of interest rate risk, a "well-capitalized" balance sheet and adequate levels of
liquidity. This policy designates the ALCO as the body responsible for meeting
this objective.
Liquidity sources from assets include payments from loans and
investments as well as the ability to securitize or sell loans and investment
securities. The Corporation continues to originate mortgage loans, most of which
are resold in the secondary market. Proceeds from the sale of mortgage loans
totaled $54.2 million for the first six months of 2004.
Liquidity sources from liabilities are generated primarily through
deposits. As of June 30, 2004, deposits comprised 70.4% of total liabilities. To
a lesser extent, the Corporation also makes use of wholesale sources which
include federal funds purchased, repurchase agreements and public deposits. In
addition, the banking affiliate has the ability to borrow funds from the FHLB.
FHLB advances are a competitively priced and reliable source of funds. The
Corporation has made use of FHLB advances and has a large reserve available for
contingency funding purposes. As of June 30, 2004, outstanding advances were
$546.2 million, or 11.4% of total assets, while FHLB availability was $1.5
billion, or 30.6% of total assets.
The Corporation has repurchased shares of its common stock for
re-issuance under various employee benefit plans and the Corporation's dividend
reinvestment plan since 1991. In addition, the Corporation has repurchased
shares for specific re-issuance in connection with certain business combinations
accounted for as purchase transactions. During the first six months of 2004 and
2003, the Corporation purchased 633,044 and 713,327 treasury shares totaling
$12.9 million and $20.8 million, respectively, and re-issued 612,141 and 755,148
treasury shares totaling $13.0 million and $21.8 million, respectively.
The principal source of cash for the parent company is dividends from
its subsidiaries. The parent also has approved lines of credit with several
major domestic banks totaling $101.0 million, which were unused as of June 30,
2004. The Corporation also issues subordinated debt on a regular basis and its
banking affiliate has access to the Federal Reserve Bank as well as access to
the capital markets.
The ALCO regularly monitors various liquidity ratios and forecasts of
cash position. Management believes the Corporation has sufficient liquidity
available to meet its normal operating and contingency funding cash needs.
28
The financial performance of the Corporation is at risk from interest
rate fluctuations. This interest rate risk arises due to differences between the
amount of interest earning assets and interest bearing liabilities subject to
repricing over a period of time, the difference between the change in various
interest rates and the embedded options in certain financial instruments. The
Corporation utilizes an asset/liability model to support its balance sheet
strategies. The Corporation uses gap analysis, net interest income simulations
and the economic value of equity (EVE) to measure its interest rate risk.
Gap and EVE are static measures which do not incorporate assumptions
regarding future business. Gap, while a helpful diagnostic tool, displays cash
flows for only a single rate environment. EVE's long term horizon helps identify
changes in optionality and longer-term positions. However, EVE's liquidation
perspective does not translate into the earnings based measures that are the
focus of managing and valuing a going concern. Net interest income simulations
explicitly measure the exposure to earnings from changes in market rates of
interest. The Corporation's current financial position is combined with
assumptions regarding future business to calculate net interest income under
various hypothetical rate scenarios. The ALCO reviews earnings simulations over
multiple years under various interest rate scenarios.
The following gap analysis attempts to measure the interest rate risk
of the Corporation by comparing the difference between the amount of interest
earning assets and interest bearing liabilities subject to repricing over a
period of time. The ratio of rate sensitive assets to rate sensitive liabilities
maturing within a one year period was .91 at June 30, 2004, as compared to .93
at June 30, 2003. A ratio of less than one indicates a higher level of repricing
liabilities over repricing assets over the next twelve months.
Following is the gap analysis as of June 30, 2004 (dollars in
thousands):
Within 2-3 4-6 7-12 Total
1 Month Months Months Months 1 Year
---------- --------- ---------- ------------ ----------
INTEREST EARNING ASSETS (IEA)
Loans $ 716,149 $ 143,497 $226,352 $370,485 $1,456,483
Investments 14,000 27,398 39,226 88,700 1 69,324
---------- --------- ---------- ------------ ----------
730,149 170,895 265,578 459,185 1,625,807
INTEREST BEARING LIABILITIES (IBL)
Non-maturity deposits $ 538,693 $ 538,693
Time deposits 74,829 $ 136,792 $ 188,138 $376,153 775,912
Borrowings 392,319 27,846 16,832 25,925 462,922
---------- --------- ---------- ------------ ----------
1,005,841 164,638 204,970 402,078 1,777,527
GAP:
Period $ (275,692) $ 6,257 $ 60,608 $ 57,107 $ (151,720)
========== ========= ========== ============ ==========
Cumulative $ (275,692) $(269,435) $ (208,827) $ (151,720)
========== ========= ========== ============
IEA/IBL (CUMULATIVE) .73 .77 .85 .91
========== ========= ========== ============
CUMULATIVE GAP TO IEA (6.30) (6.15) (4.77) (3.47)
========== ========= ========== ============
29
The allocation of non-maturity deposits to the one-month maturity
bucket is based on the estimated sensitivity of each product to changes in
market rates. For example, if a product's rate is estimated to increase by 50%
as much as the market rates, then 50% of the account balance was placed in this
bucket.
The following table presents an analysis of the potential sensitivity
of the Corporation's annual net interest income and EVE to sudden and parallel
changes (shocks) in market rates versus if rates remained unchanged:
JUNE 30,
--------------
2004 2003
---- ----
Net interest income change (12 months):
- 100 basis points (1.5)% (4.6)%
+ 100 basis points 0.0% 0.2%
Economic value of equity:
- 100 basis points 9.2% (9.0)%
+ 100 basis points (9.9)% 0.5%
The Corporation's ALCO is responsible for the identification and
management of interest rate risk exposure. As such, the Corporation continuously
evaluates strategies to minimize its exposure to interest rate fluctuations. In
order to help mitigate the effect of rising interest rates, the ALCO transacted
strategies during the second quarter of 2004 including limiting the length of
terms of securities acquired, promoting long-term certificates of deposit,
locking long-term wholesale funds through the FHLB and selling fixed rate
mortgages. The measures identified above are well within the Corporation's
Asset/Liability Policy.
The change in EVE from the prior period signifies the significant
decline in refinancing activity in certain investments and loans due to higher
interest rates. The slower cash flows and higher interest rates create a larger
decline in the value of these portfolios. As a going concern, with no plans to
liquidate these positions, this decrease in value will not be reflected in
earnings. Furthermore, EVE is a volatile, static present value over the life of
the balance sheet. As such, it does not reflect future business and ALCO
strategies designed to mitigate the effect to earnings from these slowly
evolving positions.
The Corporation recognizes that earnings simulation models are based on
methodologies which may have inherent shortcomings. Further, earnings
simulations require certain assumptions, such as prepayment rates on earnings
assets and pricing impact on non-maturity deposits, be made, which may differ
from actual experience. These business assumptions are based upon the
Corporation's experience, business plans and published industry experience.
While management believes such assumptions to be reasonable, there can be no
assurances that modeled results will approximate actual results.
30
DEPOSITS
Following is a summary of deposits (in thousands):
JUNE 30, DECEMBER 31,
2004 2003
---------- ----------
Non-interest bearing $ 589,146 $ 592,795
Savings and NOW 1,439,348 1,513,526
Certificates and other time deposits 1,329,298 1,333,189
---------- ----------
Total deposits 3,357,792 3,439,510
Securities sold under repurchase agreements 122,128 81,444
---------- ----------
Total deposits and repurchase agreements $3,479,920 $3,520,954
========== ==========
Total deposits and repurchase agreements decreased $41.0 million from
December 31, 2003 to June 30, 2004. In February 2004, the Corporation sold $39.9
million in deposits associated with the divestiture of two branches in
non-strategic locations. The deposits sold were comprised of $6.1 million, $11.4
million and $22.4 million in non-interest bearing, savings and NOW and
certificates of deposits, respectively. Excluding this sale, the Corporation
grew non-maturity deposits and took advantage of opportunities to shift certain
non-maturity deposits to longer maturity certificates of deposits in order to
help mitigate the risk of rising interest rates.
Repurchase agreements, mostly with the Corporation's commercial
customers, increased $40.7 million as the Corporation was successful in
attracting new customers and expanding existing relationships at favorable
interest rates. This strategy allows for the Corporation to expand commercial
relationships by providing additional valuable services and information to its
customers.
LOANS
Following is a summary of loans (in thousands):
JUNE 30, DECEMBER 31,
2004 2003
---------- ----------
Commercial $1,324,050 $1,297,559
Direct installment 796,730 776,716
Consumer line of credit 234,364 229,005
Residential mortgages 440,344 468,173
Indirect installment 408,796 452,170
Lease financing 9,325 16,594
Other 13,280 18,980
---------- ----------
$3,226,889 $3,259,197
========== ==========
The Corporation's loan portfolio consists principally of loans to
individuals and small- and medium-sized businesses within the Corporation's
primary market area of western and central Pennsylvania and northeastern Ohio.
Additionally, the portfolio contains consumer finance loans to individuals in
Pennsylvania, Ohio and Tennessee.
Total loans decreased $32.3 million from December 31, 2003 to June 30,
2004. This decrease was driven by planned reductions in indirect installment,
residential mortgages and lease financing, which decreased $43.4 million, $27.8
million and $7.3 million, respectively, from December 31, 2003. Partially
offsetting these tactical reductions were increases in more desirable segments
of the loan portfolio. Commercial, direct installment and consumer lines of
credit increased by $26.5 million, $20.0 million and
31
$5.4 million, respectively, from December 31, 2003. These strategic initiatives
are designed to improve asset quality and fee income while focusing attention on
more advantageous loan originations consistent with relationship lending.
NON-PERFORMING ASSETS
Non-performing assets include non-performing loans and other real
estate owned. Non-performing loans include non-accrual loans and restructured
loans. Management classifies non-performing commercial loans over $250,000 as
impaired. Non-accrual loans represent loans on which interest accruals have been
discontinued. It is the Corporation's policy to discontinue interest accruals
when principal or interest is due and has remained unpaid for 90 to 180 days or
more depending on the loan type unless the loan is both well-secured and in the
process of collection. When a loan is placed on non-accrual status, all unpaid
interest is reversed. Non-accrual loans may not be restored to accrual status
until all delinquent principal and interest has been paid. Consumer installment
loans are generally charged off against the allowance for loan losses upon
reaching 90 to 180 days past due, depending on the installment loan type.
Commercial loan charge-offs, either in whole or in part, are generally made as
soon as facts and circumstances raise a serious doubt as to the collectibility
of all or a portion of the principal. Restructured loans are loans in which the
borrower has been granted a concession on the interest rate or the original
repayment terms due to financial distress.
Non-performing loans are closely monitored on an ongoing basis as part
of the Corporation's loan review and work-out process. The potential risk of
loss on these loans is evaluated by comparing the loan balance to the fair value
of any underlying collateral or the present value of projected future cash
flows. Losses are recognized where appropriate.
Following is a summary of non-performing assets (2003 information based
on continuing operations)(dollars in thousands):
JUNE 30, DECEMBER 31,
2004 2003
------- -------
Non-performing assets:
Non-accrual loans $22,353 $22,449
Restructured loans 5,753 5,719
------- -------
Total non-performing loans 28,106 28,168
Other real estate owned 3,399 3,109
------- -------
Total non-performing assets $31,505 $31,277
======= =======
Asset quality ratios:
Non-performing loans as percent of total loans .87% .86%
Non-performing assets as percent of total assets .66% .69%
32
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses represents management's estimate of
probable loan losses inherent in the loan portfolio at a specific point in time.
This estimate includes losses associated with specifically identified loans, as
well as estimated probable credit losses inherent in the remainder of the loan
portfolio. Additions are made to the allowance through both periodic provisions
charged to income and recoveries of losses previously incurred. Reductions to
the allowance occur as loan losses are recognized and loans are charged off.
Management evaluates the adequacy of the allowance at least quarterly, and in
doing so relies on various factors including, but not limited to, assessment of
historical loss experience, delinquency and non-accrual trends, portfolio
growth, underlying collateral coverage and current economic conditions.
Naturally, this evaluation is subjective and requires material estimates that
may change over time.
The components of the allowance for loan losses represent estimates
based upon FAS 5, Accounting for Contingencies, and FAS 114, Accounting by
Creditors for Impairment of a Loan. FAS 5 applies to smaller balance homogeneous
loan pools such as consumer installment, residential mortgages and consumer
lines of credit, as well as larger balance commercial loans that are not
individually evaluated for impairment under FAS 114. FAS 114 is applied to
larger balance commercial loans that are considered impaired.
Under FAS 114, a loan is impaired when, based upon current information
and events, it is probable that the loan will not be repaid according to its
contractual terms, including both principal or interest. Management performs
individual assessments of impaired loans to determine the existence of loss
exposure and, where applicable, the extent of loss exposure based upon the
present value of expected future cash flows available to pay the loan, or based
upon the estimated realizable collateral where a loan is collateral dependent.
Commercial loans excluded from FAS 114 individual impairment analysis are
collectively evaluated by management to estimate reserves for loan losses
inherent in those loans in accordance with FAS 5.
In estimating loan loss contingencies, management applies historical
loss rates and also considers how the loss rates may be impacted by changes in
current economic conditions, delinquency and non-performing loan trends, changes
in loan underwriting guidelines and credit policies, as well as the results of
internal loan reviews. Smaller balance homogeneous loan pools are evaluated
using similar criteria that are based upon historical loss rates of various loan
types. Historical loss rates are adjusted to incorporate changes in existing
conditions that may impact, both positively or negatively, the degree to which
these loss histories may vary.
This determination inherently involves a high degree of uncertainty and
considers current risk factors that may not have occurred in the Corporation's
historical loss experience.
33
Following is a summary of changes in the allowance for loan losses and
selected ratios (dollars in thousands):
Three Months Ended Six Months Ended
June 30, June 30,
--------------------- ---------------------
2004 2003 2004 2003
-------- -------- -------- --------
Balance at beginning of period $ 46,227 $ 46,625 $ 46,139 $ 46,984
Reduction due to loan sale (54) -- (54) --
Charge-offs (4,418) (4,722) (9,499) (9,726)
Recoveries 724 524 1,271 1,042
-------- -------- -------- --------
Net charge-offs (3,694) (4,198) (8,228) (8,684)
Provision for loan losses 3,620 3,903 8,242 8,030
-------- -------- -------- --------
Balance at end of period $ 46,099 $ 46,330 $ 46,099 $ 46,330
======== ======== ======== ========
Allowance for loan losses to:
Total loans, net of unearned income 1.43% 1.43%
Non-performing loans 164.02% 155.97%
Annualized net charge-offs to
average loans 0.46% 0.52% 0.51% 0.54%
CAPITAL RESOURCES AND REGULATORY MATTERS
The assessment of capital adequacy depends on a number of factors such
as asset quality, liquidity, earnings performance, changing competitive
conditions and economic forces. The Corporation seeks to maintain a strong
capital base to support its growth and expansion activities, provide stability
to current operations and promote public confidence.
The Corporation has an existing registration statement for the
Corporation's subordinated notes which are issued through its finance company,
Regency Finance Company (Regency). The net proceeds from the issuance of the
subordinated notes are used to finance Regency's lending and purchasing
activities. In addition, the Corporation has an effective $200.0 million shelf
registration with the Securities and Exchange Commission. The Corporation may,
from time to time, issue any combination of common stock, preferred stock, debt
securities or trust preferred securities in one or more offerings.
Quantitative measures established by regulators to ensure capital
adequacy require the Corporation and its banking subsidiary to maintain minimum
amounts and ratios of total and tier 1 capital (as defined in the regulations)
to risk-weighted assets (as defined) and of tier 1 capital to average assets (as
defined).
As of March 31, 2004, the Corporation and its banking subsidiary have
been categorized by the various banking regulators as "well capitalized" under
the regulatory framework for prompt corrective action. As of June 30, 2004, the
Corporation and its banking subsidiary meet all capital adequacy requirements to
which they are subject.
34
Following are capital ratios as of June 30, 2004 for the Corporation
(dollars in thousands):
Well Capitalized Minimum Capital
Actual Requirements Requirements
------------------ ------------------ -----------------
Amount Ratio Amount Ratio Amount Ratio
-------- ----- -------- ----- -------- -----
Total Capital $378,515 11.7% $324,637 10.0% $259,710 8.0%
(to risk-weighted assets)
Tier 1 Capital 281,470 8.7% 194,782 6.0% 129,855 4.0%
(to risk-weighted assets)
Tier 1 Capital 281,470 6.1% 229,683 5.0% 183,746 4.0%
(to average assets)
The Corporation and its banking subsidiary are subject to various
regulatory capital requirements administered by the federal banking agencies.
Failure to meet minimum capital requirements can initiate certain mandatory, and
possibly additional discretionary actions by regulators that, if undertaken,
could have a direct material effect of the Corporation's financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Corporation and its banking subsidiary must meet specific
capital guidelines that involve quantitative measures of assets, liabilities and
certain off-balance sheet items as calculated under regulatory accounting
practices. The Corporation's and banking subsidiary's capital amounts and
classifications are also subject to qualitative judgements by the regulators
about components, risk weightings and other factors.
35
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The information called for by this item is provided under the caption
"Liquidity and Interest Rate Sensitivity" under Item 2 - Management's Discussion
and Analysis of Financial Condition and Results of Operations.
ITEM 4. CONTROLS AND PROCEDURES.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. The Corporation's
Chief Executive Officer (CEO) and Chief Financial Officer (CFO) have concluded
that the Corporation's disclosure controls and procedures (as defined in Rules
13a - 15(e) and 15d - 15(e) under the Securities and Exchange Act of 1934, as
amended), based on their evaluation of these controls and procedures as of the
end of the period covered by this Form 10-Q, are effective at the reasonable
assurance level as discussed below to ensure that information required to be
disclosed by the Corporation in the reports it files under the Securities
Exchange Act of 1934, as amended, is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the
Securities and Exchange Commission and that such information is accumulated and
communicated to the Corporation's management, including its principal executive
officer and principal financial officer, as appropriate to allow timely
decisions regarding required disclosure.
LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS. The Corporation's
management, including the CEO and CFO, does not expect that the Corporation's
disclosure controls and internal controls will prevent all errors and all fraud.
A control system, no matter how well conceived and operated, can provide only
reasonable, not absolute assurance that the objectives of the control system are
met. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within the Corporation have been detected. These inherent
limitations include the realities that judgements in decision-making can be
faulty, and that breakdowns can occur because of simple error or mistake.
Additionally, controls can be circumvented by the individual acts of some
persons, by collusion of two or more people, or by management override of the
controls.
CHANGES IN INTERNAL CONTROLS. The CEO and CFO have evaluated the
changes to the Corporation's internal controls over financial reporting that
occurred during the Corporation's fiscal quarter ended June 30, 2004, as
required by paragraph (d) of Rules 13a - 15 and 15d - 15 under the Securities
Exchange Act of 1934, as amended and have concluded that there were no such
changes that materially affected, or are reasonably likely to materially affect,
our internal controls over financial reporting.
36
PART II
ITEM 1. LEGAL PROCEEDINGS
The Corporation and persons to whom the Corporation may have
indemnification obligations, in the normal course of business, are
subject to various pending and threatened lawsuits in which claims for
monetary damages are asserted. Other real estate owned includes a
property that is subject to litigation. Should the outcome of the
pending or threatened lawsuits be adverse, the value of the property
will be impaired and other costs may be incurred. Management, after
consultation with outside legal counsel, does not at the present time
anticipate the ultimate liability arising out of such pending and
threatened lawsuits will have a material adverse effect on the
Corporation's financial position. At the present time, management is
not in a position to determine whether any pending or threatened
litigation will have a material adverse effect on the Corporation's
results of operation in any future reporting period.
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES
ISSUER PURCHASES OF EQUITY SECURITIES
Total Number
of Shares Maximum Number
Total Purchased as of Shares that May
Number Average Part of Publicly yet be Purchased
of Shares Price Paid Announced Plans Under the
Month Ending Purchased Per Share or Programs Plans or Programs
- ----------------- --------- ---------- ---------------- -----------------
April 30, 2004 88,200 $21.56 N/A N/A
May 31, 2004 39,000 $19.53 N/A N/A
June 30, 2004 63,000 $19.91 N/A N/A
All shares were purchased through the open-market, and are not part of
a publicly announced purchase plan. It has been the Corporation's
practice to fund the shares required for employee benefit programs
through share purchases. This practice may be discontinued at the
Corporation's discretion.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Shareholders of F.N.B. Corporation was held May
12,2004. Proxies were solicited pursuant to Section 14(a) of the
Securities and Exchange Act of 1934 and there was no solicitation in
opposition to the Corporation's solicitations.
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All of the Corporation's nominees for directors as listed in the proxy
statement were elected with the following votes:
Votes Votes
"For" Withheld
---------- --------
William B. Campbell 36,990,633 469,921
Henry M. Ekker 35,237,692 2,222,862
Robert B. Goldstein 36,485,273 975,281
Stephen J. Gurgovits 37,019,403 441,152
Harry F. Radcliffe 35,550,698 1,909,856
John W. Rose 36,929,656 530,898
ITEM 5. OTHER INFORMATION
The Secretary of the Corporation must receive written notice of any
proposal submitted by a shareholder of the Corporation for
consideration at the Annual Meeting of Shareholders on or prior to the
date which is 120 days prior to the date on which the Corporation first
mailed its proxy materials for the prior year's Annual Meeting of
Shareholders. Accordingly, any shareholder proposal must be submitted
to the Corporation by November 26, 2004 to be considered at the 2005
Annual Meeting of Shareholders.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
31.1. Rule 13a-14(a)/15(d) - 14(a) Certification of Chief
Executive Officer. (filed herewith).
31.2. Rule 13a-14(a)/15(d) - 14(a) Certification of Chief
Financial Officer. (filed herewith).
32.1. Section 1350 Certification of Chief Executive
Officer. (filed herewith).
32.2. Section 1350 Certification of Chief Financial
Officer. (filed herewith).
(b) Reports on Form 8-K
The Corporation has filed the following Current Reports on
Form 8-K during the quarter ended June 30, 2004:
April 19, 2004 - Items 7 and 12. The Corporation reported its
issuance of a press release announcing its financial results
for the quarter ended March 31, 2004.
May 6, 2004 - Items 5 and 7. The Corporation announced that
it has signed a definitive merger agreement to acquire all of
the outstanding shares of Slippery Rock Financial Corporation.
The acquisition, subject to regulatory approval, is expected
to close during the fourth quarter of 2004.
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The Corporation has filed the following Current Reports on
Form 8-K after June 30, 2004:
July 21, 2004 - Items 7 and 12. The Corporation reported its
issuance of a press release announcing its financial results
for the quarter ended June 30, 2004.
August 2, 2004 - Items 5 and 7. The Corporation announced its
definitive agreement to acquire the assets of Morrell, Butz
and Junker, Inc. The transaction closed on July 30, 2004.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
F.N.B. Corporation
(Registrant)
Dated: AUGUST 9, 2004 /s/ STEPHEN J. GURGOVITS
-------------------------------------
Stephen J. Gurgovits
President and Chief Executive Officer
(Principal Executive Officer)
Dated: AUGUST 9, 2004 /s/ BRIAN F. LILLY
-------------------------------------
Brian F. Lilly
Chief Financial Officer
(Principal Financial Officer)
40