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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934--For the quarterly period ended March 31, 2003
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
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Commission file number: 001-15373
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ENTERPRISE FINANCIAL SERVICES CORP
(Exact Name of Registrant as Specified in its Charter)
Delaware 43-1706259
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
150 North Meramec, Clayton, MO 63105
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: 314-725-5500
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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 Securities and Exchange Act of 1934).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the Registrant's classes of
common stock as of May 5, 2003:
Common Stock, $.01 par value---- 9,563,523 shares outstanding
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ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
TABLE OF CONTENTS
Page
----
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited):
Consolidated Balance Sheets
At March 31, 2003 and December 31, 2002..............................1
Consolidated Statements of Operations
Three Months Ended March 31, 2003 and 2002...........................2
Consolidated Statements of Comprehensive Income
Three Months Ended March 31, 2003 and 2002...........................3
Consolidated Statements of Cash Flows
Three Months Ended March 31, 2003 and 2002...........................4
Notes to Consolidated Financial Statements..............................5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations......................................10
Item 3. Quantitative and Qualitative Disclosures Regarding Market Risk....20
PART II - OTHER INFORMATION
Item 4. Disclosure Control and Procedures.................................22
Item 6. Exhibits and Reports on Form 8-K..................................23
Signatures................................................................24
Certifications............................................................25
PART I - Item 1
ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Consolidated Balance Sheets (unaudited)
At March 31, At December 31,
2003 2002
------------ ---------------
Assets
Cash and due from banks $ 42,440,198 $ 39,052,123
Federal funds sold 30,828,248 33,367,011
Interest-bearing deposits 93,084 66,349
Investments in debt and equity securities:
Available for sale, at estimated fair value 69,364,701 66,618,556
Held to maturity, at amortized cost (estimated fair
value of $12,007 at March 31, 2003 and
$12,780 at December 31, 2002) 11,810 12,600
------------ ------------
Total investments in debt and equity securities 69,376,511 66,631,156
------------ ------------
Loans held for sale 3,867,869 6,991,421
Loans, less unearned loan fees 712,153,863 679,799,399
Less allowance for loan losses 9,175,000 8,600,001
------------ ------------
Loans, net 702,978,863 671,199,398
------------ ------------
Other real estate owned 449,985 125,000
Fixed assets, net 7,427,562 7,685,682
Accrued interest receivable 3,656,074 3,458,596
Goodwill 2,087,537 2,087,537
Assets held for sale 28,632,758 36,401,416
Prepaid expenses and other assets 10,458,686 9,720,812
------------ ------------
Total assets $902,297,375 $876,786,501
============ ============
Liabilities and Shareholders' Equity
Deposits:
Demand $165,464,724 $155,596,970
Interest-bearing transaction accounts 54,285,982 59,058,224
Money market accounts 347,499,947 341,589,829
Savings 3,672,660 3,420,987
Certificates of deposit:
$100,000 and over 117,203,630 105,030,371
Other 52,053,339 51,617,893
------------ ------------
Total deposits 740,180,282 716,314,274
Guaranteed preferred beneficial interests in
subordinated debentures 15,000,000 15,000,000
Federal Home Loan Bank advances 29,433,608 29,464,044
Notes payable and other borrowings 2,458,671 2,358,753
Accrued interest payable 1,268,588 1,264,600
Liabilities held for sale 48,861,766 50,053,023
Accounts payable and accrued expenses 4,940,923 3,521,857
------------ ------------
Total liabilities 842,143,838 817,976,551
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Shareholders' equity:
Common stock, $.01 par value; authorized
20,000,000 shares; issued and outstanding
9,538,416 shares at March 31, 2003 and
9,497,794 shares at December 31, 2002 95,384 94,978
Surplus 38,867,355 38,401,814
Retained earnings 19,618,065 18,673,619
Accumulated other comprehensive income 1,572,733 1,639,539
------------ ------------
Total shareholders' equity 60,153,537 58,809,950
------------ ------------
Total liabilities and shareholders' equity $902,297,375 $876,786,501
============ ============
See accompanying notes to unaudited consolidated financial statements.
1
ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Consolidated Statements of Operations (unaudited)
Three months ended March 31,
----------------------------
2003 2002
----------- -----------
Interest income:
Interest and fees on loans $10,369,004 $10,461,904
Interest on debt and equity securities:
Taxable 467,361 445,040
Nontaxable 187 917
Interest on federal funds sold 37,992 91,826
Interest on interest-bearing deposits 57 17,132
Dividends on equity securities 14,686 12,644
----------- -----------
Total interest income 10,889,287 11,029,463
----------- -----------
Interest expense:
Interest-bearing transaction accounts 52,377 68,411
Money market accounts 926,903 1,274,365
Savings 14,395 20,720
Certificates of deposit:
$100,000 and over 668,247 829,276
Other 563,315 1,211,436
Guaranteed preferred beneficial interests
in subordinated debentures 308,594 258,500
Federal funds purchased 3,895 313
Federal Home Loan Bank borrowings 290,306 184,100
Notes payable and other borrowings 6,756 15,428
----------- -----------
Total interest expense 2,834,788 3,862,549
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Net interest income 8,054,499 7,166,914
Provision for loan losses 999,364 590,000
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Net interest income after
provision for loan losses 7,055,135 6,576,914
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Noninterest income:
Service charges on deposit accounts 486,627 411,894
Trust and financial advisory income 589,555 629,056
Other service charges and fee income 96,512 90,433
Gain on sale of mortgage loans 527,862 360,337
Gain on sale of securities 77,884 --
----------- -----------
Total noninterest income 1,778,440 1,491,720
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Noninterest expense:
Salaries 3,762,894 3,460,082
Payroll taxes and employee benefits 714,084 689,646
Occupancy 476,038 457,576
Furniture and equipment 221,432 251,990
Data processing 242,390 253,044
Other 1,615,954 1,520,349
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Total noninterest expense 7,032,792 6,632,687
----------- -----------
Income before income tax expense 1,800,783 1,435,947
Income tax expense 665,685 564,589
----------- -----------
Net income $ 1,135,098 $ 871,358
=========== ===========
Per share amounts:
Basic earnings per share $ 0.12 $ 0.09
Basic weighted average common shares outstanding 9,520,631 9,298,749
Diluted earnings per share $ 0.12 $ 0.09
Diluted weighted average common shares outstanding 9,825,620 9,577,312
See accompanying notes to unaudited consolidated financial statements
2
ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income (unaudited)
Three months ended March 31,
----------------------------
2003 2002
---------- ---------
Net income $1,135,098 $ 871,358
Other comprehensive loss:
Unrealized loss on investment securities
arising during the period, net of tax (55,823) (139,186)
Less reclassification adjustment for realized gain on sale of
securities included in net income, net of tax (51,903) --
Unrealized gain (loss) on cash flow type derivative
instruments arising during the period, net of tax 40,920 (225,720)
---------- ---------
Total other comprehensive loss (66,806) (364,906)
---------- ---------
Total comprehensive income $1,068,292 $ 506,452
========== =========
See accompanying notes to unaudited consolidated financial statements.
3
ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Consolidated Statements of Cash Flows (unaudited)
Three months ended March 31,
----------------------------
2003 2002
------------ ------------
Cash flows from operating activities:
Net income $ 1,135,098 $ 871,358
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization 609,644 430,826
Provision for loan losses 999,364 590,000
Net (accretion) amortization of debt and equity securities (4,330) 215,777
Mortgage loans originated for sale (27,424,422) (16,379,841)
Proceeds from mortgage loans sold 31,075,836 23,048,163
Gain on sale of mortgage loans (527,862) (360,337)
Noncash compensation expense attributed to stock option grants 85,805 52,899
Increase in accrued interest receivable (197,478) (607,776)
Increase in accrued interest payable 3,988 401,938
Other, net 846,232 905,110
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Net cash provided by operating activities 6,601,875 9,168,117
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Cash flows from investing activities:
Purchases of available for sale debt and equity securities (26,157,435) (11,581,942)
Purchases of equity securities (512,200) (355,000)
Proceeds from sale of available for sale debt securities 11,116,940 --
Proceeds from maturities and principal paydowns on available for sale debt and equity securities 12,391,634 9,724,797
Proceeds from maturities and principal paydowns on held to maturity debt securities -- 100,000
Net increase in loans (33,193,811) (47,397,540)
Recoveries of loans previously charged off 69,998 24,217
Net decrease in assets held for sale 7,768,658 2,176,886
Net decrease in liabilities held for sale (1,191,257) (2,789,631)
Proceeds from sale of fixed assets -- 11,079
Purchases of fixed assets (79,417) (318,190)
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Net cash used in investing activities (29,786,890) (50,405,324)
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Cash flows from financing activities:
Net increase (decrease) in non-interest bearing deposit accounts 9,867,754 (5,062,919)
Net increase (decrease) in interest bearing deposit accounts 13,934,254 (2,410,834)
Maturities and paydowns of Federal Home Loan Bank advances (20,030,436) (23,795)
Proceeds from borrowings of Federal Home Loan Bank advances 20,000,000 1,500,000
Proceeds from notes payable 100,000 500,000
Cash dividends paid (190,652) (162,916)
Proceeds from the exercise of common stock options 380,142 278,257
------------ ------------
Net cash provided by (used in) by financing activities 24,061,062 (5,382,207)
------------ ------------
Net increase in cash and cash equivalents 876,047 (46,619,414)
Cash and cash equivalents, beginning of period 72,485,483 84,236,186
------------ ------------
Cash and cash equivalents, end of period $ 73,361,530 $ 37,616,772
============ ============
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 2,830,800 $ 3,460,611
Income taxes 3,616 --
============ ============
Noncash transactions:
Transfers to other real estate owned in settlement of loans 344,985 --
============ ============
See accompanying notes to unaudited consolidated financial statements.
4
ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(1) Basis of Presentation
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States of America for interim financial information and with the
instructions to Form 10-Q and Rule 10-01 of Regulation S-X. They do not
include all information and footnotes required by accounting principles
generally accepted in the United States of America for complete
consolidated financial statements. The accompanying consolidated financial
statements of Enterprise Financial Services Corp and subsidiaries (the
"Company" or "Enterprise Financial") are unaudited and should be read in
conjunction with the consolidated financial statements and notes thereto
contained in the Company's Annual Report on Form 10-K for the year ended
December 31, 2002. In the opinion of management, all adjustments consisting
of normal recurring accruals considered necessary for a fair presentation
of the results of operations for the interim periods presented herein have
been included. Operating results for the three month period ended March 31,
2003 are not necessarily indicative of the results that may be expected for
any other interim period or for the year ending December 31, 2003. The
consolidated financial statements include the accounts of Enterprise
Financial Services Corp and its subsidiaries. All significant intercompany
accounts and transactions have been eliminated.
Certain amounts in the consolidated financial statements for the year ended
December 31, 2002 have been reclassified to conform to the 2003
presentation. Such reclassifications had no effect on previously reported
consolidated net income or shareholders' equity.
(2) Segment Disclosure
Management segregates the Company into three distinct businesses for
evaluation purposes: Enterprise Bank, Enterprise Trust and Corporate and
Intercompany and Reclassifications. The segments are evaluated separately
on their individual performance, as well as their contribution to the
Company as a whole.
The Corporate, Intercompany, and Reclassifications segment includes the
holding company and trust preferred securities activities. The Company
incurs general corporate expenses and owns Enterprise Bank.
The majority of the Company's assets and income result from Enterprise Bank
(the "Bank"). The Bank consists of three banking branches and an operations
center in the St. Louis County area, two banking branches in the Kansas
City region and three banking branches in the Southeast Kansas region
(which were subsequently sold on April 4, 2003). The products and services
offered by the banking branches include a broad range of commercial and
personal banking services, including certificates of deposit, individual
retirement and other time deposit accounts, checking and other demand
deposit accounts, interest checking accounts, savings accounts and money
market accounts. Loans include commercial, financial and agricultural, real
estate construction and development, commercial and residential real
estate, consumer and installment loans. Other financial services include
mortgage banking, debit and credit cards, automatic teller machines,
internet account access, safe deposit boxes, and treasury management
services.
Enterprise Trust, which is a division of the Bank, provides fee-based
personal and corporate financial consulting and trust services. Personal
financial consulting includes estate planning, investment management, and
retirement planning. Corporate consulting services are focused in the areas
of retirement plans, management compensation and management succession
issues.
5
The following are the financial results and balance sheet information for the
Company's operating segments as of March 31, 2003 and December 31, 2002, and for
the three month periods ended March 31, 2003 and 2002 (unaudited):
Corporate,
Enterprise Enterprise Intercompany,
Balance sheet information: Bank Trust and Reclassifications Total
------------ ---------- --------------------- ------------
March 31, 2003
Loans, less unearned loan fees $712,153,863 $-- $ -- $712,153,863
Assets held for sale 28,632,758 -- -- 28,632,758
Goodwill 2,087,537 -- -- 2,087,537
Deposits 740,367,709 -- (187,427) 740,180,282
Borrowings 31,892,279 -- 15,000,000 46,892,279
Liabilities held for sale 48,861,766 -- -- 48,861,766
Total assets $899,947,300 $-- $ 2,350,075 $902,297,375
============ === =========== ============
December 31, 2002
Loans, less unearned loan fees $679,799,399 $-- $ -- $679,799,399
Assets held for sale 36,401,416 -- -- 36,401,416
Goodwill 2,087,537 -- -- 2,087,537
Deposits 717,135,113 -- (820,839) 716,314,274
Borrowings 31,822,797 -- 15,000,000 46,822,797
Liabilities held for sale 50,053,023 -- -- 50,053,023
Total assets $873,035,220 $-- $ 3,751,281 $876,786,501
============ === =========== ============
Corporate,
Enterprise Enterprise Intercompany,
Income statement information: Bank Trust and Reclassifications Total
---------- ---------- --------------------- ----------
Three months ended March 31, 2003
Net interest income $8,362,158 $ -- $ (307,659) $8,054,499
Provision for loan losses 999,364 -- -- 999,364
Noninterest income 1,193,478 589,555 (4,593) 1,778,440
Noninterest expense 5,537,323 769,093 726,376 7,032,792
---------- --------- ----------- ----------
Income (loss) before income tax expense 3,018,949 (179,538) (1,038,628) 1,800,783
Income tax expense (benefit) 1,114,769 (66,429) (382,655) 665,685
---------- --------- ----------- ----------
Net income (loss) $1,904,180 $(113,109) $ (655,973) $1,135,098
========== ========= =========== ==========
Three months ended March 31, 2002
Net interest income $7,440,843 $ -- $ (273,929) $7,166,914
Provision for loan losses 590,000 -- -- 590,000
Noninterest income 879,860 629,056 (17,196) 1,491,720
Noninterest expense 5,443,112 659,549 530,026 6,632,687
---------- --------- ----------- ----------
Income (loss) before income tax expense 2,287,591 (30,493) (821,151) 1,435,947
Income tax expense (benefit) 875,003 (11,282) (299,132) 564,589
---------- --------- ----------- ----------
Net income (loss) $1,412,588 $ (19,211) $ (522,019) $ 871,358
========== ========= =========== ==========
6
(3) Derivative Instruments and Hedging Activities
The Company began utilizing derivative instruments to assist in the management
of interest rate sensitivity and to modify the repricing, maturity and option
characteristics of certain assets and liabilities in the first quarter of 2002.
The Company uses such derivative instruments solely to reduce its interest rate
exposure. The following is a summary of the Company's accounting policies for
derivative instruments and hedging activities under Statement of Financial
Accounting Standards (SFAS) No. 133, Accounting for Derivative Instruments and
Hedging Activities, as amended.
Interest Rate Swap Agreements - Cash Flow Hedges. Interest rate swap agreements
designated as cash flow hedges are accounted for at fair value. The effective
portion of the change in the cash flow hedge's gain or loss is initially
reported as a component of other comprehensive income net of taxes and
subsequently reclassified into noninterest income when the underlying
transaction affects earnings. The ineffective portion of the change in the cash
flow hedge's gain or loss is recorded in earnings on each quarterly measurement
date. The swap agreements are accounted for on an accrual basis with the net
interest differential being recognized as an adjustment to interest income or
interest expense of the related asset or liability. For the three months ended
March 31, 2003 and 2002, a net interest differential of $395,883 and $180,145,
respectively, was included in interest income on loans.
The Bank entered into three interest rate swaps in order to limit exposure from
falling interest rates. The first swap was executed in January 2002 and had a
$40 million notional amount, a term of two years and obligated the Bank to pay
an adjustable rate equivalent to the prime rate and receive a fixed rate of
6.255%. The second swap was also executed in January 2002 and was a "receive
fixed" interest rate of 6.97% and paid an adjustable rate equivalent to the
prime rate, had a notional amount of $20 million and a term of three years. The
third interest rate swap, executed in March 2003, was a "receive fixed" interest
rate of 5.3425% and paid an adjustable rate equivalent to the prime rate, a
notional amount of $30 million and a term of three years. The swaps pay interest
on a quarterly basis and the net cash flow paid or received is included in
interest income on loans. The swaps qualify as "cash flow hedges" under SFAS No.
133, so changes in the fair value of the swaps are recognized as part of other
comprehensive income. On March 31, 2003, the Bank had $2.4 million in cash
collateral from the counter party on the interest rate swap agreements, which is
included on the balance sheet as notes payable and other borrowings. The cash
collateral is interest bearing at an interest rate that floats with the three
month London Inter Bank Offered Rate ("LIBOR").
The notional amounts of derivative financial instruments do not represent
amounts exchanged by the parties and, therefore, are not a measure of the Banks'
credit exposure through its use of these instruments. The credit exposure
represents the accounting loss the Bank would incur in the event the counter
parties failed completely to perform according to the terms of the derivative
financial instruments and the collateral held to support the credit exposure was
of no value. On March 31, 2003 the Bank had credit exposure of $327,049.
Interest Rate Swap Agreements - Fair Value Hedges. Interest rate swap agreements
designated as fair value hedges are accounted for at fair value. Changes in the
fair value of the swap agreements are recognized currently in noninterest
income. The change in the fair value on the underlying hedged item attributable
to the hedged risk adjusts the carrying amount of the underlying hedged item and
is also recognized currently in noninterest income. All changes in fair value
are measured on a quarterly basis.
In May 2002, the Bank executed an interest rate swap to limit the risk of a
change in the fair value of the $20 million in fixed interest rate brokered CDs
obtained simultaneously. The swap had a $20 million notional amount, a term of
two years and obligated the Bank to pay an adjustable rate equivalent to the
three-month LIBOR plus 19 basis points and receive a fixed rate of 3.55%. The
terms allow for semiannual payments for both sides of the swap. The swap
qualifies for the "shortcut method" under SFAS No. 133. As a result, changes in
the fair value of the swap directly offset changes in the fair value of the
hedged item (i.e., brokered CDs). The impact of the swap on the Company's
statement of operations is that it converts the fixed interest rate on the
brokered CDs to a variable interest rate. The swap agreement is accounted for on
an accrual basis with the net interest differential being recognized as an
adjustment to interest income or interest expense of the related asset or
liability. For the three months ended March 31, 2003, a net interest
differential of $98,112 decreased interest expense on certificates of deposit.
7
The maturity dates, notional amounts, interest rates paid and received and fair
value of our interest rate swap agreements as of March 31, 2003 were as follows:
Maturity Notional Interest Rate Interest Rate Fair
Hedge Date Amount Paid Received Value
- ---------- --------- ----------- ------------- ------------- --------
Cash flow 1/29/2005 $20,000,000 4.25% 6.97% $997,400
Cash flow 1/29/2004 40,000,000 4.25 6.26 863,756
Fair Value 5/10/2004 20,000,000 1.54 3.55 601,241
Cash flow 3/21/2006 30,000,000 4.25 5.34 220,652
(4) New Accounting Standards
In June 2002, the Financial Accounting Standards Board (FASB) issued SFAS No.
146, Accounting for Costs Associated with Exit or Disposal Activities. SFAS No.
146 addresses financial accounting and reporting for costs associated with exit
or disposal activities and nullifies Emerging Issues Task Force (EITF) Issue
94-3, Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity. The provisions of this Statement are effective for
exit or disposal activities that are initiated after December 31, 2002, with
early application encouraged. The adoption of SFAS No. 146 on January 1, 2003
did not have a material effect on the Company's consolidated financial
statements.
In November 2002, the FASB issued Interpretation No. 45, Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness to Others, an interpretation of FASB Statements No. 5, 57 and 107
and a rescission of FASB Interpretation No. 34. This Interpretation elaborates
on the disclosures to be made by a guarantor in its interim and annual financial
statements about its obligations under guarantees issued. The Interpretation
also clarifies that a guarantor is required to recognize, at inception of a
guarantee, a liability for the fair value of the obligation undertaken. The
initial recognition and measurement provisions of the Interpretation are
applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The disclosure requirements are effective for financial
statements of interim and annual periods ending after December 15, 2002. We have
implemented the requirements of FASB Interpretation No.45 and determined they
did not have a material effect on our consolidated financial statements other
than the additional disclosure requirements.
In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation - Transition and Disclosure, an amendment of FASB Statement No.
123. This Statement amends FASB Statement No. 123, Accounting for Stock-Based
Compensation, to provide alternative methods of transition for a voluntary
change to the fair value method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure requirements of
Statement No. 123 to require prominent disclosures in both annual and interim
financial statements. Certain of the disclosures modifications are required for
fiscal years ending after December 15, 2002 and are included in the notes to
these consolidated financial statements.
In April of 2003, the FASB issued SFAS No.149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities. This Statement amends and
clarifies accounting for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities under
Statement 133. This Statement is effective for contracts entered into or
modified after June 30, 2003, and for hedging relationships designated after
June 30, 2003. The provisions of this Statement are applied prospectively.
(5) Sale of Southeast Kansas Branches
On December 30, 2002, the Company signed an Asset Purchase Agreement to sell its
Humboldt, Chanute and Iola, Kansas branches ("Southeast Kansas branches") to
Emprise Financial Corporation based in Wichita, Kansas. Assets of $28.6 and
$36.4 million and deposits of $48.9 and $50.1 million associated with these
branches are shown as "held for sale" on the Company's balance sheet at March
31, 2003 and December 31, 2002, respectively. The Company received a 2.5%
premium on loans and a 4.75% premium on deposits, which generated a $3.1 million
pretax gain. All other items were sold at book value. There are approximately
$350,000 in expenses and a $150,000 goodwill write-off related to the sale. The
sale was subject to the satisfaction of customary conditions, including
regulatory approvals, and closed on April 4, 2003. The Southeast Kansas branches
are included in the Enterprise Banking segment.
8
Following is the detail of assets and liabilities held for sale at March 31,
2003 and December 31, 2002:
March 31, December 31,
2003 2002
----------- ------------
Assets held for sale:
Loans, less unearned loan fees $27,557,631 $35,294,138
Fixed assets, net 1,075,127 1,107,278
----------- -----------
Total assets held for sale 28,632,758 36,401,416
=========== ===========
Liabilities held for sale:
Demand deposits 5,876,407 5,619,146
Interest bearing transaction accounts 12,036,278 12,284,145
Money market accounts 3,967,197 4,726,423
Savings 5,126,580 5,106,036
Certificates of deposit:
$100,000 and over 1,639,570 1,650,261
Other 20,215,734 20,667,012
----------- -----------
Total liabilities held for sale $48,861,766 $50,053,023
=========== ===========
(6) Stock Option Plans
As allowed by SFAS No. 123, the Company has elected to apply the
intrinsic-value-based method of accounting prescribed by Accounting Principles
Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and
related interpretations including FASB Interpretation No. 44, Accounting for
Certain Transactions involving Stock Compensation, an interpretation of APB
Opinion No. 25, issued in March 2000, to account for its fixed-plan stock
options. Under this method, compensation expense is recorded on the date of
grant only if the current market price of the underlying stock exceeded the
exercise price. SFAS No. 123, Accounting for Stock-Based Compensation,
established accounting and disclosure requirements using a fair-value-based
method of accounting for stock-based employee compensation plans. As allowed by
SFAS No. 123, the Company has elected to continue to apply the
intrinsic-value-based method of accounting described above, and has adopted only
the disclosure requirements of SFAS No. 123. The following table illustrates the
effect on net income if the fair-value-based method had been applied to all
outstanding and unvested awards in each period.
Three months ended
March 31,
----------------------
2003 2002
---------- ---------
Net income, as reported $1,135,098 $ 871,358
Deduct total stock-based employee compensation
expense determined under fair-value-based
method for all rewards, net of tax (221,463) (143,823)
---------- ---------
Pro forma net income $ 913,635 $ 727,535
========== =========
Earnings per share:
Basic:
As reported $ 0.12 $ 0.09
Pro forma 0.10 0.08
Diluted:
As reported $ 0.12 $ 0.09
Pro forma 0.09 0.08
(7) Disclosures about Financial Instruments
The Bank issues financial instruments with off balance sheet risk in the normal
course of the business of meeting the financing needs of its customers. These
financial instruments include commitments to extend credit and standby letters
of credit. These instruments may involve, to varying degrees, elements of credit
and interest-rate risk in excess of the amounts recognized in the consolidated
balance sheets.
The Company's extent of involvement and maximum potential exposure to credit
loss in the event of nonperformance by the other party to the financial
instrument for commitments to extend and standby letters of credit is
represented by the contractual amount of these instruments. The Bank uses the
same credit policies in making commitments and
9
conditional obligations as it does for financial instruments included on its
consolidated balance sheets. At March 31, 2003 and December 31, 2002, no amounts
have been accrued for any estimated losses for these financial instruments.
The contractual amount of off-balance-sheet financial instruments as of March
31, 2003 and December 31, 2002 is as follows:
March 31, December 31,
2003 2002
------------ ------------
Commitments to extend credit $191,770,398 $183,070,617
Standby letters of credit 22,657,225 $ 17,755,979
============ ============
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Of the total commitments to extend credit at March 31,
2003, approximately $7,746,505 represents fixed rate loan commitments. Of the
total commitments to extend credit at December 31, 2002, approximately
$6,070,659 represents fixed rate loan commitments. Since certain of the
commitments may expire without being drawn upon, the total commitment amounts do
not necessarily represent future cash requirements. The Bank evaluates each
customer's credit worthiness on a case-by-case basis. The amount of collateral
obtained, if deemed necessary by the Bank upon extension of credit, is based on
management's credit evaluation of the borrower. Collateral held varies, but may
include accounts receivable, inventory, premises and equipment, and real estate.
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party. These standby letters
of credit are primarily issued to support contractual obligations of the Bank's
customers. The credit risk involved in issuing letters of credit is essentially
the same as the risk involved in extending loans to customers. The approximate
remaining terms of standby letters of credit range from 1 month to 9 years at
March 31, 2003.
Item 2: Management's Discussion and Analysis of
Financial Condition and Results of Operations
Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995
Readers should note that in addition to the historical information contained
herein, some of the information in this report contains forward-looking
statements within the meaning of the federal securities laws. Forward-looking
statements typically are identified with use of terms such as "may," "will,"
"expect," "anticipate," "estimate" and similar words, although some
forward-looking statements are expressed differently. You should be aware that
the Company's actual results could differ materially from those contained in the
forward-looking statements due to a number of factors, including burdens imposed
by federal and state regulation of banks, credit risk, exposure to local
economic conditions, risks associated with rapid increase or decrease in
prevailing interest rates and competition from banks and other financial
institutions, all of which could cause the Company's actual results to differ
from those set forth in the forward-looking statements.
Introduction
This discussion summarizes the significant factors affecting the consolidated
financial condition, results of operations, liquidity and cash flows of the
Company for the three month period ended March 31, 2003 compared to the three
month period ended March 31, 2002 and the year ended December 31, 2002. This
discussion should be read in conjunction with the consolidated financial
statements and notes thereto contained in the Company's Annual Report on Form
10-K for the year ended December 31, 2002.
Financial Condition
Total assets at March 31, 2003 were $902 million, an increase of $25 million, or
3%, over total assets of $877 million at December 31, 2002. Loans and leases,
net of unearned loan fees, were $712 million, an increase of $32 million, or 5%,
over total loans and leases of $680 million at December 31, 2002. The increase
in loans is attributed, in part, to the
10
success of the efforts of the Company's relationship officers. Federal funds
sold, interest-bearing deposits and investment securities were $100 million at
March 31, 2003 and December 31, 2002.
Total deposits at March 31, 2003 were $740 million, an increase of $24 million,
or 3%, over total deposits of $716 million at December 31, 2002. Certificates of
deposits were $169 million, an increase of $12 million, or 8%, over certificates
of deposits at December 31, 2002. The Bank executed a $10 million brokered
certificate of deposit in March 2003.
Total shareholders' equity at March 31, 2003 was $60.2 million, an increase of
$1.3 million, or 3%, over total shareholders' equity of $58.8 million at
December 31, 2002. The increase in equity is due to net income of $1.1 million
for the three months ended March 31, 2003, the exercise of incentive stock
options by employees, less dividends paid to shareholders, and a decrease in
accumulated other comprehensive income.
Results of Operations
Net income was $1,135,098 for the three month period ended March 31, 2003, an
increase of 30% compared to net income of $871,358 for the same period in 2002.
The increase in net income for the three months ended March 31, 2003 is
attributable to an increase in net interest income and an increase in
noninterest income partially offset by an increase in noninterest expense and
provision for loan losses. Basic earnings per share for the three month period
ended March 31, 2003 and 2002 were $0.12 and $0.09, respectively. Fully diluted
earnings per share for the three month periods ended March 31, 2003 and 2002
were $0.12 and $0.09, respectively.
Net Interest Income
Net interest income (on a tax equivalent basis) was $8.1 million, or 4.08%, of
average interest-earning assets, for the three months ended March 31, 2003,
compared to $7.2 million, or 3.92%, of average interest-earning assets, for the
same period in 2002. The $965,000 increase in net interest income for the three
months ended March 31, 2003 as compared to the same period in 2002 was the
result of an increase in average interest-earning assets and a decrease in the
interest rates on average interest-bearing liabilities partially offset by a
decrease in interest rates of average interest-earning assets and an increase in
average interest-bearing liabilities. Average interest-earning assets for the
three months ended March 31, 2003 were $809 million, a $65 million, or 9%,
increase over $744 million, during the same period in 2002. The increase in
average interest-earning assets is attributable to the continued calling efforts
of the Company's relationship officers. The yield on average interest-earning
assets decreased to 5.51% for the three month period ended March 31, 2003
compared to 6.02% for the three month period ended March 31, 2002. The decrease
in asset yield was primarily due to a 50 basis point decrease in the prime rate
since March 31, 2002 and a general decrease in the average yield on new fixed
rate loans and investment securities. Average interest-bearing liabilities
increased to $647 million for the three months ended March 31, 2003 from $610
million for the same period in 2002. The cost of interest-bearing liabilities
decreased to 1.78% for the three months ended March 31, 2003 compared to 2.57%
for the same period in 2002. This decrease is attributed mainly to declines in
market interest rates for all sources of funding and a change in the mix of
liabilities. Demand deposits increased $29 million, or 25%, to $145 million for
the three months ended March 31, 2003 from $116 million for the same period in
2002. Interest bearing liabilities as a percent of average assets decreased to
75.42% for the three months ended March 31, 2003 from 78.13% for the same period
in 2002. The increase in demand deposit accounts, money market accounts and
savings accounts is attributed to continued calling efforts of the Company's
relationship officers. Certificate of deposit accounts decreased to $181 million
at March 31, 2003 from $191 million at March 31, 2002. This decrease in
certificate of deposit accounts is a result of their relative unattractiveness
to customers as compared to money market and other more liquid products in the
current rate environment. The decrease in certificate of deposit accounts was
replaced with Federal Home Loan Bank borrowings. The Company issued $4 million
in floating rate Trust Preferred Securities in June 2002.
11
The following table sets forth, on a tax-equivalent basis, certain information
relating to the Company's average balance sheet and reflects the average yield
earned on interest-earning assets, the average cost of interest-bearing
liabilities and the resulting net interest spread and net interest rate margin
for the three month periods ended March 31, 2003 and 2002:
Three Months Ended March 31,
-----------------------------------------------------------------------------------
2003 2002
---------------------------------------- ----------------------------------------
Percent Interest Average Percent Interest Average
Average of Total Income/ Yield/ Average of Total Income/ Yield/
Balance Assets Expense Rate Balance Assets Expense Rate
-------- -------- -------- ------- -------- -------- -------- -------
(Dollars in Thousands)
Assets
Interest-earning assets:
Loans (1) (2) $728,395 84.87% $10,464 5.83% $668,497 85.58% $10,479 6.36%
Taxable investments in debt
and equity securities 65,637 7.65 482 2.98 47,924 6.13 458 3.87
Non-taxable investments in debt
and equity securities (2) 27 -- -- 4.25 73 0.01 1 7.72
Federal funds sold 14,925 1.74 38 1.03 24,068 3.08 92 1.55
Interest-bearing deposits 79 0.01 -- 0.29 3,397 0.43 17 2.05
-------- ------ ------- -------- ------ -------
Total interest-earning assets 809,063 94.27 $10,984 5.51% 743,959 95.23 $11,047 6.02%
Non interest-earning assets:
Cash and due from banks 32,907 3.83 24,614 3.15
Fixed assets, net 8,686 1.01 9,953 1.27
Prepaid expenses and other assets 16,668 1.95 10,267 1.31
Allowance for loan losses (9,122) (1.06) (7,569) (0.96)
-------- ------ -------- ------
Total assets $858,202 100.00% $781,224 100.00%
======== ====== ======== ======
Liabilities and Shareholders' Equity
Interest-bearing liabilities:
Interest-bearing transaction accounts $ 63,857 7.44% $ 52 0.33% $ 66,297 8.48% $ 68 0.42%
Money market accounts 344,295 40.12 927 1.09 317,383 40.62 1,274 1.63
Savings 8,839 1.03 14 0.64 8,328 1.07 21 1.02
Certificates of deposit 180,867 21.08 1,232 2.76 190,740 24.42 2,041 4.34
Guaranteed preferred beneficial interest
in subordinated debentures 15,000 1.75 309 8.35 11,000 1.41 259 9.55
Borrowed funds 34,301 4.00 301 3.56 16,689 2.13 200 4.86
-------- ------ ------- -------- ------ -------
Total interest-bearing liabilities 647,159 75.42 2,835 1.78 610,437 78.13 3,863 2.57
Noninterest-bearing liabilities:
Demand deposits 144,803 16.87 115,739 14.82
Other liabilities 5,277 0.61 2,100 0.27
-------- ------ -------- ------
Total liabilities 797,239 92.90 728,276 93.22
Shareholders' equity 60,963 7.10 52,948 6.78
-------- ------ -------- ------
Total liabilities and shareholders' equity $858,202 100.00% $781,224 100.00%
======== ====== ======== ======
Net interest income $ 8,149 $ 7,184
======= =======
Net interest spread 3.73 3.46
Net interest rate margin (3) 4.08% 3.92%
==== ====
(1) Average balances include non-accrual loans. The income on such loans is
included in interest income but is recognized only upon receipt. Loan fees
included in interest income are approximately $380,000 and $335,000 for the
three months ended March 31, 2003 and 2002, respectively.
(2) Non-taxable investment income is presented on a fully tax-equivalent basis
assuming a tax rate of 34%.
(3) Net interest income divided by average total interest-earning assets.
During the three months ended March 31, 2003, an increase in the average volume
of interest-earning assets resulted in an increase in interest income of
$1,004,000. Interest income decreased $1,067,000 due to a decrease in rates on
average interest-earning assets. Increases in the average volume of savings and
money market accounts, guaranteed preferred beneficial interests in subordinated
debentures, and borrowed funds resulted in an increase in interest expense of
$252,000. Changes in interest rates on the average volume of interest-bearing
liabilities resulted in a decrease in interest expense of $1,280,000. The net
effect of the volume and rate changes associated with all categories of
interest-earning assets during the three months ended March 31, 2003 as compared
to the same period in 2002 was a decrease in interest income of $63,000, while
the net effect of the volume and rate changes associated with all categories of
interest-bearing liabilities was a decrease in interest expense of $1,028,000.
12
The following table sets forth on a tax equivalent basis, for the three months
ended March 31, 2003 compared to the same period ended March 31, 2002, a summary
of the changes in interest income and interest expense resulting from changes in
yield/rates and volume:
2003 Compared to 2002
Increase (Decrease) Due to
-----------------------------
Volume(1) Rate(2) Net
--------- ------- -------
(Dollars in Thousands)
Interest earned on:
Loans $ 898 $ (913) $ (15)
Taxable investments in debt and
equity securities 144 (120) 24
Nontaxable investments in debt
and equity securities (3) (0) (1) (1)
Federal funds sold (29) (25) (54)
Interest-bearing deposits (9) (8) (17)
------ ------- -------
Total interest-earning assets $1,004 $(1,067) $ (63)
------ ------- -------
Interest paid on:
Interest-bearing transaction
accounts $ (2) $ (14) $ (16)
Money market accounts 102 (449) (347)
Savings 1 (8) (7)
Certificates of deposit (101) (708) (809)
Guaranteed preferred beneficial
interests in subordinated
debentures 86 (36) 50
Borrowed funds 166 (65) 101
------ ------- -------
Total 252 (1,280) (1,028)
------ ------- -------
Net interest income $ 752 $ 213 $ 965
====== ======= =======
(1) Change in volume multiplied by yield/rate of prior period.
(2) Change in yield/rate multiplied by volume of prior period.
(3) Nontaxable investments in debt securities are presented on a fully
tax-equivalent basis assuming a tax rate of 34%.
NOTE: The change in interest due to both rate and volume has been allocated to
rate and volume changes in proportion to the relationship of the absolute dollar
amounts of the change in each.
13
Provision for Loan Losses
The provision for loan losses was $999,000 and $590,000 for the three month
periods ended March 31, 2003 and 2002, respectively. The Company had net charge
offs of $424,000 for the three months ended March 31, 2003 compared to net
charge offs of $30,000 during the same period ended March 31, 2002. In March
2003, the Company had a partial charge off of $494,000 related to a problem loan
relationship. The increase in provision for loan losses during the first three
months of 2003 as compared to the same period in 2002 was due to a $2,179,000
increase in non-performing loans, an increase in loans charged off and a concern
with the current downward trend in the economic environment from March 31, 2002
to March 31, 2003. Two relationships comprise $3.2 million or 71% of the
nonaccrual loans at March 31, 2003.
The following table summarizes changes in the allowance for loan losses arising
from loans charged off and recoveries on loans previously charged off, by loan
category, and additions to the allowance that have been charged to the
provision:
Three months ended
March 31,
-------------------
2003 2002
-------- --------
(Dollars in thousands)
Allowance at beginning of period $ 8,600 $ 7,296
Loans charged off:
Commercial and industrial 494 31
Real estate:
Commercial -- 14
Construction -- --
Residential -- --
Consumer and other -- 9
-------- --------
Total loans charged off 494 54
-------- --------
Recoveries of loans previously charged off:
Commercial and industrial 3 10
Real estate:
Commercial -- 5
Construction -- --
Residential 18 --
Consumer and other 49 9
-------- --------
Total recoveries of loans previously charged off 70 24
-------- --------
Net loans charged off 424 30
-------- --------
Provision for loan losses 999 590
-------- --------
Allowance at end of period $ 9,175 $ 7,856
======== ========
Average loans $728,395 $668,497
Total loans $712,154 $650,091
Nonperforming loans $ 5,013 $ 2,834
Net charge-offs to average loans (annualized) 0.24% 0.02%
Allowance for loan losses to total loans 1.29% 1.21%
The Company's credit management policies and procedures focus on identifying,
measuring, and controlling credit exposure. These procedures employ a
lender-initiated system of rating credits, which is ratified in the loan
approval process and subsequently tested in internal loan reviews and regulatory
bank examinations. The system requires rating all loans at the time they are
made.
14
Adversely rated credits, including loans requiring close monitoring, which would
not normally be considered criticized credits by regulators, are included on a
monthly loan watch list. Other loans are added whenever any adverse circumstance
is detected which might affect the borrower's ability to meet the terms of the
loan. This could be initiated by the delinquency of a scheduled loan payment, a
deterioration in the borrower's financial condition identified in a review of
periodic financial statements, a decrease in the value of the collateral
securing the loan, or a change in the economic environment in which the borrower
operates. Loans on the watch list require detailed loan status reports prepared
by the responsible officer every three months, which are then discussed in
formal meetings with the Senior Lending Officer and the Executive Loan
Committee. Downgrades of loan risk ratings may be initiated by the responsible
loan officer, internal loan review, or credit analyst department at any time.
However, upgrades of risk ratings may only be made with the concurrence of the
Executive Loan Committee generally at the time of the formal quarterly watch
list review meetings.
Each month, management prepares a detailed list of loans on the watch list and
summaries of the entire loan portfolio categorized by risk rating. These are
coupled with an analysis of changes in the risk profiles of the portfolios,
changes in past due and non-performing loans and changes in watch list and
classified loans over time. In this manner, the overall increases or decreases
in the levels of risk in the portfolios are monitored continually. Factors are
applied to the loan portfolios for each category of loan risk to determine
acceptable levels of allowance for loan losses. These factors are derived
primarily from the actual loss experience. The calculated allowance for loan
losses required for the portfolios are then compared to the actual allowance
balances to determine the provision necessary to maintain the allowance for loan
losses at an appropriate level. In addition, management exercises judgment in
its analysis of determining the overall level of the allowance for loan losses.
In its analysis, management considers the change in the portfolio, including
growth and composition, and the economic conditions of the region in which the
Company operates. Based on this quantitative and qualitative analysis, the
allowance for loan losses is adjusted. Such adjustments are reflected in the
consolidated statements of operations.
The Company does not engage in foreign lending. Additionally, the Company does
not have any concentrations of loans exceeding 10% of total loans, which are not
otherwise disclosed in the loan portfolio composition table provided in the most
recent 10-K Report. The Company does not have a material amount of
interest-bearing assets, which would have been included in non-accrual, past due
or restructured loans if such assets were loans.
Management believes the allowance for loan losses is adequate to absorb probable
losses in the loan portfolio. While management uses available information to
recognize loan losses, future additions to the allowance for loan losses may be
necessary based on changes in economic conditions. In addition, various
regulatory agencies, as an integral part of their examination process,
periodically review the allowance for loan losses. Such agencies may require the
Company to increase the allowance for loan losses based on their judgments and
interpretations about information available to them at the time of their
examinations.
15
The Bank had no loans 90 days past due still accruing interest at March 31, 2003
or December 31, 2002. The following table sets forth information concerning the
Company's non-performing assets as of the dates indicated:
March 31, December 31,
2003 2002
--------- ------------
(Dollars in Thousands)
Non-accrual loans $ 4,503 $ 2,212
Restructured loans 510 1,676
-------- --------
Total nonperforming loans 5,013 3,888
Foreclosed property 450 125
-------- --------
Total non performing assets $ 5,463 $ 4,013
======== ========
Total assets $902,297 $876,787
Total loans, less unearned loan fees $712,154 $679,799
Total loans plus foreclosed property $712,604 $679,924
Nonperforming loans to loans 0.70% 0.57%
Nonperforming assets to loans plus
foreclosed property 0.77% 0.59%
Nonperforming assets to total assets 0.61% 0.46%
Noninterest Income
Noninterest income was $1,778,440 for the three month period ended March 31,
2003, compared to $1,491,720 for the same period in 2002. The increases are
primarily attributed to increases in service charges on deposit accounts, an
increase in the gain on the sale of mortgage loans and a $77,884 gain on the
sale of securities. Service charges on deposit accounts were $486,627 for the
three month period ended March 31, 2003, as compared to $411,894 for the same
period in 2002. The increase in service charges on deposit accounts is a result
of a decrease in the earnings credit rate on business accounts and an increase
in the number of accounts, account activity and services provided. Gains on the
sale of mortgage loans were $527,862 for the three month period ended March 31,
2003, as compared to $360,337 for the same period in 2002. The increase in these
gains was due to continued demand for refinancing and purchase activities as a
result of a very low interest rate environment. These loans are sold into the
secondary market with release of the servicing rights. These increases were
slightly offset by the $39,501 decrease in the trust and financial advisory
income for the three month period ended March 31, 2003 as compared to the same
period in 2002. In January 2002, the Company received $77,665 in special
commissions on insurance sales. Excluding these special commissions in 2002 the
trust and financial advisory income increased $38,164 for the three-month period
ended March 31, 2003, as compared to the same period in 2002.
Noninterest Expense
Total noninterest expense was $7,032,792 for the three months ended March 31,
2003, representing a $400,105, or 6% increase from the same period in 2002. This
variance was due to increased employee compensation, occupancy costs, insurance
expenses and director expenses offset by declines in various discretionary
expense categories and reductions in equipment and data processing costs.
Employee compensation and benefits increased $327,250, or 9%, for the months
ended March 31, 2003 as compared to the same period in 2002. Approximately
$97,000 of this increase was related to higher commission payouts in the
mortgage department of the Bank. Another $178,000 of this increase was due to
increased accruals under the Company's incentive bonus program and 401K match
benefit as the Company exceeded budgeted performance for the
16
quarter. The remaining variance in this category was attributable to annual
merit increases for personnel and higher compensation associated with new middle
and senior management hired during 2002. Offsetting some of these costs was an
overall reduction in staffing levels required as there were 13 fewer full-time
equivalent employees at March 31, 2003 versus March 31, 2002.
Occupancy expense increased $18,462, or 4%, for the three months ended March 31,
2003 as compared to the same period in 2002. Most of the increase in occupancy
expenses was due to scheduled rent increases on various Company facilities
offset by a decrease in building depreciation expense. Upon signing the
definitive sales agreement of its Southeast Kansas branches the Company
discontinued depreciation on the assets held for sale.
The increase in other noninterest expense is the result of an increase in
director expenses, amortization of a noncompete agreement executed on September
30, 2002, and insurance expenses offset by a decrease in meals and entertainment
expenses and legal and professional fees. Director expenses were $113,000 for
the three months ended March 31, 2003 as compared to $24,000 for the same period
in 2002. The Company started paying a monthly retainer fee to several Board
Chairmen of the Banking Board of Directors and other key Directors in 2003. In
addition, several Board members chose to forfeit their stock appreciation rights
and receive cash payments for meeting attendance. The stock appreciation rights
still outstanding are marked to the stock market price on a quarterly basis. The
$1.30 increase in the stock price from December 31, 2002 to March 31, 2003
resulted in a $66,000 mark to market expense, which is included in the $113,000
in Directors expenses mentioned above. The Company recognized $160,000 in
expense related to a noncompete agreement with a former key employee during the
three months ended March 31, 2003. Insurance expenses increased $134,000 in 2003
as a result of expected increases in premiums on the renewal of various
insurance policies, timing on the payment of insurance premiums, along with
increases in certain insurance coverages.
Declines in certain discretionary expense categories like 1) meals,
entertainment and travel, 2) stationary and office supplies, and 3) legal and
professional fees were due to a concerted effort by management. The $41,212
decrease in furniture, equipment and data processing along with the $21,038
decrease in communications expense was the result of savings from information
technology and communications upgrades and the discontinuation of depreciation
on assets held for sale on January 1, 2003.
The ratio of noninterest expense to average assets for the three months ended
March 31, 2003 was 3.32% versus 3.44% for the same period in 2002. The
efficiency ratio, which is total expenses as a percent of total revenues, was
71.5% for the three months ended March 31, 2003 as compared to 76.6% for the
same period in 2002. Management is focused on lowering these ratios in future
years through improved employee productivity and better expense controls.
Liquidity
Liquidity is provided by the Bank's earning assets, including short-term
investments in federal funds sold, maturities in the loan and investment
portfolios, and amortization of term loans, along with deposit inflows, and
proceeds from borrowings. At March 31, 2003, the loan to deposit ratio was 96%,
as compared to 95% at December 31, 2002. Federal funds sold, interest bearing
deposits and investment securities were $100 million at March 31, 2003 and
December 31, 2002. During the three months ended March 31, 2003, the Bank funded
net new loans of $33 million, while deposits increased a net $24 million. During
March 2003, the Bank obtained $10 million in brokered certificates of deposit
with a 2 year maturity, which supplemented its core deposit activities. In April
2003, the Bank absorbed about $15 million in lost liquidity when it closed on
the sale of the Southeast Kansas Branches, as they were a net provider of funds.
The Bank closely monitors its current liquidity position and believes there are
sufficient backup sources of liquidity. As of March 31, 2003, the Bank has over
$99 million available from the Federal Home Loan Bank of Des Moines under a
blanket loan pledge, and $50 million from the Federal Reserve under a pledged
loan agreement. The Bank also has access to over $50 million in overnight fed
funds lines from various banking institutions. In addition, the Company has a $5
million credit line, which can be drawn upon for additional capital injections
into the Bank.
17
Capital Adequacy
The Bank is subject to various regulatory capital requirements administered by
the federal and state banking agencies. Failure to meet minimum requirements can
initiate certain mandatory and possible additional discretionary actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank 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 Bank's capital amounts and classifications are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.
Quantitative measures established by regulations to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios of total and Tier I
capital (as defined in the regulations) to risk-weighted assets, and of Tier I
capital to average assets. Management believes the Bank is well capitalized.
As of March 31, 2003, the most recent notification from the Company's primary
regulator categorized the Bank as well capitalized under the regulatory
framework for prompt corrective action. To be categorized as well capitalized,
the Bank must maintain minimum total risk-based, Tier I risk-based and Tier I
leverage ratios as set forth in the following table.
18
At March 31, 2003 and December 31, 2002, Enterprise Financial Services Corp and
Enterprise Bank had required and actual capital ratios as follows:
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions (1)
------------------- ------------------- ---------------------
Amount Ratio Amount Ratio Amount Ratio
----------- ----- ----------- ----- ----------- -------
At March 31, 2003:
Total Capital (to Risk Weighted Assets)
Enterprise Financial Services Corp $80,353,267 10.77% $59,704,251 8.00% $ -- --%
Enterprise Bank 77,570,807 10.42 59,541,445 8.00 74,426,807 10.00
Tier I Capital (to Risk Weighted Assets)
Enterprise Financial Services Corp $71,178,267 9.54% $29,852,126 4.00% $ -- --%
Enterprise Bank 68,395,807 9.19 29,770,723 4.00 44,656,084 6.00
Tier I Capital (to Average Assets)
Enterprise Financial Services Corp $71,178,267 8.32% $25,673,973 3.00% $ -- --%
Enterprise Bank 68,395,807 8.04 25,527,557 3.00 42,545,928 5.00
At December 31, 2002:
Total Capital (to Risk Weighted Assets)
Enterprise Financial Services Corp $78,207,875 10.95% $57,136,811 8.00% $ -- --%
Enterprise Bank 75,204,737 10.58 56,885,394 8.00 71,106,743 10.00
Tier I Capital (to Risk Weighted Assets)
Enterprise Financial Services Corp $69,607,874 9.75% $28,568,406 4.00% $ -- --%
Enterprise Bank 66,604,736 9.37 28,442,697 4.00 42,664,046 6.00
Tier I Capital (to Average Assets)
Enterprise Financial Services Corp $69,607,874 7.93% $26,346,052 3.00% $ -- --%
Enterprise Bank 66,604,736 7.60 26,283,571 3.00 43,805,951 5.00
(1) There are no regulatory guidelines for the well capitalization of Bank
Holding Companies as opposed to Banks.
19
Effects of Inflation
Changes in interest rates may have a significant impact on a commercial bank's
performance because virtually all assets and liabilities of commercial banks are
monetary in nature. Interest rates do not necessarily move in the same direction
or in the same magnitude as the prices of goods and services. Inflation does
have an impact on the growth of total assets in the banking industry, often
resulting in a need to increase equity capital at higher than normal rates to
maintain an appropriate equity to asset ratio. The Company's operations are not
currently impacted by inflation.
Item 3: Quantitative and Qualitative Disclosures Regarding Market Risk
The Company's exposure to market risk is reviewed on a regular basis by its
Asset/Liability Committee. Interest rate risk is the potential of economic
losses due to future interest rate changes. These economic losses can be
reflected as a loss of future net interest income and/or a loss of current fair
market values. The objective is to measure the effect on net interest income and
to adjust the balance sheet to minimize the interest rate risk while at the same
time maximizing income. Management realizes that certain interest rate risks are
inherent in our business and that the goal is to identify and minimize those
risks. Tools used by management include the standard repricing or "GAP" report
subject to different rate shock scenarios. At March 31, 2003, the rate shock
scenario models indicated that annual net interest income would change by less
than 10% should rates rise 100 basis points and 13% should rates fall 100 basis
points from their current level over a one year period. The Bank has no market
risk sensitive instruments held for trading purposes.
20
The following tables (dollars in thousands) present the scheduled maturity of
market risk sensitive instruments at March 31, 2003:
Beyond 5
Years or No
Stated
Year 1 Year 2 Year 3 Year 4 Year 5 Maturity Total
-------- ------- ------- ------- ------- ----------- --------
ASSETS
Investments in debt and
equity securities $ 29,619 $18,647 $ 9,493 $ 4,095 $ 1,623 $ 5,900 $ 69,377
Interest-bearing
deposits 93 -- -- -- -- -- 93
Federal funds sold 30,828 -- -- -- -- -- 30,828
Loans (1)(4) 512,260 65,330 82,163 13,102 21,751 17,548 712,154
Loans held for sale 3,868 -- -- -- -- -- 3,868
-------- ------- ------- ------- ------- -------- --------
Total $576,668 $83,977 $91,656 $17,197 $23,374 $ 23,448 $816,320
======== ======= ======= ======= ======= ======== ========
LIABILITIES
Savings, NOW, money
market deposits (2) $405,459 $ -- $ -- $ -- $ -- $ -- $405,459
Certificates of deposit (3)(4)
111,627 43,662 11,498 2,097 373 -- 169,257
Guaranteed preferred
beneficial interest in
subordinated
debentures -- -- -- -- -- 15,000 15,000
Borrowed funds 17,309 4,920 2,150 1,525 1,250 4,739 31,893
-------- ------- ------- ------- ------- -------- --------
Total $534,395 $48,582 $13,648 $ 3,622 $ 1,623 $ 19,739 $621,609
======== ======= ======= ======= ======= ======== ========
Average
Interest
Rate for
Three
Months
Ended
Carrying March 31, Estimated
Value 2003 Fair Value
-------- --------- ----------
ASSETS
Investments in debt and
equity securities $ 69,377 2.98% $ 69,377
Interest-bearing
deposits 93 0.29 93
Federal funds sold 30,828 1.03 30,828
Loans 712,154 5.83 726,062
Loans held for sale 3,868 3,868
-------- --------
Total $816,320 $830,228
======== ========
LIABILITIES
Savings, NOW, money
market deposits $405,459 0.96% $405,459
Certificates of deposit 169,257 2.76 173,186
Guaranteed preferred
beneficial interest
in subordinated
debentures 15,000 8.35 15,124
Borrowed funds 31,893 3.56 32,309
-------- --------
Total $621,609 $626,078
======== ========
(1) Year 1 Loans exclude Southeast Kansas Loans held for sale of $27,558.
(2) Year 1 Savings, Now, Money Market Deposits exclude Southeast Kansas
Deposits held for sale of $21,130.
(3) Year 1 CD's exclude Southeast Kansas CDs held for sale of $21,855.
(4) Adjusted for the impact of the interest rate swaps.
21
Item 4: Disclosure Control and Procedures
As of March 31, 2003, under the supervision and with the participation of the
Company's Chief Executive Officer (CEO) and the Chief Financial Officer (CFO),
management has evaluated the effectiveness of the design and operation of the
Company's disclosure controls and procedures. Based on that evaluation, the CEO
and CFO concluded that the Company's disclosure controls and procedures were
effective as of March 31, 2003. There were no significant changes in the
Company's internal controls or in the other factors that could significantly
affect those controls subsequent to the date of the evaluation.
22
Item 6: Exhibits and Reports on Form 8-K
(a). Exhibits.
Exhibit
Number Description
------- -----------
11.1 Statement regarding computation of per share earnings
99.1 Chief Executive Officer Certification pursuant to 18 U.S.C. (S)
1350, as adopted pursuant to section (S) 906 of the
Sarbanes-Oxley Act of 2002
99.2 Chief Financial Officer Certification pursuant to 18 U.S.C. (S)
1350, as adopted pursuant to section (S) 906 of the
Sarbanes-Oxley Act of 2002
(b). During the three months ended March 31, 2003, there were no
reports filed on form 8-K.
23
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Clayton, State of
Missouri on the 14th day of May 2003.
ENTERPRISE FINANCIAL SERVICES CORP
By: /s/ Kevin C. Eichner
------------------------------------
Kevin C. Eichner
Chief Executive Officer
By: /s/ Frank H. Sanfilippo
------------------------------------
Frank H. Sanfilippo
Chief Financial Officer
24
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Kevin C. Eichner, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Enterprise Financial
Services Corp;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarter
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of , and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the Evaluation Date); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evalutation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation including any corrective
actions with regard to significant deficiencies and material weaknesses.
By: /s/ Kevin C. Eichner Date: May 14, 2003
----------------------------
Kevin C. Eichner
Chief Executive Officer
25
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Frank H. Sanfilippo, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Enterprise Financial
Services Corp;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarter
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of , and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the Evaluation Date); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evalutation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation including any corrective
actions with regard to significant deficiencies and material weaknesses
By:/s/ Frank H. Sanfilippo Date: May 14, 2003
-----------------------------
Frank H. Sanfilippo
Chief Financial Officer
26