Form 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[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
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Commission file number 0-13507
RURBAN FINANCIAL CORP.
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(Exact name of registrant as specified in its charter)
Ohio 34-1395608
- -------------------------------- --------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
401 Clinton Street, Defiance, Ohio 43512
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(Address of principal executive offices) (Zip Code)
(419) 783-8950
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(Registrant's telephone number, including area code)
None
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(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 proceeding 12 months (or for such shorter period 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 [ ] No [X]
The number of common shares of Rurban Financial Corp. outstanding was
4,559,820 on August 1, 2004.
1
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
The interim condensed consolidated financial statements of Rurban Financial
Corp. ("Rurban" or the "Company") and subsidiaries are unaudited; however, the
information contained herein reflects all adjustments which are, in the opinion
of management, necessary for a fair presentation of financial condition and
results of operations for the interim periods presented. All adjustments
reflected in these financial statements are of a normal recurring nature in
accordance with Rule 10-01(b)(8) of Regulation S-X. Results of operations for
the three and six months ended June 30, 2004 are not necessarily indicative of
results for the complete year.
2
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, 2004, DECEMBER 31, 2003 AND JUNE 30, 2003
ASSETS
(UNAUDITED) (UNAUDITED)
------------- ------------- -------------
JUNE 30, DECEMBER 31, JUNE 30,
2004 2003 2003
------------- ------------- -------------
Cash and due from banks $ 13,171,717 $ 14,176,952 $ 28,290,819
Federal funds sold 3,000,000 10,000,000 45,300,000
------------- ------------- -------------
Cash and cash equivalents 16,171,717 24,176,952 73,590,819
Interest-bearing deposits 250,000 260,000 660,000
Available-for-sale securities 98,097,284 107,698,595 77,686,612
Loans held for sale -- 218,753 --
Loans, net of unearned income 270,692,050 284,104,311 325,328,441
Allowance for loan losses (6,922,995) (10,181,135) (12,299,309)
Premises and equipment 10,844,554 11,145,499 11,749,767
Federal Reserve and Federal Home Loan Bank stock 2,789,700 2,744,900 3,728,900
Foreclosed assets held for sale, net 405,000 1,390,552 1,198,070
Interest receivable 1,881,886 2,000,732 2,169,656
Deferred income taxes 3,114,552 2,304,264 5,397,313
Goodwill 2,144,304 2,144,304 2,144,303
Core deposits and other intangibles 593,005 644,987 706,742
Other 14,964,505 6,659,158 655,343
------------- ------------- -------------
Total assets $ 415,025,562 $ 435,311,872 $ 492,716,657
============= ============= =============
See notes to condensed consolidated financial statements (unaudited)
Note: The balance sheet at December 31, 2003 has been derived from the audited
consolidated financial statements at that date.
3
LIABILITIES AND STOCKHOLDERS' EQUITY
(UNAUDITED) (UNAUDITED)
------------- ------------- -------------
JUNE 30, DECEMBER 31, JUNE 30,
2004 2003 2003
------------- ------------- -------------
LIABILITIES
Deposits
Demand $ 33,300,989 $ 46,084,861 $ 45,991,520
Savings, interest checking and money market 94,934,794 96,721,318 107,058,255
Time 162,755,279 174,668,570 211,632,260
------------- ------------- -------------
Total deposits 290,991,062 317,474,749 364,682,035
Notes payable 3,050,037 10,327,599 14,461,049
Federal Home Loan Bank advances 54,000,000 39,000,000 39,500,000
Trust preferred securities 10,310,000 10,000,000 10,000,000
Interest payable 2,708,568 2,347,303 2,241,987
Retail repurchase agreements 3,115,032 3,923,754 --
Other liabilities 2,623,647 3,855,711 13,674,495
------------- ------------- -------------
Total liabilities 366,798,346 386,929,116 444,559,566
------------- ------------- -------------
COMMITMENTS AND CONTINGENT LIABILITIES
STOCKHOLDERS' EQUITY
Common stock, $2.50 stated value; authorized
10,000,000 shares; issued 4,575,702; outstanding
June 30, 2004 - 4,567,296, December 31, 2003 -
4,565,879 and June 30, 2003 - 4,565,721 shares 11,439,255 11,439,255 11,439,255
Additional paid-in capital 11,007,086 11,009,268 11,009,733
Retained earnings 27,530,508 26,209,444 25,683,244
Unearned employee stock ownership plan (ESOP)
shares (84,857) (163,493) (281,447)
Accumulated other comprehensive income (1,371,828) 201,082 621,320
Treasury stock, at cost
Common; June 30, 2004 - 8,406, December 31,
2003 - 9,823 and June 30, 2003 - 9,981 shares (292,948) (312,800) (315,014)
------------- ------------- -------------
Total stockholders' equity 48,227,216 48,382,756 48,157,091
------------- ------------- -------------
Total liabilities and stockholders' equity $ 415,025,562 $ 435,311,872 $ 492,716,657
============= ============= =============
See notes to condensed consolidated financial statements (unaudited)
Note: The balance sheet at December 31, 2003 has been derived from the
audited consolidated financial statements at that date.
4
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
THREE MONTHS ENDED
JUNE 30, JUNE 30,
2004 2003
------------ ------------
INTEREST INCOME
Loans $ 3,936,798 $ 6,362,205
Securities
Taxable 862,159 638,845
Tax-exempt 39,171 44,391
Other 10,990 179,205
------------ ------------
Total interest income 4,849,118 7,224,646
------------ ------------
INTEREST EXPENSE
Deposits 1,151,545 2,886,822
Notes payable 81,446 150,247
Federal Home Loan Bank advances 429,997 599,801
Trust preferred securities 276,251 267,944
------------ ------------
Total interest expense 1,939,239 3,904,814
------------ ------------
NET INTEREST INCOME 2,909,879 3,319,832
PROVISION FOR LOAN LOSSES (340,000) 300,000
------------ ------------
NET INTEREST INCOME AFTER PROVISION FOR LOAN
LOSSES 3,249,879 3,019,832
------------ ------------
NON-INTEREST INCOME
Data service fees 2,425,862 2,186,261
Trust fees 732,459 596,432
Customer service fees 505,340 559,037
Net gains on loan sales 9,919 150,998
Net realized gains (losses) on sales of available-
for-sale securities 62,887 (2,901)
Loan servicing fees 97,266 111,484
Gain on sale of assets 96,746 --
Gain on sale of branches -- 11,914,699
Other 152,405 155,384
------------ ------------
Total non-interest income 4,082,884 15,671,394
------------ ------------
See notes to condensed consolidated financial statements (unaudited)
5
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (CONTINUED)
JUNE 30, JUNE 30,
2004 2003
---------- ----------
NON-INTEREST EXPENSE
Salaries and employee benefits $3,295,728 $3,710,122
Net occupancy expense 235,279 303,215
Equipment expense 1,020,485 1,057,472
Data processing fees 68,023 129,392
Professional fees 677,428 2,034,581
Marketing expense 74,571 92,677
Printing and office supplies 107,863 133,323
Telephone and communications 166,643 186,846
Postage and delivery expense 85,811 140,876
State, local and other taxes 211,502 169,032
Other 621,379 895,838
---------- ----------
Total non-interest expense 6,564,712 8,853,374
---------- ----------
INCOME BEFORE INCOME TAX 768,051 9,837,852
PROVISION FOR INCOME TAXES 59,008 3,358,451
---------- ----------
NET INCOME $ 709,043 $6,479,401
========== ==========
BASIC EARNINGS PER SHARE $ 0.16 $ 1.42
========== ==========
DILUTED EARNINGS PER SHARE $ 0.16 $ 1.42
========== ==========
See notes to condensed consolidated financial statements (unaudited)
6
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
SIX MONTHS ENDED
JUNE 30, JUNE 30,
2004 2003
------------ ------------
INTEREST INCOME
Loans $ 8,196,756 $ 15,152,228
Securities
Taxable 1,644,681 1,450,322
Tax-exempt 80,493 84,316
Other 41,065 280,229
------------ ------------
Total interest income 9,962,995 16,967,095
------------ ------------
INTEREST EXPENSE
Deposits 2,430,576 6,726,621
Notes payable 248,299 244,012
Federal Home Loan Bank advances 837,560 1,253,302
Trust preferred securities 552,501 532,944
------------ ------------
Total interest expense 4,068,936 8,756,879
------------ ------------
NET INTEREST INCOME 5,894,059 8,210,216
PROVISION FOR LOAN LOSSES (190,000) 1,494,000
------------ ------------
NET INTEREST INCOME AFTER PROVISION FOR LOAN
LOSSES 6,084,059 6,716,216
------------ ------------
NON-INTEREST INCOME
Data service fees 5,117,100 4,409,445
Trust fees 1,575,989 1,267,933
Customer service fees 1,019,186 1,195,292
Net gains on loan sales 20,047 302,410
Net realized gains on sales of available-for-sale
securities 123,962 23,632
Loan servicing fees 194,031 228,938
Gain on sale of assets 78,331 --
Gain on sale of branches -- 19,950,611
Other 289,253 288,538
------------ ------------
Total non-interest income 8,417,899 27,666,799
------------ ------------
See notes to condensed consolidated financial statements (unaudited)
7
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (CONTINUED)
JUNE 30, JUNE 30,
2004 2003
------------ ------------
NON-INTEREST EXPENSE
Salaries and employee benefits $ 6,550,896 $ 7,525,035
Net occupancy expense 486,705 699,569
Equipment expense 2,059,578 2,116,626
Data processing fees 208,457 219,079
Professional fees 1,145,947 2,809,242
Marketing expense 178,781 193,531
Printing and office supplies 253,639 298,459
Telephone and communications 312,469 384,357
Postage and delivery expense 176,400 331,950
State, local and other taxes 414,601 327,430
Other 1,066,438 1,617,582
------------ ------------
Total non-interest expense 12,853,911 16,522,860
------------ ------------
INCOME BEFORE INCOME TAX 1,648,047 17,860,155
PROVISION FOR INCOME TAXES 326,982 6,081,123
------------ ------------
NET INCOME $ 1,321,065 $ 11,779,032
============ ============
BASIC EARNINGS PER SHARE $ 0.29 $ 2.59
============ ============
DILUTED EARNINGS PER SHARE $ 0.29 $ 2.59
============ ============
See notes to condensed consolidated financial statements (unaudited)
8
RURBAN FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS'
EQUITY (UNAUDITED)
Three Months Three Months Six Months Six Months
Ended Ended Ended Ended
June 30, 2004 June 30, 2003 June 30, 2004 June 30, 2003
Total Total Total Total
Stockholders' Stockholders' Stockholders' Stockholders'
Equity Equity Equity Equity
------------ ------------ ------------ ------------
Balance at beginning of period $ 49,273,631 $ 41,651,508 $ 48,382,756 $ 36,382,332
Net Income 709,043 6,479,401 1,321,065 11,779,032
Other comprehensive income (loss):
Net change in unrealized gains (losses)
on securities available for sale (1,794,775) 26,182 (1,572,911) (43,591)
------------ ------------ ------------ ------------
Total comprehensive income (1,085,732) 6,505,583 (251,846) 11,735,441
Stock options exercised -- -- 17,670 --
Paydown of ESOP loan 39,318 -- 78,636 39,318
------------ ------------ ------------ ------------
Balance at end of period $ 48,227,216 $ 48,157,091 $ 48,227,216 $ 48,157,091
============ ============ ============ ============
See notes to condensed consolidated financial statements (unaudited)
9
RURBAN FINANCIAL CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED
JUNE 30, JUNE 30,
2004 2003
------------ ------------
OPERATING ACTIVITIES
Net income $ 1,321,065 $ 11,779,032
Adjustments to reconcile net income to net cash
provided by operating activities
Depreciation and amortization 1,135,419 1,188,049
Provision for loan losses (190,000) 1,494,000
ESOP shares earned 78,636 39,318
Amortization of premiums and discounts on
securities 408,952 399,455
Amortization of intangible assets 51,982 243,375
Deferred income taxes -- 98,499
Proceeds from sale of loans held for sale 2,785,746 26,676,168
Originations of loans held for sale (2,765,699) (26,373,758)
Gain on sale of branch -- (19,995,365)
Gain from sale of loans (20,047) (302,410)
Gain on sales of foreclosed assets (96,746) --
Loss on sales of fixed assets -- 39,834
Net realized gains on available-for-sale
securities (123,962) (23,632)
Changes in
Interest receivable 118,846 1,797,065
Other assets (305,347) 8,884,683
Interest payable and other liabilities (560,799) 9,881,593
------------ ------------
Net cash provided by operating activities 1,838,046 15,825,906
------------ ------------
INVESTING ACTIVITIES
Net change in interest-bearing deposits 10,000 (400,000)
Purchases of available-for-sale securities (36,213,698) (80,243,474)
Proceeds from maturities of available-for-sale
securities 28,758,870 99,611,502
Proceeds from the sales of available-for-sale
securities 14,387,951 17,634,708
Net change in loans 10,483,761 80,344,385
Purchase of bank owned life insurance (8,000,000) --
Purchase of premises and equipment (834,474) (891,447)
Purchase of Federal Home Loan Federal Reserve
Bank stock (428,100) (63,000)
Proceeds from sale of Federal Home Loan Federal
Reserve Bank stock 383,300 --
Proceeds from the sale of foreclosed assets 1,161,411 712,692
Payment of assumption of liability from sale of
branch -- (70,452,850)
------------ ------------
Net cash provided by investing activities 9,709,021 46,302,030
------------ ------------
10
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
JUNE 30, JUNE 30,
2004 2003
------------ ------------
FINANCING ACTIVITIES
Net increase (decrease) in demand deposits, money
market, interest checking and savings accounts $(14,570,396) $ 44,799,310
Net decrease in certificates of deposit (11,913,291) (84,465,813)
Net decrease in securities sold under agreements to
repurchase (808,722) --
Proceeds (repayment) of Federal Home Loan Bank
advances 15,000,000 (8,350,000)
Proceeds (repayments) of note payable (7,277,562) 8,461,049
Proceeds from stock options exercised 17,670 --
------------ ------------
Net cash used in financing activities (19,552,301) (39,555,454)
------------ ------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (8,005,234) 22,572,482
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 24,176,952 51,018,337
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 16,171,718 $ 73,590,819
============ ============
SUPPLEMENTAL CASH FLOWS INFORMATION
Interest paid $ 5,792,179 $ 9,486,340
Income taxes paid (net of refunds) -- (3,468,512)
See notes to condensed consolidated financial statements (unaudited)
11
(Continued)
RURBAN FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE A -- BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions for Form 10-Q. Accordingly, they
do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. The financial
statements reflect all adjustments that are, in the opinion of management,
necessary to fairly present the financial position, results of operations and
cash flows of the Company and its subsidiaries. Those adjustments consist only
of normal recurring adjustments.
In December 2003, the Financial Accounting Standards Board ("FASB") issued a
revision to FIN 46 to clarify certain provisions that affected the accounting
for trust preferred securities. As a result of the provisions in FIN 46, Rurban
Statutory Trust 1 ("RST") was deconsolidated as of March 31, 2004, with the
Company accounting for its investment in RST as assets, its subordinated
debentures as debt, and the interest paid thereon as interest expense. The
Company had always classified the trust preferred securities as debt, but
eliminated its common stock investment.
The condensed consolidated balance sheet of the Company as of December 31, 2003
has been derived from the audited consolidated balance sheet of the Company as
of that date.
For further information, refer to the consolidated financial statements and
footnotes included in the Company's Annual Report on Form 10-K for the year
ended December 31, 2003.
NOTE B -- EARNINGS PER SHARE
Earnings per share have been computed based on the weighted average number of
shares outstanding during the periods presented. For the periods ended June 30,
2004 and 2003, stock options totaling 212,487 and 199,855 shares of common stock
were not considered in computing EPS as they were anti-dilutive. The number of
shares used in the computation of basic and diluted earnings per share was:
Three Months Ended Six Months Ended
June 30, June 30,
-------- --------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Basic earnings per share 4,555,068 4,549,413 4,555,014 4,545,162
Diluted earnings per share 4,562,104 4,549,413 4,572,345 4,545,162
12
(Continued)
NOTE C - LOANS, RISK ELEMENTS AND ALLOWANCE FOR LOAN LOSSES
Total loans on the balance sheet are comprised of the following classifications
at:
June 30, December 31, June 30,
2004 2003 2003
-------------- -------------- --------------
Commercial $ 68,380,142 $ 89,470,661 $ 103,665,092
Commercial real estate 61,498,275 62,339,628 76,618,213
Agricultural 40,728,900 36,721,822 40,476,501
Residential real estate 57,683,899 46,717,917 48,056,313
Consumer 34,515,046 37,309,999 40,926,628
Lease financing 8,177,521 11,774,730 15,833,436
-------------- -------------- --------------
Total loans 270,983,783 284,334,757 325,576,183
Less
Net deferred loan fees, premiums and discounts (291,733) (230,446) (247,742)
-------------- -------------- --------------
Loans, net of unearned income $ 270,692,050 $ 284,104,311 $ 325,328,441
============== ============== ==============
Allowance for loan losses $ (6,922,995) $ (10,181,135) $ (12,299,309)
============== ============== ==============
The following is a summary of the activity in the allowance for loan losses
account for the six months ended June 30, 2004 and 2003 and the year ended
December 31, 2003.
June 30, December 31, June 30,
2004 2003 2003
------------ ------------ ------------
Balance, beginning of year $ 10,181,135 $ 17,693,841 $ 17,693,841
Provision charged to expense (190,000) 1,202,000 1,262,000
Recoveries 1,075,241 3,139,534 1,515,076
Loans charged off (4,143,381) (11,854,240) (8,171,608)
------------ ------------ ------------
Balance, end of period $ 6,922,995 $ 10,181,135 $ 12,299,309
============ ============ ============
The following schedule summarizes nonaccrual, past due and impaired loans at:
June 30, December 31, June 30,
2004 2003 2003
------------ ------------ ------------
Non-accrual loans $ 16,535,000 $ 18,352,000 $ 20,326,000
Accruing loans which are contractually
past due 90 days or more as to interest or
principal payments -- -- 23,000
------------ ------------ ------------
Total non-performing loans $ 16,535,000 $ 18,352,000 $ 20,349,000
============ ============ ============
13
(Continued)
Individual loans determined to be impaired, including non-accrual loans, were as
follows:
June 30, December 31, June 30,
2004 2003 2003
------------ ------------ ------------
Loans with no allowance for loan losses allocated $ 1,148,000 $ 153,000 $ 917,000
Loans with allowance for loan losses allocated 16,603,000 19,685,000 18,057,000
------------ ------------ ------------
Total impaired loans $ 17,751,000 $ 19,838,000 $ 18,974,000
============ ============ ============
Amount of allowance allocated $ 3,898,000 $ 5,651,000 $ 5,340,000
============ ============ ============
NOTE D - TRUST PREFERRED SECURITIES
On September 7, 2000, RST, a wholly owned subsidiary of the Company, completed a
pooled private offering of 10,000 Capital Securities with a liquidation amount
of $1,000 per security. The proceeds of the offering were loaned to the Company
in exchange for junior subordinated debentures with terms similar to the Capital
Securities. The sole assets of RST are the junior subordinated debentures of the
Company and payments thereunder. The junior subordinated debentures and the
back-up obligations, in the aggregate, constitute a full and unconditional
guarantee by the Company of the obligations of RST under the Capital Securities.
Distributions on the Capital Securities are payable semi-annually at the annual
rate of 10.6% and are included in interest expense in the consolidated financial
statements. These securities are considered Tier 1 capital (with certain
limitations applicable) under current regulatory guidelines. As of June 30,
2004, December 31, 2003 and June 30, 2003, the outstanding principal balance of
the Capital Securities was $10,000,000. In December 2003, FASB issued a revision
to FIN 46 to clarify certain provisions that affected the accounting for trust
preferred securities. As a result of the provisions in FIN 46, RST was
deconsolidated as of March 31, 2004, with the Company accounting for its
investment in RST as assets, its subordinated debentures as debt, and the
interest paid thereon as interest expense. The Company had always classified the
trust preferred securities as debt, but eliminated its common stock investment.
The junior subordinated debentures are subject to mandatory redemption, in whole
or in part, upon repayment of the Capital Securities at maturity or their
earlier redemption at the liquidation amount. Subject to the Company having
received prior approval of the Federal Reserve, if then required, the Capital
Securities are redeemable prior to the maturity date of September 7, 2030, at
the option of the Company; on or after September 7, 2010 at a premium; on or
after September 7, 2020 at par; or upon occurrence of specific events defined
within the trust indenture. The Company has the option to defer distributions on
the Capital Securities from time to time for a period not to exceed 10
consecutive semi-annual periods.
On January 28, 2004, the Trustee was notified that the Company elected to defer
the semi-annual distributions which would have been due on March 7, 2004, until
September 7, 2004.
On July 23, 2004, the Trustee was notified that the Company elected to defer the
semi-annual distributions which would have been due on September 7, 2004, until
March 7, 2005.
14
(Continued)
NOTE E - NOTE PAYABLE
RFC Banking Company ("RFCBC") has a note payable to The Union Banking Company
secured by the common stock of Rurbanc Data Services, Inc. ("RDSI") and
substantially all assets of RFCBC. The note requires quarterly principal
payments of $300,000 together with interest at prime plus 1% (5.25% at June 30,
2004) and matures on June 6, 2006. The principal note balance was $2,600,000 as
of June 30, 2004, $5,900,000 as of December 31, 2003 and $9,000,000 as of June
30, 2003.
RFCBC had a note payable to First Federal Bank of the Midwest secured by certain
identified loans held by RFCBC, principal payments equal to the greater of
$100,000 or all payments received by RFCBC on collateralized loans, with
interest at the lesser of prime plus 0.5%. This note was paid off March 5, 2004.
RDSI has two notes payable to First Federal Bank of the Midwest. The first note
is secured by equipment, requires monthly payments of $13,416, interest at
7.65%, and matures on June 9, 2009. The principal note balance was $328,674 as
of June 30, 2004. The second note is secured by equipment, requires monthly
payments of $10,902, interest at 7.65%, and matures on June 10, 2007. The
principal note balance was $121,361 as of June 30, 2004. The combined principal
note balance was $769,824 as of December 31, 2003 and $1,098,000 as of June 30,
2003.
NOTE F - REGULATORY MATTERS
The Company and the subsidiary banks are subject to various regulatory capital
requirements administered by federal and state banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory, and possibly
additional discretionary, actions by regulators. If undertaken, these actions
could have a direct material adverse effect on the Company's financial
statements. Under capital adequacy guidelines and the regulatory framework for
prompt corrective action, the Company and the subsidiary banks 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 capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the subsidiary banks to maintain minimum amounts and
ratios (set forth in the table below) of total and Tier I capital (as defined in
the regulations) to risk-weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). As of June 30, 2004, the Company and
the subsidiary banks exceeded all "well-capitalized" requirements to which they
are subject.
As of December 31, 2003, the most recent notification to the regulators
categorized The State Bank and Trust Company ("State Bank") as well capitalized
under the regulatory framework for prompt corrective action. To be categorized
as well capitalized, State Bank must maintain capital ratios as set forth in the
table. There are no conditions or events since that notification that management
believes have changed State Bank's category.
15
(Continued)
The Company and significant subsidiary banks' actual capital amounts (in
millions) and ratios are also presented in the following table.
TO BE WELL CAPITALIZED UNDER
MINIMUM REQUIRED FOR PROMPT CORRECTIVE ACTION
ACTUAL CAPITAL ADEQUACY PURPOSES PROVISIONS
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------ ----- ------ ----- ------ -----
As of June 30, 2004
Total Capital
(to Risk-Weighted Assets)
Consolidated $ 60.4 21.0% $ 23.0 8.0% $ -- N/A
State Bank 38.4 14.4 21.3 8.0 26.6 10.0
Tier I Capital
(to Risk-Weighted Assets)
Consolidated 56.8 19.7 11.5 4.0 -- N/A
State Bank 35.1 13.2 10.6 4.0 16.0 6.0
Tier I Capital
(to Average Assets)
Consolidated 56.8 13.7 16.6 4.0 -- N/A
State Bank 35.1 9.0 15.7 4.0 19.6 5.0
As of December 31, 2003
Total Capital
(to Risk-Weighted Assets)
Consolidated $ 59.2 19.7% $ 24.1 8.0% $ -- N/A
State Bank 37.5 13.7 21.9 8.0 27.3 10.0
Tier I Capital
(to Risk-Weighted Assets)
Consolidated 55.4 18.4 12.0 4.0 -- N/A
State Bank 34.1 12.5 10.9 4.0 16.4 6.0
Tier I Capital
(to Average Assets)
Consolidated 55.4 12.8 17.4 4.0 -- N/A
State Bank 34.1 8.4 16.3 4.0 20.4 5.0
16
(Continued)
NOTE G - CONTINGENT LIABILITIES
There are various contingent liabilities that are not reflected in the
consolidated financial statements, including claims and legal actions arising in
the ordinary course of business. In the opinion of management, after
consultation with legal counsel, the ultimate disposition of these matters is
not expected to have a material effect on the Corporation's consolidated
financial condition or results of operations.
NOTE H - NEW ACCOUNTING PRONOUNCEMENTS
In December 2003, FASB revised SFAS No. 132, "Employers Disclosures about
Pensions and Other Postretirement Benefits", which is an amendment of FASB
Statements No. 87, 88 and 106. There was no material impact of the adoption on
the financial statements.
NOTE I - BRANCH SALES
On June 6, 2003, the Peoples Banking Company ("Peoples") and First Bank of
Ottawa ("Ottawa"), divisions of RFC Banking Company, were sold. As of June 6,
2003, Peoples and Ottawa had total loans of $76.6 million, total fixed assets
(net of accumulated depreciation) of $1.4 million and total deposits of $166.2
million. A pre-tax gain of approximately $12.0 million was recorded in June 2003
from the sale.
On March 28, 2003, the Citizens Savings Bank ("Citizens"), a division of RFC
Banking Company, was sold. As of March 28, 2003, Citizens had total loans of
$57.2 million, total fixed assets (net of accumulated depreciation) of $869,000
and total deposits of $70.8 million. A pre-tax gain of approximately $8.0
million was recorded in March 2003 from the sale.
The Company does not maintain a separate statement of operations for each
division.
17
(Continued)
NOTE J - STOCK OPTIONS
The Company accounts for its stock option plan under the recognition and
measurement principles of APB Opinion No. 25, "Accounting for Stock Issued to
Employees", and related Interpretations. No stock-based employee compensation
cost is reflected in net income, as all options granted under those plans had an
exercise price equal to the market value of the underlying common stock on the
grant date. The following table illustrates the effect on net income and
earnings per share if the Company had applied the fair value provisions of FASB
Statement No. 123, "Accounting for Stock-Based Compensation", to stock-based
employee compensation.
Three Months Ended Six Months Ended
June 30, June 30,
2004 2003 2004 2003
-------------- -------------- -------------- --------------
Net income (loss), as reported $ 709,043 $ 6,479,401 $ 1,321,065 $ 11,779,032
Less: Total stock-based employee
compensation cost determined under
the fair value based method, net of
income taxes (49,183) (15,777) (98,365) (31,554)
-------------- -------------- -------------- --------------
Pro forma net income $ 659,860 $ 6,463,264 $ 1,222,700 $ 11,747,478
============== ============== ============== ==============
Earnings per share:
Basic - as reported $ 0.16 $ 1.42 $ 0.29 $ 2.59
Basic - pro forma $ 0.14 $ 1.42 $ 0.27 $ 2.58
Diluted - as reported $ 0.16 $ 1.42 $ 0.29 $ 2.59
Diluted - pro forma $ 0.14 $ 1.42 $ 0.27 $ 2.58
NOTE K - COMMITMENTS AND CREDIT RISK
As of June 30, 2004, loan commitments and unused lines of credit totaled
$50,581,000, standby letters of credit totaled $302,000 and no commercial
letters of credit were outstanding.
NOTE L - SEGMENT INFORMATION
The reportable segments are determined by the products and services offered,
primarily distinguished between banking and data processing operations. Other
segments include the accounts of the holding company, Rurban Financial Corp.,
which provides management and operational services to its subsidiaries; Reliance
Financial Services, N.A., which provides trust and financial services to
customers nationwide; and Rurban Life, which provides insurance products to
customers of the Company's subsidiary banks. Information reported internally for
performance assessment follows.
18
(Continued)
As of and for the six months ended June 30, 2004
Data Total Intersegment Consolidated
Banking Processing Other Segments Elimination Totals
------------ ---------- ---------- ------------ ------------ ------------
Income statement information:
Net interest income (expense) $ 6,567,771 $ (106,986) $ (566,726) $ 5,894,059 $ -- $ 5,894,059
Non-interest income - external
customers 1,684,171 5,117,100 1,616,628 8,417,899 -- 8,417,899
Non-interest income - other segments -- 674,236 1,013,993 1,688,229 (1,688,229) --
------------ ---------- ---------- ------------ ------------ ------------
Total revenue 8,251,942 5,684,350 2,063,895 16,000,187 (1,688,229) 14,311,958
Non-interest expense 7,856,667 4,388,853 2,296,620 14,542,140 (1,688,229) 12,853,911
Significant non-cash items:
Depreciation and
amortization 250,260 838,982 46,177 1,135,419 -- 1,135,419
Provision for loan losses (190,000) -- -- (190,000) -- (190,000)
Income tax expense (benefit) 280,410 279,255 (232,683) 326,982 -- 326,982
Segment profit (loss) $ 749,048 $1,016,242 $ (444,225) $ 1,321,065 $ -- $ 1,321,065
Balance sheet information:
Total assets $414,565,101 $8,821,887 $4,433,646 $427,820,634 $(12,795,072) $415,025,562
Goodwill and intangibles 2,737,309 -- -- 2,737,309 -- 2,737,309
Premises and equipment
expenditures, Six months
ended June 30, 2004 245,159 505,444 83,871 834,474 -- 834,474
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Rurban Financial Corp. ("Rurban" or "the Company") was incorporated on February
23, 1983, under the laws of the State of Ohio. Rurban is a bank holding company
registered with the Federal Reserve Board under the Bank Holding Company Act of
1956, as amended. Rurban's subsidiary, The State Bank and Trust Company ("State
Bank") is engaged in the industry segment of commercial banking. RFC Banking
Company ("RFCBC") was created June 30, 2001 through the merger of The Peoples
Banking Company, The First National Bank of Ottawa and The Citizens Savings Bank
Company. As of June 6, 2003, RFCBC completed the sale of all its active banking
locations, retaining only selected loans. RFCBC has ceased doing business as a
bank and operates as a loan subsidiary of Rurban in servicing and working out
the retained loans. Rurban's subsidiary, Rurbanc Data Services, Inc. ("RDSI"),
provides computerized data processing services to community banks and businesses
including Rurban's subsidiary banks. Rurban's subsidiary, Rurban Life Insurance
Company ("Rurban Life") has a certificate of authority from the State of Arizona
to transact insurance as a domestic life and disability insurer. Rurban
Statutory Trust I ("RST") was established in August 2000. In September 2000, RST
completed a pooled private offering of 10,000 Capital Securities with a
liquidation amount of $1,000 per security. The proceeds of the offering were
loaned to the Company in exchange for junior subordinated debentures with terms
similar to the Capital Securities. The sole assets of RST are the junior
subordinated debentures and the back-up obligations, in the aggregate,
constitute a full and unconditional guarantee by the Company of the obligations
of RST under the Capital Securities. Reliance Financial Services, N.A.
("Reliance"), a wholly owned subsidiary of State Bank, provides trust and
financial services to customers nationwide.
The following discussion is intended to provide a review of the consolidated
financial condition and results of operations of Rurban. This discussion should
be read in conjunction with the consolidated financial statements and related
footnotes in Rurban's 2003 Form 10-K filed with the Securities and Exchange
Commission.
CRITICAL ACCOUNTING POLICIES
The accounting and reporting policies of the Company are in accordance with
accounting principles generally accepted in the United States and conform to
general practices within the banking industry. The Company's significant
accounting policies are described in detail in the notes to the Company's
consolidated financial statements for the year ended December 31, 2003. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions. The
Company's financial position and results of operations can be affected by these
estimates and assumptions and are integral to the understanding of reported
results. Critical accounting policies are those policies that management
believes are the most important to the portrayal of the Company's financial
condition and results, and they require management to make estimates that are
difficult, subjective, or complex.
ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses provides coverage for
probable losses inherent in the Company's loan portfolio. Management evaluates
the adequacy of the allowance for loan losses each quarter based on changes, if
any, in underwriting activities, loan portfolio composition (including product
mix and geographic, industry or customer-specific concentrations), trends in
loan performance, regulatory guidance and economic factors. This evaluation is
inherently subjective, as it requires the use of significant management
estimates. Many factors can affect management's estimates of specific and
expected losses, including volatility of default probabilities, rating
migrations, loss severity and economic and political conditions. The allowance
is increased through provisions charged to operating earnings and reduced by net
charge-offs.
20
The Company determines the amount of the allowance based on relative risk
characteristics of the loan portfolio. The allowance recorded for commercial
loans is based on reviews of individual credit relationships and an analysis of
the migration of commercial loans and actual loss experience. The allowance
recorded for homogeneous consumer loans is based on an analysis of loan mix,
risk characteristics of the portfolio, fraud loss and bankruptcy experiences,
and historical losses, adjusted for current trends, for each homogeneous
category or group of loans. The allowance for credit losses relating to impaired
loans is based on the loan's observable market price, the collateral for certain
collateral-dependent loans, or the discounted cash flows using the loan's
effective interest rate.
Regardless of the extent of the Company's analysis of customer performance,
portfolio trends or risk management processes, certain inherent but undetected
losses are probable within the loan portfolio. This is due to several factors,
including inherent delays in obtaining information regarding a customer's
financial condition or changes in their unique business conditions, the
subjective nature of individual loan evaluations, collateral assessments and the
interpretation of economic trends. Volatility of economic or customer-specific
conditions affecting the identification and estimation of losses for larger
non-homogeneous credits and the sensitivity of assumptions utilized to establish
allowances for homogenous groups of loans are also factors. The Company
estimates a range of inherent losses related to the existence of these
exposures. The estimates are based upon the Company's evaluation of imprecise
risk associated with the commercial and consumer allowance levels and the
estimated impact of the current economic environment.
GOODWILL AND OTHER INTANGIBLES - The Company records all assets and liabilities
acquired in purchase acquisitions, including goodwill and other intangibles, at
fair value as required by SFAS 141. Goodwill is subject, at a minimum, to annual
tests for impairment. Other intangible assets are amortized over their estimated
useful lives using straight-line or accelerated methods, and are subject to
impairment if events or circumstances indicate a possible inability to realize
the carrying amount. The initial goodwill and other intangibles recorded and
subsequent impairment analysis requires management to make subjective judgments
concerning estimates of how the acquired asset will perform in the future.
Events and factors that may significantly effect the estimates include, among
others, customer attrition, changes in revenue growth trends, specific industry
conditions and changes in competition.
IMPACT OF ACCOUNTING CHANGES
In December 2003, the FASB (Financial Accounting Standards Board) revised SFAS
No. 132, "Employers Disclosures about Pensions and Other Postretirement
Benefits", which is an amendment of FASB Statements No. 87, 88 and 106. There
was no material impact of the adoption on the financial statements.
QUARTERLY AND YTD EARNINGS SUMMARY
Net income for the quarter was $709,000, or $0.16 per diluted share, versus $6.5
million, or $1.42 per diluted share, for the second quarter 2003. Net income for
the six months was $1.3 million, or $0.29 per diluted share, versus net income
of $11.8 million, or $2.59 per diluted share for the same period in 2003. The
quarterly decrease in net income is the result of the Peoples Banking Company
and First Bank of Ottawa branch sales on June 6, 2003 for a pre-tax gain of
$12.0 million. The year-to-date decrease in net income was primarily driven by
the sale of the branches of RFC Banking Company resulting in a pre-tax gain of
approximately $20.0 million.
21
Net interest income declined $410,000 to $2.9 million for the three months ended
June 30, 2004 compared to $3.3 million for the second quarter 2003. The decline
in net interest income is largely attributed to the branch sales in 2003
lowering the level of average earning assets as the Company focused on
strengthening its capital position.
The provision for loan losses of $(340,000) for the second quarter of 2004
decreased $640,000 compared to the second quarter of 2003 due to credit quality
improvements.
Non-interest income decreased $11.6 million to $4.1 million in the second
quarter of 2004 compared to $15.7 million for the second quarter of 2003. The
decrease in non-interest income was mainly the result of the aforementioned
branch sale for a pre-tax gain of $12.0 million.
Non-interest expense decreased $2.3 million to $6.6 million for the second
quarter of 2004 compared to $8.9 million for the second quarter of 2003. This
decrease is the result of staff reductions from the branch sale and a $1.4
million decrease in professional fees as the Company experienced large expenses
in 2003 for the branch divestitures and loan workouts.
CHANGES IN FINANCIAL CONDITION
JUNE 30, 2004 VS. DECEMBER 31, 2003
At June 30, 2004, total assets were $415.0 million, a decrease of $20.3 million
from December 31, 2003. The decrease was primarily attributable to decreases in
loans of $13.4 million and available for sale securities of $9.6 million
partially offset by an increase in other assets of $8.3 million as a result of
an $8.0 million bank owned life insurance policy purchased in the first quarter
of 2004.
At June 30, 2004, the decrease in total liabilities and shareholders' equity of
$20.3 million from December 31, 2003 was mainly attributable to decreases in
deposits of $26.5 million principally resulting from planned reductions in
higher cost broker deposits of $6.1 million and the decrease in notes payable of
$7.3 million resulting from accelerated collection of payments on loans
supporting this obligation.
JUNE 30, 2004 VS. JUNE 30, 2003
As of June 30, 2004, total assets decreased $77.7 million from June 30, 2003.
The decrease was mainly due to decreases in cash and cash equivalents of $57.4
million and loans of $30.0 million. The decrease in cash and cash equivalents is
attributed to the increase in federal funds sold in the second quarter of 2003
as a result of the branch sales. The decrease in loans is attributed to the
planned exit of out of market loans.
As of June 30, 2004, total liabilities and shareholders' equity decreased $77.7
million. The decrease was mainly attributed to a decrease in total deposits of
$73.7 million.
LINKED QUARTER COMPARISON
The Company reported a net profit for the second quarter of 2004 of $709,000, or
$0.16 per diluted share, versus a net profit of $612,000, or $0.13 per diluted
share, for the first quarter of 2004. The second quarter profit was mainly due
to a reduction in the provision for loan losses as a result of
22
continued improvements in credit quality. The first quarter profit was driven
largely by increasing core earnings level as shown by improvements in net
interest income, fee income and credit quality.
Net interest income decreased $74,000 or 2% to $2.9 million for the second
quarter ended June 30, 2004 compared to $3.0 million for the first quarter of
2004. This decrease was largely driven by a $10.0 million decline in average
earning assets reflecting a strategic reduction in higher risk credit assets.
A comparison of financial results for the quarter ended June 30, 2004 to the
previous quarter ended March 31, 2004 is as follows:
Three Months Ended Linked
06/30/04 03/31/04 Quarter
-------- --------
% Change
--------
(dollars in millions, except per share data)
Total Assets $ 415 $ 422 -2%
Loans Held for Sale -- 0.2 --
Loans (net of unearned income) 271 270 --
Allowance for Loan Losses 6.9 8.2 -16%
Total Deposits 291 308 -6%
Total Revenue 7.0 7.3 -4%
Net interest Income 2.9 3.0 -2%
Loan Loss Provision (0.3) 0.2 --
Non-interest Income 4.1 4.3 -6%
Non-interest Expense 6.6 6.3 +4%
Net Income 0.7 0.6 --
Basic Earnings Per Share $ 0.16 $ 0.13 --
Diluted Earnings Per Share $ 0.16 $ 0.13 --
On a linked quarter basis, total loans increased $1.4 million and total assets
declined $6.7 million. Although there was an increase in total loans for the
linked quarter, commercial loans decreased primarily due to negotiated
settlements reached with several borrowers in the second quarter of 2004
resulting in a reduction of nearly $6.0 million in classified loans. The Company
continues to promote the exiting of out of market loans.
TOTAL REVENUE
Three Months Ended
06/30/04 03/31/04 $Change %Change
-------- -------- ------- -------
(dollars in thousands)
Total Revenue $ 6,993 $7,319 $-326 -4%
Total revenue (net interest income plus noninterest income) was $7.0 million
for the second quarter of 2004 compared to $7.3 million for the first quarter
of 2004, down $326,000 or 4%.
NET INTEREST INCOME
Three Months Ended
06/30/04 03/31/04 $Change %Change
-------- -------- ------- -------
(dollars in thousands)
Net Interest Income $ 2,910 $2,984 $-74 -2%
23
Net interest income for the second quarter of 2004 was $2.9 million compared to
$3.0 million for the first quarter of 2004. The tax equivalent net interest
margin for the second quarter of 2004 was 3.10% compared to 3.09% for the
previous quarter.
LOAN LOSS PROVISION
The provision for loan losses of $(340,000) for the second quarter of 2004
represented a decrease of $490,000 compared to the first quarter of 2004. The
reasons for the decrease in the second quarter are discussed in the "Allowance
for Loan Losses" section.
NON-INTEREST INCOME
Three Months Ended
06/30/04 03/31/04 $Change %Change
-------- -------- ------- -------
(dollars in thousands)
Total Non-interest Income $ 4,083 $ 4,335 $-252 -6%
- Data Service Fees 2,426 2,691 -265 -10%
- Trust Fees 732 844 -112 -13%
- Deposit Service Fees 505 514 -9 -2%
- Gains on Sale of Loans 10 10 - -
- Gains on Sale of Securities 63 61 +2 +3%
- Gain (Loss) on Assets 97 (18) +115 -
- Other 250 234 +16 +7%
Non-interest income decreased by $252,000 to $4.1 million in the second quarter
of 2004 compared to $4.3 million in the first quarter of 2004. The second
quarter decrease is mainly due to seasonality factors regarding data processing,
trust and deposit fees. These accounts generally experience seasonally higher
activity levels during the first quarter. Also in the second quarter, the
Company liquidated various repossessed assets which resulted in a gain of
$97,000 compared to an $18,000 loss in the first quarter of 2004.
RURBANC DATA SERVICES, INC. ("RDSI")
THREE MONTHS ENDED
------------------
06/30/04 03/31/03 $ Change % Increase
-------- -------- -------- ----------
(Dollars in Thousands)
Data Processing Fees $ 2,426 $2,691 $-265 -10%
Data processing fees declined $265,000 compared to the first quarter of 2004 as
a result of normal year-end billing activity recorded in January of each year.
24
NON-INTEREST EXPENSE
Three Months Ended
06/30/04 03/31/04 $Change %Change
-------- -------- ------- -------
(dollars in thousands)
Total Non-interest Expense $ 6,565 $ 6,289 $ 276 +4%
- Salaries & Employee Benefits 3,296 3,255 +41 +1%
- Equipment Expense 1,020 1,039 -19 -2%
- Professional Fees 677 469 +208 +44%
- All Other 1,572 1,526 +46 +3%
Non-interest expense for the second quarter of 2004 was $6.6 million compared to
$6.3 million for the first quarter of 2004, an increase of $276,000 or 4%. The
quarterly increase is due to higher legal costs associated with the collection
and aggressive reduction in criticized assets in addition to market value
adjustments on OREO and other repossessed assets prior to disposition, rising
costs of employee benefit plans and the accrual of certain incentive based
compensation plans.
LOANS
As Of
% of % of Inc
---
06/30/04 Total 03/31/04 Total (Dec)
-------- ----- -------- ----- -----
(dollars in millions)
Commercial $ 68 25% $ 78 29% $(10)
Commercial real estate 61 23% 60 22% 1
Agricultural 41 15% 39 15% 2
Residential 58 21% 47 17% 11
Consumer 35 13% 36 13% (1)
Leasing loans 8 3% 10 4% (2)
---- ---- ----
Total $271 $270 $ 1
Loans held for sale -- .2 --
---- ---- ----
Total $271 $270 $ 1
Loans increased $1 million from March 31, 2004 to $271 million at June 30, 2004.
Although there was an increase in total loans for the linked quarter, commercial
loans decreased primarily due to negotiated settlements reached with several
borrowers in the second quarter of 2004 resulting in a reduction of nearly $6.0
million in classified loans. The Company continues to promote the exiting of out
of market loans.
25
ASSET QUALITY
As Of And For The Quarter Ended
(dollars in millions)
06/30/04 03/31/04 Change
-------- -------- ------
Non-performing loans $ 16.5 $ 17.9 $ -1.4
Non-performing assets 17.2 19.0 -1.8
Non-performing assets/ loan plus OREO 6.34% 7.02% -0.68%
Non-performing assets/ total assets 4.14% 4.50% -0.36%
Net chargeoffs 1.0 2.1 -1.1
Net chargeoffs (annualized)/ total loans 1.4% 3.1% -1.7%
Loan loss provision (0.3) 0.2 --
Allowance for loan loss - $ 6.9 8.2 -1.3
Allowance for loan loss - % 2.56% 3.06% -0.50%
Allowance/non-performing loans 42% 46% --
Allowance/non-performing assets 40% 43% --
Non-performing assets at June 30, 2004 decreased to $17.2 million or 4.14% of
total assets, versus $19.0 million, or 4.50% at March 31, 2004, a decrease of
$1.8 million. Net chargeoffs for the second quarter of 2004 were $1.0 million
compared to $2.1 million in the first quarter of 2004.
ALLOWANCE FOR LOAN LOSSES
The Company grades its loans using an eight grade system. Loans with concerns
are classified as either:
- Grade 5 - Special Mention: Potential weaknesses that deserve
management's close attention
- Grade 6 - Substandard: Inadequately protected, with well-defined
weakness that jeopardize pay off of debt
- Grade 7 - Doubtful: Inherent weaknesses which are well-defined and a
high probability of loss (impaired) (These loans are typically
reserved down to collateralized values)
- Grade 8 - Loss: Considered uncollectible. May have recovery or
salvage value with future collection efforts (these loans are either
fully reserved or charged off)
26
The Company's allowance for loan losses has four components. Those components
are shown in the following table. Commercial, commercial real estate and
agricultural loans of over $100,000 are individually reviewed and assessed
regarding the need for an individual allocation.
06/30/04 03/31/04
----------------------------- -------------------------------
LOAN ALLOCATION LOAN ALLOCATION
BALANCE $ % BALANCE $ %
------- ------ ------ ------- ------ -------
Allocations for individual
commercial loans graded
Doubtful (impaired) $ 17.8 $ 3.9 21.91% $ 15.1 $ 3.2 21.19%
Allocations for individual
commercial loans graded
Substandard 19.1 1.0 5.24 27.8 3.0 10.79
Allocation based on Special
Mention loan balance 12.9 0.4 -- 18.4 0.5 --
"General" allowance based on
chargeoff history of nine
categories of loans 221.2 1.6 0.72 208.3 1.5 0.72
------ ------ ------ ------ ------ ------
TOTAL $271.0 $ 6.9 2.56% $269.6 $ 8.2 3.06%
The amount of loans classified as doubtful increased $2.7 million to $17.8
million for the quarter ended June 30, 2004 and substandard loans decreased $8.7
million to $19.1 million. Allowance allocations on doubtful loans increased $0.7
million while allowance allocations on substandard loans decreased $2.0 million
from March 31, 2004. The allowance for loan losses at June 30, 2004 was $6.9
million or 2.56% of loans compared to $8.2 million or 3.06% at March 31, 2004.
CAPITAL RESOURCES
At June 30, 2004, actual capital levels (in millions) and minimum required
levels were:
Minimum Required
To Be Well
Minimum Capitalized
Required Under Prompt
For Capital Corrective
Actual Adequacy Purposes Action Regulations
------ ----------------- ------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
Total capital (to risk weighted assets)
Consolidated $ 60.4 21.0% $ 23.0 8.0% $ -- N/A
State Bank 38.4 14.4 21.3 8.0 26.6 10.0
The Company and State Bank were categorized as well capitalized at June
30, 2004.
WRITTEN AGREEMENT
On July 5, 2002, the Company and State Bank entered into a Written Agreement
("Agreement") with the Federal Reserve Bank of Cleveland and the Ohio Division
of Financial Institutions. The Agreement was the result of an examination of
State Bank as of December 31, 2001, which was conducted in March and April 2002.
A copy of the Agreement was attached as Exhibit 99(b) to the Form 8-K filed by
the Company on July 11, 2002.
As of June 30, 2004, management believes that the Company and State Bank were in
full compliance with the terms of the Agreement. However, the Agreement will
continue in place until the Federal Reserve Bank of Cleveland and the Ohio
Division of Financial Institutions determine that the Agreement may be
terminated.
27
Under the terms of the Agreement, State Bank and RFCBC are prohibited from
paying dividends to the Company without prior regulatory approval. The Agreement
also prohibits the Company from paying trust preferred "dividends" and common
stock dividends without prior regulatory approval.
GOALS FOR 2004 AND 2005
The Company's near term goals include:
- Continued focus on the quality of the loan underwriting process
- Continued efforts to reduce the level of problem loans
- Continued focus on Customer Relationship Management (CRM)
- Continued efforts to improve operational efficiencies
- Continue improvement efforts necessary to achieve the release from
the Agreement
- Restoring earnings to a level sufficient to resume the payment of a
dividend
LIQUIDITY
Liquidity relates primarily to the Company's ability to fund loan demand, meet
deposit customers' withdrawal requirements and provide for operating expenses.
Assets used to satisfy these needs consist of cash and due from banks, federal
funds sold, interest earning deposits in other financial institutions,
securities available-for sale and loans held for sale. These assets are commonly
referred to as liquid assets. Liquid assets were $114.5 million at June 30, 2004
compared to $123.9 million at March 31, 2004.
The Company's residential first mortgage portfolio of $57.7 million at June 30,
2004 and $47.2 million at March 31, 2004, which can and has been used to
collateralize borrowings, is an additional source of liquidity. Management
believes its current liquidity level is sufficient to meet its liquidity needs.
At June 30, 2004, all eligible mortgage loans were pledged under a Federal Home
Loan Bank ("FHLB") blanket lien.
The cash flow statements for the periods presented provide an indication of the
Company's sources and uses of cash as well as an indication of the ability of
the Company to maintain an adequate level of liquidity. A discussion of the cash
flow statements at June 30, 2004 and 2003 follows.
The Company experienced positive cash flows from operating activities at June
30, 2004 and 2003. Net cash from operating activities was $1.8 million and $15.8
million, respectively, at June 30, 2004 and 2003.
Net cash flow from investing activities was $9.7 million and $46.3 million at
June 30, 2004 and 2003 respectively. The changes in net cash from investing
activities at June 30, 2004 include a increase in securities of $6.9 million, a
decrease in loans of $(10.5) million and changes in interest-bearing deposits,
purchases of premises and equipment and other investing activities. The changes
in net cash from investing activities at June 30, 2003 include a increase in
securities of $37.0 million, a decrease in loans of $(80.3) million, a decrease
from the sale of the RFC Banking Company branches of $(70.5) million as well as
changes in interest-bearing deposits, purchases of premises and equipment and
other investing activities.
28
Net cash flow from financing activities was $(19.6) million and $(39.6) million
at June 30, 2004 and 2003, respectively. The net cash decrease was primarily due
to a reduction in total deposits of $(26.5) million at June 30, 2004 compared to
$(39.7) at June 30, 2003.
OFF-BALANCE-SHEET BORROWING ARRANGEMENTS:
Significant additional off-balance-sheet liquidity is available in the form of
FHLB advances, unused federal funds lines from correspondent banks, and the
national certificate of deposit market. While such additional off-balance-sheet
liquidity is available, the Agreement between Rurban, State Bank, the Federal
Reserve Bank of Cleveland and the Ohio Division of Financial Institutions
requires Rurban and State Bank to obtain written approval of the Federal Reserve
Bank of Cleveland and the Ohio Division of Financial Institutions prior to
directly or indirectly incurring any debt.
Approximately $49.0 million residential first mortgage loans of the Company's
$57.7 million portfolio qualify to collateralize FHLB borrowings and have been
pledged to meet FHLB collateralization requirements as of June 30, 2004. In
addition to residential first mortgage loans, $38.7 million in investment
securities are pledged to meet FHLB collateralization requirements. Based on the
current collateralization requirements of the FHLB, approximately $8.5 million
of additional borrowing capacity existed at June 30, 2004.
As of June 30, 2004, the Company had unused federal funds lines totaling $13.0
million from two correspondent banks. At March 31, 2004, the Company had no
unused federal funds lines. Federal funds borrowed were $0 at June 30, 2004 and
March 31, 2004.
Approximately $8.3 million of performing commercial loans are pledged to the
Federal Reserve Discount Window to establish additional borrowing capacity of
$5.8 million. Such loans are pledged for contingency funding purposes and to
date this borrowing capacity has not been used.
29
TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS
PAYMENT DUE BY PERIOD
-----------------------------------------------------------------------------
LESS MORE
Contractual Obligations THAN 1 1 - 3 3 - 5 THAN 5
- ----------------------- TOTAL YEAR YEARS YEARS YEARS
------------ ------------ ----------- ----------- -----------
Long-Term Debt Obligations $ 54,000,000 $ 25,000,000 $ 0 $ 6,000,000 $23,000,000
Other Debt Obligations 13,360,037 1,446,172 1,603,865 0 10,310,000
Capital Lease Obligations 0 0 0 0 0
Operating Lease Obligations 747,000 99,600 199,200 199,200 249,000
Purchase Obligations 0 0 0 0 0
Other Long-Term Liabilities
Reflected on the Registrant's
Balance Sheet under GAAP 162,755,279 94,744,852 59,077,658 8,888,989 43,780
------------ ------------ ----------- ----------- -----------
Total $230,862,316 $121,290,624 $60,880,723 $15,088,189 $33,602,780
============ ============ =========== =========== ===========
The Company's contractual obligations as of June 30, 2004 were evident in
long-term debt obligations, other debt obligations, operating lease obligations
and other long-term liabilities. The long-term debt obligations are comprised of
FHLB advances of $54,000,000. The other debt obligations are comprised of Trust
Preferred Securities of $10,310,000 and Notes Payable of $3,050,037. The
operating lease obligation is a lease on the RDSI building of $99,600 a year.
The other long-term liabilities are comprised of time deposits of $162,755,279.
ASSET LIABILITY MANAGEMENT
Asset liability management involves developing and monitoring strategies to
maintain sufficient liquidity, maximize net interest income and minimize the
impact that significant fluctuations in market interest rates would have on
earnings. The business of the Company and the composition of its balance sheet
consists of investments in interest-earning assets (primarily loans,
mortgage-backed securities, and securities available for sale) which are
primarily funded by interest-bearing liabilities (deposits and borrowings). With
the exception of loans which are originated and held for sale, all of the
financial instruments of the Company are for other than trading purposes. All of
the Company's transactions are denominated in U.S. dollars with no specific
foreign exchange exposure. In addition, the Company has limited exposure to
commodity prices related to agricultural loans. The impact of changes in foreign
exchange rates and commodity prices on interest rates are assumed to be
insignificant. The Company's financial instruments have varying levels of
sensitivity to changes in market interest rates resulting in market risk.
Interest rate risk is the Company's primary market risk exposure; to a lesser
extent, liquidity risk also impacts market risk exposure.
Interest rate risk is the exposure of a banking institution's financial
condition to adverse movements in interest rates. Accepting this risk can be an
important source of profitability and stockholder value; however, excessive
levels of interest rate risk could pose a significant threat to the Company's
earnings and capital base. Accordingly, effective risk management that maintains
interest rate risks at prudent levels is essential to the Company's safety and
soundness.
Evaluating a financial institution's exposure to changes in interest rates
includes assessing both the adequacy of the management process used to control
interest rate risk and the organization's quantitative level of exposure. When
assessing the interest rate risk management process, the Company seeks to ensure
that appropriate policies, procedures, management information systems, and
internal controls are
30
in place to maintain interest rate risks at prudent levels of consistency and
continuity. Evaluating the quantitative level of interest rate risk exposure
requires the Company to assess the existing and potential future effects of
changes in interest rates on its consolidated financial condition, including
capital adequacy, earnings, liquidity, and asset quality (when appropriate).
The Federal Reserve Board, together with the Office of the Comptroller of the
Currency and the Federal Deposit Insurance Company, adopted a Joint Agency
Policy Statement on interest rate risk effective June 26, 1996. The policy
statement provides guidance to examiners and bankers on sound practices for
managing interest rate risk, and serves as the basis for ongoing evaluation of
the adequacy of interest rate risk management at supervised institutions. The
policy statement also outlines fundamental elements of sound management that
have been identified in prior Federal Reserve guidance and discusses the
importance of these elements in the context of managing interest rate risk.
Specifically, the guidance emphasizes the need for active Board of Director and
senior management oversight and a comprehensive risk management process that
effectively identifies, measures, and controls interest rate risk.
Financial institutions derive their income primarily from the excess of interest
collected over interest paid. The rates of interest an institution earns on its
assets and owes on its liabilities generally are established contractually for a
period of time. Since market interest rates change over time, an institution is
exposed to lower profit margins (or losses) if it cannot adapt to interest rate
changes. For example, assume that an institution's assets carry intermediate or
long term fixed rates and that those assets are funded with short-term
liabilities. If market interest rates rise by the time the short-term
liabilities must be refinanced, the increase in the institution's interest
expense on its liabilities may not be sufficiently offset if assets continue to
earn at the long-term fixed rates. Accordingly, an institution's profits could
decrease on existing assets because the institution will either have lower net
interest income or possibly, net interest expense. Similar risks exist when
assets are subject to contractual interest rate ceilings, or rate sensitive
assets are funded by longer-term, fixed-rate liabilities in a declining rate
environment.
There are several ways an institution can manage interest rate risk including:
1) matching repricing periods for new assets and liabilities, for example, by
shortening terms of new loans or investments; 2) selling existing assets or
repaying certain liabilities; and 3) hedging existing assets, liabilities, or
anticipated transactions. An institution might also invest in more complex
financial instruments intended to hedge or otherwise change interest rate risk.
Interest rate swaps, futures contacts, options on futures contracts, and other
such derivative financial instruments can be used for this purpose. Because
these instruments are sensitive to interest rate changes, they require
management's expertise to be effective. The Company has not purchased derivative
financial instruments in the past.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Certain statements within this document which are not statements of historical
fact constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements involve
risks and uncertainties and actual results may differ materially from those
predicted by the forward-looking statements. These risks and uncertainties
include, but are not limited to, risks and uncertainties inherent in the
national and regional banking, insurance and mortgage industries, competitive
factors specific to markets in which Rurban and its subsidiaries operate, future
interest rate levels, legislative and regulatory actions, capital market
conditions, general economic conditions, geopolitical events, the loss of key
personnel and other factors.
Forward-looking statements speak only as of the date on which they are made, and
Rurban undertakes no obligation to update any forward-looking statement to
reflect events or circumstances after the date on which the statement is made.
All subsequent written and oral forward-looking statements attributable to
Rurban or any person acting on our behalf are qualified by these cautionary
statements.
31
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The following table provides information about the Company's financial
instruments used for purposes other than trading that are sensitive to changes
in interest rates as of June 30, 2004. It does not present when these items may
actually reprice. For loans receivable, securities, and liabilities with
contractual maturities, the table presents principal cash flows and related
weighted-average interest rates by contractual maturities as well as the
Company's historical experience of the impact of interest rate fluctuations on
the prepayment of loans and mortgage backed securities. For core deposits
(demand deposits, interest-bearing checking, savings, and money market deposits)
that have no contractual maturity, the table presents principal cash flows and,
as applicable related, weighted-average interest rates based upon the Company's
historical experience, management's judgment and statistical analysis, as
applicable, concerning their most likely withdrawal behaviors. The current
historical interest rates for core deposits have been assumed to apply for
future periods in this table as the actual interest rates that will need to be
paid to maintain these deposits are not currently known. Weighted average
variable rates are based upon contractual rates existing at the reporting date.
PRINCIPAL/NOTIONAL AMOUNT MATURING OR ASSUMED TO WITHDRAW IN:
(DOLLARS IN THOUSANDS)
Comparison of 2004 to 2003: First Years
Total rate-sensitive assets: Year 2 - 5 Thereafter Total
--------- --------- ---------- ---------
At June 30, 2004 $ 133,504 $ 152,092 $ 89,524 $ 375,120
At December 31, 2003 152,522 160,505 92,230 405,257
--------- --------- -------- ---------
Increase (decrease) $ (19,018) $ (8,413) $ (2,706) $ (30,137)
Total rate-sensitive liabilities:
At June 30, 2004 $ 148,637 $ 178,714 $ 34,115 $ 361,466
At December 31, 2003 168,024 177,733 34,970 380,727
--------- --------- -------- ---------
Increase (decrease) $ (19,387) $ 981 $ (855) $ (19,261)
The above table reflects expected maturities, not expected repricing. The
contractual maturities adjusted for anticipated prepayments and anticipated
renewals at current interest rates, as shown in the preceding table, are only
part of the Company's interest rate risk profile. Other important factors
include the ratio of rate-sensitive assets to rate sensitive liabilities (which
takes into consideration loan repricing frequency but not when deposits may be
repriced) and the general level and direction of market interest rates. For some
rate sensitive liabilities, their repricing frequency is the same as their
contractual maturity. For variable rate loans receivable, repricing frequency
can be daily or monthly. For adjustable rate loans receivable, repricing can be
as frequent as annually for loans whose contractual maturities range from one to
thirty years. While increasingly aggressive local market competition in lending
rates has pushed loan rates lower, the Company's increased reliance on non-core
funding sources has restricted the Company's ability to reduce funding rates in
concert with declines in lending rates.
The Company manages its interest rate risk by the employment of strategies to
assure that desired levels of both interest-earning assets and interest-bearing
liabilities mature or reprice with similar time frames. Such strategies include:
1) loans receivable which are renewed (and repriced) annually, 2) variable rate
loans, 3) certificates of deposit with terms from one month to six years and 4)
securities available for sale which mature at various times primarily from one
through ten years, 5) federal funds borrowings with terms of one day to 90 days,
and 6) Federal Home Loan Bank borrowings with terms of one day to ten years.
32
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
With the participation of the President and Chief Executive Officer (the
principal executive officer) and the Executive Vice President and Chief
Financial Officer (the principal financial officer) of the Company, the
Company's management has evaluated the effectiveness of the Company's disclosure
controls and procedures (as defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the
quarterly period covered by this Quarterly Report on Form 10-Q. Based on that
evaluation, the Company's President and Chief Executive Officer and Executive
Vice President and Chief Financial Officer have concluded that:
- information required to be disclosed by the Company in this
Quarterly Report on Form 10-Q would be accumulated and
communicated to the Company's management, including its
principal executive officer and principal financial officer,
as appropriate to allow timely decisions regarding required
disclosure;
- information required to be disclosed by the Company in this
Quarterly Report on Form 10-Q would be recorded, processed,
summarized and reported within the time periods specified in
the SEC's rules and forms; and
- the Company's disclosure controls and procedures are effective
as of the end of the quarterly period covered by this
Quarterly Report on Form 10-Q to ensure that material
information relating to the Company and its consolidated
subsidiaries is made known to them, particularly during the
period in which this Quarterly Report on Form 10-Q is being
prepared.
Changes in Internal Control Over Financial Reporting
There were no changes in the Company's internal control over financial
reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred
during the Company's fiscal quarter ended June 30, 2004, that have materially
affected or are reasonably likely to materially affect, the Company's internal
control over financial reporting.
33
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Not applicable
Item 2. Changes in Securities and Use of Proceeds and Issuer Purchases of Equity
Securities
a. Not applicable
b. Not applicable
c. Not applicable
d. Not applicable
e. The following table provides information regarding repurchases of
the Company's common shares during the three months ended June 30,
2004:
Maximum Number
(or Approximate
Total Number of Dollar Value) of
Shares Purchased as Shares that May Yet
Part of Publicly Be Purchased Under
Total Number of Average Price Announced Plans or the Plans or
Period Shares Purchased (1) Paid per Share Programs Programs
------ -------------------- -------------- ------------------- --------------------
April 1 thru April 30, 2004 3,893 $14.04 -- --
May 1 thru May 31, 2003 2,014 $12.53 -- --
June 1 thru June 30, 2004 2,195 $12.27 -- --
(1) All of the repurchased shares were purchased by Reliance Financial
Services, N.A., an indirect subsidiary of the Company, in its capacity as
the administrator of the Company's Employee Stock Ownership and Savings
Plan.
Item 3. Defaults Upon Senior Securities
Not applicable
Item 4. Submission of Matters to a Vote of Security Holders
I. Annual Meeting of Shareholders - April 26, 2004
a. On April 26, 2004, Rurban Financial Corp. held its Annual Meeting of
Shareholders. At the close of business on the February 27, 2004
record date, 4,566,991 Rurban Financial Corp. common shares were
outstanding and entitled to vote. At the Annual Meeting, 3,669,143
or 80.3% of the outstanding common shares entitle to vote were
represented by proxy or in person.
b. Directors elected at the Annual Meeting for a three year term:
Thomas M. Callan
Richard L. Hardgrove
Eric C. Hench
Steven D. VanDemark
34
Directors whose term of office continued after the Annual Meeting:
Thomas A. Buis
John R. Compo
John Fahl
Robert A. Fawcett, Jr.
Kenneth A. Joyce
J. Michael Walz, D.D.S.
c. Results of Matters voted upon at the Annual Meeting:
Election of Directors:
Nominee Votes For Votes Withheld
------- --------- --------------
Thomas M. Callan 3,484,774 184,369
Richard L. Hardgrove 3,484,583 184,560
Eric C. Hench 3,473,661 195,482
Steven D. VanDemark 3,456,080 213,063
d. Not applicable
Item 5. Other Information
Not applicable
Item 6. Exhibits and Reports on Form 8-K
a. Exhibits
31.1 - Rule 13a-14(a)/15d-14(a) Certification (Principal Executive
Officer)
31.2 - Rule 13a-14(a)/15d-14(a) Certification (Principal Financial
Officer)
32.1 - Section 1350 Certification (Principal Executive Officer)
32.2 - Section 1350 Certification (Principal Financial Officer)
b. Reports on Form 8-K
On April 28, 2004, the Company furnished a Form 8-K to report under
Item 12. Results of Operations and Financial Condition the issuance
of a press release announcing its financial results for the first
quarter ended March 31, 2004.
35
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has caused this report to be signed on its behalf by the undersigned
hereunto duly authorized.
RURBAN FINANCIAL CORP.
Date: August 12, 2004 By /S/ Kenneth A. Joyce
--------------------------------
Kenneth A. Joyce
President & Chief
Executive Officer
By /S/ James E. Adams
--------------------------------
James E. Adams
Executive Vice President &
Chief Financial Officer
36