SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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, 2002
Or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _______ to ________
COMMISSION FILE NO.: 0-18833
CHESTER VALLEY BANCORP INC.
------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
PENNSYLVANIA 23-2598554
------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 E. LANCASTER AVENUE, DOWNINGTOWN, PA 19335
---------------------------------------- ----------
(Address Of Principal Executive Offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (610) 269-9700
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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
COMMON STOCK ($1.00 PAR VALUE) 4,292,670
------------------------------ -----------------------------
(Title of Each Class) (Number of Shares Outstanding
as of May 1, 2002)
CHESTER VALLEY BANCORP INC. AND SUBSIDIARIES
INDEX
-----
PAGE
PART 1. FINANCIAL INFORMATION NUMBER
- ------------------------------ ------
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
March 31, 2002 and June 30, 2001 (Unaudited) 1
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended March 31, 2002 and 2001 (Unaudited) 2
CONSOLIDATED STATEMENTS OF OPERATIONS
Nine Months Ended March 31, 2002 and 2001 (Unaudited) 3
STATEMENT OF OTHER COMPREHENSIVE INCOME
Three and Nine Months Ended March 31, 2002 and 2001 (Unaudited) 4
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended March 31, 2002 and 2001 (Unaudited) 5
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS 6-12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 12-20
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 21-23
PART 2. OTHER INFORMATION
- --------------------------
ITEM 1. LEGAL PROCEEDINGS 24
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS 24
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 24
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 24
ITEM 5. OTHER INFORMATION 24
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 24
SIGNATURES 25
- ----------
CHESTER VALLEY BANCORP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Dollars in Thousands)
MARCH 31, June 30,
2002 2001
--------- ---------
(UNAUDITED)
ASSETS $ 8,687 $ 4,214
Cash in banks
Interest-bearing deposits 33,654 19,698
--------- ---------
TOTAL CASH AND CASH EQUIVALENTS 42,341 23,912
--------- ---------
Trading account securities 16 16
Investment securities available for sale 104,499 113,350
Investment securities (fair value - March 31, 2002, $32,768
June 30, 2001, $41,639) 32,991 41,374
Loans held for sale 871 2,350
Loans receivable, less allowance for loan losses of $4,506 and $4,264
at March 31, 2002 and June 30, 2001, respectively 359,212 343,963
Accrued interest receivable 2,696 3,553
Property and equipment - net 12,618 10,340
Other assets 6,111 5,847
--------- ---------
TOTAL ASSETS $ 561,355 $ 544,705
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Deposits $ 382,556 $ 413,352
Securities sold under agreements to repurchase 18,130 2,428
Advance payments by borrowers for taxes and insurance 2,279 2,687
Federal Home Loan Bank advances 98,910 80,237
Other borrowings -- 241
Trust preferred securities 10,000 --
Accrued interest payable 910 1,818
Other liabilities 6,165 3,844
--------- ---------
TOTAL LIABILITIES 518,950 504,607
--------- ---------
Commitments and contingencies
Stockholders' Equity:
Preferred stock - $1.00 par value;
5,000,000 shares authorized; none issued -- --
Common stock - $1.00 par value; 10,000,000 shares authorized;
4,331,566 and 4,123,164 shares issued and outstanding
at March 31, 2002 and June 30, 2001, respectively 4,332 4,123
Additional paid-in capital 26,907 24,207
Retained earnings - partially restricted 13,388 13,136
Treasury stock (296 shares at cost) (5) (5)
Accumulated other comprehensive loss (2,217) (1,363)
--------- ---------
TOTAL STOCKHOLDERS' EQUITY 42,405 40,098
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 561,355 $ 544,705
========= =========
See accompanying notes to unaudited consolidated financial statements
1
CHESTER VALLEY BANCORP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in Thousands, Except for Per Share Amounts)
THREE MONTHS ENDED
MARCH 31,
-----------------------
2002 2001
---------- ----------
(Unaudited)
INTEREST INCOME:
Loans $ 6,559 $ 6,832
Investment securities and interest-bearing deposits 1,768 2,625
---------- ----------
TOTAL INTEREST INCOME 8,327 9,457
---------- ----------
INTEREST EXPENSE:
Deposits 2,327 4,492
Short-term borrowings 487 355
Long-term borrowings 861 707
---------- ----------
TOTAL INTEREST EXPENSE 3,675 5,554
---------- ----------
NET INTEREST INCOME 4,652 3,903
Provision for loan losses 149 105
---------- ----------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 4,503 3,798
---------- ----------
OTHER INCOME:
Investment services income 917 910
Service charges and fees 473 402
Gain (loss) on:
Loans 11 18
Available for sale securities 120 10
Other 39 39
---------- ----------
TOTAL OTHER INCOME 1,560 1,379
---------- ----------
OPERATING EXPENSES:
Salaries and employee benefits 2,373 2,071
Occupancy and equipment 677 566
Data processing 256 254
Advertising 55 54
Deposit insurance premiums 18 18
Other 749 756
---------- ----------
TOTAL OPERATING EXPENSES 4,128 3,719
---------- ----------
Income before income taxes 1,935 1,458
Income tax expense 456 278
---------- ----------
NET INCOME $ 1,479 $ 1,180
========== ==========
EARNINGS PER SHARE (1)
Basic $ 0.34 $ 0.27
========== ==========
Diluted $ 0.34 $ 0.27
========== ==========
DIVIDENDS PER SHARE PAID DURING PERIOD (1) $ 0.10 $ 0.10
========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING (1)
Basic 4,331,566 4,322,465
========== ==========
Diluted 4,367,812 4,377,311
========== ==========
(1) Earnings per share, dividends per share and weighted average shares
outstanding have been restated to reflect the effects of the 5% stock
dividends paid in September 2001 and 2000.
See accompanying notes to unaudited consolidated financial statements
2
CHESTER VALLEY BANCORP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in Thousands, Except for Per Share Amounts)
NINE MONTHS ENDED
MARCH 31,
-------------------------
2002 2001
----------- -----------
(Unaudited)
INTEREST INCOME:
Loans $ 20,116 $ 20,266
Investment securities and interest-bearing deposits 6,064 7,520
----------- -----------
TOTAL INTEREST INCOME 26,180 27,786
----------- -----------
INTEREST EXPENSE:
Deposits 8,942 13,387
Short-term borrowings 1,248 1,343
Long-term borrowings 2,534 2,111
----------- -----------
TOTAL INTEREST EXPENSE 12,724 16,841
----------- -----------
NET INTEREST INCOME 13,456 10,945
Provision for loan losses 427 315
----------- -----------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 13,029 10,630
----------- -----------
OTHER INCOME:
Investment services income 2,772 2,844
Service charges and fees 1,436 1,258
Gain (loss) on:
Loans 107 21
Trading account securities -- 245
Available for sale securities 393 (301)
Other 125 108
----------- -----------
TOTAL OTHER INCOME 4,833 4,175
----------- -----------
OPERATING EXPENSES:
Salaries and employee benefits 6,903 6,203
Occupancy and equipment 1,774 1,779
Data processing 782 726
Advertising 107 455
Deposit insurance premiums 57 53
Other 2,389 2,557
----------- -----------
TOTAL OPERATING EXPENSES 12,012 11,773
----------- -----------
Income before income taxes 5,850 3,032
Income tax expense 1,432 296
----------- -----------
NET INCOME $ 4,418 $ 2,736
=========== ===========
EARNINGS PER SHARE (1)
Basic $ 1.02 $ 0.63
=========== ===========
Diluted $ 1.01 $ 0.63
=========== ===========
DIVIDENDS PER SHARE PAID DURING PERIOD (1) $ 0.30 $ 0.28
=========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING (1)
Basic 4,330,452 4,314,673
=========== ===========
Diluted 4,357,979 4,374,874
=========== ===========
(1) Earnings per share, dividends per share and weighted average shares
outstanding have been restated to reflect the effects of the 5% stock
dividends paid in September 2001 and 2000.
See accompanying notes to unaudited consolidated financial statements.
3
CHESTER VALLEY BANCORP INC. AND SUBSIDIARY
STATEMENT OF OTHER COMPREHENSIVE INCOME
(Dollars in Thousands)
THREE MONTHS ENDED
MARCH 31,
----------------------
2002 2001
-------- --------
(Unaudited)
NET INCOME $ 1,479 $ 1,180
Other comprehensive income, net of tax:
Net unrealized holding (losses) gains on securities available for sale
during the period (371) 272
Reclassification adjustment for gains included in net income (77) (7)
-------- --------
COMPREHENSIVE INCOME $ 1,031 $ 1,445
======== ========
NINE MONTHS ENDED
MARCH 31,
----------------------
2002 2001
-------- --------
(Unaudited)
NET INCOME $ 4,418 $ 2,736
Other comprehensive income, net of tax:
Net unrealized holding (losses) gains on securities available for sale
during the period (597) 1,922
Net unrealized loss from the transfer of securities from held to
maturity to available for sale -- --
Reclassification adjustment for (gains) losses included in net income (257) 196
-------- --------
COMPREHENSIVE INCOME $ 3,564 $ 4,854
======== ========
See accompanying notes to unaudited consolidated financial statements.
4
CHESTER VALLEY BANCORP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
NINE MONTHS ENDED
MARCH 31,
--------------------
2002 2001
- -------------------------------------------------------------------------------------------------------
(Unaudited)
Net income $ 4,418 $ 2,736
Add (deduct) items not affecting cash flows provided by operating activities:
Depreciation 731 747
Provision for loan losses 427 315
Gain on trading account securities -- (245)
(Gain) loss on sale of securities available for sale (393) 10
Loss for impairment of securities -- 291
Originations of loans held for sale (9,981) --
Proceeds from sale of loans held for sale 11,567 2,227
Gain on sale of loans held for sale (107) (21)
Amortization of deferred loan fees, discounts and premiums (560) (696)
Decrease in trading account securities -- 6,433
Decrease (increase) in accrued interest receivable 857 (598)
Decrease (increase) in other assets 309 (1,305)
Increase (decrease) in other liabilities 2,321 (512)
Decrease in accrued interest payable (908) (258)
- -------------------------------------------------------------------------------------------------------
Net cash flows provided by operating activities 8,681 9,124
- -------------------------------------------------------------------------------------------------------
Cash flows from (used in) investment activities:
Capital expenditures (3,009) (1,075)
Net increase in loans (15,261) (13,430)
Purchase of investment securities (25,064) (40,529)
Proceeds from maturities, payments and calls of investment securities 33,675 13,138
Purchase of securities available for sale (58,769) (39,282)
Proceeds from sales and calls of securities available for sale 66,503 33,012
- -------------------------------------------------------------------------------------------------------
Net cash flows used in investment activities (1,925) (48,166)
- -------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Net increase (decrease) in deposits before interest credited (38,772) 40,746
Interest credited to deposits 7,976 12,444
Increase in securities sold under agreements to repurchase 15,702 --
Proceeds from FHLB advances 20,926 37,500
Repayments of FHLB advances (2,253) (43,467)
Net increase (decrease) in other borrowings (241) 184
Proceeds from issuance of trust preferred securities 10,000 --
Decrease in advance payments by borrowers for taxes and insurance (408) (876)
Cash dividends on common stock (1,279) (1,093)
Common stock issued -- 7
Payment for fractional shares (5) (7)
Stock options exercised 27 254
Common stock repurchased -- (226)
- -------------------------------------------------------------------------------------------------------
Net cash flows provided by financing activities 11,673 45,466
- -------------------------------------------------------------------------------------------------------
Net increase in cash and cash equivalents 18,429 6,424
CASH AND CASH EQUIVALENTS:
Beginning of period 23,912 13,082
-------- --------
End of period $ 42,341 $ 19,506
======== ========
SUPPLEMENTAL DISCLOSURES:
Cash payments during the year for:
Taxes $ 1,407 $ 496
Interest $ 13,632 $ 17,099
NON-CASH ITEMS:
Stock dividend issued $ 2,882 $ 2,118
Net unrealized (loss) gain on investment securities available for sale, $ (854) $ 5,319
net of tax
Transfer of investment securities from held to maturity to available for sale $ -- $ 10,807
due to the adoption of FAS 133.
See accompanying notes to unaudited consolidated financial statements.
5
CHESTER VALLEY BANCORP INC.
AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Chester Valley Bancorp Inc. (the "Holding Company") was incorporated in the
Commonwealth of Pennsylvania in August 1989. The business of the Holding Company
and its subsidiaries (collectively, the "Company") consists of the operations of
First Financial Bank ("First Financial" or the "Bank"), a Pennsylvania-chartered
commercial bank founded in 1922 as a Pennsylvania-chartered savings association,
and Philadelphia Corporation for Investment Services ("PCIS"), a full service
investment advisory and securities brokerage firm. Effective September 1, 2001,
the Bank converted to a Pennsylvania-chartered commercial bank under the same
corporate title. As a consequence of such charter conversion and with the
approval by the Federal Reserve Bank of Philadelphia under delegated authority
from the Board of Governors of the Federal Reserve System ("FRB"), the Holding
Company became a bank holding company that has also been designated by the FRB
as a financial holding company. Prior to such conversion, the Holding Company
was a unitary thrift holding company.
The Bank provides a wide range of banking services to individual and corporate
customers through its nine full-service branch offices in Chester County,
Pennsylvania. The Bank provides residential real estate, commercial real estate,
commercial and consumer lending services, funding these activities primarily
with retail and business deposits and borrowings. PCIS is a registered
broker/dealer in all 50 states and the District of Columbia and it is also
registered as an investment advisor with the Securities and Exchange Commission
("SEC"). PCIS provides many additional services, including self-directed and
managed retirement accounts, safekeeping, daily sweep money market funds,
portfolio and estate valuations, life insurance and annuities, and margin
accounts, to individuals and smaller corporate accounts. PCIS' offices are
located in Wayne and Philadelphia, Pennsylvania.
PRINCIPLES OF CONSOLIDATION AND PRESENTATION
The accompanying consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries, the Bank and PCIS. The accounts of
the Bank include its wholly-owned subsidiaries, First Financial Investments Inc.
and D & S Service Corp., which owns D & F Projects and Wildman Projects, Inc.,
both of which are wholly-owned subsidiaries thereof. All material inter-company
balances and transactions have been eliminated in consolidation. Prior period
amounts are reclassified when necessary to conform with the current period's
presentation.
6
The accompanying consolidated financial statements have been prepared in
accordance with the instructions to Form 10-Q. Accordingly, they do not include
all of the information and footnotes required by generally accepted accounting
principles in the United States ("GAAP") for complete financial statements.
However, such information reflects all adjustments, which are, in the opinion of
management, necessary for a fair presentation of results for the three- and
nine-month unaudited interim periods.
The results of operations for the three- and nine-month periods ended March 31,
2002, are not necessarily indicative of the results to be expected for the
fiscal year ending June 30, 2002. The consolidated financial statements
presented herein should be read in conjunction with the audited consolidated
financial statements and the notes thereto included in the Company's Annual
Report to Stockholders for the fiscal year ended June 30, 2001 included in the
Company's Annual Report on Form 10-K for such fiscal year.
EARNINGS PER SHARE
The dilutive effect of stock options is excluded from the computation of basic
earnings per share but included in the computation of diluted earnings per
share. Earnings per share and weighted average shares outstanding for the
periods presented herein have been adjusted to reflect the effects of the 5%
stock dividends paid in September 2001 and 2000.
The following table sets forth the computation of basic and diluted earnings per
share:
THREE MONTHS ENDED NINE MONTHS ENDED
MARCH 31, MARCH 31,
----------------------- -----------------------
2002 2001 2002 2001
---------- ---------- ---------- ----------
(Dollars in thousands, except per share amounts)
Numerator:
Net income $ 1,479 $ 1,180 $ 4,418 $ 2,736
========== ========== ========== ==========
Denominator:
Denominator for basic per share-
weighted average shares 4,331,566 4,322,465 4,330,452 4,314,673
Effect of dilutive securities:
Stock options 36,246 54,846 27,527 60,201
---------- ---------- ---------- ----------
Denominator for diluted earnings
per share-adjusted weighted
average shares and assumed
exercise 4,367,812 4,377,311 4,357,979 4,374,874
========== ========== ========== ==========
Basic earnings per share $ 0.34 $ 0.27 $ 1.02 $ 0.63
========== ========== ========== ==========
Diluted earnings per share $ 0.34 $ 0.27 $ 1.01 $ 0.63
========== ========== ========== ==========
7
The number of antidilutive stock options included was 133,465 and 337,666 for
the three- and nine- month periods ended March 31, 2002, respectively, and
86,379 for each of the same periods in 2001.
NOTE 2 - LOANS RECEIVABLE
Loans receivable, including loans held for sale, are summarized as follows:
MARCH 31, June 30,
2002 2001
--------- ---------
First mortgage loans:
Residential $ 137,805 $ 151,155
Construction-residential 21,289 18,191
Land acquisition and development 17,618 11,492
Commercial 98,817 82,890
Construction-commercial 12,707 16,560
Commercial business 34,032 27,653
Consumer 67,323 64,756
--------- ---------
TOTAL LOANS 389,591 372,697
--------- ---------
Less:
Undisbursed loan proceeds:
Construction-residential (20,616) (13,752)
Construction-commercial (2,775) (6,776)
Deferred loan fees - net (1,611) (1,592)
Allowance for loan losses (4,506) (4,264)
--------- ---------
NET LOANS $ 360,083 $ 346,313
========= =========
NOTE 3 - ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained at a level that represents
management's best estimate of known and inherent losses, which are probable and
reasonably determinable based upon an evaluation of the loan portfolio.
Homogeneous portfolios of loans, which include residential mortgage, home equity
and other consumer loans, are evaluated as a group. Commercial business,
commercial mortgage and construction loans are evaluated individually. Specific
portions of the allowance are developed by analyzing individual loans for
adequacy of collateral, cash flow and other risks, which may be unique to that
particular loan. General portions of the allowance are developed by grading
individual loans in the commercial and construction portfolios and applying loss
factors by grade. The general portion of the allowance also includes loss
factors applied to the homogeneous portfolios as a group. The loss factors
applied to graded loans were developed based on the Company's loss history for
loans with similar attributes as well as input from the Company's primary
banking regulators. Loss factors are applied to homogeneous loans based upon
prior loss
8
experience of the portfolio, delinquency trends and the volume of non-performing
loans. Although management believes it has used the best information available
to it in making such determinations, and that the present allowance for loan
losses is adequate, future adjustments to the allowance may be necessary, and
net income may be adversely affected if circumstances differ substantially from
the assumptions used in determining the level of the allowance. In addition,
various regulatory agencies, as an integral part of their examination process,
periodically review the Bank's allowance for losses on loans. Such agencies may
require the Bank to recognize additions to the allowance based on their
judgments about information available to them at the time of their examination.
The allowance is increased by the provision for loan losses, which is charged to
operations. Loan losses, other than those incurred on loans held for sale, are
charged directly against the allowance and recoveries on previously charged-off
loans are added to the allowance.
For purposes of applying the measurement criteria for impaired loans, the
Company excludes large groups of smaller balance homogeneous loans, primarily
consisting of residential real estate loans and consumer loans as well as
commercial business loans with balances of less than $100,000. For applicable
loans, the Company evaluates the need for impairment recognition when a loan
becomes non-accrual or earlier if, based on management's assessment of the
relevant facts and circumstances, it is probable that the Company will be unable
to collect all proceeds under the contractual terms of the loan agreement. At
March 31, 2002 and June 30, 2001, the recorded investment in impaired loans was
$1.15 million and $1.17 million. The Company's policy for the recognition of
interest income on impaired loans is the same as for non-accrual loans: impaired
loans are charged off when the Company determines that foreclosure is probable
and the fair value of the collateral is less than the recorded investment of the
impaired loan.
NOTE 4 - COMMITMENTS
Commitments to potential mortgagors of the Bank amounted to $1.03 million as of
March 31, 2002, of which $153 thousand was for variable-rate loans. The balance
of the commitments represents $873 thousand fixed rate loans (primarily
consisting of single-family residential mortgages) bearing interest rates of
between 6.50% and 7.13%. At March 31, 2002, the Company had $23.39 million of
undisbursed construction loan funds as well as $31.66 million of undisbursed
remaining consumer and commercial line balances.
NOTE 5 - TRUST PREFERRED SECURITIES
On March 26, 2002, the Company issued $10.31 million of Junior Subordinated
Debentures to Chester Valley Statutory Trust, a Pennsylvania Business Trust, in
which the Company owns all of the common equity. The Trust then issued $10.00
million of Trust Preferred Securities to investors which are secured by the
Junior Subordinated Debentures and the guarantee of the Company. The Junior
Subordinated Debentures are treated as debt of the Company but they qualify as
Tier I capital, subject to certain limitations under the risk-based capital
guidelines of the Federal Reserve. The Trust Preferred Securities are callable
by the Company on March 26, 2007, or at any time in the event the deduction of
related interest for federal income taxes is prohibited, the treatment as Tier I
capital is no longer permitted or under certain other circumstances. The Trust
Preferred Securities must be redeemed by the Company upon maturity of the
debentures in 2032.
9
NOTE 6 - REGULATORY CAPITAL
The Bank is subject to various regulatory capital requirements administered by
the federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory and possibly additional discretionary actions by
regulators that, if undertaken, could have a direct material effect on the
Company's and 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 the Bank's
assets, liabilities, and certain off balance sheet items as calculated under
regulatory accounting practices. The Bank's 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 Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier 1 capital (as defined) to
adjusted total assets (as defined). At March 31, 2002 and June 30, 2001 the Bank
was in compliance with all such requirements and is deemed a "well-capitalized"
institution for regulatory purposes. There are no conditions or events since
March 31, 2002 that management believes have changed the institution's category.
The Bank's regulatory capital amounts and ratios are presented in the table as
follows (dollars in thousands):
Required To Be Well Capitalized
Actual For Capital Under Prompt Corrective
Adequacy Action Provisions
--------------------- -------------------- -----------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
AS OF MARCH 31, 2002:
Total Capital
(to Risk-Weighted Assets) $55,006 15.04% $29,258 8.00% $36,573 10.00%
Tier 1 Capital
(to Risk-Weighted Assets) $50,500 13.81% $14,629 4.00% $21,944 6.00%
Tier 1 Capital
(to Adjusted Total Assets) $50,500 9.66% $20,921 4.00% $26,151 5.00%
AS OF JUNE 30, 2001:
Total Capital
(to Risk-Weighted Assets) $41,319 12.61% $26,220 8.00% $32,775 10.00%
Tier 1 Capital
(to Risk-Weighted Assets) $37,220 11.36% $13,110 4.00% $19,665 6.00%
Tier 1 Capital
(to Adjusted Total Assets) $37,220 6.85% $21,725 4.00% $27,157 5.00%
10
NOTE 7 - SEGMENT REPORTING
The Company has two reportable segments: First Financial and PCIS. First
Financial operates a branch bank network with nine full-service banking offices
and provides primarily deposit and loan services to customers. Additionally, the
Bank offers trust services at its Downingtown headquarters. PCIS operates a full
service investment advisory and securities brokerage firm through two offices.
Both segments operate in southeastern Pennsylvania.
The Company evaluates performance based on profit or loss from operations before
income taxes not including nonrecurring gains and losses. There are no material
intersegment sales or transfers.
The Company's reportable segments have traditionally been two independent
financial services institutions. PCIS was acquired by the Company on May 29,
1998. The two segments are managed separately. All senior officers from PCIS
prior to the acquisition have been retained to manage PCIS.
The following table highlights income statement and balance sheet information
for each of the segments at or for March 31, 2002 and 2001:
AT AND DURING THE THREE MONTHS ENDED MARCH 31,
--------------------------------------------------------------------------------
2002 2001
---------------------------------------- ------------------------------------
BANK PCIS TOTAL Bank PCIS Total
--------------------------------------------------------------------------------
(Dollars in Thousands)
Net interest income $ 4,648 $ 4 $ 4,652 $ 3,880 $ 23 $ 3,903
Other income 728 832 1,560 482 897 1,379
Total net income 1,408 71 1,479 1,081 99 1,180
Total assets 559,709 1,646 561,355 554,638 2,062 556,700
Total interest-bearing
deposits 32,320 1,334 33,654 14,140 1,348 15,488
Total trading
securities -- 16 16 -- 332 332
AT AND DURING THE NINE MONTHS ENDED MARCH 31,
--------------------------------------------------------------------------------
2002 2001
---------------------------------------- ------------------------------------
BANK PCIS TOTAL Bank PCIS Total
--------------------------------------------------------------------------------
(Dollars in Thousands)
Net interest
income $ 13,428 $ 28 $ 13,456 $ 10,874 $ 71 $ 10,945
Other income 2,239 2,594 4,833 1,477 2,698 4,175
Total net income 4,168 250 4,418 2,426 310 2,736
Total assets 559,709 1,646 561,355 554,638 2,062 556,700
Total interest-
bearing deposits 32,320 1,334 33,654 14,140 1,348 15,488
Total trading
securities -- 16 16 -- 332 332
11
NOTE 8 - RECENT ACCOUNTING PRONOUNCEMENTS
Since June 2001, the Financial Accounting Standards Board ("FASB") have issued
the following statements:
(1) Statement No. 141 "Business Combinations"
(2) Statement No. 142 "Goodwill and Other Intangible Assets"
(3) Statement No. 143 "Accounting for Asset Retirement Obligations"
(4) Statement No. 144 "Accounting for Impairment or Disposal of Long Lived
Assets"
The Company believes that these statements either have not or will not have a
significant impact on its earnings, financial condition or equity upon their
respective adoption.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
In this Form 10-Q, the Company may have included certain "forward looking
statements", either express or implied, which concern anticipated future
operations of the Company. It is management's desire to take advantage of the
"safe harbor" provisions of the Private Securities Litigation Reform Act of
1995. This statement is for the express purpose of availing the Company of the
protections of such safe harbor with respect to all "forward looking statements"
contained in this Form 10-Q. The Company may have used "forward looking
statements" to describe certain of its future plans and strategies including
management's current expectations of the Company's future financial results.
Management's ability to predict results or the effect of future plans and
strategy involve certain risks, uncertainties, estimates, and assumptions, which
are subject to factors beyond the Company's control. Consequently, the Company's
actual results could differ materially from management's expectations. Factors
that could affect results include, but are not limited to, interest rate trends,
competition, the general economic climate in Chester County, the mid-Atlantic
region and the country as a whole, loan delinquency rates, changes in federal
and state regulation, and other uncertainties described in the Company's filings
with the Securities and Exchange Commission (the "Commission"), including this
Form 10-Q. These factors should be considered in evaluating the "forward looking
statements", and undue reliance should not be placed on such statements. The
Company undertakes no obligation to update or revise any forward-looking
statements, whether written or oral that may be made from time to time by or on
the Company's behalf.
12
GENERAL
The Company's results of operations depend primarily on its net interest income,
which is the difference between interest income on interest-earning assets,
which consists principally of loans and investment securities, and interest
expense on interest-bearing liabilities, which consist primarily of deposits and
borrowings. Net interest income is determined by the Company's interest rate
spread (the difference between the yields earned on its interest-earning assets
and the rates paid on its interest-bearing liabilities) and the relative amounts
of interest-earning assets and interest-bearing liabilities.
The Company's results of operations also are affected by the provision for loan
losses resulting from management's assessment of the allowance for loan losses;
the level of its non-interest income, including investment service fees, account
service fees and related income, and gains and losses from the sales of loans
and securities; the level of its non-interest expense, including salaries and
employee benefits, occupancy and equipment expense, data processing services,
deposit insurance premiums, advertising, other operating costs; and income tax
expense.
The Bank is a community-oriented bank, which emphasizes customer service and
convenience. As part of this strategy, the Bank offers products and services
designed to meet the needs of its customers. The Company generally has sought to
achieve long-term financial growth and strength by increasing the amount and
stability of its net interest income and non-interest income and by maintaining
a high level of asset quality. In pursuit of these goals, the Company has
adopted a business strategy emphasizing growth in basic financial services. The
focus is on expanding its commercial and construction lending activities,
increasing its commercial deposits and treasury management, consumer deposits
and loans as well as expanding its trust and investment management services.
BUSINESS STRATEGY
GROWTH. The Company seeks to increase its assets primarily through internal
growth and by expanding its operations. During fiscal 2002, the Company opened a
new branch to broaden its deposit base and to introduce several new commercial
lending and deposits products. The branch was opened in late January 2002.
The two primary objectives of the fiscal 2002 strategic plan are to increase
loans, in particular commercial real estate and construction loans, consumer
loans and core deposits (consisting of all deposits other than certificates of
deposits). The Company's net loans increased by $15.25 million, or 4.43% from
$343.96 million at June 30, 2001 to $359.21 million at March 31, 2002. The
growth of core deposits was $28.61 million or 16.91% from $169.15 million at
June 30, 2001 to $197.76 million at March 31, 2002.
EMPHASIS ON COMMERCIAL LENDING. The Company has been and will continue to seek
to increase its higher yielding portfolios of commercial real estate and
commercial business loans. The Company's commercial real estate, commercial
business and construction and land acquisition loans comprised in the aggregate
38.69% of its total loan portfolio at June 20, 2001 compared to 43.98% at March
31, 2002. Single-family and multi-family residential loans comprised 42.92% of
the Company's loan portfolio at June 30, 2001 as compared to 37.63% at March 31,
2002.
13
MAINTAIN LOAN QUALITY. Management believes that maintaining high loan quality
is key to achieving and sustaining long-term financial success. Accordingly, the
Company has sought to maintain a high level of loan quality and moderate credit
risk by using underwriting standards which management believes are conservative
and by generally limiting its lending activity to the origination of loans
secured by property located in its market area. The Company's non-accrual loans
decreased slightly by $29 thousand to $1.15 million at March 31, 2002 with the
decrease primarily related to residential real estate loans. The Company's ratio
of non-performing loans to total loans was 0.33% and its allowance for loan
losses to non-performing loans was 363.82% at June 30, 2001, while at March 31,
2002 the percentages were 0.21% and 394.14%, respectively.
STABLE SOURCE OF LIQUIDITY. The Company purchases investment securities that
management believes to be appropriate for liquidity, yield and credit quality in
order to achieve a managed and more predictable source of liquidity to meet loan
demand and, to a lesser extent, a stable source of interest income. The
portfolio totaled, in the aggregate, $137.51 million at March 31, 2002 compared
to $154.74 million at June 30, 2001. In addition, the Company had short-term
interest-bearing deposits of $33.65 million at March 31, 2002 compared to $19.70
million at June 30, 2001.
EMPHASIS ON DEPOSITS AND CUSTOMER SERVICE. The Company, as a community-based
financial institution, is largely dependent upon its base of competitively
priced core deposits to provide a stable source of funding. The Company has
retained many loyal customers over the years through a combination of high
quality service, relatively low service fees, customer convenience, an
experienced staff and a strong commitment to the communities in which it serves.
Lower costing core deposits totaled $197.76 million or 51.69% of the Company's
total deposits at March 31, 2002, as compared to $169.15 million or 40.92% at
June 30, 2001, a $28.61 million or 16.91% increase. This increase in lower
costing deposits is primarily attributable to the continuing effort to grow core
deposits. Pursuant to the Company's strategy, the major focus in 2002 is on
increasing commercial and consumer core deposits and relying less on higher rate
municipal deposits. In addition, the Company has not used brokered deposits as a
source of funds and presently has no plans to do so in the future.
ASSET/LIABILITY MANAGEMENT
The primary asset/liability management goal of the Company is to manage and
control its interest rate risk of the bank subsidiary, thereby reducing its
exposure to fluctuations in interest rates, and achieving sustainable growth in
net interest income over the long term. Other objectives of asset/liability
management include: (1) ensuring adequate liquidity and funding, (2) maintaining
a strong capital base and (3) maximizing net interest income opportunities.
In general, interest rate risk is mitigated by closely matching the maturities
or repricing periods of interest-sensitive assets and liabilities to ensure a
favorable interest rate spread. Management regularly reviews the Bank's
interest-rate sensitivity, and uses a variety of strategies as needed to adjust
that sensitivity within acceptable tolerance ranges established by the Board of
Directors. Changing the relative proportions of fixed-rate and adjustable-rate
assets and liabilities is one of the primary strategies utilized by the Company
to accomplish this objective.
14
The matching of assets and liabilities may be analyzed by examining the extent
to which such assets and liabilities are "interest-rate sensitive" and by
monitoring an institution's interest-sensitivity gap. An interest-sensitivity
gap is considered positive when the amount of interest-rate sensitive assets
exceeds the amount of interest-rate sensitive liabilities repricing within a
defined period and is considered negative when the amount of interest-rate
sensitive liabilities exceeds the amount of interest-rate sensitive assets
repricing within a defined period.
To provide a more accurate one-year gap position of the Company, certain deposit
classifications are based on the interest-rate sensitive attributes and not on
the contractual repricing characteristics of these deposits. Management
estimates, based on historical trends of the Bank's deposit accounts, that money
market, NOW accounts and savings deposits are sensitive to interest rate
changes. Accordingly, the interest-sensitive portions of these deposits are
classified in the less than one-year categories with the remainder in the over
five years category. Deposit products with interest rates based on a particular
index are classified according to the specific repricing characteristic of the
index. Deposit rates other than time deposit rates are variable, and changes in
deposit rates are typically subject to local market conditions and management's
discretion and are not indexed to any particular rate. The Interest Rate
Sensitivity Analysis at March 31, 2002 is on page 23.
Generally, during a period of rising interest rates, a positive gap would result
in an increase in net interest income while a negative gap would adversely
affect net interest income. However, the interest-sensitivity table on page 23
does not provide a comprehensive representation of the impact of interest rate
changes on net interest income. Each category of assets or liabilities will not
be affected equally or simultaneously by changes in the general level of
interest rates. Even assets and liabilities, which contractually reprice within
the same period may not, in fact, reprice at the same price or the same time or
with the same frequency. It is also important to consider that the table
represents a specific point in time. Variations can occur as the Company adjusts
its interest-sensitivity position for the Bank throughout the year.
FINANCIAL CONDITION
-------------------
The Company's total assets increased to $561.36 million at March 31, 2002 from
$544.71 million at June 30, 2001, principally due to a $15.25 million increase
in loans receivable, net to $359.21 million from $343.96 million at June 30,
2001 combined with a $13.96 million increase in interest-earning deposits from
$19.70 million at June 30, 2001 to $33.65 million at March 31, 2002. These
increases were partially offset by a $17.23 million decrease in investment
securities from $154.72 million at June 30, 2001 to $137.49 million at March 31,
2002. Liabilities increased $14.34 million. Borrowings increased $34.13 million
from $82.91 at June 30, 2001 to $117.04 million at March 31, 2002 and the
Company issued $10.00 million of trust preferred securities. These increases
were used to reduce deposits by $30.80 million from $413.35 million at June 30,
2001 to $382.56 million at March 31, 2002 as well as to fund the increase in
assets noted above. The decline in deposits primarily resulted from decreases in
higher rate municipal deposits in connection with the implementation of the
Company's business plan.
Stockholders' equity increased $2.31 million to $42.41 million at March 31, 2002
from $40.10 million at June 30, 2001, primarily as a result of net income of
$4.42 million. The increase in stockholders' equity was partially offset by,
among other things, cash dividends of $1.28 million and an increase in net
unrealized losses on securities available for sale, net of tax, of $854
thousand. The increase in common stock and additional paid in capital was due
primarily to the 5% stock dividend paid in September 2001.
15
RESULTS OF OPERATIONS
---------------------
INTEREST INCOME AND INTEREST SPREAD ANALYSIS
- --------------------------------------------
The following table sets forth, for the periods indicated, information on a tax
equivalent basis regarding (1) the total dollar amount of interest income of the
Company from interest-earning assets and the resultant average yields; (2) the
total dollar amount of interest expense on interest-bearing liabilities and the
resultant average cost; (3) net interest income; (4) interest rate spread; and
(5) net interest-earning assets and their net yield. Average balances are
determined on a daily basis.
THREE MONTHS ENDED MARCH 31,
---------------------------------------------------------------------
(DOLLARS IN THOUSANDS) 2002 2001
-------------------------------- --------------------------------
AVERAGE YIELD/ Average Yield/
BALANCE INTEREST RATE Balance Interest Rate
-------- ------- ----- --------- -------- ------
ASSETS:
Loans (1) $ 363,256 $ 6,583 7.25% $ 346,785 $ 6,862 7.97%
Securities and other investments (1) 149,907 1,939 5.17% 166,878 2,845 6.82%
--------------------- ---------------------
Total interest-earning assets (1) 513,163 8,522 6.64% 513,663 9,707 7.60%
---------------- ----------------
Non-interest earning assets 35,178 20,936
--------- ---------
TOTAL ASSETS $ 548,341 $ 534,599
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Deposits and repurchase agreements (2) $ 374,876 2,327 2.52% $ 414,882 4,492 4.39%
FHLB advances and other borrowings (2) 100,227 1,348 5.45% 72,662 1,062 5.93%
--------------------- ---------------------
TOTAL INTEREST-BEARING LIABILITIES (2) 475,103 3,675 3.14% 487,544 5,554 4.62%
------------------------------ ------------------------------
Non-interest-bearing liabilities 30,850 8,165
Stockholders' equity 42,388 38,890
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 548,341 $ 534,599
========= =========
NET INTEREST INCOME/INTEREST RATE SPREAD $ 4,847 3.50% $ 4,153 2.98%
==== ================
NET INTEREST INCOME/AVERAGE
INTEREST-EARNING ASSETS (2) $ 38,060 3.83% $ 26,119 3.28%
========= ==== ========= ====
RATIO OF AVERAGE INTEREST-EARNING ASSETS TO
INTEREST-BEARING LIABILITIES 108% 105%
==== ====
NINE MONTHS ENDED MARCH 31,
---------------------------------------------------------------------
(DOLLARS IN THOUSANDS) 2002 2001
-------------------------------- --------------------------------
AVERAGE YIELD/ Average Yield/
BALANCE INTEREST RATE Balance Interest Rate
-------- ------- ----- --------- -------- ------
ASSETS:
Loans (1) $ 357,426 $ 20,196 7.53% $ 341,458 $ 20,350 7.94%
Securities and other investments (1) 157,454 6,600 5.59% 156,624 8,256 7.03%
--------------------- ---------------------
Total interest-earning assets (1) 514,880 26,796 6.94% 498,082 28,606 7.66%
----------------- -----------------
Non-interest earning assets 29,766 23,848
--------- ---------
TOTAL ASSETS $ 544,646 $ 521,930
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Deposits and repurchase agreements (2) $ 392,584 8,942 3.03% $ 399,689 13,387 4.46%
FHLB advances and other borrowings (2) 87,808 3,782 5.74% 74,627 3,454 6.17%
--------------------- ---------------------
TOTAL INTEREST-BEARING LIABILITIES (2) 480,392 12,724 3.53% 474,316 16,841 4.73%
------------------------------ ------------------------------
Non-interest-bearing liabilities 22,396 10,053
Stockholders' equity 41,858 37,561
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 544,646 $521,930
========= =========
NET INTEREST INCOME/INTEREST RATE SPREAD $ 14,072 3.41% $ 11,765 2.93%
================= ======== ====
NET INTEREST INCOME/AVERAGE
INTEREST-EARNING ASSETS (2) $ 34,488 3.64% $23,766 3.15%
========= ==== ========= ====
RATIO OF AVERAGE INTEREST-EARNING ASSETS TO
INTEREST-BEARING LIABILITIES 107% 105%
==== ====
(1) Yield calculated using 30/360 day basis.
(2) Yield calculated based on the actual number of days.
16
Net interest income, on a fully tax equivalent basis, increased 16.71% to $4.85
million and 19.61% to $14.07 million for the three- and nine-month periods ended
March 31, 2002, compared to $4.15 million and $11.77 million, respectively, for
the same periods in 2001 as the Company's interest expense decreased at a more
rapid rate than its interest income. Total interest income, on a fully tax
equivalent basis, decreased to $8.52 million and $26.80 million for the three-
and nine-month periods ended March 31, 2002, from $9.71 million and $28.61
million for the same periods in 2001, primarily as a result of the effect of
decreasing yields as market rates of interest declined during the periods and
changes in average balances.
The average balance of interest-earning assets decreased $500 thousand to
$513.16 million and increased $16.80 million to $514.88 million for the three-
and nine-month periods ended March 31, 2002, respectively, from $513.66 million
and $498.08 million, respectively, for the same periods in 2001. The increase in
the nine-month period was primarily due to a $16.47 million and $15.97 million
increase in the average balance of loans during the three- and nine-month
periods at March 31, 2002, respectively. The decrease in interest income also
resulted from 96 basis-point and 72 basis-point decreases in the yield on
interest-earning assets to 6.64% and 6.94% for the three- and nine-month periods
ended March 31, 2002, respectively, as the result of decreasing general market
rates of interest experienced during most of 2001.
Total interest expense decreased to $3.68 million and $12.72 million from $5.55
million and $16.84 million for the respective three- and nine- month periods in
2002 and 2001. Such declines reflected, in large part, the decreases in the
average rate paid on such liabilities to 3.14% and 3.53% for the three- and
nine-month periods ended March 31, 2002, respectively, from 4.62% and 4.73% for
the same periods in the prior year, as the result primarily of the continued
decline in market rates of interest experienced throughout much of 2002. Also
contributing to the decrease during the three-month period is the decrease in
the average balance of interest-bearing liabilities of $12.44 million to $475.10
million. Offsetting part of the decrease for the nine-month period was an
increase in the average balance of interest-bearing liabilities of $6.08 million
to $480.39 million. In addition, interest expense for the nine-month period
ended March 31, 2001 includes $104,000 for the loss in the time value of an
interest rate cap. By December 31, 2001, the entire cost of the cap had been
expensed.
The tax equivalent interest rate spread increased to 3.50% and 3.41% from 2.98%
and 2.93%, respectively, and the average tax equivalent net yield on
interest-earning assets increased to 3.83% and 3.64% from 3.28% and 3.15% for
the three- and nine-month periods ended March 31, 2002 and 2001, respectively,
due to the reasons discussed above.
17
PROVISION FOR LOAN LOSSES
The Company provided $149,000 and $427,000, an increase of $44,000 and $112,000
for loan losses during the three- and nine-months periods ended March 31, 2002
and 2001. These provisions have been added to the Company's allowance for loan
losses due to the Company's focus on building a larger loan portfolio of
commercial real estate and business loans, which typically carry a greater risk
of loss than the Company's traditional loan portfolios, such as single-family
residential mortgages and real estate loans. This change in the character of the
loan portfolio, the current economic conditions and management's assessment of
the inherent risk of loss existing in the loan portfolio determined the amount
necessary to increase the allowance for loan losses to an appropriate level. At
March 31, 2002, the allowance for loan losses totaled $4.51 million or 1.25% of
net loans (before allowance), compared to $4.26 million or 1.24% of net loans at
June 30, 2001. As a percentage of non-performing assets, the allowance for loan
losses was 394% at March 31, 2002, compared to 364% at June 30, 2001, and
further compared to 370% at December 31, 2001.
OTHER INCOME
Total other income increased $181 thousand to $1.56 million and $658 thousand to
$4.83 million during the three- and nine-month periods ended March 31, 2002, as
compared to $1.38 million and $4.18 million during the same periods in 2001. For
the three- and nine-month periods respectively, service charges increased
$71,000 and $178,000 because of increases in the number of accounts and
activity, sale of loans with servicing decreased $7,000 and increased $86,000,
miscellaneous other income remained unchanged for the three months and increased
$17,000 for the nine months, and gains on available for sale securities
increased $110,000 and $694,000 primarily because of a loss on the impairment of
securities of $291,000 that was recognized in December 2001. These increases
were offset by a decrease in gains of trading account securities of $245,000 for
the nine-month period, and the Company experienced a decrease of $72,000 in
investment services income during the nine-month period ended March 31, 2002.
OPERATING EXPENSES
Total operating expenses increased by $409,000 or 11.00% and $239,000 or 2.03%
to $4.13 million and $12.01 million, respectively, for the three- and nine-month
periods ended March 31, 2002 as compared to the same periods in 2001. The
reasons for the increases in operating expenses for the three- and nine-month
periods in fiscal 2002 are as follows: (i) salaries and employee benefits
increased $302,000 or 14.58% and $700,000 or 11.28% resulting from normal salary
adjustments effective July 1, 2001, additional officer level staff, anticipated
year end bonuses and the general increase in employee benefit costs; (ii)
occupancy and equipment expense increased $111,000 or 19.61% resulting from the
expansion of the Company's corporate headquarters and decreased $5,000 or 0.28%;
(iii) data processing costs increased $2,000 or 0.79% and $56,000 or 7.71%
resulting principally from the introduction of our new computerized customer
services including E Services Products (E Bank for internet banking, E Voice for
24 hour telephone banking and E Corp for business banking); (iv) advertising
expense increased $1,000 or 1.85% and decreased $348,000 or 76.48% resulting
primarily from the Bank replacing print advertising with a more cost effective,
proactive direct sales approach; (v) other costs and expenses decreased $7,000
or 0.93% and $168,000 or 6.57% primarily from decreases in consulting, printing,
donations and supplies.
18
INCOME TAX EXPENSE
The Company recorded a $456,000 and a $1.43 million expense for the three- and
nine-month periods ended March 31, 2002, respectively, as compared to $278,000
and $296,000 for the same periods in 2001. The increase in income tax expense
for the three- and nine-month periods ended March 31, 2002 is due to higher
pre-tax income and a lower portion of the Company's pre-tax income comprised of
tax-free interest income. For the three- and nine-month periods ended March 31,
2002 the effective tax rate increased to 23.57% and 24.48% from 19.07% and 9.76%
for the same periods in the prior year.
ASSET QUALITY
Non-performing loans are comprised of non-accrual loans totaling $1.15 million
and $1.17 million at March 31, 2002 and June 30, 2001, respectively. Non-accrual
loans are loans on which the accrual of interest has ceased because the
collection of principal or interest payments is determined to be doubtful by
management. It is the policy of the Company to discontinue the accrual of
interest when principal or interest payments are delinquent 90 days or more
(unless the loan principal and interest are determined by management to be fully
secured and in the process of collection), or earlier, if the financial
condition of the borrower raises significant concern with regard to the ability
of the borrower to service the debt in accordance with the current loan terms.
Interest income is not accrued until the financial condition and payment record
of the borrower clearly demonstrates the borrower's ability to service the debt.
At March 31, 2002, the Company did not have any loans greater than 90 days
delinquent, which were accruing interest. Non-performing loans to total assets
were .23% at March 31, 2002 compared to .22% at June 30, 2001, and .18% at
December 31, 2001. Non-performing loans, which totaled $1.15 million at March
31, 2002 consisted of 14 single-family residential mortgage loans aggregating
$1.04 million and non-performing consumer and commercial business loans totaling
$105 thousand.
At March 31, 2002 the Company's classified loans, which consisted of loans
classified as special mention, substandard, doubtful or loss totaled $6.06
million compared to $4.84 million at June 30, 2001, and further compared to
$6.68 million at December 31, 2001. Included in loans classified substandard at
March 31, 2002 and December 31, 2001, and at June 30, 2001, were all loans 90
days past due and loans which were less than 90 days delinquent but inadequately
protected by the current paying capacity of the borrower or of the collateral
pledged, or which were subject to one or more well-defined weaknesses which may
jeopardize the satisfaction of the debt. Also included as classified loans at
March 31, 2002 were loans totaling $5.06 million, which are current but have
been listed as either special mention or substandard and are being closely
monitored.
19
In addition to classified loans, the Company has also classified three Municipal
Authority Bond investments with an aggregate balance of $8.12 million at March
31, 2002. These investments are performing but have characteristics which
warranted management to classify the investments. Two of the investments
totaling $5.98 million involve buildings and related property that are leased to
various agencies of the Commonwealth of Pennsylvania under long-term leases with
renewal options and the third investment of $2.14 million involves low-income
housing in Chester County under a Housing and Urban Development Program. At this
time, these investments have potential weaknesses, which may, if not corrected,
result in increased risk of loss at some future date.
LIQUIDITY AND CAPITAL RESOURCES
Management monitors liquidity daily and maintains funding sources to meet
unforeseen changes in cash requirements. The Company's primary sources of funds
are deposits, borrowings, repayments, prepayments and maturities of outstanding
loans and mortgage-backed securities, sales of assets available for sale,
maturities of investment securities and other short-term investments, and funds
provided from operations. While scheduled loan and mortgage-backed securities
repayments and maturing investment securities and short-term investments are
relatively predictable sources of funds, deposit flows and loan prepayments are
greatly influenced by the movement of interest rates in general, economic
conditions and competition. The Company manages the pricing of its deposits to
maintain a deposit balance deemed appropriate and desirable. Although the
Company's deposits represent the majority of its total liabilities, the Company
has also utilized other borrowing sources, namely FHLB advances.
Liquidity management is both a daily and long-term function. Excess liquidity is
generally invested in short-term investments such as FHLB overnight deposits. On
a longer term basis, the Company maintains a strategy of investing in various
lending and investment securities products. The Company uses its sources of
funds to primarily fund loan commitments and maintain a substantial portfolio of
investment securities, and to meet its ongoing commitments to pay maturing
savings certificates and other deposits. At March 31, 2002, the Company had
$1.03 million in commitments to fund loan originations. In addition, at such
date the Company had undisbursed loans in process for construction loans of
$23.39 million and $31.66 million in undisbursed lines of credit. Management of
the Company believes that the Company has adequate resources, including
principal prepayments and repayments of loans and investment securities and
borrowing capacity, to fund all of its commitments to the extent required.
The Company's current dividend policy is to declare a regular quarterly dividend
with the intent that the level of the dividend per share be reviewed and
determined by the Board of Directors on a quarterly basis. Dividends will be in
the form of cash and/or stock after giving consideration to all aspects of the
Company's performance for the current and prior quarter and other relevant
aspects. On August 15, 2001, the Board of Directors declared a 5% stock dividend
and a quarterly cash dividend of $.10 per share, both of which were paid on
September 14, 2001. The Board also declared a $.10 per share cash dividend that
was paid in December 2001 and March 2002. Cash dividends from the Holding
Company are primarily dependent upon dividends paid to it by First Financial,
which, in turn, are subject to certain restrictions established by federal
regulators and Pennsylvania law.
20
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and rates.
The Company's market risk arises primarily from the interest rate risk inherent
in its lending, investments and deposit taking activities. To that end,
management actively monitors and manages its interest rate risk exposure. At
March 31, 2002, the Company's management believes that the interest rate
exposure has not significantly changed since disclosed at June 30, 2001.
The primary asset/liability management goal of the Company is to manage and
control its interest rate risk, thereby reducing its exposure to fluctuations in
interest rates, and achieving sustainable growth in net interest income over the
long term. Other objectives of asset/liability management include: (1) ensuring
adequate liquidity and funding, (2) maintaining a strong capital base and (3)
maximizing net interest income opportunities.
In general, interest rate risk is mitigated by closely matching the maturities
or repricing periods of interest-sensitive assets and liabilities to ensure a
favorable interest rate spread. Management regularly reviews the Company's
interest-rate sensitivity, and uses a variety of strategies as needed to adjust
that sensitivity within acceptable tolerance ranges established by management.
Changing the relative proportions of fixed-rate and adjustable-rate assets and
liabilities is one of the primary strategies utilized by the Company to
accomplish this objective.
The matching of assets and liabilities may be analyzed by examining the extent
to which such assets and liabilities are "interest-rate sensitive" and by
monitoring an institution's interest-sensitivity gap. An interest-sensitivity
gap is considered positive when the amount of interest-rate sensitive assets
exceeds the amount of interest-rate sensitive liabilities repricing within a
defined period and is considered negative when the amount of interest-rate
sensitive liabilities exceeds the amount of interest-rate sensitive assets
repricing within a defined period.
To provide a more accurate one-year gap position of the Company, certain deposit
classifications are based on the interest-rate sensitive attributes and not on
the contractual repricing characteristics of these deposits. Management
estimates, based on historical trends of the Bank's deposit accounts, that money
market, NOW and savings deposits are sensitive to interest rate changes.
Accordingly, some of the interest sensitive portions of such liabilities are
classified in the less than one year categories with the remainder placed in the
other categories. Deposit products with interest rates based on a particular
index are classified according to the specific repricing characteristic of the
index. Deposit rates other than time deposit rates are variable, and changes in
deposit rates are typically subject to local market conditions and management's
discretion and are not indexed to any particular rate.
21
Generally, during a period of rising interest rates, a positive gap would result
in an increase in net interest income while a negative gap would adversely
affect net interest income. However, the interest sensitivity table does not
provide a comprehensive representation of the impact of interest rate changes on
net interest income. Each category of assets or liabilities will not be affected
equally or simultaneously by changes in the general level of interest rates.
Even assets and liabilities, which contractually reprice within the same period
may not, in fact, reprice at the same price or the same time or with the same
frequency. It is also important to consider that the table represents a specific
point in time. Variations can occur as the Company adjusts its interest
sensitivity position throughout the year. Although interest rate sensitivity gap
is a useful measurement and contributes towards effective asset/liability
management, it is difficult to predict the effect of changing interest rates
solely on that measure. An alternative methodology is to estimate the changes in
the Company's portfolio equity over a range of interest rate scenarios.
The Company periodically identifies certain loans as held for sale at the time
of origination, primarily consisting of fixed-rate, single-family residential
mortgage loans which meet the underwriting characteristics of certain
government-sponsored enterprises (conforming loans). The Company regularly
re-evaluates its policy and revises it as deemed necessary. The majority of
loans sold to date have consisted of sales to Freddie Mac of whole loans and 95%
participation interests in long-term, fixed-rate, single-family residential
mortgage loans in furtherance of the Company's goal of better matching the
maturities and interest-rate sensitivity of its assets and liabilities. When
selling loans, the Company has generally retained servicing in order to increase
its non-interest income. At March 31, 2002, the Company serviced $12.27 million
of mortgage loans for others. Sales of loans produce future servicing income and
provide funds for additional lending and other purposes.
The following is an interest rate sensitivity analysis for the Bank at March 31,
2002.
22
INTEREST RATE SENSITIVITY ANALYSIS AT MARCH 31, 2002
(Dollars in thousands)
MORE THAN MORE THAN MORE THAN
THREE MONTHS SIX MONTHS ONE YEAR
THREE MONTHS THROUGH THROUGH THROUGH
OR LESS SIX MONTHS ONE YEAR THREE YEARS
-----------------------------------------------------------------------------
INTEREST-EARNING ASSETS:
Loans: (1)
Real estate (2) $ 55,194 $ 16,377 $ 27,998 $ 66,715
Commercial business 22,765 1,118 1,735 5,950
Consumer 26,984 6,703 7,751 12,654
Securities and interest-bearing deposits (3) 86,167 11,401 8,283 14,831
-----------------------------------------------------------------------------
TOTAL INTEREST-EARNING ASSETS $191,110 $ 35,599 $ 45,767 $100,147
-----------------------------------------------------------------------------
INTEREST-BEARING LIABILITIES:
Savings accounts $ 705 $ 706 $ 1,418 $ 5,746
NOW accounts 1,379 1,381 2,771 11,196
Money market accounts 8,628 8,676 17,499 15,684
Certificate accounts 53,117 26,192 27,693 67,198
Repo sweep 18,130 -- -- --
Borrowings 3,544 3,245 8,249 7,216
-----------------------------------------------------------------------------
TOTAL INTEREST-BEARING LIABILITIES $ 85,503 $ 40,200 $ 57,630 $107,040
-----------------------------------------------------------------------------
Cumulative (deficit) excess of interest-earning
assets to interest-bearing liabilities $105,607 $101,006 $ 89,143 $82,250
========= ======== ======== ========
Cumulative ratio of interest rate-sensitive
assets to interest rate-sensitive liabilities 223.5% 180.4% 148.6% 128.3%
========= ======== ======== ========
CUMULATIVE DIFFERENCE AS A PERCENTAGE OF
TOTAL ASSETS 18.9% 18.1% 16.0% 14.7%
========= ======== ======== ========
MORE THAN
THREE YEARS
THROUGH MORE THAN
FIVE YEARS FIVE YEARS TOTAL
-------------------------------------------------
INTEREST-EARNING ASSETS:
Loans: (1)
Real estate (2) $ 57,027 $ 75,387 $263,233
Commercial business 2,464 -- 34,032
Consumer 6,314 6,917 67,323
Securities and interest-bearing deposits (3) 8,936 41,633 171,251
-------------------------------------------------
TOTAL INTEREST-EARNING ASSETS $ 74,741 $ 88,475 $535,839
-------------------------------------------------
INTEREST-BEARING LIABILITIES:
Savings accounts $ 5,865 $15,198 $ 29,638
NOW accounts 11,376 29,248 57,351
Money market accounts 16,221 -- 66,708
Certificate accounts 5,887 4,710 184,797
Repo sweep -- -- 18,130
Borrowings 4,492 72,164 98,910
-------------------------------------------------
TOTAL INTEREST-BEARING LIABILITIES $ 43,841 $121,320 $455,534
-------------------------------------------------
Cumulative (deficit) excess of interest-earning
assets to interest-bearing liabilities $113,150 $ 80,305 $ 80,305
======== ======== ========
Cumulative ratio of interest rate-sensitive
assets to interest rate-sensitive liabilities 133.9% 117.6% 117.6%
======== ======== ========
CUMULATIVE DIFFERENCE AS A PERCENTAGE OF
TOTAL ASSETS 20.3% 14.4% 14.4%
======== ======== ========
(1) Net of undisbursed loan proceeds.
(2) Includes commercial mortgage loans.
(3) Excludes SFAS 115 available for sale adjustment.
Certain shortcomings are inherent in the method of analysis presented in the
table above. For example, although certain assets and liabilities may have
similar maturities or periods to repricing, they may react in different degrees
to changes in market interest rates. Also, the interest rates on certain types
of assets and liabilities may fluctuate in advance of changes in market interest
rates, while interest rates on other types may lag behind changes in market
rates. Additionally, certain assets, such as adjustable-rate loans, have
features, which restrict changes in interest rates both on a short-term basis
and over the life of the asset. Further, in the event of changes in interest
rates, prepayment and early withdrawal levels would likely deviate significantly
from those assumed in calculating the table. Finally, the ability of many
borrowers to service their adjustable-rate loans may decrease in the event of an
interest rate increase.
23
Part II. Other Information
Item 1. Legal Proceedings
None
Item 2. Changes in Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
Not Applicable.
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
None
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Chester Valley Bancorp Inc.
Date 05/14/02 /s/ Donna M. Coughey
----------------------------- ---------------------------------------
Donna M. Coughey
President and Chief Executive Officer
Date 05/14/02 /s/ Albert S. Randa
----------------------------- ---------------------------------------
Albert S. Randa, CPA
CFO and Treasurer
25