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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 000-23975
FIRST NIAGARA FINANCIAL GROUP, INC.
(exact name of registrant as specified in its charter)
Delaware 42-1556195
-------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
6950 South Transit Road, P.O. Box 514, Lockport, NY 14095-0514
- --------------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(716) 625-7500
--------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes |X| No |_|
The Registrant had 83,601,711 shares of Common Stock, $0.01 par value,
outstanding as of August 6, 2004.
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1
FIRST NIAGARA FINANCIAL GROUP, INC.
FORM 10-Q
For the Quarterly Period Ended June 30, 2004
TABLE OF CONTENTS
Item Number Page Number
- ----------- -----------
PART I - FINANCIAL INFORMATION
1. Financial Statements
Condensed Consolidated Statements of Condition as of
June 30, 2004 and December 31, 2003 (unaudited)....................................... 3
Condensed Consolidated Statements of Income for the
three and six months ended June 30, 2004 and 2003 (unaudited)......................... 4
Condensed Consolidated Statements of Comprehensive Income (Loss) for the
three and six months ended June 30, 2004 and 2003 (unaudited)......................... 5
Condensed Consolidated Statements of Changes in Stockholders' Equity
for the six months ended June 30, 2004 and 2003 (unaudited)........................... 6
Condensed Consolidated Statements of Cash Flows for the
six months ended June 30, 2004 and 2003 (unaudited)................................... 7
Notes to Condensed Consolidated Financial Statements (unaudited)........................ 8
2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................................................. 13
3. Quantitative and Qualitative Disclosures about Market Risk......................................22
4. Controls and Procedures....................................................................... 22
PART II - OTHER INFORMATION
1. Legal Proceedings............................................................................. 23
2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities.............. 23
3. Defaults upon Senior Securities............................................................... 23
4. Submission of Matters to a Vote of Security Holders........................................... 24
5. Other Information............................................................................. 24
6. Exhibits and Reports on Form 8-K.............................................................. 24
Signatures....................................................................................... 25
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
- --------------------------------------------------------------------------------
First Niagara Financial Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Condition
(unaudited)
June 30, December 31,
2004 2003
----------- ------------
(In thousands, except share
Assets and per share amounts)
Cash and cash equivalents:
Cash and due from banks ....................................... $ 79,601 $ 49,997
Federal funds sold and other short-term investments ........... 3,230 124,255
----------- -----------
Total cash and cash equivalents ........................ 82,831 174,252
Securities available for sale ..................................... 1,198,777 845,883
Loans, net ........................................................ 3,118,587 2,269,203
Bank-owned life insurance ......................................... 84,750 70,767
Premises and equipment, net ....................................... 58,497 43,694
Goodwill .......................................................... 324,151 105,981
Other intangible assets, net ...................................... 23,785 8,717
Other assets ...................................................... 134,562 71,010
----------- -----------
Total assets .................................. $ 5,025,940 $ 3,589,507
=========== ===========
Liabilities and Stockholders' Equity
Liabilities:
Deposits ........................................................ $ 3,319,027 $ 2,355,216
Short-term borrowings ........................................... 196,006 87,148
Long-term borrowings ............................................ 517,810 370,818
Other liabilities ............................................... 67,347 48,151
----------- -----------
Total liabilities ............................. 4,100,190 2,861,333
----------- -----------
Stockholders' equity:
Preferred stock, $0.01 par value, 50,000,000 shares authorized,
none issued ................................................. -- --
Common stock, $0.01 par value, 250,000,000 shares authorized;
84,298,473 shares issued in 2004 and 70,813,651 shares issued
in 2003 ..................................................... 843 708
Additional paid-in capital .................................... 750,026 544,618
Retained earnings ............................................. 225,709 217,538
Accumulated other comprehensive loss .......................... (9,697) (740)
Common stock held by ESOP, 3,972,411 shares in 2004 and
4,049,659 shares in 2003 .................................... (29,837) (30,399)
Unearned compensation - Recognition and Retention Plan,
381,633 shares in 2004 and 358,095 shares in 2003 ........... (3,723) (2,376)
Treasury stock, at cost, 612,612 shares in 2004
and 79,422 shares in 2003 ................................... (7,571) (1,175)
----------- -----------
Total stockholders' equity .................... 925,750 728,174
----------- -----------
Total liabilities and stockholders' equity .... $ 5,025,940 $ 3,589,507
=========== ===========
See accompanying notes to condensed consolidated financial statements.
3
First Niagara Financial Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Income
(unaudited)
Three months ended Six months ended
June 30, June 30,
-------------------- --------------------
2004 2003 2004 2003
-------- -------- -------- --------
(In thousands, except per share amounts)
Interest income:
Real estate loans .......................................... $ 37,626 31,007 $ 73,539 61,557
Other loans ................................................ 9,504 7,066 18,625 13,512
Mortgage-backed securities .................................. 5,565 1,630 10,805 4,744
Other investment securities ................................. 2,882 1,707 5,420 3,216
Other ...................................................... 173 1,192 417 2,496
-------- -------- -------- --------
Total interest income ............................ 55,750 42,602 108,806 85,525
Interest expense:
Deposits ................................................... 10,264 10,468 20,549 22,485
Borrowings ................................................. 6,551 5,508 12,719 11,026
-------- -------- -------- --------
Total interest expense ........................... 16,815 15,976 33,268 33,511
-------- -------- -------- --------
Net interest income ................................... 38,935 26,626 75,538 52,014
Provision for credit losses ................................... 3,104 2,208 4,854 4,165
-------- -------- -------- --------
Net interest income after provision for credit
losses.......................................... 35,831 24,418 70,684 47,849
-------- -------- -------- --------
Noninterest income:
Banking services ........................................... 4,934 4,246 9,144 8,046
Risk management services ................................... 4,442 3,631 8,890 6,940
Wealth management services ................................. 1,261 1,052 2,335 2,024
Lending and leasing ........................................ 929 959 1,852 1,858
Bank-owned life insurance .................................. 1,208 799 2,075 1,552
Net realized gains (losses) on securities available for sale -- (2) 60 (18)
Other ...................................................... 613 119 882 449
-------- -------- -------- --------
Total noninterest income ......................... 13,387 10,804 25,238 20,851
-------- -------- -------- --------
Noninterest expense:
Salaries and employee benefits ............................. 15,915 12,025 31,798 24,597
Occupancy and equipment .................................... 3,120 2,259 6,476 4,700
Technology and communications .............................. 2,772 2,337 5,338 4,697
Marketing and advertising .................................. 1,381 786 2,337 1,854
Professional services ...................................... 987 410 1,768 772
Amortization of intangibles ............................... 1,164 290 2,205 608
Other ...................................................... 4,510 2,965 8,506 5,891
-------- -------- -------- --------
Total noninterest expense ........................ 29,849 21,072 58,428 43,119
-------- -------- -------- --------
Income from continuing operations before income
taxes........................................... 19,369 14,150 37,494 25,581
Income taxes from continuing operations ....................... 6,356 5,073 12,566 9,053
-------- -------- -------- --------
Income from continuing operations ................ 13,013 9,077 24,928 16,528
Income from discontinued operations, net of income taxes ..... -- 23 -- 186
-------- -------- -------- --------
Net income ............................................ $ 13,013 9,100 $ 24,928 16,714
======== ======== ======== ========
Earnings per common share:
Basic ........................................... $ 0.16 0.14 $ 0.32 0.25
Diluted ......................................... 0.16 0.13 0.31 0.25
Weighted average common shares outstanding:
Basic ........................................... 79,595 66,126 78,501 65,943
Diluted ......................................... 80,731 67,722 79,826 67,500
See accompanying notes to condensed consolidated financial statements.
4
First Niagara Financial Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Comprehensive Income (Loss)
(unaudited)
Three months ended Six months ended
June 30, June 30,
--------------------- ---------------------
2004 2003 2004 2003
-------- -------- -------- --------
(In thousands)
Net income .................................................... $ 13,013 9,100 $ 24,928 16,714
Other comprehensive income (loss), net of income taxes:
Securities available for sale:
Net unrealized gains (losses) arising during the period (13,308) 224 (8,921) (683)
Reclassification adjustment for net realized (gains)
losses included in net income ....................... -- 1 (36) 11
-------- -------- -------- --------
Total other comprehensive income (loss) .......... (13,308) 225 (8,957) (672)
-------- -------- -------- --------
Total comprehensive income (loss) ............. $ (295) 9,325 $ 15,971 16,042
======== ======== ======== ========
See accompanying notes to condensed consolidated financial statements.
5
First Niagara Financial Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Changes in Stockholders' Equity
(unaudited)
Accumulated Common Unearned
Additional other stock compensation -
Common paid-in Retained comprehensive held by recognition and Treasury
stock capital earnings income (loss) ESOP retention plan stock Total
-------- ---------- -------- ------------- -------- --------------- -------- --------
(In thousands, except share and per share amounts)
Balances at January 1, 2004 ... $ 708 544,618 217,538 (740) (30,399) (2,376) (1,175) 728,174
Net income .................... -- -- 24,928 -- -- -- -- 24,928
Unrealized loss on securities
available for sale, net ..... -- -- -- (8,957) -- -- -- (8,957)
Common stock issued for the
acquisition of Troy
Financial Corporation ....... 133 201,147 -- -- -- -- -- 201,280
Purchase of treasury shares ... -- -- -- -- -- -- (15,599) (15,599)
Exercise of stock options, net 2 3,288 (5,549) -- -- -- 7,598 5,339
ESOP shares committed to be
released .................... -- 484 -- -- 562 -- -- 1,046
Recognition and Retention
Plan, net ................... -- 489 -- -- -- (1,347) 1,605 747
Common stock dividend of
$0.14 per share ............ -- -- (11,208) -- -- -- -- (11,208)
-------- -------- -------- -------- -------- -------- -------- --------
Balances at June 30, 2004 ..... $ 843 750,026 225,709 (9,697) (29,837) (3,723) (7,571) 925,750
======== ======== ======== ======== ======== ======== ======== ========
Balances at January 1, 2003 ... $ 298 137,624 196,074 2,074 (11,024) (2,453) (38,897) 283,696
Net income .................... -- -- 16,714 -- -- -- -- 16,714
Unrealized loss on securities
available for sale, net ..... -- -- -- (672) -- -- -- (672)
Corporate reorganization:
Merger of First Niagara
Financial Group, MHC ...... (158) 19,608 -- -- -- -- -- 19,450
Treasury stock retired ...... (37) (38,860) -- -- -- -- 38,897 --
Exchange of common stock .... 161 (198) -- -- -- -- -- (37)
Proceeds from stock offering,
net of related expenses ... 410 390,553 -- -- -- -- -- 390,963
Purchase of shares by ESOP .... -- -- -- -- (20,500) -- -- (20,500)
Common stock issued for the
acquisition of Finger
Lakes Bancorp, Inc. ......... 34 33,525 -- -- -- -- -- 33,559
Exercise of stock options, net -- 371 -- -- -- -- -- 371
ESOP shares committed to be
released .................... -- 368 -- -- 563 -- -- 931
Recognition and Retention
Plan, net ................... -- 873 -- -- -- (292) (12) 569
Common stock dividend of
$0.10 per share ............. -- -- (6,654) -- -- -- -- (6,654)
-------- -------- -------- -------- -------- -------- -------- --------
Balances at June 30, 2003 ..... $ 708 543,864 206,134 1,402 (30,961) (2,745) (12) 718,390
======== ======== ======== ======== ======== ======== ======== ========
See accompanying notes to condensed consolidated financial statements.
6
First Niagara Financial Group, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(unaudited)
Six months ended June 30,
---------------------------
2004 2003
----------- -----------
Cash flows from operating activities: (In thousands)
Net income ............................................................. $ 24,928 $ 16,714
Adjustments to reconcile net income to net cash provided by
operating activities:
Amortization of fees and discounts, net .......................... 5,379 7,751
Provision for credit losses ...................................... 4,854 4,165
Depreciation of premises and equipment ........................... 3,671 3,042
Amortization of intangibles ...................................... 2,205 641
Net realized gains ............................................... (60) (212)
Stock based compensation expense ................................. 1,595 1,521
Deferred income tax expense ...................................... 1,362 716
Decrease in other assets ......................................... 6,996 2,345
Increase (decrease) in other liabilities ......................... 13,486 (4,269)
----------- -----------
Net cash provided by operating activities .................. 64,416 32,414
----------- -----------
Cash flows from investing activities:
Proceeds from sales of securities available for sale .................. 66,113 7,218
Proceeds from maturities of securities available for sale ............. 115,374 350,462
Principal payments received on securities available for sale .......... 90,354 221,623
Purchases of securities available for sale ............................ (392,605) (622,287)
Net increase in loans ................................................. (110,714) (86,649)
Acquisitions, net of cash acquired .................................... (61,193) (28,544)
Proceeds from the sale of a business, net of cash sold ............... -- 5,237
Other, net ............................................................ (11,831) (2,652)
----------- -----------
Net cash used in investing activities ...................... (304,502) (155,592)
----------- -----------
Cash flows from financing activities:
Net increase (decrease) in deposits ................................. 40,146 (33,750)
Net proceeds from Conversion and Offering ........................... -- 313,924
Proceeds from (repayments of) short-term borrowings, net ............ 37,122 (28,415)
Proceeds from long-term borrowings .................................. 105,000 --
Repayments of long-term borrowings .................................. (9,667) (8,426)
Proceeds from exercise of stock options ............................. 2,871 188
Purchase of treasury stock .......................................... (15,599) --
Dividends paid on common stock ...................................... (11,208) (6,654)
----------- -----------
Net cash provided by financing activities .................. 148,665 236,867
----------- -----------
Net increase (decrease) in cash and cash equivalents ............ (91,421) 113,689
Cash and cash equivalents at beginning of period ......................... 174,252 90,525
----------- -----------
Cash and cash equivalents at end of period ............................... $ 82,831 $ 204,214
=========== ===========
Cash paid during the period for:
Income taxes ............................................... $ 8,152 $ 5,877
Interest expense ........................................... 30,177 33,482
Acquisition and disposition of banks and financial services companies:
Assets acquired (noncash) ......................................... $ 1,327,188 $ 374,616
Liabilities assumed ............................................... 1,064,742 342,950
Assets sold (noncash) ............................................. -- 1,384
Liabilities sold .................................................. -- 746
See accompanying notes to condensed consolidated financial statements.
7
First Niagara Financial Group, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(unaudited)
The accompanying condensed consolidated financial statements of First Niagara
Financial Group, Inc. ("FNFG") and its wholly owned subsidiary First Niagara
Bank ("First Niagara") have been prepared in accordance with generally accepted
accounting principles ("GAAP") for interim financial information and the
instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they
do not include all of the information and footnotes required by GAAP for full
year financial statements. In the opinion of management, all adjustments
necessary for a fair presentation have been included. Results for the three and
six month periods ended June 30, 2004 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2004. Certain
reclassification adjustments were made to the 2003 financial statements to
conform them to the 2004 presentation. FNFG and its consolidated subsidiary are
hereinafter referred to collectively as the "Company."
(1) Stock-Based Compensation
The Company maintains various long-term incentive stock benefit plans under
which fixed award stock options and restricted stock awards may be granted to
key employees and directors. Statement of Financial Accounting Standards
("SFAS") No. 123, "Accounting for Stock-Based Compensation," established
accounting and disclosure requirements using a fair value-based method of
accounting for stock-based employee compensation plans. Compensation expense
related to restricted stock awards is based upon the market value of FNFG's
stock on the grant date and is accrued ratably over the required service period.
However, in accounting for stock options, as allowed under SFAS No. 123, the
Company has elected to apply the intrinsic value-based method of accounting
prescribed by Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees," and therefore has only adopted the disclosure
requirements of SFAS No. 123, as amended by SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure - An Amendment of FASB
Statement No. 123." As such, compensation expense is recorded on the date the
options are granted only if the current market price of the underlying stock
exceeded the exercise price.
Had the Company determined compensation expense related to stock option grants
based on the fair value method under SFAS No. 123, the Company's net income
would have been reduced to the pro forma amounts indicated below. These amounts
may not be representative of the effects on reported net income for future years
due to changes in market conditions and the number of options outstanding (in
thousands, except per share amounts):
Three months ended Six months ended
June 30, June 30,
------------------------- -------------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net income as reported $ 13,013 9,100 $ 24,928 16,714
Add: Stock-based employee compensation
expense included in net income, net of
related income tax effects 172 138 330 353
Deduct: Stock-based employee compensation
expense determined under the fair-value
based method, net of related income tax
effects (453) (338) (854) (731)
---------- ---------- ---------- ----------
Pro forma net income $ 12,732 8,900 $ 24,404 16,336
========== ========== ========== ==========
Basic earnings per share:
As reported $ 0.16 0.14 $ 0.32 0.25
Pro forma 0.16 0.13 0.31 0.25
Diluted earnings per share:
As reported $ 0.16 0.13 $ 0.31 0.25
Pro forma 0.16 0.13 0.31 0.24
8
First Niagara Financial Group, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(unaudited)
(2) Acquisitions
Troy Financial Corporation
On January 16, 2004, FNFG acquired all of the outstanding common shares of Troy
Financial Corporation ("TFC"), the holding company of The Troy Savings Bank
("TSB") and The Troy Commercial Bank ("TCB"), which had twenty-one retail
branches. Following completion of the acquisition, TSB branch locations were
merged into First Niagara's banking center network and TCB became a wholly-owned
subsidiary of First Niagara as a New York State chartered commercial bank. FNFG
paid $35.50 per share in a combination of cash and stock for all of the
outstanding shares and options of TFC.
The aggregate purchase price of approximately $356.5 million included the
issuance of 13.3 million shares of FNFG stock, cash payments totaling $151.9
million and capitalized costs related to the acquisition, primarily investment
banking and professional fees, of $3.4 million. The value assigned to the FNFG
shares issued was $15.15 per share based upon the average closing price of FNFG
common stock for the five trading days immediately preceding the receipt of
final bank regulatory approval on December 15, 2003, which is the date the
number of shares being issued became fixed. This acquisition was accounted for
under the purchase method of accounting. Accordingly, the results of operations
of TFC were included in the 2004 consolidated statement of income from the date
of acquisition.
The following table summarizes the estimated fair values of the assets acquired
and liabilities assumed at the date of acquisition (in thousands):
January 16,
2004
----------
Cash and cash equivalents $ 94,090
Securities available for sale 250,969
Loans, net 745,399
Goodwill 218,091
Core deposit intangible 17,247
Other assets 95,482
----------
Total assets acquired 1,421,278
----------
Deposits 923,665
Borrowings 124,723
Other liabilities 16,354
----------
Total liabilities assumed 1,064,742
----------
Net assets acquired $ 356,536
==========
The core deposit intangible asset acquired is being amortized over 11 years
utilizing the double declining balance method. The goodwill was assigned to the
Company's banking segment of which none is deductible for tax purposes.
The following table presents unaudited pro forma information as if the
acquisition of TFC had been consummated as of the beginning of each period
presented. Pro forma information for 2004 is not presented since such pro forma
results were not materially different from actual results. This pro forma
information gives effect to certain adjustments, including purchase accounting
fair value adjustments, amortization of core deposit intangibles and related
income tax effects. The pro forma information does not necessarily reflect the
results of operations that would have occurred had the Company acquired TFC at
the beginning of the periods presented. In particular, cost savings and $1.4
million of indirect merger and integration costs are not reflected in the pro
forma amounts (in thousands, except per share amounts):
Three months ended Six months ended
June 30, 2003 June 30, 2003
------------------ ----------------
(Pro forma)
Net interest income $36,906 $72,311
Noninterest income 12,675 24,573
Noninterest expense 29,281 59,401
Net income 11,688 21,790
Basic earnings per share $ 0.15 $ 0.28
======= =======
Diluted earnings per share $ 0.14 $ 0.27
======= =======
9
First Niagara Financial Group, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(unaudited)
Hudson River Bancorp, Inc.
On April 1, 2004, FNFG entered into a definitive agreement to acquire all of the
common shares outstanding of Hudson River Bancorp, Inc. ("HRB"), the holding
company of Hudson River Bank & Trust Company and the Hudson River Commercial
Bank, with total assets of approximately $2.6 billion and forty-nine branch
locations. In connection with the acquisition, FNFG has agreed to issue a total
of 34.1 million of its shares and $124.8 million in cash, subject to adjustment
for the exercise of outstanding HRB stock options. As of July 30, 2004, the
aggregate purchase price of the transaction was $571.1 million or $18.11 per
share, which includes 1.4 million of FNFG shares that will be issued for the
outstanding HRB stock options, and was based upon a $12.51 FNFG share price. The
final value of the merger consideration to be paid upon closing will depend on
the average stock price of FNFG just prior to closing and the number of
outstanding shares of HRB. HRB stockholders will be entitled to elect to receive
merger consideration in shares of FNFG stock, cash, or a combination of stock
and cash. HRB stock options will be exchanged for FNFG stock upon completion of
the merger, if not previously exercised. The acquisition is expected to be
completed in January 2005 and is subject to the approval of various regulatory
agencies, as well as FNFG and HRB stockholders. All applicable regulatory
applications were filed during the second quarter of 2004 and the shareholder
meeting dates for both FNFG and HRB are scheduled for September 28, 2004.
(3) Earnings Per Share
The computation of basic and diluted earnings per share for the three and six
months ended June 30, 2004 and 2003 is as follows (in thousands, except per
share amounts):
Three months ended Six months ended
June 30, June 30,
--------------------- ---------------------
2004 2003 2004 2003
-------- ------ -------- ------
Net income available to common shareholders $ 13,013 9,100 $ 24,928 16,714
======== ====== ======== ======
Weighted average shares outstanding basic and
diluted:
Total shares issued 84,289 70,766 83,102 71,336
Unallocated ESOP shares (4,011) (4,165) (4,030) (3,992)
Unvested restricted stock awards (407) (473) (402) (498)
Treasury shares (276) (2) (169) (903)
-------- ------ -------- ------
Total basic weighted average shares outstanding 79,595 66,126 78,501 65,943
Incremental shares from assumed exercise of
stock options 1,022 1,388 1,195 1,340
Incremental shares from assumed vesting of
restricted stock awards 114 208 130 217
-------- ------ -------- ------
Total diluted weighted average shares outstanding 80,731 67,722 79,826 67,500
======== ====== ======== ======
Basic earnings per share $ 0.16 0.14 $ 0.32 0.25
======== ====== ======== ======
Diluted earnings per share $ 0.16 0.13 $ 0.31 0.25
======== ====== ======== ======
As a result of the decline in the Company's stock price, the above weighted
average share calculations do not include 1.3 million and 227 thousand of stock
option and restricted stock awards for the three months ended June 30, 2004 and
2003, respectively, and 377 thousand and 132 thousand of stock option and
restricted stock awards for the six months ended June 30, 2004, as they would be
anti-dilutive to the earnings per share calculations.
10
First Niagara Financial Group, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(unaudited)
(4) Pension and Other Postretirement Plans
Net postretirement cost (benefit), which is recorded within salaries and
employee benefits expense in the condensed consolidated statements of income, is
comprised of the following (in thousands):
Pension plans Other postretirement plans
------------------ --------------------------
Three months ended Three months ended
June 30, June 30,
------------------ ------------------
2004 2003 2004 2003
----- ----- ----- -----
Interest cost $ 452 213 $ 108 69
Expected return on plan assets (685) (218) -- --
Amortization of unrecognized loss 65 54 23 14
Amortization of unrecognized prior service liability -- -- (16) (16)
----- ----- ----- -----
Net pension and postretirement cost (benefit) $(168) 49 $ 115 67
===== ===== ===== =====
Pension plans Other postretirement plans
------------------- --------------------------
Six months ended Six months ended
June 30, June 30,
------------------- -------------------
2004 2003 2004 2003
------- ------- ------- -------
Interest cost $ 905 455 $ 217 138
Expected return on plan assets (1,371) (437) -- --
Amortization of unrecognized loss 129 109 45 27
Amortization of unrecognized prior service liability -- -- (32) (32)
------- ------- ------- -------
Net pension and postretirement cost (benefit) $ (337) 127 $ 230 133
======= ======= ======= =======
(5) Segment Information
The Company has two business segments, banking and financial services. The
financial services segment includes the Company's risk (insurance) and wealth
management operations, which are organized under one Financial Services Group.
The banking segment includes the results of First Niagara excluding financial
services. Selected operating information for the Company's segments follows (in
thousands):
Financial Consolidated
For the three month period ended Banking services Eliminations total
------- ------- ------------ ------------
June 30, 2004
Net interest income $38,931 4 -- 38,935
Provision for credit losses 3,104 -- -- 3,104
------- ----- --- ------
Net interest income after provision
for credit losses 35,827 4 -- 35,831
Noninterest income 7,680 5,736 (29) 13,387
Amortization of intangibles 866 298 -- 1,164
Other noninterest expense 24,515 4,199 (29) 28,685
------- ----- --- ------
Income before income taxes 18,126 1,243 -- 19,369
Income tax expense 5,960 396 -- 6,356
------- ----- --- ------
Net income $12,166 847 -- 13,013
======= ===== === ======
11
First Niagara Financial Group, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(unaudited)
Financial Consolidated
For the three month period ended Banking services Eliminations total
------- --------- ------------ ------------
June 30, 2003
Net interest income $26,603 23 -- 26,626
Provision for credit losses 2,208 -- -- 2,208
------- ------- ------- -------
Net interest income after provision
for credit losses 24,395 23 -- 24,418
Noninterest income 6,118 4,692 (6) 10,804
Amortization of intangibles 115 175 -- 290
Other noninterest expense 17,427 3,361 (6) 20,782
------- ------- ------- -------
Income from continuing operations
before income taxes 12,971 1,179 -- 14,150
Income tax expense from continuing
operations 4,528 545 -- 5,073
------- ------- ------- -------
Income from continuing operations 8,443 634 -- 9,077
Income from discontinued operations, net of
income taxes -- 23 -- 23
------- ------- ------- -------
Net income $ 8,443 657 -- 9,100
======= ======= ======= =======
Financial Consolidated
For the six month period ended Banking services Eliminations total
------- --------- ------------ ------------
June 30, 2004
Net interest income $75,524 14 -- 75,538
Provision for credit losses 4,854 -- -- 4,854
------- ------- ------- -------
Net interest income after provision
for credit losses 70,670 14 -- 70,684
Noninterest income 14,008 11,271 (41) 25,238
Amortization of intangibles 1,609 596 -- 2,205
Other noninterest expense 48,002 8,262 (41) 56,223
------- ------- ------- -------
Income before income taxes 35,067 2,427 -- 37,494
Income tax expense 11,765 801 -- 12,566
------- ------- ------- -------
Net income $23,302 1,626 -- 24,928
======= ======= ======= =======
Financial Consolidated
For the six month period ended Banking services Eliminations total
------- --------- ------------ ------------
June 30, 2003
Net interest income $51,977 37 -- 52,014
Provision for credit losses 4,165 -- -- 4,165
------- ------- ------- -------
Net interest income after provision
for credit losses 47,812 37 -- 47,849
Noninterest income 11,871 8,996 (16) 20,851
Amortization of intangibles 258 350 -- 608
Other noninterest expense 35,736 6,791 (16) 42,511
------- ------- ------- -------
Income from continuing operations
before income taxes 23,689 1,892 -- 25,581
Income tax expense from continuing
operations 8,149 904 -- 9,053
------- ------- ------- -------
Income from continuing operations 15,540 988 -- 16,528
Income from discontinued operations, net
of income taxes -- 186 -- 186
------- ------- ------- -------
Net income $15,540 1,174 -- 16,714
======= ======= ======= =======
12
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
This Quarterly Report on Form 10-Q may contain certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended,
that involve substantial risks and uncertainties. When used in this report, or
in the documents incorporated by reference herein, the words "anticipate",
"believe", "estimate", "expect", "intend", "may", and similar expressions
identify such forward-looking statements. Actual results, performance or
achievements could differ materially from those contemplated, expressed or
implied by the forward-looking statements contained herein. These
forward-looking statements are based largely on the expectations of the Company
or the Company's management and are subject to a number of risks and
uncertainties, including but not limited to, economic, competitive, regulatory,
and other factors affecting the Company's operations, markets, products and
services, as well as expansion strategies and other factors discussed elsewhere
in this report and other reports filed by the Company with the Securities and
Exchange Commission ("SEC"). Many of these factors are beyond the Company's
control.
Overview
The Company provides banking and other financial services to individuals and
businesses across New York State. The Company accepts deposits from customers
through its banking centers and invests those and other funds generated from
operations and borrowings primarily in loans and investment securities.
Additionally, the Company offers risk (insurance) management and wealth
management services.
Total assets increased to $5.0 billion at June 30, 2004 from $3.6 billion at
December 31, 2003. This 40% increase resulted primarily from the assets acquired
from TFC in January 2004 and commercial loan growth. TFC added $760.0 million of
loans, of which 64% were commercial mortgage and business loans, and $923.7
million of deposits, 75% of which were core deposits. This acquisition expanded
the Company's market area to include the higher growth Capital Region in Eastern
New York and furthered its strategic initiatives of increasing commercial
relationships and core deposits. Excluding the loans acquired from TFC, the net
increase in loans was $104.3 million during the first six months of 2004. This
increase was attributable to a $126.0 million, or 18% annualized, increase in
commercial real-estate and business loans, partially mitigated by the continuing
repayment of residential real-estate loans held in portfolio. Excluding the
accounts acquired from TFC, deposits increased slightly from December 31, 2003
as 20% annualized core deposit growth offset the maturities of higher rate
certificates of deposit.
Net income for the quarter ended June 30, 2004 increased to $13.0 million, or
$0.16 per diluted share from $9.1 million, or $0.13 per diluted share for the
same period of 2003. This represents a 43% increase in net income and a 23%
increase in diluted earnings per share over the prior year second quarter. The
2004 quarterly results included the benefits of a 51 basis point improvement in
net interest rate spread and a $24.3 million increase in average net earning
assets, which resulted in a $12.3 million or 46% increase in net interest income
and a 32 basis point improvement in net interest margin over the prior year
second quarter. Noninterest income and expense for the second quarter of 2004
increased from the 2003 second quarter and reflects the impact of the
acquisition of TFC in January 2004 and two insurance agencies in July 2003, as
well as the continuing expansion of existing operations.
For the first six months of 2004, the Company had $24.9 million of net income or
$0.31 per diluted share compared to $16.7 million, or $0.25 per diluted share
for the same period of 2003. This increase can primarily be attributed to the
same factors which drove the improvement in second quarter 2004 results.
Critical Accounting Estimates
Management of the Company evaluates those accounting estimates that are judged
to be critical - those most important to the portrayal of the Company's
financial condition and results, and that require management's most difficult,
subjective and complex judgments. Management considers the accounting estimates
relating to the adequacy of the allowance for credit losses and the analysis of
the carrying value of goodwill for impairment to be critical. The judgments made
regarding the allowance for credit losses and goodwill can have a material
effect on the results of operations of the Company. A more detailed description
of the Company's methodology for calculating the allowance for credit losses and
assumptions made is included within the "Lending Activities" section filed in
Part I, Item 1, "Business" of the Company's 2003 10-K dated March 12, 2004. A
more detailed description of the Company's methodology for testing goodwill for
impairment and assumptions made is included within the "Critical Accounting
Estimates" section filed in Part II, Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations" of the Company's 2003
10-K dated March 12, 2004.
13
Analysis of Financial Condition
Average Balance Sheet. The following table presents, for the periods indicated,
the total dollar amount of interest income from average interest-earning assets
and the resultant yields, as well as the interest expense on average
interest-bearing liabilities, expressed both in dollars and rates. No taxable
equivalent adjustments were made. All average balances are average daily
balances.
Three months ended June 30,
-------------------------------------------------------------------------------
2004 2003
-------------------------------------- --------------------------------------
Average Interest Average Interest
outstanding earned/ Yield/ outstanding earned/ Yield/
balance paid rate balance paid rate
----------- ----------- ------ ----------- ----------- ------
(Dollars in thousands)
Interest-earning assets:
Mortgage-backed securities(1) .......... $ 623,031 $ 5,565 3.57% $ 440,865 $ 1,630 1.48%
Other investment securities(1) ......... 598,741 2,882 1.93 293,623 1,707 2.33
Loans(2) ............................... 3,084,976 47,130 6.12 2,242,011 38,073 6.80
Other .................................. 55,236 173 1.27 304,343 1,192 1.58
----------- ----------- ---- ----------- ----------- ----
Total interest-earning assets .... 4,361,984 55,750 5.12 3,280,842 42,602 5.20
----------- ----------- ---- ----------- ----------- ----
Allowance for credit losses ............... (40,870) (24,504)
Noninterest-earning assets(3)(4) .......... 665,298 323,565
----------- -----------
Total assets ..................... $ 4,986,412 $ 3,579,903
=========== ===========
Interest-bearing liabilities:
Savings deposits ....................... $ 1,056,289 $ 2,450 0.93% $ 676,024 $ 1,623 0.96%
Checking deposits ...................... 893,854 1,975 0.89 527,440 1,123 0.85
Certificates of deposit ................ 1,095,011 5,839 2.14 1,021,369 7,722 3.03
Borrowed funds ......................... 672,731 6,551 3.92 436,178 5,508 5.07
----------- ----------- ---- ----------- ----------- ----
Total interest-bearing liabilities 3,717,885 16,815 1.82 2,661,011 15,976 2.41
----------- ----------- ---- ----------- ----------- ----
Noninterest-bearing deposits .............. 271,090 149,727
Other noninterest-bearing liabilities ..... 62,668 52,185
----------- -----------
Total liabilities ................... 4,051,643 2,862,923
Stockholders' equity(3) ................... 934,769 716,980
----------- -----------
Total liabilities and stockholders'
equity ........................... $ 4,986,412 $ 3,579,903
=========== ===========
Net interest income ....................... $ 38,935 $ 26,626
=========== ===========
Net interest rate spread .................. 3.30% 2.79%
==== ====
Net earning assets ........................ $ 644,099 $ 619,831
=========== ===========
Net interest income as a percentage of
average interest-earning assets ....... 3.57% 3.25%
=========== ===========
Ratio of average interest-earning assets
to average interest-bearing liabilities 117.32% 123.29%
=========== ===========
14
Six months ended June 30,
-------------------------------------------------------------------------------
2004 2003
-------------------------------------- --------------------------------------
Average Interest Average Interest
outstanding earned/ Yield/ outstanding earned/ Yield/
balance paid rate balance paid rate
----------- ----------- ------ ----------- ----------- ------
(Dollars in thousands)
Interest-earning assets:
Mortgage-backed securities(1) .......... $ 605,457 $ 10,805 3.57% $ 437,201 $ 4,744 2.17%
Other investment securities(1) ......... 565,422 5,420 1.92 270,717 3,216 2.38
Loans(2) ............................... 2,997,964 92,164 6.16 2,200,220 75,069 6.85
Other .................................. 71,671 417 1.13 314,354 2,496 1.60
----------- ----------- ---- ----------- ----------- ----
Total interest-earning assets .... 4,240,514 108,806 5.14 3,222,492 85,525 5.33
----------- ----------- ---- ----------- ----------- ----
Allowance for credit losses ............... (39,100) (24,099)
Noninterest-earning assets(3)(4) .......... 642,673 321,965
----------- -----------
Total assets ..................... $ 4,844,087 $ 3,520,358
=========== ===========
Interest-bearing liabilities:
Savings deposits ....................... $ 992,964 $ 4,481 0.91% $ 691,391 $ 4,200 1.23%
Checking deposits ...................... 854,935 3,710 0.87 506,663 2,469 0.98
Certificates of deposit ................ 1,121,153 12,358 2.22 1,018,009 15,816 3.13
Borrowed funds ......................... 641,432 12,719 3.99 437,107 11,026 5.09
----------- ----------- ---- ----------- ----------- ----
Total interest-bearing liabilities 3,610,484 33,268 1.85 2,653,170 33,511 2.55
----------- ----------- ---- ----------- ----------- ----
Noninterest-bearing deposits .............. 252,553 145,008
Other noninterest-bearing liabilities ..... 61,085 54,319
----------- -----------
Total liabilities ................... 3,924,122 2,852,497
Stockholders' equity(3) ................... 919,965 667,861
----------- -----------
Total liabilities and stockholders'
equity ........................... $ 4,844,087 $ 3,520,358
=========== ===========
Net interest income ....................... $ 75,538 $ 52,014
=========== ===========
Net interest rate spread .................. 3.29% 2.78%
==== ====
Net earning assets ........................ $ 630,030 $ 569,322
=========== ===========
Net interest income as a percentage of
average interest-earning assets ....... 3.56% 3.23%
=========== ===========
Ratio of average interest-earning assets
to average interest-bearing liabilities 117.45% 121.46%
=========== ===========
- ----------
(1) Outstanding balances are at amortized cost.
(2) Outstanding balances are net of deferred costs, unearned premiums and
non-accruing loans.
(3) Outstanding balances include unrealized gains/losses on securities
available for sale.
(4) Outstanding balances include bank-owned life insurance, earnings on which
are reflected in noninterest income.
Lending Activities
Total loans outstanding increased $864.3 million from December 31, 2003 to June
30, 2004, including $760.0 million attributable to the acquisition of TFC in
January 2004, which added $226.1 million of residential mortgages, $40.2 million
of home equity loans, $306.8 million of commercial mortgages, $178.6 million of
commercial business loans and $8.3 million of consumer loans. During the first
two quarters of 2004, the Company continued to shift its portfolio mix from
residential mortgage loans to commercial real estate and business loans.
Excluding the loans acquired with TFC, commercial real estate loans increased
$102.6 million, or 20% annualized, from December 31, 2003 to June 30, 2004,
while commercial business loans increased $23.4 million, or 12% annualized,
during the same period. For the second quarter of 2004, the annualized increase
in commercial real estate and business loans was 27% and 15%, respectively, over
the linked quarter. Other portfolio activity included a reduction in residential
loan balances due to refinance related prepayments (although that trend began to
reverse at the end of the quarter with the increase in mortgage rates) and a
decline in consumer loan balances due to the de-emphasis of indirect lending,
including the Company's strategic decision to exit the third-party indirect auto
business. As a result, as of June 30, 2004, commercial loans comprised 50% of
the loan portfolio versus 42% as of December 31, 2003.
15
Loan Portfolio Composition. Set forth below is selected information concerning
the composition of the Company's loan portfolio in dollar amounts and in
percentages as of the dates indicated.
June 30, 2004 December 31, 2003
---------------------- ----------------------
Amount Percent Amount Percent
----------- ------- ----------- -------
(Dollars in thousands)
Real estate loans:
Residential ............... $ 1,162,544 36.9% $ 948,877 41.5%
Home equity ............... 227,544 7.2 179,282 7.8
Commercial ................ 1,014,178 32.2 653,976 28.6
Commercial construction ... 135,359 4.3 86,154 3.8
----------- ----- ----------- ----
Total real estate loans 2,539,625 80.6 1,868,289 81.7
Commercial business loans .... 417,027 13.2 215,000 9.4
Consumer loans ............... 193,608 6.2 202,630 8.9
----------- ----- ----------- ----
Total loans ........... 3,150,260 100.0% 2,285,919 100.0%
----------- ----- ----------- ----
Net deferred costs and
unearned premiums .. 9,761 8,704
Allowance for credit losses (41,434) (25,420)
----------- -----------
Total loans, net ...... $ 3,118,587 $ 2,269,203
=========== ===========
During the quarter, overall credit quality remained strong as non- accruing
loans decreased to 0.42% of total loans at June 30, 2004, its lowest level in
five quarters, from 0.54% of total loans at December 31, 2003. Consistent with
this improvement, nonperforming assets as a percentage of total assets improved
to 0.27% from 0.36% at the end of 2003. Net loan charge-offs totaled $2.4
million for the second quarter of 2004 compared to $1.3 million for the same
period in 2003. This increase is attributable to losses related to a single
automobile leasing relationship. At June 30, 2004, the remaining outstanding
loans associated with this portfolio totaled $17.9 million and are secured by
performing auto leases. Going forward, the Company anticipates that any
additional charge-offs in connection with this relationship will be comparable
to historical loss rates for this type of lending. Excluding the auto leases,
annualized charge-offs during the quarter were 0.14% of average total loans.
Year-to-date annualized net loan charge-offs as a percentage of average total
loans amounted to 0.23%, which is consistent with the 0.24% for each of the last
two years.
While management uses available information to recognize losses on loans, future
credit loss provisions may be necessary based on numerous factors, including
changes in economic conditions. In addition, various regulatory agencies, as an
integral part of their examination process, periodically review the allowance
for credit losses and may require the Company to recognize additional provisions
based on their judgment of information available to them at the time of their
examination. To the best of management's knowledge, the allowance for credit
losses includes all losses at each reporting date that are both probable and
reasonable to estimate. However, there can be no assurance that the allowance
for loan losses will be adequate to cover all losses that may in fact be
realized in the future or that additional provisions for credit losses will not
be required.
Non-Accruing Loans and Non-Performing Assets. The following table sets forth
information regarding non-accruing loans and non-performing assets.
June 30, December 31,
2004 2003
-------- ------------
(Dollars in thousands)
Non-accruing loans (1):
Residential ............................................. $ 4,685 $ 3,905
Home equity ............................................. 484 401
Commercial .............................................. 4,612 3,878
Commercial business .................................... 2,712 3,583
Consumer ............................................... 830 538
------- -------
Total non-accruing loans ........................... 13,323 12,305
Real estate owned .......................................... 400 543
------- -------
Total non-performing assets .......................... $13,723 $12,848
======= =======
Total non-accruing loans as a percentage of total loans .... 0.42% 0.54%
======= =======
Total non-performing assets as a percentage of total assets 0.27% 0.36%
======= =======
Allowance for credit losses to total loans ................. 1.31% 1.11%
======= =======
Allowance for credit losses to non-accruing loans .......... 311.00% 206.58%
======= =======
- ----------
(1) Loans are generally placed on non-accrual status when they become 90 days
or more past due or if they have been identified by the Company as
presenting uncertainty with respect to the collectibility of interest or
principal.
16
Analysis of the Allowance for Credit Losses. The following table sets forth the
analysis of the allowance for credit losses for the periods indicated.
Six months ended June 30,
-------------------------
2004 2003
-------- --------
(Dollars in thousands)
Balance at beginning of period ......................... $ 25,420 $ 20,873
Net charge-offs:
Charge-offs ......................................... (4,270) (3,011)
Recoveries .......................................... 780 753
-------- --------
Net charge-offs .................................. (3,490) (2,258)
Allowance obtained through acquisitions ................ 14,650 2,001
Provision for credit losses ............................ 4,854 4,165
-------- --------
Balance at end of period ............................... $ 41,434 $ 24,781
======== ========
Ratio of annualized net charge-offs during the period to
average loans outstanding during the period ......... 0.23% 0.21%
======== ========
Investing Activities
The Company's available for sale securities increased $352.9 million to $1.20
billion at June 30, 2004 from $845.9 million at December 31, 2003. This reflects
the $251.0 million of investment securities acquired with TFC, of which $210.8
million were municipal debt securities. Excluding the investment securities
acquired from TFC, securities available for sale increased $101.9 million, as
the remaining proceeds from the Company's second-step stock offering were
further deployed from short-term assets to higher yielding mortgage-backed
securities and agency bonds with a weighted average life of 2 to 4 years. The
weighted average life and duration of the portfolio at June 30, 2004 are 2.9 and
2.3 years, respectively. The Company's balance sheet is positioned to optimize
earnings while limiting earnings volatility as interest rates change. As a
result of this repositioning and funding of the cash portion of the TFC
acquisition, cash and cash equivalents decreased to $82.8 million at June 30,
2004.
Funding Activities
The increase in deposits from December 31, 2003 resulted primarily from the
acquisition of TFC, which added a total of $923.7 million of deposits, including
$273.6 million of savings accounts, $331.0 million of interest bearing checking
accounts, $232.3 million of certificates of deposit and $86.8 million of
noninterest bearing deposits. During the first half of 2004, the Company
continued to focus its marketing and sales efforts on increasing its core
deposit base. Excluding the accounts acquired with TFC, core deposits increased
$208.0 million, or 20% annualized, from December 31, 2003 to June 30, 2004.
Certificates of deposits decreased $167.8 million during the same period, as the
rates offered on new certificates of deposits were lowered based on alternative
wholesale borrowing costs.
Set forth below is selected information concerning the composition of the
Company's deposits in dollar amounts and in percentages as of the dates
indicated.
June 30, 2004 December 31, 2003
-------------------- --------------------
Amount Percent Amount Percent
---------- ------- ---------- -------
(Dollars in thousands)
Savings ................. $1,063,799 32.0% $ 654,320 27.8%
Interest-bearing checking 908,309 27.4 538,967 22.9
Certificates of deposit . 1,055,993 31.8 991,545 42.1
Noninterest-bearing ..... 290,926 8.8 170,384 7.2
---------- ----- ---------- -----
Total deposits ....... $3,319,027 100.0% $2,355,216 100.0%
========== ===== ========== =====
Borrowed funds totaled $713.8 million at June 30, 2004 compared to $458.0
million at December 31, 2003. This $255.9 million increase included $124.7
million assumed in the TFC acquisition. Excluding the debt acquired, borrowed
funds increased $131.1 million with $105.0 million of this growth represented by
new fixed-rate, short and intermediate-term borrowings. The additional
borrowings during the first half of 2004 were used to fund commercial loan
growth and the maturities of certificates of deposit.
Equity Activities
Stockholders' equity increased to $925.8 million at June 30, 2004 compared to
$728.2 million at December 31, 2003. This $197.6 million increase was primarily
attributable to the issuance of 13.3 million shares of common stock with an
aggregate value of $201.3 million in connection with the TFC acquisition.
Reductions in equity during the six month period included common stock dividends
paid of $0.14 per share totaling $11.2 million, treasury stock purchases
totaling $15.6 million, and a net unrealized loss on the securities available
for sale portfolio of $9.0 million.
17
In July 2003 the Company announced that it had received a regulatory
non-objection from the Office of Thrift Supervision ("OTS") and approval from
its Board of Directors to repurchase up to 2.1 million (3%) of its outstanding
common stock in order to fund vested stock options. The regulatory non-objection
was necessary because the repurchase program commenced less than one year from
the date of the Company's second step conversion effective January 17, 2003.
Since the authorization of this program, the Company has been restricted for
substantial periods of time from repurchasing shares due to internal and
regulatory quiet periods. Nonetheless, as of June 30, 2004, 1.3 million shares
had been repurchased under this program at an average cost of $13.44 per share.
Going forward, the Company will continue to be limited on the amount of
repurchases it can make as a result of SEC Rule 10b-18 and the pending HRB
acquisition, but anticipates completing the current program early in the fourth
quarter of this year.
The decline in the fair market value adjustment on the Company's securities
available for sale reflects the rise in interest rates and the fixed nature of
the Company's investment portfolio. However, this unrealized loss only
represents 1% of the investment portfolio's cost basis as management has kept
the duration of this portfolio relatively short in anticipation of rising
interest rates.
Results of Operations for the Three Months Ended June 30, 2004
Net Interest Income
Net interest income rose 46% when comparing the second quarter of 2004 to the
same period of 2003. One of the major factors contributing to this increase was
a 51 basis point improvement in net interest rate spread due to the Company's
active asset and liability management initiatives and lower mortgage-backed
security premium amortization. Additionally, net interest income benefited from
a $24.3 million increase in average net earning assets from the second quarter
of 2003 to the second quarter of 2004 primarily due to an increase in average
noninterest bearing deposits and the acquisition of TFC. The improvement in net
interest rate spread and average net earning assets caused the Company's net
interest margin to improve to 3.57% during the quarter compared to 3.25% for the
quarter ended June 30, 2003.
The increase in interest income reflects the impact of a $1.08 billion increase
in average interest-earning assets due primarily to the acquisition of TFC and
increases in higher yielding commercial real estate and business loans. The
benefits of the increase in earning assets were partially offset by an 8 basis
point decrease in the yield on those assets when compared to the 2003 period.
This was attributable to the declining interest rate environment, which caused
the Company's variable-rate interest-earning assets to reprice to lower rates
and fixed-rate interest-earning assets, mainly residential mortgages and
mortgage-backed securities ("MBS"), to prepay. The impact of this repricing
however was almost entirely offset by reduced MBS premium amortization recorded
during the current quarter, which amounted to $527 thousand in the 2004 period
compared to $3.4 million for the second quarter of 2003.
The increase in interest expense during the second quarter of 2004 resulted from
a $1.06 billion increase in average interest bearing liabilities due to the
deposits and borrowings assumed in the TFC acquisition and core deposit growth.
Partially offsetting this increase was a 59 basis point reduction in the rate
paid on those liabilities. This was due to the lower interest rate environment,
which caused the Company's variable rate interest-bearing liabilities to reprice
downward and the Company's ongoing strategy to replace higher-rate time deposits
with lower cost core deposits.
Provision for Credit Losses
To compensate for the higher level of charge-offs during the quarter (as
discussed within the Lending Activities section), as well as to provide for the
continuing growth in commercial loans, the Company increased its provision for
credit losses to $3.1 million compared to $2.2 million for the second quarter of
2003. As a result of the additional provision, as well as the improvement in
non-accruing loans, the allowance for credit losses increased to 311.0% of
non-accruing loans and 1.31% of total loans at June 30, 2004. That compares to
206.6% of non-accruing loans and 1.11% of total loans at December 31, 2003. The
provision is based on management's continuous assessment of the adequacy of the
allowance for credit losses with consideration given to such interrelated
factors as the composition and risk in the loan portfolio, the level of
non-accruing and delinquent loans and related collateral or government
guarantees, charge-offs and both current and historic economic conditions. The
Company establishes provisions for credit losses, which are charged to
operations, in order to maintain the allowance for credit losses at a level to
absorb credit losses in the existing loan portfolio.
18
Noninterest Income
For the second quarter of 2004, the Company earned $13.4 million of noninterest
income, compared to $10.8 million for the same period of 2003. This increase was
largely the result of the acquisition of TFC in January 2004 and two insurance
agencies in July 2003, which added approximately $1.8 million and $784 thousand
to noninterest income, respectively, during the quarter. The remainder of this
increase can be attributed to improved results from the Company's CRA related
small business investment corporation ("SBIC") investments and $310 thousand of
benefit proceeds received from bank owned life insurance. Excluding the
acquisitions in 2003, risk management revenue for the quarter was consistent
with the second quarter of 2003 as the impact of lower contingent profit sharing
commissions was offset by improved plan administration fees and agency
commissions. Noninterest income continues to be a strong diversified source of
revenue for the Company and amounted to 26% of net revenue during the current
year quarter.
Noninterest Expense
Noninterest expense increased $8.8 million over the 2003 second quarter. This
increase is attributable to the operating costs associated with the 21 banking
centers, increased personnel and amortization of core deposit intangibles from
the former TFC, as well as the insurance agency acquisitions in July 2003.
Additionally, the 2004 quarter includes costs related to the Company's strategic
planning initiative and marketing expenses related to core deposit and risk
management promotions. The remainder of this variance in noninterest expense is
primarily attributable to the addition of three de novo banking centers since
June 2003. Even with these increases, the Company's efficiency ratio of 57.1%
for the second quarter of 2004 was relatively consistent with the 56.3% for the
prior year period, as the increased expenses were partially offset by revenue
improvements.
Income Taxes
The effective tax rate from continuing operations decreased to 32.8% for the
second quarter of 2004 compared to 35.9% for the second quarter of 2003. This
improvement reflects the tax advantaged municipal investments acquired from TFC
and tax exempt benefit proceeds from bank owned life insurance received during
the second quarter of 2004.
Results of Operations for the Six Months Ended June 30, 2004
Net Interest Income
Net interest income rose 45% when comparing the first six months of 2004 to the
same period of 2003. One of the major factors contributing to this increase was
a 51 basis point improvement in net interest rate spread due to the Company's
active asset and liability management initiatives and lower mortgage-backed
security premium amortization. Additionally, net interest income benefited from
a $60.7 million increase in average net earning assets from the first two
quarters of 2003 to the same periods of 2004 primarily due to an increase in
average noninterest-bearing deposits and the acquisition of TFC. The improvement
in net interest rate spread and average net earning assets caused the Company's
net interest margin to improve to 3.56% compared to 3.23% for the six months
ended June 30, 2003.
The 27% increase in interest income reflects the impact of a $1.02 billion
increase in average interest-earning assets due primarily to the acquisition of
TFC and increased higher yielding commercial real estate and business loans. The
benefits of the increase in earning assets were partially offset by a 19 basis
point decrease in the yield on those assets when compared to the 2003 period.
This was attributable to the declining interest rate environment, which caused
the Company's variable-rate interest-earning assets to reprice to lower rates
and fixed-rate interest-earning assets, mainly residential mortgages and MBS's,
to prepay. The impact of this repricing however was partially offset by reduced
MBS premium amortization recorded during the current year, which amounted to
$1.2 million for the first two quarters of 2004 compared to $5.6 million for the
same period of 2003.
The decrease in interest expense during the first six months of 2004 resulted
from a 70 basis point reduction in the rate paid on interest-bearing
liabilities. This was due to the lower interest rate environment, which caused
the Company's variable rate interest-bearing liabilities to reprice downward and
the Company's ongoing strategy to replace higher-rate time deposits with lower
cost core deposits. Partially offsetting this decrease was a $957.3 million
increase in average interest-bearing liabilities due to the deposits and
borrowings assumed in the TFC acquisition and core deposit growth.
Provision for Credit Losses
To compensate for the higher level of charge-offs, as well as to provide for the
continuing growth in commercial loans, the Company increased its provision for
credit losses to $4.9 million for the six months ended June 30, 2004 compared to
$4.2 million for the same period of 2003.
19
Noninterest Income
For the first half of 2004, the Company earned $25.2 million of noninterest
income, compared to $20.9 million for the same period of 2003. This increase was
largely the result of the acquisition of TFC in January 2004 and two insurance
agencies in July 2003, which added approximately $3.1 million and $1.6 million
to noninterest income, respectively, during the 2004 period. Excluding the
acquisitions in 2003, risk management revenue for the first six months of 2004
was $140 thousand higher than the 2003 period as the impact of lower contingent
profit sharing commissions was more than offset by improved plan administration
fees and agency commissions. Noninterest income for 2004 also reflects $310
thousand of benefit proceeds received from bank owned life insurance. These
increases were partially offset by lower banking services and wealth management
revenues as a result of the MasterCard/Visa settlement in August 2003 and
annuity carriers reducing commission rates as a result of the lower interest
rate environment. Noninterest income continues to be a strong diversified source
of revenue for the Company and amounted to 25% of net revenue for the first six
months of 2004.
Noninterest Expense
Noninterest expenses for the six months ended June 30, 2004 increased $15.3
million over the same 2003 period. This increase is attributable to the
operating costs associated with the 21 banking centers, increased personnel and
amortization of core deposit intangibles from the former TFC, as well as the
insurance agency acquisitions in July 2003. Additionally, 2004 results include
$1.4 million of marketing, training and other expenses associated with the TFC
merger and integration, costs related to the Company's strategic planning
initiative and marketing expenses related to core deposit and risk management
promotions. The remainder of this variance in noninterest expense is primarily
attributable to the addition of three de novo banking centers since June 2003.
Even with these increase, the Company's efficiency ratio of 58.0% for the first
half of 2004 improved over the 59.2% for the same period of 2003 as increased
expenses were more than offset by revenue improvements.
Income Taxes
The effective tax rate from continuing operations decreased to 33.5% for the
first six months of 2004 compared to 35.4% for the first six months of 2003.
This improvement reflects the tax advantaged municipal investments acquired from
TFC and tax exempt benefit proceeds from bank owned life insurance received
during the second quarter of 2004.
Liquidity and Capital Resources
In addition to the Company's primary funding sources of cash flow from
operations, deposits and borrowings, funding is provided from the principal and
interest payments received on loans and investment securities, proceeds from the
maturities and sale of investment securities, as well as proceeds from the sale
of fixed rate mortgage loans in the secondary market. While maturities and
scheduled amortization of loans and securities are predictable sources of funds,
deposit balances and mortgage prepayments are greatly influenced by the general
level of interest rates, the economic environment and local competitive
conditions.
The primary investing activities of the Company are the origination of loans, as
well as the purchase of mortgage-backed and other debt securities. During the
first six months of 2004, loan originations totaled $582.5 million compared to
$512.6 million for the first six months of 2003, while purchases of investment
securities totaled $392.6 million during the 2004 period compared to $622.3
million for the 2003 period. The increase in originations is primarily due to
higher commercial real estate and business loan originations partially offset by
lower residential mortgage refinancings in 2004. The higher amount of investment
security purchases in 2003 primarily relates to the investment of the Company's
second-step proceeds, as well as the reinvestment of funds from higher MBS
prepayments received.
Cash flow from operations, deposit growth, as well as the sale, maturity and
receipt of principal payments on loans and investment securities were used to
fund the investing activities described above. Additionally, the Company has
lines of credit with the Federal Home Loan Bank, Federal Reserve Bank and a
commercial bank that provide funding sources for lending, liquidity and asset
and liability management as needed. During the first half of 2004 cash flows
provided by the sale, principal payments and maturity of securities available
for sale amounted to $271.8 million compared to $579.3 million for the same
period in 2003. This decrease was primarily due to a lower level of prepayments
received on MBS's. Deposit growth and borrowings, excluding those acquired from
TFC, provided $182.3 million of additional funding for the six months ended June
30, 2004.
In the ordinary course of business, the Company extends commitments to originate
residential, commercial and other loans. Commitments to extend credit are
agreements to lend to a customer as long as there is no violation of any
condition established in the contract. Commitments generally have fixed
expiration dates or other termination clauses and may require payment of a fee.
Since the Company does not expect all of the commitments to be funded, the total
commitment amounts do not necessarily represent future cash requirements. The
Company evaluates each customer's creditworthiness on a case-by-case basis.
Collateral may be obtained based upon management's assessment of the customers'
creditworthiness. Commitments to extend credit may be written on a fixed rate
basis exposing the Company to interest rate risk given the possibility that
market rates may change between the commitment date and the actual extension of
credit. As of June 30, 2004, the Company had outstanding commitments to
originate loans of approximately $161.1 million, which generally have an
expiration period of less than 120 days. Commitments to sell residential
mortgages amounted to $6.9 million at the end of the second quarter.
20
The Company extends credit to consumer and commercial customers, up to a
specified amount, through lines of credit. The borrower is able to draw on these
lines as needed, thus the funding requirements are generally more difficult to
predict. Unused lines of credit amounted to $354.7 million at June 30, 2004 and
generally have an expiration period of less than one year. In addition to the
above, the Company issues standby letters of credit to third parties that
guarantee payments on behalf of commercial customers in the event the customer
fails to perform under the terms of the contract between the customer and the
third-party. Standby letters of credit amounted to $29.5 million at June 30,
2004 and generally have an expiration period greater than one year. Since the
majority of unused lines of credit and outstanding standby letters of credit
expire without being funded, the Company's obligation under the above commitment
amounts is substantially less than the amounts reported. It is anticipated that
there will be sufficient funds available to meet the current loan commitments
and other obligations through the sources described above. The credit risk
involved in issuing these commitments is essentially the same as that involved
in extending loans to customers and is limited to the contractual notional
amount of those instruments.
Cash, interest-bearing demand accounts at correspondent banks, federal funds
sold, and other short-term investments are the Company's most liquid assets. The
level of these assets are monitored daily and are dependent on operating,
financing, lending and investing activities during any given period. Excess
short-term liquidity is usually invested in overnight federal funds sold. In the
event that funds beyond those generated internally are required due to higher
than expected loan commitment fundings, deposit outflows or the amount of debt
being called, additional sources of funds are available through the use of
repurchase agreements, the sale of loans or investments or the Company's various
lines of credit. As of June 30, 2004, the total of cash, interest-bearing demand
accounts, federal funds sold and other short-term investments was $82.8 million.
At June 30, 2004, First Niagara exceeded all regulatory capital requirements.
The current requirements and the actual levels for First Niagara are detailed in
the following table.
As of June 30, 2004
-----------------------------------------------------------------
To be well capitalized
Minimum under prompt corrective
Actual capital adequacy action provisions
---------------- ----------------- -----------------------
Amount Ratio Amount Ratio Amount Ratio
------- ----- ------- ----- ------- -----
Tangible capital ........ $533,256 11.37% $ 70,348 1.50% $ N/A N/A%
Tier 1 (core) capital ... 533,256 11.37 187,594 4.00 234,492 5.00
Tier 1 risk based capital 533,256 16.66 N/A N/A 192,021 6.00
Total risk based capital 573,261 17.91 256,028 8.00 320,034 10.00
21
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Net Interest Income Analysis
The primary risk the Company is exposed to is interest rate risk. Interest rate
risk occurs when assets and liabilities reprice at different times as interest
rates change. The Company monitors this interest rate sensitivity through the
use of a net interest income model, which generates estimates of changes in net
income over a range of interest rate scenarios.
The Asset and Liability Committee, which is comprised of members of senior
management, monitors the Company's interest rate sensitivity. When deemed
prudent, management has taken actions, and intends to do so in the future, to
mitigate exposure to interest rate risk through the use of on- or off-balance
sheet financial instruments. Possible actions include, but are not limited to,
changes in the pricing of loan and deposit products, modifying the composition
of interest-earning assets and interest-bearing liabilities, and the use of
interest rate derivatives. As of June 30, 2004, the Company's off-balance sheet
financial instruments were comprised of customer lines and letters of credit,
and commitments to originate and sell loans which were entered into in the
ordinary course of business. See Liquidity and Capital Resources for further
description of these items.
The accompanying table as of June 30, 2004 sets forth the estimated impact on
the Company's net interest income resulting from changes in the interest rates
during the next twelve months. These estimates require making certain
assumptions including loan and mortgage-related investment prepayment speeds,
reinvestment rates, and deposit maturities. These assumptions are inherently
uncertain and, as a result, the Company cannot precisely predict the impact of
changes in interest rates on net interest income. Actual results may differ
significantly due to timing, magnitude and frequency of interest rate changes
and changes in market conditions.
Calculated increase (decrease) at
June 30, 2004
-------------------------------------
Changes in Net interest
interest rates income % Change
---------------- ------------ --------
(Dollars in thousands)
+200 basis points $ 598 0.36 %
+100 basis points 406 0.25
-100 basis points (846) (0.52)
Item 4. Controls and Procedures
Under the supervision and with the participation of the Company's management,
including the Chief Executive Officer and Chief Financial Officer, the Company
has evaluated the effectiveness of the design and operation of its disclosure
controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the
Exchange Act) as of the end of the period covered by this quarterly report.
Based upon that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that, as of the end of the period covered by this quarterly
report, the Company's disclosure controls and procedures are effective to ensure
that information required to be disclosed in the reports that the Company files
or submits under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported, within the time periods specified in the Securities and
Exchange Commission's rules and forms. There has been no change in the Company's
internal control over financial reporting during the most recent fiscal quarter
that has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.
22
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
There are no material pending legal proceedings to which the Company or
its subsidiaries are a party other than ordinary routine litigation
incidental to their respective businesses.
Item 2. Changes in Securities, 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 discloses information regarding the purchases of FNFG
stock made by the Company during the second quarter of 2004 in accordance
with Rule 10b-18 under the Securities Exchange Act of 1934:
Cumulative number of
shares purchased as Maximum number
part of publicly of shares yet
Number of shares Average price per announced repurchase to be purchased
Date purchased share paid plan* under the plan
------------------ --------------------- -------------------- ----------------------- -----------------
April 2004 135,000 $12.96 710,000 1,397,161
May 2004 360,000 $12.40 1,070,000 1,037,161
June 2004 210,000 $12.20 1,280,000 827,161
------------------ --------------------- -------------------- ======================= =================
Total 705,000 $12.45
===================== ====================
* In July 2003 the Company announced that it had received a regulatory
non-objection from the OTS and approval from its Board of Directors with
no set expiration date to its request to repurchase up to 2,107,161 shares
of its outstanding common stock in order to fund vested stock options. The
regulatory non-objection was necessary because the repurchase program
commenced less than one year from the date of the Company's second step
stock offering effective January 17, 2003. The extent to which shares are
repurchased will depend on a number of factors including market trends and
prices, economic conditions, and alternative uses for capital. As of June
30, 2004, the average cost of the 1,280,000 shares repurchased under this
program was $13.44 per share. In addition to the above purchases, during
the second quarter of 2004, the Company repurchased 30,216 shares from
executives and directors of the Company at an average cost of $12.11 per
share to satisfy option exercises and tax withholding requirements on
vested restricted shares as allowed under the Company's stock option and
restricted stock plans. The price of these repurchases is based upon the
closing market price of the Company's stock on the date of exercise or
vesting.
Item 3. Defaults upon Senior Securities
Not applicable.
23
Item 4. Submission of Matters to a Vote of Security Holders
The 2004 Annual Meeting of Stockholders of First Niagara Financial Group,
Inc. was held on May 4, 2004. The Annual Meeting was conducted for the
purpose of considering and acting upon the election of four directors for
a three year term and the ratification of the appointment of KPMG LLP as
independent auditors for the Company for the year ending December 31,
2004. The following table reflects the tabulation of the votes with
respect to each matter voted upon at the 2004 Annual Meeting:
Number of Votes
----------------------------------------------------------
Matter Considered For Withheld
-------------------------------------------------------- ------------------- ----------------
(1) Election of Directors
Gordon P. Assad 72,752,602 675,671
John J. Bisgrove, Jr. 72,754,957 673,316
Daniel W. Judge 72,733,053 695,220
Louise Woerner 66,828,805 6,599,468
For Against Abstain
------------------- ---------------- ---------------
(2) Ratification of KPMG LLP as independent
auditors for the Company for the year ending
December 31, 2004 66,770,265 6,471,803 186,205
Item 5. Other Information
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits are filed herewith:
Exhibits
31.1 Certification of Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
99.1 Summary of Quarterly Financial Data
(b) Report on Form 8-K
On April 2, 2004 the Company filed a Current Report on Form 8-K,
which disclosed that it had entered into a definitive merger
agreement under which Hudson River Bancorp, Inc. will merge into
First Niagara Financial Group, Inc. Under the terms of the
Agreement, each share of Hudson River Bancorp stock was valued at
approximately $19.63, based on First Niagara's closing stock price
of $13.87 on April 1, 2004. The aggregate merger consideration is
comprised of approximately 35.7 million shares of First Niagara
common stock and approximately $124.8 million in cash. Such Current
Report, as an Item 7 exhibit included the Company's press release
dated April 1, 2004.
On April 20, 2004 the Company filed a Current Report on Form 8-K,
which disclosed first quarter 2004 financial results. Such Current
Report, as an Item 7 exhibit included the Company's press release
dated April 20, 2004 reporting first quarter 2004 financial results
and providing earnings guidance for the full year.
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.
FIRST NIAGARA FINANCIAL GROUP, INC.
Date: August 6, 2004 By: /s/ Paul J. Kolkmeyer
---------------------
Paul J. Kolkmeyer
President and Chief
Executive Officer
Date: August 6, 2004 By: /s/ John R. Koelmel
-------------------
John R. Koelmel
Executive Vice President,
Chief Financial Officer
25