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 March 31,
2008
¨
|
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934
|
For the
transition period from
to
.
Commission
file number 001-13695
COMMUNITY BANK SYSTEM, INC.
(Exact
name of registrant as specified in its
charter)
|
Delaware
|
|
16-1213679
|
(State
or other jurisdiction of incorporation or organization)
|
|
(I.R.S. Employer
Identification No.)
|
5790 Widewaters Parkway, DeWitt, New
York
|
|
13214-1883
|
(Address
of principal executive offices)
|
|
(Zip
Code)
|
(315)
445-2282
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 a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting
company. See definitions of "large accelerated filer", "accelerated
filer", , and "smaller reporting company" in Rule 12b-2 of the Exchange
Act.
Large
accelerated filer ¨
|
Accelerated
filer x
|
Non-accelerated
filer ¨
|
Smaller
reporting company ¨.
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes ¨. No x.
Indicate
the number of shares outstanding of each of the issuer's classes of common
stock, as of the latest practicable date. 29,909,066 shares of Common
Stock, $1.00 par value, were outstanding on April 30, 2008.
|
|
Page
|
Part
I.
|
Financial
Information
|
|
|
|
|
Item
1.
|
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|
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|
3
|
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4
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5
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6
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7
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8
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Item
2.
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14
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Item
3.
|
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28
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|
Item
4.
|
|
29
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|
Part
II.
|
Other
Information
|
|
|
|
|
Item
1.
|
|
29
|
|
|
|
Item
1A.
|
|
29
|
|
|
|
Item
2.
|
|
29
|
|
|
|
Item
3.
|
|
29
|
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|
|
Item
4.
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|
29
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|
Item
5.
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|
29
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|
|
|
Item
6.
|
|
30
|
Part
I. Financial Information
CONSOLIDATED
STATEMENTS OF CONDITION
(In
Thousands, Except Share Data)
|
|
|
|
|
|
|
|
|
|
|
|
December
31,
|
|
|
|
2008
|
|
|
2007
|
|
Cash
and cash equivalents
|
|
$ |
160,394 |
|
|
$ |
130,823 |
|
|
|
|
|
|
|
|
|
|
Available-for-sale
investment securities, at fair value
|
|
|
1,171,603 |
|
|
|
1,254,622 |
|
Held-to-maturity
investment securities
|
|
|
136,079 |
|
|
|
137,250 |
|
Total
investment securities (fair value of $1,309,889 and $1,392,281,
respectively)
|
|
|
1,307,682 |
|
|
|
1,391,872 |
|
|
|
|
|
|
|
|
|
|
Loans
|
|
|
2,837,786 |
|
|
|
2,821,055 |
|
Allowance
for loan losses
|
|
|
(36,428 |
) |
|
|
(36,427 |
) |
Net
loans
|
|
|
2,801,358 |
|
|
|
2,784,628 |
|
|
|
|
|
|
|
|
|
|
Core
deposit intangibles, net
|
|
|
18,345 |
|
|
|
19,765 |
|
Goodwill
|
|
|
234,722 |
|
|
|
234,449 |
|
Other
intangibles, net
|
|
|
2,044 |
|
|
|
2,002 |
|
Intangible
assets, net
|
|
|
255,111 |
|
|
|
256,216 |
|
|
|
|
|
|
|
|
|
|
Premises
and equipment, net
|
|
|
70,109 |
|
|
|
69,685 |
|
Accrued
interest receivable
|
|
|
25,545 |
|
|
|
25,531 |
|
Other
assets
|
|
|
38,216 |
|
|
|
38,747 |
|
Total
assets
|
|
$ |
4,658,415 |
|
|
$ |
4,697,502 |
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
Noninterest-bearing
deposits
|
|
$ |
563,226 |
|
|
$ |
584,921 |
|
Interest-bearing
deposits
|
|
|
2,680,156 |
|
|
|
2,643,543 |
|
Total
deposits
|
|
|
3,243,382 |
|
|
|
3,228,464 |
|
|
|
|
|
|
|
|
|
|
Borrowings
|
|
|
766,153 |
|
|
|
801,604 |
|
Subordinated
debt held by unconsolidated subsidiary trusts
|
|
|
101,956 |
|
|
|
127,724 |
|
Accrued
interest and other liabilities
|
|
|
58,256 |
|
|
|
60,926 |
|
Total
liabilities
|
|
|
4,169,747 |
|
|
|
4,218,718 |
|
|
|
|
|
|
|
|
|
|
Commitment
and contingencies (See Note H)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shareholders'
equity:
|
|
|
|
|
|
|
|
|
Preferred
stock $1.00 par value, 500,000 shares authorized, 0 shares
issued
|
|
|
0 |
|
|
|
0 |
|
Common
stock, $1.00 par value, 50,000,000 shares
authorized; 33,256,871 and 32,999,544 shares issued in 2008 and
2007, respectively
|
|
|
33,257 |
|
|
|
33,000 |
|
Additional
paid-in capital
|
|
|
212,713 |
|
|
|
208,429 |
|
Retained
earnings
|
|
|
314,927 |
|
|
|
310,281 |
|
Accumulated
other comprehensive income
|
|
|
1,399 |
|
|
|
702 |
|
Treasury
stock, at cost (3,364,811 and 3,364,811 shares,
respectively)
|
|
|
(73,628 |
) |
|
|
(73,628 |
) |
Total
shareholders' equity
|
|
|
488,668 |
|
|
|
478,784 |
|
|
|
|
|
|
|
|
|
|
Total
liabilities and shareholders' equity
|
|
$ |
4,658,415 |
|
|
$ |
4,697,502 |
|
The
accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED
STATEMENTS OF INCOME (Unaudited)
(In
Thousands, Except Per-Share Data)
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
|
|
2008
|
|
|
2007
|
|
Interest
income:
|
|
|
|
|
|
|
Interest
and fees on loans
|
|
$ |
46,515 |
|
|
$ |
44,935 |
|
Interest
and dividends on taxable investments
|
|
|
10,714 |
|
|
|
11,103 |
|
Interest
and dividends on nontaxable investments
|
|
|
5,922 |
|
|
|
5,520 |
|
Total
interest income
|
|
|
63,151 |
|
|
|
61,558 |
|
|
|
|
|
|
|
|
|
|
Interest
expense:
|
|
|
|
|
|
|
|
|
Interest
on deposits
|
|
|
17,694 |
|
|
|
18,120 |
|
Interest
on borrowings
|
|
|
8,041 |
|
|
|
7,505 |
|
Interest
on subordinated debt held by unconsolidated subsidiary
trusts
|
|
|
1,818 |
|
|
|
2,566 |
|
Total
interest expense
|
|
|
27,553 |
|
|
|
28,191 |
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
|
35,598 |
|
|
|
33,367 |
|
Less: provision
for loan losses
|
|
|
780 |
|
|
|
200 |
|
Net
interest income after provision for loan losses
|
|
|
34,818 |
|
|
|
33,167 |
|
|
|
|
|
|
|
|
|
|
Noninterest
income:
|
|
|
|
|
|
|
|
|
Deposit
service fees
|
|
|
8,261 |
|
|
|
6,977 |
|
Other
banking services
|
|
|
595 |
|
|
|
670 |
|
Benefit
plan administration, consulting and actuarial fees
|
|
|
6,312 |
|
|
|
3,972 |
|
Wealth
management services
|
|
|
2,163 |
|
|
|
1,860 |
|
Gain
on sales of investment securities
|
|
|
287 |
|
|
|
0 |
|
Total
noninterest income
|
|
|
17,618 |
|
|
|
13,479 |
|
|
|
|
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
|
|
|
|
Salaries
and employee benefits
|
|
|
20,386 |
|
|
|
18,286 |
|
Occupancy
and equipment
|
|
|
5,573 |
|
|
|
4,666 |
|
Data
processing and communications
|
|
|
3,985 |
|
|
|
3,565 |
|
Amortization
of intangible assets
|
|
|
1,531 |
|
|
|
1,515 |
|
Legal
and professional fees
|
|
|
1,298 |
|
|
|
1,187 |
|
Office
supplies and postage
|
|
|
1,278 |
|
|
|
1,046 |
|
Business
development and marketing
|
|
|
1,322 |
|
|
|
950 |
|
Other
|
|
|
3,001 |
|
|
|
2,704 |
|
Total
operating expenses
|
|
|
38,374 |
|
|
|
33,919 |
|
|
|
|
|
|
|
|
|
|
Income
before income taxes
|
|
|
14,062 |
|
|
|
12,727 |
|
Income
taxes
|
|
|
3,164 |
|
|
|
3,071 |
|
Net
income
|
|
$ |
10,898 |
|
|
$ |
9,656 |
|
|
|
|
|
|
|
|
|
|
Basic
earnings per share
|
|
$ |
0.37 |
|
|
$ |
0.32 |
|
Diluted
earnings per share
|
|
$ |
0.36 |
|
|
$ |
0.32 |
|
Dividends
declared per share
|
|
$ |
0.21 |
|
|
$ |
0.20 |
|
The
accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED
STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (Unaudited)
Three
Months Ended March 31, 2008
(In
Thousands, Except Share Data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
Common
Stock
|
|
|
Additional
|
|
|
|
|
|
Other
|
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Paid-In
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
Treasury
|
|
|
|
|
|
|
Outstanding
|
|
|
Issued
|
|
|
Capital
|
|
|
Earnings
|
|
|
Income
|
|
|
Stock
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at December 31, 2007
|
|
|
29,634,733 |
|
|
$ |
33,000 |
|
|
$ |
208,429 |
|
|
$ |
310,281 |
|
|
$ |
702 |
|
|
$ |
(73,628 |
) |
|
$ |
478,784 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10,898 |
|
|
|
|
|
|
|
|
|
|
|
10,898 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
comprehensive gain, net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
697 |
|
|
|
|
|
|
|
697 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends
declared:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common,
$0.21 per share
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6,252 |
) |
|
|
|
|
|
|
|
|
|
|
(6,252 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common
stock issued under Stock plan, including tax benefits of
$294
|
|
|
257,327 |
|
|
|
257 |
|
|
|
3,632 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,889 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock
options earned
|
|
|
|
|
|
|
|
|
|
|
652 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
652 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at March 31, 2008
|
|
|
29,892,060 |
|
|
$ |
33,257 |
|
|
$ |
212,713 |
|
|
$ |
314,927 |
|
|
$ |
1,399 |
|
|
$ |
(73,628 |
) |
|
$ |
488,668 |
|
The
accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED
STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)
(In
Thousands)
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
|
|
2008
|
|
|
2007
|
|
Other
comprehensive income (loss), before tax:
|
|
|
|
|
|
|
Change
in pension liability
|
|
$ |
(146 |
) |
|
$ |
(50 |
) |
Change
in unrealized loss on derivative instruments used in cash flow hedging
relationship
|
|
|
(2,758 |
) |
|
|
(423 |
) |
Unrealized
gain (loss) on securities:
|
|
|
|
|
|
|
|
|
Unrealized
holding gain arising during period
|
|
|
4,280 |
|
|
|
1,413 |
|
Reclassification
adjustment for gains included in net income
|
|
|
(287 |
) |
|
|
0 |
|
Other
comprehensive income (loss), before tax:
|
|
|
1,089 |
|
|
|
940 |
|
Income
tax expense related to other comprehensive income
|
|
|
(392 |
) |
|
|
(237 |
) |
Other
comprehensive income, net of tax:
|
|
|
697 |
|
|
|
703 |
|
Net
income
|
|
|
10,898 |
|
|
|
9,656 |
|
Comprehensive
income
|
|
$ |
11,595 |
|
|
$ |
10,359 |
|
The
accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED
STATEMENTS OF CASH FLOWS (Unaudited)
(In
Thousands)
|
|
Three
Months Ended March 31,
|
|
|
|
2008
|
|
|
2007
|
|
Operating
activities:
|
|
|
|
|
|
|
Net
income
|
|
$ |
10,898 |
|
|
$ |
9,656 |
|
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
2,332 |
|
|
|
2,267 |
|
Amortization
of intangible assets
|
|
|
1,531 |
|
|
|
1,515 |
|
Net
(accretion) amortization of premiums and discounts on securities and
loans
|
|
|
(470 |
) |
|
|
(405 |
) |
Amortization
of unearned compensation and discount on subordinated debt
|
|
|
128 |
|
|
|
100 |
|
Provision
for loan losses
|
|
|
780 |
|
|
|
200 |
|
Gain
on investment securities and debt extinguishments
|
|
|
(287 |
) |
|
|
0 |
|
Loss
(Gain) on sale of loans and other assets
|
|
|
39 |
|
|
|
(34 |
) |
Proceeds
from the sale of loans held for sale
|
|
|
438 |
|
|
|
3,889 |
|
Origination
of loans held for sale
|
|
|
(440 |
) |
|
|
(3,863 |
) |
Excess
tax benefits from share-based payment arrangements
|
|
|
(287 |
) |
|
|
(106 |
) |
Change
in other operating assets and liabilities
|
|
|
(5,591 |
) |
|
|
(3,691 |
) |
Net
cash provided by operating activities
|
|
|
9,071 |
|
|
|
9,528 |
|
Investing
activities:
|
|
|
|
|
|
|
|
|
Proceeds
from sales of available-for-sale investment securities
|
|
|
24,974 |
|
|
|
3,023 |
|
Proceeds
from maturities of held-to-maturity investment securities
|
|
|
1,645 |
|
|
|
8,095 |
|
Proceeds
from maturities of available-for-sale investment
securities
|
|
|
187,092 |
|
|
|
56,610 |
|
Purchases
of held-to-maturity investment securities
|
|
|
(510 |
) |
|
|
(785 |
) |
Purchases
of available-for-sale investment securities
|
|
|
(124,262 |
) |
|
|
(153,413 |
) |
Net
increase in loans outstanding
|
|
|
(17,509 |
) |
|
|
18,704 |
|
Cash
paid for acquisition (net of cash acquired of $0)
|
|
|
(304 |
) |
|
|
0 |
|
Capital
expenditures
|
|
|
(2,786 |
) |
|
|
(2,271 |
) |
Net
cash provided by (used in) investing activities
|
|
|
68,340 |
|
|
|
(70,037 |
) |
Financing
activities:
|
|
|
|
|
|
|
|
|
Net
change in non-interest checking, interest checking and savings
accounts
|
|
|
27,531 |
|
|
|
42,636 |
|
Net
change in time deposits
|
|
|
(12,613 |
) |
|
|
67,533 |
|
Net
change in short-term borrowings
|
|
|
(45,254 |
) |
|
|
(20,394 |
) |
Change
in long-term borrowings (net of payments of $197 and $322)
|
|
|
9,803 |
|
|
|
(322 |
) |
Payment
on subordinated debt held by unconsolidated subsidiary
trusts
|
|
|
(25,774 |
) |
|
|
(30,928 |
) |
Issuance
of common stock
|
|
|
4,419 |
|
|
|
2,004 |
|
Purchase
of treasury stock
|
|
|
0 |
|
|
|
(1,252 |
) |
Cash
dividends paid
|
|
|
(6,239 |
) |
|
|
(5,989 |
) |
Tax
benefits from share-based payment arrangements
|
|
|
287 |
|
|
|
106 |
|
Net
cash (used in) provided by financing activities
|
|
|
(47,840 |
) |
|
|
53,394 |
|
Change
in cash and cash equivalents
|
|
|
29,571 |
|
|
|
(7,115 |
) |
Cash
and cash equivalents at beginning of period
|
|
|
130,823 |
|
|
|
232,032 |
|
Cash
and cash equivalents at end of period
|
|
$ |
160,394 |
|
|
$ |
224,917 |
|
Supplemental
disclosures of cash flow information:
|
|
|
|
|
|
|
|
|
Cash
paid for interest
|
|
$ |
28,316 |
|
|
$ |
29,475 |
|
Cash
paid for income taxes
|
|
|
75 |
|
|
|
0 |
|
Supplemental
disclosures of noncash financing and investing activities:
|
|
|
|
|
|
|
|
|
Dividends
declared and unpaid
|
|
|
6,252 |
|
|
|
6,027 |
|
Gross
change in unrealized gain on available-for-sale investment
securities
|
|
|
3,993 |
|
|
|
1,413 |
|
The
accompanying notes are an integral part of the consolidated financial
statements.
COMMUNITY BANK SYSTEM, INC.
NOTES
TO THE CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
March
31, 2008
NOTE
A: BASIS OF PRESENTATION
The
interim financial data as of March 31, 2008 and for the three months ended March
31, 2008 and 2007 is unaudited; however, in the opinion of the Company, the
interim data includes all adjustments, consisting only of normal recurring
adjustments, necessary for a fair statement of the results for the interim
periods. The results of operations for the interim periods are not
necessarily indicative of the results that may be expected for the full year or
any other interim period.
NOTE
B: ACQUISITION AND OTHER MATTERS
Hand
Benefits & Trust, Inc.
On May
18, 2007, Benefit Plans Administrative Services, Inc. (BPAS), a wholly owned
subsidiary of the Company, completed its acquisition of Hand Benefits &
Trust, Inc. (HBT) in an all cash transaction. HBT is a Houston, Texas
based provider of employee benefit plan administration and trust
services. The results of HBT's operations have been included in the
consolidated financial statements since that date.
TLNB
Financial Corporation
On June
1, 2007, the Company completed its acquisition of TLNB Financial Corporation,
parent company of Tupper Lake National Bank (TLNB), in an all-cash transaction
valued at approximately $17.8 million. Based in Tupper Lake, NY, TLNB
operated five branches in the northeastern New York State cities of Tupper Lake,
Plattsburgh and Saranac Lake, as well as an insurance subsidiary, TLNB Insurance
Agency, Inc. The results of TLNB's operations have been included in
the consolidated financial statements since that date.
The
estimated purchase price allocation of the assets acquired and liabilities
assumed in the purchase of HBT and TLNB, collectively, including capitalized
acquisition costs, is as follows:
(000's
omitted)
|
|
|
|
Cash
and due from banks
|
|
$ |
9,374 |
|
Available-for-sale
investment securities
|
|
|
28,830 |
|
Loans
net of allowance for loan losses of $747
|
|
|
54,768 |
|
Premises
and equipment, net
|
|
|
3,034 |
|
Other
assets
|
|
|
1,286 |
|
Core
deposit & customer list intangibles
|
|
|
2,190 |
|
Goodwill
|
|
|
14,289 |
|
Total
assets acquired
|
|
|
113,771 |
|
Deposits
|
|
|
84,120 |
|
Borrowings
|
|
|
4,288 |
|
Other
liabilities
|
|
|
3,490 |
|
Total
liabilities assumed
|
|
|
91,898 |
|
Net
assets acquired
|
|
$ |
21,873 |
|
Stock
Repurchase Program
On April
20, 2005, the Company announced a twenty-month authorization to repurchase up to
1,500,000 of its outstanding shares. On December 20, 2006, the
Company extended the program through December 31, 2008 and announced an
additional two-year authorization to repurchase up to 900,000 of its shares in
open market or privately negotiated transactions. Through March 31,
2008, the Company has repurchased, pursuant to the program, 1,464,811 shares at
an aggregate cost of $31.5 million and an average price per share of
$21.51. The repurchased shares will be used for general corporate
purposes, including those related to stock plan activities.
NOTE
C: ACCOUNTING POLICIES
Critical
Accounting Policies
Allowance
for Loan Losses
Management
continually evaluates the credit quality of the Company's loan portfolio and
performs a formal review of the adequacy of the allowance for loan losses on a
quarterly basis. The allowance reflects management's best estimate of
probable losses inherent in the loan portfolio. Determination of the
allowance is subjective in nature and requires significant
estimates. The Company's allowance methodology consists of two
broad components, general and specific loan loss allocations.
The
general loan loss allocation is composed of two calculations that are computed
on four main loan categories: commercial, consumer direct, consumer indirect and
residential real estate. The first calculation determines an
allowance level based on the latest three years of historical net charge-off
data for each loan category (commercial loans exclude balances with specific
loan loss allocations). The second calculation is qualitative and
takes into consideration five major factors affecting the level of loan loss
risk: portfolio risk migration patterns (internal credit quality trends); the
growth of the categories of the loan portfolio; economic and business
environment trends in the Company's markets (includes review of bankruptcy,
unemployment, population, consumer spending and regulatory trends); industry,
geographical and product concentrations in the portfolio; and the perceived
effectiveness of managerial resources and lending practices and policies. These
two calculations are added together to determine the general loan loss
allocation. The specific loan loss allocation relates to individual
commercial loans that are both greater than $0.5 million and in a nonaccruing
status with respect to interest. Specific losses are based on
discounted estimated cash flows, including any cash flows resulting from the
conversion of collateral.
Loan
losses are charged off against the allowance, while recoveries of amounts
previously charged off are credited to the allowance. A provision for
loan loss is charged to operations based on management's periodic evaluation of
the factors previously mentioned.
Income
Taxes
Provisions
for income taxes are based on taxes currently payable or refundable, and
deferred taxes which are based on temporary differences between the tax basis of
assets and liabilities and their reported amounts in the financial
statements. Deferred tax assets and liabilities are reported in the
financial statements at currently enacted income tax rates applicable to the
period in which the deferred tax assets and liabilities are expected to be
realized or settled.
Intangible
Assets
Intangible
assets include core deposit intangibles, customer relationship intangibles and
goodwill arising from acquisitions. Core deposit intangibles and
customer relationship intangibles are amortized on either an accelerated or
straight-line basis over periods ranging from 7 to 20 years. Goodwill
is evaluated at least annually for impairment. The carrying value of
goodwill and other intangible assets is based upon discounted cash flow modeling
techniques that require management to make estimates regarding the amount and
timing of expected future cash flows. It also requires use of a
discount rate that reflects the current return requirements of the market in
relation to present risk-free interest rates, required equity market premiums,
and company-specific risk indicators.
Retirement
Benefits
The
Company provides defined benefit pension benefits and post-retirement health and
life insurance benefits to eligible employees. The Company also
provides deferred compensation and supplemental executive retirement plans for
selected current and former employees and officers. Expense under
these plans is charged to current operations and consists of several components
of net periodic benefit cost based on various actuarial assumptions regarding
future experience under the plans, including discount rate, rate of future
compensation increases and expected return on plan assets.
New
Accounting Pronouncements
SFAS
No. 141(R)
In
December 2007, the FASB issued SFAS No. 141(R), Business
Combinations. This statement provides new accounting guidance
and disclosure requirements for business combinations. The Company
will be required to apply SFAS No. 141(R) to all business combinations completed
on or after January 1, 2009.
SFAS
No. 160
In
December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in
Consolidated Financial Statements – an amendment of ARB No.
51. This statement provides new accounting guidance and
disclosure and presentation requirements for noncontrolling interests in a
subsidiary. SFAS No. 160 is effective for fiscal years beginning on
or after December 15, 2008. The Company is currently assessing the
effect of SFAS No. 160 on its financial statements.
SFAS
No. 161
In March
2008, the FASB issued SFAS No. 161, Disclosures About Derivative
Instruments and Hedging Activities – an amendment of FASB Statement No.
133. This statement expands quarterly disclosure requirements
in SFAS No. 133 about an entity's derivative instruments and hedging
activities. SFAS No. 161 is effective for fiscal years beginning on
or after November 15, 2008. The Company is currently assessing the
effect of SFAS No. 161 on its financial statements.
NOTE
D: EARNINGS PER SHARE
Basic
earnings per share are computed based on the weighted-average common shares
outstanding for the period. Diluted earnings per share are based on
the weighted-average shares outstanding adjusted for the dilutive effect of
restricted stock and the assumed exercise of stock options during the
year. The dilutive effect of options is calculated using the treasury
stock method of accounting. The treasury stock method determines the
number of common shares that would be outstanding if all the dilutive options
(those where the average market price is greater than the exercise price) were
exercised and the proceeds were used to repurchase common shares in the open
market at the average market price for the applicable time
period. There were approximately 1.6 million anti-dilutive stock
options outstanding at March 31, 2008 compared to approximately 1.7 million
weighted-average anti-dilutive stock options outstanding at March 31, 2007 that
were not included in the computation below. The following is a
reconciliation of basic to diluted earnings per share for the three months ended
March 31, 2008 and 2007.
|
|
|
|
|
|
|
|
Per
Share
|
|
(000's
omitted, except per share data)
|
|
Income
|
|
|
Shares
|
|
|
Amount
|
|
Three
Months Ended March 31, 2008
|
|
|
|
|
|
|
|
|
|
Basic
EPS
|
|
$ |
10,898 |
|
|
|
29,720 |
|
|
$ |
0.37 |
|
Stock
options and restricted stock
|
|
|
|
|
|
|
316 |
|
|
|
|
|
Diluted
EPS
|
|
$ |
10,898 |
|
|
|
30,036 |
|
|
$ |
0.36 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three
Months Ended March 31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
EPS
|
|
$ |
9,656 |
|
|
|
30,192 |
|
|
$ |
0.32 |
|
Stock
options and restricted stock
|
|
|
|
|
|
|
355 |
|
|
|
|
|
Diluted
EPS
|
|
$ |
9,656 |
|
|
|
30,547 |
|
|
$ |
0.32 |
|
NOTE
E: INTANGIBLE ASSETS
The gross
carrying amount and accumulated amortization for each type of intangible asset
are as follows:
|
|
As
of March 31, 2008
|
|
|
As
of December 31, 2007
|
|
|
|
Gross
|
|
|
|
|
|
Net
|
|
|
Gross
|
|
|
|
|
|
Net
|
|
|
|
Carrying
|
|
|
Accumulated
|
|
|
Carrying
|
|
|
Carrying
|
|
|
Accumulated
|
|
|
Carrying
|
|
(000's
omitted)
|
|
Amount
|
|
|
Amortization
|
|
|
Amount
|
|
|
Amount
|
|
|
Amortization
|
|
|
Amount
|
|
Amortizing
intangible assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Core
deposit intangibles
|
|
$ |
66,368 |
|
|
$ |
(48,023 |
) |
|
$ |
18,345 |
|
|
$ |
66,368 |
|
|
$ |
(46,603 |
) |
|
$ |
19,765 |
|
Other
intangibles
|
|
|
4,076 |
|
|
|
(2,032 |
) |
|
|
2,044 |
|
|
|
3,923 |
|
|
|
(1,921 |
) |
|
|
2,002 |
|
Total
amortizing intangibles
|
|
|
70,444 |
|
|
|
(50,055 |
) |
|
|
20,389 |
|
|
|
70,291 |
|
|
|
(48,524 |
) |
|
|
21,767 |
|
Non-amortizing
intangible assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Goodwill
|
|
|
234,722 |
|
|
|
0 |
|
|
|
234,722 |
|
|
|
234,449 |
|
|
|
0 |
|
|
|
234,449 |
|
Total
intangible assets, net
|
|
$ |
305,166 |
|
|
$ |
(50,055 |
) |
|
$ |
255,111 |
|
|
$ |
304,740 |
|
|
$ |
(48,524 |
) |
|
$ |
256,216 |
|
No
goodwill impairment adjustments were recognized in 2008 or 2007. The
estimated aggregate amortization expense for each of the succeeding fiscal years
ended December 31 is as follows:
(000's
omitted)
|
|
Amount
|
|
Apr-Dec
2008
|
|
$ |
4,561 |
|
2009
|
|
|
5,499 |
|
2010
|
|
|
3,579 |
|
2011
|
|
|
1,481 |
|
2012
|
|
|
1,221 |
|
Thereafter
|
|
|
4,048 |
|
Total
|
|
$ |
20,389 |
|
NOTE
F: MANDATORILY REDEEMABLE PREFERRED SECURITIES
The
Company sponsors two business trusts, Community Statutory Trust III and
Community Capital Trust IV (Trust IV), of which 100% of the common stock is
owned by the Company. The trusts were formed for the purpose of
issuing company-obligated mandatorily redeemable preferred securities to
third-party investors and investing the proceeds from the sale of such preferred
securities solely in junior subordinated debt securities of the
Company. The debentures held by each trust are the sole assets of
that trust. Distributions on the preferred securities issued by each
trust are payable semi-annually or quarterly at a rate per annum equal to the
interest rate being earned by the trust on the debentures held by that trust and
are recorded as interest expense in the consolidated financial
statements. The preferred securities are subject to mandatory
redemption, in whole or in part, upon repayment of the
debentures. The Company has entered into agreements which, taken
collectively, fully and unconditionally guarantee the preferred securities
subject to the terms of each of the guarantees. The terms of the
preferred securities of each trust are as follows:
|
Issuance
|
Par
|
|
Maturity
|
|
|
|
Date
|
Amount
|
Interest
Rate
|
Date
|
Call
Provision
|
Call
Price
|
III
|
7/31/2001
|
$24.5
million
|
3
month LIBOR plus 3.58% (6.82%)
|
7/31/2031
|
5
year beginning 2006
|
107.5000%
declining to par in 2011
|
IV
|
12/8/2006
|
$75
million
|
3
month LIBOR plus 1.65% (4.45%)
|
12/15/2036
|
5
year beginning 2012
|
Par
|
The
Company also entered into an interest rate swap agreement to convert Trust IV's
variable rate trust preferred securities into a fixed rate security for a term
of five years at a fixed rate of 6.43%. A net gain of $37,000 was
recognized for the interest rate swap agreement for the three months ended March
31, 2008 and was used to offset the interest expense for the trust preferred
securities.
NOTE
G: BENEFIT PLANS
The
Company provides defined benefit pension benefits and post-retirement health and
life insurance benefits to eligible employees. The Company also provides
supplemental pension retirement benefits for several current and former key
employees. No contributions in 2008 are required for regulatory
purposes. The Company accrues for the estimated cost of these
benefits through charges to expense during the years that employees earn these
benefits. The net periodic benefit cost for the three months ended
March 31 is as follows:
|
|
Pension
Benefits
|
|
|
Post-retirement
Benefits
|
|
|
|
Three
Months Ended
|
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Service
cost
|
|
$ |
779 |
|
|
$ |
763 |
|
|
$ |
175 |
|
|
$ |
148 |
|
Interest
cost
|
|
|
819 |
|
|
|
678 |
|
|
|
150 |
|
|
|
131 |
|
Expected
return on plan assets
|
|
|
(1,117 |
) |
|
|
(1,024 |
) |
|
|
0 |
|
|
|
0 |
|
Net
amortization and deferral
|
|
|
165 |
|
|
|
247 |
|
|
|
25 |
|
|
|
29 |
|
Amortization
of prior service cost
|
|
|
(28 |
) |
|
|
(23 |
) |
|
|
27 |
|
|
|
28 |
|
Amortization
of transition obligation
|
|
|
0 |
|
|
|
0 |
|
|
|
10 |
|
|
|
10 |
|
Net
periodic benefit cost
|
|
$ |
618 |
|
|
$ |
641 |
|
|
$ |
387 |
|
|
$ |
346 |
|
NOTE
H: COMMITMENTS, CONTINGENT LIABILITIES AND RESTRICTIONS
The
Company is a party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its
customers. These financial instruments consist primarily of
commitments to extend credit and standby letters of
credit. Commitments to extend credit are agreements to lend to
customers, generally having fixed expiration dates or other termination clauses
that may require payment of a fee. These commitments consist
principally of unused commercial and consumer credit lines. Standby
letters of credit generally are contingent upon the failure of the customer to
perform according to the terms of an underlying contract with a third
party. The credit risks associated with commitments to extend credit
and standby letters of credit are essentially the same as that involved with
extending loans to customers and are subject to normal credit
policies. Collateral may be obtained based on management's assessment
of the customer's creditworthiness.
The
contract amount of commitment and contingencies are as follows:
(000's
omitted)
|
|
March
31, 2008
|
|
|
December
31, 2007
|
|
Commitments
to extend credit
|
|
$ |
481,598 |
|
|
$ |
482,517 |
|
Standby
letters of credit
|
|
|
10,296 |
|
|
|
10,121 |
|
Total
|
|
$ |
491,894 |
|
|
$ |
492,638 |
|
NOTE
I: FAIR VALUE
Effective
January 1, 2008 the Company adopted SFAS No. 157, Fair Value Measurements (SFAS
157) and SFAS No. 159, The
Fair Value Option for Financial Assets and Financial Liabilities (SFAS
159). SFAS 159 allows entities an irrevocable option to measure
certain financial assets and financial liabilities at fair
value. Unrealized gains and losses on items for which the fair value
option has been elected are reported in earnings. The implementation
of this standard did not have a material impact on the Company's consolidated
financial position or results of operations.
SFAS 157
establishes a common definition for fair value to be applied to generally
accepted accounting principals requiring the use of fair value, establishes a
framework for measuring fair value and expands disclosure about such fair value
instruments. It defines fair value as the price that would be
received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date (exit
price). It also classifies the inputs used to measure fair value into
the following hierarchy:
|
·
|
Level
1 – Quoted prices in active markets for identical assets or
liabilities.
|
|
·
|
Level
2 – Quoted prices in active markets for similar assets or liabilities, or
quoted prices for identical or similar assets or liabilities in markets
that are not active, or inputs other than quoted prices that are
observable for the asset or
liability.
|
|
·
|
Level
3 – Significant valuation assumptions not readily observable in a
market.
|
A
financial instrument's categorization within the valuation hierarchy is based
upon the lowest level of input that is significant to the fair value
measurement. The following tables set forth the Company's
financial assets and liabilities that were accounted for at fair value on a
recurring basis as of March 31, 2008:
(000's
omitted)
|
|
Level
1
|
|
|
Level
2
|
|
|
Level
3
|
|
|
Total
Fair Value
|
|
Available-for-sale
investment securities
|
|
$ |
1,062 |
|
|
$ |
1,052,200 |
|
|
$ |
69,584 |
|
|
$ |
1,122,846 |
|
Derivative
assets/(liabilities), net
|
|
|
0 |
|
|
|
(5,003 |
) |
|
|
0 |
|
|
|
(5,003 |
) |
Total
|
|
$ |
1,062 |
|
|
$ |
1,047,197 |
|
|
$ |
69,584 |
|
|
$ |
1,117,843 |
|
The
valuation techniques used to measure fair value for the items in the table above
are as follows:
|
·
|
Available
for sale investment securities – The fair value of available for sale
investment securities is based upon quoted prices, if
available. If quoted prices are not available, fair values are
measured using quoted market prices for similar securities or model-based
valuation techniques. Level 1 securities include U.S. Treasury
securities that are traded by dealers or brokers in active
over-the-counter markets. Level 2 securities include
mortgage-backed securities issued by government sponsored entities,
municipal securities and corporate debt securities. Securities
classified as Level 3 include asset-backed securities in less liquid
markets. The value of these instruments is determined using
pricing models or similar techniques as well as significant judgment or
estimation.
|
|
·
|
Derivative
assets and liabilities – The fair value of derivative instruments traded
in over-the-counter markets where quoted market prices are not readily
available, are measured using models that primarily use market observable
inputs, such as yield curves and option
volatilities.
|
Certain
other assets are measured at fair value on a nonrecurring
basis. These adjustments to fair value usually result from
application of lower or cost or fair value accounting or write-downs of
individual assets due to impairment. Examples of these nonrecurring
assets includes mortgage servicing rights and impaired loans for which the level
of impairment is determined based upon the fair value of the underlying
collateral of the loan. At March 31, 2008, the Company had no assets
measured at fair value on a nonrecurring basis.
The
changes in Level 3 assets measured at fair value on a recurring basis are
summarized in the following table:
(000's
omitted)
|
|
AFS
investments
|
|
Balance
at December 31, 2007
|
|
$ |
73,442 |
|
Total
gains (losses) included in earnings (a)
|
|
|
6 |
|
Total
gains (losses) included in other comprehensive income
|
|
|
(3,796 |
) |
Purchases
|
|
|
0 |
|
Sales/calls
|
|
|
(68 |
) |
Transfers
|
|
|
0 |
|
Balance
at March 31, 2008
|
|
$ |
69,584 |
|
(a)
Included in Gain on sales of investment securities.
NOTE
J: SEGMENT INFORMATION
Statement
of Financial Accounting Standards No. 131 (SFAS 131), Disclosures about Segments of an
Enterprise and Related Information has established standards for public
companies relating to the reporting of financial and descriptive information
about their operating segments in financial statements. Operating
segments are components of an enterprise, which are evaluated regularly by the
chief operating decision maker in deciding how to allocate resources and assess
performance. The Company's chief operating decision maker is the
President and Chief Executive Officer of the Company.
The
Company has identified "Banking" as its reportable operating business
segment. The Banking segment provides full-service banking to
consumers, businesses and governmental units in northern, central and western
New York as well as Northeastern Pennsylvania.
Immaterial
operating segments of the Company's operations, which do not have similar
characteristics to the banking segment and do not meet the quantitative
thresholds requiring disclosure, are included in the "Other"
category. Revenues derived from these segments includes
administration, consulting and actuarial services provided to sponsors of
employee benefit plans, broker-dealer and investment advisory services, asset
management services to individuals, corporate pension and profit sharing plans,
trust services and insurance commissions from various insurance related products
and services. The accounting policies used in the disclosure of
business segments are the same as those described in the summary of significant
accounting policies (See Note A, Summary of Significant Accounting
Policies of the most recent Form 10-K for the year ended December 31,
2007).
Information
about reportable segments and reconciliation of the information to the
consolidated financial statements follows:
(000's
omitted)
|
|
Banking
|
|
|
Other
|
|
|
Consolidated
Total
|
|
For
the Three Months Ended March
31, 2008
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
$ |
35,515 |
|
|
$ |
83 |
|
|
$ |
35,598 |
|
Provision
for loan losses
|
|
|
780 |
|
|
|
0 |
|
|
|
780 |
|
Noninterest
income excluding gain (loss) on investment securities and debt
extinguishments
|
|
|
8,467 |
|
|
|
8,864 |
|
|
|
17,331 |
|
Gain
on investment securities
|
|
|
287 |
|
|
|
0 |
|
|
|
287 |
|
Amortization
of intangible assets
|
|
|
1,421 |
|
|
|
110 |
|
|
|
1,531 |
|
Other
operating expenses
|
|
|
29,870 |
|
|
|
6,973 |
|
|
|
36,843 |
|
Income
before income taxes
|
|
$ |
12,198 |
|
|
$ |
1,864 |
|
|
$ |
14,062 |
|
Assets
|
|
$ |
4,622,569 |
|
|
$ |
35,846 |
|
|
$ |
4,658,415 |
|
Goodwill
|
|
$ |
221,315 |
|
|
$ |
13,407 |
|
|
$ |
234,722 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months
Ended March 31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
$ |
33,240 |
|
|
$ |
127 |
|
|
$ |
33,367 |
|
Provision
for loan losses
|
|
|
200 |
|
|
|
0 |
|
|
|
200 |
|
Noninterest
income excluding gain (loss) on investment securities and debt
extinguishments
|
|
|
7,168 |
|
|
|
6,311 |
|
|
|
13,479 |
|
Amortization
of intangible assets
|
|
|
1,445 |
|
|
|
70 |
|
|
|
1,515 |
|
Other
operating expenses
|
|
|
27,470 |
|
|
|
4,934 |
|
|
|
32,404 |
|
Income
before income taxes
|
|
$ |
11,293 |
|
|
$ |
1,434 |
|
|
$ |
12,727 |
|
Assets
|
|
$ |
4,528,735 |
|
|
$ |
30,153 |
|
|
$ |
4,558,888 |
|
Goodwill
|
|
$ |
208,932 |
|
|
$ |
11,336 |
|
|
$ |
220,268 |
|
|
Management's
Discussion and Analysis of Financial Condition and Results of
Operations
|
Introduction
This
Management's Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) primarily reviews the financial condition and results of
operations of Community Bank System, Inc. (the Company or CBSI) as of and for
the three months ended March 31, 2008 and 2007, although in some circumstances
the fourth quarter of 2007 is also discussed in order to more fully explain
recent trends. The following discussion and analysis should be read
in conjunction with the Company's Consolidated Financial Statements and related
notes that appear on pages 3 through 13. All references in the
discussion to the financial condition and results of operations are to those of
the Company and its subsidiaries taken as a whole.
Unless
otherwise noted, the term "this year" refers to results in calendar year 2008,
"first quarter" refers to the quarter ended March 31, 2008, earnings per share
(EPS) figures refer to diluted EPS, and net interest income and net interest
margin are presented on a fully tax-equivalent (FTE) basis.
This
MD&A contains certain forward-looking statements with respect to the
financial condition, results of operations and business of the
Company. These forward-looking statements involve certain risks and
uncertainties. Factors that may cause actual results to differ
materially from those proposed by such forward-looking statements are set herein
under the caption, "Forward-Looking Statements," on page 27.
Critical Accounting
Policies
As a
result of the complex and dynamic nature of the Company's business, management
must exercise judgment in selecting and applying the most appropriate accounting
policies for its various areas of operations. The policy decision
process not only ensures compliance with the latest generally accepted
accounting principles, but also reflects on management's discretion with regard
to choosing the most suitable methodology for reporting the Company's financial
performance. It is management's opinion that the accounting estimates
covering certain aspects of the business have more significance than others due
to the relative importance of those areas to overall performance, or the level
of subjectivity in the selection process. These estimates affect the
reported amounts of assets and liabilities and disclosures of revenues and
expenses during the reporting period. Actual results could
differ from those estimates. Management believes that critical
accounting estimates include:
·
|
Allowance
for loan losses - The allowance for loan losses reflects management's best
estimate of probable losses inherent in the loan
portfolio. Determination of the allowance is inherently
subjective. It requires significant estimates including the
amounts and timing of expected future cash flows on impaired loans and the
amount of estimated losses on pools of homogeneous loans which is based on
historical loss experience and consideration of current economic trends,
all of which may be susceptible to significant
change.
|
·
|
Actuarial
assumptions associated with pension, post-retirement and other employee
benefit plans - These assumptions include discount rate, rate of future
compensation increases and expected return on plan
assets.
|
·
|
Provision
for income taxes - The Company is subject to examinations from various
taxing authorities. Such examinations may result in challenges
to the tax return treatment applied by the Company to specific
transactions. Management believes that the assumptions and
judgements used to record tax related assets or liabilities have been
appropriate. Should tax laws change or the taxing authorities
determine that management's assumptions were inappropriate an adjustment
may be required which could have a material effect on the Company's
results of operations.
|
·
|
Carrying
value of goodwill and other intangible assets - The carrying value of
goodwill and other intangible assets is based upon discounted cash flow
modeling techniques that require management to make estimates regarding
the amount and timing of expected future cash flows. It also
requires use of a discount rate that reflects the current return
requirements of the market in relation to present risk-free interest
rates, required equity market premiums, and company-specific risk
indicators.
|
A summary
of the accounting policies used by management is disclosed in Note A, "Summary
of Significant Accounting Policies" on pages
46-51 of the most recent Form 10-K (fiscal year ended December 31, 2007) filed
with the Securities and Exchange Commission on March 13, 2008.
Executive
Summary
The
Company's business philosophy is to operate as a community bank with local
decision-making, principally in non-metropolitan markets, providing a broad
array of banking and financial services to retail, commercial and municipal
customers.
The
Company's core operating objectives are: (i) grow the branch network, primarily
through a disciplined acquisition strategy, and certain selective de novo
expansions, (ii) build high-quality, profitable loan and deposit portfolios
using both organic and acquisition strategies, (iii) increase the noninterest
income component of total revenues through development of banking-related fee
income, growth in existing financial services business units, and the
acquisition of additional financial services and banking businesses, and (iv)
utilize technology to deliver customer-responsive products and services and to
reduce operating costs.
Significant
factors management reviews to evaluate achievement of the Company's operating
objectives and its operating results and financial condition include, but are
not limited to: net income and earnings per share, return on assets and equity,
net interest margins, noninterest income, operating expenses, asset quality,
loan and deposit growth, capital management, performance of individual banking
and financial services units, liquidity and interest rate sensitivity,
enhancements to customer products and services, technology enhancements, market
share, peer comparisons, and the performance of acquisition and integration
activities.
On June
1, 2007, the Company completed its acquisition of TLNB Financial Corporation,
parent company of Tupper Lake National Bank (TLNB), in an all-cash transaction
valued at approximately $17.8 million. Based in Tupper Lake, NY, TLNB
operated five branches in the northeastern New York State cities of Tupper Lake,
Plattsburgh and Saranac Lake, as well as an insurance subsidiary, TLNB Insurance
Agency, Inc. On a consolidated basis, TLNB had approximately $100
million in assets and $87 million of deposits.
On May
18, 2007, the Company's subsidiary, Benefit Plans Administrative Services, Inc.
(BPAS), completed its acquisition of Hand Benefits & Trust, Inc. (HBT) in an
all cash transaction. HBT is a Houston, Texas based provider of
employee benefit plan administration and trust services.
First
quarter net income of $10.9 million, or $0.36 per share was up 13% or $0.04 over
the $0.32 per share reported in the first quarter of 2007. The
increase was driven by higher interest income generated from solid loan growth,
continued expansion of non-interest income sources, improved net interest margin
and favorable asset quality results. These were partially offset by a
higher provision for loan loss and increased operating expenses. Cash
earnings per share (which excludes the after-tax effect of the amortization of
intangibles assets and acquisition-related market value adjustments) were $0.41
versus $0.36 for the prior year's first quarter.
Asset
quality in the first quarter of 2008 remained strong in comparison to the same
period last year, with reductions in nonperforming loan and total delinquent
loan ratios. Net charge-offs increased, but remained well below
average quarterly charge-offs in the last few years. The Company
experienced year-over-year loan growth in all portfolios: consumer installment,
consumer mortgage and business lending, due to organic growth and the
acquisition of TLNB. The investment portfolio decreased as compared
to both the first quarter of 2007 and December 31, 2007. Average
deposits increased in the first quarter of 2008 as compared to the first quarter
of 2007 and declined slightly from the fourth quarter of
2007. External borrowings decreased from the end of December 2007 due
to the redemption of $25 million of variable-rate trust preferred securities in
the beginning of the first quarter of 2008. Additionally, in December
2007, the Company restructured $150 million of its fixed rate Federal Home Loan
Bank (FHLB) advances, replacing them with lower cost instruments with similar
remaining duration. These restructuring strategies had a positive
impact on the Company's net interest margin in the first quarter of
2008.
Net Income and
Profitability
As shown
in Table 1, net income for the quarter of $10.9 million was up 12.9% over the
first quarter of 2007. Earnings per share for the first quarter of $0.36 was
$0.04 higher than the EPS generated in the same period of last
year. First quarter net interest income of $35.6 million was up $2.2
million or 6.7% from the comparable prior year period. The current
quarter's provision for loan losses increased $0.6 million as compared to the
first quarter of 2007 and decreased $0.1 million from the fourth quarter of
2007. First quarter noninterest income, excluding securities gains
and losses, was $17.3 million, up $3.9 million or 29% from the first quarter of
2007. Operating expenses of $38.4 million for the quarter were up
$4.5 million or 13% from the comparable prior year period, a significant portion
of the increase was attributable to the acquisitions of TLNB and HBT during the
second quarter of 2007.
In
addition to the earnings results presented above in accordance with generally
accepted accounting principles (GAAP), the Company provides
cash earnings per share, which excludes the after-tax effect of the amortization
of intangible assets and acquisition-related market value
adjustments. Management believes that this information helps
investors better understand the effect of acquisition activity in reported
results. Cash earnings per share for the first quarter of 2008 was
$0.41, up 14% from the $0.36 earned in the comparable period of
2007.
As
reflected in Table 1, the primary reasons for higher earnings were higher
noninterest income and net interest income, partially offset by higher operating
expenses and loan loss provision. Net interest income for the first
quarter of 2008 increased as compared to both the first and the fourth quarters
of 2007 as a result of higher net interest margins as well as acquired and
organic loan growth. Excluding security gains and losses, noninterest
income increased due to a strong performance by the Company's employee benefits
consulting and plan administration business, as a result of significant organic
growth and the acquisition of HBT, as well as higher banking service fees,
including higher account fees and debit card related revenues. Higher
net charge-offs and an increase in total loans were the primary reasons for the
increase in loan loss provision, which remained below the average provision for
the prior eight quarters. Operating expenses increased for the
quarter as compared to the prior year, primarily due to costs associated with
the two acquisitions in the last year, as well as higher business development
and volume-based processing costs, increased facility-based utilities and
maintenance costs, and higher personnel expenses.
A
condensed income statement and a reconciliation of GAAP-based earnings results
to cash-based earnings results are as follows:
Table
1: Summary Income Statements
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
(000's
omitted, except per share data)
|
|
2008
|
|
|
2007
|
|
Net
interest income
|
|
$ |
35,598 |
|
|
$ |
33,367 |
|
Provision
for loan losses
|
|
|
780 |
|
|
|
200 |
|
Noninterest
income excluding security losses
|
|
|
17,331 |
|
|
|
13,479 |
|
Gain
on sales of investment securities
|
|
|
287 |
|
|
|
0 |
|
Operating
expenses
|
|
|
38,374 |
|
|
|
33,919 |
|
Income
before taxes
|
|
|
14,062 |
|
|
|
12,727 |
|
Income
taxes
|
|
|
3,164 |
|
|
|
3,071 |
|
Net
income
|
|
$ |
10,898 |
|
|
$ |
9,656 |
|
|
|
|
|
|
|
|
|
|
Diluted
earnings per share
|
|
$ |
0.36 |
|
|
$ |
0.32 |
|
Table
2: Reconciliation of GAAP Net Income to Cash Net Income (Non-GAAP
measure)
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
Net
income
|
|
$ |
10,898 |
|
|
$ |
9,656 |
|
After-tax
cash adjustments:
|
|
|
|
|
|
|
|
|
Amortization
of market value adjustments on net assets acquired in
mergers
|
|
|
156 |
|
|
|
179 |
|
Amortization
of intangible assets
|
|
|
1,187 |
|
|
|
1,150 |
|
Net
income – cash
|
|
$ |
12,241 |
|
|
$ |
10,985 |
|
|
|
|
|
|
|
|
|
|
Diluted
earnings per share – cash
|
|
$ |
0.41 |
|
|
$ |
0.36 |
|
Net Interest
Income
Net
interest income is the amount by which interest and fees on earning assets
(loans, investments and cash) exceed the cost of funds, primarily interest paid
to the Company's depositors and interest on external borrowings. Net
interest margin is the difference between the gross yield on earning assets and
the cost of interest-bearing funds as a percentage of earning
assets.
As shown
in Table 3, net interest income (with nontaxable income converted to a fully
tax-equivalent basis) for the first quarter of 2008 was $39.5 million, a $2.3
million increase from the same period last year and a $0.8 million increase from
the fourth quarter of 2008. A $143 million increase in first quarter
interest-earning assets and a seven basis point increase in the net interest
margin versus the prior year offset a $147 million increase in average
interest-bearing liabilities. As reflected in Table 4, the volume and
rate increases from interest bearing assets had a $1.7 million favorable impact
on net interest income, while the volume and rate increases from interest
bearing liabilities had a $0.6 million favorable impact on net interest
income. The increase in interest bearing assets and the
decrease in the cost of funding had a favorable impact on net interest margin,
which was partially offset by the increase in the interest bearing liabilities
and the lower yields on interest bearing assets.
Higher
first quarter average loan balances were attributable to $82 million of organic
loan growth since the first quarter of 2007, driven by growth in the consumer
mortgage and consumer installment portfolios. The remaining
contribution to the increase in the average first quarter loan balance was the
$56 million of loans acquired in the TLNB acquisitions. Average
investments and cash equivalents for the first quarter period were $5.8 million
higher than the respective period of 2007. In comparison to the prior
year, total average deposits were up $41 million or 1.3% for the quarter as a
result of the acquisition of TLNB. Quarterly average deposits from
acquisitions were $70 million. On an organic basis, average deposits
for the first quarter decreased $29 million from the first quarter of 2007, as a
result of the Company's objective of lowering its overall funding costs by
reducing higher cost time deposits. Quarterly average borrowings
increased $110 million as compared to the first quarter of 2007 due to the
all-cash acquisitions of TLNB and HBT, partially offset by the redemption of $25
million of fixed rate trust preferred securities in the first quarter of
2008.
The net
interest margin of 3.81% for the first quarter increased seven basis points
versus the same period in the prior year. The improvement was
primarily attributable to a 20 basis point decrease in the cost of funds, due
primarily to a 10 basis point drop in the cost of deposit funding and the
restructuring of $175 million of external borrowings that were
replaced with lower cost instruments in late 2007 and early
2008. Partially offsetting these improvements was a 12 basis point
decline in earning assets yields for the quarter as compared to the first
quarter of 2007. The change in the earning-asset yield was driven by
a 16 basis point decrease in loan yields for the quarter and a four basis point
decline in the investment yields for the quarter, mostly as a result of variable
and adjustable-rate assets repricing downward due to the decline in short-term
fed funds rates.
The first
quarter cost of funds decreased 20 basis points versus the prior year quarter
due to a 79 basis point decrease in the average interest rate paid on external
borrowings and a 12 basis point decrease on interest-bearing deposits
rates. The decrease in the external borrowing rate is due to the
restructuring of $150 million of FHLB advances in December 2007 and the
redemption of $25 million of variable rate, trust-preferred securities in
January 2008. Additionally, the long-term rate was impacted by the
approximately 200 basis point decrease in the three month LIBOR (London
Interbank Offered Rates) over the last twelve months, from which the interest
rate on $25 million of the mandatorily redeemable preferred securities is
based. Interest rates on selected categories of deposit accounts were
lowered throughout the second half of 2007 and the first quarter of 2008 in
response to market conditions. Additionally, the proportion of
customer deposits in higher cost time deposits has declined 1.4 percentage
points over the last twelve months, while the percentage of deposits in lower
cost checking and savings accounts has increased.
Table 3
below sets forth information related to average interest-earning assets and
interest-bearing liabilities and their associated yields and rates for the
periods indicated. Interest income and yields are on a fully
tax-equivalent basis using marginal income tax rates of 38.49% in 2008 and
38.75% in 2007. Average balances are computed by accumulating the
daily ending balances in a period and dividing by the number of days in that
period. Loan yields and amounts earned include loan
fees. Average loan balances include nonaccrual loans and loans held
for sale.
Table
3: Quarterly Average Balance Sheet
|
|
Three
Months Ended
|
|
|
Three
Months Ended
|
|
(000's
omitted except yields and rates)
|
|
March
31, 2008
|
|
|
March
31, 2007
|
|
|
|
|
|
|
|
|
|
Avg.
|
|
|
|
|
|
|
|
|
Avg.
|
|
|
|
Average
|
|
|
|
|
|
Yield/Rate
|
|
|
Average
|
|
|
|
|
|
Yield/Rate
|
|
|
|
Balance
|
|
|
Interest
|
|
|
Paid
|
|
|
Balance
|
|
|
Interest
|
|
|
Paid
|
|
Interest-earning
assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
equivalents
|
|
$ |
44,728 |
|
|
$ |
318 |
|
|
|
2.86 |
% |
|
$ |
102,553 |
|
|
$ |
1,329 |
|
|
|
5.26 |
% |
Taxable
investment securities (1)
|
|
|
764,234 |
|
|
|
10,717 |
|
|
|
5.64 |
% |
|
|
741,304 |
|
|
|
10,280 |
|
|
|
5.62 |
% |
Nontaxable
investment securities
(1)
|
|
|
540,993 |
|
|
|
9,334 |
|
|
|
6.94 |
% |
|
|
500,273 |
|
|
|
8,639 |
|
|
|
7.00 |
% |
Loans
(net of unearned discount)
|
|
|
2,822,100 |
|
|
|
46,672 |
|
|
|
6.65 |
% |
|
|
2,684,566 |
|
|
|
45,106 |
|
|
|
6.81 |
% |
Total
interest-earning assets
|
|
|
4,172,055 |
|
|
|
67,041 |
|
|
|
6.46 |
% |
|
|
4,028,696 |
|
|
|
65,354 |
|
|
|
6.58 |
% |
Noninterest-earning
assets
|
|
|
469,964 |
|
|
|
|
|
|
|
|
|
|
|
440,548 |
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$ |
4,642,019 |
|
|
|
|
|
|
|
|
|
|
$ |
4,469,244 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing
liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
checking, savings and money market deposits
|
|
$ |
1,260,934 |
|
|
|
2,714 |
|
|
|
0.87 |
% |
|
$ |
1,198,183 |
|
|
|
3,340 |
|
|
|
1.13 |
% |
Time
deposits
|
|
|
1,398,650 |
|
|
|
14,980 |
|
|
|
4.31 |
% |
|
|
1,424,289 |
|
|
|
14,780 |
|
|
|
4.21 |
% |
Short-term
borrowings
|
|
|
426,116 |
|
|
|
4,419 |
|
|
|
4.17 |
% |
|
|
159,444 |
|
|
|
1,637 |
|
|
|
4.16 |
% |
Long-term
borrowings
|
|
|
457,177 |
|
|
|
5,440 |
|
|
|
4.79 |
% |
|
|
613,624 |
|
|
|
8,434 |
|
|
|
5.57 |
% |
Total
interest-bearing liabilities
|
|
|
3,542,877 |
|
|
|
27,553 |
|
|
|
3.13 |
% |
|
|
3,395,540 |
|
|
|
28,191 |
|
|
|
3.37 |
% |
Noninterest-bearing
liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand
deposits
|
|
|
555,927 |
|
|
|
|
|
|
|
|
|
|
|
552,087 |
|
|
|
|
|
|
|
|
|
Other
liabilities
|
|
|
60,465 |
|
|
|
|
|
|
|
|
|
|
|
56,994 |
|
|
|
|
|
|
|
|
|
Shareholders'
equity
|
|
|
482,750 |
|
|
|
|
|
|
|
|
|
|
|
464,623 |
|
|
|
|
|
|
|
|
|
Total
liabilities and shareholders' equity
|
|
$ |
4,642,019 |
|
|
|
|
|
|
|
|
|
|
$ |
4,469,244 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest earnings
|
|
|
|
|
|
$ |
39,488 |
|
|
|
|
|
|
|
|
|
|
$ |
37,163 |
|
|
|
|
|
Net
interest spread
|
|
|
|
|
|
|
|
|
|
|
3.33 |
% |
|
|
|
|
|
|
|
|
|
|
3.21 |
% |
Net
interest margin on interest-earnings assets
|
|
|
|
|
|
|
|
|
|
|
3.81 |
% |
|
|
|
|
|
|
|
|
|
|
3.74 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fully
tax-equivalent adjustment
|
|
|
|
|
|
$ |
3,890 |
|
|
|
|
|
|
|
|
|
|
$ |
3,796 |
|
|
|
|
|
(1)
|
Averages
for investment securities are based on historical cost basis and the
yields do not give effect to changes in fair value that is reflected as a
component of shareholders' equity and deferred
taxes.
|
As
discussed above and disclosed in Table 4 below, the quarterly change in net
interest income (fully tax-equivalent basis) may be analyzed by segregating the
volume and rate components of the changes in interest income and interest
expense for each underlying category.
Table
4: Rate/Volume
|
|
1st
Quarter 2008 versus 1st Quarter 2007
|
|
|
|
Increase
(Decrease) Due to Change in (1)
|
|
|
|
Volume
|
|
|
Rate
|
|
|
Net
Change
|
|
(000's
omitted)
|
|
|
|
|
|
|
|
|
|
Interest
earned on:
|
|
|
|
|
|
|
|
|
|
Cash
equivalents
|
|
$ |
(562 |
) |
|
$ |
(449 |
) |
|
$ |
(1,011 |
) |
Taxable
investment securities
|
|
|
321 |
|
|
|
116 |
|
|
|
437 |
|
Nontaxable
investment securities
|
|
|
703 |
|
|
|
(8 |
) |
|
|
695 |
|
Loans
(net of unearned discount)
|
|
|
2,283 |
|
|
|
(717 |
) |
|
|
1,566 |
|
Total
interest-earning assets
(2)
|
|
|
2,309 |
|
|
|
(622 |
) |
|
|
1,687 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
paid on:
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
checking, savings and money market deposits
|
|
|
168 |
|
|
|
(794 |
) |
|
|
(626 |
) |
Time
deposits
|
|
|
(269 |
) |
|
|
469 |
|
|
|
200 |
|
Short-term
borrowings
|
|
|
2,766 |
|
|
|
16 |
|
|
|
2,782 |
|
Long-term
borrowings
|
|
|
(1,961 |
) |
|
|
(1,033 |
) |
|
|
(2,994 |
) |
Total
interest-bearing liabilities (2)
|
|
|
1,192 |
|
|
|
(1,830 |
) |
|
|
(638 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest earnings (2)
|
|
$ |
1,343 |
|
|
$ |
982 |
|
|
$ |
2,325 |
|
(1)
|
The
change in interest due to both rate and volume has been allocated in
proportion to the relationship of the absolute dollar amounts of such
change in each component.
|
(2)
|
Changes
due to volume and rate are computed from the respective changes in average
balances and
rates and are not a summation of the changes of the
components.
|
Noninterest
Income
The
Company's sources of noninterest income are of three primary types: 1) general
banking services related to loans, deposits and other core customer activities
typically provided through the branch network and electronic banking channels;
2) employee benefit plan administration, actuarial and consulting services
(performed by BPA-Harbridge and HBT); and 3) wealth management services,
comprised of trust services (performed by the trust unit within CBNA),
investment and insurance products (performed by Community Investment Services,
Inc. or CISI and CBNA Insurance Agency, Inc.) and asset management (performed by
Nottingham Advisors or Nottingham). Additionally, the Company has
periodic transactions, most often net gains (losses) from the sale of investment
securities and prepayment of debt instruments.
Table
5: Noninterest Income
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
Deposit
service charges and fees
|
|
$ |
8,261 |
|
|
$ |
6,977 |
|
Benefit
plan administration, consulting and actuarial fees
|
|
|
6,312 |
|
|
|
3,972 |
|
Wealth
management services
|
|
|
2,163 |
|
|
|
1,860 |
|
Other
banking services
|
|
|
373 |
|
|
|
413 |
|
Mortgage
banking
|
|
|
222 |
|
|
|
257 |
|
Subtotal
|
|
|
17,331 |
|
|
|
13,479 |
|
Gain
on sales of investment securities
|
|
|
287 |
|
|
|
0 |
|
Total
noninterest income
|
|
$ |
17,618 |
|
|
$ |
13,479 |
|
|
|
|
|
|
|
|
|
|
Noninterest
income/total income (FTE)
|
|
|
30.5 |
% |
|
|
26.6 |
% |
As
displayed in Table 5, noninterest income (excluding securities gains) was $17.3
million in the first quarter, an increase of $3.8 million or 29% from the prior
year level. A significant portion of the growth was attributable to
growth in benefit plan administration, consulting and actuarial fees, primarily
due to the acquisition of HBT in mid May 2007 which generated approximately $1.7
million of revenue growth in the quarter. The remainder of the
increase was due to organic growth generated from new clients along with
enhanced product offerings to both new and existing customers and a strong
quarter from the unit's actuarial consulting practice. First quarter
wealth management services revenue increased $0.3 million or 16%, primarily
attributable to the acquisition of TLNB's Insurance Agency
business. General recurring banking fees of $8.9 million for the
first quarter were up $1.2 million or 15.8%, as compared to the prior year
period, driven by organic core deposit account growth, higher electronic banking
related revenues, and incremental income generated from the acquired TLNB
branches.
The ratio
of noninterest income to total income (FTE basis) was 30.5% for the quarter
versus 26.6% for the comparable period in 2007. This improvement is a
function of increased noninterest banking and financial services income
(excluding net security gains), combined with proportionally smaller increases
in net interest income.
Operating
Expenses
Table 6
below sets forth the quarterly results of the major operating expense categories
for the current and prior year, as well as efficiency ratios (defined below), a
standard measure of expense utilization effectiveness used in the banking
industry.
Table
6: Operating Expenses
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
Salaries
and employee benefits
|
|
$ |
20,386 |
|
|
$ |
18,286 |
|
Occupancy
and equipment
|
|
|
5,573 |
|
|
|
4,666 |
|
Data
processing and communications
|
|
|
3,985 |
|
|
|
3,565 |
|
Amortization
of intangible assets
|
|
|
1,531 |
|
|
|
1,515 |
|
Legal
and professional fees
|
|
|
1,298 |
|
|
|
1,187 |
|
Office
supplies and postage
|
|
|
1,278 |
|
|
|
1,046 |
|
Business
development and marketing
|
|
|
1,322 |
|
|
|
950 |
|
Other
|
|
|
3,001 |
|
|
|
2,704 |
|
Total
operating expenses
|
|
$ |
38,374 |
|
|
$ |
33,919 |
|
|
|
|
|
|
|
|
|
|
Operating
expenses/average assets
|
|
|
3.32 |
% |
|
|
3.08 |
% |
Efficiency
ratio
|
|
|
64.8 |
% |
|
|
63.8 |
% |
As shown
in Table 6, first quarter 2008 operating expenses were $38.4 million, up $4.5
million or 13.1% from the prior year level. The majority of the
increase was attributable to incremental operating expenses related to the TLNB
and HBT acquisitions. Additionally, the increase in operating
expenses can be attributable to annual merit and other personnel related costs
($0.9 million), higher facility-based utility and maintenance costs ($0.7
million), higher volume-based data processing and communication costs ($0.3
million), and an increased level of business development and marketing expense
($0.4 million). A portion of the increase in data processing and
communications costs, as well as the increase in business development and
marketing expenses, reflects the Company's continued investments in strategic
technology and business development initiatives to grow and enhance our service
offerings.
The
Company's efficiency ratio (recurring operating expenses excluding intangible
amortization and acquisition expenses divided by the sum of net interest income
(FTE) and recurring noninterest income) was 64.8% for the first quarter, 1.0
percentage point above the comparable quarter of 2007. This resulted
from operating expenses (as described above) increasing 14% primarily due to the
acquisitions in the last year, while recurring operating income increased at a
slower rate of 12.3% due to a $3.9 million or 29% increase in noninterest income
excluding security gains and a $2.4 million or 6.4% increase in net interest
income quarter over quarter. In both periods, the efficiency ratios
were adversely affected by the growing proportion of financial services
activities which, due to the differing nature of their business, carry high
efficiency ratios. Operating expenses as a percentage of average
assets increased 24 basis points for the quarter as operating expenses increased
13.1%, while average assets increased 3.9% during the same time
period. This ratio was impacted by the comparatively higher growth
rates of the financial services businesses, which are less asset-intensive and
have higher efficiency ratio attributes.
Income
Taxes
The first
quarter effective income tax rate was 22.5%, compared to the 24.1% effective tax
rate in the first quarter of 2007. The lower effective tax rate
for 2008 was principally a result of a higher proportion of income being
generated from tax-exempt securities and loans.
Investments
As
reflected in Table 7 below, the carrying value of investments (including
unrealized gains on available-for-sale securities) was $1.31 billion at the end
of the first quarter, a decrease of $84.2 million and $9.9 million from December
31, 2007 and March 31, 2007, respectively. The book value (excluding
unrealized gains) of investments decreased $88.2 million and $21.9 million from
December 31, 2007 and March 31, 2007, respectively. The short-term
agency securities purchased during the third quarter of 2007 matured during the
fourth quarter of 2007 and the first quarter of 2008. Cash flows from
these securities provided an opportunity to invest in municipal and certain
mortgage-backed securities that improved the Company's interest rate sensitivity
position. The overall mix of securities within the portfolio over the last
year has changed, with an increase in the proportion of obligations of state and
political subdivisions and mortgage-backed securities, the addition of
asset-backed securities and a decrease in U.S. Treasury and Agency
securities. The change in the carrying value of investments is
impacted by the amount of net unrealized gains in the available for sale
portfolio at a point in time. At March 31, 2008, the portfolio had a
$21.2 million net unrealized gain, an increase of $4.0 million from the
unrealized gain at December 31, 2007 and an improvement of $12.0 million from
the unrealized gain at March 31, 2007. This fluctuation is indicative
of the interest rate movements during the respective time periods and the
changes in the size and composition of the portfolio.
Included
in the available for sale portfolio are asset-backed securities with a book
value of $73.0 million and unrealized losses of $4.6 million at March 31,
2008. The underlying collateral of these assets are trust-preferred
securities of community banks. The Company has the intent and ability
to hold these securities to recovery and does not consider these investments to
be other-than temporarily impaired as of March 31, 2008.
Table
7: Investments
|
|
March
31, 2008
|
|
|
December
31, 2007
|
|
|
March
31, 2007
|
|
|
|
Amortized
|
|
|
|
|
|
Amortized
|
|
|
|
|
|
Amortized
|
|
|
|
|
|
|
Cost/Book
|
|
|
Fair
|
|
|
Cost/Book
|
|
|
Fair
|
|
|
Cost/Book
|
|
|
Fair
|
|
(000's
omitted)
|
|
Value
|
|
|
Value
|
|
|
Value
|
|
|
Value
|
|
|
Value
|
|
|
Value
|
|
Held-to-Maturity
Portfolio:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasury and Agency securities
|
|
$ |
127,019 |
|
|
$ |
129,117 |
|
|
$ |
127,055 |
|
|
$ |
127,382 |
|
|
$ |
127,164 |
|
|
$ |
124,538 |
|
Obligations
of state and political subdivisions
|
|
|
5,850 |
|
|
|
5,959 |
|
|
|
6,207 |
|
|
|
6,289 |
|
|
|
7,345 |
|
|
|
7,373 |
|
Other
securities
|
|
|
3,210 |
|
|
|
3,210 |
|
|
|
3,988 |
|
|
|
3,988 |
|
|
|
4,004 |
|
|
|
4,004 |
|
Total
held-to-maturity portfolio
|
|
|
136,079 |
|
|
|
138,286 |
|
|
|
137,250 |
|
|
|
137,659 |
|
|
|
138,513 |
|
|
|
135,915 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Available-for-Sale
Portfolio:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasury and Agency securities
|
|
|
251,006 |
|
|
|
260,473 |
|
|
|
432,832 |
|
|
|
438,526 |
|
|
|
484,354 |
|
|
|
483,805 |
|
Obligations
of state and political subdivisions
|
|
|
534,985 |
|
|
|
547,991 |
|
|
|
532,431 |
|
|
|
543,963 |
|
|
|
491,172 |
|
|
|
502,447 |
|
Corporate
securities
|
|
|
37,259 |
|
|
|
37,626 |
|
|
|
40,457 |
|
|
|
40,270 |
|
|
|
35,568 |
|
|
|
35,209 |
|
Collateralized
mortgage obligations
|
|
|
32,340 |
|
|
|
32,722 |
|
|
|
34,451 |
|
|
|
34,512 |
|
|
|
41,005 |
|
|
|
40,592 |
|
Asset-backed
securities
|
|
|
73,038 |
|
|
|
68,454 |
|
|
|
73,089 |
|
|
|
72,300 |
|
|
|
0 |
|
|
|
0 |
|
Mortgage-backed
securities
|
|
|
171,882 |
|
|
|
174,418 |
|
|
|
72,655 |
|
|
|
73,525 |
|
|
|
74,067 |
|
|
|
73,308 |
|
Subtotal
|
|
|
1,100,510 |
|
|
|
1,121,684 |
|
|
|
1,185,915 |
|
|
|
1,203,096 |
|
|
|
1,126,166 |
|
|
|
1,135,361 |
|
Equity
securities
|
|
|
49,919 |
|
|
|
49,919 |
|
|
|
51,526 |
|
|
|
51,526 |
|
|
|
43,680 |
|
|
|
43,680 |
|
Total
available-for-sale portfolio
|
|
|
1,150,429 |
|
|
|
1,171,603 |
|
|
|
1,237,441 |
|
|
|
1,254,622 |
|
|
|
1,169,846 |
|
|
|
1,179,041 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
unrealized gain on available-for-sale portfolio
|
|
|
21,174 |
|
|
|
0 |
|
|
|
17,181 |
|
|
|
0 |
|
|
|
9,195 |
|
|
|
0 |
|
Total
|
|
$ |
1,307,682 |
|
|
$ |
1,309,889 |
|
|
$ |
1,391,872 |
|
|
$ |
1,392,281 |
|
|
$ |
1,317,554 |
|
|
$ |
1,314,956 |
|
Loans
As shown
in Table 8, loans ended the first quarter at $2.84 billion, up $16.7 million
(0.6%) from year-end 2007 and up $155.6 million (5.8%) versus one year
earlier. The TLNB acquisition added approximately $56 million of
loans to the loan portfolio as of March 31, 2008. Excluding the
impact of the TLNB acquisition, loans increased $99.6 million or 3.7% from the
first quarter of 2007 with organic growth in all portfolios; consumer mortgage,
consumer installment and business lending. During the first quarter
loan growth was driven by increases in the business lending portfolio ($13.7
million) and the consumer mortgage portfolio ($10.2 million), partially offset
by a decrease in the consumer installment portfolio ($7.2
million).
Table
8: Loans
(000's omitted)
|
|
March 31, 2008
|
|
|
December 31, 2007
|
|
|
March 31, 2007
|
|
Business
lending
|
|
$ |
998,443 |
|
|
|
35.2 |
% |
|
$ |
984,780 |
|
|
|
34.9 |
% |
|
$ |
957,853 |
|
|
|
35.7 |
% |
Consumer
mortgage
|
|
|
987,807 |
|
|
|
34.8 |
% |
|
|
977,553 |
|
|
|
34.7 |
% |
|
|
914,909 |
|
|
|
34.1 |
% |
Consumer
installment
|
|
|
851,536 |
|
|
|
30.0 |
% |
|
|
858,722 |
|
|
|
30.4 |
% |
|
|
809,472 |
|
|
|
30.2 |
% |
Total
loans
|
|
$ |
2,837,786 |
|
|
|
100.0 |
% |
|
$ |
2,821,055 |
|
|
|
100.0 |
% |
|
$ |
2,682,234 |
|
|
|
100.0 |
% |
Business
lending increased $13.7 million in the first three months of 2008 and increased
$40.6 million versus one year ago. Excluding the impact of the TLNB
acquisition, business lending increased $11.9 million over the last three months
and $9.9 million over the last year. The Company continues to face
competitive conditions in most of its markets and it maintains its commitment to
generating growth in its business portfolio in a manner that adheres to its twin
goals of maintaining strong asset quality and producing profitable
margins. The Company has recently invested in additional personnel,
technology and business development resources to further strengthen its
capabilities in this key business segment.
Consumer
mortgages increased $72.9 million, year-over-year, and $10.3 million in the
first three months of 2008, despite the sale of a portion of longer-term,
fixed-rate new mortgage originations in the secondary
market. Excluding the impact of the TLNB acquisition, consumer
mortgages increased $9.9 million and $52.0 million for the past three and twelve
month periods, respectively. Consumer mortgage growth has been strong
over the last few quarters despite softening demand in the overall
market. The consumer real estate portfolio does not include exposure
to subprime, Alt-A, or other higher-risk mortgage products. The
Company's solid performance during a tumultuous period in the overall industry
is a testament to the stable, low-risk profile of its portfolio and its ability
to successfully meet customer needs at a time when some national mortgage
lenders are restricting their lending activities in many of our
markets.
Consumer
installment loans, including borrowings originated in automobile, marine and
recreational vehicle dealerships, as well as branch originated home equity and
installment loans, decreased $7.2 million in the first three months of 2008 and
increased $42.1 million on a year-over-year basis. Excluding the
impact of the TLNB acquisition, consumer installment lending decreased $7.1
million for the first three months of 2008 and increased $37.7 million for the
year-over-year period. Declines in manufacturer production and
industry sale projections indicate continued weakness in the new vehicle market
which has created a demand in late model used and program car
inventories. Aggressive business development efforts have created
opportunities to strategically expand the Company's share of the market, helping
drive productive growth in this portfolio. The origination of
consumer installment loans demonstrates definite seasonal patterns and is
traditionally slower in the first quarter.
Asset
Quality
Table 9
below exhibits the major components of nonperforming loans and assets and key
asset quality metrics for the periods ending March 31, 2008 and 2007 and
December 31, 2007.
Table
9: Nonperforming Assets
|
|
March
31,
|
|
|
December
31,
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
|
2007
|
|
Nonaccrual
loans
|
|
$ |
7,662 |
|
|
$ |
7,140 |
|
|
$ |
9,451 |
|
Accruing
loans 90+ days delinquent
|
|
|
392 |
|
|
|
622 |
|
|
|
1,914 |
|
Restructured
loans
|
|
|
1,095 |
|
|
|
1,126 |
|
|
|
1,246 |
|
Total
nonperforming loans
|
|
|
9,149 |
|
|
|
8,888 |
|
|
|
12,611 |
|
Other
real estate (OREO)
|
|
|
1,027 |
|
|
|
1,007 |
|
|
|
1,916 |
|
Total
nonperforming assets
|
|
$ |
10,176 |
|
|
$ |
9,895 |
|
|
$ |
14,527 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for loan losses to total loans
|
|
|
1.28 |
% |
|
|
1.29 |
% |
|
|
1.34 |
% |
Allowance
for loan losses to nonperforming loans
|
|
|
398 |
% |
|
|
410 |
% |
|
|
285 |
% |
Nonperforming
loans to total loans
|
|
|
0.32 |
% |
|
|
0.32 |
% |
|
|
0.47 |
% |
Nonperforming
assets to total loans and other real estate
|
|
|
0.36 |
% |
|
|
0.35 |
% |
|
|
0.54 |
% |
Delinquent
loans (30 days old to nonaccruing) to total loans
|
|
|
0.99 |
% |
|
|
1.10 |
% |
|
|
1.02 |
% |
Net
charge-offs to average loans outstanding (quarterly)
|
|
|
0.11 |
% |
|
|
0.13 |
% |
|
|
0.09 |
% |
Loan
loss provision to net charge-offs (quarterly)
|
|
|
100 |
% |
|
|
98 |
% |
|
|
32 |
% |
As
displayed in Table 9, nonperforming assets at March 31, 2008 were $10.2 million,
a decrease of $4.4 million versus one year earlier and a $0.3 million increase
as compared to the level at the end of 2007. Nonperforming loan
ratios remain at the lowest level in over three years, reflective of disciplined
credit management and a relatively stable economic condition in our markets over
the past few years. Other real estate decreased $0.9 million from
one-year ago and increased slightly from year-end 2007, a result of the Company
managing 12 OREO properties at March 31, 2008 as compared to 22 OREO properties
at March 31, 2007. No single property has a carrying value in excess
of $300,000.
Nonperforming
loans were 0.32% of total loans outstanding at the end of the first quarter,
consistent with the level at December 31, 2007 and significantly below the 0.47%
at March 31, 2007. The allowance for loan losses to nonperforming
loans ratio, a general measure of coverage adequacy, was 398% at the end of the
first quarter compared to 410% at year-end 2007 and 285% at March 31, 2007,
reflective of the low level of nonperforming loans.
Delinquent
loans (30 days through nonaccruing) as a percent of total loans was 0.99% at the
end of the first quarter, substantially below the 1.10% at year-end 2007 and
lower than the 1.02% at March 31, 2007. The commercial loan
delinquency ratio at the end of the first quarter increased slightly in
comparison to December 31, 2007 and declined as compared to March 31,
2007. The delinquency rate for installment loans and real estate
loans decreased as compared to the December 31, 2007 and increased as compared
to March 31, 2007. The delinquency level at the end of the current
quarter was 15 basis points below the Company's average of 1.14% over the
previous eight quarters.
Table
10: Allowance for Loan Losses Activity
|
|
Three
Months Ended
|
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
Allowance
for loan losses at beginning of period
|
|
$ |
36,427 |
|
|
$ |
36,313 |
|
Charge-offs:
|
|
|
|
|
|
|
|
|
Business
lending
|
|
|
277 |
|
|
|
240 |
|
Consumer
mortgage
|
|
|
52 |
|
|
|
235 |
|
Consumer
installment
|
|
|
1,348 |
|
|
|
1,161 |
|
Total
charge-offs
|
|
|
1,677 |
|
|
|
1,636 |
|
Recoveries:
|
|
|
|
|
|
|
|
|
Business
lending
|
|
|
173 |
|
|
|
257 |
|
Consumer
mortgage
|
|
|
46 |
|
|
|
1 |
|
Consumer
installment
|
|
|
679 |
|
|
|
756 |
|
Total
recoveries
|
|
|
898 |
|
|
|
1,014 |
|
|
|
|
|
|
|
|
|
|
Net
charge-offs
|
|
|
779 |
|
|
|
622 |
|
Provision
for loans losses
|
|
|
780 |
|
|
|
200 |
|
Allowance
for loan losses at end of period
|
|
$ |
36,428 |
|
|
$ |
35,891 |
|
|
|
|
|
|
|
|
|
|
Net
charge-offs to average loans outstanding:
|
|
|
|
|
|
|
|
|
Business
lending
|
|
|
0.04 |
% |
|
|
-0.01 |
% |
Consumer
mortgage
|
|
|
0.00 |
% |
|
|
0.10 |
% |
Consumer
installment
|
|
|
0.31 |
% |
|
|
0.20 |
% |
Total
loans
|
|
|
0.11 |
% |
|
|
0.09 |
% |
As
displayed in Table 10, net charge-offs during the first quarter were $0.8
million, $0.2 million higher than the equivalent 2007 period. The
consumer installment and business lending portfolios experienced small increases
in the level of charge-offs, while the consumer mortgage portfolio charge-offs
declined as compared to the first quarter of 2007. The net charge-off
ratio (net charge-offs as a percentage of average loans outstanding) for the
first quarter was 0.11%, two basis points higher than the comparable quarter of
2007 and six basis points below the average charge-off ratio for the previous
eight quarters. Net charge-offs and the corresponding net charge-off
ratios continue to be significantly below the average net charge-off levels of
the past several years.
The
consumer mortgage portfolio experienced a net charge-off ratio of zero for the
quarter, while the consumer installment and business lending net charge-off
ratios for the first quarter of 0.31% and 0.04%, respectively, increased 11
basis points and five basis points versus prior year levels. As
compared to the fourth quarter of 2007, the business lending portfolio and
consumer mortgage portfolio charge-off ratios improved five basis points and two
basis points, respectively, while the consumer installment charge-off ratio was
higher by two basis points, but was at a level below the average for the
previous eight quarters.
A loan
loss allowance of $36.4 million was determined as of March 31, 2008,
necessitating a $0.8 million loan loss provision for the quarter, compared to
$0.2 million one year earlier. The first quarter 2008 loan loss
provision was consistent with the level of net charge-offs, despite an increase
in the total loan portfolio. The allowance for loan losses rose $0.5
million or 1.5% over the last 12 months, less than the 5.8% growth in the loan
portfolio. Contributing to the changes was the favorable charge-off,
nonperforming and delinquency trends experienced over the last twelve
months. This contributed to the ratio of allowance for loan loss to
loans outstanding decreasing six basis points to 1.28% for the first quarter, as
compared to the levels at March 31, 2007 and declining one basis point from the
level at December 31, 2007. The decrease was also slightly impacted
by the increased proportion of low-risk consumer mortgage and home equity loans
in the overall loan portfolio, as a result of both organic and acquired
growth.
Deposits
As shown
in Table 11, average deposits of $3.2 billion in the first quarter were up $41.0
million compared to first quarter 2007 and decreased $26.6 million versus the
fourth quarter of last year. Excluding the impact of the TLNB
acquisition, average deposits decreased $23.0 million as compared to the fourth
quarter of 2007 and decreased $29.0 million as compared to the first quarter of
the prior year. The mix of average deposits changed slightly since
the first quarter of 2007. The weightings of interest checking
deposits increased from their year-ago levels, while time deposits, demand,
savings and money market deposit weightings decreased. As a component
of the Company's strategy to reduce its overall cost of funding, time deposits
balances have been actively managed lower. Interest checking account
balances are above the prior year levels primarily as a result of the continued
success of new product initiatives that commenced in the second quarter of
2006. This shift in mix, combined with the Company's ability to
reduce rates due to market conditions, resulted in the quarterly cost of
interest-bearing deposits declining from 2.80% in the first quarter of 2007 to
2.68% in the most recent quarter.
Average
first quarter non-public fund deposits were up $46.0 million or 1.6% compared to
the year earlier period and decreased $50.8 million or 1.7% versus the fourth
quarter of 2007. Average public funds have increased $24.2 million or
12.3% from the fourth quarter of 2007 and decreased $5.0 million or
2.2% from the first quarter of 2007. The Company continues to
focus heavily on growing its core deposits through enhanced marketing and
training programs and new product offerings introduced during the past two
years.
Table
11: Quarterly Average Deposits
|
|
March
31,
|
|
|
December
31,
|
|
|
March
31,
|
|
(000's
omitted)
|
|
2008
|
|
|
2007
|
|
|
2007
|
|
Demand
deposits
|
|
$ |
555,927 |
|
|
$ |
574,266 |
|
|
$ |
552,087 |
|
Interest
checking deposits
|
|
|
473,805 |
|
|
|
464,996 |
|
|
|
408,573 |
|
Savings
deposits
|
|
|
452,929 |
|
|
|
451,148 |
|
|
|
457,177 |
|
Money
market deposits
|
|
|
334,200 |
|
|
|
329,566 |
|
|
|
332,433 |
|
Time
deposits
|
|
|
1,398,650 |
|
|
|
1,422,159 |
|
|
|
1,424,289 |
|
Total
deposits
|
|
$ |
3,215,511 |
|
|
$ |
3,242,135 |
|
|
$ |
3,174,559 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-public
fund deposits
|
|
$ |
2,995,201 |
|
|
$ |
3,046,018 |
|
|
$ |
2,949,201 |
|
Public
fund deposits
|
|
|
220,310 |
|
|
|
196,117 |
|
|
|
225,358 |
|
Total
deposits
|
|
$ |
3,215,511 |
|
|
$ |
3,242,135 |
|
|
$ |
3,174,559 |
|
Borrowings
At the
end of the first quarter, borrowings of $868.1 million decreased $61.2 million
from December 31, 2007 and were up $114.2 million versus the end of the first
quarter of 2007 as a result of the acquisitions of HBT and TLNB, which were both
100% cash transactions, partially offset by the early redemption of $25 million
of its variable rate, trust-preferred securities in January
2008. In December 2007, the Company restructured $150 million
of its fixed rate FHLB advances, replacing them with lower cost instruments with
similar remaining duration. These restructuring strategies helped
reduce the Company's interest expense on external borrowings and consequently
improved its net interest margin in the first quarter of 2008.
Shareholders'
Equity
On April
20, 2005, the Company announced a twenty-month authorization to repurchase up to
1.5 million of its outstanding shares in open market or privately negotiated
transactions. On December 20, 2006, the Company extended the program
through December 31, 2008 and announced an additional two-year authorization to
repurchase up to 900,000 of its outstanding shares in open market or privately
negotiated transactions. All reacquired shares will become treasury
shares and will be used for general corporate purposes, including those related
to employee and director stock plan activities. Through March 31,
2008, the Company had repurchased 1,464,811 shares at an aggregate cost of $31.5
million under this program.
Total
shareholders' equity of $488.7 million at the end of the first quarter increased
$9.9 million from the balance at December 31, 2007. This change
consisted of net income of $10.9 million, $3.9 million from shares issued under
the employee stock plan, $0.7 million from employee stock options
earned, and a $0.7 million increase in other comprehensive income, partially
offset by dividends declared of $6.3 million. The other comprehensive
gain is comprised of $2.5 million increase in the after-tax market value
adjustment on the available for sale investment portfolio, partially offset by a
$1.7 million decrease in the after-tax market value adjustment on the interest
rate swap and a $0.1 million adjustment to the funded status of the Company's
retirement plans. Over the past 12 months total shareholders' equity increased
by $21.8 million, as net income, positive contributions from shares issued under
the employee stock plan, and a higher market value adjustment more than offset
dividends declared, treasury stock purchases, and the funded status of the
company's defined
benefit pension and other postretirement plans.
The
Company's Tier I leverage ratio, a primary measure of regulatory capital for
which 5% is the requirement to be "well-capitalized," was 7.59% at the end of
the first quarter, down 18 basis points from year-end 2007 and 70 basis points
lower than its level one year ago. The decrease in the Tier I
leverage ratio compared to December 31, 2007 is primarily the result of the
early call of $25 million of variable-rate trust preferred securities in the
first quarter. The decrease in Tier I, as compared to the prior year
first quarter, is the result of a 5.3% decrease in shareholders equity,
excluding intangibles and the market value adjustment, combined with a 3.5%
increase in average assets excluding intangibles and the market value
adjustment. The primary drivers of the year-over-year changes were
treasury share purchases, the redemption of trust-preferred securities and two
acquisitions that increased both asset and intangible levels. The
tangible equity-to-assets ratio of 5.30% increased 29 basis points versus
December 31, 2007 and increased 15 basis points versus March 31, 2007, due to
shareholders equity excluding intangible assets growing at a faster pace than
assets excluding intangibles.
The
dividend payout ratio (dividends declared divided by net income) for the first
three months of 2008 was 57.4%, down from 62.4% for the first three months of
2007. The ratio decreased because net income increased 12.9% while
dividends declared increased at a lesser 3.7%. The Company's
quarterly dividend was raised 5.0% in August 2007, from $0.20 to $0.21, but
shares outstanding declined by 1.0% resulting in dividends declared growth
trailing the dividend per share increase. On a cash earnings basis,
the dividend payout ratio was 51.1% for the first three months of 2008 as
compared to 54.9% for the first three months of 2007.
Liquidity
Management
of the Company's liquidity is critical due to the potential for unexpected
fluctuations in deposits and loans. Adequate sources of both on and
off-balance sheet funding are in place to effectively respond to such unexpected
fluctuations.
The
Company's primary approach to measuring liquidity is known as the Basic
Surplus/Deficit model. It is used to calculate liquidity over two
time periods: first, the amount of cash that could be made available within 30
days (calculated as liquid assets less short-term liabilities); and second, a
projection of subsequent cash availability over an additional 60
days. The minimum policy level of liquidity under the Basic
Surplus/Deficit approach is 7.5% of total assets for both the 30 and 90-day time
horizons. As of March 31, 2008, this ratio was 12.2% for 30 days and
12.0% for 90 days, excluding the Company's capacity to borrow additional funds
from the FHLB.
To
measure longer-term liquidity, a baseline projection of loan and deposit growth
for five years is made to reflect how current liquidity levels could change over
time. This five-year measure reflects adequate liquidity to fund loan and other
asset growth over the next five years.
Forward-Looking
Statements
This
document contains comments or information that constitute forward-looking
statements (within the meaning of the Private Securities Litigation Reform Act
of 1995), which involve significant risks and uncertainties. Actual
results may differ materially from the results discussed in the forward-looking
statements. Moreover, the Company's plans, objectives and intentions
are subject to change based on various factors (some of which are beyond the
Company's control). Factors that could cause actual results to differ
from those discussed in the forward-looking statements include: (1)
risks related to credit quality, interest rate sensitivity and
liquidity; (2) the strength of the U.S. economy in general and the
strength of the local economies where the Company conducts its
business; (3) the effect of, and changes in, monetary and fiscal
policies and laws, including interest rate policies of the Board of Governors of
the Federal Reserve System; (4) inflation, interest rate, market and
monetary fluctuations; (5) the timely development of new products and
services and customer perception of the overall value thereof (including
features, pricing and quality) compared to competing products and
services; (6) changes in consumer spending, borrowing and savings
habits; (7) technological changes; (8) any acquisitions or
mergers that might be considered or consummated by the Company and the costs and
factors associated therewith; (9) the ability to maintain and
increase market share and control expenses; (10) the effect of
changes in laws and regulations (including laws and regulations concerning
taxes, banking, securities and insurance) and accounting principles generally
accepted in the United States; (11) changes in the Company's
organization, compensation and benefit plans and in the availability of, and
compensation levels for, employees in its geographic markets; (12)
the costs and effects of litigation and of any adverse outcome in such
litigation; (13) other risk factors outlined in the Company's filings with the
Securities and Exchange Commission from time to time; and (14) the success of
the Company at managing the risks of the foregoing.
The
foregoing list of important factors is not all-inclusive. Such
forward-looking statements speak only as of the date on which they are made and
the Company does not undertake any obligation to update any forward-looking
statement, whether written or oral, to reflect events or circumstances after the
date on which such statement is made. If the Company does update or
correct one or more forward-looking statements, investors and others should not
conclude that the Company would make additional updates or corrections with
respect thereto or with respect to other forward-looking
statements.
|
Quantitative
and Qualitative Disclosures about Market
Risk
|
Market
risk is the risk of loss in a financial instrument arising from adverse changes
in market rates, prices or credit risk. Credit risk associated with
the Company's loan portfolio has been previously discussed in the asset quality
section of Management's Discussion and Analysis of Financial Condition and
Results of Operations. Management believes that the tax risk of the
Company's municipal investments associated with potential future changes in
statutory, judicial and regulatory actions is minimal. The Company
has an insignificant amount of credit risk in its investment portfolio because
essentially all of the fixed-income securities in the portfolio are AAA-rated
(highest possible rating). Therefore, almost all the market risk in
the investment portfolio is related to interest rates.
The
ongoing monitoring and management of both interest rate risk and liquidity, in
the short and long term time horizons is an important component of the Company's
asset/liability management process, which is governed by limits established in
the policies reviewed and approved annually by the Board of
Directors. The Board of Directors delegates responsibility for
carrying out the policies to the Asset/Liability Committee (ALCO) which meets
each month and is made up of the Company's senior management as well as regional
and line-of-business managers who oversee specific earning asset classes and
various funding sources. As the Company does not believe it is
possible to reliably predict future interest rate movements, it has maintained
an appropriate process and set of measurement tools, which enable it to identify
and quantify sources of interest rate risk in varying rate
environments. The primary tool used by the Company in managing
interest rate risk is income simulation.
While a
wide variety of strategic balance sheet and treasury yield curve scenarios are
tested on an ongoing basis, the following reflects the Company's projected net
interest income sensitivity over the subsequent twelve months based
on:
·
|
Asset
and liability levels using March 31, 2008 as a starting
point.
|
·
|
There
are assumed to be conservative levels of balance sheet growth—low to mid
single digit growth in loans and deposits, while using the cashflows from
investment contractual maturities and prepayments to repay short-term
capital market borrowings.
|
·
|
The
prime rate and federal funds rates are assumed to move up 200 basis points
and down 100 basis points over a 12-month period while moving the long end
of the treasury curve to spreads over federal funds that are more
consistent with historical norms. Deposit rates are assumed to
move in a manner that reflects the historical relationship between deposit
rate movement and changes in the federal funds
rate.
|
·
|
Cash flows are based on
contractual maturity, optionality and amortization schedules along with
applicable prepayments derived from internal historical data and external
sources.
|
Net
Interest Income Sensitivity Model
Change
in interest rates
|
Calculated
annualized increase (decrease) in projected net interest income at March
31, 2008
|
+
200 basis points
|
0.4%
|
-
100 basis points
|
(2.6%)
|
The
modeled net interest income (NII) reflects an increase in a rising rate
environment from a flat rate scenario and a decrease if rates were to
fall. The increase in a rising rate environment is largely due to
slower investment cash flows, the repricing of assets and liabilities to higher
rates. The decrease in a falling rate environment is largely due to faster
investment cash flows and assets repricing to lower rates than corresponding
liabilities. Over a longer time period the growth in NII improves
significantly in a rising rate environment as lower yielding assets mature and
are replaced at higher rates.
The
analysis does not represent a Company forecast and should not be relied upon as
being indicative of expected operating results. These hypothetical
estimates are based upon numerous assumptions: the nature and timing of interest
rate levels (including yield curve shape), prepayments on loans and securities,
deposit decay rates, pricing decisions on loans and deposits,
reinvestment/replacement of asset and liability cash flows, and other
factors. While the assumptions are developed based upon current
economic and local market conditions, the Company cannot make any assurances as
to the predictive nature of these assumptions, including how customer
preferences or competitor influences might change. Furthermore, the
sensitivity analysis does not reflect actions that ALCO might take in responding
to or anticipating changes in interest rates.
The
Company maintains disclosure controls and procedures, as defined in Rule 13a –
15(e) under the Securities Exchange Act of 1934, designed to: (i) record,
process, summarize, and report within the time periods specified in the
Securities and Exchange Commission's (SEC) rules and forms, and (ii) accumulate
and communicate to management, including the principal executive and principal
financial officers, as appropriate, to allow timely decisions regarding
disclosure. Based on management's evaluation of the Company's
disclosure controls and procedures, with the participation of the Chief
Executive Officer and the Chief Financial Officer, it has concluded that, as of
the end of the period covered by this Quarterly Report on Form 10-Q, these
disclosure controls and procedures were effective as of March 31,
2008.
There
have been no changes in the Company's internal controls over financial reporting
in connection with the evaluation referenced in the paragraph above that
occurred during the Company's last fiscal quarter that has materially affected,
or is reasonably likely to materially affect, the Company's internal control
over financial reporting.
Part
II.
|
Other
Information
|
The
Company and its subsidiaries are subject in the normal course of business to
various pending and threatened legal proceedings in which claims for monetary
damages are asserted. Management, after consultation with legal
counsel, does not anticipate that the aggregate liability, if any, arising out
of litigation pending against the Company or its subsidiaries will have a
material effect on the Company's consolidated financial position or results of
operations.
There has
not been any material change in the risk factors disclosure from that contained
in the Company's 2007 Form 10-K for the fiscal year ended December 31, 2007
(filed with the SEC on March 13, 2008).
|
Unregistered
Sales of Equity Securities and Use of
Proceeds
|
On April
20, 2005, the Company announced a twenty-month authorization to repurchase up to
1,500,000 of its outstanding shares in open market or privately negotiated
transactions. On December 20, 2006, the Company extended the program
through December 31, 2008 and announced an additional two-year authorization to
repurchase up to 900,000 of its shares in open market or privately negotiated
transactions. These repurchases will be for general corporate
purposes, including those related to stock plan activities. The
following table shows treasury stock purchases during the first quarter of
2008.
|
|
Number
of Shares Purchased
|
|
|
Average
Price Paid Per share
|
|
|
Total
Number of Shares Purchased as Part of Publicly Announced Plans or
Programs
|
|
|
Maximum
Number of Shares That May Yet Be Purchased Under the Plans or
Programs
|
|
January
2008
|
|
|
0 |
|
|
$ |
0 |
|
|
|
1,464,811 |
|
|
|
935,189 |
|
February
2008
|
|
|
0 |
|
|
|
0 |
|
|
|
1,464,811 |
|
|
|
935,189 |
|
March
2008
|
|
|
0 |
|
|
|
0 |
|
|
|
1,464,811 |
|
|
|
935,189 |
|
Total
|
|
|
0 |
|
|
$ |
0 |
|
|
|
|
|
|
|
|
|
|
Defaults
Upon Senior Securities
|
Not
applicable.
|
Submission
of Matters to a Vote of Security
Holders
|
There
were no matters submitted to a vote of the shareholders during the quarter
ending March 31, 2008.
Not
applicable.
Exhibit
No.
|
Description
|
|
|
|
Employment
Agreement dated January 1, 2008, by and among Community Bank System, Inc.,
Community Bank, N.A. and George J. Getman.
|
|
|
10.2
|
Employment
Agreement dated April 4, 2008, by and among Community Bank System, Inc.,
Community Bank, N.A. and Scott Kingsley. Incorporated by
reference to Exhibit 10.1 to the Form 8-K filed on April 9, 2008
(Registration No. 001-13695).
|
|
|
|
Certification
of Mark E. Tryniski, President and Chief Executive Officer of the
Registrant, pursuant to Rule 13a-15(e) or Rule 15d-15(e) under the
Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
|
|
Certification
of Scott Kingsley, Treasurer and Chief Financial Officer of the
Registrant, pursuant to Rule 13a-15(e) or Rule 15d-15(e) under the
Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
|
|
Certification
of Mark E. Tryniski, President and Chief Executive Officer of the
Registrant, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
|
|
|
|
Certification
of Scott Kingsley, Treasurer and Chief Financial Officer of the
Registrant, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of
2002
|
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.
Community
Bank System, Inc.
Date:
May 8, 2008
|
/s/ Mark E.
Tryniski
|
|
Mark
E. Tryniski, President and Chief
|
|
Executive
Officer
|
|
|
Date:
May 8, 2008
|
/s/ Scott
Kingsley
|
|
Scott
Kingsley, Treasurer and Chief
|
|
Financial
Officer
|