<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[x] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended September 30, 2000
------------------
[_] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from ___________________ to ___________________
Commission file number 0-21285
-------
ATLANTIC FINANCIAL CORP
(Exact Name of Registrant as Specified in its Charter)
VIRGINIA 54-1809409
--------------------------------- ------------------------------------
(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation or Organization)
737 J. Clyde Morris Boulevard
Newport News, Virginia 23601
--------------------------------------------
(Address of Principal Executive Offices)
(757) 595-7020
--------------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
________________________________________________________________________________
(Former Name, Former Address and Former Fiscal Year, If Changed Since Last
Report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Exchange Act during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes X . No ___.
---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of September 30, 2000.
Common stock, $5 par value--4,178,785
-------------------------------------
<PAGE>
INDEX
<TABLE>
<CAPTION>
ATLANTIC FINANCIAL CORP Page No.
<S> <C>
Part I. Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets--
September 30, 2000 and December 31, 1999 3
Consolidated Statements of Income--
Nine months ended September 30, 2000 and 1999 4
Three months ended September 30, 2000 and 1999
Consolidated Statements of Stockholders' Equity--
Nine months ended September 30, 2000 and 1999 5 - 6
Consolidated Statements of Cash Flows--
Nine months ended September 30, 2000 and 1999 7
Notes to Consolidated Financial Statements 8 - 11
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 12 - 16
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 16 - 17
Part II. Other Information: 18
Item 1. Legal Proceedings
Item 2. Changes in Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
Signatures
</TABLE>
2
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
ATLANTIC FINANCIAL CORP
CONSOLIDATED BALANCE SHEETS
(In Thousands of Dollars)
<TABLE>
<CAPTION>
(Unaudited)
Sept 30, December 31,
2000 1999
---------- ------------
<S> <C> <C>
ASSETS:
Cash and due from banks $ 13 274 $ 17 486
Interest-bearing deposits in other banks 1 837 1 653
Securities available for sale 99 779 89 729
Securities held to maturity (fair value of
$9,176 and $9,786, respectively) 9 309 9 987
Federal funds sold 16 889 22 577
Loans, net 231 609 223 513
Premises and equipment 9 844 10 481
Other real estate owned 169 550
Accrued interest receivable 3 593 3 004
Intangibles, net 951 1 023
Other assets 3 142 3 306
-------- --------
TOTAL ASSETS $390 396 $383 309
======== ========
LIABILITIES:
Deposits
Non-interest bearing $ 52 570 $ 52 026
Interest-bearing 287 912 283 020
-------- --------
TOTAL DEPOSITS 340 482 335 046
Short-term borrowings 1 678 2 976
Accrued interest payable 1 559 1 195
Other liabilities 1 516 1 054
-------- --------
TOTAL LIABILITIES 345 235 340 271
-------- --------
STOCKHOLDERS' EQUITY:
Preferred stock; $1 par value per share;
authorized 1,000,000 shares; no shares
issued and outstanding $ -- $ --
Common stock; $5 par value per share;
authorized 20,000,000 shares; issued and
outstanding 4,178,785 and 4,191,185
shares, respectively 20 894 20 956
Stock options -- 3
Retained earnings 25 163 23 438
Accumulated other comprehensive
income, net (896) (1 359)
-------- --------
TOTAL STOCKHOLDERS' EQUITY 45 161 43 038
-------- --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $390 396 $383 309
======== ========
</TABLE>
Notes to financial statements are an integral part of these statements.
3
<PAGE>
ATLANTIC FINANCIAL CORP
CONSOLIDATED STATEMENTS OF INCOME
(In Thousands of Dollars)
(Unaudited)
<TABLE>
<CAPTION>
Three Months ended Nine Months Ended
Sept 30, Sept 30,
2000 1999 2000 1999
------ ------ ------- -------
<S> <C> <C> <C> <C>
INTEREST INCOME:
Loans and Fees $5 804 $5 375 $16 750 $15 680
Federal Funds Sold 301 191 843 781
Interest on Deposits at Other Banks 31 21 72 47
Investment Securities 1 744 1 550 5 158 4 378
------ ------ ------- -------
Total Interest Income 7 880 7 137 22 823 20 886
INTEREST EXPENSE:
Interest on deposits 3 512 3 043 9 872 9 020
Interest on federal funds purchased
and other borrowings 23 29 69 71
------ ------ ------- -------
Total Interest Expense 3 535 3 072 9 941 9 091
------ ------ ------- -------
Net Interest Income 4 345 4 065 12 882 11 795
PROVISION FOR LOAN
AND LEASE LOSSES 310 136 510 345
------ ------ ------- -------
Net Interest Income After
Provision for Loan
and Lease Losses 4 035 3 929 12 372 11 450
OTHER INCOME:
Service Charges & Fees 477 464 1 408 1 310
Securities Gains (Losses) 9 - 14 1
Other income 149 141 381 375
------ ------ ------- -------
Total Other Income 635 605 1 803 1 686
OTHER EXPENSES:
Salaries & Employee Benefits 1 739 1 737 5 181 4 873
Occupancy Expenses 249 245 742 714
Furniture & Equipment Expenses 443 413 1 367 1 243
Other Operating Expenses 686 775 2 004 2 292
------ ------ ------- -------
Total Other Expenses 3 117 3 170 9 294 9 122
------ ------ ------- -------
Income Before Income Taxes 1 553 1 364 4 881 4 014
Applicable Income Taxes 420 337 1 334 1 028
------ ------ ------- -------
Net Income $1 133 $1 027 $ 3 547 $ 2 986
====== ====== ======= =======
Earnings Per Share, Basic .27 .25 .85 .71
====== ====== ======= =======
Earnings Per Share, Assuming
Dilution .27 .24 .84 .70
====== ====== ======= =======
</TABLE>
Notes to financial statements are an integral part of these statements.ATLANTIC
4
<PAGE>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the nine months ended September 30, 2000
(In Thousands of Dollars)
(Unaudited)
<TABLE>
<CAPTION>
Accumulated
Other
Common Stock Retained Comprehensive Comprehensive
Stock Options Surplus Earnings Income Income Total
------- ------- ------- -------- ------------- ------------- -----
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, January 1, 2000 $20 956 $ 3 - - $23 438 ($1 359) $43 038
Comprehensive Income:
Net Income - - - - - - 3 547 - - $ 3 547 3 547
Other comprehensive income:
Unrealized holding gains (losses) on
securities available for sale arising
during the period, net of tax of $243 472 - -
Less: reclassification adjustment, net of tax
of $5 (9) (9) (9)
-------
Other comprehensive income, net of tax - - - - - - - - 472 463 463
-------
Total comprehensive income - - - - - - - - $ 4 010 - -
=======
Exercise of stock options 172 (3) - - - - - - 169
Purchase of common stock (234) - - - - (359) - - (593)
Cash dividends - - - - - - (1 463) - - (1 463)
------- ------- ------- ------- ------------- -------
Balance, September 30, 2000 $20 894 $ - - $ - - $25 163 ($ 896) $45 161
======= ======= ======= ======= ============= =======
</TABLE>
Notes to financial statements are an integral part of these statements.
5
<PAGE>
ATLANTIC FINANCIAL CORP
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the nine months ended September 30, 1999
(In Thousands of Dollars)
(Unaudited)
<TABLE>
<CAPTION>
Accumulated
Other
Common Stock Retained Comprehensive Comprehensive
Stock Options Surplus Earnings Income Income Total
-------- -------- ------- --------- -------------- -------------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1999 $20 845 $ 6 - - $21 048 $ 1 230 $43 129
Comprehensive Income:
Net Income - - - - - - 2 986 - - $ 2 986 2 986
Other comprehensive income:
Unrealized holding gains (losses) on
securities available for sale arising
during the period, net of tax of $390 (1 986) - -
-------
Other comprehensive income, net of tax - - - - - - - - (1 986) (1 986) (1 986)
-------
Total comprehensive income - - - - - - - - $ 1 000 - -
=======
Exercise of stock options 127 (2) - - - - - - 125
Purchase of common stock (22) - - - - (50) - - (72)
Cash dividends - - - - - - (1 131) - - (1 131)
------- ------- ------- ------- ------------- -------
Balance, September 30, 1999 $20 950 $ 4 $ - - $22 853 ($756) $43 051
======= ======= ======= ======= ============= =======
</TABLE>
Notes to financial statements are an integral part of these statements.
6
<PAGE>
ATLANTIC FINANCIAL CORP
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands of Dollars)
(Unaudited)
<TABLE>
<CAPTION>
Nine months ended
September 30,
---------------------------------
2000 1999
-------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net Income $ 3 547 $ 2 986
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 976 941
Provision for loan losses 510 345
Amortization of premiums, net 62 76
(Gain) loss on sale of securities available for sale (14) (1)
(Gain) loss on sale of other real estate 30 (14)
(Gain) loss on sale of premises and equipment (1) (1)
Changes in operating assets and liabilities:
Decrease (increase) in accrued interest receivable (589) (375)
Decrease (increase) in other assets (75) 600
Increase in accrued interest payable 364 9
Increase in other liabilities 422 781
---------- ----------
Net Cash Provided by Operating Activities $ 5 232 $ 5 347
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net (increase) decrease in loans (8 682) (18 393)
Purchase of securities available for sale (19 929) (31 722)
Proceeds from sales of securities available for sale 427 1 619
Proceeds from calls and maturities of securities available for sale 10 111 15 835
Proceeds from calls and maturities of securities held to maturity 672 3 854
Purchase of premises and equipment (285) (798)
Proceeds from sales of premises and equipment 19 1
Proceeds from sales of other real estate 428 79
---------- ----------
Net Cash (Used In) Investing Activities ($ 17 239) ($ 29 525)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in deposits $ 5 436 $ 6 622
Issuance of common stock 169 125
Repurchase of common stock (593) (72)
Net increase (decrease) in short-term borrowings (1 298) (859)
Cash dividends paid (1 423) (1 679)
---------- ----------
Net Cash Provided by Financing Activities $ 2 291 $ 4 137
---------- ----------
Net Increase In Cash and Cash Equivalents ($ 9 716) ($ 20 041)
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD 41 716 41,306
---------- ----------
CASH AND CASH EQUIVALENTS - END OF PERIOD $ 32 000 $ 21 265
========== ==========
</TABLE>
Notes to financial statements are an integral part of these statements.
7
<PAGE>
ATLANTIC FINANCIAL CORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. General
The consolidated statements include the accounts of Atlantic Financial Corp
and its subsidiaries, Peninsula Trust Bank, Inc. (PTB) and United Community
Bank (UCB). All significant intercompany balances and transactions have been
eliminated. In the opinion of management, the accompanying unaudited
consolidated financial statements contain all adjustments (consisting of only
normal recurring accruals) necessary to present fairly the financial
positions as of September 30, 2000 and December 31, 1999, and the results of
operations and cash flows for the nine months ended September 30, 2000 and
1999.
The results of operations for the nine months ended September 30, 2000 and
1999 are not necessarily indicative of the results to be expected for the
full year.
2. Investment Securities
Amortized cost and carrying amount (estimated fair value) of securities
available for sale are summarized as follows:
<TABLE>
<CAPTION>
September 30, 2000
----------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains (Losses) Value
----------------------------------------------------
(In Thousands of Dollars)
<S> <C> <C> <C> <C>
US Treasury Securities 100 -- (1) 99
US Government and federal agencies 28 188 47 (986) 27 249
States and local governments 31 269 134 (462) 30 941
Mortgage-backed securities 27 592 67 (575) 27 084
Corporate debt obligations 4 348 -- (191) 4 157
Collateralized mortgage obligations 3 927 2 (50) 3 879
Restricted stocks 1 205 -- -- 1 205
Other securities 4 507 1 083 (425) 5 165
--------- ------ ------- -------
$ 101 136 $1 333 $(2 690) $99 779
========= ====== ======= =======
</TABLE>
Amortized cost and carrying amount (estimated fair value) of securities held
to maturity are summarized as follows:
<TABLE>
<CAPTION>
September 30, 2000
---------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains (Losses) Value
---------------------------------------------------------
(In Thousands of Dollars)
<S> <C> <C> <C> <C>
US Government and federal agencies 2 344 -- (84) 2 260
States and local governments 5 402 19 (30) 5 391
Mortgage-backed securities 1 563 -- (38) 1 525
------ ---------- ----- ------
$9 309 $ 19 $(152) $9 176
====== ========== ===== ======
</TABLE>
8
<PAGE>
ATLANTIC FINANCIAL CORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued
(Unaudited)
Amortized cost and carrying amount (estimated fair value) of securities
available for sale as of December 31, 1999 are summarized as follows:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains (Losses) Value
--------- ---------- ----------- ---------
(In Thousands of Dollars)
<S> <C> <C> <C> <C>
US Treasury Securities 857 1 (3) 855
US Government and federal agencies 27 392 8 (1 126) 26 274
State and local governments 30 278 100 (706) 29 672
Mortgage-backed securities 22 289 -- (889) 21 400
Corporate debt obligations 4 149 -- (119) 4 030
Collateralized mortgage obligations 1 780 -- (30) 1 750
Restricted stocks 1 205 -- -- 1 205
Other securities 3 839 791 (87) 4 543
------- ---- ------- -------
$91 789 $900 $(2 960) $89 729
======= ==== ======= =======
</TABLE>
Amortized cost and carrying amount (estimated fair value) of securities held
to maturity as of December 31, 1999 are summarized as follows:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains (Losses) Value
--------- ---------- ----------- ---------
(In Thousands of Dollars)
<S> <C> <C> <C> <C>
US Government and federal agencies 2 593 -- (102) 2 491
State and local governments 5 549 14 (55) 5 508
Mortgage-backed securities 1 845 -- (58) 1 787
------ ---- ---------- ---------
$9 987 $ 14 $(215) $9 786
====== ==== ========== =========
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended
Sept 30,
--------------------------
2000 1999
--------- ----------
(In Thousands of Dollars)
<S> <C> <C>
Gross proceeds from sales of securities 427 1 619
======= =======
Gross Gains on Sale of Securities 14 3
Gross Losses on Sale of Securities -- 3
------- -------
Net Securities Gains (Losses) 14 --
======= =======
</TABLE>
9
<PAGE>
ATLANTIC FINANCIAL CORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued
(Unaudited)
3. Loans
Major classifications of loans are as follows:
<TABLE>
<CAPTION>
Sept 30, December 31,
2000 1999
-------- --------
(In Thousands of Dollars)
<S> <C> <C>
Commercial (except those secured by real estate) 32 285 31 824
Agriculture (except those secured by real estate) 7 691 5 066
Real estate mortgage:
Construction and land development 19 466 15 995
Residential (1-4 family) 57 513 57 089
Home equity lines 17 401 16 663
Commercial 59 442 58 064
Agricultural 5 956 5 067
Loans to individuals for household,
family and other consumer expenditures 34 608 36 497
All other loans 509 475
------- ----------
234 871 226 740
Less unearned income (541) (564)
-------- --------
Less allowance for loan losses (2 721) (2 663)
-------- --------
Loans, net $231 609 $223 513
======== ========
</TABLE>
The following schedule summarizes the changes in the allowance for loan and
lease losses:
<TABLE>
<CAPTION>
Nine Months Nine Months
Ended Ended
Sept 30, Sept 30, December 31,
2000 1999 1999
----------- ----------- ------------
(In Thousands of Dollars)
<S> <C> <C> <C>
Balance at beginning of year 2 663 2 424 2 424
Provision for loan losses 510 345 505
Recoveries 130 215 257
Charge-offs (582) (273) (523)
------- -------- --------
Balance at end of period $ 2 721 $ 2 711 $ 2 663
======= ======== ========
</TABLE>
Nonperforming assets consist of the following:
<TABLE>
<CAPTION>
Sept 30, December 31,
2000 1999
------- -----------
(In Thousands of Dollars)
<S> <C> <C>
Nonaccrual Loans 1 142 632
Restructured Loans -- --
------ --------
Nonperforming Loans 1 142 632
Foreclosed Properties 169 550
------ --------
Nonperforming Assets $1 311 $ 1 182
====== ========
</TABLE>
Total loans past due 90 days or more and still accruing were $797 on
September 30, 2000 and $622 on December 31, 1999.
10
<PAGE>
ATLANTIC FINANCIAL CORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Continued
(Unaudited)
4. Earnings Per Share
The following shows the weighted average number of shares used in computing
earnings per share and the effect on weighted average number of shares of
diluted potential common stock income available to common shareholders.
<TABLE>
<CAPTION>
September 30, 2000 September 30, 1999
------------------- --------------------
Per Share Per Share
Shares Amount Shares Amount
-------- --------- --------- ---------
<S> <C> <C> <C> <C>
Basic Earnings Per Share 4 181 648 $.85 4 187 711 $.71
Effect of dilutive securities:
Nonemployee directors' stock options 7 071 20 897
Employee incentive stock options 45 560 60 139
--------- ---------
Diluted Earnings Per Share 4 234 279 $.84 4 268 747 $.70
========= ==== ========= =========
</TABLE>
5. Capital Requirements
A comparison of the Company's capital as of September 30, 2000 with the
minimum requirements is presented below:
Minimum
Actual Requirements
------ ------------
Tier 1 Risk-based Capital 17.07% 4.00 %
Total Risk-based Capital 18.10% 8.00 %
Leverage Ratio 11.65% 4.00 %
11
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking Statements
--------------------------
Certain information contained in this report may include "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
These forward-looking statements are generally identified by phrases such as
"the Company expects," "the Company believes" or words of similar import. Such
forward-looking statements involve known and unknown risks including, but not
limited to, changes in general economic and business conditions, interest rate
fluctuations, competition within and from outside the banking industry, new
products and services in the banking industry, risk inherent in making loans
such as repayment risks and fluctuating collateral values, problems with
technology utilized by the Company, changing trends in customer profiles and
changes in laws and regulations applicable to the Company. Although the Company
believes that its expectations with respect to the forward-looking statements
are based upon reliable assumptions within the bounds of its knowledge of its
business and operations, there can be no assurance that actual results,
performance or achievements of the Company will not differ materially from any
future results, performance or achievements expressed or implied by such
forward-looking statements.
General
-------
The following discussion presents management's discussion and analysis of the
consolidated financial condition and results of operations of Atlantic Financial
Corp (the "Company") as of the dates and for the periods indicated. This
discussion should be read in conjunction with the Company's Consolidated
Financial Statements and the Notes thereto and other financial data appearing
elsewhere in this report.
The consolidated financial statements include the accounts of the Company and
its wholly-owned banking subsidiaries, Peninsula Trust Bank ("PTB") and United
Community Bank ("UCB"), the successor of the merger of The Bank of Franklin and
The Bank of Sussex and Surry. Contributions from the Company's 51% membership
interest in Johnson Mortgage Co. LLC ("JMC") are also reflected in the financial
results.
In July 2000, the Company signed a definitive agreement to affiliate with F&M
National Corporation of Winchester, Virginia. Additional information on this
affiliation appears in Part II, Item 5, below.
Results of Operations
Earnings
--------
Quarterly performance comparison
--------------------------------
Net income for the third quarter ended September 30, 2000 totaled $1,133,000,
compared to $1,027,000 for the same period in 1999. This performance not only
represented an impressive 10.3% increase in absolute dollars, but, expressed as
earnings per share (EPS), also represented $.27 compared to $.24 for the same
period in 1999, a 12.5% increase. Return on average total assets (ROA) for the
current quarter equaled 1.17% on an annualized basis, which compared favorably
to the 1.11% level for the same period in 1999.
Net interest income (tax equivalent interest income less interest expense) for
the third quarter 2000 totaled $4.5 million (a 6.8% increase over the third
quarter 1999). The largest contributor to the improved net interest earnings
was interest income from investment activities, which demonstrated a 11.7%
increase over the third quarter 1999. The Company continued its efforts to
invest the excess liquid funds accumulated as a part of Year 2000 (Y2K)
liquidity planning during 1999. The net interest margin (tax equivalent net
interest income expressed as a percentage of average earning assets) increased
from 4.91% in the third quarter 1999 to 5.02% in the third quarter 2000. The
average yield on interest earning
12
<PAGE>
assets increased 46 basis points during a time when the average rate on interest
bearing liabilities increased 45 basis points. The Company's balance sheet
continues to be asset sensitive as related to its interest sensitivity position;
that is, its assets re-price more quickly than its liabilities. The stable rate
environment of the most recent quarter meant that upward re-pricing of assets
was minimal, while maturing CD's, originating prior to the multiple rate
increases of the past eighteen months, have reflected a gradual increase in cost
of funds.
Non-interest income for the current quarter increased 5.0% over the same quarter
in 1999. As discussed in its Annual Reports on Form 10-KSB and Quarterly
Reports on Form 10-QSB and 10-Q for previous periods, the Company has taken
certain initiatives to expand non-interest opportunities. These initiatives
have included offering mortgage and investment services. The Company has
performed extensive review of its services, particularly in the areas of ATM
activities and deposit account overdraft charges. Various increase adjustments
have been made in these areas to more closely cover associated operational
costs, as well as reflect pricing of competitor institutions.
Non-interest expense for the third quarter 2000 totaled $3.1 million, compared
to $3.2 million in the third quarter 1999, a 1.7% decrease. This result is
especially positive relative to the increase in non-interest income discussed
above. After several growth initiatives (merger and branch openings) and
technology advancements in 1998, the Company has exercised aggressive control
over other non-interest expense These initiatives bode well for future earnings
as they improve operating efficiencies and mitigate pressure on net interest
earnings during volatile interest rate environments.
Nine month, year-to-date comparative performance
------------------------------------------------
For the nine months ended September 30, 2000, net income of $3.5 million
constituted an EPS of $.84, fully diluted, representing impressive 18.7% and
20.0% increases, respectively, over these same measures for the corresponding
period in 1999. The improving total net income continues to be a story of
balanced performance throughout the income statement. A 9.3% increase in
interest expense was adequately offset by an 9.3% interest income increase,
resulting in the same improvement in net interest income. A 6.9% improvement in
non-interest income was impressive in the face of a 1.9% increase in non-
interest expense. Improved performance was also evidenced by the 1.24% ROA for
the current period compared to 1.09% for the same period in 1999.
Improvement in net interest income for the current nine months mirrored the
quarterly analysis discussed above. Investment activities demonstrated a 17.8%
increase over the same period in 1999. Overnight and short-term maturing
investments have been employed in longer term higher yielding securities,
enhancing the overall yield of the investment portfolio. Interest income on
loans lagged behind the increase in interest expense, reflecting 6.8% and 9.5%
increases, respectively. This is the result of the re-pricing of maturing CD's
discussed above in the quarterly comparison. The net interest margin grew from
4.84% for the period ended September 30, 1999 to 5.04% for the current period
end; however, moderate pressure on the margin is anticipated in the future.
Non-interest income year to date, similar to the third quarter's analysis above,
reflected an improvement that was driven by increased service charges on deposit
accounts, other customer fees, and fees from investment services. The
investment services area produced year-to-date net income of $132,000, while the
mortgage banking affiliate recorded a modest year-to-date net loss of $37,000
due to reduced production in the refinance area as interest rates have risen.
JMC has reduced fixed operating expenses by decreasing the number of salaried
loan processors during periods of reduced new loan production. As a result,
August and September, 2000 reflected small net profits.
The modest increase in non-interest expense was the result of management's
restrictive and even reduction-minded practices over all areas of overhead
expenses, as discussed above.
13
<PAGE>
Effects of Inflation
--------------------
Interest rates are affected by inflation, but the timing and magnitude of the
changes may not coincide with changes in the consumer price index. Management
actively monitors interest rate sensitivity, utilizing multiple tools such as
Gap Analysis in order to minimize the effects of inflationary trends on interest
rates. Other areas of non-interest expenses such as personnel costs, costs of
computer hardware and software, and even fuel costs may be more directly
affected by inflation. There have been no material inflationary effects during
the past three years.
Financial Condition
-------------------
The Company experienced moderate growth in the balance sheet during the first
nine months of 2000, with total assets increasing $13.1 million, or 1.8% over
December 31, 1999. Intense competition from banks and non-banks alike continues
for deposit funds. The Company has met most of the competitive pressure, but
has selectively elected to accept moderate growth in favor of attempting to
preserve stability in the net interest margin. Minimal growth was funded with
new interest bearing deposits, which reflected a $4.9 million, or 1.7%, increase
for the nine months ending September 30, 2000.
Loan demand increased moderately during the first nine months, evidenced by net
loans increasing $8.1 million, or 3.6%, from December 31, 1999. Competition for
loans intensified primarily relative to pricing, as all banks in the Company's
trade area were experiencing similar moderation in overall loan demand. The
Company has been reluctant to match all competitor pricing bids when the credit
quality does not match the pricing structure. This reluctance also reflects the
Company's sensitivity to the intense competition for deposits noted above and
the associated challenges of controlling interest costs. The underwriting
practices of the Company continue to emphasize the relationship between risk and
rate in pricing considerations, rather than responding to pressures from
competitor pricing.
The Company maintained its practice of selling Federal funds, having sold
continuously on a daily basis, in amounts averaging $18.4 million per day. The
September 30, 2000 balance of $16.9 million represented a $5.7 million (or
25.2%) decrease from December 31, 1999, as the Company reduced excess liquidity
which had been built specifically for Y2K purposes.
The level of the investment account increased approximately $9.4 million (9.4%)
during the first nine months of 2000, ending the period at $109.1 million or
27.9% of total assets. The portfolio was used to absorb some of the excess Y2K
liquidity that built up during 1999. In addition to reducing excess Y2K
liquidity, the Company took advantage of improved overall yields in the bond
market. The Company has also used these purchasing opportunities to reduce the
call risk in the portfolio. The portfolio is comprised of less than 1% US
Treasuries, 56% US government agencies, mortgage-backed securities and
collateralized mortgage obligations, 33% state, county and municipal governments
and 10% other debt and equity securities.
The Financial Accounting Standards Board (FASB) Statement 115 stipulated the way
in which banks must classify and account for their securities portfolio,
beginning with the first quarter of 1994. Securities are classified as
Investment Securities when management has both the intent and the ability at the
time of purchase to hold the securities until maturity. Investment Securities
are carried at cost adjusted for amortization of premiums and accretion of
discounts. Securities that are held for an indefinite period of time are
classified as Securities Available for Sale and are marked to market at each
financial reporting date, or at each month-end. Securities Available for Sale
include securities that may be sold in response to changes in interest rates,
changes in the security's prepayment risk, increases in loan demand, general
liquidity needs and other similar factors. Management utilizes several tools
for the measurement of three critical elements in portfolio performance:
interest rate risk, call and/or extension risk and maturity distribution. With
better tools to monitor duration, long-term earnings performance of the
portfolio is expected to demonstrate improved stability over varying interest
rate cycles. These parameters will also draw a tighter relationship between
effective modified duration (EMD) and bond convexity. Convexity measures the
percentage amount of portfolio price appreciation if interest rates fall 1%
relative to the percentage of price depreciation if interest rates rise 1%. The
more a bond declines relative to its
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depreciation, the higher the negative convexity and, consequently, the more
potential call and extension risk that bond is likely to have. Relative to the
current EMD, management is targeting an overall portfolio negative convexity of
not more than .70. Currently, the portfolio's negative convexity is slightly
below this target level.
Deposits represent 98.6% of total liabilities of the Company, including non-
interest bearing checking accounts, which represent 15.4% of total deposits on
September 30, 2000. Short-term borrowings of $1.7 million reflected a $1.3
million (43.6%) decline from December 31, 1999. The decrease was represented
primarily ($1.0 million) by a reduction in retail repurchase agreements
(securities sold under agreements to repurchase). The decline is considered
cyclical and of no concern.
Provision / Allowance for Loan and Lease Losses ("ALLL") & Asset Quality
------------------------------------------------------------------------
Asset quality continues to be sound with problem credits considered to be at
satisfactory and manageable levels. Total loans past due 30 days or more
equaled $5.3 million (2.3% of total outstandings). Included in the 30 day total
are $797,000 , which are 90 days or more past due and still accruing interest.
Non-accrual loans totaled $1.1 million at September 30, 2000, which represented
0.5% of total outstanding loans and 42.0% of the loan loss reserve. The non-
accrual total reflects an 80.7% increase over year-end 1999. This is not
considered problematic, but instead is a reflection of the Company's ability to
more accurately assess credit risk and future loan performance, as discussed
below. Foreclosed properties totaled $169,000 at September 30, 2000, with
potential losses expected to be minimal. The foreclosed total reflects a 69.3%
decrease from the year-end 1999 level. Relative to total non-performers, the
ALLL provides adequate coverage for potential losses. Trends in these areas
have demonstrated fluctuations within tolerable limits during the past nine
months.
The Company has expensed $510,000 as provision for possible loan losses through
the nine months ended September 30, 2000. The provision amount reflects a 48.3%
increase over the same period in 1999. The provision reflects management's
assessment of the adequacy of the ALLL to absorb losses inherent in the loan
portfolio due to deterioration of borrowers' financial condition or changes in
overall risk profile. Overall risk profile considers several factors, as
appropriate, such as historical credit loss experience, current economic
conditions, the composition of the total loan portfolio and assessments of
individual credits within specific loan types. The Company's use of a
documented system for internal loan classifications has been implemented within
the past twelve months. This system more accurately identifies ongoing credit
risk imbedded within the loan portfolio. Classifications are assigned a risk
rating with a corresponding percentage of the current balance considered in the
ALLL depending on the severity of the risk. The results of this classification
system are compared to the ALLL each month, reviewed by Senior Management, and
reported to the Board of Directors. The September 30, 2000 evaluation indicates
that the ALLL is sufficient to safeguard the Company in light of known or
identified potential loan loss risks.
The increase in the provision expense in 2000 over 1999 is reflective of a more
accurate method of risk identification and does not indicate either a
deterioration in asset quality or an attempt to build an excess cushion in the
ALLL. The Company considers the accuracy of its risk identification practices
to support the current method of determining the appropriate level for the ALLL.
Previously, more emphasis was placed on the ALLL's relationship to total
outstanding loans, with less emphasis on identified risk embedded in the
portfolio. The ALLL equaled $2.7 million September 30, 2000, or 1.16% of total
outstanding loans.
Capital and Liquidity
---------------------
Equity capital at September 30, 2000 totaled $45.2 million, representing 11.6%
of total assets, compared to $43.0 million as of December 31, 1999. Exclusive
of adjustments for unrealized gains/losses on securities classified as available
for sale, total equity equaled $46.1 million or 11.8% of total assets, compared
to $44.4 million at December 31, 1999. This level is adequate to support both
current operations, as well as asset growth to a level in excess of $500 million
without external augmentation.
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Liquidity is provided by both excess funds in the form of Federal funds sold and
access to the Federal funds market through the purchase of Federal funds from
correspondent banks. The Company maintains deposit relationships with several
correspondent banks that include commitments through various lines of credit for
short-term borrowing needs. Federal funds sold equaled 14.8% of total demand
deposits at September 30, 2000. The Company, through two of its subsidiary
banks, is a member of the Federal Home Loan Bank of Atlanta. This membership
affords the Company various credit vehicles. The level of balance sheet
liquidity and available credit facilities is considered adequate to meet
anticipated deposit withdrawals and expected loan demand from normal operations.
With the described external sources of liquidity available, the Company, during
the first half of 2000, employed a higher percentage of internal liquidity in
acquiring slightly longer term assets (primarily investment securities) with
greater call protection in an effort to enhance long-term interest earnings.
Future Plans
------------
As stated above, the Company has signed a definitive agreement ("the agreement")
with F&M National Corporation. The transaction is expected to close in January
2001 and is discussed in Part II, Item 5, below.
The Company continues to explore branch expansion opportunities for its banking
operations; however, it has secured only one site for such growth. That site is
located on U. S. Route 17 in Gloucester Point, Virginia. A definitive schedule
has not been formalized for this site.
The Company's two subsidiary banks were merged into one bank on October 20,
2000. The merger will allow for full implementation of telephone banking and
image processing throughout all of its banking offices, whereas these services
are currently offered only throughout the offices of PTB. The merger is also
intended to improve efficiencies in back office operations.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk and Interest Sensitivity Analysis
---------------------------------------------
An important component of both earnings performance and liquidity is management
of interest rate sensitivity. The Company's primary component of market risk is
interest rate volatility. Net interest income, the Company's primary component
of net income, is subject to substantial risk due to changes in interest rates
or changes in market yield curves, particularly if there is a substantial
variation in the timing between the re-pricing of the Company's assets and the
liabilities that fund them. Interest rate sensitivity reflects the potential
effect on net interest income of a movement in market interest rates. The
Company seeks to manage this risk by monitoring and controlling the variation in
re-pricing intervals between its assets and liabilities. To a lesser extent,
the Company also monitors its interest rate sensitivity by analyzing the
estimated changes in market value of its assets and liabilities assuming various
interest rate scenarios. There are a variety of factors that influence the re-
pricing characteristics and market values of any given asset or liability. The
matching of the re-pricing characteristics of assets and liabilities may be
analyzed by examining the extent to which such assets and liabilities are
"interest rate sensitive" and by monitoring an institution's interest rate
sensitivity "gap". An asset or liability is said to be interest rate sensitive
within a specific time period if it will mature or re-price, either by its
contractual terms or based upon certain assumptions made by management, within
that time period. The interest rate sensitivity gap is defined as the
difference between the amount of interest-earning assets anticipated to mature
or re-price within a specific time period and the amount of interest-bearing
liabilities anticipated to mature or re-price within that same time period. A
gap is considered positive when the amount of interest rate sensitive assets
maturing or re-pricing within a specific time frame exceeds the amount of
interest rate sensitive liabilities maturing or re-pricing within that same time
frame. Conversely, a gap is considered negative when the reverse relationship
exists between interest rate sensitive assets and liabilities. In a rising
interest rate environment, an institution with a negative gap would generally be
expected, absent the effects of other factors, to experience a greater increase
in the costs of its liabilities relative to the yield of its assets and, thus, a
decrease in the institution's net interest income. An
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institution with a positive gap would generally be expected to experience the
opposite results. Conversely, during a period of falling interest rates, a
negative gap would tend to result in an increase in net interest income while a
positive gap would tend to adversely affect net interest income. Management
monitors interest rate sensitivity so that adjustments in the asset and
liability mix, when deemed appropriate, can be made on a timely manner.
The Company uses earnings simulations, duration, and gap analysis to analyze and
project future interest rate risk. The investment portfolio, specifically, is
analyzed as to interest rate risk as well as call and extension risk. These
three elements combined will have a direct bearing on long term portfolio
profitability, both in terms of price change and, importantly, future yield.
The amount of interest rate risk and call and extension risk contained in the
portfolio will either stabilize or destabilize future Company earnings if
overall interest rates change. The best mathematical measurements of interest
rate risk and call and extension risk are EMD and convexity, especially in
today's environment with so many bonds containing direct or indirect call
options.
Because many types of bonds are callable or can vary in average life as rates
change, the Company considers what effect this could have on market value, and
thus, potential earnings. Duration and Modified Duration are used without
negative convexity and, therefore, are not as accurate predictors of price
change when dealing with bonds that can have variable principal payouts
("callables", "mortgages"). Negative convexity is used in conjunction with EMD
and is useful when there is a chance of more than one average life or workout
date (maturity/call date). It reflects the fact that with this type of bonds,
market prices will almost always decrease in value more than they increase given
the same rate of shift up and down. EMD and convexity, when used together,
provide a close approximation of market price changes per 1% moves in interest
rates. Negative convexity usually works against the bondholder in both higher
and lower rate scenarios.
---
Certain information regarding the Company's present value change in equity
associated with changes in asset values under various interest rate scenarios as
of March 31, 2000 was presented in the Company's Quarterly Report on Form 10-Q
for the period ended March 31, 2000. There have been no material changes in
that information.
The Company's balance sheet structure displays a more advantageous position in a
moderately rising interest environment. This picture is validated by the
Company's improvement in net interest income during the most recent period of
rising interest rates, as discussed above.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings - None
Item 2. Changes in Securities and Use of Proceeds - None
Item 3. Defaults Upon Senior Securities - None
Item 4. Submission of Matters to a Vote of Security Holders - None
Item 5. Other Information
On July 6, 2000, the Company announced the signing of a definitive
agreement for the affiliation of the Company and F&M National
Corporation of Winchester, Virginia. Under the terms of the agreement,
F&M will exchange 0.753 shares of its common stock for each share of
Atlantic stock.
The transaction is expected to be completed in January, 2001. The
matter requires the approval of various regulatory agencies and the
shareholders of the Company and satisfaction of other standard
conditions. The Company's special shareholders' meeting will be held
December 14, 2000. The transaction is intended to qualify as a tax-
free exchange and be accounted for as a pooling of interests. The
Company's two bank subsidiaries, Peninsula Trust Bank and United
Community Bank, will be combined and will be operated as a separate
banking subsidiary of F&M under the name of F&M Bank-Atlantic.
F&M National Corporation is a multi-bank holding company headquartered
in Winchester, Virginia, with assets in excess of $3.4 billion at June
30, 2000, and 143 banking offices. F&M currently operates ten banking
affiliates in Virginia, West Virginia and Maryland and offers
insurance and financial services through two subsidiaries. F&M also
operates F&M Trust Company. F&M's common stock is listed on the New
York Stock Exchange under the symbol "FMN".
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27 Financial Data Schedule (filed electronically only).
(b) Reports on Form 8-K - None
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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.
ATLANTIC FINANCIAL CORP
Date: November 14, 2000 BY /s/ W. J. Farinholt
----------------------------------
W. J. Farinholt, President & CEO
Date: November 14, 2000 BY /s/ Kenneth E. Smith
-----------------------------------
Kenneth E. Smith, Exec. Vice President
& Chief Financial Officer
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