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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
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|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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Commission file number 000-23777
PENSECO FINANCIAL SERVICES CORPORATION
Incorporated pursuant to the Laws of Pennsylvania
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Internal Revenue Service -- Employer Identification No. 23-2939222
150 North Washington Avenue, Scranton, Pennsylvania 18503-1848
(570) 346-7741
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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 | |
The total number of shares of the registrant's Common Stock, $0.01 par value,
outstanding on July 31, 1999, was 2,148,000.
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<PAGE>
PENSECO FINANCIAL SERVICES CORPORATION
Page
----
Part I -- FINANCIAL INFORMATION
Item 1. Financial Statements - Consolidated
Balance Sheets:
June 30, 1999...................................................3
December 31, 1998...............................................3
Statements of Income:
Three Months Ended June 30, 1999................................4
Three Months Ended June 30, 1998................................4
Six Months Ended June 30, 1999..................................5
Six Months Ended June 30, 1998..................................5
Statements of Cash Flows:
Six Months Ended June 30, 1999..................................6
Six Months Ended June 30, 1998..................................6
Notes to Financial Statements.....................................7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................11
Part II -- OTHER INFORMATION
Item 1. Legal Proceedings..................................................18
Item 2. Changes in Securities..............................................18
Item 3. Defaults Upon Senior Securities....................................18
Item 4. Submission of Matters to a Vote of Security Holders................18
Item 5. Other Information..................................................18
Item 6. Exhibits and Reports on Form 8-K...................................18
Signatures.................................................................19
<PAGE>
PART I. FINANCIAL INFORMATION, Item 1 -- Financial Statements
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED BALANCE SHEETS
(unaudited)
(in thousands of dollars)
June 30, December 31,
1999 1998
------------ ------------
ASSETS
Cash and due from banks $ 12,703 $ 11,731
Interest-bearing balances with banks 517 345
Federal funds sold 3,700 6,650
------------ ------------
Cash and Cash Equivalents 16,920 18,726
Investment securities:
Available-for-sale, at fair value 102,970 112,346
Held-to-maturity (fair value of $5,285
and $6,266, respectively) 5,422 6,416
------------ ------------
Total Investment Securities 108,392 118,762
Loans, net of unearned income 285,387 283,219
Less: Allowance for loan losses 2,924 2,830
------------ ------------
Loans, Net 282,463 280,389
Bank premises and equipment 12,615 12,631
Other real estate owned 137 111
Accrued interest receivable 3,032 3,234
Other assets 2,729 2,246
------------ ------------
Total Assets $ 426,288 $ 436,099
============ ============
LIABILITIES
Deposits:
Non-interest bearing $ 55,638 $ 56,398
Interest bearing 310,488 321,128
------------ ------------
Total Deposits 366,126 377,526
Other borrowed funds:
Repurchase agreements 12,088 10,959
Short-term borrowings 582 -
Accrued interest payable 1,733 2,039
Other liabilities 628 614
------------ ------------
Total Liabilities 381,157 391,138
------------ ------------
STOCKHOLDERS' EQUITY
Common stock ($ .01 par value, 15,000,000
shares authorized, 2,148,000 shares issued
and outstanding) 21 21
Surplus 10,819 10,819
Retained earnings 34,865 33,688
Accumulated other comprehensive income (574) 433
------------ ------------
Total Stockholders' Equity 45,131 44,961
------------ ------------
Total Liabilities and Stockholders' Equity $ 426,288 $ 436,099
============ ============
<PAGE>
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands of dollars)
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
June 30, 1999 June 30, 1998
------------------ ------------------
<S> <C> <C>
INTEREST INCOME
Interest and fees on loans $ 5,431 $ 5,593
Interest and dividends on investments:
U.S. Treasury securities and U.S. Agency obligations 1,259 1,730
States & political subdivisions 171 -
Other securities 28 -
Interest on Federal funds sold 55 128
Interest on balances with banks 12 1
------------- --------------
Total Interest Income 6,956 7,452
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INTEREST EXPENSE
Interest on time deposits of $100,000 or more 556 536
Interest on other deposits 2,104 2,693
Interest on other borrowed funds 126 82
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Total Interest Expense 2,786 3,311
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Net Interest Income 4,170 4,141
Provision for loan losses - 104
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Net Interest Income After Provision for Loan Losses 4,170 4,037
------------- --------------
OTHER INCOME
Trust department income 247 274
Service charges on deposit accounts 167 159
Other fee income 962 865
Other operating income 31 42
Realized gains on securities, net - -
------------- --------------
Total Other Income 1,407 1,340
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OTHER EXPENSES
Salaries and employee benefits 1,851 1,849
Expense of premises and fixed assets 682 529
Other operating expenses 1,683 1,498
------------- --------------
Total Other Expenses 4,216 3,876
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Income before income taxes 1,361 1,501
Applicable income taxes 358 454
------------- --------------
Net Income 1,003 1,047
Other comprehensive income, net of taxes:
Unrealized securities losses (657) (58)
------------- --------------
Comprehensive Income $ 346 $ 989
============= ==============
Earnings per Common Share
(Based on 2,148,000 shares outstanding) $ 0.47 $ 0.49
Cash Dividends Declared Per Common Share $ 0.21 $ 0.21
</TABLE>
<PAGE>
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
(in thousands of dollars)
<TABLE>
<CAPTION>
Six Months Ended Six Months Ended
June 30, 1999 June 30, 1998
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<S> <C> <C>
INTEREST INCOME
Interest and fees on loans $ 10,909 $ 11,349
Interest and dividends on investments:
U.S. Treasury securities and U.S. Agency obligations 2,578 3,547
States & political subdivisions 368 -
Other securities 58 1
Interest on Federal funds sold 133 300
Interest on balances with banks 37 1
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Total Interest Income 14,083 15,198
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INTEREST EXPENSE
Interest on time deposits of $100,000 or more 1,163 1,075
Interest on other deposits 4,289 5,466
Interest on other borrowed funds 235 160
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Total Interest Expense 5,687 6,701
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Net Interest Income 8,396 8,497
Provision for loan losses 56 210
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Net Interest Income After Provision for Loan Losses 8,340 8,287
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OTHER INCOME
Trust department income 505 492
Service charges on deposit accounts 332 318
Other fee income 2,606 2,372
Other operating income 78 69
Realized gains on securities, net - -
------------- --------------
Total Other Income 3,521 3,251
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OTHER EXPENSES
Salaries and employee benefits 3,772 3,659
Expense of premises and fixed assets 1,327 1,079
Other operating expenses 3,924 3,512
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Total Other Expenses 9,023 8,250
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Income before income taxes 2,838 3,288
Applicable income taxes 759 993
------------- --------------
Net Income 2,079 2,295
Other comprehensive income, net of taxes:
Unrealized securities losses (1,007) (95)
------------- -------------
Comprehensive Income $ 1,072 $ 2,200
============= =============
Earnings per Common Share
(Based on 2,148,000 shares outstanding) $ 0.97 $ 1.07
Cash Dividends Declared Per Common Share $ 0.42 $ 0.42
</TABLE>
<PAGE>
PENSECO FINANCIAL SERVICES CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands of dollars)
<TABLE>
<CAPTION>
Six Months Ended Six Months Ended
June 30, 1999 June 30, 1998
---------------- ----------------
<S> <C> <C>
OPERATING ACTIVITIES
Net Income $ 2,079 $ 2,295
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 591 478
Provision for loan losses 56 210
Deferred income tax provision (15) 11
Amortization of securities (net of accretion) 190 85
Net (gains) losses on sale of investment securities - -
Loss (gain) on other real estate - 16
Decrease (increase) in interest receivable 202 298
(Increase) decrease in other assets (483) (553)
(Decrease) increase in income taxes payable (232) 9
(Decrease) increase in interest payable (306) (337)
Increase (decrease) in other liabilities 779 (183)
----------- -----------
Net cash provided by operating activities 2,861 2,329
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INVESTING ACTIVITIES
Purchase of investment securities available-for-sale (28,335) (12,092)
Proceeds from sales and maturities of investment securities available-for-sale 36,015 31,000
Proceeds from repayments of investment securities to be held-to-maturity 975 1,986
Net loans (originated) repaid (2,241) (14,284)
Proceeds from other real estate 85 217
Investment in premises and equipment (575) (2,258)
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Net cash provided (used) by investment activities 5,924 4,569
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FINANCING ACTIVITIES
Net increase (decrease) in demand and savings deposits 2,863 2,015
Net (payments) proceeds on time deposits (14,263) (7,193)
Increase (decrease) in federal funds purchased - -
Increase (decrease) in repurchase agreements 1,129 1,610
Net increase (decrease) in short-term borrowings 582 (139)
Cash dividends paid (902) (902)
----------- -----------
Net cash (used) provided by financing activities (10,591) (4,609)
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Net (decrease) increase in cash and cash equivalents (1,806) 2,289
Cash and cash equivalents at January 1 18,726 18,578
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Cash and cash equivalents at June 30 $ 16,920 $ 20,867
=========== ===========
</TABLE>
The Company paid interest and income taxes of $5,993 and $781 and $7,038 and
$1,090, for the six month periods ended June 30, 1999 and 1998, respectively.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Quarter Ended June 30, 1999
(unaudited)
These Notes to Financial Statements reflect events subsequent to December 31,
1998, the date of the most recent Report of Independent Auditors, through the
date of this Quarterly Report on Form 10-Q for the six month period ended June
30, 1999. These Notes to Financial Statements should be read in conjunction with
Financial Information and Other Information required to be furnished as part of
this Report, in particular, (1) Management's Discussion and Analysis of
Financial Condition and Results of Operations for the three months ended June
30, 1999 and June 30, 1998 and for the six months ended June 30, 1999 and June
30,1998, in respect to the Company's capital requirements and liquidity, (2)
Part II, Item 6, Reports on Form 8-K and (3) the Company's Annual Report - Form
10-K for the year ended December 31, 1998, incorporated herein by reference.
NOTE 1 -- Principles of Consolidation
Penseco Financial Services Corporation (Company) is a bank holding company,
incorporated under the laws of Pennsylvania. It is the parent company of Penn
Security Bank and Trust Company (Bank), a state chartered bank.
Intercompany transactions have been eliminated in preparing the consolidated
financial statements.
The accounting policies of the Company conform with generally accepted
accounting principles and with general practices within the banking industry.
NOTE 2 -- Basis of Presentation
The unaudited consolidated financial statements have been prepared in accordance
with generally accepted accounting principles for interim financial information.
In the opinion of management, all adjustments that are of a normal recurring
nature and are considered necessary for a fair presentation have been included.
They are not, however, necessarily indicative of the results of consolidated
operations for a full year.
For further information, refer to the consolidated financial statements and
accompanying notes included in the Company's Annual Report - Form 10-K for the
year ended December 31, 1998.
NOTE 3 -- Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for losses on loans and the
valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the allowances
for losses on loans and foreclosed real estate, management obtains independent
appraisals for significant properties.
NOTE 4 -- Investment Securities
Investments in securities are classified in two categories and accounted for as
follows:
Securities Held-to-Maturity. Bonds, notes, debentures and mortgage-backed
securities for which the Company has the positive intent and ability to hold to
maturity are reported at cost, adjusted for amortization of premiums and
accretion of discounts computed on the straight-line basis over the period to
maturity, which approximates the interest method.
Securities Available-for-Sale. Bonds, notes, debentures, and certain equity
securities not classified as securities to be held-to-maturity are carried at
fair value with unrealized holding gains and losses, net of tax, reported as a
net amount in a separate component of stockholders' equity until realized.
Realized gains and losses on the sale of securities available-for-sale are
determined using the specific identification method and are reported as a
separate component of other income in the Statements of Income. Unrealized gains
and losses are included as a separate item in computing comprehensive income.
The Company has no derivative financial instruments required to be disclosed
under SFAS No. 119.
<PAGE>
The amortized cost and fair value of investment securities at June 30, 1999 and
December 31, 1998 are as follows:
Available-for-Sale
Gross Gross
Amortized Unrealized Unrealized Fair
June 30, 1999 Cost Gains Losses Value
- --------------------------------------------------------------------------------
U.S. Treasury securities $ 73,379 $ 173 $ 396 $ 73,156
U.S. Agency securities 5,000 - 116 4,884
States & political subdivisions 23,642 - 530 23,112
- --------------------------------------------------------------------------------
Total Debt Securities 102,021 173 1,042 101,152
Equity securities 1,818 - - 1,818
- --------------------------------------------------------------------------------
Total Available-for-Sale $ 103,839 $ 173 $ 1,042 $ 102,970
- --------------------------------------------------------------------------------
Available-for-Sale
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1998 Cost Gains Losses Value
- --------------------------------------------------------------------------------
U.S. Treasury securities $ 81,210 $ 706 $ - $ 81,916
U.S. Agency securities 5,000 - 14 4,986
States & political subdivisions 23,669 15 50 23,634
- --------------------------------------------------------------------------------
Total Debt Securities 109,879 721 64 110,536
Equity securities 1,810 - - 1,810
- --------------------------------------------------------------------------------
Total Available-for-Sale $ 111,689 $ 721 $ 64 $ 112,346
- --------------------------------------------------------------------------------
Held-to-Maturity
Gross Gross
Amortized Unrealized Unrealized Fair
June 30, 1999 Cost Gains Losses Value
- --------------------------------------------------------------------------------
Obligations of U.S. Agencies:
Mortgage-backed securities $ 5,422 $ - $ 137 $ 5,285
- --------------------------------------------------------------------------------
Total Held-to-Maturity $ 5,422 $ - $ 137 $ 5,285
- --------------------------------------------------------------------------------
Held-to-Maturity
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1998 Cost Gains Losses Value
- --------------------------------------------------------------------------------
Obligations of U.S. Agencies:
Mortgage-backed securities $ 6,416 $ - $ 150 $ 6,266
- --------------------------------------------------------------------------------
Total Held-to-Maturity $ 6,416 $ - $ 150 $ 6,266
- -------------------------------------------------------------------------------
<PAGE>
The amortized cost and fair value of debt securities at June 30, 1999 by
contractual maturity are shown below. Expected maturities will differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
June 30, 1999 Available-for-Sale Held-to-Maturity
- --------------------------------------------------------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
- --------------------------------------------------------------------------------
Due in one year or less:
U.S. Treasury securities $ 41,081 $ 41,211 $ - $ -
After one year through five years:
U.S. Treasury securities 32,298 31,945 - -
U.S. Agency securities 5,000 4,884 - -
States & political subdivisions 16,376 16,105 - -
After five years through ten years:
States & political subdivisions 6,215 6,016 - -
After ten years:
States & political subdivisions 1,051 991 - -
- --------------------------------------------------------------------------------
Subtotal 102,021 101,152 - -
Mortgage-backed securities - - 5,422 5,285
- --------------------------------------------------------------------------------
Total Debt Securities $ 102,021 $ 101,152 $ 5,422 $ 5,285
- --------------------------------------------------------------------------------
NOTE 5 -- Regulatory Matters
The Company and the Bank are subject to various regulatory capital requirements
administered by the Federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Company and the Bank's consolidated financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Company and the Bank must meet specific capital
guidelines that involve quantitative measures of their assets, liabilities, and
certain off-balance sheet items as calculated under regulatory accounting
practices. The Company's and the Bank's capital amounts and classification are
also subject to qualitative judgements by the regulators about components, risk
weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the Capital Adequacy table below) of Tier 1 and Total Capital to
risk-weighted assets and of Tier 1 Capital to average assets (Leverage ratio).
The table also presents the Company's actual capital amounts and ratios. The
Bank's actual capital amounts and ratios are substantially identical to the
Company's. Management believes, as of June 30, 1999, that the Company and the
Bank meet all capital adequacy requirements to which they are subject.
As of June 30, 1999, the most recent notification from the Federal Deposit
Insurance Corporation categorized the Company as "well capitalized" under the
regulatory framework for prompt corrective action. To be categorized as "well
capitalized", the Company must maintain minimum Tier 1 Capital, Total Capital
and Leverage ratios as set forth in the Capital Adequacy table. There are no
conditions or events since that notification that management believes have
changed the Company's categorization by the FDIC.
The Company and Bank are also subject to minimum capital levels which could
limit the payment of dividends, although the Company and Bank currently have
capital levels which are in excess of minimum capital level ratios required.
The Pennsylvania Banking Code restricts capital funds available for payment of
dividends to the Retained Earnings of the Bank. Accordingly, at June 30, 1999,
the balances in the Capital Stock and Surplus accounts totalling $10,840 are
unavailable for dividends.
In addition, the Bank is subject to restrictions imposed by Federal law on
certain transactions with the Company's affiliates. These transactions include
extensions of credit, purchases of or investments in stock issued by the
affiliate, purchases of assets subject to certain exceptions, acceptance of
securities issued by an affiliate as collateral for loans, and the issuance of
guarantees, acceptances, and letters of credit on behalf of affiliates. These
restrictions prevent the Company's affiliates from borrowing from the Bank
unless the loans are secured by obligations of designated amounts. Further, the
aggregate of such transactions by the Bank with a single affiliate is limited in
<PAGE>
amount to 10 percent of the Bank's capital stock and surplus, and the aggregate
of such transactions with all affiliates is limited to 20 percent of the Bank's
capital stock and surplus. The Federal Reserve System has interpreted "capital
stock and surplus" to include undivided profits.
<TABLE>
<CAPTION>
Actual Regulatory Requirements
- -------------------------------------------- -----------------------------------------
For Capital To Be
Adequacy Purposes "Well Capitalized"
As of June 30, 1999 Amount Ratio Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Total Capital
(to Risk Weighted Assets) $ 48,629 18.57% > $ 20,947 > 8.0% > $ 26,183 > 10.0%
- - - -
Tier 1 Capital
(to Risk Weighted Assets) $ 45,705 17.46% > $ 10,473 > 4.0% > $ 15,710 > 6.0%
- - - -
Tier 1 Capital
(to Average Assets) $ 45,705 10.67% > $ * > * > $ 21,423 > 5.0%
- - - -
*3.0% ($12,854), 4.0% ($17,138) or 5.0% ($21,423) depending on the bank's CAMELS
Rating and other regulatory risk factors.
</TABLE>
<TABLE>
<CAPTION>
Actual Regulatory Requirements
- -------------------------------------------- -----------------------------------------
For Capital To Be
Adequacy Purposes "Well Capitalized"
As of December 31, 1998 Amount Ratio Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Total Capital
(to Risk Weighted Assets) $ 47,289 18.36% > $ 20,610 > 8.0% > $ 25,764 > 10.0%
- - - -
Tier 1 Capital
(to Risk Weighted Assets) $ 44,459 17.26% > $ 10,305 > 4.0% > $ 15,458 > 6.0%
- - - -
Tier 1 Capital
(to Average Assets) $ 44,459 10.29% > $ * > * > $ 21,610 > 5.0%
- - - -
*3.0% ($12,966), 4.0% ($17,288) or 5.0% (21,610) depending on the bank's CAMELS
Rating and other regulatory risk factors.
</TABLE>
<PAGE>
PART 1. FINANCIAL INFORMATION, Item 2 --
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following commentary provides an overview of the financial condition and
significant changes in the results of the operations of Penseco Financial
Services Corporation and its subsidiary ("Penn Security Bank and Trust Company")
for the three months ended June 30, 1999 and June 30, 1998 and for the six
months ended June 30, 1999 and June 30,1998. Throughout this review the
subsidiary of Penseco Financial Services Corporation, Penn Security Bank and
Trust Company, is referred to as the "Company". All intercompany accounts and
transactions have been eliminated in preparing the consolidated financial
statements. All information is presented in thousands of dollars, except as
indicated.
Overview of Financial Condition
The Company reported net income of $2,079 for the six months ending June 30,
1999, a decrease of $216, or 9.4% from the $2,295 reported for the six months
ending June 30, 1998. The decrease in earnings is attributed to lower interest
margins as well as increases in operating expenses, due to the addition of two
branches which were not operational in the first half of 1998.
Loans increased $2.2 million, or 1.0%, while investments decreased $10.4
million, or 8.8% since December 31, 1998. Deposits decreased $11.4 million, or
3.0%, while repurchase agreements increased $1.1 million, or 10.3% since
December 31, 1998.
Net Interest Income and Net Interest Margin
Net interest income, the largest contributor to the Company's earnings, is
defined as the difference between income on assets and the cost of funds
supporting those assets. Earning assets are composed primarily of loans and
investments while deposits and short-term borrowings, in the form of securities
sold under agreements to repurchase, represent interest-bearing liabilities.
Variations in the volume and mix of these assets and liabilities, as well as
changes in the yields earned and rates paid, are determinants of changes in net
interest income.
Net interest income after provision for loan losses increased $53, or 0.6% from
$8,287 for the first half of 1998 to $8,340 in 1999. Largely, this is the result
of there being no need to record an expense for the provision for loan losses
for the three month period ending June 30, 1999, due to a large recovery. In
addition, earning assets repriced downward 55 basis points due to investments
and loans repricing at lower rates, along with interest bearing liabilities
repricing downward 57 basis points, as shown on the following schedule.
Basically, the reduction was due to the lowering of interest rates on time
deposits.
The net interest margin represents the Company's net yield on its earning assets
and is calculated as net interest income divided by average earning assets. In
the first six months of 1999, the net interest margin was 4.14%, falling 5 basis
points from 4.19% in the same period of 1998, the result of a decrease in the
yield on earning assets offset by lower funding costs. Consumers are taking
advantage of lower interest rates by refinancing long term fixed rates, which
are offset by decreases on deposit products.
Total average earning assets and total average interest bearing funds decreased
in the second quarter of 1999 as compared to 1998. Average earning assets
remained relatively unchanged from $405.4 million in 1998 to $405.3 million in
1999 while average interest bearing funds decreased $4.3 million, or 1.3%, from
$330.4 million to $326.1 million for the same periods. As a percentage of
average assets, earning assets decreased from 95.0% in the first half of 1998 to
94.6% in 1999. Average interest bearing funding sources decreased from 77.4% of
total funding sources in the first half of 1998 to 76.1% in the same period in
1999, resulting in a lower cost of funds.
Changes in the mix of earning assets were similar in impact to the changes in
the composition of funding sources in the first half of both 1999 and 1998. The
changes in the mix of earning assets were more significant than the changes in
the composition of funding sources. Average loans as a percentage of average
earning assets increased slightly from 69.3% in 1998 to 70.5% in 1999; average
investments fell slightly from 28.0% to 27.8%. Short-term investments, federal
funds sold and interest bearing balances with banks, decreased from 2.6% of
earning assets to 1.7%. Time deposits decreased $7.5 million, or 4.5% over the
same year ago period ended June 30, 1998. This change in deposit composition
contributed to the reduction of the cost of funds by 57 basis points from the
year ago period.
Shifts in the interest rate environment and competitive factors affected the
rates paid for funds as well as the yields earned on assets. The investment
securities tax effect yield decreased 58 basis points from 6.25% in the first
quarter of 1998 to 5.67% for 1999. Also, average loan yields decreased 44 basis
points, from 8.08% in the first half of 1998 to 7.64% in 1999. The average
certificate of deposit cost of funds decreased from 5.64% in 1998 to 5.06% in
1999. This is the primary cause of the decrease in the total cost of funds from
4.06% in 1998 to 3.49% in 1999.
<PAGE>
Distribution of Assets, Liabilities and Stockholders' Equity / Interest Rates
and Interest Differential
The table below presents average balances, interest income on a fully taxable
equivalent basis and interest expense, as well as average rates earned and paid
on the Company's major asset and liability items for June 30, 1999 and June 30,
1998.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
June 30, 1999 June 30, 1998
ASSETS Average Revenue/ Yield/ Average Revenue/ Yield/
Balance Expense Rate Balance Expense Rate
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Investment Securities
Available-for-sale:
U.S. Treasury securities $ 76,497 $ 2,285 5.97% $ 104,783 $ 3,263 6.23%
U.S. Agency obligations 5,000 142 5.68% - - -
States & political subdivisions 23,653 368 4.71% - - -
Federal Home Loan Bank stock 1,798 57 6.34% - - -
Other 20 1 5.00% 20 1 5.00%
Held-to-maturity:
U.S. Agency obligations 5,624 150 5.33% 8,668 285 6.58%
Loans, net of unearned income:
Real estate mortgages 222,095 8,554 7.70% 218,733 8,893 8.13%
Commercial 22,826 940 8.24% 18,419 774 8.40%
Consumer and other 40,633 1,415 6.96% 43,880 1,681 7.66%
Federal funds sold 5,604 133 4.75% 10,850 300 5.53%
Interest on balances with banks 1,516 38 5.01% 34 1 5.88%
- ------------------------------------------------------------------------------------------------------------------
Total Earning Assets/
Total Interest Income 405,266 $ 14,083 6.95% 405,387 $ 15,198 7.50%
- ------------------------------------------------------------------------------------------------------------------
Cash and due from banks 10,969 10,124
Bank premises and equipment 12,652 9,865
Accrued interest receivable 2,377 3,570
Other assets 97 780
Less: Allowance for loan losses 2,905 2,701
- ------------------------------------------------------------------------------------------------------------------
Total Assets $ 428,456 $ 427,025
- ------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits:
Demand-Interest bearing $ 23,772 $ 127 1.07% $ 23,454 $ 169 1.44%
Savings 72,042 534 1.48% 70,813 699 1.97%
Money markets 58,627 768 2.62% 62,561 967 3.09%
Time - Over $100 42,991 1,162 5.41% 38,111 1,075 5.64%
Time - Other 116,071 2,860 4.93% 128,452 3,631 5.65%
Federal funds purchased 146 3 4.11% 40 1 5.00%
Repurchase agreements 11,710 221 3.77% 6,354 143 4.50%
Short-term borrowings 703 11 3.13% 600 16 5.33%
- ------------------------------------------------------------------------------------------------------------------
Total Interest Bearing Liabilities/
Total Interest Expense 326,062 $ 5,686 3.49% 330,385 $ 6,701 4.06%
- ------------------------------------------------------------------------------------------------------------------
Demand - Non-interest bearing 54,676 49,185
All other liabilities 1,805 2,846
Stockholders' equity 45,913 44,609
- ------------------------------------------------------------------------------------------------------------------
Total Liabilities and
Stockholders' Equity $ 428,456 $ 427,025
- ------------------------------------------------------------------------------------------------------------------
Interest Spread 3.46% 3.44%
- ------------------------------------------------------------------------------------------------------------------
Net Interest Income $ 8,397 $ 8,497
- ------------------------------------------------------------------------------------------------------------------
FINANCIAL RATIOS
Net interest margin 4.14% 4.19%
Return on average assets 0.97% 1.08%
Return on average equity 9.06% 10.29%
Average equity to average assets 10.72% 10.45%
Dividend payout ratio 43.30% 39.25%
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
Provision for Loan Losses
The provision for loan losses represents management's determination of the
amount necessary to bring the allowance for loan losses to a level that
management considers adequate to reflect the risk of future losses inherent in
the Company's loan portfolio. The process of determining the adequacy of the
allowance is necessarily judgmental and subject to changes in external
conditions. The allowance for loan losses reflects management's judgment as to
the level considered appropriate to absorb such losses based upon a review of
many factors, including historical loss experience, adverse situations that may
affect the borrower's ability to repay (including the timing of future
payments), economic conditions and trends, loan portfolio volume and mix, loan
performance trends, the value and adequacy of collateral, and the Company's
internal credit review process. Accordingly, there can be no assurance that
existing levels of the allowance will ultimately prove adequate to cover actual
loan losses. The quarterly provision for loan losses charged to operating
expense is that amount which is sufficient to bring the balance of the allowance
for possible loan losses to an adequate level to absorb anticipated losses.
Based on this ongoing evaluation, management determines the provision necessary
to maintain an appropriate allowance.
In the first six months of 1999, the provision for loan losses was $56, a
decrease from $210 in the first six months of 1998. Loans charged-off totaled
$145 and recoveries were $183. In the same period of 1998, recoveries of $15
offset loans charged off of $25.
Other Income
The following table sets forth information by category of other income for the
Company for three months ended June 30, 1999 and June 30, 1998, respectively:
June 30, June 30,
Three Months Ended : 1999 1998
- --------------------------------------------------------------------
Trust department income $ 247 $ 274
Service charges on deposit accounts 167 159
Other fee income 962 865
Other operating income 31 42
Realized gains on securities, net - -
- --------------------------------------------------------------------
Total Other Income $ 1,407 $ 1,340
- --------------------------------------------------------------------
Other income increased $67, or 5.0% for the three month period ending June 30,
1999 to $1,407, from $1,340 for the three months ended June 30, 1998. Largely
this increase is the result of $39 in ATM service charge income which was
initiated in January 1999, along with improved growth in merchant discounts, due
to increases in our customer base, as well as, increases with our existing
customers.
The following table sets forth information by category of other income for the
Company for six months ended June 30, 1999 and June 30, 1998, respectively:
June 30, June 30,
Six Months Ended : 1999 1998
- --------------------------------------------------------------------
Trust department income $ 505 $ 492
Service charges on deposit accounts 332 318
Other fee income 2,606 2,372
Other operating income 78 69
Realized gains on securities, net - -
- --------------------------------------------------------------------
Total Other Income $ 3,521 $ 3,251
- --------------------------------------------------------------------
Other income increased $270, or 8.3% for the first half of 1999 to $3,521 from
$3,251 for the same period of 1998. Contributing increases came from other fee
income, mainly ATM service charge income of $103 along with $167 from merchant
discounts. In both of these areas the bank realized improved efficiencies, as
well as, increases in our customer base.
<PAGE>
Other Expenses
The following table sets forth information by category of other expenses for the
Company for the three months ended June 30, 1999 and June 30, 1998,
respectively:
June 30, June 30,
Three Months Ended : 1999 1998
- --------------------------------------------------------------------
Salaries and employee benefits $ 1,851 $ 1,849
Expense of premises and fixed assets 682 529
Other operating expenses 1,683 1,498
- --------------------------------------------------------------------
Total Other Expenses $ 4,216 $ 3,876
- --------------------------------------------------------------------
Other expenses increased $340, or 8.8% to $4,216, in the three month period
ending June 30, 1999 as compared to $3,876 in the same period of 1998. Expense
of premises and fixed assets increased due to the addition of two branches which
were not operational in the second quarter of 1998. Other operating expenses
increased primarily due to Mastercard and Visa authorization interchange
expenses which increased $54, or 8.3% due to Mastercard and Visa International
imposing higher transaction costs.
The following table sets forth information by category of other expenses for the
Company for the six months ended June 30, 1999 and June 30, 1998, respectively:
June 30, June 30,
Six Months Ended : 1999 1998
- --------------------------------------------------------------------
Salaries and employee benefits $ 3,772 $ 3,659
Expense of premises and fixed assets 1,327 1,079
Other operating expenses 3,924 3,512
- --------------------------------------------------------------------
Total Other Expenses $ 9,023 $ 8,250
- --------------------------------------------------------------------
Other expenses increased $773, or 9.4% to $9,023, in the first six months of
1999 as compared to $8,250 in the same period of 1998. Salaries and employee
benefits increased $113, or 3.1% due to staff additions, along with higher
health care costs. Expense of premises and fixed assets increased due to the
addition of two branches which were not operational in the first half of 1998.
Other operating expenses increased primarily due to Mastercard and Visa
authorization interchange expenses which increased $213, or 12.1% due to
Mastercard and Visa International imposing higher transaction costs.
Loan Portfolio
June 30, December 31,
As Of: 1999 1998
- -------------------------------------------------------------------------------
Real estate - construction
and land development $ 3,672 $ 4,152
Real estate mortgages 219,321 221,879
Commercial 23,964 18,169
Credit card and related plans 2,097 2,286
Installment 28,310 28,538
Obligations of states
and political subdivisions 8,023 8,195
- -------------------------------------------------------------------------------
Loans, net of unearned income 285,387 283,219
Less: Allowance for loan losses 2,924 2,830
- -------------------------------------------------------------------------------
Loans, net $ 282,463 $ 280,389
- -------------------------------------------------------------------------------
<PAGE>
Loan Quality
The lending activities of the Company are guided by the basic lending policy
established by the Board of Directors. Loans must meet criteria which include
consideration of the character, capacity and capital of the borrower, collateral
provided for the loan, and prevailing economic conditions.
Regardless of credit standards, there is risk of loss inherent in every loan
portfolio. The allowance for loan losses is an amount that management believes
will be adequate to absorb possible losses on existing loans that may become
uncollectible, based on evaluations of the collectibility of the loans. The
evaluations take into consideration such factors as change in the nature and
volume of the loan portfolio, overall portfolio quality, review of specific
problem loans, industry experience, collateral value and current economic
conditions that may affect the borrower's ability to pay. Management believes
that the allowance for loan losses is adequate. While management uses available
information to recognize losses on loans, future additions to the allowance may
be necessary based on changes in economic conditions. In addition, various
regulatory agencies, as an integral part of their examination process,
periodically review the Company's allowance for loan losses. Such agencies may
require the Company to recognize additions to the allowance based on their
judgment of information available to them at the time of their examination.
The allowance for loan losses is increased by periodic charges against earnings
as a provision for loan losses, and decreased periodically by charge-offs of
loans (or parts of loans) management has determined to be uncollectible, net of
actual recoveries on loans previously charged-off.
Non-Performing Assets
Non-performing assets consist of non-accrual loans, loans past due 90 days or
more and still accruing interest and other real estate owned. The following
table sets forth information regarding non-performing assets as of the dates
indicated:
June 30, December 31, June 30,
As Of: 1999 1998 1998
- --------------------------------------------------------------------------------
Non-accrual loans $ 770 $ 929 $ 1,120
Loans past due 90 days or more and accruing:
Guaranteed student loans 328 348 276
Credit card and home equity loans 4 27 21
- -------------------------------------------------------------------------------
Total non-performing loans 1,102 1,304 1,417
Other real estate owned 137 111 105
- -------------------------------------------------------------------------------
Total non-performing assets $ 1,239 $ 1,415 $ 1,522
- --------------------------------------------------------------------------------
Loans are generally placed on a non-accrual status when principal or interest is
past due 90 days or when payment in full is not anticipated. When a loan is
placed on nonaccrual status, all previously accrued but not collected interest
is charged against current income. Loans are returned to accrual status when
past due interest is collected and the collection of principal is probable.
Loans on which the accrual of interest has been discontinued or reduced amounted
to $770 and $1,120 at June 30, 1999 and June 30, 1998, respectively. If interest
on those loans had been accrued, such income would have been $107 and $110 for
the six months ended June 30, 1999 and June 30, 1998, respectively. Interest
income on those loans, which is recorded only when received, amounted to $7 and
$13 for June 30, 1999 and June 30, 1998, respectively. There are no commitments
to lend additional funds to individuals whose loans are in non-accrual status.
The management process for evaluating the adequacy of the allowance for loan
losses includes reviewing each month's loan committee reports which list all
loans that do not meet certain internally developed criteria as to collateral
adequacy, payment performance, economic conditions and overall credit risk.
These reports also address the current status and actions in process on each
listed loan. From this information, adjustments are made to the allowance for
loan losses. Such adjustments include both specific loss allocation amounts and
general provisions by loan category based on present and past collection
experience, nature and volume of the loan portfolio, overall quality, and
current economic conditions that may affect the borrower's ability to pay. As of
June 30, 1999 there are no significant loans as to which management has serious
doubt about their ability to continue to perform in accordance with their
contractual terms.
<PAGE>
At June 30, 1999 and December 31, 1998, the Company did not have any loans
specifically classified as impaired.
Most of the Company's lending activity is with customers located in the
Company's geographic market area and repayment thereof is affected by economic
conditions in this market area.
Loan Loss Experience
The following tables present the Company's loan loss experience during the
periods indicated:
June 30, June 30,
Six Months Ended : 1999 1998
- --------------------------------------------------------------------------------
Balance at beginning of year $ 2,830 $ 2,600
Charge-offs:
Real estate mortgages 82 6
Commercial (time and demand)
and all others 7 6
Credit card and related plans 43 11
Installment loans 13 2
- --------------------------------------------------------------------------------
Total charge-offs 145 25
- --------------------------------------------------------------------------------
Recoveries:
Real estate mortgages - 1
Commercial (time and demand) and all others 168 -
Credit card and related plans 8 8
Installment loans 7 6
- --------------------------------------------------------------------------------
Total recoveries 183 15
- --------------------------------------------------------------------------------
Net (recoveries) charge-offs (38) 10
- --------------------------------------------------------------------------------
Provision charged to operations 56 210
- --------------------------------------------------------------------------------
Balance at End of Period $ 2,924 $ 2,800
- --------------------------------------------------------------------------------
Ratio of net (recoveries) charge-offs
to average loans outstanding -0.013% 0.004%
- --------------------------------------------------------------------------------
The allowance for loan losses is allocated as follows:
<TABLE>
<CAPTION>
As Of: June 30, 1999 December 31, 1998 June 30, 1998
- --------------------------------------------------------------------------------------------------
Amount % * Amount % * Amount % *
<S> <C> <C> <C> <C> <C> <C>
Real estate mortgages $ 1,500 78% $ 1,550 80% $ 1,450 78%
Commercial (time and demand)
and all others 924 11% 830 9% 900 11%
Credit card and related plans 150 1% 150 1% 150 1%
Personal installment loans 350 10% 300 10% 300 10%
- --------------------------------------------------------------------------------------------------
Total $ 2,924 100% $ 2,830 100% $ 2,800 100%
- --------------------------------------------------------------------------------------------------
</TABLE>
* Percent of loans in each category to total loans
Liquidity
The objective of liquidity management is to maintain a balance between sources
and uses of funds in such a way that the cash requirements of customers for
loans and deposit withdrawals are met in the most economical manner. Management
monitors its liquidity position continuously in relation to trends of loans and
deposits for short-term as well as long-term requirements. Liquid assets are
monitored on a daily basis to assure maximum utilization. Management also
manages its liquidity requirements by maintaining an adequate level of readily
marketable assets and access to short-term funding sources.
<PAGE>
The Company remains in a highly liquid condition both in the short and long
term. Sources of liquidity include the Company's substantial U.S. Treasury bond
portfolio, additional deposits, earnings, overnight loans to and from other
companies (Federal Funds) and lines of credit at the Federal Reserve Bank. The
designation of securities as "Held-To-Maturity" lessens the ability of banks to
sell securities so classified, except in regard to certain changes in
circumstances or other events that are isolated, nonrecurring and unusual.
Capital Resources
A strong capital position is important to the continued profitability of the
Company and promotes depositor and investor confidence. The Company's capital
provides a basis for future growth and expansion and also provides additional
protection against unexpected losses.
Additional sources of capital would come from retained earnings from the
operations of the Company and from the sale of additional common stock.
Management has no plans to offer additional common stock at this time.
The Company's total risk-based capital ratio was 18.57% at June 30, 1999. The
Company's risk based capital ratio is almost double the 10.00% ratio that
Federal regulators use as the "well capitalized" threshold. This is the current
criteria which the FDIC uses in determining the lowest insurance rate for
deposit insurance. The Company's risk-based capital ratio is more than double
the 8.00% limit which determines whether a company is "adequately capitalized".
Under these rules, the Company could significantly increase its assets and still
comply with these capital requirements without the necessity of increasing its
equity capital.
Year 2000 Compliance
The "Year 2000" (Y2K) issue is the result of computer programs and files being
written using a two digit as opposed to a four digit year field. Programs which
use two digit year fields in comparing dates, sorting dates or using dates in
calculations can result in system failures or significant miscalculations if not
corrected.
The Company's formal written Y2K Readiness Plan was developed in early 1998,
although much systems and programming work on existing and new systems had been
accomplished long before that date. The plan has awareness, assessment,
renovation, validation and implementation phases. The Company has completed the
awareness and assessment phases of the plan and has substantially completed the
renovation, validation and implementation phases.
Most of the Company's software used in conducting its business has been
internally developed, although the Company does license a minor portion from
third party software vendors. The Company has developed a comprehensive list of
all software and hardware in use within the organization, as well as all systems
that may be affected by computer chip failures such as heating and lighting
systems, elevators, etc.
All mission critical software has been modified, tested and is in production.
Modification, testing and placing in production of all non-mission critical
software has been substantially completed as of June 30, 1999.
The Company is closely tracking the progress each vendor is making in resolving
the problems associated with Y2K. Testing has been completed with third parties
such as MasterCard and Visa, MAC ATM Network and Federal Reserve FedLine.
Additionally, the Company has contacted its major borrowers to determine the
level of progress each has made in addressing the Y2K problem.
The Company has developed, and the Board of Directors has adopted, a Y2K
Contingency Plan. The overall Contingency Plan identifies the Company's core
business processes and analyzes the effect of failures of systems on the ability
to perform the various business processes. It further identifies those systems
which are mission critical - those which the Company cannot do without for more
than a day or two, and those that the Company can alternately process on a
manual basis or not process at all for a week or two - non-mission critical. For
all systems, an Extensive Business Resumption Contingency Plan provides for
alternative methods of doing business in the unlikely event of a system
malfunction.
The Contingency Plan also covers what the Company will do if electricity and/or
communications fail. It also provides for coverage of additional funding and
cash needs which may arise before and after the century date change and provides
for the possible temporary closing of offices due to loss of security systems,
electricity, etc.
The responsibility of validating the Contingency Plan lies with the Company's
Director of Internal Audit. The Contingency Plan was completed as of June 30,
1999, although, it is a document that will be continually updated as systems
change in the future. The Contingency Plan will be tested and validated during
the third and fourth quarters of this year.
<PAGE>
The estimated cost for resolving the Y2K issues is $120,000, and $110,000 has
been spent so far. These costs are, to a large degree, absorbed as ordinary
operating expenses as most of the work is being performed by regular Company
staff. This concentrated effort has forced the postponement of a number of
projects, including, but not limited to, fully implementing the new continuous
form laser printer, image processing and Internet access.
PART II. OTHER INFORMATION
Item 1 -- Legal Proceedings
None.
Item 2 -- Changes in Securities
None.
Item 3 -- Defaults Upon Senior Securities
None.
Item 4 -- Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders of Penseco Financial Services
Corporation was held on May 4, 1999.
The results of the items submitted for a vote are as follows:
The following three Directors, whose term will expire in 2003, were
elected:
number of votes number of votes number of
cast for director cast against director votes not cast
----------------- --------------------- --------------
Edwin J. Butler 1,903,590 3,760 240,650
P. Frank Kozik 1,886,212 21,138 240,650
Item 5 -- Other Information
None.
Item 6 -- Exhibits and Reports on Form 8-K
a. Exhibits
27.0 Financial Data Schedule
b. Reports on Form 8-K
No reports on Form 8-K were filed in the quarter ended June 30, 1999.
<PAGE>
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.
PENSECO FINANCIAL SERVICES
By /s/ RICHARD E. GRIMM
------------------------------
Richard E. Grimm
Executive Vice-President
Dated: August 13, 1999
By /s/ PATRICK SCANLON
------------------------------
Patrick Scanlon
Controller
Dated: August 13, 1999
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> JUN-30-1999
<CASH> 12,703
<INT-BEARING-DEPOSITS> 517
<FED-FUNDS-SOLD> 3,700
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 102,970
<INVESTMENTS-CARRYING> 5,422
<INVESTMENTS-MARKET> 5,285
<LOANS> 285,387
<ALLOWANCE> 2,924
<TOTAL-ASSETS> 426,288
<DEPOSITS> 366,126
<SHORT-TERM> 12,670
<LIABILITIES-OTHER> 2,361
<LONG-TERM> 0
0
0
<COMMON> 21
<OTHER-SE> 45,110
<TOTAL-LIABILITIES-AND-EQUITY> 426,288
<INTEREST-LOAN> 10,909
<INTEREST-INVEST> 3,004
<INTEREST-OTHER> 170
<INTEREST-TOTAL> 14,083
<INTEREST-DEPOSIT> 5,687
<INTEREST-EXPENSE> 5,687
<INTEREST-INCOME-NET> 8,396
<LOAN-LOSSES> 56
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 9,023
<INCOME-PRETAX> 2,838
<INCOME-PRE-EXTRAORDINARY> 2,838
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,079
<EPS-BASIC> .97
<EPS-DILUTED> .97
<YIELD-ACTUAL> 6.95
<LOANS-NON> 770
<LOANS-PAST> 1,102
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 2,830
<CHARGE-OFFS> 145
<RECOVERIES> 183
<ALLOWANCE-CLOSE> 2,924
<ALLOWANCE-DOMESTIC> 2,924
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
