<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X Quarterly Report Pursuant to Section 13 or 15(d)
---
of the Securities Exchange Act of 1934
For Nine Months Ended September 30, 1999
or
Transition Report Pursuant to Section 13 or 15(d)
---
of the Securities Exchange Act of 1934
For the transition period from____________to____________
Commission File Number 0-7974
CHITTENDEN CORPORATION
(Exact Name of Registrant as Specified in its Charter)
VERMONT 03-0228404
(State of Incorporation) (IRS Employer Identification No.)
TWO BURLINGTON SQUARE
BURLINGTON, VERMONT 05401
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number: (802) 658-4000
NOT APPLICABLE
Former Name, Former Address and Formal Fiscal Year
If Changed Since Last Report
Indicate by checkmark 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
--- ---
At November 5, 1999, there were 28,335,073 shares of the Corporation's $1.00 par
value common stock issued and outstanding.
1
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
2
<PAGE>
Chittenden Corporation
Consolidated Balance Sheets
(Unaudited)
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
(Restated)
------------------------------
(in thousands)
<S> <C> <C>
Assets
Cash and cash equivalents $ 257,711 $ 267,748
Securities available for sale 756,537 993,370
FHLB and FRB stock 21,979 21,979
Mortgage loans held for sale 15,206 53,684
Loans:
Commercial 524,813 480,801
Municipal 119,673 97,189
Real Estate:
Residential 1,091,991 1,106,135
Commercial 654,040 573,253
Construction 57,155 69,690
------------------------------
Total Real Estate 1,803,186 1,749,078
Consumer 502,867 414,830
------------------------------
Total Loans 2,950,539 2,741,898
Less: Allowance for loan losses (40,844) (41,209)
------------------------------
Net loans 2,909,695 2,700,689
Accrued interest receivable 31,383 32,523
Other real estate owned 695 1,870
Other assets 77,187 52,108
Premises and equipment, net 48,449 71,012
Intangible assets 44,854 69,460
------------------------------
Total assets $4,163,696 $4,264,443
==============================
Liabilities:
Deposits:
Demand $ 599,679 $ 613,645
Savings 2,005,395 2,059,028
Certificates of deposit less than $100,000 and other time deposits 770,208 798,921
Certificates of deposit $100,000 and over 220,177 208,177
------------------------------
Total deposits 3,595,459 3,679,771
Short-term borrowings 144,659 135,276
Accrued expenses and other liabilities 70,103 59,936
------------------------------
Total liabilities 3,810,221 3,874,983
Commitments and contingencies
Stockholders' Equity:
Preferred stock - $100 par value
authorized - 1,000,000 shares; issued and outstanding - none
Common stock - $1 par value authorized - 60,000,000 shares;
issued -28,318,356 in 1999 and 30,153,669 in 1998 28,318 30,154
Surplus 148,366 188,431
Retained earnings 181,193 214,329
Treasury stock, at cost - 246 shares in 1999 and 2,216,599 shares in 1998 (1) (49,650)
Accumulated other comprehensive income (4,193) 6,462
Unearned portion of employee restricted stock (208) (266)
------------------------------
Total stockholders' equity 353,475 389,460
------------------------------
Total liabilities and stockholders' equity $4,163,696 $4,264,443
==============================
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
Chittenden Corporation
Consolidated Statements of Operations
(Unaudited)
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
1999 1998 1999 1998
(Restated) (Restated)
---------------------------------------------------------
(in thousands, except per share data)
<S> <C> <C> <C> <C>
Interest income:
Interest on loans $59,765 $59,971 $173,793 $177,917
Investment securities:
Taxable 12,160 13,913 40,115 42,326
Tax-favored 339 276 1,398 1,455
Short-term investments 840 1,257 1,735 2,935
---------------------------------------------------------
Total interest income 73,104 75,417 217,041 224,633
---------------------------------------------------------
Interest expense:
Deposits:
Savings 14,499 16,243 42,823 46,955
Time 12,274 13,329 38,192 41,187
---------------------------------------------------------
Total interest on deposits 26,773 29,572 81,015 88,142
Short-term borrowings 1,587 1,937 4,799 6,929
---------------------------------------------------------
Total interest expense 28,360 31,509 85,814 95,071
---------------------------------------------------------
Net interest income 44,744 43,908 131,227 129,562
Provision for loan losses 2,175 2,250 6,525 6,960
---------------------------------------------------------
Net interest income after provision for loan losses 42,569 41,658 124,702 122,602
---------------------------------------------------------
Noninterest income:
Investment management and trust income 3,606 3,249 10,805 9,504
Service charges on deposit accounts 4,522 4,863 13,537 15,049
Mortgage servicing income 736 829 2,476 2,420
Gains on sales of mortgage loans, net 940 1,858 4,139 5,945
Credit card income, net 1,782 1,408 4,650 4,532
Insurance commissions, net 593 819 1,794 2,362
Gain on sales of securities - 95 - 356
Other 5,634 3,857 12,928 9,982
---------------------------------------------------------
Total noninterest income 17,813 16,978 50,329 50,150
---------------------------------------------------------
Noninterest expense:
Salaries 14,353 15,196 43,972 44,021
Employee benefits 4,066 4,355 13,276 13,230
Net occupancy expense 5,495 6,079 18,519 18,921
Other real estate owned, income and expense, net (43) 187 248 762
Amortization of intangibles 547 1,464 3,475 4,413
Special charges - - 70,995 -
Other 11,201 11,213 32,562 32,280
---------------------------------------------------------
Total noninterest expense 35,619 38,494 183,047 113,627
---------------------------------------------------------
Income (Loss) before income taxes 24,763 20,142 (8,016) 59,125
Income tax expense 8,834 7,623 8,540 22,351
---------------------------------------------------------
Net income (Loss) $15,929 $12,519 $(16,556) $ 36,774
=========================================================
Basic earnings (loss) per share $0.56 $0.44 $(0.59) $1.29
Diluted earnings (loss) per share 0.56 0.44 (0.59) 1.27
Dividends per share 0.22 0.18 0.59 0.51
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements
4
<PAGE>
<TABLE>
<CAPTION>
For the Nine Months
Ended September 30,
1999 1998
(Restated)
-----------------------
(in thousands)
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (16,556) $ 36,774
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Provision for loan losses 6,525 6,960
Depreciation and amortization 7,087 8,099
Amortization of intangible assets 3,475 4,413
Amortization of premiums, fees, and discounts, net 3,256 3,979
Gain on sales of securities - (356)
Merger related expenses 49,866 -
Write-off of impaired goodwill 21,129 -
Deferred income taxes (37,922) 3,226
Loans originated and purchased for sale (392,241) (511,146)
Proceeds from sales of loans 434,858 495,875
Gains on sales of loans (4,139) (5,945)
Changes in assets and liabilities:
Accrued interest receivable 1,140 3,384
Other assets (7,612) 14,706
Accrued expenses and other liabilities 12,857 (6,701)
-----------------------
Net cash provided by operating activities 81,723 53,268
-----------------------
Cash flows from investing activities:
Proceeds from sales of securities available for sale - 31,566
Proceeds from maturing securities and principal payments
on securities available for sale 586,321 416,706
Purchases of securities available for sale (366,396) (459,183)
Loans originated, net of principal repayments (219,384) (55,658)
Purchases of premises and equipment (8,385) (8,157)
-----------------------
Net cash used in investing activities (7,844) (74,726)
-----------------------
Cash flows from financing activities:
Net increase (decrease) in deposits (84,312) 117,934
Net increase (decrease) in short-term borrowings 9,383 (43,099)
Cash paid for fractional shares (37) -
Proceeds from issuance of treasury and common stock 7,630 1,191
Dividends on common stock (16,580) (14,546)
Cash paid to list on New York Stock Exchange, net of taxes - (93)
Repurchase of common stock - (19,792)
-----------------------
Net cash provided by (used in) financing activities (83,916) 41,595
-----------------------
Net increase (decrease) in cash and cash equivalents (10,037) 20,137
Cash and cash equivalents at beginning of period 267,748 241,403
-----------------------
Cash and cash equivalents at end of period $ 257,711 $ 261,540
=======================
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 85,536 $ 92,228
Income taxes 16,846 8,709
Non-cash investing and financing activities:
Loans transferred to other real estate owned 1,028 2,809
Issuance of treasury and restricted stock 75 119
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
Chittenden Corporation
Notes to Consolidated Financial Statements
NOTE 1 - ACCOUNTING POLICIES
The Company's significant accounting policies, other than those described in
Note 4 below, are described in Note 1 of the Notes to Consolidated Financial
Statements included in its 1998 Annual Report on Form 10-K filed with the
Securities and Exchange Commission. For interim reporting purposes, the Company
follows the same basic accounting policies and considers each interim period as
an integral part of an annual period. Certain amounts for 1998 have been
reclassified to conform to 1999 classifications.
The financial information included herein is unaudited; however, such
information reflects all adjustments (consisting of normal recurring
adjustments) which are, in the opinion of management, necessary for a fair
statement of results for the interim periods. Results for interim periods are
not necessarily indicative of the results of operations for the full year or any
other interim period.
NOTE 2 - ACQUISITIONS
On May 28, 1999, the Company acquired Vermont Financial Services Corp. (VFSC)
of Brattleboro, Vermont for stock. VFSC's subsidiary banks included Vermont
National Bank, headquartered in Brattleboro, Vermont and United Bank,
headquartered in Greenfield, Massachusetts. Under the agreement, VFSC
shareholders received 1.07 shares of Chittenden Corporation common stock for
each share of VFSC stock. Total shares outstanding of Chittenden Corporation
stock increased by approximately 14 million shares as a result of the
acquisition. Based on the closing price of Chittenden stock as of May 28, 1999,
the market value of the shares exchanged totaled $387.2 million. The
acquisition was accounted for as a pooling of interests. Accordingly, the
consolidated financial statements for the periods presented have been restated
to include VFSC.
Total revenue, income before taxes, net income, and earnings per share data
of the separate companies for the periods preceding the acquisition were:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, 1998 Ended September 30, 1998
Chittenden Chittenden
Corporation VFSC Combined Corporation VFSC Combined
------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Total Revenue $31,229 $29,657 $60,886 $92,381 $87,331 $179,712
Income before Income Taxes 11,805 8,337 20,142 34,776 24,349 59,125
Net Income 7,704 4,815 12,519 22,870 13,904 36,774
Diluted Earnings Per Share 0.53 0.37 0.44 1.55 1.05 1.27
<CAPTION>
For the Three Months
Ended March 31, 1999
Chittenden
Corporation VFSC Combined
----------------------------------------
<S> <C> <C> <C>
Total Revenue $30,673 $28,654 $59,327
Income before Income Taxes 11,072 7,722 18,794
Net Income 7,495 4,424 11,919
Diluted Earnings Per Share 0.52 0.34 0.42
</TABLE>
Total revenue includes net interest income and noninterest income.
NOTE 3 - SPECIAL CHARGES
Special charges of $71 million (pre-tax) were recorded during the second
quarter of 1999 which included merger related expenses of $49.9 million and
$21.1 million related to the write-off of impaired goodwill. The merger related
expenses included asset disposal write-downs, conversion, severance and
transaction costs, such as legal, advisory and accounting fees. The impaired
goodwill, which related to VFSC's purchase of Eastern Bancorp, was written-off
as a result of divestitures required by the U.S. Department of Justice and the
Federal Reserve. On an after-tax basis, special charges amounted to $56.5
million in the second quarter of 1999. Included in accrued expenses and other
liabilities at September 30, 1999, are merger related expenses totaling $18.0
million which will be paid in future periods.
6
<PAGE>
The change in accrued merger related expenses at September 30, 1999 is
summarized below:
<TABLE>
<CAPTION>
Less: Less: Accrual Balance as
Original Accrual Cash Transactions Write-downs of September 30, 1999
=========================================================================
<S> <C> <C> <C> <C>
Compensation and Benefits $10,030 $ 1,429 $ - $ 8,601
System Conversion 8,278 3,444 - 4,834
Legal and Professional 7,109 7,109 - -
Fixed Asset Disposal 23,862 1,368 18,246 4,248
Other 587 225 - 362
-------------------------------------------------------------------------
Total $49,866 $13,575 $18,246 $18,045
=========================================================================
</TABLE>
NOTE 4 - RECENTLY ADOPTED ACCOUNTING POLICIES
Effective January 1, 1999, the Company adopted Statement of Position (SOP)
98-1, Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use. SOP 98-1 requires computer software costs associated with
internal-use software to be expensed as incurred until certain capitalization
criteria are met. The adoption of SOP 98-1 did not have a material effect on
the Company's financial position or its results of operations.
As of January 1, 1999, the Company adopted Statement of Position (SOP) 98-5,
Reporting on the Costs of Start-Up Activities. SOP 98-5 requires all costs
associated with pre-opening, pre-operating and organization activities to be
expensed as incurred. The adoption of SOP 98-5 did not have a material impact
on the Company's financial position or results of operations.
Effective January 1, 1999, the Company adopted SFAS No. 134, Accounting for
Mortgage-Backed Securities Retained After the Securitization of Mortgage Loans
Held for Sale by a Mortgage Banking Enterprise. This statement requires that
after the securitization of mortgage loans held for sale, an entity engaged in
mortgage banking activities classify the resulting mortgage-backed securities or
other retained interests based on its ability and intent to sell or hold those
investments. SFAS No. 134 did not have a material impact on the Company's
financial condition or results of operations.
NOTE 5 - RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities ("SFAS 133"). SFAS 133 establishes the accounting and
reporting standards requiring that every derivative instrument (including
certain derivative instruments embedded in other contracts) be recorded in the
balance sheet as either an asset or a liability measured at its fair value. The
Statement requires that changes in the derivative's fair value be recognized
currently in earnings unless specific hedge accounting criteria are met.
Special accounting for qualifying hedges allows a derivative's gains and losses
to offset related results on the hedged item in the income statement, and
requires that a company must formally document, designate, and assess the
effectiveness of transactions that receive hedge accounting treatment.
Statement 133, as amended by SFAS No. 137, "Accounting for Derivative
Instruments and Hedging Activiities - Deferral of the Effective Date of FASB
Statement No. 133," is effective for the Company's fiscal year beginning January
1, 2001. The Company has the option to elect to early adopt the Statement at
the beginning of its next fiscal quarter. The statement cannot be applied
retroactively. Statement 133 must be applied to (a) derivative instruments and
(b) certain derivative instruments embedded in hybrid contracts that were
issued, acquired, or substantively modified after December 31, 1997 (and, at the
Company's election, before January 1, 1998). The Company has not yet quantified
the impact of adopting Statement 133 on its consolidated financial statements
and has not determined the timing of or method of its adoption of the Statement.
7
<PAGE>
NOTE 6 - COMPREHENSIVE INCOME
The Company's comprehensive income for the three-month and nine-month periods
ended September 30, 1999 and 1998 is presented below:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
1999 1998 1999 1998
----------------------------------------------
(In Thousands)
<S> <C> <C> <C> <C>
Net Income $15,929 $12,519 $(16,556) $36,774
Unrealized gains (losses) on investment securities:
Unrealized holding gains (losses) on securities available for
sale, net of tax (1,405) 6,806 (10,655) 7,704
Reclassification adjustments for (gains) losses arising during
period, net of tax - (56) - (211)
----------------------------------------------
Total Comprehensive income $14,524 $19,269 $(27,211) $44,267
==============================================
</TABLE>
NOTE 7 - BUSINESS SEGMENTS
On January 1, 1998, the Company adopted Statement of Financial Accounting
Standards (SFAS) No. 131, Disclosures about Segments of an Enterprise and
Related Information, which establishes standards for reporting operating
segments of a business enterprise. Under SFAS 131, operating segments are
defined as components of an enterprise which are evaluated regularly by the
chief operating decision maker in deciding how to allocate resources and in
assessing performance. The Company's chief operating decision-maker is the
Chairman, President and Chief Executive Officer of the Company. The adoption of
SFAS 131 did not have a material effect on the Company's primary financial
statements, but did result in the disclosure of segment information contained
herein.
The Company has identified Commercial Banking as its reportable operating
business segment based on the fact that the chief operating decision-maker views
the results of operations as a single strategic unit. The Commercial Banking
segment is comprised of Chittenden Bank, Vermont National Bank, The Bank of
Western Massachusetts, Flagship Bank and Trust, and Chittenden Connecticut
Corporation, which provide similar products and services, have similar
distribution methods, types of customers and regulatory responsibilities.
Commercial Banking derives its revenue from a wide range of banking services,
including lending activities, acceptance of demand, savings and time deposits,
safe deposit facilities, merchant credit card services, trust and investment
management, data processing, brokerage services, mortgage banking, and loan
servicing for investor portfolios.
Immaterial operating segments of the Company's operations, which do not have
similar characteristics to the commercial banking operations and do not meet the
quantitative thresholds requiring disclosure, are included in the Other category
in the disclosure of business segments below.
The accounting policies used in the disclosure of business segments are the
same as those described in the summary of significant accounting policies
included in Note 1 of the Company's 1998 Annual Report on Form 10-K. The
consolidation adjustment reflects certain eliminations of inter-segment revenue,
cash and parent company investments in subsidiaries.
<TABLE>
<CAPTION>
For the Three Months Ended Commercial Consolidation
Banking Other (2) Adjustments Consolidated
--------------------------------------------------------------
September 30, 1999
<S> <C> <C> <C> <C>
Net interest revenue (1) $ 44,618 $ 126 - $ 44,744
Noninterest income 17,165 699 $ (51) 17,813
Provision for Loan Losses 2,175 - - 2,175
Noninterest expense 34,750 920 (51) 35,619
--------------------------------------------------------------
Net income before tax 24,858 (95) - 24,763
Income tax expense/(benefit) 8,848 (14) - 8,834
--------------------------------------------------------------
Total Net Income $ 16,010 $ (81) $ - $ 15,929
==============================================================
End of Period Assets $4,169,305 $369,366 $(374,975) $4,163,696
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
For the Three Months Ended Commercial Consolidation
Banking Other (2) Adjustments Consolidated
--------------------------------------------------------------
September 30, 1998
<S> <C> <C> <C> <C>
Net interest revenue (1) $ 43,803 $ 105 - $ 43,908
Noninterest income 15,980 1,025 $ (27) 16,978
Provision for Loan Losses 2,250 - - 2,250
Noninterest expense 37,284 1,237 (27) 38,494
--------------------------------------------------------------
Net income before tax 20,249 (107) - 20,142
Income tax expense/(benefit) 7,563 60 - 7,623
--------------------------------------------------------------
Total Net Income $ 12,686 $ (167) $ - $ 12,519
==============================================================
End of Period Assets $4,144,880 $400,894 (386,693) $4,159,081
</TABLE>
<TABLE>
<CAPTION>
For the Nine Months Ended Commercial Consolidation
Banking Other (2) Adjustments Consolidated
---------------------------------------------------------------
September 30, 1999
<S> <C> <C> <C> <C>
Net interest revenue (1) $ 130,938 $ 289 - $ 131,227
Noninterest income 48,431 1,954 $ (56) 50,329
Provision for Loan Losses 6,525 - - 6,525
Noninterest expense 167,888 15,215 (56) 183,047
---------------------------------------------------------------
Net income before tax 4,956 (12,972) - (8,016)
Income tax expense/(benefit) 8,819 (279) - 8,540
---------------------------------------------------------------
Total Net Income $ (3,863) $(12,693) $ - $ (16,556)
===============================================================
End of Period Assets $4,169,305 $369,366 (374,975) $4,163,696
</TABLE>
<TABLE>
<CAPTION>
For the Nine Months Ended Commercial Consolidation
Banking Other (2) Adjustments Consolidated
--------------------------------------------------------------
September 30, 1998
<S> <C> <C> <C> <C>
Net interest revenue (1) $ 129,246 $ 318 - $ 129,564
Noninterest income 47,624 2,558 $ (33) 50,149
Provision for Loan Losses 6,960 - - 6,960
Noninterest expense 110,090 3,571 (33) 113,628
--------------------------------------------------------------
Net income before tax 59,820 (695) - 59,125
Income tax expense/(benefit) 22,363 (12) - 22,351
---------------------------------------------------------------
Total Net Income $ 37,457 $ (683) $ - $ 36,774
==============================================================
End of Period Assets $4,144,880 $400,894 $(386,693) $4,159,081
</TABLE>
(1) The Commercial Banking segment derives a majority of its revenue from
interest. In addition, management primarily relies on net interest
revenue, not the gross revenue and expense amounts, in managing that
segment. Therefore, only the net amount has been disclosed.
(2) Revenue derived from these non-reportable segments includes insurance
commissions from various insurance related products and services.
NOTE 8 - SUBSEQUENT EVENT
On October 21, 1999, the Company declared regular dividends of approximately
$6.2 million, or $0.22 per share, to be paid on November 19, 1999 to
shareholders of record on November 5, 1999.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of Operations
On May 28, 1999, Chittenden Corporation ("Chittenden" or "the Company")
completed the acquisition of Vermont Financial Services Corp. (VFSC) in a stock-
for-stock transaction accounted for as a pooling of interests. Accordingly, the
9
<PAGE>
consolidated financial statements of the Company have been restated to reflect
the acquisition as of the beginning of the earliest period presented. The
Company recognized $56.5 million of after-tax special charges in the second
quarter of 1999. Results excluding these special charges are referred to in the
following discussion as operating.
A reconciliation of the Company's net income to its operating earnings for
the three-month and nine-month periods ended September 30, 1999 and 1998 is
presented below:
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ended September 30, Ended September 30,
---------------------------------------------
<S> <C> <C> <C> <C>
Net income (loss) $15,929 $12,519 $(16,556) $36,774
Less:
Adjustment for special Charges - - 70,995 -
Gain on branch sale (1,739) - (1,739) -
Tax effect of adjustment for special charge - - (14,465) -
Tax effect of adjustment for gain on branch sale 608 - 608 -
---------------------------------------------
Operating Net Income $14,798 $12,519 $ 38,843 $36,774
=============================================
Diluted Operating EPS $ 0.52 $ 0.44 $1.36 $ 1.27
</TABLE>
The Company has entered into contracts with three banking organizations to
sell eighteen branches under divestitures required by the U.S. Department of
Justice and the Federal Reserve as conditions of the approval of the merger
transaction with VFSC. Total loans and deposits to be transferred to the buyers
are approximately $139 million and $459 million, respectively. One of the
eighteen branch sales was completed during the third quarter of 1999, sixteen of
the remaining seventeen branch sales are expected to be completed in the fourth
quarter of 1999, while the final sale is expected to be completed in the first
quarter of 2000.
Chittenden Corporation posted third quarter 1999 operating net income of
$0.52 per diluted share, compared to the $0.44 per diluted share posted in the
third quarter of last year. Operating net income for the third quarter of 1999
was $14.8 million, compared to the $12.5 million recorded in the same quarter a
year ago. Operating return on average equity was 18.30% for the quarter ended
September 30, 1999 compared with 13.07% for the same period in 1998. Operating
return on average assets was 1.43% for the third quarter of 1999, up from 1.22%
for the third quarter of last year.
For nine months of 1999, diluted operating earnings per share were $1.36, an
increase over the $1.27 per share for the same time period in 1998. Year to
date operating net income for 1999 was $38.8 million, which was up compared to
$36.8 million for 1998. Operating return on average equity and operating return
on average assets for nine months of 1999 were 14.86% and 1.26%, up from the
12.98% and 1.21% reported in 1998. The increases in operating return on equity
were attributable to higher levels of operating net income and lower levels of
average stockholders equity in the third quarter of 1999, which resulted from
the one-time merger related charges taken in the second quarter.
Net interest income on a tax equivalent basis for the three months ended
September 30, 1999 was $45.5 million, up slightly from $44.9 million for the
same period a year ago. The yield on earning assets declined slightly from
4.74% in the third quarter of 1998 to 4.73% for the same period in 1999 but rose
from 4.61% in the second quarter of 1999. Net interest income on a tax
equivalent basis for the nine months ended September 30, 1999 was $133.5
million, up from $131.9 million for the same period a year ago. The yield on
earning assets declined from 4.75% for the first nine months of 1998 to 4.65%
for the same period in 1999. The increase in net interest income for the
comparable nine month periods is attributable to higher levels of average
earning assets, which offset the decline in the net yield.
10
<PAGE>
The following table presents an analysis of average rates and yields on a fully
taxable equivalent basis for the nine months ended September 30,
<TABLE>
<CAPTION>
1999 1998
-----------------------------------------------------------------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
Balance Expense (1) Rate (1) Balance Expense (1) Rate (1)
-----------------------------------------------------------------------
Assets (in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans $2,848,692 $175,529 8.24% $2,723,523 $179,637 8.82%
Investments:
Taxable 893,843 40,115 6.00% 878,913 42,326 6.44%
Tax-favored securities 47,800 1,967 5.50% 41,233 2,069 6.71%
Interest-bearing deposits in banks 3,856 79 2.75% 4,438 210 6.34%
Federal funds sold 44,088 1,656 5.02% 63,941 2,698 5.64%
------------------------- ------------------------
Total interest-earning assets 3,838,279 219,346 7.64% 3,712,048 226,940 8.17%
------------- -------------
Noninterest-earning assets 330,634 390,364
Allowance for loan losses (42,513) (45,546)
------------ -----------
Total assets $4,126,400 $4,056,866
============ ===========
Liabilities and stockholders' equity
Interest-bearing liabilities:
Savings and interest-bearing transactional accounts $1,970,057 $ 42,823 2.91% $1,854,007 $ 46,955 3.39%
Certificates of deposit under $100,000 and other 829,502 31,495 5.08% 858,337 33,348 5.19%
time deposits
Certificates of deposit $100,000 and over 196,608 6,697 4.55% 200,858 7,839 5.22%
------------------------- ------------------------
Total interest-bearing deposits 2,996,167 81,015 3.62% 2,913,202 88,142 4.05%
Short-term borrowings 130,885 4,799 4.90% 162,937 6,929 5.68%
------------------------- ------------------------
Total interest-bearing liabilities 3,127,052 85,814 3.67% 3,076,139 95,071 4.13%
------------- -------------
Noninterest-bearing liabilities:
Demand deposits 595,262 545,648
Other liabilities 54,496 56,341
------------ -----------
Total liabilities 3,776,810 3,678,128
Stockholders' equity 349,590 378,738
------------ -----------
Total liabilities and stockholders' equity $4,126,400 $4,056,866
============ ===========
Net interest income $133,532 $131,869
============= =============
Interest rate spread (2) 3.97% 4.04%
Net yield on earning assets (3) 4.65% 4.75%
</TABLE>
(1) On a fully taxable equivalent basis, which is calculated using a Federal
income tax rate of 35%. Loan income includes fees.
(2) Interest rate spread is the average rate earned on total interest-earning
assets less the average rate paid on interest-bearing liabilities.
(3) Net yield on earning assets is net interest income divided by total
interest-earning assets.
In the third quarter of 1999, the Company recorded a net gain of approximately
$1.7 million on the sale of the Vermont National Ludlow branch. The sale was
the first of eighteen branches required to be divested as a condition of
regulatory approval of the VFSC acquisition. Sixteen of the remaining seventeen
branches will be divested in the fourth quarter of 1999 and the last branch will
be divested in the first quarter of 2000. Including the gain on the Ludlow
branch sale, net income for the third quarter of 1999 was $15.9 million, or
$0.56 per diluted share.
Operating noninterest income amounted to $16.1 million for the third quarter
of 1999, down from $17.0 million for the third quarter of 1998. Investment
management revenue of $3.6 million increased 10% compared to $3.2 million in the
third quarter of 1998, due to increased assets under management. This revenue
partially offset a $918,000 decrease in gains on sales of mortgage loans related
to lower volumes due to higher market interest rates.
Operating noninterest income for nine months of 1999 was $48.6 million, down
from the $50.1 million recorded for the same period last year. The decrease is
primarily attributable to the $1.8 million reduction in gains on sales of
mortgage loans.
Operating noninterest expenses were $35.6 million for the third quarter, and
$112.1 million for nine months of 1999. These amounts were $2.9 million and
$1.6 million, or approximately 7% and 1%, lower than the comparable periods in
1998. The reduction in noninterest expenses was due to lower levels of
amortization of intangibles resulting from the writedown of goodwill related to
the merger, reduced compensation expense caused by lower staffing levels, and
11
<PAGE>
reduced depreciation expense related to duplicative fixed assets written off as
a result of the merger. Special charges of $71 million (pre-tax) were incurred
during the second quarter of 1999 which included merger related expenses of
$49.9 million and $21.1 million related to the write-off of impaired goodwill.
The merger related expenses included asset disposal write-downs, conversion,
severance and transaction costs, such as legal, advisory and accounting fees.
The impaired goodwill, which related to VFSC's purchase of Eastern Bancorp, was
written-off as a result of divestitures required by the U.S. Department of
Justice and the Federal Reserve. On an after-tax basis, special charges
amounted to $56.5 million in the second quarter of 1999. Included in accrued
expenses and other liabilities at September 30, 1999, are merger related
expenses of $18.0 million which will be paid in future periods.
Income Taxes
The Company and its subsidiaries are taxed on income by the IRS at the Federal
level and by various states in which they do business. The majority of the
Company's income is generated in the State of Vermont, which levies franchise
taxes on banks based upon average deposit levels in lieu of taxing income.
Franchise taxes are included in income tax expense in the consolidated
statements of income.
For the nine months ended September 30, 1999 and 1998, Federal and state
income tax provisions amounted to $8.5 million and $22.4 million, respectively.
The provision for 1999 is net of a $14.4 million tax benefit associated with the
tax-deductible portion of the merger related one-time charge taken in the second
quarter. The effective tax rates for the respective periods were 36.5% and
37.8%. During all periods, the Company's statutory Federal corporate tax rate
was 35%. The Company's effective tax rates differed from the statutory rates
primarily because of non-tax-deductible amortization of goodwill related to
VFSC's acquisition of Eastern Bancorp. The higher effective rate produced by
these nondeductible expenses was partially reduced by 1) the proportion of
interest income from state and municipal securities and corporate dividend
income, which are partially exempt from Federal taxation and 2) tax credits on
investments in qualified low income housing projects. The reduction in the
Company's effective tax rate from 1998 to 1999 reflects lower levels of non-tax
deductible goodwill resulting from the impaired goodwill written off in the
second quarter of 1999 upon the consummation of the merger of Chittenden and
VFSC.
As noted above, the Company recorded $71 million in special charges in the
second quarter of 1999, which included $49.9 million of merger related expenses
and $21.1 million related to the write-off of impaired goodwill. No tax benefit
was recorded in relation to the goodwill write-off since that expense is not tax
deductible. In addition, no tax benefit was recognized in relation to certain
non-deductible merger related expenses including investment advisory, legal and
accounting fees incurred as part of the transaction. Tax benefits were
recognized at the Company's marginal federal tax rate of 35% in relation to all
deductible merger related expenses including severance and related expenses,
conversion of systems, and dispositions of duplicative assets.
Financial Position
Total assets decreased from $4.264 billion at December 31, 1998 to $4.164
billion at September 30, 1999. The Company invests the majority of its assets
in loans and investments. Total loans increased $209 million, to $3.0 billion at
September 30, 1999. This increase was primarily attributable to growth in the
commercial and consumer portfolios, which offset prepayments in the residential
portfolios. Consistent with the Company's past practice, all conforming fixed-
rate loan production is sold on the secondary market. Total deposits at
September 30, 1999 were $3.6 billion, an $84.3 million decrease from December
31, 1998 due to a decline in seasonally high deposit balances at year end 1998
and as well as to the divestiture of $45 million of deposits in branch sales
during the third quarter of 1999. Despite the divested deposits, total deposits
increased by $38.3 million from September 30, 1998 to September 30, 1999.
Securities available for sale decreased $237 million from December 31, 1998 to
$757 million at September 30, 1999. The decline was primarily due to a decrease
in short-term investments, which matured during the nine months of 1999
providing available funds to support the increase in loans and decline in
deposits at September 30, 1999.
Credit Quality
Nonperforming assets include nonaccrual loans and foreclosed real estate (Other
Real Estate Owned). As of September 30, 1999, nonperforming assets totaled
$12.1 million, compared to $19.7 million and $25.3 million at December 31, 1998
and September 30, 1998, respectively. Net charge-off activity totaled $3.8
million for the third quarter of 1999
12
<PAGE>
compared to $6.5 million for the same period in 1998, while year to date net
charge-offs for 1999 were $6.9 million compared to $11.1 million for the first
nine months of 1998. The allowance for loan losses was $40.8 million at
September 30, 1999, down slightly from the December 31, 1998 level of $41.2
million.
A summary of credit quality follows:
<TABLE>
<CAPTION>
9/30/99 6/30/99 12/31/98 9/30/98
----------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C> <C>
Nonaccrual loans $ 11,397 $ 13,564 $ 17,866 $ 22,248
Other real estate owned (OREO) 695 615 1,869 3,038
----------------------------------------------------------------------------------
Total nonperforming assets (NPA) $ 12,092 $ 14,179 $ 19,735 $ 25,286
==================================================================================
Loans past due 90 days or more
and still accruing interest $ 5,881 $ 4,273 $ 4,184 $ 4,318
Allowance for loan losses 40,844 42,431 41,209 41,492
NPA as % of loans plus OREO 0.41% 0.49% 0.71% 0.90%
Allowance as % of loans 1.38% 1.46% 1.47% 1.49%
Allowance as % of nonperforming loans 358.38% 312.82% 230.66% 186.50%
Allowance as % of NPA 337.78% 299.25% 208.81% 164.09%
</TABLE>
Provisions for and activity in the allowance for loan losses are summarized as
follows:
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
1999 1998 1999 1998
-------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C> <C>
Beginning Balance $42,431 $45,727 $ 41,209 $ 45,664
Provision for Loan Losses 2,175 2,250 6,525 6,960
Loans Charged Off (4,485) (7,468) (10,239) (14,523)
Loan Recoveries 723 983 3,349 3,391
-------------------------------------------------------------------------------
Ending Balance $40,844 $41,492 $ 40,844 $ 41,492
===============================================================================
</TABLE>
The provision for loan losses represents the charge to expense that is
required to fund the allowance for loan losses. The level of the allowance for
loan losses is based on management's estimate of the amount required to reflect
the risks in the loan portfolio, based upon known and anticipated circumstances
and conditions. In addition to evaluating the collectibility of specific loans
when determining the adequacy of the allowance for possible loan losses,
management also takes into consideration other factors such as changes in the
mix and volume of the loan portfolio, historic loss experience, the amount of
delinquencies and loans adversely classified, economic trends, and the impact of
the local and regional economy on the Company's borrowers. The adequacy of the
allowance for possible loan losses is assessed by an allocation process whereby
specific loss allocations are made against adversely classified loans, and
general loss allocations are made against segments of the loan portfolio which
have similar attributes. Management assesses the adequacy of the allowance for
loan losses and reviews that assessment quarterly with the Board of Directors.
Capital
Stockholders' equity totaled $353.5 million at September 30, 1999, compared to
$389.5 million at year-end 1998. The current level reflects the year-to-date
net loss of $16.6 million, dividends paid to shareholders totaling $10.4
million, and a decrease in accumulated other comprehensive income of $10.7
million. The decrease in other comprehensive income resulted from increases in
the unrealized losses on available for sale securities caused by the continued
increase in yields in the Treasury bond market during the first nine months of
1999, which was precipitated by increases in the federal funds rate during the
third quarter.
"Tier One" capital, consisting entirely of common equity, measured 10.30% of
risk-weighted assets at September 30, 1999. Total capital, including the "Tier
Two" allowance for loan losses, was 11.54% of risk-weighted assets. The
leverage
13
<PAGE>
capital ratio was 7.31%. These ratios placed Chittenden in the "well-
capitalized" category according to regulatory standards.
Liquidity
The Company's liquidity and rate sensitivity are monitored by the asset and
liability committee, based upon policies approved by the Board of Directors.
Strategies are implemented by the Company's asset and liability committee. This
committee meets periodically to review and direct the Banks' lending and
deposit-gathering functions. Investment and borrowing activities are managed by
the Company's Treasury function.
The measure of an institution's liquidity is its ability to meet its cash
commitments at all times with available cash or by conversion of other assets to
cash at a reasonable price. At September 30, 1999, the Company maintained cash
balances and short-term investments of approximately $257.7 million, compared
with $267.7 million at December 31, 1998. During this nine month period the
Company continued to be an average daily net seller of Federal Funds.
Interest-rate risk is the sensitivity of income to variations in interest
rates over both short-term and long-term horizons. The primary goal of
interest-rate management is to control this risk within limits approved by the
Board of Directors. These limits and guidelines reflect the Company's tolerance
for interest-rate risk. The Company attempts to control interest-rate risk by
identifying exposures, quantifying them and taking appropriate actions. The
Company quantifies its interest-rate risk exposure using sophisticated
simulation and valuation models, as well as simpler gap analyses. For a full
discussion of interest-rate risk see "Liquidity and Rate Sensitivity" in the
Company's 1998 annual report on Form 10-K. There has not been a material change
in the Company's interest-rate exposure or its anticipated market risk during
the current period.
Year 2000
The Year 2000 problem, which is common to most corporations, concerns the
inability of information systems, primarily computer software programs, to
properly recognize and process date sensitive information as the year 2000
approaches. In April 1997, the Company formed a task force to manage the
completion of the five phases of the Year 2000 (Y2K) readiness process which had
informally started in November 1996. These phases include awareness of the Y2K
problem; the assessment of its impact on the Company; the subsequent renovation
of affected systems; the validation of designed Y2K renovations; and the
implementation of the validated renovations.
The Company's information systems include larger programs that run on
mainframe systems and smaller programs that reside on individual or networked
personal computers. The vast majority of the systems considered by the Company
to be mission-critical (vital to the successful continuance of the Company's
core business activities) are mainframe-based systems. The assessment,
renovation, testing, and implementation of the renovations to all mission-
critical mainframe systems are complete. The Company has developed an internal
reporting system to track its deadlines relating to the renovation, testing, and
implementation of Y2K related tasks to ensure that they are completed on
schedule.
The personal computer (PC) based systems considered to be mission-critical by
management are smaller in scope than the mainframe-based systems. The Company's
assessment of its mission-critical PC-based systems is complete. Renovation,
testing, and implementation of all systems are also complete.
The Company's Y2K readiness is also affected by the readiness of its vendors.
The Company's most significant vendors are those that provide the mainframe
software that the Company uses to process its mission-critical systems. The
Company has two major vendors that provide the majority of the mainframe based
computer programs used in mission-critical systems. The Company has confirmed
with each of these vendors that they expect to be ready for the Year 2000 within
mandated timeframes. The Company has also contacted the remainder of its
vendors to determine their compliance and has developed a tracking mechanism
that will provide immediate notification if a vendor does not meet a promised
deadline.
The Company also has completed evaluations of the Y2K readiness of its
significant customers. These customers responded to a questionnaire which asked
them detailed questions regarding their Year 2000 readiness, including:
. whether or not they had developed a comprehensive plan for Year 2000
compliance;
. whether or not a specific individual had been assigned responsibility for
managing Y2K compliance;
. whether or not senior management had reviewed and approved the plan;
14
<PAGE>
. whether or not the customer had inventoried its hardware, software,
telecommunications, and facilities for Y2K compliance;
. whether or not the customer had budgeted sufficient resources to accomplish
its Y2K mission;
. whether or not the plan had been reviewed by outside auditors;
. the timing for the completion of testing of critical systems and the
preparation of contingency plans for those systems;
. whether or not the customers had discussed Y2K related issues with their
attorneys and insurers.
The responses were directed to the customer's primary customer service
contact, who reviewed their responses and then forwarded them to a specific
individual responsible for coordinating all responses and assessing their impact
on the Company. Responses were rated based on the progress of the customers
implementation status. Of the customers who were evaluated, 90% were rated as a
low risk based on implementation progress that is fully or nearly complete.
None of the responses indicated the existence of any Y2K related issues which
might have a material impact on the Company. Alternative assessments were
performed on a case-by-case basis for the two significant customers who did not
respond to the questionnaire. These assessments included any procedures
considered necessary to satisfy the Company that there are no Y2K related issues
associated with these two significant customers.
The monitoring of the Y2K readiness of these customers will continue until
after January 1, 2000 and could result in future increased credit risk to the
Company in the event that these customers do not successfully remediate any Y2K
issues that they might have.
The Company expects that it will incur costs to replace existing hardware and
software which will be capitalized and depreciated in accordance with the
Company's existing accounting policy as well as maintenance and software
modification costs which will be expensed as incurred. The Company's current
estimate of the total costs expected to be incurred, and those already incurred,
relative to Y2K follows:
<TABLE>
<CAPTION>
Costs incurred through Costs expected to be incurred
September 30, 1999 after September 30, 1999
------------------------------------------------------------------------
<S> <C> <C>
Software Modification $2,230,371 $ 149,881
Replacement of non-compliant software 747,435 300,500
Replacement of non-compliant hardware 813,643 14,000
------------------------------------------------------------------------
Total $3,791,449 $ 464,381
========================================================================
</TABLE>
Of the $464,381 in estimated future costs of Y2K compliance, it is expected
that approximately 68% will consist of hardware and software purchases that will
have future utility and expanded functionality and therefore will be capitalized
and depreciated in accordance with the Company's existing accounting policy. The
above costs do not include salaries and benefits of Company personnel or
allocated costs of the Company's two major mainframe contracts as these costs
would have been incurred regardless of the Y2K problem. The Company has not
deferred any significant information technology (IT) projects that would have a
material adverse effect on its future operations if not performed in a timely
manner. Funds allocated for remediation of Year 2000 issues have not been
appropriated from the Company's ongoing IT budget.
Based upon the Company's progress in its Y2K readiness process, management
considers its most reasonably likely worst case Year 2000 scenario to be that
network related external communications channels become disrupted. In the event
that this were to happen, external business facilities will use emergency
wireless communication for verbal direction and refer to their existing
individual contingency plans to conduct business through off-line operation
and/or manual processing.
The agencies that regulate the Company (the Federal Reserve Board) and its
subsidiary banks (the Federal Deposit Insurance Corporation, the Office of the
Comptroller of the Currency, the State of Vermont and the Commonwealth of
Massachusetts) have issued guidance as to the standards they will use in
assessing Year 2000 readiness. If, in the judgment of these regulatory
agencies, a regulated institution, such as the Company and its subsidiaries,
fails to take appropriate action to address its Y2K issues, the regulatory
agencies could impose enforcement actions which could have a material adverse
impact on such an institution, including the imposition of civil money
penalties, or the delay of applications seeking to complete acquisitions.
15
<PAGE>
PART II - OTHER INFORMATION
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
Exhibit 27 Financial Data Schedule
(b) REPORTS ON FORM 8-K
The Company's second quarter earnings release with accompanying
schedules of balance sheets, income statements and other data restated
to reflect the acquisition of VFSC, was filed on Form 8-K on August 3,
1999.
16
<PAGE>
CHITTENDEN CORPORATION
SIGNATURES
Pursuant to the requirement 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.
CHITTENDEN CORPORATION
Registrant
November 12, 1999 /s/ PAUL A. PERRAULT
- ----------------- --------------------
Date Paul A. Perrault,
Chairman, President and
Chief Executive Officer
November 12, 1999 /s/ KIRK W. WALTERS
- ----------------- -------------------
Date Kirk W. Walters
Executive Vice President,
Treasurer, and Chief Financial Officer
17
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 179,849
<INT-BEARING-DEPOSITS> 584
<FED-FUNDS-SOLD> 77,278
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 756,537
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 2,950,539
<ALLOWANCE> 40,844
<TOTAL-ASSETS> 4,163,696
<DEPOSITS> 3,595,459
<SHORT-TERM> 144,659
<LIABILITIES-OTHER> 70,103
<LONG-TERM> 0
0
0
<COMMON> 28,318
<OTHER-SE> 325,157
<TOTAL-LIABILITIES-AND-EQUITY> 4,163,696
<INTEREST-LOAN> 173,793
<INTEREST-INVEST> 43,248
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 217,041
<INTEREST-DEPOSIT> 81,015
<INTEREST-EXPENSE> 85,814
<INTEREST-INCOME-NET> 131,227
<LOAN-LOSSES> 6,525
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 183,047
<INCOME-PRETAX> (8,016)
<INCOME-PRE-EXTRAORDINARY> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (16,556)
<EPS-BASIC> (0.59)
<EPS-DILUTED> (0.59)
<YIELD-ACTUAL> 4.57
<LOANS-NON> 12,092
<LOANS-PAST> 5,881
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 41,209
<CHARGE-OFFS> 10,239
<RECOVERIES> 3,349
<ALLOWANCE-CLOSE> 40,844
<ALLOWANCE-DOMESTIC> 0
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
