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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
---------------------
FORM 10-Q
/X/ Quarterly Report Pursuant To Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the quarterly period ended September 30, 1996
------------------------------
COMMISSION FILE NUMBER 0-15059
------------------------------
HERITAGE FINANCIAL SERVICES, INC.
(Exact name of registrant as specified in its charter)
Illinois
(State or other jurisdiction of
incorporation or organization)
17500 South Oak Park Avenue
Tinley Park, Illinois
(Address of principal executive office
36-3139645
(IRS Employer Identification Number)
60477
(Zip Code)
(708) 532-8000
(Registrant's telephone number, including area code)
Former name, former address and former fiscal year, if changed from
last report: NONE
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 number of shares outstanding of each of the issuer's
classes of common stock was 7,897,532, shares of common stock, par
value $.625 outstanding at November 1, 1996.
<TABLE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
HERITAGE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
(unaudited)
<CAPTION>
September 30, December 31
1996 1995
--------- ---------
<S> <C> <C>
ASSETS
Cash and due from banks $53,016 $44,268
Federal funds sold and interest-bearing
deposits - 5,611
--------- ---------
Total cash and cash equivalents 53,016 49,879
Securities:
Held-to-maturity
(market value: $118,027 in 1996
and $99,306 in 1995) 117,913 97,456
Available-for-sale, at market 378,782 318,159
Trading, at market 235 -
--------- ---------
Total securities 496,930 415,615
Loans, net of unearned income 629,478 569,494
Less: allowance for loan losses (9,529) (8,477)
--------- ---------
Net loans 619,949 561,017
Premises and equipment 19,001 16,304
Goodwill and core deposit intangibles 18,778 13,554
Other assets 12,730 9,999
---------- ----------
Total assets $1,220,404 $1,066,368
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Demand deposits $177,671 $161,400
NOW accounts 76,445 71,467
Money market accounts 110,706 103,940
Savings deposits 204,473 201,542
Time deposits 465,948 376,943
--------- ---------
Total deposits 1,035,243 915,292
Federal funds purchased 16,500 -
Securities sold under agreements to
repurchase 49,850 47,002
Notes payable 9,000 -
Other liabilities 9,002 7,291
---------- ---------
Total liabilities 1,119,595 969,585
---------- ---------
Shareholders' Equity
Preferred shares - no par value; shares
authorized: 12,000,000;
shares issued: none - -
Common shares - $.625 par value; shares
authorized: 16,000,000;
shares issued: 7,964,309 in 1996 and
7,939,359 in 1995 4,978 4,962
Surplus 17,631 17,499
Retained earnings 80,674 72,681
Net unrealized gains (losses) on
securities, net of tax (1,004) 1,641
Less: Treasury stock, at cost
(69,500) shares in 1996 (1,470) -
-------- --------
Total shareholders' equity 100,809 96,783
-------- --------
Total liabilities and shareholders
equity $1,220,404 $1,066,368
========== ==========
<FN>
See accompanying notes to consolidated financial statements.
</TABLE>
<TABLE>
HERITAGE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands except per share data)
(unaudited)
<CAPTION>
Nine Months Ended
September 30,
-----------------
1996 1995
------- -------
<S> <C> <C>
INTEREST INCOME
Loans, including fees $39,437 $35,710
Securities:
Taxable 17,648 13,828
Exempt from federal income taxes 4,617 3,222
Federal funds sold and interest-bearing
deposits 581 1,872
------- -------
TOTAL INTEREST INCOME 62,283 54,632
------- -------
INTEREST EXPENSE
Deposits 26,891 23,104
Short-term borrowings 1,302 1,182
Notes payable 482 182
------- -------
TOTAL INTEREST EXPENSE 28,675 24,468
------- -------
NET INTEREST INCOME 33,608 30,164
Provision for loan losses 300 150
------- -------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 33,308 30,014
------- -------
OTHER INCOME
Service charges on deposit accounts 3,281 3,079
Income for trust services 592 562
Investment product fees 890 633
Other operating income 856 755
Securities gains 88 205
------- -------
TOTAL OTHER INCOME 5,707 5,234
------- -------
OTHER EXPENSE
Salaries and employee benefits 12,577 11,466
Net occupancy expense 2,327 1,915
Equipment expense 1,259 1,170
Federal deposit insurance premiums 49 869
Data processing expense 838 613
Amortization of intangible assets 1,668 1,207
Other operating expenses 4,096 3,592
------- -------
TOTAL OTHER EXPENSE 22,814 20,832
------- -------
INCOME BEFORE INCOME TAXES 16,201 14,416
Income tax expense 5,098 4,695
------- -------
NET INCOME $11,103 $9,721
======= =======
NET INCOME PER COMMON SHARE
Primary $1.33 $1.17
Fully diluted $1.33 $1.17
Weighted average common and common equivalent
shares outstanding:
Primary 8,334,080 8,302,680
Fully diluted 8,348,254 8,328,122
<FN>
See accompanying notes to consolidated financial statements.
</TABLE>
<TABLE>
HERITAGE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands except per share data)
(unaudited)
<CAPTION>
Three Months Ended
September 30,
------------------
1996 1995
------- -------
<S> <C> <C>
INTEREST INCOME
Loans, including fees $13,243 $12,302
Securities:
Taxable 6,111 5,050
Exempt from federal income taxes 1,594 1,155
Federal funds sold and interest-bearing
deposits 231 607
------- -------
TOTAL INTEREST INCOME 21,179 19,114
------- -------
INTEREST EXPENSE
Deposits 9,248 8,375
Short-term borrowings 402 494
Notes payable 158 37
------- -------
TOTAL INTEREST EXPENSE 9,808 8,906
------- -------
NET INTEREST INCOME 11,371 10,208
Provision for loan losses 100 50
------- -------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 11,271 10,158
------- -------
OTHER INCOME
Service charges on deposit accounts 1,249 1,043
Income for trust services 199 192
Investment product fees 279 193
Other operating income 286 260
Securities gains 76 7
------- -------
TOTAL OTHER INCOME 2,089 1,695
------- -------
OTHER EXPENSE
Salaries and employee benefits 4,142 3,805
Net occupancy expense 875 649
Equipment expense 441 387
Federal deposit insurance premiums 41 (46)
Data processing expense 257 198
Amortization of intangible assets 581 406
Other operating expenses 1,362 1,279
------- -------
TOTAL OTHER EXPENSE 7,699 6,678
------- -------
INCOME BEFORE INCOME TAXES 5,661 5,175
Income tax expense 1,804 1,730
------ ------
NET INCOME $3,857 $3,445
====== ======
NET INCOME PER COMMON SHARE
Primary $0.46 $0.41
Fully diluted $0.46 $0.41
Weighted average common and common equivalent
shares outstanding:
Primary 8,321,139 8,330,974
Fully diluted 8,321,139 8,330,974
<FN>
See accompanying notes to consolidated financial statements.
</TABLE>
<TABLE>
HERITAGE FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
<CAPTION>
Nine Months Ended
September 30
--------------
1996 1995
------ -------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $11,103 $9,721
Adjustments to reconcile net income to net cash
provided by operating activities:
Discount accretion on securities (1,070) (744)
Deferred loan fee accretion (357) (247)
Provision for loan losses 300 150
Securities gains (88) (205)
Depreciation and amortization 1,294 1,272
Deferred income taxes (491) (348)
Net amortization of purchase accounting
adjustments 2,063 1,531
Increase in accrued interest income (1,502) (1,672)
Increase in accrued interest expense 101 501
Other, net 430 (143)
------- -------
NET CASH PROVIDED BY OPERATING ACTIVITIES 11,783 9,816
------- -------
INVESTING ACTIVITIES
Securities held-to-maturity:
Proceeds from maturities, repayments and calls 3,053 27,290
Purchases (21,000) (79,483)
Securities available-for-sale:
Proceeds from sales 14,773 7,962
Proceeds from maturities, repayments and calls 69,668 14,902
Purchases (99,582) (35,766)
Purchase of trading security (250) -
Net increase in loans (25,376) (43,585)
Purchases of premises and equipment (1,910) (997)
Proceeds from sales of other real estate owned 905 607
Purchase price of acquired bank net of cash
and cash equivalents (7,798) -
------- -------
NET CASH USED IN INVESTING ACTIVITIES (67,517) (109,070)
-------- -------
FINANCING ACTIVITIES
Net increase (decrease) in demand deposits, NOW and
money market accounts and savings deposits (16,428) 4,229
Net increase in time deposits 55,292 75,316
Federal funds purchased 16,500 -
Net increase (decrease) in securities sold
under agreements to repurchase ( 1,061) 15,185
Proceeds from notes payable 14,000 -
Principal payments on notes payable (5,000) (5,000)
Proceeds from stock option exercises 148 128
Purchases of treasury stock (1,470) -
Dividends paid (3,110) (2,620)
------- -------
NET CASH PROVIDED FROM FINANCING ACTIVITIES 58,871 87,238
------- -------
NET INCREASE IN CASH AND CASH EQUIVALENTS 3,137 (12,016)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 49,879 86,156
------- -------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $53,016 $74,140
======= =======
SUPPLEMENTAL DISCLOSURES:
Interest paid $28,656 $24,076
Income taxes paid 4,935 4,797
Supplemental schedule of non-cash investing activities:
Loans transferred to other real estate owned $602 $467
<FN>
See accompanying notes to consolidated financial statements.
</TABLE>
HERITAGE FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The unaudited consolidated financial statements include the
accounts of Heritage Financial Services, Inc. and its subsidiaries
(the "Company"). In the opinion of management, all adjustments
(consisting only of normal recurring adjustments) necessary for a
fair presentation of the financial position, results of operations
and cash flows for the interim periods have been made. Certain
amounts reported in prior periods have been reclassified for
presentation or comparative purposes. The results of operations for
the three and nine months ended September 30, 1996 are not
necessarily indicative of the results to be expected for the entire
fiscal year.
The unaudited interim financial statements have been prepared
in conformity with generally accepted accounting principles and
reporting practices. Certain information in footnote disclosures
normally included in financial statements prepared in accordance
with generally accepted accounting principles has been condensed or
omitted pursuant to rules and regulations of the Securities and
Exchange Commission, although the Company believes the disclosures
are adequate to make the information not misleading. These
financial statements should be read in conjunction with the
consolidated financial statements and notes thereto included in the
Company's 1995 Form 10-K.
EARNINGS PER SHARE
Primary and fully diluted earnings per common share for the three
and nine months ended September 30, 1996 and 1995 are computed by
dividing net income by the weighted average number of common shares
outstanding and common equivalent shares, assumed to be issued under
the Company's stock option plan. Common share equivalents
attributable to stock options are computed based on the treasury
stock method.
NEW ACCOUNTING PRONOUNCEMENTS
As of January 1, 1996, the Company adopted the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of. SFAS 121 requires that long-lived assets
and certain identifiable intangibles that are used in operations be
reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of assets might not be
recoverable. The adoption of SFAS 121 did not effect the Company's
financial condition or results of operations.
As of January 1, 1996, the Company adopted the provisions of
SFAS 122, "Accounting for Mortgage Servicing Rights". SFAS 122
provides guidance on the accounting for mortgage servicing rights
and the evaluation and recognition of impairment of mortgage
servicing rights. The provisions of SFAS 122 do not currently
impact the Company since it sells mortgage loans to investors on a
servicing released basis.
As of January 1, 1996, the Company adopted SFAS 123,
"Accounting for StockBased Compensation". SFAS 123 encourages, but
does not require, companies to recognize compensation expense for
grants of stock, stock options and other equity instruments based on
the fair value of those instruments. The Company has elected to
continue to account for employee stock compensation plans under APB
Opinion 25 and related Interpretations.
HERITAGE FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Unaudited)
ACQUISITION
On February 2, 1996, the Company acquired all of the common
shares of the First National Bank of Lockport ("Lockport") for $16.8
million in cash. The acquisition was accounted for as a purchase
and, accordingly, the results of operations of Lockport have been
included in the consolidated statement of income from the date of
acquisition. In connection with the acquisition, the Company
acquired assets with an aggregate fair value of $104,375,000 and
assumed deposits and other liabilities of $87,555,000.
<TABLE>
LOANS
The following table summarizes loan balances by category (in
thousands):
<CAPTION>
September 30, December 31
1996 1995
-------- ---------
<S> <C> <C>
Commercial and industrial $142,235 $130,508
Commercial real estate 146,535 145,080
Construction 13,727 8,645
Residential real estate 233,661 200,323
Home equity 84,148 73,525
Other consumer 10,932 13,782
Gross loans 631,238 571,863
-------- --------
Less: unearned income (1,760) (2,369)
-------- --------
Total $629,478 $569,494
======== ========
</TABLE>
COMMON SHARES
On June 19, 1996, the Company's Board of Directors approved a
stock repurchase program which authorized the repurchase of up to
325,000 common shares to be used for the issuance of shares under
the Company's stock option plan. The shares will be repurchased
from time to time in the open market or in private transactions. As
of September 30, 1996, 69,500 common shares were repurchased at a
cost of $1,470,000.
LITIGATION
On May 16, 1995, Federal Insurance Company ("Federal"), a
subrogee of SSM Health Care ("SSM"), filed a lawsuit against the
Company in the United States District Court for the Northern
District of Illinois alleging that the Company had made unauthorized
wire transfers. The lawsuit sought damages in the amount of
$1,247,500 plus interest and legal costs.
In November, 1996, the Company and Federal entered into a
settlement agreement to resolve this matter. The settlement of the
litigation did not have a material impact on the Company's financial
position or results of operations.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.
The following represents management's analysis of the Company's
results of operations for the three and nine month periods ended
September 30, 1996 and 1995 and its consolidated financial condition
at September 30, 1996 as compared to December 31, 1995. This
discussion should be read in conjunction with the consolidated
financial statements and notes thereto appearing elsewhere in this
Form 10-Q.
On February 2, 1996, the Company acquired all of the common
shares of the First National Bank of Lockport ("Lockport") for $16.8
million in cash. At the acquisition date Lockport had total assets
of approximately $104 million. The acquisition was accounted for as
a purchase and, accordingly, the results of operations of Lockport
have been included in the consolidated statement of income from the
date of acquisition.
ANALYSIS OF INCOME STATEMENTS
SUMMARY OF OPERATIONS
Net income in the third quarter of 1996 increased to
$3,857,000, up 12% from $3,445,000 earned in the same quarter of
1995. On a fully diluted basis, earnings per share for the
quarterly period increased to 46 cents per share, up 12% from 41
cents per share earned in the third quarter of 1995. For the nine
months ended September 30, 1996, net income was $11,103,000, up 14%
compared to $9,721,000 in the same period of 1995. Earnings per
share for the nine month period were $1.33, up 14% compared to $1.17
in the 1995 period. Higher earnings in both periods were primarily
due to increases in net interest income. A decrease in FDIC deposit
insurance premiums also contributed to the increase in year-to-date
net income.
NET INTEREST INCOME
Third quarter net interest income was $11,371,000, an increase
of $1,163,000 or 11% compared with the third quarter of 1995. For
the nine months ended September 30, 1996, net interest income
increased $3,444,000 or 11% compared to 1995. The growth in net
interest income for the three and nine month periods was due to
increases in the volume of average earning assets, partially offset
by reductions in net interest spreads.
For the nine months ended September 30, 1996, average earning
assets increased $163 million or 18% compared to the same period in
1995. The growth in average earning assets reflects strong internal
deposit growth over the past twelve months and the additional
earning assets of Lockport.
On a taxable equivalent basis, the annualized net interest
spread in the 1996 third quarter decreased to 3.60% compared to
3.67% in the 1995 quarter. For the first nine months of 1996 the
net interest spread decreased to 3.68% from 3.87% in the year ago
period. On a year-to-date basis, the change in the net interest
spread reflected a decrease of .20% in the yield on average earning
assets while the rate paid on interest-bearing liabilities declined
only .01%. The decline in the yield on earning assets was primarily
due to lower rates earned on prime-based floating-rate loans and new
tax-exempt securities and real estate loans.
Another factor contributing to lower net interest spreads for
the three and nine month periods was a flattening of the treasury
yield curve. In general, a flattening yield curve reduces the
interest spreads earned on new loans and securities compared to the
cost of funds. Throughout 1995 the yield curve flattened as the
spreads between long-term and short-term market interest rates
compressed. In the first half of 1996 the yield curve steepened as
intermediate and long-term market interest rates increased while
short-term interest rates remained relatively unchanged. In the 1996
third quarter the yield curve began to flatten as spreads between
long-term and short-term market interest rates narrowed. The Company
cannot predict whether recent changes in the yield curve will
continue or be sustained. However, changes in the slope of the
yield curve will continue to impact the spread earned on average
earning assets. The mix of the Companys earning assets and funding
sources will also impact future net interest spreads.
ALLOWANCE AND PROVISION FOR LOAN LOSSES
The allowance for loan losses is maintained at a level
management believes to be adequate to provide for known and
potential risks inherent in the Company's loan portfolio. On a
quarterly basis, management assesses the adequacy of the allowance
for loan losses. Management's evaluation of the adequacy of the
allowance considers such factors as prior loss experience, loan
portfolio growth and composition and reviews of impaired loans and
the value of underlying collateral securing these loans. A
provision for loan losses is charged to income to increase the
allowance to a level deemed to be adequate, but not excessive, based
on management's evaluation. When a loan or a part thereof is
considered by management to be uncollectible, a charge is made
against the allowance. Recoveries of previously charged-off loans
are credited back to the allowance.
<TABLE>
The changes in the allowance for loan losses for the three and
nine months ended September 30, 1996 and 1995 were as follows (in
thousands):
<CAPTION>
Three Months Nine Months
Ended Ended
September 30, September 30,
------------ -----------
1996 1995 1996 1995
----- ----- ----- -----
<S> <C> <C> <C> <C>
Balance at beginning of period $9,456 $8,692 $8,477 $8,720
Allowance of acquired bank - - 1,179
Provision for loan losses 100 50 300 150
Loan charge-offs (95) (92) (584) (380)
Loan recoveries 68 63 157 223
------ ----- ----- -----
Balance at end of period $9,529 $8,713 $9,529 $8,713
====== ===== ===== =====
Net charge-offs to average loans 0.02% 0.02% 0.09% 0.04%
Allowance for loan losses to loans 1.51% 1.53% 1.51% 1.53%
Allowance for loan losses to
nonperforming loans 241% 181% 241% 181%
</TABLE>
The higher provisions for loan losses for the three and nine
month periods of 1996 were primarily due to higher net chargeoffs.
<TABLE>
The following table sets forth an allocation of the allowance
for loan losses and the percent of loans in each category to total
loans outstanding for the periods and categories shown (in
thousands):
<CAPTION>
September 30, 1996 December 31, 1995
----------- -----------
Amount % Amount %
------- --- ------- --
<S> <C> <C> <C> <C>
Commercial and industrial $2,229 23 $2,077 23
Commercial real estate 4,300 23 4,100 25
Construction - 2 - 2
Residential real estate 2,200 37 1,550 35
Home equity and other consumer 800 15 750 15
-------------- ------------
Total $9,529 100 $8,477 100
============== ============
</TABLE>
Changes in the allocation of the allowance to individual loan
categories since December 31, 1995 were primarily the result of
changes in management's risk assessment and assignment of
unallocated reserves. Notwithstanding management's allocation of the
allowance, the entire allowance for loan losses is available to
absorb losses in any particular category of loans.
ASSET QUALITY
Nonperforming Assets
<TABLE>
The following table sets forth the Company's nonperforming
assets and asset quality ratios (in thousands):
<CAPTION>
September 30, December 31,
1996 1995
-------- --------
<S> <C> <C>
Nonaccrual loans $3,488 $3,919
Loans past due 90 days or more 459 938
-------- --------
Total nonperforming loans 3,947 4,857
Other real estate owned 607 760
-------- --------
Total nonperforming assets $4,554 $5,617
======== ========
Restructured loans - -
======== ========
Nonperforming loans to loans 0.63% 0.85%
Nonperforming assets to loans plus
OREO 0.72% 0.98%
</TABLE>
Impaired Loans
<TABLE>
The following table sets forth the recorded investment in
impaired loans and the related valuation allowance for each loan
category (in thousands):
<CAPTION>
Amount of Impaired Loans
------------------------
No Valuation Valuation Amount of
Allowance Allowance Valuation
Required Required Total Allowance
-------- -------- ------ ------
<S> <C> <C> <C> <C>
September 30, 1996
Commercial and industrial $130 $770 $900 $340
Commercial real estate 1,078 2,687 3,765 396
Residential real estate 544 367 911 96
-------- -------- ------ ----
Total impaired loans $1,752 $3,824 $5,576 $832
======== ======== ====== ====
<S> <C> <C> <C> <C>
December 31, 1995
Commercial and industrial $271 $796 $1,067 $285
Commercial real estate 3,312 1,410 4,722 486
Residential real estate 1,104 134 1,238 51
-------- -------- ------ ----
Total impaired loans $4,687 $2,340 $7,027 $822
======== ======== ====== ====
</TABLE>
The average recorded investment in impaired loans for the nine
months ended September 30, 1996 was approximately $6,417,000.
Interest income recognized on impaired loans for the first nine
months of 1996 totaled $223,000 compared to $317,000 in the same
period a year ago. Included in the balance of impaired loans at
September 30, 1996, are $2,973,000 of nonaccrual loans.
OTHER INCOME
Other income, excluding securities transactions, for the three
months ended September 30, 1996 increased $325,000 or 19% compared
to the same period in 1995. On a year-to-date basis, other income,
excluding securities transactions, increased $590,000 or 12%
compared to the nine month period in 1995. The growth in other
income in both periods was primarily due to increases in service
charge income and higher investment product fees.
Net securities gains for the three and nine months ended
September 30, 1996, were $76,000 and $88,000, respectively, compared
to net securities gains of $7,000 and $205,000 in the same periods
of 1995. In the 1996 third quarter, the Company recognized a gain
of $135,000 on the payoff of a tax-exempt obligation that was in
default and carried on nonaccrual status. In 1992 the security was
written down by $180,000 due to a market value decline that was
deemed to be other than temporary. In the third quarter the Company
also sold $10 million of REMICs and $4 million of adjustable-rate
mortgage pools which, collectively, resulted in a net loss of
$47,000. The proceeds of these sales were reinvested in
longer-term, fixe-drate CMOs and REMICs. In 1995 the Company
recognized securities gains of $177,000 from the sale of $8 million
of adjustable-rate mortgage pools classified as available-for-sale.
OTHER EXPENSE
Other expenses in the 1996 third quarter increased $1,021,000
or 15% compared to the same period in 1995. For the nine months
ended September 30, 1996, other expenses increased $1,982,000 or 10%
compared to the same period a year ago. The growth in other expense
categories was largely attributable to the additional operating
expenses of Lockport. On a year-to-date basis, a reduction in FDIC
deposit insurance premiums partially offset the growth in operating
expenses.
Salaries and employee benefits, the largest component of other
expenses, increased $1,111,000 or 10% for the nine months period of
1996 compared to the same period a year ago. At September 30, 1996,
the number of full-time equivalent employees totaled 451 compared to
434 at December 31, 1995 and 437 at September 30, 1995.
On September 30, 1996, the Deposit Insurance Funds Act of 1996
("Funds Act") was signed into law which, among other things,
authorized the FDIC to recapitalize the Savings Association
Insurance Fund ("SAIF") by imposing a special assessment on
institutions holding SAIF deposits. Under the Funds Act, members of
the Bank Insurance Fund ("BIF") and SAIF will be jointly responsible
to service a portion of interest on Financing Corporation ("FICO")
bonds that were issued by the government to pay for the thrift
cleanup in the late 1980's. Beginning January 1, 1997, BIF members
will be assessed 1.3 cents per $100 of BIF deposits.
For the three months ended September 30, 1996, FDIC deposit
insurance premiums increased $87,000 compared to the same quarter in
1995. The increase was due in part to a one-time assessment of
$37,000 relating to the recapitalization of SAIF. For the nine
months ended September 30, 1996, FDIC deposit insurance premiums
decreased $820,000 compared with the same period in 1995. The
decrease reflects a reduction in the BIF assessment rate from 23
cents per $100 to zero beginning June 1, 1995. While the BIF
assessment rate was set at zero for the semi-annual assessment period
ending December 31, 1996, there are no assurances that future
assessment rates (excluding the FICO assessment) will remain at that
level.
INCOME TAXES
Income tax expense for the nine months ended September 30, 1996
increased $403,000 compared to the same period in 1995. The
Company's effective tax rate (income tax expense divided by net
income before taxes) decreased to 31.5% in 1996 compared to 32.6% in
the same period a year ago. The decrease in the effective tax rate
in 1996 was primarily due to an increase in the amount of tax-exempt
income earned on state and municipal securities.
ANALYSIS OF BALANCE SHEETS
ASSETS
Total assets at September 30, 1996 were $1.220 billion, an
increase of $154 million compared to December 31, 1995. The growth
in all asset categories was primarily due to the acquisition of
Lockport in February, 1996. Including Lockport balances, changes in
total assets since December 31, 1995 reflect increases of $81
million in securities, $59 million in net loans and $3 million in
cash and cash equivalents. In the first nine months of 1996 the
Company purchased $80 million of fixed-rate CMOs and REMICs with
average lives of 3 to 7 years and $21 million of bank-qualified
tax-exempt securities. The Company continued to experience increased
loan demand despite higher market interest rates in the first nine
months of 1996. Excluding the loans acquired from Lockport, net
loans increased approximately $24 million from the year-end 1995 with
most growth coming in residential real estate loans.
LIABILITIES
The Company's core funding sources, consisting of deposits and
securities sold under agreement to repurchase, increased $123
million since December 31, 1995. The increase in funding sources
was primarily due to the additional deposits provided by Lockport.
Including Lockport balances, changes in funding sources since
year-end reflect increases of $21 million in demand deposits and NOW
accounts, $10 million in money market accounts and savings deposits
and $89 million in time deposits.
To fund a majority of the Lockport purchase price, the Company
borrowed $14 million under an unsecured $20 million revolving line
of credit established with an unrelated financial institution. The
borrowings are structured as revolving notes and bear interest at
either prime floating or may, at the Company's option, be fixed at
1% above LIBOR for periods up to one year. Periodic interest
payments are required on revolving notes. On January 1, 1998, the
unpaid principal balance of the revolving notes will convert into a
term loan. The Company is required to make quarterly principal
reductions beginning January 1, 1998. At September 30, 1996 the
balance of the notes payable was $9 million reflecting principal
reductions of $5 million since the acquisition date. The weighted
average interest rate on notes payable at September 30, 1996 was
6.59%.
CAPITAL
At September 30, 1996 total shareholders' equity increased to
$101 million, up $4 million from December 31, 1995. The growth in
equity reflects the retention of current year earnings, less
dividends paid and the cost of treasury stock purchased, plus the
proceeds from the exercise of stock options. The change in equity
also reflects a decrease of $2,645,000 in the market value of
securities available-for-sale.
The capital ratios of the Company and Heritage Bank are
presently in excess of the requirements necessary to meet the "well
capitalized" capital category established by bank regulators. At
September 30, 1996, the Company's consolidated Tier 1 and total
risk-based capital ratios were 12.28% and 13.53%, respectively. The
Company's leverage ratio at quarter-end was 7.04%.
On June 18, 1996, the Company's Board of Directors approved a
stock repurchase program which authorized the repurchase of up to
325,000 common shares to be used for the issuance of shares under
the Company's stock option plan. The shares will be repurchased
from time to time in the open market or in private transactions. As
of September 30, 1996, 69,500 common shares were repurchased at a
cost of $1,470,000. The Company has funded the cost of repurchased
shares with dividends from Heritage Bank. Presently the Company has
no other commitments for material capital expenditures. Management
believes that the Company has sufficient financing options available
to fund commitments that may arise in the future.
LIQUIDITY
Liquidity management in banking involves the ability to
generate funds to support asset growth and meet cash flow
requirements of customers and other obligations. Liquidity of
Heritage Bank is primarily maintained by daily investments in
federal funds sold, monthly cash flows from mortgagebacked and
assetbacked securities and maturities of other securities.
The Bank's immediate liquidity needs have historically been met
by federal funds sold and cash flows from securities. At quarter-end
however, the Bank purchased $16.5 million of federal funds to meet
temporary funding needs. The Bank may borrow up to $35 million
under informal federal funds lines with correspondent banks. At
September 30, 1996, the Bank has $16 million of securities having
contractual maturities of one year or less and expects to receive
approximately $87 million of payments on mortgage-backed and
asset-backed securities over the next twelve months. These cash flow
projections for mortgage-backed and asset-backed securities are based
on consensus prepayment estimates of securities brokers. For the
three and twelve months ended September 30, 1996, the aggregate
principal payments received on these securities totaled
approximately $19 million and $72 million, respectively. Other
sources of potential liquidity include the sale of securities
classified as available-for-sale and advances under a $112 million
credit facility with the Federal Home Loan Bank.
For the parent company, Heritage Financial Services,
Inc.("HFS"), liquidity means having cash available to pay
shareholder dividends, to service debt and to fund operating
expenses. The ability of HFS to pay dividends, as well as fund its
operations and service debt, is dependent upon receipt of dividends
from Heritage Bank. Regulatory authorities limit the amount of
dividends which can be paid by Heritage Bank without prior approval
from such authorities. At September 30, 1996, the amount of
undistributed earnings of Heritage Bank available for the payment
of dividends within such limitations is more than adequate to fund
the anticipated cash requirements of HFS.
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit 11 - Statement Re Computation of Per Share Earnings
(included at page 15).
(b) There were no reports on Form 8-K filed by the registrant
during the quarter ending September 30, 1996.
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.
HERITAGE FINANCIAL SERVICES, INC.
(Registrant)
Date: November 12, 1996 by /s/ Frederick J. Sampias
Frederick J. Sampias
President
(Duly Authorized Officer)
Date: November 12, 1996 by /s/ Paul A. Eckroth
Paul A. Eckroth
Executive Vice President and
Treasurer
(Principal Financial and Chief
Accounting Officer)
Exhibit 11 - Statement Re: Computation of Per Share Earnings
<TABLE>
Presented below is the calculation of the Registrant's primary and
fully diluted earnins per share required by Item 601(b)(11) of
Regulation S-K (dollars in thousands, except per share data):
<CAPTION>
Three Months Nine Months
Ended Ended
September 30, September 30,
------------ -------------
1996 1995 1996 1995
------ ------ ------ ------
<S> <C> <C> <C> <C>
PRIMARY
Net income $3,857 $3,445 $11,103 $9,721
====== ====== ======= ======
Average common shares outstanding 7,920 7,939 7,946 7,936
Common stock equivalents - net effect
of the assumed exercise of stock options
-- based on the treasury stock method
using average market price 401 392 388 367
------ ------ ------- ------
Average primary shares outstanding 8,321 8,331 8,334 8,303
====== ====== ====== ======
Primary earnings per share $0.46 $0.41 $1.33 $1.17
====== ====== ====== =====
FULLY DILUTED
Net income $3,857 $3,445 $11,103 $9,721
====== ====== ======= ======
Average common shares outstanding 7,964 7,939 7,960 7,935
Common stock equivalents - net effect of
the assumed exercise of stock options
-- based on the treasury stock
method using average market price
or year-end market price,
whichever was higher 401 392 402 392
------ ------ ----- -----
Average fully diluted shares
outstanding 8,321 8,331 8,348 8,328
====== ====== ====== ======
Fully diluted earnings per share $0.46 $0.41 $1.33 $1.17
====== ====== ====== ======
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> SEP-30-1996
<CASH> 53016
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 235
<INVESTMENTS-HELD-FOR-SALE> 378782
<INVESTMENTS-CARRYING> 117913
<INVESTMENTS-MARKET> 497044
<LOANS> 629478
<ALLOWANCE> 9529
<TOTAL-ASSETS> 1220404
<DEPOSITS> 1035243
<SHORT-TERM> 75350
<LIABILITIES-OTHER> 9002
<LONG-TERM> 0
0
0
<COMMON> 4978
<OTHER-SE> 95831
<TOTAL-LIABILITIES-AND-EQUITY> 1220404
<INTEREST-LOAN> 13243
<INTEREST-INVEST> 7705
<INTEREST-OTHER> 231
<INTEREST-TOTAL> 21179
<INTEREST-DEPOSIT> 9248
<INTEREST-EXPENSE> 9808
<INTEREST-INCOME-NET> 11371
<LOAN-LOSSES> 100
<SECURITIES-GAINS> 76
<EXPENSE-OTHER> 7699
<INCOME-PRETAX> 5661
<INCOME-PRE-EXTRAORDINARY> 5661
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3857
<EPS-PRIMARY> .46
<EPS-DILUTED> .46
<YIELD-ACTUAL> 4.36
<LOANS-NON> 3488
<LOANS-PAST> 459
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 9456
<CHARGE-OFFS> 95
<RECOVERIES> 68
<ALLOWANCE-CLOSE> 9529
<ALLOWANCE-DOMESTIC> 9529
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
