SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 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 0-15237
-------
HARLEYSVILLE NATIONAL CORPORATION
---------------------------------
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2210237
- ------------ ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
483 Main Street, Harleysville, Pennsylvania 19438
- ----------------------------------------------- -----
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (215) 256-8851
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.
---
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13, or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes ___. No ___.
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 7,535,899 shares of Common
Stock, $1.00 par value, outstanding on April 30, 1999.
PAGE 1
HARLEYSVILLE NATIONAL CORPORATION
INDEX TO FORM 10-Q REPORT
PAGE
----
Part I. Financial Information
Item 1. Financial Statements:
Consolidated Balance Sheets - March 31, 1999 and December 31, 1998 3
Consolidated Statements of Income-Three Months Ended March 31, 1999 and 1998 4
Consolidated Statements of Cash Flows - Three Months Ended
March 31, 1999 and 1998 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 8
Item 3. Quantitative and Qualitative Disclosures about Market Risk 19
Part II. Other Information
Item 1. Legal Proceedings 20
Item 2. Change in Securities and Use of Proceeds 20
Item 3. Defaults Upon Senior Securities 20
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 5. Other Information 21
Item 6. Exhibits and Reports on Form 8-K 21
Signatures 23
PAGE 2
PART 1. FINANCIAL INFORMATION
HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
<TABLE>
<CAPTION>
(Dollars in thousands) March 31, 1999 December 31, 1998
-------------------- -------------------
ASSETS
<S> <C> <C>
Cash and due from banks $ 35,381 $ 40,204
Federal Funds sold 13,570 13,426
-------------------- -------------------
Total cash and cash equivalents 48,951 53,630
-------------------- -------------------
Interest-bearing deposits in banks 4,298 3,707
Investment securities available for sale 408,514 390,438
Investment securities held to maturity
(market value $18,600 and $42,202, respectively) 18,346 41,520
Loans 929,086 902,884
Less: Unearned income (2,028) (2,574)
Allowance for loan losses (14,096) (13,706)
-------------------- -------------------
Net loans 912,962 886,604
-------------------- -------------------
Bank premises and equipment, net 19,733 19,542
Accrued income receivable 10,353 9,574
Other real estate owned 1,063 1,131
Intangible assets, net 2,066 1,936
Other assets 4,925 4,008
-------------------- -------------------
Total assets $ 1,431,211 $ 1,412,090
==================== ===================
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Noninterest-bearing $ 176,501 $ 192,156
Interest-bearing:
Checking accounts 137,822 139,133
Money market accounts 222,161 212,156
Savings 145,584 140,797
Time, under $100,000 335,589 329,606
Time, $100,000 or greater 95,951 90,468
-------------------- -------------------
Total deposits 1,113,608 1,104,316
Accrued interest payable 14,853 14,072
U.S. Treasury demand notes 1,227 1,320
Federal funds purchased 11,500 11,000
Federal Home Loan Bank (FHLB) borrowings 96,250 93,500
Securities sold under agreements to repurchase 47,468 43,158
Other liabilities 14,474 13,771
-------------------- -------------------
Total liabilities 1,299,380 1,281,137
-------------------- -------------------
Shareholders' Equity:
Series preferred stock, par value $1 per share;
authorized 3,000,000 shares, none issued - -
Common stock, par value $1 per share; authorized 30,000,000
shares; issued and outstanding 7,535,899 shares in 1999 and
7,535,683 shares in 1998 7,536 7,536
Additional paid in capital 50,908 50,900
Retained Earnings 70,363 67,133
Accumulated other comprehensive income 3,024 5,384
-------------------- -------------------
Total shareholders' equity 131,831 130,953
-------------------- -------------------
Total liabilities and shareholders' equity $ 1,431,211 $ 1,412,090
==================== ===================
See accompanying notes to consolidated financial statements.
PAGE 3
HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three months ended
(Dollars in thousands except weighted average number March 31,
--------------------
of common shares and per share information) 1999 1998
-------------------- -------------------
INTEREST INCOME:
Loans, including fees $ 16,712 $ 16,019
Lease financing 1,514 1,152
Investment securities:
Taxable 3,763 3,197
Exempt from federal taxes 2,355 1,609
Federal funds sold 108 284
Deposits in banks 16 84
-------------------- -------------------
Total interest income 24,468 22,345
-------------------- -------------------
INTEREST EXPENSE:
Savings deposits 3,063 3,008
Time, under $100,000 4,444 4,371
Time, $100,000 or greater 1,207 1,047
Borrowed funds 1,735 945
-------------------- -------------------
Total interest expense 10,449 9,371
-------------------- -------------------
Net interest income 14,019 12,974
Provision for loan losses 477 565
-------------------- -------------------
Net interest income after provision for loan losses 13,542 12,409
-------------------- -------------------
OTHER OPERATING INCOME:
Service charges 845 775
Security gains, net 117 207
Trust income 638 420
Other Income 715 501
-------------------- -------------------
Total other operating income 2,315 1,903
-------------------- -------------------
Net interest income after provision for loan losses
and other operating income 15,857 14,312
-------------------- -------------------
OTHER OPERATING EXPENSES:
Salaries, wages and employee benefits 4,811 4,587
Occupancy 619 572
Furniture and equipment 967 780
Other expenses 2,624 2,410
-------------------- -------------------
Total other operating expenses 9,021 8,349
-------------------- -------------------
Income before income taxes 6,836 5,963
Income tax expense 1,647 1,486
-------------------- -------------------
Net income $ 5,189 $ 4,477
==================== ===================
Weighted average number of common shares:
Basic 7,535,841 7,519,615
==================== ===================
Diluted 7,551,131 7,541,588
==================== ===================
Net income per share information:
Basic $ 0.69 $ 0.60
==================== ===================
Diluted $ 0.69 $ 0.59
==================== ===================
Cash dividends per share $ 0.26 $ 0.24
==================== ===================
See accompanying notes to consolidated financial statements.
PAGE 4
HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in thousands) Three Months Ended March 31,
</TABLE>
<TABLE>
<CAPTION>
<S> <C> <C>
OPERATING ACTIVITIES: 1999 1998
--------- ---------
Net Income $ 5,189 $ 4,477
Adjustments to reconcile net income to
net cash provided by operating activities:
Provision for loan losses 477 565
Depreciation and amortization 545 507
Net amortization of investment
securities discount/premiums 127 92
Net realized security gain (117) (207)
Increase in accrued income receivable (779) (715)
Increase(decrease) in accrued interest payable 781 (1,186)
Net increase in other assets (917) (688)
Net increase in other liabilities 1,973 2,208
Decrease in unearned income (547) (1,766)
Write-down of other real estate owned 15 14
(Increase) decrease in intangible assets (130) 60
--------- ---------
Net cash provided by operating activities 6,617 3,361
--------- ---------
INVESTING ACTIVITIES:
Proceeds from sales of investment securities available for sale 7,950 17,072
Proceeds, maturity or calls of investment securities held to maturity - 5,733
Proceeds, maturity or calls of investment securities available for sale 35,963 5,517
Purchases of investment securities available for sale (42,456) (51,773)
Net increase in interest-bearing deposits in banks (591) (748)
Net increase in loans (26,790) (13,097)
Net increase in premises and equipment (735) (758)
Proceeds from sales of other real estate 554 149
--------- ---------
Net cash used in investing activities (26,105) (37,905)
--------- ---------
FINANCING ACTIVITIES:
Net increase in deposits 9,293 32,684
Decrease in U.S. Treasury demand notes (93) (121)
Increase (decrease) in federal funds purchased 500 (13,700)
Increase in FHLB borrowings 2,750 28,000
Increase in securities sold under agreement 4,310 6,975
Cash dividends & fractional shares (1,959) (1,748)
Stock options 8 91
--------- ---------
Net cash provided by financing activities 14,809 52,181
--------- ---------
Net (decrease) increase in cash and cash equivalents (4,679) 17,637
Cash and cash equivalents at beginning of period 53,630 52,991
--------- ---------
Cash and cash equivalents at end of the period $ 48,951 $ 70,628
========= =========
Cash paid during the period for:
Interest $ 9,668 $ 10,557
========= =========
Supplemental disclosure of noncash investing and financing activities:
Transfer of assets from loans to other real estate owned $ 501 $ 212
========= =========
See accompanying notes to consolidated financial statements.
</TABLE>
PAGE 5
HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments, consisting only of normal
recurring adjustments, necessary to present fairly the consolidated financial
position of Harleysville National Corporation (the "Corporation") and its wholly
owned subsidiaries - Harleysville National Bank and Trust Company
("Harleysville"), Citizens National Bank ("Citizens"), Security National Bank
("Security") (collectively, the "Banks") and HNC Financial Company - as of
March 31, 1999, the results of its operations for three month periods ended
March 31, 1999 and 1998 and the cash flows for the three month periods ended
March 31, 1999 and 1998. It is suggested that these unaudited consolidated
financial statements be read in conjunction with the audited consolidated
financial statements of the Corporation and the notes thereto set forth in the
Corporation's 1998 annual report. All prior period amounts were restated to
reflect the acquisition of Northern Lehigh Bancorp.
The results of operations for the three month periods ended March 31, 1998 and
1998 are not necessarily indicative of the results to be expected for the full
year.
NOTE 2 - Income tax expense is less than the amount calculated using the
statutory tax rate, primarily the result of tax exempt income earned from state
and municipal securities and loans.
NOTE 3 - On January 1, 1998, the Corporation adopted the Financial Accounting
Standards Board issued SFAS No. 130, "Reporting Comprehensive Income." SFAS No.
130 establishes standards to provide prominent disclosure of comprehensive
income items. Comprehensive income is the change in equity of a business
enterprise during a period from transactions and other events and circumstances
from non-owner sources. Other comprehensive income consists of net unrealized
gains on investment securities available for sale. Subsequent to the adoption
date, all prior-period amounts are required to be restated to conform to the
provision of SFAS No. 130. Comprehensive income for the first three months of
1999 was $2,829,000, compared to $4,970,000 for the first three months of 1998.
The adoption of SFAS No. 130 did not have a material impact on the Corporation's
financial position or results of operation.
NOTE 4 - On January 1, 1998, the Corporation adopted the Financial Accounting
Standards Board issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information." SFAS No. 131 requires that public business
enterprises report certain information about operating segments in complete sets
of financial statements of the enterprise and in condensed financial statements
of interim periods issued to shareholders. It also requires that public
business enterprises report certain information about their products and
services, the geographic areas in which they operate and their major customers.
Management has determined that under current conditions, the Corporation will
report one business segment.
NOTE 5 - In June 1998, the Financial Accounting standard Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for
Derivative Instruments and Hedging Activity." SFAS No. 133 establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments imbedded in other contracts, and for hedging activities.
It requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. If certain conditions are met, a derivative may be specifically
designated as a hedge. The accounting for changes in the fair value of
derivative (gains and losses) depends on the intended use of the derivative and
resulting designation. SFAS No. 133 is effective for all fiscal quarters of
fiscal years beginning after June 15, 1999. Earlier application is permitted
only as of the beginning of any fiscal quarter. On January 1, 1999, the
Corporation adopted SFAS No. 133. Concurrent with the adoption, the Corporation
reclassified $7,530,000 of investment securities from the held to maturity
category to the available for sale category and recorded $221,000 net of taxes
of unrealized holding gains in accumulated other comprehensive income.
NOTE 6 - On January 20, 1999, the Corporation consummated its acquisition of
Northern Lehigh Bancorp, Inc., parent company of Citizens National Bank of
Slatington. Accounted for as a pooling-of-interest, Northern Lehigh Bancorp
shareholders received 3.57 shares of Harleysville National Corporation common
stock for each share of Northern Lehigh Bancorp common stock.
PAGE 6
The acquisition was affected by the merger of Northern Lehigh
Bancorp, Inc. with Harleysville National Corporation North, Inc., a bank holding
company and wholly owned subsidiary of Harleysville National Corporation.
Citizens National Bank of Slatington merged with and into The Citizens National
Bank of Lansford, a national banking association and wholly owned subsidiary of
Harleysville National Corporation North, Inc., under the name Citizens National
Bank.
PAGE 7
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
RESULTS OF OPERATIONS
- -----------------------
The following is management's discussion and analysis of the
significant changes in the results of operations, capital resources and
liquidity presented in its accompanying consolidated financial statements for
the Corporation, the Banks and HNC Financial Company. The Corporation's
consolidated financial condition and results of operations consist almost
entirely of the Banks' financial condition and results of operations. Current
performance does not guarantee, and may not be indicative of similar performance
in the future.
In addition to historical information, this Form 10-Q contains
forward-looking statements. We have made forward-looking statements in this
document, and in documents that we incorporate by reference, that are subject to
risks and uncertainties. Forward-looking statements include the information
concerning possible or assumed future results of operations of Harleysville
National Corporation and its subsidiaries. When we use words such as
"believes," "expects," "anticipates," or similar expressions, we are making
forward-looking statements.
Shareholders should note that many factors, some of which are
discussed elsewhere in this document and in the documents that we incorporate by
reference, could affect the future financial results of Harleysville National
Corporation and its subsidiaries and could cause those results to differ
materially from those expressed in our forward-looking statements contained or
incorporated by reference in this document. These factors include the
following:
- - operating, legal and regulatory risks;
- - economic, political and competitive forces affecting our banking,
securities, asset management and credit services businesses; and
- - the risk that our analyses of these risks and forces could be incorrect
and/or that the strategies developed to address them could be
unsuccessful.
OVERVIEW
- --------
The Corporation reported strong earnings performance in the first
quarter of 1999. This performance was achieved through an increase in earning
assets and a continuing emphasis on generating other operating income and
containing overhead expenses.
Consolidated net income for the first three months of 1999 was $5,189,000,
an increase of $712,000, or 15.9%, over the first three months of 1998 net
income of $4,477,000. Basic earning per share for the first three months of
1999 of $.69 increased 15.0%, over the first three months of 1998 basic earnings
per share of $.60. Diluted earnings per share at $.69 were up 16.9% from $.59
at March 31, 1998
The increase in net income during the first three months of 1999,
compared to the same period in 1998, is the result of both higher net interest
income and other operating income, partially offset by higher other operating
expenses. Net interest income grew $1,045,000, primarily as a result of a 16.6%
rise in average earning assets. Other operating income rose $412,000, due to
higher trust fees, a rise in service charges on deposit accounts and gains on
the sale of mortgages. Offsetting these increases was a rise in other operating
expenses, primarily related to the overall growth in the Banks.
For the three months ended March 31, 1999, the annualized return on average
shareholders' equity and the annualized return on average assets were 15.76% and
1.48%, respectively. For the same period in 1998, the annualized return on
average shareholders' equity was 14.95% and the annualized return on average
assets was 1.48%.
PAGE 8
As of March 31, 1999, the Banks have seen an improvement in asset
quality, compared to December 31, 1998 and March 31, 1998, respectively.
Nonperforming assets, including nonaccrual loans, restructured loans and other
real estate owned, were $4,696,000, or .50% of total loans and net assets
acquired in foreclosure at March 31, 1999, compared to .58% at December 31, 1998
and .59% at March 31, 1998. The ratio of the allowance for loan losses to
nonperforming assets improved to 300.2% at March 31, 1999, from 262.2% at
December 31, 1998 and 269.4% at March 31, 1998.
Net income is affected by five major elements: net interest income, or the
difference between interest income earned on loans and investments and interest
expense paid on deposits and borrowed funds; the provision for loan losses, or
the amount added to the allowance for loan losses to provide reserves for future
losses on loans; other operating income, which is made up primarily of certain
fees, trust income and gains and losses from sales of securities; other
operating expenses, which consist primarily of salaries and other operating
expenses; and income taxes. Each of these major elements will be reviewed in
more detail in the following discussion.
NET INTEREST INCOME AND RELATED ASSETS AND LIABILITIES
- -------------------------------------------------------------
Net interest income for the first three months of 1999 of $14,019,000
increased $1,045,000, or 8.1%, over the first three months of 1998 net interest
income of $12,974,000. As illustrated in the table below, the primary source of
this increase was a rise in interest income resulting from increases to earning
asset volumes in the first three months of 1999, compared to the same period in
1998. The increase in interest income was partially offset by a rise in
interest expense, primarily the result of higher volumes
The rate-volume variance analysis set forth in the table below,
which is computed on a tax-equivalent basis (tax rate of 35%), analyzes changes
in net interest income for the three months ended March 31, 1999 over March 31,
1998 by their rate and volume components.
<TABLE>
<CAPTION>
Three Months Ended
March 31, 1999
Over/Under
March 31, 1998
Total Caused by:
-----------
Variance Rate Volume
-------------------- ----------- --------
<S> <C> <C> <C>
Interest Income:
Securities * $ 1,714 ($75) $ 1,789
Money market instruments (244) (117) (127)
Loans * 1,015 (1,071) 2,086
-------------------- ----------- --------
Total 2,485 (1,263) 3,748
-------------------- ----------- --------
Interest Expense:
Savings deposits 55 (264) 319
Time deposits and certificates of deposit 233 (171) 404
Other borrowings 790 (35) 825
-------------------- ----------- --------
Total 1,078 (470) 1,548
-------------------- ----------- --------
Net interest income $ 1,407 ($793) $ 2,200
==================== =========== ========
*Tax Equivalent Basis
</TABLE>
Taxable-equivalent net interest income was $15,424,000 for the first three
months of 1999, compared to $14,017,000 for the same period in 1998, a 10.0% or
$1,407,000 increase. This rise in taxable-equivalent net interest income was
PAGE 9
primarily due to a $2,200,000 increase related to volume, which was partially
offset by a reduction in interest income, related to rate. Total
taxable-equivalent interest income grew $2,485,000, primarily the result of the
higher volumes in both the security and loan earning asset categories. Average
year-to-date securities grew $102,673,000 at March 31, 1999, compared to the
same period in 1998. This increase included $53,000,000 in securities purchased
as part of a capital leverage program during the fourth quarter of 1998. To
more fully leverage its capital, the Corporation entered into $53,000,000 of
structured transactions in which the Bank borrows funds from the Federal Home
Loan Bank (FHLB) and invests these borrowed funds into securities that are
priced to yield a spread over the FHLB borrowing rate. Average year-to-date
earning loans increased $103,186,000, or 12.8% in the first quarter of 1999,
compared to the first quarter of 1998.
Total interest expense grew $1,078,000 during the first three months
of 1999, compared to the same period in 1998. This growth was principally the
result of higher volumes associated with other borrowings. The average
year-to-date other borrowings grew $70,436,000 or 90.7%, compared to the first
three months of 1998. This increase in other borrowings is primarily attributed
to the funding required for the $53,000,000 capital leverage program. The
volume of savings and time deposits grew 11.6% and 7.7%, respectively. The
increase in deposit and other borrowing volumes was used to finance the earning
asset growth. Other borrowings include federal funds purchased, FHLB
borrowings, securities sold under agreements to repurchase and U. S. Treasury
demand notes.
The Banks actively manages its interest rate sensitivity positions.
The objectives of interest rate risk management are to control exposure of net
interest income to risks associated with interest rate movements and to achieve
consistent growth in net interest income. The Asset/Liability Committee, using
policies and procedures approved by the Banks' Boards of Directors, is
responsible for managing the rate sensitivity position. The Banks manage
interest rate sensitivity by changing mix and repricing characteristics of their
assets and liabilities through their investment securities portfolio, borrowings
from the FHLB and their offering of loan and deposit terms. The nature of the
Banks current operations is such that is not subject to foreign currency
exchange or commodity price risk. The Banks do not own trading assets and they
do not have any hedging transactions in place such as interest rate swaps, caps
or floors. The Banks utilize three principal reports to measure interest rate
risk: asset/liability simulation reports, gap analysis reports and net interest
margin reports.
NET INTEREST MARGIN
---------------------
The net interest margin of 4.58% for the three-month period ended March 31,
1999, decreased from the 4.86% net interest margin for the first three months of
1998. The decrease in the net interest margin is primarily due to the
institution of the capital leverage program during the fourth quarter of 1998.
The actual leverage program yield spread earned during the first quarter of 1999
was 1.63%. Since the current competitive interest rate environment will
continue to place downward pressure on the net interest margin, the Banks expect
to increase net interest income through the continued growth in market share of
loans and deposits. The yield on earning assets of 7.69% during the first three
months of 1999 was lower than the 8.11% earned during the first three months of
1998. This drop in yield is primarily due to the capital leverage program and
lower rates experienced throughout the earning asset portfolio in 1999, compared
to 1998. The first quarter 1999 average interest rate paid on interest-bearing
deposits and other borrowings of 3.90% was lower than the first three months of
1998 rate of 4.08%. Lower savings rates were primarily responsible for this
decrease.
PROVISION FOR LOAN LOSSES
- ----------------------------
The provision is based on management's analysis of the adequacy of the
allowance for loan losses. In its evaluation, management considers past loan
experience, overall characteristics of the loan portfolio, current economic
conditions and other relevant factors. Based on the latest monthly evaluation
of potential loan losses, the allowance is adequate to absorb known and inherent
losses in the loan portfolio. Ultimately, however, the adequacy of the
allowance is largely dependent upon the economy, a factor beyond the
Corporation's control. With this in mind, additions to the allowance for loan
losses may be required in future periods, especially if economic trends worsen
or certain borrowers' ability to repay declines.
PAGE 10
For the first three months of 1999 the provision for loan losses was
$477,000, compared to $565,000 for the same period in 1998. The lower provision
for loan losses during the first quarter of 1999, compared to the same period in
1998 is attributed to the continued improvement in the quality of the loan
portfolio. Net loans charged off was $87,000 for the three months ended March
31, 1999, compared to $104,000 for the three months ended March 31, 1998. The
ratio of the allowance for loan losses to nonperforming assets for March 31,
1999 of 300.2% was higher than the December 31, 1998 and the March 31, 1998
ratios of 262.2% and 269.4%, respectively.
Allowance for Loan Losses
- ----------------------------
Transaction in the allowance for loan losses are as follows:
<TABLE>
<CAPTION>
1999 1998
------------ ------------
<S> <C> <C>
Balance, Beginning of Year $13,706,000 $12,592,000
Provision charged to operating expenses 477,000 565,000
Loans charged off (141,000) (188,000)
Recoveries 54,000 84,000
------------ ------------
Balance, March 31 14,096,000 13,053,000
============ ============
</TABLE>
<TABLE>
<CAPTION>
Ratios: March 31, 1999 Dec. 31, 1998 March 31, 1998
- ------------------------------------------------- ---------------- -------------- ----------------
<S> <C> <C> <C>
Allowance for loan losses to nonperforming assets 300.2% 262.2% 269.4%
Nonperforming assets to total loans & net assets
acquired in foreclosure 0.50% 0.58% 0.59%
Allowance for loan losses to total loans 1.52% 1.52% 1.61%
The following table sets forth an allocation of the allowance for loan losses by loan category:
</TABLE>
<TABLE>
<CAPTION>
March 31, 1999
---------------
Percent
Amount of Loans
--------------- ---------
<S> <C> <C>
Commercial and industrial $ 3,201,000 28%
Consumer loans 1,694,000 30%
Real estate 1,551,000 34%
Lease financing 232,000 8%
Unallocated 7,418,000 N/A
--------------- ---------
Total $ 14,096,000 100%
=============== =========
</TABLE>
Nonperforming assets (nonaccruing loans, net assets in foreclosure and
troubled debt restructured loans) were 0.50% of total loans and net assets
acquired in foreclosure at March 31, 1999, compared to 0.58% at December 31,
1998 and 0.60% at March 31, 1998. The ratio of the allowance for loan losses to
loans at March 31, 1999 of 1.52% did not change from the December 31, 1998 ratio
and was lower than the March 31, 1998 ratio of 1.61%.
Nonaccruing loans at March 31, 1999 of $3,144,000,000, decreased $307,000
from the December 31, 1998 level of $3,514,000, and increased $194,000 from the
March 31, 1998 level of $2,950,000.
Net assets in foreclosure totaled $1,063,000 as of March 31, 1999,
a decrease of $68,000 from the December 31, 1998 balance of $1,131,000. During
the first three months of 1999, transfers from loans to assets in foreclosure
were $501,000, payments on foreclosed properties totaled $554,000 and
write-downs of assets in foreclosure equaled $15,000. The loans transferred to
assets in foreclosure included mortgages of $260,000 and leases of $241,000.
The balance of net assets in foreclosure at March 31, 1998 was $1,062,000.
Efforts to liquidate assets acquired in foreclosure are proceeding as quickly as
potential buyers can be located and legal constraints permit. Generally
PAGE 11
accepted accounting principles require foreclosed assets to be carried at the
lower of cost (lesser of carrying value of asset or fair value at date of
acquisition) or estimated fair value.
As of March 31, 1999, there were two unrelated borrowers with troubled debt
restructured loans totaling $489,000, compared with three unrelated borrowers
with a balance of $583,000 as of December 31, 1998 and $834,000 at March 31,
1998. The two customers were complying with the restructured terms as of March
31, 1999.
Loans past due 90 days or more and still accruing interest are loans that
are generally well secured and expected to be restored to a current status in
the near future. As of March 31, 1999, loans past due 90 days or more and still
accruing interest were $564,000, compared to $1,350,000 as of December 31, 1998
and $1,544,000 as of March 31, 1998. The decrease in loans past due 90 days at
March 31, 1999, compared to December 31, 1998 and March 31, 1998 was primarily
the result of a decrease in real estate loans past due 90 days.
The following information concerns impaired loans:
<TABLE>
<CAPTION>
Impaired Loans: March 31, 1999 Dec. 31, 1998 March 31, 1998
--------------- -------------- ---------------
<S> <C> <C> <C>
Restructured Loans $ 489,000 $ 583,000 $ 834,000
Nonaccrual Loans $ 2,090,000 $ 1,513,000 $ 1,558,000
--------------- -------------- ---------------
Total Impaired Loans $ 2,579,000 $ 2,096,000 $ 2,392,000
=============== ============== ===============
Average year-to-date impaired loans: $ 2,576,000 $ 2,263,000 $ 2,430,000
=============== ============== ===============
Impaired loans with specific loss allowances: $ 2,579,000 $ 2,096,000 $ 2,392,000
=============== ============== ===============
Loss allowances reserved on impaired loans: $ 372,000 $ 302,000 $ 333,000
=============== ============== ===============
Year-to-date income recognized on impaired loans $ 11,000 $ 103,000 $ 21,000
=============== ============== ===============
</TABLE>
The Banks' policy for interest income recognition on impaired loans is to
recognize income on restructured loans under the accrual method. The Banks
recognize income on nonaccrual loans under the cash basis when the loans are
both current and the collateral on the loan is sufficient to cover the
outstanding obligation to the Banks. The Banks will not recognize income if
these factors do not exist.
OTHER OPERATING INCOME
- ------------------------
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------- ----------------
1999 1998
----------------------- ----------------
(Dollars in thousands)
<S> <C> <C>
Service charges $ 845 $ 775
Securities gains (losses), net 117 207
Trust income 638 420
Other income 715 501
----------------------- ----------------
Total other operating income $ 2,315 $ 1,903
======================= ================
</TABLE>
PAGE 12
Other operating income for the first three months of 1999 increased
$412,000, or 21.7%, from $1,903,000 at March 31, 1998 to $2,315,000 at March 31,
1999. This rise in other operating income is the result of a $70,000 growth in
service charges, a $218,000 rise in trust income and a $214,000 increase in
other income, primarily due to gains on the sale of residential mortgages. A
$90,000 decrease in security gains partially offset these increases.
The $70,000, or 9.0% increase in service charges is primarily the result of
a rise in fees charged on transaction deposit accounts. This growth was
primarily the result of the 15.2% increase in average deposit transaction
accounts, from the first three months of 1998 to the first three months in 1999.
The Corporation recorded a net security gain of $117,000 in the first three
months of 1999, compared to a $207,000 gain in the same period in 1998. From
time to time, the Corporation sells investment securities available for sale to
fund the purchase of other securities in an effort to enhance the overall return
of the portfolio.
Income from the Investment Management and Trust Services Division increased
$218,000, or 51.9% in the first three months of 1999, compared to the same
period in 1998. This increase was the result of both an increase in the book
value of trust assets under management of 12.8% from March 31, 1998 to March 31,
1999, and the Corporation's continuing emphasis on marketing the Investment
Management and Trust Services Division's products and services. Other income for
the first three months of 1999 increased $214,000, or 42.7%, compared to the
same period in 1998. This increase was primarily due to gains on the sale of
both residential mortgages and off lease vehicles. The Banks recognized gains
on the sale of residential mortgages of $142,000 in the first quarter of 1999,
compared to $14,000 in the first quarter of 1998. Gains on the sale of off
lease vehicles was $78,000 in the first three months of 1999, compared to
$18,000 in the same period of 1998.
OTHER OPERATING EXPENSES
- --------------------------
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------- ----------------
1999 1998
----------------------- ----------------
(Dollars in thousands)
<S> <C> <C>
Salaries $ 3,521 $ 3,405
Employee benefits 1,290 1,182
Net occupancy expense 619 572
Equipment expense 967 780
Other expenses 2,624 2,410
----------------------- ----------------
Total other operating expenses $ 9,021 $ 8,349
======================= ================
</TABLE>
Other operating expenses for the first three months of 1999 of $9,021,000
increased $672,000, or 8.0%, from $8,349,000 for the same period in 1998. The
rise in operating expenses was the result of costs related to technology
enhancements to be used to improve both the Banks productivity and products
offered to customers, and other expenses related to the overall growth of the
Banks.
Employee salaries increased $116,000, or 3.4% from $3,405,000 for the
first three months of 1998 to $3,521,000 for the same period in 1999. Employee
benefits of $1,290,000 expensed in the first three months of 1999, were
$108,000, or 9.1% higher than the $1,182,000 of employee benefits expensed
during the same period in 1998. The increase in salaries and employee benefits
reflects cost of living increases, merit increases and additional staff
necessitated by the growth of the Banks.
Net occupancy expense increased $47,000, or 8.2%, from $572,000 in the
first three months of 1998 to $619,000 in the first three months of 1999. Two
PAGE 13
new branches opened after April 1998 were primarily responsible for the increase
in occupancy expense. Equipment expense increased $187,000, or 24.0%, during
the first three months of 1999, compared to the same period in 1998. This
increase is due to both equipment depreciation and maintenance associated with
planned increased technology capabilities used to manage the rise in volume
related to the growth of the Corporation and to enhanced the products offered to
customers.
Other expenses increased $214,000, or 8.9%, from $2,410,000 in the
first three months of 1998, compared to $2,624,000 in other expenses recorded
during the same period in 1999. This increase is the result of higher expenses
associated with the overall growth of the Banks.
INCOME TAXES
- -------------
Income tax expense is less than the amount calculated using the statutory
tax rate primarily as a result of tax exempt income earned from state and
municipal securities and loans.
BALANCE SHEET ANALYSIS
- ------------------------
Total assets grew $19,121,000, or 1.4%, from $1,412,090,000 at December 31,
1998 to $1,431,211,000 at March 31, 1999. This growth was the result of a rise
in earning assets, which grew $22,385,000 to $1,371,786,000 at March 31, 1999,
from $1,349,401,000 at December 31, 1998. During the first three months of
1999, federal funds sold, interest-bearing deposits in banks and loans grew
$144,000, $591,000, $26,748,000, respectively. Offsetting these increases was a
$5,098,000 decrease in investment securities. Total assets grew $184,503,000,
or 14.8% at March 31, 1999, compared to March 31, 1998. Loans and investment
securities were the primary contributors to this increase by growing
$114,206,000 and $90,891,000, respectively during this period.
Total deposits rose $9,292,000, or .84% from $1,104,316,000 at December 31,
1998 to $1,113,608,000 at March 31, 1999. This modest increase is related to
the increase in non-interest bearing deposit balances experienced at year-end.
This growth was due to a $11,466,000 rise in time deposits, a $10,005,000
increase in money market accounts, and a $4,787,000 growth in savings accounts.
Non-interest bearing deposits decreased $15,655,000 and interest-bearing
checking accounts decreased $1,311,000. Other borrowings increased $7,467,000
during the first three months of 1999, primarily the result of an increase in
Federal Home Loan Bank borrowings and securities sold under agreement to
repurchase. Other borrowings and deposits are used to fund loan and investment
growth. Total deposits grew $98,395,000, or 9.7% from March 31, 1998 to March
31, 1999. Other borrowings grew $71,153,000 during this period.
CAPITAL
- -------
Capital formation is important to the Corporation's well being
and future growth. Capital for the period ending March 31, 1999 was
$131,831,000, an increase of $878,000 over the end of 1998. The increase is
primarily the result of the retention of the Corporation's earnings and from the
adjustment for the net unrealized gains (losses) on the investment securities
available for sale. Management believes that the Corporation's current capital
and liquidity positions are adequate to support its operations. Management is
not aware of any recommendations by any regulatory authority, which, if it were
to be implemented, would have a material effect on the Corporation's capital.
PAGE 14
(Dollars in thousands)
<TABLE>
<CAPTION>
Capital Level required to be Capital Level required to be
As of March 31, 1999 Actual Adequacy Capitalized Well Capitalized
- ------------------------------------------
Amount Ratio Amount Ratio Amount
-------- ------ ----------------------------- ------ -----------------------------
Total Capital (to risk weighted assets):
- ------------------------------------------
<S> <C> <C> <C> <C> <C>
Corporation $140,881 13.74% $ 82,025 8.00% $ 102,531
Harleysville National Bank 73,626 9.76% 60,355 8.00% 75,444
Citizens National Bank 32,548 18.16% 14,335 8.00% 17,919
Security National Bank 7,820 10.54% 5,935 8.00% 7,419
Tier 1 Capital (to risk weighted assets):
- ------------------------------------------
Corporation 127,437 12.43% 41,012 4.00% 61,519
Harleysville National Bank 64,178 8.51% 30,178 4.00% 45,266
Citizens National Bank 30,308 16.91% 7,167 4.00% 10,751
Security National Bank 6,892 9.29% 2,968 4.00% 4,452
Tier 1 Capital (to average assets):
- ------------------------------------------
Corporation 127,437 9.10% 56,008 4.00% 70,010
Harleysville National Bank 64,178 6.26% 41,026 4.00% 51,283
Citizens National Bank 30,308 12.00% 10,103 4.00% 12,629
Security National Bank 6,892 6.95% 3,968 4.00% 4,961
(Dollars in thousands)
Capital Level required to Capital Level required to
As of December 31, 1998 Actual be Adequacy Purposes be Action Provision
- ------------------------------------------
Amount Ratio Amount Ratio Amount
-------- ------ ----------------------------- ------ -----------------------------
Total Capital (to risk weighted assets):
- ------------------------------------------
Corporation $137,371 13.77% $ 79,823 8.00% $ 99,778
Harleysville National Bank 70,733 9.70% 58,316 8.00% 72,895
Citizens National Bank 32,040 17.90% 14,321 8.00% 17,901
Security National Bank 7,629 10.74% 5,680 8.00% 7,101
Tier 1 Capital (to risk weighted assets):
- ------------------------------------------
Corporation 124,039 12.43% 39,911 4.00% 59,867
Harleysville National Bank 61,603 8.45% 29,158 4.00% 43,737
Citizens National Bank 29,868 16.69% 7,160 4.00% 10,740
Security National Bank 6,741 9.49% 2,840 4.00% 4,260
Tier 1 Capital (to average assets):
- ------------------------------------------
Corporation 124,039 9.05% 54,817 4.00% 68,521
Harleysville National Bank 61,603 6.11% 40,191 4.00% 50,238
Citizens National Bank 29,868 11.64% 10,263 4.00% 12,828
Security National Bank 6,741 7.10% 3,799 4.00% 4,749
As of March 31, 1999
- ------------------------------------------
Ratio
------
Total Capital (to risk weighted assets):
- ------------------------------------------
<S> <C>
Corporation 10.00%
Harleysville National Bank 10.00%
Citizens National Bank 10.00%
Security National Bank 10.00%
Tier 1 Capital (to risk weighted assets):
- ------------------------------------------
Corporation 6.00%
Harleysville National Bank 6.00%
Citizens National Bank 6.00%
Security National Bank 6.00%
Tier 1 Capital (to average assets):
- ------------------------------------------
Corporation 5.00%
Harleysville National Bank 5.00%
Citizens National Bank 5.00%
Security National Bank 5.00%
(Dollars in thousands)
As of December 31, 1998
- ------------------------------------------
Ratio
------
Total Capital (to risk weighted assets):
- ------------------------------------------
Corporation 10.00%
Harleysville National Bank 10.00%
Citizens National Bank 10.00%
Security National Bank 10.00%
Tier 1 Capital (to risk weighted assets):
- ------------------------------------------
Corporation 6.00%
Harleysville National Bank 6.00%
Citizens National Bank 6.00%
Security National Bank 6.00%
Tier 1 Capital (to average assets):
- ------------------------------------------
Corporation 5.00%
Harleysville National Bank 5.00%
Citizens National Bank 5.00%
Security National Bank 5.00%
</TABLE>
The Corporation's capital ratios exceed regulatory requirements. Existing
minimum regulatory capital ratio requirements are 5.0% for primary capital and
6.0% for total capital. The Corporation's primary capital ratio was 9.90% at
March 31, 1999, compared with 9.80% at December 31, 1998. Since the
Corporation's only capital is primary capital, the total capital ratios are the
same as the primary capital ratios.
Pursuant to the federal regulators' risk-based capital adequacy guidelines,
the components of capital are called Tier 1 and Tier 2 capital. For the
Corporation, Tier 1 capital is the shareholders' equity, and Tier 2 capital is
the allowance for loan losses. The minimum for the Tier 1 ratio is 4.0%, and
the total capital ratio (Tier 1 plus Tier 2 capital divided by risk-adjusted
assets) minimum is 8.0%. At March 31, 1999, the Corporation's Tier 1
risk-adjusted capital ratio was 12.43%, and the total risk-adjusted capital
ratio was 13.74%, both well above the regulatory requirements. The risk-based
capital ratios of each of the Corporation's commercial banks also exceeded
regulatory requirements at March 31, 1999.
The leverage ratio consists of Tier 1 capital divided by quarterly
average total assets, excluding intangible assets. Banking organizations are
expected to have ratios of at least 4% and 5%, depending upon their particular
condition and growth plans. Higher leverage ratios could be required by the
particular circumstances or risk profile of a given banking organization. The
PAGE 15
Corporation's leverage ratios were 9.10% at March 31, 1999 and 9.05% at December
31, 1998.
The year-to-date March 31, 1999 cash dividend per share of $.26 was 8.3%
higher than the cash dividend for the same period in 1998 of $.24. The dividend
payout ratio for the first three months of 1999 was 37.68%, compared to 38.91%
for the twelve month period ended December 31, 1998. Activity in both the
Corporation's dividend reinvestment and stock purchase plan and the stock option
plan did not have a material impact on capital during the first three months of
1999.
.
LIQUIDITY
- ---------
Liquidity is a measure of the ability of the Banks to meet their needs and
obligations on a timely basis. For a bank, liquidity provides the means to meet
the day-to-day demands of deposit customers and the needs of borrowing
customers. Generally, the Banks arrange their mix of cash, money market
investments, investment securities and loans in order to match the volatility,
seasonality, interest sensitivity and growth trends of its deposit funds.
Federal Funds sold averaged $9,449,000 during the first three months of 1999
and securities available for sale averaged $399,476,000 during the first three
months of 1999, more than sufficient to meet normal fluctuations in loan demand
or deposit funding. Backup sources of liquidity are provided by federal fund
lines of credit established with correspondent banks. Additional liquidity
could be generated through borrowings from the Federal Reserve Bank of
Philadelphia and the FHLB of Pittsburgh, of which the Banks are members. Unused
lines of credit at the FHLB of Pittsburgh were $115,534,000, as of March 31,
1999.
OTHER ITEMS
- ------------
LEGISLATIVE & REGULATORY
- --------------------------
From time to time, various types of federal and state legislation
have been proposed that could result in additional regulation of, and
restrictions on, the business of the Corporation and the Banks. We cannot
predict whether the legislation will be enacted or, if enacted, how the
legislation would affect the business of the Corporation and the Banks. As a
consequence of the extensive regulation of commercial banking activities in the
United States, the Corporation's and the Banks' business is particularly
susceptible to being affected by federal legislation and regulations that may
increase the costs of doing business. Except as specifically described herein,
management believes that the effect of the provisions of the aforementioned
legislation on liquidity, capital resources and results of operations of the
Corporation will be immaterial.
Management is not aware of any other current specific
recommendations by regulatory authorities or proposed legislation, which if they
were implemented, would have a material adverse effect upon the liquidity,
capital resources, or results of operations, although the general cost of
compliance with numerous and multiple federal and state laws and regulations
does have, and in the future may have, a negative impact on the Corporation's
results of operations.
Further, the business of the Corporation is also affected by the
state of the financial services industry in general. As a result of legal and
industry changes, management predicts that the industry will continue to
experience an increase in consolidations and mergers as the financial services
industry strives for greater cost efficiencies and market share. Management
also expects increased diversification of financial products and services
offered by the Banks and its competitors. Management believes that such
consolidations and mergers, and diversification of products and services may
enhance the Banks' competitive position.
Pending Legislation
--------------------
There are numerous proposals before Congress to modify the financial
services industry and the way commercial banks and other financial institutions
operate. Some of these proposals include changes to the ownership of financial
companies and the types of products and services that may be offered by
PAGE 16
financial institutions. However, it is difficult to determine at this time what
effect such provisions may have until they are enacted into law. Management
believes that the effect of the provisions of the aforementioned legislation on
the liquidity, capital resources, and results of operations of the Corporation
will be immaterial. Management is not aware of any other current specific
recommendations by regulatory authorities or proposed legislation which, if they
were implemented, would have a material adverse effect upon the liquidity,
capital resources, or results of operations, although the general cost of
compliance with numerous and multiple federal and state laws and regulations
does have, and in the future may have, a negative impact on the Corporation's
results of operations.
YEAR 2000
The following section contains forward-looking statements, which
involve risks and uncertainties. The actual impact on the Corporation of the
Year 2000 issue could materially differ from that which is anticipated in the
forward-looking statements as a result of certain factors identified below.
Many existing computer programs use only two digits to identify a year
in the date field. These programs were designed and developed without
considering the impact of the upcoming century date change. If not corrected,
many computer applications could fail or create erroneous results by or at the
Year 2000 (Y2K). The Year 2000 issue affects virtually all companies and
organizations.
CORPORATION'S STATE OF READINESS
The Corporation began addressing the Y2K issue in August 1997.
Management has initiated an enterprise-wide program to prepare the Corporation's
computer systems and applications for the Year 2000. The Corporation developed
a Y2K plan to include assessing the impact of the Y2K issue on the Corporation,
renovating systems to alleviate Y2K problems, validating the new systems and
implementing them. The Corporation focused on information technology and
non-information technology systems. A non-information system could be, for
example, a microcontroller in an elevator, which may be subject to Y2K problems.
The Corporation also reviewed Y2K issues related to material third parties.
The assessment phase of the Y2K plan included assigning
accountabilities throughout the Corporation. An inventory was completed of
mainframe and PC based applications, third-party relationships and
non-information technology systems. The final step in the assessment phase was
to identify non-compliant Y2K systems. The assessment phase was completed in
November 1997.
The Corporation began the renovation phase of the Y2K plan in January
1998. The renovation phase included developing action plans to correct
non-compliant Y2K systems. The action plans included either enhancing the
current system to resolve the Y2K problem or purchasing a new system that is Y2K
compliant. The renovation phase was completed in May 1998. The Corporation
developed a remediation plan for the non-compliant systems. As of March 31,
1999, 95% of the remediation phase has been completed.
The next phase of the plan was to validate the Y2K compliance of all
of the systems. This phase includes developing written test plans and
completing the testing of the systems The validation phase was completed during
the first quarter of 1999.
The Corporation has reviewed the Y2K issues related to material third
parties and completed an analysis on the loan portfolio. The Corporation's
third parties include its vendors and commercial customers. Our material third
party relationships are primarily our commercial borrowers. These borrowers may
pose a credit risk to the Corporation if they are not Y2K compliant. We have
contacted the material commercial customers and their responses were evaluated.
We have also performed an analysis on the impact of Y2K issues on the remaining
loan portfolio. The Corporation has allocated a portion of the allowance for
loan losses as a result of the Y2K issues.
Because most computer systems are, by their very nature,
interdependent, it is possible that noncompliant third-party computers could
impact the Corporation's computer systems. The Corporation could be adversely
affected by the Y2K problem if it or unrelated parties fail to successfully
address the problem. The Corporation has taken steps to communicate with the
PAGE 17
unrelated parties with whom it deals to coordinate Year 2000 compliance.
Additionally, we are dependent on external suppliers, such as, wire transfer
systems, telephone systems, electric companies, and other utility companies for
continuation of service.
COST OF YEAR 2000
The Committee has prepared a Y2K budget and has tracked expenses
related to the Y2K issue. As of March 31, 1999, the Corporation has expensed
$130,000 and capitalized fixed assets of $105,000 related to the Y2K issue.
The Corporation has estimated the future Y2K expenditures to be $50,000. The
Y2K project is being funded through operating cash flows.
The cost of the projects and the date on which the Corporation plans to
complete both Year 2000 modifications and systems conversions are based on
management's best estimates, which were derived utilizing numerous assumptions
of future events including the continued availability of certain resources,
third-party modification plans and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could differ
materially from those plans. Specific factors that might cause such material
differences include, but are not limited to, the availability and cost of
personnel trained in this area, the ability to locate and correct all relevant
computer codes, and similar uncertainties.
RISK OF YEAR 2000
At present, management believes its progress in remedying the
proprietary programs and installing the Y2K compliant upgrades to the
third-party vendor mainframe and PC based computer applications is on plan. The
Y2K computer problem creates risk for the Corporation from unforeseen problems
in its own computer systems and from third-party vendors who provide the
majority of mainframe and PC based computer applications. Failure of
third-party systems relative to the Y2K issue could have a material impact on
the Corporation's ability to conduct business and on its financial position and
results of operation.
CONTINGENCY PLANS
A contingency plan is being developed to handle the most reasonably
likely Y2K worst-case scenario should it occur. The contingency plan will
involve obtaining back-up service providers, working up contingency plans and
assessing the potential adverse risks to the Corporation. The contingency plan
was completed during the first quarter of 1999. The testing of the contingency
plan is scheduled to be completed by June 30, 1999. The Corporation has also
utilized an independent consulting firm to verify and validate the Corporation's
Y2K plans.
BRANCHING
---------
The Corporation's subsidiaries currently plan to open at least two
new branches. Harleysville National Bank will open a location in Royersford
during the second quarter of 1999 and is pursuing a location in Souderton.
These new branch sites are contiguous to our current service area and were
chosen to expand the Banks' market area and market share of loans and deposits.
ACQUISITION
- -----------
On January 20, 1999, the Corporation consummated its acquisition of
Northern Lehigh Bancorp, Inc., parent company of Citizens National Bank of
Slatington. Accounted for as a pooling-of-interest, Northern Lehigh Bancorp
shareholders received 3.57 shares of Harleysville National Corporation common
stock for each share of Northern Lehigh Bancorp common stock.
The acquisition was affected by the merger of Northern Lehigh
Bancorp, Inc. with Harleysville National Corporation North, Inc., a bank holding
company and wholly owned subsidiary of Harleysville National Corporation.
Citizens National Bank of Slatington merged with and into The Citizens National
Bank of Lansford, a national banking association and wholly owned subsidiary of
Harleysville National Corporation North, Inc., under the name Citizens National
Bank.
PAGE 18
ITEM 3 - Qualitative and Quantitative Disclosures About Market Risk
In the normal course of conducting business activities, the
Corporation is exposed to market risk, principally interest risk, through the
operations of its banking subsidiaries. Interest rate risk arises from market
driven fluctuations in interest rates that affect cash flows, income, expense
and values of financial instruments. The Asset/Liability Committee, using
policies and procedures approved by the Banks' Boards of Directors, is
responsible for managing the rate sensitivity position.
No material changes in market risk strategy occurred during the
current period. A detailed discussion of market risk is provided in the SEC
Form 10-K for the period ended December 31, 1998.
PAGE 19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
- -------- -------------------
Management, based upon discussions with the Corporation's legal counsel, is
not aware of any litigation that would have a material adverse effect on the
consolidated financial position of the Corporation. There are no proceedings
pending other than the ordinary routine litigation incident to the business of
the Corporation and its subsidiaries - Harleysville National Bank and Trust
Company, Citizens National Bank, Security National Bank and HNC Financial
Company. In addition, no material proceedings are pending or are known to be
threatened or contemplated against the Corporation and its subsidiaries by
government authorities.
Item 2. Change in Securities and Use of Proceeds
- ------- ----------------------------------------
Not applicable.
Item 3. Defaults Upon Senior Securities.
- ------- -------------------------------
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders.
- ------- ---------------------------------------------------
(a) The 1999 Annual Meeting of Shareholders was held
at 9:30 a.m., on Tuesday, April 13, 1999, at Presidential Caterers, 2910 DeKalb
Pike, Norristown, Pennsylvania 19401.
(b), (c) Three matters were voted upon as follows:
1. Three directors were elected, as below:
Elected Term Expires
------- -------------
Harold A. Herr 2003
Henry M. Pollak 2003
Walter F. Vilsmeier 2003
The results of the voting for the directors
are as follows:
Harold A. Herr:
For 6,134,602
Against 51,948
Abstain 0
Henry M. Pollak:
For 6,160,112
Against 26,438
Abstain 0
Walter F. Vilsmeier:
For 6,124,973
Against 61,577
Abstain 0
PAGE 20
Directors whose term continued after the meeting:
Term Expires
-------------
Palmer E. (Pete) Retzlaff 2000
LeeAnn Bergey 2000
William M. Yocum 2001
Walter E. Daller Jr. 2002
Martin E. Fossler 2002
Thomas S. McCready 2002
2. The Harleysville National Corporation 1998
Stock Incentive Plan was approved and adopted.
The results of the voting for the 1998 Stock
Incentive Plan is as follows:
For 5,213,000
Against 374,701
Abstain 29,709
3. The Harleysville National Corporation 1998
Independent Directors Stock Option Plan was
approved and adopted.
The results of the voting for the 1998 Independent
Directors Stock Option Plan is as follows:
For 5,222,966
Against 343,478
Abstain 50,965
Item 5. Other Information
- --------------------------
None.
Item 6. Exhibits and Reports on Form 8-K.
- -----------------------------------------
(a) Exhibits:
The following exhibit is being filed as part of this Report:
Exhibit No. Description of Exhibits
- ----------- -----------------------
(3.1) Harleysville National Corporation Articles of Incorporation,
as amended. (Incorporated by reference to Exhibit 3(a) to
the Corporation's Registration Statement No. 33-65021 on
Form S-4, as filed on December 14, 1995.)
(3.2) Harleysville National Corporation By-laws. (Incorporated by
reference to Exhibit 3(b) to the Corporation's Registration
Statement No. 33-65021 on Form S-4, as filed on December 14,
1995.)
(10.1) Harleysville National Corporation 1993 Stock Incentive Plan.
(Incorporated by Reference to Exhibit 4.3 of Registrant's
Registration Statement No. 33-57790 on Form S-8, filed with the
Commission on October 1, 1993.)
(10.2) Harleysville National Corporation Stock Bonus Plan. (Incorporated by
Reference to Exhibit 99A of Registrant's Registration Statement No.
33-17813 on Form S-8, filed with the Commission on December 13,
1996.)
(10.3) Supplemental Executive Retirement Plan. (Incorporated by Reference
to Exhibit 10.3 of Registrant's Annual Report in Form 10-K for the
year ended December 31, 1997, filed with the Commission on March 27,
1998.)
(10.4) Walter E. Daller, Jr., Chairman, President and Chief Executive
Officer's employment agreement. (Incorporated by Reference to
Registrant's Registration Statement on Form 8-K, filed with
the Commission on March 25, 1999.)
(10.5) Demetra M. Takes, President and Chief Operating Officer of
Harleysville employment agreement. (Incorporated by Reference to
Registrant's Registration Statement on Form 8-K, filed with
the Commission on March 25,1999.)
(10.6) Vernon L. Hunsberger. Senior Vice President/CFO and Cashier's
employment agreement. (Incorporated by Reference to Registrant's
Registration Statement on Form 8-K, filed with the Commission
on March 25, 1999.)
(11) Computation of Earnings per Common Share. The information for
this Exhibit is incorporated by reference to page 4 of
this Form 10-Q.
(27) Financial Data Schedule.
(b) Reports on Form 8-K:
None.
PAGE 22
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.
HARLEYSVILLE NATIONAL CORPORATION
__________________________________
/s/ Walter E. Daller, Jr., President
and Chief Executive Officer
(Principal executive officer)
___________________________________
/s/ Vernon L. Hunsberger, Treasurer
(Principal financial and accounting officer)
Date: May 14, 1999
PAGE 23
EXHIBIT INDEX
--------------
Exhibit No. Description of Exhibits
- ----------- -------------------------
(3.1) Harleysville National Corporation Articles of Incorporation, as
amended. (Incorporated by reference to Exhibit 3(a) to the
Corporation's Registration Statement No. 33-65021 on Form
S-4, as filed on December 14, 1995.)
(3.2) Harleysville National Corporation By-laws. (Incorporated by
reference to Exhibit 3(b) to the Corporation's Registration
Statement No. 33-65021 on Form S-4, as filed on December 14,
1995.)
(10.1) Harleysville National Corporation 1993 Stock Incentive Plan.
(Incorporated by Reference to Exhibit 4.3 of Registrant's
Registration Statement No. 33-57790 on Form S-8, filed
with the Commission on October 1, 1993.)
(10.2) Harleysville National Corporation Stock Bonus Plan.
(Incorporated by Reference to Exhibit 99A of Registrant's
Registration Statement No. 33-17813 on Form S-8, filed with
the Commission on December 13, 1996.)
(10.3) Supplemental Executive Retirement Plan. (Incorporated by
Reference to Exhibit 10.3 of Registrant's Annual Report
in Form 10-K for the year ended December 31, 1997, filed
with the Commission on March 27, 1998.)
(10.4) Walter E. Daller, Jr., Chairman, President and Chief Executive
Officer's employment agreement. (Incorporated by Reference
to Registrant's Registration Statement on Form 8-K,
filed with the Commission on March 25, 1999.)
(10.5) Demetra M. Takes, President and Chief Operating Officer of
Harleysville employment agreement. (Incorporated by Reference
to Registrant's Registration Statement on Form 8-K, filed
with the Commission on March 25, 1999.)
(10.6) Vernon L. Hunsberger. Senior Vice President/CFO and Cashier's
employment agreement. (Incorporated by Reference to Registrant's
Registration Statement on Form 8-K, filed with the
Commission on March 25, 1999.)
(11) Computation of Earnings per Common Share. The information for
this Exhibit is incorporated by reference to page 4 of
this Form 10-Q.
(27) Financial Data Schedule.
PAGE 24
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0
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