UNITED STATES
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 period ended September 30, 1999
Transaction Report Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
For the transaction period from to
Commission File Number 0-11204
USBANCORP, INC.
(Exact name of registrant as specified in its charter)
Pennsylvania 25-1424278
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
Main & Franklin Streets, P.O. Box 430, Johnstown, PA 15907-0430
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (814) 533-5300
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.
X Yes No
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at November 1, 1999
Common Stock, par value $2.50 13,303,605
per share
<PAGE>1
USBANCORP, INC.
INDEX
Page No.
PART I. FINANCIAL INFORMATION:
Consolidated Balance Sheet -
September 30, 1999, December 31, 1998,
and September 30, 1998 3
Consolidated Statement of Income -
Three and Nine Months Ended September 30, 1999,
and 1998 4
Consolidated Statement of Changes
in Stockholders' Equity - Nine Months Ended
September 30, 1999, and 1998 6
Consolidated Statement of Cash Flows -
Nine Months Ended September 30, 1999, and 1998 7
Notes to Consolidated Financial Statements 8
Management's Discussion and Analysis
of Consolidated Financial Condition
and Results of Operations 22
Part II. Other Information 42
<PAGE>2
USBANCORP, INC.
CONSOLIDATED BALANCE SHEET
(In thousands)
<TABLE>
<CAPTION>
September 30 December 31 September 30
1999 1998 1998
(Unaudited) (Unaudited)
<S> <C> <C> <C>
ASSETS
Cash and due from banks $ 41,740 $ 35,085 $ 35,583
Interest bearing deposits with banks 266 3,855 854
Investment securities:
Available for sale 1,212,987 661,491 651,785
Held to maturity (market value
$516,452 on December 31, 1998,
and $506,628 on September 30, 1998) - 508,142 496,102
Loans held for sale 21,901 51,317 27,675
Loans 1,057,137 1,020,280 1,012,473
Less: Unearned income 7,391 5,276 5,209
Allowance for loan losses 10,911 10,725 11,717
Net loans 1,038,835 1,004,279 995,547
Premises and equipment 18,975 18,020 18,021
Accrued income receivable 17,379 17,150 17,216
Mortgage servicing rights 14,457 16,197 15,168
Goodwill and core deposit intangibles 26,447 18,697 19,283
Bank owned life insurance 36,869 35,622 35,213
Other assets 18,837 7,226 8,492
TOTAL ASSETS $ 2,448,693 $ 2,377,081 $ 2,320,939
LIABILITIES
Non-interest bearing deposits $ 178,430 $ 166,701 $ 160,706
Interest bearing deposits 1,035,962 1,009,590 1,004,890
Total deposits 1,214,392 1,176,291 1,165,596
Federal funds purchased and securities sold
under agreements to repurchase 52,748 101,405 59,196
Other short-term borrowings 145,103 129,003 60,946
Advances from Federal Home Loan Bank 852,008 752,391 817,403
Guaranteed junior subordinated deferrable
interest debentures 34,500 34,500 34,500
Long-term debt 7,841 9,271 5,061
Total borrowed funds 1,092,200 1,026,570 977,106
Other liabilities 24,292 32,550 31,938
TOTAL LIABILITIES 2,330,884 2,235,411 2,174,640
STOCKHOLDERS' EQUITY
Preferred stock, no par value; 2,000,000 shares
authorized;there were no shares issued and
outstanding for the periods presented - - -
Common stock, par value $2.50 per share;
12,000,000 shares authorized; 17,384,524 shares
issued and 13,303,605 outstanding on September
30, 1999; 17,350,136 shares issued and
13,512,317 outstanding on December 31,
1998; 17,348,334 shares issued and 13,661,215
outstanding on September 30, 1998 43,461 43,375 43,371
Treasury stock at cost, 4,080,919 shares on
September 30, 1999; 3,837,819 shares on
December 31, 1998; and 3,687,119 shares on
September 30, 1998 (65,725) (61,521) (58,543)
Surplus 65,662 65,495 65,484
Retained earnings 101,537 91,737 90,043
Accumulated other comprehensive income (27,126) 2,584 5,944
TOTAL STOCKHOLDERS' EQUITY 117,809 141,670 146,299
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 2,448,693 $ 2,377,081 $ 2,320,939
See accompanying notes to consolidated financial statements.
</TABLE>
<PAGE>3
USBANCORP, INC.
CONSOLIDATED STATEMENT OF INCOME
(In thousands, except per share data)
Unaudited
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
1999 1998 1999 1998
<S> <C> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans and
loans held for sale:
Taxable $ 21,208 $ 21,354 $ 63,183 $ 63,286
Tax exempt 557 625 1,669 1,868
Deposits with banks 31 22 89 101
Investment securities:
Available for sale 11,827 9,990 34,285 27,786
Held to maturity 8,329 8,261 24,160 26,034
Total Interest Income 41,952 40,252 123,386 119,075
INTEREST EXPENSE
Deposits 10,153 10,427 30,692 30,877
Federal funds purchased and securities
sold under agreements to repurchase 776 1,564 2,693 4,157
Other short-term borrowings 1,504 1,022 5,118 3,226
Advances from Federal Home Loan Bank 11,921 10,178 32,777 29,796
Guaranteed junior subordinated
deferrable interest 740 740 2,220 1,241
Long-term debt 105 122 314 355
Total Interest Expense 25,199 24,053 73,814 69,652
NET INTEREST INCOME 16,753 16,199 49,572 49,423
Provision for loan losses 225 150 1,750 450
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES 16,528 16,049 47,822 48,973
NON-INTEREST INCOME
Trust fees 1,217 1,104 3,694 3,330
Net realized (losses) gains on
investment securities (3) 737 431 1,755
Net realized gains on loans held for
sale 445 887 4,300 2,694
Wholesale cash processing fees 159 178 477 530
Service charges on deposit accounts 910 899 2,654 2,506
Net mortgage servicing fees 216 154 536 735
Bank owned life insurance 415 411 1,247 1,233
Gain on sale of branch - - 540 -
Other income 1,894 1,857 5,524 5,163
Total Non-Interest Income 5,253 6,227 19,403 17,946
NON-INTEREST EXPENSE
Salaries and employee benefits 8,044 7,732 24,203 22,812
Net occupancy expense 1,110 1,075 3,468 3,353
Equipment expense 1,016 874 3,116 2,704
Professional fees 919 944 2,522 2,496
Supplies, postage, and freight 677 664 2,041 2,018
Miscellaneous taxes and insurance 439 399 1,343 1,143
FDIC deposit insurance expense 69 68 204 205
Amortization of goodwill and core
deposit intangibles 792 586 2,343 1,722
Impairment charge (credit) for
mortgage servicing rights (625) 266 (625) 266
Other expense 2,476 2,472 7,469 7,320
Total Non-Interest Expen $ 14,917 $ 15,080 $ 46,084 $ 44,039
CONTINUED ON NEXT PAGE
</TABLE>
<PAGE>4
CONSOLIDATED STATEMENT OF INCOME
CONTINUED FROM PREVIOUS PAGE
Three Months Ended Nine Months Ended
September 30 September 30
1999 1998 1999 1998
INCOME BEFORE INCOME TAXES $ 6,864 $ 7,196 $ 21,141 $ 22,880
Provision for income taxes 1,772 1,896 5,473 6,148
NET INCOME $ 5,092 $ 5,300 $ 15,668 $ 16,732
PER COMMON SHARE DATA:
Basic:
Net income $ 0.38 $ 0.39 $ 1.17 $ 1.18
Average shares outstanding 13,302,997 13,760,019 13,351,855 14,147,108
Diluted:
Net income $ 0.38 $ 0.38 $ 1.16 $ 1.16
Average shares outstanding 13,404,177 14,001,368 13,477,277 14,410,365
Cash dividends declared $ 0.15 $ 0.14 $ 0.44 $ 0.40
See accompanying notes to consolidated financial statements.
<PAGE>5
USBANCORP, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(In thousands)
Unaudited
<TABLE>
<CAPTION>
Accumulated
Other
Preferred Common Treasury Retained Comprehensive
Stock Stock Stock Surplus Earnings income Total
<S> <C> <C> <C> <C> <C> <C> <C>
Balance December 31,
1997 $ - $ 14,402 $(31,175) $ 93,934 $ 78,866 $ 2,153 $158,180
Net Income - - - - 16,732 - 16,732
Dividend reinvestment
and stock
purchase plan - 71 - 448 - - 519
Effect of 3 for 1 stock split
In the form of a 200%
stock dividend - 28,898 - (28,898) - - -
Net unrealized holding
gains (losses) on
investment
securities - - - - - 3,791 3,791
Treasury Stock, 1,086,245
shares at cost - - (27,368) - - - (27,368)
Cash dividends
declared: Common stock - - - - (5,555) - (5,555)
Balance September 30, 1998 $ - $ 43,371 $(58,543) $ 65,484 $ 90,043 $ 5,944 $146,299
Balance December 31,
1998 $ - $ 43,375 $(61,521) $ 65,495 $ 91,737 $ 2,584 $141,670
Net Income - - - - 15,668 - 15,668
Dividend reinvest-
ment and stock
purchase plan - 86 - 167 - - 253
Net unrealized
holding gains
(losses) on
investment
securities - - - - - (29,710 (29,710)
Treasury Stock, 243,100
shares at cost - - (4,204) - - - (4,204)
Cash dividends
declared:
Common stock - - - - (5,868) - (5,868)
Balance September 30, 1999 $ - $ 43,461 $(65,725) $ 65,662 $101,537 $ (27,126) $117,809
See accompanying notes to consolidated financial statements.
</TABLE>
<PAGE>6
USBANCORP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(In thousands)
Unaudited
Nine Months Ended
September 30
1999 1998
OPERATING ACTIVITIES
Net income $ 15,668 $ 16,732
Adjustments to reconcile net income to
net cash provided by operating activities:
Provision for loan losses 1,750 450
Depreciation and amortization expense 1,943 1,871
Amortization expense of goodwill and core
deposit intangibles 2,343 1,722
Amortization expense of mortgage servicing rights 2,111 1,950
Net amortization of investment securities 1,045 553
Net realized gains on investment securities (431) (1,755)
Net realized gains on loans and loans held for sale (4,300) (2,694)
Origination of mortgage loans held for sale (333,973) (305,206)
Sales of mortgage loans held for sale 359,657 297,895
(Increase) decrease in accrued income receivable (229) 101
Increase in accrued expense payable 537 492
Net cash provided by operating activities 46,121 12,111
INVESTING ACTIVITIES
Purchases of investment securities and other
short-term investments (474,999) (532,482)
Proceeds from maturities of investment securities
and other short-term investments 163,003 185,937
Proceeds from sales of investment securities and
other short-term investments 221,824 321,095
Long-term loans originated (294,515) (272,589)
Loans held for sale (21,901) (27,675)
Principal collected on long-term loans 277,627 261,566
Loans purchased or participated (9,743) -
Loans sold or participated 4,611 44
Net decrease in credit card receivable and
other short-term loans 15,647 2,449
Purchases of premises and equipment (3,111) (2,329)
Sale/retirement of premises and equipment 211 67
Net decrease in assets held in trust for
collateralized mortgage obligation 793 1,139
Net increase mortgage servicing rights (371) (2,158)
Net increase in other assets (7,250) (8,453)
Net cash used by investing activities (128,174) (73,389)
FINANCING ACTIVITIES
Proceeds from sales of certificates of deposit 343,612 375,822
Payments for maturing certificates of deposit (329,873) (364,526)
Net increase in demand and savings deposits 24,362 14,773
Net decrease in federal funds purchased,
securities sold under agreements to repurchase,
and other short-term borrowings (33,279) (31,592)
Net principal borrowings of advances from
Federal Home Loan Bank 99,617 63,208
Principal borrowings on long-term debt - 11,123
Repayments of long-term debt (708) (13,189)
Common stock cash dividends paid (4,681) (4,870)
Proceeds from sale of guaranteed junior deferrable
interest debentures, net of expenses - 33,183
Guaranteed junior subordinated deferrable interest
debenture dividends paid (2,187) (1,215)
Proceeds from dividend reinvestment, stock
purchase plan, and stock options exercised 253 519
Purchases of treasury stock (4,204) (27,368)
Net (decrease) increase in other liabilities (7,793) 3,628
Net cash provided by financing activities 85,119 59,496
NET INCREASE (DECREASE) IN CASH EQUIVALENTS 3,066 (1,782)
CASH EQUIVALENTS AT JANUARY 1 38,940 38,219
CASH EQUIVALENTS AT SEPTEMBER 30 $ 42,006 $ 36,437
See accompanying notes to consolidated financial statements.
<PAGE>7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Principles of Consolidation
The consolidated financial statements include the accounts of
USBANCORP, Inc. (the "Company") and its wholly-owned subsidiaries,
U.S. Bank ("U.S. Bank"), Three Rivers Bank and Trust Company ("Three
Rivers Bank"), USBANCORP Trust and Financial Services Company
("Trust Company"), UBAN Associates, Inc., ("UBAN Associates") and
United Bancorp Life Insurance Company ("United Life"). In addition,
the Parent Company is an administrative group that provides support
in such areas as audit, finance, investments, loan review, general
services, loan policy, and marketing. Intercompany accounts and
transactions have been eliminated in preparing the consolidated
financial statements.
2. Basis of Preparation
The unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles
for interim financial information. In the opinion of management, all
adjustments that are of a normal recurring nature and are considered
necessary for a fair presentation have been included. They are not,
however, necessarily indicative of the results of consolidated
operations for a full year.
With respect to the unaudited consolidated financial
information of the Company for the three and nine month periods
ended September 30, 1999, and 1998, Arthur Andersen LLP, independent
public accountants, conducted reviews (based upon procedures
established by the American Institute of Certified Public
Accountants) and not audits, as set forth in their separate review
report dated October 15, 1999, appearing herein. This report does
not express an opinion on the interim unaudited consolidated
financial information. Arthur Andersen LLP has not carried out any
significant or additional audit tests beyond those which would have
been necessary if its report had not been included. The December
31, 1998, numbers are derived from audited financial statements.
For further information, refer to the consolidated financial
statements and accompanying notes included in the Company's "Annual
Report and Form 10-K" for the year ended December 31, 1998.
3. Earnings Per Common Share
Basic earnings per share includes only the weighted average
common shares outstanding. Diluted earnings per share includes the
weighted average common shares outstanding and any dilutive common
stock equivalent shares in the calculation. All prior periods have
been restated to reflect this adoption. Treasury shares are treated
as retired for earnings per share purposes.
<PAGE>8
4. Comprehensive Income
In January 1998, the Company adopted SFAS #130, "Reporting
Comprehensive Income," which established standards for reporting and
displaying comprehensive income and its components in a financial
statement. For the Company, comprehensive income includes net
income and unrealized holding gains and losses from available for
sale investment securities. The changes in other comprehensive
income are reported net of income taxes, as follows (in millions):
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30, September 30, September 30,
1999 1998 1999 1998
<S> <C> <C> <C> <C>
Net income $5,092 $5,300 $15,668 $16,732
Other comprehensive income,
before tax:
Unrealized holding gains(losses)
on investment securities (12,388) 5,568 (39,658) 6,939
Less: reclassification adjustment
for losses (gains) included in
net income 3 (737) (431) (1,755)
Other comprehensive income(loss)
before tax (12,385) 4,831 (40,089) 5,184
Income tax expense(credit)
related to items of other
comprehensive income (3,198) 1,273 (10,379) 1,393
Other comprehensive income(loss),
net of tax (9,187) 3,558 (29,710) 3,791
Comprehensive income $ (4,095) $8,858 $(14,042) $20,523
</TABLE>
5. Consolidated Statement of Cash Flows
On a consolidated basis, cash equivalents include cash and due
from banks, interest bearing deposits with banks, and federal funds
sold and securities purchased under agreements to resell. For the
Parent Company, cash equivalents also include short-term
investments. The Company made $3,477,000 in income tax payments in
the first nine months of 1999 as compared to $4,930,000 for the
first nine months of 1998. Total interest expense paid amounted to
$73,277,000 in 1999's first nine months compared to $69,160,000 in
the same 1998 period.
6. Investment Securities
Securities are classified at the time of purchase as
investment securities held to maturity if it is management's intent
and the Company has the ability to hold the securities until
maturity. These held to maturity securities are carried on the
Company's books at cost, adjusted for amortization of premium and
accretion of discount which is computed using the level yield method
which approximates the effective interest method. Alternatively,
securities are classified as available for sale if it is
management's intent at the time of purchase to hold the securities
for an indefinite period of time and/or to use the securities as
part of the Company's asset/liability management strategy.
Securities classified as available for sale include securities which
may be sold to effectively manage interest rate risk exposure,
prepayment risk, and other factors (such as liquidity requirements).
<PAGE>9
These available for sale securities are reported at fair value with
unrealized aggregate appreciation/(depreciation) excluded from
income and credited/(charged) to a separate component of
shareholders' equity on a net of tax basis. Any security classified
as trading assets are reported at fair value with unrealized
aggregate appreciation/(depreciation) included in current income on
a net of tax basis. The Company presently does not engage in trading
activity. Realized gain or loss on securities sold was computed
upon the adjusted cost of the specific securities sold. The book
and market values of investment securities are summarized as follows
(in thousands):
Investment securities available for sale:
September 30, 1999
Gross Gross
Book Unrealized Unrealized Market
Value Gains Losses Value
U.S. Treasury $ 16,072 $ 3 $ (72) $ 16,003
U.S. Agency 42,894 - (1,868) 41,026
State and municipal 162,735 1,174 (6,248) 157,661
U.S. Agency mortgage-backed
securities 953,357 991 (34,436) 919,912
Other securities<F1> 79,661 69 (1,345) 78,385
Total $1,254,719 $ 2,237 $ (43,969) $1,212,987
<F1>Other investment securities include corporate notes and bonds,
asset-backed securities, and equity securities.
During the third quarter of 1999, the Company in preparation for liquidity
needs for Year 2000 sold $16 million of mortgage backed securities that had
been purchased in 1993 through 1995 and classified as held to maturity. The
Company believed the sales were allowable under the provision of SFAS #115
which permits the sale of held to maturity mortgage backed securities afetr a
substantial portion (85%) of the principal had been collected through repayment.
The Company, however, misiterpreted this provision and computed the 85% paydown
factor against the principal outstanding at issuance as opposed to using the
principal outstanding at the point the Company purchased the securities in the
secondary market. As a result of this interpretation error, the Company
tainted its held to maturity portfolio and transferred all securities
classified as held to maturity to available for sale. The time period for the
taint will be two years. At the time of transfer, these securities had an
amortized cost of $495.8 million and a market value of $485.4 million. Prior
to the transfer, approximately 60% of the Company's investment securites were
already classified as available for sale. With the entire portfolio now being
classified as available for sale, the Company will have greater flexability
to manage the securities portfolio to better achieve overall balance sheet rate
sensitivity goals and provide liquidity to fund growth if needed. The mark to
market of the available for sale portfolio does inject more volatility in the
book value of equity but has no impact on regulatory capital.
Maintaining investment quality is a primary objective of the
Company's investment policy which, subject to certain limited
exceptions, prohibits the purchase of any investment security below
a Moody's Investor's Service or Standard & Poor's rating of "A." At
September 30, 1999, 97.5% of the portfolio was rated "AAA" compared
to 98.6% at September 30, 1998. Approximately 1.4% of the portfolio
was rated below "A" or unrated on September 30, 1999.
7. Loans Held for Sale
At September 30, 1999, $21,901,000 of newly originated fixed-
rate residential mortgage loans were classified as "held for sale."
It is management's intent to sell these residential mortgage loans
during the next several months. The residential mortgage loans held
for sale are carried at the lower of aggregate cost or market value.
Net realized and unrealized gains and losses are included in "Net
gains (losses) on loans held for sale"; unrealized net valuation
adjustments (if any) are recorded in the same line item on the
Consolidated Statement of Income.
<PAGE>10
8. Loans
The loan portfolio of the Company consists of the following
(in thousands):
<TABLE>
<CAPTION>
September 30 December 31 September 30
1999 1998 1998
<S> <C> <C> <C>
Commercial $ 169,891 $139,751 $149,962
Commercial loans secured
by real estate 366,604 341,842 332,458
Real estate - mortgage 451,853 449,875 441,834
Consumer 68,789 88,812 88,219
Loans 1,057,137 1,020,280 1,012,473
Less: Unearned income 7,391 5,276 5,209
Loans, net of unearned
income $1,049,746 $1,015,004 $1,007,264
</TABLE>
Real estate-construction loans were not material at these
presented dates and comprised 5.1% of total loans net of unearned
income at September 30, 1999. The Company has no credit exposure to
foreign countries or highly leveraged transactions. Additionally,
the Company has no significant industry lending concentrations.
9. Allowance for Loan Losses and Charge-Off Procedures
As a financial institution which assumes lending and credit
risks as a principal element of its business, the Company
anticipates that credit losses will be experienced in the normal
course of business. Accordingly, the Company consistently applies
a comprehensive methodology and procedural discipline which is
updated on a quarterly basis at the subsidiary bank level to
determine both the adequacy of the allowance for loan losses and the
necessary provision for loan losses to be charged against earnings.
This methodology includes:
a detailed review of all criticized and impaired loans to determine
if any specific reserve allocations are required on an individual
loan basis. The specific reserve established for these criticized
and impaired loans is based on careful analysis of the loan's
performance, the related collateral value, cash flow considerations
and the financial capability of any guarantor.
the application of formula driven reserve allocations for all
commercial and commercial real-estate loans are calculated by using
a three year migration analysis of net losses incurred within each
risk grade for the entire commercial loan portfolio. The difference
between estimated and actual losses is reconciled through the
dynamic nature of the migration analysis.
<PAGE>11
the application of formula driven reserve allocations to installment
and mortgage loans which are based upon historical charge-off
experience for those loan types. The residential mortgage loan
allocation is based upon the Company's five year historical average
of actual loan charge-offs experienced in that category. The same
methodology is used to determine the allocation for consumer loans
except the allocation is based upon an average of the most recent
actual three year historical charge-off experience for consumer
loans.
the application of formula driven reserve allocations to all
outstanding loans and certain unfunded commitments is based upon
review of historical losses and qualitative factors, which include
but are not limited to, economic trends, delinquencies,
concentrations of credit, trends in loan volume, experience and
depth of management, examination and audit results, effects of any
changes in lending policies and trends in policy exceptions.
the maintenance of a general unallocated reserve in order to provide
conservative positioning based on an assessment of the regional
economy and to provide protection against credit risks resulting
from other external factors such as the continued growth of the loan
portfolio. It must be emphasized that a general unallocated reserve
is prudent recognition of the fact that reserve estimates, by
definition, lack precision.
After completion of this process, a formal meeting of the Loan
Loss Reserve Committee is held to evaluate the adequacy of the
reserve and establish the provision level for the next quarter. The
Company believes that the procedural discipline, systematic
methodology, and comprehensive documentation of this quarterly
process is in full compliance with all regulatory requirements and
provides appropriate support for accounting purposes.
When it is determined that the prospects for recovery of the
principal of a loan have significantly diminished, the loan is
immediately charged against the allowance account; subsequent
recoveries, if any, are credited to the allowance account. In
addition, non-accrual and large delinquent loans are reviewed
monthly to determine potential losses. Consumer loans are considered
losses when they are 90 days past due, except loans that are insured
for credit loss.
The Company's policy is to individually review, as
circumstances warrant, each of its commercial and commercial
mortgage loans to determine if a loan is impaired. At a minimum,
credit reviews are mandatory for all commercial and commercial
mortgage loans with balances in excess of $250,000 within an 18
month period. The Company has also identified two pools of small
dollar value homogeneous loans which are evaluated collectively for
impairment. These separate pools are for residential mortgage loans
and consumer loans. Individual loans within these pools are
reviewed and removed from the pool if factors such as significant
delinquency in payments of 90 days or more, bankruptcy, or other
negative economic concerns indicate impairment.
<PAGE>12
An analysis of the changes in the allowance for loan losses
follows (in thousands, except ratios):
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
1999 1998 1999 1998
<S> <C> <C> <C> <C>
Balance at beginning of period $ 10,891 $ 11,886 $ 10,725 $ 12,113
Charge-offs:
Commercial 5 36 1,133 164
Real estate-mortgage 131 145 555 272
Consumer 154 267 462 830
Total charge-offs 290 448 2,150 1,266
Recoveries:
Commercial 1 27 275 75
Real estate-mortgage 33 32 155 125
Consumer 51 70 156 220
Total recoveries 85 129 586 420
Net charge-offs 205 319 1,564 846
Provision for loan losses 225 150 1,750 450
Balance at end of period $ 10,911 $ 11,717 $ 10,911 $ 11,717
As a percent of average loans
and loans held for sale,
net of unearned income:
Annualized net charge-offs 0.08% 0.12% 0.20% 0.11%
Annualized provision for
loan losses 0.08 0.06 0.22 0.06
Allowance as a percent of loans
and loans held for sale,
net of unearned income
at period end 1.02 1.13 1.02 1.13
Total classified loans $27,323 $28,089 $27,323 $28,089
</TABLE>
(For additional information, refer to the "Provision for Loan
Losses" and "Loan Quality" sections in the Management's Discussion
and Analysis of Consolidated Financial Condition and Results of
Operations on pages 26 and 36, respectively.)
10. Components of Allowance for Loan Losses
For impaired loans, the measurement of impairment may be based
upon: 1) the present value of expected future cash flows discounted
at the loan's effective interest rate; 2) the observable market
price of the impaired loan; or 3) the fair value of the collateral
of a collateral dependent loan.
The Company had loans totaling $7,129,000 and $1,977,000 being
specifically identified as impaired and a corresponding allocation
reserve of $500,000 and $955,000 at September 30, 1999, and
September 30, 1998, respectively. The average outstanding balance
for loans being specifically identified as impaired was $5,424,000
for the first nine months of 1999 compared to $1,439,000 for the
first nine months of 1998. All of the impaired loans are collateral
dependent, therefore the fair value of the collateral of the
impaired loans is evaluated in measuring the impairment. There was
no interest income recognized on impaired loans during the first
nine months of 1999 or 1998.
<PAGE>13
The following table sets forth the allocation of the allowance
for loan losses among various categories. This allocation is
determined by using the consistent quarterly procedural discipline
which was discussed above. This allocation, however, is not
necessarily indicative of the specific amount or specific loan
category in which future losses may ultimately occur (in thousands,
except percentages):
<TABLE>
<CAPTION>
September 30, 1999 December 31, 1998 September 30, 1998
Percent of Percent of Percent of
Loans in Loans in Loans in
Each Each Each
Category Category Category
Amount to Loans Amount to Loans Amount to Loans
<S> <C> <C> <C> <C> <C> <C>
Commercial $ 535 15.9% $ 1,004 13.1% $ 1,004 14.5%
Commercial
loans secured
by real estate 2,344 34.2 2,082 32.1 2,142 32.1
Real Estate -
mortgage 824 44.2 1,038 47.0 777 45.4
Consumer 619 5.7 1,563 7.8 1,429 8.0
Allocation to
general risk 6,089 - 4,663 - 5,410 -
Allocation for
impaired loans 500 - 375 - 955 -
Total $10,911 100.0% $10,725 100.0% $11,717 100.0%
</TABLE>
Even though real estate-mortgage loans comprise approximately
44% of the Company's total loan portfolio, only $824,000 or 7.6% of
the total allowance for loan losses is allocated against this loan
category. The real estate-mortgage loan allocation is based upon
the Company's five year historical average of actual loan charge-
offs experienced in that category. The disproportionately higher
allocations for commercial loans and commercial loans secured by
real estate reflect the increased credit risk associated with this
type of lending and the Company's historical loss experienced in
these categories.
At September 30, 1999, management of the Company believes the
allowance for loan losses was adequate to cover potential yet
undetermined losses within the Company's loan portfolio. The
Company's management is unable to determine in what loan category
future charge-offs and recoveries may occur. (For a complete
discussion concerning the operations of the "Allowance for Loan
Losses" refer to Note #9.)
11. Non-performing Assets
Non-performing assets are comprised of (i) loans which are on
a non-accrual basis, (ii) loans which are contractually past due 90
days or more as to interest or principal payments some of which are
insured for credit loss, and (iii) other real estate owned (real
estate acquired through foreclosure and in-substance foreclosures).
All loans, except for loans that are insured for credit loss, are
placed on non-accrual status immediately upon becoming 90 days past
due in either principal or interest. In addition, if circumstances
warrant, the accrual of interest may be discontinued prior to 90
days. In all cases, payments received on non-accrual loans are
credited to principal until full recovery of principal has been
recognized; it is only after full recovery of principal that any
additional payments received are recognized as interest income. The
only exception to this policy is for residential mortgage loans
wherein interest income is recognized on a cash basis as payments
are received.
<PAGE>14
The following table presents information concerning non-
performing assets (in thousands, except percentages):
September 30 December 31 September 30
1999 1998 1998
Non-accrual loans $ 9,888 $ 5,206 $ 5,196
Loans past due 90
days or more 453 1,579 905
Other real estate owned 1,290 1,451 1,217
Total non-performing
assets $ 11,631 $ 8,236 $ 7,318
Total non-performing
assets as a percent
of loans and loans
held for sale, net
of unearned income,
and other real
estate owned 1.08% 0.77% 0.71%
The Company is unaware of any additional loans which are
required to either be charged-off or added to the non-performing
asset totals disclosed above. Other real estate owned is recorded
at the lower of 1)fair value minus estimated costs to sell, or
2)carrying cost.
The following table sets forth, for the periods indicated, (i)
the gross interest income that would have been recorded if non-
accrual loans had been current in accordance with their original
terms and had been outstanding throughout the period or since
origination if held for part of the period, (ii) the amount of
interest income actually recorded on such loans, and (iii) the net
reduction in interest income attributable to such loans (in
thousands).
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
1999 1998 1999 1998
<S> <C> <C> <C> <C>
Interest income due in accordance
with original terms $ 174 $ 99 $ 326 $ 296
Interest income recorded (5) (10) (19) (16)
Net reduction in interest income $ 169 $ 89 $ 307 $ 280
</TABLE>
<PAGE>15
12. Off-Balance Sheet Hedge Instruments
Policies
The Company uses various interest rate contracts, such as
interest rate swaps, caps and floors, to help manage interest rate
and market valuation risk exposure, which is incurred in normal
recurrent banking activities. These interest rate contracts
function as hedges against specific assets or liabilities on the
Consolidated Balance Sheet. Unrealized gains or losses on these
hedge transactions are deferred. It is the Company's policy not to
terminate hedge transactions prior to expiration date.
For interest rate swaps, the interest differential to be paid
or received is accrued by the Company and recognized as an
adjustment to interest income or interest expense of the underlying
assets or liabilities being hedged. Because only interest payments
are exchanged, the cash requirement and exposure to credit risk are
significantly less than the notional amount.
Any premium or transaction fee incurred to purchase interest
rate caps or floors is deferred and amortized to interest income or
interest expense over the term of the contract. Unamortized
premiums related to the purchase of caps and floors are included in
"Other assets" on the Consolidated Balance Sheet. A summary of the
off-balance sheet derivative transactions outstanding as of
September 30, 1999, are as follows:
Borrowed Funds Hedges
The Company has entered into several interest rate swaps to
hedge short-term borrowings used to leverage the balance sheet.
Specifically, FHLB advances which reprice between 30 days and one
year are being used to fund fixed-rate agency mortgage-backed
securities with durations ranging from two to three years. Under
the swap agreements, the Company pays a fixed rate of interest and
receives a floating rate which resets either monthly, quarterly, or
annually. For the $120 million interest rate cap, the Company only
receives payment from the counter party if the federal funds rate
goes above the 5.00% strike rate. The following table summarizes
the interest rate swap transactions which impacted the Company's
first nine months of 1999 performance:
<TABLE>
<CAPTION>
Fixed Floating Impact
Notional Start Termination Rate Rate Repricing On Interest
Amount Date Date Paid Received Frequency Expense
<S> <C> <C> <C> <C> <C> <C>
$40,000,000 3-17-97 3-15-99 6.19% 5.07% Expired $ 88,958
50,000,000 5-08-97 5-10-99 6.20 5.43 Expired 138,903
25,000,000 6-20-97 6-20-99 5.96 4.72 Expired 148,499
50,000,000 9-25-97 9-25-99 5.80 4.85 Expired 354,834
120,000,000 5-01-99 4-30-00 5.00 5.25 Monthly 30,401
</TABLE>
The Company believes that its exposure to credit loss in the
event of non-performance by any of the counterparties (which include
Mellon Bank and First Union) in the interest rate swap agreements is
remote.
<PAGE>16
The Company monitors and controls all off-balance sheet
derivative products with a comprehensive Board of Director approved
hedging policy. This policy permits a total maximum notional amount
outstanding of $500 million for interest rate swaps, and interest
rate caps/floors. The Company had no interest rate floors
outstanding at September 30, 1999, or September 30, 1998.
13. Goodwill and Core Deposit Intangible Assets
USBANCORP's balance sheet shows both tangible assets (such as
loans, buildings, and investments) and intangible assets (such as
goodwill). The Company now carries $12.7 million of goodwill and
$13.7 million of core deposit intangible assets on its balance
sheet. $10 million of this core deposit intangible was established
in the first quarter of 1999 with the purchase of the First Western
branches. A reconciliation of the Company's intangible asset
balances is as follows (in thousands):
Balance at December 31, 1998 $ 18,697
Additions due to branch acquisitions 10,093
Amortization expense (2,343)
Balance at September 30, 1999 $ 26,447
The Company is amortizing core deposit intangibles over
periods ranging from five to ten years while goodwill is being
amortized over a 15 year life. The straight-line method of
amortization is being used for both of these categories of
intangibles. It is important to note that this intangible
amortization expense is not a future cash outflow. The following
table reflects the future amortization expense of the intangible
assets (in thousands):
Remaining 1999 $ 791
2000 3,149
2001 3,110
2002 3,110
2003 3,110
2004 and after 13,177
<PAGE>17
14. Federal Home Loan Bank Borrowings
Total FHLB borrowings consist of the following at September 30, 1999,
(in thousands, except percentages):
Type Maturing Amount Weighted
Average
Rate
Open Repo Plus Overnight $ 108,400 5.58%
Advances and 1999 435,000 5.37
wholesale 2000 193,750 4.95
repurchase 2001 10,126 8.22
agreements 2002 183,500 5.84
2003 28,750 5.44
2004 and after 878 6.71
Total Advances and 852,004 5.42
wholesale repurchase
agreements
Total FHLB Borrowings $960,404 5.43%
All of the above borrowings bear a fixed rate of interest,
with the only exceptions being the Open Repo Plus advances whose
rate can change daily. All FHLB stock along with an interest in
unspecified mortgage loans and mortgage-backed securities, with an
aggregate statutory value equal to the amount of the advances, have
been pledged as collateral with the Federal Home Loan Bank of
Pittsburgh to support these borrowings.
15. Capital
The Company is subject to various capital
requirements administered by the federal banking agencies.
Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Company must
meet specific capital guidelines that involve quantitative
measures of the Company's assets, liabilities, and certain
off-balance sheet items as calculated under regulatory
accounting practices. The Company's capital amounts and
classification are also subject to qualitative judgements
by the regulators about components, risk weightings, and
other factors. Failure to meet minimum capital
requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if
undertaken, could have a direct material effect on the
Company's financial statements.
<PAGE>18
Quantitative measures established by regulation to
ensure capital adequacy require the Company to maintain
minimum amounts and ratios(set forth in the table below) of
total and Tier 1 capital to risk-weighted assets, and of
Tier 1 capital to average assets. Management believes that
as of September 30, 1999, the Company meets all capital
adequacy requirements to which it is subject.
As of September 30, 1999, and 1998, as well as,
December 31, 1998, the Federal Reserve categorized the
Company as "Well Capitalized" under the regulatory framework
for prompt corrective action. To be categorized as well
capitalized, the Company must maintain minimum total risk-
based, Tier 1 risk-based, and Tier 1 leverage ratios as set
forth in the table. There are no conditions or events since
notification that management believes have changed the
Company's classification category.
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
As of September 30, 1999 Actual Adequacy Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
<S> <C> <C> <C> <C> <C> <C>
Total Capital (to Risk (In thousands, except ratios)
Weighted Assets)
Consolidated $ 163,234 13.77% $ 94,808 8.00% $ 118,510 10.00%
U.S. Bank 89,237 13.96 51,129 8.00 63,912 10.00
Three Rivers Bank 74,061 13.66 43,375 8.00 54,218 10.00
Tier 1 Capital (to Risk
Weighted Assets)
Consolidated 152,323 12.85 47,404 4.00 71,106 6.00
U.S. Bank 84,001 13.14 25,565 4.00 38,347 6.00
Three Rivers Bank 68,386 12.61 21,687 4.00 32,531 6.00
Tier 1 Capital (to Average
Assets)
Consolidated 152,323 6.22 97,890 4.00 122,363 5.00
U.S. Bank 84,001 6.27 53,608 4.00 67,010 5.00
Three Rivers Bank 68,386 6.21 44,045 4.00 55,057 5.00
</TABLE>
16. Segment Results
The financial performance of the Company is also
monitored by an internal funds transfer pricing
profitability measurement system which produces line of
business results and key performance measures. The
Company's major business units include community banking,
mortgage banking, trust, and investment/parent. The
reported results reflect the underlying economics of the
business segments. Expenses for centrally provided services
are allocated based upon the cost and estimated usage of
those services. Capital has been allocated among the
businesses on a risk-adjusted basis. The businesses are
match-funded and interest rate risk is centrally managed and
accounted for within the investment/parent business segment.
The key performance measures the Company focuses on for
each business segment are net income and risk-adjusted
return on equity.
<PAGE>19
Community banking includes the deposit-gathering
branch franchise along with lending to both individuals and
businesses. Lending activities include commercial and
commercial real-estate loans, residential mortgage loans,
direct consumer loans and credit cards. Mortgage banking
includes the servicing of mortgage loans and the origination
of residential mortgage loans through a wholesale broker
network. The trust segment has two primary business
divisions, institutional trust and personal trust.
Institutional trust products and services include 401(k)
plans, defined benefit and defined contribution employee
benefit plans, individual retirement accounts, and
collective investment funds for trade union pension funds.
Personal trust products and services include personal
portfolio investment management, estate planning and
administration, custodial services and pre-need trusts. The
investment/parent includes the net results of investment
securities and borrowing activities, general corporate
expenses not allocated to the business segments, interest
expense on corporate debt, and centralized interest rate
risk management.
The contribution of the major business segments to
the consolidated results for the first nine months of 1999
and 1998 were as follows (in thousands, except ratios):
<TABLE>
<CAPTION>
September 30, 1999 Community Banking Mortgage Banking Trust Investment/Parent Total
<S> <C> <C> <C> <C> <C>
Net Income $ 7,397 $ 200 $ 799 $ 7,272 $ 15,668
Risk adjusted
return on equity 12.9% 3.2% 36.0% 21.2% 15.7%
Total assets $1,014,032 $51,585 $1,716 $1,388,348 $2,455,681
September 30, 1998 Community Banking Mortgage Banking Trust Investment/Parent Total
Net Income $ 7,761 $ 539 $ 639 $ 7,793 $ 16,732
Risk adjusted
return on equity 12.1% 7.6% 26.2% 19.8% 14.8%
Total assets $937,161 $48,822 $1,617 $1,333,339 $2,320,939
</TABLE>
17. Branch Acquisition
On February 12, 1999, the Company and First Western Bancorp,
Inc. (First Western), completed an agreement for the Company to
purchase three branch offices in western Pennsylvania from First
Western in exchange for cash and one branch from the Company. The
Company's U.S. Bank subsidiary acquired the Ebensburg and Barnesboro
offices of First Western which are located in Cambria County. The
Company's Three Rivers Bank subsidiary acquired the Kiski Valley
office of First Western located in Westmoreland County in exchange
for Three Rivers Bank's Moon Township office which is located in
Allegheny County. On a net basis, the Company acquired $91 million
in deposits, $10 million in consumer loans and the related fixed
assets, leases, safe deposit box business and other agreements at
the branch offices. The Company paid a core deposit premium of
approximately $10 million for the acquired deposits and purchased
the consumer loans and fixed assets at book value.
<PAGE>20
18. Sale of Credit Card Portfolio
On April 1, 1999, the Company completed the sale of the credit
card portfolio of its U.S. Bank subsidiary to First National Bank of
Omaha. The portfolio consisted of 16,878 credit card accounts with
outstanding balances totaling approximately $14 million. The
credit card portfolio was sold for 16% premium which equated to a
$1.6 million pre-tax gain on the transaction in the second quarter
of 1999. Simultaneously, the Company entered into an Agent Bank
Agreement with First National Bank of Omaha which will enable the
Company's banking subsidiaries to continue to offer credit cards to
their customers.
19. Branch Sale
On June 18, 1999, the Company's U.S. Bank subsidiary sold its
Loretto branch to Portage National Bank. Approximately $6 million
in deposits were sold at an 8.50% premium which resulted in the
Company recognizing a pre-tax gain of $540,000 in the second quarter
of 1999.
20. Proposed Tax-Free Spin-Off Plan
On July 12, 1999, the Company announced that its Board of
Directors has approved a plan to split the Company's banking
subsidiaries into two separate publicly traded companies. The plan
would be effected through a tax-free spin-off, and is expected to
take six to nine months and is contingent upon a favorable tax
ruling from the Internal Revenue Service and regulatory approvals.
Under the proposed tax-free spin-off plan, 100% of the shares
of the holding company to be formed for Three Rivers Bank, to be
known as Three Rivers Bancorp, Inc., would be distributed as a
dividend to the shareholders of the Company in proportion to their
existing Company ownership. Shareholders would retain their
existing Company shares. Standard Mortgage Company (SMC), a
mortgage banking company, currently a subsidiary of Three Rivers
Bank, will be internally spun-off from Three Rivers Bank to the
Company prior to consummation of the proposed Three Rivers Bank
spin-off.
<PAGE>21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
("M.D.& A.")
.....PERFORMANCE OVERVIEW.....The Company's net income for the third
quarter of 1999 totaled $5.1 million or $0.38 per share on a diluted
basis. The third quarter 1999 results are consistent with the $5.3
million or $0.38 per diluted share reported for the third quarter of
1998. The Company's return on equity(ROE) averaged 16.27% for the
third quarter of 1999 which represented an improvement over the
14.55% ROE reported in the third quarter of 1998. The Company's
return on assets dropped by ten basis points to 0.82% in the third
quarter of 1999.
Growth in net interest income, a reduced level of non-interest
expense, and a lower equity base were factors that contributed
positively to the improved ROE in the third quarter of 1999.
Specifically, net interest income increased by $554,000 or 3.4%
while non-interest expense declined by $163,000 or 1.1%. The
Company also used its treasury stock repurchase program throughout
1998 and the first quarter of 1999 to actively manage its capital
and reduce both total equity and common shares outstanding. As a
result of the success of this program, there were 597,000 fewer
average diluted shares outstanding in the third quarter of 1999
compared to the third quarter of 1998. The Company's equity base
was also reduced by a drop in other comprehensive income due to a
decline in value of the Company's available for sale securities
portfolio. The Company's 1999 third quarter financial performance
was negatively impacted by a $974,000 or 15.6% decrease in non-
interest income and a $75,000 increase in the provision for loan
losses. The following table summarizes some of the Company's key
performance indicators (in thousands, except per share and ratios):
Three Months Ended Three Months Ended
September 30, 1999 September 30, 1998
Net income $ 5,092 $ 5,300
Diluted earnings per share 0.38 0.38
Return on average equity 16.27% 14.55%
Return on average assets 0.82 0.92
Average diluted common
shares outstanding 13,404 14,001
.....NET INTEREST INCOME AND MARGIN.....The Company's net interest
income represents the amount by which interest income on earning
assets exceeds interest paid on interest bearing liabilities. Net
interest income is a primary source of the Company's earnings; it is
affected by interest rate fluctuations as well as changes in the
amount and mix of earning assets and interest bearing liabilities.
It is the Company's philosophy to strive to optimize net interest
income performance in varying interest rate environments. The
following table compares the Company's net interest income
performance for the third quarter of 1999 to the third quarter of
1998 (in thousands, except percentages):
<PAGE>22
Three Months Ended
September 30
1999 1998 $ Change % Change
Interest income $ 41,952 $ 40,252 1,700 4.2
Interest expense 25,199 24,053 1,146 4.8
Net interest income 16,753 16,199 554 3.4
Tax-equivalent
adjustment 775 711 64 9.0
Net tax-equivalent
interest income $ 17,528 $ 16,910 618 3.7
Net interest margin 2.99% 3.15% (0.16)% N/M
N/M - Not meaningful
USBANCORP's net interest income on a tax-equivalent basis
increased by $618,000 or 3.7% due to growth in earning assets.
Total average earning assets were $190 million higher in the third
quarter of 1999 due to a $45 million or 4.5% increase in total loans
and a $143 million or 12.7% increase in investment securities. The
Company was able to achieve solid loan growth in commercial loans,
commercial mortgage loans, and home equity loans over the past
several quarters. The higher level of investment securities
resulted in part from the use of funds provided with the First
Western Branches Acquisition which closed in the first quarter of
1999. As part of this acquisition, the Company acquired
approximately $91 million of deposits and $10 million of consumer
loans.
The income benefit from this growth in earning assets was
partially offset by a 16 basis point decline in the net interest
margin to 2.99%. The drop in the net interest margin reflects a 32
basis point decline in the earning asset yield which more than
offset the benefit of a 24 basis point reduction in the cost of
funds. The Company, has, however experienced a stabilization of the
net interest margin on a quarterly basis in 1999 due to a noticeable
slowing of asset prepayment speeds, continued solid loan growth and
the favorable impact of the First Western Branches Acquisition. Net
interest income has increased in each consecutive quarter during
1999 while the net interest margin has operated in a narrow range of
2.95% to 3.00%.
The overall growth in the earning asset base was one strategy
used by the Company to leverage its capital. The maximum amount of
leveraging the Company can perform is controlled by internal policy
requirements to maintain a minimum asset leverage ratio of no less
than 6.0% (see further discussion under Capital Resources) and to
limit net interest income variability to plus or minus 7.5% and net
income variability to plus or minus 15% over a twelve month period.
(See further discussion under Interest Rate Sensitivity) .
<PAGE>23
...COMPONENT CHANGES IN NET INTEREST INCOME...Regarding the separate
components of net interest income, the Company's total tax-
equivalent interest income for the third quarter of 1999 increased
by $1.8 million or 4.3% when compared to the same 1998 period. This
increase was due to the previously mentioned $190 million or 8.9%
increase in total average earning assets which caused interest
income to rise by $3.5 million. This positive factor was partially
offset by a 32 basis point drop in the earning asset yield to 7.27%
that caused a $1.9 million reduction in interest income. Within the
earning asset base, the yield on the total loan portfolio declined
by 50 basis points to 8.08% due to the downward repricing of
floating rate assets and the reinvestment of cash received on higher
yielding prepaying assets into loans with lower interest rates. The
yield on total investment securities decreased by 12 basis points to
6.55% due to accelerated mortgage prepayments and the reinvestment
of this cash into lower yielding securities. These heightened
prepayments reflect increased customer refinancing activity due to
drops in intermediate- and long-term interest rates on the treasury
yield curve particularly in the fourth quarter of 1998 and first
quarter of 1999. This refinancing activity slowed significantly
beginning in the second quarter of 1999 when the treasury yield
curve began to steepen again.
The Company's total interest expense for the third quarter of
1999 increased by $1.1 million or 4.8% when compared to the same
1998 period. This higher interest expense was due primarily to a
$197 million increase in average interest bearing liabilities. The
growth in interest bearing liabilities included a $43 million
increase in interest bearing deposits due largely to the deposits
acquired with the First Western Branches Acquisition net of
certificate of deposit run-off and the sale of one small branch
office. The remainder of the interest bearing liability increase
occurred in FHLB advances which were used to help fund the
previously mentioned earning asset growth. Short-term borrowings
and FHLB advances had an average cost of 5.38% in the third quarter
of 1999 which was 32 basis points lower than their cost in the prior
year third quarter but 159 basis points greater than the average
cost of deposits which amounted to 3.79%. The Company was able to
reduce its cost of deposits by 27 basis points due primarily to
lower costs for certificates of deposit. Overall, the Company's
total cost of funds dropped by 24 basis points to 4.64% as the
pricing declines for both deposits and borrowings were partially
offset by a greater use of borrowings to fund the earning asset
base.
It is recognized that interest rate risk does exist from this
use of borrowed funds to leverage the balance sheet. To neutralize
a portion of this risk, the Company has executed a total of $120
million of off-balance sheet hedging transactions which help fix the
variable funding costs associated with the use of short-term
borrowings to fund earning assets. (See further discussion under
Note #12.) The Company also has asset liability policy parameters
which limit the maximum amount of borrowings to 40% of total assets.
For the third quarter of 1999, the level of short-term borrowed
funds and FHLB advances to total assets averaged 42.3%. The Company
plans to use cash flow from mortgage-backed securities to pay down
borrowings to bring the ratio back within policy guidelines during
the next several quarters. .
The table that follows provides an analysis of net interest
income on a tax-equivalent basis setting forth (i) average assets,
liabilities, and stockholders' equity, (ii) interest income earned
on interest earning assets and interest expense paid on interest
bearing liabilities, (iii) average yields earned on interest earning
assets and average rates paid on interest bearing liabilities, (iv)
USBANCORP's interest rate spread (the difference between the average
yield earned on interest earning assets and the average rate paid on
interest bearing liabilities), and (v) USBANCORP's net interest
margin (net interest income as a percentage of average total
interest earning assets). For purposes of this table, loan balances
include non-accrual loans and interest income on loans includes loan
fees or amortization of such fees which have been deferred, as well
as, interest recorded on non-accrual loans as cash is received.
Additionally, a tax rate of approximately 35% is used to compute tax
equivalent yields.
<PAGE>24
<TABLE>
<CAPTION>
Three Months Ended September 30 (In thousands, except percentages)
1999 1998
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
<S> <C> <C> <C> <C> <C> <C>
Interest earning assets:
Loans and loans held
for sale, net of
unearned income $ 1,061,789 $ 21,940 8.08% $ 1,016,548 $ 22,179 8.58%
Deposits with banks 4,779 31 2.56 2,856 22 3.03
Investment securities:
Available for sale 757,487 12,268 6.48 631,619 10,180 6.45
Held to maturity 510,927 8,488 6.65 494,061 8,582 6.95
Total investment
securities 1,268,414 20,756 6.55 1,125,680 18,762 6.67
Total interest earning
assets/interest income 2,334,982 42,727 7.27 2,145,084 40,963 7.59
Non-interest earning assets:
Cash and due from banks 38,259 36,064
Premises and equipment 19,199 18,116
Other assets 92,204 100,218
Allowance for loan losses (10,947) (11,898)
TOTAL ASSETS $2,473,697 $2,287,584
</TABLE>
CONTINUED ON NEXT PAGE
<PAGE>25
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30
CONTINUED FROM PREVIOUS PAGE
1999 1998
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
<S> <C> <C> <C> <C> <C> <C>
Interest bearing liabilities:
Interest bearing deposits:
Interest bearing demand $ 93,710 $ 233 0.99% $ 89,774 $ 224 0.99%
Savings 173,760 726 1.66 172,594 671 1.54
Money markets 185,809 1,634 3.49 171,993 1,566 3.61
Other time 609,678 7,560 4.92 585,710 7,966 5.40
Total interest bearing
deposits 1,062,957 10,153 3.79 1,020,071 10,427 4.06
Short term borrowings:
Federal funds purchased,
securities sold under
agreements to repurchase
and other short-term
borrowings 177,623 2,280 5.01 188,632 2,586 5.36
Advances from Federal
Home Loan Bank 867,555 11,921 5.45 703,303 10,253 5.79
Guaranteed junior subordinated
deferrable interest debentures 34,500 740 8.58 34,500 740 8.58
Long-term debt 8,220 105 5.07 7,456 47 2.50
Total interest bearing
liabilities/interest expense 2,150,855 25,199 4.64 1,953,962 24,053 4.88
Non-interest bearing liabilities:
Demand deposits 173,549 163,321
Other liabilities 25,135 25,788
Stockholders' equity 124,158 144,513
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $2,473,697 $2,287,584
Interest rate spread 2.63 2.71
Net interest income/
net interest margin 17,528 2.99% 16,910 3.15%
Tax-equivalent adjustment (775) (711)
Net Interest Income $16,753 $16,199
</TABLE>
...PROVISION FOR LOAN LOSSES.....The Company's provision for loan
losses for the third quarter of 1999 totaled $225,000 or 0.08% of
average total loans which represented a $75,000 increase from the
provision level experienced in the 1998 third quarter. The
Company's net loan charge-offs amounted to $205,000 or 0.08% of
average loans in the third quarter of 1999. The higher provision in
1999 was due to continued growth of the commercial and commercial
mortgage loan portfolio and a higher level of non-performing assets.
The Company applies a consistent methodology and procedural
discipline to evaluate the adequacy of the allowance for loan losses
at each subsidiary bank on a quarterly basis. (See further
discussion in Note #1 and the Allowance for Loan Losses section of
the MD&A.)
<PAGE>26
.....NON-INTEREST INCOME.....Non-interest income for the third
quarter of 1999 totaled $5.3 million which represented a $974,000 or
15.6% decrease when compared to the same 1998 quarter. This
decrease was primarily due to the following items:
a $740,000 decrease in gains realized on investment security sales
as the steeper yield curve has limited investment portfolio
repositioning opportunities in 1999.
a $442,000 decrease in gains realized on loans held for sale as a
sharp drop in mortgage refinancing activity has reduced both the
volume and spread on loan sales into the secondary market in the
third quarter of 1999.
a $113,000 or 10.2% increase in trust fees to $1.2 million in the
third quarter of 1999. This trust fee growth reflects increased
assets under management due to the profitable expansion of the
Company's trust operations.
.....NON-INTEREST EXPENSE.....Non-interest expense for the third
quarter of 1999 totaled $14.9 million which represented a $163,000
or 1.1% decrease when compared to the same 1998 quarter. This
decrease was primarily due to the following items:
slower mortgage prepayment speeds and the steeper yield curve caused
the value of the Company's mortgage servicing rights to increase in
the third quarter of 1999. As a result of this improved valuation,
the Company reversed $625,000 of the impairment reserve on mortgage
servicing rights that had been established in 1998. This partial
reversal of the impairment reserve favorably reduced non-interest
expense in the third quarter of 1999.
a $312,000 or 4.0% increase in salaries and employee benefits due
to merit pay increases and increased medical insurance premiums.
a $206,000 increase in goodwill and core deposit amortization
expense due to the amortization expense associated with the $10
million core deposit premium resulting from the First Western
Branches Acquisition.
<PAGE>27
.....YEAR 2000..... USBANCORP has been actively working on the Year
2000 computer problem and has made significant progress in ensuring
that both its information technology and non-information technology
systems and applications will be Y2K compliant. To date, the
Company has completed the inventory, assessment, remediation,
testing, and nearly all the implementation phases of its Year 2000
program. Mission critical systems which had maintenance applied
since their original Y2K test were retested. The organization is
practicing "clean management" of all mission critical and critical
systems.
The Y2K process has also required that the Company work with
vendors, third-party service providers, and customers. The Company
continues to communicate with all its vendors and large commercial
customers to determine the extent to which the Company is vulnerable
to these parties' failure to remediate their own Year 2000 issue.
Mission critical vendors have affirmed their Year 2000 compliance.
No mission critical system vendor changes are expected.
The Company's business resumption plan has been expanded to
address the potential problems of Y2K such as the loss of power,
telecommunications, or the failure of a mission critical vendor. An
outside consulting firm was retained to create a company wide
business resumption plan. The firm used its considerable experience
with business resumption planning and the existing company
contingency plans to create a business resumption plan which
supports our continued operation in the face of external or internal
Y2K caused disruptions. A test of the branch plan for operation was
performed on June 19, 1999. Customers were served with no
disruption.
The Company recognizes the serious risks it faces regarding
credit customers not properly remediating their automated systems to
conform with Year 2000 related problems. The failure of a loan
customer to prepare adequately to conform with Year 2000 could have
an adverse effect on such customer's operations and profitability,
in turn limiting their ability to repay loans in accordance with
scheduled terms. During the second half of 1998, the Company
completed a detailed analysis of its major loan customers'
compliance with Year 2000. The focus of the analysis was on
commercial credit exposures with balances in excess of $250,000 and
included discussions between loan officers, customers, and
information system representatives in select cases. As a result of
this analysis and additional reviews in the third quarter of 1999,
the Company currently believes that it will not have a material
adverse effect from Year 2000 customer credit risks.
The Company is addressing the potential liquidity risks
associated with Year 2000. A study of cash and liquidity has been
undertaken. Cash levels and investments will be adjusted to meet
the need. Additionally, the Company has developed a contingency
funding plan which provides for the use of the Federal Home Loan
Bank, Federal Reserve Discount Window, brokered deposits and more
aggressive wholesale borrowings should the Company experience an
outflow of deposits. From an asset liability management standpoint,
the Company has emphasized deposit products which encourage
extension of shorter term maturities into products maturing after
the century date change to further limit liquidity risk.
Customer confidence is a key issue. A joint advertising campaign
with five local banks and the Federal Reserve has been undertaken
to insure customers "the safest place for your money is in FDIC
insured financial institutions." A series of community meetings
was organized and co-sponsored with the five banks, a State Senator,
local cable TV, and local utilities to communicate with our
customers. A video of the meeting was shown on the Public Access
Channel multiple times.
The Company is using both internal and external resources to
complete its comprehensive Y2K compliance program. The Company
currently estimates that the total cost to achieve Y2K compliance
will approximate $1.7 million. Approximately 66% of this total cost
represents incremental expenses to the Company while approximately
34% represents the internal cost of redeploying existing information
technology and bank operation resources to the Y2K issue. To date,
the Company has expensed $1,600,000 or 94% of its total estimated
cost to achieve Year 2000 compliance. The Company does not believe
that these expenditures have yet had, nor will have, a material
impact on the results of operation, liquidity, or capital resources.
<PAGE>28
The following chart summarizes the Company's Y2K progress.
Resolution
Phases Assessment Remediation Testing Implementation
Information 100% complete 100% complete 100% complete 100% complete
Technology
All mission critical and
critical system have been
implemented.
- --------------------------------------------------------------------
Operating 100% complete 100% complete 100% complete 100% complete
eqiupment with embedded chips
or software.
- --------------------------------------------------------------------
Third Party 100% complete 100% for system 100% complete. 99% complete
interfaces Minor accounting
and legal service
providers outstanding.
Based on the Company's efforts to date, mission critical
information systems and non-information systems are expected to
function properly before and after January 1, 2000. The company
does not currently anticipate that internal systems failures will
result in any material adverse effect to its operations or financial
condition. At this time, the company believes that the most likely
"worst case" scenario involves potential disruptions in areas in
which the Company operations must rely on third parties whose
systems may not work properly after January 1, 2000. The widespread
failure of electrical, gas, telecommunications, water, sewerage
services or loss of access to transportation by the Company, its
employees, suppliers or customers; loss of government supplied
services; loss of information technology equipment or software
suppliers; loss of confidence in the banking system by our
customers; loss of key liquidity sources; loss of access to the
financial markets; recession or depression and cumulative smaller
issues would have a significant negative impact on the Company.
The Company could face significant claims from customers due
to failure to perform, loss of revenues, reduced return values,
inability to meet our contractual obligations in a timely basis,
increased expense, and personal hardship. The Company could also
experience loan loss increases and revenue stream reductions due to
the inability of our customers or financial agents to repay, on a
timely basis or at all, obligations owed the Company. While such
failures could affect important operations of the Company in a
significant manner, the Company cannot at present estimate either
the likelihood or the potential cost of such failures.
<PAGE>29
.....INCOME TAX EXPENSE.....The Company's provision for income taxes
for the third quarter of 1999 was $1.8 million reflecting an
effective tax rate of 25.8%. The Company's 1998 third quarter income
tax provision was $1.9 million or an effective tax rate of 26.4%.
The lower effective tax rate in 1999 was due to a reduced level of
pre-tax income combined with increased total tax-free asset holdings
in the third quarter of 1999. The tax-free asset holdings consist
primarily of municipal investment securities, bank owned life
insurance, and commercial loan tax anticipation notes. Net deferred
income taxes of $6.1 million have been provided as of September 30,
1999, on the differences between taxable income for financial and
tax reporting purposes.
NINE MONTHS ENDED SEPTEMBER 30, 1999 VS. NINE MONTHS ENDED SEPTEMBER
30, 1998
.....PERFORMANCE OVERVIEW.....The Company's net income for the first
nine months of 1999 totaled $15.7 million or $1.16 per share on a
diluted basis. The Company's net income for first nine months of
1998 totaled $16.7 million or $1.16 per share on a diluted basis. The
1999 results reflect no change in diluted earnings per share and a
$1.1 million or 6.4% decrease in net income when compared to the same
nine month period in 1998. The Company's return on equity averaged
15.66% for the first nine months of 1999 which compares favorably to
the 14.81% return on equity reported in the first nine months of
1998. The Company's return on assets dropped by 13 basis points to
0.86% in the first nine months of 1999.
Growth in total revenue, which includes both net interest
income and non-interest income, was a key factor that contributed
positively to the Company's financial performance in 1999.
Specifically, total non-interest income increased by $1.5 million or
8.1% while net interest income increased by $149,000 or 0.3% from
the same prior year period. This $1.6 million increase in total
revenue was offset by higher non-interest expense and an increase in
the provision for loan losses. Total non-interest expense was $2.0
million or 4.6% higher in the first nine months of 1999 while the
provision for loan losses increased by $1.3 million. Even though
net income decreased for the first nine months of 1999, there was no
change in diluted earnings per share due to the success of the
Company's common stock repurchase program. As a result of this
active capital management strategy, there were 933,000 fewer average
diluted shares outstanding in the first nine months of 1999. The
lower equity base also favorably contributed to the Company's
improved ROE in 1999. The following table summarizes some of the
Company's key performance indicators (in thousands, except per share
and ratios):
Nine Months Ended Nine Months Ended
September 30, 1999 September 30, 1998
Net income $15,668 $16,732
Diluted earnings per share 1.16 1.16
Return on average equity 15.66% 14.81%
Return on average assets 0.86 0.99
Average diluted common
shares outstanding 13,477 14,410
<PAGE>30
.....NET INTEREST INCOME AND MARGIN.....The following table
compares the Company's net interest income performance for the first
nine months of 1999 to the first nine months of 1998 (in thousands,
except percentages):
Nine Months Ended
September 30
1999 1998 $ Change % Change
Interest income $123,386 $119,075 4,311 3.6
Interest expense 73,814 69,652 4,162 6.0
Net interest income 49,572 49,423 149 0.3
Tax-equivalent
adjustment 2,347 2,135 212 9.9
Net tax-equivalent
interest income $ 51,919 $ 51,558 361 0.7
Net interest margin 2.98% 3.23% (0.25)% N/M
N/M - Not meaningful.
USBANCORP's net interest income on a tax-equivalent basis
increased by $361,000 or 0.7% due to growth in earning assets. Total
average earning assets were $189 million higher in the first nine
months of 1999 as total loans grew by $55 million or 5.5% while
investment securities increased by $133 million or 12.1%. The income
benefit from this growth in earning assets more than offset the
negative impact of a 25 basis point decline in the net interest margin
to 2.98%. The drop in the net interest margin reflects a 37 basis
point decline in the earning asset yield due primarily to accelerated
prepayments in both the securities and loan portfolios and the
reinvestment of these cash flows in lower yielding assets. The decline
in the earning asset yield more than offset a 20 basis point drop in
the cost of funds due to lower deposit and borrowing costs.
...COMPONENT CHANGES IN NET INTEREST INCOME...Regarding the separate
components of net interest income, the Company's total tax-equivalent
interest income for the first nine months of 1999 increased by $4.5
million or 3.7% when compared to the same 1998 period. This increase
was due primarily to a $189 million or 8.9% increase in total average
earning assets which caused interest income to rise by $10.2 million.
This positive factor was partially offset by a 37 basis point drop in
the earning asset yield to 7.26% which caused a $5.7 million reduction
in interest income. Within the earning asset base, the yield on total
investment securities decreased by 19 basis points to 6.50% while the
yield on the total loan portfolio declined by 52 basis points to 8.11%.
Accelerated prepayments of mortgage related assets and the
reinvestment of this cash into lower yielding assets was the primary
factor causing the compression in the earning asset yield.
Continued growth of the loan portfolio was an important component
of the earning asset growth. The Company's loan-to-deposit ratio
averaged 86.4% for the first nine-months of 1999. This loan growth
resulted from the Company's ability to take market share from its
competitors through strategies which emphasize convenient customer
service, niche products and hard work. Other factors contributing to
the loan growth were a stable economic environment and increased loan
volumes from two loan production offices in the higher growth markets
of Westmoreland and Centre Counties.
<PAGE>31
The Company's total interest expense for the first nine months of
1999 increased by $4.2 million or 6.0% when compared to the same 1998
period. This higher interest expense was due primarily to a $202
million increase in average interest bearing liabilities which caused
interest expense to rise by $7.0 million. This growth in interest
bearing liabilities occurred in both deposits and borrowings which were
used to fund the previously mentioned earning asset growth. For the
first nine months of 1999, the Company's total level of short-term
borrowed funds and FHLB advances averaged $1.0 billion or 41.1% of
total assets compared to an average of $880 million or 39.1% of total
assets for the first nine months of 1998. The Company's cost of both
borrowed funds and deposits declined in 1999 which contributed to a
$3.0 million reduction in interest expense. Overall, the Company's
total cost of funds dropped by 20 basis points to average 4.65% in the
first nine months of 1999
The table that follows provides an analysis of net interest
income on a tax-equivalent basis for the nine month periods ended
September 30, 1999, and September 30, 1998. For a detailed discussion
of the components and assumptions included in the table, see the
paragraph before the quarterly tables on page 26.
<TABLE>
<CAPTION>
Nine Months Ended September 30 (In thousands, except percentages)
1999 1998
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
<S> <C> <C> <C> <C> <C> <C>
Interest earning assets:
Loans and loans held
for sale, net of
unearned income $ 1,062,539 $ 65,376 8.11% $ 1,007,166 $ 65,764 8.63%
Deposits with banks 4,152 89 2.83 4,009 101 3.33
Investment securities:
Available for sale 727,122 34,755 6.37 597,363 28,943 6.46
Held to maturity 508,222 25,513 6.69 504,905 26,402 6.97
Total investment
securities 1,235,344 60,268 6.50 1,102,268 55,345 6.69
Total interest earning
assets/interest income 2,302,035 125,733 7.26 2,113,443 121,210 7.63
Non-interest earning assets:
Cash and due from banks 37,132 34,182
Premises and equipment 18,804 17,931
Other assets 99,610 99,245
Allowance for loan
losses (11,033) (11,956)
TOTAL ASSETS $2,446,548 $2,252,845
</TABLE>
CONTINUED ON NEXT PAGE
<PAGE>32
NINE MONTHS ENDED SEPTEMBER 30
CONTINUED FROM PREVIOUS PAGE
<TABLE>
<CAPTION>
1999 1998
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
<S> <C> <C> <C> <C> <C> <C>
Interest bearing liabilities:
Interest bearing deposits:
Interest bearing demand $ 94,122 $ 698 0.99% $ 90,094 $ 669 0.99%
Savings 173,690 2,101 1.62 173,434 1,965 1.51
Money markets 183,194 4,630 3.38 166,914 4,648 3.72
Other time 617,771 23,263 5.03 581,473 23,595 5.43
Total interest bearing
deposits 1,068,777 30,692 3.84 1,011,915 30,877 4.08
Short term borrowings:
Federal funds purchased,
securities sold under
agreements to repurchase
and other short-term borrowings 210,104 7,811 4.97 185,414 7,383 5.32
Advances from Federal
Home Loan Bank 796,408 32,777 5.50 694,870 30,048 5.79
Guaranteed junior subordinated
deferrable interest debentures 34,500 2,220 8.58 19,294 1,241 8.58
Long-term debt 8,638 314 4.85 5,091 103 2.70
Total interest bearing
liabilities/interest expense 2,118,427 73,814 4.65 1,916,584 69,652 4.85
Non-interest bearing liabilities:
Demand deposits 169,078 158,185
Other liabilities 25,271 27,036
Stockholders' equity 133,772 151,040
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $2,446,548 $2,252,845
Interest rate spread 2.61 2.78
Net interest income/
net interest margin 51,919 2.98% 51,558 3.23%
Tax-equivalent adjustment (2,347) (2,135)
Net Interest Income $49,572 $49,423
</TABLE>
.....PROVISION FOR LOAN LOSSES.....The Company's provision for loan
losses for the first nine months of 1999 totaled $1.8 million or 0.22%
of average total loans which represented a $1.3 million increase from
the provision level experienced in the first nine months of 1998. The
Company's net charge-offs amounted to $1.6 million or 0.20% of average
loans in first nine months of 1999 compared to net charge-offs of
$846,000 or 0.11% of average loans in the first nine months of 1998.
The higher provision in 1999 was due to the increased net charge-offs
and continued growth of commercial and commercial real-estate loans.
The Company applies a consistent methodology and procedural discipline
to evaluate the adequacy of the allowance for loan losses at each
subsidiary bank on a quarterly basis. At September 30, 1999, the
allowance for loan losses totaled $10.9 million or 1.02% of total loans
and 94% of total non-performing assets.
<PAGE>33
.....NON-INTEREST INCOME.....Non-interest income for the first nine
months of 1999 totaled $19.4 million which represented a $1.5 million
or 8.1% increase when compared to the same 1998 period. This increase
was primarily due to the following items:
a $364,000 or 10.9% increase in trust fees to $3.7 million in
the first nine months of 1999. This trust fee growth reflects
increased assets under management due to the profitable
expansion of the Company's trust operations.
a $1.6 million increase in gains realized on loans held for sale due
to a $1.6 million gain realized on the sale of the Company's $14
million credit card portfolio. As a result of the 16% premium
recognized on the sale, the Company was able to profitably exit a
line of business where it did not have the scale to effectively
compete on a long-term basis.
a $1.3 million decrease in gains realized on investment security
sales as the steeper yield curve has limited investment portfolio
repositioning opportunities in 1999.
a $361,000 or 7.0% increase in other income due in part to
additional income resulting from ATM surcharging, commercial
leasing fees, and revenue generated from annuity and mutual
fund sales in the Company's financial service subsidiaries.
a $540,000 gain on the sale of a small marginally profitable
branch office with approximately $6 million in deposits. The
Company received an 8.5% premium for the core deposits in that
branch office.
Non-interest income as a percentage of total revenue increased from
26.6% in the first nine months of 1998 to 28.1% in the first nine
months of 1999.
.....NON-INTEREST EXPENSE.....Non-interest expense for the first nine
months of 1999 totaled $46.1 million which represented a $2.0 million
or 4.6% increase when compared to the same 1998 period. This increase
was primarily due to the following items:
a $1.4 million or 6.1% increase in salaries and employee benefits
due to merit pay increases, higher incentive pay, increased medical
insurance premiums and the additional full-time equivalent employees
("FTE") resulting from the First Western Branches Acquisition and
the acquisition of the Republic Bank Wholesale Mortgage Banking
Department.
a $412,000 increase in equipment expense due to higher technology
related expenses such as system cost associated with wide area
networks and optical disk imaging of customer statements.
a $621,000 increase in goodwill and core deposit amortization
expense due to the amortization expense associated with the $10
million core deposit premium resulting from the First Western
Branches Acquisition. The amortization expense of intangible assets
reduced the first nine months of 1999 diluted earnings per share by
$0.15.
<PAGE>34
the previously discussed $625,000 partial reversal of the
impairment reserve on mortgage servicing rights favorably
reduced non-interest expense in 1999.
.....INCOME TAX EXPENSE.....The Company's provision for income taxes
for the first nine months of 1999 was $5.5 million reflecting an
effective tax rate of 25.9%. The Company's comparable period 1998
income tax provision was $6.1 million or an effective tax rate of
26.9%. The lower income tax expense and effective tax rate in 1999 was
due primarily to a reduced level of pre-tax income combined with an
increased level of tax -free income.
.....NET OVERHEAD BURDEN.....The Company's efficiency ratio (non-
interest expense divided by total revenue) increased to 64.6% in the
first nine months of 1999 compared to 63.4% for the same period of
1998. Factors contributing to the higher efficiency ratio in 1999
included the compression experienced in the net interest margin and an
increased level of non-interest expenses which included Year 2000
costs. Additionally, the repurchase of the Company's stock has a
favorable impact on return on equity but a negative impact on the
efficiency ratio due to the interest cost associated with borrowings
which provide funds to repurchase the stock (i.e. the $2.2 million of
interest expense on the $34.5 million of guaranteed junior subordinated
deferrable interest debentures). The amortization of intangible assets
also creates a $3.1 million annual non-cash charge that negatively
impacts the efficiency ratio. The efficiency ratio for the first nine
months of 1999, stated on a cash basis excluding the intangible
amortization, was 61.3% or 3.3% lower than the reported efficiency
ratio of 64.6%. Net overhead expense as a percentage of tax equivalent
net interest income was relatively consistent between periods at 51.4%.
.....BALANCE SHEET.....The Company's total consolidated assets were
$2.456 billion at September 30, 1999, compared with $2.377 billion at
December 31, 1998, which represents an increase of $79 million or 3.3%
due to the funds provided from the First Western Branches Acquisition.
During the first nine months of 1999, total loans and loans held for
sale increased by approximately $5 million due to the loans acquired
from First Western and continued growth in commercial and commercial
mortgage loans. This loan portfolio growth occurred despite the sale
of the Company's $14 million credit card portfolio and a $30 million
reduction in loans held for sale due to a slow down in mortgage
refinance activity. Total investment securities increased by $54
million as the acquired deposits were used to purchase securities.
Intangible assets increased by $8 million due to the core deposit
intangible resulting from the First Western Branches Acquisition.
Total deposits increased by $38 million or 3.2% since December
31, 1998, due to the acquisition of the First Western Branches.
Deposit totals were negatively impacted by the sale of a $6.0 million
marginally profitable branch office and run-off of certificates of
deposit. The Company's total borrowed funds position increased by $66
million in order to fund the earning asset growth. Total equity
declined by $17 million due to a decline in accumulated other
comprehensive income as a result of a decrease in the market value of
the available for sale securities portfolio and increased holdings of
treasury stock.
<PAGE>35
.....LOAN QUALITY.....At all dates presented, the Company had no troubled
debt restructurings which involve forgiving a portion of interest or
principal on any loans or making loans at a rate materially less than
that of market rates. The following table sets forth information
concerning USBANCORP's loan delinquency and other non-performing assets
(in thousands, except percentages):
September 30 December 31 September 30
1999 1998 1998
Total loan delinquency (past due
30 to 89 days) $ 9,199 $15,427 $ 12,858
Total non-accrual loans 9,888 5,206 5,196
Total non-performing assets<F1> 11,631 8,236 7,318
Loan delinquency, as a percentage
of total loans and loans held
for sale, net of unearned income 0.86% 1.45% 1.24%
Non-accrual loans, as a percentage
of total loans and loans held
for sale, net of unearned
income 0.92 0.49 0.50
Non-performing assets, as a
percentage of total loans and
loans held for sale, net of
unearned income, and other
real estate owned 1.08 0.77 0.71
<F1>Non-performing assets are comprised of (i) loans that are on
a non-accrual basis, (ii) loans that are contractually past due 90
days or more as to interest and principal payments some of which are
insured for credit loss, and (iii) other real estate owned. All
loans, except for loans that are insured for credit loss, are placed
on non-accrual status upon becoming 90 days past due in either
principal or interest.
Between December 31, 1998, and September 30, 1999, total loan
delinquency declined by $6.2 million causing the delinquency ratio to
drop to 0.86%. Total non-performing assets increased by $3.4 since
year-end 1998 causing the non-performing assets to total loans ratio to
increase to 1.08%. The increase in non-performing assets and non-
accrual loans is due to a $6.5 million commercial mortgage loan on a
construction project for which a $500,000 specific reserve allocation
has been established. The allocation was based upon the Company's best
estimate of the property's value given indications of interest from
potential buyers.
.....ALLOWANCE FOR LOAN LOSSES.....The following table sets forth
changes in the allowance for loan losses and certain ratios for the
periods ended (in thousands, except percentages):
September 30 December 31 September 30
1999 1998 1998
Allowance for loan losses $ 10,911 $ 10,725 $ 11,717
Allowance for loan losses as
a percentage of each of
the following:
total loans and loans
held for sale,
net of unearned income 1.02% 1.01% 1.13%
total delinquent loans
(past due 30 to 89 days) 118.61 69.52 91.13
total non-accrual loans 110.35 206.01 225.50
total non-performing assets 93.81 130.22 160.11
<PAGE>36
Since December 31, 1998, the balance in the allowance for loan
losses has increased by $186,000 due to the loan loss provision
slightly exceeding net charge-offs. The Company's allowance for loan
losses at September 30, 1999, was 94% of non-performing assets and 110%
of non-accrual loans.
.....INTEREST RATE SENSITIVITY.....Asset/liability management involves
managing the risks associated with changing interest rates and the
resulting impact on the Company's net interest income, net income and
capital. The management and measurement of interest rate risk at
USBANCORP is performed by using the following tools: 1) simulation
modeling which analyzes the impact of interest rate changes on net
interest income, net income and capital levels over specific future
time periods. The simulation modeling forecasts earnings under a
variety of scenarios that incorporate changes in the absolute level of
interest rates, the shape of the yield curve, prepayments and changes
in the volumes and rates of various loan and deposit categories. The
simulation modeling also incorporates all off balance sheet hedging
activity as well as assumptions about reinvestment and the repricing
characteristics of certain assets and liabilities without stated
contractual maturities; 2)static "GAP" analysis which analyzes the
extent to which interest rate sensitive assets and interest rate
sensitive liabilities are matched at specific points in time; and 3)
market value of portfolio equity sensitivity analysis. The overall
interest rate risk position and strategies are reviewed by senior
management and Company's Board of Directors on an ongoing basis.
The following table presents a summary of the Company's static
GAP positions (in thousands, except for the GAP ratios):
<TABLE>
<CAPTION>
September 30 December 31 September 30
1999 1998 1998
<S> <C> <C> <C>
Six month cumulative GAP
RSA...................... $ 603,143 $ 715,996 $ 691,165
RSL...................... (938,541) (856,470) (804,125)
Off-balance sheet
hedges............. 120,000 50,000 75,000
GAP..................... $ (215,398) $ (90,474) $ (37,960)
GAP ratio.............. 0.74X 0.89X 0.95X
GAP as a % of total
assets............ (8.77)% (3.81)% (1.64)%
GAP as a % of total
capital......... (172.60) (63.86) (25.95)
One year cumulative GAP
RSA...................... $ 864,890 $ 1,063,674 $1,052,030
RSL............. ....... (1,084,103) (1,032,533) (982,394)
Off-balance sheet
hedges.............. - - -
GAP...................... $ (219,213) $ 31,141 $ 69,636
GAP ratio.............. 0.80X 1.03X 1.07X
GAP as a % of total
assets............... (8.93)% 1.31% 3.00%
GAP as a % of total
capital............... (175.66) 21.98 47.60
<PAGE>37
When September 30, 1999, is compared to December 31, 1998, both
the Company's six month and one year cumulative GAP ratios became more
negative due primarily to reduced asset sensitivity resulting from
slowing prepayment speeds on mortgage-backed securities. An increase
in the Company's short-term FHLB borrowings combined with the maturity
of several off-balance sheet hedges also contributed to increased rate
sensitive liabilities.
Management places primary emphasis on simulation modeling to
manage and measure interest rate risk. The Company's asset liability
management policy seeks to limit net interest income variability over
the first twelve months of the forecast period to plus or minus 7.5%
and net income variability to plus or minus 15.0% based upon varied
economic rate forecasts which include interest rate movements of up to
200 basis points and alterations of the shape of the yield curve.
Additionally, the Company also uses market value sensitivity measures
to further evaluate the balance sheet exposure to changes in interest
rates. Market value of portfolio equity sensitivity analysis captures
the dynamic aspects of long-term interest rate risk across all time
periods by incorporating the net present value of expected cash flows
from the Company's assets and liabilities. The Company monitors the
trends in market value of portfolio equity sensitivity analysis on a
quarterly basis.
The following table presents an analysis of the sensitivity
inherent in the Company's net interest income, net income and market
value of portfolio equity. The interest rate scenarios in the table
compare the Company's base forecast or most likely rate scenario at
September 30, 1999, to scenarios which reflect ramped increases and
decreases in interest rates of 200 basis points along with performance
in a stagnant rate scenario with interest rates held flat at the
September 30, 1999, levels. The Company's most likely rate scenario is
based upon published economic consensus estimates. Each rate scenario
contains unique prepayment and repricing assumptions which are applied
to the Company's expected balance sheet composition which was
developed under the most likely interest rate scenario.
Variability of Change In
Interest Rate Net Interest Variability of Market Value of
Scenario Income Net Income Portfolio Equity
Base 0% 0% 0%
Flat 1.2 2.6 5.9
200bp increase (6.9) (15.0) (47.7)
200bp decrease 2.4 (2.9) 40.3
As indicated in the table, the maximum negative variability of
USBANCORP's net interest income and net income over the next twelve
month period was (6.9%) and (15.0%) respectively, under an upward rate
shock forecast reflecting a 200 basis point increase in interest rates.
The variability of market value of portfolio equity was (47.7%) under
this interest rate scenario. The off-balance sheet borrowed funds
hedge transactions also helped reduce the variability of forecasted net
interest income, net income, and market value of portfolio equity in a
rising interest rate environment. Finally, this sensitivity analysis
is limited by the fact that it does not include any balance sheet
repositioning actions the Company may take should severe movements in
interest rates occur such as lengthening or shortening the duration of
the securities portfolio or entering into additional off-balance sheet
hedging transactions. These actions would likely reduce the variability
of each of the factors identified in the above table in the more
extreme interest rate shock forecasts.
<PAGE>38
.....LIQUIDITY......Liquidity can be analyzed by utilizing the
Consolidated Statement of Cash Flows. Cash equivalents increased by $3
million from December 31, 1998, to September 30, 1999, due primarily to
$85 million of net cash provided by financing activities and $46
million of net cash provided by operating activities. This more than
offset $128 million of net cash used by investing activities. Within
investing activities, purchases of investment securities exceeded cash
proceeds from investment security maturities and sales by $90 million.
Cash advanced for new loan fundings totaled $295 million and was
approximately $17 million greater than the cash received from loan
principal payments. Within financing activities, net deposits
increased by $38 million due primarily to the First Western Branches
Acquisition. Advances from the Federal Home Loan Bank provided $100
million of cash.
.....CAPITAL RESOURCES.....As presented in Note #15, each of the
Company's regulatory capital ratios decreased between December 31,
1998, and September 30, 1999, due to a reduction in tangible equity
resulting from the $10 million core deposit premium associated with the
First Western Branches Acquisition. The Company targets an operating
range of 6.0% to 6.50% for the asset leverage ratio because management
and the Board of Directors believes that this level provides an optimal
balance between regulatory capital requirements and shareholder value
needs. Strategies the Company uses to manage its capital ratios
include common dividend payments, treasury stock repurchases, and
earning asset growth.
The Company repurchased 243,000 shares or $4.2 million of its
common stock during 1999. Through September 30, 1999, the Company has
repurchased a total of 4.1 million shares of its common stock at a
total cost of $65.7 million. The Company has suspended its treasury
stock repurchase program in order to build capital ratios in
anticipation of the planned spin-off of its' Three Rivers Bank
subsidiary at the end of the first quarter of 2000.
The Company exceeds all regulatory capital ratios for each of the
periods presented. Furthermore, each of the Company's subsidiary banks
are considered "well capitalized" under all applicable FDIC
regulations. It is the Company's intent to maintain the FDIC "well
capitalized" classification for each of its subsidiaries to ensure the
lowest deposit insurance premium.
The Company's declared Common Stock cash dividend per share was
$0.44 for the first nine months of 1999 which was a 10.0% increase over
the $0.40 per share dividend for the same 1998 period. The current
dividend yield on the Company's common stock approximates 4.4%. The
Company's Board of Directors believes that a better than peer common
dividend is a key component of total shareholder return particularly
for retail shareholders.
<PAGE>39
.....PROPOSED TAX-FREE SPIN-OFF PLAN....As discussed in Note #20, The
Company plans to spin-off its Three Rivers Bank and Trust subsidiary by
the second quarter of 2000 pending regulatory approvals. Upon
consummation of the proposed spin-off, the resulting companies will
have the following corporate profiles based upon financial data as of
September 30, 1999.
Pro Forma Financial Information
As of September 30, 1999
(Unaudited)
USBANCORP Three Rivers Bancorp, Inc
Total Assets $1.4 billion $1.0 billion
Total Loans $ 591 million $ 481 million
Total Deposits $ 666 Million $ 549 million
Corporate Headquarters Johnstown Monroeville
Deposit Market Share in
Primary County 25% 2%
YTD Net Income $8,187,000 $7,481,000
Contribution to YTD EPS $0.61 $0.55
Return on Equity 14.3% 17.5%
.....FORWARD LOOKING STATEMENT.....This report contains various
forward-looking statements and includes assumptions concerning the
Company's operations, future results, and prospects. These forward-
looking statements are based upon current expectations and are subject
to risk and uncertainties. In connection with the "safe harbor"
provisions of the Private Securities Litigation Reform Act of 1995, the
Company provides the following cautionary statement identifying
important factors which could cause the actual results or events to
differ materially from those set forth in or implied by the forward-
looking statements and related assumptions.
Such factors include the following: (i) the effect of changing
regional and national economic conditions; (ii) significant changes in
interest rates and prepayment speeds; (iii) credit risks of commercial,
real estate, consumer, and other lending activities; (iv) changes in
federal and state banking regulations; (v) the presence in the
Company's market area of competitors with greater financial resources
than the Company; (vi) the effect of Y2K on borrowers ability to repay
based on contractual terms and; (vii) other external developments which
could materially impact the Company's operational and financial
performance
<PAGE>40
SERVICE AREA MAP
Presented on this page was a service area map depicting the six counties
serviced by the Company.
<PAGE>41
Part II Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3.1 Articles of Incorporation, as amended (Incorporated
by reference to Exhibit III to Registration Statement
No. 2-79639 on Form S-14, Exhibits 4.2 and 4.3 to
Registration Statement No. 33-685 on Form S-2, Exhibit
4.1 to Registration Statement No. 33-56604 on Form S-3,
and Exhibit 3.1 to the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1994).
3.2 Bylaws, as amended and restated (Incorporated by
reference to Exhibit 3.2 to the Registrant's Annual
Report on Form 10-K for the year ended December 31,
1994).
15.1 Letter re: unaudited interim financial information
27.1 Financial Data Schedule
(b) Reports on Form 8-K: There was an 8-K filed on July 14, 1999
announcing the Companies plans to "Spin-off"
its Three Rivers Bank and Trust Subsidiary.
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
USBANCORP, Inc.
Registrant
Date: November 12, 1999 /s/Terry K. Dunkle
Terry K. Dunkle
Chairman, President and
Chief Executive Officer
Date: November 12, 1999 /s/Jeffrey A. Stopko
Jeffrey A. Stopko
Senior Vice President and
Chief Financial Officer
<PAGE>42
STATEMENT OF MANAGEMENT RESPONSIBILITY
October 15, 1999
To the Stockholders and
Board of Directors of
USBANCORP, Inc.
Management of USBANCORP, Inc. and its subsidiaries have prepared the
consolidated financial statements and other information in the Form
10-Q in accordance with generally accepted accounting principles and
are responsible for its accuracy.
In meeting its responsibilities, management relies on internal
accounting and related control systems, which include selection and
training of qualified personnel, establishment and communication of
accounting and administrative policies and procedures, appropriate
segregation of responsibilities, and programs of internal audit.
These systems are designed to provide reasonable assurance that
financial records are reliable for preparing financial statements
and maintaining accountability for assets, and that assets are
safeguarded against unauthorized use or disposition. Such assurance
cannot be absolute because of inherent limitations in any internal
control system.
Management also recognizes its responsibility to foster a climate in
which Company affairs are conducted with the highest ethical
standards. The Company's Code of Conduct, furnished to each
employee and director, addresses the importance of open internal
communications, potential conflicts of interest, compliance with
applicable laws, including those related to financial disclosure,
the confidentiality of propriety information, and other items.
There is an ongoing program to assess compliance with these
policies.
The Audit Committee of the Company's Board of Directors consists
solely of outside directors. The Audit Committee meets periodically
with management and the independent accountants to discuss audit,
financial reporting, and related matters. Arthur Andersen LLP and
the Company's internal auditors have direct access to the Audit
Committee.
/s/Terry K. Dunkle /s/Jeffrey A. Stopko
Terry K. Dunkle Jeffrey A. Stopko
Chairman, President & Senior Vice President &
Chief Executive Officer Chief Financial Officer
<PAGE>43
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders and
Board of Directors of
USBANCORP, Inc.:
We have reviewed the accompanying consolidated balance sheets of
USBANCORP, Inc. (a Pennsylvania corporation) and subsidiaries as
of September 30, 1999 and 1998, and the related consolidated
statements of income for the three-month and nine-month periods
then ended and the related consolidated statements of changes in
stockholders' equity and cash flows for the nine-month periods
then ended. These financial statements are the responsibility of
the Company's management.
We conducted our review in accordance with standards established
by the American Institute of Certified Public Accountants. A
review of interim financial information consists principally of
applying analytical procedures to financial data and making
inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit
conducted in accordance with generally accepted auditing
standards, the objective of which is the expression of an opinion
regarding the financial statements taken as a whole. Accordingly,
we do not express such an opinion.
Based on our review, we are not aware of any material
modifications that should be made to the financial statements
referred to above for them to be in conformity with generally
accepted accounting principles.
We have previously audited, in accordance with generally accepted
auditing standards, the consolidated balance sheet of USBANCORP,
Inc. as of December 31, 1998, and, in our report dated January 22,
1999, we expressed an unqualified opinion on that statement. In
our opinion, the information set forth in the accompanying
consolidated balance sheet as of December 31, 1998, is fairly
stated, in all material respects, in relation to the balance sheet
from which it has been derived.
/s/ARTHUR ANDERSEN LLP
Pittsburgh, Pennsylvania,
October 15, 1999
<PAGE>44
October 15, 1999
To the Stockholders and Board of Directors of
USBANCORP, Inc.:
We are aware that USBANCORP, Inc. has incorporated by reference in
its Registration Statements on Form S-3 (Registration No. 33-
56604); Form S-8 (Registration No. 33-53935); Form S-8
(Registration No. 33-55845); Form S-8 (Registration No. 33-55207);
and Form S-8 (Registration No. 33-55211) its Form 10-Q for the
quarter ended September 30, 1999, which includes our report dated
October 15, 1999, covering the unaudited interim financial
statement information contained therein. Pursuant to Regulation C
of the Securities Act of 1933 (the Act), that report is not
considered a part of the registration statements prepared or
certified by our firm or a report prepared or certified by our
firm within the meaning of Sections 7 and 11 of the Act.
Very truly yours,
/s/ARTHUR ANDERSEN LLP
ARTHUR ANDERSEN LLP
<PAGE>45
</TABLE>
[ARTICLE] 9
<TABLE>
<S> <C>
[PERIOD-TYPE] 9-MOS
[FISCAL-YEAR-END] DEC-31-1999
[PERIOD-END] SEP-30-1999
[CASH] 41,740
[INT-BEARING-DEPOSITS] 266
[FED-FUNDS-SOLD] 0
[TRADING-ASSETS] 0
[INVESTMENTS-HELD-FOR-SALE] 1,212,987
[INVESTMENTS-CARRYING] 0
[INVESTMENTS-MARKET] 0
[LOANS] 1,071,647
[ALLOWANCE] 10,911
[TOTAL-ASSETS] 2,448,693
[DEPOSITS] 1,214,392
[SHORT-TERM] 197,851
[LIABILITIES-OTHER] 878,089
[LONG-TERM] 40,552
[PREFERRED-MANDATORY] 0
[PREFERRED] 0
[COMMON] 43,461
[OTHER-SE] 74,348
[TOTAL-LIABILITIES-AND-EQUITY] 2,448,693
[INTEREST-LOAN] 64,852
[INTEREST-INVEST] 58,445
[INTEREST-OTHER] 89
[INTEREST-TOTAL] 123,386
[INTEREST-DEPOSIT] 30,692
[INTEREST-EXPENSE] 73,814
[INTEREST-INCOME-NET] 49,572
[LOAN-LOSSES] 1,750
[SECURITIES-GAINS] 431
[EXPENSE-OTHER] 46,082
[INCOME-PRETAX] 21,141
[INCOME-PRE-EXTRAORDINARY] 21,141
[EXTRAORDINARY] 0
[CHANGES] 0
[NET-INCOME] 15,668
[EPS-BASIC] 1.17
[EPS-DILUTED] 1.16
[YIELD-ACTUAL] 7.27
[LOANS-NON] 9,888
[LOANS-PAST] 453
[LOANS-TROUBLED] 0
[LOANS-PROBLEM] 0
[ALLOWANCE-OPEN] 10,725
[CHARGE-OFFS] 2,150
[RECOVERIES] 586
[ALLOWANCE-CLOSE] 10,911
[ALLOWANCE-DOMESTIC] 10,911
[ALLOWANCE-FOREIGN] 0
[ALLOWANCE-UNALLOCATED] 4,458
</TABLE>
