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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997 Commission File number 0-10950
U.S.B. HOLDING CO., INC.
(Exact name of registrant as specified in its charter)
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Delaware 36-3197969
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
100 Dutch Hill Rd., Orangeburg, New York 10962
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (914) 365-4600
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each Class which registered
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Common Stock ($5.00 par value) American Stock Exchange
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Securities registered pursuant to section 12(g) of the Act:
Title of Class
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None
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |X|
Class Outstanding at February 28, 1998
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Common Stock 12,441,000 Shares
($5.00 par value)
The aggregate market value on February 28, 1998 of voting stock held by
non-affiliates of the Registrant was approximately $133,698,000.
Documents incorporated by reference:
Portions of the registrant's Annual Report to Shareholders for the year ended
December 31, 1997 are incorporated by reference in Part II of this report.
Portions of the registrant's definitive Proxy Statement for the 1998 Annual
Meeting of Shareholders are incorporated by reference in Part III of this
report.
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PART I
ITEM 1. BUSINESS
U.S.B. Holding Co., Inc. (the "Company"), a Delaware corporation
incorporated in 1982, is a bank holding company registered under the Bank
Holding Company Act of 1956, as amended, which provides financial services
through its wholly-owned subsidiaries. The Company and its subsidiaries derive
substantially all of their revenue and income from the furnishing of banking and
related financial services, primarily to customers in Rockland and Westchester
Counties, New York.
Union State Bank (the "Bank"), the Company's sole banking subsidiary, is a
New York state chartered commercial bank established in 1969. The Bank offers a
wide range of banking services to individuals, municipalities, corporations and
small and medium-size businesses through its 20 retail banking facilities and a
limited branch office in Westchester County. The Bank's corporate offices are
located in Rockland County. The Bank's products and services include checking
accounts, NOW accounts, money market accounts, savings accounts (passbook and
statement), certificates of deposit, retirement accounts, business, personal,
residential, construction, home equity (second mortgage) and condominium
mortgage loans, consumer loans, credit cards, other consumer oriented financial
services and safe deposit facilities. The Bank also makes available to its
customers automated teller machines (ATMs) and has a remote banking service for
business customers. The deposits of the Bank are insured to the extent permitted
by law pursuant to the Federal Deposit Insurance Act of 1950, as amended.
In 1996, the Bank formed a wholly-owned subsidiary, U.S.B. Realty Corp,
primarily for the purpose of acquiring and managing a portfolio of loans
collateralized by real estate and other investment securities previously owned
by the Bank.
The Company currently has no banking subsidiaries other than the Bank.
Prior to 1996, the Company owned Royal Oak Savings Bank, F.S.B. ("Royal"), a
federal thrift subsidiary located in Maryland. The Company acquired Royal in
January 1991 from the Resolution Trust Company. Royal had assets of
approximately $47,000,000 as of December 31, 1995. On December 31, 1995, all of
the common stock of Royal was sold by the Company to Monocacy Bancshares, Inc.
Immediately prior to such sale, substantially all of Royal's loans and
investment securities were purchased from Royal, for book value, by the Bank and
the Company, in effect transferring Royal's branch system, loan servicing
function, cash and certain immaterial assets to Monocacy Bancshares, Inc.
In February 1997, the Company established Union State Capital Trust I, a
Delaware business trust, solely for the purpose of issuing trust capital
securities. See Note 10 to the Consolidated Financial Statements.
The Company's nonbank subsidiary, Ad Con, Inc., provides advertising
services for the Bank. Ad Con, Inc. does not expect to provide services to other
banks in the near future.
In the fourth quarter of 1997, the Bank established two new nonbank
subsidiaries. Dutch Hill Realty Corp. will own and operate certain real estate
acquired in foreclosure from the Bank. U.S.B. Financial Services, Inc. will
offer sales of various financial products, such as mutual funds, stocks and
bonds, annuities and life insurance. Such sales will be offered through an
arrangement with a third party brokerage and insurance firm specializing in bank
financial product sales. Both subsidiaries will be capitalized and begin
operations in 1998.
Employees
As of December 31, 1997, the Bank employed a total of 221 full-time and 31
part-time employees. The Company and its subsidiaries provide a variety of
benefit plans, including group life, health, and stock ownership plans.
Management considers its employee relations to be satisfactory.
Competition
The Bank's main office and fourteen of its branch offices are located in
Rockland County, New York. Six of the Bank's branch offices are located in
Westchester County, New York. The Bank also has a limited branch office which
only closes loans and disburses funds in Tarrytown, New York.
The Bank's current market shares are approximately 13.3% and 1.0% of
Rockland and Westchester deposits, respectively. The Bank is the largest
independent bank headquartered in Rockland County and believes it is able to
attract and retain customers because of its knowledge of its local markets, and
the ability of its professional staff to provide a high degree of service
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to its customers. Within its market area, the Bank encounters competition in its
banking business from many other financial institutions offering comparable
products. These competitors include other commercial banks (both locally based
independent banks and local offices of major New York City commercial banks), as
well as savings banks, mortgage bankers, savings and loan associations and
credit unions. In addition, the Bank experiences competition in marketing some
of its services from the local operations of insurance companies and brokerage
firms.
The Bank expects to continue to expand by opening new retail branches,
enhancing computerized and telephonic delivery channels, and expanding loan
originations in the Bank's market area. Acquisitions of other smaller financial
institutions and branches will be considered to supplement growth in the Bank's
present markets and in contiguous markets. On March 6, 1998, the Company signed
a definitive agreement to acquire Tappan Zee Financial, Inc., parent company of
Tarrytowns Bank F.S.B., with $126 million in assets, operating as a single
banking facility in Tarrytown, N.Y. See Note 19 to the Consolidated Financial
Statements.
Supervision and Regulation
The references under this heading to various aspects of supervision and
regulation are brief summaries which do not purport to be complete and which are
qualified in their entirety by reference to applicable laws, rules and
regulations.
The Company, as a "bank holding company" under the Bank Holding Company
Act of 1956 (the "BHC Act"), is regulated and examined by the Board of Governors
of the Federal Reserve System (the "FRB") and is required to file with the FRB
an annual report and such other information as may be required. The BHC Act
restricts the business activities and acquisitions that may be engaged in or
made by the Company. The FRB may make examinations of the Company and has the
authority (which it has not exercised) to regulate provisions of certain bank
holding company debt. The BHC Act requires every bank holding company to obtain
the prior approval of the FRB before acquiring substantially all the assets of,
or direct or indirect ownership or control of more than five percent of the
voting shares of, any bank which is not already majority-owned. The BHC Act also
prohibits a bank holding company, with certain exceptions, from engaging in or
acquiring direct or indirect control of more than five percent of the voting
shares of any company engaged in non-banking activities. One of the principal
exceptions to these prohibitions is engaging in, or acquiring shares of a
company engaged in, activities found by the FRB, by order or regulations, to be
so closely related to banking or the management of banks as to be a proper
incident thereto. Subject to certain limitations and restrictions, a bank
holding company, with the prior approval of the FRB, may acquire an out-of-state
bank. Effective June 1997, banks in states that do not prohibit out-of-state
mergers may merge with the approval of the appropriate federal bank regulatory
agency. A national or state bank may establish a de novo branch out of state if
such branching is expressly permitted by the other state.
The FRB recently finalized a major revision of its regulations affecting
bank holding companies and their non-bank subsidiaries. These revisions, which
took effect on April 21, 1997, expand the list of non-bank activities permitted
and significantly liberalize the FRB's approval process of non-bank activities.
In addition, the new rules remove tying restrictions on bank holding companies
and their non-bank subsidiaries and create exceptions from statutory
restrictions on bank tying arrangements to allow banks greater flexibility in
packaging their products with affiliates. The new rules also streamline the bank
acquisition application process for "well managed," "well capitalized"
institutions, with satisfactory or better Community Reinvestment Act records.
The Company is a legal entity separate and distinct from its subsidiaries.
The ability of holders of debt and equity securities of the Company to benefit
from the distribution of assets to any subsidiary upon the liquidation or
reorganization of such subsidiary is subordinate to prior claims of creditors of
the subsidiary (including depositors in the case of banking subsidiaries) except
to the extent that a claim of the Company as a creditor may be recognized.
There are various statutory and regulatory limitations on the extent to
which present and future banking subsidiaries of the Company can finance or
otherwise transfer funds to the Company or its nonbanking subsidiaries, whether
in the form of loans, extensions of credit, investments or asset purchases,
including regulatory limitations on the payment of dividends directly or
indirectly to the Company from the Bank. Federal and state bank regulatory
agencies also have the authority to limit further the Bank's payment of
dividends based on such factors as the maintenance of adequate capital for such
subsidiary bank, which could reduce the amount of dividends otherwise payable.
Under applicable banking statutes, at December 31, 1997, the Bank could have
declared additional dividends of approximately $20.2 million to the Company
without prior regulatory approval.
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Under the policy of the FRB, the Company is expected to act as a source of
financial strength to the Bank and any other subsidiary bank which the Company
might own and to commit resources to support each subsidiary bank in
circumstances where the Company might not do so absent such policy. In addition,
any subordinated loans by the Company to the Bank or any other subsidiary bank
which the Company might own would also be subordinate in right of payment to
deposits and obligations to general creditors of such subsidiary banks.
The Bank is organized under the Banking Law of the State of New York. Its
operations are subject to Federal and State laws applicable to commercial banks
and to regulation by the Superintendent of Banks and the Banking Board of the
State of New York, as well as by the FRB. The Superintendent of Banks examines
the affairs of the Bank for the purpose of determining its financial condition.
Acquisitions of stock of other banks generally require prior approval of the
Superintendent of Banks and/or the Banking Board.
The Company is subject to risk-based capital and leverage guidelines
issued by the FRB. The Bank, as an institution whose deposits are insured by the
Federal Deposit Insurance Corporation, is subject to similar guidelines under
the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA").
These guidelines are utilized to evaluate capital adequacy. To be "well
capitalized" under federal bank regulatory agency definitions, a depositary
institution must have a Tier I ratio of at least 6%, a combined Tier I and Tier
II ratio of at least 10% and a leverage ratio of at least 5%. The regulatory
agencies are required by law to take specific prompt actions with respect to
institutions that do not meet minimum capital standards. As of December 31,
1997, the Bank was "well-capitalized." See Management's Discussion and Analysis
of Financial Condition and Results of Operations under Capital Resources, and
Note 12 to the Consolidated Financial Statements.
FDICIA also limits, with certain exceptions, the ability of banks to
engage in activities or make equity investments that are not permissible for
national banks. The Company does not expect such provisions to have a material
adverse effect on the Bank or the Company.
Government Monetary Policies and Economic Controls
The earnings and growth of the banking industry, the Company, and the Bank
are affected by general economic conditions, as well as by the credit policies
of monetary authorities, including the Federal Reserve System. An important
function of the Federal Reserve System is to regulate the national supply of
bank credit in order to combat recession and curb inflationary pressures. Its
policies are used in varying combinations to influence overall growth of bank
loans, investments and deposits and may also affect interest rates charged on
loans or paid for deposits.
In view of changing conditions in the national economy and the money
markets, as well as the effect of actions by monetary and fiscal authorities,
including the Federal Reserve System, no prediction can be made by the Company
as to possible future changes in interest rates, deposit levels, loan demand or
their effect on the business and earnings of the Company and the Bank.
ITEM 2. PROPERTIES
The main office of the Company and the Bank, including the executive
offices, Finance, Commercial Loan, Loan Administration, Human Resources,
Internal Audit, Operations Center, Transit and Data Processing Departments, and
Marketing Departments, is located at its Corporate Headquarters which is owned
by the Bank at 100 Dutch Hill Road, Orangeburg, New York. The Bank's main branch
is located at 46 College Avenue, Nanuet, New York in premises which are leased
by the Bank. The Bank also has a limited purpose branch in Tarrytown, New York
which may originate loans and disburse funds. The Company also owns other real
property in Orange County, where it may open a future branch of the Bank.
In addition to the main office in Nanuet, the Bank operates thirteen
branches in Rockland County, New York: 270 South Little Tor Road, New City; 87
Route 59, Monsey; 115 South Main Street, New City; 45 Kennedy Drive, Spring
Valley; 35 South Liberty Drive, Stony Point; One Broadway, Haverstraw; Route 9W
and Railroad Avenue, West Haverstraw; 338 Route 59, Central Nyack; 230 North
Middletown Road, Pearl River; 747 Chestnut Ridge Road, Chestnut Ridge; 7 College
Avenue, Nanuet; 65 Dutch Hill Road, Orangeburg; and 59 Route 59, Suffern. The
premises of the Little Tor Road, Spring Valley, Central Nyack, Chestnut Ridge,
Nanuet, and Orangeburg branch offices are leased, while the other Rockland
branch offices are owned by the Bank. The Bank also operates six branches in
Westchester County, New York: 131 Central Avenue, Tarrytown; 299 Bedford Road,
Bedford Hills; and 3000 East Main Street, Peekskill, which are owned, and leased
locations at 76 Virginia Road, North White Plains; 88 Croton Avenue, Ossining;
and 28 Le Count Place, New Rochelle (opened in February 1998). The limited
purpose
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branch located at 660 White Plains Road in Tarrytown is a leased location. The
Bank also leases a location at 60 Mitchell Place, White Plains, for a possible
branch office or loan production facility.
In the opinion of management, the premises, fixtures, and equipment used
by the Company and the Bank are adequate and suitable for the conduct of their
businesses. All the facilities are well maintained and provide adequate parking.
ITEM 3. LEGAL PROCEEDINGS
Various actions and proceedings are presently pending to which the Company
is a party. Management is of the opinion that the aggregate liabilities, if any,
arising from such actions would not have a material adverse effect on the
Consolidated Financial Statements of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER
MATTERS
Market Information and Holders
The Company's common stock was held of record as of February 28, 1998 by
approximately 1,200 shareholders and is listed on the American Stock Exchange as
of April 16, 1997. Prior to such listing the Company's common stock was traded
sporadically in the over-the-counter market and in private transactions.
The common stock price information below is based on transactions as
reported by the American Stock Exchange since its listing on April 16, 1997, and
prior to April 16,1997, based on data from National Quotation Bureau, Inc., a
service which accumulates security price quotations from broker-dealers and
reports high and low bid prices for the Company's common stock. Prices quoted by
the American Stock Exchange or National Quotation Bureau, Inc. (or actual sale
prices where no such quote is available) (adjusted for the two-for-one stock
split on December 24, 1997) are as follows:
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1997 1996
High Low High Low
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First Quarter $13.75 $8.38 $6.54 $5.34
Second Quarter 16.88 12.31 7.25 6.13
Third Quarter 17.13 15.25 7.50 7.00
Fourth Quarter 26.75 15.00 8.40 7.50
First Quarter 1998, through
February 28, 1998 26.00 20.63
================================================================
The foregoing prices represent quotations without adjustment for retail markup,
markdown, or commission.
Under the Company's Dividend Reinvestment and Stock Purchase Plan (the
"Plan"), which has been temporarily suspended, participants are permitted to
reinvest cash dividends in common stock at 100 percent of the current market
price (as determined under the Plan). In the third quarter of 1994, a stock
purchase feature of the Plan was added to allow stockholders to purchase at fair
market value up to $2,500 of common stock per quarter.
Under the Plan, shareholders reinvested cash dividends to purchase and
made optional purchases of common stock in 1995 (adjusted for the two-for-one
stock split on December 24, 1997) as follows:
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1995
Shares
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Purchase Dividend Optional Price per
Date Reinvestment Purchases Share
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January 16 41,316 20,328 $5.06
April 14 39,908 29,986 5.27
July 14 33,058 36,248 5.85
October 13 33,744 35,834 6.37
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Dividends
In 1988, the Board of Directors of the Company adopted a policy of paying
quarterly cash dividends to holders of its common stock. In 1997, quarterly cash
dividends of $.045 were paid to shareholders of record on March 31 and June 30,
and $.05 to shareholders of record on September 30 and December 31. In 1996,
quarterly cash dividends of $.034 per
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share were paid to shareholders of record on March 31, $.0375 on June 30 and
September 30, and $.04 on December 31, 1996. In 1995, a $.0225 and $.025
quarterly dividend was paid to shareholders of record on March 31, and June 30,
respectively, and $.0275 quarterly dividends were paid to shareholders of record
on September 30 and December 31. A special dividend of $.034 per share was
declared on December 29, 1995 and paid to shareholders of record on January 26,
1996. The above dividend information has been adjusted to reflect the
two-for-one stock split distributed on December 24, 1997.
Stock dividends of 10 percent were declared by the Company for
shareholders of record on June 14, 1996, June 15, 1995 and June 30, 1993,
respectively, and a five percent stock dividend was declared for shareholders of
record on June 30, 1992. In addition, two-for-one stock splits in the form of
100% stock dividends were declared for stockholders of record on December 15,
1997 and December 13, 1996, and distributed on December 24, 1997 and December
30, 1996, respectively.
Any funds which the Company may require in the future to pay cash
dividends, as well as various Company expenses, are expected to be obtained by
the Company chiefly in the form of cash dividends from the Bank and secondarily
from stock issuances under the Company's Dividend Reinvestment and Stock
Purchase Plan and other Stock Option Plans. The ability of the Company to
declare and pay dividends in the future will depend not only upon its future
earnings and financial condition, but also upon the future earnings and
financial condition of the Bank and its non-bank subsidiaries and upon the
ability of the Bank to transfer funds to the Company in the form of cash
dividends and otherwise. The Company is a separate and distinct legal entity
from its subsidiaries. The Company's right to participate in any distribution of
the assets or earnings of its subsidiaries is subject to prior claims of
creditors of the subsidiaries.
Under New York Banking Law, a New York bank may declare and pay dividends
not more often than quarterly and no dividends may be declared, credited, or
paid so long as there is any impairment of capital stock. In addition, except
with the approval of the New York State Superintendent of Banks, the total of
all dividends declared in any year may not exceed the sum of a bank's net
profits for that year and its undistributed net profits for the preceding two
years, less any required transfers to surplus. A bank may be required to
transfer to surplus up to 10 percent of its net profits in any accounting period
if its combined capital stock, surplus and undivided profit accounts do not
equal 10 percent of its net deposit liabilities.
The Company may not pay dividends on its common stock or preferred stock
if it is in default with respect to the junior subordinated debt or the Capital
Securities issued in February 1997, or if the Company elects to defer payment
for up to five years as permitted under the terms of such junior subordinated
debt and Capital Securities. In addition, the Company could not pay dividends on
its common stock if it was in default of the terms of its preferred stock, all
of which was redeemed in February 1997.
The payment of dividends by the Company may also be limited by the Federal
Reserve Board's capital adequacy and dividend payment guidelines applicable to
bank holding companies (see Item 1 - Business-Supervision and Regulation). Under
these guidelines, the Company is not expected to pay any dividends on shares of
the Company's common stock until such time as its debt to equity ratio (as
defined, including long-term debt qualifying as capital) is below 30 percent.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this Item is incorporated by reference from
the table entitled "Selected Financial Data" of the Company's 1997 Annual Report
to Shareholders.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information required by this Item is incorporated by reference from
the Company's 1997 Annual Report to Shareholders.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required by this item is incorporated by reference from
the Company's 1997 Annual Report to Shareholders.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by this Item is incorporated by reference from
the Company's 1997 Annual Report to Shareholders.
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
NONE
PART III
The information required by Items 10, 11, 12 and 13 is incorporated by
reference from the Company's definitive Proxy Statement for its Annual Meeting
of Shareholders which will be filed with the Commission not later than 120 days
after December 31, 1997.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(A) Documents Filed as a Part of this Report:
1. and 2. Financial Statements and Schedules
The following financial statements and schedules of the Company and its
subsidiaries are incorporated in Item 8 by reference from the Company's 1997
Annual Report to Shareholders:
INDEPENDENT AUDITORS' REPORT
CONSOLIDATED STATEMENTS OF CONDITION, DECEMBER 31, 1997 AND 1996
CONSOLIDATED STATEMENTS OF INCOME FOR THE YEARS ENDED DECEMBER 31, 1997, 1996
AND 1995
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1997,
1996 AND 1995
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY FOR THE YEARS ENDED
DECEMBER 31, 1997, 1996 AND 1995
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Supplemental Schedules are omitted because of the absence of the
conditions under which they are required or because the required information is
included in the Consolidated Financial Statements and the Notes thereto.
3. EXHIBITS
Exhibit No. Exhibit
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(3)(a) Restated Certificate of Incorporation of Registrant (incorporated
herein by reference to Registrant's Annual Report on Form 10-K for
the year ended December 31, 1996 ("1996 10-K"), Exhibit (13)).
(3)(b) Bylaws of Registrant (incorporated herein by reference from
Registrant's Registration Statement on Form S-14 (file no. 2-79734),
Exhibit 3(b)).
(4)(a) Junior Subordinated Indenture, dated February 5, 1997, between
Registrant and The Chase Manhattan Bank, as trustee (incorporated
herein by reference to Registrant's 1996 10-K, Exhibit (4)(a)).
(4)(b) Guarantee Agreement, dated February 5, 1997, by and between
Registrant and The Chase Manhattan Bank, as trustee for the holders
of 9.58% Capital Securities of Union State Capital Trust I
(incorporated herein by reference to Registrant's 1996 10-K, Exhibit
(4)(b)).
(4)(c) Amended and Restated Declaration of Trust of Union State Capital
Trust I (incorporated herein by reference to Registrant's 1996 10-K,
Exhibit (4)(c)).
(10)(a) Agreement of Employment dated as of July 1, 1994 between the Company
and the Bank and Thomas E. Hales (incorporated herein by reference
to Registrant's Annual Report on Form 10-K for the year ended
December 31, 1994 ("1994 10-K"), Exhibit (10)(a)).
(10)(b) Registrant's 1984 Incentive Stock Option Plan (incorporated herein
by reference from Form S-8 Registration Statement, file No. 2-90674,
Exhibit 28 (b)).
(10)(c) Registrant's 1993 Incentive Stock Option Plan (incorporated herein
by reference from Registrant's Annual Report on Form 10-K for the
year ended December 31, 1993 ("1993 10-K"), Exhibit (10)(c)).
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(10)(d) Registrant's Employee Stock Ownership Plan (With Code Section 401(k)
Provisions) (incorporated herein by reference from Registrant's
1993 10-K, Exhibit (10)(d)).
(10)(e) Registrant's Dividend Reinvestment and Stock Purchase Plan
(incorporated herein by reference from Registrant's Form S-3
Registration Statement, file No. 33-72788).
(10)(f) Registrant's Director Stock Option Plan (incorporated herein by
reference to Registrant's 1996 10-K, Exhibit (10)(f)).
(10)(g) Registrant's Key Employees' Supplemental Investment Plan, as amended
July 1, 1997 (incorporated by reference to Registrant's Form 11-K
for the year ended December 31,1996).
(10)(h) Purchase Agreement, dated January 31, 1997, by and among Registrant,
Union State Capital Trust I and Keefe, Bruyette & Woods, Inc.
(incorporated herein by reference to Registrant's 1996 10-K, Exhibit
(10)(h)).
(10)(i) Registration Rights Agreement, dated February 5, 1997, by and among
Registrant, Union State Capital Trust I and Keefe, Bruyette & Woods,
Inc. (incorporated herein by reference to Registrant's 1996 10-K,
Exhibit (10)(i)).
(10)(j) Registrant's 1997 Employee Stock Option Plan (incorporated herein by
reference to Registrant's proxy statement filed April 18, 1997).
(10)(k) Agreement and Plan of Merger, dated as of March 6, 1998, between
U.S.B. Holding Co., Inc. and Tappan Zee Financial, Inc.
(incorporated herein by reference to Registrant's Current Report on
Form 8-K dated as of March 6, 1998).
(10)(l) Stock Option Agreement, dated as of March 6, 1998, between U.S.B.
Holding Co., Inc. and Tappan Zee Financial, Inc. (incorporated
herein by reference to Registrant's Current Report on Form 8-K dated
as of March 6, 1998).
(11) Computation of earnings per share.*
(13) Registrant's Annual Report to Shareholders for the year ended
December 31, 1997* (portions incorporated by reference in Form
10-K).
(21) Subsidiaries of the Registrant*
(23) Consent of Deloitte & Touche LLP*
(27) Financial Data Schedule
* Filed Herewith
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(B) Reports on Form 8-K
No reports on Form 8-K were filed by the Company during the quarter ended
December 31, 1997.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized, on March 25, 1998.
U.S.B. HOLDING CO., INC.
/s/ THOMAS E. HALES
-------------------------------------
By: Thomas E. Hales,
Chairman of the Board,
President and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the Company
and in the capacities indicated on March 25, 1998.
/s/ THOMAS E. HALES /s/ STEVEN T. SABATINI
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Thomas E. Hales, Chairman of the Steven T. Sabatini, Senior
Board, President and Chief Executive Executive Vice President, and
Officer and Director Chief Financial Officer and Assistant
Secretary
/s/ RAYMOND J. CROTTY /s/ HOWARD V. RUDERMAN
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Raymond J. Crotty, Senior Howard V. Ruderman, Director
Executive Vice President,
Chief Credit Officer,
Assistant Secretary and Director
/s/ FRED F. GRAZIANO /s/ KENNETH J. TORSOE
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Fred F. Graziano, M.D., Kenneth J. Torsoe, Director
Treasurer and Director
/s/ MICHAEL H. FURY /s/ HERBERT PECKMAN
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Michael H. Fury, Esq., Secretary Herbert Peckman, Director
and Director
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EXHIBIT XI
U.S.B. HOLDING CO., INC.
COMPUTATION OF EARNINGS PER SHARE
For the Three Years Ended December 31, 1997, 1996, 1995
<TABLE>
<CAPTION>
1997 1996 1995
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(000's, except share data)
<S> <C> <C> <C>
Weighted average number of common
shares outstanding 12,401,562 12,330,222* 12,117,283*
Assuming exercise of options reduced by
the number of shares which could
have been purchased with the proceeds
from exercise of such options 1,121,620 695,772* 492,233*
----------- ----------- -----------
Adjusted weighted average 13,523,182 13,025,994* 12,609,516*
=========== =========== ===========
Net income $ 10,402 $ 9,414 $ 9,327
Less: Preferred stock dividend requirements 45 294 315
----------- ----------- -----------
Net income available to common stockholders $ 10,357 $ 9,120 $ 9,012
=========== =========== ===========
Basic earnings per share $ .84 $ .74* $ .74*
=========== =========== ===========
Diluted earnings per share $ .77 $ .70* $ .71*
=========== =========== ===========
</TABLE>
- ----------
* Adjusted for stock split in December 1997
Consolidated Statements of Condition
December 31, 1997 and 1996
U.S.B. Holding Co., Inc.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(000's, Except Share Data)
1997 1996
<S> <C> <C>
ASSETS
- ------------------------------------------------------------------------------------------------
Cash and due from banks $ 19,622 $ 18,821
Federal funds sold 25,800 10,800
- ------------------------------------------------------------------------------------------------
Cash and cash equivalents 45,422 29,621
Interest bearing deposits in other banks -- 99
Securities:
Available for sale (at fair value) 243,723 168,756
Held to maturity (fair value $139,871 in 1997
and $83,123 in 1996) 137,177 81,019
Loans held for sale 340 274
Loans, net of allowance for loan losses
of $7,558 in 1997 and $5,742 in 1996 555,769 497,495
Premises and equipment, net 10,387 10,104
Accrued interest receivable 7,287 5,820
Other real estate owned 2,021 651
Federal Home Loan Bank of New York stock 13,723 4,238
Other assets 7,551 5,374
- ------------------------------------------------------------------------------------------------
TOTAL ASSETS $ 1,023,400 $ 803,451
================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Non-interest bearing deposits $ 106,038 $ 97,251
Interest bearing deposits 691,757 585,029
- ------------------------------------------------------------------------------------------------
Total deposits 797,795 682,280
Accrued interest payable 3,665 1,895
Dividend payable 618 528
Accrued expenses and other liabilities 4,743 2,190
Securities sold under agreements to repurchase 74,643 29,425
Federal Home Loan Bank advances 59,160 30,267
- ------------------------------------------------------------------------------------------------
Total liabilities 940,624 746,585
- ------------------------------------------------------------------------------------------------
Commitments and contingencies (Notes 6 and 16)
Corporation-Obligated mandatory redeemable capital
securities of subsidiary trust 20,000 --
Minority interest-junior preferred stock of consolidated
subsidiary 137 --
Stockholders' equity:
Preferred stock, no par value
Authorized shares: 100,000
Outstanding shares: 32,500 in 1996 -- 3,250
Common stock, $5 par value
Authorized shares: 20,000,000
Issued shares: 12,558,022 in 1997 and 6,326,808 in 1996 62,790 31,634
Additional paid-in capital 212 10,783
Retained earnings 645 12,664
Treasury stock at cost, 128,122 shares in 1997 and
143,772 shares in 1996 (866) (895)
Shares held in trust for deferred compensation (1,441) --
Net unrealized gain (loss) on available for sale securities, net of tax 1,299 (570)
- ------------------------------------------------------------------------------------------------
Total stockholders' equity 62,639 56,866
- ------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,023,400 $ 803,451
================================================================================================
</TABLE>
See notes to consolidated financial statements
20
<PAGE>
Consolidated Statements of Income
For the Years Ended December 31, 1997, 1996 and 1995
U.S.B. Holding Co., Inc. USB
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(000's, Except Share Data)
1997 1996 1995
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST INCOME:
Interest and fees on loans $ 47,897 $ 40,652 $ 33,216
Interest on federal funds sold 597 693 1,013
Interest and dividends on securities:
U.S. Treasury and government agencies 9,741 5,110 2,851
Mortgage-backed securities 8,871 6,873 7,741
Obligations of states and political subdivisions 3,239 3,170 3,381
Corporate and other 43 517 1,193
Interest on deposits in other banks 1 39 137
Dividends on Federal Home Loan Bank of New York stock 523 162 160
- ----------------------------------------------------------------------------------------------------
Total interest income 70,912 57,216 49,692
- ----------------------------------------------------------------------------------------------------
INTEREST EXPENSE:
Interest on deposits 30,521 25,774 23,438
Interest on borrowings 4,814 1,827 880
Interest on Corporation - Obligated mandatory
redeemable capital securities of subsidiary trust 1,771 -- --
- ----------------------------------------------------------------------------------------------------
Total interest expense 37,106 27,601 24,318
- ----------------------------------------------------------------------------------------------------
NET INTEREST INCOME 33,806 29,615 25,374
Provision for loan losses 2,320 2,275 1,200
- ----------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 31,486 27,340 24,174
- ----------------------------------------------------------------------------------------------------
NON-INTEREST INCOME:
Gain on securities transactions - net 1,004 819 167
Gain (loss) on loans held for sale - net 28 (54) 57
Net gain on sale of Royal Oak Savings Bank, F.S.B -- -- 3,520
Net gain on sale of branch facility -- 600 --
Mortgage servicing income 223 244 340
Service charges and fees 2,236 2,419 2,599
Other income 1,044 999 632
- ----------------------------------------------------------------------------------------------------
Total non-interest income 4,535 5,027 7,315
- ----------------------------------------------------------------------------------------------------
NON-INTEREST EXPENSES:
Salaries and employee benefits 11,483 10,322 8,993
Occupancy and equipment expense 3,994 3,419 3,288
Advertising and business development 1,056 867 905
Professional fees 1,270 1,033 929
Communications 708 625 577
Stationery and printing 450 387 380
FDIC insurance 90 2 688
OREO expense - net 176 156 186
Other expenses 2,161 1,368 1,905
- ----------------------------------------------------------------------------------------------------
Total non-interest expenses 21,388 18,179 17,851
- ----------------------------------------------------------------------------------------------------
Income before income taxes 14,633 14,188 13,638
Provision for income taxes 4,231 4,774 4,311
- ----------------------------------------------------------------------------------------------------
NET INCOME $ 10,402 $ 9,414 $ 9,327
====================================================================================================
BASIC EARNINGS PER SHARE $ .84 $ .74* $ .74*
====================================================================================================
DILUTED EARNINGS PER SHARE $ .77 $ .70* $ .71*
====================================================================================================
WEIGHTED AVERAGE SHARES 12,401,562 12,330,222* 12,117,283*
====================================================================================================
ADJUSTED WEIGHTED AVERAGE SHARES 13,523,182 13,025,994* 12,609,516*
====================================================================================================
</TABLE>
*Adjusted for two-for-one stock split in 1997.
See notes to consolidated financial statements.
21
<PAGE>
Consolidated Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
U.S.B. Holding Co., Inc.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(000's)
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net income $ 10,402 $ 9,414 $ 9,327
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 2,320 2,275 1,200
Depreciation and amortization 1,490 1,324 1,496
Amortization/accretion of premiums (discounts) on securities - net 261 301 129
Deferred income taxes (1,465) (1,166) (426)
Gain on securities transactions - net (1,004) (819) (167)
(Gain) loss on loans held for sale - net (28) 54 (57)
Net gain on sale of Royal Oak Savings Bank, F.S.B -- -- (3,520)
Net gain on sale of branch facility -- (600) --
Origination of loans held for sale (1,254) (2,415) (2,222)
Proceeds from sales of loans held for sale 1,129 573 4,140
Increase in accrued interest receivable (1,467) (532) (903)
Increase in accrued interest payable 1,770 126 661
Payment of income taxes related to sale of Royal Oak Savings Bank, F.S.B -- (1,530) --
Other - net (314) (939) 1,783
- --------------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 11,840 6,066 11,441
- --------------------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Proceeds from sales of securities available for sale 112,972 75,297 56,942
Proceeds from principal paydowns and maturities of
securities available for sale 40,500 31,762 20,463
Proceeds from maturities of securities held to maturity 16,250 6,418 24,796
Purchases of securities available for sale (224,254) (107,118) (99,031)
Purchases of securities held to maturity (72,613) (27,417) (2,691)
(Purchases) redemptions of Federal Home Loan Bank of New York stock (9,485) (2,582) 314
Cash and cash equivalents used in sale of Royal Oak
Savings Bank, F.S.B. (Note 3) -- -- (37,388)
Net decrease (increase) in interest bearing deposits in other banks 99 1,970 (883)
Loans originated, net of principal collections and charge-offs (62,656) (112,045) (61,898)
Loans purchased -- -- (398)
Purchases of premises and equipment - net (1,758) (1,618) (1,211)
Proceeds from sale of branch facility -- 900 --
Proceeds from sales of OREO 1,390 1,555 1,062
- --------------------------------------------------------------------------------------------------------------------------------
Net cash used for investing activities (199,555) (132,878) (99,923)
- --------------------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Net increase in non-interest bearing deposits, NOW,
money market and savings accounts 23,676 56,511 70,967
Increase in time deposits, net of withdrawals and maturities 91,839 15,134 38,135
Decrease in federal funds purchased -- -- (3,400)
Net proceeds from securities sold under agreements to
repurchase - short term 5,438 29,425 --
Proceeds from securities sold under agreements to
repurchase - long term 39,780 -- --
Net increase (decrease) in Federal Home Loan
Bank advances - short-term 30,000 5,000 (7,500)
Proceeds from Federal Home Loan Bank advances - long-term -- 20,267 5,000
Repayment of Federal Home Loan Bank advances - long term (1,107) (5,000) --
Repayment of long-term debt -- -- (1,800)
Net proceeds from issuance of Corporation - Obligated mandatory
redeemable capital securities of subsidiary trust 18,810 -- --
Proceeds from sale of junior preferred stock of consolidated subsidiary 137 -- --
Cash dividends paid (2,402) (2,132) (1,974)
Redemption of preferred stock (3,250) (500) --
Proceeds from issuance of common stock and tax benefit of
stock options 231 19 1,858
Proceeds from sale of treasury stock 469 440 --
Purchase of treasury stock (105) -- --
- --------------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 203,516 119,164 101,286
- --------------------------------------------------------------------------------------------------------------------------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 15,801 (7,648) 12,804
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 29,621 37,269 24,465
- --------------------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 45,422 $ 29,621 $ 37,269
================================================================================================================================
Supplemental Disclosures:
- --------------------------------------------------------------------------------------------------------------------------------
Interest paid $ 35,336 $ 27,475 $ 23,657
- --------------------------------------------------------------------------------------------------------------------------------
Income tax payments $ 5,294 $ 7,412 $ 3,522
- --------------------------------------------------------------------------------------------------------------------------------
Transfer of assets to OREO - net $ 2,149 $ 1,226 $ 1,599
- --------------------------------------------------------------------------------------------------------------------------------
Transfer of securities held to maturity
to securities available for sale $ -- $ -- $ 68,145
- --------------------------------------------------------------------------------------------------------------------------------
Transfer of loans held for sale to loans held to maturity at
lower of cost or fair value $ 58 $ 1,962 $ --
- --------------------------------------------------------------------------------------------------------------------------------
Change in shares held in trust for deferred compensation $ 1,441 $ -- $ --
- --------------------------------------------------------------------------------------------------------------------------------
Change in net unrealized gain (loss) on securities available for sale
- net of tax $ 1,869 $ (1,708) $ 3,803
================================================================================================================================
</TABLE>
See notes to consolidated financial statements.
22
<PAGE>
Consolidated Statements of Changes in Stockholders' Equity
For the Years Ended December 31, 1997, 1996 and 1995
U.S.B. Holding Co., Inc. USB
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------
(000's, Except Share Data)
- -------------------------------------------------------------------------------------------------------------
Common Stock
Preferred ------------------------- Additional
Stock, Shares $ 5 Par Paid-in
No Par Value Outstanding Value Capital
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at January 1, 1995 $ 3,750 2,449,084 $12,677 $ 12,452
Net income -- -- -- --
Cash dividends:
Common ($.1365* per share) -- -- -- --
Preferred -- -- -- --
Common stock issued:
Employee stock options exercised
($1.58* to $5.23* per share) -- 38,610 193 299
Director stock options exercised
($2.25* to $2.26* per share) -- 5,658 28 28
10% stock dividend -- 250,525 1,253 5,198
Dividend reinvestment plan -- 50,204 251 1,069
Change in net unrealized gain (loss) on
available for sale securities, net of tax -- -- -- --
- -------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 3,750 2,794,081 14,402 19,046
Net income -- -- -- --
Redemption of preferred stock (500) -- -- --
Cash dividends:
Common ($.149* per share) -- -- -- --
Preferred -- -- -- --
Sale of treasury stock -- 20,108 -- 260
Common stock issued:
Employee stock options exercised
($2.12* to $4.75* per share) -- 3,095 15 16
10% stock dividend -- 279,912 1,400 7,278
Two-for-one stock split -- 3,085,840 15,817 (15,817)
Change in net unrealized gain (loss) on
available for sale securities, net of tax -- -- -- --
- -------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 3,250 6,183,036 31,634 10,783
Net income -- -- -- --
Redemption of preferred stock (3,250) -- -- --
Cash dividends
Common ($.19* per share) -- -- -- --
Preferred -- -- -- --
Purchase of treasury stock -- (5,000) -- --
Sale of treasury stock -- 20,650 -- 335
Common stock issued:
Employee stock options exercised
($1.43* to $5.32* per share) -- 10,292 52 (12)
Director stock options exercised
($2.33* to $2.45* per share) -- 10,008 50 (2)
Two-for-one stock split -- 6,210,914 31,054 (11,035)
Tax benefit of stock options -- -- -- 143
Shares held in trust for deferred
compensation -- -- -- --
Change in net unrealized gain (loss) on
available for sale securities, net of tax -- -- -- --
- -------------------------------------------------------------------------------------------------------------
Balance at December 31, 1997 $ -- 12,429,900 $62,790 $ 212
=============================================================================================================
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
(000's, Except Share Data)
- ------------------------------------------------------------------------------------------------------------------
Shares Net Unrealized
Held in Gain (Loss)
Trust for on Available
Retained Treasury Deferred For Sale
Earnings Stock Compensation Securities
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at January 1, 1995 $ 13,180 $(1,075) -- $(2,665)
Net income 9,327 -- -- --
Cash dividends:
Common ($.1365* per share) (1,659) -- -- --
Preferred (315) -- -- --
Common stock issued:
Employee stock options exercised
($1.58* to $5.23* per share) -- -- -- --
Director stock options exercised
($2.25* to $2.26* per share) -- -- -- --
10% stock dividend (6,461) -- -- --
Dividend reinvestment plan -- -- -- --
Change in net unrealized gain (loss) on
available for sale securities, net of tax -- -- -- 3,803
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 14,072 (1,075) -- 1,138
Net income 9,414 --
Redemption of preferred stock -- -- -- --
Cash dividends:
Common ($.149* per share) (1,838) -- --
Preferred (294) -- -- --
Sale of treasury stock -- 180 -- --
Common stock issued:
Employee stock options exercised
($2.12* to $4.75* per share) -- -- -- --
10% stock dividend (8,690) -- -- --
Two-for-one stock split -- -- -- --
Change in net unrealized gain (loss) on
available for sale securities, net of tax -- -- -- (1,708)
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 12,664 (895) -- (570)
Net income 10,402 -- -- --
Redemption of preferred stock -- -- -- --
Cash dividends
Common ($.19* per share) (2,357) -- -- --
Preferred (45) -- -- --
Purchase of treasury stock -- (105) -- --
Sale of treasury stock -- 134 -- --
Common stock issued:
Employee stock options exercised
($1.43* to $5.32* per share) -- -- -- --
Director stock options exercised
($2.33* to $2.45* per share) -- -- -- --
Two-for-one stock split (20,019) -- -- --
Tax benefit of stock options -- -- -- --
Shares held in trust for deferred
compensation -- -- $(1,441) --
Change in net unrealized gain (loss) on
available for sale securities, net of tax -- -- -- 1,869
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1997 $ 645 $ (866) $(1,441) $ 1,299
==================================================================================================================
</TABLE>
*Adjusted for two-for-one stock split in 1997
See notes to consolidated financial statements
23
<PAGE>
Notes to Consolidated Financial Statements
U.S.B. Holding Co., Inc.
- --------------------------------------------------------------------------------
Balance sheet information as of December 31, 1995, 1994 and 1993 and income
statement information for the years ended December 31, 1994 and 1993 are not
covered by the independent auditors' report included on page 48.
1. NATURE OF OPERATIONS
U.S.B. Holding Co., Inc. (the "Company"), a Delaware corporation
incorporated on July 6, 1982, is a bank holding company which provides financial
services through its wholly-owned subsidiaries. The Company and its subsidiaries
derive substantially all of their revenue and income from the furnishing of
banking and related services primarily to customers in Rockland and Westchester
Counties, New York. The Company is a separate and distinct legal entity from its
subsidiaries.
Union State Bank (the "Bank"), the Company's banking subsidiary, is a New
York State chartered full-service commercial bank which was established in 1969.
The Bank offers a complete range of retail banking services to individuals,
municipalities, corporations, and small and medium-size businesses. These
services include checking accounts, NOW accounts, money market deposit accounts,
savings accounts (passbook and statement), certificates of deposit, retirement
accounts, business loans, personal loans, residential, construction, home equity
(second mortgage) and condominium mortgage loans, consumer loans, credit cards,
other consumer oriented financial services and safe deposit facilities.
U.S.B. Realty Corp. ("USBRC"), a wholly-owned subsidiary of the Bank, was
formed on November 13, 1996. USBRC was formed primarily for the purpose of
acquiring and managing a portfolio of loans secured by real estate and other
investment securities previously owned by the Bank. On December 31, 1997, USBRC
had approximately $249.9 million in assets, consisting primarily of commercial
real estate loans ($229.5 million, net of allowance for loan losses), U.S.
government agency securities ($5.0 million) and cash ($13.5 million).
In the fourth quarter of 1997, the Bank established two new subsidiaries,
Dutch Hill Realty Corp., which will manage and sell real estate acquired in
foreclosure by the Bank, and U.S.B. Financial Services, Inc., which will sell
mutual funds, annuities and life insurance products in conjunction with an
agreement with a third party brokerage and insurance firm. Both subsidiaries
will be capitalized and begin operations in 1998.
Royal Oak Savings Bank, F.S.B. ("Royal"), a federal thrift subsidiary
located in Randallstown, Maryland, also offered a complete range of services to
individuals and businesses. On December 31, 1995, Royal was sold to Monocacy
Bancshares, Inc. ("Monocacy") (see Note 3). Prior to the sale to Monocacy, Royal
sold substantially all its investment and loan assets, and certain other assets
and liabilities to the Bank and the Company.
Union State Capital Trust I is a Delaware business trust established in
1997 for the purpose of issuing trust capital securities (see Note 10). Ad Con,
Inc. is a non-bank subsidiary of the Company which provides advertising services
for the Bank.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The Consolidated Financial Statements include
the accounts of the Company and its wholly-owned subsidiaries, Union State Bank
(including its wholly-owned subsidiary, USBRC), Royal Oak Savings Bank, F.S.B.
(through December 31, 1995), Union State Capital Trust I and Ad Con, Inc. The
Bank (including USBRC) and Royal are herein referred to as the "Banks." All
significant intercompany accounts and transactions are eliminated in
consolidation.
Basis of Financial Statement Presentation: The Consolidated Financial
Statements have been prepared in accordance with generally accepted accounting
principles and predominant practices used within the banking industry. In
preparing such financial statements, management is required to make estimates
and assumptions that affect the reported amounts of assets and liabilities as of
the dates of the Consolidated Statements of Condition and the revenues and
expenses for the periods reported. Actual results could differ significantly
from those estimates.
Estimates that are particularly susceptible to significant change relate
to the determination of the allowance for loan losses and the valuation of other
real estate acquired in connection with foreclosures or in satisfaction of
loans. In connection with the determination of the allowance for loan losses and
other real estate owned, management obtains independent appraisals for
significant properties.
Forward-Looking Statements: The Company has made, and may continue to
make, various forward-looking statements with respect to earnings, credit
quality and other financial and business matters for periods subsequent to
December 31, 1997. The Company cautions that these forward-looking statements
are subject to numerous assumptions, risks and uncertainties, and that
statements relating to subsequent periods increasingly are subject to greater
uncertainty because of the increased likelihood of changes in underlying factors
and assumptions. Actual results could differ materially from forward-looking
statements.
24
<PAGE>
USB
- --------------------------------------------------------------------------------
In addition to those factors previously disclosed by the Company and those
factors identified elsewhere herein, the following factors could cause actual
results to differ materially from such forward-looking statements; competitive
pressures on loan and deposit product pricing; other actions of competitors;
changes in economic conditions; the extent and timing of actions of the Federal
Reserve Board; customer deposit disintermediation; changes in customers'
acceptance of the Company's products and services; and the extent and timing of
legislative and regulatory actions and reform.
The Company's forward-looking statements are only as of the date on which
such statements are made. By making any forward looking statements, the Company
assumes no duty to update them to reflect new, changing or unanticipated events
or circumstances.
Securities: Securities that may be sold as part of the Company's
asset/liability or liquidity management, or in response to or in anticipation of
changes in interest rates and resulting prepayment risk, or for similar factors,
are classified as available for sale and carried at fair value. Securities that
the Company has the ability and positive intent to hold to maturity are
classified as held to maturity and carried at amortized cost. Realized gains and
losses on the sales of all securities, determined by using the specific
identification method, are reported in earnings. Securities available for sale
are shown in the Consolidated Statements of Condition at fair value and the
resulting net unrealized gains and losses, net of tax are shown as a separate
component of stockholders' equity.
The decision to sell securities available for sale is based on
management's assessment of changes in economic or financial market conditions,
interest rate risk, and the Company's financial position and liquidity. Fair
values for securities are based on quoted market prices, where available. If
quoted market prices are not available, fair values are based on quoted market
prices of comparable instruments.
The Company does not acquire securities for the purpose of engaging in
trading activities.
Interest Rate Contracts: The Company uses various interest rate contracts
such as forward rate agreements, interest rate swaps and caps, primarily as
hedges against specific assets, liabilities or anticipated transactions.
Contracts accounted for as hedges must meet certain criteria including the
following: the hedged item must expose the Company to interest rate risk; the
interest rate contract must reduce that exposure; and must have a high
correlation of change in fair value of the interest rate contract and change in
fair value of the item hedged. For contracts designated as hedges, gains or
losses are deferred and recognized as adjustments to interest income or expense
of the underlying assets or liabilities over the life of the contract. Net
payments on interest rate swaps designated as hedges are accounted for on the
accrual basis. Gains or losses resulting from early terminations of contracts
are deferred and amortized over the remaining term of the underlying assets or
liabilities. If the contracts do not meet the criteria for hedge accounting, the
contract is valued at its fair value and any gain or loss is recorded in the
Consolidated Statements of Income. Any fees received or disbursed which
represent adjustments to the yield on interest rate contracts are capitalized
and amortized over the term of the interest rate contracts.
Loans: Loans are reported at the principal amount outstanding, net of
unearned income and the allowance for loan losses. Interest income on loans is
recorded on an accrual basis until an interest or principal payment is more than
90 days past due or sooner if, in the opinion of management, there is a question
as to the ability of the debtor to continue to make payments. At the time a loan
is placed on nonaccrual status, interest accrued but not collected is reversed.
Interest payments received while a loan is in nonaccrual status are either
applied to reduce principal or, based on management's estimate of
collectibility, recognized as income. Loans are returned to accrual status when
factors indicating doubtful collectibility no longer exist.
Loan origination and commitment fees and certain direct loan origination
costs are deferred and the net amount amortized as an adjustment of the related
loan's yield over the contractual life of the related loan, using a method that
approximates the interest method of amortization. Unamortized net fees for loans
sold are recognized in income at the time the loan is sold.
Certain residential mortgage loans held for sale are carried at the lower
of aggregate cost or estimated market value, and are reported separately in the
Consolidated Statements of Condition as "Loans held for sale." Gains and losses
on sales of mortgage loans held for sale are shown as a separate component of
"Non-Interest Income" in the Consolidated Statements of Income.
Allowance for Loan Losses: The allowance for loan losses is available to
absorb charge-offs from any loan category, while additions are made through
charges to income and recoveries of loans previously charged off. An evaluation
of the quality of the loan portfolio is performed by management on a quarterly
basis as an integral part of the loan review function which includes the
identification of past due loans, non-performing loans, impaired loans,
assessment of the expected effects of the current economic environment on the
loan portfolio and review of historical loss experience.
25
<PAGE>
- --------------------------------------------------------------------------------
Management believes that the allowance for loan losses is adequate. While
management uses available information to recognize possible loan losses, future
additions to the allowance may be necessary based on changes in economic
conditions, particularly in the Company's primary service areas, Rockland and
Westchester Counties, New York. In addition, regulatory agencies, as an integral
part of their examination process, periodically review the allowance for loan
losses. Such agencies may require additions to the allowance based on their
judgments of information available to them at the time of their examination.
As of January 1, 1995, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 114, "Accounting for Impairment of a Loan," as
amended by SFAS No. 118, "Accounting by Creditors for Impairment of a
Loan-Income Recognition and Disclosures," which requires recognition of an
impairment of a loan when it is probable that either principal and/or interest
are not collectible in accordance with the terms of the loan agreement.
Measurement of the impairment is based on the present value of expected cash
flows discounted at the loan's effective rate, at the loan's observable market
price, or the fair value of the collateral if the loan is collateral-dependent.
If the fair value of the impaired loan is less than the related recorded amount,
a specific valuation allowance is established or a write down is charged against
the allowance for loan losses if the impairment is considered to be permanent.
Small homogenous loans such as residential mortgage, home equity, and
installment loans are not separately reviewed for impaired status. Such loans
are typically collateralized by residential or other personal property and
require monthly payments. Separate allocations of the allowance for loan losses
are made based on payment trends and prior loss experience and the composition
of credit risk inherent in these loan types. The adoption of these statements
did not have a material effect on the Consolidated Financial Statements of the
Company.
Mortgage Servicing Rights: SFAS No. 122, "Accounting for Mortgage
Servicing Rights," modified the treatment of the capitalization of servicing
rights by mortgage banking enterprises. The change eliminated the separate
treatment of servicing rights acquired through loans originated and those
acquired through purchase transactions, as previously required under SFAS No.
65, "Accounting for Certain Mortgage Banking Activities." SFAS No. 122 required
mortgage servicing rights, whether acquired or originated, to be recorded as
assets distinct from the loans to which they relate. SFAS No. 122 also required
periodic evaluation of capitalized servicing rights for deterioration of value,
due to increases in prepayments and other factors. The Company's adoption of
SFAS No. 122 as of January 1, 1996 did not have a material effect on the
Consolidated Financial Statements of the Company. During 1997, SFAS No. 122 was
superseded by SFAS No. 125, which is discussed below.
Premises and Equipment: Premises and equipment are stated at cost less
accumulated depreciation and amortization. Depreciation is computed on a
straight-line basis over the estimated useful lives (20 to 50 years for
buildings and 3 to 10 years for furniture, fixtures and equipment) of the
related assets. Amortization of leasehold improvements is computed on a
straight-line basis over the term of the applicable lease or, if shorter, the
estimated useful lives of the assets.
Other Real Estate Owned (OREO): OREO includes properties acquired in
satisfaction of loans. OREO properties are recorded at the lower of cost or fair
value, less estimated costs to sell. Losses arising at the time of acquisition
of such properties are charged against the allowance for loan losses. Net costs
of maintaining and operating foreclosed properties and any subsequent provisions
for changes in valuation are charged or credited to operations when incurred.
Gains and losses realized from the sale of OREO are included in OREO
expense-net. Sales of OREO financed by the Bank are required to meet the Bank's
underwriting standards.
Accounting for Impairment of Long-Lived Assets: In 1995, the Company
adopted SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed of." This statement requires that
long-lived assets and certain identifiable intangibles, and goodwill related to
those assets, to be held and used by an entity, be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. In performing the review for recoverability,
the entity should estimate the future cash flows expected to result from the use
of the asset and its eventual disposition. If the sum of the expected future
cash flows (undiscounted and without interest charges) is less than the carrying
amount of the asset, an impairment loss is recognized. Measurement of an
impairment loss for long-lived assets and identifiable intangibles that an
entity expects to hold and use should be based on the fair value of the asset.
Adoption of this statement was not material to the Consolidated Financial
Statements of the Company.
Income Taxes: The Company accounts for income taxes under the provisions
of SFAS No. 109, "Accounting for Income Taxes." This statement establishes
financial accounting and reporting standards for the effects of income taxes
that result from an enterprise's activities during the current and preceding
years. It requires an asset and liability approach for financial accounting and
reporting for deferred income taxes based on prevailing statutory tax rates. The
Company and its subsidiaries, except USBRC, file a consolidated Federal tax
return, and the Companyand the Bank (excluding USBRC) file a combined New York
State tax return. Royal filed a separate Maryland State return.
26
<PAGE>
USB
- --------------------------------------------------------------------------------
Accounting for Stock-Based Compensation: In October 1995, the Financial
Accounting Standards Board ("FASB") issued SFAS No. 123, "Accounting for
Stock-Based Compensation." SFAS No. 123 establishes a fair value based method of
accounting for stock-based compensation plans and encourages, but does not
require, entities to adopt that method in place of the provisions of Accounting
Principles Board Opinion ("APB") No. 25, "Accounting for Stock Issued to
Employees," for all arrangements under which employees receive shares of stock
or other equity instruments of the employer or the employer incurs liabilities
to employees in amounts based on the price of the Company's stock. SFAS No. 123
requires significantly expanded disclosure in complete financial statements,
including disclosure of pro forma net income and earnings per share as if the
fair value based method were used to account for stock-based compensation, if
the intrinsic value method of APB No. 25 is retained. SFAS No. 123 also
establishes fair value as the measurement basis for transactions in which an
entity acquires goods or services from non-employees in exchange for equity
instruments. Effective January 1, 1996, the Company adopted SFAS No. 123 and has
elected to continue to measure compensation cost for employee stock compensation
plans in accordance with the provisions of APB No. 25 (see Note 17).
Earnings per Share: On March 3, 1997, the FASB issued SFAS No. 128,
"Earnings per Share." SFAS No. 128 is effective for financial statements issued
for periods ending after December 15, 1997, including interim periods. Earlier
application was not permitted. Restatement of all prior-period earnings per
share ("EPS") data presented is required when SFAS No. 128 is implemented. The
Company adopted SFAS No. 128 for the year ended December 31, 1997 and EPS data
is provided in the Consolidated Financial Statements for all years presented
based on the requirements of this statement.
SFAS No. 128 establishes standards for computing and presenting "Basic"
and "Diluted" EPS. SFAS No. 128 states that "Basic EPS" excludes dilution and is
computed by dividing net income available to common stockholders (net income
after preferred stock dividend requirements) by the weighted-average number of
common shares outstanding for the period. "Diluted EPS" reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock or resulted in the issuance of
common stock that would then share in the earnings of the entity. "Diluted EPS"
is computed similarly to "Fully Diluted EPS" pursuant to APB Opinion No. 15.
"Diluted EPS" is based on net income available to common stockholders divided by
the weighted average number of common shares outstanding and common equivalent
shares ("adjusted weighted average shares"). Stock options granted but not yet
exercised under the Company's stock option plans are considered common stock
equivalents for Diluted EPS calculations.
Transfers and Servicing of Financial Assets: SFAS No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,"
specifies accounting and reporting standards for transfers and servicing of
financial assets and extinguishments of liabilities and for distinguishing
whether a transfer of financial assets in exchange for cash or other
consideration should be accounted for as a sale or as a pledge of collateral in
a secured borrowing. SFAS No. 125 is effective for transfers and servicing of
financial assets and extinguishments of liabilities occurring after December 31,
1996, except for certain provisions (relating to the accounting for secured
borrowings and collateral, and the accounting for transfers and servicing of
repurchase agreements, dollar rolls, securities lending and similar
transactions) which have been deferred until January 1,1998, in accordance with
SFAS No. 127, "Deferral of the Effective Date of Certain Provisions of FASB
Statement No. 125." The adoption of these standards currently effective did not
have a material impact on the Company's Consolidated Financial Statements, nor
has the adoption of those provisions effective January 1, 1998 had a material
impact on the Company's Consolidated Financial Statements.
Pending Accounting Pronouncements: In September 1997, the FASB issued two
new accounting standards, SFAS No. 130, "Reporting Comprehensive Income" and
SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information." Both of these statements are effective for the Company's 1998
Consolidated Financial Statements.
SFAS No. 130 establishes standards for reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements. This statement requires that all items that are required
to be recognized under accounting standards as components of comprehensive
income be reported in a financial statement that is displayed with the same
prominence as are the financial statements. Comprehensive income is defined as
the change in equity (net assets) of a business enterprise during a period from
transactions and other events and circumstances from non-owner sources. It
includes all changes in equity during a period, except those resulting from
investments by owners and distributions to owners.
27
<PAGE>
- --------------------------------------------------------------------------------
SFAS No. 131 establishes standards for the way public business enterprises
report information about operating segments in annual financial statements and
requires that those enterprises report selected information about operating
segments in subsequent interim financial reports issued to shareholders. It also
establishes standards for related disclosure about products and services,
geographic areas, and major customers. The statement requires that a public
business enterprise report financial and descriptive information about its
reportable operating segments. Operating segments are components of an
enterprise about which separate financial information is available that is
evaluated regularly by the chief operating decision maker in deciding how to
allocate resources and assess performance. The statement requires that public
business enterprises report a measure of segment profit or loss, certain
specific revenue and expense items and segment assets. It also requires that
information be reported about revenues derived from the enterprises' products or
services, or about the countries in which the enterprises earn revenues and
holds assets, and about major customers, regardless of whether that information
is used in making operating decisions.
Both of these statements require disclosures that the Company must make in
its financial statements or notes thereto to the extent applicable. Accordingly,
implementation of these statements will not have any effect on the Company's
reported results of operation or financial condition. However, additional
information will be provided to users of these financial statements as to the
operations and financial condition of the Company.
Consolidated Statements of Cash Flows: For purposes of presenting the
Consolidated Statements of Cash Flows, cash equivalents include amounts cash and
due from banks and Federal funds sold.
Reclassifications: Certain reclassifications have been made to prior year
accounts to conform to the current year's presentation.
3. DISPOSITION OF ROYAL OAK SAVINGS BANK, F.S.B.
On December 31, 1995, the Company completed the sale of its wholly-owned
subsidiary, Royal Oak Savings Bank, F.S.B., to Monocacy Bancshares, Inc., parent
company of Taneytown Bank & Trust Company, Taneytown, Maryland. Certain assets
and liabilities of Royal, principally the investment and loan portfolios
aggregating approximately $22 million and $24 million, respectively, were
purchased by the Bank and the Company, immediately prior to the sale.
Substantially all deposits, approximating $42 million at December 31, 1995,
certain loan servicing rights and certain other assets and liabilities were
retained by Royal, as well as cash deposited by the Company and the Bank to fund
the purchase of the assets discussed above, and other net assets acquired.
The proceeds to the Company on the sale of $7.8 million, were based upon
8.5 percent of the deposits of Royal at December 31, 1995, and an agreed upon
value for other assets, liabilities and loan servicing rights, and an amount
equal to Royal's stockholder's equity at December 31, 1995. This transaction
resulted in a gain of $3.9 million, which was reduced by expenses of
approximately $400,000 incurred as a result of the sale, including legal and
accounting fees and the management bonus on such gain. The net gain after tax
approximated $2.1 million.
Under the agreement of sale, Royal will continue to service certain loans.
Also, as part of the agreement of sale, Royal leased a bank branch from the
Company, which it subsequently purchased in 1996, under an option to purchase
included in the lease agreement.
Also as part of this transaction, the Company has agreed not to compete in
a five county region of Maryland, with certain exceptions, for a period of three
years from the date of closing of the transaction.
The principal components of deposits and other assets and liabilities
assumed by the acquiror as a result of its acquisition of Royal are summarized
in the following table.
- --------------------------------------------------------------------------------
(000's)
- --------------------------------------------------------------------------------
Deposits and other liabilities assumed
by acquiror $42,841
Assets sold, other than cash and
cash equivalents (1,530)
Excess of net liabilities assumed by
acquiror over net cash and cash
equivalents transferred (3,923)
- --------------------------------------------------------------------------------
Net cash and cash equivalents transferred
to acquiror $37,388
================================================================================
28
<PAGE>
USB
- --------------------------------------------------------------------------------
4. SECURITIES
A summary of the amortized cost, fair value of securities and related gross
unrealized gains and losses at December 31, 1997 and 1996 follows:
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------
(000's)
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1997 Cost Gains Losses Value
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Available for Sale:
U.S. Treasury and government agencies $117,495 $1,067 $ 43 $118,519
Mortgage-backed securities 122,698 1,223 58 123,863
Obligations of states and political subdivisions 1,166 61 -- 1,227
Other 114 -- -- 114
- -----------------------------------------------------------------------------------------------------------
Total securities available for sale $241,473 $2,351 $ 101 $243,723
===========================================================================================================
Held to Maturity:
U. S. Treasury and government agencies $ 44,988 $ -- $ 236 $ 44,752
Mortgage-backed securities 29,791 212 142 29,861
Obligations of states and political subdivisions 62,398 2,860 -- 65,258
- -----------------------------------------------------------------------------------------------------------
Total securities held to maturity $137,177 $3,072 $ 378 $139,871
===========================================================================================================
- -----------------------------------------------------------------------------------------------------------
(000's)
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 1996 Cost Gains Losses Value
- -----------------------------------------------------------------------------------------------------------
Available for Sale:
U.S. Treasury and government agencies $ 77,037 $ 20 $1,022 $ 76,035
Mortgage-backed securities 90,543 725 741 90,527
Obligations of states and political subdivisions 1,166 29 -- 1,195
Corporate bonds 897 2 -- 899
Other 100 -- -- 100
- -----------------------------------------------------------------------------------------------------------
Total securities available for sale $169,743 $ 776 $1,763 $168,756
===========================================================================================================
Held to Maturity:
U.S. Treasury and government agencies $ 10,000 $ 3 $ -- $ 10,003
Mortgage-backed securities 9,797 10 64 9,743
Obligations of states and political subdivisions 61,222 2,178 23 63,377
- -----------------------------------------------------------------------------------------------------------
Total securities held to maturity $ 81,019 $2,191 $ 87 $ 83,123
===========================================================================================================
</TABLE>
In December 1995, the Company transferred, at fair value, securities
having a fair value of $68.8 million (amortized cost of $68.1 million) from its
"held to maturity" security portfolio to its portfolio of securities "available
for sale." This was done to enhance the Company's ability to respond to changes
in interest rates.
The securities transferred represented all of the readily marketable
securities that were previously classified as "held to maturity" at the date of
transfer, except for obligations of states and political subdivisions
securities. This transfer was made in accordance with the FASB's "A Guide to
Implementation of Statement 115 on Accounting for Certain Investments in Debt
and Equity Securities," issued in November 1995. Concurrent with the adoption of
this guidance, corporations were permitted, through December 31, 1995, to
reclassify their "available for sale" and "held to maturity" securities without
calling into question the past intent of an entity to hold securities to
maturity. The effect of this transfer, after tax, was a $.4 million increase in
shareholders' equity.
During 1997, 1996 and 1995, proceeds from sales of securities were
$112,972,000, $75,297,000, and $56,942,000, respectively. Gross gains of
$1,170,000, $866,000, and $335,000 were realized in 1997, 1996 and 1995,
respectively. Gross losses of $166,000, $47,000, and $168,000 were realized in
1997, 1996 and 1995, respectively.
29
<PAGE>
- --------------------------------------------------------------------------------
The following tables present the amortized cost of securities at December
31, 1997, distributed based on contractual maturity or earlier call date for
securities expected to be called, and unaudited weighted average yields computed
on a tax equivalent basis. Mortgage-backed securities which may have principal
prepayments are distributed to a maturity category based on estimated average
lives. Actual maturities will differ from contractual maturities because issuers
may have the right to call or prepay obligations with or without call or
prepayment penalties.
Maturities of Securities Available for Sale
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------------
(000's, except percentages)
After 1 After 5
Within But Within But Within After
1 Year 5 Years 10 Years 10 Years Total
- ----------------------------------------------------------------------------------------------------------------------------------
Amt. Yield Amt. Yield Amt. Yield Amt. Yield Amt. Yield
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury and
government agencies $ 31,000 6.67% $ 86,495 7.32% -- -- -- -- $117,495 7.15%
Mortgage-backed securities 8,066 6.93 39,700 6.43 $ 34,838 6.89% $ 40,094 7.11% 122,698 6.82
Obligations of states and
political subdivisions -- -- -- -- 1,166 7.79 -- -- 1,166 7.79
Other -- -- -- -- -- -- 114 -- 114 --
- ----------------------------------------------------------------------------------------------------------------------------------
Total Securities Available
for Sale $ 39,066 6.72% $126,195 7.04% $ 36,004 6.92% $ 40,208 7.09% $241,473 6.98%
- ----------------------------------------------------------------------------------------------------------------------------------
Fair Value $ 39,078 $127,312 $36,336 $ 40,997 $243,723
==================================================================================================================================
Maturities of Securities Held to Maturity
- ----------------------------------------------------------------------------------------------------------------------------------
(000's, except percentages)
After 1 After 5
Within But Within But Within After
1 Year 5 Years 10 Years 10 Years Total
- ----------------------------------------------------------------------------------------------------------------------------------
Amt. Yield Amt. Yield Amt. Yield Amt. Yield Amt. Yield
- ----------------------------------------------------------------------------------------------------------------------------------
U.S. Treasury and
government agencies $ 44,988 7.45% -- -- -- -- -- -- $ 44,988 7.45%
Mortgage-backed securities -- -- -- -- -- -- $ 29,791 7.21% 29,791 7.21
Obligations of states and
political subdivisions 7,077 6.78 $ 24,565 8.19% $ 30,756 8.28% -- -- 62,398 8.07
- ----------------------------------------------------------------------------------------------------------------------------------
Total Securities Held to
Maturity $ 52,065 7.36% $ 24,565 8.19% $ 30,756 8.28% $ 29,791 7.21% $137,177 7.68%
- ----------------------------------------------------------------------------------------------------------------------------------
Fair Value $ 51,848 $ 25,508 $32,654 $ 29,861 $139,871
==================================================================================================================================
</TABLE>
Securities having a total par value of approximately $288.7 million at
December 31, 1997, were pledged to secure public deposits as required or
permitted by law and securities sold under agreements to repurchase
transactions.
30
<PAGE>
USB
- --------------------------------------------------------------------------------
5. LOANS
Major classifications of loans at December 31, are as follows:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------
(000's)
1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Time and demand loans $ 31,500 $ 28,736 $ 22,597 $ 11,065 $ 9,249
Installment loans 14,086 14,685 14,887 20,757 18,698
Credit card 8,042 8,264 2,592 -- --
Real estate loans
- Commercial 309,057 267,811 212,515 192,541 145,746
- Residential 82,321 79,490 66,380 59,441 58,875
- Construction and land
development 81,733 71,289 41,889 26,950 22,748
- Home equity 32,095 28,844 25,221 21,734 19,556
Other 5,739 5,184 5,902 1,808 1,768
- --------------------------------------------------------------------------------------------
564,573 504,303 391,983 334,296 276,640
Deferred net commitment fees (906) (792) (642) (659) (664)
Unearned discount -- -- -- (67) (153)
Allowance for loan losses (7,558) (5,742) (3,904) (3,320) (2,852)
- --------------------------------------------------------------------------------------------
TOTAL $ 556,109 $ 497,769 $ 387,437 $ 330,250 $ 272,971
============================================================================================
</TABLE>
Loans held for sale of $340,000 and $274,000 at December 31, 1997 and
1996, respectively, which are included in the above table, and commitments of
$142,000 at December 31, 1996 (none at December 31,1997), which have not yet
closed, are fixed rate residential real estate loans with an aggregate cost of
$340,000 and market value of $341,000 at December 31, 1997, and a cost of
$416,000 and market value of $415,000 at December 31, 1996.
A substantial amount of the Company's commercial and residential lending
activities are with customers located in Rockland and Westchester Counties, New
York. Although lending activities are diversified, a substantial portion of many
of the Company's customers' net worth is dependent on these counties' real
estate values.
Credit policies, applicable to each type of lending activity, have been
established, to evaluate the creditworthiness of each customer and, in most
cases, require collateral to be pledged. Generally, credit extension does not
exceed 60 to 80 percent of fair value of the collateral at the date of extension
(with occasional exceptions), depending on the evaluation of the borrowers'
creditworthiness. The market value of collateral is monitored on an ongoing
basis. Real estate is the primary form of collateral. While collateral provides
assurance as a secondary source of repayment, the primary source of repayment is
ordinarily based on the borrower's ability to generate continuing cash flow,
which is a principal underwriting criteria for approving a loan.
31
<PAGE>
- --------------------------------------------------------------------------------
A summary of the allowance for loan losses for the years ended December 31, is
as follows:
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------
(000's, except percentages)
1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net loans outstanding at end of the year $556,109 $497,769 $387,437 $330,250 $272,971
- -----------------------------------------------------------------------------------------------------------------
Average net loans outstanding during the year $525,169 $444,980 $352,244 $305,411 $244,813
- -----------------------------------------------------------------------------------------------------------------
Allowance for loan losses:
Balance at beginning of the year $ 5,742 $ 3,904 $ 3,320 $ 2,852 $ 2,496
Provision charged to expense 2,320 2,275 1,200 993 763
- -----------------------------------------------------------------------------------------------------------------
8,062 6,179 4,520 3,845 3,259
- -----------------------------------------------------------------------------------------------------------------
Charge-offs and recoveries during the year:
Charge-offs:
Real estate (339) (344) (379) (469) (179)
Time and demand (3) (37) (200) (45) (139)
Installment (327) (154) (108) (94) (212)
Recoveries:
Time and demand 104 83 20 37 98
Installment 61 15 51 46 25
- -----------------------------------------------------------------------------------------------------------------
Net charge-offs during the year (504) (437) (616) (525) (407)
- -----------------------------------------------------------------------------------------------------------------
Balance at end of the year $ 7,558 $ 5,742 $ 3,904 $ 3,320 $ 2,852
- -----------------------------------------------------------------------------------------------------------------
Ratio of net charge-offs to average net loans
outstanding during the year .10% .10% .17% .17% .17%
Ratio of allowance for loan losses to net loans
outstanding at end of the year 1.36% 1.15% 1.01% 1.01% 1.04%
Ratio of provision to net charge-offs (times) 4.6 5.2 1.9 1.9 1.9
=================================================================================================================
</TABLE>
Real estate charge-offs ordinarily are incurred in connection with
transfers to OREO and, as a result, related recoveries, if any, generally reduce
OREO expense rather than being treated as a recovery of a charged-off loan.
The following table summarizes the Company's nonaccrual and restructured
loans and related interest income not recorded on nonaccrual loans for the year.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------
(000's, except percentages)
As of December 31,
1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Nonaccrual loans at year end $ 5,814 $ 8,090 $ 4,036 $ 5,904 $ 3,966
Restructured loans at year end 629 2,101 4,074 5,787 4,656
Additional interest income that would have been
recorded if these borrowers had complied
with contractual loan terms 409 840 226 500 339
Nonperforming assets to total assets .77% 1.09% .73% 1.07% .96%
=================================================================================================================
</TABLE>
Substantially all of the nonaccruing loans are collateralized by real
estate, except for certain loans made by the Bank to Bennett Funding Group (see
below), which are collateralized by cash and lease receivables. At December 31,
1997, the Company has no commitments to lend additional funds to any customers
with nonaccrual or restructured loan balances.
At December 31, 1997, there are loans aggregating approximately $150,000,
which are not on nonaccrual status, that were potential problem loans that may
result in their being placed on nonaccrual status in the future.
At December 31, 1997 and 1996, the recorded investment in loans that are
considered to be impaired under SFAS No. 114 approximated $4.6 million and $7.8
million, respectively (including those loans to Bennett Funding Group described
below), ($4.2 million and $7.2 million, respectively, of which were in
nonaccrual status). Each impaired loan has a related allowance for loan losses
determined in accordance with SFAS No. 114.
32
<PAGE>
USB
- --------------------------------------------------------------------------------
The following table summarizes impaired loans by loan type and measurement
method pursuant to SFAS 114:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------
(000's)
As of December 31,
1997 1996
Present Value Fair Value Present Value Fair Value
of expected of of expected of
cash flows Collateral cash flows Collateral
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Time and demand $ -- $ -- $ 62 $ 29
Installment -- -- -- 100
Real estate
Commercial 68 1,212 1,455 2,287
Construction and land development -- -- 420 210
Other 3,303 -- 3,276 --
- ----------------------------------------------------------------------------------------------------------
Totals $3,371 $1,212 $5,213 $2,626
==========================================================================================================
</TABLE>
Restructured loans in the amounts of $.4 million and $.6 million at
December 31, 1997 and 1996, respectively, that are considered to be impaired due
to a reduction in the contractual interest rate are on accrual status since the
collateral securing the loan is sufficient to protect the contractual principal
and interest of the restructured loans. These loans have been performing for a
reasonable period of time. Interest accrued on these loans not yet collected as
of December 31, 1997 and 1996 is immaterial. The total allowance for loan losses
specifically allocated to impaired loans was $1.8 million and $1.3 million as of
December 31, 1997 and 1996, respectively. The average recorded investment in
impaired loans for the years ended December 31, 1997 and 1996 was approximately
$6.2 million and $7.4 million, respectively. For the years ended December 31,
1997, 1996 and 1995, interest income recognized by the Company on impaired loans
was not material.
The Bank has approximately $3.3 million of outstanding loans,
collateralized by cash and lease receivables, to Bennett Funding Group
("Bennett"), a lease finance company, which filed for bankruptcy protection
during the first quarter of 1996. Collection of the Bank's loans continues to be
delayed by the bankruptcy proceedings. The Bank has not yet determined the
extent of losses, if any, that will be sustained on these loans. However, based
upon Bennett's filing, the loans have been placed on nonaccrual status and a
specific allocation included in the allowance for loan losses of $1.6 million
has been established in accordance with SFAS No. 114.
6. PREMISES AND EQUIPMENT
A summary of premises and equipment at December 31, follows:
- ----------------------------------------------------------------------
(000's)
1997 1996
- ----------------------------------------------------------------------
Land $ 2,558 $ 2,588
Buildings 6,344 6,314
Leasehold improvements 360 353
Furniture, fixtures and equipment 5,400 5,094
- ----------------------------------------------------------------------
14,662 14,349
Less accumulated depreciation and amortization 4,275 4,245
- ----------------------------------------------------------------------
Premises and equipment, net $10,387 $10,104
======================================================================
The Bank leases certain premises and equipment under noncancellable
operating leases. Certain of these lease agreements provide for periodic
increases in annual rental payments based on published price indices, renewal
options for varying periods and purchase options at amounts which are expected
to approximate the fair values of the related assets at the dates the options
are exercisable.
Rent expense for premises and equipment was $722,000 in 1997, $575,000 in
1996 and $530,000 in 1995 .
The Bank leases a portion of its corporate headquarters, and the Company
leased a bank branch facility through December 1996, to tenants under operating
leases and recorded rental income of approximately $371,000 in 1997, $525,000 in
1996 and $495,000 in 1995. The tenant of the bank branch facility purchased the
facility for the fair value of the property in December 1996.
33
<PAGE>
- --------------------------------------------------------------------------------
As of December 31, 1997, future minimum lease payments are as follows:
- -------------------------------------------------------
Year Ending December 31, (000's)
- -------------------------------------------------------
1998 $ 846
1999 849
2000 710
2001 575
2002 519
After 2002 2,339
- -------------------------------------------------------
Total minimum lease payments $5,838
=======================================================
As of December 31, 1997, future minimum lease receipts are as follows:
- -------------------------------------------------------
Year Ending December 31, (000's)
- -------------------------------------------------------
1998 $304
1999 207
2000 189
2001 41
2002 --
After 2002 --
- -------------------------------------------------------
Total minimum lease receipts $741
=======================================================
7. DEPOSITS
A summary of deposits at December 31, follows:
- --------------------------------------------------------------------------------
(000's)
1997 1996
- --------------------------------------------------------------------------------
Non-interest bearing:
Deposits of:
Individuals, partnerships and corporations $ 91,842 $ 88,202
Certified and official checks 11,694 8,092
States and political subdivisions 2,502 957
- --------------------------------------------------------------------------------
Total non-interest bearing $106,038 $ 97,251
- --------------------------------------------------------------------------------
Interest bearing:
NOW accounts $ 44,793 $ 43,193
Money market accounts 36,663 42,039
Savings deposits 243,608 216,413
Time deposits of individuals, partnerships and corporations 187,289 156,289
States and political subdivisions 128,232 78,351
IRA's and Keogh's 51,172 48,744
- --------------------------------------------------------------------------------
Total interest bearing $691,757 $585,029
- --------------------------------------------------------------------------------
Total deposits $797,795 $682,280
================================================================================
At December 31, 1997 and 1996, certificates of deposits and other time
deposits of $100,000 or more totalled $166,599,000 and $101,468,000,
respectively. Certificates of deposit and other time deposits of $100,000 or
more include deposits of states and political subdivisions which are acquired on
a bid basis. The Bank generally does not acquire brokered deposits. At December
31, 1997, such deposits classified by time remaining to maturity were as
follows:
- ----------------------------------------------
(000's)
- ----------------------------------------------
3 months or less $ 104,619
Over 3 and through 6 months 29,388
Over 6 and through 12 months 26,235
Over 12 months 6,357
- ----------------------------------------------
Total $ 166,599
==============================================
34
<PAGE>
USB
- --------------------------------------------------------------------------------
8. INCOME TAXES
The components of the provision for income taxes for the years ended
December 31, are as follows:
- ------------------------------------------------
(000's)
1997 1996 1995
- ------------------------------------------------
Federal:
Current $4,945 $4,396 $3,550
Deferred (1,144) (909) (350)
State:
Current 751 1,544 1,187
Deferred (321) (257) (76)
- ------------------------------------------------
Total $4,231 $4,774 $4,311
================================================
The income tax provision includes income taxes related to net gains on
securities transactions of approximately $414,000, $343,000, and $71,000 for the
years ended December 31, 1997, 1996 and 1995, respectively.
The tax effects of temporary differences that give rise to the significant
portions of deferred tax assets at December 31, 1997 and 1996, are as follows:
- ------------------------------------------------------
(000's)
1997 1996
- ------------------------------------------------------
Deferred tax assets, net:
Allowance for loan losses $2,755 $1,686
Deferred loan fees, net,
depreciation and other 766 457
- ------------------------------------------------------
Total deferred tax assets, net $3,521 $2,143
======================================================
In addition to amounts in the above table, the Company recorded a deferred
tax liability of $951,000 in 1997 and a deferred tax asset of $417,000 in 1996
relating to available for sale securities valued at fair value in accordance
with SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." Management believes it is more likely than not that the net
deferred tax assets will be realized.
The following is a reconciliation of the statutory Federal and effective
tax rates as a percentage of income before taxes for the years ended December
31:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------
1997 1996 1995
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Statutory Federal income tax rate 35.0% 35.0% 35.0%
Interest on obligations of states and political subdivisions (6.6) (6.7) (7.3)
State income taxes, net of Federal tax benefit 1.9 5.9 5.3
Other (1.4) (0.6) (1.4)
- --------------------------------------------------------------------------------------------
Effective tax rate 28.9% 33.6% 31.6%
============================================================================================
</TABLE>
9. BORROWINGS AND LONG-TERM DEBT
The Company utilizes borrowings primarily to meet the funding requirements
for its asset growth and to manage its interest rate risk. Short-term borrowings
include securities sold under agreements to repurchase, federal funds purchased,
and short-term Federal Home Loan Bank of New York ("FHLB") advances.
The Bank may borrow up to $50.0 million from two primary investment firms
under master security sale and repurchase agreements. At December 31, 1997 and
1996, the Bank had $34.9 million and $29.4 million of such short-term borrowings
outstanding, respectively, with terms of between 21 and 31 days in 1997, and 30
and 90 days in 1996, and at interest rates of between 5.86 percent and 6.00
percent in 1997, and 5.62 percent and 5.76 percent in 1996. The borrowings are
collateralized by securities with an aggregate amortized cost and market value
of $35.5 million and $35.6 million in 1997, and $30.2 million and $29.8 million
in 1996, respectively.
35
<PAGE>
- --------------------------------------------------------------------------------
Federal funds purchased represent overnight funds. The Bank has federal
funds purchase lines available with three financial institutions for a total of
$11.0 million. At December 31, 1997 and 1996, the Bank had no federal funds
purchased balances outstanding.
Short-term FHLB advances are borrowings with original maturities of
between one and 365 days. At December 31, 1997 and 1996, the Bank had short-term
FHLB advances of $35.0 and $5.0 million outstanding, respectively, with terms of
14 to 365 days, and at interest rates ranging from 5.63 to 6.13 percent.
Additional information with respect to short-term borrowings for the three
years ended December 31, 1997, 1996 and 1995 is presented in the table below.
The increase in short-term borrowings was used primarily to fund asset growth
and implement leverage strategies.
- -----------------------------------------------------------------------
(000's, except percentages)
Short-Term Borrowings 1997 1996 1995
- -----------------------------------------------------------------------
Balance at December 31 $69,863 $34,425 $ --
Average balance outstanding 48,765 12,611 5,321
Weighted-average interest rate*
As of December 31 6.05% 5.85% --
Paid during year 5.80% 5.67% 6.26%
=======================================================================
*The weighted-average interest rates for 1997 and 1996 have been adjusted to
reflect the effect of an interest rate swap used to convert a variable rate
borrowing to a fixed rate (see Note 16).
At December 31, 1997, long-term FHLB advances totalled $24.2 million,
compared with $25.3 million as of December 31, 1996. At December 31, 1997,
long-term FHLB advances aggregating $19.0 million are single principal payments
and are not repayable prior to maturity without penalty. Long-term FHLB advances
aggregating $5.2 million are amortizing advances having scheduled payments, but
may not be repaid in full prior to maturity without penalty.
The Bank also has long-term borrowings of $39.7 million in securities sold
under agreements to repurchase as of December 31, 1997. These borrowings include
$9.8 million having an original term of three years at an interest rate of 6.08
percent and $30.0 million having an original term of ten years at an interest
rate of 5.63 percent that is callable at the option of the counterparty to the
repurchase agreement every three months after five years from the initial date
of the transaction. The borrowings are collateralized by securities with both an
aggregate amortized cost and market value of $41.5 million.
At December 31, 1997 and 1996, the Bank has outstanding 13,723,422 and
4,238,422 shares, respectively, of capital stock in the FHLB with a carrying
value of $13.7 million and $4.2 million, respectively, which is required in
order to borrow under the short and long-term advance and securities sold under
agreements to repurchase programs from the FHLB. The Bank may borrow up to an
aggregate of 30 percent of total assets, or $307.0 million, as of December 31,
1997, excluding securities sold under agreements to repurchase, upon the
prerequisite purchase of additional shares of FHLB stock. Any advances made from
the FHLB are required to be collateralized by the FHLB stock purchased and
certain other assets of the Bank.
In May 1995, the Company repaid the $1.8 million of Series "A"
subordinated notes outstanding that qualified as Tier II capital under
risk-based capital guidelines. Interest under the notes was at the prime rate
plus one-half percent, payable quarterly. The weighted-average interest rate for
the year ended December 31, 1995 was 9.39 percent.
10. CORPORATION-OBLIGATED MANDATORY REDEEMABLE CAPITAL SECURITIES OF SUBSIDIARY
TRUST
On February 5, 1997, the Company completed its issuance of trust capital
securities (the "Capital Securities") that raised $20 million of capital ($18.8
million net proceeds after issuance expenses). The 9.58% Capital Securities, due
February 1, 2027, were issued by Union State Capital Trust I (the "Trust"), a
Delaware business trust that was formed by the Company solely to issue the
Capital Securities and related common stock, and advance the proceeds to the
Company by purchasing junior subordinated debt of the Company. The Capital
Securities may not be redeemed, except under limited circumstances, until
February 1, 2007, and thereafter at a premium which reduces over a ten year
period. Dividends are paid semiannually, on August 1 and February 1.
The following table is a summary of long-term debt distributed based upon
remaining contractual maturity at December 31, 1997, with comparative totals for
December 31, 1996 and 1995
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------
(000's, except percentages)
After 1
Within But Within After 1997 1996 1995
1 Year 5 Years 5 Years Total Total Total
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Fixed rate advances $10,000 $21,501 $32,439 $63,940 $25,267 $5,000
Variable rate advances -- -- -- -- -- 5,000
- -----------------------------------------------------------------------------------------------------------------
Total long-term debt $10,000 $21,501 $32,439 $63,940 $25,267 $10,000
- -----------------------------------------------------------------------------------------------------------------
Weighted-average interest rate 6.18% 6.12% 5.71% 5.92% 6.20% 6.17%
=================================================================================================================
</TABLE>
36
<PAGE>
USB
- --------------------------------------------------------------------------------
The Capital Securities qualify as Tier I or core capital for the Company
under the Federal Reserve Board's risk-based capital guidelines. The proceeds of
the sale of the Capital Securities are available for general corporate purposes.
In February 1997, the Company made an additional capital contribution of $14.5
million to Union State Bank and also redeemed the Company's existing outstanding
preferred stock in the amount of $3,250,000 with a portion of the proceeds of
the Capital Securities. Payments on the junior subordinated debt, which are in
turn passed through the Trust to the Capital Securities holders, will be
serviced through existing liquidity and cash flow sources of the Company. The
Company will be permitted to deduct payments on the Capital Securities under
current federal tax law.
As long as no default has occurred and is continuing, the Company has the
right under the junior subordinated indenture to defer the payment of interest
at any time or from time to time for a period not exceeding 10 consecutive
semiannual periods for any one extension (each such period an "Extension
Period"); provided, however, that no Extension Period may extend beyond the
stated maturity of the junior subordinated debt securities. During any Extension
Period, the Company may not (i) declare or pay any dividends or distributions
on, or redeem, purchase, acquire or make a liquidation payment with respect to,
any of the Company's capital stock (which includes common and preferred stock),
(ii) make any payment of principal, interest or premium, if any, on or repay,
repurchase or redeem any debt securities of the Company that rank pari passu
with or junior in interest to the junior subordinated debt securities, or (iii)
make any guarantee payments with respect to any guarantee by the Company of the
debt securities of any subsidiary of the Company if such guarantee ranks pari
passu with or junior in interest to the junior subordinated debt securities, in
each case subject to certain exceptions.
Pursuant to the terms of the documents governing the Company's junior
subordinated debt and the Capital Securities of the Trust, if the Company or its
affiliate is in default under such securities, the Company is prohibited from
repurchasing or making distributions, including dividends, on or with respect to
its common or preferred stock and from making payments on any debt or guarantees
which rank pari passu or junior to such securities.
In addition, under the terms of the indenture governing its junior
subordinated debt, the Company may not merge or consolidate with, or sell
substantially all of its assets to, any other corporation, person or entity
unless (a) the surviving corporation is a domestic corporation which expressly
assumes the Company's obligations with respect to the junior subordinated debt
and the Capital Securities and related documents, (b) there is no, and the
merger or other transaction would not cause, a default under the junior
subordinated debt, and (c) certain other conditions are met.
11. STOCKHOLDERS' EQUITY
The Company declared 10 percent stock dividends to shareholders of record
at May 31, 1996 and June 15, 1995, which were distributed on June 14, 1996 and
July 1, 1995, respectively. In addition, the Company declared two-for-one stock
splits in the form of a 100% stock dividend to stockholders of record on
Dec-ember 15, 1997 and December 13, 1996, which were distributed on December 24,
1997 and December 30, 1996, respectively. The weighted average shares
outstanding and per share amounts have been adjusted to reflect the stock
dividends and split.
The Company and the Bank's ability to pay cash dividends in the future are
restricted by various regulatory requirements. The Company's ability to pay cash
dividends to its shareholders is primarily dependent upon the receipt of
dividends from the Bank. The Bank's dividends to the Company may not exceed the
sum of the Bank's net income for that year and its undistributed net income for
the preceding two years, less any required transfers to additional paid-in
capital. At December 31, 1997, the Bank could pay dividends to the Company of
$20.2 million without having to obtain prior regulatory approval.
The Company may not pay dividends on its common stock or preferred stock
if it is in default with respect to the Capital Securities or related junior
subordinated debt, or if the Company elects to defer payment for up to five
years as permitted under the terms of the Capital Securities and related junior
subordinated debt (see Note 10). In addition, the Company could not pay
dividends on its common stock if it was in default of the terms of its preferred
stock, all of which was redeemed in February 1997 (see below).
In December 1993, the Company implemented a Dividend Reinvestment Plan
("DRIP"). The DRIP allows stockholders to invest cash dividends in shares of the
Company's common stock at fair value and, in the third quarter of 1994, a stock
purchase feature was added to allow stockholders to purchase additional common
stock at fair value of up to $2,500 per quarter. The DRIP was suspended for
dividends paid after January 1, 1996. As of December 31, 1997, 200,000 shares of
common stock are authorized for issuance in connection with the DRIP, of which
98,020 shares have been issued.
The dividend rate on the Company's Series "A" nonvoting preferred stock
issued to a single investor was determined quarterly and was subject to certain
minimum and maximum
37
<PAGE>
- --------------------------------------------------------------------------------
per annum dividend rates. The weighted average dividend was at the minimum rate
of 8.4 percent for 1997, 1996 and 1995. The dividend rate was also subject to
adjustment in the event of changes in the maximum Federal corporate tax rate or
the dividend exclusion rate. Dividends payable on account of the preferred
shares were cumulative. In the event of a liquidation of the Company, preferred
stockholders would be entitled to receive the stated value of their shares
before any payments were made to holders of any other class or series of capital
stock of the Company. In 1996, $500,000 of the preferred stock was redeemed by
the Company at stated value. The Company redeemed the remaining outstanding
amount of $3,250,000 of preferred stock at stated value on February 14,1997.
The Company sold 11,250 shares, 5,000 shares and 4,400 shares of treasury
stock in February 1997, September 1997 and December 1997, respectively. These
shares were purchased by the Company's Employee Stock Ownership Plan (With Code
Section 401(k) Provisions) and the Bank's Key Employees' Supplemental Investment
Plan ("KESIP") at fair value. In addition, the Company purchased 5,000 common
shares at fair value for the treasury in March 1997.
In connection with the Bank's KESIP, amounts deferred by participating
employees and the Bank's contributions are invested, in part, in Company stock.
Such investment in Company stock of $1.4 million is shown as a reduction of
stockholder's equity.
12. REGULATORY MATTERS
The Company and Bank are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory -- and possibly
additional discretionary -actions by regulators that, if undertaken, could have
a direct material effect on the Company's financial statements. Under capital
adequacy guidelines and, with respect to the Bank the regulatory framework for
prompt corrective action, the Company and Bank must meet or exceed specific
capital guidelines that involve quantitative measures of the Company's and the
Bank's assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The Company's and Bank's capital amounts
and classification are also subject to qualitative judgments by the regulators
about components, risk weightings and other factors.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------------
(000's, except percentages) Minimum
Minimum To Be Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Provisions
- ---------------------------------------------------------------------------------------------------------------------
Company Amount Ratio Amount Ratio Amount Ratio
- ---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1997
Total Capital (to Risk Weighted Assets) $88,819 13.80% $51,483 >=8.0% N/A N/A
Tier I Capital (to Risk Weighted Assets) 81,261 12.63% 25,741 >=4.0% N/A N/A
Tier I Capital (to Average Assets) 81,261 8.26% 39,368 >=4.0% N/A N/A
As of December 31, 1996
Total Capital (to Risk Weighted Assets) $62,947 11.50% $43,812 >=8.0% N/A N/A
Tier I Capital (to Risk Weighted Assets) 57,205 10.45% 21,906 >=4.0% N/A N/A
Tier I Capital (to Average Assets) 57,205 7.06% 32,392 >=4.0% N/A N/A
- ---------------------------------------------------------------------------------------------------------------------
Bank
- ---------------------------------------------------------------------------------------------------------------------
As of December 31, 1997
Total Capital (to Risk Weighted Assets) $87,166 13.55% $51,470 >=8.0% $64,337 >=10.0%
Tier I Capital (to Risk Weighted Assets) 79,471 12.35% 25,735 >=4.0% 38,602 >=6.0%
Tier I Capital (to Average Assets) 79,471 8.09% 39,295 >=4.0% 49,119 >=5.0%
As of December 31, 1996
Total Capital (to Risk Weighted Assets) $62,389 11.41% $43,728 >=8.0% $54,660 >=10.0%
Tier I Capital (to Risk Weighted Assets) 56,647 10.36% 21,864 >=4.0% 32,796 >=6.0%
Tier I Capital (to Average Assets) 56,647 7.01% 32,346 >=4.0% 40,432 >=5.0%
=====================================================================================================================
N/A- Not Applicable
- ---------------------------------------------------------------------------------------------------------------------
</TABLE>
Capital ratios are computed excluding unrealized gains or losses on
available for sale securities, net of tax effect, which is included as a
component of stockholders' equity for financial reporting purposes.
38
<PAGE>
USB
- --------------------------------------------------------------------------------
Quantitative measures established by regulation to ensure capital adequacy
require the Company and Bank to maintain or exceed minimum amounts and ratios
(set forth in the tables on page 38) of Total and Tier I capital (as defined in
the regulations) to risk-weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). Management believes, as of December 31,
1997, that the Company and Bank meet all capital adequacy requirements to which
it is subject, and is considered well capitalized under regulatory guidelines.
As of December 31, 1997, the most recent notification from the Federal
Deposit Insurance Corporation categorized the Bank as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Bank must maintain or exceed minimum total risk-based, Tier I
risk-based, and Tier I leverage ratios as set forth in the tables on page 38.
There are no conditions or events since that notification that management
believes have changed the Bank's category.
13. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted
earnings per share:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------
(000's, except share amounts)
1997 1996 1995
- ----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Numerator:
Net income $10,402 $9,414 $9,327
Less preferred stock dividends 45 294 315
- ----------------------------------------------------------------------------------------------------------------------------
Numerator for basic and diluted earnings per share - net income available
to common stockholders $10,357 $9,120 $9,012
============================================================================================================================
Denominator:
Denominator for basic earnings per share - weighted average shares 12,401,562 12,330,222* 12,117,283*
Effects of dilutive securities:
Director and employee stock options 1,121,620 695,772* 492,233*
- ----------------------------------------------------------------------------------------------------------------------------
Denominator for diluted earnings per share - adjusted weighted-average shares 13,523,182 13,025,994* 12,609,516*
============================================================================================================================
Basic earnings per share $.84 $.74* $.74*
Diluted earnings per share $.77 $.70* $.71*
============================================================================================================================
</TABLE>
* Adjusted for stock split in December 1997.
Note 17 discusses the Company's director and employee stock option plans.
14. ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments," as
amended by SFAS No. 119, "Disclosure about Derivative Financial Instruments and
Fair Value of Financial Instruments," requires disclosure of the estimated fair
values for certain financial instruments. The estimated fair values disclosed
below are as of December 31, 1997 and 1996, and have been determined using
available market information and various valuation estimation methodologies.
Considerable judgment is required to interpret the effects on fair value of such
items as future expected loss experience, current economic conditions, risk
characteristics of various financial instruments and other factors. The
estimates presented herein are not necessarily indicative of the amounts that
the Company would realize in a current market exchange. Also, the use of
different market assumptions and /or estimation methodologies may have a
material effect on the determination of the estimated fair values.
The fair value estimates presented below are based on pertinent
information available to the Company as of December 31, 1997 and 1996. Although
the Company is not aware of any factors that would significantly affect the
estimated fair value amounts, such amounts have not been comprehensively
revalued since December 31, 1997 and 1996, and therefore, current estimates of
fair value may differ significantly from the amounts presented below.
Fair value methods and assumptions are as follows:
Cash, Cash Equivalents and Other Short-Term Investments - The carrying
amount is a reasonable estimate of fair value.
Securities and Accrued Interest Receivable- The fair value of securities
is estimated based on quoted market prices or dealer quotes, if available. If a
quote is not available, fair value is estimated using quoted market prices for
similar securities. Accrued interest is stated at its carrying amount.
39
<PAGE>
- --------------------------------------------------------------------------------
Loans, Loans Held for Sale and Accrued Interest Receivable - For certain
homogeneous fixed rate categories of loans, such as residential mortgages, fair
value is estimated using quoted market prices for securities backed by similar
loans. The fair value of other fixed rate loans has been estimated by
discounting projected cash flows using current rates for similar loans with
equivalent credit risk. For loans for which there has been no impairment in
credit risk and which reprice frequently to market rates, the carrying amount is
a reasonable estimate of fair value. The fair value of impaired and nonaccrual
loans is estimated by reducing such amounts by specific and general loan loss
allowances. Accrued interest is stated at its carrying amount.
Deposits Without Stated Maturities - Under the provisions of SFAS No. 107,
the estimated fair value of deposits with no stated maturity, such as
non-interest bearing demand deposits, NOW accounts, money market and savings
accounts, is equal to the amount payable on demand.
Time Deposits and Accrued Interest Payable - The fair value of
certificates of deposits is based on the discounted value of contractual cash
flows. The discount rate is estimated using the rates currently offered at the
reporting date for deposits of similar remaining maturities. Accrued interest
payable is stated at its carrying amount.
Securities Sold Under Agreements to Repurchase, Federal Home Loan Bank
Advances and Corporation-Obligated Mandatory Redeemable Capital Securities of
Subsidiary Trust, and Accrued Interest Payable - The carrying amount is a
reasonable estimate of fair value for borrowings which are either short-term or
for which applicable interest rates reprice based upon changes in market rates.
For medium and long-term borrowings, fair value is based on the discounted cash
flow of borrowings at rates currently offered at the balance sheet date for
similar terms. Accrued interest payable is stated at its carrying amount.
Financial Instruments with Off-Balance Sheet Risk - As described in Note
16, the Company is a party to financial instruments with off-balance sheet risk
at December 31, 1997 and 1996. Such financial instruments include commitments to
extend permanent financing and letters of credit. If the commitments are
exercised by the prospective borrowers, these financial instruments will become
interest-earning assets of the Company. If the commitments expire, the Company
retains any fees paid by the counterparty in order to obtain the commitment or
guarantee. The fair value of commitments is estimated based upon fees currently
charged to enter into similar agreements, taking into account the remaining
terms of the agreements and the present creditworthiness of the counterparties.
For fixed rate commitments, the fair value estimation takes into consideration
an interest rate risk factor. The fair value of guarantees and letters of credit
is based on fees currently charged for similar agreements. The fair value of
these off-balance sheet items at December 31, 1997 and 1996, respectively,
approximates the recorded amounts of the related fees, which are not material to
the consolidated financial position of the Company. The Company also has off
balance sheet interest rate contracts which are further described in Note 16.
The fair value of these contracts is not material at December 31, 1997 and 1996.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
As of December 31,
1997 1996
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Assets: (In millions)
Cash, cash equivalents and other
short-term investments $ 45.4 $ 45.4 $ 29.7 $ 29.7
Securities and accrued interest receivable 384.6 387.3 252.3 254.4
Loans, loans held for sale and accrued interest
receivable 559.7 562.4 501.1 501.3
Liabilities:
Deposits without stated maturities 439.3 439.3 415.5 415.5
Time deposits and accrued interest payable 361.0 361.7 268.5 268.7
Securities sold under agreements to repurchase
and accrued interest payable 74.9 76.3 29.6 29.6
Federal Home Loan Bank advances
and accrued interest payable 59.3 60.7 30.4 30.3
Corporation - Obligated mandatory redeemable
capital securities of subsidiary trust and accrued
interest payable 20.8 22.6 -- --
===================================================================================================================
</TABLE>
40
<PAGE>
USB
- --------------------------------------------------------------------------------
15. RELATED PARTY TRANSACTIONS
A summary of the transactions for the year ended December 31, 1997, with
respect to loans (in excess of $60,000 with respect to each party) to directors,
senior executive officers, stockholders or companies in which they had a 10
percent or more beneficial interest is as follows:
- -------------------------------------------------------------------------
(000's)
- -------------------------------------------------------------------------
Balance December 31, 1996 $843
New loans 53
Repayments 97
- -------------------------------------------------------------------------
Balance, December 31, 1997 $799
=========================================================================
The Company has made payments to organizations in which certain directors have a
beneficial interest for services rendered by such organizations. Such payments
are not considered to be material in the aggregate.
16. COMMITMENTS AND CONTINGENCIES
At December 31, 1997, the Company and Bank are committed under an
employment agreement with a key officer, director and shareholder requiring
annual salary and other payments of $430,000, increasing annually by $30,000
during the term of the contract, annual bonus payments equal to 6 percent of net
income of the Company under the executive compensation plan, annual stock option
grants of 96,800 shares, issued at fair value (110 percent of fair value for
incentive stock options if the key officer's ownership of the Company equals or
exceeds 10 percent at the date of grant) and other benefits for the term of the
contract expiring July 1, 1999.
In the normal course of business, various commitments to extend credit are
made which are not reflected in the accompanying Consolidated Financial
Statements. At December 31, 1997 and 1996, formal credit line and loan
commitments which are primarily loans collateralized by real estate and credit
card lines approximated $153.8 million and $111.6 million, and outstanding
letters of credit totalled $24.3 million and $15.9 million, respectively. Such
amounts represent the maximum risk of loss on these commitments.
During 1997, 1996 and 1995, the Banks, which are approved Federal Home
Loan Mortgage Corporation ("FHLMC") seller/servicers, sold mortgage loans to
FHLMC, with net proceeds totalling $1.1 million, $.6 million and $4.1million,
respectively. At December 31, 1997, the principal balance of the loans sold and
exchanged which remain uncollected totalled $75.0 million. The Bank is committed
to service these loans.
In connection with its asset and liability management program, the Bank
entered into a protected rate agreement ("cap") which has a remaining aggregate
notional amount of $2.5 million at December 31, 1997 ($3.0 million at December
31, 1996). The premium paid in the amount of $85,000 is deferred and is being
amortized over the five year life of the cap which expires in 1999. Under the
terms of the cap, the Bank will be reimbursed for increases in one-month LIBOR
for any month during the term of the agreement in which such rate exceeds the
"strike level" of 8.1875%. Interest rate cap agreements allow the Bank to limit
its exposure to unfavorable interest rate fluctuations over and above the
"capped" rate. The purchased cap hedges income payments from a mortgage-backed
security with an interest rate adjusted annually to the one year Constant
Maturity Treasury rate. The Bank has also entered into an interest rate swap
contract, which effectively adjusts the short-term interest rate on a security
sold under agreement to repurchase borrowing to a long-term fixed interest rate.
Under the terms of the contract, the Bank is required to pay a fixed interest
rate payment equal to 6.16% of a notional amount of $10.0 million, and receive a
payment equal to three-month LIBOR. The agreement expires on October 2 ,1998.
These agreements are subject to the counter-party's ability to perform in
accordance with the terms of the agreement. The Bank's risk of loss on the
interest rate cap is equal to the unamortized premium paid to enter into this
agreement, while the risk of loss on the interest rate swap is the fair value
amount to be paid to terminate the contract, which was $37,000 (liability) at
December 31, 1997.
The Bank enters into forward commitments to sell residential first
mortgage loans to reduce market risk associated with originating and holding
loans for sale. A risk associated with these commitments arises from the Bank's
potential inability to generate loans to fulfill the contracts. To control the
risk associated with changes in interest rates, the Bank may also use options to
hedge loans closed and expected to close. No such contracts were outstanding at
December 31, 1997 and 1996.
In the ordinary course of business, the Company is party to various legal
proceedings, none of which, in the opinion of management, will have a material
effect on the Company's consolidated financial position or results of
operations.
The Bank is required to report deposits directly to the Federal Reserve
and to maintain reserves on a portion of these deposits. At December 31, 1997,
the reserve requirement for the Bank totalled $11.3 million.
41
<PAGE>
- --------------------------------------------------------------------------------
17. EMPLOYEE BENEFIT PLANS
Executive Compensation Plan
The Company provides an executive compensation plan whereby certain key
officers (two of whom are directors and shareholders at December 31, 1997) are
entitled to compensation in addition to their salaries at varying percentages of
the Company's or Bank's (as defined) net income. The total amount of such
additional compensation cannot exceed 15 percent of the Company's net income in
any year. During 1997, 1996 and 1995, such additional compensation aggregated
$1,166,000, $989,000 and $963,000, respectively.
Employee Stock Ownership Plan (With Code Section 401(k) Provisions)
The Company maintains for the benefit of its employees an Employee Stock
Ownership Plan (with Code Section 401(k) Provisions) ("KSOP"). Under the ESOP
feature, covering substantially all of the Bank's full-time employees, the
annual contribution determined by the Board of Directors, intended to be
invested primarily in the Company's common stock, was $240,000, $180,000, and
$120,000 for the years ended December 31, 1997, 1996 and 1995, respectively. The
401(k) feature of the KSOP allows eligible employees of the Bank and its
affiliates to elect either to invest their voluntary contributions in a fund
which purchases common stock of the Company or in six other investment funds.
Employees may elect to defer, through voluntary contributions, up to fifteen
percent of compensation, and the Company can elect to match fifty percent of the
employee's voluntary contributions up to a maximum of four percent of the
employee's compensation. Employer matching contributions for the years ended
December 31,1997, 1996 and 1995, aggregated $254,000, $200,000, and $165,000,
respectively.
Key Employees' Supplemental Investment Plan
The Bank also maintains a Key Employees' Supplemental Investment Plan
("KESIP"). The KESIP was established solely for the purpose of providing, to
certain key management personnel who participate in the KSOP, benefits
attributable to contribution allocations which would otherwise be made under the
KSOP but for Internal Revenue limitations. Under the KESIP, salary reduction
contributions may be made in excess of the limitations on annual contributions
imposed by the Internal Revenue Code Section 415, and the Bank may elect to
match fifty percent of the employee's voluntary contribution under the KESIP up
to a maximum of 4 percent of compensation (less the amount of the employer
matching contribution under the KSOP). The Bank also contributes an amount
equivalent to the ESOP (optional) contribution that would otherwise have been
made to participating employees in the KSOP had it not been for IRS limitations.
The Bank's matching and optional contributions under the KESIP for the years
ended December 31, 1997, 1996 and 1995 was $105,000, $41,000, and $31,000,
respectively.
STOCK OPTION PLANS
The Company provides fixed stock option plans to the Company's Board of
Directors and certain employees, which are described below, for the purchase of
Company common stock at prices at least equal to the fair market value of the
Company's common stock on the date of grant. As discussed in Note 2, SFAS No.
123 defines a fair value based method of measuring stock options or similar
equity instruments. However, this statement allows a corporation to continue to
follow APB No. 25 which does not require compensation expense to be recorded if,
at the grant date, the exercise price of the options is at least equal to the
fair market value of a corporation's common stock. The Company has elected to
continue to report under APB No. 25, and therefore, as required by SFAS No. 123,
must provide pro forma disclosures of the difference between compensation
expense included in net income as prescribed by APB No. 25 and the related
expense measured by the fair value based method as defined by SFAS No. 123. The
required disclosure is presented below.
Pro forma information on the Company's net income and basic and diluted
earnings per share as required by SFAS No. 123 has been determined as if the
Company had accounted for its stock options under the fair value method of that
standard. The fair value for these options was estimated at the date of grant
using a Black-Scholes option-pricing model and is recognized over the options'
vesting period. The following table compares the Company's net income and basic
and diluted earnings per share, as reported, to the pro forma results as if the
fair value method of accounting for options prescribed by SFAS No. 123 had been
applied for the years ended December 31, 1997, 1996 and 1995. During the
phase-in period of applying SFAS No. 123, the effect on pro forma net income may
not be representative of compensation expense for future years when the impact
of the amortization of multiple option grants would be reflected in the pro
forma disclosures.
42
<PAGE>
USB
- --------------------------------------------------------------------------------
- -------------------------------------------------------------------
(000's, except share data)
Year Ended
December 31,
1997 1996 1995
- -------------------------------------------------------------------
Net income As reported $10,402 $9,414 $9,327
Pro forma 8,985 8,914 8,981
Basic earnings As reported $ .84 $ .74 $ .74
per share Pro forma .72 .70 .72
Diluted earnings As reported $ .77 $ .70 $ .71
per share Pro forma .66 .66 .69
===================================================================
Director Stock Option Plan
In 1989, the stockholders of the Company approved a Director Stock Option
Plan (the "Director Plan") for an aggregate of 630,994 shares (after adjustment
for stock splits and dividends) of the Company's common stock to be issued to
all non-employee members of the Company's Board of Directors. Under the terms of
the Director Plan, each eligible director will automatically receive annually,
effective as of the close of each annual meeting of stockholders of the Company,
a nonqualified option (after adjustment for stock splits and dividends) to
purchase 16,940 shares of common stock at an exercise price equal to the fair
market value of such shares on the date of the grant. The Director Plan has a
term of ten years. Options may not be exercised prior to the first anniversary
of the date of grant and expire ten years after the date of grant. There were
88,424 shares remaining to be granted at December 31, 1997 under the Director
Plan.
A summary of the Director Plan activity and related information for the
years ended December 31, 1997, 1996 and 1995, follows:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
1997 1996 1995
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at January 1 331,863 $ 4.69 247,163 $ 3.88 188,964 $ 3.01
Granted 84,700 15.16 84,700 7.05 84,700 5.27
Exercised (20,016) 2.39 -- -- (26,501) 2.12
- ------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------
Outstanding at December 31 396,547 $ 7.04 331,863 $ 4.69 247,163 $ 3.88
Exercisable at December 31 311,847 $ 4.84 247,163 $ 3.88 162,463 $ 3.16
Weighted-average fair value of
options granted during the year $ 6.22 $ 2.23 $ 1.66
==================================================================================================================
</TABLE>
The fair value of each option grant is estimated on the date of grant using a
Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1997, 1996 and 1995, respectively: dividend
yields of 1.29, 2.00 and 2.00 percent; volatility factors of the expected market
price of the Company's common stock of 35.91, 27.62 and 27.62 percent; risk-
free interest rates of 6.58, 6.45 and 6.34 percent; and expected lives of 6.01,
5.81 and 5.81 years.
The following table summarizes the range of exercise prices on stock
options outstanding and exercisable for the Director Plan at December 31, 1997:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------
Options Outstanding Options Exercisable
Weighted-
Average Weighted- Weighted-
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 2.06 to $ 7.05 311,847 6.53 years $ 4.84 311,847 $ 4.84
15.16 to 15.16 84,700 9.42 15.16 -- --
- --------------------------------------------------------------------------------------------
$ 2.06 to $ 15.16 396,547 7.15 $ 7.04 311,847 $ 4.84
============================================================================================
</TABLE>
43
<PAGE>
- --------------------------------------------------------------------------------
Employee Stock Option Plans
Under the 1984 and 1993 Incentive Stock Option Plans and the 1997 Employee
Stock Option Plan for key employees of the Company and its subsidiaries (the
"Employee Stock Option Plans"), options for the issuance of both incentive and
nonqualified stock options up to an aggregate of 787,102 shares, 1,064,800
shares and 1,200,000 shares (after adjustment for stocks splits and stock
dividends), respectively, were authorized for grant at prices at least equal to
the fair market value of the Company's common stock at the time the options are
granted (for incentive stock options, 110 percent of fair value, for grants to
an employee who, at the time of the grant, owns stock aggregating more than 10
percent of the combined voting power of all classes of stock of the Company).
Each option holder may exercise up to 50 percent of their options after a three
month period subsequent to the grant date and may exercise the remaining 50
percent six months after the grant date. The options granted have a maximum
exercisable term of ten years from the date of grant, (not more than five years
in the case of incentive stock options granted to an employee who, at the time
of grant, owns stock aggregating more than 10 percent of the total combined
voting power of all classes of stock of the Company). The option shares and
related prices are adjusted for stock splits and stock dividends. Shares
totalling 128,734 have been granted under the 1997 Employee Stock Option Plan,
and 1,071,266 shares remain available for grant under this plan. No additional
shares will be granted under the 1984 and 1993 Incentive Stock Option Plans.
The fair value of each option grant is estimated on the date of grant
using a Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1997, 1996 and 1995, respectively: dividend
yields of 1.29, 2.00 and 2.00 percent; volatility factors of the expected market
price of the Company's common stock of 35.91, 27.62 and 27.62 percent; risk-free
interest rates of 6.38, 6.43 and 5.90 percent and expected lives of 5.81, 5.58
and 5.58 years.
A summary of the Employee Stock Option Plans' activity and related
information for the years ended December 31, 1997, 1996 and 1995, follows:
<TABLE>
<CAPTION>
1997 1996 1995
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
<S> <C> <C> <C> <C> <C> <C>
Outstanding at January 1 1,251,658 $ 4.29 1,010,642 $ 3.56 953,094 $ 2.87
Granted 253,880 16.73 253,880 7.08 244,420 5.53
Exercised (20,604) 2.01 (12,864) 2.44 (186,872) 2.64
Outstanding at December 31 1,484,934 $ 6.44 1,251,658 $ 4.29 1,010,642 $ 3.56
Exercisable at December 31 1,484,934 $ 6.44 1,251,658 $ 4.29 1,010,642 $ 3.56
Weighted-average fair value of
options granted during the year $ 6.68 $ 2.03 $ 1.53
</TABLE>
The following table summarizes the range of exercise prices on stock
options outstanding and exercisable under the Employee Stock Option Plans at
December 31, 1997:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------
Options Outstanding Options Exercisable
Weighted-
Average Weighted- Weighted-
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
- --------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$2.11 to $ 7.50 1,231,054 4.62 years $ 4.32 1,231,054 $ 4.32
16.69 to 18. 36 253,880 9.38 16.73 253,880 16.73
- --------------------------------------------------------------------------------------
$2.11 to $18.36 1,484,934 5.43 $ 6.44 1,484,934 $ 6.44
======================================================================================
</TABLE>
44
<PAGE>
USB
- --------------------------------------------------------------------------------
18. CONDENSED FINANCIAL INFORMATION OF U.S.B.HOLDING CO., INC. (PARENT COMPANY
ONLY)
Condensed statements of condition are as follows:
- ----------------------------------------------------------------------
(000's)
December 31,
1997 1996
- ----------------------------------------------------------------------
ASSETS
Cash $ 1,148 $ 832
Securities (at fair value) 78 63
Investment in common stock of subsidiaries 80,986 56,308
Real estate 228 258
Other assets 3,299 726
- ----------------------------------------------------------------------
TOTAL ASSETS $85,739 $58,187
======================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Other liabilities $ 1,659 $ 1,321
Corporation - Obligated mandatory redeemable
capital securities of subsidiary trust 20,000 --
Stockholders' equity 64,080 56,866
- ----------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $85,739 $58,187
======================================================================
<TABLE>
<CAPTION>
(000's)
Condensed statements of income are as follows: Year Ended December 31,
- ---------------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Income:
Dividends from Bank subsidiaries $ 4,500 $1,750 $3,150
Gain on sale of available for sale securities -- 41 26
Net gain on sale of Royal Oak Savings Bank, F.S.B -- -- 3,520
Net gain on sale of branch facility -- 600 --
Other income 1 142 --
- ---------------------------------------------------------------------------------------------------
Total income 4,501 2,533 6,696
- ---------------------------------------------------------------------------------------------------
Expenses:
Interest on:
Long-term debt -- -- 64
Corporation - Obligated mandatory redeemable capital
securities of subsidiary trust 1,771 -- --
Other expenses 573 428 355
- ---------------------------------------------------------------------------------------------------
Total expenses 2,344 428 419
- ---------------------------------------------------------------------------------------------------
Income before equity in undistributed income of subsidiaries
and provision for income taxes 2,157 2,105 6,277
Equity in undistributed income of subsidiaries 8,321 7,568 4,465
Provision for income taxes 76 259 1,415
- ---------------------------------------------------------------------------------------------------
NET INCOME $10,402 $9,414 $9,327
===================================================================================================
</TABLE>
45
<PAGE>
- --------------------------------------------------------------------------------
Condensed statements of cash flow are as follows:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------
(000's)
Year Ended December 31,
1997 1996 1995
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Operating activities:
Net income $ 10,402 $ 9,414 $ 9,327
Adjustments to reconcile net income to net cash provided by
(used for) operating activities:
Gain on sale of available for sale securities -- (41) (26)
Net gain on sale of Royal Oak Savings Bank, F.S.B -- -- (3,520)
Net gain on sale of branch facility -- (600) --
Equity in undistributed income of subsidiaries (8,321) (7,568) (4,465)
Other - net (1,014) (2,061) 1,895
- ----------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for) operating activities 1,067 (856) 3,211
- ----------------------------------------------------------------------------------------------------------------------
Investing activities:
Proceeds from sale of available for sale securities -- 59 41
Purchase of available for sale securities (15) (59) --
Proceeds from sale of Royal Oak Savings
Bank, F.S.B., net of expenses of sale -- -- 7,420
Proceeds from sale of branch facility -- 900 --
Net increase in investment in subsidiary (14,500) -- (5,889)
Other - net -- 12 (311)
- ----------------------------------------------------------------------------------------------------------------------
Net cash (used for) provided by investing activities (14,515) 912 1,261
- ----------------------------------------------------------------------------------------------------------------------
Financing activities:
Repayment of long-term debt qualifying as
regulatory capital -- -- (1,800)
Dividends paid - Common (2,357) (1,838) (1,659)
- Preferred (34) (294) (315)
Net proceeds from issuance of Corporation - Obligated
mandatory redeemable capital securities of subsidiary trust 18,810 -- --
Redemption of preferred stock (3,250) (500) --
Net proceeds from issuances of common stock and tax benefit
of stock options 231 19 1,858
Proceeds from sale of treasury stock 469 440 --
Purchase of treasury stock (105) -- --
- ----------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for) financing activities 13,764 (2,173) (1,916)
- ----------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash 316 (2,117) 2,556
Cash, beginning of year 832 2,949 393
- ----------------------------------------------------------------------------------------------------------------------
Cash, end of year $ 1,148 $ 832 $ 2,949
======================================================================================================================
</TABLE>
19. SUBSEQUENT EVENT- ACQUISITION OF TAPPAN ZEE
FINANCIAL, INC.
On March 6, 1998, the Company and Tappan Zee Financial, Inc. ("Tappan
Zee"), the parent company of Tarrytowns Bank FSB, jointly announced that they
have signed a definitive agreement pursuant to which they will enter into a
business combination. The transaction is intended to be a tax free exchange of
common shares and will be accounted for as a pooling of interests. Tappan Zee
will be merged into the Company and Tarrytowns Bank FSB will operate as a
wholly-owned subsidiary of the Company.
Under the terms of the agreement each Tappan Zee shareholder will receive
Company common stock that is anticipated to have a value of $22.00 per share for
each Tappan Zee share. The exchange ratio will be finalized after all regulatory
approvals are received. The minimum exchange ratio will be .88 Company shares
for each Tappan Zee share if the Company's common stock has a value of $25.00
per share, or higher, and subject to the exception below, the maximum exchange
ratio will be 1.24 Company
46
<PAGE>
USB
- --------------------------------------------------------------------------------
shares for each Tappan Zee share if the Company's common stock has a value of
$17.75, or lower. If the Company's common stock has a value of between $17.75
and $25.00 per share, the exchange ratio will be established to provide a value
to Tappan Zee shareholders of $22.00 per share. If the Company's common stock
falls below $15.00 per share, Tappan Zee will have the right to terminate the
transaction subject to the Company's right to adjust the exchange ratio so as to
assure that Tappan Zee shareholders receive a value of $18.60 per Tappan Zee
share. Based on the Company's closing price per common share on March 6, 1998,
of $22.25 per share, each Tappan Zee share would be exchanged for 0.99 shares of
Company common stock. Also on this basis, the total value of the transaction is
approximately $33.8 million, which represents 1.51 times Tappan Zee's book value
as of December 31, 1997, and a premium of 14% over Tappan Zee's market price on
March 6, 1998.
As of December 31, 1997, Tappan Zee has approximately $126 million in
assets and operates a single banking facility in the Village of Tarrytown,
Westchester County, New York. Had the business combination occurred as of
December 31,1997, the Company would have had approximately $1.15 billion in
assets. After an acquisition charge of approximately $3 million to $3.5 million
(net of tax) in 1998, the transaction is expected to be accretive to earnings
per share in 1999.
The acquisition is contingent upon the satisfaction of necessary bank
regulatory approvals, the approval of the shareholders of Tappan Zee and other
customary conditions. The parties anticipate that the merger will be consummated
in the third quarter of 1998.
In connection with the merger agreement, Tappan Zee has granted USB an
option, exercisable under certain circumstances, to purchase 294,134 shares, or
19.9%, of Tappan Zee's currently outstanding common stock.
47
<PAGE>
Independant Auditor's Report
USB
- --------------------------------------------------------------------------------
Deloitte & Touche LLP
- ---------------------
[COMPANY LOGO]
To the Board of Directors and Stockholders
U.S.B. Holding Co., Inc.
We have audited the accompanying consolidated statements of condition of U.S.B.
Holding Co., Inc. and its subsidiaries (the "Company") as of December 31, 1997
and 1996 and the related consolidated statements of income, changes in
stockholders' equity and cash flows for each of the three years in the period
ended December 31,1997. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of U.S.B. Holding Co.,
Inc. and its subsidiaries as of December 31, 1997 and 1996, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 1997 in conformity with generally accepted accounting
principles.
/s/ Deloitte & Touche LLP
January 28, 1998 (March 6, 1998 as to Note 19)
Stamford, Connecticut
48
<PAGE>
USB
- --------------------------------------------------------------------------------
January 28, 1998
To the Stockholders
U.S.B. Holding Co., Inc.
Re: 1997 Management Report
U.S.B. Holding Co., Inc. (the "Company") is responsible for the preparation,
integrity, and fair presentation of its published financial statements as of
December 31, 1997 and for the year then ended. The consolidated financial
statements have been prepared in accordance with generally accepted accounting
principles and, as such, include amounts based on informed judgments and
estimates made by management.
The consolidated financial statements have been audited by an independent
accounting firm, Deloitte & Touche LLP, which was given unrestricted access to
management and personnel, and to all financial records and related data,
including minutes of all meetings of stockholders, the Board of Directors, and
committees of the Board. Management believes that all representations made to
the independent auditors during their audit were valid and appropriate. The
independent auditors' report is presented on page 48.
Internal Control
Management is responsible for establishing and maintaining internal control over
the preparation of its published financial statements. The Company's internal
control is intended to provide reasonable assurance to the Company's Board of
Directors and management regarding the preparation of financial statements in
conformity with generally accepted accounting principles, and for the Company's
bank subsidiary, Union State Bank, also in conformity with the Federal Financial
Institutions Examination Council instructions for Consolidated Reports of
Condition and Income ("Call Report Instructions").
There are inherent limitations in the effectiveness of internal control,
including the possibility of human error and the circumvention or overriding of
controls. Accordingly, even effective internal control can provide only
reasonable assurance with respect to financial statement preparation. Further,
because of changes in conditions, the effectiveness of an internal control
structure may vary over time.
Management assessed the Company's internal control structure over financial
reporting, including safeguarding of assets, presented in conformity with
generally accepted accounting principles and the Call Report Instructions as of
December 31, 1997. This assessment was based on criteria for effective internal
control over financial reporting, including safeguarding of assets, described in
Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Based on this assessment, management
believes that the Company maintained effective internal control over financial
reporting, including safeguarding of assets, presented in conformity with
generally accepted accounting principles and, for its bank subsidiary, the Call
Report Instructions as of December 31,1997.
49
<PAGE>
- --------------------------------------------------------------------------------
Compliance with Laws and Regulations
Management is also responsible for ensuring compliance with the federal laws and
regulations concerning loans to insiders and the federal and state laws and
regulations concerning dividend restrictions, both of which are designated by
the FDIC as safety and soundness laws and regulations.
Management assessed its compliance with those designated safety and soundness
laws and regulations and has maintained records of its determinations and
assessments as required by the FDIC. Based on this assessment, management
believes that the Company's insured depository subsidiary, Union State Bank, has
complied, in all material respects, with the designated safety and soundness
laws and regulations referred to above for the year ended December 31, 1997.
/s/ Thomas E. Hales /s/ Steven T. Sabatini
Thomas E. Hales Steven T. Sabatini
Chairman, President and Senior Executive
Chief Executive Officer Vice President and
Chief Financial Officer
50
<PAGE>
Independent Accountants' Report
USB
- --------------------------------------------------------------------------------
Deloitte & Touche LLP
- ---------------------
[COMPANY LOGO]
To the Board of Directors and Stockholders
U.S.B. Holding Co., Inc.
We have examined management's assertion that, as of December 31, 1997, U.S.B.
Holding Co., Inc. and subsidiaries (the "Company") maintained effective internal
control over financial reporting, including safeguarding of assets, presented in
conformity with generally accepted accounting principles and, for the Company's
bank subsidiary, Union State Bank, also in conformity with Federal Financial
Institutions Examination Council Instructions for Consolidated Reports of
Condition and Income ("Call Report Instructions") included in the accompanying
1997 Management Report to the stockholders.
Our examination was made in accordance with standards established by the
American Institute of Certified Public Accountants and, accordingly, included
obtaining an understanding of internal control over financial reporting, testing
and evaluating the design and operating effectiveness of the internal control
structure over financial reporting, including safeguarding of assets, and such
other controls as we considered necessary in the circumstances. We believe that
our examination provides a reasonable basis for our opinion.
Because of inherent limitations in any internal control, misstatements due to
error or fraud may occur and not be detected. Also, projections of any
evaluation of internal control over financial reporting to future periods are
subject to the risk that internal control may become inadequate because of
changes in conditions, or that the degree of compliance with the policies may
deteriorate.
In our opinion, management's assertion that, as of December 31, 1997, the
Company maintained effective internal control over financial reporting,
including safeguarding of assets, presented in conformity with generally
accepted accounting principles and, for its bank subsidiary, the Call Report
Instructions is fairly stated, in all material respects, based on the criteria
established in Internal Control-Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission.
/s/ Deloitte & Touche LLP
January 28, 1998
Stamford, Connecticut
51
<PAGE>
Management's Discussion and Analysis
of Financial Condition and Results of Operations
- --------------------------------------------------------------------------------
This section presents discussion and analysis of the financial condition
and results of operations of U.S.B. Holding Co., Inc. (the "Company") and its
subsidiaries, including its banking subsidiaries (the "Banks"), Union State Bank
(the "Bank") and its wholly-owned subsidiary U.S.B. Realty Corp. ("USBRC"), and
Royal Oak Savings Bank, F.S.B. ("Royal"). Royal was sold as of December 31,
1995, as further discussed below and in Note 3 to the Consolidated Financial
Statements. This discussion and analysis should be read in conjunction with the
financial statements and supplemental financial data contained elsewhere in this
report.
Selected Financial Data
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------
(000's, except share data)
Year Ended December 31,
1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Operating Results:
Total interest income $ 70,912 $ 57,216 $ 49,692 $ 39,601 $ 34,544
Total interest expense 37,106 27,601 24,318 15,933 13,138
- --------------------------------------------------------------------------------------------------------------
Net interest income 33,806 29,615 25,374 23,668 21,406
Provision for loan losses 2,320 2,275 1,200 993 763
Income before income taxes 14,633 14,188 13,638 10,126 9,805
Net income 10,402 9,414 9,327 7,000 6,200
Basic earnings per share .84 .74* .74* .57* .52*
Diluted earning per share .77 .70* .71* .55* .51*
Weighted average shares 12,401,562 12,330,222* 12,117,283* 11,709,900* 11,374,224*
Adjusted weighted average shares 13,523,182 13,025,994* 12,609,516* 12,161,784* 11,571,057*
Cash dividends per common share .19 .149* .1365* .11* .08*
==============================================================================================================
(000's)
December 31,
1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------
Financial Position:
Total loans, net $ 556,109 $ 497,769 $ 387,437 $ 330,250 $ 272,971
Total assets 1,023,400 803,451 678,783 602,603 508,638
Total deposits 797,795 682,280 610,635 543,862 469,016
Borrowings 133,803 59,692 10,000 5,000 --
Long-term debt qualifying
as regulatory capital -- -- -- 1,800 1,800
Corporation-Obligated mandatory redeemable
capital securities of subsidiary trust 20,000 -- -- -- --
Stockholders' equity 62,639 56,866 51,333 38,319 34,435
==============================================================================================================
</TABLE>
<TABLE>
<CAPTION>
Quarterly Results of Operations
(000's, except share data)
1997 Quarters 1996 Quarters
Fourth Third Second First Fourth Third Second First
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income $18,759 $18,433 $17,767 $15,953 $15,573 $14,751 $13,812 $13,080
Net interest income 8,803 8,532 8,468 8,003 7,888 7,646 7,246 6,835
Provision for loan losses 350 510 830 630 600 600 600 475
Income before income taxes 3,923 3,767 3,598 3,345 4,201 3,331 3,313 3,343
Net income 2,878 2,692 2,500 2,332 2,864 2,175 2,125 2,250
Basic earnings per share .23 .22* .20* .19* .23* .17* .17* .17*
Diluted earnings per share .21 .20* .19* .17* .21* .16* .16* .17*
=========================================================================================================
</TABLE>
*Adjusted for two-for-one stock split in 1997.
52
<PAGE>
USB
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(000's, except percentages)
Daily Average Balances and Interest Rates Year Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------------------------------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Interest earning assets:
Interest bearing deposits $ 13 $ 1 4.6% $ 388 $ 39 10.1% $ 2,132 $ 137 6.4%
Federal funds sold 10,860 597 5.5 12,925 693 5.4 16,917 1,013 6.0
Securities:
U.S. Treasury and
government agencies 135,836 9,750 7.2 75,678 5,123 6.8 42,013 2,907 6.9
Mortgage-backed securities 132,987 8,871 6.7 104,865 6,873 6.6 115,504 7,741 6.7
Obligations of states and
political subdivisions 63,113 5,055 8.0 63,396 4,960 7.8 69,427 5,295 7.6
Corporate bonds, FHLB
stock, and other securities 7,978 578 7.3 8,777 679 7.7 16,311 1,417 8.7
Loans, net 525,169 47,897 9.1 444,980 40,660 9.1 352,244 33,222 9.4
- ---------------------------------------------------------------------------------------------------------------------------
Total interest earning assets 875,956 72,749 8.3 711,009 59,027 8.3 614,548 51,732 8.4
- ---------------------------------------------------------------------------------------------------------------------------
Non-interest earning assets:
Cash and due from banks 27,357 22,756 22,359
Other assets 27,525 17,611 18,240
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL $930,838 $751,376 $655,147
===========================================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest bearing liabilities:
Deposits:
NOW $ 46,275 $ 788 1.7% $ 41,055 $ 654 1.6% $ 40,667 $ 644 1.6%
Money market 46,886 1,230 2.6 53,794 1,445 2.7 65,080 1,945 3.0
Savings 237,041 9,569 4.0 206,932 8,085 3.9 143,931 4,705 3.3
Time 335,204 18,934 5.6 281,178 15,590 5.5 268,611 16,144 6.0
Federal funds purchased,
securities sold under
agreements to repurchase
and Federal Home Loan
Bank advances 81,028 4,814 5.9 30,857 1,827 5.9 13,243 816 6.2
Long-term debt qualifying as
regulatory capital -- -- -- -- -- -- 710 64 9.0
Corporation - Obligated
mandatory redeemable
capital securities of
subsidiary trust 18,027 1,771 9.8 -- -- -- -- -- --
- ---------------------------------------------------------------------------------------------------------------------------
Total interest bearing liabilities 764,461 37,106 4.9 613,816 27,601 4.5 532,242 24,318 4.6
- ---------------------------------------------------------------------------------------------------------------------------
Non-interest bearing liabilities
and stockholders' equity:
Demand deposits 100,792 82,491 75,564
Other liabilities 7,201 2,535 2,933
Stockholders' equity 58,384 52,534 44,408
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL $930,838 $751,376 $655,147
===========================================================================================================================
NET INTEREST EARNINGS $35,643 $ 31,426 $27,414
===========================================================================================================================
NET YIELD ON INTEREST
EARNING ASSETS 4.1% 4.4% 4.5%
===========================================================================================================================
</TABLE>
The statistical data contained herein has been adjusted to a tax equivalent
basis, based on the federal statutory tax rate of 35% and applicable state tax
rates.
<PAGE>
- --------------------------------------------------------------------------------
Summary of Results
The Company (including results for the Bank prior to the Company's
formation as a holding company) recorded its nineteenth consecutive year of
increased net income in 1997. Net income was $10.4 million for the year ended
December 31, 1997, a 10.5 percent increase over 1996. Net income was $9.4
million for the year ended December 31, 1996, a 1 percent increase over 1995 net
income of $9.3 million. Net income for 1995 includes a gain of $2.1 million, net
of tax, from the sale of the Company's subsidiary, Royal Oak Savings Bank,
F.S.B. ("Royal"), headquartered in Randallstown, Maryland, while 1996 net income
includes approximately $.3 million attributable to the sale of a branch facility
which was previously part of Royal's branch system (the "Royal transactions").
Excluding the Royal transactions in 1996 and 1995, as well as net income of
Royal in 1995 ($.2 million), the increase in 1997 and 1996 net income was $1.3
million and $2.1 million or an increase of 14.1 percent and 29.9 percent,
respectively. The 1997 and 1996 results, compared to the prior year before the
effects of the Royal transactions, primarily reflect higher net interest income
and securities gains, offset by a higher provision for loan losses and higher
operating expenses.
Diluted earnings per share of $.77 in 1997, increased 10.0 percent over
the $.70 recorded in 1996, while diluted earnings per share decreased slightly
in 1996 compared to the $.71 recorded in 1995, reflecting the higher net income,
reduction of preferred stock dividends due to redemptions of preferred stock in
both years, offset (completely in 1996) by a higher amount of average common
stock and common stock equivalents outstanding. Excluding the effects of the
Royal transactions described above and Royal net income in 1995, diluted
earnings per share increased $.09 or 13.2 percent in 1997 and $.15 or 28.3
percent in 1996 over the prior year. Per share amounts reflect the two-for-one
stock split in the form of a 100 percent stock dividend distributed December 24,
1997. Return on average common stockholders' equity was 17.95 percent in 1997,
compared to 18.60 percent in 1996, and 22.17 percent in 1995. Return on average
total assets in 1997 was 1.12 percent, compared to 1.25 percent in 1996, and
1.42 percent in 1995.
Record net interest income for 1997 rose to $33,806,000 or a 14.2 percent
increase over the $29,615,000 recorded in 1996, while 1996 net interest income
increased 16.7 percent compared to the $25,374,000 recorded in 1995. These
increases result principally from continuing growth in interest earning assets,
primarily loans and security investments , partially offset by a narrowing
interest rate spread. The interest rate spread on a tax equivalent basis
decreased in 1997 to 3.4 percent, while it remained 3.8 percent in both 1996 and
1995, as a result of a flat yield curve and the effects of additional leveraging
of the balance sheet. Non-interest income for 1997 decreased $492,000 compared
to 1996, primarily as a result of a $600,000 gain on the sale of a branch
facility in 1996, while higher security gains and gains on loans held for sale,
and other income were recorded in 1997, partially offset by lower service
charges and fees, and mortgage servicing income. Excluding the 1995 gain on sale
of Royal, non-interest income for 1996 increased by $1,232,000 as compared to
1995, primarily as a result of higher securities gains and other income, and the
gain from sale of the Royal branch facility, offset by lower service fee income
and mortgage servicing fees and a loss on sale of loans. The overall increases
in revenues were partially offset by 17.7 and 1.8 percent increases in
non-interest expense in 1997 and 1996, respectively, reflecting increases in
such costs as salaries and employee benefits, occupancy and equipment expense
and other costs, as a result of the continuing growth of the Company and its
investment in people, new products, branches and technology, partially offset in
1996 by a reduction in FDIC insurance expense, the elimination of Royal expenses
due to its sale, and lower other non-interest expenses. A lower effective tax
rate in 1997 also increased net income, while a higher effective tax rate in
1996 reduced net income in that year.
The Company's total capital ratio under the risk-based capital guidelines
exceeds regulatory guidelines of 8 percent, as the total ratio equaled 13.80
percent and 11.50 percent at December 31, 1997 and 1996, respectively. The
leverage capital ratio increased to 8.26 percent at December 31, 1997 from 7.06
percent in 1996, reflecting issuance of the Capital Securities in 1997.
54
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- --------------------------------------------------------------------------------
Interest Differential
The following table sets forth the dollar amount of changes in interest
income, interest expense and net interest income between the years ended
December 31, 1997 and 1996, and the years ended December 31, 1996 and 1995, on a
tax equivalent basis.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------
(000's)
1997 Compared to 1996 1996 Compared to 1995
Increase (Decrease) Increase (Decrease)
Due to Change in Due to Change in
- -----------------------------------------------------------------------------------------------------------------------------
Total Total
Average Average Increase Average Average Increase
Volume Rate (Decrease) Volume Rate (Decrease)
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Interest Income:
Interest bearing deposits $ (24.4) $ (13.6) $ (38.0) $ (149.5) $ 51.5 $ (98.0)
Federal funds sold (113.1) 17.1 (96.0) (221.7) (98.3) (320.0)
Securities:
U.S. Treasury and government agencies 4,300.7 326.3 4,627.0 2,280.3 (64.3) 2,216.0
Mortgage-backed securities 1,873.9 124.1 1,998.0 (700.3) (167.7) (868.0)
Obligations of states and
political subdivisions (22.2) 117.2 95.0 (469.1) 134.1 (335.0)
Corporate bonds, FHLB stock,
and other securities (59.5) (41.5) (101.0) (596.6) (141.4) (738.0)
Loans, net 7,313.6 (76.6) 7,237.0 8,502.6 (1,064.6) 7,438.0
- -----------------------------------------------------------------------------------------------------------------------------
Total interest earning assets 13,269.0 453.0 13,722.0 8,645.7 (1,350.7) 7,295.0
- -----------------------------------------------------------------------------------------------------------------------------
Interest Expense:
Deposits:
NOW 86.9 47.1 134.0 6.2 3.8 10.0
Money market (181.9) (33.1) (215.0) (315.7) (184.3) (500.0)
Savings 1,208.2 275.8 1,484.0 2,337.5 1,042.5 3,380.0
Time 3,046.7 297.3 3,344.0 733.3 (1,287.3) (554.0)
Federal funds purchased, securities sold under
agreements to repurchase and
Federal Home Loan Bank advances 2,981.3 5.7 2,987.0 1,043.9 (32.9) 1,011.0
Long-term debt qualifying as regulatory capital -- -- -- (64.0) -- (64.0)
Corporation - Obligated mandatory redeem-
able capital securities of subsidiary trust 1,771.0 -- 1,771.0 -- -- --
- -----------------------------------------------------------------------------------------------------------------------------
Total interest bearing liabilities 8,912.2 592.8 9,505.0 3,741.2 (458.2) 3,283.0
- -----------------------------------------------------------------------------------------------------------------------------
Increase (decrease) in interest differential $ 4,356.8 $ (139.8) $ 4,217.0 $ 4,904.5 $ (892.5) $ 4,012.0
=============================================================================================================================
</TABLE>
The variance not solely due to rate or volume is allocated between the rate and
volume variances based upon their absolute relative weights to the total change.
Net Interest Income
Net interest income, the difference between interest income and interest
expense, is the most significant component of the Company's consolidated
earnings. Net interest income of $35.6 million on a tax equivalent basis for
1997 reflects a 13.4 percent increase over the $31.4 million in 1996. Net
interest income on a tax equivalent basis for 1996 rose to $31.4 million, or a
14.6 percent increase over the $27.4 million for 1995. Net interest income
benefited by the increase in the excess of average interest earning assets over
average interest bearing liabilities to $111.5 million in 1997 from $97.2
million and $82.3 million for 1996 and 1995, respectively.
Interest income is determined by the volume of, and related rates earned
on, interest earning assets. Volume increases in U.S. Treasury and government
agencies securities, mortgage-backed securities and loans, as well as higher
rates on all interest-earning assets, except for interest bearing deposits,
corporate bonds, FHLB stock and other securities, and loans, contributed to
higher interest income in 1997, as compared to 1996. These increases were
partially offset by lower volume for all other categories. Volume
55
<PAGE>
- --------------------------------------------------------------------------------
increases also contributed to higher net interest income in 1996, particularly
in loans and U. S. Treasury and government agencies securities, partially offset
by volume decreases in all other interest earning asset categories and lower
average interest rates on all interest earning assets, except for interest
bearing deposits and obligations of state and political subdivisions . Average
interest earning assets increased in 1997 to $876.0 million over the $711.0
million in 1996, compared to $614.5 million in 1995, reflecting a 23.2 percent
and 15.7 percent increase in 1997 and 1996, respectively. The Company's ability
to make changes in the asset mix allows management to capitalize on more
desirable yields, as available, on various interest earning assets.
Loans are the largest component of interest earning assets and due to
their significance are carefully reviewed with respect to the Company's overall
interest sensitivity position. In 1997, average net loan balances increased
$80.2 million to $525.2 million compared to 1996, while average net loans
increased $92.7 million in 1996 compared to 1995. Net loans outstanding
increased $58.3 million to $556.1 million at December 31, 1997 from $497.8
million at December 31, 1996, or an 11.7 percent increase, compared to an
increase of $110.3 million in 1996 over 1995, or 28.5 percent. Interest income
on loans in 1997 and 1996, increased due to higher volume, partially offset by
lower interest rates. Loan interest income was also affected by interest income
not recorded on nonaccrual loans of $409,000 in 1997, $840,000 in 1996, and
$226,000 in 1995.
The average balances of total securities increased in both 1997 and 1996,
due principally to efforts to effectively leverage capital, as well as
management's efforts to balance the risk and liquidity of the entire portfolio.
Overall, the net volume increase in securities resulted in increased interest
income on securities in both years. Interest income on securities was also
affected by generally slightly higher short to medium-term yields on average and
a change in the risk profile in 1997, while interest rates were generally lower
in 1996, as compared to the prior year.
Interest expense is a function of the volume of, and rates paid for,
interest bearing liabilities. Interest expense in 1997 increased $9,505,000, or
34.4 percent to $37.1 million, following the 1996 increase of $3,283,000, or
13.5 percent, compared to 1995. Average balances in substantially all categories
(except for money market accounts, and long-term debt) increased in both 1997
and 1996. Retail deposits increased principally due to the opening of the
Suffern branch in 1997, and the Stony Point branch in 1996, as well as
continuing growth of deposits in existing branches. In addition, management
decided to increase leveraging of the Bank's capital by increasing time deposits
of municipalities, Federal Home Loan Bank advances and borrowings under
securities sold with agreements to repurchase, and investing these funds in
short and medium-term investments and loan originations. Interest expense also
increased in 1997 due to the issuance of $20 million of Capital Securities in
February 1997. The Capital Securities, issued at an effective rate of 9.78
percent, resulted in $1.8 million of additional interest expense in 1997. These
Capital Securities are included in Tier 1 capital, and as a result the Company
increased borrowings to purchase securities at reasonable spreads to further
leverage capital. The level of non-interest bearing average demand deposits
which increased in 1997 to $100.8 million from $82.5 million in 1996, compared
to $75.6 million in 1995, is an integral aspect of liability management and has
a direct impact on the determination of net interest income. In 1997, interest
rates on average interest bearing deposits increased, except for money market
account interest rates, due to a higher level of deposits in higher rate
products. Interest rates on average interest bearing deposits declined in 1996,
due to a lower rate environment compared to the prior year, except for NOW and
savings accounts due to an increase in higher rate products. In May, 1995, the
Company repaid its long-term debt. The interest rate spread on a tax equivalent
basis for each of the three years in the period ended December 31, 1997 is as
follows:
- ---------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------
Average interest rate on:
Total average interest-
earning assets 8.3% 8.3% 8.4%
Total average interest-
bearing liabilities 4.9 4.5 4.6
- ---------------------------------------------------------------
Total interest rate spread 3.4% 3.8% 3.8%
===============================================================
In 1997, the interest rate spread decreased primarily due to the increased
leveraging of the balance sheet at tighter spreads. During 1996, the Bank
maintained its interest rate spread at 3.8 percent consistent with that of 1995.
Although the effects of balance sheet leveraging tends to decrease the interest
rate spread, it adds net interest income without adding significant operating
costs. Management cannot predict what impact market conditions will have on its
interest rate spread, and, therefore, further compression in the net interest
margin may occur.
56
<PAGE>
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- --------------------------------------------------------------------------------
Non-Interest Income
Non- interest income for 1997 was $4,535,000 compared to $5,027,000 for
1996. The decrease primarily results from the gain on sale of a branch facility
of $600,000 in 1996. Excluding the gain on sale of the branch facility in 1996,
other income increased $108,000 in 1997, reflecting higher security gains, gain
on loans held for sale, ATM charges and credit card fees, offset by lower
service charges and fees, and mortgage servicing income. Excluding the gain on
sale of Royal in 1995 of $3.5 million, non-interest income for 1996 increased by
$1,232,000 over 1995, reflecting higher gains on security and loan sales of
$541,000, the gain on sale of the Royal branch facility of $600,000, and higher
other income, partially offset by lower mortgage servicing income, and service
charges and fees.
The net gain on the sale of Royal reflects the sale of this thrift
subsidiary on December 31, 1995, to Monocacy Bancshares, Inc., parent company of
Taneytown Bank & Trust Company, Taneytown, Maryland. (See Note 3 to the
Consolidated Financial Statements.)
Net gains on securities transactions principally result from the sales of
securities to restructure the portfolio, manage cash flow and reduce long-term
market value volatility of the portfolio in response to changes in interest
rates.
Gains (losses) on loans held for sale are primarily realized from sales of
residential mortgage loans held for sale and originated principally from fixed
rate mortgage promotions. Net losses on loans held for sale of $54,000 in 1996
were due to write-downs of fixed rate mortgage loans held for sale during
periods of increasing interest rates. The decision to sell loans in any period
is influenced by the amount and type of loans originated in relation to the
total portfolio, the secondary market environment and the interest rate
environment.
Mortgage servicing fees decreased to $223,000 in 1997, an 8.6 percent
decrease from $244,000 in 1996, a 28.2 percent decrease from $340,000 in 1995.
Mortgage servicing fees decreased due to a decrease in volume of primarily fixed
rate loans sold to FHLMC with servicing retained, as the Bank decided to retain
approximately $15.0 million and $21.0 million of residential loan originations
in portfolio in 1997 and 1996, respectively. The sale of Royal in 1995 also
reduced the level of mortgage servicing fees in 1996 compared to 1995. The
Company expects to continue to originate and sell/swap residential mortgages in
the secondary market as opportunities exist.
Service charges and fees on deposit accounts decreased 7.6% and 6.9% in
1997 and 1996, respectively. Although deposit accounts increased in both years,
lower insufficient funds charges, higher balance accounts which provide
compensation in lieu of fees, and increased competition impacted the level of
fees charged.
Other income increased $45,000 and $367,000 in 1997 and 1996,
respectively, compared to the prior year. Increases in both years reflect higher
income from merchant credit card transactions and other fees, higher ATM fees in
1997, and, a loan prepayment fee of $101,000 in 1996.
Non-Interest Expense
Non-interest expense rose to $21.4 million for 1997, or 17.7 percent over
the $18.2 million for 1996, compared to a 1.8 percent increase in 1996 over the
$17.9 million for 1995. These increases reflect the growth of the Company,
partially offset in 1996 by the elimination of Royal's expenses due to its sale
in 1995. The Company's efficiency ratio (a lower ratio indicates greater
efficiency) which compares non-interest expense to total adjusted revenue
(taxable equivalent net interest income, plus non-interest income excluding
gains or losses on securities and loan sales, and the gain on sale of Royal and
the Royal branch) was 54.64 percent in 1997, compared to 50.94 percent in 1996
and 57.61 percent in 1995.
Salaries and employee benefits, the largest component of non-interest
expense, rose 11.2 percent in 1997 to $11.5 million, compared to a 14.8 percent
increase in 1996 to $10.3 million from the $9.0 million in 1995. During 1997 and
1996, the Bank opened one branch in each year, resulting in increased staff. The
increases in both years also reflect the costs of additional personnel necessary
for the Bank to accommodate the increases in both deposits and loans resulting
from the expansion of services and products available to customers, as well as
annual merit increases. Increases in salaries and employee benefits in both 1997
and 1996 were also attributable to incentive compensation programs and other
benefit plans necessary to be competitive in attracting and retaining high
quality and experienced personnel, and higher health care costs and costs
associated with related payroll taxes. The percentages of salaries and employee
benefits to total average assets decreased in 1997 and remained flat in 1996
compared to the prior year, and as a percentage of total non-interest expense,
decreased in 1997 compared to 1996, and increased in 1996 as compared to 1995.
57
<PAGE>
- --------------------------------------------------------------------------------
- ------------------------------------------------------------------------
1997 1996 1995
- ------------------------------------------------------------------------
Employees at December 31,
Full-time employees 221 206 183
Part-time employees 31 23 28
- ------------------------------------------------------------------------
Salaries and employee benefits (000's, except percentages)
Salaries $7,158 $6,766 $6,168
Payroll taxes 724 670 623
KSOP 605 422 315
Medical plans 849 682 618
Incentive compensation plans 1,869 1,539 1,094
Other 278 243 175
- ------------------------------------------------------------------------
Total $11,483 $10,322 $8,993
========================================================================
Percentage of total average assets 1.2% 1.4% 1.4%
Percentage of total non-interest
expense 53.7% 56.8% 50.4%
========================================================================
Occupancy and equipment expenses rose to $4.0 million in 1997, a 16.8
percent increase over 1996, compared to $3.4 million in 1996, a 4.0 percent
increase over 1995. The 1997 and 1996 increases were due to a full year of
expenses for the branch opened in the prior year, current year branch openings
and increased utilization of the Corporate Headquarters by the Bank, offset in
1996 by the elimination of occupancy expense of Royal. Equipment expense
continued to increase as a result of higher depreciation and maintenance costs
associated with the in-house IBM AS-400 computer and capital investments over
the last several years in systems designed to enhance bank-wide operating and
processing capabilities. All years also reflect the rising costs of such items
as fuel, electricity, real estate taxes and other costs of operating the
Company's facilities.
Advertising and business development expense increased to $1,056,000, or
21.8 percent, compared to the $867,000 recorded in 1996, which reflected a
decrease of 4.2 percent compared to 1995. The decrease in 1996 reflects
management of advertising costs and elimination of costs associated with Royal,
while the increase in 1997 is due principally to increased deposit promotions,
mortgage/home equity loan promotional campaigns, and the expansion of the
Chairman's Council business development campaign programs.
Professional fees increased 22.9 percent to $1,270,000 in 1997 from
$1,033,000 in 1996, which was an 11.2 percent increase from the $929,000
recorded in 1995. The increases in 1997 and 1996 were due to professional fees
associated with loan collections and foreclosures and other litigation costs,
higher examination and audit fees, and higher consulting fees.
Communications expense increased 13.3 percent in 1997 to $708,000 from
$625,000 in 1996, an 8.3 percent increase from $577,000 in 1995. The increases
were due principally to the additional communication lines required for computer
hookups and telephones for the new branches and increases in business volume.
Stationery and printing expense increased to $450,000 in 1997 from
$387,000 in 1996, or 16.3 percent, while such costs remained relatively flat in
1996, as compared to the $380,000 recorded in 1995. The increase in 1997
reflects the higher business volume.
FDIC insurance increased by $88,000 to $90,000 in 1997 and decreased by
$686,000 to $2,000 in 1996. The decrease in 1996 reflects an elimination of
premiums as the Bank Insurance Fund reached its required level of 1.25 percent
of insured deposits. The increase in 1997 results from new FDIC deposit premiums
which became effective in January 1997.
The Company incurred $176,000, $156,000 and $186,000 in 1997, 1996 and
1995, respectively, in net expenditures related to maintaining foreclosed
properties and additional write-downs of carrying values on such properties.
Costs increased in 1997 due to a higher level of other real estate owned, while
1996 costs declined, primarily from a declining level of assets classified as
other real estate. Expenditures associated with expenses in this category are
comprised of real estate taxes, insurance, utilities, maintenance and other
charges required to protect the Company's interest in the properties. In
general, the longer the foreclosed properties are held, the total cost to
maintain such properties will increase; however, to the extent time between
acquisition of a property and its sale is reduced, the holding cost per property
should decline. In general, the Company seeks to dispose of other real estate
owned as expeditiously as possible. However, the ability to dispose of other
real estate owned is highly dependent on market conditions in the area in which
a property is located.
Other non-interest expenses, as reflected in the following table,
increased 58.0 percent in 1997, compared to a decrease of 28.2 percent in 1996
from 1995. The 1997 increase compared to 1996 is primarily due to a $250,000
contribution to the U.S.B. Foundation Inc., a not-for-profit entity that makes
contributions to worthwhile organizations serving the community, higher outside
service fees and higher stockholder relations expenses and stock exchange
listing fees. The 1996 decrease was primarily due to an employee
58
<PAGE>
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- --------------------------------------------------------------------------------
settlement and a contribution to the U.S.B. Foundation, Inc. in 1995, partially
offset by higher credit card expenses.
- ---------------------------------------------------------------------
1997 1996 1995
Other non-interest expenses (000's, except for percentages)
- ---------------------------------------------------------------------
Other insurance $ 234 $ 216 $ 206
Courier fees 223 196 202
Dues, meetings and seminars 252 221 253
Outside services 454 288 361
Employee settlement -- -- 236
U.S.B. Foundation 250 -- 250
Credit card related expense 232 210 103
Other 516 237 294
- ---------------------------------------------------------------------
Total $2,161 $1,368 $1,905
- ---------------------------------------------------------------------
Percentage of total average
assets .23% .18% .29%
- ---------------------------------------------------------------------
Percentage of total non-interest
expense 10.1% 7.5% 10.7%
=====================================================================
To monitor and control the level of non-interest expenses, as well as
non-interest income, the Company continually monitors the system of internal
budgeting, including analysis and follow-up of budget variances.
Income Taxes
Income tax provisions of $4,231,000, $4,774,000 and $4,311,000 were
recorded in 1997, 1996 and 1995, respectively. The Company is currently subject
to both a statutory incremental Federal tax rate of 35 percent (34 percent for
the first $10 million of taxable income), and a New York State tax rate of 9
percent, plus a surcharge of 17 percent in 1997, 19-1/2 percent in 1996 and
24-1/2 percent in 1995. Royal's operation was subject to a Maryland state tax
rate of 7 percent. The Company's overall effective tax rate was 28.9 percent,
33.6 percent and 31.6 percent in 1997, 1996 and 1995, respectively.
The decrease in the overall effective tax rate in 1997 reflects lower
state taxes, while the increase in 1996 reflects a lower percent of non-taxable
security income. Other pertinent tax information is set forth in the Notes to
Consolidated Financial Statements included elsewhere herein.
Securities Portfolio
Securities are selected to provide safety of principal, liquidity, and
produce income on excess funds during structural changes in the composition of
deposits, as well as during cyclical and seasonal changes in loan demand and to
leverage capital. In order to manage liquidity and control interest rate risk,
the Company's investment strategy focuses on securities which have short
maturities, adjustable rate securities, or those whose cash flow patterns result
in a lower degree of interest rate risk.
The securities portfolio, including investment in FHLB stock, of $394.6
million and $254.0 million at December 31, 1997 and 1996, respectively, consists
of securities held to maturity totalling $137.1 million and $81.0 million,
respectively, securities available for sale totalling $243.7 million and $168.8
million, and FHLB stock of $13.7 million and $4.2 million, respectively.
In accordance with SFAS No. 115, the Bank's investment policy includes a
determination of the appropriate classification of securities at the time of
purchase. If management has the intent and ability to hold securities until
maturity, they are classified as held to maturity and carried at amortized
historical cost. Securities held for indefinite periods of time and not intended
to be held to maturity include securities that management intends to use as part
of its asset/liability strategy and that may be sold in response to changes in
interest rates, resultant prepayment risk and other factors. Such securities are
classified as available for sale and carried at fair value.
Securities represent approximately 38.8 percent, 35.5 percent and 39.6
percent of average interest-earning assets in 1997, 1996 and 1995, respectively.
Emphasis on the securities portfolio will continue to be an important part of
the Company's investment strategy. The size of the securities portfolio will
depend on deposit and loan growth, and the ability of the Bank to take advantage
of leverage opportunities. The carrying value, fair value, weighted average
yields and maturity distributions of securities, are included in the Notes to
the Consolidated Financial Statements included elsewhere herein.
Obligations of U.S. Treasury and government agencies securities
principally include U.S. Treasury securities and Federal Home Loan Bank, Federal
National Mortgage Association ("FNMA") and FHLMC debentures and notes. At
December 31, 1997 and 1996, the outstanding and average balances held in such
securities totalled $162.5 million and $87.0 million, and $135.8 million and
$75.7 million, respectively. The average balances outstanding during 1997 and
1996 increased $60.2 million and $33.7 million, respectively, primarily due to
net new purchases of U.S. government agency bonds which may be callable at the
option of the issuer on certain predescribed call dates. Management expects
these bonds to be called prior to maturity based upon its evaluation of interest
rates at the time of purchase.
59
<PAGE>
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The increase of $28.1 million in 1997 and decrease in 1996 of $10.6
million in average balances of mortgage-backed securities, including
collateralized mortgage obligations ("CMOs"), were mainly due to transactions in
Government National Mortgage Association ("GNMA"), FNMA and FHLMC securities.
GNMA securities are backed by the full faith and credit of the U.S. Treasury,
assuring investors of receiving all of the principal and interest due from the
mortgages backing the securities. FNMA and FHLMC guarantee the payment of
interest at the applicable certificate rate and the full collection on the
mortgages backing the securities; however, such securities are not backed by the
full faith and credit of the U.S. government.
The following table sets forth additional information concerning
mortgage-backed securities, including CMOs, at amortized cost as of the periods
indicated.
- ----------------------------------------------------------------
(000's)
December 31,
1997 1996 1995
- ----------------------------------------------------------------
U.S. government agency:
Mortgage-backed securities
Fixed rate $ 39,262 $ 8,239 $ 13,266
Adjustable rate -- 12,648 16,884
Collateralized mortgage
obligations
Fixed rate 30,708 37,200 50,596
Adjustable rate 82,179 41,783 27,639
Other 340 470 990
- ----------------------------------------------------------------
Total $152,489 $100,340 $109,375
================================================================
At December 31, 1997, mortgage-backed securities increased $18.4 million
to an outstanding balance of $39.3 million due to an increase in fixed rate
securities of $31.0 million that was offset by a decrease in adjustable-rate
securities of $12.6 million. The increase in fixed rate mortgage-backed
securities was mostly from purchases totalling $60.1 million that was offset by
sales of similar fixed rate instruments totalling $27.7 million. The sales were
transacted to take advantage of market opportunities to restructure the
portfolio. The decrease in adjustable-rate securities was primarily the result
of sales of such securities totalling $11.3 million whose market values would
decline as principal prepayments accelerate in a lower interest rate
environment. At December 31, 1996, mortgage-backed securities decreased $9.3
million to an outstanding balance of $20.9 million as fixed rate securities
decreased $5.0 million and adjustable-rate securities decreased $4.2 million.
The decreases were due to principal paydowns and sales of $4.3 million in fixed
rate instruments.
Fixed and adjustable-rate CMOs increased $33.9 million to a balance
outstanding of $112.9 million at December 31, 1997. Fixed rate CMOs decreased
$6.5 million mainly from sales of low-yielding CMOs totalling $14.2 million that
was partially offset by purchases totalling $8.6 million. Adjustable-rate CMOs
increased $40.4 million primarily as purchases of $77.9 million were offset by
sales of $35.7 million. The sales were transacted as the market values of these
securities would decline as principal prepayments accelerate in a lower interest
rate environment. At December 31, 1996, CMOs increased $748 thousand to a
balance of $79.0 million as fixed rate CMOs decreased $13.4 million and
adjustable-rate CMOs increased $14.1 million. The decrease in fixed rate CMOs
reflects sales of $9.5 million in low-yielding CMOs and principal paydowns. The
increase in adjustable rate CMOs was due primarily to purchases totalling $14.3
million. Interest rates on floating rate CMO securities periodically adjust at
certain spreads to market indices and typically contain maximum lifetime caps.
These investments generally result in a shortening of the portfolio's average
interest rate repricing period.
The outstanding balance in obligation of states and political subdivisions
at December 31, 1997 was $63.6 million with purchases of $7.5 million and
maturities of $6.3 million during the year. This is comparable to the balance at
December 31,1996 of $62.4 million with purchases of $7.6 million and maturities
of $8.3 million during the year. The obligations are principally New York State
political subdivisions with diversified final maturities and substantially all
are classified as held to maturity. The Company considers such securities as
core investments having favorable tax equivalent yields.
The Company invests in FHLB stock, medium-term corporate debt securities
and other securities which are rated investment grade by nationally recognized
credit rating organizations. The Company, as a matter of policy, does not invest
in non-rated securities or securities rated less than investment grade at the
time of purchase. At December 31, 1997, these securities increased $8.6 million
to a balance outstanding of $13.8 million from $5.2 million at December 31,
1996. The increase was due primarily to purchases of FHLB stock of $9.5 million,
bringing the total FHLB stock investment to $13.7 million at December 31, 1997.
The Bank is a member of the FHLB and during 1997 has increased its outstanding
borrowings under the various advance programs offered by the FHLB. As a
prerequisite to
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- --------------------------------------------------------------------------------
obtaining increased funding from the FHLB, the Bank must purchase additional
shares of FHLB stock.
The Company has continued to exercise its conservative approach to
investing by purchasing high credit quality investments and controlling interest
rate risk by averaging investments in medium-term maturities or with securities
having interest rates that reprice periodically. Generally, most securities may
be used to collateralize borrowings and public deposits, and therefore the
investment portfolio is an integral part of the Company's funding strategy.
Except for securities of the U. S. Treasury and government agencies
(principally callable and mortgage-backed securities), there were no obligations
of any single issuer which exceeded ten percent of stockholders' equity at
December 31, 1997.
Loan Portfolio
During 1997, the average balances of net loans of the Company increased
$80.2 million to $525.2 million, and balances in 1996 increased $92.7 million to
$445.0 million, as compared to the 1995 balance of $352.2 million. At December
31, 1997, loans outstanding increased $60.2 million to $563.7 million, or an
11.9 percent increase compared to 1996. Loans outstanding at December 31, 1996
increased $112.2 million, or 28.7 percent over 1995. This growth resulted
primarily from: an increase of $41.2 million and $55.3 million in 1997 and 1996,
respectively, in commercial mortgages which primarily reprice after three to
five years to an index based on the three year or five year Treasury bill;
increases in construction and land development loans, principally variable rate
loans which are based on the prime rate as published in the Wall Street Journal,
of $10.4 million and $29.4 million, respectively, as both the real estate market
and business activity increased during each year; increases in time and demand
loans of $2.8 million and $6.1 million, respectively; as well as a $6.1 million
and $16.7 million increase in 1997 and 1996, respectively, in residential real
estate loans and home equity loans; and increases in credit card loans of $5.7
million in 1996; while installment and other loans declined $.3 million and $1.0
million in 1997 and 1996, respectively.
Real estate collateralized loans consisting of construction mortgages,
interim and permanent commercial mortgages, home equity and residential
mortgages, represent approximately 89 percent of total gross loans in both 1997
and 1996. The Bank is approved by FHLMC and FNMA as a preferred seller of
residential mortgages, which allows more active participation in the home
mortgage market, enabling the Bank to meet the community's needs for housing.
This also allows the Bank the flexibility to determine if profit margins are
best achieved by retention or sale of earning assets and also generates loan
origination fees and loan servicing income from the collection and processing of
monthly loan payments.
As part of secondary marketing activities, certain 15 and 30 year
residential real estate loans with fixed rates are originated with an intent of
selling qualifying loans. During 1997, 1996 and 1995, the Company took advantage
of the secondary market by selling for cash $1.1 million, $.6 million and $4.1
million of such loans to FHLMC. Commercial mortgages and construction and land
development loans, which increased significantly in both 1997 and 1996, will
continue to be emphasized, as such loans represent quality real estate secured
loans. At December 31, 1997, the Bank has approximately $112.0 million and $14.0
million of committed but unissued (including lines of credit) commercial
mortgage, construction and land development loans, and residential mortgages,
respectively. At December 31, 1997 and 1996, approximately $.3 million and $.4
million, respectively, of fixed rate residential loans (including commitments)
were held for sale.
Installment loans to individuals and businesses represented 2.5 percent,
2.9 percent and 3.8 percent of total gross loans in 1997, 1996 and 1995,
respectively. The declining trend of installment loans to gross loans was due to
normal principal repayments by borrowers, a slowdown in automobile loans as
automobile manufacturers offer special financial incentives, including lower
interest rates and favorable lease terms, and the inability of borrowers to
deduct interest under the existing tax laws.
The Bank currently provides Affinity cards to the Masons of Maryland and
New Hampshire, and a Union State Bank Visa card and MasterCard are also offered.
In 1996, the Bank also purchased a portfolio of credit cards aggregating $4.3
million in outstanding lines and $1.7 million in balances. At December 31, 1997,
the Bank had credit card lines of $27.8 million, and outstanding balances of
$8.0 million. The credit card business allows the Bank to increase its consumer
lending business and also diversify the loan portfolio.
It is the Company's policy to discontinue the accrual of interest on loans
when, in the opinion of management, a reasonable doubt exists as to the timely
collectibility of the
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amounts due. Regulatory requirements generally prohibit the accrual of interest
on certain loans when principal or interest is due and remains unpaid for 90
days or more, unless the loan is both well secured and in the process of
collection. Nonaccrual loans, which are primarily secured by real estate, lease
receivables and cash, decreased in 1997 and 1995 to $5.8 million and $4.0
million, respectively, and increased in 1996 to $8.1 million. The increase in
1996 is principally due to the addition of the Bennett Funding Group loans of
$3.3 million, which are collateralized by lease receivables and cash. The
Bennett Funding Group filed for Bankruptcy during 1996, and collection of these
loans has been delayed by the bankruptcy proceedings. Net income is adversely
impacted by the level of non-performing assets caused by the deterioration of
borrowers' ability to meet scheduled interest and principal payments. In
addition to forgone revenue, the Company must increase the level of provisions
for loan losses, incur higher collection costs, and other costs associated with
the management and disposition of foreclosed properties.
The most significant non-performing loans have been in construction loans
and real estate related commercial loans and, in 1997 and 1996, the Bennett
Funding Group loans discussed above. Although the Bank has an aggressive
foreclosure policy, the process is slow and is hampered by legal and market
factors. Non-performing assets negatively impact the Company's net interest
income and operating results. Net loan charge-offs against the allowance for
loan losses increased in 1997 to $504,000 compared to 1996 and decreased in 1996
to $437,000 from $616,000 in 1995. At December 31, 1997, restructured loans
decreased to $.6 million from $2.1 million in 1996, compared to $4.1 million in
1995. Loans considered to be impaired under SFAS No. 114 approximated $4.6
million and $7.8 million (including the Bennett Funding Group loans) at December
31, 1997 and 1996, respectively.
Provision for Loan Losses
The allowance for loan losses is available to absorb charge-offs from any
loan category, while additions are made through charges to income and recoveries
of loans previously charged-off. An evaluation of the quality of the loan
portfolio is performed by management on a quarterly basis as an integral part of
the loan review function, which includes the identification of past due loans,
non-performing loans and impaired loans, assessments of the expected effects of
the current economic environment on the loan portfolio and a review of the
historical loss experience. Based upon management's assessment of the degree of
risk associated with the various elements of the loan portfolio, it is estimated
that at December 31, 1997 and 1996, 5 percent and 6 percent of the allowance for
loan losses, respectively, is applicable to time and demand loans, 65 percent
and 66 percent, respectively, relate to loans secured by real estate, including
commercial and construction loans, and 30 percent and 28 percent, respectively,
is applicable to installment, credit card and other loans.
As with any financial institution, poor economic conditions, high
inflation, high interest rates, or high unemployment may lead to increased
losses in the loan portfolio. Conversely, improvements in economic conditions
tend to reduce the amounts charged against the allowance. Management has
established various controls, in addition to strict underwriting standards, in
order to limit future losses, such as (1) a "watchlist" of possible problem
loans, (2) various loan policies concerning loan administration (loan file
documentation, disclosures, approvals, etc.), and (3) a loan review staff
employed by the Company to determine compliance with established controls and to
review the quality and anticipated collectibility of the portfolio. Management
determines which loans are possibly uncollectible and makes additional
provisions, if necessary, to state the allowance at a satisfactory level.
Management takes a prudent and cautious position in evaluating various
business and economic uncertainties in relation to the Company's loan portfolio.
In management's judgment, the allowance is considered adequate to absorb
potential losses inherent in the credit portfolio. A substantial portion (89
percent at December 31, 1997) of the loans of the Company are collateralized by
real estate, primarily located in the New York Metropolitan area. The
collectibility of the loan portfolio of the Company is subject to changes in the
real estate market in which the Company operates. The provisions for loan losses
established in 1997, 1996 and 1995, and the related allowance for loan losses as
set forth in the Notes to Consolidated Financial Statements reflect net
charge-offs and losses incurred with respect to real estate foreclosures, and
the effect of the real estate market in the New York metropolitan area on the
loan portfolio.
Management believes the allowance for loan losses at December 31, 1997,
appropriately reflects the risk elements inherent in the total loan portfolio at
that time. There is no assurance that the Company will not be required to make
future adjustments to the allowance in response to changing economic conditions
or regulatory examinations. During 1997, the FDIC, and during 1996 the New York
State Banking Department, completed examinations of the Bank. In January 1998,
the Federal Reserve
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completed an off-site examination of the Company. The Office of Thrift
Supervision examined Royal in 1995. The regulatory agencies concluded that the
process of internal asset review and the allowance for loan losses were
adequate.
Loan Maturities and Sensitivity to Change in Interest Rates
The following table presents the maturities of loans outstanding at December 31,
1997 (excluding installment loans to individuals and real estate loans other
than construction loans), and the amount of such loans by maturity date that
have predetermined interest rates and the amounts that have floating rates.
<TABLE>
<CAPTION>
December 31, 1997
- ---------------------------------------------------------------------------------------------
After
1 But
Within Within After
(000's, except for percentages) 1 Year 5 Years 5 Years Total Percent
- ---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Loans:
Time and demand loans $26,885 $ 2,731 $1,884 $ 31,500 25%
Commercial installment loans 922 10,834 -- 11,756 10
Mortgage construction loans 59,315 22,418 -- 81,733 65
- ---------------------------------------------------------------------------------------------
Total $87,122 $35,983 $1,884 $124,989 100%
- ---------------------------------------------------------------------------------------------
Rate Sensitivity:
- ---------------------------------------------------------------------------------------------
Fixed or predetermined interest rates $ 1,512 $14,187 $ 62 $ 15,761 13%
Floating or adjustable interest rates 85,610 21,796 1,822 109,228 87
- ---------------------------------------------------------------------------------------------
Total $87,122 $35,983 $1,884 $124,989 100%
- ---------------------------------------------------------------------------------------------
Percent 70% 29% 1% 100%
=============================================================================================
</TABLE>
Deposits
The Company's fundamental source of funds supporting interest earning
assets continues to be deposits, consisting of demand deposits (non-interest
bearing), NOW, money market, savings, and various forms of time deposits. The
maintenance of a strong deposit base is key to the development of lending
opportunities and creates long-term customer relationships, which enhance the
ability to cross-sell services. Depositors include individuals, small and large
businesses and governmental units. To meet the requirements of a diverse
customer base, a full range of deposit instruments are offered, which has
allowed the Company to maintain and expand the deposit base despite intense
competition from other banking institutions and non-bank financial service
providers.
Total deposits at the end of 1997 increased 16.9 percent to $797.8
million, from $682.3 million at December 31, 1996, an increase of 11.7 percent
from $610.6 million in 1995. Average deposits outstanding increased 15.1 percent
in 1997 and 12.1 percent in 1996. Average non-interest bearing deposits
increased 22.2 percent or $18.3 million at December 31, 1997 compared to 1996,
and 9.2 percent in 1996 compared to 1995, due to business development efforts.
Average interest bearing deposits in 1997 increased $82.4 million and in 1996
increased approximately $64.7 million, reflecting increases in all deposit
categories, except for money market accounts. Average balances in NOW deposits
increased $5.2 million in 1997 and $.4 million in 1996, due principally to
increased account activity by customers. The decrease of $6.9 million in 1997
and $11.3 million in 1996 in average money market deposit balances principally
resulted from decreased deposits of local municipalities and customers, as the
rate on the money market account was maintained at a lower competitive rate, and
customers switched to time deposits and other higher rate accounts. Savings
deposits average balances increased $30.1 million in 1997 and $63.0 million in
1996, due to the marketing of higher interest rate savings accounts in both
years. In 1997 and 1996, average time deposits outstanding increased $54.0
million and $12.6 million, respectively, due to promotion of attractive rate
products. In general, the lower interest rate environments in 1997 and 1996,
compared to 1995 caused interest rates to remain relatively stable in 1997 and
to decrease in 1996 in all products, except for savings accounts due to the
increase of deposits in higher rate savings products. In 1997, time deposits
over $100,000 increased $65.1 million as municipal deposits
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were used to fund security purchases and balance sheet leverage. In 1996, time
deposits over $100,000 decreased $8.8 million compared to 1995, as funding from
retail/deposits and borrowings decreased the need for municipal deposits.
Deposits of over $100,000 are generally for maturities of 30 to 180 days and are
acquired to fund loans and securities, under the Company's asset liability
policy and to leverage excess capital by matching such funds with investments
and loan production in excess of deposit growth. The Company does not generally
acquire brokered deposits.
The Federal Reserve continues to maintain higher short-term rates to control
inflation. Accordingly, it is expected that depositors will continue to favor
short-term deposit products, which result in higher volatility of interest
margins due to the quick repricing of deposits during periods of both rising and
declining interest rates.
The following table summarizes the average amounts and rates of various
classifications of deposits for the periods indicated:
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------
(000's, except for percentages)
Year Ended December 31,
1997 1996 1995
Average Average Average Average Average Average
Amount Rate Amount Rate Amount Rate
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Demand deposits $ 100,792 -- $ 82,491 -- $ 75,564 --
NOW accounts 46,275 1.7% 41,055 1.6% 40,667 1.6%
Money market accounts 46,886 2.6 53,794 2.7 65,080
3.0
Savings deposits 237,041 4.0 206,932 3.9
143,931 3.3
Time deposits 335,204 5.6 281,178 5.5
268,611 6.0
- -----------------------------------------------------------------------------------------------------------
Total $ 766,198 4.0% $ 665,450 3.9% $ 593,853 3.9%
===========================================================================================================
</TABLE>
Capital Resources
Strong capitalization is fundamental to the successful operation of a
banking organization. Stockholders' equity increased to $62.6 million in 1997,
or 10.2 percent over $56.9 million in 1996. There was a 10.8 percent increase in
1996, over the $51.3 million in 1995. The increases in all years were due to the
Company's record net income and common stock issuances under the Company's
various stock plans, offset by cash dividends and repayments of $3,250,000 and
$500,000 of preferred stock in 1997 and 1996, respectively, and shares held in
trust for deferred compensation of $1.4 million in 1997. Stockholders' equity
was also increased $1.9 million at December 31, 1997 and was decreased by $1.7
million at December 31, 1996, as a result of the implementation of SFAS No. 115,
which reflects the effect of unrealized gains and losses on available for sale
securities, net of tax. Cash dividends on the Company's common stock have been
paid since 1986, the first dividend paid in the Company's history. In the first
quarter of 1988, the Board of Directors authorized a quarterly cash dividend
policy. Cash dividends on the Company's preferred stock commenced in 1989, and
terminated in February 1997 upon redemption of all outstanding preferred stock.
The various components and changes in stockholders' equity are reflected
in the Consolidated Statements of Changes in Stockholders' Equity for the years
ended December 31, 1997, 1996 and 1995, included elsewhere herein.
Regulatory capital was further increased in February 1997 with the
issuance of $20 million, 9.58% Capital Securities which qualify for Tier I
capital treatment by the Federal Reserve Bank.
Management believes that the recently issued Capital Securities, future
retained earnings, and stock purchases under the employee benefit plans, will
provide the necessary capital for current operations and the planned growth in
total assets. In addition, capital growth can be acquired through the
reinstatement of the Company's Dividend Reinvestment and Optional Stock Purchase
Plan, which has been temporarily suspended.
All banks and bank holding companies are subject to risk-based capital
guidelines. These guidelines define capital as Tier I and Tier II capital. Tier
I capital consists of common stockholders' equity and qualifying preferred
stock, less intangibles; and Tier II capital consists of Tier I capital plus the
allowance for possible loan losses up to certain limits, preferred stock and
certain subordinated and term-debt securities. The guidelines require a minimum
total (Tier I plus Tier II) risk-based capital ratio of 8.0 percent, and a
minimum Tier I risk-based capital ratio of 4.0 percent.
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The risk-based capital ratios at December 31, follows:
- -------------------------------------------
1997 1996 1995
- -------------------------------------------
Tier I Capital:
Company 12.63% 10.45% 11.37%
Bank 12.35% 10.36% 11.19%
Total Capital:
Company 13.80% 11.50% 12.26%
Bank 13.55% 11.41% 12.08%
===========================================
Banks and bank holding companies must also maintain a minimum leverage
ratio of at least 3 percent, which consists of Tier I capital based on
risk-based capital guidelines, divided by average tangible assets (excluding
intangible assets that were deducted to arrive at Tier I capital).
The leverage ratios were as follows at December 31:
- -------------------------------------------
1997 1996 1995
- -------------------------------------------
Company 8.26% 7.06% 7.43%
Bank 8.09% 7.01% 7.63%
===========================================
To be considered "well-capitalized" under FDICIA, an institution must
generally have a leverage ratio of at least 5 percent, Tier I ratio of 6 percent
and Tier II ratio of 10 percent. The Bank exceeds all current regulatory capital
requirements and was in the "well-capitalized" category at December 31, 1997.
Management fully expects that the Bank will maintain a strong capital position
in the future.
Pursuant to the Financial Institutions Reform, Recovery and Enforcement
Act of 1989 ("FIRREA") and further expanded by FDICIA, Royal was required to
meet minimum regulatory tangible (1.50 percent), core leverage (3 percent), and
risk-based capital ratios. At all times while it was owned by the Company, Royal
exceeded all current and fully-phased-in capital requirements as stipulated by
each of these acts.
Liquidity
The Asset/Liability Committee ("ALCO") establishes specific policies and
operating procedures governing the Company's liquidity levels and develops plans
to address future liquidity needs. The primary functions of asset/liability
management are to provide safety of depositor and investor funds, assure
adequate liquidity and maintain an appropriate balance between interest earning
assets and interest bearing liabilities. Liquidity manage-ment involves the
ability to meet the cash flow requirements of customers who may be either
depositors wanting to withdraw funds or borrowers needing assurance that
sufficient funds will be available to meet their credit needs. Interest rate
sensitivity management seeks to avoid fluctuating net interest margins and to
enhance consistent growth of net interest income through periods of changing
interest rates.
Aside from Cash on Hand and Due from Banks, the Bank's liquid assets are
federal funds sold, which are available daily, and interest bearing deposits
with banks. The Bank invests excess liquid funds by selling federal funds, which
mature daily, to other financial institutions in need of funds. At December 31,
1997, the Bank sold overnight federal funds in the amount of $25.8 million at a
weighted-average interest rate of 5.93 percent.
Other sources of asset liquidity include maturities and principal and
interest payments on securities and loans. The securities and loan portfolios
are of high credit quality and of mixed maturity, providing a constant stream of
maturing and reinvestable assets, which can be converted into cash should the
need arise. The ability to redeploy these funds is an important source of medium
to long-term liquidity. The amortized cost of securities available for sale
having contractual maturities or expected call dates or average lives of one
year or less amounted to $39.1 million, while held to maturity securities
maturing in one year or less amounted to $52.1 million, for a total of $91.1
million at December 31, 1997. This represented 24.1 percent of the amortized
cost of the securities portfolio, compared to 3.9 percent of the securities
portfolio maturing within one year at December 31, 1996. Excluding installment
loans to individuals and real estate loans other than construction loans, $87.1
million, or 70 percent of loans (including loans held for sale) at December 31,
1997, mature in one year or less. As a preferred seller of mortgages to both
FHLMC and FNMA, the Bank may increase liquidity by selling residential
mortgages, or exchanging them for mortgage backed securities that may be sold,
in the secondary market.
The Bank is a member of the FHLB. The Bank may take advances of up to
$307.0 million at December 31, 1997, at various terms on the security of the
FHLB capital stock owned and to be purchased by the Bank and certain other
assets of the Bank.In addition, the Bank has arrangements with two primary
investment firms to borrow up to $50.0 million under master securities sales and
repurchase agreements. The Bank had advances aggregating $59.2 million from the
FHLB and $74.6 million borrowed under securities sold under agreements to
repurchase at December 31, 1997. The Bank may also borrow up
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to $11.0 million overnight under federal fund purchase agreements with three
correspondent banks. Additional liquidity is provided by the ability to borrow
from the Federal Reserve Bank's discount window, which borrowings must be
collateralized with U.S. Treasury and government agency securities.
The Bank pledges certain of its assets as collateral for deposits of
municipalities, FHLB borrowings and repurchase agreements. By utilizing
collateralized funding sources, the Bank is able to access a variety of cost
effective sources of funds. The assets pledged consist of mortgage-backed and
other securities. Management monitors its liquidity requirements by assessing
assets pledged, the level of assets available for sale, additional borrowing
capacity and other factors. Management does not anticipate any negative impact
to its liquidity from its pledging activities.
Demand deposits from individuals, businesses and institutions, as well as
retail time deposits ("core deposits") are a relatively stable, low-cost source
of funds. The deposits of the Bank generally have shown a steady growth trend.
However, the trend of the deposit mix has generally been toward deposits of
shorter average maturity, with a larger percentage of funds in savings deposits
and shorter term certificates of deposit, while money market accounts as a
percentage of total deposits declined as depositors favored the higher rates
offered by high balance savings accounts and time deposit products.
Another source of funding for the Company is capital market funds, which
includes preferred stock, convertible debentures, the Capital Securities, common
stock, retained earnings and long-term debt qualifying as regulatory capital.
Each of the Company's sources of liquidity is vulnerable to various
uncertainties beyond the control of the Company. Scheduled loan and security
payments are a relatively stable source of funds, while loan and security
prepayments and calls, and deposit flows vary widely in reaction to market
conditions, primarily prevailing interest rates. Asset sales are influenced by
general market interest rates and other unforeseen market conditions. The
Company's ability to borrow at attractive rates is affected by its financial
condition and other market conditions.
Management considers the Company's sources of liquidity to be adequate to
meet any expected funding needs and also to be responsive to changing interest
rate markets. Market Risk
Market risk is the potential for economic losses to be incurred on market
risk sensitive instruments arising from adverse changes in market indices such
as interest rates, foreign currency exchange rates and commodity prices. Since
all Company transactions are denominated in U.S. dollars with no direct foreign
exchange or changes in commodity price exposures, the Company's primary market
risk exposure is interest rate risk.
Interest rate risk is the exposure of net interest income to changes in
interest rates. Interest rate sensitivity is the relationship between market
interest rates and net interest income due to the repricing characteristics of
assets and liabilities. If more liabilities than assets reprice in a given
period (a liability-sensitive position), market interest rate changes will be
reflected more quickly in liability rates. If interest rates decline, such
positions will generally benefit net interest income. Alternatively, where
assets reprice more quickly than liabilities in a given period (an
asset-sensitive position), a decline in market rates could have an adverse
effect on net interest income. Excessive levels of interest rate risk can result
in a material adverse effect on the Company's future financial condition and
results of operations. Accordingly, effective risk management techniques that
maintain interest rate risk at prudent levels is essential to the Company's
safety and soundness.
All market risk sensitve instruments are held to maturity or available for
sale. The Company has no financial instruments entered into for trading
purposes. Federal funds, both purchases and sales, on which rates change daily,
and loans and deposits tied to certain indices, such as the prime rate and
Federal Discount rate, are the most market rate sensitive and have the most
stable fair values. The least sensitive instruments include long-term fixed rate
loans and securities, and fixed rate retail savings deposits, which have the
least stable fair values. On those types falling between these extremes, the
management of maturity distributions is as important as the balances maintained.
The management techniques for maturity distributions involve the matching of
interest rate maturities, as well as principal maturities, and is a key
determinant of net interest income. In periods of rapidly changing interest
rates, an imbalance ("gap") between the rate sensitive assets and liabilities
can cause major fluctuations in net interest income and in earnings. The
Company's management of liquidity and interest rate sensitivity has been
successful in the past, as evidenced by the continued net interest income
growth. Continuing to establish patterns of sensitivity which will
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enhance future growth regardless of frequent shifts in market conditions is one
of the objectives of the Company's asset/liability management strategy.
Evaluating the Company's exposure to changes in interest rates is the
responsibility of ALCO and includes assessing both the adequacy of the
management process used to control interest rate risk and the quantitative level
of exposure. When assessing the interest rate risk management process, the
Company seeks to ensure that appropriate policies, procedures, management
information systems and internal controls are in place to maintain interest rate
risk at appropriate levels. Evaluating the quantitative level of interest rate
risk exposure requires the Company to assess the existing and potential future
effects of changes in interest rates on its consolidated financial condition,
including capital adequacy, earnings, liquidity, and asset quality.
The Company uses two methods to evaluate its market risk to changes in
interest rates. A "Static Gap" evaluation and a simulation analysis of the
impact of changes in interest rates on the Company's net interest income.
Although, as further discussed below, the "Static Gap" analysis shows the
Company as liability-sensitive in the one-year time frame, the simulation
analysis indicates an asset sensitive position. This difference is due primarily
to the expected behavior of certain deposit accounts which do not reprice to the
full extent of changes in interest rates (i.e., NOW, money market and savings
accounts). The Company believes the simulation analysis is a more accurate
analysis of its interest rate risk.
The "Static Gap" is presented in the table on page 69. Balance sheet items
are appropriately categorized by contractual maturity, expected average lives
for mortgage-backed securities, or repricing dates, with prime rate indexed
loans and certificates of deposit, NOW accounts, savings accounts tied to the
Federal Discount rate, and retail money market deposits constituting the bulk of
the floating rate category. The determination of the interest rate sensitivity
of noncontractual items is arrived at in a subjective fashion. Passbook and
statement savings accounts are viewed as a relatively stable source of funds and
are therefore classified as intermediate funds.
On December 31, 1997, the "Static Gap" shows a negative cumulative gap of
$71.5 million in the one day to one year repricing period, due principally to
fixed rate securities and loans in the over one year to five years and over five
year categories to maximize yield on assets and the treatment of deposit
accounts as previously discussed above. A significant portion of the loans in
the over one year to five year category represents three and five year
adjustable rate commercial mortgages. Origination of such loans has allowed the
Company to generate an adjustable-rate asset repriceable within three to five
years to reduce long-term interest rate risk.
The Company also uses simulation analysis to estimate the effect that
specific movements in interest rates would have on net interest income. The
analysis incorporates management assumptions about the levels of future balance
sheet trends, different patterns of interest rate movements, and changing
relationships between interest rates (i.e. basis risk). These assumptions have
been developed through a combination of historical analysis and future expected
pricing behavior. For a given level of market interest rate changes, the
simulation can consider the impact of the varying behavior of cash flows from
principal prepayments on the loan portfolio and mortgage-backed securities, call
activities on investment securities, balance changes on noncontractual maturity
deposit products (demand deposits, NOW, money market and passbook savings
accounts), and embedded option risk by taking into account the effects of
interest rate caps and floors. The impact of planned growth and anticipated new
business activities is not integrated into the simulation analysis. The Company
can assess the results of the simulation and, if necessary, implement suitable
strategies to adjust the structure of its assets and liabilities to reduce
potential unacceptable risks to net interest income.
The Company's policy limit on interest rate risk is that if interest rates
were to gradually ramp up or down 200 basis points from current rates, the
percentage change in estimated net interest income for the subsequent 12 month
measurement period should not decline by more than 5.0%. Net interest income is
forecasted using various interest rate scenarios that management believes are
reasonably likely to impact the Company's financial condition. A base case
scenario, in which current interest rates remain stable, is used for comparison
to other scenario simulations. The table below illustrates the estimated
exposures under a rising rate scenario and a declining rate scenario calculated
as a percentage change in estimated net interest income from the base case
scenario, assuming a gradual shift in interest rates for the next 12 month
measurement period, beginning December 31,1997. Informa-
67
<PAGE>
tion on the percentage change in estimated net cash flows from the base case
scenario is also shown. The cash flows are scheduled by expected maturity and
reflect the effects of changes in market rates.
- --------------------------------------------------------------------------------
Gradual Percentage Change Percentage Change
Change in in Estimated Net In Estimated Net
Interest Rates Interest Income Cash Flows
- --------------------------------------------------------------------------------
+200 basis points 0.2% (1.7)%
-200 (0.6) 3.5
================================================================================
As with any method of measuring interest rate risk, there are certain
limitations inherent in the method of analysis presented. Actual results may
differ significantly from simulated results should market conditions and
management strategies, among other factors, vary from the assumptions used in
the analysis. The model assumes that certain assets and liabilities of similar
maturity or period to repricing will react the same to changes in interest
rates, but, in reality, they may react in different degrees to changes in market
interest rates. Specific types of financial instruments may fluctuate in advance
of changes in market interest rates, while other types of financial instruments
may lag behind changes in market interest rates. Additionally, other assets,
such as adjustable-rate loans, have features which restrict changes in interest
rates on a short-term basis and over the life of the asset. Furthermore, in the
event of a change in interest rates, expected rates of prepayments on loans and
securities and early withdrawals from time deposits could deviate significantly
from those assumed in the simulation.
One way to minimize interest rate risk is to maintain a balanced or
matched interest rate sensitivity position. However, profits are not always
maximized by matched funding. To increase net interest earnings, the Company
selectively mismatches asset and liability repricing to take advantage of
short-term interest rate movements and the shape of the U.S. Treasury yield
curve. The magnitude of the mismatch depends on a careful assessment of the
risks presented by forecasted interest rate movements. The risk inherent in such
a mismatch, or gap, is that interest rates may not move as anticipated.
Short-term interest rate risk exposure is reviewed in weekly meetings in
which guidelines are established for the following week and the longer term
exposure. The structural interest rate mismatch is reviewed periodically by the
Company's Asset and Liability Policy Committee.
Risk is mitigated by matching maturities or repricing more closely, and by
reducing interest rate risk by the use of interest rate contracts. The Company
does not use derivative financial instruments extensively. However, as
circumstances warrant, the Company purchases derivatives such as interest rate
contracts to manage its interest rate exposure. Any derivative financial
instruments are carefully evaluated to determine the impact on the Company's
interest rate risk in rising and declining interest rate environments, as well
as the fair value of the derivative instruments. Use of derivative financial
instruments is included in the Bank's investment policy, which has been approved
by the Board of Directors. Additional information on derivative financial
instruments is presented in Note 16 to the Consolidated Financial Statements.
68
<PAGE>
USB
- --------------------------------------------------------------------------------
INTEREST RATE SENSITIVITY ANALYSIS
BY REPRICING DATE
<TABLE>
<CAPTION>
December 31, 1997 (000's, except percentages)
- --------------------------------------------------------------------------------------------------------------------------------
One Over Over Over
Day and One Day Three One Year Over Non-
Floating to Three Months to to Five Five Interest
Rate Months One Year Years Years Bearing Total
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Assets:
Loans $219,585 $ 16,396 $ 56,015 $ 172,125 $ 91,988 -- $ 556,109
Mortgage-backed securities -- 83,762 947 11,287 57,658 -- 153,654
Other securities -- 76,823 17,100 88,641 44,682 -- 227,246
Other earning assets 25,800 -- -- -- -- -- 25,800
Other assets -- 13,723 -- -- -- $ 46,868 60,591
- --------------------------------------------------------------------------------------------------------------------------------
Total Assets 245,385 190,704 74,062 272,053 194,328 46,868 1,023,400
- --------------------------------------------------------------------------------------------------------------------------------
Liabilities and Equity:
Interest bearing deposits 127,505 193,955 170,440 199,757 100 -- 691,757
Other borrowed funds -- 69,863 10,000 21,501 32,439 -- 133,803
Corporation-Obligated mandatory
redeemable capital securities of
subsidiary trust -- -- -- -- 20,000 -- 20,000
Demand deposits -- -- -- -- -- 106,038 106,038
Other liabilities -- -- 137 -- -- 9,026 9,163
Stockholders' equity -- -- -- -- -- 62,639 62,639
- --------------------------------------------------------------------------------------------------------------------------------
Total liabilities and equity 127,505 263,818 180,577 221,258 52,539 177,703 1,023,400
- --------------------------------------------------------------------------------------------------------------------------------
Net Interest Rate Sensitivity Gap $117,880 $ (73,114) $(106,515) $ 50,795 $141,789 $(130,835) $ --
================================================================================================================================
Cumulative Gap $117,880 $ 44,766 $ (61,749) $ (10,954) $130,835 $ -- $ --
================================================================================================================================
Cumulative Gap to
Interest-Earning Assets 12.2% 4.6% (6.4)% (1.1)% 13.6% -- --
================================================================================================================================
</TABLE>
Year 2000 Issue
The "Year 2000" Issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Computer
programs that have date-sensitive software may recognize a date using "00" as
the year 1900 rather than the year 2000. This could result in a system failure
or miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, generate accurate
customer statements, or engage in similar normal business activities.
The Company has established a Year 2000 committee which has begun the
process of identifying and assessing each system to determine its ability to
operate within a four digit date criteria, so it will be able to effectively
process Year 2000 transactions. The Year 2000 committee reports its progress
quarterly to the Bank's and Company's Boards of Directors.
The Company has initiated formal communications with all of its software
and hardware vendors, and will contact its large customers to determine the
extent to which the Company is vulnerable to those third parties' failures to
remediate their own Year 2000 Issues. The Company's major core system software
vendor has confirmed that such software is already Year 2000 compliant. The
Company has, or is in the process of, obtaining assurances from other vendors
that software provided by them is Year 2000 compliant or that timely updates
will be made available to make all such software Year 2000 compliant. The
Company expects to have identified and tested all significant Year 2000
sensitive systems by December 31, 1998. However, there can be no guarantee that
the systems of other entities on which the Bank's systems rely will be timely
converted, or that a failure to convert by another entity, or a conversion that
is incompatible with the Company's systems, would not have a material adverse
effect on the Company.
69
<PAGE>
- --------------------------------------------------------------------------------
The Company's Year 2000 project cost to date and estimates to complete are
not expected to be significant. Such costs are being expensed as incurred. The
cost of the project and the date on which the Company plans to complete the Year
2000 modifications are based on management's best estimates, which were derived
utilizing numerous assumptions of future events including the availability of
certain resources, third party modification plans and other factors. However,
there can be no guarantee that these estimates will be achieved and actual
results could differ materially from those plans.
The Company will continue to evaluate all issues with respect to the Year
2000 problem to minimize the impact on its operations and financial condition.
Financial Ratios
Significant ratios of the Company for the periods indicated are as follows:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------
Year Ended December 31,
1997 1996 1995
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Earnings Ratio Net Income as a percentage of:
Average earning assets 1.19% 1.32% 1.52%
Average total assets 1.12% 1.25% 1.42%
Average common stockholders' equity 17.95% 18.60% 22.17%
Average total stockholders' equity 17.82% 17.92% 21.00%
Capital Ratios
Average common stockholders' equity to average total assets 6.21% 6.52% 6.21%
Average total stockholders' equity to average total assets 6.27% 6.99% 6.78%
Average total stockholders' equity, Corporation-obligated
mandatory redeemable capital securities of subsidiary
trust and long-term debt qualifying as regulatory capital
to average total assets 8.21% 6.99% 6.89%
Average net loans as a multiple of average total stockholders' equity 9.00 8.47 7.93
Leverage capital 8.26% 7.06% 7.43%
Tier I capital (to risk weighted assets) 12.63% 10.45% 11.37%
Total risk-based capital (to risk weighted assets) 13.80% 11.50% 12.26%
Other
Allowance for loan losses as a percentage of year-end net loans 1.36% 1.15% 1.01%
Loans (net) as a percentage of year-end total assets 54.3% 62.0% 57.1%
Loans (net) as a percentage of year-end total deposits 69.7% 73.0% 63.4%
Securities as a percentage of year-end total assets 37.2% 31.1% 34.1%
Average interest-earning assets as a percentage of average interest-
bearing liabilities 114.6% 115.8% 115.5%
Dividends per share as a percentage of diluted earnings per
share 24.7% 21.3% 18.9%
======================================================================================================
</TABLE>
70
U.S.B. HOLDING CO., INC.
SUBSIDIARIES
EXHIBIT 21
December 31, 1997
Union State Bank
100 Dutch Hill Road
Orangeburg, New York 10962
Union State Capital Trust I
100 Dutch Hill Road
Orangeburg, New York 10962
Ad Con Inc.
100 Dutch Hill Road
Orangeburg, New York 10962
U.S.B. Realty Corp. (subsidiary of Union State Bank)
100 Dutch Hill Road
Orangeburg, New York 10962
U.S.B. Financial Services, Inc. (subsidiary of Union State Bank)
100 Dutch Hill Road
Orangeburg, New York 10962
Dutch Hill Realty Corp. (subsidiary of Union State Bank)
100 Dutch Hill Road
Orangeburg, New York 10962
EXHIBIT 23
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.
33-72788 of U.S.B. Holding Co., Inc. (the "Corporation") on Form S-3 and
Registration Statement Nos. 333-43797, 333-27451, 33-80678 and 2-90674 on Forms
S-8 of our report dated January 28, 1998 (March 6, 1998 as to Note 19 relating
to a merger agreement), incorporated by reference in the Corporation's 1997
Annual Report on Form 10-K and appearing in the Corporation's 1997 Annual Report
to Shareholders.
/s/ Deloitte & Touche LLP
Stamford, Connecticut
March 25, 1998
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C> <C> <C> <C> <C>
<PERIOD-TYPE> 12-MOS 3-MOS 3-MOS 3-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1997 DEC-31-1997 DEC-31-1997 DEC-31-1996
<PERIOD-START> JAN-01-1997 JUL-01-1997 APR-01-1997 JAN-01-1997 JAN-01-1996
<PERIOD-END> DEC-31-1997 SEP-30-1997 JUN-30-1997 MAR-31-1997 DEC-31-1996
<CASH> 19,622 0 0 0 0
<INT-BEARING-DEPOSITS> 0 0 0 0 0
<FED-FUNDS-SOLD> 25,800 0 0 0 0
<TRADING-ASSETS> 0 0 0 0 0
<INVESTMENTS-HELD-FOR-SALE> 243,723 0 0 0 0
<INVESTMENTS-CARRYING> 137,177 0 0 0 0
<INVESTMENTS-MARKET> 383,594 0 0 0 0
<LOANS> 563,667 0 0 0 0
<ALLOWANCE> 7,558 0 0 0 0
<TOTAL-ASSETS> 1,023,400 0 0 0 0
<DEPOSITS> 797,795 0 0 0 0
<SHORT-TERM> 69,863 0 0 0 0
<LIABILITIES-OTHER> 9,026 0 0 0 0
<LONG-TERM> 63,940 0 0 0 0
0 0 0 0 0
0 0 0 0 0
<COMMON> 62,790 0 0 0 0
<OTHER-SE> (151) 0 0 0 0
<TOTAL-LIABILITIES-AND-EQUITY> 1,023,400 0 0 0 0
<INTEREST-LOAN> 47,897 0 0 0 0
<INTEREST-INVEST> 22,418 0 0 0 0
<INTEREST-OTHER> 597 0 0 0 0
<INTEREST-TOTAL> 70,912 0 0 0 0
<INTEREST-DEPOSIT> 30,521 0 0 0 0
<INTEREST-EXPENSE> 37,106 0 0 0 0
<INTEREST-INCOME-NET> 33,806 0 0 0 0
<LOAN-LOSSES> 2,320 0 0 0 0
<SECURITIES-GAINS> 1,004 0 0 0 0
<EXPENSE-OTHER> 21,388 0 0 0 0
<INCOME-PRETAX> 14,633 0 0 0 0
<INCOME-PRE-EXTRAORDINARY> 10,402 0 0 0 0
<EXTRAORDINARY> 0 0 0 0 0
<CHANGES> 0 0 0 0 0
<NET-INCOME> 10,402 0 0 0 0
<EPS-PRIMARY> .84 .22 .20 .19 .74
<EPS-DILUTED> .77 .20 .19 .17 .70
<YIELD-ACTUAL> 0 0 0 0 0
<LOANS-NON> 5,814 0 0 0 0
<LOANS-PAST> 97 0 0 0 0
<LOANS-TROUBLED> 0 0 0 0 0
<LOANS-PROBLEM> 0 0 0 0 0
<ALLOWANCE-OPEN> 5,742 0 0 0 0
<CHARGE-OFFS> 669 0 0 0 0
<RECOVERIES> 165 0 0 0 0
<ALLOWANCE-CLOSE> 7,558 0 0 0 0
<ALLOWANCE-DOMESTIC> 7,558 0 0 0 0
<ALLOWANCE-FOREIGN> 0 0 0 0 0
<ALLOWANCE-UNALLOCATED> 0 0 0 0 0
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<RESTATED>
<MULTIPLIER> 1,000
<S> <C> <C> <C>
<PERIOD-TYPE> 3-MOS 3-MOS 3-MOS
<FISCAL-YEAR-END> DEC-31-1996 DEC-31-1996 DEC-31-1996
<PERIOD-START> JUL-01-1996 APR-01-1996 JAN-01-1996
<PERIOD-END> SEP-30-1996 JUN-30-1996 MAR-31-1996
<CASH> 0 0 0
<INT-BEARING-DEPOSITS> 0 0 0
<FED-FUNDS-SOLD> 0 0 0
<TRADING-ASSETS> 0 0 0
<INVESTMENTS-HELD-FOR-SALE> 0 0 0
<INVESTMENTS-CARRYING> 0 0 0
<INVESTMENTS-MARKET> 0 0 0
<LOANS> 0 0 0
<ALLOWANCE> 0 0 0
<TOTAL-ASSETS> 0 0 0
<DEPOSITS> 0 0 0
<SHORT-TERM> 0 0 0
<LIABILITIES-OTHER> 0 0 0
<LONG-TERM> 0 0 0
0 0 0
0 0 0
<COMMON> 0 0 0
<OTHER-SE> 0 0 0
<TOTAL-LIABILITIES-AND-EQUITY> 0 0 0
<INTEREST-LOAN> 0 0 0
<INTEREST-INVEST> 0 0 0
<INTEREST-OTHER> 0 0 0
<INTEREST-TOTAL> 0 0 0
<INTEREST-DEPOSIT> 0 0 0
<INTEREST-EXPENSE> 0 0 0
<INTEREST-INCOME-NET> 0 0 0
<LOAN-LOSSES> 0 0 0
<SECURITIES-GAINS> 0 0 0
<EXPENSE-OTHER> 0 0 0
<INCOME-PRETAX> 0 0 0
<INCOME-PRE-EXTRAORDINARY> 0 0 0
<EXTRAORDINARY> 0 0 0
<CHANGES> 0 0 0
<NET-INCOME> 0 0 0
<EPS-PRIMARY> .17 .17 .17
<EPS-DILUTED> .16 .16 .17
<YIELD-ACTUAL> 0 0 0
<LOANS-NON> 0 0 0
<LOANS-PAST> 0 0 0
<LOANS-TROUBLED> 0 0 0
<LOANS-PROBLEM> 0 0 0
<ALLOWANCE-OPEN> 0 0 0
<CHARGE-OFFS> 0 0 0
<RECOVERIES> 0 0 0
<ALLOWANCE-CLOSE> 0 0 0
<ALLOWANCE-DOMESTIC> 0 0 0
<ALLOWANCE-FOREIGN> 0 0 0
<ALLOWANCE-UNALLOCATED> 0 0 0
</TABLE>
