<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1996
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For transition period from ______________ to ____________
Commission File Number 0-14484
MERCHANTS BANCORP, INC.
------------------------------------------------------
(Exact name of Registrant as specified in its charter)
DELAWARE 36-3182868
--------------------------------- ----------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization Identification Number)
34 SOUTH BROADWAY, AURORA, ILLINOIS 60507
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
(630) 896-9000
----------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's
classes of common stock as of the latest practicable date: As of September 30,
1996, the Registrant had outstanding 2,576,767 shares of common stock,
$1.00 par value per share.
<PAGE>
MERCHANTS BANCORP, INC.
Form 10-Q Quarterly Report
Table of Contents
PART 1
PAGE NUMBER
ITEM 1. FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . . . . . . 1
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS . . . . . . . . . 6
PART II
ITEM 1. LEGAL PROCEEDINGS . . . . . . . . . . . . . . . . . . . . . . . 12
ITEM 2. CHANGES IN SECURITIES . . . . . . . . . . . . . . . . . . . . . 12
ITEM 3. DEFAULTS UPON SENIOR SECURITIES . . . . . . . . . . . . . . . . 12
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS . . . . . . 12
ITEM 5. OTHER INFORMATION . . . . . . . . . . . . . . . . . . . . . . . 12
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K . . . . . . . . . . . . . . . . 12
FORM 10-Q SIGNATURE PAGE . . . . . . . . . . . . . . . . . . . . . . . . 13
<PAGE>
Part I - FINANCIAL INFORMATION
MERCHANTS BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
ASSETS SEPTEMBER 30, 1996 DECEMBER 31, 1995
<S> <C> <C>
Cash and due from banks $ 45,905 $ 28,166
Federal funds sold 3,306 0
Securities available for sale 206,760 187,169
Loans held for sale 4,953 4,340
Loans 417,937 304,327
Allowance for loan losses 6,542 5,176
--------- ---------
Net loans 411,395 299,151
Premises and equipment, net 12,174 9,504
Other real estate owned 380 566
Goodwill 7,417 0
Core deposit intangibles 2,553 329
Net sales of acquired subsidiaries, held for sale 8,189 0
Accrued interest and other assets 8,335 10,536
--------- ---------
Total assets $ 711,367 $ 539,761
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits:
Noninterest-bearing $ 120,051 $ 76,008
Interest-bearing 479,732 377,763
--------- ---------
Total deposits 599,783 453,771
Federal funds purchased and securities
sold under repurchase agreements 38,847 22,726
Notes payable 14,000 3,000
Accrued interest and other liabilities 3,085 6,170
--------- ---------
Total liabilities 655,715 485,667
STOCKHOLDERS' EQUITY
Preferred stock, $1 per value;
Authorized 500,000 shares; none issued -- --
Common stock, $1 par value authorized 6,000,000 shares;
issued 2,606,690 2,607 2,607
Surplus 18,435 18,344
Retained earnings 35,595 31,877
Unrealized net gain (loss) on securities available
for sale (822) 1,450
Treasury stock, at cost, 29,923 shares in 1996 and
36,411 shares in 1995 (163) (184)
--------- ---------
Total stockholders' equity 55,652 54,094
--------- ---------
Total liabilities and
stockholders' equity $ 711,367 $ 539,761
========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
MERCHANTS BANCORP, INC.
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1996 1995 1996 1995
<S> <C> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans $ 9,389 $ 7,097 $ 27,126 $ 20,915
Interst on securities:
Taxable 2,590 2,110 7,559 5,635
Tax-exempt 654 719 2,076 2,354
Interest on federal funds sold 159 455 359 690
--------- --------- --------- ---------
Total interest income 12,792 10,381 37,120 29,594
--------- --------- --------- ---------
INTEREST EXPENSE
Interest on deposits 5,533 4,507 16,364 12,010
Interest on federal funds purchased and
securities sold under repurchase agreements 416 473 1,241 1,448
Interest on note payable 130 37 464 110
--------- --------- --------- ---------
Total interest expense 6,079 5,017 18,069 13,568
--------- --------- --------- ---------
Net interest income 6,713 5,364 19,051 16,026
Provision for loan losses 654 397 1,627 1,381
--------- --------- --------- ---------
Net interest income after provision for loan losses 6,059 4,967 17,424 14,645
--------- --------- --------- ---------
OTHER INCOME
Trust income 513 478 1,522 1,437
Mortgage banking income 558 350 1,671 858
Service charges and fees 947 716 2,786 1,993
Securities gains, net 109 2 152 21
Other income 375 194 884 688
--------- --------- --------- ---------
Total other income 2,502 1,740 7,015 4,997
--------- --------- --------- ---------
OTHER EXPENSE
Salaries and employee benefits 3,205 2,541 9,264 7,327
Occupancy expense, net 409 282 1,186 785
Furniture and equipment expense 426 311 1,208 912
Amortization of intangible assets 197 25 592 75
Other expense 1,948 1,202 5,645 4,139
--------- --------- --------- ---------
Total other expense 6,185 4,361 17,895 13,238
--------- --------- --------- ---------
Income before income taxes 2,376 2,346 6,544 6,404
Provision for income taxes 666 669 1,745 1,834
--------- --------- --------- ---------
Net income $ 1,710 $ 1,677 $ 4,799 $ 4,570
========= ========= ========= =========
Earnings per share $0.66 $0.65 $1.86 $1.78
Cash dividends declared per share $0.14 $0.12 $0.42 $0.36
Weighted average shares outstanding 2,576,380 2,571,123 2,575,076 2,569,759
Ending shares outstanding 2,576,767 2,571,552 2,576,767 2,571,552
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE>
<TABLE>
<CAPTION>
MERCHANTS BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995
(DOLLARS IN THOUSANDS)
1996 1995
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 4,799 $ 4,570
Adjustments to reconcile net income to cash
from operating activities:
Depreciation and amortization 1,152 920
Provision for loan losses 1,627 1,381
Origination of mortgage loans held for sale (41,934) (29,274)
Proceeds from sales of mortgage loans held for sale 41,641 29,313
Net gain on sales of loans (320) (240)
Provision for deferred taxes 61 77
Decrease in net income taxes payable (46) (125)
Decrease in accrued interest and other assets 3,570 194
Decrease in accrued interest and other liabilities (3,698) (1,646)
Discount accretion on securities (274) (122)
Premium amortization on securities 682 657
Amortization of intangible assets 593 75
Other, net 111 28
---------- ----------
Net cash from operating activities 7,964 5,808
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from matured securities available for sale 39,149 19,332
Proceeds from sales of securities available for sale 19,974 9,682
Purchases of securities available for sale (59,417) (51,131)
Purchases of securities held to maturity 0 (1,208)
Net principal disbursed on loans (40,811) (10,271)
Proceeds from sales of other real estate 313 249
Purchase of subsidiaries, net of cash and cash equivalents acquired (5,134) 0
Purchase of subsidiaries, net assets held for sale (8,189) 0
Property and equipment expenditures (2,284) (991)
---------- ----------
Net cash from investing activities (56,399) (34,338)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in deposits 48,123 40,989
Net increase (decrease) in short-term borrowings 14,988 (13,756)
Repayment of notes payable (6,550) 0
Proceeds from notes payable 14,000 0
Dividends paid (1,081) (926)
---------- ----------
Net cash from financing activities 69,480 26,307
---------- ----------
Net change in cash and cash equivalents 21,045 (2,223)
Cash and cash equivalents at beginning of period 28,166 28,922
---------- ----------
Cash and cash equivalents at end of period $ 49,211 $ 26,699
---------- ----------
---------- ----------
Supplemental disclosures:
Income taxes paid $ 2,083 $ 1,959
Interest paid 17,919 13,199
Noncash transfer of loans to other real estate 132 88
See accompanying notes to consolidated financial statements.
</TABLE>
3
<PAGE>
MERCHANTS BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(TABLE AMOUNTS IN THOUSANDS)
NOTE 1: BASIS OF PRESENTATION
The financial information of Merchants Bancorp, Inc. (the "Company") included
herein is unaudited: however, such information reflects all adjustments
(consisting of normal recurring adjustments) which are, in the opinion of
management, necessary for a fair statement of results for the interim
periods. The results of the interim period ended September 30, 1996, are not
necessarily indicative of the results expected for the year ending December
31, 1996.
On January 3, 1996, the Company consummated the acquisition of Valley Banc
Services Corp. ("Valley") for cash in the amount of $20.5 million. The
Company borrowed $14 million to finance this transaction, which was accounted
for using the purchase method. Goodwill resulting from this transaction is
being amortized on a straight-line basis over a twenty year period, and core
deposit intangibles are being amortized on an accelerated basis over ten
years.
These financial statements fully consolidate the Company, Valley, Merchants
National Bank, Hinckley State Bank, and Fox Valley Bank. Two of Valley's
subsidiary banks, Anchor Bank and the State Bank of OSCO, are held for sale.
As such, the subsidiaries held for sale are not fully consolidated, but are
reflected as net assets held for sale in these financial statements. It is
anticipated that the sale of the two banks will be consummated during the
fourth quarter of 1996.
NOTE 2: SECURITIES
Amortized costs, gross of unrealized gains and losses, and fair values of
securities are summarized as follows:
<TABLE>
<CAPTION>
September 30, 1996
----------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ------
<S> <C> <C> <C> <C>
Securities available for sale:
U.S. Treasury $ 23,010 $ 4 $ (133) $ 22,881
U.S. Government agencies 76,490 175 (899) 75,766
U.S. Government agency
mortgage backed securities 44,736 238 (592) 44,382
States and political subdivisions 51,733 1,142 (763) 52,112
Collateralized mortgage obligations 9,256 6 (242) 9,020
Other securities 2,799 0 (200) 2,599
--------- ------- -------- ---------
$ 208,024 $ 1,565 $ (2,829) $ 206,760
--------- ------- -------- ---------
--------- ------- -------- ---------
December 31, 1995
----------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ------
<S> <C> <C> <C> <C>
Securities available for sale:
U.S. Treasury $ 24,968 $ 48 $ (156) $ 24,860
U.S. Government agencies 53,044 542 (105) 53,481
U.S. Government agency
mortgage backed securities 44,804 493 (122) 45,175
States and political subdivisions 50,239 1,998 (417) 51,820
Collateralized mortgage obligations 10,044 11 (95) 9,960
Equity securities 1,873 0 0 1,873
--------- ------- -------- ---------
$ 184,972 $ 3,092 $ (895) $ 187,169
--------- ------- -------- ---------
--------- ------- -------- ---------
</TABLE>
4
<PAGE>
MERCHANTS BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NOTE 3: LOANS
Major classifications of loans are as follows:
September 30, December 31,
1996 1995
------------- ------------
Commercial and industrial $ 149,778 $ 109,872
Real estate - commercial 69,215 67,739
Real estate - construction 47,932 40,510
Real estate - residential 76,426 31,673
Installment 68,670 50,489
Credit card receivables 6,284 5,644
Other loans 1,781 455
--------- ---------
420,086 306,382
Unearned discount (1,654) (1,743)
Deferred loan fees (495) (312)
--------- ---------
Total loans $ 417,937 $ 304,327
--------- ---------
--------- ---------
NOTE 4: ALLOWANCE FOR LOAN LOSSES
Following is a summary of changes in the allowance for loan losses for the
nine months ended September 30:
1996 1995
------------ ------------
Balance, January 1 $ 5,176 $ 5,140
Balances of acquired subsidiaries
as of January 3 798 0
Provision charged to operations 1,627 1,381
Loans charged-off (1,779) (1,786)
Recoveries 720 552
--------- ---------
Balance, end of period $ 6,542 $ 5,287
--------- ---------
--------- ---------
NOTE 5: EMPLOYEE BENEFIT PLANS
The Company maintains a non-contributory, trusteed pension plan which covers
substantially all full time employees of Merchants National Bank who have
completed age and service requirements. No provision for periodic expense was
made during the nine months of 1996, or 1995. The Company also maintains a
contributory thrift plan. The Company contributed $236,000 and $210,000 in
the nine month periods ended September 30, 1996 and 1995, respectively. The
Company recognizes this expense in the same period in which the contribution
is made.
NOTE 6: NOTES PAYABLE
Notes payable consists of two notes of $7 million each, the proceeds of which
were used to finance the acquisition of Valley on January 3, 1996. One note
bears a fixed interest rate of 7.03%, and requires no principal reductions
for the first two years, followed by quarterly principal reductions over the
following five years. The other note bears interest at a variable rate which
is tied to either the prevailing Federal funds rate or LIBOR, at the
quarterly election of the Company and interest is paid quarterly.
NOTE 7: PRO FORMA FINANCIAL INFORMATION
The following table presents consolidated financial information, as of
September 30, of each year presented, as if the acquisition of Valley had
occurred on January 1, 1995, in thousands.
1996 1995
-------- --------
Net interest income $ 19,051 $ 15,592
Net income 4,779 4,173
Net income per share $1.86 $1.62
5
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Net income for the third quarter of 1996 was $1,710,000, or 66 cents per
share, a 2% increase compared to $1,677,000, or 65 cents per share earned in
the third quarter of 1995. Through the first nine months of 1996, net income
was $4,799,000, or $1.86 per share, an increase of 5% from the first nine
months of 1995. Although the acquisition of Valley Banc Services Corp.
("Valley") on January 3, 1996, has caused many statement categories to
increase, amortization of purchase intangibles and the cost of debt incurred
to consummate the transaction offset these increases to a large degree in
1996. Thus, the increase in net income was primarily due to the operation of
Merchants National Bank.
NET INTEREST INCOME
Net interest income was $6.7 million and $5.4 million during the three months
ended September 30, 1996, and 1995, respectively, an increase of about 25%.
The Company's net interest margin (tax equivalent net interest income as a
percentage of earning assets) was 4.51% for the three months ended September
30, 1996, and 4.50% a year earlier. For the nine months ended September 30,
net interest income was $19.1 million in 1996, and $16.0 million in 1995,
while the net interest margin was 4.42% and 4.76%, respectively.
Net interest income increased because of the increase in earning assets,
which was enhanced by the acquisition of Valley on January 3, 1996. Although
Valley added $103 million in earning assets as of September 30, 1996, the
decline in net interest margin was also partly the result of the acquisition.
In addition to the lower margin at Valley, changes in market interest rates
contributed to the decline in the net interest margin.
OTHER INCOME
Noninterest income excluding securities gains was $2,393,000 for the three
months ended September 30, 1996 and $1,738,000 for the same period in 1995,
an increase of $655,000, or 38%. Merchants National Bank is currently the
only subsidiary operating trust and mortgage banking departments. Trust
income increased $35,000 (7.3%) for the quarter and $85,000 (5.9%) for the
year to date. Mortgage banking department fee income of $558,000 during the
third quarter reflected an increase of $208,000 (59.4%) from the same period
in 1995. For the nine month period, mortgage fee income was $1,671,000 in
1996, and $858,000 in 1995, an increase of 94.8%. Mortgage banking income is
seasonal, with residential activity tending to decline in the winter months,
and also sensitive to interest rate levels and expectations. The local market
for residential real estate was significantly stronger in the first nine
months of 1996, than a year earlier. Most fixed rate mortgages are sold and
the servicing is retained. The servicing portfolio provides a source of
income which is generally more stable than origination fees. The portfolio of
loans serviced for others totaled $250 million as of September 30, 1996,
compared to $193 million a year earlier.
Effective January 1, 1996, the Company adopted SFAS 122, "Accounting for
Mortgage Servicing Rights." Pursuant to SFAS 122, the cost of loans sold is
allocated to the servicing rights retained and to the loan that is sold,
based on their relative fair values. Mortgage servicing rights are amortized
in proportion to and over the period of estimated net servicing income, and
are evaluated for impairment based on their fair value. The impact of this
pronouncement was an increase in mortgage banking income of $435,000 in the
first nine months of 1996.
Sales of securities available for sale resulted in gains of $152,000 in the
first nine months of 1996, and $21,000 a year earlier. Securities available
for sale are held for indefinite periods of time, and include securities that
will be used as a part of the Company's asset/liability management strategy.
Such securities may be sold in response to changes in interest rates,
liquidity needs, or significant prepayment risk.
6
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
OTHER EXPENSE
Salary and benefit expenses increased from $2,541,000 during the three months
ended September 30, 1995, to $3,205,000 for the same period in 1996, an
increase of $664,000 (26%), primarily as a result of the acquisition. For the
nine month period, salaries and employee benefits were $6,264,000 in 1996,
and $7,327,000 in 1995, an increase of 26.4%. The full-time equivalent number
of employees was 252 as of September 30, 1995, and 342 as of September 30,
1996. Expansion of the mortgage department, and the opening of the Randall
Square branch of the Merchants National Bank each contributed to the
increase. The newly acquired Valley subsidiary banks accounted for 49
full-time equivalent employees as of September 30, 1996.
Occupancy expenses were $127,000 (45%) higher during the third quarter of
1996, and $401,000 (51%) higher for the first nine months of 1996 compared to
the same periods in 1995. Furniture and equipment expenses were $115,000
(37%) higher during the third quarter of 1996, and $296,000 (32%) higher for
the first nine months of 1996 compared to the same periods in 1995. Fixed
asset expenses increased due to the acquisition and due the opening of a new
branch of Merchants National Bank at Randall Square in Geneva, Illinois in
March, 1996.
The Bank Insurance Fund of the Federal Deposit Insurance Corporation (the
"FDIC") reached its congressionally mandated level during the third quarter
of 1995. As a result, well capitalized institutions in the supervisory group
representing the least risk pay an FDIC deposit assessment of $1,000 per
year. The Company's assessment was $430,000 in the first nine months of 1995,
and the minimum assessment was incurred in the first nine months of 1996.
See, "Recent Regulatory Developments."
Other expenses were $1,948,000, or $746,000 (62%) higher in the third quarter
of 1996, than in the third quarter of 1995. Other expenses were $5,645,000,
or $1,506,000 (36%) higher in the first nine months of 1996, than in the like
period a year earlier. Other operating costs of the acquired Valley banks
accounted for $855,000 of this total in the first nine months of 1996.
Mortgage banking operating expenses increased $893,000, although this was
more than offset by mortgage interest income and fees. Other factors
contributing to the increase in other expenses were amortization of mortgage
servicing, ATM costs, and increases in general operating costs.
FINANCIAL CONDITION
LOANS, LOANS HELD FOR SALE, AND PROVISION FOR LOAN LOSSES
Total loans increased $113.6 million (37%) to $417.9 million as of September
30, 1996, from $304.3 million as of December 31, 1995. Total loans of the
newly acquired banks were $73.8 million as of September 30, 1996. On a
percentage basis, residential real estate loans increased more than any other
category, growing to $76.4 million as of September 30, 1996, from $31.7
million as of December 31, 1995, an increase of $44.7 million (141%). These
loans are primarily adjustable rate mortgages originated and held at
Merchants National Bank. Commercial loans increased $39.9 million (36%), from
$109.9 million as of December 31, 1995, in $149.8 million as of September 30,
1996. Commercial real estate loans increased $1.4 million (2%) and
installment loans increased $18 million (36%) during the first nine months of
1996. In addition to the acquisition, the increases reflected the continued
strength of the Fox Valley economy in general, and the real estate market in
particular.
Most of the residential mortgage loans originated by the Company's mortgage
banking department are sold in the secondary market, with servicing rights
retained. A portion of the loans originated, typically adjustable rate
mortgages, are retained in Merchants National Bank's portfolio, as reflected
in the increase in residential real estate loans. At any point in time, loans
will be at various stages of the mortgage banking process. Loans held for
sale were $4.3 million as of December 31, 1995, and $5.0 million as of
September 30, 1996. The carrying value of these loans approximated the market
value at that time.
The adequacy of the allowance for loan losses is determined by management
based on factors that include the overall composition of the loan portfolio,
types of loans, past loss experience, loan delinquencies, potential
substandard and doubtful credits, and other factors that, in management's
judgement, deserve evaluation in estimating loan losses.
7
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
The adequacy of the allowance for loan losses is monitored by the loan review
staff, and reported to management and the Board of Directors.
The Company's provision for loan losses was $1,627,000 for the first nine
months of 1996, compared to $1,381,000 a year earlier. Net charge-offs for
the nine months ended September 30, were $1,059,000 and $1,234,000 in 1996
and 1995, respectively. The allowance for loan losses as a percentage of
total loans was 1.57% as of September 30, 1996 and 1.79% as of December 31
1995. The decline in the ratio resulted from the acquisition of Valley, which
has maintained a lower ratio than was maintained by the Company in prior
periods. In management's judgment, an adequate allowance for possible future
losses has been established.
Nonaccrual loans increased to $2,877,000 as of September 30, 1996, from
$2,210,000 as of December 31, 1995. The September 30, 1996, total includes
$432,000 in nonaccrual loans of the Valley banks, accounting for most of the
increase. Loans past due ninety days of more and still accruing were
$151,000 as of September 30, 1996, all of which were Valley loans, and there
were no such loans as of December 31, 1995. Renegotiated loans declined
$41,000 to $1,108 million as of September 30, 1996. The renegotiated loans
were primarily loans to a single borrower which were renegotiated during
1995, and are fully collateralized.
Other real estate owned declined from $566,000 as of December 31, 1995, to
$380,000 as of September 30, 1996, as some properties were sold. Property
acquired from a single borrower in the first quarter of 1995 comprised most
of the balance as of each date. The recorded values of these properties were
supported by current appraisals.
SECURITIES
Securities are classified as available for sale if they may be sold as part
of the Company's asset/liability management strategy in response to changes
in interest rates, liquidity needs, or significant prepayment risk.
Securities available for sale are carried at fair value, with related
unrealized net gains or losses, net of deferred income taxes, recorded as an
adjustment to equity capital. As of September 30, 1996, net unrealized losses
of $1,264,000, reduced by deferred income taxes of $442,000, resulted in a
decrease in equity capital of approximately $822,000. As of December 31,
1995, net unrealized gains of $2,197,000, net of deferred income taxes of
$747,000 million, resulted in an increase in equity capital of $1,450 million.
The carrying value of securities available for sale grew $19.6 million (10%)
during the first nine months of 1996, to $206.8 million as of September 30,
1996, from $187.2 million as of December 31, 1995. The fair value of
securities at the acquired subsidiaries was $25.0 million as of September 30,
1996. U.S. Treasury securities decreased from $24.9 million as of December
31, 1995, to $22.9 million as of September 30, 1996, an 8% decline. U.S.
government agency securities grew from $53.5 million as of December 31,
1995, to $75.8 million as of September 30, 1996, an increase of $22.3 million
(42%). U.S. government agency mortgage backed securities declined $0.8 million
(2%), from $45.2 million as of December 31, 1995, to $44.4 million as of
September 30, 1996. Municipal securities declined slightly from $52.1 million
to $51.8 million during this period. None of these changes represented a
change in the management of the investment portfolio.
DEPOSITS AND BORROWED FUNDS
Total deposits of $599.9 million as of September 30, 1996, represented an
increase of $146.0 million (32%) from $453.8 million as of December 31, 1995.
Deposits of the Valley subsidiaries were $103.5 million as of September 30,
1996. Noninterest-bearing deposits were $120.1 million as of September 30,
1996, an increase of $44.1 million (58%) from $76.0 million as of December
31, 1995. At the same time, interest-bearing deposits increased $102.0
million (27%), including $24.9 million in certificates of deposit of $100,000
or more, and $41.0 million in certificates of deposit under $100,000.
The Company also utilizes securities sold under repurchase agreements as a
source of funds. Most local municipalities, and some other organizations, must
have funds insured or collateralized as a matter of their own policies.
Repurchase agreements provide a source of funds and do not increase the
Company's reserve requirement. Although the balance of repurchase agreements
is subject to variation, particularly seasonal variation, the account
relationships represented
8
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS - CONTINUED
by these balances are principally local and have been maintained for
relatively long periods of time. As of September 30, 1996, repurchase
agreements were $25 million, compared to $23 million as of December 31, 1995.
Federal funds purchased, which are used to meet short term liquidity needs,
totaled $14.3 million as of September 30, 1996, and there were no such
purchased funds as of September 30, 1995.
CAPITAL RESOURCES
Bank regulatory agencies have adopted capital standards by which all banks
and bank holding companies will be evaluated. Under the risk-based method of
measurement, the resulting ratio is dependent upon not only the level of
capital and assets, but the composition of assets and capital and the amount
of off-balance sheet commitments. The Company's capital ratios were as
follows for the dates indicated:
CAPITAL RATIOS
(Dollars in thousands)
<TABLE>
<CAPTION>
September 30, 1996 December 31, 1995
------------------ -----------------
Amount Ratio Amount Ratio
-------- -------- -------- -------
<S> <C> <C> <C> <C>
Risk-based Capital Ratios:(1)
Tier 1 capital $ 46,128 11.13% $ 53,765 14.54%
Tier 1 capital minimum requirement 16,577 4.00% 14,794 4.00%
-------- ------ -------- ------
Excess $ 29,551 7.13% $38,971 10.54%
-------- ------ -------- ------
-------- ------ -------- ------
Total capital $ 51,872 12.52% $ 58,399 15.79%
Total capital minimum requirement 33,154 8.00% 29,588 8.00%
-------- ------ -------- ------
Excess $ 18,718 4.52% $28,811 7.79%
-------- ------ -------- ------
-------- ------ -------- ------
Total risk adjusted assets $414,421 $369,850
-------- --------
-------- --------
Leverage Capital Ratio:(2)(3)
Tier 1 capital $ 46,128 8.10% $ 53,765 10.31%
Minimum requirement 23,762 5.00% 23,762 5.00%
-------- ------ -------- ------
Excess $ 22,366 3.10% $ 30,003 5.31%
-------- ------ -------- ------
-------- ------ -------- ------
Average adjusted assets $569,183 $521,435
-------- --------
-------- --------
</TABLE>
- -----------------------
(1) In accordance with the guidelines of the Federal Reserve, unrealized net
gains and losses of deferred income taxes, which are recorded as an
adjustment to equity capital on the financial statements, are not included
in the calculation of these capital ratios.
(2) based on the risk-based capital guidelines of the Board of Governors of
the Federal Reserve System (the "Federal Reserve"), a bank holding company
is required to maintain a Tier 1 capital to risk-adjusted assets ratio of
4.00% and total capital to risk-adjusted assets ratio of 8.00%.
(3) The leverage ratio is defined as the ratio of Tier 1 capital to average
total assets. Management of the Company has established a minimum
target leverage ratio of 5%. Based on Federal Reserve guidelines, a bank
holding company generally is required to maintain a leverage ratio of 3%
plus an additional cushion of at least 100 to 200 basis points.
The capital ratios detailed above declined as a result of two factors. First,
although the level of stockholders' equity was not directly affected,
intangible assets were recorded as part of the required purchase accounting
method for the acquisition of Valley. Intangible assets are required to be
deducted from capital during the calculation of the capital ratios. Second,
the level of total assets and risk based assets increased significantly with
the acquisition, thus reducing capital in percentage terms. The Company
remains well capitalized, according to regulatory standards in all
categories.
9
<PAGE>
LIQUIDITY
Liquidity measures the ability of the Company to meet maturing
obligations and its existing commitments, to withstand fluctuations in deposit
levels, to fund its operations, and to provide for customers' credit needs.
The liquidity of the Company principally depends on cash flows from operating
activities, investment in and maturity of assets, changes in balances of
deposits and borrowings, and its ability to borrow funds in the money or
capital markets.
Net cash outflows from investing activities were $56.4 million in the first
nine months of 1996, compared to $34.3 million a year earlier. In the first
nine months of 1996, net principal disbursed on loans accounted for net
outflows of $40.8 million, and securities transactions aggregated a net
outflow of $294,000. In the first nine months of 1995, net principal
disbursed on loans accounted for net outflow of $10.3 million, and securities
transactions resulted in net outflows of $23.3 million. During the first
quarter of 1996, the acquisition of Valley resulted in a net outflow of $5.1
for the subsidiaries to be retained, net of cash and cash equivalents
acquired with those subsidiaries, and an outflow of $8.2 million for the net
assets of the subsidiaries held for sale.
Cash inflows from financing activities in the first nine months of 1996
associated with an increase in deposits were $48.1 million. This compares
with a net inflow of $41.0 million for the same period in 1995. Short term
borrowings increased $15.0 million in the first nine months of 1996, and
declined $13.8 million in the first nine months of 1995.
During the first quarter of 1996, the Company repaid a $3 million note
payable to the Federal Home Loan Bank of Chicago, and a $3.5 million note
payable assumed with the Valley acquisition. $14 million in proceeds from
notes payable were used to finance the Valley acquisition.
In the event of short term liquidity needs, the Company's subsidiary
banks may purchase Federal funds from correspondent banks, The Merchants
National Bank may also borrow funds from the Federal Reserve Bank of Chicago,
but has not done so during any period covered in this report. The Merchants
National Bank's membership in the Federal Home Loan Bank System gives it the
ability to borrow funds from the Federal Home Loan Bank of Chicago for short
or long term purposes under a variety of programs.
Mortgage lending activity resulted in operating cash outflows of
approximately $41.9 million and inflows of approximately $41.6 million during
the first nine months of 1996, compared to $29.3 million and $29.3 million,
respectively, in 1995. Total cash inflows from operating activities exceeded
operating outflows by $8.0 million for the nine months ended September 30,
1996. During the first nine months of 1995, net cash inflows from operating
activities were $5.8 million. Interest received net of interest paid was a
principal source of operating cash inflows in both periods reported.
Management of investing and financing activities, and market conditions,
determine the level and the stability of net interest cash flows.
Management's policy is to mitigate the impact of changes in market interest
rates to the extent possible, so that balance sheet growth is the principal
determinant of growth in the net interest cash flows.
RECENT REGULATORY DEVELOPMENT
On September 30, 1996, President Clinton signed into law the "Economic
Growth and Regulatory Paperwork Reduction Act of 1996 (the "Regulatory
Reduction Act"). Subtitle G of The Regulatory Reduction Act consists of The
"Deposit Insurance Funds Act of 1996" (the "DIFA"). The DIFA provides for a
one-time special assessment on each depository institution holding deposits
subject to assessment by the FDIC for the Savings Association Insurance Fund
(the "SAIF") in an amount which, in aggregate, will increase the designated
reserve ratio of the SAIF (I.E., the ratio of the insurance reserves of the
SAIF to total SAIF-insured deposits) to 1.25% on October 1, 1996.
Subject to certain exceptions, the special assessment is payable in
full on November 27, 1996. None of the Company's bank subsidiaries holds any
SAIF-assessable deposits and, therefore, none of the Company's banks
subsidiaries is subject to the special assessment.
10
<PAGE>
Prior to the enactment of the DIFA, a substantial amount of the SAIF
assessment revenue was used to pay the interest due on hands issued by the
FICO, the entity created in 1987 to finance the recapitalization of the
Federal Savings and Loan Insurance Corporation, the SAIF predecessor
insurance fund. Pursuant to the DIFA, the interest due on outstanding FICO
bonds will be covered by assessments against both SAIF and BIF member
institutions beginning January 1, 1997. Between January 1, 1997
and December 31, 1999, FICO assessments against BIF-member institutions,
such as the Company's bank subsidiaries, cannot exceed 20% of the
FICO assessments charged SAIF-member institutions. From January 1, 2000 until
the FICO bonds mature in 2019, FICO assessments will be shared by all
FDIC-insured institutions on a PRO RATA basis. The FICO estimates that the
FICO assessments for the period January 1, 1997 through December 31, 1999
will be approximately 0.013% of deposits for BIF members versus
approximately 0.064% of deposits for SAIF members, and will be less
than 0.025% of deposits thereafter.
The DIFA also provides for a merger of the BIF and SAIF on January 1, 1999,
provided there are no state or federally chartered, FDIC-insured savings
associations existing on the date. To facilitate the merger of the BIF and
the SAIF, the DIFA directs the Treasury Department to conduct a study on the
development of a common charter and to submit a report, along with appropriate
legislative recommendations, to the Congress by March 31, 1997.
In addition to the DIFA, the Regulatory Reduction Act includes a number
of statutory changes designed to eliminate duplicative, redundant or
unnecessary regulatory requirements. Among other things, the Regulatory
Reduction Act establishes streamlined notice procedures for the commencement
of new nonbanking activities by bank holding companies, eliminates the need
to national banks to obtain OCC approval to establish an off-site ATM,
excludes ATM closures and certain branch off relocations from prior notice
requirements applicable to branch closings, significantly expands the
authority of well-capitalized and well-managed national banks to invest in
office premises without prior regulatory approval, and establishes time
frames within which the FDIC must act on applications by state banks to
engage in activities which, although permitted for the state bank under
applicable state law, are not permissible activities for national banks. The
Regulatory Reduction Act also clarifies the liability of a financial
institution, when acting as a lender or a fiduciary capacity, under the
federal environmental clean-up laws. Although the full impact of the
Regulatory Reduction Act on the operations of the Company and its
subsidiaries cannot be determined at this time, management believes that the
legislation will reduce compliance costs to some extent and allow the Company
and its subsidiaries somewhat greater operating flexibility.
11
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company
or its subsidiaries are a party other than ordinary routine litigation
incidental to their respective businesses.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits.
27. Financial Data Schedule
Reports on Form 8-K.
None
12
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MERCHANTS BANCORP, INC.
(Registrant)
/s/ Calvin R. Myers
------------------------------------------
Calvin R. Myers
President, Chairman of the Board and
Chief Executive Officer
/s/ J. Douglas Cheatham
------------------------------------------
J. Douglas Cheatham
Vice President and Chief Financial Officer
Date: November 12, 1996
13
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> SEP-30-1996
<CASH> 45,905
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 3,306
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 206,760
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 417,937
<ALLOWANCE> 6,542
<TOTAL-ASSETS> 711,367
<DEPOSITS> 599,783
<SHORT-TERM> 38,847
<LIABILITIES-OTHER> 3,085
<LONG-TERM> 14,000
0
0
<COMMON> 2,607
<OTHER-SE> 53,045
<TOTAL-LIABILITIES-AND-EQUITY> 711,367
<INTEREST-LOAN> 27,126
<INTEREST-INVEST> 9,635
<INTEREST-OTHER> 359
<INTEREST-TOTAL> 37,120
<INTEREST-DEPOSIT> 16,364
<INTEREST-EXPENSE> 18,069
<INTEREST-INCOME-NET> 19,051
<LOAN-LOSSES> 1,627
<SECURITIES-GAINS> 152
<EXPENSE-OTHER> 17,895
<INCOME-PRETAX> 6,544
<INCOME-PRE-EXTRAORDINARY> 6,544
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,799
<EPS-PRIMARY> 1.86
<EPS-DILUTED> 1.86
<YIELD-ACTUAL> 4.42
<LOANS-NON> 2,877
<LOANS-PAST> 151
<LOANS-TROUBLED> 1,108
<LOANS-PROBLEM> 4,136
<ALLOWANCE-OPEN> 5,176
<CHARGE-OFFS> 1,779
<RECOVERIES> 720
<ALLOWANCE-CLOSE> 6,542
<ALLOWANCE-DOMESTIC> 6,542
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
