<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
QUARTERLY REPORT UNDER SECTION 13 or 15 (d) of THE
SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended September 30, 1998
Commission File Number 0-17071
First Merchants Corporation
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(Exact name of registrant as specified in its charter)
Indiana 35-1544218
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(State or other jurisdiction of (I.R.S. Employer
incorporation of organization) Identification No.)
200 East Jackson Street - Muncie, IN 47305-2814
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(Address of principal executive office) (Zip code)
(765) 747-1500
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(Registrant's telephone number, including area code)
Not Applicable
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(Former name former address and former fiscal year,
if changed since last report.)
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
--- ---
As of August 26, 1998, there were outstanding 10,078,994 common shares,
without par value, of the registrant.
The exhibit index appears on page 2.
This report including the cover page contains a total of 21 pages.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
Page No.
PART I. Financial information: --------
<S> <C>
Item 1. Financial Statements:
Consolidated Condensed Balance Sheet 3
Consolidated Condensed Statement of Income 4
Consolidated Condensed Statement of
Comprehensive Income 5
Consolidated Condensed Statement of Changes in
Stockholders' Equity 6
Consolidated Condensed Statement of Cash Flows 7
Notes to Consolidated Condensed Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 12
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 19
PART II. Other Information:
Item 4. Submission of Matters to a Vote of Security Holders 20
Item 6. Exhibits and Reports of Form 8-K 20
Signatures 21
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
CONSOLIDATED CONDENSED BALANCE SHEET
(Dollars in thousands, except per share amounts)
(Unaudited)
September 30, December 31,
1998 1997
------------- ------------
<S> <C> <C>
ASSETS:
Cash and due from banks $ 31,960 $ 33,127
Federal funds sold 2,200 9,050
------------ -----------
Cash and cash equivalents 34,160 42,177
Interest-bearing deposits 289 385
Investment securities available for sale 289,348 212,040
Investment securities held to maturity 23,363 35,332
Mortgage loans held for sale 731 471
Loans 733,659 703,313
Less: Allowance for loan losses (7,202) (6,778)
------------ -----------
Net loans 726,457 696,535
Premises and equipment 17,769 15,382
Federal Reserve and Federal Home Loan Bank stock 3,723 3,373
Interest receivable 9,396 8,968
Core deposit intangibles and goodwill 2,993 1,625
Others assets 5,650 3,848
------------ -----------
Total assets $1,113,879 $1,020,136
============ ===========
LIABILITIES:
Deposits:
Noninterest-bearing $ 96,122 $ 115,613
Interest-bearing 764,466 728,199
------------ -----------
Total deposits 860,588 843,812
Securities sold under repurchase agreements 78,302 15,398
Federal funds purchased and other short-term borrowings 7,405 11,431
Federal Home Loan Bank advances 29,704 20,700
Interest payable 3,876 3,615
Other liabilities 4,177 3,211
------------ -----------
Total liabilities 984,052 898,167
STOCKHOLDERS' EQUITY:
Preferred stock, no-par value:
Authorized and unissued -- 500,000 shares
Common stock, $.125 stated value:
Authorized --- 20,000,000 shares
Issued and outstanding -- 10,078,914 and 9,996,658 shares 1,260 1,250
Additional paid-in capital. 24,818 23,723
Retained earnings 101,207 95,449
Accumulated other comprehensive income 2,542 1,547
------------ -----------
Total stockholders' equity 129,827 121,969
------------ -----------
Total liabilities and stockholders' equity $1,113,879 $1,020,136
============ ===========
See notes to consolidated condensed financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
CONSOLIDATED CONDENSED STATEMENT OF INCOME
(Dollars in thousands, except per share amounts)
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Interest Income:
Loans receivable
Taxable $ 16,043 $ 15,288 $ 47,153 $ 44,004
Tax exempt 51 28 155 87
Investment securities:
Taxable 2,701 2,588 7,475 8,395
Tax exempt 1,160 1,064 3,378 3,185
Federal funds sold 114 623 27
Deposits with financial institutions 3 6 13 12
Federal Reserve and Federal Home Loan Bank stock 73 68 206 196
--------- ---------- --------- ----------
Total interest income 20,145 19,042 59,003 55,906
--------- ---------- --------- ----------
Interest expense:
Deposits 8,531 8,157 25,509 23,487
Securities sold under repurchase agreements 573 419 1,027 1,211
Federal funds purchased and other short-term borrowings 190 271 423 1,051
Federal Home Loan Bank advances 393 285 1,129 627
--------- ---------- --------- ----------
Total interest expense 9,687 9,132 28,088 26,376
--------- ---------- --------- ----------
Net Interest Income 10,458 9,910 30,915 29,530
Provision for loan losses 446 375 1,268 952
--------- ---------- --------- ----------
Net Interest Income After Provision for Loan Losses 10,012 9,535 29,647 28,578
--------- ---------- --------- ----------
Other Income:
Net realized gains (losses) on sales of
available-for-sale securities 68 (4) 119 (3)
Other income 2,889 2,295 8,266 6,758
--------- ---------- --------- ----------
Total other income 2,957 2,291 8,385 6,755
Total other expenses 6,966 6,486 20,358 19,104
--------- ---------- --------- ----------
Income before income tax 6,003 5,340 17,674 16,229
Income tax expense 2,112 1,804 6,161 5,557
--------- ---------- --------- ----------
Net Income $ 3,891 $ 3,536 $ 11,513 $ 10,672
========= ========== ========= ==========
Per share:
Net Income:
Basic $ .39 $ .35 $ 1.15 $ 1.07
Diluted .38 .35 1.13 1.06
Dividends .20 .19 .57 .51
See notes to consolidated condensed financial statements.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
CONSOLIDATED CONDENSED STATEMENT OF COMPREHENSIVE INCOME
(Dollar amounts in thousands)
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Net Income $ 3,891 $ 3,536 $ 11,513 $ 10,672
--------- ---------- --------- ----------
Other comprehensive income, net of tax:
Unrealized gains (losses) on securities available for sale:
Unrealized holding gains arising during the period, net of income tax
(732), (390), (616), and (291) 1,099 585 924 437
Less: Reclassification adjustment for gains (losses) included
in net income, net of income tax (28), 2, (48), and 1 40 (2) 71 (2)
--------- ---------- --------- ---------
1,139 583 995 435
--------- ---------- --------- ---------
Comprehensive income $ 5,030 $ 4,119 $ 12,508 $ 11,107
========= ========== ========= =========
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
CONSOLIDATED CONDENSED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(Dollar amounts in thousands)
(Unaudited)
1998 1997
-------- --------
<S> <C> <C>
Balances, January 1 $121,969 $112,687
Net income 11,513 10,672
Cash dividends (5,755) (5,038)
Net change in accumulated other comprehensive income 995 435
Stock issued under employee benefit plans 384 292
Stock issued under dividend reinvestment and
stock purchase plan 511 539
Stock options exercised 210 127
--------- ---------
Balances, September 30 $129,827 $119,714
========= =========
See notes to consolidated condensed financial statements
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
CONSOLIDATED CONDENSED STATEMENT OF CASH FLOWS
(Dollar amounts in thousands)
(Unaudited)
Nine Months Ended
September 30
1998 1997
--------- --------
<S> <C> <C>
Cash Flows From Operating Activities:
Net income $ 11,513 $ 10,672
Adjustments to reconcile net income to net cash
provided by operating activities
Provision for loan losses 1,268 952
Depreciation and amortization 1,466 1,312
Securities amortization, net 153 245
Securities losses (gains), net (106) 3
Mortgage loans originated for sale (5,982) (3,849)
Proceeds from sales of mortgage loans 5,722 3,661
Change in interest receivable (428) (441)
Change in interest payable 261 344
Other adjustments (1,352) (191)
--------- ---------
Net cash provided by operating activities 12,515 12,708
--------- ---------
Cash Flows From Investing Activities:
Net change in interest-bearing deposits 96 29
Purchases of
Securities available for sale (140,342) (47,126)
Securities held to maturity (90) (1,760)
Proceeds from maturities of
Securities available for sale 58,975 54,667
Securities held to maturity 11,834 12,649
Proceeds from sales of
Securities available for sale 5,886 8,551
Net change in loans (31,190) (71,021)
Purchases of premises and equipment (4,162) (1,329)
Other investing activities (1,547) 310
--------- ---------
Net cash provided by investing activities (100,540) (45,030)
--------- ---------
(continued)
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
CONSOLIDATED CONDENSED STATEMENT OF CASH FLOWS
(Dollar amounts in thousands)
(Unaudited)
Nine Months Ended
September 30,
1998 1997
---------- ----------
<S> <C> <C>
Cash Flows From Financing Activities:
Net change in
Demand and savings deposits $ (19,491) $ (27,487)
Certificates of deposit and other time deposits 36,267 22,402
Securities sold under repurchase agreements 62,904 15,322
Federal funds purchased and other short-term borrowings (4,026) 12,443
Federal Home Loan Bank advances 9,062 9,550
Repayment of Federal Home Loan Bank advances (58)
Cash dividends (5,755) (5,038)
Stock issued under employee benefit plans 384 292
Stock issued under dividend reinvestment and stock purchase plan 511 539
Stock options exercised 210 127
---------- ----------
Net cash provided by financing activities 80,008 28,150
---------- ----------
Net Change in Cash and Cash Equivalents (8,017) (4,172)
Cash and Cash Equivalents, January 1 42,177 35,032
---------- ----------
Cash and Cash Equivalents, September 30 $ 34,160 $ 30,860
========== ==========
See notes to consolidated condensed financial statements.
</TABLE>
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
NOTE 1. General
The significant accounting policies followed by First Merchants Corporation
("Corporation") and its wholly owned subsidiaries for interim financial
reporting are consistent with the accounting policies followed for annual
financial reporting, except for the change in method of accounting discussed
more fully in Note 2. All adjustments which are of a normal recurring nature and
are in the opinion of management necessary for a fair statement of the results
for the periods reported have been included in the accompanying consolidated
condensed financial statements.
NOTE 2. Change in Methods of Accounting
REPORTING COMPREHENSIVE INCOME. During 1997, the Financial Accounting Standards
Board ("FASB") issued Statement No. 130, REPORTING COMPREHENSIVE INCOME,
establishing standards for the reporting of comprehensive income and its
components in financial statements. Statement No. 130 is applicable to all
entities that provide a full set of financial statements. Enterprises that have
no items of other comprehensive income in any period presented are excluded from
the scope of this Statement.
Statement No. 130 is effective for interim and annual periods beginning after
December 15, 1997. The Corporation has adopted Statement No. 130 during fiscal
the first quarter of 1998. See the Consolidated Condensed Statement of
Comprehensive Income on page 5.
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Table dollar amounts in thousands)
(Unaudited)
NOTE 3. Acquisitions
On August 20, 1998, the Corporation signed a definitive agreement to acquire all
of the outstanding shares of Jay Financial Corporation, Portland, Indiana. Under
terms of the agreement, the Corporation will issue approximately 1,099,000
shares of its common stock. The transaction will be accounted for under the
pooling of interests method of accounting and is subject to approval by
appropriate regulatory agencies. Although the Corporation anticipates that the
merger will be consummated during the first quarter of 1999, there can be no
assurance that the acquisition will be completed. At December 31, 1997, Jay
Financial Corporation, had total assets and stockholders' equity of $104,977,000
and $13,627,000, respectively.
On October 27, 1998, the Corporation signed a definitive agreement to acquire
all of the outstanding shares of Anderson Community Bank, Anderson, Indiana.
Under terms of the agreement, the Corporation will issue approximately 811,000
shares of its common stock. The transaction will be accounted for under the
pooling of interests method of accounting and is subject to approval by
appropriate regulatory agencies. Although the Corporation anticipates that the
merger will be consummated during the first quarter of 1999, there can be no
assurance that the acquisition will be completed. At December 31, 1997, Anderson
Community Bank had total assets and stockholders' equity of $62,836,000 and
$6,448,000, respectively. The Anderson Community Bank will merge with Pendleton
Banking Company, an affiliate bank of First Merchants Corporation, to form The
Madison Community Bank.
NOTE 4. Investment Securities
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ----------- ---------- ---------
<S> <C> <C> <C> <C>
Available for sale at September 30, 1998:
U.S. Treasury $ 13,842 $ 125 $ $ 13,967
Federal agencies 60,385 832 61,217
State and municipal 81,864 2,666 1 84,529
Mortgage-backed securities 77,881 460 40 78,301
Other asset-backed securities 30,279 17 30,262
Corporate obligations 20,632 192 2 20,822
Marketable equity security 250 250
---------- ------- ------- ---------
Total available for sale 285,133 4,275 60 289,348
---------- ------- ------- ---------
Held to maturity at September 30, 1998:
U.S. Treasury 249 5 254
Federal agencies 500 3 503
State and municipal 19,307 358 2 19,663
Mortgage-backed securities 1,017 6 1,023
Other asset-backed securities 2,290 46 2,244
---------- ------- ------- ---------
Total held to maturity 23,363 372 48 23,687
---------- ------- ------- ---------
Total investment securities $ 308,496 $4,647 $ 108 $ 313,035
========== ======= ======= =========
</TABLE>
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Table dollar amounts in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ----------- ---------- ---------
<S> <C> <C> <C> <C>
Available for sale at December 31, 1997:
U.S. Treasury $ 19,207 $ 104 $ 11 $ 19,300
Federal agencies 66,783 40 48 67,140
State and municipal 67,842 1,815 28 69,629
Mortgage-backed securities 36,682 362 86 36,958
Other asset-backed securities 487 2 54 435
Corporate obligations 18,219 139 30 18,328
Marketable equity securities 250 250
---------- ------- ------- ---------
Total available for sale 209,470 2,827 257 212,040
---------- ------- ------- ---------
Held to maturity at December 31, 1997:
U.S. Treasury 249 2 247
Federal agencies 3,412 6 1 3,417
State and municipal 26,206 252 2 26,456
Mortgage-backed securities 1,255 4 1 1,258
Other asset-backed securities 4,210 7 166 4,051
---------- ------- ------- ---------
Total held to maturity 35,332 269 172 35,429
---------- ------- ------- ---------
Total investment securities $ 244,802 $3,096 $ 429 $ 247,469
========== ======= ======= =========
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Table dollar amounts in thousands)
(Unaudited)
NOTE 5. Loans and Allowance
September 30, December 31,
1998 1997
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<S> <C> <C>
Loans:
Commercial and industrial loans $ 155,831 $ 148,281
Bankers' acceptances and loans to financial institutions 900 705
Agricultural production financing and other loans to farmers 19,741 16,764
Real estate loans:
Construction 26,544 21,389
Commercial and farmland 95,254 97,503
Residential 306,652 287,072
Individuals' loans for household and other personal expenditures 123,856 125,706
Tax-exempt loans 2,509 2,598
Other loans 2,565 3,782
Unearned interest on loans (193) (487)
------------- ------------
Total $ 733,659 $ 703,313
============= ============
Nine Months Ended
September 30
1998 1997
--------- ----------
<S> <C> <C>
Allowance for loan losses:
Balances, January 1. $ 6,778 $ 6,622
Provision for losses 1,268 952
Recoveries on loans 286 386
Loans charged off (1,130) (1,175)
--------- ----------
Balances, September 30 $ 7,202 $ 6,785
========= ==========
</TABLE>
NOTE 6. Net Income Per Share
<TABLE>
<CAPTION>
Three Months Ended September 30,
1998 1997
------------------------------- -------------------------------
Weighted- Weighted-
Average Per Share Average Per Share
Income Shares Amount Income Shares Amount
------ --------- --------- ------ --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Basic net income per share:
Net income available to
common stockholders $3,891 10,071,921 $ .39 $3,536 9,974,990 $ .35
====== ======
Effect of dilutive stock options 150,955 126,621
------ ---------- ------ ----------
Diluted net income per share:
Net income available to
common stockholders
and assumed conversions $3,891 10,222,876 $ .38 $3,536 10,101,611 $ .35
====== ========== ====== ====== ========== ======
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FIRST MERCHANTS CORPORATION
FORM 10-Q
Nine Months Ended September 30,
1998 1997
------------------------------- -------------------------------
Weighted- Weighted-
Average Per Share Average Per Share
Income Shares Amount Income Shares Amount
------- --------- --------- ------ --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Basic net income per share:
Net income available to
common stockholders $11,513 10,033,964 $ 1.15 $10,672 9,936,864 $ 1.07
====== ======
Effect of dilutive stock options 163,121 128,181
------- ---------- ------- ----------
Diluted net income per share:
Net income available to
common stockholders
and assumed conversions $11,513 10,197,085 $ 1.13 $10,672 10,065,045 $ 1.06
======= ========== ====== ======= ========== ======
</TABLE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Congress passed the Private Securities Litigation Report Act of 1995 to
encourage corporations to provide investors with information about the company's
anticipated future financial performance, goals, and strategies. The act
anticipated future financial performance, goals, and strategies. The act
provides a safe harbor for such disclosure, or in other words, protection from
unwarranted litigation if actual results are not the same as management's
expectations.
First Merchants Corporation desires to provide its shareholders with
sound information about past performance and future trends. Consequently, this
Quarterly Report, including Management's Discussion and Analysis of financial
Condition and Results of Operations, contains forward-looking statements that
are subject to numerous assumptions, risks, and uncertainties. Actual results
could differ materially from those contained in or implied by First Merchants
Corporation's statements due to a variety of factors including: changes in
economic conditions; movements in interest rates; competitive pressures on
product pricing and services; success and timing of business strategies; the
successful integration of acquired businesses; the nature and extent of
governmental actions and reform; and extended disruption of vital
infrastructure. The management of First Merchants Corporation encourages readers
of this report to understand forward-looking statements to be strategic
objectives rather than absolute targets of future performance.
RESULTS OF OPERATIONS
Net income for the three months ended September 30, 1998, was $3,891,000,
compared to $3,536,000 earned in the same period of 1997, an increase of 10.0
percent. Diluted net income per share was $.38 for the three months ended
September 30, 1998, compared to $.35 for the three months ended September 30,
1997, an increase of 8.6 percent.
Net income for the first nine months of 1998 was $11,513,000 compared to
$10,672,000 earned in the same period of 1997, an increase of 7.9 percent.
Diluted net income per share was $1.13 and $1.06 for the nine months ended
September 30, 1998 and 1997, respectively, an increase of 6.6 percent.
The increase in earnings was primarily due to growth in earning assets and
non-interest income. Net interest income increased $1,385,000 or 4.7 percent
over the first nine months of 1997 due to growth in earning assets of 9.3
percent. Noninterest income increased $1,630,000 or 24.1 percent over the first
nine months of 1997 due primarily to increased revenues from fiduciary
activities and commission income.
Annualized returns on average assets and average shareholder's equity for
quarter ended September 30, 1998 were 1.45 percent and 12.16 percent,
respectively, compared with 1.42 percent and 11.96 percent for the same period
of 1997. For the nine months ended September 30, 1998, annualized returns on
average assets and shareholder's equity were 1.47 percent and 12.23 percent,
respectively, compared to 1.44 percent and 12.29 percent for the same nine month
period in 1997.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
CAPITAL
The Corporation's capital strength continues to exceed regulatory minimums
and peer group averages. Management believes that strong capital is a distinct
advantage in the competitive environment in which the Corporation operates and
will provide a solid foundation for continued growth.
The Corporation's Tier I capital to average assets ratio was 11.9 percent
at year-end 1997 and 11.9 percent at September 30, 1998. At September 30, 1998,
the Corporation had a Tier I risk-based capital ratio of 16.3 percent, total
risk-based capital ratio of 17.2 percent, and a leverage ratio of 11.9 percent.
Regulatory capital guidelines require a Tier I risk-based capital ratio of 4.0
percent and a total risk-based capital ratio of 8.0 percent. Banks with Tier I
risk-based capital ratios of 6.0 percent and total risk-based capital ratios of
10.0 percent are considered "well capitalized."
ASSET QUALITY/PROVISION FOR LOAN LOSSES
The Corporation's asset quality and loan loss experience have consistently
been superior to that of its peer group, as summarized on the following page.
Asset quality has been a major factor in the Corporation's ability to generate
consistent profit improvement.
The allowance for loan losses is maintained through the provision for loan
losses, which is a charge against earnings.
The amount provided for loan losses and the determination of the adequacy
of the allowance are based on a continuous review of the loan portfolio,
including an internally administered loan "watch" list and an independent loan
review provided by an outside accounting firm. The evaluation takes into
consideration identified credit problems, as well as the possibility of losses
inherent in the loan portfolio that cannot be specifically identified.
<TABLE>
<CAPTION>
The following table summarizes the risk elements for the Corporation.
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(Dollars in Thousands) September 30, December 31, December 31,
1998 1997 1996
- -----------------------------------------------------------------------------------
<S> <C> <C> <C>
Non-accrual loans $ 1,377 $ 1,410 $ 2,777
Loans contractually past due 90 days
or more other than nonaccruing 2,229 1,972 1,699
Restructured loans 418 282 1,540
------- ------- -------
Total $ 4,024 $ 3,664 $ 6,016
======= ======= =======
- -----------------------------------------------------------------------------------
</TABLE>
Impaired loans included in the table above, totaled $2,551,000 at December
31, 1997. An allowance for losses at December 31, 1997, was not deemed necessary
for impaired loans totaling $1,075,000, but an allowance of $407,000 was
recorded for the remaining balance of impaired loans of $1,476,000. The average
balance of impaired loans for 1997 was $3,414,000. Impaired loans totaled
$2,562,000 at September 30, 1998. The average balance of impaired loans as of
September 30, 1998 totaled $2,658,000.
At September 30, 1998, the allowance for loan losses increased by $424,000,
to $7,202,000, up slightly from year end 1997. As a percent of loans, the
allowance was .98 percent, up from .96 percent at year end 1997.
The third quarter 1998 provision of $446,000 was up from $375,000 for the
same quarter in 1997. Net charge-offs amounted to $285,000 during the quarter.
The provision of $1,268,000 for the nine months ended September 30, 1998 was up
$316,000 from the same period in 1997. Net charge offs amounted to $844,000
during the first nine months of 1998.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
The table below presents loan loss experience for the periods indicated and
compares the Corporation's loss experience to that of its peer group, consisting
of bank holding companies with assets between $1 billion and $3 billion.
<TABLE>
<CAPTION>
Nine Months Ended Year Ended
September 30, December 31,
----------------- ------------------
1998 1997 1997 1996 1995
---- ---- ---- ---- ----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
Allowance for loan losses:
Balance at beginning of period $6,778 $6,622 $6,622 $6,696 $6,603
------ ------ ------ ------ ------
Chargeoffs 1,130 1,175 1,609 1,636 1,554
Recoveries 286 386 468 309 259
------ ------ ------ ------ ------
Net chargeoffs 844 789 1,141 1,327 1,295
Provision for loan losses 1,268 952 1,297 1,253 1,388
------ ------ ------ ------ ------
Balance at end of period $7,202 $6,785 $6,778 $6,622 $6,696
====== ====== ====== ====== ======
Ratio of net chargeoffs during the
period to average loans
outstanding during the period .16%(1) .15%(1) .17% .23% .24%
Peer Group N/A N/A .29% .26% .27%
</TABLE>
(1) First nine months annualized
LIQUIDITY, INTEREST SENSITIVITY, AND DISCLOSURES ABOUT MARKET RISK
Asset/Liability management has been an important factor in the
Corporation's ability to record consistent earnings growth through periods of
interest rate volatility and product deregulation. Management and the Board of
Directors monitor the Corporation's liquidity and interest sensitivity positions
at regular meetings to ensure that changes in interest rates will not adversely
affect earnings. Decisions regarding investment and the pricing of loan and
deposit products are made after analysis of reports designed to measure
liquidity, rate sensitivity, the Corporation's exposure to changes in net
interest income given various rate scenarios, and the economic and competitive
environments.
It is the objective of the Corporation to monitor and manage risk exposure
to net interest income caused by changes in interest rates. It is the goal of
the Corporation's Asset Liability function to provide optimum and stable net
interest income. To accomplish this, management uses two asset liability tools.
GAP/Interest Rate Sensitivity Reports and Net Interest Income Simulation
Modeling are both constructed, presented, and monitored quarterly.
The Corporation's liquidity and interest sensitivity position at
September 30, 1998, remained adequate to meet the Corporation's primary goal of
achieving optimum interest margins while avoiding undue interest rate risk.
The Corporation had a cumulative negative gap of $28,227,000 in the six
month horizon at September 30, 1998, or just over 2.5 percent of total assets.
Net interest income at a financial institution with a negative gap tends to
decrease when rates rise and generally increase as interest rates decline.
The GAP/Interest Rate Sensitive Report is a tool which displays repricing
timing differences between interest sensitive assets and liabilities. The 0-180
day Sensitivity Gap Ratio depicts the institution is liability sensitive 92.9
percent.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
The Corporation places its greatest credence in net interest income
simulation modeling. The GAP/Interest Rate Sensitivity Report is known to have
two major shortfalls. The GAP/Interest Rate Sensitivity Report fails to
precisely gauge how often an interest rate sensitive product reprices nor is it
able to measure the magnitude of potential future rate movements.
The Corporation's asset liability process monitors simulated net interest
income under three separate interest rate scenarios; rising (rate shock),
falling (rate shock) and flat. Net Interest income is simulated over an 18 month
horizon. By policy, the difference between the best performing and the worst
performing rate scenarios are not allowed to show a variance greater than 5
percent.
Assumed interest rate changes are simulated to move incrementally over 18
months. The total rate movement (beginning point less ending point) to
noteworthy interest rate indexes are as follows:
<TABLE>
<CAPTION>
Rising Falling
---------------------- ------------------------
<S> <C> <C>
Prime 300 Basis Points (300) Basis Points
Federal Funds 300 (300)
90 Day T-Bill 310 (275)
One Year T-Bill 290 (270)
Three Year T-Note 290 (265)
Five Year T-Note 290 (255)
Ten Year T-Note 290 (245)
Interest Checking 100 ( 67)
MMIA Savings 150 (100)
Money Market Index 269 (266)
Regular Savings 100 ( 67)
</TABLE>
Results for the flat, rising (rate shock), and falling (rate shock)
interest rate scenarios are listed below. The net interest income shown
represents cumulative net interest income over an 18 month time horizon. Balance
sheet assumptions are the same under both scenarios:
<TABLE>
<CAPTION>
Flat/Base Rising Falling
----------------------------------
<S> <C> <C> <C>
Net Interest Income (Dollars in Thousands) $61,385 $62,220 $58,912
Change vs. Flat/Base Scenario 385 (2,473)
Percent Change 1.36% (4.03%)
</TABLE>
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
EARNING ASSETS
The following table presents the earning asset mix as of September 30,
1998, and December 31, 1997, and December 31, 1996.
Loans grew by nearly $31 million from December 31, 1997, to September
30, 1998, while investment securities grew by more than $65 million during the
same period.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------
EARNING ASSETS
(Dollars in Millions) September 30, December 31, December 31,
1998 1997 1996
------------- ------------ ------------
<S> <C> <C> <C>
Federal funds sold and interest-bearing deposits $ 2.5 $ 9.4 $ 1.4
Investment securities available for sale 289.3 212.0 228.4
Investment securities held to maturity 23.4 35.3 47.2
Mortgage loans held for sale .7 0.5 0.3
Loans 733.7 703.3 631.4
Federal Reserve and Federal Home Loan Bank stock 3.7 3.4 3.1
------------ ----------- -----------
Total $ 1,053.3 $ 963.9 $ 911.8
============ =========== ===========
- --------------------------------------------------------------------------------------------------
</TABLE>
DEPOSITS, SECURITIES SOLD UNDER REPURCHASE AGREEMENTS, FEDERAL FUNDS SOLD AND
OTHER SHORT-TERM BORROWING
The following table presents the level of deposits and borrowed funds
(Federal funds purchased, repurchase agreements with customers, U.S. Treasury
demand notes and Federal Home Loan Bank advances) for the years ended 1997 and
1996 and at September 30, 1998.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------
(Dollars in Millions) September 30, December 31, December 31,
1998 1997 1996
------------- ------------ ------------
<S> <C> <C> <C>
Deposits $ 860.6 $ 843.8 $ 794.5
Securities sold under repurchase agreements 78.3 15.4 20.0
Federal funds purchased
and other short-term borrowings 7.4 11.4 25.0
Federal Home Loan Bank advances 29.7 20.7 9.2
</TABLE>
The Corporation, in an attempt to leverage its large capital position,
borrowed $51,000,000 in the form of repurchase agreements and pledged the
acquired investment securities as collateral against the borrowings. The
interest rate risk is included as part of the Corporation's interest simulation
discussed in Management's Discussion and Analysis under the heading Liquidity,
Interest Sensitivity, and Disclosures about Market Risk. The effect on the
Corporation's capital ratios is minimal as the Corporation remains adequately
capitalized.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
NET INTEREST INCOME
Net Interest Income is the primary source of the Corporation's earnings.
It is a function of net interest margin and the level of average earning assets.
The table below presents the Corporation's asset yields, interest expense,
and net interest income as a percent of average earning assets for the three
months and nine months ended September 30, 1998 and 1997.
Net interest income (FTE) for the three months ended September 30, 1998
increased by $611,000, or 5.8 percent over the same period in 1997, due to an
increase in earning assets of over $77 million. For the same period interest
income and interest expense, as a percent of average earning assets, declined
by .17 and .07 percent, respectively, due to a decline in interest rates and
margin compression.
Net interest income for the nine months ended September 30, 1998 increased
$1,524,000, or 4.9 percent over the same period in 1997, due to an increase in
earning assets of $57 million. Net interest income (FTE), as a percent of
average earning assets, during the same period declined .05 percent due
primarily to declining interest rates and increased non-deposit funds.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Interest Income Interest Expense Net Interest Income Net Interest Income
(FTE) as a Percent as a Percent (FTE) as a Percent Average on a
of Average of Average of Average Earning Fully Taxable
Earning Assets Earning Assets Earning Assets Assets Equivalent Basis
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
For the three months
ended September 30,
1998 8.18% 3.81% 4.37% $1,017,322 $ 11,110
1997 8.35 3.88 4.47 940,102 10,499
For the nine months
ended September 30,
1998 8.19 3.78 4.41 992,050 32,817
1997 8.22 3.76 4.46 935,023 31,293
Average earning assets include the average balance of securities classified as available for sale, computed based on the
average of the historical amortized cost balances without the effects of the fair value adjustment.
- --------------------------------------------------------------------------------------------------------------------------
</TABLE>
OTHER INCOME
The Corporation has placed emphasis on the growth of non-interest income in
recent years by offering a wide range of fee-based services. Fee schedules are
regularly reviewed by a pricing committee to ensure that the products and
services offered by the Corporation are priced to be competitive and profitable.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
OTHER INCOME
Other income in the third quarter of 1998 exceeded the same quarter in the
prior year by $666,000, or 29.1 percent.
Two major areas account for most of the increase:
1. Revenues from fiduciary activities grew $284,000, or 34.6 percent, due
to strong new business activity and markets.
2. Commission income increased $274,000, due primarily to the acquisition
of First Merchants Insurance Services, Inc., on April 1, 1998.
Other income for the nine months ended September 30, 1998 exceeded the same
period in the prior year by $1,630,000, or 24.1 percent.
Two major areas account for most of the increase:
1. Revenues from fiduciary activities grew $670,000, or 27.7 percent, due
to strong new business activity and markets.
2. Commission income increased $492,000, due to the acquisition of First
Merchants Insurance Services, Inc., on April 1, 1998.
3. Other customer fees as a whole increased $265,000, or 18.4 percent, due
to an increased ATM network, increased sales volume of personal money
order agent fees, and increased pricing.
OTHER EXPENSE
Total "other expenses" represent non-interest operating expenses of the
Corporation. Third quarter other expense in 1998 exceeded the same quarter of
the prior year by $480,000, or 7.4 percent.
Two major areas account for most of the increase:
1. Salaries and benefit expense grew $394,000, or 11.0 percent, due to
normal salary increases and staff additions.
2. Net occupancy expense grew $123,000, or 31.7 percent, due to increasing
branch network.
Total "other expenses" represent non-interest operating expenses of the
Corporation. Other expenses for the nine month period ended September 30, 1998
exceeded the same period of the prior year by $1,254,000, or 6.6 percent.
Two major areas account for most of the increase:
1. Salaries and benefit expense grew $803,000, or 7.6 percent, due to
normal salary increases and staff additions.
2. Equipment expense increased $247,000, or 14.4 percent, reflecting the
Corporation's efforts to improve efficiency and provide electronic
service delivery to its customers.
Both the three months and nine months ended September 30, 1998 expenses are
offset by a change from cash basis accounting for inventory to GAAP accounting.
First Merchants Corporation reclassified approximately $200,000 of expenses into
inventory.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
INCOME TAXES
Income tax expense, for the three months ended September 30, 1998,
increased by $308,000 over the same period in 1997, due to a $663,000 increase
in pre-tax net income, mitigated somewhat by a $119,000 increase in tax-exempt
income. Likewise, the increase of $604,000 for the nine months ended September
30, 1998, as compared to the same period in 1997, results from a $1,445,000
increase in pre-tax net income, mitigated somewhat by a $261,000 increase in tax
exempt income.
YEAR 2000
The Corporation has conducted a comprehensive review of its computer
systems to identify the systems that could be affected by the Year 2000 Issue
and has developed an implementation plan to resolve the issue. The Year 2000
Issue is the result of the computer programs being written using two digits
rather than four to define the applicable year. Any of the Corporation's
programs that have time-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. The Corporation is utilizing both internal and external
resources to identify, correct or reprogram and test the systems for the Year
2000 compliance. The corporation began the testing phase during the third
quarter of 1998. The target date for the completion of core application testing
is December 31, 1998.
The Corporation has contacted the companies that supply or service our
material operations to certify that their respective computer systems are Year
2000 compliant. We have established a December 31, 1998 deadline for these
companies to provide this certification, which should provide our service
providers with adequate time to make their systems Year 2000 compliant. This
deadline should also provide us sufficient time to identify and contract with
alternative service providers to replace those providers who cannot certify that
they are, or soon will be Year 2000 compliant. We do not expect the expense of
such changes in suppliers or servicers to be material to our operations,
financial condition, or results.
In addition to possible expenses related to our own systems and those of
our service providers, we could incur losses if Year 2000 problems affect any
of our depositors or borrowers. Such problems could include delayed loan
payments due to Year 2000 problems affecting any of our significant borrowers or
impairing the payroll systems of large employers in our market area. Because our
loan portfolio to corporate and individual borrowers is diversified and our
market area does not depend significantly upon one employer or industry, we do
not expect any such Year 2000 related difficulties that may affect our
depositors and borrowers to significantly affect our net earnings or cash flow.
Our Board of Directors review on a quarterly basis our progress in
addressing Year 2000 issues. We believe that our costs related to upgrading our
systems and software for Year 2000 compliance will not exceed $900,000. As of
September 30, 1998, we have spent approximately $600,000 in connection with Year
2000 compliance, of the $600,000 approximately $550,000 has been capitalized as
the Corporation replaces non-compliant systems. Although we believe we are
taking the necessary steps to address the Year 2000 compliance issue, no
assurances can be given that some problems will not occur or that we will not
incur significant additional expenses in future periods.
OTHER
The Securities and Exchange Commission maintains a Web site that contains
reports, proxy and information statements and other information regarding
registrants that file electronically with the Commission, including the
Corporation, and that address is (http://www.sec.gov).
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required under this item is included as part of Management's
Discussion and Analysis under the heading Liquidity, Interest Sensitivity, and
Disclosures About Market Risk.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NONE
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
Form 10-Q
Page
Exhibit No.: Description of Exhibit: Number
------------ ----------------------- ------
27 Financial Data Schedule,
Period Ending September 30, 1998 . . . . . . 21
(b) Reports on Form 8-K:
A report on Form 8-K, dated August 11, 1998, was filed under
report item number 5, concerning First Merchants Corporation's
declaration of a 3-for-2 stock split effective October 23, 1998.
<PAGE>
FIRST MERCHANTS CORPORATION
FORM 10-Q
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.
FIRST MERCHANTS CORPORATION
(Registrant)
Date November 11, 1998 by /s/ Michael L. Cox
----------------------- -------------------------------
Michael L. Cox
President and Director
Date November 10, 1998 by /s/ James L. Thrash
----------------------- -------------------------------
James L. Thrash
Chief Financial & Principal
Accounting Officer
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 31,960
<INT-BEARING-DEPOSITS> 289
<FED-FUNDS-SOLD> 2,200
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 289,348
<INVESTMENTS-CARRYING> 23,363
<INVESTMENTS-MARKET> 23,687
<LOANS> 733,659
<ALLOWANCE> 7,202
<TOTAL-ASSETS> 1,113,879
<DEPOSITS> 860,588
<SHORT-TERM> 68,867
<LIABILITIES-OTHER> 8,053
<LONG-TERM> 46,544
0
0
<COMMON> 1,260
<OTHER-SE> 128,567
<TOTAL-LIABILITIES-AND-EQUITY> 1,113,879
<INTEREST-LOAN> 47,308
<INTEREST-INVEST> 10,853
<INTEREST-OTHER> 842
<INTEREST-TOTAL> 59,003
<INTEREST-DEPOSIT> 25,509
<INTEREST-EXPENSE> 28,088
<INTEREST-INCOME-NET> 30,915
<LOAN-LOSSES> 1,268
<SECURITIES-GAINS> 119
<EXPENSE-OTHER> 20,358
<INCOME-PRETAX> 17,674
<INCOME-PRE-EXTRAORDINARY> 11,513
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 11,513
<EPS-PRIMARY> 1.15
<EPS-DILUTED> 1.13
<YIELD-ACTUAL> 4.47
<LOANS-NON> 1,377
<LOANS-PAST> 2,229
<LOANS-TROUBLED> 418
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 6,778
<CHARGE-OFFS> 1,130
<RECOVERIES> 286
<ALLOWANCE-CLOSE> 7,202
<ALLOWANCE-DOMESTIC> 7,202
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
