FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
( X )QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
( )TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-12524
Hanover Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2219814
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
33 Carlisle Street, Hanover, Pennsylvania 17331
(address of principal executive office and zip code)
(717) 637-2201
Registrant's Telephone Number, including area code
(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
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
CLASS OUTSTANDING June 30, 1999
Common Stock, 3,918,105 shares
par value $.83 per share
1
<PAGE>
INDEX
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Page #
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets -
June 30,1999 and December 31, 1998 . . . . . . . . . . 3
Consolidated Statements of Income -
Three Months Ended June 30, 1999 and 1998 . . . . . . 4
Consolidated Statements of Income -
Six Months Ended June 30, 1999 and 1998 . . . . . . . . 5
Consolidated Statements of Cash Flows -
Six Months Ended June 30, 1999 and 1998 . . . . . . . 6
Notes to Consolidated Financial Statements . . . . . . .7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations . . . . .9
Part II. Other Information
Item 1. Legal Proceedings. . . . . . . . . . . . . . . . . . . 22
Item 2. Changes in Securities. . . . . . . . . . . . . . . . . 22
Item 3. Defaults Upon Senior Securities. . . . . . . . . . . . 22
Item 4. Submission of Matters to a Vote of Security Holders. . 22
Item 5. Other Information. . . . . . . . . . . . . . . . . . . 23
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . 23
Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
2
<PAGE>
<TABLE>
Part I. Financial Information
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Consolidated Balance Sheets
(unaudited in thousands, except per share data)
<CAPTION>
June 30, December 31,
1999 1998
<S> <C> <C>
ASSETS
Cash and due from banks $ 19,044 $ 17,539
Federal funds sold 26,836 8,635
Cash and cash equivalents 45,880 26,174
Interest bearing deposits with other banks 22 59
Short-term investments - -
Investment securities:
Available-for-sale 146,259 143,202
Held-to-maturity (market value - $1,696 and $1,794, respectively) 1,694 1,759
147,953 144,961
Loans:
Commercial, financial and agricultural 46,766 43,803
Real estate-construction 4,115 5,429
Real estate-commercial mortgage 46,576 44,750
Real estate-residential mortgage 131,313 130,196
Consumer 66,789 65,162
295,559 289,340
Less: Allowance for loan losses (3,622) (3,405)
Net loans 291,937 285,935
Premises and equipment 7,194 7,236
Accrued interest receivable 3,171 2,938
Other assets 5,168 2,790
TOTAL ASSETS $501,325 $ 470,093
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits:
Non-interest bearing $ 37,883 $ 33,827
Interest bearing 362,137 330,181
400,020 364,008
Borrowed Funds:
Short-term 12,792 15,651
Long-term 48,968 49,136
61,760 64,787
Accrued interest payable 3,633 2,453
Other liabilities 1,395 1,468
Dividends payable 433 433
TOTAL LIABILITIES 467,241 433,149
Shareholders' Equity
Preferred stock, $2.50 par value; authorized, 2,000,000 shares;
no shares issued or outstanding - -
Common Stock, $.83 par value; authorized, 9,000,000 shares;
issued and outstanding: 1999-3,918,105 shares;
1998-3,935,537 shares 3,252 3,270
Surplus 18,786 19,144
Accumulated other comprehensive income (2,622) 1,204
Retained earnings 14,668 13,326
TOTAL SHAREHOLDERS' EQUITY 34,084 36,944
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $501,325 $ 470,093
Book value per share $ 8.70 $ 9.38
<FN>
See accompanying notes.
</FN>
</TABLE>
3
<PAGE>
<TABLE>
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Consolidated Statements of Income
(Unaudited: in thousands of dollars, except per share data)
<CAPTION>
Three months ended
June 30,
1999 1998
<S> <C> <C>
INTEREST INCOME
Interest and fees on loans $ 6,016 $ 6,074
Interest on federal funds sold 188 73
Interest on short-term investments 35 -
Interest on investment securities:
Taxable 1,538 1,311
Tax-exempt 569 346
2,107 1,657
TOTAL INTEREST INCOME 8,346 7,804
INTEREST EXPENSE
Interest on deposits 3,493 3,356
Interest on borrowed funds 827 577
TOTAL INTEREST EXPENSE 4,320 3,933
NET INTEREST INCOME 4,026 3,871
PROVISION FOR LOAN LOSSES 195 210
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 3,831 3,661
NET SECURITIES GAINS 85 384
OTHER INCOME
Trust and investment services income 290 229
Services charges on deposit accounts 407 313
Other operating income 263 272
TOTAL OTHER INCOME 960 814
OTHER EXPENSE
Salaries 1,408 1,406
Employee benefits 307 292
Occupancy expense 238 242
Equipment expense 305 268
Marketing and advertising 112 131
Professional and service fees 352 230
Other operating expense 701 886
TOTAL OTHER EXPENSE 3,423 3,455
INCOME BEFORE INCOME TAXES 1,453 1,404
INCOME TAXES 309 371
NET INCOME $ 1,144 $ 1,033
PER SHARE DATA
Net income - basic and diluted $ 0.29 $ 0.26
Cash dividends declared $ 0.11 $ 0.10
<FN>
See notes to consolidated financial statements.
</FN>
</TABLE>
4
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<TABLE>
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Consolidated Statements of Income
(unaudited in thousands, except per share data)
<CAPTION>
Six months ended
June 30,
1999 1998
<S> <C> <C>
INTEREST INCOME
Interest and fees on loans $11,888 $11,971
Interest on federal funds sold 358 94
Interest on short-term investments 67 6
Interest on investment securities:
Taxable 3,037 2,556
Tax-exempt 1,054 654
4,091 3,210
TOTAL INTEREST INCOME 16,404 15,281
INTEREST EXPENSE
Interest on deposits 6,862 6,545
Interest on borrowed funds 1,657 1,120
TOTAL INTEREST EXPENSE 8,519 7,665
NET INTEREST INCOME 7,885 7,616
PROVISION FOR LOAN LOSSES 390 655
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 7,495 6,961
NET SECURITIES GAINS 161 732
OTHER INCOME
Trust and investment services income 576 464
Service charges on deposit accounts 786 609
Other operating income 613 469
TOTAL OTHER INCOME 1,975 1,542
OTHER EXPENSE
Salaries 2,793 2,788
Employee benefits 605 572
Occupancy expense 464 472
Equipment expense 603 540
Marketing and advertising 223 262
Professional and service fees 711 418
Other operating expense 1,412 1,497
TOTAL OTHER EXPENSE 6,811 6,549
Income before income taxes 2,820 2,686
INCOME TAXES 612 712
NET INCOME $ 2,208 $ 1,974
PER SHARE DATA
Net income - basic and diluted $ 0.56 $ 0.50
Cash dividends declared 0.22 0.20
<FN>
See accompanying notes.
</FN>
</TABLE>
5
<PAGE>
<TABLE>
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Consolidated Statements of Cash Flows
(unaudited in thousands)
<CAPTION>
Six months ended
June 30,
1999 1998
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 2,208 $ 1,974
Adjustments to reconcile net income to net
cash provided by operating activities:
Provision for loan losses 390 655
Provision for depreciation and amortization 543 489
Securities gains (161) (732)
(Increase) decrease in net deferred tax assets 147 (32)
Decrease in interest receivable (233) (82)
Increase in interest payable 1,180 781
Increase in other assets (554) 141
Increase (decrease) in other liabilities (408) 321
Increase in accrued taxes 335 (281)
Loans originated for sale (7,159) (8,262)
Proceeds from sale of loans originated for sale 8,442 8,170
NET CASH PROVIDED BY
OPERATING ACTIVITIES 4,730 3,142
INVESTING ACTIVITIES
Net increase in loans (7,675) (10,255)
Proceeds from sale of loans - 4,981
Proceeds from sale of avaliable-for-sale investment securities 27,369 10,322
Proceeds from maturities of investment securities 9,775 7,773
Purchases of investment securities (45,772) (33,798)
Proceeds from maturities of short-term investments 8,000 1,600
Purchases of short-term investments (7,963) (3)
Purchases of premises and equipment (501) (931)
NET CASH USED IN
INVESTING ACTIVITIES (16,767) (20,311)
FINANCING ACTIVITIES
Net increase in demand deposits, NOW accounts,
money market accounts, and savings accounts 16,959 14,052
Net increase (decrease) in certificates of deposit and other time deposits 19,053 8,418
Net increase (decrease) in borrowed funds (3,027) 4,661
Cash dividends paid (866) (765)
Cash paid in lieu of fractional shares - (9)
Proceeds from issuance of common stock 56 405
Repurchase and retirement of common stock (432) -
NET CASH PROVIDED BY
FINANCING ACTIVITIES 31,743 26,762
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 19,706 9,593
Cash and cash equivalents at beginning of year 26,174 19,718
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 45,880 $ 29,311
<FN>
See accompanying notes.
</FN>
</TABLE>
6
<PAGE>
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Notes to Consolidated Financial Statements
(1) In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments which are of a normal
recurring nature necessary to present fairly Hanover Bancorp, Inc's.
financial position as of June 30, 1999, and December 31, 1998, the
results of its operations for the three months and six months ended
June 30, 1999 and 1998 and cash flows for the six months ended June
30, 1999 and 1998.
(2) The information contained in this report is unaudited and is subject
to year-end adjustment and audit.
(3) These statements should be read in conjunction with the consolidated
financial statements and notes thereto included in the Corporation's
Annual Report on Form 10-K for the year ended December 31, 1998.
(4) Net income (basic and diluted) and cash dividends per share are based
on the weighted average number of shares outstanding which were
3,937,375 during the quarter ended June 30, 1999 and 3,934,807 during
the quarter ended June 30, 1998; 3,939,344 during the six months
ended June 30, 1999; and 3,928,313 during the six months ended June
30, 1998. The effect of dilutive securities for these periods was
immaterial.
(5) The results of operations for the six months ended June 30, 1999, are
not necessarily indicative of the results that may be expected for the
year ended December 31, 1999.
(6) Management maintains the allowance for loan losses at a level believed
adequate to absorb potential future losses in the portfolio. Factors
considered in evaluating the adequacy of the allowance include
potential specific losses, past loan loss experience, the volume,
growth and composition of the loan portfolio and the current economic
conditions and trends.
(7) Comprehensive income and its components for the quarter and six
months ended June 30, are as follows:
<TABLE>
<CAPTION>
Quarter Six months
Ended Ended
1999 1998 1999 1998
<S> <C> <C> <C> <C>
Net income $ 1,144 $1,033 $ 2,208 $1,974
Adjustment to net unrealized gains and losses
on securities available-for-sale, net of
tax effects and reclassification adjustment
for gains included in net income (3,388) 75 (3,826) (104)
Comprehensive Income $(2,244) $1,108 $(1,618)$1,870
<FN>
Accumulated other comprehensive income consists of the net unrealized
gain/loss on securities available-for-sale, net of tax effects.
</FN>
</TABLE>
7
<PAGE>
(8) In June 1998, FASB issued Statement No. 133, "Accounting for
Derivative Instruments and Hedging Activities". This statement
requires the recognition of derivative instruments as assets or
liabilities, measured at fair value. In July, 1999, FASB issued
Statement No. 137, "Accounting for Derivative Instruments and
Hedging Activities - Deferral of the Effective Date of FASB Statement
No. 133 - an amendment of FASB Statement No. 133". This standard
delayed the effective date for FASB 133 to fiscal years beginning
after June 15, 2000. The Corporation is not currently involved in
any transactions which fall under the definitions of this standard,
therefore it is not expected to have an impact on its' liquidity,
capital resources or results of operations.
In October 1998, FASB issued Statement No. 134, " Accounting for
Mortgage Backed Securities Retained after the Securitization of
Mortgage Loans Held for Sale by a Mortgage Banking Enterprise".
This statement amends FASB Statement No. 65, "Accounting for Certain
Mortgage Banking Activities" to require that after the
securitization of mortgage loans, the classification of the resulting
mortgage-backed securities be based on the ability and intent to sell
or hold the securities. This standard was effective on January 1,
1999. The Corporation is not currently involved in any transactions
which fall under the definitions of this standard, therefore it has
not had an impact on the Corporation's liquidity, capital resources
or results of operations.
***********
8
<PAGE>
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Management's Discussion and Analysis of
Financial Condition and Results of Operations
Results of Operations:
The consolidated operations of Hanover Bancorp Inc., (the "Corporation")
are derived primarily from the operations of its wholly-owned subsidiary,
the Bank of Hanover and Trust Company (the "Bank"). The following
discussion and analysis sets forth results of operations through the Second
quarter of 1999, including basic performance trends. There are no known
trends, events or uncertainties that will have or are likely to have a
material effect on the Corporation's liquidity, capital resources or
operations.
All forward looking information contained in this discussion and analysis
is based on management's current knowledge of factors affecting the
Corporation's business. Actual results may differ due to unforeseen events
such as, but not limited to, a significant downturn in the economic
environment, changes in interest rates, legislative changes or additional
requirements mandated by the numerous regulatory authorities. All such
forward-looking statements are made pursuant to the safe harbor provisions
of the Private Securities Litigation Reform Act of 1995.
Second Quarter of 1999 Compared to Second Quarter of 1998:
Net income for the three months ended June 30, 1999, increased $111,000
or 10.7% from 1998 while earnings per share (EPS) increased $.03 or 11.5%
during the same period. Return on average core equity (all equity accounts
except accumulated other comprehensive income) improved from 12.05% in 1998
to 12.36% in 1999.
Net interest income on a fully taxable equivalent basis was $4.4 million
for the quarter ended June 30, 1999, an increase of $264,000 or 6.4% from
1998's level of $4.1 million. This increase was due to higher earning asset
levels of $59.2 million, which was driven by deposit and loan growth and
increased investment security activity. Net interest margin decreased 30
basis points from 4.11% in 1998 to 3.81% in 1999. Since deposit growth
outpaced loan growth during this period, much of the excess funding was
deployed in the investment portfolio. The Corporation also utilized Federal
Home Loan Bank of Pittsburgh (FHLB) borrowings to fund additional investment
security activity. As a result, this growth generated narrower spreads which
lowered the margin.
The provision for loan losses during the second quarter of 1999 was
$195,000 compared to $210,000 for 1998. The Corporation makes provisions as
necessary to maintain the allowance at a level adequate to absorb potential
future losses within the portfolio.
9
<PAGE>
Securities gains decreased from $384,000 during the three months ended June
30, 1998 to $85,000 for the same period in 1999. This decrease was due to
lower equity gains realized from the Corporation's bank stock portfolio.
Other income for the three months ended June 30, 1999 increased $146,000 or
17.9% over the same period in 1998. The increase in trust and investment
services income is reflective of growth in assets under management. Service
charges on deposit accounts increased primarily as a result of higher
overdraft fees related to fee increases in the second half of 1998 and
operational changes.
Total other expense during the second quarter of 1999 was $32,000 or 0.9%
lower than in 1998. The prior year included the recognition of a $252,000
loss related to the termination of the Bank's pension plan. Excluding this
non-recurring item, other expense increased $220,000 or 6.9%. This increase
was principally due to professional and service fees resulting from the
contracting of PC help desk and network administration functions, costs
related to technology consulting, and the contracting of certain investment
services record keeping. Salary expense was affected by a lower level of
FTEs within the technology group due to the contracting of the functions
mentioned above. The resulting efficiency ratio (the cost to generate one
dollar of revenue) for the three months ended June 30, 1999 was 64.43%
compared to 65.33% a year ago.
The level of tax-free income is the primary factor impacting the
Corporation's effective tax rate. The Corporation recognized an income tax
provision which resulted in an effective tax rate of 21.3% for the quarter
ended June 30, 1999 compared to 26.4% rate in 1998. The decrease from period
to period was a result of a higher level of tax free income during 1999.
Six Months Ended June 30, 1999 Compared to Six Months Ended June 30 1998:
Earnings for the six months ended June 30, 1999 increased $234,000 or 11.9%
and earnings per share (EPS) increased $.06 or 12.0% over the same period in
1998. The return on average core equity (all equity accounts except
accumulated other comprehensive income) was 12.05% in 1999 versus 11.68% in
1998.
Net interest income on a fully taxable equivalent basis for the six months
ended June 30, 1999 increased $469,000 or 5.8% from the same period in 1998.
This increase was due to higher earning asset levels, driven by loan and
deposit growth and increased investment security activity. Net interest
margin decreased 35 basis points from 4.14% in 1998 to 3.78% in 1999. As
discussed previously, this decrease was due primarily to the deployment of
excess funding in the investment portfolio at relatively narrow spreads.
The provision for loan losses during the first half of 1999 decreased
$265,000 over the same period in 1998. The Corporation makes provisions as
necessary to maintain the allowance at a level adequate to absorb potential
future losses within the portfolio.
Securities gains decreased $571,000 during the period ended June 30, 1999
from the same period in 1998. This decrease was due to a decreased level of
gains realized from the Corporation's bank stock portfolio.
10
<PAGE>
Other income for the six months ended June 30, 1999 increased $433,000 or
28.1% over 1998. The increase in trust and investment services income is
reflective of growth in assets under management. Service charges on deposit
accounts increased primarily due to higher overdraft fees, as discussed
previously. The increase in other operating income was largely related to
higher income realized through mortgage origination activity.
Total other expense during the first half of 1999 was $6.8 million, an
increase of $262,000 or 4.0% from 1998. The previous year included the
recognition of a $252,000 loss related to the termination of the Bank's
pension plan. Excluding this non-recurring item, other expense increased
$514,000 or 8.2%. This increase was principally due to professional and
service fees resulting from the contracting of PC help desk and network
administration functions, costs related to technology consulting, the
contracting of certain investment services record keeping and increased
recruiting expenses. The nominal increase in salary expense was reflective
of a lower level of FTE's within the technology group due to the
contracting of the functions noted above. The resulting efficiency ratio
(the cost to generate one dollar of revenue) for the six months ended June
30, 1999 was 65.04% compared to 65.80% in 1998.
The Corporation recognized an income tax provision which resulted in an
effective tax rate of 21.7% for the period ended June 30, 1999 down from the
26.5% rate in 1998. The decrease was the result of a greater proportion of
tax free assets to earning assets in 1999 relative to 1998 as well as
additional state corporate income taxes incurred at the parent company in
the prior year.
Financial Condition
Continued strong growth in the Bank's deposit base enabled the Corporation to
surpass the milestone of $500 million during the second quarter of 1999.
Deposits are the most important funding source and the primary support for
the Corporation's growth. During the first six months of 1999, total
deposits increased $36.0 million or 9.9%. This growth came in nearly all
categories of deposits but particularly in the demand and money market
categories and certificates of deposit (CDs). Overall, deposit growth was
positively impacted by the continued consolidation within the local
marketplace. Borrowed funds, the other primary funding source, decreased due
to a decrease in repurchase agreements during the first half of 1999.
The Corporation uses these funding sources to support its lending and
investing activities. Net loans outstanding increased by $6.0 or 2.1% from
December 31, 1998 to June 30, 1999. The growth was principally the result of
increases in the commercial and consumer categories.
Investment securities increased $3.0 million or 2.1% through the first six
months of 1999 while federal funds sold and other short-term investments
increased by $18.2 million during this period. The increase federal funds
sold and other short-term investments reflects the mismatch between deposit
and loan growth and management's expectation that loan growth will utilize
a portion of these funds over time.
11
<PAGE>
<TABLE>
Trends in Sources and Uses of Funds
(in thousands, except percentages)
<CAPTION>
June 30, December 31 Change
1999 1998 $ %
<S> <C> <C> <C> <C>
Funding Sources
Deposits $400,020 $ 364,008 $36,012 9.9%
Borrowed funds 61,760 64,787 (3,027) (4.7%)
Other liabilities 5,461 4,354 1,107 25.4%
Shareholders' equity 34,084 36,944 (2,860) (7.7%)
TOTAL SOURCES $501,325 $ 470,093 $31,232 6.6%
Funding Uses
Loans $291,937 $ 285,935 $ 6,002 2.1%
Investment securities 147,953 144,961 2,992 2.1%
Federal funds sold and short-term investments 26,858 8,694 18,164 208.9%
Other assets 34,577 30,503 4,074 13.4%
TOTAL USES $501,325 $ 470,093 $31,232 6.6%
</TABLE>
12
<PAGE>
Capital Resources and Dividends
The Corporation has an ongoing strategic objective of maintaining a capital
base which supports the pursuit of profitable business opportunities,
provides resources to absorb the risks inherent in its activities and meets
or exceeds all regulatory requirements.
At June 30, 1999, total shareholders' equity was $34.1 million, a decrease
of $2.9 million from December 31, 1998. This change consisted of an
increase of $966,000 in capital stock, surplus and undivided profits (core
equity) and a decrease of $3.8 million in accumulated other comprehensive
income (unrealized gains on AFS securities). The increase in the core
equity was primarily the result of earnings retained. This was partially
offset by the repurchase of the Corporation's common stock, as discussed
below. The decrease in accumulated other comprehensive income resulted from
the higher level of market interest rates which negatively effects the
market value of debt securities and lower valuations within the bank stock
portfolio.
On April 17, 1998, the Board of Directors declared a 4-for-3 stock split
which was paid June 1, 1998 to shareholders of record May 1, 1998. The
primary objective of this split was to enhance liquidity and improve
marketability by increasing the number of shares outstanding, while
maintaining the strong market climate for Hanover Bancorp stock. Another
tool available to management for capital management and supporting the
market for the Corporation's stock is the repurchase program approved April
18, 1997 by the Board of Directors. During the second quarter of 1999,
25,733 shares were repurchased at a total cost of $432,000. As of June 30,
1999, 132,194 shares were still available for purchase under the program
which originally authorized 186,667 shares (adjusted for the stock split).
This program and a prior program have benefited the Corporation in terms of
improved EPS and ROE, two performance factors key to driving shareholder
value.
During the quarter ended June 30, 1999, the Board of Directors declared a
cash dividend of $.11 per share payable August 1, 1999, an increase of $.01
or 10.0% per share from a year ago. The Corporation relies on net income
rather than retained earnings for the payment of dividends to shareholders.
The dividend rate is determined by the Board of Directors after considering
the level of internal capital growth necessary to maintain an appropriate
ratio of equity to assets and the projected level of earnings. Management
anticipates that the internal growth rate of equity is more than adequate to
support the Corporation's asset growth.
As can be seen by the following tables, the Corporation and the Bank remain
well capitalized as defined by the regulatory authorities.
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
<S> <C> <C>
Hanover Bancorp, Inc.
Tier 1 capital to risk-adjusted assets 11.74% 12.02%
Total capital to risk-adjusted assets 12.94% 13.16%
Leverage ratio 7.59% 8.04%
Bank of Hanover and Trust Company
Tier 1 capital to risk-adjusted assets 9.82% 10.43%
Total capital to risk-adjusted assets 11.02% 11.60%
Leverage ratio 6.31% 6.93%
</TABLE>
13
<PAGE>
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA") created a framework for supervisory actions in an effort to
reduce the risks of possible long-term losses to the deposit insurance
funds. It established five levels of capital at which insured depository
institutions will be "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized" and "critically
undercapitalized". In 1992, the regulators adopted regulations to
implement the requirements of FDICIA. Under the regulations, the required
minimum capital ratios for each category of institutions are, with certain
exceptions, as follows:
<TABLE>
<CAPTION>
Tier I
Total Capital Capital to
to Risk-Adjusted Risk-Adjusted
Assets Assets Leverage
<S> <C> <C> <C>
Well capitalized 10% or above and 6% or above and 5% or above
Adequately
capitalized 8% or above and 4% or above and 4% or above
Undercapitalized Under 8% or under 4% or under 4%
Significantly
Undercapitalized Under 6% or under 3% or under 3%
Critically
undercapitalized 2% or under
</TABLE>
The appropriate federal bank regulatory agency has authority to downgrade
an institution's capital designation by one category if it determines that
an institution is in an unsafe or unsound condition or is engaging in
unsafe or unsound practices.
FDICIA provides for increased supervision for banks not rated in one of the
highest categories under the "CAMELS" composite bank rating system.
Undercapitalized institutions are required to submit capital restoration
plans to the appropriate federal banking regulator and are subject to
restrictions on operations, including prohibitions on branching, engaging
in new activities, paying management fees, making capital distributions
such as dividends, and growing without regulatory approval.
The Bank has been deemed "well capitalized".
14
<PAGE>
<TABLE>
Asset Quality and Allowance for Loan Losses:
The following table illustrates the Corporation's nonperforming asset position
as of June 30, 1999 compared to its position at December 31, 1998.
<CAPTION>
June 30, December 31,
1999 1998
<S> <C> <C>
Non-accrual loans $ 270 $ 517
Accruing loans past due 90 days or more 288 425
Restructured loans - -
Other real estate and other
repossessed assets 121 81
Total non-performing assets $ 679 $ 1,023
Non-accrual loans by category
Commercial, financial and agricultural $ - $ 81
Real estate-construction 80 -
Real estate-mortgage 184 426
Consumer 6 10
$ 270 $ 517
Past due loans by category
Commercial, financial and agricultural $ 79 $ 153
Real estate-construction - -
Real estate-mortgage 204 204
Consumer 5 68
$ 288 $ 425
Restructured loans by category
Commercial, financial and agricultural $ - $ -
Real estate-construction - -
Real estate-mortgage - -
Consumer - -
$ - $ -
</TABLE>
15
<PAGE>
Nonperforming assets were .23% of total loans at June 30, 1999 compared to
.35% at December 31, 1998. In addition, potential problem loans at June 30,
1999, as determined by the Corporation's internal review process, were
$1..2 million, the same level for December 31, 1998. Of these amounts,
$327,000 and $379,000 were considered impaired under FASB 114 for June 30,
1999 and December 31, 1998, respectively. Loans considered impaired under
FASB 114 represent those potential problem loans which management feels are
probable (as opposed to possible) to result in future noncompliance in
addition to the Corporation's applicable nonaccrual loans and restructured
loans.
Transactions in the allowance for loan losses were as follows:
<TABLE>
<CAPTION>
Period ended
June 30,
1999 1998
<S> <C> <C>
Balance at beginning of period $3,405 $2,908
Recoveries on loans 229 108
Provision charged to operations 390 655
Loans charged-off (402) (388)
Balance at end of period $3,622 $3,283
</TABLE>
The Corporation remains committed to making provisions in order to maintain
a strong allowance relative to its level of specific potential losses and to
its growing overall loan portfolio. A total provision of $390,000 was made
during the first six months of 1999 compared to $655,000 during the prior
year. Net charge-offs for the period ended June 30, 1999 were $173,000
compared to net charge-offs of $280,000 for the same period in 1998. The
resulting allowance for loan losses at June 30, 1999 was $3.6 million in
comparison to $3.3 million at June 30, 1998. This allowance approximated
1.23% of total loans and 533% of nonperforming assets at June 30, 1999
versus 1.16% and 279% at June 30 1998. Management feels that the allowance
for loan losses is adequate to cover potential future losses within the
overall portfolio.
Liquidity
Liquidity is the ability to meet funding requirements of customers' deposit
withdrawals or credit needs at a reasonable cost. The Corporation's
Asset/Liability Management Committee (ALCO) has established policies and
procedures to control its liquidity position and to provide for potential
future needs. The Corporation's liquidity position is enhanced by a
relatively stable funding base. The ratio of deposits (excluding CDs over
$100,000) to total assets was 74.1% at June 30, 1999, while CDs over
$100,000 and other borrowed funds to total assets was 18.1%. To manage its
liquidity needs, the Corporation looks to a number of sources on both sides
of its balance sheet.
16
<PAGE>
On the asset side of the balance sheet, the Corporation relies on federal
funds sold, short-term investments, maturities in the investment portfolio,
principal repayments on outstanding loans and amortizing investment
securities and sales of loans in the secondary markets. At June 30, 1999,
the balance of the federal funds sold was $26.8 million while a total of
$16.2 million of the Corporation's investment portfolio was scheduled to
mature in one year or less. Additionally, an average of $9.3 million in
loan principal repayments and $1.0 million in mortgage-backed and asset-
backed securities repayments were received by the Corporation during each
month of the first six months of 1999.
The Corporation maintains borrowing agreements with several correspondent
banks and the Discount Window at the Federal Reserve Bank of Philadelphia.
In addition, it has access to the FHLB for permanent funding needs.
Through these relationships, the Corporation has available short-term
credit of approximately $10.0 million and permanent funding of
approximately $51.8 million.
Market Risk
In January 1997, the Securities and Exchange Commission (SEC) issued new
disclosure rules related to derivatives and exposures to market risk from
derivative financial instruments, other financial instruments and certain
derivative commodity instruments. These rules became effective for the
Corporation's December 31, 1997 financial statements. Market risk
includes interest rate risk, foreign currency exchange rate risk, commodity
price risk and equity price risk. The new disclosure rules have two parts:
quantitative and qualitative market risk disclosures outside the financial
statements, and accounting policy disclosures about derivatives in the
notes to the financial statements. As further discussed within, the
Corporation's primary market risk is interest rate risk from its financial
assets and liabilities. Derivatives are not presently utilized and thus
the expanded policy disclosures are not applicable
Interest rate risk is the exposure to fluctuations in the Corporation's
current and future net interest income from movements in interest rates.
This exposure results from differences between the amounts of interest
earning assets and interest bearing liabilities that reprice within a
specified time period.
The primary objective of the Corporation's asset/liability management
process is to maximize current and future net interest income within
acceptable levels of interest rate risk while satisfying liquidity and
capital requirements. Management recognizes that a certain amount of
interest rate risk is inherent and appropriate yet is not essential to the
Corporation's profitability. Thus the goal of interest rate risk
management is to maintain a balance between risk and reward such that net
interest income is maximized while risk is maintained at a tolerable level.
17
<PAGE>
The Corporation uses gap and simulation analyses for measuring interest
rate risk. These methods allow management to regularly monitor both the
direction and magnitude of the Corporation's risk exposure. The
Corporation primarily uses the securities portfolio and FHLB advances to
manage its interest rate risk position. Additionally, pricing, promotion
and product development activities are directed in an effort to emphasize
the term or repricing characteristics that best meet current interest rate
risk objectives. At present, off-balance sheet instruments are not used by
the Corporation.
Gap analysis assigns each interest earning asset and interest bearing
liability to a time frame reflecting its next repricing or maturity date.
Incorporated into this process are the trends in prepayments on loan
balances and mortgage-backed securities. The difference between total
interest-sensitive assets and liabilities at each time frame represents the
interest sensitivity gap for that interval. A positive gap generally
indicates that rising interest rates during a particular interval will
increase net interest income, since more assets will reprice than
liabilities. The opposite is true for a negative gap position. The
Corporation had a cumulative gap within one year at June 30, 1999 of
negative $13.7 million or 2.74% of total assets. At December 31, 1998, the
Corporation had a positive gap of $19.5 million or 4.15% of total assets.
This shift to a fairly neutral gap from December 31, 1998 to June 30, 1999
was largely the result of extending maturities in the investment portfolio
and a block of certificates of deposit falling within the one year time
frame.
Simulation analysis prospectively evaluates the effect of upward and
downward changes in interest rates on net interest income. This process is
largely dependent on the underlying assumptions. Key assumptions in the
model include maturity and repricing characteristics of the financial
assets and liabilities, prepayments on amortizing assets, other imbedded
options, nonmaturity deposit sensitivity and loan and deposit growth and
pricing. These assumptions are inherently uncertain due to the timing,
magnitude and frequency of rate changes and changes in market conditions
and management strategies, among other factors. In addition, the
Corporation has not yet developed alternative prepayment or balance sheet
growth assumptions for the various rate scenarios. Therefore the model
cannot precisely estimate net interest income or predict the impact of
higher or lower interest rates on net interest income. However, the model
is useful in that it helps to quantify interest rate risk and it provides a
relative gauge of the Corporation's interest rate risk position over time.
Based on the results of the simulation model as of June 30, 1999, the
Corporation would expect net interest income to decrease over the next
twelve months by 2.9% assuming an immediate upward shift in market interest
rates of 200 basis points, and to increase by 0.3% if rates shifted
downward in the same manner. At December 31, 1998, net interest income was
expected to decrease by .9% in the upward scenario and to decrease by 1.5%
in the downward scenario. The simulation results are largely affected by
the Corporation's holdings of approximately $43 million of convertible
FHLB borrowings. These borrowings contain features which allow the FHLB to
convert them from fixed rate to variable rate after a specified time
period. The model assumes that in the upward scenario the FHLB would
exercise these options as soon as they become available. This explains why
18
<PAGE>
both the up and down scenarios are showing similar results (i.e. in the up
scenario, the additional income realized due to the asset sensitivity is
offset by the repricing advances). Consistent with the gap analysis, the
change to a more negative position from December 31, 1998 to June 30, 1999
is due to extended maturities in the investment portfolio and increased
certificate of deposit maturities within one year.
YEAR 2000
Many older computer programs were designed using two digits rather than
four to define the year. This date-sensitive software may recognize a date
using "00" as the year 1900 rather than the year 2000. This could cause
a system failure or miscalculation causing disruptions of operations,
including, among other things, a temporary inability to process
transactions, send invoices, or engage in similar normal business
activities. This situation, known by many as the Year 2000 (Y2K) issue,
applies not only to the systems utilized by the Corporation, but also to
the systems utilized by customers, creditors, vendors and suppliers of the
Corporation.
To address Year 2000 issues, the Corporation adopted a policy and strategic
project plan using guidelines established by the Federal Financial
Institutions Examination Council (FFIEC). The Corporation completed all
mission-critical aspects of the Year 2000 project plan and had
substantially all necessary system changes implemented in advance of the
regulatory deadline of June 30, 1999. A corporate-wide Year 2000 task
force continues to meet to discuss upcoming projects and assess progress.
Senior Management and the Board of Directors closely monitor the Year 2000
project using a progress report and internal audits. On a regular basis,
bank examiners from the Federal Deposit Insurance Corporation (FDIC) have
evaluated readiness for the Year 2000 to confirm that guidelines are met.
The Corporation has inventoried and assessed all software, hardware and
systems for Year 2000 readiness. Any non-compliant items were upgraded or
replaced. Testing ensured that all mission-critical systems would function
correctly in the year 2000 and beyond, properly handling all date-sensitive
data. The rigorous testing procedures encompassed the ATM network,
telephone banking system, core processing system, internal PC network,
internal and external interfaces and mission-critical software. The vendor
of the core processing system tested all 13 critical dates outlined in
FFIEC guidance. The Corporation tested each critical date based upon
assessed exposure to date sensitivities. Doing so ensured that vendor test
results were repeatable within the Corporation's specific system
parameters. The Corporation's internal auditor reviewed test results from
all hardware, software and systems. The Corporation completed mission-
critical testing by June 30, 1999.
To minimize customer inconvenience and facilitate a "business as usual"
environment, the Corporation developed contingency plans in the event of
unexpected Year 2000 problems. The Corporation has updated its disaster
recovery plan and assigned corporate-wide team leaders. This plan
encompasses contingencies for mission-critical mainframe and PC-based
applications, third-party relationships and environmental systems. A Year
2000 contingency plan was also developed. This plan addresses aspects
outside of the locus of control such as telecommunications, electric
companies and other utility companies. The procedures in the disaster
19
<PAGE>
recovery and Year 2000 contingency plans will be reassessed for
thoroughness and validity on a quarterly basis.
Utilizing information from written vendor surveys, Internet sites and
internal testing, the Corporation has assessed the year 2000 readiness of
vendors and service providers. Those assessed include application software
vendors, automated clearinghouses, electronic payment systems (Federal
Reserve), equipment, telecommunication and utility companies. The FDIC is
also monitoring the readiness of the Corporation's ATM and core processing
system providers. The Corporation has determined that all infrastructure
components are Year 2000 compliant, including ATM machines, safe deposit
boxes, vaults, security systems, office equipment, lighting and heating and
cooling systems. Using a written survey and contacts with loan officers,
the Corporation has assessed the Year 2000 readiness of customers holding
significant commercial loans. The Corporation has established Year 2000
compliance as a factor in its credit decisions and loan documentation.
A central component of the Year 2000 project is customer and shareholder
awareness of the issue and the steps taken by the Corporation. All branches
and the Teleservices area have been educated on the Year 2000 issue.
Customer concerns are being addressed using statement brochures, lobby
brochures, posters and informational handouts. To facilitate shareholder
awareness, a brochure describing the Corporation's Year 2000 effort was
included in the fourth quarter 1998 report. As a public service, the
Corporation informed business customers about the Small Business
Administration Year 2000 hot line in commercial statements from December
1998 through January 1999.
The cost of becoming Year 2000 compliant has been insignificant to date and
management believes that the remaining costs will not have a material
impact on future results of operations.
Failure of the Corporation or third parties to correct Year 2000 issues
could cause disruption of operations resulting in increased operating costs
and other adverse effects. In addition, to the extent customers' financial
positions are weakened as a result of Year 2000 issues, credit quality
could be affected. It is not possible to predict with certainty all of the
adverse effects that may result from a failure of the Corporation or third
parties to become fully Year 2000 compliant or whether such effects could
have a material impact on the Corporation.
The costs of the project and the date on which the Corporation believes it
will complete the Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future
events, including the continued availability of certain resources and other
factors. However, there can be no guarantee that these estimates will be
achieved and actual results could differ materially from those anticipated.
Specific factors that might cause such material differences include, but
are not limited to, the availability and cost of personnel trained in this
area, the ability to locate and correct all relevant computer codes, and
similar uncertainties.
On October 19, 1998, Congress enacted the Year 2000 Information and
Readiness Disclosure Act (the "Act"). The purpose of the Act is (1) to
promote the free disclosure and exchange of information related to Year
20
<PAGE>
2000 readiness; (2) to assist in effectively and rapidly responding to Year
2000 problems; and (3) to establish uniform legal principles in connection
with the disclosure and exchange of information related to Year 2000
readiness. In accordance with the Act, all Bank of Hanover communications
regarding Year 2000 readiness efforts are designated as Year 2000 Readiness
Disclosures.
REGULATORY ISSUES
From time to time, various types of federal and state legislation have been
proposed that could result in additional regulation of and restrictions on
the business of the Corporation and the Bank. Congress has proposed
"modernization" of the financial services industry. This proposed
modernization will have the effect of deregulating and expanding the
business activities of financial institutions. These additional activities
may include broader insurance powers, securities underwriting activities
and equity investments by commercial banks. It cannot be predicted whether
such legislation will be adopted or, if adopted, how such legislation would
affect the business of the Corporation and the Bank. As a consequence of
the extensive regulation of commercial banking activities in the United
States, the Corporation's and the Bank's business is particularly
susceptible to being affected by federal legislation and regulations that
may increase the cost of doing business. Management believes that the
effect of the provisions of the aforementioned legislation on the
liquidity, capital resources, and results of operations of the Corporation
will not be material. Management is not aware of any other current specific
recommendations by regulatory authorities or proposed legislation, which if
they were implemented, would have a material adverse effect upon the
liquidity, capital resources or results of operations. However, the
general cost of compliance with numerous and multiple federal and state
laws and regulations does have, and in the future may have, a negative
impact on the Corporation's results of operations.
Further, the business of the Corporation is also affected by the state of
the financial services industry in general. As a result of legal and
industry changes, management believes that the industry will continue to
experience consolidations and mergers as the financial services industry
strives for greater cost efficiencies and market share. Management believes
that such consolidations and mergers may enhance its competitive position
as a community bank.
Congress is currently considering legislative reform centered on repealing
the Glass-Steagall Act which prohibits commercial banks from engaging in
the securities industry. The holding company structure would be regulated
by the Federal Reserve Board, and its subsidiaries would be supervised by
the applicable regulator based on their respective functions.
21
<PAGE>
PART II. OTHER INFORMATION
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Item 1. Legal Proceedings
In the opinion of the management of the Corporation and the Bank, there
are no proceedings pending to which the Corporation and/or Bank is a party or
to which their property is subject, which, if determined adversely to the
Corporation or Bank, would be material in relation to the Corporation's and
the Bank's undivided profits or financial condition. There are no
proceedings pending other than ordinary routine litigation incident to the
business of the Corporation or the Bank. In addition, no material
proceedings are pending or are known to be threatened or contemplated
against the Corporation or the Bank by government authorities.
Item 2. Changes in Securities - None.
Item 3. Defaults Upon Senior Securities - None.
Item 4. Submission of Matters to a Vote of Security Holders
(a) An annual meeting of shareholders was held April 27, 1999.
(b)-(c) One matter was voted upon, as follows:
Four directors were elected, as below:
Votes Votes
Term Cast Cast Votes
Expires "For" "Against" "Abstained"
Re-elected
Michael D. Bross 2002 3,934,334 882 6,159
Thomas M. Bross, Jr. 2002 3,933,246 1,970 6,159
Earl F. Noel, Jr. 2002 3,935,216 0 6,159
J. Bradley Scovill 2002 3,930,654 4,562 6,159
Directors whose term continued after meeting
Term
Expires
Terrence L. Hormel 2000
Charles W. Test 2000
S. Eisenhart, Jr. 2000
Bertram F. Elsner 2001
J. Daniel Frock 2001
Gordon A Haaland, Ph.D. 2001
Stewart E. Hartman, Jr. 2001
22
<PAGE>
Item 5. Other Information - None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - Exhibit 27. Financial Data Schedule
(b) Reports on Form 8-K - None
23
<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.
HANOVER BANCORP, INC.
Date: August 13, 1999 /s/ Bradley Scovill
J. Bradley Scovill
President and
Chief Executive Officer
(Principal Executive Officer)
Date: August 13, 1999 /s/ Thomas J. Paholsky
Thomas J. Paholsky
Treasurer
(Principal Accounting and
Financial Officer)
24
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> Dec-31-1999
<PERIOD-END> Jun-30-1999
<CASH> 19,044
<INT-BEARING-DEPOSITS> 22
<FED-FUNDS-SOLD> 26,836
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 146,259
<INVESTMENTS-CARRYING> 1,694
<INVESTMENTS-MARKET> 1,696
<LOANS> 295,559
<ALLOWANCE> 3,622
<TOTAL-ASSETS> 501,325
<DEPOSITS> 400,020
<SHORT-TERM> 12,792
<LIABILITIES-OTHER> 5,461
<LONG-TERM> 48,968
0
0
<COMMON> 3,252
<OTHER-SE> 30,832
<TOTAL-LIABILITIES-AND-EQUITY> 501,325
<INTEREST-LOAN> 11,888
<INTEREST-INVEST> 4,091
<INTEREST-OTHER> 425
<INTEREST-TOTAL> 16,404
<INTEREST-DEPOSIT> 6,862
<INTEREST-EXPENSE> 8,519
<INTEREST-INCOME-NET> 7,885
<LOAN-LOSSES> 390
<SECURITIES-GAINS> 161
<EXPENSE-OTHER> 6,811
<INCOME-PRETAX> 2,820
<INCOME-PRE-EXTRAORDINARY> 2,208
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,208
<EPS-BASIC> 0.56
<EPS-DILUTED> 0.56
<YIELD-ACTUAL> 3.78
<LOANS-NON> 270
<LOANS-PAST> 288
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 1,500
<ALLOWANCE-OPEN> 3,405
<CHARGE-OFFS> 402
<RECOVERIES> 229
<ALLOWANCE-CLOSE> 3,622
<ALLOWANCE-DOMESTIC> 3,622
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
