UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(x) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
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
incorporation or organization) Identification No.)
33 Carlisle Street
Hanover, Pennsylvania 17331
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code (717) 637-2201
Securities Registered Pursuant To Section 12(b) Of The Act: None
Securities Registered Pursuant To Section 12(g) Of The Act:
Hanover Bancorp Inc. Common Stock - Par Value $.83 per share
(Title of class)
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 by check mark if disclosure of delinquent filers pursuant
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive Proxy or
information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. ( )
The aggregate market value of the voting stock held by nonaffiliates
of the registrant as of February 28, 1999, was $61,657,943.
The number of shares outstanding of the issuer's common stock as of
February 28, 1999: Common Stock, $.83 Par Value--3,941,375 shares.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the Hanover Bancorp, Inc. 1998 Annual Report to Shareholders,
which is included at Exhibit 13, and the definitive Proxy Statement for
the 1999 Annual Shareholders Meeting to be held April 27, 1999, are
incorporated by reference into Parts II and III, respectively.
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<PAGE>
HANOVER BANCORP, INC.
FORM 10-K INDEX
PART I PAGE #
Item 1 - Business 3
Item 2 - Properties 10
Item 3 - Legal Proceedings 11
Item 4 - Submission of Matters to a Vote of Security Holders 11
PART II
Item 5 - Market for Registrant's Common Equity and
Related Shareholder Matters 11
Item 6 - Selected Financial Data 11
Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 12
Item 7A - Quantitative and Qualitative Disclosures about
Market Risk 12
Item 8 - Financial Statements and Supplementary Data 12
Item 9 - Changes In and Disagreements With Accountants
on Accounting and Financial Disclosure 12
PART III
Item 10 - Directors and Executive Officers of the Registrant 12
Item 11 - Executive Compensation 12
Item 12 - Security Ownership of Certain Beneficial
Owners and Management 12
Item 13 - Certain Relationships and Related Transactions 13
PART IV
Item 14 - Exhibits, Financial Statements, Schedules
and Reports on Form 8-K 13
Item 15 - Signatures 15
2
<PAGE>
PART I
ITEM 1 - BUSINESS
HANOVER BANCORP, INC.
The registrant, Hanover Bancorp, Inc.(the "Corporation"), was
incorporated under the laws of the Commonwealth of Pennsylvania on August
2, 1983. The Corporation is a one-bank holding company registered under
the Bank Holding Company Act of 1956, owning all the outstanding shares of
its subsidiary, Bank of Hanover and Trust Company. The Corporation is
registered with and subject to the regulatory supervision of the
Securities and Exchange Commission and the Board of Governors of the
Federal Reserve System and the Bank is subject to regulatory supervision
of the Pennsylvania Department of Banking and the Federal Deposit
Insurance Corporation. The Corporation's administrative offices are
located at 33 Carlisle Street, Hanover, Pennsylvania 17331 (telephone
number 717-637-2201).
BANK OF HANOVER AND TRUST COMPANY
Bank of Hanover and Trust Company (the "Bank") is the
Corporation's wholly- owned bank subsidiary and was first organized in
1835 under the laws of the Commonwealth of Pennsylvania. The Bank
conducts its business principally through ten full service banking offices
located in York and Adams Counties, Pennsylvania. At December 31, 1998,
the Bank had total deposits of $364,142,000; total assets of $464,315,000;
and net loans of $285,935,000.
The Bank offers a wide variety of banking services to all segments
of its service area. The Bank's lending services include commercial,
financial and agricultural revolving lines of credit and term loans,
construction loans, residential mortgage loans and installment and other
personal loans. These lending activities involve varying degrees of
credit risk. In general, commercial, financial and agricultural loans
expose the Bank to the most credit risk while residential mortgage loans
involve the least risk. In order to keep this risk at an acceptable
overall level, the Bank strives to maintain a diversified loan portfolio.
The specific underwriting standards such as loan to value ratios and
collateral requirements are defined within a formal written lending policy
and vary from category to category. The Bank's deposit services include
commercial and personal checking accounts, savings and time accounts,
certificates of deposit, and safety deposit services. The Bank is also a
member of the MAC system and offers automated teller machine service at
all of its full service offices, as well as at 11 remote service locations
in Hanover, York, Dover, East Berlin and Carlisle.
Individual trust services offered by the Bank include the
administration of estates, trust and agency accounts. Corporate trust
services include acting as trustee for employee benefit plans.
The Bank is not dependent upon a single customer or a small number
of customers, the loss of which would have a material adverse effect on
the Bank or the Corporation.
COMPETITION
Commercial banking in Pennsylvania is highly competitive. In
addition to competition with banks of similar size, the Bank competes
directly in its market area with larger banking and other financial
service organizations which have substantially greater resources and serve
broader geographic markets.
3
<PAGE>
Competing within the Bank's market area, defined as York and
Adams Counties, are 179 offices of area financial institutions, including
commercial banks, savings and loan institutions and savings banks. As
determined through the FDIC's website (http://www.fdic.gov), combined
total deposits of these financial institutions were $5,091,526,000 as of
June 30, 1998.
STAFF
The total number of full-time equivalent persons employed by the
Bank as of December 31, 1998, was 196. Most employees are provided with
group life, health and major medical insurance and are eligible for the
Bank's defined contribution 401(k) Plan. Management considers employee
relations to be very good.
SUPERVISION AND REGULATION
The Corporation, as a "bank holding company" under the Federal
Bank Holding Company Act, is regulated and examined by the Federal Reserve
Board. The Act restricts the business activities and acquisitions that
may be engaged in, or made by the Corporation. As a "bank holding
company" for purposes of Pennsylvania state banking law, the Corporation
is regulated and supervised by the Pennsylvania Department of Banking.
Other Federal and Pennsylvania laws regulate, restrict and sometimes
prohibit certain activities of, or transactions between, a corporation's
banking subsidiaries and a corporation itself and its other subsidiaries.
These laws include limitations on the loans by a bank's subsidiaries to
affiliated companies and on the amount of dividends that may be declared
by a bank's subsidiaries (see Note 14 to the Consolidated Financial
Statements).
The Bank is a member of the FDIC. Accordingly, its operations are
subject to regulation and examination by the State of Pennsylvania and the
FDIC and the Bank's deposits are insured by the FDIC to the extent
provided by law.
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 be immaterial. 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.
4
<PAGE>
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.
GOVERNMENTAL MONETARY POLICIES
The earnings of the Corporation and the Bank are affected by
domestic economic conditions and the monetary and fiscal policies of the
United States Government and its agencies. An important function of the
Federal Reserve System is to regulate the money supply and interest rates.
Among the instruments used to implement those objectives are open market
operations in United States government securities and changes in reserve
requirements against member bank deposits. These instruments are used in
varying combinations to influence overall growth and distribution of bank
loans, investments and deposits, and their use may also affect rates
charged on loans or paid for deposits.
As a financial institution, the policies and regulations of the
Federal Reserve Board have a significant effect on its deposits, loans and
investment growth, as well as the rate of interest earned and paid, and
are expected to affect the Bank's operations in the future. The effect
of such policies and regulations upon the future business and earnings of
the Corporation and the Bank cannot be predicted.
EFFECTS OF INFLATION
The majority of the assets and liabilities of a financial
institution are monetary in nature, and therefore, differ greatly from
most commercial and industrial companies that have significant investments
in fixed assets or inventories. However, inflation does have an important
impact on the growth of total assets in the banking industry and the
resulting need to increase equity capital at higher than normal rates in
order to maintain an appropriate equity-to-assets ratio. An important
effect of this can be the reduction of the proportion of earnings paid out
in cash dividends. Another significant effect of inflation is on other
expenses, which tend to rise more rapidly during periods of general
inflation. Finally, the most important impact is the influence that
inflation expectations have on the level and volatility of market interest
rates.
STATISTICAL DATA
I. Distribution of Assets, Liabilities and Shareholders' Equity; Interest
Rates and Interest Differential
The information required by this item is set forth within
"Management's Discussion and Analysis" (pages 20 through 37 of filing)
of the Registrant's 1998 Annual Report to Shareholders, excerpts of which
are included at Exhibit 13, and is incorporated herein by reference.
5
<PAGE>
II. Investment Portfolio
<TABLE>
The following table sets forth the amortized cost of investments at the dates indicated (in thousands):
<CAPTION>
December 31,
1998 1997 1996
<S> <C> <C> <C>
U.S. Treasury securities and
obligations of other U.S. Government
agencies and corporations $ 87,166 $70,032 $49,881
Obligations of states and political
subdivisions 43,134 21,753 22,069
Other securities 12,837 3,353 3,246
TOTAL $143,137 $95,138 $75,196
</TABLE>
<TABLE>
The following table sets forth the maturities of investment securities at December 31, 1998
(in thousands, except rates):
<CAPTION>
After One After Five
Year And Years And
Within Within Within After
One Year Five Years Ten Years Ten Years
Amount Rate Amount Rate Amount Rate Amount Rate
<S> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury securities and
obligations of other U.S. Government
agencies and corporations $ 6,039 5.99% $12,073 6.17% $12,435 6.33% $ 56,619 6.28%
Obligations of states and political
subdivisions 749 9.54% 1,585 6.93% 7,268 6.76% 33,532 7.96%
Other securities - - - - - - 12,837 4.25%
TOTAL $ 6,788 6.38% $13,658 6.26% $19,703 6.49% $102,988 6.57%
<FN>
Weighted average yields are based on amortized cost. Additionally, yields on tax-exempt obligations have been
computed on a fully taxable equivalent basis assuming a tax rate of 34%.
</TABLE>
Other information required by this item is set forth within
"Management's Discussion and Analysis" (pages 20 through 37 of filing)
of the Registrant's 1998 Annual Report to Shareholders, excerpts of which
are included at Exhibit 13, and is incorporated herein by reference.
6
<PAGE>
III. Loan Portfolio
<TABLE>
The following table shows the Corporation's loan distribution by type at the end of the last five years
(in thousands):
<CAPTION>
December 31,
1998 1997 1996 1995 1994
<S> <C> <C> <C> <C> <C>
Commercial, financial and agricultural $ 43,803 $ 35,254 $ 31,991 $ 26,062 $ 25,587
Real estate-construction 5,429 5,666 3,775 5,384 2,942
Real estate-commercial mortgage 44,750 34,216 29,563 25,739 21,090
Real estate-residential mortgage 130,196 135,217 119,383 95,227 86,843
Consumer 65,162 67,122 69,861 61,457 55,934
TOTAL $289,340 $277,475 $254,573 $213,869 $192,396
</TABLE>
<TABLE>
The following table shows the amounts of loans outstanding as of December 31, 1998,
which, based on remaining scheduled repayments of principal, are due in the periods indicated.
Also, the amounts due after one year are classified according to the sensitivity of changes in
interest rates (in thousands):
<CAPTION>
Maturing
After
One And
Within Within After
One Year Five Years Five Years Total
<S> <C> <C> <C> <C>
Commercial, financial and agricultural $ 14,607 $ 20,015 $ 9,181 $ 43,803
Real estate-construction 2,346 1,066 2,017 5,429
Real estate-commercial mortgage 2,442 3,377 38,931 44,750
Real estate-residential mortgage 4,674 15,891 109,631 130,196
Consumer 4,286 56,388 4,488 65,162
TOTAL $ 28,355 $ 96,737 $164,248 $289,340
Loans maturing after one year with:
Fixed interest rates $ 85,398 $125,938
Variable interest rates 11,339 38,310
TOTAL $ 96,737 $164,248
</TABLE>
Other information required by this item is set forth within
"Management's Discussion and Analysis" (pages 20 through 37 of filing)
of the Registrant's 1998 Annual Report to Shareholders, excerpts of which
are included at Exhibit 13, and is incorporated herein by reference.
7
<PAGE>
IV. Summary of Loan Loss Experience
<TABLE>
The following table shows the allocation of the loan loss allowance at the dates indicated (in thousands, except ratios):
<CAPTION>
1998 1997 1996 1995 1994
Percent Percent Percent Percent Percent
of Loans of Loans of Loans of Loans of Loans
in each in each in each in each in each
Category Category Category Category Category
Allowance to Total Allowance to Total Allowance to Total Allowance to Total Allowance to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial, financial,
agricultural and
real estate -
commercial mortgage $ 466 30.6% $ 888 25.1% $ 668 24.2% $ 387 24.2% $ 1,139 24.3%
Real estate -
construction 23 1.9% 24 2.0% 16 1.5% 17 2.5% 6 1.5%
Real estate -
residential mortgage 472 45.0% 473 48.7% 393 46.9% 296 44.5% 261 45.1%
Consumer 580 22.5% 605 24.2% 631 27.4% 537 28.8% 483 29.1%
Unallocated 1,864 918 695 983 609
TOTAL $ 3,405 100.0% $ 2,908 100.0% $ 2,403 100.0% $ 2,220 100.0% $ 2,498 100.0%
</TABLE>
Other information required by this item is set forth within
"Management's Discussion and Analysis" (pages 20 through 37 of filing)
of the Registrant's 1998 Annual Report to Shareholders, excerpts of which
are included at Exhibit 13, and is incorporated herein by reference.
8
<PAGE>
V. DEPOSITS
<TABLE>
The average daily amount and rate of deposits (all domestic) is summarized for the
periods indicated in the following table (in thousands, except rates):
<CAPTION>
Year-Ended December 31,
1998 1997 1996
Amount Rate Amount Rate Amount Rate
<S> <C> <C> <C> <C> <C> <C>
Non-interest bearing demand deposits $ 31,168 $ 27,994 $ 26,892
Interest bearing demand deposits 33,552 1.33% 29,062 1.33% 27,726 1.50%
Savings deposits 19,899 2.07% 22,346 2.04% 25,943 2.10%
Money market deposits 87,843 3.58% 70,577 3.37% 53,845 2.80%
Time deposits 171,974 5.52% 163,107 5.59% 154,489 5.55%
TOTAL $344,436 $313,086 $288,895
</TABLE>
<TABLE>
The following table presents a maturity distribution of time certificates over $100,000 (in thousands):
<CAPTION>
December 31,
1998 1997
<S> <C> <C>
MATURING IN
3 months or less $ 1,485 $ 4,023
4-6 months 1,751 1,246
7-12 months 3,933 2,659
Over 12 months 9,411 5,393
TOTAL $16,580 $13,321
</TABLE>
<TABLE>
The following table presents the annual maturities of time deposits at December 31, 1998 (in thousands):
<CAPTION>
Annual
Maturities
<S> <C>
1999 $ 87,120
2000 60,916
2001 16,557
2002 1,399
2003 2,538
2004 and thereafter 12,006
$180,536
</TABLE>
9
<PAGE>
VI. RETURN ON EQUITY AND ASSETS
The information required by this item is set forth within "Selected
Consolidated Financial Data" (page 19 of filing) of the Registrant's
1998 Annual Report to Shareholders, excerpts of which are included at
Exhibit 13, and is incorporated herein by reference.
VII. SHORT-TERM BORROWINGS
The information required by this item is set forth within "Notes to
Consolidated Financial Statements" (pages 45 through 61 of filing) of the
Registrant's 1998 Annual Report to Shareholders, excerpts of which are
included at Exhibit 13, and is incorporated herein by reference
ITEM 2 - PROPERTIES
The Corporation's headquarters is located in its Administration
Center at 33 Carlisle Street, Hanover, Pennsylvania 17331. In addition to
the Administration Center, the Bank owns the following unencumbered
banking offices:
MAIN OFFICE TELESERVICES CENTER
25 Carlisle Street 951 York Street
Hanover, York County Hanover, York County
Pennsylvania 17331 Pennsylvania 17331
BALTIMORE STREET EISENHOWER DRIVE
OFFICE OFFICE
1416 Baltimore Street 453 Eisenhower Drive
Hanover, York County Hanover, York County
Pennsylvania 17331 Pennsylvania 17331
NEW OXFORD WEST MANCHESTER
OFFICE OFFICE (Building)
318 Lincolnway East 1511 Kenneth Road
New Oxford, Adams County York, York County
Pennsylvania 17350 Pennsylvania 17404
OPERATIONS CENTER
1040 High Street
Hanover, York County
Pennsylvania 17331
The Bank also owns the following unencumbered property: Vacant 2-
acre tract of land located at the intersection of Pennsylvania Route 74
and Wellsville Road in the Borough of Wellsville, York County,
Pennsylvania which was obtained for possible branch development.
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The Bank leases the following properties:
CARLISLE STREET OFFICE ROSSVILLE OFFICE
880 Carlisle Street 3405 Rosstown Road
Hanover, York County Wellsville, York County
Pennsylvania 17331 Pennsylvania 17365
DOWNTOWN GETTYSBURG LITTLESTOWN
OFFICE OFFICE
6 York Street 400 West King Street
Gettysburg, Adams County Littlestown, Adams County
Pennsylvania 17325 Pennsylvania 17340
GETTYSBURG EAST WEST MANCHESTER
OFFICE OFFICE (Land)
1275 York Road 1511 Kenneth Road
Gettysburg, Adams County York, York County
Pennsylvania 17325 Pennsylvania 17404
ITEM 3 - 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 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5 - MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
The information required by this item is set forth within the
Registrant's 1998 Annual Report to Shareholders (pages 38 through 39 of
filing), excerpts of which are included at Exhibit 13, and is incorporated
herein by reference.
ITEM 6 - SELECTED FINANCIAL DATA
The information required by this item is set forth within the
Registrant's 1998 Annual Report to Shareholders (page 19 of filing),
excerpts of which are included at Exhibit 13, and is incorporated herein
by reference.
11
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ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND
RESULTS OF OPERATIONS
The information required by this item is set forth within the
Registrant's 1998 Annual Report to Shareholders (pages 20 through 37 of
filing), excerpts of which are included at Exhibit 13, and is incorporated
herein by reference.
ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required by this item is set forth within
"Management's Discussion and Analysis" (pages 20 through 37 of filing)
of the Registrant's 1998 Annual Report to Shareholders, excerpts of which
are included at Exhibit 13, and is incorporated herein by reference.
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by this item is set forth within the
Registrant's 1998 Annual Report to Shareholders (pages 40 through 61 of
filing), excerpts of which are included at Exhibit 13, and is incorporated
herein by reference.
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is set forth on pages 6
through 8 and pages 14 through 15 of the Registrant's definitive Proxy
Statement for the 1999 Annual Shareholders Meeting, which is incorporated
herein by reference.
ITEM 11 - EXECUTIVE COMPENSATION
The information required by this item is set forth on pages 8
through 13 of the Registrant's definitive Proxy Statement for the 1999
Annual Shareholders Meeting, which is incorporated herein by reference.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is set forth on pages 4
through 5 and page 14 of the Registrant's definitive Proxy
Statement for the 1999 Annual Shareholders Meeting, which is incorporated
herein by reference.
12
<PAGE>
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is set forth on pages 14 through
15 of the Registrant's definitive Proxy Statement for the 1999 Annual
Shareholders Meeting, which is incorporated herein by reference.
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND REPORTS ON FORM 8-
K
(a) 1. Financial Statements
The following financial statements are included by reference in Part
II, Item 8 hereof:
Report of Independent Auditors
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Shareholders' Equity
Consolidated Statements of Cash Flows
Notes to the Consolidated Financial Statements
2. Financial Statement Schedules
This item is omitted because the required information is either not
applicable, not required or is shown in the respective financial
statements or in the notes thereto.
3. The following Exhibits are filed herewith or incorporated by
reference as a part of this Annual Report.
3(i). Articles of Incorporation previously filed as Exhibit
3(i) to the Corporation's June 30, 1998 Form 10-Q filed
August 14, 1998, are hereby incorporated by reference.
3(ii). The By-laws of the Corporation previously filed as
Exhibit 3(ii) to the Corporation's June 30, 1998 Form 10-Q
filed August 14, 1998, are hereby incorporated by reference.
10.1 Hanover Bancorp, Inc. Omnibus Stock Plan (incorporated by
reference to the Registrant's Registration Statement on Form
S-8, No. 33-73470, filed with the commission on 12/27/93).
10.2 Severence Agreement with Chief Executive Officer
previously filed as Exhibit 10.2 to the Corporation's
December 31, 1997 Form 10-K filed March 27, 1998, is hereby
incorporated by reference.
11 Statement regarding computation of per share earnings (The
information required by this item is set forth within "Notes
to Consolidated Financial Statements" (pages 45 through 61 of
filing) of the Registrant's 1998 Annual Report to
Shareholders, excerpts of which are included at Exhibit 13,
and is incorporated herein by reference).
13
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13 Excerpts from the 1998 Annual Report to Shareholders.
21 Subsidiaries of the Registrant.
23 Consent of independent auditors.
27 Financial Data Schedule.
(b) There were no reports filed on Form 8-K for the quarter ended December
31, 1998.
(c) The exhibits required by this item are listed under item 14(a) 3
above.
(d) Not applicable.
14
<PAGE>
ITEM 15 - SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the registrant has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly
authorized, on March 19, 1999.
Hanover Bancorp, Inc. (Registrant)
BY: /s/ J. Bradley Scovill
J. Bradley Scovill
President and Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons on behalf of the
registrant and in the capacities indicated, on March 19, 1999.
/s/ Michael D. Bross
Michael D. Bross
Director
/s/ Thomas M. Bross, Jr.
Thomas M. Bross, Jr.
Director,
/s/ S. Forry Eisenhart, Jr.
S. Forry Eisenhart, Jr.
Director
/s/ Bertram F. Elsner
Bertram F. Elsner
Director
Vice Chairman of the Board
/s/ J. Daniel Frock
J. Daniel Frock
Director
/s/ Dr. Gordon S. Haaland
Dr. Gordon S. Haaland
Director
/s/ Stewart E. Hartman, Jr.
Stewart E. Hartman, Jr.
Director
/s/ Terrence L. Hormel
Terrence L. Hormel
Director,
Chairman of the Board
15
<PAGE>
/s/ Earl F. Noel, Jr.
Earl F. Noel, Jr.
Director
/s/ Charles W. Test
Charles W. Test
Director
/s/ J. Bradley Scovill
J. Bradley Scovill
Director, President and
Chief Executive Officer
(Principal Executive Officer)
/s/ Thomas J. Paholsky
Thomas J. Paholsky
Treasurer
(Principal Accounting and
Financial Officer)
16
<PAGE>
EXHIBIT INDEX
Page
Number
in Filing
Exhibit No. (if applicable)
3(i). Articles of Incorporation previously filed as
Exhibit 3(i) to the Corporation's June 30, 1998 Form 10-
Q filed August 14, 1998, are hereby incorporated by
reference.
3(ii). The By-laws of the Corporation previously filed as
Exhibit 3(ii) to the Corporation's June 30, 1998 Form
10-Q filed August 14, 1998, are hereby incorporated by
reference.
10.1 Hanover Bancorp, Inc. Omnibus Stock Plan
(incorporated by reference to the Registrant's
Registration Statement on Form S-8, No. 33-73470, filed
with the commission on 12/27/93).
10.2 Severence Agreement with Chief Executive Officer
previously filed as Exhibit 10.2 to the Corporation's
December 31, 1997 Form 10-K filed March 27, 1998, is
hereby incorporated by reference.
11 Statement regarding computation of per share earnings
(The information required by this item is set forth
within "Notes to Consolidated Financial Statements"
(pages 45 through 61 of filing) of the Registrant's 1998
Annual Report to Shareholders, excerpts of which are
included at Exhibit 13, and is incorporated herein by
reference).
13 Excerpts from the 1998 Annual Report to Shareholders. 18
21 Subsidiaries of the Registrant. 62
23 Consent of independent auditors. 63
27 Financial Data Schedule. 64
17
EXHIBIT 13
EXCERPTS FROM THE 1998 ANNUAL REPORT TO SHAREHOLDERS
NATURE OF THE BUSINESS
Hanover Bancorp, Inc. is a Pennsylvania business corporation that is
a one-bank holding company with headquarters in Hanover, Pennsylvania.
Bank of Hanover and Trust Company, the Corporation's wholly-owned
subsidiary, was incorporated in 1835 and is Hanover's oldest and only
remaining independent financial institution. The Corporation's full
service commercial banking business, including investment trust services,
is conducted through its subsidiary, which operates ten full service
branch offices in York and Adams Counties, Pennsylvania, a drive-up
location at the bank's TeleServices Center and a trust and investment
office in a local retirement community. Hanover Bancorp's income is
derived primarily from the operations of Bank of Hanover and Trust
Company.
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<PAGE>
<TABLE>
SELECTED CONSOLIDATED FINANCIAL DATA
(In Thousands, Except Ratios, Per Share Data and Statistics)
<CAPTION>
Year-Ended December 31,
1998 1997 1996 1995 1994
<S> <C> <C> <C> <C> <C>
BALANCE SHEET
Loans $289,340 $277,475 $254,573 $213,869 $192,396
Total assets 470,093 406,356 356,129 337,222 308,354
Deposits 364,008 329,951 297,004 278,234 251,752
Shareholders' equity - core(1) 35,740 32,662 30,943 31,308 28,997
Shareholders' equity - total 36,944 34,314 31,541 32,862 27,565
Total average assets 426,934 377,604 344,146 321,949 293,079
Total average equity 35,972 32,616 31,910 30,602 28,246
EARNINGS DATA
Interest income $ 31,239 $ 28,319 $ 25,420 $ 23,892 $ 20,094
Interest expense 15,854 13,941 12,148 11,409 8,517
Net interest income 15,385 14,378 13,272 12,483 11,577
Provision for loan losses 1,060 910 480 360 125
Other income 3,361 2,589 2,310 2,014 2,174
Other expense 12,907 11,549 10,986 10,201 9,406
Net income 4,251 3,807 3,580 3,556 3,484
Return on average assets 1.00% 1.01% 1.04% 1.10% 1.19%
Return on average equity - core (1) 12.32% 11.92% 11.41% 11.75% 12.45%
Return on average equity - total 11.82% 11.67% 11.22% 11.62% 12.34%
Efficiency ratio (3) 64.40% 65.36% 67.10% 65.97% 64.42%
CAPITAL
Equity to assets (average) 8.43% 8.64% 9.27% 9.51% 9.64%
Leverage ratio 8.04% 8.19% 8.79% 9.54% 9.44%
Cash dividends declared $ 1,644 $ 1,472 $ 1,390 $ 1,274 $ 1,181
Dividend payout ratio 38.67% 38.67% 38.83% 35.83% 33.90%
ASSET QUALITY
Nonperforming assets to total loans 0.35% 0.35% 0.21% 0.17% 0.41%
Allowance to nonperforming assets 333% 302% 443% 597% 319%
PER COMMON SHARE DATA (2)
Net income - basic and diluted $ 1.08 $ 0.97 $ 0.88 $ 0.86 $ 0.84
Cash dividends declared 0.42 0.37 0.34 0.31 0.29
Book value - core equity(1) 9.07 8.35 7.82 7.56 7.00
Book value - total equity 9.38 8.77 7.97 7.93 6.66
Market value 17.38 17.06 13.88 14.06 14.38
STATISTICS
Full service branch offices 10 10 11 11 10
Employees (full time equivalents) 196 202 205 198 157
<FN>
Certain reclassifications have been made in order to present a more accurate year-to-year comparison
(1) Core equity includes all equity accounts except accumulated other comprehensive income.
(2) All per common share data has been adjusted to give retroactive effect to the 4 for 3 stock split paid
in June 1998, the 3 for 2 stock split paid in April 1995 and the 5% stock dividend issued in April 1994.
(3) Excluding the non-recurring expense related to the pension plan termination in 1998.
</TABLE>
19
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
The following pages contain "Management's Discussion and Analysis"
of Hanover Bancorp, Inc.'s 1998 results of operations and financial
condition, including comparison with prior year's results and
identification of possible risks and trends. This review should be read
in conjunction with the consolidated financial statements and related
notes beginning on page 41.
All forward looking information contained in "Management Discussion and
Analysis" and other statements contained in this report are 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.
SUMMARY OF EARNINGS AND FINANCIAL CONDITION
The year of 1998 was one of continued improvement in financial
performance for Hanover Bancorp, Inc. This improvement was primarily the
result of higher core earnings, namely continued growth in the bank,
greater fee income generation and improved efficiency. During the year,
the Corporation bolstered the loan loss allowance, incurred the accounting
expense for terminating the pension plan, took advantage of positive
movements in the bank stock portfolio and declared a 4-for-3 stock split.
Total assets grew to $470 million, further leveraging the capital base
through the combination of loan and deposit growth and implementation of
investment strategies. Asset quality measures remained relatively strong,
evidencing a disciplined approach to growth. The Corporation remains well
capitalized with risk-adjusted core capital and total capital ratios above
regulatory minimums.
RESULTS OF OPERATIONS
Net Income
Net income for 1998 was $4.3 million, an increase of $444,000 or
11.7% from 1997. Earnings per share (EPS) increased $.11 or 11.3% in 1998
to $1.08 from $.97 in 1997. Return on average equity (ROE) was 12.32% in
1998 versus 11.92% in 1997, computed using "core" equity. These increases
were driven primarily by marked growth in other income, helping to offset
the continued challenge to maintain traditional net interest margin.
Net Interest Income
Net interest income continues to be the largest component of the
Corporation's operating revenues, contributing over 80% of total operating
revenues. A portion of the Corporation's interest income is tax-exempt,
therefore it is more appropriate to analyze net interest income on a fully
taxable equivalent (FTE) basis. This basis adjusts tax free income to an
amount that would have been earned if the income were fully taxable.
Table 10 reconciles net interest income shown in the financial statements
to a FTE basis.
Net interest income increased by $1.2 million or 8.0% on a fully
taxable equivalent basis in 1998. This change in net interest income is
the result of variations in both the balances of earning assets and
interest bearing liabilities as well as the average rates received on
earning assets and average rates paid on interest bearing liabilities.
The impact of changes in the balances of earning assets and interest
bearing liabilities are referred to as volume variances, while the impact
of changes in average rates received or paid are referred to as rate
variances. Table 1 summarizes these variances.
20
<PAGE>
The positive volume variance of $1.6 million reflects the $46.8
million growth in the average volume of earning assets, resulting from
loan and deposit growth and increased investment security activity, as
further discussed under the headings for these balance sheet categories.
While this growth has positively impacted net interest income, it has also
contributed to the continued decline in net interest margin, as the
following explains.
Net interest margin dropped 19 basis points from 1997 to 4.05%. The
general interest rate environment has contributed in large part to the
shrinking margin. While favorable economic conditions, namely moderate growth
and the low threat of inflation, support a generally positive business
climate, they contribute to an interest rate environment which is
challenging in terms of net interest margin. The treasury yield curve
continued to be relatively flat in 1998 compared to historic standards. This
flatness is measured by reference to the shortest maturity (3 months) and the
longest maturity (30 years) on the yield curve. The difference or spread
between these two maturity points averaged 67 basis points in 1998, compared
to 140 basis points from 1995 to 1997, and 331 basis points from 1991 to
1994. While the Corporation has grown in this environment, the growth has
been at narrower spreads between assets and liabilities. This is most
clearly evidenced in the investment activity conducted during 1998 which
was funded by Federal Home Loan Bank of Pittsburgh (FHLB) borrowings.
While these transactions were completed at relatively narrow spreads, they
have generated additional net interest income and have thus positively
impacted profitability.
Of further note in analyzing net interest income are the rate
variances outlined in Table 1. Declining interest rates during 1998
contributed to the decline in the yield earned on assets by a greater
degree than the rate paid on liabilities. Historically low levels of
interest rates brought about significant refinancing activity which
resulted in accelerated prepayments of loans and investments. Also,
though rates generally declined on new deposits and borrowings, the
continued shift of the funding base to relatively higher rate sources
caused the overall cost of funds to decline less than the yield on earning
assets.
<TABLE>
Table 1
VOLUME - RATE ANALYSIS
(in thousands)
<CAPTION>
1998 Compared to 1997 1997 Compared to 1996
Increase (Decrease) Due To Increase (Decrease) Due To
Volume Rate Net Volume Rate Net
<S> <C> <C> <C> <C> <C> <C>
INTEREST EARNING ASSETS
Loans $1,484 $ (99) $1,385 $2,813 $ (68) $2,745
Investment securities 2,164 (269) 1,895 459 (7) 452
Federal funds sold and other (154) (6) (160) (416) 31 (385)
TOTAL INTEREST INCOME 3,494 (374) 3,120 2,856 (44) 2,812
INTEREST BEARING LIABILITIES
Interest bearing demand deposits 60 - 60 19 (49) (30)
Savings deposits (50) 5 (45) (74) (14) (88)
Money market deposits 611 160 771 525 347 872
Time deposits 491 (120) 371 481 61 542
Borrowed funds 784 (28) 756 467 30 497
TOTAL INTEREST EXPENSE 1,895 18 1,913 1,418 375 1,793
NET INTEREST INCOME (FTE) $1,599 $ (392) $1,207 $1,438 $ (419) $1,019
<FN>
Tax-exempt income is on a fully taxable equivalent basis using a tax rate of 34% for 1998, 1997
and 1996. The change in interest due to both volume and rate has been allocated proportionately
between volume and rate based on the absolute dollar amounts of the change in each.
</TABLE>
21
<PAGE>
Provision For Loan Losses
The Corporation's loan loss provision during 1998 was $1.1 million, an
increase of $150,000 from 1997. The level of the provision and the
increase over the prior year reflects an increase in net charge-offs from
1997 of $158,000, as well as the evaluation of numerous factors focused on
maintaining a loan loss allowance that adequately reflects the risk
inherent in the loan portfolio. The loan loss allowance and asset quality
measures are more fully discussed in the Risk Management section that
follows.
Net Securities Gains
Net securities gains totaled $949,000 in 1998, an increase of
$279,000 from 1997. Equity gains comprised $876,000 of this total in 1998
versus $730,000 for 1997. These gains resulted from sales from the
Corporation's community bank stock holdings. The bank stock market
continued to experience favorable valuations during the first half of
1998. As such, management realized gains on certain holdings where
valuations were considered excessive or to have reached peak levels. The
Corporation holds these community bank stocks primarily for their
potential long-term market appreciation as the dividend yields are
significantly less than those of alternative debt securities.
Accordingly, management views the gains from these holdings as the
realization of deferred investment income. In addition, gains for the year
included $73,000 realized through debt securities sales executed as part
of ongoing portfolio and balance sheet management strategies. In 1997,
$60,000 in net losses were realized from debt securities sales. All sales
resulting in gains or losses were from available-for-sale securities.
Other Income
Other fee-based income has been an area of strategic focus and is
making a more significant contribution to the Corporation's profitability.
During 1998 other income increased $772,000 or 29.8%. This increase
reflects the introduction of new fee generation sources as well as the
expansion of existing products and services. Trust department income
increased $156,000 or 20.8% in 1998 in part due to the growth in assets under
management of 10.7%. The Corporation continues to strategically position the
department with personnel, technology, and marketing initiatives to provide
investment management solutions to businesses and individuals. Deposit
service charges grew by $228,000 or 21.0%. The introduction of a debit card
in early 1998 provided a new source of fee income which totaled $105,000.
The remaining increase in deposit service charges reflects a full year of
higher ATM fees generated by non-customer surcharging and an increased level
of overdraft fees. Other operating income increased $388,000 or 51.5%,
principally as a result of increased residential mortgage activity. Other
income is generated as part of the origination process related to the
underwriting and closing functions. In 1998, the volume of loans originated
increased from $21.5 million to $45.9 million. Other income is also
generated through the sale of mortgages. In 1998, the volume of mortgage
loans sold increased from $10.8 million to $31.3 million. In addition, the
declining interest rate environment increased the return on mortgage sales.
Other Expense
Other expense increased $1.4 million or 11.8% during 1998. This increase
included a non-recurring expense of $252,000 related to the termination of
the Bank's pension plan, which had been frozen in 1996. Excluding this
item, other expense increased $1.1 or 9.6% year over year. Personnel
related expenses (salaries and benefits) increased $526,000 or 8.4%.
Salaries for the mortgage department were a primary contributor to this
increase, resulting from volume-based compensation of mortgage originators.
Also contributing to the increase were additions to trust and retail loan
sales staffs. However, full time equivalents of 196 at year-end 1998 were
down by 6 from the prior year-end. Depreciation expense on equipment
increased $113,000 in 1998 resulting from investments in technology
enhancements such as a PC network and various software systems.
22
<PAGE>
Professional and service fees increased $266,000 or 38.7% due to
contracting the PC help desk and network administration functions, costs
related to other strategic technology consulting services and a full year
of outsourcing the ATM processing and courier services. Other operating
expenses included the expense related to the pension plan termination,
noted above, and was also impacted by an increase in telecommunication
expenses resulting from the full implementation of a wide area network.
The substantial increases in operating revenues favorably impacted the
Corporation's efficiency ratio (the cost to generate one dollar of revenue)
which declined 96 basis points from 65.36% in 1997 to 64.40% in 1998
Income Taxes
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 25.8% in 1998,
down from 26.5% in 1997. This decrease was the result of a higher level
of tax-free assets in 1998 relative to the prior year.
Analysis of 1997 Compared to 1996
Net income for 1997 was $3.8 million, an increase of $227,000 or
6.3% from 1996. Earnings per share increased $.09 or 10.2% in 1997 to
$.97 from $.88 in 1996. Return on average equity-core was 11.92% in 1997
versus 11.41% in 1996. These increases were driven primarily by improved
core earnings as revenue growth more substantially outpaced the normal
increases in the expense base. The increases in EPS and ROE were also due
in part to the Corporations stock repurchase program.
Net interest income increased by $1.0 million or 7.2% on a fully
taxable equivalent basis in 1997. This increase was principally due to
the $31.8 million increase in the average volume of earning assets,
resulting from loan and deposit growth and increased investment security
activity. Net interest margin declined 10 basis points from 1996 to
4.24%. This decrease was primarily attributable to higher funding costs
caused by a shift in the funding mix towards more costly sources. The shift
was mainly spurred by growth in a new indexed, variable rate money market
deposit account introduced in 1997 and growth in longer term certificates of
deposit at promotional rates. The margin was also affected by investment
activity which was funded by Federal Home Loan Bank of Pittsburgh (FHLB)
borrowings at relatively narrow spreads. Finally, external forces such as
strong competition in the local market pricing and the general interest rate
environment contributed to the declining margin.
The Corporation's loan loss provision during 1997 was $910,000, an
increase of $430,000 from 1996. The increase reflected the continued
growth in the Corporation's loan portfolio and net charge-offs, though
overall asset quality measures remained favorable.
Net securities gains totaled $670,000 in 1997, an increase of
$68,000 from 1996. Equity gains comprised $730,000 of this total in 1997
versus $396,000 for 1996. These gains resulted from sales from the
Corporation's community bank stock holdings. Offsetting these gains in
1997 were net losses of $60,000 realized through debt securities sales
executed as part of ongoing portfolio and balance sheet management
strategies. In 1996, $206,000 in net gains were realized from debt
securities sales. All sales resulting in gains or losses were from
available-for-sale securities.
23
<PAGE>
During 1997 other income increased $279,000 or 12.1%. The increase
in service charges on deposit accounts was due to higher overdraft fees,
resulting from a change in collection philosophy, and higher automated teller
machine (ATM) fees generated by introducing noncustomer surcharging. Other
operating income increased as a result of higher loan fees, and higher income
realized through mortgage loan sale activity. The increase in loan fees is
reflective of the growth in the loan portfolio while mortgage-related income
increased as a result of higher sales volumes relative to 1996.
Other expense increased $563,000 or 5.1% during 1997. Personnel
related expenses (salaries and benefits) increased $68,000 or 1.1% year over
year. This was reflective of a net decrease in full time equivalents from
205 at year-end 1996 to 202 at year-end 1997. In addition, temporarily
unfilled vacancies during 1997 and reduced healthcare costs contributed to
the stabilizing of these key cost components. The increase in occupancy and
equipment expenses was associated with the full impact of a branch opening
in March 1996, a branch relocation in October 1996 and the addition of six
remote service ATMs in December 1996. The increase was also impacted by
continued technology investments. The higher professional and service fees
were primarily due to increased expenditures related to technology
enhancements and the outsourcing of certain operational functions. The
stabilizing level of operating expense, along with the increases in operating
revenues, favorably impacted the Corporation's efficiency ratio (the cost to
generate one dollar of revenue) which declined 174 basis points from 67.10%
in 1996 to 65.36% in 1997.
FINANCIAL CONDITION
The Corporation's total assets were $470.1 million as of December
31, 1998, up $63.7 million or 15.7% from December 31, 1997. (Refer to
Table 2.) In 1998, while loan outstandings grew at a rate of 4%, deposits
grew at a faster pace of 10%. As a result, the excess funding was used to
increase the investment securities portfolio along with borrowings which
supported specific investment strategies.
<TABLE>
Table 2
Trends in Sources and Uses of Funds
(in thousands, except percentages)
<CAPTION>
December 31, Change
1998 1997 $ %
<S> <C> <C> <C> <C>
Funding Sources
Deposits $364,008 $329,951 $34,057 10.3%
Borrowed funds 64,787 37,885 26,902 71.0%
Other liabilities 4,354 4,206 148 3.5%
Shareholders' equity 36,944 34,314 2,630 7.7%
TOTAL SOURCES $470,093 $406,356 $63,737 15.7%
Funding Uses
Loans $285,935 $274,567 $11,368 4.1%
Investment securities 144,961 97,641 47,320 48.5%
Federal funds sold and short-term investments 8,694 5,694 3,000 52.7%
Other assets 30,503 28,454 2,049 7.2%
TOTAL USES $470,093 $406,356 $63,737 15.7%
</TABLE>
24
<PAGE>
Loans
Loans outstanding increased by $11.9 million or 4.3% from year-end
1997 to year-end 1998, reaching $289.3 million. (Refer to Table 3.) It
should be noted that this loan growth was net of loans sold of $31.3
million. Despite a record volume of residential mortgage originations,
sales of loans and refinancings of existing loans resulted in a decline in
portfolio outstandings. Conversely, the commercial loan and commercial
mortgage loan categories increased by $8.5 million and $10.5 million,
respectively, evidencing the strategic corporate emphasis placed on
providing solutions to existing business customers and attracting new
relationships in our local markets. The decrease in the consumer category
was the result of lower indirect loan outstandings, as payoffs exceeded
new loan originations.
<TABLE>
Table 3
Loans
(in thousands, except percentages)
<CAPTION>
December 31, Change
1998 1997 $ %
<S> <C> <C> <C> <C>
Commercial, financial and agricultural $ 43,803 $ 35,254 $ 8,549 24.2%
Real estate-construction 5,429 5,666 (237) (4.2%)
Real estate-commercial mortgage 44,750 34,216 10,534 30.8%
Real estate-residential mortgage 130,196 135,217 (5,021) (3.7%)
Consumer 65,162 67,122 (1,960) (2.9%)
289,340 277,475 11,865 4.3%
Allowance for loan losses (3,405) (2,908) (497) 17.1%
$285,935 $274,567 $ 11,368 4.1%
</TABLE>
Investment Securities
During 1998 investment securities increased $48.0 million or 50.5%
and ended the year at $143.1 million, excluding the net unrealized gains
on securities available-for-sale. (Refer to Table 4.) This increase, in
part, reflects the trends in loans and deposits during 1998. As deposit
growth outpaced loan growth during the year, excess funding was used in
the investment portfolio. In addition, this increase was the result of a
series of transactions which funded approximately $25 million of
investment securities with FHLB borrowings. Management viewed these
transactions as an opportunity to generate additional net interest income
and boost EPS and ROE without incurring significant interest rate risk.
Much of the investment activity during 1998 was focused on fixed rate
mortgage-backed securities with intermediate average lives and tax-free
municipal securities. These securities provided the appropriate
characteristics with respect to yield and maturity to complete the
strategies, described above. In addition, the Corporation implemented a
strategy to grow the equity securities portfolio, primarily bank and
thrift stocks, to position itself for long-term appreciation in this
segment of the market. The decrease in the net unrealized gains on
securities available-for-sale of $679,000 from year-end 1997 to 1998 was a
result of lower market interest rates offset by less favorable bank stock
valuations and gains recognized from the equities portfolio.
25
<PAGE>
The Corporation manages its investment portfolio in accordance with
established policies which include guidelines for liquidity, earnings,
rate sensitivity and pledging needs. These guidelines call for investment
securities to be held with long-term objectives and do not allow for gains
trading. The guidelines do, however, permit prudent and reasonable sales
of investments before their maturity dates to support interest rate risk
and balance sheet management strategies, meet liquidity needs and carry
out tax planning objectives. The sales executed in 1998 were for these
purposes. The Corporation had no concentrations of investment securities
in any single issuer that comprise 10% or more of shareholders' equity at
December 31, 1998, with the exception of the U.S. Government and U.S.
Government-sponsored agencies.
Investment securities are accounted for under Financial Accounting
Standards Board (FASB) Statement No. 115, "Accounting for Certain
Investments in Debt and Equity Securities". Primarily all of the holdings
are classified as available-for-sale in order to maintain flexibility with
respect to managing the portfolio. The remaining holdings are classified
as held-to-maturity.
<TABLE>
Table 4
Investment Securities
(In Thousands, Except Percentages)
<CAPTION>
December 31, Change
1998 1997 $ %
<S> <C> <C> <C> <C>
U.S. Treasury securities and obligations of the U.S.
Government and its agencies $ 21,779 $ 23,566 $ (1,787) (7.6%)
Obligations of states and political subdivisions 43,134 21,753 21,381 98.3%
Corporate securities 4,478 - 4,478 NM
Mortgage-backed securities 65,387 46,466 18,921 40.7%
Total debt securities 134,778 91,785 42,993 46.8%
Equity Securities 8,359 3,353 5,006 149.3%
143,137 95,138 47,999 50.5%
Net unrealized gains on securities available-for-sale 1,824 2,503 (679) (27.1%)
$ 144,961 $ 97,641 $ 47,320 48.5%
<FN>
NM - Not meaningful
</TABLE>
Deposits
Deposits are the most important funding source and the primary
support for the Corporation's growth. Total outstanding deposits were
$364.0 million at December 31,1998, an increase of $34.1 million or 10.3%
from 1997. (Refer to Table 5.) This overall growth came in nearly all
categories of deposits. Most notable was the increase in demand or
checking-type accounts. Non-interest bearing demand deposits grew $5.4
million or 19.2% while interest bearing demand deposits grew $7.0 million
or 21.6%. This growth not only reflected success in establishing new
accounts with individuals, but also growth in business relationships.
The increase in money market deposits was due to the continued growth in
the indexed money market account introduced in early 1997, as well as an
increase in traditional statement savings accounts. These two categories
grew $5.6 million and $4.9 million in 1998, respectively. Finally, the
increase in time deposits was achieved despite a relatively non-aggressive
approach to pricing in an environment of strong competitive pressures.
Most of the growth was achieved in relatively short-term products as
customers sought the best yield without committing to long term maturities
in a historically low rate environment.
26
<PAGE>
<TABLE>
Table 5
Deposits
(in thousands, except percentages)
<CAPTION>
Year-Ended December 31, Change
1998 1997 $ %
<S> <C> <C> <C> <C>
Non-interest bearing demand deposits $ 33,827 $ 28,383 $ 5,444 19.2%
Interest bearing demand deposits 39,418 32,413 7,005 21.6%
Savings deposits 17,712 19,923 (2,211) (11.1%)
Money market deposits 92,515 83,408 9,107 10.9%
Time deposits:
CDs under $100,000 163,956 152,503 11,453 7.5%
CDs over $100,000 16,580 13,321 3,259 24.5%
$364,008 $329,951 $34,057 10.3%
</TABLE>
Borrowed Funds
Total borrowed funds increased $26.9 million or 71.0% during 1998 to
a level of $64.8 million at December 31, 1998. (Refer to Table 6.) Most
of this increase was due to the higher level of FHLB borrowings which were
part of the investment transactions referred to earlier. The borrowings
were predominately fixed rate advances with features which allow the FHLB
to convert to a variable rate of interest. These features are described
in greater detail in Note 7. FHLB borrowings have become an increasingly
important source of funding for the Corporation. In addition to being a
source for match-funding opportunities, they are used to manage the
balance sheet, liquidity, and interest rate risk.
<TABLE>
Table 6
Borrowed Funds
(in thousands, except percentages)
<CAPTION>
December 31, Change
1998 1997 $ %
<S> <C> <C> <C> <C>
Securities sold under repurchase agreements $ 13,227 $ 9,915 $ 3,312 33.4 %
FHLB borrowings 50,453 26,248 24,205 92.2 %
Other 1,107 1,722 (615) (35.7)%
$ 64,787 $ 37,885 $ 26,902 71.0 %
</TABLE>
Capital and Dividends
At December 31, 1998, total shareholders' equity was $36.9 million,
an increase of $2.6 million or 7.7% from December 31, 1997. This change
consisted of an increase of $3.1 million in capital stock, surplus and
undivided profits (core equity) and a decrease of $448,000 in net
unrealized gains on available-for-sale securities (net of tax effects).
The increase in the core equity was primarily the result of earnings
retained. The change in the net unrealized gains on available-for-sale
securities was due to the decline in bank stock valuations offset by the
impact of the lower level of market interest rates at December 31, 1998,
compared to December 31, 1997, which positively influenced bond portfolio
valuations.
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. As reflected
in Table 7, the Corporation continues to meet these objectives with strong
year-end capital levels. The Bank remains above the regulatory minimums
for "well capitalized". The decline in the ratios from 1997 reflect the
growth in total assets.
27
<PAGE>
On April 17, 1998, the Board of Directors approved a 4-for-3 stock
split, payable June 1, 1998. This action was taken to enhance the
marketability and liquidity of the Corporation's stock.
During 1996, the Board of Directors approved a program to
repurchase, in open market and privately negotiated transactions, up to
200,000 shares of its outstanding common stock. During the second quarter
of 1997, the Corporation completed this program. The main goal of this
buyback was to effectively deploy capital in an effort to increase
shareholder value. Since its inception, the resulting reduction in total
capital and shares outstanding, in combination with increased earnings
(after absorbing the "cost" of reducing the capital base) has translated
into improved ROE and EPS. Management views these performance indicators
as being two of the more important factors, under its control, that drive
shareholder value. Based on this belief and the positive results achieved
through the first program, the Board of Directors, after carefully
evaluating the capital level necessary to satisfy the criteria described
above, approved another program to repurchase up to 186,667 shares of
common stock on April 18, 1997. As of December 31, 1998, 38,320 shares
were repurchased under this program.
The Corporation continued to increase dividends to its shareholders
in 1998. Dividends per share for 1998, 1997 and 1996 were $.42, $.37 and
$.34, respectively. The resulting dividend payout ratios for the same
periods were 38.7%, 38.7% and 38.8%. The dividend rate is determined by
the Board of Directors after considering the Corporation's capital
requirements and projected level of earnings.
In addition to earnings retained, capital is generated through
several other sources. The dividend reinvestment plan allows existing
shareholders to reinvest their cash dividends and limited optional cash
payments into shares of Hanover Bancorp, Inc. common stock. Capital is
also raised through an employee stock purchase plan and through the Bank's
defined contribution 401(k) plan. In 1998, shares were also issued
pursuant to the exercise of stock options. A total of $480,000, $31,000
and $57,000 was raised through these sources in 1998, 1997 and 1996,
respectively.
<TABLE>
Table 7
Capital Ratios
<CAPTION>
December 31,
1998 1997
<S> <C> <C>
HANOVER BANCORP, INC.
Tier 1 capital to risk-adjusted assets 12.02% 12.47%
Total capital to risk-adjusted assets 13.16% 13.58%
Leverage ratio 8.04% 8.19%
BANK OF HANOVER AND TRUST COMPANY
Tier 1 capital to risk-adjusted assets 10.43% 10.82%
Total capital to risk-adjusted assets 11.60% 11.93%
Leverage ratio 6.93% 7.09%
</TABLE>
RISK MANAGEMENT
Asset Quality
The Corporation has policies and procedures designed to manage
credit risk and to maintain the quality of its loan portfolio. These
include prudent underwriting standards for new loan originations and
ongoing monitoring and reporting of asset quality measures and the
adequacy of the allowance for loan losses.
The Corporation's commercial, consumer and residential mortgage
loans are principally to borrowers within York and Adams Counties,
Pennsylvania, where the Bank operates full service branches. The
commercial loan portfolio is well diversified with no industry comprising
greater than 10% of total loans outstanding.
28
<PAGE>
Nonperforming assets include non-accrual and restructured loans,
accruing loans past due 90 days or more, other real estate (ORE) and other
repossessed assets. A loan generally is classified as non-accrual when
full collection of principal or interest is doubtful and the loan becomes
90 days or more past due as to principal or interest. When a loan is
placed on non-accrual status, unpaid interest credited to income in the
current year is reversed and unpaid interest accrued in prior years is
charged to the allowance for loan losses. Non-accrual loans are typically
returned to performing status when the loan is brought current and has
performed in accordance with contractual terms for a reasonable period of
time. A loan is considered restructured if the original interest rate,
repayment terms or both were modified due to the deterioration in the
financial condition of the borrower. Real estate loans are classified as
ORE following foreclosure proceedings, a receipt of a deed in lieu of
foreclosure or an in-substance foreclosure involving actual possession of
the collateral.
The Corporation's nonperforming assets remain low relative to total
loans and compare favorably to peer statistics. Nonperforming assets at
December 31, 1998 were $1.0 million compared to $962,000 at December 31,
1997. (Refer to Table 8.). As a percentage of total loans, nonperforming
assets at December 31, 1998 were .35%, the same level as 1997.
Potential problem loans are defined as performing loans which have
characteristics that cause management to have serious doubts as to the
ability of the borrower to perform under present loan repayment terms and
which may result in the reporting of these loans as nonperforming loans in
the future. The Corporation's potential problem loans, or its
"watchlist", consist primarily of commercial loans which are less than 90
days past due and still accruing interest. These loans are rated
according to their probability of nonperformance. Those loans that
management feels the likelihood of future nonperformance is probable (as
opposed to possible) are considered impaired under FASB Statement No. 114,
"Accounting by Creditors for Impairment of a Loan". At December 31, 1998,
total potential problem loans, as determined by the Corporation's internal
loan review process, totaled $1.2 million compared to $2.8 million at
December 31, 1997. Of these amounts, $379,000 and $470,000 were considered
impaired under FASB 114 at 1998 and 1997, respectively. Management
regularly monitors the status of these loans and their likelihood of
becoming nonperforming loans.
29
<PAGE>
<TABLE>
Table 8
NON-ACCRUAL, PAST DUE AND RESTRUCTURED LOANS
(in thousands)
<CAPTION>
December 31,
1998 1997 1996 1995 1994
<S> <C> <C> <C> <C> <C>
Non-accrual loans $ 517 $ 331 $ 38 $ 10 $ 650
Accruing loans past due 90 days or more 425 174 166 24 17
Restructured loans - 221 242 292 -
Other real estate and
other repossessed assets 81 236 96 46 115
TOTAL NONPERFORMING ASSETS $1,023 $ 962 $ 542 $ 372 $ 782
NON-ACCRUAL LOANS BY CATEGORY
Commercial, financial and agricultural $ 81 $ - $ - $ - $ 479
Real estate-mortgage 426 331 16 - 141
Consumer 10 - 22 10 30
$ 517 $ 331 $ 38 $ 10 $ 650
PAST DUE LOANS BY CATEGORY
Commercial, financial and agricultural $ 153 $ - $ 16 $ - $ -
Real estate-mortgage 204 153 65 - 6
Consumer 68 21 85 24 11
$ 425 $ 174 $ 166 $ 24 $ 17
RESTRUCTURED LOANS BY CATEGORY
Commercial, financial and agricultural $ - $ - $ 12 $ 13 $ -
Real estate-mortgage - 221 230 279 -
$ - $ 221 $ 242 $ 292 $ -
</TABLE>
<TABLE>
<CAPTION>
December 31,
1998 1997 1996
<S> <C> <C> <C>
Non-accrual loans and restructured loans $517 $ 552 $ 280
Interest income that would have been
recorded under original terms 50 48 28
Interest income recorded during the period 21 39 28
Interest lost for the year 29 9 -
</TABLE>
Allowance for Loan Losses
The allowance for loan losses is maintained at a level believed
adequate by management to absorb potential future losses within the
overall loan portfolio. Management's methodology in evaluating the
adequacy of the allowance considers potential specific losses, past loan
loss experience, the volume, growth and composition of the loan portfolio
and current economic conditions and trends.
Loans that are identified as impaired are reported at the present
value of expected future cash flows, or as a practical expedient, at the
loan's observable market price, or the fair value of the collateral if
collateral-dependent. Large groups of smaller balance homogeneous loans
are evaluated collectively such as consumer or residential mortgage loans.
Generally, loans considered impaired are the Corporation's non-
homogeneous, non-performing loans. In addition, certain potential problem
loans, as discussed above, may be considered impaired.
30
<PAGE>
Each loan identified as impaired is evaluated periodically to
estimate any potential losses for which a specific allowance should be
established. Since most of these loans are collateral-dependent, this
estimate is normally based on the lower of the most recently appraised
value of the collateral or the recorded investment in the loan. If the
loan is not collateral-dependent, the same procedure would be followed
except that the present value of the expected future cash flows would
replace the collateral value. In addition to these specific individual
allowances, allocated allowances are established for the commercial,
mortgage and consumer portfolios. These allocations are based on the
overall level of loans identified as problem or potential problem, current
charge-off trends, recent portfolio growth, loan composition changes and
economic trends. As a supplement to the specific individual and allocated
allowances, an unallocated general allowance is also established. This
unallocated portion is determined based on judgments regarding risk of
error in specific allocations, other potential exposures in the loan
portfolio, economic conditions and trends, and other factors.
The resulting allowance for loan losses at December 31, 1998 was
$3.4 million compared to $2.9 million at year-end 1997. The allowance as a
percent of total loans outstanding was 1.18% and 1.05% at December 31,
1998, and 1997, respectively. In terms of coverage, the allowance measured
as a ratio of nonperforming assets was 333% and 302% at 1998 and 1997,
respectively. The increase from year to year is primarily due to
management's decision to make additional provisions to increase the loan
loss allowance in recognition of an increase in the level of charge-off
activity and growth in the commercial portion of the loan portfolio. While
asset quality measures remain relatively favorable, the higher proportion
of these larger commercial loans represents potentially greater risk of
loss. The Corporation recognizes this exposure in establishing and
maintaining its loan loss allowance.
The allowance for loan losses is charged when management determines
the prospects for recovering the principal have significantly diminished.
Subsequent recoveries, if any, are credited to the allowance. Loans
identified as impaired are charged-off when management has concluded,
after ongoing evaluation of the impaired loans, that repayment is
unlikely. Installment loans that are 90 to 120 days past due are charged-
off, unless current scheduled payments are being received. Real estate
loans are written down to fair value upon the earlier of management's
determination that the underlying collateral value has declined,
foreclosure proceedings, a receipt of a deed in lieu of foreclosure or an
in-substance foreclosure involving actual possession of the collateral.
In 1998, the Corporation realized net charge-offs of $563,000 in
comparison to net charge-offs of $405,000 during 1997, an increase of
$158,000. (Refer to Table 9.). Net charge-offs to average loans
outstanding increased from .15% in 1997 to .20% in 1998. This increase was
primarily related to one commercial borrower and losses incurred in the
bank's indirect lending portfolio.
31
<PAGE>
<TABLE>
Table 9
Allowance For Loan Losses
(in thousands, except ratios)
<CAPTION>
1998 1997 1996 1995 1994
<S> <C> <C> <C> <C> <C>
Balance at beginning of year $2,908 $2,403 $2,220 $2,498 $2,254
CHARGE-OFFS
Commercial, financial and agricultural 4 72 119 575 156
Real estate-commercial and residential mortgages 128 - - 65 -
Consumer 639 514 241 123 120
TOTAL CHARGE-OFFS 771 586 360 763 276
RECOVERIES
Commercial, financial and agricultural 49 87 31 9 370
Real estate-commercial and residential mortgages 3 1 - 92 2
Consumer 156 93 32 24 23
TOTAL RECOVERIES 208 181 63 125 395
NET CHARGE-OFFS (RECOVERIES) 563 405 297 638 (119)
Provision charged to operations 1,060 910 480 360 125
Balance at end of year $3,405 $2,908 $2,403 $2,220 $2,498
Ratio of net charge-offs (recoveries)
to average loans outstanding 0.20% 0.15% 0.13% 0.31% (.07)%
Ratio of allowance for loan losses
to nonperforming assets 333% 302% 443% 597% 319%
</TABLE>
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 of $100,000 or
more) to total assets at December 31, 1998 was 73.9% while the ratio of
CDs of $100,000 or more and other borrowed funds to total assets was
17.3%.
In addition to maintaining a stable deposit base, the Corporation
has access to a varied and high quality investment portfolio. This
portfolio provides a consistent stream of cash flows and maturities to
support liquidity needs. At December 31, 1998, $6.8 million of investment
securities were scheduled to mature in one year or less, while principal
payments on mortgage-backed securities averaged $998,000 a month during
1998. Loan portfolio repayments and maturities also provide funds for
managing liquidity. In 1998, the Corporation received an average of
approximately $8.7 million in loan repayments per month. In addition, the
sale of portfolio loans provides an alternative for the management of
liquidity. In 1998, $11.4 million of loans were sold by the Corporation.
Proceeds from these sales provided funding to meet customers' ongoing
credit needs.
The Corporation maintains short-term borrowing arrangements with
several correspondent banks and the discount window at the Federal Reserve
Bank of Philadelphia. In addition, it has access to the FHLB for more
permanent funding needs. Through these relationships, the Bank has
available short-term funding of approximately $10 million and permanent
funding of approximately $55 million.
32
<PAGE>
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.
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 December
31, 1998 of positive $19.5 million or 4.15% of total assets. At December
31, 1997, the Corporation had a negative gap of $7.9 million or 1.94% of
total assets. This shift to a positive gap position from 1997 to 1998 was
largely the result of an increase in anticipated prepayments on loans and
mortgage-backed securities arising from the lower interest rate
environment in addition to a higher level of variable rate assets.
33
<PAGE>
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 December 31,
1998, the Corporation would expect net interest income to decrease over
the next twelve months by .9% assuming an immediate upward shift in market
interest rates of 200 basis points, and to decrease by 1.5% if rates
shifted downward in the same manner. At December 31, 1997, annual net
interest income was expected to decrease by 3.1% in the upward scenario
and to increase by .9% in the downward scenario. Consistent with the gap
results, the change from year to year was primarily due to increased
prepayments and additional variable rate assets. 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. The conversion feature of these advances cannot be reflected
in the gap analysis which is a key factor explaining why the gap shows an
asset sensitive position while the simulation analysis indicates a fairly
neutral position.
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 miscalculations 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 has adopted a policy
and strategic project plan using guidelines established by the Federal
Financial Institutions Examination Council (FFIEC). A corporate-wide Year
2000 task force meets monthly to discuss upcoming projects and assess
progress. Senior Management and the Board of Directors are closely
monitoring the Year 2000 project using a monthly progress report and
internal audits. On a regular basis, bank examiners from the Federal
Deposit Insurance Corporation (FDIC) evaluate readiness for the Year 2000
to confirm that guidelines are being met. The Corporation intends to
complete the Year 2000 project plan and have substantially all necessary
system changes implemented in advance of the deadline established by
regulatory authorities of June 30, 1999.
34
<PAGE>
The Corporation's current focus is on testing and contingency
planning. The Corporation has inventoried and assessed all software,
hardware and systems for Year 2000 readiness. Any non-compliant items are
being upgraded or replaced. Testing is being done to ensure that all
mission-critical systems will function correctly in the year 2000 and
beyond, properly handling all date-sensitive data. The rigorous testing
procedures encompass 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
has tested all 13 critical dates outlined in FFIEC guidance. The
Corporation is testing each critical date based upon assessed exposure to
date sensitivities. Doing so will ensure that vendor test results are
repeatable within the Corporation's specific system parameters. The
Corporation's internal auditor is reviewing test results from all
hardware, software and systems. The Corporation intends to have all
testing completed by June 30, 1999.
To minimize customer inconvenience and facilitate a "business as
usual" environment, the Corporation is developing 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 and incorporated into the
disaster recovery plan. This plan addresses aspects outside of the locus
of control such as telecommunications, electric companies and other
utility companies. The procedures in the disaster 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 is assessing the year 2000 readiness
of vendors and service providers. Those being 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 is assessing 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 and posters. 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 costs to complete the remaining
steps 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.
35
<PAGE>
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
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.
36
<PAGE>
<TABLE>
Table 10
COMPARATIVE AVERAGE BALANCE SHEETS AND NET INTEREST INCOME/MARGIN ANALYSIS
(In Thousands, Except Ratios)
<CAPTION>
Year-Ended December 31,
1998 1997 1996
Average Average Average Average Average Average
Balance Interest Rate Balance Interest Rate Balance Interest Rate
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
INTEREST EARNING ASSETS
Loans (1) (2) $282,590 $24,241 8.58% $265,293 $22,856 8.62% $232,643 $20,111 8.64%
Investment securities:
Taxable 86,796 5,332 6.14% 61,089 3,839 6.28% 52,702 3,179 6.03%
Tax-exempt (2) 26,517 2,211 8.34% 19,882 1,809 9.10% 21,682 2,017 9.30%
Federal funds sold and
other assets 6,495 358 5.51% 9,286 518 5.58% 16,754 903 5.39%
TOTAL INTEREST EARNING
ASSETS 402,398 32,142 7.99% 355,550 29,022 8.16% 323,781 26,210 8.09%
NON-INTEREST EARNING ASSETS
Cash and due from banks 12,675 10,953 10,404
Premises and equipment 7,312 7,045 6,579
Other assets 7,782 6,593 5,704
Allowance for loan losses (3,233) (2,537) (2,322)
TOTAL ASSETS $426,934 $377,604 $344,146
LIABILITIES AND
SHAREHOLDERS' EQUITY
INTEREST BEARING LIABILITIES
Demand deposits $ 33,552 446 1.33% $ 29,062 386 1.33% $ 27,726 416 1.50%
Savings deposits 19,899 411 2.07% 22,346 456 2.04% 25,943 544 2.10%
Money market deposits 87,843 3,148 3.58% 70,577 2,377 3.37% 53,845 1,505 2.80%
Time deposits 171,974 9,490 5.52% 163,107 9,119 5.59% 154,489 8,577 5.55%
Borrowed funds 41,863 2,359 5.64% 27,959 1,603 5.73% 19,794 1,106 5.59%
TOTAL INTEREST BEARING
LIABILITIES 355,131 15,854 4.46% 313,051 13,941 4.45% 281,797 12,148 4.31%
NON-INTEREST BEARING
LIABILITIES
Demand deposits 31,168 27,994 26,892
Other liabilities 4,663 3,943 3,547
TOTAL LIABILITIES 390,962 344,988 312,236
SHAREHOLDERS' EQUITY 35,972 32,616 31,910
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $426,934 $377,604 $344,146
NET INTEREST SPREAD 3.52% 3.71% 3.78%
NET INTEREST INCOME (FTE)/
NET INTEREST MARGIN 16,288 4.05% 15,081 4.24% 14,062 4.34%
Taxable-equivalent
adjustment (2) (903) (703) (790)
NET INTEREST INCOME PER
FINANCIAL STATEMENTS $15,385 $14,378 $13,272
<FN>
(1) Non-accrual loans have been included within this category.
(2) The taxable-equivalent adjustment for tax-exempt assets has been computed assuming a tax rate of 34% for 1998, 1997 and 1996.
</TABLE>
37
<PAGE>
COMMON STOCK MARKET PRICES AND DIVIDENDS
As of February 28, 1999, the approximate number of shareholders of
record of the Corporation's common stock was 1,552. The accompanying table
sets forth the range of bid-asked prices for the common stock and
dividends declared by Hanover Bancorp, Inc. during the most recent eight
quarters ended December 31, 1998. The bid price for Hanover Bancorp, Inc.
common stock for the period indicated here represents inter-dealer prices
without adjustment for retail mark-up, mark-down or commission and does
not necessarily represent actual transactions.
<TABLE>
Bid-Asked Prices For Common Stock And Dividends Declared
<CAPTION>
1998 1997
Stock Price Cash Stock Price Cash
Range Dividend Range Dividend
<S> <C> <C> <C> <C> <C> <C>
QUARTER ENDED
March 31 $16.69 - $21.00 $0.10 $12.75 - $13.88 $ 0.09
June 30 19.22 - 22.50 0.10 12.75 - 13.41 0.09
September 30 17.75 - 23.00 0.11 12.85 - 16.88 0.10
December 31 17.00 - 20.00 0.11 15.94 - 18.00 0.10
<FN>
Stock prices and cash dividends have been adjusted retroactivley to reflect the impact
of the 4 for 3 stock split effective June 1, 1998, rounded to the nearest cent.
</TABLE>
The Corporation expects to continue its policy of paying regular
quarterly dividends although there is no assurance as to future dividends
because they are dependent on future earnings, capital requirements and
financial condition. The Corporation has no restrictions affecting the
payment of dividends except those presented in Note 14 of the Notes to
Consolidated Financial Statements.
Hanover Bancorp, Inc. is quoted under the symbol "HOVB" on the
O.T.C. Electronic Bulletin Board, an automated quotation service, made
available through, and governed by, the NASDAQ system. Hanover Bancorp,
Inc. common stock trades in the local over-the-counter market and current
price information is available from account executives at most brokerage
firms as well as the following firms which are designated market makers of
Hanover Bancorp, Inc.'s common stock:
F.J. Morrissey &
Co., Inc.
1700 Market Street
Suite 1420
Philadelphia, PA
19103
(800) 842-8928
Ryan, Beck & Company
220 South Orange
Avenue
Head Trader
Livingston, NJ 07039
(800) 395-7936
Janney Montgomery
Scott, Inc.
Times Building
Suburban Square
Suite 400
Ardmore, PA 19003
(800) 526-6397
38
<PAGE>
Fahnestock & Co.,
Inc.
110 Wall Street
New York, NY 10005
(800) 221-5588
Monroe Securities,
Inc.
47 State Street, 2nd
Floor
Rochester, NY 14614
(800) 766-5560
Sandler O'Neill &
Partners, L.P.
Two World Trade
Center
104th Floor
New York, NY 10048
(800) 635-6860
Hopper Soliday &
Co., Inc.
100 Park Avenue
New York, NY 10017
(212) 922-3500
GVR Co.
One Financial Plaza
440 South La Salle
Street
Suite 3030
Chicago, IL 60605
(800) 638-8602
Hill, Thompson Magid
& Co.
15 Exchange Place,
8th Floor
Jersey City, NJ
07302
(800) 631-3083
39
<PAGE>
REPORT OF INDEPENDENT AUDITORS AND INFORMATION FOR SHAREHOLDERS
REPORT OF INDEPENDENT AUDITORS
THE SHAREHOLDERS AND BOARD OF DIRECTORS
HANOVER BANCORP, INC.
We have audited the accompanying consolidated balance sheets of
Hanover Bancorp, Inc. and its wholly-owned subsidiary as of December 31,
1998 and 1997 and the related consolidated statements of income,
shareholders' equity, and cash flows for each of the three years in the
period ended December 31, 1998. These financial statements are the
responsibility of the Corporation's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes assessing
the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for
our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Hanover Bancorp, Inc. and its wholly-owned subsidiary at December 31, 1998
and 1997, and the consolidated results of their operations and their cash
flows for each of the three years in the period ended December 31, 1998,
in conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Harrisburg, Pennsylvania
February 5, 1999
INFORMATION FOR SHAREHOLDERS
Dividend Reinvestment and Stock Purchase Plan
Hanover Bancorp, Inc. offers a dividend reinvestment program whereby
all shareholders of record may reinvest their dividends into additional
shares of the Corporation. Information concerning this optional program
is available by contacting Hanover Bancorp, Inc., 33 Carlisle Street,
Hanover, Pennsylvania 17331.
Annual Meeting
The Annual Meeting of the Shareholders of Hanover Bancorp, Inc. is
scheduled to be held April 27, 1999, at 9:30 a.m. at the Hanover Country
Club located on Lincolnway East, Abbottstown, Pennsylvania.
Copies of 10-K
Copies of Hanover Bancorp, Inc.'s Form 10-K or additional copies of
the Annual Report may be obtained without charge upon written request to
Thomas J. Paholsky, Secretary/Treasurer, Hanover Bancorp, Inc., 33
Carlisle Street, Hanover, Pennsylvania 17331. In addition, the Securities
and Exchange Commission (SEC) maintains a web site which makes available
information pertaining to registrants whom file electronically with the
SEC. As such, Hanover Bancorp, Inc. filings, including Form 10K, can be
obtained from the SEC web site at http: // www.sec.gov.
40
<PAGE>
<TABLE>
Consolidated Balance Sheets
(in thousands, except per share data)
<CAPTION>
Year-Ended December 31,
1998 1997
<S> <C> <C>
ASSETS
Cash and due from banks $ 17,539 $ 15,643
Federal funds sold 8,635 4,075
Cash and cash equivalents 26,174 19,718
Interest bearing deposits with other banks 59 23
Short-term investments - 1,596
Investment securities:
Available-for-sale 143,202 94,814
Held-to-maturity (market value -$1,794 and $2,868, respectively) 1,759 2,827
144,961 97,641
Loans:
Commercial, financial and agricultural 43,803 35,254
Real estate-construction 5,429 5,666
Real estate-commercial mortgage 44,750 34,216
Real estate-residential mortgage 130,196 135,217
Consumer 65,162 67,122
289,340 277,475
Less: Allowance for loan losses (3,405) (2,908)
Net loans 285,935 274,567
Premises and equipment 7,236 7,016
Accrued interest receivable 2,938 2,644
Other assets 2,790 3,151
TOTAL ASSETS $470,093 $406,356
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits:
Non-interest bearing $ 33,827 $ 28,383
Interest bearing 330,181 301,568
364,008 329,951
Borrowed Funds:
Short-term 15,651 12,433
Long-term 49,136 25,452
64,787 37,885
Accrued interest payable 2,453 2,334
Other liabilities 1,468 1,490
Dividends payable 433 382
TOTAL LIABILITIES 433,149 372,042
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: 1998-3,940,375 shares;
1997-3,911,953 shares 3,270 3,257
Surplus 19,144 18,687
Accumulated other comprehensive income 1,204 1,652
Retained earnings 13,326 10,718
TOTAL SHAREHOLDERS' EQUITY 36,944 34,314
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $470,093 $406,356
Book value per share $ 9.38 $ 8.77
<FN>
See accompanying notes.
</TABLE>
41
<PAGE>
<TABLE>
Consolidated Statements of Income
(in thousands, except per share data)
<CAPTION>
Year-Ended December 31,
1998 1997 1996
<S> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans $24,090 $22,768 $20,007
Interest on federal funds sold 352 370 707
Interest on short-term investments 6 148 196
Interest on investment securities:
Taxable 5,332 3,839 3,179
Tax-exempt 1,459 1,194 1,331
6,791 5,033 4,510
TOTAL INTEREST INCOME 31,239 28,319 25,420
INTEREST EXPENSE
Interest on deposits 13,495 12,338 11,042
Interest on borrowed funds 2,359 1,603 1,106
TOTAL INTEREST EXPENSE 15,854 13,941 12,148
NET INTEREST INCOME 15,385 14,378 13,272
PROVISION FOR LOAN LOSSES 1,060 910 480
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 14,325 13,468 12,792
NET SECURITIES GAINS 949 670 602
OTHER INCOME
Trust department income 907 751 742
Service charges on deposit accounts 1,313 1,085 908
Other operating income 1,141 753 660
TOTAL OTHER INCOME 3,361 2,589 2,310
OTHER EXPENSE
Salaries 5,697 5,198 5,075
Employee benefits 1,056 1,029 1,084
Occupancy expense 895 942 927
Equipment expense 1,113 1,009 906
Marketing and advertising 432 485 451
Professional and service fees 954 688 570
Other operating expense 2,760 2,198 1,973
TOTAL OTHER EXPENSE 12,907 11,549 10,986
Income before income taxes 5,728 5,178 4,718
INCOME TAXES 1,477 1,371 1,138
NET INCOME $ 4,251 $ 3,807 $ 3,580
PER SHARE DATA
Net income - basic and diluted $ 1.08 $ 0.97 $ 0.88
Cash dividends declared 0.42 0.37 0.34
<FN>
See accompanying notes.
</TABLE>
42
<PAGE>
<TABLE>
Consolidated Statements of Shareholders' Equity
(in thousands, except shares and per share data)
<CAPTION>
Accumulated Other
Shares Common Comprehensive Retained
Outstanding Stock Surplus Income Earnings Total
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1996 4,143,115 $ 3,449 $18,606 $ 1,554 $ 9,253 $32,862
Comprehensive income:
Net income for 1996 - - - - 3,580 3,580
Other comprehensive income
Change in net unrealized gains on securities
available-for-sale, net of tax effects and
reclassification adjustment(1) - - - (956) - (956)
Comprehensive income 2,624
Cash dividends declared: $.34 per share - - - - (1,390) (1,390)
Issue of common stock 4,556 4 53 - - 57
Repurchase and retirement of common stock (188,416) (157) - - (2,455) (2,612)
Balance, December 31, 1996 3,959,255 3,296 18,659 598 8,988 31,541
Comprehensive income:
Net income for 1997 - - - - 3,807 3,807
Other comprehensive income
Change in net unrealized gains on securities
available-for-sale, net of tax effects and
reclassification adjustment (1) - - - 1,054 - 1,054
Comprehensive income 4,861
Cash dividends declared: $.37 per share - - - - (1,472) (1,472)
Issue of common stock 2,602 3 28 - - 31
Repurchase and retirement of common stock (49,904) (42) - - (605) (647)
Balance, December 31, 1997 3,911,953 3,257 18,687 1,652 10,718 34,314
Comprehensive income:
Net income for 1998 - - - - 4,251 4,251
Other comprehensive income
Change in net unrealized gains on securities
available-for-sale, net of tax effects and
reclassification adjustment (1) - - - (448) - (448)
Comprehensive income 3,803
Cash dividends declared: $.42 per share - - - - (1,644) (1,644)
Cash paid in lieu of fractional shares and other (437) (10) - - 1 (9)
Issue of common stock 28,859 23 457 - - 480
Balance, December 31,1998 3,940,375 $ 3,270 $19,144 $ 1,204 $13,326 $36,944
<FN>
(1) The components of other comprehensive income are shown separately in Note 10.
See accompanying notes.
</TABLE>
43
<PAGE>
<TABLE>
Consolidated Statements of Cash Flows
(in thousands)
<CAPTION>
Year-Ended December 31,
1998 1997 1996
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income $ 4,251 $ 3,807 $ 3,580
Adjustments to reconcile net income to net
cash provided by operating activities:
Provision for loan losses 1,060 910 480
Provision for depreciation and amortization 1,008 883 776
Securities gains (949) (670) (602)
Increase in net deferred tax assets (200) (27) (166)
(Increase) decrease in interest receivable (294) (296) 7
Increase in interest payable 119 218 243
(Increase) decrease in other assets 436 (905) (62)
Increase in other liabilities 441 135 249
Increase (decrease) in accrued taxes (107) 189 (143)
Loans originated for sale (21,256) (6,324) (4,159)
Proceeds from sale of loans originated for sale 19,948 5,930 4,168
NET CASH PROVIDED BY
OPERATING ACTIVITIES 4,457 3,850 4,371
INVESTING ACTIVITIES
Net increase in loans (22,509) (29,553) (46,732)
Proceeds from sale of loans 11,389 6,640 5,722
Proceeds from sale of avaliable-for-sale investment securities 10,690 16,420 40,230
Proceeds from maturities of investment securities 21,710 8,288 12,279
Purchases of investment securities (79,450) (43,980) (37,526)
Proceeds from maturities of short-term investments 1,600 32,000 40,928
Purchases of short-term investments (40) (33,547) (34,114)
Purchases of premises and equipment (1,228) (824) (2,045)
NET CASH USED IN
INVESTING ACTIVITIES (57,838) (44,556) (21,258)
FINANCING ACTIVITIES
Net increase in demand deposits, NOW accounts,
money market accounts, and savings accounts 19,345 28,321 6,983
Net increase in certificates of deposit and other time deposits 14,712 4,626 11,787
Net increase in borrowed funds 26,902 13,585 1,347
Cash dividends paid (1,593) (1,447) (1,375)
Cash paid in lieu of fractional shares (9) - -
Proceeds from issuance of common stock 480 31 57
Repurchase and retirement of common stock - (647) (2,612)
NET CASH PROVIDED BY
FINANCING ACTIVITIES 59,837 44,469 16,187
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 6,456 3,763 (700)
Cash and cash equivalents at beginning of year 19,718 15,955 16,655
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 26,174 $ 19,718 $ 15,955
<FN>
See accompanying notes.
</TABLE>
44
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1998
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles Of Consolidation: The consolidated financial statements
include the accounts of the Corporation and its wholly-owned subsidiary,
Bank of Hanover and Trust Company. All significant intercompany
transactions and accounts have been eliminated.
Investment Securities: The Corporation accounts for its investment
securities under Financial Accounting Standards Board (FASB) Statement No.
115, "Accounting for Certain Investments in Debt and Equity Securities".
Management determines the appropriate classification of securities at the
time of purchase and reevaluates such designation as of each balance sheet
date. Debt securities are classified as held-to-maturity when the
Corporation has the ability and positive intent to hold the securities to
maturity. Securities held-to-maturity are carried at cost and adjusted
for amortization of premiums and accretion of discounts. Declines in
value judged to be other than temporary are included in net securities
gains (losses).
Debt securities not classified as held-to-maturity and equity
securities are classified as available-for-sale. Securities available-
for-sale are stated at fair value, with the net unrealized gains and
losses reported as a separate component of shareholders' equity, net of
tax effect. The cost of debt securities classified as available-for-sale
is adjusted for amortization of premiums and accretion of discounts.
Realized gains and losses on securities available-for-sale and declines in
value judged to be other than temporary are included in net securities
gains (losses). The decision to sell such securities is based on
management's assessment of changes in economic or financial market
conditions, interest rate risk and the Corporation's financial position
and liquidity.
Interest and dividends are included in interest income from
investments. Premiums are amortized to call and discounts are accreted to
maturity under the interest method except for mortgage-backed securities
where the recognition period is based on the estimated lives. Such
amortization and accretion is included in interest income from
investments. The cost of securities sold is determined principally under
the specific identification method.
Loans: Loans for which the Corporation does not have the ability or
intent to hold for the foreseeable future or until maturity are classified
as held for sale. These loans are carried at the lower of cost or market
value. Market value is determined by reference to secondary market
pricing. Interest on loans is recognized based upon the amount of
principal outstanding. The accrual of interest is generally discontinued
for a loan when full collection of the principal or interest is doubtful
and a loan becomes 90 days or more past due. Subsequent payments
received on these non-accrual loans are either applied against principal
or reported as interest income, according to management's judgment as to
the collection of principal. Loan origination fees, net of certain direct
origination costs, are deferred and recognized over the life of the
related loan as a yield adjustment.
Allowance For Loan Losses: Management maintains the allowance at a level
believed adequate to absorb potential 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. The allowance is increased by provisions charged to operations
and reduced by net charge-offs.
The allowance for credit losses related to impaired loans is based on the
discounted cash flows using the loans initial effective interest rate or
the fair value of the collateral for certain collateral-dependent loans.
45
<PAGE>
Premises And Equipment: Premises and equipment are stated at cost less
accumulated depreciation and amortization, which is computed on the
straight-line method. Costs related to designing software configuration
and interfaces, and installing software to hardware are capitalized.
Income Taxes: The Corporation accounts for income taxes pursuant to the
provisions of FASB Statement No. 109, "Accounting for Income Taxes".
Under FASB 109, the liability method is used in accounting for income
taxes. Under this method, deferred tax assets and liabilities are
determined based on differences between financial reporting and tax bases
of assets and liabilities and are measured using the enacted tax rates and
laws that will be in effect when the differences are expected to reverse.
Use Of Estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the
financial statements and accompanying notes. Actual results could differ
from those estimates.
Cash Flow Information: For purposes of the statements of cash flows, the
Corporation considers cash and due from banks and federal funds sold as
cash and cash equivalents. Generally, federal funds are purchased and
sold for one-day periods.
Cash paid for interest and income taxes was $15,735,000 and
$1,430,000, respectively, during the year-ended December 31, 1998;
$13,723,000 and $1,444,000, respectively, during the year-ended December
31, 1997; and $11,905,000 and $1,217,000, respectively, during the year-
ended December 31, 1996.
The decrease in net unrealized gains on available-for-sale
securities of $448,000 (net of $231,000 in deferred tax effects) during
the period ended December 31, 1998, the increase of $1,054,000 (net of
$543,000 in deferred tax effects) during the period ended December 31,
1997, and the decrease of $956,000 (net of $492,000 in deferred tax
effects) during the period ended December 31, 1996 are non-cash
transactions for purposes of the statements of cash flows.
Reclassifications: Certain reclassifications have been made to the 1997
and 1996 financial statements and accompanying notes to conform with the
1998 presentation.
NOTE 2--RESTRICTIONS ON CASH AND DUE FROM BANK BALANCES
The banking subsidiary is required to maintain reserve balances with
the Federal Reserve Bank. The average amount of those balances for the
year-ended December 31, 1998, approximated $4,729,000.
46
<PAGE>
NOTE 3--INVESTMENT SECURITIES
The following is a summary of the investment portfolio by respective
security category (in thousands):
<TABLE>
<CAPTION>
December 31, 1998
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
<S> <C> <C> <C> <C>
AVAILABLE-FOR-SALE SECURITIES
U.S. Treasury securities and obligations of the U.S.
Government and its agencies $ 21,779 $ 319 $ (15) $ 22,083
Obligations of states and political subdivisions 41,646 1,293 (184) 42,755
Corporate securities 4,478 - (233) 4,245
Mortgage-backed securities 65,116 589 (127) 65,578
Total debt securities 133,019 2,201 (559) 134,661
Equity securities 8,359 641 (459) 8,541
TOTAL AVAILABLE-FOR-SALE SECURITIES $141,378 $ 2,842 $ (1,018) $143,202
HELD-TO-MATURITY SECURITIES
Obligations of states and political subdivisions $ 1,488 $ 43 $ - $ 1,531
Mortgage-backed securities 271 - (8) 263
TOTAL HELD-TO-MATURITY SECURITIES $ 1,759 $ 43 $ (8) $ 1,794
</TABLE>
<TABLE>
<CAPTION>
December 31, 1997
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
<S> <C> <C> <C> <C>
AVAILABLE-FOR-SALE SECURITIES
U.S. Treasury securities and obligations of the U.S.
Government and its agencies $ 23,566 $ 107 $ (15) $ 23,658
Obligations of states and political subdivisions 19,231 883 - 20,114
Mortgage-backed securities 46,161 436 (44) 46,553
Total debt securities 88,958 1,426 (59) 90,325
Equity securities 3,353 1,136 - 4,489
TOTAL AVAILABLE-FOR-SALE SECURITIES $ 92,311 $ 2,562 $ (59) $ 94,814
HELD-TO-MATURITY SECURITIES
Obligations of states and political subdivisions $ 2,522 $ 48 $ - $ 2,570
Mortgage-backed securities 305 - (7) 298
TOTAL HELD-TO-MATURITY SECURITIES $ 2,827 $ 48 $ (7) $ 2,868
</TABLE>
47
<PAGE>
<TABLE>
The amortized cost and estimated market value of debt securities at December 31, 1998, by contractual maturity, are
shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or
prepay obligations with or without call or prepayment penalties. (in thousands)
<CAPTION>
Estimated
Amortized Market
Cost Value
<S> <C> <C>
AVAILABLE-FOR-SALE
Due in one year or less $ 6,788 $ 6,837
Due after one year through five years 10,001 10,221
Due after five years through ten years 9,268 9,430
Due after ten years 41,846 42,595
67,903 69,083
Mortgage-backed securities 65,116 65,578
Equity securities 8,359 8,541
$ 141,378 $ 143,202
HELD-TO-MATURITY
Due in one year or less $ - $ -
Due after one year through five years - -
Due after five years through ten years - -
Due after ten years 1,488 1,531
1,488 1,531
Mortgage-backed securities 271 263
$ 1,759 $ 1,794
</TABLE>
Proceeds from the sale of investments in debt and equity securities during
1998, 1997 and 1996 were $10,690,000, $16,420,000 and $40,230,000,
respectively. Gross gains realized on these sales were $949,000, $882,000
and $970,000, respectively. Gross losses realized on these sales were
$212,000 in 1997 and $368,000 in 1996. There were no gross losses
realized during 1998. Net unrealized gains on securities available-for-
sale, net of the related deferred tax effects, included as a separate
component of shareholders' equity, were $1,204,000 at December 31, 1998
and $1,652,000 at December 31, 1997.
Securities, having a carrying value of $49,472,000 at December 31,
1998 and $40,667,000 at December 31, 1997 were pledged to secure public
deposits, repurchase agreements and other purposes required by law.
NOTE 4--LOANS AND ALLOWANCE FOR LOAN LOSSES
Residential mortgage loans originated for sale had a carrying value
of $1,751,000 and $443,000 at December 31, 1998 and 1997, respectively.
<TABLE>
Transactions in the allowance for loan losses were as follows (in thousands):
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Balance at beginning of year $2,908 $ 2,403 $2,220
Recoveries on loans 208 181 63
Provision charged to operations 1,060 910 480
Loans charged-off (771) (586) (360)
Balance at end of year $3,405 $ 2,908 $2,403
</TABLE>
48
<PAGE>
<TABLE>
The following table provides information relating to the Corporation's impaired loans (in thousands):
<CAPTION>
December 31,
1998 1997
<S> <C> <C>
Impaired loans with no related allowance due to write-downs $ 379 $ 470
Impaired loans with a related allowance 537 412
Recorded investment in impaired loans $ 916 $ 882
Impaired loans on non-accrual status $ 468 $ 191
Allowance related to impaired loans $ 25 $ -
Average recorded investment in impaired loans during the period $1,050 $ 759
Related amount of interest income recognized on impaired loans $ 73 $ 69
Amount of interest income on impaired loans using the cash
basis method of accounting $ 10 $ -
</TABLE>
NOTE 5--PREMISES AND EQUIPMENT
<TABLE>
Premises and equipment includes the following at December 31 (in thousands)
<CAPTION>
1998 1997
<S> <C> <C>
Premises $6,822 $ 6,624
Equipment 7,080 6,089
13,902 12,713
Less accumulated depreciation and amortization (6,666) (5,697)
$7,236 $ 7,016
</TABLE>
The Corporation recognized depreciation and amortization expense of
$1,008,000, $883,000 and $776,000 for 1998, 1997 and 1996, respectively.
The Corporation and its subsidiary occupy certain facilities under
lease arrangements and lease certain equipment. Rentals amounted to
$294,000, $295,000 and $369,000 in 1998, 1997 and 1996, respectively.
Minimum annual rental commitments at December 31, 1998, under
noncancelable leases, principally for real estate and equipment,
are payable as follows (in thousands):
<TABLE>
<CAPTION>
Annual Rental
Payments
<S> <C>
1999 $ 265
2000 270
2001 274
2002 265
2003 278
2004 and thereafter 2,178
Total minimum lease payments $ 3,530
</TABLE>
49
<PAGE>
NOTE 6--SHORT-TERM BORROWINGS
<TABLE>
Short-term borrowings and rates outstanding at December 31, 1998 and 1997 are summarized as follows
(in thousands, except percentages):
<CAPTION>
1998 1997
<S> <C> <C> <C> <C>
Securities sold under repurchase agreements $13,227 4.01% $ 9,915 4.87%
FHLB borrowings 1,317 7.30% 796 5.94%
Other 1,107 4.12% 1,722 4.59%
$15,651 4.29% $ 12,433 4.90%
</TABLE>
The securities sold under repurchase agreements represent collateral to
the lending party and are primarily U.S. Treasury and agency securities.
These securities are maintained under the Corporation's control.
NOTE 7--LONG-TERM BORROWINGS
<TABLE>
The following table presents the annual maturities and weighted average rates of long-term borrowings at December 31, 1998
(In Thousands):
<CAPTION>
Annual Weighted
Maturities Average Rate
<S> <C> <C>
2000 $ 948 6.98%
2001 3,820 6.24%
2002 18,152 5.88%
2003 1,216 6.74%
2004 and thereafter 25,000 5.21%
$ 49,136 5.61%
</TABLE>
The Bank utilizes the services of the Federal Home Loan Bank of
Pittsburgh (FHLB) by periodically borrowing funds to manage interest rate
risk and to provide match funding for specific loan and investment
activities. The advances are fully collateralized as specified by the
FHLB. Qualifying collateral includes U.S. Treasury, agency and mortgage-
backed securities and residential real estate loans. The carrying value
of the eligible collateral pledged at December 31, 1998 was $105,295,000
and $107,222,000 at December 31, 1997. These advances are subject to
restrictions or penalties related to prepayment.
Interest expense on long-term borrowings was $1,808,000, $1,059,000
and $511,000 during 1998, 1997 and 1996, respectively.
Included in long-term borrowings at December 31, 1998, were $2.4
million of amortizing advances with remaining amortization periods ranging
from 51 to 141 months and final maturities through 2003. Also, $43.0
million of advances had conversion features whereby the FHLB may convert
the advances to variable rates with subsequent quarterly resets. Upon
conversion, the Corporation has the option of putting the advances back to
the FHLB. The conversion features extend between 1 and 83 months from
December 31, 1998, and the advances have final maturities through 2008.
At December 31, 1998, all advances had fixed rates of interest.
50
<PAGE>
NOTE 8--SHAREHOLDERS' EQUITY
On April 17, 1998, the Board of Directors declared a 4 for 3 stock
split payable June 1, 1998, to shareholders of record May 1, 1998.
Related to this split, the Board of Directors also approved an amendment
to the Articles of Incorporation to increase the number of authorized
shares of common stock from 6,750,000 shares to 9,000,000 shares and to
reduce the par value per share from $1.11 to $.83. All per share data was
retroactively adjusted to reflect these actions.
The Corporation maintains a dividend reinvestment plan which allows
existing shareholders to reinvest cash dividends into additional shares of
the Corporation's common stock. The Corporation has reserved 130,000
shares of common stock for issuance under this plan. As of December 31,
1998, 96,267 shares were available.
The Bank offers shares of the Corporation's stock as one of several
investment options in its defined contribution 401(k) plan. The
Corporation has reserved 25,000 shares of common stock for issuance to
participants in the 401(k) plan. As of December 31, 1998, 21,045 shares
were available.
The Corporation also maintains an employee stock purchase plan.
This plan is intended to encourage employees of the Corporation and its
subsidiary to acquire a stake in the future of the Corporation. The plan
provides for the purchase of stock at 90% of the fair market value. The
Corporation has reserved 63,000 shares of common stock for issuance under
the plan. As of December 31, 1998, 49,855 shares were available.
The Corporation adopted an omnibus stock plan effective January 15,
1993. This plan is intended to provide incentive compensation
opportunities for selected officers and key employees of the Corporation
and its subsidiary. The Corporation has reserved 252,000 shares of common
stock for issuance pursuant to awards under this plan which must be
granted within ten years from the effective date. As of December 31,
1998, 138,775 shares were available for the granting of additional awards.
To date, only awards of stock options have been made from the plan.
Financial Accounting Standards Board (FASB) Statement No. 123,
"Accounting for Stock Based Compensation", became effective in 1996. This
statement encourages companies to recognize compensation expense for
stock-based awards based on their fair value. The statement allows
companies to continue to follow the existing intrinsic value method under
Accounting Principles Board (APB) Opinion No. 25 "Accounting for Stock
Issued to Employees", with the requirement that disclosures be provided
which present pro forma net income and earnings per share, had the new
fair value method been used. The Corporation has elected to continue to
follow APB 25 to account for its employee stock purchase plan and employee
stock options. No compensation expense was recognized under APB 25 for
these plans.
The pro forma compensation expense for employee stock options under
the fair value method was determined with the aid of a Black-Scholes
option pricing model. This option pricing model, like other models,
requires the input of subjective assumptions. The weighted-average
assumptions for 1998, 1997 and 1996, respectively, were: risk free
interest rates of 4.87%, 5.77% and 6.25%; dividend yields of 2.48%, 2.30%
and 2.57%; volatility factors of .146, .134 and .132; and a weighted
average expected life of ten years. For purposes of pro forma
disclosures, the discount related to the shares issued is considered
compensation expense, whereas the estimated fair value of the options is
amortized to expense over the options' vesting period. Furthermore, these
disclosures are required to be applied prospectively from 1995.
Therefore, the initial impact on pro forma net income may not be
representative of future compensation expense since the impact of option
awards prior to 1995 are not considered.
51
<PAGE>
<TABLE>
The Corporation's pro forma information for the years-ended December 31 is as follows (in thousands, except per share data):
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Pro forma net income $ 4,169 $ 3,762 $ 3,551
Pro forma net income per share-basic and diluted $ 1.06 $ 0.96 $ 0.88
</TABLE>
<TABLE>
A summary of the Corporation's stock option activity, and related information is as follows:
<CAPTION>
1998 1997 1996
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of year 97,555 $15.30 61,481 $ 14.19 62,430 $ 14.23
Granted 30,193 17.31 42,616 16.74 7,040 13.90
Exercised (13,903) 14.37 - - - -
Forfeited (14,523) 16.48 (6,542) 14.23 (7,989) 14.23
Outstanding at end of year 99,322 $15.87 97,555 $ 15.30 61,481 $ 14.19
Exercisable at end of year 34,289 $14.20 24,897 $ 14.38 -
Weighted-average fair value of
options granted during the year $ 3.82 $ 4.35 $ 3.55
</TABLE>
Options granted under the plan have ten-year terms and vest and become
fully exercisable at the end of three years of continued employment.
Exercise prices for options outstanding as of December 31, 1998 ranged from
$13.88 to $17.38. The weighted average remaining contractual life of those
options is 8.31 years.
<TABLE>
The following table sets forth capital ratios for the Corporation and its bank subsidiary at December 31:
<CAPTION>
1998 1997
<S> <C> <C>
HANOVER BANCORP, INC.
Tier 1 capital to risk-adjusted assets 12.02% 12.47%
Total capital to risk-adjusted assets 13.16% 13.58%
Leverage ratio 8.04% 8.19%
BANK OF HANOVER AND TRUST COMPANY
Tier 1 capital to risk-adjusted assets 10.43% 10.82%
Total capital to risk-adjusted assets 11.60% 11.93%
Leverage ratio 6.93% 7.09%
</TABLE>
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:
52
<PAGE>
<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".
NOTE 9--NET INCOME PER SHARE
<TABLE>
The computation of basic and diluted net income per share is as follows:
<CAPTION>
Year-Ended December 31,
1998 1997 1996
<S> <C> <C> <C>
NUMERATOR:
Numerator for basic and diluted
net income per share-net income $4,251,000 $3,807,000 $3,580,000
DENOMINATOR:
Denominator for basic net income per share-
weighted average shares outstanding 3,933,587 3,930,705 4,057,396
Effect of dilutive securities:
Employee stock options 17,959 731 -
Denominator for diluted net income per share-
adjusted weighted average shares outstanding 3,951,546 3,931,436 4,057,396
Basic net income per share $ 1.08 $ 0.97 $ 0.88
Diluted net income per share $ 1.08 $ 0.97 $ 0.88
</TABLE>
For additional disclosures regarding the outstanding employee stock
options, see Note 8. The weighted average shares outstanding have been
retroactively restated to reflect the stock split.
Options to purchase 63,885 shares at $14.22 per share per share were
outstanding during 1996, but were not included in the computation of
diluted net income per share because the options' exercise prices were
greater than the average market prices of the common shares and,
therefore, the effects would be antidilutive.
53
<PAGE>
Note 10--OTHER COMPREHENSIVE INCOME
<TABLE>
The components of other comprehensive income are as follows (in thousands):
<CAPTION>
Before-Tax Tax Net-of-Tax
Amount Effects Amount
<S> <C> <C> <C>
Year-ended December 31, 1996
Change in net unrealized gains on securities
available-for-sale $ (846) $ (287) $ (559)
Less: reclassification adjustment for net gains
realized in net income (602) (205) (397)
Other comprehensive income (1,448) (492) (956)
Year-ended December 31, 1997
Change in net unrealized gains on securities
available-for-sale 2,267 771 1,496
Less: reclassification adjustment for net gains
realized in net income (670) (228) (442)
Other comprehensive income 1,597 543 1,054
Year-ended December 31, 1998
Change in net unrealized gains on securities
available-for-sale 270 92 178
Less: reclassification adjustment for net gains
realized in net income (949) (323) (626)
Other comprehensive income $ (679) $ (231) $ (448)
</TABLE>
NOTE 11--INCOME TAXES
<TABLE>
The significant components of the Corporation's deferred tax assets and liabilities as of December 31, 1998 and 1997,
respectively, which are included in other assets in 1998, and other liabilities in 1997, are as follows (in thousands):
<CAPTION>
1998 1997
<S> <C> <C>
DEFERRED TAX ASSETS
Loan loss reserve $ 901 $ 732
Deferred loan fees 96 135
Deferred compensation 212 220
Other 43 31
Total deferred tax assets 1,252 1,118
DEFERRED TAX LIABILITIES
Net unrealized securities gains 620 851
Depreciation 198 192
Accretion 80 63
Pension - 67
Other 103 125
Total deferred tax liabilities 1,001 1,298
Net deferred tax assets (liabilities) $ 251 $ (180)
</TABLE>
54
<PAGE>
<TABLE>
The provision for income taxes included in the accompanying Statements of Income consists of the following (in thousands):
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Current $ 1,660 $1,502 $1,244
Deferred (183) (131) (106)
$ 1,477 $1,371 $1,138
</TABLE>
<TABLE>
A reconciliation of the federal statutory corporate income tax rate to the Corporation's effective tax rate is as
follows:
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Federal statutory tax rate 34.0 % 34.0 % 34.0 %
Tax-exempt interest income (10.3)% (8.8)% (10.3)%
Other 2.1 % 1.3 % 0.4 %
Effective tax rate 25.8 % 26.5 % 24.1 %
</TABLE>
Income taxes applicable to realized net securities gains included in
the provision for income taxes totaled $323,000 in 1998, $228,000 in 1997
and $205,000 in 1996.
NOTE 12--RETIREMENT PLANS
The Bank provides a defined contribution 401(k) plan to all
employees who have completed at least one year of employment as defined in
the plan and are 21 years of age. In each pay period a participant may
elect to defer up to 15% of base salary/wages for contribution to the plan
up to the maximum allowable contribution as established by the Internal
Revenue Service. The Bank matches, in cash, 50% of the participant's
contribution up to 4% of the participant's base salary/wages. Beginning
in 1996, the Bank started making a discretionary annual contribution to
all eligible employees. The Corporation's expense for the defined
contribution plan, including the discretionary contribution, was $212,000,
$205,000 and $177,000 in 1998, 1997 and 1996, respectively.
The Bank's defined benefit pension plan was curtailed on January 19,
1996. Under the curtailment, pension benefits were frozen as of March 31,
1996. On September 16, 1996, approximately two-thirds of the plan's
benefit obligation was settled via the purchase of annuity contracts. The
Plan was administered in frozen status until the termination date of July
24, 1998. As of December 31, 1998, all benefit obligations were settled
through the distribution of plan assets.
In 1996, as a result of the plan curtailment and the partial
settlement, the Corporation recognized a curtailment gain and a settlement
loss. In 1998, as a result of the termination and final settlement, a
settlement loss was recognized. These events were accounted for in
accordance with Financial Accounting Standards Board Statement No. 88,
"Employers' Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Benefits".
55
<PAGE>
<TABLE>
The following table sets forth the plan's funded status and amounts recognized in the Corporation's
balance sheet at December 31, 1998 and 1997 (in thousands):
<CAPTION>
1998 1997
<S> <C> <C>
Change in benefit obligation
Benefit obligation at beginning of year $1,041 $ 988
Interest cost 73 73
Actuarial loss 93 48
Allocation of surplus to plan participants 13 -
Benefits paid (1,220) (68)
Benefit obligation at end of year - 1,041
Change in plan assets
Fair value of plan assets at beginning of year 1,174 1,142
Actual return on plan assets 46 100
Benefits paid (1,220) (68)
Fair value of plan assets at end of year - 1,174
Funded status - 133
Unrecognized net actuarial loss - 119
Prepaid benefit cost $ - $ 252
</TABLE>
<TABLE>
<CAPTION>
Year-Ended December 31,
1998 1997 1996
<S> <C> <C> <C>
Components of net periodic benefit cost
Interest cost $ 73 $ 73 $ 166
Actual return on plan assets (46) (100) (92)
Net amortization and deferral (36) 21 (88)
Net periodic pension cost before curtailment and settlement (9) (6) (14)
Curtailment gain - - (81)
Settlement loss 261 - 138
Net pension cost after curtailment and settlement $ 252 $ (6) $ 43
</TABLE>
The weighted average discount rate used in determining the actuarial
present value of the projected benefit obligations was 7% at December 31,
1997. The expected long-term rate of return on plan assets was 7% in
1997. Plan assets were invested primarily in mutual funds, common stocks,
U.S. Government securities and certificates of deposit.
NOTE 13--RELATED PARTY TRANSACTIONS
The Corporation's subsidiary has granted loans to the officers and
directors of the Corporation and its subsidiary and to their associates.
Related party loans are made on substantially the same terms, including
interest rates and collateral, as those prevailing at the time for
comparable transactions with unrelated persons and do not involve more
than normal risk of collection. The aggregate dollar amount of these
loans was $4,037,000 and $2,751,000 at December 31, 1998 and 1997,
respectively. During 1998, $1,078,000 of new loans were made, repayments
totaled $510,000 and there was a net increase of $718,000 due to changes
in individuals considered as related parties.
In addition, the Corporation's subsidiary has securities sold under
repurchase agreements to the directors of the Corporation and its
subsidiary and to their associates. Related party securities sold under
repurchase agreements are on substantially the same terms, including
interest rates and collateral, as those prevailing at the time for
comparable transactions with unrelated persons. The aggregate dollar
amount of these agreements was $5,218,000 and $3,448,000 at December 31,
1998 and 1997, respectively.
56
<PAGE>
NOTE 14--HANOVER BANCORP, INC. (PARENT COMPANY ONLY) FINANCIAL INFORMATION
(in thousands)
<TABLE>
<CAPTION>
December 31,
BALANCE SHEETS 1998 1997
<S> <C> <C>
ASSETS
Cash $ 134 $ 736
Investment securities:
Available-for-sale 5,821 3,172
Accrued interest receivable 2 11
Other assets - 2,160
Investment in Bank of Hanover and Trust Company 31,568 29,127
TOTAL ASSETS $37,525 $ 35,206
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Other liabilities $ 148 $ 510
Dividends payable 433 382
TOTAL LIABILITIES 581 892
Shareholders' Equity:
Common stock 3,270 3,257
Surplus 19,144 18,687
Accumulated other comprehensive income 1,204 1,652
Retained earnings 13,326 10,718
TOTAL SHAREHOLDERS' EQUITY 36,944 34,314
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $37,525 $ 35,206
</TABLE>
<TABLE>
<CAPTION>
Year-Ended December 31,
STATEMENTS OF INCOME 1998 1997 1996
<S> <C> <C> <C>
INTEREST INCOME
Interest on investment securities:
Taxable $ 64 $ 60 $ 55
Tax-exempt 13 29 57
TOTAL INTEREST INCOME 77 89 112
NET SECURITIES GAINS 725 526 363
OTHER EXPENSE
Other operating expense 135 130 95
Income before applicable income taxes and equity in undistributed
income of subsidiary 667 485 380
INCOME TAXES 248 169 86
Income before equity in undistributed income of subsidiary 419 316 294
EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARY
Bank of Hanover and Trust Company 3,832 3,491 3,286
NET INCOME $4,251 $3,807 $3,580
</TABLE>
57
<PAGE>
<TABLE>
<CAPTION>
Year-Ended December 31,
STATEMENTS OF CASH FLOWS 1998 1997 1996
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income $ 4,251 $ 3,807 $ 3,580
Adjustments to reconcile net income to
net cash provided by operating activities:
Net securities gains (725) (526) (363)
(Increase) decrease in interest receivable 9 (1) 20
Increase (decrease) in other liabilities 124 (10) 2
Increase (decrease) in accrued taxes (201) 146 11
Equity in undistributed income of subsidiary (3,832) (3,491) (3,286)
NET CASH USED IN OPERATING ACTIVITIES (374) (75) (36)
INVESTING ACTIVITIES
Proceeds from sales of available-for-sale investment securities 1,273 1,230 2,666
Proceeds from maturities of investment securities 200 - -
Purchases of investment securities (4,239) (894) (348)
Cash dividends received from subsidiary 3,660 1,677 1,371
NET CASH PROVIDED BY INVESTING ACTIVITIES 894 2,013 3,689
FINANCING ACTIVITIES
Cash dividends paid (1,593) (1,447) (1,375)
Cash paid in lieu of fractional shares (9) - -
Proceeds from issuance of common stock 480 31 57
Repurchase and retirement of common stock - (647) (2,612)
NET CASH USED IN FINANCING ACTIVITIES (1,122) (2,063) (3,930)
DECREASE IN CASH (602) (125) (277)
Cash at beginning of year 736 861 1,138
CASH AT END OF YEAR $ 134 $ 736 $ 861
</TABLE>
The Corporation relies on dividends from Bank of Hanover and Trust
Company to fund dividends paid to shareholders of the Corporation. Under
Pennsylvania statutes, the Bank is restricted, unless prior regulatory
approval is obtained, in the amount of dividends which it may declare in
relation to its accumulated profits, less any required transfer to
surplus. At December 31, 1998, retained earnings of the Bank available
for dividends were $21,670,000. These restrictions have not had, nor are
they expected to have any impact on the Corporation's dividend policy.
Other regulatory restrictions limit the ability of the Bank to transfer
net assets to the Corporation. At December 31, 1998, these restricted net
assets amounted to $7,783,000.
58
<PAGE>
NOTE 15--FAIR VALUE OF FINANCIAL INSTRUMENTS
(in thousands)
<TABLE>
<CAPTION>
December 31,
1998 1997
Carrying Fair Carrying Fair
Amount Value Amount Value
<S> <C> <C> <C> <C>
FINANCIAL ASSETS
Cash and short-term investments $ 26,233 $ 26,233 $ 21,337 $ 21,337
Investment securities 144,961 144,996 97,641 97,682
Loans 289,340 277,475
Less: Allowance for loan losses (3,405) (2,908)
Net loans 285,935 293,749 274,567 278,959
TOTAL FINANCIAL ASSETS $457,129 $464,978 $393,545 $397,978
FINANCIAL LIABILITIES
Deposits $364,008 $367,016 $329,951 $330,226
Short-term borrowings 15,651 15,651 12,433 12,433
Long-term borrowings 49,136 51,380 25,452 25,698
TOTAL FINANCIAL LIABILITIES $428,795 $434,047 $367,836 $368,357
</TABLE>
Financial Accounting Standards Board (FASB) Statement No. 107,
"Disclosures about Fair Value of Financial Instruments", requires
disclosure of fair value information about financial instruments, whether
or not recognized in the balance sheet, for which it is practicable to
estimate that value. In cases where quoted market prices are not
available, fair values are based on estimates using present value or other
valuation techniques. Those techniques are significantly affected by the
assumptions used, including the discount rate and estimates of future cash
flows. In that regard, the derived fair value estimates cannot be
substantiated by comparison to independent markets and, in many cases,
could not be realized in immediate settlement of the instrument. FASB 107
excludes certain financial instruments and all nonfinancial instruments
from its disclosure requirements. Accordingly, the aggregate fair value
amounts presented do not represent the underlying value of the
Corporation.
The following methods and assumptions were used by the Corporation
in estimating its fair value disclosures for financial instruments.
Cash and short-term investments: The carrying amounts reported in the
balance sheet for cash and short-term investments approximate those
assets' fair values.
Investment securities (including mortgage-backed securities): Fair values
for investment securities are based on quoted market prices, where
available. If quoted market prices are not available, fair values are
based on quoted market prices of comparable instruments.
Loans: Fair values for loans are estimated using discounted cash flow
calculation using interest rates based on U.S. Government security yields
for similar terms adjusted for appropriate risks associated with each
instrument.
Deposits: The fair values disclosed for non-maturity deposits (e.g.,
interest and non-interest checking, passbook savings and certain types of
money market accounts) are, by definition, equal to the amount payable on
demand at the reporting date (i.e., their carrying amounts). Fair values
for certificates of deposit are estimated using a discounted cash flow
calculation that applies interest rates based on U.S. Government security
yields to a schedule of aggregated expected maturities on time deposits.
59
<PAGE>
Short-term borrowings: The carrying amounts of federal funds purchased,
borrowings under repurchase agreements and other short-term borrowings
approximate their fair values.
Long-term borrowings: Fair values for long-term borrowings are estimated
using a discounted cash flow calculation that applies interest rates based
on U.S. Government security yields to a schedule of aggregated expected
maturities.
Off-balance sheet items: The estimated fair value of off-balance sheet
instruments, such as commitments to extend credit and standby letters of
credit, are based on fees currently charged to enter into similar
agreements. Generally, fees charged on standby letters of credit and selected
commitments to extend credit, principally commercial loans, are not considered
material.
NOTE 16--COMMITMENTS
As of December 31, 1998, the Bank had commitments outstanding to
extend credit totaling $58,363,000 and commitments under outstanding
standby letters of credit totaling $2,783,000. Credit commitments
generally require the customers to maintain certain credit standards and
are funded at rates and terms prevailing at the time of extension.
Management does not anticipate any material losses as a result of these
credit commitments.
NOTE 17--CONCENTRATIONS OF CREDIT RISK
Most of the Corporation's business activity, including loans and
loan commitments, is with customers located within York and Adams
Counties, Pennsylvania, where it has full service branches. The
Corporation's commercial, consumer and mortgage portfolios are principally
to borrowers in this market area and are generally collateralized. The
commercial loan portfolio is well diversified with no industry comprising
greater than 10% of total loans outstanding.
NOTE 18--ACCOUNTING CHANGES
In June 1997, the Financial Accounting Standards Board (FASB) issued
Statement No. 130, "Reporting Comprehensive Income". The focus of this
statement is to establish standards for reporting and displaying
comprehensive income and its components in the financial statements. The
new standard is effective for fiscal years beginning after December 15,
1997. These disclosure requirements can be found in the Consolidated
Statements of Shareholders' Equity and Note 10.
In June 1997, FASB issued Statement No. 131, "Disclosures about
Segments of an Enterprise and Related Information". This statement
establishes standards for the reporting of financial information from
operating segments in annual and interim financial statements. It requires
that segment financial information be reported on the basis that it is
reported internally. FASB 131 is effective for fiscal years beginning
after December 15, 1997. Management does not currently utilize discrete
financial information to assess the performance of individual operating
segments. However, a profitability management system is currently under
development and will provide a means to further assess this reporting
standard. Possible future implementation of these disclosure requirements
will have no impact on the Corporation's financial condition or results of
operations.
In February 1998, FASB issued Statement No. 132, "Employer's
Disclosure about Pensions and Other Postretirement Benefits" effective for
fiscal years beginning after December 15, 1997. This statement revised
the disclosure requirements of previous related FASB statements but does
not change the measurement or recognition standards for those plans.
Required disclosures for the Corporation's retirement plans are contained
in Note 12. These disclosure requirements have not had an impact on the
Corporation's liquidity, capital resources or results of operations.
60
<PAGE>
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. This standard is effective for fiscal years
beginning after June 15, 1999. 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 is
effective for the first fiscal quarter beginning after December 15, 1998.
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 the Corporation's liquidity, capital resources or
results of operations.
Note 19--Quarterly Financial Information (unaudited)
<TABLE>
The following is a summary of the Corporation's quarterly results (in thousands, except per share data):
<CAPTION>
Full
First Second Third Fourth Year
<S> <C> <C> <C> <C> <C>
1998
Interest income $7,477 $7,804 $7,976 $7,982 $31,239
Interest expense 3,732 3,933 4,113 4,076 15,854
Net interest income 3,745 3,871 3,863 3,906 15,385
Provision for loan losses 445 210 210 195 1,060
Net securities gains 348 384 142 75 949
Other income 728 814 807 1,012 3,361
Other expense 3,094 3,455 3,134 3,224 12,907
Income taxes 341 371 379 386 1,477
Net income 941 1,033 1,089 1,188 4,251
Net income per share-basic and diluted 0.24 0.26 0.28 0.30 1.08
1997
Interest income $6,607 $6,917 $7,247 $7,548 $28,319
Interest expense 3,132 3,346 3,619 3,844 13,941
Net interest income 3,475 3,571 3,628 3,704 14,378
Provision for loan losses 150 150 180 430 910
Net securities gains 65 129 89 387 670
Other income 592 614 674 709 2,589
Other expense 2,825 2,914 2,895 2,915 11,549
Income taxes 287 328 344 412 1,371
Net income 870 922 972 1,043 3,807
Net income per share-basic and diluted 0.22 0.23 0.25 0.27 0.97
</TABLE>
61
EXHIBIT 21
Subsidiaries of the Registrant
The registrant has one subsidiary--Bank of Hanover and Trust Company--
which is headquartered at 25 Carlisle Street, Hanover, Pennsylvania 17331
and incorporated in Pennsylvania.
62
EXHIBIT 23
Consent of Independent Auditors
We consent to the incorporation by reference in this Annual Report
(Form 10K) of Hanover Bancorp, Inc. of our report dated February 5,
1999 included in the 1998 Annual Report to Shareholders of Hanover
Bancorp, Inc.
We also consent to the incorporation by reference in the Registration
Statements on Form S-3 (No. 33-78538) and Form S-8 (Nos. 33-73472,
33-73470, and 33-73796) of Hanover Bancorp, Inc. of our report dated
February 5, 1999 with respect to the consolidated financial
statements of Hanover Bancorp, Inc. incorporated by reference in this
Annual Report (Form 10-K) for the year ended December 31, 1998.
/s/ Ernst & Young LLP
Harrisburg, Pennsylvania
March 25, 1999
63
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> Dec-31-1998
<PERIOD-END> Dec-31-1998
<CASH> 17,539
<INT-BEARING-DEPOSITS> 59
<FED-FUNDS-SOLD> 8,635
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 143,202
<INVESTMENTS-CARRYING> 1,759
<INVESTMENTS-MARKET> 1,794
<LOANS> 289,340
<ALLOWANCE> 3,405
<TOTAL-ASSETS> 470,093
<DEPOSITS> 364,008
<SHORT-TERM> 15,651
<LIABILITIES-OTHER> 4,354
<LONG-TERM> 49,136
0
0
<COMMON> 3,270
<OTHER-SE> 33,674
<TOTAL-LIABILITIES-AND-EQUITY> 470,093
<INTEREST-LOAN> 24,090
<INTEREST-INVEST> 6,791
<INTEREST-OTHER> 358
<INTEREST-TOTAL> 31,239
<INTEREST-DEPOSIT> 13,495
<INTEREST-EXPENSE> 15,854
<INTEREST-INCOME-NET> 15,385
<LOAN-LOSSES> 1,060
<SECURITIES-GAINS> 949
<EXPENSE-OTHER> 12,907
<INCOME-PRETAX> 5,728
<INCOME-PRE-EXTRAORDINARY> 4,251
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,251
<EPS-PRIMARY> 1.08
<EPS-DILUTED> 1.08
<YIELD-ACTUAL> 3.82
<LOANS-NON> 517
<LOANS-PAST> 425
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 1,236
<ALLOWANCE-OPEN> 2,908
<CHARGE-OFFS> 771
<RECOVERIES> 208
<ALLOWANCE-CLOSE> 3,405
<ALLOWANCE-DOMESTIC> 3,405
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
