FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
( X )QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2000
OR
( )TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-12524
Hanover Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2219814
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
33 Carlisle Street, Hanover, Pennsylvania 17331
(address of principal executive office and zip code)
(717) 637-2201
Registrant's Telephone Number, including area code
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
YES X NO
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
CLASS OUTSTANDING March 31, 2000
Common Stock, 3,884,189 shares
par value $.83 per share
1
<PAGE>
INDEX
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Page #
Part I. Financial Information
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets -
March 31,2000 and December 31, 1999 . . . . . . . . . . 3
Consolidated Statements of Income -
Three Months Ended March 31, 2000 and 1999 . . . . . . 4
Consolidated Statements of Cash Flows -
Three Months Ended March 31, 2000 and 1999 . . . . . . 5
Notes to Consolidated Financial Statements . . . . . . . 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations . . . . . 8
Part II. Other Information
Item 1. Legal Proceedings. . . . . . . . . . . . . . . . . . . 16
Item 2. Changes in Securities. . . . . . . . . . . . . . . . . 16
Item 3. Defaults Upon Senior Securities. . . . . . . . . . . . 16
Item 4. Submission of Matters to a Vote of Security Holders. . 16
Item 5. Other Information. . . . . . . . . . . . . . . . . . . 16
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . 16
Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2
<PAGE>
Part I. Financial Information
<TABLE>
Consolidated Balance Sheets
(in thousands of dollars, except per share data)
<CAPTION>
March 31, December 31,
2000 1999
<S> <C> <C>
ASSETS
Cash and due from banks $ 18,738 $ 20,251
Federal funds sold 5,988 -
Cash and cash equivalents 24,726 20,251
Interest bearing deposits with other banks 2 367
Short-term investments 69 29
Investment securities:
Available-for-sale 173,881 169,388
Held-to-maturity (market value - $1,666 and $1,673, respectively) 1,668 1,670
175,549 171,058
Loans:
Commercial, financial and agricultural 47,626 46,750
Real estate-construction 6,316 5,714
Real estate-commercial mortgage 49,372 48,663
Real estate-residential mortgage 130,247 130,151
Consumer 66,952 67,697
300,513 298,975
Less: Allowance for loan losses (3,800) (3,701)
Net loans 296,713 295,274
Premises and equipment 6,900 6,984
Accrued interest receivable 3,629 3,466
Other assets 7,444 6,495
TOTAL ASSETS $ 515,032 $ 503,924
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits:
Non-interest bearing $ 37,608 $ 37,072
Interest bearing 378,157 359,437
415,765 396,509
Borrowed Funds:
Short-term 10,135 21,266
Long-term 51,991 49,055
62,126 70,321
Accrued interest payable 2,944 2,386
Other liabilities 1,336 1,494
Dividends payable 466 466
TOTAL LIABILITIES 482,637 471,176
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: 2000-3,884,189 shares;
1999-3,883,272 shares 3,223 3,223
Surplus 18,283 18,271
Accumulated other comprehensive income (6,080) (5,019)
Retained earnings 16,969 16,273
TOTAL SHAREHOLDERS' EQUITY 32,395 32,748
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 515,032 $ 503,924
BOOK VALUE PER SHARE $ 8.34 $ 8.43
<FN>
See accompanying notes.
</FN>
</TABLE>
3
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<TABLE>
Consolidated Statements of Income
(Unaudited: in thousands of dollars, except per share data)
<CAPTION>
Three months ended
March 31,
2000 1999
<S> <C> <C>
INTEREST INCOME
Interest and fees on loans $ 6,212 $ 5,872
Interest on federal funds sold 49 170
Interest on short-term investments 3 32
Interest on investment securities:
Taxable 2,023 1,499
Tax-exempt 724 485
2,747 1,984
TOTAL INTEREST INCOME 9,011 8,058
INTEREST EXPENSE
Interest on deposits 3,966 3,369
Interest on borrowed funds 935 830
TOTAL INTEREST EXPENSE 4,901 4,199
NET INTEREST INCOME 4,110 3,859
PROVISION FOR LOAN LOSSES 100 195
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 4,010 3,664
NET SECURITIES GAINS 109 76
OTHER INCOME
Trust and investment services income 334 286
Services charges on deposit accounts 382 379
Other operating income 265 350
TOTAL OTHER INCOME 981 1,015
OTHER EXPENSE
Salaries 1,591 1,385
Employee benefits 302 298
Occupancy expense 267 226
Equipment expense 324 298
Marketing and advertising 115 111
Professional and service fees 303 359
Other operating expense 785 711
TOTAL OTHER EXPENSE 3,687 3,388
INCOME BEFORE INCOME TAXES 1,413 1,367
INCOME TAXES 251 303
NET INCOME $ 1,162 $ 1,064
PER SHARE DATA
Net income - basic and diluted $ 0.30 $ 0.27
Cash dividends declared $ 0.12 $ 0.11
<FN>
See accompanying notes.
</FN>
</TABLE>
4
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<TABLE>
Consolidated Statements of Cash Flows
(in thousands)
<CAPTION>
Three months ended
March 31,
2000 1999
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 1,162 $ 1,064
Adjustments to reconcile net income to net
cash provided by operating activities:
Provision for loan losses 100 195
Provision for depreciation and amortization 290 272
Securities gains (109) (76)
Increase in net deferred tax assets - 147
Increase in interest receivable (163) 4
Increase (decrease) in interest payable 558 670
(Increase) decrease in other assets (402) (278)
Increase in other liabilities (309) (301)
Increase (decrease) in accrued taxes 151 263
Loans originated for sale (1,472) (4,359)
Proceeds from sale of loans originated for sale 1,383 5,102
NET CASH PROVIDED BY
OPERATING ACTIVITIES 1,189 2,703
INVESTING ACTIVITIES
Net increase in loans (1,450) (1,548)
Proceeds from sale of loans - -
Proceeds from sale of avaliable-for-sale investment securities 8,554 26,699
Proceeds from maturities of investment securities 3,453 5,418
Purchases of investment securities (17,997) (28,907)
Proceeds from maturities of short-term investments 325 -
Purchases of short-term investments - (9,084)
Purchases of premises and equipment (206) (186)
NET CASH USED IN
INVESTING ACTIVITIES (7,321) (7,608)
FINANCING ACTIVITIES
Net increase in demand deposits, NOW accounts,
money market accounts, and savings accounts 2,238 7,481
Net increase in certificates of deposit and other time deposits 17,018 5,090
Net decrease in borrowed funds (8,195) (13)
Cash dividends paid (466) (433)
Cash paid in lieu of fractional shares - -
Proceeds from issuance of common stock 12 17
Repurchase and retirement of common stock - -
NET CASH PROVIDED BY
FINANCING ACTIVITIES 10,607 12,142
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 4,475 7,237
Cash and cash equivalents at beginning of year 20,251 26,174
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 24,726 $ 33,411
<FN>
See accompanying notes.
</FN>
</TABLE>
5
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HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Notes to Consolidated Financial Statements
(1) In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments which are of a normal
recurring nature necessary to present fairly Hanover Bancorp, Inc's.
financial position as of March 31, 2000, and December 31, 1999, the
results of its operations for the three months ended March 31, 2000 and
1999 and cash flows for the three months ended March 31, 2000 and 1999.
(2) The information contained in this report is unaudited and is subject to
year-end adjustment and audit.
(3) These statements should be read in conjunction with the consolidated
financial statements and notes thereto included in the corporation's
Annual Report on Form 10-K/A for the year ended December 31, 1999.
(4) Net income (basic and diluted) and cash dividends per share are based
on the weighted average number of shares outstanding which were
3,884,086 during the quarter ended March 31, 2000 and 3,941,336 during
the quarter ended March 31, 1999. The effective dilutive securities
for these periods are immaterial.
(5) The results of operations for the three months ended March 31, 2000,
are not necessarily indicative of the results that may be expected for
the year ended December 31, 2000.
(6) The allowance for loan losses is maintained at a level believed adequate
by management to absorb estimated credit losses within the overall loan
portfolio. Management's methodology in evaluating the adequacy of the allowance
considers the overall growth in the portfolio, ongoing analysis of individual
credits, adverse situations that could affect a borrower's ability to repay,
prior and current loss experience, and economic conditions and trends.
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.
6
<PAGE>
(7) Comprehensive income and its components for the three months ended
March 31, are as follows:
Three months ended
2000 1999
Net income $ 1,162 $ 1,064
Adjustment to net unrealized gains on
securities available-for-sale, net of
tax effects and reclassification adjustment
for gains included in net income (1,061) (438)
Comprehensive Income $ 101 $ 626
Accumulated other comprehensive income consists of the net unrealized
gain on securities available-for-sale, net of tax effects.
(8) In June 1997, the Financial Accounting Standards Board (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 June 1998, FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This statement requires the recognition of
derivative instruments as assets or liabilities, measured at fair value. In
July 1999, FASB issued Statement No. 137, "Accounting for Derivative Instruments
and Hedging Activities - Deferral of the Effective Date of FASB Statement No.
133 - an amendment of FASB Statement No. 133". This standard delayed the
effective date for FASB 133 to fiscal years beginning after June 15, 2000.
Based upon the corporation's preliminary review, FASB 133 is not expected to
have an impact on its liquidity, capital resources or results of operations.
In October 1998, FASB issued Statement No. 134, " Accounting for Mortgage
Backed Securities Retained after the Securitization of Mortgage Loans Held for
Sale by a Mortgage Banking Enterprise". This statement amends FASB Statement
No. 65, "Accounting for Certain Mortgage Banking Activities" to require that
after the securitization of mortgage loans, the classification of the resulting
mortgage-backed securities be based on the ability and intent to sell or hold
the securities. This standard was effective on January 1, 1999. The
corporation is not currently involved in any transactions which fall under the
definitions of this standard, therefore it has not had an impact on the
corporation's liquidity, capital resources or results of operations.
During the fourth quarter of 1999, FASB issued an Exposure Draft on
Business Combinations and Intangible Assets. Under the proposed draft,
companies would: account for all business combinations using the purchase
method; amortize goodwill over its useful economic life, but in no event over a
period longer than 20 years; present goodwill charges on a net-of-tax basis as
the last component of continuing operations on the income statement; recognize
negative goodwill as an extraordinary gain; and recognize all reliably
measurable identifiable intangible assets at their fair value, among other
recommendations. The FASB expects to issue a final statement in the fourth
quarter of 2000, applicable to business combinations and to intangible assets
acquired in transactions initiated after the issuance date of the final
statement.
7
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HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Management's Discussion and Analysis of
Financial Condition and Results of Operations
Results of Operations:
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. Hanover Bancorp's income is derived primarily
from the operations of Bank of Hanover and Trust Company. HOVB Investment
Co., a wholly owned subsidiary of the corporation, was incorporated in
Delaware during 1999. Its principal activity is the holding of and
investing in equity securities.
The following discussion and analysis sets forth results of operations for
the first quarter of 2000, including basic performance trends. There are no
known trends, events or uncertainties that will have or are likely to have a
material effect on the corporation's liquidity, capital resources or
operations.
The management of Hanover Bancorp, Inc. has made forward-looking statements in
this 10-Q. These forward-looking statements may be subject to risks and
uncertainties. Forward-looking statements include the information concerning
possible or assumed future results of operations of Hanover Bancorp. Inc. and
its subsidiaries, Bank of Hanover and Trust Company and HOVB Investment Co., or
the combined company. When words such as "believes," "expects," "anticipates"
or similar expressions occur in this 10-Q, management is making forward-looking
statements.
Shareholders should note that many factors, some of which are discussed
elsewhere in this 10-Q, could affect the future financial results of Hanover
Bancorp, Inc. and its subsidiaries, both individually and collectively, and
could cause those results to differ materially from those expressed in the
forward-looking statements contained in this 10-Q. These factors include:
operating, legal and regulatory risks; economic, political and competitive
forces affecting our banking, securities, asset management and credit services
businesses; and the risk that our analyses of these risks and forces could be
incorrect and or that the strategies developed to address them could be
unsuccessful.
First Quarter of 2000 Compared to First Quarter of 1999:
Earnings for the quarter ended March 31, 2000 was $1,162,000 versus $1,064,000
in 1999, an increase of $98,000 or 9.2%. Earnings per share (EPS) was $.30, an
increase of $.03 or 11.1% from $.27 for the quarter a year ago. During the same
period, the return on average shareholders' equity (core equity) was 12.12% in
2000, up from 11.73% in 1999.
The corporation's net interest income of $4,502,000 (on a fully tax equivalent
basis) for the quarter was 8.6% higher than 1999's level of $4,144,000. This
increase was primarily the result of higher earning asset levels, driven by
loan and deposit growth and increased investment security activity. The
Corporation experienced loan and deposit growth of 3.6% and 10.4%, respectively,
from a year ago. First quarter growth in loans and deposits of .5% and 4.9%
from the prior year end compared favorably to the .3% and 3.5% experienced
during the first quarter of 1999.
The provision for loan losses for the first quarter of 2000 was $100,000
compared to $195,000 for 1999. Net charge-offs for these time periods were $485
and $136,000, respectively.
Securities gains were $109,000 during the first three months of 2000 versus
$76,000 in 1999. These gains were derived from the sale of equity securities
from the HOVB Investment Company's portfolio as well as gains on sales of bonds
as part of the ongoing management of the bank's investment portfolio.
8
<PAGE>
Other operating income for the first quarter of 2000 was $981,000, a decrease of
$34,000 from 1999. While the Corporation continued to experience growth in trust
and investment services income and deposit services income, fees from loan
origination activity was lower.
Other operating expense increased from $3,388,000 during the first three months
of 1999 to $3,687,000 in 2000, an increase of $299,000. This increase
principally reflected greater salaries and occupancy expense related to growth
efforts in our new branch facilities and expansion of the trust and investment
services division.
The level of tax-free income is the primary factor impacting the
corporation's effective tax rate. The corporation recognized an income tax
provision which resulted in an effective tax rate of 21.6% for the quarter
ended March 31, 2000 compared to 22.2% rate in 1999. The decrease from period
to period was a result of a higher level of tax free assets during 2000.
Financial Condition
Deposits are the most important funding source and the primary support for the
corporation's growth. During the first three months of 2000, total deposits
increased $19.3 million or 4.9%. This growth came primarily certificates of
deposit (CDs) over $100,000. Borrowed funds, the other primary funding source,
declined during the first quarter of 2000 due principally to the maturity of a
short-term borrowing.
The corporation uses funds to support its lending and investing activities.
Net loans outstanding increased by $1.4 million or .5% from December 31, 1999 to
March 31, 2000. The growth was comprised of increases in the commercial, real
estate-construction and real estate-commercial mortgage categories while
consumer loans declined. Investment securities increased $4.5 million or 2.6%
through the first three months of 2000 while federal funds sold and other
short-term investments increased by $5.7 million during this period. The
increase in investment securities resulted from continued efforts to deploy
funding from deposit growth. The increase federal funds sold and other
short-term investments reflects the current mismatch between deposit and loan
growth.
<TABLE>
Trends in Sources and Uses of Funds
(in thousands, except percentages)
<CAPTION>
March 31, December 31 Change
2000 1999 $ %
<S> <C> <C> <C> <C>
Funding Sources
Deposits $ 415,765 $ 396,509 $19,256 4.9%
Borrowed funds 62,126 70,321 (8,195) (11.7%)
Other liabilities 4,746 4,346 400 9.2%
Shareholders' equity 32,395 32,748 (353) (1.1%)
TOTAL SOURCES $ 515,032 $ 503,924 $11,108 2.2%
Funding Uses
Loans $ 296,713 $ 295,274 $ 1,439 0.5%
Investment securities 175,549 171,058 4,491 2.6%
Federal funds sold and short-term investments 6,059 396 5,663 1430.1%
Other assets 36,711 37,196 (485) (1.3%)
TOTAL USES $ 515,032 $ 503,924 $11,108 2.2%
</TABLE>
9
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Capital Resources and Dividends
The corporation has an ongoing strategic objective of maintaining a capital
base which supports the pursuit of profitable business opportunities, provides
resources to absorb the risks inherent in its activities and meets or exceeds
all regulatory requirements. At March 31, 2000, total shareholders' equity
was $32.4 million, a decrease of $353,000 or 1.1% from December 31, 1999.
This change consisted of an increase of $708,000 in capital stock, surplus and
undivided profits (core equity) and a decrease of $1.1 million in accumulated
other comprehensive income (unrealized gains on AFS securities). The increase
in the core equity was primarily the result of earnings retained. The
decrease in unrealized gains resulted from the higher level of market interest
rates which negatively impacted debt securities valuations and lower valuations
within the bank stock portfolio.
During the quarter ended March 31, 2000, the Board of Directors declared a
cash dividend of $.12 per share payable May 1, 2000, an increase of $.01 or
9.1% per share from a year ago. The corporation relies on net income rather
than retained earnings for the payment of dividends to shareholders. The
dividend rate is determined by the Board of Directors after considering the
level of internal capital growth necessary to maintain an appropriate ratio of
equity to assets and the projected level of earnings. Management anticipates
that the internal growth rate of equity is more than adequate to support the
corporation's asset growth.
As can be seen by the following tables, the corporation and the bank remain
well capitalized as defined by the regulatory authorities.
March 31, December 31,
2000 1999
Hanover Bancorp, Inc.
Tier 1 capital to risk-adjusted assets 11.36% 11.63%
Total capital to risk-adjusted assets 12.51% 12.79%
Leverage ratio 7.41% 7.70%
Bank of Hanover and Trust Company
Tier 1 capital to risk-adjusted assets 9.43% 9.72%
Total capital to risk-adjusted assets 10.61% 10.92%
Leverage ratio 6.07% 6.03%
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:
Tier I
Total Capital Capital to
to Risk-Adjusted Risk-Adjusted
Assets Assets Leverage
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
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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".
<TABLE>
Asset Quality and Allowance for Loan Losses:
The following table illustrates the Corporation's nonperforming asset position
as of March 31, 2000 compared to its position at December 31, 1999 (in thousands).
<CAPTION>
March 31, December 31,
2000 1999
<S> <C> <C>
Non-accrual loans $ 693 $ 446
Accruing loans past due 90 days or more 777 131
Restructured loans - -
Other real estate and other
repossessed assets 181 341
Total non-performing assets $ 1,651 $ 918
Non-accrual loans by category
Commercial, financial and agricultural $ 163 $ 126
Real estate-construction 80 80
Real estate-mortgage 436 240
Consumer 14 -
$ 693 $ 446
Past due loans by category
Commercial, financial and agricultural $ 77 $ 119
Real estate-construction 131 -
Real estate-mortgage 541 -
Consumer 28 12
$ 777 $ 131
Restructured loans by category
Commercial, financial and agricultural $ - $ -
Real estate-construction - -
Real estate-mortgage - -
Consumer - -
$ - $ -
</TABLE>
11
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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, ongoing monitoring and
reporting of asset quality measures and the adequacy of the allowance for loan
losses.
The corporation makes commercial, consumer and residential mortgage loans
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.
Nonperforming assets include non-accrual and restructured loans, accruing loans
past due 90 days or more, other real estate (ORE) and other repossessed assets.
The corporation generally classifies a loan 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.
Nonperforming assets at March 31, 2000 were $1.7 million compared to $918,000 at
December 31, 1999. As a percentage of total loans, nonperforming assets at March
31, 2000 were .55%, up from .31% at December 31, 1999. This change from
year-end is attributable to an increase in past due commercial mortgage loans.
However, the corporation's nonperforming assets remain low relative to total
loans and compare favorably to peer statistics.
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. At March 31, 2000, total potential problem loans, as determined by the
corporation's internal loan review process, totaled $3.3 million compared to
$1.8 million at December 31, 1999. The increase from year-end reflects the
inclusion of a land development credit which is current but being closely
monitored. Management regularly monitors the status of these loans and their
likelihood of becoming nonperforming loans.
Management believes that the allowance for loan losses is adequate to absorb
estimated credit losses within the overall loan portfolio. In evaluating the
adequacy of the allowance, management considers the overall growth in the
portfolio, ongoing analysis of individual credits, adverse situations that could
affect a borrower's ability to repay, prior and current loss experience, and
economic conditions and trends.
The allowance for loan losses at March 31, 2000 was $3.8 million compared to
$3.7 million at year-end 1999. The allowance as a percent of total loans
outstanding was 1.26% and 1.24% at March 31, 2000 and December 31, 1999,
respectively. In terms of coverage, the allowance measured as a ratio of
nonperforming assets was 230% and 403% at March 31, 2000 and December 31, 1999,
respectively. The reserve coverage to total loans was maintained from year-end
due to the provision for loan losses recorded during the first quarter. However,
the coverage of nonperforming assets declined primarily due to the increase in
delinquent loans discussed previously.
12
<PAGE>
Management charges the allowance for loan losses when it determines that the
prospects for recovering the principal have significantly diminished.
Subsequent recoveries, if any, are credited to the allowance. Transactions in
the allowance for loan losses were as follows:
Period ended
March 31,
2000 1999
Balance at beginning of period $3,701 $3,405
Recoveries on loans 96 165
Provision charged to operations 100 195
Loans charged-off (97) (136)
Balance at end of period $3,800 $3,629
Liquidity
Liquidity is the ability to meet funding requirements of customers' deposit
withdrawals or credit needs at a reasonable cost. The corporation's
Asset/Liability Management Committee (ALCO) has established policies and
procedures to control its liquidity position and to provide for potential
future needs. The corporation's liquidity position is enhanced by a
relatively stable funding base. The ratio of deposits (excluding CDs over
$100,000) to total assets was 73.2% at March 31, 2000, while CDs over $100,000
and other borrowed funds to total assets was 19.6%. These same ratios were 74.1%
and 18.5% at December 31, 1999. To manage its liquidity needs, the corporation
looks to a number of sources on both sides of its balance sheet.
In addition to a stable deposit base, the investment portfolio provides a
consistent stream of cash flows and maturities to support liquidity needs. At
March 31, 2000, $2.3 million of investment securities were scheduled to mature
in one year or less, while principal payments on mortgage-backed securities
averaged $.5 million a month during the first quarter of 2000. Loan portfolio
repayments and maturities also provide funds for managing liquidity. In 2000,
the corporation received an average of approximately $7.7 million in loan
repayments per month. In addition, the sale of portfolio loans provides an
alternative for the management of liquidity. In 2000, $1.4 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. Through these relationships, the corporation has available
short-term funding of approximately $8 million. In addition, it has access to
the Federal Home Loan Bank for both short-term and long-term funding needs of
approximately $47 million.
Market Risk
In January 1997, the Securities and Exchange Commission (SEC) issued new
disclosure rules related to derivatives and exposures to market risk from
derivative financial instruments, other financial instruments and certain
derivative commodity instruments. These rules became effective for the
corporation's December 31, 1997 financial statements. Market risk includes
interest rate risk, foreign currency exchange rate risk, commodity price risk
and equity price risk. The new disclosure rules have two parts: quantitative
and qualitative market risk disclosures outside the financial statements, and
accounting policy disclosures about derivatives in the notes to the financial
statements. As further discussed within, the corporation's primary market risk
is interest rate risk from its financial assets and liabilities. There is no
material use of financial instruments which would be classified as derivatives
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.
13
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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 March 31, 2000 of negative
$17.0 million or 3.29% of total assets. At December 31, 1999, the corporation
had a negative gap of $14.0 million or 2.79% of total assets. This shift to a
slightly more negative gap position from year-end 1999 was largely the result of
lengthening of maturities in the investment portfolio.
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 March 31, 2000, the
corporation would expect net interest income to decrease over the next twelve
months by 2.5% assuming an immediate upward shift in market interest rates of
200 basis points, and to decrease by 0.9% if rates shifted downward in the same
manner. At December 31, 1999, annual net interest income was expected to
decrease by 4.3% in the upward scenario and to increase by 1.1% in the downward
scenario. The change from year-end reflects the shift to a less liability
sensitive position. This change is principally the result of a lower volume of
maturing CD's over the simulation time period. The simulation results are
largely affected by the corporation's holdings of approximately $47 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, thus causing different
sensitivities in the two rate scenarios. The conversion feature of these
advances cannot be reflected in the gap analysis.
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REGULATORY ISSUES
The Federal Reserve Board regulates and examines the operations of all bank
holding companies organized under the United States Bank Holding Company Act,
including the corporation. The act also restricts the business activities in
which the corporation may engage and that acquisitions which the corporation may
make. The Pennsylvania Department of Banking also regulates and supervises the
operations of the corporation because it is organized as a bank holding company
under Pennsylvania law.
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 for
year-ended 12/31/99 as filed in Form 10-K/A).
The bank is a member of the Federal Deposit Insurance Corporation, and the FDIC
insures the bank's deposits to the extent provided by law. The FDIC also
regulates and examines the bank's activities. The Pennsylvania Department of
Banking also regulates the bank's activities.
On November 12, 1999, President Clinton signed into law the Gramm-Leach-Bliley
Act of 1999, which is also known as the Financial Services Modernization Act.
The act repeals some Depression-era banking laws and will permit banks,
insurance companies and securities firms to engage in each others' businesses
after complying with certain conditions and regulations which are yet to be
finalized. The act grants to community banks the power to enter new financial
markets as a matter of right that larger institutions have managed to do on an
ad hoc basis. At this time, management has no plans to pursue these additional
possibilities.
Management does not believe that the Financial Services Modernization Act will
have an immediate positive or negative material effect on operations. However,
the act may have the result of increasing the amount of competition that our
company faces from larger financial service companies, many of whom have
substantially more financial resources than our company, which may now offer
banking services in addition to insurance and brokerage services.
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, although 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.
15
<PAGE>
PART II. OTHER INFORMATION
HANOVER BANCORP, INC. AND ITS WHOLLY-OWNED SUBSIDIARY
Item 1. Legal Proceedings
The corporation is party to various legal proceedings generally incidental to
its business. Based on evaluation of these matters and discussions with
counsel, management believes that liabilities to the corporation arising from
these matters will not have a material adverse effect on the financial condition
of the corporation.
Item 2. Changes in Securities - None.
Item 3. Defaults Upon Senior Securities - None.
Item 4. Submission of Matters to a Vote of Security Holders - None
Item 5. Other Information - None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - Exhibit 27. Financial Data Schedule
(b) Reports on Form 8-K
On February 7, 2000 the corporation filed a Form 8-K disclosing the
following information:
Item 5. Other Events - On January 25, 2000, Hanover Bancorp, Inc. entered into a
definitive agreement and Plan of Merger with Sterling Financial Corporation.
Under the agreement, Hanover will merge with and into Sterling with Sterling
surviving and all of the outstanding shares of the common stock of Hanover will
be converted into shares of the common stock of Sterling. Following the merger,
Hanover's wholly-owned bank subsidiary, the Bank of Hanover and Trust Company,
will operate as a wholly-owned subsidiary of Sterling.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HANOVER BANCORP, INC.
Date: May 15, 2000 /s/ Bradley Scovill
J. Bradley Scovill
President and
Chief Executive Officer
(Principal Executive Officer)
Date: May 15, 2000 /s/ Thomas J. Paholsky
Thomas J. Paholsky
Treasurer
(Principal Accounting and
Financial Officer)
17
<PAGE>
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