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 1934
For the fiscal year ended December 31, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE
SECURITIES EXCHANGE ACT 1934
For the transition period from ____________________ to __________________
Commission file Number 0-16667
DNB FINANCIAL CORPORATION
(Exact Name of registrant as specified in its charter)
PENNSYLVANIA 23-2222567
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
4 BRANDYWINE AVENUE, DOWNINGTOWN, PENNSYLVANIA 19335
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code
(610) 269-1040
Securities registered pursuant to Section 12 (b) of the Act
NOT APPLICABLE
Securities registered pursuant to Section 12 (g) of the Act
Common stock, par value $10.00 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. [X] Yes [ ] 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. [X] Yes [ ] No
As of March 24, 1997, the aggregate market value of the 656,277 shares of
Common Stock of the Registrant issued and outstanding on such date, and held by
non-affiliates of the Registrant, was approximately $21.3 million. This figure
is based on the closing sales price of $32.50 per share of the Registrant's
Common Stock on March 24, 1997.
Number of shares of Common Stock outstanding as of March 24, 1997
691,422
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following documents are incorporated by reference
Parts I, III and IV - Proxy Statement for the Annual Meeting of Stockholders to
be held April 22, 1997.
Parts II and IV - Annual Report to Stockholders for the Year Ended December 31,
1996.
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DNB FINANCIAL CORPORATION
Table of Contents
Part I Page
Item 1. Business 3
Item 2. Properties 12
Item 3. Legal Proceedings 12
Item 4. Submission of Matters to a Vote of Security Holders 12
Part II
Item 5. Market for Registrant's Common Equity and Related 13
Stockholder Matters
Item 6. Selected Financial Data 13
Item 7. Management's Discussion and Analysis of Financial 13
Condition and Results of Operations
Item 8. Financial Statements Supplementary Data 13
Item 9. Changes in and Disagreements with Accountants 13
on Accounting and Financial Disclosure
Part III
Item 10. Directors and Executive Officers of the Registrant 13
Item 11. Executive Compensation 13
Item 12. Security Ownership of Certain 13
Beneficial Owners and Management
Item 13. Certain Relationships and Related Transactions 13
Part IV
Item 14. Exhibits, Financial Statement Schedules, and 14
Reports on Form 8-K
Signatures 16
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DNB FINANCIAL CORPORATION
FORM 10-K
Part I
Item 1. Business
General
DNB Financial Corporation (the "Registrant"), a Pennsylvania business
corporation, is a bank holding company registered with and supervised by the
Board of Governors of the Federal Reserve System (Federal Reserve Board).
Registrant was incorporated on October 28, 1982 and commenced operations on July
1, 1983 upon consummation of the acquisition of all of the outstanding stock of
The Downingtown National Bank (the "Bank"). Since commencing operations,
Registrant's business has consisted primarily of managing and supervising the
Bank, and its principal source of income has been dividends paid by the Bank.
Registrant has one wholly-owned subsidiary, the Bank. At December 31, 1996,
Registrant had total consolidated assets, total liabilities and stockholders'
equity of $207.1 million, $190.9 million, and $16.2 million, respectively.
The Bank was organized in 1861. The Bank is a national banking association
that is a member of the Federal Reserve System, the deposits of which are
insured by the Federal Deposit Insurance Corporation ("FDIC"). The Bank, having
six full service branch locations within Chester County, Pennsylvania, is a full
service commercial bank providing a wide range of services to individuals and
small to medium sized businesses in its southeastern Pennsylvania market area,
including accepting time, demand, and savings deposits and making secured and
unsecured commercial, real estate and consumer loans. In addition the Bank has
one limited service branch and a full-service trust and investment services
division. The Bank's subsidiary, Downco, Inc. was incorporated in December, 1995
for the purpose of acquiring and holding other real estate owned acquired
through foreclosure or deed in lieu of foreclosure.
The Bank's legal headquarters are located at 4 Brandywine Avenue,
Downingtown, Pennsylvania. As of December 31, 1996, the Bank had total assets of
$207.1 million, total deposits of $178.4 million and total stockholders' equity
of $16.2 million. The Bank's business is not seasonal in nature. Its deposits
are insured by the FDIC to the extent provided by law. At December 31, 1996, the
Bank had 92 full-time employees and 12 part-time employees.
The Bank derives its income principally from interest charged on loans and,
to a lesser extent, interest earned on investments and fees received in
connection with the origination of loans and for other services. The Bank's
principal expenses are interest expense on deposits and operating expenses.
Funds for activities are provided principally by operating revenues, deposit
growth and the repayment of outstanding loans.
Competition - Bank
The Bank faces vigorous competition from a number of sources, including
other commercial banks, thrift institutions, other financial institutions and
financial intermediaries. In addition to commercial banks, federal and state
savings and loan associations, savings banks, credit unions and industrial
savings banks actively compete in the Bank's market area to provide a wide
variety of banking services. Mortgage banking firms, real estate investment
trusts, finance companies, insurance companies, leasing companies and brokerage
companies, financial affiliates of industrial companies and certain government
agencies
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provide additional competition for loans and for certain financial services. The
Bank also currently competes for interest-bearing funds with a number of other
financial intermediaries which offer a diverse range of investment alternatives,
including brokerage firms and mutual funds.
Supervision and Regulation - Registrant
Federal Banking Laws
The Registrant is subject to a number of complex Federal banking laws ---
most notably the provisions of the Bank Holding Company Act of 1956, as amended
("Bank Holding Company Act") and the Change in Bank Control Act of 1978 ("Change
in Control Act"), and to supervision by the Federal Reserve Board.
Bank Holding Company Act
The Bank Holding Company Act requires a "company" (including the
Registrant) to secure the prior approval of the Federal Reserve Board before it
owns or controls, directly or indirectly, more than five percent (5%) of the
voting shares or substantially all of the assets of any bank. It also prohibits
acquisition by any "company" (including the Registrant) of more than five
percent (5%) of the voting shares of, or interest in, or all or substantially
all of the assets of, any bank located outside of the state in which a current
bank subsidiary is located unless such acquisition is specifically authorized by
laws of the state in which such bank is located. A "bank holding company"
(including the Registrant) is prohibited from engaging in or acquiring direct or
indirect control of more than five percent (5%) of the voting shares of any
company engaged in non-banking activities unless the Federal Reserve Board, by
order or regulation, has found such activities to be so closely related to
banking or managing or controlling banks as to be a proper incident thereto. In
making this determination, the Federal Reserve Board considers whether the
performance of these activities by a bank holding company would offer benefits
to the public that outweigh possible adverse effects. Applications under the
Bank Holding Company Act and the Change in Control Act are subject to review
based upon the record of compliance of the applicant with the Community
Reinvestment Act of 1977 ("CRA"). See further discussion below.
The Registrant is required to file an annual report with the Federal
Reserve Board and any additional information that the Federal Reserve Board may
require pursuant to the Bank Holding Company Act. The Federal Reserve Board may
also make examinations of the Registrant and any or all of its subsidiaries.
Further, under Section 106 of the 1970 amendments to the Bank Holding Company
Act and the Federal Reserve Board's regulations, a bank holding company and its
subsidiaries are prohibited from engaging in certain tie-in arrangements in
connection with any extension of credit or provision of credit or provision of
any property or services. The so-called "anti-tie-in" provisions state generally
that a bank may not extend credit, lease, sell property or furnish any service
to a customer on the condition that the customer provide additional credit or
service to the bank, to its bank holding company or to any other subsidiary of
its bank holding company or on the condition that the customer not obtain other
credit or service from a competitor of the bank, its bank holding company or any
subsidiary of its bank holding company.
Permitted Non-Banking Activities. The Federal Reserve Board permits bank
holding companies to engage in non-banking activities so closely related to
banking or managing or controlling banks as to be a proper incident thereto. A
number of activities are authorized by Federal Reserve Board regulation, while
other activities require prior Federal Reserve Board approval. The types of
permissible activities are subject to change by the Federal Reserve Board.
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Change in Bank Control Act
Under the Change in Control Act, no person, acting directly or indirectly
or through or in concert with one or more other persons, may acquire "control"
of any federally insured depository institution unless the appropriate Federal
banking agency has been given 60 days prior written notice of the proposed
acquisition and within that period has not issued a notice disapproving of the
proposed acquisition or has issued written notice of its intent not to
disapprove the action. The period for the agency's disapproval may be extended
by the agency. Upon receiving such notice, the Federal agency is required to
provide a copy to the appropriate state regulatory agency, if the institution of
which control is to be acquired is state chartered, and the Federal agency is
obligated to give due consideration to the views and recommendations of the
state agency. Upon receiving a notice, the Federal agency is also required to
conduct an investigation of each person involved in the proposed acquisition.
Notice of such proposal is to be published and public comment solicited thereon.
A proposal may be disapproved by the Federal agency if the proposal would have
anticompetitive effects, if the proposal would jeopardize the financial
stability of the institution to be acquired or prejudice the interests of its
depositors, if the competence, experience or integrity of any acquiring person
or proposed management personnel indicates that it would not be in the interest
of depositors or the public to permit such person to control the institution, if
any acquiring person fails to furnish the Federal agency with all information
required by the agency, or if the Federal agency determines that the proposed
transaction would result in an adverse effect on a deposit insurance fund. In
addition, the Change in Control Act requires that, whenever any Federally
insured depository institution makes a loan or loans secured, or to be secured,
by 25% or more of the outstanding voting stock of a Federally insured depository
institution, the president or chief executive officer of the lending bank must
promptly report such fact to the appropriate Federal banking agency regulating
the institution whose stock secures the loan or loans.
Pennsylvania Banking Laws
Under the Pennsylvania Banking Code of 1965, as amended ("PA Code"), the
Registrant is permitted to control an unlimited number of banks, subject to
prior approval of the Federal Reserve Board as more fully described above. The
PA Code authorizes reciprocal interstate banking without any geographic
limitation. Reciprocity between states exists when a foreign state's law
authorizes Pennsylvania bank holding companies to acquire banks or bank holding
companies located in that state on terms and conditions substantially no more
restrictive than those applicable to such an acquisition by a bank holding
company located in that state. Interstate ownership of banks in Pennsylvania
with banks in Delaware, Maryland, New Jersey, Ohio, New York and other states,
is currently authorized. A number of additional states are considering
legislation to authorize reciprocal interstate banking. Congress has passed
interstate banking legislation that should accelerate the authorization for
interstate banking. (See discussion of 1994 Interstate and PA Banking
Legislation on Page 11)
Environmental Laws
The Registrant, the Bank and the Bank's customers are subject in the course
of their activities to a growing number of Federal, state and local
environmental laws and regulations. Neither the Registrant nor the Bank
anticipates that compliance with environmental laws and regulations will have
any material effect on capital expenditures, earnings, or on its competitive
positions.
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Supervision and Regulation - Bank
The operations of the Bank are subject to Federal and State statutes
applicable to banks chartered under the banking laws of the United States, to
members of the Federal Reserve System and to banks whose deposits are insured by
the FDIC. Bank operations are also subject to regulations of the Office of the
Comptroller of the Currency ("OCC"), the Federal Reserve Board and the FDIC.
The primary supervisory authority of the Bank is the OCC, who regularly
examines the Bank. The OCC has the authority to prevent a national bank from
engaging in an unsafe or unsound practice in conducting its business.
Federal and state banking laws and regulations govern, among other things,
the scope of a bank's business, the investments a bank may make, the reserves
against deposits a bank must maintain, loans a bank makes and collateral it
takes, the activities of a bank with respect to mergers and consolidations and
the establishment of branches. All nationally and state-chartered banks in
Pennsylvania are permitted to maintain branch offices in any county of the
state. National bank branches may be established only after approval by the OCC.
It is the general policy of the OCC to approve applications to establish and
operate domestic branches, including ATMs and other automated devices that take
deposits, provided that approval would not violate applicable Federal or state
laws regarding the establishment of such branches. The OCC reserves the right to
deny an application or grant approval subject to conditions if (1) there are
significant supervisory concerns with respect to the applicant or affiliated
organizations, (2) in accordance with CRA, the applicant's record of helping
meet the credit needs of its entire community, including low and moderate income
neighborhoods, consistent with safe and sound operation, is less than
satisfactory, or (3) any financial or other business arrangement, direct or
indirect, involving the proposed branch or device and bank "insiders"
(directors, officers, employees and 10%-or-greater shareholders) involves terms
and conditions more favorable to the insiders than would be available in a
comparable transaction with unrelated parties.
The Bank, as a subsidiary of a bank holding company, is subject to certain
restrictions imposed by the Federal Reserve Act on any extensions of credit to
the bank holding company or its subsidiaries, on investments in the stock or
other securities of the bank holding company or its subsidiaries and on taking
such stock or securities as collateral for loans. The Federal Reserve Act and
Federal Reserve Board regulations also place certain limitations and reporting
requirements on extensions of credit by a bank to principal shareholders of its
parent holding company, among others, and to related interests of such principal
shareholders. In addition, such legislation and regulations may affect the terms
upon which any person becoming a principal shareholder of a holding company may
obtain credit from banks with which the subsidiary bank maintains a
correspondent relationship.
Prompt Corrective Action - Federal banking law mandates certain "prompt
corrective actions" which Federal banking agencies are required to take, and
certain actions which they have discretion to take, based upon the capital
category into which a Federally regulated depository institution falls.
Regulations have been adopted by the Federal bank regulatory agencies setting
forth detailed procedures and criteria for implementing prompt corrective action
in the case of any institution which is not adequately capitalized. Under the
rules, an institution will be deemed to be "adequately capitalized" or better if
it exceeds the minimum Federal regulatory capital requirements. However, it will
be deemed "undercapitalized" if it fails to meet the minimum capital
requirements, "significantly undercapitalized" if it has a total risk-based
capital ratio that is less than 6.0%, a Tier 1 risk-based capital ratio that is
less than 3.0%, or a leverage ratio that is less than 3.0%, and "critically
undercapitalized" if the institution has a ratio of tangible equity to total
assets that is equal to or less than 2.0%.
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The rules require an undercapitalized institution to file a written capital
restoration plan, along with a performance guaranty by its holding company or a
third party. In addition, an undercapitalized institution becomes subject to
certain automatic restrictions including a prohibition on the payment of
dividends, a limitation on asset growth and expansion, and in certain cases, a
limitation on the payment of bonuses or raises to senior executive officers, and
a prohibition on the payment of certain "management fees" to any "controlling
person". Institutions that are classified as undercapitalized are also subject
to certain additional supervisory actions, including increased reporting burdens
and regulatory monitoring, a limitation on the institution's ability to make
acquisitions, open new branch offices, or engage in new lines of business,
obligations to raise additional capital, restrictions on transactions with
affiliates, and restrictions on interest rates paid by the institution on
deposits. In certain cases, bank regulatory agencies may require replacement of
senior executive officers or directors, or sale of the institution to a willing
purchaser. If an institution is deemed to be "critically undercapitalized" and
continues in that category for four quarters, the statute requires, with certain
narrowly limited exceptions, that the institution be placed in receivership.
Under the Federal Deposit Insurance Act, the OCC possesses the power to
prohibit institutions regulated by it, such as the Bank, from engaging in any
activity that would be an unsafe and unsound banking practice and in violation
of the law. Moreover, Federal law enactments have expanded the circumstances
under which officers or directors of a bank may be removed by the institution's
Federal supervisory agency; restricted and further regulated lending by a bank
to its executive officers, directors, principal shareholders or related
interests thereof; and restricted management personnel of a bank from serving as
directors or in other management positions with certain depository institutions
whose assets exceed a specified amount or which have an office within a
specified geographic area; and restricted management personnel from borrowing
from another institution that has a correspondent relationship with their bank.
Capital Rules. Pursuant to The Financial Institutions Reform, Recovery and
Enforcement Act of 1989 ("FIRREA") and the laws it amended, the Federal banking
agencies have issued certain "risk-based capital" guidelines, which supplemented
existing capital requirements. In addition, the OCC imposes certain "leverage"
requirements on national banks such as the Bank. Banking regulators have
authority to require higher minimum capital ratios for an individual bank or
bank holding company in view of its circumstances.
The risk-based guidelines require all banks and bank holding companies to
maintain two "risk-weighted assets" ratios. The first is a minimum ratio of
total capital ("Tier 1" and "Tier 2" capital) to risk-weighted assets equal to
8.00%; the second is a minimum ratio of "Tier 1" capital to risk-weighted assets
equal to 4.00%. Assets are assigned to five risk categories, with higher levels
of capital being required for the categories perceived as representing greater
risk. In making the calculation, certain intangible assets must be deducted from
the capital base. The risk-based capital rules are designed to make regulatory
capital requirements more sensitive to differences in risk profiles among banks
and bank holding companies and to minimize disincentives for holding liquid
assets.
The risk-based capital rules also account for interest rate risk.
Institutions with interest rate risk exposure above a normal level, would be
required to hold extra capital in proportion to that risk. A bank's exposure to
declines in the economic value of its capital due to changes in interest rates
is a factor that the banking agencies will consider in evaluating a bank's
capital adequacy. The rule does not codify an explicit minimum capital charge
for interest rate risk. The Bank currently monitors and manages its assets and
liabilities for interest rate risk, and management believes that the interest
rate risk rules which have been implemented and proposed will not materially
adversely affect the Bank's operations.
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The OCC's "leverage" ratio rules require national banks which are rated the
highest by the OCC in the composite areas of capital, asset quality, management,
earnings and liquidity to maintain a ratio of "Tier 1" capital to "adjusted
total assets" (equal to the bank's average total assets as stated in its most
recent quarterly call report filed with the OCC, minus end-of-quarter intangible
assets that are deducted from Tier 1 capital) of not less than 3.00%. For banks
which are not the most highly rated, the minimum "leverage" ratio will range
from 4.00% to 5.00%, or higher at the discretion of the OCC, and is required to
be at a level commensurate with the nature of the riskiness of the bank's
condition and activities.
For purposes of the capital requirements, "Tier 1" or "core" capital is
defined to include common stockholders' equity and certain noncumulative
perpetual preferred stock and related surplus. "Tier 2" or "qualifying
supplementary" capital is defined to include a bank's allowance for loan and
lease losses up to 1.25% of risk-weighted assets, plus certain types of
preferred stock and related surplus, certain "hybrid capital instruments" and
certain term subordinated debt instruments.
The Bank is in compliance with each of these capital rules, and as of
December 31, 1996 the required ratios and the Bank's actual ratios are as
follows:
Capital Rule Required Ratio Bank's Ratio Excess
Tier 1 Risk-Based Capital 4.00% 12.10% 8.10%
Total (Tiers 1 and 2)
Risk-Based Capital 8.00 13.38 5.38
Leverage Ratio 5.00 7.92 2.92
On the basis of an analysis of the rules and the projected composition of
the Registrant's consolidated assets and the risks presented by the Bank's
activities, it is not expected that the foregoing capital rules will have a
material effect on the Registrant's business and capital plans.
On February 1, 1996, the OCC informed the Bank that it had achieved
substantial compliance with the Bank's voluntary 1992 Consent Order (the
"Consent Order"), and that the Consent Order was terminated. Likewise, on
February 12, 1996, the Federal Reserve Bank ("FRB") terminated the 1993
Memorandum of Understanding which had been entered into between the Corporation
and the FRB.
The Bank was examined by the OCC during the fourth quarter of 1996. The
Bank was not required to make additional provisions to its allowance for
possible loan losses or charge-offs as a result of this examination.
1996 Federal Banking Legislation. The Economic Growth and Regulatory
Paperwork Reduction Act of 1996 (the "1996 Banking Law"), enacted as Title II of
the Omnibus Consolidated Appropriations Act for Fiscal Year 1997 was signed into
Law on September 30, 1996. The 1996 Banking Law implemented a wide range of
regulatory relief provisions affecting Federal insured depository institutions.
The supervisory provisions of the 1996 Banking Law which may affect the Bank,
included the following: per branch capital requirement for national banks were
eliminated; ATMs and other remote service units were excluded from the
definition of "branch" for purposes of certain branch approval requirements and
geographic restrictions; the law permits well-capitalized banks rated CAMEL 1 or
2 to invest in bank premises in amounts up to 150 percent of the bank's capital
and surplus with only a 30-day after-the-fact notice and establishes expedited
procedures to permit certain bank holding companies to engage in permissible
nonbanking activities, except for acquisitions of thrifts; exempted from the
insider lending restrictions a bank's company-wide
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benefit or compensation plans that are widely available to employees of the bank
and that do not give preference to any officer, director, or principal
shareholder (or related interests) over other employees of the bank; permits the
Federal banking agencies to raise the asset limit for an 18-month examination
cycle from $175 million to $250 million for banks with a CAMEL 2 rating; permits
the OCC to waive the State residency requirement for directors of national
banks; eliminates the independent auditor attestation requirement for compliance
with safety and soundness laws; authorizes the Federal banking agencies to
permit a bank's independent audit committee to include some inside directors if
the bank is unable to find competent outside directors, provided a majority of
the committee is still made up of outside directors; requires the Federal
Reserve Board (the "Fed") and the Department of Housing and Urban Development
("HUD"), within six months of enactment, to simplify and improve the Real Estate
Settlement Procedures Act ("RESPA") and the Truth in Lending Act ("TILA")
disclosures and provide a single format for such disclosures; makes a number of
changes to RESPA's disclosure requirements; generally provides that, if a bank
or a third party self-tests for compliance under the Equal Credit Opportunity
Act and the Fair Housing Act, the test results will not be used against the bank
if the bank identifies possible violations and is taking appropriate corrective
actions, and if the bank is not using the results in its defense; sunsets the
Truth-in-Savings Act's civil liability provision in five years; recapitalizes
the Savings Association Insurance Fund ("SAIF") as of October 1, 1996; requires
banks after December 31, 1996 to pay 20% of the interest on the bonds that
funded the initial capitalization of SAIF ("FICO bonds"), but banks would be
required to pay a full pro-rata share of the interest obligation beginning after
the earlier of December 31, 1999 or the date of which the last savings
association ceases to exist; merges SAIF and Bank Insurance Fund (the "BIF") on
January 1, 1999, but only if no insured depository institution is a savings
association on that date; requires the Department of Treasury to conduct a study
by March 31, 1997 on the development of a common charter for all insured
depository institutions; substantially amends the Fair Credit Reporting Act
("FCRA"); prohibits the Federal banking agencies from examining for compliance
with FCRA unless there has been a complaint about a violation or the agency
otherwise has knowledge of a violation; and amends the Comprehensive
Environmental Response, Compensation, and Liability Act to clarify that a lender
is not liable for environmental cleanups of property securing a loan unless the
lender, among other things, participates in day-to-day decision making over the
operations of the property or has control over environmental compliance; and
provides that lenders who foreclose on property may take certain
post-foreclosure actions without incurring liability for environmental cleanup
if the lender did not participate in management of the property prior to
foreclosure and the lender seeks to dispose of the property as soon as it is
commercially reasonable.
Deposit Insurance Assessments. On November 22, 1996, the Financing
Corporation ("FICO") adopted a regulation pursuant to the 1996 Banking Law which
obligates all Federally insured depository institutions to pay special
assessments toward the funding of interest payments on FICO bonds which were
issued in 1989 to fund the savings and loan bailout. The special assessments,
which are effective for periods commencing January 1, 1997, will be calculated
on a deposit-by-deposit basis and differs depending upon whether a deposit is
insured by SAIF or BIF. For the period commencing January 1, 1997, the special
assessment rates are expected to be 6.4 basis points on all SAIF-assessable
deposits, and 20% of that rate, or approximately 1.3 basis points, on all
BIF-assessable deposits, regardless of whether an institution is a "bank", a
"savings association". After December 31, 1999 (or when the last savings
association ceases to exist, if earlier), all assessable deposits at all
institutions will be assessed at the same rates in order to pay FICO bond
interest.
The FDIC sets deposit insurance assessment rates on a semiannual basis. The
FDIC has authority to reduce the assessment rates whenever the ratio of its
reserves to insured deposits is equal to or greater than 1.25%, and to increase
deposit insurance assessments whenever that ratio is less than 1.25%.
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An institution's semiannual deposit insurance assessment is computed
primarily by multiplying its "average assessment base" (generally, total
insurable domestic deposits) for the prior semiannual period by one-half the
annual assessment rate applicable to that institution depending upon its risk
category, which is based principally on two measures of risk. These measures
involve capital and supervisory factors.
For the capital measure, institutions are assigned semiannually to one of
three capital groups according to their levels of supervisory capital as
reported on their call reports: "well capitalized" (group 1), "adequately
capitalized" (group 2) and "undercapitalized" (group 3). The capital ratio
standards for classifying an institution in one of these three groups are total
risk-based capital ratio (10 percent or greater for group 1, and between 8 and
10 percent for group 2), the Tier 1 risk-based capital ratio (6 percent or
greater for group 1, and between 4 and 6 percent for group 2), and the leverage
capital ratio (5 percent or greater for group 1, between 4 and 5 percent for
group 2). Management believes that the Bank has met the definition of "well
capitalized" for regulatory purposes on December 31, 1996 and thereafter.
Within each capital group, institutions are assigned to one of three
supervisory risk subgroups --subgroup A, B, or C, depending upon an assessment
of the institution's perceived risk based upon the results of its most recent
examination and other information available to regulators. Subgroup A will
consist of financially sound institutions with only a few minor weaknesses.
Subgroup B will consist of institutions that demonstrate weaknesses which, if
not corrected, could result in significant deterioration of the institution and
increased risk of loss to the BIF. Subgroup C will consist of institutions that
pose a substantial probability of loss to the deposit insurance fund unless
effective corrective action is taken. Thus, there are nine possible
classifications to which varying assessment rates are applicable. The regulation
generally prohibits institutions from disclosing their subgroup assignments or
assessment risk classifications without FDIC authorization.
On November 14, 1995, the FDIC Board adopted a new assessment schedule to
reduce to a range of 0 to 27 basis points, the assessment rates applicable to
deposits assessable by the BIF for the semiannual assessment period beginning
January 1, 1996. The reduction represented a downward adjustment of 4 basis
points from the revised BIF assessment rate schedule which was in effect for the
second semiannual assessment period of 1995.
The following table sets forth the new schedule of BIF assessment rates by
capital group and supervisory risk subgroup for the semiannual assessment period
beginning January 1, 1997 (with no minimum assessment amount):
BIF Rate Schedule as Adjusted for the First Semiannual Period of 1997
Supervisory subgroup
Capital Group A B C
1 0 3 17
2 3 10 24
3 10 24 27
On December 6, 1996, the FDIC announced that it would continue the downward
adjustment on deposit insurance assessment rates applicable to BIF member
institutions for the first 6 months of 1997, and eliminated the statutory
minimum assessment of $1,000 due to the passage of the 1996 Banking Law.
As a result of these actions, the total semi-annual assessment for BIF
member institutions on BIF-assessable deposits will continue to range from 0 to
27 basis points (depending upon an institution's risk classifications), plus the
special FICO assessment, which in the Bank's case is approximately 1.3 basis
points on the Bank's assessable deposits.
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Interstate Banking - The Riegel-Neal Interstate Banking and Branching
Efficiency Act of 1994 (the "Interstate Banking Act"), enacted on September 29,
1994, permits bank holding companies to acquire banks in any state beginning in
1995. Beginning in 1997, acquired banks in different states may be merged into a
single bank, and thereafter merged banks may establish and acquire additional
branches anywhere the acquiree could have branched. States may opt out of
interstate branching until June 1, 1997, but if so, their domestic institutions
will also be prohibited from branching interstate. States may also enact laws
permitting interstate merger transactions and interstate de novo branching
before June 1, 1997. Limited branch purchases are still subject to state laws.
On July 6, 1995, Pennsylvania adopted an interstate banking act (the "PA
Interstate Banking Act") to harmonize Pennsylvania banking laws with the Federal
Interstate Banking Act. The PA Interstate Banking Act "opts in" early under the
Federal Interstate Banking Act to permit interstate mergers, non-Pennsylvania
holding company acquisitions of Pennsylvania banks, branch acquisitions and de
novo branching in any of the manners contemplated by the Federal Interstate
Banking Act, subject to prior regulatory approvals or filings. In general, the
PA Interstate Banking Act permits out-of-state banking institutions to establish
branches in Pennsylvania with the approval of the Pennsylvania Banking
Department, provided the law of the state where the banking institution is
located would permit a Pennsylvania banking institution to establish and
maintain a branch in that state on substantially similar terms and conditions.
It also permits Pennsylvania banking institutions to maintain branches in other
states. Bank management anticipates that the Interstate Banking Act and the PA
Interstate Banking Act will increase competitive pressures in the Bank's market
by permitting entry of additional competitors, but management is of the opinion
that this will not have a material impact upon the anticipated results of
operations of the Bank.
Under the Bank Secrecy Act ("BSA"), the Bank is required to report to the
Internal Revenue Service currency transactions of more than $10,000 or multiple
transactions of which the Bank is aware in any one day that aggregate in excess
of $10,000. Civil and criminal penalties are provided under the BSA for failure
to file a required report, for failure to supply information required by the BSA
or for filing a false or fraudulent report.
Under the Community Reinvestment Act of 1977 ("CRA"), the record of a bank
holding company and its subsidiary banks must be considered by the appropriate
Federal banking agencies, including the Federal Reserve and the OCC, in
reviewing and approving or disapproving a variety of regulatory applications
including approval of a branch or other deposit facility, office relocation, a
merger and certain acquisitions of bank shares. Federal banking agencies have
recently demonstrated an increased readiness to deny applications based on
unsatisfactory CRA performance. The OCC is required to assess the record of the
Bank to determine if it is meeting the credit needs of the community (including
low and moderate neighborhoods) which it serves. FIRREA amended the CRA to
require, among other things, that the OCC make publicly available an evaluation
of the Bank's record of meeting the credit needs of its entire community
including low- and moderate-income neighborhoods. This evaluation includes a
descriptive rating (outstanding, satisfactory, needs to improve, or substantial
noncompliance) and a statement describing the basis for the rating.
The Bank is subject to a variety of consumer protection laws, including the
Truth in Lending Act, the Truth in Savings Act adopted as part of the Federal
Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), the Equal
Credit Opportunity Act, the Home Mortgage Disclosure Act, the Electronic Funds
Transfer Act, the Real Estate Settlement Procedures Act and the regulations
adopted thereunder. In the aggregate, compliance with these consumer protection
laws and regulations involves substantial expense and administrative time on the
part of the Bank and the Registrant.
11
<PAGE>
Legislation and Regulatory Changes - From time to time, legislation is
enacted which has the effect of increasing the cost of doing business, limiting
or expanding permissible activities and/or affecting the competitive balance
between banks and other financial institutions. Proposals to change the laws and
regulations governing the operations and taxation of banks, bank holding
companies and other financial institutions are frequently made in Congress, and
before various bank regulatory agencies. No prediction can be made as to the
likelihood of any major changes or the impact such changes might have on the
Registrant and its subsidiary Bank.
Effect of Government Monetary Policies - The earnings of the Registrant are
and will be affected by domestic economic conditions and the monetary and fiscal
policies of the United States Government and its agencies (particularly the
Federal Reserve Board). The monetary policies of the Federal Reserve Board have
had and will likely continue to have, an important impact on the operating
results of commercial banks through its power to implement national monetary
policy in order, among other things, to curb inflation or combat a recession.
The Federal Reserve Board has a major effect upon the levels of bank loans,
investments and deposits through its open market operations in United States
Government securities and through its regulation of, among other things, the
discount rate on borrowing of member banks and the reserve requirements against
member bank deposits. It is not possible to predict the nature and impact of
future changes in monetary and fiscal policies.
Item 2. Properties
The main office of the Bank is located at 4 Brandywine Avenue, Downingtown,
Pennsylvania 19335. The Registrant's registered office is also at this location.
The Registrant pays no rent or other form of consideration for the use of the
Bank's main office as its principal executive office. The Bank also has an
operations center located at 104 Brandywine Avenue, Downingtown. With the
exception of its limited service office at Tel Hai, which it leases, the Bank
owns all of the properties described below which had a net book value of $2.9
million including leasehold improvements at December 31, 1996.
The bank has six full service branch offices located in Chester County,
Pennsylvania. They are: Little Washington Office (Intersection of Route 322 and
Little Washington Road, Downingtown), East End Office (701 East Lancaster
Avenue, Downingtown), Lionville Office (Intersection of Route 100 and Welsh Pool
Road, Exton), Ludwig's Corner Office (Intersection of Routes 100 and 401,
Uwchland), Caln Office (1835 East Lincoln Highway, Coatesville). The Bank also
has a limited service office at Tel Hai Retirement Community (Beaver Dam Road,
Honey Brook).
Item 3. Legal Proceedings
Neither the Registrant nor the Bank, are involved in any pending legal
proceedings other than nonmaterial legal proceedings occurring in the ordinary
course of business. In the opinion of management, the aggregate amount involved
in such proceedings is not material to the financial condition or results of
operations.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
12
<PAGE>
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The information required herein is incorporated by reference in the
Registrant's Annual Report to Stockholders ("Annual Report") for the fiscal year
ended December 31, 1996 at page 17 filed as Exhibit 13.
Item 6. Selected Financial Data
The information required herein is incorporated by reference in the
Registrant's Annual Report for the year ended December 31, 1996 at page 1 filed
as Exhibit 13.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The information required herein is incorporated by reference in the
Registrant's Annual Report for the year ended December 31, 1996 from pages 4 to
17 filed as Exhibit 13.
Item 8. Financial Statements and Supplementary Data
The information required herein is incorporated by reference in the
Registrant's Annual Report for the year ended December 31, 1996 from pages 19 to
35 filed as Exhibit 13.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Not applicable.
Part III
Item 10. Directors and Executive Officers of the Registrant
The information required herein is incorporated by reference in the
Registrant's Proxy Statement from pages 4 to 6 filed March 25, 1997.
Item 11. Executive Compensation
The information required herein is incorporated by reference in the
Registrant's Proxy Statement from pages 6 to 8 filed March 25, 1997.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required herein is incorporated by reference in the
Registrant's Proxy Statement at page 2 filed as March 25, 1997.
Item 13. Certain Relationships and Related Transactions
The information required herein is incorporated by reference in the
Registrant's Proxy Statement at page 9 filed as March 25, 1997.
13
<PAGE>
Part IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(A) Documents filed as part of this report
(1.) The Annual Report to Stockholders of the Registrant for the year
ended December 31, 1996.
(2.) All schedules are omitted because they are not applicable or the
required information is shown in the financial statements or
notes thereto.
(3.) Exhibits, pursuant to Item 601 of Regulation S-K.
Exhibit Number Referred to
Item 601 of Regulation S-K Description of Exhibit
3A Articles of Incorporation filed on March
31, 1989, at Exhibit 3A to Form 10-K for
the fiscal year ended December 31, 1988
(No. 0-16667) and hereby incorporated by
reference
3B Amended By-laws of the Registrant filed on
January 8, 1990, at Item 7C to Form 8-K,
date of report, January 3, 1990 (No.
0-16667) and hereby incorporated by
reference
3D Amended Articles of Incorporation filed on
May 2, 1990, at Item 7C to Form 8-K, date
of report, April 26, 1990 (No. 0-16667) and
hereby incorporated by reference
3E Amended by-laws of the Registrant filed on
July 20, 1990, at Item 7C to Form 8-K, date
of report July 18, 1990 (No. 0-16667) and
hereby incorporated by reference
10 Employee agreement between Downingtown
National Bank and Henry F. Thorne, the
written description of which is
incorporated by reference to the Proxy
Statement for the Annual Meeting to be held
April 22, 1997
13 Annual Report to Stockholders for the year
ended December 31, 1996 (This document
shall be deemed to have been "Filed" only
to the extent of the material incorporated
herein by reference)
21 List of Subsidiaries, Form 10-K for the
fiscal year ended December 31, 1996 (No.
0-16667) and hereby incorporated by
reference
22 Proxy Statement for the Annual Meeting of
Stockholders to be held April 22, 1997 and
hereby incorporated by reference
24 Consent of Independent Certified Public
Accountants dated March 25, 1997 to S-8
Registration Statement
14
<PAGE>
(B) Reports on Form 8-K
Not applicable
(C) The exhibits required to be filed pursuant to this item are
listed above under Item 14(a)(3).
(D) Not Applicable
<PAGE>
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.
DNB FINANCIAL CORPORATION
March 25, 1997
BY: /s/ Henry F. Thorne
Henry F. Thorne, President and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Form 10-K has been signed below by the following persons and on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ Henry F. Thorne March 25, l997
Henry F. Thorne, President,
Chief Executive Officer and Director
/s/ Bruce E. Moroney March 25, 1997
Bruce E. Moroney
Chief Financial Officer
(Principal Accounting Officer)
/s/ Robert J. Charles March 25, 1997
Robert J. Charles
Chairman of the Board
/s/ Vernon J. Jameson March 25, 1997
Vernon J. Jameson
Vice-Chairman of the Board
/s/ Paul F. DiMatteo March 25, 1997
Paul F. DiMatteo
Director
/s/ I. Newton Evans, Jr. March 25, 1997
I. Newton Evans, Jr.
Director
/s/ Thomas R. Greenleaf March 25, 1997
Thomas R. Greenleaf
Director
/s/ Louis N. Teti March 25, 1997
Louis N. Teti
Director
/s/ James H. Thornton March 25, 1997
James H. Thornton
Director
16
DNB FINANCIAL CORPORATION AND SUBSIDIARY
<TABLE>
<CAPTION>
SELECTED FINANCIAL DATA
(Dollars in thousands, except per share data)
At or For the Year Ended December 31
1996 1995 1994 1993 1992
<S> <C> <C> <C> <C> <C>
RESULTS OF OPERATIONS
Interest income.................................. $ 15,162 $ 13,996 $ 11,699 $ 11,643 $ 14,199
Interest expense................................. 6,459 5,788 4,209 4,974 6,991
-------- -------- -------- -------- --------
Net interest income.............................. 8,703 8,208 7,490 6,669 7,208
Provision for possible loan losses............... -- -- -- 63 2,986
Non-interest income ............................. 896 814 900 1,060 680
Non-interest expense............................. 6,623 6,983 7,070 6,731 6,939
-------- -------- -------- -------- --------
Income (loss) before income taxes................ 2,976 2,039 1,320 935 (2,037)
Income tax expense .............................. 658 169 -- 234 --
-------- -------- -------- -------- --------
Net income (loss)................................ $ 2,318 $ 1,870 $ 1,320 $ 701 $ (2,037)
======= ======= ======= ===== ========
FINANCIAL CONDITION
Total assets..................................... $207,128 $188,781 $166,268 $168,561 $183,093
Loans, less unearned income...................... 121,573 117,886 112,925 104,868 112,610
Allowance for possible loan losses............... 5,112 5,515 5,645 6,000 6,100
Deposits ........................................ 178,424 165,009 150,926 156,412 170,696
Stockholders' equity............................. 16,216 14,355 12,556 11,302 10,601
PER SHARE DATA*
Net income (loss)................................ $ 3.35 $ 2.71 $ 1.91 $ 1.01 $ (2.95)
Cash dividends declared.......................... 0.52 0.18 0.09 -- --
Book value....................................... 23.45 20.76 18.16 16.35 15.33
Shares outstanding............................... 691,422 691,422 691,422 691,422 691,422
SELECTED RATIOS
Return on average stockholders' equity........... 15.35% 14.01% 11.17% 6.40% (18.15)%
Return on average assets......................... 1.18 1.04 0.78 0.41 (1.10)
Average equity to average assets................. 7.65 7.40 6.99 6.38 6.13
Loans to deposits................................ 68.14 71.44 74.82 67.05 65.97
Dividend payout ratio............................ 15.63 6.71 4.76 -- --
* Per share data and shares outstanding have been adjusted for stock
dividends in 1996, 1995 and 1994.
Downingtown National Bank 1
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
The following discussion provides an overview of the financial condition
and results of operations of DNB Financial Corporation (the "Corporation" or
"DNB") and its wholly owned subsidiary, Downingtown National Bank (the "Bank")
and should be read in conjunction with the Corporation's consolidated financial
statements presented elsewhere in this annual report.
RESULTS OF OPERATIONS
Summary of Performance
In 1996, DNB continued to demonstrate strong growth in operating income.
Improved net interest income, increased non-interest income and lower expense
ratios all contributed to the growth. For the year ended December 31, 1996, DNB
reported net income of $2.3 million or $3.35 per share. This compares to a
profit of $1.9 million or $2.71 per share in 1995 and a profit of $1.3 million
or $1.91 per share in 1994. Earnings before taxes in 1996 increased 46% to $3.0
million from $2.0 million in 1995 and $1.3 million in 1994.
Selective loan and deposit growth, along with a continued reduction in
non-performing assets, helped improve net interest income for the third
consecutive year. Net interest income for 1996 increased $495,000 to $8.7
million from $8.2 million in 1995 and $7.5 million in 1994. Non-performing
assets declined $802,000 or 16% to $4.3 million in 1996 from $5.1 million in
1995.
During 1996, non-interest income and non-interest expenses improved as DNB
realized benefits from sales of other real estate owned, lower FDIC insurance
premiums, reduced cost of information processing equipment and various cost
savings measures instituted by management. Non-interest income increased $82,000
or 10% to $896,000 in 1996, compared to $814,000 in 1995 and $900,000 in 1994.
Non-interest expenses decreased $360,000 or 5% to $6.6 million in 1996 from $7.0
million in 1995 and $7.1 million in 1994.
The following table sets forth selected quarterly financial data and
earnings per share for the periods indicated. Per share data have been adjusted
for the five percent (5%) stock dividends declared in 1996 and 1995.
Net Interest Income
DNB's earnings performance is primarily dependent upon its level of net
interest income, which is the excess of interest earned on loans, investments
and Federal funds sold over interest expense on deposits and other borrowings.
CONSOLIDATED QUARTERLY FINANCIAL DATA
(Dollars in thousands, except per share data)
</TABLE>
<TABLE>
<CAPTION>
1996 1995
Fourth Third Second First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income......................... $3,911 $3,856 $3,760 $3,635 $3,728 $3,548 $3,501 $3,219
Interest expense........................ 1,679 1,645 1,572 1,563 1,609 1,515 1,416 1,248
------ ------ ------ ------ ------ ------ ------ ------
Net interest income..................... 2,232 2,211 2,188 2,072 2,119 2,033 2,085 1,971
Provision for possible loan losses...... -- -- -- -- -- -- -- --
Non-interest income..................... 274 238 191 193 205 203 197 209
Non-interest expense................... 1,660 1,613 1,642 1,708 1,706 1,611 1,866 1,800
------ ------ ------ ------ ------ ------ ------ ------
Income before income taxes.............. 846 836 737 557 618 625 416 380
Income tax expense...................... 230 185 140 103 94 75 -- --
------ ------ ------ ------ ------ ------ ------ ------
Net income.............................. $ 616 $ 651 $ 597 $ 454 $ 524 $ 550 $ 416 $ 380
====== ====== ====== ====== ====== ====== ====== ======
Net income per share.................... $ 0.89 $ 0.94 $ 0.86 $ 0.66 $ 0.76 $ 0.80 $ 0.60 $ 0.55
====== ====== ====== ====== ====== ====== ====== ======
Dividends declared per share............ $ 0.14 $ 0.14 $ 0.14 $ 0.10 $ 0.05 $ 0.05 $ 0.05 $ 0.05
====== ====== ====== ====== ====== ====== ====== ======
</TABLE>
4 Downingtown National Bank
<PAGE>
During 1996, net interest income increased $495,000 or 6% to $8.7 million
from $8.2 million in 1995. As shown in the Rate/Volume Analysis below, the
increase in net interest income during 1996 was due to the positive effects of
changes in volume, and to a lesser degree by the changes in rates. The positive
impact from volume was largely attributable to a $12.7 million increase in
average investment securities as well as a $2.3 million increase in average
Federal funds sold and a $1.3 million increase in average loans. The positive
impact of these volume changes was considerably offset by average balance
increases of $11.4 million and $3.9 million of time deposits and repurchase
agreements, respectively. The positive impact from change in rates was due to an
improved yield on investment securities. In addition, reduced rates on
repurchase agreements and savings deposits also had a positive impact on net
interest income.
During 1995, net interest income increased $718,000 or 10% to $8.2 million
from $7.5 million in 1994. The increase in net interest income during 1995 was
largely attributable to the positive effects of changes in rate and to a lesser
degree by the changes in volume. The positive impact from rates was attributable
to an improved yield on the securities portfolio as short term securities
matured and were reinvested at higher yields. In addition, the yield on the loan
portfolio increased due to new originations at higher rates, a weighted average
increased yield on prime and treasury-based loans and a reduction in the level
of non-performing loans. The increased interest income due to rates was
partially offset by an $893,000 increase in time deposits expense attributable
to rates. The positive impact from volume was attributable to higher volumes of
loans ($9.1 million on average) and securities ($4.0 million on average), offset
by an increase in the volume of time deposits ($15.6 million on average) and
repurchase agreements ($4.6 million on average).
The following tables set forth, among other things, the extent to which
changes in interest rates and changes in the average balances of
interest-earning assets and interest-bearing liabilities have affected interest
income and expense during 1996 and 1995. For each category of interest-earning
assets and interest-bearing liabilities, information is provided with respect to
changes attributable to: (i) changes in rate (change in rate multiplied by old
volume) and (ii) changes in volume (change in volume multiplied by old rate).
The net change attributable to the combined impact of rate and volume has been
allocated proportionately to the change due to rate and the change due to
volume.
RATE / VOLUME ANALYSIS
(Dollars in thousands)
<TABLE>
<CAPTION>
1996 Versus 1995 1995 Versus 1994
Change Due To Change Due To
Rate Volume Total Rate Volume Total
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans......................................... $ (47) $ 119 $ 72 $ 447 $ 807 $1,254
Investment securities......................... 130 861 991 776 211 987
Federal funds sold............................ (19) 122 103 92 (37) 55
----- ----- -------- ------- ------- ------
Total...................................... $ 64 $1,102 $1,166 $1,315 $ 981 $2,296
----- ----- -------- ------- ------- ------
Interest-bearing liabilities:
NOW, money market and
savings deposits........................... $ (118) $ (14) $ (132) $ (51) $ (237) $ (288)
Time deposits................................. -- 628 628 893 724 1,617
Federal funds purchased....................... (1) (4) (5) 3 (4) (1)
Repurchase agreements......................... (15) 195 180 14 236 250
----- ----- -------- ------- ------- ------
Total...................................... (134) 805 671 859 719 1,578
----- ----- -------- ------- ------- ------
Net interest income ............................. $ 198 $ 297 $ 495 $ 456 $ 262 $ 718
===== ===== ======== ======= ======= ======
</TABLE>
Downingtown National Bank 5
<PAGE>
The following table provides, for the periods indicated, information
regarding: (i) DNB's average balance sheet; (ii) the total dollar amounts of
interest income from interest-earning assets and the resulting average yields
(tax-exempt yields have not been adjusted to a tax equivalent basis); (iii) the
total dollar amounts of interest expense on interest-bearing liabilities and the
resulting average costs; (iv) net interest income; (v) net interest rate spread;
and (vi) net interest margin. Average balances were calculated based on daily
balances. Nonaccrual loan balances are included in total loans. Loan fees are
included in interest on total loans.
AVERAGE BALANCES, RATES, AND INTEREST INCOME AND EXPENSE
(Dollars in thousands)
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
ASSETS
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Investment securities:
Taxable.................. $ 61,394 $ 4,179 6.81% $ 48,683 $ 3,187 6.55% $ 44,623 $ 2,198 4.93%
Tax-exempt............... -- -- -- 8 1 6.00 58 3 5.17
------ ----- ---- ------ ----- ---- ------ ----- ----
Total securities............ 61,394 4,179 6.81 48,691 3,188 6.55 44,681 2,201 4.93
Federal funds sold.......... 7,888 426 5.40 5,604 323 5.76 7,235 267 3.69
Total loans................. 117,506 10,557 8.98 116,177 10,485 9.03 106,943 9,231 8.63
------ ----- ---- ------ ----- ---- ------ ----- ----
Total interest-earning
assets................... 186,788 15,162 8.12 170,472 13,996 8.21 158,859 11,699 7.36
Non-interest-earning
assets................... 10,790 9,776 10,048
-------- -------- --------
Total assets ............... $197,578 $180,248 $168,907
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities:
NOW, money market
and savings deposits.. $ 74,189 $ 1,902 2.56% $ 74,750 $ 2,035 2.72% $ 83,419 $ 2,324 2.79%
Time deposits............ 74,485 4,111 5.52 63,104 3,483 5.52 47,501 1,865 3.93
-------- ------- ---- -------- ------- ---- -------- ------- ----
Total interest-bearing
deposits................. 148,674 6,013 4.04 137,854 5,518 4.00 130,920 4,189 3.20
Federal funds purchased..... 52 3 5.77 118 8 6.78 174 9 5.17
Repurchase agreements....... 8,858 443 5.00 4,954 262 5.29 385 11 2.86
-------- ------- ---- -------- ------- ---- -------- ------- ----
Total interest-bearing
liabilities.............. 157,584 6,459 4.10 142,926 5,788 4.05 131,479 4,209 3.20
Demand deposits............. 23,473 22,682 24,654
Other liabilities........... 1,420 1,295 961
Stockholders' equity........ 15,101 13,345 11,813
-------- -------- --------
Total liabilities and
stockholders' equity .... $197,578 $180,248 $168,907
======== ======== ========
Net interest income......... $ 8,703 $ 8,208 $ 7,490
======= ======= =======
Interest rate spread........ 4.02% 4.16% 4.16%
==== ==== ====
Net interest margin......... 4.66% 4.81% 4.71%
==== ==== ====
</TABLE>
6 Downingtown National Bank
<PAGE>
Provision for Possible Loan Losses
To provide for, or to absorb, potential losses inherent in the loan
portfolio, DNB maintains an allowance for possible loan losses. To maintain an
adequate allowance, management charges the provision for possible loan losses
against income. Nominal provisions were made during the three years ended
December 31, 1996, based on available information and continuing improvement in
the quality of the loan portfolio. Effective workout strategies, a reduction in
assets classified by internal loan review, and a substantial reduction in the
level of non-performing assets, eliminated the need to make additional
provisions. As a result of improved asset quality, the ratio of the allowance
for possible loan losses to non-performing loans improved to 156% at December
31, 1996 from 129% at December 31, 1995 and 102% at December 31, 1994.
Non-Interest Income
Total non-interest income includes service charges on deposit products;
fees received by DNB's Trust and Investment Services Division; and other less
significant sources of income such as fees for safe deposit box rentals, issuing
travelers' checks and money orders, collecting bills for local municipalities
and similar activities.
Non-interest income was $896,000 in 1996, compared to $814,000 in 1995 and
$900,000 in 1994. During 1996, DNB recognized net gains of $41,000 on the sale
of other real estate owned ("OREO") and rental income of approximately $47,000
on OREO properties. The decline in 1995 was primarily attributable to a
reduction in service charges on deposit accounts and other income.
The Trust and Investment Services Division continues to increase its
assets under management. Trust assets were $61.1 million, $52.6 million and
$51.5 million at the end of 1996, 1995 and 1994, respectively. This increase,
along with a higher fee schedule and increased estate settlements, contributed
to revenues of $306,000, $298,000 and $286,000 during 1996, 1995 and 1994,
respectively.
Non-Interest Expense
Non-interest expense includes salaries & employee benefits, occupancy,
FDIC insurance, professional & consulting fees as well as printing & supplies,
insurance, advertising and other less significant expense items. During 1996,
management continued to focus on controlling non-interest expenses by monitoring
staffing levels, reviewing service contracts and implementing cost reduction
methods throughout the Bank.
Non-interest expenses were $6.6 million in 1996, compared to $7.0 million
and $7.1 million in 1995 and 1994. This decline of $360,000 or 5% was due
primarily to reduced FDIC insurance, furniture & equipment, professional &
consulting, and other insurance expenses along with lower salaries & employee
benefits and printing & supplies expense. Postage, occupancy and other expenses
increased a combined $110,000, partially offsetting the decreases mentioned
above.
Salaries & employee benefits expense totaled $3.6 million in 1996,
compared to $3.7 million in 1995 and $3.4 million in 1994. DNB operated with
less full-time equivalent employees in 1996 than in 1995, primarily as a result
of the introduction of Check Imaging in the third quarter of 1995. In addition,
DNB recognized a $31,000 benefit from a hospitalization insurance rebate. The
marginal increases in 1995 and 1994 were caused by normal merit increases and
additional expenditures in benefit and incentive plans offered by DNB.
FDIC insurance decreased $208,000 to $49,000 in 1996 compared to $256,000
and $441,000 in 1995 and 1994. The reduction in FDIC insurance premiums was the
result of lower insurance rates due to the recapitalization by the Bank
Insurance Fund ("BIF") as it reached its required level of 1.25% of BIF insured
deposits in 1995.
Furniture and equipment expense decreased $119,000 to $665,000 in 1996,
compared to $783,000 and $807,000 in 1995 and 1994. Furniture and equipment
expense for 1995 included the added cost of running dual processing systems for
an extended testing period during several hardware and software conversions.
Professional & consulting expense decreased approximately $41,000 to
$317,000 in 1996, compared to $359,000 and $403,000 in 1995 and 1994.
Professional & consulting expense in 1995 included professional and legal
services associated with DNB's Stock Option Plan as well as for costs associated
with strategic planning. There were no such expenses in 1996. The decrease in
1995 from 1994 related to a reduced level of professional services for data
processing and human resources.
Insurance expenses, which include DNB's fidelity bond, commercial package,
workers compensation and directors' & officers' liability coverages, decreased
$52,000 to $111,000 in 1996, compared to $163,000 and $229,000 in 1995 and 1994.
Insurance expense continues
Downingtown National Bank 7
<PAGE>
to decrease as DNB recognizes the full benefit from lower premium quotes
obtained during 1995 and 1996.
Other expenses include such items as OREO expense, satisfaction fees,
appraisal fees, telephone and other miscellaneous expenses. Other expenses
increased $73,000 to $695,000 in 1996, compared to $622,000 and $641,000 in 1995
and 1994. The increase in this category was primarily caused by additional costs
incurred to manage and insure DNB's OREO properties.
Income Taxes
Income tax expense was $658,000 in 1996, $169,000 in 1995, and $0 in 1994.
DNB has deferred tax assets, largely attributable to the allowance for possible
loan losses and alternative minimum tax credit carryforwards. These benefits
reduced DNB's effective tax rate to 22%, 8% and 0% for the years ended December
31, 1996, 1995 and 1994, respectively.
FINANCIAL CONDITION ANALYSIS
Investment Securities
DNB's investment portfolio consists of US agency securities,
mortgage-backed securities issued by US Government agencies, commercial paper,
certificates of deposit and other bonds and notes. In addition to generating
revenue, DNB maintains the investment portfolio to manage interest rate risk,
provide liquidity, provide collateral for borrowings and to diversify the credit
risk of earning assets. The portfolio is structured to maximize DNB's net
interest income given changes in the economic environment, liquidity position
and balance sheet mix.
Given the nature of the portfolio, and its generally high credit quality,
management expects to realize all of its investment upon the maturity of such
instruments, and believes that any market value decline is temporary in nature.
Management determines the appropriate classification of securities at the time
of purchase. Investment securities are classified as: (a) securities held to
maturity ("HTM") based on management's intent and ability to hold them to
maturity; (b) trading account ("TA") securities that are bought and held
principally for the purpose of selling them in the near term; and (c) securities
available for sale ("AFS").
Securities classified as AFS include securities that may be sold in
response to changes in interest rates, changes in prepayment assumptions, the
need to increase regulatory capital or other similar requirements. Such
securities generally are of high quality (treasuries, government agencies, etc.)
with relatively short maturities. DNB does not necessarily intend to sell such
securities, but has classified them as AFS to provide flexibility to respond to
unforeseen changes in the economy.
The Financial Accounting Standards Board ("FASB") released a special
report in 1995 entitled "A Guide to Implementation of Statement 115 on
Accounting for Certain Investments in Debt and Equity Securities." This guide
contained a provision which allowed a one-time reclassification of securities
previously classified as HTM to the AFS portfolio. Management believed that it
was appropriate to take advantage of this reclassification opportunity since a
bank's ability to manage overall risk is enhanced by having a larger AFS
portfolio. Accordingly, DNB reclassified securities with a book value of $12.8
million and recognized unrealized gains of $103,000 and unrealized losses of
$58,000 to the AFS portfolio on December 29, 1995.
DNB's investment portfolio (HTM and AFS securities) totaled $70.6 million
at December 31, 1996, up from $51.8 million at December 31, 1995. The increase
was caused in part by the purchase of additional short term, fixed income
securities, primarily funded through repurchase agreements and increases in time
deposits.
The following tables set forth information regarding the composition,
stated maturity and average yield of DNB's investment security portfolio as of
the dates indicated. The first two tables do not include amortization or
anticipated prepayments on mortgage-backed securities. Callable US Government
agency securities are placed at their stated maturity dates.
8 Downingtown National Bank
<PAGE>
INVESTMENT MATURITY SCHEDULE, INCLUDING WEIGHTED AVERAGE YIELD
(Dollars in thousands)
<TABLE>
<CAPTION>
Over 10 Years
Less than or No Stated
Held to Maturity 1 Year 1-5 Years 5-10 Years Maturity Total Yield
<S> <C> <C> <C> <C> <C> <C>
US Government agency and
corporations .......... $501 $13,959 $16,837 $4,607 $35,904 7.0%
Mortgage-backed securities -- 1,612 795 4,904 7,311 6.6
Other securities ......... 4,508 122 -- 1,026 5,656 5.7
------ ------- ------- ------- -------
Total .................... $5,009 $15,693 $17,632 $10,537 $48,871
====== ====== ==== ====== =======
Percent of portfolio ..... 11% 32% 36% 21% 100%
====== ====== ==== ====== =======
Weighted average yield ... 5.6% 6.7% 7.4% 6.4% 6.8%
====== ====== ==== ====== =======
Over 10 Years
Less than or No Stated
Available for Sale 1 Year 1-5 Years 5-10 Years Maturity Total Yield
US Government agency and
corporations ........... $9,003 $4,492 $980 $499 $14,974 6.5%
Mortgage-backed securities -- 2,055 -- 4,650 6,705 5.8
------ ------ ---- ------ -------
Total .................... $9,003 $6,547 $980 $5,149 $21,679
====== ====== ==== ====== =======
Percent of portfolio ..... 42% 30% 4% 24% 100%
====== ====== ==== ====== =======
Weighted average yield ... 6.5% 6.1% 6.7% 6.0% 6.3%
====== ====== ==== ====== =======
</TABLE>
COMPOSITION OF INVESTMENT SECURITIES
(Dollars in thousands)
<TABLE>
<CAPTION>
December 31
1996 1995
Held to Available Held to Available
Maturity for Sale Maturity for Sale
<S> <C> <C> <C> <C>
US Treasury............................................. $-- $-- $-- $ 2,996
US Government agency and corporations .................. 35,904 14,974 26,030 4,477
Mortgage-backed securities ............................. 7,311 6,705 10,688 5,866
Other securities ....................................... 5,656 -- 1,733 --
------- ------- ------- -------
Total................................................... $48,871 $21,679 $38,451 $13,339
------- ------- ------- -------
</TABLE>
Downingtown National Bank 9
<PAGE>
Loans
The loan portfolio consists primarily of commercial and residential real
estate loans, commercial loans and lines of credit, consumer loans and, to a
lesser degree, student loans. The loan portfolio provides a stable source of
interest income, monthly amortization of principal and, in the case of
adjustable rate loans, repricing opportunities.
Net loans were $116.5 million at December 31, 1996, up $4.1 million or 4%
from 1995. Commercial mortgage loans increased $3.0 million or 7% to $45.9
million as DNB increased its commitments to new and existing local developers
for single-family housing projects. To the extent possible, management intends
to reinvest portions of the investment securities portfolio (primarily sales
from the AFS portfolio as well as maturities and principal payments from the HTM
portfolio) into the loan portfolio during 1997 in a continuing effort to improve
DNB's net interest margin.
The following table sets forth information concerning the composition of
total loans outstanding, net of the allowance for possible loan losses, as of
the dates indicated.
TOTAL LOANS OUTSTANDING, NET OF ALLOWANCE FOR POSSIBLE LOAN LOSSES
(Dollars in thousands)
<TABLE>
<CAPTION>
December 31
1996 1995 1994 1993 1992
<S> <C> <C> <C> <C> <C>
Residential mortgage.............................. $ 17,658 $ 19,009 $ 18,617 $ 24,350 $ 37,668
Commercial mortgage .............................. 45,907 42,945 43,900 45,622 35,758
Commercial........................................ 29,970 28,803 22,958 21,763 23,974
Consumer ......................................... 25,325 24,110 24,214 9,885 11,925
Student......................................... 2,712 3,019 3,236 3,248 3,285
-------- -------- -------- -------- --------
Total loans....................................... 121,572 117,886 112,925 104,868 112,610
Less allowance for possible loan losses........... (5,112) (5,515) (5,645) (6,000) (6,100)
-------- -------- -------- -------- --------
Net loans......................................... $116,460 $112,371 $107,280 $ 98,868 $106,510
======== ======== ======== ======== ========
</TABLE>
The following table sets forth information as of December 31, 1996
concerning the contractual maturities of the loan portfolio, net of unearned
discount. For amortizing loans, scheduled repayments for the maturity category
in which the payment is due are not reflected below because such information is
not readily available.
LOAN MATURITIES
(Dollars in thousands)
<TABLE>
<CAPTION>
Less than 1 Year 1-5 Years Over 5 Years Total
<S> <C> <C> <C> <C>
Real estate................................................ $15,837 $31,566 $16,162 $ 63,565
Commercial................................................. 29,167 263 540 29,970
Consumer................................................... 1,868 8,909 14,548 25,325
Student................................................... 20 394 2,298 2,712
------- ------- ------- --------
Total loans................................................ $46,892 $41,132 $33,548 $121,572
======= ======= ======= ========
Loans with predetermined interest rates................... $12,377 $15,127 $31,446 $ 58,950
Loans with variable interest rates......................... 34,515 26,005 2,102 62,622
------- ------- ------- --------
Total loans................................................ $46,892 $41,132 $33,548 $121,572
======= ======= ======= ========
</TABLE>
10 Downingtown National Bank
<PAGE>
Non-Performing Assets
Asset quality improved significantly for the fourth consecutive year as
the level of non-performing assets at December 31, 1996 declined $802,000 or 16%
to $4.3 million from $5.1 million at December 31, 1995 and from $6.0 million at
December 31, 1994. The improvement resulted from a concentrated effort to reduce
the levels of such assets through workout strategies and vigilant monitoring of
weakened credits. Current economic conditions are favorable for DNB, which has a
significant level of commercial, real estate and consumer loans. In order to
improve asset quality and position DNB for possible economic downturns in the
future, management has tightened underwriting standards and has made
improvements in DNB's lending policies and procedures during the last four
years. Non-performing assets have, and will continue to have, an impact on
earnings. Management intends to continue working aggressively in an effort to
reduce the level of such assets.
Non-performing assets are comprised of nonaccrual loans, loans delinquent
over ninety days and still accruing, troubled debt restructurings ("TDRs") and
other real estate owned ("OREO"). Nonaccrual loans are loans on which the
accrual of interest ceases when the collection of principal or interest payments
is determined to be doubtful by management. It is the policy of DNB to
discontinue the accrual of interest when principal or interest payments are
delinquent 90 days or more (unless the loan principal and interest are
determined by management to be fully secured and in the process of collection),
or earlier, if considered prudent. Interest received on such loans is applied to
the principal balance, or may in some instances be recognized as income on a
cash basis. OREO includes both real estate obtained as a result of, or in lieu
of, foreclosure. Any significant change in the level of non-performing assets is
dependent, to a large extent, on the economic climate within DNB's markets.
The following table sets forth those assets that are: (i) placed on
nonaccrual status, (ii) contractually delinquent by 90 days or more and still
accruing, (iii) troubled debt restructurings other than those included in items
(i) and (ii), and (iv) other real estate owned ("OREO") as a result of
foreclosure or voluntary transfer to DNB.
NON-PERFORMING ASSETS
(Dollars in thousands)
<TABLE>
<CAPTION>
December 31
1996 1995 1994 1993 1992
<S> <C> <C> <C> <C> <C>
Nonaccrual loans:
Residential mortgage.............................. $ 743 $1,355 $1,790 $3,114 $ 1,716
Commercial mortgage............................... 1,315 1,832 1,872 3,035 4,008
Commercial........................................ 650 722 1,551 1,790 3,809
Consumer.......................................... 187 237 197 419 2,580
------ ------ ------ ------ -------
Total nonaccrual loans............................... 2,895 4,146 5,410 8,358 12,113
Consumer loans 90 days past due
and still accruing............................... 194 129 112 87 40
Troubled debt restructurings......................... 184 -- 40 297 351
------ ------ ------ ------ -------
Total non-performing loans........................... 3,273 4,275 5,562 8,742 12,504
Other real estate owned.............................. 1,010 810 445 635 314
------ ------ ------ ------ -------
Total non-performing assets.......................... $4,283 $5,085 $6,007 $9,377 $12,818
====== ====== ====== ====== =======
Asset quality ratios:
Non-performing loans to total loans.................. 2.69% 3.63% 4.93% 8.34% 11.10%
Non-performing assets to total assets................ 2.07 2.69 3.61 5.56 7.00
Allowance for possible loan losses to:
Total loans....................................... 4.20 4.68 5.00 5.72 5.42
Non-performing loans.............................. 156.19 129.02 101.50 68.64 48.78
Non-performing assets............................. 119.36 108.46 93.98 63.99 47.59
</TABLE>
Downingtown National Bank 11
<PAGE>
The Special Assets Committee monitors the performance of the loan
portfolio to identify potential problem assets on a timely basis. In addition,
committee members meet to design and implement asset recovery strategies which
serve to maximize the recovery of each troubled asset. DNB had $7.2 million of
loans which, although performing at December 31, 1996, are believed to require
increased supervision and review; and may, depending on the economic environment
and other factors, become non-performing assets in future periods. The amount of
such loans at December 31, 1995 was $9.1 million. The majority of the loans are
secured by commercial real estate, with lesser amounts being secured by
residential real estate, inventory and receivables.
Allowance for Possible Loan Losses
The allowance for possible loan losses is increased by the provision for
possible loan losses which is charged to operations. Loan losses are charged
directly against the allowance and recoveries on previously charged-off loans
are added to the allowance.
In establishing its allowance for possible loan losses, management
considers the size and risk exposure of each segment of the loan portfolio, past
loss experience, present indicators of risk such as delinquency rates, levels of
nonaccruals, the potential for losses in future periods, and other relevant
factors. Management's evaluation of the loan portfolio generally includes
reviews of individual borrowers with aggregate balances of $300,000 or greater
and reviews of problem borrowers of $100,000 or greater. Consideration is also
given to examinations performed by regulatory agencies, primarily the Office of
the Comptroller of the Currency ("OCC"). The provisions are based on
management's review of the economy, interest rates, general market conditions,
estimates of the fair value of collateral, financial strength and ability of the
borrowers and guarantors to pay, and considerations regarding the current and
anticipated operating or sales environment. These estimates are particularly
susceptible to change and may result in a material adjustment to the allowance.
While management uses the latest information available to make its evaluation of
the adequacy of the allowance, future adjustments may be necessary if conditions
differ substantially from the assumptions used in making the evaluations.
There were only nominal provisions made during the three years ended
December 31, 1996, due to a reduction of internally classified assets,
recoveries of prior charge-offs, as well as a further reduction in the level of
non-performing assets. Net loan charge-offs were $402,000 in 1996, compared to
$131,000 in 1995 and $355,000 in 1994. The percentage of net charge-offs to
total average loans was .34%, .11% and .32% during 1996, 1995 and 1994,
respectively.
The following table sets forth the changes in DNB's allowance for possible
loan losses for the years indicated. Real estate includes both residential and
commercial real estate.
ANALYSIS OF ALLOWANCE FOR POSSIBLE LOAN LOSSES
(Dollars in thousands)
Year Ended December 31
<TABLE>
<CAPTION>
1996 1995 1994 1993 1992
<S> <C> <C> <C> <C> <C>
Beginning balance... $5,515 $5,645 $6,000 $6,100 $4,199
Provisions.......... -- -- -- 63 2,986
Loans charged off:
Real estate......... (454) (25) (280) (344) (559)
Commercial.......... (50) (124) (140) (78) (388)
Consumer............ (30) (164) (77) (112) (319)
------ ------ ------ ------ ------
Total charged off... (534) (313) (497) (534) (1,266)
------ ------ ------ ------ ------
Recoveries:
Real estate......... 38 86 3 75 18
Commercial.......... 48 24 43 87 37
Consumer...... 45 73 96 209 126
------ ------ ------ ------ ------
Total recoveries 131 183 142 371 181
------ ------ ------ ------ ------
Ending balance...... $5,112 $5,515 $5,645 $6,000 $6,100
------ ------ ------ ------ ------
</TABLE>
In determining the adequacy of the allowance, DNB utilizes a methodology
which includes an analysis of historical loss experience for the commercial real
estate, commercial, residential real estate, home equity and consumer
installment loan pools to determine a historical loss factor. The historical
loss factors are then applied to the current portfolio balances to determine the
required reserve percentage for each loan pool based on risk rating. In
addition, specific allocations are established for loans where loss is probable
and reasonably identifiable, based on management's judgment and an evaluation of
the individual credit, which includes various factors mentioned above. The
allocated portion of the reserve is then determined as a result of an analysis
of the loan pools and specific allocations.
12 Downingtown National Bank
<PAGE>
During 1994, management revised its methodology for evaluating the
adequacy and allocation of the allowance to include additional historical data.
Although it did not affect the total amount of the allowance for possible loan
losses, this change in method resulted in a substantial increase in the
unallocated portion and a much lower allocation in the real estate and
commercial sectors. Management did not change prior year estimates of the
allocation, based upon the revised methodology. This same methodology was used
in 1996 and 1995.
The following table sets forth the composition of DNB's allowance for
possible loan losses at the dates indicated. The portion allocated to each
category is generally not the total amount available for future losses that
might occur within such categories. The allocation of the allowance should also
not be interpreted as an indication that charge-offs will occur in these amounts
or proportions. The specific allocations in any particular category may prove
excessive or inadequate and consequently may be reallocated in the future to
reflect current conditions. Accordingly, management considers the entire
allowance to be available to absorb losses in any category.
COMPOSITION OF ALLOWANCE FOR POSSIBLE LOAN LOSSES
(Dollars in thousands)
<TABLE>
<CAPTION>
December 31
1996 1995 1994 1993 1992
Percent of Percent of Percent of Percent of Percent of
Loan Type to Loan Type to Loan Type to Loan Type to Loan Type to
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate......... $1,405 52% $1,504 53% $1,575 55% $3,060 66% $3,956 64%
Commercial.......... 531 25 590 24 1,223 20 2,171 20 1,320 21
Consumer............ 231 23 289 23 771 25 105 14 541 15
Unallocated......... 2,945 -- 3,132 -- 2,076 -- 664 -- 283 --
------ --- ------ --- ------ --- ------ --- ------ ---
Total............... $5,112 100% $5,515 100% $5,645 100% $6,000 100% $6,100 100%
====== === ====== === ====== === ====== === ====== ===
</TABLE>
Liquidity and Capital Resources
Management maintains liquidity to meet depositors' needs for funds, to
satisfy or fund loan commitments and for other operating purposes. DNB's
foundation for liquidity is a stable and loyal customer deposit base and a
marketable investment portfolio that provides periodic cash flow through regular
maturities and amortization, or that can be used as collateral to secure
funding. DNB's primary source of liquidity is dependent upon its ability to
maintain and expand its customer deposit base. During 1996, deposits increased
$13.4 million or 8% and repurchase agreements increased $3.0 million or 37% to
$11.2 million. The substantial increase in deposits was a result of several
successful time deposit promotions initiated during the first three quarters of
1996. The increase in repurchase agreements resulted from increases in
commercial and public funds.
As of December 31, 1996, deposits totaled $178.4 million, up from $165.0
million at December 31, 1995. Time deposits, which include certificates and IRA
accounts, increased $7.7 million or 11% to $76.7 million. In addition,
non-interest bearing deposits and NOW accounts increased $3.5 million and $3.7
million, respectively. This increase was offset somewhat by declines in savings
accounts and money market accounts of $665,000 and $783,000, respectively.
DNB maintains borrowing arrangements with a correspondent bank and the
Federal Home Loan Bank of Pittsburgh, as well as access to the discount window
at the Federal Reserve Bank of Philadelphia to meet short-term liquidity needs.
Through these relationships, DNB has available short-term credit of
approximately $40 million.
Downingtown National Bank 13
<PAGE>
The following table sets forth the composition of DNB's deposits at the
dates indicated.
DEPOSITS BY MAJOR CLASSIFICATION
(Dollars in thousands)
<TABLE>
<CAPTION>
December 31
1996 1995 1994 1993 1992
<S> <C> <C> <C> <C> <C>
Non-interest-bearing deposits........................ $ 26,429 $ 22,936 $ 24,967 $ 23,087 $ 26,799
Interest-bearing deposits:
NOW................................................ 31,140 27,485 27,688 23,827 23,022
Money market....................................... 15,550 16,333 18,198 27,750 26,728
Savings............................................ 28,559 29,224 31,836 32,123 30,260
Certificates....................................... 63,783 56,533 37,698 38,521 51,615
IRA................................................ 12,963 12,498 10,539 11,104 12,272
-------- -------- -------- -------- --------
Total deposits....................................... $178,424 $165,009 $150,926 $156,412 $170,696
======== ======== ======== ======== ========
</TABLE>
At December 31, 1996, DNB has $3.4 million in commitments to fund
commercial real estate, construction and land development loans. In addition,
there are $765,000 in unfunded home equity lines of credit and $10.2 million in
other unused loan commitments. Management anticipates the majority of these
commitments will be funded by means of normal cash flows. There are $58.6
million of certificates of deposit scheduled to mature during the twelve months
ending December 31, 1997. To meet its funding needs, DNB maintains assets which
comprise its primary liquidity totaling $47.9 million on December 31, 1996.
Primary liquidity includes Federal funds sold, investments and interest-bearing
cash balances, less pledged securities. DNB also anticipates scheduled payments
and prepayments on its loan and mortgage-backed securities portfolios.
Interest Rate Sensitivity Analysis
The largest component of DNB's total income is net interest income, and
the majority of DNB's financial instruments are composed of interest
rate-sensitive assets and liabilities with various terms and maturities. The
primary objective of management is to maximize net interest income while
minimizing interest rate risk. Interest rate risk is derived from timing
differences in the repricing of assets and liabilities, loan prepayments,
deposit withdrawals, and differences in lending and funding rates. The
Asset-Liability Committee ("ALCO") actively seeks to monitor and control the mix
of interest rate-sensitive assets and interest rate-sensitive liabilities.
One measure of interest rate risk is the gap ratio, which is defined as
the difference between the dollar volume of interest-earning assets and
interest-bearing liabilities maturing or repricing within a specified period of
time as a percentage of total assets. A positive gap results when the volume of
interest rate-sensitive assets exceeds that of interest rate-sensitive
liabilities within comparable time periods. A negative gap results when the
volume of interest rate-sensitive liabilities exceeds that of interest
rate-sensitive assets within comparable time periods.
As indicated in the table below, the one year gap position at December 31,
1996 was a negative 8.6%. Generally, a financial institution with a negative gap
position will most likely experience decreases in net interest income during
periods of rising rates and increases in net interest income during periods of
falling interest rates.
The negative gap was brought about in part due to customer preferences for
short-term and floating rate deposit products which caused interest-rate
sensitive liabilities to exceed interest-rate sensitive assets during the
earlier time periods presented. While gap analysis represents a useful
asset/liability management tool, it does not necessarily indicate the effect of
general interest rate movements on DNB's net interest income, due to
discretionary repricing of assets and liabilities, and other competitive
pressures.
DNB reports its callable agency investments ($36.8 million at December 31,
1996) at their Option Adjusted Spread ("OAS") modified duration date, as opposed
to the call or maturity date. In management's opinion, using modified duration
dates on callable agency securities provides a better estimate of the option
14 Downingtown National Bank
<PAGE>
exercise date under any interest rate environment. The OAS methodology is an
approach whereby the likelihood of option exercise takes into account the coupon
on the security, the distance to the call date, the maturity date and current
interest rate volatility. In addition, prepayment assumptions derived from
historical data have been applied to mortgage-related securities, which are
included in investments.
Included in the analysis of the gap position are certain savings deposit
and demand accounts which are less sensitive to fluctuations in interest rates
than other interest-bearing sources of funds. In determining the sensitivity of
such deposits, management reviews the movement of its deposit rates for the past
four years relative to market rates. Using regression analysis, the ALCO
committee has estimated that these deposits are approximately 25-30% sensitive
to interest rate changes (i.e., if short term rates were to increase 100 basis
points, the interest rate on such deposits would increase 25-30 basis points).
The following table sets forth certain information at December 31, 1996
relating to DNB's assets and liabilities by scheduled repricing for adjustable
assets and liabilities, or by contractual maturity for fixed-rate assets and
liabilities.
INTEREST RATE SENSITIVITY ANALYSIS
(Dollars in thousands)
<TABLE>
<CAPTION>
More Than More Than More Than More Than
Six Months One Year Two Years Five Years Ten Years
Under Six Through Through Through Through and
Months One Year Two Years Five Years Ten Years Non-repricing Total
ASSETS
<S> <C> <C> <C> <C> <C> <C> <C>
Cash and due from banks
and Federal funds sold $5,489 $-- $-- $-- $-- $5,980 $11,469
Investments ........... 19,369 11,736 14,159 23,421 868 997 70,550
Loans ................. 39,570 10,237 18,447 34,575 15,865 2,879 121,573
Other assets (net) .... -- -- -- -- -- 3,536 3,536
------- ------- ------- ------- ------- ------- --------
Total assets .......... $64,428 $21,973 $32,606 $57,996 $16,733 $13,392 $207,128
======= ======= ======= ======= ======= ======= ========
LIABILITIES AND EQUITY
Non-interest-bearing
demand ............... $9,060 $-- $5,815 $11,554 $-- $-- $26,429
NOW ................... 9,342 -- 3,114 12,456 6,228 -- 31,140
Money market .......... 4,237 3,539 3,887 3,887 -- -- 15,550
Savings ............... 8,282 -- 3,142 11,423 5,712 -- 28,559
Certificates less
than $100,000 ........ 25,316 26,278 14,196 3,300 -- -- 69,090
Certificates at or more
than $100,000 ........ 4,089 2,942 524 101 -- -- 7,656
------- ------- ------- ------- ------- ------- --------
Total deposits ........ 60,326 32,759 30,678 42,721 11,940 -- 178,424
Repurchase agreements . 11,225 -- -- -- -- -- 11,225
Other liabilities ..... -- -- -- -- -- 1,263 1,263
Stockholders' equity .. -- -- -- -- -- 16,216 16,216
------- ------- ------- ------- ------- ------- --------
Total liabilities and
equity ............... $71,551 $32,759 $30,678 $42,721 $11,940 $17,479 $207,128
======= ======= ======= ======= ======= ======= ========
Gap ................... $(7,123) $(10,786) $1,928 $15,275 $4,793 $(4,087)
======= ======= ======= ======= ======= =======
Cumulative gap ........ $(7,123) $(17,909) $(15,981) $(706) $4,087 $ --
======= ======= ======= ======= ======= =======
Cumulative gap to
total assets ......... (3.4%) (8.6%) (7.7%) (0.3%) 2.0% 0.0%
======= ======= ======= ======= ======= =======
</TABLE>
Downingtown National Bank 15
<PAGE>
In addition to the utilization of gap for interest rate risk management,
the ALCO committee utilizes simulation analysis whereby the model estimates the
variance in net interest income with a change in interest rates of plus or minus
300 basis points over a twelve month period. Given recent simulations, net
interest income would be within policy guidelines regardless of the direction of
market rates.
Capital Resources
Stockholders' equity increased to $16.2 million at December 31, 1996,
primarily as a result of the $2.3 million net income reported for the year.
Management believes that the Corporation and the Bank each have met the
definition of "well capitalized" for regulatory purposes on December 31, 1996
and thereafter. The Bank's capital category is determined for the purposes of
applying the bank regulators' "prompt corrective action" regulations and for
determining levels of deposit insurance assessments and may not constitute an
accurate representation of the Corporation's or the Bank's overall financial
condition or prospects. The Corporation's capital exceeds the FRB's minimum
leverage ratio requirements for bank holding companies (see additional
discussion in Regulatory Matters --Footnote 12).
Regulatory Matters
On February 1, 1996, the OCC informed DNB that it had achieved substantial
compliance with the Bank's voluntary 1992 Consent Order (the "Consent Order"),
and that the Consent Order was terminated. Likewise, on February 12, 1996, the
Federal Reserve Bank ("FRB") terminated the 1993 Memorandum of Understanding
("MOU") which had been entered into between the Corporation and the FRB.
Dividends payable to the Corporation by the Bank are subject to certain
regulatory limitations. Under normal circumstances, the payment of dividends in
any year without regulatory permission is limited to the net profits (as defined
for regulatory purposes) for that year, plus the retained net profits for the
preceding two calendar years.
Interstate Banking -- The Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 (the "Interstate Banking Act"), enacted on September 29,
1994, permits bank holding companies to acquire banks in any state beginning in
1995. Beginning in 1997, acquired banks in different states may be merged into a
single bank, and thereafter merged banks may establish and acquire additional
branches anywhere the acquiree could have branched. States may opt out of
interstate branching until June 1, 1997, but if so, their domestic institutions
will also be prohibited from branching interstate. States may also enact laws
permitting interstate merger transactions and interstate de novo branching
before June 1, 1997. Limited branch purchases are still subject to state laws.
On July 6, 1995, Pennsylvania adopted an interstate banking act (the "PA
Interstate Banking Act") to harmonize Pennsylvania banking laws with the Federal
Interstate Banking Act. The PA Interstate Banking Act "opts in" early under the
Federal Interstate Banking Act to permit interstate mergers, non-Pennsylvania
holding company acquisitions of Pennsylvania banks, branch acquisitions and de
novo branching in any of the manners contemplated by the Federal Interstate
Banking Act, subject to prior regulatory approvals or filings. In general, the
PA Interstate Banking Act permits out-of-state banking institutions to establish
branches in Pennsylvania with the approval of the Pennsylvania Banking
Department, provided the law of the state where the banking institution is
located would permit a Pennsylvania banking institution to establish and
maintain a branch in that state on substantially similar terms and conditions.
It also permits Pennsylvania banking institutions to maintain branches in other
states. Management anticipates that the Interstate Banking Act and the PA
Interstate Banking Act will increase competitive pressures in DNB's market by
permitting entry of additional competitors, but management is of the opinion
that this will not have a material impact upon the anticipated results of
operations of DNB.
Amendments to FDIC Deposit Insurance Assessment Rules -- On November 22,
1996, the Financing Corporation ("FICO") adopted a regulation pursuant to the
1996 Banking Law which obligates all Federally insured depository institutions
to pay special assessments toward the funding of interest payments on FICO bonds
which were issued in 1989 to fund the savings and loan bailout. The special
assessments, which are effective for periods commencing January 1, 1997, will be
calculated on a deposit-by-deposit basis and differs depending upon whether a
deposit is insured by the Savings Association Insurance Fund ("SAIF") or the
16 Downingtown National Bank
<PAGE>
Bank Insurance Fund ("BIF"). For the period commencing January 1, 1997, the
special assessment rates are expected to be 6.4 basis points on all
SAIF-assessable deposits, and 20% of that rate, or approximately 1.3 basis
points, on all BIF-assessable deposits, regardless of whether an institution is
a "bank" or a "savings association". After December 31, 1999 (or when the last
savings association ceases to exist, if earlier), all assessable deposits at all
institutions will be assessed at the same rates in order to pay FICO bond
interest.
On December 6, 1996, the FDIC announced that it would continue the
downward adjustment on deposit insurance assessment rates applicable to BIF
member institutions for the first six months of 1997, and eliminated the
statutory minimum assessment of $1,000 due to the passage of the 1996 Banking
Law.
As a result of these actions, the total semi-annual assessment for BIF
member institutions on BIF-assessable deposits will continue to range from 0 to
27 basis points (depending upon an institution's risk classifications), plus the
special FICO assessment, which in DNB's case is approximately 1.3 basis points
on DNB's assessable deposits.
Recent Accounting Pronouncements
In June 1996, the FASB issued SFAS No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities ("SFAS No.
125"). This statement supersedes and amends certain existing standards by
providing consistent standards for distinguishing transfers of financial assets
that are sales, from transfers that are secured borrowings. Under SFAS No. 125,
after a transfer of financial assets, an entity recognizes the financial and
servicing assets it controls and the liabilities it has incurred, derecognizes
financial assets when control has been surrendered, and derecognizes liabilities
when extinguished. SFAS No. 125 is required to be effective for transactions
occurring after December 31, 1996 and is to be applied prospectively. Management
anticipates the effect of the implementation of SFAS No. 125 will be immaterial
to DNB's results of operations, financial condition or stockholders' equity.
Market for Common Stock
DNB Financial's common stock is listed under the symbol "DNBF" on the Over
The Counter Electronic Bulletin Board, an automated quotation service, made
available through and governed by the NASDAQ system. Current price information
is available from account executives at most brokerage firms as well as the
firms listed at the back of this annual report who are market makers of DNB's
common stock. There were approximately 900 stockholders who owned 691,422 shares
of common stock outstanding at December 31, 1996.
The following table sets forth the quarterly high and low prices for a
share of DNB's common stock during the periods indicated. Prices for the sale of
stock are based upon transactions reported by the brokerage firms of Hopper
Soliday & Company, Inc. and Ryan, Beck & Company. The quoted high and low bid
prices are limited only to those transactions known by management to have
occurred and there may, in fact, have been additional transactions of which
management is unaware. Prices have been adjusted for stock dividends.
1996 1995
High Low High Low
First Quarter......... $25.95 $24.76 $21.31 $19.05
Second Quarter........ 27.62 25.24 21.09 19.50
Third Quarter......... 29.05 27.86 21.31 19.50
Fourth Quarter........ 33.00 31.00 24.76 21.43
Downingtown National Bank 17
<PAGE>
INDEPENDENT AUDITORS' REPORT
KPMG Peat Marwick LLP
The Board of Directors and Stockholders
DNB Financial Corporation:
We have audited the accompanying consolidated statements of financial
condition of DNB Financial Corporation and subsidiary as of December 31, 1996
and 1995, and the related consolidated statements of operations, stockholders'
equity, and cash flows for each of the years in the three-year period ended
December 31, 1996. These consolidated financial statements are the
responsibility of the Corporation's management. Our responsibility is to express
an opinion on these consolidated 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of DNB
Financial Corporation and subsidiary at December 31, 1996 and 1995, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1996 in conformity with generally accepted
accounting principles.
/s/ KPMG Peat Marwick LLP
January 24, 1997
Philadelphia, PA
18 Downingtown National Bank
<PAGE>
DNB FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
<TABLE>
<CAPTION>
December 31
1996 1995
<S> <C> <C>
Assets
Cash and due from banks $6,636,470 $8,154,175
Federal funds sold 4,833,000 7,640,000
Investment securities available for sale, at market value 21,678,879 13,339,451
Investment securities (market value $49,195,997 in 1996
and $38,943,606 in 1995) 48,871,142 38,450,977
Loans, net of unearned income 121,572,569 117,885,411
Allowance for possible loan losses (5,112,486) (5,514,600)
------------ ------------
Net loans 116,460,083 112,370,811
------------ ------------
Office property and equipment 3,986,502 4,252,253
Accrued interest receivable 1,562,565 1,648,186
Other real estate owned 1,010,500 810,263
Deferred income taxes 866,354 1,034,520
Other assets 1,222,594 1,080,402
------------ ------------
Total assets $207,128,089 $188,781,038
============ ============
Liabilities and Stockholders' Equity
Liabilities
Non-interest-bearing deposits $26,428,509 $22,936,240
Interest-bearing deposits:
NOW 31,140,486 27,484,736
Money market 15,549,927 16,333,386
Savings 28,558,535 29,223,690
Time 76,746,106 69,030,876
------------ ------------
Total deposits 178,423,563 165,008,928
------------ ------------
Repurchase agreements 11,225,273 8,218,709
Accrued interest payable 454,574 458,943
Other liabilities 808,665 739,499
------------ ------------
Total liabilities 190,912,075 174,426,079
============ ============
Stockholders' Equity
Preferred stock, $10.00 par value; 1,000,000 shares authorized;
none issued -- --
Common stock, $10.00 par value; 5,000,000 shares authorized;
691,422 and 658,793 issued and outstanding, respectively 6,914,220 6,587,930
Surplus 5,196,292 4,112,869
Retained earnings 4,127,905 3,592,242
Unrealized (loss) gain on investment securities available for sale,
net of tax (22,403) 61,918
------------ ------------
Total stockholders' equity 16,216,014 14,354,959
------------ ------------
Total liabilities and stockholders' equity $207,128,089 $188,781,038
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
Downingtown National Bank 19
<PAGE>
DNB FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
<S> <C> <C> <C>
Interest Income:
Interest and fees on loans ................................. $10,556,381 $10,484,930 $9,230,963
Interest on investment securities:
Taxable ................................................. 4,179,173 3,187,596 2,197,876
Exempt from Federal taxes ............................... -- 483 3,367
Interest on Federal funds sold ............................. 426,177 322,746 267,052
---------- ---------- ----------
Total interest income ................................ 15,161,731 13,995,755 11,699,258
---------- ---------- ----------
Interest Expense:
Interest on NOW, money market and savings .................. 1,902,436 2,034,828 2,323,346
Interest on time deposits .................................. 4,110,912 3,482,719 1,865,247
Interest on repurchase agreements .......................... 442,584 262,187 12,147
Interest on Federal funds purchased ........................ 2,962 7,749 8,671
---------- ---------- ----------
Total interest expense ............................... 6,458,894 5,787,483 4,209,411
---------- ---------- ----------
Net interest income ........................................ 8,702,837 8,208,272 7,489,847
Provision for possible loan losses ......................... -- 122 455
---------- ---------- ----------
Net interest income after provision for possible loan losses 8,702,837 8,208,150 7,489,392
---------- ---------- ----------
Non-interest Income:
Service charges ............................................ 324,495 343,799 374,443
Trust income ............................................... 305,930 297,665 285,690
Other ...................................................... 265,411 172,781 240,266
---------- ---------- ----------
Total non-interest income ............................ 895,836 814,245 900,399
---------- ---------- ----------
Non-interest Expense:
Salaries and employee benefits ............................. 3,629,185 3,653,950 3,387,640
Occupancy .................................................. 467,437 442,008 461,686
Furniture and equipment .................................... 664,714 783,480 806,959
FDIC insurance ............................................. 48,584 256,241 440,652
Professional and consulting ................................ 317,420 358,895 402,950
Printing and supplies ...................................... 221,688 242,323 217,669
Insurance .................................................. 110,956 162,848 229,159
Advertising and marketing .................................. 204,587 207,945 200,458
PA shares tax .............................................. 139,125 140,437 143,311
Postage .................................................... 124,771 112,899 138,834
Other ...................................................... 694,606 622,069 640,973
---------- ---------- ----------
Total non-interest expense ........................... 6,623,073 6,983,095 7,070,291
---------- ---------- ----------
Income before income taxes ................................. 2,975,600 2,039,300 1,319,500
Income tax expense ......................................... 658,000 169,000 --
---------- ---------- ----------
Net income ........................................... $2,317,600 $1,870,300 $1,319,500
========== ========== ==========
Per Common Share Data:
Net income ................................................. $3.35 $2.71 $1.91
Cash dividends ............................................. .52 .18 .09
Weighted average number of common shares outstanding ....... 691,422 691,422 691,422
========== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
20 Downingtown National Bank
<PAGE>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Unrealized
Gain (Loss) on
Investment
Securities
Common Retained Available
Stock Surplus Earnings For Sale Total
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1994 ............ $5,980,680 $2,763,875 $2,557,793 $ -- $11,302,348
Net income ....................... -- -- 1,319,500 -- 1,319,500
Cash dividends declared .......... -- -- (59,807) -- (59,807)
Transfer to surplus .............. -- 113,134 (113,134) -- --
Unrealized loss on investment
securities available for sale .. -- -- -- (5,898) (5,898)
---------- ---------- ---------- -------- -----------
Balance at December 31, 1994 .......... 5,980,680 2,877,009 3,704,352 (5,898) 12,556,143
Net income ....................... -- -- 1,870,300 -- 1,870,300
Cash dividends declared .......... -- -- (125,546) -- (125,546)
Issuance of stock dividends ...... 607,250 863,202 (1,470,452) -- --
Cash payment for fractional shares -- -- (13,754) -- (13,754)
Transfer to surplus .............. -- 372,658 (372,658) -- --
Change in unrealized gain on
investment securities
available for sale, net of tax . -- -- -- 67,816 67,816
---------- ---------- ---------- -------- -----------
Balance at December 31, 1995 .......... 6,587,930 4,112,869 3,592,242 61,918 14,354,959
Net income ....................... -- -- 2,317,600 -- 2,317,600
Cash dividends declared .......... -- -- (362,336) -- (362,336)
Issuance of stock dividends ...... 326,290 730,254 (1,056,544) -- --
Cash payment for fractional shares -- -- (9,888) -- (9,888)
Transfer to surplus .............. -- 353,169 (353,169) -- --
Change in unrealized loss on
investment securities
available for sale, net of tax . -- -- -- (84,321) (84,321)
---------- ---------- ---------- -------- -----------
Balance at December 31, 1996 .......... $6,914,220 $5,196,292 $4,127,905 $(22,403) $16,216,014
========== ========== ========== ======== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
Downingtown National Bank 21
<PAGE>
DNB FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended December 31,
1996 1995 1994
<S> <C> <C> <C>
Cash Flows From Operating Activities:
Net income ................................................. $2,317,600 $1,870,300 $1,319,500
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation, amortization and accretion ................... 312,036 324,138 463,108
Provision for possible loan losses ......................... -- 122 455
Gain on sale of OREO ....................................... (40,940) -- --
Net loss on sale of securities ............................. 4,728 2,387 --
Decrease (increase) in interest receivable ................. 85,621 (579,959) (151,994)
Increase in other assets ................................... (142,192) (197,293) (129,748)
(Decrease) increase in interest payable .................... (4,369) 136,165 39,506
(Decrease) increase in current taxes payable ............... (23,000) 4,472 184,436
Decrease (increase) in deferred income taxes ............... 181,000 (189,216) (228,589)
Increase (decrease) in other liabilities ................... 92,166 (90,559) 77,769
Decrease in unearned discount .............................. (268,959) (314,268) (686,959)
----------- ----------- -----------
Net Cash Provided By Operating Activities .................. 2,513,691 966,289 887,484
----------- ----------- -----------
Cash Flows From Investing Activities:
Proceeds from maturities and paydowns - AFS securities ..... 8,224,520 -- --
Proceeds from maturities and paydowns - HTM securities ..... 20,500,377 22,618,803 17,019,523
Purchase of AFS securities ................................. (21,823,458) -- (2,429,654)
Purchase of HTM securities ................................. (30,598,036) (34,304,292) (20,631,388)
Proceeds from sale of AFS securities ....................... 4,961,039 1,974,999 --
Proceeds from sale of HTM securities ....................... -- 2,993,906 --
Proceeds from sale of OREO ................................. 421,317 287,254 422,062
Net increase in loans ...................................... (4,400,927) (5,435,803) (7,957,199)
Purchase of office property and equipment .................. (172,203) (698,172) (305,330)
----------- ----------- -----------
Net Cash Used By Investing Activities ...................... (22,887,371) (12,563,305) (13,881,986)
----------- ----------- -----------
Cash Flows From Financing Activities:
Net increase (decrease) in deposits ........................ 13,414,635 14,082,533 (5,485,551)
Increase in repurchase agreements .......................... 3,006,564 6,611,852 1,606,857
Dividends paid ............................................. (372,224) (169,203) (29,904)
----------- ----------- -----------
Net Cash Provided (Used) By Financing Activities ........... 16,048,975 20,525,182 (3,908,598)
----------- ----------- -----------
Net Change in Cash and Cash Equivalents .................... (4,324,705) 8,928,166 (16,903,100)
Cash and Cash Equivalents at Beginning of Period ........... 15,794,175 6,866,009 23,769,109
----------- ----------- -----------
Cash and Cash Equivalents at End of Period ................. $11,469,470 $15,794,175 $6,866,009
=========== =========== ===========
Supplemental Disclosure Of Cash Flow Information:
Cash paid during the period for:
Interest ................................................ $6,463,263 $5,651,318 $4,169,905
Income taxes ............................................ 460,000 358,259 65,000
Supplemental Disclosure Of Non-cash Flow Information:
Net transfer of loans to OREO ........................... $580,614 $658,579 $232,025
Reclassification of investment securities from HTM to AFS -- 12,797,081 --
=========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements
22 Downingtown National Bank
<PAGE>
Notes to Consolidated Financial StatementsNotes to Consolidated Financial
Statements
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements of DNB Financial Corporation (the
"Corporation" or "DNB") and its subsidiary, Downingtown National Bank (the
"Bank"), are prepared in accordance with generally accepted accounting
principles and general practices within the industry. In preparing the financial
statements, management is required to make estimates and assumptions that affect
the reported amounts of assets and liabilities and affect revenues and expenses
for the period. Actual results could differ significantly from those estimates.
The material estimates that are particularly susceptible to significant
changes in the near term relate to the determination of the adequacy of the
allowance for possible loan losses, the valuation of other real estate owned and
the valuation of deferred tax assets. In connection with the determination of
the allowance for possible losses on loans and other real estate owned,
independent appraisals for significant properties are obtained when practical.
The more significant accounting policies are summarized below. Prior
period amounts not affecting net income are reclassified when necessary to
conform with current year classifications.
Principles of Consolidation -- The accompanying consolidated financial
statements include the accounts of the Corporation and the Bank. All significant
intercompany transactions have been eliminated.
Cash and Due From Banks -- DNB is required to maintain certain daily
reserve balances in accordance with Federal Reserve Board requirements. The
average reserve balance maintained in accordance with such requirements for the
years ended December 31, 1996 and 1995 was approximately $150,000 and $100,000,
respectively.
Investment Securities -- As of January 1, 1994, DNB adopted SFAS No. 115,
Accounting for Certain Investments in Debt and Equity Securities ("SFAS No.
115"), for accounting and reporting of securities. In accordance with SFAS No.
115, such investments are accounted for as follows:
Held-To-Maturity ("HTM") -- includes debt securities that DNB has
the positive intent and ability to hold to maturity. These securities are
reported at cost, adjusted for amortization of premiums and accretion of
discounts, computed using a method approximating a level-yield basis.
Trading Account ("TA") -- includes securities which are generally
held for a short term in anticipation of market gains. Such securities
would be carried at fair value with realized and unrealized gains and
losses on trading account securities included in the statement of
operations. DNB did not have any securities classified as TA during 1996
or 1995.
Available-For-Sale ("AFS") -- includes debt and equity securities
not classified as HTM or TA securities. Securities classified as AFS are
securities that DNB intends to hold for an indefinite period of time, but
not necessarily to maturity. Decisions to sell a security classified as
AFS would be based on various factors, including significant movements in
interest rates, liquidity needs, changes in maturity mix of DNB's balance
sheet, capital considerations, and other factors. Such securities are
reported at fair value, with unrealized holding gains and losses excluded
from earnings and reported, net of tax (if applicable), as a separate
component of stockholders' equity. Realized gains and losses on the sale
of AFS securities are computed on the basis of specific identification of
the adjusted cost of each security.
Loans -- Loans are stated net of unearned discounts, unamortized net loan
origination fees and the allowance for possible loan losses. Interest income is
recognized on the accrual basis. The accrual of interest on loans is generally
discontinued when loans become 90 days past due or earlier when, in management's
judgment, it is determined that a reasonable doubt exists as to its
collectibility. When a loan is placed on nonaccrual, interest accruals cease and
uncollected accrued interest is reversed and charged against current income.
Additional interest payments on such loans are applied to principal or
recognized in income on a cash basis.
Downingtown National Bank 23
<PAGE>
Deferred Loan Fees -- Loan origination and commitment fees and related
direct-loan origination costs of completed loans are deferred and accreted to
income as a yield adjustment over the life of the loan using the level-yield
method. The accretion to income is discontinued when a loan is placed on
nonaccrual status. When a loan is paid off, any unamortized net deferred-fee
balance is credited to income. When a loan is sold, any unamortized net
deferred-fee balance is considered in the calculation of gain or loss.
Allowance for Possible Loan Losses -- The allowance for possible loan
losses ("allowance") is based on a periodic evaluation of the portfolio and is
maintained at a level that management considers adequate to absorb losses known
and inherent in the portfolio. Management considers a variety of factors when
establishing the allowance, recognizing that an inherent risk of loss always
exists in the lending process. Consideration is given to the impact of current
economic conditions, diversification of the loan portfolio, historical loss
experience, delinquency statistics, results of detailed loan reviews, borrowers'
financial and managerial strengths, the adequacy of underlying collateral, and
other relevant factors.
The allowance is increased by the provision for possible loan losses which
is charged to operations. Loan losses are charged directly against the allowance
and recoveries on previously charged-off loans are added to the allowance. While
management utilizes the latest available information to determine the potential
for losses on loans, future additions to the allowance may be necessary based on
changes in economic conditions as well as adverse changes in the financial
condition of borrowers. In addition, various regulatory agencies, as an integral
part of their examination process, periodically review the allowance. Such
agencies may require DNB to recognize additions to the allowance based on their
judgments of information available to them at the time of their examination.
On January 1, 1995, DNB implemented SFAS No. 114, Accounting By Creditors
for Impairment of Loans ("SFAS No. 114"), and SFAS No. 118, Accounting By
Creditors for Impairment of a Loan - Income Recognition and Disclosures ("SFAS
No. 118"). These standards require impaired loans to be measured based on the
present value of expected future cash flows discounted at the loan's effective
interest rate, the loan's market price or the fair value of the collateral if
the loan is collateral dependent. The implementation of these statements did not
have a material effect on DNB's results of operations, financial condition, or
stockholders' equity.
For purposes of applying the measurement criteria for impaired loans, DNB
excludes large groups of smaller-balance homogeneous loans, primarily consisting
of residential real estate loans and consumer loans, as well as commercial loans
with balances less than $100,000. For applicable loans, management evaluates the
need for impairment recognition when a loan becomes nonaccrual, or earlier, if
based on an assessment of the relevant facts and circumstances, it is probable
that DNB will be unable to collect all proceeds due according to the
contractural terms of the loan agreement. DNB's policy for the recognition of
interest income on impaired loans is the same as for nonaccrual loans.
Impairment is charged to the allowance when management determines that
foreclosure is probable or the fair value of the collateral is less than the
recorded investment of the impaired loan.
Other Real Estate Owned -- Other real estate owned ("OREO") consists of
properties acquired as a result of, or in-lieu-of, foreclosure. Properties
classified as OREO are reported at the lower of carrying value or fair value,
less estimated costs to sell. Costs relating to the development or improvement
of the properties are capitalized and costs relating to holding the properties
are charged to expense.
Office Properties and Equipment -- Office properties and equipment are
recorded at cost. Depreciation is computed using the straight-line method over
the expected useful lives of the assets. The costs of maintenance and repairs
are expensed as they are incurred; renewals and betterments are capitalized.
Gains or losses on disposition of premises and equipment are reflected in
operations.
Federal Income Taxes -- DNB accounts for income taxes in accordance with
the asset and liability method of accounting for income taxes. Under this
method, deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differ-
24 Downingtown National Bank
<PAGE>
ences are expected to be recovered or settled. The effect on deferred tax assets
and liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.
The Corporation files a consolidated Federal income tax return with the
Bank.
Pension Plan -- The Bank maintains a noncontributory defined benefit
pension plan covering substantially all employees over the age of 21 with one
year of service. Plan benefits are based on years of service and the employee's
monthly average compensation for the highest five consecutive years of their
last ten years of service.
Stock Option Plan -- DNB accounts for its stock option plan in accordance
with the provisions of Accounting Principles Board ("APB") Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations. As such,
compensation expense is recorded on the date of grant only if the current market
price of the underlying stock exceeded the exercise price. On January 1, 1996,
DNB adopted SFAS No. 123, Accounting for Stock-Based Compensation ("SFAS No.
123"), which permits entities to recognize as expense over the vesting period,
the fair value of all stock-based awards on the date of grant. Alternatively,
SFAS No. 123 also allows entities to continue to apply the provisions of APB
Opinion No. 25 and provide pro forma net income and pro forma earnings per share
disclosures for employee stock option grants made in 1995 and future years as if
the fair-value-based method defined in SFAS No. 123 had been applied. DNB has
elected to continue to apply the provisions of APB Opinion No. 25 and provide
the pro forma disclosure provisions of SFAS No. 123.
Net Income Per Share -- Net income per share is computed based on the
weighted average number of shares of common stock outstanding during the year.
Earnings dilution caused by common stock equivalents does not exceed three
percent (3%). Per share net income and dividends have been adjusted for the five
percent (5%) stock dividends paid during 1996 and 1995.
Trust Assets -- Assets held by DNB in fiduciary or agency capacities are
not included in the consolidated financial statements since such items are not
assets of DNB. Operating income and expenses of the Trust and Investment
Services Division are included in the consolidated statements of operations and
are recorded on an accrual basis.
Statements of Cash Flows -- For purposes of the statements of cash flows,
DNB considers cash in banks, amounts due from banks, and Federal funds sold to
be cash equivalents. Generally, Federal funds are sold for one-day periods.
Long-lived Assets -- In 1996, DNB adopted SFAS No. 121, Accounting for the
Impairment of Long-lived Assets and for Long-lived Assets to be Disposed of
("SFAS No. 121"). This statement requires that long-lived assets and certain
identifiable intangibles be reviewed for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be
recoverable, and that any related impairment be based on the fair value of the
asset. In addition, long-lived assets to be disposed of must generally be
reported at the lower of carrying amount or fair value, less cost to sell. The
adoption of this statement did not materially affect DNB's results of
operations, financial condition, or stockholders' equity.
Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities -- In June 1996, the FASB issued SFAS No. 125, Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities
("SFAS No. 125"). This statement supersedes and amends certain existing
standards by providing consistent standards for distinguishing transfers of
financial assets that are sales, from transfers that are secured borrowings.
Under SFAS No. 125, after a transfer of financial assets, an entity recognizes
the financial and servicing assets it controls and the liabilities it has
incurred, derecognizes financial assets when control has been surrendered, and
derecognizes liabilities when extinguished. SFAS No. 125 is required to be
effective for transactions occurring after December 31, 1996 and is to be
applied prospectively. Management anticipates the effect of the implementation
of SFAS No. 125 will be immaterial to DNB's results of operations, financial
condition or stockholders' equity.
Downingtown National Bank 25
<PAGE>
(2) INVESTMENT SECURITIES
Amortized cost and estimated fair values of investment securities, as of
the dates indicated, are summarized as follows:
<TABLE>
<CAPTION>
December 31, 1996
Amortized Unrealized Unrealized Estimated
Held to Maturity Cost Gains Losses Fair Value
<S> <C> <C> <C> <C>
US Government agency and corporations $35,904,498 $354,004 $ (24,777) $36,233,725
Mortgage-backed securities 7,310,626 63,438 (77,436) 7,296,628
Other securities 5,656,018 15,514 (5,888) 5,665,644
----------- -------- --------- -----------
Total investment securities $48,871,142 $432,956 $(108,101) $49,195,997
=========== ======== ========= ===========
December 31, 1996
Amortized Unrealized Unrealized Estimated
Available for Sale Cost Gains Losses Fair Value
US Government agency and corporations $14,947,057 $ 57,758 $ (31,125) $14,973,690
Mortgage-backed securities 6,760,544 9,994 (65,349) 6,705,189
----------- -------- --------- -----------
Total investment securities $21,707,601 $ 67,752 $ (96,474) $21,678,879
=========== ======== ========= ===========
December 31, 1995
Amortized Unrealized Unrealized Estimated
Held to Maturity Cost Gains Losses Fair Value
US Government agency and corporations $26,029,431 $469,514 $ -- $26,498,945
Mortgage-backed securities 10,688,166 99,057 (70,433) 10,716,790
Other securities 1,733,380 -- (5,509) 1,727,871
----------- -------- --------- -----------
Total investment securities $38,450,977 $568,571 $ (75,942) $38,943,606
=========== ======== ========= ===========
December 31, 1995
Amortized Unrealized Unrealized Estimated
Available for Sale Cost Gains Losses Fair Value
US Treasury $ 3,000,438 $ -- $ (3,948) $ 2,996,490
US Government agency and corporations 4,369,988 106,688 -- 4,476,676
Mortgage-backed securities 5,900,592 19,763 (54,070) 5,866,285
----------- -------- --------- -----------
Total investment securities $13,271,018 $126,451 $ (58,018) $13,339,451
=========== ======== ========= ===========
</TABLE>
The amortized cost and estimated fair value of investment securities as of
December 31, 1996, by contractual maturity, are shown below. Actual maturities
may differ from contractual maturities because certain securities may be called
or prepaid without penalties.
<TABLE>
<CAPTION>
Investment Securities Investment Securities
Held to Maturity Available for Sale
Amortized Estimated Amortized Estimated
Cost Fair Value Cost Fair Value
<S> <C> <C> <C> <C>
Due in one year or less $ 5,009,030 $ 5,019,553 $ 8,957,869 $ 9,003,403
Due after one year through five years 15,693,030 15,772,398 6,570,546 6,546,791
Due after five years through ten years 17,631,932 17,930,290 1,000,000 979,565
Due after ten years, or no stated maturity 10,537,150 10,473,756 5,179,186 5,149,120
----------- ----------- ----------- -----------
Total investment securities $48,871,142 $49,195,997 $21,707,601 $21,678,879
=========== =========== =========== ===========
</TABLE>
26 Downingtown National Bank
<PAGE>
During 1996, DNB sold $5.0 million of securities from the AFS portfolio.
During 1995, $3.0 million of securities were sold from the HTM portfolio and
$2.0 million from the AFS portfolio. The securities sold from the HTM portfolio
were sold under SFAS No. 115 guidelines which permit sales of securities that
have final maturities within three months. No securities were sold during 1994.
Gains and losses from sales of investment securities were as follows:
Year Ended December 31
1996 1995 1994
Gross realized gains.......... $ 4,599 $ 1,196 $ --
Gross realized losses......... (9,327) (3,583) --
-------- -------- ---
Net realized losses........... $ (4,728) $ (2,387) $ --
======== ======== ===
In 1995, the FASB allowed a one-time reclassification of securities
previously classified as HTM to the AFS portfolio. Accordingly, DNB reclassified
securities with a carrying value of $12.8 million and unrealized gains of
$103,000 and unrealized losses of $58,000 to the AFS portfolio on December 29,
1995.
At December 31, 1996 and 1995, investment securities with a carrying value
of approximately $27.8 million and $31.9 million, respectively, were pledged to
secure public funds and for other purposes as provided by law.
At December 31, 1996, there were no significant concentrations of
investments (greater than 10% of stockholders' equity) in any individual
security issues, other than those issued by the US Government and related
agencies and corporations. Interest and dividends on investment securities for
the years ended December 31, 1996, 1995 and 1994 consisted of:
Year Ended December 31
1996 1995 1994
US Treasury .............. $132,006 $365,105 $967,896
US Government agency
and corporations ........ 2,845,377 1,549,996 116,159
Mortgage-backed securities 964,253 1,063,624 778,522
State and municipal ...... -- 483 63,997
Other securities ......... 237,537 208,871 274,669
---------- ---------- ----------
Total .................... $4,179,173 $3,188,079 $2,201,243
========== ========== ==========
(3) LOANS
December 31
1996 1995
Residential mortgage....... $ 17,658,370 $ 19,009,388
Commercial mortgage........ 45,907,366 42,944,754
Commercial................. 29,970,062 28,803,195
Consumer................... 25,325,271 24,109,003
Student.................... 2,711,500 3,019,071
------------ ------------
Total loans................ 121,572,569 117,885,411
------------ ------------
Less allowance for
possible loan losses..... (5,112,486) (5,514,600)
------------ ------------
Net loans.................. $116,460,083 $112,370,811
============ ============
Included in the loan portfolio are loans for which DNB has ceased the
accrual of interest. Loans of approximately $2.9 million, $4.1 million and $5.4
million as of December 31, 1996, 1995 and 1994, respectively, were on a
nonaccrual basis. DNB also had loans of approximately $194,000, $129,000 and
$112,000 that were more than 90 days delinquent, but still accruing as of
December 31, 1996, 1995 and 1994, respectively. In addition, DNB had loans not
included in nonaccrual or delinquent loans, which constitute troubled debt
restructurings, which totaled $184,000, $0 and $40,000 as of December 31, 1996,
1995 and 1994, respectively. If contractual interest income had been recorded on
nonaccrual loans during the years 1996, 1995 and 1994, interest would have been
increased as shown in the following table:
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
<S> <C> <C> <C>
Interest income which would have been
recorded under original terms $254,000 $353,000 $459,000
Interest income recorded during the year (80,000) (222,000) (61,000)
-------- -------- --------
Net impact on interest income $174,000 $131,000 $398,000
======== ======== ========
</TABLE>
At December 31, 1996, DNB had $7.2 million of loans which, although
performing at December 31, 1996, are believed to require increased supervision
and review, and may, depending on the economic environment and other factors,
become non-performing
Downingtown National Bank 27
<PAGE>
assets in future periods. The majority of the loans are secured by commercial
real estate with lesser amounts being secured by residential real estate,
inventory and receivables.
Although DNB has a significant concentration of residential and commercial
mortgage loans collateralized by first mortgage liens located in central Chester
County, DNB has no concentration of loans to borrowers engaged in similar
activities which exceed 10% of total loans at December 31, 1996. However, DNB
does have loans of approximately $9.7 million to local residential real estate
developers and loans of approximately $8.5 million relating to local multi-unit
office buildings at December 31, 1996.
Certain officers and directors of DNB and certain corporations and
individuals related to such persons incurred indebtedness, in the form of loans,
as customers. These loans were made on substantially the same terms, including
interest rates and collateral, as those prevailing at the time for comparable
transactions with other customers and did not involve more than the normal risk
of collectibility. None of these loans are in default or past due more than 90
days.
The following is a summary of activity during 1996 for such loans:
Balance, January 1, 1996.................... $724,357
New loans granted........................ 80,285
Less loan repayments..................... (30,107)
--------
Balance, December 31, 1996............... $774,535
========
(4) ALLOWANCE FOR POSSIBLE LOAN LOSSES
Changes in the allowance for possible loan losses, for the years
indicated, are as follows:
Year Ended December 31
1996 1995 1994
Beginning balance .... $5,514,600 $5,645,000 $6,000,000
Provisions ........... -- 122 455
Loans charged off .... (534,165) (313,035) (497,089)
Recoveries ........... 132,051 182,513 141,634
---------- ---------- ----------
Loans charged off, net (402,114) (130,522) (355,455)
---------- ---------- ----------
Ending balance ....... $5,112,486 $5,514,600 $5,645,000
========== ========== ==========
As of December 31, 1996, DNB had impaired loans with a total recorded
investment of $1.4 million and an average recorded investment for the year ended
December 31, 1996 of $1.6 million. As of December 31, 1996, the amount of
recorded investment in impaired loans for which there is a related allowance for
credit losses and the amount of related allowance is $160,000. The amount of the
recorded investment in impaired loans for which there was no related allowance
for credit losses at December 31, 1996 is $1.3 million. The aggregate amount of
impaired loans are measured under the fair value measurement method. Total cash
collected on impaired loans was credited to the outstanding principal balance in
the amount of $83,000 during the year ended December 31, 1996. No interest
income was recognized on such loans.
As of December 31, 1995, DNB had impaired loans with a total recorded
investment of $1.9 million and an average recorded investment for the year ended
December 31, 1995 of $2.7 million. As of December 31, 1995, the amount of
recorded investment in impaired loans for which there is a related allowance for
credit losses and the amount of the allowance is $314,000 and $128,000,
respectively. The amount of the recorded investment in impaired loans for which
there was no related allowance for credit losses at December 31, 1995 is $1.6
million. Total cash collected on impaired loans was credited to the outstanding
principal balance in the amount of $253,000 during the year ended December 31,
1995. No interest income was recognized on such loans.
(5) OFFICE PROPERTY AND EQUIPMENT
Estimated December 31
Useful Lives 1996 1995
Land.................... $ 854,942 $ 854,942
Buildings.............. 25-33 years 3,709,710 3,661,461
Furniture, fixtures
and equipment 5-20 years 4,316,421 4,205,808
---------- ----------
Total cost......... 8,881,073 8,722,211
Less accumulated
depreciation....... (4,894,571) (4,469,958)
---------- ----------
Office property and
equipment, net..... $3,986,502 $4,252,253
========== ==========
Amounts charged to operating expense for depreciation for the years ended
December 31, 1996, 1995 and 1994 amounted to $437,954, $404,529 and $375,422,
respectively.
28 Downingtown National Bank
<PAGE>
(6) DEPOSITS
Included in interest-bearing time deposits are certificates of deposit
issued in amounts of $100,000 or more. These certificates and their remaining
maturities at December 31, 1996 and 1995 were as follows:
December 31
1996 1995
Three months or less ......... $1,672,334 $1,675,130
Over three through six months 2,417,333 1,111,158
Over six through twelve months 2,941,895 2,524,494
Over twelve months ........... 624,120 445,403
---------- ----------
Total ........................ $7,655,682 $5,756,185
========== ==========
(7) FAIR VALUE OF FINANCIAL INSTRUMENTS
DNB is required to disclose estimated fair values for its financial
instruments. Fair value estimates, methods, and assumptions are set forth below
for DNB's financial instruments.
Limitations
Fair value estimates are made at a specific point in time, based on
relevant market information about the financial instrument. These estimates do
not reflect any premium or discount that could result from offering for sale at
one time DNB's entire holdings of a particular financial instrument. Because no
market exists for a significant portion of DNB's financial instruments, fair
value estimates are based on judgments regarding future expected loss
experience, current economic conditions, risk characteristics of various
financial instruments, and other factors. These estimates are subjective in
nature and involve uncertainties and matters of significant judgment and
therefore cannot be determined with precision. Changes in assumptions could
significantly affect the estimates.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments.
Investments and Mortgage-backed Securities
The carrying amounts for short-term investments (Federal funds sold)
approximate fair value. The fair value of longer term investments and
mortgage-backed securities is estimated based on bid prices published in
financial newspapers or bid quotations received from securities dealers. The
carrying amounts of stocks with no stated maturity approximate fair value
because such shares may be redeemed at par.
Loans
Fair values are estimated for portfolios of loans with similar financial
characteristics. Loans are segregated by type such as commercial, commercial
mortgages, residential mortgages, consumer and student loans, and nonaccrual
loans.
The fair value of performing loans is calculated by discounting expected
cash flows using an estimated market discount rate. Expected cash flows include
both contractual cash flows and prepayments of loan balances. Prepayments on
consumer loans were determined using the median of estimates of securities
dealers for mortgage-backed investment pools.
The estimated discount rate considers credit and interest rate risk
inherent in the loan portfolios and other factors such as liquidity premiums and
incremental servicing costs to an investor. Management has made estimates of
fair value discount rates that it believes to be reasonable. However, because
there is no market for many of these financial instruments, management has no
basis to determine whether the fair value presented below would be indicative of
the value negotiated in an actual sale.
The fair value for nonaccrual loans was derived through a discounted cash
flow analysis, which includes the opportunity costs of carrying a non-performing
asset. Estimated discount rates were based on the probability of loss and the
expected time to recovery. Loans with a higher probability of loss were assigned
higher risk premiums and were discounted over longer periods of time, resulting
in lower values.
Deposit and Repurchase Liabilities
The fair value of deposits with no stated maturity, such as
non-interest-bearing deposits, savings, NOW and money market accounts as well as
repurchase agreements, is equal to the amount payable on demand as of December
31, 1996 and 1995. The fair value of certificates of deposit is based on the
present value of contractual cash flows. The discount rates used to compute
present values are estimated using the rates currently offered for deposits of
similar maturities in DNB's marketplace.
Downingtown National Bank 29
<PAGE>
Commitments to Extend Credit and Standby Letters of Credit
The fair value of commitments to extend credit is estimated using the fees
currently charged to enter into similar agreements, taking into account the
remaining terms of the agreements and the present creditworthiness of the
counterparties. For fixed-rate loan commitments, fair value also considers the
difference between current levels of interest rates and the committed rates. The
fair value of letters of credit is based on fees currently charged for similar
agreements.
The following tables summarize information for all on-balance-sheet and
off-balance-sheet financial instruments.
<TABLE>
<CAPTION>
December 31
1996 1995
Estimated Estimated
Carrying Fair Carrying Fair
(Dollars in thousands) Amount Value Amount Value
<S> <C> <C> <C> <C>
Financial assets
Short-term investments ........................ $4,833 $4,833 $7,640 $7,640
Investments and mortgage-backed securities, AFS 21,679 21,679 13,339 13,339
Investments and mortgage-backed securities, HTM 48,871 49,196 38,451 38,944
Loans, net .................................... 121,572 121,679 117,885 117,533
Accrued interest receivable ................... 1,563 1,563 1,648 1,648
Financial liabilities
Deposits ...................................... 178,424 178,849 165,009 165,622
Repurchase agreements ......................... 11,225 11,227 8,219 8,219
Accrued interest payable ...................... 455 455 459 459
</TABLE>
<TABLE>
<CAPTION>
December 31
1996 1995
Estimated Estimated
Carrying Fair Carrying Fair
(Dollars in thousands) Amount Value Amount Value
<S> <C> <C> <C> <C>
Financial instruments
(Off-balance-sheet)
Commitments to extend credit................... $14,731 $131 $12,638 $117
Standby letters of credit ..................... 796 4 755 3
</TABLE>
(8) FEDERAL INCOME TAXES
Income tax expense for the years ended December 31, 1996, 1995 and 1994
was comprised of the following:
Year Ended December 31
1996 1995 1994
Current tax expense .. $565,467 $364,731 $228,589
Deferred income tax
expense (benefit) 92,533 (195,731) (228,589)
-------- -------- --------
Income tax expense ... $658,000 $169,000 $ --
======== ======== ========
For tax return purposes, DNB has approximately $234,000 of alternative
minimum tax ("AMT") credits to carry forward with no expiration date.
The effective income tax rates of 22% for 1996, 8% for 1995 and 0% for 1994
were less than the applicable statutory Federal income tax rate. The reason for
these differences follows:
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
<S> <C> <C> <C>
Computed "expected" tax expense .... $1,011,704 $693,362 $448,630
Increase (decrease) resulting from:
Tax-exempt interest income ......... (90,130) (96,392) (100,395)
Valuation allowance- deferred taxes (322,000) (462,000) (458,500)
Impact of AMT rate on deferred taxes 48,136 24,698 110,265
Other, net ......................... 10,290 9,332 --
---------- -------- --------
Income tax expense ................. $658,000 $169,000 $ --
========== ======== ========
</TABLE>
30 Downingtown National Bank
<PAGE>
The significant components of deferred income tax expense (benefit)
attributable to income for the years ended December 31, 1996, 1995 and 1994 are
as follows:
Year Ended December 31
1996 1995 1994
Deferred tax expense
(exclusive of the effects
of the component
listed below) .......... $414,533 $266,269 $229,911
Decrease in
beginning-of-the-year
balance of the valuation
allowance for deferred
tax assets ............. (322,000) (462,000) (458,500)
-------- -------- --------
Deferred income tax
expense (benefit) ...... $92,533 $(195,731) $(228,589)
======== ======== ========
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at December 31,
1996 and 1995 and 1994 are presented below:
<TABLE>
<CAPTION>
December 31
(Dollars in thousands) 1996 1995 1994
<S> <C> <C> <C>
Deferred tax assets:
Allowance for possible loan losses ......... $1,515 $1,622 $1,629
Net operating loss carryforwards ........... -- -- 18
Alternative minimum tax credit carryforwards 234 460 632
Valuation adjustment for debt securities ... 6 -- --
Other ...................................... 47 26 35
----- ----- -----
Total gross deferred tax assets .......... 1,802 2,108 2,314
Less valuation allowance ................. (318) (640) (1,102)
----- ----- -----
Subtotal ................................... 1,484 1,468 1,212
Deferred tax liabilities:
Depreciation ............................... (99) (50) (50)
Pension expense ............................ (379) (314) (259)
Valuation adjustment for debt securities ... -- (7) --
Other ...................................... (140) (62) (58)
----- ----- -----
Total gross deferred tax liabilities ..... (618) (433) (367)
Net deferred tax asset ........................ $866 $1,035 $845
===== ===== =====
</TABLE>
Based upon DNB's current and historical tax history and the anticipated
level of future taxable income, management believes the existing net deferred
tax asset will, more likely than not, be realized based on future taxable
income. The reductions in the valuation allowance for deferred taxes during
1996, 1995 and 1994 are attributable to improved earnings and expected continued
improvement through the subsequent one year period permitted under applicable
regulations.
(9) BENEFIT PLANS
Pension Plan
The Bank maintains a pension plan (the "Plan") covering all employees,
including officers, who have been employed for one year and have attained 21
years of age. Prior to May 1, 1985, an individual must have attained the age of
25 and accrued one year of service. The Plan provides pension benefits to
eligible retired employees at 65 years of age equal to 1.5% of their average
monthly pay multiplied by their years of accredited service (maximum 40 years).
The accrued benefit is based on the monthly average of their highest five
consecutive years of their last ten years of service.
The following table sets forth the Plan's funded status, as of the
measurement dates of December 31, 1996 and September 30, 1995, and amounts
recognized in DNB's consolidated financial statements at December 31, 1996 and
1995:
<TABLE>
<CAPTION>
December 31
1996 1995
<S> <C> <C>
Actuarial present value of benefit obligation:
Vested benefit obligation .................... $(3,362,222) $(2,909,672)
=========== ===========
Accumulated benefit obligation................ $(3,476,731) $(3,008,768)
=========== ===========
Projected benefit obligation ................. $(4,278,498) $(3,837,222)
Plan assets at fair value .................... 4,431,541 3,955,132
----------- -----------
Projected benefit obligation over plan assets 153,043 117,910
Unrecognized net asset at January 1, 1987
being amortized over 17 years ............... (149,491) (152,088)
Unrecognized net loss ........................ 837,060 712,783
----------- -----------
Prepaid pension cost included in other assets $840,612 $678,605
=========== ===========
</TABLE>
Downingtown National Bank 31
<PAGE>
Net periodic pension costs for the years indicated include the following
components:
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
<S> <C> <C> <C>
Service cost-benefits earned during the period ....... $152,691 $146,717 $142,832
Interest cost on projected benefit obligation ........ 267,889 244,784 224,373
Actual return on plan assets ......................... (258,307) (397,377) 46,101
Asset gain (loss) .................................... (82,047) 89,413 (363,423)
Amortization of unrecognized net asset at transition . (18,501) (18,503) 18,503)
Amortization of unrecognized net loss after transition 13,327 8,778 14,782
-------- -------- --------
Net pension cost ..................................... $75,052 $73,812 $46,162
======== ======== ========
Assumptions used:
Discount rate ..................................... 7.00% 7.00% 7.50%
Rate of increase in compensation level ............ 5.00 5.00 5.00
Expected long-term rate of return on assets ....... 8.50 8.50 8.50
======== ======== ========
</TABLE>
The Pension Plan's assets are invested using an asset allocation strategy,
in units of certain equity, bond, real estate and money market funds.
401(k) Retirement Savings Plan
During the fourth quarter of 1994, the Bank adopted a retirement savings
plan intended to comply with Sections 401(k) of the Internal Revenue Code of
1986. Employees become eligible to participate after one year of service, and
will thereafter participate in the 401(k) plan for any year in which they have
been employed for at least 1,000 hours. In general, amounts held in a
participant's account are not distributable until the participant terminates
employment, reaches age 59 1/2, dies or becomes permanently disabled.
Participants are permitted to authorize pre-tax savings contributions to a
separate trust established under the 401(k) plan, subject to limitations on
deductibility of contributions imposed by the Internal Revenue Code. The Bank
makes matching contributions of $.25 for every dollar of deferred salary up to
6% of each participant's annual compensation. Each participant is 100% vested at
all times in employee and employer contributions. The matching contributions to
the 401(k) plan were $30,000, $28,000 and $8,000 in 1996, 1995 and 1994,
respectively.
Stock-based Compensation
DNB has a Stock Option Plan for employees and directors. Under the plan,
options (both qualified and non-qualified) to purchase a maximum of 71,662
shares of DNB's common stock could be issued to employees and directors. Option
exercise prices must equal the fair market value of the shares on the date of
option grant and the option exercise period may not exceed ten years. Vesting of
options under the plan is determined by the Plan Committee. There were 40,545
and 53,250 shares available for grant at December 31, 1996 and 1995,
respectively. At December 31, 1996 and 1995, the number of options exercisable
was 31,117 and 18,412, respectively, and the weighted average exercise price of
those options was $28.32 and $21.67, respectively.
At December 31, 1996, the range of exercise prices was $23.42-$29.29 and
the weighted-average remaining contractual life of the outstanding options was
8.9 years.
The per share weighted-average fair value of stock options granted during
1996 and 1995 was $10.14 and $8.62 on the date of grant using the Black Scholes
option-pricing model with the following weighted-average assumptions: for
1996-expected dividend yield of 1.98%, risk-free interest rate of 6.3%, expected
life of 9.5 years and an expected volatility of stock over the expected life of
the options was 22%; for 1995-expected dividend yield of .91%, risk-free
interest rate of 5.6%, expected life of 8.5 years and an expected volatility of
stock over the expected life of the options of 22%.
32 Downingtown National Bank
<PAGE>
DNB applies APB Opinion No. 25 in accounting for its Stock Option Plan,
and accordingly, no compensation cost has been recognized for its stock options
in the financial statements. Had DNB determined compensation cost based on the
fair value at the grant date for its stock options under SFAS No. 123, DNB's net
income and earnings per share would have been reduced to the pro forma amounts
indicated below:
Year Ended December 31
1996 1995
Net income
as reported ... $2,317,600 $1,870,300
pro forma ..... 2,221,921 1,738,345
Net income per share
as reported ... $3.35 $2.71
pro forma ..... 3.22 2.52
Stock option activity is indicated below:
Year Ended December 31
1996 1995
Outstanding, beginning of year... 17,535 --
Granted.......................... 12,100 16,700
Effect of stock dividends........ 1,482 835
Exercised..................... -- --
Outstanding, end of year......... 31,117 17,535
====== ======
Option price..................... $27.62-$29.29 $23.42
============= ======
(10) COMMITMENTS, CONTINGENT LIABILITIES AND OFF-BALANCE-SHEET RISK
In the normal course of business, various commitments and contingent
liabilities are outstanding, such as guarantees and commitments to extend
credit, which are not reflected in the consolidated financial statements.
Management does not anticipate any significant losses as a result of these
commitments. DNB had outstanding standby letters of credit in the amount of
approximately $796,000 and unfunded loan and lines of credit commitments in the
amount of approximately $14.7 million at December 31, 1996.
These instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized on the balance sheet. The
exposure to credit loss in the event of non-performance by the party to the
financial instrument for commitments to extend credit and standby letters of
credit is represented by the contractual amount. Management uses the same credit
policies in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
Standby letters of credit are conditional commitments issued by DNB to
guarantee the performance of a customer to a third party. Those guarantees are
primarily issued to support public and private borrowing arrangements. The
credit risks involved in issuing letters of credit are essentially the same as
those involved in extending loan facilities to customers. DNB holds various
collateral to support these commitments.
Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. DNB evaluates each customer's creditworthiness
on a case-by-case basis. The amount of collateral, if any, obtained upon the
extension of credit, usually consists of real estate, but may include
securities, property or other assets.
DNB maintains borrowing arrangements with a correspondent bank and the
FHLB of Pittsburgh, as well as access to the discount window at the Federal
Reserve Bank of Philadelphia to meet short-term liquidity needs. Through these
relationships, DNB has available short-term credit of approximately $40 million.
DNB is a party to a number of lawsuits arising in the ordinary course of
business. While any litigation causes an element of uncertainty, management is
of the opinion that the liability, if any, resulting from the actions, will not
have a material effect on the accompanying financial statements.
Downingtown National Bank 33
<PAGE>
(11) PARENT COMPANY FINANCIAL INFORMATION
Condensed financial information of DNB Financial Corporation (parent
company only) follows:
CONDENSED STATEMENTS OF FINANCIAL CONDITION
<TABLE>
<CAPTION>
December 31
1996 1995
<S> <C> <C>
Assets
Investment in subsidiary .............. $16,216,014 $14,354,959
----------- -----------
Total assets ............................. $16,216,014 $14,354,959
=========== ===========
Liabilities and Stockholders' Equity
Liabilities
Dividends payable to stockholders ..... $ -- $ --
----------- -----------
Total liabilities ........................ -- --
----------- -----------
Stockholders' Equity
Total stockholders' equity ............... 16,216,014 14,354,959
----------- -----------
Total liabilities and stockholders' equity $16,216,014 $14,354,959
=========== ===========
</TABLE>
CONDENSED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
<S> <C> <C> <C>
Income:
Dividends from subsidiary ....... $372,224 $139,300 $59,807
Equity in undistributed income of
subsidiary ................... 1,945,376 1,731,000 1,259,693
---------- ---------- ----------
Net income .................... $2,317,600 $1,870,300 $1,319,500
========== ========== ==========
</TABLE>
CONDENSED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended December 31
1996 1995 1994
<S> <C> <C> <C>
Cash Flows From Operating Activities:
Net income ..................................... $2,317,600 $1,870,300 $1,319,500
Adjustments to reconcile net income
to net cash provided by operating
activities:
Equity in undistributed income of subsidiary (1,945,376) (1,731,000) (1,259,693)
Decrease (increase) in dividend receivable . -- 29,903 (29,903)
---------- ---------- ----------
Net Cash Provided by Operating Activities ...... 372,224 169,203 29,904
---------- ---------- ----------
Cash Flows From Financing Activities:
Dividends paid ................................. (372,224) (169,203) (29,904)
Net Cash Used in Financing Activities .......... (372,224) (169,203) (29,904)
---------- ---------- ----------
Net Change in Cash and Cash Equivalents ........ $ -- $ -- $ --
========== ========== ==========
</TABLE>
(12) REGULATORY MATTERS
On February 1, 1996, the OCC informed DNB that it had achieved substantial
compliance with its voluntary 1992 Consent Order (the "Consent Order"), and that
the Consent Order was terminated. Likewise, on February 12, 1996, the Federal
Reserve Bank ("FRB") terminated the 1993 Memorandum of Understanding which had
been entered into between the Corporation and the FRB.
Dividends payable to the Corporation by the Bank are subject to certain
regulatory limitations. Under normal circumstances, the payment of dividends in
any year without regulatory permission is limited to the net profits (as defined
for regulatory purposes) for that year, plus the retained net profits for the
preceding two calendar years.
34 Downingtown National Bank
<PAGE>
Federal banking agencies impose three minimum capital requirements on DNB
- -- risk-based capital ratios based on total capital, "Tier 1" capital, and a
leverage capital ratio. The risk-based capital ratios measure the adequacy of a
bank's capital against the riskiness of its assets and off-balance sheet
activities. Failure to maintain adequate capital is a basis for "prompt
corrective action" or other regulatory enforcement action. In assessing a bank's
capital adequacy, regulators also consider other factors such as interest rate
risk exposure; liquidity, funding and market risks; quality and level of
earnings; concentrations of credit, quality of loans and investments; risks of
any nontraditional activities; effectiveness of bank policies; and management's
overall ability to monitor and control risks.
Quantitative measures established by regulation to ensure capital adequacy
require DNB to maintain certain minimum amounts and ratios as set forth below.
Management believes that DNB meets all capital adequacy requirements to which it
is subject.
The most recent notification from the OCC, dated February 4, 1997
categorized DNB as "Well Capitalized" under the regulatory framework for prompt
corrective action. To be categorized as Well Capitalized, DNB must maintain
minimum ratios as set forth below. There are no conditions or events since that
notification, that management believes would have changed DNB's category.
Actual capital amounts and ratios are presented below.
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
(Dollars in thousands) Amount Ratio Amount Ratio Amount Ratio
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1996:
Total risk-based capital $17,957 13.38% $10,733 8.00% $13,416 10.00%
Tier 1 capital 16,238 12.10 5,366 4.00 8,050 6.00
Tier 1 (leverage) capital 16,238 7.92 8,205 4.00 10,257 5.00
As of December 31, 1995:
Total risk-based capital 15,899 12.76 9,965 8.00 12,456 10.00
Tier 1 capital 14,293 11.47 4,983 4.00 7,474 6.00
Tier 1 (leverage) capital 14,293 7.59 7,529 4.00 9,411 5.00
</TABLE>
(13) QUARTERLY FINANCIAL DATA (Unaudited)
Reference should be made to the discussion and table appearing under
"Consolidated Quarterly Financial Data" in the section "Results of Operations"
in "Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Downingtown National Bank 35
Exhibit 24
Consent of Independent Certified Public Accountants
The Board of Directors
DNB Financial Corporation:
We consent to incorporation by reference in the registration statement (No.
33-93272) on Form S-8 of DNB Financial Corporation of our report dated January
24, 1997, relating to the consolidated statements of financial condition of DNB
Financial Corporation and subsidiary as of December 31, 1996 and 1995, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for each of the years in the three-year period ended December 31, 1996,
which report appears in the December 31, 1996 annual report on Form 10-K of DNB
Financial Corporation.
/s/ KPMG Peat Marwick LLP
KPMG Peat Marwick LLP
Philadelphia, Pennsylvania
March 26, 1997
<TABLE> <S> <C>
<ARTICLE> 9
<CIK> 0000713671
<NAME> DNB FINANCIAL CORPORATION
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> DEC-31-1996
<CASH> 5,980,258
<INT-BEARING-DEPOSITS> 656,212
<FED-FUNDS-SOLD> 4,833,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 21,678,879
<INVESTMENTS-CARRYING> 48,871,142
<INVESTMENTS-MARKET> 49,195,997
<LOANS> 121,572,569
<ALLOWANCE> 5,112,486
<TOTAL-ASSETS> 207,128,089
<DEPOSITS> 178,423,563
<SHORT-TERM> 11,225,273
<LIABILITIES-OTHER> 1,263,239
<LONG-TERM> 0
0
0
<COMMON> 6,914,220
<OTHER-SE> 9,301,794
<TOTAL-LIABILITIES-AND-EQUITY> 207,128,089
<INTEREST-LOAN> 10,556,381
<INTEREST-INVEST> 4,179,173
<INTEREST-OTHER> 426,177
<INTEREST-TOTAL> 15,161,731
<INTEREST-DEPOSIT> 6,013,348
<INTEREST-EXPENSE> 6,458,894
<INTEREST-INCOME-NET> 8,702,837
<LOAN-LOSSES> 0
<SECURITIES-GAINS> (4,728)
<EXPENSE-OTHER> 6,623,073
<INCOME-PRETAX> 2,975,600
<INCOME-PRE-EXTRAORDINARY> 2,317,600
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,317,600
<EPS-PRIMARY> 3.35
<EPS-DILUTED> 0
<YIELD-ACTUAL> 8.12
<LOANS-NON> 2,894,684
<LOANS-PAST> 194,484
<LOANS-TROUBLED> 183,645
<LOANS-PROBLEM> 7,168,000
<ALLOWANCE-OPEN> 5,514,600
<CHARGE-OFFS> 534,165
<RECOVERIES> 132,051
<ALLOWANCE-CLOSE> 5,112,486
<ALLOWANCE-DOMESTIC> 5,112,486
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
