SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1994
COMMISSION FILE NUMBER 0-11595
MERCHANTS BANCSHARES, INC.
----------------------------------
(Exact name of registrant as specified in its charter)
Incorporated in the State of Delaware Employer Identification No. 03-0287342
123 Church St, Burlington, Vermont 05401
(Address of principal executive office) (Zip Code)
Registrants telephone number:(802) 658-3400
Securities registered pursuant to Section 12(b) of the Act:
(Not Applicable)
Securities registered pursuant to Section 12(g) of the Act:
Title of Class: Common Stock (Par Value $.01 a share)
Name of Exchange on which listed: NASDAQ
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K.
Contained herein X Not contained herein
The aggregate market value of the voting stock held by non-affiliates is
$29,021,285 as computed using the average bid and asked prices of stock, as of
February 15, 1995.
The number of shares outstanding for each of the registrant's classes of
common stock, as of February 15, 1995 is:
Class: Common stock, par value $.01 per share
Outstanding: 4,242,927 shares
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Annual Report to Shareholders for the year ended December 31,
1994 are incorporated herein by reference to Part II.
Portions of the Proxy Statement to Shareholders for the year ended December 31,
1994 are incorporated herein by reference to Part III.
FORM 10-K
TABLE OF CONTENTS
Part I Page Reference
Item 1 - Business 1
Item 2 - Properties 6
Item 3 - Legal Proceedings 9
Item 4 - Submission of Matters to a 10
Vote of Security Holders
Part II
Item 5 - Market for Registrant's Common 11
Equity and Related Stockholder
Matters
Item 6 - Selected Financial Data 11
Item 7 - Management's Discussion and Analysis 24
of Financial Condition and Results of
Operations
Item 8 - Financial Statements and Supplementary 24
Data
Item 9 - Changes in and Disagreements with Accountants 24
on Accounting and Financial Disclosures
Part III
Item 10 - Directors and Executive Officers of the 25
Registrant
Item 11 - Executive Compensation 25
Item 12 - Security Ownership of Certain Beneficial 25
Owners and Management
Item 13 - Certain Relationships and Related Party 25
Transactions
Part IV
Item 14 - Exhibits, Financial Statement 25
Schedules, and Reports on Form 8-K
Indemnification Undertaking by Registrant 27
Signatures 28
PART I
ITEM 1 - BUSINESS
A chronology of events, including acquisitions, relating to MERCHANTS
BANCSHARES, INC., (the Company) is as follows:
July 1, 1983: Merchants Bancshares, Inc. was organized as a Vermont
corporation, for the purpose of acquiring, investing in or holding stock
in any subsidiary enterprise under the Bank Holding Company Act of 1956.
January 24, 1984: Company acquired The Merchants Bank, a Vermont chartered
commercial bank.
June 2, 1987: Company shareholders approved a resolution to change the
state of incorporation of the Company from Vermont to Delaware.
October 4, 1988: Company organized Merchants Properties, Inc., whose
mission is as described below.
THE MERCHANTS BANK, (the Bank) was organized in 1849, and assumed a national
bank charter in 1865, becoming The Merchants National Bank of Burlington,
Vermont. On September 6, 1974 the Bank converted its national charter to a
state-bank charter, becoming known as The Merchants Bank. Since 1971 the Bank
has acquired by merger seven Vermont banking institutions, and has acquired
the deposits of an eighth bank located in St. Johnsbury, Vt. The last such
acquisition occurred on June 4, 1993 at which time the Bank acquired the New
First National Bank of Vermont, with thirteen banking offices, from the Federal
Deposit Insurance Corporation Division of Liquidation. As of December 31,
1994 the Bank was the third largest commercial banking operation in Vermont,
with deposits totalling $582.2 million, net loans of $490.6 million, and total
assets of $694.8 million, on a consolidated basis.
Since September 30, 1988, The Merchants Bank has participated as an equity
partner in the development of several AFFORDABLE HOUSING PARTNERSHIPS which
were formed to provide residential housing units within the State of Vermont.
During the past four years these partnerships have developed 727 units of
residential housing, 470 (65%) of which qualify as "affordable housing units
for eligible low income owners or renters", and 257 (35%) of which are "market
rate units". These partnerships have invested in 16 affordable and elderly
housing projects within 13 Vermont communities: St. Albans, Middlebury,
Williston, Winooski, Brattleboro, Montpelier, Burlington, Springfield, St.
Johnsbury, Colchester, Swanton, Bradford and Hardwick.
MERCHANTS PROPERTIES, INC., a wholly owned subsidiary of the Company, was
organized for the purpose of developing and owning affordable rental housing
units throughout the state of Vermont. As of December 31, 1994 the corporation
owned one development located in Enosburg, Vermont, consisting of a 24-unit low
income family rental housing project, which was completed and rented during
1989. This housing development is fully occupied at this time. Total assets
of this corporation at December 31, 1994 were $1,309,983.
The Merchants Bank owns controlling interest in the MERCHANTS TRUST COMPANY, a
Vermont corporation chartered in 1870 for the purpose of offering fiduciary
services such as estate settlement, testamentary trusts, guardianships,
agencies, intervivos trusts, employee benefit plans and corporate trust
services. The Merchants Trust Company also operates a discount brokerage
office, through Olde Discount Corporation, enabling investors to purchase or
sell stocks and bonds on a discounted commission schedule. As of December 31,
1994, the Merchants Trust Company had fiduciary responsibilities for assets
valued at market in excess of $365.5 million. Total revenue for 1994 was
$1,809,991, total expense was $4,415,949, (including an extraordinary item
totalling $3,246,100 as described in Part I, Item 4, page 9) resulting in a
pre-tax net loss for the year of $2,605,958. This loss is included in the
consolidated tax return of its parent company, The Merchants Bank.
QUENESKA CAPITAL CORPORATION, a wholly-owned subsidiary of The Merchants Bank
was established on April 4, 1988 as a Federal licensee under the Small
Business Act of 1958 to provide small business enterprises with loans and/or
capital. As of December 31, 1994, the corporation had assets of $1,720,961,
liabilities of $109,034 due to the parent company for accrued management fees,
and equity capital of $1,611,928.
Queneska Capital Corporation has no employees, relying on the personnel
resources of its parent company to operate. As compensation for its services
Queneska pays the Bank a management fee in the amount of 1.5% on annual
average assets ($23,269) in 1994. This fee is eliminated in the financial
statement consolidation of the parent company.
Queneska's taxable income or loss is included in the consolidated tax return of
its parent company, The Merchants Bank. Queneska computes its income tax
provision of benefit on an individual basis and reimburses, or is reimbursed
by, the parent company an amount equal to the annual provision or benefit.
RETAIL SERVICES
The Merchants Bank offers a wide range of deposit and investment products
including business checking accounts; Free 60 accounts; NOW checking accounts;
NOW 50 accounts; regular checking and Super NOW accounts. In July 1994, the
Bank offered a new type of personal account entitled "bottom line checking".
This account features a flat monthly fee of $3.00 for twenty checks per
statement period with no monthly minimum balance required. A charge of $.50
per check is assessed for more than twenty checks per month. The account can
also be used for all electronic transactions including ATM transactions.
The Bank also offers Certificates of Deposit, Money Market accounts, savings
accounts, individual retirement accounts and Christmas Club accounts, all at
competitive rates and terms. ATF (automatic transfer of funds) provides
overdraft protection benefits for personal checking accounts through electronic
funds transfer. In addition, the bank offers cash management services for
commercial account depositors who may have idle overnight or longer term
balances to invest.
The bank provides strong customer support with thirty Automated Teller machines
statewide, including one drive-up ATM; and 106 on-line electronic teller
stations. The bank's expanded personal computer networks now connect each
banking office to the mainframe AS/400 computer with CRT capability, as well
as, electronic mail and other PC software applications.
Additional retail services include safe deposit boxes, travelers and gift
checks, bank drafts, personal money orders and several methods of automated
money transfer, including Federal Reserve wire services.
COMMERCIAL SERVICES
Types of Credit Offerings:
Consumer Loans:
Financing is provided for new or used automobiles; boats; airplanes;
recreational vehicles; new mobile homes; collateral loans, secured by savings
accounts, listed equities or life insurance; personal loans. Home improvement
and home equity lines of credit, as well as Master and Visa credit cards.
Real Estate Loans:
Financing is available for one-to-four family residential mortgages; multi-
family mortgages; residential construction; mortgages for seasonal dwellings;
commercial real estate mortgages. Mortgages for residential properties are
offered on a long-term fixed-rate basis; alternatively, adjustable-rate
mortgages are offered. Bi-weekly payment mortgages and graduated (two-step)
payment mortgages are offered. Loans under the Farmers Home Administration
Rural Guaranteed Housing Program provide up to 100% financing. The bank also
participates with the Vermont Housing Finance Agency (VHFA) in providing
mortgage financing for low- to moderate-income Vermonters. Most mortgage loan
products are offered with as little as a 5% down payment to assist borrowers
who qualify, providing the mortgagor(s) acquires private mortgage insurance.
Commercial Loans:
Financing for business inventory, accounts receivable, fixed assets, lines of
credit for working capital, community development, irrevocable letters of
credit, business credit cards, and U.S. Small Business Administration loans are
available.
Other miscellaneous commercial banking services include night depository, coin
and currency handling and employee benefits management and related fiduciary
services available through the Merchants Trust Company.
EXPANSION EFFORTS
The Merchants Bank operates thirty-eight full-service banking facilities within
Vermont; and a remote ATM unit located at the Burlington International
Airport. Since 1963 the Bank has established eleven de novo offices, and since
1969 has acquired seven Vermont banks by merger. The Merchants Bank's most
recent acquisition occurred in June of 1993 with the acquisition of the assets
and assumption of deposits of the New First National Bank of Vermont from the
FDIC. Through this acquisition the Merchants Bank extended its presence on the
east side of the state gaining offices in Springfield, Windsor, E. Thetford,
Fairlee, Bradford, Newbury and Groton and on the west side of the state an
office in Fair Haven. This acquisition also resulted in The Merchants Bank
increasing market share in Hardwick, St. Johnsbury and Northfield.
Each decision to expand the branch network has been based upon strategic
planning and analysis indicating that the new or acquired facility would
provide enhanced banking resources within the community and insure the
competitive viability of the Bank through potential growth of deposits and
lending activities.
On March 14, 1994 The Merchants Bank opened a limited service office on the
Wake Robin Retirement Community Campus in Shelburne, Vermont. During the
fall of 1994, The Merchants Bank began restoration of the Old South Hero Inn on
the corner of US Route 2 and South St., So. Hero, Vt. The Merchants Bank
relocated its South Hero office to this historic site on January 17, 1995.
COMPETITION
Competition for financial services remains very strong in Vermont. As of
December 31, 1994, there were eleven state chartered commercial banks, nine
national banks, five savings banks and three savings and loan associations
operating in Vermont. In addition, other financial intermediaries such as
brokerage firms, credit unions, and out-of-state banks also compete for
deposit, loan, and other ancillary financial activities.
At year-end 1994 The Merchants Bank was the third largest bank in Vermont,
enjoying a strong competitive franchise within the state, with thirty-nine
banking offices as identified in Item 2 (A). During January 1995 the Bank of
Vermont, a subsidiary of Bank of Boston, was acquired by KeyCorp, a large
regional bank holding company headquartered in Cleveland, Ohio. Competition
from this large regional institution is expected to be very aggressive.
No material part of the Bank's business is dependent upon one, or a few
customers, or upon a particular market segment, the loss of which would have a
materially adverse impact on the operations of the Bank.
NUMBER OF EMPLOYEES
As of December 31, 1994, Merchants Bancshares, Inc. had five officers: Dudley
H. Davis, Chairman of the Board; Joseph L. Boutin, President and Chief
Executive Officer; Susan D. Struble, Secretary; Edward W. Haase, Treasurer; and
Susan M. Verro, Assistant Secretary. No officer of the Company is on a salary
basis.
As of December 31, 1994, The Merchants Bank employed 399 full-time and 81 part-
time employees, representing a full-time equivalent complement of 439
employees. The Bank maintains a comprehensive employee benefits program which
provides major medical insurance, hospitalization, dental insurance, long-term
and short-term disability insurance, life insurance and a pension plan, a
401(k) Employee Stock Ownership Plan and a Performance Progress Sharing
Plan. Employee benefits offered by the Bank are very competitive with
comparable plans provided by other Vermont banks.
REGIONAL ECONOMY
Regional economists are hopeful that the economy will begin to
moderate as the result of seven Federal Reserve interest rate hikes
over the past thirteen months, and that there will be a "soft
landing" as opposed to a much less attractive "boom-bust" scenario.
While growth in 1994 exceeded earlier forecasts, the slower
predicted 1995 national economic expansion is expected to produce
only moderate economic gains in New England. Job growth in New
Hampshire, Massachusetts, Rhode Island, Connecticut and Vermont is
expected to be in the 1 1/2 - 2% range. However, for the region to
grow jobs at this predicted level there are several prerequisites.
Namely, (i) U.S. real GDP Growth cannot fall much below 2 1/2%,
because historically the New England states have been among the
most sensitive to changes in national economic activity, (ii)
growth must continue to be strong for exports and capital spending
because both are important to New England (iii) and finally,
defense cutbacks cannot be too severe. If several New England
military bases are eventually closed as recommended by the Base
Closing Commission, this could have a dramatic adverse economic
impact on the region.
VERMONT ECONOMY
The most recent Vermont economic report published by the New
England Economic Project (NEEP) dated October 1994 forecasts the
following outlook for the period 1994-1995.
- The Vermont economy should continue to improve if the
Federal Reserve Bank can engineer a "soft landing" in
1995, whereby interest rates will not be raised by an
excessive amount.
- Vermont's seasonally adjusted year-end 1994 unemployment
rate was 4.3% compared to the U.S. rate at 5.6%.
However, the current rate of unemployment has begun to
increase due to: a) rising interest rates; b) a slowdown
in Canadian tourism activity; and c) industrial "mix"
factors involving corporate "right sizing", budgetary
constraints and related corporate actions.
- Vermont exporters, specialty manufacturers, and sectors
of the VT economy benefiting from the strong national
expansion are expected to experience the strongest
employment growth rates during the period 1995-1996.
- The majority of new jobs that will be added in the
Vermont economy through 1995 will be found in non-
manufacturing job categories, - mostly trade and
services. Service sector employment currently accounts
for nearly 3 out of every 10 jobs in the state.
- With the national economic recovery moving into its'
third year, and based upon historical post-war business
cycle data, the possibility of a recession during the
next three year period is a possibility that should not
be ignored.
Over the past three years, 1991 - 1994, employment levels
within Vermont's five industrial sectors have changed according to
the following levels of job creation:
Manufacturing 44,200 to 43,700 (1.1%)
Construction 11,900 to 11,800 (.8%)
Trade 57,400 to 60,800 5.9%
Services 67,900 to 77,300 13.8%
Government 43,800 to 44,800 2.3%
The November 1994 Vermont Economic Newsletter published by
Northern Economic Consulting, Inc. reported that actual job growth
accelerated in 1994, and that all sectors of the economy posted job
gains, with the service sector leading the way.
However, it is noteworthy that job gains have not been
accompanied by significant wage gains. Overall, incomes are
probably rising at or just above the level of inflation, with
median family income changing little in recent years.
The Vermont economy has now come through two very long and
abnormal periods; the boom of 1983 to 1988, followed by the bust of
recovery of 1989 to 1994. There are many divergent opinions
concerning the forecast for Vermont's economic outlook over the
next three years; however, a fair consensus remains that Vermont
should continue to maintain a stable, reasonably healthy economy
over the next several years.
ITEM 2 - PROPERTIES
The Merchants Bank operates thirty-nine banking facilities as
indicated in Schedule A below. Corporate administrative offices
are located at 123 Church Street, Burlington, Vermont, and the
operations data processing center is located at 275 Kennedy Drive,
South Burlington, Vermont.
Schedule B (below) indicates properties owned by the Bank as
possible future expansion sites.
A. SCHEDULE OF BANKING OFFICES BY LOCATION
Burlington 123 Church Street Corporate offices
164 College Street Merchants Trust Co.
172 College Street Branch office
1014 North Avenue Branch office
12 Colchester Avenue *2 Branch office
Essex Junction 54 Pearl Street Branch office
South Burlington 50 White Street Branch office
947 Shelburne Road *1 Branch office
275 Kennedy Drive Operations Center
Branch office
Burlington Airport *1 ATM
Bristol 15 West Street Branch office
Barre 105 North Main Street Branch office
Northfield Depot Square Branch office
2 Main St. Drive-up Facility
South Hero South St. & Route 2 Branch office
Hardwick Wolcott Street Branch office
Hinesburg Route 116/Shelburne Falls Rd Branch office
Vergennes Monkton Road Branch office
Winooski 364 Main Street Branch office
Johnson Main Street, Route 15 Branch office
Colchester 8 Porters Point Road *2 Branch office
Jericho Route 15 Branch office
Enosburg Falls 155 Main Street Branch office
No. Bennington Bank Street Branch office
Manchester Ctr. 515 Main Street Branch office
Brattleboro 205 Main Street *3 Branch office
Wilmington West Main Street Branch office
Bennington Putnam Square *2 Branch office
Wallingford Route 7 *2 Branch office
St. Johnsbury 90 Portland Street Branch office
Bradford 1 Main Street Branch office
Danville Main Street Branch office
Fairlee U.S. Route #5 Branch office
Groton U.S. Route #302 Branch office
East Thetford U.S. Route #5 & Vt 113 Branch office
Newbury U.S. Route #5 Branch office
Fair Haven 97 Main Street Branch office
Springfield 56 Main Street Branch office
Springfield Shopping Plaza Branch office
Windsor 160 Main Street Branch office
Notes:
*1: Facilities owned by the bank are located on leased land.
*2: Facilities located on leased land with improvements also
leased.
*3: As of December 31, 1994 a mortgage with an unpaid
principal balance of $207,860 is outstanding on the
Brattleboro office. This mortgage is being amortized at
$1,736 per month, at a rate of 9% through the year 2020.
B. SCHEDULE OF PROPERTIES OWNED FOR FUTURE EXPANSION *1
Year
Description Acquired Location Purpose
------------ -------- ----------------- ----------------
Land & Building 1973 117 Church St. Future Expansion
Burlington, VT
Land 1977 30 Main Street Future Expansion
Burlington, VT
Land 1977 45 College St. Future Expansion
Burlington, VT
Land & Building 1979 Plainfield, VT Future Expansion
Land & Building 1981 8 White Street Future Expansion
So. Burlington, VT
Land & Building 1985 U.S. Route 7 Future Expansion
Shelburne, VT
Land & Building 1986 Pearl Street Future Expansion
Essex Jct., VT
Land & Building 1986 So. Summit St. Future Expansion
Essex Jct., VT
Land 1990 55 College Street Future Expansion
Burlington, VT
Land & Building 1990 60 Main Street Future Expansion
Burlington, VT
Land & Building 1993 Bradford Operations Future Expansion
Building
1 Main St.
Bradford, VT
Note:
*1: Buildings identified in Schedule B are all rented or
leased to tenants. Leases are generally for short-term
or medium term periods and are at varying rental amounts
depending upon the location and the amount of space
leased.
ITEM 3 - LEGAL PROCEEDINGS
During the fall of 1994, lawsuits were brought against the
Company, the Bank, the Trust Company (collectively referred to as
"the Companies") and certain directors of the Companies. These
lawsuits relate to certain investments managed for Trust company
clients and placed in the Piper Jaffray Institutional Government
Income Portfolio. Separately, and before the suits were filed, the
Companies had initiated a review of those investments. Outside
consultants were retained to assist in this review. As a result of
the review, the Trust Company paid to the affected Trust Company
clients a total of approximately $9.2 million in December 1994.
The payments do not constitute a legal settlement of any claims in
the lawsuits. However, based on consultation with legal counsel,
management believes that further liability, if any, of the
Companies on account of matters complained of in the lawsuits will
not have a material adverse affect on the consolidated financial
position and results of operations of the Company. In December
1994, the Trust Company received a payment of $6,000,000 from its
insurance carriers in connection with these matters. The Companies
also intend to pursue all available claims against Piper Jaffray
Companies, Inc. and others on account of the losses that gave rise
to the $9.2 million payment by the Companies. Any recovery
obtained as a result of such efforts is subject to the terms of an
agreement between the Companies and the insurance carriers.
The attorneys representing the plaintiffs in one of the
lawsuits discussed above have asked the Court to order the Trust
Company's clients to pay fees to those attorneys in an amount of up
to $500,000. The Trust Company has resisted the claims for payment
of such fees by its clients, and as a result, the Trust Company has
been directed to place the sum of $500,000 into escrow pending a
ruling by the Court. Based upon consultation with legal counsel,
management believes there is no substantial basis for any liability
on the part of the Companies for payment of legal fees to those
attorneys and, although there is the possibility that the Companies
may be required to remit all or part of these funds, such an
outcome is not considered likely.
The Bank is also involved in various legal proceedings arising
in the normal course of business. Based upon consultation with
legal counsel, management believes that the resolution of these
matters will not have a material effect on the consolidated
financial position and results of operations of the Company.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the fourth quarter of calendar year 1994 no matters
were submitted to a vote of security holders through a solicitation
of proxies or otherwise.
<PAGE>
PART II
ITEM 5 - MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The common stock of the Company is traded on the over-the-
counter NASDAQ exchange under the trading symbol MBVT. Quarterly
stock prices during the last eight quarters are as indicated below
based upon quotations as provided by the National Association of
Securities Dealers, Inc. Prices of transactions between private
parties may vary from the ranges quoted below.
CASH DIVIDEND
QUARTER ENDING HIGH LOW PAID PER SHARE
March 31, 1993 $17.00 $14.75 .20
June 30, 1993 16.50 10.25 *
September 30, 1993 16.00 11.25 *
December 31, 1993 15.00 11.00 *
March 31, 1994 14.75 9.00 *
June 30, 1994 13.50 9.00 *
September 30, 1994 17.00 11.25 *
December 31, 1994 14.00 8.50 *
*Cash dividends were suspended for the second, third and
fourth quarters of 1993, and for all four quarters of 1994.
As of December 31, 1994 Merchants Bancshares, Inc. had 1,512
shareholders.
ITEM 6 - SELECTED FINANCIAL DATA
The supplementary financial data presented in the following
tables and narrative contains information highlighting certain
significant trends in the Company's financial condition and results
of operations over an extended period of time.
The following information should be analyzed in conjunction
with the year-end audited consolidated financial statements as
contained in the 1994 Annual Report to Shareholders, a copy of
which is attached as an addendum to this Form 10K.
The five-year summary of operations, interest management
analysis, and management's discussion and analysis, all as
contained on pages 23 through 30 in the 1994 Annual Report to
Shareholders are herein incorporated by reference.
Tables included on the following pages 12 through 16 concern
the following:
Deposits; return on equity and assets; short-term borrowings;
distribution of assets, liabilities, and stockholders' equity;
analysis of changes in net interest income; and the composition and
maturity of the loan portfolio.
DEPOSITS
The following schedule shows the average balances of various
classifications of deposits. Dollar amounts are expressed in
thousands.
1994 1993 1992
Demand Deposits $ 91,853 $ 81,761 $ 68,494
Savings, Money Market and
NOW Accounts 310,613 315,254 272,729
Time Deposits Over $100,000 18,135 17,752 18,170
Other Time Deposits 177,198 155,227 132,971
-------- -------- --------
Total Average Deposits $597,799 $569,994 $492,364
======== ======== ========
Time Deposits over $100,000 at December 31, 1994 had the
following schedule of maturities (In Thousands):
Three Months or Less $ 1,865
Over Three to Six Months 7,904
Over Six to Twelve Months 3,895
Over Twelve Months 2,943
Over Five Years 6,674
-------
Total $23,281
=======
RETURN ON EQUITY AND ASSETS
The return on average assets, return on average equity,
dividend payout ratio and average equity to average assets ratio
for the three years ended December 31, 1994 were as follows:
1994 1993 1992
Return on Average Total Assets -0.41% -0.82% 0.94%
Return on Average Stockholders' Equity -6.24% -11.92% 11.01%
Dividend Payout Ratio N/A N/A 58.48%
Average Stockholders' Equity to
Average Total Assets 6.53% 6.88% 8.56%
SHORT-TERM BORROWINGS
For this information refer to notes 8 and 9 to the financial
statements of the Company, as contained in the Annual Report to
Shareholders, which is herein incorporated by reference.
<TABLE>
Distribution of Assets, Liabilities and Stockholders' Equity; Interest Rates and Interest Differential
The following table presents the condensed annual average balance sheets for 1994, 1993 and 1992. The total dollar
amount of interest income from assets and the subsequent yields calculated on a taxable equivalent basis as well as
the interest paid on interest bearing liablilities, expressed in dollars and rates are also shown in the table.
<CAPTION>
(All Dollars are in Thousands) 1994 1993 1992
---------------------------- ----------------------------- ---------------------------
Interest Average Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
ASSETS: Balance Expense Rate Balance Expense Rate Balance Expense Rate
Investment Securities: ------- -------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury and Agencies $89,183 $3,508 3.93% $98,971 $3,655 3.69% $92,184 $4,306 4.67%
States & Political Subdivisions 0 0 0.00% 143 12 8.39% 10 1 10.00%
Other, Including FHLB Stock 8,178 535 6.54% 8,900 667 7.49% 3,733 242 6.48%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Investment Securities $97,361 $4,043 4.15% $108,014 $4,334 4.01% $95,927 $4,549 4.74%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Loans, Including Fees on Loans:
Commercial (a) (b) 117,948 10,128 8.59% 111,353 9,236 8.29% 105,489 10,174 9.64%
Real Estate 396,176 36,959 9.33% 380,810 35,639 9.36% 317,865 32,685 10.28%
Consumer 19,710 2,167 10.99% 23,642 2,728 11.54% 18,692 2,239 11.98%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Loans $533,834 $49,254 9.23% $515,805 $47,603 9.23% $442,046 $45,098 10.20%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Federal Funds Sold $7,865 $315 4.01% $3,230 $97 3.00% $4,939 $168 3.40%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Earning Assets $639,060 $53,612 8.39% $627,049 $52,034 8.30% $542,912 $49,815 9.18%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Reserve for Possible Loan Losses (18,991) (11,488) (7,480)
Cash and Due From Banks 31,910 29,177 27,312
Premises and Equipment 16,349 15,166 15,279
Other Assets 40,749 45,611 24,293
-------- -------- --------
Total Assets $709,077 $705,515 $602,317
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Time Deposits:
Savings, Money Market &
NOW Accounts $309,490 $8,420 2.72% $315,254 $8,546 2.71% $277,330 $11,011 3.97%
Certificates of Deposit
over $100,000 22,248 1,336 6.01% 25,578 1,394 5.45% 22,173 765 3.45%
Other Time 177,250 8,096 4.57% 148,364 7,109 4.79% 123,081 7,913 6.43%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Time Deposits $508,988 $17,852 3.51% $489,196 $17,049 3.49% $422,584 $19,689 4.66%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Federal Funds Purchased 1,167 57 4.88% 2,197 88 4.01% 1,791 94 5.25%
Securities Sold Under Agreement
to Repurchase 19 1 5.26% 7,688 229 2.98% 5,117 187 3.65%
Demand Notes Due U.S. Treas 3,130 120 3.83% 3,540 97 2.74% 3,498 119 3.40%
Other Interest Bearing Liabilities 4,555 303 6.65% 5,471 290 5.30% 3,672 264 7.19%
Debt 50,575 4,044 8.00% 58,337 4,272 7.32% 42,171 3,698 8.77%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Interest Bearing
Liabilities $568,434 $22,377 3.94% $566,429 $22,025 3.89% $478,833 $24,051 5.02%
-------- ------- -------- -------- -------- -------- -------- -------- --------
Demand Deposits 89,318 81,761 68,324
Other Liabilities 4,994 8,814 3,612
Stockholders' Equity 46,331 48,511 51,548
-------- -------- --------
Total Liabilities &
Stockholders' Equity $709,077 $705,515 $602,317
======== ======== ========
Net Interest Income (a) $31,235 $30,009 $25,764
======== ======== ========
Yield Spread 4.45% 4.41% 4.15%
===== ===== =====
NET INTEREST INCOME TO EARNING ASSETS 4.89% 4.79% 4.75%
===== ===== =====
(a) Tax exempt interest has been converted to a tax equivalent basis by tax effecting such interest at the
Federal tax rate of 34%.
(b) Includes non-accruing loans.
</TABLE>
<TABLE>
Merchants Bancshares, Inc
Analysis of Changes in Net Interest Income
The following table sets forth, for each major category of interest earning assets and interest bearing liabilities,
the dollar amounts (in thousands) of interest income (calculated on a taxable equivalent basis) and interest expense
and change therein for 1994 as compared with 1993 and 1993 as compared with 1992.
<CAPTION>
1994 vs 1993 1993 vs 1992
------------------------------------------- -------------------------------------------
Increase --Due to (a)-- Increase --Due to (a)--
1994 1993 (Decrease) Volume Rate 1993 1992 (Decrease) Volume Rate
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Interest Income:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Loans $49,254 $47,603 $1,651 $1,664 ($13) $47,603 $45,098 $2,505 $6,808 ($4,303)
Investment Income:
Taxable 4,043 4,322 (279) (432) 153 4,322 4,548 (226) 637 (863)
Non-Taxable 0 12 (12) (12) (0) 12 1 11 11 (0)
Federal Funds Sol 315 97 218 186 32 97 168 (71) (51) (20)
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Total $53,612 $52,034 $1,578 $1,406 $171 $52,034 $49,815 $2,219 $7,404 ($5,186)
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Less Interest Expense:
Savings, Money Market
& Now Accounts $8,420 $8,546 ($126) ($157) $31 $8,546 $11,011 ($2,465) $1,028 ($3,493)
Certificates of Deposit
Over $100,000 1,336 1,394 (58) (200) 142 1,394 765 629 186 443
Other Time 8,096 7,109 987 1,313 (326) 7,109 7,913 (804) 1,211 (2,015)
Federal Funds Purchased 57 88 (31) (50) 19 88 94 (6) 16 (22)
Securities Sold Under
Agreement to Repurchase 1 229 (228) (403) 175 229 187 42 77 (35)
Demand Note - U.S. Treasury 120 97 23 (16) 39 97 119 (22) 1 (23)
Debt and Other Borrowings 4,347 4,562 (215) (685) 470 4,562 3,962 600 1,282 (682)
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Total $22,377 $22,025 $352 ($198) $550 $22,025 $24,051 ($2,026) $3,800 ($5,827)
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Net Interest Income $31,235 $30,009 $1,226 $1,604 ($378) $30,009 $25,764 $4,245 $3,603 $640
======= ======= ======== ======= ======= ======= ======= ======== ======= =======
(a) The dollar amount of changes in interest income and interest expense attributable to changes in rate and volume
has been allocated between rate and volume based upon the changes in rates times the first year's volume and
the changes in volume times the current year's rate.
Note: Included in Interest Income are fees on loans totaling $3,571, $4,598 and $4,326 for the years ended
December 31, 1994, 1993 and 1992, respectively.
</TABLE>
LOAN PORTFOLIO
The following tables display the composition of the Bank's
loan portfolio for the consecutive five year period 1990 through
1994, along with a schedule profiling the loan maturity
distribution over the next five years.
COMPOSITION OF LOAN PORTFOLIO
The table below presents the composition of the Bank's loan
portfolio by type of loan as of December 31 for each of the past
five years. All dollar amounts are expressed in thousands.
Amounts are shown gross of net deferred loan fees of $1,132,494 in
1994, $1,310,416 in 1993, $1,183,400 in 1992, $1,098,100 in 1991
and $955,000 in 1990, which principally relate to real estate
mortgages.
----------------As of December 31,--------------
Type of Loan 1994 1993 1992 1991 1990
Commercial, Financial
& Agricultural $ 88,201 $ 98,936 $ 76,141 $120,033 $129,830
Industrial Revenue Bonds 4,411 6,695 8,721 11,968 16,296
Real Estate-Construction 21,992 30,526 18,776 16,392 23,763
Real Estate - Mortgage 377,429 413,112 305,513 294,769 288,845
Installment 18,086 22,836 18,332 20,930 25,070
Lease Financing 0 42 630 1,769 4,144
All Other Loans 436 1,324 1,422 4,287 7,452
-------- -------- -------- -------- --------
Total Loans $510,555 $573,471 $429,535 $470,148 $495,400
PROFILE OF LOAN MATURITY DISTRIBUTION
The table below presents the distribution of the varying
maturities or repricing opportunities of the loan portfolio at
December, 1994. All dollar amounts are expressed in thousands.
Over One
One Year Through Over Five
Or Less 5 Years Years Total
--------- ---------- --------- --------
Commercial Loans, Industrial
Revenue Bonds, Lease Financing
and All Other Loans $ 59,012 $ 23,698 $10,338 $93,048
Real Estate Loans 237,270 96,197 65,954 399,421
Installment Loans 5,342 12,386 358 18,086
-------- -------- ------- --------
$301,624 $132,281 $76,650 $510,555
======== ======== ======= ========
Residential mortgage lending slowed during 1994 after two
years of very heavy refinancing volume. Approximately 63% of the
Bank's 1994 mortgage activity was for refinancing of existing debt.
In 1994, a total of 490 one-to-four family residential mortgage
loans were closed by the bank, totalling $44.8 million.
Approximately 93% of these originations were sold on the secondary
market and the remaining 7%, or $3.5 million were placed in the
bank's portfolio. The bank currently services $335 million in
residential mortgage loans, $259.3 of which it services for other
investors such as federal government agencies (FNMA and FHLMC) and
for financial investors such as insurance companies and pension
funds located outside Vermont. At the end of 1994, the bank had
130 residential mortgage loans in various stages of processing.
Approximately 40% of these loans were refinancings of existing
debt.
During 1994, the Bank remained an active participant in the
U.S. Small Business Administration guaranteed loan program. Sixty-
six new SBA loans totalling $8.22 million were originated during
1994 with SBA guarantees ranging from 70% to 90%. This volume of
new lending activity represents an increase of 15% over
originations during 1993.
Approximately 79% of all new SBA loans originated during 1994
were sold to secondary market investors located outside Vermont.
This selling activity has the positive effect on Vermont of
importing capital into the State from other parts of the country.
SBA guarantees are advantageous to the Bank because they reduce
risk in the Bank's loan portfolio and allow the bank to increase
it's commercial loan base and market share with minimal impact on
capital.
During 1994, the Bank originated 746 commercial loans
totalling $134.6 million. This lending activity represented an
increase of approximately 26% of new loan volume over that
experienced in 1993. Commercial loans were originated throughout
Vermont.
LOAN REVIEW
The Bank's Board of Directors grants each loan officer the
authority to originate loans on behalf of the Bank. The Board also
establishes restrictions regarding the types of loans that may be
granted and sets loan authority limits for each lender. These
authorized lending limits are established at least annually and are
based upon the lender's job assignment, training, and experience.
Loan requests that exceed a lender's authority are referred to
senior loan officers having higher lending authorities. All
extensions of credit of $2.5 million to any one borrower, or
related party interest, are reviewed and approved by the Bank's
Board of Directors.
By using a variety of management reports, the Bank's loan
portfolio is continuously monitored by the Board of Directors,
senior loan officers, and the loan review department. The loan
portfolio as a whole, as well as individual loans, are reviewed for
loan performance, credit worthiness, and strength of documentation.
Credit ratings are assigned to commercial loans and routinely
reviewed.
All loan officers are required to service their own loan
portfolios and account relationships. As necessary, loan officers
or the loan workout function take remedial actions to assure full
and timely payment of loan balances.
LOAN QUALITY AND RESERVES FOR POSSIBLE LOAN LOSSES (RPLL)
Merchants Bancshares, Inc. reviews the adequacy of the RPLL at
least quarterly. The method used in determining the amount of the
RPLL is not based upon maintaining a specific percentage of RPLL to
total loans or total nonperforming assets, but rather a
comprehensive analytical process of assessing the credit risk
inherent in the loan portfolio. This assessment incorporates a
broad range of factors which are indicative of both general and
specific credit risk, as well as a consistent methodology for
quantifying probable credit losses. As part of the Merchants
Bancshares, Inc.'s analysis of specific credit risk, a detailed and
extensive review is done on larger credits and problematic credits
identified on the watched asset list, nonperforming asset listings,
and credit rating reports.
The more significant factors considered in the evaluation of the
adequacy of the RPLL based on the analysis of general and specific
credit risk include:
- Status of nonperforming loans
- Status of adversely classified credits
- Historic charge off experience by major loan category
- Size and composition of the loan portfolio
- Concentrations of credit risk
- Renewals and extensions
- Current local and general economic conditions and trends
- Loan growth trends in the portfolio
- Off-balance sheet credit risk relative to
commitments to lend
Overall, management maintains the RPLL at a level deemed to be
adequate, in light of historical, current and prospective factors,
to reflect the level of risk in the loan portfolio.
An analysis of the allocation of the RPLL follows. Both the
specific and general components of the RPLL are grouped by loan
categories. The allocation of the RPLL is based upon loan loss
experience, loan portfolio composition, and an assessment of
possible future loan losses in the categories shown.
Allocation of the Reserve for Possible Loan Losses
December 31, 1994
(000's omitted)
Percent of
loans in each
Balance at End of Period Percent category to
Applicable to: Amount Allocation total Loans
----------------------------------------------------------------------
Domestic:
Commercial, Financial, and
Agricultural & IRB's $5,000 25% 18%
Real Estate - Construction 1,500 8% 4%
Real Estate - Mortgage 13,000 65% 74%
Installment Loans to Individuals 350 2% 4%
All Other Loans 79 0% 0%
----------------------------------------------------------------------
Total: $19,929 100% 100%
======================================================================
Key data that are used in the assessment of the loan portfolio and
the analysis of the adequacy of the RPLL are presented in the
tables and schedules that follow in this discussion. Loan loss
experience and nonperforming asset data are presented and discussed
in relation to their impact on the adequacy of the RPLL.
The table below reflects the Bank's loan loss experience and activity in
the RPLL for the past five years. All dollar amounts are expressed in
thousands.
LOAN LOSSES AND RPLL RECONCILIATION
Year Ended December 31,
1994 1993 1992 1991 1990
--------- --------- --------- --------- --------
Average Loans $514,843 $515,805 $441,291 $471,141 $488,792
======== ======== ======== ======== ========
Reserve for Possible Loan Losses
at Beginning of Year 20,060 7,412 6,650 5,075 5,151
Loans Charged Off (NOTE 1): -------- -------- -------- -------- -----
Commercial, Lease Financing
and all Other Loans (3,356) (5,567) (2,938) (3,367) (2,318)
Real Estate - Construction (1,159) (275) (253) (1,802) 0
Real Estate - Mortgage (7,673) (7,651) (4,096) (718) (2,236)
Installment & Credit Cards (462) (459) (452) (617) (575)
--------- --------- --------- -------- -------
Total Loans Charged Of (12,650) (13,952) (7,739) (6,504) (5,129)
--------- --------- -------- -------- -------
Recoveries on Loans:
Commercial, Lease Financing
and all Other Loans 1,187 392 232 366 471
Real Estate - Construction 400 0 0 379 0
Real Estate - Mortgage 769 301 108 0 3
Installment & Credit Cards 163 85 111 91 87
--------- --------- --------- -------- --------
Total Recoveries on Loans $2,519 $778 $451 $836 $561
--------- --------- --------- -------- --------
Net Loans Charged Off ($10,131) ($13,174) ($7,288) ($5,668) ($4,568)
--------- --------- -------- -------- --------
Provision for Loan Losses:
Charged to Operations (NOTE 2) 10,000 23,822 8,050 7,243 4,492
Loan Loss Reserve (Note 3) 2,000
------- ------- ------ ------ ------
Reserve for Possible Loan Losses
at End of Year $19,929 $20,060 $7,412 $6,650 $5,075
======= ======= ====== ====== ======
Loan Loss Reserve to Total Loans
at Year End 3.90% 3.50% 1.73% 1.41% 1.03%
Ratio of Net Charge Offs During
the Year to Average Loans
Outstanding During the Year 1.97% 2.28% 1.63% 1.20% 0.95%
NOTE 1: Prior to 1991, loans secured by real estate were not broken out
between construction and permanent financing for purposes of loan charge off
and recovery analysis.
NOTE 2: The loan loss provision is charged to operating expense. When actual
losses differ from these estimates, and if adjustments are considered
necessary, they are reported in operations in the periods in which they
become known.
NOTE 3: See Note 10 to the consolidated financial statements regarding the
acquisition of New First National Bank of Vermont.
The slight decrease in the reserve for possible loan losses from $20,060,000
at December 31, 1993 to $19,929,000 at December 31, 1994, reflects
management's in-depth analysis of the RPLL and efforts to maintain the
reserve at an appropriate level to provide for potential loan losses based on
the evaluation of known and inherent risks in the loan portfolio. The
provision for loan losses decreased from $23,822,000 in 1993 to $10,000,000
in 1994. This was partly driven by net loans charged off by the Company in
1993 of $13,174,000.
NONPERFORMING ASSETS
The following tables summarize the Bank's nonperforming assets. The first
table shows a breakout of nonperforming assets covered by a loss sharing
arrangement related to the acquisition of the NFNBV on June 4, 1993. The
terms of the Purchase and Assumption Agreement related to the purchase of
NFNBV require that the FDIC pay the Bank 80% of net charge-offs up to
$41,100,000 on any loans that qualify as loss sharing loans for a period of
three years from the date of the acquisition. If net charge offs on
qualifying loss sharing loans exceed $41,100,000 during the three year
period, the FDIC is required to pay 95% of such qualifying charge offs. This
arrangement significantly reduces the exposure that the Bank faces on NPAs
that are covered by loss sharing. Nonperforming assets (NPAs) covered by
loss sharing totaled $10,455,000 and $17,469,000 at December 31, 1994 and
1993, respectively. The aggregate amount of loans covered by the loss
sharing arrangement at December 31, 1994 was $95,802,000 and $132,879,208 at
December 31, 1993.
Nonperforming assets as of December 31, 1994 were:
Segregated
Loans Loans Total
-----------------------------------------------------------------------
Nonaccrual Loans $24,251,987 $7,948,632 $32,200,619
Restructured Loans 5,016,123 66,731 5,082,854
Loans Past Due 90 Days or
More and Still Accruing 668,007 0 668,007
Other Real Estate Owned, Net 10,791,262 2,439,545 13,230,807
----------- ----------- -----------
Total: $40,727,379 $10,454,908 $51,182,287
=========== =========== ===========
The following table shows nonperforming assets as of year end 1990 through
1994 (in thousands):
1994 1993 1992 1991 1990
---------------------------------------------------------------------------
Nonaccrual Loans $32,200 $47,069 $12,148 $8,333 $2,914
Loans Past Due 90 Days or
More and Still Accruing 668 715 7,251 8,613 5,908
Restructured Loans 5,083 2,841 1,838 5,679 0
------ ------ ------ ------ ------
Total Nonperforming Loans: 37,951 50,625 21,237 22,625 8,822
------ ------ ------ ------ ------
Other Real Estate Owned 13,231 13,674 12,662 6,110 4,652
------ ------- ------- ------- -------
Total Nonperforming Assets: $51,182 $64,299 $33,899 $28,735 $13,474
======= ======= ======= ======= =======
Percentage of Nonperforming
Loans to Total Loans 7.43% 8.83% 4.94% 4.81% 1.78%
Percentage of Nonperforming
Assets to Total Loans plus Other
Real Estate Owned 9.77% 10.95% 7.67% 6.03% 2.70%
======= ======= ======== ======= =======
The nonperforming assets table above showed an increasing trend in
nonperforming assets until December 31, 1993. Historically, the Company has
worked closely with borrowers and also pursued vigorous collection efforts.
The Company continued its efforts to collect on troubled assets during 1994.
The Company's enhanced Loan Review and Loan Workout functions provided
resources to address collection strategies for nonperforming assets.
Based upon the result of the Company's assessment of the factors
affecting the RPLL, as noted in this discussion, management believes that
the balance of the RPLL at December 31, 1994, is adequate.
DISCUSSION OF 1994 EVENTS AFFECTING THE RESERVE FOR POSSIBLE LOAN LOSSES
(RPLL)
Nonperforming assets declined from $64,299,000 at December 31, 1993 to
$51,182,000 at December 31, 1994. Net charge offs during 1994 were
$10,131,000 which accounted for part of the reduction. Paydowns, payoffs,
return to performing status, and OREO sales resulted in a further decrease in
NPAs.
12-31-94 9-30-94 6-30-94 3-31-94 12-31-93
-------- -------- -------- -------- --------
Nonaccrual Loans $32,200 $28,385 $39,166 $43,091 $47,069
Loans Past Due 90 days
or more and still Accruing 668 106 558 109 715
Restructured Loans 5,083 5,014 2,892 1,915 2,841
Other Real Estate Owned, Net 7,389 10,898 10,759 9,784 6,235
In-substance Foreclosure, Net 5,842 4,685 5,195 5,430 7,439
------- ------- ------- ------- -------
Total: $51,182 $49,088 $58,570 $60,329 $64,299
======= ======= ======= ======= =======
The more significant events affecting NPAs are discussed below:
NONACCRUAL LOANS:
Nonaccrual loans declined from $47,069,000 at December 31, 1993 to
$32,200,000 at December 31, 1994. The decline resulted from charge offs,
payments, and return to accruing status. The increase in nonaccrual loans
from September 30, 1994 to December 31, 1994 is due primarily to one
borrowing relationship. This $5.8 million relationship was re-analyzed in
the fourth quarter as the result of a softening in the market.
LOANS PAST DUE 90 DAYS OR MORE AND STILL ACCRUING:
The Bank generally places loans that become 90 or more days past due on
nonaccrual status. If the ultimate collectability of principal and interest
is assured, loans may continue to accrue and be left in this category. The
loan amount shown in this category was evaluated and full collection of
principal and interest is probable.
RESTRUCTURED LOANS:
Restructured loans (TDRs) increased during 1994 from $2,841,000 at
December 31, 1993 to $5,083,000 at December 31, 1994. Two relationships for
$1,325,000 and $3,397,000, respectively, previously shown as nonaccruing were
returned to accrual status. These two relationships migrated to the TDR
category from non-accrual since performance after restructuring had not
spanned a year end accounting period. One relationship for $1,323,000 which
had performed at market rates and terms for fourteen (14) months was returned
to performing status. Payoffs accounted for approximately $1 million in
reduction in TDRs during 1994.
OTHER REAL ESTATE OWNED AND IN-SUBSTANCE FORECLOSURE:
The Bank had notable success in 1994 in disposing of OREO and continues
to aggressively market such properties. However, OREO increased from
$6,235,000 at December 31, 1993 to $7,389,000 at December 31, 1994.
Larger balance additions to OREO were:
- an apartment complex for $1.5 million
- a commercial building lot for $800,000
- a residential development for $2 million
Larger balance reductions were:
- a commercial office building for $637,000
- Five separate commercial buildings for $1,770,000
- A multi-function commercial building for $750,000
The fourth quarter reduction in OREO results from sales and from a $2.1
million provision to valuation reserves allocated against specific OREO
properties.
OREO includes specific assets to which legal title has been taken as the
result of transactions related to real estate loans.
In-substance Foreclosures (ISF) decreased from $7,439,000 at December 31,
1993 to $5,842,000 at December 31, 1994. Payments or payoffs of
approximately $1.2 million were received and one ISF was transferred to OREO
for $2 million. Six loans were reclassified as ISF totalling approximately
$1.4 million.
The criteria for designation of loans as in-substance foreclosures are
that the debtor has little or no equity in the collateral, proceeds for
repayment of the loan will come only from the operation or sale of the
collateral, and the debtor has formally or effectively abandoned control of
the assets or is not expected to rebuild equity in the collateral. The
collateral underlying these loans is recorded at the lower of cost or market
value less estimated selling costs.
The total amount of Other Real Estate Owned and In-Substance Foreclosures
at December 31 in each of the last five years is as follows:
1994 1993 1992 1991 1990
----------------------------------------------
Other Real Estate Owned 7,389 6,235 3,874 2,650 1,968
In-Substance Foreclosure 5,842 7,439 8,787 3,460 2,684
------- ------- ------- ------ ------
Total: $13,231 $13,674 $12,661 $6,110 $4,652
======= ======= ======= ====== ======
POLICIES AND PROCEDURES RELATING TO THE ACCRUAL OF INTEREST INCOME
The Bank normally recognizes income on earning assets on the accrual
basis, which calls for the recognition of income as earned, as opposed to
when it is collected.
The Bank's policy is to discontinue the accrual of interest on loans when
scheduled payments become contractually past due in excess of 90 days and the
ultimate collectability of principal or interest becomes doubtful. Interest
previously accrued is reversed if management deems the past due conditions to
be an indication of uncollectability. Also, loans may be placed on a
nonaccrual basis at any time prior to the period specified above if
management deems such action to be appropriate.
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Management's Discussion and Analysis of the Financial Condition and
Results of Operations as contained on pages 25 through 30 of the Company's
1994 Annual Report to Shareholders is incorporated herein by reference.
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated balance sheets of Merchants Bancshares, Inc. as of
December 31, 1994 and 1993, and the related consolidated statements of
operations, changes in stockholders' equity and cash flows, for each of the
three years in the period ended December 31, 1994 together with the related
notes and the opinion of Arthur Andersen LLP, independent public accountants,
all as contained on pages 5 through 33 of the Company's 1994 Annual Report to
Shareholders are incorporated herein by reference.
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
None.
Part III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's executive officers, directors and ten percent shareholders to file
initial reports of ownership and reports of changes of ownership of the
Company's common stock with the Securities and Exchange Commission. Based
upon a review of these filings, there were no late filings of SEC Form 4's
during 1994.
ITEM 11 - EXECUTIVE COMPENSATION
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Reference is hereby made to pages 3 through 13 of the Company's Proxy
Statement to Shareholders dated March 24, 1995, wherein pursuant to
Regulation 14 A information concerning the above subjects (Items 10 through
13) is incorporated by reference.
Pursuant to Rule 12 b-23, definitive copies of the Proxy Statement will
be filed within 120 days subsequent to the end of the Company's fiscal year
covered by Form 10-K.
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(1) The following consolidated financial statements as included in the 1994
Annual Report to Shareholders, are incorporated herein by reference:
Consolidated Balance Sheets, December 31, 1994 and December 31, 1993.
Consolidated Statements of Operations for years ended December 31, 1994,
1993, 1992.
Consolidated Statements of Changes in Stockholder's Equity for years
ended December 31, 1994, 1993, 1992.
Consolidated Statements of Cash Flows for the years ended December 31,
1994, 1993, 1992.
Notes to Consolidated Financial Statements, December 31, 1994.
(2) The following exhibits are either filed or attached as part of this
report, or are incorporated herein by reference.
Exhibit Description
(3a) Restated Certificate of Incorporation of the
Company, filed on April 25, 1987 as Exhibit B to
the Proxy Statement filed as part of the pre-
effective amendment No. 1 to the Company's
Registration Statement on Form S-14 (Registration
No. 2-86103) is incorporated herein by reference.
(3b) Amended By-Laws of the Company, filed on April 25,
1987 as Exhibit C to the Company's Proxy Statement
is incorporated herein by reference.
(4) Investments, defining the rights of security
holders including indentures; incorporated by
reference from the Registrant's Form S-14
Registration Statement (Registration No. 2-86103),
as filed on September 14, 1983.
(10) Material Contracts: The following are major
contracts preceded by applicable number to
Registrant's Form S-14 (Registration No. 2-86103)
and are incorporated herein by reference.
15 (10a) Service Agreement as amended between First
Data Resources, Inc., and Registrant dated June
1993 (effective through May 1998) for Mastercard
Services.
17 (10c) 401(k) Employee Stock Ownership Plan of
Registrant, dated January 1, 1990, for the
employees of the Bank.
19 (10d) Merchants Bank Pension Plan, as amended and
restated on January 1, 1989, for employees of the
Bank.
20 (10e) Agreement between Specialty Underwriters,
Inc., and Registrant dated January 12, 1993 for
equipment maintenance services.
(11) Statement re: computation of per share earnings.
(13) 1994 Annual Report to Shareholders is furnished
for the information of the Commission only and is
not to be deemed filed as part of this report,
except as expressly provided herein.
(23) The Registrant's Proxy Statement to Shareholders
for the calendar year ended December 31, 1994 will
be filed within 120 days after the end of the
Company's fiscal year.
Other schedules are omitted because of the
absence of conditions under which they are
required, or because the required information is
provided in the financial statements or notes
thereto.
(23a) Reports on Form 8-K
The Company filed a Form 8-K with the Securities
and Exchange Commission on June 4, 1993.
This report detailed the terms and conditions of
a Purchase and Assumption Agreement among the
Federal Deposit Insurance Corporation, Receiver
of the New First National Bank of Vermont,
National Association, the Federal Deposit
Insurance Corporation and The Merchants Bank,
dated June 4, 1993.
INDEMNIFICATION UNDERTAKING BY REGISTRANT
In connection with Registrant's Form S-8 Registration Statement under the
Securities Act of 1933 with respect to the Registrant's 401(k) Employee Stock
Ownership Plan, the Registrant hereby undertakes as follows, which
undertaking shall be incorporated by reference into such Registration
Statement on Form S-8:
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons
of the registrant pursuant to the foregoing provisions, or otherwise, the
registrant has been advised that in the opinion of the Securities and
Exchange Commission, such indemnification is against public policy as
expressed in the Securities Act of 1933 and is, therefore, unenforceable. In
the event that a claim for indemnification against such liabilities (other
than the payment by the registrant of expenses incurred or paid by a
director, officer or controlling person of the registrant in the successful
defense of any action, suit or proceeding) is asserted by such director,
officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel, the
matter has been settled by controlling precedent, submit to a court of
appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Act and will be governed by the
final adjudication of such issue.
SIGNATURES
Pursuant to the requirement of Section 13 or 15 (d) of the Securities
Exchange Act of 1934 the registrant has duly caused this report to be signed on
it's behalf by the undersigned, thereunto duly authorized.
Merchants Bancshares, Inc.
Date March 24, 1995 by S/Joseph L. Boutin
------------------ ----------------------------
Joseph L. Boutin, President & CEO
Pursuant to the requirement of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of MERCHANTS
BANCSHARES, INC., and in the capacities and on the date as indicated.
by S/Joseph L. Boutin by S/ Peter A. Bouyea
------------------------------- ------------------------------
Joseph L. Boutin, Director, President Peter A. Bouyea, Director
& CEO of the Company and the Bank
by by S/Dudley H. Davis
------------------------------- ------------------------------
Charles A. Davis, Director Dudley H. Davis, Director
Chairman of the Board of Directors
by S/ Jeffrey L. Davis by S/Jack DuBrul, II
------------------------------- ------------------------------
Jeffrey L. Davis, Director Jack DuBrul,II, Director
by S/Michael G. Furlong by
------------------------------- ------------------------------
Michael G. Furlong, Director Thomas F. Murphy, Director
by S/Edward W. Haase by
------------------------------- -----------------------------
Edward W. Haase, Treasurer and Leo O'Brien, Jr, Director
Chief Financial Officer of the Company
Senior Vice President and Treasurer of
the Bank
by by S/Patrick S. Robins
------------------------------- ------------------------------
Raymond C. Pecor, Jr., Director Patrick S. Robins, Director
by by S/Robert A. Skiff
------------------------------- ------------------------------
Benjamin F. Schweyer, Director Robert A. Skiff, Director
by
-------------------------------
Susan D. Struble, Director
Report of Independent Public Accountants
To the Stockholders and Board of Directors of Merchants
Bancshares, Inc.:
We have audited the accompanying consolidated balance sheets of
Merchants Bancshares, Inc. (a Delaware corporation) and
subsidiaries as of December 31, 1994 and 1993, and the related
consolidated statements of operations, changes in
stockholders'equity and cash flows for each of the three years in
the period ended December 31, 1994. These consolidated financial
statements are the responsibility of the Company'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 consolidated financial statements are free of material
misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
consolidated 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 consolidated
financial position of Merchants Bancshares, Inc. and subsidiaries
as of December 31, 1994 and 1993, and the consolidated results of
their operations and their cash flows for each of the three years
in the period ended December 31, 1994, in conformity with
generally accepted accounting principles.
As explained in Note 2 to the consolidated financial statements,
the Company adopted, effective December 31, 1993, Statement of
Financial Accounting Standards No. 115, "Accounting for Certain
Investments in Debt and Equity Securities."
ARTHUR ANDERSEN LLP
Boston, Massachusetts
January 27, 1995<PAGE>
<TABLE>
Merchants Bancshares, Inc.
Consolidated Balance Sheets
<CAPTION>
At December 31, 1994 1993
------------------------------------------------------------------------------------------------
ASSETS:
<S> <C> <C>
Cash and Due from Banks (Note 2) $ 34,851,401 $ 30,587,986
Investment Securities Available for Sale (Notes 2 and 3):
Debt Securities 90,470,922 85,505,677
Marketable Equity Securities 1,195,897 1,451,793
Debt Securities Held to Maturity (Market Value $9,871,875) 10,084,646 0
------------------------------------------------------------------------------------------------
Total Investment Securities 101,751,465 86,957,470
------------------------------------------------------------------------------------------------
Loans (Notes 2 and 4) 414,752,749 440,592,392
Segregated Assets (Notes 4 and 10) 95,802,303 132,879,208
Reserve for Possible Loan Losses (19,928,817) (20,060,059)
------------------------------------------------------------------------------------------------
Net Loans 490,626,235 553,411,541
------------------------------------------------------------------------------------------------
Federal Home Loan Bank Stock 6,856,200 5,573,700
Premises and Equipment, Net (Notes 2 and 5) 16,620,173 16,148,102
Investments in Real Estate Limited Partnerships (Note 2) 3,593,818 4,609,901
Other Real Estate Owned, Net 13,230,807 13,674,259
Other Assets (Note 7) 27,306,440 24,084,495
------------------------------------------------------------------------------------------------
Total Assets $ 694,836,539 $ 735,047,454
---------------------------------------------------------------------============---============
LIABILITIES:
Deposits:
Demand $ 94,467,122 $ 96,413,399
Savings, NOW and Money Market Accounts 293,655,696 321,821,034
Time Deposits Over $100,000 23,280,762 21,214,667
Other Time 170,820,804 179,860,784
------------------------------------------------------------------------------------------------
Total Deposits 582,224,384 619,309,884
Other Borrowed Funds (Note 8) 18,294,734 14,924,081
Other Liabilities (Notes 6 and 7) 7,788,085 8,460,061
Debt (Note 9) 44,229,366 46,633,422
------------------------------------------------------------------------------------------------
Total Liabilities $ 652,536,569 689,327,448
------------------------------------------------------------------------------------------------
Commitments and Contingencies (Note 13)
STOCKHOLDERS' EQUITY (Notes 11 and 12):
Preferred Stock
Class A:
$.01 par value, non-voting
Shares Authorized: 200,000
Shares Outstanding: None 0 0
Class B:
$.01 par value, voting
Shares Authorized: 1,500,000
Shares Outstanding: None 0 0
Common Stock, $.01 par value
Shares Authorized: 4,700,000
Shares Issued: 4,242,927 42,429 42,429
Capital in Excess of Par Value 30,647,120 30,647,120
Retained Earnings 12,462,820 15,352,844
Treasury Stock (at Cost) 12,733 Shares (178,730) (178,730)
Net Unrealized Depreciation of Investment Securities Available
for Sale, Net of Taxes (673,669) (143,657)
------------------------------------------------------------------------------------------------
Total Stockholders' Equity 42,299,970 45,720,006
------------------------------------------------------------------------------------------------
Total Liabilities and Stockholders' Equity $ 694,836,539 $ 735,047,454
---------------------------------------------------------------------============---============
The accompanying notes are an integral part of these consolidated financial statements.
</TABLE>
<TABLE>
Merchants Bancshares, Inc.
Consolidated Statements of Operations
<CAPTION>
For the years ended December 31, 1994 1993 1992
-------------------------------------------------------------------------------------------------------------
INTEREST AND DIVIDEND INCOME:
<S> <C> <C> <C>
Interest and Fees on Loans $ 48,938,668 $ 47,268,729 $ 44,521,757
Interest and Dividends on Investments:
U.S. Treasury and Agency Obligations 3,508,523 3,655,198 4,305,553
Obligations of State and Political Subdivisions 0 12,839 700
Other 872,267 537,054 410,565
----------------------------------------------------------------------------------------------------------
Total Interest and Dividend Income 53,319,458 51,473,820 49,238,575
-------------------------------------------------------------------------------------------------------------
INTEREST EXPENSE:
Savings, NOW and Money Market Accounts 8,419,716 8,476,489 11,014,319
Time Deposits Over $100,000 1,335,775 1,394,307 764,656
Other Time 8,095,686 7,108,490 7,910,855
Other Borrowed Funds 495,997 733,817 663,434
Debt 4,029,479 4,242,423 3,697,715
-------------------------------------------------------------------------------------------------------------
Total Interest Expense 22,376,653 21,955,526 24,050,979
-------------------------------------------------------------------------------------------------------------
Net Interest Income 30,942,805 29,518,294 25,187,596
Provision for Possible Loan Losses (Note 4) 10,000,000 23,822,000 8,050,000
-------------------------------------------------------------------------------------------------------------
Net Interest Income after Provision for Possible Loan Losses 20,942,805 5,696,294 17,137,596
-------------------------------------------------------------------------------------------------------------
NON-INTEREST INCOME:
Trust Department Income 1,729,376 1,686,561 1,399,451
Service Charges on Deposits 3,451,507 3,571,376 2,536,267
Merchant Discount Fees 2,123,526 1,741,209 1,422,674
Other 1,411,587 1,555,721 1,388,166
Gains on Investment Securities, net (Note 3) 72,884 1,898,945 3,448,531
FDIC Assistance Received-Loss Sharing (Note 10) 6,248,802 1,674,615 0
-----------------------------------------------------------------------------------------------------------
Total Non-Interest Income 15,037,682 12,128,427 10,195,089
-------------------------------------------------------------------------------------------------------------
NON-INTEREST EXPENSES:
Salaries and Wages 10,664,411 9,590,775 7,827,449
Employee Benefits (Note 6) 2,531,980 2,713,988 2,367,865
Occupancy Expense 2,324,171 1,949,256 1,489,827
Equipment Expense 2,004,352 1,879,764 1,783,293
Losses on and Writedowns of Other Real Estate Owned 3,791,819 1,970,428 833,329
Equity in Losses of Real Estate Limited Partnerships 1,588,914 967,138 1,059,973
Other 9,312,413 7,270,812 5,718,930
Trust Customers' Reimbursement, Net (Note 13) 3,246,100 0 0
Losses and Write-downs of Segregated Assets (Note 10) 6,248,802 1,674,615 0
-------------------------------------------------------------------------------------------------------------
Total Non-Interest Expenses 41,712,962 28,016,776 21,080,666
------------------------------------------------------------------------------------------------------------
Income (Loss) Before Provision (Benefit) for Income Taxes (5,732,475) (10,192,055) 6,252,019
Provision (Benefit) for Income Taxes (Notes 2 and 7) (2,842,451) (4,410,486) 575,508
-------------------------------------------------------------------------------------------------------------
NET INCOME (LOSS) $ (2,890,024) $ (5,781,569) $ 5,676,511
----------------------------------------------------------------============-----============----============
EARNINGS (LOSS) PER SHARE, based upon weighted average common
shares outstanding of 4,230,194 in 1994, 4,216,355 in 1993
and 4,213,941 in 1992 (Note 12): $ (0.68) $ (1.37) $ 1.39
-------------------------------------------------------------- ============-----============----============
The accompanying notes are an integral part of these consolidated financial statements.
</TABLE>
<TABLE>
Merchants Bancshares, Inc.
Consolidated Statements of Changes in Stockholders' Equity
For Each of the Three Years in the Period Ended December 31, 1994
Net Unrealized
<CAPTION> Depreciation
Common Capital in of Investment
Stock Excess of Retained Securities Treasury
(Note 11) Par Value Earnings (Note 2) Stock Total
-----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1991 $ 41,193 $ 28,649,805 $ 21,530,841 $ 0 $ (630,869) $ 49,590,970
Net Income --- --- 5,676,511 --- --- 5,676,511
Treasury Stock Transactions --- 22,061 26,821 --- 206,744 255,626
Cash Dividends ($.78 per share) --- --- (3,320,194) --- --- (3,320,194)
Stock Dividends (123,580 shares issued)
(Note 11) 1,236 1,963,693 (1,964,929) --- --- ---
-----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1992 $ 42,429 $ 30,635,559 $ 21,949,050 $ 0 $ (424,125) $ 52,202,913
Net Loss --- --- (5,781,569) --- --- (5,781,569)
Treasury Stock Transactions --- 11,561 33,948 --- 245,395 290,904
Cash Dividends ($.20 per share) --- --- (848,585) --- --- (848,585)
Effect of a Change in Accounting
Principle (Note 2) (143,657) --- (143,657)
-----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1993 $ 42,429 $ 30,647,120 $ 15,352,844 $ (143,657) $ (178,730) $ 45,720,006
Net Loss --- --- (2,890,024) --- --- (2,890,024)
Change in Net Unrealized Depreciation
of Investment Securities
Available for Sale, Net of Taxes --- --- --- (530,012) --- (530,012)
-----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1994 $ 42,429 $ 30,647,120 $ 12,462,820 $ (673,669) $ (178,730) $ 42,299,970
----------------------------------------------=====================================================================================
Per share amounts have been restated to reflect all stock dividends.
The accompanying notes are an integral part of these consolidated financial statements.
</TABLE>
<TABLE>
Merchants Bancshares, Inc.
Consolidated Statements of Cash Flows
<CAPTION>
For the Years Ended December 31, 1994 1993 1992
CASH FLOWS FROM OPERATING ACTIVITIES: ----------- ----------- -----------
<S> <C> <C> <C>
Net Income (Loss) $ (2,890,024) $ (5,781,569) $ 5,676,511
Adjustments to Reconcile Net Income (Loss) to Net
Cash Provided by Operating Activities:
Provision for Possible Loan Losses 10,000,000 23,822,000 8,050,000
Provision for Depreciation and Amortization 6,685,094 4,762,037 1,646,560
Prepaid Income Taxes (1,890,304) (25,360) (2,133,353)
Net Gains on Sales of Investment Securities (72,884) (1,898,945) (3,448,531)
Net Gains on Sales of Loans and Leases (218,510) (818,376) (584,669)
Net Losses on Sales of Premises and Equipment 0 0 52,607
Equity in Losses of Real Estate Limited Partnerships 1,588,916 967,138 1,059,973
Changes in Assets and Liabilities net of Effects From
Acquisition of NFNBV (Note 10):
(Increase) Decrease in Interest Receivable 40,651 (28,313) 1,333,450
Increase (Decrease) in Interest Payable 347,000 587,598 (803,012)
(Increase) Decrease in Other Assets (3,336,601) (5,032,001) (5,429,789)
Increase (Decrease) in Other Liabilities (1,418,975) (272,603) 2,939,600
----------- ----------- -----------
Net Cash Provided by Operating Activities 8,834,363 16,281,606 8,359,347
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from Sales of Investment Securities 682,030 403,140,859 386,442,780
Proceeds from Maturities of Investment Securities 0 1,000,000 0
Proceeds from Sales of Loans and Leases 48,911,562 98,332,905 118,395,253
Proceeds from Sales of Premises and Equipment 39,631 0 16,839
Purchases of Available for Sale Investment Securities (10,114,063) (385,195,506) (422,915,625)
Purchases of Held to Maturity Investment Securities (10,098,437)
Cash and Cash Equivalents Received - Acquisition (Note 10) 0 17,102,000 0
Loans Originated, net of Principal Repayments 4,517,527 (82,277,333) (90,067,635)
Investments in Real Estate Limited Partnerships (273,742) 281,821 (73,939)
Purchases of Premises and Equipment (2,258,284) (1,599,220) (424,952)
Decrease in Net Investment in Leveraged Leases 41,731 587,438 1,116,644
----------- ----------- -----------
Net Cash Provided by (Used in) Investing Activities 31,447,955 51,372,964 (7,510,635)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net Increase (Decrease) in Deposits (37,085,500) (87,773,966) 13,436,584
Net Increase (Decrease) in Other Borrowed Funds 3,370,653 6,459,269 (6,891,487)
Proceeds from Debt 0 12,000,000 13,000,000
Principal Payments on Debt (2,404,056) (14,403,713) (2,644,110)
Acquisition of Treasury Stock 0 (132,058) (964,717)
Cash Dividends Paid 0 (838,050) (3,293,450)
Sale of Treasury Stock 0 377,457 1,193,522
----------- ----------- -----------
Net Cash Provided by (Used in) Financing Activities (36,118,903) (84,311,061) 13,836,342
----------- ----------- -----------
Increase (Decrease) in Cash and Cash Equivalents 4,163,415 (16,656,491) 14,685,054
Cash and Cash Equivalents at Beginning of Year 30,587,986 47,244,477 32,559,423
----------- ----------- -----------
Cash and Cash Equivalents at End of Year $ 34,751,401 $ 30,587,986 $ 47,244,477
=========== =========== ===========
Total Interest Payments $ 22,029,653 $ 21,367,928 $ 24,853,992
Total Income Tax Payments $ 50,000 $ 1,190,000 $ 2,860,000
Transfer of loans to Other Real Estate Owned $ 7,899,401 $ 5,151,867 $ 13,856,598
The accompanying notes are an integral part of these consolidated financial statements.
</TABLE>
Merchants Bancshares, Inc.
Notes to Consolidated Financial Statements
December 31, 1994
(1) CURRENT OPERATING ENVIRONMENT AND REGULATORY MATTERS
Merchants Bancshares, Inc. (the Company), and its wholly owned
subsidiaries, including the Merchants Bank and subsidiaries (the
Bank), operate primarily in Vermont. Beginning in the late
1980's, this region was severely affected by a deterioration in
the real estate market and an economic recession. As a result,
the Bank has experienced increased levels of nonperforming assets
and loan charge offs, increased the provision for possible loan
losses and incurred high costs associated with troubled assets
and foregone income on nonaccrual loans. Although these adverse
trends appear to be abating, prospects as to the extent and
timing of future improvement in the economy remain uncertain.
The reserve for possible loan losses as of December 31, 1994 is
deemed adequate based on management's estimate of the amount
required to absorb future losses in the loan portfolio based on
known current circumstances and real estate market conditions.
However, if there is further deterioration in the real estate
market the Company could experience increases in nonperforming
assets and resultant operating losses attributable to a need for
further significant provisions for loan losses and increased
foregone interest income on nonaccrual loans.
As of March 31, 1993, the Federal Deposit Insurance Corporation
(the FDIC) and the State of Vermont Department of Banking,
Insurance and Securities (the Commissioner) conducted a joint
field examination of the Bank. As a result of this examination,
the Bank entered into a Memorandum of Understanding (MOU) with
the FDIC and the Commissioner on October 29, 1993. Under the
terms of the MOU, the Bank is required to, among other things,
maintain a leverage capital ratio of at least 5.5%, revise
certain operating policies, enhance certain loan review
procedures, refrain from declaring dividends and correct certain
technical exceptions and violations of applicable regulations.
The dividend limitation includes dividends paid by the Bank to
the Company. The Company services senior subordinated debt (see
Note 9), which requires semi-annual interest payments and an
annual principal payment of $2.4 million through 1996. The MOU
permits the repayment of certain advances totaling appproximately
$940,000 which were outstanding as of December 31, 1994. The
repayment of such advances, together with the Company's cash on
hand and other assets easily convertible to cash at December 31,
1994, is sufficient to service the senior subordinated debt until
May 1996. Management has revised the policies, made changes to
enhance the credit review procedures and corrected the technical
exceptions and violations, and believes the Bank is in
substantial compliance with the provisions of the MOU as of
December 31, 1994. The Bank was also directed by the FDIC to
increase the reserve for possible loan losses by approximately
$12 million and to charge off loans totaling approximately $8
million at the conclusion of the examination in June 1993. The
Bank recorded this increase in the reserve for possible loan
losses and charged off the loans in 1993.
As of February 18, 1994, the Company and the Federal Reserve Bank
of Boston (the Federal Reserve) entered into an agreement
requiring the Company to submit to the Federal Reserve, among
other things, a capital plan, a dividend policy, a debt service
plan and a management assessment. In addition, under this
agreement, the Company may not declare or pay a dividend or incur
any debt without the approval of the Federal Reserve. As of
December 31, 1994, all submissions had been made and accepted,
except for the capital plan, which is still in process.
Failure to maintain the minimum leverage capital ratio of 5.5%
(see Note 11) included in the MOU, or compliance with other
provisions of the MOU, or the agreement with the Federal Reserve,
could subject the Bank or the Company to additional actions by
the regulatory authorities.
On December 16, 1994, the FDIC and the Commissioner completed the
field work related to their examination of the Merchants Trust
Company, a subsidiary of the Bank, as of September 26, 1994. On
February 17, 1995 the Trust Company entered into a Memorandum of
Understanding (MOU) with the FDIC and the Commissioner to effect
corrective action relating to certain operating, technical and
regulatory issues. Management believes that the matters noted in
the MOU have subsequently been corrected or are in the process of
being remediated. Management also believes that any additional
actions by the regulatory authorities would not have a material
impact on the Company's financial position or results of
operations.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The accompanying consolidated financial statements include the
accounts of the Company and its wholly owned subsidiaries, the
Bank (including its wholly owned subsidiaries Merchants Trust
Company and Queneska Capital Corp.) and Merchants Properties,
Inc., after elimination of all material intercompany accounts and
transactions.
Investment Securities
In May 1993, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 115, "Accounting
for Certain Investments in Debt and Equity Securities" (SFAS No.
115). This statement requires investments in debt securities to
be classified as held-to-maturity and measured at amortized cost
only if the Company has the positive intent and ability to hold
such securities to maturity. Investments in debt securities that
are not classified as held-to-maturity and equity securities that
have readily determinable fair values are classified as trading
securities or available-for-sale securities. Trading securities
are investments purchased and held principally for the purpose of
selling in the near term; available-for-sale securities are
investments not classified as trading or held-to-maturity.
Unrealized holding gains and losses for trading securities are
included in earnings; unrealized holding gains and losses for
available-for-sale securities are reported in a separate
component of stockholders' equity, net of applicable income
taxes. As permitted by SFAS No. 115, the Company elected to
apply the accounting principle to investment securities held as
of December 31, 1993. All investment securities were classified
as available-for-sale at December 31, 1993 and the resulting
adjustment was included in the accompanying consolidated
statement of changes in stockholders' equity as the effect of a
change in accounting principle.
Prior to December 31, 1993, debt securities were designated at
the time of purchase as either held for sale or held for
investment, based on management's intentions in light of
investment policy, asset/liability management policy, liquidity
needs and economic factors. Debt securities held for sale were
stated at the lower of amortized cost or market value while debt
securities held for investment, where management had the
intention and ability to hold such securities until maturity,
were stated at amortized cost. Unrealized losses on debt
securities held for sale were recorded as a valuation allowance
against the related securities. The provision for the valuation
allowance was recorded in the accompanying consolidated
statements of operations.
Marketable equity securities were stated at the lower of
aggregate cost or market value. Net unrealized losses, considered
temporary in nature, were shown as a reduction of stockholders'
equity. Unrealized losses, considered other than temporary in
nature, were recognized in the accompanying consolidated
statements of operations. The gain or loss recognized on the
sale of an investment security was based upon the adjusted cost
of the specific security.
Dividend and interest income, including amortization of premiums
and discounts, is recorded in earnings for all categories of
investment securities. Discounts and premiums related to debt
securities are amortized using a method which approximates the
level-yield method.
Management reviews all reductions in value below book value to
determine if the impairment is temporary or permanent. If the
impairment is determined to be permanent in nature, the carrying
value of the security is written down to the appropriate level by
a charge to earnings.
Loan Origination and Commitment Fees
Loan origination and commitment fees and certain direct loan
origination costs are deferred and amortized over the lives of
the related loans. Net deferred origination fees were $1,132,494
and $1,310,416 at December 31, 1994 and 1993, respectively.
Premises and Equipment
Premises and equipment are stated at cost, less accumulated
depreciation. Depreciation is provided using straight-line and
accelerated methods at rates that amortize the original cost of
the premises and equipment over their estimated useful lives.
Expenditures for maintenance, repairs and renewals of minor items
are generally charged to expense as incurred.
Gains and Losses on Sales of Loans
Gains and losses on sales of loans are recognized based upon the
difference between the selling price and the carrying amount of
loans sold. Gains and losses are adjusted for excess servicing
rights resulting from the sale of loans with servicing rights
retained. Excess servicing rights are recorded at the net
present value of estimated future servicing revenue less expected
normal servicing costs. Deferred excess servicing is amortized
over the period of estimated net servicing income. Origination
fees collected, net of commitment fees paid in connection with
the sales of loans and net of the direct cost of loan
originations, are recognized at the time such loans are sold.
The net gain on sales of loans is included in interest and fees
on loans and amounted to $218,510, $818,376 and $584,669 in 1994,
1993 and 1992, respectively.
Income Taxes
The Company provided for income taxes in accordance with the
comprehensive income tax allocation method under Statement of
Financial Accounting Standards No. 96 prior to 1992. Effective
January 1, 1992, the Company implemented Statement of Financial
Accounting Standards No. 109. There was no material effect from
this change on the accompanying consolidated financial
statements. This method recognizes the tax effects of all income
and expense transactions in each year's consolidated statement of
operations, regardless of the year in which the transactions are
reported for tax purposes. Low income housing tax credits are
recognized in the year in which they are earned.
Investments in Real Estate Limited Partnerships
The Bank has investments in various real estate limited
partnerships that acquire, develop, own and operate low and
moderate income housing. The Bank's ownership interest in these
limited partnerships varies from 35% to 100% as of December 31,
1994. The Bank consolidates the financial statements of the
limited partnership in which the Bank is actively involved in
management and has a controlling interest. The Bank accounts for
its investments in limited partnerships where the Bank does not
actively participate or have a controlling interest under the
equity method of accounting.
Management periodically reviews the results of operations of the
various real estate limited partnerships to determine if the
partnerships generate sufficient operating cash flow to fund
their current obligations. In addition, management reviews the
current value of the underlying property compared to the
outstanding debt obligations. If it is determined that the
investment suffers from a permanent impairment, the carrying
value is written down to the appropriate balance. The Bank has
recognized losses due to the impairment of an investment in a
real estate limited partnership of $546,000 and $296,000 in 1994
and 1993, respectively.
Cash and Cash Equivalents
Cash and cash equivalents consist of cash on hand, amounts due
from banks and federal funds sold in the accompanying
consolidated statements of cash flows. At December 31, 1994 and
1993, cash and cash equivalents included $8,508,000 and
$8,676,000, respectively, to satisfy the requirements of the
Federal Reserve Bank.
Other Real Estate Owned
Collateral acquired through foreclosure and loans accounted for
as in-substance foreclosures are recorded at the lower of cost or
fair value, less estimated costs to sell, at the time of
acquisition or designation as in-substance foreclosure. A
valuation allowance is established for the estimated costs to
sell and is charged to expense. Subsequent changes in the fair
value of other real estate owned are reflected in the valuation
allowance and charged or credited to expense. Net operating
income or expense related to foreclosed property is included in
non-interest expense in the accompanying consolidated statements
of operations. Because of the present adverse market conditions,
there are inherent uncertainties in the assumptions with respect
to the estimated fair value of other real estate owned. Because
of these inherent uncertainties, the amount ultimately realized
on real estate owned may differ from the amounts reflected in
the consolidated financial statements. The Bank recognized
losses due to additions to the valuation allowance of $2,392,000
and $599,000 during 1994 and 1993, respectively.
Intangible Assets
Premiums paid for the purchase of core deposits are recorded as
other assets and amortized over the estimated period of time over
which value is recognizable. Management reviews the value of the
intangible asset by comparing purchased deposit levels to current
deposit levels in the branches purchased. If any deposit runoff
has occurred and is determined to be permanent in nature, the
asset is written down accordingly.
Reclassification
Certain amounts in the 1993 and 1992 consolidated financial
statements have been reclassified to be consistent with 1994
classifications.
(3) INVESTMENT SECURITIES
Investments in debt securities are classified as available for sale or held
to maturity as of December 31, 1994 and as available for sale as of December
31, 1993. As of December 31, 1994, a U.S. Treasury security is classified
as held to maturity, having an amortized book value of $10,084,646 and a
market value of $9,871,875. The amortized cost and estimated fair values of
the debt securities classified as available for sale as of December 31, 1994
and 1993 are as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
1994
U.S. Treasury and
Agency Obligations $ 91,935,993 0 $1,545,368 $ 90,390,625
Other Debt Securities 90,297 0 10,000 80,297
------------ --------- ----------- ------------
$ 92,026,290 $ 0 $1,555,368 $ 90,470,922
1993
U.S. Treasury and
Agency Obligations $ 85,713,865 0 $ 438,865 $ 85,275,000
Other Debt Securities 230,677 0 0 230,677
------------ --------- ----------- ------------
$ 85,944,542 $ 0 $ 438,865 $ 85,505,677
Marketable equity securities are classified as available for sale at
December 31, 1994 and 1993 and are stated at their estimated fair value of
$1,195,897 and $1,451,793, respectively. Gross unrealized gains related to
marketable equity securities were $654,658 and $414,328, and gross
unrealized losses were $120,000 and $193,125 at December 31, 1994 and 1993,
respectively.
The contractual maturities of all debt securities held at December 31, 1994
are between one month and five years. Debt securities with a maturity of
less than one year totoal $81,924,278.
Proceeds from sales of debt securities (all classified as available-for-
sale) were $682,030 and $403,140,859 during 1994 and 1993, respectively.
Gross gains of $91,780, $2,120,838 and $4,474,318 and gross losses of
$18,896, $221,893 and $1,624 were realized on those sales in 1994, 1993 and
1992, respectively.
At December 31, 1994, securities with a face value of $29,280,000 were
pledged to secure federal funds lines, public deposits, securities sold
under agreements to repurchase, and for other purposes required by law.
(4) LOANS
The composition of the loan portfolio at December 31, 1994 and 1993 is as
follows (including Segregated Assets - Note 10):
1994 1993
-----------------------------------------------------------------
Commercial, Financial and Agricultural $ 92,611,512 $105,631,497
Real Estate - Construction 21,991,938 30,526,117
Real Estate - Mortgage 377,429,022 413,112,265
Installment Loans to Individuals 18,086,099 22,835,812
Lease Financing 0 41,731
All Other Loans (including overdrafts) 436,481 1,324,178
_________________________________________________________________
$510,555,052 $573,471,600
=================================================================
As discussed in Note 10, Segregated Assets consist of loans subject to loss
sharing. The composition of the Segregated Assets portfolio at December 31,
1994 and 1993 is as follows:
1994 1993
-----------------------------------------------------------------
Commercial, Financial and Agricultural $ 16,294,045 $28,428,878
Real Estate - Commercial 41,909,959 58,856,952
Real Estate - Residential 37,534,294 45,478,471
Installment Loans to Individuals 64,005 74,031
OREO 0 40,876
Allocated Reserve for Losses (1,315,231) (2,360,232)
_________________________________________________________________
$ 94,487,072 $130,518,976
=================================================================
There has been an insignificant effect on the Bank's non-interest expenses
for 1994 or 1993 as a result of expenses and charge offs relating to the
Segregated Assets. The Bank's share of the charge offs was charged to the
allowance for losses on the Segregated Assets, which was established in
conjunction with the acquisition. Management believes that the allowance
for losses on the Segregated Assets is adequate to cover possible losses
inherent in the Segregated Assets.
Charge offs, net of recoveries, and eligible expenses on Segregated Assets
aggregated $7,811,002 and $2,093,268 for 1994 and 1993. The Bank recognized
net recoveries of $6,248,802 and $1,674,615 from the FDIC for eligible
charge offs related to 1994 and 1993 in accordance with the loss sharing
arrangement. Amounts due from the FDIC totaling $2,883,372 and $290,459 as
of December 31, 1994 and 1993 are included in other assets in the
accompanying consolidated balance sheets.
The Company originates primarily residential and commercial real estate
loans and a lesser amount of installment loans to customers throughout the
state of Vermont. In order to minimize its interest rate and credit risk,
the Company sells certain residential loans to the secondary market and to
financial investors such as insurance companies and pension funds located in
other states. Substantially all of the Company's loan portfolio is based in
the state of Vermont. There are no known significant industry
concentrations in the loan portfolio. Loans serviced for others at December
31, 1994 and 1993 amounted to $391,517,792 and $357,703,783, respectively.
An analysis of loans in excess of $60,000 to directors and executive
officers for the year ended December 31, 1994 is as follows:
Balance, December 31, 1993 $16,783,132
Additions 242,672
Repayments (2,040,860)
Balance, December 31, 1994 $14,984,944
It is the policy of the Bank to grant such loans on substantially the same
terms, including interest rates and collateral, as those prevailing for
comparable lending transactions with other persons.
The reserve for possible loan losses is based on management's estimate of
the amount required to reflect the risks in the loan portfolio, based on
circumstances and conditions known or anticipated at each reporting date.
There are inherent uncertainties with respect to the final outcome of
certain of the Bank's loans and nonperforming assets. Because of these
inherent uncertainties, actual losses may differ from the amounts reflected
in these consolidated financial statements. Factors considered in evaluating
the adequacy of the reserve include previous loss experience, current
economic conditions and their effect on the borrowers, the performance of
individual loans in relation to contract terms and estimated fair values of
properties to be foreclosed. Losses are charged against the reserve for
loan losses when management believes that the collectibility of principal is
doubtful.
Key elements of the above estimates, including those used in independent
appraisals, are dependent upon the economic conditions prevailing at the
time of the estimates. Accordingly, uncertainty exists as to the final
outcome of certain of the valuation judgments as a result of the difficult
and unpredictable conditions in the region. The inherent uncertainties in
the assumptions relative to the projected sales prices or rental rates may
result in the ultimate realization of amounts on certain loans that are
different from the amounts reflected in these consolidated financial
statements.
An analysis of the reserve for possible loan losses for each of the three
years in the period ended December 31, 1994 is as follows:
1994 1993 1992
Balance, beginning of year $20,060,059 $ 7,411,635 $6,650,217
Provision for possible
loan losses 10,000,000 23,822,000 8,050,000
Reserve recorded in connection
with acquisition of NFNBV --- 2,000,000 ---
Loans charged off (12,649,842) (13,952,000) (7,739,000)
Recoveries 2,518,600 778,424 450,418
Balance, end of year $19,928,817 $20,060,059 $7,411,635
Included in the 1993 provision for possible loan losses is $666,667 recorded
as a provision for the Bank's potential share of losses on segregated
assets. Also included are charge offs of $1,314,632 and $306,435 and
recoveries of $25,142 and $8,249 related to Segregated Assets for 1994 and
1993, respectively.
In May 1993, the Financial Accounting Standards Board (FASB) issued SFAS No.
114, "Accounting by Creditors for Impairment of a Loan." SFAS No. 114
requires that impaired loans, as defined by SFAS No. 114, be measured based
on the present value of expected future cash flows discounted at the loan's
effective interest rate or, as a practical expedient, the loan's observable
market price or the fair value of the collateral if the loan is collateral
dependent. This pronouncement amends SFAS No. 5, "Accounting for
Contingencies," to clarify that a creditor should evaluate the
collectibility of both contractual interest and contractual principal of all
receivables when assessing the need for a loss accrual. SFAS No. 114 also
amends SFAS No. 15, "Accounting by Debtors and Creditors for Troubled Debt
Restructurings," to require a creditor to measure all loans that are
restructured in a troubled debt restructuring involving a modification of
terms in accordance with this statement.
SFAS No. 114 is applicable to all loans (including troubled debt
restructurings), uncollateralized as well as collateralized, except large
groups of smaller-balance homogeneous loans that are collectively evaluated
for impairment, loans that are measured at fair value or the lower of cost
or fair value, leases and debt securities as described in SFAS No. 114.
Management does not anticipate that the adoption of this statement in 1995
will have a material impact on the Bank's financial position or results of
operations.
Nonperforming assets at December 31, 1994 and 1993 were as follows:
1994
-----------------------------------
Segregated
Loans Assets Total
----------- ----------- -----------
Nonaccrual Loans $24,251,987 $ 7,948,632 $32,200,619
Restructured Loans 5,016,123 66,731 5,082,854
Loans Past Due
90 Days or More
and Still Accruing 668,007 668,007
Other Real Estate
Owned, Net 10,791,262 2,439,545 13,230,807
----------- ----------- -----------
Total $40,727,379 $10,454,908 $51,182,287
=========== =========== ===========
1993
-----------------------------------
Segregated
Loans Assets Total
----------- ----------- -----------
Nonaccrual Loans $29,712,089 $17,356,607 $47,068,696
Restructured Loans 2,772,783 68,389 2,841,172
Loans Past Due
90 Days or More
and Still Accruing 712,391 2,978 715,369
Other Real Estate
Owned, Net 13,633,383 40,876 13,674,259
----------- ----------- -----------
Total $46,830,646 $17,468,850 $64,299,496
=========== =========== ===========
Included in nonaccrual loans is $3,526,402 and $4,543,860 of loans whose
terms have been substantially modified in troubled restructurings at
December 31, 1994 and 1993, respectively. Additionally, the Bank had
$1,316,827 of restructured loans that were performing in accordance with the
modified agreement at December 31, 1994. Other Real Estate Owned is shown
net of a valuation reserve of $2,991,065 and $598,675 at December 31, 1994
and 1993.
The Bank's policy is to discontinue the accrual of interest and reverse
uncollected interest receivable on loans when scheduled payments become
contractually past due in excess of 90 days or, in the judgement of
management, the ultimate collectibility of principal or interest becomes
doubtful.
The amount of interest which was not earned but which would have been earned
had the nonaccrual and restructured loans performed in accordance with their
original terms and conditions was approximately $1,859,000, $2,688,000 and
$1,268,000 in 1994, 1993 and 1992, respectively.
(5) PREMISES AND EQUIPMENT
The components of premises and equipment included in the
accompanying consolidated balance sheets are as follows:
1994 1993
---------------------------------------------------
Land and Buildings $18,020,230 $17,835,574
Leasehold Improvements 869,444 869,444
Furniture and Equipment 11,292,724 10,421,058
----------------------------------------------------
30,182,398 29,126,076
Less: Accumulated
Depreciation and
Amortization 13,562,225 12,977,974
----------------------------------------------------
$16,620,173 $16,148,102
====================================================
Depreciation and amortization expense amounted to $1,786,213,
$1,595,914, and $1,646,560 in 1994, 1993 and 1992, respectively.
The Bank leases certain properties for branch purposes. Rent
expense on these properties totaled $214,891, $163,807 and
$106,739 for the years ended December 31, 1994, 1993 and 1992,
respectively. Minimum lease payments for these properties
subsequent to December 31, 1994 are: 1995 - $212,896; 1996 -
$195,061; 1997 - $172,680; 1998 - $142,717; 1999 - $100,876 and
$300,623 thereafter.
(6) EMPLOYEE BENEFIT PLANS
Pension Plan
The Company maintains a noncontributory defined benefit plan covering
all eligible employees. The plan is a final average pay plan with
benefits based on the average salary rates over the five consecutive
plan years out of the last ten consecutive plan years that produces
the highest average. It is the Company's policy to fund the cost of
benefits expected to accrue during the year plus amortization of any
unfunded accrued liability that has accumulated prior to the valuation
date based on IRS regulations for funding. During 1994, the Company
made the decision to freeze the plan for an undetermined period of
time beginning on January 1, 1995. Accordingly, the accumulation of
years of service for each plan participant is suspended, and all
accrued benefits are considered to have fully vested, unless the
suspension of the plan is lifted. If the decision is made to curtail
the plan, no further years of service will be credited for any
participant. The plan's funded status and amounts recognized in the
accompanying consolidated balance sheets and statements of operations
as of December 31, 1994 and 1993 are as follows:
1994 1993
-----------------------------------------------------------------
Actuarial Present Value of
Benefit Obligation:
Vested Benefit Obligation $4,797,489 $4,827,238
Nonvested Benefits 0 155,662
-----------------------------------------------------------------
Accumulated Benefit Obligation $4,797,489 $4,982,900
Effects of Projected
Future Compensation Levels 0 1,661,854
-----------------------------------------------------------------
Projected Benefit Obligation for
Service Rendered to Date $4,797,489 $6,644,754
Plan Assets 6,332,824 6,544,833
-----------------------------------------------------------------
Excess (Deficiency) of Plan Assets Over
(Under) Projected Benefit Obligation $1,535,335 $( 99,921)
Unrecognized Net Asset
at January 1, 1987 Being Amortized
over 13.4 Years (171,602) (210,691)
Unrecognized Net Loss 190,446 240,013
Unrecognized Prior Service Cost (1,673,616) 20,706
-------------------------------------------------------------------
Accrued Pension Costs Included
in Other Liabilities $ (119,437) $ ( 49,893)
===================================================================
1994 1993 1992
-----------------------------------------------------------------
Net Pension Expense Included
the Following Components:
Service Cost - Benefits Earned
During the Year $316,681 $257,232 $221,688
Interest Cost on Projected
Benefit Obligation 486,993 432,963 387,401
Actual Return on
Plan Assets 100,004 (488,860) (518,990)
Net Amortization and
Deferral (660,098) (24,194) 21,042
-----------------------------------------------------------------
Total $243,580 $177,141 $111,141
=================================================================
The actuarial present value of the projected benefit obligation was
determined using a weighted average discount rate of 8.5%, 7.5% and 8%
as of December 31, 1994, 1993, and 1992, respectively. The assumed
rate of increase of future compensation levels used for 1994 was 4%
for the period 1994-1995, 4.5% for the period 1996-1997 and 5%
thereafter. The rate of increase in future compensation levels for
1993 was 4% and for 1992 was 4%. The expected long-term rate of
return on assets used was 8% in 1994, 8% in 1993 and 8.25% in 1992.
Employee Stock Ownership Plan/ 401(k) Plan
Under the terms of the Company's Employee Stock Ownership Plan (ESOP),
eligible employees are entitled to contribute up to 15% of their
compensation to the ESOP, and the Company contributes a percentage of
the amounts contributed by the employees, as authorized by the
Company's Board of Directors. The Company contributed approximately
75% of the amounts contributed by the employees (up to 4.5% of
individual employee compensation) in 1994, 1993 and 1992.
Substantially all contributions to the ESOP are funded with cash and
are used to purchase the Company's common stock.
Performance Progress Sharing Plan
The Company maintains a Performance Progress Sharing Plan. Substan-
tially all Company employees are eligible to participate in this plan,
and awards are based on performance of the Company measured against
goals established by the Board of Directors.
Deferred Compensation Plans
The Company maintains an Executive Salary Continuation Plan and a
Deferred Compensation Plan for Directors. The plans are designed to
supplement the retirement benefits available to certain key employees
and directors of the Company. The plans are part of the Company's
overall strategy for attracting and retaining high quality management.
Under the plans, each participant is entitled to receive monthly
benefits for 15 years in an amount specified in each participant's
contract. Benefits commence upon retirement and may be reduced in the
case of early retirement. If death occurs after retirement but before
all benefits have been paid, the balance of the payments will be made
to the participant's designated beneficiary. The Company has
purchased insurance policies on the lives of the participants to help
fund benefits payable under the plans.
Phantom Stock Plan
The Company maintains a Phantom Stock Plan, wherein certain key
officers of the Bank were entitled to receive an annual award of
phantom shares of stock for up to five consecutive years. All such
awards were granted by June 30, 1993. Each year, the Board of
Directors reviewed the performance of the officers and made additional
awards based on such reviews. The value of the phantom shares for
each annual grant vested over a one-year period subject to certain
early termination provisions. Benefits are payable in 60 monthly
installments subsequent to the payment commencement date, as defined
in the plan. The benefit level is based on the market value of the
Company's stock at the determination date, as defined in the plan.
A summary of expenses relating to the Company's various employee
benefit plans for each of the three years in the period ended December
31, 1994 is as follows:
1994 1993 1992
-----------------------------------------------------------------
Pension Plan $ 243,580 $ 177,141 $ 111,141
Employee Stock Ownership Plan/
401(k) Plan 348,468 285,199 267,636
Performance Progress Sharing Plan 0 264,000 360,641
Deferred Compensation Plans 303,939 272,946 233,222
Phantom Stock Plan (179,227) 249,600 259,896
-----------------------------------------------------------------
$ 716,760 $1,248,886 $1,232,536
=================================================================
(7) INCOME TAXES
The provision (benefit) for income taxes for each of the three years
in the period ended December 31, 1994 consists of the following:
1994 1993 1992
-------------------------------------------------------------
Current $( 952,147) $(4,385,126) $2,708,861
Prepaid (1,890,304) ( 25,360) (2,133,353)
--------------------------------------------------------------
$(2,842,451) $(4,410,486) $ 575,508
==============================================================
Prepaid and deferred income taxes result from differences between
income (loss) for financial reporting and tax reporting relating
primarily to the provision for possible loan losses. The net prepaid
tax asset amounted to approximately $5,084,000 and $3,422,000 at
December 31, 1994 and 1993, respectively. In addition, as of December
31, 1993, the Bank had filed for a refund for overpayment of 1989 and
1990 taxes totaling $1,191,000, which was received during 1994. As of
December 31, 1994 and 1993, the Company had tax refunds receivable of
$6,211,214 and $4,499,982, respectively. These tax assets are
included in other assets in the accompanying consolidated balance
sheets.
The following is a reconciliation of the federal income tax provision
(benefit), calculated at the statutory rate, to the recorded provision
(benefit) for income taxes:
1994 1993 1992
---------------------------------------------------------------------
Applicable Statutory Federal
Income Tax (benefit) $(1,949,042) $(3,465,299) $2,125,686
(Reduction) Increase in
Taxes Resulting From:
Loss on Investment Securities (24,780) 40,018 171,074
Tax-exempt Income (187,301) (213,631) (371,334)
Tax Credits (707,750) (960,750) (941,500)
Other, Net 26,422 189,176 (66,270)
---------------------------------------------------------------------
$(2,842,451) $(4,410,486) $ 917,656
=====================================================================
The components of the net prepaid tax asset as of December 31, 1994
and 1993 are as follows:
1994 1993
---------------------------------------------------------------------
Reserve for Possible Loan Losses $7,700,000 $6,387,000
Deferred Compensation 1,543,000 1,522,000
Unrealized Securities Losses 347,000 74,000
Loan Fees 253,000 446,000
Leveraged Leases 0 (42,000)
Depreciation (428,000) (389,000)
Accrued Liabilities 287,000 189,000
Capital Loss Carryforwards 545,000 576,000
Investments in Limited Partnerships (296,000) (463,000)
Excess Servicing on Sold Mortgages (19,000) (60,000)
Loan Market Adjustment (4,640,000) (4,274,000)
Other (623,000) 32,000
Tax Credit Carryforward 960,000 0
---------------------------------------------------------------------
$5,629,000 $3,998,000
Valuation Allowance (545,000) (576,000)
----------------------------------------------------------------------
$5,084,000 $3,422,000
======================================================================
A valuation allowance is provided when it is more likely than not that
some portion of the net prepaid tax asset will not be realized. The
Bank has established a valuation allowance for capital loss
carryforwards since such losses may only be utilized against future
capital gains.
The State of Vermont assesses a franchise tax for banks in lieu of
income tax. The franchise tax is assessed based on deposits and
amounted to approximately $290,000, $247,000 and $234,000 in 1994,
1993 and 1992, respectively. These amounts are included in other
expenses in the accompanying consolidated statements of operations.
(8) OTHER BORROWED FUNDS
Other borrowed funds consist of the following at December 31, 1994 and 1993:
1994 1993
--------------------------------------------------------
Treasury Tax and Loan Notes $3,294,734 $5,742,607
Securities Sold Under
Agreements to Repurchase 0 1,681,474
Federal Funds Purchased 15,000,000 7,500,000
---------------------------------------------------------
$18,294,734 $14,924,081
=========================================================
The Bank may borrow up to $30,000,000 in federal funds on an unsecured basis.
The following table provides certain information regarding other borrowed
funds for each of the two years in the period ended December 31, 1994:
Weighted Weighted
Maximum Average Average
Month-end Average Annual Rate
Amount Amount Interest on Amounts
1994 Outstanding Outstanding Rate Outstanding
----------------------------------------------------------------------------
Treasury Tax and
Loan Notes $4,723,829 $3,136,365 3.83% 5.10%
Securities Sold
Under Agreements
to Repurchase 0 $18,225 2.70% 0.00%
Federal Funds
Purchased $16,900,000 $1,388,438 4.09% 6.18%
1993
----------------------------------------------------------------------------
Treasury Tax and
Loan Notes $5,742,607 $3,540,180 2.74% 3.11%
Securities Sold
Under Agreements
to Repurchase $12,051,559 $7,669,030 2.99% 2.65%
Federal Funds
Purchased $14,600,000 $2,636,629 3.34% 3.50%
(9) DEBT
Debt outstanding consists of the following at December 31, 1994
and 1993:
1994 1993
---------------------------------------------------------------
10% Senior Subordinated Debt
Payable 1995 Through 1996 $4,800,000 $ 7,200,000
9% Mortgage Note, Payable
in Monthly Installments of
$1,736 (Principal and
Interest) Through 2020 207,860 209,909
1% Mortgage Note, Payable
in Monthly Installments of
$2,542 (Principal and
Interest) Through 2039 1,191,506 1,193,513
9.81% Capital Notes,
Interest Payable
Semiannually, Principal
Payable 1995 Through 2000 10,000,000 10,000,000
9.81% Capital Notes,
Interest Payable
Semiannually, Principal
Payable in 1997 10,000,000 10,000,000
Federal Home Loan Bank Notes
Payable, Interest Rates from
4.83% to 8.66% due 1995
through 2001 18,030,000 18,030,000
---------------------------------------------------------------
$44,229,366 $46,633,422
===============================================================
Maturities of debt subsequent to December 31, 1994 are: 1995-
$8,404,431; 1996 - $4,404,841; 1997 - $21,005,288; 1998 -
$2,005,772; 1999 - $1,006,293 and $7,402,741 thereafter.
The capital and senior subordinated note agreements contain a
number of restrictive covenants including, among other things,
limitations on additional indebtedness, the payment of dividends
and certain other uses of cash. In addition, the agreements
contain restrictions, based on defined formulas, with respect to
maintaining certain financial ratios and specified levels of
capital. Under the Federal Home Loan Bank agreement,the Bank
pledged as collateral mortgages on 1-to-4 family residences
totaling approximately $7,200,000. As of December 31, 1994, the
Company is in compliance with all of the covenants of the capital
notes, senior subordinated note and Federal Home Loan Bank
agreements.
(10) ACQUISITION
On June 4, 1993, the Bank purchased certain assets and assumed
the deposits and certain other liabilities of the New First
National Bank of Vermont (NFNBV) from the FDIC. NFNBV was a
three bank holding company conducting banking activities
primarily in central and northern Vermont. NFNBV had been taken
over by the FDIC in January 1993. The acquisition involved an
assumption of net deposits and liabilities which resulted in the
Bank receiving a cash payment from the FDIC of approximately $5.7
million. The Bank subsequently acquired certain NFNBV property
and equipment from the FDIC for approximately $1.5 million which
was payable to the FDIC on June 3, 1994. The acquisition was
accounted for using the purchase method of accounting and,
accordingly, the acquired assets and liabilities have been
recorded at their estimated fair market values at the date of
acquisition. The operating results related to the assets and
liabilities of NFNBV are included in the Company's consolidated
statement of operations since the date of the acquisition.
In accordance with the purchase method of accounting, the
purchase price has been allocated to the assets acquired and
liabilities assumed based on their fair market value at the date
of acquisition. Included in the purchase price allocation is the
establishment of an allowance for possible loan losses of $2
million and a core deposit intangible of approximately $4.5
million, which is being amortized over 15 years using the
straight- line method. The fair market value of the assets
acquired and liabilities assumed is summarized as follows (in
thousands):
Cash $ 5,290
Federal Funds Sold 6,075
Investment Securities 4,118
Loans 23,909
Segregated Assets 154,537
Allowance for Possible Loan Losses (2,000)
Premises and Equipment 1,509
Other Assets 1,523
Intangible Asset - Core Deposit Intangible 4,478
Deposits (203,031)
Other Liabilities (537)
Cash Payment From the FDIC, Net of
Settlement Amount Payable for
Premises and Equipment $ 4,129
=========
Summarized below are the results of operations on an unaudited
pro forma basis, of the acquired NFNBV business as if NFNBV had
been acquired on January 1, 1992. The pro forma information is
based on the Company's audited historical results of operations
for 1992 and NFNBV's unaudited historical results of operations
for the period October 1, 1991 to September 30, 1992, giving
effect to certain pro forma adjustments. The pro forma financial
information does not purport to be indicative of the results of
operations that would have occurred had the purchase been made on
January 1, 1992 or of future results of operations of the
combined companies. No pro forma information is presented for
the period January 1, 1993 to the date of the acquisition because
no accurate financial information is available relative to
NFNBV's operations from the FDIC.
Pro Forma 1992
(in thousands except per share data)
Net Interest Income $ 36,185
Net Income 7,463
Earnings Per Share 1.83
In computing the pro forma net income, adjustments were
recognized to give effect to a reduced provision for possible
loan losses and other real estate owned (OREO) expenses,
resulting from loss sharing and the transfer of problem loans and
OREO to the FDIC Division of Liquidation prior to acquisition;
amortization of the core deposit intangible; and reduced
operating expenses relating to regulatory actions. Under the
terms of the acquisition, the Bank will receive financial
assistance (loss sharing) with respect to certain acquired loans
charged off by the Bank during the three years subsequent to the
acquisition. The FDIC will reimburse the Bank, on a quarterly
basis, 80% of net charge-offs and certain expenses related to
loans subject to loss sharing up to cumulative losses aggregating
$41.1 million, after which the reimbursement rate will be 95% of
net charge-offs on the loans. The Bank received $6,248,802 and
$1,674,615 in reimbursements from the FDIC for the years ended
December 31, 1994 and 1993, respectively. Acquired loans subject
to loss sharing are classified as Segregated Assets in the
accompanying consolidated balance sheets.
In addition, under the terms of the acquisition approval received
from the State of Vermont Department of Banking, Insurance and
Securities, the Bank is required to, among other things, maintain
Tier 1 leverage capital at the higher of 5.5% or the minimum
regulatory leverage capital required by the FDIC, and to refrain
from paying dividends from the Bank to the Company if the Bank's
capital is below the minimum capital requirement. The Bank and
the Company were in compliance with all the terms of the
acquisition approval agreement with the State of Vermont during
1994 and through the date of this report.
During 1994, the Company reviewed the status of the core deposits
related to the acquisition and determined that the attrition of
in an impairment in the value of the core deposit intangible.
Accordingly, the Company wrote down the carrying value of the
core deposit intangible by $686,296. This charge against current
earnings is included in other expenses.
(11) STOCKHOLDERS' EQUITY
As a state-chartered bank, the Bank's primary regulator is the FDIC.
The Bank is subject to regulatory capital regulations that provide for
two capital requirements: a leverage requirement and a risk-based
capital requirement. The leverage requirement provides for a minimum
"core" capital, consisting primarily of common stockholders' equity,
of 3.0% of total adjusted assets, for those institutions with the most
favorable composite regulatory examination rating. As discussed in
Note 1, the Bank is required to maintain a minimum leverage capital
ratio of 5.5% under the MOU. As of December 31, 1994 the Bank's
leverage capital was 5.958%. The minimum risk-based capital
requirement provides for minimum capital levels based on risk-weighted
assets of 8.0% at December 31, 1994. At December 31, 1994, the Bank
exceeded the risk-based capital requirements of the FDIC. Vermont
state law requires the Bank to appropriate a minimum of 10% of net
income to surplus until such time as appropriated amounts equal 10% of
deposits and other liabilities. The Bank's stockholders' equity
includes $6,561,600 as of December 31, 1994 and 1993, respectively, of
such appropriations. Debt covenants and Vermont state law restrict
the payment of dividends under certain circumstances. The most
restrictive of these limits dividend payments on a cumulative basis
since December 31, 1985 to cumulative net income for the same period
plus $2,000,000. In addition, as discussed in Note 1, the Company may
not declare or pay a dividend without the approval of the Federal
Reserve.
(12) STOCK DIVIDENDS
On November 13, 1992, the Company declared a 3% stock dividend,
payable on December 11, 1992 to shareholders of record on November 30,
1992. All per share amounts were restated in prior years to reflect
this activity.
(13) COMMITMENTS AND CONTINGENCIES
During the fall of 1994, lawsuits were brought against the Company,
the Bank, the Trust Company (collectively referred to as "the
Companies") and certain directors of the Companies. These lawsuits
relate to certain investments managed for Trust Company clients and
placed in the Piper Jaffray Institutional Government Income Portfolio.
Separately, and before the suits were filed, the Companies had
initiated a review of those investments. Outside consultants were
retained to assist in this review. As a result of the review, the
Trust Company paid to the affected Trust Company clients a total of
approximately $9.2 million in December 1994. The payments do not
constitute a legal settlement of any claims in the law suits.
However, based on consultation with legal counsel, management believes
that further liability, if any, of the Companies on account of matters
complained of in the lawsuits will not have a material adverse effect
on the consolidated financial position and results of operations of
the Company. In December 1994, the Trust Company received a payment
of $6,000,000 from its insurance carriers in connection with these
matters. The Companies also intend to pursue all available claims
against Piper Jaffray Companies, Inc. and others on account of the
losses that gave rise to the $9.2 million payment by the Companies.
Any recovery obtained as a result of such efforts is subject to the
terms of an agreement between the Companies and the insurance
carriers.
The attorneys representing the plaintiffs in one of the lawsuits
discussed above have asked the court to order the Trust Company's
clients to pay fees to those attorneys in an amount of up to $500,000.
The Trust Company has resisted the claims for payment of such fees by
its clients, and, as a result, the Trust Company has been directed to
place the sum of $500,000 into escrow pending a ruling by the Court.
Based upon consultation with legal counsel, management believes there
is no substantial basis for any liability on the part of the Companies
for payment of legal fees to those attorneys and, although there is
the possibility that the Companies may be required to remit all or
part of these funds, such an outcome is not considered likely.
The Bank is also involved in various legal proceedings arising in the
normal course of business. Based upon consultation with legal
counsel, management believes that the resolution of these matters will
not have a material effect on the consolidated financial position and
results of operations of the Company.
(14) PARENT COMPANY
<TABLE>
The Parent Company's investments in its subsidiaries are recorded using the equity method
of accounting. Summarized financial information relative to the Parent Company only balance
sheets at December 31, 1994 and 1993 and statements of operations and cash flows for each of
the three years in the period ended December 31, 1994 is as follows:
<CAPTION>
Balance Sheets - December 31, 1994 1993
Assets: --------------------------
<S> <C> <C>
Investment in and Advances
to Subsidiaries $45,509,683 $51,006,872
Other Investments 585,140 1,077,035
Other Assets 1,045,147 896,099
--------------------------
Total Assets $47,139,970 $52,980,006
==========================
Liabilities and Equity Capital:
Notes Payable $4,800,000 $7,200,000
Other Liabilities 40,000 60,000
Equity Capital 42,299,970 45,720,006
--------------------------
Total Liabilities and
Equity Capital $47,139,970 $52,980,006
==========================
<CAPTION>
Statements of Operations for the Year Ended December 31, 1994 1993 1992
------------------------------------
<S> <C> <C> <C>
Dividends from the Merchants Bank* $0 $848,585 $3,320,194
Equity in Undistributed Earnings (Loss) of Subsidiaries* (2,679,429) (6,365,554) 2,161,917
Other Expense, Net (374,142) (450,636) (2,734)
Provision for Income Taxes 163,547 186,036 197,134
------------------------------------
Net Income (Loss) ($2,890,024)($5,781,569) $5,676,511
====================================
Statements of Cash Flows for the Year Ended December 31, 1994 1993 1992
------------------------------------
Cash Flows from Operating Activities:
Net Income (Loss) ($2,890,024)($5,781,569) $5,676,511
Adjustments to Reconcile Net Income (Loss) to Net Cash
Provided by (Used in) Operating Activities:
Amortization 6,360 15,265 18,260
Gains on Investment Securities (91,780) (76,316) (530,300)
(Increase) Decrease in Miscellaneous Receivables (11,425) 998,729 (40,870)
Increase (Decrease) in Miscellaneous Payables (20,000) (868,585) 396,997
Equity in Undistributed (Earnings)
Losses of Subsidiaries 2,679,429 6,365,554 (2,161,917)
------------------------------------
Net Cash Provided by (Used in) Operating Activities ($327,440) $653,078 $3,358,681
------------------------------------
Cash Flows from Investing Activities:
Repayment of Advances from Subsidiaries 2,263,399 2,379,917 382,420
Proceeds from Sales of Investment Securities 682,030 271,316 2,142,410
------------------------------------
Net Cash Provided by Investing Activities $2,945,429 $2,651,233 $2,524,830
------------------------------------
Cash Flows From Financing Activities:
Sale of Treasury Stock 0 388,998 1,193,523
Purchase of Treasury Stock 0 (132,058) (964,717)
Cash Dividends Paid 0 (838,050) (3,293,450)
Principal Payments on Debt (2,400,000) (2,400,000) (2,400,000)
------------------------------------
Net Cash Used in Financing Activities ($2,400,000)($2,981,110)($5,464,644)
------------------------------------
Increase in Cash and Cash Equivalents 217,989 323,201 418,867
Cash and Cash Equivalents at Beginning of Year 768,744 445,543 26,676
------------------------------------
Cash and Cash Equivalents at End of Year $986,733 $768,744 $445,543
====================================
Total Interest Paid $580,000 $820,000 $1,080,000
Taxes Paid 50,000 1,190,000 2,860,000
*Account balances are partially or fully eliminated in consolidation.
(15) FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Bank is a party to financial instruments with off-balance
sheet risk in the normal course of business to meet the financing
needs of its customers. These financial instruments primarily
include commitments to extend credit and financial guarantees.
Such instruments involve, to varying degrees, elements of credit
and interest rate risk that are not recognized in the
accompanying consolidated balance sheets.
Exposure to credit loss in the event of nonperformance by the
other party to the financial instruments for commitments to
extend credit and financial guarantees written is represented by
the contractual amount of those instruments. The Bank generally
requires collateral to support such financial instruments in
excess of the contractual amount of those instruments and,
therefore, is in a fully secured position. The Bank uses the
same credit policies in making commitments as it does for
on-balance sheet instruments. The contractual amounts of these
financial instruments at December 31, 1994 and 1993 were as
follows:
Contractual
Amount
-----------------------------------------------------------------
1994
Financial Instruments Whose Contract
Amounts Represent Credit Risk:
Commitments to Extend Credit $107,454,000
Standby Letters of Credit 8,857,000
Loans Sold with Recourse 2,194,000
-----------------------------------------------------------------
1993
Financial Instruments Whose Contract
Amounts Represent Credit Risk:
Commitments to Extend Credit $113,360,000
Standby Letters of Credit 11,721,000
Loans Sold with Recourse 2,527,000
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.
Since a portion of the commitments are expected to expire without
being drawn upon, the total commitment amount does not
necessarily represent a future cash requirement. The Bank
evaluates each customer's creditworthiness on a case-by-case
basis. The amount of collateral obtained by the Bank upon
extension of credit is based on management's credit evaluation of
the counterparty, and an appropriate amount of real and/or
personal property is obtained as collateral.
Standby letters of credit and financial guarantees written are
conditional commitments issued by the Bank to guarantee
performance of a customer to a third party. Those guarantees are
primarily issued to support public and private borrowing
arrangements. Most guarantees extend for less than two years,
and 75% are for less than $100,000. The credit risk involved in
issuing letters of credit is essentially the same as that
involved in extending loan facilities to customers. The Bank
obtains real and/or personal property as collateral for those
commitments for which collateral is deemed to be necessary.
The Bank enters into commitments to sell loans which involve
market and interest rate risk. At December 31, 1994 and 1993,
the remaining commitments to deliver loans pursuant to master
commiments with secondary market investors amounted to
approximately $30,081,000 and $51,768,000, respectively. Failure
to fulfill delivery requirements of commitments may result in
payment of certain fees to the investors. Individual commitments
to sell loans require the Bank to make delivery at a specific
future date of a specified amount, at a specified price or yield.
Loans are generally sold without recourse and, accordingly, risks
arise principally from movements in interest rates.
(16) FAIR VALUE OF FINANCIAL INSTRUMENTS
INVESTMENTS
The carrying amounts reported in the consolidated balance sheets
for cash and cash equivalents and stock in the Federal Home Loan
Bank of Boston (FHLB) approximate fair values. Fair value for
investment securities is determined from quoted market prices,
when available. If quoted market prices are not available, fair
values are based on quoted market prices of comparable
instruments.
An analysis of the estimated fair value of the investment
securities as of December 31, 1994 and 1993 is as follows:
1994 1993
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
-----------------------------------------------------------------
(In Thousands)
Debt $102,111 $100,343 $85,946 $85,506
Marketable
Equity
Securities 1,661 1,196 1,230 1,451
-----------------------------------------------------------------
$102,772 $101,539 $87,176 $86,957
=================================================================
LOANS
The fair value of variable rate loans that reprice frequently and
have no significant credit risk is based on carrying values. The
fair value of fixed rate (one-to-four family residential)
mortgage loans, and other consumer loans, is based on quoted
market prices of similar loans sold in conjunction with
securitization transactions, adjusted for differences in loan
characteristics. The fair value for other loans is estimated
using discounted cash flow analyses, using interest rates
currently being offered for loans with similar terms to borrowers
of similar credit quality.
An analysis of the estimated fair value of the loan portfolio
(including segregated assets) as of December 31, 1994 and 1993 is
as follows:
1994 1993
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
-----------------------------------------------------------------
(In Thousands)
Net Loans $490,626 $482,619 $553,412 $554,905
=================================================================
DEPOSITS
The fair value of demand deposits approximates the amount
reported in the consolidated balance sheets. The fair value of
variable rate, fixed term certificates of deposit also
approximate the carrying amount reported in the consolidated
balance sheets. The fair value of fixed rate and term
certificates of deposit is estimated using a discounted cash flow
which applies interest rates currently being offered for deposits
of similar remaining maturities.
An analysis of the estimated fair value of deposits as of
December 31, 1994 and 1993 is as follows:
1994 1993
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
-----------------------------------------------------------------
(In Thousands)
Demand Deposits $ 94,467 $ 94,493 $ 96,413 $ 96,414
Savings, NOW and
Money Markets 293,656 293,364 321,821 311,606
Time Deposits Over
$100,000 23,281 23,127 21,215 22,617
Other Time 170,821 171,195 179,861 191,747
-----------------------------------------------------------------
$582,225 $582,179 $619,310 $622,384
=================================================================
DEBT
The fair value of debt is estimated using current market rates
for borrowings of similar remaining maturity.
An analysis of the estimated fair value of the debt of the
Company as of December 31, 1994 and 1993 is as follows:
1994 1993
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
-----------------------------------------------------------------
(In Thousands)
Debt $44,229 $44,022 $46,633 $47,699
=================================================================
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 financial standby letters of credit is based on
fees currently charged for similar agreements or on the estimated
cost to terminate them or otherwise settle the obligations with
the counterparties. The fair value of commitments to extend
credit and standby letters of credit is $116,943 and $165,468 as
of December 31, 1994 and 1993, respectively.
</TABLE>
<TABLE>
(18) SUMMARY OF UNAUDITED QUARTERLY FINANCIAL INFORMATION (in thousands):
<CAPTION>
1994 1993
----------------------------------------------- ----------------------------------------------
Restated (A)Restated (A)
Q1 Q2 Q3 Q4 YEAR Q1 Q2 Q3 Q4 YEAR
----------------------------------------------------------------------- ----------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest and Fee Income $13,348 $13,019 $13,304 $13,648 $53,319 $11,060 $11,745 $14,357 $14,312 $51,474
Interest Expense 5,414 5,614 5,585 5,764 22,377 4,779 5,029 6,361 5,787 21,956
----------------------------------------------------------------------- ----------------------------------------------
Net Interest Income $7,934 $7,405 $7,719 $7,884 $30,942 $6,281 $6,716 $7,996 $8,525 $29,518
Provision for Possible
Loan Losses (B) 1,250 1,250 1,750 5,750 10,000 5,008 9,314 2,750 6,750 23,822
Non-Interest Income 2,104 2,235 2,219 2,231 8,789 3,221 2,126 2,617 2,490 10,454
Non-Interest Expense 7,105 7,294 7,422 13,643 35,464 5,756 5,885 7,048 7,653 26,342
----------------------------------------------------------------------- ----------------------------------------------
Income (Loss) Before Provision
(Benefit) for Taxes $1,683 $1,096 $766 ($9,278) ($5,733) ($1,262) ($6,357) $815 ($3,388)($10,192)
Provision (Benefit)
For Income Taxes 245 91 (13) (3,166) (2,843) (792) (2,416) (26) (1,176) (4,410)
----------------------------------------------------------------------- ----------------------------------------------
Net Income (Loss) $1,438 $1,005 $779 ($6,112) ($2,890) ($470) ($3,941) $841 ($2,212) ($5,782)
------------------------=============================================== ==============================================
Earnings (Loss) Per Share $0.34 $0.24 $0.18 ($1.44) ($0.68) ($0.11) ($0.93) $0.20 ($0.53) ($1.37)
------------------------=============================================== ==============================================
Dividends Per Share $0.00 $0.00 $0.00 $0.00 $0.00 $0.20 $0.00 $0.00 $0.00 $0.20
=============================================== ==============================================
(A) Based on subsequent discussions with the FDIC and additional review of certain credit information in connection with
the 1993 regulatory examination discussed in Note 1, management decided to amend the Bank's call reports and Forms 10-Q
for the quarters ended March 31, 1993 and June 30, 1993 to allocate $3 million of the additional provision for possible
loan losses originally recorded in the quarter ended June 30, 1993 to the quarter ended March 31, 1993.
(B) During the fourth quarter of 1993, as a result of significant increases in nonperforming assets and the continuing
weakness in the regional economy the Company provided reserves for possible loan losses of $5 million in addition to the
planned provision of $1.75 million.
</TABLE>
<TABLE>
Five Year Summary of Operations
(Not Covered by Report of Independent Public Accountants)
<CAPTION> RESTATED
For the years ended 1994 1993 1992 1991 1990
------------------------------------------------------------- --------- --------------------- --------
<S> <C> <C> <C> <C> <C>
Interest and Investment Income $ 53,319 $ 51,474 $ 49,239 $ 57,249 $ 62,797
Interest Expense 22,377 21,956 24,051 32,104 34,792
--------------------------------------------------------------------------------- --------------------
Net Interest Income $ 30,942 $ 29,518 $ 25,188 $ 25,145 $ 28,005
Provision for Possible Loan Losses 10,000 23,822 8,050 7,243 4,492
------------------------------------------------------------- --------- ------------------------------
Net Interest Income after Provision for Loan Losses $ 20,942 $ 5,696 $ 17,138 $ 17,902 $ 23,513
------------------------------------------------------------- --------- ------------------------------
Other Income $ 15,038 $ 12,128 $ 10,195 $ 9,376 $ 4,301
Other Expense 41,712 28,016 21,081 21,238 21,351
------------------------------------------------------------- --------- ----------- --------- --------
INCOME (LOSS) BEFORE INCOME TAXES $ (5,732)$ (10,192)$ 6,252 $ 6,040 $ 6,463
Provision (benefit) for Income Taxes (Notes 2 and 4) (2,842) (4,410) 575 909 1,670
------------------------------------------------------------- --------- ----------- --------- --------
NET INCOME (LOSS) $ (2,890)$ (5,782)$ 5,677 $ 5,131 $ 4,793
------------------------------------------------------------- --------- ------------------------------
SELECTED AVERAGE BALANCES (IN THOUSANDS)
Total Assets $ 709,077 $ 705,516 $ 602,317 $ 592,343 $ 597,385
Average Earning Assets 620,070 627,049 542,157 537,806 537,787
Loans 514,843 515,805 441,291 471,141 488,792
Total Deposits 598,305 570,957 490,908 488,831 495,299
Long-Term Debt 45,433 47,835 42,171 35,007 25,416
Shareholders' Equity 46,331 48,511 51,548 48,668 46,493
Shareholders' Equity plus Loan Loss Reserve 65,322 59,999 59,028 54,707 51,401
SELECTED RATIOS
Net Income (Loss) to:
Average Stockholders' Equity -6.24% -11.92% 11.01% 10.53% 10.31%
Average Assets -0.41% -0.82% 0.94% 0.86% 0.80%
Average Stockholders' Equity to Average Total Assets 6.53% 6.88% 8.56% 8.22% 7.78%
Average Primary Capital to Average Total Assets 9.21% 8.50% 9.80% 9.24% 8.60%
Common Dividend Payout Ratio 0.00% N/C 58.48% 62.69% 64.99%
Loan Loss Reserve to Total Loans at Year End 3.90% 3.50% 1.73% 1.41% 1.03%
Net Charge-Offs to Average Loans 1.97% 1.95% 1.65% 1.20% 0.93%
PER SHARE (Note 1)
Net Income (Loss) $ (0.68)$ (1.37)$ 1.39 $ 1.21 $ 1.13
Cash Dividends 0.00 0.20 0.80 0.78 0.74
Year End Book Value 10.00 10.74 12.39 11.82 11.30
OTHER
Cash Dividends Paid (In Thousands) $ 0 $ 848 $ 3,320 $ 3,231 $ 3,115
Stock Dividends Issued 0.0% 0.0% 3.0% 2.0% 5.0%
(Note 1): All stock dividends and splits are reflected retroactively.
See Note 12 of Notes to Consolidated Financial Statements.
</TABLE>
<TABLE>
Interest Management Analysis
<CAPTION>
(Taxable Equivalent, in thousands) 1994 1993 1992
---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Total Average Assets $709,077 $705,516 $602,317
---------------------------------------------------------------------------------------------------------
1994 % of 1993 % of 1992 % of
NET INTEREST INCOME: Assets Assets Assets
<S> <C> <C> <C> <C> <C> <C>
Interest and Dividend Income $ 50,041 7.06% 47,194 6.69% $ 45,528 7.56%
Fees on Loans 3,571 0.50% 4,598 0.65% 4,326 0.72%
---------------------------------------------------------------------------------------------------------
Total $ 53,612 7.56% 51,792 7.34% $ 49,854 8.28%
Interest Expense 22,377 3.16% 21,956 3.11% 24,051 3.99%
---------------------------------------------------------------------------------------------------------
Net Interest Income Before Provision for
Possible Loan Losses $ 31,235 4.41% 29,836 4.23% $ 25,803 4.28%
Provision for Possible Loan Losses 10,000 1.41% 23,822 3.38% 8,050 1.34%
---------------------------------------------------------------------------------------------------------
Net Interest Income $ 21,235 2.99% 6,014 0.85% $ 17,753 2.95%
----------------------------------------------===========================================================
OPERATING EXPENSE ANALYSIS:
Non-Interest Expense
Personnel $ 13,196 1.86% 12,305 1.74% $ 10,195 1.69%
Occupancy Expense 2,324 0.33% 1,949 0.28% 1,490 0.25%
Equipment Expense 2,004 0.28% 1,880 0.27% 1,783 0.30%
Other 17,939 2.53% 10,208 1.45% 7,612 1.26%
---------------------------------------------------------------------------------------------------------
Total Non-Interest Expense $ 35,463 5.00% 26,342 3.73% $ 21,080 3.50%
---------------------------------------------------------------------------------------------------------
Less Non-Interest Income
Service Charges on Deposits $ 3,452 0.49% 3,571 0.51% $ 2,536 0.42%
Other, Including Securities Gains (Losses) 5,337 0.75% 6,883 0.98% 7,659 1.27%
---------------------------------------------------------------------------------------------------------
Total Non-Interest Income $ 8,789 1.24% 10,454 1.48% $ 10,195 1.69%
---------------------------------------------------------------------------------------------------------
Net Operating Expense $ 26,674 3.76% 15,888 2.25% $ 10,885 1.81%
----------------------------------------------===========================================================
SUMMARY:
Net Interest Income $ 21,235 2.99% 6,014 0.85% $ 17,753 2.95%
Less: Net Overhead 26,674 3.76% 15,888 2.25% 10,885 1.81%
---------------------------------------------------------------------------------------------------------
Profit Before Taxes -
Taxable Equivalent Basis $ (5,439) -0.77% (9,874) -1.40% $ 6,868 1.14%
Net Profit (Loss) After Taxes $ (2,890) -0.41% (5,781) -0.82% $ 5,677 0.94%
----------------------------------------------===========================================================
</TABLE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of financial
condition and results of operations of the Company and its
subsidiaries for the three years ended December 31, 1994 should
be read in conjunction with the consolidated financial statements
and notes thereto and selected statistical information appearing
elsewhere in this annual report. The information is discussed on
a fully taxable equivalent basis. Particular attention should be
given to the INTEREST MANAGEMENT ANALYSIS and OPERATING EXPENSE
ANALYSIS TABLES immediately preceding this discussion upon which
this discussion is primarily based. The financial condition and
operating results of the Company essentially reflect the
operations of its principal subsidiary, The Merchants Bank.
REGULATORY MATTERS
During the second quarter of 1993, the FDIC and the
Commissioner of the Vermont Department of Banking, Insurance and
Securities performed a joint field examination of the Bank as of
March 31, 1993. Additionally during the quarter, the Federal
Reserve Bank of Boston (Federal Reserve) performed a field
examination of the Company as of March 31, 1993. As a result of
these examinations, the Bank entered into a Memorandum of
Understanding (MOU) with the FDIC and the Commissioner on October
29, 1993. Under the terms of the MOU, the Bank is required to,
among other things, maintain a leverage capital ratio of at least
5.5%, revise certain operating policies, enhance certain loan
review procedures, refrain from declaring dividends and correct
certain technical exceptions and violations of applicable
regulations. Management believes the Bank is in substantial
compliance with all of the provisions of the MOU as of December
31, 1994. The Bank was also directed by the FDIC to increase the
reserve for possible loan losses by approximately $12 million and
charge off loans totaling approximately $8 million at the
conclusion of the examination in June 1993. The Bank recorded
the increase in the reserve for possible loan losses as directed
by the FDIC as of June 30, 1993. Based on subsequent discussions
with the FDIC and additional review of certain loans, management
decided to amend the Bank's call reports and Forms 10-Q for the
quarters ended March 31, 1993 and June 30, 1993 to allocate $3
million of the additional provision for possible loan losses
originally recorded in the quarter ended June 30, 1993 to the
quarter ended March 31, 1993.
Additionally, on February 18, 1994, the Company entered
into a Written Agreement with the Federal Reserve which precludes
the Company from declaring or paying any dividends without prior
permission, directed the Company to submit a capital plan to
maintain an adequate capital position at the Bank and at the
Company, precludes any additional borrowings or incurrance of
debt without the Federal Reserve's permission, and required the
Bank to review and assess the qualifications of senior management
and form a succession plan for senior management. This agreement
also required the Bank to revise certain policies, and not enter
into certain transactions without prior Federal Reserve
permission.
Management has actively responded to the agreements, and
has continued to comply with the requirements of both the Mou and
the Written Agreement.
On March 31, 1994, the FDIC and the Commissioner completed
the field work related to their most recent examination of the Bank
as of December 31, 1993. The results of the examination had no
significant impact with respect to the existing terms of the
agreements.
On December 16, 1994, the FDIC and the Commissioner
completed the field work related to their examination of the
Merchants Trust Company as of September 26, 1994. On February
17, 1995 the Trust Company entered into a Memorandum of
Understanding with the FDIC and Commissioner to correct certain
operating, technical and regulatory issues. Management believes
that the matters noted in the Memorandum of Understanding have
subsequently been corrected or are in the process of being
remediated and that the Memorandum of Understanding will have no
significant impact on the Company's financial position.
FDIC ASSISTED ACQUISITION
The Company expanded its banking operations through an
FDIC assisted acquisition of the New First National Bank of Vermont
(NFNBV), a three bank holding company conducting banking
activities primarily on the eastern side of Vermont. Formerly
known as Independent Bank Group and later as the First National
Bank of Vermont, it was taken over by the FDIC in January 1993 as
a result of inadequate capital and was subsequently run by the
FDIC as a bridge bank until its sale on June 4, 1993. Prior to
submitting its bid to the FDIC to acquire NFNBV, the Company was
able to conduct a due diligence review of NFNBV's assets and
liabilities using internal and outside consultants which the
Company believes contributed to its successful bid and reduced
its risks relating to the acquisition. The acquisition enabled
the Company to enlarge its earning asset base and achieve
economies of scale by consolidating administration and
operations, standardizing policies and procedures, and providing
uniform products and services. Management believes that the
acquisition represented a very attractive opportunity to expand
the Company's operations into a contiguous market area. The
integration of operations was completed in October, 1993.
Under the terms of the Purchase and Assumption Agreement
between the Company and the FDIC, the Company purchased $178.4
million in performing loans, $154.5 million of which are covered
under a Loss Sharing Agreement with the FDIC. Such loans are
classified as "Segregated Assets" in the consolidated financial
statements. Also purchased was $11.4 million in cash and cash
equivalents, $4.1 million of investment securities, $1.5 million
of buildings and equipment and $1.5 million of other assets. A
purchase accounting adjustment was made to establish an allowance
for possible loan losses in the amount of $2 million, which
represents managements' estimate of general credit risks within
the acquired portfolio as adjusted under the provisions of the
Loss Sharing Agreement with the FDIC. The purchase price
consisted of the assumption of all of the deposit liabilities
($203 million) and $537,000 in other liabilities. Additionally,
the Company received cash from the FDIC in the amount of $4.1
million. Accordingly, the Company recognized a core deposit
intangible at the purchase date in the amount of $4.5 million
which is being amortized over 15 years using the straight-line
method. During 1994, the Company reviewed the value of the core
deposit intangible by comparing purchased deposit levels to
current deposit levels in the branches purchased. The review
indicated that approximately $35 million (17.16%) in deposit
runoff had been experienced and deemed permanent in nature.
Accordingly the carrying value of the core deposit intangible was
written down by $686,000. This charge against earnings is
reflected in Other Expenses in the Consolidated Statment of
Operations.
Under the terms of the Loss Sharing Agreement, the FDIC
will reimburse the Company, on a quarterly basis, 80% of the net
charge-offs and certain expenses relating to Segregated Assets up
to cumulative losses aggregating $41.1 million, after which the
rate will be 95% of net charge-offs on the loans. The Loss
Sharing Agreement runs for three years, after which time the
Company will reimburse the FDIC 80% of all recoveries on the
charged-off loans for three years.
RESULTS OF OPERATIONS
The Company recognized a net loss of $2,890,024 for the year
ended December 31, 1994, due primarily to three items: provisions
for possible loan losses of $10,000,000 (refer to the discussion
under "Provision For Possible Loan Losses" which follows), an
increase in the provision for writedowns of other real estate
owned of $2,392,000, and the net expenses related to the
reimbursement of Trust Company clients for losses related to
investments managed by the Trust Company and placed in the Piper
Jaffray Institutional Government Income Portfolio. These net
Trust Company expenses totaled approximately $3,200,000 after an
insurance reimbursement of $6,000,000. The Company intends to
pursue all available claims against Piper Jaffray Companies, Inc.
and others because of the losses.
Core earnings, not including the provision for possible loan
losses, improved in 1994 over 1993 due to a rising interest rate
environment which allowed the Bank to improve the interest margin
by increasing the average yield from lending while holding the
rate paid to depositors relatively flat. The Company recognized
$72,884 in net gains on investment securities as compared to
$1,898,945 in 1993.
A net loss of $5,782,000 was recognized for the year ended
December 31, 1993, due primarily to a significant increase in the
provision for possible loan losses. Core earnings, not including
the provision for possible loan losses, improved in 1993 over
1992 due to a lower, stable interest rate environment which
allowed the Bank to improve the interest margin by reducing the
average cost of funding. Net gains on investment security
transactions decreased to $1,898,945 from $3,448,500 in 1992.
The net loss on a per share basis was $.68 and $1.37 for
the year ended December 31, 1994 and 1993, respectively. Earnings
per share adjusted for all stock dividends was $1.39 in 1992.
The cash dividends paid per share were $0.20 and $0.80
respectively for 1993 and 1992 after adjustments for all stock
dividends. No dividends were paid in 1994.
The net loss as a percentage of average equity capital was
6.24% and 11.92% for 1994 and 1993, respectively, while the net
return on average equity capital was 11.0% in 1992. The ten-year
average return on equity is 10.68%. The net loss as a percentage
of average assets was .41% and .82% in 1994 and 1993,
respectively, while the net return on average assets was .94% in
1992. The ten-year average return on assets is .76%.
NET INTEREST INCOME
Net interest income before the provision for possible loan
losses is the difference between total interest, loan fee, and
investment income and total interest expense. Net interest
income before the provision for possible loan losses is the key
indicator of a bank's performance in managing its assets and
liabilities. Maximization and stability of this margin is the
primary objective of the Company. Net interest income before the
provision for possible loan losses on a fully taxable equivalent
basis was $31.2 million in 1994, up 4.7% from $29.8 million the
previous year. This increase is primarily due to the higher
interest rate environment during 1994 and the impact of having
the higher asset base from the NFNBV acquisition for the entire
year as compared to seven months for 1993. Additionally, a
decrease in the level of nonperforming assets increased the net
interest income before the provision for possible loan losses as
a percentage of total average assets to 4.41% in 1994 from 4.23%
in 1993.
Net interest income before the provision for possible loan
losses was $29.8 million in 1993, up 15.6% from $25.8 million the
previous year. This increase is primarily due to the larger
asset base resulting from the NFNBV acquisition, which added
approximately $84 million in earning assets and $80 million in
deposit liabilities to the averages. Interest rates remained
level during 1993 and 1992, however, an increased level of
nonperforming assets in 1993 reduced the net interest income
before the provision for possible loan losses as a percentage of
total average assets to 4.23% in 1993 from 4.28% in 1992.
Total interest income increased 6.0% in 1994 from 1993,
while total interest expense increased 1.9% as the Company held
its cost of core funding flat through fewer and smaller increases
in interest rates paid to depositors. The decrease, in
comparison to 1992, in total interest expense, which is primarily
due to a stable, low interest rate environment during 1993 is
dramatic, when the assumption of additional deposits from the
NFNBV acquisition is taken into consideration. Total interest
income increased 3.7% in 1993 from 1992 while total interest
expense declined 8.7% from 1992 totals. Included in fees on
loans and interest income are net gains on sales of loans of
$219,000, $818,000 and $404,000 in 1994, 1993 and 1992,
respectively. These net gains included the present value of the
difference between the weighted average interest rate on the sold
loans serviced by the Bank and the interest rate remitted to the
investor, adjusted for a normal servicing fee.
Net interest income after the provision for possible loan
losses was $15.2 million higher in 1994 than 1993, which was a
66.1% decrease ($11,739,000) lower than 1992 due to a significant
increase in the 1993 provision for possible loan losses. Net
interest income after the provision in 1994 was 2.99% of average
assets compared to .85% in 1993 and 2.95% in 1992.
NET OPERATING EXPENSE
Net operating expense (net overhead) is total non-interest
expense reduced by non-interest income. Operating expense
includes all costs associated with staff, occupancy, equipment,
supplies, and all other non-interest expenses. Non-interest
income consists primarily of fee income on deposit accounts,
trust services, credit card, corporate and data processing
services, and gains or losses on investment securities.
Excluding the FDIC assistance received from loss-sharing and
net gains on investment securities, non-interest income earned in
1994 increased $161,000 (1.9%) over the previous year. The Trust
Company fees and all other items included under non-interest
income increased 5.6%, however, service charges on deposits
decreased 3.5% as the Bank adjusted its service charges to meet
competition in its market place.
Non-interest income increased marginally (2.5%) during 1993,
to $10.5 million from $10.2 million in 1992. In 1993 Trust
department income increased $287,000 (20.5%), service charges
increased $1,035,000 (40.8%) due to increased charges and many
more deposit accounts due to the NFNBV acquisition, all other
non-interest income increased $486,000 (17.3%), while gains on
the sales of investment securities decreased $1,550,000 (44.9%).
Included in the 1993 investment gains is $1,024,000 recognized on
the sale of U.S. Treasury issues sold during the first quarter
which had been written down as of December 31, 1992 as an
unrealized loss and recognized as a reduction of investment gains
during 1992.
Non-interest expenses increased dramatically ($9.1 million
or 34.6%, not including the amount of losses and write-downs on
Segregated Assets, which were reimbursed by the FDIC) in 1994 as
compared to 1993 due to several large transactions. Expenses
related to losses and costs to carry the Bank's other real estate
owned portfolio increased $1.8 million due to an additional
provision to increase the reserve on the portfolio of $2.3
million during 1994. The Company increased the provision
primarily due to a change in strategy whereby the Company wants
to be able to sell most of the OREO portfolio in a bulk sale or
at auction during 1995. Also, the Bank wrote off the carrying
value of one of its investments in real estate limited
partnerships of $546,000 due to significant cash flow
deficiencies experienced by the partnership which caused the
Company to doubt the realizability of the investment. The net
charge related to the Trust Company's reimbursement to its
clients due to investments in the Piper Jaffray Institutional
Government Income Portfolio totalling $3.2 million after the
recognition of a $6 million reimbursement from insurance carriers
also added to the increase. The Bank also wrote down the
unamortized balance of the core deposit intangible related to the
acquisition of NFNBV in the amount of $686,000 due to the
attrition of certain deposits.
Additionally, during 1994, salary and benefit expenses
increased $891,000 or 7.2% due primarily to the cost of carrying
an additional 10 branches for a full year as compared to only 7
months during 1993. The cost of FDIC insurance also increased by
$531,000 due to the larger amount of deposits carried for first
full year following the acquisition.
The Company's 1993 operating expenses increased $5,261,000
or 25% over 1992, due to the costs of regulatory actions and the
acquisition of NFNBV. Total personnel costs increased $2.1
million (20.7%) as the Company took on the 129 employees of NFNBV
on a temporary or consulting basis while converting the new
branches and associated information into the Company's computer
and operating systems. By December 31, 1993, the Company had
hired on a permanent basis 64 employees and paid approximately
$100,000 in separation and severance pay to the employees not
hired. Occupancy and equipment expenses in 1993 increased
$556,000 in the aggregate, or 17%, again due to additional
branches acquired in the NFNBV acquisition. Losses on and write-
downs of other real estate owned increased to $1.97 million from
$833,300 in 1992 due to the deterioration in the real estate
market and the economic recession during the late 1980's and
early 1990's. All other non-interest expenses increased $1.5
million (27.1%) in 1993 due to higher FDIC insurance premiums,
legal and professional fees and amortization of the core deposit
intangible arising from the NFNBV transaction and regulatory
actions.
When non-interest income is netted against non-interest
expense, net operating expense (net overhead) increased $10.8
million (68%) in 1994 from the 1993 level. As a percent of
average total managed assets, net overhead increased to 3.76% in
1994 from 2.25% in 1993.
The Company recognized $708,000 in low income housing tax
credits as a reduction in the provision for income taxes during
1994 and $961,000 during 1993 and 1992. As a consequence of the
operating losses incurred during 1994 and 1993, the Company
recognized a tax benefit of $2.8 million and $4.4 million
including $708,000 and $961,000 in low income housing tax
credits, respectively. Additionally, as of December 31, 1994 the
Company has a cumulative prepaid tax asset of approximately $5.0
million arising from timing differences between the Company's
book and tax reporting. The prepaid tax asset is included in
other assets.
PROVISION FOR POSSIBLE LOAN LOSSES
Beginning in the late 1980's, the New England region was
severely affected by a deterioration in the real estate market
and an economic recession. During this period, the Company
increased its provision for possible loan losses and incurred
costs associated with troubled assets and lost income on
nonaccrual loans. The provision for possible loan losses charged
to operations was $10,000,000 in 1994, $23,822,000 in 1993 and
$8,050,000 in 1992. Net charge-offs were $10,131,000 in 1994,
$13,174,000 in 1993, and $7,289,000 in 1992. In addition, a
reserve for possible loan losses of $2,000,000 was set up during
1993 related to the loans acquired in connection with the
acquisition of NFNBV, to reflect the general credit risks within
the acquired portfolio, net of the effects of the Loss Sharing
Agreement with the FDIC.
The reserve for possible loan losses (RPLL) was $19,929,000
at December 31, 1994, $20,060,000 at December 31, 1993, and
$7,412,000 at December 31, 1992. As a percent of loans
outstanding, the reserve for possible loan losses was 3.90%,
3.50%, and 1.73%, at year-end 1994, 1993, and 1992 respectively.
The increased level in the reserve for possible loan losses
reflects management's current strategies and efforts to maintain
the reserve at a level adequate to provide for loan losses based
on an evaluation of known and inherent risks in the loan
portfolio. Given the continuing high levelof the Bank's
nonperforming assets during 1994 (discussed below) and the
continued lack of strength in the regional economy, together with
other relevant economic factors, management concluded that a the
reserve for possible loan losses should remaine at a level
consistent with the prior year. Among the factors which
management considers in establishing the level of the reserve are
overall findings from an analysis of individual loans, the
overall risk characteristics and size of the loan portfolio, past
credit loss history, management's assessment of current economic
and real estate market conditions and estimates of the current
value of the underlying collateral. Further, during the fourth
quarter of 1994, as a result of ongoing weakness in the regional
economy, and management's ongoing strategy to resolve problem
loans, the Company provided incremental reserves for possible
loan losses of $4 million which supplemented the planned
provision of $1.75 million for the quarter.
Nonperforming assets (loans past due 90 days or more and
still accruing, nonaccruing loans, restructured loans and other
real estate owned) decreased 21.5% to $50,446,000 at December 31,
1994 from $64,299,000 at year-end 1993. Of the 1994 amount,
$12,058,000 represents Segregated Assets, covered by the Loss
Sharing Agreement with the FDIC. Excluding the FDIC's 80%
exposure on the Segregated Assets ($9,646,000), adjusted
nonperforming assets totaled $40,800,000, a decrease of 19% over
the 1993 level. At December 31, 1992, nonperforming assets were
reported to be $33,899,000.
The Company's policy is to classify a loan more than 90 days
past due with respect to principal or interest as a nonaccruing
loan, unless the underlying collateral is deemed to be
collectible as to both principal and interest and is in the
process of collection. Income accruals are suspended on all
nonaccruing loans, and all previously accrued and uncollected
interest is reversed against current income. A loan remains on
nonaccruing status until the factors which suggest doubtful
collectibility no longer exist, or the loan is liquidated, or
when the loan is determined to be uncollectible and is charged
off against the reserve for possible loan losses. In those cases
where a nonaccruing loan is secured by real estate, the Company
can, and usually does, initiate foreclosure proceedings. The
result of such action is to force repayment of the loan through
the proceeds of a foreclosure sale or to allow the Company to
take possession of the collateral in order to manage a future
resale of the real estate. Foreclosed property is recorded at
the lower of its cost or estimated fair value, less any estimated
costs to sell. Any cost in excess of the estimated fair value on
the transfer date is charged to the reserve for possible loan
losses, while further declines in market values are recorded as
an expense in other non-interest expense in the statement of
operations. As of December 31, 1994 and 1993, the Company had
valuation reserves against the other real estate owned portfolio
carrying values of $2,991,000 and $599,000, respectively.
The continuing effect of the downturn in the regional
economy was the primary reason for the increase in nonperforming
assets during 1993 and 1992. In response the Company continued
to enhance its loan review and loan workout functions to provide
additional resources to address nonperforming assets and maximize
collections and recoveries. Historically, the Company worked
closely with borrowers and pursued vigorous collection efforts.
As the recession continued and property values declined further,
changes in policies and procedures related to the collection of
troubled assets were evaluated, especially with respect to the
accrual of interest on delinquent loans. During 1993,
nonaccruing loans and loans past due 90 days or more and still
accruing increased $28.4 million which was principally due to the
acquisition of NFNBV. $19.6 million of this increase is due to
the acquisition of NFNBV and $17.4 million is covered by the Loss
Sharing Agreement. Restructured loans were $2,841,000 at
December 31, 1993 as compared to $1,838,000 at December 31, 1992.
Other real estate owned and in-substance foreclosures grew by
$1,013,000 to $13,674,000 at December 31, 1993 compared to
$12,661,000 a year earlier.
During 1992, the most significant change in nonperforming
assets occurred in the other real estate owned/in-substance
foreclosure category which grew to $12,661,000 at December 31,
1992 from $6,110,000 at December 31, 1991. Restructured loans
within the nonperforming category totaled $1,838,000 at December
31, 1992. During 1992 some otherwise high quality loan
relationships experienced decreasing cash flows. In such
circumstances, management utilized restructuring where long term
cash flow prospects appeared good, the borrower's business
abilities had been historically demonstrated through successful
operations and sound collateral values existed.
The Company takes all appropriate measures to restore
nonperforming assets to performing status or otherwise liquidate
these assets in an orderly fashion so as to maximize their value
to the Company. There can be no assurances that the Company will
be able to complete the disposition of nonperforming assets
without incurring further losses.
BALANCE SHEET ANALYSIS
Total assets at December 31, 1994 decreased $40.2 million
(5.5%) from the previous year end. All of this shrinkage
occurred in the loan and Segregated Asset portfolios, as new loan
originations slowed considerably due to the higher interest rate
environment and the sluggish economy. The Bank originated and
sold $42.8 million in mortgages during 1994, approximately half
the 1993 level. Of the decrease in loans and Segregated Assets,
$13 million was due to charge offs, and the remainder of the
decrease ($49.2 million) was accounted for by payoffs and
scheduled amortization greater than the level of new loan
originations. Total deposit balances decreased during 1994 by
$37 million, as customers' savings moved to other bank and non-
bank competitors.
The investment portfolio, primarily U.S. Treasury debt
securities with short maturities, grew $14.8 million (17.0%) as
the Company invested excess funds during a period of lower loan
demand. Although deposit balances continued to decrease, the
Company was able to increase its liquidity position throughout
the year.
Total 1993 year-end assets increased $112.6 million (18.1%)
over year-end 1992 due almost entirely to the NFNBV acquisition.
Total assets acquired in the transaction approximated $197
million, however, due to the efforts expended in converting the
systems and operations of the new branches, as well as dealing
with the ongoing effects of regulatory actions, fewer loans were
originated (other than residential mortgage loans, which were
subsequently sold on the secondary market) by the Company in 1993
in comparison to 1992. During 1993, approximately $97.5 million
of loans originated were sold to secondary market investors. As
a result, the portfolio reduced in size due to scheduled
amortization and charge offs. Total deposit balances at
December 31, 1993 grew by $115.3 (22.9%)from the comparable
amount at December 31, 1992, however, deposits totaling $203
million were purchased in the NFNBV transaction. This shrinkage
was due, in part to normal runoff after an acquisition and also
due to aggressive marketing by existing banks in the NFNBV
marketplace following the acquisition. The investment
portfolio decreased by $17.7 million as of December 31, 1993, and
the cash assets including federal funds sold decreased by $16.7
million as the Company replaced the funding sources lost through
the shrinkage in deposits during the year. Non-deposit
liabilities grew by $3.8 million (5.8%) in 1993.
For the year ended December 31, 1993, the Company adopted
Statement of Financial Accounting Standards No. 115 (FASB 115),
entitled "Accounting for Certain Debt and Equity Securities."
FASB 115 establishes standards of financial accounting and
reporting for investments in equity securities that have readily
determinable fair values and all investments in debt securities.
The effects of implementing FASB 115 was that certain investment
securities were designated as available-for-sale and adjustments
related to unrealized gains and losses with respect thereto (net
of taxes) were made to stockholders' equity.
LIQUIDITY
Liquidity, as it pertains to banking, can be defined as the
ability to generate cash in the most economical way to satisfy
loan demand, deposit withdrawal demand, and to meet other
business opportunities which require cash. Sources of liquidity
for banks include short term liquid assets, cash generated from
loan repayments and amortization, borrowing, deposit generation,
and earnings.
The Merchants Bank has historically maintained a high
percentage of its total resources in loans. Accordingly, the
Bank relies on careful management of its ability to borrow money
and generate deposits for liquidity. At year-end 1994, the Bank
had available $30,000,000 in unused Federal Funds lines of
credit. Only 3.6% of total resources were funded by large
certificates of deposit at December 31, 1994 and 2.9% at December
31, 1993.
EFFECTS OF INFLATION
The financial nature of the Company's Balance Sheet and
Statement of Operations is more clearly affected by changes in
interest rates than by inflation, but inflation does affect the
Company because as prices increase the money supply tends to
increase, the size of loans requested tends to increase, total
bank assets increase, and interest rates are affected by
inflationary expectations. In addition, operating expenses tend
to increase without a corresponding increase in productivity.
There is no precise method, however, to measure the effects of
inflation on the Company's financial statements. Accordingly,
any examination or analysis of the financial statements should
take into consideration the possible effects of inflation.
ACCOUNTING PRONOUNCEMENTS
In May, 1993 the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 114, Accounting
by Creditors for Impairment of a Loan. The Company is required
to adopt the new standard on January 1, 1995. Management has
determined that the effects of this change in accounting will
have no material effect on the Company's consolidated financial
statements.
CAPITAL RESOURCES
Capital growth is essentialto support deposit and asset
growth and to ensure strength and safety of the Company. The net
loss reduced the Company's capital by $2,890,000 in 1994. The
net loss together with dividends paid reduced the Company's
capital by $6,630,000 in 1993. Net income of $2,612,000 (after
payment of cash dividends) added to equity capital in 1992.
Dividend Reinvestment (DRP) and Employee Stock Ownership Plan
(ESOP) requirements were satisfied by open market purchases of
stock during 1993 and 1992. No new equity capital was generated
from the sale of common stock to DRP and ESOP participants during
1994, 1993 or 1992 although this could be an important source of
capital if management felt additional capital was necessary.
Over the three year period, the equity capital of the Company has
decreased $7,291,000 or 14.7%.
As astate chartered bank,the Bank's primaryregulator is
the Federal Deposit Insurance Corporation (FDIC). Accordingly,
the Bank is affected by the Financial Institutions Reform,
Recovery and Enforcement Act of 1989 (FIRREA) which was enacted
in August 1989 the Federal Deposit Insurance Corporation
Improvement Act (FDICIA) enacted in December 1992.
The Bank is subject to regulatory capital regulations which
provide for two capital requirements - a leverage requirement and
a risk-based capital requirement. The leverage requirement
provides for a minimum "core" capital consisting primarily of
common stockholders' equity of 3% of total adjusted assets for
those institutions with the most favorable composite regulatory
rating. Under the terms of the MOU, the Bank is required to
maintain a leverage capital ratio of at least 5.5% and refrain
from declaring dividends without the prior approval of the FDIC.
The Company is also required to refrain from declaring dividends
without the Federal Reserve's prior permission. The risk-based
capital requirement of FIRREA provides for minimum capital levels
based on the risk weighted assets of the Bank. The guidelines
require banks to meet a minimum Tier 1 risk-based capital ratio
of 4.0% and a total risk-based capital ratio of 8.0% as of
December 31, 1994.
The Bank's leverage capital ratio is 5.96% and 5.94% at
December 31, 1994 and 1993, respectively. As of December 31,
1994 and 1993, the Bank's risk-based Tier 1 capital ratios are
8.13% and 7.63% and the total risk-based ratios are 10.96% and
11.02%. All the Bank's capital measurements exceeded risk-based
regulatory minimums as of December 31, 1994.
At the present time, Merchants Bancshares, Inc. has the
following sources of equity capital available as approved by
stockholders and regulatory authority:
A. Common Stock ($0.01 par value)
Shares Authorized: 4,700,000
Shares Issued and Outstanding at
December 31, 1994: 4,242,927
B. Preferred Stock, Class A
Non-voting ($0.01 par value)
Shares Authorized: 200,000
Shares Outstanding: -0-
C. Preferred Stock, Class B
Voting ($0.01 par value)
Shares Authorized: 1,500,000
Shares Outstanding: -0-
The Preferred Stock was authorized by shareholders at the
Annual Meeting held on May 15, 1984. While the Company has no
present intention to issue any Preferred Stock, the Board of
Directors of the Company may do so in the future for any lawful
purpose. The two preferred issues afford the ability to offer a
broader range of securities and thus increase the ability to
structure capital transactions on terms and conditions beneficial
to the Company.
In May, 1986 the Company issued privately $12 million of its
10% Senior Notes due in 1996 to institutional investors. The
proceeds of this note issue are in use for general corporate
purposes. The current balance outstanding of this issue is $4.8
million.
In April, 1990, the Bank issued privately $20 million in
9.81% capital notes to institutional investors. These proceeds
increased the regulatory capital of the Company and are in use
for general corporate purposes.
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
THE 1994 10-K AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH 10-K.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1994
<PERIOD-END> DEC-31-1994
<CASH> 34,851
<INT-BEARING-DEPOSITS> 487,757
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 91,667
<INVESTMENTS-CARRYING> 10,085
<INVESTMENTS-MARKET> 9,872
<LOANS> 510,555
<ALLOWANCE> (19,929)
<TOTAL-ASSETS> 694,837
<DEPOSITS> 582,224
<SHORT-TERM> 18,295
<LIABILITIES-OTHER> 7,788
<LONG-TERM> 44,229
<COMMON> 42
0
0
<OTHER-SE> 42,258
<TOTAL-LIABILITIES-AND-EQUITY> 694,837
<INTEREST-LOAN> 48,938
<INTEREST-INVEST> 4,381
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 53,319
<INTEREST-DEPOSIT> 17,851
<INTEREST-EXPENSE> 22,376
<INTEREST-INCOME-NET> 30,943
<LOAN-LOSSES> 10,000
<SECURITIES-GAINS> 73
<EXPENSE-OTHER> 41,713
<INCOME-PRETAX> (5,732)
<INCOME-PRE-EXTRAORDINARY> (5,732)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (5,732)
<EPS-PRIMARY> ( .68)
<EPS-DILUTED> ( .68)
<YIELD-ACTUAL> 8.39
<LOANS-NON> 32,201
<LOANS-PAST> 668
<LOANS-TROUBLED> 5,083
<LOANS-PROBLEM> 11,200
<ALLOWANCE-OPEN> 20,060
<CHARGE-OFFS> (12,650)
<RECOVERIES> 2,519
<ALLOWANCE-CLOSE> 19,929
<ALLOWANCE-DOMESTIC> 19,929
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 17,364
</TABLE>
