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, 1995
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.
X Contained herein Not contained herein
The aggregate market value of the voting stock held by non-affiliates is
$42,205,531 as computed using the average bid and asked prices of stock, as
of February 15, 1996.
The number of shares outstanding for each of the registrant's classes of common
stock, as of February 15, 1996 is:
Class: Common stock, par value $.01 per share
Outstanding: 4,434,620 shares
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Annual Report to Shareholders for the year ended
December 31, 1995 are incorporated herein by reference to Part II.
Portions of the Proxy Statement to Shareholders for the year ended
December 31, 1995 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 8
Item 4 - Submission of Matters to a 8
Vote of Security Holders
Part II
Item 5 - Market for Registrant's Common 9
Equity and Related Stockholder
Matters
Item 6 - Selected Financial Data 9
Item 7 - Management's Discussion and Analysis 20
of Financial Condition and Results of
Operations
Item 8 - Financial Statements and Supplementary 21
Data
Item 9 - Changes in and Disagreements with Accountants 21
on Accounting and Financial Disclosures
Part III
Item 10 - Directors and Executive Officers of the 22
Registrant
Item 11 - Executive Compensation 22
Item 12 - Security Ownership of Certain Beneficial 22
Owners and Management
Item 13 - Certain Relationships and Related Party 22
Transactions
Part IV
Item 14 - Exhibits, Financial Statement 22
Schedules, and Reports on Form 8-K
Indemnification Undertaking by Registrant 24
Signatures 25
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 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, 1995 the Bank
was the fifth largest commercial banking operation in Vermont, with
deposits totalling $544.5 million, net loans of $433.5 million, and
total assets of $615.0 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, 1995 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, 1995 were $1,292,170.
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, 1995, the Merchants Trust Company had fiduciary
responsibilities for assets valued at market in excess of $265.3 million.
Total revenue for 1995 was $1,844,936, total expense was $1,607,946, resulting
in pre-tax net income for the year of $236,990. This net income 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, 1995, the corporation had assets of $1,716,887,
liabilities of $16,887 due to the parent company for accrued management fees,
and equity capital of $1,700,000.
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, ($16,887 in 1995), in the amount of
1.5% on annual average assets. 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 or 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 retail deposit and investment
products including Regular checking, Free 60 checking, NOW checking accounts,
and NOW 50 checking accounts. The Bottom Line checking account is designed as
a low cost checking option for customers who write fewer checks. All retail
deposit products can be accessed with an ATM (Automated Teller Machine) card
for additional convenience after normal banking hours or when outside the
Bank's regular service area.
The Bank also offers, as investment options, savings accounts, Certificates of
Deposit, Individual Retirement Accounts (IRAs), Money Market accounts, and our
Preferred Investment Money Market account, all at competitive rates and terms.
Additional retail services include safe deposit boxes, travelers checks, bank
drafts, personal money orders, and several methods of automated money transfer,
including Federal Reserve wire transfer services.
The Bank has made a significant investment in automation to assist customers.
In addition to the ATM card, the Bank offers ATF (automatic transfer of funds)
to cover checking overdrafts on personal accounts and EFT (electronic funds
transfer) by which money can be transferred between accounts for funds
management or for making loan payments automatically.
In 1995, the Bank introduced PhoneLynx. This voice response system allows
customers to access their accounts by telephone at any time of the day or night.
Through PhoneLynx, customers can check balances on any type of deposit or
loan account, can check interest rates on deposits and loans, can transfer
funds between accounts, and can make loan payments. Customers may also
reorder checks, enter stop payments, order a statement copy "faxed" to
them, obtain interest paid or earned information for tax purposes, confirm
deposits/withdrawals, and search to determine if a check has been paid.
In 1996, the Bank will offer electronic bill payment capabilities by phone
or PC through PhoneLynx and PC Lynx. With these services, customers will be
able to pay any type of bill electronically from their own PC or from a
telephone at any time that fits their schedule.
The Bank provides strong customer support with thirty three ATMs statewide,
including one drive-up ATM; and on-line teller stations in all branches. 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.
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;
multifamily mortgages; residential construction; mortgages for seasonal
dwellings; and 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.
On January 12, 1996, the Passumpsic Savings Bank purchased certain assets and
assumed certain liabilities of the Bank's branch located in Danville, VT. The
Merchants Bank received an 8% deposit premium on deposits sold in accordance
with the purchase and assumption agreement.
COMPETITION
Competition for financial services remains very strong in Vermont. As of
December 31, 1995, there were sixteen state chartered commercial banks, ten
national commercial banks, five state chartered savings banks and one state
chartered savings and loan association operating in Vermont. Also, there is
one federally chartered savings bank, as well as, one federally chartered
savings and loan association. 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 1995, The Merchants Bank was the fifth largest state chartered 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, 1995, Merchants Bancshares, Inc. had five officers:
Dudley H. Davis, Chairman of the Board; Joseph L. Boutin, President and Chief
Executive Officer; Jennifer L. Varin, Secretary; Janet P. Spitler, Treasurer;
and Susan M. Verro and Janet L. Lussier, Assistant Secretaries. No officer
of the Company is on a salary basis.
As of December 31, 1995, The Merchants Bank employed 247 full-time and 43
part-time employees, representing a full-time equivalent complement of 270
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, 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.
ECONOMY
The latest New England Economic Project (NEEP) Report dated October, 1995
expects the Vermont economy to continue along its generally expansionary path
throughout the calendar 1995-99 forecast period. Still, Vermont's economic
performance after more than four years of recovery/expansion remains decidedly
mixed. Although the national economy continued to rebound in 1995, there have
yet to be any tangible signs of a marked resurgence in the Vermont or regional
economies. The current climate of uneasiness in Vermont threatens to
continue, given uncertainty as to the capacity of the national economy for
further expansion.
Unemployment in Vermont ended the year at 4.2%, the second lowest rate in the
New England region. In addition, the Burlington Labor Market Area continued to
have the lowest rate of unemployment among the nineteen major Labor Market Areas
in the New England region. But sluggish wage growth, especially in key
upper-income categories, continued to limit increases in state tax revenues.
Although the manufacturing sector is not in a position to take a leading role in
the state's economic landscape, Vermont enjoys above average manufacturing job
growth (+1.4% over previous year July data versus 0.6% for the nation as a
whole), and ranks first among all states in the New England region over the
July 1994-1995 period. The size and frequency of cyclically-adjusted
employment restructurings in Vermont s manufacturing sector have decreased
considerably, leading to positive employment movements among the state's
successful manufacturing employers and categories.
Unfortunately, several of Vermont s non-manufacturing categories have not been
able to escape the corporate cost-cutting and downsizing that previously plagued
the manufacturing sector. The Public Utilities, Higher Education and
Financial Services sectors have all seen announcements of significant
employment reductions, and similar reductions in the Government sector have
either occurred or are underway at both the federal and state government levels.
Against the backdrop of a slowing Vermont expansion is a national economic
forecast scenario that is generally synonymous with the successful completion of
a much-heralded "soft landing". Even though the U.S. economy has been
operating at near full capacity, it appears that the improving trend should
continue for at least the next calendar year.
ITEM 2 - PROPERTIES
A. SCHEDULE OF BANKING OFFICES BY LOCATION
The Merchants Bank operates thirty-eight 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.
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
929 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 47 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
Operations Building
Danville Main Street *4 Branch office
Fairlee U.S. Route #5 Branch office
Groton 258 Scott Highway 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, 1995 a mortgage with an unpaid principal balance of
$205,441 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.
*4 On January 12, 1996, in conjunction with the sale of certain assets of
its Danville Branch, the Bank sold the building located in Danville,
VT.
ITEM 3 - LEGAL PROCEEDINGS
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 related 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. 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 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 their insurance carriers. The attorneys representing the
plaintiffs in one of the lawsuits discussed above have taken the position that
amounts recovered by the Companies on these claims should be paid to the
affected Trust Company clients (net of legal fees paid to attorneys), in
addition to the $9.2 million already paid. The matter is presently before
the United States District Court for the District of Minnesota.
The attorneys representing the plaintiffs in one of the lawsuits discussed
above requested an award of attorneys' fees for allegedly causing the
Companies to make the $9.2 million payment and asked the court to order the
Trust Company to withhold payment of $500,000. The Trust Company has
resisted the claims for payment of such fees by its clients, and, as a result,
the Trust Company was directed to place the sum of $500,000 into escrow
pending a ruling by the Court. There is the possibility that the Companies
may be required to remit all of part of these funds to those attorneys, but
based upon consultation with legal counsel, management believes there is no
substantial basis for any liability on the part of the Companies for the
payment of such fees.
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 1995 no matters were submitted to a
vote of security holders through a solicitation of proxies or otherwise.
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.
QUARTER ENDING HIGH LOW
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 8.25
March 31, 1995 11.75 9.25
June 30, 1995 12.50 10.00
September 30, 1995 15.00 10.50
December 31, 1995 15.00 13.25
As of December 31, 1995 Merchants Bancshares, Inc. had 1,435 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 1995
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 29
in the 1995 Annual Report to Shareholders are herein incorporated by reference.
Tables included on the following pages 10 through 13 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.
1995 1994 1993
Demand Deposits $ 87,434 $ 91,853 $ 81,761
Savings, Money Market and
NOW Accounts 279,906 310,613 315,254
Time Deposits Over $100,000 20,927 18,135 17,752
Other Time Deposits 167,975 177,198 155,227
------- ------- -------
Total Average Deposits $556,242 $597,799 $569,994
======= ======= =======
Time Deposits over $100,000 at December 31, 1995 had the following schedule of
maturities (In Thousands):
Three Months or Less $ 2,335
Three to Six Months 4,596
Six to Twelve Months 3,728
Over Twelve Months 3,143
Over Five Years 6,674
------
Total $20,473
======
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, 1995 were as follows:
1995 1994 1993
Return on Average Total Assets -0.60% -0.41% -0.82%
Return on Average Stockholders' Equity -9.41% -6.24% -11.92%
Dividend Payout Ratio N/A N/A N/A
Average Stockholders' Equity to
Average Total Assets 6.36% 6.53% 6.88%
SHORT-TERM BORROWINGS
Refer to Notes 8 and 9 to the Financial Statements for this information.
<TABLE>
Distribution of Assets, Liabilities and Stockholders' Equity; Interest Rates
and Interest Differential
The following table presents the condensed annual average balance sheets for 1995, 1994
and 1993. 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) 1995 1994 1993
----------------------------- ----------------------------- -----------------------------
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 $83,749 $4,525 5.40% $89,183 $3,508 3.93% $98,971 $3,655 3.69%
States & Political Subdivisions 0 0 0.00% 0 0 0.00% 143 12 8.39%
Other, Including FHLB Stock 4,416 357 8.08% 8,178 535 6.54% 8,900 667 7.49%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Investment Securities $88,165 $4,882 5.54% $97,361 $4,043 4.15% $108,014 $4,334 4.01%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Loans, Including Fees on Loans:
Commercial (a) (b) 87,009 9,236 10.61% 117,948 10,128 8.59% 111,353 9,236 8.29%
Real Estate 378,433 35,094 9.27% 396,176 36,959 9.33% 380,810 35,639 9.36%
Consumer 15,605 1,902 12.19% 19,710 2,167 10.99% 23,642 2,728 11.54%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Loans $481,047 $46,232 9.61% $533,834 $49,254 9.23% $515,805 $47,603 9.23%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Federal Funds Sold $6,339 $366 5.77% $7,865 $315 4.01% $3,230 $97 3.00%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Earning Assets $575,551 $51,480 8.94% $639,060 $53,612 8.39% $627,049 $52,034 8.30%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Reserve for Possible Loan Losses (17,946) (18,991) (11,488)
Cash and Due From Banks 34,099 31,910 29,177
Premises and Equipment 15,365 16,349 15,166
Other Assets 35,418 40,749 45,611
-------- -------- --------
Total Assets $642,487 $709,077 $705,515
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Time Deposits:
Savings, Money Market
& NOW Accounts $279,906 $9,077 3.24% $309,490 $8,420 2.72% $315,254 $8,546 2.71%
Certificates of Deposit
over $100,000 20,927 1,433 6.85% 22,248 1,336 6.01% 25,578 1,394 5.45%
Other Time 167,975 8,981 5.35% 177,250 8,096 4.57% 148,364 7,109 4.79%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Time Deposits $468,808 $19,491 4.16% $508,988 $17,852 3.51% $489,196 $17,049 3.49%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Federal Funds Purchased 975 58 5.95% 1,167 57 4.88% 2,197 88 4.01%
Securities Sold Under Agreement
to Repurchase 0 0 0.00% 19 1 5.26% 7,688 229 2.98%
Demand Notes Due U.S. Treasury 3,229 173 5.36% 3,130 120 3.83% 3,540 97 2.74%
Other Interest Bearing Liabilities 4,524 44 0.97% 4,555 303 6.65% 5,471 290 5.30%
Debt 32,819 3,236 9.86% 50,575 4,044 8.00% 58,337 4,272 7.32%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Total Interest Bearing Liabilities $510,355 $23,002 4.51% $568,434 $22,377 3.94% $566,429 $22,025 3.89%
-------- -------- -------- -------- -------- -------- -------- -------- --------
Demand Deposits 87,434 89,318 81,761
Other Liabilities 3,850 4,994 8,814
Stockholders' Equity 40,848 46,331 48,511
-------- -------- --------
Total Liabilities & Stockholders'
Equity $642,487 $709,077 $705,515
======== ======== ========
Net Interest Income (a) $28,478 $31,235 $30,009
======== ======== ========
Yield Spread 4.44% 4.45% 4.41%
===== ===== =====
NET INTEREST INCOME TO EARNING ASSETS 4.95% 4.89% 4.79%
===== ===== =====
(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 1995 as compared with 1994 and 1994 as compared with 1993.
<CAPTION>
1995 vs 1994 1994 vs 1993
------------------------------------------- -------------------------------------------
Increase --Due to (a)-- Increase --Due to (a)--
1995 1994 (Decrease) Volume Rate 1994 1993 (Decrease) Volume Rate
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Interest Income:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Loans $46,232 $49,254 ($3,022) ($5,073) $2,051 $49,254 $47,603 $1,651 $1,664 ($13)
Investment Income:
Taxable 4,882 4,043 839 (597) 1,436 4,043 4,322 (279) (432) 153
Non-Taxable 0 0 0 0 0 0 12 (12) (12) (0)
Federal Funds Sold 366 315 51 (88) 139 315 97 218 186 32
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Total $51,480 $53,612 ($2,132) ($5,758) $3,626 $53,612 $52,034 $1,578 $1,406 $171
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Less Interest Expense:
Savings, Money Market
& Now Accounts $9,077 $8,420 $657 ($959) $1,616 $8,420 $8,546 ($126) ($157) $31
Certificates of Deposit
Over $100,000 1,433 1,336 97 (90) 187 1,336 1,394 (58) (200) 142
Other Time 8,981 8,096 885 (496) 1,381 8,096 7,109 987 1,313 (326)
Federal Funds Purchased 58 57 1 (11) 12 57 88 (31) (50) 19
Securities Sold Under
Agreement to Repurchase 0 1 (1) (1) (0) 1 229 (228) (403) 175
Demand Note -
U.S. Treasury 173 120 53 5 48 120 97 23 (16) 39
Debt and Other
Borrowings 3,280 4,347 (1,067) (1,751) 684 4,347 4,562 (215) (685) 470
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Total $23,002 $22,377 $625 ($3,303) $3,928 $22,377 $22,025 $352 ($198) $550
------- ------- -------- ------- ------- ------- ------- -------- ------- -------
Net Interest Income $28,478 $31,235 ($2,757) ($2,455) ($302) $31,235 $30,009 $1,226 $1,604 ($378)
======= ======= ======== ======= ======= ======= ======= ======== ======= =======
(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 $2,492, $3,571 and $4,598 for the years ended
December 31, 1995, 1994 and 1993, respectively.
</TABLE>
LOAN PORTFOLIO
The following tables display the composition of the Bank's loan portfolio for
the consecutive five year period 1991 through 1995, 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 $956,333 in 1995, $1,132,494 in 1994, $1,310,416 in 1993,
$1,183,400 in 1992, and $1,098,100 in 1991, which principally relate to real
estate mortgages.
----------------As of December 31,--------------
Type of Loan 1995 1994 1993 1992 1991
Commercial, Financial
& Agricultural $ 73,915 $ 88,201 $ 98,936 $ 76,141 $120,033
Industrial Revenue Bonds 3,010 4,411 6,695 8,721 11,968
Real Estate-Construction 9,644 21,992 30,526 18,776 16,392
Real Estate - Mortgage 346,202 377,429 413,112 305,513 294,769
Installment 16,560 18,086 22,836 18,332 20,930
Lease Financing 0 0 42 630 1,769
All Other Loans 393 436 1,324 1,422 4,287
------- ------- ------- ------- -------
Total Loans $449,724 $510,555 $573,471 $429,535 $470,148
======= ======= ======= ======= =======
PROFILE OF LOAN MATURITY DISTRIBUTION
The table below presents the distribution of the varying maturities or repricing
opportunities of the loan portfolio at December, 1995. 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 $ 55,871 $ 11,858 $ 9,589 $ 77,318
Real Estate Loans 225,597 66,181 64,068 $355,846
Installment Loans 4,399 11,830 331 $ 16,560
------- ------- ------ --------
$285,867 $ 89,869 $73,988 $449,724
======= ====== ====== =======
In 1995, a total of 439 one-to-four family residential mortgage loans were
closed by the bank, totalling $36.9 million. Approximately 82% of these
originations were sold on the secondary market and the remaining 18%, or
$6.7 million were placed in the bank's portfolio. The bank currently services
$322 million in residential mortgage loans, $250 million 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.
During 1995, the Bank remained an active participant in the U.S. Small Business
Administration guaranteed loan program. Seventy new SBA loans totalling
$9.7 million were originated during 1995 with SBA guarantees ranging from 70%
to 90%. This volume of new lending activity represents an increase of 18%
over originations during 1994.
Approximately 23% of all new SBA loans originated during 1995 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 1995, the Bank originated 648 commercial loans totalling $77.2 million.
This lending activity represented a decrease of approximately 43% of new loan
volume from that experienced in 1994. Commercial loans were originated
throughout Vermont.
LOAN PORTFOLIO MONITORING
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, distribution
of loan types within the portfolio, and sets loan authority limits for each
lender. Theseauthorized lending limits are established at least annually and
are based upon the lender's knowledge and experience. Loan requests that
exceed a lender's authority are referred to the Credit Department. 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 and Credit Department. The
loan portfolio as a whole, as well as individual loans, are reviewed for loan
performance, credit worthiness, and strength of documentation. The Bank has
hired an external loan review firm to assist in portfolio monitoring. Credit
ratings are assigned to commercial loans and are 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 Financial Accounting Standards Board ( FASB ) issued revised accounting
guidance which affected the RPLL. Statement of Financial Accounting Standards
No. 114 ( SFAS No. 114"), Accounting by Creditors for Impairment of a Loan,
requires, among other things, that the creditors measure impaired loans
at the present value of expected future cash flows, discounted at the loan's
effective interest rate or, as a practical expedient, at the loan's observable
market price or the fair value of the collateral if the loan is collateral
dependent. For purposes of this statement a loan is considered impaired when it
is probable that a creditor will be unable to collect all amounts due according
to the contractual terms of the loan agreement. The FASB also issued
SFAS No. 118, which amended SFAS No. 114, by allowing creditors to use their
existing methods of recognizing interest income on impaired loans. Merchants
Bancshares, Inc. adopted the methodology of SFAS No. 114, incorporating the
amendments of SFAS No. 118, on January 1, 1995.
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 impaired loans as defined under SFAS No. 114
* Status of non-performing 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
In accordance with SFAS No. 114 management has defined an impaired loan as
meeting any of the following criteria:
* A loan which is 90 days past due and still accruing
* A loan which has been placed in non-accrual and is 45 days past
due
* A loan which is rated Substandard and is 45 days past due
* A loan which is rated Doubtful or Loss
* A loan which has been classified as a Troubled Debt Restructuring
* A loan which has been assigned a specific allocation
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. 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, 1995
(000's omitted)
Category Balance Reserve Percent Allocation
Impaired $29,630 $2,724 9.19%
Adversely Rated
Credits $20,543 $1,975 9.61%
General Allocation:
Commercial Real
Estate $204,578 $4,967 2.43%
Other Commercial $78,236 $1,875 2.40%
Residential Real
Estate $66,773 $155 0.23%
Consumer $51,363 $455 0.89%
Undisbursed
Commitments $101,823 $2,139 2.10%
Unallocated $1,944
------
TOTAL $16,234
======
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.
LOAN LOSSES AND RPLL RECONCILIATION
December 31, 1995
(000's omitted)
1995 1994 1993 1992 1991
- -----------------------------------------------------------------------
Average Loans
Outstanding $481,047 $514,843 $515,805 $441,291 $471,141
RPLL Beginning of
Year 19,929 20,060 7,412 6,650 5,075
Charge-Off :
Commercial, Lease
Financing and all
Other Loans (3,671) (3,356) (5,567) (2,938) (3,367)
Real Estate -
Construction (1,485) (1,159) (275) (253) (1,802)
Real Estate -
Mortgage (12,942) (7,673) (7,651) (4,096) (718)
Installment &
Credit Cards (263) (462) (459) (452) (617)
-------------------------------------------------
Total Loans Charged
Off (18,361) (12,650) (13,952) (7,739) (6,504)
Recoveries:
Commercial, Lease
Financing and all
Other Loans 1,232 1,187 392 232 366
Real Estate -
Construction 32 400 0 0 379
Real Estate -
Mortgage 1,224 769 301 108 0
Installment &
Credit Cards 78 163 85 111 91
Total Recoveries $2,566 $2,519 $778 $451 $836
- -----------------------------------------------------------------------
Net Loan Losses ($15,795) ($10,131) ($13,174) ($7,288) ($5,668)
Provision for Loan
Losses:
Charged to Operations
(NOTE 1) 12,100 10,000 23,882 8,050 7,243
Loan Loss Reserve
(NOTE 2) 2,000
- -----------------------------------------------------------------------
RPLL End of Year $16,234 $19,929 $20,060 $7,412 $6,650
=======================================================================
RPLL to Total Loans 3.61% 3.90% 3.50% 1.73% 1.41%
Net Losses to
Average Loans 3.28% 1.97% 2.28% 1.63% 1.20%
NOTE 1: 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 2: See Note 2 to the consolidated financial statements regarding the
acquisition of New First National Bank of Vermont.
The reserve for possible loan losses decreased from $19,929,000 at December 31,
1994 to $16,234,000 at December 31, 1995. At the same time, the provision for
loan losses increased from $10,000,000 to $12,100,000. These two trends reflect
management s continuing efforts to charge-off any loss exposure in the portfolio
while maintaining the reserve at an appropriate level to provide for potential
losses. This effort is reflected in the increase in total loan losses from
$12,650,000 during 1994 to $18,361,000 during 1995.
NONPERFORMING ASSETS
The following tables summarize the Bank's nonperforming assets (NPAs). The first
table shows a breakout of NPAs 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 covered by loss sharing totaled $6,650,000 and $10,455,000
at December 31, 1995 and 1994, respectively. The aggregate amount of loans
covered by the loss sharing arrangement at December 31, 1995 was $69,794,000
and $95,802,000 at December 31, 1994.
NPA Regular Loss Sharing Total
(000's omitted) Assets Assets
- ----------------------------------------------------------------
Nonaccrual Loans* $19,581 $6,036 $25,617
Restructured Loans $1,364 $66 $1,430
Loans past due 90
days or more and
still accruing $237 $0 $237
Other Real Estate
Owned $7,224 $548 $7,772
- ----------------------------------------------------------------
Total $28,406 $6,650 $35,056
================================================================
*Included in Nonaccrual loans are certain loans whose terms have been
substantially modified in troubled debt restructurings at December 31, 1995.
The second table shows nonperforming assets as of year end 1990 through 1995
(in thousands):
1995 1994 1993 1992 1991
- -----------------------------------------------------------------------
Nonaccrual Loans* $25,617 $32,200 $47,069 $12,148 $8,333
Loans Past Due 90 Days
or More and Still
Accruing 237 668 715 7,251 8,613
Restructured Loans 1,430 5,083 2,841 1,838 5,679
- -----------------------------------------------------------------------
Total
Nonperforming Loans: 27,284 37,951 50,625 21,237 22,625
Other Real Estate Owned 7,772 13,231 13,674 12,662 6,110
- -----------------------------------------------------------------------
Total
Nonperforming Assets: $35,056 $51,182 $64,299 $33,899 $28,735
=======================================================================
NPL to Total Loans 6.06% 7.43% 8.83% 4.94% 4.18%
NPA to Total Loans plus
OREO 7.67% 9.77% 10.95% 7.67% 6.03%
*Included in Nonaccrual loans are certain loans whose terms have been
substantially modified in troubled debt restructurings at December 31, 1995.
DISCUSSION OF 1995 EVENTS AFFECTING NON-PERFORMING ASSETS
Historically, the Company has worked closely with borrowers and also pursued
vigorous collection efforts. The Company continued its efforts to collect
troubled assets during 1995. The Company's enhanced Credit Department 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, 1995, is adequate.
12-31-95 9-30-95 6-30-95 3-31-95 12-31-94
- -----------------------------------------------------------------------------
Nonaccrual Loans $25,617 $25,812 $41,134 $43,637 $32,200
Loans Past Due 90 days
or more and still
Accruing 237 805 545 108 668
Restructured Loans 1,430 1,437 2,673 2,667 5,083
Other Real Estate Owned 7,772 6,204 7,709 9,336 7,389
In-substance Foreclosure
(NOTE 3) 5,842
- ----------------------------------------------------------------------------
Total: $35,056 $34,258 $52,061 $55,748 $51,182
============================================================================
NOTE 3: In-substance Foreclosure classification was eliminated by SFAS 114,
effective 1/1/95.
The more significant events affecting NPAs are discussed below:
NONACCRUAL LOANS:
Nonaccrual loans declined from $32,200,000 at December 31, 1994 to
$25,617,000 at December 31, 1995. The balance of nonaccrual loans actually
increased during the year, before declining to the present level. Management
continued its efforts to proactively identify and resolve loans which present
significant risk of loss to the bank. These efforts included a sale of
non-performing assets and a significant level of charge-offs and restructurings.
LOANS PAST DUE 90 DAYS OR MORE AND STILL ACCRUING:
The Bank generally places loans that become 90 or more days past due in
nonaccrual status. If the ultimate collectability of principal and interest
is assured, loans may continue to accrue and be left in this category. The
steady decline in this category reflects management s commitment to early
problem loan detection and increased collection efforts.
RESTRUCTURED LOANS:
Restructured loans (TDRs) decreased during 1995 from $5,083,000 at
December 31, 1994 to $1,430,000 at December 31, 1995. A review of the more
significant restructured loans noted transfers out of restructure status of
$2.4 million; charge-offs of $574 thousand; and payments of $655 thousand.
OTHER REAL ESTATE OWNED AND IN-SUBSTANCE FORECLOSURE:
The Bank had notable success in 1995 in disposing of OREO and continues to
aggressively market such properties. The December 31, 1995 balance, of
$7,772,000, in OREO remained relatively static as compared to the December 31,
1994 balance of $7,389,000. During the year $9.3 million in properties were
transferred to OREO. Approximately $2.7 million of these properties were
transferred from fixed assets to OREO during the fourth quarter of 1995.
These transfers were offset by sales of $8.4 million. During the second
quarter the Bank held an auction to sell properties held as OREO. Twenty-three
properties were sold, which decreased the OREO balance by $1.3 million.
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 29 of the Company's 1995 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, 1995 and 1994, 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, 1995 together with the related notes and the
opinion of Arthur Andersen LLP, independent public accountants, all as contained
on pages 5 through 24 of the Company's 1995 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 for 1995, the Company notes that Patrick S. Robins filed a
Form 4 report three (3) months late with respect to the purchase of 2,100
shares.
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 26, 1996, 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 1995
Annual Report to Shareholders, are incorporated herein by reference:
Consolidated Balance Sheets, December 31, 1995 and December 31, 1994.
Consolidated Statements of Operations for years ended December 31, 1995,
1994, 1993.
Consolidated Statements of Changes in Stockholder's Equity for years ended
December 31, 1995, 1994, 1993.
Consolidated Statements of Cash Flows for the years ended December 31, 1995,
1994, 1993.
Notes to Consolidated Financial Statements, December 31, 1995.
(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.
(10a) Service Agreement as amended between First Data Resources,
Inc., and Registrant dated June 1993 (effective through May 1998)
for Mastercard Services.
(10b) 401(k) Employee Stock Ownership Plan of Registrant, dated
January 1, 1990, for the employees of the Bank.
(10c) Merchants Bank Pension Plan, as amended and restated on
September 30, 1995, for employees of the Bank.
(10d) Agreement between Specialty Underwriters, Inc., and
Registrant dated January 1, 1995 for equipment maintenance
services.
(11) Statement re: computation of per share earnings.
(13) 1995 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, 1995 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.
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 29, 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
Charles A. Davis, Director Dudley H. Davis, Director
Chairman of the Board of Directors
by s/Jeffrey L. Davis by
Jeffrey L. Davis, Director Jack DuBrul, II, Director
by s/Michael G. Furlong by
Michael G. Furlong, Director Thomas F. Murphy, Director
by s/Janet P. Spitler by s/Leo O'Brien, Jr.
Janet P. Spitler, Treasurer of the Leo O'Brien, Jr, Director
Company, Vice President, Controller
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
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, 1995 and 1994, 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, 1995. 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
financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements
referred to above present fairly, in all material respects, the
financial position of Merchants Bancshares, Inc. and subsidiaries
as of December 31, 1995 and 1994, and the results of their
operations and their cash flows for each of the three years in
the period ended December 31, 1995, 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 25, 1996
<TABLE>
Merchants Bancshares, Inc.
Consolidated Balance Sheets
<CAPTION>
At December 31, 1995 1994
- -------------------------------------------------------------------------------------- ---------------
ASSETS:
<S> <C> <C>
Cash and Due from Banks (Note 2) $ 38,366,772 $ 34,851,401
Trading Securities (at market value) (Notes 2 and 3) 500,000 0
Securities Available for Sale (Notes 2 and 3):
Debt Securities 97,943,234 90,470,922
Marketable Equity Securities 309,508 1,195,897
Debt Securities Held to Maturity (Market Value of $9,871,875 in 1994) 0 10,084,646
- -------------------------------------------------------------------------------------- ---------------
Total Investment Securities 98,252,742 101,751,465
- -------------------------------------------------------------------------------------- ---------------
Loans (Notes 2 and 4) 379,930,413 414,752,749
Segregated Assets (Notes 4 and 10) 69,793,604 95,802,303
Reserve for Possible Loan Losses (16,234,481) (19,928,817)
- -------------------------------------------------------------------------------------- ---------------
Net Loans 433,489,536 490,626,235
- -------------------------------------------------------------------------------------- ---------------
Federal Home Loan Bank Stock 3,174,400 6,856,200
Premises and Equipment, Net (Notes 2 and 5) 12,454,708 16,620,173
Investments in Real Estate Limited Partnerships (Note 2) 3,141,245 3,593,818
Other Real Estate Owned, Net (Note 2) 7,772,067 13,230,807
Other Assets (Note 7) 17,896,993 27,306,440
- -------------------------------------------------------------------------------------- ---------------
Total Assets $ 615,048,463 $ 694,836,539
- --------------------------------------------------------------------------============ ---============
LIABILITIES:
Deposits:
Demand $ 85,417,465 $ 94,467,122
Savings, NOW and Money Market Accounts 278,241,601 293,655,696
Time Deposits Over $100,000 20,473,321 23,280,762
Other Time 160,381,588 170,820,804
- -------------------------------------------------------------------------------------- ---------------
Total Deposits 544,513,975 582,224,384
Other Borrowed Funds (Note 8) 5,335,422 18,294,734
Other Liabilities (Notes 6 and 7) 9,525,446 7,788,085
Debt (Note 9) 15,424,757 44,229,366
- -------------------------------------------------------------------------------------- ---------------
Total Liabilities $ 574,799,600 652,536,569
- -------------------------------------------------------------------------------------- ---------------
Commitments and Contingencies (Note 13)
STOCKHOLDERS' EQUITY (Note 11):
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 in 1995 and 1994
Shares Issued: 4,434,620 in 1995 and 4,242,927 in 1994 44,346 42,429
Capital in Excess of Par Value 33,154,407 30,647,120
Retained Earnings 8,620,881 12,462,820
Treasury Stock (at Cost) 144,278 Shares in 1995 and 12,733 Shares in 1994 (2,037,927) (178,730)
Net Unrealized Appreciation (Depreciation) of Investment Securities
Available for Sale, Net of Taxes 467,156 (673,669)
- ---------------------------------------------------------------------------------------- --------------
Total Stockholders' Equity 40,248,863 42,299,970
- ---------------------------------------------------------------------------------------------------------
Total Liabilities and Stockholders' Equity $ 615,048,463 $ 694,836,539
- --------------------------------------------------------------------------==============---==============
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, 1995 1994 1993
- -----------------------------------------------------------------------------------------------------------
INTEREST AND DIVIDEND INCOME:
<S> <C> <C> <C>
Interest and Fees on Loans $ 46,067,109 $ 48,938,668 $ 47,268,729
Interest and Dividends on Investments:
U.S. Treasury and Agency Obligations 4,525,095 3,508,523 3,655,198
Obligations of State and Political Subdivisions 0 0 12,839
Other 722,539 872,267 537,054
- -----------------------------------------------------------------------------------------------------------
Total Interest and Dividend Income 51,314,743 53,319,458 51,473,820
- -----------------------------------------------------------------------------------------------------------
INTEREST EXPENSE:
Savings, NOW and Money Market Accounts 9,077,337 8,419,716 8,476,489
Time Deposits Over $100,000 1,432,520 1,335,775 1,394,307
Other Time 8,981,211 8,095,686 7,108,490
Other Borrowed Funds 256,439 495,997 733,817
Debt 3,254,128 4,029,479 4,242,423
- -----------------------------------------------------------------------------------------------------------
Total Interest Expense 23,001,635 22,376,653 21,955,526
- -----------------------------------------------------------------------------------------------------------
Net Interest Income 28,313,108 30,942,805 29,518,294
Provision for Possible Loan Losses (Note 4) 12,100,000 10,000,000 23,822,000
- -----------------------------------------------------------------------------------------------------------
Net Interest Income after Provision for Possible Loan Losses 16,213,108 20,942,805 5,696,294
- -----------------------------------------------------------------------------------------------------------
NON-INTEREST INCOME:
Trust Department Income 1,796,138 1,729,376 1,686,561
Service Charges on Deposits 3,183,525 3,451,507 3,571,376
Merchant Discount Fees 1,861,313 2,123,526 1,741,209
Gains on Sale of Investment Securities, net (Note 3) 351,771 72,884 1,898,945
Gain on Curtailment of Pension Plan (Note 6) 1,562,670 0 0
FDIC Assistance Received-Loss Sharing (Note 10) 2,950,840 6,248,802 1,674,615
Other 1,059,660 1,411,587 1,555,721
- -----------------------------------------------------------------------------------------------------------
Total Non-Interest Income 12,765,917 15,037,682 12,128,427
- -----------------------------------------------------------------------------------------------------------
NON-INTEREST EXPENSES:
Salaries and Wages 10,728,741 10,664,411 9,590,775
Employee Benefits (Note 6) 2,705,164 2,531,980 2,713,988
Occupancy Expense 2,177,612 2,324,171 1,949,256
Equipment Expense 2,068,991 2,004,352 1,879,764
Losses on and Writedowns of Other Real Estate Owned 2,986,555 3,791,819 1,970,428
Equity in Losses of Real Estate Limited Partnerships 645,600 1,588,914 967,138
Trust Customers' Reimbursement, Net (Note 13) 0 3,246,100 0
Losses and Write-downs of Segregated Assets (Note 10) 2,950,840 6,248,802 1,674,615
Reengineering Expenses and Related Consultants' Fees (Note 12 4,055,510 0 0
Other 8,286,836 9,312,413 7,270,812
- -----------------------------------------------------------------------------------------------------------
Total Non-Interest Expenses 36,605,849 41,712,962 28,016,776
- -----------------------------------------------------------------------------------------------------------
Loss Before Benefit for Income Taxes (7,626,824) (5,732,475) (10,192,055)
Benefit for Income Taxes (Notes 2 and 7) (3,784,885) (2,842,451) (4,410,486)
- -----------------------------------------------------------------------------------------------------------
NET LOSS (3,841,939) $ (2,890,024) $ (5,781,569)
- --------------------------------------------------------------============----============-----============
LOSS PER SHARE, based upon weighted average common
shares outstanding of 4,269,231 in 1995, 4,230,194 in 1994,
and 4,216,355 in 1993 (Note 11): (0.90) $ (0.68) $ (1.37)
- --------------------------------------------------------------============----============-----============
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, 1995
<CAPTION>
Net Unrealized
Appreciation
(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, 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
Net Loss --- --- (3,841,939) --- --- (3,841,939)
Sale of Treasury Stock --- --- --- --- 178,730 178,730
Purchase of Treasury Stock --- (44,598) --- --- (2,037,927) (2,082,525)
Issuance of common stock 1,917 2,551,885 --- --- --- 2,553,802
Change in Net Unrealized Appreciation
(Depreciation) of Investment Securities
Available for Sale, Net of Taxes --- --- --- 1,140,825 --- 1,140,825
- ---------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1995 $ 44,346 $ 33,154,407 $ 8,620,881 $ 467,156 $ (2,037,927)$ 40,248,863
- ----------------------------------------=============================================================================
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, 1995 1994 1993
CASH FLOWS FROM OPERATING ACTIVITIES: ----------- ----------- -----------
<S> <C> <C> <C>
Net Loss $ (3,841,939) $ (2,890,024) $ (5,781,569)
Adjustments to Reconcile Net Loss to Net
Cash Provided by Operating Activities:
Provision for Possible Loan Losses 12,100,000 10,000,000 23,822,000
Provision for Possible Losses on Other Real Estate Owned 1,365,011 2,388,469 658,123
Provision for Depreciation and Amortization 4,357,768 6,685,094 4,762,037
Prepaid Income Taxes (692,726) (1,890,304) (25,360)
Net Gains on Sales of Investment Securities (351,771) (72,884) (1,898,945)
Net Gains on Sales of Loans and Leases (463,919) (218,510) (818,376)
Net (Gains) Losses on Sales of Premises and Equipment (222,895) 0 0
Equity in Losses of Real Estate Limited Partnerships 645,600 1,588,916 967,138
Changes in Assets and Liabilities net of Effects From
Acquisition of NFNBV in 1993 (Note 10):
(Increase) Decrease in Interest Receivable 1,099,212 40,651 (28,313)
Increase in Interest Payable 170,331 347,000 587,598
(Increase) Decrease in Other Assets 8,810,236 (3,336,601) (5,032,001)
Increase (Decrease) in Other Liabilities 1,567,069 (1,418,975) (272,603)
----------- ----------- -----------
Net Cash Provided by Operating Activities 24,541,977 11,222,832 16,939,729
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from Sales of Investment Securities 50,377,072 682,030 403,140,859
Proceeds from Maturities of Investment Securities 59,000,000 0 1,000,000
Proceeds from Sales of Loans and Leases 35,573,702 48,911,562 98,332,905
Proceeds from Sales of FHLB Stock 3,681,800 0 0
Proceeds from Sales of Premises and Equipment 327,500 39,631 0
Proceeds from Sales of Other Real Estate Owned 8,377,527 5,684,332 2,162,941
Purchases of FHLB Stock 0 (1,282,500) (2,652,400)
Purchases of Available for Sale Investment Securities (102,822,744) (10,014,063) (385,195,506)
Purchases of Held to Maturity Investment Securities 0 (10,098,437) 0
Cash and Cash Equivalents Received - Acquisition (Note 10) 0 0 17,102,000
Loans Originated, net of Principal Repayments 4,075,622 (2,272,774) (82,445,997)
Investments in Real Estate Limited Partnerships 0 (273,742) 281,821
Purchases of Premises and Equipment (792,762) (2,258,284) (1,599,220)
Decrease in Net Investment in Leveraged Leases 0 41,731 587,438
----------- ----------- -----------
Net Cash Provided by Investing Activities 57,797,717 29,159,486 50,714,841
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net Increase (Decrease) in Deposits (37,710,409) (37,085,500) (87,773,966)
Net Increase (Decrease) in Other Borrowed Funds (12,959,312) 3,370,653 6,459,269
Proceeds from Debt 0 0 12,000,000
Principal Payments on Debt (28,804,609) (2,404,056) (14,403,713)
Acquisition of Treasury Stock (2,082,525) 0 (132,058)
Issuance of Common Stock 2,553,802 0 0
Cash Dividends Paid 0 0 (838,050)
Sale of Treasury Stock 178,730 0 377,457
----------- ----------- -----------
Net Cash Used in Financing Activities (78,824,323) (36,118,903) (84,311,061)
----------- ----------- -----------
Increase (Decrease) in Cash and Cash Equivalents 3,515,371 4,263,415 (16,656,491)
Cash and Cash Equivalents at Beginning of Year 34,851,401 30,587,986 47,244,477
----------- ----------- -----------
Cash and Cash Equivalents at End of Year $ 38,366,772 34,851,401 30,587,986
=========== =========== ===========
Total Interest Payments $ 22,831,304 22,029,653 21,367,928
Total Income Tax Payments $ 0 50,000 1,190,000
Transfer of loans to Other Real Estate Owned $ 2,777,117 7,899,401 5,151,867
The accompanying notes are an integral part of these consolidated financial statements.
</TABLE>
Merchants Bancshares, Inc.
Notes to Consolidated Financial Statements
December 31, 1995
(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 experienced increased levels of nonperforming assets and
loan charge-offs, increased provisions for possible loan losses
and 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, 1995 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
markets, 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.
The Company and the Bank and its subsidiaries are subject to
various regulatory requirements administered by the regulators.
Failure to meet minimum requirements, including capital
requirements, can initiate certain mandatory and possible
additional discretionary actions by the regulators. The Bank and
its subsidiary, Merchants Trust Company (the Trust Company),
currently operate under separate Memoranda of Understanding
(MOUs) with the Federal Deposit Insurance Corporation (FDIC).
The Company currently operates under a Regulatory Agreement with
the Federal Reserve Bank of Boston (the Federal Reserve). The
specific terms of these agreements are described below.
As of December 31, 1995, the most recent notification from the
FDIC categorized the Bank as adequately capitalized under the
regulatory framework for prompt corrective action. To be
categorized as adequately capitalized, the Bank must maintain
minimum Tier 1 Risk-Based, Total Risk-Based and Tier 1 Leverage
Capital ratios as set forth in the table below:
Amount Percent
Tier 1 Risk-Based Capital
Actual $37,627 8.19%
Minimum required $18,386 4.00%
Total risk-based Capital
Actual $43,420 9.45%
Minimum required $36,772 8.00%
Tier 1 Leverage Capital
Actual $37,627 6.15%
Minimum required $24,471 4.00%
MOU Requirement $33,650 5.50%
Failure to maintain the minimum leverage capital ratio of 5.5%
(see Note 11) included in the MOU, or in compliance with other
provisions of the the MOUs, or the agreement with the Federal
Reserve, could subject the Bank, Trust Company or the Company to
additional actions by the regulatory authorities.
Discussion of Regulatory Actions
In March, 1993, 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
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% and
refrain from declaring dividends. The dividend limitation
includes dividends paid by the Bank to the Company. In April,
1995, the FDIC and the Commissioner completed the field work
related to their most recent examination of the Bank as of
December 31, 1994. Based on this examination, the Bank is
required to continue its efforts to correct certain
administrative and legal violations and enhance certain operating
policies before the MOU will be removed. 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, 1995.
In February, 1994, the Company and the Federal Reserve entered
into an agreement. Under this agreement, among other things, the
Company may not declare or pay a dividend or incur any debt
without the approval of the Federal Reserve. On December 29,
1995, the Federal Reserve completed the field work related to
their most recent examination of the Company as of September 30,
1995. No substantive issues were brought up as a result of the
examination. However, it appears that the Written Agreement will
remain in place until at least the next examination.
In December, 1994, the FDIC and the Commissioner completed 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 (MOU) with the FDIC
and the Commissioner to affect corrective actions relating to
certain operating, technical and regulatory issues. In December,
1995 the FDIC and the Commissioner completed the field work
related to their examination of the Merchants Trust Company as of
November 6, 1995. It appears that the MOU will remain in place
until at least the next examination.
(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, Queneska Capital Corp. and certain trusts) and Merchants
Properties, Inc., after elimination of all material intercompany
accounts and transactions.
Use of Estimates in Preparation of Financial Statements
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and
liabilities as of the date of the financial statements and the
reported amounts of income and expenses during the reporting
periods. Operating results in the future could vary from the
amounts derived from management's estimates and assumptions.
Investment Securities
In May 1993, the Financial Accounting Standards Board (FASB)
issued Statement of Financial Accounting Standards (SFAS) 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. 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 other than temporary. If the
impairment is determined to be other than temporary 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 $956,333
and $1,132,494 at December 31, 1995 and 1994, 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 $463,920, $218,510 and $818,376 in 1995,
1994, and 1993, respectively.
Income Taxes
The Company provides for income taxes in accordance with SFAS No.
109. 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,
1995. 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
recognized losses due to the impairment of an investment in a
real estate limited partnership of $546,000 in 1994.
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, 1995 and
1994, cash and cash equivalents included $5,187,000 and
$8,508,000, respectively, held to satisfy the requirements of the
Federal Reserve Bank.
Other Real Estate Owned
Collateral acquired through foreclosure 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 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 $1,361,000,
$2,392,000 and $599,000 during 1995, 1994 and 1993, respectively.
Mortgage Servicing Rights
In May 1995, the FASB issued SFAS No. 122, "Accounting for
Mortgage Servicing Rights." This statement requires a banking
enterprise that sells or securitizes loans and retains the
mortgage servicing rights, to allocate the total cost of the
loans to the mortgage servicing rights and the loans based on
their relative fair value if it is practicable to estimate those
fair values. Mortgage servicing rights should be recognized as a
separate asset and amortized in proportion to, and over the
period of, estimated net servicing income. In addition, these
servicing rights will be evaluated for impairment based on their
fair value. The Bank is required to adopt the new standard
prospectively on January 1, 1996. Management does not believe
that the adoption of this standard will have a significant impact
on the Bank's consolidated financial condition or future results
of operations.
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 realized. Management reviews the value of the
intangible asset by comparing purchased deposit levels to the
current level of acquired deposits in the branches purchased. If
any deposit runoff has occurred and is determined to be permanent
in nature, the asset is written down accordingly.
Accounting for Impairment of Long-Lived Assets
In March 1995 the FASB issued SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets To Be
Disposed Of." This statement requires a review for impairment of
long-lived assets and certain identifiable intangibles to be held
and used by an entity when events or changes in circumstances
indicate that the carrying amount of the assets may not be
recoverable. An impairment loss would be recognized if the sum
of the future cash flows expected to result from the use and
eventual disposition of the asset is less than the carrying
amount of the asset. The amount by which the carrying amount of
the asset exceeds the asset's fair value is the total impairment
loss to be recognized. The statement also requires that for
certain long-lived assets to be disposed of, the amount by which
the carrying amount of the asset exceeds the fair value less
costs to sell, is an impairment loss to be recognized. This
statement does not apply to financial instruments, core deposit
intangibles, mortgage and other servicing rights, or deferred tax
assets. The Bank is required to adopt this new standard on
January 1, 1996. Management does not believe that the adoption
of this standard will have a siginficant impact on the Bank's
consolidated financial condition or future results of operations.
Reclassification
Certain amounts in the prior year's consolidated financial
statements have been reclassified to be consistent with the 1995
presentation.
(3) INVESTMENT SECURITIES
Investments in debt securities are classified as trading, available for sale
or held to maturity as of December 31, 1995 and 1994. The amortized cost
and fair values of the debt securities classified as available for sale as
of December 31, 1995 and 1994 are as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
1995
U.S. Treasury
Obligations $ 49,644,093 $ 219,355 $ 11,835 $ 49,851,613
Mortgage-backed
Securities 47,561,580 592,975 62,934 48,091,621
$ 97,205,673 $ 812,330 $ 74,769 $ 97,943,234
1994
U.S. Treasury
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
Marketable equity securities are classified as available for sale at
December 31, 1995 and 1994 and are stated at their fair value of $309,508
and $1,195,897 respectively. Gross unrealized gains and losses related to
marketable equity securities were $654,658 and $120,000, respectively, at
December 31, 1994. Gross unrealized losses on equity securities were
$20,000 at December 31, 1995.
The fair value of securities held for trading was $500,000 at December 31,
1995. There were no unrealized gains or losses related to securities held
for trading at December 31, 1995.
In the fourth quarter of 1995, concurrent with the adoption of its
implementation guide on SFAS No. 115, "Accounting for Certain Debt and
Equity Securities," the FASB allowed a one-time reassessment of the SFAS No.
115 classifications of all securities currently held. Any reclassifications
would be accounted for at fair value in accordance with SFAS No. 115 and any
reclassifications from the held for investment portfolio that resulted from
this one-time reassessment would not call into question the intent of the
Bank to hold other debt securities to maturity in the future. The Bank used
the opportunity under this one-time reassessment to reclassify a $10 million
U.S. Treasury obligation from the held to maturity to the available-for-sale
category. In connection with this reclassification an unrealized gain of
$70,000 was recorded in available-for-sale securities and in stockholders'
equity (on a net-of-tax basis). The security was subsequently sold and the
Bank recognized a gain of a similar amount. This security was classified as
held to maturity at December 31, 1994, having an amortized book value of
$10,084,646 and a fair value of $9,971,975.
The contractual maturities of all debt securities held at December 31, 1995
are as follows:
Amortized Fair
Cost Value
________________________________________________________________________
Due in one year or less $30,076,814 $30,178,505
Due after one year through five years 19,547,278 19,673,361
Mortgage-backed securities 47,581,581 48,091,368
__________________________________________________________________________
$97,205,673 $97,943,234
Proceeds from sales of available for sale debt securities were $49,383,072
and $682,030 during 1995 and 1994, respectively. Gross gains of $659,994,
$91,780 and $2,120,838 and gross losses of $308,223, $18,896, and $221,893
were realized from sales of debt and equity securities in 1995, 1994 and
1993, respectively.
At December 31, 1995, securities with a face value of $30,195,000 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, 1995 and 1994 is as
follows (including Segregated Assets - Note 10):
1995 1994
- -----------------------------------------------------------------
Commercial, Financial and Agricultural $ 76,925,602 $ 92,611,512
Real Estate - Commercial 207,235,189 226,014,576
Real Estate - Residential 148,611,053 173,406,384
Installment Loans to Individuals 16,559,626 18,086,099
All Other Loans (including overdrafts) 392,547 436,481
_________________________________________________________________
$449,724,017 $510,555,052
=================================================================
As discussed in Note 10, Segregated Assets consist of loans subject to loss
sharing. The composition of the Segregated Assets portfolio at December 31,
1995 and 1994 is as follows:
1995 1994
- -----------------------------------------------------------------
Commercial, Financial and Agricultural $ 11,793,297 $16,294,045
Real Estate - Commercial 28,625,693 41,909,959
Real Estate - Residential 29,352,150 37,534,294
Installment Loans to Individuals 22,464 64,005
_________________________________________________________________
$ 69,793,604 $ 95,802,303
=================================================================
There has been an insignificant effect on the Bank's noninterest expenses
for 1995 and 1994 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 $3,688,550 and $7,811,002 for 1995 and 1994, respectively. The
Bank recognized recoveries of $2,950,840, $6,248,802 and $1,674,615 from the
FDIC for eligible charge-offs, net of recoveries and eligible expenses,
related to 1995, 1994 and 1993, respectively, in accordance with the loss
sharing arrangement. Amounts due from the FDIC totaling $663,106 and
$2,883,372 as of December 31, 1995 and 1994 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. Loans held for sale at December 31, 1995 totaled $7,985,000.
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 on a non-recourse basis at December 31,
1995 and 1994 amounted to $322,292,294 and $391,517,792, respectively.
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 the two years ended
December 31, 1995 and 1994 is as follows:
1995 1994
Balance, beginning of year $19,928,817 $20,060,059
Provision for possible
loan losses 12,100,000 10,000,000
Reserve recorded in connection
with acquisition of NFNBV --- -----
Loans charged off (18,360,790) (12,649,842)
Recoveries 2,566,454 2,518,600
Balance, end of year $16,234,481 $19,928,817
Loans charged off include $749,103 and $1,314,632 and recoveries include
$145,380 and $25,142 related to the Bank's portion of charge-offs and
recoveries on Segregated Assets for 1995 and 1994, respectively.
Effective January 1, 1995, the Company adopted SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan," as amended. Under the standard, the
allowance for possible loan losses related to loans that are identified as
impaired in accordance with SFAS No. 114 is based on discounted cash flows
using the loan's effective interest rate or the fair value of the collateral
for certain collateral dependent loans. Prior to 1995, the allowance for
possible loan losses related to these loans was based on undiscounted cash
flows or the fair market value of the collateral for collateral dependent
loans. A loan is considered to be impaired when it is probable that a
creditor will be unable to collect all amounts due according to the
contractual terms of the loan agreement.
The Company has determined that, after an analysis of the loan portfolio,
and a review of its credit quality monitoring policies and procedures, loans
recognized by the Company as nonaccrual and restructured troubled debt are
generally equivalent to "impaired loans" as defined by SFAS No. 114. The
Company has also determined that the allowance for possible loan losses did
not require any additional provision as a result of the adoption of this
Statement.
Total impaired loans at December 31, 1995 with a related allowance were
$29,629,572 and the specific allowance associated with such loans was
$2,724,371. Interest payments on impaired loans are recorded as principal
reductions if the remaining loan balance is not expected to be paid in full.
If full collection of the remaining loan balance is expected, payments are
recognized as interest income on a cash basis. During 1995 the Company
recorded interest income on impaired loans of $949,002. Average impaired
loans were $35,280,318 in 1995.
SFAS No. 114 also requires that, upon adoption, in-substance foreclosures be
reclassified as loans and the ISF valuation reserve be included in the
reserve for possible loan losses. The effect at January 1, 1995 was an
increase in loans and a decrease in Other Real Estate Owned (OREO) of $4.43
million.
Nonperforming assets at December 31, 1995 and 1994 were as follows:
1995
-----------------------------------
Segregated
Loans Assets Total
----------- ----------- -----------
Nonaccrual Loans $19,580,747 $ 6,035,520 $25,616,267
Restructured Loans 1,364,018 65,756 1,429,774
Loans Past Due
90 Days or More
and Still Accruing 236,817 0 236,817
Other Real Estate
Owned, Net 7,224,395 547,672 7,772,067
----------- ----------- -----------
Total $28,405,977 $6,648,948 $35,054,925
=========== =========== ===========
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 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
=========== =========== ===========
Included in nonaccrual loans are $8,362,454 and $3,526,402 of loans whose
terms have been substantially modified in troubled restructurings at
December 31, 1995 and 1994, respectively. Additionally, the Bank had
$1,429,774 and $1,316,827 of restructured loans that were performing in
accordance with the modified agreement at December 31, 1995 and 1994,
respectively. Other Real Estate Owned is shown net of valuation reserves of
$2,430,301 and $2,991,065 at December 31, 1995 and 1994.
On June 25, 1995, an auction was held to sell properties held in the Other
Real Estate Owned portfolio. Over forty properties were sold which
reduced the carrying value of the portfolio by $1.3 million and resulted in
a loss of approximately $300,000.
Additionally, in 1995 the Bank entered into an agreement to sell $6.3
million in non-performing loans resulting in additional losses of $1.3
million.
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 judgment 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 $3,466,000, $1,859,000 and
$2,688,000 in 1995, 1994 and 1993, respectively.
An analysis of loans in excess of $60,000 to directors and executive
officers for the year ended December 31, 1995 is as follows:
Balance, December 31, 1994 $14,984,944
Additions 1,204,218
Repayments (3,614,503)
Balance, December 31, 1995 $12,574,659
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.
(5) PREMISES AND EQUIPMENT
The components of premises and equipment included in the
accompanying consolidated balance sheets are as follows:
1995 1994
- ---------------------------------------------------
Land and Buildings $14,461,616 $18,020,230
Leasehold Improvements 867,775 869,444
Furniture and Equipment 11,373,256 11,292,724
- ----------------------------------------------------
26,702,647 30,182,398
Less: Accumulated
Depreciation and
Amortization 14,247,939 13,562,225
- ----------------------------------------------------
$12,454,708 $16,620,173
====================================================
Depreciation and amortization expense amounted to $1,932,074,
$1,786,213 and $1,595,914 in 1995, 1994 and 1993, respectively.
The Bank leases certain properties for branch purposes. Rent
expense on these properties totaled $213,096, $214,891 and
$163,807 for the years ended December 31, 1995, 1994 and 1993,
respectively. Minimum lease payments for these properties
subsequent to December 31, 1995 are: 1996 - $195,061; 1997 -
$172,680; 1998 - $142,717; 1999 - $100,876 and $300,623
thereafter.
(6) EMPLOYEE BENEFIT PLANS
Pension Plan
The Company maintained a noncontributory defined benefit plan covering
all eligible employees. The plan was 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 was the Company's policy to fund the cost of
benefits expected to accrue during the year plus amortization of any
unfunded accrued liability that had accumulated prior to the valuation
date based on IRS regulations for funding. During 1994, the Company
made the decision to freeze the plan beginning on January 1, 1995.
During 1995 the plan was curtailed. Accordingly, all accrued benefits
were fully vested and no additional years of service or age will be
accrued. As a result of the curtailment, the Bank recognized a gain
in the amount of $1.56 million in 1995.
The plan's funded status and amounts recognized in the accompanying
consolidated balance sheets and statements of operations as of
December 31, 1995 and 1994 are as follows:
1995 1994
- -----------------------------------------------------------------
Actuarial Present Value of
Benefit Obligation:
Vested Benefit Obligation $5,771,869 $4,797,489
Nonvested Benefits 0 0
- -----------------------------------------------------------------
Accumulated Benefit Obligation $5,771,869 $4,797,489
Effects of Projected
Future Compensation Levels 0 0
- -----------------------------------------------------------------
Projected Benefit Obligation for
Service Rendered to Date $5,771,869 $4,797,489
Plan Assets 6,835,057 6,332,824
- -----------------------------------------------------------------
Excess of Plan Assets Over
Projected Benefit Obligation $1,063,188 $1,535,335
Unrecognized Net Asset
at January 1, 1987 Being Amortized
over 13.4 Years (132,513) (171,602)
Unrecognized Net Loss 34,114 190,446
Unrecognized Prior Service Cost 0 (1,673,616)
- -------------------------------------------------------------------
Accrued Pension Costs Included
in Other Liabilities $ 964,789 $ (119,437)
===================================================================
1995 1994 1993
- -----------------------------------------------------------------
Net Pension Expense (Income) Included
the Following Components:
Service Cost - Benefits Earned
During the Year $ 0 $316,681 $257,232
Interest Cost on Projected
Benefit Obligation 393,901 486,993 432,963
Actual Return on
Plan Assets (815,566) 100,004 (488,860)
Net Amortization and
Deferral 172,099 (660,098) (24,194)
- -----------------------------------------------------------------
Total $(249,566) $243,580 $177,141
=================================================================
The actuarial present value of the projected benefit obligation was
determined using a weighted average discount rate of 7.5%, 8.5% and
7.5% as of December 31, 1995, 1994, and 1993, respectively. For 1995
there was no assumed rate of increase in future compensation due to
the freeze on plan benefits. The rate of increase of future
compensation levels 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%. The expected long-term
rate of return on assets used was 8% in 1995, 8% in 1994 and 1993.
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
127% of the amounts contributed by the employees (200% of up to 4.5%
of individual employee compensation in 1995) and approximately 75% of
the amounts contributed by employees (82% of up to 4.5% of individual
employee compensation) in 1994 and 1993. Substantially all
contributions to the ESOP are funded with cash and are used to
purchase the Company's common stock.
(6) EMPLOYEE BENEFIT PLANS (Continued)
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
Through December 1995, the Bank maintained an Executive Salary
Continuation Plan and a Deferred Compensation Plan for Directors. In
December 1995 the Bank and participants in its Executive Salary
Continuation Plan and in the Fixed Growth Program of its Deferred
Compensation Plan for Directors agreed to amend or terminate the
existing plans. In satisfaction of all liabilities under those plans,
the Bank agreed to make payments to, or credits for, the participants.
Pursuant to these agreements, the Bank established several new plans
(the New Plans), to which it made lump sum payments. The New Plans
used those payments, in part, to purchase newly-issued common stock of
the Company at its market price. The purchases have been accounted
for as treasury stock transactions in the Company's consolidated
financial statements. The portions of the payments made to the New
Plans that were not invested in the common stock of the Company are
included as investments in the consolidated financial statements, and
are classified as trading. In conjunction with the amendment and
termination of the existing plans, the Bank either sold or surrendered
certain life insurance policies and used the proceeds as a partial
source to fund the lump sum payments made to the New Plans. As a
result of these transactions, the Bank recognized increased earnings
of $673,000. To the extent the obligations of the Company under the
New Plans are based on investments by the New Plans in other than
shares of the Company the investments will be revalued at each
reporting date with a corresponding adjustment to compensation
expense. In addition, the obligation related to certain treasury
shares, originally purchased for $200,000, will be revalued at each
reporting date, with a corresponding adjustment to compensation
expense.
In addition, the Company continues to maintatin the floating growth
(savings) program of the deferred compensation plan for Directors.
Benefits accrue based on the Directors' fees deferred and a monthly
allowance for interest at a rate that is fixed from time to time at
the discretion of the Board of Directors. The benefits under the
Savings Program of the Deferred Compensation Plan for Directors and
the New Plans are generally payable starting on the January 2
following a participant's 65th birthday or earlier death, and will be
distributed to the participant (or upon the participant's death, to
the participant's designated beneficiary) in accordance with the Plan.
Phantom Stock Plan
The Company maintains a Phamtom 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. In December of 1995 the Bank
entered into agreements with certain participants in the Bank's
Phantom Stock Plan (the Plan). The Bank agreed to pay, and those
participants agreed to accept, lump sum amounts in full satisfaction
of the Bank's obligations under the Plan. The Bank made the agreed-
upon payments in January, 1996.
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, 1995 is as follows:
1995 1994 1993
- -----------------------------------------------------------------
Pension Plan $(249,566) $ 243,580 $ 177,141
Employee Stock Ownership Plan/
401(k) Plan 807,605 348,468 285,199
Performance Progress Sharing Plan 0 0 264,000
Deferred Compensation Plans 25,185 303,939 272,946
Phantom Stock Plan 67,677 (179,227) 249,600
- -----------------------------------------------------------------
$650,901 $ 716,760 1,248,886
=================================================================
(7) INCOME TAXES
The benefit for income taxes for each of the three years in the period
ended December 31, 1995 consists of the following:
1995 1994 1993
- -------------------------------------------------------------
Current $(3,092,159) $( 952,147) $(4,385,126)
Prepaid ( 692,726) (1,890,304) ( 25,360)
- --------------------------------------------------------------
$(3,784,885) $(2,842,451) $(4,410,486)
==============================================================
Prepaid and deferred income taxes result from differences between the
loss for financial reporting and tax reporting relating primarily to
the provision for possible loan losses. The net deferred tax asset
amounted to approximately $3,793,000 and $5,084,000 at December 31,
1995 and 1994, respectively. As of December 31, 1995 and 1994, the
Company had tax refunds receivable of $682,000 and $6,211,214,
respectively. These tax assets are included in other assets in the
accompanying consolidated balance sheets.
The components of the net deferred tax asset as of December 31, 1995
and 1994 are as follows:
1995 1994
- ---------------------------------------------------------------------
Reserve for Possible Loan Losses $6,780,000 $7,700,000
Deferred Compensation 1,428,000 1,543,000
Unrealized Securities Losses (251,000) 347,000
Loan Fees 193,000 253,000
Depreciation (393,000) (428,000)
Accrued Liabilities 524,000 287,000
Capital Loss Carryforwards 431,000 545,000
Investments in Limited Partnerships (542,000) (296,000)
Excess Servicing on Sold Mortgages ( 8,000) (19,000)
Loan Market Adjustment (8,630,000) (4,640,000)
Other (706,000) (623,000)
Tax Credit Carryforward 3,276,000 960,000
NOL Carryforward 1,752,000 0
Core Deposit 370,000 0
- ----------------------------------------------------------------------
$4,224,000 $5,629,000
Valuation Allowance (431,000) (545,000)
- ----------------------------------------------------------------------
$3,793,000 $5,084,000
======================================================================
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 following is a reconciliation of the federal income tax provision
(benefit), calculated at the statutory rate, to the recorded provision
(benefit) for income taxes:
1995 1994 1993
- ---------------------------------------------------------------------
Applicable Statutory Federal
Income Tax (benefit) $(2,593,120) $(1,949,042) $(3,465,299)
(Reduction) Increase in
Taxes Resulting From:
Loss on Investment Securities (114,226) (24,780) 40,018
Tax-exempt Income ( 86,879) (187,301) (213,631)
Tax Credits (851,250) (707,750) (960,750)
Other, Net (139,410) 26,422 189,176
- ---------------------------------------------------------------------
$(3,784,885) $(2,842,451) $(4,410,486)
======================================================================
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 $277,000, $290,000 and $247,000 in 1995,
1994 and 1993, 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, 1995 and 1994:
1995 1994
- --------------------------------------------------------
Treasury Tax and Loan Notes $2,085,422 $3,294,734
Federal Funds Purchased 3,250,000 15,000,000
- ---------------------------------------------------------
$5,335,422 $18,294,734
=========================================================
The Bank may borrow up to $24,000,000 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, 1995:
Weighted Weighted
Maximum Average Average
Month-end Average Annual Rate
Amount Amount Interest on Amounts
1995 Outstanding Outstanding Rate Outstanding
- ------------------------------------------------------------------------------
Treasury Tax and
Loan Notes $4,957,123 $3,083,449 5.61% 5.16%
Federal Funds
Purchased $9,500,000 $975,555 5.96% 5.38%
1994
- ------------------------------------------------------------------------------
Treasury Tax and
Loan Notes $4,723,829 $3,136,365 3.83% 5.10%
Federal Funds
Purchased $16,900,000 $1,388,438 4.09% 6.18%
(9) DEBT
Debt outstanding consists of the following at December 31, 1995
and 1994:
1995 1994
- ---------------------------------------------------------------
10% Senior Subordinated Debt 0 $ 4,800,000
9% Mortgage Note, payable
in monthly installments of
$1,736 (principal and
interest) through 2020 $205,441 207,860
1% Mortgage Note, payable
in monthly installments of
$2,542 (principal and
interest) through 2039 1,189,316 1,191,506
9.81% Capital Notes 0 10,000,000
9.81% Capital Notes 0 10,000,000
Federal Home Loan Bank Notes
Payable, interest rates from
4.83% to 8.66% due 1996
through 2001 14,030,000 18,030,000
- ---------------------------------------------------------------
$15,424,757 $44,229,366
===============================================================
Maturities of debt subsequent to December 31, 1995 are: 1996 -
$4,841; 1997 - $9,005,288; 1998 - $5,771; 1999 - $6,293 and
$6,402,564 thereafter.
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, 1995, the Company
is in compliance with all of the covenants of the Federal Home
Loan Bank agreements.
On June 30, 1995, in accordance with a specific plan authorized
by the Federal Reserve, the Bank prepaid the outstanding $18
million of Capital Notes, which carried an interest rate of
9.81%, using funds from operations. The Bank was released from
any further obligations under the Capital Notes Agreement. A
prepayment premium of $701,400 was paid to the noteholders. the
prepayment premium is reflected in interest expense in the
accompanying consolidated statement of operations.
On December 20, 1995, in accordance with a specific plan
authorized by the Federal Reserve, the Company prepaid $2,400,000
in obligations under the Senior Subordinated Debt Agreement which
carried an interest rate of 10%, using funds provided by the
issuance of common stock of the Company in conjunction with the settlement
of the deferred compensation plans (see Note 6). The Company was
released from any further obligations under the Senior Debt
Agreement. No prepayment premium was required. The debt was
contractually scheduled to be repaid on June 1, 1996.
(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
eastern 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)
=========
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 $2,950,840, $6,248,802
and $1,674,615 in reimbursements from the FDIC for the years ended
December 31, 1995, 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 1995.
During 1995 and 1994, the Company reviewed the status of the core
deposits related to the acquisition and determined that the
attrition of certain deposits within the purchased branches of
NFNBV resulted 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 $458,300 and $686,296 in 1995 and 1994,
respectively. These charges against current earnings are included
in other expenses.
(11) STOCKHOLDERS' EQUITY
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 Company's stockholders'
equity includes $6,561,600 as of December 31, 1995 and 1994 of such
appropriations. Vermont state law also restricts the payment of
dividends under certain circumstances. In addition, as discussed in
Note 1, the Company may not declare or pay a dividend without the
approval of the Federal Reserve.
(12) RESTRUCTURING
The Company began a restructuring project during 1995 to reduce
ongoing operating costs and increase noninterest income. As a result,
the Bank has implemented a plan to reduce its workforce by
approximately 250 employees. All employees were offered the
opportunity to voluntarily terminate their employment which would
entitle them to a severance package equal to one week's pay for each
year of service plus four additional weeks. Employees whose age plus
years of service with the Company equalled at least 60 were offered
an early retirement option whereby, in lieu of the plan described
above, five years would be added to both their years of service and
their age for purposes of determining vested benefits through the
pension plan. The total severance charges realized by the Company as
a result of the restructuring project were approximately $1.3 million.
The incremental cost of the enhanced early retirement benefit realized
during 1995 was approximately $728,000.
In conjunction with the restructuring project the Company engaged a
consulting firm to assist in the identification of possible workforce
reductions and the implementation of the restructure plan. The fee
earned by these consultants is, in part, contingent upon actual future
operating cost reductions and the increase in noninterest income, and
the Company has recognized expenses associated with fees to these
consultants of approximately $2 million in 1995. The Company remains
subject to an agreement with these consultants whereby the Company is
required to remit additional funds to the consultants in the event
actual cost reductions and increases in noninterest income in 1996
exceed the amounts anticipated.
(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
related 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. 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 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, which was treated as a reduction in amounts reimbursed to
Trust customers in the accompanying consolidated statement of
operations. The Companies are separately pursuing 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 their insurance carriers. The
attorneys representing the plaintiffs in one of the lawsuits discussed
above have taken the position that amounts recovered by the Companies
on these claims should be paid to the affected Trust Company clients
(net of legal fees to those attorneys), in addition to the $9.2
million already paid. The matter is presently before the United
States District Court for the District of Minnesota.
The attorneys representing the plaintiffs in one of the lawsuits
discussed above requested an award of attorneys' fees for allegedly
causing the Companies to make the $9.2 million payment, and asked the
court to order the Trust Company to withhold payment of $500,000. The
Trust Company has resisted the claims for payment of such fees from
its clients' funds, and, as a result, the Trust Company was directed
to place the sum of $500,000 into escrow pending a ruling by the
Court. There is the possibility that the Companies may be required to
remit all or part of these funds to those attorneys, but based upon
consultation with legal counsel, management believes there is no
substantial basis for any liability on the part of the Companies for
the payment of such fees.
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, 1995 and 1994 and statements of operations and cash flows for each of
the three years in the period ended December 31, 1995 is as follows:
<CAPTION>
Balance Sheets - December 31, 1995 1994
Assets: --------------------------
<S> <C> <C>
Investment in and Advances
to Subsidiaries * $41,843,980 $45,509,683
Other Investments 0 585,140
Other Assets 972,452 1,045,147
--------------------------
Total Assets $42,816,432 $47,139,970
==========================
Liabilities and Equity Capital:
Notes Payable $0 $4,800,000
Other Liabilities 2,567,569 40,000
Equity Capital 40,248,863 42,299,970
--------------------------
Total Liabilities and
Equity Capital $42,816,432 $47,139,970
==========================
<CAPTION>
Statements of Operations for the Year Ended December 31, 1995 1994 1993
------------------------------------
<S> <C> <C> <C>
Dividends from the Merchants Bank* $0 $0 $848,585
Equity in Undistributed Earnings (Loss) of Subsidiaries* (4,021,297) (2,679,429) (6,365,554)
Other Expense, Net 72,360 (374,142) (450,636)
Benefit from Income Taxes 106,998 163,547 186,036
------------------------------------
Net Loss ($3,841,939)($2,890,024)($5,781,569)
====================================
Statements of Cash Flows for the Year Ended December 31, 1995 1994 1993
------------------------------------
Cash Flows from Operating Activities:
Net Loss ($3,841,939)($2,890,024)($5,781,569)
Adjustments to Reconcile Net Income (Loss) to Net Cash
Provided by (Used in) Operating Activities:
Amortization 0 6,360 15,265
Gains on Investment Securities (309,020) (91,780) (76,316)
(Increase) Decrease in Miscellaneous Receivables (612,543) (11,425) 998,729
Increase (Decrease) in Miscellaneous Payables 2,527,569 (20,000) (868,585)
Equity in Undistributed
Losses of Subsidiaries 4,021,297 2,679,429 6,365,554
------------------------------------
Net Cash Provided by (Used in) Operating Activities $1,785,364 ($327,440) $653,078
------------------------------------
Cash Flows from Investing Activities:
Repayment of Advances from Subsidiaries 1,035,460 2,263,399 2,379,917
Proceeds from Sales of Investment Securities 643,931 682,030 271,316
------------------------------------
Net Cash Provided by Investing Activities $1,679,391 $2,945,429 $2,651,233
------------------------------------
Cash Flows From Financing Activities:
Sale of Treasury Stock 178,730 0 388,998
Acquisition of Treasury Stock (2,082,525) 0 (132,058)
Issuance of Common Stock 2,553,802 0 0
Cash Dividends Paid 0 0 (838,050)
Principal Payments on Debt (4,800,000) (2,400,000) (2,400,000)
------------------------------------
Net Cash Used in Financing Activities ($4,149,993)($2,400,000)($2,981,110)
------------------------------------
Increase (decrease) in Cash and Cash Equivalents (685,238) 217,989 323,201
Cash and Cash Equivalents at Beginning of Year 986,733 768,744 445,543
------------------------------------
Cash and Cash Equivalents at End of Year $301,495 $986,733 $768,744
====================================
Total Interest Paid $333,333 $580,000 $820,000
Taxes Paid 0 50,000 1,190,000
*Account balances are partially or fully eliminated in consolidation.
</TABLE>
(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, 1995 and 1994 were as
follows:
Contractual
Amount
- -----------------------------------------------------------------
1995
Financial Instruments Whose Contract
Amounts Represent Credit Risk:
Commitments to Extend Credit $92,596,000
Standby Letters of Credit 6,550,000
Loans Sold with Recourse 1,832,000
- ---------------------------------------------------------------
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
- -----------------------------------------------------------------
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, 1995 and 1994,
the remaining commitments to deliver loans pursuant to master
commitments with secondary market investors amounted to
approximately $8,947,000 and $30,081,000, 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, 1995 and 1994 is as follows:
1995 1994
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
- -----------------------------------------------------------------
(In Thousands)
Debt $97,206 $97,943 $102,111 $100,343
Marketable
Equity
Securities 310 310 661 1,196
- -----------------------------------------------------------------
$97,516 $98,253 $102,772 $101,539
=================================================================
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, 1995 and 1994 is
as follows:
1995 1994
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
- -----------------------------------------------------------------
(In Thousands)
Net Loans $433,490 $418,743 $490,626 $482,619
=================================================================
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, 1995 and 1994 is as follows:
1995 1994
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
- -----------------------------------------------------------------
(In Thousands)
Demand Deposits $85,417 $85,804 $94,467 $94,493
Savings, NOW and
Money Markets 278,242 278,242 293,656 293,364
Time Deposits Over
$100,000 20,473 20,792 23,281 23,127
Other Time 160,382 162,881 170,821 171,195
- -----------------------------------------------------------------
$544,514 $547,719 $582,225 $582,179
=================================================================
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, 1995 and 1994 is as follows:
1995 1994
--------------------------------------------------
Carrying Calculated Carrying Calculated
Amount Fair Value Amount Fair Value
- -----------------------------------------------------------------
(In Thousands)
Debt $15,425 $15,990 $44,229 $44,022
=================================================================
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 $101,000 and $117,000 as
of December 31, 1995 and 1994, respectively.
<TABLE>
(17) SUMMARY OF UNAUDITED QUARTERLY FINANCIAL INFORMATION (in thousands):
<CAPTION>
1995 1994
---------------------------------------------- ---------------------------------------------
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 $13,053 $13,362 $12,460 $12,440 $51,315 $13,348 $13,019 $13,304 $13,648 $53,319
Interest Expense 5,872 6,647 5,407 5,076 23,002 5,414 5,614 5,585 5,764 22,377
- ----------------------------------------------------------------------- ---------------------------------------------
Net Interest Income $7,181 $6,715 $7,053 $7,364 $28,313 $7,934 $7,405 $7,719 $7,884 $30,942
Provision for Possible
Loan Losses (A) 2,700 7,600 900 900 12,100 1,250 1,250 1,750 5,750 10,000
Non-Interest Income (B) 2,210 2,094 3,524 1,987 9,815 2,104 2,235 2,219 2,231 8,789
Non-Interest Expense (C) 7,180 7,992 11,116 7,367 33,655 7,105 7,294 7,422 13,643 35,464
- ----------------------------------------------------------------------- ---------------------------------------------
Income (Loss) Before Provision
(Benefit) for Inc. Taxes ($489) ($6,783) ($1,439) $1,084 ($7,627) $1,683 $1,096 $766 ($9,278) ($5,733)
Provision (Benefit)
For Income Taxes (528) (2,732) (717) 192 (3,785) 245 91 (13) (3,166) (2,843)
- ----------------------------------------------------------------------- ---------------------------------------------
Net Income (Loss) $39 ($4,051) ($722) $892 ($3,842) $1,438 $1,005 $779 ($6,112) ($2,890)
- -------------------------============================================== =============================================
Earnings (Loss) Per Share $0.01 ($0.95) ($0.17) $0.21 ($0.90) $0.34 $0.24 $0.18 ($1.44) ($0.68)
- -------------------------============================================== =============================================
Dividends Per Share $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00
============================================== =============================================
(A) During the fourth quarter of 1994, 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. During the second quarter of 1995, the Bank provided an additional $5 million for
the reserve for possible loan losses to cover further exposure identified during loan renewals and restructures.
(B) The Bank recognized a gain of $1.6 million in conjunction with the curtailment of its pension plan during the third
quarter of 1995.
(C) During the third quarter of 1995 the Bank began a restructuring project. The Bank recognized total severance charges
of $1.5 million and total fees to consultants of $2.2 million in conjunction with the restructuring.
</TABLE>
<TABLE>
Merchants Bancshares, Inc.
Five Year Summary of Operations
(Not Covered by Report of Independent Public Accountants)
<CAPTION>
For the years ended 1995 1994 1993 1992 1991
-------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Interest and Investment Income $ 51,315 $ 53,319 $ 51,474 $ 49,239 $ 57,249
Interest Expense 23,002 22,377 21,956 24,051 32,104
-------------------------------------------------------------------------------------------------
Net Interest Income $ 28,313 $ 30,942 $ 29,518 $ 25,188 $ 25,145
Provision for Possible Loan Losses 12,100 10,000 23,822 8,050 7,243
-------------------------------------------------------------------------------------------------
Net Interest Inc. after Prov. for Loan Losses $ 16,213 $ 20,942 $ 5,696 $ 17,138 $ 17,902
-------------------------------------------------------------------------------------------------
Non-interest Income $ 9,815 $ 15,038 $ 12,128 $ 10,195 $ 9,376
Non-interest Expense 33,655 41,712 28,016 21,081 21,238
-------------------------------------------------------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES $ (7,627)$ (5,732)$ (10,192)$ 6,252 $ 6,040
Prov. (benefit) for Income Taxes (Nts 3 and 8) (3,785) (2,842) (4,410) 575 909
-------------------------------------------------------------------------------------------------
NET INCOME (LOSS) $ (3,842)$ (2,890)$ (5,782)$ 5,677 $ 5,131
-------------------------------------------------------------------------------------------------
SELECTED AVERAGE BALANCES (IN THOUSANDS)
Total Assets $ 642,487 $ 709,077 $ 705,516 $ 602,317 $ 592,343
Average Earning Assets 575,551 620,070 627,049 542,157 537,806
Loans 481,047 514,843 515,805 441,291 471,141
Total Deposits 556,242 598,305 570,957 490,908 488,831
Debt 28,707 45,433 47,835 42,171 35,007
Stockholders' Equity 40,848 46,331 48,511 51,548 48,668
Stockholders' Equity plus Loan Loss Reserve 58,794 65,322 59,999 59,028 54,707
SELECTED RATIOS
Net Income (Loss) to:
Average Stockholders' Equity -9.41% -6.24% -11.92% 11.01% 10.53%
Average Assets -0.60% -0.41% -0.82% 0.94% 0.86%
Avg Stockholders' Equity to Avg Total Assets 6.36% 6.53% 6.88% 8.56% 8.22%
Avg Primary Capital to Avg Total Assets 9.15% 9.21% 8.50% 9.80% 9.24%
Common Dividend Payout Ratio 0.00% 0.00% 1.00% 58.48% 62.69%
Loan Loss Reserve to Total Loans at Year End 3.61% 3.90% 3.50% 1.73% 1.41%
Net Charge-Offs to Average Loans 3.28% 1.97% 1.95% 1.65% 1.20%
PER SHARE (Note 1)
Net Income (Loss) $ (0.90)$ (0.68)$ (1.37)$ 1.39 $ 1.21
Cash Dividends 0.00 0.00 0.20 0.80 0.78
Year End Book Value 9.38 10.00 10.74 12.39 11.82
Other
Cash Dividends Paid (In Thousands) $ 0 $ 0 $ 848 $ 3,320 $ 3,231
Stock Dividends Issued 0.0% 0.0% 0.0% 3.0% 2.0%
(Note 1): All stock dividends and splits are reflected retroactively.
See Note 11 of Notes to Consolidated Financial Statements.
</TABLE>
<TABLE>
Merchants Bancshares, Inc. and Subsidiaries
Interest Management Analysis
<CAPTION>
(Taxable Equivalent, in thousands) 1995 1994 1993
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Total Average Assets $642,487 $709,077 $705,516
- ----------------------------------------------------------------------------------------------------------
1995 % of 1994 % of 1993 % of
NET INTEREST INCOME: Assets Assets Assets
<S> <C> <C> <C> <C> <C> <C>
Interest and Dividend Income $ 48,822 7.60% 50,041 7.06% 47,194 6.69%
Fees on Loans 2,492 0.39% 3,571 0.50% 4,598 0.65%
- ----------------------------------------------------------------------------------------------------------
Total $ 51,314 7.99% 53,612 7.56% 51,792 7.34%
Interest Expense 23,002 3.58% 22,377 3.16% 21,956 3.11%
- ----------------------------------------------------------------------------------------------------------
Net Interest Income Before Provision for
Possible Loan Losses $ 28,312 4.40% 31,235 4.40% 29,836 4.23%
Provision for Possible Loan Losses 12,100 1.88% 10,000 1.41% 23,822 3.38%
- ----------------------------------------------------------------------------------------------------------
Net Interest Income $ 16,212 2.52% 21,235 2.99% 6,014 0.85%
- ----------------------------------------------==================== =====================================
OPERATING EXPENSE ANALYSIS:
Non-Interest Expense
Personnel $ 13,434 2.09% 13,196 1.86% 12,305 1.74%
Occupancy Expense 2,178 0.34% 2,324 0.33% 1,949 0.28%
Equipment Expense 2,069 0.32% 2,004 0.28% 1,880 0.27%
Other 15,974 2.49% 17,939 2.53% 10,208 1.45%
- ----------------------------------------------------------------------------------------------------------
Total Non-Interest Expense $ 33,655 5.24% 35,463 5.00% 26,342 3.74%
- ----------------------------------------------------------------------------------------------------------
Less Non-Interest Income
Service Charges on Deposits $ 3,184 0.50% 3,452 0.49% 3,571 0.51%
Other, Including Securities Gains (Losses) 6,632 1.03% 5,337 0.75% 6,883 0.98%
- ----------------------------------------------------------------------------------------------------------
Total Non-Interest Income $ 9,816 1.53% 8,789 1.24% 10,454 1.49%
- ----------------------------------------------------------------------------------------------------------
Net Operating Expense $ 23,839 3.71% 26,674 3.76% 15,888 2.25%
- ----------------------------------------------==================== =====================================
SUMMARY:
Net Interest Income $ 16,212 2.52% 21,235 2.99% 6,014 0.85%
Less: Net Overhead 23,839 3.71% 26,674 3.76% 15,888 2.25%
- ----------------------------------------------------------------------------------------------------------
Profit Before Taxes -
Taxable Equivalent Basis $ (7,627) -1.19% (5,439) -0.77% (9,874) -1.40%
Net Profit (Loss) After Taxes $ (3,842) -0.60% (2,890) -0.41% (5,781) -0.82%
- ----------------------------------------------==================== =======================================
</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, 1995 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 State of
Vermont Department of Banking, Insurance and Securities (the
Commissioner) performed a joint field examination of the Bank as of
March 31, 1993. Additionally 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 and a Written Agreement with the Federal Reserve.
Under the terms of the MOU, the Bank is required to, among other
things, maintain a leverage capital ratio of at least 5.5% and
refrain from declaring dividends. In April, 1995, the FDIC and the
Commissioner completed the field work related to their most recent
examination of the Bank as of December 31, 1994. Based on their
examination the Bank is required to continue its efforts to correct
certain administrative and legal violations and enhance certain
operating policies before the MOU will be lifted. Management
believes the Bank is in substantial compliance with all of the
provisions of the MOU as of December 31, 1995.
In February 1994, the Company and the Federal Reserve entered
into an agreement. Under this agreement, among other things, the
Company may not declare or pay a dividend or incur any debt without
the approval of the Federal Reserve. On December 29, 1995, the
Federal Reserve completed the field work related to their most
recent examination of the Company as of September 30, 1995. No
substantive issues were brought up as a result of the examination.
However, it appears that the Written Agreement will remain in place
until at least the next examination.
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 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.
In December, 1995 the FDIC and the Commissioner completed the
field work related to their examination of the Merchants Trust
Company as of November 6, 1995. Management continues to work to
address the issues raised in the MOU. Additionally, it appears that
the MOU will remain in place until at least the next examination.
Management has actively responded to the above agreements, and
has continued to comply with the requirements of both the MOU and
the Written Agreement.
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 in eastern Vermont. 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.
Under the terms of the Purchase and Assumption Agreement
between the Company and the FDIC, the Company purchased $178.4
million in 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 were $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 represented 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. As a result, 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 1995 and 1994, the Company reviewed
the value of the core deposit intangible by comparing purchased
deposit levels to current deposit levels in the branches purchased.
These reviews indicated that significant deposit runoff had been
experienced and deemed permanent in nature. Accordingly, the
carrying value of the core deposit intangible was written down by
$458,300 during 1995 and $686,000 during 1994. The charges against
earnings are reflected in Other Expenses in the Consolidated
Statements of Operations.
Under the terms of the Loss Sharing Agreement, the FDIC
reimbursed the Bank, 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 through June, 1996, after which time the Bank will
reimburse the FDIC 80% of all recoveries on the charged-off loans
for three years. Subsequent to June, 1996, the FDIC is no longer
required to reimburse the Bank for additional charge-offs or
expenses related to Segregated Assets.
RESULTS OF OPERATIONS
The Company recognized a net loss of $3,841,939 for the year
ended December 31, 1995, due primarily to the provision for
possible loan losses of $12.1 million (refer to the discussion
under "Provision for Possible Loan Losses" which follows), and the
recognition of $4 million in restructuring charges and related
consultant fees.
Core earnings, excluding the provision for possible loan
losses, showed slight improvement from 1994 to 1995 due to
substantial reductions in non-performing assets. The Company
realized $351,771 in net gains on investment securities as compared
to $72,884 in 1994.
The Company recognized a net loss of $2,890,024 for the year
ended December 31, 1994, due primarily to the following 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. The net Trust
Company expenses totaled approximately $3,200,000 after an
insurance reimbursement of $6,000,000. The Company continues to
pursue all available claims against Piper Jaffray Companies, Inc.
because of the losses.
The net loss on a per share basis was $.90, $.68 and $1.37 for
the years ended December 31, 1995, 1994 and 1993, respectively.
The cash dividends paid per share were $0.20 in 1993. No dividends
were paid in 1995 or 1994.
The net loss as a percentage of average equity capital was
9.41%, 6.24% and 11.92% for 1995, 1994 and 1993, respectively. The
ten-year average return on equity is 8.11%. The net loss as a
percentage of average assets was .60%, .41% and .82% in 1995, 1994
and 1993, respectively. The ten-year average return on assets is
.57%.
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 a 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 decreased
8.5% from $31.2 million in 1994 to $28.5 million in 1995. The
primary cause for this net decline was a decrease in average assets
of $66.6 million (9.39%) from 1994 to 1995. Continued decreases in
the level of nonperforming assets increased net interest income
before the provision for possible loan losses as a percentage of
total average assets to 4.44% in 1995 from 4.40% in 1994 and the
average yield on earning assets to 8.91% in 1995 from 8.60% in
1994.
Net interest income before the provision for possible loan
losses was $31.2 million in 1994, up 4.7% from $29.8 million the
previous year. This increase was 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 7 months for 1993. Decreased levels of nonperforming
assets in 1994 helped to increase net interest income before the
provision for possible loan losses as a percentage of total average
assets to 4.40% in 1994 from 4.23% in 1993.
Total interest income decreased 8.4% in 1995 from 1994. The
decrease is due primarily to a $1.1 million (30.2%) decrease in
fees on loans as a result of a less favorable interest rate
environment during 1995 for refinancing of home mortgages. Total
interest expense increased 2.79% from 1994 to 1995 due to a higher
overall interest rate environment which created a higher cost of
funds in 1995 as compared to 1994. 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. Included
in fees on loans and interest income are net gains on sales of
loans of $ 464,000 and $219,000 in 1995 and 1994, respectively.
These net gains include 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 $4.7 million lower in 1995 than 1994, due, in part, to
a $2.1 million increase in the provision for loans losses from 1994
to 1995. Net interest income after the provision was $15.2 million
higher in 1994 than 1993. Net interest income after the provision
in 1995 was 2.52% of average assets compared to 2.99% in 1994 and
.85% in 1993.
NET OPERATING EXPENSE
Net operating expense (net overhead) is total noninterest
expense reduced by noninterest income. Operating expense includes
all costs associated with staff, occupancy, equipment, supplies,
and all other noninterest expenses. Noninterest 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, the
gain on the curtailment of the pension plan, and net gains on
investment securities, noninterest income earned in 1995 decreased
$815,000 (9.35%) from 1994. The Trust Company fees and other items
included in noninterest income (excluding non-recurring items) make
up $547,000 of this decrease, the balance is due to a $268,000
decrease in service charge revenue. The Bank's deposit base
decreased by $37 million (6.3%) during 1995 which resulted in the
decreased service charge revenue. This decrease was more than
offset by the $1.56 million gain recognized as a result of the
Bank s curtailment of the pension plan.
Excluding the FDIC assistance received from loss-sharing and
net gains on investment securities, noninterest income earned in
1994 increased $161,000 (1.9%) over the previous year. The Trust
Company fees and all other items included under noninterest 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.
Noninterest expenses decreased $1.8 million (5.1%), not
including the amount of losses and write-downs on Segregated
Assets, which were reimbursed by the FDIC, in 1995 as compared to
1994. There are several large transactions which contributed to
this decrease. During 1995 the Bank began a restructuring project
to reduce ongoing operating costs and increase noninterest income
(see Note 12). As a result the Bank has implemented a plan to
reduce its workforce by approximately 250 employees. The total
charge for severance realized by the Bank was $1.3 million. The
incremental cost of the enhanced early retirement benefit realized
during 1995 was approximately $728,000. In conjunction with the
restructuring changes, the Bank engaged a consulting firm to assist
in the identification of areas where the Bank could reduce expenses
or enhance revenue. The fee earned by these consultants is, in
part, contingent upon actual future operating cost reductions and
the increase in noninterest income. The Bank has recognized
expenses associated with fees to these consultants of approximately
$2 million in 1995. During 1994 the Company recognized a net
charge related to the Trust Company's reimbursement to its clients
due to investments in the Piper Jaffray Institutional Government
Income Portfolio totaling $3.2 million after the recognition of a
$6 million reimbursement from insurance carriers.
Losses and Write-downs of Other Real Estate Owned decreased
$805,000 from 1994 to 1995, due primarily to a decrease in the
amount provided for the reserve on the portfolio from $2.3 million
in 1994 to $1.4 million in 1995. Additionally, during 1994 the
Bank wrote off the carrying value of one of its investments in real
estate limited partnerships totaling $546,000 due to significant
cash flow deficiencies experienced by the partnership which caused
the Bank to question the realizability of its investment. The Bank
also wrote down the unamortized balance of the core deposit
intangible related to the acquisition of NFNBV in the amount of
$458,000 and $686,000 during 1995 and 1994, respectively.
Noninterest 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 primarily to the 1994 transactions discussed
above.
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 the first full
year following the acquisition.
When noninterest income is netted against noninterest expense,
net operating expense (net overhead) decreased $2.8 million (11%)
in 1995 from the 1994 level. As a percent of average total managed
assets, net overhead decreased to 3.71% in 1995 from 3.76% in 1994.
Net operating expense increased $10.8 million (68%) in 1994 from
1993.
The Company recognized $851,000 in low-income housing tax
credits as a reduction in the provision for income taxes during
1995, $708,000 during 1994 and $961,000 during 1993. As a
consequence of the operating losses incurred during 1995, 1994 and
1993, the Company recognized tax benefits of $3.8 million, $2.8
million and $4.4 million including $851,000, $708,000 and $961,000
in low-income housing tax credits, respectively. Additionally, as
of December 31, 1995 the Company has a cumulative prepaid tax asset
of approximately $4.5 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 $12,100,000 in 1995, $10,000,000 in 1994, and $23,822,000 in
1993. Net charge-offs were $15,794,000 in 1995, $10,131,000 in
1994, and $13,174,000 in 1993. 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 $16,234,000 at
December 31, 1995, $19,929,000 at December 31, 1994, and
$20,060,000 at December 31, 1993. As a percent of loans
outstanding, the reserve for possible loan losses was 3.61%, 3.90%,
and 3.50% at year-end 1995, 1994, and 1993, 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.
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 second quarter of 1995, 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 $5 million which supplemented the planned
provision of $2.6 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 31% to $35,055,000 at December 31, 1995
from $51,182,000 at year-end 1994. Of the 1995 amount, $6,649,000
represents Segregated Assets, covered by the Loss Sharing Agreement
with the FDIC. Excluding the FDIC's 80% exposure on the Segregated
Assets ($5,319,000), adjusted nonperforming assets totaled
$29,736,000, a decrease of 31% over the adjusted 1994 level. At
December 31, 1993, nonperforming assets were reported to be
$64,299,000.
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
charged 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, 1995 and 1994, the Company had valuation reserves against the
other real estate owned portfolio carrying values of $2,430,000 and
$2,991,000, respectively.
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, 1995 decreased $79.8 million
(11.4%) from the previous year end. Much of this shrinkage is
attributable to steps taken by the Bank to address its portfolio of
troubled assets, as well as to realignments within the portfolio.
Of the $57 million decrease in loans and Segregated Assets, $18 million
was due to charge offs, and $6.3 million was due to the sale of
non-performing loans. The remainder of the decrease ($32.7 million)
was the result of payoffs
of non-performing obligations and scheduled amortization greater
than the level of new loan originations. Additionally, during
1995, the Bank's OREO portfolio decreased by $5.5 million (41%) due
to aggressive steps taken by the Bank to liquidate these assets.
Total deposit balances decreased during 1995 by $38 million, as
customers' continued to move savings balances to other bank and
non-bank competitors, partly as a result of the continued low
interest rate environment.
Total assets at December 31, 1994 decreased $40.2 million
(5.5%) from the previous year end. All of this reduction 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 nonbank competitors.
The investment portfolio, primarily U.S. Treasury debt
securities with short maturities, and GNMA and FNMA mortgage-backed
securities, decreased by $3 million (2.9%) during 1995 as a result
of an overall smaller balance sheet. Although deposit balances
continued to decrease, the Company was able to maintain its
liquidity position throughout the year.
The investment portfolio, primarily U.S. Treasury debt
securities with short maturities, grew $14.8 million (17.0%) during
1994 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.
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 a number of sources of liquid
funds, among these sources are: $24,000,000 in unused Federal Funds
lines of credit at year-end 1995; an overnight line of credit with
the Federal Home Loan Bank (FHLB) of $15 million; and an estimated
borrowing capacity with FHLB of $38 million. Only 3.6% of total
resources were funded by large certificates of deposit at December
31, 1995 and 1994.
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 March, 1995 the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 121, Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets To Be
Disposed of. The statement would apply to fiscal years beginning
after December 15, 1995. Additionally, in May, 1995, the FASB
issued SFAS No. 122, Accounting for Mortgage Servicing Rights. The
Bank is required to adopt the new statement prospectively on
January 1, 1996. Management does not believe that the adoption of
these standards will have a significant impact on the Bank's
consolidated financial condition or future results of operations.
CAPITAL RESOURCES
Capital growth is essential to support deposit and asset
growth and to ensure strength and safety of the Company. Net
losses reduced the Company's capital by $3,842,000 in 1995,
$2,890,000 in 1994 and (including the effect of dividends paid) by
$6,630,000 in 1993. Dividend Reinvestment (DRP) and Employee Stock
Ownership Plan (ESOP) requirements were satisfied by open market
purchases of stock during 1993. No new equity capital was
generated from the sale of common stock to DRP and ESOP
participants during 1995, 1994 or 1993 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 $5,471,000 or 11.9%.
As a state chartered bank, the Bank's primary regulator 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 6.15% and 5.94% at
December 31, 1995 and 1994, respectively. As of December 31, 1995
and 1994, the Bank's risk-based Tier 1 capital ratios are 8.19% and
8.13% and the total risk-based ratios are 9.45% and 10.96%. All
the Bank's capital measurements exceeded risk-based regulatory
minimums as of December 31, 1995.
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: 4,343,620
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.
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE 1995
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-31-1995
<PERIOD-END> DEC-31-1995
<CASH> 38,367
<INT-BEARING-DEPOSITS> 459,097
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 500
<INVESTMENTS-HELD-FOR-SALE> 98,253
<INVESTMENTS-CARRYING> 0
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<LOANS> 449,724
<ALLOWANCE> (16,234)
<TOTAL-ASSETS> 615,048
<DEPOSITS> 544,514
<SHORT-TERM> 5,335
<LIABILITIES-OTHER> 9,525
<LONG-TERM> 15,425
<COMMON> 44
0
0
<OTHER-SE> 40,205
<TOTAL-LIABILITIES-AND-EQUITY> 615,048
<INTEREST-LOAN> 46,067
<INTEREST-INVEST> 5,248
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 51,315
<INTEREST-DEPOSIT> 19,491
<INTEREST-EXPENSE> 23,002
<INTEREST-INCOME-NET> 28,313
<LOAN-LOSSES> 12,100
<SECURITIES-GAINS> 352
<EXPENSE-OTHER> 36,606
<INCOME-PRETAX> (7,627)
<INCOME-PRE-EXTRAORDINARY> (7,627)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (7,627)
<EPS-PRIMARY> (0.90)
<EPS-DILUTED> (0.90)
<YIELD-ACTUAL> 8.94
<LOANS-NON> 25,616
<LOANS-PAST> 237
<LOANS-TROUBLED> 1,430
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 19,929
<CHARGE-OFFS> (18,361)
<RECOVERIES> 2,566
<ALLOWANCE-CLOSE> 16,234
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