SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-K
(Mark-One)
/XX/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
For the transition period from to
Commission file number
0-12638
F&M BANCORP
(Exact name of registrant as specified in its charter)
Maryland 52-1316473
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
110 Thomas Johnson Drive
Frederick, Maryland 21702
(Address of principal executive offices) (Zip Code)
(301) 694-4000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $5.00 per share
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes /XX/ No / /
(Cover page 1 of 2 pages)
<PAGE>
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. /XX/
State the aggregate market value of the voting stock held by non-
affiliates of the registrant. Indicate the number of shares outstanding of
each of the registrant's classes of common stock, as of the latest practicable
date.
Common Stock, par value $5.00 per share:
Market value held by non-affiliates
at February 28, 1998 $210,638,604
Outstanding at February 28, 1998 6,021,218 shares
Documents Incorporated by Reference
(1) Portions of the registrant's Annual Report to Shareholders for the year
ended December 31, 1997 are incorporated by reference into Parts I and II.
(2) Portions of the Proxy Statement dated March 20, 1998 relating to the 1998
Annual Meeting of Stockholders of the Registrant is incorporated by reference
into Part III.
(Cover page 2 of 2 pages)
<PAGE>
<TABLE>
<CAPTION>
TABLE OF CONTENTS
Part 1 Page
- ------ ----
<S> <C> <C>
Item 1 Business 1
Farmers & Mechanics National Bank 1
Home Federal Savings Bank 1
Commercial Banking and Related Services 1
Personal Banking Services 1
Trust Services 2
Proposed Acquisition 2
Competition 2
Employees 2
Supervision and Regulation 3
Banking Regulation 3
Bank Holding Company Act 3
Capital Adequacy Guidelines 4
Interstate Banking 5
Monetary Policy 5
Statistical Information 6
Item 2 Properties 6
Item 3 Legal Proceedings 7
Item 4 Submission of Matters to a Vote of
Security Holders 7
Additional
Item Executive Officers of the Registrant 7
Part II
- -------
Item 5 Market for Registrant's Common Equity and Related
Stockholder Matters 7
Item 6 Selected Financial Data 7
Item 7 Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
Item 8 Financial Statements and Supplementary Data 8
Item 9 Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure 8
Part III
- --------
Item 10 Directors and Executive Officers of the Registrant 9
Item 11 Executive Compensation 10
Item 12 Security Ownership of Certain Beneficial Owners
and Management 11
Item 13 Certain Relationships and Related Transactions 11
Part IV
- -------
Item 14 Exhibits, Financial Statement Schedules, and
Reports on Form 8-K 11
Signatures 14
</TABLE>
PART I
------
ITEM 1. BUSINESS
- ------- --------
F&M Bancorp ("Bancorp") is a bank holding company registered under the
Bank Holding Company Act of 1956 that provides banking and bank related
financial services through its wholly owned subsidiaries, Farmers & Mechanics
National Bank and subsidiaries (the "Bank") and Home Federal Savings Bank and
subsidiaries (the "Savings Bank"). Bancorp is incorporated in Maryland and
commenced operations in 1984. At December 31, 1997, Bancorp was the fourth
largest independent bank holding company headquartered in the state.
Farmers & Mechanics National Bank
- ---------------------------------
The Bank was incorporated in 1865 as a national banking association under
the laws of the United States, and is the successor to Maryland State
chartered banking institutions dating from 1817. In 1915, the Bank acquired
trust powers. It conducts a general banking and trust company business through
24 offices located in Frederick, Carroll, and Montgomery Counties, Maryland.
The Bank had total assets of $819 million, total deposits of $651 million, and
total loans, net of unearned income, of $562 million at December 31, 1997.
Home Federal Savings Bank
- -------------------------
The Savings Bank, a federally chartered savings bank, was acquired by
Bancorp in 1996 through its merger with Home Federal Corporation. The Savings
Bank conducts its business through eight offices located in Washington and
Allegany Counties and had total assets of $223 million, total deposits of $171
million, and total loans, net of unearned income, of $162 million at December
31, 1997.
Commercial Banking and Related Services
- ---------------------------------------
The Bank and the Savings Bank provide credit facilities and related
services for the business community. Various types of commercial lending
products, including lines of credit, term loans, agricultural loans, real
estate and construction loans, and other forms of secured financing are
offered. Checking accounts, certificates of deposit, business financial
services including various cash management programs, commercial/PC banking and
night depository services are also provided.
Personal Banking Services
- -------------------------
The Bank and the Savings Bank provide a wide range of personal banking
services to individuals at each of their branch offices and the Bank's mobile
banking unit, Express Bank. Included in the services offered at most locations
are interest-bearing and noninterest-bearing checking accounts, savings
accounts, tiered money market deposit accounts, certificates of deposit,
individual retirement accounts, home mortgage loans, home equity loans, home
improvement loans, installment and other personal loans including automobile
and other consumer financing, VISA? credit card services (through an agent
bank relationship), PC banking, and safe deposit boxes. The Bank and the
Savings Bank have an expanding network of 24-hour automated teller machines
("ATMs")and cash dispensers throughout their market area offering limited
banking services.
Trust Services
- --------------
The individual trust services offered by the Bank include the
administration of estates and service as trustee of living, testamentary and
insurance trusts, agency accounts, custodial accounts, employee benefit
accounts, and self-directed IRA's. In 1997, the Bank's Trust Division
introduced Key Alliance, which provides free financial planning and a variety
of investment products to the Bank's customers.
Proposed Acquisition
- --------------------
F&M Bancorp announced in January that it has signed a letter of intent to
acquire Keller-Stonebraker Insurance, Inc., a Hagerstown, Maryland-based,
full-line independent insurance agency. The proposed transaction is intended
to be consummated as a statutory merger resulting in a tax-free exchange of
stock. Details of the transaction, which is subject to the approval of
regulatory authorities and by the boards of directors of both companies and by
the shareholders of Keller-Stonebraker, will be set forth in a definitive
agreement expected to be executed by March 31, 1998. If approved, the
transaction is anticipated to close in the second quarter of 1998.
Competition
- -----------
Bancorp operates in a highly competitive financial environment that has
intensified in the past several years as a result of banking consolidation and
the entry of new and diverse financial institutions not subject to the
regulatory restrictions of domestic banks and bank holding companies. Profit
margins in the traditional banking business of lending and deposit gathering
are more difficult to maintain as deregulation has allowed nonbanking
institutions to offer alternative services to many of Bancorp's customers.
Competitors include not only other commercial banks, but also savings and loan
associations, credit unions, money market funds, brokerage firms, investment
advisors, mortgage companies, leasing companies, insurance companies, and a
wide variety of other financial service companies.
Employees
- ---------
At December 31, 1997, Bancorp and its subsidiaries had 499 full-time
equivalent employees.
Supervision and Regulation
- --------------------------
Banking Regulation
------------------
The Bank is subject to supervision and regulation by the Comptroller of
the Currency, the Board of Governors of the Federal Reserve System (the
"Federal Reserve Board"), and the Federal Deposit Insurance Corporation (the
"FDIC"), and is subject to examination by the Comptroller of the Currency.
The official having primary supervisory authority over the Bank is the
Comptroller of the Currency. Deposits, reserves, investments, loans, consumer
law compliance, issuance of securities, payment of dividends, establishment of
branches, mergers and consolidations, changes in control, electronic funds
transfers, responsiveness to community needs, management practices,
compensation policies, and other aspects of operations are subject to
regulation by the appropriate Federal supervisory authorities and the
applicable banking laws of the State of Maryland. The Comptroller of the
Currency's enforcement authority over all national banks includes, among other
things, the ability to assess civil money penalties, to issue cease and desist
or removal orders and to initiate injunctive actions. The Bank may establish
branch banking offices throughout Maryland with the prior approval of the
Comptroller of the Currency. Mergers of the Bank with any other bank would
require approval of, and involve review by, various governmental agencies.
The Savings Bank is subject to examination and comprehensive regulation
by the Office of Thrift Supervision (the "OTS'), and the FDIC. The OTS has
extensive authority over the operations of savings associations. The OTS'
enforcement authority over all savings associations includes, among other
things, the ability to assess civil money penalties, to issue cease and desist
or removal orders and to initiate injunctive actions.
Federal law imposes certain restrictions limiting the ability of the Bank
and the Savings Bank to transfer funds to the Parent Company in the form of
loans or dividends. (See Note 15 of the Notes to Consolidated Financial
Statements in the 1997 Annual Report to Shareholders on page 41, which is
incorporated herein by reference.)
Bank Holding Company Act
------------------------
Bancorp is registered with the Federal Reserve Board as a bank holding
company and is subject to supervision and examination by the Federal Reserve
Board under the Bank Holding Company Act of 1956 (the "Act"), as amended. The
Act restricts the business activities and acquisitions that may be engaged in
or made by Bancorp. After prior approval or notice, Bancorp may acquire other
banks and bank holding companies and engage directly or indirectly in certain
activities closely related to banking. Bancorp must give prior notice of
certain purchases or redemptions of its outstanding equity securities.
Bancorp and its subsidiaries are prohibited from engaging in certain tie-in
arrangements in connection with any extension of credit, lease, sale of
property, or furnishing of services.
The Federal Reserve Board may issue cease and desist orders against bank
holding companies and nonbank subsidiaries to stop actions believed to present
a serious threat to a subsidiary bank. The Federal Reserve Board also
regulates certain debt obligations of bank holding companies.
Capital Adequacy Guidelines
---------------------------
The Federal Reserve Board and the Comptroller of the Currency have
historically determined the adequacy of a depository institution's capital
resources by comparison of its capital to its assets. The leverage capital
ratio measures the adequacy of capital in relation to the amount of the
institution's assets. The risk-weighted assets ratio measures the adequacy of
capital after weighting the risk inherent in various categories of assets.
The capital adequacy guidelines require depository institutions to
maintain a minimum leverage capital ratio of three percent Tier 1 capital
(primarily shareholders' equity) to total assets, plus, for all but the most
highly rated institutions, an additional cushion of 100 to 200 basis points.
Tier 1 capital for bank holding companies includes common equity, minority
interest in equity accounts of consolidated subsidiaries, and qualifying
perpetual preferred stock. Tier 1 capital excludes goodwill and other
disallowed intangibles, certain deferred tax assets and any net unrealized
loss on marketable equity securities. At December 31, 1997, Bancorp's
leverage capital ratio was 9.48 percent.
Bancorp must also meet a total capital to risk-weighted assets ratio
(risk-based capital ratio) of eight percent, measuring the amount and nature
of the assets and commitments currently at risk. The risk-based capital rules
specify four categories of asset or commitment risk, with each category being
assigned a weight of zero percent through 100 percent depending upon the risk
involved. Each asset or commitment of Bancorp is categorized and weighted
appropriately, and its capital is then compared to the aggregate value of such
risk-weighted assets or commitments to determine if additional capital is
required. At least 50 percent of capital must be composed of Tier 1 capital
elements. At December 31, 1997, Bancorp's total risk-based capital ratio was
14.08 percent.
The Comptroller of the Currency and the OTS have capital adequacy ratio
requirements for the Bank and the Savings Bank, respectively, that are
consistent with those for Bancorp.
The FDIC requires "prompt corrective action" when an insured
institution's capital falls to certain levels. This rule restricts or
prohibits certain activities and requires an insured institution to submit a
capital restoration plan when it becomes undercapitalized. The restrictions
and prohibitions become more severe as an institution's capital level
declines. The rule defines five capital ratios which are as follows:
<TABLE>
<CAPTION>
Total Tier-1 Tier-1
Risk-Based Risk-Based Leverage
Capital Category Ratio Ratio Ratio
- ---------------- ---------- ---------- --------
<S> <C> <C> <C>
Well capitalized >/=10% >/=6% >/=5%
Adequately capitalized >/= 8% >/=4% >/=4%
Undercapitalized < 8% <4% <4%
Significantly undercapitalized < 6% <3% <3%
Critically undercapitalized(1)
(1) Ratio of tangible equity to total assets of two percent or less.
</TABLE>
On the basis of these criteria, Bancorp is considered "well capitalized" at
December 31, 1997.
Risk-based capital standards address concentrations of interest rate risk
("IRR") as qualitative factors to be considered in evaluating overall capital
adequacy. A bank may be required to hold additional capital for IRR if it has
been determined that internal interest rate risk management processes are
inadequate or a significant exposure to interest rate risk has been
identified.
Interstate Banking
------------------
Since Bancorp is well capitalized, it may participate in interstate
affiliations with banks and bank holding companies located in any state,
although states may limit the eligibility of banks to be acquired to those in
existence for a period of time, but no longer than five years. No bank
holding company may acquire more than 10 percent of total nationwide insured
deposits nor more than 30 percent of deposits in any state; however, states
may waive the 30 percent limit. In addition, beginning June 1, 1997, banks
were allowed to branch across state lines either by merging with banks in
other states or by establishing new branches in other states. Interstate
branching through mergers may be prohibited by any state. The provision
relating to establishing new branches in another state requires a state's
specific approval. Maryland permits interstate branching both by mergers and
by establishing new branches.
Monetary Policy
---------------
The earnings and growth of Bancorp, the Bank, and the Savings Bank are
affected by general economic conditions as well as by monetary policies of
regulatory authorities, including the Federal Reserve System, which regulates
the national money supply in order to mitigate recessionary and inflationary
pressures. Among the techniques available to the Federal Reserve System are
engaging in open market transactions in United States Government securities,
changing the discount rate on bank borrowings, and changing reserve
requirements against bank deposits. These techniques are used in varying
combinations to influence the overall growth of bank loans, investments and
deposits. Their use may also affect interest rates charged on loans or paid
on deposits. The effect of governmental monetary policies on the earnings of
the Bank, the Savings Bank, or Bancorp cannot be predicted.
Statistical Information
- -----------------------
The following supplementary information required under Guide 3 for the
respective periods and at the indicated respective dates is set forth on the
pages indicated below in the 1997 Annual Report to Shareholders, which is
incorporated herein by reference. The information should be read in
conjunction with the related consolidated financial statements and notes
thereto.
Page
----
Selected Financial Information 12
Average Balances, Interest, and Average Rates 14
Analysis of Changes in Net Interest Income 16
Investment Portfolio Distribution 17
Investment Portfolio Analysis 18
Loan Portfolio Mix 19
Loan Maturities and Interest Sensitivity 19
Average Deposits and Rates Paid 19
Maturity of Time Deposits of $100,000 or More 20
Short-Term Borrowings 20
Nonperforming Assets and Contractually Past Due Loans 21
Potential Problem Loans 20
Analysis of Allowance for Credit Losses 21
Allocation of Allowance for Credit Losses 22
ITEM 2. PROPERTIES
- ------- ----------
The Bank owns a fee simple interest in the land and building located at
110 Thomas Johnson Drive, Frederick, Maryland, which is the location of its
principal executive offices and its main banking office. The Savings Bank
owns a building located at 122-128 West Washington Street, Hagerstown,
Maryland, which is the location of its principal executive offices and its
main bank office.
Of the remaining 30 banking offices of the Bank and the Savings Bank at
December 31, 1997, 16 were owned and 14 were leased. Information concerning
Bancorp's lease commitments is included in Note 13, on page 39 of the 1997
Annual Report to Shareholders, and is incorporated herein by reference.
ITEM 3. LEGAL PROCEEDINGS
- ------- -----------------
Bancorp, the Bank, and the Savings Bank are subject to various legal
proceedings which are incidental to the ordinary course of business. In the
opinion of the management, there are no material pending legal proceedings to
which Bancorp, the Bank, or the Savings Bank are a party or which involve any
of their property.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------- ---------------------------------------------------
No matters were submitted for a vote of security holders during the
fourth quarter of 1997.
ADDITIONAL
- ----------
ITEM. EXECUTIVE OFFICERS OF THE REGISTRANT
- ----- ------------------------------------
The text under Item 10(b), "Directors and Executive Officers of the
Registrant", is incorporated in this Part I by reference.
PART II
-------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
- ------- -------------------------------------------------------------------
Information concerning the price of the registrant's Common Stock and
related stockholder matters is included on inside back cover of the 1997
Annual Report to Shareholders under the heading "STOCK PRICE and DIVIDENDS"
and is incorporated herein by reference. Dividends paid per share were $.21,
$.21, $.22, and $.22 for the first, second, third and fourth quarters of 1997,
respectively. Dividends paid per share were $.16, $.15, $.15, and $.15 for
the first, second, third, and fourth quarters of 1996, respectively. Dividends
for 1996 and the first and second quarters of 1997 have been restated for the
5% stock dividend paid in the third quarter of 1997. Information concerning
restrictions on the ability of affiliates to transfer funds in the form of
dividends to Bancorp is included in Note 15 on page 41 of the 1997 Annual
Report to Shareholders and is incorporated herein by reference.
ITEM 6. SELECTED FINANCIAL DATA
- ------- -----------------------
Selected Financial Information on page 12 of the 1997 Annual Report to
Shareholders is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------- ------------------------------------------------------------------
RESULTS OF OPERATIONS
---------------------
"Management's Discussion and Analysis of Financial Condition and Results
of Operations" on pages 13 through 25 of Bancorp's 1997 Annual Report to
Shareholders is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ------- --------------------------------------------
The following consolidated financial statements, notes to consolidated
financial statements, and report of independent auditors on pages 26 through
43 of Bancorp's 1997 Annual Report to Shareholders are incorporated herein by
reference.
Page
----
Report of Independent Public Accountants 43
Report of Independent Auditors 43
Consolidated Balance Sheets,
December 31, 1997 and 1996 26
Consolidated Statements of Income,
Three Years Ended 1997 27
Consolidated Statements of Changes
In Shareholders' Equity,
Three Years Ended 1997 28
Consolidated Statements of Cash Flows
Three Years Ended 1997 29
Notes to Consolidated Financial
Statements 30 - 42
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
- ------- ---------------------------------------------------------------
FINANCIAL DISCLOSURE
--------------------
On July 9, 1996 Bancorp engaged Arthur Andersen LLP in place of its
independent public accountant, Keller Bruner & Company, L.L.C. ("KB"), on the
recommendation and approval of the Audit Committee, which action was ratified
by the full Board, after an extensive review and analysis of proposals
submitted by nine accounting firms, including KB. KB was not dismissed as the
result of any disagreement. The reports of KB on the financial statements of
the registrant for each of the two fiscal years in the period ended December
31, 1995 did not contain any adverse opinion or disclaimer of opinion and were
not qualified or modified as to uncertainty, auditing scope or accounting
principles. During the two fiscal years in the period ended December 31, 1995
and the subsequent interim periods preceding such dismissal, there were no
disagreements on any matter of accounting principles or practices, financial
statement disclosure, or auditing scope or procedure, or any reportable event.
PART III
--------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- -------- --------------------------------------------------
(a) The text and table under "Election of Directors-Information
Concerning Nominees" located on pages 4 through 7 of Bancorp's Proxy Statement
dated March 20, 1998 are incorporated herein by reference.
(b) The following is a list of the names and ages of all the executive
officers of Bancorp, the Bank, and the Savings Bank as of December 31, 1997
and all persons chosen to become executive officers since that date. All
executive officers are elected to serve for a one year period. There are no
arrangements or understandings between such persons and any other person
pursuant to which they were selected an officer.
<TABLE>
<CAPTION>
Position with the Bank
Position with Bancorp or Savings Bank (SB)
and year elected and year elected
Name and Age or appointed or appointed
- -------------------- --------------------- ----------------------
<S> <C> <C>
Charles W. Hoff, III Chairman of the Board Chairman of the Board
age 63 (1993) (1993)
Faye E. Cannon President (1993) & Chief President (1993) & Chief
age 48 Executive Officer (1996) Executive Officer (1996)
David R. Stauffer Vice President Executive Vice President
age 50 (1990) (1990)
Richard W. Phoebus Vice President President & Chief
age 59 (1996) Executive Officer
(1981) (SB)
Alice E. Stonebreaker Assistant Secretary & Senior Vice President &
age 51 Assistant Treasurer Cashier (1985)
(1983)
Gordon M. Cooley Secretary (1991) Senior Vice President
age 44 and Legal Officer (1990) & House Counsel
(1987) (1987)
David L. Spilman Treasurer Senior Vice President &
age 55 (1997) Chief Financial Officer
(1997)
Karen L. Korrell Senior Vice President
age 46 (1996)
Patti A. Stuckey Senior Vice President
age 54 (1989) & Trust Division
Manager (1988)
</TABLE>
(c) Bancorp is not required to furnish information on certain
significant employees pursuant to instructions contained in the form for this
report.
(d) There is no family relationship between any director, executive
officer, or person nominated or chosen by Bancorp to become a director or
executive officer, except that Ms. Cannon and Ms. Stonebreaker are sisters and
Mr. Cooley is the son-in-law of Director H. Deets Warfield, Jr.
(e) Each of the executive officers of Bancorp, the Bank and the Savings
Bank has been an officer for more than five years with the exception of Mr.
Spilman and Ms. Korrell. Mr. Spilman's banking career includes thirty years
of management experience in the areas of accounting, regulatory and financial
reporting, budgeting, taxation, strategic planning, controllership, treasury
funding, investor and media relations, and financial communications. Prior to
joining Bancorp, Mr. Spilman served as Investor Relations and Financial
Communications Consultant to Bancorp. Prior to his consulting assignment at
Bancorp, Mr. Spilman was President and Chief Operating Officer of Trust
Company of America, Inc., Washington, D.C. He has also served in a senior
financial capacity for Baltimore Bancorp, MNC Financial, Inc., and Equitable
Bancorporation. Mr. Spilman is a Certified Public Accountant. Ms. Korrell
previously held the position of Senior Vice President of Marketing for Capital
Bank, Miami, Florida, and has previously held managerial positions at
Citibank, Chase Manhattan, and the North Central Bank of Pennsylvania. Ms.
Korrell has over 18 years of banking experience in the areas of strategic
planning, public relations, advertising, promotion, market research, product
management, and community development.
(f) None of the events described in the instructions to the form of this
report have occurred during the past five years to the knowledge of Bancorp.
(g) Bancorp is not required to furnish this information because of the
absence of the conditions under which it is required.
ITEM 11. EXECUTIVE COMPENSATION
- -------- ----------------------
The text and tables under "Compensation Committee Report on Executive
Compensation" located on pages 8 through 12, and "Directors' Fees and Deferred
Compensation Plan" located on page 14 of Bancorp's Proxy Statement dated March
20, 1998, are incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- -------- --------------------------------------------------------------
The information contained in the section under "Security Ownership of
Management" and the notes thereto located on page 2, and the information
contained in the section under "Security Ownership of Certain Beneficial
Owners" located on page 4 of Bancorp's Proxy Statement dated March 20, 1998 is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- -------- -----------------------------------------------
The text under "Certain Transactions with Directors and Officers" located
on page 14 of Bancorp's Proxy Statement dated March 20, 1998 is incorporated
herein by reference.
PART IV
-------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
- -------- ----------------------------------------------------------------
(a) Filed documents:
(1) Financial Statements:
See listing in Item 8.
(2) Financial Statement Schedules:
Schedules I and II, inclusive, are omitted because of the
absence of the conditions under which they are required.
(3) Exhibits:
2 Plan of Agreement to Merge between F&M Bancorp and Home
Federal Corporation. Filed as Annex A to Registration
Statement on Form S-4 (File No. 333-04967) and
incorporated herein by reference.
3.1 Articles of Incorporation of F&M Bancorp with all
Articles of Amendment. Filed as an exhibit with the
quarterly report on Form 10-Q for the second quarter of
1997 and incorporated herein by reference.
3.2 By-Laws of F&M Bancorp. Filed as an exhibit with the
quarterly report on Form 10-Q for the third quarter of
1997 and incorporated herein by reference.
4 Description of Common Stock. Filed as an exhibit with
the quarterly report on Form 10-Q for the third quarter
of 1997 and incorporated herein by reference.
10.1 1983 Stock Option Plan of F&M Bancorp as amended in
April, 1996. Filed as Exhibit 10.1 to Registration
Statement on Form S-8 (File No. 002-88390) and
incorporated herein by reference.
10.2 Unfunded Deferred Compensation Plan for Non-Employee
Directors of F&M Bancorp as amended July, 1996. Filed
as an exhibit hereto and incorporated herein by
reference.
10.3 Farmers and Mechanics National Bank Executive
Supplemental Income Plan as amended in March 1990.
Filed as Exhibit 10.3 to the Annual Report on Form 10-K
for the year ended December 31, 1990 (File No. 0-12638)
and incorporated herein by reference.
10.4 F&M Bancorp Employee Stock Purchase Plan. Filed as
Prospectus to Registration Statement on Form S-8 (File
No. 33-39941) and incorporated herein by reference.
10.5 F&M Bancorp Dividend Reinvestment and Stock Purchase
Plan. Filed as Prospectus to Registration Statement on
Form S-3 (File No. 33-39940) and incorporated herein by
reference.
10.6 1995 Stock Option Plan of F&M Bancorp. Filed as
Exhibit 10.1 to Registration Statement on Form S-8
(File No. 333-02433) and incorporated herein by
reference.
10.7 Employment Agreement between F&M Bancorp, Home Federal
Savings Bank and Richard W. Phoebus, Sr. Filed as
Exhibit 10.7 to the Annual Report on Form 10-K for the
year ended December 31, 1996 (file No. 0-12638) and
incorporated herein by reference.
10.8 Employment Agreement between F&M Bancorp, Home Federal
Savings Bank and Steven G. Hull. Filed as Exhibit 10.8
to the Annual Report on Form 10-K for the year ended
December 31, 1996 (File No. 0-12638) and incorporated
herein by reference.
10.9 Employment Agreement between F&M Bancorp, Home Federal
Savings Bank and Salvatore M. Savino. Filed as Exhibit 10.9 to the Annual
Report on Form 10-K for the year ended December 31, 1996 (File No. 0-12638)
and incorporated herein by reference.
10.10 Employment Agreement between F&M Bancorp, Home Federal
Savings Bank and Celia S. Ausherman. Filed as Exhibit
to the Annual Report on Form 10-K for the year
ended December 31, 1996 (File No. 0-12638) and
incorporated herein by reference.
10.11 Form of F&M Bancorp Stock Options substituted for Home
Federal Corporation Stock Options granted under the
Home Federal Corporation 1988 Stock Option and Stock
Appreciation Rights Plan filed as Exhibit 99.3 to
Registration Statement on Form S-8 (File No. 333-16709)
and incorporated herein by reference.
11 Statement re: computation of per share earnings.
13 1997 Annual Report to Shareholders of F&M Bancorp.
21 Subsidiaries of F&M Bancorp.
23.1 Consent of Independent Public Accountants.
23.2 Consent of Independent Auditors
27 Financial Data Schedule.
(b) No reports on Form 8-K were filed by the Corporation during the quarter
ended December 31, 1997.
SIGNATURES
- ----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
F&M BANCORP
(Registrant)
Dated: March 27, 1998 By: /s/ Faye E. Cannon
------------------
Faye E. Cannon
President & Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Principal Executive Officers:
March 27, 1998 /s/ Charles W. Hoff, III
----------------------------
Charles W. Hoff, III
Chairman of the Board
March 27, 1998 /s/ Faye E. Cannon
----------------------------
Faye E. Cannon
President & Chief Executive
Officer
Principal Financial &
Accounting Officer:
March 27, 1998 /s/ David L. Spilman
----------------------------
David L. Spilman
Treasurer
A Majority of the Board
of Directors
March 27, 1998 /s/ R. Carl Benna
----------------------------
R. Carl Benna
Director
March 27, 1998 ----------------------------
Howard B. Bowen
Director
March 27, 1998 /s/ John D. Brunk
----------------------------
John D. Brunk
Director
March 27, 1998 ----------------------------
Beverly B. Byron
Director
March 27, 1998 /s/ Faye E. Cannon
----------------------------
Faye E. Cannon
Director
March 27, 1998 ----------------------------
Martha E. Church
Director
March 27, 1998 /s/ Albert H. Cohen
----------------------------
Albert H. Cohen
Director
March 27, 1998 /s/ Maurice A. Gladhill
----------------------------
Maurice A. Gladhill
Director
March 27, 1998 /s/ Charles W. Hoff, III
---------------------------
Charles W. Hoff, III
Director
March 27, 1998 ---------------------------
James K. Kluttz
Director
March 27, 1998 ---------------------------
Robert K. Moler
Director
March 27, 1998 /s/ Charles A. Nicodemus
---------------------------
Charles A. Nicodemus
Director
March 27, 1998 ---------------------------
Richard W. Phoebus, Sr.
Director
March 27, 1998 /s/ H. Deets Warfield, Jr.
---------------------------
H. Deets Warfield, Jr.
Director
March 27, 1998 /s/ John C. Warfield
---------------------------
John C. Warfield
Director
March 27, 1998 /s/ Thomas R. Winkler
---------------------------
Thomas R. Winkler
Director
EXHIBIT 11
STATEMENT RE: COMPUTATION OF PER SHARE EARNINGS
Earnings per share ("EPS") is calculated on a Basic EPS and Diluted EPS basis.
Basic EPS is calculated by dividing income available to common shareholders
(the numerator) by the weighted-average number of common shares outstanding
(the denominator) during the period. Income available to common shareholders
is Net Income in the table below and as reported in Bancorp's income statement
on page 27 of its Annual Report to Shareholders for 1997. No adjustments were
required to net income for any EPS calculations.
Diluted EPS is calculated by adjusting the denominator for all dilutive
potential common shares that were outstanding during the period. Bancorp had
stock options outstanding during the periods presented below which had a
dilutive effect on EPS. Therefore, the number of additional common shares that
would have been outstanding if the options had been exercised is added to the
denominator to arrive at the dilutive number of shares.
<TABLE>
<CAPTION>
(Dollars in thousands) For the Years Ended December 31,
-------------------------------------------
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
Net income $ 12,159 $ 8,611 $ 10,727
-------- --------- ---------
-------- --------- ---------
Basic EPS
Shares 5,982,934 5,954,684 5,939,690
EPS $ 2.03 $ 1.45 $ 1.81
Dilutive shares
Stock options 51,349 44,806 49,007
EPS $ 0.02 $ 0.01 $ 0.02
Diluted EPS
Shares including
Options 6,034,283 5,999,490 5,988,697
EPS $ 2.01 $ 1.44 $ 1.79
</TABLE>
EXHIBIT 13
F&M BANCORP
We are creating highly profitable, long-term banking relationships...
MANAGING FOR VALUE
... by reaching out to market segments with customer needs-driven programs for
every stage of life.
[PHOTO - four small photo inserts: 1) retirement age male and female; 2)
father and young son; 3) male riding bicycle; and 4) female professional]
1997 ANNUAL REPORT
<PAGE>
CONTENTS
1 Financial Highlights
2 Letter To Our Shareholders
4 Generation X
6 The Boom Generation
8 The Mature Market
10 Business
12 Selected Financial Information
13 Management's Discussion and Analysis
26 Consolidated Financial Statements
30 Notes to Consolidated Financial Statements
43 Report of Auditors
44 Directors & Officers
Inside Front Cover
YEAR AT A GLANCE
BUSINESS PROFILE
F&M Bancorp ("FMBN")is the largest community bank in Central Maryland and the
fourth largest independent bank holding company headquartered in Maryland.
With over $1 billion in assets, FMBN operates as Farmers & Mechanics National
Bank and Home Federal Savings Bank through 32 community offices and 50 ATMs,
and offers a full range of consumer, trust and commercial banking products and
services. With the successful implementation of technology systems, market
segmentation initiatives, and branding programs in 1997, the groundwork is now
in place to develop an integrated sales and service culture, offering the
prospects of significant earnings growth for F&M Bancorp's investors through
creating highly satisfied, profitable customer relationships.
FMBN is well-positioned to maintain its dominant market share in the Central
Maryland region and is poised to increase sales throughout its market.
[Map of Maryland with Allegany, Washington, Frederick, Carroll and Montgomery
Counties highlighted. The following towns are called-out on the map:
Frostburg, Allegany County, Hagerstown, Washington County, Frederick City,
Frederick County, Union Bridge, Carroll County, and Gaithersburg, Montgomery
County.]
<PAGE>
YEAR AT A GLANCE
F&M Bancorp implements segmentation initiatives created by obtaining
quantitative and qualitative data on each target market, which is then
analyzed and transformed into programs that respond to each market's needs.
[PHOTO - computer keyboard]
F&M Bancorp enters the second phase of its Home Federal Savings Bank
integration initiatives. Plans are made to consolidate support-processing
functions, while leveraging the value of Home Federal as a community bank in
its marketplace.
[PHOTO - Home Federal logo]
[PHOTO - computer keyboard and monitor]
F&M Bancorp achieves 25% growth in trust assets under management for the third
straight year.
F&M Bancorp enters the third phase of its technology blueprint designed to
enhance products and service delivery to the customer while yielding greater
operational efficiencies. On-line platform and teller automation facilitate
new account delivery and transaction processing.
[PHOTO - diploma and graduation cap]
F&M Bancorp initiates systems for transforming each community office into an
effective sales and marketing center. Customer information is used to boost
household profitability levels while matching the financial needs of customers
with product and service solutions.
F&M Bancorp opens the first convenience-store office through Home Federal
Savings Bank in Washington County, which complements its existing two grocery
store offices offering one-stop banking and grocery shopping.
Key Alliance, a new solutions-based financial management program specifically
created to meet the financial needs of the Baby Boomer segment, captures a
Bank Marketing Association Award for Best Innovative Marketing Idea at the
Association's Wealth Management Conference.
Including the introduction of new and enhanced lines of business, F&M Bancorp
increases noninterest income by 25%.
[PHOTO - wall of safety deposit boxes]
F&M Bancorp continues to invest in the development of strategic thinking
skills and quality sales and service competencies to assist associates in
building profitable customer relationships.
F&M Bancorp builds an aggressive Year 2000 Master Assurance Plan. The Plan
includes detailed tasks, stringent testing, and thorough analysis to address
business critical issues and prepare Bancorp for Year 2000 readiness in a
timely manner.
Recognizing the importance of brand differentiation in the marketplace,
Farmers & Mechanics National Bank tackles the issue and arrives at a brand
positioning strategy to support the building of long-term customer
relationships.
[PHOTO - Farmers & Mechanics logo]
F&M Bancorp adopts a revised three-year strategic blueprint. The plan sets
forth a process for complete integration of a bank-wide sales and service
culture, provides for further leveraging of technology, and includes
techniques to enhance profitability through identifying more precisely defined
sub-markets.
[PHOTO - workplace desk top]
As F&M Bancorp improves its ability to understand customers at increasingly
precise levels, it is developing products and services that respond to their
specific needs, marketing those products efficiently, and providing a variety
of delivery channels that accommodate the values and lifestyles of those
customers. Every line of business and product offering serves as a link in
forging long-term, lifecycle banking relationships. The combined result is
powerful. Expansion of the customer base, increased household profitability,
and higher levels of customer retention yield improved returns on equity and
increased earnings per share.
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS
F&M Bancorp and Subsidiaries
Three month period Year ended
(Dollars in thousands, ended December 31, % December 31, %
except per share amounts) 1997 1996 Change 1997 1996 Change
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
OPERATING DATA
Interest income $19,481 $18,186 7.1% $75,527 $70,866 6.6%
Interest expense 8,854 8,307 6.6 34,180 32,218 6.1
------- ------- ------- -------
Net interest income 10,627 9,879 7.6 41,347 38,648 7.0
Provision for credit losses 450 622 (27.7) 1,800 1,522 18.3
------- ------- ------- -------
Net interest income after
provision for credit 10,177 9,257 9.9 39,547 37,126 6.5
losses
Noninterest income 3,158 2,677 18.0 13,430 10,770 24.7
Noninterest expense 9,086 9,879 (8.0) 35,697 36,512 (2.2)
------- ------- ------- -------
Income before provision for
income taxes 4,249 2,055 106.8 17,280 11,384 51.8
Provision for income taxes 1,149 434 164.7 5,121 2,773 84.7
------- ------- ------- -------
Net income 3,100 1,621 91.2 12,159 8,611 41.2
======= ======= ======= =======
PER SHARE DATA
Net income, basic $0.52 $0.27 92.6% $2.03 $1.45 40.0%
Net income, diluted 0.51 0.27 88.9 2.01 1.44 39.6
Cash dividends paid 0.22 0.15 46.7 0.86 0.61 41.0
Book value 16.93 15.67 8.0
Market value, NASDAQ/NMS:FMBN 38.00 22.86 66.2
KEY RATIOS
Return on average assets 1.18% 0.65% 1.19% 0.89%
Return on average equity 12.36 6.95 12.64 9.48
Net interest margin 4.54 4.53 4.58 4.57
Efficiency ratio 60.05 61.89 61.68 63.59
Equity capital ratio 9.74 9.29
SELECTED AVERAGE BALANCES
Securities $240,599 $238,856 0.7% $240,560 $237,885 1.1%
Loans, net of
unearned income 717,169 666,052 7.7 695,142 640,672 8.5
Earning assets 967,322 910,048 6.3 943,269 890,825 5.9
Assets 1,043,673 988,340 5.6 1,020,480 964,865 5.8
Deposits 814,896 787,295 3.5 801,916 784,994 2.2
Borrowings 117,191 97,022 20.8 110,930 78,52241.3
Shareholders' equity 99,523 92,854 7.2 96,174 90,858 5.9
AT PERIOD END
Securities $231,005 $245,811(6.0)%
Loans, net of unearned income 724,134 670,269 8.0
Earning assets 966,195 921,332 4.9
Assets 1,044,3881,005,851 3.8
Deposits 821,967 794,750 3.4
Borrowings 109,610 105,973 3.4
Shareholders' equity 101,674 93,460 8.8
ASSET QUALITY
Nonperforming assets $10,451 $14,738(29.1)%
Nonperforming assets/total assets 1.00% 1.47%
Allowance/total loans 1.32 1.44
</TABLE>
F&M Bancorp's success in meeting the NEEDS of its target customer segments is
reflected in the BOTTOM LINE.
<TABLE>
<CAPTION>
TOTAL ASSETS
(Dollars in millions)
<S> <C> <C> <C> <C> <C>
$1200
1000
800
600
400
200
0 1993 1994 1995 1996 1997
</TABLE>
<TABLE>
<CAPTION>
TOTAL LOANS
(Dollars in millions)
<S> <C> <C> <C> <C> <C>
$1200
1000
800
600
400
200
0 1993 1994 1995 1996 1997
</TABLE>
<TABLE>
<CAPTION>
TOTAL DEPOSITS
(Dollars in millions)
<S> <C> <C> <C> <C> <C>
$1200
1000
800
600
400
200
0 1993 1994 1995 1996 1997
</TABLE>
<PAGE>
"Our commitment to building long-term, PROFITABLE customer relationships is
evidenced by our continued investment in people and technology, and our
relentless focus on THE CUSTOMER."
[Photo of Faye E. Cannon]
Faye E. Cannon
President and Chief Executive Officer
TO OUR SHAREHOLDERS
F&M Bancorp closed 1997 with record earnings and a record high stock price ...
Suitable punctuation to the timely and successful completion of our three-year
strategic blueprint which embodies the principles of managing for value.
By the end of 1997, we concluded three years of unprecedented investments in
systems and information technology, focused market research, advanced products
and services, and intense training. Over that period, we positioned F&M
Bancorp as the market needs-driven, diversified financial services
organization it is today, with new opportunities for growth and earnings
momentum. Our financial results for 1997 reveal the trends.
1997 Financial Summary
Earnings, before special items, increased 9% in 1997 to a record high $11.901
million, or $1.99 per share, from $10.914 million, or $1.83 per share in 1996.
The increase was largely driven by a 7% gain in net interest income,
principally related to loan growth, while trust fees and other sources of
noninterest income increased 13%. Cost controls were evident again, as growth
in noninterest expense was contained at just 5% in 1997. The resulting
decrease in Bancorp's efficiency ratio, to 61.7% for 1997 from 63.6% a year
ago, demonstrates our continued success in leveraging operating costs to
produce additional revenue.
Including special items detailed in Table 1, page 13, net income increased 41%
to $12.159 million for the year, compared with $8.611 million for 1996.
Largely reflecting last year's merger-related expenses and Savings Association
Insurance Fund assessments, the improvement also included a 25% increase in
total noninterest income.
Our improved financial performance is also evident in traditional measures.
Returns on assets and equity, before special items, reached 1.17% and 12.37%,
respectively, for 1997, increasing from 1.13% and 12.01%, respectively, for
1996. And, a 29% reduction in nonperforming assets, largely within Home
Federal's portfolio, represented a substantial improvement in Bancorp's credit
quality.
Home Federal Adds to Earnings
Home Federal, acquired in November 1996, turned in sharply higher operating
performance and contributed to consolidated earnings per share within the
first 12 months as anticipated. In addition to improving Bancorp's franchise
value, our Hagerstown, MD-affiliate has provided numerous opportunities to
gain operating efficiencies, largely through the consolidation of
administrative functions. Full system integration is expected by mid-year
1998, leading to additional cost savings and higher levels of service to Home
Federal's customers.
Dividends
Recognizing the value of a sound and responsive dividend policy, your Board of
Directors took important action during the year to increase shareholder
participation in our financial progress. The quarterly cash dividend was
increased 10% in January 1997, to $0.22 per share, followed six months later
by a 5% stock dividend paid in August. These actions contributed to an
increase in Bancorp's 5-year total return to shareholders to 21% through
December 31, 1997.
1997 Milestones
Last year in these pages, we outlined our approach to customer-focused
marketing and described the prospects for returns on past investments in
delivery systems and information technology. Our entire organization takes
great pride in reporting our success in achieving all established objectives.
Incremental Earnings Growth
Steady earnings growth and improved profitability highlighted our success in
leveraging re-engineered operations, introducing new services and sources of
revenue, and enhancing the return on marketing investments through effective
customer segmentation. We continue to focus on delivering the right products,
to the right customers, through the right delivery channels, knowing that our
continued growth and profitability will be driven by customer preference.
Key Alliance
Free financial planning for life is a great way for customers to start a
banking relationship, and it's also a great way to build on one. Key Alliance
is the latest value-added service made available through our Trust and
Investment Management Group, and contributed to a 25% increase in assets under
management in 1997 to a year-end total of $383 million.
Personal PC Banking
Our personal PC banking service has received strong initial acceptance with
nearly 2% of our checking account customers enrolling in the first several
months. Attracted largely by bill paying and 24-hour financial management
capabilities, PC Banking customers are electronically linked to the benefits
of lower processing costs accompanied by higher-value service. Research shows
that these are ingredients for promising long-term relationships.
Community Office Automation
We are better able to serve our customers with on-line access at both the
sales platform and the teller window. More importantly, we have equipped
branch sales associates with powerful new tools to monitor customer
relationships and profitability and to identify distinct sales opportunities.
Year 2000 Computer Readiness
F&M Bancorp's Board of Directors approved a detailed program for Year 2000
which is designed with special emphasis on identifying and managing business
risks posed by vendors, business partners, counter parties, and large
borrowers. Our company wide Master Assurance Plan is in place and being
executed to assure that business critical issues are handled in a timely
manner. Thorough evaluation and stringent testing will lead us to Year 2000
readiness.
Brand Platforms
Keeping connected to the life-long financial needs of our customers is a
principle of relationship banking that reflects in the operating philosophies
of Bancorp's subsidiaries. Brand equity has become a tangible financial
component of a bank's present and future value. By clarifying our brand
positioning, we are able to differentiate our organization as the financial
brand that customers choose first.
Board of Directors
The directors of F&M Bancorp were pleased to honor George B. Delaplaine, Jr.,
by naming him Director Emeritus following his retirement from the Board in
1997. We are eternally grateful for his many years of commitment and
dedication to the stewardship of F&M Bancorp and its operating subsidiaries.
Our Prospects
We call it "Vision 2000: The Customer Connection". It is the detailed
strategic blueprint that maps the route to a level of financial performance
ranked among the top quartile of our peer group in the next three years. This
goal challenges our entire organization to further hone our capabilities
knowing we must be sharper, more innovative and increasingly more efficient as
we go about the business of delivering financial solutions in a customer-
driven market.
In short, we will intensify our focus on executing our revised strategic plan,
gaining exceptional knowledge about our customers and markets through local
markets management. We will seek economies in the way we market and deliver
services to our customers and achieve higher levels of profitability as
measured by the cascading effects that accompany building solid, life-time
customer relationships.
Our vision for the future takes a lesson from the past. Put a well-defined
plan before motivated, leadership-empowered people, provide the tools of
technology and the training to use them, then prepare to measure success.
With our customers' lifecycle financial needs driving our business, F&M
Bancorp continues to reinforce its standing as a leading financial services
institution in the region.
/s/ Faye E. Cannon
Faye E. Cannon
President and Chief Executive Officer
/s/ Charles W. Hoff, III
Charles W. Hoff, III
Chairman of the Board
[PHOTO - Charles W. Hoff, III]
Charles W. Hoff, III
Chairman of the Board
<PAGE>
GENERATION X
[PHOTO - male on cross country bicycle in field of flowers]
F&M Bancorp is developing lifecycle banking relationships with a generation
that doesn't identify with lifetime financial commitment.
<PAGE>
This market not only APPRECIATES, but DEMANDS INNOVATION.
Technology plays an important role in providing delivery convenience and
product efficiencies, and is crucial for developing the services and
conveniences that capture Gen-X customers.
<TABLE>
<CAPTION>
1997 DEBIT AND CHECK CARD TRANSACTIONS
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
180,000
160,000
140,000
120,000
100,000
80,000
60,000
40,000
20,000
0
- -----------------------------------------------------------------------------
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
</TABLE>
They're called Generation X, or Gen-X-people in their 20's and early 30's who
grew up with computers and take even the latest technologies for granted. They
use multiple sources for financial services, are more frugal than Baby
Boomers, and are sophisticated in their understanding of financial options.
But of all the generalities that apply to Gen-X, perhaps the strongest is that
they don't identify with generalities. They see themselves as unique
individuals making their way in a fast-changing world.
IN 1997, F&M Bancorp researched this market segment's habits and lifestyles,
and identified opportunities for meeting the challenge they represent. As part
of the Bank's organization alignment to better serve market segments, it
assigned a manager to this market, who works with cross-functional teams to
develop products and services that reach and convert Gen-Xers - at a
relatively early stage in life - to long-term customers.
Among the products and services coveted mostly by this market segment is PC
Banking. F&M Bancorp was the first Frederick County-based financial
institution to offer PC Banking in its market area. Although PC banking
appeals to several markets, it is especially vital for acquiring new Gen-X
customers. They expect it. In 1997, F&M Bancorp launched an initial rollout of
PC Banking, an interactive system that is especially user friendly and
features easy import/export of data from popular personal financial management
programs. PC Banking received immediate acceptance, and by year's end, 2% of
active checking customers had already subscribed to the service.
F&M Bancorp offers other Gen-X appropriate services that provide banking
access wherever customers happen to be. ATMs and point-of-sale transactions
are now at remote locations that include grocery stores, convenience stores,
restaurants, retail establishments and stadiums. ExpressLine offers automated
over-the-phone banking convenience 24 hours a day, seven days a week. And, the
Skip-A-Payment program is a customer retention tool that is particularly
popular among Gen-Xers.
[PHOTO - computer keyboard]
To be a Gen-Xers "bank for life," you have to deliver more than banking
convenience, and F&M Bancorp does.
1998-2000. F&M Bancorp's objective is to keep listening to Gen-X and to keep
demonstrating that it has a continuum of products that support their lifetime
financial goals. Because technology helps initially penetrate the market,
Bancorp's next three-year strategy includes upgrading its Internet site to
become an interactive business acquisition tool. And, because Gen-X is a
particularly elusive market, the most important of upcoming efforts is
research, including focus groups, local marketing data, and individual
customer behavior tracking. From this research, Bancorp can reinforce its
brand platform with products and services that meet Gen-X's needs now and in
the future, and deliver those products through a fully realized sales and
service culture. Through efforts to continually learn about ways to respond to
the Gen-Xers, F&M Bancorp will create lifelong financial solutions for these
customers that will be increasingly beneficial for them and increasingly
profitable for Bancorp.
<PAGE>
[PHOTO - diploma and graduation cap}
Ever since they were born, they've been defined by their numbers. And, in
fact, the Boom Generation makes up a respectable percentage of F&M Bancorp
customers. Now, as the younger 35-45 submarket of Boomers gear up for college
educations, and older 45-55 full- and empty-nesters look beyond child-rearing
expenses to retirement, they have pressing financial needs. Yet, as they try
to get a grip on their financial future, with many standing on the brink of an
unprecedented generational transfer of wealth, Boomers are looking for
investment options for their inheritance.
In 1997, F&M Bancorp introduced a program designed to capture those dollars,
increase share of per-household business, and form new lifecycle banking
relationships. The essence of the program - Key Alliance - is a free lifetime
financial planning service. Customers meet with a credentialed financial
planner, inventory their current assets, and discuss their needs and financial
goals. The planner then develops a customized, written plan of action for
investment, debt consolidation, and other financial strategies. The
information provided by customers reveals not only retail investment options,
but also banking products that might be beneficial, such as home equity loans
for themselves, or estate planning for a parent.
Most importantly, Key Alliance reveals asset management opportunities. Each
financial planner is able to develop a relationship of confidence by
demonstrating the strong financial performance of Bancorp's investment
management services. Many times, the planner identifies additional related
services that benefit the customer. And, that relationship tends to grow even
more significant with time in the form of future trust and investment
management business.
In 1997, Key Alliance was recognized for its innovativeness with a Bank
Marketing Association award for the best marketing idea at its Wealth
Management Conference. Still unique in the marketplace, Key Alliance forges
lifelong relationships and reveals sales opportunities that benefit both F&M
Bancorp and customer alike.
Key Alliance was not alone in spectacular achievements with the Boom
Generation in 1997. As another means of bringing in new customers, and in an
effort to compete with nontraditional investment services, F&M Bancorp
introduced its T-Bill Plus Money Market Account. The program linked
investments of $25,000 or more in outside dollars with the 13-week Treasury
Bill providing accessible rates monitored in the financial news. It also
combined easy check-writing access to funds and the security of FDIC
insurance. Promoted through advertising and direct mail to identified customer
prospects and noncustomer "look-a-likes," T-Bill Plus clearly satisfied a need
and experienced extraordinary success.
Together, Key Alliance and T-Bill Plus were major contributors to Bancorp's
income in 1997, while establishing new customer relationships.
1998-2000. In keeping with its strategy for implementing a results-oriented
sales and service culture, Bancorp's next goal is to maximize Key Alliance
referrals and increase delivery of Key Alliance services through its community
offices.
Whether its free financial planning for life, innovative new products, or
competitive investment returns on managed assets, customers are discovering
value at F&M Bancorp, and Bancorp is realizing value in deeper customer
relationships.
F&M Bancorp TRANSFORMED a free service into a NEW source of revenue and a new
avenue for growth in TRUST ASSETS.
Designing products and services specifically for the Boom Generation gives
them more investment options to meet their unique financial needs.
<TABLE>
<CAPTION>
MARKET AREA BY SEGMENT
<S> <C>
Seniors 29%
Baby Boomers 43%
Generation X 28%
</TABLE>
<PAGE>
THE BOOM GENERATION
[PHOTO - Mom, Dad, son and daughter]
If you provide customers with the right solutions, a value-added banking
relationship will follow.
<PAGE>
THE MATURE MARKET
[PHOTO - Retirement age male and female on beach]
Focused on existing and prospective customers, Bancorp is adding to revenue by
building profitable customer relationships.
<PAGE>
F&M Bancorp doesn't guess what this market is LOOKING for. They LISTEN and
respond with innovation and options that meet the diverse financial needs of
the Mature Market segment.
A significant increase in trust assets under management reflects Bancorp's
ability to listen and respond to customers who are seeking to get the most out
of their leisure and retirement years.
[PHOTO - PRESTIGE BANKING 1997 MEMBERSHIP GROWTH - Memberships (Households) -
contains no legends]
Many still have older children at home; others are empty nesters. Some are
still working with little leisure time; others are retired and enjoy classes,
outings, and entertainment. F&M Bancorp calls this diverse market of customers
50 years of age or better, the Mature Market. They comprise the first target
market that Bancorp identified and pursued in its segmentation strategy. One
of the hallmark efforts to penetrate this group is Prestige Banking, a
relationship-building package that was introduced in late 1996. Developed as a
result of ongoing research, Prestige Banking was designed to acquire new core
account relationships, encourage consolidation of accounts typically held at
multiple institutions, and develop customer loyalty.
In 1997, the first full year of Prestige Banking, there was ample evidence
that the program was exceeding expectations. In all respects - average
balance, total balance, and new money - the program far surpassed established
goals. At year's end, Prestige out-performed goals for new money by 18% and
retained relationships by 20%. And, average balances maintained within
Prestige Banking households were 51% higher than originally anticipated.
Significant trust asset growth was attributed to the mature market segment who
are invited to participate in investment management seminars and other
educational classes offered throughout the year.
The reason for Prestige Banking's success is simple: it's a relationship
strategy based on assessments that continuously adapt to customer needs. Every
aspect of the program's services, products and activities reflects an
understanding of Prestige customers and their preferences. Available with a
minimum deposit, Prestige Banking combines premium banking features such as
interest checking, safe deposit boxes, a no-fee gold credit card, exclusive
events, and a quarterly newsletter. Expanded in 1997, Prestige University
offers classes in subjects such as investment management, estate and tax
planning, and financial management, while popular personal computing classes
help Prestige customers become proficient with technology. Weekend get-aways
and longer travel adventures appeal to the most active customers, while
weekday trips and evening entertainment events bring retired members together.
[PHOTO - wall of safety deposit boxes]
Because the Mature Market appreciates value-based purchasing, Bancorp
initiated a program, in 1997, that offers Prestige members 10-20% discounts at
participating merchants. And, to maintain members' enthusiasm, Bancorp began
publishing a quarterly newsletter that covers activities, product news, and
articles of special interest.
In support of the Mature Market, and to further penetrate this segment,
Express Bank, an innovative banking delivery channel, travels to where many
Prestige customers live or work. Offering both automated ATM and personalized
banking services, this full-service office on wheels is a frequent visitor to
retirement communities where residents enjoy the freedom of doing their own
banking and to bank-at-work sites for the ultimate banking convenience.
1998-2000. A Prestige customer advisory panel helps Bancorp refine and
understand the Mature Market and what appeals to it. Bancorp then applies this
guidance, relates it to individual customer information, and uses it to cross-
sell other bank products. The more Bancorp knows about the Mature Market, the
more it can do for them-and that leads to banking relationships that last for
life.
<PAGE>
[PHOTO - computer monitor]
Serving the financial needs of small, medium, and large commercial business
customers has always been a high strategic priority for F&M Bancorp. With
continued focus on helping businesses of all sizes manage growth and increase
efficiencies, emphasis on the small business submarket has allowed Bancorp to
participate in the rapid growth of this segment. Unlike other financial
institutions in the region, Bancorp provides its business customers the direct
contact and responsiveness they expect from a local bank, as well as the high-
level knowledge and sophistication of a large national financial institution.
In 1997, the first full year for the Small Business Unit, Bancorp applied
their unique combination of capabilities, shaping products and designing
solutions specifically for small business applications. The goal: to show
small businesses that Bancorp's value-added services help them make better use
of their money, so that-far more than being just another source of credit-F&M
Bancorp can and should be their business bank for life.
IN 1997, Bank-On-It, a comprehensive PC-based business banking product,
previewed in 1996, was delivered to the marketplace. The product itself is
composed of balance and statement reporting, reconciliation, transaction, and
wire transfer modules. Depending on the modules purchased, customers can
access account information, manage funds, process ACH and other transactions,
and send e-mail to Bancorp quickly and conveniently from their own computer.
From the smallest business partnerships to large, multi-facility entities, the
time Bank-On-It can save personnel in account management tasks is immediately
appreciated. And, for those with financial management capacity, constant
access to account information can pay off in generating more profitable uses
of capital.
As the largest community bank based in Central Maryland, F&M Bancorp has the
credit resources, delivery channels, and professional expertise businesses
need. In 1997, Bancorp introduced Business Advantage, a pre-approved credit
line that gives small business the ability to write themselves a loan up to
$50,000. The Bank-at-Work program, delivered by Express Bank, offers
businesses an excellent employee benefit-on-site payroll check deposit and
transaction services. Experienced Bancorp representatives provide local
decision-making and unparalleled service to help customers strengthen their
financial management capabilities. And, additional commercial calling officers
provided greater penetration in the Montgomery and Washington County markets
in 1997.
1998-2000. With most of Bancorp's market-driven products now in place, its
next emphasis is on outreach. Bancorp is introducing a quarterly newsletter
that provides its business customers with solutions to financial management
problems, including articles on improving business performance. An aggressive
image advertising campaign will reach out to new prospects, while new internal
software for business development will help Bancorp efficiently follow through
on branch-based sales and service initiatives. All of these efforts are
intended to demonstrate to customers that each service is more than a single,
isolated offering. It's part of a whole system of market-tailored services
that link F&M Bancorp to the business of its commercial customers.
The Bank is developing relationships with businesses by HELPING them make
money and MANAGE MONEY, even if they never need a loan.
Bringing the bank to the business, with on-site payroll and transaction
services, provides Bancorp's commercial business customers with exceptional
convenience unrivaled by the competition.
<TABLE>
<CAPTION>
COMMERCIAL AND INDUSTRIAL LOANS
(Dollars in millions)
<S> <C> <C> <C> <C> <C>
$80
70
60
50
40
30
20
10
0 1993 1994 1995 1996 1997
</TABLE>
<PAGE>
BUSINESS
[PHOTO - adult female professional at work desk]
Businesses perceive F&M Bancorp as a local community bank with big bank
capabilities. And, it is.
<TABLE>
<CAPTION>
SELECTED FINANCIAL INFORMATION
F&M Bancorp and Subsidiaries
Years ended December 31,
----------------------------------------------
(Dollars in thousands,
except per share
amounts) 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
OPERATING INCOME
Interest income $ 75,527 $ 70,866 $ 70,108 $ 61,592 $ 60,788
Interest expense 34,180 32,218 32,336 24,841 25,087
- --------------------------------------------------------------------------
Net interest income 41,347 38,648 37,772 36,751 35,701
Provision for credit
losses 1,800 1,522 1,651 1,188 3,217
- --------------------------------------------------------------------------
Net interest income after
provision for credit
losses 39,547 37,126 36,121 35,563 32,484
Net gains (losses)
on sales of securities (11) (330) (256) 19 201
Other noninterest income 13,441 11,100 12,418 8,964 8,838
Noninterest expense 35,697 36,512 35,176 31,601 29,937
- ---------------------------------------------------------------------------
Income before provision for
income taxes, loss from
discontinued operation and
cumulative effect of
accounting change 17,280 11,384 13,107 12,945 11,586
Provision for income taxes 5,121 2,773 2,380 3,297 3,049
- --------------------------------------------------------------------------
Income before loss from
discontinued operation and
cumulative effect of
accounting change 12,159 8,611 10,727 9,648 8,537
Loss from discontinued
operation - - - - (72)
Cumulative effect of
accounting change - - - - 245
- --------------------------------------------------------------------------
Net income $ 12,159 $ 8,611 $ 10,727 $ 9,648 $ 8,710
- --------------------------------------------------------------------------
PER SHARE DATA-BASIC
Income before provision
for income taxes, loss
from discontinued
operation, and cumulative
effect of accounting
change $ 2.03 $ 1.45 $ 1.81 $ 1.63 $ 1.52
Loss from discontinued
operation - - - - (0.01)
Cumulative effect of
accounting change - - - - 0.04
- --------------------------------------------------------------------------
Net income $ 2.03 $ 1.45 $ 1.81 $ 1.63 $ 1.55
- --------------------------------------------------------------------------
PER SHARE DATA-DILUTED
Income before
provision for income
taxes, loss from discontinued
operation, and cumulative
effect of accounting
change $ 2.01 $ 1.44 $ 1.79 $ 1.61 $ 1.51
Loss from discontinued
operation - - - - (0.01)
Cumulative effect of
accounting change - - - - 0.04
- --------------------------------------------------------------------------
Net income $ 2.01 $ 1.44 $ 1.79 $ 1.61 $ 1.54
- --------------------------------------------------------------------------
Cash dividends paid 0.86 0.61 0.60 0.53 0.53
Book value 16.93 15.67 14.87 12.90 12.80
KEY RATIOS
Return on average assets 1.19% 0.89% 1.16% 1.12% 1.05%
Return on average equity 12.64 9.48 13.04 12.72 12.43
Average shareholders' equity
to total average assets 9.42 9.42 8.89 8.81 8.47
SELECTED AVERAGE BALANCES
Total average assets $1,020,480 $964,865 $ 925,815 $860,336 $827,431
Total average equity 96,174 90,858 82,287 75,827 70,098
AT PERIOD END
Loans, net of
unearned income $ 724,134 $ 670,269$ 626,005 $622,194 $546,447
Total assets 1,044,388 1,005,851 954,469 910,376 841,452
Total deposits 821,967 794,750 784,625 753,307 696,945
Total shareholders' equity101,674 93,460 88,401 76,582 75,744
DIVIDEND PAYOUT RATIO(1) 42.36% 42.07% 33.15% 32.52 34.19%
ASSET QUALITY
Nonperforming loans/loans 0.75% 1.09% 1.11% 2.93% 4.03%
Nonperforming assets/
loans + OREO 1.43 2.17 2.58 4.47 5.93
Allowance times
nonperforming loans 1.77x 1.32x 1.41x 0.63x 0.55x
(1) Reflects the percentage relationship of cash dividends paid to basic
earnings per share.
</TABLE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
F&M Bancorp and Subsidiaries
The following discussion provides an overview of the financial condition and
results of operations of F&M Bancorp and Subsidiaries ("Bancorp") for the
three years in the period ended December 31, 1997, and is intended to assist
readers in their analysis and understanding of the accompanying consolidated
financial statements and notes thereto.
Bancorp's acquisition of Home Federal Corporation and its wholly owned
subsidiary, Home Federal Savings Bank ("Home Federal"), was completed in
November 1996 under the pooling-of-interests method of accounting.
Accordingly, the consolidated financial statements, notes, and historical
financial data contained herein were restated in 1996 to include the
financial information for Home Federal for all prior periods presented.
Refer to Note 2, Notes to Consolidated Financial Statements, for further
information regarding acquisition activity within the periods reported.
All per share amounts in this report have been restated to give effect to
a 5% stock dividend paid to shareholders of Bancorp in August 1997.
OVERVIEW
Net income for 1997 increased 41% to $12.2 million, or $2.03 basic earnings
per share, from $8.6 million, or $1.45 basic earnings per share, for 1996,
largely reflecting the influence of special items of an unusual or
nonrecurring nature recognized in the periods compared and as set forth in
Table 1. Excluding special items in both years, net income for 1997
increased 9% to $11.9 million, or $1.99 basic earnings per share, from
$10.9 million, $1.83 basic earnings per share, for 1996.
Special Items - 1997.
Special items for 1997, as shown in Table 1 on an after-tax basis, included
a $552 thousand gain on the sale of the credit card merchant processing
business, or $0.09 per share. Recognizing the difficulty in achieving
sufficient scale economies over the near term, Bancorp elected to exit this
highly competitive line of business in favor of alternatives expected to
produce greater profitability over the long term.
Pursuant to the provisions of the Plan and Agreement to Merge with
Home Federal, compensatory payments were recognized in 1997 for two
executive officers who elected to resign during the year. Such
compensation expense totaled $294 thousand after tax, or $0.05 per share,
and will be paid to the recipients over a 24-month period.
Special Items - 1996.
Special items for 1996 are shown in Table 1 on an after-tax basis.
Restructuring charges pertaining to the acquisition of Home Federal
amounted to $545 thousand, or $0.10 per share; one-time insurance premium
assessments on deposits insured by the Savings Association Insurance Fund
("SAIF") totaled $724 thousand, or $0.12 per share; securities losses,
including losses related to the restructuring of Home Federal's portfolio
to more closely align it with Bancorp's investment policies, amounted to
$203 thousand, or $0.03 per share. Other merger-related expenses of
$831 thousand, or $0.13 per share, were composed of credit loss and real
estate owned provisions made by Home Federal in recognition of Bancorp's
centralized credit policy, and professional fees incurred in the planning
and execution of the Home Federal acquisition.
<TABLE>
<CAPTION>
TABLE 1. NET INCOME EXCLUDING SPECIAL ITEMS
Year Ended December 31,
---------------------------------------------------
1997 EPS(1) 1996 EPS(1) 1995 EPS(1)
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net income as reported $12,159 $2.03 $8,611 $1.45 $10,727 $1.81
Adjustments
(net of income taxes):
Core deposit
intangible write-off 493 0.09
Special provision for
credit losses 368 0.06
Gain on sale of
credit card portfolio (1,774) (0.30)
Gain on sale of
merchant services (552) (0.09)
Reduction of valuation
allowance-FASB 109 (1,476) (0.25)
Restructuring charges 545 0.10
SAIF assessment 724 0.12
Securities losses 203 0.03 157 0.03
Other merger-related
expenses 294 0.05 831 0.13 196 0.03
- ----------------------------------------------------------------------------
Net income excluding
special items $11,901 $1.99 $10,914 $1.83 $ 8,691 $1.47
- ----------------------------------------------------------------------------
(1) Basic earnings per share
</TABLE>
<TABLE>
<CAPTION>
TABLE 2. AVERAGE BALANCES, INTEREST, AND AVERAGE RATES (CONSOLIDATED)
1997 1996
--------------------------------------------------------
(Dollars in Average Average Average Average
thousands) Balances Interest Rate Balances Interest Rate
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning
Assets
Short-term funds $ 7,567 $ 332 4.39% $ 12,268 $ 679 5.53%
- ----------------------------------------------------------------------------
Investment
securities:(1)
Taxable 171,079 11,028 6.45 166,009 10,216 6.15
Tax-exempt(2) 69,481 5,129 7.38 71,876 5,475 7.62
- ----------------------------------------------------------------------------
Total investment
securities(2) 240,560 16,157 6.72 237,885 15,691 6.60
- ----------------------------------------------------------------------------
Loans, net, including
loans held for
sale(2) 695,142 60,910 8.76 640,672 56,516 8.82
- ----------------------------------------------------------------------------
Total interest-
earning assets
and average
yield(2) 943,269 77,399 8.21 890,825 72,886 8.18
- ---------------------------------------------------------------------------
Total noninterest
-earning assets 77,211 74,040
- ---------------------------------------------------------------------------
Total assets $1,020,480 $964,865
- ---------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing Liabilities
Interest-bearing deposits:
Checking $ 106,002 $ 2,084 1.97% $ 95,483 $ 1,965 2.06%
Savings 113,858 2,870 2.52 119,595 3,111 2.61
Money market
accounts 114,753 3,512 3.06 114,067 3,471 3.04
Certificates
of deposit 361,931 19,559 5.40 352,318 19,405 5.51
- ----------------------------------------------------------------------------
Total interest
-bearing
deposits 696,544 28,025 4.02 681,463 27,952 4.10
- ----------------------------------------------------------------------------
Short-term borrowings:
Federal funds purchased
and securities sold under
agreements to
repurchase 43,640 2,236 5.12 36,838 1,813 4.92
Other short-term
borrowings 52,092 3,065 5.88 30,402 1,832 6.03
- ----------------------------------------------------------------------------
Total short-term
borrowings 95,732 5,301 5.54 67,240 3,645 5.42
Long-term
borrowings 15,198 854 5.62 11,282 621 5.50
- ----------------------------------------------------------------------------
Total borrowed
funds 110,930 6,155 5.55 78,522 4,266 5.43
- ----------------------------------------------------------------------------
Total interest-
bearing
liabilities
and average
rate incurred 807,474 34,180 4.23 759,985 32,218 4.24
- ----------------------------------------------------------------------------
Noninterest-bearing Liabilities
Demand deposits 105,372 103,531
Other liabilities 11,460 10,491
- ----------------------------------------------------------------------------
Total noninterest-
bearing liabilities 116,832 114,022
- ----------------------------------------------------------------------------
Total liabilities 924,306 874,007
- ----------------------------------------------------------------------------
Shareholders' equity 96,174 90,858
- ----------------------------------------------------------------------------
Total liabilities
and shareholders'
equity $1,020,480 $964,865
- ----------------------------------------------------------------------------
Net interest income $43,219 $40,668
- ----------------------------------------------------------------------------
Net interest spread(3) 3.98% 3.94%
- ----------------------------------------------------------------------------
Net interest margin(4) 4.58% 4.57%
</TABLE>
<TABLE>
<CAPTION>
TABLE 2. AVERAGE BALANCES, INTEREST, AND AVERAGE RATES (CONSOLIDATED)
1995
-----------------------------
(Dollars in Average Average
thousands) Balances Interest Rate
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
ASSETS
Interest- earning
Assets
Short-term funds $ 7,443 $ 546 7.34%
- ----------------------------------------------------------------------------
Investment
securities:(1)
Taxable 146,409 8,501 5.81
Tax-exempt(2) 68,836 5,408 7.86
- ----------------------------------------------------------------------------
Total investment
securities(2) 215,245 13,909 6.46
- ----------------------------------------------------------------------------
Loans, net, including
loans held for
sale(2) 636,831 57,674 9.06
- ----------------------------------------------------------------------------
Total interest-
earning assets
and average
yield(2) 859,519 72,129 8.39
- ----------------------------------------------------------------------------
Total noninterest
-earning assets 66,296
- ----------------------------------------------------------------------------
Total assets $ 925,815
- ----------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing Liabilities
Interest-bearing deposits:
Checking $ 92,117 $ 2,118 2.30%
Savings 121,894 3,481 2.86
Money market
accounts 116,460 3,881 3.33
Certificates
of deposit 332,828 18,390 5.53
- ----------------------------------------------------------------------------
Total interest
-bearing
deposits 663,299 27,870 4.20
- ----------------------------------------------------------------------------
Short-term borrowings:
Federal funds purchased
and securities sold under
agreements to
repurchase 38,500 2,215 5.75
Other short-term
borrowings 30,234 1,872 6.19
- ---------------------------------------------------------------------------
Total short-term
borrowings 68,734 4,087 5.95
Long-term
borrowings 5,406 379 7.01
- ---------------------------------------------------------------------------
Total borrowed
funds 74,140 4,466 6.02
- ---------------------------------------------------------------------------
Total interest-
bearing
liabilities
and average
rate incurred 737,439 32,336 4.38
- ---------------------------------------------------------------------------
Noninterest-bearing Liabilities
Demand deposits 96,684
Other liabilities 9,405
- ---------------------------------------------------------------------------
Total noninterest-
bearing liabilities 106,089
- ---------------------------------------------------------------------------
Total liabilities 843,528
- ---------------------------------------------------------------------------
Shareholders' equity 82,287
- ---------------------------------------------------------------------------
Total liabilities
and shareholders'
equity $ 925,815
- ---------------------------------------------------------------------------
Net interest income $39,793
- ---------------------------------------------------------------------------
Net interest
spread(3) 4.01%
- ---------------------------------------------------------------------------
Net interest
margin(4) 4.63%
(1) Average Balances and the related average rate are based on amortized
cost.
(2) Interest and yields on obligations of states and political
subdivisions and tax-exempt loans are computed on a taxable equivalent
basis using the U.S. statutory tax rate of 35 percent. In addition, loan
fee income is included in the interest income calculations, and nonaccrual
loans are included in the average loan base upon which the interest rate
earned on loans is calculated.
(3) Net interest spread is the difference between the ratios (expressed
as percentages) of taxable-equivalent interest income to earning assets
and of interest expense to interest-bearing liabilities.
(4) Net interest margin is the difference between the ratios (expressed
as percentages) of taxable-equivalent interest income to earning assets
and of interest expense to earning assets.
</TABLE>
RESULTS OF OPERATIONS
Net Interest Income.
Approximately 75% of Bancorp's gross revenue is derived from net interest
income, which is principally the sum of interest and fees on loans plus
interest and discount on investment securities, less interest paid on
deposits and borrowings. Although interest-bearing deposits continued to
represent Bancorp's principal funding source, factors largely related to
intense competition for bank deposits throughout the financial services
industry have caused banks to seek dependable, relatively low-cost
alternative sources of funds. Bancorp frequently supplements its funding
with Federal Home Loan Bank ("FHLB") borrowings, which have proven to
be reliable and cost-effective across all maturities selected. Other, more
traditional, funding sources include repurchase agreements and federal funds
purchased.
Net interest income is influenced by a number of external economic and
competitive factors such as Federal Reserve Board monetary policy and its
influence on market interest rates; loan demand and competition from nonbank
lenders; and competition with investment managers, brokerage firms and
investment bankers for consumer and commercial business assets that might
otherwise be deposited in banks. Internal factors impacting levels and
changes in net interest income are attributed to Bancorp's interest rate
risk management policies, which address a variety of issues including loan
and deposit pricing practices, funding alternatives, and maturity schedules.
Bancorp has not made use of derivatives, interest rate hedges or similar
instruments or transactions to manage interest rate risk.
Table 2 displays average balances, interest, and interest rates for each
major category of interest-earning assets and interest-bearing liabilities
over a three-year period. Total interest income, expressed on a taxable
equivalent basis as if every dollar of interest income was fully taxed at
the same rate, increased 6% to $77.4 million for 1997 from $72.9 million for
1996. The increase was attributed largely to a 9% increase in average loans,
which resulted in an improvement in the yield on total average earning
assets to 8.21% for 1997, from 8.18% for 1996.
Likewise, total interest expense also increased 6%, to $34.2 million for
1997 from $32.2 million for 1996, rising symmetrically with the rate of
increase in total interest income and resulting in a relatively stable net
interest margin for the year. Although the average cost of interest-bearing
liabilities decreased to 4.23% for 1997 from 4.24% in 1996, insufficient
deposit growth to support loan demand required supplemental borrowings,
primarily from the FHLB, at rates of interest approximately 150 basis
points over the average cost of deposits. Average interest-bearing deposits
increased by $15.1 million in 1997, up 2% from 1996,while average borrowings
increased by $32.4 million, or 41% above 1996. The average cost of
borrowings increased to 5.55% for 1997 from 5.43% for 1996.
The net interest margin ("margin"), which is the ratio of
taxable-equivalent net interest income to average earning assets, has been
under considerable pressure throughout the banking industry. Many banks were
experiencing declining margins in 1997 owing principally to slower deposit
growth, aggressive loan pricing and a flatter yield curve. However,
Bancorp's success in managing a stable margin, at 4.58% for 1997 versus
4.57% for 1996, was attributed largely to rational, relationship-based loan
pricing which acknowledged our overall cost of funds, and the introduction
of new deposit products and pricing methods that contributed to the
reduction in the overall cost of deposits.
Table 3, Analysis of Changes in Net Interest Income, quantifies the
change in net interest income for the periods presented and, as discussed
above, shows how much was attributed to volume factors and how much was
influenced by rate movements. Bancorp endeavors to maintain a relatively
balanced position between interest-sensitive assets and interest-sensitive
liabilities without foregoing opportunities to benefit from relevant
interest rate conditions. Further information may be found on page 23,
Asset and Liability Management ("ALM"),Market Risk, and in Table 15, Effects
of Changes in Interest Rates on MVE.
Provision for Credit Losses.
Bancorp increased the provision for credit losses by 18%, to $1.8 million
for 1997 from $1.5 million for 1996, largely because of an 8% increase in
total loans and in consideration of an increase in net charge-offs. Similar
to trends across the industry, Bancorp's net consumer loan charge-offs
increased 20% to $1.9 million for 1997 from $1.6 million for 1996. However,
the ratio of total net loan charge-offs to total average loans outstanding
was stable at 0.27% for 1997 compared with 0.26% for 1996, remaining at
their lowest annual levels of the past six years.
Noninterest Income.
Noninterest income increased 25% in 1997, to $13.4 million from $10.8
million in 1996. Included in the results for 1997 is a $900 thousand pre-tax
gain on the sale of the credit card merchant processing business discussed
earlier. Excluding the gain and net losses on the sale of securities, the
underlying 13% growth rate in noninterest income was driven largely by a 44%
increase in trust income and investment management fees, to $2.6 million for
1997 from $1.8 million for 1996, including an unusually large estate
settlement fee realized in 1997. Trust assets under management reached
$383 million at December 31, 1997, a 25% increase from $306 million one year
earlier.
Service charges on deposit accounts increased 12% to $5.3 million
for 1997 from $4.7 million for 1996. The increase was related primarily to
service fee adjustments made early in 1997, but also included fees related
to new services and special promotions.
As shown in Note 11, Notes to Consolidated Financial Statements on page
38, other operating income included $1.3 million in bank card income for 1997,
22% below the $1.7 million for 1996. The decrease was related to the
mid-year 1997 sale of the credit card merchant processing business and
termination of revenue therefrom. Miscellaneous operating income increased
62% to $3.9 million for 1997 from $2.4 million for 1996 attributed
principally to the aforementioned gain and an increase in the cash surrender
value of corporate owned life insurance.
Bancorp recognizes the importance of continually developing new sources
of value-based fees and service charge income. This is accomplished through
the introduction and growth of new products and services and through engaging
in new lines of business that are not subject to the vagaries of interest
rates and financial market conditions.
[CAPTION]
<TABLE>
TABLE 3. ANALYSIS OF CHANGES IN NET INTEREST INCOME
Year ended December 31,
----------------------------------------------------------
1997 over 1996 1996 over 1995
---------------------- ------------------------------------
Increase Due to Change in(1) Increase Due to Change in(1)
-------------- -------------------
(In thousands)(Decrease) Volume Rates (Decrease) Volume Rates
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST INCOME
Interest and
fees on loans
(2)(3) $4,394 $4,773 $(379) $(1,158) $ 351 $(1,509)
Interest and
dividends on
investment
securities:
Taxable 812 318 494 1,715 1,197 518
Tax-exempt(4) (346) (179) (167) 67 235 (168)
Interest on
federal funds
sold (400) (526) 126 72 113 (41)
Interest-
bearing
deposits with
banks 53 124 (71) 61 200 (139)
- ----------------------------------------------------------------------------
Total 4,513 4,510 3 757 2,096 (1,339)
- ----------------------------------------------------------------------------
INTEREST EXPENSE
Interest on
deposits 73 610 (537) 82 1,021 (939)
Interest on
federal funds
purchased and
securities
sold under
agreements to
repurchase 423 346 77 (402) (93) (309)
Interest on
other short-term
borrowings 1,233 1,276 (43) (40) 8 (48)
Interest on
long-term
borrowings 233 220 13 242 339 (97)
- --------------------------------------------------------------------------
Total 1,962 2,452 (490) (118) 1,275 (1,393)
- --------------------------------------------------------------------------
Net interest
income $2,551 $2,058 $493 $875 $ 821 $ 54
(1) The change in interest due to both rate and volume has been allocated
to rate and volume changes in proportion to the relationship of the absolute
dollar amounts of the change in each.
(2) Included in the change in interest income are increased fees on loans
of $132,000 for the year ended December 31, 1997 over 1996 and decreased
fees on loans of $245,000 for the year ended December 31, 1996 over 1995.
(3) Tax-equivalent adjustments of $128,000 for 1997, $159,000 for 1996,
and $183,000 for 1995 are included in the calculation of rate changes for
interest and fees on loans.
(4) Tax-equivalent adjustments of $1,744,000 for 1997, $1,861,000 for
1996, and $1,838,000 for 1995 are included in the calculation of rate
changes for tax-exempt investment securities.
</TABLE>
Noninterest Expense.
Total noninterest expense, sometimes referred to as overhead expense,
decreased 2% to $35.7 million for 1997 from $36.5 million for 1996.
Excluding special items of an unusual or nonrecurring nature as disclosed
in Table 1 and discussed below, noninterest expense increased 5% in 1997.
Salaries increased 11% to $15.8 million for 1997 from $14.2 million for
1996. Excluding $454 thousand for 1997 and $394 thousand for 1996, in
pre-tax compensation expense recognized pursuant to the provisions of an
agreement with Home Federal, salaries increased 11% in 1997 attributed to
merit increases, new hires, promotions, and performance- based incentive and
bonus payments.
Totaling $3.5 million for 1997, pension and other employee benefits
increased less than 1% over 1996 reflecting cost containment initiatives and
favorable experience in medical and health programs.
Occupancy and equipment expense increased 7% to $6.1 million for 1997, from
$5.6 million for 1996, primarily associated with branch and corporate
headquarters expansion and investments in computer hardware and software
technology.
Other operating expense declined 21% to $10.4 million for 1997
from $13.2 million for 1996. However, after excluding $2.4 million in
special items related largely to the acquisition of Home Federal and special
assessments by the Savings Association Insurance Fund in 1996, other
operating expense decreased 3% in 1997 related principally to the sale of
the credit card merchant processing business and termination of associated
expense.
Income Taxes.
Income tax expense increased 85% to $5.1 million for 1997, from $2.8 million
for 1996, largely related to a 52% increase in income before taxes. Tax
expense varies with changes in the level of income before taxes, the amount
of tax-exempt income, and the relationship of these changes to each other.
Also, the amount of income tax expense differs from the amount computed at
statutory rates primarily because of the presence of tax-exempt income on
certain loans and investment securities.
The effective tax rate, which is the provision for income taxes divided
by income before taxes, was 29.6% for 1997 compared with 24.4% for 1996. The
ratio of tax-exempt income on investment securities to income before taxes
declined in 1997 to 19.6% from 31.8% in 1996, thereby accounting for most of
the increase in the effective tax rate.
FINANCIAL CONDITION
SOURCES AND USES OF FUNDS
Bancorp's financial condition can be evaluated by analyzing its sources and
uses of funds. The comparison of average balances in Table 4 shows an
increase in average earning assets ("Uses") for 1997 of $52.4 million, or
6% above 1996, and indicates how that increase was funded ("Sources").
Investment Securities.
The investment securities portfolio is structured and managed to meet
several important financial objectives:
* to maintain sufficient balance sheet liquidity to meet any reasonable
decline in deposits and any anticipated increase in loans;
* to insure safety of principal and interest by investing only in securities
permitted by regulation;
* to maximize income consistent with liquidity and safety requirements;
* to maintain a source of assets which can be pledged as collateral for
federal, state and municipal deposits.
Bancorp's investment securities portfolio is held in two categories for
accounting and reporting purposes: (1) "available-for-sale" ("AFS")
securities are those which Bancorp intends to hold for an indefinite period
of time, but not necessarily to maturity, and (2) "held-to-maturity" ("HTM")
securities are those that Bancorp has both the positive intent and ability
to hold to maturity. These determinations are made when the securities are
purchased and are integral to Bancorp's asset/liability management ("ALM")
policies. Investment securities accounting policy is set forth in Note 1,
Notes to Consolidated Financial Statements.
Short-term uses of funds, shown in Table 4 as federal funds sold and
interest-bearing deposits with banks, are principally a function of the
management of Bancorp's daily cash and liquidity requirements. A decline in
daily average fed funds sold, for example, indicates a reduction in the
average daily amount of "excess" funds not otherwise needed for loans or
investments.
<TABLE>
<CAPTION>
TABLE 4. SOURCES AND USES OF FUNDS
1997 1996 1995
-------------------- --------------------- --------
(Dollars in Average Increase Average Increase Average
thousands) Balance (Decrease) % Balance (Decrease) % Balance
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
FUNDING USES
Federal funds
sold $ 691 $ (7,463)(91.5%) $ 8,154 $ 1,981 32.1% $ 6,173
Interest-bearing
deposits with
banks 6,876 2,762 67.1 4,114 2,844 223.9 1,270
Taxable investment
securities 171,079 5,070 3.1 166,009 19,600 13.4 146,409
Tax-exempt
investment
securities 69,481 (2,395) (3.3) 71,876 3,040 4.4 68,836
Loans, net 695,142 54,470 8.5 640,672 3,841 0.6 636,831
- -----------------------------------------------------------------------------
Total uses $943,269 $52,444 5.9% $890,825 $31,306 3.6% $859,519
- -----------------------------------------------------------------------------
FUNDING SOURCES
Interest-bearing
checking $106,002 $10,519 11.0% $ 95,483 $ 3,366 3.7% $ 92,117
Savings 113,858 (5,737) (4.8) 119,595 (2,299) (1.9) 121,894
Money market
accounts 114,753 686 0.6 114,067 (2,393) (2.1) 116,460
Certificates
of deposit 361,931 9,613 2.7 352,318 19,490 5.9 332,828
Short-term
borrowings 95,732 28,492 42.4 67,240 (1,494) (2.2) 68,734
Long-term
borrowings 15,198 3,916 34.7 11,282 5,876 108.7 5,406
Noninterest-
bearing funds
(net) (1) 135,795 4,955 3.8 130,840 8,760 7.2 122,080
- -----------------------------------------------------------------------------
Total sources $943,269 $52,444 5.9% $890,825 $31,306 3.6% $859,519
- -----------------------------------------------------------------------------
(1) Noninterest-bearing liabilities and shareholders' equity less
noninterest-earning assets.
</TABLE>
<TABLE>
<CAPTION>
TABLE 5. INVESTMENT PORTFOLIO DISTRIBUTION - AMORTIZED COST(1)
December 31,
-------------------------------------
(In thousands) 1997 1996 1995
- -----------------------------------------------------------------------------
<S> <C> <C> <C>
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies $ 84,907 $ 81,832 $ 64,836
Obligations of states and political
subdivisions 69,100 70,881 72,185
Mortgage-backed securities 63,735 87,260 80,895
Other securities 12,698 6,036 7,212
- -----------------------------------------------------------------------------
Total $230,440 $246,009 $225,128
- -----------------------------------------------------------------------------
(1) Reflects the cost of securities purchased, adjusted for amortization of
premiums and accretion of discounts, which differs from the amounts
reflected in the consolidated balance sheets due to fair value adjustments
made in accordance with Financial Accounting Standards Board Statement
No. 115.
</TABLE>
Table 5, Investment Portfolio Distribution, displays the year-end
amortized cost of the investment securities portfolio. The most significant
change is evidenced by a 27% reduction in mortgage-backed securities which
have a tendency to amortize more quickly in a declining or low-rate
environment.
Average total investment securities, including both taxable and tax-
exempt securities, increased by just 1% in 1997 as most of Bancorp's available
funding sources were used to satisfy loan demand. As shown in Table 6,
Investment Portfolio Analysis, the amortized cost of AFS securities totaled
$135.5 million at December 31, 1997, and represented 13% of total year-end
assets compared with $146.5 million and 15%, respectively, at
December 31, 1996. AFS maturities provided a liquid source of funds to help
meet loan demand in 1997.
HTM securities, also listed in Table 6 at amortized cost, amounted to
$94.9 million at December 31, 1997, and represented 9% of total year-end
assets compared with $99.5 million and 10%,respectively, at December 31, 1996.
Although still within Bancorp's ALM policy limits, the decline in the
ratio of total investment securities to total assets in 1997 was symptomatic
of the effects of slowing deposit growth at Bancorp and across the industry.
Table 6 reveals some of the portfolio's liquidity characteristics
inasmuch as 59% of the portfolio was AFS, compared with 60% at the end of
1996, and 10% of the total portfolio will mature in 1998.
In management's opinion, no portfolio securities present any material
risk characteristics at December 31, 1997. All obligations of states and
political subdivisions were rated A or higher by either Moody's Investors
Service or Standard and Poors, and approximately 77% were rated AAA at
December 31, 1997.
<TABLE>
<CAPTION>
TABLE 6. INVESTMENT PORTFOLIO ANALYSIS - DECEMBER 31, 1997
Maturing in:
------------------------------------------------------------------
After one After five
One year through through
(Dollars or less five years ten years
in thousands) Amount Yield Amount Yield Amount Yield
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Available-
for-sale:(1)
U.S. Treasury
securities and
obligations
of U.S.
government
corporations
and agencies $14,570 5.56% $27,331 6.19% $38,039 6.82%
Obligations
of states
and
political
subdivisions(2) 1,021 8.00 - - - -
Mortgage-
backed
securities(3) 3,407 6.14 34,095 6.64 2,975 6.70
Equity
Securities - - - - - -
- -----------------------------------------------------------------------------
Total
available-
for-sale 18,998 5.80 61,426 6.44 41,014 6.81
- -----------------------------------------------------------------------------
Held-to-
maturity:
U.S. Treasury
securities
and obligations
of U.S. government
corporations
and agencies - - 4,967 6.64 - -
Obligations
of states
and political
subdivisions(2) 4,073 7.85 33,293 7.36 30,607 7.13
Mortgage-
backed
securities(3) - - - - 21,894 7.42
- -----------------------------------------------------------------------------
Total held-to-
maturity 4,073 7.85 38,260 7.27 52,501 7.25
- -----------------------------------------------------------------------------
Total
investment
securities $23,07 16.16% $99,686 6.76% $93,515 7.06%
- -----------------------------------------------------------------------------
TABLE 6. INVESTMENT PORTFOLIO ANALYSIS - DECEMBER 31, 1997
Maturing in:
------------------------------------------------------------------
(Dollars After ten years Total
in thousands) Amount Yield Amount Yield
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Available-
for-sale:(1)
U.S. Treasury
securities and
obligations
of U.S.
government
corporations
and agencies $ - -% $79,940 6.37%
Obligations
of states
and
political
subdivisions(2) - - 1,021 8.00
Mortgage-backed
securities(3) 1,364 6.67 41,841 6.61
Equity
securities - - 12,698 6.62
- -----------------------------------------------------------------------------
Total
available-
for-sale 1,364 6.67 135,500 6.48
- -----------------------------------------------------------------------------
Held-to-
maturity:
U.S. Treasury
securities
and obligations
of U.S. government
corporations
and agencies - - 4,967 6.64
Obligations
of states
and political
subdivisions(2) 106 6.50 68,079 7.28
Mortgage-
backed
securities(3) - - 21,894 7.42
- ----------------------------------------------------------------------------
Total held
-to-maturity 106 6.50 94,940 7.28
- ----------------------------------------------------------------------------
Total
investment
securities $1,470 6.66% $230,440 6.81%
- ----------------------------------------------------------------------------
(1) Reflects the cost of securities purchased, adjusted for amortization
of premiums and accretion of discounts, which differs from the amounts
reflected in the 1997 consolidated balance sheet due to fair value
adjustments made in accordance with Financial Accounting Standards Board
Statement No. 115.
(2) Yields are presented on a fully taxable equivalent basis using the
federal statutory rate of 35%.
(3) Estimated prepayment assumptions have been incorporated into the
maturities for mortgage-backed securities based upon historical trends.
</TABLE>
Loans.
As presented in Table 4, average loans increased nearly 9% in 1997, and
growth was achieved across all major portfolios as can be seen in Table 7,
Loan Portfolio Mix. Although over 63% of the loan portfolio was composed of
loans to individuals when residential mortgages and consumer loans are taken
together, commercial and industrial loans have grown at a compound annual
rate of nearly 19% over the past five years constituting 11% of the total
loan portfolio at December 31, 1997. This change in loan mix reflects a
concerted effort to develop new commercial business relationships in
Bancorp's primary market and to improve portfolio yields.
The ratio of loans to deposits is not only a measure of liquidity, but a
gauge of the extent to which a financial institution "reinvests", or lends,
back into the community it serves. Bancorp's loans-to-deposits ratio
increased steadily to 88% at December 31, 1997 from 84% at the end of 1996.
As shown in Table 11, alternative sources of loanable funds include a
dependable variety of term borrowings available through the FHLB and other
financial institutions.
Table 8, Loan Maturities and Interest Sensitivity, shows that nearly 50%
of the loans displayed are due and payable within one year from
December 31, 1997.
Management believes that its underwriting standards are conservative and
consistently applied. Although geographically limited to its primary market,
which has proven to be economically vibrant and stable over the years,
Bancorp's credit risk is well diversified as to loan type and average loan
size.
<TABLE>
<CAPTION>
TABLE 7. LOAN PORTFOLIO MIX
December 31,
----------------------------------------------------------------
1997 1996 1995
(Dollars ----------------------------------------------------------------
in thousands) Amount % Amount % Amount %
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Real estate:
Construction
and land
development $ 30,621 4.2% $ 29,571 4.4% $ 33,427 5.3%
Secured by
farmland 5,970 0.8 6,864 1.0 6,212 1.0
Residential
mortgage 185,798 25.7 183,035 27.4 181,781 29.1
Other mortgage 146,197 20.2 129,307 19.3 118,289 18.9
Agricultural 795 0.1 977 0.1 1,493 0.2
Commercial and
industrial 79,984 11.0 62,288 9.3 57,051 9.1
Consumer 271,721 37.6 253,455 37.8 222,137 35.6
Other loans 3,048 0.4 4,772 0.7 4,821 0.8
- -----------------------------------------------------------------------------
Total loans $724,134 100.0 $670,269 100.0% $626,004 100.0%
- -----------------------------------------------------------------------------
TABLE 7. LOAN PORTFOLIO MIX
December 31,
----------------------------------------------------------------
1994 1993
(Dollars ----------------------------------------------------------------
in thousands) Amount % Amount %
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Real estate:
Construction
and land
development $ 40,222 6.5% $ 42,550 7.8%
Secured by
farmland 6,132 1.0 5,832 1.1
Residential
mortgage 175,986 28.3 160,335 29.3
Other mortgage 123,988 19.9 112,629 20.5
Agricultural 1,815 0.3 1,810 0.3
Commercial and
industrial 46,177 7.4 34,836 6.4
Consumer 222,135 35.7 183,669 33.6
Other loans 5,738 0.9 5,545 1.0
- -----------------------------------------------------------------------------
Total loans $622,193 100.0% $547,206 100.0%
- -----------------------------------------------------------------------------
Loans are classified according to security, borrower or purpose.
</TABLE>
<TABLE>
<CAPTION>
TABLE 8. LOAN MATURITIES AND INTEREST SENSITIVITY (1)
AT DECEMBER 31, 1997
Maturing in:
------------------------------------------------------
In one year After one After five
(In thousands) or less(2) through five years years Total
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Real estate:
Construction and
land development $16,843 $13,778 $ - $ 30,621
Secured by farmland 1,359 4,371 240 5,970
Loans to farmers 137 658 - 795
Commercial and
industrial 39,363 33,321 7,300 79,984
Other loans 1,401 499 1,148 3,048
- ----------------------------------------------------------------------------
Total $59,103 $52,627 $8,688 $120,418
- ----------------------------------------------------------------------------
Rate sensitivity:
Predetermined rate $36,234 $4,175
Floating rate 16,393 4,513
- ----------------------------------------------------------------------------
Total $52,627 $8,688
- ----------------------------------------------------------------------------
(1) Excludes real estate mortgage loans and consumer loans.
(2) Includes demand loans, loans having no stated schedule of repayments and
no stated maturity, and overdrafts.
</TABLE>
<TABLE>
<CAPTION>
TABLE 9. AVERAGE DEPOSITS AND RATES PAID
1997 1996 1995
---------------- --------------- ----------------
(Dollars in Average Average Average
thousands) Balance Rate Balance Rate Balance Rate
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Noninterest-bearing
demand deposits $105,372 $103,531 $ 96,684
- ----------------------------------------------------------------------------
Interest-bearing
deposits:
Checking 106,002 1.97% 95,483 2.06% 92,117 2.30%
Money market 114,753 3.06 114,067 3.04 116,460 3.33
Savings 113,858 2.52 119,595 2.61 121,894 2.86
Time 361,931 5.40 352,318 5.51 332,828 5.53
- ----------------------------------------------------------------------------
Total interest-
bearing deposits 696,544 4.02 681,463 4.10 663,299 4.20
- ---------------------------------------------------------------------------
Total average
deposits $801,916 3.49% $784,994 3.56% $759,983 3.67%
- ----------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
TABLE 10. MATURITY OF TIME DEPOSITS OF $100,000 OR MORE
December 31,
-----------------------------------------
(In thousands) 1997 1996 1995
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Maturing in:
3 months or less $13,722 $15,090 $ 8,926
Over 3 months through 6 months 8,424 12,580 9,046
Over 6 months through 12 months 10,254 6,409 11,642
Over 12 months 9,743 9,137 5,370
- ----------------------------------------------------------------------------
Total $42,143 $43,216 $ 34,984
- ----------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
TABLE 11. SHORT-TERM BORROWINGS
Federal Funds Purchased and Securities Sold Under
Agreements to Repurchase
December 31,
-----------------------------------------
(Dollars in thousands) 1997 1996 1995
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
End of period outstanding $45,051 $41,876 $40,158
Highest month-end balance 59,095 43,011 46,478
Average balance 43,640 36,838 38,500
Average rate of interest:
At end of year 5.33% 5.03% 5.20%
During year 5.12 4.92 5.75
Short-term Advances from Federal Home Loan Bank
December 31,
-----------------------------------------
(Dollars in thousands) 1997 1996 1995
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
End of period outstanding $39,228 $55,728 $17,728
Highest month-end balance 58,728 55,728 34,000
Average balance 50,283 29,692 28,207
Average rate of interest:
At end of year 5.97% 5.91% 6.49%
During year 5.91 5.92 6.32
</TABLE>
Deposits.
Representing Bancorp's principal source of funds for loans and investments,
average total deposits as shown in Table 4 increased by little more than 2%
in 1997 reflecting disintermediation trends prevalent throughout the banking
industry. As consumers redirected deposit dollars into the stock and bond
markets, mutual funds, investment management accounts and the like, Bancorp
countered with the introduction of a money market deposit account with an
annual percentage yield tied directly to the 13-week U.S. Treasury Bill and
succeeded in attracting considerable new deposits and customers.
Table 9, Average Deposits and Rates Paid, presents a breakdown of total
deposits by principal category. As deposit interest rates were declining
over the periods shown, growth was slowing in all categories except savings,
which has been declining steadily over the past three years.
Table 10, Maturity of Time Deposits $100,000 and Over, reveals relatively
stable totals and a slight lengthening of maturities as depositors sought
higher yields.
Borrowings.
Table 4 shows a significant increase in short-term borrowings as a
dependable source of funds to supplement slow-growing deposits. As a member
of the Federal Home Loan Bank of Atlanta, Bancorp takes advantage of a wide
variety of attractively priced funding options supported by residential
mortgage lending and community reinvestment activities.
Table 11, Short-Term Borrowings, shows Bancorp's increasing dependence on
borrowings to supplement slowing deposit growth at marginally higher rates
of interest.
RISK ELEMENTS
Nonperforming Assets.
Table 12, Nonperforming Assets and Contractually Past-Due Loans, displays
five years of steadily declining nonperforming assets composed of nonaccrual
loans and other real estate owned. Totaling just 1.00% of total assets at
December 31, 1997, nonperforming assets have declined from 3.93% at
December 31, 1993, largely reflecting substantial progress by Home Federal
in resolving significant credit problems that were a legacy of the
late-1980s. Nonperforming loans have declined sharply to 0.75% of total
loans at December 31, 1997 from 4.03% at December 31, 1993.
Loans that were past due 90 days or more and not classified as
nonperforming totaled $538 thousand at December 31, 1997, a 76%
reduction from the end of 1996, representing just 0.07% of total loans at
year-end 1997 compared with 0.33% at year-end 1996. There is no direct
correlation between loans past due 90 days or more and nonperforming loans
or net loan losses.
Potential Problem Loans.
At December 31, 1997, Bancorp had $11.2 million in loans to borrowers who
were currently experiencing financial difficulties such that management had
reasonable concerns that such loans might become contractually past due or
be classified as a nonperforming asset. Potential problem loans totaled
$20.6 million at December 31, 1996.
These loans are subject to the same close attention and regular credit
reviews as extended to loans past due 90 days or more and nonperforming
assets.
<TABLE>
<CAPTION>
TABLE 12. NONPERFORMING ASSETS AND CONTRACTUALLY PAST DUE LOANS
December 31,
----------------------------------------------
(Dollars in thousands) 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Nonperforming assets:
Nonaccrual loans(1) $ 5,396 $ 7,281 $ 6,954 $18,246 $22,047
Restructured loans(2) - - - -
Other real estate owned
net of valuation allowance(3) 5,055 7,457 9,426 10,009 11,059
- -----------------------------------------------------------------------------
Total nonperforming assets $10,451 $14,738 $16,380 $28,255 $33,106
- -----------------------------------------------------------------------------
Loans past due 90 or more days
as to interest or $ 538 $ 2,220 $ 947 $ 443 $ 3,166
principal(4)
- -----------------------------------------------------------------------------
Nonperforming loans to
total loans 0.75% 1.09% 1.11% 2.93% 4.03%
Nonperforming assets to
total loans plus other
real estate owned 1.43% 2.17% 2.58% 4.47% 5.93%
Nonperforming assets to
total assets 1.00% 1.47% 1.72% 3.10% 3.93%
Allowance for credit losses
times nonperforming loans 1.77x 1.32x 1.41x 0.63x 0.55x
Allowance for credit losses
times nonperforming assets 0.91x 0.65x 0.60x 0.40x 0.37x
(1) Loans are placed on nonaccrual status when, in the opinion of
management, reasonable doubt exists as to the full, timely collection of
interest or principal or a specific loan meets the criteria for nonaccrual
status established by regulatory authorities. When a loan is placed on
nonaccrual status, all interest previously accrued but not collected is
reversed against current period interest income. No interest is taken into
income on nonaccrual loans unless received in cash or until such time the
borrower demonstrates sustained performance over a period of time in
accordance with contractual terms.
(2) Restructured loans are "troubled debt restructurings" as defined in
Financial Accounting Standards Board Statement No. 15. Nonaccrual loans and
past due loans are not included in this category. There were no material
troubled debt restructurings in any period presented.
(3) Other real estate owned includes: banking premises no longer used for
business purposes, real estate acquired by foreclosure (in partial or
complete satisfaction of debt) or otherwise surrendered by the borrower to
Bancorp's possession. Other real estate owned is recorded at the lower of
cost or fair value on the date of acquisition or transfer from loans.
Write-downs to fair value at the date of acquisition are charged to the
allowance for credit losses. Subsequent to transfer, these assets are
adjusted through a valuation allowance to the lower of the net carrying
value or the fair value (net of estimated selling expenses) based on
periodic appraisals.
(4) Nonaccrual loans are not included.
</TABLE>
<TABLE>
<CAPTION>
TABLE 13. ANALYSIS OF ALLOWANCE FOR CREDIT LOSSES
December 31,
----------------------------------------------
(In thousands) 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Average loans outstanding
less average
unearned income(1) $694,898 $640,148 $636,425 $570,029 $554,466
- -----------------------------------------------------------------------------
Allowance for credit losses
at beginning of year $ 9,639 $ 9,796 $ 11,434 $ 12,196 $ 11,766
- -----------------------------------------------------------------------------
Charge-offs:
Real estate 371 303 2,478 1,000 2,015
Commercial and industrial 24 10 70 35 162
Consumer 4,345 3,609 2,879 2,199 1,847
- -----------------------------------------------------------------------------
Total loans charged-off 4,740 3,922 5,427 3,234 4,024
- -----------------------------------------------------------------------------
Recoveries:
Real estate 416 247 429 68 335
Commercial and industrial 7 2 22 18 10
Consumer 2,408 1,994 1,687 1,198 892
- -----------------------------------------------------------------------------
Total recoveries 2,831 2,243 2,138 1,284 1,237
- -----------------------------------------------------------------------------
Net charge-offs 1,909 1,679 3,289 1,950 2,787
- -----------------------------------------------------------------------------
Additions charged to
operating expense 1,800 1,522 1,651 1,188 3,217
- -----------------------------------------------------------------------------
Allowance for credit losses
at end of year $ 9,530 $ 9,639 $ 9,796 $ 11,434 $12,196
- -----------------------------------------------------------------------------
Net charge-offs to average
loans outstanding 0.27% 0.26% 0.52% 0.34% 0.50%
Allowance for credit losses
to year-end loans 1.32% 1.44% 1.56% 1.84% 2.23%
- -----------------------------------------------------------------------------
(1) Excludes loans held for sale.
</TABLE>
<TABLE>
<CAPTION>
TABLE 14. ALLOCATION OF ALLOWANCE FOR CREDIT LOSSES
December 31,
--------------------------------------------------------
1997 1996 1995
--------------------------------------------------------
(Dollars in %Gross %Gross %Gross
thousands) Amount Loans (1) Amount Loans(1) Amount Loans (1)
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Real estate:
Construction and
land development $1,479 4.2% $1,821 4.4% $2,328 5.3%
Residential
Mortgage 600 25.7 510 27.4 508 29.1
Other mortgage 1,795 20.2 1,765 19.3 2,028 18.9
Commercial and
industrial 714 11.0 830 9.3 1,015 9.1
Consumer 4,084 37.6 2,757 37.8 2,385 35.6
Unallocated 858 1.3 1,956 1.8 1,532 2.0
- ------------------------------------------------------------------------------
Total allowance
for credit losses $9,530 100.0% $9,639 100.0% $9,796 100.0%
- ------------------------------------------------------------------------------
December 31,
--------------------------------------------------------
1994 1993
--------------------------------------------------------
(Dollars in %Gross %Gross
thousands) Amount Loans (1) Amount Loans(1)
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Real estate:
Construction and
land development $ 2,652 6.5% $3,797 7.7%
Residential mortgage 996 28.3 2,282 29.7
Other mortgage 3,170 19.9 2,503 20.4
Commercial and
Industrial 1,379 7.4 908 6.3
Consumer 2,612 35.7 1,984 33.4
Unallocated 625 2.2 722 2.5
- -----------------------------------------------------------------------------
Total allowance
for credit losses $11,434 100.0% $12,196 100.0%
- -----------------------------------------------------------------------------
(1) Reflects the percentage of loans in each category to total loans.
</TABLE>
Allowance for Credit Losses.
Provisions are made to the allowance for credit losses in periodic amounts
determined by management as necessary to absorb possible future loan losses.
Bancorp's policy regarding the maintenance of an adequate allowance is set
forth in Note 1, Notes to Consolidated Financial Statements, on page 31.
Table 13, Analysis of Allowance for Credit Losses, shows a five-year
history of activity. The general decline in the period-end allowance over
the past five years was principally attributed to a significant reduction
both in the amount of nonperforming loans and net loan losses, the latter
having stabilized at 0.27% and 0.26% at December 31, 1997 and 1996,
respectively. Two trends are most noticeable: (1) net real estate loan
charge-offs have declined substantially over the period, with net recoveries
resulting in 1997, and (2) net consumer loan losses have increased in line
with national trends. Net consumer loan charge-offs amounted to 0.71% of
average consumer loans for 1997 compared with 0.67% for 1996.
At December 31, 1997, $3.8 million of loans were specifically classified
as impaired and were included in nonaccrual loans in Table 12. Such loans were
assigned a specific allowance for credit losses totaling $732 thousand. The
corresponding amounts of impaired loans and related allowance at
December 31, 1996 were $6.1 million and $964 thousand, respectively.
Table 14, Allocation of Allowance for Credit Losses, discloses
management's allocation of the allowance to various loan categories. As they
are estimates, this allocation is not intended to limit the amount of the
allowance available to absorb losses from any type of loan and should not be
viewed as an indicator of the specific amount or specific loan categories
in which future charge-offs may ultimately occur.
While management believes the allowance for credit losses is adequate at
December 31, 1997, the estimate of losses and related allowance may change
in the near term due to economic and other uncertainties inherent in the
estimation process.
Year 2000 Computer Readiness.
In July 1997, management initiated an enterprise-wide Master Assurance Plan
("Plan") to prepare Bancorp's computer systems and applications for the Year
2000. Approved and monitored by Bancorp's Board of Directors and overseen by
senior management, the Plan is administered by a task team representing
every relevant area of the company and sets forth a detailed time line that
is intended to address all critical issues in a timely and prudent manner.
As this report was being prepared for printing, major issues had been
identified and documented, compliance testing procedures had been
established for internal and external systems, initial testing was under
way, and the task team was conducting due-diligence inquiries of principal
outside vendors and service providers concerning Year 2000 readiness.
Bancorp's credit review and administration procedures were being modified to
include a full assessment of year 2000 compliance issues pertaining to all
major borrowers. Bancorp's Plan was on schedule and calls for testing of
internal and external systems to be substantially complete by
December 31, 1998. Contingency plans were being developed for vendors who
service mission-critical applications and have indicated they may not be
Year 2000 compliant within an acceptable time frame.
The assessment and resolution of internal and external Year 2000 issues
under the Plan, and within the control of Bancorp, are not expected to have
a material adverse impact on Bancorp or on its ability to conduct business.
There can be no assurance, however, that there would be no adverse impact on
Bancorp if vendors, service providers, major borrowers, or others with whom
Bancorp conducts business, fail to achieve full Year 2000 compliance.
ASSET AND LIABILITY MANAGEMENT
Bancorp's primary objectives for ALM are to identify opportunities to
maximize net interest income while ensuring adequate liquidity and carefully
managing interest rate risk. ALM policies are approved by the Board of
Directors and administered by the Asset/Liability Management Committee
("ALCO"), which is primarily composed of executive officers. ALCO's
principal responsibilities include:
* monitoring corporate financial performance;
* determining liquidity requirements;
* establishing interest rates, indices, and terms for loan and deposit
products;
* assessing and evaluating the competitive rate environment;
* reviewing and ratifying investment portfolio transactions under
established policy guidelines;
* monitoring and measuring interest rate risk.
Liquidity.
Liquidity management involves the ability to meet the demand for funds from
both depositors and borrowers with either balance sheet assets or access to
incremental borrowings. These needs are met with cash on hand, the sale of
non-cash assets, or with funds received from depositors or lenders. The
primary focus of liquidity management is to match the cash inflows and
outflows within Bancorp's natural market for loans and deposits. The
primary cash and liquidity management tools are short-term investments,
FHLB borrowings and repurchase agreements, with secondary liquidity provided
by the investment securities portfolio.
Asset liquidity includes monitoring the amount of available cash on hand
and assets maturing in the near term, limiting the amount of securities that
may be pledged, and maintaining relatively short duration of investment
securities. Tables 6 and 8 show a combined total of $82.2 million of
investment securities and certain loans coming due within 12 months, or
approximately 8% of total assets at December 31, 1997.
Funding liquidity is monitored primarily by the ratio of loans to
deposits
plus repurchase agreements. As deposit growth has slowed throughout the
industry, Bancorp's ratio has continued to rise, reaching 83.5% at
December 31, 1997 compared with 80.1% one year earlier. Funding liquidity
is augmented by a wide variety of borrowing sources including the FHLB and
credit lines available through correspondent banking relationships.
Bancorp's additional borrowing capacity usually ranges from 5-10% of total
assets.
Market Risk.
Market risk is defined as the future changes in market prices that increase
or decrease the value of financial instruments, i.e. cash, investments,
loans, deposits, and debt. Included in market risk are interest rate risk,
foreign currency exchange rate risk, commodity price risk, and other
relevant market risks. Bancorp's primary source of market risk is interest
rate risk. Market risk sensitive financial instruments are entered into for
purposes other than trading.
Interest rate risk refers to the exposure of Bancorp's earnings and
capital to changes in interest rates. The magnitude of the effect of changes
in market rates depends on the extent and timing of such changes and on
Bancorp's ability to adjust. The ability to adjust is controlled by the time
remaining to maturity on fixed-rate obligations, the contractual ability to
adjust rates prior to maturity, competition, and customer actions.
There are several common sources of interest rate risk that must be
effectively managed if there is to be minimal impact on Bancorp's earnings
and capital. Repricing risk arises largely from timing differences in the
pricing of assets and liabilities. Reinvestment risk refers to the
reinvestment of cash flows from interest payments and maturing assets at
lower rates. Basis risk exists when different yield curves or pricing
indices do not change at precisely the same time or in the same magnitude
such that assets and liabilities with the same maturity are not all affected
equally. Yield curve risk refers to unequal movements in interest rates
across a full range of maturities.
In determining the appropriate level of interest rate risk, Bancorp
considers the impact on earnings and capital of the current outlook on
interest rates, potential changes in interest rates, regional economies,
liquidity, business strategies, and other factors. To effectively measure
and manage interest rate risk, traditional cumulative gap and simulation
analysis are used to determine the impact on net interest income and the
market value of portfolio equity ("MVE"). Bancorp attempts to manage
interest rate sensitivity on the basis of when assets and liabilities
will reprice as opposed to when they can reprice.
Cumulative gap analysis presents the net amount of assets and liabilities
that will most likely reprice through specified periods if there are no
changes in balance sheet mix. Using that analysis, the effect of changes in
market interest rates, both rising and falling, on net interest income can
be calculated. Bancorp had a cumulative net liability position of
$75.6 million within the one-year time frame at December 31, 1997. This
position indicated that Bancorp was exposed to the potential for decreased
earnings if interest rates were to rise in the next twelve months. In that
case, ALCO would consider actions to change Bancorp's asset mix, funding
sources, and interest rates to mitigate any negative impact on net interest
income.
Because of inherent limitations in traditional cumulative gap analysis,
ALCO also employs more sophisticated interest rate risk measurement
techniques. Simulation analysis is used to subject the current repricing
conditions to rising and falling interest rates in increments and decrements
of 100, 200 and 300 basis points, and to determine how net interest income
varies under alternative interest rate and business activity scenarios. ALCO
also measures the effects of changes in interest rates on the MVE, i.e. the
net present value of all the future cash flows from Bancorp's financial
instruments expressed as the percentage change in portfolio value of equity
for any given change in prevailing interest rates. Table 15 presents
Bancorp's MVE at December 31, 1997.
<TABLE>
<CAPTION>
TABLE 15. EFFECTS OF CHANGES IN INTEREST RATES ON MVE AT DECEMBER 31, 1997
(Dollars in thousands)
- -----------------------------------------------------------------------------
Percent Change
--------------------------------------
Hypothetical
Market Value Change Hypothetical
Change in of Portfolio Increase Increase Board
Interest Rates Equity (Decrease) (Decrease) Limit(1)
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
300 bp rise $ 93,751 $ (24,259) (20.6)% (30.0)%
200 bp rise 101,972 (16,038) (13.6) (20.0)
100 bp rise 110,152 (7,858) (6.7) (10.0)
Base scenario 118,010 - - -
100 bp decline 125,018 7,008 5.9 (10.0)
200 bp decline 131,939 13,929 11.8 (20.0)
300 bp decline 139,541 21,531 18.2 (30.0)
(1) Established by Bancorp's Board of Directors
</TABLE>
<TABLE>
<CAPTION>
TABLE 16. REGULATORY CAPITAL RATIOS
Farmers & Mechanics
Bancorp National Bank Home Federal
--------------------------------------------------------
% of % of % of
Regulatory Regulatory Regulatory
Amount Assets Amount Assets Amount Assets
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Tangible Capital $98,606 9.48% $75,401 9.30% $19,432 8.73%
Requirements 3.00 3.00 1.50
- ------------------------------------------------------------------------------
Excess 6.48% 6.30% 7.23%
- ------------------------------------------------------------------------------
Farmers & Mechanics
Bancorp National Bank Home Federal
--------------------------------------------------------
% of Risk % of Risk % of
Weighted Weighted Regulatory
Amount Assets Amount Assets Amount Assets
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Core Capital
(Tier 1) $98,606 12.92% $75,401 12.15% $19,432 8.73%
Requirements 4.00 4.00 3.00
- ------------------------------------------------------------------------------
Excess 8.92% 8.15% 5.73%
- ------------------------------------------------------------------------------
Farmers & Mechanics
Bancorp National Bank Home Federal
--------------------------------------------------------
% of Risk % of Risk % of
Weighted Weighted Regulatory
Amount Assets Amount Assets Amount Assets
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Core &
Supplemental
Capital (Total) $107,463 14.08% $81,190 13.09% $21,221 14.96%
Requirements 8.00 8.00 8.00
- ------------------------------------------------------------------------------
Excess 6.08% 5.09% 6.96%
- ------------------------------------------------------------------------------
</TABLE>
Computations of prospective effects of hypothetical interest rate changes
are based on many assumptions, including relative levels of market interest
rates, loan prepayments and changes in deposit levels. They are not intended
to be a forecast and should not be relied upon as indicative of actual
results. Further, the computations do not contemplate certain actions that
management could undertake in response to changes in interest rates. At
December 31, 1997 and 1996, the changes in net interest income and/or MVE
calculated under these alternative methods were within limits established by
the Board of Directors and monitored by ALCO.
CAPITAL RESOURCES
It is Bancorp's policy to maintain a level of capital sufficient to protect
the company's depositors, creditors, and stockholders, and to support the
company's growth. The principal source of capital is retained earnings.
The Federal Reserve Board, the Office of the Comptroller of
the Currency, and the Office of Thrift Supervision maintain capital adequacy
guidelines applicable to Bancorp and its bank and savings bank subsidiaries,
respectively, as displayed in Table 16, Regulatory Capital Ratios. Under each
capital measure, Bancorp and its subsidiaries were substantially in excess of
the minimum regulatory requirements and, by definition, were "well
capitalized" at December 31, 1997 and 1996.
In accordance with regulatory guidelines, fair value adjustments to
shareholders' equity for changes in the fair value of investment securities
classified as available-for-sale are excluded from the calculations.
EFFECTS OF CHANGING PRICES
Inasmuch as virtually all of a financial institution's assets and liabilities
are monetary in nature, changes in interest rates, or the price paid for
money, may have a significant effect on Bancorp's earnings performance.
Interest rates, though affected by inflation, do not necessarily move in the
same direction, or in the same magnitude, as the prices of other goods and
services. Movements in interest rates are a result of the perceived changes in
the rate of inflation and the effects of monetary and fiscal policies.
Reference to Net Interest Income, page 15, and Market Risk, page 23, will
assist the reader's understanding of how Bancorp is positioned to address
changing interest rates.
Several major categories of noninterest expense are more directly
affected by inflationary factors such as salaries and employee benefits and
other operating expense. Management endeavors to overcome, or mitigate, the
effects of inflation by seeking opportunities to improve operating efficiency
and productivity, and by developing strategies for growth that will exceed the
projected rate of inflation.
1996 COMPARED WITH 1995
Overview.
Net income for 1996 decreased 20% to $8.6 million, or $1.45 basic earnings per
share, from $10.7 million, or $1.81 basic earnings per share, for 1995. Per
share amounts have been restated for the 5% stock dividend paid in August
1997. The decline in net income is associated with special items of a one-
time, or nonrecurring, nature in both years:
Special Items - 1996
* Restructuring charges, securities losses, and other merger-related expenses,
principally incurred in Bancorp's acquisition of Home Federal Savings Bank,
totaled $2.4 million before tax, or $0.26 per share.
* A one-time assessment imposed by the FDIC on deposits insured by the Savings
Association Insurance Fund amounted to $1.2 million before tax, or $0.12 per
share.
Special Items - 1995
* A gain on the sale of the credit card portfolio amounted to $2.9 million
before tax, or $0.30 per share.
* Home Federal recorded a reduction in income tax expense in accordance with
FASB Statement 109, which amounted to $1.5 million, or $0.25 per share.
* Other special items, including the write-off of a core deposit intangible,
and a special provision for credit losses, reduced earnings by $2.0 million
before tax, or $0.21 per share.
Excluding special items, net income for 1996 would have increased 26% to
$10.9 million, or $1.83 basic earnings per share, from $8.7 million, or $1.47
basic earnings per share.
Net Interest Income.
Net interest income on a tax-equivalent basis increased 2% to $40.7 million
for 1996, from $39.8 million for 1995, related principally to an 11% increase
in the average balance of investment securities, primarily U.S. Treasuries and
agencies. Average loans increased 1%. Total interest expense was flat compared
with 1995 as an increase in interest-bearing liabilities was offset by a
decline in average rates paid. Although net interest income for 1996 rose
modestly, the shift in asset mix to lower-yielding investments resulted in a
slight decline in the net interest margin to 4.57% for 1996 from 4.63% for
1995.
Noninterest Income.
Noninterest income declined 11% to $10.8 million for 1996 from $12.2 million
for 1995. However, excluding special items of income described above,
operating noninterest income increased 15% for 1996 over 1995. Trust income
increased 16% related to a 26% increase in assets under management, service
charges on deposit accounts rose 14%, and other sources of operating revenue
increased 13%.
Noninterest Expense.
Noninterest expense increased 4% to $36.5 million for 1996 from $35.2 million
for 1995. However, excluding special items of expense described above,
operating noninterest expense for 1996 was virtually flat compared with 1995
owing to substantial reductions in real estate owned expense, charitable
contributions and advertising costs.
Excluding special items, higher operating costs included salaries and
benefits, up 5% for 1996 related to increased staff, merit and promotion
increases, higher incentive compensation payments and increased health care
costs. Occupancy and equipment expense for 1996 included higher overhead
associated with renovations and expansion of retail delivery systems, upgrades
to software and hardware technology, and a 45,000 square foot expansion of
corporate headquarters.
Income Taxes.
Income tax expense increased for 1996 related principally to a special
reduction of income tax expense recorded in 1995. In accordance with the
provisions of FASB Statement 109, "Accounting for Income Taxes", it was
determined that a substantial portion of deferred tax assets was realizable
and that a $1.5 million reduction in the related valuation allowance was
appropriate.
Financial Condition.
Bancorp's principal source of funds for 1996 were certificates of deposit,
increasing 6% on average from 1995, while investment securities represented
the largest use of funds, increasing 11% on average for 1996.
Bancorp's capital position was strengthened as the increase in average
shareholders' equity, at 10% over 1995, outpaced the 4% growth in average
assets leading to an increase in the average equity capital-to-assets ratio to
9.42% for 1996 from 8.89% for 1995. All capital ratios were substantially in
excess of regulatory minimums for Bancorp and its subsidiaries at each of the
years ended December 31, 1996 and 1995.
Provision and Allowance for Credit Losses.
Both the provision and the allowance for credit losses declined slightly in
1996 related to a 10% decrease in nonperforming assets and a 49% reduction in
net loan charge-offs. The ratio of net charge-offs to average loans
outstanding decreased 50% to 0.26% for 1996 from 0.52% for 1995.
Nonperforming Assets.
Continuing a trend extending over the previous three years, nonperforming
assets declined further in 1996, by 10% to $14.7 million at December 31, from
$16.4 million at year-end 1995. Home Federal continued to make progress in
reducing other real estate owned. Nonaccrual loans increased slightly, but the
ratio of nonperforming assets to total assets declined to 1.47% at December
31, 1996 from 1.72% one year earlier.
<TABLE>
<CAPTION>
CONSOLIDATED BALANCE SHEETS
F&M Bancorp and Subsidiaries
December 31,
(Dollars in thousands, except ----------------------------------
per share amounts) 1997 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Cash and due from banks $ 30,116 $ 33,762
Federal funds sold 1,700 -
Interest-bearing deposits with banks 9,073 4,943
- -----------------------------------------------------------------------------
Total cash and cash equivalents 40,889 38,705
- -----------------------------------------------------------------------------
Loans held for sale 283 309
- -----------------------------------------------------------------------------
Investment securities:
Held-to-maturity, fair value of $96,650 in
1997 and $100,201 in 1996 94,940 99,503
Available-for-sale, at fair value 136,065 146,308
- -----------------------------------------------------------------------------
Total investment securities 231,005 245,811
- -----------------------------------------------------------------------------
Loans, net of unearned income
of $607 in 1997 and $605 in 1996 724,134 670,269
Less: Allowance for credit losses (9,530) (9,639)
- -----------------------------------------------------------------------------
Net loans 714,604 660,630
- -----------------------------------------------------------------------------
Bank premises and equipment, net 24,765 25,231
Other real estate owned, net 5,055 7,457
Interest receivable 7,393 6,701
Intangible assets 3,664 3,945
Other assets 16,730 17,062
- -----------------------------------------------------------------------------
Total other assets 57,607 60,396
- -----------------------------------------------------------------------------
Total assets $1,044,388 $1,005,851
- -----------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits:
Noninterest-bearing $ 113,215 $ 108,101
Interest-bearing 708,752 686,649
- -----------------------------------------------------------------------------
Total deposits 821,967 794,750
- -----------------------------------------------------------------------------
Short-term borrowings:
Federal funds purchased and securities sold under
agreements to repurchase 45,051 41,876
Other short-term borrowings 41,105 57,411
Long-term borrowings 23,454 6,686
Accrued interest and other liabilities 11,137 11,668
- -----------------------------------------------------------------------------
Total liabilities 942,714 912,391
- -----------------------------------------------------------------------------
Commitments and contingencies (Note 13)
- -----------------------------------------------------------------------------
Shareholders' equity
Common stock, par value $5 per share;
authorized 50,000,000 shares; issued and
outstanding 6,004,469 in 1997 and 5,678,564
in 1996 30,022 28,393
Surplus 36,957 29,148
Retained earnings 34,404 36,113
Net unrealized gain(loss) on
securities available for sale 291 (194)
- -----------------------------------------------------------------------------
Total shareholders' equity 101,674 93,460
- -----------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 1,044,388 $ 1,005,851
- -----------------------------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF INCOME
F&M Bancorp and Subsidiaries
Year ended December 31,
(Dollars in thousands except per share ------------------------------
amounts) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans $60,782 $56,357 $57,491
Interest and dividends on investment
securities
Taxable 11,028 10,216 8,501
Tax-exempt 3,385 3,614 3,570
Interest on deposits with banks 279 226 165
Interest on federal funds sold 53 453 381
- -----------------------------------------------------------------------------
Total interest income 75,527 70,866 70,108
- -----------------------------------------------------------------------------
INTEREST EXPENSE
Interest on deposits
Checking 2,084 1,965 2,118
Savings 2,870 3,111 3,481
Money market accounts 3,512 3,471 3,881
Certificates of deposit 19,559 19,405 18,390
Interest on federal funds purchased and
securities sold under agreements to repurchase 2,236 1,813 2,215
Interest on Federal Home Loan Bank borrowings 3,827 2,381 2,162
Interest on other short-term borrowings 92 72 89
- ------------------------------------------------------------------------------
Total interest expense 34,180 32,218 32,336
- ------------------------------------------------------------------------------
Net interest income 41,347 38,648 37,772
Provision for credit losses 1,800 1,522 1,651
- ------------------------------------------------------------------------------
Net interest income after provision
for credit losses 39,547 37,126 36,121
- ------------------------------------------------------------------------------
NONINTEREST INCOME
Trust income 2,594 1,806 1,560
Service charges on deposit accounts 5,255 4,684 4,097
Gains on sales of loans 278 323 3,061
Net losses on sales of securities (11) (330) (256)
Net gains on sales of property 32 136 20
Other operating income 5,282 4,151 3,680
- -----------------------------------------------------------------------------
Total noninterest income 13,430 10,770 12,162
- -----------------------------------------------------------------------------
NONINTEREST EXPENSE
Salaries 15,761 14,224 13,459
Pension and other employee benefits 3,453 3,423 2,985
Occupancy and equipment expense 6,051 5,646 4,867
Other operating expense 10,432 13,219 13,865
- -----------------------------------------------------------------------------
Total noninterest expense 35,697 36,512 35,176
- -----------------------------------------------------------------------------
Income before provision for income taxes 17,280 11,384 13,107
Provision for income taxes 5,121 2,773 2,380
- -----------------------------------------------------------------------------
NET INCOME $12,159 $ 8,611 $10,727
- -----------------------------------------------------------------------------
EARNINGS PER COMMON SHARE-BASIC
Based on weighted average shares outstanding
of 5,982,934 in 1997, 5,954,684 in 1996,
and 5,939,690 in 1995 $ 2.03 $ 1.45 $ 1.81
- ----------------------------------------------------------------------------
EARNINGS PER COMMON SHARE-DILUTED
Based on weighted average shares outstanding
of 6,034,283 in 1997, 5,999,490 in 1996,
and 5,988,697 in 1995 $ 2.01 $ 1.44 $ 1.79
- ----------------------------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
F&M Bancorp and Subsidiaries
Three years ended December 31, 1997
-------------------------------------------------------
Net Unrealized
Gain (Loss) on
(Dollars in Securities
thousands, except Common Retained Available
per share amounts) Stock Surplus Earnings for Sale Total
- -----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
BALANCE AT DECEMBER
31, 1994 $27,259 $24,312 $29,515 $(4,504) $ 76,582
Net income - - 10,727 - 10,727
Dividend reinvestment
plan - - (46) - (46)
Cash dividends paid
($.60 per share) - - (3,570) - (3,570)
Stock consideration for
options exercised
(4,108 shares) (21) (20) (81) - (122)
Stock options exercised
(16,217 shares) 82 262 - - 344
Stock dividend
(196,865 shares) 984 4,257 (5,241) - -
Fair value adjustment for
securities available
for sale, net - - - 4,486 4,486
- ------------------------------------------------------------------------------
BALANCE AT DECEMBER
31, 1995 $28,304 $28,811 $31,304 $ (18) $ 88,401
Net income - - 8,611 - 8,611
Dividend reinvestment
plan - - (25) - (25)
Cash dividends paid
($.61 per share) - - (3,640) - (3,640)
Stock consideration for
options exercised
(7,448 shares) (37) (40) (137) - (214)
Stock options exercised
(25,133 shares) 126 377 - - 503
Fair value adjustment for
securities available
for sale, net - - - (176) (176)
- ------------------------------------------------------------------------------
BALANCE AT DECEMBER
31, 1996 $28,393 $29,148 $36,113 $ (194) $ 93,460
Net income - - 12,159 - 12,159
Dividend reinvestment
plan - - (80) - (80)
Cash dividends paid
($.86 per share) - - (5,138) - (5,138)
Stock consideration for
options exercised
(9,514 shares) (48) (59) (221) - (328)
Stock options exercised
(52,097 shares) 260 856 - - 1,116
Stock dividend
(283,322 shares) 1,417 7,012 (8,429) - -
Fair value adjustment
for securities available
for sale, net - - - 485 485
- ------------------------------------------------------------------------------
BALANCE AT DECEMBER
31, 1997 $30,022 $36,957 $34,404 $ 291 $101,674
- ------------------------------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CASH FLOWS
F&M Bancorp and Subsidiaries
Year ended December 31,
-------------------------------------------
(Dollars in thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 12,159 $ 8,611 $ 10,727
Adjustments to reconcile net income to
net cash provided by operating activities
Provision for credit losses 1,800 1,522 1,651
Provision for other real estate owned 150 422 905
Depreciation and amortization 2,681 2,272 1,958
Amortization of intangibles 506 792 1,464
Net premium amortization on
investment securities 424 615 467
Increase in interest receivable (692) (172) (607)
Increase in interest payable 188 143 190
Deferred income tax expense (benefits) (259) (222) (1,371)
Amortization (accretion) of net loan
origination costs (fees) (75) 67 (42)
Gains on sales of property (32) (136) (20)
Losses on sales/calls of securities 11 330 256
Decrease (increase) in loans held for sale 26 778 (946)
Decrease (increase) in other assets 93 (4,057) (3,140)
Increase (decrease) in other liabilities (719) 1,633 1,107
Other 12 91 104
- -----------------------------------------------------------------------------
Net cash provided by operating activities 16,273 12,689 12,703
- -----------------------------------------------------------------------------
CASH FLOW FROM INVESTING ACTIVITIES
Purchases of investment securities
to be held to maturity (7,722) (47,424) (19,685)
Purchases of investment securities
available for sale (125,330) (64,090) (54,932)
Proceeds from sales/calls of securities
held to maturity 8,420 10,728 2,655
Proceeds from sales/calls of securities
available for sale 35,564 28,213 22,704
Proceeds from maturing securities
available for sale 100,481 44,964 31,217
Proceeds from maturing securities
held to maturity 3,704 6,020 16,107
Net increase in loans (54,379) (45,790) (10,838)
Purchases of premises and equipment (2,559) (7,116) (5,138)
Proceeds from sales of property 1,108 175 1,358
Intangible assets, net - - (1,296)
Other investing activities 200 1,408 1,949
- ------------------------------------------------------------------------------
Net cash used in investing activities (40,513) (72,912) (15,899)
- ------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in noninterest-
bearing deposits, interest-bearing
checking, savings and money market accounts 22,577 901 (17,938)
Net increase in certificates of deposit 4,640 9,224 49,257
Net increase in federal funds purchased
and securities sold under agreements to
repurchase 3,175 1,718 8,199
Net increase (decrease) in other
short-term borrowings (16,306) 38,291 (15,813)
Net increase (decrease) in long-term
borrowings 16,768 (5,586) 7,272
Cash dividends paid (5,138) (3,640) (3,570)
Dividend reinvestment plan (80) (25) (46)
Proceeds from issuance of common stock 788 289 222
- ------------------------------------------------------------------------------
Net cash provided by financing activities 26,424 41,172 27,583
- ------------------------------------------------------------------------------
Net increase (decrease) in cash
and cash equivalents 2,184 (19,051) 24,387
Cash and cash equivalents at
beginning of year 38,705 57,756 33,369
- ------------------------------------------------------------------------------
Cash and cash equivalents at end of year $40,889 $38,705 $57,756
- ------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION
Cash payments for interest $33,991 $32,078 $32,146
Cash payments for income tax 5,354 4,257 3,050
- ------------------------------------------------------------------------------
NONCASH INVESTING AND FINANCING ACTIVITIES
Fair value adjustment for securities
available for sale, net of income taxes 485 (176) 4,486
Loans originated on sale of real estate
owned held for sale 1,320 636 595
Net transfer to real estate owned held
for sale from loans receivable - 553 3,821
Net proceeds due from foreclosure sale
of properties securing impaired loans - - 603
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
F&M Bancorp and Subsidiaries
1. NATURE OF BANKING ACTIVITIES AND SIGNIFICANT ACCOUNTING POLICIES
F&M Bancorp (the "Parent Company") is a bank holding company that provides its
customers with banking and bank related financial services through its wholly
owned subsidiaries, Farmers & Mechanics National Bank and subsidiaries
(the "Bank") and Home Federal Savings Bank and subsidiaries (the "Savings
Bank"). The Bank and the Savings Bank offer various loan, deposit, and other
financial service products to their customers. Their customers include
individuals and commercial enterprises located primarily within the State of
Maryland. The principal market area encompasses Frederick, Washington,
Carroll, Montgomery, and Allegany counties, and portions of the adjacent
counties within the state and to a lesser extent, south central Pennsylvania,
northern Virginia and the eastern panhandle of West Virginia. The Bank and the
Savings Bank maintain correspondent banking relationships and execute daily
federal funds transactions on an unsecured basis with their correspondents.
The accounting and reporting policies and practices of F&M Bancorp and
its subsidiaries ("Bancorp") conform with generally accepted accounting
principles and with prevailing practice in the banking industry. The following
is a summary of Bancorp's significant accounting policies:
Principles of Consolidation.
The consolidated financial statements include the accounts of the Parent
Company and its wholly owned subsidiaries. All material intercompany accounts
and transactions are eliminated in consolidation. In the Parent Company
financial statements, investment in subsidiaries is accounted for using the
equity method of accounting.
Use of Estimates.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Presentation of Cash Flows.
For purposes of reporting cash flows, cash and cash equivalents include cash
on hand, amounts due from banks, cash items in the process of clearing,
federal funds sold, and interest-bearing deposits with banks. Generally,
federal funds are sold for one-day periods.
Loans Held for Sale.
Loans held for sale are carried at the lower of aggregate cost or fair value.
Fair value is estimated to equal the carrying amount due to the anticipated
short holding period of these loans.
Investment Securities.
Bancorp classifies its investment securities as held-to-maturity, available-
for-sale, and trading.
Securities classified as held-to-maturity are those debt securities that
Bancorp has both the positive intent and ability to hold to maturity. These
securities are carried at cost, adjusted for amortization of premiums and
accretion of discounts which are recognized as adjustments to interest income
using the interest method.
Securities classified as available-for-sale are equity securities with
readily determinable fair values and those debt securities that Bancorp
intends to hold for an indefinite period of time but not necessarily to
maturity. These securities may be sold as part of its asset/liability
management strategy, or in response to significant movements in interest
rates, liquidity needs, regulatory capital considerations, and other similar
factors. These securities are carried at fair value, with any unrealized gains
and losses reported as a separate component of shareholders' equity, net of
the related deferred tax effect.
Securities classified as trading, if any, are those securities bought and
held principally for the purpose of selling them in the near term. These
securities are carried at fair value, with any unrealized holding gains and
losses included in earnings.
Regardless of the classification, dividend and interest income, including
amortization of premiums and accretion of discounts arising at acquisition, is
included in interest income in the consolidated statements of income. Realized
gains and losses, if any, determined based on the adjusted cost of the
specific securities sold, are reported in noninterest income in the
consolidated statements of income.
Transfers and Servicing of Financial Assets.
In June 1996, the FASB issued Statement No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities," which
provides new accounting and reporting standards for sales, securitizations,
and servicing of receivables and other financial assets and extinguishments of
liabilities. The standards are based on consistent application of a financial-
components approach that focuses on control, and the appropriate measurement
and allocation of the financial components at fair value, if practical.
In addition, the Statement requires that a liability be derecognized if
and only if either (a) the debtor pays the creditor and is relieved of its
obligation for the liability or (b) the debtor is legally released from being
the primary obligor under the liability either judicially or by the creditor.
Therefore, a liability is not considered extinguished by an in-substance
defeasance.
This Statement is effective for transactions occurring after December 31,
1996, except for the provisions relating to repurchase agreements, securities
lending and other similar transactions and pledged collateral, which have been
delayed until after December 31, 1997 by FASB Statement No. 127, "Deferral of
the Effective Date of Certain Provisions of FASB Statement No. 125, an
amendment of FASB Statement No. 125." The adoption of Statement No. 125 was
not material to Bancorp's 1997 financial statements. Statement No. 127 will be
adopted as required in 1998 and is not expected to be material.
Interest and Fees on Loans.
Interest on loans is accrued at the contractual rate on the principal amount
outstanding. However, the accrual of interest is discontinued when reasonable
doubt exists as to the full, timely collection of interest or principal. Loans
on which the accrual of interest has been discontinued, which includes
impaired loans, are designated as nonaccrual loans. When a loan is placed on
nonaccrual status, all interest previously accrued but not collected is
reversed against current period interest income. Income on such loans is then
recognized only to the extent that cash is received and where the future
collection of principal is probable. Interest accruals are resumed on such
loans only when they are brought current with respect to interest and
principal and when, in the judgment of management, the loans are estimated to
be fully collectible as to both principal and interest.
Loan fees and related direct costs of loan origination are deferred and
recognized over the life of the loan as a component of interest income.
Allowance for Credit Losses.
The allowance for credit losses is maintained at a level which, in
management's judgment, is adequate to absorb losses inherent in the loan
portfolio.
The adequacy of the allowance for credit losses is reviewed regularly by
management. Additions to the allowance are made by charges to the provision
for credit losses. On a quarterly basis, a comprehensive review of the
adequacy of the allowance is performed considering factors such as historical
relationships among loans outstanding, loss experience, delinquency levels,
individual loan reviews, and evaluation of the present and future local and
national economic environment. Management's estimates with respect to the
allowance for credit losses are subject to change because of economic and
other uncertainties inherent in the estimation process.
Bank Premises and Equipment.
Bank premises, furniture and equipment, and leasehold improvements are stated
at cost less accumulated depreciation and amortization. Depreciation and
amortization are computed principally by the straight-line method for bank
premises and leasehold improvements and by accelerated methods for equipment.
The estimated useful lives for computing depreciation and amortization are as
follows:
<TABLE>
<CAPTION>
Years
- ----------------------------------
<S> <C>
Bank premises 15 to 50
Furniture and equipment 3 to 10
Leasehold improvements 10 to 25
</TABLE>
Leasehold improvements are amortized over the shorter of the terms of the
leases or their estimated useful lives. Major alterations and improvements to
bank premises are capitalized and depreciated over the remaining useful life
of the asset. Gains and losses on dispositions are reflected in the
consolidated statements of income in the year of disposition. Maintenance and
repairs are charged to expense as incurred.
Other Real Estate Owned.
Other real estate owned includes: banking premises no longer used for
business operations, real estate acquired by foreclosure (in partial or
complete satisfaction of debt), or otherwise surrendered by the borrower to
Bancorp's possession.
Other real estate owned is recorded at the lower of cost or fair value on
the date of acquisition. Write-downs to fair value at the date of acquisition
are charged to the allowance for credit losses. Subsequently, these assets are
adjusted through a valuation allowance to the lower of net carrying value or
fair value (net of estimated selling expenses) based upon periodic appraisals.
Adjustments arising from changes in the valuation allowance and operating
expenses are reflected in noninterest expense. Gains or losses realized on
disposition are reflected in noninterest income.
Intangible Assets.
Intangible assets represent the excess of the fair value of liabilities
assumed over the fair value of tangible assets acquired in branch
acquisitions. These intangible assets are initially amortized using the
straight-line method over the estimated periods benefited of ten years.
However, the amortization is subject to periodic review and is accelerated if
later events and circumstances indicate revisions are necessary.
Income Taxes.
Bancorp applies Financial Accounting Standards Board ("FASB") Statement No.
109, "Accounting for Income Taxes," when calculating its provision for income
taxes. As prescribed in FASB Statement No. 109, provisions for income taxes
are based on taxes payable or refundable for the current year (after exclusion
of non-taxable income such as interest on state and municipal securities) and
deferred taxes on temporary differences between the amount of taxable income
and pre-tax financial income and between the tax bases of assets and
liabilities and their reported amounts in the financial statements. Deferred
tax assets and liabilities are included in the financial statements at
currently enacted income tax rates applicable to the period in which the
deferred tax assets and liabilities are expected to be realized or settled. As
changes in tax laws or rates are enacted, deferred tax assets and liabilities
are adjusted through the provision for income taxes.
Per Share Data.
Earnings per share ("EPS") data is computed and presented in accordance with
FASB Statement No. 128, "Earnings Per Share." As prescribed by this Statement,
the presentation of primary EPS has been replaced with the dual presentation
of basic and diluted EPS. Basic EPS excludes dilution and is computed by
dividing net income available to common shareholders ("numerator") by the
weighted-average number of common shares outstanding for the period after
giving retroactive effect to stock dividends and stock splits ("denominator").
Diluted EPS reflects the potential dilution that could occur if stock options
or other contracts to issue common stock were exercised or converted into
common stock or resulted in the issuance of common stock that then shared in
the earnings of Bancorp. Diluted EPS is equal to the numerator divided by the
denominator plus 51,349 shares, 44,806 shares, and 49,007 shares of stock
options assumed to be exercised for the years ended December 31, 1997, 1996
and 1995, respectively.
Trust Assets and Income.
Assets held in an agency or fiduciary capacity are not assets of Bancorp and,
accordingly, are not included in the accompanying consolidated financial
statements. Trust income is recorded on a cash basis and would not be
materially different using the accrual method.
Deferred Compensation.
Bancorp accrues the cost of supplemental retirement benefits (deferred
compensation) payable to certain key employees over their service periods to
the date those employees, or their beneficiaries, are fully eligible for
benefits.
Stock Compensation.
In October 1995, FASB Statement No. 123, "Accounting for Stock-Based
Compensation," was issued. This Statement defines a fair value based method
of accounting for employee stock options or similar equity transactions. The
Statement allows the recording of such fair value based accounting in the
financial statements or the disclosure of the fair value impact to net income
and earnings per share on a pro forma basis in the notes to the consolidated
financial statements effective for fiscal years beginning after December 15,
1995. Bancorp will continue to account for these plans under the intrinsic
value based method prescribed by Accounting Principles Board ("APB") No. 25
and has provided the fair value disclosures required by Statement No. 123 in
Note 10, "Employee Benefits."
Reclassifications.
Certain reclassifications to prior year amounts have been made to conform with
the current year presentation.
2. ACQUISITIONS
On November 15, 1996, Bancorp consummated its merger with Home Federal
Corporation and subsidiaries, ("Home Federal"), Hagerstown, Maryland, in a
tax-free exchange of stock. Shareholders of Home Federal received .49535
shares of Bancorp stock for each of the 2,519,010 shares of Home Federal
Common Stock and cash in lieu of each fractional share at the rate of $23.90.
The merger was accounted for as a pooling of interests. At the date of
acquisition, the Savings Bank, the principal subsidiary of Home Federal, had
total assets of $230.1 million, loans of $154.0 million and deposits of $162.7
million.
3. INVESTMENT SECURITIES
The amortized cost and estimated fair value of investments at December 31,
1997 and 1996, summarized by contractual maturity, are shown below. Expected
maturities may differ from contractual maturities because borrowers have the
right to call or prepay obligations with or without call or prepayment
penalties.
Proceeds from sales/calls of investment securities available
for sale during 1997 were $35,564,000. Gross gains of $38,000 and gross losses
of $55,000 were realized on those sales. Proceeds from calls of investment
securities held to maturity during 1997 were $8,420,000. Gross gains of $6,000
were realized on those calls.
Proceeds from sales/calls of investment securities available for sale
during 1996 were $28,213,000. Gross gains of $58,000 and gross losses of
$129,000 were realized on those sales. Proceeds from sales/calls of investment
securities held to maturity during 1996 were $10,728,000. Gross losses of
$259,000 were realized on those sales/calls. Proceeds from sales/calls of
investment securities available for sale during 1995 were $22,704,000. Gross
gains of $21,000 and gross losses of $287,000 were realized on those sales.
Proceeds from calls of investment securities held to maturity during 1995 were
$2,655,000. Gross gains of $10,000 were realized on those calls.
The amortized cost of investment securities pledged to secure public
deposits, securities sold under repurchase agreements, Federal Home Loan Bank
(the "FHLB") advances, and for other purposes as required and permitted by
law, totaled $117,433,000 at December 31, 1997, and $129,519,000 at December
31, 1996.
Interest earned on obligations of states and political subdivisions is
exempt from federal income taxes. However, the federal interest expense
deduction is limited for interest deemed to be incurred to purchase or carry
these tax-exempt obligations. These tax-exempt securities comprised 29.9
percent and 28.9 percent of the total carrying value of the investment
portfolio at December 31, 1997 and 1996, respectively.
<TABLE>
<CAPTION>
December 31, 1997
--------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
(In thousands) Cost Gains Losses Value
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies:
Within 1 year $ 14,570 $ 14 $ 14 $ 14,570
After 1 but within 5 years 27,331 98 25 27,404
After 5 but within 10 years 38,039 307 - 38,346
- -----------------------------------------------------------------------------
79,940 419 39 80,320
- -----------------------------------------------------------------------------
Obligations of states and
political subdivisions:
Within 1 year 1,021 6 - 1,027
- -----------------------------------------------------------------------------
1,021 6 - 1,027
- -----------------------------------------------------------------------------
Mortgage-backed securities 41,841 255 76 42,020
- -----------------------------------------------------------------------------
Total debt securities 122,802 680 115 123,367
Equity securities 12,698 - - 12,698
- -----------------------------------------------------------------------------
Total securities
available for sale $135,500 $ 680 $ 115 $136,065
- -----------------------------------------------------------------------------
Held-to-maturity:
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies:
After 1 but within 5 years $ 4,967 $ 33 $ - $ 5,000
- -----------------------------------------------------------------------------
4,967 33 - 5,000
- -----------------------------------------------------------------------------
Obligations of states and
political subdivisions:
Within 1 year 4,073 33 - 4,106
After 1 but within 5 years 33,293 713 2 34,004
After 5 but within 10 years 30,607 697 8 31,296
After 10 years 106 1 - 107
- -----------------------------------------------------------------------------
68,079 1,444 10 69,513
- -----------------------------------------------------------------------------
Mortgage-backed securities 21,894 243 - 22,137
- -----------------------------------------------------------------------------
Total securities to be
held to maturity $ 94,940 $1,720 $ 10 $96,650
- -----------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
December 31, 1996
--------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
(In thousands) Cost Gains Losses Value
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies:
Within 1 year $ 44,106 $ 20 $ 30 $ 44,096
After 1 but within 5 years 16,771 82 53 16,800
After 5 but within 10 years 9,006 10 63 8,953
- ------------------------------------------------------------------------------
69,883 112 146 69,849
- ------------------------------------------------------------------------------
Obligations of states and
political subdivisions:
Within 1 year 7,521 99 - 7,620
After 1 but within 5 years 1,024 17 - 1,041
- ------------------------------------------------------------------------------
8,545 116 - 8,661
- ------------------------------------------------------------------------------
Mortgage-backed securities 62,042 155 435 61,762
- ------------------------------------------------------------------------------
Total debt securities 140,470 383 581 140,272
Equity securities 6,036 - - 6,036
- ------------------------------------------------------------------------------
Total securities
available for sale $146,506 $ 383 $ 581 $146,308
- ------------------------------------------------------------------------------
Held-to-maturity:
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies:
After 1 but within 5 years $ 5,949 $ 44 $ 13 $ 5,980
After 5 but within 10 years 6,000 14 - 6,014
- ------------------------------------------------------------------------------
11,949 58 13 11,994
- ------------------------------------------------------------------------------
Obligations of states and
political subdivisions:
After 1 but within 5 years 29,426 585 26 29,985
After 5 but within 10 years 32,802 453 188 33,067
After 10 years 108 - - 108
- ------------------------------------------------------------------------------
62,336 1,038 214 63,160
- ------------------------------------------------------------------------------
Mortgage-backed securities 25,218 71 242 25,047
- ------------------------------------------------------------------------------
Total securities to be
held to maturity $ 99,503 $1,167 $ 469 $100,201
- ------------------------------------------------------------------------------
</TABLE>
4. LOANS
<TABLE>
<CAPTION>
Loans consist of the following:
December 31,
--------------------------------------
(In thousands) 1997 1996
- -----------------------------------------------------------------------------
<S> <C> <C>
Real estate loans:
Construction and land development $ 30,621 $ 29,571
Secured by farmland 5,970 6,864
Residential mortgage 185,798 183,035
Other mortgage 146,197 129,307
Agricultural 795 977
Commercial and industrial loans 79,984 62,288
Consumer 271,721 253,455
Other loans 3,048 4,772
- -----------------------------------------------------------------------------
Total loans $724,134 $670,269
- -----------------------------------------------------------------------------
</TABLE>
Loans to states and political subdivisions and industrial revenue bonds
are included in other loans and in total loans in the consolidated balance
sheets. Interest income from these loans is included in interest and fees on
loans in the consolidated statements of income.
Transactions in the allowance for credit losses are:
<TABLE>
<CAPTION>
(In thousands) 1997 1996 1995
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Balance at beginning of year $9,639 $9,796 $11,434
Provision for credit losses 1,800 1,522 1,651
Recoveries of loans previously
charged-off 2,831 2,243 2,138
Loans charged-off (4,740) (3,922) (5,427)
- ----------------------------------------------------------------------------
Balance at end of year $9,530 $9,639 $ 9,796
- ----------------------------------------------------------------------------
</TABLE>
In the ordinary course of business, directors and officers of the Bank,
the Savings Bank, and their affiliates, were customers of, and had other
transactions with the Bank and/or the Savings Bank. Loan transactions with
directors and officers were made on substantially the same terms as those
prevailing at the time for comparable loans to other persons and neither
involved more than normal risk of collectibility nor presented other
unfavorable features. The aggregate dollar amount of all loans to officers,
directors, and their affiliates was $18,466,000 and $14,746,000 at
December 31, 1997 and 1996, respectively. During 1997, $52,061,000 of new
loans were made or became reportable, and repayments and other decreases
totaled $48,341,000.
The loan portfolio includes loans that are not currently accruing
interest income. The total outstanding principal of these loans at
December 31, 1997, 1996, and 1995, and the effect on income for the years
then ended are as follows:
<TABLE>
<CAPTION>
December 31,
---------------------------------------
(In thousands) 1997 1996 1995
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Principal balance $5,396 $7,281 $6,954
- ----------------------------------------------------------------------------
Gross amount of interest which
would have been recorded
under original terms $ 600 $ 497 $ 592
- ----------------------------------------------------------------------------
Recorded interest income
on these loans $ 146 $ 188 $ 172
- ----------------------------------------------------------------------------
</TABLE>
The net reduction in interest income on renegotiated loans was not
material in 1997, 1996, and 1995. At December 31, 1997, there were no
material commitments to lend additional funds to borrowers whose loans had
been modified in troubled debt restructurings or were in a nonaccrual status.
Bancorp had loans amounting to approximately $3,793,000 and $6,144,000
at December 31, 1997 and 1996, respectively, that were specifically
classified as impaired and included in the nonaccrual loans referenced above.
The average balance of impaired loans amounted to $5,167,000 and $5,367,000
for the years ended December 31, 1997 and 1996, respectively. Cash receipts
totaling $3,865,000 and $219,000 during 1997 and 1996, respectively, were
applied to reduce the principal balance of those impaired loans and no
interest income was recognized. The specific allowance for credit losses
related to these impaired loans was $732,000 and $964,000, at December 31,
1997 and 1996, respectively.
5. BANK PREMISES AND EQUIPMENT
Investments in bank premises and equipment are as follows:
<TABLE>
<CAPTION>
December 31,
---------------------------------------
(In thousands) 1997 1996
- ----------------------------------------------------------------------------
<S> <C> <C>
Bank premises and land $22,531 $22,786
Furniture and equipment 17,712 17,280
Leasehold improvements 1,763 1,696
- ----------------------------------------------------------------------------
42,006 41,762
- ----------------------------------------------------------------------------
Less accumulated depreciation
and amortization (17,241) (16,531)
- ----------------------------------------------------------------------------
Bank premises and equipment, net $24,765 $25,231
- -----------------------------------------------------------------------------
</TABLE>
Depreciation and amortization related to premises and equipment in the
consolidated statements of income amounted to $2,681,000 in 1997, $2,270,000
in 1996, and $1,914,000 in 1995.
Construction period interest capitalized amounted to $86,000 in 1996
and $17,000 in 1995.
6. INVESTMENT IN REAL ESTATE PARTNERSHIP
In 1994, the Bank entered into a limited partnership agreement for the sole
purpose of developing a property carried in other real estate owned into
finished lots. Pursuant to the formation of this partnership, certain
minority interest contributions, totaling $684,000, were received. The Bank
has included the financial results of the partnership's operations in the
accompanying consolidated financial statements since the Bank controls the
major operating and financial policies of the partnership.
7. DEPOSITS
The carrying amounts of deposits are as follows:
<TABLE>
<CAPTION>
December 31,
---------------------------------------
(In thousands) 1997 1996
- ----------------------------------------------------------------------------
<S> <C> <C>
Noninterest-bearing $113,215 $108,101
Interest-bearing:
Checking 112,236 100,768
Savings 110,329 114,916
Money market accounts 122,675 112,093
Certificates of deposit
Under $100,000 321,369 315,656
$100,000 and over 42,143 43,216
- ----------------------------------------------------------------------------
Total deposits $821,967 $794,750
- ----------------------------------------------------------------------------
</TABLE>
8. BORROWINGS
Short-term Borrowings.
Short-term borrowings consist of securities sold under agreements to
repurchase which are secured transactions with customers and generally
mature the day following the date sold. Bancorp has also maintained an
outstanding balance in its treasury tax and loan account throughout the
years. Short-term borrowings may also include federal funds purchased, which
are unsecured overnight borrowings from other financial institutions, and
advances from the FHLB of Atlanta, which are secured either by a blanket
floating lien on all real estate mortgage loans secured by 1 to 4 family
residential properties, FHLB stock, or other mortgage-related assets.
Bancorp has unused lines of credit for short-term borrowings totaling
approximately $117,319,000 at December 31, 1997.
The table below presents selected information on the combined totals of
repurchase agreements and other short-term borrowings for the years ended
December 31:
<TABLE>
<CAPTION>
(Dollars in thousands) 1997 1996
- ----------------------------------------------------------------------------
<S> <C> <C>
Maximum balance at any
month end during the year $109,823 $99,287
Average balance for the year 95,732 67,240
Weighted average rate for the year 5.54% 5.42%
Weighted average rate on
borrowings at year end 5.62% 5.44%
- ----------------------------------------------------------------------------
</TABLE>
Long-term Borrowings.
The following is a summary of long-term advances with the FHLB:
<TABLE>
<CAPTION>
(In thousands) 1997 1996
- ----------------------------------------------------------------------------
<S> <C> <C>
Due within one to five years $21,216 $4,144
Due after five years through ten years 2,100 2,400
Due after ten years 138 142
- ----------------------------------------------------------------------------
$23,454 $6,686
- ----------------------------------------------------------------------------
</TABLE>
These advances had weighted average interest rates of 5.85% and 5.96%
at December 31, 1997 and 1996, respectively. These advances are secured
either by a blanket floating lien on all real estate mortgage loans secured
by 1 to 4 family residential properties, FHLB stock, or other mortgage-related
assets. All advances carry a fixed rate. In 1999, $17.5 million of these
advances are convertible at the FHLB's option to a variable rate based on
LIBOR.
9. INCOME TAXES
Significant components of Bancorp's deferred tax assets and liabilities as
of December 31, 1997 and 1996 are as follows:
<TABLE>
<CAPTION>
(In thousands) 1997 1996
- ----------------------------------------------------------------------------
<S> <C> <C>
Deferred tax assets:
Allowances for credit and other
real estate owned losses $4,227 $4,230
Unrealized losses on securities
available for sale - 113
Deferred compensation 1,591 1,361
Intangibles 941 872
Other 624 589
- ----------------------------------------------------------------------------
Total deferred tax assets 7,383 7,165
- ----------------------------------------------------------------------------
Valuation allowance for deferred
tax assets (474) (474)
- ----------------------------------------------------------------------------
Total deferred tax assets
after valuation allowance 6,909 6,691
- ----------------------------------------------------------------------------
Deferred tax liabilities:
Depreciation and amortization 721 686
Unrealized gains on securities
available for sale 165 -
Other 77 40
- ----------------------------------------------------------------------------
Total deferred tax liabilities 963 726
Net deferred tax assets $5,946 $5,965
- ----------------------------------------------------------------------------
</TABLE>
A reconciliation of the statutory income tax rate to the provision for
income taxes attributable to continuing operations included in the
consolidated statements of income, is as follows:
<TABLE>
<CAPTION>
Year ended December 31
----------------------------------------
(Dollars in thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Income before income tax $17,280 $11,384 $13,107
Tax rate 35% 35% 35%
- ------------------------------------------------------------------------------
Income tax at statutory rate 6,048 3,984 4,587
Increases (decreases) in
tax resulting from:
Tax-exempt interest income (1,270) (1,201) (1,205)
State income taxes, net of
federal income tax benefit 406 207 425
Other (63) (217) 49
Change in valuation allowance - - (1,476)
- -----------------------------------------------------------------------------
Actual tax expense $ 5,121 $ 2,773 $ 2,380
- -----------------------------------------------------------------------------
Effective tax rate 29.6% 24.4% 18.2%
- -----------------------------------------------------------------------------
</TABLE>
Significant components of the provision for income taxes attributable
to continuing operations are as follows:
<TABLE>
<CAPTION>
Year ended December 31
----------------------------------------
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Currently payable:
Federal $4,710 $2,616 $3,097
State 670 379 654
- ------------------------------------------------------------------------------
Total currently payable 5,380 2,995 3,751
- ------------------------------------------------------------------------------
Deferred tax expense (benefit):
Federal (215) (161) (59)
State (44) (61) 164
- ------------------------------------------------------------------------------
Total deferred tax
expense (benefit) (259) (222) 105
- ------------------------------------------------------------------------------
Change in valuation allowance - - (1,476)
- ------------------------------------------------------------------------------
Provision for income taxes $5,121 $2,773 $2,380
- ------------------------------------------------------------------------------
</TABLE>
The components of the provision for deferred tax expense (benefit) are
as follows:
<TABLE>
<CAPTION>
Year ended December 31
----------------------------------------
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Provision for credit losses $ 3 $ 121 $527
Amortization of intangibles (69) (158) (413)
Other (193) (185) (9)
- ------------------------------------------------------------------------------
Deferred tax expense (benefit) $ (259) $ (222) $105
- ------------------------------------------------------------------------------
</TABLE>
10. EMPLOYEE BENEFITS
Profit Sharing Plans.
The Bank.
Retirement benefits are provided through a Section 401(k) profit sharing
plan ("the Plan") to employees meeting certain age and service eligibility
requirements. The annual profit sharing contribution to the Plan is
discretionary, based primarily on earnings and amounted to $540,000 for 1997,
$430,000 for 1996, and $330,000 for 1995. Effective for the 1993 Plan year,
the Plan was amended to provide for employer matching contributions of up to
two percent of compensation for eligible participants. Effective for the
1996 Plan year, the Plan was amended to provide for additional employer
matching contributions of one-half of the next two percent of compensation
for eligible participants. Additional matching contributions totaled
$268,000 in 1997, $234,000 in 1996, $154,000 in 1995.
The Bank of Brunswick had a defined contribution profit sharing plan
which was terminated as of the close of business on May 31, 1995, at which
time all assets were distributed to the participants. No contributions to
this plan were made in 1995.
The Savings Bank.
The Savings Bank provides a retirement savings plan and trust which is a
deferred compensation plan (401(k)) and a profit sharing plan (the "Savings
Plan") for all employees who meet certain age and eligibility requirements.
The Savings Plan permits eligible participants to defer up to 15% of their
annual salary and the Savings Bank to contribute to the 401(k) part of the
Savings Plan on a matching basis. The Savings Bank may also elect to
contribute a portion of its profits to the profit sharing portion of the
Savings Plan.
In 1997, 1996, and 1995, contributions were made based on matching 50
cents, 50 cents, and 30 cents, respectively, on every dollar up to 5% of the
employee's salary. The Savings Bank's additional matching contribution
amounted to $58,000 in 1997, $52,000 in 1996, and $23,000 in 1995. In
addition, the Savings Bank made profit sharing contributions of $135,000,
$127,000, and $185,000 in 1997, 1996, and 1995, respectively.
Executive Supplemental Income Plan.
Supplemental retirement benefits (deferred compensation) for certain key
employees are provided under an Executive Supplemental Income Plan (the
"ESIP"). Benefits payable under the ESIP are integrated with other
retirement benefits expected to be received by ESIP participants, including
those under the 401(k)profit sharing plan. Amounts paid under the ESIP will
be partially or fully recovered through life insurance policies purchased on
the lives of the participants.
Deferred compensation costs charged to expense for the years ended
December 31, 1997, 1996, and 1995 were $344,000, $292,000, and $93,000,
respectively.
Other Benefits.
Both the Savings Bank and Bancorp maintain a director's deferred
compensation program pursuant to which directors may elect to defer their
fees for attending meetings in order to provide retirement benefits. The
expense for these benefits was $128,000, $242,000, and $29,000, respectively,
for 1997, 1996, and 1995.
Employee Stock Purchase Plan.
Bancorp has an Employee Stock Purchase Plan (the "ESPP") whereby eligible
employees may authorize payroll deductions ranging from $120 to $2,400 per
year for the purpose of acquiring shares of common stock in Bancorp at
current market prices. To encourage employee participation in the ESPP,
Bancorp contributes an additional amount equal to 20 percent of each
participating employee's voluntary payroll deduction. Such contributions
amounted to $11,000, $9,000, and $7,000 for 1997, 1996, and 1995,
respectively. Contributions to the ESPP are used by a designated agent to
acquire common shares of Bancorp, either in the open market or from Bancorp
at current market prices. Bancorp has reserved 57,881 shares of its common
stock for the ESPP. Bancorp reserves the right to amend, modify, suspend,
or terminate the ESPP at any time at its discretion. Bancorp pays all costs
of administration of the ESPP.
Stock Option Plans.
Bancorp has a 1983 Stock Option Plan and a 1995 Stock Option Plan (the
"Plans") which are coordinated in their administration and similar in their
terms and conditions for key employees. The Plans permit the granting of
both incentive stock options and non-qualified stock options to purchase
common stock of Bancorp. The exercise price per share for incentive stock
options and non-qualified stock options shall be not less than 100% and 85%,
respectively, of the fair market value of a share of common stock on the
date of grant and may be exercised in increments commencing after one year
from the date of grant. Options are fully exercisable after four years from
the date of grant and expire after 10 years.
<TABLE>
<CAPTION>
Options issued
and outstanding Price
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance, December 31, 1994 197,466 $ 6.29 to $22.68
Exercised (17,509) 6.29 to 20.30
Granted 63,696 14.43 to 26.87
Terminated (7,393) 11.19 to 26.87
- ------------------------------------------------------------------------------
Balance, December 31, 1995 236,260 11.19 to 26.87
Exercised (26,364) 11.19 to 26.87
Granted 32,124 27.74
Terminated (12,173) 11.19 to 27.74
- ------------------------------------------------------------------------------
Balance, December 31, 1996 229,847 11.19 to 27.74
Exercised (53,121) 11.19 to 27.74
Granted 31,859 25.60
Terminated (6,012) 19.37 to 27.74
- ------------------------------------------------------------------------------
Balance, December 31, 1997 202,573 $11.19 to $27.74
- ------------------------------------------------------------------------------
</TABLE>
At December 31, 1997 there were 128,183 options exercisable at prices
ranging from $11.19 to $27.74. Shares reserved for future grants totaled
93,891 at December 31, 1997.
Bancorp accounts for the Plans under APB Opinion No. 25. Had
compensation cost for the Plans been determined in accordance with the
provisions of FASB Statement No. 123 (see Note 1), Bancorp's net income and
earnings per share would have been reduced to the following pro forma
amounts:
<TABLE>
<CAPTION>
1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Net Income: As Reported $12,159 $8,611 $10,727
Pro Forma 12,008 8,521 10,675
EPS: As Reported $ 2.03 $ 1.45 $ 1.81
Pro Forma, basic 2.01 1.43 1.80
Pro Forma, diluted 1.99 1.42 1.78
</TABLE>
Because the Statement No. 123 method of accounting has not been applied
to options granted prior to January 1, 1995, the resulting pro forma
compensation cost may not be representative of that to be expected in future
years. Additionally, the pro forma amounts include a de minimus amount
related to the purchase discount offered under the Employee Stock Purchase
Plan.
A summary of the status of the Plans at December 31, 1997 and 1996 and
changes during the years then ended is presented in the tables below:
<TABLE>
<CAPTION>
1997 1996
------------------------------------
Wtd. Ave. Wtd. Ave.
Shares Ex. Price Shares Ex. Price
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Outstanding at
beginning of year 229,847 $19.19 236,260 $15.67
Granted 31,859 25.60 32,124 27.74
Exercised (53,121) 16.91 (26,364) 14.94
Forfeited (2,016) 25.21 (10,461) 20.44
Expired (3,996) 19.37 (1,712) 22.68
Outstanding at end
of year 202,573 20.73 229,847 19.19
Exercisable at end
of year 128,183 17.74 150,761 16.20
Weighted average fair
value of options granted
during the year 11.20 4.62
- ------------------------------------------------------------------------------
</TABLE>
OUTSTANDING AND EXERCISABLE BY PRICE RANGE AS OF DECEMBER 31, 1997
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
-----------------------------------------------------------
Weighted Weighted Weighted
Range of Number Average Average Number Average
Exercise Outstanding Remaining Exercise Exercisable Exercise
Prices Contractual Price Price
Life
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$11.19-$15.00 47,887 5.15 $13.11 47,887 $13.11
15.01- 20.00 33,327 3.70 15.98 33,327 15.98
20.01- 25.00 31,476 5.22 20.28 23,785 20.28
25.01- 27.74 89,883 8.15 26.71 23,184 27.24
$11.19-$27.74 202,573 6.26 $20.73 128,183 $17.74
- ------------------------------------------------------------------------------
</TABLE>
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following
weighted-average assumptions used for grants in 1997, 1996, and 1995,
respectively: risk-free interest rates of 5.8%, 6.2%, and 6.1%; expected
dividend yields of 2.6%, 3.1%, and 3.1%; expected lives of 3.48, 3.24, and
3.40 years; expected volatility of 52%, 12%, and 12%.
11. OTHER OPERATING INCOME AND EXPENSE
Other operating income in the consolidated statements of income includes
the following for the years ended December 31:
<TABLE>
<CAPTION>
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Bank card income $ 1,341 $ 1,714 $ 1,828
Miscellaneous 3,941 2,437 1,852
- ------------------------------------------------------------------------------
Total other operating income $ 5,282 $ 4,151 $ 3,680
- ------------------------------------------------------------------------------
</TABLE>
Other operating expense in the consolidated statements of income includes
the following for the years ended December 31:
<TABLE>
<CAPTION>
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Insurance (including FDIC) $ 420 $ 1,946 $ 1,505
Stationery and supplies 949 1,006 1,012
Advertising 781 653 881
Professional services 1,413 1,745 1,425
Credit card processing 649 1,465 1,528
Postage 733 761 702
Directors fees 236 174 194
Telephone 687 534 499
Computer software and maintenance 458 445 454
Other real estate owned expense 337 485 1,055
Amortization of intangibles 506 792 1,464
Miscellaneous 3,263 3,213 3,146
- ------------------------------------------------------------------------------
Total other operating expense $10,432 $13,219 $13,865
- ------------------------------------------------------------------------------
</TABLE>
Transactions in the allowances for other real estate owned are summarized as
follows for the years ended December 31:
<TABLE>
<CAPTION>
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Balance at beginning of year $ 2,016 $ 2,218 $ 3,189
Provision for decline in value
and selling expenses 150 422 905
Losses charged to the allowances (374) (624) (1,876)
- ------------------------------------------------------------------------------
Ending balance $ 1,792 $ 2,016 $ 2,218
- ------------------------------------------------------------------------------
</TABLE>
12. CONSOLIDATED FINANCIAL INFORMATION OF F&M BANCORP (PARENT COMPANY)
F&M Bancorp Balance Sheets (Parent Company)
<TABLE>
<CAPTION>
December 31,
-----------------------------------------------
(In thousands) 1997 1996
- ------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 1,627 $ 2,743
Investment securities
available-for-sale, at fair value 1,992 -
Investment in subsidiaries 97,902 90,426
Other assets 243 314
- ------------------------------------------------------------------------------
Total assets $101,764 $93,483
- ------------------------------------------------------------------------------
LIABILITIES AND
SHAREHOLDERS' EQUITY
Total liabilities $ 90 $ 23
- ------------------------------------------------------------------------------
Common stock 30,022 28,393
Surplus 36,957 29,148
Retained earnings 34,404 36,113
Net unrealized gain (loss) on
securities available for sale 291 (194)
- ------------------------------------------------------------------------------
Total shareholders' equity 101,674 93,460
- ------------------------------------------------------------------------------
Total liabilities and
shareholders' equity $101,764 $93,483
- ------------------------------------------------------------------------------
</TABLE>
F&M Bancorp Statements of Income (Parent Company)
<TABLE>
<CAPTION>
Year ended December 31
--------------------------------------------
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
INCOME
Dividends from subsidiaries $ 5,287 $ 3,728 $ 3,197
Other income 149 122 146
- ------------------------------------------------------------------------------
Total income 5,436 3,850 3,343
EXPENSE 329 614 177
- ------------------------------------------------------------------------------
Income before income tax benefits and
equity in undistributed earnings
of subsidiaries 5,107 3,236 3,166
Income tax benefits (61) (130) (1)
- ------------------------------------------------------------------------------
Income before equity in undistributed
earnings of subsidiaries 5,168 3,366 3,167
Equity in undistributed earnings
of subsidiaries 6,991 5,245 7,560
- ------------------------------------------------------------------------------
Net income $12,159 $ 8,611 $10,727
- ------------------------------------------------------------------------------
</TABLE>
F&M Bancorp Statements of Cash Flows (Parent Company)
<TABLE>
<CAPTION>
Year ended December 31
--------------------------------------------
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
CASH FLOWS FROM
OPERATING ACTIVITIES
Net income $12,159 $ 8,611 $10,727
Adjustments to reconcile net
income to net cash provided by
operating activities
Decrease (increase)
in other assets 71 (141) 20
Increase (decrease)
in other expenses payable 67 (21) 25
Equity in undistributed
earnings of subsidiaries (6,991) (5,245) (7,560)
- ------------------------------------------------------------------------------
Net cash provided by
operating activities 5,306 3,204 3,212
- ------------------------------------------------------------------------------
CASH FLOWS FROM
INVESTING ACTIVITIES
Purchase of investment securities
available-for-sale (1,992) - -
- ------------------------------------------------------------------------------
Net cash used in investing
activities (1,992) - -
- ------------------------------------------------------------------------------
CASH FLOWS FROM
FINANCING ACTIVITIES
Cash dividends paid (5,138) (3,640) (3,570)
Stock transactions 708 264 176
- ------------------------------------------------------------------------------
Net cash used in financing activities (4,430) (3,376) (3,394)
- ------------------------------------------------------------------------------
Net decrease in cash
and cash equivalents (1,116) (172) (182)
Cash and cash equivalents
at beginning of year 2,743 2,915 3,097
- ------------------------------------------------------------------------------
Cash and cash equivalents
at end of year $ 1,627 $ 2,743 $ 2,915
- ------------------------------------------------------------------------------
NON-CASH INVESTING AND
FINANCING ACTIVITIES
Fair value adjustment for
securities available for sale,
net of income taxes $ 485 $ (176) $ 4,486
- ------------------------------------------------------------------------------
</TABLE>
13. COMMITMENTS AND CONTINGENCIES
Leases.
Bancorp conducts part of its branch banking operations from leased
facilities. The initial terms of the leases range from a period of one to 25
years. Most of the existing leases contain options which enable Bancorp to
renew at the fair rental value for periods of up to 20 years. In addition to
minimum rentals, certain leases have escalation clauses based upon various
price indexes and include provisions for additional payments for taxes,
insurance, and maintenance.
Total rental expense was as follows for the years ended December 31:
<TABLE>
<CAPTION>
(In thousands) 1997 1996 1995
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Bank premises $876 $793 $659
Equipment 34 84 110
- ------------------------------------------------------------------------------
Total rental expense $910 $877 $769
- ------------------------------------------------------------------------------
</TABLE>
The future minimum rental payments required under operating leases that
have initial or remaining noncancelable lease terms in excess of one year as
of December 31, 1997 are:
<TABLE>
<CAPTION>
Year ending December 31, (In thousands)
- ------------------------------------------------------------------------------
<S> <C>
1998 $ 864
1999 864
2000 890
2001 900
2002 834
Later years 3,200
- ------------------------------------------------------------------------------
Total minimum payments required $7,552
- ------------------------------------------------------------------------------
</TABLE>
Contingencies.
Bancorp is subject to various legal proceedings which are incidental to the
ordinary course of business. In the opinion of management, there were no
legal matters pending as of December 31, 1997, which would have a material
effect on its consolidated financial statements.
Credit Extension Commitments.
Bancorp is a party to financial instruments in the normal course of business
to meet the financing needs of its customers. These financial instruments
include commitments to extend credit and standby letters of credit, which
involve to varying degrees, elements of credit and interest rate risk in
excess of the amounts recognized in the consolidated financial statements.
Bancorp's exposure to credit loss in the event of non-performance by the
other party to the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual amount of those
instruments. Bancorp uses the same credit policies in making commitments and
conditional obligations as it does for on-balance sheet instruments.
A summary of the contractual amount of Bancorp's exposure under these
Financial instruments is as follows:
<TABLE>
<CAPTION>
December 31
--------------------------------------------
(In thousands) 1997 1996
- ------------------------------------------------------------------------------
<S> <C> <C>
Financial instruments whose
contractual amounts represent
credit risk:
Commitments to extend credit $114,840 $104,922
Standby letters of credit 12,753 13,807
- ------------------------------------------------------------------------------
</TABLE>
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. Certain
commitments have fixed expiration dates or other termination clauses and may
require payment of a fee. Many of the commitments are expected to expire
without being drawn upon. Accordingly, the total commitment amounts do not
necessarily represent future cash requirements. Bancorp evaluates each
customer's creditworthiness on a case-by-case basis. The amount of
collateral or other security obtained, if deemed necessary by Bancorp upon
extension of credit, is based on management's credit evaluation. Collateral
held varies but may include deposits held in financial institutions, U.S.
Treasury securities, other marketable securities, accounts receivable,
inventory, property and equipment, personal residences, income-producing
commercial properties, and land under development. Personal guarantees are
also obtained to provide added security for certain commitments.
Standby letters of credit are conditional commitments issued by Bancorp
to guarantee the performance of a contract to a third party. Those
guarantees are primarily issued to guarantee the installation of real
property infrastructure and similar transactions. The credit risk involved
in issuing letters of credit is essentially the same as that involved in
extending loan facilities to customers. Bancorp holds collateral and obtains
personal guarantees supporting those commitments for which collateral or
other security is deemed necessary.
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table summarizes the carrying amounts and fair value estimates
of financial instruments at December 31, 1997 and 1996. All fair value
estimates are made at a specific point in time and are based on existing
on- and off- balance sheet financial instruments without consideration of
the value of anticipated future business or the value of assets and
liabilities that are not considered financial instruments. These estimates
do not reflect any premium or discount that could result from a block sale
of a particular instrument. Due to the absence of a genuine market for a
significant portion of Bancorp's financial instruments, fair value estimates
are based on judgments regarding risk characteristics, current economic
conditions, and other factors. These estimates are subjective in nature and
involve uncertainties and matters of significant judgment and therefore
cannot be determined with precision. Changes in assumptions or estimation
methodologies could significantly affect the estimates.
<TABLE>
<CAPTION>
December 31
------------------------------------------
1997 1996
------------------------------------------
Carrying Fair Carrying Fair
(In thousands) Amounts Value Amounts Value
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash
equivalents $ 40,889 $ 40,889 $ 38,705 $ 38,705
Loans held for sale 283 283 309 309
Investment securities
to be held to maturity 94,940 96,650 99,503 100,201
Investment securities
available for sale 136,065 136,065 146,308 146,308
Net loans 714,604 721,714 660,630 671,212
Interest receivable 7,393 7,393 6,701 6,701
Financial liabilities:
Deposits 821,967 823,122 794,750 797,024
Short-term borrowings 86,156 86,156 99,287 99,287
Long-term borrowings 23,454 23,588 6,686 6,527
Interest payable 1,906 1,906 1,719 1,719
</TABLE>
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments:
Cash and Cash Equivalents.
Due to the short-term nature of these financial instruments, carrying amount
was deemed to approximate fair value.
Loans Held for Sale.
Fair value is estimated to equal the carrying amount due to the anticipated
short holding period of these loans.
Investment Securities.
The fair value was estimated using various pricing methods. Fair value for
obligations of states and political subdivisions was estimated by an
independent pricing service using a pricing matrix. Fair value for all other
debt securities was based on quoted market prices or dealer quotes.
Loans.
The fair value was estimated by segregating the portfolio into categories
having similar financial characteristics. Each loan category was then
further segmented into fixed-rate and variable-rate interest terms and by
performing and nonperforming loans.
The fair value of performing loans was estimated by either (1)
discounting estimated future cash flows using discount rates equal to the
current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturity except that, in the absence
of increased credit risk, the carrying amount was generally deemed to
approximate fair value for variable-rate loans due to the frequent repricing
of these instruments at market rates or (2) the option-based pricing
approach, where the market value of a financial instrument is estimated by
generating cash flows for each point along an interest rate path using
scheduled amortizations, coupon payments, and prepayments and then
discounting such cash flows by interest rates associated with the cash flows
plus an option-adjusted spread.
The fair value of nonperforming loans was based predominantly on recent
external appraisals. If appraisals were not available, estimated cash flows
were discounted using a rate commensurate with the risk associated with the
estimated cash flows. Assumptions regarding credit risk, cash flows, and
discount rates were judgmentally determined using available market
information and specific borrower information.
Interest Receivable.
Due to the short-term nature of this financial instrument, carrying amount
was deemed to approximate fair value.
Deposits.
The fair value of deposits with no stated maturity, such as
noninterest-bearing deposits, interest-bearing checking, savings, and money
market accounts, is equal to the carrying amount. Carrying amount
approximates fair value for variable-rate certificates of deposit, and
fixed-rate certificates with original maturities of 12 months or less, due
to the frequent repricing of these instruments at market rates. The fair
value for all other fixed-rate certificates of deposit was estimated by
discounting contractual cash flows using discount rates equal to the rates
currently offered for deposits of similar remaining maturities.
Short-term Borrowings.
Due to the frequent repricing of these financial instruments at market
rates, the carrying amounts approximate fair value.
Long-term Borrowings.
The fair value was estimated by discounting contractual cash flows using
discount rates equal to the current rates for long-term borrowings of
similar remaining maturities.
Interest Payable.
Due to the short-term nature of this financial instrument, carrying amount
was deemed to approximate fair value.
Off-balance Sheet Financial Instruments.
Carrying amounts for commitments to extend credit and standby letters of
credit represent the deferred income arising from these unrecognized
financial instruments. The majority of commitments to extend credit and
standby letters of credit are at variable rates and/or have relatively short
terms to maturity, therefore the carrying amount of these financial
instruments is deemed to closely approximate fair value. Carrying amounts
for these off-balance sheet financial instruments are immaterial.
15. REGULATORY RESTRICTIONS
Restrictions on Dividends.
Approval of the Comptroller of the Currency is required to pay
dividends which exceed the Bank's net profits for the current year plus its
retained net profits for the preceding two years. Amounts available for the
payment of dividends during 1997 aggregated $20,316,000. The Savings Bank's
ability to pay dividends is somewhat restricted based on Office of Thrift
Supervision ("OTS") rules and regulations. Prenotifi-cation of dividend
payments is required. Also, no payments can be made beyond prescribed
formulas without OTS approval. Also, the Savings Bank's earnings
appropriated to bad debt reserves for losses and deducted for federal income
tax purposes are not available for dividends without the payment of taxes at
the then current income tax rates on the amount used.
Restrictions on Lending from Affiliates to Parent.
Federal law imposes certain restrictions limiting the ability of affiliates
to transfer funds to the Parent Company in the form of loans or advances.
Section 23A of the Federal Reserve Act prohibits affiliates from making
loans or advances to the Parent Company in excess of 10 percent of its
capital stock and surplus, as defined therein. In addition, all loans or
advances to non-bank affiliates must be secured by specific collateral.
Based on this limitation, there was approximately $10,714,000 available for
loans or advances to the Parent Company as of December 31, 1997. There were
no material loans or advances outstanding at December 31, 1997.
Restrictions on Cash and Due from Banks.
The Bank is required to maintain average daily reserve balances with the
Federal Reserve Bank. The average amount of these required reserves during
1997 and 1996 was $12,103,000 and $11,267,000, respectively.
16. SHAREHOLDERS' EQUITY
Capital Requirements.
Bancorp, the Bank, and the Savings Bank are required to maintain specified
minimum amounts of capital in accordance with regulatory requirements. The
regulatory capital at December 31, 1997 for these entities was as follows:
<TABLE>
<CAPTION>
Bancorp
-----------------------------------------
Components Actual Required
of Capital Ratio Ratio
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Tangible capital $ 98,606 9.48% 3.00%
Core capital 98,606 12.92 4.00
Core and supplementary capital 107,463 14.08 8.00
The Bank
-----------------------------------------
Components Actual Required
of Capital Ratio Ratio
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Tangible capital $ 75,401 9.30% 3.00%
Core capital 75,401 12.15 4.00
Core and supplementary capital 81,190 13.09 8.00
The Savings Bank
-----------------------------------------
Components Actual Required
of Capital Ratio Ratio
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Tangible capital $ 19,432 8.73% 1.50%
Core capital 19,432 8.73 3.00
Core and supplementary capital 21,221 14.96 8.00
</TABLE>
The entities are considered well-capitalized under the regulatory
framework for prompt corrective action.
Dividend Reinvestment Plan.
Bancorp offers a Dividend Reinvestment and Stock Purchase Plan (the "Plan")
to all Bancorp shareholders. The terms of this Plan allow participating
shareholders to purchase additional shares of common stock in Bancorp by
reinvesting the dividends paid on shares registered in their name, by making
optional cash payments, or both. Shares purchased under the Plan directly
from Bancorp with reinvested dividends can be acquired at 95 percent of
current market prices. Shares purchased under the Plan that were acquired in
the open market can be purchased at 95 percent of their acquisition cost.
Optional cash payments to this Plan are limited and may not exceed $3,000 in
any calendar quarter.
Contributions to the Plan will be used by a designated agent to acquire
common shares of Bancorp, either in the open market or from Bancorp at
current market prices. Bancorp has reserved 57,881 shares of its common
stock for this Plan. Bancorp reserves the right to amend, modify, suspend,
or terminate this Plan at any time at its discretion.
17. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED):
The following is a summary of Bancorp's unaudited quarterly results of
operations.
<TABLE>
<CAPTION>
1997 Three Months Ended
(Dollars in thousands -----------------------------------------------
except per share amounts) Dec. 31 Sept. 30 June 30 March 31
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Interest income $19,481 $19,425 $18,573 $18,048
Net interest income 10,627 10,601 10,240 9,879
Provision for credit losses 450 450 450 450
Gains (losses) on sales of
securities (16) 3 2 -
Income before income taxes 4,249 5,026 4,200 3,805
Net income 3,100 3,435 2,900 2,724
Earnings per common share:
Net income, basic 0.52 0.57 0.48 0.46
Net income, diluted 0.51 0.57 0.48 0.45
------------------------------------------------
1996 Three Months Ended
------------------------------------------------
(Dollars in thousands,
except per share amounts) Dec. 31 Sept. 30 June 30 March 31
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Interest income $18,186 $17,832 $17,511 $17,337
Net interest income 9,879 9,775 9,634 9,360
Provision for credit losses 622 300 300 300
Losses on sales of
securities (275) - (27) (28)
Income before income taxes 2,055 2,489 3,366 3,474
Net income 1,621 1,902 2,614 2,474
Earnings per common share:
Net income, basic 0.27 0.32 0.44 0.42
Net income, diluted 0.27 0.32 0.44 0.41
-----------------------------------------------
</TABLE>
18. FUTURE CHANGE IN ACCOUNTING PRINCIPLES
In June 1997, FASB Statement No. 130, "Reporting Comprehensive Income," was
issued and establishes standards for reporting and displaying comprehensive
income and its components. This statement requires comprehensive income and
its components, as recognized under the accounting standards, to be
displayed in a financial statement with the same prominence as other
financial statements. Bancorp plans to adopt the Statement, as required,
beginning in 1998 and its impact is not expected to be material.
The FASB also issued Statement of Financial Accounting Standards No.
131, "Disclosures about Segments of an Enterprise and Related Information,"
in June 1997, which establishes new standards for reporting information
about operating segments in annual and interim financial statements. This
statement also requires descriptive information about the way the operating
segments are determined, the products and services provided by the segments
and the nature of differences between reportable segment measurements and
those used for the consolidated entity. This Statement is effective for
years beginning after December 15, 1997. Adoption in interim financial
statements is not required until the year following initial adoption. Once
adopted, however, comparative prior period information is required. Bancorp
is evaluating the Statement and plans to adopt the Statement as required in
1998. Adoption of this Statement is not expected to have a material impact
on Bancorp.
In February 1998, the FASB issued Statement No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits" which revises
employers' disclosures about pensions and other postretirement benefit plans.
It does not change the measurement or recognition of these plans. It
standardizes disclosure requirements for these plans, requires additional
information on changes in the benefit obligations and fair values of plan
assets, and eliminates certain disclosures that are no longer useful. The
Statement is effective for fiscal years beginning after December 15, 1997.
Earlier application is encouraged and restatement of disclosures for prior
periods provided for comparative purposes is required unless the information
is not readily available. Adoption of this Statement is not expected to have
a material impact on Bancorp.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders of F&M Bancorp:
We have audited the accompanying consolidated balance sheets of F&M
Bancorp (a Maryland bank holding company) and subsidiaries as of December 31,
1997 and 1996, and the related consolidated statements of income, changes in
shareholders' equity and cash flows for each of the three years in the
period ended December 31, 1997. These financial statements are the
responsibility of Bancorp's management. Our responsibility is to express an
opinion on these financial statements based on our audits. We did not audit
the consolidated financial statements of Home Federal Corporation, a thrift
holding company acquired during 1996 in a transaction accounted for as a
pooling-of-interests, as discussed in Note 2, for the year ended December
31, 1995. Such statements are included in the consolidated financial
statements of F&M Bancorp and reflect 22 percent of consolidated total
income for 1995. These statements were audited by other auditors whose
report has been furnished to us and our opinion, insofar as it relates to
amounts included for Home Federal Corporation, is based solely on the report
of the other auditors.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits and the report
of other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other
auditors, the financial statements referred to above present fairly, in all
material respects, the financial position of F&M Bancorp and subsidiaries as
of December 31, 1997 and 1996, and the results of their operations and their
cash flows for each of the three years in the period ended December 31,1997
in conformity with generally accepted accounting principles.
/s/ Arthur Andersen, LLP
------------------------
Arthur Andersen, LLP
Washington, D.C.
January 20, 1998
INDEPENDENT AUDITOR'S REPORT
Stockholders and Board of Directors
Home Federal Corporation
We have audited the consolidated statements of changes in stockholders'
equity, income and cash flows (not separately presented herein) of Home
Federal Corporation and Subsidiaries (Corporation) for the year ended
December 31, 1995. These financial statements are the responsibility of the
Corporation's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation. We believe
that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the results of the operations
and cash flows of Home Federal Corporation and Subsidiaries for the year
ended December 31, 1995 in conformity with generally accepted accounting
principles.
/s/ Smith Elliott Kearns & Company, LLC
---------------------------------------
Smith Elliott Kearns & Company, LLC
Hagerstown, Maryland
February 16, 1996
DIRECTORS & OFFICERS
F&M BANCORP and
FARMERS & MECHANICS NATIONAL BANK
BOARD OF DIRECTORS
R. Carl Benna
President
North American Housing Corp
Howard B. Bowen(1)
President, Ewing Oil Company, Inc.
John D. Brunk
President
Frederick Produce Company, Inc.
Beverly B. Byron
former Representative
United States Congress
Faye E. Cannon
President and Chief Executive Officer
Martha E. Church, Ph.D.
President Emerita, Hood College
Senior Scholar at The Carnegie Foundation
for the Advancement of Teaching
Albert H. Cohen
Investor and Building Consultant
Maurice A. Gladhill
President, Gladhill Tractor Mart, Inc.
Charles W. Hoff, III
Chairman of the Board
James K. Kluttz
President and Chief Executive Officer
Frederick Memorial Hospital
Robert K. Moler
President, Prescription Arts, Inc.
Charles A. Nicodemus
Chairman of the Board
Frederick Mutual Insurance Company
Richard W. Phoebus, Sr.(1)
President and Chief Executive Officer
Home Federal Savings Bank
H. Deets Warfield, Jr.
President
Damascus Motor Company, Inc.
John C. Warfield
President
The Frederick Motor Company
Thomas R. Winkler
Executive Vice President and
Chief Operating Officer, BioWhittaker, Inc.
George B. Delaplaine, Jr.
M. Robert Ritchie, Jr.
H. Reese Shoemaker, Jr.
Directors Emeriti
(1) Director of F&M Bancorp only.
F&M BANCORP
OFFICERS
Charles W. Hoff, III
Chairman of the Board
Faye E. Cannon
President and Chief Executive Officer
Richard W. Phoebus, Sr.
Vice President
David R. Stauffer
Vice President
David L. Spilman
Treasurer
Gordon M. Cooley
Secretary and Legal Officer
Alice E. Stonebreaker
Assistant Secretary and
Assistant Treasurer
FARMERS & MECHANICS NATIONAL BANK
ADVISORY COUNCIL
Joseph D. Baker, II
R. Holmes Baker
M. Roland Biser
James F. Black
John Nelson Bowers
Howard N. Boyer
Charles W. Burrier, Jr.
Alan L. Carroll, M.D.
George W. Cooley
Alvie N. Covell
John T. Croghan
Millard E. Crum, Jr.
John M. Culler, M.D.
Russell E. Delauter
Walter L. Engle
James E. Fitzgerald, Sr.
Joseph C. Free
Harry Y. George, Jr.
Bernard D. Gladhill
Paul J. Green
William H. Hemp
Edward G. Higinbotham
Gary M. Himes
John S. Hollinger
Robert G. Hooper
Raymond R. Houck
William D. Jeffries
Charlotte W. Kerrigan
Chester M. Leishear
James W. Linton, Jr.
Richard L. Martin
Forrest G. Moler, Jr.
Harold M. Molesworth, Jr.
William L. Moore
Ralph W. Morgan
C. Rodman Myers
Robert B. Ogle
Roscoe L. Pearce
Nelson M. Pittinger
Robert L. Price
Donald E. Rough
William E. Sauser
G. Donald Shafer
Ernest R. Shriver
William A. Simmons
John W. Stroh, M.D.
James E. Stoner, Jr., M.D.
Harry H. Swomley, Jr.
Charles H. Thornton
William E. Wagner, Jr.
Drainie B. Watson
Horace H. Waybright
Lila C. Wenner
Richard T. White
Floyd C. Wickham
Maurice L. Williams
Thomas R. Winebrener
J. Trego Zimmerman
FARMERS & MECHANICS
NATIONAL BANK
EXECUTIVE OFFICERS
Charles W. Hoff, III
Chairman of the Board
Faye E. Cannon
President and Chief Executive Officer
David R. Stauffer
Executive Vice President
David L. Spilman
Senior Vice President and
Chief Financial Officer
Karen L. Korrell
Senior Vice President
Alice E. Stonebreaker
Senior Vice President
Patti A. Stuckey
Senior Vice President
HOME FEDERAL
SAVINGS BANK
BOARD OF DIRECTORS
Howard B. Bowen
President, Ewing Oil Company, Inc.
Faye E. Cannon
President and Chief Executive Officer
F&M Bancorp and Farmers & Mechanics National Bank
Lois S. Harrison
Member, Board of Trustees
Hood College
Benjamin J. Kunkleman
President
The American Cedar Works, Inc.
John J. McElwee, Jr.
President
Antietam Health Services, Inc.
Richard W. Phoebus, Sr.
President and Chief Executive Officer
J. Frank Shank
Realtor, Coldwell Banker
David R. Stauffer
Vice President, F&M Bancorp
Executive Vice President,
Farmers & Mechanics National Bank
Ronald Z. Sulchek
President, Sulchek & Co.
M. William Dutton, Jr.
William H. Gelbach
E. Leister Mobley, Jr.
Directors Emeriti
EXECUTIVE OFFICERS
Richard W. Phoebus, Sr.
President and Chief Executive Officer
Julie A. Donat
Senior Vice President and Treasurer
Douglas G. Metz
Senior Vice President
Cynthia H. Perine
Senior Vice President and Secretary
CORPORATE INFORMATION
CORPORATE HEADQUARTERS
F&M Bancorp
110 Thomas Johnson Drive
Frederick, Maryland 21702
(301) 694-4000
http://www.fmbn.com
Mailing Address:
110 Thomas Johnson Drive
P.O. Box 518
Frederick, Maryland 21705
CUSTOMERS
Customers seeking assistance with their accounts and services may call Farmers
and Mechanics National Bank, (800) 445-3626, or Home Federal Savings Bank,
(800) 669-6695.
FINANCIAL and OTHER INFORMATION
Contact Investor Relations at (888) 694-4170, or visit our Web site at the
address above regarding the following:
Analysts, portfolio managers, shareholders and other investors seeking
additional information.
News media representatives seeking information.
Requests for copies of the Corporation's Forms 10-K, 10-Q and Proxy Statement
filed with the Securities and Exchange Commission and prior annual and
quarterly reports to shareholders.
INDEPENDENT ACCOUNTANTS
Arthur Andersen LLP
Tycon Tower
Vienna, Virginia 22182
SECURITIES MARKETS
F&M Bancorp common stock is publicly traded and quoted on the NASDAQ National
Market System under the symbol "FMBN". Principal market makers are:
Ferris, Baker Watts, Inc.
Baltimore, MD
(410) 659-4613
Herzog, Heine, Geduld, Inc.
Philadelphia, PA
(215) 972-0860
Ryan, Beck & Co.
West Orange, NJ
(800) 325-7926
Wedbush, Morgan Securities, Inc.
New York, NY
(800) 421-0251
Wheat First Union
Richmond, VA
(804) 782-3316
SHAREHOLDER INFORMATION - TRANSFER AGENT
Norwest Shareowner Services
P.O. Box 64854
St. Paul, Minnesota 55164-0854
(800) 468-9716
Contact our transfer agent regarding the following:
Shareholders seeking information regarding participation in the F&M Bancorp
Dividend Reinvestment and Stock Purchase Plan. The Plan is offered to
registered shareholders as an economical way of increasing their ownership in
F&M Bancorp. Shareowners may elect to have cash dividends automatically
reinvested in F&M Bancorp stock on the dividend payment date at a 5% discount
to the market price, and may also make optional cash payments, from $25 to
$3,000 per quarter, towards the purchase of F&M shares with no brokers fees or
commissions.
Shareholders who have questions about their accounts or who wish to change
ownership or address of stock, to report lost, stolen or destroyed
certificates, or to consolidate accounts.
ANNUAL MEETING
The F&M Bancorp Annual Meeting of Shareholders will be held at 10:00 a.m. on
Tuesday, April 21, 1998 at Corporate Headquarters.
STOCK PRICE and DIVIDENDS (1)
<TABLE>
<CAPTION>
1997 1996
- ----------------------------------------------------------------------------
High Low Close Dividend High Low Close Dividend
- ----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
First Q 27.14 21.91 25.71 $0.21 28.57 26.91 26.91 $0.19
Second Q 27.14 24.29 26.43 0.21 28.21 21.43 21.43 0.19
Third Q 34.75 25.48 33.25 0.22 23.45 20.00 23.45 0.19
Fourth Q 38.00 33.00 38.00 0.22 23.57 21.19 22.86 0.19
(1)Data have been restated for 5% stock dividend paid in August 1997.
</TABLE>
The most recent quarterly dividend was $0.25 per share paid February 1, 1998
to holders of record January 22, 1998. Quarterly dividends are customarily
paid on February 1, May 1, August 1 and November 1.
A total of 6,013,456 shares of F&M Bancorp common stock held by approximately
6,170 registered and beneficial owners at January 23, 1998 are entitled to
notice of and to vote at the annual meeting.
Concept and Design: Alpert and Alpert, Inc., McLean, VA
F&M BANCORP
110 Thomas Johnson Drive
Frederick, MD 21702
EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT
------------------------------
The following list sets forth the name of the Registrant and each of its
subsidiaries, the states or other jurisdictions under which they are
organized, and the percentage ownership of the voting securities of each
corporation by its immediate parent.
Name of Corporation and State Percentage of voting securities
under which organized owned by immediate parent
- ----------------------------- -------------------------------
F&M Bancorp (MD) --
Farmers & Mechanics National
Bank (U.S.) 100%
Key Holdings, Inc. (MD) 100%
Monocacy Center Associates L.P. (VA) 60%
Key Management, Inc (DE) 100%
Maryland General Insurance Agency Inc. (MD) 100%
Home Federal Savings Bank (U.S.) 100%
Family Home Insurance Agency, Inc. (MD) 100%
RLC Associates, Inc. (MD) 100%
Ronald Harris Parker Associates, Inc. (MD) 100%
CLC Associates, Inc. (MD) 100%
Keystone General Partnership 80%
Home Appraisals, Inc. (MD) 100%
TJW Associates, Inc. (MD) 100%
Galloway Holdings, LLC (NJ.) 30.79%
DMP, Inc. (MD) 100%
EXHIBIT 23.1
Report of Independent Public Accountants
As independent public accountants, we hereby consent to the incorporation by
reference of our report dated January 20, 1998, relating to the consolidated
balance sheets of F&M Bancorp and its subsidiaries as of December 31, 1997 and
1996 and the related consolidated statements of income, changes in
shareholders' equity, and cash flows for each of the years in the three year
period ended December 31, 1997, which report appears on page 43 of the 1997
F&M Bancorp Annual Report, into the Form 10-K and into the following
previously filed Registration Statements of F&M Bancorp: Numbers 33-39941 and
33-39942 on Form S-8, and 33-39940 on Form S-3.
/s/ Arthur Andersen, LLP
------------------------
Arthur Andersen, LLP
Washington, D.C.
March 18, 1998
EXHIBIT 23.2
Consent or Independent Auditors
We hereby consent to the incorporation by reference of our report dated
February 16, 1996, relating to the consolidated statements of income, changes
in stockholders' equity, and cash flows of Home Federal Corporation and
Subsidiaries for the year ended December 31, 1995, which report appears on
page 43 of the 1997 F&M Bancorp Annual Report, into the Form 10-K and into the
following previously filed Registration Statements of F&M Bancorp: Numbers 33-
39941 and 33-39942 on Form S-8, and 33-39940 on Form S-3.
/s/ Smith Elliott Kearns & Company, LLC
---------------------------------------
Smith Elliott Kearns & Company, LLC
Hagerstown, Maryland
March 18, 1997
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
EXHIBIT 27
This schedule contains summary financial information extracted from the
registrant's Annual Report to Shareholders for the year ended December 31,
1997.
- ------------------------------------------------------
<S> <C>
YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 30,116
<INT-BEARING-DEPOSITS> 9,073
<FED-FUNDS-SOLD> 1,700
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 136,065
<INVESTMENTS-CARRYING> 94,940
<INVESTMENTS-MARKET> 96,650
<LOANS> 724,134
<ALLOWANCE> 9,530
<TOTAL-ASSETS> 1,044,388
<DEPOSITS> 821,967
<SHORT-TERM> 86,156
<LIABILITIES-OTHER> 11,137
<LONG-TERM> 23,454
0
0
<COMMON> 30,022
<OTHER-SE> 71,652
<TOTAL-LIABILITIES-AND-EQUITY> 1,044,388
<INTEREST-LOAN> 60,782
<INTEREST-INVEST> 14,413
<INTEREST-OTHER> 332
<INTEREST-TOTAL> 75,527
<INTEREST-DEPOSIT> 28,025
<INTEREST-EXPENSE> 34,180
<INTEREST-INCOME-NET> 41,347
<LOAN-LOSSES> 1,800
<SECURITIES-GAINS> -11
<EXPENSE-OTHER> 35,697
<INCOME-PRETAX> 17,280
<INCOME-PRE-EXTRAORDINARY> 17,280
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 12,159
<EPS-PRIMARY> 2.03
<EPS-DILUTED> 2.01
<YIELD-ACTUAL> 8.21
<LOANS-NON> 5,396
<LOANS-PAST> 538
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 11,200
<ALLOWANCE-OPEN> 9,639
<CHARGE-OFFS> 4,740
<RECOVERIES> 2,831
<ALLOWANCE-CLOSE> 9,530
<ALLOWANCE-DOMESTIC> 8,672
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 858
</TABLE>
