SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997
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OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______________ to _______________________
Commission file number 0-17706
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QNB Corp.
--------------------------------
(Exact Name of Registrant as Specified in Its Charter)
Pennsylvania 23-2318082
- ------------------------------- ------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
10 North Third Street, Quakertown, PA 18951-9005
- --------------------------------------- -----------
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code (215) 538-5600
---------------
Not Applicable
-----------------------------
Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report.
Indicate by check x whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes x No ___
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at August 12, 1997
Common Stock, par value $1.25 1,428,138
<PAGE>
QNB CORP. AND SUBSIDIARY
FORM 10-Q
QUARTER ENDED JUNE 30, 1997
INDEX
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS PAGE
Consolidated Statements of Income for Three and
Six Months Ended June 30, 1997 and 1996...................1
Consolidated Balance Sheets at June 30, 1997
and December 31, 1996......................................2
Consolidated Statements of Cash Flows for Six
Months Ended June 30, 1997 and 1996........................3
Notes to Consolidated Financial Statements..........................4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF
OPERATIONS AND FINANCIAL CONDITION..................................5
PART II - OTHER INFORMATION
OTHER INFORMATION..................................................16
<PAGE>
CONSOLIDATED STATEMENTS OF INCOME QNB Corp. and Subsidiary
<TABLE>
<CAPTION>
(in thousands, except per share data)
(unaudited)
Three Months Six Months
Ended June 30, Ended June 30,
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest Income
Interest and fees on loans .......................................... $ 3,534 $ 3,371 $ 6,999 $ 6,684
Interest and dividends on investment securities available-for-sale .. 1,030 815 1,942 1,635
Interest and dividends on investment securities held-to-maturity .... 640 659 1,282 1,315
Interest on Federal funds sold ...................................... 48 51 92 102
------- ------- ------- -------
Total interest income ...................................... 5,252 4,896 10,315 9,736
------- ------- ------- -------
Interest Expense
Interest on deposits:
NOW accounts ................................................... 167 143 332 294
Money market accounts .......................................... 233 256 464 513
Savings ........................................................ 194 197 384 386
Time ........................................................... 1,339 1,148 2,634 2,303
Time over $100,000 ............................................. 237 205 448 431
Interest on short-term borrowings ................................... 77 65 147 128
------- ------- ------- -------
Total interest expense ..................................... 2,247 2,014 4,409 4,055
------- ------- ------- -------
Net interest income ........................................ 3,005 2,882 5,906 5,681
Provision for possible loan losses .................................. 100 100 200 200
------- ------- ------- -------
Net interest income after provision for possible loan losses 2,905 2,782 5,706 5,481
------- ------- ------- -------
Non-Interest Income
Fees for services to customers ...................................... 269 261 538 515
Mortgage servicing fees ............................................. 48 52 93 107
Net gain on investment securities ................................... 5 23 165 93
Net gain (loss) on sale of loans .................................... 8 (16) 42 39
Other operating income .............................................. 119 60 238 122
------- ------- ------- -------
Total non-interest income .................................. 449 380 1,076 876
------- ------- ------- -------
Non-Interest Expense
Salaries and employee benefits ...................................... 1,303 1,298 2,654 2,545
Net occupancy expense ............................................... 162 164 325 334
Furniture and equipment expense ..................................... 158 170 345 318
Marketing expense ................................................... 82 84 141 143
Supplies expense .................................................... 42 43 92 98
Professional fees ................................................... 40 28 89 83
Insurance expense ................................................... 24 22 51 45
Other real estate owned expense ..................................... 71 45 106 90
Other expense ....................................................... 372 346 730 684
------- ------- ------- -------
Total non-interest expense ................................. 2,254 2,200 4,533 4,340
------- ------- ------- -------
Income before income taxes ..................................... 1,100 962 2,249 2,017
Provision for income taxes .......................................... 319 262 647 556
======= ======= ======= =======
Net Income ..................................................... $ 781 $ 700 $ 1,602 $ 1,461
======= ======= ======= =======
Net Income Per Share ........................................... $ .54 $ .49 $ 1.12 $ 1.02
======= ======= ======= =======
Cash Dividends Per Share ....................................... $ .16 $ .14 $ .32 $ .28
======= ======= ======= =======
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
1
<PAGE>
CONSOLIDATED BALANCE SHEETS QNB Corp. and Subsidiary
<TABLE>
(in thousands)
(unaudited)
June 30, December 31,
1997 1996
---- ----
<S> <C> <C>
Assets
Cash and due from banks ................................ $ 14,269 $ 12,459
Federal funds sold ..................................... 3,970 6,480
Investment securities
available-for-sale ................................ 63,738 52,779
held-to-maturity (market value $42,068 and $42,760) 41,981 42,699
Total loans, net of unearned income of $408 and $432 ... 163,633 159,278
Allowance for possible loan losses ................ (2,660) (2,585)
--------- ---------
Net loans ..................................... 160,973 156,693
Premises and equipment, net ............................ 4,162 4,358
Other real estate owned ................................ 1,080 1,395
Accrued interest receivable ............................ 1,817 1,689
Other assets ........................................... 2,082 1,895
--------- ---------
Total assets ........................................... $ 294,072 $ 280,447
========= =========
Liabilities
Deposits
Demand, noninterest-bearing ....................... $ 38,669 $ 32,033
NOW accounts ...................................... 37,454 39,566
Money market accounts ............................. 33,812 31,847
Savings ........................................... 35,594 34,287
Time .............................................. 97,415 94,878
Time over $100,000 ................................ 16,484 14,133
--------- ---------
Total deposits ................................ 259,428 246,744
Short-term borrowings .................................. 8,488 8,675
Accrued interest payable ............................... 1,042 1,012
Other liabilities ...................................... 1,171 1,241
--------- ---------
Total liabilities ...................................... 270,129 257,672
========= =========
Commitments and contingencies
Shareholders' Equity
Common stock, par value $1.25 per share;
authorized 5,000,000 shares; issued
1,428,138 shares and 1,425,951 shares ............. 1,785 1,782
Surplus ................................................ 4,345 4,296
Retained earnings ...................................... 17,730 16,585
Unrealized holding gains, net of taxes, on
investment securities available-for-sale .......... 83 112
========= =========
Total shareholders' equity ............................. 23,943 22,775
========= =========
Total liabilities and shareholders' equity ............. $ 294,072 $ 280,447
========= =========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
2
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS QNB Corp. and Subsidiary
<TABLE>
<CAPTION>
(in thousands)
(unaudited)
Six Months Ended June 30, 1997 1996
---- ----
<S> <C> <C>
Operating Activities
Net income ................................................... $ 1,602 $ 1,461
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for possible loan losses ......................... 200 200
Depreciation and amortization .............................. 250 244
Securities gains ........................................... (165) (93)
Net gain on sale of loans .................................. (42) (39)
Writedowns, net of losses (gains) on sales of
other real estate owned ................................. 9 34
Deferred income tax provision .............................. (20) (24)
Change in income taxes payable ............................. (70) (119)
Net (increase) decrease in interest and dividends receivable (128) 122
Net amortization of premiums and discounts ................. 8 38
Net increase (decrease) in interest payable ................ 30 (79)
Increase in other assets ................................... (82) (200)
(Decrease) increase in other liablilities .................. (70) 109
------- -------
Net cash provided by operating activities .................. 1,522 1,654
------- -------
Investing Activities
Proceeds from maturities and calls of investment securities
available-for-sale ......................................... 6,146 11,080
held-to-maturity ........................................... 1,978 3,804
Proceeds from sales of investment securities
available-for-sale ......................................... 9,951 5,655
Purchase of investment securities
available-for-sale ......................................... (26,958) (13,275)
held-to-maturity ........................................... (1,245) (6,709)
Net decrease (increase) in Federal funds sold ................ 2,510 (6,241)
Proceeds from sale of student loans .......................... 1,381 1,361
Proceeds from sales of residential mortgages ................. 593 2,073
Originations of residential mortgages held-for-sale .......... (396) (2,000)
Net increase in loans ........................................ (6,016) (210)
Net purchases of premises and equipment ...................... (54) (213)
Proceeds from the sale of other real estate owned ............ 306 131
------- -------
Net cash used by investing activities ...................... (11,804) (4,544)
------- -------
Financing Activities
Net increase in noninterest-bearing deposits ................. 6,636 1,378
Net increase in interest-bearing deposits .................... 6,048 2,291
Net decrease in short-term borrowings ........................ (187) (954)
Cash dividends paid .......................................... (457) (399)
Proceeds from issuance of common stock ....................... 52 9
------- -------
Net cash provided by financing activities .................. 12,092 2,325
------- -------
Increase (decrease) in cash and cash equivalents ........... 1,810 (565)
Cash and cash equivalents at beginning of year ............. 12,459 12,950
------- -------
Cash and cash equivalents at end of period ................. $ 14,269 $ 12,385
======== ========
Supplemental Cash Flow Disclosures
Interest paid ................................................ $ 4,379 $ 4,134
Income taxes paid ............................................ 730 700
Non-Cash Transactions
Transfer of loans to other real estate owned ............... __ 957
Change in net unrealized holding gains (losses),
net of taxes, on investment securities ..................... (29) (558)
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
3
<PAGE>
QNB CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1997 AND 1996, AND DECEMBER 31, 1996
(Unaudited)
1. REPORTING AND ACCOUNTING POLICIES
The accompanying consolidated financial statements include the accounts of QNB
Corp. and its wholly owned subsidiary, The Quakertown National Bank, (QNB). All
significant intercompany accounts and transactions are eliminated in the
consolidated statements.
The consolidated balance sheet as of June 30, 1997, as well as the respective
statements of income and cash flows for the three and six month periods ended
June 30, 1997 and 1996, are unaudited. These financial statements should be read
in conjunction with the audited financial statements and notes thereto included
in QNB's 1996 Annual Report incorporated in the Form 10-K.
The financial statements reflect all adjustments, which in the opinion of
management are necessary for a fair presentation of the results of the interim
periods and are of a normal and recurring nature. The results for the periods
presented are not necessarily indicative of the full year. Certain accounts in
last year's financial statements have been reclassified to conform to the
current year's presentation. These reclassifications had no effect on net
income.
2. PER SHARE DATA
The following average shares were used for the computation of earnings per
share:
For the Six Months
Ended June 30,
1997 1996
Average shares 1,427,178 1,423,932
In February 1997, the Financial Accounting Standards Board issued Statement No.
128, Earnings per Share, which is required to be adopted on December 31, 1997.
At that time, QNB will be required to change the method currently used to
compute earnings per share and to restate all prior periods. Under the new
requirements for calculating primary earnings per share, the dilutive effect of
stock options will be excluded. The impact of Statement 128 on the calculation
of primary earnings per share and fully diluted earnings per share for these
quarters is not expected to be material.
3. PENDING ACQUISITION
On June 20, 1997, The Quakertown National Bank (the Bank) and First Lehigh Bank,
a wholly-owned subsidiary of First Lehigh Corp., signed a definitive agreement
for the Bank to purchase certain assets and assume certain liabilities of the
Quakertown office of First Lehigh Bank. The office has deposits totaling
approximately $9 million. The sale is subject to obtaining all regulatory
approval and, therefore, the final closing is not expected until the fourth
quarter of 1997.
4
<PAGE>
QNB CORP. AND SUBSIDIARY
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
QNB Corp. (the "Corporation") is a bank holding company headquartered in
Quakertown, Pennsylvania which provides a full range of commercial and retail
banking services through its banking subsidiary, The Quakertown National Bank
(the "Bank"), a 120 year old community bank with locations in Upper Bucks,
Northern Montgomery and Southern Lehigh Counties. The results of operations and
financial condition discussed herein are presented on a consolidated basis and
the consolidated entity is referred to herein as "QNB."
In addition to historical information, this management discussion and analysis
contains forward-looking statements. The forward-looking statements contained
herein are subject to certain risks and uncertainties that could cause actual
results to differ materially from those projected in the forward-looking
statements. Readers are cautioned not to place undue reliance on these
forward-looking statements, which reflect management's analysis only as of the
date hereof. The Corporation undertakes no obligation to publicly revise or
update these forward-looking statements to reflect events or circumstances that
arise after the date hereof.
RESULTS OF OPERATIONS
QNB recorded earnings of $781,000 or $.54 per share for the three month period
ending June 30, 1997. This represents an 11.6 percent increase from net income
of $700,000 or $.49 per share reported for the same period in 1996. For the six
month periods ending June 30, 1997 and 1996, net income and earnings per share
were $1,602,000 and $1.12 and $1,461,000 and $1.02, respectively.
The increase in net income when comparing the two quarters can primarily be
attributed to a $123,000 or 4.3 percent increase in net interest income
resulting from growth in average earning assets. Average earning assets
increased 6.3 percent when comparing the two quarters. This increase offset an
11 basis point decrease in the net interest margin that resulted primarily from
higher cost of funds. Non-interest income increased $69,000 or 18.2 percent
while non-interest expense increased $54,000 or 2.5 percent when comparing the
three month periods.
For the six month period net interest income increased $225,000 or 4.0 percent.
Average earning assets increased by 4.9 percent while the net interest margin
declined by four basis points. Also contributing to the results during the first
half of 1997 was the pre-tax gain on the sale of equity securities of $159,000.
This compares to a gain of $70,000 on the sale of equity securities during the
first six months of 1996. Excluding the gains on securities sales non-interest
income increased $128,000 when comparing the six month periods. This is
primarily the result of rental income on other real estate owned and the
introduction of a check card product. Non-interest expense increased $193,000 in
the first half of 1997 principally as a result of increases in salaries and
benefits expense, other real estate owned expense, Federal Deposit Insurance
premium expense and furniture and equipment expense.
NET INTEREST INCOME
Net interest income is the primary source of operating income for QNB. Net
interest income is interest income, dividends, and fees on earning assets, less
interest expense incurred for funding sources. Earning assets primarily include
loans, investment securities and Federal funds sold. Sources used to fund these
assets include deposits, borrowed funds and shareholders' equity. Net interest
income is affected by changes in interest rates, the volume and mix of earning
assets and interest-bearing liabilities, and the amount of earning assets funded
by non-interest-bearing deposits and shareholders' equity.
5
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
NET INTEREST INCOME (Continued)
Net interest income for the three months ended June 30, 1997 was $3,005,000
compared to $2,882,000 for the quarter ending June 30, 1996. A 6.3 percent
increase in average earning assets offset an 11 basis point decrease in the net
interest margin. The growth in earning assets during the quarter occurred in
both loans and investments with average loans increasing from $154,204,000 to
$160,935,000 and average investment securities increasing from $96,319,000 to
$105,824,000. The growth in earning assets was fueled by increases in both
deposits, primarily interest-bearing, and short-term borrowings. The decrease in
the net interest margin is a result of the rate paid on sources of funds
increasing to a greater degree than the yield on earning assets. The yield on
earning assets on a fully taxable equivalent basis was 7.96 percent for the
second quarter of 1997 versus 7.92 percent for the second quarter of 1996, while
the rate paid on interest-bearing liabilities was 3.89 percent and 3.71 percent
for the same periods. The higher yield on earning assets is a result of an
increase in the yield on investment securities from 6.43 percent to 6.59
percent. The yield on loans stayed constant during both periods at 8.92 percent.
The net interest margin on a fully taxable equivalent basis for the three month
period ended June 30, 1997 was 4.63 percent compared to 4.74 percent for the
same period in 1996.
Net interest income for the six month period ending June 30, 1997 was
$5,906,000, an increase of $225,000 over the $5,681,000 recorded in 1996. A 4.9
percent increase in average earning assets offset a four basis point decline in
the net interest margin. Total interest income increased $579,000 from
$9,736,000 to $10,315,000 when comparing the six month periods ending June 30,
1996 to June 30, 1997. The yield on earning assets increased from 7.88 percent
to 7.97 percent, with the yield on investment securities increasing from 6.44
percent to 6.59 percent and the yield on loans increasing from 8.84 percent to
8.91 percent during the six month periods. Average investment securities
increased 6.9 percent to $102,779,000 while average loans increased 4.0 percent
to $160,437,000. Total interest expense increased $354,000 from $4,055,000 to
$4,409,000 for the six month periods. The rate paid on interest-bearing
liabilities increased from 3.73 percent to 3.88 percent, with the yield on
interest-bearing deposits increasing from 3.75 percent to 3.91 percent. Average
interest-bearing deposits increased 4.4 percent to $219,679,000 for the six
month period ending June 30, 1997. The net interest margin for the six month
periods ended June 30, 1997 and 1996 was 4.64 percent and 4.68 percent,
respectively.
The movement of interest rates during the six month periods has been in opposite
directions. During 1996, interest rates hit their low in February, than
increased rapidly throughout the second quarter. The prime rate decreased by 25
basis points from 8.50 percent to 8.25 percent in January. In contrast, during
1997, market interest rates increased during the first quarter of 1997, then
declined during the second quarter. The Federal Reserve increased the Federal
funds rate from 5.25 percent to 5.50 percent at the end of the first quarter.
The prime rate followed with a 25 basis point increase to 8.50 percent. The
increased yield on earning assets during both the three and six month periods
was primarily the result of higher yields on investment securities. Contributing
to the higher yield was a higher level of interest rates for the investment of
excess funds, the maturity and sales of lower yielding investment securities and
a slight lengthening of the weighted average maturity of the investment
portfolio.
The increase in the rate paid on interest-bearing liabilities was primarily the
result of higher rates on time deposits. During the first quarter of 1997, QNB
introduced a 30 month certificate of deposit that enables the holder to increase
the interest rate twice during the term of the certificate, should rates offered
on the 30 month time deposit increase. As a result of this promotion QNB
experienced a small shift of funds from lower yielding non-maturity deposits to
time deposits. QNB anticipates a slight decline in the net interest margin
during the second half of 1997 as rates paid on interest-bearing deposits,
primarily money market accounts and short-term
6
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
NET INTEREST INCOME (Continued)
borrowings increase slightly while rates earned on loans and investment
securities decline as a result of lower market interest rates. The higher cost
of funds will be a result of the catch up of the lag on the repricing of
deposits and short-term borrowings and promotional rates paid on interest
bearing checking accounts and money market accounts.
PROVISION FOR POSSIBLE LOAN LOSSES
The provision for possible loan losses represents management's determination of
the amount necessary to be charged to operations to bring the allowance for
possible loan losses to a level considered adequate in relation to the risk of
possible losses in the loan portfolio. Actual loan losses, net of recoveries,
serve to reduce the allowance. Management uses various tools to assess the
adequacy of the allowance for possible loan losses. One tool is a methodology
recommended by the Office of the Comptroller of the Currency. This methodology
considers a number of relevant factors including: historical loan loss
experience, the assigned risk rating of the credit, current and projected credit
worthiness of the borrower, current value of the underlying collateral, levels
of and trends in delinquencies and non-accrual loans, trends in volume and terms
of loans, concentrations of credit and national and local economic trends and
conditions. Other tools include ratio analysis and peer group analysis. The
implementation of SFAS No. 118, as discussed below, also impacts the
determination of the allowance for possible loan losses.
The provision for possible loan losses was $100,000 for both three month periods
and $200,000 for both six month periods ending June 30, 1997 and 1996. Net
charge-offs in the second quarter of 1997 were $117,000 compared to $5,000 for
the same period in 1996. Net charge-offs were $125,000 and $78,000 for the six
month periods ending June 30, 1997 and 1996, respectively. QNB's net charge-offs
as a percentage of average loans was .16 percent (annualized) for the six month
period ended June 30, 1997, compared with .10 percent for the same 1996 period.
The partial charge-off of a group of investment property loans to one borrower
account for $94,000 of the charge-offs in the second quarter of 1997. During the
second quarter of 1996, QNB had a partial recovery of $35,000 on a commercial
loan charged-off in 1992. Management anticipates the provision for possible loan
losses in 1997 to remain near 1996 levels if asset quality continues to improve
as expected and charge-off levels remain relatively low.
Non-performing assets (non-accruing loans, loans past due 90 days or more, and
other real estate owned) increased slightly from the first quarter of 1997 to
the second quarter of 1997. Non-performing assets at June 30, 1997 were
$3,719,000 or 1.26 percent of total assets compared to $3,432,000 or 1.19
percent of total assets at March 31, 1997. Despite this slight setback,
non-performing assets have shown dramatic improvement when compared to the
levels reported at June 30, 1996 and December 31, 1996. Non-performing assets at
these dates were $6,463,000 or 2.31 percent of total assets and $4,260,000 or
1.52 percent of total assets, respectively.
Non-accrual loans were $2,491,000 and $4,751,000 at June 30, 1997 and 1996.
Non-accrual loans at December 31, 1996 were $2,700,000. Other real estate owned
was $1,080,000 at June 30, 1997 compared to $1,567,000 at June 30, 1996 and
$1,395,000 at December 31, 1996. Management anticipates non-performing assets to
decline as a result of pending sales of other real estate.
There were no restructured loans as of June 30, 1997, December 31, 1996 or June
30, 1996 as defined in Statement of Financial Accounting Standards No. 15,
"Accounting by Debtors and Creditors for Troubled Debt Restructurings," that
have not already been included in loans past due 90 days or more or non-accrual
loans.
7
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
PROVISION FOR POSSIBLE LOAN LOSSES (Continued)
The allowance for possible loan losses was $2,660,000 and $2,585,000 at June 30,
1997 and December 31, 1996, respectively. The ratio of the allowance to total
loans was 1.63 percent and 1.62 percent for the respective periods. While QNB
believes that its allowance is adequate to cover losses in the loan portfolio,
there remain inherent uncertainties regarding future economic events and their
potential impact on asset quality.
QNB adopted Statement of Financial Accounting Standards No. 114 (SFAS No. 114),
"Accounting by Creditors for Impairment of a Loan" as amended by Statement of
Financial Accounting Standards No. 118 (SFAS No. 118), "Accounting by Creditors
for Impairment of a Loan - Income Recognition and Disclosures" on January 1,
1995. Under the standard, a loan is considered impaired, based on current
information and events, if it is probable that QNB will be unable to collect the
scheduled payments of principal or interest when due according to the
contractual terms of the loan agreement.
The measurement of impaired loans is generally based on the present value of
expected future cash flows discounted at the historical effective interest rate,
except that all collateral-dependent loans are measured for impairment based on
the fair value of the collateral.
At June 30, 1997 and 1996, the recorded investment in loans for which impairment
has been recognized in accordance with SFAS No. 114 totaled $2,247,000 and
$4,642,000, respectively, of which $1,454,000 and $2,783,000 related to loans
with no valuation allowance and $793,000 and $1,859,000 related to loans with a
corresponding valuation allowance of approximately $363,000 and $544,000,
respectively. Most of the loans identified as impaired are collateral-dependent.
NON-INTEREST INCOME
QNB, through its core banking business, generates various fees and service
charges. Total non-interest income is composed of service charges on deposit
accounts, mortgage servicing fees, gains on the sale of investment securities,
gains on the sale of residential mortgages and student loans, and other
miscellaneous fee income. Total non-interest income increased $69,000 or 18.2
percent to $449,000 for the quarter ending June 30, 1997 when compared to June
30, 1996. For the six month period total non-interest income increased $200,000
or 22.8 percent to $1,076,000.
Fees for services to customers, the largest component of total non-interest
income, is primarily comprised of service charges on deposit accounts. These
fees increased 3.1 percent, to $269,000 from $261,000, when comparing the two
quarters and 4.5 percent to $538,000 when comparing the six month periods.
Charges related to a greater volume of overdrafts and an increase in the number
of accounts and transactions, account for the increase in fees for services to
customers. QNB reviews all service charges and fee schedules related to its
products and services on an ongoing basis. QNB prices its products and services
extremely competitively. QNB has not materially changed these schedules during
1997 or 1996.
To date, when QNB sells its residential mortgages in the secondary market, it
retains servicing rights. A normal servicing fee is retained on all mortgage
loans sold and serviced. Mortgage servicing fees for the quarter ending June 30,
1997 were $48,000 which represents a $4,000 or 7.7 percent decline from the same
period in 1996. The decrease in mortgage servicing fees for the quarter is a
result of a 7.4 percent decline in the average balance of mortgages sold and
serviced to $70,929,000. For the six month period mortgage servicing fees
decreased $14,000 or 13.1 percent to $93,000. The average balance of mortgages
serviced was approximately $71,741,000 for the six month period ending June 30,
1997 compared to $77,998,000 for the first six months of 1996.
8
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
NON-INTEREST INCOME (Continued)
The decrease in the volume of mortgages serviced for others is a result of the
origination of fewer residential mortgages, management's decision to retain 15
and 20 year mortgages, which would have been sold in prior years and payments
received on mortgages serviced. The timing of mortgage payments and
delinquencies also impacts the amount of servicing fees recorded. The
implementation of Statement of Financial Accounting Standards No. 122 (SFAS No.
122), "Accounting for Mortgage Servicing Rights" also impacts the level of
servicing income recorded. SFAS No. 122 requires the recognition of separate
assets relating to the rights to service mortgage loans based on their fair
value if it is practicable to estimate the value. Additionally, the fair value
of servicing assets is required to be measured at each reporting date to
determine any potential impairment. The amortization of the servicing asset
reduces the amount of servicing income recorded.
Net gains on the sale of investment securities were $5,000 for the second
quarter of 1997 compared to $23,000 for the same period in 1996. The gain on the
sale in 1997 was a result of the sale of approximately $6,500,000 of U.S.
Treasury and U.S. agency securities. These securities were primarily sold for
liquidity reasons. The gain recorded in the second quarter of 1996 resulted from
the sale of approximately $5,500,000 in U.S. Treasury and agency securities. QNB
took advantage of a steep slope in the short-end of the Treasury yield curve to
"pre-fund" bonds that would have matured over the next year and a half and
reinvested in bonds in the three to four year range. This allowed QNB to record
a profit on the sale and also increase the overall book yield on the portfolio.
Gains on the sale of investment securities were $165,000 for the first six
months of 1997, compared to $93,000 for the first six months of 1996. QNB owns a
small portfolio of marketable equity securities, bank stocks. QNB took advantage
of the run-up of stock prices during the beginning of 1997 and sold securities
with a cost basis of $329,000 for a gain of $159,000. $70,000 of the gain
recorded in 1996 relates to the sale of a marketable equity security with a book
value of $45,000. During the first quarter of 1997, QNB sold approximately
$3,467,000 of available-for-sale agency debt securities at a gain of $1,000.
This sale was done for liquidity purposes.
QNB recorded a gain of $8,000 on the sale of loans during the second quarter of
1997. This compares to a $16,000 loss for the same period in 1996. The sale of
approximately $263,000 of residential mortgages and $251,000 of student loans
accounts for $5,000 and $3,000 of the gains, respectively in 1997. Declining
interest rates during the second quarter of 1997 enabled QNB to sell these
mortgages at a gain. The sale or write-down of mortgages held for sale accounts
for $17,000 of the loss during the second quarter of 1996, while the sale of
approximately $200,000 in student loans contributed a $1,000 gain. As mentioned
earlier the rapid increase in interest rates after February 1996 created a loss
on the mortgages sold or held for sale. As of June 30, 1997 and 1996, QNB had
approximately $108,000 and $431,000 in mortgage loans classified as held for
sale. These loans are accounted for at lower of cost or market.
For the six month periods ended June 30, 1997 and 1996 net gains on the sale of
loans was $42,000 and $39,000, respectively. The gain on the sale of student
loans was $32,000 and $30,000 while the gain on the sale of residential
mortgages was $10,000 and $9,000, respectively during these six month periods.
QNB sold approximately $1,349,000 and $1,331,000 in student loans during the
first six months of 1997 and 1996. The net gain on residential mortgage sales is
directly related to the volume of mortgages sold and the timing of the sales
relative to the interest rate environment. Proceeds from the sale of residential
mortgages was approximately $593,000 and $2,073,000 during the first six months
of 1997 and 1996. Declining interest rates in 1997 enabled QNB to sell mortgages
at a gain while rising interest rates in 1996 created a smaller gain despite the
higher volume of mortgages sold.
9
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
NON-INTEREST INCOME (Continued)
Other operating income increased $59,000 to $119,000 when comparing the three
month periods and $116,000 to $238,000 when comparing the six month periods
ending June 30, 1997 and 1996. The recognition of rental income on other real
estate owned accounts for $30,000 and $62,000 of the increase for the three and
six month periods. Income on the check card introduced in December 1996 accounts
for $16,000 and $28,000 of the improvement for the three and six month periods.
Increases in merchant processing income, commissions on the sale of retail
investment products, and ATM income also contributed to higher operating income.
NON-INTEREST EXPENSE
Non-interest expense includes salaries and employee benefits, net occupancy
expense, furniture and equipment expense, marketing expense, supplies expense,
professional fees expense, insurance expense, other real estate owned expense,
and various other operating expenses. Total non-interest expense of $2,254,000
for the quarter ending June 30, 1997 represents an increase of $54,000 or 2.5
percent over levels reported in the second quarter of 1996. Total non-interest
expense for the six months ending June 30, 1997 was $4,533,000 an increase of
$193,000 or 4.5 percent over 1996 levels.
Salaries and benefits, the largest component of non-interest expense, increased
$5,000 or 0.4 percent to $1,303,000 for the quarter ending June 30, 1997
compared to the same quarter in 1996. Salaries expense increased $16,000 or 1.6
percent during the period to $1,019,000 while benefits expense decreased $11,000
or 3.7 percent to $284,000. The decrease in benefits expense is primarily the
result of the timing of the expense for Federal and State unemployment taxes.
These taxes decreased $9,000 in the second quarter of 1997 as a result of
accruing these costs on a monthly basis versus expensing them when paid as was
done in 1996. This resulted in a higher expense in the first quarter of 1997 and
a lower expense in the second quarter. Lower disability insurance premiums also
contributed to the decline in benefits expense. Medical premiums and retirement
benefit expense increased modestly during the quarter.
Salaries and benefit expense for the six month period ending June 30, 1997 was
$2,654,000, an increase of $109,000 or 4.3 percent from the same period in 1996.
Salaries expense was $68,000 or 3.4 percent higher, while benefit expense was
$41,000 or 7.6 percent higher. Included in salary expense for the six months
ended June 30, 1997 was $27,000 in severance expense and $33,000 in bonus
accruals. There was no severance expense or bonus expense during the first half
of 1996. Excluding these items salary expense increased $8,000 or 0.4 percent.
The increase in benefits expense is primarily the result of the timing of the
expense for Federal and State unemployment taxes. These taxes increased $30,000
in the first half of 1997 as a result of accruing these costs versus expensing
them when paid as was done in 1996. Also contributing to the increase in
benefits expense was higher medical premiums of $12,000, higher retirement
benefit costs of $6,000 and higher payroll taxes of $6,000. Partially offsetting
these increases were lower disability premiums of $6,000 and lower educational
costs of $6,000.
Net occupancy expense decreased $2,000 or 1.2 percent for the three month period
and $9,000 or 2.7 percent for the six month period. Lower depreciation expense
on buildings and leasehold improvements account for the decrease. Building
repairs and maintenance expense was also lower for both the three and six month
periods. Furniture and equipment expense decreased $12,000 or 7.1 percent when
comparing the three month periods ending June 30, 1997 and 1996, respectively.
Equipment maintenance costs declined $16,000 during the period while
depreciation expense increased $5,000. The decline in equipment maintenance
costs is a function of timing
10
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
NON-INTEREST EXPENSE (Continued)
with these costs being significantly higher in the first quarter of 1997. For
the six month period ended June 30, furniture and equipment expense increased
$27,000 to $345,000 with equipment maintenance costs increasing $13,000 and
depreciation expense increasing $16,000. The increase in equipment maintenance
expense relates primarily to computer equipment.
Supplies expense decreased $6,000 or 6.1 percent to $92,000 for the six month
period ending June 30, 1997. This improvement is a function of better expense
control through a competitive bid process and the timing of purchases.
Professional fees increased $12,000 to $40,000 for the three month period and
$6,000 for the six month period to $89,000. Accounting and legal fees increased
$8,000 and $4,000 during the quarter. The increase in accounting and legal fees
is partially related to costs associated with the acquisition of the deposits of
the First Lehigh Branch in Quakertown. For the six month period accounting
expense was $6,000 higher while legal expense was $2,000 higher.
Insurance expense, which includes Federal Deposit Insurance Corporation
(F.D.I.C.) insurance premiums as well as directors and officers liability
insurance, banker's bond and worker's compensation insurance, increased $2,000
for the three month period to $24,000 and $6,000 for the six month period to
$51,000. F.D.I.C. insurance premiums increased $7,000 for the three month period
and $14,000 for the six month period. In August 1995, the FDIC announced that
the Bank Insurance Fund (BIF) had met its legally set coverage ratios as of May
1995. By obtaining the coverage ratios the FDIC premiums for "well capitalized"
institutions in 1996 were eliminated except for the legally set annual minimum
of $2,000. This minimum has subsequently been eliminated in 1997. However, as a
result of the Deposit Insurance Act of 1996, QNB contributes to the payment of
the Financing Corporation (FICO) obligations. Lower premiums for workers
compensation and directors and officers insurance partially offset the increase
in the F.D.I.C. assessment.
Other real estate owned expense increased $26,000 to $71,000 when comparing the
second quarter of 1997 to the same quarter of 1996 and $16,000 when comparing
the six month periods. The higher amount in 1997 reflects the cost of repairs
and maintenance on a couple of properties. Included in expense in the second
quarter of 1997 was a loss on the sale of a property for $9,000. The majority of
the expense during the second quarter of 1996 relates to the loss on the sale of
one property of $17,000 and the write-down on another property of $17,000.
Total other expense for the three months ending June 30, 1997 was $372,000, an
increase of $26,000 over the same period in 1996. An increase in directors fees
resulting from an increase in the number of Bank directors and the per meeting
cost accounted for $14,000 of the increase. Higher postage costs of $8,000
related to volume also contributed to the increase in other expense. For the six
month period other expense increased $46,000 or 6.7 percent to $730,000. Costs
related to the startup and distribution of the check card account for a
significant part of the increase. An increase in fraud losses, postage expense
and directors fees offset lower commercial loan appraisal costs and foreclosure
costs when comparing the two six month periods ending June 30, 1997 and 1996.
11
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
INCOME TAXES
Applicable income taxes and effective tax rates were $647,000 or 28.8 percent
for the six month period ending June 30, 1997, and $556,000 or 27.6 percent for
the same period in 1996. The slightly higher effective tax rate in 1997 compared
to 1996 is a function of higher taxable income and the relationship between
tax-exempt income to total income before taxes.
QNB utilizes an asset and liability approach for financial accounting and
reporting of income taxes. As of June 30, 1997 QNB's net deferred tax asset was
$769,000 of which $663,000 relates to the allowance for possible loan losses. As
of June 30, 1996 QNB's net deferred tax asset was $919,000 of which $610,000
related to the allowance for possible loan losses and $173,000 was a result of
the SFAS No. 115 adjustment for available-for-sale investment securities.
BALANCE SHEET ANALYSIS
The Balance Sheet Analysis reviews average balance sheet data for the six months
ended June 30, 1997 compared with the twelve month average for the year ended
December 31, 1996 as well as the period ending balances for the same time
periods.
Average earning assets for the six month period ended June 30, 1997 increased
$8,375,000 or 3.2 percent to $266,683,000 from $258,308,000 at December 31,
1996. Average loans and average investments increased $5,262,000 and $4,403,000,
respectively while Federal funds sold decreased $1,299,000. The increase in
average loans is a direct result of the commercial business development program
implemented to increase QNB's loan to deposit ratio and an aggressive marketing
campaign for home equity loans. Average commercial loans increased $3,327,000,
average consumer loans increased $937,000 and average mortgage loans increased
$998,000 when comparing the two periods. The increase in consumer loans is
primarily in fixed rate home equity loans.
The growth in average earning assets was primarily funded by increased
interest-bearing deposits, principally time deposits. Average time deposits
increased $8,608,000 and average short-term borrowings increased $874,000.
Average money market accounts declined $3,482,000. The movement of funds from
money market accounts to time deposits reflects the sensitivity of these funds
to rising time deposit rates as well as the impact of the "double bump"
certificate of deposit promotion. Average shareholders' equity increased
$1,575,000 to $23,228,000.
Total assets at June 30, 1997 were $294,072,000, compared with $280,447,000 at
December 31, 1996, an increase of 4.9 percent. Total deposits increased from
$246,744,000 at December 31, 1996 to $259,428,000 at June 30, 1997. This trend
is encouraging as QNB historically has experienced deposit run-off during the
first half of the year. The increase in assets from December 31, 1996 to June
30, 1997 is primarily centered in investment securities and loans which
increased $10,241,000 and $4,355,000, respectively during the period.
As of December 31, 1996 QNB reported investment securities available-for-sale at
a fair value of $52,779,000 or $170,000 above the amortized cost of $52,609,000.
An unrealized holding gain, net of taxes, of $112,000 was reported as an
increase to shareholders' equity.
As of June 30, 1997 QNB reported investment securities available-for-sale at a
fair value of $63,738,000 or $126,000 over the amortized cost of $63,612,000. An
unrealized holding gain, net of taxes, of $83,000 is reported as an increase to
shareholders' equity.
12
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
BALANCE SHEET ANALYSIS (Continued)
The available-for-sale portfolio had a weighted average maturity of
approximately 4 years and 7 months and 4 years and 1 month at June 30, 1997 and
December 31, 1996, respectively. The weighted average maturity is based on the
stated contractual maturity of all securities except for mortgage-backed
securities which are based on estimated average life. The maturity of the
portfolio may be shorter because of call features in many debt securities and
because of prepayments on mortgage-backed securities. The interest rate
sensitivity analysis reflects the expected maturity distribution of the
securities portfolio based upon estimated call dates and anticipated cash flows
assuming management's most likely interest rate environment. The expected
weighted average life of the available-for-sale portfolio was 3 years and 4
months at June 30, 1997 and 2 years and 1 month at December 31, 1997, based on
these assumptions. Some of the purchases of investments during 1997
included securities with slightly longer maturities and call dates.
Investment securities held-to-maturity are reported at amortized cost. As of
June 30, 1997 and December 31, 1996, QNB had securities classified as
held-to-maturity with an amortized cost of $41,981,000 and $42,699,000 and a
market value of $42,068,000 and $42,760,000, respectively. The held-to-maturity
portfolio had a weighted average maturity of approximately 3 years and 4 months
at June 30, 1997 and 3 years and 6 months at December 31, 1996.
LIQUIDITY
Liquidity represents an institution's ability to generate cash or otherwise
obtain funds at reasonable rates to satisfy commitments to borrowers and demands
of depositors. QNB tries to manage the coordination of its mix of cash, Federal
funds sold, investment securities and loans in order to match the volatility,
seasonality, interest sensitivity and growth trends of its deposit funds.
Liquidity is provided from asset sources through maturities and repayments of
loans and investment securities, net interest income and fee income. The
portfolio of investments available-for-sale and QNB's policy of selling certain
residential mortgage originations and student loans in the secondary market also
provide sources of liquidity.
Cash and due from banks, Federal funds sold, available-for-sale securities and
loans held-for-sale were $82,182,000 and $71,821,000 at June 30, 1997 and
December 31, 1996. These sources were adequate to meet seasonal deposit
withdrawals during the first half of 1997 and should be adequate to meet normal
fluctuations in loan demand and or deposit withdrawals. Approximately
$33,678,000 and $34,381,000 of available-for-sale securities at June 30, 1997
and December 31, 1996 were pledged as collateral for repurchase agreements,
public deposits and other deposits as provided by law. The Bank will be
considering membership in the Federal Home Loan Bank. This would provide QNB
with an additional source of liquidity. The acquisition of deposits from the
Quakertown branch of First Lehigh Bank will provide approximately $9,000,000 in
additional funds to QNB. This transaction is anticipated to be completed during
the fourth quarter of 1997.
The consolidated statements of cash flows present the changes in cash and cash
equivalents from operating, investing and financing activities. QNB's cash and
cash equivalents increased $1,810,000 to $14,269,000 at June 30, 1997. This
compares to a $565,000 decrease during the first six months of 1996. After
adjusting net income for non-cash transactions, operating activities provided
$1,522,000 in cash flow in the first six months of 1997, compared to $1,654,000
in the same period of 1996.
Net cash used by investing activities was $11,804,000 during the first six
months of 1997. This resulted largely from the purchase of investment securities
exceeding sales and maturities by $10,128,000 and a net increase in loans of
$6,016,000. A decrease in Federal funds sold provided $2,510,000 while proceeds
from the sale of
13
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
LIQUIDITY (Continued)
loans provided $1,974,000. Net cash used by investing activities of $4,544,000
during the first six months of 1996 resulted largely from the increase in
Federal funds sold of $6,241,000. Except for the sale and purchase transaction
during the second quarter of 1996, investment activity during 1996 was limited
to the replacement of maturities and calls. Proceeds from the sale of loans
provided cash of $3,434,000 during the first six months of 1996.
Net cash provided by financing activities of $12,092,000 during the first six
months of 1997 was the result of an increase in both demand, noninterest-bearing
deposits and interest-bearing deposits, primarily time deposits and money market
accounts, of $6,636,000 and $6,048,000, respectively. Net cash provided by
financing activities of $2,325,000 during the first six months of 1996 was the
result of an increase in both noninterest-bearing and interest-bearing deposits
of $1,378,000 and $2,291,000, respectively.
CAPITAL ADEQUACY
A strong capital position is fundamental to support continued growth and
profitability, to serve the needs of depositors, and to yield an attractive
return for shareholders. QNB's shareholders' equity at June 30, 1997 was
$23,943,000 or 8.14 percent of total assets compared to shareholders' equity of
$22,775,000 or 8.12 percent at December 31, 1996. Shareholders' equity at June
30, 1997 includes a positive adjustment of $83,000 related to unrealized holding
gains, net of taxes, on investment securities available-for-sale, while
shareholders' equity at December 31, 1996 includes a positive adjustment of
$112,000. Without these adjustments shareholders' equity to total assets would
have been 8.11 percent and 8.08 percent at June 30, 1997 and December 31, 1996.
Shareholders' equity averaged $23,228,000 for the first six months of 1997 and
$21,653,000 during all of 1996, an increase of 7.3 percent. The ratio of average
total equity to average total assets improved to 8.21 percent for 1997, compared
to 7.89 percent for 1996. The increase in the equity to asset ratio is a
function of higher net income, an increase in capital retention despite
increasing the cash dividend in both 1997 and 1996 and modest asset growth.
QNB Corp. and the Quakertown National Bank are subject to various regulatory
capital requirements as issued by Federal regulatory authorities. Regulatory
capital is defined in terms of Tier I capital (shareholders' equity excluding
unrealized gains or losses on available-for-sale securities), Tier II capital
which includes a portion of the allowance for loan losses, and total capital
(Tier I plus II). Risk-based capital ratios are expressed as a percentage of
risk-weighted assets. Risk-weighted assets are determined by assigning various
weights to all assets and off-balance sheet arrangements, such as letters of
credit and loan commitments, based on associated risk. Regulators have also
adopted minimum Tier I leverage ratio standards, which measure the ratio of Tier
I capital to total assets.
The minimum regulatory capital ratios are 4.00 percent for Tier I, 8.00 percent
for the total risk-based and 3.00 percent for leverage. Under the requirements,
QNB has a Tier I capital ratio of 13.35 percent and 13.15 percent, a total
risk-based ratio of 14.61 percent and 14.40 percent and a leverage ratio of 8.31
percent and 8.14 percent at June 30, 1997 and December 31, 1996, respectively.
The Federal Deposit Insurance Corporation Improvement Act of 1991 established
five capital level designations ranging from "well capitalized" to "critically
undercapitalized." At June 30, 1997 and December 31, 1996 QNB met the "well
capitalized" criteria which requires minimum Tier I and total risk-based capital
ratios of 6.00 percent and 10.00 percent, respectively and a Tier I leverage
ratio of 5.00 percent.
14
<PAGE>
QNB CORP. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
INTEREST RATE SENSITIVITY
Since the assets and liabilities of QNB have diverse repricing characteristics
that influence net interest income, management analyzes its interest sensitivity
through the use of gap analysis and simulation models. Interest rate sensitivity
management seeks to minimize the effect of interest rate changes on net interest
margins and interest rate spreads and provide growth in net interest income
through periods of changing interest rates. The Asset/Liability Management
Committee (ALCO) is responsible for managing interest rate risk and for
evaluating the impact of changing interest rate conditions on net interest
income.
Gap analysis measures the difference between volumes of rate-sensitive assets
and liabilities and quantifies these repricing differences for various time
intervals. Static gap analysis describes interest rate sensitivity at one point
in time. However, it alone does not accurately measure the magnitude of changes
in net interest income since changes in interest rates do not impact all
categories of assets and liabilities equally or simultaneously. Interest rate
sensitivity analysis also involves assumptions on certain categories of assets
and deposits. For purposes of interest rate sensitivity analysis, assets and
liabilities are stated at either their contractual maturity, estimated likely
call date, or earliest repricing opportunity. Mortgage-backed securities and
amortizing loans are scheduled based on their anticipated cash flow. Savings
accounts, including passbook, statement savings, money market, and NOW accounts,
do not have a stated maturity or repricing term and can be withdrawn or repriced
at any time. This may impact QNB's margin if more expensive alternative sources
of deposits are required to fund loans or deposit runoff. Management projects
the repricing characteristics of these accounts based on historical performance
and assumptions that it believes reflect their rate sensitivity. A positive gap
results when the amount of interest rate sensitive assets exceeds interest rate
sensitive liabilities. A negative gap results when the amount of interest rate
sensitive liabilities exceeds interest rate sensitive assets.
QNB focuses on the management of the one year interest rate sensitivity gap. At
June 30, 1997, interest earning assets scheduled to mature, likely to be called,
reprice or repay in one year were $87,688,000. Interest sensitive liabilities
scheduled to mature or reprice within one year were $84,415,000. The one year
cumulative gap, which reflects QNB's interest sensitivity over a period of time,
was a positive $3,273,000 at June 30, 1997. The cumulative one-year gap equals
1.2 percent of total earning assets. This positive or asset sensitive gap will
generally benefit QNB in a rising interest rate environment, while falling
interest rates will negatively impact QNB. As of December 31, 1996 QNB had a
slightly negative gap position of $1,672,000 at the one year time frame. QNB had
a negative gap position at March 31, 1997 of $7,307,000 at the one year time
frame. The shift to a positive gap position is a function of falling interest
rates changing the characteristics of some of the callable agency securities and
mortgage-backed securities to have shorter effective maturity dates, the
shifting of time deposits to longer maturities as a result of the 30 month
certificate of deposit promotion during the first and second quarters of 1997
and a reduction in the amount of floating rate deposits of a school district.
QNB also uses a simulation model to assess the impact of changes in interest
rates on net interest income. The model reflects management's assumptions
related to asset yields and rates paid on liabilities, deposit sensitivity and
the size, composition and maturity or repricing characteristics of the balance
sheet. The assumptions are based on what management believes at that time to be
the most likely interest rate environment. Management also evaluates the impact
of higher and lower interest rates. Actual results may differ from simulated
results due to various factors including time, magnitude and frequency of
interest rate changes, the relationship or spread between various rates, loan
pricing and deposit sensitivity, and asset/liability strategies. Based on
management's estimate of balance sheet growth and composition and interest rates
for the next year, net interest income for the next twelve months is expected to
increase compared to the prior twelve months.
If interest rates are 100 basis points lower than management's most likely
interest rate environment, the simulation model projects net interest income for
the next twelve months to exceed the most likely scenario. Conversely, if
interest rates are 100 basis points higher, net interest income for the most
likely scenario would decline slightly.
15
<PAGE>
QNB CORP. AND SUBSIDIARY
PART II. OTHER INFORMATION
JUNE 30, 1997
Item 1. Legal Proceedings
None.
Item 2. Changes in Securities
None.
Item 3. Default Upon Senior Securities
None.
Item 4. Submission of Matters to Vote of Securities Holders
Annual Meeting held May 6,1997.
Election of Dennis Helf, Donald T. Knauss and Thomas J. Bisko as
Directors.
Continuation of Gary S. Parzych, Norman L. Barringer,
Charles M. Meredith, III, Kenneth F. Brown, Jr., Henry L. Rosenberger
and Edgar L. Stauffer as Directors.
Item 5. Other Information
None.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27.1 Financial Data Schedule
(b) Reports on Form 8-K
Filed June 27, 1997, Definitive agreement between The
Quakertown National Bank and First Lehigh Bank for The
Quakertown National Bank to purchase certain assets and assume
certain liabilities of the Quakertown office of First Lehigh
Bank.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
QNB Corp.
Date: August 13, 1997 By:
/s/ Thomas J. Bisko
--------------------------
Thomas J. Bisko
President/CEO
Date: August 13, 1997 By:
/s/ Robert C. Werner
--------------------------
Robert C. Werner
Vice President
Date: August 13, 1997 By:
/s/ Bret H. Krevolin
--------------------------
Bret H. Krevolin
Chief Accounting Officer
17
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> JUN-30-1997
<CASH> 14,269
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 3,970
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 63,738
<INVESTMENTS-CARRYING> 41,981
<INVESTMENTS-MARKET> 42,068
<LOANS> 163,633
<ALLOWANCE> 2,660
<TOTAL-ASSETS> 294,072
<DEPOSITS> 259,428
<SHORT-TERM> 8,488
<LIABILITIES-OTHER> 2,213
<LONG-TERM> 0
0
0
<COMMON> 1,785
<OTHER-SE> 22,158
<TOTAL-LIABILITIES-AND-EQUITY> 294,072
<INTEREST-LOAN> 6,999
<INTEREST-INVEST> 3,224
<INTEREST-OTHER> 92
<INTEREST-TOTAL> 10,315
<INTEREST-DEPOSIT> 4,262
<INTEREST-EXPENSE> 4,409
<INTEREST-INCOME-NET> 5,906
<LOAN-LOSSES> 200
<SECURITIES-GAINS> 165
<EXPENSE-OTHER> 4,533
<INCOME-PRETAX> 2,249
<INCOME-PRE-EXTRAORDINARY> 1,602
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,602
<EPS-PRIMARY> 1.12
<EPS-DILUTED> 1.12
<YIELD-ACTUAL> 4.64
<LOANS-NON> 2,491
<LOANS-PAST> 148
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 4,315
<ALLOWANCE-OPEN> 2,585
<CHARGE-OFFS> 137
<RECOVERIES> 12
<ALLOWANCE-CLOSE> 2,660
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<ALLOWANCE-UNALLOCATED> 1,399
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