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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
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 0-15536.
CODORUS VALLEY BANCORP, INC.
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(Exact name of registrant as specified in its charter)
PENNSYLVANIA 23-2428543
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
105 Leader Heights Road, P.O. Box 2887, York, Pennsylvania 17405
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 717-846-1970
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Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
- ----------------------- --------------------------------------------
NOT APPLICABLE NOT APPLICABLE
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $2.50 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_X_ No___
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the 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.
On February 23, 1999, the aggregate market value of the Registrant's voting
stock held by non-affiliates was approximately, $37,911,000.
As of February 23, 1999, Codorus Valley Bancorp, Inc. had 2,303,987 shares of
common stock outstanding, par value $2.50 per share.
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<PAGE>
DOCUMENTS INCORPORATED BY REFERENCE
Document: Parts:
- --------- ------
1998 Annual Report to Stockholders I, II and IV
Proxy Statement for the Annual Meeting of
Stockholders to be held May 18, 1999 III and IV
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Codorus Valley Bancorp, Inc.
Form 10-K Index
Part I Page
- ------ ----
Item 1 Business............................................ 3
Item 2 Properties.......................................... 7
Item 3 Legal Proceedings................................... 8
Item 4 Submission of Matters to a Vote of Security Holders. 8
Part II
Item 5 Market for Codorus Valley Bancorp, Inc.'s Common
Stock and Related Stockholder Matters............... 8
Item 6 Selected Financial Data............................. 9
Item 7 Management's Discussion and Analysis of Financial
Condition and Results of Operations................. 9
Item 7A Quantitative and Qualitative Disclosures About
Market Risk......................................... 9
Item 8 Financial Statements and Supplementary Data......... 10
Item 9 Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure................. 10
Part III
Item 10 Directors and Executive Officers, Codorus Valley
Bancorp, Inc....................................... 11
Item 11 Executive Compensation............................. 11
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
Exhibit Index...................................... 15
2
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PART I
Item 1: Business
Codorus Valley Bancorp, Inc. (Codorus Valley) is a Pennsylvania business
corporation, incorporated on October 7, 1986. On March 2, 1987, Bancorp became a
bank holding company, pursuant to the Bank Holding Company Act of 1956, as
amended. PEOPLESBANK, A Codorus Valley Company (PEOPLESBANK or Bank) is its
wholly-owned banking subsidiary and SYC Realty Co., Inc. is its wholly-owned
nonbank subsidiary. Since commencing operations, Bancorp's business has
consisted primarily of managing and supervising the Bank, and its principal
source of income has been dividends paid by the Bank. At December 31, 1998,
Codorus Valley had total consolidated assets of $273 million, total deposits and
other liabilities of $247 million, and total stockholders' equity of $26
million.
Bank Subsidiary
PEOPLESBANK, formerly Peoples Bank of Glen Rock until February 1997, organized
in 1934, is a Pennsylvania chartered bank and is not a member of the Federal
Reserve System. PEOPLESBANK offers a full range of commercial and consumer
banking services through eight full service banking office locations in York
County, Pennsylvania. PEOPLESBANK also offers trust and investment services at
Codorus Valley Corporate Center located in York, Pennsylvania. The deposits of
PEOPLESBANK are insured by the Federal Deposit Insurance Corporation (FDIC) to
the extent provided by law. At December 31,1998, PEOPLESBANK had total loans of
$189 million and total deposits of $242 million.
The Bank is not dependent for deposits nor exposed by loan concentration to a
single customer or to a small group of customers. Accordingly, losses from a
single customer, or small customer group, would not have a material adverse
effect on the financial condition of the Bank. At year end 1998, there were
three concentrations of loans by industry that exceeded 10% of total loans, as
follows: commercial facility leasing, 17.2%; residential facility leasing,
11.8%; and real estate development, 10.4%, compared to 19.1%, 9.3% and 11.2%,
respectively, at year end 1997.
In 1998, PEOPLESBANK created SYC Settlement Services, Inc., as a wholly-owned
subsidiary, to provide real estate settlement services. As of December 31, 1998
this subsidiary was inactive.
Nonbank Subsidiary
On June 20, 1991, SYC Realty Company, Inc. (SYC Realty) was incorporated as a
wholly-owned subsidiary of Codorus Valley Bancorp, Inc. This nonbank subsidiary
was created primarily for the purpose of disposing of selected properties
obtained from PEOPLESBANK in satisfaction of debts previously contracted. SYC
Realty commenced business operations in October, 1995. To date, the financial
impact of this subsidiary's operations on Codorus Valley and the Bank has been
immaterial.
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Competition
The banking industry in PEOPLESBANK's service area, principally York County,
Pennsylvania, is extremely competitive. The Bank competes with commercial banks
and other financial service providers such as thrifts, credit unions, consumer
finance companies, investment firms, and mortgage companies. Some of the
financial services providers operating in PEOPLESBANK's service area operate on
a national and regional scale and possess resources greater than those of
PEOPLESBANK.
Supervision and Regulation
Codorus Valley Bancorp, Inc. is registered as a bank holding company and is
subject to the regulations of the Board of Governors of the Federal Reserve
System (Federal Reserve) under the Bank Holding Company Act of 1956, as amended
(BHCA). Bank holding companies are required to file periodic reports with and
are subject to examination by the Federal Reserve. The Federal Reserve issued
regulations under the BHCA that require a bank holding company to serve as a
source of financial and managerial strength to its subsidiary banks. As a
result, the Federal Reserve, pursuant to such regulations, may require Codorus
Valley to stand ready to use its resources to provide adequate capital funds to
PEOPLESBANK during periods of financial stress or adversity.
Under the Federal Deposit Insurance Corporation Improvement Act of 1991
(FDICIA), a bank holding company is required to guarantee the compliance of any
insured depository institution subsidiary that may become "undercapitalized", as
defined by regulations, with the terms of any capital restoration plan filed by
such subsidiary with its appropriate federal banking agency, up to specified
limits.
Under the BHCA, the Federal Reserve has the authority to require a bank holding
company to terminate any activity or relinquish control of a nonbank subsidiary
(other than a nonbank subsidiary of a bank) upon the Federal Reserve's
determination that such activity or control constitutes a serious risk to the
financial soundness and stability of any banking subsidiary of the bank holding
company.
The BHCA prohibits Codorus Valley from acquiring direct or indirect control of
more than 5% of the outstanding shares of any class of voting stock or
substantially all of the assets of any bank or merging or consolidating with
another bank holding company without prior approval of the Federal Reserve. Such
a transaction would also require approval of the Pennsylvania Department of
Banking. Pennsylvania law permits Pennsylvania bank holding companies to control
an unlimited number of banks.
Additionally, the BHCA prohibits Codorus Valley from engaging in or from
acquiring ownership or control of more than 5% of the outstanding shares of any
class of voting stock of any company engaged in a nonbanking business unless
such business is determined by the Federal Reserve to be so closely related to
banking as to be a proper incident thereto. The Federal Reserve can
differentiate between nonbanking activities that are initiated by a bank
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holding company or subsidiary and activities that are acquired as a going
concern. The BHCA does not place territorial restrictions on the activities of
such nonbanking-related activities. Codorus Valley and its subsidiaries are
prohibited from engaging in certain tie-in arrangements in connection with any
extension of credit, lease or sale of property, or furnishing of services.
Codorus Valley is restricted to activities that are found by the Federal Reserve
to be closely related to banking, and which are expected to produce benefits for
the public that will outweigh any potentially adverse effects.
The operations of PEOPLESBANK are subject to federal and state statutes
applicable to banks chartered under the banking laws of the Commonwealth of
Pennsylvania and whose deposits are insured by the Federal Deposit Insurance
Corporation (FDIC).
The FDIC has primary supervisory authority over PEOPLESBANK, regularly examines
banks in such areas as reserves, loans, investments, management practices, and
other aspects of operations. These examinations are designed for the protection
of the Bank's depositors rather than Codorus Valley's shareholders. The Bank
must furnish annual and quarterly reports to the FDIC.
Federal and state banking laws and regulations govern, among other things, the
scope of a bank's business, the investments a bank may take, the reserves
against deposits a bank must maintain, the types and terms of loans a bank may
make and the collateral it may take, the activities of a bank with respect to
mergers and consolidations, and the establishment of branches.
A subsidiary bank of a bank holding company, such as PEOPLESBANK, is subject to
certain restrictions imposed by the Federal Reserve Act on any extensions of
credit to the bank holding company or its subsidiaries, on investments in the
stock or other securities of the bank holding company or its subsidiaries, and
on taking such stock or securities as collateral for loans. The Federal Reserve
Act and Federal Reserve regulations also place certain limitations and reporting
requirements on extensions of credit by a bank to the principal shareholders of
its parent holding company, among others, and to related interests of such
principal shareholders. In addition, such legislation and regulations may affect
the terms upon which any person becoming a principal shareholder of a holding
company may obtain credit from banks with which the subsidiary bank maintains a
correspondent relationship.
PEOPLESBANK and the banking industry in general, are affected by the monetary
and fiscal policies of government agencies, including the Federal Reserve.
Through open market securities transactions and changes in its discount rate and
reserve requirements, the Board of Governors of the Federal Reserve exerts
considerable influence over the cost and availability of funds for lending and
investment.
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A brief discussion of recent federal agency pronouncements that affect Codorus
Valley and/or PEOPLESBANK is provided below.
Congress is currently considering legislative reform centered on repeal of the
Glass-Steagall Act which prohibits commercial banks from engaging in the
securities industry. This repeal would allow commercial banks to engage in
securities underwriting. This provision with an accompanying provision to
enhance the authority of commercial banks to underwrite insurance is part of the
proposed legislation regarding bank modernization. The holding company
structure, under such a proposal, would be regulated by the Federal Reserve
Board, and its subsidiaries would be supervised by the applicable regulator
based on their respective functions.
The Securities and Exchange Commission on July 29, 1998, issued "Statement of
the Commission Regarding Disclosure of Year 2000 Issues and Consequences by
Public Companies, Investment Advisors, Investment Companies and Municipal
Securities Issuers." This statement which took effect August 4, 1998, provides
guidance to public companies regarding Year 2000 issues and disclosures.
Information about Codorus Valley's Year 2000 readiness is provided in the 1998
Annual Report to Stockholders, within the Management's Discussion section, under
the caption Year 2000 Compliance, on pages 42 and 43 in Exhibit 13.
The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA), also
impacts how PEOPLESBANK conducts its business. FDICIA's risk-based assessment
system is designed to promote safety and soundness in the banking and thrift
industries by making the deposit insurance system fairer to well-run
institutions and by encouraging weaker institutions to improve their financial
condition. Information about Codorus Valley's capital ratios can be found in the
1998 Annual Report, within the Management's Discussion section under the
subheading stockholder's equity (including Table 7). Codorus Valley's and
PEOPLESBANK's capital ratios exceed minimum quantitative regulatory requirements
for well capitalized banks.
Periodically, various types of federal and state legislation is proposed that
could result in additional regulation of, and restrictions on, the business of
Codorus Valley and PEOPLESBANK. It cannot be predicted whether such legislation
will be adopted or, if adopted, how such legislation would affect the business
of Codorus Valley and the Bank. As a consequence of the extensive regulation of
commercial banking activities in the United States, Codorus Valley's and the
Bank's business is particularly susceptible to being affected by federal
legislation and regulations that may increase the cost of doing business. Except
as specifically described above, management believes that the effect of the
provisions of the aforementioned legislation on the liquidity, capital
resources, and results of operations of the Codorus Valley will be immaterial.
Management is not aware of any other current specific recommendations by
regulatory authorities or proposed legislation, which if they were implemented,
would have a material adverse effect upon the liquidity, capital resources, or
results of operations, although the general cost of compliance with numerous and
multiple federal and state laws and regulations does have, and in the future may
have, a negative impact on the Codorus Valley's results of operations.
6
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Other information
At December 31, 1998, PEOPLESBANK had one hundred and thirty-one (131) full-time
employees and thirteen (13) part-time employees.
The required Statistical Information for Item 1 can be found in Item 7,
Management's Discussion and Analysis of Financial Condition and Results of
Operations of this report.
Item 2: Properties
Codorus Valley Bancorp, Inc. owns in fee and without liens the following
property.
Codorus Valley Corporate Center
Located at 105 Leader Heights Road, York, in York Township, PA. This 40,000
square foot (approximately) facility serves as a corporate headquarters.
Approximately sixty-seven percent of the leasable space is leased to
PEOPLESBANK, the remaining thirty-three percent is available for lease to
nonaffiliated parties. This facility is adjacent to the Bank's Data
Operations Center and Leader Heights banking office.
PEOPLESBANK owns the following properties in fee and without liens.
Glen Rock Office: Located at 1 Manchester Street in the borough of Glen Rock,
PA. A bank-owned parking lot is located nearby on Hanover Street.
Additionally, the frame dwelling located at 7 Manchester Street in the
borough of Glen Rock, PA, was demolished in early 1998. This property will
be used to provide additional customer parking adjacent to the Glen Rock
Office.
Jacobus Office: Located at 1 North Main Street in the borough of Jacobus,
PA.
Jefferson Office: Located at 6 Baltimore Street in the borough of
Jefferson, PA. A bank-owned parking lot is located nearby at 10
Baltimore Street.
York New Salem Office: Located at 320 North Main Street in the borough of
York New Salem, PA.
Leader Heights Office: Serves as both a banking office and data
operations center. It is located at 109 Leader Heights Road in York
Township, PA.
Cape Horn Office: Located at 2587 Cape Horn Road, Red Lion in the
township of Windsor, PA.
East York Office: Located at 2701 Eastern Boulevard, York in the township
of Springettsbury, PA.
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PEOPLESBANK leases the following properties.
Stewartstown Office: Located at 2 Ballast Lane in the borough of
Stewartstown, PA. This office is a 1,278 square foot unit of a business
complex known as Village Square at Stewartstown. The lease, signed on
November 29, 1993, is for a twenty year term, with four five year term
options. From inception of the lease through 1997, the minimum annual rent
was approximately $15,700. For the four year period 1998 through 2001, the
minimum annual rent will be approximately $17,300. Thereafter, the minimum
annual rent will increase at three year intervals.
All of the above properties are located in York County, Pennsylvania and are, in
the opinion of management, adequate for the business purposes of Codorus Valley
and its subsidiaries.
Item 3: Legal Proceedings
In the opinion of the management of Codorus Valley Bancorp, Inc., there are no
proceedings pending to which Codorus Valley and PEOPLESBANK are a party or to
which its property is subject, which, if determined adversely to Codorus Valley
and the Bank, would be material in relation to Codorus Valley's and the Bank's
financial condition. There are no proceedings pending other than ordinary
routine litigation incident to the business of Codorus Valley and the Bank. In
addition, no material proceedings are pending or are known to be threatened or
contemplated against Codorus Valley and the Bank by government authorities.
Item 4: Submission of Matters to a Vote of Security Holders
None.
PART II
Item 5: Market for Codorus Valley Bancorp, Inc.'s Common Stock and
Related Stockholder Matters
Market and dividend information appearing in the 1998 Annual Report to
Stockholders, under the caption Stock, Dividend and Broker Information, is
incorporated by reference in response to this item and is included on page 56 in
Exhibit 13.
As of March 16, 1999, the Codorus Valley had approximately one thousand,
twenty-one(1,021) stockholders of record.
Related stockholder information appearing in the 1998 Annual Report to
Stockholders, under the caption Stockholders' Equity, included in Management's
Discussion and Analysis of Consolidated Financial Condition and Results of
Operations, is incorporated by reference in response to this item and is
included on pages 46 and 47 in Exhibit 13.
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Item 6: Selected Financial Data
Information appearing in the 1998 Annual Report to Stockholders, under the
caption Selected Financial Data, is incorporated by reference in response to
this item and is included on page 17 in Exhibit 13.
Item 7: Management's Discussion and Analysis of Financial Condition and
Results of Operations.
The Management Discussion and Analysis of Consolidated Financial Condition and
Results of Operations in the 1998 Annual Report to Stockholders is incorporated
by reference in response to this item and is included on pages 37 through 52 in
Exhibit 13.
Item 7A: Quantitative and Qualitative Disclosures About Market Risk
Information appearing in the 1998 Annual Report to Stockholders, under the
caption Market Risk Management included in Management's Discussion and Analysis
of Consolidated Financial Condition and Results of Operations, is incorporated
by reference in response to this item and is included on pages 50 through 52 in
Exhibit 13.
Codorus Valley also uses gap management as a secondary means of managing
interest rate risk. The gap technique begins by segmenting interest sensitive
assets and interest sensitive liabilities into future time periods, typically
one year, based on scheduled maturity or repricing date. Repriceable assets are
then subtracted from repriceable liabilities to determine a difference, or gap.
The measurement process relies on many assumptions such as the amount and timing
of repriceable cash flows from interest-sensitive assets and liabilities. The
following assumptions are made about repriceable cash flows from interest
sensitive assets. The total portfolio balance of variable rate instruments can
reprice daily. Adjustable rate instruments reprice at the interest maturity
date, usually annually. Fixed rate loans reprice at their scheduled maturity
date and also include estimated prepayments. Fixed rate investment securities,
with the exception of mortgage-backed securities, reprice at their scheduled
maturity date, or call date if more appropriate. Fixed rate mortgage-backed
securities reprice based on principal pay-down estimates provided by Bloomberg.
Generally, interest sensitive liabilities reprice similarly to interest
sensitive assets with the exception of NOW and savings deposits which do not
have scheduled maturities. Technically, NOW and savings accounts can be repriced
at any time. Historically, NOW and savings balances have been relatively stable
in spite of changes in market interest rates. This stability assumption was made
in the current measurement process.
A schedule which depicts balance sheet repricing characteristics and an estimate
of gap at December 31, 1998, is provided below. One way to predict how a change
in market interest rates will impact net interest income for specific time
frames is through the cumulative gap measure. For example, the cumulative gap in
the "181-365" repricing category represents a one year net liability position of
$44 million or 18.2 percent of interest earning assets at December 31, 1998. The
liability sensitive gap position implies that over the next year there will be a
positive impact on net interest income if
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market rates decline. The theory is that more liabilities will reprice, at lower
market interest rates, than the assets that they fund. Conversely, an increase
in market interest rates would have a negative impact on net interest income.
A gap analysis is limited in its usefulness as it represents a one-day position,
which is continually changing and not necessarily indicative of the Codorus
Valley's position at any other time. Additionally, the gap analysis does not
consider the complexity of interest rate relationships and spreads depending on
the direction, magnitude and timing of changes in market interest rates.
<TABLE>
<CAPTION>
After
0-30 31-90 91-180 181-365 1-2 2-5 5
(dollars in thousands) Days Days Days Days Years Years Years Total
------- ------- ------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest earning assets:
Interest earning deposits $ 203 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 203
Securities available for sale 3,120 3,314 3,707 7,984 24,420 7,782 5,204 55,531
Loans 46,866 7,847 14,304 24,689 31,871 52,155 9,673 187,405
------- ------- ------- ------- ------- ------- ------- --------
Total $50,189 $11,161 $18,011 $32,673 $56,291 $59,937 $14,877 $243,139
Interest bearing liabilities:
NOW deposits $ 26,936 $ 0 $ 0 $ 0 $ 0 $ 0 $ 0 $ 26,936
Insured money fund and
money market deposits 36,577 0 0 0 0 0 0 36,577
Savings deposits 20,655 0 0 0 0 0 0 20,655
Time CDs less than $100,000 20,510 10,283 11,647 15,176 38,682 17,390 0 113,688
Time CDs $100,000 and above 4,442 4,863 1,305 2,492 5,141 767 0 19,010
Short-term borrowings 1,234 0 0 0 0 0 0 1,234
Long-term borrowings 20 40 61 126 264 910 1,150 2,571
-------- ------- ------- ------- ------- ------- ------- --------
Total $110,374 $15,186 $13,013 $17,794 $44,087 $19,067 $ 1,150 $220,671
Period gap (60,185) (4,025) 4,998 14,879 12,204 40,870 13,727 22,468
Cumulative gap (60,185) (64,210) (59,212) (44,333) (32,129) 8,741 22,468
Cumulative gap as a % of
interest earning assets
at December 31, 1998 -24.8% -26.4% -24.4% -18.2% -13.2% 3.6% 9.2%
</TABLE>
Item 8: Financial Statements and Supplementary Data
Codorus Valley's Consolidated Financial Statements and the Notes thereto, in the
1998 Annual Report to Stockholders, are incorporated by reference in response to
this item and are included on pages 18 through 35 in Exhibit 13.
Table 12-Summary of Quarterly Financial Data included in Management's Discussion
and Analysis of Consolidated Financial Condition of Results of Operations, in
the 1998 Annual Report to Stockholders, is incorporated by reference in response
to supplementary financial data and is included on page 52 in Exhibit 13.
Item 9: Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
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PART III
Item 10: Directors and Executive Officers, Codorus Valley Bancorp, Inc.
Information appearing in the Proxy Statement relating to the 1999 Annual Meeting
of Stockholders to be held May 18, 1999 (Proxy Statement), under the captions
"Information as to Nominees and Directors," "Directors and Executive Officers of
CVB" and "Section 16(a) Beneficial Ownership Reporting Compliance" is
incorporated by reference in response to this item.
Item 11: Executive Compensation
Information appearing in the Proxy Statement, under the captions "Executive
Compensation," "Board of Directors Report on Executive Compensation" and
"Performance Graph" is incorporated by reference in response to this item.
Item 12: Security Ownership of Certain Beneficial Owners and Management
Information appearing in the Proxy Statement, under the captions "Beneficial
Ownership of CVB's Stock Owned by Principal Owners and Management" and "Section
16(a) Beneficial Ownership Reporting Compliance" is incorporated by reference in
response to this item.
Item 13: Certain Relationships and Related Transactions
Information appearing in the Proxy Statement, under the caption "Certain
Relationships and Related Transactions," is incorporated by reference in
response to this item.
PART IV
Item 14: Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) Documents filed as part of this Form 10-K report.
1. Financial Statements
The following consolidated statements of Codorus Valley Bancorp,
Inc. are included by reference in Part II, Item 8 hereof:
Report of Independent Auditors
Consolidated Statements of Financial Condition
Consolidated Statements of Income
Consolidated Statements of Cash Flows
Consolidated Statements of Changes in Stockholders' Equity
Notes to Consolidated Financial Statements
2. Financial Statement Schedules
The following Financial Statement Schedules are omitted because the
required information is either not applicable, not required or is shown
in the respective financial statements or in the notes thereto.
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3. Exhibits filed as part of 10-K pursuant to Item 601 of Regulation S-K.
Exhibit
Number Description of Exhibit
3(i) Articles of Incorporation (Incorporated by reference to
Exhibit 3(i) to Current Report on Form 8-K, filed with the
Commission on March 25, 1996.)
3(ii) By-laws (Incorporated by reference to Exhibit 3(ii) to
Current Report on Form 8-K, filed with the Commission on
March 25, 1996.)
4 Rights Agreement Dated as of November 4, 1995 (Incorporated
by reference to Current Report on Form 8-K,filed with the
Commission on December 4, 1995.)
10.1 1996 Stock Incentive Plan (Incorporated by reference to
Exhibit 99 of Registration Statement No. 333-9277 on Form
S-8, filed with the Commission on July 31, 1996.)
10.2 Amendment to the Employment Agreement by and among
PeoplesBank, A Codorus Valley Company, Codorus Valley
Bancorp, Inc. and Larry J. Miller dated October 1,
1997,including Executive Employment Agreement dated January
1,1993 between Codorus Valley Bancorp, Inc., Peoples Bank of
Glen Rock and Larry J. Miller. (Incorporated by reference to
Exhibit 10.1 to Registrant's Current Report on Form 8-K,
dated and filed with the Commission on March 13, 1998.)
10.3 Change of Control Agreement between PeoplesBank, A Codorus
Valley Company, Codorus Valley Bancorp, Inc. and Jann A.
Weaver, dated October 1, 1997. (Incorporated byreference to
Exhibit 10.2 to the Registrant's Current Report on Form 8-K,
dated and filed with the Commission March 13, 1998.)
10.4 Change of Control Agreement between PeoplesBank, A Codorus
Valley Company, Codorus Valley Bancorp, Inc. and Harry R.
Swift, dated October 1, 1997. (Incorporated by reference to
Exhibit 10.4 to the Registrant's Current Report on Form 8-K,
dated and filed with the Commission March 13, 1998.)
10.5 1998 Independent Directors Stock Option Plan (Incorporated
by reference to Exhibit 4.3 of Registration Statement No.
333-61851 on Form S-8, filed with the Commission on August
19,1998.)
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11 Statement re: Computation of Earnings Per Share
(Incorporated by reference to Exhibit 13 hereof, 1998
Annual Report to Stockholders at Note 1 to the
Consolidated Financial Statements.)
13 Excerpts from the Annual Report to Stockholders for fiscal
year ended December 31, 1998.
21 List of subsidiaries of the Registrant.
23 Consent of Independent Auditors
24 Power of Attorney
27 Financial Data Schedule
(B) Reports on Form 8-K.
The Registrant filed no Current Reports on Form 8-K for the quarter ended
December 31, 1998.
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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.
Codorus Valley Bancorp, Inc. (Registrant)
By /s/ Larry J. Miller Date: March 23, 1999
- -------------------------
Larry J. Miller, President
and 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.
Signature and Capacity
/s/ George A. Trout, D.D.S. Chairman of the Board of 3/23/99
- ------------------------- Directors and Director
George A. Trout, D.D.S.
/s/ Larry J. Miller President, Chief Executive 3/23/99
- ------------------------- President Officer and Director
Larry J. Miller,
(Principal Executive Officer)
/s/ Barry A. Keller Vice Chairman of the Board of 3/23/99
- ------------------------- Directors and Director
Barry A. Keller
/s/ Dallas S. Smith Secretary and Director 3/23/99
- -------------------------
Dallas S. Smith
/s/ M. Carol Druck Director 3/23/99
- -------------------------
M. Carol Druck
/s/ MacGregor S. Jones Director 3/23/99
- -------------------------
MacGregor S. Jones
Treasurer and Director 3/23/99
- -------------------------
Rodney L. Krebs
/s/ Donald H. Warner Vice President and Director 3/23/99
- -------------------------
Donald H. Warner
/s/ D. Reed Anderson Director 3/23/99
- -------------------------
D. Reed Anderson, Esq.
/s/ Jann A. Weaver Assistant Treasurer and 3/23/99
- ------------------------- Assistant Secretary
Jann A. Weaver
(Principal Financial and
Principal Accounting Officer)
/s/ Harry R. Swift Vice President and Secretary 3/23/99
- -------------------------
Harry R. Swift, Esq.
14
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EXHIBIT INDEX
Page # in
manually signed
Exhibit original
Number Description of Exhibit Form 10-K
3(I) Articles of Incorporation (Incorporated by reference to Exhibit 3(I) to
Current Report on Form 8-K, filed with the Commission on March 25,
1996.)
3(ii) By-laws (Incorporated by reference to Exhibit 3(ii) to Current Report
on Form 8-K, filed with the Commission on March 25, 1996.)
4 Rights Agreement Dated as of November 4, 1995 (Incorporated by
reference to Current Report on Form 8-K, filed with the Commission on
December 4, 1995.)
10.1 1996 Stock Incentive Plan (Incorporated by reference to Exhibit 99 of
Registration Statement No. 333-9277 on Form S-8, filed with the
Commission on July 31, 1996.)
10.2 Amendment to the Employment Agreement by and among
PeoplesBank, A Codorus Valley Company, Codorus Valley
Bancorp, Inc. and Larry J. Miller dated October 1, 1997,
including Executive Employment Agreement dated January 1,
1993 between Codorus Valley Bancorp, Inc., Peoples Bank
of Glen Rock and Larry J. Miller. (Incorporated by
reference to Exhibit 10.1 to Registrant's Current Report
on Form 8-K, dated and filed with the Commission on March
13, 1998.)
10.3 Change of Control Agreement between PeoplesBank, A Codorus Valley
Company, Codorus Valley Bancorp, Inc. and Jann A. Weaver, dated October
1, 1997. (Incorporated by reference to Exhibit 10.2 to the Registrant's
Current Report on Form 8-K, dated and filed with the Commission March
13, 1998.)
10.4 Change of Control Agreement between PeoplesBank, A Codorus Valley
Company, Codorus Valley Bancorp, Inc. and Harry R. Swift, dated October
1, 1997. (Incorporated by reference to Exhibit 10.4 to the Registrant's
Current Report on Form 8-K, dated and filed with the Commission March
13, 1998.)
10.5 1998 Independent Directors Stock Option Plan(Incorporated by reference
to Exhibit 4.3 of Registration Statement No. 333-61851 on Form
S-8,filed with the Commission on August 19,1998.)
15
<PAGE>
11 Statement re: Computation of Earnings Per Share 24
(Incorporated by reference to Exhibit 13 hereof, 1998
Annual Report to Stockholders at Note 1 to the
Consolidated Financial Statements.)
13 Excerpts from the Annual Report to Stockholders for
fiscal year ended December 31, 1998. 17-54
21 List of subsidiaries of the Registrant. 55
23 Consent of Independent Auditors 56
24 Power of Attorney 57
27 Financial Data Schedule 58
16
<PAGE>
EXHIBIT 13
EXCERPTS FROM:
1998 ANNUAL REPORT TO STOCKHOLDERS
<PAGE>
SELECTED FINANCIAL DATA
Codorus Valley Bancorp, Inc.
<TABLE>
<CAPTION>
5 year
1998 1997 1996 1995 1994 CGR(1)
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
SUMMARY OF OPERATIONS
(in thousands)
Total interest income $ 19,978 $ 19,513 $ 18,523 $ 18,346 $ 16,053 4.9%
Total interest expense 9,265 9,096 8,756 8,722 6,940 4.9%
- ---------------------------------------------------------------------------------------------------------------------
Net interest income 10,713 10,417 9,767 9,624 9,113 5.0%
Provision for loan losses 375 275 134 228 1,229 -3.2%
Noninterest income 1,832 1,227 1,090 912 880 6.3%
Noninterest expense 8,446 7,729 6,755 6,559 6,322 5.9%
- ---------------------------------------------------------------------------------------------------------------------
Income before income taxes 3,724 3,640 3,968 3,749 2,442 4.5%
Provision for income taxes 1,188 1,161 1,261 1,155 712 10.8%
- ---------------------------------------------------------------------------------------------------------------------
Net income $ 2,536 $ 2,479 $ 2,707 $ 2,594 $ 1,730 2.2%
=====================================================================================================================
RATIOS (in percentage)
Return on average
stockholders' equity 10.0 10.4 12.4 13.3 9.5
Return on average assets 0.98 1.00 1.14 1.14 0.81
Tier I risk-based capital 12.4 12.4 13.6 13.4 13.1
Total risk-based capital 13.3 13.5 14.9 14.6 14.3
Average stockholders' equity
to average assets 9.8 9.7 9.2 8.6 8.5
PER COMMON SHARE (2)
Net income, basic and diluted $1.10 $ 1.08 $ 1.17 $ 1.13 $ 0.75
Cash dividends paid $0.40 $ 0.36 $ 0.33 $ 0.29 $ 0.26
Stock dividend paid 5% 5% 5% 5% 0%
Stock split effected as stock dividend paid 100% -- -- -- --
Book value $ 11.31 $ 10.60 $ 9.86 $ 9.15 $ 7.76
Dividend payout ratio 36.4% 33.7% 27.8% 25.4% 34.4%
Weighted average shares outstanding 2,303,987 2,303,987 2,303,987 2,299,735 2,303,917
SUMMARY OF FINANCIAL CONDITION
AT YEAR-END (in thousands)
Securities $ 56,225 $ 40,303 $ 56,859 $ 61,679 $ 53,717 0.3%
Loans 189,111 191,342 166,651 160,008 150,637 6.1%
Assets 273,082 255,058 237,329 234,747 215,997 5.2%
Deposits 241,913 226,263 209,460 212,440 196,896 4.7%
Borrowings 3,805 2,802 4,000 0 0 nm
Equity 26,058 24,425 22,706 21,032 17,872 8.1%
Trust and investment services
Assets under management (market value) 70,825 59,863 49,292 40,215 32,229 17.7%
Fee income 549 441 321 311 291 26.4%
NON-FINANCIAL DATA
Number of bank offices 8 8 7 7 7
Number of employees
(full-time equivalent) 130 140 129 128 121
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Compound growth rate (CGR) is the average annual growth over the five year
period which began in 1993.
(2) Adjusted, as applicable, for stock dividends paid through December 31, 1998.
17
<PAGE>
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
Codorus Valley Bancorp, Inc.
<TABLE>
<CAPTION>
December 31,
(dollars in thousands) 1998 1997
- -------------------------------------------------------------------------------------
<S> <C> <C>
Assets
Cash and due from banks:
Interest bearing deposits with banks $ 203 $ 123
Noninterest bearing deposits
and cash 10,889 7,721
Federal funds sold 0 5,350
Securities available for sale 56,225 40,303
Loans 189,111 191,342
Less-allowance for loan losses (1,865) (2,098)
- -------------------------------------------------------------------------------------
Total net loans 187,246 189,244
Premises and equipment 9,345 9,797
Interest receivable 1,588 1,538
Other assets 7,586 982
- -------------------------------------------------------------------------------------
Total assets $ 273,082 $ 255,058
=====================================================================================
Liabilities
Deposits:
Noninterest bearing demand $ 25,047 $ 21,152
NOW 26,936 22,041
Insured money fund and money market 36,577 28,901
Savings 20,655 19,992
Time CDs less than $100,000 113,688 112,874
Time CDs $100,000 and above 19,010 21,303
- -------------------------------------------------------------------------------------
Total deposits 241,913 226,263
Federal funds purchased 1,234 0
Long-term borrowings 2,571 2,802
Interest payable 770 820
Other liabilities 536 748
- -------------------------------------------------------------------------------------
Total liabilities 247,024 230,633
Stockholders' Equity
Series preferred stock, par value $2.50 per share;
1,000,000 shares authorized;
0 shares issued and outstanding 0 0
Common stock, par value $2.50 per share;
10,000,000 shares authorized;
2,303,987 shares issued and outstanding
for 1998, and 2,194,518 for 1997 5,760 5,486
Additional paid-in capital 10,279 8,063
Retained earnings 9,561 10,444
Accumulated other comprehensive income 458 432
- -------------------------------------------------------------------------------------
Total stockholders' equity 26,058 24,425
Total liabilities and stockholders' equity $ 273,082 $ 255,058
=====================================================================================
</TABLE>
See accompanying notes.
18
<PAGE>
CONSOLIDATED STATEMENTS OF INCOME
Codorus Valley Bancorp, Inc.
<TABLE>
<CAPTION>
Years ended December 31,
(dollars in thousands, except per share data) 1998 1997 1996
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Interest Income
Interest and fees from loans $ 16,832 $ 16,356 $ 14,447
Interest from deposits with banks 9 15 21
Interest from federal funds sold 354 162 92
Interest and dividends from investment securities:
Taxable interest income 2,448 2,725 3,660
Tax-exempt interest income 281 201 252
Dividend income 54 54 51
- -------------------------------------------------------------------------------------------------------
Total interest income 19,978 19,513 18,523
Interest Expense
Interest on deposits:
NOW 345 381 459
Insured money fund and money market 997 869 762
Savings 455 472 538
Time CDs less than $100,000 6,179 6,103 6,051
Time CDs $100,000 and above 1,105 1,010 859
- -------------------------------------------------------------------------------------------------------
Total interest expense on deposits 9,081 8,835 8,669
Interest on short-term borrowings 0 73 87
Interest on long-term borrowings 184 188 0
- -------------------------------------------------------------------------------------------------------
Total interest expense 9,265 9,096 8,756
- -------------------------------------------------------------------------------------------------------
Net interest income 10,713 10,417 9,767
Provision for Loan Losses 375 275 134
- -------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 10,338 10,142 9,633
Noninterest Income
Trust and investment services fees 549 441 321
Service charges on deposit accounts 487 432 410
Other service charges and fees 396 275 250
Gain (loss) from sales of securities 194 (17) 102
Gains, other 206 96 7
- -------------------------------------------------------------------------------------------------------
Total noninterest income 1,832 1,227 1,090
Noninterest Expense
Salaries and benefits 4,097 4,002 3,669
Occupancy of premises 806 604 426
Furniture and equipment 926 856 585
Postage, stationery and supplies 359 413 317
Professional and legal 302 223 190
Marketing and advertising 404 341 235
Acquired real estate, net 134 50 195
Other 1,418 1,240 1,138
- -------------------------------------------------------------------------------------------------------
Total noninterest expense 8,446 7,729 6,755
- -------------------------------------------------------------------------------------------------------
Income before income taxes 3,724 3,640 3,968
Provision for Income Taxes 1,188 1,161 1,261
- -------------------------------------------------------------------------------------------------------
Net income $ 2,536 $ 2,479 $ 2,707
=======================================================================================================
Net income per share, basic and diluted $ 1.10 $ 1.08 $ 1.17
=======================================================================================================
</TABLE>
See accompanying notes
19
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
Codorus Valley Bancorp, Inc.
<TABLE>
<CAPTION>
Years ended December 31,
(dollars in thousands) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash Flows From Operating Activities:
Net Income $ 2,536 $ 2,479 $ 2,707
Adjustments to reconcile net income to net cash provided by operations:
Depreciation 790 674 431
Provision for loan losses 375 275 134
Provision for losses on assets acquired in foreclosure 69 18 129
Deferred federal income tax expense 122 153 138
(Gain) loss on sales of securities (194) 17 (102)
Gains, other (206) (96) (7)
Loss (gain) on sales of assets acquired in foreclosure 8 (17) (13)
(Increase) decrease in interest receivable (50) 104 61
Decrease (increase) in other assets 90 39 (250)
(Decrease) increase in interest payable (50) 24 (69)
(Decrease) increase in other liabilities (325) 381 (43)
Other, net (118) (145) (27)
- ------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 3,047 3,906 3,089
Cash Flows From Investing Activities:
Proceeds from sales of securities available for sale 9,163 5,240 8,481
Proceeds from maturities and calls of securities available for sale 14,368 17,712 18,464
Purchase of securities available for sale (39,300) (6,246) (22,537)
Net increase in loans made to customers (6,701) (29,553) (15,238)
Proceeds from loan sales 6,499 4,487 7,718
Proceeds from sales of premises and equipment 0 151 0
Purchases of premises and equipment (338) (5,560) (1,933)
Proceeds from sales of assets acquired in foreclosure 551 649 500
Investment in cash surrender value life insurance (5,115) 0 0
- ------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (20,873) (13,120) (4,545)
Cash Flows From Financing Activities:
Net increase in demand and savings deposits 17,129 4,404 1,972
Net (decrease) increase in time deposits (1,479) 12,399 (4,952)
Net increase (decrease) in short-term borrowings 1,234 (4,000) 4,000
Net (decrease) increase in long-term borrowings (231) 2,802 0
Dividends paid (923) (836) (754)
Cash paid in lieu of fractional shares (6) (10) (8)
- ------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 15,724 14,759 258
- ------------------------------------------------------------------------------------------------------------------
Net (decrease) increase in cash and cash equivalents (2,102) 5,545 (1,198)
Cash and cash equivalents at beginning of year 13,194 7,649 8,847
- ------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 11,092 $ 13,194 $ 7,649
==================================================================================================================
Supplemental Disclosures:
Interest payments $ 9,131 $ 8,811 $ 8,738
Income tax payments $ 1,012 $ 930 $ 1,300
</TABLE>
See accompanying notes.
20
<PAGE>
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Codorus Valley Bancorp, Inc.
<TABLE>
<CAPTION>
Accumulated
Additional Other
Common Paid-in Retained Comprehensive Total
(dollars in thousands) Stock Capital Earnings Income (Loss) Equity
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1995 $ 2,490 $ 5,194 $ 12,731 $ 617 $ 21,032
Comprehensive income:
Net income 2,707 2,707
Net change in unrealized gains (losses) on securities (271) (271)
--------
Comprehensive income 2,436
Cash dividends (754) (754)
5% stock dividend - 49,503 shares at fair value 123 1,362 (1,493) (8)
- ---------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1996 2,613 6,556 13,191 346 22,706
Comprehensive income:
Net income 2,479 2,479
Net change in unrealized gains (losses) on securities 86 86
--------
Comprehensive income 2,565
Cash dividends (836) (836)
5% stock dividend - 51,963 shares
at fair value 130 1,507 (1,647) (10)
100% stock dividend declared -
1,097,259 shares at par value 2,743 (2,743) 0
- ---------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1997 5,486 8,063 10,444 432 24,425
Comprehensive income:
Net income 2,536 2,536
Other comprehensive income, net of tax
Unrealized gains on securities of $154, net of
reclassification adjustment for gains included in net
income of $128 26 26
--------
Comprehensive income 2,562
Cash dividends (923) (923)
5% stock dividend - 109,469 shares
at fair value 274 2,216 (2,496) (6)
- ---------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1998 $ 5,760 $ 10,279 $ 9,561 $ 458 $ 26,058
=================================================================================================================================
</TABLE>
See accompanying notes.
21
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1-Summary Of Significant Accounting Policies
Basis of Financial Statement Presentation
The accounting and reporting policies of Codorus Valley Bancorp, Inc. and
subsidiaries (Corporation) conform with generally accepted accounting principles
(GAAP) and have been followed on a consistent basis.
Principles of Consolidation
The consolidated financial statements include the accounts of Codorus Valley
Bancorp, Inc. and its wholly-owned bank subsidiary, PeoplesBank, and its wholly
owned nonbank subsidiary, SYC Realty Company, Inc. All significant intercompany
account balances and transactions have been eliminated in consolidation.
Securities Available for Sale
Securities available for sale are carried at fair value, with unrealized gains
and losses, net of taxes, recorded as a component of stockholders' equity as
accumulated other comprehensive income. Realized gains and losses from the sale
of securities are computed on the basis of specific identification of the
adjusted cost of each security, and shown net as a separate line item in the
statement of income.
Loans
Interest on loans is credited to income based upon the principal amount
outstanding. Loan fees are generally considered to be adjustments of interest
rate yields and are amortized to interest income over the terms of the related
loans. The accrual of interest income is discontinued, and unpaid interest on a
loan is reversed and charged against current income, when circumstances indicate
that collection is doubtful. Loans are returned to accrual status when
management determines that circumstances have improved to the extent that both
principal and interest are deemed collectible. In those cases where collection
of principal is in doubt, additions are made to the allowance for loan losses.
Loans Held for Sale
Loans held for sale are reported at the lower of cost or market value. The
amount by which cost exceeds market value, if any, is accounted for as a
valuation allowance and is charged to expense in the period of the change.
Allowance for Loan Losses
The allowance for loan losses is maintained at a level believed adequate by
management, based on information currently available, to absorb potential losses
in the loan portfolio. Recognized loan losses are charged, and recoveries
credited, to the allowance. The Corporation's loan loss provision, charged to
operating income, is determined by management based on such factors as changes
in local economic conditions, prior loss experience, adequacy of collateral, and
risk characteristics of the loan portfolio.
The Corporation accounts for loan impairment in accordance with Statement of
Financial Accounting Standards No. 114, "Accounting by Creditors for Impairment
of a Loan," as amended by Statement No. 118, "Accounting by Creditors for
Impairment of a Loan--Income Recognition and Disclosure." Under Statement No.
114, a loan is considered impaired when, based on current information and
events, it is probable that a creditor will be unable to collect all amounts
due. The Statement requires that loans be measured based on the present value of
expected future cash flows, discounted at the loan's effective interest rate, or
as a practical expedient, at the loan's observable market price or the fair
value of the collateral if the loan is collateral dependent. If the measure of
the impaired loan is less than its recorded investment, the Corporation
recognizes an impairment by adjusting a valuation allowance. Statement No. 114
does not apply to large groups of homogeneous loans such as consumer
installment, and bank credit card loans, which are collectively evaluated for
impairment. Smaller balance commercial loans are also excluded from the
application of the Statement. At December 31, 1998 and 1997, impaired loans
consisted solely of nonaccrual, collateral dependent loans.
Loans are charged off when there is permanent impairment of the related recorded
investment. The cash-basis method of recognizing interest income was used for
impaired loans for all reported periods as is consistent with the Corporation's
nonaccrual policy.
Premises and Equipment
Premises and equipment are carried at cost less accumulated depreciation.
Depreciation expense is calculated principally on the straight-line method. The
depreciation methods are designed to allocate the cost of the assets over their
estimated useful lives. Estimated useful lives are ten to forty years for
buildings and improvements, and three to ten years for furniture and equipment.
Maintenance and repairs are charged to expense as incurred. The cost of
significant improvements to existing assets is capitalized. When facilities are
retired or otherwise disposed of, the cost is removed from the asset accounts
and any gain or loss is reflected in the statement of income.
22
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Assets Acquired in Foreclosure
Foreclosed assets, included in other assets, are comprised of property acquired
through a foreclosure proceeding or acceptance of a deed-in-lieu of foreclosure.
Foreclosed assets initially are recorded at fair value at the date of
foreclosure establishing a new cost basis. After foreclosure, valuations are
reviewed quarterly by management and the asset is carried at the lower of (1)
cost or (2) fair value minus estimated costs to sell. If the fair value of the
asset minus the estimated costs to sell the asset is less than the cost of the
asset, the deficiency is immediately recognized as a valuation allowance. If,
however, the fair value minus the costs to sell the asset subsequently increases
above the asset's cost, the valuation allowance is reduced, but not below zero.
Costs related to the improvement of acquired real estate assets are capitalized
until the real estate reaches a saleable condition. Revenue and expenses from
operations and changes in the valuation allowance are included in acquired real
estate expense.
Trust and Investment Services Assets and Income
Assets held by the Bank in a fiduciary or agency capacity for its customers are
not included in the consolidated financial statements since such items are not
assets of the Bank. Trust and investment services income is reported on a cash
basis, which is not materially different from the accrual basis.
Income Taxes
The Corporation and its subsidiaries file a consolidated federal income tax
return. Consolidated income tax expense is allocated based on their respective
earnings to total earnings. The Corporation accounts for income taxes in
accordance with Statement of Financial Accounting Standards No. 109, "Accounting
for Income Taxes." Under Statement No. 109, the liability method is used in
accounting for income taxes. Under this method, deferred tax assets and
liabilities are determined based on differences between the financial reporting
and tax basis of assets and liabilities. These differences are then subject to
the enacted tax rates and laws that will be in effect when the differences are
expected to reverse. Statement No. 109 requires the recognition of future tax
benefits, measured by enacted tax rates, attributable to deductible temporary
differences between the financial statement and income tax basis of assets and
liabilities. In order to realize the deferred tax asset, the Corporation
considered a number of factors, including its recent earnings history and its
expectation of future earnings. Based on these factors the Corporation has
concluded that it is more likely than not the deferred tax asset will be
realized. Accordingly, a deferred tax valuation allowance was not established as
of December 31, 1998. On a quarterly basis, the Corporation will assess whether
a valuation allowance for the deferred tax account will be required.
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 amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
Net Income and Dividends Per Common Share
The Corporation computes net income per share in accordance with Statement of
Financial Accounting Standards No. 128, "Earnings per Share." All net income per
share amounts for all periods have been presented to conform to Statement 128.
Dividends per common share are computed by dividing total dividends by the
weighted average number of shares of common stock outstanding, adjusted for
stock dividends. The weighted average number of shares of common stock
outstanding used for both net income per share and dividends per common share
was approximately 2,303,987 for 1998, 1997, and 1996.
Stock-Based Compensation
The Corporation has elected to follow Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees" (APB 25), and related
interpretations in accounting for shareholder approved employee and director
stock options. Under APB 25, since the exercise price of the Corporation's
employee and director stock options equals the market price of the underlying
stock on the date of grant, no compensation expense is recognized.
Statement of Cash Flows
For purposes of reporting cash flows, cash and cash equivalents include cash and
due from banks, and federal funds sold. Non-cash financing transactions for the
years ended December 31, 1998, 1997 and 1996 consisted of certificates of
deposit which matured and were renewed for new terms. These transactions
amounted to approximately $35,824,000 for 1998, $45,071,000 for 1997 and
$27,487,000 for 1996. Non-cash investing transactions for the years ended
December 31, 1998, 1997 and 1996 consisted of the transfer of loans to assets
acquired in satisfaction of debt. These transfers amounted to approximately
$2,171,000 for 1998, $297,000 for 1997 and $705,000 for 1996.
23
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Fair Value of Financial Instruments
The following methods and assumptions were used by the Corporation in estimating
its fair value disclosures (see Note 17) for financial instruments.
Cash and short-term investments: The carrying amounts reported in the
balance sheet for cash and short-term investments approximates their fair
value at the reporting date.
Investment securities (including mortgage-backed securities): Fair values
for investment securities are based on quoted market prices, where
available. If quoted market prices are not available, fair values are based
on quoted market prices of comparable instruments.
Loans receivable: For variable-rate and adjustable-rate loans that reprice
frequently and show no significant change in credit risk, fair values are
based on carrying values. For fixed-rate loans, fair values are estimated
using quoted market prices.
Demand and savings deposits: The fair value of demand and savings deposits
is the amount payable on demand at the reporting date.
Time deposits: The carrying value of time certificates of deposit (CDs)
less than $100,000 with an original term of six months or less and variable
rate CDs of less than $100,000 is assumed to approximate market value. The
fair value of all other CDs is estimated by discounting the future cash
flows, using rates offered for deposits of similar remaining maturities at
the reporting date.
Short-term borrowings: The carrying amount reported in the balance sheet
approximates their fair value at the reporting date due to the short
duration of these instruments.
Long-term borrowings: The fair value of long-term borrowings is estimated
by discounting the future cash flows, using rates available for borrowings
of similar maturities at the reporting date.
Off-balance sheet instruments: The fair value of off-balance sheet
instruments, such as commitments to extend credit and standby letters of
credit, are based on fees currently charged to enter into similar
agreements. Generally, fees charged on standby letters of credit and
selected commitments to extend credit, principally for commercial loans,
outstanding at December 31, 1998 are not considered material.
NOTE 2-Current Accounting Developments
On January 1, 1998, the Corporation adopted Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information." SFAS No. 131 establishes standards for the reporting of financial
information from the operating segments in annual and interim financial
statements. This Statement requires that financial information be reported on
the basis that it is reported internally for evaluating segment performance and
deciding how to allocate resources to segments. As management views the
operations of the Corporation on an enterprise-wide basis, no additional
disclosures are necessary.
On January 1, 1998, the Corporation adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income." The Statement establishes
standards for the reporting and display of comprehensive income and its
components in a full set of general purpose financial statements. Comprehensive
income includes net income plus all other non-owner changes in equity currently
excluded from net income. These other nonowner changes in equity currently
include transactions specified in SFAS No. 52, "Foreign Currency Translation,"
SFAS No. 80, "Accounting for Futures Contracts," SFAS No. 87, "Employers'
Accounting for Pensions," and SFAS No. 115, "Accounting for Certain Investments
in Debt and Equity Securities." All periods prior to adoption have been restated
to conform to the requirements of Statement No. 130.
On December 31, 1997, the Corporation adopted Statement of Financial Accounting
Standards No. 128, "Earnings Per Share," which supersedes APB Opinion No. 15 and
simplifies the computation of earnings per share (EPS) by replacing the
presentation of primary EPS with a presentation of basic EPS. Under this
Statement the dilutive effect of stock options will be excluded when calculating
basic EPS. All periods prior to adoption have been restated to conform to the
requirements of Statement No. 128.
On June 30, 1996, the FASB issued Statement of Financial Accounting Standards
No. 125, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities," which supersedes SFAS No. 122, "Accounting for
Mortgage
24
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Servicing Rights," and amends SFAS No. 65, "Accounting for Certain Mortgage
Banking Activities." This Statement provides accounting and reporting guidance
for transfers and servicing of financial assets and extinguishments of
liabilities based on the application of a "financial-components approach" that
focuses on control. Under this approach, when an entity transfers financial
assets, it recognizes the financial and servicing asset it controls and the
liabilities it has incurred, and derecognizes liabilities when extinguished. The
Statement is effective for specified transactions occurring after December 31,
1996. On October 31, 1996, the FASB issued SFAS No. 127, "Deferral of the
Effective Date of Certain Provisions of SFAS No. 125," which defers until
January 1, 1998, the effective date of paragraphs 9-12 for the following
specific transactions: securities lending, repurchase agreements, dollar rolls,
and other similar secured transactions. Additionally, the FASB agreed to defer
for one year paragraph 15 for all transactions. Statement No. 125 must be
applied prospectively. Adoption of this Statement did not, and is not expected
to, have a material impact on the assets, earnings or capital of the
Corporation.
NOTE 3-Restrictions on Cash And Due From Banks
Cash balances reserved to meet regulatory requirements of the Federal Reserve
Board and balances maintained at other banks for compensating balance
requirements amounted to $2,048,000 at December 31, 1998 and $1,392,000 at
December 31, 1997.
NOTE 4-Securities
The amortized cost and estimated market values of investments in debt and equity
securities, classified as available for sale, at December 31, follows:
Gross Gross
Amortized Unrealized Unrealized Fair
(dollars in thousands) Cost Gains Losses Value
- -----------------------------------------------------------------------------
1998
Debt Securities
U.S. Treasuries $ 4,019 $ 37 $ 0 $ 4,056
U.S. Agencies 30,100 380 (7) 30,473
States and municipals 5,922 182 (3) 6,101
Mortgage-backed securities 14,585 59 (38) 14,606
- -----------------------------------------------------------------------------
Total debt securities 54,626 658 (48) 55,236
Equity Securities 905 84 0 989
- -----------------------------------------------------------------------------
Total securities $55,531 $ 742 $ (48) $56,225
=============================================================================
1997
Debt Securities
U.S. Treasuries $ 9,545 $ 106 $ 0 $ 9,651
U.S. Agencies 20,649 335 (4) 20,980
States and municipals 3,557 149 (1) 3,705
Mortgage-backed securities 5,036 13 (3) 5,046
- -----------------------------------------------------------------------------
Total debt securities 38,787 603 (8) 39,382
Equity Securities 861 60 0 921
- -----------------------------------------------------------------------------
Total securities $39,648 $ 663 $ (8) $40,303
=============================================================================
The amortized cost and estimated fair value of debt securities at December 31,
1998, by contractual maturity, are shown below. Mortgage-backed securities are
included in the maturity categories based on average expected life. Actual
maturities may differ from contractual maturities if put/call options on
selected debt issues are exercised in the future.
December 31, 1998
Amortized Fair
(dollars in thousands) Cost Value
- ----------------------------------------------------------------------------
Due in one year or less $15,383 $15,456
Due after one year through five years 33,953 34,195
Due after five years through ten years 3,467 3,744
Due after ten years 1,823 1,841
- ----------------------------------------------------------------------------
Total debt securities $54,626 $55,236
============================================================================
Securities with an amortized cost of $21,252,000 on December 31, 1998, and
$21,080,000 on December 31, 1997, were pledged to secure public deposits and for
other purposes.
25
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5-Loans
The composition of the loan portfolio at December 31, is as follows:
(dollars in thousands) 1998 1997
- -------------------------------------------------------------------------
Commercial, industrial and agricultural $114,313 $111,074
Real estate - construction and land development 19,663 21,456
- -------------------------------------------------------------------------
Total commercial related loans 133,976 132,530
Real estate - residential mortgages 31,581 34,029
Installment 23,554 24,783
- -------------------------------------------------------------------------
Total consumer related loans 55,135 58,812
- -------------------------------------------------------------------------
Total loans $189,111 $191,342
=========================================================================
Concentrations of credit risk arise when a number of customers are engaged in
similar business activities in the same geographic region, or have similar
economic features that could cause their ability to meet contractual obligations
to be similarly affected by changes in economic conditions. Most of the
Corporation's business is with customers in southern York County, Pennsylvania.
Although this may pose a concentration risk geographically, it is believed the
diverse local economy and detailed knowledge about the customer base minimizes
this risk. At year end 1998, there were three concentrations of loans by
industry that exceeded 10 percent of total loans, as follows: commercial
facility leasing, $32.4 million or 17.2 percent; residential facility leasing,
$21.3 million or 11.8 percent; and real estate development, $19.7 million or
10.4 percent. Loans to borrowers within these industries are usually
collateralized by real estate.
The aggregate amount of loans to directors, executive officers, principal
shareholders and any associates of such persons was $2,964,000 at December 31,
1998 and $3,444,000 for 1997. During 1998, total new loan additions amounted to
$420,000 and total payments collected amounted to $900,000. Related party loans
are made on substantially the same terms, including interest rates and
collateral, as those prevailing at the time for comparable transactions with
unrelated persons and do not involve more than normal risk of collection. As of
year end 1998, all loans to this group were current and performing in accordance
with original contractual terms.
The Corporation originates and classifies loans as long-term investments;
accordingly, the cost method of accounting is used. Periodically, a portion of
fixed rate residential mortgage loans are sold, without recourse, as a means of
managing interest rate risk. A determination is made as to whether any loans are
held for sale at reporting periods. Generally, the Corporation retains servicing
rights on the loans it sells. The volume of loans serviced by the Corporation
for others was $18,135,000 at December 31, 1998, $16,820,000 at December 31,
1997 and $15,721,000 at December 31, 1996.
NOTE 6-Impaired and Past Due Loans
Impaired and past due loans at December 31, were as follows:
<TABLE>
<CAPTION>
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Impaired loans $1,706 $2,842 $2,063
Loans past due 90 days or more and still accruing interest 13 107 524
Amount of impaired loans that have a related allowance $1,706 $2,842 $2,063
Amount of impaired loans with no related allowance 0 0 0
Allowance for impaired loans 456 500 371
Average investment in impaired loans $2,891 $2,255 $3,259
Interest income recognized on impaired loans (all cash-basis) 73 103 18
</TABLE>
26
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7-Analysis of Allowance for Loan Losses
Changes in the allowance for loan losses for each of the three years ended
December 31, were as follows:
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------------
Balance at beginning of year $ 2,098 $ 2,110 $ 2,286
Provision charged to operating expense 375 275 134
Loans charged off (635) (406) (387)
Recoveries 27 119 77
- -------------------------------------------------------------------------
Balance at end of year $ 1,865 $ 2,098 $ 2,110
=========================================================================
NOTE 8-Assets Acquired in Foreclosure
Foreclosed assets, net of reserve, amounted to $1,871,000 at December 31, 1998,
compared to $380,000 at December 31, 1997, and $780,000 at December 31, 1996.
The net expenses associated with these assets were approximately $134,000 for
1998, $50,000 for 1997, and $195,000 for 1996.
Changes in the allowance for assets acquired in foreclosure for each of the
three years ended December 31, were as follows:
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------
Balance at beginning of year $ 48 $ 108 $ 23
Provision charged to operating expense 69 18 129
Write-downs to fair value (54) (83) (44)
Recoveries 0 5 0
- -------------------------------------------------------------------
Balance at end of year $ 63 $ 48 $ 108
===================================================================
NOTE 9-Premises and Equipment
The following is a summary of the premises and equipment accounts at December
31,
(dollars in thousands) 1998 1997
- --------------------------------------------------------------
Land $ 1,168 $ 1,153
Buildings and improvements 7,986 7,921
Equipment 4,874 4,723
- --------------------------------------------------------------
14,028 13,797
Less accumulated depreciation (4,683) (4,000)
- --------------------------------------------------------------
Net premises and equipment $ 9,345 $ 9,797
==============================================================
27
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10-Benefit Plans
Defined Contribution Plan
The Corporation maintains an employee 401(k) savings and investment plan,
covering substantially all employees. Under the plan, employees can contribute a
percentage of their gross salary. The Corporation matches a percentage of the
employee's contributions. In 1998, 1997 and 1996, the Corporation matched 50
percent of the first 6 percent of the employee's contributions. The
Corporation's expense for the 401(k) deferred contribution plan was $58,000 for
1998, $51,000 for 1997, and $44,000 for 1996.
Supplemental Benefit Plans
In 1998, the Bank provided supplemental retirement plans for selected executives
and supplemental life insurance for executive officers and directors. The
supplemental life insurance plans replaced other insurance coverages. The cost
and accrued liability for the supplemental retirement plans, and the
supplemental life insurance benefit for executive officers was approximately
$27,000 for 1998. Investment in cash surrender value of life insurance policies
was used to finance the supplemental benefit plans, and provide a tax exempt
return to the Bank.
Stock Option Plans
A 1998 Independent Directors' Stock Option Plan (Plan) was approved by the
shareholders at the annual meeting held on May 19, 1998. Under the Plan, 100,000
shares of common stock are reserved for possible issuance, subject to future
adjustment in the event of specified changes in the Corporation's capital
structure. In accordance with the terms of the Plan, the option exercise price
for options is the fair market value of the stock on the date granted. Options
granted cannot be exercised before six months and expire in ten years. As of
December 31, 1998, 32,000 non-qualified stock options were granted. Options
outstanding at December 31, 1998, had a weighted average exercise price of
$22.05 and a weighted average remaining contractual life of 9.5 years. As of
December 31, 1998, 32,000 non-qualified stock options were exercisable.
A 1996 Stock Incentive Plan (Plan), administered by disinterested members of the
Corporation's Board of Directors, was approved by the shareholders at the annual
meeting held on May 21, 1996. As of December 31, 1998, 72,630 shares of common
stock are reserved for possible issuance, subject to future adjustment in the
event of specified changes in the Corporation's capital structure. For
non-qualified options, the option exercise price cannot be less than the par
value of the stock on the date granted. There have been no non-qualified stock
options granted under the Plan. For qualified options, the option exercise price
cannot be less than the fair market value of the stock on the date granted. As
of December 31, 1998, 61,630 qualified stock options were outstanding with a
weighted average exercise price of $17.17 and a weighted average remaining
contractual life of nine years. Qualified options granted cannot be exercised
before varying time periods, the minimum is six months, and expire ten years
from grant date. As of December 31, 1998, 8,190 qualified stock options were
exercisable.
A summary of stock options from both Plans, adjusted for stock dividends,
follows:
Shares Option Price
Under Option Range per share
- -----------------------------------------------------------------------
Balance, May 21, 1996 0 0
Granted 13,230 $12.93-$13.21
Exercised 0 0
- ----------------------------------------------------------------------
Balance, December 31, 1996 13,230 $12.93-$13.21
Granted 29,400 $ 17.86
Exercised 0 0
- ----------------------------------------------------------------------
Balance, December 31, 1997 42,630 $12.93-$17.86
Granted 51,000 $18.88-$22.05
Exercised 0 0
======================================================================
Balance, December 31, 1998 93,630 $12.93-$22.05
In accordance with Statement No. 123, the Corporation has elected to disclose
the pro forma information regarding net income and net income per share as if
the Corporation had accounted for its stock options under the fair value method
of that Statement. The fair value for these options was estimated as of the
grant date using a Black-Scholes option pricing model with the following
weighted-average assumptions for 1998, 1997 and 1996: risk-free interest rate of
5.5 percent, dividend yield of 2.2 percent, a volatility factor of the expected
market price of the Corporation's common stock of .13 and a weighted average
expected life of 5.75 years. No options were granted prior to 1996. The
Black-Scholes option valuation model was developed
28
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
for use in estimating the fair value of traded options which have no vesting
restrictions and are fully transferable. In addition, option valuation models
require input of highly subjective assumptions including the expected stock
price volatility. Since the Corporation's employee stock options have
characteristics different from those of traded options, and changes in
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of fair value of its employee stock options. For purposes of pro
forma disclosures, the estimated fair value of the options is amortized to
expense over the options' vesting period. The effect of applying Statement No.
123's fair value method to the Corporation's stock-based awards results in pro
forma net income and earnings per share as follows:
(dollars in thousands, except per share data) 1998 1997 1996
- --------------------------------------------------------------------------------
Pro forma net income $2,356 $2,451 $2,703
Pro forma net income per share,
basic and diluted $1.02 $1.06 $1.17
Defined Benefit Plan
On January 14, 1997, the Board of Directors of PeoplesBank announced that all
Defined Benefit Plan (Plan) benefit accruals be suspended as of March 1, 1997,
and the Plan terminated as of April 30, 1997. Plan termination was in accordance
with ERISA, and necessary approvals were obtained from the Pension Benefit
Guaranty Corporation and the Internal Revenue Service. The settlement of
$2,488,000 in accumulated benefit obligations by purchase of annuity contracts
for, lump sum payments to, or rollover to a qualified IRA plan for each covered
employee was completed in 1997.
Prior to 1997, the Corporation had a noncontributory defined benefit plan
covering substantially all of its employees. Benefits under the plan were based
on years of service, age at retirement and average annual compensation over the
most recent ten years. The Corporation's funding policy was to annually
contribute amounts not to exceed the maximum amount deductible for federal
income tax purposes, to an irrevocable trust. Contributions were intended to
provide not only for benefits attributed to service to date, but also for those
expected to be earned in the future. Included in the 1997 and 1996 income
statement is pension income of $53,000 and pension expense of $60,000,
respectively.
NOTE 11-Short-term and Long-term Borrowings
The schedule below provides a three-year summary of short-term borrowings
comprised of federal funds purchased and other borrowings. Federal funds
purchased from correspondent banks usually mature in one business day. Other
short-term borrowings consist of credit available through Federal Home Loan Bank
of Pittsburgh (FHLBP). At September 30, 1998, total credit available from the
FHLBP, for both short-and long-term credit needs, was approximately $65.3
million, which is based on, and collateralized by, the unpledged portion of the
Bank's investment securities portfolio and qualifying mortgage loan receivables.
Interest is calculated daily based on the federal funds rate or the open repo
market depending on the borrowing program. At December 31, 1998, total unused
credit with the FHLBP was approximately $62.7 million.
A summary of aggregate short-term borrowings is as follows for the three years
ended December 31,
(dollars in thousands) 1998 1997 1996
- ------------------------------------------------------------------------
Amount outstanding at end of year $1,234 $ 0 $4,000
Weighted average interest
rate at end of year 5.69% 0.00% 6.75%
Maximum amount outstanding at
any month-end $1,234 $8,542 $5,500
Daily average amount outstanding $ 8 $1,281 $1,540
Approximate weighted average interest
rate for the year 5.70% 5.71% 5.61%
In January 1997, the Bank borrowed $3 million from Federal Home Loan Bank of
Pittsburgh under a ten year, 6.82 percent fixed rate amortizing note arrangement
with a final maturity date of January 22, 2007. The proceeds were used to help
fund the residential mortgage loan program. Long-term borrowings amounted to
$2,571,000 as of December 31, 1998 and $2,802,000 as of December 31, 1997.
29
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 12-Dividend Payment Restrictions
The Corporation is subject to restrictions on the payment of dividends to its
shareholders pursuant the Pennsylvania Business Corporation Law of 1988, as
amended (BCL). The BCL operates generally to preclude dividend payments if the
effect thereof would render the Corporation insolvent and result in negative net
worth, as defined. Payment of dividends to the Corporation by the Bank is
subject to restrictions set forth in the Pennsylvania Banking Code of 1965, as
amended. Accordingly, the Bank's Additional Paid-In Capital (Surplus) account
balance of $3,424,000, was restricted as of December 31, 1998.
NOTE 13-Stockholders' Equity
The Corporation declared a 5 percent stock dividend in April 1998, which was
paid on June 11, 1998. The stock dividend resulted in the issuance of 109,469
common shares. Additionally, the Corporation paid a two-for-one stock split
effected in the form of a 100 percent stock dividend on January 26, 1998 which
was declared December 9, 1997. The 100 percent stock dividend resulted in the
issuance of 1,097,259 common shares. All per share amounts were retroactively
adjusted for stock dividends.
In February 1999, the board authorized the purchase, in the open market and
privately negotiated transactions, of up to 112,500 shares of its outstanding
common stock, or approximately 4.9 percent of the currently outstanding shares.
The repurchases will be funded from retained earnings.
The Corporation maintains a Dividend Reinvestment and Stock Purchase Plan
(Plan). Shareholders of common stock may participate in the Plan, which provides
that additional shares of common stock may be purchased with reinvested
dividends at prevailing market prices. To the extent that shares are not
available in the open market, the Corporation has reserved 127,628 shares of
common stock to be issued under the Plan. Open market purchases are usually made
by an independent purchasing agent retained to act as agent for Plan
participants, and the purchase price to participants will be the actual price
paid, excluding brokerage commissions and other expenses which will be paid by
the Corporation. The Plan also permits participants to make additional voluntary
cash payments toward the purchase of shares of the Corporation's common stock.
The Corporation also maintains a Stock Incentive Plan and an Independent
Directors' Stock Option Plan. At year end 1998, 72,630 shares of common stock
were reserved for possible issuance under the Stock Incentive Plan and 100,000
shares under the Directors' Stock Option Plan. Plan detail can be found in Note
10-Benefit Plans.
Stockholders' equity, or capital, is evaluated in relation to total assets and
the risk associated with those assets. The Bank exceeded all minimum
quantitative standards for well-capitalized commercial banks as established by
the FDIC, its primary federal regulator. The FDIC's minimum quantitative
standards for a well-capitalized institution are as follows: tier I risk-based
capital ratio, 6 percent; total risk-based capital, 10 percent; and leverage
ratio, 5 percent. At the state level, the Pennsylvania Department of Banking
uses a leverage ratio guideline of 6 percent. The Corporation's and the Bank's
capital amounts and classification are also subject to qualitative judgements by
regulators. The table below depicts the capital ratios for the Corporation and
the Bank for the periods ended December 31.
Corporation Bank
Ratios 1998 1997 1998 1997
- -----------------------------------------------------------------------
Tier I risk-based capital 12.38% 12.38% 10.14% 10.03%
Total risk-based capital 13.30 13.46 11.08 11.14
Leverage 9.90 9.73 8.09 7.80
30
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14-Income Taxes
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Corporation's deferred tax assets and liabilities at December 31, are as
follows:
(dollars in thousands) 1998 1997
- ---------------------------------------------------------
Deferred tax assets
Loan loss $ 475 $ 554
Deferred loan fees 0 26
- ---------------------------------------------------------
Total deferred tax assets 475 580
- ---------------------------------------------------------
Deferred tax liabilities
Deferred loan fees 28 0
Depreciation 265 207
Net unrealized losses on loans 0 (13)
Net unrealized gains on securities
available for sale 236 222
Other 59 126
- ---------------------------------------------------------
Total deferred tax liabilities 588 542
- ---------------------------------------------------------
Net deferred tax (liability) asset ($113) $ 38
=========================================================
Analysis of federal income tax reflected in the income statements is as follows:
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------
Current tax provision $1,066 $1,008 $1,123
Deferred tax provision 122 153 138
- -------------------------------------------------------
Total tax provision $1,188 $1,161 $1,261
=======================================================
The reasons for the difference between the provision for income taxes and the
amount computed by applying the statutory federal income tax rate to income
before income taxes are as follows:
<TABLE>
<CAPTION>
(dollars in thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------
<S> <C> <C> <C>
Income before income taxes $ 3,724 $ 3,640 $ 3,968
===================================================================================
Computed tax at 34% $ 1,266 $ 1,238 $ 1,349
Increase (reduction) in taxes resulting from:
Tax exempt interest income (99) (88) (106)
Interest expense disallowance 14 10 13
Other - net 7 1 5
- -----------------------------------------------------------------------------------
Provision for income taxes $ 1,188 $ 1,161 $ 1,261
===================================================================================
</TABLE>
The provision for income taxes includes $66,000, ($6,000) and $35,000 of
applicable income tax expense (benefit) related to investment security gains
(losses) of $194,000, ($17,000) and $102,000 in 1998, 1997 and 1996,
respectively.
31
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15-Financial Instruments with Off-Balance Sheet Risk
In the normal course of business the Corporation's banking subsidiary is a party
to various financial transactions that are not funded as of the balance sheet
date. Off-balance sheet financial instruments, which enable bank customers to
meet their financing needs, are comprised mainly of commitments to extend credit
and letters of credit.
To varying degrees, these instruments contain elements of credit and market risk
similar to those on-balance sheet financial instruments. To manage these risks
the Corporation uses the same credit policies in making commitments and
conditional obligations as it does for on-balance sheet instruments. Normally,
off-balance sheet instruments have fixed expiration dates or termination
clauses, at specific rates and for specific purposes. Since many of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
Off-balance sheet instruments do not represent unusual risks for the Corporation
and management does not anticipate any significant losses as a result of these
transactions. As of December 31, 1998, outstanding commitments to extend credit
were comprised of approximately $23,488,000 in variable rate instruments, and
$30,967,000 of fixed rate instruments with rates varying from 6.50 percent to
10.00 percent. Standby letters of credit were comprised of approximately
$1,934,000 in variable rate instruments, and $330,000 of fixed rate instruments
with rates ranging from 7.25 percent to 9.00 percent.
The following is a summary of significant commitments:
December 31,
(dollars in thousands) 1998 1997
- --------------------------------------------------------------
Commitments to extend credit $54,455 $36,855
Standby letters of credit 2,264 1,732
NOTE 16-Contingent Liabilities
In the opinion of the management of the Corporation, there are no proceedings
pending to which the Corporation and the Bank are a party or to which its
property is subject, which, if determined adversely to the Corporation and the
Bank, would be material in relation to the Corporation's and the Bank's
financial condition. There are no proceedings pending other than ordinary
routine litigation incident to the business of the Corporation and the Bank. In
addition, no material proceedings are pending or are known to be threatened or
contemplated against the Corporation and the Bank by government authorities.
32
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 17-Fair Value of Financial Instruments
FASB Statement No. 107, "Disclosures About Fair Value of Financial Instruments,"
requires disclosure of fair value information about financial instruments,
whether or not recognized on the balance sheet, for which it is practicable to
estimate that value. In cases where quoted market prices are not available, fair
values are based on estimates using present value or other valuation techniques.
Those techniques are significantly affected by the assumptions used, including
the discount rate and estimates of future cash flows. In that regard, derived
fair value estimates cannot be substantiated by comparison to independent
markets and, in many cases, could not be realized in immediate settlement of the
instrument. Statement No. 107 excludes certain financial instruments and all
nonfinancial instruments from its disclosure requirements. Accordingly, the
aggregate fair value amounts presented do not represent the underlying value of
the Corporation.
An analysis of financial instruments is as follows:
<TABLE>
<CAPTION>
December 31, 1998 December 31, 1997
Carrying Fair Carrying Fair
(dollars in thousands) Amount Value Amount Value
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and due from banks $ 11,092 $ 11,092 $ 7,844 $ 7,844
Federal funds sold 0 0 5,350 5,350
Securities 56,225 56,225 40,303 40,303
Loans 189,111 187,301 191,342 188,401
Less: allowance for loan losses (1,865) (1,865) (2,098) (2,098)
Interest receivable 1,588 1,588 1,538 1,538
- ------------------------------------------------------------------------------------------
Total financial assets $ 256,151 $ 254,341 $ 244,279 $ 241,338
==========================================================================================
Financial liabilities:
Demand and savings deposits $ 109,215 $ 109,215 $ 92,086 $ 92,086
Time deposits 132,698 134,284 134,177 134,884
Short-term borrowings 1,234 1,234 0 0
Long-term borrowings 2,571 2,701 2,802 2,864
Interest payable 770 770 820 820
- ------------------------------------------------------------------------------------------
Total financial liabilities $ 246,488 $ 248,204 $ 229,885 $ 230,654
==========================================================================================
</TABLE>
The methods and assumptions used to estimate fair value can be found in the
"Fair Value of Financial Instruments" section in Note 1 of the consolidated
financial statements.
33
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 18-Condensed Financial Information-Parent Company Only
Codorus Valley Bancorp, Inc.
CONDENSED STATEMENTS OF FINANCIAL CONDITION
December 31,
(dollars in thousands) 1998 1997
- --------------------------------------------------------------------
Assets
Cash and due from banks $ 86 $ 186
Investment in subsidiaries 20,886 19,382
Premises and equipment 4,911 5,020
Other assets 189 153
- --------------------------------------------------------------------
Total assets $26,072 $24,741
====================================================================
Liabilities - Other $ 14 $ 316
Stockholders' Equity
Series preferred stock 0 0
Common stock 5,760 5,486
Additional paid-in capital 10,279 8,063
Retained earnings 9,561 10,444
Accumulated other comprehensive income 458 432
- --------------------------------------------------------------------
Total stockholders' equity $26,058 $24,425
Total liabilities and stockholders' equity $26,072 $24,741
====================================================================
Codorus Valley Bancorp, Inc.
CONDENSED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Years ended December 31,
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Income
Dividends from PeoplesBank,
A Codorus Valley Company $1,189 $ 4,392 $ 1,746
Rental income 352 128 19
Gains from sales of fixed assets 0 22 0
Other 3 7 9
- -------------------------------------------------------------------------------------------
Total income 1,544 4,549 1,774
Expenses - Other 605 377 136
- -------------------------------------------------------------------------------------------
Income before applicable income tax benefit and
undistributed earnings of subsidiaries 939 4,172 1,638
Applicable income tax benefit 85 81 36
- -------------------------------------------------------------------------------------------
Income before undistributed earnings of subsidiaries 1,024 4,253 1,674
Undistributed earnings of subsidiaries 1,512 0 1,033
Distributions of subsidiaries in excess of earnings 0 (1,774) 0
- -------------------------------------------------------------------------------------------
Net income $2,536 $ 2,479 $ 2,707
===========================================================================================
</TABLE>
34
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Codorus Valley Bancorp, Inc.
CONDENSED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Years ended December 31,
(dollars in thousands) 1998 1997 1996
- ---------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash Flows From Operating Activities:
Net income $ 2,536 $ 2,479 $ 2,707
Adjustments to reconcile net income to net cash
provided by operations:
Depreciation 164 74 9
Undistributed earnings of subsidiaries (1,512) 0 (1,033)
Distributions of subsidiaries in excess of earnings 0 1,774 0
Gain on sale of premises and equipment 0 (22) 0
Other, net (337) 262 (13)
- ---------------------------------------------------------------------------------------------
Net cash provided by operating activities 851 4,567 1,670
Cash Flows From Investing Activities:
Purchase of available for sale securities (1) 0 (5)
Proceeds from (payments for) investment in subsidiary 34 0 0
Purchases of premises and equipment (55) (3,789) (906)
Proceeds from sales of premises and equipment 0 127 0
- ---------------------------------------------------------------------------------------------
Net cash used for investing activities (22) (3,662) (911)
Cash Flows Used For Financing Activities:
Dividends paid (923) (836) (754)
Cash paid in lieu of fractional shares (6) (10) (8)
- ---------------------------------------------------------------------------------------------
Net cash used for financing activities (929) (846) (762)
- ---------------------------------------------------------------------------------------------
Net increase (decrease) in cash and
cash equivalents (100) 59 (3)
Cash and cash equivalents at
beginning of year 186 127 130
- ---------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 86 $ 186 $ 127
=============================================================================================
</TABLE>
35
<PAGE>
REPORT OF INDEPENDENT AUDITORS
ERNST & YOUNG LLP
Central Pennsylvania Practice Phone: 717 651 7300
Commerce Court, Suite 200 610 320 3600
2601 Market Place Fax 717 651 7444
Harrisburg, Pennsylvania 17110-9359
Report of Independent Auditors
The Stockholders and Board of Directors Codorus Valley Bancorp, Inc.
We have audited the consolidated statements of financial condition of Codorus
Valley Bancorp, Inc. as of December 31, 1998 and 1997, and the related
consolidated statements of income, stockholders' equity, and cash flows for each
of the three years in the period ended December 31, 1998, 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 audits,
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In Our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Codorus
Valley Bancorp, Inc. at December 31, 1998 and 1997, and the consolidated results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1998, in conformity with generally accepted accounting
principles.
/s/ Ernst & Young LLP
----------------------
January 29, 1999
Ernst & Young LLP is a memeber of Ernst & Young International, Ltd.
36
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following is management's discussion and analysis of the significant changes
in the results of operations, capital resources and liquidity presented in its
accompanying consolidated financial statements for Codorus Valley Bancorp, Inc.,
a bank holding company (Corporation), and its wholly-owned subsidiary,
PeoplesBank, A Codorus Valley Company (Bank), formerly Peoples Bank of Glen Rock
until February 1997. The Corporation's consolidated financial condition and
results of operations consist almost entirely of the Bank's financial condition
and results of operations. Current performance does not guarantee, assure, or
may not be indicative of similar performance in the future.
Management has made forward-looking statements in this document, and in
documents that are incorporated by reference, that are subject to risks and
uncertainties. Forward-looking statements include information concerning
possible or assumed future results of operations of the Corporation or Bank.
Management is making forward-looking statements when it uses words such as
"believes," "expects," "anticipates" or other similar expressions.
Shareholders should note that many factors, some of which are discussed
elsewhere in this document and in the documents that are incorporated by
reference, could affect the future financial results of the Corporation or Bank
and could cause those results to differ materially from those expressed in
forward-looking statements contained or incorporated by reference in this
document. These factors include the following: operating, legal and regulatory
risks; economic, political and competitive forces affecting banking, securities,
asset management and credit services businesses; and the risk that management's
analyses of these risks and forces could be incorrect and/or that the strategies
developed to address them could be unsuccessful.
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. Readers should carefully review the risk factors described in
other documents the Corporation files periodically with the Securities and
Exchange Commission.
OVERVIEW
The Economy
The national economy continued to expand in 1998 for the eighth consecutive
year, the longest peacetime expansion on record. For the fourth consecutive
year, the major stock market indices produced double-digit returns. The elements
that helped drive stocks higher were low inflation, low interest rates, low
unemployment, strong consumer spending and a continuous flow of money into stock
market mutual funds. While most of the economic news was positive, volatility in
the capital markets increased in 1998 due to international concerns such as the
decline of Asian and Latin American economies, and a Russian monetary
devaluation and default.
During 1998, continued concern about a decline in international demand for U.S.
goods and services, and low domestic inflation prompted the Federal Reserve
Board to lower interest rates 25 basis points on three separate occasions from
September 29, 1998 to November 17, 1998. As a result, the U.S. Prime rate
declined 75 basis points to 7.75 percent by year end 1998. The yield on the
30-year treasury bond also declined from 5.92 percent at the start of 1998 to
5.09 percent by year end.
Comparatively, market interest rates, based on the U.S. treasury yield curve,
ended the year 1997 at lower levels, particularly at the long end of the curve.
By December 1997, the 30-year treasury bond rate declined to less than 6 percent
in response to low inflation reports. The U.S. Prime rate increased 25 basis
points in March 1997 to 8.5 percent and remained at that level throughout 1997.
The Industry
Based on information provided by the FDIC for the first three quarters of 1998,
the commercial banking industry appears to be headed toward achieving record
profits for the seventh consecutive year. The growth in commercial bank earnings
is attributable to several factors, such as: growth in interest-earning assets,
higher noninterest income, and relatively sound asset quality, with the notable
exception of international loans. For 1998, the expected increase in annual net
income for the industry is likely to be constrained by weaknesses in overseas
operations and the trading activities of a few of the largest banks.
As a result of legal and industry changes, it is probable the industry will
continue to experience an increase in consolidations and mergers as the
financial services industry strives to increase profits and market share. It is
equally likely the industry will increase the diversity of financial products
and services. Management believes that such consolidations and mergers, and
diversification of products and services may enhance its competitive position as
a community bank.
Business Strategies
Throughout 1998, management and the Board of Directors (Board) continued to
implement a series of initiatives, as guided by the Corporation's long-range
strategic plan. The more significant initiatives included: Year 2000 readiness,
implementation of a formal sales and product training program, creation of a
real estate settlement services company, addition of MasterCard's(R)
MasterMoney(R) Debit/ATM Card program, acquisition of tenants for the Codorus
Valley Corporate Center (Corporate Center) and Glen Rock Community Banking
Office, and feasibility studies and recommendations relative to expansion,
systems and new business opportunities.
During 1997, strategic initiatives included: completion and occupancy of the
Corporate Center, addition of the East York Community Banking Office, change of
the Corporation's subsidiary's name (PeoplesBank, A Codorus Valley Company),
installation of telephone banking and platform automation systems, and quotation
of the Corporation's common stock
37
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
on Nasdaq National Market System. During 1996, PeoplesBank installed
state-of-the-art computer systems, both in the Bank and for the Trust and
Investment Services Division, to provide the capacity and flexibility needed to
better support present and future clients.
For 1999 and beyond, the focus will be on franchise growth and profitability.
Franchise growth will take both a traditional path, through growth of the branch
banking network, and a more strategic path, through creation or acquisition of
financial services companies that will complement traditional bank products.
The many strategic initiatives that were implemented over the past three years
to enhance corporate infrastructure were deemed necessary to improve the
organization's ability to compete, and to create long-term value for its clients
and shareholders. The reader should be mindful of the aforementioned strategic
initiatives, and future strategies, relative to their impact on the financial
results of the Corporation.
Corporate Performance
The Corporation earned $2,536,000 or $1.10 per share for 1998, compared to
$2,479,000 or $1.08 per share for 1997, and $2,707,000 or $1.17 per share for
1996. All per share amounts were adjusted for stock dividends. The 2.3 percent
increase in net income for 1998 reflects an increase in net interest income and
noninterest income which more than offset an increase in noninterest expense and
a higher provision for loan losses. The increase in net interest income was
attributable to a larger volume of earning assets. Noninterest income increased
primarily from growth in fee income from the Trust and Investment Services
Division, and gains from planned asset sales. The increase in noninterest
expense was caused by the long-term investment in facilities and technology, and
normal business growth. Comparatively, net income declined 8.4 percent in 1997
below the prior year due primarily to a higher level of noninterest operating
expense. The increase in operating expense for 1997 was due to increased
long-term investment in technology, the Codorus Valley Corporate Center, and the
community banking office franchise.
Annual cash dividends per share, as adjusted, were $.40 for 1998, compared to
$.36 for 1997, and $.33 for 1996. Additionally, a 5 percent stock dividend was
paid in 1998, 1997 and 1996. In January 1998, the Corporation paid a two-for-one
stock split effected in the form of a 100 percent stock dividend. Book value per
share, as adjusted, was $11.31 for year end 1998, compared to $10.60 for 1997
and $9.86 for 1996.
Net income as a percentage of average stockholders' equity, or return on equity
(ROE), was 10 percent for 1998, compared to 10.4 percent for 1997, and 12.4
percent for 1996. Net income as a percentage of total average assets, or return
on assets (ROA), was .98 percent for 1998, compared to 1 percent for 1997 and
1.14 percent for 1996.
At December 31, 1998, nonperforming assets as a percentage of total loans and
net assets acquired in foreclosure was approximately 1.87 percent, compared to
1.68 percent for 1997 and 1.70 percent for 1996. Information regarding
nonperforming assets is provided in the Risk Management section of this report,
including Table 8-Nonperforming Assets and Past Due Loans.
Throughout 1998, a capital level well above regulatory requirements was
maintained. Currently, there are three federal regulatory definitions of capital
that take the form of minimum ratios. Table 7-Capital Ratios depicts that the
Corporation exceeds all current federal minimum regulatory standards.
The allowance (reserve) for possible loan losses as a percentage of total loans
was .99 percent at December 31, 1998, compared to 1.10 percent at December 31,
1997, and 1.27 percent at December 31, 1996. The decline in the loan loss
reserve ratio reflected improving asset quality. Additional information is
provided in the Risk Management section of this commentary, including Tables 9
and 10. Based on a recent evaluation of potential loan losses and the current
loan portfolio, management believes that the allowance is adequate to support
any reasonably foreseeable level of losses that may arise.
A more detailed analysis of the factors and trends affecting Corporate earnings
follows.
INCOME STATEMENT ANALYSIS
Net Interest Income
Net interest income is the Corporation's principal source of revenue, or the
difference between interest income earned on loans and investment securities,
and interest expense incurred on deposits and borrowed funds. The change in net
interest income from year to year is caused by changes in interest rates,
changes in volume, and changes in the composition or mix of interest sensitive
assets and liabilities.
For analytical purposes, Table 1-Net Interest Income, Table 2-Rate/Volume
Analysis of Changes in Net Interest Income, and Table 3-Average Balances and
Interest Rates are all presented on a tax equivalent basis and are used to
understand net interest income. Income from tax-exempt assets, primarily loans
to or securities issued by state and local governments, is increased by an
amount equivalent to the federal income taxes which would have been incurred if
the income was taxable at the statutory rate of 34 percent. Such an adjustment
facilitates comparison between taxable and tax-exempt assets.
Net interest income on a tax equivalent basis was $10,862,000 for 1998, an
increase of $327,000 or 3.1 percent more than the $10,535,000 earned in 1997.
The increase in net interest income was due primarily to a larger volume of
interest earning assets which averaged $237.4 million for 1998 compared to $229
million for 1997. Growth in the average volume of interest earning assets
occurred primarily in the commercial loan portfolio. A $238,000 increase in loan
fees for 1998, which resulted in part from early loan payoffs and refinancings,
also contributed to the increase in net interest
38
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
income. Declining market interest rates lowered asset yields and liability
funding costs during 1998. The weighted average yield on interest earning assets
for 1998 was 8.48 percent compared to 8.57 percent for 1997 and 8.36 percent for
1996. The weighted average cost of interest bearing liabilities was 4.38 percent
for 1998 compared to 4.46 percent for 1997 and 4.45 percent for 1996.
While net interest income for 1998 increased above the 1997 level, the increase
was below the $624,000 or 6.3 percent increase for 1997 versus 1996 which
resulted primarily from a larger volume of earning assets. The increase in net
interest income for 1998 was constrained by declining market interest rates,
competitive pressures, and early payoffs of commercial loans as described in the
balance sheet review section of this report. As a result of these constraining
factors the net yield on average earning assets, i.e. net interest margin,
declined slightly to 4.58 percent for 1998, compared to 4.60 percent for 1997
and 4.44 percent for 1996. For 1998, an increase in core deposits relative to
higher cost funding sources, and increased loan fees partially offset the effect
of constraints on the growth of net interest income.
Management anticipates modest balance sheet growth and continuation of the
challenging competitive environment in the period ahead. Information about
interest rate risk is provided in the Market Risk Management section of this
report.
Provision for Loan Losses
The provision for possible loan losses is an estimated expense charged to
earnings in anticipation of losses attributable to uncollectible loans. The
provision reflects management's judgement of an appropriate level for the
allowance (reserve) for loan losses. The section, Allowance for Loan Losses,
including Table 9, within this report provides a five year history of
information about the allowance and provision for loan losses.
The provision expense for 1998 was $375,000 compared to $275,000 for 1997. The
increase in the provision for 1998 was necessary to support a higher level of
net loan charge-offs. Net loan charge-offs in the current period reflected a
$456,000 charge-off associated with a single commercial borrower whose account
was deemed partially uncollectable.
The provision expense for 1997 was $275,000 compared to $134,000 for 1996. The
increase in the provision for 1997 was due to loan growth and net charge-offs.
Noninterest Income
Total noninterest income for 1998 was $1,832,000, an increase of $605,000 or
49.3 percent above 1997. The increase in noninterest income was due primarily to
the periodic recognition of net gains from asset sales, trust and investment
services fees, increase in cash surrender value of life insurance policy
investments, and normal business growth. Net gains from asset sales totalled
$400,000 for 1998 compared to $79,000 for 1997. During 1998, the Bank sold $9
million (par value) available-for-sale securities which produced gains totalling
$194,000. Additionally, the Bank sold approximately $5.7 million held-for-sale
fixed rate residential mortgage loans which produced gains totalling $206,000.
Servicing rights were retained from the mortgage loan sales. Periodically,
selected assets are sold to generate income and liquidity, and manage interest
rate risk. Trust and investment services fees were $549,000 for 1998, an
increase of $108,000 or 25 percent above 1997. The increase in trust and
investment services fees was due to asset appreciation, new business, and estate
fees. In October 1998, the Bank purchased $5 million of Bank-owned life
insurance and recognized $66,000 of tax-exempt income from the increase in cash
surrender values. More information about this investment is provided in the
Other Assets section of this report.
Table 1-Net Interest Income (tax equivalent basis)
<TABLE>
<CAPTION>
December 31, 5-yr
(dollars in thousands) 1998 1997 1996 1995 1994 CGR
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Total interest income $ 19,978 $ 19,513 $ 18,523 $ 18,346 $ 16,053 4.9%
Tax equivalent adjustment 149 118 144 197 189 n/a
- ----------------------------------------------------------------------------------------------------------
Adjusted total interest income 20,127 19,631 18,667 18,543 16,242 4.8%
Total interest expense 9,265 9,096 8,756 8,722 6,940 4.9%
- ----------------------------------------------------------------------------------------------------------
Net interest income $ 10,862 $ 10,535 $ 9,911 $ 9,821 $ 9,302 4.7%
==========================================================================================================
Average earning assets $237,378 $229,047 $223,203 $216,429 $203,399 4.1%
Average interest bearing liabilities 211,754 203,831 196,860 191,701 179,756 4.0%
Yield on earning assets 8.48% 8.57% 8.36% 8.57% 7.99%
Rate on interest bearing liabilities 4.38% 4.46% 4.45% 4.55% 3.86%
- ----------------------------------------------------------------------------------------------------------
Interest rate spread 4.10% 4.11% 3.91% 4.02% 4.13%
Net yield on average earning assets 4.58% 4.60% 4.44% 4.54% 4.57%
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
39
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
Table 2-Rate/Volume Analysis of Changes in Net Interest Income (tax equivalent basis)
1998 compared to 1997
Year ended ------------------------------------
December 31, Increase Change due to
(dollars in thousands) 1998 1997 (Decrease) Volume Rate
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Interest Income
Interest bearing deposits with banks $ 9 $ 15 $ (6) $ (5) $ (1)
Federal funds sold 354 162 192 195 (3)
Securities, taxable 2,502 2,779 (277) (205) (72)
Securities, tax-exempt 426 305 121 147 (26)
Loans, taxable (1) 16,824 16,329 495 623 (128)
Loans, tax-exempt 12 41 (29) (33) 4
- ---------------------------------------------------------------------------------------------------------
Total interest income 20,127 19,631 496 722 (226)
Interest Expense
Deposits:
Interest bearing demand 1,342 1,250 92 123 (31)
Savings 455 472 (17) (1) (16)
Time deposits under $100,000 6,179 6,103 76 129 (53)
Time deposits $100,000 and above 1,105 1,010 95 108 (13)
Short-term borrowings 0 73 (73) (73) 0
Long-term borrowings 184 188 (4) (3) (1)
- ---------------------------------------------------------------------------------------------------------
Total interest expense 9,265 9,096 169 283 (114)
Net interest income $10,862 $10,535 $ 327 $ 439 $ (112)
=========================================================================================================
</TABLE>
<TABLE>
<CAPTION>
1997 compared to 1996
Year ended ------------------------------------
December 31, Increase Change due to
(dollars in thousands) 1998 1997 (Decrease) Volume Rate
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Interest Income
Interest bearing deposits with banks $ 15 $ 21 $ (6) $ (7) $ 1
Federal funds sold 162 92 70 69 1
Securities, taxable 2,779 3,711 (932) (1,018) 86
Securities, tax-exempt 305 382 (77) (80) 3
Loans, taxable (1) 16,329 14,421 1,908 2,051 (143)
Loans, tax-exempt 41 40 1 20 (19)
- ---------------------------------------------------------------------------------------------------------
Total interest income 19,631 18,667 964 1,035 (71)
Interest Expense
Deposits:
Interest bearing demand 1,250 1,221 29 72 (43)
Savings 472 538 (66) (27) (39)
Time deposits under $100,000 6,103 6,051 52 18 34
Time deposits $100,000 and above 1,010 859 151 128 23
Short-term borrowings 73 87 (14) (15) 1
Long-term borrowings 188 0 188 188 0
- ---------------------------------------------------------------------------------------------------------
Total interest expense 9,096 8,756 340 364 (24)
Net interest income $10,535 $ 9,911 $ 624 $ 671 $ (47)
=========================================================================================================
</TABLE>
(1) Includes loan fees of $567,000 in 1998, $329,000 in 1997, and $307,000 in
1996.
40
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
TABLE 3-AVERAGE BALANCES AND INTEREST RATES (tax equivalent basis)
<TABLE>
<CAPTION>
1998 1997 1996
--------------------------- ------------------------- ------------------------
Average Average Average
(dollars in thousands) Balance Interest Rate Balance Interest Rate Balance Interest Rate
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets
Interest bearing deposits with banks $ 161 $ 9 5.59% $237 $15 6.33% $346 $21 6.07%
Federal funds sold 6,475 354 5.47 2,938 162 5.51 1,675 92 5.49
Investment securities:
Taxable 40,751 2,502 6.14 44,005 2,779 6.32 60,632 3,711 6.12
Tax-exempt 5,495 426 7.75 3,709 305 8.22 4,689 382 8.15
- --------------------------------------------------------------------------------------------------------------------------------
Total investment securities 46,246 2,928 6.33 47,714 3,084 6.46 65,321 4,093 6.27
Loans:
Taxable (1) 184,388 16,824 9.12 177,609 16,329 9.19 155,492 14,421 9.27
Tax-exempt 108 12 11.11 549 41 7.47 369 40 10.84
- --------------------------------------------------------------------------------------------------------------------------------
Total loans 184,496 16,836 9.13 178,158 16,370 9.19 155,861 14,461 9.28
- --------------------------------------------------------------------------------------------------------------------------------
Total earning assets 237,378 20,127 8.48 229,047 19,631 8.57 223,203 18,667 8.36
Other assets (2) 21,081 17,385 13,258
Total assets $258,459 $246,432 $236,461
================================================================================================================================
Liabilities and Stockholders' Equity
Interest bearing deposits:
Interest bearing demand $ 55,873 1,342 2.40 $ 50,851 1,250 2.46 $ 48,005 1,221 2.54
Savings 20,717 455 2.20 20,776 472 2.27 21,854 538 2.46
Time deposits under $100,000 112,090 6,179 5.51 109,769 6,103 5.56 109,438 6,051 5.53
Time deposits $100,000 and above 20,370 1,105 5.42 18,410 1,010 5.49 16,023 859 5.36
- --------------------------------------------------------------------------------------------------------------------------------
Total interest bearing deposits 209,050 9,081 4.34 199,806 8,835 4.42 195,320 8,669 4.44
Short-term borrowings 8 0 0.00 1,281 73 5.70 1,540 87 5.65
Long-term borrowings 2,696 184 6.82 2,744 188 6.85 0 0 0.00
- --------------------------------------------------------------------------------------------------------------------------------
Total interest bearing liabilities 211,754 9,265 4.38 203,831 9,096 4.46 196,860 8,756 4.45
Noninterest bearing deposits 19,965 17,493 16,504
Other liabilities 1,451 1,234 1,276
Stockholders' equity 25,289 23,874 21,821
Total liabilities and
stockholders' equity $258,459 $246,432 $236,461
================================================================================================================================
Net interest income $ 10,862 $10,535 $9,911
- --------------------------------------------------------------------------------------------------------------------------------
Interest rate spread 4.10% 4.11% 3.91%
- --------------------------------------------------------------------------------------------------------------------------------
Net yield on earning assets 4.58% 4.60% 4.44%
- --------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Includes loan fees of $567,000 in 1998, $329,000 in 1997 and $307,000 in
1996.
(2) Includes average nonaccrual loans of $2,891,000 in 1998, $2,255,000 in 1997
and $3,259,000 in 1996.
41
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Total noninterest income for 1997 was $1,227,000, an increase of $137,000 or
12.6 percent above 1996. The increase in noninterest income was primarily
attributable to an increase in trust and investment service fees due to business
growth and appreciation in the value of assets managed.
For 1999, noninterest income is expected to exceed the 1998 level, with the
possible exception of gains from asset sales. Income from life insurance
investments and rental income from leasing space in the Corporate Center are
projected to make a larger contribution to noninterest income next year.
Approximately fifty-eight percent of the Corporate Center's leasable space to
nonaffiliated parties is presently leased. Furthermore, fee income from the
Bank's real estate settlement subsidiary which began operations in January 1999,
and normal business growth are also expected to increase noninterest income in
the period ahead.
Noninterest Expense
Total noninterest expense for 1998 was $8,446,000, an increase of $717,000 or
9.3 percent above 1997. The increase in noninterest expense for 1998, 1997 and
1996 primarily reflects the implementation of strategic initiatives to expand,
staff and equip the organization, in addition to normal business growth.
Long-term investments during this three year period were made to position the
Corporation for future expansion and to increase its service capabilities.
Explanations of the change in selected expenses for 1998 versus 1997 follow. The
$202,000 or 33 percent increase in occupancy expense for 1998 reflects a full
year's impact of depreciation, maintenance and property tax expenses associated
with a community banking office addition in April 1997, and construction and
occupancy of the Codorus Valley Corporate Center (Corporate Center) which was
operational in August 1997. The $70,000 or 8 percent increase in furniture and
equipment for 1998 reflects increased depreciation and maintenance contract
expenses from increased investment in computer equipment and systems in 1997,
and increased depreciation expense resulting from furnishing the Corporate
Center. Postage, stationery and supplies expense declined $54,000 or 13 percent
in 1998 because 1997 expenses reflected the impact of the Bank's name change and
the new community banking office. Professional and legal expense increased
$79,000 or 35 percent in 1998 due primarily to consulting fees associated with
the feasibility of new business opportunities, a new investment management
arrangement for trust and investment services accounts, financial issues, and
technology issues, including Year 2000 compliance. Marketing and advertising
increased $63,000 or 19 percent in 1998 due to implementation costs associated
with a sales and product training program which is described in the section that
follows. Acquired real estate (net) increased $84,000 or 168 percent in 1998 due
to greater carrying costs and deterioration in the market value of selected
properties. Other expense increased $178,000 or 14 percent in 1998 due in part
to accounting reclassifications and increases in the Capital Stock Tax,
Pennsylvania Shares Tax, and telephone expense.
Total noninterest expense for 1997 was $7,729,000, an increase of $974,000 or
14.4 percent above 1996. The $974,000 increase in noninterest expense primarily
reflects the implementation of strategic initiatives in 1997 and 1996. Salaries
and benefits increased $333,000 or 9 percent in 1997 to support planned business
growth. The increase included staffing the eighth full-service community banking
office which opened in April 1997. Occupancy expense increased $178,000 or 42
percent in 1997 due to increased depreciation, maintenance and property taxes
associated with the newest community bank office, and the Corporate Center which
was operational in August 1997. The cost to purchase, renovate and furnish the
new community bank office was approximately $825,000. Total investment in the
Corporate Center was approximately $5.7 million, which includes land,
construction and furnishing costs. The building is being depreciated over a
forty year estimated useful life for financial reporting purposes. Sixty-seven
percent of the leasable space is leased to the Bank, the remaining thirty-three
percent is available for lease to nonaffiliated parties. Furniture and equipment
expense increased $271,000 or 46 percent due to depreciation and maintenance
costs from increased investment in computer systems and equipment purchased in
1997 and the latter half of 1996. Current period furniture depreciation expense
increased as a result of furnishing the Corporate Center. Postage, stationery
and supplies expense increased $96,000 or 30 percent due to normal business
growth, a new community bank office, and changing the name of the Corporation's
banking subsidiary. Marketing and advertising increased $106,000 or 45 percent
due primarily to promotional expenses associated with the Bank's name change,
the new community bank office and the Corporate Center.
Noninterest expense is expected to increase in 1999 due to past and planned
strategic initiatives, and normal business growth.
Sales and Product Training
In January 1998, the Bank contracted with Financial Selling Systems, a national
sales training and consulting firm, to implement a sales and product training
program. The program is focused on the retail banking staff and has two primary
objectives: first, to expedite the transformation of the Bank to a
customer-focused corporate culture, based upon superior sales and service;
second, to increase sales through improved selling skills, increased product
knowledge and confidence, and sales incentives. Formal training of the retail
banking staff began in May. This comprehensive retail training program is
expected to take approximately thirty months to complete at an estimated cost of
$175,000. For 1998, the Bank spent approximately $95,000 for this program.
Year 2000 Compliance
The following section contains forward-looking statements which involve risks
and uncertainties. The actual impact on the Corporation of the Year 2000 issue
(Y2K) could materially differ from that which is anticipated in the
forward-looking statements as a result of certain factors identified below.
42
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The Year 2000 issue poses significant risks for all businesses, households and
governments. The risk is that on January 1, 2000, date-sensitive systems using
two digits to represent the year may not be able to distinguish between the year
2000 and the year 1900. The date problem could result in system failures or
miscalculations causing disruptions in normal business and governmental
operations. The problem has broad implications far beyond familiar computer
systems and could adversely impact security systems, telephone systems, climate
control systems, elevators, automobiles and other date-sensitive systems.
Unfortunately, there is no universal solution for this problem and resolution of
the Year 2000 issue may be both labor intensive and costly for some companies.
The Bank is subject to the regulation and oversight of various banking
regulators, whose oversight includes the provision of specific timetables,
programs and guidance regarding Y2K issues. Regulatory examination of the Bank's
Y2K programs are conducted periodically, and reports from management are
submitted quarterly to the Board.
Corporation's State of Year 2000 Readiness
Resolving the Year 2000 issue is one of the Corporation's highest priorities. In
1997, a project team was formed to address the Y2K issue. Based on an internal
assessment of the Corporation's systems and software, the project team
determined that some existing systems and software must be remediated or
replaced prior to the millennium. The replacement date for an aged
item-processing system, which is not Y2K compliant, was advanced to the fourth
quarter of 1998, approximately twelve months earlier than initially planned.
Contract negotiations and scheduling have delayed planned installation of this
system until the first quarter of 1999. Management presently believes that as a
result of modifications to existing software and hardware and conversions to new
software, the Y2K issue can be mitigated. However, if such modifications and
conversions are not made, or are not completed on a timely basis, the Y2K issue
could have a material adverse impact on the operations of the Corporation.
The Corporation has initiated communications with its major vendors to determine
the extent to which these third parties will be Y2K compliant. To date,
responses have been positive; however, there are no guarantees that the systems
and software of other companies on which the Corporation relies will be Y2K
compliant. As a precaution, the Corporation will test, and develop contingency
plans, as needed, for mission critical systems.
Further, the Bank has communicated with its large commercial borrowers. These
borrowers pose a credit risk to the Bank if they are not Y2K compliant, and
their businesses are disrupted. Responses from large commercial borrowers are
currently being evaluated, and the Bank will take appropriate action based upon
their level of readiness for year 2000. The Bank has also incorporated a Y2K
readiness review in its underwriting process for business loans.
Costs of Year 2000 Readiness
At December 31, 1998, management's best estimate of the total cost for Y2K
readiness is $39,000. For 1998, approximately $33,000 in expenses were incurred
for this project, principally for external technicians for system test plans and
testing. In addition, the Bank plans to replace an aged item-processing system
in the first quarter of 1999. This system will cost approximately $300,000 which
produces an annual after-tax depreciation expense of $40,000 based on a
five-year expected useful life. Implementation of this mission critical system
was accelerated from its original fourth quarter 1999 target replacement date.
The cost of the Y2K project and the date on which the Corporation anticipates
being Y2K compliant is based on management's best estimates, which assume the
continued availability of certain resources, third party modification plans and
other factors. However, there is no guarantee that these estimates will be
achieved and actual results could differ materially from management's plan.
Risks of Year 2000
At present, management believes its progress in remedying the Corporation's
systems, programs, applications, and installing Y2K compliant upgrades is on
target, except for installation of the item-processing system. The Y2K problem
creates risk for the Corporation from unforeseen problems in its own computer
systems and from third party vendors who provide the majority of mainframe and
pc-based computer applications. Failure of third party systems relative to the
Y2K issue could have a material impact on the Corporation's ability to conduct
business. The Corporation is also exposed to credit risk if large commercial
borrowers are not Y2K compliant and their businesses are disrupted.
Contingency Plans for Year 2000
Mission critical systems were largely remediated for Year 2000 compliance by
December 31, 1998, with the exception of the item-processing system which is
scheduled for installation in the first quarter of 1999. Testing has been
completed on four critical systems which include six individual applications.
These systems were successfully tested and operated correctly within the test
environment. As of February 28, 1999, testing has been substantially completed
for the core processing system and the trust operating system. The Corporation
will continue to monitor the progress of remediation of mission critical systems
and is in the process of developing a business resumption contingency plan.
In accordance with regulatory mandate, the Corporation's goal was to be
substantially Year 2000 compliant by year end 1998. However, uncertainties
remain about whether or not the Corporation's third party vendors and large
commercial borrowers will be Year 2000 compliant. Accordingly, the financial
impact of the Year 2000 issue on the Corporation's assets, earnings and
liquidity cannot be determined at this time.
43
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Insurance Sales
During 1997, Pennsylvania enacted a law to permit state chartered banking
institutions to sell insurance. This followed the U.S. Supreme Court decision in
favor of nationwide insurance sales by banks and barring states from blocking
insurance sales by national banks in towns with populations of no more than
5,000. The Bank is currently evaluating its options regarding the sale of
insurance and related investment products.
Income Taxes
The provision for federal income taxes was $1,188,000 for 1998 compared to
$1,161,000 for 1997. The increase in the tax provision expense for 1998 was the
result of the increase in income before income taxes. Comparatively, the tax
provision expense for 1997 was lower than 1996 due to a lower level of income
before income taxes. For additional information on income taxes, see Note
14-Income Taxes.
BALANCE SHEET REVIEW
Investment Securities
The investment securities portfolio is an interest earning asset, second only in
size to the loan portfolio. Investment securities serve as an important source
of revenue, a primary source of liquidity, and as collateral for public
deposits. The total investment securities portfolio is classified as
available-for-sale in accordance with Financial Accounting Statement No. 115,
"Accounting for Certain Investments in Debt and Equity Securities" (Statement
No. 115).
Investment is limited to high quality debt instruments. Direct obligations of
the U.S. Government are full faith and credit obligations of the federal
government. Issues of federal agencies are also directly guaranteed, indirectly
guaranteed, or sponsored, by the federal government. Obligations of states and
political subdivisions, known as "municipals," are also maintained in the
portfolio. In accordance with investment policy, municipal securities are
limited to not more than $1 million per issuer.
TABLE 4-ANALYSIS OF INVESTMENT SECURITIES
<TABLE>
<CAPTION>
Weighted
U.S. U.S. State & Average
(dollars in thousands) Treasury Agency (1) Municipal Stock Total Yield(2)
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
DECEMBER 31, 1998
Maturity
Within one year $ 4,019 $11,107 $ 257 $15,383 6.14%
One to five years 32,595 1,358 33,953 5.84
Five to ten years 983 2,484 3,467 7.77
Over ten years 1,823 1,823 6.85
No set maturity 905 905
- -----------------------------------------------------------------------------------------------
Amortized cost $ 4,019 $44,685 $ 5,922 $ 905 $ 55,531 6.08
===============================================================================================
Average maturity 2.3 years
DECEMBER 31, 1997
Maturity
Within one year $ 2,990 $ 9,764 $ 729 $13,483 6.23%
One to five years 6,555 13,466 1,414 21,435 6.66
Five to ten years 2,455 1,414 3,869 8.16
Over ten years
No set maturity 861 861
- -----------------------------------------------------------------------------------------------
Amortized cost $ 9,545 $25,685 $ 3,557 $ 861 $ 39,648 6.66
===============================================================================================
Average maturity 2.1 years
DECEMBER 31, 1996
Maturity
Within one year $ 9,530 $ 6,392 $ 884 $16,806 5.50%
One to five years 12,546 20,115 1,578 34,239 6.33
Five to ten years 2,450 1,763 4,213 8.26
Over ten years
No set maturity 1,075 1,075
- -----------------------------------------------------------------------------------------------
Amortized cost $22,076 $28,957 $ 4,225 $ 1,075 $ 56,333 6.22
===============================================================================================
Average maturity 2.1 years
</TABLE>
(1) Collateralized-mortgage obligations (CMO's) and mortgage-backed securities
(MBS's) are included in the maturity categories based on average expected
life.
(2) Yields on tax-exempt obligations were computed on a tax equivalent basis
using a 34% tax rate.
44
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
At December 31, 1998, maturities, or average expected life, for individual
issues ranged from less than one year to approximately thirteen years. The
weighted average maturity of the investment security portfolio was 2.3 years for
year ended 1998, and 2.1 years for years ended 1997 and 1996. A maturity
distribution by security type, and weighted average yields is presented in Table
4-Analysis of Investment Securities. Information about market value and
unrealized gains and losses is presented in Note 4-Securities. Unrealized
holding gains and losses, net of applicable taxes, are recorded as a separate
component of stockholders' equity as accumulated other comprehensive income in
accordance with Statements No. 115 and No. 130.
At December 31, 1998, the fair value of securities available-for-sale was $56.2
million, representing a $15.9 million or 40 percent increase above year end
1997. The increase was financed by funds from early payoffs of commercial loans
and deposit growth. During 1998, $9 million (par value) of securities
available-for-sale were sold for a pre-tax gain of $194,000.
Loans
Total average investment in loans for 1998 was $184.5 million, representing an
increase of $6.3 million or 3.6 percent above 1997. Most of the growth in
average loans was achieved in the fixed rate commercial loan portfolio. Loan
growth during 1998 was constrained by competitive pressures. In many instances
the Bank did not pursue certain loans rather than undermine sound underwriting
standards.
In addition, an unusually large level of early loan payoffs of approximately
$8.5 million occurred in the commercial loan portfolio attributable to clients
selling businesses and assets. During 1998, the Bank sold $5.7 million
held-for-sale fixed rate mortgage loans and realized a pre-tax gain of $206,000.
The tax equivalent average yield on loans for 1998 was 9.13 percent compared to
9.19 percent for 1997. The decline in loan yield was the result of lower market
interest rates and competitive pressures which resulted in a significant level
of loan refinancings.
Total average investment in loans for 1997 was $178.2 million, representing an
increase of $22.3 million or 14.3 percent above 1996. Most of the growth
occurred in the commercial loan portfolio, although consumer loans, principally
installment and home equity loans, also experienced growth in average balances
for 1997. A growing local economy, and relatively low interest rates and
unemployment were factors which contributed to loan demand. During 1997, the
Bank sold $3.7 million held-for-sale fixed rate mortgage loans and realized a
pre-tax gain of $54,000.
Table 5 presents the composition of total loans on a comparative basis for a
five year period. The table reflects an emphasis on commercial lending, with a
relatively stable mix of commercial and consumer related loans over the past
five years.
Table 6 reveals that the commercial loan portfolio was comprised of $85 million
or 64 percent in fixed rate loans and $49 million or 36 percent in floating or
adjustable rate loans, which
TABLE 5-LOAN PORTFOLIO COMPOSITION
<TABLE>
<CAPTION>
December 31,
(dollars in thousands) 1998 % 1997 % 1996 % 1995 % 1994 %
- ---------------------------------------------------------- ----------------- --------------- ---------------- ---------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial, industrial and agricultural $114,313 60.4 $111,074 58.1 $ 91,744 55.0 $ 81,119 50.7 $ 77,984 51.8
Real estate - construction and
land development 19,663 10.4 21,456 11.2 15,449 9.3 19,817 12.4 19,501 12.9
- -----------------------------------------------------------------------------------------------------------------------------------
Total commercial related loans 133,976 70.8 132,530 69.3 107,193 64.3 100,936 63.1 97,485 64.7
Real estate-residential mortgages 31,581 16.7 34,029 17.8 35,444 21.3 36,286 22.7 32,240 21.4
Installment 23,554 12.5 24,783 12.9 24,014 14.4 22,786 14.2 20,912 13.9
- -----------------------------------------------------------------------------------------------------------------------------------
Total consumer related loans 55,135 29.2 58,812 30.7 59,458 35.7 59,072 36.9 53,152 35.3
Total loans $189,111 100.0 $191,342 100.0 $166,651 100.0 $160,008 100.0 $150,637 100.0
===================================================================================================================================
</TABLE>
TABLE 6-SELECTED LOAN MATURITIES AND INTEREST RATE SENSITIVITY
<TABLE>
<CAPTION>
December 31, 1998
Years to Maturity
(dollars in thousands) 1 or less 1 to 5 over 5 Total
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial, industrial and agricultural $ 15,526 $ 22,485 $ 76,302 $114,313
Real estate-construction and land development 7,793 8,496 3,374 19,663
- -------------------------------------------------------------------------------------------------
Total commercial related $ 23,319 $ 30,981 $ 79,676 $133,976
=================================================================================================
Fixed interest rates $ 3,755 $ 18,941 $ 62,424 $ 85,120
Floating or adjustable interest rates 19,564 12,040 17,252 48,856
- -------------------------------------------------------------------------------------------------
Total commercial related $ 23,319 $ 30,981 $ 79,676 $133,976
=================================================================================================
</TABLE>
45
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
approximated year end 1997. Floating rate loans reprice periodically with
changes in the Bank's Base rate, or the U.S. Prime rate as reported in the Wall
Street Journal. Adjustable rate loans reprice at annual intervals based on the
U.S. treasury yield curve.
The Bank serviced loans for others in the amount of $18.1 million at year end
1998, compared to $16.8 million at year end 1997, and $15.7 million at year end
1996. Servicing rights were retained from mortgage loan sales to provide a
source of income and a basis for cross-selling additional financial services.
The relatively low level of market interest rates and the prospect for future
declines due to low inflation and a declining federal deficit, in conjunction
with low unemployment, create a favorable climate for loan production in the
period ahead. To some degree, loan growth will be constrained by increasing
competitive pressures.
Other Assets
In the third quarter of 1998, the Bank invested approximately $5 million in cash
surrender value life insurance policies. This investment was puchased to provide
a tax-exempt return to the Bank, and offset the costs associated with
supplemental benefit plans created in 1998 for selected executive officers and
Board members. The yield on the investment is projected to range from 5.5 to 6.0
percent. This investment, included in other assets on the statement of financial
condition, was funded by the liquidation of short-term investments with
correspondent banks.
FUNDING
Deposits
Deposits are a principal source of funding for earning assets. For 1998, total
average deposits were $229 million, an increase of $11.7 million or 5.4 percent
above 1997. The average rate paid on interest bearing deposits was 4.34 percent
for 1998 compared to 4.42 percent for 1997. During 1998, the average monthly
balance of demand deposits increased, while time deposits of $100,000 or above
declined. Management believes that deposit growth during 1998 was attributable
to increased selling effectiveness by the retail banking staff pursuant to the
formal sales and product training program, and the addition of new customers who
left selected banking competitors that were merged with, or acquired by, large
non-local financial corporations.
Comparatively, for 1997, total average deposits were $217.3 million, an increase
of $5.5 million or 2.6 percent above 1996, primarily in the interest-bearing
demand and time deposits of $100,000 and above categories. The average rate paid
on interest bearing deposits was 4.42 percent for 1997 compared to 4.44 percent
for 1996. Deposit growth in 1997 was achieved primarily through competitive
rates on time deposits and new deposits associated with the addition of a
full-service banking office in April 1997.
At 1998 year end, total certificates of deposit were $132,698,000 and are
scheduled to mature in the following years: $68,359,000 in 1999, $46,008,000 in
2000, $7,458,000 in 2001, $3,775,000 in 2002 and $7,098,000 in 2003. At 1998
year end, the balance of certificates $100,000 and above was $19,010,000. Of
this total, $7,658,000 mature within three months; $1,952,000 mature after three
months but within six months; $3,293,000 mature after six months but within
twelve months; and the remaining $6,107,000 mature beyond twelve months.
For 1999, the volume of deposits is expected to increase moderately for the same
reasons discussed earlier, in addition to normal business growth. It is probable
that competitive pressures, including the emergence of new competitors, will
constrain deposit growth for the Bank in the period ahead. Furthermore,
double-digit returns in the stock and mutual funds markets have constrained
deposit growth for the commercial banking industry in the past, and will
continue to do so if these returns are sustained in the period ahead.
Short-Term and Long-Term Borrowings
To meet day-to-day funding needs, the Bank may borrow from larger correspondent
banks in the form of federal funds purchased. It also utilizes available credit
through the Federal Home Loan Bank of Pittsburgh (FHLBP). The rate is
established daily based on prevailing market conditions for overnight funds.
The Bank's maximum borrowing capacity, as established quarterly by the FHLBP,
was approximately $65.3 million as of September 30, 1998, the most recent
available date. At December 31, 1998, the Bank had $2.6 million outstanding on
its account with the FHLBP.
In January 1997, the Bank borrowed $3 million from the FHLBP under a ten year,
6.82 percent fixed rate amortizing note arrangement with a final maturity date
of January 22, 2007. The proceeds were used to help fund the residential
mortgage loan program. Long-term debt amounted to $2.6 million at December 31,
1998.
In light of competitive pressures and the public allure with the stock and
mutual funds markets, traditional deposit funding, by necessity, will continue
to be supplemented with borrowed funds.
Stockholders' Equity
Stockholders' equity, or capital, is a source of funds which enables the
Corporation to maintain asset growth and to absorb losses. For the year ended
1998, total stockholders' equity was $26 million, reflecting an increase of $1.6
million or 6.7 percent above year end 1997. Comparatively, for the year ended
1997, total equity grew $1.7 million or 7.6 percent above year end 1996. The
increase in total equity for both periods was due primarily to earnings
retention from profitable operations.
The Corporation's level of capital at December 31, 1998, remained strong, with
capital ratios well in excess of regulatory guidelines. There are currently
three federal regulatory definitions of capital adequacy that take the form of
minimum ratios. Table 7 depicts that the Corporation exceeds all federal minimum
quantitative regulatory standards. The Corporation's and the Bank's capital
amounts and classification are also subject to qualitative judgements by
regulators.
46
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The Corporation generally pays cash dividends on a quarterly basis. The dividend
rate is determined by the Board after considering the Corporation's capital
requirements, current and projected net income, and other factors. Annual cash
dividends on a per common share basis were $.40 for 1998, $.36 for 1997, and
$.33 for 1996. All per share amounts were adjusted for stock dividends. The
Corporation and the Bank are subject to restrictions on the payment of dividends
as depicted in Note 12-Dividend Payment Restrictions.
Periodically, the Corporation pays stock dividends as another means of enhancing
long-term shareholder value. In June of 1998, 1997, and 1996, the Corporation
paid a 5 percent stock dividend. Payment of these 5 percent stock dividends
resulted in the issuance of 109,469 common shares in 1998, 51,963 shares in
1997, and 49,503 shares in 1996. In January 1998, the Corporation paid a
two-for-one stock split effected in the form of a 100 percent stock dividend.
The stock split resulted in the issuance of 1,097,259 shares of common stock.
The weighted average number of shares of common stock outstanding was 2,303,987
for 1998, 1997 and 1996.
In February 1999, the Corporation publically announced that its Board authorized
the purchase, in open market and privately negotiated transactions, of up to
112,500 shares or approximately 4.9 percent of its then outstanding common
shares. The purchases are expected to be funded by using available excess
capital.
Capital investments made in 1997 and 1996, and future investment will impact
current and future earnings and capital growth. Possible future investments
could include expansion of the community office franchise, investment in
communication and computer technologies, and creation or acquisition of other
financial services companies. Management and the Board believe that capital
investment, guided by a long-term strategic plan, is necessary to develop an
infrastructure to grow market share and net income over the long term, and is an
important component of the overall strategy of enhancing long-term shareholder
value.
As previously disclosed in this report, the Corporation maintains various
employee, director and shareholder benefit plans that could result in the
issuance of its common stock. Information about these plans can be found in Note
10-Benefit Plans and Note 13-Stockholders' Equity of the consolidated financial
statements.
RISK MANAGEMENT
Credit Risk Management
The Corporation emphasizes the minimization of credit risk. To support this
objective a sound lending policy framework has been established. Within this
framework are six basic policies which guide the lending process and minimize
risk. First, the Corporation follows detailed written lending policies and
procedures. Second, loan approval authority is granted commensurate with dollar
amount, loan type, level of risk,
TABLE 7-CAPITAL RATIOS
<TABLE>
<CAPTION>
December 31,
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Tier I Capital - Total stockholders' equity (1) $ 25,590 $ 23,988 $ 22,354
Tier II Capital - Allowance for loan losses (2) 1,903 2,098 2,053
- -------------------------------------------------------------------------------------------------
Total risk-based capital $ 27,493 $ 26,086 $ 24,407
Risk-adjusted on-balance sheet assets (1) $ 196,394 $ 188,075 $ 158,701
Risk-adjusted off-balance sheet exposure (3) 10,020 5,675 5,491
- -------------------------------------------------------------------------------------------------
Total risk-adjusted assets including
off-balance sheet exposure $ 206,414 $ 193,750 $ 164,192
Ratios:
Tier I risk-based capital ratio 12.40% 12.38% 13.61%
Federal minimum required 4.00 4.00 4.00
Total risk-based capital ratio 13.32% 13.46% 14.86%
Federal minimum required 8.00 8.00 8.00
Leverage ratio (4) 9.90% 9.73% 9.45%
Federal minimum required 4.00 4.00 4.00
</TABLE>
(1) Net unrealized gains and losses on securities available-for-sale, net of
taxes, are disregarded for capital ratio computation purposes in accordance
with federal regulatory banking guidelines.
(2) Allowance for loan losses is limited to 1.25% of total risk-adjusted
assets. In 1998, banking regulators permitted the inclusion of up to 45% of
unrealized gains on available-for-sale equity securities.
(3) Off-balance sheet exposure is caused primarily by standby letters of credit
and loan commitments with a remaining maturity exceeding one year. These
obligations have been converted to on-balance sheet credit equivalent
amounts and adjusted for risk.
(4) Tier I capital divided by average total assets.
47
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
and the experience of the loan officer. Third, loan review committees function
at both the senior lending officer level and the Board level to review and
authorize loans that exceed preestablished dollar thresholds and/or meet other
criteria. Fourth, the Corporation adheres to making most of its loans within its
primary geographical market area, York County, Pennsylvania. Although this may
pose a geographical concentration risk, the diverse local economy and knowledge
of customers minimizes this risk. Fifth, the loan portfolio is diversified to
prevent dependency upon a single customer or small group of related customers.
And sixth, the Corporation does not make loans to foreign countries or persons
residing therein.
In addition to a comprehensive lending policy, numerous internal reviews and
audits of the loan portfolio occur throughout the year. An important on-going
review mechanism is the lender initiated risk rating system, (LIRRS). The LIRRS
requires personnel with lending authority to systematically evaluate and rate
loans based upon preestablished risk criteria. All potential problem loans and
assets acquired in foreclosure are reviewed quarterly, or more frequently, if
circumstances dictate, by a Special Asset Committee (SAC) comprised of selected
members of senior management. For each loan under review the SAC has the
responsibility of establishing a final risk rating, an action plan for reducing
risk, and a loss reserve. The results of SAC actions are documented and
forwarded to the Board for their review. In addition to internal controls, the
Bank uses a disinterested third party loan review specialist to review its
commercial loan portfolio. Furthermore, the loan portfolio is reviewed annually
by independent auditors in connection with their audit of the financial
statements; and is examined periodically by bank regulators.
Nonperforming Assets
A primary measure of loan quality is the percentage of loans that move from an
earnings category to a nonperforming category. Table 8-Nonperforming Assets and
Past Due Loans, depicts asset categories posing the greatest risk of loss. A
loan is considered impaired when, based on current information and events, it is
probable that the Bank will be unable to collect all amounts due. Internal loan
classifications such as nonaccrual, and troubled debt restructurings, are
examples of impaired loans. It is the Bank's policy to reclassify loans to an
impaired status when either principal or interest payments become 90 days past
due, unless the value of the supporting collateral is adequate and the loan is
in the process of collection. An impaired classification may be made prior to 90
days past due if management believes that the collection of interest or
principal is doubtful. Assets acquired in foreclosure are primarily real estate
assets that were acquired to satisfy debts owed to the Bank. The final category,
loans past due 90 days or more and still accruing interest, are contractually
past due, but are well collateralized and in the process of collection.
Table 8 depicts that total nonperforming assets were $3,577,000 or 1.9 percent
of total loans and net assets acquired.
TABLE 8-NONPERFORMING ASSETS AND PAST DUE LOANS
<TABLE>
<CAPTION>
December 31,
(dollars in thousands) 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Impaired loans (1) $ 1,706 $ 2,842 $ 2,063 $ 3,583 $ 1,766
Assets acquired in foreclosure, net of reserve 1,871 380 780 695 670
- ---------------------------------------------------------------------------------------------------------------------------
Total nonperforming assets $ 3,577 $ 3,222 $ 2,843 $ 4,278 $ 2,436
===========================================================================================================================
Loans past due 90 days or more and still accruing interest $ 13 $ 107 $ 524 $ 1,755 $ 522
Ratios:
Impaired loans as a % of total year-end loans 0.90% 1.49% 1.24% 2.24% 1.17%
Nonperforming assets as a % of total year-end
loans and net assets acquired in foreclosure 1.87% 1.68% 1.70% 2.66% 1.61%
Nonperforming assets as a % of total year-end
stockholders' equity 13.73% 13.19% 12.52% 20.34% 13.63%
Allowance for loan losses as a
multiple of impaired loans 1.1x .7x 1.0x .6x 1.3x
Interest not recognized on
impaired loans at period-end:(2)
Contractual interest due $ 312 $ 398 $ 246 $ 306 $ 125
Interest revenue recognized 73 103 18 120 23
- ---------------------------------------------------------------------------------------------------------------------------
Interest not recognized in operations $ 239 $ 295 $ 228 $ 186 $ 102
===========================================================================================================================
</TABLE>
(1) Comprised solely of nonaccrual loans.
(2) This table includes interest not recognized on loans which were classified
as impaired at year end. While every effort is being made to collect this
interest revenue, it is probable a portion will never be recovered.
48
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Comparatively, nonperforming assets were $3,222,000 or 1.7 percent of total
loans and net assets acquired at December 31, 1997. At year end 1998, the
impaired loans category reflected a $1,136,000 or 40 percent decline from the
previous year end due primarily to reclassifications to the assets acquired
category. At December 31, 1998, the impaired loan portfolio was comprised of
twenty unrelated accounts, primarily commercial loan relationships, ranging in
size from $25,000 to $211,000. These loan relationships vary by industry and are
generally collateralized with real estate assets. A loss allowance, which is
evaluated quarterly, has been established for accounts that appear to be
under-collateralized. Efforts to modify contractual terms for individual
accounts, based on prevailing market conditions, or liquidate collateral assets,
are proceeding as quickly as potential buyers can be located and legal
constraints permit.
Assets acquired in foreclosure, net of reserve, were $1,871,000 for year end
1998, representing an increase of $1,491,000 above year end 1997. Most of the
increase in assets acquired was caused by the addition of an improved real
estate property taken via deed-in-lieu of foreclosure in May 1998. The
Corporation's carrying value for this asset is approximately $999,000.
Management believes that the net realizable value of this property which makes
up 52 percent of total assets acquired, is sufficiently greater than its
carrying value based on a recent external appraisal. At December 31, 1998, the
assets acquired portfolio consisted of five unrelated accounts which ranged in
size from $28,000 to $999,000. A loss allowance, which is evaluated quarterly,
has been established for assets acquired whose estimated fair value, less
selling expenses, is below their financial carrying costs. At December 31, 1998,
the allowance for assets acquired was approximately $63,000. The provision
expense for assets acquired, due to declines in the fair value of individual
assets, was $69,000 for 1998 compared to $18,000 for 1997 and $129,000 for 1996.
At December 31, 1998, loans past due 90 days or more and still accruing interest
were $13,000, compared to $107,000 for year end 1997. Generally, loans in the
past due category are well collaterized and in the process of collection. The
current level of past due loans is closely monitored and believed to be within a
manageable range.
At December 31, 1998, there were no potential problem loans, as defined,
identified by management. However, management was monitoring loans of
approximately $7.5 million for which the ability of the borrower to comply with
present repayment terms was uncertain. Comparatively, management was monitoring
$7.9 million on December 31, 1997. These loans were not included in the Table 8
disclosure. They are monitored closely, and management presently believes that
the allowance for loan losses is adequate to cover anticipated losses that may
be attributable to these loans.
At year end 1998, there were three concentrations of loans by industry that
exceeded 10 percent of total loans, as follows: commercial facility leasing,
$32.4 million or 17.2 percent; residential facility leasing, $21.3 million or
11.8 percent; and real estate development, $19.7 million or 10.4 percent.
Comparatively, at year end 1997, concentrations within these three industries
were as follows: commercial facility leasing, $36.5 million or 19.1 percent;
residential facility leasing, $17.9 million or 9.3 percent; and real estate
development, $21.5 million or 11.2 percent. Loans to borrowers within these
industries are usually collateralized by real estate.
Allowance for Loan Losses
Although the Corporation maintains sound credit policies, certain loans
deteriorate and are charged off as losses. The allowance (reserve) for loan
losses is maintained to absorb these potential losses. The allowance is
increased by provisions charged to expense and is reduced by loan charge-offs,
net of recoveries. In analyzing the adequacy of the allowance, management
considers the results of internal and external credit reviews, past loss
experience, changes in the size and character of the loan portfolio, adequacy of
collateral, general economic conditions and the local business outlook.
Table 9 presents an analysis of the activity in the allowance for loan losses
over a five year period. Commentary is provided below for each period presented.
For 1998, the allowance was $1,865,000, representing a $233,000 or 11 percent
decline from year end 1997. The decline was primarily the result of a $456,000
charge-off attributable to a single commercial borrower whose account was deemed
partially uncollectible in June 1998. The loan loss provision was $375,000 for
1998, an increase of $100,000 above 1997 to partially offset a higher level of
net charge-offs. With the exception of the charge-off for the single commercial
borrower, the reduction in the allowance reflects overall improvement in the
quality of the loan portfolio.
For 1997, the allowance was $2,098,000, representing a small decline from year
end 1996. The provision expense was $275,000 for 1997 which was $141,000 higher
than the prior year due primarily to commercial loan growth and net charge-offs.
Of the total $406,000 charged off in 1997, $172,000 or 42 percent was
attributable to one commercial loan borrower whose accounts were deemed
uncollectible. The decline in the allowance level and the ratio of allowance to
total loans reflects improvement in the quality of individual loans within the
loan portfolios.
For 1996, the allowance was $2,110,000, reflecting a decrease of $176,000 from
year end 1995 due to a lower level of nonperforming assets. The reduction in the
allowance lowered the unallocated reserve component, depicted in Table 10, which
was deemed sufficient at year end 1996. The provision expense was $134,000 in
the current period which primarily supported loan growth, principally commercial
loans. Of the total $387,000 charged off for the year, $251,000 was attributable
to one commercial loan borrower whose accounts were deemed uncollectible.
For 1995, the allowance was $2,286,000, slightly above the level for year end
1994. The increase was due to a higher level of nonperforming assets and to
support a larger volume of loans. The provision expense was $228,000 in 1995
which primarily supported loan growth and losses due to charge-offs. Of the
total $342,000 charged off for the year, $141,000 was attributable to one
commercial loan borrower whose accounts were deemed uncollectible.
49
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
For 1994, the allowance was $2,249,000, up slightly from year end 1993 to
support a larger volume of loans. The significant increase in total loan
charge-offs was caused by one event. As previously disclosed on May 5, 1994,
management of the Bank discovered violations of credit policy, internal controls
and loan authorizations in connection with the commercial loan portfolio of a
former Bank officer. Subsequently, the loan officer resigned and the Bank
completed an internal review for the purpose of identifying all unauthorized
loans and evaluating them for collectibility and collateral adequacy. Effective
June 30, 1994, the Bank recorded a $1,005,000 loan loss provision expense, and
on July 12, 1994 charged off $1,087,000 as loan losses. In December 1994, the
Bank received $270,000 in net insurance proceeds as a partial recovery for the
losses. The former officer was convicted of fraud and sentenced to prison by
federal authorities.
Based on a recent evaluation of potential loan losses, management believes that
the allowance is adequate to support any reasonably foreseeable level of losses
that may arise. Ultimately, however, the adequacy of the allowance is dependent
upon future economic factors beyond the Corporation's control. With this in
mind, additions to the allowance for loan losses may be required in future
periods.
Table 10 presents an allocation of the allowance for potential loan losses by
major loan category.
Liquidity
Maintaining adequate liquidity provides the Corporation with the ability to meet
financial obligations to its depositors, loan customers, employees, and
stockholders on a timely and cost effective basis in the normal course of
business. Additionally, it provides funds for growth and business opportunities
as they arise. For example, the funding for capital expenditures in 1997 and
1996 for expansion and system improvements was generated from normal Bank
operations.
Liquidity is generated from transactions relating to both the Corporation's
assets and liabilities. The primary sources of asset liquidity are scheduled
investment security maturities and cash inflows, loan receipts from customer
loan payments, and asset sales. The primary sources of liability liquidity are
deposit growth and short-and long-term borrowings. Retained earnings from
profitable operations is yet another source of liquidity. The Consolidated
Statement of Cash Flows identifies the three major sources and uses of cash
(liquidity) as operating, investing and financing activities.
The Corporation manages liquidity through the use of ratios and forecasts of
selected cash flows. At year end 1998, the loan-to-deposit ratio was 78.2
percent compared to 84.6 percent at year end 1997. The ratio for both periods
was within current policy guidelines. In the period ahead the loan-to-deposit
ratio could increase due to competitive forces which may constrain deposit
growth. By necessity, short- and long-term borrowings will play an increasingly
important role in funding in the period ahead.
Market Risk Management
During 1997, the Securities and Exchange Commission issued new disclosure rules
for financial instruments and exposures to market risk. The new rules require
quantitative and qualitative disclosures about each type of market risk (eg.,
interest rate, foreign currency, commodity price, equity price), if material,
within trading and other than trading portfolios. The rules took effect for
financial statements for years ending after June 15, 1997, and affected most
financial institutions.
TABLE 9-ANALYSIS OF ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
December 31,
(dollars in thousands) 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance - beginning of year $2,098 $2,110 $2,286 $2,249 $2,000
Provision charged to operating expense 375 275 134 228 1,229
Loans charged off:
Commercial 610 340 265 276 1,255
Real estate-mortgage 0 0 27 0 0
Consumer 25 66 95 66 24
- ---------------------------------------------------------------------------------------------------------------
Total loans charged off 635 406 387 342 1,279
Recoveries:
Commercial 13 112 26 134 298
Real estate-mortgage 0 0 0 0 0
Consumer 14 7 51 17 1
- ---------------------------------------------------------------------------------------------------------------
Total recoveries 27 119 77 151 299
- ---------------------------------------------------------------------------------------------------------------
Net charge-offs 608 287 310 191 980
Balance - end of year $1,865 $2,098 $2,110 $2,286 $2,249
===============================================================================================================
Ratios:
Net charge-offs to average total loans 0.32% 0.16% 0.19% 0.12% 0.68%
Allowance for loan losses to total loans at year-end 0.99 1.10 1.27 1.43 1.49
Allowance for loan losses to impaired
loans and loans past due 90 days or more 108.5 71.1 81.6 42.8 98.3
</TABLE>
50
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
In the normal course of conducting business activities the Corporation is
exposed to market risk, principally interest rate risk, through the operations
of its banking subsidiary. Interest rate risk arises from market driven
fluctuations in interest rates which may affect cash flows, income, expense and
the values of financial instruments. The Bank is particularly vulnerable to
changes in the short-term U.S. Prime interest rate (Prime rate). Interest rate
risk is managed by an Asset-Liability Committee (ALCO) comprised of members of
senior management and an outside director. The ALCO's objective is to maximize
net interest income within acceptable levels of liquidity and interest rate risk
and within capital adequacy constraints. Based on the operations of the Bank, it
is not subject to foreign currency or commodity price risk, nor does it own any
trading assets.
The ALCO manages interest rate risk primarily through sensitivity analysis. A
computerized asset-liability management simulation model (ALM Model) is used to
measure the potential loss in future net income based on hypothetical changes in
interest rates. In 1998, two significant changes were made to the
asset-liability management process. First, a dated ALM Model was replaced with a
new model that has a solid national reputation. Second, the Bank subscribed to
an economic and interest rate forecasting service. Also in 1998, the interest
rate risk policy limit was changed to reflect a focus on net income, as opposed
to net interest income. The Corporation's policy limit for the maximum negative
impact on net income is 10 percent over a 12-month period. This policy limit is
tested periodically by measuring the change in net income from a "baseline"
scenario compared to a gradual 200 basis point increase and decrease in interest
rates over a 12-month period; or if more practicable the forecasting service's
"high rate" and "low rate" scenarios spread gradually over a 12-month period.
The ALM Model includes significant balance sheet variables that are identified
as being affected by interest rates. For example, the model reflects: rate
change differentials; rate caps and floors; and prepayment volatility. These and
certain other effects are evaluated in developing the scenarios from which
sensitivity of net income to changes in interest rates is determined.
A simulation was recently performed using 1999 budget data as a baseline. The
baseline reflected a most likely interest rate scenario, eg., the Prime rate (a
driver rate) would decline 75 basis points over 1999. The ALM Model projected
net income for the baseline rate scenario compared to the forecasting service's
high rate (Prime rate gradually increases 225 basis points by year end 1999) and
low rate (Prime rate gradually declines 175 basis points by year end 1999)
scenarios. Key assumptions that were used for the three interest rate scenarios
included: varying levels of prepayments for commercial and mortgage loans, and
mortgage-backed securities; stability of consumer loan and core deposit volumes,
and noninterest income and expense; and reinvestment of repriceable cash flows
in the same type of asset or liability. The ALM Model projected relatively
stable net income over a 12-month period. For 1999, net income would decline 0.7
percent if interest rates rise and 1.6 percent if interest rates fall, compared
to the baseline scenario. The change in projected net income, due to changes in
the market interest rates, is well within the Corporation's 10 percent interest
rate risk policy limit.
Comparatively, simulation was performed for 1998 with a dated and less
sophisticated ALM Model. It projected that net income would increase 7.7 percent
if if the Prime rate gradually increased 200 basis points, and decrease 9.9
percent if the
TABLE 10-ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
December 31,
1998 1997 1996 1995 1994
--------------- -------------- ---------------- ---------------- ---------------
% Total % Total % Total % Total % Total
(dollars in thousands) Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial, industrial
and agricultural $1,329 60.4 $1,263 58.1 $1,335 55.0 $1,233 50.7 $1,198 51.8
Real estate - construction
and land development 174 10.4 268 11.2 319 9.3 268 12.4 171 12.9
- ---------------------------------------------------------------------------------------------------------------------------------
Total commercial related loans 1,503 70.8 1,531 69.3 1,654 64.3 1,501 63.1 1,369 64.7
Real estate - residential mortgages 74 16.7 95 17.8 86 21.3 94 22.7 51 21.4
Installment 73 12.5 54 12.9 79 14.4 8 14.2 17 13.9
- ---------------------------------------------------------------------------------------------------------------------------------
Total consumer related loans 147 29.2 149 30.7 165 35.7 102 36.9 68 35.3
Unallocated 215 n/a 418 n/a 291 n/a 683 n/a 812 n/a
- ---------------------------------------------------------------------------------------------------------------------------------
Total $1,865 100.0 $2,098 100.0 $2,110 100.0 $2,286 100.0 $2,249 100.0
=================================================================================================================================
</TABLE>
Note: The specific allocation for any particular loan category may be
reallocated in the future as risk perceptions change. Furthermore, the portion
allocated to each loan category is not the total amount available for future
losses that might occur within such categories since the total allowance is a
general allowance applicable to the entire loan portfolio.
51
<PAGE>
MANAGEMENT'S DISCUSSION OF CONSOLIDATED FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Prime rate gradually declined 200 basis points, compared to the baseline budget
scenario, which assumed the Prime rate would remain flat at 8.50 percent, over a
12-month period.
For 1999, the ALM Model projects a balance sheet with less interest rate risk
than the prior year. This is primarily attributable to anticipated growth in
core deposits and fixed rate loans. Assumed increases in both of these
categories is likely to reduce prior year asset sensitivity and result in a more
matched position of repriceable assets versus repriceable liabilities.
Measurement of interest rate risk requires many assumptions. These assumptions
are inherently uncertain and, as a result, the model cannot precisely estimate
net interest income or precisely predict the impact of higher or lower rates on
net income. Actual results will differ from simulated results due to timing,
magnitude and frequency of interest rate changes, customer behavior, and changes
in market conditions and management strategies, among other factors.
Periodically, as risk perceptions change and ALM Model results become available,
management will continue to formulate strategies to protect earnings from the
potential negative effects of changes in market interest rates.
Impact of Inflation and Changing Prices
The majority of assets and liabilities of a financial institution are monetary
in nature and therefore differ greatly from most commercial and industrial
companies that have significant investments in fixed assets or inventories.
However, inflation does have an important impact on the growth of total assets
in the banking industry and the resulting need to increase equity capital at
higher than normal rates in order to maintain an appropriate equity-to-assets
ratio. Inflation also significantly affects noninterest expenses, which tend to
rise during periods of general inflation. The level of inflation, as measured by
the annual average percentage change in the Consumer Price Index (CPI) for all
urban consumers, continued its downward trend for 1998. This downward trend,
influenced by increasing global competition, productivity gains, and a declining
U.S. federal budget deficit, has prompted reports about the possibility of
deflation, or falling prices, in the future. The CPI for 1998 was 1.6 percent,
compared to 2.3 percent for 1997 and 2.9 percent for 1996.
Management believes the most significant impact on financial results is the
Corporation's ability to react to changes in market interest rates. As discussed
previously, management strives to structure the balance sheet to increase net
interest income by managing interest rate sensitive assets and liabilities in
such a way that they reprice in response to changes in market interest rates.
Additionally, management is focused on increasing fee income which is less
sensitive to changes in market interest rates.
Other Risks
Periodically, various types of federal and state legislation is proposed that
could result in additional regulation of, or restrictions on, the business of
the Corporation and its subsidiaries. It cannot be predicted whether such
legislation will be adopted or, if adopted, how such legislation would affect
the business of the Corporation and its subsidiaries.
Except as disclosed herein, the Corporation is not currently aware of any other
trends, events or uncertainties which may materially and adversely affect
capital, results of operations or liquidity.
TABLE 11-SUMMARY OF QUARTERLY FINANCIAL DATA
<TABLE>
<CAPTION>
1998 1997
(dollars in thousands, Fourth Third Second First Fourth Third Second First
except per share data) Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income $ 4,947 $ 4,960 $ 5,073 $ 4,998 $ 5,044 $ 5,029 $ 4,797 $ 4,643
Interest expense 2,315 2,345 2,312 2,293 2,362 2,338 2,270 2,126
- --------------------------------------------------------------------------------------------------------------------------------
Net interest income 2,632 2,615 2,761 2,705 2,682 2,691 2,527 2,517
Provision for loan losses 0 75 225 75 73 68 67 67
Noninterest income 454 314 356 308 322 310 235 281
Noninterest expense 2,246 2,098 2,059 2,043 2,141 1,940 1,849 1,799
- --------------------------------------------------------------------------------------------------------------------------------
Net operating income 840 756 833 895 790 993 846 932
Gain(loss) securities sales 0 72 0 122 0 (17) 0 0
Gains other 98 4 104 0 37 56 3 0
- --------------------------------------------------------------------------------------------------------------------------------
Pretax income 938 832 937 1,017 827 1,032 849 932
Provision for income taxes 284 227 341 336 267 321 281 292
- --------------------------------------------------------------------------------------------------------------------------------
Net income $ 654 $ 605 $ 596 $ 681 $ 560 $ 711 $ 568 $ 640
================================================================================================================================
Net income per share, basic and diluted $ 0.28 $ 0.26 $ 0.26 $ 0.30 $ 0.24 $ 0.31 $ 0.25 $ 0.28
================================================================================================================================
</TABLE>
(1) Net income per share was retroactively adjusted for stock dividends
declared through December 31, 1998.
52
<PAGE>
CORPORATE INFORMATION
A CORPORATE PROFILE
Codorus Valley Bancorp, Inc. is a Pennsylvania business incorporated in 1986. On
March 2, 1987 Codorus Valley Bancorp, Inc. became effective as a bank holding
company, pursuant to the Bank Holding Company Act of 1956, as amended.
PeoplesBank, A Codorus Valley Company, is its wholly-owned banking subsidiary
and SYC Realty Co., Inc. is its wholly-owned nonbank subsidiary. Organized in
1934, PeoplesBank, formerly Peoples Bank of Glen Rock until February 1997,
offers a full range of commercial and consumer banking services through eight
full service banking office locations in York County, Pennsylvania. The deposits
of PeoplesBank are fully insured by the Federal Deposit Insurance Corporation
(FDIC) to the maximum extent provided by law. PeoplesBank also offers trust and
investment services at the Codorus Valley Corporate Center. In 1998, PeoplesBank
created SYC Settlement Services, Inc., as a wholly-owned subsidiary, to provide
real estate settlement services.
HEADQUARTERS
Codorus Valley Bancorp, Inc., Codorus Valley Corporate Center, 105 Leader
Heights Road, York, PA 17403 STOCK,
DIVIDEND AND BROKER INFORMATION
Outstanding common stock of Codorus Valley Bancorp, Inc. is quoted under the
symbol "CVLY" on the NASDAQ National Market System. At December 31, 1998, there
were approximately 1,020 stockholders of record. Prices presented below since
June 1997, were based on the close price as quoted on the NASDAQ National Market
System. Prices presented for January through May 1997, are based on bid prices
between broker-dealers which do not include retail markups or markdowns or any
commission to the broker-dealer and therefore, do not necessarily reflect prices
in actual transactions. Cash dividends paid for the most recent eight quarters
are provided in the table below. Cash dividends per share (rounded) and market
prices are adjusted for stock dividends.
1998 1997
Dividends Dividends
Quarter High Low per share High Low per share
- -------------------------------------------------------------------------------
First $ 22.14 $ 20.95 $ 0.10 $ 14.10 $ 12.98 $ 0.09
Second 23.00 21.33 0.10 17.34 13.54 0.09
Third 23.00 19.50 0.11 18.45 16.07 0.10
Fourth 20.50 18.25 0.11 22.02 17.02 0.10
For further information, we refer you to the following market-makers
in our common stock:
Ryan, Beck & Co. Janney, Montgomery, Scott, Inc. Hopper Soliday & Co., Inc.
(800) 223-8969 (717) 845-5611 (800) 456-9234
F.J. Morrissey & Co., Inc. Sandler O'Neil & Partners, L.P.
(800) 842-8928 (800) 635-6851
NOTICE OF ANNUAL MEETING
The Annual Meeting of Shareholders will be held on Tuesday, May 18, 1999 at 9:00
a.m. eastern daylight-saving time, at the Codorus Valley Corporate Center, 105
Leader Heights Road, York, Pennsylvania.
TRANSFER AGENT
Norwest Bank Minnesota, N.A., P.O. Box 64854, St. Paul, MN 55164-0854 (800)
468-9716
FORM 10-K REQUEST
The form 10-K Report filed with the Securities and Exchange Commission (SEC) may
be obtained, without charge, as follows: Access via the Internet at the Bank's
website by selecting the Securities and Exchange Commission link on the Investor
Information page at www.peoplesbnk.com, or the SEC website at
www.sec.gov/edgarhp.htm. By writing to: Chief Financial Officer, Codorus Valley
Bancorp, Inc., P. O. Box 2887, York, PA 17405-2887.
DIVIDEND REINVESTMENT AND STOCK PURCHASE PLAN
Information regarding the Corporation's Dividend Reinvestment and Stock Purchase
Plan may be obtained by calling (800)-468-9716 or by writing to: Norwest Bank
Minnesota, N.A., P.O. Box 64854, St. Paul, MN 55164-0854
Codorus Valley Bancorp, Inc. and its subsidiaries are Equal Employment
Opportunity/Affirmative Action Employers.
53
EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT
CODORUS VALLEY BANCORP, INC.
1. PEOPLESBANK, A Codorus Valley Company - 100% owned
1 Manchester Street, P.O. Box 67
Glen Rock, Pennsylvania 17327
2. SYC Realty Company Inc. - 100% owned
1 Manchester Street, P.O. Box 67
Glen Rock, Pennsylvania 17327
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in this Annual Report (Form 10- K)
of Codorus Valley Bancorp, Inc. of our report dated January 29, 1999, included
in the 1998 Annual Report of Codorus Valley Bancorp, Inc.
We consent to the incorporation by reference in the Registration Statements
(Form S-3, no. 033-46171, Forms S-8, nos. 333-61851 and 333-09277) of Codorus
Valley Bancorp, Inc. of our report dated January 29, 1999, with respect to the
consolidated financial statements of Codorus Valley Bancorp, Inc. incorporated
by reference in this Annual Report (Form 10-K) for the year ended December 31,
1998.
/s/ Ernst & Young LLP
---------------------
Harrisburg, Pennsylvania
March 26, 1999
EXHIBIT 24
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Larry J. Miller and Jann A. Weaver, and each of them,
his true and lawful attorneys-in-fact and agents, with full power of
substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities (including his capacity as a director and/or officer of
Codorus Valley Bancorp, Inc.) , to sign this Form 10-K and any or all amendments
to this Form 10-K and to file the same, with all exhibits thereto, and other
documents in connection therewith, with the Securities and Exchange Commission,
granting unto said attorneys- in- fact and agents, and each of them full power
and authority to do and perform each and every act and thing requisite and
necessary to be done in and about the premises, as fully to all intents and
purposes as he might or could do in person, hereby ratifying and confirming all
that said attorneys- in- fact and agents or any of them, or their or his
substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
Signature Title Date
/s/ George A. Trout, D.D.S. Chairman of the Board of 3/23/99
- -------------------------- Directors and Director
George A. Trout, D.D.S.
/s/ Larry J. Miller President, 3/23/99
- -------------------------- Chief Executive
Larry J. Miller officer and Director (Principal
Executive officer)
/s/ Barry A. Keller Vice Chairman of the Board of 3/23/99
- -------------------------- Directors and Director
Barry A. Keller
/s/ Dallas L. Smith Secretary and Director 3/23/99
- --------------------------
Dallas L. Smith
/s/ M. Carol Druck Director 3/23/99
- --------------------------
M. Carol Druck
/s/ MacGregor S. Jones Director 3/23/99
- --------------------------
MacGregor S. Jones
Treasurer and Director 3/23/99
- --------------------------
Rodney L. Krebs
/s/ Donald H. Warner Vice President and Director 3/23/99
- --------------------------
Donald H. Warner
/s/ D. Reed Anderson Director 3/23/99
- --------------------------
D. Reed Anderson, Esq.
/s/ Jann A. Weaver Assistant Treasurer and 3/23/99
- --------------------------- Assistant Secretary
Jann A. Weaver (Principal Financial and
Principal Accounting Officer)
/s/ Harry R. Swift Vice President and Secretary 3/23/99
- ---------------------------
Harry R. Swift, Esq.
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 10,889
<INT-BEARING-DEPOSITS> 203
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 56,225
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 189,111
<ALLOWANCE> 1,865
<TOTAL-ASSETS> 273,082
<DEPOSITS> 241,913
<SHORT-TERM> 1,234
<LIABILITIES-OTHER> 1,306
<LONG-TERM> 2,571
0
0
<COMMON> 5,760
<OTHER-SE> 20,298
<TOTAL-LIABILITIES-AND-EQUITY> 273,082
<INTEREST-LOAN> 16,832
<INTEREST-INVEST> 2,783
<INTEREST-OTHER> 363
<INTEREST-TOTAL> 19,978
<INTEREST-DEPOSIT> 9,081
<INTEREST-EXPENSE> 9,265
<INTEREST-INCOME-NET> 10,713
<LOAN-LOSSES> 375
<SECURITIES-GAINS> 194
<EXPENSE-OTHER> 8,446
<INCOME-PRETAX> 3,724
<INCOME-PRE-EXTRAORDINARY> 3,724
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,536
<EPS-PRIMARY> 1.10
<EPS-DILUTED> 1.10
<YIELD-ACTUAL> 4.51
<LOANS-NON> 1,706
<LOANS-PAST> 13
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 2,098
<CHARGE-OFFS> 635
<RECOVERIES> 27
<ALLOWANCE-CLOSE> 1,865
<ALLOWANCE-DOMESTIC> 1,865
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
