<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Three month period ended March 31, 1999
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: 0-16084
CITIZENS & NORTHERN CORPORATION
(Exact name of Registrant as specified in its charter)
Pennsylvania 23-2451943
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
90-92 Main Street
Wellsboro, Pa. 16901
(Address of principal executive offices) (Zip code)
570-724-3411
(Registrant's telephone number including area code)
Not applicable
(Former name, former address, and former fiscal year,
if changed since last report)
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
------- ---------
APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents
and reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes ____ No ____
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date.
Title Outstanding
Common Stock ( $1.00 par value) 5,272,239 Shares Issued and Outstanding
April 1, 1999
1
<PAGE>
<TABLE>
<CAPTION>
CITIZENS & NORTHERN CORPORATION
Index
<S> <C>
Part I. Financial Information
Item 1. Financial Statements
Consolidated Balance Sheet - March 31, 1999 and
December 31, 1998 Page 3
Consolidated Statement of Income - Three Months Ended
March 31, 1999 and March 31, 1998 Page 4
Consolidated Statement of Cash Flows - Three Months Ended
March 31, 1999 and March 31, 1998 Page 5
Notes to Consolidated Financial Statements Page 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations Pages 7 through 18
Item 3. Information About Market Risk Page 19
Item 4. Year 2000 Compliance Pages 20 and 21
Part II. Other Information Page 22
Item 1. Legal Proceedings
Items 2 and 3 have been omitted as they are not applicable
to registrant.
Item 6. Exhibits and Reports on Form 8-K
Signatures Page 23
</TABLE>
2
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEET
(In Thousands Except Share Data)
<TABLE>
<CAPTION> Unaudited Audited
March 31, December 31,
1999 1998
<S> <C> <C>
ASSETS
Cash & Due From Banks $ 13,254 $15,428
Interest Bearing Deposits 703 700
Available-for-Sale Securities:
U.S. Treasury Securities 2,538 2,556
Securities of Other U.S. Government Agencies 86,463 61,840
Mortgage Backed Securities 121,806 131,046
Obligations of States and Municipal Subdivisions 81,585 81,423
Other Securities 53,044 52,410
------------------ --------------------
Total Available-for-Sale Securities 345,436 329,275
Held-to-Maturity Securities:
U.S. Treasury Securities 624 622
Securities of Other U.S. Government Agencies 849 849
Mortgage Backed Securities 404 437
------------------ --------------------
Total Held-to-Maturity Securities 1,877 1,908
Federal Funds Sold 2,500
Loans:
Loans to Political Subdivisions 8,384 8,078
Other Loans 285,199 282,954
------------------ --------------------
Total Loans 293,583 291,032
Less - Allowance for Possible Loan Losses (4,963) (4,820)
Unearned Income (26) (29)
------------------ --------------------
Loans, Net 288,594 286,183
Bank Premises and Equipment 7,541 7,416
Other Real Estate 590 652
Accrued Interest on Bonds and Loans 4,065 4,109
Other Assets 1,349 627
------------------ --------------------
TOTAL ASSETS $665,909 $646,298
------------------ --------------------
------------------ --------------------
LIABILITIES
Deposits:
Demand $ 53,282 $ 57,871
Interest Checking 39,066 36,751
Money Market 122,737 121,082
Savings 46,536 45,301
Other Time 217,709 215,513
------------------ --------------------
Total Deposits 479,330 476,518
Dividends Payable 1,134 1,123
Short - Term Borrowings 29,933 12,080
Long - Term Borrowings 60,039 60,044
Other Liabilities 6,265 5,966
------------------ --------------------
TOTAL LIABILITIES 576,701 555,731
------------------ --------------------
SHAREHOLDERS' EQUITY
Common Stock, Par Value $ 1.00 per Share 5,272 5,220
Authorized 10,000,000; Issued 5,272,239
and 5,220,038 in 1999 and 1998, respectively
Stock Dividend Distributable 1,931
Paid in capital 17,355 15,468
Retained Earnings 59,018 57,477
------------------ --------------------
Total 81,645 80,096
------------------ --------------------
Accumulated Other Comprehensive Income 9,007 11,922
Less: Treasury Stock at Cost
118,610 shares at March 31,1999 (1,444) (1,451)
118,010 shares at December 31, 1998
------------------ --------------------
TOTAL SHAREHOLDERS' EQUITY 89,208 90,567
------------------ --------------------
TOTAL LIABILITIES &
SHAREHOLDERS' EQUITY $665,909 $646,298
------------------ --------------------
------------------ --------------------
</TABLE>
The accompanying notes are an integral part of these condensed financial
statements.
3
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 1. Financial Statements (Continued)
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF INCOME Three Months Ended
(In Thousands, Except Per Share Data) (Unaudited)
March 31, March 31,
1999 1998
(Current) (Prior Year)
<S> <C> <C>
INTEREST INCOME
Interest and Fees on Loans $6,313 $6,368
Interest on Balances with Depository Institutions 5 10
Interest on Loans to Political Subdivisions 117 89
Interest on Federal Funds Sold 5 60
Income from Available-for-Sale and
Held-to-Maturity Securities:
Taxable 3,494 3,545
Tax Exempt 1,114 928
Dividends 267 228
----------------- ------------------
Total Interest and Dividend Income 11,315 11,228
INTEREST EXPENSE
Interest on Deposits 4,529 4,494
Interest on Short-Term Borrowings 79 280
Interest on Long-Term Borrowings 789 950
----------------- ------------------
Total Interest Expense 5,397 5,724
----------------- ------------------
Interest Margin 5,918 5,504
Provision for Possible Loan Losses 225 191
----------------- ------------------
Interest Margin After Provision for Possible Loan Losses 5,693 5,313
OTHER INCOME
Service Charges on Deposit Accounts 270 250
Service Charges and Fees 69 77
Trust Department Income 370 316
Insurance Commissions, Fees and Premiums 133 102
Fees Related to Credit Card Operation 665 645
Other Operating Income 28 21
----------------- ------------------
Total Other Income Before Realized Gains on Securities, Net 1,535 1,411
Realized Gains on Securities, (Net) 490 754
----------------- ------------------
Total Other Income 2,025 2,165
OTHER EXPENSES
Salaries and Wages 1,561 1,599
Pensions and Other Employee Benefits 471 442
Occupancy Expense, Net 233 200
Furniture and Equipment Expense 209 194
Expenses Related to Credit Card Operation 576 574
Pennsylvania Shares Tax 181 165
Other Operating Expense 1,022 763
----------------- ------------------
Total Other Expenses 4,253 3,937
----------------- ------------------
Income Before Income Tax Provision 3,465 3,541
Income Tax Provision 789 860
----------------- ------------------
NET INCOME $2,676 $2,681
----------------- ------------------
----------------- ------------------
PER SHARE DATA:
Net Income - Basic $0.52 $0.52
Net Income - Diluted $0.52 $0.52
----------------- ------------------
Dividend Per Share $0.22 $0.20
----------------- ------------------
Number Shares Used in Computation - Basic 5,153,381 5,165,166
Number Shares Used in Computation - Diluted 5,161,520 5,174,152
Number Shares Issued 5,272,239 5,220,038
Number Shares Authorized 10,000,000 10,000,000
----------------- ------------------
Dividends Actually Paid $0.22 $0.20
----------------- ------------------
----------------- ------------------
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
Net Income $2,676 $2,681
Other Comprehensive Income :
Unrealized holding gains (losses) on available-for-sale securities
Gains (Losses) arising during the period (3,927) 595
Reclassification adjustment (490) (754)
----------------- ------------------
Other comprehensive income (loss) before income tax (4,417) (159)
Income tax related to other comprehensive income 1,501 54
----------------- ------------------
Other comprehensive income (loss) (2,916) (105)
----------------- ------------------
Comprehensive Income ($240) $2,576
----------------- ------------------
----------------- ------------------
</TABLE>
The accompanying notes are an integral part of these condensed financial
statements.
4
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 1. Financial Statements (Continued)
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF CASH FLOWS
(In Thousands) Three Months Ended
March 31, 1999 March 31, 1998
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $2,676 $2,681
Adjustments to Reconcile Net Income to
Net Cash Provided by Operating Activities
Provision for Possible Loan Losses 225 191
Realized (Gain), on Available-for-Sale and
Held-to-Maturity Securities, Net (490) (754)
Provision for Depreciation 215 193
Accretion and Amortization (385) 157
Deferred Income Tax (151) (39)
(Increase) Decrease in Accrued Interest
Receivable and Other Assets (678) 708
Increase in Accrued Interest Payable and
Other Liabilities 1,963 1,187
---------------------- ----------------------
Net Cash Provided by Operating Activities 3,375 4,324
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from the Maturity of Held-to-Maturity Securities 282 55
Purchase of Held-to-Maturity Securities (254) (150)
Proceeds from Sales of Available-for-Sale Securities 3,639 28,201
Proceeds from Maturities of Available-for-Sale Securities 16,770 44,550
Purchase of Available-for-Sale Securities (40,109) (61,927)
Net (Increase) Decrease in Loans (2,636) 3,961
Purchase of Premises and Equipment (340) (181)
Sale of Foreclosed Assets 62 5
Purchase of Other Real Estate (283)
---------------------- ----------------------
Net Cash Used in Investing Activities (22,586) 14,231
CASH FLOWS FROM FINANCING ACTIVITIES:
Net Increase in Deposits 2,812 (4,322)
Increase (Decrease) in Short Term Borrowings 17,853 (5,400)
Proceeds from (Repayment of) Long Term Borrowings (5) 9,996
Increase in Federal Funds Sold (2,500) (17,000)
Sale of Treasury Stock 14 12
Dividends Declared (1,134) (1,023)
Net Cash Provided by Financing Activities 17,040 (17,737)
---------------------- ----------------------
INCREASE IN CASH AND CASH EQUIVALENTS (2,171) 818
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR $16,128 $14,253
---------------------- ----------------------
---------------------- ----------------------
CASH AND CASH EQUIVALENTS, END OF YEAR $13,957 $15,071
---------------------- ----------------------
---------------------- ----------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Interest Paid $21,026 $4,477
---------------------- ----------------------
---------------------- ----------------------
Income Taxes Paid $796 $855
---------------------- ----------------------
---------------------- ----------------------
</TABLE>
The accompanying notes are an integral part of these condensed financial
statements.
5
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 1. Financial Statements (Continued)
Notes to Consolidated Financial Statements
1. The financial information included herein, with the exception of the
Consolidated Balance Sheet dated December 31, 1998, is unaudited; however, such
information reflects all adjustments (consisting solely of normal recurring
adjustments) that are, in the opinion of management, necessary to a fair
presentation of the financial position, results of operations and changes in
financial position for the interim periods.
Results reported for the three-month period ended March 31, 1999 might not be
indicative of the results for the year ended December 31, 1999.
This document has not been reviewed or confirmed for accuracy or relevance by
the Federal Deposit Insurance Corporation or any other regulatory agency.
2. New Statements of Financial Accounting Standards
SFAS No. 131 "Financial Reporting for Segments of a Business Enterprise."
For reporting purposes the Corporation has determined that under the
requirements of SFAS No. 131 it has only one operating segment.
SFAS No. 132 "Employers' Disclosure About Pensions and Other Post Retirement
Benefits" was adopted in January 1998. SFAS No. 132 revises current note
disclosure requirements for employers' pensions and other retiree benefits. It
does not address recognition or measurement issues. SFAS No. 132 is effective
for fiscal years beginning after December 15, 1997. The adoption of SFAS No. 132
will not have a material effect on Citizens and Northern's financial condition
or results of operations.
6
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
This discussion and analysis relates to Citizens & Northern Corporation
(Corporation) and its wholly-owned subsidiaries, Citizens and Northern Bank
(Bank) and Bucktail Life Insurance Company (Bucktail). The discussion should be
read in conjunction with the financial statements and notes provided herein.
Within this report and included in past reports are "forward-looking"
statements. The statements may concern plans, objectives, future events (Year
2000 issues) or performance and assumptions and other statements that are other
than statements of historical fact. Citizens and Northern Corporation and its
subsidiaries wish to caution readers that the following important factors, among
others, may have affected and could in the future affect the Corporation's
actual results and cause the Corporation's actual results for subsequent periods
to differ materially from those expressed in any forward-looking statement made
by or on behalf of the Corporation herein: the effect of changes in laws and
regulations, including federal and state banking laws and regulations, with
which the Corporation must comply, and the associated cost of compliance with
such laws and regulations either currently or in the future as applicable; the
effect of changes in accounting policies and practices, as may be adopted by the
regulatory agencies as well as the Financial Accounting Standards Board, or of
changes in the Corporation's organization, compensation and benefit plans; the
effect on the Corporation's competitive position within its market area of the
increasing consolidation within the banking and financial services industries,
including the increased competition from the larger regional banking
organizations as well as nonbank providers of various financial services; the
effect of changes in interest rates; and the effect of changes in the business
cycle and downturns in the local, regional and national economies.
EARNINGS OVERVIEW
Net after-tax income for the three-month period ended March 31, 1999 amounted to
$2,676 million or $.52 per share (on a basic and diluted basis). This compares
to $2,681 million or $.52 per share (on a basic and diluted basis) for the same
period in 1998. Net income for the three-month period ended December 31, 1998
amounted to $2,420 million or $.47 per share (on a basic and diluted basis). The
return on average equity for the three-month period ended March 31, 1999 and
March 31, 1998 was 13.75 percent and 14.91 percent, respectively. The return on
average equity for the year ended December 31, 1998 was 14.81 percent. The
return on average assets for the periods ended March 31, 1999 and March 31, 1998
was 1.73 percent and 1.83 percent, respectively. The return on average assets
for the year ended December 31, 1998 was 1.81 percent. The calculation used to
determine the averages excluded unrealized gains on available-for-sale
securities. Total assets at March 31, 1999, December 31, 1998 and March 31,
1998, respectively, totaled $665,909 million, $646,298 million and $618,284
million.
Earnings, excluding investment security gains, for the three-month periods ended
March 31, 1999, December 31, 1998 and March 31, 1998, per common share (basic
and diluted) would have amounted to $.46, $.45, and $.42, respectively.
Results for the first three months of 1999 were in line with the Corporation's
budgeted expectations. Income projections for the remaining quarters of 1999
should mirror the results attained during the first quarter. These projections
are contingent upon the current interest rate environment and could change if
interest rates increase or decrease.
NET INTEREST MARGIN
Net interest margin or net interest income is the dollar amount of difference
between all interest income received and interest expense paid. The net interest
spread or interest margin is the difference, stated as a percentage, between the
average rate received on all interest-earning assets and the average rate paid
on all interest-bearing liabilities. The net interest margin as reflected in the
income statement has not been adjusted for federal income taxes.
Three-Month Periods Ended March 31, 1999, December 31, 1998 and March 31, 1998
Net interest income for the three-month periods ended March 31, 1999, December
31, 1998 and March 31, 1998, respectively, amounted to $5,918 million, $5,879
million and $5,504 million. A comparison of the current period net interest
income to the three months ended December 31, 1998 reflects a small increase;
however, a comparison to the same three-month period last year shows an
improvement of 7.5 percent. The improvement can be attributed to a slight
decline in interest rates and an increase in earning assets.
7
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Average earning assets for the three-month periods ended March 31, 1999,
December 31, 1998 and March 31, 1998 amounted to $605,863 million, $589,161
million and $575,846 million, respectively, and the return was 7.57 percent,
7.76 percent and 7.91 percent for those same periods. The average total
investment portfolio for the three months ended March 31, 1999 grew 4.0 percent
when compared to the three-month average for the period ended December 31, 1998
and 9.0 percent compared to the three months ended March 31, 1998. Loan growth
was considerably less at 2.0 percent and 3.0 percent, respectively.
The growth posted during the comparable periods is attributed to an increase in
average deposits during the period March 31, 1998 through March 31, 1999 of 9.0
percent. Money Market accounts and Certificates of Deposit , which combined make
up 56.0 percent of the core deposits of the Bank, posted considerable growth
during the year covered by this report. Growth in average Money Market accounts
from March 31, 1998 to March 31, 1999 amounted to $17,722,000 or 16.4 percent.
The same period saw average Certificates of Deposit grow $17,484,000 or 14.4
percent.
The net interest spread, the difference between total interest earned on all
earning assets and the interest paid on all interest-bearing liabilities, was
3.19 percent, 3.11 percent and 3.04 percent for the three months ended March 31,
1999, March 31, 1998 and the year ended December 31, 1998, respectively. Spreads
for periods previously reported have been changed to reflect a change in the
classification of merchant fees related to the Bank's credit card operation.
Merchant fees previously reported in interest and fees on loans are now reported
as a separate line item on the income statement under noninterest income. Also,
expenses related to the credit card operation are reported as a separate line
item under noninterest expense. The change was made for comparison purposes.
8
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
Table I - Analysis of Average Daily Balances and Rates
<TABLE>
<CAPTION>
Rate of Rate of Rate of
(In Thousands) Return/ Return/ Return/
Cost of Cost of Cost of
funds funds Funds
<S> <C> <C> <C> <C> <C> <C>
EARNING ASSETS 03/31/99 % 12/31/98 % 03/31/98 %
Available-for-Sale Securities:
U. S. Treasury Securities $ 2,511 6.14 $ 2,516 6.00 $ 2,519 6.12
Securities of Other U.S. Government Agencies and
Corporations 65,682 6.82 68,512 7.07 75,798 7.15
Mortgage Backed Securities 126,346 6.53 121,466 6.58 117,549 6.74
Obligations of States and Political Subdivisions 78,449 5.76 68,942 5.78 62,498 6.02
Stock 21,601 5.01 18,725 5.07 16,639 5.53
Other Securities 16,825 6.92 13,960 6.88 10,529 7.16
- ---------------------------------------------------------------------------------------------------------------------------------
Total Available-for-Sale Securities 311,414 6.31 294,121 6.51 285,532 6.63
- ---------------------------------------------------------------------------------------------------------------------------------
Held-to-Maturity Securities:
U. S. Treasury Securities 600 5.41 626 5.91 630 6.77
Securities of Other U. S. Government Agencies and
Corporations 799 7.11 629 6.52 450 6.66
Mortgage Backed Securities 416 7.80 507 7.50 584 7.62
- ---------------------------------------------------------------------------------------------------------------------------------
Total Held-to-Maturity Securities 1,815 6.70 1,762 6.58 1,664 7.14
- ---------------------------------------------------------------------------------------------------------------------------------
Interest -bearing Due from Banks 794 2.55 671 5.66 619 6.66
Federal Funds Sold 413 4.91 4,139 5.53 4,838 5.32
Loans:
Real Estate Loans 231,892 8.75 227,845 8.94 224,614 9.04
Consumer 29,885 11.32 30,366 11.62 31,853 11.59
Agricultural 1,975 10.88 2,219 10.05 2,481 9.96
Commercial/Industrial 18,548 8.83 17,698 9.16 17,367 9.61
Other 743 7.64 707 7.78 745 7.80
Political Subdivisions 8,202 5.79 6,227 6.10 5,918 6.15
Leases 182 6.68 214 9.35 215 5.31
- ---------------------------------------------------------------------------------------------------------------------------------
Total Loans 291,427 8.95 285,276 9.18 283,193 9.25
- ---------------------------------------------------------------------------------------------------------------------------------
Total Earning Assets 605,863 7.57 585,969 7.76 575,846 7.91
- ---------------------------------------------------------------------------------------------------------------------------------
Cash 12,699 12,694 12,105
Securities Valuation Reserve 17,307 19,939 20,035
Allowance for Possible Loan Losses (4,894) (4,822) (4,946)
Other Assets 5,220 5,337 5,454
- ---------------------------------------------------------------------------------------------------------------------------------
Bank Premises & Equipment 7,531 6,985 6,773
- ---------------------------------------------------------------------------------------------------------------------------------
Total Assets 643,726 626,102 615,267
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
INTEREST-BEARING LIABILITIES
Interest Checking 36,414 2.15 36,556 2.33 36,537 2.45
Money Market 125,636 4.14 115,143 4.42 107,914 4.56
Savings 46,161 2.48 45,207 2.48 45,212 2.48
Certificates of Deposit 139,000 5.32 126,902 5.50 121,516 5.46
Individual Retirement Accounts 76,433 4.97 76,557 5.42 79,597 5.86
Other Time Deposits 1,374 2.95 1,900 2.58 1,927 2.71
Federal Funds Purchased 6,322 4.94 2,801 4.75 2,661 6.08
Other Borrowed Funds 67,798 4.73 76,040 5.67 83,514 5.50
- ---------------------------------------------------------------------------------------------------------------------------------
Total Interest-bearing Liabilities 499,138 4.39 481,106 4.72 478,878 4.80
Demand Deposits 48,166 46,336 42,392
Other Liabilities 6,090 10,663 7,756
- ---------------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES 553,394 538,105 529,026
Stockholders' Equity 78,909 74,810 72,906
- ---------------------------------------------------------------------------------------------------------------------------------
Securities Valuation Reserve 11,423 13,187 13,335
- ---------------------------------------------------------------------------------------------------------------------------------
Total Liabilities and Stockholders'
Equity $ 643,726 $ 626,102 $ 615,267
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
Interest Rate Spread 3.19 3.04 3.11
- ---------------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
9
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
Table II - Effect of Volume and Rate Changes in Interest
Income and Interest Expense
<TABLE>
<CAPTION>
Three-month Periods Ended March 31, 1999/1998
(In Thousands) Change in Change in Total
Volume Rate Change
<S> <C> <C> <C>
EARNING ASSETS
Available-for-Sale Securities:
U. S. Treasury Securities $ - $ - $ -
Securities of Other U.S. Government Agencies and Corporations (172) (59) (231)
Mortgage Backed Securities 138 (58) 80
Obligations of States and Political Subdivisions 224 (38) 186
Stock 58 (18) 40
Other Securities 107 (6) 101
- -----------------------------------------------------------------------------------------------------------------------------------
Total Available-for-Sale Securities 355 (179) 176
- -----------------------------------------------------------------------------------------------------------------------------------
Held-to-Maturity Securities:
U. S. Treasury Securities (1) (3) (4)
Securities of Other U.S. Government Agencies and Corporations 6 - 6
Mortgage Backed Securities (3) - (3)
- -----------------------------------------------------------------------------------------------------------------------------------
Total Held-to-Maturity Securities 2 (3) (1)
- -----------------------------------------------------------------------------------------------------------------------------------
Interest -bearing Due from Banks 4 (9) (5)
Federal Funds Sold (54) (1) (55)
Loans:
Real Estate Loans 142 (112) 30
Consumer (55) (21) (76)
Agricultural (14) 5 (9)
Commercial/Industrial - - -
Other - - -
Political Subdivisions 32 (4) 28
Leases (1) (0) (1)
- -----------------------------------------------------------------------------------------------------------------------------------
Total Loans 104 (132) (28)
- -----------------------------------------------------------------------------------------------------------------------------------
Total Interest Income 411 (324) 87
- -----------------------------------------------------------------------------------------------------------------------------------
INTEREST-BEARING LIABILITIES
Interest Checking (1) (27) (28)
Money Market 158 (88) 70
Savings 6 (1) 5
Certificates of Deposit 226 (63) 163
Individual Retirement Accounts (43) (129) (172)
Other Time Deposits (4) 1 (3)
Federal Funds Purchased 29 (9) 20
Other Borrowed Funds (201) (181) (382)
- -----------------------------------------------------------------------------------------------------------------------------------
Total Interest Expense 170 (497) (327)
- -----------------------------------------------------------------------------------------------------------------------------------
NET INTEREST INCOME $ 241 $ 173 $ 414
- -----------------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The change in interest due to both volume and rates has been allocated to volume
and rate changes in proportion to the relationship of the absolute dollar amount
of the change in each.
10
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
ALLOWANCE FOR POSSIBLE LOAN LOSSES
The Allowance for Possible Loan Losses is a reserve established by management
and the Board of Directors, which they believe will absorb future loan losses,
based on management's assessment of the quality and volume of the loan
portfolio. The assessment is performed on an ongoing basis and reviewed by the
Board of Directors quarterly.
The quarterly review process is performed by a loan quality committee consisting
of the President, Chief Financial Officer, Executive Vice-Presidents in charge
of loans and branch administration and monitored by the Corporation's Auditor.
The committee reviews the "Watch List" (a collection of loans that have had a
history of delinquency), past due reports, non-performing loans and historical
information related to charge-offs and recoveries by loan category.
The reserve balance is then allocated across the various loan categories to
determine the unallocated or excess reserve balance. The allocation is performed
using two different methods. The first method, an historical method based on
five years of information, calculates the ratio of average losses by type to the
average outstanding balance by type. The ratio is then applied to the current
outstanding balance of the various loan categories to determine the amount of
reserve to be allocated to the loan category. In addition to the historical
calculated amount, at times the committee will add additional amounts to the
calculated total if it is aware of a particular problem or if the five-year
average is not representative of current conditions. The historical method is
used only to observe past trends and is not relied on to predict the future
because as we know, the last five years have been part of a stable economic
climate with very low unemployment. The second allocation method extracts loans
by a quality rating system. The ratings are substandard, doubtful and loss.
Regulatory guidelines are then applied: 15 percent of the substandard category,
50 percent of the doubtful category and 100 percent of the loss category loans.
Since the allocation only encompasses about 4.0 percent of total loans and
ignores the balance of the loan portfolio, management applies the substandard
rating (15 percent) to an additional 4.0 percent of the remainder of the
portfolio. Management feels that the additional allocation will provide added
protection in an economic downturn with a resulting increase in unemployment.
Other factors used to measure the level of the reserve are loan growth, economic
conditions of the market area and peer group comparisons.
The Corporation also retains the services of an independent loan appraiser who
reviews all credit relationships in excess of $175,000 and loans of $100,000 or
more in offices where there is perceived to be excess delinquency.
The latest review was started on May 15, 1998 and concluded June 15, 1998.
The following tables present current and historical information on the loan
portfolio and the Reserve for Possible Loan Losses.
TABLE III
Reserve for Possible Loan Losses Reconciliation
<TABLE>
<CAPTION>
Projected Actual Actual Actual Actual Actual Actual
Dec. 31, Mar. 31, Dec. 31, Dec. 31, Dec. 31, Dec. 31, Dec 31,
1999 1999 1998 1997 1996 1995 1994
<S> <C> <C> <C> <C> <C> <C> <C>
Beginning Balance January 1, $4,820,323 $4,820,323 $4,913,334 $4,775,960 $4,579,210 $4,228,741 $3,816,982
Provision Charged to Earnings 900,312 225,078 763,400 797,032 700,500 736,500 737,496
Year-to-Date Recoveries 100,000 41,376 110,077 124,407 167,926 187,473 194,312
Year-to-Date Charge-offs (550,000) (123,522) (966,488) (784,065) (671,676) (573,504) (520,049)
Ending Balance $5,270,635 $4,963,255 $4,820,323 $4,913,334 $4,775,960 4,579,210 $4,228,741
</TABLE>
11
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
<TABLE>
<CAPTION>
TABLE IV - 5 YEAR HISTORY OF LOAN LOSSES Projected
(In Thousands) 1999 1998 1997 1996 1995 1994 AVERAGE
<S> <C> <C> <C> <C> <C> <C> <C>
Net Loans * 308,287 291,032 285,426 278,597 264,182 258,472 275,542
Net Charge offs (550) 856 386 504 387 326 492
Allowance for Possible Loan Losses Balance 5,271 4,820 4,579 4,776 4,579 4,229 4,597
Provision for Loan Losses Charged to Earnings 900 763 737 737 737 737 742
Earnings 9,500 11,077 10,107 9,255 7,866 7,494 9,160
Earnings Coverage of Net Charge offs -17.3 x 12.9 x 26.2 x 18.4 x 20.3 x 23.0 x 20 x
Allowance Coverage of Net Charge offs -9.8 x 5.6 x 11.9 x 9.5 x 11.8 x 13.0 x 10 x
Loans Ninety Days or More Past Due and
Still Accruing 2,000 1,628 1,986 2,994 2,915 2,743 2,453
Net Charge offs as a Percent of the Provision -61.1% 112.2% % 52.4 % 68.3 % 52.5 % 44.2 % 44 %
Year-End Nonperforming Loans** 1,130 1,130 1,412 864 279 624 862
Allowance as a Percentage of Gross Loans: *
Bank (1) 1.76% 1.66% % 1.60 % 1.71 % 1.73 % 1.64 % 1 %
Peer Group (2) 1.66% 1.66% % 1.43 % 1.50 % 1.61 % 1.65 % 1 %
* Gross Loans less Unearned Discount
(1) Projected December 31, 1999
(2) At December 31, 1998
</TABLE>
TABLE V - Reserve Allocation - Est.
Historical
<TABLE>
<CAPTION>
LOAN CLASSIFICATION 1999 1998 1997 1996 1995 1994 Average
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial, Agricultural, 32,165 34,255 25,751 30,054 26,481 22,794 28,583 0.00454 X 32,165 = 256
Municipal & Other
Real Estate - Mortgage 244,171 225,853 220,358 215,123 201,350 195,688 211,674 0.00063 X 244,171 = 242
Credit Card & Related Plans 9,261 8,523 9,084 8,902 9,934 9,896 9,268 0.02235 X 9,261 = 241
All Other Loans to Individuals 22,690 22,402 30,270 24,518 26,417 30,094 26,740 0.00777 X 22,690 = 224
- --------------------------------------------------------------------------------------------------------------------------------
Total Loans 308,287 291,033 285,463 278,597 264,182 258,472 276,266 0.00245 X 308,287 714
Letter of Credit Commitments 5,500 5,400 5,012 5,106 2,633 4,415 4,513 0.00000 X 5,500 = 500
All Other Commitments
Consumer 32,000 14,768 27,728 28,049 24,811 24,202 23,912 0.00781 X 32,000 = 115
Mortgage 12,000 15,477 10,497 5,802 7,276 9,566 9,724 0.00064 X 12,000 = 10
Commercial 13,000 17,366 13,045 10,825 10,201 9,901 12,268 0.00479 X 13,000 = 83
Impaired Loans 400 290 274 113 228 400
Total allocated 1,822
Unallocated 3,448
- --------------------------------------------------------------------------------------------------------------------------------
Reserve Balance 371,187 344,334 342,019 328,492 309,331 306,556 326,682 5,271
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The reserve balance allocation is determined using the 6-year average
of net charge-offs
12
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
TABLE VI -Reserve Allocation Based on Regulatory Standards March 31, 1999
<TABLE>
<CAPTION>
Allocation Total
Percentage Loans Allocation
<S> <C> <C> <C>
Substandard 15 7,757,453 1,163,618
Doubtful 50 1,272,142 636,071
Loss 100 14,354 14,354
Individual Loan Allocation Estimated 1,713,694 500,000
Fasb 114 Loans Estimated 1,379,437 454,582
Additional Allocation 15 11,257,837 1,688,676
- -----------------------------------------------------------------------------
Total Allocation 23,394,917 4,457,301
Unallocated 505,954
- -----------------------------------------------------------------------------
Reserve Balance 4,963,255
- -----------------------------------------------------------------------------
- -----------------------------------------------------------------------------
</TABLE>
13
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
TABLE VII- COMPARISON OF NONINTEREST INCOME
<TABLE>
<CAPTION>
THREE-MONTH PERIODS ENDED
MARCH 31,
$ %
1999 1998 Change Change
<S> <C> <C> <C> <C>
Service Charges on Deposit Accounts $270 $250 8.00
20
Service Charges and Fees 69 77 (10.39)
(8)
Trust Department Income 370 316 17.09
54
Insurance Commissions, Fees and Premiums 133 102 30.39
31
Fees Related to Credit Card Operation 665 645 3.10
20
Other Operating Income 28 21 33.33
7
- --------------------------------------------------------------------------------------------------------------
Total Other Operating Income before Realized
Gains (Losses) on Securities, Net 1,535 1,411 124 8.79
Realized Gains (Losses) on Securities, Net 490 754 (264) (35.01)
- --------------------------------------------------------------------------------------------------------------
Total Other Income $2,025 $2,165 (140) (6.47)
- --------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------
</TABLE>
Total Other Operating Income before Realized Gains on Securities amounted to
$1,535,000. This was an increase of $124,000 or 8.8 percent over the comparable
period in 1998. When compared to the three-month period ended December 31, 1998
there was no change. Realized Gains on Securities declined $264,000 or 35.0
percent when comparing the three-month periods ended March 31, 1999 and 1998. A
comparison of the current period and the three-month period ended in December
1998 reflects a decrease of $338,000.
Components of Other Income contributing to the increase were Service Charges on
Deposit Accounts, Trust Department Income, Insurance Commissions, Fees and
Premiums and Fees Related to the Credit Card Operation.
Service Charges on Deposit Accounts increased 8.0 percent or $20,000 when
comparing the March 31 periods and increased $6,000 over the previous
three-month period ended December 31. The current period increase over previous
comparable quarters is due to increased activity and deposit balances.
Trust Department Income increased $54,000 or 17.1 percent when compared to the
same quarter in 1998 and $34,000 when compared to the previous three months. The
increase is due to a growth in trust assets under management and the number of
accounts under administration. Trust Department Income is the largest
contributor to Other Income.
The increase in Insurance Commissions, Fees and Premiums amounted to $31,000
when compared to the same period in 1998 and $51,000 over the December 1998
three-month period. This increase is due to an increase in lending activity.
Loan growth had been relatively flat until the last quarter of 1998, however,
gross loans increased 4.4 percent or $12,400 million since March 31, 1998 with
most of the growth occurring in the final quarter of 1998 and the first quarter
of 1999.
Fees associated with the credit card operation are primarily merchant fees.
Those fees increased $20,000 when comparing the three months ended March 31,
1998 and March 31, 1999 and $95,000 when comparing the current quarter to the
previous three-month period ended December 31, 1998. The increase during the
1998 fourth quarter is due to the holiday season and the associated heavy usage
of credit cards.
Realized Gains on Securities for the quarters ended March 31, 1999, March 31,
1998 and December 31, 1998, respectively, amounted to $490,000, $754,000 and
$152,000. There is no specific reason for the variance in gains taken in any one
period. The gains realized are primarily from the sale of equity investments
that are monitored very closely for over valued or under performing stocks. From
time to time equity investments will be sold at a profit to enhance or bring the
return on the equity portfolio in line with the balance of the investment
portfolio. Also, occasionally a municipal security will be sold shortly before
the call date to realize a gain that would be lost if held to the call date.
14
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
TABLE VIII- COMPARISON OF NONINTEREST EXPENSE
<TABLE>
<CAPTION>
Three-Month Periods Ended
March 31,
$ %
1999 1998 Change Change
<S> <C> <C> <C> <C>
Salaries and Wages $ 1,561 $ 1,599 $ (38) (2.38)
Pensions and Other Employee Benefits 471 442 29 6.56
Occupancy Expense, Net 233 200 33 16.50
Furniture and Equipment Expense 209 194 15 7.73
Expenses Related to Credit Card Operation 576 574 2 0.35
Pennsylvania Shares Tax 181 165 16 9.70
Other Operating Expense 1,022 763 259 33.94
- -------------------------------------------------------------------------------------------------------------
Total Other Expense $ 4,253 $ 3,937 $ 316 8.03
- -------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------
</TABLE>
Salaries and Wages declined 2.4 percent or $38,000 when comparing the periods
ended March 31, 1999 and March 31, 1998. This occurred because the number of pay
periods in 1999 was one less than the previous comparable period. The weekly
payroll ranges from $125,000 to $134,000 and if an adjustment had been made for
the additional week salaries and wages would have increased approximately 5.0
percent . The increase reflects merit raises and an increase in full time
equivalent employees from 203 to 209. A comparison of the current period to the
three-month period ended December 31, 1998 would reflect an increase of
$247,000. The increase is the result of incentive payments during the last
quarter of 1998.
Pensions and Other Employee Benefits consists primarily of social security
taxes, group life and health insurance, contributions to the 401 (k) plan and
pension expense. The cost of Pensions and Other Employee Benefits increased
$29,000 or 6.6 percent primarily because of increased hospitalization insurance
related to the additional employees. The current quarter expense compared to the
final quarter of 1998 reflects a minimal increase of $6,000.
Occupancy Expense, consisting of insurance, maintenance, real estate taxes,
depreciation and other utilities, increased 16.5 percent or $33,000 when
comparing the three-month periods ended March 31, 1999 and March 31,1998.
The increase was due to increased depreciation costs related to a new branch.
Furniture and Equipment Expense increased $86,000 or 7.7 percent when comparing
the three-month periods ended March 31, 1999 and March 31, 1998. The increase
was also caused by increased depreciation resulting from the installation of
computer communication systems, the purchase of several personal computers and
the installation of 12 ATMs. The Corporation is in the process of installing an
internet banking product during the first half of 1999. A comparison to the
previous quarter would show an increase of $16,000 also caused by an increase in
depreciation.
Expenses Related to the Credit Card Operation, respectively, for the periods
ended March 31, 1999, March 31, 1998 and December 31, 1998 were $576,000,
$574,000 and $675,000. The nearly $100,000 increase in the last quarter of 1998
is directly related to increased interchange fees.
Pennsylvania Shares Tax increased approximately 10 percent during the first
quarter of 1999 when compared to the same quarter in 1998 and the last quarter
of 1998. Pennsylvania Shares Tax is a tax on the capital of the Bank. The
increase in the amount of tax is directly related to the earnings of the Bank
and unrealized gains on available-for-sale securities.
15
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
Other Operating Expense increased substantially when compared to the same
quarter in 1998 and the last quarter of 1998. Other Expenses during the first
quarter of 1999 amounted to $1,022,000 and for the periods ended March 31, 1998
and December 31, 1998 were $763,000 and $788,000, respectively. A substantial
portion of the difference was generated by Pennsylvania state income tax on
realized equity securities gains generated by the Corporation and increased
commissions and fees paid by Bucktail Life Insurance Company. The balance of the
increase is spread among other expense items such as supplies, loss on the
disposition of Other Real Estate and school expenses. The ensuing quarters of
1999 will be slightly higher than comparable quarters of previous years but
should be below that of the first quarter of 1999.
STATEMENT OF CONDITION Three-Month Periods Ended March 31, 1999/1998 --
Three-Month Period Ended December 31, 1998
Average total assets of the Corporation were $643,726,000 and $615,267,000 for
the comparable periods ended March 31, 1999/1998, respectively. The increase in
average assets between the two periods can be attributed to an increase in
average deposits of $38,089,000, representing an increase of 8.8 percent. A
comparison of average total deposits for the fourth quarter of 1998 and the
current quarter shows an increase of only $1,419,000.
The increase in average deposits was used primarily to fund an increase in the
investment portfolio. The average balance of investment securities has increased
just over 9 percent from an average of $285,532,000 during the first quarter of
1998 to an average balance of $311,414,000 during the first quarter of 1999. The
average balance of tax-free municipal securities posted the largest increase
with average balances increasing $15,951,000 for the year ended March 31, 1999.
The primary reason for concentrating on municipal securities is the attractive
after tax rate. The Corporation is not in an alternate minimum tax situation and
has consistently held its effective tax rate to 25 percent or below and still
maintained an after tax return on its tax free loans and investments that equals
the balance of the portfolio. Other investment categories increased slightly
during the period.
Loan demand during the period was fairly flat and began to pick up late in the
fourth quarter of 1998 through the first quarter of 1999. Average total loans
during the first quarter of 1998 amounted to $283,193,000 and $288,094,000 for
the final quarter of 1998. However, during the first quarter of 1999 average
total loans had increased to $291,427,000. At this writing total loans amount to
just over $298,000,000. The major thrust of the loan increase has been real
estate secured.
The increase in the deposit base came primarily from two sources: Money Market
accounts and Certificates of Deposit. Average balances carried in Money Market
accounts for the three-month periods ended March 31, 1999 and March 31, 1998
were $125,636,000 and $107,914,000, respectively. The average rate paid for
those periods was 4.14 percent and 4.56 percent. For the quarter ended December
31, 1998 average balances carried amounted to $121,635,000 and the average rate
paid was 4.07 percent. During 1998 the Bank introduced a Municipal Money Market
account available to all municipal customers. The highest rate paid is indexed
to the Federal Funds Rate. The account has become very popular with local school
districts and other local municipalities.
Average balances carried in Certificates of Deposit for the three-month periods
ended March 31, 1999 and March 31, 1998 were $139,000,000 and $121,516,000,
respectively. The average rate paid for the same periods was 5.32 percent and
5.46 percent. Average balances in Certificates of Deposit for the quarter ended
December 1998 were $136,792,000 at an average rate of 5.45 percent. A large
portion of the increase is also due to local school districts.
Also, during the last quarter of 1998 a new Repo Sweep account was offered to
commercial customers. Balances are reviewed daily and amounts above a
predetermined level are swept into an interest-bearing account. The account has
become very popular and has added, on average, about $3,000,000 in new balances.
The accounts are considered borrowed funds and are not insured by the FDIC. They
are however collateralized by other bank investments.
The only other deposit category that recorded an increase was Demand Deposits.
Average balances carried for the first quarter of 1998 amounted to $42,392,000
and for the same period in 1999 the average balances had increased to
$48,166,000.
Management expects that 1999 will bring continued competition for deposits from
credit unions, brokerage houses and other nonbank competitors and it will
continue to look for innovative deposit products to hold current customers and
attract new business.
16
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (Continued)
Average borrowed funds decreased nearly 14 percent when comparing the period
ended March 31, 1998 to March 31, 1999. During the month of October 1998
$10,000,000 in borrowed funds was refunded with new borrowings for a net savings
to maturity of $17,000. Also, during the same month an additional $15,000,000 in
borrowed funds was paid off.
Average capital of the Corporation, excluding unrealized gains on the
available-for-sale investments, grew from $72,906,000 during the first quarter
of 1998 to $78,909,000 at the end of the current quarter. This represents a
growth rate of 8.2 percent . Unrealized gains on available-for-sale investments
at the end of March 31, 1999, March 31, 1998 and December 31, 1998 were
respectively, $9,007,000, $13,230,000 and $11,922,000.
LIQUIDITY
Liquidity is the ability to raise cash quickly and at a reasonable cost. An
adequate liquidity position allows the Corporation to pay creditors, compensate
for unforeseen deposit fluctuations and fund unexpected loan demand. Daily
deposit decreases normally do not exceed $4,000,000 to $6,000,000 and new loan
advances net of loan repayments have not been significant.
In addition to the daily sources of cash, such as loan repayments, amortization
of mortgage-backed investments, maturing bonds and deposit growth, the
Corporation has several additional sources of liquidity: the sale of assets
(primarily available-for-sale investment securities), short-term or long-term
borrowing. Sources of borrowing include the Federal Home Loan Bank of Pittsburgh
and several correspondent bank relationships.
CAPITAL ADEQUACY
Under regulations published by the Federal Deposit Insurance Corporation and
other bank regulators, a bank's capital must be divided into two tiers. The
first tier or tier one capital consists primarily of common stock, retained
earnings, surplus and non-cumulative perpetual preferred stock. Tier two
includes the allowance for possible loan losses (limited to 1.25 percent of
risk-weighted assets), cumulative preferred stock, subordinated debt and 45
percent of unrealized gains on equity investments.
Risk-based capital guidelines published in 1990 require banks to maintain a
risk-based capital ratio of 8 percent, 4 percent of which must be tier one; the
remainder may be tier two. The total risk-based capital ratios at March 31,
1999, March 31, 1998 and December 31, 1998 were 24.56 percent, 24.99 percent and
22.74 percent, respectively.
Total capital of the Corporation (excluding unrealized gains on
available-for-sale securities) at March 31, 1999, March 31, 1998 and
December 31, 1998 was $80,201,000, $73,869,000 and $78,645,000, respectively.
The leverage ratio (capital divided by total liabilities), excluding unrealized
gains on available-for-sale securities, at March 31, 1999, March 31, 1998 and
December 31, 1998 was 13.9 percent, 13.9 percent and 14.1 percent, respectively.
Planned capital expenditures during the next 12 months will amount to an
estimated $1,000,000. These expenditures will not have a detrimental effect on
capital ratios or results of operations.
INFLATION
Inflation affects nearly every aspect of banking, primarily interest rates. The
effect of inflation, when it is high, also has an impact on the cost of goods,
such as supplies, services and labor. Growth in the Consumer Price Index for
1999 is projected at about 2 percent which is considered not to be inflationary.
In essence, inflation does not appear to be a problem in the near-term and
should not impact the results of operations for the balance of 1999.
17
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 3. Interest Rate Risk and Market Risk
INTEREST RATE RISK AND MARKET RISK
The risk that arises from changes in interest rates is an inherent factor in
operating a bank. The risk associated with changes in interest rates is two
fold: the risk to earnings and the risk to the market values of assets and
liabilities.
From an earnings risk perspective, an asset sensitive institution (positive gap)
will normally benefit from rising rates and a liability sensitive (negative gap)
will benefit from falling interest rates. Citizens & Northern Corporation uses a
simulation model that calculates earnings under varying interest rate shock
scenarios, most commonly up 100, 200 and 300 basis points and the same rate
scenarios in a falling rate environment. The Asset and Liability Committee and
the Board of Directors have established a 20 percent decrease in net interest
income as a parameter at a 200 basis point (2 percent) increase in interest
rates. The model is run monthly using the current maturity schedule of the
Corporation's assets and liabilities and certain prepayment assumptions.
The risk associated with interest rate increases and decreases as they relate to
the market value of the assets and liabilities of the Corporation is also
calculated using the same model and the same rate shock of plus and minus 100,
200, and 300 basis point swings in rates. Market values are estimated by
applying present value calculations to the cash flow generated by the
Corporation's balance sheet. The Asset and Liability Committee and Board of
Directors have also imposed a market loss limit of 25 percent at a 200 basis
point rate shock.
The model utilized to create Table IX makes estimates, at each level of interest
rate change, regarding cash flows from principal repayments on loans and
mortgage-backed securities and call activity on other investment securities.
Actual results could vary significantly from these estimates which could result
in significant differences in the calculation of projected changes in net
interest margin and market value of portfolio equity. Also, the model does not
make estimates related to changes in the composition of the deposit portfolio
that could occur due to rate competition and the table does not necessarily
reflect changes that management would make to realign the portfolio as a result
of changes in interest rates.
<TABLE>
<CAPTION>
March 31, 2000
TABLE IX -Effect of Hypothetical Changes in Interest
Rates
NIM = Net Interest Margin
MVPE= Market Value of Portfolio Equity Plus 2% Plus 2 % Minus 2% Minus 2%
(In Thousands) Estimated Estimated Estimated Estimated
Expected Change in Change in Change in Change in
NIM NIM NIM NIM NIM
INTEREST INCOME $ $ % $ %
<S> <C> <C> <C> <C> <C>
Investment Securities 20,099 20563 2.31 19112 (4.91)
Interest-bearing Due From Banks 448 630 40.63 266 (40.63)
Loan Income 27,872 29611 6.24 24833 (10.90)
Interest on Federal Funds Sold 56 79 41.07 33 (41.07)
- -----------------------------------------------------------------------------------------------------------------
Total Interest Income
48,475 50,883 4.97 44,244 (8.73)
INTEREST EXPENSE
Now Accounts and Regular Savings 2,112 2534 19.98 1689 (20.03)
Money Market Accounts 5,491 7799 42.03 3182 (42.05)
All Other Deposits 11,189 12980 16.01 9398 (16.01)
- -----------------------------------------------------------------------------------------------------------------
Total Deposits 18,792 23,313 24.06 14,269 (24.07)
Borrowed Funds 4,283 4833 12.84 3787 (11.58)
- -----------------------------------------------------------------------------------------------------------------
Total Interest Expense 23,075 28,146 21.98 18,056 (21.75)
- -----------------------------------------------------------------------------------------------------------------
Net Interest Income 25,400 22,737 -10.48 26,188 3.10
- -----------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------
</TABLE>
18
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 3. Interest Rate Risk and Market Risk (Continued)
<TABLE>
<CAPTION>
March 31, 1999
Effect of Hypothetical Changes in Market
Value of Portfolio Equity Plus 2% Plus 2 % Minus 2% Minus 2%
(In Thousands) Estimated Estimated Estimated Estimated
Change in Change in Change in Change in
MVPE MVPE MVPE MVPE MVPE
$ $ % $ %
<S> <C> <C> <C> <C> <C>
Investment Portfolio 345,436 324,578 (6.04) 351,488 1.75
Total Loans 291,083 283,624 (2.56) 294,586 1.20
- -------------------------------------------------------------------------------------------------------------
Total Assets 636,519 608,202 (4.45) 646,074 1.50
Deposits 483,055 470,642 (2.57) 496,897 2.87
Borrowed Funds 89,775 87,729 (2.28) 91,967 2.44
- -------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------
Total Liabilities 572,830 558,371 (2.52) 588,864 2.80
- -------------------------------------------------------------------------------------------------------------
Net Change in Portfolio Equity 63,689 49,831 (21.76) 57,210 (10.17)
- -------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------
</TABLE>
EQUITY SECURITIES RISK
The Corporation's equity securities portfolio consists of restricted stock,
primarily of the Federal Home Loan Bank of Pittsburgh ("FHLB") and investments
in stock of banks and bank holding companies located mainly in Pennsylvania.
FHLB stock can only be sold back to the FHLB or to another member institution at
par value. Accordingly, the Corporation's investment in FHLB stock is carried at
cost, which equals par value, and is evaluated for impairment. Factors that
might cause FHLB stock to become impaired are primarily regulatory in nature and
are related to potential problems in the residential lending market; for
example, the FHLB may be required to make dividend or other payments to the
Financing Corporation, the Resolution Funding Corporation, or other entities, in
amounts that could exceed the FHLB's total equity.
Investments in bank stocks are subject to the risk factors that affect the
banking industry in general, including competition from nonbank entities, credit
risk, interest rate risk and other factors, which could result in a decline in
market prices. Also, losses could occur in individual stock held by the
Corporation because of specific circumstances related to each bank. Further,
since the stocks held are bank and bank holding companies concentrated in
Pennsylvania, these investments could decline in market value if there is a
downturn in the state's economy.
Equity securities held as of March 31, 1999 and March 31, 1998 are presented in
Table X.
<TABLE>
<CAPTION>
Table X - EQUITY SECURITIES Hypothetical Hypothetical
10% Decline 20% Decline
In In
Fair Market Market
Cost Value Value Value
<S> <C> <C> <C> <C>
(In Thousands)
At March 31, 1999
Bank & Bank Holding Companies 17,251 30,277 3,028 6,055
Federal Home Loan Bank and Other Restricted Stocks 4,574 4,574 457 915
--------------------------------------------------------
--------------------------------------------------------
Total 21,825 34,851 3,485 6,970
--------------------------------------------------------
--------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Hypothetical Hypothetical
10% Decline 20% Decline
In In
Fair Market Market
Cost Value Value Value
<S> <C> <C> <C> <C>
(In Thousands)
At March 31, 1998
Bank & Bank Holding Companies 12,554 29,667 2,967 5,933
Federal Home Loan Bank and Other Restricted Stocks 4,152 4,152 415 830
--------------------------------------------------------
--------------------------------------------------------
Total 16,706 33,819 3,382 6,763
--------------------------------------------------------
--------------------------------------------------------
</TABLE>
19
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 4. Year 2000 Compliance
YEAR 2000 COMPLIANCE
The Year 2000, or Y2K problem as it is commonly referred to, is a computer
problem that originated when computers first began to be utilized to store and
process information. When computers were first used, computer memory and storage
space was very expensive. To make efficient use of this memory and storage
limitation, the year was stored as a two-digit number. For example, the year
1998 was stored as 98. Without corrective action being taken, when the date
rolls forward to 2000, many computers would read the date as 00 or 1900. This
would have a major impact on many calculations if appropriate action was not
taken.
Citizens & Northern Corporation began working on the problem in 1996 with the
formation of a "Year 2000 Committee". This committee, consisting of various key
people throughout the organization, meets periodically and reports to the Board
of Directors on a quarterly basis. The Board of Directors has approved and
implemented a formal Year 2000 Plan.
Overall, the Corporation has made substantial progress on Y2K issues. To date,
the corporation's progress is as follows:
o Mainframe software upgrades have been completed.
o All mission critical applications have been tested by the MIS
department and will be thoroughly retested independently by our Audit
and Compliance departments.
o A contingency/business resumption plan is near completion.
o Customer risk (both funds users and funds providers) has been assessed.
o Several steps have been taken to increase customer awareness.
TESTING:
A Year 2000 readiness-testing plan was developed to guide the testing process.
This program covers various areas of the Bank such as mainframe computers,
personal computers, environmental systems, and various third-parties.
Our current programming and systems analyst staff has written and developed the
majority of mission-critical software for the mainframe system. This software
processes most of the core banking systems. All critical in-house software has
been modified to be ready for the Year 2000 and tested by the Management
Information Systems (MIS) department. Those modified programs are being used for
our current day-to-day processing. In addition to the testing performed by the
MIS department, the plan calls for additional independent testing. The Audit and
Compliance departments are performing the independent testing and for main frame
mission-critical systems the majority of the testing is complete.
MAINFRAME AND SOFTWARE TESTING:
Independent testing of software for Y2K compliance was done utilizing our HP 937
back-up computer system. Through initial independent testing in July of 1998, it
was discovered that new operating systems were required. Subsequently, both the
mainframe and backup computer systems were upgraded with new operating systems
certified to be compliant by the reliable vendor. All internally written
software has been revised and tested by the MIS staff.
KEY EXTERNAL THIRD PARTY SUPPLIERS:
o Trust - The department's primary, mission-critical software, TrustRite,
has been reviewed, modified and tested by the vendor. The department
has partnered with a TrustRite users group, which has hired a
third-party software specialist firm to perform independent testing of
the system. That independent testing is ongoing. Additionally, all
other software and hardware in the department have been identified and
reviewed for Y2K compliance.
o Electronic Funds Transfer - All software has been tested and is Y2K
compliant. (ACH and Wire Transfer)
o Check and Document Imaging - Our independent testing will be completed
by the second quarter.
o Credit Card - Internal testing has been performed. Third party testing
is scheduled for the near future.
o ATM - All automated teller machines are compliant based on the
manufacturer's warranties. Third-party testing is scheduled for the
near future.
o Postage machines are compliant.
o Various security systems, elevators, vaults, etc. were determined to be
Y2K compliant or are not date sensitive.
20
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part I - Financial Information (Continued)
Item 4. Year 2000 Compliance (Continued)
VENDORS:
To date, a few vendors have not yet responded concerning their Y2K readiness.
However, these vendors are not considered mission critical. All mission critical
vendors have responded stating that they will be able to support Y2K. THOSE
VENDORS NOT INDICATING YEAR 2000 READINESS WILL BE REPLACED.
CONTINGENCY PLAN/BUSINESS RESUMPTION:
A contingency plan for the Year 2000 is nearly complete. Key operational areas
have been identified such as Trust, Credit Card/ATM, Accounting, Fedwire/ACH and
the overall Management Information System and will be evaluated with plans
developed to use in case of Y2K related issues. Plans are being developed for
each of these areas using staff input to determine how processing could be
performed without computerization. Items such as paper forms necessary to
complete manual posting to the need for a back-up generator (which could be used
in case of any loss of power, not just Y2K) are being analyzed and plans will be
developed accordingly.
CUSTOMER RISK AND AWARENESS:
To date, the following efforts have been made to inform our customers of the Y2K
problem:
o Y2K letter sent to commercial loan customers.
o Y2K press release in all newspapers in market area.
o Y2K Seminars were held in June 1998 and March 1999 for all commercial
customers.
o Bankcard Services sent Y2K updates to all member banks.
o Y2K informational brochures were distributed to all offices for
customers inquiring into the Y2K problem.
o Y2K informational flyers were distributed in the C&N 1999 calendars
that were made available to customers, free of charge, at all branches.
The bank developed a Y2K questionnaire for selected loan customers. This
questionnaire, based on Appendix A of the FFIEC Inter Agency Statement on
Y2K concerning the impact of customers, is for all commercial loan
customers with aggregate balances over $150,000. Deposit customers with
aggregate balances over $100,000 have been selected for review. The results
are being reviewed and appropriate action will be taken as deemed
necessary. Loan officers are meeting independently with all loan customers
with borrowing availability totaling $150,000 or more to review and assess
the customer's Y2K readiness.
COSTS:
Citizens & Northern Corporation employs a staff of system analysts and
programmers and it is difficult to estimate the total cost of compliance since
the work has been done in-house and was begun in 1996. A reasonable estimate
would put programming costs in excess of $250,000. The current telephone banking
system, installed in 1997, which is not Y2K compliant, will be replaced with a
Y2K compliant Internet and Telephone Banking System that incorporates telephone
banking during the second quarter of 1999. The Internet and Telephone Banking
System is expected to cost approximately $100,000. Item-processing software has
been updated at a cost of $32,000. The cost of PC replacements is estimated to
be between $50,000 and $75,000; software upgrades will probably be equal to
that. The main frame computer network has been upgraded for Y2K and non-Y2K
reasons at a cost of $200,000. The Corporation is also in the process of
purchasing a natural gas or diesel generator for the operations center in
Wellsboro. Estimates have ranged from $30,000 to $80,000. The primary purpose of
the generator is to provide a back-up electricity source for our MIS department
in the event of power interruptions caused by weather or other non-Y2K related
unforeseen situations.
The Corporation wishes to caution shareholders and customers that although it
believes all aspects of the year 2000 issue have been addressed (i.e., software,
hardware, customers, vendors, and facilities) internal problems (Y2K or
otherwise) may occur that could temporarily prevent the Corporation from
carrying on business-as-usual. Nevertheless, it is the judgment of management
and the Board of Directors that the Corporation has a highly qualified MIS
staff, which has proven its ability to quickly correct problems with minimal
disruption to business. If problems arise that are caused by external sources,
such as power outages, or vendor failure of certified Y2K-compliant equipment or
software, for which the Corporation must rely on the outside source, business
could be disrupted. Therefore, the Corporation has made significant progress in
developing contingency plans to allow the Corporation to function satisfactorily
in the unlikely event that such a failure should occur.
No one can predict with certainty what will occur when the century date changes;
however, your Corporation's Board of Directors and management team have expended
all reasonable time and effort to solve the problem and will deal with
unforeseen problems as they arise.
21
<PAGE>
CITIZENS & NORTHERN CORPORATION - FORM 10 - Q
Part II - Other Information
Item 1. Legal Proceedings
There are currently no pending lawsuits against Citizens & Northern Corporation.
Item 4. Not Applicable
Item 5. Other Events
a. None
Item 6. Exhibits and Reports on Form 8 - K
a. Exhibits filed as a part of this report - None
b. No reports on Form 8 - K were filed during the period ended
March 31, 1999
22
<PAGE>
CITIZENS AND NORTHERN CORPORATION - FORM 10 - Q
Signature Page
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
CITIZENS & NORTHERN CORPORATION
May 10, 1999 By: /s/ Craig G. Litchfield
- ------------ ---------------------------------------
Date President and Chief Executive Officer
May 10, 1999 By: /s/ James W. Seipler
- ------------ --------------------------------------
Date Executive Vice President and Treasurer
23
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