FORM 10-Q
UNITED STATES 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 quarterly period ended June 30, 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 0-16276
STERLING FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2449551
(State or other jurisdiction of incorporation (I.R.S.Employer
or organization) Identification No.)
101 North Pointe Boulevard
Lancaster, Pennsylvania 17601-4133
(Address of principal executive offices) (Zip Code)
(717) 581-6030
(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
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
Common Stock, $5.00 Par Value-7,126,833 shares outstanding as of July 30,
1999.
Sterling Financial Corporation and Subsidiaries
Index
PART I - FINANCIAL INFORMATION Page
Item 1 - Financial Statements
Consolidated Balance Sheets
as of June 30, 1999 (Unaudited), December 31, 1998,
and June 30, 1998 (Unaudited). 3
Consolidated Statements of Income
for the Three and Six Months ended June 30, 1999
and 1998 (Unaudited). 4
Consolidated Statements of Cash Flows
for the Six Months ended
June 30, 1999 and 1998 (Unaudited). 6
Notes to Consolidated Financial
Statements (Unaudited). 7
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 13
Item 3 - Quantitative and Qualitative Disclosure about Market Risk 25
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings 27
Item 4 - Submission of Matters to a Vote of Security Holders 27
Item 6 - Exhibits and Reports on Form 8-K 27
Signature Page 29
Subsidiaries of the Registrant 30
<TABLE>
Part I - Financial Information
Sterling Financial Corporation and Subsidiaries
Consolidated Balance Sheets
<CAPTION>
June 30, December 31, June 30,
1999 1998 1998
ASSETS (Unaudited) (Unaudited)
<S> <C> <C> <C>
Cash and due from banks...................$ 42,334,896 $ 38,716,125 $ 38,109,372
Interest-bearing deposits in other banks... 580,862 556,603 31,216
Federal funds sold......................... 7,250,026 31,829,950 27,380,000
Mortgage loans held for sale............... 1,655,300 6,005,300 2,570,600
Investment Securities::
Securities held to maturity (market value-
$57,496,360; $66,289,939; $74,338,420).... 57,038,814 64,408,384 73,162,922
Securities available for sale............. 204,983,378 189,300,082 163,454,072
Loans...................................... 627,955,080 592,361,989 587,768,247
Less: Unearned Income..................... (49,338) (110,276) (229,836)
Allowance for loan losses........... (8,145,325) (8,069,844) (8,479,119)
Loans, Net................................. 619,760,417 584,181,869 579,059,292
Premises and Equipment..................... 23,655,317 24,108,375 23,520,038
Other real estate owned.................... 712,465 793,960 1,141,220
Accrued interest receivable and
prepaid expenses.......................... 17,002,996 13,387,333 15,576,952
Other assets............................... 55,582,209 47,765,834 43,067,615
TOTAL ASSETS..............................$1,030,556,680 $1,001,053,815 $967,073,299
============= ============= ===========
LIABILITIES
Deposits:
Non-interest bearing.....................$ 124,521,881 $ 108,709,107 $106,701,073
Interest-bearing.......................... 749,067,333 746,346,694 720,124,216
TOTAL DEPOSITS............................. 873,589,214 855,055,801 826,825,289
Interest-bearing demand notes issued to
U.S. Treasury............................. 5,000,000 1,557,696 5,000,000
Other liabilities for borrowed money....... 43,131,444 34,103,331 28,519,775
Accrued interest payable and accrued
expenses.................................. 12,676,412 11,455,188 12,643,732
Other liabilities.......................... 7,205,779 9,897,219 8,805,499
TOTAL LIABILITIES.......................... 941,602,849 912,069,235 881,794,295
STOCKHOLDERS' EQUITY
Common Stock - (Par Value: $5.00)
No. Shares authorized: 35,000,000;35,000,000;
35,000,000
No. Shares issued: 7,148,681; 7,148,681;
7,190,145
No. Shares outstanding: 7,124,833; 7,117,795;
7,138,178................................ 35,743,405 35,743,405 35,950,725
Capital Surplus............................. 22,637,419 22,607,774 22,325,285
Retained Earnings........................... 30,781,963 27,080,477 24,438,617
Accumulated other comprehensive income...... 709,405 4,737,710 3,494,894
Less: Treasury Stock (23,848; 30,886; 51,967)-
at cost.................................... (918,361) (1,184,786) (930,517)
TOTAL STOCKHOLDERS' EQUITY.................. 88,953,831 88,984,580 85,279,004
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY$1,030,556,680 $1,001,053,815 $967,073,299
============= ============= ===========
See accompanying notes to financial statements
</TABLE>
<TABLE>
Part 1 - Financial Information
Sterling Financial Corporation and Subsidiaries
Consolidated Statements of Income (Unaudited)
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
INTEREST INCOME
<S> <C> <C> <C> <C>
Interest and fees on loans.......................$12,852,011 $12,948,898 $25,390,859 $25,650,684
Interest on deposits in other banks.............. 8,223 665 15,351 1,206
Interest on federal funds sold................... 180,862 275,541 447,238 590,234
Interest and dividends on investment securities:
Taxable...................................... 2,630,348 2,430,442 5,187,517 4,695,971
Tax-exempt................................... 1,005,805 872,419 1,956,694 1,695,382
Dividends on stock........................... 65,785 61,716 131,504 122,091
----------- ----------- ----------- -----------
TOTAL INTEREST INCOME............................. 16,743,034 16,589,681 33,129,163 32,755,568
----------- ----------- ----------- -----------
INTEREST EXPENSE
Interest on time certificates of deposit of
$100,000 or more............................... 396,905 529,783 803,524 1,073,194
Interest on all other deposits.................. 6,192,378 6,538,843 12,433,090 12,838,085
Interest on demand notes issued to the
U.S. Treasury....... ......................... 25,143 35,172 52,861 59,611
Interest on federal funds purchased............. none none none none
Interest on other borrowed money................ 524,846 483,106 1,007,977 980,016
----------- ----------- ----------- -----------
TOTAL INTEREST EXPENSE............................ 7,139,272 7,586,904 14,297,452 14,950,906
----------- ----------- ----------- -----------
NET INTEREST INCOME............................... 9,603,762 9,002,777 18,831,711 17,804,662
Provision for loan losses....................... 87,500 361,000 240,000 736,000
----------- ----------- ----------- -----------
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES.................................... 9,516,262 8,641,777 18,591,711 17,068,662
----------- ----------- ----------- -----------
OTHER OPERATING INCOME
Income from fiduciary activities............... 557,251 462,405 1,120,697 939,790
Service charges on deposit accounts............ 872,898 792,693 1,653,882 1,557,411
Other service charges, commissions and fees.... 527,440 464,883 971,161 892,329
Mortgage banking income........................ 318,084 474,782 887,645 1,121,511
Income from sales of assets.................... none 1,200,000 none 1,200,000
Other operating income......................... 1,322,096 1,142,905 2,539,763 2,244,853
Gains/(Losses) on securities transactions...... 325,572 none 525,720 none
----------- ----------- ----------- -----------
TOTAL OTHER OPERATING INCOME..................... 3,923,341 4,537,668 7,698,868 7,955,894
----------- ----------- ----------- -----------
OTHER OPERATING EXPENSES
Salaries and employee benefits................ 4,845,202 5,033,416 9,840,989 9,659,071
Net occupancy expense......................... 526,612 569,873 1,115,219 1,171,366
Furniture and equipment expense............... 788,500 755,347 1,580,441 1,459,406
FDIC insurance assessment..................... 26,741 21,884 49,344 42,936
Other operating expenses...................... 2,562,906 2,086,081 4,709,895 3,928,919
----------- ----------- ----------- -----------
TOTAL OTHER OPERATING EXPENSES................... 8,749,961 8,466,601 17,295,888 16,261,698
----------- ----------- ----------- -----------
Income before income taxes.................... 4,689,642 4,712,844 8,994,691 8,762,858
Applicable income taxes....................... 1,158,537 1,313,862 2,222,669 2,342,288
----------- ----------- ----------- -----------
NET INCOME.......................................$ 3,531,105 $ 3,398,982 $ 6,772,022 $ 6,420,570
=========== =========== =========== ===========
Earnings per common share:
Net Income (Basic)..............................$ .50 $ .48 $ .95 $ .90
Net Income (Diluted)............................ .49 .47 .95 .89
Cash dividends declared per common share........$ .22 $ .20 $ .43 $ .40
See accompanying notes to financial statements
</TABLE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)
<S> <C> <C> <C> <C>
NET INCOME.......................................$ 3,531,105 $ 3,398,982 $ 6,772,022 $ 6,420,570
Other comprehensive income, net of tax:
Unrealized gains (losses) on securities
available-for-sale arising during the period. (2,431,243) 148,921 (3,681,330) 603,459
Reclassification adjustment for gains included
in net income................................ (214,877) none (346,975) none
----------- ----------- ----------- ----------
Other comprehensive income...................... (2,646,120) 148,921 (4,028,305) 603,459
----------- ----------- ----------- ----------
COMPREHENSIVE INCOME.............................$ 884,985 $ 3,547,903 $ 2,743,717 $ 7,024,029
=========== =========== =========== ==========
See accompanying notes to financial statements
</TABLE>
<TABLE>
Part I - Financial Information
Sterling Financial Corporation and Subsidiaries
Consolidated Statements of Cash Flows (Unaudited)
<CAPTION>
Six Months Ended
June 30
1999 1998
<S> <C> <C>
Cash Flows from Operating Activities
Net Income...........................................$ 6,772,022 $ 6,420,570
Adjustments to reconcile net income to net cash
provided by/(used in) operating activities:
Depreciation...................................... 1,216,929 1,116,201
Accretion and amortization of investment securities 318,752 159,089
Provision for possible loan and lease losses...... 240,000 736,000
(Gain) loss on sale of investment securities...... (525,720) none
(Gain) loss on disposition of property and equipment (2,282) (1,544)
(Gain) loss on sale of mortgage loans............. (303,489) (337,569)
Proceeds from sales of mortgage loans............. 43,117,738 43,501,649
Origination of mortgage loans held for sale....... (38,464,249) (44,943,180)
Change in operating assets and liabilities:
(Increase) decrease in accrued interest
receivable and prepaid expenses................ (3,601,035) (2,819,033)
(Increase) decrease in other assets............. (7,745,307) (6,035,730)
Increase (decrease) in accrued interest payable
and accrued expenses........................... 1,237,132 1,856,647
Increase (decrease) in other liabilities....... (614,318) 1,132,110
----------- -----------
Net cash provided by/(used in) operating activities.. 1,646,173 785,210
Cash Flows from Investing Activities
Proceeds from interest-bearing deposits in other banks 280,099 302,266
Purchase of interest-bearing deposits in other banks.. (304,358) (318,917)
Proceeds from sale of investment securities........... 538,736 none
Proceeds from maturities of investment securities..... 24,122,377 29,414,554
Purchase of investment securities..................... (38,893,407) (48,456,413)
Federal funds sold, net............................... 24,579,924 1,570,000
Net loans and leases made to customers................ (35,818,548) (21,417,853)
Purchases of premises and equipment................... (780,547) (956,862)
Proceeds from sale of premises and equipment.......... 18,958 4,976
------------ -----------
Net cash provided by/(used in) investing activities.. (26,256,766) (39,858,249)
Cash Flows from Financing Activities
Net increase (decrease) in demand deposits,
NOW and savings accounts............................. 8,115,055 20,153,611
Net increase (decrease) in time deposits.............. 10,418,358 23,374,572
Net increase (decrease) in interest-bearing demand
notes issued to the U.S. Treasury.................... 3,442,304 2,000,000
Proceeds from borrowings.............................. 24,300,000 5,280,519
Repayments of borrowings.............................. (15,271,887) (9,072,976)
Proceeds from issuance of common stock................ none 22,000
Cash dividends paid................................... (3,070,536) (2,788,230)
Cash paid in lieu of fractional shares................ none (40,038)
Acquisition of treasury stock......................... none (1,257,756)
Proceeds from issuance of treasury stock.............. 296,070 1,133,219
------------ -----------
Net cash provided by/(used in) financing activities. 28,229,364 38,804,921
Increase (decrease) in cash and due from banks....... 3,618,771 (268,118)
Cash and due from banks::
Beginning............................................. 38,716,125 38,377,490
------------ -----------
Ending................................................$ 42,334,896 $ 38,109,372
============ ===========
Supplemental Disclosure of Cash Flow Information:
Cash payments for:
Interest paid to depositors and on borrowed money....$ 14,583,880 $ 14,803,374
Income taxes......................................... 1,780,000 2,323,593
Supplemental Schedule of Noncash Investing
and Financing Activities
Other Real Estate acquired in settlement of loans...... 171,350 319,247
See accompanying notes to financial statements
</TABLE>
Part I - Financial Information
Sterling Financial Corporation and Subsidiaries
Notes to Consolidated Financial Statements (Unaudited)
Note 1 - Basis of Presentation
The accompanying unaudited consolidated financial statements of Sterling
Financial Corporation have been prepared in accordance with generally accepted
accounting principles for interim financial information. Accordingly, they do
not include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion of
management, all adjustments, consisting of normal recurring accruals, considered
necessary for a fair presentation have been included. Operating results for the
six-month period ended June 30, 1999 are not necessarily indicative of the
results that may be expected for the year ended December 31, 1999.
The consolidated financial statements of Sterling Financial Corporation
include the accounts of its wholly owned subsidiaries, Bank of Lancaster County,
N.A. and its wholly owned subsidiary, Town & Country, Inc., T & C Leasing, Inc.,
Northeast Bancorp, Inc. and its subsidiary, The First National Bank of North
East and Sterling Mortgage Services, Inc. Sterling Mortgage Services, Inc. is
presently inactive. All significant intercompany transactions have been
eliminated in the consolidation.
In June 1996, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 125 - "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities." This statement amends
and extends to all servicing assets and liabilities the accounting standards for
mortgage servicing rights now in Financial Accounting Standards Board Statement
No. 65, "Accounting for Certain Mortgage Banking Activities," and supersedes
Financial Accounting Standards Board Statement No. 122, "Accounting for Mortgage
Servicing Rights." Statement of Financial Accounting Standards No. 125
establishes accounting and reporting standards for transfers and servicing of
financial assets and extinguishments of liabilities based on the consistent
application of the financial-components approach. This approach requires the
recognition of financial assets and servicing assets that are controlled by the
reporting entity, the derecognition of financial assets when control is
surrendered and the derecognition of liabilities when they are extinguished.
Specific criteria are established for determining when control has been
surrendered in the transfer of financial assets. Liabilities incurred and
derivatives obtained by transferors in connection with the transfer of financial
assets are measured at fair value, if practicable. Servicing assets and other
retained interests in transferred assets are measured by allocating any prior
carrying amount between the assets sold, if any, and the interest retained, if
any, and the interest retained, if any, based on the relative fair values of the
assets at the date of transfer. Servicing assets retained are then subject to
amortization and assessment for impairment. As issued, this statement was
effective for transfers and servicing of financial assets and extinguishments of
liabilities occurring after December 31, 1996, and was to be applied
prospectively.
The Financial Accounting Standards Board became aware that the volume and
variety of certain transactions and the related changes to information systems
and accounting processes necessary to comply with the requirements of Statement
of Financial Accounting Standards No. 125 would make it extremely difficult, if
not impossible, for some affected companies to comply by January 1, 1997. As a
result, in December 1966, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 127, "Deferral of the Effective
Date of Certain Provisions of Financial Accounting Standards Board Statement No.
125" that deferred, for one year, the effective date of certain provisions, as
well as accounting for transfer and servicing for repurchase agreements, dollar-
roll, securities lending and similar transactions. Therefore, this statement
was effective for such transfers of financial assets after December 31, 1997.
Adoption of Statement of Financial Accounting Standards No. 127 did not have a
material effect on the financial position or results of operations of Sterling
Financial Corporation.
In June 1997, the Financial Accounting Standards Board issued Statement No.
130 - "Reporting Comprehensive Income," which establishes standards for the
reporting and display of comprehensive income and its components in a full set
of general-purpose financial statements. Statement No. 130 requires that all
items that are required to be recognized as components of comprehensive income
be reported in a financial statement that is displayed with the same prominence
as other financial statements. Statement No. 130 was effective for fiscal years
beginning after December 15, 1997. Sterling Financial Corporation adopted
Statement of Financial Accounting Standards No. 130, effective March 31, 1998.
The adoption of this statement requires Sterling Financial Corporation to set
forth additional disclosures in the financial statements.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131 - "Disclosures about Segments of an
Enterprise and Related Information." This statement establishes standards for
the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports issued to shareholders. The statement also establishes standards for
related disclosures about products and services, geographic areas and major
customers. This statement supersedes Financial Accounting Standards Board
Statement No. 14 - "Financial Reporting for Segments of a Business Enterprise,"
but retains the requirement to report information about major customers. It
amends Statement of Financial Accounting Standards No. 94 -"Consolidation of
All Majority-Owned Subsidiaries," to remove the special disclosure requirements
for previously unconsolidated subsidiaries. The statement was effective for
fiscal years beginning after December 15, 1997. The adoption of this statement
requires Sterling Financial Corporation to set forth additional disclosures in
the financial statements.
In February 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 132 - "Employers' Disclosures
about Pensions and Other Postretirement Benefits - an amendment of Financial
Accounting Standards Board Statements No. 87, 88 and 106." This statement
revises employers' disclosures about pension and other postretirement benefit
plans. It does not change the measurement or recognition of those plans. It
standardizes the disclosure requirements for pensions and other postretirement
benefits to the extent practicable, requires additional information on changes
in the benefit obligations and fair values of plan assets that will facilitate
financial analysis, and eliminates certain disclosures that are no longer as
useful as they were when Financial Accounting Standards Board Statements No. 87,
No. 88 and No. 106 were issued. The statement suggests combined formats for
presentation of pension and other postretirement benefit disclosures. This
statement was effective for fiscal years beginning after December 15, 1997.
Restatement of disclosures for earlier periods provided for comparative purposes
is required unless the information is not readily available, in which case the
notes to the financial statements should include all available information and a
description of the information not available. The adoption of this statement
requires Sterling Financial Corporation to set forth additional disclosures in
the financial statements.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." This statement establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities. It requires that an
entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value. If
certain conditions are met, a derivative may be specifically designated as:
a hedge of the exposure to changes in the fair value of a
recognized asset or liability or an unrecognized firm commitment,
a hedge of the exposure to variable cash flows of a forecasted
transaction, or
a hedge of the foreign currency exposure of a net investment in a
foreign operation, and unrecognized firm commitment, an
available-for-sale security, or a foreign-currency=-denominated
forecaster transaction.
As issued, Statement 133 is effective for all fiscal quarters of all fiscal
years beginning after June 15, 1999, with earlier application encouraged.
Despite the anticipatory effort extended by the Financial Accounting Standards
Board to address implementation issues, some preparers of financial statements
and auditors expressed concern about certain challenges they face in applying
Statement 133, such as organization-wide educational efforts and information
system modifications. The Financial Accounting Standards Board concluded that,
for the reasons presented above, it is appropriate to defer the effective date
of Statement 133. As a result, in June 1999, the Financial Accounting Standards
Board issued Statement of Financial Accounting Standards No. 137, "Accounting
for Derivative Instruments and Hedging Activities - Deferral of the Effective
Date of Financial Accounting Standards Board Statement No. 133." This statement
shall be effective for all fiscal quarters of all fiscal years beginning after
June 15, 2000. Sterling Financial Corporation has not completed the analysis
required to estimate the impact of this statement.
In October 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 134 - "Accounting for Mortgage-Backed
Securities Retained after the Securitization of Mortgage Loans Held for Sale by
a Mortgage Banking Enterprise". This statement is effective for the first
fiscal quarter beginning after December 15,1998. The adoption of this statement
did not have an effect on the financial position or results of operations.
Note 2 - Earnings Per Share
In February 1997, the Financial Accounting Standards Board issued Statement
No. 128 - "Earnings per Share." The statement was effective for periods ending
after December 15, 1997. The statement is designed to simplify the computation
of earnings per share and requires disclosure of "basic earnings per share" and
if applicable, "diluted earnings per share." Basic earnings per share is simply
the per share allocation of income available to common stockholders based only
on the weighted average number of common shares actually outstanding during the
period. Diluted earnings per share represents the per share allocation of
income attributable to common stockholders based on the weighted average number
of common shares actually outstanding plus all dilutive potential common shares
outstanding during the period.
Basic earnings per share were computed by dividing net income by the
weighted average number of shares of common stock outstanding which were
7,124,675 and 7,148,635 for 1999 and 1998, after giving retroactive effect to a
5% stock dividend paid in June 1998. Diluted earnings per share were computed
by dividing net income by the weighted average number of shares of common stock
outstanding plus all dilutive potential common shares outstanding during the
period which were 7,137,873 and 7,184,808 for 1999 and 1998, after giving
retroactive effect to a 5% stock dividend paid in June 1998.
Note 3 - Dividends Declared
The cash dividend declared for the second quarter of 1999 amounted to $.22
per share while the cash dividend for the second quarter of 1998 amounted to
$.20 per share. The dividend for 1998 has been retroactively restated to
reflect the effect of the 5% stock dividend paid in June 1998.
Note 4 - Segment Information
In 1998, Sterling Financial Corporation adopted Statement of Financial
Accounting Standards No. 131 - "Disclosures about Segments of an Enterprise and
Related Information". Statement of Financial Accounting Standards No. 131
requires disclosure of segment information on the basis used internally by
management to evaluate segment performance.
Sterling Financial Corporation's segments are commercial and retail
banking, leasing, mortgage banking, and trust and investment services. The
accounting policies of each segment are the same as described in Note 2 of the
Form 10-K for the period ended December 31, 1998. Intersegment income or
expense is based upon commercial and retail bank funding of the leasing and
mortgage baking segments and of trust funding of the commercial and retail bank
segment.
The commercial and retail bank segment consists of all the general banking
of Sterling Financial Corporation. Leasing includes the vehicle and equipment
leasing of Town and Country, Inc. and T & C Leasing, Inc. Mortgage banking
includes the origination sales and servicing of mortgages. The trust and
investment services segment is the trust department of Bank of Lancaster County,
N.A.
Segment Information - June 30, 1999
(In thousands)
Commercial Trust and
and Retail Mortgage Investment Consolidated
Banking Leasing Banking Services Total
Interest Income......$ 28,186 $ 3,009 $ 1,934 $ --- $ 33,129
Interest Expense.... 12,810 954 --- 533 14,297
Intersegment Income
(Expense)........... 2,961 (2,032) (1,575) 646 ---
Other Income......... 3,636 2,094 901 1,068 7,699
Operating Expenses... 14,950 1,558 183 845 17,536
Profit before tax.... 7,023 559 1,077 336 8,995
Assets............... 865,384 111,742 53,431 538,936 1,569,493
Expenditures for long-
lived assets........ 757 17 --- 7 781
Depreciation and
amortization........ 1,083 102 10 22 1,217
Income taxes......... 1,519 224 366 114 2,223
Not included in the above information under the leasing segment are
expenditures for long-lived assets consisting of operating leases of $16,640,986
and depreciation of $6,899,198.
The following is a reconcilement of total assets as reported on the
accompanying financial statements.
ASSETS (In thousands)
Reportable segments...................................$ 1,569,493
Less: Trust assets not included on
consolidated financial statements................... 538,936
Total assets..........................................$ 1,030,557
==========
Note 5 - Merger and Acquisition Activity
On June 15, 1999, Sterling Financial Corporation completed the acquisition
of Northeast Bancorp, Inc., the parent company of The First National Bank of
North East, based in Maryland. Northeast Bancorp is an $82 million bank holding
company for The First National Bank of North East, with 4 branches located in
Cecil County, Maryland. The First National Bank of North East will continue to
operate as a separate bank.
Under the terms of the agreement, Northeast Bancorp shareholders received 2
shares of Sterling Financial Corporation common stock for each share of
Northeast Bancorp's common stock in a tax-free exchange. The transaction was
accounted for under the pooling-of-interests method of accounting. Accordingly,
the consolidated financial statements have been restated to include the
consolidated accounts of Northeast Bancorp for all periods presented.
Financial data for Sterling Financial Corporation and Northeast Bancorp,
Inc. from January 1, 1999 to June 30, 1999 is presented below. Although the
date of consummation was June 15, 1999, the financial information presented is
for the nearest interim period, which is June 30, 1999.
June 30, 1999
Sterling
Sterling Northeast Consolidated
Net interest income $16,944,398 $1,887,313 $18,831,711
Net income $ 6,437,098 $ 334,924 $ 6,772,022
Earnings per share - basic $ 1.00 $ .99 $ .95
Earnings per share - diluted $ 1.00 $ .99 $ .95
Previously reported information has been restated as follows:
June 30, 1998
Sterling
Sterling Northeast Consolidated
Net interest income $15,991,153 $1,813,509 $17,804,662
Net income $ 6,049,059 $ 371,511 $ 6,420,570
Earnings per share - basic $ .94 $ 1.09 $ .90
Earnings per share - diluted $ .93 $ 1.09 $ .89
Part I - Financial Information
Sterling Financial Corporation and Subsidiaries
Management's Discussion and Analysis of Financial Condition and Results of
Operations
The following discussion provides management's analysis of the consolidated
financial condition and results of operations of Sterling Financial Corporation
and its subsidiaries, the Bank of Lancaster County, N.A. and its subsidiary,
Town & County, Inc., T & C Leasing, Inc., Northeast Bancorp, Inc., and its
subsidiary, The First National Bank of North East and Sterling Mortgage
Services, Inc., which is presently inactive.
In addition to historical information, this Quarterly Report on
Form 10-Q contains forward-looking statements. The forward-looking statements
contained herein are subject to certain risks and uncertainties that could cause
actual results to differ materially from those projected in the forward-looking
statements. Important factors that might cause such a difference include, but
are not limited to, those discussed in the section entitled "Managements's
Discussion and Analysis of Financial Condition and Results of Operations."
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect management's analysis only as of the date hereof.
Sterling Financial 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 Sterling Financial Corporation files from time to
time with the Securities and Exchange Commission, including Quarterly Reports on
Form 10-Q and the Annual Report on Form 10-K Annual Report to be filed by
Sterling Financial Corporation, and any Current Reports on Form 8-K filed by
Sterling Financial Corporation.
On June 15, 1999 Sterling Financial Corporation completed the acquisition
of Northeast Bancorp, Inc., the parent company of The First National Bank of
North East, based in Maryland. Northeast Bancorp is an $82 million bank holding
company for The First National Bank of North East, with 4 branches located in
Cecil County, Maryland. The First National Bank of North East will continue to
operate as a separate bank.
Under the terms of the agreement, Northeast Bancorp shareholders received 2
shares of Sterling Financial Corporation common stock for each share of
Northeast Bancorp's common stock in a tax-free exchange. The transaction was
accounted for under the pooling-of-interests method of accounting. Accordingly,
the consolidated financial statements have been restated to include the
consolidated accounts of Northeast Bancorp for all periods presented.
Financial Condition
Total assets at June 30, 1999 amounted to $1,030,556,680 compared to
$967,073,299 at June 30, 1998. This represents an increase of $63,483,381, or
6.6% over that period of time. Total assets at June 30, 1999 increased
$29,502,865 or 2.9% over the $1,001,053,815 reported at December 31, 1998.
The investment securities portfolio reflects a 10.7% increase of
$25,405,198 during the twelve month period June 30, 1998 to June 30, 1999.
Sterling Financial Corporation accounts for securities under the Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities," which requires that these securities be classified
into one of three categories: held-to-maturity, available-for-sale or trading.
Specific accounting treatments apply to each of the three categories.
Securities held-to-maturity will be reported at amortized cost, trading
securities are reported at fair value with unrealized gains and losses included
in earnings and available-for-sale will be reported at fair value, with
unrealized gains and losses excluded from earnings and reported as a separate
component of shareholders' equity. Sterling Financial Corporation has
segregated its investment securities into two categories: those held-to-maturity
and those available-for-sale. During the first six months of 1999, there was in
increase in investment securities in the amount of $8,313,726 or 3.3% from the
$253,708,466 reported at December 31, 1998. The amount of unrealized gains
included in the available-for-sale category at December 31, 1998 was $7,183,300,
while at June 30, 1999 and 1998 it was $1,074,856 and $5,295,294.
Net loans have grown from $579,059,292 at June 30, 1998 to $619,760,417 at
June 30, 1999. This represents an increase of $40,701,125, or 7%. Net loans
have grown from $584,181,869 to $619,760,417 during the six month period ended
June 30, 1999. This represents an increase of 6.1% since December 31, 1998.
Federal funds sold amounted to $7,250,026 at June 30, 1999 compared to
$27,380,000 at June 30, 1998 and $31,829,950 at December 31, 1998.
Premises and equipment increased $135,279 from $23,520,038 at June 30, 1998
to $23,655,317 at June 30, 1999. During the first six months of 1999, total
premises and equipment decreased $453,058 from $24,108,375 at December 31,1998.
Depreciation expense during the first six months of 1999 was greater than the
net acquisition of premises and equipment which resulted in the decrease in
premises and equipment.
Total deposits increased $46,763,925 or 5.7% from $826,825,289 at June 30,
1998 to $873,589,214 at June 30, 1999. During the first six months of 1999,
total deposits increased $18,533,413 or 2.2% from the $855,055,801 reported at
December 31, 1998. Noninterest bearing deposits increased $17,820,808 from
$106,701,073 at June 30, 1998 to $124,521,881 at June 30, 1999. This represents
an increase of 16.7%. During the same period, interest bearing deposits
increased $28,943,117 or 4%. Noninterest bearing deposits increased $15,812,774
during the first six months of 1999 while interest bearing deposits increased
$2,720,639.
Stockholders' equity increased $3,674,827 or 4.3% from the $85,279,004
reported at June 30, 1998 to $88,953,831 at June 30, 1999. There was a decrease
of $30,749 from the $88,984,580 reported at December 31, 1998. The major
contributor to the decrease during the first six months of 1999 was a decrease
in net unrealized gains on securities available-for-sale, which is included in
accumulated other comprehensive income. Regulatory authorities have decided to
exclude the net unrealized holding gains and losses on available-for-sale
securities, which represents the accumulated other comprehensive income, from
the definition of common stockholders' equity for regulatory capital purposes.
The capital ratios reflect that exclusion. Total stockholders' equity to total
assets at June 30, 1999 was 8.57% compared to 8.50% at June 30, 1998 and 8.48%
at December 31, 1998.
Federal regulatory authorities issued risk-based capital guidelines
applicable to banks and bank holding companies in an effort to make regulatory
capital more responsive to the risk exposure related to various categories of
assets and off-balance sheet items. These guidelines require that banking
organizations meet a minimum risk-based capital, define the components of
capital, categorize assets into different risk classes and include certain off-
balance sheet items in the calculation of capital requirements. The components
of total capital are called Tier 1 and Tier 2 Capital. Tier 1 capital is the
shareholders' equity and Tier 2 capital is the allowance for loan losses. The
risk-based capital ratios are computed by dividing the components of capital by
risk-weighted assets. Risk-weighted assets are determined by assigning various
levels of risk to different categories of assets and off-balance sheet items.
Regulatory authorities have decided to exclude the net unrealized holding gains
and losses on available-for-sale securities from the definition of common
stockholders' equity for regulatory capital purposes. However, national banks
will continue to deduct unrealized losses on equity securities in their
computation of Tier 1 capital. Therefore, national banks will continue to
report the net unrealized holding gains and losses on available-for-sale
securities in the reports of condition and income submitted to federal
regulators as required by Statement of Financial Accounting Standards No. 115
and the financial reports prepared in accordance with generally accepted
accounting principles, but will exclude these amounts from calculations of Tier
1 capital. In addition, national banks should use the amortized cost of
available-for-sale debt securities (as opposed to fair value) to determine the
average total assets as well as the risk-weighted assets used in the
calculations of the leverage and risk-based capital ratios. The ratios below
reflect the above definition of common stockholders' equity which included
common stock, capital surplus and retained earnings, less net realized holding
losses on available-for-sale equity securities with readily determinable fair
values. The guidelines require Tier 1 capital of at least 4% and total capital
of 8% of risk-weighted assets. The Tier 1 capital ratio was 10.42% and the
total risk-based capital ratio was 11.39% at June 30, 1999 while the Tier 1
capital ratio was 9.87% and the total risk-based capital ratio was 10.94% at
June 30, 1998.
The following table reflects the various capital ratios for the periods
indicated:
June 30, 1999 December 31, 1998 June 30, 1998
"Statement"
Equity Capital 8.57% 8.48% 8.50%
Primary and
Total Capital 9.29% 9.21% 9.30%
"Risk-based"
Tier 1 Capital 10.42% 9.93% 9.87%
Total Capital 11.39% 11.12% 10.94%
Changes in the Allowance for Loan Losses for the six months ended June 30,
1999 and 1998 were as follows:
1999 1998
Balance at January 1 $8,069,844 $8,142,079
Provision for loan losses
charged to operating expenses 240,000 736,000
---------- ----------
8,309,844 8,878,079
---------- ----------
Losses charged to allowance 292,352 529,779
Recoveries credited to allowance 127,833 130,819
---------- ----------
Net charge-offs 164,519 398,960
---------- ----------
Balance at March 31, $8,145,325 $8,479,119
========== ==========
Allowance as a percent of
period-end loans 1.30% 1.44%
The net charge-offs for the first six months of 1999 were within Sterling
Financial Corporation's expectations and management believes that the allowance
for loan losses is adequate. Management makes a determination no less
frequently than quarterly as to the appropriate provision necessary to maintain
an adequate allowance for potential loan losses. The amount of provision made
is based upon a variety of factors including a specific allocation by individual
credits, loss experience for classified loans using migration analysis, loss
experience for homogenous loan pools, levels and trends in delinquency, specific
non-accruing and problem loans, evaluation of economic conditions and forecasts
and other factors deemed appropriate by management. While there can be no
assurance that material amounts of additional loan loss provisions will not be
required in the future, management believes that, based upon information
presently available, the amount of the allowance for possible loan losses is
adequate.
The following table presents information concerning the aggregate amount of
nonaccrual, past due and restructured loans:
June 30, December 31, June 30,
1999 1998 1998
Nonaccrual loans $ 514,089 $ 907,802 $1,361,269
Accruing loans, past due 90 days or more $ 660,055 $ 654,565 $ 625,112
Restructured loans $1,976,827 $1,992,953 $2,082,828
Non-performing loans to total loans .50% .60% .69%
Allowance for loan losses to
non-performing loans 258.5% 227.0% 208.4%
The general policy has been to cease accruing interest on loans when it is
determined that a reasonable doubt exists as to the collectibility of additional
interest. Interest income on these loans is only recognized to the extent
payments are received. If interest income had been recorded on such loans for
the periods indicated, such interest income would have been increased by
approximately $42,688 and $56,089 at June 30, 1999 and 1998 respectively, and
$86,567 at December 31, 1998. There was no interest income recorded on the
nonaccrual loans in 1999 or 1998. Potential problem loans are loans which are
included as performing loans, but for which possible credit problems of the
borrower causes management to have doubts as to the ability of such borrower to
comply with present repayment terms and which may eventually result in
disclosure as a non-performing loan. At June 30,1999, there were no such loans
that had to be disclosed as potential problem loans. The restructured loans are
a series of loans to 1 borrower involving $1,976,827. There are no commitments
to lend additional funds to this borrower in relation to the restructured loans.
A loan is categorized as restructured if the original interest rate on the loan,
repayment terms or both are restructured due to a deterioration in the financial
condition of the borrower. In the case of the above referenced loans, the Bank
is secured by real estate. The loans are current and have performed in
accordance with the contractual terms, both prior to and after the restructure.
Accrual of interest on these loans continues.
Statement of Financial Accounting Standards No. 118, "Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosures", an
amendment of Statement of Financial Accounting Standards No. 114, was
implemented at the beginning of 1995. The Bank has defined impaired loans as
all loans on nonaccrual status and restructured, except those specifically
excluded from the scope of Statement of Financial Accounting Standards No. 114,
regardless of the credit grade assigned by loan review. All impaired loans were
measured by utilizing the fair value of the collateral for each loan. When the
measure of an impaired loan is less than the recorded investment in the loan,
management will compare the impairment to the existing allowance assigned to the
loan. If the impairment is greater than the existing allowance, management will
adjust the existing allowance to reflect the greater amount or take a
corresponding charge to the provision for loan and lease losses. If the
impairment is less than the existing allowance for a particular loan, no
adjustment to the allowance or the provision for loan and lease losses will be
made. There was no adjustment necessary for the impaired loans for the periods
indicated.
The average amount of impaired loans was $2,638,957 for the second quarter
of 1999 and $3,242,165 for the second quarter of 1998, while the average for the
year 1998 was $3,139,493.
The following table presents information concerning impaired loans for the
periods indicated:
June 30, December 31, June 30,
1999 1998 1998
Gross impaired loans which have allowances..$2,490,916 $2,900,755 $3,444,097
Less: Related allowances for loan loss.... (120,271) (140,238) (169,555)
---------- ---------- ---------
Net impaired loans.........................$2,370,645 $2,760,517 $3,274,542
At June 30, 1999, there were no concentrations exceeding 10% of total
loans. A concentration is defined as amounts loaned to a multiple number of
borrowers engaged in similar activities which would cause them to be similarly
affected by changes in economic or other conditions. There were no foreign
loans outstanding at June 30, 1999.
Liquidity is the ability to meet the requirements of customers for loans and
deposit withdrawals in the most economical manner. Some liquidity is ensured by
maintaining assets which may be immediately converted into cash at minimal cost.
Liquidity from asset categories is provided through cash, noninterest-bearing
and interest bearing deposits with banks, federal funds sold and marketable
investment securities maturing within one year. The loan portfolio also
provides an additional source of liquidity due to the Bank of Lancaster County,
N.A. participating in the secondary mortgage market. The loan portfolio also
provides significant liquidity by repayment of loans by maturity or scheduled
amortization payments. On the liability side, liquidity is available through
customer deposit growth and short term borrowings. Liquidity must constantly be
monitored because future customer demands for funds are uncertain. The amount
of liquidity needed is determined by the changes in levels of deposits and in
the demand for loans. Management believes that the sources of funds mentioned
provide sufficient liquidity.
YEAR 2000
The following section contains forward-looking statements which involve
risks and uncertainties. The actual impact on Sterling Financial Corporation of
the Year 2000 issue could materially differ from that which is anticipated in
the forward-looking statements as a result of certain factors identified below.
The Year 2000 issue ("Y2K") is the result of computer programs being
written using two digits rather than four to define the applicable year. It is
anticipated that most systems may recognize a date using "00" as the year "1900"
rather than "2000". This could result in system failures, miscalculations, and
disruptions of normal business operations including, among other things, a
temporary inability to process transactions, send statements, or engage in
similar day to day business activities. At Sterling Financial Corporation, we
recognize the Year 2000 problem is more than just a systems issue. It is a
business issue, and we are dealing with it in that manner.
Corporation's State of Readiness
Sterling Financial Corporation is committed to ensuring that the daily
operations suffer little or no impact from the century date change. Sterling
Financial Corporation has applied due diligence throughout the Y2K process,
following the guidelines contained in the series of Federal Financial
Institutions Examination Council's Interagency Guidelines. These guidelines
include the following five phases:
awareness
assessment
renovation or remediation
testing or validation and
implementation.
Management has initiated an enterprise-wide program to prepare Sterling
Financial Corporation's computer systems and applications for the Year 2000.
Sterling Financial Corporation has developed a comprehensive inventory of:
all mainframe and PC based applications
third-party relationships
environmental (bank vaults, VCRs, security systems, etc.) and
proprietary programs.
This assessment identified 228 systems or processes and 493 proprietary
programs, which could be impacted by the century date change.
The 493 proprietary programs consist of management reporting, interface
programs, and bridge programs. As of June 30, 1999, Sterling Financial
Corporation has remediated 493 or 100% of these programs.
In January of 1997, Sterling Financial Corporation began converting its
computer systems to be Year 2000 ready. As of June 30, 1999, approximately 97%
of Sterling Financial Corporation's systems were ready, with all systems
expected to be ready by September 30, 1999.
Vendor Type Total # # Y2K Ready % Y2K Ready
PC Based Applications 128 115 90%
Mainframe Applicatio 48 46 96%
Third-Party Relationships 27 23 85%
Environmental 25 24 96%
Proprietary Programs 493 493 100%
Total 721 701 97%
Sterling Financial Corporation has acquired its core mission-critical
systems from a highly regarded third-party vendor. Thus, even though Sterling
Financial Corporation does not have direct control over the renovation process,
it is monitoring the progress of its third-party vendors to assess the status of
their Y2K readiness efforts. However, because most computer systems are, by
their very nature, independent, it is possible that noncompliant third-party
computers could impact Sterling Financial Corporation's computer systems.
Sterling Financial Corporation could be adversely affected by the Y2K problem if
it or unrelated parties fail to successfully address the problem. Steps have
been taken to communicate with the unrelated parties with whom it deals to
coordinate Year 2000 readiness. Additionally, we are dependent on external
suppliers, such as, wire transfer systems, telephone systems, electric
companies, and other utility companies for continuation of service. Sterling
Financial Corporation is also assessing the impact, if any, the century date
change may have on its credit risk. The Corporation has contacting its large
commercial loan customers concerning their level of readiness for Year 2000.
Formal communications have been initiated with all of its vendors and large
commercial customers to determine the extent to which Sterling Financial
Corporation is vulnerable to those third-parties' failure to remedy their own
Year 2000 issues. The Y2K Project Manager has available each vendors' Y2K
readiness efforts which includes their remediation plan, renovation approach,
testing methodologies and target dates.
A comprehensive testing plan has been developed. Sterling Financial
Corporation has prioritized all mainframe and PC based applications, third-party
relationships, environmental and proprietary programs to be tested. Separate
environments for testing have been defined and established. Beginning in the
fourth quarter of 1998, Sterling Financial Corporation performed a variety of
testing to include limited unit testing (aging dates forward on files), system
testing (advancing the computer system date forward) and combined system
integration (running applications dependent on each other together with the
data files aged and computer system date advanced forward) and acceptance
testing (user review and validation). Test scripts have been written which
define the type of testing to be performed, the resources necessary to perform
the test, the transactions or files to be processed, and expected results for
each type of testing performed. Additionally, a testing validation,
certification and reporting process has been established.
Costs of Year 2000
As of June 30, 1999, $298,592 has been expended as Year 2000 costs.
Management expects to spend a total of $343,861 for the entire project. The
estimated Year 2000 project costs include the costs and time associated with the
impact of third-parties' Year 2000 issues, and are based on presently available
information. The total cost of the project is being funded through operating
cash flows. Sterling Financial Corporation continues to evaluate appropriate
courses of corrective action, including replacement of certain systems whose
associated costs would be recorded as assets and amortized. Accordingly,
Sterling Financial Corporation does not expect the amounts required to be
expensed over the next 6 months to have a material effect on the financial
position or results of operations. However, if readiness is not achieved in a
timely manner by Sterling Financial Corporation or any of its significant
related third-parties, be it a supplier of services or customer, the Y2K issue
could possibly have a material effect on Sterling Financial Corporation's
operations and financial position.
The cost of the projects and the date on which Sterling Financial
Corporation plans to complete both Year 2000 modifications and systems
conversions are based on management's best estimates, which were derived
utilizing numerous assumptions of future events including the continued
availability of certain resources, third-party modification plans and other
factors. However, there can be no guarantee that these estimates will be
achieved and actual results could differ materially from those plans. Specific
factors that might cause such material differences include, but are not limited
to, the availability and cost of personnel trained in this area, the ability to
locate and correct all relevant computer codes, and similar uncertainties.
Risks of Year 2000
At present, management believes it's progress in remediating the
proprietary programs and installing Y2K upgrades to the third-party vendor
mainframe and PC based computer applications is on target. The Year 2000
computer problem creates risk for Sterling Financial Corporation from unforseen
problems in its own computer systems and from third-party vendors who provide
the majority of Sterling Financial Corporation's mainframe and PC based computer
applications. Failures of third-party systems relative to the Y2K issue could
have a material impact on Sterling Financial Corporation's ability to conduct
business.
Continency Plans
A contingency plan has been developed for mission-critical and required
mainframe and PC based applications, third-party relationships, environmental
and proprietary programs. Sterling Financial Corporation's contingency plans
involve the use of manual labor and replacement or update of computer systems to
compensate for the loss or inconveniences caused by the disruption of certain
automated computer systems. The contingency plans define scheduled completion
dates, test dates and trigger dates. The trigger date being the date Sterling
Financial Corporation would implement the continency plan.
A detailed business resumption contingency plan was completed as of June
30, 1999. This detailed business resumption contingency plan calculates a risk
factor for each core business line and/or product. Based on the calculated risk
factor, a specific business resumption contingency plan was written and tested.
Sterling Financial Corporation's senior management and Board of Directors
approved this Year 2000 Contingency Plan in July of 1999. Management believes
that the approach and recovery scenarios are realistic options that will meet
the requirements of the institution and the market we serve.
Management has focused this plan on the mission critical business processes
and associated systems. Management believes that Sterling Financial Corporation
does not have the resources to address every potential failure scenario in every
process or system. Any specific systems not addressed in this contingency plan
will be addressed on a case-by-case basis at the time of failure.
Sterling Financial Corporation's management is firmly committed to testing
as many systems as possible by year-end 1999. Management believes that the best
contingency plan is a thorough and well-executed test.
Results of Operations
The following discussion analyzes the specific components affecting the
changes in net income for the periods analyzed.
Three months ended June 30, 1999 compared to three months ended June 30, 1998
Net income for the second quarter of 1999 amounted to $3,531,105 compared
to $3,398,982 for the second quarter of 1998. This represents an increase of
$132,123, or 3.9%. On a per share basis, basic earnings per share was $.50
compared to $.48, while diluted was $.49 compared to $.47 in 1998.
Total interest income increased $153,353, or .9%, while total interest
expense decreased $447,632 or 5.9%. Therefore, the interest differential
increased $600,985. Although loans increased, the rate charged on loans
decreased during this period of time which resulted in a decrease of $96,887
interest and fees on loans. Interest on deposit with banks increased $7,558.
Interest on federal funds sold decreased $94,679 as a result of decreased
volumes. Income on investment securities increased $337,361 as a result of
increased volumes.
Total interest expense amounted to $7,139,272 compared to $7,586,904.
This represents a decrease of 447,632, or 5.9% Interest paid on time
certificates of deposits of $100,000 or more decreased $132,878, while interest
paid on all other deposits decreased $346,465. Interest bearing deposits
increased over $28.9 million from the same period in 1998. However, lower
interest rates generated a decrease in interest expense on these deposits.
Interest expense on other interest bearing liabilities increased $31,711
primarily as a result of increased volumes in this category of liabilities.
The provision for possible loan losses decreased $273,500 from a charge of
$361,000 in 1998 to $87,500 in 1999. The provision reflects the amount deemed
appropriate by management to provide an adequate reserve to met the present and
foreseeable risk characteristics of the loan portfolio.
Total other operating income decreased $614,327 during this period of time
compared to 1998. Included in total other operating income in 1998 was a one-
time earnings gain of $1,200,000 as a result of the sale of the Bank of
Lancaster County's credit card portfolio. Income from fiduciary activities
increased $94,846, or over 20%. Service charges on deposit accounts increased
$80,205 while other various service charges increased $62,557. Mortgage banking
income decreased $156,698 as a result of decreased volumes of originations and
subsequent sales. Other operating income increased $179,191, or 15.7%. Also
reflected in total other operating income in 1999 is a gain of $325,572 on
securities sold.
Total other operating expenses rose $283,360, or 3.3% over the same period
last year. Salaries and employee benefits reflect a decrease of $188,214. Net
occupancy expense decreased $43,261, while furniture and equipment expense
increased $33,153 during this period of time. The expense of FDIC insurance
coverage increased $4,857. Other operating expenses increased $476,825. The
expense related to the acquisition of Northeast Bancorp, Inc. by Sterling
Financial Corporation is reflected in the increase over 1998. Also contributing
to the increase in 1999 was increases in professional services, postage,
telephone expense and Pennsylvania Shares Tax. The remaining increase during
1999 was due to the normal increases in expenses related to the overall growth
of Sterling Financial Corporation.
Applicable income taxes decreased $155,325 due in part to a decrease in
taxable income. The effective tax rate was 24.7% for the second quarter of 1999
compared to 27.9% for 1998.
Six months ended June 30, 1999 compared to six months ended June 30, 1998
Net Income increased from $6,420,570 in June 30, 1998 to $6,772,022 in
June 30, 1998. This represents an increase of $351,452, or 5.5%. On a per
share basis, basic earnings per share was $.95 in 1999 compared to $.90 in
1998. Diluted earnings per share was $.95 in 1999 compared to $.89 in 1998.
Return on assets was 1.35% while the return on equity was 15.70%.
Total interest income increased $373,595, or 1.1%. Earning assets
increased over $45 million, or 6.6%, during this time. Loans increased over $40
million, while securities increased nearly $26 million. Federal funds sold
decreased over $20 million during this period of time. Increased volumes
generated the increase in interest income. Although loans increased, rates
charged on loans decreased during this period of time which resulted in a
decrease of $259,825. Interest on deposits in banks increased $14,145 while
interest on federal funds decrease $142,996. Interest on investment securities
increased $762,271 during this period of time.
Total interest expense amounted to $14,297,452 reflecting a decrease
$653,454 from the $14,950,906 reported in 1998. Interest-bearing deposits
increased over $28.9 from June 30, 1998 to June 30, 1999. Although there were
increased volumes in deposits, lower interest rates generated a decrease of
$674,665 in interest expense on these deposits. Interest paid on other
interest-bearing liabilities increased $21,211 primarily as a result of
increased volumes.
The provision for possible loan loss decreased $496,000 in 1999 over 1998.
The provision for loan losses is based upon the monthly review of the loan
portfolio and reflects the amount deemed appropriate by management to provide an
adequate reserve to meet the present and foreseeable risk characteristics of the
loan portfolio.
Total other operating income decreased $257,026 during the first six
months of 1999 over the same period in 1998. Income from fiduciary activities
increased $180,907, or 19.2%. Services charges on deposit account increased
$96,471 while other various services charges increased $78,832. Mortgage
banking income decreased $233,866. Included in total other operating income in
1998 was a one-time gain of $1,200,000 as a result of the sale of the Bank of
Lancaster County's credit card portfolio. Other operating income increased
$294,910, over 13% from the amount reported in 1998. Gains on securities
transactions amounted to $525,720 in 1999 while there were none in 1998.
Total other operating expenses rose $1,034,190, or 6.4% over the same
period last year. Increases of $181,918 in salaries and employee benefits,
$64,888 in occupancy and furniture and equipment expense, $6,408 in FDIC
insurance and $780,976 in other operating expenses constitute the total
increase. The expenses related to the acquisition of Northeast Bancorp, Inc.,
by Sterling Financial Corporation is reflected in the increase over 1998. Also
contributing to the increase in 1999 was increases in professional services,
Pennsylvania Shares Tax, postage, telephone expense, MAC fees and education and
training expense. The remaining increase during 1999 was due to the normal
increases in expenses related to the overall growth of Sterling Financial
Corporation.
Applicable income taxes amounted to $2,222,669 in 1999 compared to
$2,342,288 in 1998.The effective tax rate was 24.7% and 26.7% respectively for
1999 and 1998.
Three Months ended June 30, 1999 compared to three months ended March 31, 1999
Net income increased $290,188, or 9%, in the second quarter of 1999 over
the first quarter of 1999. Net income for the three months ended June 30, 1999
was $3,531,105 compared to $3,240,917 for the three months ended March 31,
1999. Basic earning per share was $.50 for the second quarter of 1999
compared to $.45 for the first quarter of 1999. Diluted earnings per
share was $.49 for the second quarter compared to $.46 for the
first quarter. Return on average assets was 1.39% for the second quarter
of 1999 compared to 1.31% for the first quarter
of 1999. Return on average stockholder's equity was 16.20% for the second
quarter of 1999 compared to 15.18% for the first quarter of 1999.
Total interest income increased $356,905, or 2.2%, while total interest
expense decreased $18,908. This resulted in an increase in net interest income
of $375,813. Earning assets increased over $16 million while interest-bearing
liabilities increased $14 million. Although there were increased volumes in
interest-bearing liabilities, lower rates paid on these labilities generated the
decrease in interest expense.
The loan loss provision decreased $65,000 over the first quarter of 1999.
Total other operating income increased $147,814, or 3.9%, over the first
quarter. Categories of other operating income reflecting increases were:
service charges on deposit accounts, $91,914; other service charges, $83,719;
other operating income, $104,429 and gains on securities transactions,
$125,424. Income from fiduciary activities decreased $6,195
while mortgage banking income decreased $251,477.
Total operating expenses increased $204,034 overt the first quarter of
1999. There was a decrease of $150,585 in salaries and employee benefits,
$61,995 in net occupancy expense, $3,441 in furniture and equipment expense,
while FDIC insurance increase 4,138 and other expenses increased $415,917. The
major contributor to the increase in other expenses was the expenses related to
the acquisition of Northeast Bancorp., Inc. by Sterling Financial Corporation
that was consummated on June 15, 1999.
Applicable income taxes increased $94,405 over the first quarter as a
result of an increase in taxable income.
Part I - Financial Information
Quantitative and Qualitative Disclosures About Market Risk
Discussion of Market Risk and Interest Rate Sensitivity
As a financial institution, the primary component of Sterling Financial
Corporation's market risk is interest rate volatility. Changes in interest
rates will ultimately impact Sterling financial Corporation's interest income
from earning assets and the interest expense from funding sources, deposits and
debt.
Based upon Sterling Financial Corporation's nature of operations, it is not
subject to foreign currency exchange or commodity price risk. Sterling
Financial Corporation's market area for loans and deposits is concentrated in
Lancaster County, Pennsylvania and Cecil County, Maryland and as such is subject
to risks associated with the local economy in those market areas. Sterling
Financial Corporation does not own any trading assets. Sterling Financial
Corporation does not have any hedging transactions in place such as interest
rate swaps and caps.
Management endeavors to control the exposure of earnings to changes in
interest rates. Sterling Financial Corporation's asset/liability committee
reviews interest rate risk by various means including "Gap" management and
internally developed models and reports. The Bank of Lancaster County also
utilizes Sheshunoff Interest Rate Risk management services and IBAA investment
portfolio valuation services to enhance risk exposure review. Interest
repricing of assets and liabilities is measured over future time periods,
interest rate sensitivity gaps. While all time gaps are measured, management's
primary focus is the cumulative gap through one year, as this time frame
directly impacts net interest income in the near term time horizon and is most
difficult to make reactive adjustment to actual rate movements.
Sterling Financial Corporation has various investments structured to change
investment yield with current market conditions. Assets subject to repricing
include federal funds sold (repricing daily), loans floating to "treasury bill"
indexes (repricing monthly) and loans tied to "prime" or other indexes subject
to immediate change. Other factors effecting income are maturing and contracted
repayments and prepayments of existing loans and investments. These cash flows
will be re-invested at current market yields.
Sterling Financial Corporation's funding liabilities, customer deposits and
borrowed funds, have more complex repricing characteristics, since interest
bearing deposits are subject to rate change but are not specifically indexed to
"prime" or "treasury" indexes. Time certificates and borrowed money are subject
to interest rate change at maturity. Sterling Financial Corporation deposit
funding is essentially comprised of "core" deposits that have been historically
loyal and stable, and these deposits, with the exception of certificates of
deposit, have not been rate sensitive. All interest rates do not move in full
and equal amounts for loans and deposits. Deposit rates historically lag loans
in rate movement, and rate movement occurs to a smaller degree for deposits than
loans. Modeling is used to forecast projected impact to the net interest margin
as a result of rate movements, either increasing or decreasing. Historic
pricing correlations are calculated for all interest-bearing deposit products
for rate change repricing impact as - immediate, monthly, and annually over a
five year time period. Management's view of interest rate sensitivity reflects
a calculated interpretation of net interest margin exposure to rate changes.
Pricing correlations are constantly refined by management. There is no
guarantee that past history will accurately reflect future changes.
Although the make-up of the balance sheet is subject to change from time to
time, management is of the opinion that there have been no material changes in
reported market risks faced by the company since the end of the most recent
fiscal year. Quantitative and qualitative disclosures about market risk was
listed in Part II, Item 7A, of the Form 10-K for the fiscal year ended December
31, 1998.
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings.
As of June 30, 1999, there were no material pending legal proceedings,
other than ordinary routine litigation incidental to business, to which Sterling
Financial Corporation or its subsidiaries are a party or of which any of their
property is the subject.
Item 4 - Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders of Sterling Financial Corporation was
held on April 27, 1999. The following individuals were elected to Sterling
Financial Corporation's Board of Directors to hold office for the terms
specified:
For a Term of One Year
Nominee In Favor Withheld
W. Garth Sprecher 5,137,790 39,445
Nominee In Favor Withheld
Joan R. Henderson 5,128,864 48,371
Calvin G. High 5,139,629 37,606
David E. Hosler 5,127,816 49,419
E. Glenn Nauman 5,138,645 38,590
There are seven continuing directors whose terms office will expire at the
2000 or 2001 Annual Meeting. They are as follows:
Richard H. Albright, Jr. J. Roger Moyer, Jr.
Robert H. Caldwell John E. Stefan
Howard E. Groff, Jr. Glenn R. Walz
J. Robert Hess
The results of the voting on the following additional item was as follows:
Proposal to ratify the selection of Trout, Ebersole & Groff as
Sterling Financial Corporation's independent certified public accountants for
the year ending December 31, 1999.
Votes For Votes Against Abstentions
5,141,348 10,721 25,163
Item 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
21. Subsidiaries of the Registrant
27. Financial Data Schedule
(b) REPORTS ON FORM 8-K
A report on Form 8-K dated June 15, 1999 was filed July 1, 1999
pursuant to Item 5 and Item 7 on Form 8-K filing, as Exhibit
99, a copy of a Sterling Financial Corporation press release
announcing the consummation of the acquisition of Northeast
Bancorp, Inc., a Delaware corporation and a Maryland bank holding
company and its wholly-owned subsidiary, The First National Bank
of North East based in North East, Maryland.
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.
Sterling Financial Corporation
Date: August 13, 1999 By:
John E. Stefan
Chairman of the Board, President
and Chief Executive Officer
Date: August 13, 1999 By:
Jere L. Obetz
Executive Vice President/Treasurer
Chief Financial Officer
EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT
The following are the subsidiaries of Sterling Financial Corporation:
Subsidiary State of Incorporation or Organization
Bank of Lancaster County, N.A. Pennsylvania (National Banking Association)
1 East Main Street
P.O. Box 0300
Strasburg, PA 17579
Town & Country, Inc. (Wholly-owned Pennsylvania
Subsidiary of Bank of Lancaster
County, N.A.)
1097 Commercial Avenue
East Petersburg, PA 17520
T & C Leasing, Inc. Pennsylvania
1097 Commercial Avenue
East Petersburg, PA 17520
Northeast Bancorp, Inc. Delaware
14 S. Main Street
North East, Maryland 21901
The First National Bank of North East Maryland
(Wholly-owned Subsidiary of Northeast
Bancorp, Inc.)
14 S. Main Street
North East, Maryland 21901
Sterling Mortgage Services, Inc. Pennsylvania
101 North Point Boulevard
Lancaster, PA 17601-4133
(Presently inactive)
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