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, 2000
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, $5.00 Par Value-8,934,568 shares outstanding as of July 26,
2000.
Sterling Financial Corporation and Subsidiaries
Index
PART I - FINANCIAL INFORMATION Page
Item 1 - Financial Statements (Unaudited)
Consolidated Balance Sheets
as of June 30, 2000 and December 31, 1999. 3
Consolidated Statements of Income
for the Three Months and Six Months ended
June 30, 2000 and 1999. 4
Consolidated Statements of Comprehensive Income
for the Three Months and Six Months ended
June 30, 2000 and 1999. 4
Consolidated Statements of Cash Flows
for the Six Months ended
June 30, 2000 and 1999. 5
Notes to Consolidated Financial
Statements. 6
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
Item 3 - Quantitative and Qualitative Disclosure about Market Risk 19
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings 19
Item 2 - Changes in Securities and Use of Proceeds 19
Item 3 - Defaults Upon Senior Securities 20
Item 4 - Submission of Matters to a Vote of Securities Holders 20
Item 5 - Other Information 21
Item 6 - Exhibits and Reports on Form 8-K 21
Signature Page 22
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Part I - Financial Information
STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets (Unaudited)
June 30, December 31,
(Dollars in thousands) 2000 1999
<S> <C> <C>
Assets
Cash and due from banks..........................................$ 36,261 $ 47,674
Federal funds sold................................................ 13,357 5,250
--------- ---------
Cash and cash equivalents....................................... 49,618 52,924
Interest-bearing deposits in banks................................ 1,500 1,009
Mortgage loans held for sale...................................... 142 836
Securities held-to-maturity(fair value 2000-$48,969;1999-$52,099). 49,256 52,392
Securities available-for-sale..................................... 209,627 207,183
Loans, net of allowance for loan losses 2000-$8,248; 1999-$8,174.. 704,614 654,834
Assets held for operating leases, net............................. 53,442 47,639
Premises and equipment, net....................................... 23,629 23,675
Other real estate owned........................................... 186 163
Accrued interest receivable....................................... 7,016 6,847
Other assets...................................................... 12,928 11,872
--------- ---------
Total assets.....................................................$1,111,958 $1,059,374
========= =========
Liabilities
Deposits:
Noninterest-bearing............................................$ 126,615 $ 118,394
Interest-bearing................................................ 814,878 774,038
--------- ---------
Total deposits................................................ 941,493 892,432
--------- ---------
Short-term borrowings................................ ............ 22,844 25,000
Long-term debt.................................................... 36,613 34,291
Accrued interest payable.......................................... 5,295 4,700
Other liabilities................................................. 12,215 12,933
--------- ---------
Total liabilities.................................................1,018,460 969,356
--------- ---------
Stockholders' equity
Common Stock -($5.00 par value)................................... 44,674 44,674
No. shares authorized: 2000 and 1999 - 35,000,000
No. shares issued: 2000 - 8,934,788; 1999 - 8,934,788
No. shares outstanding: 2000 - 8,931,568; 1999 - 8,931,568
Capital surplus................................................... 14,461 14,461
Retained earnings................................................. 36,479 32,432
Accumulated other comprehensive income (loss)..................... (2,015) (1,448)
Common stock in treasury, at cost (2000 - 3,220; 1999 - 3,220).... (101) (101)
--------- ---------
Total stockholders' equity........................................ 93,498 90,018
--------- ---------
Total liabilities and stockholders' equity.......................$1,111,958 $1,059,374
========= =========
The accompanying notes are an integral part of these consolidated financial statements.
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<CAPTION>
STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Income (Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
(Dollars in thousands, except per share data) 2000 1999 2000 1999
<S> <C> <C> <C> <C>
Interest and dividend income
Loans, including fees................................$ 14,433 $ 12,755 $ 28,227 $ 25,203
Debt securities
Taxable.......................................... 2,632 2,605 5,254 5,133
Tax-exempt....................................... 1,097 1,006 2,162 1,957
Dividends............................................ 74 65 149 131
Federal funds sold................................... 216 181 430 447
Deposits in other banks.............................. 25 34 68 70
--------- --------- -------- --------
Total interest and dividend income.............. 18,477 16,646 36,290 32,941
Interest expense --------- --------- -------- --------
Deposits............................................. 7,867 6,590 15,201 13,237
Short-term borrowings................................ 430 33 794 61
Long-term debt....................................... 530 517 1,018 1,000
--------- --------- -------- --------
Total interest expense.......................... 8,827 7,140 17,013 14,298
--------- --------- -------- --------
Net interest income.................................. 9,650 9,506 19,277 18,643
--------- --------- -------- --------
Provision for loan losses............................ 49 87 99 240
--------- --------- -------- --------
Net interest income after
provision for loan losses..................... 9,601 9,419 19,178 18,403
Noninterest income --------- --------- -------- --------
Income from fiduciary activities..................... 668 558 1,350 1,121
Service charges on deposit accounts.................. 838 873 1,669 1,654
Other service charges, commissions and fees.......... 672 559 1,214 1,033
Mortgage banking income.............................. 127 318 245 888
Rental income on operating leases.................... 5,456 4,419 10,724 8,701
Gain on sale of real estate.......................... 343 0 343 0
Other operating income............................... 368 315 648 589
Securities gains..................................... 150 326 300 526
--------- --------- -------- --------
Total noninterest income........................ 8,622 7,368 16,493 14,512
Noninterest expenses --------- --------- -------- --------
Salaries and employee benefits....................... 4,831 4,611 9,631 9,365
Net occupancy........................................ 552 523 1,207 1,115
Furniture and equipment.............................. 780 785 1,539 1,574
Professional services................................ 396 313 770 579
Depreciation on operating lease assets............... 4,301 3,488 8,466 6,899
Merger related costs................................. 0 334 0 409
Other................................................ 2,145 1,962 4,086 3,802
--------- --------- -------- --------
Total noninterest expenses..................... 13,005 12,016 25,699 23,743
--------- --------- -------- --------
Income before income taxes........................... 5,218 4,771 9,972 9,172
Income tax expense................................... 1,383 1,207 2,620 2,324
--------- --------- -------- --------
Net income...........................................$ 3,835 $ 3,564 7,352 6,848
Per share information: ========= ========= ======== ========
Basic and diluted earnings per share................$ .43 $ .40 $ .82 $ .77
Dividends declared..................................$ .185 $ .176 .37 .352
Other Comprehensive Income
Net income...........................................$ 3,835 $ 3,564 $ 7,352 $ 6,848
--------- --------- -------- --------
Other comprehensive income, net of tax
Unrealized gains (losses) on securities available
for sale arising during the period................. 142 (2,435) (372) (3,616)
Reclassification adjustment for gains included in
net income......................................... (98) (212) (195) (342)
--------- -------- -------- --------
Other comprehensive income.......................... 44 (2,647) (567) (3,958)
--------- -------- -------- --------
COMPREHENSIVE INCOME.................................$ 3,879 $ 917 $ 6,785 $ 2,890
========= ======== ======== ========
The accompanying notes are an integral part of these consolidated financial statements.
</TABLE>
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STERLING FINANCIAL CORPORATION
Consolidated Statements of Cash Flows (Unaudited)
Six Months Ended
(Dollars in thousands) June 30,
<S> <C> <C>
Cash Flows from Operating Activities 2000 1999
Net income..............................................$ 7,352 $ 6,848
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation.......................................... 9,666 8,116
Accretion and amortization of investment securities... 211 319
Provision for loan losses............................. 99 240
(Gain) on sale of property and equipment.............. (366) (2)
(Gain) on sales of securities available-for-sale...... (300) (526)
(Gain) on sale of mortgage loans...................... (41) (303)
Proceeds from sales of mortgage loans................. 8,416 43,117
Origination of mortgage loans held for sale........... (7,681) (38,464)
Change in operating assets and liabilities:
(Increase) decrease in accrued interest receivable
and other assets.................................... (1,136) (2,500)
Increase in accrued interest payable................. 595 (314)
Increase (decrease) in other liabilities............. (411) (1,342)
Net cash provided by operating activities............. 16,404 15,189
Cash Flows from Investing Activities
Proceeds from interest-bearing deposits in other banks.. 684 3,280
Purchase of interest-bearing deposits in other banks.... (1,175) (304)
Proceeds from sales of securities available-for-sale.... 301 539
Proceeds from maturities or calls of securities
held-to-maturity..................................... 3,638 8,055
Proceeds from maturities or calls of securities
available-for-sale................................... 15,297 13,067
Purchases of securities held-to-maturity................ (526) (1,208)
Purchases of securities available-for-sale.............. (18,803) (37,685)
Net loans and direct finance leases made to customers... (49,991) (37,756)
Purchases of equipment acquired for operating leases,net (14,269) (12,185)
Purchases of premises and equipment..................... (1,579) (781)
Proceeds from sale of premises and equipment............ 791 19
Net cash used by investing activities............... (65,632) (64,959)
Cash Flows from Financing Activities
Net increase (decrease) in demand deposits, NOW
and savings accounts................................... 18,474 7,132
Net increase in time deposits........................... 30,587 10,418
Net increase (decrease) in short-term borrowings........ (2,156) 3,442
Proceeds from issuance of long-term debt................ 11,501 24,300
Repayments of long-term debt............................ (9,179) (15,272)
Cash dividends ......................................... (3,305) (3,070)
Proceeds from issuance of treasury stock................ 0 296
Net cash provided by/(used by) financing activities.. 45,922 27,246
Net change in cash and cash equivalents................. (3,306) (22,524)
Cash and cash equivalents:
Beginning of period..................................... 52,924 70,546
End of period...........................................$ 49,618 $ 48,022
========== ========
Supplemental Schedule of Noncash Investing and
Financing Activities:
Other real estate acquired in settlement of loans........$ 112 $ 171
Supplemental Disclosure of Cash Flow Information:
Cash payments for:
Interest to depositors and on borrowed money...........$ 16,418 $ 14,612
Income taxes........................................... 2,090 1,780
The accompanying notes are an integral part of these consolidated financial statements.
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STERLING FINANCIAL CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (Unaudited)
Note 1 - Summary of Significant Accounting Policies
Basis of Presentation - The accompanying unaudited consolidated financial
statements of Sterling Financial Corporation and subsidiaries have been
prepared in accordance with generally accepted accounting principles for
interim financial information and instructions to Form 10-Q and Article 10 of
Regulation S-X. 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 three months and six months ended June 30, 2000
are not necessarily indicative of the results that may be expected for the year
ended December 31, 2000.
For further information, refer to the audited consolidated financial
statements, footnotes thereto, included in the Annual Report on Form 10-K, as
amended, 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 and Country, Inc., T&C
Leasing, Inc., Northeast Bancorp, Inc. and its subsidiary, The First National
Bank of North East and Sterling Mortgage Services, Inc. (inactive). All
significant intercompany transactions are eliminated in consolidation.
Earnings Per Common Share - Basic earnings per share represents income
available to common stockholders divided by the weighted-average number of
common shares outstanding during the period. Diluted earnings per share
reflects additional common shares that would have been outstanding if dilutive
potential common shares had been issued, as well as any adjustment to income
that would result from the assumed issuance. Potential common shares that may
be issued by Sterling consist solely of outstanding stock options, and are
determined using the treasury stock method.
Earnings per common share for the three months and six months ended June
30, 2000 and 1999 have been computed based on the following (dollars in
thousands):
Three Months Ended Six Months Ended
June 30, June 30,
2000 1999 2000 1999
Net income available to
stockholders $ 3,835 $ 3,564 $ 7,352 $ 6,848
========== ========== ========== ==========
Average number of shares
outstanding 8,931,568 8,904,779 8,931,568 8,905,844
Effect of dilutive stock
options --- 16,342 2,060 16,497
---------- ---------- ---------- ----------
Average number of shares
outstanding used to
calculate diluted earnings
per share 8,931,568 8,921,121 8,933,628 8,922,341
========== ========== ========== ==========
Earnings per share:
Basic $ .43 $ .40 $ .82 $ .77
Diluted .43 .40 .82 .77
Reclassifications - Certain items in the 1999 consolidated financial
statements have been reclassified to conform with 2000 presentation format.
Recently Issued Accounting Guidance - In March 2000, the Financial
Accounting Standards Board issued FASB Interpretation No. 44, Accounting for
Certain Transactions involving Stock Compensation, an Interpretation of APB
Opinion No. 25. The Interpretation provides clarification on stock option
repricings, modifications to extend the term, modifications to accelerate
vesting, and other matters. Sterling has adopted the provisions prospectively
as of July 1, 2000 with no impact on earnings or stockholders' equity.
Note 2 - Restatement
Management regularly reviews its accounting policies to ensure conformity
with generally accepted accounting principles, including recent pronouncements
by the AICPA and SEC with respect to audit differences and materiality. Upon
completion of this review in the fourth quarter of 1999 in connection with the
year-end closing process, management determined that appropriate consideration
had not previously been given with respect to origination costs for loans and
leases, investments in affordable housing projects, director deferred
compensation arrangements and income taxes. Sterling's management elected to
adjust these items previously considered as not having a material effect on the
financial statements.
The impact of the restatements was a $645,000 reduction of June 30, 1999
stockholders' equity from amounts previously presented and a $33,000 and
$76,000 increase in net income for the three-months and six-months ended June
30, 1999. This resulted in no impact on earnings per share for the three-months
ended June 30, 1999, and an increase in earnings per share of $.01 for
the six months ended June 30, 1999.
Note 3 - Subsequent Event - Merger
On July 27, 2000, Sterling announced the consummation of the merger with
Hanover Bancorp, Inc., parent company of Bank of Hanover & Trust Company,
headquartered in Hanover, Pennsylvania. Shareholders of Sterling and Hanover
approved the merger on June 13 and June 14, 2000, respectively. Shareholders
of Hanover Bancorp, Inc. will receive .93 shares of common stock of Sterling
for each share of Hanover common stock. A total of 3,611,923 shares of common
stock will be issued by Sterling in connection with the transaction. This
transaction will be accounted for under the pooling-of-interests method.
The following table provides a summary of consolidated operating results
and financial condition on a proforma basis as of and for the six months ended
June 30, 2000 (in thousands):
Sterling Sterling
(As reported) Hanover (Proforma)
Net interest income $ 19,277 $ 8,180 $ 27,457
Net income 7,352 2,312 9,664
Total assets 1,111,958 535,684 1,647,642
Total stockholders' equity 93,498 33,012 126,510
Note 4 - Segment Information
Sterling has adopted the provisions of SFAS No. 131, Disclosures About
Segments of an Enterprise and Related Information. Statement No. 131
established standards for the way that public business enterprises report
information about operating segments in interim financial reports. This
standard introduces the "management approach" model, which focuses on the
manner in which the chief decision makers organize segments within a
corporation for making operating decisions and assessing performance.
Statement No. 131 also establishes standards for related disclosures about
products and services, geographic areas and major customers.
Sterling's chief decision makers continue to assess performance and make
operating decisions based on two operating segments. These segments include 1)
providing community banking and related financial services to consumers,
businesses and governmental units in Lancaster County, PA, Cecil County, MD and
surrounding counties, and also includes corporate-related activities; and 2)
providing vehicle and equipment financing alternatives to businesses primarily
located in Pennsylvania, although assets are located throughout the United
States.
Condensed financial information of Sterling's two segments and a
reconciliation of such information to the consolidated financial statements as
of and for the three months and six months ended June 30 is as follows (in
thousands):
Community
Banking and
Related Intersegment Consolidated
Services Leasing Eliminations Totals
Three months ended June 30, 2000
Interest and dividend income $ 17,961 $ 1,642 $ (1,126) $ 18,477
Interest expense 8,076 1,877 (1,126) 8,827
Provision for loan losses 19 30 --- 49
Noninterest income 3,002 5,620 --- 8,622
Noninterest expenses 8,015 4,990 --- 13,005
Income before income taxes 4,853 365 --- 5,218
Income tax expense 1,230 153 --- 1,383
Net income 3,623 212 --- 3,835
Three months ended June 30, 1999
Interest and dividend income $ 16,206 $ 1,488 $ (1,048) $ 16,646
Interest expense 6,643 1,545 (1,048) 7,140
Provision for loan losses 65 22 --- 87
Noninterest income 2,837 4,531 --- 7,368
Noninterest expenses 7,752 4,264 --- 12,016
Income before income taxes 4,583 188 --- 4,771
Income tax expense 1,090 117 --- 1,207
Net income 3,493 71 --- 3,564
Six months ended June 30, 2000
Interest and dividend income $ 35,165 $ 3,246 $ (2,121) $ 36,290
Interest expense 15,480 3,654 (2,121) 17,013
Provision for loan losses 39 60 --- 99
Noninterest income 5,494 10,999 --- 16,493
Noninterest expenses 15,874 9,825 --- 25,699
Income before income taxes 9,266 706 --- 9,972
Income tax expense 2,324 296 --- 2,620
Net income 6,942 410 --- 7,352
Assets 1,050,167 132,143 (70,352) 1,111,958
Six months ended June 30, 1999
Interest and dividend income $ 32,093 $ 2,879 $ (2,031) $ 32,941
Interest expense 13,344 2,985 (2,031) 14,298
Provision for loan losses 195 45 --- 240
Noninterest income 5,554 8,958 --- 14,512
Noninterest expenses 15,452 8,291 --- 23,743
Income before income taxes 8,656 516 --- 9,172
Income tax expense 2,084 240 --- 2,324
Net income 6,572 276 --- 6,848
Assets 968,293 111,167 (55,265) 1,024,195
Item 2 - Management's Discussion and Analysis of Financial Condition and
Results of Operations
The management of Sterling Financial Corporation has made forward-looking
statements in this Quarterly Report on Form 10-Q. These forward-looking
statements are subject to certain risks and uncertainties. Forward-looking
statements include the information concerning possible or assumed future
results of operations of Sterling Financial Corporation and its subsidiaries,
Bank of Lancaster County, N.A., Northeast Bancorp, Inc., The First National
Bank of North East, Town & Country, Inc., T & C Leasing, Inc. and Sterling
Mortgage Services, Inc. When words such as "believes", "expects",
"anticipates" or similar expressions occur in this quarterly report, management
is making forward-looking statements.
Shareholders should note that many factors, some of which are discussed
elsewhere in this report, could affect the future financial results of Sterling
Financial Corporation and it subsidiaries, both individually and collectively,
and could cause those results to differ materially from those expressed in the
forward-looking statements contained in this Quarterly Report on Form 10-Q.
These factors include the following:
operating, legal and regulatory risks;
economic, political and competitive forces affecting our banking,
securities, asset management and credit service products; and
the risk that our analysis of these risks and forces could be
incorrect and/or that the strategies developed to address them
could be unsuccessful; and
the success of the July 27, 2000 acquisition of Hanover Bancorp, Inc.
Sterling undertakes no obligation to publicly revise or update these
forward-looking statements to reflect events or circumstances that arise after
the date of this report. Readers should carefully review the risk factors
described in other documents Sterling files periodically with the Securities
and Exchange Commission, including Quarterly Reports on Form 10-Q, the Annual
Report on Form 10-K to be filed by Sterling Financial Corporation, and any
Current Reports on Form 8-K.
RESULTS OF OPERATIONS
Three months ended June 30, 2000 compared to three months ended June 30, 1999
Overview
Net income for the quarter ended June 30, 2000 was $3,835,000 compared to
$3,564,000 in 1999, an increase of $271,000 or 7.6%. Basic and diluted
earnings per share was $.43 for the second quarter of 2000 which is an increase
of $.03 or 7.5% from $.40 for the same quarter in 1999. These earnings
resulted in a return on average assets of 1.40% compared to 1.41% for the same
quarter in 1999. The return on average realized equity was 16.26% for the
second quarter of 2000, versus 16.45% for the same period last year.
Net Interest Income
The primary component of Sterling's revenue is net interest income, which
is the difference between interest and fees on interest earning assets and
interest accrued on deposits and borrowed funds. Interest income totaled
$18,477,000 for the quarter ended June 30, 2000 compared to $16,646,000 for the
same period 1999. This represents an increase of $1,831,000 or 11.0%. This
increase in interest income was a result of an approximate 9.5% increase in
interest earning assets combined with a modest increase in the yield earned on
those assets. Contributing to the increase in the yield was generally higher
interest rates in the second quarter of 2000 as well as a shift in the
composition of interest earning assets.
Interest expense amounted to $8,827,000 for the quarter ended June 30,
2000 which was an increase of $1,687,000, or 23.6%, from $7,140,000 reported
for the same period 1999. Interest bearing liabilities totaled $874,335,000 at
June 30, 2000 compared to $797,198,000 at June 30, 1999. Higher interest rates
paid in 2000 along with increased volumes led to the increase in interest
expense.
Provision for Loan Losses
The provision for loan losses decreased $38,000 from $87,000 for the
quarter ended June 30, 1999 to $49,000 in 2000. The provision reflects the
amount deemed appropriate by management to provide an adequate reserve to meet
the present risk characteristics of the loan portfolio.
Noninterest Income
Total noninterest income totaled $8,622,000 for the three months ended
June 30, 2000 compared to $7,368,000 for the same period in 1999. This
represents an increase of $1,254,000 or 17.0% over 1999. Income from fiduciary
activities increased $110,000, or 19.7% over the same period in 1999. Services
charges on deposit accounts decreased $35,000 while other various service
charges increased $113,000.
Mortgage banking income totaled $127,000 for the three months ended June
30, 2000. There was a decrease of $191,000, or 60.1%, from the $318,000 for
the same period in 1999. There has been a significant reduction in mortgage
loan refinancing volume due to increases in fixed interest rates on
conventional mortgage loan products. This increase in rates has contributed
greatly to the decline in mortgage banking income.
Rental income on operating leases has increased from $4,419,000 for the
quarter ended June 30, 1999 to $5,456,000 in 2000. This is an increase of
$1,037,000 or 23.5%. This increase is due primarily to increases in the number
of units under operating leases, which totaled 5,048 as of June 30, 2000,
versus 4,164 at June 30, 1999.
Reflected in noninterest income is $343,000 generated from the gain on the
sale of real estate in Maryland.
Noninterest Expenses
Noninterest expenses totaled $13,005,000 for the quarter ended June 30,
2000, compared to $12,016,000 for the same period in 1999. This represents and
increase of $989,000 or 8.2%.
A major contributor to the increase was depreciation on leased property,
which increased from $3,488,000 in 1999 to $4,301,000 in 2000. This increase
is consistent with the increase noted in rental income on leased property.
Professional services increased $83,000 or 26.5% for the quarter end June
30, 2000 to $396,000. The increase in professional services can be attributed
to Sterling's increased reliance on services outsourced to third parties.
These third parties bring a greater degree of knowledge and experience to the
organization than that which can be obtained internally.
Merger related costs incurred in the second quarter of 1999 totaled
$334,000 and was a direct result of Sterling's acquisition of Northeast
Bancorp, Inc. completed in June 1999. These merger expenses consisted entirely
of attorney, accountant, investment advisory and application fees.
The remaining increase in noninterest expenses is consistent with the
overall growth of Sterling Financial Corporation.
Income Taxes
Income tax expense for the three months ended June 30, 2000 was
$1,383,000, resulting in an effective tax rate of 26.5%, versus 25.3% for 1999.
The primary difference between the effective tax rate and the statutory tax
rate of 35% is primarily due to tax exempt interest income, offset somewhat by
Maryland state income taxes. The increase in the effective tax rate is the
result of a higher percentage of consolidated taxable income being earned in
Maryland, which is subject to a state income tax rate of 7%.
Six months ended June 30, 2000 compared to six months ended June 30, 1999
Overview
Net income increased from $6,848,000 at June 30, 1999 to $7,352,000 at
June 30, 2000. This represents an increase of $504,000, or 7.4%. Basic and
diluted earnings per share was $.82 in 2000, an increase of $.05 or 6.5% from
$.77 for the same period in 1999. These earnings resulted in a return on
average assets of 1.36% and return on average realized equity of 15.75% for the
six months ended June 30, 2000, versus 1.37% and 15.99%, respectively, in the
corresponding period of 1999.
Net Interest Income
The following table summarizes, on a fully taxable equivalent basis, 35%
tax rate, net interest income and net interest margin for the six months ended
June 30, 2000 and 1999:
(Dollars in thousands)
2000 1999
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
Interest earning assets:
Securities, federal funds sold
and short-term investments $275,960 $ 9,227 6.69% $277,159 $ 8,797 6.36%
Loans 684,020 28,633 8.42% 606,668 25,571 8.50%
------- ------ ---- ------- ------ ----
959,980 37,860 7.92% 883,827 34,368 7.82%
------- ------ ---- ------- ------ ----
Interest bearing liabilities:
Deposits 778,553 15,201 3.93% 731,229 13,237 3.65%
Borrowings 55,792 1,812 6.53% 37,064 1,061 5.77%
------- ------ ---- ------- ------ ----
834,345 17,013 4.10% 768,293 14,298 3.75%
------- ------ ---- ------- ------ -----
Interest rate spread 3.82% 4.07%
==== ====
Net interest income/
average earning assets $20,847 4.35% $20,070 4.56%
====== ==== ====== ====
The primary component of Sterling's revenue is net interest income, which
is the difference between interest and fees on interest earning assets and
interest accrued on deposits and borrowed funds. Interest income, on a tax
equivalent basis, totaled $37,860,000 for the six months ended June 30, 2000,
an increase of $3,492,000 from 1999. This increase in interest income was a
result of an 8.6% increase in average interest earning assets combined with an
approximate 10 basis points increase in yield earned on those assets.
Contributing factors to the increase in the yield was generally higher interest
rates in the first six months of 2000 and a shift in the composition of
interest earning assets. Loans increased from 68.6% of total interest earning
assets in 1999 to 71.3% in 2000. Loans generally have higher interest rates
associated with them than securities and short-term investments.
Interest expense amounted to $17,013,000 reflecting an increase of
$2,715,000 from the $14,298,000 reported in 1999. This increase was a result
of a $66,052,000 increase in average interest bearing liabilities and an
increase in rates paid of 35 basis points. Generally higher interest rates
paid in 2000, combined with greater reliance on more costly third party
funding, led to the increase in rates on interest bearing liabilities.
Sterling experienced a decline in its net interest margin as the increase
in rates accrued on interest bearing liabilities out paced the increase in the
yields earned on interest earning assets. Although there can be no assurances,
management believes it will be difficult to maintain its net interest margin at
historical levels. As interest rates rise, the cost of funding sources will
rise. However, we believe it will be difficult to gain similar increases in
yields on interest earning assets due to the competitive nature in which
financial institutions are pricing new credits.
Provision for Loan Losses
The provision for loan losses decreased $141,000 in 2000 over 1999. The
provision for loan losses is based upon the quarterly 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. The decrease in the provision reflects consistency in
asset quality ratios, combined with a reduction in net charge-offs as a percent
of average loans outstanding.
Noninterest Income
Total noninterest income amounted to $16,493,000 at June 30, 2000
reflecting an increase of $1,981,000, or 13.7% from the $14,512,000 reported in
1999. The increase in noninterest income was primarily the result of
management's concerted efforts to continue to grow its noninterest income,
primarily through income generated from the wealth management division and
leasing subsidiaries. These increases were offset by a decline in mortgage
banking revenue.
Income from fiduciary activities increased from $1,121,000 in 1999 to
$1,350,000 in 2000 which represents an increase of 20.4%. This increase was
achieved primarily due to increased transaction volume and growth in assets
under management.
Mortgage banking income totaled $245,000 for the six months ended June 30,
2000, reflecting a decrease of $643,000, or 72.4%, from the same period in
1999. The financial services industry has seen a significant reduction in
mortgage loan refinancing volume, a direct result of increases in fixed
interest rates on conventional mortgage loan products. Sterling experienced
similar declines in mortgage loan origination volume during this period of time
and expect to see similar results throughout the remainder of the year as long
as interest rates remain at the current levels.
Rental income on operating leases has increased 23.3% from $8,701,000 for
the six months ended June 30, 1999 to $10,724,000 in 2000. The increase in
rental income is primarily due to an increase in the number of units under
operating leases, which totaled 5,048 as of June 30, 2000, versus 4,164 at June
30, 1999.
Reflected in noninterest income is $343,000 generated from the sale of
real estate in Maryland.
Noninterest Expenses
Noninterest expenses totaled $25,699,000 for the six months ended June
30, 2000, and increase of $1,956,000 from 1999. The primary contributor to the
increase was depreciation on leased property, which increased 22.7% to
$8,466,000 for the six months ended June 30, 2000 compared to June 30, 1999.
This increase is consistent with the increase noted in rental income on leased
property.
Professional services increased $191,000 or 33.0% for the six months
ended June 30, 2000 to $770,000. The increase in professional services can be
attributed to Sterling's increased reliance on services outsourced to third
parties. These third parties bring a greater degree of knowledge and
experience to the organization than that which can be obtained internally.
Merger related costs during 1999 totaled $409,000 and was a direct result
of Sterling's acquisition of Northeast Bancorp, Inc. completed in June 1999.
These merger expenses consisted entirely of attorney, accountant, investment
advisory and application fees. During the six months ended June 30, 2000,
Sterling Financial Corporation has not recognized any merger related expenses
associated with the Hanover Bancorp, Inc. merger. These amounts will be
expensed in the third quarter of 2000.
The remaining increase in noninterest expenses is consistent with the
overall growth of Sterling Financial Corporation.
Operating expense levels are often measured by the efficiency ratio, which
expresses noninterest expense as a percentage of tax-equivalent net interest
income and total fees and other income. Operating leases significantly impact
Sterling's consolidated efficiency ratio, which tends to drive the ratio higher
than is typically achieved on financial institutions with no similar operating
lease portfolio. In order to effectively monitor the efficiency ratio,
Sterling monitors this ratio on its two significant operating segments:
community banking and related services, and
leasing.
Sterling's efficiency ratio for the community banking segment was 60.8%
for the six months ended June 30, 2000 compared to 59.7% for the same period
1999. The leasing segment's efficiency ratio decreased from 93.7% in 1999 to
92.8% in 2000.
Income Taxes
Income tax expense for the six months ended June 30, 2000 amounted to
$2,620,000 compared to $2,324,000 in 1999. This resulted in an effective tax
rate of 26.3% in 2000, versus 25.3% in 1999. The difference between the
effective tax rate and the statutory tax rate of 35% is primarily due to tax
exempt interest income, offset somewhat by Maryland state income taxes. The
increase in the effective tax rate is the result of a higher percentage of
consolidated taxable income being earned in Maryland, which is subject to a
state income tax rate of 7%.
FINANCIAL CONDITION
Total assets at June 30, 2000 amounted to $1,111,958,000 compared to
$1,024,195,000 at June 30, 1999. This represents an increase of $87,763,000 or
8.6% over that period of time. Total assets at June 30, 2000 increased
$52,584,000 or 5.0% over the $1,059,374,000 reported at December 31, 1999.
Securities
The security portfolio showed a slight decline of $692,000, or .3% for the
six months ended June 30, 2000. Within the security portfolio, Sterling has
continued to shift its investment methodology towards investment in tax-free
securities and away from other corporate bonds. This is due to the fact the
interest rate curve presently makes tax free securities slightly more
attractive. Additionally, there has also been a migration to U. S. government
agency securities versus U. S. treasuries, since these securities have a
slightly better yield. This strategy has been implemented to mitigate the
declining net interest margin.
Loans
Net loans have grown by 7.60%, from $654,834,000 at December 31, 1999 to
$704,614,000 at June 30, 2000. This represents an increase of $49,780,000, or
7.6%. This increase was almost entirely funded through an increase in deposits,
which grew by $49,061,000. Commercial loans continue to represent a
significant portion of this growth, and is a direct result of demand remaining
strong during the first half of 2000. The strong economy in Lancaster and
Cecil Counties has fueled the commercial loan demand.
Allowance for Loan Losses
Sterling's allowance for loan losses was $8,248,000 at June 30, 2000.
This represents 1.16% of loans outstanding which was comparable to the 1.23%
ratio at December 31, 1999. Net charge-offs to average loans outstanding
totaled .004% for the first six months of 2000 compared to .030% for the same
period in 1999.
The following table presents information concerning the aggregate amount
of nonaccrual, past due and restructured loans as of June 30, 2000 and December
31, 1999:(In thousands)
June 30, December 31,
2000 1999
Nonaccrual loans $ 943 $ 325
Accruing loans, past due 90 days or more 358 751
Restructured loans 1,944 1,961
------- -------
Total non-performing loans 3,245 3,037
Other real estate owned 186 163
------- -------
Total non-performing assets $ 3,431 $ 3,200
======= =======
Non-performing loans to total loans .46% .46%
Allowance for loan losses to
non-performing loans 254% 269%
The restructured loans included in nonperforming loans represent a series
of loans to one borrower in the real estate business. Sterling has no
commitment to lend this customer additional funds related to the restructured
notes. These restructured loans are fully secured with real estate collateral,
are current and have performed in accordance with the contractual terms, both
prior to and after the restructuring. Accrual of interest on the restructured
loans continues.
Potential problem loans are defined as performing loans which have
characteristics that cause management to have serious doubts as to the ability
of the borrower to perform under present loan repayment terms and which may
result in the reporting of these loans as nonperforming loans in the future.
Total potential problem loans approximated $3,054,000 at June 30, 2000.
Additionally, letter of credit commitments totaling approximately $3,100,000
are outstanding to one of these borrowers.
The following table presents information concerning impaired loans to June
30, 2000 and December 31, 1999:
(In thousands)
June 30, December 31,
2000 1999
Impaired loans with a related allowance $ 2,887 $ 2,286
Impaired loans without a related allowance --- ---
------- -------
Total impaired loans $ 2,887 $ 2,286
======= =======
Allowance related to impaired loans $ 360 $ 111
======= =======
Sterling maintains the allowance for loan losses at a level believed
adequate by management to absorb potential losses in the loan portfolio. It is
established through a provision for loan losses charged to earnings. Sterling
utilizes a defined methodology on a quarterly basis to determining the adequacy
of the allowance for loan losses which considers specific credit reviews, past
loan loss historical experience, and qualitative factors. This methodology,
which has remained consistent for the past several years, results in an
allowance consisting of two components, "allocated" and "unallocated". For a
more thorough discussion of the allowance for loan losses methodology, please
refer to Sterling Financial Corporation's Annual Report on Form 10-K for the
year ended December 31, 1999.
Management believes the above methodology accurately reflects losses
inherent in the portfolio. Management bases the provision for loan losses, or
lack of provision, on the overall analysis taking into consideration the
methodology discussed above.
A rollforward of the allowance for loan losses for the six months ended
June 30, 2000 and 1999 were as follows:
(In thousands)
2000 1999
Balance at January 1 $ 8,174 $ 8,070
Provision for loan losses charged to income 99 240
Loans charged-off (114) (292)
Recoveries of loans previously charged-off 89 127
------- -------
Balance at June 30 $ 8,248 $ 8,145
======= =======
Net charge-offs to average loans outstanding .004% .03%
Asset Held for Operating Leases
During the first six months of 2000, Sterling increased the balance of
assets held for operating leases from $47,639,000 at year-end 1999 to
$53,442,000 at June 30, 2000. Management recognizes that leasing operations
represent a growth opportunity for Sterling and has committed resources to
expand this business. These resources include increased marketing efforts, not
only in developing customer relationships, but also in maintaining existing
customers. The strong national and local economy has led to our leasing
customers expanding their business operations, resulting in an increase in the
number of new units leased within our customer base.
Deposits
Total deposits at June 30, 2000 totaled $941,493,000 compared to
$892,432,000 at December 31, 1999. This represents an increase of $49,061,000,
or 5.5% during this period of time. The increase in deposits is attributable
to competitive pricing, particularly in time deposits and cash management
accounts.
Borrowings
Short term borrowings totaled $22,844,000 at June 30, 2000, a decrease of
$2,156,000 from December 31, 1999. Long-term debt increased by $2,322,000 from
December 31, 1999 to $36,613,000 at June 30, 2000. The decrease in short-term
borrowings was exclusively related to a reduction in the interest bearing
demand notes issued to the U. S. Treasury. The growth in long-term debt was
used to fund growth in the finance and operating lease portfolios.
Capital
Total stockholders' equity increased $3,480,000 or 3.9% from the
$90,018,000 reported at December 31, 1999. The increase was a result of
operating activities which consisted of net income for the period of
$7,352,000, less dividends declared of $3,305,000 and unrealized loss on
securities available for sale, net of tax, in the amount of $567,000.
Sterling and its banking subsidiaries are subject to various regulatory
capital requirements administered by the federal banking agencies. Failure to
meet minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have
a direct material effect on Sterling and the subsidiary banks' financial
statements. Under capital adequacy guidelines and the regulatory framework for
prompt corrective action, Sterling and its banking subsidiaries must meet
specific capital guideline that involve quantitative measures of their assets,
liabilities and certain off-balance-sheet items as calculated under regulatory
accounting practices. The capital amounts and reclassifications are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors. Prompt corrective action provisions are not
applicable to bank holding companies.
Quantitative measures established by regulation to ensure capital adequacy
require Sterling and its banking subsidiaries to maintain minimum amounts and
ratios of total and Tier 1 capital to average assets. Management believes, as
of June 30, 2000 and December 31, 1999, that Sterling and the subsidiary banks
met all minimum capital adequacy requirements to which they are subject and are
categorized as "well capitalized".
Sterling's capital ratios as of June 30, 2000 and December 31, 1999 and
related regulatory minimum requirements are as follows:
Per Regulation
(1)
June 30, December 31, Minimum Well
2000 1999 Requirement Capitalized
Total capital to
risk weighted assets 10.9% 11.1% 8.0% 10.0%
Tier 1 capital to
risk weighted assets 10.0% 10.2% 4.0% 6.0%
Tier 1 capital to
average assets 8.5% 8.5% 4.0% 5.0%
(1) represents amounts for the banking subsidiaries and not Sterling Financial
Corporation, as prompt corrective action provisions are not applicable to bank
holding companies.
Liquidity
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 Sterling
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 source of funds
mentioned provide sufficient liquidity.
Item 3 - Quantitative and Qualitative Disclosures About Market Risk
At June 30, 2000, there have been no material changes to information
regarding Quantitative and Qualitative Disclosures About Market Risk as
presented in the 1999 Annual Report on Form 10-K, as amended.
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
As of June 30, 2000, there were no material pending legal proceedings,
other than ordinary routine litigation incidental to business, to which
Sterling or its subsidiaries are a party or of which any of their property is
the subject.
Item 2 - Changes in Securities and Use of Proceeds
Not applicable.
Item 3. - Defaults Upon Senior Securities
Not applicable.
Item 4 - Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders of Sterling Financial Corporation was
held on June 13, 2000.
The following individuals were elected to Sterling Financial
Corporation's Board of Directors to hold office for the terms specified:
For a Term of Three Years
Nominee Votes For Votes Withheld
S. Amy Argudo 7,362,867 88,886
Robert H. Caldwell 7,387,348 64,405
J. Robert Hess 7,391,664 60,088
J. Roger Moyer, Jr. 7,310,172 141,582
W. Garth Sprecher 7,393,300 58,452
There are eight continuing directors whose terms of office will expire at
the 2001 or 2002 annual meeting. They are as follows:
Richard H. Albright, Jr. David E. Hosler
Howard E. Groff, Jr. E. Glenn Nauman
Joan R. Henderson John E. Stefan
Calvin G. High Glenn R. Walz
The following proposals were approved at Sterling Financial Corporation's
Annual Meeting:
Votes Votes Broker
Votes For Against Abstained Non-votes
1. Proposal to approve and adopt
the Agreement and Plan of Merger,
dated as of January 25,2000, by
and between Sterling Financial
Corporation and Hanover Bancorp,
Inc., providing for the
acquisition of Hanover Bancorp,
Inc. through the merger of
Hanover Bancorp, Inc. into
Sterling. 6,761,644 217,335 70,029 402,746
2. Proposal to vote on the
adjournment of the Sterling Annual
Meeting, if necessary, to
permit further solicitation of
proxies if there are not sufficient
votes at the time of the meeting to
approve the Agreement and
Plan of Merger. 6,471,282 426,325 151,401 402,746
3. Proposal to ratify the selection
of Ernst & Young, LLP as the
corporation's independent certified
public accounts for the year
ending December 31, 2000 7,389,006 51,166 11,578 4
Item 5 - Other Information
Not applicable.
Item 6 Exhibits and Reports on Form 8-K
(a) Exhibits
3(ii)Amended and Restated Bylaws of Sterling Financial Corporation.
(Incorporated by reference to Exhibit 3 (ii) of the Current
Report on Form 8-K, filed with the Securities and Exchange
Commission on April 25, 2000.
21. Subsidiaries of the Registrant
27. Financial Data Schedule
(b) Reports on Form 8-K
During the quarter ended June 30, 2000, the registrant filed the
following reports on Form 8-K.
Date of Report Item Description
April 25, 2000 5 Registrant filed Amended and
Restated Bylaws
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 11, 2000 By:
John E. Stefan
Chairman of the Board, President
and Chief Executive Officer
Date: August 11, 2000 By:
Jere L. Obetz
Executive Vice President/Treasurer
and 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)
