FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549-1004
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended June 30, 1999
Commission file number: 33-66014
FNB Financial Corporation
(Exact name of registrant as specified in its charter)
Commonwealth of Pennsylvania 23-2466821
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
101 Lincoln Way West, McConnellsburg, PA 17233
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: 717/485-3123
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 shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for
the past 90 days.
YES X NO
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at June 30, 1999
(Common stock, $0.63 par value) 400,000
FNB FINANCIAL CORPORATION
INDEX
Page
PART I - FINANCIAL INFORMATION
Condensed consolidated balance sheets -
June 30, 1999 and December 31, 1998 5
Condensed consolidated statements of income -
Three months ended June 30, 1999 and 1998 6
Condensed consolidated statements of income -
Six months ended June 30, 1999 and 1998 7
Condensed consolidated statements of comprehensive
income -
Six months ended June 30, 1999 and 1998 8
Condensed consolidated statements of cash flows -
Six months ended June 30, 1999 and 1998 9
Notes to condensed consolidated financial
statements 10-12
Table #1 - Schedule of held to maturity and
available for sale investment activity for the
period January 1, 1999 through June 30, 1999 13
Table #2 - Schedule of gross unrealized gains and
unrealized losses within the held to maturity and
available for sale investment portfolios by
investment type 14
Management's discussion and analysis of financial
condition and results of operations 15-25
PART II - OTHER INFORMATION 27
Signatures 28
PART I - FINANCIAL INFORMATION
FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY
CONDENSED CONSOLIDATED BALANCE SHEET
<TABLE>
<S> <C> <C>
June 30, December 31,
1999 1998
ASSETS: (unaudited) (audited*)
Cash and Due from banks $ 2,829,263 $ 3,134,802
Interest-bearing deposits with banks 1,097,323 2,019,612
Marketable Debt Securities
Held-to-maturity (Market value - 1999:
$2,144,819 and 1998: $2,429,959) 2,181,820 2,449,621
Available-for-sale 29,082,964 32,713,970
Marketable Equity Securities
Available for Sale 142,368 173,546
Federal Reserve, Atlantic Central Banker's Bank
and Federal Home Loan Bank Stock 415,000 394,100
Federal Funds Sold 2,333,000 4,136,000
Loans, net of unearned discount &
Allowance for loan losses 66,782,249 61,900,581
Bank buildings, equipment, furniture &
fixtures, net 3,222,290 3,149,012
Accrued interest receivable 670,675 718,543
Deferred income tax charges 394,752 16,989
Other real estate owned 210,374 370,511
Intangible Assets 169,674 177,856
Other assets 2,290,666 2,210,251
Total Assets $111,822,418 $113,565,394
========== ==========
LIABILITIES :
Deposits:
Demand deposits $10,387,634 $10,819,419
Savings deposits 26,365,637 30,911,801
Time certificates 62,055,402 58,501,511
Other time deposits 516,557 271,204
Total deposits $99,325,230 $100,503,935
Accrued interest payable & other liabilities 779,366 868,129
Liability for other borrowed money 166,419 168,764
Deferred income taxes 0 0
Accrued dividends payable 76,000 108,000
Total Liabilities $100,347,015 $101,648,828
STOCKHOLDERS' EQUITY:
Capital stock, Common, par value $0.63;
6,000,000 shares authorized; 400,000
outstanding $ 252,000 $ 252,000
Additional paid-in capital 1,789,833 1,789,833
Retained earnings 9,899,295 9,621,863
Net unrealized gain/(loss) on Available-for-sale
securities, net of tax effects (465,725) 252,870
Total Stockholders' Equity $11,475,403 $11,916,566
Total Liabilities & Stockholders' Equity$111,822,418 $113,565,394
========== ==========
</TABLE>
*Condensed from audited financial statements.
The accompanying notes are an integral part of these condensed
financial statements.
FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended June 30, 1999 and 1998
(UNAUDITED)
<TABLE>
<S> <C> <C>
1999
1998
Interest & Dividend Income
Interest & fees on loans $1,376,289
$1,368,878
Interest on investment securities:
U.S. Treasury Securities 0
3,006
Obligations of other U.S.
Government Agencies 344,105
344,412
Obligations of State & Political
Subdivisions 121,150
113,574
Interest on deposits with banks 16,463
7,887
Dividends on Equity Securities 7,128
6,357
Interest on federal funds sold 30,664
69,384
Total Interest & Dividend Income 1,895,799
1,913,498
Interest Expense
Interest on deposits 993,963
1,013,067
Interest on Other borrowed money 2,776
2,851
Net interest income 996,739
1,015,918
Provision for loan losses 36,000
190,000
Net interest income after
Provision for loan losses 863,060
707,580
Other income
Service charges on deposit accounts 27,603
19,274
Other service charges, collection &
exchange charges, commissions
and fees 66,705
52,935
Other income 32,051
26,750
Net Securities gains/(losses) 53,366
142,671
Total other income 179,725
241,630
Other expenses 750,953
684,001
Income before income taxes 291,832
265,209
Applicable income taxes 56,192
94,808
Net income $235,640
$170,401
=======
=======
Earnings per share of Common Stock:
Net income per share $0.59
$0.43
Cash dividend declared per share $0.19
$0.18
Weighted average number of shares outstanding 400,000
400,000
</TABLE>
The accompanying notes are an integral part of these condensed
financial statements.
FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Six Months Ended June 30, 1999 and 1998
(UNAUDITED)
<TABLE>
<S> <C> <C>
1999
1998
Interest & Dividend Income
Interest & fees on loans $2,695,187
$2,692,655
Interest on investment securities:
U.S. Treasury Securities 1,585
6,500
Obligations of other U.S.
Government Agencies 698,626
671,125
Obligations of State & Political
Subdivisions 249,926
240,230
Interest on deposits with banks 44,548
33,175
Dividends on Equity Securities 15,291
14,496
Interest on federal funds sold 73,229
119,184
Total Interest & Dividend Income 3,778,392
3,777,365
Interest Expense
Interest on deposits 2,011,503
1,995,800
Interest on other borrowed money 5,571
5,721
Total Interest Expense 2,017,074
2,001,521
Net interest income 1,761,318
1,775,844
Provision for loan losses 66,000
291,114
Net interest income after
Provision for loan losses 1,695,318
1,484,730
Other income
Service charges on deposit accounts 50,543
39,492
Other service charges, collection &
exchange charges, commissions
and fees 129,980
102,821
Other income 65,145
41,835
Net Securities gains/(losses) 49,675
144,244
Total other income 295,343
328,392
Other expenses 1,468,335
1,344,092
Income before income taxes 522,326
469,030
Applicable income taxes 97,229
143,750
Net income $425,097
$325,280
=======
=======
Earnings per share of Common Stock:
Net income per share $1.06
$0.81
Cash dividend declared per share $0.37
$0.35
Weighted average number of shares outstanding 400,000
400,000
</TABLE>
The accompanying notes are an integral part of these condensed
financial statements.
FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Six Months Ended June 30, 1999 and 1998
(UNAUDITED)
<TABLE>
<S> <C> <C>
1999
1998
Net Income $425,097
$325,280
Other Comprehensive income, net of tax
Unrealized holding gains/(losses for period (718,595)
(102,769)
Comprehensive Income $(293,498)
$222,511
=======
=======
</TABLE>
The accompanying notes are an integral part of these condensed
financial statements.
FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended June 30, 1999 and 1998
<TABLE>
<S> <C> <C>
(UNAUDITED)
1999 1998
Cash flows from operating activities:
Net income $ 425,097 $
325,280
Adjustments to reconcile net income
to net cash provided by operating
activities:
Depreciation & amortization 133,608 132,417
Provision for loan losses 66,000 291,114
Net (gain)/loss on sales of
investments (49,675)
(144,244)
Deferred income taxes (7,578) 0
Loss on Disposal of Other Real Estate 2,887 2,000
(Increase) decrease in accrued
interest receivable 47,868
(41,294)
Loss on Disposal of Other Assets 5,000 0
Increase (decrease) in accrued interest
payable and other liabilities (88,793)
66,962
Other (net) (60,243)
(68,200)
Net cash provided (used)by operating
activities 474,171 564,035
Cash flows from investing activities:
Net (increase) decrease in interest-
bearing deposits with banks 922,289
5,455,387
Purchases of Held-to-maturity securities 0 0
Purchases of Available-for-sale
securities (2,221,470)
(9,248,615)
Proceeds from sales of Available-for-
sale securities 1,077,301 3,641,590
Proceeds from maturities of Held-to-
maturity securities 267,802 604,151
Proceeds from maturities of Available-
for-sale securities 3,693,048 1,184,993
Purchases of marketable equity securities 0
(45,000)
Proceeds from sales of marketable equity
securities 74,200 105,000
Net (increase) decrease in loans (4,912,067)
(1,407,776)
Proceeds from sale of Other real estate owned 122,637 23,475
Purchases of bank premises & equipment (net) (198,703)
(84,491)
Increase in cash surrender value of life
insurance (40,797)
(15,514)
Purchase of life insurance 0
(1,985,000)
Proceeds from sale of other assets 15,000 0
Purchase of other bank stock (20,900)
(4,500)
Net cash provided (used) by investing
activities (1,221,660)
(1,776,300)
Cash flows from financing activities:
Net increase (decrease) in deposits (1,178,705)
6,086,263
Net increase (decrease) in other borrowings (2,345)
(289,687)
Cash dividends paid (180,000)
(172,000)
Net cash provided (used) by financing activities (1,361,050)
5,624,576
Net increase (decrease) in cash & cash equivalents(2,108,539)
4,412,311
Cash & cash equivalents, beginning balance 7,270,802 6,422,312
Cash & cash equivalents, ending balance $5,162,263 $10,834,623
========= =========
Supplemental disclosure of cash flows information
Cash paid during the year for:
Interest $2,074,762 $2,009,913
Income taxes $145,886 67,570
Supplemental schedule of noncash investing &
financing activities
Unrealized gain (loss) on Available-for-sale
securities net of tax effects (718,595) (102,769)
Accrued dividends payable 76,000 72,000
Other real estate and property acquired in
settlement of loans 0 120,000
Loan advanced in partial settlement for sale of
other real estate 35,000 0
</TABLE>
The accompanying notes are an integral part of these condensed
financial statements.
FNB FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1999
(UNAUDITED)
NOTE 1 - BASIS OF PRESENTATION
The financial information presented at and for the six
months ended June 30, 1999 and June 30, 1998 is unaudited.
Information presented at December 31, 1998, is condensed from
audited year-end financial statements. However, this
unaudited information reflects all adjustments, consisting
solely of normal recurring adjustments, that are, in the
opinion of management, necessary for a fair presentation of
the financial position, results of operations and cash
flows for the interim period.
NOTE 2 - PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of
the corporation and its wholly-owned subsidiary, The First
National Bank of McConnellsburg. All significant
intercompany transactions and accounts have been
eliminated.
NOTE 3 - CASH FLOWS
For purposes of the statements of cash flows, the corporation
has defined cash and cash equivalents as those amounts
included in the balance sheet captions "cash and due from
banks" and "federal funds sold". As permitted by Statement
of Financial Accounting Standards No. 104, the corporation
has elected to present the net increase or decrease in
deposits in banks, loans and time deposits in the statement
of cash flows.
NOTE 4 - FEDERAL INCOME TAXES
For financial reporting purposes the provision for loan
losses charged to operating expense is based on management's
judgement, whereas for federal income tax purposes, the
amount allowable under present tax law is deducted.
Additionally, certain expenses are charged to operating
expense in the period the liability is incurred for financial
reporting purposes, whereas for federal income tax purposes,
these expenses are deducted when paid. As a result of these
timing differences, deferred taxes were computed after
reducing pre-tax accounting income for nontaxable municipal
and loan income.
NOTE 5 - INVESTMENTS
The activity within the held to maturity and available for
sale portfolios for the period January 1, 1999, through
June 30, 1999, is summarized in Table #1 on page 13. No
sales were conducted from securities contained within the held
to maturity portfolio.
The amortized cost and estimated market values of investments
by investment type and classification as available for sale or
held to maturity along with each portfolio's gross unrealized
gain or gross unrealized loss are contained in Table #2 on
page 14.
Management has reviewed the unrealized gains and losses in the
investment portfolio and has determined they are a direct
result of the current interest rate environment and are
temporary in nature in that they will fluctuate accordingly
based upon the Federal Reserve's interest rate philosophy in
effect at the time of pricing. Fluctuations in market value
are not a reflection of a downgrading in the investment
quality of the securities contained within the corporation's
portfolio.
Management has purchased for the portfolio mortgage-backed
securities. The large portion of these securities have a
variable rate coupon and all have scheduled principal
payments. During periods of rising interest rates, payments
from variable rate mortgage-backed securities may accelerate
as prepayments of underlying mortgages occur as home-owners
refinance to a fixed rate while during periods of declining
interest rates, prepayments on high fixed rate mortgage-backed
securities may accelerate as home owners refinance to lower
rate mortgages. These prepayments cause yields on mortgage-
backed securities to fluctuate as larger payments of principal
necessitate the acceleration of premium amortization or
discount accretion. Due to the low dollar amount of mortgage-
backed securities in relation to the total portfolio,
management feels that interest rate risk and prepayment risks
associated with mortgage-backed securities will not have a
material impact on the financial condition of the Bank.
In regard to Collateralized Mortgage Obligations (CMOs), the
Bank presently has none of these types of investments in its
portfolio.
NOTE 6 - ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses is summarized as
follows:
<TABLE>
<S> <C> <C>
1999
1998
Allowance for loan losses beginning of the year $731,641
$425,813
Loans charged-off during the year:
Real estate mortgages 100,000
25,000
Installment loans 18,802
50,840
Commercial & all other 31,973
88,237
Total charge-offs 150,775
164,077
Recoveries of loans previously charged-off:
Real estate mortgages 200
0
Installment loans 12,896
17,775
Commercial & all other 1,077
705
Total recoveries 14,173
18,480
Net loans charged-off (recovered) 136,602
145,597
Provision for loan losses charged to operations 66,000
291,114
Allowance for loan losses, June 30 $661,039
$571,330
=========
========
</TABLE>
The following table shows the principal balance of nonaccrual loans
as of June 30, 1999:
<TABLE>
<S> <C>
Nonaccrual loans $ 292,108.42
==========
Interest income that would have been
accrued at original contract rates $ 12,678.40
Amount recognized as interest income 3,468.85
Foregone revenue $ 9,209.55
=========
</TABLE>
NOTE 7 - OTHER COMMITMENTS
In the normal course of business, the bank makes various
commitments and incurs certain contingent liabilities which
are not reflected in the accompanying financial statements.
These commitments include various guarantees and commitments
to extend credit. The bank does not anticipate any losses
as a result of these transactions.
TABLE #1
SCHEDULE OF HELD TO MATURITY AND AVAILABLE FOR SALE
DEBT SECURITY PORTFOLIOS
TRANSACTION SUMMARY
FOR THE PERIOD JANUARY 1, 1999 THROUGH JUNE 30, 1999
<TABLE>
<S> <C> <C> <C>
HELD TO AVAILABLE TOTAL
MATURITY FOR SALE INVESTMENT
PORTFOLIO PORTFOLIO PORTFOLIO
BEGINNING BALANCE 1/1/99 $2,449,621 $32,330,835 $34,780,456
PURCHASES 0 2,221,470 2,221,470
PROCEEDS FROM SALES 0 1,077,301 1,077,301
NET LOSSES/(GAINS) 0 (9,875) (9,875)
MATURITIES/CALLS PAYDOWNS/
PREMIUM AMORTIZATION/DISCOUNT
ACCRETION 267,802 3,693,048 3,960,850
ENDING BALANCE 6/30/99 $2,181,819 $29,791,831 $31,973,650
========= ========== ==========
</TABLE>
TABLE #2
SCHEDULE OF UNREALIZED GAINS AND UNREALIZED LOSSES
WITHIN THE HELD TO MATURITY AND AVAILABLE FOR SALE
INVESTMENT PORTFOLIOS BY INVESTMENT TYPE
JUNE 30, 1999
<TABLE>
<S> <C> <C> <C> <C> <C>
<C> <C> <C>
HELD TO HELD TO HELD TO HELD TO
AVAILABLE AVAILABLE AVAILABLE AVAILABLE
MATURITY MATURITY MATURITY MATURITY FOR
SALE FOR SALE FOR SALE FOR SALE
BOOK MARKET UNREALIZED UNREALIZED BOOK
MARKET UNREALIZED UNREALIZED
SECURITY PORTFOLIO VALUE VALUE GAIN LOSS
VALUE VALUE GAIN LOSS
U.S. GOVERNMENT TREASURIES 0 0 0 0
0 0 0 0
U.S. GOVERNMENT TREASURIES 0 0 0 0
0 0 0 0
U.S. GOVERNMENT AGENCIES 0 0 0 0
1,262,663 1,266,575 3,911 0
U.S. GOVERNMENT AGENCIES 473,378 435,900 0 (37,478)
16,558,486 16,069,236 0 (489,250)
SBA GUARANTEED LOAN POOL
CERTIFICATES 203,533 205,656 2,123 0
802,612 810,930 8,318 0
SBA GUARANTEED LOAN POOL
CERTIFICATES 814,810 807,302 0 (7,508)
469,592 467,069 0 (2,523)
MORTGAGE-BACKED SECURITIES 0 0 0 0
596,755 605,710 8,955 0
MORTGAGE-BACKED SECURITIES 0 0 0 0
632,998 607,375 0 (25,623)
SECURITIES ISSUED BY STATES
& POLITICAL SUBDIVISIONS IN
THE U.S. 690,098 695,961 5,863 0
3,070,750 3,092,871 22,121 0
SECURITIES ISSUED BY STATES
& POLITICAL SUBDIVISIONS IN
THE U.S. 0 0 0 0
6,397,975 6,163,198 (234,777)
MARKETABLE EQUITY SECURITIES 0 0 0 0
45,000 60,000 15,000 0
MARKETABLE EQUITY SECURITIES 0 0 0 0
94,146 82,368 0 (11,778)
FEDERAL RESERVE BANK STOCK,
ATLANTIC CENTRAL BANKERS BANK
STOCK AND FEDERAL HOME LOAN
BANK STOCK 0 0 0 0
415,000 415,000 0 0
GRAND TOTALS 2,181,819 2,144,819 7,986 (44,986)
30,345,977 29,640,332 58,305 (763,951)
========= ========= ====== ======
========== ========== ======= =======
</TABLE>
CLASSIFICATION OF HELD TO MATURITY AND AVAILABLE FOR SALE
SECURITIES
Due to the implementation of FAS 115, management has segregated
securities as Held to Maturity, Available for Sale or Trading
securities. At the implementation of FAS 115 on January 1, 1994,
management determined that no securities were Trading securities;
that tax-free municipal with maturity dates less than the year 2000
were classified as Held to maturity securities due to management's
intention to hold these securities for tax planning purposes; and
that all other securities were classified as Available for Sale
securities due to management's intention to hold these securities
for liquidity planning purposes. Purchases of tax-free municipals
with maturities of 5 years or less made following implementation of
FAS 115 are classified as Held to Maturity securities with all
other purchase Available for Sale; however, management may decide
on a case-by-case basis that a security may be either classified as
Held to Maturity or Available for Sale depending upon the reasons
for purchase. Held to Maturity classifications are typically used
for securities purchased specifically for interest rate management
or tax-planning purposes while Available for Sale classifications
are typically used for liquidity planning purposes.
FNB FINANCIAL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Net income for the first six months of 1999 was $425,097 compared
to $325,280 for the same period in 1998 and $464,356 for the same
period in 1997. This represents a increase of $99,817 or 30.69%
over 1998 and a decrease of $39,259 or 8.45% from 1997. Net income
on an adjusted per share basis for the first six months of 1999 was
$1.06, an increase of $0.25 from the $0.81 per share for the six
months ended June 30, 1998, and a decrease of $0.10 from the $1.16
per share for the six months ended June 30, 1997.
This increase of $99,817 in net income is a direct result of the
Board of Directors and management's decision during 1998 to
significantly increase the allowance for loan losses. During the
first six months of 1999, the provision to the allowance for loan
losses was $66,000, a $225,114 decrease from the $291,114 provision
for the first six months of 1998. This decrease in the provision
was offset with a decrease in net security gains. During the first
six months of 1999, net security gains were $49,675, a decrease of
$94,569 from the $144,244 in net security gains for the first six
months of 1998. The decrease in 1999 in the provision for loan
losses and in net security gains combined with a decrease of
$46,521 in applicable income taxes, were significant factors in the
net income increase of $99,817 for the first six months of 1999
from that of 1998.
Total interest and dividend income for the first six months of 1999
was $3,778,392 compared to $3,777,365 for the same period in 1998
and compared to $3,637,495 for the six months ended June 30, 1997.
This represents an increase of $1,027 over 1998 and increase of
$140,897 over 1997. This very slight increase in 1999 over 1998 is
due to a volume increase in loans of $6,661,575, or 11.08% over
that of net loans for the same period in 1998 which were
$60,120,674. To offset this net loan increase federal funds sold
decreased $5,031,000 or 68.32% and the book value of investment
debt securities decreased $695,589 or 2.28%. Volume increases in
earning assets resulted in an increase to net interest income in
the amount of $277,000 while decreases in yields on earning assets
resulted in a decrease to net interest income in the amount of
$276,000, resulting in the net interest income increase of $1,027.
Although the volume of net loans increased in 1999 in comparison to
1998, the yield on the overall loan portfolio decreased due to
adjustable rate mortgages and commercial loans being repriced to
lower rates and residential home mortgage refinancings to lower
fixed rates as a result of the October 1998 Federal Reserve
reduction in interest rates. The average yield on loans in 1998
was 9.09% while the average yield in 1999 decreased to 8.40%. These
adjustable rate loan interest rate reductions combined with
mortgage refinancings and calls on higher yielding callable
securities resulted in this very slight increase in interest
income. The yield on investment securities decreased from 5.93% to
5.68% as a result of calls and reinvestment into lower yielding
securities.
During the first half of 1999, interest rates have begun to
increase as the Federal Reserve on June 30, increased the federal
funds target rate by 25 basis points. During this time, management
has decreased deposit rates slightly but not at the same pace as
that of earning assets. The tax-adjusted net interest margin has
decreased 33 basis points to 3.66% from that of 3.99% for the first
six months of 1998 and 55 basis points from that of the first six
months of 1997 which was 4.21%. This decrease in net interest
margin occurred due to a decrease in the tax adjusted yield on
loans which decreased from 9.16% in 1998 to 8.40% in 1999; a
decrease in the yield on U. S. Government Agencies which decreased
from 6.55% in 1998 to 6.17% in 1999; a decrease in the yield on
federal funds sold which decreased from 5.48% in 1998 to 4.67% in
1999 while the costs of deposits decreased only 30 basis points
from 4.82% in 1998 to 4.52% in 1999. This 30 basis point decrease
in the cost of interest-bearing liabilities and 57 basis point
decrease in the tax-equivalent yield on earning assets, from 8.15%
in 1998 to 7.58% in 1999, has resulted in a decrease in the net
interest margin. Management is concentrating on the improvement of
the net interest margin throughout the year and has taken steps to
improve it by decreasing rates on savings accounts and Super NOW
accounts in early July while at the same time adjustable rate
mortgage and commercial loan interest rates have begun to rise.
Interest expense for the six months ended June 30, 1999, was
$2,017,074 a $15,553 increase over the June 30, 1998, interest
expense of $2,001,521, and an increase of $138,214 over the
$1,878,860 incurred for the same period in 1997. This increase in
interest expense is due to an increase in the average volume of
interest-bearing deposits of $6,251,757, which increased interest
expense $150,655 while the 30 basis point decrease in average cost
of deposits decreased interest expense only $135,102. The cost of
total interest bearing deposits for the first six months of 1999
was 4.52% compared to 4.82% for the same period in 1998. This
decrease in cost of deposits was offset with the increase in volume
of interest bearing deposits which resulted in the $15,553 increase
in interest expense as discussed earlier.
Total noninterest income decreased $33,049 from 1998 due to the
sale of securities in 1998 which resulted in a $144,244 net gain.
Total operating expenses for the period ended June 30, 1998, were
$1,468,335, a $124,243 increase from the operating expenses
incurred for the same period in 1998 of $1,344,092. This increase
is due to 1) increases in employee wages and benefits of $57,100,
a main result of the hiring of a new commercial loan officer/loan
division manager and an increase in wage rates and in employee
participation in the Company's retirement plan and health insurance
plans; 2) an increase in the cost of fixed assets in the amount of
$23,445 due to increased real estate taxes of $11,075 as a result
of the completed renovation/expansion of the Main office and Fort
Loudon office facilities and additional equipment placed in service
during the past year; 3) an increase in professional fees of
$10,000 due to the retention of a marketing consultant; and 4) a
$23,000 increase in the implementation cost of directors' life
insurance/retirement benefits.
The company's income tax provision for the first six months of 1999
was $97,229 compared to $143,750 for 1998 and $117,818 for the
first six months of 1997. This decrease in the tax provision in
the amount of $46,521 as compared to 1998 is due to an
overstatement of the income tax provision for the second quarter of
1998 as a result of deferred tax adjustments not being recorded
until the third quarter of 1998. The result as an overstatement of
1998's second quarter tax provision which was adjusted in the third
quarter.
Although the Company continues to operate with a marginal tax rate
of 34%, the effective income tax rate for the first six months of
1999 was 18.61%, a decrease of 12.03% from the 30.64% for the first
six months of 1998 and a decrease of 1.63% from the effective tax
rate for the first six months of 1997 of 20.24%. This decrease in
the effective tax rate is due to deferred tax adjustments for the
difference between the tax-allowed balance of the allowance for
loan losses and the actual balance of allowance for loan losses not
being recorded in 1998 until the third quarter.
Total assets as of June 30, 1999, were $111,822,418, a decrease of
$1,742,976 over the period ending December 31, 1998, representing
a decrease of 1.53%. This decrease was the result of a deposit
decrease of $1,178,705 or 1.17% and a decrease in the value of
securities after tax effects of $718,595. The decrease in deposits
was the result of a decrease in the balances of business money
market account balances while the decrease in the value of
securities resulted from a change in the interest rate environment
from a stable/declining rate environment to one of an increasing
rate environment. Net loans as of June 30, 1999, were $66,782,249
compared to $61,900,581 as of December 31, 1998. The allowance for
loan losses at the end of the six months was $661,039 compared to
$731,641 at year end 1998 and is considered adequate, in
management's judgement, to absorb possible losses on existing
loans. The provision for loan losses for the first six months of
1999 was $66,000 compared to $291,114 for the same period in 1998.
The significant decrease in the provision is due to management's
decision in 1998 to increase the allowance for loan losses as it
was felt prudent to do so given the analysis of the loan portfolio
at the time.
Total deposits were $99,325,230 as of June 30, 1999, compared to
$100,503,935 on December 31, 1998. This represents a decrease of
$1,178,705 or 1.17% which reflects the activity as discussed
previously.
Total equity as of June 30, 1998, was $11,475,403, 10.26% of total
assets as compared to $11,916,566, 10.49% of total assets as of
December 31, 1998. This decrease in equity reflects the decrease
in market value of securities as discussed earlier offset by the
reinvestment of earnings into the corporation.
The Corporation has risk-based capital ratios exceeding regulatory
requirements. Risk-based capital guidelines require a minimum
ratio of 8.0%. At June 30, 1999, the risk-based capital ratio of
the Corporation was 18.03% while at December 31, 1998, the
risk-based capital ratio was 18.21%. The following table presents
the
risk-based capital ratios for the Corporation:
<TABLE>
<S> <C> <C>
June 30, Regulatory
1999 Minimum
Leverage Ratio 10.49% 4.00%
Risk-based capital ratios:
Tier I (core capital) 17.07% 4.00%
Total Capital
(Tier I and Tier II Capital) 18.03% 8.00%
Year 2000 Readiness Plan
During the past several months many newspaper and magazine articles
have been written concerning the YEAR 2000 and the potential effect
the change from the year 1999 to the year 2000 will have on
computer systems. Due to the age of some computer programs,
computer software and computer chips, it is very possible that some
older computers, software and equipment containing computer chip
technology may not function properly when the year 2000 rolls
around, or may indeed not function at all.
AWARENESS
The Corporation and the Bank recognized this potential problem in
mid-1997 and organized a Year 2000 Management Team. This team is
headed by Senior Management and the Data Processing Department,
which reports findings and results to the CEO, the Electronic Data
Processing ("EDP")Committee and, ultimately, to the Board of
Directors. In September 1997, this team developed and implemented
a Year 2000 policy to assure that all of the Corporation's
computers, software and equipment will be compatible with the year
2000 in order to avoid disruption to financial services provided by
the Corporation.
Beginning in March 1997, management of The First National Bank
began discussions with our Computer equipment providers and
programmers regarding the Year 2000 issue and how it would effect
our processing capabilities. In September 1997, the Bank's EDP
Committee, comprised of four outside Directors, the Data Processing
Manager, Cashier and CFO, and the Board of Directors adopted a Year
2000 Action Plan which has been implemented. This plan appointed
the CFO in charge of the Year 2000 project implementation as
supervisor of the Data Processing Department.
ASSESSMENT
Pursuant to our Plan, the Corporation and the Bank inventoried
equipment and software which needed to be verified for Year 2000
compliance. We also outlined our testing dates and strategies,
completion dates for all reprogramming and testing, and a
contingency plan. In addition, the Plan requires all vendors and
business customers provide Year 2000 compliance assurances.
Further, any new equipment or computer software purchased from that
date forward must be certified by the vendor to be Year 2000
compatible.
In the Corporation's policy addressing the Year 2000, the
Corporation recognized the importance of assuring, to the best of
its ability, its major business customers and vendors on which it
relies for electricity, voice communication, data processing, all
equipment, data communication, supplies, and any other function
vital to the Corporation's operation are aware of this issue and
have addressed it within their organizations by having their
computer equipment and software analyzed and tested for
compatibility with the Year 2000. To assess the status of each
major business customer and vendor, the Corporation in November
1997 sent to each a short questionnaire/survey regarding their Year
2000 implementation plans. As each vendor and business customer
returns the survey, management assesses the capability of each and
follows up to assure, to the best of the Corporation's ability,
each is Year 2000 compatible.
RENOVATION, VALIDATION, AND IMPLEMENTATION
On Sunday, February 15 and Monday, February 16, 1998, data
processing personnel conducted an in-house test of all computer
equipment and programs, both our main frame and Local Area Network
("LAN"), in order to determine if there were any areas of concern.
All equipment worked fine after we allowed system dates on the main
frame and the LAN to roll-over from December 31, 1999, to January,
1, 2000. After the date roll-over we tested programs extensively
performing regular daily procedures as well as year-end close out
procedures. There were some minor problems which resulted, many of
which we were aware before testing and had previously discussed
with our programmers. We set June 30, 1998, as the dead-line for
necessary changes to be made by our programmers. This schedule has
been met and retesting occurred during the third and fourth
quarters of 1998 as well as on President's Day Weekend, February 14
and February 15, 1999.
On May 28, 1998, system dates on the main frame were tested for
September 9, 1999, January 1, 2000, January 3, 2000, February 29,
2000, and March 1, 2000. These tests were performed by having the
system date rolled over to make sure the system continued to
operate. There were no problems encountered. During retesting
procedures of our main frame in the third and fourth quarters of
1998, management performed more extensive testing of these dates.
Retesting of the main frame occurred at our test location hot site
at CBM. Those reports generated were reviewed in detail by our in
house processor, Data Processing Manager, CFO, personnel from The
First National Bank of Mercersburg and our chief banking programmer
at CBM. All areas were tested to assure compliance and renovations
were made as necessary.
System dates on the LAN were tested for September 9, 1999, January
1, 2000, January 3, 2000, and February 29, 2000. Testing for
September 9, 1999, was conducted on Monday June 8, 1998, when the
system date was moved forward on the LAN to September 8, 1999, and
allowed to roll-over to September 9, 1999. On Tuesday June 9,
1998, the date was September 9, 1999, on the LAN. All day system
dates were on this time and the system was allowed to roll over to
September 10, 1999, on June 10, 1998. On June 10, 1998, the date
was returned to normal. No problems were incurred.
On June 15, 1998, the date was changed on the LAN to December 31,
1999, and allowed to roll over to January 1, 2000, on June 16,
1998. All day processing was done on this date. The system date
remained in the year 2000 until Friday, June 19, 1998, on which
date the future date was January 4, 2000, the second business day
in the year 2000. The system was returned to the proper date
following this test. There were no problems encountered. The
Losendos program (a Qantel terminal emulation program) displayed,
in an auxiliary field, the date at 2010. This is not used in
calculations and is only used to show date and time for the user of
the system, and is not anticipated to disrupt operations.
On June 22, 1998, the date was changed to February 27, 2000, and
allowed to rollover to February 28, 2000, on Tuesday, June 23,
1998; to February 29, 2000 on Wednesday, June 24, 1998; and to
March 1, 2000, on Thursday, June 25, 1998. On June 25, 1998, the
system date was returned to the correct date. There were no
problems encountered other than the credit reporting software to
pull credit reports not recognizing the Date February 29, 2000.
This was verified with the software vendor who informed us the full
year 2000 needed to be input in order to recognize the year 2000 as
a leap year. The old LAN network displayed the date as 19100 but
everything operated satisfactorily. As this system is being phased
out over the next year and Y2K compatible PCs are added, this will
not be an issue. The Losendos program, which is a Qantel terminal
emulation program, displays in an auxiliary field the date at
2010.
This is not used in calculations and is only used to show date and
time for the user of the system. This is not anticipated to
disrupt operations.
The purpose of these tests was to assure management the LAN and all
programs on the LAN will operate properly on these various dates.
Each department was asked to track their usage of programs during
this period and to note any problems which were encountered so they
could be addressed as quickly as possible with our software vendor.
The Bank has completed certification testing with the MAC network
for ATM communications having had MAC successfully process our Year
2000 test files. A copy of this certification is available.
The Bank has tested its electronic communication ability with its
correspondent Bank, ACBB. These tests were completed in December
1998 and no problems were encountered.
The Bank has tested its electronic communications with the Federal
Reserve Bank of Philadelphia ("FRB") during the third and fourth
quarters of 1998. Management scheduled times with the FRB to test
year 2000 compatibility of the following customer applications:
a. Wire transfers;
b. TT&L;
c. ACH;
d. Electronic Check Presentment;
e. Cash Ordering and Early Credit;
f. Reserve Requirements;
g. Account Balance Monitoring;
h. Savings Bond Ordering;
i. Check Returns;
j. Account Statements.
Tests of electronic communications with the Federal Reserve Bank of
Philadelphia were conducted throughout the third and fourth
quarters of 1998. All tests performed appeared to be successfully
processed by the Federal Reserve.
SUMMARY OF PHASES OF YEAR 2000 PLAN
In management's opinion based upon progress the following are
statistics as to the progress of each step in the Y2K process.
AWARENESS - 100% COMPLETE
ASSESSMENT - 100% COMPLETE
Mission critical Qantel System Equipment & Software - Complete
Mission Critical LAN system Equipment & Software - Complete
Mission Critical Fedline Equipment & Software - Complete
Mission Critical Branch Equipment - Complete
ATMs - Complete
ATM Network - Complete
Major Business Customers both loans and deposits - Complete
Bank vendors and suppliers - Complete
VALIDATION - 100% COMPLETE
Mission critical Qantel System Equipment & Software
1. Equipment - Complete
09/09/99 - Complete
12/31/99 - Complete
1/03/2000 - Complete
2/28/2000 - Complete
2/29/2000 - Complete
3/01/2000 - Complete
2. Software - 09/09/99 - Complete
12/31/99 - Complete
1/03/2000 - Complete
2/28/2000 - Complete
2/29/2000 - Complete
3/01/2000 - Complete
Mission Critical LAN system Equipment & Software
09/09/99 - Complete
12/31/99 - Complete
1/03/2000 - Complete
2/28/2000 - Complete
2/29/2000 - Complete
3/01/2000 - Complete
Credit reporting Software - TransUnion complete
Mission Critical Fedline Equipment & Software
09/09/99 - Complete Equipment only
12/31/99 - Complete
1/03/2000 - Complete
2/28/2000 - Complete
2/29/2000 - Complete
3/01/2000 - Complete
Mission Critical Branch Equipment
ATMs - Complete
ATM Network - Complete
Major Business Customers both loans and deposits - Complete
Bank vendors and suppliers - Complete
RENOVATION - 100% COMPLETE OVERALL
100% QANTEL SOFTWARE
Mission critical Qantel System
1. Equipment - Complete no changes necessary
2. Software
IRA - New program installed; testing
completed 6/30/99.
Dividend - New program installed; testing
completed 4/30/99.
General Ledger - New program installed; testing
completed 4/30/99.
DDA - Complete
CD - Complete
Loans - Complete
Savings - Complete
Clubs - Complete
CIF - Complete
Utility Programs - Complete
Lock Boxes - Complete
Mission Critical LAN system Equipment & Software - Complete
Mission Critical Fedline Equipment & Software - Complete
Mission Critical Branch Equipment - Complete
ATMs
NCR Main Office - Complete
NCR Hancock Office - Complete
Diebold East End Office - Complete
IMPLEMENTATION - 98% COMPLETE OVERALL
91% QANTEL SOFTWARE
Mission critical Qantel System
1. Equipment - Complete no changes necessary
2. Software
IRA - New program installed; testing completed
6/30/99; to be implemented by 8/31/99.
Dividend - New program installed, tested and
implemented.
General Ledger - New program installed; tested
and implemented.
DDA - Complete
CD - Complete
Loans - Complete
Savings - Complete
Clubs - Complete
CIF - Complete
Utility Programs - Complete
Lock Boxes - Complete
Mission Critical LAN system Equipment & Software - Complete
Mission Critical Fedline Equipment & Software - Complete
Mission Critical Branch Equipment - Complete
ATMs
NCR Main Office - Complete
NCR Hancock Office - Complete
Diebold East End Office - Complete
Fedline testing is complete.
The LAN system has been thoroughly tested during the month of June
1998 as noted above and in other documents. All areas worked fine.
The Qantel system was tested by in-house personnel in February 1998
and our phase of the retesting was completed in September which
brought us up to the January 3, 2000 date. The First National Bank
of Mercersburg completed the remaining steps and we have jointly
reviewed the test results with CBM to verify findings. The
revisions to the Bank's mission critical Qantel software have been
loaded onto our system and were implemented on January 18, 1999.
Retesting of our system was completed in early 1999 on site for
January 3, 2000 and February 29, 2000 during the President's Day
weekend on February 14 and February 15, 1999. The new software
programs have been installed during the fourth quarter of 1998 and
were tested in the first and second quarters of 1999.
The NCR ATMs located at our main office and Hancock office have
been upgraded and tested. The Diebold ATM located at our East End
Express Banking Center has been upgraded and tested. All other
mission critical equipment has been signed off by the manufacturer
or supplier.
The MAC system Year 2000 certification test has been completed and
our verification/certification has been received.
The Bank's main and branch office telephone systems were physically
verified for compliance by our vendor, Sprint. The only upgrade
necessary was to our voice mail system at the main office which was
completed in June 1999. Security systems at all offices were
tested and verified by our vendor, Mosler/LeFebure.
Customer awareness is ongoing, newsletter articles, handouts,
brochures and Year 2000 Readiness information has been developed
and provided to customers, vendors, etc. as requested. Glossy
brochures have been mailed out to customers; these will be
continually used as statement stuffers. An article was also
published in the local papers informing customers of the Year 2000
problem and inviting them, as well as other interested individuals,
to a seminar conducted by the Bank in July 1998. Posters and tent
cards informing customers of our Year 2000 readiness have been
placed in all branch offices.
Deposit and Loan customers whose actions may have a major impact on
the Corporation and the Bank have all been surveyed and
inventoried. This is an ongoing process and follow-up has been
made to all as necessary. In order to keep this issue at the
fore-front of large business depositors and loan customers, the
follow-up will continue throughout 1999.
Major Bank vendors and suppliers have been contacted and
verification of their readiness has been made. Follow-up calls
were completed by December 31, 1998, and ongoing monitoring as
necessary through the second quarter of 1999. If at that time a
supplier is not ready for Year 2000, the Bank will replace them
with one who is.
Year 2000 Contingency Plan
A contingency plan has been developed, is being reviewed by
management and the Board, and will be refined as necessary.
Training and testing of the plan will begin in the third quarter
and will be completed by September 30, 1999. This plan addresses
potential problems which may arise concerning Year 2000 problems.
The Corporation's and Bank's Year 2000 Contingency Plan was
developed to address the possibility that information technology
and non-information technology systems may not function properly
after December 31, 1999. If the Bank must implement its
contingency plan, the following areas have been included in such
plan: the mission-critical Qantel System; the LAN management
information reporting system; the ATM and MAC networks; Fedline,
which included wire transfers, automated clearing house and
electronic check presentment; electricity; communications; and cash
reserves.
Year 2000 Budget
The initial Budget approved by the EDP Committee and the Board for
Year 2000 renovations was initially $25,000 and has since been
increased to $30,000. These costs are specific costs dealing with
the renovation, supplies, upgrades, postage, education of
customers, legal fees for reviewing documents, personnel costs for
testing, and new equipment and software necessary to become Year
2000 compatible. This budget does not include cost accounting
costs such as salaried personnel time involved by in house
employees. The reason for this exclusion is that the salaried
personnel working on this issue are required to complete these
tasks along with their other duties. The total costs incurred to
date, June 30, 1999, for Year 2000 costs as highlighted in this
section have been $26,190.21. The EDP Committee and the Board
review this budget as necessary to determine if an increase in the
initial $30,000 budget is warranted based upon costs incurred to
date.
PART II - OTHER INFORMATION
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
None
Item 2 - Changes in Securities
None
Item 3 - Defaults Upon Senior Securities
Not Applicable
Item 4 - Submission of Matters to a Vote of Security Holders
None
Item 5 - Other Information
None
Item 6 - Exhibits and Reports on Form 8-K
a. Exhibits - None
b. Reports on Form 8-K - None
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.
/s/John C. Duffey
(John C. Duffey, President
and Director of the Company and
President of the Bank)
(Duly Authorized Officer)
Date August 09, 1999 /s/Daniel E. Waltz
(Daniel E. Waltz, Treasurer
and Director of the Company and
Senior Vice President/CFO of
the Bank)
(Principal Financial &
Accounting Officer)
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> JUN-30-1999
<CASH> 2,829
<INT-BEARING-DEPOSITS> 1,097
<FED-FUNDS-SOLD> 2,333
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 29,225
<INVESTMENTS-CARRYING> 2,182
<INVESTMENTS-MARKET> 2,145
<LOANS> 66,782
<ALLOWANCE> 661
<TOTAL-ASSETS> 111,822
<DEPOSITS> 99,325
<SHORT-TERM> 0
<LIABILITIES-OTHER> 855
<LONG-TERM> 166
<COMMON> 252
0
0
<OTHER-SE> 11,223
<TOTAL-LIABILITIES-AND-EQUITY> 111,822
<INTEREST-LOAN> 2,695
<INTEREST-INVEST> 965
<INTEREST-OTHER> 118
<INTEREST-TOTAL> 3,778
<INTEREST-DEPOSIT> 2,011
<INTEREST-EXPENSE> 2,017
<INTEREST-INCOME-NET> 1,761
<LOAN-LOSSES> 66
<SECURITIES-GAINS> 50
<EXPENSE-OTHER> 1,468
<INCOME-PRETAX> 522
<INCOME-PRE-EXTRAORDINARY> 425
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 425
<EPS-BASIC> 1.06
<EPS-DILUTED> 1.06
<YIELD-ACTUAL> 3.66
<LOANS-NON> 292
<LOANS-PAST> 207
<LOANS-TROUBLED> 0
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<ALLOWANCE-OPEN> 732
<CHARGE-OFFS> 151
<RECOVERIES> 14
<ALLOWANCE-CLOSE> 661
<ALLOWANCE-DOMESTIC> 661
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</TABLE>
