UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
Commission File Number 0-20516
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MASON-DIXON BANCSHARES, INC.
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(Exact name of Registrant as specified in its charter)
Maryland 52-1764929
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
45 W. Main Street, Westminster, Maryland 21157
- ------------------------------------------ -------
(Address of principal executive offices) (Zip Code)
(410) 857-3401
----------------------
Registrant's telephone number including area code:
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 preceeding 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
----- -----
The number of shares outstanding of the registrant's common stock on
September 30, 1998: Common Stock, $1.00 Par Value --- 5,058,527
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MASON-DIXON BANCSHARES, INC.
<TABLE>
CONSOLIDATED BALANCE SHEET
<CAPTION>
September 30, December 31,
(Dollars in thousands) 1998 1997
- -------------------------------------------------- ---------------------------------------------
<S> <C> <C>
ASSETS
Cash and due from banks $ 22,150 $ 20,245
Interest bearing deposits in other banks 416 482
Federal funds sold 10,449 17,236
Investment securities available for sale (AFS) - at fair value 364,166 249,855
Investment securities held to maturity (HTM) - at amortized cost 188,595 204,045
(fair value $178,856 and $206,515 respectively)
Loans held for sale 2,326 4,439
Loans (net of unearned income of $22 and $341) 461,428 460,391
Less: Allowance for credit losses (9,193) (5,231)
-------- --------
Loans, net 452,235 455,160
Bank premises and equipment 14,374 15,530
Other real estate owned 400 685
Deferred tax assets 5,240 6,089
Mortgage sub-servicing rights 2,289 3,412
Intangible assets 6,825 2,956
Accrued interest receivable and other assets 13,818 12,046
-------- --------
Total Assets $ 1,083,283 $ 992,180
======== ========
LIABILITIES
Non-interest bearing deposits $ 85,271 $ 89,692
Interest bearing deposits 527,937 561,557
-------- --------
Total Deposits 613,208 651,249
Short-term borrowings 48,860 97,203
Long-term borrowings 328,637 160,889
Accrued expenses and other liabilities 10,850 7,390
-------- --------
Total Liabilities 1,001,555 916,731
STOCKHOLDERS' EQUITY
Common stock - $1.00 par value, authorized:
10,000,000 shares, issued and outstanding;
5,058,527 shares (1998) and 5,077,468 shares (1997) 5,059 5,077
Surplus 35,402 35,948
Retained earnings 37,769 32,275
Accumulated other comprehensive income 3,498 2,149
-------- --------
Total Stockholders' Equity 81,728 75,449
Total Liabilities & Stockholders' Equity $ 1,083,283 $ 992,180
======== ========
Note: The balance sheet at December 31, 1997 has been derived from the audited financial statement at that date.
See notes to the consolidated financial statements.
</TABLE>
MASON-DIXON BANCSHARES, INC.
<TABLE>
CONSOLIDATED INCOME STATEMENT
<CAPTION>
Three Months Endi Nine Months Ending
September 30, September 30,
(Dollars in thousands, except per share data) 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Interest Income:
Interest and fees on loans $ 11,899 $ 10,047 $ 36,857 $ 28,659
Interest on deposits in other banks 255 96 293 146
Interest on federal funds sold 239 254 1,052 836
Interest and dividends on investment securities:
Taxable interest on mortgage-backed securities 4,117 4,676 12,608 12,993
Other taxable interest and dividends 3,009 1,447 6,929 3,294
Tax exempt interest and dividends 1,153 1,200 3,547 3,412
-------- -------- -------- --------
Total interest income 20,672 17,720 61,286 49,340
Interest Expense:
Interest on deposits:
Time certificates of deposit of $100,000 or more 657 602 1,750 1,550
Other deposits 5,154 5,542 16,651 16,348
-------- -------- -------- --------
Total interest on deposits 5,811 6,144 18,401 17,898
Interest on short-term borrowings 784 1,602 3,142 3,345
Interest on long-term borrowings 4,783 2,164 11,334 4,783
-------- -------- -------- --------
Total interest expense 11,378 9,910 32,877 26,026
-------- -------- -------- --------
Net interest income 9,294 7,810 28,409 23,314
Provision for credit losses 125 (12) 3,614 96
-------- -------- -------- --------
Net interest income after provision for credit losses 9,169 7,822 24,795 23,218
-------- -------- -------- --------
Other Operating Income:
Service charges on deposit accounts 469 560 1,546 1,660
Trust Division income 417 380 1,247 1,096
Gain on sale of securities 148 26 505 334
Gain on sale of mortgage loans 473 518 1,466 1,179
Gain on sale of branches 0 0 6,717 0
Other income 893 470 2,469 1,400
-------- -------- -------- --------
Total other operating income 2,400 1,954 13,950 5,669
-------- -------- -------- --------
Other Operating Expenses:
Salaries and employee benefits 5,597 4,146 15,851 11,730
Net occupancy expense of bank premises 683 638 2,030 1,886
Furniture and equipment expenses 464 313 1,435 1,238
Legal and professional fees 256 275 827 940
FDIC insurance expense 17 20 59 58
Outside data processing expense 192 273 866 835
Amortization of mortgage sub-servicing rights 76 104 1,123 311
Amortization of other intangibles assets 172 111 471 358
Other expenses 1,290 837 4,491 2,486
-------- -------- -------- --------
Total other operating expenses 8,747 6,717 27,153 19,842
-------- -------- -------- --------
Income before income taxes 2,822 3,059 11,592 9,045
Income tax expense 586 771 3,508 2,333
-------- -------- -------- --------
Net Income $ 2,236 $ 2,288 $ 8,084 $ 6,712
======== ======== ======== ========
Per Share Data:
Cash Dividend Paid $ 0.17 $ 0.15 $ 0.51 $ 0.45
Net Income (Basic) $ 0.44 $ 0.45 $ 1.59 $ 1.29
Net Income (Diluted) $ 0.44 $ 0.45 $ 1.59 $ 1.29
Average Shares Outstanding (Basic) 5,074,341 5,069,413 5,077,806 5,220,441
Average Shares Outstanding (Diluted) 5,078,419 5,071,327 5,082,489 5,221,284
</TABLE>
MASON-DIXON BANCSHARES, INC.
<TABLE>
<CAPTION>
For the Period Ended
September 30,
(Dollars in thousands) 1998 1997
- --------------------------------------------------------------------------------------------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 8,084 $ 6,712
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 1,202 1,190
Amortization of mortgage sub-servicing rights 1,123 311
Amortization of intangibles 454 357
Net accretion of purchase accounting adjustments (206) (312)
Provision for credit losses 3,614 96
Provision for deferred taxes 0 314
Proceeds from sales of investment securities - Trading 20 3,177
Purchases of investment securities - Trading 0 (3,152)
Originations of loans held for sale (35,904) (31,788)
Proceeds from sales of loans held for sale 39,483 33,019
Net gain on sale of assets/liabilities (8,658) (1,514)
Net (increase) decrease in accrued interest receivable and other (1,330) (1,745)
Net increase (decrease) in accrued expenses and other liabilitie 1,213 (1,645)
Other - net (198) 325
------- -------
Net cash provided by operating activities 8,897 5,345
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities of investment securities - HTM 57,429 14,455
Purchases of investment securities - HTM (41,953) (28,784)
Proceeds from maturities of investment securities - AFS 58,499 18,541
Proceeds from sales of investment securities - AFS 62,041 55,212
Purchases of investment securities - AFS (232,376) (149,358)
Net (increase) decrease in loans (17,078) (50,828)
Capital expenditures (1,920) (1,073)
Proceeds from sale of assets/liabilities 10,292 0
Sale of branches (28,882) 0
Acquisitions of subsidiaries, net of cash acquired (14,993) 0
------- -------
Net cash used by investing activities (148,941) (141,835)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in deposits 49,211 27,992
Net (decrease) increase in short-term borrowings (78,686) 62,939
Proceeds from long-term borrowings 179,350 114,402
Repayments of long-term borrowings (11,625) (63,493)
Issuance of additional shares of common stock 455 449
Repurchase of common stock (1,019) (5,413)
Dividends paid (2,590) (2,352)
------- -------
Net cash provided by financing activities 135,096 134,524
------- -------
Net increase (decrease) in cash and cash equivalents (4,948) (1,966)
Cash and cash equivalents at beginning of year 37,963 46,346
------- -------
Cash and cash equivalents at end of period $ 33,015 $ 44,380
======= =======
See notes to the consolidated financial statements.
</TABLE>
MASON-DIXON BANCSHARES, INC.
<TABLE>
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
<CAPTION>
FOR THE PERIOD ENDED SEPTEMBER 30, 1998 AND 1997
Accumulated
Other
Common Retained Comprehensive
(Dollars in thousands) Stock Surplus Earnings Income
- ---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at December 31, 1996 $ 5,303 $ 40,560 $ 26,331 $ 505
Net income (1st nine months 1997) 0 0 6,712 -
Issuance of additional shares of common stock 20 429 0 -
Repurchase of shares of common stock (250) (5,163) 0 -
Cash dividend @ $.45 per share 0 0 (2,352) -
Net unrealized losses on available-for-sale
securities (net of tax) 0 0 0 1,139
------- ------- ------- -------
Balance at September 30, 1997 5,073 35,826 30,691 1,644
Net income (4th quarter 1997) 0 0 2,447 -
Issuance of additional shares of common stock 4 122 0 -
Repurchase of shares of common stock 0 0 0 -
Cash dividend @ $.15 per share 0 0 (863) -
Net unrealized gains on available-for-sale
securities (net of tax) 0 0 0 505
------- ------- ------- -------
Balance at December 31, 1997 5,077 35,948 32,275 2,149
Net income (1st nine months 1998) 0 0 8,084 -
Issuance of additional shares of common stock 14 441 0 -
Repurchase of shares of common stock (32) (987) 0 -
Cash dividend @ $.51 per share 0 0 (2,590) -
Unrealized holding (losses)/gains on available-for
sale securities arising during the period (net of ta 0 0 0 1,703
Less: Reclassification adjustment for losses
realized in net income 0 0 0 (354)
------- ------- ------- -------
Balance at September 30, 1998 $ 5,059 $ 35,402 $ 37,769 $ 3,498
======= ======= ======= =======
</TABLE>
MASON-DIXON BANCSHARES, INC.
<TABLE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Note 1. The foregoing financial statements are unaudited, however, in the opinion of Management, all adjustments
(consisting of normal recurring accruals) necessary for a fair presentation of the financial statements have been
included. Certain amounts for prior periods have been reclassified to conform to current period presentation.
These statements should be read in conjunction with the financial statements and notes thereto included in the
Company's 1997 Annual Report on Form 10-K.
Note 3. Investment Securities
<CAPTION>
Available-for-Sale Held-to-Maturity
September 30, September 30, September 30, September 30,
(Dollars in thousands) 1998 1997 1998 1997
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury securities and agency notes $ 153,918 $ 45,829 $ 33,297 $ 37,796
Obligations of U.S. government agencies 96,059 15,224 11,571 132,185
Obligations of states and political subdivisio 0 84,752 88,904 0
Collateralized mortgage obligations 84,946 61,442 47,899 55,055
Other securities 23,543 248 6,924 15,109
Unrealized gains(losses) 5,700 0 0 2,678
-------- -------- -------- --------
Total Investment Securities $ 364,166 $ 207,495 $ 188,595 $ 242,823
======== ======== ======== ========
</TABLE>
<TABLE>
Note 4. Loans (Net of Unearned Income)
<CAPTION>
September 30, September 30,
(Dollars in thousands) 1998 1997
- ---------------------------------------------------------------------------------------------
<S> <C> <C>
Construction and Land Development $ 38,867 $ 27,925
Residential Real Estate - Mortgages 153,675 182,628
Commercial Real Estate - Mortgages 134,267 134,851
Commercial 80,877 80,220
Consumer 53,742 23,636
-------- --------
Total Loans $ 461,428 $ 449,260
======== ========
</TABLE>
<TABLE>
Note 4. Allowance for Credit Losses
<CAPTION>
(Dollars in thousands) 1998 1997
- ---------------------------------------------------------------------------------------------
<S> <C> <C>
Balance at January 1 $ 5,231 $ 5,167
Provision for the year 3,614 96
Recoveries on loans 417 343
------- -------
Total 9,262 5,606
Less loans charged off 2,992 349
Allowance of purchased company 2,923 0
------- -------
Balance at September 30 $ 9,193 $ 5,257
======= =======
The appropriateness of the allowance for possible credit losses is determined based on a quarterly detailed
review of the loan portfolio, off-balance sheet commitments, and recent economic projections.
</TABLE>
MASON-DIXON BANCSHARES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
Note 5. Per Share Amounts
On December 31, 1997, the Company adopted FASB Statement No. 128,
"Earnings Per Share". Statement 128 establishes standards for computing and
presenting earnings per share ("EPS") that simplify the standards previously
followed in Accounting Principals Board Opinion No. 15. It replaces the
former presentation of primary EPS with a presentation of basic EPS and, where
applicable, requires the dual presentation of basic and diluted EPS on the
face of the income statement. Basic EPS is generally computed by dividing net
income by the weighted average number of common shares outstanding for the
period, whereas diluted EPS essentially reflects the potential dilution in
basic EPS that could occur if other contracts to issue common stock were
exercised. Per share amounts are based on the weighted average number of
shares outstanding during the year.
Note 6. Comprehensive Income
On January 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income". Comprehensive income, as
defined by Statement 130, is the change in equity of a business enterprise
during a reporting period from transactions and other events and circumstances
from non-owner sources. In addition to an enterprise's net income, change in
equity components under comprehensive income reporting would also include such
items as the net change in unrealized gain or loss on available-for-sale
securities and foreign currency translation adjustments. Statement 130
requires disclosure of comprehensive income and its components with the same
prominence as the Company's other financial statements.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
MASON-DIXON BANCSHARES, INC.
FORWARD LOOKING STATEMENTS
This section of the report may contain forward looking statements within
the meaning of the Private Securities Litigation Act of 1995. Certain
statements are included which may relate to management's beliefs,
expectations, anticipations and plans concerning, among other things, economic
trends, interest rates, Year 2000 issues, and other matters. Such statements
are subject to numerous uncertainties including the effects of monetary
policies, regulatory changes, levels of inflation, unemployment, consumer
confidence and the health of commercial and residential real estate values in
Mason-Dixon's market area. There can be no assurance that future events will
develop in accordance with any forward looking statements contained herein.
SUMMARY
Mason-Dixon Bancshares, Inc., reported net income of $2.236 million for
the third quarter ended September 30, 1998, a decrease of 2% from the same
period last year. Earnings per share (basic and diluted) were $.44, a 2%
decrease from the third quarter 1997. The results for quarter reflect the
effects of a restructuring charge for severance costs which reduced reported
net income by $285 thousand. The restructuring is related to further
consolidation of certain administrative and executive functions of the bank
affiliates. Core operating net income (net income excluding the restructuring
charge) was $2.521 million, an increase of 10% over third quarter 1997.
Diluted earnings per share on core operating net income was $.50, up 11% from
$.45 for the same period of 1997.
For the nine months ended September 30, 1998, net income totaled $8.084
million compared to $6.712 million for the nine months ended September 30,
1997 (+20%). On a per share basis, net income increased 23% to total $1.59
versus $1.29 for the same period of 1997. For the nine months ended September
30, 1998 core operating net income (net income excluding non-recurring charges
and gains) operations totaled $7.419 million, up 11% from the same period in
1997, and diluted earnings per share totaled $1.46 (+13%).
Reported results for the third quarter and the year included several
significant events. On June 19, 1998 the sale of five branches on Maryland's
Eastern Shore was completed and added after tax net income of $3.687 million
($.73 per share). Offsetting the gain on the sale of the branches were after
tax charges to recognize the company's estimated year 2000 costs ($430
thousand or $.08 per share), a write-down of mortgage sub-servicing rights
($516 thousand or $.10 per share), the restructuring charge mentioned above
($285 thousand or $.06 per share) and increases in the provision for credit
losses which was largely driven by changes in charge-off policy for the
recently acquired consumer finance receivables ($1.791 million or $.35 per
share).
STATEMENT OF CONDITION
Total assets as of September 30, 1998 were $1.083 billion, up 9% from
December 31, 1997 and up 10% from September 30, 1997. The percentage changes
reflect the purchase of Rose Shanis Financial Services, LLC which added
approximately $48 million in total assets, and the sale of five branches which
reduced total assets by approximately $80 million. Both of these transactions
occurred in 1998. Loans outstanding have increased $1 million since December
31, 1997 and increased $12 million (3%) since September 30, 1997. Changes in
loans outstanding include to purchase of approximately $43 million in loans
related to the Rose Shanis acquisition, and the sale of approximately $59
million for the sale of branches. Excluding these events, loans outstanding
have increased 6% since September 30, 1997 and 4% since December 31, 1997.
Investment securities increased by $99 million (22%) from year end 1997 and
$102 million (23%) since September 30, 1997. Deposits have decreased $38
million (6%) from year end, and $35 million (6%) compared to September 30,
1997 due to the sale of the branches which held approximately $89 million in
total deposits. Excluding the sale of the branches, deposits increased 8% from
year end and September 30, 1997. Borrowing increased $120 million (46%) since
year end, with borrowings associated with the acquisition of Rose Shanis
adding $28 million. Since September 30, 1997, borrowings increased by $125
million, which includes the $28 million associated with the acquisition.
Higher levels of investments and borrowings are also related to sale of the
branches on the Eastern Shore, replacing the loans and deposits which were
sold and recapturing some of the revenue lost as a result of the sale.
Stockholders' equity increased $6.2 million from year end 1997. Earnings added
$8.1 million to stockholders equity, while cash dividends have reduced equity
by $2.6 million. Increases in accumulated comprehensive income were $1.3
million since year end. Net shares repurchased in 1998 decreased equity by
$500 thousand.
INCOME STATEMENT - THIRD QUARTER
Net interest income increased by $1.484 million (19%) due to normal growth
in earning assets as well as the acquisition of the consumer finance company.
The net interest margin on earning assets increased 14 basis points to 4.10%
for the quarter. The increased spread was primarily attributable to the
acquisition of Rose Shanis, which has higher overall interest spreads. Average
earning assets increased $108 million (12%) while interest bearing liabilities
increased $119 million (15%).
The provision for credit losses totaled $125 thousand for the quarter
compared to credit of $12 thousand for the third quarter of 1997. The
increase resulted primarily from increased chargeoffs for consumer finance
receivables.
Total other operating income increased $446 thousand. Service charge
income decreased by $91 thousand, mostly due to the sale of the Eastern Shore
branches which resulted in lower level of transaction accounts. Gains on sales
of mortgage loans declined by $45 thousand as the loan origination levels of
the Mortgage Banking Division of Carroll County Bank and Trust Company (Mason-
Dixon Bancshares Mortgage Company) declined slightly. Trust Division income
grew by $37 thousand or 10% due to growth in accounts under management.
Securities gains increased by $122 thousand. All other sources of operating
income increased by $423 thousand or 90% which reflect increased revenue from
the sales of annuities and mutual funds, as well as fee income generated from
consumer finance activities.
Total other operating expenses increased by $2.030 million or 30%. Most
areas of other operating expenses increased and reflect the additional
expenses associated with normal increases in overhead, the acquisition of Rose
Shanis, and decreases resulting from the sale of the branches on the eastern
shore. Salaries and benefits increased by $1.451 million, and includes the
restructuring charge discussed above ($485 thousand before taxes) as well as
additional salaries at Rose Shanis ($990 thousand). Occupancy expenses were
$45 thousand higher while equipment expenses grew by $151 thousand, with due
to normal increases in these expense categories and Rose Shanis adding higher
expenses. Other expenses grew $453, with Rose Shanis adding $467 to expenses
in this category in the third quarter.
INCOME STATEMENT - YEAR-TO-DATE
Net interest income increased $5.095 million (22%) due to growth in
earning assets and increased interest spreads. Average year-to-date earning
assets grew by $149 million (18%) while interest bearing liabilities increased
$142 million (19%). The net interest margin for the first nine months of 1998
was 4.10%, an increase of 14 basis points compared to the same period of 1997.
Margins increased as a result of the acquisition of Rose Shanis.
The provision for credit losses totaled $3.614 million compared to $96
thousand for the first nine months of 1997. The significant increase resulted
from increased chargeoffs for consumer finance receivables ($2.2 million) and
additional provisions ($900 thousand) recorded in recognition of potential
credit risks relating to loans with Year 2000 exposure. The increase in
chargeoffs was related to a change in chargeoff policy for consumer finance
receivables. The former policy called for a loan to be charged off at 270 days
delinquent. The policy was changed during the second quarter to chargeoff
loans at 180 days delinquent. The change was made to align the policy with
more conservative practices. As a result of the change, delinquency levels and
coverage ratios of the consumer finance receivables improved significantly.
Total other operating income was $13.950 million, an increase of $8.281
million. Excluding the one-time gain on sale of branches, the increase
totaled $1.564 million (28%). Service charges decreased $114 thousand. Trust
division revenue increased $151 thousand (14%) due to increases in accounts
under management. Gains on sales of mortgage loans increased $287 thousand
(24%) due to the expansion of the mortgage banking division of Carroll County
Bank and Trust Company and increased refinance activities. Gains on sales of
securities were $505 thousand versus $334 thousand for the nine months of
1997. All other sources of operating income increased $1.069 million (76%)
due to increased income from the acquired consumer finance company ($1.015
million), as well as increased sales of mutual funds and annuities.
Total other operating expenses increased $7.311 million. Excluding non-
recurring items of $2.005 million, other operating expenses increased by
$5.306 million. Additional expenses of Rose Shanis totaled $4.114 million.
The non-recurring items included a $700 thousand (pretax) charge for estimated
costs for the company to remedy operating issues surrounding the Year 2000
issue. Mason-Dixon elected to recognize this expense during the second
quarter due to the increased certainty of these expenses and the greater
accuracy in the projections of the actual costs. Non-recurring items also
reflected a charge of $841 thousand (pretax) related to a change in valuation
method of mortgage sub-servicing rights. This method change more closely
aligns the carrying value of these rights to current market rates of interest
as well as recently quoted market values. A restructuring charge discussed
above was recognized in the third quarter which totaled $485 thousand.
All areas of other operating expenses increased with the exception of legal
and professional fees .
CAPITAL ADEQUACY
At the end of the quarter, the Company's capital leverage ratio was 8.79%,
up slightly from 8.74% at the end of the year. Tier 1 and Total Risk-based
ratios were 14.78% and 18.25% respectively compared to 14.74% and 15.64% at
December 31, 1997. Regulatory minimums to qualify as "well capitalized" are
5% for capital leverage, 6% for Tier 1 Risk-based, and 10% for Total Risk-
based capital. In April of 1998, Mason-Dixon completed a $20 million offering
of Trust Preferred securities. These instruments were issued to pay off a
portion of the short-term borrowings of the consumer finance company. Of the
$20 million issued, approximately $5 million qualified at September 30, 1998
as Tier 1 capital, and the remaining $15 million qualified as Tier 2 capital.
Trust Preferred securities that qualify as Tier 1 capital are limited by
regulatory definition to a maximum of one-third of total Tier 1 capital
elements.
MARKET RISK DISCLOSURES - INTEREST RATE SENSITIVITY
At the end of the quarter, Mason-Dixon had an estimated one year positive
gap of $106.3 million on a consolidated basis, which totaled about 10% of
assets. The positive one year gap at the end of the last quarter was $75
million or 7% of total assets. The increase is attributable to longer term
fixed rate borrowings and significant increases in the prepayment assumptions
on fixed rate loans and investment securities. This is due to current low
level of interest rates, with most securities with call features assumed to be
called and prepayment assumptions on mortgage backed securities accelerated.
An increase in interest rates would change assumptions relating to callable
securities and likely slow assumed prepayments on mortgage backed securities.
Management believes the overall rate sensitivity position is appropriate for
current rate conditions.
Mason-Dixon tests its interest rate sensitivity through the deployment of
simulation analysis. An earnings simulation model is used to estimate what
effects specific interest rate changes would have on one year of net interest
income. Derivative financial instruments, such as interest rate swaps, are
included in the analysis. Interest rate caps and floors on certain products
are included to the extent they become effective within one year. Changes in
prepayment assumptions have been included where changes in payment behavior
pattern is assumed to be different to the simulation. Call features on certain
securities are based on their projected call probability in view of the
assumed rate environment. At September 30, 1998 Mason-Dixon's estimated
earnings profile reflected a modest sensitivity to interest rate changes.
Based on an assumed 100 basis point immediate increase in interest rates,
Mason-Dixon's pretax net interest income would increase by $1.945 million
(5.1%) if rates were to increase by 100 basis points, and decline by $1.208
million (3.1%) should rates fall by 100 basis points.
YEAR 2000 PREPAREDNESS
Mason-Dixon continued its progress in preparing for the Year 2000 during
the third quarter of 1998. The Year 2000 Issue is the result of computer
programs and equipment which are dependent on using two digits rather than
four to define any particular year. Any of Mason-Dixon's computer programs or
other equipment that are date dependent may recognize a date using "00" as the
Year 1900 rather than the Year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, a temporary inability to
process transactions, send invoices, or engage in similar normal business
activity.
Mason-Dixon has had in place a task force which has been preparing
information technology (IT) systems, as well as non-IT systems for over a
year. Representatives of the task force regularly update Mason-Dixon's Senior
Management and Board of Directors with progress reports which outline progress
and future timetables for completion of critical phases of the project of the
Year 2000 project. Mason-Dixon adopted a Year 2000 plan developed by its task
force in accordance with guidelines set forth by the Federal Financial
Institutions Examination Council (FFIEC). Mason-Dixon expects that all phases
of its Year 2000 plan will be completed by the deadlines established by the
FFIEC.
The initial "assessment" phase of the Year 2000 project began in 1997 and
included an inventory of all systems (IT and non-IT) with potential Year 2000
risk. Critical IT systems, which include item processing, communications with
the Federal Reserve ("Fedline"), and core loan and deposit processing systems
were identified. Critical non-IT systems which include telephone and internal
communications systems, ATM's, and payroll were also identified. Vendors who
provide various systems were contacted to assess their year 2000 readiness.
Mason-Dixon has completed its review of customized computer code included in
the data processing system provided by its primary supplier of data processing
services. The assessment phase is complete, although it is updated
periodically as necessary.
During the most recent quarter, the project progressed with the renovation
and/or replacement of systems to achieve Year 2000 readiness and the testing
of all critical and non-critical systems.
Test scripts were completed for testing critical software during the most
recent quarter. Mason-Dixon has completed testing of a significant number of
systems as of October 31, 1998. Mason-Dixon expects to complete testing all
critical applications by March 31, 1999. Mason-Dixon expects to complete
testing all systems (critical and non-critical) by September 30, 1999. From
vendor responses and/or certifications of Year 2000 compliance, Mason-Dixon
has determined that several critical IT and non-IT systems will have to be
modified to achieve Year 2000 readiness or replaced with Year 2000 compliant
systems. Mason-Dixon does not perform in-house programming, and thus is
dependent on external vendors to modify customized software code. Mason-
Dixon's primary supplier of data processing services had adopted a Year 2000
plan and timetable and has provided written assurances to Mason-Dixon of its
progress and intention to achieve Year 2000 readiness of both its standard
system and customized computer code by April 1, 1999. Mason-Dixon expects
that non-compliant systems will be replaced or renovated prior to January 1,
2000.
The contingency planning phase of Mason-Dixon's Year 2000 project began
during the third quarter of this year and is expected to be completed by the
end of January 1999. This process will require the establishment of plans to
prepare for the most reasonable likely worst case Year 2000 scenarios. While
not certain, contingency plans will likely range from the selection of
alternative vendors with capacity to convert non Year 2000-compliant systems
to compliant systems prior to the end of 1999, to manual procedures to process
critical systems where transactions or volumes are limited.
The expected cost of modifications and replacements to non-compliant
systems is currently estimated to be between $700,000 and $1,000,000 and is
being funded through operating cash flows. To date, direct expenses related to
the Year 2000 issue have been less than $100,000 and does not include any
internal personnel costs. In the second quarter, Mason-Dixon recorded a
charge to earnings of $700,000 for these estimated costs.
During the second quarter of 1998, Mason-Dixon completed a review of the
Year 2000 readiness of all significant borrowers. Mason-Dixon has determined
that the ability of some of Mason-Dixon's customers to repay their obligations
to Mason-Dixon may be impaired by their ability to remedy their own Year 2000
issues. Mason-Dixon does not anticipate that such impairment will be
significant enough to materially impact the financial position of Mason-Dixon.
Mason-Dixon's monitoring of credit risk attributable to the Year 2000 issue
continued during the third quarter of 1998, and resulted in a year-to-date
increase in the allowance for credit losses of approximately $900,000.
Mason-Dixon has distributed surveys to determine the Year 2000 readiness
of significant funds providers to Mason-Dixon. Responses have been received
from a significant number of these providers, however, since Mason-Dixon's
assessment process is not yet complete, the potential for unplanned reductions
in the availability of funds from significant funding sources that have not
taken appropriate steps to manage their own Year 2000 problems exists. Most
of the significant funds providers are banks or bankers banks which are
subject to regulatory oversight relating to the Year 2000 issue. Follow-up
and assessment of the Year 2000 readiness of significant funds providers will
continue until determination of Year 2000 readiness is made. Contingency
plans will be developed to provide alternative funding sources should funds
providers fail to provide adequate assurance of Year 2000 readiness.
Management of Mason-Dixon believes that the potential effects on Mason-
Dixon's internal operations of the Year 2000 problem can and will be addressed
prior to the year 2000. However, if required modifications or conversions are
not made or are not completed on a timely basis prior to the year 2000, the
Year 2000 problem could disrupt normal business operations. The most
reasonable likely worst case Year 2000 scenarios foreseeable at this time
would include Mason-Dixon temporarily not being able to process, in some
combination, various types of customer transactions. This could affect the
ability of Mason-Dixon to, among other things, originate new loans, post loan
payments, accept deposits or allow immediate withdrawals, and, depending on
the amount of time such a scenario lasted, could have material adverse effects
on Mason-Dixon.
Ultimately, the success of Mason-Dixon's efforts to address the Year 2000
issue depends to a large extent not only on the corrective measures that
Mason-Dixon undertakes, but also on the efforts undertaken by businesses,
government entities, and other independent entities who provide data to, or
receive data from, Mason-Dixon, such as borrowers, vendors or deposit
customers. In particular, Mason-Dixon's credit risk associated with its
borrowers may increase as a result of problems such borrowers may have
resolving their own Year 2000 issues. Although it is not possible to evaluate
the magnitude of any potential increased credit risk at this time, the impact
of the Year 2000 issue on borrowers could result in increases in problem loans
and credit losses in future years.
The entire cost of the project and projected completion dates are based on
management's best estimates, which were derived using numerous assumptions of
future events. There can be no guarantee that these estimates will be achieved
and actual results could materially differ from the estimates. Factors that
might affect the timely and efficient completion of Mason-Dixon's Year 2000
projects include, but are not limited to, vendors' abilities to adequately
correct or convert software and the effect on Mason-Dixon's ability to test
its systems, the availability and the cost of personnel trained in the Year
2000 area, and the ability to identify and correct all relevant computer
programs and similar uncertainties.
Bank regulatory agencies have recently issued additional guidance under
which they are assessing Year 2000 readiness. The failure of a financial
institution to take appropriate action to address deficiencies in the Year
2000 project management process may result in enforcement actions which could
have a material adverse effect on Mason-Dixon, result in civil money penalties
or result in the delay of applications seeking to acquire other entities or
otherwise expand activities.
ITEM 6b. REPORTS ON FORM 8-K
On October 16, 1998, Mason-Dixon filed on Form 8-K its planned acquisition
of Sterling Bancorp. This event was reported under Item 2 on Form 8-K.
12
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.
MASON-DIXON BANCSHARES, INC.
November 13, 1998 /s/ Thomas K. Ferguson
By: Thomas K. Ferguson
President/Chief Executive Officer
November 13, 1998 /s/ Mark A. Keidel
By: Mark A. Keidel
Vice President/Chief Financial Officer
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary information extracted from the Mason-Dixon
Bancshares, Inc. September 30, 1998 financial statements and is qualified in its
entirety by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<CASH> 22,150,000
<INT-BEARING-DEPOSITS> 416,000
<FED-FUNDS-SOLD> 10,449,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 188,595,000
<INVESTMENTS-CARRYING> 364,166,000
<INVESTMENTS-MARKET> 556,755,607
<LOANS> 461,428,000
<ALLOWANCE> 9,193,000
<TOTAL-ASSETS> 1,083,283,000
<DEPOSITS> 613,208,000
<SHORT-TERM> 48,860,000
<LIABILITIES-OTHER> 10,850,000
<LONG-TERM> 328,637,000
0
0
<COMMON> 5,059,000
<OTHER-SE> 3,571,303
<TOTAL-LIABILITIES-AND-EQUITY> 1,083,283,000
<INTEREST-LOAN> 36,857,000
<INTEREST-INVEST> 3,566,537
<INTEREST-OTHER> 1,052,293
<INTEREST-TOTAL> 61,286,000
<INTEREST-DEPOSIT> 18,401,000
<INTEREST-EXPENSE> 32,877,000
<INTEREST-INCOME-NET> 28,409,000
<LOAN-LOSSES> 3,614,000
<SECURITIES-GAINS> 505,000
<EXPENSE-OTHER> 27,153,000
<INCOME-PRETAX> 8,084,000
<INCOME-PRE-EXTRAORDINARY> 8,084,000
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 8,084,000
<EPS-PRIMARY> 1.59
<EPS-DILUTED> 1.59
<YIELD-ACTUAL> 4.10
<LOANS-NON> 6,176,507
<LOANS-PAST> 321,000
<LOANS-TROUBLED> 831,000
<LOANS-PROBLEM> 11,379,033
<ALLOWANCE-OPEN> 5,231,000
<CHARGE-OFFS> 2,992,000
<RECOVERIES> 417,000
<ALLOWANCE-CLOSE> 9,193,000
<ALLOWANCE-DOMESTIC> 9,193,000
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
