<PAGE>
FORM 10-QSB
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Quarterly Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
For the Quarterly period ended March 31, 1999
Commission File Number: 0-24715
MERRILL MERCHANTS BANCSHARES, INC.
MAINE 01-0471507
(State or other jurisdiction of (IRS Employer ID No.)
incorporation or organization)
201 Main Street
Bangor, Maine 04401
(Address of Principal Executive Office)
Issuer's telephone number, including area code: 207-942-4800.
Check whether the issuer (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: [ ]
The number of shares outstanding for the issuer's classes of common stock as of
April 30, 1999 are:
(Class) (Outstanding)
COMMON STOCK, $1.00 Par Value 2,578,041
Transitional Small Business Disclosure Format: Yes: [ ] No: [ X ]
<PAGE>
MERRILL MERCHANTS BANCSHARES, INC.
INDEX TO FORM 10-QSB
<TABLE>
<CAPTION>
PAGE NO.
<S> <C> <C>
PART I FINANCIAL INFORMATION
Item 1 Financial Statements
Consolidated Statements of Financial Condition at
March 31, 1999 and December 31, 1999 3
Consolidated Statements of Income for the Three Months Ended
March 31, 1999 and March 31, 1998 4
Consolidated Statements of Shareholders' Equity for the
Three Months Ended March 31, 1999 and March 31, 1998 5
Consolidated Statements of Cash Flows for the Three
Months Ended March 31, 1999 and March 31, 1998 6
Notes to Financial Statements 7 - 9
Item 2 Management's Discussion and Analysis of Condition
and Results of Operations 10 - 15
PART II OTHER INFORMATION 15
Item 1 Legal Proceedings 15
Item 2 Changes in Securities and Use of Proceeds 15
Item 3 Defaults upon Senior Securities 15
Item 4 Submission of Matters to a vote of Security Holders 15
Item 5 Other Information 15
Item 6 Exhibits and Reports on Form 8-K 15
Signature Page 16
</TABLE>
Page 2
<PAGE>
MERRILL MERCHANTS BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1999 1998
----------- ------------
(IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA) (UNAUDITED)
<S> <C> <C>
ASSETS
Cash and due from banks $ 9,255 $ 6,081
Interest-bearing deposits with banks 63 46
Federal funds sold 2,000 1,500
-------- --------
Total cash and cash equivalents 11,318 7,627
Investment securities
Available for sale 55,644 55,241
To be held to maturity 569 668
Loans held for sale 592 2,875
Loans receivable 123,074 127,655
Less allowance for loan losses 2,111 2,023
--------- ---------
Net loans receivable 120,963 125,632
Other real estate owned - 12
Properties and equipment, net 2,594 2,777
Deferred income tax benefit 248 189
Accrued income and other assets 4,706 4,722
-------- --------
Total assets $196,634 $199,743
-------- --------
-------- --------
LIABILITIES AND SHAREHOLDERS' EQUITY
Demand deposits $ 25,446 $ 25,207
Savings and NOW deposits 76,102 79,737
Certificates of deposit 57,447 59,184
-------- --------
Total deposits 158,995 164,128
Securities sold under agreements to
repurchase (term and demand) 11,691 11,747
Other borrowed funds 3,050 1,461
Accrued expenses and other liabilities 1,583 1,452
Mandatory convertible debentures 300 300
-------- --------
Total liabilities 175,619 179,088
-------- --------
Shareholders' equity
Convertible cumulative preferred stock, par value $1; authorized 50,000
shares, issued and outstanding 19,566 shares 20 20
Common stock, par value $1; authorized 4,000,000 shares, issued 2,583,041 shares
and outstanding 2,578,041 shares in 1999 and 2,388,036 issued and outstanding
shares in 1998 2,583 2,388
Capital surplus 17,123 15,527
Retained earnings 1,359 2,638
Unrealized gain (loss) on securities available for sale, net of tax of $(4) and
$43 in 1999 and 1998, respectively (10) 82
Treasury stock at cost (5,000 shares in 1999) (60) -
-------- --------
Total shareholders' equity 21,015 20,655
-------- --------
Total liabilities and shareholders' equity $196,634 $199,743
-------- --------
-------- --------
</TABLE>
Page 3
<PAGE>
MERRILL MERCHANTS BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
(IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA) 1999 1998
---- ----
<S> <C> <C>
Interest and dividend income
Interest and fees on loans $2,884 $2,827
Interest on investment securities 698 655
Dividends on investment securities 77 17
Interest on federal funds sold and interest-
bearing deposits 12 11
------- -------
Total interest and dividend income 3,671 3,510
------- -------
Interest expense
Interest on deposits 1,386 1,364
Interest on borrowed funds 148 249
------- -------
Total interest expense 1,534 1,613
------- -------
Net interest income 2,137 1,897
Provision for loan losses 75 90
------- -------
Net interest income after provision for
loan losses 2,062 1,807
------- -------
Non-interest income
Service charges on deposit accounts 123 120
Other service charges and fees 170 115
Trust fees 196 151
Other 100 45
Net gain on sale of mortgage loans 115 50
------- -------
Total non-interest income 704 481
------- -------
Non-interest expense
Salaries and employee benefits 946 852
Occupancy expense 159 166
Equipment expense 132 123
Data processing 177 160
Other 544 394
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Total non-interest expense 1,958 1,695
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Income before income taxes 808 593
Income tax expense 368 213
------- -------
Net income $ 440 $ 380
------- -------
------- -------
Per share data
Basic earnings per common share $ .17 $ .21
------- -------
------- -------
Diluted earnings per common share $ .15 $ .18
------- -------
------- -------
</TABLE>
Page 4
<PAGE>
MERRILL MERCHANTS BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
(UNAUDITED)
(IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)
<TABLE>
<CAPTION>
UNREALIZED
CONVERTIBLE GAIN (LOSS)
CUMULATIVE ON SECURITIES TOTAL
PREFERRED COMMON CAPITAL RETAINED AVAILABLE TREASURY SHAREHOLDERS'
STOCK STOCK SURPLUS EARNINGS FOR SALE STOCK EQUITY
---------- -------- -------- -------- ------------- --------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1997 $ 20 $ 1,542 $ 7,754 $ 1,647 $ 4 $ -- $ 10,967
Net income -- -- -- 380 -- 380
Change in unrealized gain (loss) on
securities available for sale, net
of deferred income taxes of $23 -- -- -- -- 45 -- 45
-------- -------- -------- -------- -------- -------- --------
Total comprehensive income -- -- -- 380 45 -- 425
Common stock options exercised,
34,848 shares -- 35 145 -- -- -- 180
5% common stock dividend declared -- 79 488 (568) -- -- (1)
Common stock cash dividend declared,
$0.03 per share -- -- -- (46) -- -- (46)
Convertible cumulative preferred
stock dividends declared, $0.97
per share -- -- -- (19) -- -- (19)
-------- -------- -------- -------- -------- -------- --------
Balance at March 31, 1998 $ 20 $ 1,656 $ 8,387 $ 1,394 $ 49 $ -- $ 11,506
-------- -------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- -------- --------
Balance at December 31, 1998 $ 20 $ 2,388 $ 15,527 $ 2,638 $ 82 $ -- $ 20,655
Net income -- -- -- 440 -- -- 440
Change in unrealized gain (loss) on
securities available for sale, net
of deferred income taxes of $(47) -- -- -- -- (92) -- (92)
-------- -------- -------- -------- -------- -------- --------
Total comprehensive income -- -- -- 440 (92) -- 348
Treasury stock purchased (10,258 shares
at an average price of $11.46) -- -- -- -- -- (118) (118)
Common stock options exercised,
91,369 shares -- 73 172 (27) -- 58 276
5% common stock dividend declared -- 122 1,424 (1,546) -- -- --
Common stock cash dividend
declared, $0.03 per share -- -- -- (129) -- -- (129)
Convertible cumulative preferred
stock dividends declared, $0.88
per share -- -- -- (17) -- -- (17)
-------- -------- -------- -------- -------- -------- --------
Balance at March 31, 1999 $ 20 $ 2,583 $ 17,123 $ 1,359 $ (10) $ (60) $ 21,015
-------- -------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- -------- --------
</TABLE>
Page 5
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MERRILL MERCHANTS BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
(IN THOUSANDS) 1999 1998
---- ----
<S> <C> <C>
Cash flows from operating activities
Net income $ 440 $ 380
Adjustments to reconcile net income to net cash provided (used) by operating activities
Depreciation 73 86
Amortization 57 34
Net amortization (accretion) on investment securities 49 (24)
Deferred income taxes (59) 5
Originations of loans held for sale (7,710) (6,447)
Proceeds from sales of loans held for sale 9,993 4,839
Decrease (increase) in accrued income and other assets 135 (12)
Increase in accrued expenses and other liabilities 131 265
Decrease in deferred loan fees, net - (5)
Provision for loan losses 75 90
Provision for losses on other real estate owned - 5
Net gain on sale of mortgage loans and property and equipment (144) (49)
--------- ---------
Net cash provided (used) by operating activities 3,040 (833)
--------- ---------
Cash flows from investing activities
Net decrease in loans made to customers 4,501 1,177
Acquisition of premises and equipment (21) (32)
Proceeds from the sale of premises and equipment 160 -
Purchase of investment securities available for sale (14,135) (4,614)
Proceeds from sales and maturities of investment securities
Sales and maturities of available for sale securities 13,543 3,739
Maturities of held to maturity securities 99 222
Proceeds from sale of other real estate owned 92 38
--------- ---------
Net cash provided by investing activities 4,239 530
--------- ---------
Cash flows from financing activities
Net decrease in demand, savings and NOW deposits (3,396) (5,088)
Net decrease in certificates of deposit (1,737) (826)
Net increase (decrease) in securities sold under agreement to repurchase (56) 1,657
Net increase in other borrowed funds 1,589 712
Payment of long-term debt - (150)
Dividends paid on convertible cumulative preferred stock and common stock (146) (66)
Purchase of treasury stock (118) -
Proceeds from stock issuance 276 180
--------- ---------
Net cash used in financing activities (3,588) (3,581)
--------- ---------
Net increase (decrease) in cash and cash equivalents 3,691 (3,884)
Cash and cash equivalents, beginning of period 7,627 10,659
--------- ---------
Cash and cash equivalents, end of period $11,318 $ 6,775
--------- ---------
--------- ---------
Supplemental disclosures of cash flow information
Cash paid for interest $ 1,520 $ 1,602
Transfers to other real estate owned 80 -
Income tax paid 72 71
</TABLE>
Page 6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB 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. All significant intercompany transactions and balances are
eliminated in consolidation. The income reported for the 1999 period is not
necessarily indicative of the results that may be expected for the year ending
December 31, 1999. For further information, refer to the consolidated financial
statements and footnotes thereto included in the Company's annual report on Form
10-KSB for the year ended December 31, 1998.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant change in
the near term relate to the determination of the allowance for loan losses and
the valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the allowance for
loan losses and the carrying value of real estate owned, management obtains
independent appraisals for significant properties.
The allowance for credit losses is maintained at a level adequate to absorb
probable losses. Management determines the adequacy of the allowance based upon
reviews of individual credits, recent loss experience, current economic
conditions, the risk characteristics of the various categories of loans and
other pertinent factors. Credits deemed uncollectible are charged to the
allowance. Provisions for credit losses and recoveries on loans previously
charged off are added to the allowance.
NOTE 2 - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share for the three months ended March 31 (in thousands, except for number of
shares and per-share data):
<TABLE>
<CAPTION>
1999 1998
----------- -----------
<S> <C> <C>
Basic earnings per share
Net income, as reported $ 440 $ 380
Preferred stock dividends declared (17) (19)
----------- -----------
Income available to common shareholders $ 423 $ 361
----------- -----------
----------- -----------
</TABLE>
Page 7
<PAGE>
<TABLE>
<CAPTION>
1999 1998
----------- -----------
<S> <C> <C>
Weighted-average shares outstanding 2,545,903 1,730,545
----------- -----------
----------- -----------
Basic earnings per share $ 0.17 $ 0.21
----------- -----------
----------- -----------
Diluted earnings per share
Net income, as reported $ 440 $ 380
Interest on mandatory convertible debentures, net of tax 4 5
----------- -----------
Income available to common shareholders $ 444 $ 385
----------- -----------
----------- -----------
Weighted-average shares outstanding 2,545,903 1,730,545
Effect of stock options, net of assumed treasury stock purchases 232,813 138,291
Effect of convertible preferred stock 209,798 209,798
Effect of mandatory convertible debentures 69,930 69,930
----------- -----------
Adjusted weighted-average shares outstanding 3,058,444 2,148,564
----------- -----------
----------- -----------
Diluted earnings per share $ 0.15 $ 0.18
----------- -----------
----------- -----------
</TABLE>
The basic earnings per share computation is based upon the weighted-average
number of shares of stock outstanding during the period. Potential common stock
is considered in the calculation of weighted-average shares outstanding for
diluted earnings per share.
The Company declared a 5% stock dividend in 1999 and 1998. In addition, the
Company declared a stock split effected in the form of an 800% stock dividend in
1998. Earnings and cash dividends per share and weighted-average shares
outstanding have been retroactively restated to reflect the stock dividends.
NOTE 3 - IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
The Company adopted Statement of Financial Accounting Standards (SFAS) No. 131,
"Reporting Comprehensive Income," in 1998. The Statement contains certain
presentation and disclosure requirements concerning the components of
comprehensive income and the changes therein. The consolidated statement of
changes in shareholders' equity has been presented in accordance with the
requirements of the Statement.
The Company has presented earnings per share data in accordance with SFAS No.
128, "Earnings per Share." The Statement requires publicly traded entities to
present basic and diluted earnings per common share.
In 1998, the American Institute of Certified Public Accountants issued Statement
of Position (SOP) No. 98-5, "Reporting on the Costs of Start-Up Activities." The
SOP requires costs of start-up activities to be expensed as incurred. The SOP is
effective for years beginning after December 15, 1999. The Company adopted the
SOP in 1999 resulting in a write-off of $44,000 included in other expenses in
the consolidated statement of income for the period ended March 31, 1999.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," is
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effective for years beginning after December 31, 1997. This
Statement requires a company to disclose certain income statement and balance
sheet information by operating segment. Since the Company's operations consist
entirely of banking activities, the statement imposes no additional disclosure
requirements on the Company.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," is
effective for years beginning after June 15, 1999. This Statement establishes
accounting and reporting standards for derivative instruments and for hedging
activities. As the Company currently holds no derivative instruments, the
Statement is expected to have no impact on the Company's financial statements.
NOTE 4 - STOCK OPTIONS
A summary of the status of the Employee and Director Stock Option Plan as of
March 31, 1999, and changes during the three months then ended, is presented
below.
<TABLE>
<CAPTION>
NUMBER WEIGHTED
OF SHARES EXERCISE PRICE
--------- --------------
<S> <C> <C>
Outstanding at beginning of period 493,131 $5.16
Granted during the period - -
Exercised during the period (91,369) 4.79
Additional shares for which options are exercisable
due to stock dividends 22,400 -
-------- ------
Outstanding at end of period 424,162 $4.97
-------- ------
-------- ------
</TABLE>
Page 9
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Certain matters discussed in this Report on Form 10-QSB are forward-looking
statements that are subject to risks and uncertainties that could cause actual
results to differ materially from those projected. Such risks and uncertainties
include, but are not limited to, those described in Management's Discussion and
Analysis of Financial Condition and Results of Operations. Changes to such risks
and uncertainties, which could impact future financial performance, include,
among other things, (1) competitive pressures in the banking industry; (2)
changes in the interest rate environment; (3) general economic conditions,
either nationally or regionally; (4) changes in the regulatory environment; (5)
changes in business conditions and inflation; and (6) changes in security
markets. Therefore, the information set forth therein should be carefully
considered when evaluating the business prospects of the Company and the Bank.
I. COMPARISON OF FINANCIAL CONDITION AT MARCH 31, 1999 AND DECEMBER 31, 1998
Total assets decreased $3.1 million or 2% to $196.6 million during the first
three months of 1999. The decrease was the result of a decline in the loan
portfolio of $4.6 million or 4%, a decrease in loans held for sale of $2.3
million and an increase in cash and due from banks of $3.2 million. Low interest
rates continue to stimulate secondary market saleable loan opportunities
resulting in a decline in portfolio residential and home equity loan balances. A
decrease in commercial real estate balances from year end is a result of
seasonal declines, competitive interest rates, and an adherence to sound
underwriting standards.
Total deposits decreased $5.1 million or 3% to $159.0 million for the first
three months of 1999. Interest bearing checking account balances decreased $4.4
million since December 31, 1998 and certificates of deposit balances decreased
by $1.7 million since year end. This decrease is consistent with the Bank's
cycle during which deposits typically dip to their lowest levels early in the
year and trend steadily upward to their highest levels during the fourth
quarter.
In originating loans, the Bank recognizes that loan losses will be experienced
and that the risk of loss will vary with, among other things, the type of loan
being made, the creditworthiness of the borrower over the term of the loan and,
in the case of collateralized loans, the quality of the collateral for the loan
as well as general economic conditions. It is management's policy to attempt to
maintain an adequate allowance for loan losses based on, among other things,
industry standards, management's experience, the Bank's historical loan loss
experience, evaluation of economic conditions and regular reviews of
delinquencies and loan portfolio quality.
Management continues to actively monitor the Bank's asset quality and to charge
off loans against the allowance for loan losses when appropriate or to provide
specific loan allowances when necessary. Although management believes it uses
the best information available to make determinations with respect to the
allowance for loan losses, future adjustments may be necessary if economic
conditions differ from the economic conditions in the assumptions used in making
the
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final determinations. The Bank's allowance for loan losses amounted to $2.1
million at March 31, 1999 (1.71% of total loans), an increase of $88,000 over
the Bank's $2.0 million allowance for loan losses at December 31, 1998.
II. RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
Net income for the three months ended March 31, 1999 was $440,000, an increase
of $60,000 or 16% from the same period in 1998. The increase in earnings between
the periods is due to an increase in net interest income resulting from growth
in loans and investment securities and a 46% increase in non-interest income.
Although earnings for the first quarter of 1999 exceeded 1998 by 16%, diluted
earnings per share decreased 17% from $0.18 per share for the first quarter of
1998 to $0.15 for the same period in 1999. This is due to the increase in the
weighted average shares outstanding from approximately 2.2 million in 1998 to
3.1 million in 1999. The increase in shares outstanding is the result of 690,000
shares issued in connection with an initial public offering in August 1998 and
the exercise of stock options.
The annualized return on average assets for the three months ended March 31,
1999 and 1998 was .91% and .89%, respectively. Return on average shareholders'
equity on an annualized basis for the same 1999 and 1998 three month periods was
8.55% and 13.69%, respectively.
III. NET INTEREST INCOME
Net interest income is interest earned on interest-earning assets less interest
incurred on interest-bearing liabilities. Interest-earning assets are
categorized as loans, investment securities and other earning assets, which
include Federal Funds sold and interest bearing deposits from other financial
institutions. Interest-bearing liabilities are categorized as customer deposits,
time and savings deposits and borrowings including repurchase agreements,
short-term borrowings and long-term debt. Net interest income depends on the
volume of average interest-earning assets and average interest-bearing
liabilities and the interest rates earned or incurred on them.
Net interest income for the three months ended March 31, 1999 was $2.1 million,
a 13% increase over the net interest income for the first three months of 1998
of $1.9 million. This increase is attributable to an increase in average earning
assets (both loans and investment securities) from $164.9 million in 1998 to
$185.0 million in 1999. This was accompanied by a decline in the average rate
earned on interest-earning assets from 8.56% to 7.98% for the three months ended
March 31, 1998 and 1999, respectively. The decrease in rates is due to the
Federal Reserve reducing the federal funds rate from 5.50% to 4.75% during the
fourth quarter of 1998.
The average interest rate incurred on interest-bearing liabilities for the three
month period in 1999 and 1998 was 4.14% and 4.69%, respectively on average
interest-bearing liabilities of $150.2 million in 1999 and $139.4 million in
1998. Despite the decrease in general interest rates, the Company's net interest
margin increased to 4.61% for the three months ended March 31, 1999
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compared to 4.59% for the same period in 1998. The net interest margin increased
in 1999 due to additional capital of $7.7 million raised in the initial public
offering in August 1998. Management currently anticipates a future decline in
the net interest margin due to the low interest rate environment and
industry-wide pricing pressure on loans and deposits.
IV. NON-INTEREST INCOME
Non-interest income for the three months ended March 31, 1999 and 1998 totaled
$704,000 and $481,000, respectively, an increase of $223,000 or 46%. The
increase is primarily due to an increase in gain on sale of mortgage loans of
$65,000, trust fees of $45,000 and merchant processing fees of $36,000. In
addition, a $29,000 gain was realized from the sale of a facility which was
formerly the Union Street branch office. Lower interest rates on the national
level have resulted in increased secondary market loan activity translating to
increases in gains on mortgage loan sales. The mortgage servicing portfolio
increased to $62.5 million at March 31, 1999, an increase of $5.8 million since
year end. Trust fees have increased due to growth of trust assets under
management to $151.2 million at March 31, 1999 compared with trust assets of
$98.5 million at March 31, 1998.
V. NON-INTEREST EXPENSE
Non-interest expense increased by $263,000, an increase of 16%, for the three
months ended March 31, 1999 as compared to the same period in 1998. Salaries and
employee benefits increased by $94,000 or 38% in the first three months of 1999
compared to 1998. This increase was the result of normal annual increases and
the addition of employees. Professional fees increased $65,000 in the three
months ended March 31, 1999 due to the additional cost of operating as a public
stock institution. For the three months ended March 31, 1999, other expenses
include a $44,000 write-off of organization cost related to the adoption of
Statement of Position No. 98-5. Annual operating expenses are also expected to
increase in future periods due to future branching and product expansion.
VI. CAPITAL
A 5% common stock dividend was distributed on March 15, 1999. Cash dividends per
share declared on common stock were $.05 for the first quarter of 1999.
Under Federal Reserve Board guidelines, bank holding companies such as the
Company are required to maintain capital based on "risk-adjusted" assets. These
guidelines apply to the Company on a consolidated basis. Under the current
guidelines, banking organizations must maintain a risk-based capital ratio of
eight percent. The Company's risk based capital ratios for Tier 1 and Tier 2
capital at March 31, 1999, of 17.23% and 18.73%, respectively, exceed regulatory
guidelines for a "well capitalized" financial institution. The Company's ratios
at December 31, 1998 were 16.39% and 17.89%.
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On February 18, 1999, the Board of Directors approved the repurchase of up to
45,000 shares of the Company's common stock. The shares will be repurchased into
treasury for the purpose of funding the expected exercise of stock options
pursuant to the Company's stock option plan.
VII. YEAR 2000 ISSUES
The Company utilizes various computer software programs to provide banking
products and services to its customers. Many existing computer programs use only
two digits to identify a year in the date field and were not designed to
consider the impact of the upcoming change in the century. If not corrected,
many computer applications could fail or create erroneous results by or at the
Year 2000. The Year 2000 issue affects virtually all companies and
organizations.
The Company adopted a plan to minimize the Year 2000 risk. The plan included the
formation of a Year 2000 Committee to assess, monitor and review vendor
compliance and certification and to identify all systems and equipment used in
the daily operations of the Company that might be affected. The scope of the
project covers all computer systems including PC and network hardware and
software and mainframe software. It also covers all equipment and other systems
utilized in bank operations or in the premises from which the Company operates.
During 1998, the Company completed the awareness and assessment phase,
identified mission-critical systems, developed a testing strategy, worked on
contingency plans and undertook steps to verify that significant vendors,
suppliers and other related business parties will be ready for the year 2000.
Testing and validation of 95% of the Bank's mission-critical systems was
completed by March 31, 1999.
The Company is currently conducting tests of its mission critical systems and is
in compliance with the Federal Financial Institutions Examination Council's time
frames. The following table identifies each phase and the estimated timetable
for completion by the Company:
<TABLE>
<CAPTION>
Phase Status
<S> <C>
1. Awareness Completed
2. Assessment Completed
3. Renovation Completed
4. Validation/Testing Completion by April 30,1999
5. Implementation/Monitoring Implementation 95% completed/monitoring
through year 2000
6. Contingency Planning Completion by May 31, 1999
</TABLE>
The Company utilizes various third party service providers to perform its most
mission critical applications. Each service provider has informed the Company
that the software programming for its applications has been completed. The
following identifies each mission critical application and the current status of
testing:
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LOANS, DEPOSITS AND GENERAL LEDGER
Testing of programs commenced in October 1998 and proxy testing and
validation was completed in March 1999. On-line connectivity tests were
successfully completed in March 1999. Interface testing is scheduled
for April 1999.
ITEM PROCESSING/CASH LETTER PRESENTMENT
Renovations were completed by the service provider in September 1998.
Validation was completed in December 1998 and implementation and
interface testing is expected to be completed by April 1999.
WIRE TRANSFER FUNCTION
Century roll-over and leap year testing have been successfully
completed.
MERCHANT AND CREDIT CARD PROCESSING
Renovation of all critical systems was completed in November 1998.
Testing by the service provider was completed. Proxy testing was
successfully performed and the results were published in April 1999.
TRUST AND INVESTMENT OPERATIONS
Renovation has been completed. Implementation and validation are
completed. Proxy testing was successfully performed and the results
were published in March 1999.
The Company has a formal customer due-diligence plan. The Company has
communicated with its large borrowers and corporate customers to determine the
extent to which the Company is vulnerable to those third parties if they fail to
resolve their Year 2000 issues. The Company has performed an initial assessment
of each major borrower and has established an ongoing assessment as part of the
Company's credit granting, loan renewal and monitoring process. During the
second quarter of 1999, the Company will be focusing on customer communication.
This will include additional staff training in responding to Year 2000 inquiries
and periodic information mailings to customers.
The Company has estimated that total costs directly related to Year 2000 issues,
such as software modification and system testing, will not have a material
effect on the performance of the Company. The Year 2000 budget for 1999 is
$50,000. Total direct costs to date are less than $18,000 (excluding employee
hours). Purchased hardware and software will be capitalized in accordance with
normal policy. The majority of costs associated with new software or upgraded
hardware would have been incurred in the normal course of operations regardless
of the year 2000 issue.
The Company's potentially worst case Year 2000 scenarios may include the failure
of a vendor or third party provider, which is beyond the Company's control. In
the event a failure occurs, the Company expects to be able to implement manual
contingency systems without serious impact on the Company's financial condition.
The Company has created several basic contingency plans and is currently in the
process of assessing these plans for the possible impact of Year 2000 failures.
It will adjust its existing contingency plans where appropriate and possible for
those scenarios that may have the most severe impact on its operations. This
activity was substantially completed in the first quarter of 1999 and will be
finalized by May 31, 1999. Management believes the Company is adequately
addressing the Year 2000 issue and that the current preparations and testing
being conducted all seek to minimize any potential adverse effect on the Company
or its customers.
Page 14
<PAGE>
VIII. EXPANSION STRATEGY
The Company formed a new subsidiary, Maine Acceptance Corporation (MAC), a
finance company, which opened for business in Bangor on March 1, 1999.
Management believes MAC will fill in existing void in the local consumer loan
market. MAC will provide credit products commonly referred to as "sub-prime"
lending, which usually denotes a weakness in credit history or a high
loan-to-value on collateral. MAC will engage in indirect auto lending, as well
as provide other types of loans, including personal unsecured loans,
recreational vehicle loans, auto loans, mobile home loans and home equity loans.
Management is cognizant of the competitive challenges community banks face, and
are aggressively exploring alternative service delivery channels, including
convenience store banking. This appears to be a cost effective method of
expanding our franchise and providing additional customer service. The Company
is also expanding our ATM services with the addition of eight new terminals
which will be placed in high traffic areas, including convenience stores.
PART II. OTHER INFORMATION
<TABLE>
<S> <C> <C>
Item 1 Legal Proceedings None
Item 2 Changes in Securities None
Item 3 Defaults upon Senior Securities None
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 See Exh. 27-Financial Data Schedule *
</TABLE>
*Filed in electronic format only.
Page 15
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MERRILL MERCHANTS BANCSHARES, INC.
Date: 5/13/99 By: /s/ EDWIN N. CLIFT
--------------------------- ----------------------------
Edwin N. Clift
President and Chief
Executive Officer
(Principal Executive Officer)
Date: 5/13/99 By: /s/ DEBORAH A. JORDAN
--------------------------- ----------------------------
Deborah A. Jordan
Senior Vice President and
Treasurer (Principal Financial
and Accounting Officer)
Page 16
<TABLE> <S> <C>
<PAGE>
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