Table of Contents
UNITED
STATES
SECURITIES AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM 10-Q
(Mark One)
x
|
QUARTERLY REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
|
|
|
For the quarterly period ended September 30,
2008
|
|
|
OR
|
|
|
o
|
TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
|
Commission File Number
0-18832
First Financial Service Corporation
(Exact Name of Registrant as
specified in its charter)
Kentucky
|
|
61-1168311
|
(State or other jurisdiction
|
|
(IRS Employer Identification No.)
|
of incorporation or organization)
|
|
|
2323 Ring
Road
Elizabethtown,
Kentucky 42701
(Address of principal
executive offices)
(Zip Code)
(270) 765-2131
(Registrants 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 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
o
Indicate by check mark whether the registrant is a
large accelerated filer, an accelerated filer, a non-accelerated filer, or a
smaller reporting company. See
definition of accelerated filer, large accelerated filer and smaller
reporting company in Rule 12b-2 of the Exchange Act.
Large
Accelerated Filer
o
|
Accelerated
Filer
x
|
Non-Accelerated
Filer
o
|
Smaller
Reporting Company
o
|
|
|
(Do
not check if a smaller
|
|
|
|
reporting
company)
|
|
Indicate
by a check mark whether the registrant is a shell company (as defined in Rule 12b-2
of the Exchange Act). Yes
o
No
x
Indicate
the number of shares outstanding of each of the issuers classes of common
stock, as of the latest practicable date.
Class
|
|
Outstanding as of October 31, 2008
|
|
|
|
Common Stock
|
|
4,668,030 shares
|
Table of Contents
PRELIMINARY
NOTE REGARDING
FORWARD-LOOKING
STATEMENTS
Statements
in this report that are not statements of historical fact are forward-looking
statements. First Financial Service Corporation (the Corporation) may make
forward-looking statements in future filings with the Securities and Exchange
Commission (SEC), in press releases, and in oral and written statements made
by or with the approval of the Corporation.
Forward-looking statements include, but are not limited to: (1) projections
of revenues, income or loss, earnings or loss per share, capital structure and
other financial items; (2) plans and objectives of the Corporation or its
management or Board of Directors; (3) statements regarding future events,
actions or economic performance; and (4) statements of assumptions
underlying such statements. Words such
as estimate, strategy, believes, anticipates, expects, intends, plans,
targeted, and similar expressions are intended to identify forward-looking
statements, but are not the exclusive means of identifying such statements.
Various risks and uncertainties may cause actual results to
differ materially from those indicated by our forward-looking statements. In addition to those risks described under Item
1A Risk Factors, of this report and our Annual Report on Form 10-K, the
following factors could cause such differences: changes in general economic
conditions and economic conditions in Kentucky and the markets we serve, any of
which may affect, among other things, our level of non-performing assets,
charge-offs, and provision for loan loss expense; changes in interest rates
that may reduce interest margins and impact funding sources; changes in market
rates and prices which may adversely impact the value of financial products
including securities, loans and deposits; changes in tax laws, rules and
regulations; various monetary and fiscal policies and regulations, including
those determined by the Federal Reserve Board, the Federal Deposit Insurance
Corporation (FDIC) and the Kentucky Office of Financial Institutions (KOFI);
competition with other local and regional commercial banks, savings banks,
credit unions and other non-bank financial institutions; our ability to grow
core businesses; our ability to develop and introduce new banking-related
products, services and enhancements and gain market acceptance of such
products; and managements ability to manage these and other risks.
Our forward-looking statements speak only as of the date on
which they are made, and we undertake no obligation to update any
forward-looking statement to reflect events or circumstances after the date of
the statement to reflect the occurrence of unanticipated events.
3
Table
of Contents
Item
1.
|
|
FIRST
FINANCIAL SERVICE CORPORATION
|
|
|
Consolidated
Balance Sheets
|
|
|
(Unaudited)
|
|
|
September 30,
|
|
December 31,
|
|
(Dollars in thousands, except share data)
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
ASSETS:
|
|
|
|
|
|
Cash and due
from banks
|
|
$
|
27,079
|
|
$
|
14,948
|
|
Federal funds
sold
|
|
4,600
|
|
|
|
Cash and cash
equivalents
|
|
31,679
|
|
14,948
|
|
|
|
|
|
|
|
Securities
available-for-sale
|
|
17,119
|
|
22,004
|
|
Securities
held-to-maturity, fair value of $7,583 (Sept 2008) and $17,624 (Dec 2007)
|
|
7,658
|
|
17,681
|
|
Total securities
|
|
24,777
|
|
39,685
|
|
|
|
|
|
|
|
Loans held for
sale
|
|
2,191
|
|
780
|
|
Loans, net of
unearned fees
|
|
870,294
|
|
767,256
|
|
Allowance for
loan losses
|
|
(10,508
|
)
|
(7,922
|
)
|
Net loans
|
|
861,977
|
|
760,114
|
|
|
|
|
|
|
|
Federal Home
Loan Bank stock
|
|
8,515
|
|
7,621
|
|
Cash surrender
value of life insurance
|
|
8,561
|
|
8,290
|
|
Premises and
equipment, net
|
|
30,246
|
|
26,335
|
|
Real estate
owned:
|
|
|
|
|
|
Acquired through
foreclosure
|
|
5,649
|
|
1,749
|
|
Held for
development
|
|
45
|
|
45
|
|
Other
repossessed assets
|
|
91
|
|
52
|
|
Goodwill
|
|
12,166
|
|
8,384
|
|
Core deposit
intangible
|
|
1,851
|
|
|
|
Accrued interest
receivable
|
|
4,169
|
|
4,324
|
|
Other assets
|
|
1,549
|
|
1,144
|
|
|
|
|
|
|
|
TOTAL
ASSETS
|
|
$
|
991,275
|
|
$
|
872,691
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS EQUITY
|
|
|
|
|
|
LIABILITIES:
|
|
|
|
|
|
Deposits:
|
|
|
|
|
|
Non-interest
bearing
|
|
$
|
63,051
|
|
$
|
46,978
|
|
Interest bearing
|
|
713,870
|
|
642,265
|
|
Total deposits
|
|
776,921
|
|
689,243
|
|
|
|
|
|
|
|
Short-term
borrowings
|
|
65,300
|
|
42,800
|
|
Advances from
Federal Home Loan Bank
|
|
52,981
|
|
53,083
|
|
Subordinated
debentures
|
|
18,000
|
|
10,000
|
|
Accrued interest
payable
|
|
458
|
|
1,093
|
|
Accounts payable
and other liabilities
|
|
2,036
|
|
1,789
|
|
Deferred income
taxes
|
|
1,123
|
|
1,223
|
|
|
|
|
|
|
|
TOTAL
LIABILITIES
|
|
916,819
|
|
799,231
|
|
Commitments and
contingent liabilities
|
|
|
|
|
|
|
|
|
|
|
|
STOCKHOLDERS
EQUITY:
|
|
|
|
|
|
Serial preferred
stock, 5,000,000 shares authorized and unissued
|
|
|
|
|
|
Common stock, $1
par value per share; authorized 10,000,000 shares; issued and outstanding,
4,668,030 shares (Sept 2008), and 4,661,083 shares (Dec 2007)
|
|
4,668
|
|
4,661
|
|
Additional
paid-in capital
|
|
34,115
|
|
33,886
|
|
Retained
earnings
|
|
37,539
|
|
35,225
|
|
Accumulated
other comprehensive loss
|
|
(1,866
|
)
|
(312
|
)
|
|
|
|
|
|
|
TOTAL
STOCKHOLDERS EQUITY
|
|
74,456
|
|
73,460
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS EQUITY
|
|
$
|
991,275
|
|
$
|
872,691
|
|
See
notes to the unaudited consolidated financial statements.
4
Table
of Contents
FIRST
FINANCIAL SERVICE CORPORATION
|
Consolidated
Statements of Income
|
(Unaudited)
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
September 30,
|
|
(Dollars in thousands, except per share data)
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
Interest
and Dividend Income:
|
|
|
|
|
|
|
|
|
|
Loans, including
fees
|
|
$
|
14,337
|
|
$
|
14,760
|
|
$
|
41,718
|
|
$
|
43,065
|
|
Taxable
securities
|
|
403
|
|
490
|
|
1,095
|
|
1,638
|
|
Tax exempt
securities
|
|
90
|
|
102
|
|
297
|
|
317
|
|
Total interest
income
|
|
14,830
|
|
15,352
|
|
43,110
|
|
45,020
|
|
|
|
|
|
|
|
|
|
|
|
Interest
Expense:
|
|
|
|
|
|
|
|
|
|
Deposits
|
|
5,325
|
|
6,695
|
|
15,815
|
|
19,082
|
|
Short-term
borrowings
|
|
156
|
|
465
|
|
661
|
|
1,452
|
|
Federal Home
Loan Bank advances
|
|
610
|
|
345
|
|
1,808
|
|
1,022
|
|
Subordinated
debentures
|
|
315
|
|
167
|
|
649
|
|
549
|
|
Total interest
expense
|
|
6,406
|
|
7,672
|
|
18,933
|
|
22,105
|
|
|
|
|
|
|
|
|
|
|
|
Net interest
income
|
|
8,424
|
|
7,680
|
|
24,177
|
|
22,915
|
|
Provision for
loan losses
|
|
1,720
|
|
740
|
|
2,819
|
|
948
|
|
Net interest
income after provision for loan losses
|
|
6,704
|
|
6,940
|
|
21,358
|
|
21,967
|
|
|
|
|
|
|
|
|
|
|
|
Non-interest
Income:
|
|
|
|
|
|
|
|
|
|
Customer service
fees on deposit accounts
|
|
1,817
|
|
1,511
|
|
4,865
|
|
4,274
|
|
Gain on sale of
mortgage loans
|
|
179
|
|
144
|
|
566
|
|
435
|
|
Gain on sale of
investments
|
|
52
|
|
|
|
52
|
|
|
|
Gain on sale of
real estate held for development
|
|
|
|
|
|
|
|
227
|
|
Losses on securities
transactions
|
|
|
|
|
|
(216
|
)
|
|
|
Write down on
real estate acquired through foreclosure
|
|
(151
|
)
|
|
|
(160
|
)
|
|
|
Brokerage
commissions
|
|
109
|
|
106
|
|
352
|
|
308
|
|
Other income
|
|
361
|
|
444
|
|
1,001
|
|
945
|
|
Total
non-interest income
|
|
2,367
|
|
2,205
|
|
6,460
|
|
6,189
|
|
|
|
|
|
|
|
|
|
|
|
Non-interest
Expense:
|
|
|
|
|
|
|
|
|
|
Employee
compensation and benefits
|
|
3,867
|
|
3,136
|
|
10,765
|
|
9,365
|
|
Office occupancy
expense and equipment
|
|
779
|
|
604
|
|
2,112
|
|
1,766
|
|
Marketing and
advertising
|
|
215
|
|
228
|
|
638
|
|
677
|
|
Outside services
and data processing
|
|
882
|
|
638
|
|
2,365
|
|
1,974
|
|
Bank franchise
tax
|
|
258
|
|
234
|
|
761
|
|
699
|
|
Write off of
issuance cost of Trust Preferred Securities
|
|
|
|
|
|
|
|
229
|
|
Amortization of
core deposit intangible
|
|
56
|
|
|
|
59
|
|
|
|
Other expense
|
|
1,580
|
|
1,166
|
|
3,791
|
|
3,112
|
|
Total
non-interest expense
|
|
7,637
|
|
6,006
|
|
20,491
|
|
17,822
|
|
|
|
|
|
|
|
|
|
|
|
Income before
income taxes
|
|
1,434
|
|
3,139
|
|
7,327
|
|
10,334
|
|
Income taxes
|
|
443
|
|
1,008
|
|
2,354
|
|
3,343
|
|
Net
Income
|
|
$
|
991
|
|
$
|
2,131
|
|
$
|
4,973
|
|
$
|
6,991
|
|
|
|
|
|
|
|
|
|
|
|
Shares
applicable to basic income per share
|
|
4,667,081
|
|
4,681,582
|
|
4,665,058
|
|
4,739,352
|
|
Basic
income per share
|
|
$
|
0.21
|
|
$
|
0.46
|
|
$
|
1.07
|
|
$
|
1.48
|
|
|
|
|
|
|
|
|
|
|
|
Shares
applicable to diluted income per share
|
|
4,683,978
|
|
4,731,496
|
|
4,689,458
|
|
4,792,560
|
|
Diluted
income per share
|
|
$
|
0.21
|
|
$
|
0.45
|
|
$
|
1.06
|
|
$
|
1.46
|
|
|
|
|
|
|
|
|
|
|
|
Cash
dividends declared per share
|
|
$
|
0.190
|
|
$
|
0.190
|
|
$
|
0.570
|
|
$
|
0.536
|
|
See
notes to the unaudited consolidated financial statements.
5
Table
of Contents
FIRST
FINANCIAL SERVICE CORPORATION
Consolidated
Statements of Comprehensive Income/Loss
(Unaudited)
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
Net
Income
|
|
$
|
991
|
|
$
|
2,131
|
|
$
|
4,973
|
|
$
|
6,991
|
|
Other
comprehensive income (loss):
|
|
|
|
|
|
|
|
|
|
Change in
unrealized gain (loss) on securities available-for-sale
|
|
(2,131
|
)
|
364
|
|
(2,518
|
)
|
(196
|
)
|
Reclassification
of realized amount
|
|
(52
|
)
|
|
|
164
|
|
|
|
Net unrealized
gain (loss) recognized in comprehensive income
|
|
(2,183
|
)
|
364
|
|
(2,354
|
)
|
(196
|
)
|
Tax effect
|
|
742
|
|
(124
|
)
|
800
|
|
66
|
|
Total other
comphrehensive income (loss)
|
|
(1,441
|
)
|
240
|
|
(1,554
|
)
|
(130
|
)
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
Income (Loss)
|
|
$
|
(450
|
)
|
$
|
2,371
|
|
$
|
3,419
|
|
$
|
6,861
|
|
See
notes to the unaudited consolidated financial statements.
6
Table
of Contents
FIRST
FINANCIAL SERVICE CORPORATION
Consolidated
Statement of Changes in Stockholders Equity
Nine
Months Ended September 30, 2008
(Dollars
In Thousands, Except Per Share Amounts)
(Unaudited)
|
|
Common Stock
|
|
Additional
Paid-in
|
|
Retained
|
|
Accumulated
Other
Comprehensive
(Loss), Net of
|
|
|
|
|
|
Shares
|
|
Amount
|
|
Capital
|
|
Earnings
|
|
Tax
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance,
January 1, 2008
|
|
4,661
|
|
$
|
4,661
|
|
$
|
33,886
|
|
$
|
35,225
|
|
$
|
(312
|
)
|
$
|
73,460
|
|
Net income
|
|
|
|
|
|
|
|
4,973
|
|
|
|
4,973
|
|
Stock issued for
employee benefit plans
|
|
7
|
|
7
|
|
137
|
|
|
|
|
|
144
|
|
Stock-based
compensation expense
|
|
|
|
|
|
92
|
|
|
|
|
|
92
|
|
Net change in
unrealized gains (losses) on securities available-for-sale, net of tax
|
|
|
|
|
|
|
|
|
|
(1,554
|
)
|
(1,554
|
)
|
Cash dividends
declared ($.57 per share)
|
|
|
|
|
|
|
|
(2,659
|
)
|
|
|
(2,659
|
)
|
Balance,
September 30, 2008
|
|
4,668
|
|
$
|
4,668
|
|
$
|
34,115
|
|
$
|
37,539
|
|
$
|
(1,866
|
)
|
$
|
74,456
|
|
See
notes to the unaudited consolidated financial statements.
7
Table of Contents
FIRST FINANCIAL SERVICE CORPORATION
Consolidated Statements of Cash Flows
(Dollars In Thousands)
(Unaudited)
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
|
2008
|
|
2007
|
|
Operating
Activities:
|
|
|
|
|
|
Net income
|
|
$
|
4,973
|
|
$
|
6,991
|
|
Adjustments to
reconcile net income to net cash provided by operating activities:
|
|
|
|
|
|
Provision for
loan losses
|
|
2,819
|
|
948
|
|
Depreciation on
premises and equipment
|
|
1,178
|
|
1,076
|
|
Federal Home
Loan Bank stock dividends
|
|
(309
|
)
|
|
|
Core deposit
intangible amortization
|
|
59
|
|
|
|
Net amortization
(accretion) available-for-sale
|
|
(3
|
)
|
(1
|
)
|
Net amortization
(accretion) held-to-maturity
|
|
18
|
|
16
|
|
Impairment loss
on securities
|
|
216
|
|
|
|
Gain on sale of
investments available-for-sale
|
|
(52
|
)
|
|
|
Gain on sale of
real estate held for development
|
|
|
|
(227
|
)
|
Gain on sale of
mortgage loans
|
|
(566
|
)
|
(435
|
)
|
Origination of
loans held for sale
|
|
(47,277
|
)
|
(25,778
|
)
|
Proceeds on sale
of loans held for sale
|
|
46,432
|
|
25,479
|
|
Stock-based
compensation expense
|
|
92
|
|
76
|
|
Changes in:
|
|
|
|
|
|
Cash surrender
value of life insurance
|
|
(271
|
)
|
(249
|
)
|
Interest
receivable
|
|
155
|
|
(170
|
)
|
Other assets
|
|
(17
|
)
|
(5
|
)
|
Interest payable
|
|
(763
|
)
|
767
|
|
Accounts payable
and other liabilities
|
|
(589
|
)
|
255
|
|
Net cash from
operating activities
|
|
6,095
|
|
8,743
|
|
|
|
|
|
|
|
Investing
Activities:
|
|
|
|
|
|
Cash paid for
acquisition of Farmers State Bank, net of cash acquired
|
|
(1,466
|
)
|
|
|
Sales of
securities available-for-sale
|
|
679
|
|
|
|
Purchases of
securities available-for-sale
|
|
(524
|
)
|
(395
|
)
|
Maturities of
securities available-for-sale
|
|
2,208
|
|
5,663
|
|
Maturities of
securities held-to-maturity
|
|
12,517
|
|
3,747
|
|
Net change in
loans
|
|
(58,518
|
)
|
(64,083
|
)
|
Net purchases of
premises and equipment
|
|
(4,070
|
)
|
(4,010
|
)
|
Sales of real
estate for development
|
|
|
|
473
|
|
Net cash from
investing activities
|
|
(49,174
|
)
|
(58,605
|
)
|
|
|
|
|
|
|
Financing
Activities
|
|
|
|
|
|
Net change in
deposits
|
|
31,927
|
|
55,567
|
|
Change in
short-term borrowings
|
|
22,500
|
|
(300
|
)
|
Repayments to
Federal Home Loan Bank
|
|
(102
|
)
|
(106
|
)
|
Proceeds from
issuance of subordinated debentures
|
|
8,000
|
|
10,000
|
|
Payoff of
subordinated debentures
|
|
|
|
(10,000
|
)
|
Issuance of
common stock for employee benefit plans
|
|
144
|
|
175
|
|
Dividends paid
|
|
(2,659
|
)
|
(2,535
|
)
|
Common stock
repurchased
|
|
|
|
(4,366
|
)
|
Net cash from
financing activities
|
|
59,810
|
|
48,435
|
|
|
|
|
|
|
|
(Decrease)
Increase in cash and cash equivalents
|
|
16,731
|
|
(1,427
|
)
|
Cash
and cash equivalents, beginning of period
|
|
14,948
|
|
19,082
|
|
Cash
and cash equivalents, end of period
|
|
$
|
31,679
|
|
$
|
17,655
|
|
See
notes to the unaudited consolidated financial statements.
See
Note 7 regarding non-cash transactions included in the acquisition.
8
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1.
BASIS OF PRESENTATION AND
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited consolidated financial statements include the accounts of First Financial Service Corporation and its wholly owned subsidiary, First Federal Savings Bank. First Federal Savings Bank has two wholly owned subsidiaries, First Service Corporation of Elizabethtown and First Federal Office Park, LLC. Unless the text clearly suggests otherwise, references to us, we, or our include First Financial Service Corporation and its wholly-owned subsidiary. All significant intercompany transactions and balances have been eliminated in consolidation.
The
accompanying unaudited consolidated financial statements have been prepared in
accordance with U.S. generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01
of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by U.S. generally
accepted accounting principles for complete financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation have been included. Operating
results for the three and nine month periods ending September 30, 2008 are
not necessarily indicative of the results that may occur for the year ending December 31,
2008. For further information, refer to
the consolidated financial statements and footnotes thereto included in the
Corporations annual report on Form 10-K for the period ended December 31,
2007.
Adoption of New Accounting Standards
We adopted the provisions of SFAS No. 157,
Fair Value Measurements (SFAS No. 157) on January 1, 2008. SFAS No. 157 defines fair value,
establishes a framework for measuring fair value in U.S. generally accepted
accounting principles (U.S. GAAP), and expands disclosures about fair value
measurements. More specifically, this
statement clarifies the definition of fair value, establishes a fair valuation
hierarchy based upon observable (e.g. quoted prices, interest rates, yield
curves) and unobservable market inputs, and expands disclosure requirements to
include the inputs used to develop estimates of fair value and the effects of
the estimates on income for the period. This statement does not require any new
fair value measurements. For further
information, see Note 6.
In February 2008, the
FASB issued Staff Position (FSP) 157-2, Effective Date of FASB Statement No. 157. This FSP delays the effective date of FAS
157 for all nonfinancial assets and
nonfinancial liabilities, except those that are recognized or disclosed at fair
value on a recurring basis (at least annually) to fiscal years beginning after November 15,
2008, and interim periods within those fiscal years.
In February 2007, the
FASB issued SFAS 159, The Fair Value
Option for Financial Assets and Financial Liabilities Including an amendment
of FASB Statement No. 115.
This
statement allows companies to record certain financial assets and financial
liabilities at full fair value if they so choose. The statement was issued to
mitigate volatility in reported earnings caused by an accounting model
utilizing multiple measurement attributes. The adoption of the fair value
option is recorded as a cumulative-effect adjustment to the opening balance of
retained earnings, which would be January 1, 2008. Upon adoption, the
difference between the carrying amount and the fair value of the items chosen
is removed from the balance sheet and included in the cumulative-effect adjustment.
Subsequent changes in fair value are recorded through the income statement. We
did not elect the fair value option for any financial assets or financial
liabilities as of January 1, 2008 or subsequently.
In September 2006, the
FASB Emerging Issues Task Force finalized Issue No. 06-4, Accounting for
Deferred Compensation and Postretirement Benefit Aspects of Endorsement
Split-Dollar Life Insurance Arrangements.
This issue requires that a liability be recorded during the service
period when a split-dollar life insurance agreement continues after
participants employment or retirement.
The required accrued liability will be based on either the
post-employment benefit cost for the continuing life insurance or based on the
future death benefit depending on the contractual terms of the underlying
agreement. This issue is effective for
fiscal years beginning after December 15, 2007. The impact of adoption was not material.
9
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
Recent
Accounting Pronouncements
In December 2007, the FASB issued SFAS 141 (revised 2007),
Business Combinations
(
SFAS 141R
). SFAS 141R establishes
principles and requirements for how the acquirer of a business recognizes and
measures in its financial statements the identifiable assets acquired, the
liabilities assumed, and any non-controlling interest in the acquiree. SFAS 141R
also provides guidance for recognizing and measuring the goodwill acquired in
the business combination and determines what information to disclose to enable
users of the financial statements to evaluate the nature and financial effects
of the business combination. SFAS 141R is effective for business combinations
where the acquisition date is on or after fiscal years beginning after December 15,
2008. SFAS
141R is
expected to have an impact on our accounting for any business combinations
closing on or after January 1, 2009.
In December 2007, the
FASB issued SFAS 160,
Non-controlling
Interests in Consolidated Financial Statements an amendment of ARB No. 51
(SFAS 160)
. SFAS 160 establishes accounting and reporting standards
for the non-controlling interest in a subsidiary and for the deconsolidation of
a subsidiary. SFAS 160 clarifies that a non-controlling interest in a
subsidiary is an ownership interest in the consolidated entity that should be
reported as equity in the consolidated financial statements and requires
retroactive adoption of the presentation and disclosure requirements for
existing minority interests. All other requirements of SFAS 160 shall be
applied prospectively. SFAS 160 is effective for fiscal year beginning after December 15,
2008.
In October 2008, the FASB issued FSP No. 157-3,
Determining the Fair Value of a Financial Asset When the Market for
that Asset Is Not Active.
The FSP clarifies the application of SFAS
157 in a market that is not active and provides an example to illustrate key
consideration in determining the fair value of a financial asset when the
market for that financial asset is not active.
10
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
2.
SECURITIES
The amortized cost basis and fair values of securities are as follows:
|
|
|
|
Gross
|
|
Gross
|
|
|
|
|
|
Amortized
|
|
Unrealized
|
|
Unrealized
|
|
|
|
(Dollars in thousands)
|
|
Cost
|
|
Gains
|
|
Losses
|
|
Fair Value
|
|
Securities
available-for-sale:
|
|
|
|
|
|
|
|
|
|
September 30,
2008:
|
|
|
|
|
|
|
|
|
|
Mortgage-backed
|
|
$
|
6,383
|
|
$
|
28
|
|
$
|
(15
|
)
|
$
|
6,396
|
|
Equity
|
|
1,233
|
|
18
|
|
(46
|
)
|
1,205
|
|
State and municipal
|
|
9,608
|
|
3
|
|
(805
|
)
|
8,806
|
|
Corporate
|
|
2,728
|
|
|
|
(2,016
|
)
|
712
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
19,952
|
|
$
|
49
|
|
$
|
(2,882
|
)
|
$
|
17,119
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
2007:
|
|
|
|
|
|
|
|
|
|
U.S. Treasury and
agencies
|
|
$
|
498
|
|
$
|
3
|
|
$
|
|
|
$
|
501
|
|
Mortgage-backed
|
|
7,624
|
|
5
|
|
(53
|
)
|
7,576
|
|
Equity
|
|
1,553
|
|
324
|
|
(355
|
)
|
1,522
|
|
State and municipal
|
|
9,994
|
|
4
|
|
(400
|
)
|
9,598
|
|
Corporate
|
|
2,807
|
|
|
|
|
|
2,807
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
22,476
|
|
$
|
336
|
|
$
|
(808
|
)
|
$
|
22,004
|
|
|
|
|
|
Gross
|
|
Gross
|
|
|
|
|
|
Amortized
|
|
Unrecognized
|
|
Unrecognized
|
|
|
|
|
|
Cost
|
|
Gains
|
|
Losses
|
|
Fair Value
|
|
Securities
held-to-maturity:
|
|
|
|
|
|
|
|
|
|
September 30,
2008:
|
|
|
|
|
|
|
|
|
|
U.S. Treasury and
agencies
|
|
$
|
5,008
|
|
$
|
35
|
|
$
|
|
|
$
|
5,043
|
|
Mortgage-backed
|
|
1,885
|
|
1
|
|
(10
|
)
|
1,876
|
|
State and municipal
|
|
486
|
|
|
|
|
|
486
|
|
Corporate
|
|
279
|
|
|
|
(101
|
)
|
178
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
7,658
|
|
$
|
36
|
|
$
|
(111
|
)
|
$
|
7,583
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
2007:
|
|
|
|
|
|
|
|
|
|
U.S. Treasury and
agencies
|
|
$
|
14,098
|
|
$
|
33
|
|
$
|
(38
|
)
|
$
|
14,093
|
|
Mortgage-backed
|
|
3,142
|
|
1
|
|
(51
|
)
|
3,092
|
|
Corporate
|
|
441
|
|
|
|
(2
|
)
|
439
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
17,681
|
|
$
|
34
|
|
$
|
(91
|
)
|
$
|
17,624
|
|
For
the quarter ended September 30, 2008, we reviewed all investments with an
unrealized loss position for other than temporary impairment (OTTI) under
SFAS No. 115, Accounting for
Certain Investments in Debt and Equity Securities
(SFAS No. 115) and EITF 99-20, Recognition of Interest Income and
Impairment on Purchased Beneficial Interests and Beneficial Interests That
Continue to Be Held by a Transferor in Securitized Financial Assets
(EITF 99-20). According
to SFAS No. 115, for individual securities classified as either
available-for-sale (AFS) or held-to-maturity (HTM), a company shall determine
11
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
2.
SECURITIES- (Continued)
whether
a decline in fair value below amortized cost basis is other-than-temporarily
impaired (OTTI). If the decline in fair value is judged to be
OTTI, the cost basis of the individual security shall be written down to fair
value and the write-down shall be included in earnings. According to EITF 99-20, for individual
securities a company should determine whether fair value of the beneficial
interest has declined below its reference amount and whether the decline is
other-than-temporary. If, based on a holders best estimate of cash flows that
a market participant would use in determining the current fair value of the
beneficial interest, there has been an adverse change in estimated cash flows
an other-than-temporary impairment should be considered to have occurred and
the beneficial interest should be written down to fair value with the resulting
change being included in income.
As
discussed in Note 6 - Fair Value, the fair value of our portfolio of trust
preferred securities has decreased significantly as a result of the current
credit crisis and lack of liquidity in the financial markets. There
are limited trades in trust preferred securities and the majority of holders of
such instruments have elected not to participate in the market unless they are
required to sell as a result of liquidation, bankruptcy, or other forced or
distressed conditions.
To
determine if the four trust preferred securities were other-than-temporarily impaired
as of September 30, 2008, we used a discounted cash flow analysis of the
four securities, three continue to carry investment grade ratings and one was
downgraded to speculative grade during the quarter. The cash flow
models used were provided by one of our investment brokers to determine if the
current present value of the cash flows expected on each security were still
equivalent to the original cash flows projected on the security when
purchased. The cash flows on each security were equivalent to the
original cash flows projected when the security was purchased as there have
been no principal or interest shortfalls. The cash flow analysis
takes into consideration assumptions for prepayments, known and expected defaults
and deferrals for the underlying pool of banks, insurance companies and
REITs. The cash flow analysis supports
our assertion that there is no change in the present value of cash flows, and
that we have determined the decline in fair value below amortized cost is
temporary, based on managements assessment of the full recoverability of the
securities and that we have the intent and ability to hold these securities
until full recovery or maturity.
In
making our determination, we also considered all available market information
that could be obtained without undue cost and effort, and considered the unique
characteristics of each trust preferred security individually by assessing the
available market information and the various risks associated with that
security including:
·
Valuation
estimates provided by our investment broker;
·
The
amount of fair value decline;
·
How
long the decline in fair value has existed;
·
Significant
rating agency changes on the issuer;
·
Level
of interest rates and any movement in pricing for credit and other risks;
·
Information
about the performance of the underlying institutions that issued the debt
instruments, such as net income, return on equity, capital adequacy,
non-performing assets, etc;
·
Our
intent and ability to hold the investment for a period of time sufficient to
allow for any anticipated recovery in fair value; and
·
Other
relevant observable inputs.
We
will continue to evaluate the portfolio of trust preferred securities for OTTI
on a quarterly basis.
12
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
3.
LOANS
Loans are summarized as follows:
|
|
September 30,
|
|
December 31,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
Commercial
|
|
$
|
51,543
|
|
$
|
52,595
|
|
Real estate
commercial
|
|
542,198
|
|
470,929
|
|
Real estate
construction
|
|
15,205
|
|
21,383
|
|
Residential
mortgage
|
|
166,673
|
|
132,329
|
|
Consumer and
home equity
|
|
66,424
|
|
63,090
|
|
Indirect
consumer
|
|
29,029
|
|
27,721
|
|
Loans held for
sale
|
|
2,191
|
|
780
|
|
|
|
873,263
|
|
768,827
|
|
Less:
|
|
|
|
|
|
Net deferred
loan origination fees
|
|
(778
|
)
|
(791
|
)
|
Allowance for
loan losses
|
|
(10,508
|
)
|
(7,922
|
)
|
|
|
(11,286
|
)
|
(8,713
|
)
|
|
|
|
|
|
|
Loans
|
|
$
|
861,977
|
|
$
|
760,114
|
|
The allowance for loan loss is summarized as
follows:
|
|
As of and For the
|
|
As of and For the
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
Balance,
beginning of period
|
|
$
|
8,917
|
|
$
|
7,822
|
|
$
|
7,922
|
|
$
|
7,684
|
|
Allowance
related to acquisition
|
|
|
|
|
|
327
|
|
|
|
Provision for
loan losses
|
|
1,720
|
|
740
|
|
2,819
|
|
948
|
|
Charge-offs
|
|
(191
|
)
|
(129
|
)
|
(766
|
)
|
(330
|
)
|
Recoveries
|
|
62
|
|
58
|
|
206
|
|
189
|
|
Balance, end of
period
|
|
$
|
10,508
|
|
$
|
8,491
|
|
$
|
10,508
|
|
$
|
8,491
|
|
Impaired loans are summarized below.
There were no impaired loans for the periods presented without an
allowance allocation.
|
|
As of and For the
|
|
As of and For the
|
|
|
|
Nine Months Ended
|
|
Year Ended
|
|
|
|
September 30,
|
|
December 31,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
End of period
impaired loans
|
|
$
|
12,302
|
|
$
|
8,889
|
|
Amount of
allowance for loan loss allocated
|
|
1,925
|
|
117
|
|
|
|
|
|
|
|
|
|
13
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
3.
LOANS - (Continued)
We report non-performing loans as impaired. Our non-performing loans were as follows:
|
|
September 30,
|
|
December 31,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
Restructured
|
|
$
|
841
|
|
$
|
2,335
|
|
Loans past due
over 90 days still on accrual
|
|
|
|
|
|
Non accrual
loans
|
|
11,461
|
|
6,554
|
|
Total
|
|
$
|
12,302
|
|
$
|
8,889
|
|
4.
EARNINGS PER SHARE
The reconciliation of the numerators and denominators of the basic and
diluted EPS is as follows:
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
(Dollars in thousands,
|
|
September 30,
|
|
September 30,
|
|
except per share data)
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
Net income
available to common shareholders
|
|
$
|
991
|
|
$
|
2,131
|
|
$
|
4,973
|
|
$
|
6,991
|
|
Basic EPS:
|
|
|
|
|
|
|
|
|
|
Weighted average
common shares
|
|
4,667
|
|
4,681
|
|
4,665
|
|
4,739
|
|
Diluted EPS:
|
|
|
|
|
|
|
|
|
|
Weighted average
common shares
|
|
4,667
|
|
4,681
|
|
4,665
|
|
4,739
|
|
Dilutive effect
of stock options
|
|
17
|
|
50
|
|
24
|
|
53
|
|
Weighted average
common and incremental shares
|
|
4,684
|
|
4,731
|
|
4,689
|
|
4,792
|
|
Earnings Per
Share:
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.21
|
|
$
|
0.46
|
|
$
|
1.07
|
|
$
|
1.48
|
|
Diluted
|
|
$
|
0.21
|
|
$
|
0.45
|
|
$
|
1.06
|
|
$
|
1.46
|
|
Stock options for 127,590 and 68,360 shares of
common stock were not included in the September 30, 2008 computation of
diluted earnings per share for the quarter and year to date because their
impact was anti-dilutive. Stock options
for 28,600 shares of common stock were not included in the September 30,
2007 computation of diluted earnings for both the quarter and year to date per
share because they were anti-dilutive.
5.
STOCK OPTION PLAN
Our 2006 Stock Incentive Plan, which is shareholder approved, succeeded
our 1998 Stock Option and Incentive Plan.
Under the 2006 Plan, we may grant either incentive or non-qualified
stock options to
key employees and
directors
for a total of 647,350
shares of our common stock at not less than fair value at the date such options
are granted.
Options available for future grant under the 1998 Plan
totaled 38,500 shares and were rolled into the 2006 Plan.
We
believe that the ability to award stock options and other forms of stock-based
incentive compensation can assist us in attracting and retaining key employees.
Stock-based incentive compensation is also a means to align the interests of
key employees with those of our shareholders by providing awards intended to
reward recipients for our long-term growth.
The option to purchase shares vest
over periods of one to five years and expire ten years after the date of grant.
We
issue new shares of common stock upon the exercise of stock options.
At September 30,
2008 options available for future grant under the 2006 Plan totaled 591,750.
Compensation
cost related to options granted under the 1998 and 2006 Plans that was charged
against earnings for the nine month periods ended September 30, 2008
and 2007 was $92,000 and $76,000.
14
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
5.
STOCK OPTION PLAN - (Continued)
The fair value of each option award is estimated on the date of grant
using the Black-Scholes option valuation model that uses various
weighted-average assumptions. The
risk-free interest rate is based on the U.S. Treasury yield curve in effect at
the time of grant. The expected
volatility is based on the fluctuation in the price of a share of stock over
the period for which the option is being valued and the expected life of the
options granted represents the period of time the options are expected to be
outstanding.
The
weighted-average assumptions for options granted during the period ended September 30,
2008 and the resulting estimated weighted average fair value per share is
presented below.
|
|
September 30,
|
|
|
|
2008
|
|
Assumptions:
|
|
|
|
Risk-free
interest rate
|
|
3.57
|
%
|
Expected
dividend yield
|
|
3.29
|
%
|
Expected life
(years)
|
|
10
|
|
Expected common
stock market price volatility
|
|
24
|
%
|
Estimated fair
value per share
|
|
$
|
5.08
|
|
|
|
|
|
|
A
summary of option activity under the 1998 and 2006 Plans for the period ended September 30,
2008 is presented below:
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
Weighted
|
|
Average
|
|
|
|
|
|
Number
|
|
Average
|
|
Remaining
|
|
Aggregate
|
|
|
|
of
|
|
Exercise
|
|
Contractual
|
|
Intrinsic
|
|
|
|
Options
|
|
Price
|
|
Term
|
|
Value
|
|
|
|
|
|
|
|
|
|
(Dollars In
|
|
|
|
|
|
|
|
|
|
Thousands)
|
|
Outstanding,
beginning of period
|
|
193,067
|
|
$
|
18.95
|
|
|
|
|
|
Granted during
period
|
|
15,000
|
|
23.14
|
|
|
|
|
|
Forfeited during
period
|
|
(550
|
)
|
28.00
|
|
|
|
|
|
Exercised during
the period
|
|
|
|
|
|
|
|
|
|
Outstanding, end
of period
|
|
207,517
|
|
$
|
19.23
|
|
5.1
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
Eligible for exercise
at period end
|
|
128,086
|
|
$
|
17.09
|
|
3.5
|
|
$
|
118
|
|
The total intrinsic value of options exercised during the period ended September 30,
2007 was $65,000. There were no options
exercised, modified or settled in cash for the period ended September 30,
2008. There was no tax benefit
recognized from the option exercises as they are considered incentive stock
options. Management expects all
outstanding unvested options will vest.
As
of September 30, 2008 there was $284,000 of total unrecognized
compensation cost related to non-vested share-based compensation arrangements
granted under the 1998 and 2006 Plans.
That cost is expected to be recognized over a weighted-average period of
3.5 years. Cash received from option
exercises under all share-based payment arrangements for the periods ended September 30,
2008 and 2007 was $0 and $72,000.
15
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
6.
FAIR
VALUE
SFAS
No. 157 defines fair value as the price that would be received to sell an
asset or paid to transfer a liability in an orderly transaction between market
participants at the measurement date.
SFAS No. 157 establishes a fair value hierarchy that prioritizes
the use of inputs used in valuation methodologies into the following three levels:
Level 1:
Quoted prices (unadjusted) for identical assets or
liabilities in active markets. A quoted
price in an active market provides the most reliable evidence of fair value and
shall be used to measure fair value whenever available.
Level 2:
Significant other observable inputs other than Level
1 prices such as quoted prices for similar assets or liabilities; quoted prices
in markets that are not active; or other inputs that are observable or can be
corroborated by observable market data.
Level 3:
Significant unobservable inputs that reflect a
reporting entitys own assumptions about the assumptions that market
participants would use in pricing an asset or liability.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Assets
measured at fair value on a recurring basis as of September 30, 2008 are
summarized below:
|
|
|
|
Quoted Prices in
|
|
|
|
|
|
|
|
|
|
Active Markets for
|
|
Significant Other
|
|
Significant
|
|
|
|
September 30,
|
|
Identical Assets
|
|
Observable Inputs
|
|
Unobservable Inputs
|
|
(Dollars in thousands)
|
|
2008
|
|
(Level 1)
|
|
(Level 2)
|
|
(Level 3)
|
|
|
|
|
|
|
|
|
|
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
Available-for-sale
securities
|
|
$
|
17,119
|
|
$
|
683
|
|
$
|
15,202
|
|
$
|
1,234
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The
fair values of equity securities are determined by obtaining quoted prices on
nationally recognized securities exchanges (Level 1 inputs). The fair values of debt securities are
determined by a matrix pricing, which is a mathematical technique widely used
in the industry to value debt securities without relying exclusively on quoted
prices for the specific securities but rather by relying on the securities
relationship to other benchmark quoted securities (Level 2 inputs). In certain cases where there is limited
activity or less transparency around inputs to the valuation, securities are
classified within (Level 3) of the valuation hierarchy. Equity securities that do not have a readily
determinable fair value are carried at cost and are evaluated for impairment on
a periodic basis.
Between
June 2002 and July 2006, we invested in four AFS and one HTM
investment grade tranches of trust preferred collateralized debt obligation (CDO)
securities. The securities were issued and are referred to as
Preferred Term Securities Limited (PreTSL). The underlying
collateral for the PreTSL is unguaranteed pooled trust preferred securities
issued by large banks with some small banks, insurance companies and REITs
geographically dispersed across the United States. We specifically
hold PreTSL IV, VI, XV, XXI and XXII. All of the PreTSL securities that
we hold remain investment grade with the exception of PreTSL
XXI. PreTSL XXI had been downgraded to speculative grade during the
third quarter 2008. Prior to September 30,
2008, we determined the fair value of the trust preferred securities using a valuation
technique based on Level 2 inputs. The Level 2 inputs included
estimates of the market value for each security provided through our investment
broker.
Since
late 2007, the markets for collateralized debt obligations and trust preferred
securities have become increasingly inactive. The inactivity was
first evidenced in late 2007 when new issues of similar securities were
discounted in order to complete the offering. After December 2007,
no new issues of PreTSL have been offered. Beginning in the second
quarter of 2008, the purchase and sale activity of these securities
substantially decreased as investors elected to hold the securities instead of
selling them at substantially depressed prices. Our brokers have
indicated that little if any activity is occurring in this
16
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
6.
FAIR
VALUE
- (Continued)
sector
and that the PreTSL securities trades that are taking place are primarily
distressed sales where the seller must liquidate as a result of insolvency,
redemptions or closure of a fund holding the security, or other distressed
conditions. As a result, the bid-ask spreads have widened
significantly and the volume of trades decreased significantly compared to
historical volumes.
As
of September 30, 2008, we determined that the market for the trust
preferred securities that we hold and for similar CDO securities (such as
higher-rated tranches within the same CDO security) are also not
active. That determination was made considering that there are few
observable transactions for the trust preferred securities or similar CDO securities
and the observable prices for those transactions have varied substantially over
time. Consequently, we have considered those observable inputs and
determined that our trust preferred securities are classified within Level 3 of
the fair value hierarchy.
We
have determined that an income approach valuation technique (using cash flows
and present value techniques) that maximizes the use of relevant observable
inputs and minimizes the use of unobservable inputs is equally or more
representative of fair value then relying on the estimation of market value
technique used at prior measurement dates, which now has few observable inputs
and relies on an inactive market with distressed sales conditions that would
require significant adjustments.
We
received valuation estimates on our trust preferred securities for September 30,
2008. Those valuation estimates were based on proprietary pricing
models utilizing significant unobservable inputs in an inactive market with
distressed sales, Level 3 inputs, rather than actual transactions in an active
market.
In
accordance with the requirements of SFAS 157, we determined that a
risk-adjusted discount rate appropriately reflects the reporting entitys
estimate of the assumptions that market participants would use in an active market
to estimate the selling price of the asset at the measurement date.
We
conduct a thorough review of fair value hierarchy classifications on a
quarterly basis. Reclassification of
certain financial instruments may occur when input observability changes.
17
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
6.
FAIR
VALUE
- (Continued)
The
table below presents a reconciliation and income statement classification of
gains and losses for all assets measured at fair value on a recurring basis
using significant unobservable inputs (Level 3) for the period ended September 30,
2008:
|
|
Fair Value
|
|
|
|
Measurements
|
|
|
|
Using Significant
|
|
|
|
Unobservable Inputs
|
|
|
|
(Level 3)
|
|
(Dollars in thousands)
|
|
Asset/Liability
|
|
|
|
|
|
Beginning
balance, January 1, 2008
|
|
$
|
|
|
Total gains or
losses realized:
|
|
|
|
Included in
earnings
|
|
|
|
Impairment
charge on security
|
|
(118
|
)
|
Transfers in
and/or out of Level 3
|
|
1,352
|
|
Ending balance,
September 30, 2008
|
|
$
|
1,234
|
|
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Assets
measured at fair value on a nonrecurring basis as of September 30, 2008 are
summarized below:
|
|
|
|
Quoted Prices in
|
|
|
|
|
|
|
|
|
|
Active Markets for
|
|
Significant Other
|
|
Significant
|
|
|
|
September 30,
|
|
Identical Assets
|
|
Observable Inputs
|
|
Unobservable Inputs
|
|
(Dollars in thousands)
|
|
2008
|
|
(Level 1)
|
|
(Level 2)
|
|
(Level 3)
|
|
|
|
|
|
|
|
|
|
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
Impaired Loans
|
|
$
|
10,377
|
|
$
|
|
|
$
|
|
|
$
|
10,377
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Impaired loans, which are measured for
impairment using the fair value of the collateral for collateral dependent
loans, had a carrying amount of $12.3 million, with a valuation allowance of
$1.9 million, resulting in an additional provision for loan losses of $1.8
million for the 2008 nine month period.
Values for collateral dependent loans are generally based on appraisals
obtained from licensed real estate appraisals and in certain circumstances
consideration of offers obtained to purchase properties prior to
foreclosure. Appraisals for commercial
real estate generally use three methods to derive value: cost, sales or market
comparison and income approach. The cost
method bases value on the estimated cost to replace the current property after
considering adjustments for depreciation.
Values of the market comparison approach evaluate the sales price of
similar properties in the same market area.
The income approach considers net operating income generated by the
property and an investors required return.
The final value is a reconciliation of these three approaches and takes
into consideration any other factors management deems relevant to arrive at a
representative fair value.
18
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
7.
BUSINESS
COMBINATION
On June 25, 2008, we
acquired 100% of the outstanding shares of FSB Bancshares, Inc. and its
wholly owned subsidiary, The Farmers State Bank, located in Southern
Indiana. The Farmers State Bank has
offices in Harrison and Floyd County, Indiana.
These counties are adjacent to our counties of Meade, Hardin, Bullitt
and Jefferson.
The branches of The Farmers
State Bank are branches of First Financial Service Corporations wholly owned
subsidiary First Federal Savings Bank.
Operating results of FSB Bancshares, Inc. have been included in the
consolidated financial statements since the date of the acquisition. The purpose of the acquisition was to
establish market share in the state of Indiana, expand our customer base,
enhance deposit fee income and provide an opportunity to market additional
products and services to new customers.
The
aggregate purchase price was $14.0 million, paid in cash. The purchase price resulted in approximately
$3.8 million in goodwill and $1.9 million in core deposit intangible. The core deposit intangible asset is being
amortized over 8.5 years, using an accelerated method. Goodwill will not be amortized but instead
evaluated periodically for impairment.
Goodwill and intangible assets are not deducted for tax purposes. As of the date of this report, we were in the
process of obtaining third party valuations and completing fair value estimates
for certain assets and liabilities.
Therefore, the allocation of the purchase price is subject to
refinement.
The following table
summarizes the estimated fair value of assets acquired and liabilities assumed
at the date of acquisition:
(Dollars in thousands)
|
|
Amount
|
|
|
|
|
|
Cash
|
|
$
|
12,534
|
|
Securities held
to maturity
|
|
2,512
|
|
Loans, net
|
|
48,645
|
|
FHLB Stock
|
|
585
|
|
Premises and
equipment
|
|
1,019
|
|
Real estate
acquired through foreclosure
|
|
185
|
|
Goodwill
|
|
3,782
|
|
Core deposit
intangibles
|
|
1,910
|
|
Other assets
|
|
250
|
|
Total assets
acquired
|
|
71,422
|
|
|
|
|
|
Deposits
|
|
55,751
|
|
Other
liabilities
|
|
1,671
|
|
Total
liabilities assumed
|
|
57,422
|
|
|
|
|
|
Net assets
acquired
|
|
$
|
14,000
|
|
19
Table of Contents
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
7.
BUSINESS
COMBINATION -
(Continued)
Pro Forma Results of Operations
The
following table presents unaudited pro forma results of operations for the
three and nine months ended September 30, 2008 and 2007, as if the Farmers
State Bank acquisition had occurred effective January 1, 2007. The pro forma financial information is not
necessarily indicative of the results of operations as they actually would have
been if the acquisition had occurred at January 1, 2007, and is not
intended to be a projection of future results.
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
September 30,
|
|
(Dollars in thousands, except per share data)
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
Net interest
income
|
|
$
|
8,424
|
|
$
|
8,382
|
|
$
|
25,393
|
|
$
|
25,005
|
|
Net income
|
|
991
|
|
2,289
|
|
4,610
|
|
7,461
|
|
Basic income per
share
|
|
$
|
0.21
|
|
$
|
0.49
|
|
$
|
0.99
|
|
$
|
1.57
|
|
Diluted income
per share
|
|
0.21
|
|
0.48
|
|
0.98
|
|
1.56
|
|
8.
SUBORDINATED
DEBENTURES
On June 24, 2008, First Federal Statutory Trust III, an
unconsolidated trust subsidiary of First Financial Service Corporation, issued
$8.0 million in trust preferred securities.
The trust loaned the proceeds of the offering to us in exchange for
junior subordinated deferrable interest debentures which we used to finance the
purchase of FSB Bancshares, Inc. In
accordance with FASB Interpretation 46, the trust is not consolidated with our
financial statements but rather the subordinated debentures are shown as a
liability. The subordinated debentures,
which mature on June 24, 2038, can be called at par in whole or in part on
or after June 24, 2018. The subordinated debentures pay a fixed rate of 8%
for thirty years. We have the option to
defer interest payments on the subordinated debt from time to time for a period
not to exceed five consecutive years.
The subordinated debentures are considered as Tier I capital for the
Corporation under current regulatory guidelines.
20
Table
of Contents
Item 2.
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
We
operate 21 banking centers in seven contiguous counties in Central Kentucky
along the Interstate 65 corridor and the Louisville Metropolitan area,
including Southern Indiana. Our markets
range from the major metropolitan area of Louisville in Jefferson County,
Kentucky approximately 40 miles north of our headquarters in Elizabethtown,
Kentucky to Hart County, Kentucky, approximately 30 miles south of
Elizabethtown to Harrison County, Indiana approximately 60 miles northwest of
our headquarters. Our markets are
supported by a diversified industry base and have a regional population of over
1 million.
We
serve the needs and cater to the economic strengths of the local communities in
which we operate, and we strive to provide a high level of personal and
professional customer service. We offer a variety of financial services to our
retail and commercial banking customers. These services include personal and
corporate banking services and personal investment financial counseling
services.
Through
our personal investment financial
counseling services, we offer a wide variety of mutual funds, equity
investments, and fixed and variable annuities.
We invest in the wholesale capital markets to manage a portfolio of
securities and use various forms of wholesale funding. The security portfolio
contains a variety of instruments, including callable debentures, taxable and
non-taxable debentures, fixed and adjustable rate mortgage backed securities,
and collateralized mortgage obligations.
Our
results of operations depend primarily on net interest income, which is the
difference between interest income from interest-earning assets and interest
expense on interest-bearing liabilities. Our operations are also affected by
non-interest income, such as service charges, insurance agency revenue, loan
fees, gains and losses from the sale of mortgage loans and gains from the sale
of real estate held for development. Our principal operating expenses, aside
from interest expense, consist of compensation and employee benefits, occupancy
costs, data processing expense and provisions for loan losses.
This discussion and analysis covers material changes
in the financial condition since December 31, 2007 and material changes in
the results of operations for the three and nine month periods ending, September 30,
2008 as compared to 2007. It should be
read in conjunction with Managements Discussion and Analysis of Financial
Condition and Results of Operations included in the Annual Report on Form 10-K
for the period ended December 31, 2007.
OVERVIEW
During
the second quarter, we completed the acquisition of FSB Bancshares, Inc.
and its wholly owned subsidiary, The Farmers State Bank, located in Southern
Indiana. The Farmers State Bank had
approximately $65.7 million in total assets and $55.8 million in deposits with
offices in Harrison and Floyd County, Indiana.
These counties are adjacent to our Kentucky counties of Meade, Hardin,
Bullitt and Jefferson and are part of the Louisville MSA. The acquisition is anticipated to be
accretive to our earnings during the first full year of the combined
operations.
During
the third quarter, we opened our twentieth full service banking center, which
expanded our current footprint in Bullitt County, Kentucky. The Cedar Grove Banking Center complements
our existing branches located in Shepherdsville and Mt. Washington,
Kentucky. We will continue our expansion
efforts in the fourth quarter with two additional banking centers under
development. The first banking center will
be in Hardin County, Kentucky located at the entrance to the Fort Knox military
base. The other banking center will be
our fourth site in Louisville, Kentucky and located in the Middletown area.
Over
the past several years we have focused on enhancing and expanding our retail
and commercial banking network in our core markets as well as establishing our
presence in the Louisville market. Our
core markets, where we have a combined 21% market share, have become
increasingly competitive as several new banks have entered those markets during
the past few years. In order to protect
and grow our market share, we are replacing existing branches with newer,
enhanced facilities and anticipate constructing several new facilities over the
next few years. In addition to the
enhancement and expansion in our core markets, we have been increasing our
presence in the Louisville market. Our
acquisition of FSB Bancshares, Inc. has broadened our retail branch
network in the Louisville market, which now extends into Southern Indiana.
Approximately
73% of the deposit base in the Louisville market is controlled by six
out-of-state banks. While the market is
very competitive, we believe this creates an opportunity for smaller community
banks with more power to make decisions locally. We
21
Table
of Contents
believe
our investment in these initiatives along with our continued commitment to a
high level of customer service will enhance our market share in our core
markets and our development in the Louisville market.
Our
retail branch network continues to generate encouraging results. Total deposits have grown 32% over the past
three years. Total deposits were $776.9
million at September 30, 2008, an increase of $87.7 million from December 31,
2007. The continued development of the
retail branch network into the Louisville market also yielded positive
results. We have a combined $60.9
million in deposits in our three full-service banking centers in the Louisville
market. We opened two of these
facilities in the second quarter of 2004 to support our growing customer base
in this market. In June 2007 we opened our third new full service banking
center in Louisville. Additional sites
within the Louisville market are under development with our fourth location
scheduled to open in the second quarter of 2009.
Competition for deposits continues to be
challenging in all of the markets we serve.
This intense competition and future federal rate cuts could add to
additional margin compression as the interest rate environment continues to be
volatile.
We
have developed a strong commercial real estate niche in our markets. We have an experienced team of bankers who
are focused on providing service and convenience to our customers. It is quite common for our bankers to close
loans at a customers place of business or even the customers personal
residence. This high level of service
has been especially well received in our Louisville market, which is dominated
by regional banks. Currently, 26% of our
loan portfolio resides in the Louisville market. To further develop our commercial banking
relationships in Louisville, we opened a private banking office in April 2007. This office is an upscale facility
complementing our full service centers in Louisville allowing us to further
attract commercial deposit relationships in conjunction with our commercial
lending relationships.
This
emphasis on commercial lending generated 44% growth in the total loan portfolio
and 76% growth in commercial loans over the past three years. Commercial loans were $608.9 million at September 30,
2008, an increase of $64.0 million, or 12% from December 31, 2007.
CRITICAL ACCOUNTING POLICIES
Our
accounting and reporting policies comply with U.S. generally accepted
accounting principles and conform to general practices within the banking
industry. The accounting policy relating
to the allowance for loan losses is critical to the understanding of our
results of operations since the application of this policy requires significant
management assumptions and estimates that could result in materially different
amounts to be reported if conditions or underlying circumstances were to
change.
Allowance for Loan Losses
We maintain an allowance sufficient to absorb
probable incurred credit losses existing in the loan portfolio. The Allowance
for Loan Loss Review Committee evaluates the allowance for loan losses on a
quarterly basis. We estimate the allowance using past loan loss
experience, known and inherent risks in the portfolio, adverse situations that
may affect the borrowers ability to repay, estimated value of the underlying
collateral, and current economic conditions. While we estimate the
allowance for loan losses based in part on historical losses within each loan
category, estimates for losses within the commercial real estate portfolio are
more dependent upon credit analysis and recent payment performance.
Allocations of the allowance
may be made for specific loans or loan categories, but the entire allowance is
available for any loan that, in managements judgment, should be charged off.
The
allowance consists of specific and general components. The specific component relates to loans that
are individually classified as impaired or loans otherwise classified as
substandard or doubtful. The general
component covers non-classified loans and is based on historical loss
experience adjusted for current factors. Allowance estimates are developed with
actual loss experience adjusted for current economic conditions. Allowance estimates are considered a prudent
measurement of the risk in the loan portfolio and are applied to individual
loans based on loan type.
Based
on our calculation, an allowance of $10.5 million
or 1.21% of total loans was our estimate of probable losses
within the loan portfolio as of
September 30,
2008.
This estimate resulted
in a provision for loan losses on the income statement of
$2.8 million for the 2008 nine month
period.
If the mix and
amount of future charge off percentages differ significantly from those
assumptions used by management in making its determination, the allowance for
loan losses and provision for loan losses on the income statement could be
materially increased.
22
Table
of Contents
Stock-based Compensation
We adopted the provisions
of Statement of Financial Accounting Standards (SFAS) No. 123 (R) Share-Based
Payment (Revised 2004), on January 1, 2006.
Among other things, SFAS No. 123 (R) eliminates the ability to account
for stock-based compensation using the intrinsic value based method of
accounting and requires that such transactions be recognized as compensation
expense in the income statement based on their fair values on the date of the
grant. SFAS No. 123 (R) requires that
management make assumptions including stock price volatility and employee
turnover that are utilized to measure compensation expense. We estimate fair value of stock options
granted at the date of grant using the Black-Scholes option pricing model,
which requires the input of highly subjective assumptions, such as volatility,
risk free interest rates and dividend pay out rates.
Impairment of Investment Securities
All unrealized losses are
reviewed to determine whether the losses are other-than-temporary. Investment securities are evaluated for
other-than-temporary impairment on at least a quarterly basis and more
frequently when economic or market conditions warrant such an evaluation to
determine whether a decline in their value below amortized cost is
other-than-temporary. We evaluate a
number of factors including, but not limited to: valuation estimates provided by
investment brokers; how much fair value has declined below amortized cost; how
long the decline in fair value has existed; the financial condition of the
issuer; significant rating agency changes on the issuer; and managements
intent and ability to hold the security for a period of time sufficient to
allow for any anticipated recovery in fair value.
The term other-than-temporary is not intended to
indicate that the decline is permanent, but indicates that the possibility for
a near-term recovery of value is not necessarily favorable, or that there is a
lack of evidence to support a realizable value equal to or greater than the
carrying value of the investment. Once a
decline in value is determined to be other than temporary, the cost basis of
the security is written down to fair value and a corresponding charge to
earnings is recognized.
RESULTS OF OPERATIONS
Net income for the quarter ended September 30,
2008 was $991,000 or $0.21 per share diluted compared to $2.1 million or $0.45
per share diluted for the same period in 2007.
Net income for the nine month period ended September 30, 2008 was
$5.0 million or $1.06 per share diluted compared to $7.0 million or $1.46 per
share diluted for the same period a year ago.
Earnings decreased for 2008 compared to 2007 due to a decrease in
our net interest margin, an increase in provision for loan loss expense, a
higher level of non-interest expense related to our expansion efforts, a write
down taken on investment securities that were other-than-temporarily impaired
and a write down on real estate acquired through foreclosure.
Our book value per common
share increased from $15.50 at September 30, 2007 to $15.95 at September 30,
2008.
Annualized
net income for the first nine months of 2008 generated a return on average
assets of .72% and a return on average equity of 8.80%.
These
compare with a return on average assets of 1.11% and a return on average equity
of 12.92% for the first nine months of 2007 also annualized.
Net Interest Income
The principal source of our revenue is net
interest income. Net interest income is
the difference between interest income on interest-earning assets, such as
loans and securities and the interest expense on liabilities used to fund those
assets, such as interest-bearing deposits and borrowings. Net interest income
is affected by both changes in the amount and composition of interest-earning
assets and interest-bearing liabilities as well as changes in market interest
rates.
The
growth in our commercial loan portfolio has increased net interest income. The increase in the volume of interest
earning assets increased net interest income by $744,000 and $1.3 million for
the three and nine month 2008 periods compared to the same periods a year
ago. Average interest earning assets
increased $109.1 million for the 2008 quarter and $64.6 million for the nine
months compared to 2007. Despite the
increase in interest earning assets, our net interest margin declined. The yield on earning assets averaged 6.54%
and 6.78% for the three and nine month 2008 periods compared to an average
yield on earning assets of 7.67% and
7.66% for the same periods in 2007.
This decrease was slightly offset by a decrease in our cost of funds. On an annualized basis, the net interest
margin as a percent of average earning assets decreased
13 basis points to 3.72% for the quarter
ended September 30, 2008 and 10 basis points to 3.81% for the nine months
ended September 30, 2008 compared to 3.85% and 3.91% for the same periods
in 2007.
Our
cost of funds averaged 3.05% and 3.24% for the quarter and nine month periods
ended September 30, 2008 compared to an average cost of funds of 4.20% and
4.11% for the same periods in 2007. Going forward, our cost of funds is
expected to continue to decrease as certificates of deposit re-price and roll
off into new certificates of deposit at lower interest rates.
23
Table
of Contents
Our
net interest margin is likely to compress in future quarters as a result of the
Federal Open Market Committee (FOMC) decreasing the Federal Funds rate by 225
basis points in 2008 through September 30th. In addition, the FOMC decreased the federal
funds rate by an additional 50 basis points on October 8, 2008 in an
emergency rate cut. Variable rate loans
that are tied to the federal prime rate are immediately re-priced downward with
these rate cuts. However, interest rates
paid on customer deposits have not adjusted downward proportionately with the
declining interest yields on loans and investments. This will in turn lower our net interest
margin.
24
Table
of Contents
AVERAGE BALANCE SHEET
The following table
provides information relating to our average balance sheet and reflects the
average yield on assets and average cost of liabilities for the indicated
periods. Yields and costs for the
periods presented are derived by dividing income or expense by the average
monthly balance of assets or liabilities, respectively.
|
|
Quarter Ended September 30,
|
|
|
|
2008
|
|
2007
|
|
|
|
Average
|
|
|
|
Average
|
|
Average
|
|
|
|
Average
|
|
(Dollars in thousands)
|
|
Balance
|
|
Interest
|
|
Yield/Cost (5)
|
|
Balance
|
|
Interest
|
|
Yield/Cost (5)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest earning
assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Treasury
and agencies
|
|
$
|
5,332
|
|
$
|
49
|
|
3.66
|
%
|
$
|
16,583
|
|
$
|
146
|
|
3.49
|
%
|
Mortgage-backed
securities
|
|
8,501
|
|
91
|
|
4.26
|
|
11,514
|
|
125
|
|
4.31
|
|
Equity
securities
|
|
1,775
|
|
12
|
|
2.69
|
|
2,036
|
|
19
|
|
3.70
|
|
State and
political subdivision securities
(1)
|
|
9,416
|
|
136
|
|
5.75
|
|
9,405
|
|
155
|
|
6.54
|
|
Corporate bonds
|
|
3,110
|
|
47
|
|
6.01
|
|
3,820
|
|
65
|
|
6.75
|
|
Loans
(2) (3) (4)
|
|
861,230
|
|
14,337
|
|
6.62
|
|
745,028
|
|
14,760
|
|
7.86
|
|
FHLB stock
|
|
8,410
|
|
113
|
|
5.35
|
|
7,621
|
|
126
|
|
6.56
|
|
Interest bearing
deposits
|
|
7,685
|
|
90
|
|
4.66
|
|
375
|
|
9
|
|
9.53
|
|
Total
interest earning assets
|
|
905,459
|
|
14,875
|
|
6.54
|
|
796,382
|
|
15,405
|
|
7.67
|
|
Less: Allowance
for loan losses
|
|
(9,029
|
)
|
|
|
|
|
(8,024
|
)
|
|
|
|
|
Non-interest
earning assets
|
|
84,270
|
|
|
|
|
|
63,557
|
|
|
|
|
|
Total
assets
|
|
$
|
980,700
|
|
|
|
|
|
$
|
851,915
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest bearing
liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Savings accounts
|
|
$
|
114,518
|
|
$
|
442
|
|
1.54
|
%
|
$
|
92,877
|
|
$
|
731
|
|
3.12
|
%
|
NOW and money
market accounts
|
|
142,036
|
|
322
|
|
0.90
|
|
126,193
|
|
631
|
|
1.98
|
|
Certificates of
deposit and other time deposits
|
|
478,747
|
|
4,561
|
|
3.79
|
|
432,569
|
|
5,333
|
|
4.89
|
|
Short term
borrowings
|
|
29,392
|
|
156
|
|
2.11
|
|
33,639
|
|
465
|
|
5.48
|
|
FHLB advances
|
|
52,993
|
|
610
|
|
4.58
|
|
29,929
|
|
345
|
|
4.57
|
|
Subordinated
debentures
|
|
18,000
|
|
315
|
|
6.96
|
|
10,000
|
|
167
|
|
6.63
|
|
Total
interest bearing liabilities
|
|
835,686
|
|
6,406
|
|
3.05
|
|
725,207
|
|
7,672
|
|
4.20
|
|
Non-interest
bearing liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-interest
bearing deposits
|
|
62,606
|
|
|
|
|
|
48,728
|
|
|
|
|
|
Other
liabilities
|
|
6,261
|
|
|
|
|
|
5,724
|
|
|
|
|
|
Total
liabilities
|
|
904,553
|
|
|
|
|
|
779,659
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders
equity
|
|
76,147
|
|
|
|
|
|
72,256
|
|
|
|
|
|
Total
liabilities and stockholders equity
|
|
$
|
980,700
|
|
|
|
|
|
$
|
851,915
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
|
|
$
|
8,469
|
|
|
|
|
|
$
|
7,733
|
|
|
|
Net
interest spread
|
|
|
|
|
|
3.49
|
%
|
|
|
|
|
3.47
|
%
|
Net
interest margin
|
|
|
|
|
|
3.72
|
%
|
|
|
|
|
3.85
|
%
|
(1)
Taxable
equivalent yields are calculated assuming a 34% federal income tax rate.
(2)
Includes
loan fees, immaterial in amount, in both interest income and the calculation of
yield on loans.
(3)
Calculations
include non-accruing loans in the average loan amounts outstanding.
(4)
Includes
loans held for sale.
(5)
Annualized
25
Table
of Contents
|
|
Nine Months Ended September 30,
|
|
|
|
2008
|
|
2007
|
|
|
|
Average
|
|
|
|
Average
|
|
Average
|
|
|
|
Average
|
|
(Dollars in thousands)
|
|
Balance
|
|
Interest
|
|
Yield/Cost (5)
|
|
Balance
|
|
Interest
|
|
Yield/Cost (5)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest earning
assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Treasury
and agencies
|
|
$
|
7,126
|
|
$
|
216
|
|
4.05
|
%
|
$
|
19,252
|
|
$
|
519
|
|
3.60
|
%
|
Mortgage-backed
securities
|
|
9,311
|
|
297
|
|
4.26
|
|
12,335
|
|
398
|
|
4.31
|
|
Equity
securities
|
|
1,683
|
|
42
|
|
3.33
|
|
2,081
|
|
56
|
|
3.60
|
|
State and
political subdivision securities
(1)
|
|
9,478
|
|
450
|
|
6.34
|
|
10,035
|
|
480
|
|
6.40
|
|
Corporate bonds
|
|
3,092
|
|
123
|
|
5.31
|
|
4,721
|
|
250
|
|
7.08
|
|
Loans
(2) (3) (4)
|
|
811,036
|
|
41,718
|
|
6.87
|
|
731,276
|
|
43,065
|
|
7.87
|
|
FHLB stock
|
|
7,983
|
|
317
|
|
5.30
|
|
7,621
|
|
368
|
|
6.46
|
|
Interest bearing
deposits
|
|
3,257
|
|
100
|
|
4.10
|
|
1,043
|
|
47
|
|
6.03
|
|
Total
interest earning assets
|
|
852,966
|
|
43,263
|
|
6.78
|
|
788,364
|
|
45,183
|
|
7.66
|
|
Less: Allowance
for loan losses
|
|
(8,537
|
)
|
|
|
|
|
(7,828
|
)
|
|
|
|
|
Non-interest
earning assets
|
|
75,195
|
|
|
|
|
|
61,453
|
|
|
|
|
|
Total
assets
|
|
$
|
919,624
|
|
|
|
|
|
$
|
841,989
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest bearing
liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Savings accounts
|
|
$
|
105,827
|
|
$
|
1,389
|
|
1.75
|
%
|
$
|
98,894
|
|
$
|
2,417
|
|
3.27
|
%
|
NOW and money
market accounts
|
|
135,172
|
|
1,078
|
|
1.07
|
|
121,932
|
|
1,599
|
|
1.75
|
|
Certificates of
deposit and other time deposits
|
|
437,792
|
|
13,348
|
|
4.07
|
|
422,608
|
|
15,066
|
|
4.77
|
|
Short term
borrowings
|
|
34,132
|
|
661
|
|
2.59
|
|
35,303
|
|
1,452
|
|
5.50
|
|
FHLB advances
|
|
53,026
|
|
1,808
|
|
4.55
|
|
29,866
|
|
1,022
|
|
4.58
|
|
Subordinated
debentures
|
|
13,556
|
|
649
|
|
6.40
|
|
10,000
|
|
549
|
|
7.34
|
|
Total
interest bearing liabilities
|
|
779,505
|
|
18,933
|
|
3.24
|
|
718,603
|
|
22,105
|
|
4.11
|
|
Non-interest
bearing liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-interest
bearing deposits
|
|
58,847
|
|
|
|
|
|
45,603
|
|
|
|
|
|
Other
liabilities
|
|
5,762
|
|
|
|
|
|
5,452
|
|
|
|
|
|
Total
liabilities
|
|
844,114
|
|
|
|
|
|
769,658
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders
equity
|
|
75,510
|
|
|
|
|
|
72,331
|
|
|
|
|
|
Total
liabilities and stockholders equity
|
|
$
|
919,624
|
|
|
|
|
|
$
|
841,989
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
|
|
$
|
24,330
|
|
|
|
|
|
$
|
23,078
|
|
|
|
Net
interest spread
|
|
|
|
|
|
3.53
|
%
|
|
|
|
|
3.55
|
%
|
Net
interest margin
|
|
|
|
|
|
3.81
|
%
|
|
|
|
|
3.91
|
%
|
(1)
Taxable
equivalent yields are calculated assuming a 34% federal income tax rate.
(2)
Includes
loan fees, immaterial in amount, in both interest income and the calculation of
yield on loans.
(3)
Calculations
include non-accruing loans in the average loan amounts outstanding.
(4)
Includes
loans held for sale.
(5)
Annualized
26
Table
of Contents
RATE/VOLUME ANALYSIS
The
table below provides information regarding changes in interest income and
interest expense for the indicated periods.
For each category of interest-earning assets and interest-bearing
liabilities, information is provided on changes attributable to (1) changes
in rate (changes in rate multiplied by old volume); (2) changes in volume
(change in volume multiplied by old rate); and (3) changes in rate-volume
(change in rate multiplied by change in volume). Changes in rate-volume are proportionately
allocated between rate and volume variance.
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
September 30,
|
|
|
|
2008 vs. 2007
|
|
2008 vs. 2007
|
|
|
|
Increase (decrease)
|
|
Increase (decrease)
|
|
|
|
Due to change in
|
|
Due to change in
|
|
|
|
|
|
|
|
Net
|
|
|
|
|
|
Net
|
|
(Dollars in thousands)
|
|
Rate
|
|
Volume
|
|
Change
|
|
Rate
|
|
Volume
|
|
Change
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Treasury
and agencies
|
|
$
|
6
|
|
$
|
(103
|
)
|
$
|
(97
|
)
|
$
|
58
|
|
$
|
(361
|
)
|
$
|
(303
|
)
|
Mortgage-backed
securities
|
|
(2
|
)
|
(32
|
)
|
(34
|
)
|
(4
|
)
|
(97
|
)
|
(101
|
)
|
Equity
securities
|
|
(5
|
)
|
(2
|
)
|
(7
|
)
|
(4
|
)
|
(10
|
)
|
(14
|
)
|
State and
political subdivision securities
|
|
(19
|
)
|
|
|
(19
|
)
|
(4
|
)
|
(26
|
)
|
(30
|
)
|
Corporate bonds
|
|
(18
|
)
|
|
|
(18
|
)
|
(127
|
)
|
|
|
(127
|
)
|
Loans
|
|
(2,544
|
)
|
2,121
|
|
(423
|
)
|
(5,769
|
)
|
4,422
|
|
(1,347
|
)
|
FHLB stock
|
|
(25
|
)
|
12
|
|
(13
|
)
|
(67
|
)
|
16
|
|
(51
|
)
|
Interest bearing
deposits
|
|
(7
|
)
|
88
|
|
81
|
|
(19
|
)
|
72
|
|
53
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
interest earning assets
|
|
(2,614
|
)
|
2,084
|
|
(530
|
)
|
(5,936
|
)
|
4,016
|
|
(1,920
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Savings accounts
|
|
(432
|
)
|
143
|
|
(289
|
)
|
(1,187
|
)
|
159
|
|
(1,028
|
)
|
NOW and money
market accounts
|
|
(380
|
)
|
71
|
|
(309
|
)
|
(680
|
)
|
159
|
|
(521
|
)
|
Certificates of
deposit and other time deposits
|
|
(1,300
|
)
|
528
|
|
(772
|
)
|
(2,244
|
)
|
526
|
|
(1,718
|
)
|
Short term
borrowings
|
|
(309
|
)
|
|
|
(309
|
)
|
(791
|
)
|
|
|
(791
|
)
|
FHLB advances
|
|
|
|
265
|
|
265
|
|
(4
|
)
|
790
|
|
786
|
|
Subordinated
debentures
|
|
8
|
|
140
|
|
148
|
|
(77
|
)
|
177
|
|
100
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
interest bearing liabilities
|
|
(2,413
|
)
|
1,147
|
|
(1,266
|
)
|
(4,983
|
)
|
1,811
|
|
(3,172
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
change in net interest income
|
|
$
|
(201
|
)
|
$
|
937
|
|
$
|
736
|
|
$
|
(953
|
)
|
$
|
2,205
|
|
$
|
1,252
|
|
Non-Interest Income and Non-Interest
Expense
The
following tables provide a comparison of the components of non-interest income
and expenses for the periods ended September 30, 2008 and 2007. The tables show the dollar and percentage
change from 2007 to 2008. Below each
table is a discussion of significant changes and trends.
|
|
Three Months Ended
|
|
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
Change
|
|
%
|
|
Non-interest
income
|
|
|
|
|
|
|
|
|
|
Customer service
fees on deposit accounts
|
|
$
|
1,817
|
|
$
|
1,511
|
|
$
|
306
|
|
20.3
|
%
|
Gain on sale of
mortgage loans
|
|
179
|
|
144
|
|
35
|
|
24.3
|
%
|
Gain on sale of
investments
|
|
52
|
|
|
|
52
|
|
100.0
|
%
|
Write down on
real estate acquired through foreclosure
|
|
(151
|
)
|
|
|
(151
|
)
|
100.0
|
%
|
Brokerage
commissions
|
|
109
|
|
106
|
|
3
|
|
2.8
|
%
|
Other income
|
|
361
|
|
444
|
|
(83
|
)
|
-18.7
|
%
|
|
|
$
|
2,367
|
|
$
|
2,205
|
|
$
|
162
|
|
7.3
|
%
|
27
Table
of Contents
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
Change
|
|
%
|
|
Non-interest
income
|
|
|
|
|
|
|
|
|
|
Customer service
fees on deposit accounts
|
|
$
|
4,865
|
|
$
|
4,274
|
|
$
|
591
|
|
13.8
|
%
|
Gain on sale of
mortgage loans
|
|
566
|
|
435
|
|
131
|
|
30.1
|
%
|
Gain on sale of
investments
|
|
52
|
|
|
|
52
|
|
100.0
|
%
|
Gain on sale of
real estate held for development
|
|
|
|
227
|
|
(227
|
)
|
-100.0
|
%
|
Losses on
securities transactions
|
|
(216
|
)
|
|
|
(216
|
)
|
100.0
|
%
|
Write down on
real estate acquired through foreclosure
|
|
(160
|
)
|
|
|
(160
|
)
|
100.0
|
%
|
Brokerage
commissions
|
|
352
|
|
308
|
|
44
|
|
14.3
|
%
|
Other income
|
|
1,001
|
|
945
|
|
56
|
|
5.9
|
%
|
|
|
$
|
6,460
|
|
$
|
6,189
|
|
$
|
271
|
|
4.4
|
%
|
Growth
in customer service fees on deposit accounts, our largest component of
non-interest income, is primarily due to growth in customer deposits, overdraft
fee income on retail checking accounts and the sale of fee-based products for
2008. We continue to increase our
customer base through cross-selling opportunities and marketing initiatives and
promotions. In addition, we continue to
emphasize growing our checking account base to better enhance our profitability
and franchise value.
We originate qualified VA, KHC, RHC and conventional
secondary market loans and sell them into the secondary market with servicing
rights released. For the quarter and the
first nine months of 2008, gain on sale of mortgage loans increased due to an
increase in the volume of loans closed.
We invest in various types of liquid assets, including United States Treasury obligations, securities of various federal agencies, obligations of states and political subdivisions, corporate bonds, mutual funds, stocks and others. During the third quarter of 2008 we recorded a gain on sale of investments of $52,000. Gains on investment securities are infrequent in nature and are not a consistent recurring source of income.
Through our subsidiary, First Federal Office Park, we hold commercial lots adjacent to our home office on Ring
Road in Elizabethtown, that are available for sale. During the March 2007 quarter we recorded $227,000 in gains from a lot sale. Currently, one of the original nine lots held for sale remains unsold.
We recognized an
other-than-temporary impairment charge of $216,000 at June 30, 2008 on
certain equity securities with a cost basis of $840,000. Management believes this
impairment was primarily attributable to current economic conditions. Since
recovery does not appear likely in the near future, we recognized the
impairment losses. Previously, we recognized the decline in market value of
these equity securities in stockholders equity through accumulated other
comprehensive income.
Further reducing
non-interest income for the 2008 period was a 10% or $151,000 write-down, in
the third quarter, of the carrying value of a real estate owned property that
had been held for twelve months.
|
|
Three Months Ended
|
|
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
Change
|
|
%
|
|
Non-interest
expenses
|
|
|
|
|
|
|
|
|
|
Employee
compensation and benefits
|
|
$
|
3,867
|
|
$
|
3,136
|
|
$
|
731
|
|
23.3
|
%
|
Office occupancy
expense and equipment
|
|
779
|
|
604
|
|
175
|
|
29.0
|
%
|
Marketing and
advertising
|
|
215
|
|
228
|
|
(13
|
)
|
-5.7
|
%
|
Outside services
and data processing
|
|
882
|
|
638
|
|
244
|
|
38.2
|
%
|
Bank franchise
tax
|
|
258
|
|
234
|
|
24
|
|
10.3
|
%
|
Amortization of
core deposit intangible
|
|
56
|
|
|
|
56
|
|
100.0
|
%
|
Other expense
|
|
1,580
|
|
1,166
|
|
414
|
|
35.5
|
%
|
|
|
$
|
7,637
|
|
$
|
6,006
|
|
$
|
1,631
|
|
27.2
|
%
|
28
Table
of Contents
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
Change
|
|
%
|
|
Non-interest
expenses
|
|
|
|
|
|
|
|
|
|
Employee
compensation and benefits
|
|
$
|
10,765
|
|
$
|
9,365
|
|
$
|
1,400
|
|
14.9
|
%
|
Office occupancy
expense and equipment
|
|
2,112
|
|
1,766
|
|
346
|
|
19.6
|
%
|
Marketing and advertising
|
|
638
|
|
677
|
|
(39
|
)
|
-5.8
|
%
|
Outside services
and data processing
|
|
2,365
|
|
1,974
|
|
391
|
|
19.8
|
%
|
Bank franchise
tax
|
|
761
|
|
699
|
|
62
|
|
8.9
|
%
|
Write off of
issuance cost of Trust Preferred Securities
|
|
|
|
229
|
|
(229
|
)
|
-100.0
|
%
|
Amortization of
core deposit intangible
|
|
59
|
|
|
|
59
|
|
100.0
|
%
|
Other expense
|
|
3,791
|
|
3,112
|
|
679
|
|
21.8
|
%
|
|
|
$
|
20,491
|
|
$
|
17,822
|
|
$
|
2,669
|
|
15.0
|
%
|
Employee
compensation and benefits is the largest component of non-interest
expense. Since 2006, three commercial
lending associates and twenty-two retail associates have been added with our
expansion efforts. These associates were hired for a commercial private banking
center which opened in April 2007, a new Louisville retail branch facility
that opened in June 2007, a new Bullitt County retail branch facility that
opened in August 2008 and other positions to support our growth. Twenty additional associates were added in
the second quarter of 2008 as a result of the recent acquisition. We look for a continued increase in employee
compensation and benefits expense in line with recent years, as we progress
with our retail expansion and market protection efforts.
Office
occupancy expense and equipment and outside services and data processing
increased due to additional operating expenses related to our expansion efforts
and a system upgrade. We anticipate the
increased level of non-interest expense to continue in 2008 with additional
retail expansion.
Included in non-interest expense for the September 2007 period is
$229,000 in unamortized subordinated debentures issuance cost from the
redemption of all of our underlying $10.0 million issuance of cumulative trust
preferred securities. These securities
paid distributions at a quarterly adjustable rate of LIBOR plus 360 basis points
(8.97% on March 26, 2007). We
issued new subordinated debentures at a 10 year fixed rate of 6.69%.
Other
expense increased due to increases in interchange expense, REO expense and
losses on NOW accounts. Interchange
expense increased due to the switch to real-time debit card processing, which
is more expensive per item than the batch processing method we used
previously. REO expense relating to
repair, maintenance and taxes increased due to increases in real estate
acquired through foreclosure.
Our
efficiency ratio was 67% for the nine months ended September 30, 2008
compared to 61% for the 2007 period.
29
Table
of Contents
ANALYSIS OF FINANCIAL CONDITION
Total assets at September 30, 2008 increased to $991.3
million compared to $872.7 million at December 31, 2007, an increase of
$118.6 million. Approximately $71.4
million of the increase was attributable to the June 2008 acquisition of
FSB Bancshares, Inc.
Loans
Net loans increased $101.9 million to $862.0 million at September 30,
2008 compared to $760.1 million at December 31, 2007. The recent acquisition of FSB Bancshares, Inc.
contributed approximately $48.6 million in new loans. Our commercial real estate portfolio
increased $71.3 million to $542.2 million at September 30, 2008. For the 2008 period, these loans comprised
62% of the total loan portfolio compared to 60% at September 30,
2007. Our residential mortgage loan
portfolio increased for the 2008 period due to the recent acquisition by $34.3
million. The residential mortgage loans
we acquired are seasoned performing loans and none are considered to have any
sub-prime characteristics. Consumer, home equity, and indirect consumer loans
also increased during the 2008 period.
Commercial loans remained relatively constant during the 2008
period. Offsetting this growth was a
$6.2 million decrease in the real estate construction loan portfolio to $15.2
million at September 30, 2008, compared to $21.4 million
at December 31, 2007.
For 2008, the
growth in commercial real estate loans is expected to continue in line with
recent periods as we continue to emphasize this type of lending.
|
|
September 30,
|
|
December 31,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
Commercial
|
|
$
|
51,543
|
|
$
|
52,595
|
|
Real estate
commercial
|
|
542,198
|
|
470,929
|
|
Real estate
construction
|
|
15,205
|
|
21,383
|
|
Residential
mortgage
|
|
166,673
|
|
132,329
|
|
Consumer and
home equity
|
|
66,424
|
|
63,090
|
|
Indirect
consumer
|
|
29,029
|
|
27,721
|
|
Loans held for
sale
|
|
2,191
|
|
780
|
|
|
|
873,263
|
|
768,827
|
|
Less:
|
|
|
|
|
|
Net deferred
loan origination fees
|
|
(778
|
)
|
(791
|
)
|
Allowance for
loan losses
|
|
(10,508
|
)
|
(7,922
|
)
|
|
|
(11,286
|
)
|
(8,713
|
)
|
|
|
|
|
|
|
Loans
|
|
$
|
861,977
|
|
$
|
760,114
|
|
Allowance and Provision for Loan Losses
Our financial performance depends on the quality of the loans we
originate and managements ability to assess the degree of risk in existing
loans when it determines the allowance for loan losses. An increase in loan charge-offs or
non-performing loans or an inadequate allowance for loan losses could reduce
net interest income, net income and capital and limit the range of products and
services we can offer.
The Allowance for Loan Loss Review Committee
evaluates the allowance for loan losses quarterly to maintain a level
sufficient to absorb probable incurred credit losses existing in the loan
portfolio. Periodic provisions to the
allowance are made as needed. The
Committee determines the allowance by applying loss estimates to graded loans
by categories, as described below. In
addition, the Committee analyzes such factors as changes in lending policies
and procedures; underwriting standards; collection; charge-off and recovery
history; changes in national and local economic business conditions and
developments; changes in the characteristics of the portfolio; ability and
depth of lending management and staff; changes in the trend of the volume and
severity of past due, non-accrual and classified loans; troubled debt
restructuring and other loan modifications; and results of regulatory
examinations.
30
Table
of Contents
The following table analyzes loan loss experience
for the periods indicated.
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at beginning of period
|
|
$
|
8,917
|
|
$
|
7,822
|
|
$
|
7,922
|
|
$
|
7,684
|
|
Allowance
related to acquisition
|
|
|
|
|
|
327
|
|
|
|
Loans
charged-off:
|
|
|
|
|
|
|
|
|
|
Real estate
mortgage
|
|
|
|
18
|
|
15
|
|
18
|
|
Consumer
|
|
137
|
|
111
|
|
402
|
|
295
|
|
Commercial
|
|
54
|
|
|
|
349
|
|
17
|
|
Total
charge-offs
|
|
191
|
|
129
|
|
766
|
|
330
|
|
Recoveries:
|
|
|
|
|
|
|
|
|
|
Real estate
mortgage
|
|
2
|
|
|
|
3
|
|
9
|
|
Consumer
|
|
60
|
|
55
|
|
185
|
|
174
|
|
Commercial
|
|
|
|
3
|
|
18
|
|
6
|
|
Total recoveries
|
|
62
|
|
58
|
|
206
|
|
189
|
|
|
|
|
|
|
|
|
|
|
|
Net
loans charged-off
|
|
129
|
|
71
|
|
560
|
|
141
|
|
|
|
|
|
|
|
|
|
|
|
Provision for
loan losses
|
|
1,720
|
|
740
|
|
2,819
|
|
948
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at end of period
|
|
$
|
10,508
|
|
$
|
8,491
|
|
$
|
10,508
|
|
$
|
8,491
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for
loan losses to total loans (excluding loans held for sale)
|
|
|
|
|
|
1.21
|
%
|
1.11
|
%
|
Annualized net
charge-offs to average loans
outstanding
|
|
|
|
|
|
0.09
|
%
|
0.02
|
%
|
Allowance for
loan losses to total
non-performing loans
|
|
|
|
|
|
85
|
%
|
111
|
%
|
The
provision for loan losses increased $980,000 to $1.7 million for the quarter
ended September 30, 2008, and increased $1.9 million to $2.8 million for
the nine months ended September 30, 2008 compared to the same periods in
2007. The increase for the quarter was
related to an additional $1.4 million of specific reserve for a classified
commercial real estate development loan. This relationship had been previously
classified during the first quarter of 2008.
The increase in provision for loan losses for the nine month period was
related to growth in the loan portfolio as well as from specific reserves for
loans classified during 2008. The
provision for the 2007 period was smaller due to the improved performance of
one of our credit relationships which reduced the allowance allocated to the
loan. The allowance for loan losses
increased $2.0 million to $10.5 million from September 30, 2007 to September 30,
2008.
The
increase was related to $329,000 in allowance added as a result of the FSB
Bancshares, Inc. acquisition, an increase in net loans for 2008, as well
as provision recorded, in conjunction with a $17.8 million increase in
classified loans for the 2008 period
.
Federal
regulations require banks to classify their own assets on a regular basis. The regulations provide for three categories
of classified loans substandard, doubtful and loss. A bank must establish general allowances for
loan losses for any assets classified as substandard or doubtful. If an asset
or portion thereof is classified as loss, the bank must either establish
specified allowances for loan losses in the amount of 100% of the portion of
the asset classified loss, or charge off the amount of the loss.
The
following table provides information with respect to classified loans for the
periods indicated:
|
|
September 30,
|
|
(Dollars in thousands)
|
|
2008
|
|
2007
|
|
Classified
Loans
|
|
|
|
|
|
Substandard
|
|
$
|
32,070
|
|
$
|
14,220
|
|
Doubtful
|
|
|
|
65
|
|
Loss
|
|
55
|
|
68
|
|
Total Classified
|
|
$
|
32,125
|
|
$
|
14,353
|
|
31
Table
of Contents
The
$17.9 million increase in substandard assets for 2008 was primarily the result
of downgrading loans with nine borrowers
in the amounts of $8.5 million, $4.1 million, $1.7 million, $1.6 million, $1.5
million, $1.5 million, $1.0 million, $975,000 and $870,000,
respectively.
Offsetting this
increase was the upgrade of a classified loan having a balance of $823,000 and
the transfer of three classified loans having balances of $1.5 million, $1.3
million and $1.1 million to real estate acquired through foreclosure.
Approximately $20.3 million of the total classified loans were related to real
estate development or real estate construction loans in our market area. Classified consumer loans totaled $ 1.3
million, classified mortgage loans totaled $4.7 million and classified
commercial loans totaled $5.8 million.
We remain well secured and adequately collateralized with these credits.
For more information on collection efforts, evaluation of collateral and how
loss amounts are estimated, see Non-Performing Assets.
Although
we may allocate a portion of the allowance to specific loans or loan
categories, the entire allowance is available for active charge-offs. We develop our allowance estimates based on
actual loss experience adjusted for current economic conditions. Allowance estimates represent a prudent
measurement of the risk in the loan portfolio, which we apply to individual
loans based on loan type.
Non-Performing
Assets
Non-performing assets consist of certain restructured loans
for which interest rate or other terms have been renegotiated, loans on which
interest is no longer accrued, real estate acquired through foreclosure and
repossessed assets. We do not have any
loans longer than 90 days past due still on accrual. Loans, including impaired loans under SFAS
114, are placed on non-accrual status when they become past due 90 days or more
as to principal or interest, unless they are adequately secured and in the
process of collection. Loans are
considered impaired when we no longer anticipate full principal or interest
payments in accordance with the contractual loan terms. We carry impaired loans at the present value
of expected future cash flows discounted at the loans effective interest rate
or at the fair value of the collateral if the loan is secured by collateral.
We
review our loans on a regular basis and implement normal collection procedures
when a borrower fails to make a required payment on a loan. If the delinquency on a mortgage loan exceeds
90 days and is not cured through normal collection procedures or an acceptable
arrangement is not worked out with the borrower, we institute measures to
remedy the default, including commencing a foreclosure action. We generally charge off consumer loans when
management deems a loan uncollectible and any available collateral has been
liquidated. We handle commercial
business and real estate loan delinquencies on an individual basis with the
advice of legal counsel.
We
recognize interest income on loans on the accrual basis except for those loans
in a non-accrual of income status. We discontinue accruing interest on impaired
loans when management believes, after consideration of economic and business
conditions and collection efforts that the borrowers financial condition is such
that collection of interest is doubtful, typically after the loan becomes 90
days delinquent. When we discontinue
interest accrual, we reverse existing accrued interest and subsequently
recognize interest income only to the extent we receive cash payments.
We classify real estate acquired as a result of
foreclosure or by deed in lieu of foreclosure as real estate owned until such
time as it is sold. We classify new and used automobile, motorcycle and all
terrain vehicles acquired as a result of foreclosure as repossessed assets
until they are sold. When such property is acquired we record it at the lower
of the unpaid principal balance of the related loan or its fair market
value. We charge any write-down of the property
at the time of acquisition to the allowance for loan losses. Subsequent gains and losses are included in
non-interest income and non-interest expense.
Real estate acquired through foreclosure increased $3.9 million to $5.6
million at September 30, 2008. The
increase was primarily the result of three commercial credit relationships
totaling $1.3 million, $1.2 million and $1.1 million that were transferred
during the 2008 period.
32
Table of Contents
The
following table provides information with respect to non-performing assets for
the periods indicated.
|
|
September 30,
|
|
December 31,
|
|
(Dollar in thousands)
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
Restructured
|
|
$
|
841
|
|
$
|
2,335
|
|
Past due 90 days
still on accrual
|
|
|
|
|
|
Loans on
non-accrual status
|
|
11,461
|
|
6,554
|
|
Total
non-performing loans
|
|
12,302
|
|
8,889
|
|
|
|
|
|
|
|
Real estate
acquired through foreclosure
|
|
5,649
|
|
1,749
|
|
Other
repossessed assets
|
|
91
|
|
52
|
|
Total
non-performing assets
|
|
$
|
18,042
|
|
$
|
10,690
|
|
|
|
|
|
|
|
Interest income
that would have been earned on non-performing loans
|
|
$
|
845
|
|
$
|
696
|
|
Interest income
recognized on non-performing loans
|
|
93
|
|
188
|
|
Ratios: Non-performing
loans to total loans
|
|
|
|
|
|
(excluding loans
held for sale)
|
|
1.41
|
%
|
1.16
|
%
|
Non-performing
assets to total loans
|
|
|
|
|
|
(excluding loans
held for sale)
|
|
2.07
|
%
|
1.39
|
%
|
Non-performing loans increased $3.4 million to $12.3 million at September 30,
2008 compared to $8.9 million at December 31, 2007. The increase in non-accrual loans consist
primarily of two credit relationships totaling $4.1 million and $751,000. These
credit relationships are well secured by real estate and we have provided
adequate allowance based on current information.
Non-performing assets for the 2008 period include $841,000 in
restructured commercial, mortgage and consumer loans. Restructured loans primarily consist of four
credit relationships with balances of $298,000, $219,000, $141,000 and
$120,000. The terms of these loans have
been renegotiated to reduce the rate of interest and extend the term, thus
reducing the amount of cash flow required from the borrower to service the
loans. The borrowers are currently meeting the terms of the restructured
loans. The decrease in restructured
loans from December 31, 2007 was primarily due to the removal of one
credit relationship totaling $2.0 million from the restructured loan category
since the terms of the loan are now substantially equivalent to terms on which
loans with comparable risks are being made and the borrower has performed per
the terms of the contract.
Investment Securities
Interest
on securities provides us our largest source of interest income after interest
on loans, constituting 3.2% of the total interest income for the nine months
ended September 30, 2008. The
securities portfolio serves as a source of liquidity and earnings and
contributes to the management of interest rate risk. We have the authority to invest in various
types of liquid assets, including short-term United States Treasury obligations
and securities of various federal agencies, obligations of states and political
subdivisions, corporate bonds, certificates of deposit at insured savings and
loans and banks, bankers acceptances, and federal funds. We may also invest a portion of our assets in
certain commercial paper and corporate debt securities. We are also authorized to invest in mutual
funds and stocks whose assets conform to the investments that we are authorized
to make directly. The available-for-sale and held-to-maturity investment
portfolios decreased by $14.9 million during the 2008 period as securities were
called for redemption in accordance with their terms due to decreasing
rates. The FSB Bancshares, Inc.
acquisition contributed approximately $2.5 million in held-to-maturity federal
agencies and obligations of states and political subdivisions. We also purchased $524,000 in equity
securities during the September 2008 period.
We review all unrealized
losses at least on a quarterly basis to determine whether the losses are other
than temporary and more frequently when economic or market concerns warrant
such evaluation. We consider the length of time and the extent to which the
fair value has been less than cost, the financial condition and near-term
prospects of the issuer, and our intent and ability to retain the investment in
the issuer for a period of time sufficient to allow for any anticipated
recovery in fair value. In analyzing an
issuers financial condition, we may consider whether the securities are issued
by the federal government or its agencies, whether downgrades by bond rating
agencies have occurred, and the results of reviews of the issuers financial condition.
33
Table of Contents
The unrealized losses on our
temporarily impaired debt securities are a result of changes in interest rates
for fixed-rate securities where the interest rate received is less than the
current rate available for new offerings of similar securities. Because the decline in market value is
attributable to changes in interest rates and not credit quality, and because
we have the ability and intent to hold these investments until recovery of fair
value, which may be maturity, we do not consider these investments to be
other-than-temporarily impaired at September 30, 2008.
We
have evaluated the decline in the fair value of our trust preferred securities,
which is directly related to the credit and liquidity crisis being experienced
in the financial services industry over the past year. The
trust preferred securities market is currently inactive making the valuation of
trust preferred securities very difficult. The trust preferred
securities are valued by management using unobservable inputs (i.e., Level 3
inputs under SFAS No. 157) through a discounted cash flow analysis as
permitted under SFAS 157 and using the expected cash flows appropriately
discounted using present value techniques. Refer to Note 6 Fair
Value for more information.
All of our trust preferred
securities remain investment grade with the exception of PreTSL XXI and have
continued to pay interest as scheduled through September 30, 2008, and are
expected to continue paying interest as scheduled. We believe the
cash flows of our trust preferred securities, as discounted, appropriately
reflect the estimated fair value of the securities. Management has
analyzed this portfolio to determine whether the decline is other than
temporary and has concluded that only temporary impairment exists. See
Note 2 Securities for more information. Management will
continue to evaluate these securities for impairment
quarterly. Under U.S. generally accepted accounting principles, we
have reflected the current period temporary fair value decline in stockholders
equity through comprehensive income.
We recognized an
other-than-temporary impairment charge of $216,000 during the second quarter on
certain equity securities with a cost basis of $840,000. Management believes
this impairment was primarily attributable to current economic conditions.
Since recovery does not appear likely in the near future, we recognized the
impairment losses. Previously, we recognized the decline in market value of
these equity securities in stockholders equity through comprehensive
income. We continue to monitor these
holdings.
Deposits
We
rely primarily on providing excellent customer service and long-standing
relationships with customers to attract and retain deposits. Market interest
rates and rates on deposit products offered by competing financial institutions
can significantly affect our ability to attract and retain deposits. In conjunction with our initiatives to expand
and enhance our retail branch network, we emphasize growing our customer
checking account base to better enhance profitability and franchise value. Total deposits increased $87.7 million year
to date compared to December 31, 2007. The recent acquisition of FSB
Bancshares, Inc. contributed approximately $55.8 million in deposits.
Retail and
commercial deposits increased $105.7 million which was offset by an $18.0
million decrease in public funds and brokered certificates for the 2008 period
.
Brokered deposits were $15.4 million at September 30, 2008
compared to $24.3 million at December 31, 2007.
The
following table breaks down our deposits.
|
|
September 30,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(In Thousands)
|
|
|
|
|
|
|
|
Non-interest
bearing
|
|
$
|
63,051
|
|
$
|
46,978
|
|
NOW demand
|
|
98,900
|
|
79,133
|
|
Savings
|
|
106,295
|
|
91,249
|
|
Money market
|
|
42,428
|
|
49,306
|
|
Certificates of
deposit
|
|
466,247
|
|
422,577
|
|
|
|
$
|
776,921
|
|
$
|
689,243
|
|
34
Table of Contents
Short-Term Borrowings
We have the ability to obtain short-term borrowings,
consisting of federal funds purchased and securities sold under agreements to
repurchase. We had short-term borrowings
of $65.3 million and $68.2 million from the FHLB of Cincinnati at September 30,
2008 and 2007. These borrowings averaged
a rate of 2.59% and 5.50% for 2008 and 2007.
Advances from Federal Home Loan Bank
Deposits are the primary source of funds for
our lending and investment activities and for our general business
purposes. We can also use advances
(borrowings) from the Federal Home Loan Bank (FHLB) of Cincinnati to compensate
for reductions in deposits or deposit inflows at less than projected
levels. Advances from the FHLB are
secured by our stock in the FHLB, certain securities, certain commercial real
estate loans and substantially all of our first mortgage, multi-family and open
end home equity loans. At September 30,
2008 we had $53.0 million in advances outstanding from the FHLB and the
capacity to increase our borrowings an additional $38.4 million.
Subordinated
Debentures
On June 24, 2008, First
Federal Statutory Trust III, an unconsolidated trust subsidiary of First
Financial Service Corporation, issued $8.0 million in trust preferred
securities. The trust loaned the
proceeds of the offering to us in exchange for junior subordinated deferrable interest
debentures which we used to finance the purchase of FSB Bancshares, Inc. In accordance with FASB Interpretation 46,
the trust is not consolidated with our financial statements but rather the
subordinated debentures are shown as a liability. The subordinated debentures, which mature on June 24,
2038, can be called at par in whole or in part on or after June 24, 2018.
The subordinated debentures pay a fixed rate of 8% for thirty years. We have the option to defer interest payments
on the subordinated debt from time to time for a period not to exceed five
consecutive years. The subordinated
debentures are considered as Tier I capital for the Corporation under current
regulatory guidelines.
In 2002, another trust we
formed completed a private placement of 10,000 shares of cumulative trust
preferred securities with a liquidation preference of $1,000 per security for a
total outstanding of $10.0 million.
These securities pay distributions of interest. On March 26, 2007
we called the $10.0 million in subordinated debentures adjustable quarterly at
LIBOR plus 360 basis points (8.97% on March 26, 2007) and issued new 30
year cumulative trust preferred securities at a 10 year fixed rate of 6.69%
adjusting quarterly thereafter at LIBOR plus 160 basis points. The subordinated debentures, which mature March 22,
2037, can be called at par in whole or in part on or after March 15,
2017. We have the option to defer
interest payments on the subordinated debt from time to time for a period not
to exceed five consecutive years. The subordinated debentures are considered as
Tier I capital for the Corporation under current regulatory guidelines.
The trust loaned the
proceeds of the offering to us in exchange for junior subordinated deferrable
interest debentures. In accordance with FASB Interpretation 46, the trust is
not consolidated with our financial statements but rather the subordinated
debentures are shown as a liability.
LIQUIDITY
Liquidity risk arises from the possibility we may not be able to satisfy current or future financial commitments, or may become unduly reliant on alternative funding sources. The objective of liquidity risk management is to ensure that we can meet the cash flow requirements of depositors and borrowers, as well as our operating cash needs, at a reasonable cost, taking into account all on- and off-balance sheet funding demands. We maintain an investment and funds management policy, which identifies the primary sources of liquidity, establishes procedures for monitoring and measuring liquidity, and establishes minimum liquidity requirements in compliance with regulatory guidance. The Asset Liability Committee continually monitors our liquidity position.
Our sources of funds include the sale of securities in the available-for-sale portion of the investment portfolio, the payment of principal on loans and mortgage-backed securities, proceeds realized from loans held for sale, brokered deposits and other wholesale funding. We also secured federal funds borrowing lines from four of our correspondent banks. Two of the lines are for $15 million each and the other two are for $5 million each. Our banking centers also provide access to retail deposit markets. If large certificate depositors shift to our competitors or other markets in response to interest rate changes, we have the ability to replenish those deposits through alternative funding sources. Traditionally, we have also borrowed from the FHLB to supplement our funding requirements. At September 30, 2008, we had an unused approved line of credit in the amount of $97.0 million and sufficient collateral available to borrow, approximately, an additional $38.4 million in advances from
35
Table of Contents
the FHLB.
We believe our sources of liquidity are adequate to meet expected cash needs for the foreseeable future.
At the holding company level, the Corporation uses cash to pay dividends to stockholders, repurchase common stock, make selected investments and acquisitions, and service debt. The main sources of funding for the Corporation include dividends from the Bank, borrowings and access to the capital markets.
The primary source of
funding for the Corporation has been dividends and returns of investment from
the Bank. Kentucky banking laws limit the amount of dividends that may be paid
to the Corporation by the Bank without prior approval of the KOFI. Under these laws, the amount of dividends
that may be paid in any calendar year is limited to current years net income,
as defined in the laws, combined with the retained net income of the preceding
two years, less any dividends declared during those periods. At September 30, 2008, the Bank had
approximately $13.9 million of retained earnings that could be used to pay
dividends without prior regulatory approval.
Because of these limitations, consolidated cash flows as presented in
the consolidated statements of cash flows may not represent cash immediately
available to the Corporation. During
2008, the Bank declared and paid dividends of $9.5 million to the
Corporation. Included in the total
dividend payment was $6.0 million in dividends that were used to finance the
purchase of FSB Bancshares, Inc.
CAPITAL
Stockholders equity
increased $996,000 for the period ended September 30, 2008 compared to December 31,
2007 primarily due to net income earned during the period. This increase was reduced by cash dividends
declared and the net change in unrealized losses on securities
available-for-sale during the period.
Average stockholders equity to average assets ratio decreased to 8.21%
for the nine month period ended September 30, 2008 compared to 8.59% for
2007.
During the first nine months of 2008, we did not purchase any shares of
our own common stock.
The current repurchase
program authorizes the repurchase of 398,601 shares from time-to-time if market
conditions are deemed favorable.
The repurchase
program will remain effective until the number of shares authorized is
repurchased or until the program expires.
As of September 30,
2008, 242,560 shares could be repurchased under the current stock repurchase
program.
Each of the federal bank regulatory agencies has
established minimum leverage capital requirements for banks. Banks must
maintain a minimum ratio of Tier 1 capital to adjusted average quarterly assets
ranging from 3% to 5%, subject to federal bank regulatory evaluation of an
organizations overall safety and soundness.
We intend to maintain a capital position that meets or exceeds the well
capitalized requirements as defined for banks by the FDIC. The following table shows the ratios of Tier
1 capital and total capital to risk-adjusted assets and the leverage ratios for
the Corporation and the Bank as of September 30, 2008.
36
Table
of Contents
|
|
|
|
|
|
|
|
|
|
To Be Considered
|
|
|
|
|
|
|
|
|
|
|
|
Well Capitalized
|
|
|
|
|
|
|
|
|
|
|
|
Under Prompt
|
|
|
|
|
|
|
|
For Capital
|
|
Correction
|
|
|
|
Actual
|
|
Adequacy Purposes
|
|
Action Provisions
|
|
(Dollars in thousands)
|
|
Amount
|
|
Ratio
|
|
Amount
|
|
Ratio
|
|
Amount
|
|
Ratio
|
|
As of September 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total risk-based
capital (to risk- weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
|
|
$
|
90,795
|
|
10.6
|
%
|
$
|
68,660
|
|
8.0
|
%
|
N/A
|
|
N/A
|
|
Bank
|
|
89,136
|
|
10.4
|
|
68,533
|
|
8.0
|
|
$
|
85,666
|
|
10
|
%
|
Tier I capital
(to risk-weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
|
|
80,288
|
|
9.4
|
|
34,330
|
|
4.0
|
|
N/A
|
|
N/A
|
|
Bank
|
|
78,621
|
|
9.2
|
|
34,266
|
|
4.0
|
|
51,399
|
|
6
|
%
|
Tier I capital
(to average assets)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
|
|
80,288
|
|
8.3
|
|
38,668
|
|
4.0
|
|
N/A
|
|
N/A
|
|
Bank
|
|
78,621
|
|
8.1
|
|
38,631
|
|
4.0
|
|
48,289
|
|
5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
To Be Considered
|
|
|
|
|
|
|
|
|
|
|
|
Well Capitalized
|
|
|
|
|
|
|
|
|
|
|
|
Under Prompt
|
|
|
|
|
|
|
|
For Capital
|
|
Correction
|
|
|
|
Actual
|
|
Adequacy Purposes
|
|
Action Provisions
|
|
(Dollars in thousands)
|
|
Amount
|
|
Ratio
|
|
Amount
|
|
Ratio
|
|
Amount
|
|
Ratio
|
|
As of December 31, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total risk-based
capital (to risk- weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
|
|
$
|
83,310
|
|
10.9
|
%
|
$
|
61,405
|
|
8.0
|
%
|
N/A
|
|
N/A
|
|
Bank
|
|
80,176
|
|
10.5
|
|
61,220
|
|
8.0
|
|
$
|
76,526
|
|
10.0
|
|
Tier I capital
(to risk-weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
|
|
75,388
|
|
9.8
|
|
30,703
|
|
4.0
|
|
N/A
|
|
N/A
|
|
Bank
|
|
72,126
|
|
9.4
|
|
30,610
|
|
4.0
|
|
45,915
|
|
6.0
|
|
Tier I capital
(to average assets)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
|
|
75,388
|
|
8.7
|
|
34,661
|
|
4.0
|
|
N/A
|
|
N/A
|
|
Bank
|
|
72,126
|
|
8.3
|
|
34,661
|
|
4.0
|
|
43,326
|
|
5.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
Asset/Liability Management
and Market Risk
To minimize the volatility of net interest income and exposure to
economic loss that may result from fluctuating interest rates, we manage our
exposure to adverse changes in interest rates through asset and liability
management activities within guidelines established by our Asset Liability
Committee (ALCO). The ALCO, which
includes senior management representatives, has the responsibility for
approving and ensuring compliance with asset/liability management
policies. Interest rate risk is the
exposure to adverse changes in the net interest income as a result of market
fluctuations in interest rates. The
ALCO, on an ongoing basis, monitors interest rate and liquidity risk in order
to implement appropriate funding and balance sheet strategies. Management considers interest rate risk to be
our most significant market risk.
We utilize an earnings simulation model to analyze net
interest income sensitivity. We then
evaluate potential changes in market interest rates and their subsequent
effects on net interest income. The
model projects the effect of instantaneous movements in interest rates of both
100 and 200 basis points. We also
incorporate assumptions based on the historical behavior of our deposit rates
and balances in relation to changes in interest rates into the model. These assumptions are inherently uncertain
and, as a result, the model cannot precisely measure future net interest income
or precisely predict the impact of fluctuations in market interest rates on net
interest income. Actual results will
differ from the models simulated results due to timing, magnitude and
frequency of interest rate changes as well as changes in market conditions and
the application and timing of various management strategies.
37
Table
of Contents
Our interest sensitivity profile was asset sensitive
at September 30, 2008 and December 31, 2007. Given a sustained 100 basis point decrease in
rates, our base net interest income would decrease by an estimated
1.91% at September 30, 2008 compared
to a decrease of 1.10% at December 31, 2007.
Given a 100 basis point
increase in interest rates our base net interest income would increase by an
estimated 2.09% at September 30, 2008
compared to an increase of 1.09% at December 31, 2007.
Our interest sensitivity at any point in time will
be affected by a number of factors.
These factors include the mix of interest sensitive assets and
liabilities, their relative pricing schedules, market interest rates, deposit
growth, loan growth, decay rates and prepayment speed assumptions.
We use various asset/liability strategies to manage
the re-pricing characteristics of our assets and liabilities designed to ensure
that exposure to interest rate fluctuations is limited within our guidelines of
acceptable levels of risk-taking. As
demonstrated by the September 30, 2008 and December 31, 2007
sensitivity tables, our balance sheet has an asset sensitive position. This
means that our earning assets, which consist of loans and investment
securities, will change in price at a faster rate than our deposits and
borrowings. Therefore, if short term
interest rates increase, our net interest income will increase. Likewise, if short term interest rates
decrease, our net interest income will decrease.
Our sensitivity to interest rate changes is
presented based on data as of September 30, 2008 and December 31,
2007 annualized to a one year period.
|
|
September 30, 2008
|
|
|
|
Decrease in Rates
|
|
|
|
Increase in Rates
|
|
|
|
200
|
|
100
|
|
|
|
100
|
|
200
|
|
(Dollars in thousands)
|
|
Basis Points
|
|
Basis Points
|
|
Base
|
|
Basis Points
|
|
Basis Points
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Projected
interest income
|
|
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
52,411
|
|
$
|
53,871
|
|
$
|
55,318
|
|
$
|
56,862
|
|
$
|
58,390
|
|
Investments
|
|
1,564
|
|
1,651
|
|
1,725
|
|
1,806
|
|
1,878
|
|
Total
interest income
|
|
53,975
|
|
55,522
|
|
57,043
|
|
58,668
|
|
60,268
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Projected
interest expense
|
|
|
|
|
|
|
|
|
|
|
|
Deposits
|
|
18,144
|
|
18,742
|
|
19,280
|
|
19,863
|
|
20,418
|
|
Borrowed funds
|
|
5,018
|
|
4,650
|
|
5,008
|
|
5,364
|
|
5,719
|
|
Total
interest expense
|
|
23,162
|
|
23,392
|
|
24,288
|
|
25,227
|
|
26,137
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
$
|
30,813
|
|
$
|
32,130
|
|
$
|
32,755
|
|
$
|
33,441
|
|
$
|
34,131
|
|
Change from base
|
|
$
|
(1,942
|
)
|
$
|
(625
|
)
|
|
|
$
|
686
|
|
$
|
1,376
|
|
% Change from
base
|
|
(5.93
|
)%
|
(1.91
|
)%
|
|
|
2.09
|
%
|
4.20
|
%
|
|
|
December 31, 2007
|
|
|
|
Decrease in Rates
|
|
|
|
Increase in Rates
|
|
|
|
200
|
|
100
|
|
|
|
100
|
|
200
|
|
(Dollars in thousands)
|
|
Basis Points
|
|
Basis Points
|
|
Base
|
|
Basis Points
|
|
Basis Points
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Projected
interest income
|
|
|
|
|
|
|
|
|
|
|
|
Loans
|
|
$
|
54,208
|
|
$
|
55,624
|
|
$
|
57,011
|
|
$
|
58,344
|
|
$
|
59,644
|
|
Investments
|
|
2,319
|
|
2,351
|
|
2,376
|
|
2,407
|
|
2,439
|
|
Total
interest income
|
|
56,527
|
|
57,975
|
|
59,387
|
|
60,751
|
|
62,083
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Projected
interest expense
|
|
|
|
|
|
|
|
|
|
|
|
Deposits
|
|
20,995
|
|
21,856
|
|
22,733
|
|
23,572
|
|
24,485
|
|
Borrowed funds
|
|
3,481
|
|
3,656
|
|
3,829
|
|
3,997
|
|
4,166
|
|
Total
interest expense
|
|
24,476
|
|
25,512
|
|
26,562
|
|
27,569
|
|
28,651
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest income
|
|
$
|
32,051
|
|
$
|
32,463
|
|
$
|
32,825
|
|
$
|
33,182
|
|
$
|
33,432
|
|
Change from base
|
|
$
|
(774
|
)
|
$
|
(362
|
)
|
|
|
$
|
357
|
|
$
|
607
|
|
% Change from
base
|
|
(2.36
|
)%
|
(1.10
|
)%
|
|
|
1.09
|
%
|
1.85
|
%
|
38
Table
of Contents
Item 4. CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures
Our
management, with the participation of our Chief Executive Officer and our Chief
Financial Officer, evaluated the effectiveness of our disclosure controls and
procedures as of the end of the period covered by this quarterly report on Form
10-Q to ensure that information we are required to disclose in reports that we
file or submit under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in
Securities and Exchange Commission rules and forms. Based on this evaluation,
our Chief Executive Officer and our Chief Financial Officer have concluded that
our disclosure controls and procedures related to the application of SFAS No.
114 Accounting by Creditors for Impairment of a Loan were not effective as of
the end of the period covered by this Quarterly Report on Form 10-Q for a
certain transaction. Specifically, this transaction related to the use of a
wrong value obtained from an appraisal on one commercial real estate loan in
determining the amount of impairment change needed to be taken by the Company. This transaction was identified after
discussion with the Companys independent registered public accounting firm.
Management has made modifications to the internal control procedures for
determining write-downs on impaired loans to remediate this deficiency and anticipates
that such controls will operate effectively for the remainder of 2008.
Limitations on the Effectiveness of Controls
A control system, no matter how well designed and
operated, can provide only reasonable, not absolute, assurance that the control
systems objectives will be met.
Further, the design of a control system must reflect the fact that there
are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the
inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, with our company have been detected.
These inherent limitations include the realities that judgments in
decision making can be faulty, that breakdowns can occur because of simple
errors or mistakes, and that controls can be circumvented by the acts of
individuals or groups. Because of the
inherent limitations in a cost effective control system, misstatements due to
error or fraud may occur and not be detected.
Changes in internal control over financial reporting
There
was no change in our internal control over financial reporting that occurred
during the period covered by this quarterly report on Form 10-Q that has
materially affected, or is reasonably likely to materially affect, our internal
control over financial reporting.
39
Table of Contents
Part II
- OTHER INFORMATION
Item 1.
|
|
Legal Proceedings
|
|
|
|
|
|
Although,
from time to time, we are involved in various legal proceedings in the normal
course of business, there are no material pending legal proceedings to which
we are a party, or to which any of our property is subject.
|
|
|
|
Item 1A.
|
|
Risk Factors
|
|
|
|
|
|
We
did not have any changes to our risk factors previously disclosed in our
Annual Report on Form 10-K for the year ended December 31, 2007.
|
|
|
|
Item 2.
|
|
Unregistered Sales of Securities and Use of Proceeds
|
|
|
|
|
|
(e)
Issuer Purchases of Equity Securities
|
|
|
|
|
|
We did not repurchase any shares of our common stock during the quarter ended September 30, 2008.
|
|
|
|
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:
|
|
|
|
|
|
31.1
|
Certification
of Chief Executive Officer Pursuant to Section 302 of Sarbanes-Oxley Act
|
|
|
|
|
|
|
31.2
|
Certification
of Chief Financial Officer Pursuant to Section 302 of Sarbanes-Oxley Act
|
|
|
|
|
|
|
32
|
Certification of Chief Executive Officer and Chief
Financial Officer Pursuant to Section 18 U.S.C. Section 1350 (As
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002)
|
40
Table of Contents
FIRST FINANCIAL SERVICE CORPORATION
SIGNATURES
Pursuant to the requirements of Section 13 or
15(d) 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.
Date:
November 10, 2008
|
By:
|
/s/
B. Keith Johnson
|
|
|
B.
Keith Johnson
|
|
|
Chief
Executive Officer
|
|
|
|
|
|
|
Date:
November 10, 2008
|
By:
|
/s/
Steven M. Zagar
|
|
|
Steven M. Zagar
|
|
|
Chief
Financial Officer &
|
|
|
Principal
Accounting Officer
|
41
Table
of Contents
INDEX TO EXHIBITS
Exhibit No.
|
|
Description
|
|
|
|
31.1
|
|
Certification
of Chief Executive Officer Pursuant to Section 302 of Sarbanes-Oxley Act
|
|
|
|
31.2
|
|
Certification
of Chief Financial Officer Pursuant to Section 302 of Sarbanes-Oxley Act
|
|
|
|
32
|
|
Certification
of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C.
Section 1350 (As Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002)
|
42
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