Item 1. Business
Princeton
National Bancorp, Inc. (PNBC, the Corporation, or the Company) is a single-bank
holding company which operates in one business segment conducting a
full-service commercial banking, trust and investment brokerage business
through its subsidiary bank, Citizens First National Bank (Citizens Bank,
the Bank, or the subsidiary bank). PNBC was incorporated as a Delaware
corporation in 1981 in contemplation of the acquisition of all of the
outstanding common stock of Citizens Bank and other future acquisitions. At
December 31, 2007, the Corporation had consolidated total assets of
$1,080,702,000 and stockholders equity of $68,607,000.
PNBC
operates the Bank as a community bank with offices located for convenience and
with professional, highly-motivated, progressive employees who know the Banks
customers and provide individualized, quality service. As part of its community
banking approach, officers of the Bank actively participate in community
organizations. In addition, within certain credit and rate of return
parameters, the subsidiary bank strives to meet the lending needs of the
communities in which offices are located and invests in local municipal
securities.
Corporate
policy, strategy and goals are established by the Board of Directors of PNBC.
Pursuant to PNBCs holding company philosophy, operational and administrative
policies for the Bank are also established at the holding company level. Within
this framework, the Bank focuses on providing personalized services and quality
products to its customers to meet the needs of the communities in which its offices
are located. In 2007, the majority of the directors of PNBC also served as the
directors of Citizens Bank, which further assists PNBC to directly implement
its policies at Citizens Bank.
Acquisition and Expansion Strategy
PNBC seeks
to diversify both its market area and asset base and increase profitability
through acquisitions and expansion. PNBCs goal, as reflected by its
acquisition policy, is to expand through the acquisition of established
financial service organizations (primarily commercial banks to the extent
suitable candidates may be identified) and by expanding into potential
high-growth areas. In integrating acquisitions, PNBC focuses on, among other
actions, implementing the policies established at Citizens Bank, improving asset
quality, the net interest margin, and encouraging community involvement. In
2007, PNBC acquired the Plainfield office of HomeStar Bank and in 2005, PNBC
acquired Somonauk FSB Bancorp, Inc. and its subsidiary, Farmers State Bank,
with branches in Somonauk, Millbrook, Newark and Sandwich (subsequently merged
into Citizens Bank).
PNBC will
also consider establishing branch facilities as a means of expanding its
presence into new market areas. PNBC opened new branch facilities in the
Peru/LaSalle/Oglesby area in 1994, in Minooka in 1994, Hampshire in 1995, Henry
in 1999, Huntley in 2001, Plano in 2005 and Aurora in 2006. Several of these
locations, along with the Plainfield office, are located in rapidly growing
communities that will provide significant loan and deposit growth
opportunities, as well as increased revenue potential.
Citizens First National Bank
Citizens
Bank was organized in 1865 as a national banking association under the National
Bank Act. Currently in its one hundred and forty-third year, Citizens Bank has
twenty-one offices in seventeen different communities in north central
Illinois: Aurora, DePue, Genoa, Hampshire, Henry, Huntley, Millbrook, Minooka,
Newark, Oglesby, Peru, Plainfield, Plano, Princeton, Sandwich, Somonauk, and
Spring Valley.
Citizens
Bank serves individuals, businesses and governmental bodies in Bureau, DeKalb,
Grundy, Kane, Kendall, LaSalle, Marshall, McHenry, Will and contiguous
counties. Citizens Bank operates a full-service community commercial bank and
trust business that offers a broad range of financial services to customers.
Citizens Banks services consist primarily of commercial, real estate and
agricultural lending, consumer deposit and financial services, and trust,
brokerage, insurance, and farm management services.
Commercial, Real Estate, and Agricultural Lending
Citizens
Banks commercial loan department provides secured and to a much lesser extent
unsecured loans, including real estate loans, to companies and individuals for
business purposes and to governmental units within the Banks market area. As
of December 31, 2007, Citizens Bank had commercial loans of $168.9 million
(23.4% of the Banks total loan portfolio) and commercial real estate loans of
$160.1 million (22.2% of the Banks total loan portfolio). Citizens Bank does
not have a concentration of commercial loans in any single industry or
business, except for loans to the agricultural industry as more fully disclosed
below.
Agricultural
and agricultural real estate loans are primarily related to ventures near our
branch locations. As of December 31, 2007, Citizens Bank had agricultural loans
of $85.6 million and agricultural real estate loans of $61.2 million, which
represent approximately 11.8% and 8.5%, respectively, of the Banks total loan
portfolio.
Agricultural
loans, many of which are secured by crops, machinery, and real estate, are
provided to finance capital improvements and farm operations as well as
acquisitions of livestock and machinery. The subsidiary banks agricultural
loan department has the equivalent of five lending officers and works closely
with all agricultural customers, including companies and individual farmers,
assisting in the preparation of budgets and cash flow projections for the
ensuing crop year. These budgets and cash flow projections are monitored
closely by the Bank during the year. In addition, Citizens Bank works closely
with governmental agencies, including the Farm Service Agency, to assist
agricultural customers in obtaining credit enhancement products, such as loan
guaranties.
In
accordance with its loan policy, Citizens Bank maintains a diversified loan
portfolio. As part of its loan policy and community banking approach, Citizens
Bank does not buy loan syndications with other lending institutions. Citizens
Bank does buy and sell loan participations with other community banks. In
connection with its credit relationships, Citizens Bank encourages commercial
and agricultural borrowers to maintain deposit accounts at the Bank.
Personal Financial Services
The
principal consumer services offered by Citizens Bank are demand, savings and
time deposit accounts, home mortgage loans, installment loans, and brokerage
services.
One of the
strengths of Citizens Bank is the stability of its retail deposit base. This
stability is due primarily to the Banks service oriented competitive strategy
and the economically diverse populations of the counties encompassing the
twenty-one banking offices. These locations provide convenience for customers
and visibility for Citizens Bank. A variety of marketing strategies are used to
attract and retain stable depositors, the most important of which is the
officer call program. Nearly all officers of the Bank call on customers and
potential customers of the Bank to maintain and develop relationships.
Citizens
Bank is active in consumer and mortgage lending with approximately $127.7
million in home mortgage loans (17.7 % of the Banks total loan portfolio) and
$72.3 million in consumer installment loans (10.0% of the Banks total loan
portfolio) as of December 31, 2007. To better serve its retail customers,
Citizens Bank is active in the secondary residential mortgage market. As a
matter of policy, Citizens Bank does not hold, in portfolio, long term, fixed rate,
single-family home mortgage loans, however, the servicing of such loans is
maintained. As of December 31, 2007, Citizens Bank had $268.4 million of loans
that have been sold, but servicing has been maintained. Management believes
customers receive a higher level of quality service with this arrangement.
Citizens
Bank maintains twenty-five automated teller machines. The Bank is a member of
ACCEL/Exchange and NYCE as well as other major nationwide networks such as,
CIRRUS and PLUS. To enhance customer service and convenience, Citizens Bank
offers ATM & Debit Cards, which can be used anywhere VISA is accepted, and
is viewed as a tremendous benefit to our customers. Citizens Bank also offers
an entire host of Internet Banking services including Bill Pay as an additional
and convenient alternative delivery mechanism for its product and service line.
Citizens
Bank continues to maintain an intensive sales training program, which includes
team coaching, setting goals, measuring results, and reward recognition. In
2007, Citizens Bank continues to focus on making quality product referrals and
sales.
Citizens Financial
Advisors (CFA)
CFA
Fiduciary Services took a significant competitive stride forward in 2007 with
its affiliation with Matrix Settlement and Clearing Services of Denver,
Colorado. Matrix will provide a platform to expand the mutual funds from the
current two prominent fund families, that of Federated and Accessor Funds, to
virtually all funds in the entire industry. This open architecture offering
will allow Fiduciary Services to give its clients a choice of over 36,000
various mutual funds and share classes.
Fiduciary
Services continued to transfer additional duties of the various 401(K) client
businesses to BPA-Harbridge, Inc. (BPA) in 2007. These transfers allowed for
the record keeping responsibilities of nearly $11 million to be professionally
accounted for by BPA. These transferees allowed Fiduciary Services additional
time to obtain new customers while retaining all oversight and control of the
accounts.
During
the year, Fiduciary Services also hired two new Relationship Mangers, both
of which are highly trained with many years of experience. One of the
Relationship Mangers is an Illinois licensed attorney while the other possesses
an MBA from Northwestern University. With the addition of these two new
Relationship Managers, Fiduciary Services has the most competent staff in its
history and is poised for continued future growth.
Fiduciary
Services completed the year with a 2.7% increase in total Income to $1,507,000.
The increase was more significant since it is compared to 2006, which contained
an additional $83,000 in farm management operations that were sold off during
2006.
CFA
Investment Services (Brokerage) experienced excellent results through the
continued entrenchment of the Client Advisors put into service at their
particular branches during the previous year and the continued emphasis of
broad needs-based client consultations. This emphasis allowed the Brokerage
program to increase the percentage of client dollars invested in a wider
variety of products such as separately managed accounts, stocks, bonds, and
mutual funds and away from traditional high-client cost products such as fixed
and variable annuities. Brokerage, after a specific concentration on the
support of customer needs, increased their year over year total income by an
impressive 24.9% to an all-time high of $920,000.
Competition
PNBC is
committed to community banking and to providing quality products and services
at competitive loan rates and deposit pricing in order to remain competitive in
its North Central Illinois market. Citizens Bank competes with both small,
locally owned banks, as well as regional financial institutions which have
numerous offices. The Bank competes with these organizations, as well as with
savings and loan associations, credit unions, mortgage companies, insurance
companies and other local financial institutions for deposits, loans and other
business. The principal methods of competition include loan and deposit
pricing, the types and quality of services provided, as well as advertising and
marketing programs.
Supervision and Regulation
Bank
holding companies and banks are extensively regulated under federal and state
law. The following information describes certain statutes and regulations
affecting PNBC and the Bank, and such discussion is qualified in its entirety
by reference to such statutes and regulations. Any change in applicable law or
regulations may have a material effect on the business of PNBC and the Bank.
PNBC is
registered as a bank holding company with the Board of Governors of the Federal
Reserve System (the FRB), and is subject to supervision by the FRB under the
Bank Holding Company Act of 1956, as amended (the BHC Act). PNBC is required
to file with the FRB periodic reports and such additional information as the
FRB may require pursuant to the BHC Act. The FRB examines PNBC.
The BHC Act
requires prior FRB approval for, among other things, the acquisition by a bank
holding company of direct or indirect ownership or control of more than 5% of
the voting shares or substantially all the assets of any bank or bank holding
company, or for a merger or consolidation of a bank holding company with
another bank holding company. With certain exceptions, the BHC Act prohibits a
bank holding company from acquiring direct or indirect ownership or control of
voting shares of any company which is not a bank or bank holding company and
from engaging directly or indirectly in any activity other than banking or
managing or controlling banks or performing services for its authorized
subsidiaries. A bank holding company may, however, engage in or acquire an
interest in a company that engages in activities which the FRB has determined
by regulation or order to be so closely related to banking or managing or
controlling banks as to be a proper incident thereto.
In
November, 1999, the Gramm-Leach-Bliley Act (GLB Act) was signed into law.
Under the GLB Act, bank holding companies that meet certain standards and elect
to become financial holding companies are permitted to engage in a wider
range of activities than those permitted for bank holding companies, including
securities and insurance activities. Specifically, a bank holding company that
elects to become a financial holding company may engage in any activity that
the Federal Reserve Board, in consultation with the Secretary of the Treasury,
determines is (i) financial in nature or incidental thereto, or (ii)
complementary to any such financial-in-nature activity, provided that such
complementary activity does not pose a substantial risk to the safety and
soundness of depository institutions or the financial system generally. A bank
holding company may elect to become a financial holding company only if each of
its depository institution subsidiaries is well-capitalized, well-managed, and
has a Community Reinvestment Act rating of satisfactory or better at their
most recent examination.
The GLB Act
specifies many activities that are financial in nature, including lending,
exchanging, transferring, investing for others, or safeguarding money or
securities; underwriting and selling insurance; providing financial,
investment, or economic advisory services; underwriting, dealing in, or making
a market in securities; and those activities currently permitted for bank
holding companies that are so closely related to banking or managing or
controlling banks, as to be a proper incident thereto.
The GLB Act changed federal laws to
facilitate affiliation between banks and entities engaged in securities and
insurance activities. The law also established a system of functional
regulation under which banking activities, securities activities, and insurance
activities conducted by financial holding companies and their subsidiaries and
affiliates will be separately regulated by banking, securities, and insurance
regulators, respectively.
PNBC is a
legal entity separate and distinct from the Bank. The major source of PNBCs
revenue is dividends received from the Bank. The right of PNBC to participate
as a stockholder in any distribution of assets of the Bank upon its liquidation
or reorganization or otherwise is subject to the prior claims of creditors of
the Bank. The Bank is subject to claims by creditors for long-term and
short-term debt obligations, including obligations for federal funds purchased
and securities sold under repurchase agreements, as well as deposit
liabilities. The Bank is subject to regulation and examinations by the Office
of Comptroller of the Currency (the OCC).
The Bank
may declare dividends out of undivided profits, except that until the surplus
fund of the Bank is equal to its common capital, no dividend can be declared
until one-tenth of the Banks net income for the applicable period has been
carried to the surplus fund. The Bank, however, cannot declare or pay a
dividend, if after making the dividend, the Bank would be undercapitalized. In
addition, prior approval of the OCC is required if dividends declared by the
Bank in any calendar year will exceed its net income for that year combined
with its retained net income for the preceding two years. Under national
banking regulations and capital guidelines, as of December 31, 2007, the Bank
was authorized to distribute approximately $9,009,000 as dividends without
prior approval from the OCC, based on net income for 2007 and retained net
income for 2005 and 2006. As of January 1, 2008, retained net income for the
prior two years was approximately $7,556,000 and during 2008 the Bank may pay
dividends without prior approval from the OCC equal to that amount plus any
2008 net income. Future payments of dividends by the Bank will be dependent on
individual regulatory capital requirements and levels of profitability. The
ability of the Bank to pay dividends may be further restricted as a result of
regulatory policies and guidelines relating to dividend payments and capital
adequacy.
Federal
laws limit certain transactions between the Bank and its affiliates, including
PNBC. Such transactions include loans or extensions of credit by the Bank to
PNBC, the purchase of assets or securities of PNBC, the acceptance of PNBCs
securities as collateral for loans, and the issuance of a guaranty, acceptance
or letter of credit on behalf of PNBC. Transactions of this kind are limited to
10% of the Banks capital and surplus for transactions with one affiliate, and
20% of the Banks capital and surplus for transactions with all affiliates.
Such transactions are also subject to certain collateral requirements. These
transactions, as well as other transactions between the Bank and PNBC, must
also be on terms substantially the same as, or at least as favorable as, those
prevailing at the time for comparable transactions with nonaffiliated companies
or, in the absence of comparable transactions, on terms, or under
circumstances, including credit standards, that would be offered to, or would
apply to, nonaffiliated companies.
FRB policy
requires PNBC to act as a source of financial strength to the Bank and commit
resources to support the Bank. The FRB takes the position that in implementing
this policy, it may require PNBC to provide such support when PNBC otherwise
would not consider itself able to do so.
The various
federal bank regulators, including the FRB and the OCC, have adopted risk-based
capital requirements for assessing bank holding company and bank capital
adequacy. These standards establish minimum capital standards in relation to
assets and off-balance sheet exposures, as adjusted for credit risks. Capital
is classified into two tiers. For bank holding companies, Tier 1 or core
capital consists of common shareholders equity, perpetual preferred stock
(subject to certain limitations) and minority interests in the equity accounts
of consolidated subsidiaries, and is reduced by goodwill and certain other
intangible assets (Tier 1 Capital). Tier 2 capital consists of (subject to
certain conditions and limitations) the allowance for possible credit losses,
perpetual preferred stock, hybrid capital instruments, perpetual debt and
mandatory convertible debt securities, and term subordinated debt and
intermediate-term preferred stock (Tier 2 Capital). Total capital is the sum
of Tier 1 Capital and Tier 2 Capital (the latter being limited to 100% of Tier
1 Capital). Components of Tier 1 and Tier 2 Capital for national banks are
similar, but not identical, to those for holding companies.
Under the
risk-adjusted capital standards, a minimum ratio of qualifying total capital to
risk-weighted assets of 8% and of Tier l Capital to risk-weighted assets of 4%
is required. The FRB and OCC also have adopted a minimum leverage ratio of Tier
1 Capital to total assets of 3% for banks rated 1 under the Uniform Financial
Institutions Rating System or bank holding companies rated 1 under the rating
system of bank holding companies. All other banks and bank holding companies
must maintain a leverage ratio of 4%. In addition, all banks and bank holding
companies are expected to have capital commensurate with the level and nature
of all risks to which they are exposed.
At December
31, 2007, PNBC had a total capital to risk-weighted assets ratio of 8.44%, a
Tier 1 capital to risk-based assets ratio of 8.03%, and a leverage ratio of
6.33%. PNBC is classified as adequately capitalized for the first ratio and
well-capitalized for the last two ratios. At December 31, 2007, the Bank had a
total capital to risk-weighted assets ratio of 10.07%, a Tier 1 capital to
risk-weighted assets ratio of 9.66%, and a leverage ratio of 7.61%. The Bank is
classified as well-capitalized for all three ratios.
Currently,
the Banks deposits are insured by the Deposit Insurance Fund, which is
administered by the FDIC. The Deposit Insurance Fund was created by the Federal
Deposit Insurance Reform Act of 2005 (the FDIRA), which merged the Bank
Insurance Fund (BIF) with the Savings Association Insurance Fund (SAIF)
during 2006.
Following
the adoption of the FDIRA, the FDIC has the opportunity, through its rulemaking
authority, to better price deposit insurance for risk than was previously
authorized. The FDIC adopted regulations effective January 1, 2007 that
create a system of risk-based assessments. Under the regulations there are four
risk categories, and each insured institution will be assigned to a risk
category based on capital levels and supervisory ratings. Well-capitalized
institutions with CAMELS composite ratings of 1 or 2 will be placed in Risk
Category I while other institutions will be placed in Risk Categories II, III
or IV depending on their capital levels and CAMELS composite ratings. Current
assessment rates established by the FDIC provide that the highest rated
institutions, those in Risk Category I, will pay premiums of between .05% and .07%
of deposits and the lowest rated institutions, those in Risk Category IV, will
pay premiums of .43% of deposits. The assessment rates may be changed by the
FDIC as necessary to maintain the insurance fund at the reserve ratio
designated by the FDIC, which currently is 1.25% of insured deposits. The FDIC
may set the reserve ratio annually at between 1.15% and 1.50% of insured
deposits. Deposit insurance assessments are collected for a quarter at the end
of the next quarter. Assessments are based on deposit balances at the end of
the quarter, except for institutions with $1 billion or more in assets and
institutions that become insured on or after January 1, 2007 will have
their assessment base determined using average daily balances of insured deposits.
Effective
November 17, 2006, the FDIC implemented a one-time credit of $4.7 billion to
eligible institutions. The purpose of the credit is to recognize contributions
made by certain institutions to capitalize the Bank Insurance Fund and Savings
Association Insurance Fund, which have now been merged into the Deposit
Insurance Fund. The Bank is an eligible institution and received notice from
the FDIC that its share of the credit is $647,000. This amount is not reflected
in the accompanying financial statements as it represents contingent future
credits against future insurance assessment payments. As such, the timing and
ultimate recoverability of the one-time credit may change. In 2007, FDIC
premium credits received totaled $381,000 against the premium expense, leaving
a remaining credit of $266,000 to offset future premium expense.
All
FDIC-insured depository institutions must pay a quarterly assessment to provide
funds for the payment of interest on bonds issued by the Financing Corporation,
a federal corporation chartered under the authority of the Federal Housing
Finance Board. The bonds (commonly referred to as FICO bonds) were issued to
capitalize the Federal Savings and Loan Insurance Corporation.
Federal law
permits adequately capitalized and adequately managed bank holding companies to
acquire banks across state lines, without regard to whether the transaction is
prohibited by state law. Any state law relating to the minimum age of target
banks (not to exceed five years) or limits on the amount of deposits that may
be controlled by a single bank or bank holding company applies. The FRB is not
permitted to approve any acquisition if, after the acquisition, the bank
holding company would control more than 10% of the deposits of insured
depository institutions nationwide or 30% or more of the deposits in the state
where the target bank is located. The FRB could approve an acquisition,
notwithstanding the 30% limit, if the state waives the limit either by state
regulation or order of the appropriate state official.
Banks are
permitted to merge with one another across state lines and thereby create a
main bank with branches in separate states. After establishing branches in a
state through an interstate merger transaction, a bank can establish and
acquire additional branches at any location in the state where any bank
involved in the merger could have established or acquired branches under
applicable federal or state law. In addition, the laws of some states, including
Illinois, permit a bank with its main office in another state to establish de
novo branches or to acquire a branch of another bank without acquiring the
entire bank. Therefore, if the laws of another state so permit, the Bank could
establish a de novo branch or acquire a branch of a bank in such state, even if
the laws of such state require a reciprocal provision.
PNBC does
not have current plans to acquire banking organizations located outside the
state of Illinois.
National banks may establish operating
subsidiaries to engage in activities in which the bank could engage directly.
National
banks are also authorized by the GLB Act to engage, through financial
subsidiaries, in activities that are permissible for financial holding
companies and activities that the Secretary of the Treasury, in consultation
with the FRB, determines are financial in nature or incidental to any such
financial activity, except (i) insurance underwriting, (ii) real estate
development or real estate investment activities (unless otherwise permitted by
law), (iii) insurance company portfolio investments, and (iv) merchant banking.
A national banks authority to invest in a financial subsidiary is subject to a
number of conditions, including, among other things, requirements that the bank
be well-managed and well-capitalized (after deducting from capital the banks
outstanding investment in financial subsidiaries).
The GLB Act
affected many other changes to federal law applicable to PNBC and the Bank. One
of these changes was a requirement that financial institutions take steps to
protect customers nonpublic personal information.
Employees
PNBC
presently has no employees. However, certain of the employees and executive
officers of Citizens Bank provide their services to PNBC. An annual fee for
these services is paid by PNBC to Citizens Bank. This fee is based upon an
average of the number of hours worked during the year.
As of
December 31, 2007, Citizens Bank employed 272 full-time and 79 part-time
employees. The Bank offers a variety of employee benefits. Citizens Bank
employees are not represented by a union or a collective bargaining agreement,
and employee relations are considered to be excellent.
Citizens Bank
believes one of its strengths is its ability to attract and retain experienced
and well-trained personnel who are knowledgeable of the market areas in which
it operates. Management believes that PNBC generally has an easier time
attracting and retaining quality employees than other banks in North Central
Illinois. This is due primarily to its size and management style, which affords
greater opportunities to employees for direct participation and development of
managerial and banking skills.
In order to
implement PNBCs community banking philosophy and to promote itself as a
community oriented organization, the Bank has a formal officer call program.
Nearly every officer of the Bank calls on existing or potential customers and
is expected to become actively involved in leadership positions in community
organizations. As of December 31, 2007, employees of the Bank participated in
approximately 371 community organizations, providing over 13,600 hours of
community service.
Available Information
Our Internet address is
www.citizens1st.com
.
There we make available, free of charge, our annual report on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to those reports, as soon as
reasonably practicable after we electronically file such material with, or
furnish it to, the SEC. Our SEC reports can be accessed through the investor
relations section of our Web site. The information found on our Web site is not
part of this or any other report we file with or furnish to the SEC.
You may
also read and copy materials we file with the SEC at the SECs Public Reference
Room at 100 F Street, N.E., Washington, D.C. 20549. You may obtain information
on the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330. The SEC maintains an internet site (
www.sec.gov
) that contains
reports, proxy statements and other information that we electronically file
with the SEC.