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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[x] Annual report under Section 13 or 15(d) of the Securities Exchange Act
of 1934 For the fiscal year ended December 31, 2003
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the transition period from to
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Commission file number 333-06581
ST. JOSEPH CAPITAL CORPORATION
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(Name of Registrant as Specified in Its Charter)
Delaware 35-1977746
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
3820 Edison Lakes Parkway, Mishawaka, Indiana 46545
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(Address of Principal Executive Offices) (Zip Code)
(574) 273-9700
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(Registrant's Telephone Number, Including Area Code)
Securities registered under Section 12(b) of the Exchange Act: None.
Securities registered under Section 12(g) of the Exchange
Act: Common Stock, par value $0.01
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 past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in the Exchange Act Rule 12b-2).
Yes [ ] No [X]
The aggregate market value of the voting and non-voting common equity
held by non-affiliates of the registrant, based on the last known sales price on
or prior to June 30, 2003, the last business day of the registrant's most
recently completed second fiscal quarter, was $33,498,145.
1,732,445 shares of common stock were issued and outstanding as of
March 29, 2004.
Documents incorporated by reference:
Part III of Form 10-K - Portions of the Proxy Statement for the annual meeting
of stockholders to be held May 20, 2004.
ST. JOSEPH CAPITAL CORPORATION
2003 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
ITEM PAGE
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PART I
1. Description of Business 1
2. Description of Property 21
3. Legal Proceedings 22
4. Submission of Matters to a Vote of Security Holders 22
PART II
5. Market for Registrant's Common Equity and Related Stockholder Matters 22
6. Selected Financial Data 23
7. Management's Discussion and Analysis of Financial Condition and Results
of Operation 24
7A. Quantitative and Qualitative Disclosures about Market Risk 36
8. Financial Statements and Supplementary Data 38
9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 38
9A. Controls and Procedures 38
PART III
10. Directors and Executive Officers of the Registrant 38
11. Executive Compensation 38
12. Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters 39
13. Certain Relationships and Related Transactions 39
14. Principal Accountant Fees and Services 39
PART IV
15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 40
Signatures 42
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
GENERAL
St. Joseph Capital Corporation (the "Company") is a bank holding
company that owns St. Joseph Capital Bank (the "Bank"), a full-service
commercial banking institution located in Mishawaka, Indiana. The Bank provides
a broad range of banking products and services, including credit, cash
management and deposits to its targeted client base of executive and
professionals and small- to medium-sized businesses. The Bank's market area
encompasses a substantial portion of the Indiana communities of Mishawaka, South
Bend, Notre Dame, Granger, Osceola, and Elkhart, as well as certain Michigan
communities, including Niles, Edwardsburg, and Cassopolis. Due to the overlap of
this metropolitan area over state lines, this region is often referred to as
"Michiana." At December 31, 2003, the Company had total assets of $288.3
million, loans of $223.0 million and deposits of $207.3 million.
The Company started its banking operations on February 13, 1997 with
the goal of building a locally owned and managed financial institution to meet
the banking needs of the Bank's targeted clients. As part of its operating
strategy, the Company strives to offer clients a high level of service on a
consistent basis. The Company's rapid growth since 1997 largely has been a
product of its success in attracting targeted individuals and businesses to
become clients coupled with the ability to recruit and retain a
community-oriented management team with significant commercial banking
experience in the Michiana area. The Company has also taken advantage of the
client disruption caused by the acquisition of a number of the area's other
locally owned financial institutions by large and super-regional bank holding
companies.
The Company's rapid growth, coupled with the desire to increase market
share, led the Company to raise additional capital in 1999. This was
accomplished through a common stock offering. The growth experienced to date, as
well as continued growth, will allow the Company to take greater advantage of
the operating leverage available to larger financial institutions.
Since inception, the Company and Bank have operated out of a single
location as a way of keeping tight control on their fixed overhead expenses. The
delivery of banking services is accomplished through the Bank's headquarters
facility, a courier service program, an ATM/debit card product, the postage paid
bank-by-mail program, telephone banking, and computer banking. The diversity of
the delivery systems enables the Bank's clients to choose the method of banking
which is most convenient for them. In the future, the Bank may also expand its
product offerings, move into new markets or make strategic acquisitions of other
financial institutions. The Bank intends to continue to pursue an aggressive
growth strategy focused on the addition of experienced banking personnel in the
Michiana area, while also maintaining strong asset quality and enhancing its
profitability.
The Bank has and will continue to price its loan products and deposit
products competitively. The net interest income generated by the lending and
deposit-gathering activities of the Bank should continue to increase as the
overall size of the Bank increases.
The Company and Bank currently maintain their offices at 3820 Edison
Lakes Parkway, Mishawaka, Indiana, 46545. The telephone number is (574)
273-9700.
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BUSINESS STRATEGY
The Bank expects to establish and maintain a high standard of quality
in each service that is provided, and its employees are expected to emphasize a
consulting and service oriented approach in their dealings with clients. The use
of technology has and will continue to permit each employee to devote more time
and attention to personal service, respond more quickly to a clients requests,
and deliver services in the most timely manner possible.
The Bank's goal is to create and maintain a "client-driven"
organization focused on providing high value to clients by promptly delivering
products and services matched directly to their needs. Furthermore, the Bank
expects to gain market share by developing strong ties to the community. In this
regard, most of the Company's directors currently hold, and have held in the
past, leadership positions in a number of community organizations, and intend to
continue this active involvement in future years. Members of the senior
management team also hold leadership positions in a variety of community
organizations and intend to continue this active involvement in future years.
Additionally, all employees are encouraged to be active in the civic, charitable
and social organizations located in the Michiana area.
The Bank offers a broad range of deposit services, including checking
accounts, money market accounts, savings accounts, and time deposits of various
types, as well as a full range of short- to intermediate-term personal and
commercial loans. Commercial loans include lines of credit to finance accounts
receivable and inventory, term loans to finance machinery and equipment, as well
as commercial mortgages to finance land and buildings. The Bank makes personal
loans directly to its clients for various purposes, including purchases of
automobiles, boats, and other recreational vehicles, home improvements,
education, and personal investments. The Bank also makes residential mortgage
loans and substantially all of them are retained by the Bank and consist of
balloon payment, adjustable and fixed rate mortgages. The Bank offers other
services, including credit cards, cashier's checks, traveler's checks, and
automated teller access.
LENDING ACTIVITIES
The Bank provides a broad range of commercial and retail lending
services to corporations, partnerships, and individuals. The Bank actively
markets its services to qualified borrowers. Lending officers actively solicit
the business of new borrowers entering the Bank's market area as well as
long-standing members of the local business community. Management has
established lending policies, which include a number of underwriting factors to
be considered in making a loan, including location, loan to value ratio, cash
flow, interest rate, and the credit history of the borrower.
The Bank's legal lending limit is approximately $4,260,000. The board
of directors, however, has established an "in-house" limit of up to $3,223,000
depending on the credit quality of the client. The board may from time to time
raise or lower the "in-house" limit, as it deems appropriate to comply with safe
and sound banking practices and in response to overall economic conditions.
As part of the loan monitoring activities at the Bank, the officers
loan committee meets weekly to review loan portfolio dynamics. Loan review
officers present detailed reports on the loan portfolio to the board for their
review. A directors loan committee meets periodically to review more significant
loans and to assist the board in their loan monitoring and oversight. Management
has attempted to identify problem loans at an early stage and to aggressively
seek a resolution of these situations.
COMMERCIAL LOANS. The Bank is an active commercial lender in the
Michiana area. The areas of emphasis include, but are not limited to, loans to
manufacturers, building contractors, developers and business services companies.
The Bank also provides a wide range of operating loans, including lines of
credit for working capital and operational purposes, as well as term loans for
the acquisition of equipment and other purposes. Collateral for these loans
generally includes accounts receivable, inventory, equipment, and real estate.
In addition, the Bank has taken personal guarantees to help assure payment
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when appropriate. Terms of commercial business loans generally range from one to
five years. A portion of the Bank's commercial business loans has floating
interest rates or re-price within one year. The Bank also make commercial real
estate loans, which are generally secured by the underlying real estate and
improvements. However, management may also require additional assets of the
borrower as collateral.
RESIDENTIAL REAL ESTATE MORTGAGE LOANS. The main focus of the Bank's
lending activity continues to be on the commercial side and management has
viewed residential mortgages primarily as a way to attract and service targeted
clients. Currently the Bank offers a variety of adjustable rate products.
Additional mortgage products may be introduced, as management deems necessary.
The growth in the residential loan portfolio has been a result of refinancing
activities and acquisition and construction of existing or new homes. The Bank
has retained substantially all its residential real estate loans in its
portfolio.
CONSUMER LENDING. The Bank provides all types of consumer loans
including motor vehicles, home improvement, home equity, signature loans, and
small personal credit lines. The Bank has no indirect lending, and intends to
actively seek to increase its personal lines of credit and home equity loans.
COMPETITION
The Bank's market area is competitive. It competes for loans
principally through the range and quality of service it provides and interest
rates. The Bank's reputation in the communities it serves and personal service
philosophy enhances its ability to compete favorably in attracting and retaining
individual and business clients. The Bank actively solicits deposits by offering
clients personal attention, professional service and competitive rates.
There are other commercial banks, savings and loans, and credit unions,
along with other financial institutions that operate in the Bank's primary
market area. In addition, many other financial institutions based in the
communities surrounding these areas also actively compete for clients within our
market area. The Bank also faces competition from finance companies, insurance
companies, mortgage companies, securities brokerage firms, money market mutual
funds, loan production offices, and other providers of financial services.
Under the Gramm-Leach-Bliley Act of 1999, securities firms and
insurance companies that elect to become financial holding companies may acquire
banks and other financial institutions. The Gramm-Leach-Bliley Act may
significantly change the competitive environment in which the Company conducts
business. The financial services industry is also likely to become more
competitive as further technological advances enable more companies to provide
financial services. These technological advances may diminish the importance of
depository institutions and other financial intermediaries in the transfer of
funds between parties.
MARKET AREA
The Bank offers a full range of commercial and consumer banking
services primarily within a fifteen-mile radius of the main office located in
Mishawaka, Indiana. This area encompasses a substantial portion of the Indiana
communities of Mishawaka, South Bend, Notre Dame, Granger, Osceola and Elkhart,
and certain Michigan communities, including Niles, Edwardsburg, and Cassopolis.
Because of the overlap of this metropolitan area over state lines, this region
is often referred to as "Michiana."
The local economy is diversified among manufacturing, retail and
wholesale trades and service industries. The area's retail, distribution,
convention and tourism, health care and services sectors have expanded to offset
the decrease in manufacturing jobs, which has occurred in recent years. The
University of Notre Dame is the area's largest employer and contributes to the
stability of the local economy. South Bend is also home to other colleges and
technical schools providing additional stability and access to a skilled work
force.
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Memorial Hospital and St. Joseph's Regional Medical Center are the two
largest health care providers in the Michiana area and are also major employers.
Bosch Braking Systems Corp., Honeywell, and AM General Corp. are three of the
region's largest manufacturers, and the area is also home to a number of smaller
manufacturing, retail, and service businesses. Many major manufacturing
companies are also located in adjacent Elkhart County, including Coachmen
Industries, CTS Corporation, and Skyline Corporation. This diverse commercial
base provides significant potential for business and personal banking services
for owners and employees of these entities.
EMPLOYEES
The Bank has approximately 59 full-time equivalent employees. None of the
employees are covered by a collective bargaining agreement with the Bank.
Management considers employee relations to be good.
INTERNET WEBSITE
The Bank maintains an Internet site at www.sjcb.com. On this site, the
Company's annual report on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K, and other reports filed or furnished pursuant to Section
13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after it
electronically files such material with, or furnishes it to, the Securities and
Exchange Commission are available free of charge. The filings are also available
on the Securities and Exchange Commission's website at www.sec.gov.
Additionally, the Company will provide copies of its filings free of charge upon
written request to: Mark E. Secor, Senior Vice President, Chief Financial
Officer, St. Joseph Capital Corporation, 3820 Edison Lakes Parkway, Mishawaka,
Indiana 46545.
The Company has a code of business conduct and ethics in place that
applies to all of its directors and employees. The code sets forth the standard
of ethics that the Company expects all of its directors and employees to follow,
including the Chief Executive Officer and Chief Financial Officer. The code of
business conduct and ethics is posted on the Company's website at www.sjcb.com
(and is filed as an exhibit to the Form 10-K). The Company intends to satisfy
the disclosure requirements under Item 10 of Form 8-K regarding any amendment to
or waiver of the code with respect to the Chief Executive Officer and Chief
Financial Officer, and persons performing similar functions, by posting such
information on its website.
SUPERVISION AND REGULATION
GENERAL. Financial institutions, their holding companies and their
affiliates are extensively regulated under federal and state law. As a result,
the growth and earnings performance of the Company may be affected not only by
management decisions and general economic conditions, but also by the
requirements of federal and state statutes and by the regulations and policies
of various bank regulatory authorities, including the Indiana Department of
Financial Institutions (the "DFI"), the Board of Governors of the Federal
Reserve System (the "Federal Reserve") and the Federal Deposit Insurance
Corporation (the "FDIC"). Furthermore, taxation laws administered by the
Internal Revenue Service and state taxing authorities and securities laws
administered by the Securities and Exchange Commission (the "SEC") and state
securities authorities have an impact on the business of the Company. The effect
of these statutes, regulations and regulatory policies may be significant, and
cannot be predicted with a high degree of certainty.
Federal and state laws and regulations generally applicable to
financial institutions regulate, among other things, the scope of business, the
kinds and amounts of investments, reserve requirements, capital levels relative
to operations, the nature and amount of collateral for loans, the establishment
of branches, mergers and consolidations and the payment of dividends. This
system of supervision and regulation establishes a comprehensive framework for
the respective operations of the Company and its
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subsidiary and is intended primarily for the protection of the FDIC insured
deposits and depositors of the Bank, rather than shareholders.
The following is a summary of the material elements of the regulatory
framework that applies to the Company and its subsidiary. It does not describe
all of the statutes, regulations and regulatory policies that apply, nor does it
restate all of the requirements of those that are described. As such, the
following is qualified in its entirety by reference to applicable law. Any
change in statutes, regulations or regulatory policies may have a material
effect on the business of the Company and its subsidiary.
THE COMPANY
GENERAL. The Company, as the sole shareholder of the Bank, is a bank
holding company. As a bank holding company, the Company is registered with, and
is subject to regulation by, the Federal Reserve under the Bank Holding Company
Act of 1956, as amended (the "BHCA"). In accordance with Federal Reserve policy,
the Company is expected to act as a source of financial strength to the Bank and
to commit resources to support the Bank in circumstances where the Company might
not otherwise do so. Under the BHCA, the Company is subject to periodic
examination by the Federal Reserve. The Company is required to file with the
Federal Reserve periodic reports of the Company's operations and such additional
information regarding the Company and its subsidiary as the Federal Reserve may
require. The Bank is subject to regulation by the DFI under Indiana law.
ACQUISITIONS, ACTIVITIES AND CHANGE IN CONTROL. The primary purpose of
a bank holding company is to control and manage banks. The BHCA generally
requires the prior approval of the Federal Reserve for any merger involving a
bank holding company or any acquisition by a bank holding company of another
bank or bank holding company. Subject to certain conditions (including deposit
concentration limits established by the BHCA), the Federal Reserve may allow a
bank holding company to acquire banks located in any state of the United States.
In approving interstate acquisitions, the Federal Reserve is required to give
effect to applicable state law limitations on the aggregate amount of deposits
that may be held by the acquiring bank holding company and its insured
depository institution affiliates in the state in which the target bank is
located (provided that those limits do not discriminate against out-of-state
depository institutions or their holding companies) and state laws that require
that the target bank have been in existence for a minimum period of time (not to
exceed five years) before being acquired by an out-of-state bank holding
company.
The BHCA generally prohibits the Company from acquiring direct or
indirect ownership or control of more than 5% of the voting shares of any
company that is not a bank and from engaging in any business other than that of
banking, managing and controlling banks or furnishing services to banks and
their subsidiaries. This general prohibition is subject to a number of
exceptions. The principal exception allows bank holding companies to engage in,
and to own shares of companies engaged in, certain businesses found by the
Federal Reserve to be "so closely related to banking ... as to be a proper
incident thereto." This authority would permit the Company to engage in a
variety of banking-related businesses, including the operation of a thrift,
consumer finance, equipment leasing, the operation of a computer service bureau
(including software development), and mortgage banking and brokerage. The BHCA
generally does not place territorial restrictions on the domestic activities of
non-bank subsidiaries of bank holding companies.
Additionally, bank holding companies that meet certain eligibility
requirements prescribed by the BHCA and elect to operate as financial holding
companies may engage in, or own shares in companies engaged in, a wider range of
nonbanking activities, including securities and insurance underwriting and
sales, merchant banking and any other activity that the Federal Reserve, in
consultation with the Secretary of the Treasury, determines by regulation or
order is financial in nature, incidental to any such financial activity or
complementary to any such financial activity and does not pose a substantial
risk to the safety or soundness of depository institutions or the financial
system generally. As of the date of this filing, the Company has neither applied
for nor received approval to operate as a financial holding company.
5
Federal law also prohibits any person or company from acquiring
"control" of an FDIC-insured depository institution or its holding company
without prior notice to the appropriate federal bank regulator. "Control" is
conclusively presumed to exist upon the acquisition of 25% or more of the
outstanding voting securities of a bank or bank holding company, but may arise
under certain circumstances at 10% ownership.
CAPITAL REQUIREMENTS. Bank holding companies are required to maintain
minimum levels of capital in accordance with Federal Reserve capital adequacy
guidelines. If capital levels fall below the minimum required levels, a bank
holding company, among other things, may be denied approval to acquire or
establish additional banks or non-bank businesses.
The Federal Reserve's capital guidelines establish the following
minimum regulatory capital requirements for bank holding companies: (i) a
risk-based requirement expressed as a percentage of total assets weighted
according to risk; and (ii) a leverage requirement expressed as a percentage of
total assets. The risk-based requirement consists of a minimum ratio of total
capital to total risk-weighted assets of 8%, and a minimum ratio of Tier 1
capital to total risk-weighted assets of 4%. The leverage requirement consists
of a minimum ratio of Tier 1 capital to total assets of 3% for the most highly
rated companies, with a minimum requirement of 4% for all others. For purposes
of these capital standards, Tier 1 capital consists primarily of permanent
stockholders' equity less intangible assets (other than certain loan servicing
rights and purchased credit card relationships). Total capital consists
primarily of Tier 1 capital plus certain other debt and equity instruments that
do not qualify as Tier 1 capital and a portion of the Bank's allowance for loan
and lease losses.
The risk-based and leverage standards described above are minimum
requirements. Higher capital levels will be required if warranted by the
particular circumstances or risk profiles of individual banking organizations.
For example, the Federal Reserve's capital guidelines contemplate that
additional capital may be required to take adequate account of, among other
things, interest rate risk, or the risks posed by concentrations of credit,
nontraditional activities or securities trading activities. Further, any banking
organization experiencing or anticipating significant growth would be expected
to maintain capital ratios, including tangible capital positions (i.e., Tier 1
capital less all intangible assets), well above the minimum levels. As of
December 31, 2003, the Company had regulatory capital in excess of the Federal
Reserve's minimum requirements.
DIVIDEND PAYMENTS. The Company's ability to pay dividends to its
shareholders may be affected by both general corporate law considerations and
policies of the Federal Reserve applicable to bank holding companies. As a
Delaware corporation, the Company is subject to the limitations of the Delaware
General Corporation law (the "DGCL"), which allows the Company to pay dividends
only out of its surplus (as defined and computed in accordance with the
provisions of the DGCL) or if the Company has no such surplus, out of its net
profits for the fiscal year in which the dividend is declared and/or the
preceding fiscal year. Additionally, policies of the Federal Reserve caution
that a bank holding company should not pay cash dividends that exceed its net
income or that can only be funded in ways that weaken the bank holding company's
financial health, such as by borrowing. The Federal Reserve also possesses
enforcement powers over bank holding companies and their non-bank subsidiaries
to prevent or remedy actions that represent unsafe or unsound practices or
violations of applicable statutes and regulations. Among these powers is the
ability to proscribe the payment of dividends by banks and bank holding
companies.
FEDERAL SECURITIES REGULATION. The Company's common stock is registered
with the SEC under the Securities Act of 1933, as amended, and the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). Consequently, the Company
is subject to the information, proxy solicitation, insider trading and other
restrictions and requirements of the SEC under the Exchange Act.
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THE BANK
GENERAL. The Bank is an Indiana-chartered bank, the deposit accounts of
which are insured by the FDIC's Bank Insurance Fund ("BIF"). As an
Indiana-chartered bank, the Bank is subject to the examination, supervision,
reporting and enforcement requirements of the DFI, the chartering authority for
Indiana banks, and the FDIC, designated by federal law as the primary federal
regulator of state-chartered, FDIC-insured banks that, like the Bank, are not
members of the Federal Reserve System.
DEPOSIT INSURANCE. As an FDIC-insured institution, the Bank is required
to pay deposit insurance premium assessments to the FDIC. The FDIC has adopted a
risk-based assessment system under which all insured depository institutions are
placed into one of nine categories and assessed insurance premiums based upon
their respective levels of capital and results of supervisory evaluations.
Institutions classified as well-capitalized (as defined by the FDIC) and
considered healthy pay the lowest premium while institutions that are less than
adequately capitalized (as defined by the FDIC) and considered of substantial
supervisory concern pay the highest premium. Risk classification of all insured
institutions is made by the FDIC for each semi-annual assessment period.
During the year ended December 31, 2003, BIF assessments ranged from 0%
of deposits to 0.27% of deposits. For the semi-annual assessment period
beginning January 1, 2004, BIF assessment rates will continue to range from 0%
of deposits to 0.27% of deposits.
FICO ASSESSMENTS. Since 1987, a portion of the deposit insurance
assessments paid by members of the FDIC's Savings Association Insurance Fund
("SAIF") has been used to cover interest payments due on the outstanding
obligations of the Financing Corporation ("FICO"). FICO was created in 1987 to
finance the recapitalization of the Federal Savings and Loan Insurance
Corporation, the SAIF's predecessor insurance fund. As a result of federal
legislation enacted in 1996, beginning as of January 1, 1997, both SAIF members
and BIF members became subject to assessments to cover the interest payments on
outstanding FICO obligations until the final maturity of such obligations in
2019. These FICO assessments are in addition to amounts assessed by the FDIC for
deposit insurance. During the year ended December 31, 2003, the FICO assessment
rate for BIF and SAIF members was approximately 0.02% of deposits.
SUPERVISORY ASSESSMENTS. All Indiana banks are required to pay
supervisory assessments to the DFI to fund the operations of the DFI. This
assessment is calculated on the basis of an institution's total assets. During
the year ended December 31, 2003, the Bank paid supervisory assessments to the
DFI totaling $17,000.
CAPITAL REQUIREMENTS. Banks are generally required to maintain capital
levels in excess of other businesses. The FDIC has established the following
minimum capital standards for state-chartered FDIC-insured non-member banks,
such as the Bank: (i) a leverage requirement consisting of a minimum ratio of
Tier 1 capital to total assets of 3% for the most highly-rated banks with a
minimum requirement of at least 4% for all others; and (ii) a risk-based capital
requirement consisting of a minimum ratio of total capital to total
risk-weighted assets of 8%, and a minimum ratio of Tier 1 capital to total
risk-weighted assets of 4%. For purposes of these capital standards, the
components of Tier 1 capital and total capital are the same as those for bank
holding companies discussed above.
The capital requirements described above are minimum requirements.
Higher capital levels will be required if warranted by the particular
circumstances or risk profiles of individual institutions. For example,
regulations of the FDIC provide that additional capital may be required to take
adequate account of, among other things, interest rate risk or the risks posed
by concentrations of credit, nontraditional activities or securities trading
activities.
Further, federal law and regulations provide various incentives for
financial institutions to maintain regulatory capital at levels in excess of
minimum regulatory requirements. For example, a
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financial institution that is "well-capitalized" may qualify for exemptions from
prior notice or application requirements otherwise applicable to certain types
of activities and may qualify for expedited processing of other required notices
or applications. Additionally, one of the criteria that determines a bank
holding company's eligibility to operate as a financial holding company is a
requirement that all of its financial institution subsidiaries be "well
capitalized." Under the regulations of the FDIC, in order to be
"well-capitalized" a financial institution must maintain a ratio of total
capital to total risk-weighted assets of 10% or greater, a ratio of Tier 1
capital to total risk-weighted assets of 6% or greater and a ratio of Tier 1
capital to total assets of 5% or greater.
Further, federal law and regulations provide various incentives for
financial institutions to maintain regulatory capital at levels in excess of
minimum regulatory requirements. For example, a financial institution that is
"well-capitalized" may qualify for exemptions from prior notice or application
requirements otherwise applicable to certain types of activities and may qualify
for expedited processing of other required notices or applications.
Additionally, one of the criteria that determines a bank holding company's
eligibility to operate as a financial holding company is a requirement that all
of its financial institution subsidiaries be "well capitalized." Under the
regulations of the FDIC, in order to be "well-capitalized" a financial
institution must maintain a ratio of total capital to total risk-weighted assets
of 10% or greater, a ratio of Tier 1 capital to total risk-weighted assets of 6%
or greater and a ratio of Tier 1 capital to total assets of 5% or greater.
As of December 31, 2003: (i) the Bank was not subject to a directive
from the FDIC to increase its capital to an amount in excess of the minimum
regulatory capital requirements; (ii) the Bank exceeded its minimum regulatory
capital requirements under FDIC capital adequacy guidelines; and (iii) the Bank
was "well-capitalized," as defined by FDIC regulations.
DIVIDEND PAYMENTS. The primary source of funds for the Company is
dividends from the Bank. Indiana law prohibits the Bank from paying dividends in
an amount greater than its undivided profits. The Bank is required to obtain the
approval of the DFI for the payment of any dividend if the total of all
dividends declared by the Bank during the calendar year, including the proposed
dividend, would exceed the sum of the Bank's retained net income for the year to
date combined with its retained net income for the previous two years. Indiana
law defines "retained net income" to mean the net income of a specified period,
calculated under the consolidated report of income instructions, less the total
amount of all dividends declared for the specified period.
The payment of dividends by any financial institution or its holding
company is affected by the requirement to maintain adequate capital pursuant to
applicable capital adequacy guidelines and regulations, and a financial
institution generally is prohibited from paying any dividends if, following
payment thereof, the institution would be undercapitalized. As described above,
the Bank exceeded its minimum capital requirements under applicable guidelines
as of December 31, 2003. As of December 31, 2003, approximately $5.8 million was
available to be paid as dividends by the Bank. Notwithstanding the availability
of funds for dividends, however, the FDIC may prohibit the payment of any
dividends by the Bank if the FDIC determines such payment would constitute an
unsafe or unsound practice.
INSIDER TRANSACTIONS. The Bank is subject to certain restrictions
imposed by federal law on extensions of credit to the Company, on investments in
the stock or other securities of the Company and the acceptance of the stock or
other securities of the Company as collateral for loans made by the Bank.
Certain limitations and reporting requirements are also placed on extensions of
credit by the Bank to its directors and officers, to directors and officers of
the Company, to principal shareholders of the Company and to "related interests"
of such directors, officers and principal shareholders. In addition, federal law
and regulations may affect the terms upon which any person who is a director or
officer of the Company or the Bank or a principal shareholder of the Company may
obtain credit from banks with which the Bank maintains correspondent
relationships.
8
SAFETY AND SOUNDNESS STANDARDS. The federal banking agencies have
adopted guidelines that establish operational and managerial standards to
promote the safety and soundness of federally insured depository institutions.
The guidelines set forth standards for internal controls, information systems,
internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth, compensation, fees and benefits, asset quality and
earnings.
In general, the safety and soundness guidelines prescribe the goals to
be achieved in each area, and each institution is responsible for establishing
its own procedures to achieve those goals. If an institution fails to comply
with any of the standards set forth in the guidelines, the institution's primary
federal regulator may require the institution to submit a plan for achieving and
maintaining compliance. If an institution fails to submit an acceptable
compliance plan, or fails in any material respect to implement a compliance plan
that has been accepted by its primary federal regulator, the regulator is
required to issue an order directing the institution to cure the deficiency.
Until the deficiency cited in the regulator's order is cured, the regulator may
restrict the institution's rate of growth, require the institution to increase
its capital, restrict the rates the institution pays on deposits or require the
institution to take any action the regulator deems appropriate under the
circumstances. Noncompliance with the standards established by the safety and
soundness guidelines may also constitute grounds for other enforcement action by
the federal banking regulators, including cease and desist orders and civil
money penalty assessments.
BRANCHING AUTHORITY. Indiana banks, such as the Bank, have the
authority under Indiana law to establish branches anywhere in the State of
Indiana, subject to receipt of all required regulatory approvals.
State and national banks are allowed to establish interstate branch
networks through acquisitions of other banks, subject to certain conditions,
including limitations on the aggregate amount of deposits that may be held by
the surviving bank and all of its insured depository institution affiliates. The
establishment of new interstate branches or the acquisition of individual
branches of a bank in another state (rather than the acquisition of an
out-of-state bank in its entirety) is allowed only if specifically authorized by
state law. Indiana law permits interstate mergers subject to certain conditions,
including a condition requiring an Indiana bank involved in an interstate merger
to have been in existence and continuous operation for more than five years.
Additionally, Indiana law allows out-of-state banks to acquire individual branch
offices in Indiana and to establish new branches in Indiana subject to certain
conditions, including a requirement that the laws of the state in which the
out-of-state bank is headquartered grant Indiana banks authority to acquire and
establish branches in that state.
STATE BANK INVESTMENTS AND ACTIVITIES. The Bank generally is permitted
to make investments and engage in activities directly or through subsidiaries as
authorized by Indiana law. However, under federal law and FDIC regulations, FDIC
insured state banks are prohibited, subject to certain exceptions, from making
or retaining equity investments of a type, or in an amount, that are not
permissible for a national bank. Federal law and FDIC regulations also prohibit
FDIC insured state banks and their subsidiaries, subject to certain exceptions,
from engaging as principal in any activity that is not permitted for a national
bank unless the bank meets, and continues to meet, its minimum regulatory
capital requirements and the FDIC determines the activity would not pose a
significant risk to the deposit insurance fund of which the bank is a member.
These restrictions have not had, and are not currently expected to have, a
material impact on the operations of the Bank.
FEDERAL RESERVE SYSTEM. Federal Reserve regulations, as presently in
effect, require depository institutions to maintain non-interest earning
reserves against their transaction accounts (primarily NOW and regular checking
accounts), as follows: for transaction accounts aggregating $42.1 million or
less, the reserve requirement is 3% of total transaction accounts; and for
transaction accounts aggregating in excess of $42.1 million, the reserve
requirement is $1.083 million plus 10% of the aggregate amount of total
transaction accounts in excess of $42.1 million. The first $6.0 million of
otherwise reserveable balances are exempted from the reserve requirements. These
reserve requirements are subject to annual adjustment by the Federal Reserve.
The Bank is in compliance with the foregoing requirements.
9
STATISTICAL DISCLOSURE BY BANK HOLDING COMPANIES
SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data of St. Joseph Capital
Corporation is qualified in its entirety by, and should be read in conjunction
with, the consolidated financial statements, including notes thereto, which are
attached to this filing as exhibit 99.1.
At December 31
(In thousands)
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
SUMMARY OF FINANCIAL CONDITION:
Total assets $ 288,258 $ 253,840 $ 214,804 $ 177,071 $ 130,932
Total cash and cash equivalents 35,429 20,937 20,021 19,543 13,266
Securities available for sale 24,134 38,580 45,172 23,172 29,676
Loans receivable, net of allowance for
loan losses 222,974 189,094 144,688 129,841 85,054
Total deposits 207,282 177,674 153,308 122,432 98,241
FHLB advances and other debt 49,520 43,070 30,570 27,570 7,500
Total shareholders' equity 24,235 22,141 20,015 18,561 16,799
Average shareholders' equity 22,998 21,145 19,545 17,480 13,345
Average total assets 268,057 231,500 191,590 147,817 108,773
Years Ended December 31,
(In thousands)
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
SUMMARY OF OPERATING RESULTS:
Total interest income $ 12,694 $ 12,164 $ 12,414 $ 11,072 $ 7,370
Total interest expense 4,370 4,912 6,600 6,290 3,847
----------- ----------- ----------- ----------- -----------
Net interest income 8,324 7,252 5,814 4,782 3,523
Provision for loan losses 327 716 422 582 518
Total noninterest income 733 866 668 205 98
Total noninterest expense 5,861 4,746 4,067 3,170 2,592
----------- ----------- ----------- ----------- -----------
Income before income taxes 2,869 2,656 1,993 1,235 511
Income tax expense 1,044 973 718 213 -
----------- ----------- ----------- ----------- -----------
Net income $ 1,825 $ 1,683 $ 1,275 $ 1,022 $ 511
=========== =========== =========== =========== ===========
SUPPLEMENTAL DATA:
Return on average total assets .68% .73% .67% .69% .47%
Return on average shareholders' equity 7.94 7.96 6.52 5.85 3.83
Net interest rate spread (1) 3.01 3.02 2.60 2.49 2.68
Net yield on average interest-earning assets (2) 3.30 3.35 3.23 3.43 3.46
Net interest income to noninterest expenses 142.02 152.80 142.99 150.85 135.92
Average shareholders' equity to average
total assets 8.58 9.13 10.20 11.83 12.27
Average interest-earning assets to average
interest-bearing liabilities 116.71 115.04 117.03 120.11 120.30
Nonperforming assets to total assets - - - - -
Nonperforming loans to total loans
Receivable - - - - -
Allowance for loan losses to total loans
receivable 1.47 1.56 1.55 1.41 1.47
Allowance for loan losses to non-performing
loans receivable - - - - -
Basic income per common share $ 1.08 $ 1.00 $ .76 $ .61 $ .37
Diluted income per common share $ 1.05 $ .98 $ .75 $ .60 $ .36
Dividends declared per common share $ - $ - $ - $ - $ -
Book value per common share $ 14.19 $ 13.19 $ 11.93 $ 11.08 $ 10.03
Number of offices 1 1 1 1 1
- -------------------
(1) Interest rate spread is calculated by subtracting average interest rate
cost from average interest rate earned.
(2) Net interest income divided by average interest-earning assets.
10
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES AND
INTEREST DIFFERENTIAL
The following are the average balance sheets for the years ending
December 31:
2003
----
Average Average
Balance Interest Rate
------- -------- ----
(Dollars in thousands)
ASSETS
Interest-earning assets
Federal funds sold $ 1,860 $ 22 1.18%
Interest-earning deposits in other
financial institutions 912 11 1.21
Securities available for sale (1) 37,472 1,288 3.44
FHLB stock 2,192 106 4.84
Loans receivable (2) 209,683 11,267 5.37
----------- ----------
Total interest-earning assets (1) 252,119 12,694 5.03%
Noninterest-earning assets
Cash and due from banks 15,525
Allowance for loan losses (3,162)
Premises and equipment, net 1,340
Accrued interest receivable and
other assets 2,235
-----------
$ 268,057
===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities
Savings, NOW and money markets $ 116,693 $ 1,114 .95%
Certificates of deposit 42,728 1,035 2.42
Federal funds purchased 4,438 70 1.58
Securities sold under agreements
to repurchase 8,485 39 .46
Subordinated debentures 1,437 62 4.31
FHLB advances 42,239 2,050 4.85
----------- ----------
Total interest-bearing liabilities 216,020 4,370 2.02%
----------
Noninterest-bearing liabilities
Demand deposits 28,006
Accrued interest payable and
other liabilities 1,033
-----------
Shareholders' equity 22,998
-----------
$ 268,057
===========
Net interest income/spread $ 8,324 3.01%
==========
Net interest income as a percent
of average interest earning assets (1) 3.30%
====
- -------------------
(1) Securities balances represent daily average balances for the fair value of
securities. The average rate is calculated based on the daily average
balance for the amortized cost of securities. Tax exempt interest income is
not presented on a tax equivalent basis.
(2) Includes fees on loans. The inclusion of loan fees does not have a material
effect on the average interest rate.
11
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES
AND INTEREST DIFFERENTIAL (Continued)
2002
----
Average Average
Balance Interest Rate
------- -------- ----
(Dollars in thousands)
ASSETS
Interest-earning assets
Federal funds sold $ 3,348 $ 55 1.64%
Interest-earning deposits in other
financial institutions 5,606 103 1.84
Securities available for sale (1) 40,490 1,665 4.11
FHLB stock 1,821 110 6.04
Loans receivable (2) 164,943 10,231 6.20
----------- ----------
Total interest-earning assets (1) 216,208 12,164 5.63%
Noninterest-earning assets
Cash and due from banks 14,664
Allowance for loan losses (2,572)
Premises and equipment, net 1,272
Accrued interest receivable and
other assets 1,928
-----------
$ 231,500
===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities
Savings, NOW and money markets $ 93,707 $ 1,333 1.42%
Certificates of deposit 46,676 1,599 3.43
Federal funds purchased 1,656 31 1.87
Securities sold under agreements
to repurchase 10,744 101 .94
FHLB advances 35,163 1,848 5.26
----------- ----------
Total interest-bearing liabilities 187,946 4,912 2.61%
----------
Noninterest-bearing liabilities
Demand deposits 21,762
Accrued interest payable and
other liabilities 647
-----------
Shareholders' equity 21,145
-----------
$ 231,500
===========
Net interest income/spread $ 7,252 3.02%
==========
Net interest income as a percent
of average interest earning assets (1) 3.35%
====
- ----------------
(1) Securities balances represent daily average balances for the fair value of
securities. The average rate is calculated based on the daily average
balance for the amortized cost of securities. Tax exempt interest income is
not presented on a tax equivalent basis.
(2) Includes fees on loans. The inclusion of loan fees does not have a material
effect on the average interest rate.
12
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES
AND INTEREST DIFFERENTIAL (Continued)
2001
----
Average Average
Balance Interest Rate
------- -------- ----
(Dollars in thousands)
ASSETS
Interest-earning assets
Federal funds sold $ 6,309 $ 255 4.04%
Interest-earning deposits in other
financial institutions 4,771 142 2.98
Securities available for sale (1) 26,155 1,401 5.36
FHLB stock 1,574 117 7.43
Loans receivable (2) 141,020 10,499 7.45
----------- ----------
Total interest-earning assets (1) 179,829 12,414 6.90%
Noninterest-earning assets
Cash and due from banks 10,893
Allowance for loan losses (2,094)
Premises and equipment, net 1,359
Accrued interest receivable and
other assets 1,603
-----------
$ 191,590
===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities
Savings, NOW and money markets $ 66,338 $ 2,258 3.40%
Certificates of deposit 47,929 2,354 4.91
Federal funds purchased 472 25 5.30
Securities sold under agreements
to repurchase 8,016 222 2.77
FHLB advances 30,910 1,741 5.63
----------- ----------
Total interest-bearing liabilities 153,665 6,600 4.30%
----------
Noninterest-bearing liabilities
Demand deposits 18,094
Accrued interest payable and
other liabilities 286
-----------
172,045
Shareholders' equity 19,545
-----------
$ 191,590
===========
Net interest income/spread $ 5,814 2.60%
==========
Net interest income as a percent
of average interest earning assets (1) 3.23%
====
- -----------------
(1) Securities balances represent daily average balances for the fair value of
securities. The average rate is calculated based on the daily average
balance for the amortized cost of securities. Tax exempt interest income is
not presented on a tax equivalent basis.
(2) Includes fees on loans. The inclusion of loan fees does not have a material
effect on the average interest rate.
13
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES
AND INTEREST DIFFERENTIAL (Continued)
The following tables set forth the effect of volume and rate changes on
interest income and expense for the periods indicated. For purposes of these
tables, changes in interest due to volume and rate were determined as follows:
Volume Variance - change in volume multiplied by the
previous year's rate.
Rate Variance - change in rate multiplied by the
previous year's volume.
Rate/Volume Variance - change in volume multiplied by the
change in rate. This variance was
allocated to volume variance and
rate variance in proportion to the
relationship of the absolute dollar
amount of the change in each.
Total
Variance Variance Attributable To Total Variance Attributable To
------------------------ Variance ------------------------
2003/2002 Volume Rate 2002/2001 Volume Rate
--------- ------ ---- --------- ------ ----
(In thousands)
INTEREST INCOME
Federal funds sold $ (33) $ (20) $ (13) $ (200) $ (88) $ (112)
Interest-bearing deposits in other
financial institutions (92) (65) (27) (39) 22 (61)
Securities available for sale (377) (118) (259) 264 643 (379)
FHLB stock (4) 20 (24) (7) 17 (24)
Loans receivable 1,036 2,527 (1,491) (268) 1,631 (1,899)
--------- --------- --------- --------- -------- ----------
530 2,344 (1,814) (250) 2,225 (2,475)
INTEREST EXPENSE
Savings, NOW and money markets (219) 281 (500) (925) 707 (1,632)
Certificates of deposit (564) (126) (438) (755) (60) (695)
Federal funds purchased 39 45 (6) 6 30 (24)
Securities sold under agreements
to repurchase (62) (18) (44) (121) 59 (180)
Subordinated debentures 62 62 - - - -
FHLB advances 202 351 (149) 107 229 (122)
--------- --------- --------- --------- -------- ----------
(542) 595 (1,137) (1,688) 965 (2,653)
--------- --------- --------- --------- -------- ----------
NET INTEREST INCOME $ 1,072 $ 1,749 $ (677) $ 1,438 $ 1,260 $ 178
========= ========= ========= ========= ======== ==========
14
INVESTMENT PORTFOLIO
The carrying value of securities available for sale as of December 31
are summarized as follows:
2003 2002 2001
---- ---- ----
(In thousands)
U.S. Government and federal agencies $ 15,941 $ 26,640 $ 29,353
Obligations of states and
political subdivisions 6,588 6,592 4,980
Corporate bonds 483 469 5,135
Mortgage backed securities 1,077 4,838 5,661
Marketable equity securities 45 41 43
------------ ------------ ------------
$ 24,134 $ 38,580 $ 45,172
============ ============ ============
The maturity distribution and weighted average interest rates of debt
securities available for sale at December 31, 2003 are shown in the following
table. Securities that are not due at a single maturity date are not shown.
Maturing
--------
(Dollars in thousands)
After One Year After Five Years
Within But Within But Within After
One Year Five Years Ten Years Ten Years
-------- ---------- --------- ---------
Amount Rate Amount Rate Amount Rate Amount Rate
------ ---- ------ ---- ------ ---- ------ ----
U.S. Government and
federal agencies $ 6,942 2.97% $ 7,026 3.65% $ 1,973 3.79% $ - -%
Obligations of states
and political
subdivisions 815 4.13 2,766 4.08 3,007 4.44 - -
Corporate bonds - - 255 2.47 - - 228 2.21
--------- --------- --------- ---------
$ 7,757 $ 10,047 $ 4,980 $ 228
========= ========= ======== =========
The weighted average interest rates are based on coupon rates for
securities purchased at par value and on effective interest rates considering
amortization or accretion if the securities were purchased at a premium or
discount.
Excluding those holdings of the investment portfolio in U.S. Treasury
securities and other agencies of the U.S. Government, there were no securities
of any one issuer, which exceeded 10% of the shareholders' equity of the Company
at December 31, 2003.
15
LOAN PORTFOLIO
Types of Loans. Total loans on the balance sheet are comprised of the
following classifications at December 31 for the years indicated:
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(In thousands)
Commercial loans $ 152,699 $ 122,280 $ 96,953 $ 89,721 $ 56,591
Residential real estate
mortgages 66,804 64,674 42,583 34,223 26,571
Installment loans to
Individuals 6,788 5,130 7,426 7,749 3,161
------------ ------------ ------------- ------------ ------------
$ 226,291 $ 192,084 $ 146,962 $ 131,693 $ 86,323
============ ============ ============= ============ ============
CONCENTRATIONS OF CREDIT RISK. The Bank grants commercial loans,
residential real estate mortgages, and installment loans to individuals mainly
in its market area. Commercial loans include loans collateralized by business
assets. At December 31, 2003, commercial loans made up approximately 67.5% of
the loan portfolio and the loans were expected to be repaid from cash flow from
operations of businesses. Commercial loans concentrated in real estate
development and investment totaled $16.6 million or 7.3% of total loans at
December 31, 2003. Residential real estate mortgage loans made up approximately
29.5% of the loan portfolio and were collateralized by residential real estate.
Installment loans to individuals made up approximately 3.0% of the loan
portfolio and were primarily collateralized by consumer assets.
MATURITIES AND SENSITIVITIES OF LOANS TO CHANGES IN INTEREST RATES. The
following table shows the amounts of commercial loans outstanding as of December
31, 2003, based on remaining scheduled repayments of principal, are due in the
periods indicated. Also, the amounts have been classified according to
sensitivity to changes in interest rates for commercial loans due after one
year. (Variable-rate loans are those loans with floating or adjustable interest
rates.)
2003
----
(In thousands)
Maturing
Within one year $ 83,691
After one year but within five years 60,911
After five years 8,097
------------
$ 152,699
============
Commercial Loan Interest Sensitivity
------------------------------------
2003
----
(In thousands)
Fixed Variable
Rate Rate Total
---- ---- -----
Due after one year but within five years $ 49,986 $ 10,925 $ 60,911
Due after five years 6,546 1,551 8,097
------------- ------------ ------------
$ 56,532 $ 12,476 $ 69,008
============= ============ ============
16
LOAN PORTFOLIO (Continued)
RISK ELEMENTS
NONACCRUAL, PAST DUE, RESTRUCTURED AND IMPAIRED LOANS. The following
schedule summarizes nonaccrual, past due, restructured and impaired loans at
December 31:
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(In thousands)
Loans accounted for on a nonaccrual
basis $ - $ - $ - $ - $ -
Accruing loans which are
contractually past due 90 days or
more as to interest or principal
payments - - - - -
Loans which are "Troubled Debt
Restructurings" as defined by
Statement of Financial Accounting
Standards No. 15 - - - - -
Other loans defined as "impaired" - - - - -
---- ---- ---- ---- ----
$ - $ - $ - $ - $ -
==== ==== ==== ==== ====
Management believes the allowance for loan losses at December 31, 2003
is adequate to absorb any losses on nonperforming loans, as the allowance
balance is maintained by management at a level considered adequate to cover
probable losses incurred based on past loss experience, general economic
conditions, information about specific borrower situations including their
financial position and collateral values, and other factors and estimates which
are subject to change over time. However, there can be no assurance that future
losses will not exceed the estimated amounts or that the Bank will not be
required to make additional provisions for loan losses in the future.
2003
(In thousands)
Gross interest income that would have been recorded in 2003 on
nonaccrual loans outstanding at December 31, 2003 if the loans
had been current, in accordance with their original terms and
had been outstanding throughout the period or since
origination if held for part of the period $ -
Interest income actually recorded on nonaccrual loans
and included in net income for the period -
----
Interest income not recognized during the period $ -
====
17
LOAN PORTFOLIO (Continued)
DISCUSSION OF THE NONACCRUAL POLICY
The accrual of interest income is discontinued when the collection of a
loan or interest, in whole or in part, is doubtful. When interest accruals are
discontinued, interest income accrued in the current period is reversed. While
loans which are past due 90 days (180 days for residential real estate loans) or
more as to interest or principal payments are considered for nonaccrual status,
management may elect to continue the accrual of interest when the estimated net
realizable value of collateral, in management's judgment, is sufficient to cover
the principal balance and accrued interest.
POTENTIAL PROBLEM LOANS.
As of December 31, 2003, there were approximately $10.0 million of
loans on the Bank's internal watch list. Watch list credits are loans that are
monitored more closely due to current financial performance of the borrowers or
where management has modest concern on the ability of the borrowers to comply
with the present loan repayment terms. Management believes that such loans will
not materially impact future operating results, liquidity, or capital resources.
FOREIGN OUTSTANDINGS.
None
LOAN CONCENTRATIONS.
None
OTHER INTEREST-BEARING ASSETS.
There are no other interest-bearing assets as of December 31, 2003.
18
SUMMARY OF LOAN LOSS EXPERIENCE
The following schedule presents an analysis of the allowance for loan
losses, average loan data, and related ratios for the years ended December 31:
2003 2002 2001 2000 1999
---------- --------- --------- -------- --------
(Dollars in thousands)
LOANS
Loans outstanding at end
of period $ 226,291 $ 192,084 $ 146,962 $131,693 $ 86,323
========== ========= ========= ======== ========
Average loans outstanding
during period $ 209,683 $ 164,943 $ 141,020 $109,457 $ 67,884
========== ========= ========= ======== ========
ALLOWANCE FOR LOAN LOSSES
Balance at beginning of period $ 2,990 $ 2,274 $ 1,852 $ 1,270 $ 752
Loans charged-off
Commercial - - - - -
Residential real estate
mortgage - - - - -
Installment loans to
individuals - - - - -
---------- --------- --------- -------- --------
Recoveries of loans previously
charged-off
Commercial - - - - -
Residential real estate
mortgage - - - - -
Installment loans to
individuals - - - - -
---------- --------- --------- -------- --------
Net loans charged-off - - - - -
Provision for loan losses 327 716 422 582 518
---------- --------- --------- -------- --------
Balance at end of period $ 3,317 $ 2,990 $ 2,274 $ 1,852 $ 1,270
========== ========= ========= ======== ========
Ratio of net charge-offs during the
period to average loans outstanding
during the period -% -% -% -% -%
========== ========= ========= ======== ========
The allowance for loan losses balance and the provision for loan losses
are determined by management based upon periodic reviews of the loan portfolio.
In addition, as the Bank does not have an established charge-off history,
management considered the level of charge-offs on loans experienced by peer
financial institutions having loan portfolio mix and risk characteristics
similar to the Bank's loan portfolio mix and risk characteristics. Estimating
the risk of loss and the amount of loss is necessarily subjective. Accordingly,
the allowance is maintained by management at a level considered adequate to
cover losses that are currently anticipated based on past loss experience,
general economic conditions, information about specific borrower situations
including their financial position and collateral values and other factors and
estimates which are subject to change over time.
19
SUMMARY OF LOAN LOSS EXPERIENCE (Continued)
The following schedule is a breakdown of the allowance for loan losses
allocated by type of loan and related ratios at December 31:
Allocation of the Allowance for Loan Losses
2003 2002 2001
---- ---- ----
Percentage of Percentage of Percentage of
Loans In Loans In Loans In
Each Each Each
Category Category Category
Allowance to Total Allowance to Total Allowance to Total
Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ -----
(Dollars in thousands)
Commercial $ 2,251 67.5% $1,818 63.6% $1,616 65.9%
Residential real
estate mortgage 410 29.5 367 33.7 252 29.0
Installment loans to
Individuals 168 3.0 186 2.7 249 5.1
Unallocated 488 - 619 - 157 -
------- ----- ------ ----- ------ -----
$ 3,317 100.0% $2,990 100.0% $2,274 100.0%
======= ===== ====== ====== ====== =====
2000 1999
---- ----
Percentage of Percentage of
Loans In Loans In
Each Each
Category Category
Allowance to Total Allowance to Total
Amount Loans Amount Loans
------ ----- ------ -----
Commercial $ 1,302 68.1% $ 873 65.5%
Residential real
estate mortgage 201 26.0 140 30.8
Installment loans to
Individuals 110 5.9 70 3.7
Unallocated 239 - 187 -
------- ----- ------- -----
$ 1,852 100.0% $ 1,270 100.0%
======= ===== ======= =====
While management's periodic analysis of the adequacy of the allowance
for loan losses may allocate portions of the allowance for specific problem loan
situations, the entire allowance is available for any loan charge-offs that
occur.
DEPOSITS
The average amount of deposits and average rates paid are summarized as
follows for the years ended December 31:
2003 2002 2001
---- ---- ----
Average Average Average Average Average Average
Amount Rate Amount Rate Amount Rate
------ ---- ------ ---- ------ ----
(Dollars in thousands)
Savings, NOW and money
markets $ 116,693 .95% $ 93,707 1.42% $ 66,338 3.40%
Certificates of deposits 42,728 2.42 46,676 3.43 47,929 4.91
Demand deposits (noninterest-
bearing) 28,006 - 21,762 - 18,094 -
--------- --------- --------
$ 187,427 $ 162,145 $132,361
========= ========= ========
Maturities of time certificates of deposit and other time deposits of
$100,000 or more outstanding at December 31, 2003 are summarized as follows:
2003
Amount
------
(In thousands)
Three months or less $ 24,436
Over three months and through six months 11,142
Over six months and through twelve months 5,617
Over twelve months 19,868
------------
$ 61,063
============
20
RETURN ON EQUITY AND ASSETS
The ratio of net income to average shareholders' equity and average
total assets and certain other ratios are as follows:
2003 2002 2001
---- ---- ----
(Dollars in thousands)
Average total assets $ 268,057 $ 231,500 $ 191,590
============ ============ ============
Average shareholders'
equity (1) $ 22,998 $ 21,145 $ 19,545
============ ============ ============
Net income $ 1,825 $ 1,683 $ 1,275
============ ============ ============
Cash dividends declared $ - $ - $ -
============ ============ ============
Return on average total assets .68% .73% .67%
Return on average shareholders' equity 7.94% 7.96% 6.52%
Dividend payout percentage -% -% -%
Average shareholders'
equity to average total assets 8.58% 9.13% 10.20%
(1) Net of average unrealized appreciation or depreciation on
securities available for sale.
For additional analysis of this information, please see Item 7.,
Management's Discussion and Analysis of Financial Condition and Results of
Operation, which begins on page 24 of this document.
SHORT-TERM BORROWINGS
The Bank had securities sold under agreements to repurchase for which
the average balance outstanding during the reported periods was 30 percent or
more of shareholders' equity at the end of each reported period. The required
disclosures are incorporated by reference and can be located in Note 6 of the
consolidated financial statements.
ITEM 2. DESCRIPTION OF PROPERTY.
The Bank purchased the building and land for its main office for
$800,000 in May, 1999. This facility serves as the Bank's main office as well as
the Company's corporate headquarters and is located at 3820 Edison Lakes
Parkway, Mishawaka, Indiana. The premises consist of a 9,600 square foot,
two-story brick building constructed in 1988 with parking for approximately 57
vehicles. The building is located on a major thoroughfare in Mishawaka,
approximately two miles south of Interstate 80 and near the city's population
center.
The building has four interior teller stations and a night depository
facility. Management believes the facility will be adequate to meet the Company
and Bank needs for 2004. Management also believes that the building is
adequately covered by insurance.
21
ITEM 3. LEGAL PROCEEDINGS.
As a depository of funds, the Company and/or Bank may occasionally be
named as a defendant in lawsuits (such as garnishment proceedings) involving
claims to the ownership of funds in particular accounts. Such litigation is
incidental to our business.
Management is not aware of any pending litigation against the Company
or the Bank.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted during the fourth quarter of 2003 to a vote
of the Company's shareholders.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The common stock of the Company began being quoted on the Nasdaq
SmallCap market under the symbol SJOE in February, 2003. Prior to that time it
was quoted on the OTC Bulletin Board. As of February 29, 2004, the Company had
129 stockholders of record and estimates that it has approximately 700
stockholders in total.
The following table shows, for the periods indicated, the high and low
trades per share of transactions in the Company's common stock as quoted on the
OTC Bulletin Board or on the Nasdaq SmallCap market. Other private transactions
may have occurred during the periods indicated of which the Company has no
knowledge. The following prices represent inter-dealer prices without retail
markups, markdowns or commissions.
Per Share Per Share
Prices Dividends
High Low Declared
-------- ---------- --------
2002
March 31, 2002 $ 16.50 $ 13.00 -
June 30, 2002 19.25 15.55 -
September 30, 2002 22.25 18.40 -
December 31, 2002 19.90 17.10 -
2003
March 31, 2003 $ 19.25 $ 18.00 -
June 30, 2003 22.00 19.05 -
September 30, 2003 20.58 19.95 -
December 31, 2003 22.00 19.35 -
No cash or other dividends were declared or paid during the fiscal
years ended December 31, 2003 or 2002. Subsequent to year-end, the board of
directors declared a $.04 per common share dividend paid on March 15, 2004 to
stockholders of record as of March 1, 2004.
22
The Company's ability to pay dividends to stockholders is largely
dependent upon the dividends it receives from the Bank, and the Bank is subject
to regulatory limitations on the amount of cash dividends it may pay. See
"Business - Supervision and Regulation - The Company - Dividend Payments" and
"Business - Supervision and Regulation - The Bank - Dividend Payments" for a
more detailed description of these limitations. The Company is a party to an
indenture in connection with a private placement of trust preferred securities.
Under the terms of the indenture, the Company may be prohibited, under certain
circumstances, from paying dividends on shares of its common stock. None of
these circumstances currently exist.
ITEM 6. SELECTED FINANCIAL DATA
The required selected financial data is previously disclosed in Item 1
and is incorporated in this section by reference.
23
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION.
SPECIAL NOTE CONCERNING FORWARD-LOOKING STATEMENTS
This document contains (including information incorporated by
reference), and future oral and written statements of the Company and its
management may contain, forward-looking statements, within the meaning of such
term in the Private Securities Litigation Reform Act of 1995, with respect to
the Company's financial condition, results of operations, plans, objectives,
future performance and business. Forward-looking statements, which may be based
upon beliefs, expectations and assumptions of the Company's management and on
information currently available to management, are generally identifiable by the
use of words such as "believe," "expect," "anticipate," "plan," "intend,"
"estimate," "may," "will," "would," "could," "should" or other similar
expressions. Additionally, all statements in this document, including
forward-looking statements, speak only as of the date they are made, and the
Company undertakes no obligation to update any statement in light of new
information or future events.
The Company's ability to predict results or the actual effect of future
plans or strategies is inherently uncertain. Factors that could have a material
adverse effect on the Company's operations and future prospects include, but are
not limited to, the following:
- The strength of the United States economy in general and the
strength of the local economies in which the Company conducts
its operations, which may be less favorable than expected and
may result in, among other things, a deterioration in the
credit quality and value of the Company's assets.
- The economic impact of past and any future terrorist attacks,
acts of war or threats thereof and the response of the United
States to any such threats and attacks.
- The effects of, and changes in, federal, state and local laws,
regulations and policies affecting banking, securities,
insurance, and monetary and financial matters.
- The effects of changes in interest rates (including the
effects of changes in the rate of prepayments of the Bank's
assets) and the policies of the Board of Governors of the
Federal Reserve System.
- The Company's ability to compete with other financial
institutions as effectively as the Company currently intends
due to increases in competitive pressures in the financial
services sector.
- The Bank's inability to obtain new clients and to retain
existing clients.
- The timely development and acceptance of products and
services, including products and services offered through
alternative delivery channels such as the Internet.
- Technological changes implemented by the Company and by other
parties, including third party vendors, which may be more
difficult or more expensive than anticipated or which may have
unforeseen consequences to the Company and its clients.
- The Company's ability to develop and maintain secure and
reliable electronic systems.
- The Company's ability to retain key executives and employees
and the difficulty that it may experience in replacing key
executives and employees in an effective manner.
- Consumer spending and saving habits which may change in a
manner that affects the Company's business adversely.
- Business combinations and the integration of acquired
businesses that may be more difficult or expensive than
expected.
- The costs, effects and outcomes of existing or future
litigation.
- Changes in accounting policies and practices, as may be
adopted by state and federal regulatory agencies and the
Financial Accounting Standards Board.
- The Company's ability to manage the risks associated with the
foregoing as well as anticipated.
24
These risks and uncertainties should be considered in evaluating forward-looking
statements and undue reliance should not be placed on such statements.
Additional information concerning the Company's business including other factors
that could materially affect the Company's financial results is included in its
filings with the Securities and Exchange Commission.
OVERVIEW
The Company was formed in February 1996 for the purpose of organizing
the Bank. The Company opened the Bank for business in February 1997 with $10.0
million in assets and has grown to approximately $288.3 million as of December
31, 2003. Management anticipates that, as a result of the modestly growing
economy in the Michiana area and the increased asset size of the Company, growth
in assets may continue to expand but at a slower annual percentage rate than
experienced historically. However, management does expect that the Company's
assets will grow by taking additional market share and as a result of the
modestly growing local economy.
In March 2003, the Company announced that The Nasdaq Stock Market, Inc.
approved the Company's application to list its common stock on the Nasdaq Small
Cap Market. The Company's listing on Nasdaq was effective as of the opening of
business on April 1, 2003. The listing on Nasdaq was a move to encourage greater
trading volume and liquidity by providing the Company more visibility in the
small cap market.
In July 2003, the Company completed a sale of $3.0 million in trust
preferred securities through St. Joseph Capital Trust I (the "Trust"), a newly
formed trust subsidiary. The proceeds from the sale of the trust preferred
securities were used by the Trust to purchase an equivalent amount of
subordinated debentures from the Company. The trust preferred securities carry a
variable rate of interest priced at the three month libor plus 305 basis points,
have a stated maturity of 30 years, and, in effect, are guaranteed by the
Company. The securities are redeemable at par after 5 years. Distributions on
the trust preferred securities are payable quarterly on March 30, June 30,
September 30 and December 30. The first distribution was paid on September 30,
2003. Under certain circumstances, distributions may be deferred for up to 20
calendar quarters. However, during any such deferrals, interest accrues on any
unpaid distributions at the rate of the three month libor plus 305 basis points.
The debentures will mature and the capital securities must be redeemed in 2033,
although the Company has the option to shorten the maturity date to a date not
earlier than September 30, 2008, pending the prior approval of the Board of
Governors of the Federal Reserve System, if required. The trust preferred
securities are carried on the Company's consolidated balance sheet as a
liability and the interest expense is recorded on the Company's consolidated
statement of income. These trust preferred securities qualify as Tier 1 capital.
The Bank continues to focus on the goals established at its inception.
The Bank offers a distinct approach to serving its clients using an operating
philosophy that emphasizes integrity in dealing with others, an extraordinary
execution of service, and innovation, with technology-driven delivery of
products. This approach, along with the management's strong ties to the Indiana
and Michigan communities it serves, has been the foundation of its success in
building client relationships and maintaining controlled, profitable growth.
This focus allows the Bank to operate in an effective and efficient manner
providing exceptional client service yet permitting the Bank to be competitive
in the marketplace. The operating philosophy is reflected in the results of the
Company's operations and should be considered as they are analyzed. A
consistently low overhead ratio continues to allow for competitive product
pricing and lower service charges for the Bank's clients. The focus on credit
quality is evident as the Bank has not yet experienced a single loan charge-off,
which in turn allows for more efficient use of the Company's resources,
including time, dollars, and energy. These established goals have made the
Company unique in the market place and unique to its clients. The results from
the most recent annual client survey confirmed that these unique differences
have and will continue to provide new opportunities for the Company.
25
The return on average assets (ROAA) and return on average equity (ROAE)
have steadily increased from inception through 2002. In 2003, the ROAA and ROAE
were negatively impacted by the severance expenses and professional fees related
to the departure of two of our officers.
Management expects that, over time, the Company's ROAA and ROAE will
continue to improve as the Company's fixed costs and capital base are further
leveraged. A consistent philosophy since inception has been the focus on
superior asset quality. As a general rule, the most credit worthy borrowers are
able to negotiate very favorable pricing terms in the market. Additionally, for
strategic reasons, the Bank has retained substantially all of its residential
mortgage loans. Again, it is generally accepted that residential mortgage loans
are less risky than other types of loans. Therefore, the interest rates on
residential mortgages are less than other types of term loans. These two factors
have contributed to the superior asset quality record achieved by the Bank but
have also resulted in a more modest net interest margin. Partially offsetting
the lower net interest margin is the Company's low overhead ratio (non-interest
expense divided by average assets).
Another important aspect of the operating philosophy of the Company is
to continue to grow at an appropriate rate. As the Company continues to grow,
provision expense and variable other non-interest expenses should be a smaller
percentage of total assets and lead to the continued improvement in ROAA and
ROAE.
The following discussion provides additional information regarding the
Company's operations for the years ended December 31, 2003, 2002, and 2001 and
financial condition at December 31, 2003 and 2002. The objective of this
financial review is to enhance the reader's understanding and should be read in
conjunction with the Company's consolidated financial statements and notes
thereto included in this Form 10-K. For a description of the Company's
accounting policies, see Note 1 of Notes to the Consolidated Financial
Statements.
CRITICAL ACCOUNTING POLICIES
Certain of the Company's accounting policies are important to the
portrayal of the Company's financial condition, since they require management to
make difficult, complex or subjective judgments, some of which may relate to
matters that are inherently uncertain. Estimates associated with these policies
are susceptible to material changes as a result of changes in facts and
circumstances. Some of the facts and circumstances, which could affect these
judgments, include changes in interest rates, the performance of the economy or
the financial condition of borrowers. Management believes that its critical
accounting policies include determining the allowance for loan losses.
ALLOWANCE FOR LOAN LOSSES. The Bank maintains an allowance to absorb
probable loan losses inherent in the portfolio. The allowance for loan losses is
maintained at a level that management considers to be adequate based on ongoing
monthly assessments and evaluations of the collectibility of the Bank's loans.
Provisions for loan losses are based on management's review of credit loss
experience among its peers and factors that, in management's judgment, deserve
consideration under existing economic conditions in estimating probable loan
losses. Management's strategy for credit risk oversight includes a combination
of conservative exposure limits significantly below legal lending limits, and
conservative underwriting standards and comprehensive loan documentation. The
strategy also emphasizes diversification at the industry and client levels,
regular credit examinations and periodic management reviews of large credit
exposures and loans experiencing deterioration of credit quality.
General allocations for loan types may be adjusted for significant
factors that, in management's judgment, reflect the impact of any current
conditions on loss recognition. Factors that management considers in the
analysis include the effects of the national and local economies, trends in the
nature and volume of loans, changes in mix, asset quality trends, risk
management and loan administration, changes
26
in the internal lending policies and credit standards, and examination results
from bank regulatory agencies and the Bank's internal independent loan reviews.
An unallocated reserve is maintained to recognize the imprecision in
estimating and measuring loss when evaluating reserves for individual loans or
pools of loans. Reserves on individual loans and general allocation rates are
reviewed monthly and adjusted as necessary based on changing borrower and/or
collateral conditions.
The Bank has not substantively changed any aspect of its overall
approach in the determination of the allowance for loan losses. There have been
no material changes in assumptions or estimation techniques as compared to prior
periods that impacted the determination of the current year allowance for loan
losses.
Based on the procedures discussed above, management is of the opinion
that the allowance of $3.3 million was adequate, but not excessive, to absorb
estimated loan losses associated with the loan portfolio at December 31, 2003.
However, there can be no assurance that future losses will not exceed the
estimated amounts or that the Bank will not be required to make additional
provision for losses in the future.
FINANCIAL CONDITION
DECEMBER 31, 2003 COMPARED WITH DECEMBER 31, 2002
During the twelve-month period of 2003, the Company's assets increased
from $253.8 million on December 31, 2002, to $288.3 million on December 31,
2003. This was a 13.6% increase compared to an 18.2% increase during the
previous year. As in the past, a consistent focus on deposit growth provided the
funding needed to increase the net loan portfolio by $33.9 million during 2003.
This loan growth was the primary contributor to the $34.5 million overall
increase in assets. Commercial loan growth was $30.4 million or 89.7% of the net
loan growth in 2003. Commercial loans made up 67.5% of gross loans at December
31, 2003.
The continued significant concentration of the loan portfolio in
commercial loans and the continued future growth of this portion of the Bank's
lending business are consistent with our stated strategy of focusing on small-
to mid-size businesses. Management anticipates this growth will continue as
additional relationships are developed as a result of current calling efforts
and the addition of new lending personnel. The deposit accounts related to the
Bank's commercial lending business generate the greatest amount of local
deposits, and are the primary source of demand deposits.
The quality of the loan portfolio remains strong. The Company has not
experienced any charge-offs since inception. Management believes they have
instilled a very strong credit culture within the lending department as it
pertains to the underwriting and administration processes. Over 96.6% of the
loan portfolio consists of loans extended directly to companies and individuals
doing business and residing within the Company's market area or having strong,
long-standing ties to management. The remaining portion is comprised of
commercial loans participated with certain non-affiliated commercial banks
outside of the immediate area, which are underwritten using the same loan
underwriting criteria as though the Bank was the originating bank.
The economy in the Company's market area was relatively slow during
2002 and began a steady but modest increase in 2003. During this period the
Company has grown and has maintained its interest rate spread, while
experiencing no significant change in asset quality or in non-performing loan
totals. However, due to a slowdown in economic growth in the previous years and
the modest rate of the growth
27
in the current economy, borrowers may experience difficulty, and the level of
non-performing loans, charge-offs, and delinquencies could rise and require
further increases in the provision for loan losses.
The level of the allowance for loan losses and the amount of the
quarterly provision for loan losses are determined by management based upon
periodic reviews of the loan portfolio. In addition, because the Bank does not
have an established charge-off history, management considers the level of
charge-offs experienced by peer financial institutions having loan portfolio
mixes and risk characteristics similar to the Bank's loan portfolio mix and risk
characteristics. Estimating the risk of loss and the amount of loss is
necessarily subjective. Accordingly, the allowance is maintained by management
at a level considered adequate to cover losses that are currently anticipated
based on past loss experience in the market, general economic conditions,
information about specific borrower situations including their financial
position, and collateral values and other factors and estimates which are
subject to change over time.
While management's periodic analysis of the adequacy of the allowance
for loan losses may allocate portions of the allowance for specific problem loan
situations, the entire allowance is available for any loan charge-offs that
occur.
At December 31, 2003, cash and cash equivalents increased $14.5
million, from $20.9 million in 2002 to $35.4 million in 2003. This is in
contrast to a $14.5 million decrease in securities available for sale, from
$38.6 million in 2002 to $24.1 million in 2003. This shift in securities
available for sale to cash and cash equivalents was the result of management
repositioning the balance sheet to shorten the duration of assets in the
investment portfolio combined with timing differences in the receipt of
deposits. Due to a delay in the receipt of property tax dollars in the latter
half of 2003 by various Indiana municipalities, the Bank's municipal funds on
deposit were reduced to below normal holdings in the third and fourth quarters
of 2003. At the end of December, these property tax dollars were collected which
replenished the municipal deposits and provided substantial amounts of cash and
cash equivalents. The average balances during 2003 for cash and cash equivalents
and securities available for sale were $18.3 million and $37.5 million. These
average balances represent the more normal mix between these categories.
Subsequent to the end of 2003, a portion of the excess cash and cash equivalents
was invested into securities available for sale.
The $29.6 million growth in deposits in 2003 was mainly in
interest-bearing deposits. This was a 16.7% increase in 2003 compared to a 15.9%
increase in 2002. Interest-bearing deposits made up approximately 85.4% of the
Bank's deposits at December 31, 2003. The average balance of deposits was $187.4
million during 2003 and $162.1 million during 2002. Deposit balances at year-end
were $207.3 million at December 31, 2003 and $177.7 million at December 31,
2002. The $25.3 million increase in the average balance of deposits from 2002 to
2003, along with the $29.6 million increase in year-over-year deposits at
December 31, demonstrates the consistent deposit growth the Bank has
experienced. To date, the Company has been successful in attracting and
retaining client relationships, which have provided a significant portion of the
funding needed to grow the loan portfolio. Management has not placed undue
reliance on brokered deposits and had accepted only $20.1 million in brokered
certificates of deposit as of December 31, 2003 compared to $10.0 million at
December 31, 2002. Management also believes the ability to attract and retain
deposits is attributed to more personalized service than the competition. The
deposit growth in 2003, along with $3.0 million from the subordinated debentures
discussed earlier and the $2.1 million increase in equity achieved primarily
through the retention of earnings, provided the funding needed to meet the $34.2
million growth in gross loans.
28
RESULTS OF OPERATIONS
2003 COMPARED WITH 2002
OVERVIEW. Consolidated net income for the year ended December 31, 2003
was $1.8 million as compared to $1.7 million for 2002, for an increase of
$142,000 or 8.4 % over 2002. Income per common share for 2003 increased to $1.08
basic and $1.05 diluted from a $1.00 basic and $.98 diluted income per common
share for 2002. The increase in net income in 2003 compared to the prior year
was comprised of an increase in net interest income after provision for loan
losses of $1.5 million offset by a decrease in non-interest income of $133,000
and also reduced by an increase in non-interest expense of $1.2 million. Income
tax expense was $1.0 million in both 2003 and 2002.
NET INTEREST INCOME. The largest component of net income is net
interest income. Net interest income is the difference between interest income,
principally from loans and securities available for sale, and interest expense,
principally on customer deposits and borrowings. Changes in net interest income
result from changes in volume, net interest spread and net interest margin.
Volume refers to the average dollar levels of interest-earning assets and
interest-bearing liabilities. Net interest spread refers to the difference
between the average yield on interest-earning assets and the average cost of
interest-bearing liabilities. Net interest margin refers to net interest income
divided by average interest-earning assets and is influenced by the level and
relative mix of interest-earning assets and interest-bearing liabilities.
The tables incorporated in this document presented on pages 11 - 14,
for the periods indicated, presents certain information related to the Company's
average assets and liability structure and the Company's average yields on
assets and average costs of liabilities. Such yields are derived by dividing
income or expense by the average balance of the corresponding asset or
liability.
Net interest income during 2003 was $8.3 million, an increase of 13.7%
over the $7.3 million earned during 2002. Yields on the Bank's interest-earning
assets declined by 60 basis points to 5.03% for the year ended December 31,
2003, from 5.63% for the year ended December 31, 2002. Rates paid on
interest-bearing liabilities dropped by 59 basis points during this same period.
The similar basis point decrease on interest-earning assets and interest-bearing
liabilities allowed the Bank's net interest spread to decline by only 1 basis
point from 3.02% in 2002 to 3.01% in 2003. Management's ability to manage the
yields on assets and the rates paid on liabilities during 2003 contributed to
the net interest margin decreasing by only 5 basis points from 3.35% for 2002 to
3.30% for 2003. The slightly larger decrease in the net interest margin of 5
basis points compared to the 1 basis point decrease in the net interest spread
was due to the volume and mix of assets and liabilities. The increased volume in
interest-earning assets can generate more net interest income during a period
despite the decreasing yields, as long as the volume variance is greater than
the negative rate variance. However, the additional leveraging of capital, which
increases the percentage of interest-bearing liabilities used to fund the asset
growth, will push the net interest margin lower. In 2003, the increase in net
interest income of $1.1 million was the result of increased volume. Management
believes that the current level of interest rates are significantly driven by
external factors and the net interest margin could continue to compress if
interest rates overall remain at current levels and the Bank continues to grow.
If interest rates remain at their current levels or continue to decline, net
interest income can be increased by growth in interest-bearing liabilities and
interest-earning assets. Management does not expect a significant rise in
interest rates in the near term, and, therefore, intends on continuing to add
volume to the balance sheet to be able to increase net interest income.
PROVISION FOR LOAN LOSSES. Provisions to the allowance for loan losses
during 2003 totaled $327,000, a decrease from the $716,000 expensed during 2002.
The lower provision expense for 2003 was partly attributable to a slow down in
the rate of growth of the loan portfolio from $45.1 million in 2002 to $34.2
million in 2003. One measure of the adequacy of the allowance for estimated
losses on loans is the ratio of the allowance to the total loan portfolio. The
allowance for loan losses as a percentage of total loans outstanding as of
December 31, 2003 was 1.47%, compared to 1.56% at
29
December 31, 2002. The decrease in the allowance for loan losses as a percentage
of total loans receivable was primarily a result of management's risk assessment
of the portfolio. The risk assessment is based on numerous statistical and other
factors including the specific asset class of each loan (i.e. commercial,
residential or consumer), the internal risk rating of each loan, specific
industry concentrations, an assessment for large dollar and unsecured loans and
specific reserves for watch list credits as well as general economic and
geopolitical factors.
In each accounting period, the allowance for loan losses is adjusted to
the amount believed necessary to maintain the allowance at adequate levels.
Through the loan review and credit department, management allocates specific
portions of the allowance for loan losses based on specifically identifiable
problem loans. The evaluation of the allowance for loan losses is further based
on, although not limited to, consideration of the internally prepared Loan Loss
Reserve Analysis ("Reserve Analysis"), composition of the loan portfolio, third
party analysis of the loan administration processes and loan portfolio and
general economic conditions. In addition, the Bank's status as a relatively new
banking organization and the rapid loan growth since inception is taken into
account.
The Reserve Analysis, used since the inception of the Bank and
completed monthly, applies reserve allocation factors to outstanding loan
balances to calculate an overall allowance dollar amount. For commercial loans,
which continue to comprise a vast majority of the Bank's total loans, reserve
allocation factors are based upon the loan ratings as determined by the
Management's comprehensive loan rating paradigm that is administered by its loan
review personnel. For retail loans, reserve allocation factors are based upon
the type of credit. The Reserve Analysis is reviewed regularly by senior
management and the board of directors and is adjusted periodically based upon
identifiable trends and experience.
The Bank has not experienced any charge-offs from loans receivable
since inception. Accordingly, in estimating the risk of loss in the Bank's loan
portfolio, management considered the level of charge-offs on loans experienced
by peer financial institutions having a loan portfolio mix and risk
characteristics similar to the Bank's loan portfolio mix and risk
characteristics. At December 31, 2003, no portion of the allowance for loan
losses was allocated to impaired loan balances, as there were no loans
considered impaired. Management believes the allowance for loan losses at
December 31, 2003 was adequate to absorb losses in the loan portfolio, including
probable incurred losses due to the current state of the economy. However, there
can be no assurance that future losses will not exceed the estimated amounts or
that the Bank will not be required to make additional provision for losses in
the future.
NON-INTEREST INCOME. Non-interest income decreased by $133,000 in 2003
compared to 2002. Non-interest income in 2003 consisted mainly of depository
account service fees, interchange income on credit cards, and net gain on sales
of securities available for sale. Non-interest income in 2002 consisted
primarily of depository account service fees, interchange income on credit
cards, and net gain on sales and calls of securities available for sale. The
decline in overall non-interest income was primarily due to the decrease in net
gain on sale of securities from $402,000 in 2002 to $236,000 in 2003. Service
charges on deposit accounts increased only slightly as more clients maintained
higher average balances in their demand deposit accounts to pay for service
charges. Due to the Company's operating philosophy, which includes a general
aversion to excessive service charges on deposit accounts, significant changes
in service charges would not be expected except as a result of continued growth
in deposit relationships.
NON-INTEREST EXPENSE. The main components of non-interest expense were
salaries and employee benefits, occupancy and equipment, professional fees, and
data processing for 2003 and 2002. Non-interest expense for 2003 was $5.9
million as compared to $4.7 million in 2002. Management continues to control
overhead expenses without impairing the quality of service provided to clients.
Salaries and employee benefits, which are the largest component of
non-interest expense, experienced the most significant dollar increase of any
non-interest expense component. For 2003, total salaries and employee benefits
were $4.0 million compared to $3.1 million for 2002. The increase in employee
salaries and benefits was a result of merit increases and hiring additional
sales staff in order to
30
continue to grow the business as well as providing high quality client service.
In addition, salaries and employee benefits included severance expense and
expense related to the accelerated vesting of stock options of $341,000 from the
departure of two officers from the Company. Of this amount, approximately
$80,000 was a non-cash charge to the income statement for the accelerated
vesting of stock options for the severed employees. Also during 2003 and
consistent with its previous announcement of it's adoption of SFAS No. 123,
Accounting for Stock-Based Compensation, as amended by SFAS No. 148, Accounting
for Stock-Based Compensation - Transition and Disclosure, the Company began
expensing the fair value of stock option awards earned during the year. The
amount for this new expense was $67,000 in 2003. There was no direct income
statement impact for this activity in prior periods. Please refer to Note 8 in
the Notes to Consolidated Financial Statements for more details.
Occupancy and equipment expense and data processing expense remained
primarily unchanged during 2003 as compared to 2002. Professional fees increased
from $193,000 in 2002 to $284,000 in 2003 mostly due to costs related to the
departure of the two officers who resigned from the Company in 2003.
Monitoring and controlling non-interest costs, while at the same time
providing high quality service to clients, is one of management's top
priorities. The Company's efficiency ratio, computed by dividing non-interest
expenses by net interest income plus non-interest income, less security gains
was 66.44% and 61.51% during 2003 and 2002.
The efficiency ratio for 2003 was negatively impacted by the costs
related to the severance of two officers who resigned from the Company. These
costs included $341,000 of severance expense and $144,000 of professional fees.
Without these charges to the income statement the efficiency ratio would have
improved in 2003 compared to 2002. A higher level of net revenue growth (net
interest income plus non-interest income, less non reoccurring gains or charges)
when compared to the growth in overhead costs will lead to improved efficiency
ratios and overall profitability.
INCOME TAXES. The effective tax rate in 2003 was 36.39% compared to
36.63% in 2002. As earnings increase, the Company will continue to record the
calculated tax expense at similar rates.
2002 COMPARED WITH 2001
OVERVIEW. Consolidated net income for the year ended December 31, 2002
was $1.7 million as compared to $1.3 million for 2001, for an increase of
$408,000 or 32.0% over 2001. Income per common share for 2002 increased to $1.00
basic and $.98 diluted from a $.76 basic and $.75 diluted income per common
share for 2001. The increase in net income for 2002 compared to the prior year
was comprised of increases in net interest income after provision for loan
losses of $1.1 million or 21.2% and an increase in non-interest income of
$198,000 or 29.6%, reduced by an increase in non-interest expense of $679,000 or
16.7% and also reduced by an increase in income tax expense. Income tax expense
for 2002 was $973,000 compared to $718,000 in 2001.
NET INTEREST INCOME. Interest income during 2002 was $12.2 million, a
2.0% decrease from the $12.4 million earned during 2001. In 2002, earning assets
averaged $216.2 million, an increase from average earning assets of $179.8
million in 2001. Interest income during 2002 was negatively impacted by the
decline in the yield on earning assets from 2001; a result of the overall
decline in market interest rates during the year. During 2002 and 2001, the
weighted average yield on earning assets was 5.63% and 6.90%. The continued
decrease in yields during 2002 was a result of further reductions in market
interest rates due to the sustained weakness of the economy. Interest income
should grow as the loan portfolio and other interest earning assets increase.
Interest expense during 2002 was $4.9 million, a 25.6% decrease over
the $6.6 million expensed during 2001. During 2002, interest-bearing liabilities
averaged $187.9 million, which was higher than the average interest-bearing
funds of $153.7 million in 2001. Positively impacting interest expense for 2002
compared to 2001 was the decline in the cost of interest-bearing funds due to
the decline in market rates
31
as mentioned previously. During 2002 and 2001, interest-bearing liabilities had
a weighted average rate of 2.61% and 4.30%. The decline in market interest rates
during 2002 resulted in a substantial decline in the cost of funds during 2002
as compared to 2001.
Net interest income during 2002 was $7.3 million, an increase of 24.7%
over the $5.8 million earned during 2001. The net interest spread has increased
from 2.60% during 2001 to 3.02% in 2002. Although the Bank experienced
significant asset growth during 2002, the net interest spread increased as a
result of the ability to lower deposits rates to offset the decrease in asset
yields.
PROVISION FOR LOAN LOSSES. Provisions to the allowance for loan losses
during 2002, totaled $716,000, an increase from the $422,000 expensed during
2001. The higher provision expense for 2002 was partly attributable an increase
in the rate of growth of the loan portfolio from $15.4 million in 2001 to $45.1
million in 2002. The allowance for loan losses as a percentage of total loans
outstanding as of December 31, 2002 was 1.56%, compared to 1.55% at December 31,
2001. The increase in the allowance for loan losses as a percentage of total
loans receivable was primarily a result of management's risk assessment of the
portfolio. At December 31, 2002, no portion of the allowance for loan losses was
allocated to impaired loan balances, as there were no loans considered impaired.
NON-INTEREST INCOME. Non-interest income increased by $198,000 from
2001 to 2002. Non-interest income in 2002 consisted mainly of depository account
service fees, interchange income on credit cards, and net gain on sales of
securities available for sale. Non-interest income in 2001 consisted primarily
of depository account service fees, interchange income, and net gain on sales
and calls of securities available for sale. The growth in non-interest income,
excluding gains or losses on the sale of securities was mainly a result of
increasing the Bank's client base as well as the reduction in the earnings
credit rate on business checking accounts, which caused clients to pay a greater
portion of their service charges with hard dollars as opposed to paying for
service charges with excess balances in their demand deposit accounts. The net
gain on sale of securities available for sale increased in 2002 to $402,000
compared to $320,000 in 2001.
NON-INTEREST EXPENSE. The main components of non-interest expense were
salaries and employee benefits, occupancy and equipment, data processing, and
professional fees for 2002 and 2001. Non-interest expense for 2002 was $4.7
million as compared to $4.1 million in 2001. Management continues to attempt to
control overhead expenses without impairing the quality of service provided to
clients.
Salaries and employee benefits experienced the most significant dollar
increase of any non-interest expense component. For 2002, total salaries and
employee benefits were $3.1 million compared to $2.5 million for 2001. The
increase was primarily attributable to the increase in the number of employees
required to service the larger client base and attract new clients, as well as
merit and cost of living raises.
Monitoring and controlling non-interest costs, while at the same time
providing high quality service to clients, is one of management's top
priorities. The Company's efficiency ratio, computed by dividing non-interest
expenses by net interest income plus non-interest income, less security gains
was 61.51% and 66.00% during 2002 and 2001. A higher level of net revenue growth
(net interest income plus non-interest income, less non reoccurring gains or
charges) when compared to the growth in overhead costs lead to an improved
efficiency ratio and improved overall profitability.
INCOME TAXES. The Company has utilized the entire net operating loss
carry forward and has shown adequate profitability to warrant recording the net
deferred tax assets. Consequently, management reversed all of the remaining
valuation allowance for deferred tax assets during 2000, therefore making the
Company a full taxpayer during 2001. The effective tax rate in 2002 was 36.6%
compared to 36.0% in 2001. As the Company continues to be profitable, it will
report net tax expense.
32
LIQUIDITY
The Bank's liquidity is measured by the ability to raise funds through
deposits, borrowed funds, capital or cash flow from the repayment or maturities
of loans and securities and net profits. These monies can be used to fund loan
requests, meet deposit withdrawals, maintain reserve requirements, and support
operations. Liquidity is primarily achieved through the growth of deposits (both
local and out-of-area) and by maintaining liquid assets such as securities
available for sale, matured securities, and federal funds sold. Asset and
liability management is the process of managing the balance sheet to achieve a
mix of earning assets and liabilities in such a way that manages interest rate
risk and assists in achieving an acceptable level of profitability. An important
part of the overall asset and liability management process is providing adequate
liquidity. Liquid assets were $59.6 million at December 31, 2003 compared to
$59.5 million at December 31, 2002 and $65.2 million at December 31, 2001.
The Bank's liquidity strategy is to fund loan growth with deposits,
repurchase agreements, and FHLB advances and to maintain an adequate level of
short- and medium-term investments to meet typical daily loan and deposit
activity. Although deposit and repurchase agreement growth from depositors
located in the market area have consistently increased, the growth has not been
sufficient at times to meet the substantial loan growth and provide monies for
additional investing activities. To assist in providing the additional needed
funds, the Bank has obtained certificates of deposit from customers outside of
the market area and placed by deposit brokers for a fee, as well as certificates
of deposit obtained from the deposit owners directly. As of December 31, 2003,
brokered deposits totaled $20.1 million, or 9.4% of combined deposits and
repurchase agreements, compared to $10.0 million, or 5.3% of combined deposits
and repurchase agreements, as of December 31, 2002. The acceptance of brokered
deposits is expected to be an ongoing activity due to planned future growth.
The Bank has the ability to borrow money on a daily basis through
correspondent banks via established federal funds purchased lines; however, this
is viewed as only a secondary and temporary source of funds. The average balance
of federal funds sold during 2003 equaled $1.9 million, compared to $4.4 million
average balance of federal funds purchased during the same period.
As a member of the FHLB, the Bank has access to the FHLB's borrowing
programs. Based on available collateral at February 29, 2004, the Bank could
borrow up to approximately $74.2 million subject to the purchase of additional
stock in the FHLB. As of December 31, 2003, $46.5 million in FHLB advances was
outstanding. The availability could continue to increase if the loan and
investment portfolios grow in the future.
In addition to typical loan funding and deposit flows, the Bank must
maintain liquidity to meet the demands of certain unfunded loan commitments and
standby letters of credit. As of December 31, 2003, there were a total of $96.4
million in unfunded loan commitments and $4.6 million in unfunded standby
letters of credit. Fluctuations in loan balances and commitment levels are
monitored, with such data being used in managing overall liquidity.
The statements of cash flows for the periods presented provide an
indication of the Company's sources and uses of cash as well as an indication of
its ability to maintain an adequate level of liquidity. A discussion of the
statements of cash flows for 2003, 2002, and 2001 follows.
During all periods presented, the Company experienced a net increase in
cash from operating activities. Net cash from operating activities was $2.5
million during 2003 compared to $2.6 million during 2002 and $1.4 million during
2001. The increase in cash from operating activities was primarily a result of
the Company's ability to generate net income of $1.8 million in 2003, $1.7
million in 2002 and $1.3 million in 2001.
For 2003, 2002, and 2001, the Company experienced a net decrease in net
cash from investing activities. Net cash from investing activities was $(20.7)
million, $(38.3) million and $(37.2) million for
33
2003, 2002, and 2001. The changes in net cash from investing activities include
purchases, sales, maturities, and calls of securities available for sale, growth
in loans receivable and purchases of premises and equipment.
Net cash flow from financing activities was $32.7 million, $36.6
million, and $36.3 million for 2003, 2002, and 2001. In 2003, the increase was
primarily attributable to the growth in deposits of $29.6 million, net FHLB
advances of $3.5 million, and subordinated debentures of $3.0 million offset by
a decrease of $3.8 million for securities sold under the agreement to
repurchase. In 2002, the increase was primarily attributable to the growth in
total deposits of $24.4 million and net FHLB advances of $12.5 million. In 2001,
the increase was primarily attributable to the growth in total deposits of $30.9
million, net FHLB advances of $3.0 million, and securities sold under the
agreement to repurchase of $2.4 million.
CONTRACTUAL OBLIGATIONS
Payments Due by Period
(Dollars in Thousands)
Less than 1 to 3 4 to 5 After 5
Total 1 year years years years
----- ------ ----- ----- -----
Certificate of deposit $ 70,251 $ 45,031 $ 23,141 $ 2,079 $ -
FHLB advances 46,520 4,780 16,740 6,500 18,500
Subordinated debentures 3,000 - - - 3,000
----------- ----------- ----------- ----------- -----------
Total contractual cash
obligations $ 119,771 $ 49,811 $ 39,881 $ 8,579 $ 21,500
=========== =========== =========== =========== ===========
The long-term debt obligations consist of certificates of deposit,
advances from the FHLB, and subordinated debentures. The above schedule
represents principal payments only and does not include interest.
CAPITAL RESOURCES
Retained earnings at December 31, 2003 was $5.0 million compared to
$3.2 million at December 31, 2002. The increase in retained earnings was equal
to the Company's net income of $1.8 million for 2003.
Accumulated other comprehensive income, net of tax from net unrealized
gains on securities available for sale, was $199,000 as of December 31, 2003 as
compared to $572,000 as of December 31, 2002. The decline since December 31,
2002 was primarily attributable to a decrease in the net gain on securities
available for sale balance.
Total shareholders' equity was $24.2 million as of December 31, 2003,
an increase of $2.1 million from $22.1 million as of December 31, 2002. The
increase resulted from the increase in the net income for the year as well as
the proceeds from the issuance of common stock upon the exercise of stock
options.
The Company is subject to regulatory capital requirements primarily
administered by federal banking regulatory agencies. Failure to meet the various
capital requirements can cause regulatory action that could have a direct
material effect on the financial statements. Since the Bank commenced
operations, both the Company and the Bank have been categorized as "Well
Capitalized," the highest classification contained within the banking
regulations.
34
The components of total risk-based capital are Tier 1 capital and Tier
2 capital. Tier 1 capital is total shareholders' equity less intangible assets.
Tier 2 capital is Tier 1 capital plus a portion of the allowance for loan
losses. The allowance for loan losses is includable in Tier 2 capital up to a
maximum of 1.25% of risk-weighted assets. The net unrealized appreciation
(depreciation) on securities available for sale, net of tax, is not considered
in meeting regulatory capital requirements. The tables in Note 12 of the notes
to consolidated financial statements provide the minimum regulatory capital
requirements and the actual capital ratios at December 31, 2003 and 2002.
As of December 31, 2003, management was not aware of any current recommendations
by the banking regulatory authorities which, if they were to be implemented,
would have, or are reasonably likely to have, a material adverse effect on the
Company's liquidity, capital resources or operations.
MANAGEMENT OF INTEREST SENSITIVITY
The Company's primary market risk exposure is interest rate risk and,
to a lesser extent, liquidity risk. Interest rate risk is the exposure of the
Company's financial condition to adverse movements in interest rates. The
Company derives its income primarily from the excess of interest collected on
its interest-earning assets over the interest paid on its interest-bearing
liabilities. The rates of interest the Company earns on its assets and owes on
its liabilities generally are established contractually for a period of time.
Since market interest rates change over time, the Company is exposed to lower
profitability if it cannot adapt to interest rate changes. Accepting interest
rate risk can be an important source of profitability and shareholder value;
however, excessive levels of interest rate risk could pose a significant threat
to the Company's earnings and capital base. Accordingly, effective risk
management that maintains interest rate risk at prudent levels is essential to
the Company's safety and soundness.
Evaluating the exposure to changes in interest rates includes assessing
both the adequacy of the process used to control interest rate risk and the
quantitative level of exposure. The Bank's interest rate risk management process
seeks to ensure that appropriate policies, procedures, management, information
systems and internal controls are in place to maintain interest rate risk at
prudent levels with consistency and continuity. In evaluating the quantitative
level of interest rate risk, management assesses the existing and potential
future effects of changes in interest rates on the Company's financial
condition, including capital adequacy, earnings, liquidity, and asset quality.
Management uses three interest rate risk measurement techniques. The
first, which is commonly referred to as GAP analysis, measures the difference
between the dollar amounts of interest sensitive assets and liabilities that
will be refinanced or re-priced during a given time period. A significant
re-pricing gap could result in a negative impact to the Bank's net interest
margin during periods of changing market interest rates.
The second interest rate risk measurement used is commonly referred to
as net interest income simulation analysis. Management believes that this
methodology provides a more accurate measurement of interest rate risk than the
GAP analysis, and therefore, serves as one of its primary interest rate risk
measurement techniques. The simulation model assesses the direction and
magnitude of variations in net interest income resulting from potential changes
in market interest rates. Key assumptions in the model include prepayment speeds
on various loan and investment assets; cash flows and maturities of
interest-sensitive assets and liabilities; and changes in market conditions
impacting loan and deposit volume and pricing. These assumptions are inherently
uncertain and subject to fluctuation and revision in a dynamic environment;
therefore, the model cannot precisely estimate net interest income or exactly
predict the impact of higher or lower interest rates on net interest income.
Actual results will differ from simulated results due to timing, magnitude, and
frequency of interest rate changes and changes in market conditions and the
Bank's strategies, among other factors.
Management conducted multiple simulations as of December 31, 2003,
whereby it was assumed that a simultaneous, instant and sustained change in
market interest rates occurred. Results of the simulation suggest that the Bank
could expect net interest income to decrease by approximately $128,000,
35
if interest rates gradually decline by 100 basis points over the next twelve
months, and to increase approximately $92,000, if interest rates gradually
increase 100 basis points over the next twelve months, from forecast levels of
net interest income absent any changes in rates. These variances in net interest
income were within the Bank's policy parameters established to manage interest
rate risk. Other simulations are run quarterly looking at changes to net
interest income given 200 and 300 basis point changes in interest rates.
The third interest rate risk measurement used is commonly referred to
as an "EVE" analysis or an Economic Value of Equity analysis. Along with the
simulation analysis, management believes that the EVE analysis methodology
provides a more accurate measurement of interest rate risk than the GAP
analysis, and therefore, serves as one of management's primary interest rate
risk measurement techniques. The EVE analysis assesses the impact to the value
of equity given potential changes in market interest rates. Key assumptions in
the model include prepayment speeds on various loans, discount rates and the
duration of assets and liabilities as determined by the federal regulatory
agencies. These assumptions are inherently uncertain, subject to fluctuation and
revision in a dynamic environment; therefore, the model cannot precisely
estimate the value of equity or exactly predict the impact that higher or lower
interest rates will have on the value of equity. Actual results will differ from
simulated results due to timing, magnitude, and frequency of interest rate
changes and changes in market conditions and the Company's strategies, among
other factors.
Results of the economic value of equity analysis done as of December
31, 2003, suggest that the Bank could expect the value of its equity to increase
3.84% and 6.98%, if there was an immediate interest rate shift upward of 100 and
200 basis points and to decrease 5.27%, if there was an immediate interest rate
shift downward of 100 and 200 basis points. Due to the current interest rate
environment a 200 basis point shift downward is not applicable in the modeling.
Management believes the different scenarios indicate a financial services
organization that has relatively low overall interest rate risk.
Austin Advisors, Inc., a firm specializing in consulting and providing
assistance to banks, performs a formal asset/liability management analysis on a
monthly basis. This information is presented and reviewed by the asset/liability
committee.
IMPACT OF INFLATION AND CHANGING PRICES
The majority of the Company's assets and liabilities are monetary in
nature and therefore the Company differs greatly from most commercial and
industrial companies that have significant investments in fixed assets or
inventories. However, inflation does have an important impact on the growth of
total assets in the banking industry and the resulting need to increase equity
capital at higher than normal rates in order to maintain an appropriate equity
to assets ratio. Inflation significantly affects non-interest expense, which
tends to rise during periods of general inflation.
ITEM 7A. QUANTITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
The following table provides information about the Company's financial
instruments that are sensitive to changes in interest rates at December 31, 2003
and 2002. For loans receivable, securities, and liabilities with contractual
maturities, the table presents principal cash flows and related weighted-average
interest rates by contractual maturities. For core deposits (demand deposits,
interest-bearing checking, savings, and money market deposits) that have no
contractual maturity, the table presents principal cash flows and, as
applicable, related weighted-average interest rates based upon the Company's
historical experience, management's judgment, and statistical analysis
concerning their most likely withdrawal behaviors. The current historical
interest rates for core deposits are assumed to apply for future periods in this
table as the actual interest rates that will need to be paid to maintain these
deposits are not currently known. Weighted-average variable rates are based upon
contractual rates existing at the reporting date.
36
MARKET RISK DISCLOSURE AT DECEMBER 31, 2003
(Dollars in thousands)
Fair Value
2004 2005 2006 2007 2008 Thereafter Total 12/31/03
RATE-SENSITIVE ASSETS
Variable interest rate loans $ 51,454 $ 6,054 $ 908 $ 9,918 $ 4,666 $61,044 $ 134,044 $ 132,737
Average interest rate 4.02% 4.39% 3.74% 3.90% 3.94% 4.82% 4.39%
Fixed interest rate loans 8,034 2,254 8,840 15,602 24,399 33,119 92,248 93,174
Average interest rate 5.07% 6.90% 6.61% 6.33% 5.32% 5.66% 5.75%
Fixed interest rate securities - 2,055 1,061 3,399 8,036 9,583 24,134 24,134
Average interest rate -% 4.01% 4.10% 3.23% 2.81% 3.94% 3.45%
Other variable rate assets 25,289 - - - - - 25,289 25,289
Average interest rate 1.31% -% -% -% -% -% 1.31%
RATE-SENSITIVE LIABILITIES
Variable interest rate deposits - - - - - 106,789 106,789 106,167
Average interest rate -% -% -% -% -% .54% .54%
Fixed interest rate deposits 45,031 4,894 18,247 2,079 - - 70,251 71,244
Average interest rate 1.34% 3.04% 2.97% 5.20% -% -% 2.00%
Variable interest rate borrowings 6,484 - - - - 3,000 9,484 9,484
Average interest rate .32% -% -% -% -% 4.20% 1.55%
Fixed interest rate borrowings 4,780 9,740 7,000 4,500 2,000 18,500 46,520 47,006
Average interest rate 2.84% 4.16% 3.48% 4.06% 4.99% 5.31% 4.41%
MARKET RISK DISCLOSURE AT DECEMBER 31, 2002
(Dollars in thousands)
Fair Value
2003 2004 2005 2006 2007 Thereafter Total 12/31/02
RATE-SENSITIVE ASSETS
Variable interest rate loans $40,878 $ 6,499 $ 1,931 $ 1,023 $ 10,805 $ 45,188 $ 106,324 $ 107,436
Average interest rate 4.26% 4.25% 5.26% 4.15% 4.11% 5.44% 4.76%
Fixed interest rate loans 4,586 5,318 3,595 12,572 16,681 43,008 85,760 84,736
Average interest rate 5.02% 7.40% 7.22% 7.14% 6.53% 6.37% 6.54%
Fixed interest rate securities 4,054 1,037 6,196 5,185 9,510 12,598 38,580 38,580
Average interest rate 3.15% 3.42% 3.78% 4.42% 4.39% 4.33% 4.12%
Other variable rate assets 2,623 - - - - - 2,623 2,623
Average interest rate 5.96% -% -% -% -% -% 5.96%
RATE-SENSITIVE LIABILITIES
Variable interest rate deposits - - - - - 108,006 108,006 107,786
Average interest rate -% -% -% -% -% 1.06% 1.06%
Fixed interest rate deposits 34,033 754 2,064 775 2,066 - 39,692 40,431
Average interest rate 2.73% 4.33% 4.18% 4.89% 5.20% -% 3.01%
Variable interest rate borrowings 10,280 - - - - - 10,280 10,280
Average interest rate .98% -% -% -% -% -% .98%
Fixed interest rate borrowings 4,550 2,780 7,740 3,000 4,500 20,500 43,070 43,519
Average interest rate 4.52% 3.91% 4.63% 4.21% 4.10% 5.28% 4.79%
37
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements and notes related thereto are attached as
Exhibit 99.1 and incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On April 9, 2002, the Company dismissed Crowe Chizek and Company LLC as
its principal accountants. The former accountants' reports on the Registrant's
financial statements for the year ended December 31, 2001 did not contain any
adverse opinion or disclaimer of opinion nor were they qualified or modified as
to uncertainty, audit scope or accounting principles. The decision to change
accountants was recommended and approved by the Company's audit committee and by
its board of directors. During the year ended December 31, 2001 and subsequent
interim periods, preceding the dismissal, there were no disagreements with the
former accountants on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedure which
disagreements, if not resolved to the satisfaction of the former accountants,
would have caused them to make reference to the subject matter of the
disagreement in connection with their report. No "reportable events", as defined
in Item 304(a)(1)(v) of Regulation S-K of the Securities Exchange Act of 1934,
as amended, occurred during the year ended December 31, 2001 and any subsequent
interim periods preceding the former accountants dismissal.
On April 10, 2002, the Company engaged Plante & Moran PLLC as its
principal accountants to audit the financial statements for the years ending
December 31, 2002 and 2003. During 2001 or any subsequent interim period prior
to engaging the new accountants, the Company did not consult with the newly
engaged accountants regarding any of the matters described in Item 304(a)(2)(i)
or (ii) of Regulation S-K of the Securities Exchange Act of 1934, as amended.
ITEM 9A. CONTROLS AND PROCEDURES
An evaluation was performed under the supervision and with the
participation of the Company's management, including the Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures (as defined in Rule 13a-15(e)
promulgated under the Securities and Exchange Act of 1934, as amended) as of
December 31, 2003. Based on that evaluation, the Company's management, including
the Chief Executive Officer and Chief Financial Officer, concluded that the
Company's disclosure controls and procedures were effective. There have been no
significant changes in the Company's internal controls or in other factors that
could significantly affect internal controls
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information listed under the caption "Election of Directors" in the
Proxy Statement furnished to the Securities Exchange Commission is incorporated
by reference.
ITEM 11 EXECUTIVE COMPENSATION.
The information presented under the captions "Executive Officer
Compensation and Director Fees" in the Proxy Statement for the 2004 annual
meeting of stockholders furnished to the Securities Exchange Commission is
incorporated by reference.
38
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The table below sets forth the following information as of December 31,
2003 for St. Joseph Capital Corporation 1996 Stock Incentive Plan:
(a) the number of securities to be issued upon the exercise of
outstanding options, warrants and rights,
(b) the weighted-average exercise price of such outstanding options,
warrants and rights, and
(c) other than securities to be issued upon the exercise of such
outstanding options, warrants and rights, the number of securities
remaining available for future issuance under the plans.
EQUITY COMPENSATION PLAN INFORMATION
NUMBER OF SECURITIES WEIGHTED-AVERAGE
TO BE ISSUED UPON EXERCISE NUMBER OF SECURITIES
EXERCISE OF PRICE OF OUTSTANDING REMAINING AVAILABLE FOR
PLAN CATEGORY OUTSTANDING OPTIONS OPTIONS FUTURE ISSUANCE
------------- ------------------- ------- ---------------
Equity compensation plans
approved by security
holders...................... 275,819 $15.08 112,301
Equity compensation plans
not approved by security
holders...................... -0- -0- -0-
TOTAL........................ 275,819 $15.08 112,301
The information presented under the caption "Stock Ownership of Certain
Beneficial Owners" in the Proxy Statement for the 2004 annual meeting of
stockholders furnished to the Securities Exchange Commission is incorporated by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information listed under the caption "Transactions With Management"
in the Proxy Statement for the 2004 annual meeting of stockholders furnished to
the Securities Exchange Commission is incorporated by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The information listed under the caption "Independent
Auditors" in the Proxy Statement for the 2004 annual meeting of stockholders
furnished to the Securities Exchange Commission is incorporated by reference.
39
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
A. The following documents are filed as part of this report:
(a)(1) Exhibits
See exhibit index below.
(b) Reports on Form 8-K
A report on Form 8-K was filed on October 17, 2003 pursuant to
Item 5, which reported, in the form of a press release, the
resignation of two executive officers from the Company.
A report on Form 8-K was filed on October 24, 2003 pursuant to
Item 12, which reported, in the form of a press release, the
Company's financial results for the quarter ended September
30, 2003.
A report on Form 8-K was filed on January 23, 2004 pursuant to
Item 5, which reported, in the form of a press release, the
Company's declaration of a cash dividend and the appointment
of Mark Secor as the Company's new Chief Financial Officer and
the financial results for the quarter ended December 31, 2003.
40
ST. JOSEPH CAPITAL CORPORATION
EXHIBIT INDEX
INCORPORATED BY
EXHIBIT NO. DESCRIPTION OF EXHIBITS REFERENCE
- ----------- -------------------------------------------------------------------------------------------- ---------------
3.1 Certificate of Incorporation, as amended, of St. Joseph Capital Corporation *
3.2 Bylaws of St. Joseph Capital Corporation *
4.1 Specimen Common Stock Certificate of St. Joseph Capital Corporation (See also Articles IV, *
VI, VII, VIII, XI and XII of Exhibit 3.1 and Articles III, IX, X, XI and XII of Exhibit 3.2)
10.1 St. Joseph Capital Corporation 1996 Stock Incentive Plan *****
10.2 Stock Option Agreement between St. Joseph Capital Corporation and John W. Rosenthal, dated *
June 11, 1996
10.3 Employment Agreement between St. Joseph Capital and John W. Rosenthal, dated March 18, 1996 *
10.4 Amendment to the Employment Agreement between St. Joseph Capital Corporation and John W. ***
Rosenthal, dated March 18, 1996
10.5 St. Joseph Capital Bank 401(k) Plan **
10.6 Amendment to the Employment Agreement between St. Joseph Capital Corporation and John W. ****
Rosenthal, dated October 1, 2002
16.1 Letter Re: Change in Certifying Accountant 50
21.1 Subsidiary of St. Joseph Capital Corporation *
23.1 Consent of Plante & Moran, PLLC 44
23.2 Consent of Crowe Chizek and Company LLC 45
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer 46
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer 47
32.1 Section 1350 Certification of Chief Executive Officer 48
32.2 Section 1350 Certification of Chief Financial Officer 49
99.1 Financial Statements and Related Notes 51
* Incorporated by reference from the Registration Statement on Form SB-2
filed by the Corporation on June 21, 1996 (SEC File No. 333-06581), as
amended.
** Incorporated by reference from the Registration Statement on Form
S-8 filed by the Corporation on October 29, 1996 and amended on January
23, 1997 (SEC File No. 333-14999).
*** Incorporated by reference from the 1997 Form 10-KSB filed by the
Corporation on March 31, 1998.
**** Incorporated by reference from the 2002 Form 10-KSB filed by the
Corporation on March 24, 2003.
***** Incorporated by reference from the Form S-8 filed by the Corporation on
October 21, 2003.
41
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, as amended,
the Issuer caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized, on March 29, 2004.
ST. JOSEPH CAPITAL CORPORATION
By: /s/ John W. Rosenthal
John W. Rosenthal, Chief Executive Officer
and Chairman of the Board
By: /s/ Mark E. Secor
Mark E. Secor, Chief Financial Officer
and Secretary of the Board
42
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the Issuer and in the capacities noted
below and on March 29, 2004.
Signature Title
- -------------------------- -----------------------------------------------
/s/ John W. Rosenthal President, Chief Executive Officer and Chairman
John W. Rosenthal of the Board
/s/ Brian R. Brady Director
Brian R. Brady
/s/ Anna Reilly Cullinan Director
Anna Reilly Cullinan
/s/ David A. Eckrich Director
David A. Eckrich
/s/ Jeffrey V. Hammes Director
Jeffrey V. Hammes
/s/ Michael R. Leep, Sr. Director
Michael Leep, Sr.
/s/ Todd B. Martin Director
Todd B. Martin
/s/ Jack K. Matthys Director
Jack K. Matthys
/s/ Arthur H. McElwee, Jr. Director
Arthur H. McElwee, Jr.
/s/ Myron C. Noble Director
Myron C. Noble
/s/ Ben F. Ziolkowski Director
Ben F. Ziolkowski
43