UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
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x
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ANNUAL REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For the
Fiscal Year Ended December 31, 2008
or
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o
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TRANSITION REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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Commission
File Number 0-14412
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Farmers
Capital Bank Corporation
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(Exact
name of registrant as specified in its charter)
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Kentucky
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61-1017851
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(State
or other jurisdiction of
incorporation
or organization)
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(I.R.S.
Employer
Identification
Number)
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P.O.
Box 309, 202 West Main St.
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Frankfort,
Kentucky
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40601
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(Address
of principal executive offices)
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(Zip
Code)
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Registrant's
telephone number, including area code: (502) 227-1600
Securities
registered pursuant to Section 12(b) of the Act:
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Common
Stock - $.125 per share Par Value
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The
NASDAQ Global Select Market
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(Title
of each class)
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(Name
of each exchange on which
registered)
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Securities
registered pursuant to Section 12(g) of the Act:
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None
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(Title
of Class)
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Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.
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Yes
o
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No
x
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Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.
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Yes
o
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No
x
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Indicate
by check mark whether the registrant: (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.
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Yes
x
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No
o
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Indicate by check mark if disclosure of
delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this
chapter) 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.
o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer, or a smaller reporting company.
See the definitions of “large accelerated filer”, “accelerated filer” and
“smaller reporting company” in Rule 12b-2 of the Exchange Act.
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Large
accelerated filer o
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Accelerated
filer x
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Non-accelerated
filer o
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Smaller
reporting company o
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1
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act)
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Yes
o
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No
x
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The
aggregate market value of the registrant’s outstanding voting stock held by
non-affiliates on June 30, 2008 (the last business day of the registrant’s most
recently completed second fiscal quarter) was $120 million based on the closing
price per share of the registrant’s common stock reported on the
NASDAQ.
As of
March 9, 2009 there were 7,357,362 shares of common stock
outstanding.
Documents
incorporated by reference:
Portions
of the Registrant’s Proxy Statement relating to the Registrant’s 2009 Annual
Meeting of Shareholders are incorporated by reference into Part
III.
An index of exhibits filed with this Form 10-K can be
found on page 83.
2
FARMERS
CAPITAL BANK CORPORATION
FORM
10-K
INDEX
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Page
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Part
I
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4
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13
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16
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16
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17
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17
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Part
II
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17
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20
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21
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42
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43
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78
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78
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79
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Part
III
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79
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79
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79
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79
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80
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Part
IV
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80
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82
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83
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PART
I
3
The
disclosures set forth in this item are qualified by Item 1A (“Risk Factors”) beginning on page
13 and the section captioned “Forward-Looking Statements” in Item 7 (“Management’s Discussion and Analysis of Financial
Condition and Results of Operations”) on page 22 of this report and other
cautionary statements contain elsewhere in this report.
Farmers
Capital Bank Corporation (the “Registrant”, “Company”, or “Parent Company”) is a
financial holding company. The Registrant was originally formed as a
bank holding company under the Bank Holding Company Act of 1956, as amended, on
October 28, 1982 under the laws of the Commonwealth of
Kentucky. During 2000, the Federal Reserve Board granted the Company
financial holding company status (see discussion in “Supervision and Regulation”
section of this report beginning on page 8). The Company’s
subsidiaries provide a wide range of banking and bank-related services to
customers throughout Central and Northern Kentucky. The bank
subsidiaries owned by the Company include Farmers Bank & Capital Trust Co.
("Farmers Bank"), Frankfort, Kentucky; United Bank & Trust Co. ("United
Bank"), Versailles, Kentucky; The Lawrenceburg Bank and Trust Company
("Lawrenceburg Bank"), Lawrenceburg, Kentucky; First Citizens Bank (“First
Citizens”), Elizabethtown, Kentucky; and Citizens Bank of Northern Kentucky,
Inc. (“Citizens Northern”), Newport, Kentucky.
The
Company also owns FCB Services, Inc., ("FCB Services"), a nonbank data
processing subsidiary located in Frankfort, Kentucky; Kentucky General Life
Insurance Company, Inc., (“Kentucky General Life”), an inactive nonbank
insurance agency subsidiary located in Frankfort, Kentucky; Kentucky General
Holdings, LLC, (“Kentucky General”), in Frankfort, Kentucky, which holds a 50%
voting interest in KHL Holdings, LLC (KHL Holdings acquired a 100% interest in
Kentucky Home Life Insurance Company effective January 1, 2005); FFKT Insurance
Services, Inc., (“FFKT Insurance”), a captive property and casualty insurance
company in Frankfort, Kentucky; EKT Properties, Inc., established during 2008 to
manage and liquidate certain real estate properties repossessed by the Company;
and Farmers Capital Bank Trust I (“Trust I”), Farmers Capital Bank Trust II
(“Trust II”), and Farmers Capital Bank Trust III (“Trust III”), which are
unconsolidated trusts established to complete the private offering of trust
preferred securities.
The
Company provides a broad range of financial services to individuals,
corporations, and others through its 37 banking locations in 23 communities
throughout Central and Northern Kentucky. These services primarily
include the activities of lending and leasing, receiving deposits, providing
cash management services, safe deposit box rental, and trust
activities. While the chief decision-makers monitor the revenue
streams of the various products and services, operations are managed and
financial performance is evaluated on a Company-wide
basis. Operating segments are aggregated into one as operating
results for all segments are similar. Accordingly, all of the financial service
operations are considered by management to be aggregated in one reportable
operating segment. As of December 31, 2008, the Company had $2.2 billion in
consolidated assets.
Organization
Chart
Subsidiaries
of Farmers Capital Bank Corporation are indicated in the table that follows.
Percentages reflect the ownership interest held by the parent company of each of
the subsidiaries. Tier 2 subsidiaries are direct subsidiaries of Farmers Capital
Bank Corporation. Tier 3 subsidiaries are direct subsidiaries of the Tier 2
subsidiary listed immediately above them. Tier 4 subsidiaries are direct
subsidiaries of the Tier 3 subsidiary listed immediately above
them.
4
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Tier
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Entity
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1
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Farmers
Capital Bank Corporation, Frankfort, KY
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2
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United
Bank & Trust Co., Versailles, KY 100%
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3
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EGT
Properties, Inc., Georgetown, KY 100%
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4
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NUBT
Properties, LLC, Georgetown, KY 83%
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5
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Flowing
Creek Realty, LLC, Bloomfield, IN 67%
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2
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The
Lawrenceburg Bank and Trust Company, Lawrenceburg KY
100%
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2
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Farmers
Bank & Capital Trust Co., Frankfort, KY 100%
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3
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Farmers
Bank Realty Co., Frankfort, KY 100%
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3
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Leasing
One Corporation, Frankfort, KY 100%
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3
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EG
Properties, Inc., Frankfort, KY 100%
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3
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Austin
Park Apartments, LTD, Frankfort, KY 99%
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3
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FA
Properties, Inc., Frankfort, KY 100%
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3
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Frankfort
Apartments II, LTD, Frankfort, KY 99.9%
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3
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Farmers
Capital Insurance Corporation, Frankfort, KY 100%
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4
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Farmers
Fidelity Insurance Agency, LLP, Lexington, KY 50%
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2
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First
Citizens Bank, Elizabethtown, KY 100%
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2
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Citizens
Bank of Northern Kentucky, Inc., Newport, KY 100%
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3
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ENKY
Properties, Inc., Newport, KY 100%
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4
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NUBT
Properties, LLC, Georgetown, KY 17%
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5
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Flowing
Creek Realty, LLC, Bloomfield, IN 67%
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2
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FCB
Services, Inc., Frankfort, KY 100%
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2
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Kentucky
General Holdings, LLC, Frankfort, KY 100%
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3
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KHL
Holdings, LLC, Frankfort, KY 45% (equity), 50% (voting)
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4
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Kentucky
Home Life Insurance Company, Frankfort, KY 100%
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2
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FFKT
Insurance Services, Inc., Frankfort, KY 100%
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2
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Farmers
Capital Bank Trust I, Frankfort, KY 100%
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2
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Farmers
Capital Bank Trust II, Frankfort, KY 100%
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2
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Farmers
Capital Bank Trust III, Frankfort, KY 100%
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2
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EKT
Properties, Inc. Frankfort, KY (100%)
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2
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Kentucky
General Life Insurance Company, Frankfort, KY
(Inactive)
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5
Farmers
Bank and Subsidiaries
Farmers
Bank, originally organized in 1850, is a state chartered bank engaged in a wide
range of commercial and personal banking activities, which include accepting
savings, time and demand deposits; making secured and unsecured loans to
corporations, individuals and others; providing cash management services to
corporate and individual customers; issuing letters of credit; renting safe
deposit boxes; and providing funds transfer services. The bank's
lending activities include making commercial, construction, mortgage, and
personal loans and lines of credit. The bank serves as an agent in
providing credit card loans. It acts as trustee of personal trusts,
as executor of estates, as trustee for employee benefit trusts and as registrar,
transfer agent and paying agent for bond issues. Farmers Bank is the
general depository for the Commonwealth of Kentucky and has been for more than
70 years.
Farmers
Bank is the largest bank chartered in Franklin County. It conducts
business in its principal office and four branches within Frankfort, the capital
of Kentucky. Franklin County is a diverse community, including
government, commerce, finance, industry, medicine, education and
agriculture. The bank also serves many individuals and corporations
throughout Central Kentucky. On December 31, 2008, it had total
consolidated assets of $603 million, including loans net of unearned income of
$342 million. On the same date, total deposits were $434 million and
shareholders' equity totaled $38.7 million.
Farmers
Bank had seven active subsidiaries during 2008: Farmers Bank Realty
Co. ("Farmers Realty"), Leasing One Corporation ("Leasing One"), Farmers Capital
Insurance Corporation (“Farmers Insurance”), EG Properties, Inc. (“EG
Properties”), FA Properties, Inc. (“FA Properties”), Austin Park Apartments, LTD
(“Austin Park”), and Frankfort Apartments II, LTD (“Frankfort
Apartments”).
Farmers
Realty was incorporated in 1978 for the purpose of owning certain real estate
used by the Company and Farmers Bank in the ordinary course of
business. Farmers Realty had total assets of $3.4 million
on December 31, 2008.
Leasing
One was incorporated in August 1993 to operate as a commercial equipment leasing
company. It is located in Frankfort and is currently licensed to
conduct business in fourteen states. At year-end 2008, it had total
assets of $20.9 million, including leases net of unearned income of
$15.2 million.
Farmers
Insurance was organized in 1988 to engage in insurance activities permitted to
the Company under federal and state law. Farmers Bank capitalized
this corporation in December 1998. Farmers Insurance acts as an
agent for Commonwealth Land Title Co. At year-end 2008 it had total
assets of $646 thousand. Farmers Insurance holds a 50% interest in
Farmers Fidelity Insurance Company, LLP (“Farmers Fidelity”). The
Creech & Stafford Insurance Agency, Inc., an otherwise unrelated party to
the Company, also holds a 50% interest in Farmers Fidelity. Farmers Fidelity is
a direct writer of property and casualty coverage, both individual and
commercial.
In
November 2002 Farmers Bank incorporated EG Properties. EG Properties
is involved in real estate management and liquidation for certain properties
repossessed by Farmers Bank. It had total assets of $3.7 million at
December 31, 2008. In July 2008, Farmers Bank incorporated FA Properties, which
owns automobiles that are used by the Company and Farmers Bank in the ordinary
course of business. It had total assets of $296 thousand at year-end
2008.
Farmers
Bank is a limited partner in Austin Park and Frankfort Apartments, two low
income housing tax credit partnerships located in Frankfort,
Kentucky. These investments provide for federal income tax credits to
the Company. Farmers Bank’s aggregate investment in these
partnerships was $821 thousand at year-end 2008.
United
Bank and Subsidiaries
On
February 15, 1985, the Company acquired United Bank, a state chartered bank
originally organized in 1880. It is engaged in a general banking
business providing full service banking to individuals, businesses and
governmental customers. On November 1, 2008, the Company merged
Farmers Bank & Trust Company (“Farmers Georgetown”) and Citizens Bank of
Jessamine County (“Citizens Jessamine”) into United Bank. Each of these three
banks was previously wholly-owned subsidiaries of the Company. United Bank now
conducts business in its principal office and two branches in Woodford County,
Kentucky, four branches in Scott County, Kentucky, three branches in Fayette
County, Kentucky, and four branches in Jessamine County,
Kentucky. Based on deposits at its Woodford County locations, United
Bank is the second largest bank chartered in Woodford County with total
consolidated assets of $786 million and total deposits of $561 million at
December 31, 2008.
United
Bank operated two subsidiaries during 2008, EV Properties, Inc and EGT
Properties, Inc. EV Properties was dissolved on December 31, 2008. Before
its dissolution, EV Properties was involved in real estate management and
liquidation for certain properties repossessed by United Bank. EGT
Properties, which was created in March 2008 as a subsidiary of Farmers
Georgetown before its merger with United Bank, is involved in real estate
management and liquidation for certain repossessed properties of United
Bank. In addition, EGT Properties holds an 83% interest in NUBT
Properties, LLC (“NUBT”), the parent company of Flowing Creek Realty, LLC
(“Flowing Creek”). Flowing Creek holds real estate that has been repossessed by
multiple subsidiaries of the Company along with parties unrelated to the
Company. NUBT holds a 67% interest in Flowing Creek and unrelated financial
institutions hold the remaining 33% interest. EGT Properties had total assets of
$6.5 million at year-end 2008.
6
Lawrenceburg
Bank
On June
28, 1985, the Company acquired Lawrenceburg Bank, a state chartered bank
originally organized in 1885. It is engaged in a general banking
business providing full service banking to individuals, businesses and
governmental customers. During 1998, it moved its charter and main
office to Harrodsburg, Kentucky in Mercer County. In 2007, it changed from a
national to a state chartered bank and subsequently returned its charter
location back to Lawrenceburg. Lawrenceburg Bank conducts business at its main
office and one branch site in Anderson County, Kentucky, one branch in Mercer
County, Kentucky, and one branch in Boyle County, Kentucky. Based on
deposits at its Anderson County locations, Lawrenceburg Bank is the largest bank
chartered in Anderson County. Total assets were $239 million and
total deposits were $195 million at December 31, 2008.
First
Citizens
On March
31, 1986, the Company acquired First Citizens, a state chartered bank originally
organized in 1964. It is engaged in a general banking business
providing full service banking to individuals, businesses and governmental
customers. It conducts business at its main office and three branches in Hardin
County, Kentucky along with two branch offices in Bullitt County,
Kentucky. During 2003 First Citizens incorporated EH Properties,
Inc. This company was involved in real estate management and
liquidation for certain properties repossessed by First Citizens. EH
Properties was dissolved in January, 2007.
On
October 8, 2004, First Citizens acquired Financial National Electronic Transfer,
Inc. (“FiNET”), a data processing company that specializes in the processing of
federal benefit payments and military allotments and is headquartered in
Radcliff, Kentucky. Effective January 1, 2005 FiNET was merged into
First Citizens. These services are now operated using the name of
FirstNet.
On
November 2, 2006, First Citizens announced the signing of a definitive agreement
to acquire the military allotment operation of PNC Bank, National Association
based in Elizabethtown, Kentucky. The operation specializes in the processing of
data associated with military allotments and federal benefit payments. The
transaction was completed on January 12, 2007 and merged into First Citizens and
its FirstNet operations.
Based on
deposits at its Hardin County locations, First Citizens ranks third in size
compared to all banks chartered in Hardin County. Total assets were
$284 million and total deposits were $220 million at December 31,
2008.
Farmers
Georgetown
On June
30, 1986, the Company acquired Farmers Georgetown, a state chartered bank
originally organized in 1850. On November 1, 2008, the Company merged Farmers
Georgetown into United Bank. Prior to the merger with United Bank, Farmers
Georgetown was the largest bank chartered in Scott County, Kentucky with total
assets of $349 million and total deposits of $239 million.
Citizens
Northern
On
December 6, 2005, the Company acquired Citizens Bancorp, Inc. (“Citizens
Bancorp”) in Newport, Kentucky. Citizens Bancorp was subsequently
merged into Citizens Acquisition, a former bank holding company subsidiary of
the Company. During January 2007, Citizens Acquisition was merged into the
Company, leaving Citizens Northern as a direct subsidiary of the Company.
Citizens Northern is a state chartered bank organized in 1993 and is engaged in
a general banking business providing full service banking to individuals,
businesses, and governmental customers. It conducts business in its
principal office in Newport and four branches in Campbell County, Kentucky, one
branch in Boone County, Kentucky and two branches in Kenton County, Kentucky.
Based on deposits at its Campbell County locations, Citizens Northern ranks
second in size compared to all banks chartered in Campbell County. At
year-end 2008 it had total assets and deposits of $275 million and $191 million,
respectively. Citizens Financial Services, formerly an investment brokerage
subsidiary of Citizens Acquisition, was dissolved during 2006.
In March
2008 Citizens Northern incorporated ENKY Properties, Inc. (“ENKY”). ENKY was
established to manage and liquidate certain real estate properties repossessed
by Citizens Northern. At year-end 2008 it had total assets of $1.3
million.
Citizens
Jessamine
On
October 1, 2006, the Company acquired Citizens National Bancshares (“Citizens
Bancshares”), the former one-bank holding company of Citizens Jessamine.
Citizens Bancshares was subsequently merged into the Company, leaving Citizens
Jessamine as a direct subsidiary of the Company. Citizens Jessamine, organized
in 1996 as a national charter bank, was merged into United Bank on November 1,
2008. Prior to the merger with United Bank, Citizens Jessamine was
the largest bank chartered in Jessamine County, Kentucky with total assets of
$218 million and total deposits of $149 million.
Nonbank
Subsidiaries
FCB
Services, organized in 1992, provides data processing services and support for
the Company and its subsidiaries. It is located in Frankfort,
Kentucky. It also performs data processing services for nonaffiliated
entities. FCB Services had total assets of $4.0 million at December
31, 2008.
7
Kentucky
General was incorporated in November 2004 and holds a 50% voting interest in KHL
Holdings, LLC. Effective January 1, 2005 KHL Holdings, LLC purchased Kentucky
Home Life Insurance Company (“KHL”). KHL writes credit life and health insurance
in Kentucky. The remaining 50% voting interest in KHL Holdings, LLC is held by
Hamburg Insurance, LLC, an otherwise unrelated company. Kentucky General had
total assets of $2.3 million at December 31, 2008.
EKT was
created in September 2008 to manage and liquidate certain real estate properties
repossessed by the Company’s subsidiary banks. On December 31, 2008, EKT
had total assets of $4.0 million.
Kentucky
General Life was incorporated during 2000 to engage in insurance activities
permitted by federal and state law. This corporation has remained
inactive since its inception.
Trust I,
Trust II, and Trust III are each separate Delaware statutory business trusts
sponsored by the Company. The Company completed two private offerings
of trust preferred securities during 2005 through Trust I and Trust II totaling
$25.0 million. During 2007, the Company completed a private offering of trust
preferred securities totaling $22.5 million. The Company owns all of the common
securities of each of the Trusts. The Company does not consolidate the Trusts
into its financial statements.
FFKT
Insurance was incorporated during 2005. It is a captive property and casualty
insurance company insuring primarily deductible exposures and uncovered
liability related to properties of the Company. It had total assets of $2.9
million at December 31, 2008.
Lending
A
significant part of the Company’s operating activities include originating
loans, approximately 83% of which are secured by real estate at December 31,
2008. Real estate lending primarily includes loans secured by
non-owner and owner-occupied one-to-four family residential properties as well
as commercial real estate mortgage loans to developers and owners of other
commercial real estate. Real estate lending primarily includes both
variable and adjustable rate products. Loan rates on variable rate
loans generally adjust upward or downward immediately based on changes in the
loan’s index, normally prime rate as published in the Wall Street
Journal. Rates on adjustable rate loans move upward or downward after
an initial fixed term of normally one, three, or five years. Rate adjustments on
adjustable rate loans are made annually after the initial fixed term expires and
are indexed primarily to shorter-term Treasury indexes. Generally,
variable and adjustable rate loans contain provisions that cap the amount of
interest rate increases over the life of the loan of up to 600 basis points and
lifetime floors of 100 basis points. In addition to the lifetime caps and floors
on rate adjustments, loans secured by residential real estate typically contain
provisions that limit annual increases at a maximum of 100 basis points. There
is typically no annual limit applied to loans secured by commercial real
estate.
The
Company also makes fixed rate commercial real estate loans to a lesser extent
with repayment terms generally not exceeding 12 months. The Company’s
subsidiary banks make first and second residential mortgage loans secured by
real estate not to exceed 90% loan to value without seeking third party
guarantees. Commercial real estate loans are made primarily to small
and mid-sized businesses, secured by real estate not exceeding 80% loan to
value. Other commercial loans are asset based loans secured by
equipment and lines of credit secured by receivables and include lending across
a diverse range of business types.
Commercial
lending and real estate construction lending, including commercial
leasing, generally includes a higher degree of credit risk than other
loans, such as residential mortgage loans. Commercial loans, like
other loans, are evaluated at the time of approval to determine the adequacy of
repayment sources and collateral requirements. Collateral
requirements vary to some degree among borrowers and depend on the borrower’s
financial strength, the terms and amount of the loan, and collateral
available to secure the loan. Credit risk results from the decreased
ability or willingness to pay by a borrower. Credit risk also results
when a liquidation of collateral occurs and there is a shortfall in collateral
value as compared to a loans outstanding balance. For construction
loans, inaccurate initial estimates of a project’s costs and the property’s
completed value could weaken the Company’s position and lead to the property
having a value that is insufficient to satisfy full payment of the amount of
funds advanced for the property. Secured and unsecured consumer loans
generally are made for automobiles, boats, and other motor
vehicles. In most cases loans are restricted to the subsidiaries'
general market area.
Supervision
and Regulation
The
Company and its subsidiaries are subject to comprehensive supervision and
regulation that affect virtually all aspects of their operations. These laws and
regulations are primarily intended to protect depositors and borrowers and, to a
lesser extent, stockholders. Changes in applicable laws, regulations, or in the
policies of banking and other government regulators may have a material adverse
effect on our current or future business. The following summarizes certain of
the more important aspects of the relevant statutory and regulatory
provisions.
Supervisory
Authorities
The
Company is a financial holding company, registered with and regulated by the
Federal Reserve Board (“FRB”). All five of its subsidiary banks are Kentucky
state-chartered banks. Three of the Company’s subsidiary banks are members of
their regional Federal Reserve Bank. The Company and its subsidiary banks are
subject to supervision, regulation and examination by the Federal
Deposit
8
Insurance
Corporation (“FDIC”) and the Kentucky Office of Financial Institutions
(“Kentucky Office”). The regulatory authorities routinely examine the
Company and its subsidiary banks to monitor their compliance with laws and
regulations, financial condition, adequacy of capital and reserves, quality and
documentation of loans, payment of dividends, adequacy of systems and controls,
credit underwriting and asset liability management, and the establishment of
branches. The Company and its subsidiary banks are required to file regular
reports with the FRB, the FDIC and the Kentucky Office, as
applicable.
Capital
The FRB,
the FDIC, and the Kentucky Office require the Company and its subsidiary banks
to meet certain ratios of capital to assets in order to conduct their
activities. To be well-capitalized, the institutions must generally maintain a
Total Capital ratio of 10% or greater, a Tier 1 Capital ratio of 6% or greater,
and a leverage ratio of 5% or better. For the purposes of these tests, Tier 1
Capital consists of common equity and related surplus, retained earnings, and a
limited amount of qualifying preferred stock, less goodwill (net of certain
deferred tax liabilities) and certain core deposit intangibles. Tier 2 Capital
consists of non-qualifying preferred stock, certain types of debt and a limited
amount of other items. Total Capital is the sum of Tier 1 and Tier 2
Capital.
In
measuring the adequacy of capital, assets are generally weighted for risk.
Certain assets, such as cash and U.S. government securities, have a zero risk
weighting. Others, such as commercial and consumer loans, have a 100% risk
weighting. Risk weightings are also assigned for off-balance sheet items such as
loan commitments. The various items are multiplied by the appropriate
risk-weighting to determine risk-adjusted assets for the capital calculations.
For the leverage ratio mentioned above, assets are not
risk-weighted.
If the
institution fails to remain well-capitalized, it will be subject to a series of
restrictions that increase as the capital condition worsens. For instance,
federal law generally prohibits a depository institution from making any capital
distribution, including the payment of a dividend or paying any management fee
to its holding company, if the depository institution would be undercapitalized
as a result. Undercapitalized depository institutions may not accept brokered
deposits absent a waiver from the FDIC, are subject to growth limitations and
are required to submit a capital restoration plan for approval, which must be
guaranteed by the institution’s parent holding company. Significantly
undercapitalized depository institutions may be subject to a number of
requirements and restrictions, including orders to sell sufficient voting stock
to become adequately capitalized, requirements to reduce total assets, and
cessation of receipt of deposits from correspondent banks. Critically
undercapitalized institutions are subject to the appointment of a receiver or
conservator.
All of
the Company’s subsidiary banks exceed the minimum Tier 1, Total Capital and
leverage ratios and qualify as “well-capitalized” under current regulatory
criteria.
Expansion
and Activity Limitations
With
prior regulatory approval, the Company may acquire other banks or bank holding
companies and its subsidiaries may merge with other banks. Acquisitions of banks
located in other states may be subject to certain deposit-percentage, age or
other restrictions. In addition, as a financial holding company, the Company and
its subsidiaries are permitted to acquire or engage in activities such as
insurance underwriting, securities underwriting and distribution, travel agency
activities, broad insurance agency activities, merchant banking, and other
activities that the FRB determines to be financial in nature or complementary to
these activities. The Company has
subsidiaries that engage in some of these additional activities, including
insurance underwriting and distribution and other activities that are financial
in nature. The FRB normally requires some form of notice or application to
engage in or acquire companies engaged in such activities. Under the Bank
Holding Company Act and Gramm-Leach-Bliley Act, the Company is generally
prohibited from engaging in or acquiring direct or indirect control of more than
5% of the voting shares of any company engaged in activities other than those
referred to above.
Limitations
on Acquisitions of Bank Holding Companies
As a
general proposition, other companies seeking to acquire control of a financial
holding company such as the Company would require the approval of the FRB under
the Bank Holding Company Act. In addition, individuals or groups of individuals
seeking to acquire control of a financial holding company such as the Company
would need to file a prior notice with the FRB (which the FRB may disapprove
under certain circumstances) under the Change in Bank Control Act. Control is
conclusively presumed to exist if an individual or company acquires 25% or more
of any class of voting securities of the bank holding company. Control may exist
under the Change in Bank Control Act if the individual or company acquires 10%
or more of any class of voting securities of the bank holding company and no
shareholder holds a larger percentage of the subject class of voting
securities.
Deposit
Insurance
All of
the Company’s subsidiary banks are members of the FDIC, and their deposits are
insured by the FDIC’s Deposit Insurance Fund up to the amount permitted by law.
The Company’s subsidiary banks are thus subject to FDIC deposit insurance
assessments. The FDIC utilizes a risk-based assessment system that imposes
insurance premiums based upon a risk matrix that takes into account a bank’s
capital level and supervisory rating. Under the Federal Deposit Insurance Reform
Act of 2005, which became law in 2006, the
9
Company
received a one-time assessment credit of $1.2 million that can be applied
against future premiums, subject to certain limitations. Based on the one-time
assessment credit, the Company was not required to pay any deposit insurance
premiums in 2006 and unused credits from 2006 limited the amount of deposit
insurance premiums to $55 thousand for 2007. Lower credits remained to offset
assessments for 2008, which was the primary factor in higher deposit insurance
net assessments of $1.5 million. Financing Corporation (“FICO”) assessment costs
were $227 thousand for 2008. FICO is a mixed-ownership government corporation
established by the Competitive Equality Banking Act of 1987 possessing
assessment powers in addition to the FDIC. The FDIC acts as a collection agent
for FICO, whose sole purpose was to function as a financing vehicle for the now
defunct Federal Savings & Loan Insurance Corporation.
The
Company’s participation in the FDIC’s Transaction Account Guarantee Program
initiated during the fourth quarter of 2008 also contributed to an increase in
deposit insurance premiums in the current period. More information about this
program can be found under the heading “Temporary Liquidity Guarantee Program”
that follows. During the fourth quarter of 2008 the FDIC increased the deposit
insurance from generally $100 thousand for each separately insured depositor to
$250 thousand effective until December 31, 2009.
In
February 2009, the FDIC adopted a long-term deposit insurance fund (“DIF”)
restoration plan as well as an additional emergency assessment for 2009. The
restoration plan increases base assessment rates for banks in all risk
categories with the goal of raising the DIF reserve ratio from its current .40%
to 1.15% within seven years. Banks in the best risk category, which include the
Company’s subsidiary banks, will pay initial base rates ranging from 12 to 16
basis points of assessable deposits beginning April 1, 2009, up from the initial
base rate range of 12 to 14 basis points. Additionally, the FDIC approved an
interim rule imposing a special emergency assessment to all financial
institutions of 20 basis points of insured deposits as of June 30, 2009. The
interim rule is subject to a 30-day comment period and in early March 2009 a
proposal was introduced in Congress to lower the special emergency assessment to
10 basis points from the initial 20 basis points. The special emergency
assessment is estimated to be $3.3 million for the Company as currently adopted
under the 20 basis point rule and will be collected on September 30, 2009. The
amount of the special emergency assessment would decrease to $1.6 million if the
10 basis point scenario is adopted. The FDIC is also permitted to impose an
emergency special assessment after June 30, 2009 of up to 10 basis points if
necessary to maintain public confidence in federal deposit insurance. The
increase in assessments by the FDIC could have a material adverse effect on the
Company’s earnings.
Other
Statutes and Regulations
The
Company and its subsidiary banks are subject to a myriad of other statutes and
regulations affecting their activities. Some of the more important
are:
Anti-Money
Laundering.
Financial institutions are required to establish anti-money laundering programs
that must include the development of internal policies, procedures, and
controls; the designation of a compliance officer; an ongoing employee training
program; and an independent audit function to test the performance of the
programs. The Company and its subsidiary banks are also subject to prohibitions
against specified financial transactions and account relationships as well as
enhanced due diligence and “know your customer” standards in their dealings with
foreign financial institutions and foreign customers. Financial
institutions must take reasonable steps to conduct enhanced scrutiny of account
relationships in order to guard against money laundering and to report any
suspicious transactions. Recent laws provide the law enforcement authorities
with increased access to financial information maintained by banks.
Sections
23A and 23B of the Federal Reserve Act. The Company’s subsidiary
banks are limited in their ability to lend funds or engage in transactions with
the Company or other non-bank affiliates of the Company, and all transactions
must be on an arms’-length basis and on terms at least as favorable to the
subsidiary bank as prevailing at the time for transactions with unaffiliated
companies.
Dividends. The Parent Company’s
principal source of cash flow, including cash flow to pay dividends to its
shareholders, is the dividends that it receives from its subsidiary banks.
Statutory and regulatory limitations apply to the subsidiary banks’ payments of
dividends to the Parent Company as well as to the Parent Company’s payment of
dividends to its shareholders. A depository institution may not pay any dividend
if payment would cause it to become undercapitalized or if it already is
undercapitalized. The federal banking agencies may prevent the payment of a
dividend if they determine that the payment would be an unsafe and unsound
banking practice. Moreover, the federal agencies have issued policy statements
that provide that financial holding companies and insured banks should generally
only pay dividends out of current operating earnings.
Participation
in the Capital Purchase Program (“CPP”) beginning in the first quarter of 2009
includes certain restrictions on the Company’s ability to pay dividends to its
common shareholders. The Company is unable to declare dividend payments on
shares of its common stock if it is in arrears on the dividends on its Series A
Preferred Stock issued in connection with its participation in the CPP.
Additionally, until January 9, 2012 the Company must have approval from the U.S.
Treasury (“Treasury”) before it can increase dividends on its common stock above
the last quarterly cash dividend per share it declared prior to October 14,
2008, which was $.33 per share. This restriction no longer applies if all of the
Series A Preferred Stock has been redeemed by the Company or transferred by
10
the
Treasury. Additional information about the CPP can be found under the caption
titled “Emergency Economic Stabilization Act of 2008 (“EESA”)"
that follows.
Community
Reinvestment Act. The Company’s subsidiary
banks are subject to the provisions of the Community Reinvestment Act of 1977
(“CRA”), as amended, and the federal banking agencies’ related regulations,
stating that all banks have a continuing and affirmative obligation, consistent
with safe and sound operations, to help meet the credit needs for their entire
communities, including low and moderate-income neighborhoods. The CRA requires a
depository institution’s primary federal regulator, in connection with its
examination of the institution or its evaluation of certain regulatory
applications, to assess the institution’s record in assessing and meeting the
credit needs of the community served by that institution, including low and
moderate-income neighborhoods. The regulatory agency’s assessment of the
institution’s record is made available to the public.
Insurance
Regulation. The Company’s subsidiaries that underwrite or sell
insurance products are subject to regulation by the Kentucky Department of
Insurance.
Consumer
Regulation. The activities
of the Company and its bank subsidiaries are subject to a variety of statutes
and regulations designed to protect consumers. These laws and
regulations:
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limit
the interest and other charges collected or contracted for by all of the
Company’s subsidiary banks;
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govern
disclosures of credit terms to consumer
borrowers;
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require
financial institutions to provide information to enable the public and
public officials to determine whether a financial institution is
fulfilling its obligation to help meet the housing needs of the community
it serves;
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prohibit
discrimination on the basis of race, creed, or other prohibited factors in
extending credit;
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require
all of the Company’s subsidiary banks to safeguard the personal non-public
information of its customers, provide annual notices to consumers
regarding the usage and sharing of such information and limit disclosure
of such information to third parties except under specific circumstances;
and
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govern
the manner in which consumer debts may be collected by collection
agencies.
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The
deposit operations of the Company’s subsidiary banks are also subject to laws
and regulations that:
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require
disclosure of the interest rate and other terms of consumer deposit
accounts;
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impose
a duty to maintain the confidentiality of consumer financial records and
prescribe procedures for complying with administrative subpoenas of
financial records; and
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govern
automatic deposits to and withdrawals from deposit accounts and customers’
rights and liabilities arising from the use of automated teller machines
and other electronic banking
services.
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Emergency Economic Stabilization Act of 2008 (“EESA”). EESA
was signed into law by the President on October 3, 2008 as a measure to
stabilize and provide liquidity to the U.S. financial markets. Under EESA, the
Troubled Asset Relief Program (“TARP”) was created. TARP granted the Treasury
authority to, among other things, invest in financial institutions and purchase
troubled assets in an aggregate amount up to $700 billion.
In
connection with TARP, the CPP was launched on October 14, 2008. Under the CPP,
the Treasury announced a plan to use up to $250 billion of TARP funds to
purchase equity stakes in certain eligible financial institutions, including the
Company. The Company was preliminarily approved for $30 million of equity
capital in December 2008 with the transaction closing in January 2009. In the
transaction, the Company issued 30 thousand shares of fixed-rate cumulative
perpetual preferred stock to the Treasury. The Company must pay a 5% cumulative
dividend during the first five years the preferred shares are outstanding,
resetting to 9% thereafter if not redeemed, and includes certain restrictions on
dividend payments of lower ranking equity. Under original terms, the Company
could not redeem the preferred shares during the first three years after
issuance except with the proceeds from a qualified equity offering as defined in
the agreement. Subsequent regulations from Treasury allow CPP participants to
now redeem the preferred shares at any time. As conditions relating to CPP
evolve, Treasury will likely issue additional regulations as permitted under the
program.
As
required by the CPP, the Company also issued warrants to the Treasury to
purchase common shares equal to 15% of the value of the preferred stock, with
the number of warrants and exercise price determined based on the 20-day average
closing price of the
11
common
shares ending on the day prior to preliminary approval. The warrants allow the
U.S. Treasury to purchase 223,992 shares of Company common stock at an exercise
price of $20.09 per share. Both the preferred shares and warrants will be
accounted for as additions to the Company’s regulatory capital. On a December
31, 2008 pro forma basis, the additional capital from the CPP increased the
Company’s Tier 1 capital ratio by approximately 210 basis points to 13.4% from
11.3%.
Temporary
Liquidity Guarantee Program (“TLGP”). The TLGP consists of two separate
programs implemented by the FDIC in October 2008. This includes the Debt
Guarantee Program (“DGP”) and the Transaction Account Guarantee Program
(“TAGP”). These programs were initially provided at no cost to participants
during the first 30 days. Eligible institutions that do not “opt out” of either
of these programs become participants by default and will incur the fees
assessed for taking part.
Under the
DGP, the FDIC will guarantee senior unsecured debt issued on or after October
14, 2008 through June 30, 2009 up to certain limits by participating entities.
The FDIC will provide guarantee coverage for debt issued between those dates
until the earlier of the maturity date of the debt or June 30, 2012. The Company
chose to opt out of the DGP.
Under the
TAGP, the FDIC guarantees 100% of certain noninterest bearing transaction
accounts up to any amount to participating FDIC insured institutions. The
unlimited coverage is applicable until December 31, 2009. The Company opted to
participate in the TAGP; as such, it will incur an additional quarterly-assessed
10 basis point fee on balances in noninterest bearing transaction accounts
exceeding the recently increased $250 thousand deposit limit that became
effective on November 13, 2008. The previous deposit insurance limit amount was
$100 thousand.
References
under the caption “Supervision and Regulation” to applicable statutes and
regulations are brief summaries of portions thereof which do not purport to be
complete and which are qualified in their entirety by reference
thereto.
Competition
The
Company and its subsidiaries face vigorous competition for banking
services from various types of businesses other than commercial banks and
savings and loan associations. These include, but are not limited to,
credit unions, mortgage lenders, finance companies, insurance companies, stock
and bond brokers, financial planning firms, and department stores which compete
for one or more lines of banking business. The Company also competes
for commercial and retail business not only with banks in Central and Northern
Kentucky, but with banking organizations from Ohio, Indiana, Tennessee,
Pennsylvania, and North Carolina which have banking subsidiaries located in
Kentucky. These competing businesses may possess greater resources
and offer a greater number of branch locations, higher lending limits, and may
offer other services not provided by the Company. In addition, the Company’s
competitors that are not depository institutions are generally not subject to
the extensive regulations that apply to the Company and its subsidiary banks.
The Company has attempted to offset some of the advantages of its competitors by
arranging participations with other banks for loans above its legal lending
limits, expanding into additional markets and product lines, and entering into
third party arrangements to better compete for its targeted customer base.
Competition from other providers of financial services may reduce or limit the
Company’s profitability and market share.
The
Company competes primarily on the basis of quality of services, interest rates
and fees charged on loans, and the rates of interest paid on deposit
funds. The business of the Company is not dependent upon any one customer
or on a few customers, and the loss of any one or a few customers would not have
a material adverse effect on the Company.
No
material portion of the business of the Company is seasonal. No material portion
of the business of the Company is subject to renegotiation of profits or
termination of contracts or subcontracts at the election of the government,
though certain contracts are subject to such renegotiation or
termination.
The
Company is not engaged in operations in foreign countries.
Employees
As of
December 31, 2008, the Company and its subsidiaries had 579 full-time equivalent
employees. Employees are provided with a variety of employee benefits. A salary
savings plan, group life insurance, hospitalization, dental, and major medical
insurance along with postretirement health insurance benefits are available to
eligible personnel. Employees are not represented by a union.
Management and employee relations are good.
The
Company maintains a Stock Option Plan (“Plan”) that grants certain eligible
employees the option to purchase a limited number of the Company’s common stock.
The Plan specifies the conditions and terms that the grantee must meet in order
to exercise the options.
In 2004,
the Company’s Board of Directors adopted an Employee Stock Purchase Plan
(“ESPP”). The ESPP was subsequently approved by the Company’s shareholders and
became effective July 1, 2004. Under the ESPP, in the discretion of the Board of
Directors, employees of the Company and its subsidiaries can purchase Company
common stock at a discounted price and without
12
payment
of brokerage costs or other fees and in the process benefit from the favorable
tax treatment afforded such plans pursuant to Section 423 of the Internal
Revenue Code.
Available
Information
The
Company makes available, free of charge through its website
(www.farmerscapital.com), its Code of Ethics, its annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to
these reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Exchange Act as soon as reasonably practicable after electronically filing such
material with the SEC.
Investing
in the Company’s common stock is subject to risks inherent to the Company’s
business. The material risks and uncertainties that management believes affect
the Company are described below. Before making an investment decision, you
should carefully consider the risks and uncertainties described below together
with all of the other information included or incorporated by reference in this
report. The risks and uncertainties described below are not the only ones facing
the Company. Additional risks and uncertainties that management is not aware of
or focused on or that management currently deems immaterial may also impair the
Company’s business operations. This report is qualified in its entirety by these
risk factors.
If any of
the following risks actually occur, the Company’s financial condition and
results of operations could be materially and adversely affected. If this were
to happen, the market price of the Company’s common stock could decline
significantly, and shareholders could lose all or part of their
investment.
The
current economic environment exposes the Company to higher credit losses and
expenses and may result in lower earnings or increase the likelihood of
losses
Although
the Company remains well-capitalized, it is operating in a very challenging and
uncertain economic environment. Financial institutions, including the Company,
are being adversely effected by harsh economic conditions that have impacted not
only local markets, but on a national and global scale. Substantial
deterioration in real estate and other financial markets have and may continue
to adversely impact the Company’s financial performance. Continuing declines in
real estate values and home sales volumes, along with job losses and other
economic stresses can decrease the value of collateral securing loans extended
to borrowers, particularly that of real estate loans. Lower values of real
estate securing loans may make it more difficult for the Company to recover
amounts it is owed in event of default by a borrower.
The
current economic conditions may result in a higher degree of financial stress on
the Company’s borrowers and their customers which could impair the Company’s
ability to collect payments on loans, potentially increasing loan delinquencies,
nonperforming assets, foreclosures, and higher losses. Current market forces
have and may in the future cause the value of investment securities or other
assets held by the Company to deteriorate, resulting in impairment charges,
higher losses, and lower regulatory capital levels.
Current
levels of market volatility are unprecedented which could adversely impact the
Company’s results of operations, liquidity position, and access to additional
capital
The
capital and credit markets have experienced heavy volatility and disruptions
during the current year, with unprecedented levels of volatility and disruptions
taking place over the last few months. In some cases, markets have produced
downward pressure on stock prices and credit availability for certain issuers
without regard to those issuers’ underlying financial strength. If current
market disruptions and volatility continue or worsen, there can be no assurance
that the Company will not experience a material adverse effect on its results of
operations and liquidity position or on its ability to access additional
capital.
There
can be no assurance that recently enacted legislation and regulatory initiatives
will help stabilize the U.S. financial system
EESA was
signed into law by the President on October 3, 2008 as a measure to stabilize
and provide liquidity to the U.S. financial markets. This legislation provides
broad authority to the U.S. Treasury to invest directly in qualifying financial
institutions, increase FDIC deposit insurance coverage to $250 thousand for
interest bearing accounts, and other significant regulatory authority designed
to strengthen U.S. financial markets. There can be no assurance, however, that
any of the recently enacted legislation or regulatory initiatives or the
Company’s participation in such programs will have the desired effect. The
failure of EESA, FDIC, or other U.S. government initiatives to stabilize the
U.S. financial system and a continuing or worsening of financial market
conditions could have a material adverse effect on the Company results of
operations, financial condition, or access to credit.
Risks
associated with unpredictable economic and political conditions may be amplified
as a result of limited market area
Commercial
banks and other financial institutions, including the Company, are affected by
economic and political conditions, both domestic and international, and by
governmental monetary policies. Conditions such as inflation, value of the
dollar, recession, unemployment, high interest rates, short money supply, scarce
natural resources, international disorders, terrorism and other factors beyond
the Company’s control may adversely affect profitability. In addition, almost
all of the Company’s primary business area is located in Central and Northern
Kentucky. A significant downturn in this regional economy may result in, among
other things,
13
deterioration
in the Company’s credit quality or a reduced demand for credit and may harm the
financial stability of the Company’s customers. Due to the Company’s regional
market area, these negative conditions may have a more noticeable affect on the
Company than would be experienced by an institution with a larger, more diverse
market area.
Participation in the U. S. Treasury’s
Capital Purchase Program restricts the Company’s ability to declare or pay
dividends and repurchase Company stock
On
January 9, 2009, the Company sold directly to the Treasury for the aggregate
consideration of $30 million (1) 30,000 shares of Fixed Rate Cumulative
Perpetual Preferred Stock, Series A, no par value and liquidation preference
$1,000 per share (the “Series A Preferred Stock”) and (2) a warrant (the
“Warrant”) to purchase 223,992 shares of Company common stock. The
securities were issued pursuant to a letter agreement dated January 9, 2009 and
the Securities Purchase Agreement – Standard Terms attached thereto between the
Company and the Treasury (collectively, the “Purchase
Agreement”). Pursuant to the terms of the Purchase Agreement, the
Company’s ability to declare or pay dividends on any of its stock is
limited. Specifically, the Company is unable to declare dividend
payments on shares of common or junior preferred stock if it is in arrears on
the dividends on the Series A Preferred Stock. Similarly, dividends
on preferred stock that has the same liquidation and distribution preference as
the Series A Preferred Stock may only receive dividends pro rata with the Series
A Preferred Stock during any period in which dividends on the Series A Preferred
Stock are in arrears. Further, until January 9, 2012, the Company
must have the Treasury’s approval before it can increase dividends on its common
stock above the amount of the last quarterly cash dividend per share the Company
declared prior to October 14, 2008. This restriction no longer
applies if all the Series A Preferred Stock has been redeemed by the Company or
transferred by the Treasury. In addition, the Company’s ability to
repurchase its shares is restricted. Until January 9, 2012, the
Company generally must have the Treasury’s approval before it may repurchase any
of its shares of common stock, unless all of the Series A Preferred Stock has
been redeemed by the Company or transferred by the Treasury.
The
Company’s status as a holding company makes it dependent on dividends from its
subsidiaries to meet its obligations
The
Company is a financial holding company operating in a highly regulated industry
that conducts almost all of its operations through its subsidiaries. The Company
does not have any significant assets other than cash, company-owned life
insurance and the stock of its subsidiaries. Ordinarily, the Company depends
primarily on dividends from its subsidiaries to meet its obligations and obtain
revenue. The Company’s right to participate in any distribution of earnings or
assets of its subsidiaries is subject to the prior claims of creditors of such
subsidiaries. Under federal and state law, the Company’s bank subsidiaries are
limited in the amount of dividends they may pay to the Company without prior
regulatory approval. Also, bank regulators have the authority to prohibit the
subsidiary banks from paying dividends if the bank regulators determine the
payment would be an unsafe and unsound banking practice. However, due to its
participation in the CPP the Company does not anticipate collecting dividends
from its bank subsidiaries during 2009. This will effectively increase capital
at the bank subsidiary level as greater levels of earnings are
retained.
Interest
rate volatility could significantly harm the Company’s business
The
Company’s results of operations are affected by the monetary and fiscal policies
of the federal government and the regulatory policies of governmental
authorities. A significant component of the Company’s earnings is its net
interest income, which is the difference between the income from
interest-earning assets, such as loans, and the expense of interest-bearing
liabilities, such as deposits. A change in market interest rates could adversely
affect the Company’s earnings if market interest rates change such that the
interest the Company pays on deposits and borrowings increases faster than the
interest they collect on loans and investments; or, alternatively, since current
market interest rates are at historically low levels there is risk that interest
rates earned on earning assets will decline faster than those rates paid on
interest paying liabilities. Consequently, the Company, along with other
financial institutions generally, is sensitive to interest rate fluctuations. In
addition, it is increasingly common for competitors of the Company to pay rates
on deposits that are much higher than normal market rates in an effort to
attract deposits as a result of increased liquidity concerns stemming from
current economic conditions.
The
Company’s results of operations are significantly affected by the ability of its
borrowers to repay their loans
Lending
money is an essential part of the banking business. However, borrowers do not
always repay their loans. The risk of non-payment is affected by:
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unanticipated
declines in borrower income or cash
flow;
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changes
in economic and industry
conditions;
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the
duration of the loan; and
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in
the case of a collateralized loan, uncertainties as to the future value of
the collateral.
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Due to
the fact that the outstanding principal balances can be larger for commercial
loans than other types of loans, such loans present a greater risk to the
Company than other types of loans when non-payment by a borrower
occurs.
14
In
addition, consumer loans typically have shorter terms and lower balances with
higher yields compared to real estate mortgage loans, but generally carry higher
risks of frequency of default than real estate mortgage and commercial loans.
Consumer loan collections are dependent on the borrower’s continuing financial
stability, and thus are more likely to be affected by adverse personal
circumstances. Furthermore, the application of various federal and state laws,
including bankruptcy and insolvency laws, may limit the amount that can be
recovered on these loans.
The
Company’s financial condition and results of operations would be adversely
affected if its allowance for loan losses were not sufficient to absorb actual
losses
There is
no precise method of predicting loan losses. The Company can give no assurance
that the allowance for loan losses of its subsidiaries is or will be sufficient
to absorb actual loan losses. Excess loan losses could have a material adverse
effect on the Company’s financial condition and results of operations. Each of
the Company’s subsidiary banks attempts to maintain an appropriate allowance for
loan losses to provide for estimated losses in its loan portfolio, but there are
no guaranties actual future loan losses will not exceed these estimates and
allowances. Each subsidiary bank of the Company periodically determines the
amount of its allowance for loan losses based upon consideration of several
factors, including:
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a
regular review of the quality, mix and size of the overall loan
portfolio;
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historical
loan loss experience;
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evaluation
of non-performing loans;
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assessment
of economic conditions and their effects on the bank’s existing portfolio;
and
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the
amount and quality of collateral, including guarantees, securing
loans.
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Combining
a newly acquired bank or other business entity with the Company’s network of
banks may be more difficult, costly or time-consuming than expected
The
Company has generally operated newly acquired banks as independent bank
subsidiaries within the network of the Company’s existing banking subsidiaries.
Combining newly acquired banks or other entities within this network usually
involves converting certain data processing functions from their current format,
changing some of the policies and procedures in place, and other integration
issues. It is possible that integration processes could result in the
loss of key employees or disruption of each company’s ongoing business or
inconsistencies in standards, procedures and policies that would adversely
affect the Company’s ability to maintain relationships with clients and
employees or to achieve the anticipated benefits of a merger. If difficulties
with the integration processes occur, we might not achieve the economic benefits
we expect resulting from an acquisition. As with any merger of banking
institutions, there also may be business disruptions that cause a newly acquired
bank to lose customers or cause customers to take their deposits out of the bank
and move their business to other financial institutions.
Inability
to hire or retain certain key professionals, management and staff could
adversely affect revenues and net income
The
Company relies on key personnel to manage and operate its business, including
major revenue generating functions such as its loan and deposit portfolios. The
loss of key staff may adversely affect the Company’s ability to maintain and
manage these portfolios effectively, which could negatively affect our revenues.
In addition, loss of key personnel could result in increased recruiting and
hiring expenses, which could cause a decrease in our net income.
The
Company’s controls and procedures may fail or be circumvented
The
Company’s management regularly reviews and updates its internal controls,
disclosure controls and procedures, and corporate governance policies and
procedures. Any system of controls, however well-designed and operated, can
provide only reasonable, not absolute, assurances that the objectives of the
system of controls are met. Any failure or circumvention of the Company’s
controls and procedures or failure to comply with regulations related to
controls and procedures could have a material and adverse effect on the
Company’s business, results of operations, and financial condition.
Trading
volume in the Company’s common stock is less than that of other similar
companies
The
Company’s common stock is listed for trading on the NASDAQ Global Select Stock
Market. However, the trading volume of the Company’s common stock is less than
that of other similar companies. An efficient public trading market is dependent
upon the existence in the marketplace of willing buyers and willing sellers of
the Company’s common stock at any given time. This existence depends on
individual decisions of investors and general economic and market conditions
over which the Company has no control. Given the lower trading volume of the
Company’s common stock, larger sales volumes of the Company’s common stock could
cause the value of the Company’s common stock to decrease.
15
None.
The
Company, through its subsidiaries, owns or leases buildings that are used in the
normal course of business. The corporate headquarters is located at 202 W. Main
Street, Frankfort, Kentucky, in a building owned by the Company. The Company’s
subsidiaries own or lease various other offices in the counties and cities in
which they operate. See the Notes to
Consolidated Financial Statements contained in Item 8, Financial Statement
and Supplementary Data, of this Form 10-K for information with respect to the
amounts at which bank premises and equipment are carried and commitments under
long-term leases.
Unless
otherwise indicated, the properties listed below are owned by the Company and
its subsidiaries as of December 31, 2008.
Corporate
Headquarters
202 – 208
W. Main Street, Frankfort, KY
|
Banking
Offices
|
|
125
W. Main Street, Frankfort, KY
|
|
555
Versailles Road, Frankfort, KY
|
|
1401
Louisville Road, Frankfort, KY
|
|
154
Versailles Road, Frankfort, KY
|
|
1301
US 127 South, Frankfort, KY (leased)
|
|
200
E. Main Street, Georgetown, KY
|
|
100
Farmers Bank Drive, Georgetown, KY (leased)
|
|
100
N. Bradford Lane, Georgetown, KY
|
|
3285
Main Street, Stamping Ground, KY
|
|
2509
Sir Barton Way, Lexington, KY (leased)
|
|
548
Lewis Hargett, Suite 150, Lexington, KY (administrative
offices)
|
|
333
W. Vine Street, Suite 102, Lexington, KY (leased)
|
|
3098
Harrodsburg Road, Lexington, KY (leased)
|
|
100
United Bank Drive, Versailles, KY
|
|
Locust
& Green Streets, Versailles, KY
|
|
206
N. Gratz, Midway, KY
|
|
128
S. Main Street, Lawrenceburg, KY
|
|
West
Park Shopping Center, US 127 Bypass, Lawrenceburg, KY
|
|
838
N. College Street, Harrodsburg, KY
|
|
1035
Ben Ali Drive, Danville, KY (leased)
|
|
425
W. Dixie Avenue, Elizabethtown, KY
|
|
3030
Ring Road, Elizabethtown, KY
|
|
111
Towne Drive (Kroger Store) Elizabethtown, KY (leased)
|
|
645
S. Dixie Blvd., Radcliff, KY
|
|
4810
N. Preston Highway, Shepherdsville, KY
|
|
157
Eastbrooke Court, Mt. Washington, KY
|
|
103
Churchill Drive, Newport, KY
|
|
7300
Alexandria Pike, Alexandria, KY
|
|
164
Fairfield Avenue, Bellevue, KY
|
|
8730
US Highway 42, Florence, KY
|
|
34
N. Ft. Thomas Avenue, Ft. Thomas, KY (leased)
|
|
2911
Alexandria Pike, Highland Heights, KY (leased)
|
|
2006
Patriot Way, Independence, KY
|
|
2774
Town Center Blvd., Crestview Hills, KY (leased)
|
|
201
N. Main Street, Nicholasville, KY
|
|
995
S. Main Street (Kroger Store), Nicholasville, KY
(leased)
|
|
986
N. Main Street, Nicholasville, KY
|
|
106
S. Lexington Avenue, Wilmore,
KY
|
16
Data
Processing Center
102
Bypass Plaza, Frankfort, KY
Leasing
One Corporation & Farmers Capital Insurance Corporation
201 W.
Main Street, Frankfort, KY
The
Company considers its properties to be suitable and adequate based on its
present needs.
As of
December 31, 2008, there were various pending legal actions and proceedings
against the Company arising from the normal course of business and in which
claims for damages are asserted. Management, after discussion with
legal counsel, believes that these actions are without merit and that the
ultimate liability resulting from these legal actions and proceedings, if any,
will not have a material adverse effect upon the consolidated financial
statements of the Company.
No
matters were submitted during the fourth quarter of the fiscal year covered by
this report to a vote of security holders, through the solicitation of proxies
or otherwise.
PART
II
At
various times, the Company’s Board of Directors has authorized the purchase
shares of the Company’s outstanding common stock. No stated
expiration dates have been established under any of the previous authorizations.
There were no shares of common stock repurchased by the Company during the
quarter ended December 31, 2008. The maximum number of shares that may still be
purchased under previously announced repurchase plans is 84,971.
17
Performance
Graph
The
following graph sets forth a comparison of the five-year cumulative total
returns among the shares of Company Common Stock, the NASDAQ Composite Index
("broad market index") and Southeastern Banks under 1 Billion
Market-Capitalization ("peer group index"). Cumulative shareholder return is
computed by dividing the sum of the cumulative amount of dividends for the
measurement period and the difference between the share price at the end and the
beginning of the measurement period by the share price at the beginning of the
measurement period. The broad market index includes over 3,000 domestic and
international based common shares listed on The NASDAQ Stock Market. The peer
group index consists of 45 banking companies in the Southeastern United States.
The Company is among the 45 companies included in the peer group
index.
|
2003
|
2004
|
2005
|
2006
|
2007
|
2008
|
||||||||||||||||||
|
Farmers
Capital Bank Corporation
|
$ | 100.00 | $ | 125.80 | $ | 97.65 | $ | 114.88 | $ | 95.02 | $ | 90.48 | |||||||||||
|
NASDAQ
Composite
|
100.00 | 110.08 | 112.88 | 126.51 | 138.13 | 80.47 | |||||||||||||||||
|
Southeastern
Banks Under 1 Billion Market Capitalization
|
100.00 | 118.02 | 118.12 | 137.21 | 102.03 | 91.79 | |||||||||||||||||
18
Corporate
Address
The
headquarters of Farmers Capital Bank Corporation is located at:
202 West
Main Street
Frankfort,
Kentucky 40601
Direct
correspondence to:
Farmers
Capital Bank Corporation
P.O. Box
309
Frankfort,
Kentucky 40602-0309
Phone:
(502) 227-1668
www.farmerscapital.com
Annual
Meeting
The
annual meeting of shareholders of Farmers Capital Bank Corporation will be held
Tuesday, May 12, 2009 at 11:00 a.m. at the main office of Farmers Bank &
Capital Trust Co., Frankfort, Kentucky.
Form
10-K
For a
free copy of Farmers Capital Bank Corporation's Annual Report on Form 10-K filed
with the Securities and Exchange Commission, please write:
C.
Douglas Carpenter, Senior Vice President, Secretary, & Chief Financial
Officer
Farmers
Capital Bank Corporation
P.O. Box
309
Frankfort,
Kentucky 40602-0309
Phone: (502)
227-1668
Web
Site Access to Filings
All
reports filed electronically by the Company to the United States Securities and
Exchange Commission, including annual reports on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K, and all amendments to those reports, are
available at no cost on the Company’s Web site at www.farmerscapital.com.
|
NASDAQ
Market Makers
|
|
|
J.J.B.
Hilliard, W.L. Lyons, Inc.
|
Morgan,
Keegan and Company
|
|
(502)
588-8400
|
(800)
260-0280
|
|
(800)
444-1854
|
|
UBS
Securities, LLC
|
Howe
Barnes Investments, Inc.
|
|
(859)
269-6900
|
(800)
621-2364
|
|
(502)
589-4000
|
The
Transfer Agent and Registrar for Farmers Capital Bank Corporation is American
Stock Transfer & Trust Company.
American
Stock Transfer & Trust Company
Shareholder
Relations
59 Maiden
Lane - Plaza Level
New York,
NY 10038
PH: (800)
937-5449
Fax:
(718) 236-2641
Email:
Info@amstock.com
Website:
www.amstock.com
Additional
information is set forth under the captions “Shareholder Information” and “Stock Prices” on pages 41 and 42 under Part
II, Item 7 and Note 18 “Regulatory Matters”, in the
notes to the Company's 2008 audited consolidated financial statements on pages
70 and 71 of this Form 10-K and is hereby incorporated by
reference.
19
|
Selected
Financial Highlights
|
||||||||||||||||||||
|
December
31,
(In
thousands, except per share data)
|
2008
|
2007
|
2006
|
2005
|
2004
|
|||||||||||||||
|
Results
of Operations
|
|
|||||||||||||||||||
|
Interest
income
|
$
|
113,920 |
$
|
114,257 |
$
|
92,340 |
$
|
65,651 |
$
|
55,296 | ||||||||||
|
Interest
expense
|
55,130 | 56,039 | 41,432 | 24,409 | 16,729 | |||||||||||||||
|
Net
interest income
|
58,790 | 58,218 | 50,908 | 41,242 | 38,567 | |||||||||||||||
|
Provision
for loan losses
|
5,321 | 3,638 | 965 | 622 | 856 | |||||||||||||||
|
Noninterest
income
|
9,810 | 24,157 | 20,459 | 19,867 | 17,164 | |||||||||||||||
|
Noninterest
expense
|
60,098 | 58,823 | 53,377 | 42,164 | 38,812 | |||||||||||||||
|
Income
from continuing operations
|
4,395 | 15,627 | 13,665 | 14,532 | 13,064 | |||||||||||||||
|
Income
from discontinued operations1
|
7,707 | 1,240 | 328 | |||||||||||||||||
|
Net
income
|
4,395 | 15,627 | 21,372 | 15,772 | 13,392 | |||||||||||||||
|
Per
Share Data
|
||||||||||||||||||||
|
Basic:
|
||||||||||||||||||||
|
Income
from continuing operations
|
$
|
.60 |
$
|
2.03 |
$
|
1.82 |
$
|
2.13 |
$
|
1.94 | ||||||||||
|
Net
income
|
.60 | 2.03 | 2.85 | 2.31 | 1.99 | |||||||||||||||
|
Diluted:
|
||||||||||||||||||||
|
Income
from continuing operations
|
.60 | 2.03 | 1.82 | 2.12 | 1.93 | |||||||||||||||
|
Net
income
|
.60 | 2.03 | 2.84 | 2.30 | 1.98 | |||||||||||||||
|
Cash
dividends declared
|
1.32 | 1.32 | 1.43 | 1.32 | 1.32 | |||||||||||||||
|
Book
value
|
22.87 | 22.82 | 22.43 | 20.87 | 19.38 | |||||||||||||||
|
Selected
Ratios
|
||||||||||||||||||||
|
Percentage
of income from continuing operations to:
|
||||||||||||||||||||
|
Average
shareholders’ equity (ROE)
|
2.62 | % | 8.88 | % | 8.49 | % | 10.81 | % | 10.21 | % | ||||||||||
|
Average
total assets2
(ROA)
|
.21 | .83 | .85 | 1.10 | 1.07 | |||||||||||||||
|
Percentage
of dividends declared to income from continuing operations
|
220.96 | 64.52 | 78.89 | 61.67 | 68.10 | |||||||||||||||
|
Percentage
of average shareholders’ equity to average total assets2
|
7.86 | 9.33 | 10.04 | 10.19 | 10.45 | |||||||||||||||
|
Total
shareholders’ equity
|
$
|
168,296 |
$
|
168,491 |
$
|
177,063 |
$
|
154,236 |
$
|
131,450 | ||||||||||
|
Total
assets
|
2,202,167 |
|
2,068,247 | 1,825,108 | 1,673,943 | 1,399,896 | ||||||||||||||
|
Other
term borrowings and notes payable
|
335,661 | 316,309 | 87,992 | 75,291 | 51,265 | |||||||||||||||
|
Weighted
Average Shares Outstanding
|
||||||||||||||||||||
|
Basic
|
7,357 | 7,706 | 7,511 | 6,831 | 6,737 | |||||||||||||||
|
Diluted
|
7,357 | 7,706 | 7,526 | 6,864 | 6,780 | |||||||||||||||
1Includes
gain on disposals of $6,417 during 2006.
2Excludes
assets of discontinued operations.
20
Glossary
of Financial Terms
Allowance
for loan losses
A
valuation allowance to offset credit losses specifically identified in the loan
portfolio, as well as management’s best estimate of probable incurred losses in
the remainder of the portfolio at the balance sheet date. Management
estimates the allowance balance required using past loan loss experience, an
assessment of the financial condition of individual borrowers, a determination
of the value and adequacy of underlying collateral, the condition of the local
economy, an analysis of the levels and trends of the loan portfolio, and a
review of delinquent and classified loans. Actual losses could differ
significantly from the amounts estimated by management.
Dividend
payout
Cash
dividends paid on common shares, divided by net income.
Basis
points
Each
basis point is equal to one hundredth of one percent. Basis points
are calculated by multiplying percentage points times 100. For
example: 3.7 percentage points equals 370 basis points.
Interest
rate sensitivity
The
relationship between interest sensitive earning assets and interest bearing
liabilities.
Net
charge-offs
The
amount of total loans charged off net of recoveries of loans that have been
previously charged off.
Net
interest income
Total
interest income less total interest expense.
Net
interest margin
Taxable
equivalent net interest income expressed as a percentage of average earning
assets.
Net
interest spread
The
difference between the taxable equivalent yield on earning assets and the rate
paid on interest bearing funds.
Other
real estate owned
Real
estate not used for banking purposes. For example, real estate acquired through
foreclosure.
Provision
for loan losses
The
charge against current income needed to maintain an adequate allowance for loan
losses.
Return
on average assets (ROA)
Net
income divided by average total assets. Measures the relative profitability of
the resources utilized by the Company.
Return
on average equity (ROE)
Net
income divided by average shareholders’ equity. Measures the relative
profitability of the shareholders' investment in the Company.
Tax
equivalent basis (TE)
Income
from tax-exempt loans and investment securities have been increased by an amount
equivalent to the taxes that would have been paid if this income were taxable at
statutory rates. In order to provide comparisons of yields and margins for all
earning assets, the interest income earned on tax-exempt assets is increased to
make them fully equivalent to other taxable interest income
investments.
Weighted
average number of common shares outstanding
The
number of shares determined by relating (a) the portion of time within a
reporting period that common shares have been outstanding to (b) the total time
in that period.
21
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
The
following pages present management’s discussion and analysis of the consolidated
financial condition and results of operations of Farmers Capital Bank
Corporation (the “Company” or “Parent Company”), a financial holding company,
and its bank and nonbank subsidiaries. Bank subsidiaries include Farmers Bank
& Capital Trust Co. (“Farmers Bank”) in Frankfort, KY and its significant
wholly-owned subsidiaries Leasing One Corporation (“Leasing One”) and Farmers
Capital Insurance Corporation (“Farmers Insurance”). Leasing One is a commercial
leasing company in Frankfort, KY and Farmers Insurance is an insurance agency in
Frankfort, KY; First Citizens Bank in Elizabethtown, KY (“First Citizens”);
United Bank & Trust Co. in Versailles, KY which, during 2008, was the
surviving company after the merger with two sister companies of Farmers Bank and
Trust Company (“Farmers Georgetown”) and Citizens Bank of Jessamine County
(“Citizens Jessamine”); The Lawrenceburg Bank and Trust Company in Lawrenceburg,
KY; Kentucky Banking Centers, Inc. in Glasgow, KY (“KBC”), which was sold during
2006; and Citizens Bank of Northern Kentucky, Inc. in Newport, KY (“Citizens
Northern”).
The
Company has four active nonbank subsidiaries, FCB Services, Inc. (“FCB
Services”), Kentucky General Holdings, LLC (“Kentucky General”), FFKT Insurance
Services, Inc. (“FFKT Insurance”), and EKT Properties, Inc. (“EKT”). FCB
Services is a data processing subsidiary located in Frankfort, KY that provides
services to the Company’s banks as well as unaffiliated entities. Kentucky
General holds a 50% voting interest in KHL Holdings, LLC, which is the parent
company of Kentucky Home Life Insurance Company. FFKT Insurance is a captive
property and casualty insurance company insuring primarily deductible exposures
and uncovered liability related to properties of the Company. EKT was created in
2008 to manage and liquidate certain real estate properties repossessed by the
Company. In addition, the Company has three subsidiaries organized as Delaware
statutory trusts that are not consolidated into its financial statements. These
trusts were formed for the purpose of issuing trust preferred
securities.
For a
complete list of the Company’s subsidiaries, please refer to the discussion
under the heading “Organization” included in Part 1,
Item 1 of this Form 10-K. The following discussion should be read in conjunction
with the audited consolidated financial statements and related Notes that
follow.
Forward-Looking
Statements
This
report contains forward-looking statements under the Private Securities
Litigation Reform Act of 1995 that involve risks and
uncertainties. In general, forward-looking statements relate to a
discussion of future financial results or projections, future economic
performance, future operational plans and objectives, and statements regarding
the underlying assumptions of such statements. Although the Company
believes that the assumptions underlying the forward-looking statements
contained herein are reasonable, any of the assumptions could be inaccurate, and
therefore, there can be no assurance that the forward-looking statements
included herein will prove to be accurate. Factors that could cause actual
results to differ from the results discussed in the forward-looking statements
include, but are not limited to: economic conditions (both generally and more
specifically in the markets in which the Company and its subsidiaries operate)
and lower interest margins; competition for the Company’s customers from other
providers of financial services; deposit outflows or reduced demand for
financial services and loan products; government legislation, regulation, and
changes in monetary and fiscal policies (which changes from time to time and
over which the Company has no control); changes in interest rates; changes in
prepayment speeds of loans or investment securities; inflation; material
unforeseen changes in the liquidity, results of operations, or financial
condition of the Company’s customers; changes in the level of non-performing
assets and charge-offs; changes in the number of common shares outstanding; the
capability of the Company to successfully enter into a definitive agreement for
and close anticipated transactions; the possibility that acquired entities may
not perform as well as expected; unexpected claims or litigation against the
Company; technological or operational difficulties; the impact of new accounting
pronouncements and changes in policies and practices that may be adopted by
regulatory agencies; acts of war or terrorism; and other risks or uncertainties
detailed in the Company’s filings with the Securities and Exchange Commission,
all of which are difficult to predict and many of which are beyond the control
of the Company. The Company expressly disclaims any intent or
obligation to update any forward-looking statements after the date hereof to
conform such statements to actual results or to changes in the Company’s
opinions or expectations.
Discontinued
Operations
In June
2006, the Company announced that it had entered into a definitive agreement to
sell KBC, its former wholly-owned subsidiary based in Glasgow,
Kentucky. In addition, Farmers Georgetown entered into a definitive
agreement during August 2006 to sell its Owingsville and Sharpsburg branches in
Bath County (the “Branches”). These sales were completed during the
fourth quarter of 2006. Results prior to 2006 included herein have been
reclassified to conform to the 2006 presentation which displays the operating
results of KBC and the Branches as discontinued operations. These
reclassifications had no effect on net income or shareholders’
equity.
Application
of Critical Accounting Policies
The
Company’s audited consolidated financial statements are prepared in accordance
with accounting principles generally accepted in the United States of America
and follow general practices applicable to the banking industry. Application of
these principles requires management to make estimates, assumptions, and
judgments that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
22
reported
period. These estimates, assumptions, and judgments are based on information
available as of the date of the financial statements; accordingly, as this
information changes, the financial statements could reflect different estimates,
assumptions, and judgments. Certain policies inherently have a greater reliance
on the use of estimates, assumptions, and judgments and as such have a greater
possibility of producing results that could be materially different than
originally reported. Estimates, assumptions, and judgments are necessary when
assets and liabilities are required to be recorded at fair value, when a decline
in the value of an asset warrants an impairment write-down or valuation reserve
to be established, or when an asset or liability needs to be recorded contingent
upon a future event. Carrying assets and liabilities at fair value inherently
results in more financial statement volatility. The fair values and the
information used to record valuation adjustments for certain assets and
liabilities are based either on quoted market prices or are provided by other
third-party sources, when available. When third-party information is not
available, valuation adjustments are estimated in good faith by management
primarily through the use of internal cash flow modeling
techniques.
The most
significant accounting policies followed by the Company are presented in Note 1 of the Company’s 2008 audited consolidated financial
statements. These policies, along with the disclosures presented in the other
financial statement notes and in this management’s discussion and analysis of
financial condition and results of operations, provide information on how
significant assets and liabilities are valued in the financial statements and
how those values are determined. Based on the valuation techniques used and the
sensitivity of financial statement amounts to the methods, assumptions, and
estimates underlying those amounts, management has identified the determination
of the allowance for loan losses and accounting for business acquisitions to be
the accounting areas that requires the most subjective or complex judgments, and
as such could be most subject to revision as new information becomes
available.
The
allowance for loan losses represents credit losses specifically identified in
the loan portfolio, as well as management's estimate of probable incurred credit
losses in the loan portfolio at the balance sheet date. Determining the amount
of the allowance for loan losses and the related provision for loan losses is
considered a critical accounting estimate because it requires significant
judgment and the use of estimates related to the amount and timing of expected
future cash flows on impaired loans, estimated losses on pools of homogeneous
loans based on historical loss experience, and consideration of current economic
trends and conditions, all of which may be susceptible to significant change.
The loan portfolio also represents the largest asset group on the consolidated
balance sheets. Additional information related to the allowance for loan losses
that describes the methodology and risk factors can be found under the captions
“Asset Quality” and “Nonperforming Assets” in this management’s discussion and
analysis of financial condition and results of operation, as well as Notes 1 and
5 of the Company’s 2008 audited consolidated financial statements.
Prior to
the adoption of Statement of Financial Accounting Standards (“SFAS”) No. 141(R)
effective January 1, 2009, the Company accounted for business acquisitions as
purchases in accordance with SFAS No. 141. Under SFAS No. 141 the purchase price
is allocated to the tangible and intangible assets acquired and liabilities
assumed based on their estimated fair value. The excess of the purchase price
over estimated fair value of the net identifiable assets is allocated to
goodwill. The Company engages third-party appraisal firms to assist in
determining the fair values of certain assets acquired and liabilities assumed.
Determining fair value of assets and liabilities requires many assumptions and
estimates. These estimates and assumptions are sometimes refined subsequent to
the initial recording of the transaction with adjustments to goodwill as
information is gathered and final appraisals are completed. The changes in these
estimates could impact the amount of tangible and intangible assets (including
goodwill) and liabilities ultimately recorded on the Company’s balance sheet as
a result of an acquisition, and could impact the Company’s operating results
subsequent to such acquisition. The Company believes that its estimates have
been materially accurate in the past.
EXECUTIVE
LEVEL OVERVIEW
The
Company offers a variety of financial products and services at its 37 banking
locations in 23 communities throughout Central and Northern Kentucky. The most
significant products and services include consumer and commercial lending and
leasing, receiving deposits, providing trust services, and offering other
traditional banking products and services. The primary goals of the Company are
to continually improve profitability and shareholder value, maintain a strong
capital position, provide excellent service to our customers through our
community banking structure, and to provide a challenging and rewarding work
environment for our employees.
The
Company generates a significant amount of its revenue, cash flows, and net
income from interest income and net interest income,
respectively. Interest income is generated by earnings on the
Company’s earning assets, primarily loans and investment
securities. Net interest income is the excess of the interest income
earned on earning assets over the interest expense paid on amounts borrowed to
support those earning assets. Interest expense is paid primarily on
deposit accounts and other short and long-term borrowing
arrangements. The ability to properly manage net interest income
under changing market environments is crucial to the success of the
Company.
23
In
assessing the Company’s financial performance in this report, the following
items of note should be considered:
|
|
·
|
The
overall economic environment that began to show signs of weakness during
2007 deteriorated significantly in 2008, particularly in the third and
fourth quarters. Financial markets experienced widespread illiquidity and
unprecedented levels of volatility. Slower economic growth (including
negative GDP growth in the third and fourth quarters), declines in credit
availability, lower consumer confidence, increasing unemployment rates,
and lower corporate earnings all contributed to significant economic
challenges for the Company in 2008. As a result of the unprecedented
market conditions, U.S. government agencies, including the U.S. Department
of Treasury (“Treasury”), the Federal Reserve Board, and others, has
intervened by enacting broad legislation and regulatory initiatives
attempting to stabilize the U.S. financial system. Efforts include
injecting hundreds of billions of dollars into banks and other financial
services firms, lowering overnight targeted interest rates to near zero
percent, increasing deposit insurance coverage, and guaranteeing certain
debt, among other actions.
|
|
|
·
|
Housing
market declines, falling home prices, increasing foreclosures, and higher
unemployment have negatively impacted the credit quality and certain
collateral values of the Company’s real estate loan portfolio,
particularly in real estate development. This has resulted in higher
nonperforming assets and charge-offs and negatively impacted net interest
margin.
|
|
|
·
|
Extreme
market conditions and its placement into conservatorship led to a $14.0
million pre-tax impairment charge during the third quarter of the
Company’s aggregate investment in Federal National Mortgage Association
(“Fannie”) and Federal Home Loan Mortgage Corporation (“Freddie”,
collectively referred to as “GSE’s”) preferred stocks. The Company
subsequently sold its entire GSE holdings during the fourth quarter and
recorded an additional $766 thousand pre-tax loss.
|
|
|
·
|
During
the fourth quarter, the Company received preliminary approval from the
Treasury to receive $30 million of equity capital via the Treasury’s
Capital Purchase Program (“CPP”). Participation in the CPP will increase
the Company’s regulatory capital ratios, which are already in excess of
the “well capitalized” category, by approximately 200 basis points. The
transaction closed in the first quarter of
2009.
|
RESULTS
OF OPERATIONS
The
Company reported net income of $4.4 million or $.60 per share for the twelve
months ended December 31, 2008, a decrease of $11.2 million or $1.43 per share
compared to $15.6 million or $2.03 per share reported for the same twelve months
a year earlier. The results of the current year are driven mainly by a $14.7
million aggregate loss ($9.7 million after tax) on the Company’s investments in
preferred stock of Fannie and Freddie. The Company recorded a non-cash
other-than-temporary impairment (“OTTI”) charge of $14.0 million related to the
GSE’s in the third quarter following a sharp decline in value after the
announcement that the GSE’s were suspending dividend payments and being placed
into conservatorship by the Federal Housing Finance Agency. The rating agencies
also downgraded the preferred stocks of the GSE’s to below investment grade. The
Company had $1.1 million market value in GSE preferred stock following the
impairment charge at September 30, 2008 and subsequently sold its entire
holdings during the fourth quarter for a loss of $766 thousand.
Other
significant factors impacting net income in the yearly comparison include the
following:
|
|
§
|
Net
interest income increased $572 thousand or 1.0% as a result of a $909
thousand or 1.6% decrease in interest expense that outpaced a $337
thousand or .3% decrease in interest income. Net interest income for 2008
was helped by an additional $3.1 million attributed to the Company’s
leverage transaction that occurred during the fourth quarter of
2007.
|
|
|
§
|
The
provision for loan losses increased $1.7 million or 46.3% as the Company
increased its allowance for loan losses as a result of continued credit
deterioration. The allowance for loan losses was 1.28% of net loans at
year-end 2008, up from 1.10% a year earlier.
|
|
|
§
|
Excluding
investment securities related transactions, noninterest income was
relatively flat at $23.9 million for the current year compared to $24.2
million a year earlier.
|
|
|
§
|
Noninterest
expenses increased $1.3 million or 2.2%. Lower salary and benefit expenses
of $1.2 million attributed mainly to lower benefit costs were offset by
higher net other expenses of $2.5 million. Higher expenses occurred across
a broad range of line items, led by increases in FDIC deposit insurance
premiums and Financing Corporation (“FICO”) assessments of $812 thousand,
higher net expenses related to properties acquired through foreclosure of
$761 thousand, and data processing and communication expenses of $653
thousand.
|
24
|
§
|
Income
tax benefit was $1.2 million for the current twelve months compared to
income tax expense of $4.3 million in the prior year. The income tax
benefit recorded in the current year is due mainly to the impact of the
losses associated with the GSE preferred stock investments in the third
and fourth quarters of 2008.
|
Return on
assets (“ROA”) was .21% in 2008, a decrease of 62 basis points from .83% for the
prior year-end. The OTTI write-down and net interest margin contributed 65 basis
points and 39 basis points, respectively to lower ROA in the comparison. These
negative effects were partially offset by 31 basis points lower noninterest
expenses as a percentage of average assets and a benefit of 30 basis points
attributed to income taxes. The return on equity (“ROE”) decreased 626
basis points to 2.62% compared to 8.88% in the prior year. The lower ROE is
mainly a result of the $11.2 million or 72% decline in net income that was
influenced heavily by the OTTI write-down.
Interest
Income
Interest
income results from interest earned on earning assets, which primarily include
loans and investment securities. Interest income is affected by volume (average
balance), composition of earning assets, and the related rates earned on those
assets. Total interest income for 2008 was $114 million, a slight decrease of
$337 thousand or .3% from the previous year driven primarily by lower average
rates earned in a lower overall interest rate environment. Interest from
investment securities was up $10.3 million in the yearly comparison, nearly
offsetting an interest decrease from loans of $8.3 million or 8.8% and temporary
investments of $2.1 million or 64.0%. The Company’s tax equivalent yield on
earning assets for the current year was 6.2%, a decrease of 83 basis points
compared to 7.0% for the same period a year ago.
Interest
on taxable investment securities was $22.9 million for 2008, an increase of
$10.3 million or 81.3% compared to $12.6 million a year ago. The increase is
primarily driven by volume related to the Company’s $200 million balance sheet
leverage transaction that occurred during the fourth quarter of 2007. This
transaction added $11.9 million to interest income on taxable investment
securities in the current year compared to $1.5 million a year ago as the
transaction occurred near the end of 2007.
Interest
and fees earned on loans was $86.6 million for 2008, a decrease of $8.3 million
or 8.8% compared to $94.9 million a year earlier. The decline in interest and
fees on loans is due to a 94 basis point lower average rate earned, which more
than offset a $52.0 million or 4.2% rise in average loans outstanding in the
comparable period. New loans and variable rate loans adjusting during the
current year have generally repriced downward as the average interest rate
earned has declined. The tax equivalent yield on loans was 6.7% for 2008
compared to 7.7% for 2007.
Interest
Expense
Interest
expense results from incurring interest on interest bearing liabilities, which
primarily include interest bearing deposits, federal funds purchased, securities
sold under agreements to repurchase, and other short and long-term borrowed
funds. Interest expense is affected by volume, composition of interest bearing
liabilities, and the related rates paid on those liabilities. Total interest
expense was $55.1 million for 2008, a decrease of $909 thousand or 1.63%
compared to $56.0 million for the prior year. Interest expense decreased mainly
as a result of a lower average rate paid on interest bearing liabilities in an
overall lower interest rate environment. Interest expense on deposit accounts
and short-term borrowings declined $6.1 million or 13.5% and $2.7 million or
60.4%, respectively. These declines offset higher interest expense related to
long-term borrowings of $7.9 million. The Company’s average cost of funds was
3.2% for 2008, a decrease of 59 basis points from 3.8% for 2007. The
decrease in the average cost of funds was representative of rate declines
throughout much of the deposit portfolio and borrowed funds. The average rate
paid on time deposits, the largest component of interest bearing liabilities,
declined 58 basis points to 4.3% from 4.8% a year earlier.
The $6.1
million decrease in interest expense on deposits was led by a $2.4 million or
6.7% decrease related to time deposits. Interest expense on interest bearing
demand and savings deposits were $1.9 million or 51.0% and $1.8 million or 34.0%
lower in the current year compared to a year earlier. Overall, average interest
bearing deposits increased $59.2 million or 4.7%, led by higher average time
deposits of $44.6 million or 6.0%. Total interest expense on deposits decreased
$6.1 million mainly as a result of a 63 basis point lower average rate paid on
interest bearing deposits of 3.0% for 2008 compared to 3.6% for 2007. The 63
basis point lower average rate paid on interest bearing deposits more than
offset the $59.2 million higher average balance outstanding.
The $2.7
million decrease in interest expense on short-term borrowings is due mainly to a
lower average rate paid of 243 basis points and, to a lesser degree, a $16.0
million lower average balance outstanding. Interest expense on long-term
borrowings increased mainly due to the Company’s $200 million balance sheet
leverage transaction that occurred during the fourth quarter of 2007. This
transaction added $8.5 million to interest expense in 2008, $8.0 million of
which is attributed to long-term borrowings. The transaction added $1.1 million
of total interest expense during the prior year as the transaction occurred near
the end of 2007.
Net
Interest Income
Net
interest income is the most significant component of the Company’s earnings. Net
interest income is the excess of the interest income earned on earning assets
over the interest paid for funds to support those assets. The two most common
metrics used to analyze
25
net
interest income are net interest spread and net interest margin. Net
interest spread represents the difference between the yields on earning assets
and the rates paid on interest bearing liabilities. Net interest
margin represents the percentage of net interest income to average earning
assets. Net interest margin will exceed net interest spread because
of the existence of noninterest bearing sources of funds, principally demand
deposits and shareholders’ equity, which are also available to fund earning
assets. Changes in net interest income and margin result from the
interaction between the volume and the composition of earning assets, their
related yields, and the associated cost and composition of the interest bearing
liabilities. Accordingly, portfolio size, composition, and the related yields
earned and the average rates paid can have a significant impact on net interest
spread and margin. The table on the following page represents the major
components of interest earning assets and interest bearing liabilities on a tax
equivalent basis. To compare the tax-exempt asset yields to taxable
yields, amounts are adjusted to pretax equivalents based on the marginal
corporate Federal tax rate of 35%.
Tax
equivalent net interest income was $61.1 million for 2008, an increase of $585
thousand or 1.0% compared to $60.5 million for 2007. The net interest margin was
3.3%, a decrease of 39 basis points from 3.6% in the prior year. Net interest
spread accounted for 24 basis points of the lower net interest margin and was
3.0% for 2008 compared to 3.2% a year earlier. The impact of noninterest bearing
sources of funds negatively impacted net interest margin by an additional 15
basis points in the comparison. The effect of noninterest bearing
sources of funds on net interest margin typically decreases as the average
cost of funds declines.
During
2008, the Company’s tax equivalent yield on total earning assets was 6.2%, down
83 basis points from 7.0% for 2007. The average cost of funds was 3.2%, a
decrease of 59 basis points compared to 3.8% for 2007. This resulted in a net
interest spread of 3.0% and 3.2% for year-ends 2008 and 2007 as indicated above.
Although the overall yield on earning assets decreased more than the overall
decrease in the average cost of funds, net interest income increased mainly
because of the $200 million leverage transaction the Company entered into during
the fourth quarter of 2007.
The
Company remains proactive in management of the rate sensitive components of both
its assets and liabilities in a volatile market environment. This task continues
to be challenging and has been even more difficult following the extreme market
disruptions and economic downturn in 2008. Competition in the Company’s market
areas continues to be intense. The overall interest rate environment remains low
by historical measures. After gradual increases in the targeted short-term
federal funds rate during 2005 and 2006, the Fed began lowering this rate toward
the end of 2007 as weakening economic conditions began to mount and credit
markets began to tighten. The federal funds rate, which peaked during 2007 at
5.25%, was dropped sharply near the beginning of 2008 and by year-end 2008 stood
at near zero percent.
The prime
interest rate, which has a significant impact on the Company’s interest income
on loans, moved in a manner similar to that of the federal funds rate. The prime
rate ended 2008 at 3.25%, falling 400 basis points from 7.25% at year-end 2007.
Predicting the movement of future interest rates is uncertain. During 2008, the
average rates for two of the most significant components of net interest income
for the Company, loans and time deposits, both declined. As previously noted,
the average rate earned on the Company’s loan portfolio declined 94 basis points
to 6.7% during 2008. The average rate paid on time deposits decreased 58 basis
points to 4.3% in the year-to-year comparison. Should interest rates on the
Company’s earning assets and interest paying liabilities reprice lower, the
Company’s yield on earning assets could potentially decrease faster than its
cost of funds. Should interest rates reprice higher, the Company’s cost of funds
may also increase and could continue to increase faster than the yields on
earning assets, resulting in a lower net interest margin.
26
Distribution
of Assets, Liabilities and Shareholders’ Equity: Interest Rates and Interest
Differential
|
Years
Ended December 31,
|
2008
|
2007
|
2006
|
|||||||||||||||||||||||||||||||||
|
Average
|
Average
|
Average
|
Average
|
Average
|
Average
|
|||||||||||||||||||||||||||||||
|
(In
thousands)
|
Balance
|
Interest
|
Rate
|
Balance
|
Interest
|
Rate
|
Balance
|
Interest
|
Rate
|
|||||||||||||||||||||||||||
|
Earning
Assets
|
||||||||||||||||||||||||||||||||||||
|
Investment
securities
|
||||||||||||||||||||||||||||||||||||
|
Taxable
|
$ | 425,206 | $ | 22,894 | 5.38 | % | $ | 253,423 | $ | 12,627 | 4.98 | % | $ | 212,357 | $ | 9,025 | 4.25 | % | ||||||||||||||||||
|
Nontaxable1
|
86,784 | 4,653 | 5.36 | 88,501 | 4,794 | 5.42 | 91,413 | 5,278 | 5.77 | |||||||||||||||||||||||||||
|
Time
deposits with banks, federal funds sold and securities purchased under
agreements to resell
|
65,477 | 1,199 | 1.83 | 70,062 | 3,333 | 4.76 | 62,378 | 2,355 | 3.78 | |||||||||||||||||||||||||||
|
Loans
1,2,3
|
1,302,394 | 87,509 | 6.72 | 1,250,423 | 95,825 | 7.66 | 1,051,002 | 77,836 | 7.41 | |||||||||||||||||||||||||||
|
Total
earning assets
|
1,879,861 | $ | 116,255 | 6.18 | % | 1,662,409 | $ | 116,579 | 7.01 | % | 1,417,150 | $ | 94,494 | 6.67 | % | |||||||||||||||||||||
|
Allowance
for loan losses
|
(14,757 | ) | (11,486 | ) | (11,094 | ) | ||||||||||||||||||||||||||||||
|
Total
earning assets, net of allowance for
loan losses
|
1,865,104 | 1,650,923 | 1,406,056 | |||||||||||||||||||||||||||||||||
|
Nonearning
Assets
|
||||||||||||||||||||||||||||||||||||
|
Cash
and due from banks
|
72,373 | 78,810 | 77,509 | |||||||||||||||||||||||||||||||||
|
Premises
and equipment, net
|
40,649 | 38,860 | 32,029 | |||||||||||||||||||||||||||||||||
|
Other
assets
|
159,228 | 117,459 | 88,044 | |||||||||||||||||||||||||||||||||
|
Assets
of discontinued operations
|
129,827 | |||||||||||||||||||||||||||||||||||
|
Total
assets
|
$ | 2,137,354 | $ | 1,886,052 | $ | 1,733,465 | ||||||||||||||||||||||||||||||
|
Interest
Bearing Liabilities
|
||||||||||||||||||||||||||||||||||||
|
Deposits
|
||||||||||||||||||||||||||||||||||||
|
Interest
bearing demand
|
$ | 256,129 | $ | 1,805 | .70 | % | $ | 258,992 | $ | 3,684 | 1.42 | % | $ | 260,417 | $ | 3,774 | 1.45 | % | ||||||||||||||||||
|
Savings
|
261,692 | 3,499 | 1.34 | 244,299 | 5,299 | 2.17 | 212,948 | 4,437 | 2.08 | |||||||||||||||||||||||||||
|
Time
|
793,561 | 33,741 | 4.25 | 748,939 | 36,174 | 4.83 | 587,047 | 24,343 | 4.15 | |||||||||||||||||||||||||||
|
Federal
funds purchased and other short-term borrowings
|
81,180 | 1,785 | 2.20 | 97,192 | 4,504 | 4.63 | 97,489 | 4,676 | 4.80 | |||||||||||||||||||||||||||
|
Securities
sold under agreements to repurchase and other long-term
borrowings
|
330,468 | 14,300 | 4.33 | 127,277 | 6,378 | 5.01 | 79,472 | 4,202 | 5.29 | |||||||||||||||||||||||||||
|
Total
interest bearing liabilities
|
1,723,030 | $ | 55,130 | 3.20 | % | 1,476,699 | $ | 56,039 | 3.79 | % | 1,237,373 | $ | 41,432 | 3.35 | % | |||||||||||||||||||||
|
Noninterest
Bearing Liabilities
|
||||||||||||||||||||||||||||||||||||
|
Commonwealth
of Kentucky deposits
|
37,025 | 37,119 | 38,627 | |||||||||||||||||||||||||||||||||
|
Other
demand deposits
|
177,347 | 177,304 | 157,355 | |||||||||||||||||||||||||||||||||
|
Other
liabilities
|
31,952 | 19,009 | 7,705 | |||||||||||||||||||||||||||||||||
|
Liabilities
of discontinued operations
|
131,437 | |||||||||||||||||||||||||||||||||||
|
Total
liabilities
|
1,969,354 | 1,710,131 | 1,572,497 | |||||||||||||||||||||||||||||||||
|
Shareholders’
equity
|
168,000 | 175,921 | 160,968 | |||||||||||||||||||||||||||||||||
|
Total
liabilities and shareholders’ equity
|
$ | 2,137,354 | $ | 1,886,052 | $ | 1,733,465 | ||||||||||||||||||||||||||||||
|
Net
interest income
|
61,125 | 60,540 | 53,062 | |||||||||||||||||||||||||||||||||
|
TE
basis adjustment
|
(2,335 | ) | (2,322 | ) | (2,154 | ) | ||||||||||||||||||||||||||||||
|
Net
interest income
|
$ | 58,790 | $ | 58,218 | $ | 50,908 | ||||||||||||||||||||||||||||||
|
Net
interest spread
|
2.98 | % | 3.22 | % | 3.32 | % | ||||||||||||||||||||||||||||||
|
Effect
of noninterest bearing sources of funds
|
.27 | .42 | .43 | |||||||||||||||||||||||||||||||||
|
Net
interest margin
|
3.25 | % | 3.64 | % | 3.75 | % | ||||||||||||||||||||||||||||||
|
1
|
Income
and yield stated at a fully tax equivalent basis using the marginal
corporate Federal tax rate of 35%.
|
|
2
|
Loan
balances include principal balances on nonaccrual
loans.
|
|
3
|
Loan
fees included in interest income amounted to $2.3 million,
$2.7 million, and $2.0 million for 2008, 2007, and 2006,
respectively.
|
27
The
following table is an analysis of the change in net interest
income.
Analysis of Changes in Net Interest
Income (tax equivalent basis)
|
Variance
|
Variance
Attributed to
|
Variance
|
Variance
Attributed to
|
|||||||||||||||||||||
|
(In
thousands)
|
2008/20071 |
Volume
|
Rate
|
2007/20061 |
Volume
|
Rate
|
||||||||||||||||||
|
Interest
Income
|
||||||||||||||||||||||||
|
Taxable
investment securities
|
$
|
10,267 |
$
|
9,179 |
$
|
1,088 |
$
|
3,602 |
$
|
1,908 |
$
|
1,694 | ||||||||||||
|
Nontaxable
investment securities2
|
(141 | ) | (90 | ) | (51 | ) | (484 | ) | (167 | ) | (317 | ) | ||||||||||||
|
Time
deposits with banks, federal funds sold and securities purchased under
agreements to resell
|
(2,134 | ) | (205 | ) | (1,929 | ) | 978 | 315 | 663 | |||||||||||||||
|
Loans2
|
(8,316 | ) | 3,844 | (12,160 | ) | 17,989 | 15,273 | 2,716 | ||||||||||||||||
|
Total
interest income
|
(324 | ) | 12,728 | (13,052 | ) | 22,085 | 17,329 | 4,756 | ||||||||||||||||
|
Interest
Expense
|
||||||||||||||||||||||||
|
Interest
bearing demand deposits
|
(1,879 | ) | (40 | ) | (1,839 | ) | (90 | ) | (19 | ) | (71 | ) | ||||||||||||
|
Savings
deposits
|
(1,800 | ) | 354 | (2,154 | ) | 862 | 666 | 196 | ||||||||||||||||
|
Time
deposits
|
(2,433 | ) | 2,074 | (4,507 | ) | 11,831 | 7,422 | 4,409 | ||||||||||||||||
|
Federal
funds purchased and other short-term borrowings
|
(2,719 | ) | (649 | ) | (2,070 | ) | (172 | ) | (13 | ) | (159 | ) | ||||||||||||
|
Securities
sold under agreements to repurchase and other long-term
borrowings
|
7,922 | 8,896 | (974 | ) | 2,176 | 2,410 | (234 | ) | ||||||||||||||||
|
Total
interest expense
|
(909 | ) | 10,635 | (11,544 | ) | 14,607 | 10,466 | 4,141 | ||||||||||||||||
|
Net
interest income
|
$
|
585 |
$
|
2,093 |
$
|
(1,508 | ) |
$
|
7,478 |
$
|
6,863 |
$
|
615 | |||||||||||
|
Percentage
change
|
100.0 | % | 357.8 | % | (257.8 | )% | 100.0 | % | 91.8 | % | 8.2 | % | ||||||||||||
|
1
|
The
changes which are not solely due to rate or volume are allocated on a
percentage basis using the absolute values of rate and volume variances as
a basis for allocation.
|
|
2
|
Income
stated at fully tax equivalent basis using the marginal corporate Federal
tax rate of 35%.
|
Noninterest
Income
Noninterest
income for 2008 was $9.8 million, a decrease of $14.3 million or 59.4% compared
to a year ago. The decrease in noninterest income in the comparison was
primarily the result of the $14.0 million non-cash OTTI charge related to the
Company’s GSE investments in the third quarter of 2008 and an additional $766
thousand realized loss on the sale of its GSE investments in the fourth quarter.
Excluding securities related transactions, noninterest income was relatively
flat at $23.9 million for 2008 compared to $24.2 million a year
earlier.
Other
significant line item increases include higher allotment processing fees of $428
thousand or 9.8% and higher non-deposit service charges, commissions, and fees
of $182 thousand or 4.4%. These amounts were offset by lower service charges on
deposit accounts of $473 thousand or 4.6%, lower net gains on the sale of loans
of $184 thousand or 31.1%, and lower data processing fees of $140 thousand or
11.4%.
Allotment
processing fees increased partially due to the timing of the acquisition of the
Military Allotment operations of PNC Bank during the first quarter a year ago
and increased volumes. The increase in non-deposit service charges, commissions,
and fees was due to higher volume related interchange and ATM fees of $210
thousand and $70 thousand, respectively. Lower service charges and fees on
deposits were driven by a decrease in dormant account fees of $1.0 million,
which offset higher overdraft charges of $655 thousand. The decrease in dormant
account fees is related to a change in the dormant account policy of one of the
Company’s subsidiary banks during 2007. The change in policy, which was phased
in during the second and third quarters of 2007, lengthened the period of
transaction inactivity of deposit accounts required to consider them dormant.
The policy changed the dormant period of certain deposit accounts to 12 months
from six months. This resulted in a decrease in the number of dormant accounts
and the related fee income. The decrease in net gains on sale of loans is
attributed to lower loan sales volume in 2008 compared to a year ago. Data
processing fees have declined as a result of lower processing
volumes.
Net
investment securities losses of $166 thousand include a $207 thousand gain
attributed to the mandatory redemption of part of the Visa, Inc. common stock
received during the first quarter of 2008 and $85 thousand attributed to the
reversal of previously accrued litigation. The accrued litigation represented
the Company’s share of the litigation reserve escrow account established by Visa
related to its IPO. Net securities losses also include the $766 thousand loss
realized on the sale of the Company’s GSE holdings. Other investment securities
transactions occurred in the normal course of asset and liability
management.
28
Noninterest
Expense
Total
noninterest expenses were $60.1 million for 2008, up $1.3 million or 2.2% from
$58.8 million compared to 2007. Salaries and employee benefits, the largest
component of noninterest expenses, decreased $1.2 million or 4.0% although the
average number of full time equivalent employees was relatively flat at 579
compared to 577 from a year earlier. The decline in salary and employee benefits
is attributed to lower employee benefit costs of $1.3 million. Cost reduction
include lower amounts attributed to the Company’s postretirement benefit plans
of $527 thousand, lower amounts for the Company’s matching contribution to its
salary savings plan of $380 thousand, and $398 thousand lower other benefit
expenses primarily associated with the Company’s self-funded health insurance
plan.
Lower
postretirement benefits costs for 2008 is mainly attributed to higher benefit
expenses during 2007 related to an actuary error discovered in 2007. The actuary
error, which was the result of using an incorrect actuary table, caused the
amount recorded upon adoption of SFAS No. 158 at December 31, 2006 to be
incorrect. This resulted in an immaterial amount of expense for 2006 to be
recorded in 2007. The $380 thousand decrease in expense related to the Company’s
salary savings plan is attributed to a 200 basis point reduction in the amount
of funds the Company matched in employee contributions to the salary savings
plan. In 2007, the Company made a 2% discretionary contribution to the plan. In
2008, the Company did not make a discretionary contribution to the plan. A
decrease in expense related to the Company’s self-funded health insurance plan
during 2008 compared to a year earlier was driven by an overall decline in
medical and dental claims.
Intangible
amortization expense decreased $760 thousand or 22.6%. Amortization of
intangible assets, which relate to customer lists and core deposits from prior
acquisitions, is decreasing as a result of amortization schedules that allocate
a higher amount of amortization in the earlier periods following an acquisition
consistent with how the assets are used.
Net
occupancy expenses were $4.5 million for 2008, an increase of $254 thousand or
6.0% compared to $4.3 million for 2007. The increase in net occupancy expense is
due mainly to higher depreciation and utilities and correlates to additional
properties used in the Company’s business. Data processing and communications
expense increased $653 thousand or 13.7% in the current year primarily due to
higher ATM, debit card, and other transaction volumes. Correspondent bank fees
increased $319 thousand or 44.2% due mainly to a change in billing method of an
upstream correspondent bank in the current year. The billing method included
switching from the requirement to maintain a certain minimum balance with the
correspondent to a set fee-based structured arrangement. Other noninterest
expenses were $11.0 million, an increase of $2.0 million or 22.6% and were
driven mainly by higher FDIC deposit insurance and related FICO assessments of
$812 thousand and net expenses associated with other real estate owned of $761
thousand. The increase in deposit insurance expense is mainly attributed to the
expiration of a one-time FDIC insurance credit of $1.2 million received during
2006 that reduced the Company’s net FDIC insurance costs by a declining amount
in each year since 2006. There are $28 thousand in unused credits remaining at
December 31, 2008 available to offset future assessments. The increase in
expenses related to other real estate owned corresponds to a higher outstanding
balance for the current year and is also magnified as a result of an overall net
gain attributed to other real estate in the prior year of $155
thousand.
Income
Tax
The
Company recorded an income tax benefit for 2008 of $1.2 million compared to
income tax expense of $4.3 million in the prior year. The income tax benefit
recorded in the current year is due mainly to the impact of the losses
associated with the GSE preferred stock investments in the third and fourth
quarters of 2008.
FINANCIAL
CONDITION
Total
assets were $2.2 billion at December 31, 2008, an increase of $134 million or
6.5% from year-end 2007. The most significant changes in the Company’s assets
from the prior year-end were a $112 million or 141% increase in cash and cash
equivalents, an increase in loans (net of allowance) of $18.0 million or 1.4%,
higher real estate acquired through foreclosure of $8.4 million or 139%,
partially offset by lower investment securities of $10.4 million or
1.9%.
Total
liabilities increased $134 million or 7.1% at December 31, 2008 compared to the
prior year-end. Higher deposit balances account for $120 million of the increase
in liabilities and long-term FHLB advances increased $19.4 million or 7.2%.
Total shareholders’ equity was relatively unchanged in the annual comparison,
remaining at $168 million.
The
increase in current end of period cash and cash equivalents compared to year-end
2007 was driven by an additional $50.3 million in deposits from the Commonwealth
of Kentucky (“Commonwealth”). Increases from other sources of funds, including
interest bearing deposits and net proceeds from matured, called, or sold
investment securities, have generally been reinvested in temporary investments
and loans. The modest increase in net loans from year-end 2007 is representative
of a more cautious and measured lending strategy resulting from continuing
general economic weaknesses and tighter loan underwriting
standards.
Management
of the Company considers it noteworthy to understand the relationship between
the Company’s principal subsidiary, Farmers Bank, and the
Commonwealth. Farmers Bank provides various services to state
agencies of the Commonwealth. As the
29
depository
for the Commonwealth, checks are drawn on Farmers Bank by these agencies, which
include paychecks and state income tax refunds. Farmers Bank also
processes vouchers of the WIC (Women, Infants and Children) program for the
Cabinet for Human Resources. The Bank’s investment department also provides
services to the Teacher’s Retirement System. As the depository for the
Commonwealth, large fluctuations in deposits are likely to occur on a daily
basis. Therefore, reviewing average balances is important to
understanding the financial condition of the Company.
On an
average basis, total assets were $2.1 billion for 2008, an increase of $251
million or 13.3% from year-end 2007. The increase in average assets is
attributed mainly to higher earning asset balances. Average investment
securities were up $170 million, boosted by the $200 million balance sheet
leverage transaction that occurred during the fourth quarter of 2007. Average
loans were up $52.0 million or 4.2% compared to the 2007 average year-end
balance. Deposits averaged $1.5 billion for 2008, an increase of $59.1 million
or 4.0% from 2007. Average deposits from the Commonwealth were relatively
unchanged at $37.0 million in the comparison. Average earning assets were 88.0%
of total average assets at December 31, 2008, a decrease of 19 basis points
compared to 88.1% at year-end 2007.
Loans
Loans,
net of unearned income, totaled $1.3 billion at December 31, 2008, up $20.6
million or 1.6% compared to year-end 2007. The Company continues to take a more
measured and cautious approach to loan growth in the near term as a result of
continued weaknesses in the general economy, including a softer housing market
and significant credit tightening throughout the financial services industry.
Loans secured by residential real estate and real estate construction loans were
up $38.5 million or 9.5% and $5.7 million or 2.3%, respectively. Loan
contractions occurred in the remaining sectors of the loan portfolio including
other commercial lending of $9.2 million or 6.0%, consumer installment loans of
$6.9 million or 13.2%, real estate lending secured by farmland and other
commercial enterprises of $4.5 million or 1.1%, and lease financing of $3.0
million or 10.0%
On
average, loans represented 69.3% of earning assets during 2008 compared to 75.2%
for 2007. The 594 basis point decrease in the ratio of average loans to average
earning assets is due mainly to the $200 million balance sheet leverage
transaction that occurred during the fourth quarter of 2007. The leverage
transaction boosted the ratio of average taxable investment securities to
average earning assets to 22.6% for 2008 from 15.2% a year earlier.
When loan
demand declines, the available funds are redirected to lower earning temporary
investments or investment securities, which typically involve a decrease in
credit risk and lower yields. The Company does not have direct exposure to the
subprime mortgage market. The Company does not originate subprime mortgages nor
has it invested in bonds that are secured by such mortgages. Subprime mortgage
lending is defined by the Company generally as lending to a borrower that would
not qualify for a mortgage loan at prevailing market rates or whereby the
underwriting decision is based on limited or no documentation of the ability to
repay.
The
composition of the loan portfolio, net of unearned income, is summarized in the
table below.
|
(In
thousands)
December
31,
|
2008
|
%
|
2007
|
%
|
2006
|
%
|
2005
|
%
|
2004
|
%
|
||||||||||||||||||||||||||||||
|
Commercial,
financial, and agricultural
|
$ | 144,788 | 11.0 | % | $ | 154,015 | 11.9 | % | $ | 197,613 | 16.5 | % | $ | 173,797 | 18.1 | % | $ | 119,004 | 15.3 | % | ||||||||||||||||||||
|
Real
estate – construction
|
260,524 | 19.9 | 254,788 | 19.7 | 176,779 | 14.7 | 88,693 | 9.2 | 62,111 | 8.0 | ||||||||||||||||||||||||||||||
|
Real
estate mortgage – residential
|
444,487 | 33.9 | 405,992 | 31.5 | 381,081 | 31.8 | 331,508 | 34.4 | 280,869 | 36.2 | ||||||||||||||||||||||||||||||
|
Real
estate mortgage – farmland and other commercial
enterprises
|
390,424 | 29.7 | 394,900 | 30.6 | 351,793 | 29.4 | 274,411 | 28.5 | 210,701 | 27.2 | ||||||||||||||||||||||||||||||
|
Installment
|
45,135 | 3.4 | 52,028 | 4.0 | 57,116 | 4.8 | 56,169 | 5.8 | 63,684 | 8.2 | ||||||||||||||||||||||||||||||
|
Lease
financing
|
27,222 | 2.1 | 30,262 | 2.3 | 33,454 | 2.8 | 37,993 | 4.0 | 39,348 | 5.1 | ||||||||||||||||||||||||||||||
|
Total
|
$ | 1,312,580 | 100.0 | % | $ | 1,291,985 | 100.0 | % | $ | 1,197,836 | 100.0 | % | $ | 962,571 | 100.0 | % | $ | 775,717 | 100.0 | % | ||||||||||||||||||||
The
following table presents commercial, financial, and agricultural loans and real
estate construction loans outstanding at December 31, 2008 which, based on
remaining scheduled repayments of principal, are due in the periods
indicated.
Loan
Maturities
|
(In
thousands)
|
Within
One Year
|
After
One But Within Five Years
|
After
Five Years
|
Total
|
||||||||||||
|
Commercial,
financial, and agricultural
|
$ | 63,259 | $ | 35,259 | $ | 46,270 | $ | 144,788 | ||||||||
|
Real
estate – construction
|
196,219 | 53,457 | 10,848 | 260,524 | ||||||||||||
|
Total
|
$ | 259,478 | $ | 88,716 | $ | 57,118 | $ | 405,312 | ||||||||
30
The table
below presents commercial, financial, and agricultural loans and real estate
construction loans outstanding at December 31, 2008 that are due after one year,
classified according to sensitivity to changes in interest rates.
Interest
Sensitivity
|
Fixed
|
Variable
|
|||||||
|
(In
thousands)
|
Rate
|
Rate
|
||||||
|
Due
after one but within five years
|
$ | 61,958 | $ | 26,758 | ||||
|
Due
after five years
|
20,731 | 36,387 | ||||||
|
Total
|
$ | 82,689 | $ | 63,145 | ||||
Asset
Quality
The
Company’s loan portfolio is subject to varying degrees of credit risk. Credit
risk is mitigated by diversification within the portfolio, limiting exposure to
any single customer or industry, rigorous lending policies and underwriting
criteria, and collateral requirements. The Company maintains policies and
procedures to ensure that the granting of credit is done in a sound and
consistent manner. This includes policies on a company-wide basis that require
certain minimum standards to be maintained. However, the policies also permit
the individual subsidiary companies authority to adopt standards that are no
less stringent than those included in the company-wide policies. Credit
decisions are made at the subsidiary bank level under guidelines established by
policy. The Company’s internal audit department performs loan reviews at each
subsidiary bank during the year. This loan review evaluates loan administration,
credit quality, documentation, compliance with Company loan standards, and the
adequacy of the allowance for loan losses on a consolidated and subsidiary
basis.
The
provision for loan losses represents charges made to earnings to maintain an
allowance for loan losses at an adequate level based on credit losses
specifically identified in the loan portfolio, as well as management’s best
estimate of probable incurred loan losses in the remainder of the portfolio at
the balance sheet date. The allowance for loan losses is a valuation allowance
increased by the provision for loan losses and decreased by net charge-offs.
Loan losses are charged against the allowance when management believes the
uncollectibility of a loan is confirmed. Subsequent recoveries, if any, are
credited to the allowance.
Management
estimates the allowance balance required using a risk-rated methodology. Many
factors are considered when estimating the allowance. These include, but are not
limited to, past loan loss experience, an assessment of the financial condition
of individual borrowers, a determination of the value and adequacy of underlying
collateral, the condition of the local economy, an analysis of the levels and
trends of the loan portfolio, and a review of delinquent and classified loans.
The allowance for loan losses consists of specific and general components. The
specific component relates to loans that are individually classified as impaired
or loans otherwise classified as substandard or doubtful. The general component
covers non-classified loans and is based on historical loss experience adjusted
for current risk factors. Allocations of the allowance may be made for specific
loans, but the entire allowance is available for any loan that, in management’s
judgment, should be charged off. Actual loan losses could differ significantly
from the amounts estimated by management.
The
risk-rated methodology includes segregating watch list and past due loans from
the general portfolio and allocating specific reserves to these loans depending
on their status. For example, watch list loans, which may be identified by the
internal loan review risk-rating system or by regulatory examiner
classification, are assigned a certain loss percentage while loans past due 30
days or more are assigned a different loss percentage. Each of these percentages
considers past experience as well as current factors. The remainder of the
general loan portfolio is segregated into three components having similar risk
characteristics as follows: commercial loans, consumer loans, and real estate
loans. Each of these components is assigned a loss percentage based on their
respective three year historical loss percentage. Additional allocations to the
allowance may then be made for subjective factors, such as those mentioned
above, as determined by senior managers who are knowledgeable about these
matters. During 2007, the Company further identified signs of deterioration in
certain real estate development loans that continued into 2008 and specific
allowances related to these loans were recorded.
While
management considers the allowance for loan losses to be adequate based on the
information currently available, additional adjustments to the allowance may be
necessary due to changes in the factors noted above. Borrowers may experience
difficulty in periods of economic deterioration, and the level of nonperforming
loans, charge-offs, and delinquencies could rise and require additional
increases in the provision. Regulatory agencies, as an integral part of their
examinations, periodically review the allowance for loan losses. These reviews
could result in additional adjustments to the provision based upon their
judgments about relevant information available during their
examination.
In
general, the provision for loan losses and related allowance increases as the
level of nonperforming and impaired loans, as a percentage of net loans
outstanding, increases. However, collateral values supporting nonperforming and
impaired loans have generally been sufficient to more than cover the Company’s
loan principal balance exposures. The Company’s allowance for loan loss
31
amount
has heavily considered past loan loss experience to estimate current loan
losses, but does consider current trends within the portfolio that may not be
indicative of past charge-off levels. Adjustments are made to the allowance for
loan losses as needed when such matters are identified. Although beginning to
trend upward, net charge-offs during our three year look-back period have been
relatively low. Significant weaknesses in the general economy, particularly a
softer housing market combined with significant credit tightening throughout the
financial services industry began in 2007. Overall economic conditions continued
to worsen in 2008, including widespread illiquidity and extreme volatility in
financial markets, higher unemployment rates, and other unprecedented market
conditions. These economic conditions resulted in signs of stress primarily in
the Company’s residential real estate development and commercial real estate
sectors of its lending portfolio. As such, the Company increased its allowance
amounts for real estate development and commercial real estate lending in
consideration of these current factors, even though historic charge-offs have
been relatively low.
For loans
that are currently impaired, defined as loans in which the Company does not
expect to receive full payment under the contractual terms, the Company expects
to recover significantly all of the principal amounts outstanding based on
collateral values. This has resulted in the amount of nonperforming and impaired
loans that have increased at a faster rate than the related allowance. Impaired
loans are measured at the present value of expected future cash flows,
discounted at the loan’s effective interest rate, at the loan’s observable
market price, or at the fair value of the collateral taking into consideration
estimated costs to sell if the loan is collateral dependent. Collateral values
are updated as warranted by periodically obtaining independent third party
appraisals and monitoring sales activity of similar properties in our market
area.
The
provision for loan losses was $5.3 million in 2008, an increase of $1.7 million
or 46.3% compared to $3.6 million for 2007. The steep increase in the provision
for loan losses is reflective of higher levels of nonperforming loans, primarily
nonaccrual loans that have trended upward as the overall economic environment
has deteriorated. Nonperforming loans were $25.5 million at December 31, 2008
compared to $21.1 million at year-end 2007, an increase of $4.4 million or
20.9%. A significant amount of the increase in nonperforming loans is limited to
a small number of larger-balance credits. Most of the $4.4 million net increase
in nonperforming loans is attributed to the addition of six individual
larger-balance nonaccrual credits of $9.3 million, all of which is secured by
real estate and more than offset amounts that are no longer classified as
nonaccrual.
Total net
charge-offs for the Company were $2.7 million for year-end 2008 and were as
follows: commercial, financial, and agricultural loans $1.1 million,
real estate lending $847 thousand, installment loans $773 thousand. Lease
financing had net recoveries of $16 thousand in the comparison. Net charge-offs
increased $1.3 million or 90.6% compared to 2007 as follows: commercial,
financial, and agriculture $711 thousand or 181%, real estate lending $462
thousand or 120%, and installment loans $136 thousand or 21.4%. Net charge-offs
related to lease financing declined $21 thousand in the comparison. Net
charge-offs in 2008 were driven by a relatively few number of larger-balance
credits. Net charge-offs were .21% of average loans for 2008, up 10 basis points
from .11% in 2007 and remain relatively low for the Company. The allowance for
loan losses was $16.8 million at year-end 2008 and represented 1.28% of loans
net of unearned income at year-end 2008 compared to 1.10% at year-end 2007. The
allowance for loan losses as a percentage of nonperforming loans was 66.1% and
67.5% at year-end 2008 and 2007, respectively. Management continues to emphasize
collection efforts and evaluation of risks within the portfolio. The composition
of the Company’s loan portfolio continues to be diverse with no significant
concentration to any individual or industry.
32
The table
below summarizes the loan loss experience for the past five years.
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
2006
|
2005
|
2004
|
|||||||||||||||
|
Balance
of allowance for loan losses at beginning of year
|
$
|
14,216 |
$
|
11,999 |
$
|
11,069 |
$
|
11,043 |
$
|
10,088 | ||||||||||
|
Acquisition
of Citizens Jessamine
|
1,066 | |||||||||||||||||||
|
Acquisition
of Citizens Northern
|
1,410 | |||||||||||||||||||
|
Acquisition
of Citizens Georgetown
|
2,005 | |||||||||||||||||||
|
Loans
charged off:
|
||||||||||||||||||||
|
Commercial,
financial, and agricultural
|
1,273 | 520 | 486 | 301 | 678 | |||||||||||||||
|
Real
estate
|
1,824 | 626 | 200 | 288 | 462 | |||||||||||||||
|
Installment
loans to individuals
|
1,089 | 956 | 839 | 1,254 | 1,115 | |||||||||||||||
|
Lease
financing
|
356 | 52 | 254 | 602 | 113 | |||||||||||||||
|
Total
loans charged off
|
4,542 | 2,154 | 1,779 | 2,445 | 2,368 | |||||||||||||||
|
Recoveries
of loans previously charged off:
|
||||||||||||||||||||
|
Commercial,
financial, and agricultural
|
168 | 126 | 262 | 69 | 119 | |||||||||||||||
|
Real
estate
|
977 | 241 | 81 | 66 | 89 | |||||||||||||||
|
Installment
loans to individuals
|
316 | 319 | 294 | 260 | 229 | |||||||||||||||
|
Lease
financing
|
372 | 47 | 41 | 44 | 25 | |||||||||||||||
|
Total
recoveries
|
1,833 | 733 | 678 | 439 | 462 | |||||||||||||||
|
Net
loans charged off
|
2,709 | 1,421 | 1,101 | 2,006 | 1,906 | |||||||||||||||
|
Additions
to allowance charged to expense
|
5,321 | 3,638 | 965 | 622 | 856 | |||||||||||||||
|
Balance
at end of year
|
$
|
16,828 |
$
|
14,216 |
$
|
11,999 |
$
|
11,069 |
$
|
11,043 | ||||||||||
|
Average
loans net of unearned income
|
$
|
1,302,394 |
$
|
1,250,423 |
$
|
1,051,002 |
$
|
805,014 |
$
|
735,697 | ||||||||||
|
Ratio
of net charge-offs during year to average loans, net of
unearned income
|
.21 | % | .11 | % | .10 | % | .25 | % | .26 | % | ||||||||||
The
following table presents an estimate of the allocation of the allowance for loan
losses by type for the date indicated. Although specific allocations exist, the
entire allowance is available to absorb losses in any particular
category.
Allowance
For Loan Losses
|
December
31, (In thousands)
|
2008
|
2007
|
2006
|
2005
|
2004
|
|||||||||||||||
|
Commercial,
financial, and agricultural
|
$
|
2,474 |
$
|
2,505 |
$
|
2,223 |
$
|
2,840 |
$
|
2,108 | ||||||||||
|
Real
estate
|
11,217 | 9,201 | 6,497 | 5,849 | 6,206 | |||||||||||||||
|
Installment
loans to individuals
|
2,336 | 1,979 | 2,316 | 1,601 | 1,634 | |||||||||||||||
|
Lease
financing
|
801 | 531 | 963 | 779 | 1,095 | |||||||||||||||
|
Total
|
$
|
16,828 |
$
|
14,216 |
$
|
11,999 |
$
|
11,069 |
$
|
11,043 | ||||||||||
In
addition to the discussion above relating to lending activities, additional
information concerning the Company’s asset quality is discussed under the
caption “Nonperforming Assets” which follows and “Investment Securities” on page
34.
Nonperforming
Assets
Nonperforming
assets for the Company include nonperforming loans, other real estate owned, and
other foreclosed assets. Nonperforming loans consist of nonaccrual loans,
restructured loans, and loans past due ninety days or more on which interest is
still accruing. Generally, the accrual of interest on loans is
discontinued when it is determined that the collection of interest or principal
is doubtful, or when a default of interest or principal has existed 90 days or
more, unless such loan is well secured and in the process of
collection.
Nonperforming
assets totaled $40.0 million at December 31, 2008, an increase of $12.8 million
or 47.1% compared to $27.2 million for 2007. Nonperforming assets have trended
upward mainly as a result of increasing economic pressures that continue to
strain the Company and many of its customers.
The
increase in nonperforming assets is primarily due to net higher real estate
acquired through foreclosure of $8.4 million or 139% and a $3.5 million or 19.2%
increase in nonaccrual loans. The increase in other real estate owned, which was
$14.4 million at year-end 2008, is due mainly to the Company taking possession
of three larger-balance real estate developments totaling $10.1 million
previously serving as collateral for two separate extensions of credit. The
acquisition of these real estate developments combined with
33
other
smaller-balance properties acquired more than offset the liquidation of
significantly all other real estate properties previously held at December 31,
2007. The $10.1 million other real estate owned referred to above was included
in nonaccrual loans at the previous year-end.
Nonaccrual
loans were $21.5 million at December 31, 2008 compared to $18.1 a year earlier.
The nine largest nonaccrual credits represent $16.8 million of the total
outstanding nonaccrual balances, $10.5 million of which is secured by commercial
real estate, $3.8 million secured by real estate development properties, and the
remaining $2.4 million secured by other real estate. Three larger-balance loans
totaling $10.1 million that were classified as nonaccrual loans at the prior
year-end were included in other real estate owned at December 31, 2008. The
increase in newly classified nonaccrual loans in 2008 more than made up for this
decline and is attributed to the downturn in the overall economic environment.
The amount of interest income lost was $1.0 million related to the nine largest
nonaccrual credits identified above with outstanding balances of $16.8 million
at year-end 2008. The lost interest income reduced the yield on earning assets,
net interest spread, and net interest margin by six basis points for
2008.
Nonperforming
loans represent 1.9% of loans net of unearned income at year-end 2008. This
represents an increase of 31 basis points compared to 1.6% at year-end 2007 and
is attributed to the higher nonaccrual loans as discussed above. Information
pertaining to nonperforming loans and assets is presented in the table
below.
|
2008
|
2007
|
2006
|
2005
|
2004
|
||||||||||||||||
|
Loans
accounted for on nonaccrual basis
|
$
|
21,545 |
$
|
18,073 |
$
|
1,462 |
$
|
2,269 |
$
|
4,990 | ||||||||||
|
Loans
past due 90 days or more and still accruing
|
3,913 | 2,977 | 2,856 | 2,383 | 2,831 | |||||||||||||||
|
Total
nonperforming loans
|
25,458 | 21,050 | 4,318 | 4,652 | 7,821 | |||||||||||||||
|
Other
real estate owned
|
14,446 | 6,044 | 5,031 | 8,786 | 3,719 | |||||||||||||||
|
Other
foreclosed assets
|
47 | 66 | 54 | 21 | 32 | |||||||||||||||
|
Total
nonperforming assets
|
$
|
39,951 |
$
|
27,160 |
$
|
9,403 |
$
|
13,459 |
$
|
11,572 | ||||||||||
Temporary
Investments
Temporary
investments consist of interest bearing deposits in other banks and federal
funds sold and securities purchased under agreements to resell. The Company uses
these funds in the management of liquidity and interest rate sensitivity. At
December 31, 2008, temporary investments were $103 million, an increase of $68.9
million compared to $34.2 million at year-end 2007. Temporary investments
averaged $65.5 million during 2008, a decrease of $4.6 million or 6.5% from
2007. The decrease is a result of the Company’s overall net funding position.
Temporary investments are reallocated to loans or other investments as market
conditions and Company resources warrant.
Investment
Securities
The
investment securities portfolio is comprised primarily of debt securities issued
by U.S. government-sponsored agencies, mortgage-backed securities, and
tax-exempt securities of states and political subdivisions. During the first
half of 2008, the Company purchased $15.5 million aggregate principal amount of
fixed rate preferred stocks of Fannie and Freddie. During the third quarter of
2008, the Company recorded a non-cash OTTI charge of $14.0 million related to
its investments in these GSE’s as a result of a sharp decline in the value of
these investments. This decline followed the announcement that the GSE’s were
suspending dividend payments and being placed into conservatorship by the
Federal Housing Finance Agency. The rating agencies also downgraded the
preferred stocks of the GSE’s to below investment grade. The Company had $1.1
million market value in GSE preferred stock following the impairment charge at
September 30, 2008 and subsequently sold its entire holdings during the fourth
quarter of 2008 for an additional loss of $766 thousand.
The
Company also holds $16.4 million amortized cost amounts of single-issuer trust
preferred capital securities of global and national financial services firms
with an estimated fair value of $11.5 million. In addition, the Company holds
$2.4 million amortized cost amounts of debentures issued by global and national
financial services firms with an estimated fair value of $2.1 million. The
Company evaluates these securities under the applicable accounting guidance,
SFAS No. 115, FSP No. 115-1, FSP No. 124-1, and SAB No. 59. Each of these
securities currently are performing and rated as investment grade by the major
rating agencies. The Company has the intent and ability to hold these securities
for the foreseeable future and believes these securities are not impaired due to
reasons of credit quality, but rather the unrealized losses are primarily
attributed to general uncertainties in the financial markets and extraordinary
market volatility. The Company currently believes that it will be able to
collect all amounts due according to the contractual terms of these securities
and that the fair values of these securities will recover as they approach their
maturity dates.
34
Total
investment securities were $536 million on December 31, 2008, a decrease of
$10.4 million or 1.9% compared to year-end 2007. Net amortized cost amounts
declined $17.6 million or 3.2%, partially offset by a net increase in market
values of $7.2 million related to investments carried in the available for sale
portfolio. The decrease in the amortized cost amounts is attributed to the $14.0
million OTTI charge related to the GSE investments in the third quarter of 2008
combined with matured, sold, or called investments that exceeded new purchased
amounts. The $7.2 million overall increase in market values of the available for
sale investment securities is attributed mainly to the lower interest rate
environment. Overall market interest rates decreased sharply throughout 2008,
particularly during the fourth quarter as reflected in the yield curves of the
comparable periods. Market values of fixed rate investments are inversely
related to changes in market interest rates. Unrealized losses within the
Company’s investment securities portfolio at year-end have not been included in
income since they are identified as temporary. The securities’ fair values are
expected to recover as they approach their maturity dates and the Company has
the intent and ability to hold to recovery. All investment securities in the
Company’s portfolio are currently performing.
Funds
made available from sold, maturing or called bonds are redirected to fund higher
yielding loan growth, reinvested to purchase additional investment securities,
or otherwise employed to improve the composition of the balance sheet. The
purchase of nontaxable obligations of states and political subdivisions is one
of the primary means of managing the Company’s tax position. The impact of the
alternative minimum tax related to the Company’s ability to acquire tax-free
obligations at an attractive yield is routinely monitored. The Company does not
have direct exposure to the subprime mortgage market. The Company does not
originate subprime mortgages nor has it invested in bonds that are secured by
such mortgages.
The
following table summarizes the carrying values of investment securities on
December 31, 2008, 2007, and 2006. The investment securities are
divided into available for sale and held to maturity
securities. Available for sale securities are carried at the
estimated fair value and held to maturity securities are carried at amortized
cost. Substantially all of the corporate debt securities comprise of debt issued
by large global and national financial services firms.
|
December
31,
|
2008
|
2007
|
2006
|
|||||||||||||||||||||
|
(In
thousands)
|
Available
for
Sale
|
Held
to
Maturity
|
Available
for
Sale
|
Held
to
Maturity
|
Available
for
Sale
|
Held
to
Maturity
|
||||||||||||||||||
|
Obligations
of states and political subdivisions
|
$
|
90,838 |
$
|
1,814 |
$
|
94,181 |
$
|
3,844 |
$
|
88,147 |
$
|
7,788 | ||||||||||||
|
Obligations
of U.S. government-sponsored entities
|
34,567 | 88,522 | 141,832 | |||||||||||||||||||||
|
Mortgage-backed
securities
|
375,327 | 343,176 | 86,716 | |||||||||||||||||||||
|
U.S.
Treasury securities
|
10,256 | 863 | 484 | |||||||||||||||||||||
|
Money
market mutual funds
|
374 | 1,396 | 1,396 | |||||||||||||||||||||
|
Corporate
debt securities
|
13,991 | 5,132 | ||||||||||||||||||||||
|
Equity
securities
|
8,942 | 9,363 | 7,910 | |||||||||||||||||||||
|
Total
|
$
|
534,295 |
$
|
1,814 |
$
|
542,633 |
$
|
3,844 |
$
|
326,485 |
$
|
7,788 | ||||||||||||
The
following table presents an analysis of the contractual maturity and tax
equivalent weighted average interest rates of investment securities at December
31, 2008. For purposes of this analysis, available for sale securities are
stated at fair value and held to maturity securities are stated at amortized
cost. Equity securities in the available for sale portfolio consist primarily of
restricted FHLB and Federal Reserve Board stocks, which have no stated maturity
and are not included in the maturity schedule that follows.
Available
for Sale
|
After
One But
|
After
Five But
|
|||||||||||||||||||||||||||||||
|
Within
One Year
|
Within
Five Years
|
Within
Ten Years
|
After
Ten Years
|
|||||||||||||||||||||||||||||
|
(In
thousands)
|
Amount
|
Rate
|
Amount
|
Rate
|
Amount
|
Rate
|
Amount
|
Rate
|
||||||||||||||||||||||||
|
Obligations
of U.S. government-sponsored entities
|
$
|
1,103 | 3.3 | % |
$
|
24,886 | 4.0 | % |
$
|
1,515 | 3.4 | % |
$
|
7,063 | 5.2 | % | ||||||||||||||||
|
Obligations
of states and political subdivisions
|
5,273 | 5.7 | 40,745 | 4.5 | 29,978 | 5.6 | 14,842 | 5.1 | ||||||||||||||||||||||||
|
Mortgage-backed
securities
|
514 | 4.9 | 19,709 | 4.6 | 37,986 | 4.7 | 317,118 | 5.4 | ||||||||||||||||||||||||
|
U.S.
Treasury securities
|
10,256 | 1.5 | ||||||||||||||||||||||||||||||
|
Money
market mutual funds
|
374 | 1.1 | ||||||||||||||||||||||||||||||
|
Corporate
debt securities
|
391 | 5.4 | 888 | 8.9 | 12,712 | 7.0 | ||||||||||||||||||||||||||
|
Total
|
$
|
17,911 | 3.0 | % |
$
|
86,228 | 4.4 | % |
$
|
69,479 | 5.0 | % |
$
|
351,735 | 5.5 | % | ||||||||||||||||
35
Held
to Maturity
|
After
One But
|
After
Five But
|
|||||||||||||||||||||||||||||||
|
Within
One Year
|
Within
Five Years
|
Within
Ten Years
|
After
Ten Years
|
|||||||||||||||||||||||||||||
|
(In
thousands)
|
Amount
|
Rate
|
Amount
|
Rate
|
Amount
|
Rate
|
Amount
|
Rate
|
||||||||||||||||||||||||
|
Obligations
of states and political subdivisions
|
$
|
789 | 4.5 | % |
$
|
1,025 | 4.3 | % | ||||||||||||||||||||||||
The
calculation of the weighted average interest rates for each category is based on
the weighted average costs of the securities. The weighted average tax rates on
exempt states and political subdivisions are computed based on the marginal
corporate Federal tax rate of 35%.
Deposits
The
Company’s primary source of funding for its lending and investment activities
results from its customer deposits, which consist of noninterest and interest
bearing demand, savings, and time deposits. On December 31, 2008 total deposits
were $1.6 billion, an increase of $120 million or 8.1% from year-end
2007. Interest bearing deposits were up $70.9 million or 5.5% to $1.4
billion and noninterest bearing deposits were up $49.1 million or 25.5% to $242
million. Interest bearing deposits were driven upward primarily by an $80.5
million or 10.5% increase in time deposits. The increase in end of period
noninterest bearing deposits was driven by higher balances from the Commonwealth
of $50.3 million, which offset a $1.2 million net decline in other noninterest
bearing deposit account balances. Balances related to the Commonwealth can
fluctuate significantly from day to day.
Average
total deposits were $1.5 billion during 2008, an increase of $59.1 million or
4.0% compared to average year-end 2007 balances. An increase in average time
deposits of $44.6 million or 6.0% and savings deposits of $17.4 million or 7.1%
drove the higher year-to year average outstanding deposit balances. Average
noninterest bearing balances for 2008 were unchanged at $214
million.
A summary
of average balances and rates paid on deposits follows.
|
Years
Ended December 31,
|
2008
|
2007
|
2006
|
|||||||||||||||||||||
|
(In
thousands)
|
Average
Balance
|
Average
Rate
|
Average
Balance
|
Average
Rate
|
Average
Balance
|
Average
Rate
|
||||||||||||||||||
|
Noninterest
bearing demand
|
$ | 214,372 | $ | 214,423 | $ | 195,982 | ||||||||||||||||||
|
Interest
bearing demand
|
256,129 | .70 | % | 258,992 | 1.42 | % | 260,417 | 1.45 | % | |||||||||||||||
|
Savings
|
261,692 | 1.34 | 244,299 | 2.17 | 212,948 | 2.08 | ||||||||||||||||||
|
Time
|
793,561 | 4.25 | 748,939 | 4.83 | 587,047 | 4.15 | ||||||||||||||||||
|
Total
|
$ | 1,525,754 | 2.56 | % | $ | 1,466,653 | 3.08 | % | $ | 1,256,394 | 2.59 | % | ||||||||||||
Maturities
of time deposits of $100,000 or more outstanding at December 31, 2008 are
summarized as follows.
|
(In
thousands)
|
Amount
|
|||
|
3
months or less
|
$ | 53,773 | ||
|
Over
3 through 6 months
|
41,304 | |||
|
Over
6 through 12 months
|
116,565 | |||
|
Over
12 months
|
90,573 | |||
|
Total
|
$ | 302,215 | ||
Short-term
Borrowings
Short-term
borrowings consist primarily of federal funds purchased and securities sold
under agreements to repurchase with year-end balances of $73.2 million, $80.3
million, and $67.9 million for 2008, 2007, and 2006, respectively. Such
borrowings are generally on an overnight basis. Other short-term borrowings
consist of FHLB borrowings totaling $3.5 million, $0, and $8.0 million at
year-end 2008, 2007, and 2006, respectively, and demand notes issued to the U.S.
Treasury under the treasury tax and loan note option account totaling $787
thousand, $440 thousand, and $777 thousand in 2008, 2007, and 2006 respectively.
A summary of short-term borrowings is as follows.
|
(In
thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Amount
outstanding at year-end
|
$ | 77,474 | $ | 80,755 | $ | 76,718 | ||||||
|
Maximum
outstanding at any month-end
|
125,096 | 155,362 | 113,926 | |||||||||
|
Average
outstanding
|
81,180 | 97,192 | 97,489 | |||||||||
|
Weighted
average rate at year-end
|
.74 | % | 3.71 | % | 4.55 | % | ||||||
|
Weighted
average rate during the year
|
2.20 | 4.63 | 4.80 | |||||||||
36
Long-term Borrowings
The
Company’s long-term borrowings consist mainly of FHLB advances, subordinated
notes payable to unconsolidated trusts, and securities sold under agreements to
repurchase. FHLB advances to the Company’s subsidiary banks are secured by
restricted holdings of FHLB stock that banks are required to own as well as
certain mortgage loans as required by the FHLB. Such advances are made pursuant
to several different credit programs, which have their own interest rates and
range of maturities. Interest rates on FHLB advances are generally fixed and
range between 2.60% and 6.90%, with a weighted average rate of 4.04%, and
remaining maturities of up to 12 years. Approximately $10.0 million of the total
long-term advances from the FHLB are convertible to a floating interest rate.
These advances may convert to a floating interest rate indexed to three-month
LIBOR only if LIBOR equals or exceeds 7%. At year-end 2008, the three-month
LIBOR was 1.43%. FHLB advances are generally used to increase the Company’s
lending activities and to aid the efforts of asset and liability management by
utilizing various repayment options offered by the FHLB. Long-term advances from
the FHLB totaled $86.1 million at December 31, 2008, an increase of $19.6
million or 29.4% from year-end 2007.
The
Company has previously completed three private offerings of trust preferred
securities through three separate Delaware statutory trusts (the “Trusts”)
sponsored by the Company in the aggregate amount of $47.5 million. The combined
$25.0 million proceeds from the first two trusts (“Trusts I and II”) established
in 2005 were used to fund the acquisition of Citizens Bancorp. Proceeds from the
third trust (“Trust III”) were used primarily to acquire Company shares through
a tender offer during 2007. The Company owns all of the common securities of
each of the three Trusts.
The
Trusts used the proceeds from the sale of preferred securities, plus capital
of $1.5 million contributed by the Company to establish the trusts, to
purchase the Company’s subordinated notes in amounts and bearing terms that
parallel the amounts and terms of the respective preferred securities. The
subordinated notes of Trusts I and II mature in 2035 and bear a floating
interest rate at current three-month LIBOR plus 150 basis points on a $10.3
million portion of the total and at current three-month LIBOR plus 165 basis
points on a $15.5 million portion. The subordinated notes of Trust III in the
amount of $23.2 million mature in 2037 and bear a fixed interest rate through
2012 of 6.60% and then convert to floating thereafter at three-month LIBOR plus
132 basis points. Interest on each of the notes is payable
quarterly.
The
subordinated notes of Trusts I and II are redeemable in whole or in part,
without penalty, at the Company’s option on or after September 30, 2010. The
subordinated notes of Trust III are redeemable in whole or in part, without
penalty, at the Company’s option on or after November 1, 2012. The subordinated
notes are junior in right of payment of all present and future senior
indebtedness of the Company. At December 31, 2008, the aggregate balance of the
subordinated notes payable to the Trusts was $49.0 million. The average interest
rate in effect as of the last determination date in 2008 was 5.94%, a
decrease of 77 basis points compared to 6.71% a year earlier.
Securities
sold under agreements to repurchase represent long-term obligations whereby the
Company borrowed approximately $200 million in multiple fixed rate repurchase
agreements with an initial weighted average cost of 3.95%. The borrowings mature
in various amounts and time periods as follows: $50.0 million in November 2010,
$50.0 million in November 2012, and $100 million in November 2017. The
borrowings have a weighted average remaining maturity of 5.9 years. At December
31, 2008 $100 million of the borrowings are callable quarterly, $50.0 million is
callable quarterly during 2009, and the remaining $50.0 million is callable
quarterly beginning in 2012. The Company used the proceeds from the borrowing to
purchase a like amount of fixed rate GNMA bonds. The GNMA bonds have a current
weighted average yield of 5.61% and an estimated weighted average remaining life
of 3.2 years.
Contractual
Obligations
The
Company is contractually obligated to make payments as follows.
|
Payments
Due by Period
|
||||||||||||||||||||
|
Contractual
Obligations (In thousands)
|
Total
|
Less
Than
One
Year
|
One
to Three
Years
|
Three
to Five
Years
|
More
Than Five
Years
|
|||||||||||||||
|
Time
deposits
|
$ | 850,494 | $ | 557,787 | $ | 221,536 | $ | 66,398 | $ | 4,773 | ||||||||||
|
Long-term
FHLB debt
|
86,116 | 13,487 | 31,884 | 13,555 | 27,190 | |||||||||||||||
|
Subordinated
notes payable
|
48,970 | 48,970 | ||||||||||||||||||
|
Long-term
securities sold under agreements to repurchase
|
200,000 | 50,000 | 50,000 | 100,000 | ||||||||||||||||
|
Unfunded
postretirement benefit obligations
|
5,153 | 369 | 809 | 920 | 3,055 | |||||||||||||||
|
Operating
leases
|
4,377 | 699 | 863 | 570 | 2,245 | |||||||||||||||
|
Capital
lease obligations
|
575 | 243 | 332 | |||||||||||||||||
|
Total
|
$ | 1,195,685 | $ | 572,585 | $ | 305,424 | $ | 131,443 | $ | 186,233 | ||||||||||
37
Long-term
FHLB debt represents FHLB advances pursuant to several different credit
programs. Long-term FHLB debt, subordinated notes payable, and securities sold
under agreements to repurchase are more fully described under the caption
“Long-Term Borrowings” above and in Note 9 of the Company’s 2008 audited
consolidated financial statements. Payments for borrowings in the table above do
not include interest. Postretirement benefit obligations are actuarially
determined and estimated based on various assumptions with payouts projected
over the next 10 years. Estimates can vary significantly each year due to
changes in significant assumptions. Capital lease obligations represent amounts
relating to the acquisition of data processing hardware and software. Operating
leases include standard business equipment used in the Company’s day-to-day
business as well as the lease of certain branch sites. Operating lease terms
generally range from one to five years, with the ability to extend certain
branch site leases at the Company’s option. Payments related to leases are based
on actual payments specified in the underlying contracts.
Guarantees
During
2007, the Parent Company entered into a guarantee agreement whereby it agreed to
become unconditionally and irrevocably the guarantor of the obligations of its
bank subsidiaries in connection with the $200 million balance sheet leverage
transaction. The amount of borrowings outstanding guaranteed by the Parent
Company at December 31, 2008 was $200 million, with various maturity dates
ranging from two to nine years. The $200 million outstanding borrowings are
secured by GNMA bonds held by the Parent Company’s subsidiary banks valued at
106% of the outstanding borrowings or $212 million. Should any of the subsidiary
banks default on its borrowings under the agreement, the GNMA bonds securing the
borrowings would be liquidated to satisfy amounts due. If the value of the GNMA
bonds fall below the obligation under the contract, the Parent Company is
obligated to cover any such shortfall in absence of the subsidiary banks ability
to do so. The Parent Company believes its subsidiary banks are fully capable of
fulfilling their obligations under the borrowing arrangement and that the Parent
Company will not be required to make any payments under the guarantee
agreement.
Effects
of Inflation
The
majority of the Company’s assets and liabilities are monetary in nature.
Therefore, the Company differs greatly from most commercial and industrial
companies that have significant investments in nonmonetary assets, such as fixed
assets and inventories. However, inflation does have an important impact on the
growth of assets in the banking industry and on the resulting need to increase
equity capital at higher than normal rates in order to maintain an appropriate
equity to assets ratio. Inflation also affects other noninterest expense, which
tends to rise during periods of general inflation.
Market
risk is the risk of loss arising from adverse changes in market prices and
rates. The Company’s market risk is comprised primarily of interest rate risk
created by its core banking activities of extending loans and receiving
deposits. The Company’s success is largely dependent upon its ability
to manage this risk. Interest rate risk is defined as the exposure of the
Company’s net interest income to adverse movements in interest
rates. Although the Company manages other risks, such as credit and
liquidity risk, management considers interest rate risk to be its most
significant risk, which could potentially have the largest and a material effect
on the Company’s financial condition and results of operations. A sudden and
substantial change in interest rates may adversely impact the Company’s earnings
to the extent that the interest rates earned on assets and paid on liabilities
do not change at the same speed, to the same extent, or on the same
basis. Other events that could have an adverse impact on the
Company’s performance include changes in general economic and financial
conditions, general movements in market interest rates, and changes in consumer
preferences. The Company’s primary purpose in managing interest rate risk is to
effectively invest the Company’s capital and to manage and preserve the value
created by its core banking business.
Management
believes the most significant impact on financial and operating results is the
Company’s ability to react to changes in interest rates. Management
seeks to maintain an essentially balanced position between interest sensitive
assets and liabilities in order to protect against the effects of wide interest
rate fluctuations.
The
Company has a Corporate Asset and Liability Management Committee (“ALCO”). ALCO
monitors the composition of the balance sheet to ensure comprehensive management
of interest rate risk and liquidity. ALCO also provides guidance and support to
each ALCO of the Company’s subsidiary banks and is responsible for monitoring
risks on a company-wide basis. ALCO has established minimum standards in its
asset and liability management policy that each subsidiary bank must adopt.
However, the subsidiary banks are permitted to deviate from these standards so
long as the deviation is no less stringent than that of the Corporate
policy.
The
Company uses a simulation model as a tool to monitor and evaluate interest rate
risk exposure. The model is designed to measure the sensitivity of net interest
income and net income to changing interest rates during the next twelve months.
Forecasting net interest income and its sensitivity to changes in interest rates
requires the Company to make assumptions about the volume and characteristics of
many attributes, including assumptions relating to the replacement of maturing
earning assets and liabilities. Other assumptions include, but are not limited
to, projected prepayments, projected new volume, and the predicted relationship
between changes in market interest rates and changes in customer account
balances. These effects are combined with the Company’s estimate of the most
likely rate environment to produce a forecast for the next twelve months. The
forecasted results are then compared to the effect of a gradual 200 basis point
increase and decrease in market interest rates on the Company’s net interest
income and net income. Because
38
assumptions
are inherently uncertain, the model cannot precisely estimate net interest
income or net income or the effect of interest rate changes on net interest
income and net income. Actual results could differ significantly from simulated
results.
At
December 31, 2008, the model indicated that if rates were to gradually increase
by 200 basis points over the next twelve months, then net interest income (TE)
and net income would increase 5.4% and 16.8%, respectively, compared to
forecasted results. The model indicated that if rates were to gradually decrease
by 200 basis points over the next twelve months, then net interest income (TE)
and net income would decrease 2.4% and 7.1%, respectively, compared to
forecasted results.
In the
current relatively low interest rate environment, it is not practical or
possible to reduce certain deposit rates by the same magnitude as rates on
earning assets. The average rate paid on some of the Company’s deposits is below
2%. This situation magnifies the model’s predicted results when modeling a
decrease in interest rates, as earning assets with higher yields have more of an
opportunity to reprice at lower rates than lower-rate deposits.
LIQUIDITY
Liquidity
measures the ability to meet current and future cash flow needs as they become
due. For financial institutions, liquidity reflects the ability to meet loan
requests, to accommodate possible outflows in deposits, and to capitalize on
interest rate market opportunities. A financial institution’s ability to meet
its current financial obligations is dependent upon the structure of its balance
sheet, its ability to liquidate assets, and its access to alternative sources of
funds. The Company’s goal is to meet its funding needs by maintaining a level of
liquid funds through its asset/liability management.
The
Company uses a liquidity ratio to help measure its ability to meet its cash flow
needs. This ratio is monitored by ALCO at both the bank level and on a
consolidated basis. The liquidity ratio is based on current and projected levels
of sources and uses of funds. This measure is useful in analyzing cash needs and
formulating strategies to achieve desired results. For example, a low liquidity
ratio could indicate that the Company’s ability to fund loans might become more
difficult. A high liquidity ratio could indicate that the Company may have a
disproportionate amount of funds in low yielding assets, which is more likely to
occur during periods of sluggish loan demand. The Company’s liquidity position
was slightly higher at year-end 2008 compared to year-end 2007 and remains
within ALCO guidelines and considered by management to be at an adequate
level.
At the
Parent Company level, liquidity is primarily affected by the receipt of
dividends from its subsidiary banks (see Note 18 of the
Company’s 2008 audited consolidated financial statements), cash balances
maintained, and borrowings from nonaffiliated sources. The Parent Company’s
primary uses of cash include the payment of dividends to its common
shareholders, repurchasing its common stock, business acquisitions, interest
expense on borrowings, and paying for general operating expenses.
The
primary source of funds for the Parent Company is the receipt of dividends from
its subsidiary banks. As of December 31, 2008, combined retained earnings of the
subsidiary banks were $44.3 million, of which $5.4 million was available for the
payment of dividends to the Parent Company without obtaining prior approval from
bank regulatory agencies. As a practical matter, payment of future dividends is
also subject to the maintenance of other capital ratio requirements. Management
expects that in the aggregate, its subsidiary banks will continue to have the
ability to dividend adequate funds to the Parent Company to meet its near-term
liquidity needs. In addition, the Parent Company has a $15.0 million unsecured
line of credit with an unrelated financial institution available for general
corporate purposes. This line of credit matures in June 2009 and bears interest
at the three-month LIBOR rate plus 140 basis points.
The
Parent Company had cash balances of $4.3 million at year-end 2008, a decrease of
$10.7 million or 71.3% from the prior year-end. Significant cash receipts of the
Parent Company during 2008 include $9.6 million in dividends from its
subsidiaries. Significant cash payments by the Parent Company during 2008
include $1.0 million to purchase Company common stock, $9.7 million for the
payment of dividends to shareholders, and $6.4 million additional capital
investments in subsidiaries. Each of the Company’s subsidiary banks continued to
maintain “well capitalized” status as defined by the FDIC subsequent to their
dividend payments to the Parent Company.
The
Company's objective as it relates to liquidity is to ensure that its subsidiary
banks have funds available to meet deposit withdrawals and credit demands
without unduly penalizing profitability. In order to maintain a proper level of
liquidity, the subsidiary banks have several sources of funds available on a
daily basis that can be used for liquidity purposes. Those sources of funds
include the subsidiary banks' core deposits, consisting of both business and
nonbusiness deposits; cash flow generated by repayment of principal and interest
on loans and investment securities; FHLB and other borrowings; and federal funds
purchased and securities sold under agreements to repurchase. While maturities
and scheduled amortization of loans and investment securities are generally a
predictable source of funds, deposit outflows and mortgage prepayments are
influenced significantly by general interest rates, economic conditions, and
competition in our local markets. As of December 31, 2008, the
Company had $127 million in additional borrowing capacity under various FHLB,
federal funds, and other borrowing agreements. However, there is no guarantee
that these sources of funds will continue
39
to be
available to the Company, or that current borrowings can be refinanced upon
maturity, although the Company is not aware of any events or uncertainties that
are likely to cause a decrease in the Company’s liquidity from these
sources.
For the
longer term, the liquidity position is managed by balancing the maturity
structure of the balance sheet. This process allows for an orderly flow of funds
over an extended period of time. The Company’s ALCOs, both at the bank
subsidiary level and on a consolidated basis, meets regularly and monitors the
composition of the balance sheet to ensure comprehensive management of interest
rate risk and liquidity.
Liquid
assets consist of cash, cash equivalents, and available for sale investment
securities. At December 31, 2008, consolidated liquid assets were
$725 million, an increase of $103 million or 16.6% from year-end
2007. The increase in liquid assets is mainly attributed to $112
million higher cash and equivalents, partially offset by lower available for
sale investment securities of $8.3 million. The increase in cash and equivalents
is due mainly to higher deposit activity of the Commonwealth and the overall
funding position of the Company, which changes as loan demand, deposit levels,
and other sources and uses of funds fluctuate. The decrease in available for
sale investments securities was led by the $14.0 million OTTI charge related to
the GSE investments during the third quarter coupled with matured, sold, or
called investments that exceeded new purchased amounts.
Net cash
provided by operating activities was $20.8 million for 2008, a decrease of $1.8
million or 7.9% compared to 2007. Net cash used in investing activities was
$34.7 million for 2008 compared to $313 million a year earlier. The $278 million
improvement in cash flows is mainly due to investment securities transactions
and loan activity. Net cash provided by securities transactions was $3.6 million
in the current year compared to net cash used of $209 million primarily as a
result of the $200 million balance sheet leverage transaction in 2007. Net loans
originated for investment, a cash outflow, was $36.4 million in 2008 compared to
$100 million a year earlier. Net cash provided by financing activities was $126
million for 2008, a decrease of $87.3 million or 41.0% compared to $213 million
for 2007. The decrease in net cash provided by financing activities is
attributed to a $209 million net decrease related to long-term borrowings and a
$17.6 million reduction in Company common stock purchases, partially offset by
higher net additional funding from deposits of $112 million. The $209 million
lower net proceeds from long-term borrowings in 2008 were mainly attributed to
the $200 million balance sheet leverage transaction that significantly increased
borrowings in 2007. Repurchases of Company common stock were unusually high for
2007 as a result of share buy-backs under the Company’s tender offer. Deposit
growth for 2008 was attributed mainly to noninterest bearing deposits of the
Commonwealth. Deposits of the Commonwealth grew $50.3 million during 2008
compared to an overall decrease of $53.3 million during 2007.
During
the fourth quarter 2008, the Company announced that it would participate in the
Treasury’s voluntary CPP that was designed to inject $250 billion directly into
U.S. financial institutions to build additional capital and encourage the flow
of financing to U.S. businesses and consumers in response to a weakening
economy. During January 2009, the Company completed its transaction and received
a $30 million cash equity investment from the Treasury. Proceeds received by the
Company will be used to boost already-strong capital levels and position it to
seize upon organic growth opportunities by lending to well-qualified individuals
and businesses in our communities consistent with the intent of the Treasury.
Increased capital levels will also allow the Company to better respond to the
challenges and uncertainties of the harsh economic environment. Capital received
under the CPP is viewed by the Company to be a temporary bridge until the
capital markets become more favorable to make a follow-up public offering of its
common or preferred stock.
Information
relating to off-balance sheet arrangements is disclosed in Note 15 of the
Company’s 2008 audited consolidated financial statements. These transactions are
entered into in the ordinary course of providing traditional banking services
and are considered in managing the Company’s liquidity position. The Company
does not expect these commitments to significantly affect the liquidity position
in future periods. The Company has not entered into any contracts for financial
derivative instruments such as futures, swaps, options, or similar
instruments.
CAPITAL
RESOURCES
Shareholders’
equity was $168 million at December 31, 2008, virtually unchanged from December
31, 2007. Retained earnings decreased $6.1 million during 2008 and was driven by
the non-cash OTTI charge of $14.0 million related to the Company’s GSE
investments in the third quarter. An increase in other comprehensive income of
$5.8 million nearly offset the decline in retained earnings for 2008.
Accumulated other comprehensive income was up $4.7 million due mainly to a
higher net after-tax market value of the Company’s available for sale investment
portfolio due in large part to an overall general decline in market interest
rates. An additional $1.1 million increase in accumulated other comprehensive
income is mainly attributed to the change in funded status of the Company’s
defined benefit postretirement health insurance plans. Under current regulatory
requirements, accumulated other comprehensive amounts related to the net
unrealized gain or loss on securities available for sale and the funded status
of the Company’s defined benefit postretirement benefit plans do not impact
regulatory capital; therefore, they are not included in the risk-based capital
or leverage ratios that follow.
40
As
previously discussed, the Company elected to participate in the Treasury’s CPP
and during early 2009 issued 30 thousand shares of preferred stock in return for
a $30 million equity investment. In connection with its participation in the
CPP, the Company also issued warrants to the Treasury to purchase 224 thousand
shares of the Company’s stock at an exercise price of $20.09.
The
non-voting preferred shares issued to the Treasury will pay a 5% annual
cumulative dividend during the first five years the preferred shares are
outstanding, resetting to 9% thereafter if not redeemed, and includes certain
restrictions on dividend payments of lower ranking equity. The Company is not
restricted in its ability to continue paying quarterly dividends to its common
stockholders consistent with historical practice. Under the original terms of
the agreement, the Company could not redeem the preferred shares during the
first three years after issuance except with the proceeds from a qualified
equity offering as defined in the Treasury’s term sheet. Subsequent
regulations from the Treasury allow CPP participants to now redeem the preferred
shares at any time after receiving approval by the Treasury and the
participant’s primary regulator. The term sheet and additional information about
the Program are available on the Treasury’s website at http://www.ustreas.gov.
Consistent
with the objective of operating a sound financial organization, the Company’s
goal is to maintain capital ratios well above the regulatory minimum
requirements. The Company's capital ratios as of December 31, 2008 and the
regulatory minimums are as follows.
|
Farmers
Capital
Bank
Corporation
|
Regulatory
Minimum
|
|||||||
|
Tier
1 risk-based
|
11.32 | % | 4.00 | % | ||||
|
Total
risk-based
|
12.55 | 8.00 | ||||||
|
Leverage
|
7.37 | 4.00 | ||||||
The
capital ratios of each subsidiary bank were in excess of the applicable minimum
regulatory capital ratio requirements at December 31, 2008. The Company is not
aware of any recommendations by its regulatory authorities which, if
implemented, would have a material effect on its capital resources, liquidity,
or operations.
The table
below is an analysis of dividend payout ratios and equity to asset ratios for
the previous five years.
|
Years
Ended December 31,
|
2008
|
2007
|
2006
|
2005
|
2004
|
||||||||||||||||
|
Percentage
of dividends declared to income from continuing operations
|
220.96 | % | 64.52 | % | 78.89 | % | 61.67 | % | 68.10 | % | |||||||||||
|
Percentage
of average shareholders’ equity to average total assets1
|
7.86 | 9.33 | 10.04 | 10.19 | 10.45 | ||||||||||||||||
1Excludes
assets of discontinued operations.
Share
Buy Back Program
At
various times, the Company’s Board of Directors has authorized the purchase
shares of the Company’s outstanding common stock. No stated
expiration dates have been established under any of the previous authorizations.
There are 84,971 shares that may still be purchased under the various
authorizations. The Company’s participation in the Treasury’s CPP in early 2009
restricts the Company’s ability to purchase its outstanding common stock. Until
January 9, 2012 the Company generally must have the Treasury’s approval before
it can purchase its outstanding common stock, unless all of the Series A
Preferred Stock issued under the CPP has been redeemed by the Company or
transferred by the Treasury.
As of
February 16, 2009, the Company had 2,885 shareholders of record.
Farmers
Capital Bank Corporation's common stock is traded on the NASDAQ Stock Market LLC
exchange in the Global Select Market tier, with sales prices reported under the
symbol: FFKT. The table below lists the stock prices and dividends declared for
2008 and 2007.
41
Stock
Prices
|
High
|
Low
|
Dividends
Declared
|
||||||||||
|
2008
|
||||||||||||
|
Fourth
Quarter
|
$ | 30.05 | $ | 16.00 | $ | .33 | ||||||
|
Third
Quarter
|
32.70 | 17.25 | .33 | |||||||||
|
Second
Quarter
|
26.99 | 17.01 | .33 | |||||||||
|
First
Quarter
|
28.40 | 23.20 | .33 | |||||||||
|
2007
|
||||||||||||
|
Fourth
Quarter
|
$ | 30.72 | $ | 26.43 | $ | .33 | ||||||
|
Third
Quarter
|
33.50 | 28.35 | .33 | |||||||||
|
Second
Quarter
|
31.66 | 28.29 | .33 | |||||||||
|
First
Quarter
|
35.35 | 29.00 | .33 | |||||||||
The
closing price per share of common stock on December 31, 2008, the last trading
day of the Company’s fiscal year, was $24.42. Dividends declared per share were
$1.32 for 2008 and 2007.
Recently
Issued Accounting Standards
Please
refer to the caption “Recently Issued But Not Yet Effective Accounting
Standards” in Note 1 of the Company’s 2008 audited consolidated financial
statements.
2007
Compared to 2006
Consolidated
net income for 2007 was $15.6 million, a decrease of $5.7 million or 26.9%
compared to $21.4 million for 2006. Basic and diluted net income per share for
2007 was $2.03. This represents a decrease of $.82 or 28.8% and $.81 or 28.5% on
a basic and diluted basis, respectively. Net income for 2006 includes $7.7
million attributed to discontinued operations, including gains on disposals (net
of tax) of $6.4 million.
Income
from continuing operations for 2007 was $15.6 million, an increase of $2.0
million or 14.4% from $13.7 million in 2006. Basic and diluted income per share
from continuing operations for 2007 was $2.03 compared to $1.82 in 2006. This
represents an increase of $.21 or 11.5% on a per share basis.
For 2007,
the Company reported a $7.3 million or 14.4% increase in net interest income and
a higher provision for loan losses of $2.7 million. The increase in net interest
income is primarily due to higher interest on loans of $17.6 million or 22.8%,
partially offset by $12.6 million or 38.7% higher interest expense on deposits.
The increase in net interest income in 2007 was boosted by an additional $4.5
million related to the Citizens Jessamine acquisition that occurred during the
fourth quarter of 2006. Net noninterest expense (noninterest expense in excess
of noninterest income) increased $1.7 million and the provision for income taxes
increased $927 thousand.
During
2007, the general trend of the interest rate environment was sharply lower,
particularly with short-term rates. In the final half of 2007, the Fed lowered
the short-term federal funds rate by a total of 100 basis points and at year-end
2007 the rate was 4.25%. The prime interest rate declined in a similar
manner. Yields on Treasury obligations, which impact the value of
bond investments and certain funding sources, declined throughout all maturity
periods in comparison to a year earlier. The effect of lower market rates did
have a negative impact on the Company’s net interest spread and margin during
2007; however, at year-end 2007 the Company had yet to absorb the full impact
due to the timing of market interest rate changes and the repricing
characteristics of the Company’s interest sensitive assets and
liabilities.
Action by
the Fed to lower rates during 2007 coincided with a decline in many economic
data, particularly as it related to the housing market, and the resulting
general tightening of credit conditions in the broader economy. In January 2008,
the Fed took further action by lowering the federal funds rate by an additional
125 basis points. This action was taken a result of the heightened concerns over
a weakening economic outlook and increasing downside risk to growth, as broader
financial market conditions deteriorated and credit had tightened for many
businesses and households. In addition, market data at that time indicated a
deepening of the housing contraction as well as softening labor
markets.
The
information required by this item is incorporated by reference to Part II, Item
7 under the caption “Market Risk Management”
on pages 38 and 39 of this Form 10-K.
42
MANAGEMENT’S
RESPONSIBILITY FOR FINANCIAL REPORTING
The
management of Farmers Capital Bank Corporation has the responsibility for
preparing the accompanying consolidated financial statements and for their
integrity and objectivity. The statements were prepared in accordance with
accounting principles generally accepted in the United States of America. The
consolidated financial statements include amounts that are based on management's
best estimates and judgments. Management also prepared other information in the
annual report and is responsible for its accuracy and consistency with the
financial statements.
The
Company’s 2008 consolidated financial statements have been audited by Crowe
Horwath LLP independent accountants. Management has made available to Crowe
Horwath LLP all financial records and related data, as well as the minutes of
Boards of Directors’ meetings. Management believes that all
representations made to Crowe Horwath LLP during the audit were valid and
appropriate.
|
G.
Anthony Busseni
|
C.
Douglas Carpenter
|
|
President
and CEO
|
Senior
Vice President, Secretary, and CFO
|
|
March
11, 2009
|
43
Board of
Directors and Shareholders
Farmers
Capital Bank Corporation
Frankfort,
Kentucky
We have
audited the accompanying consolidated balance sheets of Farmers Capital Bank
Corporation as of December 31, 2008 and 2007 and the related consolidated
statements of income, comprehensive income, changes in shareholders’ equity, and
cash flows for each of the three years in the period ended December 31,
2008. We also have audited Farmer Capital Bank Corporation’s internal
control over financial reporting as of December 31, 2008, based on criteria
established in Internal
Control – Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Farmers Capital Bank
Corporation’s management is responsible for these financial statements, for
maintaining effective internal control over financial reporting, and for its
assessment of the effectiveness of internal control over financial reporting,
included in the accompanying Management’s Report on Internal Control over
Financial Reporting. Our responsibility is to express an opinion on
these financial statements and an opinion on the company's internal control over
financial reporting based on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require
that we plan and perform the audits to obtain reasonable assurance about whether
the financial statements are free of material misstatement and whether effective
internal control over financial reporting was maintained in all material
respects. Our audits of the financial statements included examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements, assessing the accounting principles used and significant
estimates made by management, and evaluating the overall financial statement
presentation. Our audit of internal control over financial reporting
included obtaining an understanding of internal control over financial
reporting, assessing the risk that a material weakness exists, and testing and
evaluating the design and operating effectiveness of internal control based on
the assessed risk. Our audits also included performing such other
procedures as we considered necessary in the circumstances. We believe that our
audits provide a reasonable basis for our opinions.
A
company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal
control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial
statements.
Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation
of effectiveness to future periods are subject to the risk that controls may
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.
In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Farmers Capital Bank
Corporation as of December 31, 2008 and 2007, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2008, in conformity with accounting principles generally
accepted in the United States of America. Also in our opinion Farmers
Capital Bank Corporation maintained, in all material respects, effective
internal control over financial reporting as of December 31, 2008, based on
criteria established in Internal Control – Integrated
Framework issued by the COSO.
Crowe Horwath
LLP
Louisville,
Kentucky
March 11,
2009
44
|
December
31, (In thousands, except share data)
|
2008
|
2007
|
||||||
|
Assets
|
||||||||
|
Cash
and cash equivalents:
|
||||||||
|
Cash
and due from banks
|
$ | 87,656 | $ | 44,896 | ||||
|
Interest
bearing deposits in other banks
|
94,823 | 2,290 | ||||||
|
Federal
funds sold and securities purchased under agreements to
resell
|
8,296 | 31,954 | ||||||
|
Total
cash and cash equivalents
|
190,775 | 79,140 | ||||||
|
Investment
securities:
|
||||||||
|
Available
for sale, amortized cost of $526,698 (2008) and $542,259
(2007)
|
534,295 | 542,633 | ||||||
|
Held
to maturity, fair value of $1,667 (2008) and $3,863 (2007)
|
1,814 | 3,844 | ||||||
|
Total
investment securities
|
536,109 | 546,477 | ||||||
|
Loans,
net of unearned income
|
1,312,580 | 1,291,985 | ||||||
|
Allowance
for loan losses
|
(16,828 | ) | (14,216 | ) | ||||
|
Loans,
net
|
1,295,752 | 1,277,769 | ||||||
|
Premises
and equipment, net
|
43,046 | 38,663 | ||||||
|
Company-owned
life insurance
|
35,396 | 34,171 | ||||||
|
Goodwill
|
52,408 | 52,408 | ||||||
|
Other
intangible assets, net
|
6,941 | 9,543 | ||||||
|
Other
assets
|
41,740 | 30,076 | ||||||
|
Total
assets
|
$ | 2,202,167 | $ | 2,068,247 | ||||
|
Liabilities
|
||||||||
|
Deposits:
|
||||||||
|
Noninterest
bearing
|
$ | 241,518 | $ | 192,432 | ||||
|
Interest
bearing
|
1,352,597 | 1,281,665 | ||||||
|
Total
deposits
|
1,594,115 | 1,474,097 | ||||||
|
Term
federal funds purchased and other short-term borrowings
|
77,474 | 80,755 | ||||||
|
Securities
sold under agreements to repurchase and other long-term
borrowings
|
286,691 | 267,339 | ||||||
|
Subordinated
notes payable to unconsolidated trusts
|
48,970 | 48,970 | ||||||
|
Dividends
payable
|
2,427 | 2,436 | ||||||
|
Other
liabilities
|
24,194 | 26,159 | ||||||
|
Total
liabilities
|
2,033,871 | 1,899,756 | ||||||
|
Shareholders’
Equity
|
||||||||
|
Preferred
stock, no par value; 1,000,000 shares authorized; none
issued
|
||||||||
|
Common
stock, par value $.125 per share; 9,608,000 shares
authorized;
7,357,362
and 7,384,865 shares issued and outstanding at
December
31, 2008 and 2007, respectively
|
920 | 923 | ||||||
|
Capital
surplus
|
48,222 | 48,176 | ||||||
|
Retained
earnings
|
116,419 | 122,498 | ||||||
|
Accumulated
other comprehensive income (loss)
|
2,735 | (3,106 | ) | |||||
|
Total
shareholders’ equity
|
168,296 | 168,491 | ||||||
|
Total
liabilities and shareholders’ equity
|
$ | 2,202,167 | $ | 2,068,247 | ||||
See
accompanying notes to consolidated financial statements.
45
|
(In
thousands, except per share data)
|
||||||||||||
|
Years
Ended December 31,
|
2008
|
2007
|
2006
|
|||||||||
|
Interest
Income
|
||||||||||||
|
Interest
and fees on loans
|
$ | 86,596 | $ | 94,941 | $ | 77,303 | ||||||
|
Interest
on investment securities:
|
||||||||||||
|
Taxable
|
22,894 | 12,627 | 9,025 | |||||||||
|
Nontaxable
|
3,231 | 3,356 | 3,657 | |||||||||
|
Interest
on deposits in other banks
|
133 | 64 | 53 | |||||||||
|
Interest
on federal funds sold and securities purchased under agreements to
resell
|
1,066 | 3,269 | 2,302 | |||||||||
|
Total
interest income
|
113,920 | 114,257 | 92,340 | |||||||||
|
Interest
Expense
|
||||||||||||
|
Interest
on deposits
|
39,045 | 45,157 | 32,554 | |||||||||
|
Interest
on federal funds purchased and other short-term borrowings
|
1,785 | 4,504 | 4,676 | |||||||||
|
Interest
on subordinated notes payable to unconsolidated trusts
|
2,865 | 2,394 | 1,747 | |||||||||
|
Interest
on securities sold under agreements to purchase and other long-term
borrowings
|
11,435 | 3,984 | 2,455 | |||||||||
|
Total
interest expense
|
55,130 | 56,039 | 41,432 | |||||||||
|
Net
interest income
|
58,790 | 58,218 | 50,908 | |||||||||
|
Provision
for loan losses
|
5,321 | 3,638 | 965 | |||||||||
|
Net
interest income after provision for loan losses
|
53,469 | 54,580 | 49,943 | |||||||||
|
Noninterest
Income
|
||||||||||||
|
Service
charges and fees on deposits
|
9,847 | 10,320 | 7,984 | |||||||||
|
Allotment
processing fees
|
4,791 | 4,363 | 2,601 | |||||||||
|
Other
service charges, commissions, and fees
|
4,346 | 4,164 | 3,824 | |||||||||
|
Data
processing income
|
1,087 | 1,227 | 1,719 | |||||||||
|
Trust
income
|
2,032 | 2,053 | 1,790 | |||||||||
|
Investment
securities losses, net
|
(166 | ) | (195 | ) | ||||||||
|
Other-than-temporary
impairment of investment securities
|
(13,962 | ) | ||||||||||
|
Gains
on sale of mortgage loans, net
|
407 | 591 | 649 | |||||||||
|
Income
from company-owned life insurance
|
1,235 | 1,278 | 1,343 | |||||||||
|
Other
|
193 | 161 | 744 | |||||||||
|
Total
noninterest income
|
9,810 | 24,157 | 20,459 | |||||||||
|
Noninterest
Expense
|
||||||||||||
|
Salaries
and employee benefits
|
30,174 | 31,420 | 28,978 | |||||||||
|
Occupancy
expenses, net
|
4,515 | 4,261 | 3,664 | |||||||||
|
Equipment
expenses
|
3,187 | 3,232 | 2,929 | |||||||||
|
Data
processing and communications expenses
|
5,423 | 4,770 | 5,018 | |||||||||
|
Bank
franchise tax
|
2,158 | 2,086 | 1,831 | |||||||||
|
Correspondent
bank fees
|
1,040 | 721 | 692 | |||||||||
|
Amortization
of intangibles
|
2,602 | 3,362 | 2,009 | |||||||||
|
Other
|
10,999 | 8,971 | 8,256 | |||||||||
|
Total
noninterest expense
|
60,098 | 58,823 | 53,377 | |||||||||
|
Income
from continuing operations before income taxes
|
3,181 | 19,914 | 17,025 | |||||||||
|
Income
tax (benefit) expense from continuing operations
|
(1,214 | ) | 4,287 | 3,360 | ||||||||
|
Income
from continuing operations
|
4,395 | 15,627 | 13,665 | |||||||||
|
Income
from discontinued operations before income taxes (including gain on
disposals of $9,873)
|
11,842 | |||||||||||
|
Income
tax expense from discontinued operations (including $3,456 related to gain
on disposals)
|
4,135 | |||||||||||
|
Income
from discontinued operations
|
7,707 | |||||||||||
|
Net
income
|
$ | 4,395 | $ | 15,627 | $ | 21,372 | ||||||
|
Net
Income Per Common Share
|
||||||||||||
|
Income
from continuing operations – basic
|
$ | .60 | $ | 2.03 | $ | 1.82 | ||||||
|
Income
from discontinued operations – basic
|
1.03 | |||||||||||
|
Net
income per common share – basic
|
.60 | 2.03 | 2.85 | |||||||||
|
Income
from continuing operations – diluted
|
.60 | 2.03 | 1.82 | |||||||||
|
Income
from discontinued operations - diluted
|
1.02 | |||||||||||
|
Net
income per common share - diluted
|
.60 | 2.03 | 2.84 | |||||||||
|
Weighted
Average Shares Outstanding
|
||||||||||||
|
Basic
|
7,357 | 7,706 | 7,511 | |||||||||
|
Diluted
|
7,357 | 7,706 | 7,526 | |||||||||
See
accompanying notes to consolidated financial statements.
46
|
(In
thousands)
|
||||||||||||
|
Years
Ended December 31,
|
2008
|
2007
|
2006
|
|||||||||
|
Net
income
|
$ | 4,395 | $ | 15,627 | $ | 21,372 | ||||||
|
Other
comprehensive income:
|
||||||||||||
|
Unrealized
holding gain on available for sale securities arising during the period on
securities held at end of period, net of tax of $2,613, $830, and $306,
respectively
|
4,853 | 1,542 | 568 | |||||||||
|
Reclassification
adjustment for prior period unrealized loss previously reported in other
comprehensive income recognized during current period, net of tax of $85,
$5, and $22, respectively
|
(158 | ) | 10 | 40 | ||||||||
|
Change
in unfunded portion of postretirement benefit obligation, net of tax of
$613 and $603, respectively
|
1,146 | 1,120 | ||||||||||
|
Other
comprehensive income
|
5,841 | 2,672 | 608 | |||||||||
|
Comprehensive
income
|
$ | 10,236 | $ | 18,299 | $ | 21,980 | ||||||
See
accompanying notes to consolidated financial statements.
47
|
(In
thousands, except per share data)
|
Accumulated
Other
|
Total
|
||||||||||||||||||||||
|
Years
Ended
|
Common
Stock
|
Capital
|
Retained
|
Comprehensive
|
Shareholders’
|
|||||||||||||||||||
|
December
31, 2008, 2007, and 2006
|
Shares
|
Amount
|
Surplus
|
Earnings
|
(Loss)
Income
|
Equity
|
||||||||||||||||||
|
Balance
at January 1, 2006
|
7,389 | $ | 924 | $ | 36,468 | $ | 118,761 | $ | (1,917 | ) | $ | 154,236 | ||||||||||||
|
Net
income
|
21,372 | 21,372 | ||||||||||||||||||||||
|
Other
comprehensive income
|
608 | 608 | ||||||||||||||||||||||
|
Cash
dividends declared, $1.43 per share
|
(10,781 | ) | (10,781 | ) | ||||||||||||||||||||
|
Purchase
of common stock
|
(26 | ) | (3 | ) | (117 | ) | (700 | ) | (820 | ) | ||||||||||||||
|
Stock
options exercised, including related tax benefits
|
60 | 8 | 1,536 | 1,544 | ||||||||||||||||||||
|
Shares
issued pursuant to Employee Stock Purchase Plan
|
8 | 1 | 222 | 223 | ||||||||||||||||||||
|
Expense
related to employee stock purchase plan and stock options
|
154 | 154 | ||||||||||||||||||||||
|
Shares
issued in connection with the
purchase
of Citizens National
Bancshares,
Inc.
|
464 | 58 | 14,938 | 14,996 | ||||||||||||||||||||
|
Adjustment
to initially apply SFAS
No.158,
net of tax of $2,407
|
(4,469 | ) | (4,469 | ) | ||||||||||||||||||||
|
Balance
at December 31, 2006
|
7,895 | 988 | 53,201 | 128,652 | (5,778 | ) | 177,063 | |||||||||||||||||
|
Net
income
|
15,627 | 15,627 | ||||||||||||||||||||||
|
Other
comprehensive income
|
2,672 | 2,672 | ||||||||||||||||||||||
|
Cash
dividends declared, $1.32 per share
|
(10,082 | ) | (10,082 | ) | ||||||||||||||||||||
|
Purchase
of common stock
|
(584 | ) | (73 | ) | (6,877 | ) | (11,699 | ) | (18,649 | ) | ||||||||||||||
|
Stock
options exercised, including related tax benefits
|
63 | 7 | 1,540 | 1,547 | ||||||||||||||||||||
|
Shares
issued pursuant to Employee Stock Purchase Plan
|
11 | 1 | 253 | 254 | ||||||||||||||||||||
|
Expense
related to employee stock purchase plan and stock options
|
59 | 59 | ||||||||||||||||||||||
|
Balance
at December 31, 2007
|
7,385 | 923 | 48,176 | 122,498 | (3,106 | ) | 168,491 | |||||||||||||||||
|
Net
income
|
4,395 | 4,395 | ||||||||||||||||||||||
|
Other
comprehensive income
|
5,841 | 5,841 | ||||||||||||||||||||||
|
Cash
dividends declared, $1.32 per share
|
(9,711 | ) | (9,711 | ) | ||||||||||||||||||||
|
Purchase
of common stock
|
(43 | ) | (5 | ) | (281 | ) | (763 | ) | (1,049 | ) | ||||||||||||||
|
Stock
options exercised, including related tax benefits
|
1 | 30 | 30 | |||||||||||||||||||||
|
Shares
issued pursuant to Employee Stock Purchase Plan
|
14 | 2 | 250 | 252 | ||||||||||||||||||||
|
Expense
related to employee stock purchase plan
|
47 | 47 | ||||||||||||||||||||||
|
Balance
at December 31, 2008
|
7,357 | $ | 920 | $ | 48,222 | $ | 116,419 | $ | 2,735 | $ | 168,296 | |||||||||||||
See
accompanying notes to consolidated financial statements.
48
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Cash
Flows from Operating Activities
|
||||||||||||
|
Net
income
|
$ | 4,395 | $ | 15,627 | $ | 21,372 | ||||||
|
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
||||||||||||
|
Depreciation
and amortization
|
6,642 | 7,477 | 5,826 | |||||||||
|
Net
accretion of investment security discounts:
|
||||||||||||
|
Available
for sale
|
(179 | ) | (1,132 | ) | (424 | ) | ||||||
|
Held
to maturity
|
1 | (25 | ) | |||||||||
|
Provision
for loan losses
|
5,321 | 3,638 | 965 | |||||||||
|
Deferred
income tax benefit
|
(2,046 | ) | (1,807 | ) | (1,848 | ) | ||||||
|
Noncash
stock option expense
|
47 | 59 | 125 | |||||||||
|
Mortgage
loans originated for sale
|
(17,347 | ) | (19,684 | ) | (29,539 | ) | ||||||
|
Proceeds
from sale of mortgage loans
|
16,185 | 21,081 | 26,973 | |||||||||
|
Gains
on sale of mortgage loans, net
|
(407 | ) | (591 | ) | (649 | ) | ||||||
|
Loss
(gain) on sale of premises and equipment, net
|
17 | 89 | (174 | ) | ||||||||
|
(Gain)
loss on sale of repossessed assets
|
(149 | ) | (365 | ) | 376 | |||||||
|
Loss
on sale of available for sale investment securities, net
|
166 | 195 | ||||||||||
|
Other-than-temporary
impairment of investment securities
|
13,962 | |||||||||||
|
Decrease
(increase) in accrued interest receivable
|
1,169 | (1,602 | ) | (3,450 | ) | |||||||
|
Income
from company-owned life insurance
|
(1,225 | ) | (1,242 | ) | (1,301 | ) | ||||||
|
(Increase)
decrease in other assets
|
(5,589 | ) | 1,968 | 1,422 | ||||||||
|
(Decrease)
increase in accrued interest payable
|
(634 | ) | 1,672 | 2,594 | ||||||||
|
Increase
(decrease) increase in other liabilities
|
432 | (2,656 | ) | 4,409 | ||||||||
|
Gain
on sales of discontinued operations
|
(9,873 | ) | ||||||||||
|
Net
cash provided by discontinued operating activities
|
1,390 | |||||||||||
|
Net
cash provided by operating activities
|
20,760 | 22,533 | 18,364 | |||||||||
|
Cash
Flows from Investing Activities
|
||||||||||||
|
Proceeds
from maturities and calls of investment securities:
|
||||||||||||
|
Available
for sale
|
219,724 | 323,155 | 121,699 | |||||||||
|
Held
to maturity
|
2,030 | 3,943 | 5,847 | |||||||||
|
Proceeds
from sale of available for sale investment securities
|
34,055 | 20,009 | 19,263 | |||||||||
|
Purchases
of available for sale investment securities
|
(252,167 | ) | (555,792 | ) | (138,081 | ) | ||||||
|
Loans
originated for investment, net of principal collected
|
(36,357 | ) | (100,328 | ) | (114,216 | ) | ||||||
|
Purchase
of company-owned life insurance
|
(1,579 | ) | ||||||||||
|
Payment
of prior year accrued purchase price-Citizens Bancorp,
Inc.
|
(21,846 | ) | ||||||||||
|
Net
cash acquired in purchase of Citizens National Bancshares,
Inc.
|
1,066 | |||||||||||
|
Purchase
of PNC Military Allotment operations, net of cash acquired
|
(1,943 | ) | ||||||||||
|
Purchase
price refinements of previous acquisitions
|
50 | (29 | ) | |||||||||
|
Investment
in unconsolidated trusts
|
(696 | ) | ||||||||||
|
Additions
to mortgage servicing rights, net
|
(77 | ) | (94 | ) | (47 | ) | ||||||
|
Purchases
of premises and equipment
|
(10,640 | ) | (5,245 | ) | (9,682 | ) | ||||||
|
Proceeds
from sale of repossessed assets
|
6,348 | 3,473 | 6,149 | |||||||||
|
Proceeds
from sale of equipment
|
2,357 | 330 | 720 | |||||||||
|
Net
cash received on disposal of discontinued operations
|
47 | |||||||||||
|
Net
cash provided by discontinued investing activities
|
9,384 | |||||||||||
|
Net
cash used in investing activities
|
(34,727 | ) | (313,138 | ) | (121,305 | ) | ||||||
|
Cash
Flows from Financing Activities
|
||||||||||||
|
Net
increase in deposits
|
120,018 | 8,407 | 123,728 | |||||||||
|
Net
(decrease) increase in federal funds purchased and other short-term
borrowings
|
(3,281 | ) | 4,037 | 1,722 | ||||||||
|
Proceeds
from securities sold under agreements to purchase and other long-term
debt
|
27,000 | 249,196 | 26,198 | |||||||||
|
Repayments
of securities sold under agreements to purchase and other long-term
debt
|
(7,648 | ) | (20,879 | ) | (13,496 | ) | ||||||
|
Dividends
paid on common stock
|
(9,720 | ) | (11,118 | ) | (9,553 | ) | ||||||
|
Purchase
of common stock
|
(1,049 | ) | (18,649 | ) | (820 | ) | ||||||
|
Shares
issued under Employee Stock Purchase Plan
|
252 | 254 | 223 | |||||||||
|
Stock
options exercised and related tax benefits
|
30 | 1,669 | 1,697 | |||||||||
|
Net
cash provided by discontinued financing activities
|
3,710 | |||||||||||
|
Net
cash provided by financing activities
|
125,602 | 212,917 | 133,409 | |||||||||
|
Net
increase (decrease) in cash and cash equivalents
|
111,635 | (77,688 | ) | 30,468 | ||||||||
|
Less:
net increase in cash and cash equivalents of discontinued
operations
|
(4,658 | ) | ||||||||||
|
Net
increase (decrease) in cash and cash equivalents from continuing
operations
|
111,635 | (77,688 | ) | 25,810 | ||||||||
|
Cash
and cash equivalents from continuing operations at beginning of
year
|
79,140 | 156,828 | 131,018 | |||||||||
|
Cash
and cash equivalents from continuing operations at end of
year
|
$ | 190,775 | $ | 79,140 | $ | 156,828 | ||||||
|
(table
continues on next page)
|
||||||||||||
49
|
Supplemental
Disclosures
|
||||||||||||
|
Cash
paid during the year for:
|
||||||||||||
|
Interest
|
$ | 55,764 | $ | 54,367 | $ | 42,685 | ||||||
|
Income
taxes
|
6,600 | 9,854 | 4,900 | |||||||||
|
Transfers
from loans to repossessed assets
|
14,622 | 3,952 | 1,973 | |||||||||
|
Cash
dividend declared and unpaid at year-end
|
2,427 | 2,436 | 3,472 | |||||||||
|
Issuance
of 464 and 584 shares of common stock to acquire Citizens National
Bancshares, Inc. and Citizens Bancorp, Inc., respectively
|
14,996 | |||||||||||
See
accompanying notes to consolidated financial statements.
50
The
accounting and reporting policies of Farmers Capital Bank Corporation and
subsidiaries conform to accounting principles generally accepted in the United
States of America and general practices applicable to the banking industry.
Significant accounting policies are summarized below.
Principles
of Consolidation and Nature of Operations
The
consolidated financial statements include the accounts of Farmers Capital Bank
Corporation (the “Company” or “Parent Company”), a financial holding company,
and its bank and nonbank subsidiaries. Bank subsidiaries include Farmers Bank
& Capital Trust Co. in Frankfort, KY and its significant wholly-owned
subsidiaries Leasing One Corporation (“Leasing One”) and Farmers Capital
Insurance Corporation (“Farmers Insurance”). Leasing One is a commercial leasing
company in Frankfort, KY and Farmers Insurance is an insurance agency in
Frankfort, KY; First Citizens Bank in Elizabethtown, KY; United Bank & Trust
Co. (“United Bank”) in Versailles, KY which, during 2008, was the surviving
company after the merger with two sister companies of Farmers Bank and Trust
Company and Citizens Bank of Jessamine County; United Bank had one subsidiary at
year-end 2008, EGT Properties, Inc. EGT Properties is involved in real estate
management and liquidation for certain repossessed properties of United
Bank; The Lawrenceburg Bank and Trust Company in Lawrenceburg, KY; Kentucky
Banking Centers, Inc. in Glasgow, KY (“KBC”), which was sold during 2006; and
Citizens Bank of Northern Kentucky, Inc. in Newport, KY (“Citizens Northern”);
Citizens Northern had one subsidiary at year-end 2008, ENKY Properties, Inc.
ENKY Properties is involved in real estate management and liquidation for
certain repossessed properties of Citizens Northern.
The
Company has four active nonbank subsidiaries, FCB Services, Inc. (“FCB
Services”), Kentucky General Holdings, LLC (“Kentucky General”), FFKT Insurance
Services, Inc. (“FFKT Insurance”), and EKT Properties, Inc. (“EKT”). FCB
Services is a data processing subsidiary located in Frankfort, KY that provides
services to the Company’s banks as well as unaffiliated entities. Kentucky
General holds a 50% voting interest in KHL Holdings, LLC, which is the parent
company of Kentucky Home Life Insurance Company. FFKT Insurance is a captive
property and casualty insurance company insuring primarily deductible exposures
and uncovered liability related to properties of the Company. EKT was created in
2008 to manage and liquidate certain real estate properties repossessed by the
Company. In addition, the Company has three subsidiaries organized as Delaware
statutory trusts that are not consolidated into its financial statements. These
trusts were formed for the purpose of issuing trust preferred securities. All
significant intercompany transactions and balances are eliminated in
consolidation.
The
Company provides financial services at its 37 locations in 23 communities
throughout Central and Northern Kentucky to individual, business, agriculture,
government, and educational customers. Its primary deposit products are
checking, savings, and term certificate accounts. Its primary lending
products are residential mortgage, commercial lending and leasing, and
installment loans. Substantially all loans and leases are secured by specific
items of collateral including business assets, consumer assets, and commercial
and residential real estate. Commercial loans and leases are expected to be
repaid from cash flow from operations of businesses. Farmers Bank has served as
the general depository for the Commonwealth of Kentucky for over 70 years and
also provides investment and other services to the Commonwealth. Other services
include, but are not limited to, cash management services, issuing letters of
credit, safe deposit box rental, and providing funds transfer
services. Other financial instruments, which potentially represent
concentrations of credit risk, include deposit accounts in other financial
institutions and federal funds sold.
Use
of Estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Estimates used in the preparation of the
financial statements are based on various factors including the current interest
rate environment and the general strength of the local
economy. Changes in the overall interest rate environment can
significantly affect the Company's net interest income and the value of its
recorded assets and liabilities. Actual results could differ from those
estimates used in the preparation of the financial statements. The allowance for
loan losses, carrying value of real estate, actuarial assumptions used to
calculate postretirement benefits, and the fair values of financial instruments
are estimates that are particularly subject to change.
Reclassifications
Certain
amounts in the accompanying consolidated financial statements presented for
prior years have been reclassified to conform to the 2008 presentation. These
reclassifications do not affect net income or total shareholders' equity as
previously reported.
51
Segment
Information
The
Company provides a broad range of financial services to individuals,
corporations, and others through its 37 banking locations throughout Central and
Northern Kentucky. These services primarily include the activities of lending
and leasing, receiving deposits, providing cash management services, safe
deposit box rental, and trust activities. While the chief decision-makers
monitor the revenue streams of the various products and services, operations are
managed and financial performance is evaluated on a Company-wide
basis. Operating segments are aggregated into one as operating
results for all segments are similar. Accordingly, all of the financial service
operations are considered by management to be aggregated in one reportable
operating segment.
Cash
Flows
For
purposes of reporting cash flows, cash and cash equivalents include the
following: cash on hand, deposits from other financial institutions that have an
initial maturity of less than 90 days when acquired by the Company, federal
funds sold, and securities purchased under agreements to resell. Generally,
federal funds sold and securities purchased under agreements to resell are
purchased and sold for one-day periods. Net cash flows are reported
for loan, deposit , and short-term borrowing transactions.
Investment
Securities
Investments
in debt and equity securities are classified into three categories. Securities
that management has the positive intent and ability to hold until maturity are
classified as held to maturity. Securities that are bought and held specifically
for the purpose of selling them in the near term are classified as trading
securities. The Company had no securities classified as trading during 2008,
2007, or 2006. All other securities are classified as available for
sale. Securities are designated as available for sale if they might
be sold before maturity. Securities classified as available for sale are carried
at estimated market value. Unrealized holding gains and losses for available for
sale securities are reported net of deferred income taxes in other comprehensive
income. Investments classified as held to maturity are carried at
amortized cost.
Interest
income includes amortization and accretion of purchase premiums or discounts.
Premiums and discounts on securities are amortized using the interest method
over the expected life of the securities without anticipating prepayments,
except for mortgage backed securities where prepayments are anticipated.
Realized gains and losses on the sales of securities are recorded on the trade
date and computed on the basis of specific identification of the adjusted cost
of each security and are included in noninterest income.
A decline
in the market value of any available for sale or held to maturity security below
cost that is deemed other-than-temporary results in a charge to earnings and the
establishment of a new cost basis for the security. In estimating
other-than-temporary losses, management considers each of the following: the
length of time and extent that fair value has been less than cost, the financial
condition and near term prospects of the issuer, and the Company’s ability and
intent to hold the security for a period sufficient to allow for any anticipated
recovery in fair value. Federal Home Loan Bank (“FHLB”) and Federal Reserve
Board stock is carried at cost and periodically evaluated for impairment based
on ultimate recovery of par value. Both cash and stock dividends are reported as
income.
Loans
and Interest Income
Loans
that management has the intent and ability to hold for the foreseeable future or
until maturity or pay-off are reported at their unpaid principal amount
outstanding adjusted for any charge-offs and any deferred fees or costs on
originated loans. Interest income on loans is recognized using the interest
method based on loan principal amounts outstanding during the period. Interest
income also includes amortization and accretion of any premiums or discounts
over the expected life of acquired loans at the time of purchase or business
acquisition. Net fees and incremental direct costs associated with loan
origination are deferred and amortized as yield adjustments over the contractual
term of the loans. Generally, the accrual of interest on loans is
discontinued when it is determined that the collection of interest or principal
is doubtful, or when a default of interest or principal has existed for 90 days
or more, unless such loan is well secured and in the process of collection. Past
due status is based on the contractual terms of the loan. Cash
payments received on nonaccrual loans generally are applied to principal, and
interest income is only recorded once principal recovery is reasonably assured.
Loans are returned to accrual status when all the principal and interest amounts
contractually due are brought current and future payments are reasonably
assured.
Loans
Held for Sale
The
Company’s operations include a limited amount of mortgage banking. Mortgage
banking activities include the origination of fixed-rate residential mortgage
loans for sale to various third-party investors. Mortgage loans originated and
intended for sale in the secondary market, principally under programs with the
Federal Home Loan Mortgage Corporation, the Federal National Mortgage
Association, and other commercial lending institutions are carried at the lower
of cost or estimated market value determined in the aggregate and included in
net loans on the balance sheet until sold. These loans are sold with the related
servicing rights either retained or released by the Company depending on the
economic conditions present at the time of origination. Mortgage loans held for
sale included in net loans totaled $2,732,000 and $1,386,000 at December 31,
2008 and December 31, 2007, respectively. Mortgage banking revenues, including
origination fees, servicing fees, net gains or losses on sales of mortgages, and
other fee income were .4%, .6%, and .8%, of the Company’s total revenue for the
years ended December 31, 2008, 2007, and 2006, respectively.
52
Provision
and Allowance for Loan Losses
The
provision for loan losses represents charges made to earnings to maintain an
allowance for loan losses at an adequate level based on credit losses
specifically identified in the loan portfolio, as well as management’s best
estimate of probable incurred loan losses in the remainder of the portfolio at
the balance sheet date. The allowance for loan losses is a valuation allowance
increased by the provision for loan losses and decreased by net charge-offs.
Loan losses are charged against the allowance when management believes the
uncollectibility of a loan is confirmed. Subsequent recoveries, if any, are
credited to the allowance.
Management
estimates the allowance balance required using a risk-rated methodology. Many
factors are considered when estimating the allowance. These include, but are not
limited to, past loan loss experience, an assessment of the financial condition
of individual borrowers, a determination of the value and adequacy of underlying
collateral, the condition of the local economy, an analysis of the levels and
trends of the loan portfolio, and a review of delinquent and classified loans.
The allowance for loan losses consists of specific and general components. The
specific component relates to loans that are individually classified as impaired
or loans otherwise classified as substandard or doubtful. The general component
covers non-classified loans and is based on historical loss experience adjusted
for current risk factors. Allocations of the allowance may be made for specific
loans, but the entire allowance is available for any loan that, in management’s
judgment, should be charged off. Actual loan losses could differ significantly
from the amounts estimated by management.
The
risk-rated methodology includes segregating watch list and past due loans from
the general portfolio and allocating specific amounts to these loans depending
on their status. For example, watch list loans, which may be identified by the
internal loan review risk-rating system or by regulatory examiner
classification, are assigned a certain loss percentage while loans past due 30
days or more are assigned a different loss percentage. Each of these percentages
considers past experience as well as current factors. The remainder of the
general loan portfolio is segregated into three components having similar risk
characteristics as follows: commercial loans, consumer loans, and
real estate loans. Each of these components is assigned a loss percentage based
on their respective three year historical loss percentage. Additional
allocations to the allowance may then be made for subjective factors, such as
those mentioned above, as determined by senior managers who are knowledgeable
about these matters. During 2007, the Company further identified signs of
deterioration in certain real estate development loans that continued into 2008
and specific allowances related to these loans were recorded.
The
Company accounts for impaired loans in accordance with the SFAS No. 114, “Accounting by Creditors for
Impairment of a Loan”, as amended by SFAS No. 118, “Accounting by Creditors for
Impairment of a Loan - Income Recognition”. SFAS No. 114, as amended,
requires that impaired loans be measured at the present value of expected future
cash flows, discounted at the loan’s effective interest rate, at the loan’s
observable market price, or at the fair value of the collateral if the loan is
collateral dependent. A loan is impaired when full payment under the contractual
terms is not expected. Generally, impaired loans are also in nonaccrual status.
In certain circumstances, however, the Company may continue to accrue interest
on an impaired loan. Cash receipts on impaired loans are typically applied to
the recorded investment in the loan, including any accrued interest receivable.
Loans that are part of a large group of smaller-balance homogeneous loans, such
as residential mortgage, consumer, and smaller-balance commercial loans, are
collectively evaluated for impairment and, accordingly, they are not separately
identified for impairment disclosures.
Mortgage
Servicing Rights
Mortgage
servicing rights are recognized in other intangible assets on the Company’s
consolidated balance sheet for the allocated cost of retained servicing rights
on loans sold. Mortgage servicing rights are expensed in proportion to, and over
the period of, estimated net servicing revenues. Impairment is evaluated based
on the fair value of the rights, using groupings of the underlying loans as to
interest rates. Any impairment of a grouping is reported as a valuation
allowance. Capitalized mortgage servicing rights were $333,000 and $413,000 at
December 31, 2008 and 2007. No impairment of the asset was determined to exist
on either of these dates.
53
Fair
Value of Financial Instruments
Fair
values of financial instruments are estimated using relevant market information
and other assumptions, as more fully disclosed in Note
19. Fair value estimates involve uncertainties and matters of
significant judgment regarding interest rates, credit risk, prepayments, and
other factors, especially in the absence of broad markets for particular
items. Changes in assumptions or in market conditions could
significantly affect the estimates.
Business
Combinations
The
Company accounts for its business acquisitions as a purchase in accordance with
SFAS No. 141, whereby the purchase price is allocated to the tangible and
intangible assets acquired and liabilities assumed based on their estimated fair
value. The excess of the purchase price over estimated fair value of the net
identifiable assets is allocated to goodwill. The Company engages third-party
appraisal firms to assist in determining the fair values of certain assets
acquired and liabilities assumed. Determining fair value of assets and
liabilities requires many assumptions and estimates. These estimates and
assumptions are sometimes refined subsequent to the initial recording of the
transaction with adjustments to goodwill as information is gathered and final
appraisals are completed.
Goodwill
and Other Intangible Assets
Goodwill
results from business acquisitions and represents the excess of the purchase
price over the fair value of acquired tangible assets and liabilities and
identifiable intangible assets. Goodwill is assessed at least annually for
impairment and any such impairment is recognized in the period
identified.
Other
intangible assets consist of core deposit and acquired customer relationship
intangible assets arising from business acquisitions. They are initially
measured at fair value and then are amortized on an accelerated method over
their estimated useful lives, which range between seven and 10
years.
Other
Real Estate
Other
real estate owned and held for sale, included with other assets in the
accompanying consolidated balance sheets, includes properties acquired by the
Company through actual loan foreclosures. Other real estate owned is carried at
the lower of cost or fair value less estimated costs to sell. Fair value is the
amount that the Company could reasonably expect to receive in a current sale
between a willing buyer and a willing seller, other than in a forced or
liquidation sale. Fair value of assets is measured by the market value based on
comparable sales. If fair value declines subsequent to foreclosure, a valuation
allowance is recorded through expense. Costs after acquisition are expensed.
Other real estate owned included in the consolidated balance sheets was
$14,446,000 and $6,044,000 at December 31, 2008 and 2007,
respectively.
Income
Taxes
Income
tax expense is the total of current year income tax due or refundable and the
change in deferred tax assets and liabilities, except for the deferred tax
assets and liabilities related to business combinations or components of other
comprehensive income. Deferred income tax
assets and liabilities result from temporary differences between the tax basis
of assets and liabilities and their reported amounts in the consolidated
financial statements that will result in taxable or deductible amounts in future
years. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in years in which those temporary
differences are expected to be recovered or settled. As changes in tax laws or
rates are enacted, deferred tax assets and liabilities are adjusted through
income tax expense. A valuation allowance, if needed, reduces deferred tax
assets to the amount expected to be realized.
The
Company files a consolidated federal income tax return with its subsidiaries.
Federal income tax expense or benefit has been allocated to subsidiaries on a
separate return basis.
Premises
and Equipment
Premises,
equipment, and leasehold improvements are stated at cost less accumulated
depreciation and amortization. Depreciation is computed primarily on the
straight-line method over the estimated useful lives generally ranging from two
to seven years for furniture and equipment and generally ten to 40 years for
buildings and related components. Leasehold improvements are amortized over the
shorter of the estimated useful lives or terms of the related leases on the
straight-line method. Maintenance, repairs, and minor improvements are charged
to operating expenses as incurred and major improvements are capitalized. The
cost of assets sold or retired and the related accumulated depreciation are
removed from the accounts and any resulting gain or loss is included in
noninterest income. Land is carried at cost.
Company-owned
Life Insurance
The
Company has purchased life insurance policies on certain key employees with
their knowledge and written consent. In accordance with Emerging Issues Task
Force (“EITF”) 06-05, Company-owned life insurance is recorded at its cash
surrender value, i.e. the amount that can be realized under the insurance
contract, on the consolidated balance sheet. The related change in cash
surrender value and proceeds received under the policies are reported on the
consolidated statement of income under the caption “Income from company-owned
life insurance”.
54
Net
Income Per Common Share
Basic net
income per common share is determined by dividing net income by the weighted
average total number of shares of common stock outstanding. Diluted net income
per common share is determined by dividing net income by the total weighted
average number of shares of common stock outstanding, plus the total weighted
average number of shares that would be issued upon exercise of dilutive stock
options assuming proceeds are used to repurchase shares pursuant to the treasury
stock method. Net income per common share computations were as follows at
December 31, 2008, 2007, and 2006.
|
(In
thousands, except per share data)
Years
Ended December 31,
|
2008
|
2007
|
2006
|
|||||||||
|
Net
income, basic and diluted
|
$ | 4,395 | $ | 15,627 | $ | 21,372 | ||||||
|
Average
shares outstanding
|
7,357 | 7,706 | 7,511 | |||||||||
|
Effect
of dilutive stock options
|
15 | |||||||||||
|
Average
diluted shares outstanding
|
7,357 | 7,706 | 7,526 | |||||||||
|
Net
income per share, basic
|
$ | .60 | $ | 2.03 | $ | 2.85 | ||||||
|
Net
income per share, diluted
|
.60 | 2.03 | 2.84 | |||||||||
|
Income
from continuing operations, basic and diluted
|
$ | 4,395 | $ | 15,627 | $ | 13,665 | ||||||
|
Income
per share from continuing operations, basic
|
$ | .60 | $ | 2.03 | $ | 1.82 | ||||||
|
Income
per share from continuing operations, diluted
|
.60 | 2.03 | 1.82 |
|
Income
from discontinued operations, basic and diluted
|
$ | 0 | $ | 0 | $ | 7,707 | ||||||
|
Income
per share from discontinued operations, basic
|
$ | 0 | $ | 0 | $ | 1.03 | ||||||
|
Income
per share from discontinued operations, diluted
|
0 | 0 | 1.02 |
Stock
options for 59,621 shares of common stock were not included in the determination
of dilutive earnings per share for each year in the three-year period ending
December 31, 2008 because they were antidilutive.
Comprehensive
Income
Comprehensive
income is defined as the change in equity (net assets) of a business enterprise
during a period from transactions and other events and circumstances from
nonowner sources. For the Company this includes net income, the after tax effect
of changes in the net unrealized gains and losses on available for sale
investment securities, and the changes in the funded status of postretirement
benefit plans.
Dividend
Restrictions
Banking
regulations require maintaining certain capital levels and may limit the
dividends paid to the Company by its bank subsidiaries or by the Company to its
shareholders.
Equity
Outstanding
shares purchased by the Company are retired. When shares are purchased, the
Company allocates a portion of the purchase price of the shares that are retired
to each of the following balance sheet line items: common stock, capital
surplus, and retained earnings.
Trust Assets
Assets of
the Company’s trust departments, other than cash on deposit at our subsidiaries,
are not included in the accompanying financial statements because they are not
assets of the Company.
Transfers
of Financial Assets
Transfers
of financial assets are accounted for as sales when control over the assets has
been relinquished. Control over transferred assets is deemed to be
surrendered when the assets have been isolated from the Company, the transferee
obtains the right (free of conditions that constrain it from taking advantage of
that right) to pledge or exchange the transferred assets, and the Company does
not maintain effective control over the transferred assets through an agreement
to repurchase them before their maturity.
55
Long-term
Assets
Premises
and equipment, core deposit and other intangible assets, and other long-term
assets are reviewed for impairment when events indicate their carrying amount
may not be recoverable from future undiscounted cash flows. If
impaired, the assets are recorded at fair value
Stock-Based
Compensation
The
Company recognizes compensation cost for its Employee Stock Purchase Plan
(“ESPP”) and for stock options granted based on the fair value of these awards
at the date of grant. A Black-Scholes model is utilized to estimate the fair
value of ESPP and stock option awards. Compensation cost is recognized over the
required service period, generally defined as the vesting period, on a
straight-line basis.
The
Company’s ESPP was approved by its shareholders at the Company’s 2004 annual
meeting. The purpose of the ESPP is to provide a means by which eligible
employees may purchase, at a discount, shares of common stock of the Company
through payroll withholding. The purchase price of the shares is equal to 85% of
their fair market value on specified dates as defined in the plan. The ESPP was
effective beginning July 1, 2004. There were 14,497, 10,557, and 8,161 shares
issued under the plan during 2008, 2007, and 2006, respectively. Compensation
expense related to the ESPP included in the accompanying statements of income
was $47,000, $47000, and $42,000 in 2008, 2007, and 2006,
respectively.
Following
are the weighted average assumptions used and estimated fair market value for
the ESPP, which is considered a compensatory plan under SFAS No. 123(R), “Share-based
Payment”.
|
ESPP
|
||||||||||||
|
2008
|
2007
|
2006
|
||||||||||
|
Dividend
yield
|
4.24 | % | 3.97 | % | 3.88 | % | ||||||
|
Expected
volatility
|
24.1 | 15.3 | 14.0 | |||||||||
|
Risk-free
interest rate
|
1.85 | 4.75 | 4.70 | |||||||||
|
Expected
life (in years)
|
.25 | .25 | .25 | |||||||||
|
Fair
value
|
$ | 4.05 | $ | 5.12 | $ | 5.75 | ||||||
Adoption
of New Accounting Standards
Effective
January 1, 2008 the Company adopted SFAS No. 157, “Fair Value Measurements” and
SFAS No. 159, “The Fair Value
Option for Financial Assets and Financial Liabilities”. Please refer to
Note 19 for additional information related to the impact of adopting these
Statements. In October 2008, the FASB issued Staff Position (“FSP”) 157-3,
“Determining the Fair Value of
a Financial Asset when the Market for That Asset Is Not
Active”. This FSP clarifies the application of FAS 157 in a
market that is not active. The impact of adoption this FSP did not
have a material impact on the Company’s consolidated financial position or
results of operations.
Effective
January 1, 2008, the Company adopted FASB EITF 06-04, “Accounting for Deferred
Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life
Insurance Arrangements”. This EITF Issue addresses accounting for
separate agreements which split life insurance policy benefits between an
employer and employee. The Issue requires the employer to recognize a liability
for future benefits payable to the employee under these agreements. The effects
of applying this issue must be recognized through either a change in accounting
principle through an adjustment to equity or through the retrospective
application to all prior periods. The Company currently does not have
split-dollar life insurance policies. The adoption of this EITF Issue did not
have an impact on the Company’s consolidated financial position or results of
operations.
Effective
November 15, 2008, the Company adopted SFAS No. 162, “The Hierarchy of Generally Accepted
Accounting Principles”. SFAS No. 162 is intended to improve financial
reporting by identifying a consistent framework, or hierarchy, for selecting
accounting principles to be used in preparing financial statements that are
presented in conformity with U.S. generally accepted accounting principles
(GAAP) for nongovernmental entities. The hierarchy under SFAS No. 162 is as
follows:
|
|
·
|
FASB
SFAS and Interpretations, FASB Statement 133 Implementation Issues, FASB
Staff Positions, AICPA Accounting Research Bulletins and Accounting
Principles Board Opinions that are not superseded by actions of the FASB,
and Rules and interpretive releases of the SEC for SEC
registrants.
|
|
|
·
|
FASB
Technical Bulletins and, if cleared by the FASB, AICPA Industry Audit and
Accounting Guides and Statements of
Position.
|
|
|
·
|
AICPA
Accounting Standards Executive Committee Practice Bulletins that have been
cleared by the FASB, consensus positions of the EITF, and Appendix D EITF
topics.
|
56
|
|
·
|
Implementation
guides (Q&A's) published by the FASB staff, AICPA Accounting
Interpretations, AICPA Industry Audit and Accounting Guides and Statements
of Position not cleared by the FASB, and practices that are widely
recognized and prevalent either generally or in the
industry.
|
The
adoption of SFAS No. 162 did not have a material impact on the Company’s
consolidated financial position or results of operations.
Recently
Issued But Not Yet Effective Accounting Standards
In
December 2007, the Financial Accounting Standards Board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 141 (revised 2007),
“Business Combinations”
and SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements”. In March 2008, the FASB issued SFAS
No. 161, “Disclosures about
Derivative Instruments and Hedging Activities” and in May 2008 issued
SFAS No. 163, “Accounting for
Financial Guarantee Insurance Contracts”.
SFAS No.
141(R) establishes principals and requirements for how an acquirer recognizes
and measures in its financial statements the identifiable assets acquired,
liabilities assumed, and any noncontrolling interest in an acquiree. The
statement also provides guidance for recognizing and measuring goodwill or gain
from a bargain purchase in a business combination and determines what
information to disclose to enable users of the financial statements to evaluate
the nature and financial effects of the business combination. SFAS No. 141(R) is
to be applied prospectively for fiscal years beginning after December 15, 2008.
The Company does not expect this statement to have a material impact on the
Company’s consolidated results of operations or financial position upon
adoption, although this will depend upon the nature of any future
acquisitions..
SFAS No.
160 amends Accounting Research Bulletin (“ARB”) No. 51, “Consolidated Financial
Statements” to establish accounting and reporting standards for the
noncontrolling interest in a subsidiary and for the deconsolidation of a
subsidiary. The statement also amends certain of ARB No. 51’s consolidation
procedures for consistency with the requirements of SFAS No. 141(R). This
statement is effective for the fiscal years beginning after December 15, 2008
and is to be applied prospectively as of the beginning of the fiscal year in
which the statement is initially adopted, except for presentation and disclosure
requirements which are to be applied retrospectively for all periods presented.
The Company does not expect this statement to have a material impact on the
Company’s consolidated results of operations or financial position upon
adoption.
SFAS No.
161 amends and expands the disclosure requirements of SFAS No. 133, “Accounting for Derivative
Instruments and Hedging Activities” to provide enhanced disclosures about
1) how and why an entity uses derivative instruments; 2) how derivative
instruments and related hedged items are accounted for under SFAS No. 133 and
related interpretations; and 3) how derivative instruments and related hedged
items affect an entity’s financial position, financial performance, and cash
flows. This statement is effective for fiscal years and interim periods
beginning after November 15, 2008, with early adoption encouraged. The Company
does not expect this statement to have a material impact on the Company’s
consolidated results of operations or financial position upon
adoption.
SFAS No.
163 clarifies how SFAS No. 60, “Accounting and Reporting by
Insurance Enterprises”, applies to financial guarantee insurance
contracts issued by insurance enterprises, including the recognition and
measurement of premium revenue and claim liabilities. It also requires expanded
disclosures about financial guarantee insurance contracts. This statement is
effective for financial statements issued for fiscal years and interim periods
beginning after December 15, 2008. Early application is not permitted. The
Company does not expect this statement to have a material impact on the
Company’s consolidated results of operations or financial position upon
adoption.
2.
Discontinued Operations
In June
2006, the Company announced that it had entered into a definitive agreement to
sell KBC, its wholly-owned bank subsidiary in Glasgow, Kentucky, in a cash
transaction valued at $20,000,000. The Company completed the sale on November
30, 2006 that resulted in a pretax gain of $9,400,000.
In August
2006, Farmers Georgetown (prior to its merger with United Bank) entered into a
definitive agreement to sell its Owingsville and Sharpsburg branches in Bath
County (the “Branches”). The sale, which was completed on December 1, 2006,
included deposits of $26,600,000, loans of $9,600,000, fixed assets of $818,000,
and other assets of $1,800,000. The Company recorded a pretax gain on the sale
of the Branches of $431,000.
In
accordance with SFAS No. 144, “Accounting for the Impairment or
Disposal of Long-Lived Assets”, the financial position and results of
operations of KBC and Farmers Georgetown’s Branches were removed from the
respective line items of the Company’s
57
financial
statements and presented separately as discontinued operations. Following is
the condensed combined statement of income for KBC and Farmers
Georgetown’s Branches for the period indicated.
Condensed
Combined Statement of Income – Discontinued Operations
|
(In
thousands)
|
Eleven
months ended
November
30, 2006
|
|||
|
Interest
income
|
$ | 9,008 | ||
|
Interest
expense
|
3,696 | |||
|
Net
interest income
|
5,312 | |||
|
Provision
for loan losses
|
17 | |||
|
Noninterest
income
|
1,272 | |||
|
Noninterest
expense
|
4,597 | |||
|
Income
tax expense
|
679 | |||
|
Net
income
|
$ | 1,291 | ||
|
3.
Investment Securities
|
The
following summarizes the amortized cost and estimated fair values of the
securities portfolio at December 31, 2008. The summary is divided
into available for sale and held to maturity securities.
|
Amortized
|
Gross
|
Gross
|
Estimated
|
|||||||||||||
|
December
31, 2008 (In thousands)
|
Cost
|
Unrealized
Gains
|
Unrealized
Losses
|
Fair
Value
|
||||||||||||
|
Available
For Sale
|
||||||||||||||||
|
Obligations
of U.S. government-sponsored entities
|
$ | 34,068 | $ | 507 | $ | 8 | $ | 34,567 | ||||||||
|
Obligations
of states and political subdivisions
|
89,268 | 1,894 | 324 | 90,838 | ||||||||||||
|
Mortgage-backed
securities
|
364,563 | 10,771 | 7 | 375,327 | ||||||||||||
|
U.S.
Treasury securities
|
10,218 | 38 | 10,256 | |||||||||||||
|
Money
market mutual funds
|
374 | 374 | ||||||||||||||
|
Corporate
debt securities
|
19,265 | 5,274 | 13,991 | |||||||||||||
|
Equity
securities
|
8,942 | 8,942 | ||||||||||||||
|
Total
securities – available for sale
|
$ | 526,698 | $ | 13,210 | $ | 5,613 | $ | 534,295 | ||||||||
|
Held
To Maturity
|
||||||||||||||||
|
Obligations
of states and political subdivisions
|
$ | 1,814 | $ | 9 | $ | 156 | $ | 1,667 | ||||||||
The
following summarizes the amortized cost and estimated fair values of the
securities portfolio at December 31, 2007.
|
Amortized
|
Gross
|
Gross
|
Estimated
|
|||||||||||||
|
December
31, 2007 (In thousands)
|
Cost
|
Unrealized
Gains
|
Unrealized
Losses
|
Fair
Value
|
||||||||||||
|
Available
For Sale
|
||||||||||||||||
|
Obligations
of U.S. government-sponsored entities
|
$ | 88,226 | $ | 332 | $ | 36 | $ | 88,522 | ||||||||
|
Obligations
of states and political subdivisions
|
93,430 | 1,165 | 414 | 94,181 | ||||||||||||
|
Mortgage-backed
securities
|
343,189 | 1,042 | 1,055 | 343,176 | ||||||||||||
|
U.S.
Treasury securities
|
863 | 863 | ||||||||||||||
|
Money
market mutual funds
|
1,396 | 1,396 | ||||||||||||||
|
Corporate
debt securities
|
5,792 | 660 | 5,132 | |||||||||||||
|
Equity
securities
|
9,363 | 9,363 | ||||||||||||||
|
Total
securities – available for sale
|
$ | 542,259 | $ | 2,539 | $ | 2,165 | $ | 542,633 | ||||||||
|
Held
To Maturity
|
||||||||||||||||
|
Obligations
of states and political subdivisions
|
$ | 3,844 | $ | 19 | $ | 0 | $ | 3,863 | ||||||||
The
amortized cost and estimated fair value of the securities portfolio at December
31, 2008, by contractual maturity, are detailed below. The summary is divided
into available for sale and held to maturity securities. Expected maturities may
differ from contractual maturities because borrowers may have the right to call
or prepay obligations with or without call or prepayment penalties. Equity
securities in the available for sale portfolio consist primarily of restricted
FHLB and Federal Reserve Board stocks, which have no stated maturity and are not
included in the maturity schedule that follows.
58
Mortgage-backed
securities are stated separately due to the nature of payment and prepayment
characteristics of these securities, as principal is not due at a single
date.
|
Available
For Sale
|
Held
To Maturity
|
|||||||||||||||
|
Amortized
|
Estimated
|
Amortized
|
Estimated
|
|||||||||||||
|
December
31, 2008 (In thousands)
|
Cost
|
Fair
Value
|
Cost
|
Fair
Value
|
||||||||||||
|
Due
in one year or less
|
$ | 17,293 | $ | 17,397 | $ | 789 | $ | 798 | ||||||||
|
Due
after one year through five years
|
65,149 | 66,519 | ||||||||||||||
|
Due
after five years through ten years
|
30,879 | 31,493 | ||||||||||||||
|
Due
after ten years
|
39,872 | 34,617 | 1,025 | 869 | ||||||||||||
|
Mortgage-backed
securities
|
364,563 | 375,327 | ||||||||||||||
|
Total
|
$ | 517,756 | $ | 525,353 | $ | 1,814 | $ | 1,667 | ||||||||
Gross
gains of $713,000, $0, and $26,000 in 2008, 2007, and 2006, respectively, were
realized on the sale of investment securities. Gross losses of $879,000, $0, and
$221,000 were realized during 2008, 2007, and 2006, respectively. Gross losses
for 2008 include $766,000 related to the sale of preferred stock investments in
Federal National Mortgage Association and Federal Home Loan Mortgage Corporation
(“GSE’s”).
Investment
securities with a carrying value of $428,074,000 and $461,593,000 at December
31, 2008 and 2007 were pledged to secure public and trust deposits, repurchase
agreements, and for other purposes.
Investment
securities with unrealized losses at year-end 2008 and 2007 not recognized in
income are presented in the tables below. The tables segregate investment
securities that have been in a continuous unrealized loss position for less than
twelve months from those that have been in a continuous unrealized loss position
for twelve months or more. The table also includes the fair value of the related
securities.
|
Less
than 12 Months
|
12
Months or More
|
Total
|
||||||||||||||||||||||
|
December
31, 2008 (In thousands)
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
||||||||||||||||||
|
Obligations
of U.S. government-sponsored entities
|
$ | 2,237 | $ | 8 | $ | 2,237 | $ | 8 | ||||||||||||||||
|
Obligations
of states and political subdivisions
|
8,870 | 404 | $ | 6,545 | $ | 76 | 15,415 | 480 | ||||||||||||||||
|
Mortgage-backed
securities
|
4,417 | 6 | 410 | 1 | 4,827 | 7 | ||||||||||||||||||
|
Corporate
debt securities
|
10,573 | 2,500 | 3,029 | 2,774 | 13,602 | 5,274 | ||||||||||||||||||
|
Total
|
$ | 26,097 | $ | 2,918 | $ | 9,984 | $ | 2,851 | $ | 36,081 | $ | 5,769 | ||||||||||||
|
Less
than 12 Months
|
12
Months or More
|
Total
|
||||||||||||||||||||||
|
December
31, 2007 (In thousands)
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
Fair
Value
|
Unrealized
Losses
|
||||||||||||||||||
|
Obligations
of U.S. government-sponsored entities
|
$ | 999 | $ | 4 | $ | 11,159 | $ | 33 | $ | 12,158 | $ | 37 | ||||||||||||
|
Obligations
of states and political subdivisions
|
7,734 | 82 | 21,323 | 331 | 29,057 | 413 | ||||||||||||||||||
|
Mortgage-backed
securities
|
11,004 | 46 | 45,740 | 1,009 | 56,744 | 1,055 | ||||||||||||||||||
|
Corporate
debt securities
|
5,132 | 660 | 5,132 | 660 | ||||||||||||||||||||
|
Total
|
$ | 24,869 | $ | 792 | $ | 78,222 | $ | 1,373 | $ | 103,091 | $ | 2,165 | ||||||||||||
Unrealized
losses included in the tables above have not been recognized in income since
they have been identified as temporary. The Company periodically evaluates
securities for other-than-temporary impairment. Consideration is given to the
length of time and the extent to which the fair value has been less than cost,
the financial condition and near-term prospects of the issuer, and the intent
and ability of the Company to retain its investment in the issuer for a period
of time sufficient to allow for any anticipated recovery in fair
value.
Other
than the corporate debt securities, the Company attributes the unrealized losses
mainly to increases in market interest rates over the yield available at the
time the underlying securities were purchased and does not expect to incur a
loss unless the securities are sold prior to maturity. Corporate debt securities
consist primarily of single-issuer trust preferred capital securities issued by
national and global financial services firms. The unrealized loss on corporate
debt securities is primarily attributed to the general decline in financial
markets that occurred during 2008. Overall market declines, particularly that of
banking and financial institutions, are a result of
59
significant
stress throughout the regional and national economy. Securities with unrealized
losses held in the Company’s portfolio are currently performing according to
their contractual terms. Management has the intent and ability to hold these
securities for the foreseeable future. The fair value is expected to recover as
the securities approach their maturity or repricing date or if market yields for
such investments decline. The Company does not believe any of the securities are
impaired due to reasons of credit quality or other factors.
During
the third quarter of 2008, the Company recorded a non-cash other-than-temporary
impairment pre-tax charge of $14.0 million related to its GSE preferred stock
investments. This impairment charge resulted from a sharp decline in market
value of the GSE investments that occurred after the announcement that the GSE’s
were suspending dividend payments and being placed into conservatorship by the
Federal Housing Finance Agency. Rating agencies also downgraded the preferred
stocks of the GSE’s to below investment grade. During the fourth quarter of 2008
the Company sold its entire holdings of GSE preferred stocks for an additional
$766,000 loss.
|
4. Loans
|
Major
classifications of loans are summarized as follows.
|
December
31, (In thousands)
|
2008
|
2007
|
||||||
|
Commercial,
financial, and agricultural
|
$ | 144,788 | $ | 154,015 | ||||
|
Real
estate – construction
|
260,524 | 254,788 | ||||||
|
Real
estate mortgage – residential
|
444,487 | 405,992 | ||||||
|
Real
estate mortgage – farmland and other commercial
enterprises
|
390,424 | 394,900 | ||||||
|
Installment
loans
|
45,135 | 52,028 | ||||||
|
Lease
financing
|
30,234 | 34,109 | ||||||
|
Total
loans
|
1,315,592 | 1,295,832 | ||||||
|
Less
unearned income
|
(3,012 | ) | (3,847 | ) | ||||
|
Total
loans, net of unearned income
|
$ | 1,312,580 | $ | 1,291,985 | ||||
Loans to
directors, executive officers, and principal shareholders (including loans to
affiliated companies of which they are principal owners) and loans to members of
the immediate family of such persons were $23,574,000 and $29,275,000 at
December 31, 2008 and 2007, respectively. Such loans were made in the normal
course of business on substantially the same terms, including interest rates and
collateral, as those prevailing at the time for comparable transactions with
other customers and did not involve more than the normal risk of collectibility.
An analysis of the activity with respect to these loans is presented in the
table below.
|
(In
thousands)
|
Amount
|
|||
|
Balance,
December 31, 2007
|
$ | 29,275 | ||
|
New
loans
|
9,610 | |||
|
Repayments
|
(11,256 | ) | ||
|
Loans
no longer meeting disclosure requirements, new loans meeting disclosure
requirements, and other adjustments, net
|
(4,055 | ) | ||
|
Balance,
December 31, 2008
|
$ | 23,574 | ||
|
5. Allowance
for Loan Losses
|
Activity
in the allowance for loan losses was as follows.
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Balance,
beginning of year
|
$ | 14,216 | $ | 11,999 | $ | 11,069 | ||||||
|
Acquisition
of Citizens National Bancshares, Inc.
|
1,066 | |||||||||||
|
Provision
for loan losses
|
5,321 | 3,638 | 965 | |||||||||
|
Recoveries
|
1,833 | 733 | 678 | |||||||||
|
Loans
charged off
|
(4,542 | ) | (2,154 | ) | (1,779 | ) | ||||||
|
Balance,
end of year
|
$ | 16,828 | $ | 14,216 | $ | 11,999 | ||||||
The
Company's charge-off policy for impaired loans does not differ from the
charge-off policy for loans outside the definition of SFAS No. 114. Loans that
are delinquent in excess of 120 days are charged off unless the collateral
securing the debt is of such value that any loss appears to be
unlikely.
60
Individually
impaired loans were as follows for the dates indicated.
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
||||||
|
Year-end
loans with no allocated allowance for loan losses
|
$ | 4,684 | $ | 1,877 | ||||
|
Year-end
loans with allocated allowance for loan losses
|
43,670 | 28,127 | ||||||
|
Total
|
$ | 48,354 | $ | 30,004 | ||||
|
Amount
of the allowance for loan losses allocated
|
$ | 3,619 | $ | 1,834 | ||||
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Average
of individually impaired loans during year
|
$ | 34,364 | $ | 13,037 | $ | 5,151 | ||||||
|
Interest
income recognized during impairment
|
1,070 | 1,382 | 323 | |||||||||
|
Cash-basis
interest income recognized
|
880 | 683 | ||||||||||
Nonperforming
loans were as follows.
|
December
31, (In thousands)
|
2008
|
2007
|
||||||
|
Nonaccrual
loans
|
$ | 21,545 | $ | 18,073 | ||||
|
Loans
past due 90 days or more and still accruing
|
3,913 | 2,977 | ||||||
|
Total
nonperforming loans
|
$ | 25,458 | $ | 21,050 | ||||
|
6. Premises
and Equipment
|
Premises
and equipment consist of the following.
|
December
31, (In thousands)
|
2008
|
2007
|
||||||
|
Land,
buildings, and leasehold improvements
|
$ | 54,564 | $ | 48,767 | ||||
|
Furniture
and equipment
|
20,607 | 20,180 | ||||||
|
Total
premises and equipment
|
75,171 | 68,947 | ||||||
|
Less
accumulated depreciation and amortization
|
(32,125 | ) | (30,284 | ) | ||||
|
Premises
and equipment, net
|
$ | 43,046 | $ | 38,663 | ||||
Depreciation
and amortization of premises and equipment was $3,883,000, $3,938,000, and
$3,617,000 in 2008, 2007, and 2006, respectively.
|
7. Deposit
Liabilities
|
At December 31, 2008 the scheduled
maturities of time deposits were as follows.
|
(In
thousands)
|
Amount
|
|||
|
2009
|
$ | 557,787 | ||
|
2010
|
183,698 | |||
|
2011
|
37,838 | |||
|
2012
|
57,026 | |||
|
2013
|
9,372 | |||
|
Thereafter
|
4,773 | |||
|
Total
|
$ | 850,494 | ||
Time
deposits of $100,000 or more at December 31, 2008 and 2007 were $302,215,000 and
$252,503,000, respectively. Interest expense on time deposits of
$100,000 or more was $11,575,000, $11,869,000, and $6,865,000 for 2008, 2007,
and 2006, respectively.
Deposits
from directors, executive officers, and principal shareholders (including
deposits from affiliated companies of which they are principal owners) and
deposits from members of the immediate family of such persons were $28,100,000
and $40,751,000 at December 31, 2008 and 2007, respectively. Such deposits were
accepted in the normal course of business on substantially the same terms as
those prevailing at the time for comparable transactions with other
customers.
61
|
8. Federal
Funds Purchased and Other Short-term
Borrowings
|
Federal
funds purchased and other short-term borrowings represent borrowings with an
original maturity of less than one year. Substantially all of the total
short-term borrowings are made up of federal funds purchased and securities sold
under agreements to repurchase, which represents borrowings that generally
mature one business day following the date of the transaction. Information on
federal funds purchased and other short-term borrowings is as
follows.
|
December
31, (Dollars in thousands)
|
2008
|
2007
|
||||||
|
Federal
funds purchased and securities sold under agreement to
repurchase
|
$ | 73,187 | $ | 80,315 | ||||
|
Overnight
FHLB advances
|
3,500 | |||||||
|
Other
|
787 | 440 | ||||||
|
Total
short-term
|
$ | 77,474 | $ | 80,755 | ||||
|
Average
balance during the year
|
$ | 81,180 | $ | 97,192 | ||||
|
Maximum
month-end balance during the year
|
125,096 | 155,362 | ||||||
|
Average
interest rate during the year
|
2.20 | % | 4.63 | % | ||||
|
Average
interest rate at year-end
|
.74 | 3.71 | ||||||
|
9. Term
Securities Sold Under Agreements to Repurchase and Other Long-term
Borrowings
|
Long-term
securities sold under agreements to repurchase and other borrowings represent
borrowings with an original maturity of one year or more. The table below
displays a summary of the ending balance and average rate for borrowed funds on
the dates indicated.
|
Average
|
Average
|
|||||||||||||||
|
December
31, (Dollars in thousands)
|
2008
|
Rate
|
2007
|
Rate
|
||||||||||||
|
FHLB
advances
|
$ | 86,116 | 3.85 | % | $ | 66,526 | 4.65 | % | ||||||||
|
Subordinated
notes payable
|
48,970 | 5.94 | 48,970 | 6.71 | ||||||||||||
|
Securities
sold under agreements to repurchase
|
200,000 | 3.95 | 200,000 | 3.95 | ||||||||||||
|
Other
|
575 | 2.32 | 813 | 2.32 | ||||||||||||
|
Total
long-term
|
$ | 335,661 | 4.21 | % | $ | 316,309 | 4.52 | % | ||||||||
Long-term
FHLB advances are made pursuant to several different credit programs, which have
their own interest rates and range of maturities. Interest rates on FHLB
advances totaling $81,116,000 are fixed and range between 2.60% and 6.90%,
averaging 4.04%, over a remaining maturity period of up to 12 years as of
December 31, 2008. Long-term FHLB borrowings totaling $20,000,000 at year-end
2008 are callable quarterly. Interest rates on FHLB advances totaling $5,000,000
are floating at prime minus 235 basis points, mature in 2011, and may be prepaid
without penalty on a semi-annual basis. Long-term FHLB advances of $10,000,000
are convertible to a floating interest rate. These advances may convert, at
FHLB’s option, to a floating interest rate indexed to the three-month LIBOR only
if LIBOR equals or exceeds 7%. At year-end 2008, three-month LIBOR was at 1.43
%.
For FHLB
advances, the subsidiary banks pledge FHLB stock and fully disbursed, otherwise
unencumbered, 1-4 family first mortgage loans as collateral for these advances
as required by the FHLB. Based on this collateral and the Company’s holdings of
FHLB stock, the Company is eligible to borrow up to an additional $40,608,000 at
year-end 2008. In addition, the Company has a $15,000,000 unsecured line of
credit with an unrelated financial institution available for general corporate
purposes. This line of credit matures in June 2009 and bears interest at
three-month LIBOR plus 140 basis points.
During
2005 the Company completed two private offerings of trust preferred securities
through two separate Delaware statutory trusts sponsored by the
Company. Farmers Capital Bank Trust I (“Trust I”) sold $10,000,000 of
preferred securities and Farmers Capital Bank Trust II (“Trust II”) sold
$15,000,000 of preferred securities. The proceeds from the offerings
were used to fund the cash portion of the acquisition of Citizens Bancorp, Inc.,
the parent company of Citizens Northern.
Farmers
Capital Bank Trust III (“Trust III”), a Delaware statutory trust sponsored by
the Company, was formed during 2007 for the purpose of financing the cost of
acquiring Company shares under a share repurchase program. Trust III sold
$22,500,000 of 6.60% (fixed through November 2012, thereafter at a variable rate
of interest, reset quarterly, equal to the 3-month LIBOR plus a predetermined
spread of 132 basis points) trust preferred securities to the public. The trust
preferred securities, which pay interest quarterly, mature on November 1, 2037,
or may be redeemed by the Trust at par any time on or after November 1, 2012.
Trust I, Trust II, and Trust III are hereafter collectively referred to as the
“Trusts”.
The
Trusts used the proceeds from the sale of preferred securities, plus capital
contributed to establish the trusts, to purchase the Company’s subordinated
notes in amounts and bearing terms that parallel the amounts and terms of the
respective preferred securities.
62
The
subordinated notes to Trust I and Trust II mature in 2035 and in 2037 for Trust
III, and bear a floating interest rate (current three-month LIBOR plus 150 basis
points in the case of the notes held by Trust I, current three-month LIBOR plus
165 basis points in the case of the notes held by Trust II, and current
three-month LIBOR plus 132 basis points in the case of the notes held by Trust
III). Interest on the notes is payable quarterly. Interest payments
to the Trusts and distributions to preferred shareholders by the Trusts may be
deferred for 20 consecutive quarterly periods.
The
subordinated notes are redeemable in whole or in part, without penalty, at the
Company’s option on or after September 30, 2010 and mature on September 30, 2035
with respect to Trust I and Trust II. For Trust III, the subordinated
notes are redeemable in whole or in part, with out penalty, at the Company’s
option on or after November 1, 2012. The notes are junior in right of payment of
all present and future senior indebtedness. At December 31, 2008 and 2007 the
balance of the subordinated notes payable to Trust I, Trust II, and Trust III
was $10,310,000, $15,464,000, and $23,196,000, respectively. The interest rates
in effect as of the last determination date in 2008 were 5.26%, 5.41%, and 6.60%
for Trust I, Trust II, and Trust III, respectively. For 2007 these rates were
6.73%, 6.88%, and 6.60% for Trust I Trust II, and Trust III,
respectively.
Under
FASB Interpretation No. 46 (revised), “Consolidation of Variable Interest
Entities”, the Company does not consolidate the Trusts into its financial
statements. Accordingly, the Company does not report the securities
issued by the Trusts as liabilities, but instead reports as liabilities the
subordinated notes issued by the Company and held by the Trusts. The
Company, which owns all of the common securities of the Trusts, accounts for its
investment in each of the Trusts as assets. The Company records
interest expense on the corresponding notes issued to the Trusts on its
statement of income.
The
subordinated notes may be included in Tier 1 capital (with certain limitations
applicable) under current regulatory capital guidelines and
interpretations. The amount of subordinated notes in excess of the
limit may be included in Tier 2 capital, subject to restrictions.
During
2007, the Company entered into a balance sheet leverage transaction whereby it
borrowed $200,000,000 in multiple fixed rate term repurchase agreements with an
initial weighted average cost of 3.95% and invested the proceeds in Government
National Mortgage Association (“GNMA”) bonds, which were pledged as collateral.
The Company is required to secure the borrowed funds by GNMA bonds valued at
106% of the outstanding principal balance. The borrowings have maturity dates
ranging from November 2010 to November 2017, with a weighted average remaining
maturity of 5.9 years. At December 31, 2008 $100,000,000 of the borrowings are
callable quarterly, with an additional $50,000,000 callable during 2009 and the
remaining $50,000,000 callable quarterly beginning in 2012. The repurchase
agreements are held by each of the Company’s subsidiary banks and are guaranteed
by the Parent Company.
Maturities
of long-term borrowings at December 31, 2008 are as follows.
|
(In
thousands)
|
Amount
|
|||
|
2009
|
$ | 13,730 | ||
|
2010
|
59,693 | |||
|
2011
|
22,523 | |||
|
2012
|
61,388 | |||
|
2013
|
2,167 | |||
|
Thereafter
|
176,160 | |||
|
Total
|
$ | 335,661 | ||
63
10. Income
Taxes
The
components of income tax expense are as follows.
Continuing
Operations
|
December
31, (In thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Currently
payable
|
$ | 832 | $ | 6,094 | $ | 5,208 | ||||||
|
Deferred
|
(2,046 | ) | (1,807 | ) | (1,848 | ) | ||||||
|
Total
applicable to continuing operations
|
(1,214 | ) | 4,287 | 3,360 | ||||||||
|
Deferred
tax (credited) charged to components of shareholders’
equity:
|
||||||||||||
|
Unfunded
status of postretirement benefits
|
617 | (139 | ) | 1,664 | ||||||||
|
Net
unrealized securities gains
|
2,528 | 836 | 237 | |||||||||
|
Total
income taxes from continuing operations
|
$ | 1,931 | $ | 4,984 | $ | 5,261 | ||||||
Discontinued
Operations
|
December
31, (In thousands)
|
2006
|
|||
|
Currently
payable
|
$ | 4,287 | ||
|
Deferred
|
(152 | ) | ||
|
Total
applicable to discontinued operations
|
4,135 | |||
|
Deferred
tax charged to components of shareholders’ equity:
|
||||
|
Net
unrealized securities gains
|
90 | |||
|
Total
income taxes from discontinued operations
|
$ | 4,225 | ||
An
analysis of the difference between the effective income tax rates and the
statutory federal income tax rate follows.
Continuing
Operations
|
December
31,
|
2008
|
2007
|
2006
|
|||||||||
|
Federal
statutory rate
|
35.0 | % | 35.0 | % | 35.0 | % | ||||||
|
Changes
from statutory rates resulting from:
|
||||||||||||
|
Tax-exempt
interest
|
(48.1 | ) | (8.1 | ) | (9.7 | ) | ||||||
|
Nondeductible
interest to carry tax-exempt obligations
|
5.7 | 1.1 | 1.2 | |||||||||
|
Tax
credits
|
(14.6 | ) | (2.7 | ) | (3.8 | ) | ||||||
|
Premium
income not subject to tax
|
(9.2 | ) | (1.9 | ) | (2.4 | ) | ||||||
|
Company-owned
life insurance
|
(13.5 | ) | (2.1 | ) | (2.4 | ) | ||||||
|
Dividend
exclusion
|
(4.8 | ) | ||||||||||
|
Other,
net
|
11.3 | .2 | 1.8 | |||||||||
|
Effective
tax rate on pretax income from continuing operations
|
(38.2 | )% | 21.5 | % | 19.7 | % | ||||||
Discontinued
Operations
|
December
31,
|
2006
|
|||
|
Federal
statutory rate
|
35.0 | % | ||
|
Changes
from statutory rates resulting from:
|
||||
|
Tax-exempt
interest
|
(.7 | ) | ||
|
Nondeductible
interest to carry tax-exempt obligations
|
.1 | |||
|
Company-owned
life insurance
|
(.2 | ) | ||
|
Other,
net
|
.7 | |||
|
Effective
tax rate on pretax income from discontinued operations
|
34.9 | % | ||
64
The tax
effects of the significant temporary differences that comprise deferred tax
assets and liabilities at December 31, 2008 and 2007 follows.
|
December
31, (In thousands)
|
2008
|
2007
|
||||||
|
Assets
|
||||||||
|
Allowance
for loan losses
|
$ | 5,901 | $ | 4,891 | ||||
|
Deferred
directors’ fees
|
263 | 242 | ||||||
|
Postretirement
benefit obligations
|
3,727 | 3,894 | ||||||
|
Other
real estate owned
|
82 | 89 | ||||||
|
Self-funded
insurance
|
175 | 269 | ||||||
|
Paid
time off
|
712 | 614 | ||||||
|
Alternative
minimum tax credits
|
587 | |||||||
|
Low
income housing credits
|
193 | |||||||
|
Other
|
39 | 45 | ||||||
|
Total
deferred tax assets
|
11,679 | 10,044 | ||||||
|
Liabilities
|
||||||||
|
Depreciation
|
564 | 533 | ||||||
|
Unrealized
gains on available for sale investment securities, net
|
2,659 | 131 | ||||||
|
Life
insurance income
|
144 | 92 | ||||||
|
Prepaid
expenses
|
664 | 636 | ||||||
|
Discount
on investment securities
|
1,111 | 1,012 | ||||||
|
Deferred
loan fees
|
1,209 | 1,197 | ||||||
|
Lease
financing operations
|
1,886 | 1,502 | ||||||
|
Intangibles
|
2,177 | 2,577 | ||||||
|
Total
deferred tax liabilities
|
10,414 | 7,680 | ||||||
|
Net
deferred tax asset
|
$ | 1,265 | $ | 2,364 | ||||
In
assessing the realizability of deferred tax assets, management considers whether
it is more likely than not that some portion or all of the deferred tax assets
will not be realized. The ultimate realization of deferred tax assets
is dependent upon the generation of future taxable income during the periods in
which those temporary differences become deductible. Management
considers the scheduled reversal of deferred tax liabilities, projected future
taxable income, and tax planning strategies in making this
assessment. Based upon the level of historical taxable income and
projections for future taxable income over the periods in which the deferred tax
assets are deductible, management believes it is more likely than not the
Company will realize the benefits of these deductible differences at December
31, 2008.
The
Company had no unrecognized tax benefits as of December 31, 2008 and 2007, and
did not recognize any increase in unrecognized benefits during 2008 relative to
any tax positions taken in 2008. Should the accrual of any interest or penalties
relative to unrecognized tax benefits be necessary, it is the Company’s policy
to record such accruals in its income tax expense accounts; no such accruals
existed as of December 31, 2008 or 2007. The Company files U.S. federal and
various state income tax returns. The Company is no longer subject to income tax
examinations by taxing authorities for the years before 2004.
11. Retirement
Plans
The
Company maintains a salary savings plan that covers substantially all employees.
The Company matches all eligible voluntary tax deferred employee contributions
up to 6% of the participant's compensation. The Company may, at the discretion
of the Board, contribute an additional amount based upon a percentage of covered
employees' salaries. The Company did not make a discretionary contribution
during 2008. The Company made a 2% discretionary contribution to the plan during
2007 and a 4% discretionary contribution in 2006. Discretionary contributions
are allocated among participants in the ratio that each participant’s
compensation bears to all participants’ compensation. Eligible employees are
presented with various investment alternatives related to the salary savings
plan. Those alternatives include various stock and bond mutual funds that vary
from traditional growth funds to more stable income funds. Company shares are
not an available investment alternative in the salary savings plan.
The
Company previously maintained an Employee Stock Ownership Plan (“ESOP”) for its
employees. During 2007, the Company terminated the ESOP. Participants in the
ESOP had various options upon termination of the plan, including liquidating
Company stock and rolling over the proceeds into the Company’s salary savings
plan. There were no contributions to the ESOP in any of the years in the
three-year period ended December 31, 2008. The fair market value of Company
shares held by the ESOP at the date of termination was $2,173,000. The fair
market value of Company shares held by the ESOP at year-end 2006 was
$2,459,000.
In
connection with the acquisition of Citizens Northern, the Company acquired a
nonqualified supplemental retirement plan for certain key employees. Benefits
provided under this plan are unfunded, and payments to plan participants are
made by the Company.
65
The
following schedules set forth a reconciliation of the changes in the plans
benefit obligation and funded status for the years ended December 31, 2008 and
2007.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Change
in Benefit Obligation
|
||||||||
|
Obligation
at beginning of year
|
$ | 462 | $ | 561 | ||||
|
Service
cost
|
33 | 31 | ||||||
|
Interest
cost
|
26 | 32 | ||||||
|
Actuarial
gain
|
(18 | ) | (157 | ) | ||||
|
Benefit
payments
|
(5 | ) | (5 | ) | ||||
|
Obligation
at end of year
|
$ | 498 | $ | 462 | ||||
The
following table provides disclosure of the net periodic benefit cost as of
December 31 for the years indicated.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Service
cost
|
$ | 33 | $ | 31 | ||||
|
Interest
cost
|
26 | 32 | ||||||
|
Recognized
net actuarial loss
|
8 | 22 | ||||||
|
Net
periodic benefit cost
|
$ | 67 | $ | 85 | ||||
|
Major
assumptions:
|
||||||||
|
Discount
rate
|
6.00 | % | 5.75 | % | ||||
The
following table presents estimated future benefit payments in the period
indicated.
|
(In
thousands)
|
Supplemental
Retirement
Plan
|
|||||
|
2009
|
$
|
5 | ||||
|
2010
|
5 | |||||
|
2011
|
5 | |||||
|
2012
|
5 | |||||
|
2013
|
49 | |||||
| 2014-2018 | 435 | |||||
|
Total
|
$
|
504 | ||||
Amounts
recognized in accumulated other comprehensive loss as of December 31, 2008 and
2007 are as follows.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Unrecognized
net actuarial loss
|
$ | 99 | $ | 125 | ||||
|
Total
|
$ | 99 | $ | 125 | ||||
The
estimated costs that will be amortized from accumulated other comprehensive loss
into net periodic cost over the next fiscal year are as
follows.
|
(In
thousands)
|
Supplemental
Retirement Plan
|
|||
|
Unrecognized
net actuarial loss
|
$ | 6 | ||
|
Total
|
$ | 6 | ||
The total
retirement plan expense for 2008, 2007, and 2006 was $1,107,000, $1,486,000, and
$1,427,000, respectively.
12. Common
Stock Options
During
1997 the Company’s Board of Directors approved a nonqualified stock option plan
(the "Plan"), subsequently approved by the Company’s shareholders, that has
periodically provided for the granting of stock options to key employees and
officers of the Company. All stock options are awarded at a price
equal to the fair market value of the Company’s common stock at the date options
are granted and expire ten years from the grant date. Total options granted were
450,000, 54,000, and 40,049 in the years 1997, 2000, and 2004,
respectively.
Effective
January 1, 2006 the Company adopted SFAS No. 123(R) using the modified
prospective transition method. Accordingly, the Company has recorded stock-based
employee compensation cost using the fair value method starting in 2006. For
2006, adopting this
66
Standard
resulted in a reduction of income before taxes of $154,000, a reduction in net
income of $100,000, and a decrease in basic and diluted earnings per share
(continuing operations) of $.01.
The Plan
provides for the granting of options to purchase up to 450,000 shares of the
Company’s common stock at a price equal to the fair market value of the
Company’s common stock on the date the option is granted. The term of the
options expires after ten years from the date on which the options are granted.
Options granted under the Plan vest ratably over various time periods ranging
from three to seven years. All options granted must be held for a minimum of one
year before they can be exercised. Forfeited options are available for the
granting of additional stock options under the Plan. Options forfeited from the
initial grant in 1997 were used to grant options during 2000 and 2004. At
December 31, 2008 there were 10,363 options available for future grants under
the Plan.
A summary
of the activity in the Company’s Plan for 2008 is presented below.
|
2008
|
||||||||
|
Weighted
|
||||||||
|
Average
|
||||||||
|
Shares
|
Price
|
|||||||
|
Outstanding
at January 1
|
62,621 | $ | 32.66 | |||||
|
Exercised
|
(1,000 | ) | 29.75 | |||||
|
Forfeited
|
(2,000 | ) | 34.80 | |||||
|
Outstanding
at December 31
|
59,621 | $ | 32.63 | |||||
|
Options
exercisable at year-end
|
59,621 | $ | 32.63 | |||||
Options
outstanding at year-end 2008 were as follows.
|
Outstanding
|
Exercisable
|
|||||||||||||||||||||
|
Weighted
Average
|
||||||||||||||||||||||
|
Remaining
Contractual
|
Weighted
Average
|
Weighted
Average
|
||||||||||||||||||||
|
Exercise
Price
|
Number
|
Life
(Years)
|
Exercise
Price
|
Number
|
Exercise
Price
|
|||||||||||||||||
| $ |
29.75
|
25,572 | 1.00 |
$
|
29.75 | 25,572 |
$
|
29.75 | ||||||||||||||
| $ |
34.80
|
34,049 | 5.83 | 34.80 | 34,049 | 34.80 | ||||||||||||||||
|
Outstanding
at year-end
|
59,621 | 3.76 |
$
|
32.63 | 59,621 |
$
|
32.63 | |||||||||||||||
The
aggregate intrinsic value for options outstanding and options exercisable at
December 31, 2008 was zero since the exercise price of all options was in excess
of the market price of the Company’s stock.
The
following table presents further information regarding the Company’s stock
option Plan during each of the years indicated.
|
(In
thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Tax
benefit realized from options exercised
|
$
|
0 |
$
|
123 |
$
|
168 | ||||||
|
Total
intrinsic value of options exercised
|
1 | 353 | 479 | |||||||||
|
Cash
received from options exercised
|
30 | 1,546 | 1,529 | |||||||||
There
were no modifications or cash paid to settle stock option awards during 2008,
2007, or 2006. There were no options granted in 2008, 2007, or
2006.
|
13.
|
Postretirement
Medical Benefits
|
Prior to
2003, the Company provided lifetime medical and dental benefits upon retirement
for certain employees meeting the eligibility requirements as of December 31,
1989 (Plan 1). During 2003, the Company implemented an additional postretirement
health insurance program (Plan 2). Under Plan 2, any employee meeting the
service requirement of 20 years of full time service to the Company and is at
least age 55 years of age upon retirement is eligible to continue their health
insurance coverage. Under both plans, retirees not yet eligible for Medicare
have coverage identical to the coverage offered to active employees. Under both
plans, Medicare-eligible retirees are provided with a Medicare Advantage plan.
The Company pays 100% of the cost of Plan 1. The Company and the retirees each
pay 50% of the cost under Plan 2. Both plans are unfunded.
67
The
following schedules set forth a reconciliation of the changes in the plans
benefit obligation and funded status for the years ended December 31, 2008 and
2007.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Change
in Benefit Obligation
|
||||||||
|
Obligation
at beginning of year
|
$ | 11,003 | $ | 11,164 | ||||
|
Service
cost
|
442 | 441 | ||||||
|
Interest
cost
|
622 | 632 | ||||||
|
Actuarial
gain
|
(1,244 | ) | (981 | ) | ||||
|
Participant
contributions
|
64 | 55 | ||||||
|
Benefit
payments
|
(337 | ) | (308 | ) | ||||
|
Obligation
at end of year
|
$ | 10,550 | $ | 11,003 | ||||
The
following table provides disclosure of the net periodic benefit cost as of
December 31 for the years indicated.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Service
cost
|
$ | 442 | $ | 441 | ||||
|
Interest
cost
|
622 | 632 | ||||||
|
Amortization
of transition obligation
|
101 | 101 | ||||||
|
Recognized
prior service cost
|
299 | 299 | ||||||
|
Recognized
net actuarial loss
|
93 | 162 | ||||||
|
Net
periodic benefit cost
|
$ | 1,557 | $ | 1,635 | ||||
|
Major
assumptions:
|
||||||||
|
Discount
rate
|
6.00 | % | 5.75 | % | ||||
|
Retiree
participation rate (Plan 1)
|
100.00 | 100.00 | ||||||
|
Retiree
participation rate (Plan 2)
|
72.00 | 72.00 | ||||||
Assumed
health care cost trend rates have a significant effect on the amounts reported
for the health care plans. For measurement purposes, the rate of increase in
pre-Medicare medical care claims costs was 8% and 7% in 2009 and 2010,
respectively, then grading down by .5% annually to 5% for 2014 and thereafter.
For dental claims cost, it was 5% for 2009 and thereafter. A 1% change in the
assumed health care cost trend rates would have the following incremental
effects:
|
(In
thousands)
|
1%
Increase
|
1%
Decrease
|
||||||
|
Effect
on total of service and interest cost components of net periodic
postretirement health care benefit cost
|
$ | 222 | $ | (171 | ) | |||
|
Effect
on accumulated postretirement benefit obligation
|
1,959 | (1,558 | ) | |||||
The
following table presents estimated future benefit payments in the period
indicated.
|
(In
thousands)
|
Postretirement
Medical
Benefits
|
|||||
|
2009
|
$
|
364 | ||||
|
2010
|
391 | |||||
|
2011
|
408 | |||||
|
2012
|
420 | |||||
|
2013
|
446 | |||||
| 2014-2018 | 2,620 | |||||
|
Total
|
$
|
4,649 | ||||
Amounts
recognized in accumulated other comprehensive income (loss) as of December 31,
2008 and 2007 are as follows.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Unrecognized
net actuarial loss
|
$ | 1,218 | $ | 2,554 | ||||
|
Unrecognized
transition obligation
|
406 | 507 | ||||||
|
Unrecognized
prior service cost
|
1,667 | 1,966 | ||||||
|
Total
|
$ | 3,291 | $ | 5,027 | ||||
68
The
estimated costs that will be amortized from accumulated other comprehensive
income (loss) into net periodic cost over the next fiscal year are as
follows:
|
(In
thousands)
|
Postretirement
Medical Benefits
|
|||
|
Unrecognized
net actuarial loss
|
$ | 80 | ||
|
Transition
obligation
|
101 | |||
|
Unrecognized
prior service cost
|
257 | |||
|
Total
|
$ | 438 | ||
14.
Leases
The
Company leases certain branch sites and certain banking equipment under various
operating leases. All of the branch site leases have renewal options of varying
lengths and terms. In addition, the Company leases certain data processing
equipment that meets the capitalization criteria of SFAS No. 13, “Accounting for Leases”, as
amended, and has been recorded as an asset in premises and equipment and a
liability in other long-term debt on the balance sheet. The following table
presents estimated future minimum rental commitments under these leases for the
period indicated.
|
(In
thousands)
|
Operating
Leases
|
Capital
Lease
|
||||||
|
2009
|
$ | 699 | $ | 254 | ||||
|
2010
|
447 | 254 | ||||||
|
2011
|
416 | 84 | ||||||
|
2012
|
295 | |||||||
|
2013
|
275 | |||||||
|
Thereafter
|
2,245 | |||||||
|
Total
|
$ | 4,377 | 592 | |||||
|
Less:
amount representing interest
|
17 | |||||||
|
Long-term
obligation under capital lease
|
$ | 575 | ||||||
Rent
expense was $727,000, $723,000, and $622,000 for 2008, 2007, and 2006,
respectively.
The
Company is a party to financial instruments with off-balance sheet risk in the
normal course of business to meet the financing needs of its customers. The
financial instruments include commitments to extend credit and standby letters
of credit.
These
financial instruments involve to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the consolidated
balance sheets. The contract amounts of these instruments reflect the extent of
involvement the Company has in particular classes of financial
instruments.
Commitments
to extend credit are agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Commitments generally
have fixed expiration dates or other termination clauses and may require the
payment of a fee. Since many of the commitments are expected to expire without
being drawn upon, the total commitment amount does not necessarily represent
future cash requirements. Total commitments to extend credit were $184,379,000
and $233,498,000 at December 31, 2008 and 2007, respectively. The Company
evaluates each customer's creditworthiness on a case-by-case basis. The amount
of collateral obtained upon extension of credit, if deemed necessary by the
Company, is based on management's credit evaluation of the counter-party.
Collateral held varies, but may include accounts receivable, marketable
securities, inventory, premises and equipment, residential real estate, and
income producing commercial properties.
Standby
letters of credit are conditional commitments issued by the Company to guarantee
the performance of a customer to a third party. Since many of the commitments
are expected to expire without being drawn upon, the total commitment amount
does not necessarily represent future cash requirements. The credit risk
involved in issuing letters of credit is essentially the same as that received
when extending credit to customers. The fair value of these instruments is not
considered material for disclosure under FIN 45. The Company had $29,748,000 and
$18,337,000 in irrevocable letters of credit outstanding at December 31, 2008
and 2007, respectively.
69
The
contractual amount of financial instruments with off-balance sheet risk was as
follows at year-end.
|
December
31,
|
2008
|
2007
|
||||||||||||||
|
(In
thousands)
|
Fixed
Rate
|
Variable
Rate
|
Fixed
Rate
|
Variable
Rate
|
||||||||||||
|
Commitments
to extend credit, including unused lines of credit
|
$ | 56,337 | $ | 128,042 | $ | 75,053 | $ | 158,445 | ||||||||
|
Standby
letters of credit
|
5,751 | 23,997 | 14,982 | 3,355 | ||||||||||||
|
Total
|
$ | 62,088 | $ | 152,039 | $ | 90,035 | $ | 161,800 | ||||||||
16. Concentration
of Credit Risk
The
Company's bank subsidiaries actively engage in lending, primarily in their home
counties around central and northern Kentucky and adjacent areas. Collateral is
received to support these loans as deemed necessary. The more significant
categories of collateral include cash on deposit with the Company's banks,
marketable securities, income producing properties, commercial real estate, home
mortgages, and consumer durables. Loans outstanding, commitments to make loans,
and letters of credit range across a large number of industries and individuals.
The obligations are significantly diverse and reflect no material concentration
in one or more areas, other than most of the Company’s loans are
in Kentucky and thus significantly affected by changes in the
Kentucky economy.
Loss
contingencies, including claims and legal actions arising in the ordinary course
of business, are recorded as liabilities when the likelihood of loss is probable
and an amount or range of loss can be reasonably estimated. As of December 31,
2008, there were various pending legal actions and proceedings against the
Company arising from the normal course of business and in which claims for
damages are asserted. Management, after discussion with legal counsel, believes
that these actions are without merit and that the ultimate liability resulting
from these legal actions and proceedings, if any, will not have a material
effect upon the consolidated financial statements of the Company.
Payment
of dividends by the Company's subsidiary banks is subject to certain regulatory
restrictions as set forth in national and state banking laws and regulations.
Generally, capital distributions are limited to undistributed net income for the
current and prior two years, subject to the capital requirements described
below. At December 31, 2008, combined retained earnings of the subsidiary banks
were $44,274,000 of which $5,428,000 was available for the payment of dividends
in 2009 without obtaining prior approval from bank regulatory
agencies.
At
December 31, 2008, interest bearing deposits from other banks include certain
amounts that are held at the Federal Reserve Bank in accordance with reserve
requirements specified by the Federal Reserve Board of Governors. Prior to 2008,
amounts held at the Federal Reserve Bank were included in noninterest cash and
due from banks. Since October 2008, these balances now earn interest. The
reserve requirement was $17,877,000 and $16,872,000 at December 31, 2008 and
2007, respectively.
The
Company and its subsidiary banks are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements will initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have a
direct material effect on the Company’s financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action,
the banks must meet specific capital guidelines that involve quantitative
measures of the banks’ assets, liabilities, and certain off-balance sheet items
as calculated under regulatory accounting practices. The Company and its
subsidiary banks’ capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings, and
other factors.
Quantitative
measures established by regulation to ensure capital adequacy require the
Company and its subsidiary banks to maintain minimum amounts and ratios (set
forth in the tables below) of total and Tier I capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier I capital to
average assets (as defined). The Company believes that it and each of its
subsidiary banks meet all capital adequacy requirements to which they are
subject as of December 31, 2008.
As of
December 31, 2008, the most recent notification from the FDIC categorized the
banks as well capitalized under the regulatory framework for prompt corrective
action. To be categorized as well capitalized, the banks must maintain minimum
total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in
the tables. There are no conditions or events since that notification that
management believes have changed the institutions’ category.
70
The
capital amounts and ratios of the consolidated Company and the banks are
presented in the following tables.
|
To
Be Well Capitalized
|
||||||||||||||||||||||||
|
For
Capital
|
Under
Prompt Corrective
|
|||||||||||||||||||||||
|
Actual
|
Adequacy
Purposes
|
Action
Provisions
|
||||||||||||||||||||||
|
December
31, 2008 (Dollars in thousands)
|
Amount
|
Ratio
|
Amount
|
Ratio
|
Amount
|
Ratio
|
||||||||||||||||||
|
Tier
1 Capital (to Risk-Weighted Assets)
|
||||||||||||||||||||||||
|
Consolidated
|
$ | 155,317 | 11.32 | % | $ | 54,861 | 4.00 | % | N/A | N/A | ||||||||||||||
|
Farmers
Bank & Capital Trust Co.
|
37,001 | 10.55 | 14,026 | 4.00 | $ | 21,039 | 6.00 | % | ||||||||||||||||
|
The
Lawrenceburg Bank & Trust Co.
|
11,665 | 9.34 | 4,995 | 4.00 | 7,492 | 6.00 | ||||||||||||||||||
|
First
Citizens Bank
|
19,885 | 10.38 | 7,661 | 4.00 | 11,491 | 6.00 | ||||||||||||||||||
|
United
Bank & Trust Co.
|
47,910 | 9.66 | 19,833 | 4.00 | 29,750 | 6.00 | ||||||||||||||||||
|
Citizens
Bank of Northern Kentucky
|
18,356 | 9.67 | 7,594 | 4.00 | 11,390 | 6.00 | ||||||||||||||||||
|
Total
Capital (to Risk-Weighted Assets)
|
||||||||||||||||||||||||
|
Consolidated
|
$ | 172,145 | 12.55 | % | $ | 109,722 | 8.00 | % | N/A | N/A | ||||||||||||||
|
Farmers
Bank & Capital Trust Co.
|
41,397 | 11.81 | 28,052 | 8.00 | $ | 35,066 | 10.00 | % | ||||||||||||||||
|
The
Lawrenceburg Bank & Trust Co.
|
13,227 | 10.59 | 9,989 | 8.00 | 12,487 | 10.00 | ||||||||||||||||||
|
First
Citizens Bank
|
21,448 | 11.20 | 15,321 | 8.00 | 19,151 | 10.00 | ||||||||||||||||||
|
United
Bank & Trust Co.
|
54,074 | 10.91 | 39,667 | 8.00 | 49,583 | 10.00 | ||||||||||||||||||
|
Citizens
Bank of Northern Kentucky
|
20,390 | 10.74 | 15,187 | 8.00 | 18,984 | 10.00 | ||||||||||||||||||
|
Tier
1 Capital (to Average Assets)
|
||||||||||||||||||||||||
|
Consolidated
|
$ | 155,317 | 7.37 | % | $ | 84,256 | 4.00 | % | N/A | N/A | ||||||||||||||
|
Farmers
Bank & Capital Trust Co.
|
37,001 | 6.05 | 24,468 | 4.00 | $ | 30,585 | 5.00 | % | ||||||||||||||||
|
The
Lawrenceburg Bank & Trust Co.
|
11,665 | 5.00 | 9,336 | 4.00 | 11,670 | 5.00 | ||||||||||||||||||
|
First
Citizens Bank
|
19,885 | 7.49 | 10,618 | 4.00 | 13,272 | 5.00 | ||||||||||||||||||
|
United
Bank & Trust Co.
|
47,910 | 6.37 | 30,081 | 4.00 | 37,601 | 5.00 | ||||||||||||||||||
|
Citizens
Bank of Northern Kentucky
|
18,356 | 7.28 | 10,082 | 4.00 | 12,602 | 5.00 | ||||||||||||||||||
|
To
Be Well Capitalized
|
||||||||||||||||||||||||
|
For
Capital
|
Under
Prompt Corrective
|
|||||||||||||||||||||||
|
Actual
|
Adequacy
Purposes
|
Action
Provisions
|
||||||||||||||||||||||
|
December
31, 2007 (Dollars in thousands)
|
Amount
|
Ratio
|
Amount
|
Ratio
|
Amount
|
Ratio
|
||||||||||||||||||
|
Tier
1 Capital (to Risk-Weighted Assets)
|
||||||||||||||||||||||||
|
Consolidated
|
$ | 157,146 | 11.55 | % | $ | 54,405 | 4.00 | % | N/A | N/A | ||||||||||||||
|
Farmers
Bank & Capital Trust Co.
|
34,058 | 9.90 | 13,764 | 4.00 | $ | 20,646 | 6.00 | % | ||||||||||||||||
|
The
Lawrenceburg Bank & Trust Co.
|
11,211 | 9.30 | 4,820 | 4.00 | 7,230 | 6.00 | ||||||||||||||||||
|
First
Citizens Bank
|
16,929 | 10.01 | 6,767 | 4.00 | 10,151 | 6.00 | ||||||||||||||||||
|
United
Bank & Trust Co.
|
50,612 | 9.44 | 21,452 | 4.00 | 32,177 | 6.00 | ||||||||||||||||||
|
Citizens
Bank of Northern Kentucky
|
17,891 | 9.86 | 7,256 | 4.00 | 10,884 | 6.00 | ||||||||||||||||||
|
Total
Capital (to Risk-Weighted Assets)
|
||||||||||||||||||||||||
|
Consolidated
|
$ | 171,362 | 12.60 | % | $ | 108,809 | 8.00 | % | N/A | N/A | ||||||||||||||
|
Farmers
Bank & Capital Trust Co.
|
38,342 | 11.14 | 27,528 | 8.00 | $ | 34,410 | 10.00 | % | ||||||||||||||||
|
The
Lawrenceburg Bank & Trust Co.
|
12,570 | 10.43 | 9,640 | 8.00 | 12,050 | 10.00 | ||||||||||||||||||
|
First
Citizens Bank
|
18,334 | 10.84 | 13,534 | 8.00 | 16,918 | 10.00 | ||||||||||||||||||
|
United
Bank & Trust Co.
|
56,324 | 10.50 | 42,903 | 8.00 | 53,629 | 10.00 | ||||||||||||||||||
|
Citizens
Bank of Northern Kentucky
|
19,347 | 10.67 | 14,512 | 8.00 | 18,140 | 10.00 | ||||||||||||||||||
|
Tier
1 Capital (to Average Assets)
|
||||||||||||||||||||||||
|
Consolidated
|
$ | 157,146 | 8.08 | % | $ | 77,828 | 4.00 | % | N/A | N/A | ||||||||||||||
|
Farmers
Bank & Capital Trust Co.
|
34,058 | 5.56 | 24,511 | 4.00 | $ | 30,639 | 5.00 | % | ||||||||||||||||
|
The
Lawrenceburg Bank & Trust Co.
|
11,211 | 5.87 | 7,635 | 4.00 | 9,544 | 5.00 | ||||||||||||||||||
|
First
Citizens Bank
|
16,929 | 7.09 | 9,548 | 4.00 | 11,934 | 5.00 | ||||||||||||||||||
|
United
Bank & Trust Co.
|
50,612 | 6.93 | 29,197 | 4.00 | 36,497 | 5.00 | ||||||||||||||||||
|
Citizens
Bank of Northern Kentucky
|
17,891 | 7.98 | 8,964 | 4.00 | 11,205 | 5.00 | ||||||||||||||||||
71
Effective
January 1, 2008 the Company adopted SFAS No. 157. SFAS No. 157 defines fair
value, establishes a framework for measuring fair value, and expands disclosures
about fair value measurements. SFAS No. 157 applies whenever other standards
require or permit assets or liabilities to be measured at fair value, but does
not require any new fair value measurements. The Company applied SFAS No. 157
prospectively as of the beginning of the year. SFAS No. 159 permits entities to
choose to measure certain financial assets and liabilities at fair value. The
Company has not elected the fair value option for any financial assets or
liabilities.
In
February 2008, the FASB issued Staff Position FSP 157-2, “Effective Date of FASB Statement No.
157”. This FSP delays the effective date of SFAS No.
157 for all nonfinancial assets and nonfinancial liabilities, except
those
that are recognized or disclosed at
fair value on a recurring basis (at
least annually) to fiscal years beginning
after November 15, 2008, and interim periods within those fiscal
years.
SFAS No.
157 defines fair value as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between market
participants at the measurement date. SFAS No. 157 also establishes a fair value
hierarchy which requires an entity to maximize the use of observable inputs and
minimize the use of unobservable inputs when measuring fair value. The standard
describes three levels of inputs that may be used to measure fair
value:
|
|
Level
1:
|
Quoted
prices for identical assets or liabilities in active markets that the
entity has the ability to access at the measurement
date.
|
|
|
Level
2:
|
Significant
other observable inputs other than Level 1 prices such as quoted prices
for similar assets or liabilities; quoted prices in markets that are not
active; or other inputs that are observable or can be corroborated by
observable market data.
|
|
|
Level
3:
|
Significant
unobservable inputs that reflect a reporting entity’s own assumptions
about the assumptions that market participants would use in pricing the
asset or liability.
|
Following
is a description of the valuation method used for instruments measured at fair
value on a recurring basis. For this disclosure, the Company only has available
for sale investment securities that meet the requirement.
Available for sale
investment securities
Valued
primarily by independent third party pricing services under the market valuation
approach that include, but not limited to, the following inputs:
|
|
·
|
U.S.
Treasury securities are priced using dealer quotes from active market
makers and real-time trading
systems.
|
|
|
·
|
Marketable
equity securities are priced utilizing real-time data feeds from active
market exchanges for identical
securities.
|
|
|
·
|
Government-sponsored
agency debt securities, obligations of states and political subdivisions,
corporate bonds, and other similar investment securities are priced with
available market information through processes using benchmark yields,
matrix pricing, prepayment speeds, cash flows, live trading data, and
market spreads sourced from new issues, dealer quotes, and trade prices,
among others sources.
|
|
|
·
|
Investments
in the Federal Reserve Bank, Federal Home Loan Bank, and other similar
stock totaling $8.9 million at December 31, 2008 is carried at cost and
not included in the table below, as they are outside the scope of SFAS No.
157.
|
72
Available
for sale investment securities are the Company’s only balance sheet item that
meets the disclosure requirements for instruments measured at fair value on a
recurring basis. Disclosures are as follows in the table below.
|
Fair
Value Measurements at December 31, 2008 Using
|
||||||||||||||||
|
(In
thousands)
Description
|
Fair
Value
December
31, 2008
|
Quoted
Prices in Active Markets for Identical Assets
(Level
1)
|
Significant
Other Observable Inputs
(Level
2)
|
Significant
Unobservable Inputs
(Level
3)
|
||||||||||||
|
Available
for sale investment securities
|
$ | 525,353 | $ | 10,256 | $ | 515,097 | $ | 0 | ||||||||
The
Company may be required to measure and disclose certain other assets and
liabilities at fair value on a nonrecurring basis to comply with GAAP, primarily
to adjust assets to fair value under the application of lower of cost or fair
value accounting. Disclosures may also include financial assets and liabilities
acquired in a business combination, which are initially measured at fair value
and evaluated periodically for impairment.
For
disclosures about assets and liabilities measured at fair value on a
nonrecurring basis, the Company’s only current disclosure obligation consists of
impaired loans. Loans are considered impaired when full payment under the
contractual terms is not expected. In general, impaired loans are also on
nonaccrual status. Impaired loans are measured at the present value of expected
future cash flows discounted at the loan’s effective interest rate, at the
loan’s observable market price, or at the fair value of the collateral based on
recent appraisals if the loan is collateral dependent. Appraisals may utilize a
single valuation approach or a combination of approaches including comparable
sales and the income approach. Adjustments are routinely made in the appraisal
process by appraisers to adjust for differences between the comparable sales and
the income data available.
If the
value of an impaired loan is less than the unpaid balance, the difference is
credited to the allowance for loan losses with a corresponding charge to
provision for loan losses. Loan losses are charged against the allowance for
loan losses when management believes the uncollectibility of a loan is
confirmed.
Impaired
loans in the amount of $28.9 million have been written down to their estimated
fair value of $25.7 million at December 31, 2008. The provision for loan losses
for 2008 includes $2.0 million related to the impaired loans. Impaired loans are
measured at fair value based on the underlying collateral and are considered
level 3 inputs.
Fair
Value of Financial Instruments
The
following table presents the estimated fair values of the Company’s financial
instruments made in accordance with the requirements of SFAS No. 107, “Disclosures About Fair Value of
Financial Instruments”. It excludes fair values presented elsewhere. SFAS
No. 107 requires disclosure of fair value information about financial
instruments, whether or not recognized in the balance sheet for which it is
practicable to estimate that value. The estimated fair value amounts have been
determined by the Company using available market information and present value
or other valuation techniques. These derived fair values are subjective in
nature, involve uncertainties and matters of significant judgment and,
therefore, cannot be determined with precision. SFAS No. 107 excludes certain
financial instruments and all nonfinancial instruments from the disclosure
requirements. Accordingly, the aggregate fair value amounts presented are not
intended to represent the underlying value of the Company.
The
following methods and assumptions were used to estimate the fair value of each
class of financial instruments for which it is practicable to estimate that
value.
Cash and
Cash Equivalents, Accrued Interest Receivable, and Accrued Interest
Payable
The
carrying amount is a reasonable estimate of fair value.
Investment
Securities Held to Maturity
Fair
value equals quoted market price, if available. If a quoted market price is not
available, fair value is estimated using quoted market prices for similar
securities.
FHLB and Similar Stock
Due to restrictions placed on its
transferability, it is not practicable to determine fair value.
Loans
The fair
value of loans is estimated by discounting the future cash flows using current
discount rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities.
73
Deposit
Liabilities
The fair
value of demand deposits, savings accounts, and certain money market deposits is
the amount payable on demand at the reporting date and fair value approximates
carrying value. The fair value of fixed maturity certificates of deposit is
estimated by discounting the future cash flows using the rates currently offered
for certificates of deposit with similar remaining maturities.
Federal
Funds Purchased and other Short-term Borrowings
The
carrying amount is the estimated fair value for these borrowings that reprice
frequently in the near term.
Securities
Sold Under Agreements to Repurchase, Subordinated Notes Payable, and Other
Long-term Borrowings
The fair
value of these borrowings is estimated based on rates currently available for
debt with similar terms and remaining maturities.
Commitments
to Extend Credit and Standby Letters of Credit
Pricing
of these financial instruments is based on the credit quality and relationship,
fees, interest rates, probability of funding, compensating balance, and other
covenants or requirements. Loan commitments generally have fixed expiration
dates, variable interest rates and contain termination and other clauses that
provide for relief from funding in the event there is a significant
deterioration in the credit quality of the customer. Many loan commitments are
expected to, and typically do, expire without being drawn upon. The rates and
terms of the Company's commitments to lend and standby letters of credit are
competitive with others in the various markets in which the Company operates.
There are no unamortized fees relating to these financial instruments, as such
the carrying value and fair value are both zero.
The
estimated fair values of the Company's financial instruments are as
follows.
|
December
31,
|
2008
|
2007
|
||||||||||||||
|
Carrying
|
Fair
|
Carrying
|
Fair
|
|||||||||||||
|
(In
thousands)
|
Amount
|
Value
|
Amount
|
Value
|
||||||||||||
|
Assets
|
||||||||||||||||
|
Cash
and cash equivalents
|
$ | 190,775 | $ | 190,775 | $ | 79,140 | $ | 79,140 | ||||||||
|
Investment
securities:
|
||||||||||||||||
|
FHLB
and similar stock
|
8,942 | N/A | 9,363 | N/A | ||||||||||||
|
Held
to maturity
|
1,814 | 1,667 | 3,844 | 3,863 | ||||||||||||
|
Loans,
net
|
1,295,752 | 1,309,604 | 1,277,769 | 1,275,746 | ||||||||||||
|
Accrued
interest receivable
|
12,168 | 12,168 | 13,337 | 13,337 | ||||||||||||
|
Liabilities
|
||||||||||||||||
|
Deposits
|
1,594,115 | 1,601,567 | 1,474,097 | 1,475,010 | ||||||||||||
|
Federal
funds purchased and other short-term borrowings
|
77,474 | 77,474 | 80,755 | 80,755 | ||||||||||||
|
Securities
sold under agreements to repurchase and other long-term
borrowings
|
286,691 | 311,259 | 267,339 | 272,396 | ||||||||||||
|
Subordinated
notes payable to unconsolidated trusts
|
48,970 | 18,518 | 48,970 | 37,857 | ||||||||||||
|
Accrued
interest payable
|
5,811 | 5,811 | 6,445 | 6,445 | ||||||||||||
74
20. Parent
Company Financial Statements
Condensed
Balance Sheets
|
December
31, (In thousands)
|
2008
|
2007
|
||||||
|
Assets
|
||||||||
|
Cash
on deposit with subsidiaries
|
$ | 4,302 | $ | 14,974 | ||||
|
Investment
in subsidiaries
|
206,843 | 197,422 | ||||||
|
Other
assets
|
11,298 | 11,115 | ||||||
|
Total
assets
|
$ | 222,443 | $ | 223,511 | ||||
|
Liabilities
|
||||||||
|
Dividends
payable
|
$ | 2,427 | $ | 2,436 | ||||
|
Subordinated
notes payable to unconsolidated trusts
|
48,970 | 48,970 | ||||||
|
Other
liabilities
|
2,750 | 3,614 | ||||||
|
Total
liabilities
|
54,147 | 55,020 | ||||||
|
Shareholders’
Equity
|
||||||||
|
Common
stock
|
920 | 923 | ||||||
|
Capital
surplus
|
48,222 | 48,176 | ||||||
|
Retained
earnings
|
116,419 | 122,498 | ||||||
|
Accumulated
other comprehensive income (loss )
|
2,735 | (3,106 | ) | |||||
|
Total
shareholders’ equity
|
168,296 | 168,491 | ||||||
|
Total
liabilities and shareholders’ equity
|
$ | 222,443 | $ | 223,511 | ||||
Condensed
Statements of Income
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Income
|
||||||||||||
|
Dividends
from subsidiaries
|
$ | 9,566 | $ | 22,616 | $ | 9,086 | ||||||
|
Interest
and other dividend income
|
60 | 64 | 74 | |||||||||
|
Gain
on sale of discontinued operations
|
9,442 | |||||||||||
|
Other
noninterest income
|
3,217 | 3,170 | 2,732 | |||||||||
|
Total
income
|
12,843 | 25,850 | 21,334 | |||||||||
|
Expense
|
||||||||||||
|
Interest
expense-subordinated notes payable to unconsolidated
trusts
|
2,865 | 2,394 | 1,747 | |||||||||
|
Interest
expense on other borrowed funds
|
20 | 186 | ||||||||||
|
Noninterest
expense
|
3,986 | 4,391 | 4,021 | |||||||||
|
Total
expense
|
6,851 | 6,805 | 5,954 | |||||||||
|
Income
before income tax benefit and equity in undistributed income of
subsidiaries
|
5,992 | 19,045 | 15,380 | |||||||||
|
Income
tax (benefit) expense
|
(1,189 | ) | (1,375 | ) | 2,321 | |||||||
|
Income
before equity in undistributed income of subsidiaries
|
7,181 | 20,420 | 13,059 | |||||||||
|
Equity
in undistributed income of subsidiaries1
|
(2,786 | ) | (4,793 | ) | 8,313 | |||||||
|
Net
income
|
$ | 4,395 | $ | 15,627 | $ | 21,372 | ||||||
1Includes
$1,290 related to discontinued operations during 2006.
75
Condensed
Statements of Cash Flows
|
Years
Ended December 31, (In thousands)
|
2008
|
2007
|
2006
|
|||||||||
|
Cash
Flows From Operating Activities
|
||||||||||||
|
Net
income
|
$ | 4,395 | $ | 15,627 | $ | 21,372 | ||||||
|
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
||||||||||||
|
Gain
on sale of discontinued operations
|
(9,442 | ) | ||||||||||
|
Equity
in undistributed income of subsidiaries
|
2,786 | 4,793 | (8,313 | ) | ||||||||
|
Noncash
stock option expense
|
5 | 13 | 52 | |||||||||
|
Change
in other assets and liabilities, net
|
(891 | ) | (3,767 | ) | 3,925 | |||||||
|
Deferred
income tax (benefit) expense
|
(67 | ) | 555 | (742 | ) | |||||||
|
Net
cash provided by operating activities
|
6,228 | 17,221 | 6,852 | |||||||||
|
Cash
Flows From Investing Activities
|
||||||||||||
|
Proceeds
from disposal of discontinued operations
|
19,875 | |||||||||||
|
Proceeds
from sale of available for sale investment securities
|
1,000 | |||||||||||
|
Purchase
of available for sale investment securities
|
(1,000 | ) | ||||||||||
|
Investment
in unconsolidated trusts
|
(629 | ) | ||||||||||
|
Investment
in nonbank subsidiaries
|
(4,051 | ) | ||||||||||
|
Investment
in bank subsidiaries
|
(2,362 | ) | (8,000 | ) | (629 | ) | ||||||
|
Payment
of prior year accrued purchase price-Citizens Bancorp,
Inc.
|
(21,846 | ) | ||||||||||
|
Purchase
of Citizens National Bancshares, Inc.
|
(15,041 | ) | ||||||||||
|
Purchase
price refinements of previous acquisitions
|
50 | (29 | ) | |||||||||
|
Purchase
of company-owned life insurance
|
(1,579 | ) | ||||||||||
|
Net
cash used in investing activities
|
(6,413 | ) | (8,579 | ) | (19,249 | ) | ||||||
|
Cash
Flows From Financing Activities
|
||||||||||||
|
Proceeds
from short-term borrowings
|
2,500 | 15,000 | ||||||||||
|
Repayment
of short-term borrowings
|
(2,500 | ) | (15,000 | ) | ||||||||
|
Dividends
paid
|
(9,720 | ) | (11,118 | ) | (9,553 | ) | ||||||
|
Purchase
of common stock
|
(1,049 | ) | (18,649 | ) | (820 | ) | ||||||
|
Shares
issued under Employee Stock Purchase Plan
|
252 | 254 | 223 | |||||||||
|
Stock
options exercised
|
30 | 1,546 | 1,529 | |||||||||
|
Proceeds
from long-term debt issued to unconsolidated trusts
|
23,196 | |||||||||||
|
Net
cash used in financing activities
|
(10,487 | ) | (4,771 | ) | (8,621 | ) | ||||||
|
Net
(decrease) increase in cash and cash equivalents
|
(10,672 | ) | 3,871 | (21,018 | ) | |||||||
|
Cash
and cash equivalents at beginning of year
|
14,974 | 11,103 | 32,121 | |||||||||
|
Cash
and cash equivalents at end of year
|
$ | 4,302 | $ | 14,974 | $ | 11,103 | ||||||
|
21.
|
Quarterly
Financial Data (Unaudited)
|
|
(In
thousands, except per share data)
|
||||||||||||||||
|
Quarters
Ended 2008
|
March
31
|
June
30
|
Sept.
301
|
Dec.
31
|
||||||||||||
|
Interest
income
|
$ | 30,035 | $ | 29,037 | $ | 27,859 | $ | 26,989 | ||||||||
|
Interest
expense
|
15,280 | 13,686 | 13,085 | 13,079 | ||||||||||||
|
Net
interest income
|
14,755 | 15,351 | 14,774 | 13,910 | ||||||||||||
|
Provision
for loan losses
|
1,102 | 483 | 1,780 | 1,956 | ||||||||||||
|
Net
interest income after provision for loan losses
|
13,653 | 14,868 | 12,994 | 11,954 | ||||||||||||
|
Noninterest
income
|
6,387 | 6,191 | (7,865 | ) | 5,097 | |||||||||||
|
Noninterest
expense
|
14,380 | 14,392 | 14,879 | 16,447 | ||||||||||||
|
Income
(loss) before income taxes
|
5,660 | 6,667 | (9,750 | ) | 604 | |||||||||||
|
Income
tax expense (benefit)
|
1,284 | 1,767 | (2,865 | ) | (1,400 | ) | ||||||||||
|
Net
income (loss)
|
$ | 4,376 | $ | 4,900 | $ | (6,885 | ) | $ | 2,004 | |||||||
|
Net
income (loss) per common share – basic and diluted
|
$ | .59 | $ | .67 | $ | (.94 | ) | $ | .27 | |||||||
|
Weighted
average shares outstanding, basic and diluted
|
7,374 | 7,350 | 7,349 | 7,354 | ||||||||||||
1The
reduction in noninterest income and net income during the third quarter is
mainly attributed to a $14.0 million non-cash other-than-temporary impairment
write-down related to the Company’s investments in preferred stocks issued by
Federal Home Loan Mortgage Corporation and Federal National Mortgage
Association.
76
|
(In
thousands, except per share data)
|
||||||||||||||||
|
Quarters
Ended 2007
|
March
31
|
June
30
|
Sept.
30
|
Dec.
311
|
||||||||||||
|
Interest
income
|
$ | 27,402 | $ | 28,511 | $ | 28,494 | $ | 29,850 | ||||||||
|
Interest
expense
|
13,307 | 13,661 | 13,872 | 15,199 | ||||||||||||
|
Net
interest income
|
14,095 | 14,850 | 14,622 | 14,651 | ||||||||||||
|
Provision
for loan losses
|
(496 | ) | 330 | 595 | 3,209 | |||||||||||
|
Net
interest income after provision for loan losses
|
14,591 | 14,520 | 14,027 | 11,442 | ||||||||||||
|
Noninterest
income
|
5,667 | 6,108 | 6,119 | 6,263 | ||||||||||||
|
Noninterest
expense
|
14,338 | 14,309 | 14,356 | 15,820 | ||||||||||||
|
Income
before income taxes
|
5,920 | 6,319 | 5,790 | 1,885 | ||||||||||||
|
Income
tax expense
|
1,310 | 1,407 | 1,633 | (63 | ) | |||||||||||
|
Net
income
|
$ | 4,610 | $ | 4,912 | $ | 4,157 | $ | 1,948 | ||||||||
|
Net
income per common share, basic and diluted
|
.58 | .62 | .54 | .26 | ||||||||||||
|
Weighted
average shares outstanding, basic
|
7,893 | 7,884 | 7,672 | 7,382 | ||||||||||||
|
Weighted
average shares outstanding, diluted
|
7,908 | 7,892 | 7,672 | 7,382 | ||||||||||||
1The reduction in net income in the
fourth quarter of 2007 was due to an increase in the provision for loans losses
associated with trends in the credit markets in that period.
22. Goodwill
and Intangible Assets
Goodwill
The
change in balance for goodwill is as follows.
|
(In
thousands)
|
2008
|
2007
|
||||||
|
Beginning
of year
|
$ | 52,408 | $ | 42,822 | ||||
|
Purchase
price refinements of prior years’ acquisitions
|
(77 | ) | ||||||
|
Acquired
goodwill
|
9,663 | |||||||
|
End
of year
|
$ | 52,408 | $ | 52,408 | ||||
Acquired
Intangible Assets
Acquired
core deposit and customer relationship intangible assets were as follows as of
December 31 of the year indicated.
|
2008
|
2007
|
|||||||||||||||
|
Amortized
Intangible Assets
(In
thousands)
|
Gross
Amount
|
Accumulated
Amortization
|
Gross
Amount
|
Accumulated
Amortization
|
||||||||||||
|
Core
deposit intangibles
|
$ | 12,765 | $ | 7,361 | $ | 12,765 | $ | 5,274 | ||||||||
|
Other
customer relationship intangibles
|
3,689 | 2,152 | 3,689 | 1,637 | ||||||||||||
|
Total
|
$ | 16,454 | $ | 9,513 | $ | 16,454 | $ | 6,911 | ||||||||
Aggregate
amortization expense of core deposit and customer relationship intangible assets
was $2,602,000 and $3,362,000 for 2008 and 2007, respectively. Estimated
amortization expense for each of the next five years is as
follows.
|
(In
thousands)
|
Amount
|
|||
|
2009
|
$ | 1,952 | ||
|
2010
|
1,437 | |||
|
2011
|
1,143 | |||
|
2012
|
1,014 | |||
|
2013
|
540 | |||
77
|
23.
|
Subsequent
Event
|
On
January 9, 2009, the Company received a $30 million equity investment related to
its previously announced plan to issue 30 thousand shares of preferred stock to
the U.S. Department of Treasury (“Treasury”) under its voluntary Capital
Purchase Program (“Program”). The Company also issued warrants to the Treasury
allowing it to purchase 223,992 shares of the Company’s common stock at an
exercise price of $20.09.
The
non-voting preferred shares issued to the Treasury will pay a 5% annual
cumulative dividend during the first five years the preferred shares are
outstanding, resetting to 9% thereafter if not redeemed. The Program includes
certain restrictions on dividend payments of its lower ranking equity and the
ability to purchase its outstanding common shares.
None.
Evaluation
of Disclosure Controls and Procedures
As of the
end of the period covered by this report, an evaluation was carried out under
the supervision and with the participation of our management, including the
Company’s Chief Executive Officer and Chief Financial Officer, of the
effectiveness of our disclosure controls and procedures (as defined in Exchange
Act Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934). Based on their evaluation, the Company’s Chief Executive Officer and
Chief Financial Officer have concluded that the Company’s disclosure controls
and procedures and internal control over financial reporting are, to the best of
their knowledge, effective to ensure that information required to be disclosed
by the Company in reports that the Company files or submits under the Exchange
Act is recorded, processed, summarized and reported within the time periods
specified in SEC rules and forms.
The
Company’s Chief Executive Officer and Chief Financial Officer have also
concluded that there were no changes in the Company’s internal control over
financial reporting or in other factors that occurred during the Company’s most
recent fiscal quarter that have materially affected, or are reasonably likely to
materially affect, the Company’s internal control over financial reporting or
any corrective actions with regard to significant deficiencies and material
weaknesses in internal control over financial reporting.
Management’s
Report on Internal Control Over Financial Reporting
Management
Responsibility. Management of
the Company is responsible for establishing and maintaining adequate internal
control over financial reporting. The Company’s internal control system is
designed to provide reasonable assurance to the Company’s management and Board
of Directors regarding the reliability of financial reporting and the
presentation of published financial statements. However, all internal control
systems, no matter how well designed, have inherent limitations.
General
Description of Internal Control over Financial Reporting. Internal control
over financial reporting refers to a process designed by, or under the
supervision of, the Company’s Chief Executive Officer and Chief Financial
Officer and effected by the Company’s Board of Directors, management and other
personnel, to provide reasonable assurance regarding the reliability of
financial reporting and the preparation of financial statements for external
purposes in accordance with generally accepted accounting principles and
includes those policies and procedures that:
|
|
·
|
Pertain
to the maintenance of records that in reasonable detail accurately and
fairly reflect the transactions and dispositions of Company
assets;
|
|
|
·
|
Provide
reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted
accounting principles, and that Company’s receipts and expenditures are
being made only in accordance with the authorization of Company’s
management and members of the Company’s Board of Directors;
and
|
|
|
·
|
Provide
reasonable assurance regarding prevention or timely detection of
unauthorized acquisitions, uses or dispositions of Company assets that
could have a material effect on the Company’s financial
statements.
|
Inherent
Limitations in Internal Control over Financial Reporting. Internal control
over financial reporting cannot provide absolute assurance of achieving
financial reporting objectives because of its inherent
limitations. Internal control over financial reporting is a process
that involves human diligence and compliance and is subject to lapses in
judgment and breakdowns resulting from human failures. Internal
control over financial reporting also can be circumvented or overridden by
collusion or other improper activities. Because of such limitations,
there is a risk that material misstatements may not be prevented or detected on
a timely basis by internal
78
control
over financial reporting. However, these inherent limitations are
known features of the financial reporting process, and it is possible to design
into the process safeguards to reduce, though not eliminate, this
risk.
Management’s
Assessment of the Company’s Internal Control over Financial
Reporting. Management
assessed the effectiveness of the Company’s internal control over financial
reporting as of December 31, 2008. In making this assessment, the
Company’s management used the criteria for effective internal control over
financial reporting set forth by the Committee of Sponsoring Organizations of
the Treadway Commission (COSO) in “Internal Control-Integrated
Framework.”
As a
result of our assessment of the Company’s internal control over financial
reporting, management concluded that the Company’s internal control over
financial reporting was effective as of December 31, 2008 to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in SEC rules and forms.
Crowe
Horwath LLP, independent registered public accounting firm that audited the
Company’s consolidated financial statements included in this Annual Report on
Form 10-K, has also audited the effectiveness of the Company’s internal control
over financial reporting as of December 31, 2008. The audit report on the effectiveness of the Company’s
internal control over financial reporting is combined with the audit report of
the Company’s consolidated financial statements on page 44.
None.
|
Positions
and
|
Years
of Service
|
||
|
Offices
With
|
With
the
|
||
|
Executive
Officer1
|
Age
|
the
Registrant
|
Registrant
|
|
G.
Anthony Busseni
|
60
|
President
and CEO, Director2
|
24*
|
|
Allison
Razor
|
45
|
Senior
Vice President3
|
22*
|
The
Company has adopted a Code of Ethics that applies to the Company’s directors,
officers and employees, including the Company’s chief executive officer and
chief financial officer. The Company makes available its Code of
Ethics on its Internet website at www.farmerscapital.com.
Additional
information required by Item 10 is hereby incorporated by reference from the
Company's definitive proxy statement in connection with its annual meeting of
shareholders scheduled for May 12, 2009, which will be filed with the Commission
on or about April 1, 2009, pursuant to Regulation 14A.
|
*
|
Includes
years of service with the Company and its
subsidiaries.
|
|
1
|
For
Regulation O purposes, Frank W. Sower, Jr., Chairman of the Company’s
board of directors, is considered an executive officer in name
only.
|
|
2
|
Also
a director of Farmers Bank, United Bank (Chairman), The Lawrenceburg Bank
and Trust, First Citizens, Citizens Northern, FCB Services, Farmers
Insurance (Chairman), Leasing One (Chairman), Kentucky General (Chairman),
FFKT Insurance, Kentucky Home Life Insurance Company, EG Properties, EKT
Properties, and an administrative trustee of Farmers Capital Bank Trust I,
Farmers Capital Bank Trust II, and Farmers Capital Bank Trust
III.
|
|
3
|
Also
a director of Farmers Bank, FCB Services, and an administrative trustee of
Farmers Capital Bank Trust I, Farmers Capital Bank Trust II, and Farmers
Capital Bank Trust III.
|
79
The
information required by Items 11 through 14 is hereby incorporated by reference
from the Company's definitive proxy statement in connection with its annual
meeting of shareholders scheduled for May 12, 2009, which will be filed with the
Commission on or about April 1, 2009, pursuant to Regulation 14A.
PART
IV
|
(a)1.
|
Financial
Statements
|
|
(a)2.
|
Financial Statement
Schedules
|
All
schedules are omitted for the reason they are not required, or are not
applicable, or the required information is disclosed elsewhere in the financial
statements and related notes thereto.
|
(a)3.
|
Exhibits:
|
|
3.1
|
Amended
and Restated Articles of Incorporation of the Registrant (incorporated by
reference to Quarterly Report on Form 10-Q for the quarterly period ended
June 30, 2006).
|
|
3.2
|
Articles
of Amendment to Second Amended and Restated Articles of Incorporation
(incorporated by reference to Current Report on Form 8-K dated January 13,
2009)
|
|
3.3
|
Amended
and Restated Bylaws of the Registrant (incorporated by reference to Annual
Report of Form 10-K for the fiscal year ended December 31,
1997).
|
|
3.4
|
Amendments
to Bylaws of the Registrant (incorporated by reference to Quarterly Report
of Form 10-Q for the quarterly period ended March 31,
2003).
|
|
4
|
Articles
of Incorporation and Bylaws of the Registrant (incorporated by reference
to Quarterly Report on Form 10-Q for the quarterly period ended June 30,
2006, the Annual Report on Form 10-K for the fiscal year ended December
31, 1997, the Quarterly Report on Form 10-Q for the quarterly period ended
March 31, 2003, and Current Report on Form 8-K dated January 13,
2009).
|
|
4.1
|
Junior
Subordinated Indenture, dated as of July 21, 2005, between Farmers Capital
Bank Corporation and Wilmington Trust Company, as Trustee, relating to
unsecured junior subordinated deferrable interest notes that mature in
2035.*
|
|
4.2
|
Amended
and Restated Trust Agreement, dated as of July 21, 2005, among Farmers
Capital Bank Corporation, as Depositor, Wilmington Trust Company, as
Property and Delaware Trustee, the Administrative Trustees (as named
therein), and the Holders (as defined therein).*
|
|
4.3
|
Guarantee
Agreement, dated as of July 21, 2005, between Farmers Capital Bank
Corporation, as Guarantor, and Wilmington Trust Company, as Guarantee
Trustee.*
|
|
4.4
|
Junior
Subordinated Indenture, dated as of July 26, 2005, between Farmers Capital
Bank Corporation and Wilmington Trust Company, as Trustee, relating to
unsecured junior subordinated deferrable interest notes that mature in
2035.*
|
|
4.5
|
Amended
and Restated Trust Agreement, dated as of July 26, 2005, among Farmers
Capital Bank Corporation, as Depositor, Wilmington Trust Company, as
Property and Delaware Trustee, the Administrative Trustees (as named
therein), and the Holders (as defined therein).*
|
|
4.6
|
Guarantee
Agreement, dated as of July 26, 2005, between Farmers Capital Bank
Corporation, as Guarantor, and Wilmington Trust Company, as Guarantee
Trustee.*
|
|
4.7
|
Indenture,
dated as of August 14, 2007 between Farmers Capital Bank Corporation, as
Issuer, and Wilmington Trust Company, as Trustee, relating to
fixed/floating rate junior subordinated debt due
2037.*
|
80
|
4.8
|
Amended
and Restated Declaration of Trust, dated as of August 14, 2007, by Farmers
Capital Bank Corporation, as Sponsor, Wilmington Trust Company, as
Delaware and Institutional Trustee, the Administrative Trustees (as named
therein), and the Holders (as defined therein).*
|
|
4.9
|
Guarantee
Agreement, dated as of August 14, 2007, between Farmers Capital Bank
Corporation, as Guarantor, and Wilmington Trust Company, as Guarantee
Trustee.*
|
|
10.1
|
Agreement
and Plan of Merger, Dated July 1, 2005, as Amended, by and among Citizens
Bancorp, Inc., Citizens Acquisition Subsidiary Corp, and Farmers Capital
Bank Corporation
(incorporated
by reference to Appendix A of Registration Statement filed on Form S-4 on
October 11, 2005).
|
|
10.2
|
Amended
and Restated Plan of Merger of Citizens National Bancshares, Inc. with and
into FCBC Acquisition Subsidiary, LLC (incorporated by reference to
Appendix A of Proxy Statement for Special Meeting of Shareholders of
Citizens National Bancshares, Inc. and Prospectus in connection with an
offer of up to 600,000 shares of its common stock of Farmers Capital Bank
Corporation filed on Form 424B3 on August 7, 2006).
|
|
10.3
|
Stock
Purchase Agreement Dated June 1, 2006 by and among Farmers Capital Bank
Corporation, Kentucky Banking Centers, Inc. and Citizens First
Corporation. (incorporated by reference to Quarterly Report of Form 10-Q
for the quarterly period ended September 30, 2008).
|
|
21
|
Subsidiaries
of the Registrant
|
|
23
|
Consent
of Independent Registered Public Accounting Firm
|
|
31.1
|
CEO
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
|
|
31.2
|
CFO
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
|
|
32
|
Certifications
Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of
2002
|
|
|
*
Exhibit not included pursuant to Item 601(b)(4)(iii) and (v) of Regulation
S-K. The Company will provide a copy of such exhibit to the Securities and
Exchange Commission upon request.
|
81
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
|
FARMERS
CAPITAL BANK CORPORATION
|
|||
|
By:
|
/s/ G. Anthony Busseni | ||
|
G.
Anthony Busseni
|
|||
|
President
and Chief Executive Officer
|
|||
|
Date:
|
March 11, 2009 | ||
Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the Registrant and in the
capacities and on the dates indicated.
| /s/ G. Anthony Busseni |
President,
Chief Executive Officer
|
March 11, 2009 |
|
G.
Anthony Busseni
|
and
Director (principal executive
|
|
|
officer
of the Registrant)
|
||
|
/s/
Frank W. Sower, Jr.
|
Chairman
|
February 24, 2009 |
|
Frank
W. Sower, Jr.
|
||
| /s/ Ben F. Brown |
Director
|
February 27, 2009 |
|
Ben
F. Brown
|
||
| /s/ Lloyd C. Hillard, Jr. |
Director
|
February 24, 2009 |
|
Lloyd
C. Hillard, Jr.
|
||
|
Director
|
||
|
R.
Terry Bennett
|
||
|
/s/
Shelley S. Sweeney
|
Director
|
February 26, 2009 |
|
Shelley
S. Sweeney
|
||
| /s/ Donald J. Mullineaux |
Director
|
February 27, 2009 |
|
Dr.
Donald J. Mullineaux
|
||
| /s/ Donald Saelinger |
Director
|
February 24, 2009 |
|
Dr.
Donald A. Saelinger
|
||
| /s/ J D. Sutterlin |
Director
|
February 24, 2009 |
|
Dr.
John D. Sutterlin
|
||
|
/s/
Marvin E. Strong, Jr.
|
Director
|
February 25, 2009 |
|
Marvin
E. Strong, Jr.
|
||
| /s/ J. Barry Banker |
Director
|
February 24, 2009 |
|
J.
Barry Banker
|
||
|
/s/
Robert Roach, Jr.
|
Director
|
February 26, 2009 |
|
Robert
Roach, Jr.
|
||
|
/s/
C. Douglas Carpenter
|
Senior
Vice President, Secretary
|
March 11, 2009 |
|
C.
Douglas Carpenter
|
and
CFO (principal financial and
|
|
|
accounting
officer)
|
82
|
Exhibit
|
Page
|
|
|
84
|
||
|
85
|
||
|
86
|
||
|
87
|
||
|
88
|
83