| • FORM 10-Q • SECTION 302 CEO CERTIFICATION • SECTION 302 CFO CERTIFICATION • SECTION 906 CEO CERTIFICATION • SECTION 906 CFO CERTIFICATION • XBRL INSTANCE DOCUMENT • XBRL TAXONOMY EXTENSION SCHEMA • XBRL TAXONOMY EXTENSION CALCULATION LINKBASE • XBRL TAXONOMY EXTENSION DEFINITION LINKBASE • XBRL TAXONOMY EXTENSION LABEL LINKBASE • XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
For the quarterly period ended March 31, 2012
For the transition period from to Commission file number 000-49736
First Community Financial Corporation (Exact name of registrant as specified in its charter)
2 N. Main St., Mifflintown, PA 17059 (Address of Principal Executive Offices) (717) 436-2144 (Registrant’s telephone number, including area code)
Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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. x Yes ¨ No Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes ¨ No Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non- accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Exchange Act.) ¨ Yes x No Indicate the number of shares outstanding of each class of issuer’s classes of common stock, as of the last practicable date:
PART I – FINANCIAL INFORMATION Item 1. Financial Statements
FIRST COMMUNITY FINANCIAL CORPORATION CONSOLIDATED BALANCE SHEETS (Dollars In Thousands, Except Share Data)
See accompanying notes.
2
PART I – FINANCIAL INFORMATION, CONTINUED Item 1. Financial Statements, continued
FIRST COMMUNITY FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (unaudited) (Dollars In Thousands, Except Per Share Data)
See accompanying notes.
3
PART I – FINANCIAL INFORMATION, CONTINUED Item 1. Financial Statements, continued
FIRST COMMUNITY FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY For the Three Months Ended March 31, 2012 and 2011 (Unaudited) (Dollars In Thousands, Except Per Share Data)
See accompanying notes.
4
PART I – FINANCIAL INFORMATION, CONTINUED Item 1. Financial Statements, continued
FIRST COMMUNITY FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Dollars In Thousands)
See accompanying notes.
5
PART I – FINANCIAL INFORMATION, CONTINUED Item 1. Financial Statements, continued
FIRST COMMUNITY FINANCIAL CORPORATION NOTES TO FINANCIAL STATEMENTS (Unaudited) March 31, 2012 Note A - Basis of Presentation The consolidated financial statements include the accounts of First Community Financial Corporation (the “Corporation”) and its wholly-owned subsidiaries, The First National Bank of Mifflintown (the “Bank”) and First Community Financial Capital Trust I (the “Trust”). All material inter-company transactions have been eliminated. The Corporation was organized on November 13, 1984 and is subject to regulation by the Board of Governors of the Federal Reserve System. The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and are presented in accordance with the instructions to Form 10-Q and Rule 10-01 of the Securities and Exchange Commission Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012. The consolidated financial statements presented in this report should be read in conjunction with the audited financial statements and the accompanying notes for the year ended December 31, 2011, included in the Corporation’s Form 10-K filed with the Securities and Exchange Commission on March 9, 2012. Certain reclassifications have been made to prior period balances to conform to the current year’s presentation format. The Corporation has evaluated events and transactions occurring subsequent to the balance sheet date of March 31, 2012, for items that should potentially be recognized or disclosed in these financial statements. The evaluation was conducted through May 10, 2012, the date these financial statements were issued.
6
Note B - Accounting Policies The accounting policies of the Corporation as applied in the interim financial statements presented are substantially the same as those followed on an annual basis as presented in the Corporation’s Form 10-K. Note C - Comprehensive Income The only other comprehensive income item that the Corporation presently has is unrealized gains on securities available for sale. The components of the change in unrealized gains are as follows (in thousands):
Note D - Earnings Per Share The Corporation has a simple capital structure. Basic earnings per share represents net income divided by the weighted average number of common shares outstanding during the period. The weighted average number of common shares outstanding was 1,407,998 and 1,403,885 as of March 31, 2012 and 2011, respectively. Note E - Guarantees The Corporation does not issue any guarantees that would require liability recognition or disclosure, other than its standby letters of credit. Standby letters of credit written are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Generally, all letters of credit, when issued, have expiration dates within one year. The credit risks involved in issuing letters of credit is essentially the same as those that are involved in extending loan facilities to customers. The Corporation, generally, holds collateral and/or personal guarantees supporting these commitments. The Corporation had $110,000 of standby letters of credit outstanding as of March 31, 2012. Management believes that the proceeds obtained through a liquidation of collateral and the enforcement of guarantees
7
would be sufficient to cover the potential amount of future payment required under the corresponding guarantees. The current amount of the liability as of March 31, 2012 for guarantees under standby letters of credit issued is not material. Note F - Securities Management determines the appropriate classification of debt securities at the time of purchase and re-evaluates such designation as of each balance sheet date. Securities available for sale are those securities that the Corporation intends to hold for an indefinite period of time, but not necessarily to maturity. Any decision to sell an available for sale security would be based on various factors. These securities are stated at fair value. Unrealized gains (losses) are reported as changes in other comprehensive income, a component of shareholders’ equity, net of the related deferred tax effect. Premiums and discounts are recognized as interest income over the estimated lives of the securities, using the interest method. Securities held to maturity are those securities that the Corporation has the intent and ability to hold to maturity. These securities are stated at cost adjusted for amortization of premiums and accretion of discounts, which is recognized as interest income over their estimated lives, using the interest method. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method. Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 320, Investments – Debt and Equity Securities, clarifies the interaction of the factors that should be considered when determining whether a debt security is other-than-temporarily impaired. Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) for equity securities, the intent and ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In instances when a determination is made that an other-than-temporary impairment exists, but the investor does not intend to sell the debt security and it is not more likely than not that it will be required to sell the debt security prior to its anticipated recovery, FASB Topic 320 changes the presentation and amount of the other-than-temporary impairment recognized in the income statement. The other-than-temporary impairment is separated into (a) the amount of the total other-than-temporary impairment related to a decrease in cash flows expected to be collected from the debt security (the credit loss) and (b) the amount of the total other-than-temporary impairment related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings. The amount of the total other-than-temporary impairment related to all other factors is recognized in other comprehensive income.
8
Amortized cost and fair value at March 31, 2012 and December 31, 2011 were as follows:
9
The following table shows the Corporation’s investments’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at March 31, 2012 and December 31, 2011:
At March 31, 2012, ten mortgage-backed securities have unrealized losses. The aggregate depreciation from the Corporation’s amortized cost basis on these securities is 0.3%. In management’s opinion, these unrealized losses relate to changes in interest rates. The Corporation’s mortgage backed security portfolio consists of only government sponsored agencies, and contains no private label securities. At March 31, 2012, twenty-three state and municipal securities have unrealized losses with aggregate depreciation of 5.6% from the Corporation’s amortized cost basis. In management’s opinion, these
10
unrealized losses relate primarily to changes in interest rates. In analyzing the issuer’s financial condition, management considers the issuer’s bond rating as well as the financial performance of the respective municipality. At March 31, 2012, four corporate securities have unrealized losses with aggregate depreciation of 6.8% from the Corporation’s amortized cost basis. In management’s opinion, these unrealized losses relate primarily to changes in interest rates. In analyzing the issuer’s financial condition, management considers the issuer’s bond rating as well as the financial performance of the respective company. Gross realized gains and losses for the three months ending March 31, 2012 and March 31, 2011 were as follows (in thousands):
11
Amortized cost and fair value at March 31, 2012 by contractual maturity are shown below. Municipal securities with prerefunded issues are included in the category in which payment is expected to occur. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay with or without penalties.
Note G - Loans Allowance for loan losses and loans receivable at March 31, 2012 and December 31, 2011 are as follows: Allowance for Loan Losses:
12
Loans Receivable:
13
Analysis of credit quality indicators is as follows:
14
The following is a summary of impaired loans:
15
Age analysis of past-due loans is as follows:
The following is a summary of Troubled Debt Restructurings:
No additional funds are committed to be advanced in connection with any loans whose terms have been modified in troubled debt restructurings.
16
NOTE H - FAIR VALUE OF FINANCIAL INSTRUMENTS Management uses its best judgment in estimating the fair value of the Corporation’s consolidated financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Bank could have realized in a sales transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective period-ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each period-end. ASC Topic 820, Fair Value Measurements and Disclosure, which defines fair value, establishes a framework for measuring fair value under GAAP, expands disclosures about fair value measurements, and applies to other accounting pronouncements that require or permit fair value measurements. The Bank adopted Fair Value Measurements effective for its fiscal year beginning January 1, 2008. Fair value measurement and disclosure guidance defines fair value as the price that would be received to sell the asset or transfer the liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. Additional guidance is provided on determining when the volume and level of activity for the asset or liability has significantly decreased. The Topic also includes guidance on identifying circumstances when a transaction may not be considered orderly. Fair value measurement and disclosure provides a list of factors that a reporting entity should evaluate to determine whether there has been a significant decrease in the volume and level of activity for the asset or liability in relation to normal market activity for the asset or liability. When the reporting entity concludes there has been a significant decrease in the volume and level of activity for the asset or liability, further analysis of the information from that market is needed and significant adjustments to the related prices may be necessary to estimate fair value in accordance with fair value measurement and disclosure guidance. ASC Topic 820 clarifies that when there has been a significant decrease in the volume and level of activity for the asset or liability, some transactions may not be orderly. In those situations, the entity must evaluate the weight of the evidence to determine whether the transaction is orderly. This Topic provides a list of circumstances that may indicate that a transaction is not orderly. A transaction price that is not associated with an orderly transaction is given little, if any, weight when estimating fair value.
17
Fair value measurement and disclosure establishes a fair value hierarchy that prioritizes the inputs to valuation methods used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows: Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. Level 2: Quoted prices in markets that are not active, or inputs that are observable either directly or indirectly, for substantially the full term of the asset or liability. Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported with little or no market activity). An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The following describes the valuation techniques used by the Corporation to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the financial statements: Securities available for sale: Securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2). For certain securities which are not traded in active markets or are subject to transfer restrictions, valuations are adjusted to reflect illiquidity and/or transferability, and such adjustments are generally based on available market evidence (Level 3). The value of restricted Federal Reserve Bank stock, FHLB stock and Atlantic Central Bankers Bank stock approximates fair value based on the redemption provisions of each entity and is therefore excluded from the following table. For financial assets measured at fair value on a recurring basis, the fair value measurements by level within the fair value hierarchy used at March 31, 2012 and December 31, 2011 are as follows (in thousands):
18
The table below presents a reconciliation and income statement of gains and losses for available for sale securities measured at fair value on a recurring basis using significant unobservable inputs (level 3) for the periods ending March 31, 2012 and December 31, 2011 (in thousands).
19
The following describes the valuation techniques used by the Corporation to measure certain financial assets recorded at fair value on a nonrecurring basis in the financial statements: Impaired Loans: Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The value of real estate collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Corporation using observable market data (Level 2). However, if the collateral is a house or building in the process of construction or if an appraisal of the real estate property is over two years old, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Impaired loans allocated to the Allowance for Loan Losses are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income. Certain assets such as real estate owned are measured at fair value less the cost to sell. Management believes that the fair value component in its valuation follows the provisions of ASC 820. Assets measured at fair value on a non-recurring basis at March 31, 2012 and December 31, 2011 are summarized below: (in thousands)
20
Total impaired loans had a carrying amount of $4,966,000 and $5,242,000, net of the valuation allowances of $431,000 and $966,000 as of March 31, 2012 and December 31, 2011, respectively. This resulted in additional provision for loan losses of $0 for the period ending March 31, 2012 and $803,000 for the period ending December 31, 2011. The changes in Level 3 assets measured at estimated fair value on a nonrecurring basis during the three month period ended March 31, 2012 were as follows:
The following table displays quantitative information about Level 3 Fair Value Measurements for March 31, 2012.
ASC Topic 825, Financial Instruments, requires disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies, as well as in annual financial statements. The following information should not be interpreted as an estimate of the fair value of the entire Corporation since a fair value calculation is only provided for a limited portion of the Corporation’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Corporation’s disclosures and those of other companies may not be meaningful. The following methods and assumptions were used to estimate the fair values of the Corporation’s financial instruments at March 31, 2012 and December 31, 2011. Cash and cash equivalents: The carrying amounts reported in the balance sheet for cash and short-term instruments approximate those assets’ fair values. Time certificates of deposit: The carrying amount of time certificates of deposit approximate their fair value. Securities: For securities and marketable equity securities held for investment purposes, fair values are based on quoted market prices or dealer quotes. For other securities held as investments, fair value equals quoted market price, if available. If a quoted market price is not available, fair values are based on quoted market prices for similar securities. For securities which are not traded in active markets or are subject to transfer restrictions, valuations are generally based on available market evidence.
21
Loans receivable: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. The fair values of fixed rate loans are estimated using discounted cash flow analyses, using interest rates currently being offered in the market for loans with similar terms to borrowers of similar credit quality. Fair values for nonperforming loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable. Restricted investment in bank stock: The carrying amount of restricted investment in bank stock approximates fair value. Accrued interest receivable and payable: The carrying amount of accrued interest receivable and accrued interest payable approximates its fair value. Life insurance: The carrying amount of life insurance contracts is assumed to be a reasonable fair value. Life insurance contracts are carried on the balance sheet at their redemption value. This redemption value is based on existing market conditions and therefore represents the fair value of the contract. Deposit liabilities: The fair values disclosed for demand deposits (e.g., interest and noninterest checking, passbook savings and money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered in the market on certificates to a schedule of aggregated expected monthly maturities on time deposits. Short-term borrowings: The carrying amounts of short-term borrowings approximate their fair values. Long-term debt: Fair values of long-term debt are estimated using discounted cash flow analysis, based on rates currently available to the Corporation for advances from the FHLB with similar terms and remaining maturities. Junior Subordinated debt: Fair values of junior subordinated debt are estimated using discounted cash flow analysis, based on rates currently offered on such debt, with similar terms and remaining maturities. As the Corporation has the ability to redeem the junior subordinated debt at any time, the fair value approximates its carrying value. Off-balance sheet financial instruments: Fair values for the Corporation’s off-balance sheet financial instruments (lending commitments and letters of credit) are based on fees currently charged to enter into similar agreements taking into account the remaining terms of the agreements and the counterparties’ credit standing.
22
The estimated fair values of the Corporation’s financial instruments were as follows at March 31, 2012 and December 31, 2011.
23
Note H - New and Recently Adopted Accounting Pronouncements In April 2011, the FASB issued ASU 2011-03, “Transfers and Servicing (Topic 860) – Reconsideration of Effective Control for Repurchase Agreements.” The amendments in this ASU remove from the assessment of effective control (1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee and (2) the collateral maintenance implementation guidance related to that criterion. The amendments in this ASU are effective for the first interim or annual period beginning on or after December 15, 2011. The guidance should be applied prospectively to transactions or modifications of existing transactions that occur on or after the effective date. Early adoption was not permitted. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements. In May 2011, the FASB issued ASU 2011-04, “Fair Value Measurement (Topic 820) – Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.” This ASU is the result of joint efforts by the FASB and International Accounting Standards Board (IASB) to develop a single, converged fair value framework on how (not when) to measure fair value and what disclosures to provide about fair value measurements. The ASU is largely consistent with existing fair
24
value measurement principles in U.S. GAAP (Topic 820), with many of the amendments made to eliminate unnecessary wording differences between U.S. GAAP and International Financial Reporting Standards (IFRS). The amendments are effective for interim and annual periods beginning after December 15, 2011 with prospective application. Early application was not permitted. The Company has included the required disclosures in its consolidated financial statements. In June 2011, the FASB issued ASU 2011-05, “Comprehensive Income (Topic 220) – Presentation of Comprehensive Income.” The objective of this ASU is to improve the comparability, consistency and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income by eliminating the option to present components of other comprehensive income as part of the statement of changes in stockholders’ equity. The amendments require that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The single statement of comprehensive income should include the components of net income, a total for net income, the components of other comprehensive income, a total for other comprehensive income, and a total for comprehensive income. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present all the components of other comprehensive income, a total for other comprehensive income, and a total for comprehensive income. The amendments do not change the items that must be reported in other comprehensive income, the option for an entity to present components of other comprehensive income either net of related tax effects or before related tax effects, or the calculation or reporting of earnings per share. The amendments in this ASU should be applied retrospectively. The amendments are effective for fiscal years and interim periods within those years beginning after December 15, 2011. Early adoption was permitted because compliance with the amendments was already permitted. The amendments do not require transition disclosures. The Company has included the required disclosures in its consolidated financial statements. In September 2011, the FASB issued ASU 2011-08, “Intangible – Goodwill and Other (Topic 350) – Testing Goodwill for Impairment.” The amendments in this ASU permit an entity to first assess qualitative factors related to goodwill to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill test described in Topic 350. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. Under the amendments in this ASU, an entity is not required to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount. The amendments in this ASU are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15,
25
2011. Early adoption was permitted, including for annual and interim goodwill impairment tests performed as of a date before September 15, 2011, if an entity’s financial statements for the most recent annual or interim period had not yet been issued. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements. In December 2011, the FASB issued ASU 2011-11, “Balance Sheet (Topic 210) – Disclosures about Offsetting Assets and Liabilities.” This ASU requires entities to disclose both gross information and net information about both instruments and transactions eligible for offset in the balance sheet and instruments and transactions subject to an agreement similar to a master netting arrangement. An entity is required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented. The Company does not expect the adoption of ASU 2011-11 to have a material impact on its consolidated financial statements. In December 2011, the FASB issued ASU 2011-12, “Comprehensive Income (Topic 220) – Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.” The amendments are being made to allow the Board time to re-deliberate whether to present on the face of the financial statements the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income for all periods presented. While the Board is considering the operational concerns about the presentation requirements for reclassification adjustments and the needs of financial statement users for additional information about reclassification adjustments, entities should continue to report reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before ASU 2011-05. All other requirements in ASU 2011-05 are not affected by ASU 2011-12, including the requirement to report comprehensive income either in a single continuous financial statement or in two separate but consecutive financial statements. Public entities should apply these requirements for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company has included the required disclosures in its consolidated financial statements.
26
Forward-Looking Statements Except for historical information, this report may be deemed to contain “forward-looking” statements regarding the Corporation. Examples of forward-looking statements include, but are not limited to, (a) projections or statements regarding future earnings, expenses, net interest income, other income, earnings or loss per share, asset mix and quality, growth prospects, capital structure and other financial terms, (b) statements of plans and objectives of management or the board of directors, and (c) statements of assumptions, such as economic conditions in the Corporation’s market areas. Such forward-looking statements can be identified by the use of forward-looking terminology such as “believes”, “expects”, “may”, “intends”, “will”, “should”, “anticipates”, or the negative of any of the foregoing or other variations thereon or comparable terminology, or by discussion of strategy. No assurance can be given that the future results covered by forward-looking statements will be achieved. Such statements are subject to risks, uncertainties, and other factors that could cause actual results to differ materially from future results expressed or implied by such forward-looking statements. Important factors that could impact the Corporation’s operating results include, but are not limited to, (i) the effects of changing economic conditions in the Corporation’s market areas and nationally, (ii) credit risks of commercial, real estate, consumer and other lending activities, (iii) significant changes in interest rates, (iv) changes in federal and state banking laws and regulations which could impact the Corporation’s operations, (v) funding costs, and (vi) other external developments which could materially affect the Corporation’s business and operations. Critical Accounting Policies The consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America, which require the Corporation to make estimates and assumptions (see footnote 1 to the consolidated financial statements included in Form 10-K for the year ended December 31, 2011). The Corporation believes that of its significant accounting estimates, the allowance for loan losses and valuation of its securities may involve a higher degree of judgement and complexity. The allowance for loan losses is established through a charge to the provision for loan losses. In determining the balance in the allowance for loan losses, consideration is given to a variety of factors in establishing this estimate. In estimating the allowance for loan losses, management considers current
27
economic conditions, diversification of the loan portfolio, delinquency statistics, results of internal loan reviews, borrowers’ perceived financial and managerial strengths, the adequacy of the underlying collateral, if collateral dependent, or present value of future cash flows and other relevant factors. The use of different estimates or assumptions could produce different provisions for loan losses. Additional information is provided in the discussion below about the provision for loan losses under “Results of Operations”. Declines in the fair value of securities held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses if the impairment is due to credit concerns; if the impairment is due to other conditions the losses are recognized through other comprehensive income. In estimating other-than-temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. No securities were deemed to be other than temporarily impaired as of March 31, 2012. Financial Condition Total assets of the Corporation increased $11,958,000 or 3.1% during the first three months of 2012. Net loans increased $1,226,000 or 0.5%, cash and cash equivalents increased $6,270,000 or 63.1%, and securities increased $3,887,000 or 3.6% from December 31, 2011 to March 31, 2012. Total deposits increased by $11,361,000 or 3.4% since year-end 2011. Short-term borrowings increased by $48,000 or 1.8%. Non-Performing Assets Non-performing assets include loans on a non-accrual basis, loans past due more than ninety days and still accruing, troubled debt restructurings and foreclosed real estate. These groups of assets represent the asset categories posing the greatest risk of loss to the Corporation. Non-accruing loans are loans no longer accruing interest due to apparent financial difficulties of the borrower. The Corporation generally discontinues accrual of interest when principal or interest becomes doubtful based on prevailing economic conditions and collection efforts. Loans are returned to accrual status only when all factors indicating doubtful collectibility cease to exist. Foreclosed real estate is acquired through foreclosure or in lieu of foreclosure and is recorded at fair value less costs to dispose at the date of foreclosure establishing a new cost basis. Gains on the sale of foreclosed real estate are included in other income, while losses and writedowns resulting from periodic revaluations are included in other expenses.
28
The following table sets forth the Corporation’s non-performing assets as of the dates indicated: Non-Performing Assets (Dollars in Thousands)
Total non-performing assets at March 31, 2012 increased $3,512,000 since December 31, 2011 as a result of the increase in loans in non-accrual status and the decrease in foreclosed real estate. The loans in non-accrual status include loans in the amount of $2,554,000 which are guaranteed by a U.S. government agency. Results of Operations Net income for the three month period ending March 31, 2012 was $1,135,000, or $0.81 per share, compared to $990,000, or $0.71 per share, for the same period in 2011. Annualized return on average equity was 14.32% for the first three months of 2012 and 14.00% for the same period in 2011. Annualized return on average assets was 1.17% for the first three months of 2012 and 1.08% for the same period in 2011. The following table includes average balances for the quarters ending March 31, 2012 and March 31, 2011, rates and interest income and expense adjusted to an FTE basis, the interest rate spread, the net interest margin and the cost of funds:
29
Average Balances, Rates and Interest Income and Expense (Dollars in Thousands)
30
Rate / Volume Analysis
Tax equivalent net interest income for the first three months of 2012 increased by $190,000 compared to the same period in 2011. For the first three months of 2012, the net interest margin on a fully tax equivalent (FTE) basis was 3.79% compared to 3.79% for the same period in 2011. The FTE basis is calculated by grossing up the yield on tax-exempt securities and loans by the federal tax rate of 34%, in order that the yield on tax-exempt assets may be comparable to interest earned on taxable assets. The decrease in the cost of funds of 0.26% from 1.80% in 2011 to 1.54% in 2012 was equal to the decrease in the yield on earning assets of 0.26% from 5.59% in 2011 to 5.33% in 2012. Provisions for loan losses are charged to income to bring the allowance for loan losses to a level deemed appropriate by management. The Corporation recorded a provision for loan losses of $10,000 for the first three months of 2012 compared to $24,000 for the same time period in 2011. As a percentage of loans, the allowance for loan losses was 1.03% at March 31, 2012, compared to 1.23% at year-end 2011 and 0.91% at March 31, 2011. Impaired loans were $4,966,000 at March 31, 2012 compared to $5,242,000 at December 31, 2011. The decrease in impaired loans is the result of a $507,000 partial charge-off of a commercial real estate loan and the addition of another commercial real estate loan . At this time, no losses in excess of valuation allowance are anticipated. The Bank’s evaluation of the adequacy of the allowance for loan losses includes a review of all loans on at least a quarterly basis. For residential
31
mortgage loans and consumer loans, the primary factors used to determine the adequacy of the allowance are delinquency, collateral value, general economic conditions and, where applicable, individual borrower information that is known to the Bank. For commercial loans and commercial real estate loans, the review includes financial performance of the borrower, payment history, collateral value, general economic conditions and more specific economic conditions affecting specific industries or business activities of the borrowers within the portfolio agreements. Management believes the allowance is presently adequate to cover the inherent risks associated with the Corporation’s loan portfolio. Non-interest income in the first three months of 2012 increased by $96,000 or 15.8% compared to the same period in 2011. Income from fiduciary activities decreased $41,000 and earnings on investment in life insurance decreased $20,000. These decreases were offset by increases of $21,000 on service charges on deposit accounts, $8,000 in ATM card fees and $129,000 in other income. Total non-interest expense increased in the first three months of 2012 by $68,000 compared to the first three months of 2011. Employee compensation and benefits increased by $71,000 or 5.7% compared to the same period in 2011 as a result of merit increases and the addition of new personnel. Professional fees increased by $19,000, director and advisory board fees increased $21,000, net occupancy expense increased $14,000 and supplies and postage increased $13,000. These increases were offset by a decrease in FDIC and OCC expenses of $49,000. The decrease in FDIC and OCC expense is the result of the change in assessment base for FDIC insurance. As the Corporation continues to add new loan and deposit accounts, as well as new services, additional operating costs will be generated. It is anticipated that, over time, these costs are expected to be offset by the additional income generated through the expansion of services to our customers and community and new business development. Income tax expense was $306,000 for the three month period ended March 31, 2012 compared to $252,000 for the same period in 2011. Income tax expense as a percentage of income before income taxes was 21.2% for the period compared to 20.3% for 2011. Tax exempt income comprised a smaller portion of pre-tax income in 2012 than 2011, resulting in a higher effective tax rate in 2012. The reason the Corporation’s effective tax rate is below the statutory rate of 34.0% is a result of tax-exempt income on loans, securities and bank-owned life insurance. Liquidity Liquidity represents the Corporation’s ability to efficiently manage cash flows to support customers’ loan demand, withdrawals by depositors, the payment of operating expenses, as well as the ability to take advantage of business and investment opportunities as they arise. One of the Corporation’s sources of liquidity is $341,910,000 in deposits at March 31, 2012, which increased $11,361,000 over total deposits
32
of $330,549,000 at year-end 2011. Other sources of liquidity at March 31, 2012 are available from the following: (1) investments in interest-bearing deposits with banks and federal funds sold, which totaled $6,201,000, (2) securities maturing in one year or less, which totaled $1,505,000, and (3) investments in mortgage-backed securities, which supply income and principal cash flow streams on an ongoing basis. In addition, the Corporation has established federal funds lines of credit with Atlantic Central Bankers Bank and with the Federal Home Loan Bank of Pittsburgh, which can be drawn upon if needed as a source of liquidity. Management is of the opinion that the Corporation’s liquidity is sufficient to meet its anticipated needs. Capital Total shareholders’ equity was $32,320,000 as of March 31, 2012, representing an $882,000 increase from December 31, 2011. The growth in capital was a result of net earnings retention of $853,000, a decrease in accumulated other comprehensive income of $18,000 and an increase in common stock and surplus of $47,000 as a result of the Corporation’s dividend reinvestment plan. The decrease in other comprehensive income is due to the decrease in value of the Corporation’s available for sale securities. At March 31, 2012, the Bank had a Tier I leverage ratio of 9.10%, a Tier I capital to risk-based assets ratio of 16.85% and a total capital to risk-based assets ratio of 18.11%. These ratios indicate the Bank exceeds the federal regulatory minimum requirements for a “well capitalized bank”. The Corporation’s ratios are not materially different than those of the Bank. Item 3. Quantitative and Qualitative Disclosures about Market Risk (Not required of a smaller reporting company) Item 4. Controls and Procedures We maintain a system of controls and procedures designed to provide reasonable assurance as to the reliability of the financial statements and other disclosures included in this report, as well as to safeguard assets from unauthorized use or disposition. The Corporation’s Interim President (Principal Executive Officer) and Chief Financial Officer (Principal Financial Officer) have evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2012. Based upon that evaluation, our Interim President and Chief Financial Officer concluded that our disclosure controls and procedures are effective in timely alerting management to information required to be included in our periodic Securities and Exchange Commission filings. There was no significant change in our internal control over financial reporting that occurred during the quarter ended March 31, 2012 that materially affected, or is reasonably likely to materially affect, the Corporation’s internal control over financial reporting.
33
PART II – OTHER INFORMATION
There are no pending or threatened legal proceedings to which the Corporation or its subsidiaries is a party or to which the property of either the Corporation or its subsidiaries is subject to that, in the opinion of management, may materially impact the financial condition of either the Corporation or its subsidiaries.
(Not required of a smaller reporting company)
34
None
Not Applicable
None
These interactive data files shall not be deemed filed for the purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange act of 1934, as amended, or otherwise subject to liability under these sections.
35
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
36
EXHIBIT INDEX
These interactive data files shall not be deemed filed for the purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange act of 1934, as amended, or otherwise subject to liability under these sections.
37 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||