-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, BLfwBQZeNwY9chgVEvz3X2J4zc98nlcUo+obl8TM4+vEvFjLRhahoJN3kMduPwOD CWxWH+LBu2a7hclZHwb1NQ== 0001054508-07-000069.txt : 20070808 0001054508-07-000069.hdr.sgml : 20070808 20070808110611 ACCESSION NUMBER: 0001054508-07-000069 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20070630 FILED AS OF DATE: 20070808 DATE AS OF CHANGE: 20070808 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PENSECO FINANCIAL SERVICES CORP CENTRAL INDEX KEY: 0001054508 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 232939222 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-23777 FILM NUMBER: 071034081 BUSINESS ADDRESS: STREET 1: 150 N WASHINGTON AVENUE CITY: SCRANTON STATE: PA ZIP: 18503 BUSINESS PHONE: 5703467741X316 MAIL ADDRESS: STREET 1: 150 N WASHINGTON AVE CITY: SCRANTON STATE: PA ZIP: 18503 10-Q 1 text10q063007.txt PFSC 10-Q 06 30 07 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------ FORM 10-Q ------------------ |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2007 OR | | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 ------------------ Commission file number 000-23777 PENSECO FINANCIAL SERVICES CORPORATION Incorporated pursuant to the laws of Pennsylvania ------------------ Internal Revenue Service -- Employer Identification No. 23-2939222 150 North Washington Avenue, Scranton, Pennsylvania 18503-1848 (570) 346-7741 ------------------ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No | | Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): Large accelerated filer | | Accelerated filer |X| Non-accelerated filer | | Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes | | No |X| The total number of shares of the registrant's Common Stock, $0.01 par value, outstanding on July 27, 2007 was 2,148,000. ================================================================================ PENSECO FINANCIAL SERVICES CORPORATION Page Part I -- FINANCIAL INFORMATION Item 1. Financial Statements - Consolidated Balance Sheets: June 30, 2007..........................................3 December 31, 2006......................................3 Statements of Income: Three Months Ended June 30, 2007.......................4 Three Months Ended June 30, 2006.......................4 Six Months Ended June 30, 2007.........................5 Six Months Ended June 30, 2006.........................5 Statements of Cash Flows: Six Months Ended June 30, 2007.........................6 Six Months Ended June 30, 2006.........................6 Notes to Financial Statements..............................7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................14 Item 3. Quantitative and Qualitative Disclosures About Market Risk....25 Item 4. Controls and Procedures.......................................25 Part II -- OTHER INFORMATION Item 1. Legal Proceedings.............................................26 Item 1A. Risk Factors..................................................26 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds...28 Item 3. Defaults Upon Senior Securities...............................28 Item 4. Submission of Matters to a Vote of Security Holders...........28 Item 5. Other Information.............................................28 Item 6. Exhibits......................................................28 Signatures ..............................................................29 Certifications ..............................................................30 PART I. FINANCIAL INFORMATION, Item 1 -- Financial Statements PENSECO FINANCIAL SERVICES CORPORATION CONSOLIDATED BALANCE SHEETS (unaudited) (in thousands, except per share amounts)
June 30, December 31, 2007 2006 ---------------- ---------------- ASSETS Cash and due from banks $ 11,099 $ 12,999 Interest bearing balances with banks 7,493 1,779 Federal funds sold 16,000 - ---------------- ---------------- Cash and Cash Equivalents 34,592 14,778 Investment securities: Available-for-sale, at fair value 75,059 91,705 Held-to-maturity (fair value of $70,798 and $75,120, respectively) 71,090 74,375 ---------------- ---------------- Total Investment Securities 146,149 166,080 Loans, net of unearned income 385,868 369,922 Less: Allowance for loan losses 4,320 4,200 ---------------- ---------------- Loans, Net 381,548 365,722 Bank premises and equipment 9,795 9,471 Other real estate owned 31 - Accrued interest receivable 3,667 3,632 Cash surrender value of life insurance 7,209 7,054 Other assets 3,783 3,084 ---------------- ---------------- Total Assets $ 586,774 $ 569,821 ================ ================ LIABILITIES Deposits: Non-interest bearing $ 73,686 $ 71,585 Interest bearing 350,464 342,215 ---------------- ---------------- Total Deposits 424,150 413,800 Other borrowed funds: Repurchase agreements 28,560 13,441 Short-term borrowings 418 5,486 Long-term borrowings 60,953 65,853 Accrued interest payable 1,561 1,472 Other liabilities 2,981 3,198 ---------------- ---------------- Total Liabilities 518,623 503,250 ---------------- ---------------- STOCKHOLDERS' EQUITY Common stock ($ .01 par value, 15,000,000 shares authorized, 2,148,000 shares issued and outstanding) 21 21 Surplus 10,819 10,819 Retained earnings 58,173 56,393 Accumulated other comprehensive income (862) (662) ---------------- ---------------- Total Stockholders' Equity 68,151 66,571 ---------------- ---------------- Total Liabilities and Stockholders' Equity $ 586,774 $ 569,821 ================ ================
(See accompanying Notes to Consolidated Financial Statements) PENSECO FINANCIAL SERVICES CORPORATION CONSOLIDATED STATEMENTS OF INCOME (unaudited) (in thousands, except per share amounts)
Three Months Ended Three Months Ended June 30, 2007 June 30, 2006 -------------------- -------------------- INTEREST INCOME Interest and fees on loans $ 6,559 $ 5,718 Interest and dividends on investments: U.S. Treasury securities and U.S. Agency obligations 952 1,399 States & political subdivisions 724 636 Other securities 97 106 Interest on Federal funds sold 219 - Interest on balances with banks 102 39 -------------------- -------------------- Total Interest Income 8,653 7,898 -------------------- -------------------- INTEREST EXPENSE Interest on time deposits of $100,000 or more 527 287 Interest on other deposits 1,915 1,533 Interest on other borrowed funds 869 866 -------------------- -------------------- Total Interest Expense 3,311 2,686 -------------------- -------------------- Net Interest Income 5,342 5,212 Provision for loan losses 124 27 -------------------- -------------------- Net Interest Income After Provision for Loan Losses 5,218 5,185 -------------------- -------------------- OTHER INCOME Trust department income 367 351 Service charges on deposit accounts 260 227 Merchant transaction income 873 732 Other fee income 323 303 Other operating income 157 42 Realized gains (losses) on securities, net - - -------------------- -------------------- Total Other Income 1,980 1,655 -------------------- -------------------- OTHER EXPENSES Salaries and employee benefits 2,330 2,340 Expense of premises and fixed assets 725 582 Merchant transaction expenses 671 602 Other operating expenses 1,385 1,308 -------------------- -------------------- Total Other Expenses 5,111 4,832 -------------------- -------------------- Income before income taxes 2,087 2,008 Applicable income taxes 387 447 -------------------- -------------------- Net Income 1,700 1,561 Other comprehensive income, net of taxes: Unrealized securities gains (losses) (222) (153) -------------------- -------------------- Comprehensive Income $ 1,478 $ 1,408 ==================== ==================== Earnings per Common Share (Based on 2,148,000 shares outstanding) $ 0.79 $ 0.73 Cash Dividends Declared Per Common Share $ 0.37 $ 0.35
(See accompanying Notes to Consolidated Financial Statements) PENSECO FINANCIAL SERVICES CORPORATION CONSOLIDATED STATEMENTS OF INCOME (unaudited) (in thousands, except per share amounts)
Six Months Ended Six Months Ended June 30, 2007 June 30, 2006 -------------------- -------------------- INTEREST INCOME Interest and fees on loans $ 12,852 $ 11,233 Interest and dividends on investments: U.S. Treasury securities and U.S. Agency obligations 1,963 2,911 States & political subdivisions 1,445 1,261 Other securities 238 164 Interest on Federal funds sold 304 - Interest on balances with banks 193 48 -------------------- -------------------- Total Interest Income 16,995 15,617 -------------------- -------------------- INTEREST EXPENSE Interest on time deposits of $100,000 or more 1,036 506 Interest on other deposits 3,727 2,959 Interest on other borrowed funds 1,645 1,769 -------------------- -------------------- Total Interest Expense 6,408 5,234 -------------------- -------------------- Net Interest Income 10,587 10,383 Provision for loan losses 220 154 -------------------- -------------------- Net Interest Income After Provision for Loan Losses 10,367 10,229 -------------------- -------------------- OTHER INCOME Trust department income 739 705 Service charges on deposit accounts 511 416 Merchant transaction income 1,920 1,840 Other fee income 583 558 Other operating income 272 174 Realized gains (losses) on securities, net 51 - -------------------- -------------------- Total Other Income 4,076 3,693 -------------------- -------------------- OTHER EXPENSES Salaries and employee benefits 4,705 4,780 Expense of premises and fixed assets 1,350 1,234 Merchant transaction expenses 1,495 1,454 Other operating expenses 2,793 2,487 -------------------- -------------------- Total Other Expenses 10,343 9,955 -------------------- -------------------- Income before income taxes 4,100 3,967 Applicable income taxes 730 832 -------------------- -------------------- Net Income 3,370 3,135 Other comprehensive income, net of taxes: Unrealized securities gains (losses) (200) (252) -------------------- -------------------- Comprehensive Income $ 3,170 $ 2,883 ==================== ==================== Earnings per Common Share (Based on 2,148,000 shares outstanding) $ 1.57 $ 1.46 Cash Dividends Declared Per Common Share $ 0.74 $ 0.70
(See accompanying Notes to Consolidated Financial Statements) PENSECO FINANCIAL SERVICES CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) (in thousands)
Six Months Ended Six Months Ended June 30 2007 June 30 2006 -------------------- -------------------- OPERATING ACTIVITIES Net Income $ 3,370 $ 3,135 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 418 349 Provision for loan losses 220 154 Deferred income tax provision (benefit) 7 44 Amortization of securities, (net of accretion) 196 266 Net realized losses (gains) on securities (51) - (Gain) loss on other real estate (20) - (Increase) decrease in interest receivable (35) 21 (Increase) decrease in cash surrender value of life insurance (155) - (Increase) decrease in other assets (602) (1,969) Increase (decrease) in income taxes payable 96 200 Increase (decrease) in interest payable 89 31 (Decrease) increase in other liabilities (313) (286) -------------------- -------------------- Net cash provided by operating activities 3,220 1,945 -------------------- -------------------- INVESTING ACTIVITIES Purchase of investment securities available-for-sale (10,922) (1,564) Proceeds from sales and maturities of investment securities available-for-sale 21,366 32,251 Purchase of investment securities to be held-to-maturity - - Proceeds from repayments of investment securities available-for-sale 5,941 6,692 Proceeds from repayments of investment securities held-to-maturity 3,097 3,803 Net loans (originated) repaid (16,122) (14,256) Proceeds from other real estate 65 91 Investment in premises and equipment (742) (277) -------------------- -------------------- Net cash provided (used) by investing activities 2,683 26,740 -------------------- -------------------- FINANCING ACTIVITIES Net increase (decrease) in demand and savings deposits 9,290 (16,773) Net proceeds (payments) on time deposits 1,060 18,538 Increase (decrease) in federal funds purchased - - Increase (decrease) in repurchase agreements 15,119 (10,026) Net (decrease) increase in short-term borrowings (5,068) (4,626) Repayments of long-term borrowings (4,900) (4,732) Cash dividends paid (1,590) (1,504) -------------------- -------------------- Net cash provided (used) by financing activities 13,911 (19,123) -------------------- -------------------- Net increase (decrease) in cash and cash equivalents 19,814 9,562 Cash and cash equivalents at January 1 14,778 11,573 -------------------- -------------------- Cash and cash equivalents at June 30 $ 34,592 $ 21,135 ==================== ====================
The Company paid interest and income taxes of $6,319 and $640 and $5,203 and $606, for the six month periods ended June 30, 2007 and 2006, respectively. (See accompanying Notes to Consolidated Financial Statements) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS For the Quarter Ended June 30, 2007 (unaudited) These Notes to Financial Statements reflect events subsequent to December 31, 2006, the date of the most recent Report of Independent Registered Public Accounting Firm, through the date of this Quarterly Report on Form 10-Q. These Notes to Financial Statements should be read in conjunction with Parts I and II of this Report, in particular, (1) Management's Discussion and Analysis of Financial Condition and Results of Operations for the three months ended June 30, 2007 and June 30, 2006 and for the six months ended June 30, 2007 and June 30, 2006, with respect to the Company's net interest income, capital requirements and liquidity, (2) Part II, Item 6, Exhibits and (3) the Company's Annual Report - Form 10-K for the year ended December 31, 2006, which was filed with the Securities and Exchange Commission on March 16, 2007 and is incorporated herein by reference. FORWARD LOOKING INFORMATION This Form 10-Q contains forward-looking informational statements, in addition to the historical financial information required by the Securities and Exchange Commission. There are certain risks and uncertainties associated with these forward-looking statements which could cause actual results to differ materially from those stated herein. Such risks are discussed in the section entitled "Management Discussion and Analysis of Financial Condition and Results of Operations". These forward-looking statements reflect management's analysis as of this point in time. Readers should review the other documents the Company periodically files with the Securities and Exchange Commission in order to keep apprised of any material changes. The Company undertakes no obligation to publicly release the results of any revisions to those forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. NOTE 1 -- Principles of Consolidation Penseco Financial Services Corporation (Company) is a financial holding company incorporated under the laws of Pennsylvania. It is the parent company of Penn Security Bank and Trust Company (Bank), a Pennsylvania state chartered bank. Intercompany transactions have been eliminated in preparing the consolidated financial statements. The accounting policies of the Company conform with accounting principles generally accepted in the United States of America and with general practices within the banking industry. NOTE 2 -- Basis of Presentation The unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information. In the opinion of management, all adjustments that are of a normal recurring nature and are considered necessary for a fair presentation have been included. They are not, however, necessarily indicative of the results of consolidated operations for a full year. All information is presented in thousands of dollars, except per share amounts. For further information, refer to the consolidated financial statements and accompanying notes included in the Company's Annual Report - Form 10-K for the year ended December 31, 2006. NOTE 3 -- Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles 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. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for losses on loans and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowances for losses on loans and foreclosed real estate, management obtains independent appraisals for significant properties. NOTE 4 -- Investment Securities Investments in securities are classified in two categories and accounted for as follows: Securities Held-to-Maturity Bonds, notes, debentures and mortgage-backed securities for which the Company has the positive intent and ability to hold to maturity are reported at cost, adjusted for amortization of premiums and accretion of discounts computed on the straight-line basis, which approximates the interest method, over the remaining period to maturity. Securities Available-for-Sale Bonds, notes, debentures, mortgage-backed securities and certain equity securities not classified as securities to be held to maturity are carried at fair value with unrealized holding gains and losses, net of tax, reported as a net amount in a separate component of stockholders' equity until realized. The amortization of premiums on mortgage-backed securities is done based on management's estimate of the lives of the securities, adjusted, when necessary, for advanced prepayments in excess of those estimates. Realized gains and losses on the sale of securities available-for-sale are determined using the specific identification method and are reported as a separate component of other income in the Statements of Income. Unrealized gains and losses are included as a separate item in computing comprehensive income. The amortized cost and fair value of investment securities at June 30, 2007 and December 31, 2006 are as follows: Available-for-Sale Gross Gross Amortized Unrealized Unrealized Fair June 30, 2007 Cost Gains Losses Value - -------------------------------------------------------------------------------- U.S. Agency securities $ 14,913 $ - $ 37 $ 14,876 Mortgage-backed securities 23,262 94 70 23,286 States & political subdivisions 29,286 612 1 29,897 - -------------------------------------------------------------------------------- Total Debt Securities 67,461 706 108 68,059 Equity securities 6,370 801 171 7,000 - -------------------------------------------------------------------------------- Total Available-for-Sale $ 73,831 $ 1,507 $ 279 $ 75,059 - -------------------------------------------------------------------------------- Available-for-Sale Gross Gross Amortized Unrealized Unrealized Fair December 31, 2006 Cost Gains Losses Value - -------------------------------------------------------------------------------- U.S. Agency securities $ 24,897 $ 9 $ 23 $ 24,883 Mortgage-backed securities 29,231 91 82 29,240 States & political subdivisions 29,281 939 - 30,220 - -------------------------------------------------------------------------------- Total Debt Securities 83,409 1,039 105 84,343 Equity securities 6,764 628 30 7,362 - -------------------------------------------------------------------------------- Total Available-for-Sale $ 90,173 $ 1,667 $ 135 $ 91,705 - -------------------------------------------------------------------------------- Held-to-Maturity Gross Gross Amortized Unrealized Unrealized Fair June 30, 2007 Cost Gains Losses Value - -------------------------------------------------------------------------------- Mortgage-backed securities $ 41,844 $ 2 $ 1,607 $ 40,239 States & political subdivisions 29,246 1,313 - 30,559 - -------------------------------------------------------------------------------- Total Held-to-Maturity $ 71,090 $ 1,315 $ 1,607 $ 70,798 - -------------------------------------------------------------------------------- Held-to-Maturity Gross Gross Amortized Unrealized Unrealized Fair December 31, 2006 Cost Gains Losses Value - -------------------------------------------------------------------------------- Mortgage-backed securities $ 45,124 $ 4 $ 1,074 $ 44,054 States & political subdivisions 29,251 1,815 - 31,066 - -------------------------------------------------------------------------------- Total Held-to-Maturity $ 74,375 $ 1,819 $ 1,074 $ 75,120 - -------------------------------------------------------------------------------- The amortized cost and fair value of debt securities at June 30, 2007 by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. June 30, 2007 Available-for-Sale Held-to-Maturity - -------------------------------------------------------------------------------- Amortized Fair Amortized Fair Cost Value Cost Value - -------------------------------------------------------------------------------- Due in one year or less: U.S. Agency securities $ 4,949 $ 4,940 $ - $ - After one year through five years: U.S. Agency securities 9,964 9,936 - - After five year through ten years: States & political subdivisions 460 486 987 1,102 After ten years: States & political subdivisions 28,826 29,411 28,259 29,457 - -------------------------------------------------------------------------------- Subtotal 44,199 44,773 29,246 30,559 Mortgage-backed securities 23,262 23,286 41,844 40,239 - -------------------------------------------------------------------------------- Total Debt Securities $ 67,461 $ 68,059 $ 71,090 $ 70,798 - -------------------------------------------------------------------------------- The gross fair value and unrealized losses of the Company's investments, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at June 30, 2007 and December 31, 2006 are as follows:
Less than twelve months Twelve months or more Totals ------------------------------ ------------------------------ ------------------------------ Fair Unrealized Fair Unrealized Fair Unrealized June 30, 2007 Value Losses Value Losses Value Losses - -------------------------------------------------------------- ------------------------------ ------------------------------ U.S. Agency securities $ 14,876 $ 37 $ - $ - $ 14,876 $ 37 Mortgage-backed securities 7,034 32 43,178 1,645 50,212 1,677 States & political subdivisions 244 1 - - 244 1 Equities 1,151 69 468 102 1,619 171 ------------- ------------- ------------- ------------- ------------- ------------- Total $ 23,305 $ 139 $ 43,646 $ 1,747 $ 66,951 $ 1,886 ============= ============= ============= ============= ============= =============
The table above at June 30, 2007, includes thirteen (13) securities that have unrealized losses for less than twelve months and eight (8) securities that have been in an unrealized loss position for twelve or more months.
Less than twelve months Twelve months or more Totals ------------------------------ ------------------------------ ------------------------------ Fair Unrealized Fair Unrealized Fair Unrealized December 31, 2006 Value Losses Value Losses Value Losses - -------------------------------------------------------------- ------------------------------ ------------------------------ U.S. Agency securities $ 9,868 $ 9 $ 9,985 $ 14 $ 19,853 $ 23 Mortgage-backed securities - - 50,379 1,156 50,379 1,156 Equities 160 1 541 29 701 30 ------------- ------------- ------------- ------------- ------------- ------------- Total $ 10,028 $ 10 $ 60,905 $ 1,199 $ 70,933 $ 1,209 ============= ============= ============= ============= ============= =============
U.S. Agency Securities The unrealized losses on the Company's investments in these obligations were caused by recent interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the par value of the investment. Because the Company has the ability to hold these investments until a recovery of fair value, which may be maturity, the Company does not consider these investments to be other-than-temporarily impaired at June 30, 2007. Mortgage-Backed Securities The unrealized losses on the Company's investment in mortgage-backed securities were caused by recent interest rate increases. The contractual cash flows of these investments are guaranteed by an agency of the U.S. government. Accordingly, it is expected that these securities would not be settled at a price less than the amortized cost of the Company's investment. Because the decline in market value is attributable to changes in interest rates and not credit quality and because the Company has the ability to hold these investments until a recovery of fair value, which may be maturity, the Company does not consider these investments to be other-than-temporarily impaired at June 30, 2007. The Company's Mortgage-Backed Securities portfolio does not contain any Sub-Prime or Alt-A credits. States & Political Subdivisions The unrealized losses on the Company's investments in these obligations were caused by recent interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the par value of the investment. Because the Company has the ability to hold these investments until a recovery of fair value, which may be maturity, the Company does not consider these investments to be other-than-temporarily impaired at June 30, 2007. Marketable Equity Securities The unrealized losses on the Company's investment in marketable equity securities were caused primarily by recent interest rate increases and other market conditions. The Company's investments in marketable equity securities consist primarily of investments in common stock of companies in the financial services industry. Because the Company has the ability and intent to hold these investments for a reasonable period of time sufficient for a forecasted recovery of fair value, the Company does not consider these investments to be other-than-temporarily impaired at June 30, 2007. NOTE 5 -- Loan Portfolio Details regarding the Company's loan portfolio: June 30, December 31, As of: 2007 2006 - -------------------------------------------------------------------------------- Real estate - construction and land development $ 25,910 $ 23,714 Real estate mortgages 296,870 284,323 Commercial 22,953 26,265 Credit card and related plans 3,259 3,282 Installment and other 30,295 25,532 Obligations of states & political subdivisions 6,581 6,806 - -------------------------------------------------------------------------------- Loans, net of unearned income 385,868 369,922 Less: Allowance for loan losses 4,320 4,200 - -------------------------------------------------------------------------------- Loans, net $ 381,548 $ 365,722 - -------------------------------------------------------------------------------- The Company does not engage in any Sub-Prime or Alt-A credit lending. Therefore, the Company is not subject to any associated credit risks. NOTE 6 -- Loan Servicing The Company generally retains the right to service mortgage loans sold to others. The cost allocated to the mortgage servicing rights retained has been recognized as a separate asset and is being amortized in proportion to and over the period of estimated net servicing income. Mortgage servicing rights are evaluated for impairment based on the fair value of those rights. Fair values are estimated using discounted cash flows based on current market rates of interest and current expected future prepayment rates. For purposes of measuring impairment, the rights must be stratified by one or more predominant risk characteristics of the underlying loans. The Company stratifies its capitalized mortgage servicing rights based on the product type, interest rate and term of the underlying loans. The amount of impairment recognized is the amount, if any, by which the amortized cost of the rights for each stratum exceed the fair value. NOTE 7 -- Long-Term Debt In a prior year, the Bank borrowed $100,000 from the Federal Home Loan Bank of Pittsburgh, in four loans with various maturity dates, to finance the purchase of a mortgaged-backed security. The loans are secured by a general collateral pledge of the Company. A summary of the long-term debt at June 30, 2007 is as follows: Note payable, due in monthly installments of $161, including principal and interest at a fixed rate of 2.73%, maturing March, 2008. $ 1,430 Note payable, due in monthly installments of $253, including principal and interest at a fixed rate of 3.22%, maturing March, 2010. 7,978 Note payable, due in monthly installments of $430, including principal and interest at a fixed rate of 3.74%, maturing March, 2013. 26,663 Note payable, due in monthly installments of $186, including principal and interest at a fixed rate of 4.69%, maturing March, 2023. 24,882 ------- Total long-term debt $60,953 ======= The Company has agreed to maintain sufficient qualifying collateral to fully secure the above borrowings. Aggregate maturities of long-term debt at June 30, 2007 are as follows: June 30, Principal -------- ---------- 2008 $ 9,579 2009 8,455 2010 8,011 2011 5,996 2012 6,237 Thereafter 22,675 ---------- $ 60,953 ========== NOTE 8 -- Employee Benefit Plans The Company provides a defined benefit pension plan for eligible employees. The components of the net periodic benefit costs are as follows: Pension Benefits Other Benefits ---------------- ---------------- Six months ended June 30, 2007 2006 2007 2006 - ---------------------------------------------------------------------------- Service cost $ 218 $ 218 $ 2 $ 2 Interest cost 370 334 8 8 Expected return on plan assets (482) (445) - - Amortization of prior service cost - - 4 4 Amortization of net loss (gain) 72 83 - - - ---------------------------------------------------------------------------- Net periodic pension cost $ 178 $ 190 $ 14 $ 14 - ---------------------------------------------------------------------------- Contributions The Company previously disclosed in its financial statements for the year ended December 31, 2006, that it expected to contribute $250 to its pension plan and $13 to its postretirement plan for 2007. As of July 15, 2007, $146 has been contributed to the pension plan for 2007. The pension and postretirement contribution estimates have not changed substantially since December 31, 2006. Readers should refer to the Annual Report on Form 10K for further details on the Company's defined benefit pension plan. NOTE 9 -- Regulatory Matters The Company and the Bank are subject to various regulatory capital requirements administered by the Federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory--and possibly additional discretionary--actions by regulators that, if undertaken, could have a direct material effect on the Company and the Bank's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company and the Bank's capital amounts and classifications 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 the Bank to maintain minimum amounts and ratios (set forth in the Capital Adequacy table on the following page) of Tier I and Total Capital to risk-weighted assets and of Tier I Capital to average assets (Leverage ratio). The table also presents the Company's actual capital amounts and ratios. The Bank's actual capital amounts and ratios are substantially identical to the Company's. Management believes, as of June 30, 2007, that the Company and the Bank meet all capital adequacy requirements to which they are subject. As of June 30, 2007, the most recent notification from the Federal Deposit Insurance Corporation (FDIC) categorized the Company as "well capitalized" under the regulatory framework for prompt corrective action. To be categorized as "well capitalized", the Company must maintain minimum Tier I Capital, Total Capital and Leverage ratios as set forth in the Capital Adequacy table. There are no conditions or events since that notification that management believes have changed the Company's categorization by the FDIC. The Company and Bank are also subject to minimum capital levels, which could limit the payment of dividends, although the Company and Bank currently have capital levels which are in excess of minimum capital level ratios required. The Pennsylvania Banking Code restricts capital funds available for payment of dividends to the Retained Earnings of the Bank. Accordingly, at June 30, 2007, the balances in the Capital Stock and Surplus accounts totalling $10,840 are unavailable for dividends. In addition, the Bank is subject to restrictions imposed by Federal law on certain transactions with the Company's affiliates. These transactions include extensions of credit, purchases of or investments in stock issued by the affiliate, purchases of assets subject to certain exceptions, acceptance of securities issued by an affiliate as collateral for loans, and the issuance of guarantees, acceptances, and letters of credit on behalf of affiliates. These restrictions prevent the Company's affiliates from borrowing from the Bank unless the loans are secured by obligations of designated amounts. Further, the aggregate of such transactions by the Bank with a single affiliate is limited in amount to 10 percent of the Bank's Capital Stock and Surplus, and the aggregate of such transactions with all affiliates is limited to 20 percent of the Bank's Capital Stock and Surplus. The Federal Reserve System has interpreted "Capital Stock and Surplus" to include undivided profits.
Actual Regulatory Requirements - --------------------------------------------------------- -------------------------------------------- For Capital To Be Adequacy Purposes "Well Capitalized" ----------------- ------------------ As of June 30, 2007 Amount Ratio Amount Ratio Amount Ratio - --------------------------------------------------------------------------------------------------------- Total Capital (to Risk Weighted Assets) PFSC (Company) $ 73,192 19.73% > $ 29,684 > 8.0% > $ 37,105 > 10.0% - - - - PSB (Bank) $ 68,259 18.50% > $ 29,518 > 8.0% > $ 36,897 > 10.0% - - - - Tier 1 Capital (to Risk Weighted Assets) PFSC $ 68,872 18.56% > $ 14,842 > 4.0% > $ 22,263 > 6.0% - - - - PSB $ 63,939 17.33% > $ 14,759 > 4.0% > $ 22,138 > 6.0% - - - - Tier 1 Capital (to Average Assets) PFSC $ 68,872 11.77% > * > * > $ 29,251 > 5.0% - - - - PSB $ 63,939 11.00% > * > * > $ 29,053 > 5.0% - - - -
PFSC - *3.0% ($17,550), 4.0% ($23,401) or 5.0% ($29,251) depending on the bank's CAMELS Rating and other regulatory risk factors. PSB - *3.0% ($17,432), 4.0% ($23,242) or 5.0% ($29,053) depending on the bank's CAMELS Rating and other regulatory risk factors.
Actual Regulatory Requirements - --------------------------------------------------------- -------------------------------------------- For Capital To Be Adequacy Purposes "Well Capitalized" ----------------- ------------------ As of December 31, 2006 Amount Ratio Amount Ratio Amount Ratio - --------------------------------------------------------------------------------------------------------- Total Capital (to Risk Weighted Assets) PFSC (Company) $ 71,235 19.65% > $ 28,998 > 8.0% > $ 36,248 > 10.0% - - - - PSB (Bank) $ 68,029 18.84% > $ 28,882 > 8.0% > $ 36,103 > 10.0% - - - - Tier I Capital (to Risk Weighted Assets) PFSC $ 67,035 18.49% > $ 14,499 > 4.0% > $ 21,749 > 6.0% - - - - PSB $ 63,829 17.68% > $ 14,441 > 4.0% > $ 21,662 > 6.0% - - - - Tier I Capital (to Average Assets) PFSC $ 67,035 11.93% > $ * > * > $ 28,105 > 5.0% - - - PSB $ 63,829 11.36% > $ * > * > $ 28,083 > 5.0% - - - -
PFSC - *3.0% ($16,863), 4.0% ($22,484) or 5.0% ($28,105) depending on the bank's CAMELS Rating and other regulatory risk factors. PSB - *3.0% ($16,850), 4.0% ($22,466) or 5.0% ($28,083) depending on the bank's CAMELS Rating and other regulatory risk factors. PART 1. FINANCIAL INFORMATION, Item 2 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following commentary provides an overview of the financial condition and significant changes in the results of operations of Penseco Financial Services Corporation and its subsidiary, Penn Security Bank and Trust Company, for the three months ended June 30, 2007 and June 30, 2006 and for the six months ended June 30, 2007 and June 30, 2006. All information is presented in thousands of dollars, except as indicated. Critical Accounting Policies The preparation of financial statements in conformity with generally accepted accounting principles 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. Actual results could differ from those estimates. Provision (allowance) for possible loan losses - The provision for loan losses is based on past loan loss experience, management's evaluation of the potential loss in the current loan portfolio under current economic conditions and such other factors as, in management's best judgment, deserve current recognition in estimating loan losses. The annual provision for loan losses charged to operating expense is that amount which is sufficient to bring the balance of the allowance for possible loan losses to an adequate level to absorb anticipated losses. Actuarial assumptions associated with pension, post-retirement and other employee benefit plans - These assumptions include discount rate, rate of future compensation increases and expected return on plan assets. Provision for income taxes - Management believes that the assumptions and judgments used to record tax related assets or liabilities have been appropriate. Fair value of certain investment securities - Fair value of investment securities are based on quoted market prices. Loan servicing rights - Mortgage servicing rights are evaluated for impairment based on the fair value of those rights. Fair values are estimated using discounted cash flows based on current market rates of interest and current expected future prepayment rates. For purposes of measuring impairment, the rights must be stratified by one or more predominant risk characteristics of the underlying loans. The Company stratifies its capitalized mortgage servicing rights based on the product type, interest rate and term of the underlying loans. The amount of impairment recognized is the amount, if any, by which the amortized cost of the rights for each stratum exceed the fair value. Premium amortization - The amortization of premiums on mortgage-backed securities is done based on management's estimate of the lives of the securities, adjusted, when necessary, for advanced prepayments in excess of those estimates. Executive Summary Penseco Financial Services Corporation reported an increase in net income of $139 or 8.9% for the three months ended June 30, 2007 to $1,700 or $.79 per share compared with $1,561 or $.73 per share from the year ago period. Net interest income after provision for loan losses increased $33 or .6%, to $5,218 for three months ended June 30, 2007 compared to $5,185 for the same quarter of 2006. Partly, the increase resulted from higher interest on loans due to net loan growth of $49.8 million since June 30, 2006, including $15.8 million from December 31, 2006. Interest on investments declined $86 or 3.9% due to maturing investments being redeployed to fund future loan demand. Other income increased $325 or 19.6% for the three months ended June 30, 2007 to $1,980 compared with $1,655 for the three months ended June 30, 2006. Total other expenses increased $279 or 5.8% to $5,111 for the three months ended June 30, 2007, compared with $4,832 for the same period of 2006. Applicable income taxes decreased $60 or 13.4% to $387 due to more tax free income included in overall operating income. For the six months ended June 30, 2007, net income increased $235 or 7.5% to $3,370 or $1.57 per share compared with the year ago period of $3,135 or $1.46 per share. Net interest income after provision for loan losses increased $138 or 1.3% to $10,367 for the first half of 2007 from $10,229 for the same period of 2006. Largely, the increase came from higher interest and fees on loans of $1,619 or 14.4%, as net loans increased $49.8 million. Interest on investments declined $241 or 5.5% due to maturing investments being redeployed to fund future loan demand. Other income increased $383 or 10.4% mostly in merchant transaction income as volumes increased. Total other expenses increased $388 or 3.9% mainly due to an increase in other operating expense. Applicable income taxes decreased $102 or 12.3% to $730 due to more tax free income included in overall operating income. Net Interest Income and Net Interest Margin Net interest income, the largest contributor to the Company's earnings, is defined as the difference between interest income on assets and the cost of funds supporting those assets. Average earning assets are composed primarily of loans and investments while deposits, short-term and long-term borrowings represent interest-bearing liabilities. Variations in the volume and mix of these assets and liabilities, as well as changes in the yields earned and rates paid, are determinants of changes in net interest income. Net interest income after provision for loan losses increased $33 or .6% to $5,218 for the three months ended June 30, 2007 compared to $5,185 for the three months ended June 30, 2006. The average yield on earning assets increased 34 basis points, largely due to an increase in interest rates. Also, there was an increase of $48.5 million in average loans from the comparable period of 2006. The net interest margin represents the Company's net yield on its average earning assets and is calculated as net interest income divided by average earning assets. In the three months ended June 30, 2007, net interest margin was 3.85% decreasing 5 basis points from 3.90% in the same period of 2006. Total average interest earning assets and average interest bearing funds increased in the three months ended June 30, 2007 as compared to 2006. Average interest earning assets increased $19.6 million or 3.7%, from $535.2 million in 2006 to $554.8 million in 2007 and average interest bearing funds increased $29.7 million, or 7.3%, from $409.5 million to $439.2 million for the same period, mainly due to higher loans and time and demand interest bearing accounts, along with increased repurchase agreements. Long-term borrowings decreased $9.7 million or 13.5%. As a percentage of average assets, earning assets increased to 96.0% for the three months ended June 30, 2007 from 95.7% for the year ago period. This increase was a result of average loan growth of $48.5 million. Changes in the mix of both earning assets and funding sources also impacted net interest income in the three months ended June 30, 2007 and 2006. Average loans as a percentage of average earning assets increased from 62.0% in 2006 to 68.6% in 2007, due in part to the increase of new and refinanced residential mortgages as well as an increase in commercial loans secured by real estate. Average investments decreased $49.9 million from 37.4% to 27.1% of earning assets. Average short-term investments, federal funds sold and interest bearing balances with banks increased $21.1 million to $24.3 million from $3.2 million. Average time deposits increased $15.6 million or 14.5% to $123.5 million from $107.9 million, average short-term borrowings decreased $3.1 million, average long-term borrowings decreased $9.7 million, while repurchase agreements increased $9.4 million. Shifts in the interest rate environment and competitive factors affected the rates paid for funds as well as the yields earned on assets. The investment securities tax equivalent yield increased 78 basis points from 4.94% in the three months ended June 30, 2006 to 5.72% for 2007. Average loan yields decreased 20 basis points, from 7.10% in the three months ended June 30, 2006 to 6.90% in 2007, partly due to the inverted yield curve and its impact on residential mortgage loan rates. The average time deposit costs increased 66 basis points from 3.76% in 2006 to 4.42% in 2007, along with the average cost of money market accounts increasing 50 basis points from 2.64% in 2006 to 3.14% in 2007. Distribution of Assets, Liabilities and Stockholders' Equity / Interest Rates and Interest Differential The table below presents average balances, interest income on a fully taxable equivalent basis and interest expense, as well as average rates earned and paid on the Company's major asset and liability items for the three months ended June 30, 2007 and June 30, 2006.
- ---------------------------------------------------------------------------------------------------------- June 30, 2007 June 30, 2006 ASSETS Average Revenue/ Yield/ Average Revenue/ Yield/ Balance Expense Rate Balance Expense Rate - ---------------------------------------------------------------------------------------------------------- Investment Securities Available-for-sale: U.S. Treasury securities $ - $ - - $ - $ - - U.S. Agency obligations 40,116 459 4.58% 91,738 838 3.65% States & political subdivisions 30,248 335 6.71% 21,348 241 6.84% Federal Home Loan Bank stock 3,925 63 6.42% 4,853 80 6.59% Other 3,829 34 3.55% 3,140 26 3.31% Held-to-maturity: U.S. Agency obligations 42,698 493 4.62% 49,661 561 4.52% States & political subdivisions 29,247 389 8.06% 29,253 395 8.18% Loans, net of unearned income: Real estate mortgages 316,514 5,296 6.69% 263,475 4,445 6.75% Commercial 23,650 498 8.42% 29,783 628 8.43% Consumer and other 40,287 765 7.60% 38,704 645 6.67% Federal funds sold 16,579 219 5.28% - - - Interest on balances with banks 7,734 102 5.28% 3,225 39 4.84% - ---------------------------------------------------------------------------------------------------------- Total Interest Earning Assets/ Total Interest Income 554,827 $ 8,653 6.24% 535,180 $ 7,898 5.90% - ---------------------------------------------------------------------------------------------------------- Cash and due from banks 10,284 10,509 Bank premises and equipment 9,855 9,466 Accrued interest receivable 3,259 2,940 Cash surrender value of life insurance 7,159 - Other assets 3,977 4,868 Less: Allowance for loan losses 4,203 3,888 - ---------------------------------------------------------------------------------------------------------- Total Assets $ 585,158 $ 559,075 - ---------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Deposits: Demand-Interest bearing $ 57,555 $ 163 1.13% $ 39,397 $ 63 0.64% Savings 81,528 241 1.18% 83,463 185 0.89% Money markets 85,883 675 3.14% 84,613 558 2.64% Time - Over $100 43,213 527 4.88% 30,441 287 3.77% Time - Other 80,269 836 4.17% 77,505 727 3.75% Federal funds purchased - - - - - - Repurchase agreements 28,333 240 3.39% 18,872 107 2.27% Short-term borrowings 281 4 5.69% 3,412 49 5.74% Long-term borrowings 62,108 625 4.03% 71,793 710 3.96% - ---------------------------------------------------------------------------------------------------------- Total Interest Bearing Liabilities/ Total Interest Expense 439,170 $ 3,311 3.02% 409,496 $ 2,686 2.62% - ---------------------------------------------------------------------------------------------------------- Demand - Non-interest bearing 73,226 81,191 All other liabilities 4,636 3,588 Stockholders' equity 68,126 64,800 - ---------------------------------------------------------------------------------------------------------- Total Liabilities and Stockholders' Equity $ 585,158 $ 559,075 - ---------------------------------------------------------------------------------------------------------- Interest Spread 3.22% 3.28% - ---------------------------------------------------------------------------------------------------------- Net Interest Income $ 5,342 $ 5,212 - ---------------------------------------------------------------------------------------------------------- FINANCIAL RATIOS Net interest margin 3.85% 3.90% Return on average assets 1.16% 1.12% Return on average equity 9.98% 9.64% Average equity to average assets 11.64% 11.59% Dividend payout ratio 46.84% 47.95% - ----------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses increased $138 or 1.3% to $10,367 for the six months ended June 30, 2007, compared to $10,229 for the first half of 2006. The average yield on earning assets increased 40 basis points, largely due to higher interest rates and growth in our average loan portfolio of $46.6 million from the similar period of 2006. The net interest margin represents the Company's net yield on its average earning assets and is calculated as net interest income divided by average earning assets. For the six months ended June 30, 2007, net interest margin was 3.86% increasing one basis point from 3.85% in the same period of 2006. Total average earning assets and average interest bearing funds increased for the six months ended June 30, 2007 as compared to 2006. Average earning assets increased $9.4 million or 1.7%, from $539.8 million in 2006 to $549.2 million in 2007 and average interest bearing funds increased $21.6 million, or 5.3%, from $410.8 million to $432.4 million for the same period. As a percentage of average assets, earning assets remained unchanged at 96.0% for the six months ended June 30, 2007 and 2006. Changes in the mix of both earning assets and funding sources also impacted net interest income in the six months ended June 30, 2007 and 2006. Average loans as a percentage of average earning assets increased from 60.8% in 2006 to 68.2% in 2007, due in part to the increase of new and refinanced residential mortgages as well as an increase in commercial loans secured by real estate. Average investments decreased $54.3 million from 38.9% to 28.3%. Average short-term investments, federal funds sold and interest bearing balances with banks increased $17.1 million to $2.0 from $19.1 and also increased as a percentage of average earning assets from .4% in 2006 to 3.5% in 2007. Average time deposits increased $16.6 million or 15.5% from 26.3% of interest bearing liabilities in 2006 to 28.8% in 2007. Average short-term borrowings decreased $4.3 million; average long-term borrowings decreased $9.7 million, while repurchase agreements increased $3.1million. Shifts in the interest rate environment and competitive factors affected the rates paid for funds as well as the yields earned on assets. The investment securities tax equivalent yield increased 90 basis points from 4.75% for the six months ended June 30, 2006 to 5.65% for 2007. Also, average loan yields increased one basis point, from 6.85% for the first half of 2006 to 6.86% in the same period of 2007. The average time deposit costs increased 78 basis points from 3.60% in 2006 to 4.38% in 2007, along with the average cost of money market accounts increasing 61 basis points from 2.47% in 2006 to 3.08% in 2007. Distribution of Assets, Liabilities and Stockholders' Equity / Interest Rates and Interest Differential The table below presents average balances, interest income on a fully taxable equivalent basis and interest expense, as well as average rates earned and paid on the Company's major asset and liability items for the six months ended June 30, 2007 and June 30, 2006.
- ---------------------------------------------------------------------------------------------------------- June 30, 2007 June 30, 2006 ASSETS Average Revenue/ Yield/ Average Revenue/ Yield/ Balance Expense Rate Balance Expense Rate - ---------------------------------------------------------------------------------------------------------- Investment Securities Available-for-sale: U.S. Treasury securities $ - $ - - $ - $ - - U.S. Agency obligations 42,964 977 4.55% 100,483 1,785 3.55% States & political subdivisions 30,219 670 6.72% 21,492 476 6.71% Federal Home Loan Bank stock 4,083 132 6.47% 4,850 109 4.49% Other 5,448 106 3.89% 3,102 55 3.55% Held-to-maturity: U.S. Agency obligations 43,490 986 4.53% 50,611 1,126 4.45% States & political subdivisions 29,248 775 8.03% 29,252 785 8.13% Loans, net of unearned income: Real estate mortgages 311,102 10,351 6.65% 252,818 8,634 6.83% Commercial 23,359 987 8.45% 36,180 1,207 6.67% Consumer and other 40,154 1,514 7.54% 39,002 1,392 7.14% Federal funds sold 11,564 304 5.26% - - - Interest on balances with banks 7,522 193 5.13% 1,991 48 4.82% - ---------------------------------------------------------------------------------------------------------- Total Interest Earning Assets/ Total Interest Income 549,153 $ 16,995 6.19% 539,781 $ 15,617 5.79% - ---------------------------------------------------------------------------------------------------------- Cash and due from banks 10,345 9,849 Bank premises and equipment 9,690 9,518 Accrued interest receivable 3,251 2,981 Cash surrender value of life insurance 7,120 - Other assets 4,035 4,225 Less: Allowance for loan losses 4,197 3,839 - ----------------------------------------------------------------------------------------------------------- Total Assets $ 579,397 $ 562,515 - ---------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Deposits: Demand-Interest bearing $ 54,425 $ 257 0.94% $ 35,552 $ 115 0.65% Savings 80,688 455 1.13% 84,150 350 0.83% Money markets 86,097 1,325 3.08% 85,697 1,060 2.47% Time - Over $100 42,107 1,036 4.92% 29,439 506 3.44% Time - Other 82,369 1,690 4.10% 78,443 1,434 3.66% Federal funds purchased - - - - - - Repurchase agreements 22,913 361 3.15% 19,754 198 2.00% Short-term borrowings 458 12 5.25% 4,778 130 5.44% Long-term borrowings 63,345 1,272 4.02% 72,994 1,441 3.95% - ---------------------------------------------------------------------------------------------------------- Total Interest Bearing Liabilities/ Total Interest Expense 432,402 $ 6,408 2.96% 410,807 $ 5,234 2.55% - ---------------------------------------------------------------------------------------------------------- Demand - Non-interest bearing 74,452 84,097 All other liabilities 4,864 2,883 Stockholders' equity 67,679 64,728 - ---------------------------------------------------------------------------------------------------------- Total Liabilities and Stockholders' Equity $ 579,397 $ 562,515 - ---------------------------------------------------------------------------------------------------------- Interest Spread 3.23% 3.24% - ---------------------------------------------------------------------------------------------------------- Net Interest Income $ 10,587 $ 10,383 - ---------------------------------------------------------------------------------------------------------- FINANCIAL RATIOS Net interest margin 3.86% 3.85% Return on average assets 1.16% 1.11% Return on average equity 9.96% 9.69% Average equity to average assets 11.68% 11.51% Dividend payout ratio 47.13% 47.95% - ----------------------------------------------------------------------------------------------------------
Investments The Company's investment portfolio consists primarily of two functions: To provide liquidity and to contribute to earnings. To provide liquidity the Company may invest in short-term securities such as Federal funds sold, interest bearing deposits with banks, U.S. Treasury securities and U.S. Agency securities all with maturities of one year or less. These funds are invested short-term to ensure the availability of funds to meet customer demand for credit needs. The Company enhances interest income by securing long-term investments within its investment portfolio, by means of U.S. Treasury securities, U.S. Agency securities, municipal securities and mortgage-backed securities generally with maturities greater than one year. The Company's Mortgage-Backed Securities portfolio does not contain any Sub-Prime or Alt-A credits. Investments in securities are classified in two categories and accounted for as follows: Securities Held-to-Maturity Bonds, notes, debentures and mortgage-backed securities for which the Company has the positive intent and ability to hold to maturity are reported at cost, adjusted for amortization of premiums and accretion of discounts computed on the straight-line basis, which approximates the interest method, over the remaining period to maturity. Securities Available-for-Sale Bonds, notes, debentures, mortgage-backed securities and certain equity securities not classified as securities to be held to maturity are carried at fair value with unrealized holding gains and losses, net of tax, reported as a net amount in a separate component of stockholders' equity until realized. The amortization of premiums on mortgage-backed securities is done based on management's estimate of the lives of the securities, adjusted, when necessary, for advanced prepayments in excess of those estimates. Gains and losses on the sale of securities available-for-sale are determined using the specific identification method and are reported as a separate component of other income in the Statements of Income. Deposits The Company is largely dependent on its core deposit base to fund operations. Management has competitively priced its deposit products in checking, savings, money market and time deposits to provide a stable source of funding. As the economy shows strength and improves, there is migration of some deposits, mainly to higher costing time deposits, as consumers become more prone to increased yields. Historically, such changes in the Company's deposit base have been minimal. Provision for Loan Losses The provision for loan losses represents management's determination of the amount necessary to bring the allowance for loan losses to a level that management considers adequate to reflect the risk of future losses inherent in the Company's loan portfolio. The process of determining the adequacy of the allowance is necessarily judgmental and subject to changes in external conditions. The allowance for loan losses reflects management's judgment as to the level considered appropriate to absorb such losses based upon a review of many factors, including historical loss experience, adverse situations that may affect the borrower's ability to repay (including the timing of future payments), economic conditions and trends, loan portfolio volume and mix, loan performance trends, the value and adequacy of collateral, and the Company's internal credit review process. Accordingly, there can be no assurance that existing levels of the allowance will ultimately prove adequate to cover actual loan losses. The quarterly provision for loan losses charged to operating expense is that amount which is sufficient to bring the balance of the allowance for possible loan losses to an adequate level to absorb anticipated losses. Based on this ongoing evaluation, management determines the provision necessary to maintain an appropriate allowance. For the three months ended June 30, 2007, the provision for loan losses increased to $97 from $27 in the three months ended June 30, 2006 to $124 in the three months ended June 30, 2007. Loans charged off totaled $4 and recoveries were $0 for the three months ended June 30, 2007. In the same period of 2006, loans charged off totaled $28 and recoveries were $1. For the six months ended June 30, 2007, the provision for loan losses was $220, an increase from $154 in the first six months of 2006. Loans charged-off totaled $102 and recoveries were $2 for the six months ended June 30, 2007. In the same period of 2006 loans charged off were $57, offset by recoveries of $3. At June 30, 2007 the allowance for loan losses was set at $4,320 or 1.12% of gross loans based upon the Bank's analysis. Other Income The following table sets forth information by category of other income for the Company for three months ended June 30, 2007 and June 30, 2006, respectively: June 30, June 30, Three Months Ended: 2007 2006 - --------------------------------------------------------------------- Trust department income $ 367 $ 351 Service charges on deposit accounts 260 227 Merchant transaction income 873 732 Other fee income 323 303 Other operating income 157 42 Realized gains (losses) on securities, net - - - --------------------------------------------------------------------- Total Other Income $ 1,980 $ 1,655 - --------------------------------------------------------------------- Other income increased $325 or 19.6% to $1,980 for the three months ended June 30, 2007 compared with $1,655 for the similar period of 2006. Trust income increased $16 or 4.6% from new business. Merchant transaction income increased $141 or 19.3% due to higher transaction volume and new business. Service charges on deposit accounts increased $33 or 14.5% primarily due to increased service charge collections during 2007, while other fee income increased $20 from prior year levels. Other operating income increased $115 largely due to Bank-Owned Life Insurance income of $77, in addition to higher brokerage income compared to the prior year period. The following table sets forth information by category of other income for the Company for six months ended June 30, 2007 and June 30, 2006, respectively: June 30, June 30, Six Months Ended: 2007 2006 - --------------------------------------------------------------------- Trust department income $ 739 $ 705 Service charges on deposit accounts 511 416 Merchant transaction income 1,920 1,840 Other fee income 583 558 Other operating income 272 174 Realized gains (losses) on securities, net 51 - - --------------------------------------------------------------------- Total Other Income $ 4,076 $ 3,693 - ---------------------------------------------------------------------- Other income increased $383 or 10.4% to $4,076 during the first half of 2007 from $3,693 for the same period of 2006. Service charges on deposit accounts increased $95 or 22.8% primarily due to increased service charge collections during 2007. Merchant transaction income increased $80 or 4.3% mainly due to higher transaction volume and new business. Other fee income increased $25 or 4.5%. Other operating income increased $98 mainly from Bank-Owned Life Insurance income of $155 offset by lower brokerage income during the first quarter of 2007. The Company realized a gain of $51 due to the sale of equity securities in the first quarter of 2007. Other Expenses The following table sets forth information by category of other expenses for the Company for the three months ended June 30, 2007 and June 30, 2006, respectively: June 30, June 30, Three Months Ended: 2007 2006 - --------------------------------------------------------------------- Salaries and employee benefits $ 2,330 $ 2,340 Expense of premises and fixed assets 725 582 Merchant transaction expenses 671 602 Other operating expenses 1,385 1,308 - --------------------------------------------------------------------- Total Other Expenses $ 5,111 $ 4,832 - --------------------------------------------------------------------- Total other expenses increased $279 or 5.8% to $5,111 for the three months ended June 30, 2007 compared with $4,832 for the same period of 2006. Salaries and employee benefits decreased $10. Premises and fixed assets expense increased $143 or 24.6% mainly due to higher depreciation expense related to the conversion to a new computer system during the first quarter of 2006. Merchant transaction expense increased $69 or 11.5% due to higher transaction volume. Other operating expenses increased $77 or 5.9%, from increases in professional fees and general operating expenses related to the promotion of our Totally Free Checking program. Applicable income taxes decreased $60 or 13.4% to $387 due to more tax free income included in overall operating income. The following table sets forth information by category of other expenses for the Company for the six months ended June 30, 2007 and June 30, 2006, respectively: June 30, June 30, Six Months Ended: 2007 2006 - --------------------------------------------------------------------- Salaries and employee benefits $ 4,705 $ 4,780 Expense of premises and fixed assets 1,350 1,234 Merchant transaction expenses 1,495 1,454 Other operating expenses 2,793 2,487 - --------------------------------------------------------------------- Total Other Expenses $ 10,343 $ 9,955 - --------------------------------------------------------------------- Total other expenses increased $388 or 3.9% to $10,343 during the first half of 2007 compared with $9,955 for the same period of 2006. Salaries and employee benefits expense decreased $75 or 1.6%. Premises and fixed assets expense increased $116 or 9.4% mainly due to the conversion to a new computer system completed during the first quarter of 2006. Merchant transaction expenses increased $41 or 2.8% due to higher transaction volume. Other operating expenses increased $306 or 12.3% mostly from higher professional fees and general operating expenses related to the promotion of our Totally Free Checking program. Applicable income taxes decreased $102 or 12.3% to $730 due to more tax free income included in overall operating income. Loan Portfolio Details regarding the Company's loan portfolio: June 30, December 31, As of: 2007 2006 - ------------------------------------------------------------------------------ Real estate - construction and land development $ 25,910 $ 23,714 Real estate mortgages 296,870 284,323 Commercial 22,953 26,265 Credit card and related plans 3,259 3,282 Installment and other 30,295 25,532 Obligations of states & political subdivisions 6,581 6,806 - ------------------------------------------------------------------------------ Loans, net of unearned income 385,868 369,922 Less: Allowance for loan losses 4,320 4,200 - ------------------------------------------------------------------------------ Loans, net $ 381,548 $ 365,722 - ------------------------------------------------------------------------------ The Company does not engage in any Sub-Prime or Alt-A credit lending. Therefore, the Company is not subject to any associated credit risks. Loan Quality The lending activities of the Company are guided by the comprehensive lending policy established by the Board of Directors. Loans must meet criteria which include consideration of the character, capacity and capital of the borrower, collateral provided for the loan, and prevailing economic conditions. Regardless of credit standards, there is risk of loss inherent in every loan portfolio. The allowance for loan losses is an amount that management believes will be adequate to absorb possible losses on existing loans that may become uncollectible, based on evaluations of the collectibility of the loans. The evaluations take into consideration such factors as change in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans, industry experience, collateral value and current economic conditions that may affect the borrower's ability to pay. Management believes that the allowance for loan losses is adequate. While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on their judgment of information available to them at the time of their examination. The allowance for loan losses is increased by periodic charges against earnings as a provision for loan losses, and decreased periodically by charge-offs of loans (or parts of loans) management has determined to be uncollectible, net of actual recoveries on loans previously charged-off. Non-Performing Assets The following table sets forth information regarding non-accrual loans and loans past due 90 days or more and still accruing interest:
June 30, December 31, June 30, As of: 2007 2006 2006 - ------------------------------------------------------------------------------------------- Non-accrual loans $ 2,825 $ 3,180 $ 1,822 Other real estate owned 31 - 2 - ------------------------------------------------------------------------------------------- Total non-performing assets $ 2,856 $ 3,180 $ 1,824 - ------------------------------------------------------------------------------------------- Loans past due 90 days or more and accruing: Secured by real estate $ 494 $ 177 $ - Guaranteed student loans 440 251 306 Credit card loans 7 6 6 - ------------------------------------------------------------------------------------------- Total loans past due 90 days or more and accruing $ 941 $ 434 $ 312 - -------------------------------------------------------------------------------------------
Non-accrual loans increased $1,003 to $2,825 at June 30, 2007 from $1,822 at June of 2006. This increase was due to a single borrowing relationship being placed into non-accrual during the third quarter of 2006. Management believes that the Company is well secured and anticipates no loss of principal as we work toward a resolution to this credit. Loans are generally placed on a non-accrual status when principal or interest is past due 90 days or when payment in full is not anticipated. When a loan is placed on non-accrual status, all interest previously accrued but not collected is charged against current income. Loans are returned to accrual status when past due interest is collected and the collection of principal is probable. Loans on which the accrual of interest has been discontinued or reduced amounted to $2,825 and $1,822 at June 30, 2007 and June 30, 2006, respectively. If interest on those loans had been accrued, such income would have been $209 and $62 for the six months ended June 30, 2007 and June 30, 2006, respectively. Interest income on those loans, which is recorded only when received, amounted to $127 and $14 for June 30, 2007 and June 30, 2006, respectively. There are no commitments to lend additional funds to individuals whose loans are in non-accrual status. The management process for evaluating the adequacy of the allowance for loan losses includes reviewing each month's loan committee reports which list all loans that do not meet certain internally developed criteria as to collateral adequacy, payment performance, economic conditions and overall credit risk. These reports also address the current status and actions in process on each listed loan. From this information, adjustments are made to the allowance for loan losses. Such adjustments include both specific loss allocation amounts and general provisions by loan category based on present and past collection experience, nature and volume of the loan portfolio, overall portfolio quality, and current economic conditions that may affect the borrower's ability to pay. As of June 30, 2007 there are no significant loans as to which management has serious doubt about their collectibility other than what is included above. At June 30, 2007 and December 31, 2006, the Company did not have any loans specifically classified as impaired. Most of the Company's lending activity is with customers located in the Company's geographic market area and repayment thereof is affected by economic conditions in this market area. Loan Loss Experience The following tables present the Company's loan loss experience during the periods indicated: June 30, June 30, Three Months Ended: 2007 2006 - ------------------------------------------------------------------------- Balance at beginning of period $ 4,200 $ 3,900 Charge-offs: Real estate mortgages - - Commercial and all others - - Credit card and related plans 4 26 Installment loans - 2 - ------------------------------------------------------------------------- Total charge-offs 4 28 - ------------------------------------------------------------------------- Recoveries: Real estate mortgages - - Commercial and all others - - Credit card and related plans - 1 Installment loans - - - ------------------------------------------------------------------------- Total recoveries - 1 - ------------------------------------------------------------------------- Net charge-offs (recoveries) 4 27 - ------------------------------------------------------------------------- Provision charged to operations 124 27 - ------------------------------------------------------------------------- Balance at End of Period $ 4,320 $ 3,900 - ------------------------------------------------------------------------- Ratio of net charge-offs (recoveries) to average loans outstanding 0.001% 0.008% - ------------------------------------------------------------------------- June 30, June 30, Six Months Ended: 2007 2006 - ------------------------------------------------------------------------- Balance at beginning of period $ 4,200 $ 3,800 Charge-offs: Real estate mortgages 84 - Commercial and all others - 8 Credit card and related plans 16 32 Installment loans 2 17 - ------------------------------------------------------------------------- Total charge-offs 102 57 - ------------------------------------------------------------------------- Recoveries: Real estate mortgages - - Commercial and all others - - Credit card and related plans 1 3 Installment loans 1 - - ------------------------------------------------------------------------- Total recoveries 2 3 - ------------------------------------------------------------------------- Net charge-offs (recoveries) 100 54 - ------------------------------------------------------------------------- Provision charged to operations 220 154 - ------------------------------------------------------------------------- Balance at End of Period $ 4,320 $ 3,900 - ------------------------------------------------------------------------- Ratio of net charge-offs (recoveries) to average loans outstanding 0.027% 0.016% - ------------------------------------------------------------------------- The allowance for loan losses at June 30, 2007 was $4,320 or 1.12% of total loans compared to $3,900 or 1.16% of total loans at June 30, 2006. Management continues to believe the loan loss reserve is adequate. The allowance for loan losses is allocated as follows:
As of: June 30, 2007 December 31, 2006 June 30, 2006 - -------------------------------------------------------------------------------------------- Amount %* Amount %* Amount %* - -------------------------------------------------------------------------------------------- Real estate mortgages $ 1,200 84% $ 1,200 83% $ 1,200 81% Commercial and all others 2,600 6% 2,500 9% 2,225 10% Credit card and related plans 250 1% 250 1% 225 1% Personal installment loans 270 9% 250 7% 250 8% - -------------------------------------------------------------------------------------------- Total $ 4,320 100% $ 4,200 100% $ 3,900 100% - --------------------------------------------------------------------------------------------
* Percent of loans in each category to total loans Liquidity The objective of liquidity management is to maintain a balance between sources and uses of funds in such a way that the cash requirements of customers for loans and deposit withdrawals are met in the most economical manner. Management monitors its liquidity position continuously in relation to trends of loans and deposits for short-term as well as long-term requirements. Liquid assets are monitored on a daily basis to assure maximum utilization. Management also manages its liquidity requirements by maintaining an adequate level of readily marketable assets and access to short-term funding sources. Management does not foresee any adverse trends in liquidity. The Company remains in a highly liquid condition both in the short and long term. Sources of liquidity include the Company's U.S. Agency bond portfolios, additional deposits, earnings, overnight loans to and from other companies (Federal Funds) and lines of credit at the Federal Reserve Bank and the Federal Home Loan Bank. The Company is not a party to any commitments, guarantees or obligations that could materially affect its liquidity. The Company offers collateralized repurchase agreements, which have a one day maturity, as an alternative deposit option for its customers. The Company also has long-term debt outstanding to the FHLB, which was used to purchase a Freddie Mac pool of residential mortgages, as described earlier in this report. The Company maintains a collateralized maximum borrowing capacity of $174,019 with the Federal Home Loan Bank of Pittsburgh. Commitments and Contingent Liabilities In the normal course of business, there are outstanding commitments and contingent liabilities, created under prevailing terms and collateral requirements such as commitments to extend credit, financial guarantees and letters of credit, which are not reflected in the accompanying Financial Statements. The Company does not anticipate any losses as a result of these transactions. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the Balance Sheets. The contract or notional amounts of those 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 expiration dates of one year or less or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Related Parties The Company does not have any material transactions involving related persons or entities, other than traditional banking transactions, which are made on the same terms and conditions as those prevailing at the time for comparable transactions with unrelated parties. The Bank has issued standby letters of credit for the accounts of related parties in the amount of $6,248. Capital Resources A strong capital position is important to the continued profitability of the Company and promotes depositor and investor confidence. The Company's capital provides a basis for future growth and expansion and also provides additional protection against unexpected losses. Additional sources of capital would come from retained earnings from the operations of the Company and from the sale of additional common stock. Management has no plans to offer additional common stock at this time. The Company's total risk-based capital ratio was 19.73% at June 30, 2007. The Company's risk-based capital ratio is more than the 10.00% ratio that Federal regulators use as the "well capitalized" threshold. This is the current criteria which the FDIC uses in determining the lowest insurance rate for deposit insurance. The Company's risk-based capital ratio is more than double the 8.00% limit, which determines whether a company is "adequately capitalized". Under these rules, the Company could significantly increase its assets and still comply with these capital requirements without the necessity of increasing its equity capital. PART 1. FINANCIAL INFORMATION, Item 3 -- QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company currently does not enter into derivative financial instruments, which include futures, forwards, interest rate swaps, option contracts and other financial instruments with similar characteristics. However, the Company is party to traditional financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, financial guarantees and letters of credit. These traditional instruments involve to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the Consolidated Balance Sheets. 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 payment of a fee. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party up to a stipulated amount and with specified terms and conditions. Commitments to extend credit and standby letters of credit are not recorded as an asset or liability by the Company until the instrument is exercised. The Company's exposure to market risk is reviewed on a regular basis by the Asset/Liability Committee. Interest rate risk is the potential of economic losses due to future interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk while at the same time maximizing income. Management realizes certain risks are inherent and that the goal is to identify and minimize the risks. Tools used by management include the standard GAP report and an interest rate shock simulation report. The Company has no market risk sensitive instruments held for trading purposes. It appears the Company's market risk is reasonable at this time. PART 1. FINANCIAL INFORMATION, Item 4 -- CONTROLS AND PROCEDURES Under the supervision and with the participation of our management, including our Chief Executive Officer and Controller, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) under the Securities Exchange Act of 1934. Based upon this evaluation, our Chief Executive Officer and our Controller concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report. The Company continually assesses the adequacy of its internal control over financial reporting and enhances its controls in response to internal control assessments, and internal and external audit and regulatory recommendations. 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 due to changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. PART II. OTHER INFORMATION Item 1 -- Legal Proceedings None. Item 1A -- Risk Factors RISKS RELATED TO OUR BUSINESS Credit Risk Changes in the credit quality of our loan portfolio may impact the level of our allowance for loan losses. We make various judgments about the collectibility of our loans, including the creditworthiness of our borrowers and the value of the real estate and other assets serving as collateral for our loans. In determining the amount of the allowance for loan losses, we review our loans and our loan loss and delinquency experience, and we evaluate economic conditions. If our judgments are incorrect, our allowance for loan losses may not be sufficient to cover future losses, which will result in additions to our allowance through increased provisions for loan losses. In addition, bank regulators periodically review our allowance for loan losses and may require us to increase our provision for loan losses or recognize further loan charge-offs. Increased provisions for loan losses would increase our expenses and reduce our profits. Nonetheless, to the best of management's knowledge, there are also no particular risk elements in the local economy that put a group or category of loans at increased risk. Also the Company is not dependent upon a single customer, or a few customers, the loss of one or more of which would have a material adverse effect on its operations. The operations and earnings of the Corporation are also not materially affected by seasonal changes. Market Risk Changes in interest rates could affect our investment values and net interest income. At June 30, 2007, the Company owned approximately $75.1 million of marketable securities available for sale. These securities are carried at fair value on the consolidated balance sheet. Unrealized gains or losses on these securities, that is, the difference between the fair value and the amortized cost of these securities, are reflected in stockholders' equity, net of deferred taxes. As of June 30, 2007, the Company's available for sale marketable securities portfolio had a net unrealized gain, net of taxes, of $811. The fair value of the Company's available for sale marketable securities is subject to interest rate change, which would not affect recorded earnings, but would increase or decrease comprehensive income and stockholders' equity. The principal component of the Company's earnings is net interest income, which is the difference between interest and fees earned on interest-earning assets and interest paid on deposits and other borrowings. The most significant impact on net interest income between periods is derived from the interaction of changes in the volume of and rates earned or paid on interest-earning assets and interest-bearing liabilities. The volume of earning dollars in loans and investments, compared to the volume of interest-bearing liabilities represented by deposits and borrowings, combined with the spread, produces the changes in net interest income between periods. The Company continually monitors the relationship of its interest rate sensitive assets and liabilities through its Asset/Liability Committee. Strong competition within our market could affect our profits and growth. The Bank operates in a competitive environment in which it must share its market with many local independent banks as well as several banks which are affiliates or branches of very large regional holding companies. The Bank encounters competition from diversified financial institutions, ranging in size from small banks to the nationwide banks operating in its region. The competition includes commercial banks, savings and loan associations, credit unions, other lending institutions and mortgage originators. The principal competitive factors among the Company's competitors can be grouped into two categories: pricing and services. In the Company's primary service area, interest rates on deposits, especially time deposits, and interest rates and fees charged to customers on loans are very competitive. From a service perspective, the Bank competes in areas such as convenience of location, types of services, service costs and banking hours. Compliance Risk We operate in a highly regulated environment and may be affected by changes in laws and regulations. The Company is registered as a financial holding company under the Bank Holding Company Act of 1956, as amended, and, as such, is subject to supervision and regulation by the Board of Governors of the Federal Reserve System ("FRB"). The Company is required to file quarterly reports of its operations with the FRB. As a financial holding company, the Company is permitted to engage in banking-related activities as authorized by the Federal Reserve Board, directly or through subsidiaries or by acquiring companies already established in such activities subject to the FRB regulations relating to those activities. Our banking subsidiary, Penn Security Bank and Trust Company, as a Pennsylvania state-chartered financial institution, is subject to supervision, regulation and examination by the Commonwealth of Pennsylvania Department of Banking and by the Federal Deposit Insurance Corporation (the "FDIC"), which insures the Bank's deposits to the maximum extent permitted by law. Operational Risk The Company needs to continually attract and retain qualified personnel for its operations. High quality customer services, as well as efficient and profitable operations, are dependent on the Company's ability to attract and retain qualified individuals for key positions within the organization. As of June 30, 2007, the Company employed 168 full-time equivalent employees. The employees of the Company are not represented by any collective bargaining group. Management of the Company considers relations with its employees to be good. Our operations could be affected if we do not have access to modern and reliable technology. The Company operates in a highly-automated environment, wherein almost all transactions are processed by computer software to produce results. To remain competitive, the Company must continually evaluate the adequacy of its data processing capabilities and make revisions as needed. The Company regularly tests its ability to restore data capabilities in the event of a natural disaster, sustained power failure or other inability to utilize its primary systems. Liquidity Risk Increased needs for disbursement of funds on loans and deposits can affect our liquidity. The objective of liquidity management is to maintain a balance between sources and uses of funds in such a way that the cash requirements of customers for loans and deposit withdrawals are met in the most economical manner. Management monitors its liquidity position continuously in relation to trends of loans and deposits for short-term as well as long-term requirements. Liquid assets are monitored on a daily basis to assure maximum utilization. Management also manages its liquidity requirements by maintaining an adequate level of readily marketable assets and access to short-term funding sources. Management does not foresee any adverse trends in liquidity. Our future pension plan costs and contributions could be unfavorably impacted by the factors that are used in the actuarial calculations. Our costs of providing non-contributory defined benefit pension plans are dependent upon a number of factors, such as the rates of return on plan assets, discount rates, the level of interest rates used to measure the required minimum funding levels of the plans, future government regulation and our required or voluntary contributions made to the plans. Without sustained growth in the pension investments over time to increase the value of our plan assets and depending upon the other factors impacting our costs as listed above, we could be required to fund our plans with higher amounts of cash than are anticipated by our actuaries. Such increased funding obligations could have a material impact on our liquidity by reducing our cash flows. Item 2 -- Unregistered Sales of Equity Securities and Use of Proceeds None. Item 3 -- Defaults Upon Senior Securities None. Item 4 -- Submission of Matters to a Vote of Security Holders The Annual Meeting of Shareholders of Penseco Financial Services Corporation was held on May 1, 2007. The results of the items submitted for a vote are as follows: The following three Directors, whose term will expire in 2011, were elected:
Number of votes Number of votes Number of cast for director cast against director votes not cast ----------------- --------------------- -------------- Edwin J. Butler 1,797,787 9,175 341,038 P. Frank Kozik 1,769,800 37,162 341,038 Steven L. Weinberger 1,798,230 8,732 341,038
The ratification of the appointment of McGrail Merkel Quinn and Associates as independent auditors for the year ending December 31, 2007. Votes for 1,796,910 Votes against 8,122 Votes abstained 1,930 Votes not cast 341,038 Item 5 -- Other Information None. Item 6 -- Exhibits 31 Certifications required under Section 302 of the Sarbanes-Oxley Act of 2002 32 Certifications required under Section 906 of the Sarbanes-Oxley Act of 2002 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. PENSECO FINANCIAL SERVICES CORPORATION By /s/ CRAIG W. BEST ------------------------------ Craig W. Best President and CEO Dated: July 30, 2007 By /s/ PATRICK SCANLON ------------------------------ Patrick Scanlon Controller Dated: July 30, 2007 EX-31 2 exhibit31_06-07.txt PFSC 06 30 07 CERTIFICATIONS Exhibit 31 CERTIFICATION OF PERIODIC FINANCIAL REPORT PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Craig W. Best, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Penseco Financial Services Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13(a)-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b.) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. July 30, 2007 /s/ CRAIG W. BEST ---------------------------- Craig W. Best President and CEO CERTIFICATION OF PERIODIC FINANCIAL REPORT PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Patrick Scanlon, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Penseco Financial Services Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13(a)-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b.) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. July 30, 2007 /s/ PATRICK SCANLON ---------------------------- Patrick Scanlon Controller EX-32 3 exhibit32_06-07.txt PFSC 06 30 07 CERTIFICATIONS Exhibit 32 CERTIFICATION OF PERIODIC FINANCIAL REPORT PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsection (a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code), the undersigned officer of Penseco Financial Services Corporation (the "Company") certifies to his knowledge that: (1) The Quarterly Report on Form 10-Q of the Company for the quarter ended June 30, 2007 (the "Form 10-Q") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (the "Act"); and (2) The information contained in the Form 10-Q fairly presents, in all material respects, the financial conditions and results of operations of the Company as for the dates and for the periods referred to in the Form 10-Q. /s/ CRAIG W. BEST ---------------------------- Craig W. Best President and CEO July 30, 2007 CERTIFICATION OF PERIODIC FINANCIAL REPORT PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsection (a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code), the undersigned officer of Penseco Financial Services Corporation (the "Company") certifies to his knowledge that: (1) The Quarterly Report on Form 10-Q of the Company for the quarter ended June 30, 2007 (the "Form 10-Q") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (the "Act"); and (2) The information contained in the Form 10-Q fairly presents, in all material respects, the financial conditions and results of operations of the Company as for the dates and for the periods referred to in the Form 10-Q. /s/ PATRICK SCANLON ---------------------------- Patrick Scanlon Controller July 30, 2007 -----END PRIVACY-ENHANCED MESSAGE-----