EX-13 2 exh_13.txt PORTIONS OF ANNUAL REPORT TO STOCKHOLDERS EXHIBIT 13 SELECTED CONSOLIDATED FINANCIAL INFORMATION AND OTHER DATA The following information is derived from the audited financial statements of American Bank Incorporated (the "Company"). For additional information about the formation of American Bank Incorporated and its acquisition of all the outstanding shares of American Bank, reference is made to the Consolidated Financial Statements of American Bank Incorporated and related notes included elsewhere herein.
AT DECEMBER 31, -------------------------------------------------------------- 2006 2005 2004 2003 2002 --------- --------- --------- --------- --------- (IN THOUSANDS) Selected Financial Condition Data: ---------------------------------- Total assets $ 504,595 $ 529,100 $ 503,436 $ 481,992 $ 453,265 Loans receivable, net 319,969 301,394 242,348 204,832 134,926 Securities available for sale 149,636 188,691 220,911 236,746 276,569 Securities held to maturity 11,709 13,482 13,480 15,361 13,466 Deposits 368,995 368,958 345,732 332,286 306,751 Short-term debt 27,616 12,921 6,991 6,909 7,784 Long-term debt 61,734 90,848 96,095 96,357 97,791 Junior subordinated debentures 10,503 10,187 10,187 -- -- Mandatory redeemable convertible debentures -- -- -- 10,200 10,200 Stockholders' equity 34,219 44,345 41,910 34,963 28,593
FOR THE YEAR ENDED DECEMBER 31, -------------------------------------------------------------- 2006 2005 2004 2003 2002 --------- --------- --------- --------- --------- (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) -------------------------------------------------------------- Selected Operating Data: ------------------------ Total interest income $ 28,162 $ 24,293 $ 20,702 $ 19,225 $ 20,489 Total interest expense 18,402 14,246 11,583 11,937 12,409 --------- --------- --------- --------- --------- Net interest income 9,760 10,047 9,119 7,288 8,080 Provision for loan losses 349 624 393 405 212 --------- --------- --------- --------- --------- Net interest income after provision for loan losses 9,411 9,423 8,726 6,883 7,868 --------- --------- --------- --------- --------- Fees and service charges 192 200 207 165 160 Net realized gains on sale of mortgage loans 57 127 122 401 296 Net gains (losses) on securities (79) 263 334 862 112 Earnings on bank owned life insurance 342 339 349 318 160 Other income 243 614 257 255 229 --------- --------- --------- --------- --------- Total other income 755 1,543 1,269 2,001 957 Total other expenses 6,058 5,869 5,435 5,111 5,212 --------- --------- --------- --------- --------- Income before taxes on income 4,108 5,097 4,560 3,773 3,613 Taxes on income 1,277 1,565 1,393 1,136 1,097 --------- --------- --------- --------- --------- Net income $ 2,831 $ 3,532 $ 3,167 $ 2,637 $ 2,516 ========= ========= ========= ========= ========= Dividend payout per share $ 0.24 $ 0.11 0.10 -- -- Earnings per share-basic(1) $ 0.46 $ 0.48 $ 0.44 $ 0.41 $ 0.42 Earnings per share-diluted(1) $ 0.43 $ 0.45 $ 0.43 $ 0.39 $ 0.40 Performance Ratios: ------------------- Return on assets (ratio of net income to average total assets) 0.54% 0.68% 0.64% 0.56% 0.62% Return on equity (ratio of net income to average equity) 8.25% 8.05% 8.24% 8.27% 9.51% Interest rate spread information: Average during period 1.67% 1.73% 1.67% 1.37% 1.89% End of period 1.71% 1.77% 1.83% 1.57% 1.60% Net interest margin (ratio of net interest income divided by average earning assets) 1.94% 2.01% 1.90% 1.59% 2.08% Ratio of operating expense to average total assets 1.15% 1.13% 1.09% 1.07% 1.28% Ratio of average interest-earning assets to average interest-bearing liabilities 107.40% 109.79% 109.27% 108.48% 106.18% Asset Quality Ratios: --------------------- Non-performing assets to total assets at end of period 0.01% 0.01% 0.15% -- -- Allowance for loan losses to non-performing loans 5,373.75% 8,312.60% 373.66% n/a n/a Allowance for loan losses to loans receivable, net 1.12% 1.12% 1.13% 1.16% 1.28% Capital Ratios: --------------- Stockholders' equity to total assets at end of period 6.79% 8.38% 8.33% 7.25% 6.31% Average stockholders' equity to average assets 6.53% 8.46% 7.71% 6.77% 6.52%
------------ (1) Adjusted to reflect three-for-two stock split declared in January 2002. 3 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENTS This document contains certain "forward-looking statements" which may be identified by the use of words such as "believe," "expect," "anticipate," "should," "planned," "estimated" and "potential." Examples of forward-looking statements include, but are not limited to, estimates with respect to our financial condition, results of operations and business that are subject to various factors which could cause actual results to differ materially from these estimates and most other statements that are not historical in nature. These factors include, but are not limited to, general and local economic conditions, changes in interest rates, deposit flows, demand for mortgage and other loans, real estate values, and competition; changes in accounting principles, policies, or guidelines; changes in legislation or regulation; and other economic, competitive, governmental, regulatory, and technological factors affecting our operations, product pricing and services. OVERVIEW American Bank Incorporated is a bank holding company whose assets consist primarily of its investment in American Bank, its wholly owned subsidiary. The principal business activity of American Bank Incorporated is overseeing and directing the business of American Bank. American Bank is a full-service, Pennsylvania state-chartered bank. We currently operate from a single branch located in Allentown, Pennsylvania. Our principal business is attracting deposits from the general public and using those deposits, together with borrowings and other funds, to originate loans and to purchase investment securities. We offer a comprehensive menu of deposit and loan products for consumer, business, institutional and governmental customers, including interest-bearing checking and money market accounts, savings accounts, certificates of deposit and individual retirement accounts. We also engage in mortgage banking activities, which include the origination, purchase and, in certain instances, subsequent sale of residential mortgage loans. AmericanBank Online and pcbanker.com are registered trademarks of American Bank and the brand names for Internet banking and financial services provided by American Bank. Through AmericanBank Online and pcbanker.com, American Bank delivers convenience through innovative technology, absent the restrictions of time and geography, by offering a broad menu of real-time, web-browser based Internet banking and financial services. American Bank Incorporated's results of operations depend primarily on net interest income. Net interest income is the difference between the interest income we earn on our interest-earning assets, consisting primarily of loans, investment securities and interest-bearing deposits with other financial institutions, and the interest we pay on our interest-bearing liabilities, consisting primarily of interest bearing checking accounts, money market accounts, savings accounts, time deposits and borrowed funds. Our results of operations are also affected by our provisions for loan losses, other income and other expense. Other income consists primarily of service charges on deposit accounts and gains on sales of residential mortgage loans and securities. Other expense consists primarily of non-interest expenses, including salaries and employee benefits, occupancy, equipment, data processing, professional fees and marketing and business development costs. Our results of operations may also be affected significantly by general and local economic and competitive conditions, particularly those with respect to changes in market interest rates, governmental policies and actions of regulatory authorities. Net income decreased $701,000, or 19.9%, to $2.8 million for the year ended December 31, 2006 from $3.5 million for the year ended December 31, 2005. Net interest income decreased $287,000, or 2.9%, to $9.8 million for the year ended December 31, 2006 from $10.0 million for the year ended December 31, 2005. Non-interest income decreased $788,000, or 51.1%, to $755,000 for the year ended December 31, 2006 compared to $1.5 million for the year ended December 31, 2005, while non-interest expense increased $189,000, or 3.2%, to $6.1 million for the year ended December 31, 2006 from $5.9 million for the year ended December 31, 2005. The following discussion and analysis, significant accounting policies, and other financial statement disclosures identify and address key variables and other qualitative and quantitative factors that are necessary for an understanding and evaluation of American Bank Incorporated and its results of operations. 4 CRITICAL ACCOUNTING POLICIES Disclosure of our significant accounting policies is included in Note 2 to the consolidated financial statements. Certain of these policies are particularly sensitive, requiring significant estimates and assumptions to be made by management. Senior management has discussed the development of such estimates and the related disclosure in this section of our Annual Report with the Audit Committee of the Board of Directors. The following accounting policies are identified by management as being critical to the results of operations: ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is the estimated amount considered necessary to absorb credit losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses, which is charged against income. In determining the allowance for loan losses, management makes significant estimates and has identified this policy as one of the most critical for us. Management performs a monthly evaluation of the adequacy of the allowance for loan losses. Consideration is given to a variety of factors in establishing this estimate including, but not limited to, current economic conditions, delinquency statistics, geographic and industry concentrations, the adequacy of the underlying collateral, the financial strength of the borrower, results of internal loans reviews, the present value of future cash flows and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant change. The analysis consists of specific and general components. Specific allocations are made for loans that are determined to be impaired. Impairment is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral adjusted for market conditions and selling expenses. The general allocation is determined by segregating the remaining loans by type of loan, risk weighting (if applicable) and payment history. We also analyze historical loss experience (we currently review peer group data when considering this factor), delinquency trends, general economic conditions, geographic and industry concentrations. This analysis establishes factors that are applied to the loan groups to determine the amount of the general reserve. A component is maintained to cover uncertainties which reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. Actual loan losses may be significantly more than the reserves we have established which could have a material negative effect on the financial results. STOCK-BASED COMPENSATION. We have a non tax-qualified Stock Option Plan. We adopted Financial Accounting Standards Board Statement No. 123(R), Share Based Payments on January 1, 2006 using the modified prospective method. Accordingly, no compensation expense has been recognized in our financial statements for years ended prior to January 1, 2006. If compensation expense for the plan had been recognized, net income for 2005 would have been reduced by $23,000, from $3,532,000 to $3,509,000 and basic earnings per share would have been reduced to $0.47 per share from $0.48 per share. Diluted earnings per share would have been unchanged at $0.45 per share. For the year ended December 31, 2006, we recorded expense of $59,000 for option grants and recorded a deferred tax benefit of $20,000. We calculate the compensation expense of the options using the Modified Black-Scholes-Merton option pricing model to determine the fair value of the options granted. In calculating the fair value of the options, management makes assumptions regarding the risk-free rate of return, the expected volatility of our common stock and the expected life of the options. OTHER-THAN-TEMPORARY IMPAIRMENT OF INVESTMENT SECURITIES. Management evaluates the individual securities in the investment portfolio for other-than-temporary impairment on at least a quarterly basis. The evaluation considers the length of time and the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, the current interest rate cycle and the expected direction of interest rates in the near term horizon and the intent and ability of the Company to retain its investment in the issue for a period of time sufficient to allow for any anticipated recovery in fair value. 5 Securities that are determined to be other than temporarily impaired are recorded at the then current fair value and the loss is recorded in current income. Subsequent recoveries in fair value are not recorded in the carrying value of the investment and gain is not recognized until the security is sold. At December 31, 2005, management determined that Freddie Mac Series-M preferred stock was other-than-temporarily impaired. Management recorded a charge to current earnings, in the amount of $199,000, to reduce the amortized cost of this security to fair market value at that date. At March 31, 2006, management determined that Fannie Mae Series-F preferred stock was other-than-temporarily impaired. Management recorded a charge to current earnings, in the amount of $145,000, to reduce the amortized cost of this security to fair market value at that date. In management's opinion, the remaining unrealized losses at December 31, 2006 reflect changes in interest rates subsequent to the acquisition of specific securities. There were 111 securities available for sale and 40 securities held to maturity that are classified as temporarily impaired at December 31, 2006. The Company has the ability to hold these securities until maturity or market price recovery. Management believes that the unrealized losses represent temporary impairment of the securities. INTEREST SENSITIVITY We monitor and manage the pricing and maturity of our assets and liabilities in order to manage the potential adverse impact that changes in interest rates could have on our net interest income. One monitoring technique employed by us is the measurement of our interest sensitivity "gap," which is the positive or negative dollar difference between assets and liabilities whose interest rates may be repriced or that mature within a given period of time. We also employ financial modeling techniques to assess the impact that varying interest rates and balance sheet mix assumptions may have on net interest income. We attempt to manage interest rate sensitivity by, among other actions, repricing assets or liabilities, selling securities classified as available-for-sale, replacing an asset or liability at maturity, or adjusting the interest rate during the life of an asset or liability. Managing the amount of assets and liabilities repricing or maturing in the same time interval helps to control the risk and minimize the impact on net interest income of rising or falling interest rates. We evaluate interest rate sensitivity and formulate guidelines regarding asset generation and repricing, funding sources and pricing and off-balance sheet commitments in order to manage interest rate risk within our policy requirements. 6 The following table illustrates our gap position at December 31, 2006. Except as stated below, the amount of assets and liabilities shown which reprice or mature during a particular period were determined in accordance with the earlier of term to repricing or the contractual maturity of the asset or liability. Savings deposits and demand and NOW accounts do not have contractual maturities and are assumed to run off, or decay, at 20%, 20%, 20%, 15%, 15%, and 10% during the time-frames shown on the following table.
DECEMBER 31, 2006 ------------------------------------------------------------------------------------- MATURITIES AND REPRICINGS WITHIN OVER 1 YEAR 1-2 YEARS 2-3 YEARS 3-5 YEARS 5-10 YEARS 10 YEARS TOTAL --------- --------- --------- --------- --------- --------- --------- (DOLLARS IN THOUSANDS) Interest-earning assets: Interest bearing deposits $ 256 $ -- $ -- $ -- $ -- $ -- $ 256 Loans receivable 83,079 43,345 28,657 92,780 54,453 20,593 322,907 Mortgage-backed securities 50,969 6,061 23 201 375 157 57,786 Investment securities 90,587 3,698 5,356 1,878 1,500 540 103,559 Bank-owned life insurance 9,208 -- -- -- -- -- 9,208 Restricted investments in bank stocks 5,067 -- -- -- -- -- 5,067 --------- --------- --------- --------- --------- --------- --------- Total interest-earning assets $ 239,166 $ 53,104 $ 34,036 $ 94,859 $ 56,328 $ 21,290 $ 498,783 ========= ========= ========= ========= ========= ========= ========= Interest-bearing liabilities: Demand deposits $ 15,447 $ 15,447 $ 15,447 $ 11,585 $ 11,585 $ 7,724 $ 77,235 Savings deposits 14,638 14,638 14,638 10,978 10,978 7,319 73,189 Time deposits 165,735 12,838 8,666 15,478 -- -- 202,717 Borrowings 89,245 105 -- -- -- -- 89,350 Junior subordinated debentures -- -- -- -- -- 10,503 10,503 --------- --------- --------- --------- --------- --------- --------- Total interest-bearing liabilities $ 285,065 $ 43,028 $ 38,751 $ 38,041 $ 22,563 $ 25,546 $ 452,994 ========= ========= ========= ========= ========= ========= ========= Interest sensitivity gap $ (45,899) $ 10,076 $ (4,715) $ 56,818 $ 33,765 $ (4,256) $ 45,789 ========= ========= ========= ========= ========= ========= ========= Cumulative interest sensitivity gap $ (45,899) $ (35,823) $ (40,538) $ 16,280 $ 50,045 $ 45,789 $ 45,789 ========= ========= ========= ========= ========= ========= ========= Ratio of gap to total assets (9.1)% 2.0% (0.9)% 11.2% 6.7% (0.8)% 9.1% ========= ========= ========= ========= ========= ========= ========= Ratio of cumulative gap to total assets (9.1)% (7.1)% (8.0)% 3.2% 9.9% 9.1% 9.1% ========= ========= ========= ========= ========= ========= =========
7 American Bank Incorporated generally would benefit from increasing market rates of interest when it has an asset-sensitive gap and from decreasing market rates of interest when it is liability-sensitive. As of December 31, 2006, we were liability-sensitive over a time horizon of up to twelve months. This "negative gap" of $44.9 million within such time frame resulted principally from growth in shorter term certificates of deposit and short-term borrowings, the proceeds of which were used to fund increases in loans and securities that had similar or longer terms to repricing or maturity and to pay down long-term debt. Management's goal is to continue to acquire assets with relatively short interest rate lives and fund those assets with liabilities that have similar or shorter interest rate lives. This strategy will allow us to benefit or at least remain neutral from decreasing interest rates. Rising interest rates would have a negative impact on our net interest income stream. A gap analysis is not a precise indicator of a financial institution's interest sensitivity position. Such an analysis presents only a static view of the timing of maturities and repricing opportunities without taking into consideration that changes in interest rates do not affect all assets and liabilities equally. For example, rates paid on a substantial portion of core deposits may change contractually within a relatively short time frame, but those rates are viewed by management as significantly less interest-sensitive than market-based rates such as those paid on non-core deposits. Net interest income is also affected by other significant factors, including changes in the volume and mix of interest-earning assets and interest-bearing liabilities. We have not engaged in off-balance sheet hedges or other transactions that may be deemed "speculative," as that term is defined by various regulatory agencies, for the purpose of managing interest rate risk and do not intend to do so in the foreseeable future. AVERAGE BALANCE SHEETS The following table presents for the years indicated the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. No tax-equivalent adjustments have been made. All average balances are daily average balances. Loans that are classified as non-accrual are included in the average balances in the table. Income from non-accrual loans is recognized when collected and is included in interest income in the table below. 8
FOR THE YEARS ENDED DECEMBER 31, ------------------------------------------------------------------------------------------------- 2006 2005 2004 ------------------------------ ----------------------------- ------------------------------ AVERAGE INTEREST AVERAGE INTEREST AVERAGE INTEREST OUTSTANDING EARNED/ YIELD/ OUTSTANDING EARNED/ YIELD/ OUTSTANDING EARNED/ YIELD/ BALANCE PAID RATE BALANCE PAID RATE BALANCE PAID RATE -------- -------- ------- -------- -------- ------- -------- -------- ------- (DOLLARS IN THOUSANDS) Interest-earning assets: Interest bearing deposits and Federal funds sold $ 583 $ 26 4.46% $ 1,737 $ 45 2.59% $ 248 $ 2 0.81% Loans receivable, net 311,561 19,634 6.30 269,296 16,206 6.02 219,961 12,791 5.82 Mortgage-backed securities 75,372 2,993 3.97 116,280 3,523 3.03 172,676 4,804 2.78 Investment securities 110,433 5,183 4.69 105,634 4,296 4.07 81,071 2,949 3.64 Restricted bank stock 6,272 326 5.20 6,500 223 3.43 7,055 156 2.21 -------- -------- ------- -------- -------- ------- -------- -------- ------- Total interest-earning assets 504,221 28,162 5.59 499,447 24,293 4.86 481,011 20,702 4.30 -------- -------- ------- -------- -------- ------- -------- -------- ------- Interest-bearing liabilities: Demand deposits 79,685 1,991 2.50 93,753 1,729 1.84 103,761 1,313 1.27 Savings deposits 98,375 3,078 3.13 104,299 2,276 2.18 102,236 1,386 1.36 Time deposits 173,798 7,514 4.32 142,740 5,145 3.60 120,834 3,809 3.15 Borrowings 107,582 5,208 4.84 103,940 4,485 4.31 103,185 4,464 4.33 Junior subordinated debentures 10,187 611 6.00 10,187 611 6.00 10,190 611 6.00 -------- -------- ------- -------- -------- ------- -------- -------- ------- Total interest-bearing liabilities 469,627 18,402 3.92 454,919 14,246 3.13 440,206 11,583 2.63 -------- -------- ------- -------- -------- ------- -------- -------- ------- Net interest income $ 9,760 $ 10,047 $ 9,119 ======== ======== ======== Net interest rate spread 1.67% 1.73% 1.67% ======= ======= ======= Net earning assets $ 34,594 $ 44,528 $ 40,805 ======== ======== ======== Net yield on average interest-earning assets 1.94% 2.01% 1.90% ======= ======= ======= Ratio of interest-earning assets to interest bearing liabilities 107.4% 109.8% 109.3% ======== ======== ========
9 RATE/VOLUME ANALYSIS The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the changes related to outstanding balances and those due to changes in interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (a) changes in volume (i.e., changes in volume multiplied by old rate) and (b) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.
FOR THE YEARS ENDED FOR THE YEARS ENDED DECEMBER 31, DECEMBER 31, 2006 V. 2005 2005 V. 2004 ----------------------------- ----------------------------- INCREASE/DECREASE TOTAL INCREASE/DECREASE DUE TO INCREASE/ DUE TO TOTAL ------------------ ------- ------------------ INCREASE/ VOLUME RATE DECREASE VOLUME RATE DECREASE ------- ------- ------- ------- ------- ------- (IN THOUSANDS) Interest-earning assets: Interest bearing deposits and Federal funds sold $ (37) $ 18 $ (19) $ 25 $ 18 $ 43 Loans receivable, net 2,954 474 3,428 2,941 474 3,415 Mortgage-backed securities (1,141) 611 (530) (1,641) 360 (1,281) Investment securities 686 201 887 946 401 1,347 Restricted bank stock (7) 110 103 (15) 82 67 ------- ------- ------- ------- ------- ------- Total interest-earning assets 2,455 1,414 3,869 2,256 1,335 3,591 ------- ------- ------- ------- ------- ------- Interest-bearing liabilities: Demand deposits (357) 619 262 (127) 543 416 Savings deposits (189) 991 802 40 850 890 Time deposits 1,621 748 2,369 736 600 1,336 Borrowings 172 551 723 37 (16) 21 Mandatory redeemable convertible debentures -- -- -- -- -- -- ------- ------- ------- ------- ------- ------- Total interest-bearing liabilities 1,247 2,909 4,156 686 1,977 2,663 ------- ------- ------- ------- ------- ------- Net interest income $ 1,208 $(1,495) $ (287) $ 1,570 $ (642) $ 928 ======= ======= ======= ======= ======= =======
COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 2006 AND 2005 OVERVIEW Total assets decreased to $504.6 million at December 31, 2006 from $529.1 million at December 31, 2005, a decrease of $24.5 million, or 4.6%. This was the result of the Company refining the mix of its balance sheet in response to the current interest rate and economic environments. The investment portfolio was allowed to shrink in size and the cash flow was used to fund loans, pay down borrowings and repurchase Company common stock. Investment securities decreased by $40.8 million, or 20.2%, to $161.3 million at December 31, 2006 compared to $202.2 million at December 31, 2005. Loans receivable, net, increased by $18.6 million, or 6.2%, to $320.0 million at December 31, 2006, compared to $301.4 million at December 31, 2005. Short-term and long-term debt decreased by $14.4 million and stockholders' equity decreased by $10.1 million to $34.2 million at December 31, 2006 from $44.3 million at December 31, 2005. The decrease in stockholders' equity resulted from the Company repurchasing $14.0 million of its common stock during the year. 10 INVESTMENT SECURITIES Total investment securities decreased by $40.8 million, or 20.2%, to $161.3 million at December 31, 2006 from $202.2 million at December 31, 2005. Investment securities classified as available for sale decreased by $39.1 million, or 20.7%, to $149.6 million, while investment securities classified as held to maturity decreased by $1.8 million, or 13.3%, to $11.7 million. The decrease in our portfolio of securities resulted from securities maturing or being called and from repayments of mortgage backed securities; we used the proceeds to fund the growth in our loan portfolio, pay down borrowings and repurchase our common stock. In addition, at March 31, 2006, we determined that Fannie Mae Series F preferred stock was other-than-temporarily impaired and we recorded a charge of $145,000 to current earnings to reduce the amortized cost of this security to fair value at that date. In management's opinion, the remaining unrealized losses reflect changes in interest rates subsequent to the acquisition of specific securities. The Company has the ability to hold these securities until maturity or market price recovery. Management believes that the unrealized losses represent temporary impairment of these securities. LOANS Loans receivable, net of allowance for loan losses and deferred origination fees and costs, were $320.0 million at December 31, 2006, an increase of $18.6 million, or 6.2%, compared to the December 31, 2005 balance of $301.4 million. Loans receivable represented 63.5% of total assets at December 31, 2006, compared to 57.0% of total assets at December 31, 2005. During 2006, we emphasized the origination of commercial business and commercial real estate loans. Commercial real estate loans increased $21.7 million, or 16.2%, to $155.9 million at December 31, 2006, compared to $134.2 million at December 31, 2005. Commercial business loans (not secured by real estate) increased by $1.5 million, or 2.6%, to $59.7 million at December 31, 2006, from $58.2 million at December 31, 2005. Residential real estate loans decreased to $90.2 million at December 31, 2006, a decrease of $3.2 million, or 3.4%, compared to $93.4 million at December 31, 2005. The decrease resulted from a slow down in the housing market in the Lehigh Valley and surrounding areas during 2006 and from a slow down in refinancing activity as interest rates rose. Adjustable-rate mortgage loans comprise 79.6% of our residential mortgage loan portfolio. The current interest rate environment does not provide borrowers with an economic advantage to use adjustable rate loans and borrowers elect to take fixed-rate financing instead. We sell a majority of the fixed-rate residential mortgage loans that we originate because we do not wish to absorb the interest rate risk associated with these assets with long lives. We originated $14.6 million of fixed-rate residential mortgage loans with terms of 15 to 30 years during 2006 and sold $10.4 million of these loans to the secondary market. Consumer loans decreased by $1.1 million, or 6.0%, to $17.2 million at December 31, 2006, from $18.3 million at December 31, 2005. ALLOWANCE FOR LOAN LOSSES We have established a systematic methodology for the determination of provisions for loan losses. The methodology is set forth in a formal policy and takes into consideration the need for an overall general valuation allowance as well as specific allowances that are tied to individual loans. In originating loans, we recognize that losses will occur and that the risk of loss will vary with, among other things, the type of loan being made, the creditworthiness of the borrower over the term of the loan, general economic conditions and, in the case of a secured loan, the quality of the collateral for the loan. 11 The general valuation allowance is maintained to cover losses inherent in the loan portfolio. Management's periodic evaluation of the adequacy of the allowance is based on known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral and current economic conditions, as such factors may be applicable. Specific valuation allowances are established to absorb losses on loans for which full collectibility cannot be reasonably assured. Our evaluation of the adequacy of the allowance for loan losses includes a review of all loans on a monthly basis. For residential mortgage loans and consumer loans, the primary factors used to determine the adequacy of the allowance are delinquency, collateral value, general economic conditions and, where applicable, individual borrower information that is known to us. For commercial loans and commercial real estate loans, the review includes financial performance of the borrower, payment history, collateral value, general economic conditions and more specific economic conditions affecting specific industries or business activities of the borrowers within the portfolio segments. The amount of the general portion of the allowance for loan losses is determined by applying loss factors to the outstanding loans in the portfolio. The amount of the factor applied to the loans is dependent upon the type of loan and management's assessment of the relative risk associated with that loan type. The factors may change from time to time if conditions or events warrant such change. American Bank commenced operations in 1997, and as of December 31, 2006 had recorded charge-offs on eight loans. In addition, we have had very limited amounts of loan delinquencies. As a result, we consider the past experience and knowledge of management, gained at other banking institutions where they have worked and the experience of our peer group, in determining our loss factors. Management maintains an allowance for loan losses that it considers adequate based on the evaluation process that it performs on a monthly basis. As part of this process, management considers it appropriate to maintain a portion of the allowance that is based on credit quality trends, loan volume, current economic trends and other uncertainties. This portion of the allowance for loan losses is recorded as a component of the general portion. At December 31, 2006 and December 31, 2005, we had an allowance for loan losses of $3.7 million and $3.4 million, respectively. Management believes that the allowance for loan losses at December 31, 2006 was sufficient to absorb losses inherent in the portfolio at that date. Although management believes that it uses the best information available to make such determinations, future adjustments to the allowance for loan losses may be necessary and the results of operations could be significantly and adversely affected if circumstances differ substantially from the assumptions we used in making the determinations. Furthermore, while we believe we have established our existing allowance for loan losses in accordance with U. S. generally accepted accounting principles, there can be no assurance that the Pennsylvania Department of Banking or the Board of Governors of the Federal Reserve System, in reviewing our loan portfolio, will not request us to increase our allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that material increases will not be necessary should the quality of any loans deteriorate as a result of the factors discussed above. Any material increase in the allowance for loan losses may adversely affect the Company's financial condition and results of operations. DEPOSITS Total deposits increased by $37,000, or 0.1%, to $369,995,000 at December 31, 2006 from the December 31, 2005 balance of $369,958,000. Non-interest bearing demand deposits increased $499,000, or 3.3%, to $15.9 million at December 31, 2006, from $15.4 million at December 31, 2005. Interest-bearing checking accounts decreased $13.1 million, or 14.5%, to $77.2 million, at December 31, 2006, compared to $90.3 million at December 31, 2005. Savings deposits, including money market accounts, decreased $36.7 million, or 33.4%, to $73.2 million at December 31, 2006, from the balance of $109.9 million at December 31, 2005. Total certificates of deposit increased by $49.3 million, or 32.1%, to $202.7 million from the December 31, 2005 balance of $153.4 million. 12 BORROWED MONEY Short-term borrowed money consists of federal funds purchased, overnight borrowings in the form of advances from the Federal Home Loan Bank of Pittsburgh ("FHLB") and securities sold under agreements to repurchase. The Bank purchases federal funds as needed directly from other banks on a nationwide basis. Generally, these borrowings are for one day at a rate agreed upon by the parties to the transaction. These borrowings are unsecured. Overnight funds are borrowings from the FHLB under an open repurchase agreement and renew daily at a rate determined by the FHLB. These borrowings are secured by the master borrowing agreement between the Bank and the FHLB. The Bank enters into agreements with customers as part of cash management services where the Bank sells securities to the customer overnight with the agreement to repurchase them at par. Securities sold under agreements to repurchase, which are classified as secured borrowings, generally mature within one day of the transaction date. Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. The securities underlying the agreements are under the Bank's control and the fair value of the underlying securities are monitored on a daily basis. Federal funds purchased totaled $15.0 million at December 31, 2006. There were no federal funds purchased at December 31, 2005. Overnight borrowings from the FHLB totaled $475,000 at December 31, 2006, a decrease from the $4.2 million outstanding on December 31, 2005. Securities sold under agreements to repurchase totaled $12.0 million at December 31, 2006, an increase of $3.3 million, or 37.9%, from the total of $8.7 million at December 31, 2005. At December 31, 2006, long-term debt consisted of a $4.0 million loan due December 31, 2007 with interest at prime rate (as published in the Wall Street Journal) plus 100 basis points and resetting monthly. This loan was used to finance in part the repurchase of 1.4 million shares of the Company's common stock in February of 2006. Also included in long-term debt at December 31, 2006, is $57.5 million of fixed maturity advances with interest rates locked for certain periods of time, after which the FHLB may, at its option, elect to convert the advances to a variable rate of interest that resets quarterly and is based on a spread over the then-current 90 day LIBOR. If the FHLB does reprice the advance, the Bank has the option to pay the advances back to the FHLB with no penalty. Interest rates on these advances at December 31, 2006 range from 2.74% to 6.07%, with a weighted average interest rate of 4.85%. American Bank is subject to maximum borrowing limitations with the FHLB based, in part, on the amount of qualifying assets American Bank holds in the form of residential mortgage loans and U.S. Government agency securities, including mortgage backed securities. As of December 31, 2006 American Bank's maximum borrowing capacity was $229.2 million, of which $171.0 million was available. JUNIOR SUBORDINATED MANDATORY REDEEMABLE CONVERTIBLE DEBENTURES On April 26, 2002, American Bank Incorporated issued $10.2 million principal amount of 6.0% junior subordinated debentures due March 31, 2032 to American Capital Trust I (the "Trust"). American Bank Incorporated owns all of the common equity of the Trust. The debentures are the sole asset of the Trust. The Trust issued $10.2 million of 6.0% cumulative convertible trust preferred securities to investors. The trust preferred securities are callable by American Bank Incorporated after March 31, 2007, or earlier under certain conditions. The trust preferred securities must be redeemed at the maturity of the debentures on March 31, 2032. Holders of the trust preferred securities may elect to convert the preferred securities into common stock of American Bank Incorporated at any time, at a conversion ratio of one share of common stock for each preferred security. Preferred securities are convertible into 1,198,494 shares of common stock at December 31, 2006. American Bank Incorporated's obligations under the debentures and related documents, taken together, constitute a full and unconditional guarantee by American Bank Incorporated of the Trust's obligations under the preferred securities. 13 The trust and the underlying securities are subject to Financial Accounting Standards Board Interpretation No. 46R ("FIN 46R"), which provides guidance for the consolidation of variable interest entities ("VIEs"). Management determined that under the provisions of FIN 46, American Capital Trust I was required to be de-consolidated as of March 31, 2004. After adoption of FIN 46, the junior subordinated debentures issued to the Trust continue to be reported on the Consolidated Balance Sheets as "Long-term debt." American Bank Incorporated's equity interest in the Trust of $315,000 (which was eliminated in consolidation prior to adoption of FIN 46R) is reported in "Other assets." Please refer to Note 10 to the Consolidated Financial Statements for additional discussion of FIN 46R. The debentures qualify as Tier 1, or core capital of American Bank Incorporated, subject to a 25% of capital limitation under risk-based capital guidelines developed by the Federal Reserve Board. The portion that exceeds the 25% of capital limitation qualifies as Tier 2, or supplementary capital of American Bank Incorporated. At December 31, 2006 the entire $10.2 million of the debentures outstanding qualified as Tier 1 capital of American Bank Incorporated. The Federal Reserve Board ("FRB") has indicated that the preferred securities will continue to qualify as Tier I Capital, subject to the above noted limitations, until further notice. Should the FRB determine that the preferred securities no longer qualify as Tier I capital, American Bank Incorporated has the right to call the entire issue. STOCKHOLDERS' EQUITY Stockholders' equity at December 31, 2006 was $34.2 million, a decrease of $10.1 million, or 22.8%, from the December 31, 2005 balance of $44.3 million. This decrease was attributable to the repurchase of 1.6 million shares of Company stock for $14.0 million during the year. This decrease was partially off-set by net income of $2.8 million, shares purchased under the dividend reinvestment and stock purchase plan ("DRIP") of $1.0 million and an increase in other comprehensive income of $1.3 million. COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2006 AND 2005 NET INCOME For the year ended December 31, 2006, we reported net income of $2.8 million, or $0.46, per basic share and $0.43 per diluted share for a return on average assets of 0.54% and a return on average equity of 8.02%. This was a decrease of $701,000, or 19.9%, from net income of $3.5 million for the year ended December 31, 2005, or $0.48 per basic share and $0.45 per diluted share. The decrease in net income was primarily the result of decreases of $287,000 in net interest income, $788,000 in other income and by an increase of $189,000 in other expense. 14 NET INTEREST INCOME Net interest income, which is the sum of interest and certain loan origination fees generated by interest-earning assets minus interest paid on deposits and other funding sources, is the principal source of our earnings. Net interest income decreased by $287,000, or 2.9%, to $9.8 million for the year ended December 31, 2006, as compared to $10.0 million for the year ended December 31, 2005. Average interest-earning assets grew to $504.2 million for the year ended December 31, 2006, an increase of $4.8 million, or 1.0%, as compared to the average of $499.4 million for the year ended December 31, 2005. Average interest-bearing liabilities grew to $469.6 million for the year ended December 31, 2006, an increase of $14.7 million, or 3.2%, compared to the average of $454.9 million for the year ended December 31, 2005. The yield on average interest-earning assets was 5.59% for the year ended December 31, 2006, an increase of 73 basis points from the yield of 4.86% for the year ended December 31, 2005. The increase in the yield on earning assets resulted from the current interest rate environment and American Bank's continued efforts to increase the size of the loan portfolio as a percent of total assets. The cost of funds was 3.92% for the year ended December 31, 2006, an increase of 79 basis points from the cost of 3.13% for the year ended December 31, 2005. The increase in the cost of funds resulted from the current interest rate environment and our strategy of pricing fixed maturity and non-maturity deposits in the top 5% of financial institutions nationwide. As interest rates have risen, our cost of funds has risen at a slightly faster rate than the yield on our earning assets. Our net interest margin (net interest income as a percentage or average interest-earning assets) decreased seven basis points, to 1.94%, for the year ended December 31, 2006, as compared to 2.01%, for the year ended December 31, 2005. PROVISION FOR LOAN LOSSES Management records a provision for loan losses in amounts that result in an allowance for loan losses that management believes is sufficient to absorb losses inherent in the loan portfolio. Management's evaluation includes such factors as past loan loss experience, economic conditions, delinquency statistics and re-evaluation of the credit quality of the loans in the portfolio. During the year ended December 31, 2006, the provision for loan losses amounted to $349,000, a decrease of $275,000, or 44.1%, from the $624,000 provision for the year ended December 31, 2005. The decrease in the provision in the current year was primarily the result of the continued favorable performance of our loans outstanding and a decrease in loans originated during the year. At December 31, 2006, the allowance for loan losses as a percentage of outstanding loans was 1.12%, the same percentage as at December 31, 2005. Management considers the allowance for loan losses at December 31, 2006 to be adequate for the inherent risks of loss in its loan portfolio at that date. OTHER INCOME Total other income for the year ended December 31, 2006 was $755,000, a decrease of $788,000, or 51.1%, compared to $1.5 million for the year ended December 31, 2005. Service charges on deposit accounts decreased to $192,000 for the year 2006, compared to $200,000 for the year 2005. Net realized gains on sale of loans decreased $70,000, or 55.1%, to $57,000 in 2006 compared to $127,000 in 2005. The decrease in gains on sale of loans reflects the slow down in the housing market in the Lehigh Valley, the result of rising interest rates. Net losses on securities available for sale totaled $79,000 for the year ended December 31, 2006, compared to a net gain of $263,000 for year 2005. During the fourth quarter of 2005, the Company sold $3.4 million of common stock of financial institutions held for investment purposes and realized $588,000 of gain. These securities were sold to generate cash to repurchase a block of the Company's shares of common stock in a private transaction. Other non-interest income is comprised primarily of income from automated teller machine fees, safe deposit box rental fees, wire transfer fees, sales of checks and checkbooks and other fee income on loans. Other fee income decreased by $371,000, or 60.4%, to $243,000 for the year ended December 31, 2006 compared to $614,000 for the year ended December 31, 2005. During the year 2005, the Company generated $357,000 from one transaction in which the borrower paid fees to satisfy the contractual terms of a loan secured by computer and other equipment. 15 OTHER EXPENSE Other expense for the year ended December 31, 2006 increased $189,000, or 3.2%, to $6.1 million as compared to $5.9 million for the year ended December 31, 2005. Our efficiency ratio (other expense divided by the sum of net interest income and other income) increased to 56.7% for the year ended December 31, 2006, as compared to 50.6% for the year ended December 31, 2005. This was primarily the result of the decrease in other income during the year 2006. Salaries, wages and benefits for the year ended December 31, 2006 totaled $2.6 million, an increase of $139,000, or 5.6%, as compared to salaries and wages for the year ended December 31, 2005, primarily the result of merit based pay raises and increases in the cost of benefit plans provided to employees. Marketing and business development costs decreased $33,000 due largely to decreases in advertising expense. Professional fees increased by $63,000, or 25.4%, to $311,000 for the year ended December 31, 2006, compared to $248,000 for the year ended December 31, 2005 primarily from legal, accounting and consulting fees paid in connection with the repurchase of 1.4 million shares of Company stock in a private transaction and from the Company' change of independent registered public accounting firms during the year. Pennsylvania bank shares tax increased $67,000, to $339,000, the result of a higher amount of capital subject to tax in 2006 compared to 2005. INCOME TAX EXPENSE Income tax expense for the year ended December 31, 2006 amounted to $1.3 million, a decrease of $288,000 from the $1.6 million incurred for the year ended December 31, 2005, due primarily to the decrease in pretax income. Our effective tax rate for the year 2006 was 31.1%, as compared to 30.7% for 2005. The benefit realized from income with preferential tax treatment was less in 2006 than in 2005. CAPITAL RESOURCES AND LIQUIDITY Our liquidity management objectives are to ensure the availability of sufficient cash flows to meet all financial commitments and to capitalize on opportunities for expansion. Liquidity management addresses the ability to meet deposit account withdrawals on demand or at contractual maturity, to repay borrowings as they mature, and to fund new loans and investments as opportunities arise. Our primary sources of internally generated funds are principal and interest payments on loans receivable, cash flows generated from operations, and cash flows generated by investments. External sources of funds include increases in deposits and advances from the FHLB. We monitor our liquidity position on an ongoing basis and report regularly to the Board of Directors the level of liquidity as compared to minimum levels established by Board policy. As of December 31, 2006, our level of liquidity was in excess of the minimum established by Board policy. American Bank Incorporated is subject to various regulatory capital adequacy requirements promulgated by the Pennsylvania Department of Banking and the Board of Governors of the Federal Reserve System. Failure to meet minimum capital requirements can result in certain mandatory and, possibly, additional discretionary actions by regulators that, if undertaken, could have a direct material effect on our financial condition and results of operations. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, American Bank must meet specific capital guidelines that involve quantitative measures of its assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. Quantitative measures established by regulation to ensure capital adequacy require American Bank Incorporated and American Bank to maintain minimum amounts and ratios (set forth in the tables below) of Total and Tier 1 capital to risk-weighted assets and Tier 1 capital to average assets. As of December 31, 2006, American Bank Incorporated and American Bank exceeded all applicable capital adequacy requirements. 16 At December 31, 2006, American Bank's actual and required minimum capital ratios were as follows:
REQUIRED FOR CAPITAL REQUIRED TO BE CONSIDERED ACTUAL ADEQUACY PURPOSES "WELL CAPITALIZED" ---------------------- ---------------------- -------------------- AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT -------- -------- -------- -------- -------- -------- (DOLLARS IN THOUSANDS) As of December 31, 2006: Total Capital (to risk weighted assets) $ 45,237 12.36% $ 29,281 8.00% $ 36,601 10.00% Tier I Capital (to risk weighted assets) 41,503 11.34 14,640 4.00 21,961 6.00 Tier I Capital (to average assets) 41,503 8.22 20,190 4.00 25,238 5.00
At December 31, 2006, American Bank Incorporated's actual and required minimum capital ratios were as follows:
REQUIRED FOR CAPITAL ACTUAL ADEQUACY PURPOSES ---------------------- -------- -------- AMOUNT PERCENT AMOUNT PERCENT -------- -------- -------- -------- (DOLLARS IN THOUSANDS) As of December 31, 2006: Total Capital (to risk weighted assets) $ 47,990 12.89% $ 29,789 8.00% Tier I Capital (to risk weighted assets) 43,140 11.59 14,894 4.00 Tier I Capital (to average assets) 43,140 8.45 20,413 4.00
COMMITMENTS AND OFF BALANCE SHEET OBLIGATIONS American Bank Incorporated's consolidated financial statements do not reflect various commitments that are made in the normal course of business, which may involve some liquidity risk. These commitments consist mainly of unfunded loans and letters of credit made under the same standards as on-balance sheet instruments. Unused commitments at December 31, 2006 totaled $57.7 million. This consisted of $12.9 million in commitments to fund commercial business, commercial real estate, residential real estate and commercial and residential construction loans, $37.3 million under lines of credit, including $5.6 million in home equity lines of credit and $5.5 million in standby letters of credit. Because these commitments have a fixed maturity date and because many of them will expire without being drawn upon, they do not generally present any significant liquidity risk to American Bank Incorporated. Management believes that any amounts actually drawn upon can be funded in the normal course of operations. American Bank Incorporated has no investment in or financial relationship with any unconsolidated entities that are reasonably likely to have a material effect on liquidity or the availability of capital resources. CONTRACTUAL OBLIGATIONS AND CAPITAL RESOURCES The following table represents American Bank Incorporated's aggregate on- and off-balance sheet contractual obligations to make future payments as of December 31, 2006.
DUE AFTER DUE AFTER DECEMBER 31, DECEMBER 31, DUE BY 2007 THROUGH 2009 THROUGH DUE AFTER DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, 2007 2009 2011 2011 TOTAL -------- -------- -------- -------- -------- (IN THOUSANDS) Time deposits $165,734 $ 21,504 $ 15,479 $ -- $202,717 Short-term debt 27,616 -- -- -- 27,616 Long-term debt 19,129 105 27,500 15,000 61,734 Junior subordinated debentures -- -- -- 10,503 10,503 Operating leases 387 826 832 399 2,444 -------- -------- -------- -------- -------- Total $212,866 $ 22,435 $ 43,811 $ 25,902 $305,014 ======== ======== ======== ======== ========
17 American Bank Incorporated is not aware of any known trends or any known demands, commitments, events or uncertainties which would result in any material increase or decrease in liquidity. The greater the capital resources, the more likely we will be able to meet our cash obligations and unforeseen expenses. Stockholders' equity at December 31, 2006 totaled $34.2 million and was in excess of our required regulatory capital levels. ASSET QUALITY NON-PERFORMING ASSETS AND DELINQUENCIES When a borrower fails to make a required payment on a loan, we attempt to cure the deficiency by contacting the borrower and seeking the payment. Late notices are mailed no more than 16 days after the payment is due. In most cases, deficiencies are cured promptly. If a delinquency continues, additional contact is made through written notice and direct contact from an assigned account officer. American Bank will remain in continual contact with the borrower and, if needed, will attempt to work out a payment schedule acceptable to us and the borrower. While we generally prefer to work with borrowers to resolve such problems, we will institute foreclosure or other proceedings, as necessary, to minimize any potential loss. Loans are generally placed on non-accrual status if, in the opinion of management, principal or interest payments are not likely to be made in accordance with the terms of the loan agreement, or when principal or interest is past due more than 90 days. Interest accrued but not collected at the date the loan is placed on non-accrual status is reversed against income in the current period. Loans may be reinstated to accrual status when payments are less than 90 days past due and, in the opinion of management, collection of the remaining balance can be reasonably expected. The Board of Directors is informed monthly of the status of all loans delinquent more than 15 days. During the year ended December 31, 2006, we charged off three loans totaling approximately $8,000 and classified one loan as non-performing and impaired but not requiring an impairment charge. At December 31, 2006, we had three loans classified as non-performing and in the process of being resolved. Two of the loans which are to one borrower were classified as non-performing in the year 2004. At December 31, 2006, we had four loans with unpaid balances of $249,000 that were delinquent more than 30 days and still accruing interest. During the year ended December 31, 2006, we did not charge off any loans and did not record impairment charges on any loans. At December 31, 2005, we had two loans, to one borrower, classified as non-performing and in the process of being resolved, no loans delinquent more than 30 days and still accruing interest and no assets acquired in settlement of loans. The two loans classified as non-performing at December 31, 2005, were classified as non-performing at December 31, 2004. The borrower on these loans has filed for protection under the U. S. Bankruptcy Code. REAL ESTATE ACQUIRED IN SETTLEMENT OF LOANS Real estate acquired by American Bank as a result of foreclosure or by deed in lieu of foreclosure would be classified as real estate acquired in settlement of loans until sold. At December 31, 2006 and 2005, we had no real estate acquired in settlement of loans. RESTRUCTURED LOANS Under U.S. Generally Accepted Accounting Principles ("GAAP"), American Bank is required to account for certain loan modifications or restructurings as "troubled debt restructurings." In general, the modification or restructuring of a debt constitutes a troubled debt restructuring if American Bank, for economic or legal reasons related to the borrower's financial difficulties, grants a concession to the borrower that we would not otherwise consider. Debt restructurings or loan modifications for a borrower do not necessarily always constitute troubled debt restructurings and troubled debt restructurings do not necessarily result in non-accrual loans. We had no restructured loans as of December 31, 2006. 18 ASSET CLASSIFICATION The Pennsylvania Department of Banking and Board of Governors of the Federal Reserve System have adopted various regulations regarding problem assets of banking institutions. The regulations require that each insured institution review and classify its assets on a regular basis. In addition, in connection with examinations of insured institutions, regulatory examiners have authority to identify problem assets and, if appropriate, require them to be classified. There are three classifications for problem assets: "Substandard," "Doubtful," and "Loss." "Substandard" assets have one or more defined weaknesses and are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected. "Doubtful" assets have the weaknesses of "Substandard" assets with the additional characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values questionable, and there is a high probability of loss, although the amount of such loss may not be determinable at such time. An asset classified as "Loss" is considered uncollectible and of such little value that continuance as an asset of American Bank is not warranted. If an asset or portion thereof is classified as "Loss," we must establish a specific allowance for loss for the amount of the portion of the asset classified as "Loss." All or a portion of general loan loss allowances established to cover possible losses related to assets classified "Substandard" or "Doubtful" can be included in determining our regulatory capital, while specific valuation allowances for loan losses generally do not qualify as regulatory capital. Assets that do not currently expose us to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are designated as "Special Mention" and monitored by us. At December 31, 2006, the aggregate amount of our assets classified as "Special Mention" and "Substandard" were $1,746,200 and $-0-, respectively. No assets were classified as "Doubtful," and $39,000 of assets were classified as "Loss." IMPACT OF NEW ACCOUNTING STANDARDS In February 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("FAS") No. 155, Accounting for Certain Hybrid Instruments, as an amendment of FASB Statements No. 133 and 140. FAS No. 155 allows financial instruments that have embedded derivatives to be accounted for as a whole (eliminating the need to bifurcate the derivative from its host) if the holder elects to account for the whole instrument on a fair value basis. This statement is effective for all financial instruments acquired or issued after the beginning of an entity's first fiscal year that begins after September 15, 2006. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In March 2006, the FASB issued FAS No. 156, Accounting for Servicing of Financial Assets. This statement, which is an amendment to FAS No. 140, will simplify the accounting for servicing assets and liabilities, such as those common with mortgage securitization activities. Specifically, FAS No. 156 addresses the recognition and measurement of separately recognized servicing assets and liabilities and provides an approach to simplify efforts to obtain hedge-like (offset) accounting. FAS No. 156 also clarifies when an obligation to service financial assets should be separately recognized as a servicing asset or a servicing liability; requires that a separately recognized servicing asset or servicing liability be initially measured at fair value, if practicable; and permits an entity with a separately recognized servicing asset or servicing liability to choose either the amortization or fair value methods for subsequent measurement. The provisions of FAS No. 156 are effective as of the beginning of the first fiscal year that begins after September 15, 2006. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. 19 In September 2006, the FASB issued FAS No. 157, Fair Value Measurements, which provides enhanced guidance for using fair value to measure assets and liabilities. The standard applies whenever other standards require or permit assets or liabilities to be measured at fair value. The standard does not expand the use of fair value in any new circumstances. FAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Early adoption is permitted. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In September 2006, the FASB issued FAS No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106 and 132(R). FAS No. 158 requires that a company recognize the overfunded or underfunded status of its defined benefit post retirement plans (other than multiemployer plans) as an asset or liability in its statement of financial position and that it recognize changes in the funded status in the year in which the changes occur through other comprehensive income. FAS No. 158 also requires the measurement of defined benefit plan assets and obligations as of the fiscal year-end, in addition to footnote disclosures. On December 31, 2006, the Company adopted FAS No. 158, except for the measurement provisions, which are effective for fiscal years ending after December 15, 2008. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In June 2006, the FASB issued FASB Interpretation No. 48 ("FIN 48"), Accounting for Uncertainty in Income Taxes. FIN 48 is an interpretation of FAS No. 109, Accounting for Income Taxes, and it seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. This Interpretation clarifies that management is expected to evaluate an income tax position taken or expected to be taken for likelihood of realization before recording any amounts for such position in the financial statement. FIN 48 also requires expanded disclosure with respect to income tax positions taken that are not certain to be realized. This Interpretation is effective for fiscal years beginning after December 15, 2006, and will require management to evaluate every open tax position that exists in every jurisdiction on the date of initial adoption. The Company is currently evaluating the impact the adoption of the standard will have on the Company's results of operations. In September 2006, the FASB reached consensus on the guidance provided by Emerging Issues Task Force Issue 06-4 ("EITF 06-4"), Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements. The guidance is applicable to endorsement split-dollar life insurance arrangements, whereby the employer owns and controls the insurance policy, that is associated with a postretirement benefit. EITF 06-4 requires that for a split-dollar life insurance arrangement within the scope of the issue, an employer should recognize a liability for future benefits in accordance with FAS No. 106 (if, in substance, a postretirement benefit plan exists) or Accounting Principles Board Opinion No. 12 (if the arrangement is, in substance, an individual deferred compensation contract) based on the substantive agreement with the employee. EITF 06-4 is effective for fiscal years beginning after December 15, 2007. The Company is currently evaluating the impact the adoption of the standard will have on the Company's results of operations or financial condition. In September 2006, the FASB reached consensus on the guidance provided by Emerging Issues Task Force Issue 06-5 ("EITF 06-5"), Accounting for Purchases of Life Insurance--Determining the Amount That Could Be Realized in Accordance with FASB Technical Bulletin No. 85-4, Accounting for Purchases of Life Insurance. EITF 06-5 states that a policyholder should consider any additional amounts included in the contractual terms of the insurance policy other than the cash surrender value in determining the amount that could be realized under the insurance contract. EITF 06-5 also states that a policyholder should determine the amount that could be realized under the life insurance contract assuming the surrender of an individual-life by individual-life policy (or certificate by certificate in a group policy). EITF 06-5 is effective for fiscal years beginning after December 15, 2006. The Company is currently evaluating the impact the adoption of the standard will have on the Company's results of operations or financial condition. IMPACT OF INFLATION AND CHANGING PRICES The consolidated financial statements and related notes of American Bank Incorporated have been prepared in accordance with GAAP. GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration for changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result, changes in market interest rates have a greater impact on performance than the effects of inflation. 20 COMMON STOCK AND RELATED MATTERS We began paying a cash dividend to stockholders in March 2004. Historically, we have paid dividends annually on our common stock. We began paying dividends quarterly during 2006. Payment of dividends on American Bank Incorporated's common stock is subject to determination and declaration by the Board of Directors and depends upon a number of factors, including capital requirements, regulatory limitations on the payment of dividends, American Bank Incorporated's results of operations and financial condition, tax considerations and general economic conditions. No assurance can be given that cash dividends will continue to be declared and paid or, if declared, what the amount of dividends will be. Our shares of common stock are listed for trading on the Nasdaq Capital Market under the symbol "AMBK." As of March 19, 2007, we had seven registered market makers, 682 stockholders of record (excluding the number of persons or entities holding stock in street name through various brokerage firms), and 5,948,157 shares outstanding. The following tables set forth market price and dividend information for the common stock for the last two fiscal years.
YEAR ENDED DECEMBER 31, 2006 HIGH LOW CASH DIVIDENDS DECLARED ---------------------------- --------- -------- ----------------------- Fourth Quarter $ 9.05 $ 8.17 $ 0.04 Third Quarter 9.37 8.63 0.04 Second Quarter 10.50 8.50 0.04 First Quarter 10.25 8.30 0.12
YEAR ENDED DECEMBER 31, 2005 HIGH LOW CASH DIVIDENDS DECLARED ---------------------------- --------- -------- ----------------------- Fourth Quarter $ 9.05 $ 8.17 $ -- Third Quarter 9.37 8.63 -- Second Quarter 10.50 8.50 -- First Quarter 10.25 8.30 0.11
21 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Board of Directors and Stockholders American Bank Incorporated We have audited the accompanying consolidated balance sheet of American Bank Incorporated and subsidiaries as of December 31, 2006, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. The accompanying consolidated financial statements of American Bank Incorporated and subsidiaries as of December 31, 2005, and for the year then ended, were audited by other auditors whose report thereon dated March 3, 2006, expressed an unqualified opinion on those statements. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of American Bank Incorporated and subsidiaries as of December 31, 2006, and the results of their operations and their cash flows for the year then ended in conformity with U.S. generally accepted accounting principles. /s/ S.R. Snodgrass, A.C. Wexford, PA March 14, 2007 F-1 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders American Bank Incorporated Allentown, Pennsylvania We have audited the consolidated balance sheet of American Bank Incorporated and its subsidiaries as of December 31, 2005, and the related consolidated statements of income, stockholders' equity and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the 2005 consolidated financial statements referred to above present fairly, in all material respects, the financial position of American Bank Incorporated and its subsidiaries as of December 31, 2005, and the results of their operations and their cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America. /s/ BEARD MILLER COMPANY LLP Beard Miller Company LLP Reading, Pennsylvania March 3, 2006 F-2 AMERICAN BANK INCORPORATED ================================================================================ CONSOLIDATED BALANCE SHEETS
DECEMBER 31, -------------------------- 2006 2005 --------- --------- (IN THOUSANDS, EXCEPT SHARE DATA) ASSETS Cash and due from banks $ 3,047 $ 3,727 Interest bearing deposit with bank 256 55 --------- --------- Cash and Cash Equivalents 3,303 3,782 Securities available for sale 149,636 188,691 Securities held to maturity, fair value 2006 $12,070; 2005 $14,012 11,709 13,482 Loans receivable, net of allowance for loan losses 2006 $3,734; 2005 $3,393 319,969 301,394 Restricted investments in bank stocks 5,067 6,452 Bank owned life insurance 9,208 8,866 Premises and equipment, net 893 871 Accrued interest receivable 2,750 2,709 Other assets 2,060 2,853 --------- --------- TOTAL ASSETS $ 504,595 $ 529,100 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES Deposits: Non-interest bearing $ 15,854 $ 15,355 Interest-bearing 353,141 353,603 --------- --------- Total Deposits 368,995 368,958 Short-term debt 27,616 12,921 Long-term debt 61,734 90,848 Junior subordinated debentures 10,503 10,187 Accrued interest payable 871 817 Other liabilities 657 1,024 --------- --------- TOTAL LIABILITIES 470,376 484,755 --------- --------- STOCKHOLDERS' EQUITY Preferred stock, par value $.10 per share; authorized 5,000,000 shares; -- -- issued and outstanding -0- shares Common stock, par value $.10 per share; authorized 15,000,000 shares; 2006 issued 7,687,928 shares, outstanding 6,020,026 shares; 2005 issued 7,551,249 shares, outstanding 7,461,284 shares 769 755 Paid-in capital 36,239 35,157 Treasury stock, at cost (1,667,902 shares in 2006, 89,401 shares in 2005) (14,748) (789) Unearned ESOP shares, at cost (22,523 shares in 2006, 25,087 shares in 2005) (178) (200) Allocated but unvested shares in SERP, at cost (12,713 shares in 2006, 12,713 shares in 2005) (109) (109) Retained earnings 10,980 10,072 Accumulated other comprehensive income (loss) 1,266 (541) --------- --------- TOTAL STOCKHOLDERS' EQUITY 34,219 44,345 --------- --------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 504,595 $ 529,100 ========= =========
See notes to consolidated financial statements. F-3 AMERICAN BANK INCORPORATED ================================================================================ CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, ------------------------------- 2006 2005 -------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Loans receivable, including fees $ 19,634 $ 16,206 Securities, taxable 8,502 8,042 Interest-bearing deposit with bank 26 45 -------- -------- TOTAL INTEREST INCOME 28,162 24,293 -------- -------- INTEREST EXPENSE Deposits 12,583 9,150 Short-term debt 1,796 165 Long-term debt 3,412 4,320 Junior subordinated debentures 611 611 -------- -------- TOTAL INTEREST EXPENSE 18,402 14,246 -------- -------- NET INTEREST INCOME 9,760 10,047 PROVISION FOR LOAN LOSSES 349 624 -------- -------- NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 9,411 9,423 -------- -------- OTHER INCOME Service fees 192 200 Net realized gains on sale of residential mortgage loans 57 127 Net gains (losses) on securities available for sale (79) 263 Earnings on bank owned life insurance 342 339 Other 243 614 -------- -------- TOTAL OTHER INCOME 755 1,543 -------- -------- OTHER EXPENSES Salaries, wages and benefits 2,635 2,496 Occupancy 848 843 Equipment and data processing 602 658 Marketing and business development 171 204 Loan origination and product management 412 424 Professional services 311 248 Pennsylvania bank shares tax 339 272 Other 740 724 -------- -------- TOTAL OTHER EXPENSES 6,058 5,869 -------- -------- INCOME BEFORE INCOME TAXES 4,108 5,097 INCOME TAXES 1,277 1,565 -------- -------- NET INCOME $ 2,831 $ 3,532 ======== ======== NET INCOME PER COMMON SHARE Basic $ 0.46 $ 0.48 ======== ======== Diluted $ 0.43 $ 0.45 ======== ========
See notes to consolidated financial statements. F-4 AMERICAN BANK INCORPORATED ================================================================================ CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 2006 AND 2005
SHARES OF TREASURY, ACCUMULATED COMMON ESOP AND OTHER STOCK COMMON PAID-IN SERP RETAINED COMPREHENSIVE OUTSTANDING STOCK CAPITAL SHARES EARNINGS INCOME (LOSS) TOTAL ----------- ----------- ----------- ----------- ----------- ----------- ----------- (DOLLARS IN THOUSANDS) BALANCE - DECEMBER 31, 2004 7,222,538 $ 722 $ 32,720 $ (118) $ 7,336 $ 1,250 $ 41,910 ----------- Comprehensive income: Net income -- -- -- -- 3,532 -- 3,532 Net change in unrealized losses on securities available for sale, net of reclassification adjustment and tax effect -- -- -- -- -- (1,791) (1,791) ----------- TOTAL COMPREHENSIVE INCOME 1,741 ----------- Purchase of shares into Treasury (89,401) -- -- (789) -- -- (789) Purchase of shares by SERP -- -- -- (109) -- -- (109) Purchase of shares by ESOP -- -- -- (110) -- -- (110) Allocation of shares by ESOP -- -- -- 28 -- -- 28 Dividends declared ($0.12 per share) -- -- -- -- (796) -- (796) Dividends reinvested 80,317 8 599 -- -- -- 607 Optional purchase through DRIP 235,830 24 1,758 -- -- -- 1,782 Exercise of stock options 12,000 1 80 -- -- -- 81 ----------- ----------- ----------- ----------- ----------- ----------- ----------- BALANCE - DECEMBER 31, 2005 7,461,284 755 35,157 (1,098) 10,072 (541) 44,345 ----------- Comprehensive income: Net income -- -- -- -- 2,831 -- 2,831 Net change in unrealized gains on securities available for sale, net of reclassification adjustment and tax effect -- -- -- -- -- 1,807 1,807 ----------- TOTAL COMPREHENSIVE INCOME 4,638 ----------- Stock option expense -- -- 59 -- -- -- 59 Purchase of shares into Treasury (1,578,501) -- -- (13,959) -- -- (13,959) Allocation of shares by ESOP -- -- -- 22 -- -- 24 Dividends declared ($0.24 per share) -- -- -- -- (1,923) -- (1,923) Dividends reinvested 137,243 14 1,023 -- -- -- 1,037 Optional purchase through DRIP -- -- -- -- -- -- -- ----------- ----------- ----------- ----------- ----------- ----------- ----------- BALANCE - DECEMBER 31, 2006 6,020,026 $ 769 $ 36,239 $ (15,035) $ 10,980 $ 1,266 $ 34,219 =========== =========== =========== =========== =========== =========== ===========
See notes to consolidated financial statements. F-5 AMERICAN BANK INCORPORATED ================================================================================ CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, ------------------------- 2006 2005 -------- -------- (IN THOUSANDS) CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 2,831 $ 3,532 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 349 624 Depreciation and amortization 443 480 Proceeds from sale of residential mortgage loans held for sale 10,467 13,919 Net realized gains on sale of loans (57) (127) Originations of residential mortgage loans held for sale (10,410) (13,792) Net amortization of securities premiums and discounts 1,290 1,541 Net (gains) losses on available for sale securities 79 (263) Deferred tax benefit (291) (218) Income tax benefit on stock options exercised -- 14 Earnings on bank owned life insurance (342) (339) Allocation of ESOP shares 22 28 (Increase) decrease in accrued interest receivable and other assets 326 (1,026) Decrease in accrued interest payable and other liabilities (554) (680) -------- -------- NET CASH PROVIDED BY OPERATING ACTIVITIES 4,153 3,693 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES Securities available for sale: Purchases (12,764) (82,044) Maturities and principal repayments 47,352 72,076 Sales 5,965 38,236 Securities held to maturity: Purchases (1,362) (10,099) Maturities and principal repayments 3,005 10,056 Net increase in loans receivable (18,966) (59,670) Purchases of premises and equipment (320) (188) Purchases of restricted investments in bank stocks (11,088) (3,398) Redemption of restricted investments in bank stocks 12,473 3,833 -------- -------- NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 24,295 (31,198) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES Net decrease in demand and savings deposits (49,253) (3,500) Net increase in time deposits 49,290 26,726 Net increase in short-term debt 14,695 5,930 Proceeds form long-term debt 4,000 -- Repayments on long-term debt (33,114) (5,247) Proceeds from exercise of stock options -- 67 Dividends paid (586) (796) Purchase of common stock-Treasury, ESOP and SERP (13,959) (1,008) -------- -------- NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (28,927) 24,561 -------- -------- NET DECREASE IN CASH AND CASH EQUIVALENTS (479) (2,944) CASH AND CASH EQUIVALENTS - BEGINNING 3,782 6,726 -------- -------- CASH AND CASH EQUIVALENTS - ENDING $ 3,303 $ 3,782 ======== ======== SUPPLEMENTARY CASH FLOWS INFORMATION Interest paid $ 18,348 $ 14,074 ======== ======== Income taxes $ 2,037 $ 1,875 ======== ========
See notes to consolidated financial statements. F-6 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - NATURE OF OPERATIONS AND BASIS OF PRESENTATION American Bank Incorporated (the "Company") was formed to become the holding company of American Bank (the "Bank"). The consolidated financial statements include the accounts of American Bank Incorporated and its wholly-owned subsidiaries American Bank and American Capital Trust I, a trust formed for the purpose of issuing the mandatory redeemable debentures on behalf of the Company (for additional information, see Note 10). All material intercompany transactions have been eliminated. The Company is subject to regulation and supervision by the Federal Reserve Bank. The Bank was incorporated September 3, 1996 under the laws of the Commonwealth of Pennsylvania and is a Pennsylvania state chartered bank. The Bank commenced operations on June 5, 1997 and provides full banking services. The Bank is subject to regulation of the Pennsylvania Department of Banking and the Federal Reserve Bank. NOTE 2 - SUMMARY OF ACCOUNTING POLICIES ESTIMATES The preparation of financial statements in conformity with U. S. 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 in the near term relate to the determination of the allowance for loan losses, assessment of other than temporary impairment of investment securities and the valuation of deferred tax assets. SIGNIFICANT CONCENTRATIONS OF CREDIT RISK The Bank maintains its principal office in Allentown, Pennsylvania and its local service area includes Lehigh and Northampton counties, along with portions of Berks, Bucks and Montgomery counties, in Pennsylvania. The Bank also offers internet banking services on a national basis to United States citizens regardless of geographic location. Note 4 discusses the types of securities that the Company invests in. Note 5 discusses the types of lending that the Company engages in. The Company does not have any significant concentrations to any one industry or customer. Although the Company has a diversified loan portfolio, its debtors' ability to honor their contracts is influenced by their local economy. PRESENTATION OF CASH FLOWS For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and interest-bearing deposits with banks. SECURITIES Management determines the appropriate classification of debt securities at the time of purchase and re-evaluates such designation as of each balance sheet date. F-7 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) SECURITIES (CONTINUED) Securities classified as available for sale are those securities that the Company intends to hold for an indefinite period of time but not necessarily to maturity. Securities available for sale are carried at fair value. Unrealized gains or losses are included in other comprehensive income, net of the related deferred tax effect. Realized gains or losses, determined on the basis of the cost of the specific securities sold, are included in earnings. Premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Securities classified as held to maturity are those debt securities the Company has both the intent and ability to hold to maturity regardless of changes in market conditions, liquidity needs or changes in general economic conditions. These securities are carried at cost adjusted for the amortization of premium and accretion of discount, computed by the interest method over the terms of the securities. Declines in the fair value of held-to-maturity and available-for-sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other than temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near term prospects of the issuer and (3) the intent and ability of the Company to hold the security until its anticipated recovery in fair value. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method. RESIDENTIAL MORTGAGE LOANS HELD FOR SALE Residential mortgage loans originated and intended for sale in the secondary market are carried at the lower of cost or estimated market value in the aggregate. Net unrealized losses, if any, are recognized through a valuation allowance by a charge against income. Gains and losses on sales of loans held for sale are included in other income. Servicing rights are not retained on residential mortgage loans sold. There were no loans held for sale at December 31, 2006 and 2005. PURCHASED MORTGAGE LOANS The Company records its investment in purchased mortgage loans at cost. The related premium or discount is recognized over the life of the purchased loan and is included as part of interest income. Principal is reduced as payments are received. The Company evaluates the realization of such loans when determining the allowance for loan losses. LOANS RECEIVABLE Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off generally are stated at their outstanding unpaid principal balances, net of any deferred fees or costs on originated loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the yield (interest income) of the related loans. The Company is generally amortizing these amounts over the contractual life of the loan. F-8 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) LOANS RECEIVABLE (CONTINUED) The accrual of interest is discontinued when the contractual payment of principal or interest has become 90 days past due unless the credit is well secured and in the process of collection, or management has serious doubts about further collectibility of principal or interest, even though the loan is currently performing. When a loan is placed on nonaccrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against the allowance for loan losses. Interest received on nonaccrual loans generally is either applied against principal or reported as interest income, according to management's judgment as to the collectibility of principal. Generally, loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time and the ultimate collectibility of the total contractual principal and interest is no longer in doubt. ALLOWANCE FOR LOAN LOSSES The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. The allowance consists of specific and general components. The specific component relates to loans that are classified as either doubtful, substandard or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. A component is maintained to cover uncertainties that could affect management's estimate of probable losses. This component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreements. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial and commercial mortgage loans by either the present value of expected future cash flows discounted at the loan's effective interest rate, or the loan's obtainable market price or the fair value of the collateral if the loan is collateral dependent. F-9 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) ALLOWANCE FOR LOAN LOSSES (CONTINUED) Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential mortgage loans for impairment disclosures, unless such loans are the subject of a restructuring agreement. PREMISES AND EQUIPMENT Premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed on the straight-line method over the assets estimated useful lives. Leasehold improvements are depreciated over the estimated useful life of the improvement. The estimated useful lives for calculating depreciation are as follows: YEARS ------- Leasehold improvements 7 - 12 Furniture, fixtures and equipment 5 - 7 Computer equipment and software 3 - 5 RESTRICTED INVESTMENT IN BANK STOCKS The Company owns several restricted investments in bank stocks including stock in the Federal Home Loan Bank of Pittsburgh (FHLB), the Federal Reserve Bank of Philadelphia and the Atlantic Central Bankers Bank. These stocks are reflected on the balance sheet at historical cost. Under the Bank's membership agreement with the FHLB, required stock purchases are based on a percentage of outstanding borrowings, a percentage of unused borrowing capacity and may also include a percentage of assets sold to the FHLB. BANK OWNED LIFE INSURANCE The Company invests in bank owned life insurance ("BOLI") as a source of funding for employee benefit expenses. BOLI involves the purchasing of life insurance by the Bank on a chosen group of employees. The Bank is the owner and beneficiary of the policies. This life insurance investment is carried at the cash surrender value of the underlying policies in the amount of $9,208,000 and $8,866,000 at December 31, 2006 and 2005, respectively. Income from the increase in cash surrender value of the policies is included in other income on the income statement. The policies were purchased to help offset the increase in the costs of various fringe benefit plans including healthcare. In the event of the death of an insured individual under these policies, the Company would receive a death benefit, which would be recorded as non-interest income. TRANSFERS OF FINANCIAL ASSETS Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. ADVERTISING COSTS The Company follows the policy of charging the costs of advertising to expense as incurred. Advertising costs of $84,000 and $80,000 are included in marketing and business development expenses for the years ended December 31, 2006 and 2005, respectively. F-10 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) INCOME TAXES Income taxes are provided on the liability method whereby deferred tax assets are recognized for deductible temporary differences and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment. OFF-BALANCE SHEET FINANCIAL INSTRUMENTS In the ordinary course of business, the Company has entered into off-balance sheet financial instruments consisting of commitments to extend credit and letters of credit. Such financial instruments are recorded in the balance sheet when they are funded. EARNINGS PER SHARE Basic earnings per share represents income available to common stockholders divided by the weighted-average number of shares outstanding during the period. Diluted earnings per share reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Company relate to outstanding stock options and are determined using the treasury stock method. Potential common shares also include the mandatory redeemable convertible debentures determined using the "if converted" method. COMPREHENSIVE INCOME Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Certain changes in assets and liabilities, such as unrealized gains and losses on securities available for sale, are reported as a separate component of the equity section of the balance sheet. Such items, along with net income, are the components of comprehensive income. F-11 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) COMPREHENSIVE INCOME (CONTINUED) The components of other comprehensive income (loss) and related tax effects are as follows:
2006 2005 ------- ------- (IN THOUSANDS) Unrealized holding gains (losses) on securities available for sale $ 2,658 $(2,452) Reclassification adjustment for net (gains) losses in net income 79 (263) ------- ------- NET UNREALIZED GAINS (LOSSES) 2,737 (2,715) Tax expense (benefit) (930) 924 ------- ------- NET OF TAX AMOUNT $ 1,807 $(1,791) ======= =======
STOCK-BASED COMPENSATION The Company adopted FASB Statement No 123(R) "Share Based Payment" on January 1, 2006 using the modified prospective method. Under the provisions of the modified prospective method, prior periods have not been restated. Prior to the adoption of FASB No 123(R), the Company followed Accounting Principles Board Opinion No 25, "Accounting For Stock Issued to Employees" (APB 25), and related interpretations in accounting for its employee stock options. Under APB 25, because the exercise price equaled the market price on the underlying stock at the date of grant, no compensation expense was recognized. Pro forma information regarding net income and net income per share is required by FASB Statement No. 123(R), and has been determined as if the Company had accounted for its stock options under the fair value method of that statement for the year ended December 31, 2005. The weighted average fair value of options granted during 2006 and 2005 was $2.87 and $2.13, respectively. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period.
YEAR ENDED DECEMBER 31, 2005 ----------- (IN THOUSANDS) Net income, as reported $ 3,532 Total stock based employee compensation expense determined under fair value based method for all awards, net of related tax effects (23) ----------- PRO FORMA NET INCOME $ 3,509 ===========
F-12 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) STOCK-BASED COMPENSATION (CONTINUED) YEAR ENDED DECEMBER 31, 2005 ---------- Earnings per share: As reported: Basic $ 0.48 Diluted 0.45 Pro forma: Basic 0.47 Diluted 0.45 FASB 123(R) requires that the cash flows from the tax benefits resulting from tax deductions in excess of the compensation cost recognized for stock-based awards (excess tax benefits) be classified as financing cash flows. Prior to the adoption of FASB 123(R), such excess tax benefits were presented as operating cash flows. Accordingly, $20,000 excess tax benefits has been classified as a financing cash inflow for the year ended December 31, 2006 in the Consolidated Statements of Cash Flows. NEW ACCOUNTING STANDARDS In February 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("FAS") No. 155, Accounting for Certain Hybrid Instruments, as an amendment of FASB Statements No. 133 and 140. FAS No. 155 allows financial instruments that have embedded derivatives to be accounted for as a whole (eliminating the need to bifurcate the derivative from its host) if the holder elects to account for the whole instrument on a fair value basis. This statement is effective for all financial instruments acquired or issued after the beginning of an entity's first fiscal year that begins after September 15, 2006. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In March 2006, the FASB issued FAS No. 156, Accounting for Servicing of Financial Assets. This statement, which is an amendment to FAS No. 140, will simplify the accounting for servicing assets and liabilities, such as those common with mortgage securitization activities. Specifically, FAS No. 156 addresses the recognition and measurement of separately recognized servicing assets and liabilities and provides an approach to simplify efforts to obtain hedge-like (offset) accounting. FAS No. 156 also clarifies when an obligation to service financial assets should be separately recognized as a servicing asset or a servicing liability; requires that a separately recognized servicing asset or servicing liability be initially measured at fair value, if practicable; and permits an entity with a separately recognized servicing asset or servicing liability to choose either of the amortization or fair value methods for subsequent measurement. The provisions of FAS No. 156 are effective as of the beginning of the first fiscal year that begins after September 15, 2006. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In September 2006, the FASB issued FAS No. 157, Fair Value Measurements, which provides enhanced guidance for using fair value to measure assets and liabilities. The standard applies whenever other standards require or permit assets or liabilities to be measured at fair value. The standard does not expand the use of fair value in any new circumstances. FAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. Early adoption is permitted. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. F-13 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) NEW ACCOUNTING STANDARDS (CONTINUED) In September 2006, the FASB issued FAS No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106 and 132(R). FAS No. 158 requires that a company recognize the overfunded or underfunded status of its defined benefit post retirement plans (other than multiemployer plans) as an asset or liability in its statement of financial position and that it recognize changes in the funded status in the year in which the changes occur through other comprehensive income. FAS No. 158 also requires the measurement of defined benefit plan assets and obligations as of the fiscal year-end, in addition tofootnote disclosures. On December 31, 2006, the Company adopted FAS No. 158, except for the measurement provisions, which are effective for fiscal years ending after December 15, 2008. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In June 2006, the FASB issued FASB Interpretation No. 48 ("FIN 48"), Accounting for Uncertainty in Income Taxes. FIN 48 is an interpretation of FAS No. 109, Accounting for Income Taxes, and it seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. This Interpretation clarifies that management is expected to evaluate an income tax position taken or expected to be taken for likelihood of realization before recording any amounts for such position in the financial statement. FIN 48 also requires expanded disclosure with respect to income tax positions taken that are not certain to be realized. This Interpretation is effective for fiscal years beginning after December 15, 2006, and will require management to evaluate every open tax position that exists in every jurisdiction on the date of initial adoption. The Company is currently evaluating the impact the adoption of the standard will have on the Company's results of operations. In September 2006, the FASB reached consensus on the guidance provided by Emerging Issues Task Force Issue 06-4 ("EITF 06-4"), Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements. The guidance is applicable to endorsement split-dollar life insurance arrangements, whereby the employer owns and controls the insurance policy, that are associated with a postretirement benefit. EITF 06-4 requires that for a split-dollar life insurance arrangement within the scope of the issue, an employer should recognize a liability for future benefits in accordance with FAS No. 106 (if, in substance, a postretirement benefit plan exists) or Accounting Principles Board Opinion No. 12 (if the arrangement is, in substance, an individual deferred compensation contract) based on the substantive agreement with the employee. EITF 06-4 is effective for fiscal years beginning after December 15, 2007. The Company is currently evaluating the impact the adoption of the standard will have on the Company's results of operations or financial condition. In September 2006, the FASB reached consensus on the guidance provided by Emerging Issues Task Force Issue 06-5("EITF 06-5"), Accounting for Purchases of Life Insurance--Determining the Amount That Could Be Realized in Accordance with FASB Technical Bulletin No. 85-4, Accounting for Purchases of Life Insurance. EITF 06-5 states that a policyholder should consider any additional amounts included in the contractual terms of the insurance policy other than the cash surrender value in determining the amount that could be realized under the insurance contract. EITF 06-5 also states that a policyholder should determine the amount that could be realized under the life insurance contract assuming the surrender of an individual-life by individual-life policy (or certificate by certificate in a group policy). EITF 06-5 is effective for fiscal years beginning after December 15, 2006. The Company is currently evaluating the impact the adoption of the standard will have on the Company's results of operations or financial condition. F-14 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - SUMMARY OF ACCOUNTING POLICIES (CONTINUED) RECLASSIFICATIONS: Certain amounts in the 2005 financial statements have been reclassified to conform to the 2006 presentation. The reclassifications had no effect on net income or stockholders' equity as previously reported. NOTE 3 - RESTRICTIONS ON CASH AND DUE FROM BANK BALANCES American Bank is required to maintain reserve balances with the Federal Reserve Bank. The required reserve balances at December 31, 2006 and 2005 were $319,000 and $25,000, respectively. NOTE 4 - SECURITIES The amortized cost and approximate fair value of securities as of December 31, 2006 and 2005 are summarized as follows:
DECEMBER 31, 2006 ----------------------------------------------------- GROSS GROSS AMORTIZED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE --------- --------- --------- --------- (IN THOUSANDS) SECURITIES AVAILABLE FOR SALE: U.S. Government agencies $ 59,490 $ -- $ (567) $ 58,923 Mortgage-backed securities 56,685 195 (264) 56,616 U.S. Government agency preferred stock 2,161 74 (45) 2,190 Common stock 5,735 2,545 (59) 8,221 Trust preferred obligations 23,099 134 (86) 23,147 Other 550 -- (11) 539 --------- --------- --------- --------- $ 147,720 $ 2,948 $ (1,032) $ 149,636 ========= ========= ========= ========= SECURITIES HELD TO MATURITY: Trust preferred obligations $ 10,539 $ 375 $ (23) $ 10,891 Mortgage-backed securities 1,170 9 -- 1,179 --------- --------- --------- --------- $ 11,709 $ 384 $ (23) $ 12,070 ========= ========= ========= =========
F-15 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 - SECURITIES (CONTINUED)
DECEMBER 31, 2005 ----------------------------------------------------- GROSS GROSS AMORTIZED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE --------- --------- --------- --------- (IN THOUSANDS) SECURITIES AVAILABLE FOR SALE: U.S. Government agencies $ 63,489 $ -- $ (813) $ 62,676 Mortgage-backed securities 90,036 169 (708) 89,497 U.S. Government agency preferred stock 2,305 -- (224) 2,081 Common stock 6,214 970 (8) 7,176 Trust preferred obligations 27,468 97 (304) 27,261 --------- --------- --------- --------- $ 189,512 $ 1,236 $ (2,057) $ 188,691 ========= ========= ========= ========= SECURITIES HELD TO MATURITY: Trust preferred obligations $ 11,355 $ 546 $ (24) $ 11,877 Mortgage-backed securities 1,577 17 -- 1,594 Other 550 -- (9) 541 --------- --------- --------- --------- $ 13,482 $ 563 $ (33) $ 14,012 ========= ========= ========= =========
Proceeds from sales of securities available for sale totaled $5,965,000 and $38,236,000 in the years 2006 and 2005, respectively. Gross realized gains on the sale of securities available for sale totaled $66,000 and $682,000 for the years ended December 31, 2006 and 2005, respectively. Gross realized losses on the sale of securities available for sale totaled $-0- and $220,000 for the years ended December 31, 2006 and 2005, respectively. Not included in the 2006 and 2005 amounts above were other than temporary impairment charges of $145,000 and $199,000, in 2006 and 2005 respectively, which are discussed below. Securities with a carrying value of $21,817,000 and $23,975,000 at December 31, 2006 and 2005, respectively, were pledged to secure advances from the Federal Home Loan Bank, public deposits, securities sold under agreements to repurchase and for other purposes as required or permitted by law. F-16 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 - SECURITIES (CONTINUED) The following table shows gross unrealized losses and fair value on securities, aggregated by category and length of time that individual securities have been in continuous unrealized loss positions, at December 31, 2006 and 2005.
DECEMBER 31, 2006 ------------------------------------------------------------------------------------ LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL ------------------------ ------------------------ ------------------------ FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED VALUE LOSSES VALUE LOSSES VALUE LOSSES --------- --------- --------- --------- --------- --------- (IN THOUSANDS) SECURITIES AVAILABLE FOR SALE: U.S. Government agencies $ -- $ -- $ 58,923 $ (567) $ 58,923 $ (567) Mortgage-backed securities 12,661 (87) 19,584 (177) 32,245 (264) U.S. Government agency preferred stock 1,315 (45) -- -- 1,315 (45) Common stock 2,191 (49) 119 (10) 2,310 (59) Trust preferred obligations -- -- 3,940 (86) 3,940 (86) Other 239 (11) -- -- 239 (11) --------- --------- --------- --------- --------- --------- 16,406 (192) 82,566 (840) 98,972 (1,032) --------- --------- --------- --------- --------- --------- SECURITIES HELD TO MATURITY: Trust preferred obligations 3,538 (23) -- -- 3,538 (23) --------- --------- --------- --------- --------- --------- TOTAL TEMPORARILY IMPAIRED SECURITIES $ 20,240 $ (215) $ 82,566 $ (840) $ 102,806 $ (1,055) ========= ========= ========= ========= ========= =========
F-17 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 - SECURITIES (CONTINUED)
DECEMBER 31, 2005 ------------------------------------------------------------------------------------ LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL ------------------------ ------------------------ ------------------------ FAIR UNREALIZED FAIR UNREALIZED FAIR UNREALIZED VALUE LOSSES VALUE LOSSES VALUE LOSSES --------- --------- --------- --------- --------- --------- (IN THOUSANDS) SECURITIES AVAILABLE FOR SALE: U.S. Government agencies $ 35,530 $ (209) $ 27,146 $ (604) $ 62,676 $ (813) Mortgage-backed securities 24,862 (149) 28,426 (559) 53,288 (708) U.S. Government agency preferred stock -- -- 2,081 (224) 2,081 (224) Common stock 122 (8) -- -- 122 (8) Trust preferred obligations 10,745 (142) 4,989 (162) 15,734 (304) --------- --------- --------- --------- --------- --------- 71,259 (508) 62,642 (1,549) 133,901 (2,057) --------- --------- --------- --------- --------- --------- SECURITIES HELD TO MATURITY: Trust preferred obligations 2,126 (23) 7 (1) 2,133 (24) Other 241 (9) -- -- 241 (9) --------- --------- --------- --------- --------- --------- 2,367 (32) 7 (1) 2,374 (33) --------- --------- --------- --------- --------- --------- TOTAL TEMPORARILY IMPAIRED SECURITIES $ 73,626 $ (540) $ 62,649 $ (1,550) $ 136,275 $ (2,090) ========= ========= ========= ========= ========= =========
Management evaluates securities for other-than-temporary impairment on at least a quarterly basis and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. At March 31, 2006 management determined that Fannie Mae Series F preferred stock was other-than-temporarily impaired and recorded an impairment charge of $145,000. The dividend rate on this security resets every two years to a rate equal to the two-year Treasury note minus 16 basis points. The next reset date is March 31, 2008. The security does not have a maturity date. At March 31, 2006, management determined that this security was other than temporarily impaired when the market value did not recover as expected on the dividend reset date. At December 31, 2005 management determined that Freddie Mac Series M preferred stock was other-than-temporarily impaired and recorded an impairment charge of $199,000 in the fourth quarter of 2005. The security pays dividends at the rate of the two-year Treasury note plus 10 basis points and resets every two years. The security does not have a maturity date. At December 31, 2005 the Company determined that this security was other than temporarily impaired based upon management no longer being able to determine when a recovery in market value is expected to occur and therefore not able to determine its intent and ability to hold the security until such recovery. F-18 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 - SECURITIES (CONTINUED) In management's opinion, the remaining unrealized losses at December 31, 2006 reflect changes in interest rates subsequent to the acquisition of specific securities. There were 111 securities available for sale and 40 securities held to maturity that are classified as temporarily impaired at December 31, 2006. The Company has the ability to hold these securities until maturity or market price recovery. Management believes that the unrealized losses represent temporary impairment of the securities. The amortized cost and fair value of securities as of December 31, 2006, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because the securities may be called or prepaid with or without any penalty.
HELD TO MATURITY AVAILABLE FOR SALE --------------------- --------------------- AMORTIZED FAIR AMORTIZED FAIR COST VALUE COST VALUE -------- -------- -------- -------- (IN THOUSANDS) Due in one year or less $ -- $ -- $ 33,700 $ 33,372 Due after one year through five years -- -- 24,340 24,103 Due after five years through ten years -- -- 2,000 1,987 Due after ten years 10,539 10,891 25,260 25,337 Mortgage-backed securities 1,170 1,179 56,685 56,616 Common stock -- -- 5,735 8,221 -------- -------- -------- -------- $ 11,709 $ 12,070 $147,720 $149,636 ======== ======== ======== ========
NOTE 5 - LOANS RECEIVABLE The composition of net loans receivable at December 31, 2006 and 2005 is as follows:
2006 2005 --------- --------- (IN THOUSANDS) Commercial $ 59,707 $ 58,184 Commercial mortgage 155,870 134,191 Residential mortgage 90,213 93,411 Consumer 17,207 18,265 --------- --------- 322,997 304,051 Net deferred loan costs 706 736 Allowance for loan losses (3,734) (3,393) --------- --------- NET LOANS RECEIVABLE $ 319,969 $ 301,394 ========= =========
F-19 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 5 - LOANS RECEIVABLE (CONTINUED) Summary of information related to impaired loans at December 31, 2006 and 2005 is as follows:
2006 2005 ---------- ---------- (IN THOUSANDS) Total Non-Accrual Loans $ 68 $ 41 ========== ========== Interest income recognized on a cash basis on impaired loans $ 3 $ 2 ========== ==========
NOTE 6 - ALLOWANCE FOR LOAN LOSSES The following table presents changes in the allowance for loan losses for the years ended December 31, 2006 and 2005:
2006 2005 ---------- ---------- (IN THOUSANDS) Balance, beginning $ 3,393 $ 2,768 Provision for loan losses 349 624 Charge-offs 8 -- Recoveries -- 1 ---------- ---------- Balance, ending $ 3,734 $ 3,393 ========== ==========
NOTE 7 - PREMISES AND EQUIPMENT The components of premises and equipment at December 31, 2006 and 2005 are as follows:
2006 2005 ---------- ---------- (IN THOUSANDS) Leasehold improvements $ 989 $ 885 Furniture, fixtures and equipment 1,431 1,253 Computer equipment 1,450 1,423 ---------- ---------- 3,874 3,561 Accumulated depreciation (2,981) (2,690) ---------- ---------- $ 893 $ 871 ============ ==========
Depreciation expense for the year ending December 31, 2006 and 2005, respectively is $291,000 and $333,000. F-20 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 8 - DEPOSITS The components of deposits at December 31, 2006 and 2005 are as follows:
2006 2005 ---------- ---------- (IN THOUSANDS) Demand, non-interest bearing $ 15,854 $ 15,355 Demand, interest-bearing 77,235 90,296 Savings 73,189 109,880 Time, $100,000 and over 66,564 40,144 Time, other 136,153 113,283 ----------- ---------- $ 368,995 $ 368,958 ========== ==========
At December 31, 2006, the scheduled maturities of time deposits are as follows (in thousands): 2007 $ 165,734 2008 12,838 2009 8,666 2010 13,703 2011 1,776 ---------- $ 202,717 ==========
NOTE 9 - DEBT The Bank purchases federal funds as needed directly from other banks on a nation-wide basis. Generally, these borrowings are for one day at a rate agreed upon by the parties to the transaction. These borrowings are unsecured. Overnight funds are borrowings from the FHLB under an open repurchase agreement and renew daily at a rate determined by the FHLB. These borrowings are secured by the master borrowing agreement between the Bank and the FHLB. The Bank enters into agreements with customers as part of cash management services where the Bank sells securities to the customer overnight with the agreement to repurchase them at par. Securities sold under agreements to repurchase, which are classified as secured borrowings, generally mature within one day of the transaction date. Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. The securities underlying the agreements are under the Bank's control and the fair value of the underlying securities are monitored on a daily basis. F-21 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9 - DEBT (CONTINUED) Information concerning federal funds purchased, FHLB overnight advances and securities sold under agreements to repurchase is summarized as follows:
YEARS ENDED DECEMBER 31, 2006 2005 -------- ------- (DOLLARS IN THOUSANDS) Ending balance $27,490 $12,921 Average balance during the year 36,393 8,037 Average interest rate during the year 4.93% 1.27% Maximum month-end balance during the year 59,048 12,391 Weighted average interest rate at the end of the year 4.28% 2.35%
The Bank is a member of the Federal Home Loan Bank of Pittsburgh (FHLB) which permits the Bank to obtain funding in the form of advances, subject to a maximum borrowing capacity of $288,220,000 of which $58,209,000 was outstanding at December 31, 2006. Membership in the FHLB also requires that the Bank maintain a certain percentage of its assets in home mortgage assets, which may include mortgage-backed securities, and to purchase a certain amount of FHLB common stock. Both requirements follow formulas established by the FHLB and, at December 31, 2006, American Bank was in compliance with these requirements. At December 31, 2006, long-term debt consisted of a $4,000,000 loan due December 31, 2007 with interest at prime rate (as published in the Wall Street Journal) plus 100 basis points and resetting monthly. This loan was used to finance in part the repurchase of 1.4 million shares of the Company' common stock in February of 2006. Also included in long-term debt at December 31, 2006, is $57,500,000 of fixed maturity advances with interest rates locked for certain periods of time, after which the FHLB may, at its option, elect to convert the advances to a variable rate of interest that resets quarterly and is based on a spread over the then current 90 day LIBOR. If the FHLB does reprice the advance, the Bank has the option to pay the advances back to the FHLB with no penalty. Interest rates on these advances at December 31, 2006 range from 2.74% to 6.07%, with a weighted average interest rate of 4.85%. Also at December 31, 2006, there is a $234,000 advance from the FHLB that amortizes principal monthly with a fixed interest rate of 5.26%. This advance matures on October 20, 2008. Scheduled repayments of principal are as follows (in thousands): WEIGHTED AVERAGE BALANCE RATE ---------- --------- 2007 $ 19,119 3.33% 2008 115 5.26 2009 -- -- 2010 15,000 5.50 2011 12,500 5.08 Thereafter 15,000 6.07 ---------- --------- $ 61,734 4.90% ========== ========= F-22 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 10 - JUNIOR SUBORDINATED DEBENTURES On April 26, 2002, the Company issued $10,503,000 principal amount of 6.0% junior subordinated debentures due March 31, 2032 to American Capital Trust I (the "Trust"), a Delaware Business Trust. The Company owns all of the common equity of the Trust. The debentures are the sole asset of the Trust. The Trust issued $10,200,000 of 6.0% cumulative convertible trust preferred securities to investors. The trust preferred securities are callable by the Company after March 31, 2007, or earlier under certain conditions. The trust preferred securities must be redeemed at the maturity of the debentures on March 31, 2032. Holders of the preferred securities may elect to convert the preferred securities into common stock of the Company at any time, at a conversion ratio of one share of common stock for each preferred security. Preferred securities are convertible into 1,198,494 shares of common stock at December 31, 2006. The Company's obligations under the debentures and related documents, taken together, constitute a full and unconditional guarantee by the Company of the Trust's obligations under the preferred securities. The debentures currently qualify as Tier 1 capital of the Company, subject to a 25% of capital limitation under risk based capital guidelines developed by the Federal Reserve Board. The portion that exceeds the 25% of capital limitation qualifies as Tier 2 capital of the Company. For regulatory reporting purposes, the Federal Reserve Board has indicated that the preferred securities will continue to qualify as Tier I Capital subject to these limitations, until further notice. NOTE 11 - LEASE COMMITMENTS AND TOTAL RENTAL EXPENSE The Company leases the premises for its principal office and full service banking operation under a five-year operating lease agreement with a related party expiring November 2007. The Company has the option to extend the lease agreement for four additional five-year lease terms. The Company is responsible for its direct or proportionate share of real estate taxes, insurance, utilities and maintenance and repairs on the building. The lessor is the Chairman of the Board, President and Chief Executive Officer of the Company. In addition, the Company leases two vehicles under 36-month leases expiring May 2006 and an offsite disaster recovery facility with a lease expiring November 2007. Future minimum lease payments by year are as follows: MINIMUM ANNUAL MINIMUM ANNUAL LEASE PAYMENTS LEASE PAYMENTS TO RELATED TO THIRD PARTY PARTIES TOTAL -------- -------- -------- (IN THOUSANDS) 2007 $ 364 $ 23 $ 387 2008 -- 21 21 2009 -- 1 1 -------- -------- -------- $ 364 $ 45 $ 409 ======== ======== ======== Rental expense, which includes accruals for common charges, was $395,000 and $376,000 for the years ended December 31, 2006 and 2005, respectively, including $363,000 and $345,000, respectively, to the related party. F-23 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 12 - EMPLOYMENT AGREEMENT The Company entered into an employment agreement with its President and Chief Executive Officer which includes minimum annual salary commitments over a term of three years. The agreement automatically extends by one day for each day of the contract term and includes restrictions on competition and confidentiality. NOTE 13 - STOCKHOLDERS' EQUITY The Company maintains a dividend reinvestment and stock purchase plan to provide the shareholders of the Company with a convenient and economic method of investing cash dividends and optional cash payments in additional shares of the common stock of the Company. The plan was amended in February 2006 to discontinue the optional cash purchase provisions of the plan. The Company registered 2,127,275 shares of its common stock for sale under the plan. On March 15, 2005, the Company announced a program to repurchase up to 375,000 shares of its outstanding common stock. The program does not have an expiration date. As of December 31, 2006 the Company has purchased 223,458 shares under the program. On February 16, 2006, the Company entered into an agreement to purchase, and did purchase, 1,444,444 shares of its common stock at a per share price of $8.94 and an aggregate price of $12,913,330. The sellers were (i) the brother and mother of the Chief Executive Officer, both directors of the Company at the time of sale, and (ii)certain other family members of the Chief Executive Officer. NOTE 14 - NET INCOME PER COMMON SHARE The following table sets forth the computations of basic and diluted earnings per share for the years ended December 31, 2006 and 2005:
2006 2005 -------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Numerator, basic earnings per share, net income $ 2,831 $ 3,532 Interest paid on junior subordinated debentures, net of tax effect 403 403 -------- -------- Numerator, diluted earnings per share $ 3,234 $ 3,935 ======== ======== Denominators: Average basic shares outstanding 6,219 7,420 Average dilutive option effect 36 40 Average dilutive mandatory redeemable debentures effect 1,198 1,198 -------- -------- AVERAGE DILUTED SHARES OUTSTANDING 7,453 8,658 ======== ======== Net income per common share: Basic $ 0.46 $ 0.48 ======== ======== Diluted $ 0.43 $ 0.45 ======== ========
F-24 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 14 - NET INCOME PER COMMON SHARE (CONTINUED) Options to purchase 115,875 shares of common stock, ranging in price from $8.00 to $9.42, and 58,500 shares of common stock, ranging in price from $8.00 to $9.42, outstanding at December 31, 2006 and 2005, respectively, were not included in dilutive earnings per share since their exercise price exceeded the fair value of the related common stock. NOTE 15 - EMPLOYEE BENEFITS The Company has a 401(k) plan covering substantially all employees. The Company matches 50% of an employee's contribution on the first 6% of gross pay, up to a maximum of 3%. Additionally, discretionary contributions may be determined annually by the Board of Directors. The Company's contributions are expensed as costs are incurred. Total expense amounted to $56,000 and $55,000 for the years ended December 31, 2006 and 2005, respectively. The Company has a Non-Qualified Stock Option Plan (the "Plan") that includes officers and independent directors. The Plan covers 391,302 shares of common stock. Options granted under the Plan will have an option price at least equal to the fair market value of the common stock on the date of the grant. The options expire not more than ten years after the date of the grant. Exercise and vesting dates and terms may vary and are specified at the date of the grant. Normal vesting of the options is three years. Stock option transactions under the Plan were as follows:
YEARS ENDED DECEMBER 31, ------------------------------------------------- 2006 2005 ---------------------- ---------------------- WEIGHTED WEIGHTED AVERAGE AVERAGE EXERCISE EXERCISE OPTIONS PRICE OPTIONS PRICE -------- -------- -------- -------- Outstanding at the beginning of the year 184,088 $ 7.06 183,088 $ 6.87 Granted 45,500 8.48 13,000 8.44 Exercised -- -- (12,000) 5.58 Forfeited (4,000) 8.50 -- -- -------- -------- -------- -------- Outstanding at the end of the year 225,588 $ 7.32 184,088 $ 7.06 ======== ======== ======== ======== Exercisable at December 31 157,088 $ 6.80 154,750 $ 6.77 ======== ======== ======== ========
At December 31, 2006, 98,500 outstanding options had exercise prices ranging from $3.33 to $8.00 per share. The weighted average remaining life of these options is 3.5 years. In addition, at December 31, 2006, 127,088 outstanding options had exercise prices ranging from $8.01 to $9.42 per share. The weighted average remaining life of these options is 5.9 years. The weighted-average remaining contractual life of the outstanding options at December 31, 2006 is approximately 4.8 years. Options available for grant at December 31, 2006 were 165,714. F-25 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 15 - EMPLOYEE BENEFITS (CONTINUED) At December 31, 2006, options outstanding and options exercisable were as follows:
OUTSTANDING EXERCISABLE --------------------------------------------------------------------------- -------------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE CONTRACTUAL EXERCISE EXERCISE RANGE OF EXERCISE PRICES NUMBER LIFE IN YEARS PRICE NUMBER PRICE ----------------------- ---------- ---------- ---------- ---------- ---------- $3.33 - 6.00 62,000 3.5 $ 3.90 62,000 $ 3.90 $6.01 - 8.50 91,000 7.7 8.16 36,500 7.71 $8.51 - 10.00 72,588 5.4 9.19 58,588 9.31 ---------- ---------- Outstanding/Exercisable 225,588 7.32 157,088 6.80 ========== ========== Aggregate Intrinsic Value $ 626,775 $ 431,580 ========== ==========
For the year ended December 31, 2006, stock option compensation expense of $59,000 was recognized in connection with the option plans. A tax benefit of $20,000 was recognized relative to stock options during the year ended December 31, 2006. At December 31, 2006, future compensation expense related to non vested stock option grants aggregated to $93,000 and is expected to be recognized as follows: STOCK OPTION COMPENSATION EXPENSE ---------- (In Thousands) For the year ending December 31, 2007 $ 33 2008 18 2009 13 2010 10 2011 7 2012 5 2013 4 2014 2 2015 1 The fair value of the options granted during the years ended December 31, 2006 and 2005 was calculated using the Black-Scholes option pricing model with the following assumptions: YEAR ENDED DECEMBER 31, 2006 2005 ------- ------- Expected dividend rate 1.50% 1.30% Stock price volatility 26.24% 27.43% Risk free interest rate 4.33% 4.28% Expected life 9.0 yrs 10.0 yrs F-26 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 15 - EMPLOYEE BENEFITS (CONTINUED) The Company maintains an Employee Stock Ownership Plan (ESOP) covering employees who meet certain eligibility requirements. The Plan is designed to provide officers and eligible employees with proprietary interest in the Company as an incentive to contribute to the Company's success and to help ensure the attainment of the Company's goals. The Plan is administered by a committee of the Board of Directors. At present, the securities held by the plan consist solely of shares of common stock of the Company, which were purchased on the open market. Contributions to the plan and allocations of shares under the plan are discretionary on the part of the Board of Directors. The Company has engaged the services of an independent Trustee to hold the assets of the Plan and Trust. During 2006, the Plan did not purchase any shares, the Company recognized expense of $23,500 and 3,000 shares of stock were allocated to eligible employees, leaving 22,523 shares of stock being held as unallocated at year end. The fair value of the unallocated ESOP shares at December 31, 2006 was $177,600. During 2005, the Plan purchased 12,687 shares, the Company recognized expense of $28,000 and 3,500 shares of stock were allocated to eligible employees. American Bank established a Non-qualified Deferred Compensation Plan for Senior Employees (the "Plan" or "SERP"), effective January 1, 2003, for senior employees designated by the Board of Directors. The Plan is a funded plan maintained primarily for the purpose of providing deferred compensation to a select group of management or highly compensated employees within the meaning of the Employee Retirement Income Security Act of 1974, as amended. Each year American Bank may, but is not required to, make discretionary contributions to the Plan on behalf of participants. The rate of return credited to participants' accounts each year, the vesting provisions, and other provisions are set forth in the Plan document. For as long as the participant participates in the Plan as an employee of American Bank or while receiving benefits under the Plan, the participant will be bound by the non-disclosure/trade secret and non-solicitation provisions of the Plan. At December 31, 2006 and 2005, the liability for the Plan was $134,900 and $109,000, respectively. The amount charged to expense in connection with the Plan for the years ended December 31, 2006 and 2005 was $26,000 and $25,000 respectively. During 2005, the Plan purchased 12,713 shares of the Company's common stock for allocation to the participants. NOTE 16 - INCOME TAXES The provision for federal income taxes for the years ended December 31, 2006 and 2005 consisted of the following: 2006 2005 ----------- ------------ (IN THOUSANDS) Current $ 1,568 $ 1,783 Deferred (291) (218) ----------- ------------ $ 1,277 $ 1,565 =========== ============ F-27 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 16 - INCOME TAXES (CONTINUED) Reconciliation of the statutory income tax expense computed at 34% to the income tax expense included in the statements of income is as follows:
2006 2005 ---------- ---------- (IN THOUSANDS) Computed statutory tax expense $ 1,397 $ 1,733 Earnings on bank owned life insurance (116) (115) Dividends received deduction (37) (49) Other, net (33) (4) ---------- ---------- $ 1,277 $ 1,565 ========== ==========
The income tax provision applicable to net realized gains on the sale of securities was $22,000 in 2006 and $157,000 in 2005. At December 31, 2006 and 2005, the significant components of deferred tax assets and liabilities are as follows:
2006 2005 ---------- ---------- (IN THOUSANDS) Deferred tax assets: Allowance for loan losses $ 1,270 $ 1,144 Deferred compensation 32 23 Stock option expense 20 -- Unrealized losses on securities available for sale -- 280 Depreciation 75 15 Other 49 1 ---------- ---------- TOTAL DEFERRED TAX ASSETS 1,446 1,463 ---------- ---------- Deferred tax liabilities: Bad debt to recapture (6) -- Prepaid expenses (42) (66) Loan origination costs (367) (377) Unrealized gains on securities available for sale (653) - ----------- ---------- TOTAL DEFERRED TAX LIABILITIES (1,068) (443) ----------- ---------- NET DEFERRED TAX ASSET $ 378 $ 1,020 ============ ==========
No valuation allowance was established at December 31, 2006 and 2005, in view of the Company's ability to carryback taxes paid in previous years and certain tax strategies coupled with the anticipated future taxable income as evidenced by the Company's earnings potential. F-28 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 17 - TRANSACTIONS WITH EXECUTIVE OFFICERS, DIRECTORS AND PRINCIPAL STOCKHOLDERS The Company has had, and may be expected to have in the future, banking transactions in the ordinary course of business with its executive officers, directors, principal stockholders, their immediate families and affiliated companies (commonly referred to as related parties), on the same terms, including interest rates, as those prevailing at the time for comparable transactions with others. Deposits of related parties totaled $8,185,000 and $23,572,000 at December 31, 2006 and 2005, respectively. Loans to related parties totaled $1,224,000 and $1,274,000 at December 31, 2006 and 2005, respectively. During 2006, three new loans were granted in the amount of $884,00 and repayments totaled $934,000. In addition, the Company leases property from a related party (see Note 11). NOTE 18 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet. The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. A summary of the Company's financial instrument commitments at December 31, 2006 and 2005 is as follows: 2006 2005 ---------- --------- (IN THOUSANDS) Commitments to extend credit $ 12,900 $ 8,511 Unfunded commitments under lines of credit 39,317 51,811 Outstanding letters of credit 5,526 4,670 Commitments to extend credit and unfunded commitments under lines of credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Company evaluates each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation. Collateral held varies but may include personal or commercial real estate, accounts receivable, inventory and equipment. Outstanding letters of credit written are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The majority of these standby letters of credit expire within the next twelve months. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Company requires collateral supporting these letters of credit as deemed necessary. Management believes that the proceeds obtained through a liquidation of such collateral would be sufficient to cover the maximum potential amount of future payments required under the corresponding guarantees. The current amount of the liability as of December 31, 2006 and 2005 for guarantees under standby letters of credit issued is not material. F-29 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 19 - REGULATORY MATTERS The Company and the Bank are subject to various regulatory capital requirements administered by the Pennsylvania Department of Banking and the federal banking agencies. Failure to meet the 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's and Bank's 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 capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Prompt corrective action provisions are not applicable to bank holding companies. Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth below) of total and Tier l capital (as defined in the regulations) to risk-weighted assets, and of Tier l capital to average assets. Management believes, as of December 31, 2006, that the Company and the Bank meet all capital adequacy requirements to which they are subject. As of December 31, 2006, the most recent notification from the Federal Reserve Bank categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be well capitalized, the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Bank's category. F-30 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 19 - REGULATORY MATTERS (CONTINUED) The Company's and the Bank's actual capital amounts and ratios at December 31, 2006 and 2005 are presented below:
TO BE WELL CAPITALIZED UNDER FOR CAPITAL ADEQUACY PROMPT CORRECTIVE ACTUAL PURPOSES ACTION PROVISIONS ------------------ ------------------- ------------------ AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO ------ ----- ------ ----- ------ ----- (DOLLAR AMOUNTS IN THOUSANDS) AS OF DECEMBER 31, 2006: Total capital (to risk-weighted assets): Consolidated $48,022 12.91% $=>29,768 =>8.0% N/A N/A Bank 45,270 12.37 =>29,271 =>8.0 $=>36,589 =>10.0% Tier 1 capital (to risk-weighted assets): Consolidated 43,140 11.59 =>14,884 =>4.0 N/A N/A Bank 41,503 11.34 =>14,635 =>4.0 =>21,953 => 6.0 Tier 1 capital (to average assets): Consolidated 43,140 8.44 =>20,437 =>4.0 N/A N/A Bank 41,503 8.22 =>20,189 =>4.0 =>25,236 => 5.0 AS OF DECEMBER 31, 2005: Total capital (to risk-weighted assets): Consolidated $58,876 16.10% $=>29,252 =>8.0% N/A N/A Bank 47,496 13.22 =>28,738 =>8.0 $=>35,923 =>10.0% Tier 1 capital (to risk-weighted assets): Consolidated 55,045 15.05 =>14,626 =>4.0 N/A N/A Bank 44,103 12.28 =>14,369 =>4.0 =>21,554 => 6.0 Tier 1 capital (to average assets): Consolidated 55,045 10.43 =>21,103 =>4.0 N/A N/A Bank 44,103 8.53 =>20,672 =>4.0 =>25,840 => 5.0
The Bank is subject to certain restrictions on the amount of dividends that it may declare due to regulatory considerations. The Pennsylvania Banking Code provides that cash dividends may be declared and paid only out of accumulated net earnings. F-31 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 20 - CONDENSED FINANCIAL INFORMATION OF AMERICAN BANK INCORPORATED (PARENT COMPANY ONLY) BALANCE SHEETS
DECEMBER 31, ---------------------- 2006 2005 -------- -------- (IN THOUSANDS) ASSETS Cash and equivalents $ 9 $ 3,490 Investment in common and preferred stock 8,275 7,251 Investment in other securities 201 201 Investment in bank subsidiary 41,448 42,919 Other assets 255 1,598 -------- -------- TOTAL ASSETS $ 50,188 $ 55,459 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Long-term debt $ 4,000 $ -- Corporate obligation for junior subordinated debentures 10,503 10,187 Other liabilities 1,468 927 Stockholders' equity 34,219 44,345 -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 50,188 $ 55,459 ======== ========
STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31, ---------------------- 2006 2005 -------- -------- (IN THOUSANDS) Dividends from subsidiary $ 6,200 $ -- Dividend income on common stock 50 117 Interest income on other securities 11 10 Interest expense on short-term debt (199) -- Interest expense on corporate obligation for junior subordinated debentures (611) (611) Gains on sales of investments 66 607 Operating expenses (264) (146) -------- -------- INCOME (LOSS) BEFORE INCOME TAXES 5,253 (23) Income tax (benefit) (178) (7) -------- -------- INCOME (LOSS) BEFORE EQUITY IN UNDISTRIBUTED EARNINGS OF BANK SUBSIDIARY 5,431 (16) Equity in undistributed earnings of bank subsidiary (2,600) 3,548 -------- -------- NET INCOME $ 2,831 $ 3,532 ======== ========
F-32 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 20 - CONDENSED FINANCIAL INFORMATION OF AMERICAN BANK INCORPORATED (PARENT COMPANY ONLY) (CONTINUED) STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, ---------------------- 2006 2005 -------- -------- (IN THOUSANDS) CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 2,831 $ 3,532 Adjustments to reconcile net income to net cash provided by operating activities: Net gains realized on sales of securities (66) (607) (Increase) decrease in other assets 833 (341) Option award expense 59 -- Allocation of ESOP shares 22 28 Increase (decrease) in other liabilities 239 (284) Equity in undistributed earnings of bank subsidiary 2,600 (3,548) -------- -------- NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 6,518 (1,220) -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES Securities available for sale: Purchases -- (1,233) Sales 546 4,757 -------- -------- NET CASH PROVIDED BY INVESTING ACTIVITIES 546 3,524 -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from new borrowings 4,000 -- Dividends paid (586) (796) Issuance of common stock -- 2,389 Purchase of common stock, Treasury, ESOP and SERP (13,959) (1,008) Proceeds from stock options -- 67 -------- -------- NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (10,545) 652 -------- -------- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (3,481) 2,956 CASH AND CASH EQUIVALENTS Beginning 3,490 534 -------- -------- Ending $ 9 $ 3,490 ======== ========
F-33 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - FAIR VALUE OF FINANCIAL INSTRUMENTS Management uses its best judgment in estimating the fair value of the Company's financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts that could have been realized in a sales transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective year ends, and have not been reevaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each year-end. The following information should not be interpreted as an estimate of the entire fair value of the Company since a fair value calculation is only provided for a limited portion of the Company's assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between American's disclosures and those of other companies may not be meaningful. The following methods and assumptions were used by the company in estimating its fair value disclosures for financial instruments: CASH AND DUE FROM BANKS AND INTEREST BEARING DEPOSIT WITH BANK The carrying amounts reported approximate those assets' fair value. SECURITIES Fair values of securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. LOANS RECEIVABLE For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. The fair values for other loans receivable were estimated using discounted cash flow analysis, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. ACCRUED INTEREST RECEIVABLE AND PAYABLE The carrying amount of accrued interest receivable and payable approximate their fair values. RESTRICTED INVESTMENTS IN BANK STOCK The carrying amounts approximate their fair values. DEPOSITS The fair values disclosed for demand deposits (e.g., interest-bearing and non-interest bearing checking, passbook, savings and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates of deposit to a schedule of aggregated expected monthly maturities on time deposits. F-34 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) SHORT-TERM DEBT The carrying amounts approximate their fair value. LONG-TERM DEBT The fair value of long-term debt is calculated on the discounted value of contractual cash flows, using rates currently available for borrowings from the FHLB with similar maturities. JUNIOR SUBORDINATED DEBENTURES The fair value of junior subordinated debentures is based on a quoted market price. OFF-BALANCE SHEET INSTRUMENTS Off-balance sheet instruments consist of letters of credit, loan commitments and unfunded lines of credit. Fair values for off-balance sheet instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing. Any fees charged are immaterial. A summary of the estimated fair values of the Company's financial instruments are as follows:
2006 2005 --------------------- --------------------- CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE -------- -------- -------- -------- (IN THOUSANDS) Financial assets: Cash and due from banks $ 3,047 $ 3,047 $ 3,727 $ 3,727 Interest-bearing deposit with bank 256 256 55 55 Securities 161,345 161,706 202,173 202,703 Loans receivable, net 319,969 316,707 301,394 295,883 Restricted investments in bank stock 5,067 5,067 6,452 6,452 Accrued interest receivable 2,750 2,750 2,709 2,709 Financial liabilities: Deposits 368,995 368,460 368,958 366,066 Short-term debt 27,616 27,616 12,921 12,921 Long-term debt 61,734 61,452 90,848 90,821 Junior subordinated debentures 10,503 11,086 10,187 12,285 Accrued interest payable 871 871 817 817
F-35 AMERICAN BANK INCORPORATED ================================================================================ NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 22 - QUARTERLY RESULTS The following is a summary of the unaudited quarterly results of operations:
THREE MONTHS ENDED ----------------------------------------------------- MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, 2006 2006 2006 2006 --------- --------- --------- --------- Total interest income $ 6,802 $ 6,959 $ 7,241 $ 7,160 Total interest expense 4,189 4,540 4,839 4,834 --------- --------- --------- --------- Net interest income 2,613 2,419 2,402 2,326 Provision for loan losses 128 135 61 25 --------- --------- --------- --------- Net interest income after provision for loan losses 2,485 2,284 2,341 2,301 --------- --------- --------- --------- Total noninterest income 117 219 206 213 Total noninterest expense 1,539 1,523 1,491 1,505 --------- --------- --------- --------- Income before income taxes 1,063 980 1,056 1,009 Income taxes 325 295 322 335 --------- --------- --------- --------- Net income $ 738 $ 685 $ 734 $ 674 ========= ========= ========= ========= Per share data: Net income Basic $ 0.11 $ 0.11 $ 0.12 $ 0.11 Diluted 0.10 0.11 0.12 0.10 Average shares outstanding Basic 6,839 6,054 6,014 5,983 Diluted 8,073 7,287 7,243 7,217
Quarterly earnings per share data may vary from annual earnings due to rounding F-36