-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, RZycPsuB5UfZbqhJ7N+MHJ0IvgvHhJeD8CiKx4Gqto6a5ykzKA86QEMyH1dzwrbn 6D9hsbi/brjUHjEv5CsdxA== 0000702902-03-000007.txt : 20030513 0000702902-03-000007.hdr.sgml : 20030513 20030513163110 ACCESSION NUMBER: 0000702902-03-000007 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20030331 FILED AS OF DATE: 20030513 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HARLEYSVILLE NATIONAL CORP CENTRAL INDEX KEY: 0000702902 STANDARD INDUSTRIAL CLASSIFICATION: NATIONAL COMMERCIAL BANKS [6021] IRS NUMBER: 232210237 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-15237 FILM NUMBER: 03695919 BUSINESS ADDRESS: STREET 1: 483 MAIN ST STREET 2: P O BOX 195 CITY: HARLEYSVILLE STATE: PA ZIP: 19438 BUSINESS PHONE: 2152568851 MAIL ADDRESS: STREET 1: 483 MAIN STREET CITY: HARLEYSVILLE STATE: PA ZIP: 19438 10-Q 1 doc1.txt SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2003. -------------- OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from__________________to____________________. Commission file number 0-15237 ------- HARLEYSVILLE NATIONAL CORPORATION --------------------------------- (Exact name of registrant as specified in its charter)
Pennsylvania. . . . . . . . . . . . . . . . . . . . 23-2210237 - --------------------------------------------------- ------------------- (State or other jurisdiction of . . . . . . . . . . (I.R.S. Employer incorporation or organization . . . . . . . . . . . Identification No.) 483 Main Street, Harleysville, Pennsylvania . . . . 19438 - --------------------------------------------------- ------------------- (Address of principal executive offices . . . . . . (Zip Code) Registrant's telephone number, including area code: (215) 256-8851
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes X. No. --- Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes X. No. --- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 19,022,844 shares of Common Stock, $1.00 par value, outstanding on May 12, 2003. PAGE 1
HARLEYSVILLE NATIONAL CORPORATION INDEX TO FORM 10-Q REPORT PAGE ------- Part I. Financial Information Item 1. Financial Statements: Consolidated Balance Sheets - March 31, 2003 and December 31, 2002 . . . . . . . . . . . . . . 3 Consolidated Statements of Income - Three Months Ended March 31, 2003 and 2002 . . . . . . . . 4 Consolidated Statements of Shareholders' Equity - Three Months Ended March 31, 2003 and Twelve 5 Months Ended December 31, 2002 Consolidated Statements of Cash Flows - Three Months Ended March 31, 2003 and 2002 . . . . . . 6 Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations . . . 10 Item 3. Quantitative and Qualitative Disclosures about Market Risk . . . . . . . . . . . . . . . . . 24 Item 4. Controls and Procedures. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24 Part II. Other Information Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Item 2. Change in Securities and Use of Proceeds. . . . . . . . . . . . . . . . . . . . . . . . . . 25 Item 3. Defaults Upon Senior Securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Item 4. Submission of Matters to a Vote of Security Holders. . . . . . . . . . . . . . . . . . . . . 25 Item 5. Other Information. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Item 6. Exhibits and Reports on Form 8-K. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Signatures. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28 Certifications. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29 & 30
PAGE 2 PART 1.FINANCIAL INFORMATION HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
(Dollars in thousands) (Unaudited) March 31, 2003 December 31, 2002 ---------------- ------------------- ASSETS Cash and due from banks. . . . . . . . . . . . . . . . . . . . . $ 63,857 $ 62,177 Federal funds sold . . . . . . . . . . . . . . . . . . . . . . . 21,950 33,500 Interest-bearing deposits in banks . . . . . . . . . . . . . . . 6,336 8,410 ---------------- ------------------- Total cash and cash equivalents. . . . . . . . . . . . . . . 92,143 104,087 ---------------- ------------------- Residential mortgage loans held for sale . . . . . . . . . . . . 4,844 - Investment securities available for sale . . . . . . . . . . . . 936,977 949,056 Investment securities held to maturity . . . . . . . . . . . . . 22,118 22,411 (fair value $23,947 and $23,650, respectively) Total loans and leases . . . . . . . . . . . . . . . . . . . . . 1,332,286 1,333,292 Less: Allowance for loan losses. . . . . . . . . . . . . . . . . (16,902) (17,190) ---------------- ------------------- Net loans . . . . . . . . . . . . . . . . . . . . . 1,315,384 1,316,102 ---------------- ------------------- Bank premises and equipment, net . . . . . . . . . . . . . . . . 21,634 21,645 Accrued interest receivable. . . . . . . . . . . . . . . . . . . 12,554 13,140 Net assets in foreclosure. . . . . . . . . . . . . . . . . . . . 485 390 Intangible assets, net . . . . . . . . . . . . . . . . . . . . . 1,962 1,798 Bank-owned life insurance. . . . . . . . . . . . . . . . . . . . 48,709 48,631 Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . 13,604 13,604 ---------------- ------------------- Total assets. . . . . . . . . . . . . . . . . . . . . . $ 2,470,414 $ 2,490,864 ================ =================== LIABILITIES AND SHAREHOLDERS' EQUITY Deposits: Noninterest-bearing . . . . . . . . . . . . . . . . . . . . . $ 270,759 $ 269,781 Interest-bearing: Checking accounts . . . . . . . . . . . . . . . . . . . . . 234,660 249,646 Money market accounts . . . . . . . . . . . . . . . . . . . 507,913 488,944 Savings . . . . . . . . . . . . . . . . . . . . . . . . . . 212,967 202,003 Time, under $100,000. . . . . . . . . . . . . . . . . . . . 516,994 526,885 Time, $100,000 or greater . . . . . . . . . . . . . . . . . 210,173 242,563 ---------------- ------------------- Total deposits . . . . . . . . . . . . . . . . . . . . 1,953,466 1,979,822 Accrued interest payable . . . . . . . . . . . . . . . . . . . . 19,668 21,991 U.S. Treasury demand notes . . . . . . . . . . . . . . . . . . . 1,695 2,015 Long-term borrowings . . . . . . . . . . . . . . . . . . . . . . 162,750 162,750 Securities sold under agreements to repurchase . . . . . . . . . 78,474 84,141 Guaranteed preferred beneficial interest in Corporation's subordinated debentures. . . . . . . . . . . . . . . . . . . . 5,000 5,000 Other liabilities. . . . . . . . . . . . . . . . . . . . . . . . 34,252 28,939 ---------------- ------------------- Total liabilities. . . . . . . . . . . . . . . . . . . 2,255,305 2,284,658 ---------------- ------------------- Shareholders' Equity: Series preferred stock, par value $1 per share; authorized 8,000,000 shares, none issued. . . . . . . . . - - Common stock, par value $1 per share; authorized 75,000,000 shares; issued and outstanding 19,618,253 shares in 2003 and 19,597,290 shares in 2002 . . . . . . . . . . . . . . 19,618 19,597 Additional paid in capital . . . . . . . . . . . . . . . . . 96,847 96,585 Retained earnings. . . . . . . . . . . . . . . . . . . . . . 99,531 94,677 Treasury stock, at cost: 608,707 shares in 2003 and 569,107 shares in 2002. . . . . . . . . . . . . . . . (12,581) (11,590) Accumulated other comprehensive income . . . . . . . . . . . 11,694 6,937 ---------------- ------------------- Total shareholders' equity . . . . . . . . . . . . . . 215,109 206,206 ---------------- ------------------- Total liabilities and shareholders' equity . . . . . . $ 2,470,414 $ 2,490,864 ================ =================== See accompanying notes to consolidated financial statements.
PAGE 3 HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) (Dollars in thousands except weighted average number of common shares and per share information)
Three months ended March 31, 2003 2002 ----------- ----------- INTEREST INCOME: Loans, including fees . . . . . . . . . . . . . . . . . . $ 19,722 $ 21,324 Lease financing . . . . . . . . . . . . . . . . . . . . . 1,849 2,182 Investment securities: Taxable. . . . . . . . . . . . . . . . . . . . . . . . 5,081 7,461 Exempt from federal taxes. . . . . . . . . . . . . . . 3,861 2,635 Federal funds sold. . . . . . . . . . . . . . . . . . . . 45 39 Deposits in banks . . . . . . . . . . . . . . . . . . . . 27 48 ----------- ----------- Total interest income . . . . . . . . . . . . . . . 30,585 33,689 ----------- ----------- INTEREST EXPENSE: Savings deposits. . . . . . . . . . . . . . . . . . . . . 2,594 2,889 Time, under $100,000. . . . . . . . . . . . . . . . . . . 5,092 5,998 Time, $100,000 or greater . . . . . . . . . . . . . . . . 1,405 2,054 Borrowed funds. . . . . . . . . . . . . . . . . . . . . . 2,295 2,140 ----------- ----------- Total interest expense. . . . . . . . . . . . . . . 11,386 13,081 ----------- ----------- Net interest income . . . . . . . . . . . . . . . . 19,199 20,608 Provision for loan losses . . . . . . . . . . . . . . . . 609 1,351 ----------- ----------- Net interest income after provision for loan losses 18,590 19,257 ----------- ----------- OTHER OPERATING INCOME: Service charges . . . . . . . . . . . . . . . . . . . . . 1,830 1,521 Security gains, net . . . . . . . . . . . . . . . . . . . 1,316 1,231 Trust and investment services income . . . . . . . . . . . 888 883 Bank-owned life insurance income. . . . . . . . . . . . . 631 638 Income on life insurance. . . . . . . . . . . . . . . . . 1,119 - Other Income. . . . . . . . . . . . . . . . . . . . . . . 1,427 1,250 ----------- ----------- Total other operating income. . . . . . . . . . . . 7,211 5,523 ----------- ----------- Net interest income after provision for loan losses and other operating income . . . . . . . . . . . 25,801 24,780 ----------- ----------- OTHER OPERATING EXPENSES: Salaries, wages and employee benefits . . . . . . . . . . 7,841 7,685 Occupancy . . . . . . . . . . . . . . . . . . . . . . . . 1,023 1,237 Furniture and equipment . . . . . . . . . . . . . . . . . 1,305 1,288 Other expenses. . . . . . . . . . . . . . . . . . . . . . 5,344 4,269 ----------- ----------- Total other operating expenses. . . . . . . . . . . 15,513 14,479 ----------- ----------- Income before income tax expense. . . . . . . . . . 10,288 10,301 Income tax expense. . . . . . . . . . . . . . . . . . . . 1,823 2,488 ----------- ----------- Net income. . . . . . . . . . . . . . . . . . . . . . . . $ 8,465 $ 7,813 =========== =========== Weighted average number of common shares: Diluted . . . . . . . . . . . . . . . . . . . . . 19,575,609 19,690,686 =========== =========== Basic . . . . . . . . . . . . . . . . . . . . . . 19,016,312 19,180,591 =========== =========== Net income per share information: Diluted . . . . . . . . . . . . . . . . . . . . . $ 0.43 $ 0.40 =========== =========== Basic . . . . . . . . . . . . . . . . . . . . . . $ 0.45 $ 0.41 =========== =========== Cash dividends per share. . . . . . . . . . . . . . . . . $ 0.190 $ 0.162 =========== =========== * Adjusted for 5% stock dividend effective 9/16/02. See accompanying notes to consolidated financial statements.
PAGE 4 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES (Unaudited) (Dollars and share information in thousands) THREE MONTHS ENDED MARCH 31, 2003
Accumulated Common Stock Other ------------- Number of Par Additional Retained Comprehensive Treasury Shares Value Paid in Capital Earnings Income Stock ------------- ------- ---------------- ---------- -------------- ---------- Balance, January 1, 2003 . . . . 19,597 $19,597 $ 96,585 $ 94,677 $ 6,937 $ (11,590) Stock options. . . . . . . . . . 21 21 262 - - - Net income . . . . . . . . . . . - - - 8,465 - - Other comprehensive income, net of reclassifications and tax - - - - 4,757 - Purchases of Treasury stock. . . - - - - - (991) Cash dividends . . . . . . . . . - - - (3,611) - - ------------- ------- ---------------- ---------- -------------- ---------- Balance, March 31, 2003. . . . . 19,618 $19,618 $ 96,847 $ 99,531 $ 11,694 $ (12,581) ============= ======= ================ ========== ============== ========== Comprehensive Total Income --------------- ------- Balance, January 1, 2003 . . . . $ 206,206 Stock options. . . . . . . . . . 283 Net income . . . . . . . . . . . 8,465 $ 8,465 Other comprehensive income, net of reclassifications and tax 4,757 4,757 Purchases of Treasury stock. . . (991) Cash dividends . . . . . . . . . (3,611) --------------- Comprehensive income $13,222 ======= Balance, March 31, 2003. . . . . $ 215,109 ===============
FOR THE YEAR ENDED DECEMBER 31, 2002
Accumulated Common Stock Other ------------- Number of Par Additional Retained Comprehensive Treasury Shares Value Paid in Capital Earnings Income Stock ------------- ------- ---------------- ---------- -------------- ---------- Balance, January 1, 2002 . . . . 18,571 $18,571 $ 71,419 $ 100,171 $ 4,534 $ (5,346) Stock options. . . . . . . . . . 94 94 1,166 - - - Stock dividends. . . . . . . . . 932 932 23,994 (24,942) - - Stock awards . . . . . . . . . . - - 6 - - - Net income . . . . . . . . . . . - - - 32,927 - - Other comprehensive income, net of reclassifications and tax - - - - 2,403 - Purchases of Treasury stock. . . - - - - - (6,244) Cash dividends . . . . . . . . . - - - (13,479) - - ------------- ------- ---------------- ---------- -------------- ---------- Balance, December 31, 2002 . . . 19,597 $19,597 $ 96,585 $ 94,677 $ 6,937 $ (11,590) ============= ======= ================ ========== ============== ========== Comprehensive Total Income --------------- ------- Balance, January 1, 2002 . . . . $ 189,349 Stock options. . . . . . . . . . 1,260 Stock dividends. . . . . . . . . (16) Stock awards . . . . . . . . . . 6 Net income . . . . . . . . . . . 32,927 $32,927 Other comprehensive income, net of reclassifications and tax 2,403 2,403 Purchases of Treasury stock. . . (6,244) Cash dividends . . . . . . . . . (13,479) --------------- Comprehensive income $35,330 ======= Balance, December 31, 2002 . . . $ 206,206 =============== See accompanying notes to consolidated financial statements.
PAGE 5 HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited) (Dollars in thousands) . . . . . . . . . . . . . . . . . . . . . . . . . . Three Months Ended March 31, OPERATING ACTIVITIES:. . . . . . . . . . . . . . . . . . . . . . . . . . . 2003 2002 ---------- ---------- Net Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 8,465 $ 7,813 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses. . . . . . . . . . . . . . . . . . . . . . . 609 1,351 Depreciation and amortization. . . . . . . . . . . . . . . . . . . . . 678 587 Net amortization of investment securities discount/premiums . . . . . . . . . . . . . . . . . . . . 2,685 690 Deferred income taxes. . . . . . . . . . . . . . . . . . . . . . . . . (2,012) (726) Net realized security gains. . . . . . . . . . . . . . . . . . . . . . (1,316) (1,231) Decrease (increase) in accrued income receivable . . . . . . . . . . . 586 (632) Net decrease in accrued interest payable . . . . . . . . . . . . . . . (2,323) (1,592) Net increase in intangible assets. . . . . . . . . . . . . . . . . . . (164) (328) Net Increase in other assets . . . . . . . . . . . . . . . . . . . . . - (588) Net increase in other liabilities. . . . . . . . . . . . . . . . . . . 4,621 4,279 Decrease in deferred cost, net . . . . . . . . . . . . . . . . . . . . 409 384 Write-down of other real estate owned. . . . . . . . . . . . . . . . . - 6 Net cash provided by operating activities . . . . . . . . . . . . . $ 12,238 $ 10,013 ------------ ---------- INVESTING ACTIVITIES: Proceeds from sales of investment securities available for sale. . . . . $ 399,526 $ 117,295 Proceeds, maturity or calls of investment securities held to maturity. . 301 1,295 Proceeds, maturity or calls of investment securities available for sale. 189,276 64,481 Purchases of investment securities available for sale. . . . . . . . . . (570,638) (153,767) Net increase in loans. . . . . . . . . . . . . . . . . . . . . . . . . . (5,558) (13,827) Net increase in premises and equipment . . . . . . . . . . . . . . . . . (667) (212) Net increase in bank-owned life insurance. . . . . . . . . . . . . . . . (78) (638) Proceeds from sales of other real estate . . . . . . . . . . . . . . . . 318 342 ------------- ---------- Net cash provided by investing activities . . . . . . . . . . . . . $ 12,480 $ 14,969 ------------- ---------- FINANCING ACTIVITIES: Net decrease in deposits . . . . . . . . . . . . . . . . . . . . . . . . $ (26,356) $ (39,431) Net decrease in U.S. Treasury demand notes . . . . . . . . . . . . . . . (320) (940) Increase in FHLB borrowings. . . . . . . . . . . . . . . . . . . . . . . - 15,000 Net decrease in securities sold under agreement. . . . . . . . . . . . . (5,667) (10,051) Cash dividends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,611) (3,107) Repurchase of common stock . . . . . . . . . . . . . . . . . . . . . . . (991) (1,814) Stock options. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 283 519 Other. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - 0 ------------- ---------- Net cash used by financing activities. . . . . . . . . . . . . . . . . $ (36,662) $ (39,824) ------------- ---------- Net decrease in cash and cash equivalents. . . . . . . . . . . . . . . . . $ (11,944) $ (14,842) Cash and cash equivalents at beginning of period . . . . . . . . . . . . . 104,087 82,624 ------------ ---------- Cash and cash equivalents at end of the period . . . . . . . . . . . . . . $ 92,143 $ 67,782 ============== ========== Cash paid during the period for: Interest. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 13,709 $ 14,673 ============== ========== Income taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ - $ 750 ============= ========== Supplemental disclosure of noncash investing and financing activities: Transfer of assets from loans to other real estate owned. . . . . . $ 413 $ 198 ============== ========== See accompanying notes to consolidated financial statements.
PAGE 6 HARLEYSVILLE NATIONAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments, consisting only of normal recurring adjustments, necessary to present fairly the consolidated financial position of Harleysville National Corporation (the "Corporation") and its wholly owned subsidiaries - Harleysville National Bank and Trust Company ("Harleysville"), Citizens National Bank ("Citizens"), Security National Bank ("Security") (collectively, the "Banks"), HNC Financial Company and HNC Reinsurance Company - as of March 31, 2003, the results of its operations for the three month periods ended March 31, 2003 and 2002 and the cash flows for the three month periods ended March 31, 2003 and 2002. This quarterly report refers to the corporation's subsidiary banks, collectively as "the banks." We recommend that you read these unaudited consolidated financial statements in conjunction with the audited consolidated financial statements of the Corporation and the notes thereto in the corporation's 2002 Annual Report on Form 10-K. The results of operations for the three-month periods ended March 31, 2003 and 2002 are not necessarily indicative of the results to be expected for the full year. NOTE 2 - Income tax expense is less than the amount calculated using the statutory tax rate, primarily as a result of the Corporation's tax exempt income earned from state and municipal securities and loans. NOTE 3 - The Corporation has adopted SFAS No. 130, "Reporting Comprehensive Income," which establishes standards to provide prominent disclosure of comprehensive income items. Comprehensive income is the change in equity of a business enterprise, during a period, from transactions and other events and circumstances from non-owner sources. Other comprehensive income consists of net unrealized gains (losses) on investment securities available for sale. The adoption of SFAS No. 130 did not have a material impact on the Corporation's financial position or results of operation. The components of other comprehensive income are as follows:
Comprehensive Income - -------------------- (Dollars in thousands) BEFORE TAX TAX NET OF TAX March 31, 2003 AMOUNT EXPENSE AMOUNT - --------------------------------- ------------- ------------ ------------ Unrealized gains on securities: Unrealized holding gains arising during period. . . . . . $ 8,635 $ (3,022) $ 5,613 Less reclassification for adjustment for gains realized in net income . . . . . 1,316 (460) 856 ------------- ------------ ------------ Other comprehensive income, net . $ 7,319 $ (2,562) $ 4,757 ============= ============ ============ BEFORE TAX TAX BENEFIT NET OF TAX March 31, 2002 AMOUNT (EXPENSE) AMOUNT - --------------------------------- ------------- ------------ ------------ Unrealized losses on securities: Unrealized holding losses arising during period. . . . . . $ (4,755) $ 1,664 $ (3,091) Less reclassification for adjustment for gains realized in net income . . . . . 1,231 (431) 800 ------------- ------------ ------------ Other comprehensive income, net . $ (5,986) $ 2,095 $ (3,891) ============= ============ ============
PAGE 7 NOTE 4 - The Corporation adopted SFAS No. 123, "Accounting for Stock-Based Compensation," which contains a fair value-based method for valuing stock-based compensation that entities may use, which measures compensation cost at the grant date based on the fair value of the award. Compensation is then recognized over the service period, which is usually the vesting period. The Corporation has chosen an alternative permitted by the standard to continue accounting for employee stock options and similar instruments under Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees." Entities that continue to account for stock options using APB Opinion 25 are required to make pro forma disclosures of net income and earnings per share, as if the fair value-based method of accounting defined in SFAS No. 123 has been applied. The Corporation has four shareholder approved fixed stock option plans that allow the Corporation to grant options up to an aggregate of 1,783,745 shares of common stock to key employees and directors. At March 31, 2003, 1,519,689 stock options had been granted under the stock option plans. The options have a term of ten years when issued and are completely vested over a five-year period. The exercise price of each option equals the market price of the Corporation's stock on the date of grant. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants at March 31, 2003 and March 31, 2002, respectively: dividend yield of 2.79% and 2.93%; expected volatility of 1.78% and 1.69%; risk-free interest rate of 3.34% and 4.57%; and an expected life of 7.45 years and 7.32 years. The Corporation has adopted and is providing interim period disclosures per SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure." The following table illustrates the effect on net income and earnings per share if the Corporation had applied the fair value recognition provisions of SFAS No. 123, to stock-based employee compensation (in thousands, except per share amounts).
Three Months Ended March 31, 2003 March 31, 2002 ------------------- --------------- Net Income As reported . . . . . . . . . . . . . . . . . . $ 8,465 $ 7,813 Less: Stock-based compensation cost determined under fair value method for all awards . . . . . 150 338 ------------------- --------------- Proforma. . . . . . . . . . . . . . . . . . . . $ 8,315 $ 7,475 =================== =============== Earnings per share (Diluted) As reported. . . . . . . . . . . . . . . . . . . $ 0.43 $ 0.40 Proforma . . . . . . . . . . . . . . . . . . . . $ 0.42 $ 0.38 Earnings per share (Basic) As reported. . . . . . . . . . . . . . . . . . . $ 0.45 $ 0.41 Proforma . . . . . . . . . . . . . . . . . . . . $ 0.44 $ 0.39
NOTE 5 - The Corporation adopted FIN 45 Guarantor's Accounting and Disclosure Requirements for Guarantees, including Indirect Guarantees of Indebtedness of Others on January 1, 2003. FIN 45 requires a guarantor entity, at the inception of a guarantee covered by the measurement provisions of the interpretation, to record a liability for the fair value of the obligation undertaken in issuing the guarantee. The Corporation has performance letters of credit. Performance letters of credit require the Corporation to make payments if the customer fails to perform certain non-financial contractual obligations. The Corporation previously did not record a liability when guaranteeing obligations unless it became probable that the Corporation would have to perform under the guarantee. FIN 45 applies prospectively to guarantees the Corporation PAGE 8 issues or modifies subsequent to December 31, 2002. The maximum potential undiscounted amount of future payments of these letters of credit as of March 31, 2003 are $10,593,000 and they expire through December 2006. Amounts due under these letters of credit would be reduced by any proceeds that the Corporation would be able to obtain in liquidating the collateral for the loans, which varies depending on the customer. NOTE 6 - In January 2003, the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, Consolidation of Variable Interest Entities ("FIN 46"). FIN 46 requires a variable interest entity to be consolidated by a company, if that company is subject to a majority of the risk of loss from the variable interest entity's activities or is entitled to receive a majority of the entity's residual returns, or both. FIN 46 also requires disclosures about variable interest entities that a company is not required to consolidate, but in which it has a significant variable interest. The consolidation requirements of FIN 46 apply immediately to variable interest entities created after January 31, 2003. The consolidation requirements apply to existing entities in the first fiscal year or interim period beginning after June 15, 2003. Certain of the disclosure requirements apply in all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. The Corporation is currently evaluating the impact that FIN 46 will have on its consolidated financial position and results of operations. NOTE 7 - On September 16, 2002, the Corporation paid a 5% stock dividend on its common stock to shareholders of record as of September 3, 2002. All prior period amounts were restated to reflect these stock dividends. NOTE 8 - Certain prior period numbers have been changed to conform with current year presentation. PAGE 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION RESULTS OF OPERATIONS - ----------------------- The following is management's discussion and analysis of the significant changes in the results of operations, capital resources and liquidity presented in its accompanying consolidated financial statements for the Corporation, the Banks, HNC Financial Company and HNC Reinsurance Company. The Corporation's consolidated financial condition and results of operations consist almost entirely of the Banks' financial condition and results of operations. Current performance does not guarantee, and may not be indicative of similar performance in the future. These are unaudited financial statements and, as such, are subject to year-end audit review. In addition to historical information, this Form 10-Q contains forward-looking statements. We have made forward-looking statements in this document, and in documents that we incorporate by reference, that are subject to risks and uncertainties. Forward-looking statements include the information concerning possible or assumed future results of operations of the Corporation and its subsidiaries. When we use words such as "believes," "expects," "anticipates," or similar expressions, we are making forward-looking statements. Shareholders should note that many factors, some of which are discussed elsewhere in this document and in the documents that we incorporate by reference, could affect the future financial results of the Corporation and its subsidiaries and could cause those results to differ materially from those expressed in our forward-looking statements contained or incorporated by reference in this document. These factors include the following: * Operating, legal and regulatory risks; * Economic, political and competitive forces affecting our banking, securities, asset management and credit services businesses; and * The risk that our analyses of these risks and forces could be incorrect and/or that the strategies developed to address them could be unsuccessful. OVERVIEW - -------- The Corporation recorded an 8.3% increase in first quarter 2003 earnings, compared to the first quarter of 2002. The improved first quarter earnings were the result of higher other income partially offset by lower net interest income and higher other operating expenses. Loan quality also improved during the first quarter of 2003, compared to both the fourth and first quarters of 2002. First quarter 2003 diluted earnings per share of $.43 increased 7.5% over the first quarter 2002 diluted earnings per share of $.40. First quarter basic earnings per share in 2003 of $.45 exceed the first quarter 2002 basic earnings per share of $.41 by 9.8%. The Corporation's consolidated total assets were $2,470,414,000 at March 31, 2003, 13.7% above the March 31, 2002 level of $2,172,935,000. For the three months ended March 31, 2003, the annualized return on average shareholders' equity and the annualized return on average assets were 16.18% and 1.38%, respectively. For the same period in 2002, the annualized return on average shareholder's equity was 16.24% and the annualized return on average assets was 1.43%. Excluding accumulated other comprehensive income, the annualized return on average realized shareholders' equity for the first three months of 2003 and 2002 were 16.78% and 16.62%, respectively. PAGE 10 The Corporation experienced an improvement in loan quality during the first quarter of 2003. Nonperforming loans (nonaccruing loans and loans past due 90 days or more and still accruing interest) were .44% of total loans at March 31, 2003, compared to .47% at December 31, 2002 and .45% at March 31, 2002. Net income is affected by five major elements: net interest income, or the difference between interest income earned on loans and investments and interest expense paid on deposits and borrowed funds; the provision for loan losses, or the amount added to the allowance for loan losses to provide reserves for inherent losses on loans; other operating income, which is made up primarily of certain fees, trust income and gains and losses from sales of securities; other operating expenses, which consist primarily of salaries, employee benefits and other operating expenses; and income taxes. Each of these major elements will be reviewed in more detail in the following discussion. NET INTEREST INCOME AND RELATED ASSETS AND LIABILITIES ------------------------------------------------------------- Net interest income for the first three months of 2003 of $19,199,000 was $1,409,000 or 6.8% lower than the same period in 2002 net interest income of $20,608,000. As illustrated in the table below, this decrease in net interest income was primarily the result of the lower net interest margin, partially offset by higher earning asset volumes. Interest income was lower in 2003 compared to 2002 as a result of the impact of lower interest rates and the impact of the investment portfolio growth outpacing the increase in the loan portfolio during this period. The lower interest income was partially offset by the decrease in interest expense related to the reduction in deposit and other borrowing rates. The rate-volume variance analysis in the table below, which is computed on a tax-equivalent basis (tax rate of 35%), analyzes changes in net interest income for the three months ended March 31, 2003 over March 31, 2002 by their rate and volume components.
Three Months Ended March 31, 2003 Over/Under March 31, 2002 (In thousands) . . . . . . . . . . . . . . Total Caused by: ------------ Variance Rate Volume -------------------- ------------ ------- Interest Income: Securities * . . . . . . . . . . . . . . . $ (518) $ (3,275) $ 2,757 Money market instruments . . . . . . . . . (15) (43) 28 Loans *. . . . . . . . . . . . . . . . . . (1,917) (2,141) 224 -------------------- ------------ ------- Total . . . . . . . . . . . . . . . . . . (2,450) (5,459) 3,009 -------------------- ------------ ------- Interest Expense: Savings deposits . . . . . . . . . . . . . (295) (783) 488 Time deposits and certificates of deposit. (1,555) (1,948) 393 Other borrowings . . . . . . . . . . . . . 155 (62) 217 -------------------- ------------ ------- Total. . . . . . . . . . . . . . . . . . . (1,695) (2,793) 1,098 -------------------- ------------ ------- Net Interest Income. . . . . . . . . . . . $ (755) $ (2,666) $ 1,911 ==================== ============ ======= *Tax Equivalent Basis
PAGE 11 BALANCE SHEET ANALYSIS The table below presents the major asset and liability categories on an average daily basis for the periods presented, along with interest income and expense, and key rates and yields.
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY, INTEREST RATES AND INTEREST DIFFERENTIAL: (Dollars in thousands) Three Months Ended March 31, 2003 Three Months Ended March 31, 2002 --------------------------------- --------------------------------- Average Average Average Average ASSETS . . . . . . . . . . . . . . . . . . . Balance Rate Interest Balance Rate Interest ----------- -------- --------- ---------- ----- --------- Investment securities: Taxable investments. . . . . . . . . . . . . $ 642,481 3.60% $ 5,776 $ 516,715 5.78% $ 7,461 Nontaxable investments (1) . . . . . . . . . 327,855 6.20 5,081 207,187 7.56 3,914 ----------- -------- --------- ---------- ----- --------- Total investment securities. . . . . . . . . 970,336 4.48 10,857 723,902 6.29 11,375 Loans (1) (2). . . . . . . . . . . . . . . . 1,329,093 6.57 21,840 1,315,458 7.22 23,757 Other rate-sensitive assets. . . . . . . . . 22,183 1.30 72 13,578 2.56 87 ----------- -------- --------- ---------- ----- --------- Total earning assets. . . . . . . . . . . . 2,321,612 5.65 32,769 2,052,938 6.86 35,219 Noninterest-earning assets . . . . . . . . . 128,785 - - 125,521 - - ----------- -------- --------- ---------- ----- --------- Total assets . . . . . . . . . . . . . . . . $2,450,397 5.35% $ 32,769 $2,178,459 6.47% $ 35,219 =========== ======== ========= ========== ===== ========= LIABILITIES AND SHAREHOLDERS' EQUITY Deposits: Demand. . . . . . . . . . . . . . . . . . . $ 242,793 - % $ - $ 227,123 - % $ - Savings . . . . . . . . . . . . . . . . . . 941,342 1.10 2,594 764,366 1.51 2,889 Time. . . . . . . . . . . . . . . . . . . . 754,631 3.44 6,497 709,027 4.54 8,052 ----------- -------- --------- ---------- ----- --------- Total . . . . . . . . . . . . . . . . . . . 1,938,766 1.88 9,091 1,700,516 2.57 10,941 Borrowings and other interest-bearing liabilities. . . . . . . . 252,411 3.64 2,295 228,578 3.74 2,140 Other liabilities. . . . . . . . . . . . . . 49,979 - - 56,958 - - ----------- -------- --------- ---------- ----- --------- Total liabilities. . . . . . . . . . . . . . 2,241,156 2.03 11,386 1,986,052 2.63 13,081 Shareholders' equity . . . . . . . . . . . . 209,241 - - 192,407 - - ----------- -------- --------- ---------- ----- --------- Total liabilities and shareholders' equity. $2,450,397 1.86% $ 11,386 $2,178,459 2.40% $ 13,081 =========== ======== ========= ========== ===== ========= Average effective rate on interest-bearing liabilities. . . . . . . . $1,948,384 2.34% $ 11,386 $1,701,971 3.07% $ 13,081 =========== ======== ========= ========== ===== ========= Interest Income/Earning Assets . . . . . . . $2,321,612 5.65% $ 32,769 $2,052,938 6.86% $ 35,219 Interest Expense/Earning Assets. . . . . . . $2,321,612 1.96 $ 11,386 $2,052,938 2.55 $ 13,081 -------- ----- Effective Interest Differential. . . . . . . 3.68% 4.31% =========== ========
(1) The interest earned on nontaxable investment securities and loans is shown on a tax equivalent basis. (2) Nonaccrual loans have been included in the appropriate average loan balance category, but interest on nonaccrual loans has not been included for purposes of determining interest income. PAGE 12 Taxable-equivalent net interest income was $21,383,000 for the first three months of 2003, compared to $22,138,000 for the same period in 2002, a 3.4% or $755,000 decrease. The reduction in the taxable-equivalent net interest income was the result of the lower interest rate environment experienced during this time period and the higher growth in the investment portfolio, compared to loans. During the first quarter of 2003, the average investment portfolio represented 41.8% of total earning assets compared to 35.3% during the first quarter of 2002. Average total loans grew $13,635,000 compared to a $246,434,000 rise in average investments in the first quarter of 2003, compared to the first quarter of 2002. The low growth in loans was primarily the result of the decline in both the indirect vehicle and vehicle leasing portfolios. The reduction in these portfolios was primarily related to the financing incentives offered by the vehicle manufacturers and the overall increased competition in this market segment. Net of these two products, average loans grew 8.4%. This decrease in taxable-equivalent net interest income was primarily due to a $2,450,000 reduction in interest income, which was partially offset by a decrease in interest expense of $1,695,000. The taxable-equivalent interest income decrease was the result of lower earning asset yields, in part offset by the higher volumes of earnings assets. Average year-to-date earning assets grew $268,674,000, or 13.1% at March 31, 2003, compared to the same period in 2002. The yield earned on earning assets decreased 121 basis points from 6.86% in the first three months of 2002 to 5.65% during the same period in 2003. The $1,695,000 reduction in interest expense is the result of a $2,793,000 decrease related to lower rates, partially offset by an increase of $1,098,000 associated with the higher deposit and other borrowing volumes. The average rate paid on interest bearing deposits and other borrowings of 2.34% during the first three months of 2003 was 73 basis points lower than the 3.07% rate paid during the same period in 2002. The average balance of interest bearing deposits and other borrowings grew $246,413,000 or 14.5% in the first three months of 2003, compared to the first three months of 2002. The average year-to-date growth in time deposits and other borrowings were $45,604,000 and $23,833,000, respectively. The lower rate savings deposits, which include interest bearing checking accounts, savings accounts and money market accounts, were $176,976,000 or 23.2% higher in the first three months of 2003, compared to the same period in 2002. Other borrowings include federal funds purchased, FHLB borrowings, securities sold under agreements to repurchase, U. S. Treasury demand notes and junior subordinate deferrable interest debentures. NET INTEREST MARGIN - --------------------- The net interest margin for the three-month periods ending March 31, 2003 and March 31, 2002 were 3.68% and 4.31%, respectively. During the first three months of 2003, the yield on earning assets dropped 121 basis points, compared to a 73 basis point drop in the rate paid on interest-bearing deposits and other borrowings. The yield on earning assets of 5.65% earned during the first three months of 2003 was lower than the 6.86% earned during the first three months of 2002. The rate paid on deposits was 2.34% during the first three months of 2003, compared to 3.07% during the same period in 2002. The decrease in the yield earned and rate paid are due to the lower interest rate environment experienced during the first three months of 2003, compared to the same period in 2002. The reduction in the yield earned on earning assets was also impacted by the lower yield earned on mortgage backed securities and the slower pace of growth in the overall loan portfolio. The lower yield earned on mortgage backed securities was related to the acceleration of the residential mortgage refinancing INTEREST RATE SENSITIVITY ANALYSIS - ------------------------------------- The Corporation actively manages its interest rate sensitivity positions. The objectives of interest rate risk management are to control exposure of net interest income to risks associated with interest rate movements and to achieve consistent growth in net interest income. The Asset/Liability Committee, using policies and procedures approved by the Corporation's Board of Directors, is responsible for managing the rate sensitivity position. The Corporation manages interest rate sensitivity by changing the mix and repricing characteristics of its assets and liabilities through the management of its investment securities portfolios, its offering of loan and deposit terms and through borrowings from the FHLB. The nature of the Corporation's current operations is such that it is not subject to foreign currency exchange or commodity price risk. PAGE 13 The Corporation only utilizes derivative instruments for asset/liability management, specifically, to convert a variable rate debt to a fixed rate. These transactions involve both credit and market risk. The notional amounts are amounts on which calculations and payments are based. The notional amounts do not represent direct credit exposures. Direct credit exposure is limited to the net difference between the calculated amounts to be received and paid, if any. Interest rate swaps are contracts in which a series of interest-rate flows (fixed and floating) are exchanged over a prescribed period. The notional amounts on which the interest payments are based are not exchanged. The Corporation entered into two interest-rate swaps with a notional value totaling $20.0 million and a negative fair value of $143,000 during the first quarter of 2003. The purpose of these transactions is to fix the rate on variable rate money market accounts in an effort to reduce interest rate risk within a rising rate environment. At March 31, 2003, the Corporation was paying a fixed rate of 2.88% and was receiving a variable rate of 1.14% based upon the three month United States Treasury Bill. The Corporation uses three principal reports to measure interest rate risk: asset/liability simulation reports; gap analysis reports; and net interest margin reports. Management also simulates possible economic conditions and interest rate scenarios in order to quantify the impact on net interest income. The effect that changing interest rates have on the Corporation's net interest income is simulated by increasing and decreasing interest rates. This simulation is known as rate shocks. The report below forecasts changes in the Corporation's market value of equity under alternative interest rate environments. The market value of equity is defined as the net present value of the Corporation's existing assets and liabilities. The results of the March 31, 2003 rate shock simulations show that the Corporation is within all guidelines set by the Corporation's Asset/Liability Policy.
CHANGE IN ASSET/LIABILITY MARKET VALUE MARKET VALUE PERCENTAGE APPROVED OF EQUITY OF EQUITY CHANGE PERCENT CHANGE ------------ ---------------- ----------- --------------- +300 Basis Points 314,533 24,092 8.29% +/- 45% +200 Basis Points 322,415 31,974 11.01% +/- 30% +100 Basis Points 312,786 22,345 7.69% +/- 15% Flat Rate . . . . 290,441 - 0.00% - -100 Basis Points 250,140 (40,301) -13.88% +/- 15% - -200 Basis Points 229,709 (60,732) -20.91% +/- 30% - -300 Basis Points 201,717 (88,724) -30.55% +/- 45%
In the event the Corporation should experience a mismatch in its desired gap ranges or an excessive decline in their market value of equity resulting from changes in interest rates, it has a number of options that it could use to remedy such a mismatch. The Corporation could restructure its investment portfolios through sale or purchase of securities with more favorable repricing attributes. It could also emphasize growth in loan products with appropriate maturities or repricing attributes, or attract deposits or obtain borrowings with desired maturities. PROVISION FOR LOAN LOSSES - ---------------------------- The Banks use the reserve method of accounting for credit losses. The balance in the allowance for loan and lease losses is determined based on management's review and evaluation of the loan portfolio in relation to past loss experience, the size and composition of the portfolio, current economic events and conditions, and other pertinent factors, including management's assumptions as to future delinquencies, recoveries and losses. Increases to the allowance for loan and lease losses are made by charges to the provision for loan losses. Credit exposures deemed to be uncollectible are charged against the allowance for loan losses. Recoveries of previously charged-off amounts are credited to the allowance for loan losses. While management considers the allowance for loan losses to be adequate based on information currently available, future additions to the allowance may be necessary due to changes in economic conditions or management's assumptions as to future delinquencies, recoveries and losses and management's intent with regard to the disposition of loans. In addition, the OCC, as an integral part of PAGE 14 their examination process, periodically reviews the Banks' allowance for loan losses. The OCC may require the Banks to recognize additions to the allowance for loan losses based on their judgments about information available to them at the time of their examination. The Banks' allowance for loan and lease losses is the accumulation of various components that are calculated based on various independent methodologies. All components of the allowance for loan losses are an estimation. Management bases its recognition and estimation of each allowance component on certain observable data that it believes is the most reflective of the underlying loan losses being estimated. The observable data and accompanying analysis is directionally consistent, based upon trends, with the resulting component amount for the allowance for loan losses. The Banks allowance for loan losses components include the following: historical loss estimation by loan product type and by risk rating within each product type, payment (past due) status, industry concentrations, internal and external variables such as economic conditions, credit policy and underwriting changes, competence of the loan review process and other historical loss model imprecision. The Banks historical loss component is the most significant component of the allowance for loan losses, and all other allowance components are based on the inherent loss attributes that management believes exist within the total portfolio that are not captured in the historical loss component. The historical loss components of the allowance represent the results of analyses of historical charge-offs and recoveries within pools of homogeneous loans, within each risk rating and broken down further by segment, within the portfolio. Criticized assets are further assessed based on trends, expressed as percentages, relative to delinquency, risk rating and non-accrual, by segment. The historical loss components of the allowance for commercial loans is based principally on current risk ratings, historical loss rates adjusted, by adjusting the risk window, to reflect current events and conditions, as well as analyses of other factors that may have affected the collectibility of loans. The Banks analyze all commercial loans that have been identified as having potential risk. The review is accomplished via Watchlist Memorandum, and designed to determine whether such loans are individually impaired, with impairment measured by reference to the collateral coverage and/or debt service coverage. The historical loss component of the allowance for consumer loans is based principally on loan payment status, retail classification and historical loss rates adjusted, by adjusting the risk window, to reflect current events and conditions. The industry concentration component is recognized as a possible factor in the estimation of loan losses. Two industries represent possible concentrations: commercial real estate and automobile dealers. No specific loss-related observable data is recognized by management currently, therefore no specific factor is calculated in the reserve solely for the impact of these concentrations, although management continues to carefully consider relevant data for possible future sources of observable data. The historic loss model includes an imprecision component (soft factors and unallocated portion) that reflects management's belief that there were additional inherent credit losses based on loss attributes not adequately captured in the lagging indicators. Furthermore, given that past-performance indicators may not adequately capture current risk levels, allowing for a real-time adjustment enhances the validity of the loss recognition process. There are many credit risk management reports that are synthesized by credit management staff to assess the direction of credit risk and its instant affect on losses. These reports include the exception tracking reports, the credit bureau score distribution report, the debt to income summary, etc. These are a few of the many reports that drive the judgmental component. It is important to continue to use experiential data to confirm risk as measurable losses will continue to manifest themselves at higher than normal levels even after the economic cycle has begun an upward swing and lagging indicators begin to show improvement. For the first three months of 2003 the provision for loan losses was $609,000, compared to $1,351,000 for the same period in 2002. This reduction in the provision for loan losses is reflective of the improvement in the quality of the loan portfolio. The ratio of the allowance for loan losses to nonperforming loans and leases for March 31, 2003 of 286.6% was higher than the December 31, 2002, and the March 31, 2002, ratios of 272.8% and 268.5%, respectively. Net loans charged off was $897,000 for the three months ended March 31, 2003, PAGE 15 compared to $784,000 for the three months ended March 31, 2002. The increase in net charged off loans is attributed to the increase in commercial loans charged off in the first quarter of 2003, compared to the same period in 2002.
ALLOWANCE FOR LOAN LOSSES A summary of the allowance for loan losses is as follows: (Dollars in thousands) MARCH 31, ----------- 2003 2002 ----------- ----------- Average loans. . . . . . . . . . . . $1,329,093 $1,315,458 ----------- ----------- Allowance, beginning of period . . . $ 17,190 $ 15,558 ----------- ----------- Loans charged off: Commercial and industrial . . . . . 438 8 Consumer. . . . . . . . . . . . . . 554 803 Real estate . . . . . . . . . . . . 152 264 Lease financing . . . . . . . . . . 74 62 ----------- ----------- Total loans charged off . . . . . . 1,218 1,137 ----------- ----------- Recoveries: Commercial and industrial . . . . . - 8 Consumer. . . . . . . . . . . . . . 285 279 Real estate . . . . . . . . . . . . 10 29 Lease financing . . . . . . . . . . 26 37 ----------- ----------- Total recoveries. . . . . . . . . . 321 353 ----------- ----------- Net loans charged off. . . . . . . . 897 784 ----------- ----------- Provision for loan losses. . . . . . 609 1,351 ----------- ----------- Allowance, end of period . . . . . . $ 16,902 $ 16,125 =========== =========== Ratio of net charge offs to average loans outstanding (annualized) . . . 0.27% 0.24% =========== ===========
ANALYSIS OF CREDIT RISK MARCH 31, DECEMBER 31, MARCH 31, ----------------------- 2003 2002 2002 ----------- ----------- ----------- Non-accrual loan and leases . . . . . . $4,492,000 $5,109,000 $5,357,000 Loans and leases 90 days past due . . . 1,406,000 1,193,000 649,000 ----------- ----------- ----------- Total nonperforming loans and leases 5,898,000 6,302,000 6,006,000 Net assets in foreclosure . . . . . . . 485,000 390,000 459,000 ----------- ----------- ----------- Total nonperforming assets . . . . . $6,383,000 $6,692,000 $6,465,000 ----------- ----------- ----------- Allowance for loan and lease losses to nonperforming loans and leases . . . 286.6% 272.8% 268.5% Nonperforming loans and leases to total total loans and leases . . . . . . . 0.44% 0.47% 0.45% Allowance for loan and lease losses to total loans and leases. . . . . . 1.26% 1.29% 1.21% Nonperforming assets to total assets. . . . . . . . . . . 0.26% 0.27% 0.30%
PAGE 16 The following table sets forth an allocation of the allowance for loan losses by loan category:
March 31, 2003 --------------- Percent (Dollars in thousands) . . Amount of Loans ------------ --------- Commercial and industrial. $ 6,147 29% Consumer loans . . . . . . 6,604 33% Real estate. . . . . . . . 3,092 32% Lease financing. . . . . . 1,059 6% --------------- --------- Total. . . . . . . . . . $ 16,902 100% =============== =========
Nonperforming assets (nonaccruing loans, loans 90 days past due and net assets in foreclosure) were 0.26% of total assets at March 31, 2003, compared to 0.27% at December 31, 2002 and 0.30% at March 31, 2002. The ratio of the allowance for loan losses to loans at March 31, 2003 of 1.26% was lower than the 1.29% ratio at December 31, 2002 and higher than the 1.21% at March 31, 2002. Nonaccruing loans at March 31, 2003 of $4,492,000, decreased $617,000 from the December 31, 2002 level of $5,109,000, and decreased $865,000 from the March 31, 2002 level of $5,357,000. The decrease in nonaccruing loans at March 31, 2003, compared to both December 31, 2002 and March 31, 2002 was primarily the result of a decrease in commercial real estate and consumer nonaccruing loans. Net assets in foreclosure were $485,000 as of March 31, 2003, an increase of $95,000 from the December 31, 2002 balance of $390,000. During the first three months of 2003, transfers from loans to assets in foreclosure were $413,000, payments on foreclosed properties were $318,000. There were no write-downs of assets in foreclosure during this period. The loans transferred to assets in foreclosure included vehicle leases of $217,000, equipment leases of $66,000 and $130,000 of consumer related loans. The balance of net assets in foreclosure at March 31, 2002 was $459,000. Efforts to liquidate assets acquired in foreclosure are proceeding as quickly as potential buyers can be located and legal constraints permit. Generally accepted accounting principles require foreclosed assets to be carried at the lower of cost (lesser of carrying value of asset or fair value at date of acquisition) or estimated fair value. Loans past due 90 days or more and still accruing interest are loans that are generally well secured and expected to be restored to a current status in the near future. As of March 31, 2003, loans past due 90 days or more and still accruing interest were $1,406,000 compared to $1,193,000 as of December 31, 2002 and $649,000 as of March 31, 2002. The increase in loans past due 90 days at March 31, 2003, compared to December 31, 2002 and March 31, 2002 was primarily the result of an increase in real estate loans past due 90 days. PAGE 17
The following information concerns impaired loans: March 31, 2003 Dec. 31, 2002 March 31, 2002 --------------- -------------- --------------- Impaired Loans . . . . . . . . . . . . . . . . . $ 2,643,000 $ 3,153,000 $ 2,835,000 =============== ============== =============== Average year-to-date impaired loans. . . . . . . $ 2,707,000 $ 2,836,000 $ 3,401,000 =============== ============== =============== Impaired loans with specific loss allowances . . $ 2,643,000 $ 3,153,000 $ 2,835,000 =============== ============== =============== Loss allowances reserved on impaired loans . . . $ 333,000 $ 329,000 $ 311,000 =============== ============== =============== Year-to-date income recognized on impaired loans $ 33,000 $ 186,000 $ 8,000 =============== ============== ===============
The Banks' policy for interest income recognition on nonaccrual loans is to recognize income under the cash basis when the loans are both current and the collateral on the loan is sufficient to cover the outstanding obligation to the Banks. The Banks will not recognize income if these factors do not exist.
OTHER OPERATING INCOME - ------------------------ Three Months Ended March 31, ----------------------------- 2003 2002 -------- ------ (Dollars in thousands) Service charges . . . . . . . . . . . $ 1,830 $1,521 Security gains, net . . . . . . . . . 1,316 1,231 Trust and investment services income. 888 883 Bank-owned life insurance income. . . 631 638 Income on Life Insurance. . . . . . . 1,119 - Other income. . . . . . . . . . . . . 1,427 1,250 -------- ------- Total other operating income. . $ 7,211 $5,523 ======== ======
The three months ending March 31, 2003 other operating income of $7,211,000 increased $1,688,000, or 30.6%, from $5,523,000 for the same period in 2002. This rise in other operating income is primarily the result of increases in income on life insurance, service charges and other income of $1,119,000, $309,000 and $177,000, respectively. The rise in other operating income was 10.3%, not inclusive of the income on life insurance. Service charges grew $309,000 or 20.3% in the first three months of 2003, compared to the same period in 2002. This rise is the result of management's continued effort to institute equitable fees for services performed and to closely manage the collection of these fees. The growth in overdraft fees during the first three months of 2003 contributed $250,000 of this increase. The remaining increase is related to the fees associated with the growth in average transaction deposits balances. The Corporation recorded net security gains on the sale of securities available for sale of $1,316,000 in the first three months of 2003, compared to $1,231,000 during the same period in 2002. The Corporation sold the investment securities available for sale to fund the purchase of other securities in an effort to reduce the interest rate risk and market risk within different interest rate environments. Income from the Investment Management and Trust Services Division increased to $888,000 at March 31, 2003, from $883,000 at March 31, 2002. The Corporation's bank owned life insurance (BOLI) income decreased $7,000 or 1.1% during the first three months of 2003, compared to the same period in 2002. This reduced PAGE 18 income level was related to the lower rates experienced during 2003. BOLI involves the purchasing of life insurance by the Corporation on a chosen group of employees. The corporation is the owner and beneficiary of the policies. This pool of insurance, due to tax advantages to the Banks, is profitable to the Corporation. This profitability is used to offset a portion of future employee benefit cost increases. Bank deposits fund BOLI and the earnings from BOLI are recognized as other income. Other income for the first three months of 2003 increased $177,000 or 14.2%, compared to the same period in 2002. This increase was primarily associated with higher gains on the sale of residential mortgage loans in the first quarter of 2003, compared to the same period in 2002.
OTHER OPERATING EXPENSES - -------------------------- Three Months Ended March 31, ----------------------------- 2003 2002 -------- ------- (Dollars in thousands) Salaries. . . . . . . . . . . . . . . $ 6,385 $ 5,946 Employee benefits . . . . . . . . . . 1,456 1,739 Occupancy . . . . . . . . . . . . . . 1,023 1,237 Furniture and equipment . . . . . . . 1,305 1,288 Other expenses. . . . . . . . . . . . 5,344 4,269 ------- -------- Total other operating expenses $15,513 $14,479 ======= =======
The first three months of 2003 other operating expenses of $15,513,000 increased $1,034,000, or 7.1% from $14,479,000 for the same period in 2002. This rise was the result of higher salary, furniture and equipment and other expenses, partially offset by lower employee benefits and occupancy expenses. Employee salaries increased $439,000 or 7.4% from $5,946,000 for the first three months of 2002 to $6,385,000 for the same period in 2003. This increase reflects cost of living increases, merit increases and additional staff necessitated by the growth of the Banks. Employee benefits of $1,456,000 expensed in the first three months of 2003, were $283,000 or 16.3% lower than the $1,739,000 of employee benefits expensed during the same period in 2002. The decrease in employee benefits is the result of lower pension expense experienced during the first quarter of 2003, compared to the first quarter of 2002. Net occupancy expense decreased $214,000, or 17.3%, from $1,237,000 in the first three months of 2002 to $1,023,000 in the first three months of 2003. This decrease was due to a $365,000 expense related to a branch closure during the first quarter of 2002. Net of the branch closure expense, occupancy expenses grew $151,000 or 17.3% during the first quarter of 2003, compared to the third quarter of 2002. This increase was primarily the result of the increase in snow removal expenses associated with the harsh winter of 2003. Furniture and equipment expense increased $17,000 or 1.3%, during the first three months of 2003, compared to the same period in 2002. Other expenses increased $1,075,000, or 25.2%, from $4,269,000 in the first three months of 2002, compared to $5,344,000 in other expenses recorded during the same period in 2003. This increase was largely due to the $1,300,000 rise in expenses related to the off-lease vehicle residual reserve. The Corporation reviews the off-lease vehicle residual reserve expense on a quarterly basis. The total 2002 off-lease vehicle residual reserve expense was $2,737,000. Net of the residual reserve expense, other expenses decreased $225,000, or 6.0%. This reduction is primarily due to both lower loan related expenses and deferred compensation expenses. INCOME TAXES - ------------- Income tax expense is less than the amount calculated using the statutory tax rate primarily as a result of tax exempt income earned from state and municipal securities and loans. PAGE 19 BALANCE SHEET ANALYSIS - ------------------------ Total assets decreased $20,450,000, or 0.8%, from $2,490,864,000 at December 31, 2002 to $2,470,414,000 at March 31, 2003. During the first quarter of 2003, the banks implemented a strategy to reduce high costing certificates of deposit balances due to the current high level of liquidity. Total certificates of deposits were reduced $42,281,000 during this period. Total assets at March 31, 2003 grew 13.7%, compared to March 31, 2002. This gain was primarily due to an increase in deposits that was used to fund investment securities available for sale and loans. The balance of securities available for sale at March 31, 2003 of $936,977,000 decreased $12,079,000 compared to the December 31, 2002 balance of $949,056,000. During the first quarter of 2003, $399,526,000 of securities available for sale were sold which generated a pretax gain of $1,316,000. In comparison, $117,295,000 securities available for sale were sold during the first quarter of 2002 to generate a pretax gain of $1,231,000. The Corporation sells investment securities available for sale to fund the purchase of other securities in an effort to reduce the interest rate risk and market risk within different interest rate environments. The balance of investment securities held to maturity decreased $293,000 during the first three months of 2003. Total loans and residential mortgage loans held for sale grew $3,838,000 or 0.3% through March 31, 2003. This growth was primarily due to increases in both commercial loans and home equity loans, partially offset by lower indirect vehicle financing and vehicle leases. The loan growth net of both the indirect vehicle and vehicle leasing portfolios was 7.7% during this period. Total deposits decreased $26,356,000, or 1.3% from $1,979,822,000 at December 31, 2002 to $1,953,466,000 at March 31, 2003. This reduction was primarily due to planned run-off of higher costing certificates of deposits which decreased $42,281,000 during this time period. Lower rate core deposits (noninterest-bearing checking, interest-bearing checking, money market accounts and savings accounts) grew a net $15,925,000, or 1.3% during this period. The March 31, 2003 total deposit balance grew 14.4%, compared to the March 31, 2002 total deposits. Other borrowings experienced a decrease of $5,987,000 during the first three months of 2003. This decrease was the result of a $5,667,000 reduction in securities sold under agreement to repurchase and a $320,000 decrease in U. S. Treasury demand notes. CAPITAL - ------- Capital formation is important to the Corporation's well being and future growth. Capital for the period ending March 31, 2003 was $215,109,000, an increase of $8,903,000 over the end of 2002. The increase is the result of the retention of the Corporation's earnings and the accumulated other comprehensive income, partially offset by the purchase of treasury stock during the first three months of 2003. The accumulated other comprehensive income at March 31, 2003 was a gain of $11,694,000, compared to a gain of $6,937,000 at December 31, 2002. The corporation purchased $991,000 of treasury stock during the first three months of 2003. Management believes that the Corporation's current capital and liquidity positions are adequate to support its operations. Management is not aware of any recommendations by any regulatory authority, which, if it were to be implemented, would have a material effect on the Corporation's capital. PAGE 20
(Dollars in thousands) For Capital As of March 31, 2003 Actual Adequacy Purposes - ----------------------------------------- Amount Ratio Amount Ratio ------------ ------------------ -------- ------ Total Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ 226,294 13.59% $133,176 8.00% Harleysville National Bank. . . . . . . . 137,502 11.36% 96,795 8.00% Citizens National Bank. . . . . . . . . . 37,729 12.29% 24,561 8.00% Security National Bank. . . . . . . . . . 17,401 13.00% 10,710 8.00% Tier 1 Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ 208,133 12.50% $ 66,588 4.00% Harleysville National Bank. . . . . . . . 126,533 10.46% 48,397 4.00% Citizens National Bank. . . . . . . . . . 33,889 11.04% 12,280 4.00% Security National Bank. . . . . . . . . . 15,723 11.74% 5,355 4.00% Tier 1 Capital (to average assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ 208,133 8.49% $ 98,005 4.00% Harleysville National Bank. . . . . . . . 126,533 7.18% 70,507 4.00% Citizens National Bank. . . . . . . . . . 33,889 7.17% 18,902 4.00% Security National Bank. . . . . . . . . . 15,723 7.99% 7,872 4.00%
To Be Well Capitalized Under Prompt Corrective Action Provision Amount Ratio ------------------------ ------ Total Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ - - Harleysville National Bank. . . . . . . . 120,993 10.00% Citizens National Bank. . . . . . . . . . 30,701 10.00% Security National Bank. . . . . . . . . . 13,387 10.00% Tier 1 Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ - - Harleysville National Bank. . . . . . . . 72,596 6.00% Citizens National Bank. . . . . . . . . . 18,420 6.00% Security National Bank. . . . . . . . . . 8,032 6.00% Tier 1 Capital (to average assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ - - Harleysville National Bank. . . . . . . . 88,134 5.00% Citizens National Bank. . . . . . . . . . 23,628 5.00% Security National Bank. . . . . . . . . . 9,840 5.00%
(Dollars in thousands) For Capital As of December 31, 2002 Actual Adequacy Purposes - ----------------------------------------- Amount Ratio Amount Ratio ------------ ------------------ -------- ------ Total Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ 222,217 13.38% $132,866 8.00% Harleysville National Bank. . . . . . . . 133,945 11.16% 96,034 8.00% Citizens National Bank. . . . . . . . . . 37,125 12.01% 24,722 8.00% Security National Bank. . . . . . . . . . 17,033 12.60% 10,814 8.00% Tier 1 Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ 203,896 12.28% $ 66,433 4.00% Harleysville National Bank. . . . . . . . 122,990 10.25% 48,017 4.00% Citizens National Bank. . . . . . . . . . 33,258 10.76% 12,361 4.00% Security National Bank. . . . . . . . . . 15,338 11.35% 5,407 4.00% Tier 1 Capital (to average assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ 203,896 8.19% $ 99,640 4.00% Harleysville National Bank. . . . . . . . 122,990 6.88% 71,493 4.00% Citizens National Bank. . . . . . . . . . 33,258 6.91% 19,255 4.00% Security National Bank. . . . . . . . . . 15,338 7.77% 7,896 4.00%
PAGE 21
To Be Well Capitalized Under Prompt Corrective Action Provision Amount Ratio -------- ------ Total Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ - - Harleysville National Bank. . . . . . . . 120,043 10.00% Citizens National Bank. . . . . . . . . . 30,903 10.00% Security National Bank. . . . . . . . . . 13,517 10.00% Tier 1 Capital (to risk weighted assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ - - Harleysville National Bank. . . . . . . . 72,026 6.00% Citizens National Bank. . . . . . . . . . 18,542 6.00% Security National Bank. . . . . . . . . . 8,110 6.00% Tier 1 Capital (to average assets): - ----------------------------------------- Corporation . . . . . . . . . . . . . . . $ - - Harleysville National Bank. . . . . . . . 89,366 5.00% Citizens National Bank. . . . . . . . . . 24,069 5.00% Security National Bank. . . . . . . . . . 9,869 5.00%
Pursuant to the federal regulators' risk-based capital adequacy guidelines, the components of capital are called Tier 1 and Tier 2 capital. For the Corporation, Tier 1 capital is the shareholders' equity and Tier 2 capital is the allowance for loan losses. The minimum for the Tier 1 ratio is 4.0% and the total capital ratio (Tier 1 plus Tier 2 capital divided by risk-adjusted assets) minimum is 8.0%. At March 31, 2003, the Corporation's Tier 1 risk-adjusted capital ratio was 12.50%, and the total risk-adjusted capital ratio was 13.59%, both well above the regulatory requirements. The risk-based capital ratios of each of the Corporation's commercial banks also exceeded regulatory requirements at March 31, 2003. The leverage ratio consists of Tier 1 capital divided by quarterly average total assets, excluding intangible assets. Banking organizations are expected to have ratios of at least 4% and 5%, depending upon their particular condition and growth plans. Higher leverage ratios could be required by the particular circumstances or risk profile of a given banking organization. The Corporation's leverage ratios were 8.49% at March 31, 2003 and 8.19% at December 31, 2002. The year-to-date March 31, 2003 cash dividend per share of $.19 was 17.3% higher than the cash dividend for the same period in 2002 of $.162. The dividend payout ratio for the first three months of 2003 was 42.7%, compared to 40.9% for the twelve month period ended December 31, 2002. Activity in both the Corporation's dividend reinvestment and stock purchase plan and the stock option plan did not have a material impact on capital during the first three months of 2003. LIQUIDITY - --------- Liquidity is a measure of the ability of the Banks to meet their needs and obligations on a timely basis. For a bank, liquidity provides the means to meet the day-to-day demands of deposit customers and the needs of borrowing customers. Generally, the Banks arrange their mix of cash, money market investments, investment securities and loans in order to match the volatility, seasonality, interest sensitivity and growth trends of its deposit funds. The liquidity measurement is based on the asset/liability model's projection of potential sources and uses of funds for the next 120 days. The resulting projections as of March 31, 2003 show the potential sources of funds exceeding the potential uses of funds. The Corporation has external sources of funds which can be drawn upon when funds are required. The primary source of external liquidity is an available line of credit with the FHLB of Pittsburgh. Unused lines of credit at the FHLB of Pittsburgh were $305,974,000, as of March 31, 2003. The Banks also have unused federal funds lines of credit of $50,000,000 PAGE 22 and non-pledged investment securities available for sale of $458,820,000 as of March 31, 2003. OTHER INFORMATION - ------------------ Legislative & Regulatory - -------------------------- In November 1999, the Gramm-Leach-Bliley Financial Modernization Act of 1999 (Modernization Act) became law. The Modernization Act allows bank holding companies meeting management, capital and Community Reinvestment Act standards to engage in a substantially broader range of nonbanking activities than was permissible before enactment, including underwriting insurance and making merchant banking investments in commercial and financial companies. It allows insurers and other financial services companies to acquire banks; removes various restrictions that currently apply to bank holding company ownership of securities firms and mutual fund advisory companies; and establishes the overall regulatory structure applicable to bank holding companies that also engage in insurance and securities operations. The Corporation currently believes it meets the requirements for the broader range of activities that will be permitted by the Modernization Act. The Modernization Act also modifies current law related to financial privacy and community reinvestment. The new privacy provisions will generally prohibit financial institutions, including the Corporation, from disclosing nonpublic financial information to nonaffiliated third parties unless customers have the opportunity to "opt out" of the disclosure. Pending Legislation - -------------------- Management is not aware of any other current specific recommendations by regulatory authorities or proposed legislation which, if they were implemented, would have a material adverse effect upon the liquidity, capital resources, or results of operations, although the general cost of compliance with numerous and multiple federal and state laws and regulations does have, and in the future may have, a negative impact on the Corporation's results of operations. Effects of Inflation - ---------------------- Inflation has some impact on the Corporation and the Banks' operating costs. Unlike many industrial companies, however, substantially all of the Banks' assets and liabilities are monetary in nature. As a result, interest rates have a more significant impact on the Corporation's and the Banks' performance than the general level of inflation. Over short periods of time, interest rates may not necessarily move in the same direction or in the same magnitude as prices of goods and services. Effect of Government Monetary Policies - ------------------------------------------ The earnings of the Corporation are and will be affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies. An important function of the Federal Reserve is to regulate the money supply and interest rates. Among the instruments used to implement those objectives are open market operations in United States government securities and changes in reserve requirements against member bank deposits. These instruments are used in varying combinations to influence overall growth and distribution of bank loans, investments and deposits, and their use may also affect rates charged on loans or paid for deposits. The Banks are members of the Federal Reserve and, therefore, the policies and regulations of the Federal Reserve have a significant effect on its deposits, loans and investment growth, as well as the rate of interest earned and paid, and are expected to affect the Banks' operations in the future. The effect of such policies and regulations upon the future business and earnings of the Corporation and the Banks cannot be predicted. PAGE 23 Environmental Regulations - -------------------------- There are several federal and state statutes, which regulate the obligations and liabilities of financial institutions pertaining to environmental issues. In addition to the potential for attachment of liability resulting from its own actions, a bank may be held liable under certain circumstances for the actions of its borrowers, or third parties, when such actions result in environmental problems on properties that collateralize loans held by the bank. Further, the liability has the potential to far exceed the original amount of a loan issued by the bank. Currently, neither the Corporation nor the Banks are a party to any pending legal proceeding pursuant to any environmental statute, nor are the Corporation and the Banks aware of any circumstances that may give rise to liability under any such statute. Branching - --------- The Corporation's subsidiaries currently plan to open at least one new branch. During the fourth quarter of 2003, Security National Bank plans to open a location in North Coventry Township, Chester County, Pennsylvania. This new branch site is contiguous to our current service area and was chosen to expand the Bank's market area and market share of loans and deposits. ITEM 3 - Qualitative and Quantitative Disclosures About Market Risk In the normal course of conducting business activities, the Corporation is exposed to market risk, principally interest risk, through the operations of its banking subsidiaries. Interest rate risk arises from market driven fluctuations in interest rates that affect cash flows, income, expense and values of financial instruments. The Asset/Liability Committee, using policies and procedures approved by the Banks' Boards of Directors, is responsible for managing the rate sensitivity position. No material changes in market risk strategy occurred during the current period. A detailed discussion of market risk is provided on page 12 of this Form 10-Q and in SEC Form 10-K for the period ended December 31, 2002. ITEM 4 - Controls and Procedures We maintain a system of controls and procedures designed to provide reasonable assurance as to the reliability of the financial statements and other disclosures included in this report, as well as to safeguard assets from unauthorized use or disposition. We evaluated the effectiveness of the design and operation of our disclosure controls and procedures under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, within 90 days prior to the filing date of this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in timely alerting them to material information required to be included in our periodic Securities and Exchange Commission filings. No significant changes were made to our internal controls or other factors that could significantly affect these controls subsequent to the date of their evaluation. PAGE 24 PART II. OTHER INFORMATION
Item 1. Legal Proceedings - ------- -----------------
Management, based upon discussions with the Corporation's legal counsel, is not aware of any litigation that would have a material adverse effect on the consolidated financial position of the Corporation. There are no proceedings pending other than the ordinary routine litigation incident to the business of the Corporation and its subsidiaries - Harleysville National Bank and Trust Company, Citizens National Bank, Security National Bank, HNC Financial Company and HNC Reinsurance Company. In addition, no material proceedings are pending or are known to be threatened or contemplated against the Corporation and its subsidiaries by government authorities.
Item 2. Change in Securities and Use of Proceeds - ------- --------------------------------------------------- Not applicable Item 3. Defaults Upon Senior Securities - -------- --------------------------------------------------- Not applicable Item 4. Submission of Matters to a Vote of Security Holders - ------- ---------------------------------------------------
(a)The 2003 Annual Meeting of Shareholders was held at 9:30 a.m., on Tuesday, April 8, 2003 at Presidential Caterers, 2910 DeKalb Pike, Norristown, Pennsylvania 19401. (b), (c) Two matters were voted upon as follows: 1. Three directors were elected, as below: Elected Term Expires ------- ------------- Harold A. Herr 2007 Henry M. Pollak 2007 Stephanie S. Mitchell 2007 The results of the voting for the directors are as follows: Harold A. Herr For 14,514,507 Against 251,446 Abstain 0 Henry M. Pollak For 14,450,749 Against 315,204 Abstain 0 Stephanie S. Mitchell For 14,506,718 Against 259,235 Abstain 0 PAGE 25 Directors whose term continued after the meeting: Term Expires ------------ Walter R. Bateman, II 2004 LeeAnn B. Bergey 2004 Walter E. Daller, Jr. 2006 Thomas C. Leamer 2006 Palmer E. Retzlaff 2004 James A. Wimmer 2005 William M. Yocum 2005 2. Proposal to consider and act upon a shareholder proposal. Shareholders request that our Board of Directors vote to eliminate all anti-takeover provisions including the Corporation's classified board from the Harleysville National Corporation Articles of Incorporation and Amended Bylaws, and seek shareholders' approval prior to adopting any future anti-takeover provisions. The result of the voting is as follows: For 2,727,642 Against 10,058,548 Abstain 173,925 Item 5. Other Information - -------- ------------------ None Item 6. Exhibits and Reports on Form 8-K - -------- -------------------------------------
(a) Exhibits: -------------- The following exhibits are being filed as part of this Report: Exhibit No. Description of Exhibits - ------------ ------------------------------------------------------------------------------------------------------ (3.1) Harleysville National Corporation Articles of Incorporation, as amended. (Incorporated by reference to Exhibit 3(a) to the Corporation's Registration Statement No. 33-65021 on Form S-4, as filed on December 14, 1995.) (3.2) Harleysville National Corporation By-laws. (Incorporated by reference to Exhibit 3(b) to the Corporation's Registration Statement No. 33-65021 on Form S-4, as filed on December 14, 1995.) (10.1) Harleysville National Corporation 1993 Stock Incentive Plan. (Incorporated by Reference to Exhibit 4.3 of Registrant's Registration Statement No. 33-57790 on Form S-8, filed with the Commission on October 1, 1993.) (10.2) Harleysville National Corporation Stock Bonus Plan. (Incorporated by Reference to Exhibit 99A of Registrant's Registration Statement No. 33-17813 on Form S-8, filed with the Commission on December 13, 1996.) (10.3) Supplemental Executive Retirement Plan. (Incorporated by Reference to Exhibit 10.3 of Registrant's Annual Report in Form 10-K for the year ended December 31, 1997, filed with the Commission on March 27, 1998.) (10.4) Walter E. Daller, Jr., Chairman, President and Chief Executive Officer's employment agreement. (Incorporated by Reference to Registrant's Registration Statement on Form 8-K, filed with the Commission on March 25, 1999.) (10.5) Demetra M. Takes, President and Chief Operating Officer of Harleysville employment agreement. (Incorporated by Reference to Registrant's Registration Statement on Form 8-K, filed with the Commission on March 25, 1999.) PAGE 26 (10.6) Vernon L. Hunsberger, Senior Vice President/CFO and Cashier's employment agreement. (Incorporated by Reference to Registrant's Registration Statement on Form 8-K, filed with the Commission on March 25, 1999.) (10.7) Harleysville National Corporation 1998 Stock Incentive Plan. (Incorporated by Reference to Registrant's Registration Statement No. 333-79971 on Form S-8 filed with the Commission on June 4, 1999.) (10.8) Harleysville National Corporation 1998 Independent Directors Stock Option Plan. (Incorporated by Reference to Registrant's Registration Statement No. 333-79973 on Form S-8 filed with the Commission on June 4, 1999.) (11) Computation of Earnings per Common Share. The information for this Exhibit is incorporated by reference to page 4 of this Form 10-Q.
(b) Reports on Form 8-K During the quarter ended March 31, 2003, the Registrant filed a Form 8-K containing the fourth quarter of 2002 earnings press release. (99.1) Certification. Walter E. Daller, Jr. Chairman, President and Chief Executive Officer. (99.2) Certification. Gregg J. Wagner, Executive Vice President and Chief Financial Officer. PAGE 27 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HARLEYSVILLE NATIONAL CORPORATION /s/ Walter E. Daller, Jr. - ------------------------------------------------------------------------- Walter E. Daller, Jr., Chairman, President and Chief Executive Officer (Principal executive officer) /s/ Gregg J. Wagner - ------------------------------------------------------------------------- Gregg J. Wagner, Executive Vice President and Chief Financial Officer (Principal financial and accounting officer) PAGE 28 Date: May 12, 2002 CERTIFICATION I, Walter E. Daller, Jr., Chairman, President and Chief Executive Officer, certify, that: 1. I have reviewed this quarterly report on Form 10-Q of Harleysville National Corporation. 2. Based on my knowledge, the quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report. 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and (c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date. 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors: (a) all significant deficiencies in the design or operation of the internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls. 6. The registrant's other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect the internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 12, 2003 By: /s/ Walter E. Daller, Jr. - ---------------------------------- Chairman, President and Chief Executive Officer Harleysville National Corporation PAGE 29 CERTIFICATION I, Gregg J. Wagner, Executive Vice President and Chief Financial Officer certify, that: 1. I have reviewed this quarterly report on Form 10-Q of Harleysville National Corporation. 2. Based on my knowledge, the quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report. 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and (c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date. 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors: (a) all significant deficiencies in the design or operation of the internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls. 6. The registrant's other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect the internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 12, 2003 By: /s/ Gregg J. Wagner - --------------------------- Executive Vice President and Chief Financial Officer Harleysville National Corporation PAGE 30 EXHIBIT INDEX
Exhibit No. Description of Exhibits - ----------- ------------------------- (3.1) Harleysville National Corporation Articles of Incorporation, as amended. (Incorporated by reference to Exhibit 3(a) to the Corporation's Registration Statement No. 33-65021 on Form S-4, as filed on December 14, 1995.) (3.2) Harleysville National Corporation By-laws. (Incorporated by reference to Exhibit 3(b) to the Corporation's Registration Statement No. 33-65021 on Form S-4, as filed on December 14, 1995.) (10.1) Harleysville National Corporation 1993 Stock Incentive Plan. (Incorporated by Reference to Exhibit 4.3 of Registrant's Registration Statement No. 33-57790 on Form S-8, filed with the Commission on October 1, 1993.) (10.2) Harleysville National Corporation Stock Bonus Plan. (Incorporated by Reference to Exhibit 99A of Registrant's Registration Statement No. 33-17813 on Form S-8, filed with the Commission on December 13, 1996.) (10.3) Supplemental Executive Retirement Plan. (Incorporated by Reference to Exhibit 10.3 of Registrant's Annual Report in Form 10-K for the year ended December 31, 1997, filed with the Commission on March 27, 1998.) (10.4) Walter E. Daller, Jr., Chairman, President and Chief Executive Officer's employment agreement. (Incorporated by Reference to Registrant's Registration Statement on Form 8-K, filed with the Commission on March 25, 1999.) (10.5) Demetra M. Takes, President and Chief Operating Officer of Harleysville employment agreement. (Incorporated by Reference to Registrant's Registration Statement on Form 8-K, filed with the Commission on March 25, 1999.) (10.6) Vernon L. Hunsberger, Senior Vice President/CFO and Cashier's employment agreement. (Incorporated by Reference to Registrant's Registration Statement on Form 8-K, filed with the Commission on March 25, 1999.) (10.7) Harleysville National Corporation 1998 Stock Incentive Plan. (Incorporated by Reference to Registrant's Registration Statement No. 333-79971 on Form S-8 filed with the Commission on June 4, 1999.) (10.8) Harleysville National Corporation 1998 Independent Directors Stock Option Plan. (Incorporated by Reference to Registrant's Registration Statement No. 333-79973 on Form S-8 filed with the Commission on June 4, 1999.) (11) Computation of Earnings per Common Share. The information for this Exhibit is incorporated by Reference to page 4 of this Form 10-Q.
(99.1) Certification. Walter E. Daller, Jr. Chairman, President and Chief Executive Officer. (99.2) Certification. Gregg J. Wagner, Executive Vice President and Chief Financial Officer. PAGE 31 - ------ EX-99.1 CERTIFICATIO 3 doc2.txt EXHIBIT 99.1 - ------------- HARLEYSVILLE NATIONAL CORPORATION CERTIFICATION PRINCIPAL EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 In connection with the Harleysville National Corporation (the "Company") Quarterly Report on Form 10-Q for the period ending March 31, 2003, as filed with the Securities and Exchange Commission (the "Report"), I, Walter Daller, Jr., Chairman, President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as added by Section 906 of the Sarbanes-Oxley Act of 2002, that: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. To my knowledge the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company as of and for the period covered by the Report. /s/ Walter E. Daller, Jr. ------------------------------ Chairman, President and Chief Executive Officer Harleysville National Corporation Date: May 12, 2003 A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act of 2002 has been provided to Harleysville National Corporation and will be retained by the Corporation and furnished to the Securities and Exchange Commission or its staff upon request. PAGE 32 EX-99.2A CERTIFICATI 4 doc3.txt EXHIBIT 99.2 - ------------- HARLEYSVILLE NATIONAL CORPORATION CERTIFICATION PRINCIPAL FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 In connection with the Harleysville National Corporation (the "Company") Quarterly Report on Form 10-Q for the period ending March 31, 2003, as filed with the Securities and Exchange Commission (the "Report"), I, Gregg J. Wagner, Executive Vice President and Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as added Section 906 of the Sarbanes-Oxley Act of 2002, that: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. To my knowledge, the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company as of and for the period covered by the Report. /s/ Gregg J. Wagner ------------------------------ Executive Vice President and Chief Financial Officer Harleysville National Corporation Date: May 12, 2003 A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act of 2002 has been provided to Harleysville National Corporation and will be retained by the Corporation and furnished to the Securities and Exchange Commission or its staff upon request. PAGE 33 -----END PRIVACY-ENHANCED MESSAGE-----