10-Q 1 a10q033102.txt MARCH 31, 2002 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002 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 0-14412 FARMERS CAPITAL BANK CORPORATION ------------ ------------------------------------- (Exact name of registrant as specified in its charter) KENTUCKY 61-1017851 -------------------------------- --------------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) P.O. BOX 309, 202 WEST MAIN STREET FRANKFORT, KENTUCKY 40602 ---------------------------------------- --------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (502) 227-1600 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common stock, par value $0.125 per share 6,912,214 shares outstanding at May 7, 2002
TABLE OF CONTENTS Part I - Financial Information Page No. ------------------------------ -------- Item 1 - Financial Statements Unaudited Consolidated Balance Sheets - March 31, 2002 and December 31, 2001 3 Unaudited Consolidated Statements of Income - For the Three Months Ended March 31, 2002 and March 31, 2001 4 Unaudited Consolidated Statements of Comprehensive Income - For the Three Months Ended March 31, 2002 and March 31, 2001 5 Unaudited Consolidated Statements of Cash Flows - For the Three Months Ended March 31, 2002 and March 31, 2001 6 Unaudited Consolidated Statements of Changes in Shareholders' Equity - For the Three Months Ended March 31, 2002 and March 31, 2001 7 Notes to Unaudited Consolidated Financial Statements 8 Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations 9 Item 3 - Quantitative and Qualitative Disclosures About Market Risk 14 Part II - Other Information Item 1 - Legal Proceedings 14 Item 6 - Exhibits and Reports on Form 8-K 15
PART I - FINANCIAL INFORMATION Item 1. Financial Statements ----------------------------
UNAUDITED CONSOLIDATED BALANCE SHEETS ------------------------------------------------------------------------------------------------------------------------------------ March 31, December 31, (In thousands, except per share data) 2002 2001 ------------------------------------------------------------------------------------------------------------------------------------ ASSETS Cash and cash equivalents: Cash and due from banks $ 54,098 $ 55,977 Interest bearing deposits in other banks 3,887 3,090 Federal funds sold and securities purchased under agreements to resell 73,803 47,318 ------------------------------------------------------------------------------------------------------------------------------------ Total cash and cash equivalents 131,788 106,385 ------------------------------------------------------------------------------------------------------------------------------------ Investment securities: Available for sale, amortized cost of $312,776 (2002) and $306,197 (2001) 312,852 308,081 Held to maturity, fair value of $35,719 (2002) and $38,505 (2001) 34,604 37,461 ------------------------------------------------------------------------------------------------------------------------------------ Total investment securities 347,456 345,542 ------------------------------------------------------------------------------------------------------------------------------------ Loans, net of unearned income 686,794 701,869 Allowance for loan losses (10,328) (10,549) ------------------------------------------------------------------------------------------------------------------------------------ Loans, net 676,466 691,320 ------------------------------------------------------------------------------------------------------------------------------------ Premises and equipment, net 24,462 24,800 Other assets 14,567 15,483 ------------------------------------------------------------------------------------------------------------------------------------ Total assets $ 1,194,739 $ 1,183,530 ------------------------------------------------------------------------------------------------------------------------------------ LIABILITIES Deposits: Noninterest bearing $ 141,142 $ 136,001 Interest bearing 766,433 777,484 ------------------------------------------------------------------------------------------------------------------------------------ Total deposits 907,575 913,485 ------------------------------------------------------------------------------------------------------------------------------------ Securities sold under agreements to repurchase 109,434 113,792 Other short-term borrowings 19,508 12,808 Long-term debt 24,777 10,913 Dividends payable 2,138 2,152 Other liabilities 7,610 6,820 ------------------------------------------------------------------------------------------------------------------------------------ Total liabilities 1,071,042 1,059,970 ------------------------------------------------------------------------------------------------------------------------------------ Commitments and contingencies SHAREHOLDERS' EQUITY Common stock, par value $0.125 per share 9,608,000 shares authorized; 8,074,235 and 8,058,244 shares issued at March 31, 2002 and December 31, 2001, respectively 1,009 1,007 Capital surplus 15,735 15,179 Retained earnings 138,871 137,227 Treasury stock, at cost 1,178,421 and 1,152,978 shares at March 31, 2002 and December 31, 2001, respectively (31,968) (31,077) Accumulated other comprehensive income 50 1,224 ------------------------------------------------------------------------------------------------------------------------------------ Total shareholders' equity 123,697 123,560 ------------------------------------------------------------------------------------------------------------------------------------ Total liabilities and shareholders' equity $ 1,194,739 $ 1,183,530 ------------------------------------------------------------------------------------------------------------------------------------ See accompanying notes to unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME -------------------------------------------------------------------------------------------------------------------- (In thousands, except per share data) Three months ended March 31, 2002 2001 -------------------------------------------------------------------------------------------------------------------- INTEREST INCOME Interest and fees on loans $ 13,064 $ 15,392 Interest on investment securities: Taxable 2,742 2,640 Nontaxable 911 798 Interest on deposits in other banks 20 25 Interest of federal funds sold and securities purchased under agreements to resell 211 1,190 -------------------------------------------------------------------------------------------------------------------- Total interest income 16,948 20,045 -------------------------------------------------------------------------------------------------------------------- INTEREST EXPENSE Interest on deposits 5,981 8,001 Interest on securities sold under agreements to repurchase 473 1,256 Interest on other borrowed funds 339 152 -------------------------------------------------------------------------------------------------------------------- Total interest expense 6,793 9,409 -------------------------------------------------------------------------------------------------------------------- Net interest income 10,155 10,636 -------------------------------------------------------------------------------------------------------------------- Provision for loan losses 121 223 -------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 10,034 10,413 -------------------------------------------------------------------------------------------------------------------- NONINTEREST INCOME Service charges and fees on deposits 1,819 1,554 Other service charges, commissions, and fees 895 923 Data processing income 336 328 Trust income 367 386 Investment securities gains, net 597 279 Gain on sale of mortgage loans 55 32 Other (75) 30 -------------------------------------------------------------------------------------------------------------------- Total noninterest income 3,994 3,532 -------------------------------------------------------------------------------------------------------------------- NONINTEREST EXPENSE Salaries and employee benefits 5,150 4,934 Occupancy expenses, net 571 584 Equipment expenses 926 807 Bank franchise tax 307 296 Other 1,956 1,887 -------------------------------------------------------------------------------------------------------------------- Total noninterest expense 8,910 8,508 -------------------------------------------------------------------------------------------------------------------- Income before income taxes 5,118 5,437 -------------------------------------------------------------------------------------------------------------------- Income tax expense 1,336 1,531 -------------------------------------------------------------------------------------------------------------------- Net income $ 3,782 $ 3,906 -------------------------------------------------------------------------------------------------------------------- NET INCOME PER COMMON SHARE Basic $ .55 $ .55 Diluted .54 .55 -------------------------------------------------------------------------------------------------------------------- WEIGHTED AVERAGE SHARES OUTSTANDING Basic 6,901 7,099 Diluted 6,961 7,121 -------------------------------------------------------------------------------------------------------------------- See accompanying notes to unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME --------------------------------------------------------------------------------------------------------------------- Three months ended March 31, (In thousands) 2002 2001 --------------------------------------------------------------------------------------------------------------------- NET INCOME $ 3,782 $ 3,906 Other comprehensive (loss) income: Unrealized holding (loss) gain on available for sale securities arising during the period, net of tax of ($415) and $510, respectively (770) 990 Reclassification adjustment for prior period unrealized gain recognized during current period, net of tax of ($218) and ($88), respectively (404) (171) --------------------------------------------------------------------------------------------------------------------- Other comprehensive (loss) income (1,174) 819 --------------------------------------------------------------------------------------------------------------------- COMPREHENSIVE INCOME $ 2,608 $ 4,725 --------------------------------------------------------------------------------------------------------------------- See accompanying notes to unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS --------------------------------------------------------------------------------------------------------------------- Three months ended March 31, (In thousands) 2002 2001 --------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 3,782 $ 3,906 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 729 877 Net amortization of investment security premiums and discounts: Available for sale 142 (305) Held to maturity (16) 3 Provision for loan losses 121 223 Noncash compensation expense 166 242 Mortgage loans originated for sale (8,666) (5,441) Proceeds from sale of mortgage loans 7,517 4,324 Deferred income tax (benefit) expense (256) 9 Gain on sale of mortgage loans (55) (32) Gain on sale of premises and equipment (4) Gain on sale of available for sale investment securities, net (597) (279) Decrease in accrued interest receivable 597 678 Decrease (increase) in other assets 708 (526) Decrease in accrued interest payable (66) (44) Increase in other liabilities 1,357 1,564 --------------------------------------------------------------------------------------------------------------------- Net cash provided by operating activities 5,463 5,195 --------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES Proceeds from maturities and calls of investment securities: Available for sale 156,811 161,715 Held to maturity 2,873 4,318 Proceeds from sale of available for sale investment securities 100,438 7,245 Purchase of available for sale investment securities (263,373) (159,589) Loans originated for investment, net of principal collected 15,937 (9,130) Purchase of premises and equipment (391) (738) Proceeds from sale of equipment 4 --------------------------------------------------------------------------------------------------------------------- Net cash provided by investing activities 12,295 3,825 --------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES Net decrease in deposits (5,910) (78,583) Net (decrease) increase in securities sold under agreements to repurchase (4,358) 160 Proceeds from long-term debt 14,500 Repayments of long-term debt (636) (2,981) Net increase (decrease) in other short-term borrowings 6,700 (1,060) Dividends paid (2,152) (2,155) Purchase of common stock (891) (7,297) Stock options exercised 392 39 --------------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) financing activities 7,645 (91,877) --------------------------------------------------------------------------------------------------------------------- Net increase (decrease) in cash and cash equivalents 25,403 (82,857) --------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents at beginning of year 106,385 229,871 --------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of period $ 131,788 $ 147,014 --------------------------------------------------------------------------------------------------------------------- SUPPLEMENTAL DISCLOSURES Cash paid during the period for: Interest $ 6,859 $ 9,453 Cash dividend declared and unpaid 2,138 2,144 --------------------------------------------------------------------------------------------------------------------- See accompanying notes to unaudited consolidated financial statements.
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY ------------------------------------------------------------------------------------------------------------------------------------ (In thousands, except per share data) Accumulated Other Total Three months ended Common Stock Capital Retained Treasury Stock Comprehensive Shareholders' March 31, 2002 and 2001 Shares Amount Surplus Earnings Shares Amount Income (Loss) Equity ------------------------------------------------------------------------------------------------------------------------------------ Balance at January 1, 2002 8,058 $1,007 $15,179 $137,227 1,153 $(31,077) $1,224 $123,560 Net income 3,782 3,782 Other comprehensive loss (1,174) (1,174) Cash dividends declared, $.31 per share (2,138) (2,138) Purchase of common stock 25 (891) (891) Stock options exercised 16 2 390 392 Noncash compensation expense attributed to stock option grants 166 166 ------------------------------------------------------------------------------------------------------------------------------------ Balance at March 31, 2002 8,074 $1,009 $15,735 $138,871 1,178 $(31,968) $50 $123,697 ------------------------------------------------------------------------------------------------------------------------------------ ------------------------------------------------------------------------------------------------------------------------------------ Balance at January 1, 2001 8,032 $1,004 $13,634 $131,021 860 $(20,755) $557 $125,461 Net income 3,906 3,906 Other comprehensive income 819 819 Cash dividends declared, $.30 per share (2,144) (2,144) Purchase of common stock 206 (7,297) (7,297) Stock options exercised 1 39 39 Noncash compensation expense attributed to stock option grants 242 242 ------------------------------------------------------------------------------------------------------------------------------------ Balance at March 31, 2001 8,033 $1,004 $13,915 $132,783 1,066 $(28,052) $1,376 $121,026 ------------------------------------------------------------------------------------------------------------------------------------ See accompanying notes to unaudited consolidated financial statements.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION The consolidated financial statements include the accounts of Farmers Capital Bank Corporation (the "Company"), a financial holding company, and its subsidiaries, including its principal subsidiary, Farmers Bank & Capital Trust Company. All significant intercompany transactions and accounts have been eliminated in consolidation. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Estimates used in the preparation of the financial statements are based on various factors including the current interest rate environment and the general strength of the local economy. Changes in the overall interest rate environment can significantly affect the Company's net interest income and the value of its recorded assets and liabilities. Actual results could differ from those estimates used in the preparation of the financial statements. The financial information presented as of any date other than December 31 has been prepared from the books and records without audit. The accompanying consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X and do not include all of the information and the footnotes required by accounting principles generally accepted in the United States of America for complete statements. In the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of such financial statements, have been included. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2001. 2. RECLASSIFICATIONS Certain reclassifications have been made to the consolidated financial statements of prior periods to conform to the current period presentation. These reclassifications do not affect net income or total shareholders' equity as previously reported. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS -------------------------------------------------------------------------------- OF OPERATIONS ------------- FORWARD-LOOKING STATEMENTS This report contains forward-looking statements under the Private Securities Litigation Reform Act of 1995 that involve risks and uncertainties. Although the Company believes that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate, and therefore, there can be no assurance that the forward-looking statements included herein will prove to be accurate. Factors that could cause actual results to differ from the results discussed in the forward-looking statements include, but are not limited to: economic conditions (both generally and more specifically in the markets in which the Company and its subsidiaries operate); competition for the Company's customers from other providers of financial services; government legislation and regulation (which changes from time to time and over which the Company has no control); changes in interest rates; material unforeseen changes in the liquidity, results of operations, or financial condition of the Company's customers; and other risks detailed in the Company's filings with the Securities and Exchange Commission, all of which are difficult to predict and many of which are beyond the control of the Company. RESULTS OF OPERATIONS FIRST QUARTER 2002 VS. FIRST QUARTER 2001 ----------------------------------------- The Company reported net income of $3.8 million for the first quarter of 2002, a decrease of $124 thousand or 3.2% compared to $3.9 million for the same period in 2001. Basic net income per share remained unchanged at $.55 in the quarterly comparison due to the Company's share buy-back program that has been in effect for several years. On a diluted per share basis, net income decreased $.01 to $.54 in the quarterly comparison. The decrease in net income is primarily attributed to a decrease in net interest margin. While the cost of funds for the Company has declined in the comparison, the yield on earning assets has declined to a greater extent. Interest income totaled $17.0 million for the first quarter of 2002, a decrease of $3.1 million or 15.5% compared to the same period in the prior year. Interest expense totaled $6.8 million, a decrease of $2.6 million or 27.8%. Net interest income fell $481 thousand or 4.5% in the comparison and totaled $10.2 million at March 31, 2002. The provision for loan losses decreased $102 thousand and totaled $121 thousand for the current quarter. Noninterest income increased $462 thousand or 13.1% due to a $265 thousand or 17.1% increase in service charges and fees on deposits and a $318 thousand increase in gains on the sale of investment securities. Noninterest expense increased $402 thousand or 4.7%, due to a $216 thousand or 4.4% increase in salaries and employee benefits and an increase in equipment expenses of $119 thousand or 14.7%. The return on average assets ("ROA") was 1.28% for the first quarter of 2002, a decrease of 16 basis points compared to 1.44% reported for the same period of 2001. Significant components of the 16 basis point decrease in ROA include the following: a decrease in net interest margin of 45 basis points to 3.99%; a decrease of 12 basis points in noninterest expense relative to average assets; a five basis point increase in noninterest income relative to average assets; and a nine basis point decrease in income taxes relative to average earning assets. The return on average equity was 12.35% for the first quarter of 2002, compared to 12.78% for the same period of 2001. NET INTEREST INCOME ------------------- The interest rate environment has been extremely volatile in the quarterly comparison, as general market interest rates have dropped significantly since the first quarter of 2001. Actions taken by the Federal Reserve Board (the "Fed") to reduce short-term interest rates by 325 basis points since the end of the first quarter of 2001 have affected the Company's net interest margin, as well as the net interest margin of many financial institutions in the industry. The effect of the Fed's actions has generally led to interest rates on earning assets declining more rapidly than rates paid on interest bearing liabilities. During a falling rate environment, the challenge is to reduce the rates paid on interest bearing liabilities (primarily deposits) to offset the decline in the yield on variable rate assets (primarily loans) while remaining competitive in our markets. The Company's yield on earning assets for the current three months was 6.52%, a reduction of 170 basis points from the same period a year ago. The cost of funds for the current three months was 2.98%, a decline of 165 basis points compared to the same period a year ago. A goal of the Company in the current interest rate environment is to increase earning assets and decrease the interest rates paid on interest bearing liabilities. Average earning assets increased $77.2 million or 7.6% in the quarterly comparison. However, as a percentage of total average assets, earning assets declined 107 basis points from 91.82% to 90.75%. Interest income totaled $17.0 million for the first quarter of 2002, a decrease of $3.1 million or 15.5% compared to the same period in the prior year. Interest expense totaled $6.8 million, a decrease of $2.6 million or 27.8%. Net interest income fell $481 thousand or 4.5% in the comparison and totaled $10.2 million at March 31, 2002. Interest and fees on loans decreased $2.3 million mainly due to a decrease in the average rate earned. Average loans increased $5.1 million or 0.75%, while the yield decreased 144 basis points to 7.76%. Interest on taxable securities increased $102 thousand or 3.9% due primarily to a $92.5 million increase in the average balance. The average rate earned on taxable securities decreased 210 basis points to 4.26% and nearly offset the effect of the increase in the average balance. Interest on nontaxable securities increased $113 thousand or 14.2% due to an $11.4 million increase in the average balance combined with a 10 basis point increase in the average rate earned to 6.61%. Interest on short-term investments, including time deposits in other banks, federal funds sold, and securities purchased under agreements to resell, decreased $984 thousand, which is due to a $31.8 million decrease in the average balance and a 390 basis point decrease in the average rate earned on these investments. Interest expense on deposits decreased $2.0 million or 25.2% to $6.0 million. This decreased resulted from a general decline in the average rate paid throughout the deposit portfolio, which offset increases in average balances. The decline in interest expense on deposits was as follows: time deposits $830 thousand or 14.7%; interest bearing demand deposits $507 thousand or 47.6%; and savings deposits $683 thousand or 52.7%. The average rate paid on time deposits, the largest component of interest bearing deposits, was 4.88% for the first quarter of 2002 compared to 6.08% for the same period of 2001. The average balance of time deposits increased $23.9 million or 6.34% to $400 million. The average rate paid on interest bearing demand deposits declined 115 basis points to 1.05% while the average balance increased $20.1 million or 10.2% to $216 million. The average rate paid on savings deposits decreased 183 basis points to 1.53% while the average balance increased $6.5 million or 4.2% to $163 million. Interest expense on overnight investments, consisting of federal funds sold and securities sold under agreements to repurchase, decreased $783 thousand due primarily to a 409 basis point decrease in the average rate paid. The significant decrease in the average rate paid mitigated the $21.6 million or 24.8% increase in the average balance. Interest expense on other borrowed funds increased $187 thousand in the comparison as additional borrowings from the Federal Home Loan Bank increased the average balance outstanding. The average rate paid on other borrowed funds declined 286 basis points to 3.90%. The net interest margin on a tax equivalent basis decreased 45 basis points to 3.99% during the first quarter of 2002 compared to 4.44% in the first quarter of 2001. The decrease in net interest margin is primarily attributed to a 40 basis point decline in the effect of noninterest bearing sources of funds. The effect of noninterest bearing sources of funds on net interest margin typically declines in a falling rate environment. Also contributing to the reduction in net interest margin is a five basis point decline in the spread between rates earned and paid that totaled 3.54% for the current quarter compared to 3.59% in the same quarter a year earlier. NONINTEREST INCOME ------------------ Noninterest income was $4.0 million for the current quarter, an increase of $462 thousand or 13.1% compared to the first quarter of the prior year. Service charges and fees on deposits, the largest component of noninterest income, increased $265 thousand or 17.1%. This increase is the result of the new overdraft policy and related NSF fee structure that is now fully in place at each of the Company's subsidiary banks. Other service charges, commissions, and fees decreased $28 thousand or 3.0% due primarily to a decrease in custodial safekeeping fees from the Commonwealth of Kentucky. Data processing fees were up 2.4% and totaled $336 thousand. Trust income decreased $19 thousand or 4.9% to $367 thousand. Gains on the sale of available for sale securities for the current quarter were $597 thousand compared to $279 thousand in the prior year. Net gains on the sale of mortgage loans were $55 thousand, an increase of $23 thousand over the prior year as mortgage loans originated for sale increased $3.2 million in the comparison. Other noninterest income decreased $105 thousand due primarily to losses on foreclosed assets. NONINTEREST EXPENSE ------------------- Total noninterest expenses increased $402 thousand or 4.7% from the first quarter of 2001 and totaled $8.9 million. Salaries and employee benefits, the largest component of noninterest expense, increased $216 thousand or 4.4% due primarily to normal salary increases and a slight increase in full time equivalent employees from 456 to 460. Occupancy expense, net of rental income, decreased $13 thousand and totaled $571 thousand. Equipment expense increased $119 thousand or 14.7% due to increases in normal depreciation expense and maintenance contracts. Other noninterest expense, including bank franchise taxes, increased $80 thousand or 3.7% to $2.3 million. INCOME TAXES ------------ Income tax expense for the first quarter of 2002 was $1.3 million, a decrease of $195 thousand or 12.7% from the first quarter of 2001. The effective tax rate was 26.1% for the current quarter, a decrease of 206 basis points from 28.2% for the first quarter of 2001. The decrease in the effective tax rate is due to a combination of factors, including the following: tax-exempt investment securities averaged $81.4 million, an increase of 16.3% in the quarterly comparison; tax-exempt municipal loans averaged $17.0 million, an increase of 50.5%; and taxable earning assets repriced at a faster pace than tax-exempt earning assets in the rapidly declining interest rate environment. The result is less taxable income in proportion to total income even without the growth in the tax-exempt earning assets. FINANCIAL CONDITION Total assets were $1.2 billion on March 31, 2002, an increase of $11.2 million or 1.0% from December 31, 2001. Fluctuations in assets and deposits are typical due to the relationship between the Company's principal subsidiary, Farmers Bank & Capital Trust Company and the Commonwealth of Kentucky. Farmers Bank provides various services to state agencies of the Commonwealth. As the depository for the Commonwealth, these agencies issue checks drawn on Farmers Bank, including paychecks and state income tax refunds. Farmers Bank also processes vouchers of the WIC (Women, Infants and Children) program for the Cabinet for Human Resources. The Bank's investment department provides services to the Teacher's Retirement systems. As the depository for the Commonwealth, large fluctuations in deposits are likely to occur on a daily basis. On an average basis, total assets were $1.2 billion for the first three months of 2002, an increase of $55.8 million or 4.9% from year-end 2001. Average earning assets were 90.75% of average total assets at March 31, 2002, a decrease of 60 basis points compared to year-end 2001 LOANS ----- Loans, net of unearned income, totaled $687 million at March 31, 2002, a decrease of $15.1 million or 2.1% from year-end 2001. This reduction in loans outstanding is a result of decreases in real estate loans of $8.8 million or 1.9%, commercial and industrial loans of $5.6 million or 7.2%, installment loans of $2.5 million or 3.2%, and lease financing of $1.3 million or 3.1%. Loans to states and political subdivision increased $3.5 million or 23.7%. Average net loans for the three-month period ended March 31, 2002 were $689 million, a decrease of $9.6 million or 1.4% compared to the year-end 2001 average. On average, loans represented 63.3% of earning assets during the current period compared to 66.9% for year-end 2001. As loan demand fluctuates, the available funds are redirected between either temporary investments or investment securities. ALLOWANCE FOR LOAN LOSSES ------------------------- The allowance for loan losses was $10.3 million at March 31, 2002, a decrease of $221 thousand from the prior year-end. The allowance for loan losses was 1.5% of net loans at March 31, 2002 and December 31, 2001. In management's opinion, the allowance for loan losses is adequate to cover losses inherent in the loan portfolio. The provision for loan losses decreased $102 thousand in the current three-month period compared to the same period in 2001. The Company had net charge-offs of $341 thousand in the first three months of 2002 compared to net charge-offs of $62 thousand in the same period of 2001. Annualized net charge-offs represented 0.20% of average net loans for the current three-month period, compared to 0.31% at year-end 2001. Management continues to emphasize collection efforts and evaluation of risks within the loan portfolio. NONPERFORMING ASSETS -------------------- Nonperforming assets for the Company include nonperforming loans, other real estate owned, and other foreclosed assets. Nonperforming loans consists of nonaccrual loans, restructured loans, and loans past due ninety days or more on which interest is still accruing. Nonperforming assets totaled $6.1 million at March 31, 2002, a decrease of $241 thousand or 3.8% from the prior year-end. Nonperforming loans totaled $5.1 million at March 31, 2002 a decrease of $129 thousand or 2.5% compared to year-end 2001. Nonperforming loans as a percentage of net loans remained at 0.74% on March 31, 2002 compared to year-end 2001. Other real estate owned, which had a balance of $715 thousand at year-end 2001, decreased to $56 thousand or 7.8% and totaled $659 thousand on March 31, 2002. TEMPORARY INVESTMENTS --------------------- Temporary investments consist of interest bearing deposits with other banks, federal funds sold, and securities purchased under agreements to resell and totaled $77.7 million at March 31, 2002, an increase of $27.3 million from year-end 2001. Temporary investments averaged $57.2 million for the first three months of 2002, a decrease of $25.6 million from year-end 2001. This decrease is primarily a result of the Company's net funding position and the relationship between its principal subsidiary and the Commonwealth of Kentucky as described in preceding sections of this report. Temporary investments are reallocated as loan demand and other investment alternatives present the opportunity. INVESTMENT SECURITIES --------------------- Investment securities were $347.5 million on March 31, 2002, an increase of $1.9 million or 0.6% from year-end 2001. Available for sale and held to maturity securities were $312.9 and $34.6 million, respectively. Investment securities averaged $342.2 million for the first quarter of 2002, an increase of $79.0 million or 30.0% from year-end 2001. The increase in average investment securities is attributable to the Company's continued efforts to manage its net interest margin during a period of relatively low market interest rates and correlates with the increase in borrowed funds. The Company had an unrealized gain on available for sale investment securities of $76 thousand at March 31, 2002 compared to $1.9 million at year-end 2001. The decrease is due primarily to recognized gains on the sale of available for sale investment securities during the current quarter of $597 thousand and decreases in the market value of securities held in the portfolio at March 31, 2002. DEPOSITS -------- Total deposits were $907.6 million at March 31, 2002, a decrease of $5.9 million or 0.6% from year-end 2001. Noninterest bearing deposits increased $5.1 million or 3.8% in the comparison. This increase is primarily due to the relationship between the Company's principal subsidiary and the Commonwealth of Kentucky as described in preceding sections of this report. On average, noninterest bearing deposits were $145.8 million during the current period, a decrease of $3.0 million or 2.0%. Interest bearing deposit balances decreased $11.1 million during the three months ended March 31, 2002 due to decreases in interest bearing checking accounts of $4.9 million, money market deposit accounts of $5.4 million, and savings accounts of $6.0 million. Time deposits increased $5.2 million in the comparison. On average, interest bearing deposits were $779.2 million in the current period, an increase of $31.8 million from year-end 2001. The increase in average interest bearing deposits is attributable to increases in interest bearing demand deposits of $17.3 million and time deposits of $14.4 million. Total deposits averaged $924.9 million, an increase of $28.8 million or 3.2% from year-end 2001. BORROWED FUNDS -------------- Borrowed funds totaled $153.7 million at March 31, 2002, an increase of $16.2 million or 11.8% from year-end 2001. Increases in short-term borrowings of $2.3 million along with an increase in long-term borrowings of $13.9 million account for the total increase in borrowed funds. Securities sold under agreements to repurchase decreased $4.4 million or 3.8% due primarily to the relationship between the Company's principal subsidiary and the Commonwealth of Kentucky as described in preceding sections of this report. Other short-term borrowings increased $6.7 million mainly due to an increase in borrowed funds from the Federal Home Loan Bank ("FHLB"). The $13.9 million increase in long-term borrowings is attributed to additional advances from the FHLB with varying interest rate terms and maturing within 10 years. Recent FHLB advances have been used to fund the purchase of additional investment securities and to aid the efforts of asset and liability management. Total borrowed funds averaged $143.8 million, an increase of $26.8 million or 22.9% from year-end 2001. LIQUIDITY The Parent Company's primary use of cash consists mainly of dividend payments to its common shareholders, purchases of its common stock, and other general operating purposes. Liquidity of the Parent Company depends primarily on the receipt of dividends from its subsidiary banks and cash balances maintained. As of March 31, 2002 combined retained earnings of the subsidiary banks were $65.6 million, of which $13.8 million was available for the payment of dividends to the Parent Company without obtaining prior approval from bank regulatory agencies. As a practical matter, payment of future dividends is also subject to the maintenance of other capital ratio requirements. Management expects that in the aggregate, its subsidiary banks will continue to have the ability to pay dividends in order to provide funds to the Parent Company during the remainder of 2002 sufficient to meet its liquidity needs. The Parent Company had cash balances of $12.1 million at March 31, 2002. The Company's objective as it relates to liquidity is to insure that subsidiary banks have funds available to meet deposit withdrawals and credit demands without unduly penalizing profitability. In order to maintain a proper level of liquidity, the banks have several sources of funds available on a daily basis, which can be used for liquidity purposes. These sources of funds primarily include the subsidiary banks' core deposits, consisting of both business and nonbusiness deposits; cash flow generated by repayment of loan principal and interest; and federal funds purchased and securities sold under agreements to repurchase. The terms of the recent FHLB advances have been taken into consideration in relation to the overall funding needs of the Company. For the longer term, the liquidity position is managed by balancing the maturity structure of the balance sheet. This process allows for an orderly flow of funds over an extended period of time. The Company's Asset and Liability Management Committee meets regularly and monitors the composition of the balance sheet to ensure comprehensive management of interest rate risk and liquidity. Liquid assets consist of cash and due from banks, short-term investments, and securities available for sale. At March 31, 2002, such assets totaled $444.6 million, an increase of $30.2 million or 7.3% from year-end 2001. Net cash provided by operating activities was $5.5 million in the first quarter of 2002, an increase of $268 thousand or 5.2% compared to the same period last year. Net cash provided by investing activities was $12.3 million, an increase of $8.5 million due primarily to the net paydowns in loans originated for investment. Net cash provided by financing activities was $7.6 million for the period ended March 31, 2002. In the same quarter of the prior year, financing activities used $91.9 million, a difference of $99.5 million relating primarily to deposit account activity. CAPITAL RESOURCES Shareholders' equity was $123.7 million on March 31, 2002, an increase of $137 thousand or 0.1% from year-end 2001. The Company purchased 25 thousand shares of its outstanding common stock during the first three months of 2002 for a total cost of $891 thousand. The Company issued 16 thousand shares of common stock during the first three months pursuant to its nonqualified stock option plan. Dividends of $2.1 million or $.31 per share were declared during the first three months of 2002, an increase of 3.3% per share compared to the prior year. Accumulated other comprehensive income, consisting of unrealized holding gains on available for sale investment securities (net of tax), decreased $1.2 million from year-end 2001 due to the sale of investment securities and general market value declines of securities held at March 31, 2002. Consistent with the objective of operating a sound financial organization, the Company's goal is to maintain capital ratios well above the regulatory minimum requirements. The Company's capital ratios as of March 31, 2002, the regulatory minimums and the regulatory standard for a "well capitalized" institution are as follows: Farmers Capital Regulatory Well Bank Corporation Minimum Capitalized -------------------------------------------------------------------------------- Tier 1 risk based 16.79% 4.00% 6.00% Total risk based 18.04% 8.00% 10.00% Leverage 10.31% 4.00% 5.00% -------------------------------------------------------------------------------- The capital ratios of all the subsidiary banks, on an individual basis, were in excess of the applicable minimum regulatory capital ratio requirements at March 31, 2002. EFFECT OF IMPLEMENTING RECENTLY ISSUED ACCOUNTING STANDARDS Effective January 1, 2002, the Company adopted Financial Accounting Standards Board ("FASB") Statement of Financial Accounting Standards ("SFAS") No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. SFAS requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead be tested for impairment at least annually in accordance with the provisions of Statement 142. Statement 142 also requires that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values and reviewed for impairment in accordance with SFAS No. 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF. The adoption of SFAS No. 142 did not have an effect on the consolidated financial statements of the Company. Effective January 1, 2002, the Company adopted FASB SFAS No. 144, ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. While SFAS No. 144 supersedes SFAS No. 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF, it retains many of the fundamental provisions of that Statement. SFAS No. 144 also supersedes the accounting and reporting provisions of Accounting Principles Board Opinion No. 30, REPORTING THE RESULTS OF OPERATIONS--REPORTING THE EFFECTS OF DISPOSAL OF A SEGMENT OF A BUSINESS, AND EXTRAORDINARY, UNUSUAL AND INFREQUENTLY OCCURRING EVENTS AND TRANSACTIONS, for the disposal of a segment of a business. However, it retains the requirement in Opinion No. 30 to report separately discontinued operations and extends that reporting to a component of an entity that either has been disposed of (by sale, abandonment, or in a distribution to owners) or is classified as held for sale. By broadening the presentation of discontinued operations to include more disposal transactions, the FASB has enhanced management's ability to provide information that helps financial statement users to assess the effects of a disposal transaction on the ongoing operations of an entity. The adoption of SFAS No. 144 did not have an effect on the consolidated financial statements of the Company. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ------------------------------------------------------------------- The Company uses a simulation model as a tool to monitor and evaluate interest rate risk exposure. The model is designed to measure the sensitivity of net interest income and net income to changing interest rates over future time periods. Forecasting net interest income and its sensitivity to changes in interest rates requires the Company to make assumptions about the volume and characteristics of many attributes, including assumptions relating to the replacement of maturing earning assets and liabilities. Other assumptions include, but are not limited to, projected prepayments, projected new volume, and the predicted relationship between changes in market interest rates and changes in customer account balances. These effects are combined with the Company's estimate of the most likely rate environment to produce a forecast of net interest income and net income. The forecasted results are then adjusted for the effect of a gradual increase and decrease in market interest rates on the Company's net interest income and net income. Because assumptions are inherently uncertain, the model cannot precisely estimate net interest income or net income or the effect of interest rate changes on net interest income and net income. Actual results could differ significantly from simulated results. At March 31, 2002, the model indicated that if rates were to gradually increase by 150 basis points during the calendar year, then net interest income and net income would increase 0.54% and 1.12%, respectively for the year ending December 31, 2002. The model indicated that if rates were to gradually decrease by 150 basis points over the same period, then net interest income and net income would decrease 2.06% and 4.68%, respectively. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS -------------------------- As of March 31, 2002, there had been no material changes to the cases previously reported, and no new significant cases have emerged. There were various other pending legal actions and proceedings against the Company arising from the normal course of business and in which claims for damages are asserted. Management, after discussion with legal counsel, believes that these actions are without merit and that the ultimate liability resulting from these legal actions and proceedings, if any, will not have a material adverse effect upon the consolidated financial statements of the Company. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a) List of Exhibits ---------------- 11 Statement re computation of per share earnings b) Reports on Form 8-K ------------------- On March 13, 2002, the Registrant filed a report on Form 8-K regarding the March 8, 2002 death of Charles S. Boyd, President and Chief Executive Officer of the Registrant. On March 11, 2002, the Board of Directors of the Registrant elected G. Anthony Busseni as the permanent President and Chief Executive Officer to replace Mr. Boyd, effective immediately. There were no financial statements filed with this Form 8-K. 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. Date: May 9, 2002 /s/ G. Anthony Busseni -------------------- ----------------------------------------------- G. Anthony Busseni, President and CEO (Principal Executive Officer) Date: 5-9-02 /s/ C Douglas Carpenter -------------------- ----------------------------------------------- Cecil Douglas Carpenter, Vice President, Secretary, and CFO (Principal Financial and Accounting Officer) Exhibit 11 STATEMENT RE COMPUTATION OF PER SHARE EARNINGS ---------------------------------------------- -------------------------------------------------------------------------------- (In thousands, except per share data) Three months ended March 31, 2002 2001 -------------------------------------------------------------------------------- Net income, basic and diluted $ 3,782 $ 3,906 -------------------------------------------------------------------------------- Average shares outstanding 6,901 7,099 Effect of dilutive stock options 60 22 -------------------------------------------------------------------------------- Average diluted shares outstanding 6,961 7,121 -------------------------------------------------------------------------------- Net income per share, basic $ .55 $ .55 Net income per share, diluted .54 .55 --------------------------------------------------------------------------------