-----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, Bv/gdUmIK4tVO3SilZOzPeGw707a2qTXkoW7SYr5QVUwhLJiQSDv55CAvqlSj+Zt BZfjETMB7iG/A/MkQZWcyw== 0000950159-99-000074.txt : 19990330 0000950159-99-000074.hdr.sgml : 19990330 ACCESSION NUMBER: 0000950159-99-000074 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990329 FILER: COMPANY DATA: COMPANY CONFORMED NAME: DNB FINANCIAL CORP /PA/ CENTRAL INDEX KEY: 0000713671 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 232222567 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 000-16667 FILM NUMBER: 99575131 BUSINESS ADDRESS: STREET 1: 4 BRANDYWINE AVE CITY: DOWNINGTOWN STATE: PA ZIP: 19335 BUSINESS PHONE: 6102691040 MAIL ADDRESS: STREET 1: 4 BRANDYWINE AVENUE CITY: DOWNINGTOWN STATE: PA ZIP: 19335 10-K405 1 SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT 1934 For the fiscal year ended December 31, 1998 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE SECURITIES EXCHANGE ACT 1934 For the transition period from ____________________ to __________________ Commission file Number 0-16667 DNB FINANCIAL CORPORATION (Exact Name of registrant as specified in its charter) PENNSYLVANIA 23-2222567 (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 4 BRANDYWINE AVENUE, DOWNINGTOWN, PENNSYLVANIA 19335 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (610) 269-1040 Securities registered pursuant to Section 12 (b) of the Act NOT APPLICABLE Securities registered pursuant to Section 12 (g) of the Act Common stock, par value $1.00 per share (Title of class) 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. [ X ] Yes [ ] No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ X ] Yes [ ] No As of March 26, 1999, the aggregate market value of the 1,453,038 shares of Common Stock of the Registrant issued and outstanding on such date, excluding 187,496 shares beneficially owned by all directors and officers of the Registrant as a group, was approximately $43.2 million. This figure is based on the closing sales price of $29.75 per share of the Registrant's Common Stock on March 25, 1999. Number of shares of Common Stock outstanding as of March 26, 1999 1,524,229 DOCUMENTS INCORPORATED BY REFERENCE Portions of the following documents are incorporated by reference Parts I, III and IV - Proxy Statement for the Annual Meeting of Stockholders to be held April 27, 1999. Parts II and IV - Annual Report to Stockholders for the Year Ended December 31, 1998. DNB FINANCIAL CORPORATION Table of Contents Part I Page Item 1. Business 3 Item 2. Properties 10 Item 3. Legal Proceedings 11 Item 4. Submission of Matters to a Vote of Security Holders 11 Part II Item 5. Market for Registrant's Common Equity and Related 11 Stockholder Matters Item 6. Selected Financial Data 11 Item 7. Management's Discussion and Analysis of Financial 11 Condition and Results of Operations Item 7a. Quantitative and Qualitative Disclosures About Market Risk 11 Item 8. Financial Statements Supplementary Data 11 Item 9. Changes in and Disagreements with Accountants 11 on Accounting and Financial Disclosure Part III Item 10. Directors and Executive Officers of the Registrant 11 Item 11. Executive Compensation 12 Item 12. Security Ownership of Certain 12 Beneficial Owners and Management Item 13. Certain Relationships and Related Transactions 12 Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 12 Signatures 14 2 DNB FINANCIAL CORPORATION FORM 10-K Part I Item 1. Business General DNB Financial Corporation (the "Registrant"), a Pennsylvania business corporation, is a bank holding company registered with and supervised by the Board of Governors of the Federal Reserve System (Federal Reserve Board). Registrant was incorporated on October 28, 1982 and commenced operations on July 1, 1983 upon consummation of the acquisition of all of the outstanding stock of The Downingtown National Bank (the "Bank"). Since commencing operations, Registrant's business has consisted primarily of managing and supervising the Bank, and its principal source of income has been dividends paid by the Bank. Registrant has one wholly-owned subsidiary, the Bank. At December 31, 1998, Registrant had total consolidated assets, total liabilities and stockholders' equity of $265.4 million, $244.8 million, and $20.6 million, respectively. The Bank was organized in 1861. The Bank is a national banking association that is a member of the Federal Reserve System, the deposits of which are insured by the Federal Deposit Insurance Corporation ("FDIC"). The Bank, having six full service branch locations within Chester County, Pennsylvania, is a full service commercial bank providing a wide range of services to individuals and small to medium sized businesses in its southeastern Pennsylvania market area, including accepting time, demand, and savings deposits and making secured and unsecured commercial, real estate and consumer loans. In addition, the Bank has one limited service branch and a full-service Trust and Investment Services Division. The Bank's subsidiary, Downco, Inc. was incorporated in December, 1995 for the purpose of acquiring and holding other real estate owned acquired through foreclosure or deed in lieu of foreclosure. The Bank's legal headquarters are located at 4 Brandywine Avenue, Downingtown, Pennsylvania. As of December 31, 1998, the Bank had total assets of $265.4 million, total deposits of $225.4 million and total stockholders' equity of $20.6 million. The Bank's business is not seasonal in nature. Its deposits are insured by the FDIC to the extent provided by law. At December 31, 1998, the Bank had 77 full-time employees and 16 part-time employees. The Bank derives its income principally from interest charged on loans and, to a lesser extent, interest earned on investments and fees received in connection with the origination of loans and for other services. The Bank's principal expenses are interest expense on deposits and operating expenses. Funds for activities are provided principally by operating revenues, deposit growth and the repayment of outstanding loans. Competition - Bank The Bank encounters vigorous competition from a number of sources, including other commercial banks, thrift institutions, other financial institutions and financial intermediaries. In addition to commercial banks, federal and state savings and loan associations, savings banks, credit unions and industrial savings banks actively compete in the Bank's market area to 3 provide a wide variety of banking services. Mortgage banking firms, real estate investment trusts, finance companies, insurance companies, leasing companies and brokerage companies, financial affiliates of industrial companies and certain government agencies provide additional competition for loans and for certain financial services. The Bank also currently competes for interest-bearing funds with a number of other financial intermediaries which offer a diverse range of investment alternatives, including brokerage firms and mutual funds. Supervision and Regulation - Registrant Federal Banking Laws The Registrant is subject to a number of complex Federal banking laws --- most notably the provisions of the Bank Holding Company Act of 1956, as amended ("Bank Holding Company Act") and the Change in Bank Control Act of 1978 ("Change in Control Act"), and to supervision by the Federal Reserve Board. Bank Holding Company Act The Bank Holding Company Act requires a "company" (including the Registrant) to secure the prior approval of the Federal Reserve Board before it owns or controls, directly or indirectly, more than five percent (5%) of the voting shares or substantially all of the assets of any bank. It also prohibits acquisition by any "company" (including the Registrant) of more than five percent (5%) of the voting shares of, or interest in, or all or substantially all of the assets of, any bank located outside of the state in which a current bank subsidiary is located unless such acquisition is specifically authorized by laws of the state in which such bank is located. A "bank holding company" (including the Registrant) is prohibited from engaging in or acquiring direct or indirect control of more than five percent (5%) of the voting shares of any company engaged in non-banking activities unless the Federal Reserve Board, by order or regulation, has found such activities to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. In making this determination, the Federal Reserve Board considers whether the performance of these activities by a bank holding company would offer benefits to the public that outweigh possible adverse effects. Applications under the Bank Holding Company Act and the Change in Control Act are subject to review, based upon the record of compliance of the applicant with the Community Reinvestment Act of 1977 ("CRA"). See further discussion below. The Registrant is required to file an annual report with the Federal Reserve Board and any additional information that the Federal Reserve Board may require pursuant to the Bank Holding Company Act. The Federal Reserve Board may also make examinations of the Registrant and any or all of its subsidiaries. Further, under Section 106 of the 1970 amendments to the Bank Holding Company Act and the Federal Reserve Board's regulations, a bank holding company and its subsidiaries are prohibited from engaging in certain tie-in arrangements in connection with any extension of credit or provision of credit or provision of any property or services. The so-called "anti-tie-in" provisions state generally that a bank may not extend credit, lease, sell property or furnish any service to a customer on the condition that the customer provide additional credit or service to the bank, to its bank holding company or to any other subsidiary of its bank holding company or on the condition that the customer not obtain other credit or service from a competitor of the bank, its bank holding company or any subsidiary of its bank holding company. Permitted Non-Banking Activities. The Federal Reserve Board permits bank holding companies to engage in non-banking activities so closely related to banking or managing or controlling banks as to be a proper incident thereto. A number of activities are authorized by Federal Reserve Board regulation, while other activities require prior Federal Reserve Board 4 approval. The types of permissible activities are subject to change by the Federal Reserve Board. Change in Bank Control Act Under the Change in Control Act, no person, acting directly or indirectly or through or in concert with one or more other persons, may acquire "control" of any Federally insured depository institution unless the appropriate Federal banking agency has been given 60 days prior written notice of the proposed acquisition and within that period has not issued a notice disapproving of the proposed acquisition or has issued written notice of its intent not to disapprove the action. The period for the agency's disapproval may be extended by the agency. Upon receiving such notice, the Federal agency is required to provide a copy to the appropriate state regulatory agency, if the institution of which control is to be acquired is state chartered, and the Federal agency is obligated to give due consideration to the views and recommendations of the state agency. Upon receiving a notice, the Federal agency is also required to conduct an investigation of each person involved in the proposed acquisition. Notice of such proposal is to be published and public comment solicited thereon. A proposal may be disapproved by the Federal agency if the proposal would have anticompetitive effects, if the proposal would jeopardize the financial stability of the institution to be acquired or prejudice the interests of its depositors, if the competence, experience or integrity of any acquiring person or proposed management personnel indicates that it would not be in the interest of depositors or the public to permit such person to control the institution, if any acquiring person fails to furnish the Federal agency with all information required by the agency, or if the Federal agency determines that the proposed transaction would result in an adverse effect on a deposit insurance fund. In addition, the Change in Control Act requires that, whenever any Federally insured depository institution makes a loan or loans secured, or to be secured, by 25% or more of the outstanding voting stock of a Federally insured depository institution, the president or chief executive officer of the lending bank must promptly report such fact to the appropriate Federal banking agency regulating the institution whose stock secures the loan or loans. Pennsylvania Banking Laws Under the Pennsylvania Banking Code of 1965, as amended ("PA Code"), the Registrant is permitted to control an unlimited number of banks, subject to prior approval of the Federal Reserve Board as more fully described above. The PA Code authorizes reciprocal interstate banking without any geographic limitation. Reciprocity between states exists when a foreign state's law authorizes Pennsylvania bank holding companies to acquire banks or bank holding companies located in that state on terms and conditions substantially no more restrictive than those applicable to such an acquisition by a bank holding company located in that state. Interstate ownership of banks in Pennsylvania with banks in Delaware, Maryland, New Jersey, Ohio, New York and other states, is currently authorized. A number of additional states are considering legislation to authorize reciprocal interstate banking. Congress has passed interstate banking legislation that should accelerate the authorization for interstate banking. (See discussion of 1994 Interstate and PA Banking Legislation on Page 11) Environmental Laws The Registrant, the Bank and the Bank's customers are subject in the course of their activities to a growing number of Federal, state and local environmental laws and regulations. Neither the Registrant nor the Bank anticipates that compliance with environmental laws and regulations will have any material effect on capital expenditures, earnings, or on its competitive positions. 5 Supervision and Regulation - Bank The operations of the Bank are subject to Federal and State statutes applicable to banks chartered under the banking laws of the United States, to members of the Federal Reserve System and to banks whose deposits are insured by the FDIC. Bank operations are also subject to regulations of the Office of the Comptroller of the Currency ("OCC"), the Federal Reserve Board and the FDIC. The primary supervisory authority of the Bank is the OCC, who regularly examines the Bank. The OCC has the authority to prevent a national bank from engaging in an unsafe or unsound practice in conducting its business. Federal and state banking laws and regulations govern, among other things, the scope of a bank's business, the investments a bank may make, the reserves against deposits a bank must maintain, loans a bank makes and collateral it takes, the activities of a bank with respect to mergers and consolidations and the establishment of branches. All nationally and state-chartered banks in Pennsylvania are permitted to maintain branch offices in any county of the state. National bank branches may be established only after approval by the OCC. It is the general policy of the OCC to approve applications to establish and operate domestic branches, including ATMs and other automated devices that take deposits, provided that approval would not violate applicable Federal or state laws regarding the establishment of such branches. The OCC reserves the right to deny an application or grant approval subject to conditions if (1) there are significant supervisory concerns with respect to the applicant or affiliated organizations, (2) in accordance with CRA, the applicant's record of helping meet the credit needs of its entire community, including low and moderate income neighborhoods, consistent with safe and sound operation, is less than satisfactory, or (3) any financial or other business arrangement, direct or indirect, involving the proposed branch or device and bank "insiders" (directors, officers, employees and 10%-or-greater shareholders) involves terms and conditions more favorable to the insiders than would be available in a comparable transaction with unrelated parties. The Bank, as a subsidiary of a bank holding company, is subject to certain restrictions imposed by the Federal Reserve Act on any extensions of credit to the bank holding company or its subsidiaries, on investments in the stock or other securities of the bank holding company or its subsidiaries and on taking such stock or securities as collateral for loans. The Federal Reserve Act and Federal Reserve Board regulations also place certain limitations and reporting requirements on extensions of credit by a bank to principal shareholders of its parent holding company, among others, and to related interests of such principal shareholders. In addition, such legislation and regulations may affect the terms upon which any person becoming a principal shareholder of a holding company may obtain credit from banks with which the subsidiary bank maintains a correspondent relationship. Prompt Corrective Action - Federal banking law mandates certain "prompt corrective actions" which Federal banking agencies are required to take, and certain actions which they have discretion to take, based upon the capital category into which a Federally regulated depository institution falls. Regulations have been adopted by the Federal bank regulatory agencies setting forth detailed procedures and criteria for implementing prompt corrective action in the case of any institution which is not adequately capitalized. Under the rules, an institution will be deemed to be "adequately capitalized" or better if it exceeds the minimum Federal regulatory capital requirements. However, it will be deemed "undercapitalized" if it fails to meet the minimum capital requirements, "significantly undercapitalized" if it has a total risk-based capital ratio that is less than 6.0%, a Tier 1 risk-based capital ratio that is less than 3.0%, or a leverage ratio that is less than 3.0%, and "critically undercapitalized" if the 6 institution has a ratio of tangible equity to total assets that is equal to or less than 2.0%. The rules require an undercapitalized institution to file a written capital restoration plan, along with a performance guaranty by its holding company or a third party. In addition, an undercapitalized institution becomes subject to certain automatic restrictions including a prohibition on the payment of dividends, a limitation on asset growth and expansion, and in certain cases, a limitation on the payment of bonuses or raises to senior executive officers, and a prohibition on the payment of certain "management fees" to any "controlling person". Institutions that are classified as undercapitalized are also subject to certain additional supervisory actions, including increased reporting burdens and regulatory monitoring, a limitation on the institution's ability to make acquisitions, open new branch offices, or engage in new lines of business, obligations to raise additional capital, restrictions on transactions with affiliates, and restrictions on interest rates paid by the institution on deposits. In certain cases, bank regulatory agencies may require replacement of senior executive officers or directors, or sale of the institution to a willing purchaser. If an institution is deemed to be "critically undercapitalized" and continues in that category for four quarters, the statute requires, with certain narrowly limited exceptions, that the institution be placed in receivership. Under the Federal Deposit Insurance Act, the OCC possesses the power to prohibit institutions regulated by it, such as the Bank, from engaging in any activity that would be an unsafe and unsound banking practice and in violation of the law. Moreover, Federal law enactments have expanded the circumstances under which officers or directors of a bank may be removed by the institution's Federal supervisory agency; restricted and further regulated lending by a bank to its executive officers, directors, principal shareholders or related interests thereof; and restricted management personnel of a bank from serving as directors or in other management positions with certain depository institutions whose assets exceed a specified amount or which have an office within a specified geographic area; and restricted management personnel from borrowing from another institution that has a correspondent relationship with their bank. Capital Rules. Pursuant to The Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA") and the laws it amended, the Federal banking agencies have issued certain "risk-based capital" guidelines, which supplemented existing capital requirements. In addition, the OCC imposes certain "leverage" requirements on national banks such as the Bank. Banking regulators have authority to require higher minimum capital ratios for an individual bank or bank holding company in view of its circumstances. The risk-based guidelines require all banks and bank holding companies to maintain two "risk-weighted assets" ratios. The first is a minimum ratio of total capital ("Tier 1" and "Tier 2" capital) to risk-weighted assets equal to 8.00%; the second is a minimum ratio of "Tier 1" capital to risk-weighted assets equal to 4.00%. Assets are assigned to five risk categories, with higher levels of capital being required for the categories perceived as representing greater risk. In making the calculation, certain intangible assets must be deducted from the capital base. The risk-based capital rules are designed to make regulatory capital requirements more sensitive to differences in risk profiles among banks and bank holding companies and to minimize disincentives for holding liquid assets. The risk-based capital rules also account for interest rate risk. Institutions with interest rate risk exposure above a normal level, would be required to hold extra capital in proportion to that risk. A bank's exposure to declines in the economic value of its capital due to changes in interest rates is a factor that the banking agencies will consider in evaluating a bank's capital adequacy. The rule does not codify an explicit minimum capital charge for interest rate risk. The Bank currently monitors and manages its assets and liabilities for interest rate risk, and management believes that the interest rate risk rules which have been implemented and proposed will not materially adversely affect the Bank's operations. 7 The OCC's "leverage" ratio rules require national banks which are rated the highest by the OCC in the composite areas of capital, asset quality, management, earnings and liquidity to maintain a ratio of "Tier 1" capital to "adjusted total assets" (equal to the bank's average total assets as stated in its most recent quarterly Call Report filed with the OCC, minus end-of-quarter intangible assets that are deducted from Tier 1 capital) of not less than 3.00%. For banks which are not the most highly rated, the minimum "leverage" ratio will range from 4.00% to 5.00%, or higher at the discretion of the OCC, and is required to be at a level commensurate with the nature of the riskiness of the bank's condition and activities. For purposes of the capital requirements, "Tier 1" or "core" capital is defined to include common stockholders' equity and certain noncumulative perpetual preferred stock and related surplus. "Tier 2" or "qualifying supplementary" capital is defined to include a bank's allowance for loan and lease losses up to 1.25% of risk-weighted assets, plus certain types of preferred stock and related surplus, certain "hybrid capital instruments" and certain term subordinated debt instruments. The Bank is in compliance with each of these capital rules, and as of December 31, 1998 the required ratios and the Bank's actual ratios are as follows:
Capital Rule Required Ratio Bank's Ratio Excess Tier 1 Risk-Based Capital 4.00% 11.08% 7.08% Total (Tiers 1 and 2) Risk-Based Capital 8.00 12.35 4.35 Leverage Ratio 4.00 7.92 3.92
On the basis of an analysis of the rules and the projected composition of the Registrant's consolidated assets and the risks presented by the Bank's activities, it is not expected that the foregoing capital rules will have a material effect on the Registrant's business and capital plans. Deposit Insurance Assessments. All Federally insured depository institutions pay special assessments toward the funding of interest payments on FICO bonds which were issued in 1989 to fund the savings and loan bailout. The special assessments, which were effective for periods commencing January 1, 1997, are calculated on a deposit-by-deposit basis and differs depending upon whether a deposit is insured by SAIF or BIF. Currently, the special assessment rates are 6.1 basis points on all SAIF-assessable deposits, and 20% of that rate, or approximately 1.2 basis points, on all BIF-assessable deposits, regardless of whether an institution is a "bank", a "savings association". After December 31, 1999 (or when the last savings association ceases to exist, if earlier), all assessable deposits at all institutions will be assessed at the same rates in order to pay FICO bond interest. The FDIC sets deposit insurance assessment rates on a semiannual basis. The FDIC has authority to reduce the assessment rates whenever the ratio of its reserves to insured deposits is equal to or greater than 1.25%, and to increase deposit insurance assessments whenever that ratio is less than 1.25%. An institution's semiannual deposit insurance assessment is computed primarily by multiplying its "average assessment base" (generally, total insurable domestic deposits) for the prior semiannual period by one-half the annual assessment rate applicable to that institution depending upon its risk category, which is based principally on two measures of risk. These measures involve capital and supervisory factors. 8 For the capital measure, institutions are assigned semiannually to one of three capital groups according to their levels of supervisory capital as reported on their Call Reports: "well capitalized" (group 1), "adequately capitalized" (group 2) and "undercapitalized" (group 3). The capital ratio standards for classifying an institution in one of these three groups are total risk-based capital ratio (10 percent or greater for group 1, and between 8 and 10 percent for group 2), the Tier 1 risk-based capital ratio (6 percent or greater for group 1, and between 4 and 6 percent for group 2), and the leverage capital ratio (5 percent or greater for group 1, between 4 and 5 percent for group 2). Management believes that the Bank has met the definition of "well capitalized" for regulatory purposes on December 31, 1998 and thereafter. Within each capital group, institutions are assigned to one of three supervisory risk subgroups --subgroup A, B, or C, depending upon an assessment of the institution's perceived risk based upon the results of its most recent examination and other information available to regulators. Subgroup A will consist of financially sound institutions with only a few minor weaknesses. Subgroup B will consist of institutions that demonstrate weaknesses which, if not corrected, could result in significant deterioration of the institution and increased risk of loss to the BIF. Subgroup C will consist of institutions that pose a substantial probability of loss to the deposit insurance fund unless effective corrective action is taken. Thus, there are nine possible classifications to which varying assessment rates are applicable. The regulation generally prohibits institutions from disclosing their subgroup assignments or assessment risk classifications without FDIC authorization. The following table sets forth the current BIF assessment rates by capital group and supervisory risk subgroup (with no minimum assessment amount): Supervisory subgroup Capital Group A B C ------------- -------------------------- 1 0 3 17 2 3 10 24 3 10 24 27 Interstate Banking - Federal law permits interstate bank mergers and acquisitions. Limited branch purchases are still subject to state laws. Pennsylvania law permits out-of-state banking institutions to establish branches in Pennsylvania with the approval of the Pennsylvania Banking Department, provided the law of the state where the banking institution is located would permit a Pennsylvania banking institution to establish and maintain a branch in that state on substantially similar terms and conditions. It also permits Pennsylvania banking institutions to maintain branches in other states. Bank management anticipates that interstate banking will continue to increase competitive pressures in the Bank's market by permitting entry of additional competitors, but management is of the opinion that this will not have a material impact upon the anticipated results of operations of the Bank. Under the Bank Secrecy Act ("BSA"), the Bank is required to report to the Internal Revenue Service, currency transactions of more than $10,000 or multiple transactions of which the Bank is aware in any one day that aggregate in excess of $10,000. Civil and criminal penalties are provided under the BSA for failure to file a required report, for failure to supply information required by the BSA or for filing a false or fraudulent report. Under the Community Reinvestment Act of 1977 ("CRA"), the record of a bank holding company and its subsidiary banks must be considered by the appropriate Federal banking agencies, including the Federal Reserve and the OCC, in reviewing and approving or disapproving a variety of regulatory applications including approval of a branch or other deposit facility, office relocation, a merger and certain acquisitions of bank shares. Federal banking agencies have recently demonstrated an increased readiness to deny applications based on unsatisfactory CRA performance. The OCC is required to assess the record of the Bank to determine if it is meeting the credit needs of the community (including low and moderate 9 neighborhoods) which it serves. FIRREA amended the CRA to require, among other things, that the OCC make publicly available an evaluation of the Bank's record of meeting the credit needs of its entire community including low- and moderate-income neighborhoods. This evaluation includes a descriptive rating (outstanding, satisfactory, needs to improve, or substantial noncompliance) and a statement describing the basis for the rating. The Bank is subject to a variety of consumer protection laws, including the Truth in Lending Act, the Truth in Savings Act adopted as part of the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), the Equal Credit Opportunity Act, the Home Mortgage Disclosure Act, the Electronic Funds Transfer Act, the Real Estate Settlement Procedures Act and the regulations adopted thereunder. In the aggregate, compliance with these consumer protection laws and regulations involves substantial expense and administrative time on the part of the Bank and the Registrant. Legislation and Regulatory Changes - From time to time, legislation is enacted which has the effect of increasing the cost of doing business, limiting or expanding permissible activities and/or affecting the competitive balance between banks and other financial institutions. Proposals to change the laws and regulations governing the operations and taxation of banks, bank holding companies and other financial institutions are frequently made in Congress, and before various bank regulatory agencies. No prediction can be made as to the likelihood of any major changes or the impact such changes might have on the Registrant and its subsidiary Bank. Effect of Government Monetary Policies - The earnings of the Registrant are and will be affected by domestic economic conditions and the monetary and fiscal policies of the United States Government and its agencies (particularly the Federal Reserve Board). The monetary policies of the Federal Reserve Board have had and will likely continue to have, an important impact on the operating results of commercial banks through its power to implement national monetary policy in order, among other things, to curb inflation or combat a recession. The Federal Reserve Board has a major effect upon the levels of bank loans, investments and deposits through its open market operations in United States Government securities and through its regulation of, among other things, the discount rate on borrowing of member banks and the reserve requirements against member bank deposits. It is not possible to predict the nature and impact of future changes in monetary and fiscal policies. Item 2. Properties The main office of the Bank is located at 4 Brandywine Avenue, Downingtown, Pennsylvania 19335. The Registrant's registered office is also at this location. The Registrant pays no rent or other form of consideration for the use of the Bank's main office as its principal executive office. The Bank also has an operations center located at 104 Brandywine Avenue, Downingtown. With the exception of its limited service office at Tel Hai, which it leases, the Bank owns all of its existing branches as described below which had a net book value of $2.9 million including leasehold improvements at December 31, 1998. The bank has six full service branch offices located in Chester County, Pennsylvania. They are: Little Washington Office (Intersection of Route 322 and Little Washington Road, Downingtown), East End Office (701 East Lancaster Avenue, Downingtown), Lionville Office (Intersection of Route 100 and Welsh Pool Road, Exton), Ludwig's Corner Office (Intersection of Routes 100 and 401, Uwchland), Caln Office (1835 East Lincoln Highway, Coatesville). The Bank also has a limited service office at Tel Hai Retirement Community (Beaver Dam Road, Honey Brook). In addition, the Bank is purchasing a branch office with $9.5 million of deposits from Keystone Financial Bank, NA, a subsidiary of Keystone Financial, Inc., Harrisburg, PA. The branch facility is located at 215 East Cypress Street in Kennett Square, PA and the Purchase and Assumption is anticipated to be complete by March 27, 1999. The Bank has also received OCC approval for a de novo full service office at 1115 West Chester Pike, West Chester, PA. The Bank anticipates a second quarter 1999 opening of this leased facility. The Bank also anticipates opening a branch, subject to regulatory approval and the signing of a final lease in Exton, PA during the third quarter of 2000. Item 3. Legal Proceedings Neither the Registrant nor the Bank, are involved in any pending legal proceedings other than nonmaterial legal proceedings occurring in the ordinary course of business. In the opinion of management, the aggregate amount involved in such proceedings is not material to the financial condition or results of operations. Item 4. Submission of Matters to a Vote of Security Holders Not applicable. Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters The information required herein is incorporated by reference in the Registrant's Annual Report to Stockholders ("Annual Report") for the fiscal year ended December 31, 1998 at page 20 filed as Exhibit 13. Item 6. Selected Financial Data The information required herein is incorporated by reference in the Registrant's Annual Report for the year ended December 31, 1998 at page 1 filed as Exhibit 13. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations The information required herein is incorporated by reference in the Registrant's Annual Report for the year ended December 31, 1998 from pages 4 to 20 filed as Exhibit 13. Item 7a. Quantitative and Qualitative Disclosures About Market Risk The information required by this item is incorporated herein by reference to pages 16 and 17 of Registrant's 1998 Annual Report to Shareholders attached to this filing as Exhibit 13. Item 8. Financial Statements and Supplementary Data The information required herein is incorporated by reference in the Registrant's Annual Report for the year ended December 31, 1998 from pages 22 to 41 filed as Exhibit 13. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None Part III Item 10. Directors and Executive Officers of the Registrant The information required herein is incorporated by reference in the Registrant's Proxy Statement from pages 2 to 6 filed as Exhibit 22. 11 Item 11. Executive Compensation The information required herein is incorporated by reference in the Registrant's Proxy Statement from pages 6 to 9 filed as Exhibit 22. Item 12. Security Ownership of Certain Beneficial Owners and Management The information required herein is incorporated by reference in the Registrant's Proxy Statement at page 2 filed as Exhibit 22. Item 13. Certain Relationships and Related Transactions The information required herein is incorporated by reference in the Registrant's Proxy Statement at page 9 filed as Exhibit 22. Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (A) Documents filed as part of this report (1.) The Annual Report to Stockholders of the Registrant for the year ended December 31, 1998. (2.) All schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto. (3.) Exhibits, pursuant to Item 601 of Regulation S-K.
Exhibit Number Referred to Item 601 of Regulation S-K Description of Exhibit -------------------------- ---------------------- 3.1 Articles of Incorporation filed on March 31, 1989, at Exhibit 3.1 to Form 10-K for the fiscal year ended December 31, 1988 (No. 0-16667) and hereby incorporated by reference 3.2 Amended By-laws of the Registrant filed on January 8, 1990, at Item 7C to Form 8-K, date of report, January 3, 1990 (No. 0-16667) and hereby incorporated by reference 3.3 Amended Articles of Incorporation filed on May 2, 1990, at Item 7C to Form 8-K, date of report, April 26, 1990 (No. 0-16667) and hereby incorporated by reference. 3.4 Amended by-laws of the Registrant filed on July 20, 1990, at Item 7C to Form 8-K, date of report July 18, 1990 (No. 0-16667) and hereby incorporated by reference 3.5 Amended Articles of Incorporation of the Registrant effective May 18, 1998 12 10.1 Employment agreement between Downingtown National Bank and Henry F. Thorne dated December 31, 1996 10.2 Form of Change of Control Agreements dated May 5, 1998 between DNB Financial Corporation and Downingtown National Bank and the following executive officers: Richard L. Bergey; Ronald K. Dankanich; J. William Erb; Eileen M. Knott; Bruce E. Moroney and Joseph M. Stauffer 10.3 One branch purchase and assumption agreement between Keystone Financial Bank, NA as Seller and Downingtown National Bank as Purchaser as of January 6, 1998 - 215 East Cypress Street, Kennett Square, Chester County, PA 11 Statement of Computation of earnings per share, reference footnote #10 in Annual Report of the Registrant for the year ended December 31, 1998 13 Annual Report to Stockholders for the year ended December 31, 1998 (This document shall be deemed to have been "Filed" only to the extent of the material incorporated herein by reference) 21 List of Subsidiaries 22 Proxy Statement for the Annual Meeting of Stockholders to be held April 27, 1999 and hereby incorporated by reference 23 Consent of KPMG LLP, Independent Auditors 27 Financial Data Schedule
(B) Reports on Form 8-K Not applicable (C) The exhibits required to be filed pursuant to this item are listed above under Item 14(a)(3). (D) Not Applicable 13 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. DNB FINANCIAL CORPORATION March 23, 1999 BY: /s/ Henry F. Thorne Henry F. Thorne, President and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this Form 10-K has been signed below by the following persons and on behalf of the Registrant and in the capacities and on the dates indicated. /s/ Henry F. Thorne March 23, 1999 ------------------------------------- Henry F. Thorne, President, Chief Executive Officer and Director /s/ Bruce E. Moroney March 23, 1999 ------------------------------------- Bruce E. Moroney Chief Financial Officer (Principal Accounting Officer) /s/ Robert J. Charles March 23, 1999 ------------------------------------- Robert J. Charles Chairman of the Board /s/ Vernon J. Jameson March 23, 1999 ------------------------------------- Vernon J. Jameson Vice-Chairman of the Board /s/ Thomas R. Greenleaf March 23, 1999 ------------------------------------- Thomas R. Greenleaf Director /s/ William S. Latoff March 23, 1999 ------------------------------------- William S. Latoff Director /s/ Joseph G. Riper March 23, 1999 ------------------------------------- Joseph G. Riper Director /s/Louis N. Teti March 23, 1999 ------------------------------------- Louis N. Teti Director /s/James H. Thornton March 23, 1999 ------------------------------------- James H. Thornton Director 14 EX-3.5 2 AMENDED AND RESTATED ARTICLES OF INCORPORATION OF DNB FINANCIAL CORPORATION The undersigned corporation (hereinafter, "corporation") hereby amends and restates its Articles of Incorporation in their entirety as permitted under Sections 1911(a)(5) and (6) and 1914(c)(4) of the Pennsylvania Business Corporation Law of 1988, as amended (the "BCL"), as follows: 1. The name of the corporation is: DNB Financial Corporation. 2. The location and post office address of the initial registered office of the corporation is: 4 Brandywine Avenue, Downingtown, Pennsylvania 19335. 3. The corporation is incorporated under the Business Corporation Law of the Commonwealth of Pennsylvania for the following purpose or purposes: To have unlimited power to engage in and to any lawful act concerning any or all lawful business for which corporations may be incorporated under the provisions of the Business Corporation Law of the Commonwealth of Pennsylvania. 4. The term for which the corporation is to exist is: perpetual. 5. The aggregate number of shares which the Corporation shall have authority to issue is Ten Million (10,000,000) shares of Common Stock of the par value of One Dollar ($1.00) per share (the "Common Stock") and One Million (1,000,000) shares of Preferred Stock of the par value of Ten Dollars ($10.00) per share (the "Preferred Stock), for a total authorized capital of Twenty Million Dollars ($20,000,000). The Board of Directors is hereby expressly authorized, by resolution or resolutions, to provide for series of Preferred Stock out of the unissued shares of Preferred Stock. Before any shares of any such series are issued, the Board of Directors shall fix, and hereby is expressly empowered to fix, by resolution or resolutions, the following provisions of the shares thereof: (a) the designation of such series, the number of shares to constitute such series and the stated value thereof if different from the par value thereof; (b) whether the shares of such series shall have voting rights, in addition to any voting rights provided by law, and, if so, the terms of such voting rights, which may be general or limited; (c) the dividends, if any, payable on such series, whether any such dividends shall be cumulative, and, if so, from what dates, the conditions and dates upon which such dividends shall be payable, and the preference or relation which such dividends shall bear to the dividends payable on any shares of stock of any other class or any other series of this class; (d) whether the shares of such series shall be subject to redemption by the Corporation, and, if so, the times, prices and other conditions of such redemption; (e) the amount or amounts payable upon shares of such series upon, and the rights of the holders of such series in, the voluntary or involuntary liquidation, dissolution or winding up, or upon any distribution of the assets, of the Corporation; (f) whether the shares of such series shall be subject to the operation of a retirement or sinking fund, and, if so, the extent to and manner in which any such retirement or sinking fund shall be applied to the purchase or redemption of the shares of such series for retirement or other corporate purposes and the terms and provisions relative to the operation thereof; (g) whether the shares of such series shall be convertible into, or exchangeable for, shares of stock of any other class or any other series of this class or any other securities, and, if so, the price or prices or the rate or rates of conversion or exchange and the method, if any, of adjusting the same, and any other terms and conditions of conversion or exchange; (h) the limitations and restrictions, if any, to be effective while any shares of such series are outstanding, upon the payment of dividends or the making of other distributions on, and upon the purchase, redemption or other acquisition by the Corporation of, the Common Stock or shares of stock of any other class or any other series of this class; (i) the conditions or restrictions, if any, upon the creation of indebtedness of the Corporation or upon the issuance of any additional stock, including additional shares of such series or of any other series of this class or of any other class; and (j) any other powers, preferences and relative, participating, optional and other special rights, and any qualifications, limitations and restrictions thereof. The powers, preferences and relative, participating, optional and other special rights of each series of Preferred Stock, and the qualifications, limitations or restrictions thereof, if any, may differ from those of any and all other series at any time outstanding. All shares of any one series of Preferred Stock shall be identical in all respects with all other shares of such series, except that shares of any one series issued at different times may differ as to the dates from which dividends thereon shall accrue and/or be cumulative. 6. No merger, consolidation, liquidation or dissolution of this corporation nor any action that would result in the sale or other disposition of all or substantially all of the assets of this corporation shall be valid unless first approved by the affirmative vote of the holders of at least seventy-five percent (75%) of the outstanding shares of Common Stock of this corporation. This Article 7 may not be amended unless first approved by the affirmative vote of the holders of at least seventy-five percent (75%) of the outstanding shares of Common Stock of this corporation. 7. Cumulative voting rights shall not exist with respect to the election of directors. 8. (a) The Board of Directors may, if it deems it advisable, oppose a tender or other offer for the corporation's securities, whether the offer is in cash or in the securities of a corporation or otherwise. When considering whether to oppose an offer, the Board of Directors may, but is not legally obligated to, consider any relevant, germane or pertinent issue; by way of illustration, but not to be considered any limitation on the power of the Board of Directors to oppose a tender or other offer for this corporation's securities, the Board of Directors may, but shall not be legally obligated to, consider any or all of the following: (i) Whether the offer price is acceptable based on the historical and present operating results or financial condition of the corporation; (ii) Whether a more favorable price could be obtained for the corporation's securities in the future; (iii) The impact which an acquisition of the corporation would have on the employees, depositors and customers of the corporation and its subsidiaries and the communities which they serve; (iv) The reputation and business practices of the offeror and its management and affiliates as they would affect the employees, depositors and customers of the corporation and its subsidiaries and the future value of the corporation's stock; (v) The value of the securities (if any) which the offeror is offering in exchange for the corporation's securities, based on an analysis of the worth of the corporation as compared to the corporation or other entity whose securities are being offered; and (vi) Any antitrust or other legal and regulatory issues that are raised by the offer. (b) If the Board of Directors determines that an offer should be rejected, it may take any lawful action to accomplish its purpose, including, but not limited to, any or all of the following: advising shareholders not to accept the offer; litigation against the offeror; filing complaints with all governmental and regulatory authorities; acquiring the corporation's securities; selling or otherwise issuing authorized but unissued securities or treasury stock or granting options with respect thereto; acquiring a company to create an antitrust or other regulatory problem for the offeror; and obtaining a more favorable offer from another individual or entity. 9. The effective date of the amendments made by these Amended and Restated Articles of Incorporation shall be the date on which such Articles are filed with the Department of State of the Commonwealth of Pennsylvania, whichever is later. 10. These Amended and Restated Articles of Incorpation supersede the original Articles of Incorporation of the Corporation and all amendments thereto. IN TESTIMONY WHEREOF, the undersigned corporation has caused these Amended and Restated Articles of Incorporation to be executed by a duly authorized officer on this ____ day of _______, 1998. DNB FINANCIAL CORPORATION By:_________________________ President EX-10.1 3 EMPLOYMENT AGREEMENT among DNB FINANCIAL CORP., D0WNINGTOWN NATIONAL BANK and HENRY F. THORNE THIS AGREEMENT, made as of December 31, 1996, is by and among DNB FINANCIAL CORP., a Pennsylvania business corporation ("Holding Company"), DOWNINGTOWN NATIONAL BANK, a national banking association with its main office located at 4 Brandywine Avenue, Downingtown, Chester County, Pennsylvania ("Bank") and HENRY F. THORNE, an individual ("Executive"). As used in this agreement the term "Company" shall refer both individually and collectively to Bank and the Holding Company. Background A. Company and Executive entered into an employment agreement as of July 13, 1992, the term of which was renewed in 1994 and has been extended pursuant to resolutions of the Board of Directors of the Company (the "Original Employment Agreement"). B. Company and Executive wish to extend and revise the terms of the Original Employment Agreement as set forth herein, pursuant to which Company wishes to secure the services of Executive as it's President and Chief Executive Officer on the terms and conditions set forth herein. C. Executive is willing to enter into this Employment Agreement (this "Agreement") upon the terms and conditions set forth. D. The Company's Board of Directors has approved this Agreement. NOW THEREFORE, in consideration of the mutual promises and agreements set forth herein, the parties agree as follows: 1. Employment. Company agrees to employ Executive, and Executive agrees to serve, as President and Chief Executive Officer, and as a Director, of the Holding Company and the Bank during the "Term" defined in Section 2 of this Agreement. Executive shall report only to the Board of Directors of the Holding Company and the Bank, respectively, and his powers and authority shall be superior to those of any other officer or employee of Company or of any subsidiary thereof. Executive shall serve on such committees of the Boards of Directors of the Holding Company and Bank as may be appropriate to his office from time to time as required and permitted by the Board of Directors, subject to the bylaws of the Holding Company and the Bank and applicable law. During the term of his employment, Executive shall devote all of his working time, abilities and attention to the business of the Company. A failure by the Board of Directors of the Holding Company or Bank to reelect Executive as President and Chief Executive Officer of Company or any failure of the Company to continue to vest Executive with the powers and authority described above shall be deemed a failure by the Company to comply with a 1 material provision of this Agreement. 2. Term of Employment. The initial term of employment hereunder shall be for a period of two (2) years commencing as of January 1, 1997 and ending on January 1, 1999. This Agreement shall be extended automatically for two (2) additional years on each expiration date hereof, unless either Company or Executive gives contrary written notice to the other not less than 90 days in advance of such expiration date. References in this Agreement to the "Term" shall refer both to such initial term and such successive terms. The Term of this Agreement may be changed by mutual written consent of Company and Executive. 3. Compensation. Company shall pay or cause to be paid to Executive during the term of employment a base salary of not less than $151,560 per annum, payable twice monthly installments of $6,008.33 each during the Term. It is understood that Company shall review Executive's performance and make a determination regarding adjustments in his salary not less frequently than once in each calendar year. The Company may, in the discretion of its Board of Directors, but is not obligated to, increase such base salary in light of Executive's job duties and performance and such other factors as adjustment in cost of living. 4. Discretionary Bonuses. In addition to base salary, Executive shall be eligible to be considered for discretionary bonuses as authorized and declared by the Board of Directors from time to time. 5. Employee Benefit Plans; Fringe Benefits. 5.1 Employee Benefit Plans. During the Term, Executive shall be entitled to participate in stock options, stock appreciation, stock purchases, pension, thrift, medical coverage, education or other retirement or employee benefits, including without limitation the Company's Employee Retirement Savings Plan and Incentive Stock Option Plan, and any other plans that Company may adopt for the benefit of its executive employees. 5.2 Reimbursement of Expenses. During the Term, Company shall reimburse Executive for reasonable expenses incurred by him in the performance of his duties, the payment of reasonable expenses for attending meetings of trade associations and other groups, and any other benefits which are commensurate with the duties and responsibilities to be performed by Executive under this Agreement. 5.3 Term Life Insurance. During the Term, the Company shall provide to Executive term life insurance on Executive's life, payable to beneficiaries of his designation in the maximum amount permitted under the Company's applicable plans from time to time (currently $250,000). 5.4 Other Fringe Benefits. Executive shall be entitled to participate in any other fringe benefits which may be or become applicable to Company's executive employees. 6. Vacations. Executive shall be entitled to an annual paid vacation of four (4) 2 weeks per year or such longer period as the Board of Directors of Company may approve from time to time. The timing of paid vacations shall be scheduled in a reasonable manner by Executive. Executive shall not be entitled to receive any additional compensation from Company on account of his failure to take a paid vacation. Executive shall not be entitled to accumulate unused paid vacation time from one calendar year to the next, except as provided for in the Company's vacation policy for all employees, or except with the approval of the Board of Directors of Company. 7. Termination of Employment. 7.1 Termination by Company; "Cause". Company shall have the right to terminate Executive's employment hereunder, with or without cause, subject to a "Notice of Termination" (as hereinafter defined) and to the terms and conditions of this Agreement. For the purpose of this Agreement, termination for "cause" shall mean: (l) the failure by the Executive to substantially perform his duties hereunder other than any failure resulting from the Executive's incapacity due to physical or mental health; (2) the willful engaging by the Executive in misconduct materially injurious to the Company; (3) the gross negligence of the Executive in the performance of his duties; (4) receipt by the Company of a recommendation of any governmental body or entity having jurisdiction over the Bank requiring or suggesting termination or removal of the Executive as Chief Executive Officer, President or Director, or receipt of a written directive or order of any governmental body or entity having jurisdiction over the Company requiring termination or removal as the Executive as Chief Executive Officer, President or Director; (5) personal dishonesty, incompetence, willful misconduct, breach of fiduciary duty involving personal profit or conviction of a felony, or willful violation of any law, rule or regulation or final cease-and-desist order which in the reasonable judgment of the Board of Directors of the Company will probably cause substantial economic damages to the Company; or (6) material breach of any material provision of this Agreement. 7.2 No Right to Compensation or Benefits Except as Stated. In the event employment is terminated for cause, Executive shall have no right to compensation or other benefits for any period after such date of termination. If Executive is terminated by Bank or Holding Company other than for cause, Employee's rights to compensation and benefits under this Agreement shall be as set forth in Section 7.7 hereof. 7.3 Termination by Executive. Executive shall have the right to terminate his employment, whether or not for "good reason" (as hereinafter defined), but if the termination is for other than good reason, Executive shall have no right after the date of termination to any compensation or other benefits. 7.4 Temporary Suspension from Office. If Executive is suspended from office and/or temporarily prohibited from participating in the conduct of Company's affairs pursuant to notice served by any regulatory agency, Company's obligations under this Agreement shall be suspended as of the date of service, unless stayed by appropriate proceedings. If the charges in the notice are dismissed, Company shall: (i) pay Executive any compensation withheld while contract obligations were suspended, and (ii) reinstate (in whole or in part) any of 3 its obligations which were suspended. 7.5 "Good Reason"; "Change in Control"; "Notice of Termination". (a) "Good Reason". Executive may terminate his employment hereunder for "good reason". For purposes of this Agreement, "good reason" shall mean (A) a failure by Company to comply with any material provision of this Agreement, which failure has not been cured within ten (10) days after a notice of such noncompliance has been given by Executive to Company; (B) a termination by Executive of his employment for any reason or for no reason within 12 months after a "change in control" of Company (as defined in Section 7.7(b) of this Agreement); or (C) any purported termination of Executive's employment which is not effected pursuant to a Notice of Termination satisfying the requirements of this Agreement. (b) "Change in Control". For purposes of this Agreement, a "change in control" of Company shall mean a change in control of a nature that would be required to be reported in response to Item 6(e) of Schedule 14A of Regulation 14A promulgated under the Securities Exchange Act of 1934 (the "Exchange Act"), provided that, without limitation, such a change in control shall be deemed to have occurred if (A) any "persons" (as such term is used in Sections 13(d) and 14(d) of the Exchange Act in effect on the date first written above), other than Company or any "person" who on the date hereof is a director of officer of Company, is or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of Company representing 50% or more of the combined voting power of Company's then outstanding securities, or (B) during any period of two consecutive years during the term of this Agreement, individuals who at the beginning of such period constitute the Board of Directors cease for any reason to constitute at least a majority thereof, unless the election of each director who was not a director at the beginning of such period has been approved in advance by directors representing at least two-thirds of the directors then in office who were directors at the beginning of the period. (c) "Notice of Termination". Any termination of Executive's employment by Company or by Executive shall be communicated by written Notice of Termination to the other party hereto. For purposes of this Agreement, a "Notice of Termination" shall mean a dated notice which shall (A) indicate the specific termination provision in this Agreement relied upon; (B) set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of Executive's employment under the provision so indicated; (C) specify a date of termination which shall be not less than thirty (30) days after such Notice of Termination is given, except in the case of Company's termination of Executive's employment for cause, in which case the Notice of Termination may specify a date of termination as early as the date such Notice of Termination is given; and (D) be given in the manner specified in Section 12 hereto. 7.6 Termination by Executive on Change in Control. If Executive shall terminate his Employment pursuant to subpart (B) of Section 7.5(a) hereof, then in lieu of any further salary payments to Executive for periods subsequent to the date of termination, Company shall pay as severance to Executive an amount equal to 2.00 times the higher of (i) the Executive's base salary immediately prior to the change in control or (ii) the Executive's base salary at the time of termination of, such payment to be made in a lump sum within thirty (30) days 4 following the date of termination; provided, however, that if the lump sum severance payment under this Section, either alone or together with other payments which the Executive has the right to receive from the Company, would constitute a "parachute payment" (as defined in Section 280G of the Internal Revenue Code of 1986, as amended (the "Code"), such lump sum severance payment shall be reduced to the largest amount as will result in no portion of the lump sum severance payment under this Section 7.7(d) being subject to the excise tax imposed by Section 4999 of the Code. The determination of any reduction in the lump sum severance payment under this Section 7.7(d) pursuant to the foregoing provision shall be made by independent counsel to Company in consultation with the independent certified public accountants of Company. 7.7 Other Terminations Other Than for "Cause". If Executive shall terminate his employment for good reason as defined in subpart (A) or (C) of Section 7.5(a) hereof, or if Executive's Employment is terminated in any other manner other than for cause or as provided in Section 7.6, or if the Bank is liquidated or sold under a regulatory order, then in lieu of any further salary payments to Executive for periods subsequent to the date of termination, Company shall pay as severance to Executive, in lieu of all other compensation and benefits other than any benefits the right to which shall have previously vested, an amount equal to the Executive's then current base salary, payable over the following year, such payment to be made in substantially equal twice monthly installments on the normal pay dates. 7.8 Mitigation by Executive. Executive shall not be required to mitigate the amount of any payment provided for in Sections 7.6 or 7.7 by seeking other employment or otherwise. 8. Death and Disability. 8.1 Death. The Executive's employment shall automatically terminate upon his death, subject to the terms of this Agreement. 8.2 Disability. If the Executive becomes disabled (as certified by a licensed physician chosen by the Company and the Executive or in the event that the Company and the Executive cannot agree upon a physician, each shall designate a licensed physician, and the licensed physician so designed shall appoint a third physician whose decision shall be binding upon the parties) because of- sickness, physical or mental disability, or any other reason, and is unable to substantially perform or complete his duties of employment for a period of ninety (90) consecutive days, the Company shall have the option to terminate Executive's employment by giving written notice of termination to the Executive. Such termination shall be without prejudice to any right the Executive may have under the disability insurance program, if any, maintained by the Bank. 9. Noncompete Agreement. For a period of one year after any resignation or termination by which Executive receives Severance Compensation, Executive shall not, directly or indirectly, within the marketing area of the Bank, which is defined as any area within 25 miles of any bank office or branch, enter into or engage generally in direct or indirect competition with the Bank, the Holding Company or any subsidiary of either of them in the business of commercial banking, either as an individual on his own or as a 5 partner or joint venturer, or as a director, officer, shareholder, employee, agent, independent contractor, lessor or creditor of or for any person. The existence of any immaterial claim or cause of action of the Executive against the Company, whether predicated on this Agreement or otherwise, shall not constitute a defense to the enforcement by the Company of this covenant. Any breach of the restrictions set forth in this Section will result in irreparable injury to the Company for which it shall have no adequate remedy at law and the Company shall be entitled to injunctive relief in order to enforce the provisions hereof. In the event that this Section shall be determined by any court of competent jurisdiction to be unenforceable in part by reason of it being too great a period of time or covering too great a geographical area, it shall be in full force and effect as to that period of time or geographical area determined to be reasonable by the court. 10. Continuing Obligations. Executive shall retain in confidence any confidential information known to him concerning Company and its business so long as such information is not publicly disclosed. 11. Amendments. No amendments to this Agreement shall be binding unless in writing and signed by both parties. 12. Notices. All notices under this Agreement shall be in writing and shall be deemed effective (i) when delivered in person or by facsimile, telecopier, telegraph or other electronic means capable of being embodied in written form (in Company's case, to its Secretary) or (ii) forty-eight (48) hours after deposit thereof in the U.S. mails by certified or registered mail, return receipt requested, postage prepaid, addressed, in the case of Executive, to his last known address as carried on the personnel records of Company and, in the case of Company, to the corporate headquarters, attention of the Secretary, or to such other address as the party to be notified may specify by notice to the other party. 13. Prior Agreements. This Agreement supersedes and replaces all prior Agreements of Employment between the parties. Without limiting the foregoing, the Original Agreement is hereby terminated. 14. Binding Effect and Benefits. The rights and obligations of Company and Executive under this Agreement shall inure to the benefit of and shall be binding upon the respective heirs, personal representatives, successors and assigns of Company and Executive. 15. Construction. This Agreement shall be construed under the laws of the Commonwealth of Pennsylvania, as they may be preempted by federal laws and regulations. Section headings are for convenience only and shall not be considered a part of the terms and provisions of the Agreement. IN WITNESS WHEREOF, the parties hereto have caused the due execution of this Agreement as of the date first set forth above. 6 Attest: DNB FINANCIAL CORP. ________________________ By: _______________________________ Secretary Chairman Attest: DOWNINGTOWN NATIONAL BANK ________________________ By: _______________________________ Secretary Chairman Executive: Witness: __________________________ ___________________________________ HENRY F. THORNE, individually 7 EX-10.2 4 CHANGE OF CONTROL AGREEMENT FOR [NAME OF EXECUTIVE] THIS CHANGE OF CONTROL AGREEMENT (this "Agreement"), made as of __________, 1998, is by and among DNB FINANCIAL CORPORATION ("Holding Company"), DOWNINGTOWN NATIONAL BANK, a national banking association with principal offices at 4 Brandywine Avenue, Downingtown, PA 19335 ("Bank") (Holding Company and Bank are sometimes referred to individually and collectively herein as the "Company") and _____________________________, an individual residing at _____________________________________ ("Executive"). Background A. Company and Executive wish to enter into an agreement pursuant to which Company wishes to secure the future services of Executive by providing Executive the severance payments provided in this Agreement as additional incentive to induce Executive to devote Executive's time and attention to the interests and affairs of the Company. B. Executive is willing to enter into this Agreement upon the terms and conditions herein set forth. C. The Boards of Directors of the Holding Company and the Bank have each approved this Agreement and it is intended to be maintained as part of the official records of the Holding Company and the Bank. NOW THEREFORE, in consideration of the mutual promises and agreements set forth herein, the parties agree as follows: 1. Employment. Except strictly to such extent (if any) as may be provided in another agreement between Holding Company or Bank and Executive, Executive shall remain an employee at will of the Company hereafter. This Agreement is not an employment agreement, but shall only be interpreted as governing the payment of severance which may be due to Executive upon termination of Executive's employment with Company under the specific circumstances described in this Agreement. No provision of this Agreement shall be interpreted to derogate from the power of the Company or its Board of Directors to terminate the employment of the Executive, subject nevertheless to the terms of this Agreement. 2. Compensation. The compensation to be paid by Company to Executive from time to time, including any fringe benefits or other employee benefits, shall not be governed by this Agreement. This Agreement shall not be deemed to affect the terms of any stock options, employee benefits or other agreements between the Company and Executive. 3. Severance Payments upon Termination of Employment After a "Change in Control". This Agreement does not govern any termination of Executive's employment with Company which occurs prior to a "change in control" as defined in subsection (e) of this Section. No inference shall be drawn from any provision of this Section 3 concerning the rights and obligations of the parties in connection with a termination of Executive's employment prior to such a "change in control". (a) Termination by Company for Cause or Not for Cause. If Executive's employment is terminated by Company for "cause" (as defined in subsection (c) of this Section) at any time, or with or without "cause" prior to a "change in control", Executive shall have no right to any severance or other payments under this Agreement due to such termination. If Executive is terminated by Company or Holding Company after a "change in control" (as defined in subsection (e) of this Section) other than for "cause", Executive's right to severance payments under this Agreement shall be as set forth in subsection (f) of this Section. A termination by Company of Executive's employment with Bank only or Holding Company only shall be deemed a termination for purposes of this Agreement, and Executive's right to severance payments (if any) hereunder, shall be determined as if such termination were a termination from employment with Company entirely. (b) Termination by Executive for Good Reason or Not for Good Reason. If Executive terminates Executive's employment with Holding Company and Bank prior to a change in control, or without "good reason" (as defined in subsection (d) of this Section) at any time, Executive shall have no right to any severance or other payments under this Agreement due to such termination. If Executive terminates Executive's employment with Holding Company and Bank for "good reason" after a "change in control" (as defined in subsection (e) of this Section), Executive's right to severance payments under this Agreement shall be as set forth in subsection (f) of this Section. (c) Definition of "Cause". For the purpose of this Agreement, termination for "cause" shall mean termination for personal dishonesty, incompetence, willful misconduct, breach of fiduciary duty involving personal profit, conviction of a felony, suspension or removal from office or prohibition from participation in the conduct of Holding Company's or Bank's affairs pursuant to a notice or other action by any Regulatory Agency, or willful violation of any law, rule or regulation or final cease-and-desist order which in the reasonable judgment of the Board of Directors of the Company will probably cause substantial economic damages to the Company, willful or intentional breach or neglect by Executive of his duties, or material breach of any material provision of this Agreement. For purposes of this paragraph, no act, or failure to act on Executive's part shall be considered "willful" unless done, or omitted to be done, by him without good faith and without reasonable belief that this action or omission was in the best interest of Company; provided that any act or omission to act by Executive in reliance upon an approving opinion of counsel to the Company or counsel to the Executive shall not be deemed to be willful. The terms "incompetence" and "misconduct" shall be defined with reference to standards generally prevailing in the banking industry. In determining incompetence and misconduct, Company shall have the burden of proof with regard to the acts or omission of Executive and the standards prevailing in the banking industry. (d) Definition of "Good Reason". For purposes of this Agreement, Executive shall have "good reason" for terminating his employment with Holding Company and Bank if Executive terminates such employment within two (2) years after the occurrence of any one or more of the following events (a "Triggering Event") without Executive's express written consent, but only if the Triggering Event occurs within two (2) years after a "change in control" (as defined in subsection (e) of this Section) of Bank or Holding Company: (i) the assignment to Executive of any duties inconsistent with Executive's positions, duties, responsibilities, titles or offices with Bank or Holding Company as in effect immediately prior to a change in control of Bank or Holding Company, (ii) any removal of Executive from, or any failure to re-elect Executive to, any of such positions, except in connection with a termination or suspension of employment for cause, disability, death or retirement, (iii) a reduction by Holding Company or Bank in Executive's base annual salary as in effect immediately prior to a change in control or as the same may be increased from time to time thereafter, or the failure to grant increases in the Executive's base annual salary on a basis at least substantially comparable to the lowest increase granted to other officers of the Company having the title of senior vice president or above, or (iv) any purported termination of Executive's employment with Bank or Holding Company when "cause" (as defined in this Agreement) for such termination does not exist. -2- (e) Definition of "Change in Control". For purposes of this Agreement, a "change in control" of Company or Bank shall mean any one or more of the following: (1) a change in control of a nature that would be required to be reported in response to Item 6(e) of Schedule 14A of Regulation 14A promulgated under the Securities Exchange Act of 1934 (the "Exchange Act")(or any successor provision) as it may be amended from time to time; (2) any "persons" (as such term is used in Sections 13(d) and 14(d) of the Exchange Act in effect on the date first written above), other than Company or Bank or any "person" who on the date hereof is a director of officer of Company or Bank, is or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of Company or Bank representing 25% or more of the combined voting power of Company's or Bank's then outstanding securities; or (3) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board of Directors of Company or Bank cease for any reason to constitute at least a majority thereof, unless the election of each director who was not a director at the beginning of such period has been approved in advance by directors representing at least two-thirds of the directors then in office who were directors at the beginning of the period. (4) the signing of a letter of intent or a formal acquisition or merger agreement between the Holding Company or Bank, of the one part, and a third party which contemplates a transaction which would result in a "change of control" under paragraphs (1), (2) or (3) of this subsection (f), but, as to any Triggering Event, only if such letter of intent or agreement, or the transaction contemplated thereby, has not been canceled or terminated at the time the occurrence of the Triggering Event in question. (f) Severance. If Executive is entitled to severance payments under subsection (a) or (b) of this Section, and if Executive shall have signed a release or releases as more fully described in Section 4 of this Agreement, Company shall pay as severance to Executive the following: (I) Base Severance. An amount equal to: (A) the annual base salary paid to the Executive and includible in the Executive's gross income for federal income tax purposes during the year in which the date of termination occurs by Company and any of its subsidiaries subject to United States income tax; multiplied by (B) 1.00. Such payment shall be made in a lump sum within one (1) calendar week following the date of termination, subject to withholding by the Company as required by applicable law and regulations. Notwithstanding any provision of this Agreement or any other agreement of the parties, if the severance payment or payments under this Agreement, either along or together with other payments which the Executive has the right receive from the Company, would constitute a "parachute payment" (as defined in Section 280G of the Internal Revenue Code of 1986, as amended (the "Code") or any successor provision, such lump sum severance payment shall be reduced to the largest amount as will result in no portion of the lump sum severance payment under this Agreement being subject to the excise tax imposed by Section 4999 of the Code. (II) Medical/Health Benefits. For a period of one (1) year from the date of termination of the Executive's employment with the Company, the Company shall continue to pay for Executive's health insurance, HMO or other similar medical provider benefits (excluding any disability plans or benefits) on the same terms and conditions available to other employees from time to time. Thereafter, if the Executive chooses to continue such medical/health benefits as provided under the -3- Consolidated Omnibus Budget Reconciliation Act ("COBRA"), Executive must do so at Executive's own expense. If, at any time after the termination of Executive's employment with the Company, Executive becomes covered for medical/health benefits on any terms with a new employer, the Company shall thereafter have no obligation to pay for any benefits or coverage and the Company's COBRA obligations shall terminate to the extent permitted by COBRA. Executive agrees to immediately notify Company, in writing, upon Executive's acceptance of new employment which provides medical/health benefits for which Executive is eligible. (g) Any termination of Executive's employment by Company or by Executive shall be communicated by a dated, written notice, signed by the party giving the notice, which shall (A) indicate the specific termination provision in this Agreement relied upon; (B) set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of Executive's employment under the provision so indicated; (C) specify the effective date of termination. (h) All obligations under this Agreement are subject to termination by any bank regulatory agency having jurisdiction over Holding Company or Bank ("Regulatory Agency") in accordance with any applicable provisions of law or regulations granting such authority, but rights of the Executive to compensation earned as of the date of termination shall not be affected. (i) Executive shall not be required to mitigate the amount of any payment provided for in this Agreement by seeking other employment or otherwise. The severance payments provided for in this Agreement shall not be reduced by any compensation or other payments received by Executive after the date of termination of Executive's employment from any source. 4. Execution of Release Required. Executive agrees that, as a precondition to receiving the payments provided for in this Agreement, Executive shall have executed and delivered to Holding Company and Bank a release or releases, in form satisfactory to Holding Company and Bank, releasing all claims which Executive may then have against Holding Company or Bank, including without limitation any claims related to employment, termination of employment, discrimination, harrassment, compensation or benefits, but excluding any claims for payments due or to become due under this Agreement. 5. Payment Obligations Absolute. Provided that the preconditions for payment set forth in this Agreement are fully satisfied, Company's obligation to pay Executive the severance payments provided herein shall be absolute and unconditional and shall not be affected by any circumstances, including, without limitation, any set-off counter claim, recoupment, defense or other right which Company may have against Executive. All amounts payable by Company hereunder shall be paid without notice or demand. 6. Continuing Obligations. Executive shall retain in confidence any confidential information known to him concerning Company and its business so long as such information is not publicly disclosed. 7. Amendments. No amendments to this Agreement shall be binding unless in a writing, signed by both parties, which states expressly that it amends this Agreement. 8. Notices. Notices under this Agreement shall be deemed sufficient and effective if (i) in writing and (ii) either (A) when delivered in person or by facsimile, telecopier, telegraph or other electronic means capable of being embodied in written form or (B) forty-eight (48) hours after deposit thereof in the U.S. mails by certified or registered mail, return receipt requested, postage prepaid, -4- addressed to each party at such party's address first set forth above and, in the case of Company, to the attention of the Chairman of the Board, or to such other notice address as the party to be notified may have designated by written notice to the sending party. 9. Prior Agreements. There are no other agreements between Company and Executive regarding Executive's employment. This Agreement is the entire agreement of the parties with respect to its subject matter and supersedes any and all prior or contemporaneous discussions, representations, understandings or agreements regarding its subject matter. 10. Assigns and Successors. The rights and obligations of Company under this Agreement shall inure to the benefit of and shall be binding upon the successors and assigns of Company and Executive, provided, however, that Executive shall not assign or anticipate any of his rights hereunder, whether by operation of law or otherwise. For purposes of this Agreement, "Company" shall also refer to any successor to Holding Company or Bank, whether such succession occurs by merger, consolidation, purchase and assumption, sale of assets or otherwise. 11. Executive's Acknowledgment of Terms. Executive acknowledges that he has read this Agreement fully and carefully, understands its terms and that it has been entered into by Executive voluntarily. Executive acknowledges that any payments to be made hereunder will constitute additional compensation to Executive. Executive further acknowledges that Executive has had sufficient opportunity to consider this Agreement and discuss it with Executive's own advisors, including Executive's attorney and accountants. Executive has been informed that Executive has the right to consider this Agreement for a period of at least twenty one (21) days prior to entering into it. Executive acknowledges that Executive has taken sufficient time to consider this Agreement before signing it. Executive also acknowledges that Executive has the right to revoke this Agreement for a period of seven (7) days following this Agreement's execution by giving written notice of revocation to Company. IN WITNESS WHEREOF, the parties hereto have caused the due execution of this Agreement as of the date first set forth above. Holding Company: Attest: DNB FINANCIAL CORPORATION _________________________ By:________________________________ Secretary President Bank: Attest: Downingtown National Bank _________________________ By:________________________________ Secretary President Witness: Executive: - ----------------------- ----------------------------------- Print Name: -5- EX-10.3 5 PURCHASE AND ASSUMPTION AGREEMENT BETWEEN KEYSTONE FINANCIAL BANK, NATIONAL ASSOCIATION as Seller and DOWNINGTOWN NATIONAL BANK as Purchaser as of January 6, 1999
TABLE OF CONTENTS Page ARTICLE I PURCHASE OF ASSETS AND ASSUMPTION OF LIABILITIES 6 1.0 Definitions 6 1.1 Effective Date 8 1.2 Transfer 8 1.3 Additional Obligations of the Purchaser 9 1.4 Additional Obligations of the Seller 12 1.5 Certain Transitional Matters 14 1.6 Indemnification 18 1.7 Prorations 19 1.8 Settlement Procedure 20 1.9 Employees 21 ARTICLE II REPRESENTATIONS AND WARRANTIES OF SELLER 22 2.1 Corporate Organization 23 2.2 Real Estate 23 2.3 Title to Personal Property; Encumbrances 23 2.4 No Violation 24 2.5 True Statements 25 2.6 Limitation of Warranties 25 2.7 Deposits 25 2.8 Deposit Insurance 25 2.9 Status of Loans 25 2.10 No Adverse Litigation 26 2.11 Environmental Matters 26 ARTICLE III REPRESENTATIONS AND WARRANTIES OF PURCHASER 28 3.1 Corporate Organization 28 3.2 No Violation 28 3.3 Broker 29 3.4 Environmental Matters 29 3.5 Confidentiality 30 ARTICLE IV CONDUCT OF BUSINESS PENDING THE EFFECTIVE DATE 30 4.1 Activity in the Ordinary Course 30 ARTICLE V OBLIGATIONS OF PARTIES PRIOR TO AND AFTER EFFECTIVE DATE 32 5.1 Access 32 2 5.2 Requirements to Obtain Approval of Regulatory Authorities 32 5.3 Use of Seller's Name 33 5.4 Return of Information 33 5.5 Non-Solicitation of Branch Based Business 34 5.6 Further Assurance 34 ARTICLE VI CONDITIONS TO PURCHASER'S OBLIGATIONS 35 6.1 Information and Investigation 35 6.2 Representations and Warranties True 35 6.3 Corporate Authority 36 6.4 Obligations Performed 36 6.5 No Adverse Litigation 36 6.6 No Material and Adverse Change of Condition 36 6.7 Regulatory Approval 37 ARTICLE VII CONDITIONS TO THE SELLER'S OBLIGATIONS 37 7.1 Representations and Warranties True 37 7.2 Corporate Authority and Validity 37 7.3 Obligations Performed 38 7.4 No Adverse Litigation 38 7.5 Regulatory Approval 38 ARTICLE VIII TERMINATION 39 8.1 Methods of Termination 39 8.2 Procedure Upon Termination 40 8.3 Automatic Termination 40 ARTICLE IX MISCELLANEOUS PROVISIONS 41 9.1 Amendment and Modification 41 9.2 Waiver or Extension 41 9.3 Assignment 42 9.4 Survival of Representations, Warranties, Indemnities and Covenants 42 9.5 Payment of Expenses 42 9.6 Addresses for Notice, etc. 43 9.7 Press Releases, Public Disclosures 43 9.8 Counterparts 44 9.9 Headings 44 9.10 Governing Law 44 9.11 Entire Agreement 44 3 EXHIBIT A Real Estate Description EXHIBIT B Tangible Personal Property Excluded from Sale EXHIBIT C Employees to Transfer Employment EXHIBIT D Core Deposits, Excluding Accrued Interest, as of December 17, 1998 EXHIBIT E Instrument of Assumption of Certain Liabilities EXHIBIT F List of Loans Purchased EXHIBIT G Letter Dated April 23, 1998 from Pennsylvania Department of Environmental Protection to Mr. Bradford Fish of Sun Company, Inc. EXHIBIT H Indemnity Agreement between Elmwood Federal Savings Bank and Sun Company, Inc. (R&M) EXHIBIT I List of Documents Relating to the Previously Disclosed Environmental Issue EXHIBIT J Exceptions to Title
4 PURCHASE AND ASSUMPTION AGREEMENT THIS PURCHASE AND ASSUMPTION AGREEMENT is made on the 6th day of January, 1999, between Keystone Financial Bank, National Association ("Keystone Bank"), a National Banking Association organized and existing under the laws of the United States, having its principal office at One Keystone Plaza, North Front and Market Streets, Harrisburg, PA 17105 (the "Seller"), and Downingtown National Bank ("Downingtown Bank"), a National Banking Association organized and existing under the laws of the United States, having its principal office at 4 Brandywine Avenue, P.O. Box 1004, Downingtown, Pennsylvania 19335-0904 (the "Purchaser"). WHEREAS, the Seller desires to sell certain assets and deposit liabilities as herein defined, associated with its community office located at 215 East Cypress Street, Kennett Square, Pennsylvania 19348 (the "Branch) to Purchaser; and WHEREAS, Purchaser desires to buy such assets and assume such liabilities of the Branch upon the terms and conditions hereinafter set forth; and NOW, THEREFORE, IN CONSIDERATION of the premises and the mutual covenants contained herein, and for other good and valuable consideration the receipt and sufficiency of which is hereby acknowledged, the parties hereto, intending to be legally bound, agree as follows: ARTICLE I PURCHASE OF ASSETS AND ASSUMPTION OF LIABILITIES 1.0 Definitions The terms defined in this Section 1.0 shall have the meanings herein specified, unless the context clearly requires otherwise. "Agreement" means this Agreement. "Assets" means all right, title and interest of Seller in and to each of the following: (a) all right, title and interest of Seller in and to the real estate identified on Exhibit A ("Real Estate"); (b) other than the tangible personal property described on Exhibit B, the furniture, fixtures, equipment and leasehold improvements owned or leased by Seller which are used at the Branch, together with any manufacturer's warranties that are assignable and are in effect (the "Tangible Personal Property"); (c) the Ready Cash Loans tied to deposit accounts (as detailed in Exhibit F) attributable and booked at the Branch as of the close of business on the Effective Date, except for: (i) those loans rejected by Purchaser on the Effective Date on the basis that they are then thirty (30) days or more past due as of the close of business on the Effective Date. (d) cash on hand at the Branch at the Effective Date. "Core Deposits," or sometimes "Core Deposit," means any and all deposit liabilities of Seller as shown on the books and records of Seller as being allocated to the Branch, including amounts not yet collected, attributable to the depositors together with accrued interest thereon, including demand accounts, checking accounts, money market demand accounts, savings accounts, IRAs and retail CDs. "Depositors" means account holders having Core Deposits at the Branch. "Effective Date" is defined in Section 1.1. "Employees" means, prior to the effective date, persons employed at the Branch as of the date of this Agreement who are expected to transfer to Purchaser and, thereafter, employees of the Branch who in fact transferred to Purchaser. Attached as Exhibit C is a list of employees expected to transfer. "Previously Disclosed Environmental Issue" as used in this Agreement refers to the soil and groundwater contamination which resulted from the presence of underground gasoline storage tanks left by the previous owner of the real estate, Sunoco, Inc. (R&M), of which 6 Purchaser has been informed, as set forth in section 2.11A, below. As used herein Sunoco, Inc. (R&M) ("Sun"), includes, Sun Company, Inc. (R&M) and Sun Oil Company of Pennsylvania, Inc., corporate names under which Sunoco, Inc. (R&M) previously was known, and Sunmark Industries, a division of Sun Oil Company of Pennsylvania , Inc. 7 1.1 Effective Date Except as otherwise provided herein, the closing date for the purchase and assumption herein described (the "Effective Date") shall be on a date that is mutually acceptable to the Seller and Purchaser and that is within 30 days of the day on which all regulatory approvals required by law and this Agreement have been obtained and all applicable waiting periods have expired, but no later than April 30, 1999. The Effective Date shall be established for a Friday (unless a legal holiday and in that event the prior business day), and the closing shall commence at a time sufficient to conclude the closing prior to the time established for the normal close of business at the Branch. 1.2 Transfer A. The Seller agrees, subject to the terms and conditions of this agreement, to validly sell, assign, transfer, convey and deliver, on the Effective Date: (i) to the Purchaser or a nominee of Purchaser which is affiliated with it by common control (the "Nominee") by special warranty deed all of its rights, title and interest in and to the Real Estate as shown on Exhibit A attached to and made a part hereof, together with all improvements thereon. Seller shall convey to Purchaser or its Nominee such title to the Real Estate that would be marketable and free and clear of all liens, encumbrances, easements, covenants, restrictions and objections (except solely those identified in Exhibit J, attached hereto and made part hereof) and readily insurable as such by a recognized reputable title insurance company doing business in the Commonwealth of Pennsylvania at normal commercially reasonable rates. All real estate taxes (other than transfer taxes) shall be apportioned between Seller and Purchaser or its Nominee as of the Effective Date. Transfer taxes shall be equally divided between Purchaser or its Nominee and Seller; (ii) to Purchaser by bill of sale with special warranty, all right, title, and interest in and to the Tangible Personal Property; 8 (iii) to Purchaser by separate assignment, all Core Deposits maintained at the Branch and all vault cash on hand at the Branch. (iv) to Purchaser, all right, title and interest to the loans listed in Exhibit F. B. Purchaser agrees that on the Effective Date, subject to terms and conditions of this Agreement and as consideration for the aforesaid sale, assignment, transfer, conveyance and delivery: (i) Purchaser will pay to the Seller on the Effective Date: (a) a cash premium equal to 8% of the principal amount of the Core Deposits as of the Effective Date. The Core Deposits at the Branch, excluding accrued interest, as of December 17, 1998 are set forth in Exhibit D attached hereto and made a part hereof; (b) a sum of One Hundred Eighty Thousand Dollars ($180,000) on the Effective Date for the Real Estate and the Tangible Personal Property; (c) an amount equal to the dollar value of vault cash on hand at the Branch as of the close of business on the day immediately preceding the Effective Date; (ii) Purchaser will assume and agree to discharge and pay all Core Deposits purchased by it, with accrued interest. (iii) Purchaser will assume and agree to discharge all of Seller's obligations and liabilities related to the loans listed on Exhibit F, except such as arise from Seller's violation of any law or regulations, or Seller's breaches of obligations to the borrower or third parties, as to which Seller agrees to assume and discharge. 1.3 Additional Obligations of the Purchaser 9 A. To evidence the assumption by Purchaser of the liabilities and obligations of the Seller which are assumed pursuant to this Agreement, Purchaser shall execute, acknowledge and deliver to the Seller, on the Effective Date, an instrument of assumption in the form annexed hereto as Exhibit E. B. Purchaser agrees that it will preserve and safely keep, for as long as may be required by applicable law, all of the files, books of account and the records referred to in Sections 1.4D and 1.4F below for the joint benefit of itself and the Seller, and that it will provide to Seller or its representatives, at any reasonable time and at the Seller's expense, copies (or originals, if originals exist and are required for purposes of legal proceedings) of, any such files, books of account, or records as the Seller shall reasonably deem necessary; provided, however, nothing herein shall require Purchaser to breach any obligation of confidentiality of any customer. C. For a period of thirty (30) days from the date this Agreement is signed and delivered by both parties (the "Due Diligence Period"), Purchaser, and its agents, at its sole cost and expense, shall have the right to inspect, test, evaluate and investigate each of the Core Deposits and Assets (including without limitation title to Tangible Personal Property and the condition and zoning and code compliance of the Real Estate) and Seller's documents and records relating thereto and Seller agrees to make the Assets, documents and records available to Purchaser at reasonable times and on reasonable prior notice for such purposes. Except for the environmental assessments discussed below in Section 1.3D, if for any reason Purchaser is dissatisfied with any of the Assets, or their condition or title thereto, Purchaser may, within ten (10) days after expiration of the Due Diligence Period, elect to void the entire sale contemplated by this Agreement, and neither party shall have any further liability to the other arising out of this Agreement. D. With respect to the Real Estate, Purchaser may have a Phase I, and where required, Phase II Site Assessment conducted ("Assessment(s)") which shall be completed within 45 days from the date of this Agreement. In the event that the Assessment(s) reveal(s) the presence of contaminated soil and/or groundwater in amounts and/or levels substantially 10 greater or higher than those revealed by past sampling and monitoring performed by Seller, Sun, and/or its consultants, such that the Real Estate is not eligible for a release of liability for remediation to statewide health standards and/or site specific standards for Benzene, Toluene, Ethyl Benzene, and Xylene, as set forth in a letter from the Pennsylvania Department of Environmental Protection (PADEP) to Mr. Bradford Fish, Sun Company, Inc., dated April 23, 1998 (Exhibit G), the Purchaser shall notify Seller by sending Seller a copy of the Assessment(s) within 10 days of its receipt by Purchaser. Seller shall then have 10 days to advise Sun of the results of the Assessment(s). Seller shall then make reasonable efforts to work with both Sun and Purchaser to develop and implement a remediation plan which is mutually acceptable to Seller, Purchaser, and Sun. In the event that the Seller, Purchaser, and Sun are unable to agree on such a remediation plan within 30 days of Sun's receipt of the Assessment(s), either party may, within 10 days after this 30 day period expires, elect to void the entire sale contemplated by this Agreement, and neither party shall have any further liability to the other arising out of this Agreement. E. If Purchaser fails to exercise its option to void the entire sale pursuant to Section 1.3 D of this Agreement, then Purchaser, after the Effective Date, at its sole cost and expense, shall cooperate with Seller and Sun: (1) to provide access to Sun and its employees, consultants, and agents, and to Seller and its employees, consultants and agents, for the purpose of conducting such sampling, testing, or monitoring, as required in connection with the remediation described in Section 2.11 A, any related application submitted to PADEP pursuant to Act 2 (the Land Recycling and Environmental Remediation Standards Act), or any remediation undertaken pursuant to Section 1.3 D; (2) to assist Sun and Seller in obtaining a release of liability from the PADEP pursuant to Act 2, in connection with the remediation described in Section 2.11A. (3) by providing Seller with copies of all documents (excluding any which may be protected by attorney client privilege) which are (1) prepared before or after the 11 Due Diligence Period and prior to the Effective Date relating to the Previously Disclosed Environmental Issue, including but not limited to any Phase I or Phase II Site Assessment or other due diligence investigation, whether prepared by Purchaser, its assignee, or their consultants or agents, or (2) prepared or received before or after the Effective Date and which relate to the process of attempting to obtain Act 2 agreements relating to the Real Estate. In the event that after the Effective Date of this Agreement any third party makes any claim against Purchaser in connection with the Previously Disclosed Environmental Issue, Purchaser shall provide Seller with notice of such claim within fifteen (15) days, and shall consult with Seller. Purchaser and Seller shall cooperate with respect to determining an appropriate course of action to investigate, respond to, and/or resolve such claim. F. Purchaser understands and agrees that any issues and concerns involving the effect of environmental remediation on the Real Estate after the Effective Date should be discussed and resolved with Sun during the assessment period discussed in Section 1.3D and that this includes, but is not limited to, issues concerning operation of the Branch for banking and financial services by Purchaser including parking and access to the Branch. 1.4 Additional Obligations of the Seller On the Effective Date, the Seller shall: A. deliver to Purchaser at least two (2) full sets of keys to the Branch, and such of the Assets purchased as shall be capable of physical delivery, including, without limitation, the Tangible Personal Property purchased hereunder; B. execute, acknowledge and deliver to Purchaser all such endorsements, assignments, bills of sale, and other instruments of conveyance, assignment and transfer as shall be reasonably necessary or advisable to consummate the sale and transfer of the Assets to Purchaser; 12 C. make available to Purchaser immediately available funds equal to the amount of Core Deposits with accrued interest assumed by Purchaser under Section 1.2 B(ii) less the sum of the payments to be made to the Seller as described in Section 1.2 B(i); D. transfer, assign and deliver to Purchaser such of the following records pertaining to the Core Deposits as exist and are in Seller's possession in whatever form or medium as are maintained by Seller on the Effective Date: (i) signature cards, orders and contracts between the Seller and Depositors, and records of similar character; (ii) negotiated deposit slips and canceled checks or withdrawal orders representing charges to depositors; (iii) IRA documents and authorization for IRA customers; (iv) special customer authorizations, including stop payments, other account holds and automatic transfers; (v) organization and business account resolutions and authorizations; (vi) overdraft line of credit contracts and related documents; (vii) copies of tax identification notices received prior to closing; (viii) all unpaid tax assessments; (ix) documents authorizing and supporting holds, cautions and levies; (x) copies of ACH origination forms and records; and, (xi) such other documents as may be necessary to permit proper accounting for and recording of the Core Deposits and to comply with any applicable tax withholding requirements related thereto as may be reasonably requested by Purchaser. From and after the Effective Date, the Seller agrees that it will preserve and safely keep, for as long as may be required by applicable law, all of the historical books and records of account pertaining to the Core Deposits assumed by Purchaser and not otherwise transferred to 13 Purchaser on the Effective Date for the joint benefit of itself and Purchaser, and that it will provide to the Purchaser or its representatives, at any reasonable time and at Purchaser's expense, copies (or originals, if originals exist and are required for purposes of legal proceedings) of any such books and records as Purchaser shall reasonably deem necessary; provided, however, nothing herein shall require the Seller to breach any obligation of confidentiality of any customer; E. arrange with Sun for Sun to enter into a written Indemnity Agreement with Purchaser, in form and substance reasonably satisfactory to Purchaser, providing Purchaser with rights to indemnification from Sun substantially equivalent to the rights provided by Sun to Seller (as successor to Elmwood Federal Savings Bank ["Elmwood"]), under an Indemnity Agreement between Elmwood and Sun attached hereto as Exhibit H; F. On the Effective Date, in addition to the special warranty deed, any bills of sale and any other documents reasonably required by Purchaser's title company in order to insure Purchaser's title to the Real Estate, Seller shall deliver, assign and transfer to Purchaser: (i) the originals, if originals exist, of all documents, reports, correspondence and agreements relating in any way to the environmental condition of the Real Estate or to the Previously Disclosed Environmental Issue or Sun's remediation of PADEP's agreements or positions with respect to the Real Estate or its conditions, which are in the possession of Seller or any of its agents; ( ii) originals, if originals exist, of any agreements relating in any way to the Real Estate; and (iii) originals, if originals exist, of all surveys, plans and specifications relating in any way to the Real Estate. 1.5 Certain Transitional Matters A. In order to reduce the continuing charges to Seller through the check clearing system of the banking industry which will result from check forms of Seller being used after the 14 Effective Date by depositors or holders of the Core Deposits, Purchaser, at its cost and expense, on or prior to the Effective Date, shall prepare and mail to each depositor or other holder of a Core Deposit, as appropriate: (i) a letter prepared by Purchaser and reasonably acceptable to Seller notifying each such depositor or account holder of the transfer of his or her account pursuant to this Agreement and requesting where appropriate that upon the receipt of the enclosed temporary checks or withdrawal forms such depositor or holder cease writing checks, drafts and withdrawal orders on forms provided by Seller and carrying its imprint (including name and transit routing number) against any such account, and that such depositor or holder immediately destroy unused checks and withdrawal orders of Seller; (ii) and as appropriate, signature cards and checks and withdrawal order forms of Purchaser with instructions to utilize the checks or withdrawal orders of Purchaser from the Effective Date forward. Seller shall co-operate with Purchaser in accomplishing this customer notification. B. On or before the Effective Date, Seller and Purchaser shall cooperate and shall take all such action as is necessary to arrange for the direct routing to Purchaser through the check clearing system of the banking industry, effective immediately after the Effective Date, of all checks, drafts and withdrawal orders on forms provided by the Seller and carrying its imprint (including name and transit routing number) and relating to the Core Deposits. In the event that within 60 days after the Effective Date, Seller shall receive any such checks, drafts or withdrawal orders through the check clearing system of the banking industry, Seller shall immediately forward to Purchaser or Purchaser's agent, at the cost and expense of Purchaser, by courier service, overnight delivery service, or such other means as Purchaser shall reasonably request, all such checks, drafts, and withdrawal orders for processing by Purchaser. C. Following the Effective Date, Purchaser agrees to pay in accordance with the law and customary banking practices all properly payable checks, drafts and withdrawal orders or proper withdrawals effected through a shared automated teller system of which Seller is a participant, which are presented to Purchaser by mail, over the counter, through the check clearing system of the banking industry, and/or in the manner set forth herein, by depositors or holders of the Core Deposits, whether drawn on the checks, drafts, withdrawal order forms or 15 automated teller machine cards provided by Seller or by Purchaser, and in all other respects, to discharge after the Effective Date, in the usual course of the banking business, all duties and obligations with respect to the balances due and owing to the depositors or holders of the Core Deposits. D. If, instead of accepting the obligation of Purchaser to pay the Core Deposits assumed by Purchaser pursuant to this Agreement, any such depositors or holders shall demand payment from Seller for all or any part of such assumed Core Deposits, Seller shall refer all such depositors or holders to Purchaser in the manner and with such instructions, if any, as shall be hereafter established by Seller and Purchaser, and Purchaser shall thereupon be responsible for making such payment (if still demanded) to such depositor or holder. If, after the Effective Date, any of such depositors or holders shall present to Seller, whether in person, by mail, or otherwise, a check, draft or withdrawal order drawn against any of the Core Deposits, Seller shall refer such depositor or holder, or deliver such check, draft or withdrawal order, to Purchaser as set forth above. Purchaser shall pay all such properly payable checks, drafts and withdrawal orders as set forth above and shall promptly reimburse Seller for all expenses paid and charges incurred, if any, by Seller with respect to all such properly drawn checks, drafts and withdrawal orders. E. Seller shall provide all information and take all steps required to be taken by it that are reasonably necessary for Purchaser to effect the transfer of any direct deposit arrangement affecting any of the Core Deposits and shall pay to Purchaser, within the applicable midnight deadline, any funds received by Seller which are intended to be credited to any of the Core Deposits. Purchaser shall use its best efforts to complete all actions necessary to effect the transfer of such direct deposit arrangements within 30 days of the Effective Date. Seller shall have the right to return to the payor any direct deposit item received by it subsequent to 90 days after the Effective Date or such other time period as Purchaser and Seller may mutually agree upon. F. Seller shall cooperate with Purchaser and use its best efforts to assist in the transfer to Purchaser of the Core Deposits and shall take all reasonable actions necessary to 16 accomplish such transfer, including but not limited to the provision of any required notices to customers with respect to the Core Deposits. Seller shall supply Purchaser with such information and records in its possession and control relating to the Core Deposits as Purchaser may reasonably request, including, but not limited to, periodic portfolio reports and computer tapes setting forth current account information in machine-readable format and any information required for inclusion in all applications to regulatory authorities necessary to consummate the transactions contemplated by this Agreement G. Prior to Effective Date, Purchaser shall designate a successor trustee, which may be Purchaser ("Successor Trustee"), as to any IRA account constituting a Core Deposit. Both parties will cooperate with the Successor Trustee. Seller will transfer the trusteeship of all such IRA accounts to the Successor Trustee on the Effective Date, subject to the Successor Trustee's written acceptance of its duties as Successor Trustee in form and substance acceptable to Seller. H. Promptly after the execution of this Agreement, Seller will deliver to Purchaser a list of holds, cautions and levies that have been placed by Seller on particular accounts or on individual checks, drafts, or other instruments, specifically describing such holds, cautions and levies. Purchaser shall not be obligated to accept or purchase any Core Deposits which are subject thereto, but shall identify any such rejected Core Deposits prior to the expiration of the Due Diligence Period. Such listed holds, cautions and levies will be continued by Purchaser under the same terms to the extent practicable or required by law. I. Subsequent to regulatory approval of the transaction proposed hereunder, Seller will notify its affected customers by letter, in a form mutually agreeable to Seller and Purchaser, of the pending assignment of Seller's Core Deposits to Purchaser, which notice shall be at Seller's cost and expense. J. Purchaser agrees to indemnify Seller against liabilities Seller incurs with respect to any checks, drafts or withdrawal orders credited to a Core Deposit as of the Effective Date which are returned to Seller after the Effective Date, provided Seller, within the applicable 17 midnight deadline, notifies Purchaser of any such returns and complies with Purchaser's reasonable instructions with respect to such items. This indemnity shall not apply to any acts or omissions of Seller which are (i) not pursuant to Purchaser's reasonable instructions and (ii) not in compliance with Seller's or Purchaser's responsibilities under applicable law or regulation. 1.6 Indemnification A. The Seller shall indemnify the Purchaser and hold it harmless from and against any losses, liabilities, damages or expenses (collectively, "Losses") that the Purchaser may sustain or become subject to as a result of (i) any material breach of any representation, warranty or agreement of Seller contained in this Agreement, (ii) any claim, legal action or administrative proceeding based on any conduct of Seller or resulting from or arising in connection with the operation or ownership of the Branch or Real Estate or any of the Core Deposits or other Assets transferred hereunder on or prior to the Effective Date, or (iii) the assertion against Purchaser of any liability or obligation with respect to Taxes (as defined below) attributable to the Assets, the Branch or the Real Estate on or prior to the Effective Date or that Seller is obligated to pay hereunder. Notwithstanding the foregoing, Seller shall have no obligation to indemnify Purchaser against any Losses below an aggregate amount of $10,000. The foregoing limitations on the obligation of Seller to indemnify Purchaser shall not apply to any claim, legal action, or administrative proceeding arising from or relating to the Previously Disclosed Environmental Issue. B. The Purchaser shall indemnify the Seller and hold it harmless from and against any losses, liabilities, damages or expenses (collectively, "Losses") that the Seller may sustain or become subject to as a result of (i) any material breach of any representation, warranty or agreement of the Purchaser contained in this Agreement, (ii) any claim, legal action or administrative proceeding based on any conduct of the Purchaser or resulting from or arising in connection with the operation or ownership of the Branch or Real Estate or any of the Core Deposits or other Assets transferred hereunder from and after the Effective Date, or (iii) the assertion against Seller of any liability or obligation with respect to Taxes (as defined below) 18 attributable to the Assets, the Branch or the Real Estate from and after the Effective Date or that Purchaser is obligated to pay hereunder. Notwithstanding the foregoing, the Purchaser shall have no obligation to indemnify Seller against any Losses below an aggregate amount of $10,000. C. "Taxes" shall include, but not be limited to any federal, state, local, foreign and other income, franchise, capital stock, employees' income withholding, non-resident alien withholding, social security, unemployment, disability, real property, personal property, sales, use, excise, transfer, business privilege, loans and other taxes or governmental assessments, fees or charges, including any interest, penalties or additions to tax on the foregoing. D. To exercise its indemnification rights under this Section 1.6 as a result of the assertion against it of any claim or liability for which indemnification is provided, the indemnified party shall promptly notify the indemnifying party of all facts relating thereto within the knowledge of the indemnified party, and shall afford the indemnifying party the opportunity, at the indemnifying party's sole cost and expense, to defend against such claim or liability (in which event the indemnified party may participate in the defense at its own sole expense). The indemnified party shall have the right to settle or compromise any such claim or liability and to be indemnified from and against all Losses resulting therefrom, unless the indemnifying party, within thirty (30) days after receiving notice of the claim or liability in accordance with this Section 1.6 D, notifies the indemnified party that it intends to defend against such claim or liability and undertakes such defense. 1.7 Prorations A. Any deposit insurance premium assessment and other tax or related assessment paid or payable relating to the Core Deposits shall be prorated between the parties as of the Effective Date. To the extent that such premium, tax or assessment has been prepaid by Seller for a period extending beyond the Effective Date, Purchaser shall pay Seller at Closing the amount applicable to the period after the Effective Date 19 calculated at the premium rate paid by the Seller. B. It is the intention of the parties that Seller shall operate for its own account the business being transferred pursuant to this Agreement until the close of business on the Effective Date, and that the Purchaser shall operate for its own account the business being transferred pursuant to this Agreement from and after the Effective Date. Thus, except as otherwise specifically provided in this Agreement, items of income and expense shall be prorated or adjusted between the parties as of the close of business on the Effective Date, whether or not such adjustment would normally be made as of such time, including without limitation, rents applicable to real estate leases, contract payments, utility payments, real and personal property taxes, similar expenses and charges, and security and utility deposits. The obligations of the parties under this paragraph shall survive the Effective Date. 1.8 Settlement Procedure Notwithstanding the transaction herein described occurring on the Effective Date, the settlement for the purchase and assumption and the transfer of the Assets and Core Deposits shall occur as follows: A. On or prior to the Effective Date, the parties will conduct a preliminary settlement using data accumulated through the close of business at the Branch on a date no more than five (5) days prior to the Effective Date as mutually agreed to by the parties. Based upon such preliminary data, the amount due Purchaser and the amount due the Seller shall be netted, and the netted difference will be paid to the Purchaser by the Seller or to the Seller by the Purchaser, as the case may be, on the Effective Date. B. Title to the Real Estate and Tangible Personal Property shall be transferred on the Effective Date. 20 C. Promptly following the Effective Date, once all Branch data up to and including the close of business on the day immediately preceding the Effective Date is available, the parties will conduct an adjusting settlement using such updated data. An appropriate adjusting settlement payment from the Seller to Purchaser or from Purchaser to the Seller, as the case may be, will be made, together with accrued interest calculated at the Federal Funds rate for the number of days lapsed between the Effective Date and the date of such adjusting settlement payment. 1.9 Employees A. Purchaser intends, but is not obligated to continue the employment of Seller's Employees for a minimum of one (1) year from the Effective Date at the work site where they are employed as of the Effective Date and/or another office of the Purchaser. Such employment is to be effective at the close of business on the Effective Date. Any Employees that continue to be employed by Purchaser will be paid a salary or wage on the same bases or scales which Purchaser pays to its other employees for comparable positions in Purchaser's organization. Bonuses or incentive compensation will be paid in accordance with Purchaser's employee policies and practices, as amended from time to time. Any employees who continue to be employed by Purchaser will be offered health, welfare and retirement benefits as are currently being provided by Purchaser to its employees in positions with comparable responsibilities and years of service. B. Purchaser has the right to terminate any Employee at any time for acts that are illegal or are otherwise in violation of Purchaser's operating or personnel policies or would otherwise be a basis for termination of Purchaser's other comparable employees. C. For the purposes of determining credit for eligibility and vesting (but not for any other purposes including without limitation accrual of benefits) in Purchaser's benefit plans, Purchaser agrees to use for each Employee hired, the Employee's date of hire as shown in Seller's personnel records. 21 D. The foregoing undertakings are meant solely to mitigate any liability risks of Seller and are only for the benefit of Seller and are not for the benefit of any individual Employees. E. Seller assumes all payroll and other obligations for Employees for periods through the close of business on the Effective Date and shall make final payments of salary and other lump sum cash payments to which the Employee may be entitled in accordance with its regular payroll schedule. Purchaser assumes all payroll and other obligations for Employees for periods after the Effective Date. ARTICLE II REPRESENTATIONS AND WARRANTIES OF THE SELLER Seller hereby represents and warrants to Purchaser as follows: 22 2.1 Corporate Organization Seller is a National Banking Association validly existing and in good standing under the laws of the United States. Seller has the corporate power and authority to own its properties, to carry on its business as presently conducted, and to effect this transaction. The Core Deposits are, subject only to monetary limits established by law and regulation, insured by the Federal Deposit Insurance Corporation ("FDIC") through its Bank Insurance Fund ("BIF"). 2.2 Real Estate On and after the execution of this Agreement, Seller shall provide to Purchaser all information and reports in its files concerning the physical condition of the Real Estate, including but not limited to all environmental condition reports, all maintenance contracts and repair records and shall permit Purchaser's agents to interview Seller's building maintenance and management personnel and Seller's legal counsel and other professional consultants regarding the physical condition of the Real Estate. Seller shall also provide to Purchaser complete copies of all surveys of the Real Estate which are in the possession or control of Seller or any of its agents. 2.3 Title to Personal Property; Encumbrances A. Except as otherwise noted in this Agreement or the Exhibits hereto, Seller is the owner of the Tangible Personal Property and other assets to be transferred to Purchaser pursuant to this Agreement, and in no case are such assets subject to any mortgage, pledge, lien, security interest, conditional sales agreement, lease, encumbrance or charge of any nature whatsoever, except as disclosed in the Exhibits hereto. B. Except as otherwise expressly provided in this Agreement, the Real Estate, and Tangible Personal Property being sold to Purchaser are being sold on an "as is and where is" basis without recourse to Seller and with no warranties express or implied with respect to design, 23 fitness, condition or otherwise. The Tangible Personal Property to be transferred pursuant to this Agreement is, to Seller's best knowledge and belief, in good operating condition and repair, giving consideration to age and use and subject to ordinary wear and tear. C. With the exception of the Previously Disclosed Environmental Issue, Seller has received no notice of any violation of zoning laws, building or fire codes, or other statutes, ordinances or regulations relating to the Branch. D. Seller has no actual knowledge (not having made any specific investigation for this purpose) and has received no written notice of any proposed assessments against such Branch for public improvements or any notice that the current use of the Branch violates any law, ordinance, rule or regulation, including zoning, lane division, building, fire, or health laws. 2.4 No Violation The execution and delivery of this Agreement by Seller does not, and the consummation of the transactions contemplated hereby by it will not, constitute (i) a breach or violation of, or a default under, any law, rule, regulation, judgment, decree, order, governmental permit or license, agreement, indenture or instrument of Seller or to which Seller is subject, which breach, violation or default would have a material adverse effect on the financial condition, business or result of operation of Seller and its subsidiaries taken as a whole or on Seller's ability to perform its obligations under this Agreement or Purchaser's ability to operate the Branch, or (ii) a breach or violation of, or a default under, Seller's articles of association, articles of incorporation or by-laws, and the consummation of the transactions contemplated hereby will not require any consent or approval under any such law, rule, regulation, judgment, decree, order, governmental permit or license or the consent or approval of any other party to any such agreement, indenture or instrument, other than the approval of applicable regulatory authorities, if any, which approval shall have been obtained prior to the Effective Date. 24 2.5 True Statements To Seller's best knowledge and belief, no exhibit hereto contains any untrue statement of a material fact or omits to state a material fact necessary in order to make the statements contained therein, in the circumstances in which they were made, not misleading. 2.6 Limitation of Warranties Except as may be expressly represented or warranted in this Agreement or any deed, bill of sale, assignment or other related agreement or instrument by the Seller, the Seller makes no representations or warranties whatsoever with regard to any Assets being transferred, assigned or delivered to the Purchaser or any liability or obligation being assumed by the Purchaser. 2.7 Deposits The Core Deposits to be transferred pursuant to this Agreement are fully enforceable and are, and Seller's administration and disclosure with respect thereto have at all times since the acquisition of Elmwood Federal Savings Bank been, in compliance with all applicable rules and regulations in all respects including, by way of illustration and not limitation, their terms, interest rates and administration. The list of Core Deposits contained in Exhibit D is true and correct as of December 17, 1998. 2.8 Deposit Insurance The Core Deposits to be transferred pursuant to this Agreement are insured by the Federal Deposit Insurance Corporation, by its "BIF" Fund up to the maximum extent permitted by law. Seller has filed all reports and paid all premiums required under the Federal Deposit Insurance Act. 2.9 Status of Loans 25 With respect to each loan being purchased by the Purchaser pursuant to this Agreement, the loan is a valid loan which is, and Seller's actions in connection with the origination, disclosure and administration thereof at all times since the acquisition of Elmwood Federal Savings Bank have been, in conformity in all material respects with applicable laws and regulations. The principal balance and accrued, unpaid interest of each loan, as shown on Seller's books and records is true and correct as of the last date shown thereon. Seller possesses on micro-fiche or micro-film true and complete copies of all notes, mortgages and other loan documents and will deliver them to Purchaser on the Effective Date. Seller had not classified any of the loans or established any specific reserve against any of the loans. 2.10 No Adverse Litigation Except for the Previously Disclosed Environmental Issue, there is no action, arbitration, suit, proceeding or claim pending or, to the best knowledge of Seller, threatened, against Seller with respect to, or adversely affecting the Assets being purchased hereunder or the liabilities being assumed hereunder before or by any federal, state, municipal or other governmental department, commission, board, agency or instrumentality, or which would adversely affect Seller's ability to perform its obligations under this Agreement. 2.11 Environmental Matters A. Disclosure of Contamination from Underground Storage Tanks and Related Piping, and Remedial Actions and Groundwater Monitoring. Prior to 1980, the Real Estate was operated by a previous owner as a retail gasoline station. In 1980, underground storage tanks on the property, which had been used for storing gasoline and oil, were removed from service and filled with inert material, and said tanks, along with related piping, remain on the property. (An associated waste oil tank was removed from the property at a later time.) Contamination of soil and groundwater at the property from 26 contaminants from gasoline have been observed, and some volatilized contaminants were released into the building on the property. Certain remedial actions have been taken, including the removal and disposal of piping and some contaminated soil, and the sealing of a crack in the building's wall. Groundwater monitoring has been conducted on the property. Some contamination remains in the soil and groundwater. The existence of the soil and groundwater contamination at the Branch property has been reported to the PADEP, and the PADEP has reviewed the specific levels of contamination measured. Seller has provided to Purchaser copies of the documents relating to this contamination, remediation, and monitoring, which include but are not limited to the documents identified on Exhibit I. Seller has also provided and will hereafter, on a timely basis to permit Purchaser's evaluation within the Due Diligence Period, provide Purchaser with the opportunity to interview its own employees regarding such contamination, and provide access to representatives of Sun and its consultants who have conducted the referenced remedial actions and/or monitoring, in order to assist Purchaser in its evaluation of this contamination. B. With the exception of remedial and investigative activities conducted in connection with the contamination disclosed in this Section 2.11 and Exhibit I, as of the date of the Agreement, Seller has not conducted any investigation into the existence of any other contamination of soil or groundwater at the property. With the exception of the contamination disclosed in this Section 2.11, Seller has no knowledge of the contamination of soil or groundwater at the property by any hazardous substances or hazardous wastes. C. Purchaser is not waiving or releasing any rights, by way of indemnity, contribution or otherwise, which it may have now or hereafter against Seller, Sun or any third party relating to the Previously Disclosed Environmental Issue involving the Real Estate, whether under this Agreement or otherwise. D. Seller will cooperate with Purchaser and Sun in obtaining an Act II release of liability from PADEP. 27 ARTICLE III REPRESENTATIONS AND WARRANTIES OF THE PURCHASER The Purchaser hereby represents and warrants to the Seller as follows: 3.1 Corporate Organization Purchaser is a National Banking Association duly organized, validly existing and in good standing under the laws of the United States. Purchaser has the corporate power and authority to own the property being acquired, to assume the liabilities being transferred, and to effect the transactions contemplated hereunder. Purchaser's deposits are insured by the Federal Deposit Insurance Corporation and Purchaser is a member of BIF. 3.2 No Violation The execution and delivery of this Agreement by Purchaser does not, and the consummation of the transactions contemplated hereby by it will not constitute (i) a breach or violation of, or a default under, any law, rule, regulation, judgment, decree, order, governmental permit or license, agreement, indenture or instrument of the Purchaser or to which the Purchaser is subject, which breach, violation or default would have a material adverse effect on the financial condition, business or result of operation of the Purchaser and its subsidiaries taken as a whole or Purchaser's ability to perform its obligations under this Agreement, or (ii) a breach or violation of, or a default under, the Purchaser's articles of association, articles of incorporation or by-laws, and the consummation of the transactions contemplated hereby will not require any consent or approval under any such law, rule, regulation, judgment, decree, order, governmental permit or license or the consent or approval of any other party to any such agreement, indenture or instrument, other than the approval of applicable regulatory authorities, which approval shall have been obtained prior to the Effective Date. 28 3.3 Broker Other than Anonick Financial Corporation, Purchaser has not retained or otherwise engaged any broker, finder or any other similarly employed person or agreed to pay any fee or commission to any agent, broker or other similarly employed person for or on account of this Agreement or in connection with the transactions contemplated hereby. Purchaser is solely responsible for paying all such fees and/or commissions to Anonick Financial Corporation. 3.4 Environmental Matters A. Disclosure of Contamination from Underground Storage Tanks and Related Piping, and Remedial Actions and Groundwater Monitoring. Purchaser acknowledges that Seller has provided to Purchaser copies of the documents relating to this contamination, remediation, and monitoring, which are identified on Exhibit I. Purchaser further acknowledges that Seller has provided it with access to representatives of Sun and its consultants who have conducted the referenced remedial actions and/or monitoring, in order to assist Purchaser in its evaluation of this contamination. B. Inspection of the Branch and Due Diligence Investigation. Purchaser acknowledges that Seller has agreed to provide it with full access to the Branch for the purpose of inspecting the property in order to allow Purchaser to conduct a "due diligence" investigation into any and all environmental matters and compliance with applicable laws. Such access will include the opportunity to conduct any surveys, sampling, or testing deemed necessary by Purchaser, and to interview Seller's employees in connection with environmental matters. If Purchaser interviews Seller's employees, Purchaser shall provide Seller, in writing, within thirty days, a detailed summary of all information or statements obtained from such employees in such interviews. Purchaser acknowledges that any information or statements provided to Purchaser by Seller's employees during interviews conducted as part of such due diligence investigation shall not constitute representations or warranties by Seller. 29 C. Acceptance of Branch Property in "As-Is" Condition. Subject to the express provisions of this Agreement which concern the Previously Disclosed Environmental Issue and section 1.3C of this Agreement, Purchaser accepts the Branch and takes title to the Real Estate described in Exhibit A, in "as-is" condition. Purchaser agrees and represents that, except as expressly contained in this Agreement, no representations by or on behalf of Seller have been made as to the condition of the Branch, any restrictions related to the development of the Real Estate, the applicability of any governmental requirements, or the suitability of the property for any purpose whatsoever. Purchaser represents and warrants that it intends to conduct its own independent "due diligence" investigation of environmental matters, including the inspection of the Branch property, and except for the information contained in Section 2.11A and Exhibit I, is relying solely on such independent investigation. 3.5 Confidentiality The provisions of the existing confidentiality agreement between Seller and Purchaser shall apply to this Agreement and the confidentiality agreement is incorporated herein by this reference. ARTICLE IV CONDUCT OF BUSINESS PENDING THE EFFECTIVE DATE 4.1 Activity in the Ordinary Course A. Seller shall carry on the business of its Branch substantially in the same manner as heretofore, and Seller shall not, with regard to such Branch, engage in any activities or transaction outside its ordinary course of business as conducted as of the date hereof except for activities or transactions contemplated by this Agreement, provided, however, that Seller need 30 not, in its sole discretion advertise or promote new or substantially new customer services in the Branch's principal market area. Seller shall use reasonable efforts to preserve its business operation as conducted at the Branch, to preserve for Purchaser the good will of its customers and others doing business with the Branch, and to cooperate with and assist Purchaser in assuring the orderly transition of such business from Seller to Purchaser. Nothing in this paragraph shall be construed as requiring Seller to engage in any activities or efforts outside the ordinary course of business as presently conducted. B. Seller shall not institute any policy changes that apply exclusively to the Branch from the date of this Agreement to the Effective Date without the express written approval of Purchaser. C. Between the date hereof and the Effective Date, Seller shall maintain all of the property at the Branch in customary repair, order and condition, and maintain its books, accounts and records concerning the Branch in the ordinary and usual manner on a basis consistent with past practice. D. Between the date hereof and the Effective Date, Seller shall not, without the prior consent of the Purchaser: (i) cause or permit the transfer from or to the Branch of any deposits, except upon the unsolicited request of a depositor or otherwise in the ordinary course of business; (ii) offer to or modify any of the contractual terms on the deposits at the Branch, except in the ordinary course of business; (iii) direct any special deposit promotions solely within the Branch's principal market area; or (iv) otherwise materially increase the aggregate costs of funds of the Branch. E. Between the date hereof and the Effective Date, Seller shall not, without prior consent of the Purchaser acquire or dispose of Tangible Personal Property of the Branch, except for replacement of furniture, fixtures and equipment and normal maintenance and refurbishing in the ordinary course of business of the Branch. If any material damage is caused to the Branch by Seller's removal of any property, Seller will repair the damage prior 31 to the Effective Date. F. Between the date hereof and the Effective Date, Seller shall not, without prior consent of the Purchaser (i) increase or agree to increase the salary, remuneration or compensation of persons employed at the Branch other than in accordance with Seller's customary policies and/or bank-wide changes, or pay or agree to pay any uncommitted bonus to any such employees other than regular bonuses granted based on historical practice; or (ii) enter into any employment contracts with any officers or employees of the Branch. ARTICLE V OBLIGATIONS OF PARTIES PRIOR TO AND AFTER EFFECTIVE DATE 5.1 Access At reasonable times and upon prior notice, without interfering with the normal business and operations of the Seller relating to the Branch, Seller shall afford to the officers and authorized representatives of the Purchaser access to the properties, books and records pertaining to the Branch in order that the Purchaser may have full opportunity to make reasonable investigation. The officers of Seller shall furnish the Purchaser with such additional financial and operating data and other information as to its business and properties at the Branch as may be reasonably necessary for the orderly transfer of the Branch, including, without limitation, information required for inclusion in all governmental applications necessary to effect this transaction. Nothing in this Section 5.1 shall be deemed to require Seller to breach any obligation of confidentiality or to reveal any proprietary information, trade secrets or marketing or strategic plans. Anything to the contrary notwithstanding, the Purchaser shall not require Seller to disclose Seller's profitability analysis of the Branch or any other proprietary financial information. 5.2 Requirements to Obtain Approval of Regulatory Authorities 32 Purchaser's Requirements. In order to consummate this Agreement, Purchaser will be required to obtain certain approvals from proper regulatory authorities. Purchaser shall, within 30 days of the signing of this Agreement, file applications with the proper regulatory authorities notifying such regulators of its intent to consummate the transaction and thereafter shall (i) comply with the normal and usual requirements imposed by such authorities applicable to effectuate the transaction, and (ii) use its good faith efforts to promptly obtain any required permission of such regulatory authorities to consummate the transaction Seller's Requirements. Seller will cooperate with Purchaser in the preparation and filing of all applications with the appropriate regulatory authorities. 5.3 Use of Seller's Name Except as contemplated hereby for the orderly transfer of the liabilities and assets, Purchaser agrees that after the Effective Date the name of the Seller shall not be used in any manner without the express prior written consent of Seller. Purchaser shall not state or imply that Seller is in any way involved as a partner, joint venturer or otherwise in the business of Purchaser. With Seller's express prior written consent, Purchaser may use Seller's name to describe this transaction in any public communications. 5.4 Return of Information In the event that the transactions contemplated hereby are not consummated for any reason, each party agrees that it will return or cause to be returned to the other party all information obtained in connection with this transaction and will not, except as otherwise required by law, disclose or use such information in the conduct of Purchaser's business or otherwise. 33 5.5 Non-Solicitation of Branch Based Business In order that the Purchaser may have and enjoy the full benefit of the transactions contemplated by this Agreement, Seller agrees that it will not, for a period of three (3) years following the Effective Date, either (i) directly or indirectly solicit customers whose loans and/or deposit liabilities and/or banking relationships are acquired by the Purchaser pursuant to this Agreement; or (ii) establish a bank branch or automated teller, cash, loan or other machine within a five (5) mile radius of the Branch, except that an acquisition occurring in connection with a combination of Seller or Seller's parent company with another existing financial institution or bank holding company shall not violate this covenant. The foregoing shall not, however, limit solicitations by the Seller (i) as may occur in connection with advertising or solicitations directed to the public generally by means of general circulation so long as such mailing lists are not derived from Seller's customer lists for the Core Deposits or loans being sold to Purchaser; or (ii) as may occur in connection with direct mailings from mailing lists purchased from sources outside the Seller; or (iii) as may occur as a result of Seller's solicitation of deposits or loans outside of the Commonwealth of Pennsylvania; or (iv) of customers who have any existing lending, deposit, trust, or other banking relationships domiciled at any of the Seller's branch offices or other facilities which are not transferred to the Purchaser hereunder. 5.6 Further Assurance The parties hereto agree to execute and deliver such instruments and to take such other actions as the other party may reasonably require in order to carry out the intent of this Agreement. The Seller agrees to duly execute and deliver such bills of sale, acknowledgments and other instruments of conveyance and transfer as shall be necessary and appropriate in the reasonable judgment of the Purchaser to vest in the Purchaser the legal and equitable title to the Assets of the Seller being sold hereunder, free and clear of all liens and encumbrances except as otherwise noted in the Exhibits hereto. Seller shall be responsible for all costs of deed recordation, and Purchaser shall be responsible for all titling fees. Purchaser shall also pay or 34 reimburse Seller for Seller's payment of Purchaser's portion of all state or local sales or compensating use or transfer taxes payable in connection with the transactions contemplated hereunder, other than any tax or portion thereof calculated directly or indirectly with respect to the income of the Seller ARTICLE VI CONDITIONS TO PURCHASER'S OBLIGATION The obligation of the Purchaser to complete the transactions provided for in this Agreement are conditioned upon fulfillment, at or before the Effective Date, of each of the following conditions: 6.1 Information and Investigation Subject in all cases to the terms and conditions of confidentiality provided in the Agreement, pursuant to Section 5.1, Seller will promptly afford to Purchaser, its officers, attorneys, accountants, and other authorized representatives, access to information concerning the property, the books and records pertaining to the Branch, financial and operating data and such other information as is reasonably necessary for the evaluation of the Assets, Core Deposits and Employees. Purchaser will promptly commence any investigations it deems necessary or desirable with respect to such information, and after a reasonable period of time, not to exceed forty (40) days from the date hereof, advise Seller in writing whether, on the basis of such investigation and review, and the discussions and negotiations to such date, Purchaser intends to proceed to consummate this transaction. 6.2 Representations and Warranties True The representations and warranties made by Seller in this Agreement shall be true in all material respects at and as of the Effective Date as though such representations and warranties were made at and as of such time, except for any changes permitted by the terms hereof or 35 consented to by Purchaser. 6.3 Corporate Authority The execution and delivery of this Agreement, and the consummation of this transaction, shall have been authorized by the Board of Directors of Seller. No further corporate authorization on the part of Seller shall be necessary to consummate this transaction. This Agreement shall be valid and binding agreement of the Seller, enforceable against the Seller in accordance with its terms. 6.4 Obligations Performed Seller shall have performed and complied in all material respects with all obligations and agreements required by this Agreement to be performed or complied with by it within the timeframe specified herein or, where no timeframe is specified, prior to or at the Effective Date. 6.5 No Adverse Litigation Except as has been previously disclosed by Seller, on the Effective Date, no action, suit or proceeding shall be pending or threatened against Seller which might reasonably be expected to (a) materially and adversely affect the business, properties, and Assets of the Branch, or (b) materially and adversely affect this transaction. 6.6 No Material and Adverse Change of Condition Except as has been previously disclosed by Seller, on the Effective Date, there has been no material and adverse change in the condition (financial or otherwise), assets, liabilities, business operations or future prospects of the Branch, including, but not limited to, a material adverse change in the Branch's deposits, their composition, terms or rates in the aggregate. 36 6.7 Regulatory Approval All filings and registrations with and notifications to all Federal and state authorities required for consummation of the acquisition shall have been made. All approvals and authorizations of all Federal and state authorities required for consummation of the acquisition shall have been received and shall be in full force and effect, provided said approvals do not impose upon Purchaser any material adverse condition which would materially affect Purchaser's ability to operate the Branch, and all applicable waiting periods shall have passed. ARTICLE VII CONDITIONS TO SELLER'S OBLIGATIONS The obligation of Seller to complete the transactions provided for in this Agreement are conditioned upon fulfillment, at or before the Effective Date, of each of the following conditions: 7.1 Representations and Warranties True The representations and warranties made by the Purchaser in this Agreement shall be true in all material respects at and as of the Effective Date as though such representations and warranties were made at and as of such time, except for any changes permitted by the terms hereof or consented to by Seller. 7.2 Corporate Authority and Validity The execution and delivery of this Agreement, and the consummation of the transactions contemplated hereunder shall have been duly authorized by the Board of Directors of Purchaser and no further corporate authorization on the part of the Purchaser shall 37 be necessary to consummate the transactions contemplated hereunder. This Agreement shall be a valid and binding agreement of the Purchaser enforceable against the Purchaser in accordance with its terms. 7.3 Obligations Performed The Purchaser shall have performed and complied in all material respects with all obligations and agreements required by this Agreement to be performed or complied with by it within the timeframe specified herein or, where no timeframe is specified, prior to or at the Effective Date. 7.4 No Adverse Litigation Except as has been previously disclosed by Purchaser, on the Effective Date, no action, suit or proceeding shall be pending or threatened against the Purchaser which might materially and adversely affect this transaction. 7.5 Regulatory Approval All filings and registrations with and notifications to all Federal and state authorities required for consummation of the acquisition shall have been made. All approvals and authorizations of all Federal and state authorities required for consummation of the acquisition shall have been received and shall be in full force and effect, provided said approvals do not impose upon Purchaser any material adverse condition which would materially affect Purchaser's ability to operate the Branch, and all applicable waiting periods shall have passed. ARTICLE VIII TERMINATION 38 8.1 Methods of Termination This Agreement may be terminated in any of the following ways: A. at any time on or before the Effective Date by the mutual consent in writing of the Purchaser and the Seller; B. on or before the Effective Date, by Seller in writing, if the conditions set forth in Article VII of this Agreement shall not have been met by the Purchaser or waived in writing by Seller; C. on or before the Effective Date, by the Purchaser in writing, if the conditions set forth in Article VI of this Agreement shall not have been met by Seller or waived in writing by the Purchaser; D. up to forty (40) days following the date of this Agreement, by Purchaser in writing in the event Purchaser declines to consummate the acquisition based on the results of Purchaser's investigation, without further obligation on the part of Purchaser to Seller. E. at any time on or prior to the Effective Date, by the Purchaser or Seller in writing if the other shall have been in breach of any representation and warranty in any material respect, or is in breach of any covenant, undertaking or obligation contained herein and such breach has not been cured by the earlier of thirty (30) days after the giving of notice to the breaching party of such breach or the Effective Date; F. by the Seller, in writing, if Purchaser has failed to file the appropriate regulatory applications within 30 days of signing of this Agreement; and G. by the Seller in writing at any time after any of the regulatory authorities has denied any application of Purchaser for approval of the transaction contemplated herein. H. by Purchaser in writing pursuant to Section 1.3 C of this Agreement. 39 I. by Purchaser or Seller in writing pursuant to Section 1.3 D of this Agreement. 8.2 Procedure Upon Termination In the event of termination pursuant to Section 8.1 hereof, written notice thereof shall be given promptly to the other party, and this Agreement shall terminate immediately upon receipt of such notice unless an extension is consented to by the party having the right to terminate. If this Agreement is terminated as provided herein: A. each party will return all documents, work papers and other materials of the other party relating to this Agreement, whether obtained before or after the execution hereof, to the party furnishing the same; and B. all information received by either party hereto with respect to the business of the other party (other than information which is a matter of public knowledge or which has heretofore been or hereafter becomes public through no act or omission of the receiving party) shall be deemed confidential and shall not at any time be used for any purpose by the receiving party or disclosed by such party to third persons. 8.3 Automatic Termination Either party hereto may, if not then in default of any of its obligations hereunder, upon notice to the other party terminate this Agreement if the purchase, sale and assumption contemplated hereby is not consummated on or before April 30, 1999. Upon such termination, all rights and obligations of the parties hereunder shall cease; provided, however, that any such election to terminate shall not constitute a waiver of or prejudice any right to damages, indemnification or other remedy to which the electing party may be entitled under law or under this Agreement as a result of any breach of the other party's obligations hereunder. 40 ARTICLE IX MISCELLANEOUS PROVISIONS 9.1 Amendment and Modification The parties hereto, by mutual consent of their duly authorized officers may amend, modify and supplement this Agreement in such manner as may be agreed upon by them in writing. 9.2 Waiver or Extension Except with respect to required approvals of the applicable governmental authorities, any party, by written instrument signed by its Chairman or President, may extend the time for the performance of any of the obligations or other acts of the parties and may waive (i) any inaccuracies in the representations or warranties in any documents delivered by the other pursuant hereto or (ii) compliance with any of the undertakings, obligations, covenants or the acts contained herein by the other. 41 9.3 Assignment This Agreement and all of the provisions hereof shall be binding upon, and shall inure to the benefit of, the parties hereto and their respective successors and permitted assigns, but neither this Agreement nor any of the rights, interests or obligations hereunder shall be assigned, prior to the Effective Date, by any of the parties hereto without the prior written consent of the other party, except that Purchaser may assign its right to purchase the Real Estate to any nominee which is affiliated with it by common control. If Purchaser does assign its right to purchase the Real Estate to a nominee affiliated with it by common control, Purchaser agrees and/or represents and warrants that (1) any such assignment shall expressly require the assignee to assume all of the Purchaser's obligations under this Agreement and (2) Purchaser will make full and complete disclosure to any such assignee of the Previously Disclosed Environmental Issue. 9.4 Survival of Representations, Warranties, Indemnities and Covenants The representations, warranties, indemnities of this Agreement (and any covenants herein referencing to, or to be performed during, periods thereafter) shall survive the Effective Date, except as expressly provided to the contrary herein or unless the context otherwise requires. 9.5 Payment of Expenses Except as otherwise specifically provided in this Agreement, each party hereto shall bear and pay all costs and expenses incurred by it or on its behalf in connection with the transactions contemplated hereunder. Except as otherwise provided herein, any expenses, fees, and costs necessary for any approvals of the appropriate Federal and/or State regulatory authorities, or for any notice to depositors of the assumption of Core Deposits provided for in this Agreement shall be paid by the Purchaser. 42 9.6 Addresses for Notice, etc. All notices, requests, demands, consents, and other communication provided for hereunder and under the related documents shall be in writing (including telegraphic communication) and mailed (by registered or certified mail) or telegraphed or delivered to the applicable party at the address indicated below: If to the Seller: Keystone Financial Bank, National Association One Keystone Plaza North Front and Market Streets Harrisburg, PA 17105 Attn: Mark L. Pulaski, President and COO If to the Purchaser: Downingtown National Bank 4 Brandywine Avenue P.O. Box 1004 Downingtown, PA 19335-0904 Attn: Henry Thorne, President and CEO or, as to each party, at such other address as shall be designated by such party in a written notice to the other party complying as to delivery with the terms of this Section. 9.7 Press Releases, Public Disclosure During the period from the execution of this Agreement to the Effective Date, Purchaser and Seller will consult with one another before issuing any press release or otherwise making any public statements or customer notification with respect to this Agreement and the transactions contemplated hereby, and neither Seller nor Purchaser shall issue any such press release or make any such public statement prior to such consultation, except as may be required by law. As soon as practicable after execution of 43 this Agreement, Purchaser and Seller shall each separately meet with the Employees prior to jointly issuing a press release for general circulation. In the event that any notice to Branch customers may be required by law or by deposit contract, the party required to give such notice shall give the notice at that party's sole expense and provide the other party with a copy of the notice. 9.8 Counterparts This Agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. 9.9 Headings The headings of the Sections and Articles of this Agreement are inserted for convenience only and shall not constitute a part hereof. 9.10 Governing Law The Agreement shall be governed by, and construed in accordance with, the laws of the Commonwealth of Pennsylvania. 9.11 Entire Agreement This Agreement contains the entire understanding between the parties and supersedes any prior written or oral agreements between them respecting the subject matter of this Agreement. There are no representations, agreements, arrangements, or understandings oral or written between and among the parties hereto relating to the subject matter of this Agreement which are not fully expressed herein. 44 IN WITNESS THEREOF, the parties hereto have caused this Agreement to be executed by their duly authorized officers and their corporate seals to be affixed as of the date first written above.
[SEAL] Seller: Attest KEYSTONE FINANCIAL BANK, NATIONAL ASSOCIATION /s/ Ben G. Rooke /s/ Mark L. Pulaski Ben G. Rooke Mark L. Pulaski Vice Chairman, Secretary, General Counsel President and Chief Operating Officer Purchaser: Attest DOWNINGTOWN NATIONAL BANK /s/ Bruce E. Moroney /s/ Henry Thorne Bruce E. Moroney Henry Thorne Senior Vice President and President and Chief Executive Officer Chief Financial Officer
45 AGREEMENT TO AMEND THE PURCHASE AND ASSUMPTION AGREEMENT BETWEEN KEYSTONE FINANCIAL BANK, NATIONAL ASSOCIATION AS SELLER AND DOWNINGTOWN NATIONAL BANK AS PURCHASER, dated JANUARY 6, 1999 WHEREAS, Keystone Financial Bank, National Association ("Keystone") and Downingtown National Bank ("Downingtown") have entered into an agreement, titled "PURCHASE AND ASSUMPTION AGREEMENT BETWEEN KEYSTONE FINANCIAL BANK, NATIONAL ASSOCIATION as Seller and DOWNINGTOWN NATIONAL BANK as Purchaser as of January 6, 1999" ("the Agreement"); and WHEREAS, pursuant to section 9.1 of the Agreement, the parties by mutual consent of their duly authorized officers may amend the Agreement in such manner as may be agreed upon by them in writing; and WHEREAS, pursuant to section 1.3(C) of the Agreement, Downingtown received a "Due Diligence Period" of thirty (30) days from the date the Agreement was signed to inspect, test, evaluate, and investigate each of the Core Deposits and Assets and Seller's documents and records relating thereto, and said Due Diligence Period expires on February 5, 1999; and WHEREAS, Downingtown has asked Keystone to extend said Due Diligence Period, NOW THEREFORE, this 5th day of February, 1999, the Parties hereto, intending to be legally bound, hereby AGREE that Section 1.3(C ) of the Agreement be amended as follows: 1. The Due Diligence Period for Downingtown to inspect, test, evaluate, and investigate each of the Core Deposits and Assets and Seller's documents and records relating thereto, is hereby extended until the close of business on Wednesday, February, 10, 1999. Except for the environmental assessments discussed in Section 1.3(D) of the Agreement, if for any reason Purchaser is dissatisfied with any of the Assets, or their condition or title thereto, Purchaser may, within seven (7) days after the expiration of the Due Diligence Period (i.e., by the close of business on February 17, 1999), elect to void the entire sale contemplated by the Agreement, and neither party shall have any further liability to the other arising out of the Agreement. 2. No other provision of this agreement is amended or modified by this amendment, and no other date or deadline contained in the Agreement is modified or changed except as expressly provided herein. 3. This agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. 1 IN WITNESS THEREOF, the parties have caused this Agreement to be executed by their duly authorized officers and their corporate seals to be affixed as of the date first written above.
[SEAL] Seller: Attest Keystone Financial Bank, National Association - ------------------- /s/ Mark L. Pulaski (Name) Mark L. Pulaski Title: --------------- President and Chief Operating Officer [SEAL] Purchaser: Attest Downingtown National Bank /s/ Bruce E. Moroney /s/ Henry Thorne Bruce E. Moroney Henry Thorne Senior Vice President and President and Chief Executive Officer Chief Financial Officer
2 EX-13 6 DNB FINANCIAL CORPORATION AND SUBSIDIARY Selected Financial Data (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
At or For the Year Ended December 31 1998 1997 1996 1995 1994 - ---------------------------------------------------------------------------------------------------------------------- RESULTS OF OPERATIONS Interest income $ 17,903 $ 16,364 $ 15,162 $ 13,996 $ 11,699 Interest expense 8,266 6,984 6,459 5,788 4,209 - ---------------------------------------------------------------------------------------------------------------------- Net interest income 9,637 9,380 8,703 8,208 7,490 Provision for loan losses -- -- -- -- -- Non-interest income 1,506 1,283 1,004 814 900 Non-interest expense 6,969 7,083 6,731 6,983 7,070 - ---------------------------------------------------------------------------------------------------------------------- Income before income taxes 4,174 3,580 2,976 2,039 1,320 Income tax expense 1,252 865 658 169 -- - ---------------------------------------------------------------------------------------------------------------------- Net income $ 2,922 $ 2,715 $ 2,318 $ 1,870 $ 1,320 - ---------------------------------------------------------------------------------------------------------------------- PER SHARE DATA* Basic earnings $ 1.92 $ 1.78 $ 1.52 $ 1.23 $ 0.87 Diluted earnings 1.86 1.75 1.51 1.23 0.87 Cash dividends 0.46 0.40 0.24 0.08 0.04 Book value 13.52 12.04 10.64 9.42 8.24 Weighted average Common shares outstanding 1,524,158 1,523,929 1,523,929 1,523,929 1,523,929 FINANCIAL CONDITION Total assets $ 265,418 $ 219,451 $ 207,128 $ 188,781 $ 166,268 Loans, less unearned income 148,726 129,954 121,573 117,886 112,925 Allowance for loan losses 5,205 5,281 5,112 5,515 5,645 Deposits 225,373 199,237 178,424 165,009 150,926 Stockholders' equity 20,606 18,356 16,216 14,355 12,556 SELECTED RATIOS Return on average stockholders' equity 15.13% 15.77% 15.35% 14.01% 11.17% Return on average assets 1.22 1.29 1.18 1.04 0.78 Average equity to average assets 8.07 8.21 7.65 7.40 6.99 Loans to deposits 65.99 65.22 68.14 71.44 74.82 Dividend payout ratio 23.85 22.41 15.63 6.71 4.76 - ---------------------------------------------------------------------------------------------------------------------- * Per share data and shares outstanding have been adjusted for the 2 for 1 stock split in September 1997 and for the 5% stock dividends in December of 1998, 1997, 1996, 1995 and 1994. - ----------------------------------------------------------------------------------------------------------------------
[GRAPHIC OMITTED] 1 DNB FINANCIAL CORPORATION AND SUBSIDIARY Letter to Shareholders March 26, 1999 Dear Fellow Shareholder: I am pleased to report that 1998 was another excellent year for the Bank. It represented our sixth consecutive year of improved financial performance and the third year in a row of record earnings for the Bank - the most successful year in our 137-year history. In addition to our record financial performance, we achieved other important objectives that will position the Bank for future growth and enable us to pursue our goal of becoming the best community bank in Chester County -- for the benefit of our customers, shareholders, employees and community. Perhaps the most important accomplishment during the year related to a series of successful negotiations that will enable us to expand our branch network in attractive growth markets in Chester County. On March 29, 1999 we plan to open our seventh office in Kennett Square at an existing branch that we recently acquired from Keystone Bank, a subsidiary of Keystone Financial, Inc. In May we plan to open our eighth office in a former CoreStates branch located in the Shop Rite/Office Depot Shopping Center in West Goshen. We are also concluding negotiations on a land lease for a new branch in the Exton area. We plan to open this new facility in the third quarter of the year 2000. In addition, we are continuing to look for other attractive expansion opportunities in Chester County to support our growing franchise. Another very important, although less visible, accomplishment relates to the implementation of our Technology Plan. During the fourth quarter, we enhanced our customer service delivery platform to include a state-of-the-art Wide Area Network, or WAN, which links everyone in the Bank to our upgraded core processing hardware and software as well as to each other. This new Bank-wide technology platform will provide us with the tools necessary to remain competitive in a rapidly changing marketplace. It will also provide us with an ability to serve our customers better, manage our business more efficiently and provide the opportunity to offer new electronic banking products and services as we move forward into the new millennium. A further benefit of our improved technology is that it will help the Bank meet the challenges of the century date change, or the Y2K problem as it is more commonly referred to. Led by a Technology Steering Committee, the Bank has been busy preparing to ensure that customer service will continue uninterrupted during the date change at the end of this year and to develop the appropriate contingency plans. Last fall the Bank began to redesign our retail and commercial checking account products to make them more attractive to customers and to improve their profitability. As a result of this effort, we recently introduced an expanded selection of retail checking accounts that provides customers with an expanded choice of services depending on the balances maintained. For the first time we are offering a totally free account called Direct Checking that has no minimum balance requirement. It does not offer the benefits of our other accounts, but it does provide a basic checking account for those customers who cannot carry larger balances. We are also offering Deluxe Checking and Diamond Checking, two products with tiered interest rates and other benefits rewarding higher balance accounts and customers who are 50 years and older. For commercial checking customers we now offer two choices - an account for small businesses who write fewer than 50 checks per month, and an account for those customers who maintain higher average deposit balances. We believe these new products are priced attractively and positioned competitively. 2 Letter to Shareholders In the middle of last year, the Bank replaced all of its branch signage with new signs that feature our stylized logo. In key locations the signs have two lines of changeable type which enables us to promote products and services more effectively. While this is a small change, the benefits have been measurable. This direct product advertising has allowed us to increase sales, especially of our Premier Money Market Account and our Home Power lines of credit. We have been working for some time on developing a strategic alliance with Capital & Security Management, Inc., a well-regarded investment advisory company located in West Chester. This new alliance will enhance our ability to provide more complete financial services to customers of our Investment Services and Trust Division. It will provide broader capabilities for offering 401(k) and retirement plan management services targeted to small businesses, and it will allow us to offer improved portfolio management services for higher net worth individuals. In addition, we believe it will allow us to leverage our existing estate planning and trust services, and it will complement our tradition of providing a high level of personal service. During 1998, the Bank earned $2,922,300, or $1.86 per share, compared to a profit of $2,715,200, or $1.75 per share, for 1997 -- an increase of 8%, and a new earnings record. The growth in earnings continues to reflect the benefits of strong loan demand as well as the implementation of several initiatives undertaken during the year to increase fee income and to control operating expenses. Interest income increased by 9.4% from the prior year and non-interest income increased by 17.4% during the same period. Return on average equity remained strong at 15.13%, although it was down modestly from 15.77% in 1997. Return on average assets was 1.22% for the period, compared to 1.29% last year. During the year, our quarterly cash dividend remained at $0.12 per share after we increased our dividend payout during the second half of last year. On December 24, 1998, we also declared our fifth consecutive 5% stock dividend. Our strong financial performance in 1998 and our confidence in our future encouraged the Board of Directors to increase the dividend for the first quarter of 1999 to $0.13 per share. Our long-term goal is to manage our capital resources in the most appropriate way possible to ensure a good return for our shareholders and to retain the capital required to support our internal growth opportunities. 1998 represented an excellent year of growth for the Bank as we continued our efforts to attract new customers to the Bank and to leverage our balance sheet. Total assets at December 31, 1998 were $265.4 million, up 21% from the prior year -- our strongest growth in well over a decade. Total deposits and borrowings were $243.4 million, up 22% from December 31, 1997, while total loans were $148.7 million, up 14% from 1997. This growth in our balance sheet came despite an intensely competitive banking market in Chester County, which shows no sign of lessening. We are especially pleased with our loan growth under these circumstances, reflecting the hard work of our lending staff and the loyalty of our customers. A strong local economy, low inflation and low unemployment also benefited the Bank. However, with competition continuing unabated, with an interest rate environment limiting opportunities, and with our investment in branch expansion and technology, we will have significant challenges continuing our earnings momentum in 1999. Last year was a time of significant achievement for the Bank, and we are looking forward to the opportunities that our investment in branch expansion and enhanced technology will provide us. We are confident about our preparations for the Year 2000, and we are excited about the challenges of the new millennium. Our continuing progress would not have been possible without a dedicated team of people - directors, officers and employees who are committed to making the Bank the best community bank serving Chester County, and I am grateful for their efforts. At a time of rapid change and consolidation in the financial services industry, we remain convinced that a well-regarded community bank, with its ability to meet customer needs in a flexible and responsible manner, can survive and prosper. Sincerely, /S/ Henry F. Thorne Henry F. Thorne President and Chief Executive Officer 3 Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion provides an overview of the financial condition and results of operations of DNB Financial Corporation (the "Corporation" or "DNB") and its wholly owned subsidiary, Downingtown National Bank (the "Bank") which is managed as a single operating segment. This discussion should be read in conjunction with the Corporation's consolidated financial statements presented elsewhere in this annual report. Results of Operations Summary of Performance Earnings performance for 1998 reflects DNB's successful efforts to improve fee based income and reduce non-interest expenses as well as to grow core earnings. For the year ended December 31, 1998, DNB reported net income of $2.9 million or $1.86 per share on a diluted basis. This represents a $207,000 or 8% increase from $2.7 million or $1.75 per share in 1997. Earnings before taxes increased $594,000 or 17% to $4,174,000 from $3,580,000 in 1997. For the year ended December 31, 1996 net income was $2.3 million or $1.51 per share, and income before taxes was $2,976,000. Interest income grew $1.5 million or 9% to $17.9 million for the year ended December 31, 1998. Significant growth in all earning asset categories contributed to the increase in interest income over the prior year. Interest expense increased $1.3 million or 18% to $8.3 million for the year ended December 31, 1998. Similar to earning assets, interest bearing liabilities increased in most categories. Despite the overall growth in the balance sheet, net interest income increased modestly by $285,000 or 3% to $9.7 million in 1998. Net interest income was $9.4 million and $8.7 million in 1997 and 1996, respectively. Non-interest income was $1.5 million for the year ended December 31, 1998. Non-interest income for 1997 and 1996 was $1.3 million and $1.0 million, respectively. The $223,000 or 17% increase in 1998 was primarily the result of increased service charge income. Non-interest expense was $7.0 million for the year ended December 31, 1998. This represented a $114,000 or 2% decrease from $7.1 million in 1997. Non-interest expense in 1996 was $6.7 million. The decrease in 1998 was due to substantially lower levels of professional & consulting fees, printing & supplies and salaries & employee benefits expense. These decreases were partially offset by higher levels of furniture & equipment, advertising & marketing and other expenses. Net Interest Income DNB's earnings performance is primarily dependent upon its level of net interest income, which is the excess of interest revenue over interest expense. Interest revenue includes interest earned on loans (net of interest reversals on non-performing loans), investments, Federal funds sold and interest-earning cash, as well as loan fees and dividend income. Interest expense includes the interest cost for deposits, repurchase agreements, Federal funds purchased and other borrowings. During 1998, net interest income increased $257,000 or 3% to $9.6 million, from $9.4 million in 1997. As shown in the Rate/Volume Analysis below, the increase in net interest income during 1998 was due to the positive effects of changes in volume, which was largely offset by the negative effects of rate changes. The increased volume resulted from overall earning asset growth, which exceeded interest-bearing liability growth by $5.2 million, aided in part by an increase in non-interest bearing demand balances of $2.9 million. Average loan balances for 1998 rose $10.2 million, average investment securities rose $12.2 million and Federal fund sold were up $7.2 million. The impact from higher volumes of earning assets amounted to an increase of $2.1 million in interest income. Average NOW, money market and savings accounts increased a total of $10.8 million. Average time deposits increased $8.7 million (largely in public deposits over $100,000) and borrowings (repurchase agreements, FHLB advances and Federal funds purchased) increased on average $5.0 million. The net impact of higher volumes of interest-bearing liabilities amounted to $1.1 million, 4 Management's Discussion and Analysis of Financial Condition and Results of Operations significantly offsetting the impact from the increased volume of interest-earning assets. The overall impact of rate changes amounted to a negative $716,000 which was precipitated by a flat yield curve, lower interest rates and strong competition for loans as well as deposits. As a result of these rate pressures, DNB has experienced declines in both its net interest spread and net interest margin. During 1997, net interest income increased $677,000 or 8% to $9.4 million, from $8.7 million in 1996. As shown in the Rate/Volume Analysis below, the increase in net interest income during 1997 was due to the positive effects of changes in volume, which was only modestly offset by the negative effects of rate changes. The increased volume resulted from several strategic areas of growth which included not only average balance increases in loans, investments and Federal funds sold, but also increases in lower cost funding sources such as NOW and money market accounts. Average loan balances for 1997 increased $10.4 million, while average investment securities and Federal fund sold were up $3.3 million and $655,000, respectively. The impact of the increased volume of earning assets amounted to an increase of $1.2 million in interest income. Average NOW, money market and savings accounts increased a total of $3.4 million. In addition, time deposits increased $11.1 million (largely in public deposits over $100,000), funding the payoff of repurchase agreements which decreased an average of $6.4 million. The net impact of increased volume of interest-bearing liabilities amounted to $493,000, partially offsetting the impact from an increased volume of interest-earning assets. The overall impact of rate changes amounted to a negative $27,000, resulting from modestly unfavorable repricing in time deposits. The following tables set forth, among other things, the extent to which changes in interest rates and changes in the average balances of interest-earning assets and interest-bearing liabilities have affected interest income and expense during 1998 and 1997 (tax-exempt yields have been adjusted to a tax equivalent basis using a 34% tax rate). For each category of interest-earning assets and interest-bearing liabilities, information is provided with respect to changes attributable to: (i) changes in rate (change in rate multiplied by old volume) and (ii) changes
Rate / Volume Analysis (Dollars in thousands) 1998 Versus 1997 1997 Versus 1996 Change Due To Change Due To Rate Volume Total Rate Volume Total - ------------------------------------------------------------------------------------------------------------------- Interest-earning assets: Loans $ (308) $ 881 $ 573 $ 22 $ 940 $ 962 Investment securities--taxable (166) 706 540 (41) 221 180 Investment securities--tax-exempt -- 83 83 -- -- -- Federal funds sold (21) 392 371 24 36 60 - ------------------------------------------------------------------------------------------------------------------- Total $ (495) $ 2,062 $ 1,567 $ 5 $ 1,197 $ 1,202 - ------------------------------------------------------------------------------------------------------------------- Interest-bearing liabilities: Time deposits $ 51 $ 486 $ 537 $ 32 $ 597 $ 629 NOW, money market and savings deposits 179 298 477 51 88 139 Repurchase agreements -- (108) (108) (51) (283) (334) Other borrowings (9) 385 376 -- 91 91 - ------------------------------------------------------------------------------------------------------------------- Total 221 1,061 1,282 32 493 525 - ------------------------------------------------------------------------------------------------------------------- Net interest income $ (716) $ 1,001 $ 285 $ (27) $ 704 $ 677 ====================================================================================================================
5 Management's Discussion and Analysis of Financial Condition and Results of Operations in volume (change in volume multiplied by old rate). The net change attributable to the combined impact of rate and volume has been allocated proportionately to the change due to rate and the change due to volume. The following table provides, for the periods indicated, information regarding: (i) DNB's average balance sheet; (ii) the total dollar amounts of interest income from interest-earning assets and the resulting average yields (tax-exempt yields have been adjusted to a tax equivalent basis using a 34% tax rate); (iii) the total dollar amounts of interest expense on interest-bearing liabilities and the resulting average costs; (iv) net interest income; (v) net interest rate spread; and (vi) net interest margin. Average balances were calculated based on daily balances. Nonaccrual loan balances are included in total loans. Loan fees are included in interest on total loans. Average Balances, Rates, and Interest Income and Expense (Dollars in thousands)
Year Ended December 31 1998 1997 1996 Average Yield/ Average Yield/ Average Yield/ Balance Interest Rate Balance Interest Rate Balance Interest Rate - --------------------------------------------------------------------------------------------------------------------------------- ASSETS Interest-earning assets: Investment securities: Taxable $ 75,714 $ 4,899 6.47% $ 64,676 $ 4,359 6.74% $ 61,394 $ 4,179 6.81% Tax-exempt 1,201 83 6.91 -- -- -- -- -- -- - --------------------------------------------------------------------------------------------------------------------------------- Total securities 76,915 4,982 6.48 64,676 4,359 6.74 61,394 4,179 6.81 Federal funds sold 15,766 857 5.44 8,543 486 5.69 7,888 426 5.40 Total loans 138,171 12,092 8.75 127,950 11,519 9.00 117,506 10,557 8.98 - --------------------------------------------------------------------------------------------------------------------------------- Total interest-earning assets 230,852 17,931 7.77 201,169 16,364 8.13 186,788 15,162 8.12 Non-interest-earning assets 8,398 8,553 10,790 - --------------------------------------------------------------------------------------------------------------------------------- Total assets $239,250 $209,722 $197,578 - --------------------------------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Interest-bearing liabilities: NOW, money market and savings deposits $ 88,384 $ 2,519 2.85% $ 77,609 $ 2,042 2.63% $ 74,189 $ 1,902 2.56% Time deposits 94,247 5,276 5.60 85,566 4,740 5.54 74,485 4,111 5.52 - --------------------------------------------------------------------------------------------------------------------------------- Total interest-bearing deposits 182,631 7,795 4.27 163,175 6,782 4.16 148,674 6,013 4.04 Federal funds purchased -- -- -- 92 5 5.43 52 3 5.77 Other borrowings 9,127 471 5.16 4,021 197 4.90 8,858 443 5.00 - --------------------------------------------------------------------------------------------------------------------------------- Total interest-bearing liabilities 191,758 8,266 4.31 167,288 6,984 4.17 157,584 6,459 4.10 Demand deposits 26,588 23,668 23,473 Other liabilities 1,592 1,553 1,420 Stockholders' equity 19,312 17,213 15,101 - --------------------------------------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $239,250 $209,722 $197,578 - --------------------------------------------------------------------------------------------------------------------------------- Net interest income $ 9,665 $ 9,380 $ 8,703 - --------------------------------------------------------------------------------------------------------------------------------- Interest rate spread 3.46% 3.96% 4.02% - --------------------------------------------------------------------------------------------------------------------------------- Net interest margin 4.19% 4.66% 4.66% - ---------------------------------------------------------------------------------------------------------------------------------
6 Management's Discussion and Analysis of Financial Condition and Results of Operations Provision for Loan Losses To provide for potential losses in the loan portfolio, DNB maintains an allowance for loan losses. To maintain an adequate allowance, management charges the provision for loan losses against income. There were no provisions made during the three years ended December 31, 1998, since management determined the allowance for loan losses was adequate based on its analysis and the level of net charge-offs/recoveries compared to the total allowance. Net loan charge-offs were $76,000 in 1998, compared to net loan recoveries of $169,000 in 1997 and net loan charge-offs of $403,000 in 1996. The percentage of net (charge-offs)/recoveries to total average loans was (.06%), .13% and (.34%) during 1998, 1997 and 1996, respectively. Another measure of the adequacy of the allowance is the coverage ratio of the allowance to non-performing loans, which has been in excess of 155% during this three year period. In addition, the ratio of non-performing loans to total loans has steadily declined during the period. Non-Interest Income Total non-interest income includes service charges on deposit products; fees received by DNB's Investment Services and Trust Division; and other sources of income such as net gains on sales of investment securities and other real estate owned ("OREO") properties, fees for cash management, safe deposit box rentals, issuing travelers' checks and money orders, check cashing, lock box services and similar activities. Non-interest income was $1.5 million in 1998, compared to $1.3 million in 1997 and $1.0 million in 1996. Service charges on deposit accounts increased $163,000 or 35% to $632,000 in 1998 from $469,000 in 1997 and $433,000 in 1996. Much of the increase in this category came from non-sufficient funds ("NSF") fees, which rose $90,000, due to an increase in the volume of accounts as well as a concerted effort by management to reduce the waived fee percentage on deposit account overdrafts. Trust income was $430,000 in 1998, compared to $416,000 in 1997 and $306,000 in 1996. The $14,000 or 3% increase in 1998 was due to a higher volume of commissions earned on estate settlements. In addition, Trust assets grew $4.0 million or 7% to $66.0 million during 1998. Other non-interest income grew $46,000 or 12% to $444,000 for the year ended December 31, 1998, from $398,000 in 1997. Other non-interest income was $265,000 in 1996. The increases in this category during 1998 and 1997 were caused by net gains recognized on the sales of several OREO properties. Non-Interest Expense Non-interest expense includes salaries & employee benefits, furniture & equipment, occupancy, professional & consulting fees as well as advertising & marketing, printing & supplies and other less significant expense items. During 1998, management continued its focus on controlling non-interest expenses through training and awareness of improved operating procedures. Non-interest expenses were $7.0 million in 1998, compared to $7.1 million and $6.7 million in 1997 and 1996, respectively. The decrease of $114,000 or 2% was due primarily to lower levels of salary & employee benefits, professional & consulting expense, and occupancy expense, partially offset by increased furniture & equipment, advertising & marketing and other expenses. Salaries & employee benefits expense totaled $3.9 million in 1998, compared to $4.0 million in 1997 and $3.6 million in 1996. Salary & employee benefits expense for 1998 decreased, reflecting fewer full-time equivalent employees than 1997, partially offset by normal merit increases. The increase in salary & employee benefits expense during 1997 over 1996 resulted from the addition of staff in the Credit Services and Investment Services and Trust divisions. In addition, DNB incurred higher costs for hospitalization, other employee benefits and normal merit increases during 1997. 7 Management's Discussion and Analysis of Financial Condition and Results of Operations Furniture & equipment expense includes depreciation, rent, maintenance and miscellaneous purchases of office equipment and furniture. Furniture & equipment expense totaled $711,000 in 1998, compared to $672,000 in 1997 and $665,000 in 1995. The increase in 1998 resulted primarily from write-offs of obsolete equipment as DNB began purchasing new equipment at the end of the year to upgrade its customer service and back-office processing. Occupancy expense includes depreciation, rent, taxes, maintenance and utilities. Occupancy expense totaled $438,000 in 1998, compared to $458,000 in 1997 and $467,000 in 1996. The decrease in this category reflects higher costs incurred in 1997 and 1996 for repairs and maintenance of our community offices. Professional & consulting expense includes fees for legal services, audit and accounting services, asset/liability management services as well as consulting fees for technology, human resources and other special projects. Professional and consulting expenses for 1998 were $347,000, compared to $445,000 in 1997 and $317,000 in 1996. The amount for 1997 reflects additional costs incurred in relation to a project undertaken with an outside consultant to help identify and implement improved operating procedures. DNB did not incur such expenditures in 1998 or 1996. Advertising & marketing expense increased $62,000 to $278,000 for the year ended December 31, 1998, compared to $216,000 and $205,000 in 1997 and 1996. The advertising budget for 1998 was increased to include added expenditures related to DNB's new logo, marketing research and television advertisements. The increased expenditures for 1997 was due largely to the promotion of the Premier Money Market account. Other expenses include such items as postage, insurance, director fees, satisfaction fees, appraisal fees, telephone and other miscellaneous expenses. Other expenses remained flat in 1998 at $1.1 million. For the year ended December 31, 1996, other expenses were $1.2 million and included additional OREO expense relating to the management and maintenance of DNB's OREO properties. Income Taxes Income tax expense was $1.3 million in 1998, $865,000 in 1997, and $658,000 in 1996. DNB's effective tax rate was 30%, 24%, and 22% for the year ended December 31, 1998, 1997 and 1996, respectively. The 1998 effective tax rate was less than the statutory rate due to the effect of tax exempt income. The lower 1997 and 1996 effective tax rates were due to tax exempt income and the elimination of valuation allowances on deferred taxes arising from DNB's improved profitability. Financial Condition Analysis Investment Securities DNB's investment portfolio consists of US agency securities, mortgage-backed securities issued by US Government agencies, corporate bonds, collateralized mortgage obligations, state and municipal securities, bank stocks, commercial paper, certificates of deposit and other bonds and notes. In addition to generating revenue, DNB maintains the investment portfolio to manage interest rate risk, provide liquidity, provide collateral for borrowings and to diversify the credit risk of earning assets. The portfolio is structured to maximize DNB's net interest income given changes in the economic environment, liquidity position and balance sheet mix. Given the nature of the portfolio, and its generally high credit quality, management expects to realize all of its investment upon the maturity of such instruments, and believes that any market value decline is temporary in nature. Management determines the appropriate classification of securities at the time of purchase. Investment securities are classified as: (a) securities held to maturity ("HTM") based on management's intent and ability to hold them to maturity; (b) trading account ("TA") securities that are bought and held principally for the purpose of selling them in the near term; and (c) securities available for sale ("AFS"). DNB does not currently maintain a trading account portfolio. Securities classified as AFS include securities that may be sold in response to changes in interest rates, changes in prepayment assumptions, the need to increase regulatory capital or other similar 8 Management's Discussion and Analysis of Financial Condition and Results of Operations requirements. DNB does not necessarily intend to sell such securities, but has classified them as AFS to provide flexibility to respond to liquidity needs. DNB's investment portfolio (HTM and AFS securities) totaled $92.9 million at December 31, 1998, up 46% from $63.6 million at December 31, 1997. The growth in the investment portfolio was funded by increased deposits and borrowings during the year. The following tables set forth information regarding the composition, stated maturity and average yield of DNB's investment security portfolio as of the dates indicated. The first two tables do not include amortization or anticipated prepayments on mortgage-backed securities. Callable securities are included at their stated maturity dates.
Investment Maturity Schedule, Including Weighted Average Yield (Dollars in thousands) December 31, 1998 Less than Over No Stated Held to Maturity 1 Year 1-5 Years 5-10 Years 10 Years Maturity Total Yield - ----------------------------------------------------------------------------------------------------------------------- US Government agency and corporations $495 $2,000 $13,099 $ 7,873 $-- $23,467 6.55% US agency mortgage-backed securities -- 776 569 2,710 -- 4,055 6.67 Collateralized mortgage obligations -- -- -- 17,462 -- 17,462 6.37 Equity securities -- -- -- -- 2,396 2,396 4.17 - ----------------------------------------------------------------------------------------------------------------------- Total $495 $2,776 $13,668 $28,045 $ 2,396 $47,380 - ----------------------------------------------------------------------------------------------------------------------- Percent of portfolio 1% 6% 29% 59% 5% 100% - ----------------------------------------------------------------------------------------------------------------------- Weighted average yield 6.9% 6.4% 6.7% 6.4% 4.2% 6.4% - ----------------------------------------------------------------------------------------------------------------------- Less than Over No Stated Available for Sale 1 Year 1-5 Years 5-10 Years 10 Years Maturity Total Yield - ----------------------------------------------------------------------------------------------------------------------- Corporate bonds $-- $-- $-- $18,826 $-- $18,826 6.65% US Government agency and corporations -- 2,455 -- 5,760 -- 8,215 6.07 US agency mortgage-backed securities -- 3,199 -- 3,426 -- 6,625 6.72 State and municipal tax-exempt -- -- -- 6,905 -- 6,905 6.91 Other securities -- -- -- 4,948 -- 4,948 6.38 - ----------------------------------------------------------------------------------------------------------------------- Total $-- $5,654 $-- $39,865 $-- $45,519 - ----------------------------------------------------------------------------------------------------------------------- Percent of portfolio --% 12% --% 88% --% 100% - ----------------------------------------------------------------------------------------------------------------------- Weighted average yield --% 6.1% --% 6.6% --% 6.6% - -----------------------------------------------------------------------------------------------------------------------
Composition of Investment Securities (Dollars in thousands) December 31 1998 1997 Held to Available Held to Available Maturity for Sale Maturity for Sale - ------------------------------------------------------------------------------------- US Government agency and corporations $23,467 $ 8,215 $41,807 $ 4,750 Corporate bonds -- 18,826 -- -- Collateralized mortgage obligations 17,462 -- -- -- State and municipal tax-exempt -- 6,905 -- -- US agency mortgage-backed securities 4,055 6,625 5,790 9,138 Other securities 2,396 4,948 2,097 -- - ------------------------------------------------------------------------------------- Total $47,380 $45,519 $49,694 $13,888 - -------------------------------------------------------------------------------------
9 Management's Discussion and Analysis of Financial Condition and Results of Operations Loans The loan portfolio consists primarily of commercial and residential real estate loans, commercial loans and lines of credit (including commercial construction), consumer loans and, to a lesser degree, student loans. The loan portfolio provides a stable source of interest income, monthly amortization of principal and, in the case of adjustable rate loans, repricing opportunities. Net loans were $143.5 million at December 31, 1998, up $18.8 million or 15% from 1997. Residential loans increased $9.3 million or 45.4% to $29.7 million, commercial mortgage loans increased $5.3 million or 11.5% to $51.4 million, and consumer loans increased $3.9 million or 14.9% to $29.9 million. The increase in these portfolios reflect DNB's commitment to commercial and residential development in the Chester County community. The following table sets forth information concerning the composition of total loans outstanding, net of the allowance for loan losses, as of the dates indicated. Non-Performing Assets Total non-performing assets remained relatively flat during 1998, and at December 31, 1998 were $3.26 million compared to $3.21 million
Total Loans Outstanding, Net of Allowance for Loan Losses (Dollars in thousands) December 31 1998 1997 1996 1995 1994 - --------------------------------------------------------------------------------------------------------------------- Residential mortgage $ 29,656 $ 20,392 $ 17,658 $ 19,009 $ 18,617 Commercial mortgage 51,434 46,130 45,907 42,945 43,900 Commercial 35,549 34,966 29,970 28,803 22,958 Consumer 29,934 26,062 25,325 24,110 24,214 Student 2,153 2,404 2,712 3,019 3,236 - ------------------------------------------------------------------------------------------------------------------- Total loans 148,726 129,954 121,572 117,886 112,925 Less allowance for loan losses (5,205) (5,281) (5,112) (5,515) (5,645) - ------------------------------------------------------------------------------------------------------------------- Net loans $143,521 $124,673 $116,460 $112,371 $107,280 - -------------------------------------------------------------------------------------------------------------------
The following table sets forth information concerning the contractual maturities of the loan portfolio, net of unearned income and fees. For amortizing loans, scheduled repayments for the maturity category in which the payment is due are not reflected below, because such information is not readily available.
Loan Maturities December 31, 1998 (Dollars in thousands) Less than 1 Year 1-5 Years Over 5 Years Total - ------------------------------------------------------------------------------------------------------------------- Real estate $ 3,629 $ 9,048 $68,413 $ 81,090 Commercial 18,393 8,817 8,339 35,549 Consumer 682 11,338 17,914 29,934 Student 20 383 1,750 2,153 - ------------------------------------------------------------------------------------------------------------------- Total loans 22,724 29,586 96,416 148,726 - ------------------------------------------------------------------------------------------------------------------- Loans with predetermined interest rates 10,527 18,066 53,275 81,868 Loans with variable interest rates 12,197 11,520 43,141 66,858 - ------------------------------------------------------------------------------------------------------------------- Total loans $22,724 $29,586 $96,416 $148,726 - -------------------------------------------------------------------------------------------------------------------
10 Management's Discussion and Analysis of Financial Condition and Results of Operations at December 31, 1997 and $4.28 million at December 31, 1996. Nonaccrual loans decreased $488,000 and loans 90 days past due and still accruing increased $629,000, due largely to a reclassification of two loans to accrual status in accordance with DNB's nonaccrual policy. Loans 90 days past due and still accruing include two loans to a single borrower that are well secured and have demonstrated a sustained period of repayment performance. DNB, which has a significant level of commercial, real estate and consumer loans, has worked diligently to improve asset quality and position itself for possible economic downturns in the future by tightening underwriting standards and improving lending policies and procedures. Non-performing assets have, and will continue to have, an impact on earnings, therefore management intends to continue working aggressively to reduce the level of such assets. Non-performing assets are comprised of nonaccrual loans, loans delinquent over ninety days and still accruing, troubled debt restructurings ("TDRs") and other real estate owned ("OREO"). Nonaccrual loans are loans on which the accrual of interest ceases when the collection of principal or interest payments is determined to be doubtful by management. It is the policy of DNB to discontinue the accrual of interest when principal or interest payments are delinquent 90 days or more (unless the loan principal and interest are determined by management to be fully secured and in the process of collection), or earlier, if considered prudent. Interest received on such loans is applied to the principal balance, or may in some instances be recognized as income on a cash basis. OREO includes both real estate obtained as a result of, or in lieu of, foreclosure. Any significant change in the level of non-performing assets is dependent, to a large extent, on the economic climate within DNB's market area.
December 31 1998 1997 1996 1995 1994 - ---------------------------------------------------------------------------------------------------------------------- Nonaccrual loans: Residential mortgage $ 250 $ 676 $ 743 $1,355 $1,790 Commercial mortgage 1,063 1,301 1,315 1,832 1,872 Commercial 990 821 650 722 1,551 Consumer 114 107 187 237 197 - ---------------------------------------------------------------------------------------------------------------------- Total nonaccrual loans 2,417 2,905 2,895 4,146 5,410 Loans 90 days past due and still accruing 699 70 194 129 112 Troubled debt restructurings -- -- 184 -- 40 - ---------------------------------------------------------------------------------------------------------------------- Total non-performing loans 3,116 2,975 3,273 4,275 5,562 Other real estate owned 139 231 1,010 810 445 - ---------------------------------------------------------------------------------------------------------------------- Total non-performing assets $3,255 $3,206 $4,283 $5,085 $6,007 - ---------------------------------------------------------------------------------------------------------------------- Asset quality ratios: Non-performing loans to total loans 2.10% 2.29% 2.69% 3.63% 4.93% Non-performing assets to total assets 1.23 1.46 2.07 2.69 3.61 Allowance for loan losses to: Total loans 3.50 4.06 4.20 4.68 5.00 Non-performing loans 167.04 177.51 156.17 129.02 101.50 Non-performing assets 159.91 164.72 119.36 108.46 93.98 - ----------------------------------------------------------------------------------------------------------------------
11 Management's Discussion and Analysis of Financial Condition and Results of Operations The table on the previous page sets forth those assets that are: (i) placed on nonaccrual status, (ii) contractually delinquent by 90 days or more and still accruing, (iii) troubled debt restructurings other than those included in items (i) and (ii), and (iv) OREO as a result of foreclosure or voluntary transfer to DNB. DNB's Special Assets Committee monitors the performance of the loan portfolio to identify potential problem assets on a timely basis. Committee members meet to design, implement and review asset recovery strategies which serve to maximize the recovery of each troubled asset. DNB had $6.5 million of loans which, although performing at December 31, 1998, are believed to require increased supervision and review; and may, depending on the economic environment and other factors, become non-performing assets in future periods. The amount of such loans at December 31, 1997 was $5.9 million. The majority of the loans are secured by commercial real estate, with lesser amounts being secured by residential real estate, inventory and receivables. Allowance for Loan Losses The allowance for loan losses is increased by the provision for loan losses which is charged to operations. Loan losses are charged directly against the allowance and recoveries on previously charged-off loans are added to the allowance. In establishing its allowance for loan losses, management considers the size and risk exposure of each segment of the loan portfolio, past loss experience, present indicators of risk such as delinquency rates, levels of nonaccruals, the potential for losses in future periods, and other relevant factors. Management's evaluation of the loan portfolio generally includes reviews, on a sample basis, of individual borrowers regardless of size and reviews of problem borrowers of $100,000 or greater. Consideration is also given to examinations performed by regulatory agencies, primarily the Office of the Comptroller of the Currency ("OCC"). The provisions are based on management's review of the economy, interest rates, general market conditions, estimates of the fair value of collateral, financial strength and ability of the
Analysis of Allowance for Loan Losses (Dollars in thousands) Year Ended December 31 1998 1997 1996 1995 1994 - --------------------------------------------------------------------------------------------------------------------- Beginning balance $5,281 $5,112 $5,515 $5,645 $6,000 Provisions -- -- -- -- -- Loans charged off: Real estate (59) -- (454) (25) (280) Commercial (233) (32) (50) (124) (140) Consumer (11) (16) (30) (164) (77) - --------------------------------------------------------------------------------------------------------------------- Total charged off (303) (48) (534) (313) (497) - --------------------------------------------------------------------------------------------------------------------- Recoveries: Real estate 144 1 38 86 3 Commercial 71 167 48 24 43 Consumer 12 49 45 73 96 - --------------------------------------------------------------------------------------------------------------------- Total recoveries 227 217 131 183 142 - --------------------------------------------------------------------------------------------------------------------- Ending balance $5,205 $5,281 $5,112 $5,515 $5,645 - ---------------------------------------------------------------------------------------------------------------------
12 Management's Discussion and Analysis of Financial Condition and Results of Operations borrowers and guarantors to pay, and considerations regarding the current and anticipated operating or sales environment. These estimates are particularly susceptible to change and may result in a material adjustment to the allowance. While management uses the latest information available to make its evaluation of the adequacy of the allowance, future adjustments may be necessary if conditions differ substantially from the assumptions used in making the evaluations. The table on the previous page sets forth the changes in DNB's allowance for loan losses for the years indicated. Real estate includes both residential and commercial real estate. In determining the adequacy of the allowance, DNB utilizes a methodology which includes an analysis of historical loss experience for the commercial real estate, commercial, residential real estate, home equity and consumer installment loan pools to determine a historical loss factor. The historical loss factors are then applied to the current portfolio balances to determine the required reserve percentage for each loan pool based on risk rating. In addition, specific allocations are established for loans where loss is probable and reasonably identifiable, based on management's judgment and an evaluation of the individual credit, which includes various factors mentioned above. The allocated portion of the reserve is then determined as a result of an analysis of the loan pools and specific allocations. The following table sets forth the composition of DNB's allowance for loan losses at the dates indicated. The portion allocated to each category is generally not the total amount available for future losses that might occur within such categories. The allocation of the allowance should also not be interpreted as an indication that charge-offs will occur in these amounts or proportions. The specific allocations in any particular category may prove excessive or inadequate and consequently may be reallocated in the future to reflect current conditions. Accordingly, management considers the entire allowance to be available to absorb losses in any category. During 1998, management enhanced its evaluation of the loan portfolio to include, as a separate component, the risks associated with its growing commercial construction loan portfolio (which includes residential housing developments as well as commercial real estate construction). In the past, because of its relative size and lack of specific loss experience, these risks were provided for as part of the total loan portfolio, and not associated with any particular loan segment. As a result of this change, a portion of the unallocated reserve has now been reallocated to this growing portfolio, and included below in the
Composition of Allowance for Loan Losses (Dollars in thousands) December 31 1998 1997 1996 1995 1994 Percent of Percent of Percent of Percent of Percent of Loan Type to Loan Type to Loan Type to Loan Type to Loan Type to Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans - ------------------------------------------------------------------------------------------------------------------------------------ Real estate $1,537 54% $1,104 51% $1,405 52% $1,504 53% $1,575 55% Commercial* 1,192 24 1,220 27 830 25 730 24 1,352 20 Consumer 185 22 164 22 231 23 289 23 771 25 Unallocated 2,291 -- 2,793 -- 2,646 -- 2,992 -- 1,947 -- - ------------------------------------------------------------------------------------------------------------------------------------ Total $5,205 100% $5,281 100% $5,112 100% $5,515 100% $5,645 100% - ------------------------------------------------------------------------------------------------------------------------------------ *includes commercial construction
13 Management's Discussion and Analysis of Financial Condition and Results of Operations commercial allocation. For comparative purposes, all prior year data has been restated to reflect this change. Liquidity and Capital Resources Management maintains liquidity to meet depositors' needs for funds, to satisfy or fund loan commitments, and for other operating purposes. DNB's foundation for liquidity is a stable and loyal customer deposit base and a marketable investment portfolio that provides periodic cash flow through regular maturities and amortization, or that can be used as collateral to secure funding. DNB's primary source of liquidity is dependent upon its ability to maintain and expand its customer deposit base. During 1998, deposits increased $26.1 million or 13%. The substantial increase in deposits was the result of the successful promotion of DNB's new Premier Money Market account, as well as general growth in demand deposits, NOW accounts and time deposits. As of December 31, 1998, deposits totaled $225.4 million, up from $199.2 million at December 31, 1997. Money market accounts increased $13.3 million to $32.6 million and certificates of deposit increased $5.7 million to $97.4 million. In addition, non-interest bearing deposits and NOW accounts increased a combined $6.5 million. DNB maintains borrowing arrangements with a correspondent bank and the Federal Home Loan Bank of Pittsburgh, as well as access to the discount window at the Federal Reserve Bank of Philadelphia, to meet short-term liquidity needs. Through these relationships, DNB has additional available short-term credit of approximately $61.5 million. At December 31, 1998, DNB has $6.4 million in commitments to fund commercial real estate, construction and land development loans. In addition, there are $2.0 million in unfunded home equity lines of credit and $14.1 million in other unused loan commitments. Management anticipates the majority of these commitments will be funded by means of normal cash flows. There are approximately $66.6 million in certificates of deposit scheduled to mature during the twelve months ending December 31, 1999. To meet its funding needs, DNB maintains assets which comprise its primary liquidity totaling $73.0 million on December 31, 1998. Primary liquidity includes Federal funds sold, investments and interest-bearing cash balances, less pledged securities. DNB also anticipates scheduled payments and prepayments on its loan and mortgage-backed securities portfolios. The following table sets forth the composition of DNB's deposits at the dates indicated.
Deposits By Major Classification (Dollars in thousands) December 31 1998 1997 1996 1995 1994 - --------------------------------------------------------------------------------------------------------------------- Non-interest-bearing deposits $ 30,001 $ 27,150 $ 26,429 $ 22,936 $ 24,967 Interest-bearing deposits: NOW 37,075 33,387 31,140 27,485 27,688 Money market 32,582 19,289 15,550 16,333 18,198 Savings 28,321 27,714 28,559 29,224 31,836 Certificates 82,424 78,509 63,783 56,533 37,698 IRA 14,970 13,188 12,963 12,498 10,539 - --------------------------------------------------------------------------------------------------------------------- Total deposits $225,373 $199,237 $178,424 $165,009 $150,926 - ---------------------------------------------------------------------------------------------------------------------
14 Management's Discussion and Analysis of Financial Condition and Results of Operations Interest Rate Sensitivity Analysis The largest component of DNB's total income is net interest income, and the majority of DNB's financial instruments are composed of interest rate-sensitive assets and liabilities with various terms and maturities. The primary objective of management is to maximize net interest income while minimizing interest rate risk. Interest rate risk is derived from timing differences in the repricing of assets and liabilities, loan prepayments, deposit withdrawals, and differences in lending and funding rates. The Asset-Liability Committee ("ALCO") actively seeks to monitor and control the mix of interest rate-sensitive assets and interest rate-sensitive liabilities. One measure of interest rate risk is the gap ratio, which is defined as the difference between the dollar volume of interest-earning assets and interest-bearing liabilities maturing or repricing within a specified period of time as a percentage of total assets. A positive gap results when the volume of interest rate-sensitive assets exceeds that of interest rate-sensitive liabilities within comparable time periods. A negative gap results when the volume of interest rate-sensitive liabilities exceeds that of interest rate-sensitive assets within comparable time periods. As indicated in the table below, the one year gap position at December 31, 1998 was a negative 10.1%. Generally, a financial institution with a negative gap position will most likely experience decreases in net interest income during periods of rising rates and increases in net interest income during periods of falling interest rates. The negative gap was due largely to customer preferences for short-term and floating rate deposit products which caused interest-rate sensitive liabilities to exceed interest-rate sensitive assets during the earlier time periods presented. While gap analysis represents a useful asset/liability management tool, it does not necessarily indicate the effect of general interest rate movements on DNB's net interest income, due to discretionary repricing of assets and liabilities, and other competitive pressures. DNB reports its callable agency, callable corporate notes and callable municipal investments ($45.1 million at December 31, 1998) at their Option Adjusted Spread ("OAS") modified duration date, as opposed to the call or maturity date. In management's opinion, using modified duration dates on callable agency securities provides a better estimate of the option exercise date under any interest rate environment. The OAS methodology is an approach whereby the likelihood of option exercise takes into account the coupon on the security, the distance to the call date, the maturity date and current interest rate volatility. In addition, prepayment assumptions derived from historical data have been applied to mortgage-related securities, which are included in investments. Included in the analysis of the gap position are certain savings deposit and demand accounts which are less sensitive to fluctuations in interest rates than other interest-bearing sources of funds. In determining the sensitivity of such deposits, management reviews the movement of its deposit rates for the past four years relative to market rates. Using regression analysis, the ALCO has estimated that these deposits are approximately 25-30% sensitive to interest rate changes (i.e., if short term rates were to increase 100 basis points, the interest rate on such deposits would increase 25-30 basis points). The following table sets forth certain information relating to DNB's financial instruments that are sensitive to changes in interest rates, categorized by expected maturity or repricing and the instruments fair value at December 31, 1998. The Bank continually evaluates interest rate risk management opportunities, including the use of derivative financial instruments. Management believes that hedging instruments currently available are not cost-effective, and therefore, has focused its efforts on increasing the Bank's spread by attracting lower-costing retail deposits. 15 Management's Discussion and Analysis of Financial Condition and Results of Operations In addition to utilizing the gap ratio for interest rate risk management, the ALCO utilizes simulation analysis whereby the model estimates the variance in net interest income with a change in interest rates of plus or minus 300 basis points over a twelve and twenty-four month period. Given recent simulations, net interest income would be within policy guidelines regardless of the direction of market rates.
Interest Rate Sensitivity Analysis (Dollars in thousands) December 31, 1998 More Than More Than More Than More Than More Than One Year Two Years Three Years Four Years Five Years Under One Through Through Through Through and Year Two Years Three Years Four Years Five Years Non-repricing Total - ----------------------------------------------------------------------------------------------------------------------- ASSETS Cash and due from banks and Federal funds sold $ 12,124 $-- $-- $-- $-- $ 7,707 $ 19,831 Investments 34,305 12,461 8,404 8,558 3,963 25,209 92,900 Commercial loans 26,528 1,764 2,335 792 1,243 2,887 35,549 Mortgage loans 14,574 12,685 9,289 5,786 10,767 27,989 81,090 Consumer loans 8,083 4,094 3,578 3,138 2,603 10,591 32,087 Other assets (net) -- -- -- -- -- 3,961 3,961 - ----------------------------------------------------------------------------------------------------------------------- Total assets $ 95,614 $31,004 $23,606 $18,274 $18,576 $78,344 $265,418 - ----------------------------------------------------------------------------------------------------------------------- LIABILITIES AND EQUITY Non-interest-bearing demand $ 9,234 $ 8,073 $ 9,234 $ 1,730 $ 1,730 $-- $ 30,001 NOW 11,822 3,607 7,215 3,608 3,608 7,215 37,075 Money market 26,156 3,213 3,213 -- -- -- 32,582 Savings 8,213 3,115 5,664 2,832 2,832 5,665 28,321 Certificates and IRAs less than $100,000 47,183 17,629 3,061 -- 6,722 -- 74,595 Certificates and IRAs at or more than $100,000 19,796 1,930 204 -- 869 -- 22,799 - ----------------------------------------------------------------------------------------------------------------------- Total deposits 122,404 37,567 28,591 8,170 15,761 12,880 225,373 Borrowings -- 6,000 -- 5,000 -- 7,000 18,000 Other liabilities, net -- -- -- -- -- 1,439 1,439 Stockholders' equity -- -- -- -- -- 20,606 20,606 - ----------------------------------------------------------------------------------------------------------------------- Total liabilities and equity $122,404) $ 43,567 $ 28,591 $ 13,170 $ 15,761 $41,925 $265,418 - ----------------------------------------------------------------------------------------------------------------------- Gap $ (26,790) $(12,563) $ (4,985) $ 5,104 $ 2,815 $36,419 - ----------------------------------------------------------------------------------------------------------------------- Cumulative gap $ (26,790) $(39,353) $(44,338) $(39,234) $(36,419) $-- - ----------------------------------------------------------------------------------------------------------------------- Cumulative gap to total assets (10.1%) (14.8%) (16.7%) (14.8%) (13.7%) - -----------------------------------------------------------------------------------------------------------------------
Market Risk Analysis To measure the impacts of longer-term asset and liability mismatches beyond two years, DNB utilizes Modified Duration of Equity and Economic Value of Portfolio Equity ("EVPE") models. The modified duration of equity measures the potential price risk of equity to changes in interest rates. A longer modified duration of 16 Management's Discussion and Analysis of Financial Condition and Results of Operations equity indicates a greater degree of risk to rising interest rates. Because of balance sheet optionality, an EVPE analysis is also used to dynamically model the present value of asset and liability cash flows, with rates ranging up or down 200 basis points. The economic value of equity is likely to be different as interest rates change. Results falling outside prescribed ranges require action by the ALCO. At December 31, 1998 and 1997, DNB's variance in the economic value of equity as a percentage of assets with an instantaneous and sustained parallel shift of 200 basis points is within the negative 3% guideline, as shown in the tables below. The market capitalization of DNB should not be equated to the EVPE, which only deals with the valuation of balance sheet cash flows using conservative assumptions. Calculated core deposit premiums may be less than what is available in an outright sale. The model does not consider potential premiums on floating rate loan sales, the impact of overhead expense, non-interest income, taxes, industry market price multiples and other factors reflected in the market capitalization of a company. Market Risk Analysis (Dollars in thousands) December 31, 1998 Change in Rates Flat -200 bp +200 bp - ------------------------------------------------------------ Economic Value of Portfolio Equity $28,307 $26,244 $20,505 Change (2,062) (7,802) Change as a % of assets (0.78%) (2.94%) - ------------------------------------------------------------ December 31, 1997 Change in Rates Flat -200 bp +200 bp - ------------------------------------------------------------ Economic Value of Portfolio Equity $28,748 $26,617 $26,764 Change (2,130) (1,983) Change as a % of assets (.97%) (.90%) - ------------------------------------------------------------ Capital Resources Stockholders' equity increased to $20.6 million at December 31, 1998, primarily as a result of the $2.9 million net income reported for the year. Management believes that the Corporation and the Bank each have met the definition of "well capitalized" for regulatory purposes on December 31, 1998 and thereafter. The Bank's capital category is determined for the purposes of applying the bank regulators' "prompt corrective action" regulations and for determining levels of deposit insurance assessments and may not constitute an accurate representation of the Corporation's or the Bank's overall financial condition or prospects. The Corporation's capital exceeds the FRB's minimum leverage ratio requirements for bank holding companies (see additional discussion in Regulatory Matters -- Footnote 15). Regulatory Matters Dividends payable to the Corporation by the Bank are subject to certain regulatory limitations. Under normal circumstances, the payment of dividends in any year without regulatory permission is limited to the net profits (as defined for regulatory purposes) for that year, plus the retained net profits for the preceding two calendar years. Year 2000 Issues Year 2000 issues arise from a concern that certain information systems and automated equipment will be unable to recognize and process properly date-related information after December 31, 1999. If not corrected, these system and equipment failures could produce inaccurate or unpredictable results causing disruptions of normal business operations beginning on January 1, 2000. In order to address these Year 2000 issues, DNB has developed a comprehensive approach beginning with the establishment of a Technology Steering Committee. The Committee has developed and implemented a compliance plan, which 17 Management's Discussion and Analysis of Financial Condition and Results of Operations is divided into five phases: (1) awareness; (2) assessment; (3) renovation; (4) validation & testing; and (5) implementation. The goal is to ensure that each organizational function, system, application, file, program and database will correctly process, provide and/or receive data at the century date change beginning December 31, 1999. DNB has identified six systems it defines as mission-critical. Four of the systems, including its core processing software and mainframe hardware, are Year 2000 compliant and have been tested. The two remaining systems are in the process of being upgraded by the respective vendors, and DNB expects that the upgrades and testing will be complete by June 30, 1999. DNB is currently working on the implementation phase for these mission-critical systems, and it anticipates that this final phase, which requires testing of all Bank interfaces and connections with other systems, will be completed by June 30, 1999. In addition to mission-critical systems, DNB has identified and is monitoring the Year 2000 readiness of vendors and service providers, and it has established contingency plans for alternate suppliers based upon target compliance time frames. To evaluate the risk of customer non-compliance with Year 2000 issues, DNB initiated written communications with all of its commercial deposit and borrowing customers, which included a questionnaire, to assist in determining their awareness and readiness for the century date change. The majority of customers did not respond to the questionnaire. In order to mitigate potential risks to the Bank, DNB also reviewed significant borrowing relationships (over $250,000) and classified them into high, moderate and low risk categories for non-compliance with Year 2000 issues. DNB is in the process of calling on those customers in the high and moderate risk categories to obtain personal responses to questionnaires in order to evaluate the risk to DNB from the failure to remediate their own Year 2000 issues. The results of these assessments are being incorporated into DNB's credit risk management processes, including customer risk ratings. At present, approximately 40% of these assessments have been completed, and the process is expected to be complete by June 30, 1999. Based upon the responses received to date, DNB does not believe that any deficiencies identified appear to present any material risks to the Bank. Currently, DNB is in the process of developing an effective business resumption contingency plan that will outline its courses of action in the event of a Year 2000-related systems failure. The plan is being developed to help DNB resume operations in an orderly fashion and to continue providing essential services in the event of the most reasonably likely worst case scenarios. At this point, DNB has completed the organizational planning phase of the four-phase process recommended by regulators, and it has also completed the second phase - a business impact analysis. DNB is now assessing the potential impact of internal and external mission-critical systems failures on its core business processes and determining the minimum acceptable level of system support and services. The next step will be to develop the specific Year 2000 business resumption contingency plans for each core business process along with scheduled completion dates, test dates and trigger dates. The goal is to develop strategies that are reasonable, cost-effective and practical. The target date for completion of the business resumption contingency plans is June 30, 1999. When completed, the plans will be validated independently in order to judge the effectiveness and reasonableness of the contingency strategies. DNB has also identified three key external risks that it believes would have the most material adverse effect on the Bank if the service providers were not Year 2000 compliant: funds transfer counterparties, telecommunications and power. DNB expects to address the mitigation of these risks as part of the business resumption contingency planning process described above. 18 Management's Discussion and Analysis of Financial Condition and Results of Operations DNB, while not completely Year 2000 compliant, is working diligently to achieve this goal. Year 2000 issues could result in material financial risk to a company such as DNB if the company and third party vendors upon which it relies were unable to address this issue in a timely manner. However, management currently expects DNB and its third party vendors to be Year 2000 compliant in all material respects before June 30, 1999. Management currently estimates that the costs of Year 2000 compliance will be approximately $60,000 during the two years ended December 31, 1999, of which approximately $30,000 has been expended through December 31, 1998. To date, management has succeeded in implementing its Year 2000 effort with existing staff and internal resources, and has not been obligated to expend significant funds in the process. It is anticipated that this will be possible for the balance of the Year 2000 project, except that in 1999 management plans to upgrade all personal computers that are not Year 2000 compliant. As a consequence, management anticipates that the Year 2000 costs will be funded from operating cash flow. The Year 2000 statements contained herein, and in other securities filings of DNB may not be relied upon as representations or warranties for any purpose other than disclosure for Federal securities law compliance purposes. Forward-Looking Statements Certain statements in this report, including any which are not statements of historical fact, may constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. Without limiting the foregoing, the words "expect", "anticipate", "plan", "believe", "seek", "estimate", "predict", "internal" and similar words are intended to identify expressions that may be forward-looking statements. Forward-looking statements involve certain risks and uncertainties, and actual results may differ materially from those contemplated by such statements. For example, actual results may be adversely affected by the following possibilities: (1) competitive pressure among depository institutions may increase; (2) changes in interest rates may reduce banking interest margins; (3) general economic conditions and real estate values may be less favorable than contemplated; (4) adverse legislation or regulatory requirements may be adopted; (5) the impact of the Year 2000 issue may be more significant than currently anticipated; (6) unexpected contingencies relating to Year 2000 compliance; and (7) other unexpected contingencies may arise. Many of these factors are beyond DNB's ability to control or predict. Readers of this report are accordingly cautioned not to place undue reliance on forward-looking statements. DNB disclaims any intent or obligation to update publicly any of the forward-looking statements herein, whether in response to new information, future events or otherwise. Recent Accounting Pronouncements In June 1997, the FASB issued SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information ("SFAS No. 131"). SFAS No. 131 establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. SFAS No. 131 was adopted by DNB on January 1, 1998. No additional disclosures were required as DNB operates as a single segment entity. In February 1998, the FASB issued SFAS No. 132, Employers' Disclosures about Pensions and Other Postretirement Benefits ("SFAS No. 132"). This statement amends the disclosure requirements of Statements No. 87, Employers' Accounting for Pensions ("Statement No. 87"), No. 88, Employers' Accounting 19 Management's Discussion and Analysis of Financial Condition and Results of Operations for Settlements and Curtailments of Defined Benefit Pensions Plans and for Termination Benefits ("Statement No. 88"), and No. 106, Employers' Accounting for Postretirement Benefits Other Than Pensions ("Statement No. 106"). SFAS No. 132 is applicable to all entities. This statement standardizes the disclosure requirements of Statements No. 87 and No. 106 to the extent practicable and recommends a parallel format for presenting information about pensions and other postretirement benefits. SFAS No. 132 only addresses disclosure and does not change any of the measurement or recognition provisions provided for in Statements No. 87, No. 88, or No. 106. Restatement of comparative period disclosures is required unless the information is not readily available, in which case the notes to the financial statements shall include all available information and a description of the information not available. SFAS No. 132 was adopted on January 1, 1998, and no additional disclosures were required. In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS No. 133"). This statement standardizes the accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and those used for hedging activities, by requiring that an entity recognize those items as assets or liabilities in the statement of financial position and measure them at fair value. SFAS No. 133 generally provides for matching of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk, so long as the hedge is effective. Prospective application of SFAS No. 133 is required for all fiscal years beginning after June 15, 1999, however earlier application is permitted. DNB has not yet determined the impact, if any, of this statement, including its provisions for the potential reclassifications of investment securities, on operations, financial condition and equity and comprehensive income. However, DNB currently has no derivatives covered by this statement and currently conducts no hedging activities. Market for Common Stock DNB Financial's common stock is listed under the symbol "DNBF" on the Over The Counter Electronic Bulletin Board, an automated quotation service, made available through and governed by the NASDAQ system. Current price information is available from account executives at most brokerage firms as well as the firms listed at the back of this annual report who are market makers of DNB's common stock. There were approximately 900 stockholders who owned 1,524,229 shares of common stock outstanding at December 31, 1998. The following table sets forth the quarterly high and low prices for a share of DNB's common stock during the periods indicated. Prices for the sale of stock are based upon transactions reported by the brokerage firms of Hopper Soliday & Company, Inc. and Ryan, Beck & Company. The quoted high and low bid prices are limited only to those transactions known by management to have occurred and there may, in fact, have been additional transactions of which management is unaware. Prices have been adjusted for the stock split and stock dividends. 1998 1997 High Low High Low - --------------------------------------------------------- First Quarter $32.38 $28.57 $15.95 $14.76 Second Quarter 34.76 32.38 19.53 16.76 Third Quarter 34.40 31.19 26.19 19.41 Fourth Quarter 32.50 29.50 31.50 25.24 - --------------------------------------------------------- 20 Management's Discussion and Analysis of Financial Condition and Results of Operations The following table sets forth selected quarterly financial data and earnings per share for the periods indicated. Per share data have been adjusted for the 2 for 1 stock split in September 1997 and for the five percent (5%) stock dividends declared in 1998 and 1997.
Quarterly Financial Data (Dollars in thousands, except per share data) 1998 1997 Fourth Third Second First Fourth Third Second First Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter - ------------------------------------------------------------------------------------------------------------------------- Interest income $4,835 $4,594 $4,311 $4,164 $4,198 $4,148 $4,089 $3,928 Interest expense 2,276 2,195 1,949 1,847 1,858 1,798 1,693 1,635 - ------------------------------------------------------------------------------------------------------------------------- Net interest income 2,559 2,399 2,362 2,317 2,340 2,350 2,396 2,293 Provision for loan losses -- -- -- -- -- -- -- -- Non-interest income 352 419 396 338 383 346 252 218 Non-interest expense 1,800 1,686 1,728 1,754 1,833 1,795 1,709 1,659 - ------------------------------------------------------------------------------------------------------------------------- Income before income taxes 1,111 1,132 1,030 901 890 901 939 852 Income tax expense 333 384 285 250 219 218 218 212 - ------------------------------------------------------------------------------------------------------------------------- Net income $ 778 $ 748 $ 745 $ 651 $ 671 $ 683 $ 721 $ 640 - ------------------------------------------------------------------------------------------------------------------------- Basic earnings per share $0.51 $0.49 $0.49 $0.43 $0.44 $0.45 $0.47 $0.42 Diluted earnings per share 0.49 0.47 0.47 0.41 $0.43 $0.44 $0.47 $0.42 Cash dividends per share $0.115 $0.115 $0.115 $0.115 $0.11 $0.11 $0.09 $0.09 - -------------------------------------------------------------------------------------------------------------------------
21 DNB FINANCIAL CORPORATION AND SUBSIDIARY Consolidated Statements of Financial Condition
December 31 1998 1997 - ------------------------------------------------------------------------------------------------------------------- Assets Cash and due from banks $ 13,660,149 $ 7,503,007 Federal funds sold 6,171,000 15,889,000 Investment securities available for sale, at market value 45,519,420 13,888,462 Investment securities (market value $47,528,269 in 1998 and $49,863,493 in 1997) 47,380,404 49,694,161 Loans, net of unearned income 148,725,716 129,954,114 Allowance for loan losses (5,204,869) (5,280,958) - ------------------------------------------------------------------------------------------------------------------- Net loans 143,520,847 124,673,156 - ------------------------------------------------------------------------------------------------------------------- Office property and equipment 4,558,811 3,644,581 Accrued interest receivable 1,670,123 1,584,213 Other real estate owned 138,775 231,187 Deferred income taxes 1,037,415 977,981 Other assets 1,761,487 1,365,317 - ------------------------------------------------------------------------------------------------------------------- Total assets $265,418,431 $219,451,065 - ------------------------------------------------------------------------------------------------------------------- Liabilities and Stockholders' Equity Liabilities Non-interest-bearing deposits $ 30,001,051 $ 27,149,502 Interest-bearing deposits: NOW 37,074,977 33,386,755 Money market 32,582,044 19,289,128 Savings 28,321,246 27,714,419 Time 97,394,014 91,697,168 - ------------------------------------------------------------------------------------------------------------------- Total deposits 225,373,332 199,236,972 - ------------------------------------------------------------------------------------------------------------------- FHLB advances 18,000,000 -- Accrued interest payable 902,009 830,533 Other liabilities 536,872 1,027,997 - ------------------------------------------------------------------------------------------------------------------- Total liabilities 244,812,213 201,095,502 - ------------------------------------------------------------------------------------------------------------------- Commitment and contingencies (Note 13) Stockholders' Equity Preferred stock, $10.00 par value; 1,000,000 shares authorized; none issued -- -- Common stock, $1.00 par value; 10,000,000 shares authorized; 1,524,229 and 1,451,661 issued and outstanding, respectively 1,524,229 1,451,661 Surplus 17,104,817 14,607,109 Retained earnings 1,924,803 2,276,556 Accumulated other comprehensive income 52,369 20,237 - ------------------------------------------------------------------------------------------------------------------- Total stockholders' equity 20,606,218 18,355,563 - ------------------------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $265,418,431 $219,451,065 - -------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements. 22 DNB FINANCIAL CORPORATION AND SUBSIDIARY Consolidated Statements of Operations
Year Ended December 31 1998 1997 1996 Interest Income: Interest and fees on loans $12,091,896 $11,518,808 $10,556,381 Interest on investment securities: Taxable 4,898,355 4,359,349 4,179,173 Exempt from Federal taxes 55,416 -- -- Interest on Federal funds sold 857,093 485,449 426,177 - --------------------------------------------------------------------------------------------------------------------- Total interest income 17,902,760 16,363,606 15,161,731 - --------------------------------------------------------------------------------------------------------------------- Interest Expense: Interest on NOW, money market and savings 2,518,871 2,041,643 1,902,436 Interest on time deposits 5,276,500 4,739,650 4,110,912 Interest on FHLB advances 470,267 88,947 -- Interest on repurchase agreements 673 108,377 442,584 Interest on other borrowings -- 5,364 2,962 - --------------------------------------------------------------------------------------------------------------------- Total interest expense 8,266,311 6,983,981 6,458,894 - --------------------------------------------------------------------------------------------------------------------- Net interest income 9,636,449 9,379,625 8,702,837 Provision for loan losses -- -- -- - --------------------------------------------------------------------------------------------------------------------- Net interest income after provision for loan losses 9,636,449 9,379,625 8,702,837 - --------------------------------------------------------------------------------------------------------------------- Non-interest Income: Service charges 632,118 469,393 432,681 Trust income 430,120 416,209 305,930 Net gains (losses) on sale of investment securities 4,682 6,669 (4,728) Other 439,583 391,370 270,139 - --------------------------------------------------------------------------------------------------------------------- Total non-interest income 1,506,503 1,283,641 1,004,022 - --------------------------------------------------------------------------------------------------------------------- Non-interest Expense: Salaries and employee benefits 3,910,598 3,951,844 3,629,185 Furniture and equipment 711,436 671,968 664,714 Occupancy 437,859 458,214 467,437 Professional and consulting 347,174 445,032 317,420 Advertising and marketing 277,563 216,140 204,587 Printing and supplies 168,011 229,004 221,688 Other 1,116,011 1,110,864 1,226,228 - --------------------------------------------------------------------------------------------------------------------- Total non-interest expense 6,968,652 7,083,066 6,731,259 - --------------------------------------------------------------------------------------------------------------------- Income before income taxes 4,174,300 3,580,200 2,975,600 Income tax expense 1,252,000 865,000 658,000 - --------------------------------------------------------------------------------------------------------------------- Net Income $ 2,922,300 $ 2,715,200 $ 2,317,600 - --------------------------------------------------------------------------------------------------------------------- Earnings per share: Basic $1.92 $1.78 $1.52 Diluted 1.86 1.75 1.51 Weighted average common shares outstanding: Basic 1,524,158 1,523,929 1,523,929 Diluted 1,575,077 1,553,693 1,535,458 Cash dividends per share $0.46 $0.40 $0.24 - ---------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements. 23 DNB FINANCIAL CORPORATION AND SUBSIDIARY Consolidated Statements of Stockholders' Equity and Comprehensive Income
Accumulated Other Comprehensive Common Retained Comprehensive Income Stock Surplus Earnings Income Total - ---------------------------------------------------------------------------------------------------------------------- Balance at January 1, 1996 $ 6,587,930 $ 4,112,869 $3,592,242 $61,918 $14,354,959 Comprehensive Income: Net income $2,317,600 -- -- 2,317,600 -- 2,317,600 Other comprehensive income, net of tax, relating to unrealized loss on investments (84,321) -- -- -- -- (84,321) Total comprehensive income 2,233,279 Cash dividends -- -- (362,336) -- (362,336) Issuance of stock dividends 326,290 730,254 (1,056,544) -- -- Cash payment for fractional shares -- -- (9,888) -- (9,888) Transfer to surplus -- 353,169 (353,169) -- -- - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1996 6,914,220 5,196,292 4,127,905 (22,403) 16,216,014 Comprehensive Income: Net income 2,715,200 -- -- 2,715,200 -- 2,715,200 Other comprehensive income, net of tax, relating to unrealized gains on investments 42,640 -- -- -- -- 42,640 Total comprehensive income 2,757,840 Cash dividends -- -- (608,452) -- (608,452) Issuance of stock dividends 688,170 1,410,748 (2,098,918) -- -- Cash payment for fractional shares -- -- (9,839) -- (9,839) Stock split 6,914,220 (5,550,182) (1,364,038) -- -- Transfer to surplus -- 485,302 (485,302) -- -- - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1997 14,516,610 1,542,160 2,276,556 20,237 18,355,563 Change in par value (13,067,649) 13,067,649 -- -- -- - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1997, as adjusted 1,448,961 14,609,809 2,276,556 20,237 18,355,563 Comprehensive Income: Net income 2,922,300 -- -- 2,922,300 -- 2,922,300 Other comprehensive income, net of tax, relating to unrealized gains on investments 32,132 -- -- -- -- 32,132 Total comprehensive income 2,954,432 Cash dividends -- -- (696,905) -- (696,905) Issuance of stock dividends 72,268 2,222,242 (2,294,510) -- -- Cash payment for fractional shares -- -- (9,821) -- (9,821) Exercise of stock options 3,000 7,350 (7,401) -- 2,949 Transfer to surplus -- 265,416 (265,416) -- -- - ---------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1998 $ 1,524,229 $17,104,817 $1,924,803 $52,369 $20,606,218 - ----------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements. 24 DNB FINANCIAL CORPORATION AND SUBSIDIARY Consolidated Statements of Cash Flows
Year Ended December 31 1998 1997 1996 Cash Flows From Operating Activities: Net income $ 2,922,300 $ 2,715,200 $ 2,317,600 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation, amortization and accretion 750,326 420,383 312,036 Gain on sale of OREO (161,899) (107,748) (40,940) Net (gain) loss on sale of securities (4,682) (6,669) 4,728 (Increase) decrease in interest receivable (85,910) (21,648) 85,621 Increase in other assets (396,170) (142,723) (142,192) Increase (decrease) in interest payable 71,476 375,959 (4,369) Decrease (increase) in current taxes payable (89,512) 64,336 (23,000) Increase (decrease) in deferred income taxes (75,488) (124,336) 181,000 Decrease (increase) in other liabilities (401,613) 154,996 92,166 - ---------------------------------------------------------------------------------------------------------------------- Net Cash Provided By Operating Activities 2,528,828 3,327,750 2,782,650 - ---------------------------------------------------------------------------------------------------------------------- Cash Flows From Investing Activities: Proceeds from maturities and paydowns - AFS securities 8,601,340 12,225,648 8,224,520 Proceeds from maturities and paydowns - HTM securities 40,176,662 19,478,243 20,500,377 Purchase of AFS securities (42,388,555) (5,335,154) (21,823,458) Purchase of HTM securities (37,988,268) (20,349,660) (30,598,036) Proceeds from sale of AFS securities 1,996,371 1,003,750 4,961,039 Proceeds from sale of OREO 541,958 977,748 421,317 Net increase in loans (19,135,338) (8,303,760) (4,669,886) Purchase of office property and equipment (1,326,439) (71,873) (172,203) - ---------------------------------------------------------------------------------------------------------------------- Net Cash Used By Investing Activities (49,522,269) (375,058) (23,156,330) - ---------------------------------------------------------------------------------------------------------------------- Cash Flows From Financing Activities: Net increase in deposits 26,136,360 20,813,409 13,414,635 Increase in FHLB advances greater than ninety days 18,000,000 -- -- (Decrease) increase in repurchase agreements -- (11,225,273) 3,006,564 Dividends paid (706,726) (618,291) (372,224) Proceeds from issuance of stock under stock option plan 2,949 -- -- - --------------------------------------------------------------------------------------------------------------------- Net Cash Provided By Financing Activities 43,432,583 8,969,845 16,048,975 - ---------------------------------------------------------------------------------------------------------------------- Net Change in Cash and Cash Equivalents (3,560,858) 11,922,537 (4,324,705) Cash and Cash Equivalents at Beginning of Period 23,392,007 11,469,470 15,794,175 - ---------------------------------------------------------------------------------------------------------------------- Cash and Cash Equivalents at End of Period $19,831,149 $23,392,007 $11,469,470 - ---------------------------------------------------------------------------------------------------------------------- Supplemental Disclosure Of Cash Flow Information: Cash paid during the period for: Interest $ 8,194,835 $ 6,608,022 $ 6,463,263 Income taxes 1,417,000 925,000 460,000 Supplemental Disclosure Of Non-cash Flow Information: Net transfer of loans to OREO $ 331,799 $ 90,687 $ 580,614 - ----------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements. 25 Notes to Consolidated Financial Statements (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES DNB Financial Corporation (the "Corporation" or "DNB") through its wholly owned subsidiary, Downingtown National Bank (the "Bank"), has been serving individuals and small to medium sized businesses of Chester County, Pennsylvania since 1861. The Bank is a locally managed commercial bank providing personal and commercial loans and deposit products, in addition to investment and trust services from six community offices. The Bank encounters vigorous competition for market share from other commercial banks, thrift institutions, credit unions and other financial intermediaries. The consolidated financial statements of DNB and its subsidiary, the Bank, which together are managed as a single segment entity, are prepared in accordance with generally accepted accounting principles and general practices within the industry. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and affect revenues and expenses for the period. Actual results could differ significantly from those estimates. The material estimates that are particularly susceptible to significant changes in the near term relate to the determination of the adequacy of the allowance for loan losses, the valuation of other real estate owned and the valuation of deferred tax assets. In connection with the determination of the allowance for losses on loans and other real estate owned, independent appraisals for significant properties are obtained when practical. The more significant accounting policies are summarized below. Prior period amounts not affecting net income are reclassified when necessary to conform with current year classifications. Principles of Consolidation -- The accompanying consolidated financial statements include the accounts of the Corporation and the Bank. All significant intercompany transactions have been eliminated. Cash and Due From Banks -- DNB is required to maintain certain daily reserve balances in accordance with Federal Reserve Board requirements. The average reserve balance maintained in accordance with such requirements for the years ended December 31, 1998 and 1997 was approximately $700,000 and $275,000, respectively. Investment Securities -- Investment securities are classified and accounted for as follows: Held-To-Maturity ("HTM") -- includes debt and non-readily marketable equity securities that DNB has the positive intent and ability to hold to maturity. Debt securities are reported at cost, adjusted for amortization of premiums and accretion of discounts. Equity securities are carried at cost, which approximates liquidation value. Trading Account ("TA") -- includes securities which are generally held for a short term in anticipation of market gains. Such securities would be carried at fair value with realized and unrealized gains and losses on trading account securities included in the statement of operations. DNB did not have any securities classified as TA during 1998, 1997, or 1996. Available-For-Sale ("AFS") -- includes debt and equity securities not classified as HTM or TA securities. Securities classified as AFS are securities that DNB intends to hold for an indefinite period of time, but not necessarily to maturity. Such securities are reported at fair value, with unrealized holding gains and losses excluded from earnings and reported, net of tax (if applicable), as a separate component of stockholders' equity. Realized gains and losses on the sale of AFS securities are computed on the basis of specific identification of the adjusted cost of each security. Amortization of premiums and accretion of discounts for all types of securities are 26 Notes to Consolidated Financial Statements computed using a method approximating a level-yield basis. Loans -- Loans are stated net of unearned discounts, unamortized net loan origination fees and the allowance for loan losses. Interest income is recognized on the accrual basis. The accrual of interest on loans is generally discontinued when loans become 90 days past due or earlier when, in management's judgment, it is determined that a reasonable doubt exists as to its collectibility. When a loan is placed on nonaccrual, interest accruals cease and uncollected accrued interest is reversed and charged against current income. Additional interest payments on such loans are applied to principal or recognized in income on a cash basis. A nonaccrual loan may be restored to accrual status when management expects to collect all contractual principal and interest due and the borrower has demonstrated a sustained period of repayment performance in accordance with the contractual terms. Deferred Loan Fees -- Loan origination and commitment fees and related direct-loan origination costs of completed loans are deferred and accreted to income as a yield adjustment over the life of the loan using the level-yield method. The accretion to income is discontinued when a loan is placed on nonaccrual status. When a loan is paid off, any unamortized net deferred-fee balance is credited to income. When a loan is sold, any unamortized net deferred-fee balance is considered in the calculation of gain or loss. Allowance for Loan Losses -- The allowance for loan losses ("allowance") is based on a periodic evaluation of the portfolio and is maintained at a level that management considers adequate to absorb losses known and inherent in the portfolio. Management considers a variety of factors when establishing the allowance, recognizing that an inherent risk of loss always exists in the lending process. Consideration is given to the impact of current economic conditions, diversification of the loan portfolio, historical loss experience, delinquency statistics, results of detailed loan reviews, borrowers' financial and managerial strengths, the adequacy of underlying collateral, and other relevant factors. While management utilizes the latest available information to determine the potential for losses on loans, future additions to the allowance may be necessary based on changes in economic conditions as well as adverse changes in the financial condition of borrowers. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the allowance. Such agencies may require DNB to recognize additions to the allowance based on their judgments of information available to them at the time of their examination. The allowance is increased by the provision for loan losses, which is charged to operations. Loan losses are charged directly against the allowance and recoveries on previously charged-off loans are added to the allowance. For purposes of applying the measurement criteria for impaired loans, DNB excludes large groups of smaller-balance homogeneous loans, primarily consisting of residential real estate loans and consumer loans, as well as commercial loans with balances less than $100,000. For applicable loans, management evaluates the need for impairment recognition when a loan becomes nonaccrual, or earlier, if based on an assessment of the relevant facts and circumstances, it is probable that DNB will be unable to collect all proceeds due according to the contractual terms of the loan agreement. DNB's policy for the recognition of interest income on impaired loans is the same as for nonaccrual loans. Impairment is charged to the allowance when management determines that foreclosure is probable or the fair value of the collateral is less than the recorded investment of the impaired loan. Other Real Estate Owned -- Other real estate owned ("OREO") consists of properties acquired as a result of, or in-lieu-of, foreclosure. Properties classified as OREO are reported at the 27 Notes to Consolidated Financial Statements lower of carrying value or fair value, less estimated costs to sell. Costs relating to the development or improvement of the properties are capitalized and costs relating to holding the properties are charged to expense. Office Properties and Equipment -- Office properties and equipment are recorded at cost. Depreciation is computed using the straight-line method over the expected useful lives of the assets. The costs of maintenance and repairs are expensed as they are incurred; renewals and betterments are capitalized. All long-lived assets are reviewed for impairment, based on the fair value of the asset. In addition, long-lived assets to be disposed of are generally reported at the lower of carrying amount or fair value, less costs to sell. Gains or losses on disposition of premises and equipment are reflected in operations. Federal Income Taxes -- DNB accounts for income taxes in accordance with the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. The Corporation files a consolidated Federal income tax return with the Bank. Pension Plan -- The Bank maintains a noncontributory defined benefit pension plan covering substantially all employees over the age of 21 with one year of service. Plan benefits are based on years of service and the employee's monthly average compensation for the highest five consecutive years of their last ten years of service. Stock Option Plan -- SFAS No. 123, Accounting for Stock-Based Compensation ("SFAS No. 123"), permits entities to recognize as expense over the vesting period, the fair value of all stock-based awards on the date of grant. Alternatively, SFAS No. 123 also allows entities to continue to apply the provisions of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations and provide pro forma net income and pro forma earnings per share disclosures for employee stock option grants made in 1995 and future years as if the fair-value-based method defined in SFAS No. 123 had been applied. DNB has elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS No. 123. As such, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeds the exercise price. Earnings Per Share -- Basic earnings per share is computed based on the weighted average number of common shares outstanding during the year. Diluted earnings per share reflects the potential dilution that could occur from the conversion of common stock equivalents and is computed using the treasury stock method. Earnings per share, dividends per share and weighted average shares outstanding have been adjusted to reflect the effects of the 5% stock dividends paid in December 1998, 1997 and 1996 and the September 1997 two-for-one stock split, effected in the form of a 100% dividend. Common Stock -- In May 1998, the Corporation's amended Articles of Incorporation were filed with the State. The amendment to Article 5 was approved by the Board of Directors and ratified by the shareholders at the Annual Meeting held in April 1998. The amendment (a) increased the number of authorized shares of the Corporation's Common Stock from 5,000,000 to 10,000,000 shares and (b) changed the par value of the Common Stock from $10.00 to $1.00. The Common Stock and Surplus accounts have been 28 Notes to Consolidated Financial Statements adjusted for this change by decreasing Common Stock and increasing Surplus by $13,067,649. All prior periods presented have been restated. Trust Assets -- Assets held by DNB in fiduciary or agency capacities are not included in the consolidated financial statements since such items are not assets of DNB. Operating income and expenses of the Investment Services and Trust Division are included in the consolidated statements of operations and are recorded on an accrual basis. Statements of Cash Flows -- For purposes of the statements of cash flows, DNB considers cash in banks, amounts due from banks, and Federal funds sold to be cash equivalents. Generally, Federal funds are sold for one-day periods. Recent Accounting Pronouncements -- In June 1997 the FASB issued SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information ("SFAS No. 131"). SFAS No. 131 establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. SFAS No. 131 was adopted by DNB on January 1, 1998. No additional disclosures were required, as DNB operates as a single segment entity. In February 1998, the FASB issued SFAS No. 132, Employers' Disclosures about Pensions and Other Postretirement Benefits ("SFAS No. 132"). This statement amends the disclosure requirements of Statements No. 87, Employers' Accounting for Pensions ("Statement No. 87"), No. 88, Employers' Accounting for Settlements and Curtailments of Defined Benefit Pensions Plans and for Termination Benefits ("Statement No. 88"), and No. 106, Employers' Accounting for Postretirement Benefits Other Than Pensions ("Statement No. 106"). SFAS No. 132 is applicable to all entities. This statement standardizes the disclosure requirements of Statements No. 87 and No. 106 to the extent practicable and recommends a parallel format for presenting information about pensions and other postretirement benefits. SFAS No. 132 only addresses disclosure and does not change any of the measurement or recognition provisions provided for in Statements No. 87, No. 88, or No. 106. Restatement of comparative period disclosures is required unless the information is not readily available, in which case the notes to the financial statements shall include all available information and a description of the information not available. SFAS No. 132 was adopted on January 1, 1998, and no additional disclosures were required. In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS No. 133"). This statement standardizes the accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and those used for hedging activities, by requiring that an entity recognize those items as assets or liabilities in the statement of financial position and measure them at fair value. SFAS No. 133 generally provides for matching of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk, so long as the hedge is effective. Prospective application of SFAS No. 133 is required for all fiscal years beginning after June 15, 1999, however earlier application is permitted. DNB has not yet determined the impact, if any, of this statement, including its provisions for the potential reclassifications of investment securities, on operations, financial condition and equity and comprehensive income. However, DNB currently has no derivatives covered by this statement and currently conducts no hedging activities. 29 Notes to Consolidated Financial Statements (2) INVESTMENT SECURITIES Amortized cost and estimated fair values of investment securities, as of the dates indicated, are summarized as follows:
December 31, 1998 Amortized Unrealized Unrealized Estimated Held to Maturity Cost Gains Losses Fair Value - ----------------------------------------------------------------------------------------------------------------------- US Government and agency corporations $23,466,578 $181,190 $ (3,226) $23,644,542 US agency mortgage-backed securities 4,055,418 21,154 (18,735) 4,057,837 Collateralized mortgage obligations 17,462,358 22,593 (55,111) 17,429,840 Equity securities 2,396,050 -- -- 2,396,050 - ----------------------------------------------------------------------------------------------------------------------- Total investment securities $47,380,404 $224,937 $(77,072) $47,528,269 - ----------------------------------------------------------------------------------------------------------------------- Amortized Unrealized Unrealized Estimated Available for Sale Cost Gains Losses Fair Value - ----------------------------------------------------------------------------------------------------------------------- US Government and agency corporations $ 8,201,981 $ 27,211 $ (14,323) $ 8,214,869 US agency mortgage-backed securities 6,647,083 11,671 (33,471) 6,625,283 State and municipal tax-exempt 7,034,301 1,429 (131,051) 6,904,679 Corporate bonds 18,616,496 230,674 (21,194) 18,825,976 Other securities 4,944,746 80,800 (76,933) 4,948,613 - ----------------------------------------------------------------------------------------------------------------------- Total investment securities $45,444,607 $351,785 $(276,972) $45,519,420 - ----------------------------------------------------------------------------------------------------------------------- December 31, 1997 Amortized Unrealized Unrealized Estimated Held to Maturity Cost Gains Losses Fair Value - ----------------------------------------------------------------------------------------------------------------------- US Government agency and corporations $41,806,613 $227,183 $ (51,090) $41,982,706 US agency mortgage-backed securities 5,790,448 38,828 (45,589) 5,783,687 Equity securities 1,097,100 -- -- 1,097,100 Other securities 1,000,000 -- -- 1,000,000 - ----------------------------------------------------------------------------------------------------------------------- Total investment securities $49,694,161 $266,011 $ (96,679) $49,863,493 - ----------------------------------------------------------------------------------------------------------------------- Amortized Unrealized Unrealized Estimated Available for Sale Cost Gains Losses Fair Value - ----------------------------------------------------------------------------------------------------------------------- US Government agency and corporations $ 4,746,675 $ 6,527 $ (2,600) $ 4,750,602 Mortgage-backed securities 9,115,160 52,982 (30,282) 9,137,860 - ----------------------------------------------------------------------------------------------------------------------- Total investment securities $13,861,835 $ 59,509 $ (32,882) $13,888,462 - -----------------------------------------------------------------------------------------------------------------------
30 Notes to Consolidated Financial Statements The amortized cost and estimated fair value of investment securities as of December 31, 1998, by contractual maturity, are shown below. Actual maturities may differ from contractual maturities because certain securities may be called or prepaid without penalties.
Investment Securities Investment Securities Held to Maturity Available for Sale Amortized Estimated Amortized Estimated Cost Fair Value Cost Fair Value - ----------------------------------------------------------------------------------------------------------------------- Due in one year or less $ 495,083 $ 503,360 $ -- $ -- Due after one year through five years 2,775,740 2,779,824 5,652,367 5,654,384 Due after five years through ten years 13,668,361 13,816,658 -- -- Due after ten years 28,045,170 28,032,377 39,792,240 39,865,036 No stated maturity 2,396,050 2,396,050 -- -- - ----------------------------------------------------------------------------------------------------------------------- Total investment securities $47,380,404 $47,528,269 $45,444,607 $45,519,420
DNB sold $2.0 million, $1.0 million and $5.0 million of securities from the AFS portfolio during 1998, 1997 and 1996, respectively. Gains and losses from sales of investment securities were as follows: Year Ended December 31 1998 1997 1996 - ------------------------------------------------------------------------ Gross realized gains $4,682 $6,669 $4,599 Gross realized losses -- -- (9,327) - ------------------------------------------------------------------------ Net realized gain (losses) $4,682 $6,669 $ (4,728) - ------------------------------------------------------------------------ At December 31, 1998 and 1997, investment securities with a carrying value of approximately $31.6 million and $36.7 million, respectively, were pledged to secure public funds and for other purposes as provided by law. In addition, at December 31, 1998, DNB had two investment securities which represented a significant concentration (greater than 10% of stockholders' equity). The first security was issued by Bear Stearns Mortgage and had a carrying value and estimated fair value at December 31, 1998 of $2,487,619 and $2,489,825, respectively. The second security was issued by Chase Mortgage Financial Corp., and had a carrying value and estimated fair value of $3,041,095 and $3,022,031, respectively. There were no significant concentrations of investment securities at December 31, 1997. Interest and dividends on all investment securities for the years ended December 31, 1998, 1997 and 1996 consisted of: Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------- US Treasury $ 27,126 $ 10,743 $ 132,006 US Government agency and corporations 2,796,113 3,277,121 2,845,377 US agency mortgage- backed securities 804,912 859,743 964,253 Collateralized mortgage obligations 466,065 -- -- Corporate bonds 305,030 -- -- State and municipal tax-exempt 55,416 -- -- Equity securities 100,033 67,154 25,452 Other 399,076 144,588 212,085 - ---------------------------------------------------------------------- Total $4,953,771 $4,359,349 $4,179,173 - ---------------------------------------------------------------------- (3) LOANS December 31 1998 1997 - -------------------------------------------------------- Residential mortgage $ 29,655,988 $ 20,392,265 Commercial mortgage 51,433,883 46,129,545 Commercial 35,548,896 34,966,230 Consumer 29,933,657 26,062,144 Student 2,153,292 2,403,930 - -------------------------------------------------------- Total loans 148,725,716 129,954,114 - -------------------------------------------------------- Less allowance for loan losses (5,204,869) (5,280,958) - -------------------------------------------------------- Net loans $143,520,847 $124,673,156 - -------------------------------------------------------- 31 Notes to Consolidated Financial Statements Included in the loan portfolio are loans for which DNB has ceased the accrual of interest. Loans of approximately $2.4 million, $2.9 million and $2.9 million as of December 31, 1998, 1997 and 1996, respectively, were on a nonaccrual basis. DNB also had loans of approximately $700,000, $70,000 and $194,000 that were more than 90 days delinquent, but still accruing as of December 31, 1998, 1997 and 1996, respectively. In addition, DNB had loans not included in nonaccrual or delinquent loans, which constitute troubled debt restructurings, which totaled $-0-, $-0- and $184,000 as of December 31, 1998, 1997 and 1996, respectively. If contractual interest income had been recorded on nonaccrual loans during the years 1998, 1997 and 1996, interest would have been increased as shown in the following table: Year Ended December 31 1998 1997 1996 - --------------------------------------------------------------------- Interest income which would have been recorded under original terms $194,000 $243,000 $ 254,000 Interest income recorded during the year (92,000) (71,000) (80,000) - --------------------------------------------------------------------- Net impact on interest income $102,000 $172,000 $ 174,000 - --------------------------------------------------------------------- At December 31, 1998, DNB had $6.5 million of loans which, although performing at December 31, 1998, are believed to require increased supervision and review, and may, depending on the economic environment and other factors, become non-performing assets in future periods. The majority of the loans are secured by commercial real estate with lesser amounts being secured by residential real estate, inventory and receivables. Although DNB has a significant concentration of residential and commercial mortgage loans collateralized by first mortgage liens located in Chester County, DNB has no concentration of loans to borrowers engaged in similar activities which exceed 10% of total loans at December 31, 1998, except for loans of approximately $17.2 million relating to local multi-unit office buildings. DNB also had loans of approximately $12.9 million to local residential real estate developers at December 31, 1998. Certain officers and directors of DNB and certain corporations and individuals related to such persons incurred indebtedness, in the form of loans, as customers. These loans were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other customers and did not involve more than the normal risk of collectibility. None of these loans are in default or past due more than 90 days. The following is a summary of activity during 1998 for such loans: - --------------------------------------------------------------------- Balance, January 1, 1998 $906,508 New loans granted 60,000 Less loan repayments 88,477 - --------------------------------------------------------------------- Balance, December 31, 1998 $878,031 - --------------------------------------------------------------------- (4) ALLOWANCE FOR LOAN LOSSES Changes in the allowance for loan losses, for the years indicated, are as follows: Year Ended December 31 1998 1997 1996 - --------------------------------------------------------------------- Beginning balance $ 5,280,958 $ 5,112,486 $ 5,514,600 Provisions -- -- -- Loans charged off (303,005) (48,330) (534,165) Recoveries 226,916 216,802 132,051 - --------------------------------------------------------------------- Net (charge-offs) recoveries (76,089) 168,472 (402,114) - --------------------------------------------------------------------- Ending balance $ 5,204,869 $ 5,280,958 $ 5,112,486 - --------------------------------------------------------------------- At December 31, 1998, 1997 and 1996, DNB had impaired loans with total recorded investments of $1.7 million, $1.8 million and $1.4 million, and average recorded investments for the years ended December 31, 1998, 1997 and 1996 of $1.6 million for each of the three years ended 32 Notes to Consolidated Financial Statements December 31, 1998. The aggregate amount of impaired loans are measured under the fair value measurement method. As of December 31, 1998 and 1997, there was no related allowance for credit losses necessary for these impaired loans. As of December 31, 1996, the amount of recorded investments in impaired loans for which there is a related allowance for credit losses was $160,000. The amount of related allowance at December 31, 1996 was $160,000. The amount of the recorded investment in impaired loans for which there was no related allowance for credit losses at December 31, 1996 is $1.3 million. Total cash collected on impaired loans was credited to the outstanding principal balance in the amounts of $68,000, $241,000 and $83,000 during the years ended December 31, 1998, 1997 and 1996. No interest income was recorded on such loans in each of the three years ended December 31, 1998. (5) OFFICE PROPERTY AND EQUIPMENT December 31 Estimated Useful Lives 1998 1997 - --------------------------------------------------------------------- Land $ 854,942 $ 854,942 Buildings 25-33 years 3,840,447 3,721,505 Furniture, fixtures and equipment 5-20 years 5,395,270 4,376,499 - --------------------------------------------------------------------- Total cost 10,090,659 8,952,946 Less accumulated depreciation (5,531,848) (5,308,365) - --------------------------------------------------------------------- Office property and equipment, net $ 4,558,811 $3,644,581 - --------------------------------------------------------------------- Amounts charged to operating expense for depreciation for the years ended December 31, 1998, 1997 and 1996 amounted to $412,209, $413,794 and $437,954, respectively. (6) DEPOSITS Included in interest-bearing time deposits are certificates of deposit issued in amounts of $100,000 or more. These certificates and their remaining maturities at December 31, 1998 and 1997 were as follows: December 31 1998 1997 - --------------------------------------------------------------------- Three months or less $11,458,268 $10,827,882 Over three through six months 4,919,675 7,553,041 Over six through twelve months 3,318,619 3,162,723 Over twelve months 3,003,705 1,715,887 - --------------------------------------------------------------------- Total $22,700,267 $23,259,533 - --------------------------------------------------------------------- (7) FHLB ADVANCES AND OTHER BORROWINGS DNB's short-term borrowed funds consist of Federal funds purchased and repurchase agreements. Federal funds purchased generally represent one-day borrowings. Securities sold under repurchase agreements represent overnight borrowings that are secured by U.S. Agency securities. DNB had no outstanding short-term borrowed funds during 1998. For the year ended December 31, 1997, average short-term borrowed funds were $2.6 million, with a weighted average rate during the year of 4.27%. The maximum month-end balance of short-term borrowings during 1997 was $8.1 million. In addition to Federal funds purchased, DNB maintains borrowing arrangements with a correspondent bank and the Federal Home Loan Bank (FHLB) of Pittsburgh. DNB has a maximum borrowing capacity at the FHLB of approximately $72.0 million. At December 31, 1998, advances from the FHLB amounted to $18.0 million. All advances were convertible term advances, which mature at various dates during the year ended December 31, 2008. Advances are callable, at the FHLB's option, at various dates starting on February 13, 1999 and ending on October 11, 2003. 33 Notes to Consolidated Financial Statements If an advance is called by the FHLB, DNB has the option of repaying the borrowing, or it may continue to borrow at three month Libor plus 10-14 basis points. The weighted average interest rate for these advances at December 31, 1998 was 5.14%. FHLB advances are collateralized by a pledge of the Bank's entire portfolio of unencumbered investment securities, certain mortgage loans and a lien on the Bank's FHLB stock. (8) FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value assumptions, methods, and estimates are set forth below for DNB's financial instruments. Limitations Fair value estimates are made at a specific point in time, based on relevant market information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time DNB's entire holdings of a particular financial instrument. Because no market exists for a significant portion of DNB's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates. The following methods and assumptions were used to estimate the fair value of each class of financial instruments. Cash, Federal Funds Sold and Investment Securities The carrying amounts for short-term investments (cash and Federal funds sold) approximate fair value. The fair value of investment securities is estimated based on bid prices published in financial newspapers or bid quotations received from securities dealers. The carrying amount of non-readily marketable equity securities approximates liquidation value. Loans Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, commercial mortgages, residential mortgages, consumer and student loans, and nonaccrual loans. The fair value of performing loans is calculated by discounting expected cash flows using an estimated market discount rate. Expected cash flows include both contractual cash flows and prepayments of loan balances. Prepayments on consumer loans were determined using the median of estimates of securities dealers for mortgage-backed investment pools. The estimated discount rate considers credit and interest rate risk inherent in the loan portfolios and other factors such as liquidity premiums and incremental servicing costs to an investor. Management has made estimates of fair value discount rates that it believes to be reasonable. However, because there is no market for many of these financial instruments, management has no basis to determine whether the fair value presented below would be indicative of the value negotiated in an actual sale. The fair value for nonaccrual loans was derived through a discounted cash flow analysis, which includes the opportunity costs of carrying a non-performing asset. An estimated discount rate was used for all nonaccrual loans, based on the probability of loss and the expected time to recovery. Deposits and Borrowings The fair value of deposits with no stated maturity, such as non-interest-bearing deposits, savings, NOW and money market accounts, is equal to the amount payable on demand as of Decem- 34 Notes to Consolidated Financial Statements ber 31, 1998 and 1997. The fair value of certificates of deposit is based on the present value of contractual cash flows. The discount rates used to compute present values are estimated using the rates currently offered for deposits of similar maturities in DNB's marketplace. Off-balance-sheet Instruments Off-balance-sheet instruments are primarily comprised of loan commitments which are generally priced at market at the time of funding. Fees on commitments to extend credit and standby letters of credit are deemed to be immaterial and these instruments are expected to be settled at face value or expire unused. It is impractical to assign any fair value to these instruments. At December 31, 1998 and 1997 loan commitments were $22.6 million and $19.8 million, respectively. Stand-by letters of credit were $2.2 million and $1.8 million at December 31, 1998 and 1997, respectively. The following tables summarize information for all on-balance-sheet financial instruments. December 31 1998 1997 - ---------------------------------------------------------------------------- Estimated Estimated Carrying Fair Carrying Fair (Dollars in thousands Amount Value Amount Value - ---------------------------------------------------------------------------- Financial assets Cash and Federal funds sold $ 6,171 $ 6,171 $ 15,889 $ 15,889 Investment securities, AFS 45,519 45,519 13,888 13,888 Investment securities, HTM 47,380 47,528 49,694 49,863 Loans, net of unearned income 148,726 149,028 129,954 130,519 Accrued interest receivable 1,670 1,670 1,584 1,584 Financial liabilities Deposits 225,373 226,130 199,237 199,801 Borrowings 18,000 18,472 -- -- Accrued interest payable 902 902 831 831 - ---------------------------------------------------------------------------- (9) FEDERAL INCOME TAXES Income tax expense was comprised of the following: Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------------- Current tax expense $1,327,488 $989,337 $ 565,467 Deferred income tax (benefit) expense (75,488) (124,337) 92,533 - ---------------------------------------------------------------------------- Income tax expense $1,252,000 $865,000 $ 658,000 - ---------------------------------------------------------------------------- The effective income tax rates of 30% for 1998, 24% for 1997 and 22% for 1996 were less than the applicable statutory Federal income tax rate. The reason for these differences follows: Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------------- Computed "expected" tax expense $ 1,419,262 $ 1,217,268 $ 1,011,704 Increase (decrease) resulting from: Tax-exempt interest income (58,941) (73,090) (90,130) Valuation allowance- deferred taxes -- (318,000) (322,000) Impact of AMT rate on deferred taxes -- -- 48,136 Other, net (108,321) 38,822 10,290 - ---------------------------------------------------------------------------- Income tax expense $ 1,252,000 $ 865,000 $ 658,000 - ---------------------------------------------------------------------------- The significant components of deferred income tax expense (benefit) attributable to income are as follows: Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------------- Deferred tax (benefit) expense (exclusive of the effects of the component listed below) $ (75,488) $ 193,663 $ 414,533 Decrease in beginning-of-the-year balance of the valuation allowance for deferred tax assets -- (318,000) (322,000) - ---------------------------------------------------------------------------- Deferred income tax (benefit) expense $ (75,488) $(124,337) $ 92,533 - ---------------------------------------------------------------------------- 35 Notes to Consolidated Financial Statements The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are presented below: December 31 (Dollars in thousands) 1998 1997 1996 - ---------------------------------------------------------------------------- Deferred tax assets: Allowance for loan losses $ 1,577 $ 1,577 $ 1,515 Alternative minimum tax credit carryforwards -- -- 234 Valuation adjustment for debt securities -- -- 6 Other 108 54 47 - ---------------------------------------------------------------------------- Total gross deferred tax assets 1,685 1,631 1,802 Less valuation allowance -- -- (318) - ---------------------------------------------------------------------------- Subtotal 1,685 1,631 1,484 Deferred tax liabilities: Depreciation (120) (130) (99) Pension expense (407) (406) (379) Valuation adjustment for debt securities (22) (6) -- Other (99) (111) (140) - ---------------------------------------------------------------------------- Total gross deferred tax liabilities (648) (653) (618) - ---------------------------------------------------------------------------- Net deferred tax asset $ 1,037 $ 978 $ 866 - ---------------------------------------------------------------------------- Based upon DNB's current and historical tax history and the anticipated level of future taxable income, management believes the existing net deferred tax asset will, more likely than not, be realized based on future taxable income. The reductions in the valuation allowance for deferred taxes during 1997 and 1996 are attributable to improved earnings and expected continued improvement through the subsequent one year period permitted under applicable regulations. (10) EARNINGS PER SHARE Options to purchase 33,810 shares of common stock at $33.57 per share were outstanding during the second, third and fourth quarters of 1998, but were not included in the computation of diluted EPS for those quarters because the options' exercise price was greater than the average market price of the common shares. The options, which expire on June 30, 2008 were still outstanding at December 31, 1998. (10) EARNINGS PER SHARE The following is a reconcilement of net income and the weighted average number of shares outstanding for basic and diluted EPS:
Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------------------------------------------------------- Income Shares Amount Income Shares Amount Income Shares Amount - ---------------------------------------------------------------------------------------------------------------------- Net income $2,922 $2,715 $2,318 Basic EPS Income available to common stockholders $2,922 1,524 $1.92 $2,715 1,524 $1.78 $2,318 1,524 $1.52 Effect of dilutive common stock equivalents - stock options 51 $0.06 -- 30 $0.03 -- 11 $0.01 - ---------------------------------------------------------------------------------------------------------------------- Diluted EPS Income available to common stockholders after assumed conversions $2,922 1,575 $1.86 $2,715 1,554 $1.75 $2,318 1,535 $1.51 - ----------------------------------------------------------------------------------------------------------------------
36 Notes to Consolidated Financial Statements (11) OTHER COMPREHENSIVE INCOME The tax effects allocated to each component of "Other Comprehensive Income" are as follows: Tax Before-Tax (Expense) Net-of-Tax Amount Benefit Amount - ----------------------------------------------------------------------------- Year Ended December 31, 1998: Unrealized gains on securities: Unrealized holding gains arising during the period $ 48,186 $(16,054) $ 32,132 Less reclassified adjustment for gains included in net income -- -- -- - ----------------------------------------------------------------------------- Other Comprehensive Income $ 48,186 $(16,054) $ 32,132 - ----------------------------------------------------------------------------- Year Ended December 31, 1997: Unrealized gains on securities: Unrealized holding gains arising during the period $ 55,349 $(12,709) $ 42,640 Less reclassified adjustment for gains included in net income -- -- -- - ----------------------------------------------------------------------------- Other Comprehensive Income $ 55,349 $(12,709) $ 42,640 - ----------------------------------------------------------------------------- Year Ended December 31, 1996: Unrealized losses on securities: Unrealized holding losses arising during the period $(97,155) $ 12,834 $(84,321) Less reclassified adjustment for losses included in net income -- -- -- - ----------------------------------------------------------------------------- Other Comprehensive Income $(97,155) $ 12,834 $(84,321) - ----------------------------------------------------------------------------- (12) BENEFIT PLANS Pension Plan The Bank maintains a pension plan (the "Plan") covering all employees, including officers, who have been employed for one year and have attained 21 years of age. Prior to May 1, 1985, an individual must have attained the age of 25 and accrued one year of service. The Plan provides pension benefits to eligible retired employees at 65 years of age equal to 1.5% of their average monthly pay multiplied by their years of accredited service (maximum 40 years). The accrued benefit is based on the monthly average of their highest five consecutive years of their last ten years of service. The following table sets forth the Plan's funded status, as of the measurement dates of December 31, 1998 and 1997 and amounts recognized in DNB's consolidated financial statements at December 31, 1998 and 1997: December 31 1998 1997 - ----------------------------------------------------------------------------- Actuarial present value of benefit obligation: Vested benefit obligation $(3,574,586) $(3,606,979) - ----------------------------------------------------------------------------- Accumulated benefit obligation (3,637,423) (3,670,385) - ----------------------------------------------------------------------------- Projected benefit obligation (4,239,130) (4,302,021) Plan assets at fair value 5,618,868 5,486,448 - ----------------------------------------------------------------------------- Projected benefit obligation over plan assets 1,379,738 1,184,427 Unrecognized net asset at January 1, 1987 being amortized over 17 years (112,489) (130,990) Unrecognized net (gain) loss (74,071) (35,767) - ----------------------------------------------------------------------------- Prepaid pension cost included in other assets $ 1,193,178 $ 1,017,670 - ----------------------------------------------------------------------------- Net periodic pension costs for the years indicated include the following components: Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------------- Service cost-benefits earned during the period $180,600 $159,082 $152,691 Interest cost on projected benefit obligation 295,854 292,502 267,889 Actual return on plan assets (102,371) (987,562) (258,307) Asset gain (loss) (361,168) 614,010 (82,047) Amortization of unrecognized net asset at transition (18,501) (18,501) (18,501) Amortization of unrecognized net loss after transition -- 15,756 13,327 - ---------------------------------------------------------------------------- Net pension cost $ (5,586) $ 75,287 $ 75,052 - ---------------------------------------------------------------------------- Assumptions used: Discount rate 7.00% 7.00% 7.00% Rate of increase in compensation level 5.00 5.00 5.00 Expected long-term rate of return on assets 8.50 8.50 8.50 - ---------------------------------------------------------------------------- 37 Notes to Consolidated Financial Statements The Pension Plan's assets are invested using an asset allocation strategy in units of certain equity, bond, real estate and money market funds. 401(k) Retirement Savings Plan The Bank's retirement savings plan enables employees to become eligible to participate after six months of service, and will thereafter participate in the 401(k) plan for any year in which they have been employed for at least 501 hours. In general, amounts held in a participant's account are not distributable until the participant terminates employment, reaches age 59 1/2, dies or becomes permanently disabled. Participants are permitted to authorize pre-tax savings contributions to a separate trust established under the 401(k) plan, subject to limitations on deductibility of contributions imposed by the Internal Revenue Code. The Bank makes matching contributions of $.25 for every dollar of deferred salary up to 6% of each participant's annual compensation. Each participant is 100% vested at all times in employee and employer contributions. The matching contributions to the 401(k) plan were $33,000, $29,000 and $30,000 in 1998, 1997 and 1996, respectively. Stock-based Compensation DNB has a Stock Option Plan for employees and directors. Under the plan, options (both qualified and non-qualified) to purchase a maximum of 158,016 shares of DNB's common stock could be issued to employees and directors. On February 24, 1999, the Board of Directors of the Corporation amended and restated DNB Financial Corporation's 1995 Stock Option Plan (the "Plan"), subject, however, to shareholder approval of the amendment adopted by the Board to increase by 100,000 the number of shares for which options may be issued under the Plan. The Board approved submission of this amendment to shareholders for approval at the April 27, 1999 Annual Meeting. Under the plan, option exercise prices must equal the fair market value of the shares on the date of option grant and the option exercise period may not exceed ten years. Vesting of options under the plan is determined by the Plan Committee. There were 27,601 and 61,096 shares available for grant at December 31, 1998 and 1997, respectively. At December 31, 1998 and 1997, the number of options exercisable was 130,415 and 96,920, respectively, and the weighted average exercise price of those options was $18.27 and $12.91, respectively. The per share weighted-average fair value of stock options granted during 1998, 1997 and 1996 was $9.52, $6.81 and $4.38 on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: for 1998-expected dividend yield of 1.39%, risk-free interest rate of 4.82%, expected life of 9.5 years and an expected volatility of stock over the expected life of the options was 14%; for 1997-expected dividend yield of 1.85%, risk-free interest rate of 5.77%, expected life of 9.5 years and an expected volatility of stock over the expected life of the options of 26%; for 1996-expected dividend yield of 1.98%, risk-free interest rate of 6.3%, expected life of 9.5 years and an expected volatility of stock over the expected life of the options of 22%. DNB applies APB Opinion No. 25 in accounting for its Stock Option Plan, and accordingly, no compensation cost has been recognized for its stock options in the financial statements. Had DNB determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, DNB's net income and earnings per share would have been reduced to the pro forma amounts indicated below: Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------- Net income as reported $2,922,300 $2,715,200 $2,317,600 pro forma 2,600,557 2,522,468 2,194,856 Diluted net income per share as reported $1.86 $1.75 $1.51 pro forma 1.65 1.62 1.43 - ---------------------------------------------------------- 38 Notes to Consolidated Financial Statements Stock option activity, restated for the stock split and stock dividends issued during the year, is indicated below: Weighted Average Outstanding Exercise Price - ---------------------------------------------------------- Outstanding, January 1, 1996 40,597 $ 9.36 Granted 28,015 12.51 - ---------------------------------------------------------- Outstanding, December 31, 1996 68,612 10.65 Granted 28,308 18.37 - ---------------------------------------------------------- Outstanding, December 31, 1997 96,920 12.91 Granted 33,810 33.57 Exercised (315) 9.36 - ---------------------------------------------------------- Outstanding December 31, 1998 130,415 $18.27 - ---------------------------------------------------------- The weighted average price and weighted average remaining contractual life for the outstanding options are listed below for the dates indicated. All outstanding options are exercisable. December 31, 1998 - ---------------------------------------------------------- Range of Number Weighted Average Exercise Prices Outstanding Remaining Contractual Life - ---------------------------------------------------------- $ 9.36 - $12.63 68,297 6.9 years 18.37 28,308 8.5 years 33.57 33,810 9.5 years --------- 130,415 7.9 years - ---------------------------------------------------------- December 31, 1997 - ---------------------------------------------------------- Range of Number Weighted Average Exercise Prices Outstanding Remaining Contractual Life - ---------------------------------------------------------- $ 9.36 - $12.63 68,612 7.9 years 18.37 28,308 9.5 years -------- 96,920 8.4 years - ---------------------------------------------------------- (13) COMMITMENTS, CONTINGENT LIABILITIES AND OFF-BALANCE-SHEET RISK In the normal course of business, various commitments and contingent liabilities are outstanding, such as guarantees and commitments to extend credit, which are not reflected in the consolidated financial statements. Management does not anticipate any significant losses as a result of these commitments. DNB had outstanding standby letters of credit in the amount of approximately $2.2 million and unfunded loan and lines of credit commitments in the amount of approximately $22.6 million at December 31, 1998. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized on the balance sheet. The exposure to credit loss in the event of non-performance by the party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount. Management uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. Standby letters of credit are conditional commitments issued by DNB to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risks involved in issuing letters of credit are essentially the same as those involved in extending loan facilities to customers. DNB holds various collateral to support these commitments. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. DNB evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral, if any, obtained upon the extension of credit, usually consists of real estate, but may include securities, property or other assets. DNB maintains borrowing arrangements with a correspondent bank and the FHLB of Pittsburgh, as well as access to the discount window at the Federal Reserve Bank of Philadelphia to meet short-term liquidity needs. Through these relationships, DNB has available short-term credit of approximately $79.5 million. 39 Notes to Consolidated Financial Statements DNB is a party to a number of lawsuits arising in the ordinary course of business. While any litigation causes an element of uncertainty, management is of the opinion that the liability, if any, resulting from the actions, will not have a material effect on the accompanying financial statements. (14) PARENT COMPANY FINANCIAL INFORMATION Condensed financial information of DNB Financial Corporation (parent company only) follows: Condensed Statements of Financial Condition December 31 1998 1997 - -------------------------------------------------------------- Assets Investment in subsidiary $20,606,218 $18,355,563 - -------------------------------------------------------------- Total assets $20,606,218 $18,355,563 - -------------------------------------------------------------- Liabilities and Stockholders' Equity Liabilities Dividends payable to stockholders $ -- $ -- - -------------------------------------------------------------- Total liabilities -- -- - -------------------------------------------------------------- Stockholders' Equity Total stockholders' equity 20,606,218 18,355,563 - -------------------------------------------------------------- Total liabilities and stockholders' equity $20,606,218 $18,355,563 - -------------------------------------------------------------- Condensed Statements of Operations Year Ended December 31 1998 1997 1996 - ------------------------------------------------------------------------ Income: Dividends from subsidiary $ 706,726 $ 618,291 $ 372,224 Equity in undistributed income of subsidiary 2,215,574 2,096,909 1,945,376 - ------------------------------------------------------------------------ Net income $2,922,300 $2,715,200 $2,317,600 - ------------------------------------------------------------------------ Condensed Statements of Cash Flows Year Ended December 31 1998 1997 1996 - ---------------------------------------------------------------------------- Cash Flows From Operating Activities: Net income $ 2,922,300 $ 2,715,200 $ 2,317,600 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed income of subsidiary (2,215,574) (2,096,909) (1,945,376) - ---------------------------------------------------------------------------- Net Cash Provided by Operating Activities 706,726 618,291 372,224 - ---------------------------------------------------------------------------- Cash Flows From Financing Activities: Dividends paid (706,726) (618,291) (372,224) Net Cash Used in Financing Activities (706,726) (618,291) (372,224) - ---------------------------------------------------------------------------- Net Change in Cash and Cash Equivalents $-- $-- $-- - ---------------------------------------------------------------------------- (15) REGULATORY MATTERS Dividends payable to the Corporation by the Bank are subject to certain regulatory limitations. Under normal circumstances, the payment of dividends in any year without regulatory permission is limited to the net profits (as defined for regulatory purposes) for that year, plus the retained net profits for the preceding two calendar years, which amounted to $6.3 million for the year ended December 31, 1998. Federal banking agencies impose three minimum capital requirements on DNB - -- risk-based capital ratios based on total capital and "Tier 1" capital, and a leverage capital ratio. The risk- based capital ratios measure the adequacy of a bank's capital against the riskiness of its assets and off-balance sheet activities. Failure to maintain adequate capital is a basis for "prompt corrective action" or other regulatory enforcement action. In assessing a bank's capital adequacy, regulators also consider other factors such as in- 40 Notes to Consolidated Financial Statements terest rate risk exposure; liquidity, funding and market risks; quality and level of earnings; concentrations of credit, quality of loans and investments; risks of any nontraditional activities; effectiveness of bank policies; and management's overall ability to monitor and control risks. Quantitative measures established by regulation to ensure capital adequacy require DNB to maintain certain minimum amounts and ratios as set forth below. Management believes that DNB meets all capital adequacy requirements to which it is subject. DNB is considered "Well Capitalized" under the regulatory framework for prompt corrective action. To be categorized as Well Capitalized, DNB must maintain minimum ratios as set forth below. There are no conditions or events since that notification, that management believes would have changed DNB's category. Actual capital amounts and ratios are presented below.
To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions - --------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Amount Ratio Amount Ratio Amount Ratio - --------------------------------------------------------------------------------------------------------------------- December 31, 1998: Total risk-based capital $22,909 12.35% $14,841 8.00% $18,552 10.00% Tier 1 capital 20,554 11.08 7,421 4.00 11,131 6.00 Tier 1 (leverage) capital 20,554 7.92 10,383 4.00 12,979 5.00 December 31, 1997: Total risk-based capital $20,123 14.43% $11,155 8.00% $13,944 10.00% Tier 1 capital 18,336 13.15 5,578 4.00 8,366 6.00 Tier 1 (leverage) capital 18,336 8.46 8,665 4.00 10,832 5.00
41 Independent Auditors' Report [KPMG Letterhead] The Board of Directors and Stockholders DNB Financial Corporation: We have audited the accompanying consolidated statements of financial condition of DNB Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the related consolidated statements of operations, stockholders' equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 1998. These consolidated financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of DNB Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1998 in conformity with generally accepted accounting principles. /s/ KPMG LLP January 15, 1999 Philadelphia, PA 42 DNB Financial Corporation and Subsidiary Dnb Financial Corporation Directors Robert J. Charles Chairman Vernon J. Jameson Vice Chairman Thomas R. Greenleaf William S. Latoff Joseph G. Riper Louis N. Teti Henry F. Thorne James H. Thornton Director Emeritus Ellis Y. Brown, III Paul F. DiMatteo I. Newton Evans, Jr. Ilario S. Polite Officers Henry F. Thorne President and CEO Ronald K. Dankanich Secretary Bruce E. Moroney Chief Financial Officer Downingtown National Bank Officers Henry F. Thorne President and CEO Richard L. Bergey Senior Vice President/ Senior Loan Officer Ronald K. Dankanich Senior Vice President/ Operations and Secretary J. William Erb Senior Vice President/ Investment Services and Trust Division Eileen M. Knott Senior Vice President/ Auditor and Compliance Officer Bruce E. Moroney Senior Vice President and CFO Joseph M. Stauffer Senior Vice President/ Retail Banking and Marketing Departments Elizabeth B. Barr Vice President/Construction Lending David L. Binder Vice President/Commercial Lending William W. Brown Vice President/Data Processing Elizabeth A. Cook Asst. Vice President/ Marketing Manager Dominick A. Frederick Vice President/Central Operations Charles H. Fulton Asst. Vice President/ Consumer Lending Richard V. Herbster Vice President/Commercial Lending Kenneth R. Kramer Vice President/Retail Lending Denise Lindsay Vice President/Controller Timothy J. Mahan Asst. Vice President/Audit Manager Charles S. Moore Vice President/Commercial Lending Tracy E. Panati Asst. Vice President/Human Resources M. Esther Popjoy Vice President/Reconcilements Barry A. Schmidt Vice President/Commercial Lending and Cash Management 43 DNB Financial Corporation and Subsidiary Corporate Headquarters 4 Brandywine Avenue Downingtown, PA 19335 Tel. 610-269-1040 Fax 610-873-5298 Internet http://www.dnb4you.com Financial Information Investors, brokers, security analysts and others desiring financial information should contact Bruce Moroney at 610-873-5253. Auditors KPMG LLP 1600 Market Street Philadelphia, PA 19103 Counsel Stradley, Ronon, Stevens and Young, LLP 30 Valley Stream Parkway Malvern, PA 19355 Registrar and Stock Transfer Agent Registrar and Transfer Company 10 Commerce Drive Cranford, NJ 07016 800-368-5948 Market Makers F. J. Morrissey & Company, Inc. 800-842-8928 Herzog, Heine, Geduld, Inc. 215-972-0860 Hopper Soliday & Company, Inc. 800-646-8647 Janney Montgomery Scott, Inc. 800-526-6397 Ryan Beck & Company 800-223-8969 Investment Services and Trust Division 610-269-4657 J. William Erb Sr.Vice President/Senior Trust Officer Cheryl T. Burkey Vice President/Trust Officer Community Offices Main Office 610-269-1040 Wanda G. Mize Vice President and Manager Caln Office 610-383-7562 Toni M. Miller Community Banking Officer and Manager East End Office 610-269-3800 Christine M. Beam Assistant Vice President and Manager Lionville Office 610-363-7590 Joseph J. Bucciaglia Vice President and Manager Little Washington Office 610-942-3666 John R. Rode Vice President and Manager Ludwig's Corner Office 610-458-5100 Anthony Rogevich Assistant Vice President and Manager Opening Soon: March, 1999 Kennett Square Office 215 E. Cypress Street Kennett Square, PA 19348 May, 1999 West Goshen Office 1115 West Chester Pike West Chester, PA 19381 44 EX-21 7 Exhibit 21 List of Subsidaries: Name Jurisdiction --------------------------- ------------------- Downingtown National Bank National Bank, PA Downco, Inc. PA EX-23 8 Consent of Independent Certified Public Accountants The Board of Directors and Stockholders DNB Financial Corporation: We consent to incorporation by reference in the registration statement (No. 33-93272) on Form S-8 of DNB Financial Corporation of our report dated January 15, 1999, relating to the consolidated statements of financial condition of DNB Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the related consolidated statements of operations, stockholders' equity and comprehensive income and cash flows for each of the years in the three-year period ended December 31, 1998, which report appears in the December 31, 1998 annual report on Form 10-K of DNB Financial Corporation. /s/ KPMG LLP KPMG LLP March 24, 1999 Philadelphia, Pennsylvania EX-27 9
9 0000713671 DNB FINANCIAL CORPORATION Year DEC-31-1998 DEC-31-1998 7,707,533 5,952,616 6,171,000 0 45,519,420 47,380,404 47,528,269 148,725,716 5,204,869 265,418,431 225,373,332 0 1,438,881 18,000,000 0 0 1,524,229 19,081,989 265,418,431 12,091,896 4,953,771 857,093 17,902,760 7,795,371 8,266,311 9,636,449 0 4,682 6,968,652 4,174,300 2,922,300 0 0 2,922,300 1.92 1.86 7.77 2,416,439 699,342 0 6,548,000 5,280,958 303,005 226,916 5,204,869 5,204,869 0 0
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