10-Q 1 l08882ae10vq.txt DCB FINANCIAL CORP Page 1 of 25 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended: JUNE 30, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number: 0-22387 ----------- DCB Financial Corp ----------------------------------------------------------------- (Exact name of registrant as specified in its charter) Ohio 31-1469837 -------------------------------- ----------------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 110 Riverbend Avenue, Lewis Center, Ohio 43035 ---------------------------------------------- (Address of principal executive offices) (740) 657-7000 ---------------------------------------------- (Registrant's telephone number) Indicate by check mark whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --------- ---------- Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12B-2 of the Exchange Act). Yes X No --------- ---------- As of August 6, 2004, the latest practicable date, 3,934,760 shares of the registrant's no par value common stock were issued and outstanding. DCB FINANCIAL CORP FORM 10-Q QUARTER ENDED JUNE 30, 2004 Table of Contents PART I - FINANCIAL INFORMATION
ITEM 1 - Financial Statements Page ---- Consolidated Balance Sheets................................................................................. 3 Consolidated Statements of Income .......................................................................... 4 Consolidated Statements of Comprehensive Income............................................................. 5 Condensed Consolidated Statements of Cash Flows............................................................. 6 Notes to the Condensed Consolidated Financial Statements.................................................... 7 ITEM 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations.................................................................... 11 ITEM 3 - Quantitative and Qualitative Disclosures About Market Risk......................................... 16 ITEM 4 - Controls and Procedures ........................................................................... 17 PART II - OTHER INFORMATION................................................................................. 18 SIGNATURES ............................................................................................... 20
DCB FINANCIAL CORP CONSOLIDATED BALANCE SHEETS (Dollars in thousands) Item 1. Financial Statements --------------------
June 30, December 31, 2004 2003 --------- ------------ (unaudited) ASSETS Cash and due from financial institutions $ 19,839 $ 20,349 Securities available for sale 98,466 108,547 Loans held for sale 995 -- Loans and leases 438,394 404,947 Less allowance for loan and lease losses (4,575) (4,331) --------- --------- Net loans and leases 433,819 400,616 Premises and equipment, net 9,358 9,947 Investment in unconsolidated affiliates 195 1,951 Accrued interest receivable and other assets 12,637 11,887 --------- --------- Total assets $ 575,309 $ 553,297 ========= ========= LIABILITIES Deposits Noninterest-bearing $ 79,123 $ 78,477 Interest-bearing 358,455 363,875 --------- --------- Total deposits 437,578 442,352 Federal funds purchased and other short-term borrowings 10,848 4,619 Federal Home Loan Bank advances 72,846 49,693 Accrued interest payable and other liabilities 2,460 6,944 --------- --------- Total liabilities 523,732 503,608 SHAREHOLDERS' EQUITY Common stock, no par value, 7,500,000 shares authorized, 4,273,200 shares issued 3,780 3,780 Retained earnings 55,616 52,775 Treasury stock, 338,440 shares at June 30, 2004 and December 31, 2003 (7,616) (7,616) Accumulated other comprehensive income (loss) (203) 750 --------- --------- Total shareholders' equity 51,577 49,689 --------- --------- Total liabilities and shareholders' equity $ 575,309 $ 553,297 ========= =========
See notes to the consolidated financial statements. 3. DCB FINANCIAL CORP CONSOLIDATED STATEMENTS OF INCOME (Unaudited) (Dollars in thousands, except per share data)
Three Months Ended Six Months Ended June 30, June 30, -------- -------- 2004 2003 2004 2003 -------- -------- -------- -------- INTEREST AND DIVIDEND INCOME Loans, including fees $ 5,540 $ 5,706 $ 11,311 $ 11,459 Taxable securities 668 730 1,401 1,562 Tax-exempt securities 176 163 363 313 Federal funds sold and other 1 22 7 56 -------- -------- -------- -------- Total interest income 6,385 6,621 13,082 13,390 INTEREST EXPENSE Deposits 1,150 1,635 2,389 3,478 Borrowings 649 224 1,209 433 -------- -------- -------- -------- Total interest expense 1,799 1,859 3,598 3,911 NET INTEREST INCOME 4,586 4,762 9,484 9,479 Provision for loan and lease losses 443 355 821 688 -------- -------- -------- -------- NET INTEREST INCOME AFTER PROVISION FOR LOAN AND LEASE LOSSES 4,143 4,407 8,663 8,791 NONINTEREST INCOME Service charges 654 654 1,219 1,254 Trust department income 140 152 337 307 Net gains (losses) on sale of securities -- 4 (3) 17 Net gains (losses) on sale of assets (40) 293 (63) 297 Net gains on sale of loans 39 391 68 873 Net gain on sale of unconsolidated affiliate 2,638 -- 2,638 -- Cash management fees 131 114 255 264 Data processing servicing fees 68 112 131 235 Other 244 167 453 340 -------- -------- -------- -------- 3,874 1,887 5,035 3,587 NONINTEREST EXPENSE Salaries and other employee benefits 2,078 2,155 4,004 4,235 Occupancy and equipment 1,018 993 1,988 1,986 Professional services 74 340 139 410 Advertising 100 69 164 147 Postage, freight and courier 91 96 203 169 Supplies 88 83 123 119 State franchise taxes 137 121 264 241 Other 742 660 1,266 1,130 -------- -------- -------- -------- 4,328 4,517 8,151 8,437 -------- -------- -------- -------- INCOME BEFORE INCOME TAXES 3,689 1,777 5,547 3,941 Federal Income tax expense 1,131 569 1,683 1,235 -------- -------- -------- -------- NET INCOME $ 2,558 $ 1,208 $ 3,864 $ 2,706 ======== ======== ======== ======== Basic and diluted earnings $ 0.65 $ 0.31 $ 0.98 $ 0.67 per common share ======== ======== ======== ========
See notes to the consolidated financial statements. 4. DCB FINANCIAL CORP CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited) (Dollars in thousands, except per share data)
Three Months Ended Six Months Ended June 30, June 30, -------- -------- 2004 2003 2004 2003 ------- ------- ------- ------- Net income $ 2,558 $ 1,208 $ 3,864 $ 2,706 Less reclassification for realized (gains) losses on sale of securities included in operations, net of tax -- (3) 2 (11) Unrealized losses on securities available for sale, net of tax (1,169) (79) (955) (131) ------- ------- ------- ------- Comprehensive income $ 1,389 $ 1,126 $ 2,911 $ 2,564 ======= ======= ======= =======
See notes to the consolidated financial statements. 5. DCB FINANCIAL CORP CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Dollars in thousands)
Six Months Ended June 30, -------- 2004 2003 -------- -------- Gain on sale of unconsolidated affiliate $ (2,638) $ -- Increase (decrease) in accrued interest payable and other liabilities (4,484) 5,147 Other operating activities 4,876 6,041 -------- -------- CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES (2,246) 11,188 CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES Securities available for sale Purchases (23,437) (34,055) Maturities, principal payments and calls 10,378 25,056 Sales 21,091 14,158 Net change in loans (34,020) (17,064) Proceeds from sale of real estate -- 340 Proceeds from sale of unconsolidated affiliate 4,394 -- Premises and equipment expenditures (255) (127) -------- -------- Net cash flows used in investing activities (21,849) (11,692) CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES Net change in deposits (4,774) 3,787 Net change in federal funds and other short-term borrowings 6,229 -- Proceed (repayment) of Federal Home Loan Bank advances 23,153 (234) Purchase of treasury stock -- (5,540) Sale of treasury stock -- 67 Cash dividends paid (1,023) (768) -------- -------- Net cash provided by (used in) financing activities 23,585 (2,688) -------- -------- Decrease in cash and cash equivalents (510) (3,192) CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 20,349 32,503 -------- -------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 19,839 $ 29,311 ======== ======== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for Interest on deposits and borrowings $ 3,610 $ 3,963 Cash dividends declared but unpaid $ 626 $ 393
See notes to the consolidated financial statements. 6. DCB FINANCIAL CORP NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Dollars in thousands) NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES These interim financial statements are prepared without audit and reflect all adjustments which, in the opinion of management, are necessary to present fairly the financial position of DCB Financial Corp. (the "Corporation") at June 30, 2004, and its results of operations and cash flows for the three and six month periods ended June 30, 2004 and 2003. All such adjustments are normal and recurring in nature. The accompanying consolidated financial statements have been prepared in accordance with the instructions of Form 10-Q and, therefore, do not purport to contain all necessary financial disclosures required by accounting principles generally accepted in the United States of America that might otherwise be necessary in the circumstances, and should be read in conjunction with financial statements, and notes thereto, of the Corporation for the year ended December 31, 2003, included in its 2003 Annual Report. Refer to the accounting policies of the Corporation described in the Notes to Consolidated Financial Statements contained in the Corporation's 2003 Annual Report. The Corporation has consistently followed these policies in preparing this Form 10-Q. The accompanying consolidated financial statements include the accounts of the Corporation and its wholly-owned subsidiary, The Delaware County Bank and Trust Company (the "Bank"). All significant intercompany accounts and transactions have been eliminated in consolidation. Management considers the Corporation to operate within one business segment, banking. To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect amounts reported in the financial statements and disclosures provided, and future results could differ. The allowance for loan and lease losses, fair values of financial instruments and status of contingencies are particularly subject to change. Income tax expense is based on the effective tax rate expected to be applicable for the entire year. Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences between carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized. Earnings per common share is net income divided by the weighted average number of shares of common stock outstanding during the period. The weighted average number of common shares outstanding was 3,934,760 for the three and six months ended June 30, 2004. The weighted average number of common shares outstanding was 3,966,049 and 4,066,646 for the three and six months ended June 30, 2003. The Corporation has recently introduced and adopted a long-term stock option plan, which calls for the issuance of up to 300,000 shares. As of June 30, 2004, 14,917 shares have been granted, subject to the five year vesting schedule. Fair value of granted options are not disclosed due to materiality. There is no pro forma effect on earnings and earnings per share. APPLICATION OF CRITICAL ACCOUNTING POLICIES DCB's consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow general practices within the financial services industry. The application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. The most significant accounting policies followed by the Corporation are presented in Note 1 of Notes to Consolidated Financial Statements contained in the Corporation's 2003 Annual Report. These policies, along with the disclosures presented in the other financial statement notes and in this financial review, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. 7. DCB FINANCIAL CORP NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Dollars in thousands) NOTE 2 - SECURITIES The amortized cost and estimated fair values of securities available for sale were as follows:
Gross Gross Estimated Amortized Unrealized Unrealized Fair Cost Gains Losses Value ---- ----- ------ ----- --------------------June 30, 2004----------------- U.S. government agencies $ 27,638 $ 81 $ (311) $ 27,408 States and political subdivisions 19,742 296 (187) 19,851 Corporate bonds 8,143 5 (93) 8,055 Mortgage-backed and related securities 40,751 366 (496) 40,621 ---------- ---------- ----------- ---------- Total debt securities 96,274 748 (1,087) 95,935 Equity securities 2,499 32 -- 2,531 ---------- ---------- ---------- ---------- Total securities available for sale $ 98,773 $ 780 $ (1,087) $ 98,466 ========== ========== =========== ==========
The table below indicates the length of time individual securities have been in a continuous unrealized loss position at June 30, 2004:
(Less than 12 months) (12 months or longer) Total Description of Number of Fair Unrealized Number of Fair Unrealized Number of Fair Unrealized Securities investments value losses investments value losses investments value losses ---------- ----------- ----- ---------- ----------- ----- ---------- ----------- ----- ---------- (Dollars in thousands) U.S. Government and agency obligations 21 $ 18,700 $ (259) 2 $1,483 $(51) 23 $ 20,183 $ (311) State and municipal obligations 15 6,305 (165) 1 501 (23) 16 6,806 (187) Corporate bonds 2 7,920 (93) -- -- -- 2 7,920 (93) Mortgage-backed securities 70 22,470 (445) 4 2,053 (51) 74 24,523 (496) -- ------ ----- ---- ------- ------ -- ------ ----- Total temporarily impaired securities 108 $55,395 $(962) 7 $ 4,037 $ (125) 115 $59,432 $(1,087) === ======= ====== ==== ======= ======= === ======= ========
Management has the intent and ability to hold these securities for the foreseeable future and the decline in the fair value is primarily due to recent increases in market interest rates. The fair values are expected to recover as securities approach maturity dates. 8. DCB FINANCIAL CORP NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Dollars in thousands) Substantially all mortgage-backed securities are backed by pools of mortgages that are insured or guaranteed by the Federal National Mortgage Association ("FNMA"), the Government National Mortgage Association ("GNMA") or the Federal Home Loan Mortgage Corporation ("FHLMC"). At June 30, 2004, there were no holdings of securities of any one issuer, other than the U.S. government and its agencies, in an amount greater than 10% of shareholders' equity. The amortized cost and estimated fair value of debt securities at June 30, 2004, by contractual maturity, are shown below. Actual maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations. Mortgage-backed securities are shown separately since they are not due at a single maturity date.
Available for sale ------------------ Amortized Fair Cost Value ---- ----- Due in one year or less $ 1,238 $ 1,249 Due from one to five years 10,961 10,916 Due from five to ten years 17,645 17,508 Due after ten years 25,679 25,641 Mortgage-backed and related securities 40,751 40,621 ---------- ---------- $ 96,274 $ 95,935 ========== ==========
9. DCB FINANCIAL CORP NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Dollars in thousands) NOTE 3 - LOANS AND LEASES Loans and leases were as follows:
June 30, 2004 ----------- Commercial and industrial $ 49,722 Commercial real estate 160,821 Residential real estate and home equity 148,659 Real estate construction and land development 31,489 Consumer and credit card 44,649 Lease financing, net 2,489 ----------- 437,829 Add (deduct): Net deferred loan origination costs 747 Unearned income on leases (182) ----------- Total loans receivable $ 438,394 ===========
NOTE 4 - ALLOWANCE FOR LOAN AND LEASE LOSSES Activity in the allowance for loan and lease losses was as follows:
Three months ended Six months ended June 30, June 30, -------- -------- 2004 2003 2004 2003 ---- ---- ---- ---- Beginning balance of period $ 4,411 $ 4,226 $ 4,331 $ 4,094 Provision for loan losses 443 355 821 688 Loans charged off (332) (297) (688) (554) Recoveries 53 18 111 74 ------------ ------------ ------------ ------------ Balance at end of period $ 4,575 $ 4,302 $ 4,575 $ 4,302 ============ ============ ============ ============
Nonperforming loans were as follows:
June 30, December 31, 2004 2003 ---- ---- Loans past due 90 days or more and still accruing $ 1,392 $ 1,252 Nonaccrual loans 1,859 1,614
Impaired loans (most of which are included in nonperforming loans above) were as follows: Period-end loans with no allocated allowance for loan losses $ -- $ -- Period-end loans with allocated allowance for loan losses 442 1,813 ---------------- ----------------- Total $ 442 $ 1,813 ================ ================= Amount of the allowance for loan losses allocated $ 207 $ 580 ================ ================= Average of impaired loans during the period $ 547 $ 2,731 ================ =================
10. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) Item 2. Management's Discussion and Analysis of Financial Condition ----------------------------------------------------------- and Results of Operations ------------------------- INTRODUCTION In the following pages, management presents an analysis of the consolidated financial condition of DCB Financial Corp (the "Corporation") at June 30, 2004, compared to December 31, 2003, and the consolidated results of operations for the three and six months ended June 30, 2004, compared to the same periods in 2003. This discussion is designed to provide shareholders with a more comprehensive review of the operating results and financial position than could be obtained from reading the consolidated financial statements alone. This analysis should be read in conjunction with the consolidated financial statements and related footnotes and the selected financial data included elsewhere in this report. FORWARD-LOOKING STATEMENTS Certain statements in this report constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, such as statements relating to the financial condition and prospects, lending risks, plans for future business development and marketing activities, capital spending and financing sources, capital structure, the effects of regulation and competition, and the prospective business of both the Corporation and its wholly-owned subsidiary The Delaware County Bank & Trust Company (the "Bank"). Where used in this report, the word "anticipate," "believe," "estimate," "expect," "intend," and similar words and expressions, related to the Corporation or the Bank or their respective management, identify forward-looking statements. Such forward-looking statements reflect the current views of the Corporation and are based on information currently available to the management of the Corporation and the Bank and upon current expectations, estimates, and projections about the Corporation and its industry, management's belief with respect thereto, and certain assumptions made by management. These forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties, and other factors that could cause actual results to differ materially from those expressed or implied by such forward-looking statements. Potential risks and uncertainties include, but are not limited to: (i) significant increases in competitive pressure in the banking and financial services industries; (ii) changes in the interest rate environment which could reduce anticipated or actual margins; (iii) changes in political conditions or the legislative or regulatory environment; (iv) general economic conditions, either nationally or regionally (especially in central Ohio), becoming less favorable than expected resulting in, among other things, a deterioration in credit quality of assets; (v) changes occurring in business conditions and inflation; (vi) changes in technology; (vii) changes in monetary and tax policies; (viii) changes in the securities markets; and (ix) other risks and uncertainties detailed from time to time in the filings of the Corporation with the Commission. The Corporation does not undertake, and specifically disclaims any obligation, to publicly revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. ANALYSIS OF FINANCIAL CONDITION The Corporation's assets totaled $575,309 at June 30, 2004, compared to $553,297 at December 31, 2003, an increase of $22,012, or 3.98%. The increase is attributed to the Corporation's ability to continue to capture a growing share of the economic development activity with it's geographic region. This growth is mainly attributable to the increases in commercial and commercial real estate, in addition to residential real estate growth. Cash and cash equivalents decreased $510 from December 31, 2003 to June 30, 2004. This decline is mainly due to the use of cash and cash equivalents to fund loan growth. Total securities decreased $10,081, or 9.29%, from $108,547 at December 31, 2003 to $98,466 at June 30, 2004. The decrease was the result of the proceeds from sales, maturities, calls and principal repayments not being reinvested in order to fund loan growth. The Corporation invests primarily in U.S. Treasury notes, U.S. government agencies, municipal bonds, corporate obligations and mortgage-backed securities. 11. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) Mortgage-backed securities include Federal Home Loan Mortgage Corporation ("FHLMC"), Government National Mortgage Association ("GNMA") and Federal National Mortgage Association ("FNMA") participation certificates. At June 30, 2004, all securities were designated as available for sale. Management classifies securities as available for sale to provide the Corporation with the flexibility to move funds into loans as demand warrants. The mortgage-backed securities portfolio, totaling $40,621 at June 30, 2004, provides the Corporation with a constant cash flow stream from principal repayments and interest payments. The Corporation held no structured notes during any period presented. Total loans and leases increased $33,447, or 8.26%, to $438,394 at June 30, 2004 from $404,947 at December 31, 2003. The increase is attributed mainly to the continued growth of commercial and residential real estate and land development, which were partially off set by a general decline in various industrial and consumer lending categories. Other loan categories in which the Corporation participates, commercial, industrial, and consumer financing, remained relatively stable or experienced small declines in loans outstanding. The Bank's local market continues to experience increases in the amount of commercial real estate development activity. The Bank has no significant loan concentration in any one industry. Total deposits decreased $4,774, or 1.08%, to $437,578 at June 30, 2004 from $442,352 at December 31, 2003. This is mainly due to the reduction of money market deposit account balances which management believes is due to the competitive pricing on deposits in the Bank's marketplace. Noninterest-bearing deposits increased $646, or .82%, while interest-bearing deposits decreased $5,420, or 1.49%. Because of the decline in overall deposits, the Corporation has used other borrowings, generally FHLB borrowings, to fund its loan growth. Continued reliance on outside funding could increase the Corporation's overall cost of funds. COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 2004 AND JUNE 30, 2003 NET INCOME. Net income for the three months ended June 30, 2004 totaled $2,558, compared to net income of $1,208 for the same period in 2003. Earnings per share was $.65 for the three months ended June 30, 2004 compared to $.31 for the three months ended June 30, 2003. The increase in earnings is mainly attributed to the sale of the Corporation's investment in ProCentury, which resulted in a pre-tax gain of $2.6 million. NET INTEREST INCOME. Net interest income represents the amount by which interest income on interest-earning assets exceeds interest paid or accrued on interest-bearing liabilities. Net interest income is the largest component of the Corporation's income, and is affected by the interest rate environment, the volume, and the composition of interest-earning assets and interest-bearing liabilities. Net interest income was $4,586 for the three months ended June 30, 2004, compared to $4,762 for the same period in 2003. The $176 decrease in the second quarter 2004 compared to 2003 was mainly attributed to a depressed interest rate environment that has caused the spreads earned on the loan and investment portfolios to decline. The Asset/Liability Management Committee, which is responsible for determining deposit rates, continues to closely monitor the Bank's cost of funds to take advantage of pricing and cash flow opportunities. PROVISION AND ALLOWANCE FOR LOAN AND LEASE LOSSES. The provision for loan and lease losses totaled $443 for the three months ended June 30, 2004, compared to $355 for the same period in 2003. The growth in the provision is reflective of the overall growth in the Corporation's loan portfolio. Despite the strong loan growth, credit quality showed improvement. Non-accrual loans declined to $1.86 million at June 30, 2004 from $2.85 million at the end of the second quarter 2003. Net charge-offs for the three months ended June 30, 2004 and 2003 were $279. Annualized net charge-offs 12. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) for the three months ended June 30, 2004 were 26 basis points compared to 30 basis points for the same period in 2003. Delinquent loans over thirty days remained stable period to period, increasing slightly to 2.0% at June 30, 2004 from 1.92% at June 30, 2003. Management will continue to monitor the credit quality of the lending portfolio and will recognize additional provisions in the future to maintain the allowance for loan and lease losses at an appropriate level. The allowance for loan and lease losses totaled $4,575, or 1.04% of total loans and leases at June 30, 2004, compared to $4,331, or 1.07% of total loans and leases at December 31, 2003. NONINTEREST INCOME AND NONINTEREST EXPENSE. Total noninterest income increased $1,987, or 105.30%, for the three months ended June 30, 2004, compared to the same period in 2003. The increase was mainly a result of the sale of the organization's entire investment in ProCentury Corporation, a specialty property and casualty insurance holding company based in Westerville, Ohio, as part of ProCentury's initial public offering (IPO) on April 20, 2004. The Corporation originally bought into ProCentury as a passive investment to monitor and review the revenue stream and various products and services. The gain recognized on the sale of ProCentury investment was partially offset by a decrease in the volume of loans sold in the secondary market, which is mainly attributed to retaining these loans within the retail portfolios. In addition, transactional volume from the Bank's retail products remained at or below the previous year's levels. Total noninterest expense decreased $189, or 4.18%, for the three months ended June 30, 2004, compared to the same period in 2003. The decrease was primarily the result of decreases in salaries and employee benefits and professional and legal fees. Management has reduced staff through attrition, realignment and early retirement opportunities in order to reduce overall salary and benefit costs. The reduction in professional and legal fees is mainly attributed to non-recurring legal costs associated with shareholder matters in the second quarter 2003. INCOME TAXES. The provision for income taxes totaled $1,131, for an effective tax rate of 30.66%, for the three months ended June 30, 2004 and $569, for an effective tax rate of 32.02%, for the three months ended June 30, 2003. As stated previously, this decline in effective tax rate is primarily attributable to the increase in tax-exempt municipal security holdings and an increase in bank-owned life insurance contracts, whose earnings stream is tax-exempt. COMPARISON OF RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 2004 AND JUNE 30, 2003 NET INCOME. Net income for the six months ended June 30, 2004 totaled $3,864, compared to net income of $2,706 for the same period in 2003. Earnings per share was $.98 for the six months ended June 30, 2004 compared to $.67 for the six months ended June 30, 2003. The increase in earnings is mainly attributed to the sale of the Corporation's investment in ProCentury. NET INTEREST INCOME. Net interest income was $9,484 for the six months ended June 30, 2004, compared to $9,479 for the same period in 2003. The nominal $5 increase for the six months ended June 30, 2004, compared to the same period in 2003 was mainly attributed to a sluggish interest rate environment. The Corporation's interest bearing assets have increased year-to-year, but declining margins have reduced overall net interest income. This margin reduction is generally attributed to the current interest rate environment where loans have been repricing downward at a faster pace than deposit costs. PROVISION AND ALLOWANCE FOR LOAN AND LEASE LOSSES. The provision for loan and lease losses totaled $821 for the six months ended June 30, 2004, compared to $688 for the same period in 2003. The growth in the provision is reflective of the overall growth in the Corporation's loan portfolio, and to a lesser extent, the increase in net-charge offs between the two periods. Net charge-offs for the six months ended June 30, 2004 were $577 compared to net charge-offs 13. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) of $480 for the same period in 2003. Management will continue to monitor the credit quality of the lending portfolio and will recognize additional provisions in the future to maintain the allowance for loan and lease losses at an appropriate level. The allowance for loan and lease losses totaled $4,575, or 1.04% of total loans and leases at June 30, 2004, compared to $4,331, or 1.07% of total loans and leases at December 31, 2003. NONINTEREST INCOME AND NONINTEREST EXPENSE. Total noninterest income increased $1,448, or 40.38%, for the six months ended June 30, 2004, compared to the same period in 2003. The increase was mainly a result of the sale of the organization's entire investment in ProCentury Corporation, a specialty property and casualty insurance holding company based in Westerville, Ohio, as part of ProCentury's initial public offering (IPO) on April 20, 2004. The gain totaling $2.6 million recognized on the sale of ProCentury investment was offset by a decrease in the volume of loans sold in the secondary market, which is mainly attributed to retaining these loans within the retail portfolios. In addition, transactional volume from the Bank's retail products remained at or below the previous year's levels. Total noninterest expense decreased $286, or 3.39%, for the six months ended June 30, 2004, compared to the same period in 2003. The decrease was primarily the result of decreases in salaries and employee benefits, professional services and shareholder matters. Management has reduced staff through attrition, realignment and early retirement opportunities in order to reduce overall salary and benefit costs. INCOME TAXES. The provision for income taxes totaled $1,683, for an effective tax rate of 30.34%, for the six months ended June 30, 2004 and $1,235, for an effective tax rate of 31.34%, for the six months ended June 30, 2003. The decline in the effective tax rate is attributed to an increase in tax-exempt revenue derived from tax exempt securities and the earnings on bank-owned life insurance. LIQUIDITY Liquidity is the ability of the Corporation to fund customers' needs for borrowing and deposit withdrawals. The purpose of liquidity management is to assure sufficient cash flow to meet all of the financial commitments and to capitalize on opportunities for business expansion. This ability depends on the financial strength, asset quality and types of deposit and investment instruments offered by the Corporation to its customers. The Corporation's principal sources of funds are deposits, loan and security repayments, maturities of securities, sales of securities available for sale and other funds provided by operations. The Bank also has the ability to borrow from the FHLB. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and early loan and mortgage-backed security prepayments are more influenced by interest rates, general economic conditions, and competition. The Corporation maintains investments in liquid assets based upon management's assessment of (1) need for funds, (2) expected deposit flows, (3) yields available on short-term liquid assets and (4) objectives of the asset/liability management program. Cash and cash equivalents decreased $510, or 2.51%, to $19,839 at June 30, 2004 compared to $20,349 at December 31, 2003. Cash and equivalents represented 3.45% of total assets at June 30, 2004 and 3.68% of total assets at December 31, 2003. The Corporation has the ability to borrow funds from the Federal Home Loan Bank and has various correspondent banking partners to purchase overnight federal funds should the Corporation need to supplement its future liquidity needs. The Corporation also has the ability to issue brokered time deposits to supplement deposits raised from its customer base. Management believes the Corporation's liquidity position is adequate based on its current level of cash, cash equivalents, core deposits, the stability of its other funding sources and the support provided by its capital base. 14. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) CAPITAL RESOURCES Total shareholders' equity increased $1,888 between December 31, 2003 and June 30, 2004. The increase was primarily due to period earnings of $3,864, partially offset by $953 after-tax decrease in accumulated other comprehensive income and the declaration of $1,023 in dividends. Tier 1 capital is shareholders' equity excluding the unrealized gain or loss on securities classified as available for sale and intangible assets. Total capital includes Tier 1 capital plus the allowance for loan losses, not to exceed 1.25% of risk weighted assets. Risk weighted assets are the Corporation's total assets after such assets are assessed for risk and assigned a weighting factor defined by regulation based on their inherent risk. The Corporation and its subsidiaries meet all regulatory capital requirements. The ratio of total capital to risk-weighted assets was 11.86% at June 30, 2004, while the Tier 1 risk-based capital ratio was 10.90%. Regulatory minimums call for a total risk-based capital ratio of 8.0%, at least half of which must be Tier 1 capital. The Corporation's leverage ratio, defined as Tier 1 capital divided by average assets, was 8.98% at June 30, 2004. The following table sets forth the Corporation's obligations and commitments to make future payments under contract as of June 30, 2003.
PAYMENT DUE BY YEAR CONTRACTUAL OBLIGATIONS LESS THAN 1 MORE THAN 5 TOTAL YEAR 1-3 YEARS 3-5 YEARS YEARS Long-Term Debt Obligations $72,846 $ 8,000 $-- $ 5,947 $ 58,899 Capital Lease Obligations -- -- -- -- -- Operating Lease Obligations 5,278 372 817 652 3,437 Loan and Line of Credit Commitments 87,407 87,407 -- -- -- Other Long-Term Liabilities Reflected on the Corporation's Balance Sheet under GAAP -- -- -- -- -- --------- -------- ----- ------- -------- Total Contractual Obligations $ 165,531 $ 95,779 $ 817 $ 6,599 $ 62,336 ========= ======== ===== ======= ========
In the opinion of management, all loan commitments equal or exceed market rates of interest. 15. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) Item 3. Quantitative and Qualitative Disclosure About Market Risk ------------------------------------------------------------------ ASSET AND LIABILITY MANAGEMENT AND MARKET RISK The Corporation's primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk. Interest rate risk is the possibility that the Corporation's financial condition will be adversely affected due to movements in interest rates. The income of financial institutions is primarily derived from the excess of interest earned on interest-earning assets over the interest paid on interest-bearing liabilities. Accordingly, the Corporation places great importance on monitoring and controlling interest rate risk. The measurement and analysis of the exposure of the Corporation's primary operating subsidiary, The Delaware County Bank and Trust Company, to changes in the interest rate environment are referred to as asset/liability management. One method used to analyze the Corporation's sensitivity to changes in interest rates is the "net portfolio value" ("NPV") methodology. NPV is generally considered to be the present value of the difference between expected incoming cash flows on interest-earning and other assets and expected outgoing cash flows on interest-bearing and other liabilities. For example, the asset/liability model that the Corporation currently employs attempts to measure the change in NPV for a variety of interest rate scenarios, typically for parallel shifts of 100 to 300 basis points in market rates. The Corporation's 2003 Annual Report includes a table depicting the changes in the Corporation's interest rate risk as of December 31, 2003, as measured by changes in NPV for instantaneous and sustained parallel shifts of -100 to +300 basis points in market interest rates. Management believes that no events have occurred since December 31, 2003 that would significantly change their ratio of rate sensitive assets to rate sensitive liabilities. The Corporation's NPV is more sensitive to rising rates than declining rates. From an overall perspective, such difference in sensitivity occurs principally because, as rates rise, borrowers do not prepay fixed-rate loans as quickly as they do when interest rates are declining. Thus, in a rising interest rate environment, because the Corporation has fixed-rate loans in its loan portfolio, the amount of interest the Corporation would receive on its loans would increase relatively slowly as loans are slowly prepaid and new loans at higher rates are made. Moreover, the interest the Corporation would pay on its deposits would increase rapidly because the Corporation's deposits generally have shorter periods for repricing. The Corporation can utilize various tools to reduce exposure to changes in interest rates including offering floating versus fixed rate products, or utilizing interest rate swaps. Additional consideration should also be given to today's current interest rate levels. Several deposit products are within 200 basis points of zero percent and other products within 300 basis points. Should rates continue to decline, fewer liabilities could be repriced down to offset potentially lower yields on loans. Thus decreases could also impact future earnings and the Corporation's NPV. As with any method of measuring interest rate risk, certain shortcomings are inherent in the NPV approach. For example, although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Further, in the event of a change in interest rates, expected rates of prepayment on loans and mortgage-backed securities and early withdrawal levels from certificates of deposit would likely deviate significantly from those assumed in making risk calculations. 16. DCB FINANCIAL CORP MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share data) Item 4. Controls and Procedures -------------------------------- The Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of June 30, 2004, pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective as of June 30, 2004, in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company's periodic SEC filings. There was no change in the Company's internal control over financial reporting that occurred during the Company's fiscal quarter ended June 30, 2004, that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 17. DCB FINANCIAL CORP FORM 10-Q Quarter ended June 30, 2004 PART II - OTHER INFORMATION Item 1 - Legal Proceedings: There are no matters required to be reported under this item. Item 2 - Changes in Securities: There are no matters required to be reported under this item. Item 3 - Defaults Upon Senior Securities: There are no matters required to be reported under this item. Item 4 - Submission of Matters to a Vote of Security Holders: At the Annual Meeting of Shareholders held on May 20, 2004, there were 2,778,965 voting shares present in person or by proxy, which represented 70% of the Corporation's outstanding shares of 3,934,760 as of the record date for the meeting. At the Annual Meeting, two proposals were submitted to the shareholders for a vote. First, the shareholders of the Corporation were asked to consider the Corporation's nominees for directors and to elect four (4 ) directors to serve for a term of three (3) years. The Corporation's nominees for director were: Merrill L. Kaufman, Terry M. Kramer, Edward Powers, and Donald J. Wolf, each of whom were elected. The results of shareholder voting are as follows on all these matters: Issue 1 - Election of Directors: -------------------------------
Director Votes for Votes withheld Merril L. Kaufman 2,756,605 22,359 Terry M. Kramer 2,768,669 10,295 Edward Powers 2,760,272 18,692 Donald J. Wolf 2,766,089 12,875
Directors continuing in office are: Jeffrey T. Benton, Jerome J. Harmeyer, Vicki Lewis, G. William Parker, William R. Oberfield, Gary M. Skinner, and Adam Stevenson. Issue 2 - Long-Term Stock Incentive Plan: Adoption of the Company's long term stock incentive plan. Votes for Votes against 2,115,887 154,223 18. DCB FINANCIAL CORP FORM 10-Q Quarter ended June 30, 2004 PART II - OTHER INFORMATION Item 5 - Other Information: There are no matters required to be reported under this item. Item 6 - Exhibits and Reports on Form 8-K: (a) Exhibits - The following exhibits are filed as a part of this report: Exhibit No. Exhibit ----------- ------- 3.1 Amended and Restated Articles of Incorporation of DCB Financial Corp, incorporated by reference to the Company's Report on Form 10-Q filed with the Commission on November 14, 2003. 3.2 Amended and Restated Articles of Incorporation of DCB Financial Corp, incorporated by reference to the Company's Report on Form 10-Q filed with the Commission on November 14, 2003. 4. Instruments Defining the Rights of Security Holders. (See Exhibits 3.1 and 3.2.) 10 DCB Financial Corp 2004 Long Term Stock Incentive Plan, incorporated by reference to Appendix D of the Company's Definitive Proxy Statement filed with the Commission on April 14, 2004. 31.1 Certification pursuant to section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification pursuant to section 302 of the Sarbanes-Oxley Act of 2002 32.1 Certification pursuant to 18 U.S.C. 1350, as enacted pursuant to section 906 of the Sarbanes-Oxley Act of 2002 32.2 Certification pursuant to 18 U.S.C. 1350, as enacted pursuant to section 906 of the Sarbanes-Oxley Act of 2002 (a) Reports on Form 8-K - A report on Form 8-K was filed on April 22, 2004 (report date: 4/22/04) - first quarter 2004 earnings release. (b) Reports on Form 8-K - A report on Form 8-K was filed on April 26, 2004 (report date: 4/26/04) - Corporation's sale of its investment in ProCentury Corporation. (c) Reports on Form 8-K- A report on Form 8-K was filed on May 20, 2004 (report date: 5/20/04) - Corporation's special dividend to shareholders. (d) Reports on Form 8-K- A report on Form 8-K was filed on June 18, 2004 (report date: 6/18/04) - Corporations long term incentive plan. 19. DCB FINANCIAL CORP SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. DCB FINANCIAL CORP. ------------------- (Registrant) Date: August 6, 2004 /s/ Jeffrey Benton -------------- -------------------- (Signature) Jeffrey Benton President and Chief Executive Officer Date: August 6, 2004 /s/ John A. Ustaszewski -------------- ----------------------- (Signature) John A. Ustaszewski Vice President and Chief Financial Officer 20. DCB FINANCIAL CORP INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION PAGE NUMBER ------ ----------- ----------- 3.1 Amended and Restated Articles of Incorporation of DCB NA Financial Corp, incorporated by reference to the Company's Report on Form 10-Q filed with the Commission on November 14, 2003. 3.2 Amended and Restated Articles of Incorporation of DCB NA Financial Corp, incorporated by reference to the Company's Report on Form 10-Q filed with the Commission on November 14, 2003. 4 Instruments Defining the Rights of Security NA Holders. (See Exhibits 3.1 and 3.2.) 10 DCB Financial Corp 2004 Long Term Stock Incentive NA Plan, incorporated by reference to Appendix D of the Company's Definitive Proxy Statement filed with the Commission on April 14, 2004. 31.1 Certification of Chief Executive Officer pursuant Page 22 to section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of Chief Financial Officer pursuant to Page 23 section 302 of the Sarbanes-Oxley Act of 2002 32.1 Certification pursuant to 18 U.S.C. 1350, as enacted Page 24 Pursuant to section 906 of the Sarbanes-Oxley Act of 2002 32.2 Certification pursuant to 18 U.S.C. 1350, as enacted Page 25 Pursuant to section 906 of the Sarbanes-Oxley Act of 2002
21.