10-Q 1 k76799e10vq.txt QUARTERLY REPORT U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2003 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to . Commission File No. 000-26719 MERCANTILE BANK CORPORATION (Exact name of small business issuer as specified in its charter) Michigan 38-3360865 (State or other jurisdiction of (IRS Employer Identification No.) incorporation or organization) 5650 BYRON CENTER AVENUE SW, WYOMING, MI 49509 (Address of principal executive offices) (616) 406-3777 (Registrant's telephone number, including area code) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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 --- --- At May 8, 2003, there were 5,423,887 shares of Common Stock outstanding. MERCANTILE BANK CORPORATION INDEX
PART I. Financial Information Page No. -------- Item 1. Financial Statements Consolidated Balance Sheets - March 31, 2003 (Unaudited) and December 31, 2002................................... 1 Consolidated Statements of Income and Comprehensive Income - Three Months Ended March 31, 2003 (Unaudited) and March 31, 2002 (Unaudited)......................................................... 2 Consolidated Statement of Changes in Shareholders' Equity - Three Months Ended March 31, 2003 (Unaudited) and March 31, 2002 (Unaudited)........................................................ 3 Consolidated Statements of Cash Flows - Three Months Ended March 31, 2003 (Unaudited) and March 31, 2002 (Unaudited)......................................................... 4 Notes to Consolidated Financial Statements (Unaudited)................................. 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................................. 12 Item 3. Quantitative and Qualitative Disclosures About Market Risk.................... 20 Item 4. Controls and Procedures....................................................... 22 PART II. Other Information Item 1. Legal Proceedings............................................................. 23 Item 2. Changes in Securities and Use of Proceeds..................................... 23 Item 3. Defaults upon Senior Securities............................................... 23 Item 4. Submission of Matters to a Vote of Security Holders........................... 23 Item 5. Other Information............................................................. 23 Item 6. Exhibits and Reports on Form 8-K.............................................. 23 Signatures............................................................................. 24 Certifications......................................................................... 25
MERCANTILE BANK CORPORATION CONSOLIDATED BALANCE SHEETS
March 31, December 31, 2003 2002 ---- ---- (Unaudited) ASSETS Cash and due from banks $ 28,091,000 $ 23,404,000 Short-term investments 203,000 213,000 Federal funds sold 0 4,500,000 --------------- ---------------- Total cash and cash equivalents 28,294,000 28,117,000 Securities available for sale 61,465,000 59,614,000 Securities held to maturity (fair value of $41,321,000 at March 31, 2003 and $37,985,000 at December 31, 2002) 39,168,000 36,493,000 Federal Home Loan Bank stock 786,000 786,000 Total loans 812,487,000 771,554,000 Allowance for loan and lease losses (11,406,000) (10,890,000) --------------- ---------------- Total loans, net 801,081,000 760,664,000 Premises and equipment, net 12,459,000 12,174,000 Bank owned life insurance policies 15,384,000 14,876,000 Accrued interest receivable 3,860,000 3,336,000 Other assets 5,290,000 5,795,000 --------------- ---------------- Total assets $ 967,787,000 $ 921,855,000 =============== ================ LIABILITIES AND SHAREHOLDERS' EQUITY Deposits Noninterest-bearing $ 68,858,000 $ 62,405,000 Interest-bearing 732,239,000 691,708,000 --------------- ---------------- Total deposits 801,097,000 754,113,000 Securities sold under agreements to repurchase 45,238,000 50,335,000 Federal funds purchased 2,000,000 0 Federal Home Loan Bank advances 15,000,000 15,000,000 Other borrowed money 839,000 576,000 Accrued expenses and other liabilities 6,083,000 5,997,000 Trust preferred securities 16,000,000 16,000,000 --------------- ---------------- Total liabilities 886,257,000 842,021,000 Shareholders' equity Preferred stock, no par value; 1,000,000 shares authorized, none issued Common stock, no par value: 9,000,000 shares authorized; 5,418,259 shares outstanding at March 31, 2003 and 5,405,706 shares outstanding at December 31, 2002 75,560,000 75,530,000 Retained earnings 5,050,000 3,250,000 Accumulated other comprehensive income 920,000 1,054,000 --------------- ---------------- Total shareholders' equity 81,530,000 79,834,000 --------------- ---------------- Total liabilities and shareholders' equity $ 967,787,000 $ 921,855,000 =============== ================
See accompanying notes to consolidated financial statements. 1. MERCANTILE BANK CORPORATION CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (Unaudited)
Three Months Three Months Ended Ended March 31, March 31, 2003 2002 ---- ---- Interest income Loans, including fees $ 11,443,000 $ 9,907,000 Investment securities 1,216,000 1,097,000 Federal funds sold and short-term investments 16,000 36,000 -------------- --------------- Total interest income 12,675,000 11,040,000 Interest expense Deposits 5,236,000 5,409,000 Federal Home Loan Bank advances 74,000 0 Short-term borrowings 171,000 201,000 Long-term borrowings 400,000 396,000 -------------- --------------- Total interest expense 5,881,000 6,006,000 -------------- --------------- NET INTEREST INCOME 6,794,000 5,034,000 Provision for loan and lease losses 625,000 460,000 -------------- --------------- NET INTEREST INCOME AFTER PROVISION FOR LOAN AND LEASE LOSSES 6,169,000 4,574,000 Noninterest income Service charges on accounts 269,000 194,000 Net gain on sales of securities 0 149,000 Other income 708,000 226,000 -------------- --------------- Total noninterest income 977,000 569,000 Noninterest expense Salaries and benefits 2,497,000 1,678,000 Occupancy 334,000 265,000 Furniture and equipment 221,000 173,000 Other expense 977,000 749,000 -------------- --------------- Total noninterest expenses 4,029,000 2,865,000 -------------- --------------- INCOME BEFORE FEDERAL INCOME TAX EXPENSE 3,117,000 2,278,000 Federal income tax expense 884,000 674,000 -------------- --------------- NET INCOME $ 2,233,000 $ 1,604,000 ============== =============== COMPREHENSIVE INCOME $ 2,099,000 $ 1,317,000 ============== =============== Basic earnings per share $ 0.41 $ 0.30 ============== =============== Diluted earnings per share $ 0.40 $ 0.29 ============== =============== Average basic shares outstanding 5,412,521 5,405,534 ============== =============== Average diluted shares outstanding 5,535,167 5,495,835 ============== ===============
See accompanying notes to consolidated financial statements. 2. MERCANTILE BANK CORPORATION CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (Unaudited)
Accumulated Other Total Common Retained Comprehensive Shareholders' Stock Earnings Income Equity ----- -------- ------ ------ BALANCE, JANUARY 1, 2002 $ 69,406,000 $ 1,649,000 $ 408,000 $ 71,463,000 Comprehensive income: Net income for the period from January 1, 2002 through March 31, 2002 1,604,000 1,604,000 Change in net unrealized gain (loss) on securities available for sale, net of reclassifications and tax effect (287,000) (287,000) ---------------- Total comprehensive income 1,317,000 Stock option exercise, 578 shares 6,000 6,000 Issuance costs from December 2001 common stock sale (15,000) (15,000) ---------------- --------------- ----------- ---------------- BALANCE, MARCH 31, 2002 $ 69,397,000 $ 3,253,000 $ 121,000 $ 72,771,000 ================ =============== =========== ================ BALANCE, JANUARY 1, 2003 $ 75,530,000 $ 3,250,000 $ 1,054,000 $ 79,834,000 Comprehensive income: Net income for the period from January 1, 2003 through March 31, 2003 2,233,000 2,233,000 Change in net unrealized gain (loss) on securities available for sale, net of reclassifications and tax effect (134,000) (134,000) ---------------- Total comprehensive income 2,099,000 Cash dividend (433,000) (433,000) Employee stock purchase plan, 442 shares 10,000 10,000 Stock option exercises, 12,111 shares 20,000 20,000 ---------------- --------------- ----------- ---------------- BALANCE, MARCH 31, 2003 $ 75,560,000 $ 5,050,000 $ 920,000 $ 81,530,000 ================ =============== =========== ================
See accompanying notes to consolidated financial statements. 3. MERCANTILE BANK CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
Three Months Three Months Ended Ended March 31, March 31, 2003 2002 ---- ---- CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 2,233,000 $ 1,604,000 Adjustments to reconcile net income to net cash from operating activities Depreciation and amortization 451,000 301,000 Provision for loan and lease losses 625,000 460,000 Net gain on sale of securities 0 (149,000) Net change in: Accrued interest receivable (524,000) (360,000) Bank owned life insurance policies (208,000) (45,000) Other assets 516,000 307,000 Accrued expenses and other liabilities 86,000 212,000 --------------- ---------------- Net cash from operating activities 3,179,000 2,330,000 CASH FLOWS FROM INVESTING ACTIVITIES Loan originations and payments, net (41,042,000) (34,082,000) Purchases of: Securities available for sale (8,749,000) (11,877,000) Securities held to maturity (2,681,000) (2,071,000) Proceeds from: Sales of available for sale securities 0 10,572,000 Maturities, calls and repayments of available for sale securities 6,574,000 4,960,000 Purchases of premises and equipment, net (551,000) (627,000) Purchases of bank owned life insurance policies (300,000) 0 --------------- ---------------- Net cash from investing activities (46,749,000) (33,125,000) CASH FLOWS FROM FINANCING ACTIVITIES Net increase in deposits 46,984,000 26,899,000 Stock option exercises 20,000 6,000 Employee stock purchase plan 10,000 0 Issuance costs of prior period common stock sale 0 (15,000) Payment of cash dividend (433,000) 0 Net increase in federal funds purchase 2,000,000 0 Net increase in other borrowed money 263,000 167,000 Net increase (decrease) in securities sold under agreements to repurchase (5,097,000) 788,000 --------------- ---------------- Net cash from financing activities 43,747,000 27,845,000 --------------- ---------------- Net change in cash and cash equivalents 177,000 (2,950,000) Cash and cash equivalents at beginning of period 28,117,000 19,938,000 --------------- ---------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 28,294,000 $ 16,988,000 =============== ================ Supplemental disclosures of cash flow information Cash paid during the period for: Interest $ 5,430,000 $ 5,462,000 Federal income tax 225,000 0
See accompanying notes to consolidated financial statements. 4. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. SIGNIFICANT ACCOUNTING POLICIES: Basis of Presentation: The unaudited financial statements for the three months ended March 31, 2003 include the consolidated results of operations of Mercantile Bank Corporation and its consolidated subsidiaries. These subsidiaries include Mercantile Bank of West Michigan ("our bank"), our bank's three wholly owned subsidiaries, Mercantile Bank Mortgage Company ("our mortgage company"), Mercantile BIDCO, Inc. ("our BIDCO") and Mercantile Insurance Center, Inc. ("our insurance center"), and our subsidiary MBWM Capital Trust I ("the trust"). These consolidated financial statements have been prepared in accordance with the instructions for Form 10-Q and Item 303(b) of Regulation S-K and do not include all disclosures required by accounting principles generally accepted in the United States of America for a complete presentation of our financial condition and results of operations. In the opinion of management, the information reflects all adjustments (consisting only of normal recurring adjustments) which are necessary in order to make the financial statements not misleading and for a fair presentation of the results of operations for such periods. The results for the period ended March 31, 2003 should not be considered as indicative of results for a full year. For further information, refer to the consolidated financial statements and footnotes included in our annual report on Form 10-K for the year ended December 31, 2002. Stock Compensation: Employee compensation expense under stock option plans is reported using the intrinsic value method. No stock-based compensation cost is reflected in net income, as all options granted had an exercise price equal to or greater than the market price of the underlying common stock at date of grant. The following table illustrates the effect on net income and earnings per share if expense was measured using the fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation.
2003 2002 ---- ---- Net income as reported $ 2,233,000 $ 1,604,000 Deduct: Stock-based compensation expense determined under fair value based method 82,000 64,000 Pro forma net income 2,151,000 1,540,000 Basic earnings per share as reported $ 0.41 $ 0.30 Pro forma basic earnings per share 0.40 0.28 Diluted earnings per share as reported $ 0.40 $ 0.29 Pro forma diluted earnings per share 0.39 0.28
The pro forma effects are computed using option pricing models, using the following weighted-average assumptions as of grant date.
2003 2002 ---- ---- Risk-free interest rate 3.90% 5.25% Expected option life 7 Years 10 Years Expected stock price volatility 22% 29% Dividend yield 1.30% 0%
(Continued) 5. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 2. LOANS Our total loans at March 31, 2003 were $812.5 million compared to $771.6 million at December 31, 2002, an increase of $40.9 million, or 5.3%. The components of our outstanding balances at March 31, 2003 and December 31, 2002, and percentage increase in loans from the end of 2002 to the end of the first quarter 2003 are as follows:
Percent March 31, 2003 December 31, 2002 Increase/ Balance % Balance % (Decrease) ------- - ------- - ---------- (dollars in thousands) Real Estate: Construction and land development $ 116,062 14.3% $ 103,900 13.5% 11.7% Secured by 1 - 4 family properties 62,432 7.7 60,828 7.9 2.6 Secured by multi- family properties 15,632 1.9 13,025 1.7 20.0 Secured by nonresidential properties 379,205 46.7 357,431 46.3 6.1 Commercial 233,571 28.7 230,662 29.9 1.3 Leases 936 0.1 850 0.1 10.1 Consumer 4,649 0.6 4,858 0.6 (4.3) ----------- ----- ----------- ----- --- $ 812,487 100.0% $ 771,554 100.0% 5.3% =========== ===== =========== ===== ===
3. ALLOWANCE FOR LOAN AND LEASE LOSSES The following is a summary of the activity in our allowance for loan and lease losses account for the three months ended March 31:
2003 2002 ---- ---- Balance at January 1 $ 10,890,000 $ 8,494,000 Charge-offs (132,000) (93,000) Recoveries 23,000 64,000 Provision for loan and lease losses 625,000 460,000 -------------- --------------- Balance at March 31 $ 11,406,000 $ 8,925,000 ============== ===============
(Continued) 6. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 4. PREMISES AND EQUIPMENT, NET Premises and equipment are comprised of the following:
March 31, December 31, 2003 2002 ---- ---- Land and improvements $ 3,252,000 $ 3,234,000 Buildings and leasehold improvements 7,371,000 7,009,000 Furniture and equipment 4,498,000 4,327,000 -------------- --------------- 15,121,000 14,570,000 Less accumulated depreciation 2,662,000 2,396,000 -------------- --------------- Premises and equipment, net $ 12,459,000 $ 12,174,000 ============== ===============
Depreciation expense for the first quarter 2003 amounted to $266,000. 5. DEPOSITS Our total deposits at March 31, 2003 were $801.1 million compared to $754.1 million at December 31, 2002, an increase of $47.0 million, or 6.2%. The components of our outstanding balances at March 31, 2003 and December 31, 2002, and percentage increase in deposits from the end of 2002 to the end of the first quarter 2003 are as follows:
Percent March 31, 2003 December 31, 2002 Increase/ Balance % Balance % (Decrease) ------- - ------- - ---------- (dollars in thousands) Noninterest-bearing demand $ 68,858 8.6% $ 62,405 8.3% 10.3% Interest-bearing checking 25,254 3.2 28,130 3.7 (10.2) Money market 7,437 0.9 8,592 1.1 (13.4) Savings 69,081 8.6 69,461 9.2 (0.5) Time, under $100,000 7,318 0.9 7,002 0.9 4.5 Time, $100,000 and over 86,930 10.9 66,005 8.8 31.7 ----------- ----- ----------- ----- --- 264,878 33.1 241,595 32.0 9.6 Out-of-area time, under $100,000 89,675 11.2 85,557 11.4 4.8 Out-of-area time, $100,000 and over 446,544 55.7 426,961 56.6 4.6 ----------- ----- ----------- ----- --- 536,219 66.9 512,518 68.0 4.6 ----------- ----- ----------- ----- --- Total deposits $ 801,097 100.0% $ 754,113 100.0% 6.2% =========== ===== =========== ===== ===
(Continued) 7. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 6. SHORT-TERM BORROWINGS Information relating to our securities sold under agreements to repurchase follows:
March 31, December 31, 2003 2002 ---- ---- Outstanding balance at end of period $ 45,238,000 $ 50,335,000 Average interest rate at end of period 1.54% 1.54% Average balance during the period $ 44,572,000 $ 43,468,000 Average interest rate during the period 1.53% 2.03% Maximum month end balance during the period $ 45,238,000 $ 52,000,000
Securities sold under agreements to repurchase (repurchase agreements) generally have original maturities of less than one year. Repurchase agreements are treated as financings and the obligations to repurchase securities sold are reflected as liabilities. Securities involved with the agreements are recorded as assets of our bank and are primarily held in safekeeping by correspondent banks. Repurchase agreements are offered principally to certain large deposit customers as deposit equivalent investments. 7. COMMITMENTS AND OFF-BALANCE SHEET RISK Our bank is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. Loan 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. Standby letters of credit are conditional commitments issued by our bank to guarantee the performance of a customer to a third party. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized, if any, in the balance sheet. Our bank's maximum exposure to loan loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual notional amount of those instruments. Our bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. Collateral, such as accounts receivable, securities, inventory, property and equipment, is generally obtained based on management's credit assessment of the borrower. (Continued) 8. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) A summary of the notional or contractual amounts of our financial instruments with off-balance sheet risk at March 31, 2003 and December 31, 2002 follows:
March 31, December 31, 2003 2002 ---- ---- Commercial unused lines of credit $ 139,140,000 $ 131,161,000 Unused lines of credit secured by 1 - 4 family residential properties 13,191,000 12,381,000 Credit card unused lines of credit 6,885,000 5,824,000 Other consumer unused lines of credit 4,014,000 4,415,000 Commitments to make loans 42,360,000 24,267,000 Standby letters of credit 40,301,000 39,338,000 --------------- ---------------- $ 245,891,000 $ 217,386,000 =============== ================
8. REGULATORY MATTERS We are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings, and other factors, and the regulators can lower classifications in certain cases. Failure to meet various capital requirements can initiate regulatory action that could have a direct material effect on our financial statements. The prompt corrective action regulations provide five classifications, including well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and plans for capital restoration are required. (Continued) 9. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Our actual capital levels (dollars in thousands) and minimum required levels were:
Minimum Required to be Well Minimum Required Capitalized Under for Capital Prompt Corrective Actual Adequacy Purposes Action Regulations ------ ----------------- ------------------ Amount Ratio Amount Ratio Amount Ratio ------ ----- ------ ----- ------ ----- March 31, 2003 Total capital (to risk weighted assets) Consolidated $ 108,017 11.8% $ 73,290 8.0% $ 91,612 10.0% Bank 105,102 11.5 73,213 8.0 91,516 10.0 Tier 1 capital (to risk weighted assets) Consolidated 96,611 10.6 36,645 4.0 54,968 6.0 Bank 93,696 10.2 36,607 4.0 54,910 6.0 Tier 1 capital (to average assets) Consolidated 96,611 10.3 37,522 4.0 46,903 5.0 Bank 93,696 10.0 37,469 4.0 46,837 5.0 December 31, 2002 Total capital (to risk weighted assets) Consolidated $ 105,671 12.1% $ 69,862 8.0% $ 87,328 10.0% Bank 102,810 11.8 69,728 8.0 87,160 10.0 Tier 1 capital (to risk weighted assets) Consolidated 94,781 10.9 34,931 4.0 52,397 6.0 Bank 91,920 10.6 34,864 4.0 52,296 6.0 Tier 1 capital (to average assets) Consolidated 94,781 10.7 35,355 4.0 44,193 5.0 Bank 91,920 10.4 35,313 4.0 44,142 5.0
We were categorized as well capitalized at March 31, 2003 and year-end 2002. The trust sold 1.6 million Cumulative Preferred Securities ("trust preferred securities") at $10.00 per trust preferred security in a September 1999 offering. The proceeds from the sale were used by the trust to purchase an equivalent amount of subordinated debentures from the company. The trust preferred securities carry a fixed rate of 9.60%, have a stated maturity of 30 years, and, in effect, are guaranteed by the company. The securities are redeemable at par after 5 years. Distributions on the trust preferred securities are payable quarterly on January 15, April 15, July 15, and October 15. The first distribution was paid on October 15, 1999. Under certain circumstances, distributions may be deferred for up to 20 calendar quarters. However, during any such deferrals, interest accrues on any unpaid distributions at the rate of 9.60% per annum. (Continued) 10. MERCANTILE BANK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Our capital levels as of March 31, 2003 include an adjustment for the 1.6 million trust preferred securities issued by the trust subject to certain limitations. Federal Reserve guidelines limit the amount of trust preferred securities which can be included in our Tier 1 capital to 25% of total Tier 1 capital. As of March 31, 2003, the entire $16.0 million of the trust preferred securities were included as Tier 1 capital. Our and our bank's ability to pay cash and stock dividends is subject to limitations under various laws and regulations and to prudent and sound banking practices. We declared a 5% stock dividend on January 6, 2003, that was paid on February 3, 2003 to record holders as of January 17, 2003. Also on January 6, 2003, we declared a $0.08 per share cash dividend on our common stock, which was paid on March 10, 2003 to record holders as of February 10, 2003. That represented the first cash dividend on our common stock since our formation in 1997. On April 8, 2003, we declared a $0.08 per share cash dividend on our common stock, payable on June 10, 2003 to record holders as of May 12, 2003. 9. BENEFIT PLANS We sponsor an employee stock purchase plan which allows employees to defer after-tax payroll dollars and purchase our stock on a quarterly basis. We have registered 25,000 shares of common stock to be issued and purchased under the plan; however, the plan allows for shares to be purchased directly from us or on the open market. During the three months ended March 31, 2003, we issued the first 442 shares under the plan. 11. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENTS This report contains forward-looking statements that are based on management's beliefs, assumptions, current expectations, estimates and projections about the financial services industry, the economy, and about our company. Words such as "anticipates," "believes," "estimates," "expects," "forecasts," "intends," "is likely," "plans," "projects," variations of such words and similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions ("Future Factors") that are difficult to predict with regard to timing, extent, likelihood and degree of occurrence. Therefore, actual results and outcomes may materially differ from what may be expressed or forecasted in such forward-looking statements. We undertake no obligation to update, amend, or clarify forward looking statements, whether as a result of new information, future events (whether anticipated or unanticipated), or otherwise. Future Factors include changes in interest rates and interest rate relationships; demand for products and services; the degree of competition by traditional and non-traditional competitors; changes in banking regulation; changes in tax laws; changes in prices, levies, and assessments; the impact of technological advances; governmental and regulatory policy changes; the outcomes of contingencies; trends in customer behavior as well as their ability to repay loans; and changes in the national and local economy. These are representative of the Future Factors that could cause a difference between an ultimate actual outcome and a preceding forward-looking statement. INTRODUCTION The following discussion compares the financial condition of Mercantile Bank Corporation and its consolidated subsidiaries, Mercantile Bank of West Michigan ("our bank"), our bank's three wholly owned subsidiaries Mercantile Bank Mortgage Company ("our mortgage company"), Mercantile BIDCO, Inc. ("our BIDCO"), and Mercantile Insurance Center, Inc. ("our insurance company"), and our subsidiary MBWM Capital Trust I ("the trust"), at March 31, 2003 to December 31, 2002 and the results of operations for the three months ended March 31, 2003 and March 31, 2002. This discussion should be read in conjunction with the interim consolidated financial statements and footnotes included herein. Unless the text clearly suggests otherwise, references in this report to "us," "we," "our" or "the company" include Mercantile Bank Corporation and its consolidated subsidiaries referred to above. SUBSEQUENT EVENTS On April 30, 2003, our bank purchased an existing building situated on 2.75 acres of land located approximately two miles north of the center of downtown Grand Rapids for approximately $1.3 million. Subject to banking regulatory approvals, we plan to demolish the existing building and design and construct a four-story facility on this property. This facility will serve as the new location for our current downtown facility, and will house the administration and loan operations functions currently housed at other of our locations. Expected completion date of the new facility is late 2004 to early 2005. On April 14, 2003, our bank entered into a lease agreement with an unaffiliated third party to lease approximately 1,100 square feet in a facility located in Holland, Michigan. The facility will house a new retail mortgage loan production office scheduled to open by the end of the second quarter of 2003. The lease has an initial term of six months, with three six-month renewal options. 12. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FINANCIAL CONDITION During the first three months of 2003, assets increased from $921.9 million on December 31, 2002, to $967.8 million on March 31, 2003. This represents a total increase in assets of $45.9 million, or 5.0%. The asset growth was comprised primarily of a $40.4 million increase in net loans and $4.5 million increase in securities. The increase in total assets was primarily funded by $47.0 million growth in deposits and a $4.5 million decline in federal funds sold. Commercial loans increased by $39.5 million, or 5.6%, during the first three months of 2003, and at March 31, 2003 totaled $745.4 million, or 91.7% of the total loan portfolio. The continued significant concentration of the loan portfolio in commercial loans and the rapid growth of this portion of business is consistent with our stated strategy of focusing a substantial amount of efforts on "wholesale" banking. Corporate and business lending continues to be an area of expertise of our senior management team, and our eleven commercial lenders have over 170 years of combined commercial lending experience. Of each of the loan categories that we originate, commercial loans are the most efficiently originated and managed, thus reducing overhead costs by necessitating the attention of fewer employees. Our commercial lending business generates the greatest amount of local deposits, and it is virtually the only source of significant demand deposits. Residential mortgage loans increased by $1.6 million during the first three months of 2003, while the balance of our consumer loan portfolio declined by $0.2 million. As of March 31, 2003, residential mortgage and consumer loans totaled a combined $67.1 million, or 8.3% of the total loan portfolio. Although our non-commercial loan portfolios are expected to increase in future periods, given our wholesale banking strategy, the commercial sector of the lending efforts and resultant assets are expected to remain the dominant loan portfolio category. The quality of our loan portfolio remains strong. Net loan charge-offs during the first three months of 2003 totaled $109,000, or 0.06% of average total loans on an annualized basis. Past due loans and nonaccrual loans at March 31, 2003 totaled $533,000, or 0.07% of period-ending total loans. We believe we have instilled a very strong credit culture within the lending departments as it pertains to the underwriting and administration processes, which in part is reflected in the loan charge-off and delinquency ratios. Over 98% of the loan portfolio consists of loans extended directly to companies and individuals doing business and residing within our market area. The remaining portion is comprised of commercial loans participated with certain unaffiliated commercial banks outside of the immediate area, which are underwritten using the same underwriting criteria as though our bank was the originating bank. Securities increased by $4.5 million, or 4.7%, during the first three months of 2003. Purchases during the first three months of 2003 totaled $11.4 million, with maturities, calls and repayments totaling $6.6 million. There were no security sales during the first three months of 2003. Holdings of securities remained confined to U.S. Government Agency bonds, mortgage-backed securities issued or guaranteed by U.S. Government Agencies, investment grade tax-exempt municipal securities and Federal Home Loan Bank stock. 13. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Deposits increased $47.0 million during the first three months of 2003, totaling $801.1 million at March 31, 2003. Local deposits increased $23.3 million, or 9.6%, while out-of-area deposits increased $23.7 million, or 4.6%. As a percent of total deposits, local deposits increased from 32.0% on December 31, 2002, to 33.1% at March 31, 2003. Noninterest-bearing demand deposits, comprising 8.6% of total deposits, increased $6.5 million during the first three months of 2003. Savings deposits (8.6% of total deposits) decreased $0.4 million, interest-bearing checking accounts (3.2% of total deposits) decreased $2.9 million and money market deposit accounts (0.9% of total deposits) decreased $1.2 million during the first three months of 2003. Local certificates of deposit, comprising 11.8% of total deposits, increased by $21.2 million during the first three months of 2003. Out-of-area deposits totaled $536.2 million, or 66.9% of total deposits, as of March 31, 2003. Out-of-area deposits consist of certificates of deposit primarily obtained from depositors located outside our market area and placed by deposit brokers for a fee, but also include certificates of deposit obtained from the deposit owners directly. Out-of-area deposits are utilized to support our asset growth, and are generally a lower cost source of funds when compared to the interest rates that would have to be offered in the local market to generate a sufficient level of funds. During the first three months of 2003 rates paid on new out-of-area certificates of deposit were generally lower than rates paid on new certificates of deposit issued to local customers. In addition, the overhead costs associated with the out-of-area deposits are considerably less than the overhead costs that would be incurred to administer a similar level of local deposits. Although local deposits have and are expected to increase as new business, governmental and consumer deposit relationships are established and as existing customers increase their deposit accounts, the relatively high reliance on out-of-area deposits will likely remain. Securities sold under agreements to repurchase ("repurchase agreements") decreased by $5.1 million during the first three months of 2003. As part of our sweep account program, collected funds from certain business noninterest-bearing checking accounts are invested into over-night interest-bearing repurchase agreements. Although not considered a deposit account and therefore not afforded federal deposit insurance, the repurchase agreements have characteristics very similar to that of our business checking deposit accounts. LIQUIDITY Liquidity is measured by our ability to raise funds through deposits, borrowed funds, capital or cash flow from the repayment of loans and securities. These monies are used to fund loan requests, meet deposit withdrawals, maintain reserve requirements, and support our operations. Liquidity is primarily achieved through the growth of deposits (both local and out-of-area) and liquid assets such as securities available for sale, matured securities, and federal funds sold. Asset and liability management is the process of managing the balance sheet to achieve a mix of earning assets and liabilities that maximizes profitability, while providing adequate liquidity. 14. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Our liquidity strategy is to fund loan growth with deposits and repurchase agreements and to maintain an adequate level of short- and medium-term investments to meet typical daily loan and deposit activity. Although deposit and repurchase agreement growth from depositors located in our market area have consistently increased, the growth has not been sufficient to meet the substantial loan growth and provide monies for additional investing activities. To assist in providing the additional needed funds, we have regularly obtained certificates of deposit from customers outside of the market area and placed by deposit brokers for a fee, as well as certificates of deposit obtained from the deposit owners directly. As of March 31, 2003, out-of-area deposits totaled $536.2 million, or 63.4% of combined deposits and repurchase agreements, compared to $512.5 million, or 63.7% of combined deposits and repurchase agreements, as of December 31, 2002. Reliance on out-of-area deposits is expected to be ongoing due to our planned future growth. As a member of the Federal Home Loan Bank of Indianapolis ("FHLBI"), our bank has access to the FHLBI's borrowing programs. At March 31, 2003, advances from the FHLBI totaled $15.0 million, unchanged from total advances outstanding at December 31, 2002. Based on available collateral at March 31, 2003, our bank could borrow up to approximately $100.0 million. Our bank has the ability to borrow money on a daily basis through correspondent banks via established federal funds purchased lines; however, this is viewed as only a secondary and temporary source of funds and our bank was generally in a federal funds sold position during the first quarter of 2003. The average balance of federal funds purchased during the first three months of 2003 equaled $0.8 million, compared to a $5.4 million average federal funds sold position. At March 31, 2003 we were in a federal funds purchased position of $2.0 million, compared to a federal funds sold position of $4.5 million as of December 31, 2002. In addition to typical loan funding and deposit flow, we must maintain liquidity to meet the demands of certain unfunded loan commitments and standby letters of credit. As of March 31, 2003, our bank had a total of $205.6 million in unfunded loan commitments and $40.3 million in unfunded standby letters of credit. Of the total unfunded loan commitments, $163.2 million were commitments available as lines of credit to be drawn at any time as customers' cash needs vary, and $42.4 million were for loan commitments scheduled to close and become funded within the next three months. We monitor fluctuations in loan balances and commitment levels, and include such data in managing overall liquidity. CAPITAL RESOURCES Shareholders' equity is a noninterest-bearing source of funds that provides support for asset growth. Shareholders' equity increased by $1.7 million during the first three months of 2003, from $79.8 million on December 31, 2002, to $81.5 million at March 31, 2003. The increase is primarily attributable to net income of $2.2 million recorded during the first quarter of 2003. Shareholders' equity was negatively impacted during the first quarter of 2003 by the payment of cash dividends totaling $0.4 million and a $0.1 million mark-to-market adjustment for available for sale securities as defined in SFAS No. 115. In September 1999 we, through the trust, issued 1.6 million shares of trust preferred securities at $10.00 per trust preferred security. Substantially all of the net proceeds were contributed to our bank as capital and were used to support growth in assets, fund investments in loans and securities, and for general corporate purposes. Although not part of shareholders' equity, subject to certain limitations the trust preferred securities are considered a component of capital for purposes of calculating regulatory capital ratios. At March 31, 2003, the entire $16.0 million of trust preferred securities were included as Tier 1 capital. 15. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS We are subject to regulatory capital requirements primarily administered by federal banking regulatory agencies. Failure to meet the various capital requirements can initiate regulatory action that could have a direct material effect on the financial statements. Since our bank commenced operations, both the company and our bank have been categorized as "Well Capitalized," the highest classification contained within the banking regulations. The capital ratios of the company and our bank as of March 31, 2003 and December 31, 2002 are disclosed under Note 8 of the Notes to Consolidated Financial Statements. Our and our bank's ability to pay cash and stock dividends is subject to limitations under various laws and regulations and to prudent and sound banking practices. We declared a 5% stock dividend on January 6, 2003, that was paid on February 3, 2003 to record holders as of January 17, 2003. Also on January 6, 2003, we declared a $0.08 per share cash dividend on our common stock, which was paid on March 10, 2003 to record holders as of February 10, 2003. That represented the first cash dividend on our common stock since our formation in 1997. On April 8, 2003, we declared a $0.08 per share cash dividend on our common stock, payable on June 10, 2003 to record holders as of May 12, 2003. RESULTS OF OPERATIONS Net income for the first quarter of 2003 was $2.2 million ($0.41 per basic share and $0.40 per diluted share), which represents a 39.2% increase over net income of $1.6 million ($0.30 per basic share and $0.29 per diluted share) recorded during the first quarter of 2002. The improvement in net income was primarily the result of an increase in net interest income, an improved net interest margin and higher noninterest income. Interest income during the first quarter of 2003 was $12.7 million, an increase of 14.8% over the $11.0 million earned during the first quarter of 2002. The growth in interest income is primarily attributable to an increase in earning assets, which more than offset the negative impact of a declining interest rate environment. During the first three months of 2003 earning assets averaged $892.7 million, $200.5 million higher than the average earning assets of $692.2 million during the same time period in 2002. Average loans were up $180.3 million and securities increased $23.2 million, while average federal funds sold were down $3.1 million. Negatively impacting the growth in interest income was the decline in yield on earning assets. During the first three months of 2003 and 2002, earning assets had a weighted average rate (tax equivalent-adjusted basis) of 5.84% and 6.55%, respectively. The decrease in the weighted average yield was primarily due to the continued decline in market interest rates, whereby many interest rate indices are currently near historical lows. Interest expense during the first quarter of 2003 was $5.9 million, a decrease of 2.1% from the $6.0 million expensed during the first quarter of 2002. The decrease in interest expense is primarily attributable to a decline in market interest rates, which more than offset an increase in interest-bearing liabilities necessitated by asset growth. During the first three months of 2003 interest-bearing liabilities averaged $796.8 million, $192.8 million higher than the average interest-bearing liabilities of $604.0 million during the same time period in 2002. Average interest-bearing deposits were up $169.0 million, FHLB advances increased $15.0 million and short term borrowings were up $8.4 million. Positively impacting interest expense was the decline in the cost of interest-bearing liabilities. During the first three months of 2003 and 2002, interest-bearing liabilities had a weighted average rate of 2.99% and 4.03%, respectively. The decrease was primarily due to the decline in market interest rates. 16. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Net interest income during the first quarter of 2003 was $6.8 million, an increase of 35.0% over the $5.0 million earned during the first quarter of 2002. The increase in net interest income was due to the growth in earning assets and improved net interest margin. The net interest margin increased from 3.03% during the first three months of 2002 to 3.17% during the first three months of 2003, primarily reflecting the overall positive impact of the declining and low interest rate environment. The following table sets forth certain information relating to our consolidated average interest earning assets and interest-bearing liabilities and reflects the average yield on assets and average cost of liabilities for the first quarter of 2003 and 2002. Such yields and costs are derived by dividing income or expense by the average daily balance of assets or liabilities, respectively, for the period presented. For tax-exempt securities interest income and yield have been computed on a tax equivalent basis using a marginal tax rate of 34%. 17. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Quarters ended March 31, ---------------------2 0 0 3--------------- --------------------2 0 0 2--------------- Average Average Average Average Balance Interest Rate Balance Interest Rate ------- -------- ---- ------- -------- ---- (dollars in thousands) Loans $ 786,406 $ 11,443 5.90 $ 606,065 $ 9,907 6.63 Investment securities 100,700 1,405 5.58 77,538 1,236 6.46 Federal funds sold 5,351 16 1.19 8,424 35 1.69 Short term investments 203 0 0.75 194 1 1.25 -------------- ------------ ---- -------------- ------------- ---- Total interest - earning assets 892,660 12,864 5.84 692,221 11,179 6.55 Allowance for loan and lease losses (11,175) (8,751) Other assets 56,558 36,696 -------------- -------------- Total assets $ 938,043 $ 720,166 ============== ============== Interest-bearing deposits $ 719,789 $ 5,236 2.95 $ 550,840 $ 5,409 3.98 Short-term borrowings 45,327 171 1.53 36,880 201 2.21 Federal Home Loan Bank advances 15,000 74 1.97 0 0 NA Long-term borrowings 16,713 400 9.57 16,309 396 9.73 -------------- ------------ ---- -------------- ------------- ---- Total interest-bearing liabilities 796,829 5,881 2.99 604,029 6,006 4.03 Noninterest-bearing deposits 55,048 38,874 Other liabilities 5,560 4,888 Shareholders' equity 80,606 72,375 -------------- ------------ ---- -------------- ------------- ---- Total liabilities and shareholders' equity $ 938,043 $ 720,166 ============== ============== Net interest income $ 6,983 $ 5,173 ============ ============= Net interest rate spread 2.85% 2.52% Net interest spread on average assets 3.02 2.91 Net interest margin on earning assets 3.17 3.03
Provisions to the allowance for loan and lease losses during the first quarter of 2003 were $625,000, compared to the $460,000 that was expensed during the first quarter of 2002. The increase primarily reflects the higher volume of loan growth and net loan charge-offs during the first three months of 2003 compared to the first three months of 2002. Net loan charge-offs of $109,000 were recorded during the first three months of 2003, compared to net loan charge-offs of $29,000 during the same time period in 2002. The allowance for loan and lease losses as a percentage of total loans outstanding as of March 31, 2003 was 1.40%, compared to 1.44% at March 31, 2002. 18. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS In each accounting period, the allowance for loan and lease losses is adjusted to the amount believed necessary to maintain the allowance for loan and lease losses at adequate levels. Through the loan review and credit departments, we attempt to allocate specific portions of the allowance for loan and lease losses based on specifically identifiable problem loans. The evaluation of the allowance for loan and lease losses is further based on, although not limited to, consideration of the internally prepared Loan Loss Reserve Analysis ("Reserve Analysis"), composition of the loan portfolio, third party analysis of the loan administration processes and loan portfolio and general economic conditions. In addition, the rapid loan growth since our inception is taken into account. The Reserve Analysis, used since the inception of our bank and completed monthly, applies reserve allocation factors to outstanding loan balances to calculate an overall allowance dollar amount. For commercial loans, which continue to comprise a vast majority of total loans, reserve allocation factors are based upon the loan ratings as determined by our comprehensive loan rating paradigm that is administered by our loan review function. For retail loans reserve allocation factors are based upon the type of credit. The reserve allocation factors are based on the experience of senior management making similar loans in the same community over the past 15 years. The Reserve Analysis is reviewed regularly by senior management and the Board of Directors and is adjusted periodically based upon identifiable trends and experience. Noninterest income during the first quarter of 2003 was $977,000, an increase of 71.7% over the $569,000 earned during the first quarter of 2002. Service charge income on deposit and repurchase agreements increased $75,000 (38.7%) during the first quarter of 2003 over that earned in the comparable time period in 2002 due primarily to new accounts opened during the last twelve months, a reduction of the earnings credit rate and modest increases in fee structure. Reflecting the declining interest rate environment and resulting increase in residential mortgage loan refinancings, fees earned on referring residential mortgage loan applicants to various third parties increased $184,000 (191.6%). Noninterest income related to the cash surrender value of bank owned life insurance policies ("BOLI") increased $164,000 (364.4%), primarily reflecting the $10.8 million purchase of additional BOLI subsequent to the end of the first quarter of 2002. Noninterest expense during the first quarter of 2003 was $4.0 million, an increase of 40.7% over the $2.9 million expensed during the first quarter of 2002. Employee salaries and benefits expense increased $819,000, primarily resulting from the hiring of additional staff and merit annual pay raises. The level of full-time equivalent employees increased from 101 at the end of the first quarter in 2002 to 128 at the end of the first quarter in 2003, an increase of 26.7%. Occupancy and furniture and equipment costs increased from $438,000 during the first quarter of 2002 to $555,000 during the first quarter of 2003, or 26.7%. A majority of this increase is related to our new branch facility located in Southeast Grand Rapids that opened in December of 2002. General overhead costs also increased, reflecting the additional expenses required to administer the significantly increased asset base. Monitoring and controlling noninterest costs, while at the same time providing high quality service to customers, is a key component to our business strategy. While the dollar volume of noninterest costs has increased, the rate of growth has been lower than the increase in net interest income and noninterest income. Noninterest expenses increased by $1.2 million during the first three months of 2003 over the amount expensed during the first three months of 2002; however, net revenues (net interest income plus noninterest income) increased at a substantially higher level of $2.2 million during the same time period. 19. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Federal income tax expense was $884,000 during the first three months of 2003, an increase of 31.2% over the $674,000 expensed in the first three months of 2002. The increase was primarily due to the higher level of net income before federal income tax. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk. All of our transactions are denominated in U.S. dollars with no specific foreign exchange exposure. We have only limited agricultural-related loan assets and therefore have no significant exposure to changes in commodity prices. Any impact that changes in foreign exchange rates and commodity prices would have on interest rates are assumed to be insignificant. Interest rate risk is the exposure of our financial condition to adverse movements in interest rates. We derive our income primarily from the excess of interest collected on our interest-earning assets over the interest paid on our interest-bearing liabilities. The rates of interest we earn on our assets and owe on our liabilities generally are established contractually for a period of time. Since market interest rates change over time, we are exposed to lower profitability if we cannot adapt to interest rate changes. Accepting interest rate risk can be an important source of profitability and shareholder value; however, excessive levels of interest rate risk could pose a significant threat to our earnings and capital base. Accordingly, effective risk management that maintains interest rate risk at prudent levels is essential to our safety and soundness. Evaluating the exposure to changes in interest rates includes assessing both the adequacy of the process used to control interest rate risk and the quantitative level of exposure. Our interest rate risk management process seeks to ensure that appropriate policies, procedures, management information systems and internal controls are in place to maintain interest rate risk at prudent levels with consistency and continuity. In evaluating the quantitative level of interest rate risk we assess the existing and potential future effects of changes in interest rates on our financial condition, including capital adequacy, earnings, liquidity and asset quality. We use two interest rate risk measurement techniques. The first, which is commonly referred to as GAP analysis, measures the difference between the dollar amounts of interest sensitive assets and liabilities that will be refinanced or repriced during a given time period. A significant repricing gap could result in a negative impact to our net interest margin during periods of changing market interest rates. The following table depicts our GAP position as of March 31, 2003 (dollars in thousands): 20. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Within Three to One to After Three Twelve Five Five Months Months Years Years Total ------ ------ ----- ----- ----- Assets: Commercial loans $ 302,457 $ 43,675 $ 363,817 $ 35,457 $ 745,406 Residential real estate loans 30,049 1,778 23,369 7,236 62,432 Consumer loans 926 476 3,142 105 4,649 Investment securities (1) 1,011 2,386 42,203 55,819 101,419 Short-term investments 203 203 Allowance for loan and lease losses (11,406) (11,406) Other assets 65,084 65,084 ----------- ----------- ----------- ----------- ----------- Total assets 334,646 48,315 432,531 152,295 967,787 Liabilities: Interest-bearing checking 25,254 25,254 Savings 69,081 69,081 Money market accounts 7,437 7,437 Time deposits less than $100,000 20,685 39,975 36,333 96,993 Time deposits $100,000 and over 129,151 266,889 137,434 533,474 Short-term borrowings 47,238 47,238 FHLB advances 10,000 5,000 15,000 Long-term borrowings 839 16,000 16,839 Noninterest-bearing checking 68,858 68,858 Other liabilities 6,083 6,083 ----------- ----------- ----------- ----------- ----------- Total liabilities 299,685 316,864 178,767 90,941 886,257 Shareholders' equity 81,530 81,530 ----------- ----------- ----------- ----------- ----------- Total sources of funds 299,685 316,864 178,767 172,471 967,787 ----------- ----------- ----------- ----------- ----------- Net asset (liability) GAP $ 34,961 $ (268,549) $ 253,764 $ (20,176) =========== =========== =========== =========== Cumulative GAP $ 34,961 $ (233,588) $ 20,176 =========== =========== =========== Percent of cumulative GAP to total assets 3.6% (24.1)% 2.1% =========== =========== ===========
(1) Mortgage-backed securities are categorized by expected final maturities based upon prepayment trends as of March 31, 2003 The second interest rate risk measurement we use is commonly referred to as net interest income simulation analysis. We believe that this methodology provides a more accurate measurement of interest rate risk than the GAP analysis, and therefore, serves as our primary interest rate risk measurement technique. The simulation model assesses the direction and magnitude of variations in net interest income resulting from potential changes in market interest rates. Key assumptions in the model include prepayment speeds on various loan and investment assets; cash flows and maturities of interest sensitive assets and liabilities; and changes in market conditions impacting loan and deposit volume and pricing. These assumptions are inherently uncertain, subject to fluctuation and revision in a dynamic environment; therefore, the model cannot precisely estimate net interest income or exactly predict the impact of higher or lower interest rates on net interest income. Actual results will differ from simulated results due to timing, magnitude, and frequency of interest rate changes and changes in market conditions and our strategies, among other factors. 21. MERCANTILE BANK CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS We conducted multiple simulations as of March 31, 2003, whereby it was assumed that a simultaneous, instant and sustained change in market interest rates occurred. The following table reflects the suggested impact on our net interest income over the next twelve months, which are well within the policy parameters established to manage and monitor interest rate risk.
Dollar Change In Percent Change In Interest Rate Scenario Net Interest Income Net Interest Income ---------------------- ------------------- ------------------- Interest rates down 200 basis points $ 134,000 0.5% Interest rates down 100 basis points 687,000 2.3 No change in interest rates 1,046,000 3.5 Interest rates up 100 basis points 1,722,000 5.7 Interest rates up 200 basis points 2,408,000 8.0
The increase in our net interest income under all interest rate scenarios reflects the expected repricing of local and out-of-area certificates of deposit during the next twelve months. Unlike interest rates on our floating rate loans that have declined since the beginning of 2001 as market interest rates began to decline, our certificates of deposit have fixed interest rates and only reprice at maturity. Throughout most of the remainder of 2003 we have a large volume of certificates of deposit that will mature and are expected to be refinanced at lower interest rates. In addition to changes in interest rates, the level of future net interest income is also dependent on a number of other variables, including: the growth, composition and absolute levels of loans, deposits, and other earning assets and interest-bearing liabilities; economic and competitive conditions; potential changes in lending, investing, and deposit gathering strategies; client preferences; and other factors. ITEM 4. CONTROLS AND PROCEDURES As of March 31, 2003, an evaluation was performed under the supervision of and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, our management, including our Chief Executive Officer and Chief Financial Officer, concluded that our disclosure controls and procedures were effective as of March 31, 2003. There have been no significant changes in our internal controls or in other factors that could significantly affect internal controls subsequent to March 31, 2003. 22. PART II -- OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS. From time to time, we may be involved in various legal proceedings that are incidental to our business. In our opinion, we are not a party to any current legal proceedings that are material to our financial condition, either individually or in the aggregate. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS. Not applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES. Not applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Not applicable. ITEM 5. OTHER INFORMATION. Not applicable. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits:
EXHIBIT NO. EXHIBIT DESCRIPTION ----------- ------------------- 3.1 Our Articles of Incorporation are incorporated by reference to Exhibit 3.1 of our Registration Statement on Form SB-2 (Commission File no. 333-33081) that became effective on October 23, 1997 3.2 Our Amended and Restated Bylaws dated as of January 16, 2003 are incorporated by reference to Exhibit 3.2 of our Registration Statement on Form S-3 (Commission File No. 333-103376) that became effective on February 21, 2003 11 Statement re Computation of Per Share Earnings 99.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.2 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K. We filed no reports on Form 8-K during the quarter for which this report is filed. 23. 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, on May 8, 2003. MERCANTILE BANK CORPORATION By: /s/ Gerald R. Johnson Jr. --------------------------------- Gerald R. Johnson, Jr. Chairman of the Board and Chief Executive Officer (Principal Executive Officer) By: /s/ Charles E. Christmas --------------------------------- Charles E. Christmas Senior Vice President, Chief Financial Officer and Treasurer (Principal Financial and Accounting Officer) 24. CERTIFICATION I, Gerald R. Johnson, Jr., Chairman and Chief Executive Officer of Mercantile Bank Corporation, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Mercantile Bank Corporation (the "registrant"); 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 8, 2003 /s/ Gerald R. Johnson, Jr. ----------------------------- Gerald R. Johnson, Jr. Chairman and Chief Executive Officer 25. CERTIFICATION I, Charles E. Christmas, Senior Vice President, Chief Financial Officer and Treasurer of Mercantile Bank Corporation, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Mercantile Bank Corporation (the "registrant"); 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 8, 2003 /s/ Charles E. Christmas ---------------------------------------------- Charles E. Christmas. Senior Vice President, Chief Financial Officer and Treasurer 26. EXHIBIT INDEX
EXHIBIT NO. EXHIBIT DESCRIPTION ----------- ------------------- 3.1 Our Articles of Incorporation are incorporated by reference to Exhibit 3.1 of our Registration Statement on Form SB-2 (Commission File no. 333-33081) that became effective on October 23, 1997 3.2 Our Amended and Restated Bylaws dated as of January 16, 2003 are incorporated by reference to Exhibit 3.2 of our Registration Statement on Form S-3 (Commission File No. 333-103376) that became effective on February 21, 2003 11 Statement re Computation of Per Share Earnings 99.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.2 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
27.