10-Q 1 k69388e10-q.txt FORM 10-Q FOR QUARTER ENDED MARCH 31, 2002 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended March 31, 2002 Commission file number 2-78178 -------------- ------- Southern Michigan Bancorp, Inc. ------------------------------- (Exact name of registrant as specified in its charter) Michigan 38-2407501 -------------------------------- ------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification incorporation or organization) Number) 51 West Pearl Street, Coldwater, Michigan 49036 ----------------------------------------- ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code -- (517) 279-5500 ------------- Indicate by check mark whether registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No. ----- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: Common Stock, $2.50 Par Value - 1,867,005 shares at April 30, 2002 (including shares held by ESOP) PART 1 - FINANCIAL INFORMATION ITEM 1. Financial Statements. CONDENSED CONSOLIDATED BALANCE SHEETS SOUTHERN MICHIGAN BANCORP, INC. AND SUBSIDIARY
March 31 December 31 2002 2001 -------------------------------------- (Unaudited) (A) (In thousands, except share and per share data) ASSETS Cash and due from banks $ 15,051 $ 23,432 Securities available for sale 53,366 61,531 Loans, net of allowance for loan losses of $2,146 (2001 - $2,065) 220,797 210,470 Premises and equipment 7,700 7,868 Other assets 13,924 13,795 -------------------------------------- TOTAL ASSETS $ 310,838 $ 317,096 ====================================== LIABILITIES AND SHAREHOLDERS' EQUITY Deposits: Non-interest bearing $ 43,166 $ 40,515 Interest bearing 206,366 220,568 -------------------------------------- 249,532 261,083 Federal funds purchased 5,750 - Accounts payable and other liabilities 4,340 4,943 Other long-term borrowings 24,820 24,000 -------------------------------------- 284,442 290,026 Common stock subject to repurchase obligation in ESOP 1,568 1,523 Shareholders' equity: Preferred stock, 100,000 shares authorized Common stock, $2.50 par value: Authorized--4,000,000 shares Issued--1,867,273 shares (2001 - 1,920,651) Outstanding--1,770,453 shares (2001 -1,822,102) 4,427 4,555 Capital surplus 8,895 9,652 Retained earnings 11,792 11,528 Accumulated other comprehensive income, net of tax 302 400 Unearned Employee Stock Ownership Plan shares (588) (588) -------------------------------------- TOTAL SHAREHOLDERS' EQUITY 24,828 25,547 -------------------------------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 310,838 $ 317,096 ======================================
(A) The balance sheet at December 31, 2001 has been derived from the audited consolidated financial statements at that date. See notes to condensed consolidated financial statements. -2- CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (UNAUDITED) SOUTHERN MICHIGAN BANCORP, INC. AND SUBSIDIARY
Three Months Ended March 31 2002 2001 ---------------------------------------- (In thousands, except per share amounts) Interest income: Loans, including fees $ 4,044 $ 4,933 Securities: Taxable 438 569 Tax exempt 252 202 Other - 34 -------------------------------------- Total interest income 4,734 5,738 Interest expense: Deposits 1,220 2,309 Other 433 455 -------------------------------------- Total interest expense 1,653 2,764 -------------------------------------- NET INTEREST INCOME 3,081 2,974 Provision for loan losses 275 375 -------------------------------------- NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 2,806 2,599 Non-interest income: Service charges on deposit accounts 263 260 Trust fees 148 143 Gain on sales of securities 4 6 Gain on sales of loans 252 204 Earnings on life insurance policies 51 53 Other 120 196 -------------------------------------- 838 862 -------------------------------------- Non-interest expense: Salaries and benefits 1,475 1,303 Occupancy 210 220 Equipment 356 263 Professional and outside services 195 99 Advertising and marketing 34 49 Other 670 629 -------------------------------------- 2,940 2,563 -------------------------------------- INCOME BEFORE INCOME TAXES 704 898 Federal income taxes 141 224 -------------------------------------- NET INCOME 563 674 Other comprehensive income/(loss), net of tax: (98) 445 -------------------------------------- COMPREHENSIVE INCOME $ 465 $ 1,119 ====================================== Basic and Diluted Earnings Per Share 0.30 0.35 ====================================== Dividends Declared Per Share 0.16 0.15 ======================================
See notes to condensed consolidated financial statements. -3- CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) SOUTHERN MICHIGAN BANCORP, INC. AND SUBSIDIARY
Three Months Ended March 31 2002 2001 -------------------------------------- (In thousands) OPERATING ACTIVITIES Net income $ 563 $ 674 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 275 375 Provision for depreciation 224 178 Amortization of intangible assets 26 30 Net realized gain on sales of securities (4) (6) Net change in: Loans held for sale 887 796 Other assets (104) 904 Accrued expenses and other liabilities (595) (392) -------------------------------------- Net cash provided by operating activities 1,272 2,559 INVESTING ACTIVITIES Proceeds from sales of securities 254 2,125 Proceeds from maturities of securities 11,016 5,732 Purchases of securities (3,250) (10,041) Increase in federal funds sold - (500) Net (increase) decrease in loans (11,489) 4,992 Net increase in premises and equipment (56) (1,062) -------------------------------------- Net cash provided by (used in) investing activities (3,525) 1,246 FINANCING ACTIVITIES Net increase (decrease) in deposits (11,551) 4,050 Increase (decrease) in federal funds purchased 5,750 (4,000) Increase (decrease) in long-term borrowings 820 (2,000) Common stock repurchased and retired (840) (1) Cash dividends (307) (330) -------------------------------------- Net cash used in financing activities (6,128) (2,281) -------------------------------------- Increase (decrease) in cash and cash equivalents (8,381) 1,524 Cash and cash equivalents at beginning of period 23,432 18,489 -------------------------------------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 15,051 $ 20,013 ======================================
See notes to condensed consolidated financial statements. -4- NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) SOUTHERN MICHIGAN BANCORP, INC. AND SUBSIDIARY March 31, 2002 NOTE A -- BASIS OF PRESENTATION The accompanying year-end balance sheet data was derived from audited consolidated financial statements, but does not include all disclosures required by generally accepted accounting principles. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 2001. Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. ESOP shares are considered outstanding for this calculation unless unearned. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options. Earnings and dividends per share are restated for all stock splits and dividends through the date of issue of the financial statements. The basic and diluted weighted average common shares outstanding for the three month period ended March 31, 2002 and 2001 were:
2002 2001 ---- ---- Basic 1,891,397 1,925,094 Diluted 1,891,702 1,925,094
-5- NOTE B - NEW ACCOUNTING PRONOUNCEMENTS On January 1, 2002, the Company adopted a new accounting standard which addresses accounting for goodwill and intangible assets arising from business combinations. Identifiable intangible assets must be separated from goodwill. Identifiable intangible assets with finite useful lives are amortized under the new standard, whereas unidentified intangible assets resulting from business combinations, both amounts previously recorded and future amounts purchased, cease being amortized. Annual impairment testing is required for goodwill with impairment being recorded if the carrying amount of goodwill exceeds its implied fair value. The Company's current intangible assets resulted from branch acquisitions. Current interpretations by the Financial Accounting Standards Board (FASB) requires the continued amortization of the core deposit intangibles and the unidentified intangibles resulting from branch acquisitions. However, the FASB is reconsidering their interpretation and it is possible that in the future there may no longer be a requirement to amortize the unidentified intangibles resulting from branch acquisitions. Adoption of this standard on January 1, 2002 did not have a material effect on the Company's financial statements. Intangible assets subject to amortization are as follows:
March 31, 2002 December 31, 2001 -------------- ----------------- Gross Accumulated Gross Accumulated Description Amount Amortization Amount Amortization ----------- ------ ------------ ------ ------------ Core deposit intangibles $ 559,000 $ 381,000 $ 559,000 $370,000 Unidentified intangibles 938,000 333,000 938,000 318,000 ---------- ---------- ---------- -------- Total $1,497,000 $ 714,000 $1,497,000 $688,000
Amortization expense for the first quarter of 2002 and 2001 was $26,000 and $30,000. Estimated annual amortization expense for the next five years is: 2002 $102,000 2003 102,000 2004 102,000 2005 102,000 2006 96,000
Statement of Financial Accounting Standards (SFAS)- In August 2001, the Financial Accounting Standards Board issued SFAS No. 143, "Accounting for Asset Retirement Obligations" which will be adopted by the Company on January 1, 2003. The new accounting standard addresses accounting for obligations associated with the retirement of tangible, long-lived assets and requires a liability to be recognized for the fair value of any such obligations. Adoption of this standard on January 1, 2003 is not expected to have a material effect on the Company's consolidated financial position or results of operations. -6- On January 1, 2002, the Company adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." This new accounting standard establishes more restrictive requirements for the classification of assets as "held for sale" and also expands the types of dispositions that are to be accounted for as discontinued operations. Adoption of this standard on January 1, 2002 did not have a material effect on the Company's consolidated financial position or results of operations. ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations FINANCIAL CONDITION Investment securities decreased by 13.3% during the first quarter of 2002. Funds received from maturing investment securities were used to fund additional loans. Net loans have increased by 4.9% in the first three months of 2002. The increase has occurred primarily in the commercial loan portfolio. Mortgage loans have increased slightly while installment loans continue to decline. There were $976,000 in loans held for sale as of March 31, 2002. In assessing the adequacy of the allowance for loan losses, management reviews the characteristics of the loan portfolio in order to determine the overall quality and risk profile. Some factors considered by management in determining the level at which the allowance is maintained include a continuing evaluation of those loans identified as being subject to possible problems in collection, results of examinations by regulatory agencies, current economic conditions and historical loan loss experience. The allowance for loan losses is being maintained at a level, which in management's opinion, is adequate to absorb probable incurred loan losses in the loan portfolio as of March 31, 2002. The allowance for loan losses was $2,146,000 or .97% of gross loans at March 31, 2002. As of December 31, 2001, the allowance for loan losses was $2,065,000 or ..98% of gross loans. As of March 31, 2002, non-performing loans (defined as loans on non-accrual status or 90 days or more past due) have decreased $72,000 or 2.7% from year end. There were no significant fixed asset commitments as of March 31, 2002. -7- Total deposits decreased by 4.4% during the first quarter of 2002. The Company has traditionally experienced a decline in deposits in the first quarter of the year. To provide a source of funding for loan growth the Company borrowed $5.8 million of federal funds purchased at March 31, 2002. During the first quarter of 2002, the Company repurchased approximately $840,000 worth of stock and retired it. This resulted in total capital decreasing from December 31, 2001. CAPITAL RESOURCES The Federal Reserve Board (FRB) has adopted risk-based capital guidelines applicable to the Company. These guidelines require that bank holding companies maintain capital commensurate with both on and off-balance-sheet credit risks of their operations. Under the guidelines, a bank holding company must have a minimum ratio of total capital to risk-weighted assets of 8.0 percent. In addition, a bank holding company must maintain a minimum ratio of Tier 1 capital equal to 4.0 percent of risk-weighted assets. Tier 1 capital includes common shareholders' equity, qualifying perpetual preferred stock and minority interest in equity accounts of consolidated subsidiaries less intangible assets. As a supplement to the risk-based capital requirements, the FRB has also adopted leverage capital ratio requirements. The leverage ratio requirements establish a minimum ratio of Tier 1 capital to total assets less intangible assets of 3 percent for the most highly rated bank holding companies. All other bank holding companies are required to maintain additional Tier 1 capital yielding a leverage ratio of 4 percent to 5 percent, depending on the particular circumstances and risk profile of the institution. The following table summarizes the Company's capital ratios as of March 31, 2002: Tier 1 risk-based capital ratio 10.60% Total risk-based capital ratio 11.50% Leverage ratio 8.09%
The above table indicates that the Company's capital ratios are above the regulatory minimum requirements. -8- RESULTS OF OPERATIONS Net Interest Income Net interest income increased by $107,000 for the three month period ended March 31, 2002 compared to the same period in 2001. Higher priced deposits matured during the last part of 2001 reducing interest costs which in turn increased the net interest margin. Provision for Loan Losses The provision for loan losses is based on an analysis of outstanding loans. In assessing the adequacy of the allowance, management reviews the characteristics of the loan portfolio in order to determine the overall quality and risk profile. Some factors considered by management in determining the level at which the allowance is maintained include a continuing evaluation of those loans identified as being subject to possible problems in collection, results of examinations by regulatory agencies, current economic conditions and historical loan loss experience. The first quarter 2002 provision for loan losses was $100,000 lower than the first quarter 2001 levels. A higher provision for loan losses was recorded in the first quarter of 2001 as the result of partially replenishing the allowance for loan losses for $948,000 in net charge-offs recorded during the first quarter of 2001. Non-interest Expense Non-interest expenses increased by $377,000 for the three month period ended March 31, 2002 compared to the same period in 2001. During the quarter salaries and employee benefits expense increased $172,000 compared to the same period in 2001. After the first quarter of 2001, the Company hired additional staff in Battle Creek to focus on this targeted market. The Company also hired additional mortgage originators who are paid commissions for work generated. The commissions for 2002 have exceeded the prior year first quarter commissions by over $50,000. The cost of employee benefits increased in 2002 as health insurance costs have dramatically increased. In addition to salaries and employee benefits increasing, the Company saw an increase in legal and other fees related to the resolution of a lawsuit, as well as an increase in equipment service contracts expense during the quarter. -9- ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's primary market risk exposure is interest rate risk and to a lesser extent, liquidity risk. Interest rate risk arises when the maturity or repricing characteristics of assets differ significantly from the maturity or the repricing characteristics of liabilities. Accepting this risk can be an important source of profitability and shareholder value, however, excessive levels of interest rate risk could pose a significant threat to the Company's earnings and capital base. Accordingly, effective risk management that maintains interest rate risk at prudent levels is essential to the Company's safety and soundness. The Company measures the impact of changes in interest rates on net interest income through a comprehensive analysis of the Bank's interest rate sensitive assets and liabilities. Interest rate sensitivity varies with different types of interest-earning assets and interest-bearing liabilities. Overnight federal funds and mutual funds on which rates change daily and loans which are tied to the prime rate or a comparable index differ considerably from long-term investment securities and fixed-rate loans. Similarly, certificates of deposit and money market investment accounts are much more interest sensitive than passbook savings accounts. The shorter term interest rate sensitivities are key to measuring the interest sensitivity gap, or excess interest-earning assets over interest-bearing liabilities. In addition to reviewing the interest sensitivity gap, the Company also analyzes projected changes in market interest rates and the resulting effect on net interest income. Liquidity management involves the ability to meet the cash flow requirements of customers who may be either depositors wanting to withdraw funds or borrowers needing assurance that sufficient funds will be available to meet their credit needs. Certain portions of the Bank's liabilities may be short-term or due on demand, while most of its assets may be invested in long-term loans or investments. Accordingly, the Company seeks to have in place sources of cash to meet short-term demands. These funds can be obtained by increasing deposits, borrowing or selling assets. Also, Federal Home Loan Bank advances and short-term borrowings provide additional sources of liquidity for the Company. There have been no significant changes in the distribution of the Company's financial instruments that are sensitive to changes in interest rates during the first quarter of 2002. -10- PART II - OTHER INFORMATION ITEM 1. Legal Proceedings. None. ITEM 2. Changes in Securities and Use of Proceeds. None. ITEM 3. Defaults Upon Senior Securities. None. ITEM 4. Submission of Matters to a Vote of Security Holders. None. ITEM 5. Other Information. None ITEM 6. Exhibits and Reports on Form 8-K. None. 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. Southern Michigan Bancorp, Inc. ------------------------------ (Registrant) MAY 9, 2002 JAMES T. GROHALSKI ----------- ---------------------------------- Date James T. Grohalski, President and Chief Executive Officer (Principal Financial and Accounting Officer) -11-