-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, APO6qHP+eVyOX4TpjNcKX9boELbCxv6NTidPEfPbFehiraGN9//tzSNelRb+HJ// GtD33OL7DdJtXNQcz3mD8A== 0000712537-98-000013.txt : 19980817 0000712537-98-000013.hdr.sgml : 19980817 ACCESSION NUMBER: 0000712537-98-000013 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19980630 FILED AS OF DATE: 19980814 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRST COMMONWEALTH FINANCIAL CORP /PA/ CENTRAL INDEX KEY: 0000712537 STANDARD INDUSTRIAL CLASSIFICATION: NATIONAL COMMERCIAL BANKS [6021] IRS NUMBER: 241428528 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-11138 FILM NUMBER: 98690763 BUSINESS ADDRESS: STREET 1: OLD COURTHOUSE SQUARE STREET 2: 22 N SIXTH ST CITY: INDIANA STATE: PA ZIP: 15701 BUSINESS PHONE: 4123497220 MAIL ADDRESS: STREET 1: 22 NORTH SIXTH STREET STREET 2: P.O. BOS 400 CITY: INDIANA STATE: PA ZIP: 15701 10-Q 1 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C 20549 ( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1998 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission File Number 0-11242 First Commonwealth Financial Corporation (Exact name of registrant as specified in its charter) Pennsylvania 25-1428528 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 22 North Sixth Street Indiana, PA 15701 (Address of principal executive offices) (Zip Code) 724-349-7220 (Registrant's telephone number, including area code) N/A (Former name, former address and former fiscal year, if changed since last report.) Indicate a check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No . Number of shares outstanding of issuer's common stock, $1.00 Par Value as of August 12, 1998 was 22,110,745. FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS Included in Part I of this report: PAGE First Commonwealth Financial Corporation and Subsidiaries Consolidated Balance Sheets . . . . . 3 Consolidated Statements of Income. . . . . . . . . 4 Consolidated Statements of Changes in Shareholders' Equity . . . . . . . . . . . . . . 5 Consolidated Statements of Cash Flows. . . . . . . 6 Notes to Consolidated Financial Statements . . . . 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS . . . . . . . . 9 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK . . . . . . . . . . . . . . . . . . . . . . . . 24 PART II - OTHER INFORMATION Other Information . . . . . . . . . . . . . . . . . . . . . . 25 Signatures . . . . . . . . . . . . . . . . . . . . Signature Page FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (UNAUDITED) (Dollars in thousands) June 30, December 31, 1998 1997 ASSETS Cash and due from banks on demand.... $ 66,524 $ 60,109 Interest-bearing deposits with banks. 7,117 4,985 Federal funds sold .................. 6,200 2,880 Securities available for sale, at market.............................. 606,996 396,631 Securities held to maturity, at cost, (market value $454,033 in 1998 and $462,086 in 1997).................. 451,462 460,063 Loans................................ 1,989,287 1,937,744 Unearned income.................... (11,050) (16,841) Allowance for possible credit losses (20,822) (19,766) Net loans....................... 1,957,415 1,901,137 Property and equipment............... 33,965 32,578 Other real estate owned.............. 1,936 1,788 Other assets......................... 71,221 69,144 TOTAL ASSETS.................... $3,202,836 $2,929,315 LIABILITIES Deposits (all domestic): Noninterest-bearing................ $ 167,326 $ 150,426 Interest-bearing................... 2,112,130 2,092,052 Total deposits.................. 2,279,456 2,242,478 Short-term borrowings................ 244,592 193,918 Other liabilities.................... 26,365 28,031 Long-term debt....................... 373,253 193,054 Total liabilities............... 2,923,666 2,657,481 SHAREHOLDER'S EQUITY Preferred stock, $1 par value per share, 3,000,000 shares authorized, none issued........................ -0- -0- Common stock $1 par value per share, 100,000,000 shares authorized; 22,436,628 shares issued; 22,100,633 and 22,046,326 shares outstanding in 1998 and 1997, respectively........ 22,437 22,437 Additional paid-in capital........... 75,738 76,171 Retained earnings.................... 187,422 181,137 Accumulated other comprehensive income 1,841 1,632 Treasury stock (335,995 shares at June 30, 1998 and 390,302 at December 31, 1997, at cost)........ (6,118) (7,107) Unearned ESOP shares................. (2,150) (2,436) Total shareholders' equity......... 279,170 271,834 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY.......... $3,202,836 $2,929,315 The accompanying notes are an integral part of these consolidated financial statements. 3 FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) (Dollars in thousands except per share data)
For the Quarter For the 6 Months Ended June 30, Ended June 30, 1998 1997 1998 1997 Interest Income Interest and fees on loans....... $41,110 $38,414 $81,362 $75,932 Interest and dividends on investments: Taxable interest............... 14,592 9,254 27,763 18,144 Interest exempt from Federal income taxes.................. 1,276 922 2,392 1,820 Dividends...................... 478 313 804 663 Interest on Federal funds sold... 3 3 5 6 Interest on bank deposits........ 41 90 70 177 Total interest income......... 57,500 48,996 112,396 96,742 Interest Expense Interest on deposits............. 23,511 22,486 46,658 43,885 Interest on short-term borrowings 3,237 1,626 6,008 3,228 Interest on long-term debt....... 5,205 726 9,129 1,381 Total interest expense........ 31,953 24,838 61,795 48,494 Net Interest Income................ 25,547 24,158 50,601 48,248 Provision for possible credit losses.......................... 1,950 1,390 3,750 2,631 Net interest income after provision for possible credit losses....... 23,597 22,768 46,851 45,617 Other Income Securities gains................. -0- 1,039 982 2,797 Trust income..................... 907 700 1,705 1,391 Service charges on deposit accounts........................ 1,414 1,448 2,723 2,845 Other income..................... 1,980 1,165 3,451 2,070 Total other income............ 4,301 4,352 8,861 9,103 Other Expenses Salaries and employee benefits... 9,145 8,978 18,693 18,269 Net occupancy expense............ 1,241 1,238 2,554 2,533 Furniture and equipment expense.. 1,209 1,207 2,326 2,431 Other operating expenses......... 5,202 5,216 10,162 9,912 Total other expenses.......... 16,797 16,639 33,735 33,145 Income before income taxes......... 11,101 10,481 21,977 21,575 Applicable income taxes.......... 2,911 3,277 5,969 6,696 Net income......................... $ 8,190 $ 7,204 $16,008 $14,879 Average Shares Outstanding.........21,936,311 21,875,647 21,926,263 21,910,853 Average Shares Outstanding Assuming Dilution................22,114,212 21,932,510 22,118,966 21,954,970 Per Share Data: Basic earnings per share......... $ 0.37 $ 0.33 $ 0.73 $ 0.68 Diluted earnings per share....... $ 0.37 $ 0.33 $ 0.72 $ 0.68 Cash dividends per share......... $ 0.22 $ 0.20 $ 0.44 $ 0.40 The accompanying notes are an integral part of these consolidated financial statements.
4 FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (Unaudited) (Dollars in thousands)
Accumulated Additional Other Unearned Total Common Paid-in Retained Comprehensive Treasury ESOP Shareholders' Stock Capital Earnings Income Stock Shares Equity Balance at December 31, 1996......$22,437 $76,664 $168,711 $1,309 $(4,289) $(3,474) $261,358 Comprehensive income Net income...................... -0- -0- 14,879 -0- -0- -0- 14,879 Other comprehensive income, net of tax: Unrealized holding gains (losses) on securities arising during the period............ -0- -0- -0- 2,009 -0- -0- 2,009 Less: reclassification adjust- ment for gains on securities included in net income....... -0- -0- -0- (1,818) -0- -0- (1,818) Total other comprehensive income....................... -0- -0- -0- 191 -0- -0- 191 Total comprehensive income...... -0- -0- 14,879 191 -0- -0- 15,070 Cash dividends declared......... -0- -0- (8,849) -0- -0- -0- (8,849) Decrease in unearned ESOP shares -0- -0- -0- -0- -0- 536 536 Discount on dividend reinvestment plan purchases................ -0- (307) -0- -0- -0- -0- (307) Treasury stock acquired......... -0- -0- -0- -0- (2,728) -0- (2,728) Treasury stock reissued......... -0- (28) -0- -0- 41 -0- 13 Balance at June 30, 1997..........$22,437 $76,329 $174,741 $1,500 $(6,976) $(2,938) $265,093 Balance at December 31, 1997......$22,437 $76,171 $181,137 $1,632 $(7,107) $(2,436) $271,834 Comprehensive income Net income...................... -0- -0- 16,008 -0- -0- -0- 16,008 Other comprehensive income, net of tax: Unrealized holding gains (losses) on securities arising during the period............ -0- -0- -0- 831 -0- -0- 831 Less: reclassification adjust- ment for gains on securities included in net income....... -0- -0- -0- (622) -0- -0- (622) Total other comprehensive income....................... -0- -0- -0- 209 -0- -0- 209 Total comprehensive income...... -0- -0- 16,008 209 -0- -0- 16,217 Cash dividends declared......... -0- -0- (9,723) -0- -0- -0- (9,723) Decrease in unearned ESOP shares -0- 64 -0- -0- -0- 286 350 Discount on dividend reinvestment plan purchases................ -0- (444) -0- -0- -0- -0- (444) Treasury stock reissued......... -0- (53) -0- -0- 989 -0- 936 Balance at June 30, 1998..........$22,437 $75,738 $187,422 $1,841 $(6,118) $(2,150) $279,170
The accompanying notes are an integral part of these consolidated financial statements. 5 FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Dollars in thousands) For the 6 Months Ended June 30, 1998 1997 Operating Activities Net income....................................... $16,008 $14,879 Adjustments to reconcile net income to net cash provided by operating activities: Provision for possible loan losses............ 3,750 2,631 Depreciation and amortization................. 2,880 2,737 Net gains on sales of assets.................. (1,048) (2,845) Income from increase in cash surrender value of bank owned life insurance.................. (770) -0- Increase in interest receivable............... (2,934) (4,044) Increase (decrease) in interest payable....... (219) 162 Decrease in income taxes payable.............. (41) (518) Change in deferred taxes...................... 373 403 Other-net..................................... (1,399) (1,568) Net cash provided by operating activities... 16,600 11,837 Investing Activities Transactions with securities held to maturity: Proceeds from sales........................... -0- -0- Proceeds from maturities and redemptions...... 88,105 34,422 Purchases..................................... (79,429) (60,078) Transactions with securities available for sale: Proceeds from sales........................... 49,036 13,769 Proceeds from maturities and redemptions...... 51,771 20,643 Purchases..................................... (309,944) (45,198) Proceeds from sales of loans and other assets.... 15,174 6,668 Net increase in time deposits with banks......... (2,132) (1,082) Net increase in loans............................ (74,998) (86,780) Purchases of premises and equipment.............. (3,366) (1,915) Net cash used by investing activities....... (265,783) (119,551) Financing Activities Repayments of long-term debt..................... (19,515) (25,392) Proceeds from issuance of long-term debt......... 200,000 36,999 Discount on dividend reinvestment plan purchases. (444) (306) Dividends paid................................... (9,711) (8,876) Net decrease in Federal funds purchased.......... (79,205) (5,750) Net increase in other short-term borrowings...... 129,879 873 Net increase in deposits......................... 36,978 121,521 Purchase of treasury stock....................... -0- (2,728) Proceeds from sale of treasury stock............. 936 13 Net cash provided by financing activities... 258,918 116,354 Net increase in cash and cash equivalents... 9,735 8,640 Cash and cash equivalents at January 1............. 62,989 69,406 Cash and cash equivalents at June 30............... $72,724 $78,046 The accompanying notes are an integral part of these consolidated financial statements. 6 FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS June 30, 1998 (Unaudited) NOTE 1 Management Representation In the opinion of management, the unaudited interim consolidated financial statements include all adjustments (consisting of only normal recurring adjustments) necessary for a fair statement of financial position as of June 30, 1998 and the results of operations for the three month and six month periods ended June 30, 1998 and 1997, and statements of cash flows and changes in shareholders' equity for the six month periods ended June 30, 1998 and 1997. The results of the three and six months ended June 30, 1998 and 1997 are not necessarily indicative of the results to be expected for the entire year. The interim consolidated financial statements should be read in conjunction with the annual consolidated financial statements of First Commonwealth Financial Corporation and Subsidiaries, including the notes thereto. NOTE 2 Cash Flow Disclosures (dollar amounts in thousands) 1998 1997 Cash paid during the first six months of the year for: Interest $62,014 $48,332 Income Taxes $ 5,520 $ 6,600 Noncash investing and financing activities: ESOP loan reductions $ 286 $ 536 Gross increase in market value adjustment to securities available for sale pursuant to FAS No. 115 $ 322 $ 293 Loans transferred to other real estate owned and repossessed assets $ 1,954 $ 2,589 NOTE 3 New Accounting Pronouncements Effective January 1, 1998, the Corporation adopted the Financial Accounting Standards Board Statement No. 130 "Reporting Comprehensive Income" ("FAS No. 130"). Comprehensive income is defined as "the change in equity of a business enterprise during a period from transactions and other events from nonowner sources. Comprehensive income includes all changes in equity except those resulting from investments by owners and distributions to owners." Comprehensive income includes net income and other nonowner changes in equity which qualify as components of comprehensive income but bypass a statement of income and are reported in a separate component of equity in a balance sheet. FAS No. 130 does not change the calculation of net income or earnings per share but requires companies to provide additional disclosures for comprehensive income and its components in financial statements for fiscal years beginning after December 15, 1997, including interim periods. 7 FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS June 30, 1998 (Unaudited) NOTE 3 New Accounting Pronouncements (Continued) The Corporation has elected, as permitted under FAS No. 130, to report comprehensive income in the Statement of Changes in Shareholders' Equity and as required has reclassified comparative financial statements for comprehensive income. For all periods presented, "other comprehensive income" (comprehensive income excluding net income) includes only one component, which is the change in unrealized holding gains and losses on available for sale securities. The following table identifies the related tax effects allocated to each component of other comprehensive income in the Statements of Changes in Shareholders' Equity (dollar amounts in thousands).
June 30, 1998 June 30, 1997 Tax Net of Tax Net of Pre-tax (Expense) Tax Pre-tax (Expense) Tax Amount Benefit Amount Amount Benefit Amount Unrealized gains (losses) on securities: Unrealized holding gains (losses) arising during the period $1,279 $(448) $ 831 $3,090 $(1,082) $2,009 Less: reclassification adjustment for gains realized in net income (957) 335 (622) (2,797) 979 (1,818) Net unrealized gains 322 (113) 209 293 (103) 191 Other comprehensive income $ 322 $(113) $ 209 $ 293 $( 103) $ 191
The adoption of FAS No. 130 did not have a material impact on the Corporation's financial condition or results of operations. In June 1997, The Financial Accounting Standards Board ("FASB") issued Statement No 131, "Disclosures about Segments of an Enterprise and Related Information" ("FAS No. 131") which is effective for financial statements for periods beginning after December 15, 1997. FAS No. 131 redefines how operating segments are determined and requires disclosures of certain financial and descriptive information about a company's operating segments. The disclosures of FAS No. 131 are not required for interim periods in the initial year of application. Management's determination is that, under current conditions, the Corporation will report one business segment. In February 1998, the FASB issued statement No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits" ("FAS No. 132") which is effective for years beginning after December 15, 1997. FAS No. 132 revises employers' disclosures about pension and other postretirement benefit plans but does not change the measurement or recognition of those plans. In June 1998, the FASB issued statement No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("FAS No. 133") which is effective for the first quarter of years beginning after June 15, 1999. FAS No. 133 establishes accounting and reporting standards for derivative instruments and for hedging activities which require that an entity recognize all derivatives as either assets or liabilities in a balance sheet and measure those instruments at fair value. Adoption of FAS No. 132 and FAS No. 133 will not have a material impact on the Corporation's financial condition or results of operations. 8 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS First Six Months of 1998 as Compared to the First Six Months of 1997 (Continued) This discussion and the related financial data are presented to assist in the understanding and evaluation of the consolidated financial condition and results of operations of First Commonwealth Financial Corporation (the "Corporation") including its subsidiaries. In addition to historical information, this discussion and analysis contains forward-looking statements. The forward-looking statements contained herein are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected in the forward-looking statements. Important factors that might cause such a difference include, but are not limited to, those discussed in this "Management's Discussion and Analysis of Financial Condition and Results of Operations." Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's analysis only as of the date hereof. The Corporation undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after the date hereof. Net income in the six months of 1998 was $16.0 million reflecting an increase of $1.1 million over 1997 results of $14.9 million. Net income excluding the impact of securities transactions reflected an increase of $2.3 million or 17.7% when comparing the six months of 1998 to the same period of 1997. Changes in net interest income increased earnings by $0.11 per share during 1998 while the impact of net securities transactions decreased earnings per share $0.08 in 1998. Return on average assets was 1.04% and return on average equity was 11.57% during the 1998 period, compared to 1.15% and 11.29%, respectively during the same period of 1997. Net interest income, the most significant component of earnings, is the amount by which interest generated from earning assets exceeds interest expense on liabilities. Net interest income was $50.6 million for the six months of 1998 compared to $48.2 million for the same period of 1997. Net interest margin (net interest income, on a tax-equivalent basis, as a percentage of average earning assets) for the 1998 period was 3.61%, reflecting a decrease of 44 basis points (0.44%) from 4.05% reported in 1997. Interest and fees on loans increased $5.4 million for 1998 over 1997 levels reflecting volume increases in all loan categories as average total loans for the six months of 1998 increased $180.3 million over 1997 averages. The most notable components of loan growth for 1998 were an increase in average mortgage loans of $68.3 million and an increase in average time and demand loans of $58.7 million over 1997 averages. The increase in interest and fees on loans for 1998 included increases due to volume of $6.2 9 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) RESULTS OF OPERATIONS First Six Months of 1998 as Compared to the First Six Months of 1997 (Continued) million which were partially offset by decreases due to rate of $723 thousand. Yields on loans for the six months of 1998 decreased by 21 basis points (0.21%) when compared to 1997 yields, as yields on mortgage loans and installment loans decreased by 35 basis points (0.35%) and 40 basis points (0.40%), respectively. The mortgage portfolio continues to be impacted by loan refinancings and loans maturing at higher interest rates than current market rates as well as loan origination during 1998 of innovative loan products introduced during 1995 which bear lower introductory interest rates. Loan yields on these products are expected to increase as these products age and introductory interest rates are no longer offered. Installment loan yields declined during the six months of 1998 compared to the corresponding 1997 period primarily as a result of increased utilization of indirect automobile lending. Interest income on investments increased $10.3 million for the six months of 1998 compared to the corresponding period of 1997 primarily as result of increases due to volume of $9.5 million and increases due to rate of $1.1 million in U.S. government agency securities. Average balances of U.S. government agency securities for the first half of 1998 increased $293.1 million over 1997 averages primarily as part of a leveraging strategy whereby borrowings from the Federal Home Loan Bank classified as long-term debt were invested in U.S. government agencies. Yields on investments for the 1998 period reflected an increase of 38 basis points (0.38%) over 1997 yields and included an increase in yields on U.S. government agencies of 41 basis points (0.41%) for the six months of 1998 compared to the six months of 1997. Interest on deposits increased $2.8 million for the 1998 period compared to 1997, and included increases in interest on time deposits of $1.5 million and increases in interest on total savings deposits of $1.3 million. Volume increases have been achieved through competitive rates and aggressive marketing programs. Total cost of deposits for 1998 increased 5 basis points (0.05%) over the 1997 level and included cost increases of 14 basis points (0.14%) for total savings deposits and cost increases of 6 basis points (0.06%) for time deposits compared to the six months of 1997. Rate increases for savings can primarily be attributed to increased utilization by customers of savings products bearing higher interest rates than standard savings accounts. These savings products have been designed to build long-term customer relationships and are intended to produce a favorable impact on the Corporation's net interest margin over the long-term. 10 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) First Six Months of 1998 as Compared to the First Six Months of 1997 (Continued) Interest expense on short-term borrowings increased $2.8 million for the first half of 1998 compared to the first half of 1997 as average Federal Funds purchased increased $75.3 million over 1997 averages. Interest expense on long-term debt increased $7.7 million compared to the 1997 period as average long-term debt for the six months of 1998 increased $291.7 million over 1997 averages. The long-term debt increase for 1998 was a result of borrowings from the Federal Home Loan Bank with maturities of up to 10 years to be utilized as part of the above mentioned leveraging strategy. The average spread of this leverage strategy was 1.33% during the 1998 period. The provision for possible credit losses was $3.8 million for the six month period of 1998 compared to $2.6 million during the 1997 period. Net charge-offs against the allowance for possible credit losses were $2.7 million in the 1998 period and $3.0 million in the 1997 period. The 1998 decrease in net charge-offs included decreases in net charge-offs for loans secured by residential real estate and net charge-offs for commercial loans not secured by real estate compared to 1997. The decrease in net charge-offs for the six months of 1998 were partially offset by increases in net chargeoffs of auto leases which corresponds to growth of the lease portfolio which increased 26% in actual outstandings since June 1997. Most of the chargeoffs of auto leases for the 1998 period occurred in the first quarter. See the "Credit Review" section for an analysis of the quality of the loan portfolio. 11 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) First Six Months of 1998 as Compared to the First Six Months of 1997 (Continued) Below is an analysis of the consolidated allowance for possible credit losses for the six month periods ended June 30, 1998 and 1997. 1998 1997 (Amounts in thousands) Balance January 1, $19,766 $19,324 Loans charged off: Commercial, financial and agricultural 234 778 Real estate-construction -0- -0- Real estate-commercial 542 85 Real estate-residential 82 303 Loans to individuals 2,232 2,293 Lease financing receivables 268 -0- Total loans charged off 3,358 3,459 Recoveries of previously charged off loans: Commercial, financial and agricultural 311 118 Real estate-construction -0- -0- Real estate-commercial 26 13 Real estate-residential 41 14 Loans to individuals 284 261 Lease financing receivables 2 11 Total recoveries 664 417 Net charge offs 2,694 3,042 Provision charged to operations 3,750 2,631 Balance June 30, $20,822 $18,913 Net securities gains decreased $1.8 million during the 1998 period from $2.8 million reported in 1997. The security gains during 1998 resulted primarily from the sale of U.S. Treasury securities classified as securities "available for sale" having a book value of $45.8 million with the proceeds being reinvested in mortgage backed and other U.S. government agency securities with similar average expected maturities. The securities gains during 1997 resulted from the sale of investments in Pennsylvania bank stocks classified as equity securities "available for sale" having a book value of $8.8 million. Total other operating income, excluding securities gains increased $1.6 million during the first six months of 1998 compared to the first six months of 1997. Trust income reflected an increase for the 1998 period of $314 thousand, as the book value of assets managed increased over 1997 levels. The most 12 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) First Six Months of 1998 as Compared to the First Six Months of 1997 (Continued) notable components of the $1.4 million increase in other income for the six months of 1998 compared to 1997 were increases in the cash surrender value of bank owned life insurance of $770 thousand and increases in fees from noncustomer use of the corporation's ATMs of $254 thousand. Noninterest expense was $33.7 million for the six months of 1998 reflecting an increase of $590 thousand over the 1997 level of $33.1 million. Although total noninterest expense for 1998 increased over 1997 levels, total noninterest expense as a percent of average assets declined from 2.56% for the six months of 1997 to 2.19% for the same period of 1998. Employee costs were $18.7 million in 1998, representing 1.21% of average assets on an annualized basis compared to $18.3 million and 1.41% of average assets on an annualized basis for 1997. Salary and benefit costs increased only 2.3% even though there was an increase in the number of full-time equivalent employees for 1998 and an increase in health insurance costs resulting from a rate increase. The increase in full-time equivalent employees for 1998 included staffing of First Commonwealth Insurance Agency which began operations in January of 1998. The decrease in furniture and equipment expense for the first six months of 1998 compared to the 1997 period was primarily the result of a decrease in equipment repairs for the six months of 1998. Other operating expenses increased $250 thousand in 1998 to $10.2 million. Advertising and charge card interchange fees reflected decreases of $416 thousand and $201 thousand for the six months of 1998 compared to the corresponding period of 1997. Lease residual insurance costs, Pennsylvania capital stock and shares taxes, and loan processing fees for 1998 reflected increases of $135 thousand, $125 thousand and $225 thousand respectively over 1997 levels. Income tax expense was $6.0 million for the six months of 1998 compared to $6.7 million for the same period of 1997. The Corporation's effective tax rate was 27.2% for the 1998 period and compared to 31.0% for 1997, reflecting an increase in tax- free income including income from bank-owned life insurance. Three Months ended June 30, 1998 as Compared to the Three Months Ended June 30, 1997 Net income was $8.2 million for the second quarter of 1998, an increase of $986 thousand over the same quarter of 1997. Basic earnings per share was $0.37 during the 1998 quarter and can be compared to $0.33 for the same period of 1997. Net income excluding the impact of securities transactions reflected an increase of $1.7 million or 25% when comparing the second quarter of 1998 to the second quarter of 1997. There were no security gains during the 1998 quarter while net security gains were $1.0 million during the 1997 period. The securities gains during 1997 13 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) Three Months ended June 30, 1998 as Compared to the Three Months Ended June 30, 1997 (Continued) resulted from the sale of investments in Pennsylvania bank stock classified as equity securities "available for sale" having a book value of $2.9 million. Net interest income for the second quarter of 1998 of $25.5 million represented an increase of $1.4 million over the second quarter of 1997. Net interest margin (net interest income, on a tax-equivalent basis, as a percentage of average earnings assets) for the 1998 period was 3.55%, reflecting a decrease of 44 basis points (0.44%) from 3.99% reported in 1997. Total interest and fees on loans for the three months ending June 30, 1998 increased $2.7 million compared to the three months ending June 30, 1997, reflecting increases due to volume of $3.1 million and decreases due to rate of $386 thousand. Average loans outstanding for the second quarter of 1998 were $178.0 million higher than average loans outstanding for the second quarter of 1997. The most notable components of loan growth for the 1998 quarter were an increase in average mortgages and an increase in average commercial loans not secured by real estate. The total yield on loans (including fees on loans) for the three months ended June 30, 1998 was 8.45%, a decrease of 19 basis points (0.19%) over yields for the three months ended June 30, 1997. Installment loans reflected a decrease of 47 basis points (0.47%) and mortgage loans reflected a decrease of 20 basis points (0.20%) when comparing the second quarter of 1998 to the related 1997 period. These yield decreases were primarily the result of the maturity of loans bearing interest rates which were higher than current market rates combined with the Corporation's pricing strategies which offer highly competitive rates. Interest income on investments for the three months ended June 30, 1998 was $16.3 million, reflecting an increase of $5.9 million over the three months ended June 30, 1997. Interest on U.S. government agency securities increased $6.2 million for the second quarter of 1998 compared to the 1997 quarter and included increases due to volume of $5.7 million and increases due to rate of $488 thousand. The increase in interest income on U.S. government agency securities due to volume for the second quarter of 1998 was primarily a result of a leveraging strategy whereby borrowings from the Federal Home Loan Bank classified as long- term debt were invested in U.S. government agency securities. Yields on investments for the 1998 quarter increased 33 basis points (0.33%) compared to yields for the 1997 quarter, primarily as a result of an increase in yields on U.S. government agency securities of 37 basis points (0.37%). Interest on deposits for the second quarter of 1998 increased by $1.0 million compared to the second quarter of 1997 and included increases due to volume of $3.3 million which were partially offset by decreases due to rate of $2.3 million. Interest on total savings deposits for the three months ended June 30, 1998 increased by $614 thousand compared to the three months ended 14 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) Three Months ended June 30, 1998 as Compared to the Three Months Ended June 30, 1997 (Continued) June 30, 1997 and contained increases due to volume of $980 thousand (primarily N.O.W. accounts) and decreases due to rate of $366. Interest on time deposits for the second quarter of 1998 increased by $411 thousand compared to the second quarter of 1997 and included increases due to volume of $2.3 million and decreases due to rate of $1.9 million. Total cost of deposits for the second quarter of 1998 included increases in the cost of total savings deposits of 11 basis points (0.11%) compared to the second quarter of 1997. Interest on short-term borrowings for the second quarter of 1998 increased $1.6 million compared to the second quarter of 1997 as quarter to date average balances increased over averages for the same period of 1997. Interest on long term debt for the three months ending June 30, 1998 increased $4.5 million over the three month ending June 30, 1997, primarily as a result of increases in average long term debt of $322.0 million for the second quarter of 1998 compared to the 1997 quarter. Long term debt increases were borrowings from the Federal Home Loan Bank with maturities of up to ten years to be utilized as part of the previously discussed leveraging strategy. Net interest margin was 3.55% for the second quarter of 1998 compared to 3.99% during the 1997 period. Provision for possible credit losses was $2.0 million for the three months ended June 30, 1998 compared to $1.4 million for the three months ended June 30, 1997. Net loans charged off in the second quarter of 1998 were $1.3 million, a decrease of $772 thousand from net charge-offs of $2.0 million reported for the corresponding period of 1997. Net charge-offs of loans secured by 1-4 family residential properties, commercial loans not secured by real estate and loans to individuals decreased by $231 thousand, $661 thousand and $178 thousand respectively when comparing the second quarter of 1998 to the second quarter of 1997. The decreases in net charge-offs for the second quarter of 1998 compared to the 1997 quarter were partially offset by an increase in net charge-offs of commercial loans secured by real estate of $175 thousand. No securities gains were reflected in the second quarter of 1998 while securities gains for the second quarter of 1997 were $1.0 million. Total other operating income, excluding securities gains increased $988 thousand for the three months ended June 30, 1998, compared to the three months ended June 30, 1997. Included in the increase in other income for the second quarter of 1998 compared to the second quarter of 1997 were increases in the cash surrender value of bank owned life insurance of $446 thousand, increases in noncustomer use of the Corporation's ATMs of $132 thousand and increases in charge card merchant discount of $145 thousand. 15 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) Three Months ended June 30, 1998 as Compared to the Three Months Ended June 30, 1997 (Continued) Total noninterest expense for the three months ending June 30, 1998 was $16.8 million reflecting an increase of only $158 thousand over the $16.6 million reported for the corresponding period of 1997. Income taxes decreased $366 thousand for the second quarter of 1998 compared to the 1997 quarter as a result of an increase in tax free income including income from bank owned life insurance. The Corporation's effective tax rate was 26.2% for the 1998 period compared to 31.3% for the 1997 period. LIQUIDITY Liquidity is a measure of the Corporation's ability to efficiently meet normal cash flow requirements of both borrowers and depositors. In the ordinary course of business, funds are generated from deposits (primary source), and maturity or repayment of earning assets, such as securities and loans. As an additional secondary source, short-term liquidity needs may be provided through the use of overnight Federal funds purchased, borrowings through the use of lines available for repurchase agreements, and borrowings from the Federal Reserve Bank. Additionally, the banking subsidiaries are members of the Federal Home Loan Bank and may borrow under overnight and term borrowing arrangements. The sale of earning assets may also provide an additional source of liquidity. Net loans increased $56.2 million in the first six months of 1998. Municipal loans accounted for over 47 percent of the increase by generating growth of $26.9 million since year-end 1997. Municipal growth for 1998 occurred primarily in short-term tax anticipation notes. Commercial loans not secured by real estate increased by $23.9 million during the six months of 1998 while commercial loans secured by real estate increased by $16.5 million. Loan growth for the period was funded primarily by deposit growth and net short-term borrowings. Short-term funding was obtained through the use of short-term borrowings from the Federal Home Loan Bank which increased by $95.9 million since year-end 1997. Increases in total savings deposits of $57.9 million during the first six months of 1998 were partially offset by decreases of $37.8 million in time deposits. Included in total savings deposit growth for the six months of 1998 was growth of $50.7 million in the Corporation's American Dream Savings product as customers reinvested traditional savings dollars in this innovative product which offers higher interest rates than traditional savings accounts. This product was designed to build long-term customer relationships and is intended to produce a favorable impact on the Corporation's net interest margin over the long-term. 16 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) LIQUIDITY (Continued) Marketable securities that the Corporation holds in its investment portfolio are an additional source of liquidity. These securities are classified as "securities available for sale" and while the Corporation does not have specific intentions to sell these securities they have been designated as "available for sale" because they may be sold for the purpose of obtaining future liquidity, for management of interest rate risk or as part of the implementation of tax management strategies. As of June 30, 1998 securities available for sale had an amortized cost of $604.0 million and an approximate fair value of $607.0 million. Growth of the available for sale portfolio during the first six months of 1998 was funded by borrowings from the Federal Home Loan Bank with maturities of up to ten years which are classified as long-term debt. Interest Sensitivity The objective of interest rate sensitivity management is to maintain an appropriate balance between the stable growth of income and the risks associated with maximizing income through interest sensitivity imbalances. While no single number can accurately describe the impact of changes in interest rates on net interest income, interest rate sensitivity positions, or "gaps", when measured over a variety of time periods, may be helpful. An asset or liability is considered to be interest-sensitive if the rate it yields or bears is subject to change within a predetermined time period. If interest-sensitive assets ("ISA") exceed interest-sensitive liabilities ("ISL") during the prescribed time period, a positive gap results. Conversely, when ISL exceeds ISA during a time period, a negative gap results. A positive gap tends to indicate that earnings will be impacted favorably if interest rates rise during the period and negatively when interest rates fall during the time period. A negative gap tends to indicate that earnings will be affected inversely to interest rate changes. In other words, as interest rates fall, a negative gap should tend to produce a positive effect on earnings and when interest rates rise, a negative gap should tend to affect earnings negatively. 17 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) LIQUIDITY (Continued) Interest Sensitivity (Continued) The primary components of ISA include adjustable rate loans and investments, loan repayments, investment maturities and money market investments. The primary components of ISL include maturing certificates of deposit, money market deposits, savings deposits, NOW accounts and short-term borrowings. The following table lists the amounts and ratios of assets and liabilities with rates or yields subject to change within the periods indicated as of June 30, 1998 and December 31, 1997. June 30, 1998 0-90 91-180 181-365 Cumulative Days Days Days 0-365 Days Loans....................$ 818,666 $153,046 $218,184 $1,189,896 Investments.............. 71,223 42,785 89,708 203,716 Other interest-earning assets.................. 138,672 2,218 7,171 148,061 Total interest-sensitive assets................ 1,028,561 198,049 315,063 1,541,673 Certificates of deposits. 238,252 118,058 402,430 758,740 Other deposits........... 796,281 -0- -0- 796,281 Borrowings............... 240,140 853 2,479 243,472 Total interest-sensitive liabilities........... 1,274,673 118,911 404,909 1,798,493 GAP....................$ (246,112) $ 79,138 $(89,846) $ (256,820) ISA/ISL.................. 0.81 1.67 0.78 0.86 Gap/Total assets......... 7.68% 2.47% 2.81% 8.02% December 31, 1997 0-90 91-180 181-365 Cumulative Days Days Days 0-365 Days Loans....................$ 799,956 $125,950 $250,725 $1,176,631 Investments.............. 51,528 63,717 102,631 217,876 Other interest-earning assets.................. 130,666 5,214 10,043 145,923 Total interest-sensitive assets................ 982,150 194,881 363,399 1,540,430 Certificates of deposits. 252,652 161,264 225,113 639,029 Other deposits........... 804,672 -0- -0- 804,672 Borrowings............... 207,190 1,441 1,725 210,356 Total interest-sensitive liabilities........... 1,264,514 162,705 226,838 1,654,057 GAP....................$ (282,364) $ 32,176 $136,561 $ (113,627) ISA/ISL.................. 0.78 1.20 1.60 0.93 Gap/Total assets......... 9.64% 1.10% 4.66% 3.88% 18 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) Interest Sensitivity (continued) Although the periodic gap analysis provides management with a method of measuring current interest rate risk, it only measures rate sensitivity at a specific point in time. Therefore, to more precisely measure the impact of interest rate changes on the Corporation's net interest income, management simulates the potential effects of changing interest rates through computer modeling. The income simulation model used by the Corporation captures all assets, liabilities, and off-balance sheet financial instruments, accounting for significant variables that are believed to be affected by interest rates. These variables include prepayment speeds on mortgage loans and mortgage backed securities, cash flows of loans, deposits and investments and balance sheet growth assumptions. The model also captures embedded options, such as interest rate caps/floors or call options, and accounts for changes in rate relationships as various rate indices lead or lag changes in market rates. The Corporation is then better able to implement strategies which would include an acceleration of a deposit rate reduction or lag in a deposit rate increase. The repricing strategies for loans would be inversely related. The Corporation's asset/liability management policy guidelines limit interest rate risk exposure for the succeeding twenty four month period. Simulations are prepared under the base case where interest rates remain flat and most likely case where interest rates were defined using projections of economic factors. Additional simulations are produced estimating the impact on net interest income of a 300 basis point (3.00%) movement upward or downward from the base case scenario. The Corporation's current asset/liability management policy indicates that a 300 basis point (3.00%) change in interest rates up or down cannot result in more than a 7.5% change in net interest income when compared to a base case without Board approval and a strategy in place to reduce interest rate risk below the established maximum level. The analysis at June 30, 1998, indicated that a 300 basis point (3.00%) movement in interest rates in either direction over the next twelve months would not have a significant impact on the Corporation's anticipated net interest income over that time frame nor over the next twenty four months and the Corporation's position would remain well within current policy guidelines. The Corporation's "Asset/Liability Management Committee" ("ALCO") is responsible for the identification, assessment and management of interest rate risk exposure, liquidity, capital adequacy and investment portfolio position. The primary objective of the ALCO process is to ensure that the Corporation's balance sheet structure maintains prudent levels of risk within the context of currently known and forecasted economic conditions and to establish strategies which provide the Corporation with appropriate compensation for the assumption of those risks. The ALCO attempts to mitigate interest rate risk through the use of strategies such as asset disposition, asset and liability pricing and matched maturity funding. The ALCO strategies are established by the Corporation's senior management and are approved by the Corporation's board of directors. 19 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) CREDIT REVIEW The following table identifies amounts of loan losses and nonperforming loans. Past due loans are those which were contractually past due 90 days or more as to interest or principal payments but were well secured and in the process of collection. Renegotiated loans are those loans which terms have been renegotiated to provide a reduction or deferral of principal or interest as a result of the deteriorating financial position of the borrower and are in compliance with the restructured terms. Loans on a nonaccrual basis include impaired loans (see description below). At June 30, 1998 1997 (amounts in thousands) Nonperforming Loans: Loans on nonaccrual basis $ 7,972 $ 8,691 Past due loans 11,939 10,903 Renegotiated loans 66 276 Total Nonperforming Loans $ 19,977 $ 19,870 Other real estate owned $ 1,936 $ 1,980 Loans outstanding at end of period $1,978,237 $1,824,070 Average loans outstanding (year-to-date) $1,963,232 $1,782,888 Nonperforming loans as percent of total loans 1.01% 1.09% Provision for possible credit losses $ 3,750 $ 2,631 Net charge-offs $ 2,694 $ 3,042 Net charge-offs as percent of average loans 0.14% 0.17% Provision for possible credit losses as percent of net charge-offs 139.20% 86.49% Allowance for possible credit losses as percent of average loans outstanding 1.06% 1.06% Allowance for possible credit losses as percent of nonperforming loans 104.23% 95.18% 20 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) CREDIT REVIEW (Continued) The Corporation considers a loan to be impaired when, based on current information and events, it is probable that the Corporation will be unable to collect principal or interest due according to the contractual terms of the loan. Loan impairment is measured based on the present value of expected cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. Payments received on impaired loans are applied against the recorded investment in the loan. For loans other than those that the Corporation expects repayment through liquidation of the collateral, when the remaining recorded investment in the impaired loan is less than or equal to the present value of the expected cash flows, income is recorded on a cash basis. As of June 30, 1998 and 1997 the Corporation had a recorded investment in impaired loans of $8.0 million and $9.0 million respectively. Impaired loans include loans on a nonaccrual basis and renegotiated loans. The average balance of impaired loans for the six month periods ending June 30, 1998 and 1997 was $8.4 million for both periods. An allocation of the allowance for possible credit losses in the amount of $1.9 million relates to $4.0 million of the impaired loans at June 30, 1998. An allocation of the allowance for possible credit losses in the amount of $1.9 million relates to $5.4 million of the impaired loans at June 30, 1997. Impaired loans totalling $4.1 million and $3.6 million at June 30, 1998 and 1997 respectively have no allocation of the allowance, in accordance with the Financial Accounting Standards Board Statement No. 118 "Accounting by Creditors for Impairment of a Loan-Income Recognition and Disclosures." Income earned on impaired loans during the first six months of 1998 was $132 thousand compared to $59 thousand for the related 1997 period. Other than those described above, there are no material credits that management has serious doubts as to the borrower's ability to comply with the present loan repayment terms. Additionally, the portfolio is well diversified and as of June 30, 1998, there were no significant concentrations of credit. Nonperforming loans at June 30, 1998 increased $107 thousand over 1997 levels and included increases in past due loans of $1.0 million which were partially offset by decreases in nonaccrual loans of $719 thousand. Past due loans reflected increases in commercial loans not secured by real estate of $611 thousand, and loans secured by residential real estate of $452 thousand. Nonaccrual loans reflected decreases in commercial loans secured by real estate of $758 thousand and commercial loans not secured by real estate of $403 thousand which were partially offset by increases in loans secured by residential real estate of $505 thousand. Nonperforming loans as a percent of total loans were 1.01% at June 30, 1998 compared to 1.09% at June 30, 1997. The allowance for possible credit losses as a percent of nonperforming loans at June 30, 1998 has increased over both June 30, 1997 and year end 1997 levels. 21 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) CREDIT REVIEW (Continued) Net charge-offs in both dollars and as a percentage of average loans at June 30, 1998 have decreased over 1997 levels. Although net charge-offs as a percentage of average loans has historically been below peer averages this ratio slightly exceeded peer averages based on the most recent peer statistics published which used March 31, 1998 data for both the Corporation and peer comparisons. The peer group was defined using the Uniform Bank Holding Company Performance Report published by the Federal Financial Institutions Examination Council. Management does not believe that charge-offs are at a level to cause major concern. The allowance for possible credit losses as a percent of average loans outstanding remains below peer levels and has decreased when compared to year end 1997. Since all identified losses are immediately charged off no portion of the allowance for possible credit losses is restricted to any individual credit or groups of credits and the entire allowance is available to absorb any and all credit losses. However for analytical purposes the allowance for possible credit losses can be thought to include an amount allocated to various loan types and an additional unallocated amount. Based on the analysis of the adequacy of the allowance for possible credit losses at June 30, 1998 the unallocated portion of the allowance in dollars has increased since year end 1997. The Corporation's loan portfolio continues to be monitored by senior management to identify potential portfolio risks and detect potential credit deterioration in the early stages. Credit risk is mitigated through the use of sound underwriting policies and collateral requirements. Management attempts to minimize loan losses by analyzing and modifying collection techniques on a periodic basis. Management believes that the allowance for possible credit losses and nonperforming loans remain safely within acceptable levels. CAPITAL RESOURCES Equity capital increased $7.3 million in the first six months of 1998. Dividends declared reduced equity by $9.7 million during the 1998 period, while earnings retention was $6.3 million, representing an earnings retention rate of 39.3%. The retained net income remains in permanent capital to fund future growth and expansion. Payments by the Corporation's Employee Stock Ownership Plan (the "ESOP") to reduce debt it incurred to acquire the Corporation's common stock for future distribution as employee compensation, net of fair value adjustments to Unearned ESOP shares, increased equity by $350 thousand. Amounts paid to fund the discount on reinvested dividends and optional cash payments reduced equity by $444 thousand. The market value adjustment to securities available for sale increased equity by $209 thousand. Proceeds from the reissuance of treasury shares to provide for stock options exercised increased equity by $936 thousand. 22 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued) CAPITAL RESOURCES (Continued) A capital base can be considered adequate when it enables the Corporation to intermediate funds responsibly and provide related services, while protecting against future uncertainties. The evaluation of capital adequacy depends on a variety of factors, including asset quality, liquidity, earnings history and prospects, internal controls and management caliber. In consideration of these factors, management's primary emphasis with respect to the Corporation's capital position is to maintain an adequate and stable ratio of equity to assets. The Federal Reserve Board issued risk-based capital adequacy guidelines which are designed principally as a measure of credit risk. These guidelines require: (1) at least 50% of a banking organization's total capital be common and other "core" equity capital ("Tier I Capital"); (2) assets and off-balance-sheet items must be weighted according to risk; (3) the total capital to risk-weighted assets ratio be at least 8%; and (4) a minimum leverage ratio of Tier I capital to average total assets. The minimum leverage ratio is not specifically defined, but is generally expected to be 3-5 percent for all but the most highly rated banks, as determined by a regulatory rating system. The table below presents the Corporation's capital position at June 30, 1998: Percent Amount of Adjusted (in thousands) Assets Tier I Capital $266,466 13.9% Risk-Based Requirement 76,657 4.0 Total Capital 287,287 15.0 Risk-Based Requirement 153,314 8.0 Minimum Leverage Capital 266,466 8.4 Minimum Leverage Requirement 95,218 3.0 At June 30, 1998 the Corporation and its banking subsidiaries are considered well capitalized as defined by the Federal Deposit Insurance Corporation Improvement Act of 1991. YEAR 2000 UPDATE The Corporation's data processing subsidiary, Commonwealth Systems Corporation continued to test or validate year 2000 compliance during 1998. Mainframe software systems will be renovated or replaced throughout 1998 as the systems are successfully tested for the ability to properly utilize dates beyond December 31, 1999. Based upon presently available information and time estimates the Corporation remains on schedule to achieve its goal of implementing the majority of the critical mainframe software systems by December 31, 1998. 23 ITEM 2. FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS YEAR 2000 UPDATE (Continued) The Corporation continues to evaluate significant suppliers and outside professional service contractors to determine the extent to which the Corporation is vulnerable to those parties' failure to remediate their own year 2000 issues. During 1998 the Corporation has continued to utilize internal resources to reprogram and test software for year 2000 modifications to the extent possible. Although the Corporation's estimate for total year 2000 project costs and estimated times for completion are subject to certain risks and uncertainties, as of June 30, 1998 the Corporation estimates that expenditures for the year 2000 issue will not have a material impact on the Corporation's financial condition or results of operations. Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information appearing in Item 2 of this report under the caption "Interest Sensitivity" is incorporated herein by reference in response to this item. 24 FIRST COMMONWEALTH FINANCIAL CORPORATION AND CONSOLIDATED SUBSIDIARIES PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS There were no material legal proceedings to which the Corporation or its subsidiaries are a party, or of which any of their property is the subject, except proceedings which arise in the normal course of business and, in the opinion of management, will not have a material adverse effect on the consolidated operations or financial position of the Corporation and its subsidiaries. ITEM 2. CHANGES IN SECURITIES 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 None (b) Reports on Form 8-K Form 8k dated July 15, 1998, reporting the Corporation entered into a definitive agreement to acquire Southwest National Corporation. 25 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. FIRST COMMONWEALTH FINANCIAL CORPORATION (Registrant) DATED: AUGUST 13, 1998 /S/ Joseph E. O'Dell Joseph E. O'Dell, President and Chief Executive Officer DATED: AUGUST 13, 1998 /S/ John J. Dolan John J. Dolan, Sr. Vice President and Chief Financial Officer 26 EX-27 2
9 1,000 3-MOS DEC-31-1998 JAN-01-1998 JUN-30-1998 66,524 7,117 6,200 0 606,996 451,462 454,033 1,989,287 20,822 3,202,456 2,279,456 244,592 26,365 373,253 0 0 22,437 256,733 3,202,836 41,110 16,346 44 57,500 23,511 31,953 25,547 1,950 0 16,797 11,011 8,190 0 0 8,190 0.37 0.37 3.61 7,972 11,939 66 0 19,766 3,358 664 20,833 0 0 0
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