10-Q 1 lkfn030410q.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2004 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 0-11487 LAKELAND FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) INDIANA 35-1559596 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 202 East Center Street P.O. Box 1387, Warsaw, Indiana 46581-1387 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (574)267-6144 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. 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 [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the last practicable date. Class Outstanding at April 30, 2004 Common Stock, No Par Value 5,822,171 LAKELAND FINANCIAL CORPORATION Form 10-Q Quarterly Report Table of Contents PART I. Page Number Item 1. Financial Statements . . . . . . . . . . . . . . . . . . . 1 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations . . . . . . 10 Item 3. Quantitative and Qualitative Disclosures About Market Risk 20 Item 4. Controls and Procedures . . . . . . . . . . . . . . . . . 21 PART II. Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . 24 Item 2. Changes in Securities and Use of Proceeds . . . . . . . . 24 Item 3. Defaults Upon Senior Securities . . . . . . . . . . . . . 24 Item 4. Submission of Matters to a Vote of Security Holders . . . 24 Item 5. Other Information . . . . . . . . . . . . . . . . . . . . 24 Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . 25 Form 10-Q Signature Page. . . . . . . . . . . . . . . . . . . . . . 26 Part 1 LAKELAND FINANCIAL CORPORATION ITEM 1 - FINANCIAL STATEMENTS LAKELAND FINANCIAL CORPORATION CONSOLIDATED BALANCE SHEETS As of March 31, 2004 and December 31, 2003 (in thousands) (Page 1 of 2)
March 31, December 31, 2004 2003 ------------ ------------ (Unaudited) ASSETS Cash and cash equivalents: Cash and due from banks $ 50,651 $ 52,297 Short-term investments 6,823 5,144 ------------ ------------ Total cash and cash equivalents 57,474 57,441 Securities available-for-sale: U. S. Treasury and government agency securities 19,641 17,280 Mortgage-backed securities 211,988 211,142 State and municipal securities 53,322 52,945 ------------ ------------ Total securities available-for-sale (carried at fair value) 284,951 281,367 Real estate mortgages held-for-sale 3,513 3,431 Loans: Total loans 884,499 870,882 Less: Allowance for loan losses 10,477 10,234 ------------ ------------ Net loans 874,022 860,648 Land, premises and equipment, net 25,976 26,157 Accrued income receivable 5,173 5,010 Goodwill 4,970 4,970 Other intangible assets 1,406 1,460 Other assets 28,444 30,930 ------------ ------------ Total assets $ 1,285,929 $ 1,271,414 ============ ============ (Continued)
1 LAKELAND FINANCIAL CORPORATION CONSOLIDATED BALANCE SHEETS As of March 31, 2004 and December 31, 2003 (in thousands except for share and per share data) (Page 2 of 2)
March 31, December 31, 2004 2003 ------------ ------------ (Unaudited) LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES Deposits: Noninterest bearing deposits $ 197,977 $ 185,734 Interest bearing deposits 808,834 740,657 ------------ ------------ Total deposits 1,006,811 926,391 Short-term borrowings: Federal funds purchased 16,000 24,000 Securities sold under agreements to repurchase 86,511 102,601 U.S. Treasury demand notes 2,303 3,160 Other borrowings 10,000 55,000 ------------ ------------ Total short-term borrowings 114,814 184,761 Accrued expenses payable 7,626 7,804 Other liabilities 1,513 1,461 Long-term borrowings 30,046 30,047 Subordinated debentures 30,928 30,928 ------------ ------------ Total liabilities 1,191,738 1,181,392 STOCKHOLDERS' EQUITY Common stock: No par value, 90,000,000 shares authorized, 5,849,494 shares issued and 5,817,474 outstanding as of March 31, 2004, and 5,834,744 shares issued and 5,788,263 outstanding at December 31, 2003 1,453 1,453 Additional paid-in capital 10,700 10,509 Retained earnings 82,534 80,260 Accumulated other comprehensive income (loss) 169 (1,282) Treasury stock, at cost (665) (918) ------------ ------------ Total stockholders' equity 94,191 90,022 ------------ ------------ Total liabilities and stockholders' equity $ 1,285,929 $ 1,271,414 ============ ============ The accompanying notes are an integral part of these consolidated financial statements.
2 LAKELAND FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME For the Three Months Ended March 31, 2004 and 2003 (in thousands except for share and per share data) (Unaudited) (Page 1 of 2)
Three Months Ended March 31, --------------------------- 2004 2003 ------------ ------------ INTEREST AND DIVIDEND INCOME ---------------------------- Interest and fees on loans: Taxable $ 11,316 $ 11,833 Tax exempt 68 63 ------------ ------------ Total loan income 11,384 11,896 Short-term investments 28 27 Securities: U.S. Treasury and government agency securities 157 170 Mortgage-backed securities 2,022 2,932 State and municipal securities 584 428 ------------ ------------ Total interest and dividend income 14,175 15,453 INTEREST EXPENSE ---------------- Interest on deposits 3,031 3,786 Interest on short-term borrowings 346 340 Interest on long-term debt 590 776 ------------ ------------ Total interest expense 3,967 4,902 ------------ ------------ NET INTEREST INCOME 10,208 10,551 ------------------- Provision for loan losses 252 667 ------------ ------------ NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 9,956 9,884 ------------------------- ------------ ------------ NONINTEREST INCOME ------------------ Trust and brokerage fees 739 610 Service charges on deposit accounts 1,657 1,664 Credit card fee income 500 360 Other income (net) 944 673 Net gains on the sale of real estate mortgages held-for-sale 320 1,079 ------------ ------------ Total noninterest income 4,160 4,386 NONINTEREST EXPENSE ------------------- Salaries and employee benefits 4,925 4,705 Occupancy and equipment expense 1,017 1,362 Data processing expense 595 583 Credit card interchange 290 196 Other expense 2,081 2,125 ------------ ------------ Total noninterest expense 8,908 8,971 (Continued)
3 LAKELAND FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME For the Three Months Ended March 31, 2004 and 2003 (in thousands except for share and per share data) (Unaudited) (Page 2 of 2)
Three Months Ended March 31, --------------------------- 2004 2003 ------------ ------------ INCOME BEFORE INCOME TAX EXPENSE 5,208 5,299 -------------------------------- Income tax expense 1,706 1,784 ------------ ------------ NET INCOME $ 3,502 $ 3,515 ---------- ============ ============ Other comprehensive income (loss), net of tax: Unrealized gain/(loss) on available- for-sale securities 1,451 (1,325) ------------ ------------ TOTAL COMPREHENSIVE INCOME $ 4,953 $ 2,190 ============ ============ AVERAGE COMMON SHARES OUTSTANDING FOR BASIC EPS 5,842,946 5,813,984 BASIC EARNINGS PER COMMON SHARE $ 0.60 $ 0.60 ------------------------------- ============ ============ AVERAGE COMMON SHARES OUTSTANDING FOR DILUTED EPS 6,052,537 5,957,134 DILUTED EARNINGS PER SHARE $ 0.58 $ 0.59 -------------------------- ============ ============ The accompanying notes are an integral part of these consolidated financial statements.
4 LAKELAND FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS For the Three Months Ended March 31, 2004 and 2003 (in thousands) (Unaudited) (Page 1 of 2)
2004 2003 ------------ ------------ Cash flows from operating activities: Net income $ 3,502 $ 3,515 ------------ ------------ Adjustments to reconcile net income to net cash from operating activities: Depreciation 460 540 Provision for loan losses 252 667 Amortization of intangible assets 54 44 Amortization of mortgage servicing rights 147 215 Impairment of mortgage servicing rights 159 141 Loans originated for sale (13,448) (37,514) Net gain on sale of loans (320) (1,079) Proceeds from sale of loans 13,594 41,710 Net loss on sale of premises and equipment 25 0 Net securities amortization 822 376 Stock compensation expense 33 0 Earnings on life insurance (151) (168) Net change: Income receivable (163) (125) Accrued expenses payable (215) (163) Other assets 1,814 (397) Other liabilities 52 1,646 ------------ ------------ Total adjustments 3,115 5,893 ------------ ------------ Net cash from operating activities 6,617 9,408 ------------ ------------ Cash flows from investing activities: Proceeds from maturities, sales and calls of securities available-for-sale 14,049 32,928 Purchases of securities available-for-sale (16,205) (37,451) Purchase of life insurance (91) 0 Net increase in total loans (13,626) (4,713) Proceeds from sales of land, premises and equipment 26 0 Purchase of land, premises and equipment (330) (383) ------------ ------------ Net cash from investing activities (16,177) (9,619) ------------ ------------ (Continued)
5 LAKELAND FINANCIAL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS For the Three Months Ended March 31, 2004 and 2003 (in thousands) (Unaudited) (Page 2 of 2)
2004 2003 ------------ ------------ Cash flows from financing activities: Net increase in total deposits $ 80,420 $ 48,169 Proceeds from short-term borrowings 5,548,834 6,464,530 Payments on short-term borrowings (5,618,781) (6,538,161) Payments on long-term borrowings (1) (1) Dividends paid (1,109) (988) Proceeds from stock options exercise 312 0 (Purchase) sale of treasury stock (82) 47 ------------ ------------ Net cash from financing activities 9,593 (26,404) ------------ ------------ Net decrease in cash and cash equivalents 33 (26,615) Cash and cash equivalents at beginning of the period 57,441 87,149 ------------ ------------ Cash and cash equivalents at end of the period $ 57,474 $ 60,543 ============ ============ Cash paid during the period for: Interest $ 3,392 $ 4,312 ============ ============ Income taxes $ 0 $ 25 ============ ============ Loans transferred to other real estate $ 0 $ 65 ============ ============ The accompanying notes are an integral part of these consolidated financial statements.
6 LAKELAND FINANCIAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS March 31, 2004 (Unaudited) NOTE 1. BASIS OF PRESENTATION This report is filed for Lakeland Financial Corporation (the "Company") and its wholly-owned subsidiary, Lake City Bank (the "Bank"). All significant inter-company balances and transactions have been eliminated in consolidation. Also included is the Bank's wholly-owned subsidiary, LCB Investments Limited ("LCB Investments"). The unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with instructions for Form 10-Q. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (all of which are normal and recurring in nature) considered necessary for a fair presentation have been included. Operating results for the three-month period ending March 31, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004. The 2003 Lakeland Financial Corporation Annual Report on Form 10-K should be read in conjunction with these statements. NOTE 2. EARNINGS PER SHARE Basic earnings per common share is based upon weighted-average common shares outstanding. Diluted earnings per share show the dilutive effect of additional common shares issueable. Employee compensation expense under stock options is reported using the intrinsic value method. No stock-based compensation cost is reflected in net income at the time of grant, 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. No additional options were granted in the first three months of 2004. Had compensation cost for stock options been recorded in the financial statements, net income and earnings per share would have been the pro forma amounts indicated below. The pro forma effect may increase in the future if more options are granted. 7 Three Months Ended March 31, 2004 2003 --------- ---------- Net income (in thousands) as reported $ 3,502 $ 3,515 Deduct: stock-based compensation expense determined under fair value based method 105 118 --------- ---------- Pro forma net income $ 3,397 $ 3,397 ========= ========== Basic earnings per common share as reported $ 0.60 $ 0.60 Pro forma basic earnings per share $ 0.58 $ 0.58 Diluted earnings per share as reported $ 0.58 $ 0.59 Pro forma diluted earnings per share $ 0.56 $ 0.57 The common shares outstanding for the stockholders' equity section of the consolidated balance sheet at March 31, 2004 reflects the acquisition of 32,020 shares of Company common stock to offset a liability for a directors' deferred compensation plan. These shares are treated as outstanding when computing the weighted-average common shares outstanding for the calculation of both basic and diluted earnings per share. NOTE 3. LOANS March 31, December 31, 2004 2003 ------------ ------------ (in thousands) Commercial and industrial loans $ 609,626 $ 593,194 Agri-business and agricultural loans 78,293 82,262 Real estate mortgage loans 40,745 40,118 Real estate construction loans 4,110 3,932 Installment loans and credit cards 151,725 151,376 ------------ ------------ Total loans $ 884,499 $ 870,882 ============ ============ Impaired loans $ 3,468 $ 3,039 Non-performing loans $ 4,208 $ 3,744 8 NOTE 4. EMPLOYEE BENEFIT PLANS Components of Net Periodic Benefit Cost Three months ended March 31: Pension Benefits SERP Benefits ---------------- ------------- 2004 2003 2004 2003 ---- ---- ---- ---- Service cost $ 0 $ 0 $ 0 $ 0 Interest cost 37 39 20 23 Expected return on plan assets (31) (35) (25) (24) Recognized net actuarial loss 10 7 9 7 ---- ---- ---- ---- Net pension expense $ 16 $ 11 $ 4 $ 6 ==== ==== ==== ==== The Company previously disclosed in its financial statements for the year ended December 31, 2003, that it expected to contribute $299,000 to its pension plan and $119,000 to its SERP plan in 2004. As of March 31, 2004, $119,000 had been contributed to the SERP plan and $0 to the pension plan. The Company presently anticipates contributing $299,000 to its pension plan in 2004. NOTE 5. RECLASSIFICATIONS Certain amounts appearing in the financial statements and notes thereto for prior periods have been reclassified to conform with the current presentation. The reclassification had no effect on net income or stockholders' equity as previously reported. 9 Part 1 LAKELAND FINANCIAL CORPORATION ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION and RESULTS OF OPERATION March 31, 2004 OVERVIEW Lakeland Financial Corporation is the holding company for Lake City Bank. The Company is headquartered in Warsaw, Indiana and operates 43 offices in 12 counties in northern Indiana. The Company earned $3.5 million for the first three months of 2004, which is nearly unchanged versus the comparable period of 2003. Earnings were positively impacted by a $415,000 decrease in the provision for loan losses and a $63,000 decrease in noninterest expense. Offsetting these positive impacts were decreases of $343,000 in net interest income and $226,000 in noninterest income. Basic earnings per share were $0.60 per share in the first quarters of both 2004 and 2003. Diluted earnings per share reflect the potential dilutive impact of stock options granted under an employee stock option plan. Diluted earnings per share for the first three months of 2004 were $0.58 per share, versus $0.59 per share for the first three months of 2003. RESULTS OF OPERATIONS Net Interest Income For the three-month period ended March 31, 2004, net interest income totaled $10.2 million, a decrease of 3.3%, or $343,000 versus the first three months of 2003. Net interest income decreased in the three-month period of 2004 versus the comparable period of 2003, primarily due to a 33 basis point decline in the net interest margin to 3.60% in the three-month period ended March 31, 2004 versus the comparable period of 2003. For the three-month period ended March 31, 2004, average earning assets increased by $63.4 million, or 5.7%, to $1.177 billion, and average noninterest bearing demand deposits increased by $29.8 million, or 18.9%, to $186.9 million, versus the same period in 2003. During the first three months of 2004, total interest and dividend income decreased by $1.3 million, or 8.3% to $14.2 million, versus $15.5 million during the same three months of 2003. The tax equivalent yield on average earning assets decreased by 69 basis points to 5.0% for the three-month period ended March 31, 2004 versus the same period of 2003. The average daily loan balances for the first three months of 2004 increased 6.5% to $883.7 million, over the average daily loan balances of $829.6 million for the same period of 2003. During the same period, loan 10 interest income declined by $512,000, or 4.3%, to $11.4 million. The decrease was the result of a 54 basis point decrease in the tax equivalent yield on loans to 5.2% from 5.7% in the first three months of 2003. The average daily securities balances for the first three months of 2004 increased $6.9 million, or 2.5%, to $282.1 million, versus $275.2 million for the same period of 2003. During the same periods, income from securities declined by $767,000, or 21.7%, to $2.8 million versus $3.5 million during the first three months of 2003. The decrease was primarily the result of a 116 basis point decline in the tax equivalent yields on securities, to 4.4% versus 5.5% in the first three months of 2003. Total interest expense decreased $935,000, or 19.1%, to $4.0 million for the three-month period ended March 31, 2004, from $4.9 million for the comparable period in 2003. The decrease was primarily the result of a 43 basis point decrease in the Company's daily cost of funds to 1.35%, versus 1.78% for the same period of 2003. On an average daily basis, total deposits (including demand deposits) increased $34.6 million, or 3.7%, to $968.7 million for the three-month period ended March 31, 2004, versus $934.1 million in the same period in 2003. On an average daily basis, noninterest bearing demand deposits increased $29.8 million, or 18.9% for the three-month period ended March 31, 2004, versus the same period in 2003. When comparing the three months ended March 31, 2004 with the same period of 2003, the average daily balance of time deposits, which pay a higher rate of interest compared to demand deposit and transaction accounts, decreased $97.0 million and the rate paid on such accounts declined by 11 basis points versus the same period in 2003. Management believes that it is critical to grow demand deposit accounts in both the dollar volume and total number of accounts. These accounts typically provide the Company with opportunities to expand into ancillary activities for both retail and commercial customers. In addition, they represent low cost deposits. Furthermore, the Company is focused on growing transaction money market accounts which also provide a reasonable cost of funds and generally represent relationship accounts. Average daily balances of borrowings increased $32.7 million, or 18.3%, to $212.0 million for the three months ended March 31, 2004 versus $179.2 million for the same period in 2003. The rate on borrowings decreased 73 basis points when comparing the three-month period of 2004 with the same period of 2003. On an average daily basis, total deposits (including demand deposits) and purchased funds increased 6.1% for the three-month period ended March 31, 2004 versus the same period in 2003. The following tables set forth consolidated information regarding average balances and rates. 11 DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL (in thousands of dollars)
Three Months Ended March 31, ---------------------------------------------------------------------------- 2004 2003 ------------------------------------ --------------------------------- Average Interest Average Interest Balance Income Yield (1) Balance Income Yield (1) ---------- ---------- ---------- ---------- ---------- --------- ASSETS Earning assets: Loans: Taxable (2)(3) $ 875,479 $ 11,319 5.20 % $ 822,839 $ 11,833 5.83 % Tax exempt (1) 8,212 96 4.70 6,808 83 4.94 Investments: (1) Available for sale 282,053 3,058 4.36 275,204 3,746 5.52 Short-term investments 8,177 19 0.93 4,928 15 1.23 Interest bearing deposits 3,007 9 1.20 3,729 12 1.31 ---------- ---------- ---------- ---------- Total earning assets 1,176,928 14,501 4.95 % 1,113,508 15,689 5.71 % Nonearning assets: Cash and due from banks 47,768 0 42,975 0 Premises and equipment 26,064 0 24,785 0 Other nonearning assets 41,015 0 40,493 0 Less allowance for loan loss losses (10,362) 0 (9,619) 0 ---------- ---------- ---------- -------- Total assets $ 1,281,413 $ 14,501 $ 1,212,142 $ 15,689 ========== ========== ========== ======== (1) Tax exempt income was converted to a fully taxable equivalent basis at a 35 percent tax rate for 2004 and 2003. The tax equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983 included the TEFRA adjustment applicable to nondeductible interest expenses. (2) Loan fees, which are immaterial in relation to total taxable loan interest income for the three months ended March 31, 2004 and 2003, are included as taxable loan interest income. (3) Nonaccrual loans are included in the average balance of taxable loans.
12 DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL (Cont.) (in thousands of dollars) Three Months Ended March 31, ----------------------------------------------------------------------------- 2004 2003 ----------------------------------- ---------------------------------- Average Interest Average Interest Balance Expense Yield Balance Expense Yield ---------- --------- ---------- ---------- ---------- ---------- LIABILITIES AND STOCKHOLDERS' EQUITY Interest bearing liabilities: Savings deposits $ 64,953 $ 28 0.17 % $ 56,720 $ 69 0.49 % Interest bearing checking accounts 346,328 738 0.86 252,626 757 1.22 Time deposits: In denominations under $100,000 205,378 1,440 2.82 208,952 1,684 3.27 In denominations over $100,000 165,164 825 2.01 258,633 1,276 2.00 Miscellaneous short-term borrowings 150,989 346 0.92 127,268 340 1.08 Long-term borrowings 60,974 590 3.89 51,966 776 6.06 ---------- ---------- ---------- ---------- Total interest bearing liabilities 993,786 3,967 1.61 % 956,165 4,902 2.08 % Noninterest bearing liabilities and stockholders' equity: Demand deposits 186,901 0 157,147 0 Other liabilities 8,282 0 13,241 0 Stockholders' equity 92,444 0 85,589 0 Total liabilities and stockholders' ---------- ---------- ---------- ---------- equity $ 1,281,413 $ 3,967 $ 1,212,142 $ 4,902 ========== ========== ========== ========== Net interest differential - yield on average daily earning assets $ 10,534 3.60 % $ 10,787 3.93 % ========== ==========
13 Provision for Loan Losses Based on management's review of the adequacy of the allowance for loan losses, a provision for losses on loans of $252,000 was recorded during the three-month period ended March 31, 2004, versus $667,000 recorded during the same period of 2003. The decrease in the provision for loan losses for the three-month periods reflected a number of factors, including the amount and status of impaired loans, the amount and status of past due accruing loans (90 days or more), the level of charge-offs, and management's overall view on current credit quality, as discussed in more detail below in the analysis relating to the Company's financial condition. Noninterest Income Noninterest income decreased by $226,000 to $4.2 million in the first quarter of 2004 from $4.4 million during the same period of 2003. Noninterest income categories for the three-month periods ended March 31, 2004 and 2003 are shown in the following table: Three Months ended March 31, ---------------------------------- Percent 2004 2003 Change ---------- ---------- ---------- (in thousands) Trust and brokerage fees $ 739 $ 610 21.2 % Service charges on deposits 1,657 1,664 (0.4) Credit card fee income 500 360 38.9 Other income (net) 944 673 40.3 Net gains on the sale of real estate mortgages held-for-sale 320 1,079 (70.3) ---------- ---------- ---------- Total noninterest income $ 4,160 $ 4,386 (5.2)% ========== ========== ========== Trust fees increased $151,000 in the three-month period ended March 31, 2004 versus the same period in 2003. The increase in 2004 was primarily in living trust, agency, IRA and employee benefit plan fees, and was derived principally from the Company's December 1, 2003 acquisition of Indiana Capital Management. Brokerage fees decreased $22,000 in the three-month period ended March 31, 2004 versus the same period in 2003. Credit card fee income increased by $140,000, or 38.9% in the three-month period ended March 31, 2004 versus the same period in 2003. The increase was driven by higher volume activity in interchange and merchant fee income. 14 Other income consists of normal recurring fee income such as mortgage service fees, insurance income and fees, valuation of mortgage servicing rights and safe deposit box rent, as well as other income that management classifies as non-recurring. Other income increased $271,000 in the three-month period ended March 31, 2004 versus the same period of 2003. The primary driver behind the increase was a $166,000 increase in operating lease income. The decrease in profits from the sale of mortgages reflected a decrease in the volume of mortgages sold during the three-month period ended March 31, 2004 versus the same period in 2003. During the first three months of 2004, the Company sold $13.3 million in mortgages versus $40.9 million in the comparable period of 2003. The decrease in volume in 2004 was primarily the result of rising mortgage rates during the second half of 2003, the effects of which, in the form of decreased mortgage refinance activity and decreased demand for home mortgages, have carried over to 2004. Although mortgage rates have fallen somewhat during the first quarter of 2004, management does not expect that the high level of mortgage sales gains experienced during 2003 will be repeated during 2004. Noninterest Expense Noninterest expense decreased by $63,000 to $8.9 million in the first quarter of 2004 from $9.0 million in the same period of 2003. Noninterest expense categories for the three-month period ended March 31, 2004, and 2003 are shown in the following table: Three Months Ended March 31, ---------------------------------- Percent 2004 2003 Change ---------- ---------- ---------- (in thousands) Salaries and employee benefits $ 4,925 $ 4,705 4.7 % Occupancy and equipment expense 1,017 1,362 (25.3) Data processing expense 595 583 2.1 Credit card interchange 290 196 48.0 Other expense 2,081 2,125 (2.1) ---------- ---------- ---------- Total noninterest expense $ 8,908 $ 8,971 (0.7)% ========== ========== ========== The increase in salaries and employee benefits reflected normal salary increases, increases related to the employee 401(k) plan and incentive compensation plan and higher health care costs. Total employees remained stable with 469 at March 31, 2004, compared to 463 at March 31, 2003. 15 The decrease in occupancy and equipment expense reflected lower property taxes, as well as lower depreciation expense due to the fact that much of the equipment purchased for significant technology upgrades in 1998 and 1999 and to ensure no interruption from Year 2000 issues are now fully depreciated. Credit card interchange fees increased by $94,000 during the first quarter of 2004, due to an increase in processing costs charged by VISA and increased credit card usage by Bank customers during that period versus the first quarter of 2003. Other expense includes corporate and business development, data processing fees, telecommunications, postage, and professional fees such as legal, accounting, and directors' fees. Other expense decreased slightly in the three-month period ended March 31, 2004 versus the comparable period in 2003. Income Tax Expense Income tax expense decreased $78,000, or 4.4%, for the first three months of 2004, compared to the same period in 2003. The combined state franchise tax expense and the federal income tax expense as a percentage of income before income tax expense decreased to 32.8% during the first three months of 2004 compared to 33.7% during the same period in 2003. FINANCIAL CONDITION Certain of the Company's accounting policies are important to the portrayal of the Company's financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Some of the facts and circumstances which could affect these judgments include changes in interest rates, in the performance of the economy or in the financial condition of borrowers. Management believes that its critical accounting policies include determining the allowance for loan losses, determining the fair value of securities and other financial instruments and the valuation of mortgage servicing rights. The Company's critical accounting policies are discussed in detail in the Annual Report for the year ended December 31, 2003 (incorporated by reference as part of the Company's 10-K filing) in Note 1 of the Notes to the Consolidated Financial Statements. Total assets of the Company were $1.286 billion as of March 31, 2004, an increase of $14.5 million, or 1.1%, when compared to $1.271 billion as of December 31, 2003. 16 Total cash and cash equivalents increased by $33,000, or 0.01%, to $57.5 million at March 31, 2004 from $57.4 million at December 31, 2003. Total securities available-for-sale increased by $3.6 million, or 1.3%, to $285.0 million at March 31, 2004 from $281.4 million at December 31, 2003. The increase was a result of securities purchases totaling $16.2 million as well as a $2.2 million increase in the fair market value of the securities. The market value increase was driven by the declining interest rate environment during the first quarter of 2004. These increases were offset by a number of transactions in the securities portfolio. Paydowns of $13.7 million were received, and the amortization of premiums, net of the accretion of discounts, was $822,000. Maturities and calls of securities totaled $293,000. The investment portfolio is managed to limit the Company's exposure to risk by containing mostly CMO's and other securities which are either directly or indirectly backed by the federal government or a local municipal government. Real estate mortgages held-for-sale increased by $82,000, or 2.4%, to $3.5 million at March 31, 2004 from $3.4 million at December 31, 2003. The balance of this asset category is subject to a high degree of variability depending on, among other things, recent mortgage loan rates and the timing of loan sales into the secondary market. During the three months ended March 31, 2004, $13.4 million in real estate mortgages were originated for sale and $13.3 million in mortgages were sold. Total loans, excluding real estate mortgages held-for-sale, increased by $13.6 million, or 1.6%, to $884.5 million at March 31, 2004 from $870.9 million at December 31, 2002. The mix of loan types within the Company's portfolio was unchanged, reflecting 78% commercial, 5% real estate and 17% consumer loans at both March 31, 2004 and December 31, 2003. The Company has a relatively high percentage of commercial and commercial real estate loans, most of which are extended to small or medium-sized businesses. Commercial loans represent higher dollar loans to fewer customers and therefore higher credit risk. Pricing is adjusted to manage the higher credit risk associated with these types of loans. The majority of fixed rate mortgage loans, which represent increased interest rate risk, are sold in the secondary market, as well as some variable rate mortgage loans. The remainder of the variable rate mortgage loans and a small number of fixed rate mortgage loans are retained. Management believes the allowance for loan losses is at a level commensurate with the overall risk exposure of the loan portfolio. However, as a result of the continuing difficult economic climate, certain borrowers may experience difficulty and the level of non-performing loans, charge-offs, and delinquencies could rise and require further increases in the provision for loan losses. Loans are charged against the allowance for loan losses when management believes that the uncollectibility of the principal is confirmed. Subsequent 17 recoveries, if any, are credited to the allowance. The allowance is an amount that management believes will be adequate to absorb probable losses relating to specifically identified loans based on an evaluation as well as other probable incurred losses inherent in the loan portfolio. The evaluations take into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrower's ability to repay. Management also considers trends in adversely classified loans based upon a monthly review of those credits. An appropriate level of general allowance is determined based on the application of loss percentages to graded loans by categories. Federal regulations require insured institutions to classify their own assets on a regular basis. The regulations provide for three categories of classified loans - substandard, doubtful and loss. The regulations also contain a special mention category. Special mention is defined as loans that do not currently expose an insured institution to a sufficient degree of risk to warrant classification but do possess credit deficiencies or potential weaknesses deserving management's close attention. Assets classified as substandard or doubtful require the institution to establish general allowances for loan losses. If an asset or portion thereof is classified as loss, the insured institution must either establish specified allowances for loan losses in the amount of 100% of the portion of the asset classified loss, or charge off such amount. At March 31, 2004, on the basis of management's review of the loan portfolio, the Company had $38.0 million of assets classified special mention, $27.1 million classified as substandard, $1.2 million classified as doubtful and $0 classified as loss as compared to $41.9 million, $27.7 million, $869,000 and $0 at December 31, 2003. Allowance estimates are developed by management in consultation with regulatory authorities, taking into account actual loss experience, and are adjusted for current economic conditions. Allowance estimates are considered a prudent measurement of the risk in the Company's loan portfolio and are applied to individual loans based on loan type. In accordance with FASB Statements 5 and 114, the allowance is provided for losses that have been incurred as of the balance sheet date and is based on past events and current economic conditions, and does not include the effects of expected losses on specific loans or groups of loans that are related to future events or expected changes in economic conditions. The following table summarizes the loan loss reserve and nonperforming assets at March 31, 2004 and March 31, 2003. 18 March 31, March 31, 2004 2003 -------------- -------------- (in thousands) ALLOWANCE FOR LOAN LOSSES: Beginning balance, January 1 $ 10,234 $ 9,533 Provision for loan losses, year-to-date 252 667 Loans charged-off, year-to-date (100) (494) Recoveries, year-to-date 91 36 -------------- -------------- Ending balance $ 10,477 $ 9,742 ============== ============== NONPERFORMING ASSETS: Nonaccrual loans $ 997 $ 5,208 Loans past due over 90 days and accruing 3,211 3,386 Other real estate 277 109 Repossessions 39 62 -------------- -------------- Total nonperforming assets $ 4,524 $ 8,765 ============== ============== Total impaired loans increased by $429,000 to $3.5 million at March 31, 2004 from $3.0 million at December 31, 2003. The increase in the impaired loans category resulted primarily from the addition of one commercial credit and one mortgage loan to the impaired category. The impaired loan total includes $626,000 in nonaccrual loans. A loan is impaired when full payment under the original loan terms is not expected. Impairment is evaluated in total for smaller-balance loans of similar nature such as residential mortgage, consumer, and credit card loans, and on an individual loan basis for other loans. If a loan is impaired, a portion of the allowance may be allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan's existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Total deposits increased by $80.4 million, or 8.7%, to $1.007 billion at March 31, 2004 from $926.4 million at December 31, 2003. The increase resulted from increases of $107.3 million in certificates of deposit, $12.2 million in demand deposits, $11.3 million in Investors' Money Market accounts and $5.1 million in savings accounts. Offsetting these increases were declines of $40.0 million in NOW accounts, and $15.5 million in money market accounts. 19 Total short-term borrowings decreased by $70.0 million, or 37.9%, to $114.8 million at March 31, 2004 from $184.8 million at December 31, 2003. The decrease resulted from declines of $45.0 million in other borrowings, primarily short-term advances from the Federal Home Loan Bank of Indianapolis, $16.1 million in securities sold under agreements to repurchase and $8.0 million in federal funds purchased. Total stockholders' equity increased by $4.2 million, or 4.6%, to $94.2 million at March 31, 2004 from $90.0 million at December 31, 2003. Net income of $3.5 million, less dividends of $1.2 million, plus the increase in the accumulated other comprehensive income of $1.5 million, plus $444,000 for stock issued through options exercised and stock options expense, minus $82,000 for the cost of treasury stock purchased, comprised most of this increase. The Federal Deposit Insurance Corporation's risk based capital regulations require that all banking organizations maintain an 8.0% total risk based capital ratio. The FDIC has also established definitions of "well capitalized" as a 5.0% Tier I leverage capital ratio, a 6.0% Tier I risk based capital ratio and a 10.0% total risk based capital ratio. All of the Company's ratios continue to be above "well capitalized" levels. As of March 31, 2004, the Company's Tier 1 leverage capital ratio, Tier 1 risk based capital ratio and total risk based capital ratio were 9.2%, 12.0% and 13.0%, respectively. ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate risk represents the Company's primary market risk exposure. The Company does not have a material exposure to foreign currency exchange risk, does not have any material amount of derivative financial instruments and does not maintain a trading portfolio. The board of directors annually reviews and approves the policy used to manage interest rate risk. The policy was last reviewed and approved in May 2003. The policy sets guidelines for balance sheet structure, which are designed to protect the Company from the impact that interest rate changes could have on net income, but does not necessarily indicate the effect on future net interest income. The Company, through its Asset/Liability Committee, manages interest rate risk by monitoring the computer simulated earnings impact of various rate scenarios and general market conditions. The Company then modifies its long-term risk parameters by attempting to generate the type of loans, investments, and deposits that currently fit the Company's needs, as determined by the Asset/Liability Committee. This computer simulation analysis measures the net interest income impact of various interest rate scenario changes during the next 12 months. If the change in net interest income is less than 3% of primary capital, the balance sheet structure is considered to be within acceptable risk levels. At March 31, 2004, the Company's potential pretax exposure was within the Company's policy limit, and not significantly different from December 31, 2003. 20 ITEM 4 - CONTROLS AND PROCEDURES An evaluation was performed under the supervision and with the participation of the Company's management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of March 31, 2004. Based on that evaluation, the Company's management, including the Chief Executive Officer and Chief Financial Officer, concluded that the Company's disclosure controls and procedures were effective. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls. FORWARD-LOOKING STATEMENTS This document contains, and future oral and written statements of the Company and its management may contain, forward-looking statements, within the meaning of such term in the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company's management and on information currently available to management, are generally identifiable by the use of words such as "believe," "expect," "anticipate," "plan," "intend," "estimate," "may," "will," "would," "could," "should" or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events. The Company's ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors, which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries include, but are not limited to, the following: o The strength of the United States economy in general and the strength of the local economies in which the Company conducts its operations which may be less favorable than expected and may result in, among other things, a deterioration in the credit quality and value of the Company's assets. o The economic impact of past and any future terrorist attacks, acts of war or threats thereof and the response of the United States to any such threats and attacks. 21 o The effects of, and changes in, federal, state and local laws, regulations and policies affecting banking, securities, insurance and monetary and financial matters. o The effects of changes in interest rates (including the effects of changes in the rate of prepayments of the Company's assets) and the policies of the Board of Governors of the Federal Reserve System. o The ability of the Company to compete with other financial institutions as effectively as the Company currently intends due to increases in competitive pressures in the financial services sector. o The inability of the Company to obtain new customers and to retain existing customers. o The timely development and acceptance of products and services, including products and services offered through alternative delivery channels such as the Internet. o Technological changes implemented by the Company and by other parties, including third party vendors, which may be more difficult or more expensive than anticipated or which may have unforeseen consequences to the Company and its customers. o The ability of the Company to develop and maintain secure and reliable electronic systems. o The ability of the Company to retain key executives and employees and the difficulty that the Company may experience in replacing key executives and employees in an effective manner. o Consumer spending and saving habits, which may change in a manner that affects the Company's business adversely. o Business combinations and the integration of acquired businesses, which may be more difficult or expensive than expected. o The costs, effects and outcomes of existing or future litigation. o Changes in accounting policies and practices, as may be adopted by state and federal regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission and the Public Company Accounting Oversight Board. 22 o The ability of the Company to manage the risks associated with the foregoing as well as anticipated. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Additional information concerning the Company and its business, including other factors that could materially affect the Company's financial results, is included in the Company's filings with the Securities and Exchange Commission. 23 LAKELAND FINANCIAL CORPORATION FORM 10-Q March 31, 2004 Part II - Other Information Item 1. Legal proceedings ----------------- There are no material pending legal proceedings to which the Company or its subsidiaries is a party other than ordinary routine litigation incidental to their respective businesses. Item 2. Changes in Securities and Use of Proceeds ----------------------------------------- The following table provides information as of March 31, 2004 with respect to shares of Common Stock repurchased by the Company during the quarter then ended: Issuer Purchases of Equity Securities(a) Total Number of Maximum Number Shares Purchased of Shares that May Number Average as part of Publicly Yet Be Purchased of Shares Price Paid Announced Plans Under the Plan or Period Purchased Per Share or Programs Programs ------- ---------- ------- --------- ----------- January 1-31 1,968 $ 36.42 0 0 February 1-29 0 $ 0 0 0 March 1-31 0 $ 0 0 0 ----- ------- --------- ----------- Total 1,968 $ 36.42 ===== ======= (a) The shares purchased during the periods were credited to the deferred share accounts of seven non-employee directors under the Company's directors' deferred compensation plan. Item 3. Defaults Upon Senior Securities ------------------------------- None Item 4. Submission of Matters to a Vote of Security Holders --------------------------------------------------- None Item 5. Other Information ----------------- None 24 Item 6. Exhibits and Reports on Form 8-K -------------------------------- a. Exhibits 31.1 Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) 31.2 Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) 32.1 Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. b. Reports A report on Form 8-K was filed on April 15, 2004 under Item 12 which reported the Company's first quarter financial information in the form of a press release. A report on Form 8-K was filed on January 15, 2004 under Item 12 which reported the Company's financial information for the fiscal year ended December 31, 2003 in the form of a press release. 25 LAKELAND FINANCIAL CORPORATION FORM 10-Q March 31, 2004 Part II - Other Information 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. LAKELAND FINANCIAL CORPORATION (Registrant) Date: May 3, 2004 /s/Michael L. Kubacki Michael L. Kubacki - President and Chief Executive Officer Date: May 3, 2004 /s/David M. Findlay David M. Findlay - Executive Vice President and Chief Financial Officer Date: May 3, 2004 /s/Teresa A. Bartman Teresa A. Bartman - Vice President and Controller 26