-----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, IIattAZ2h+kRiykj10aILwnU/N+q7a6ldcB9sQwmcdG0z0+sA16WQR5Y/h6H5EFy bDot1Lk0AHTEPrqiFY8PUQ== 0000723646-97-000005.txt : 19970328 0000723646-97-000005.hdr.sgml : 19970328 ACCESSION NUMBER: 0000723646-97-000005 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970327 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: FRANKLIN FINANCIAL SERVICES CORP /PA/ CENTRAL INDEX KEY: 0000723646 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 251440803 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 000-12126 FILM NUMBER: 97564356 BUSINESS ADDRESS: STREET 1: P O BOX T CITY: CHAMBERSBURG STATE: PA ZIP: 17201-0819 BUSINESS PHONE: 7172646116 MAIL ADDRESS: STREET 1: P O BOX T CITY: CHAMBERSBURG STATE: PA ZIP: 17201 10-K405 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1996 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 0-12126 FRANKLIN FINANCIAL SERVICES CORPORATION (Exact name of registrant as specified in its charter) PENNSYLVANIA 25-1440 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 20 South Main Street, P. O. Box T, Chambersburg, PA 17201-0819 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (717) 264-6116 Securities registered pursuant to Section 12(b) of the Act: Names of each exchange on Title of each class which registered NONE Securities registered pursuant to Section 12(g) of the Act: Common Stock $1.00 par value per share (Title of Class) 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 periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements of the past 90 days. Yes X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. X The aggregate market value of the 1,518,946 shares of the Registrant's common stock held by nonaffiliates of the Registrant as of January 31, 1997, based on the average of the bid and asked price for such shares, was $48,796,140. APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS; Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes No (APPLICABLE ONLY TO CORPORATE REGISTRANTS) Indicate the number of shares outstanding of each of the registrant's classes of common stock as of the latest practicable date. There were 1,890,345 outstanding shares of the Registrant's common stock as of January 31, 1997. DOCUMENTS INCORPORATED BY REFERENCE (1)Portions of the annual report to stockholders for the year ended December 31, 1996, are incorporated by reference into Part I and Part II. (2)Portions of the definitive annual proxy statement to be filed, pursuant to Reg. 14A within 120 days after December 31, 1996, are incorporated into Part III. FRANKLIN FINANCIAL SERVICES CORPORATION FORM 10-K INDEX Part I Page Item 1. Business Item 2. Properties Item 3. Legal Proceedings Item 4. Submission of Matters to a Vote of Security Holders Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters Item 6. Selected Financial Data Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 8. Financial Statements and Supplementary Data Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Part III Item 10. Directors and Executive Officers of the Registrant Item 11. Executive Compensation Item 12. Security Ownership of Certain Beneficial Owners and Management Item 13. Certain Relationships and Related Transactions Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K Signatures Index of Exhibits PART I ITEM 1. Business General Franklin Financial Services Corporation (the "Corporation") was organized as a Pennsylvania business corporation on June 1, 1983 and is a registered bank holding company under the Bank Holding Company Act of 1956, as amended (the "BHCA"). On January 16, 1984, pursuant to a plan of reorganization approved by the shareholders of Farmers and Merchants Trust Company of Chambersburg ("F&M Trust" or "the Bank") and the appropriate regulatory agencies, the Corporation acquired all the shares of F&M Trust and issued its own shares to former F&M Trust shareholders on a share-for-share basis. On May 1, 1995, the Mont Alto State Bank, also a commercial bank and a subsidiary of the Corporation, was merged into Farmers and Merchants Trust Company. In addition, on December 29, 1995, Franklin Founders Life Insurance Company, a credit life reinsurance company and a subsidiary of the Corporation, was liquidated. The Corporation conducts all of its business through its only direct subsidiary, F&M Trust, which is wholly-owned. F&M Trust, established in 1906, is a full-service, Pennsylvania-chartered commercial bank and trust company which is not a member of the Federal Reserve System. The bank, which operates twelve full service offices in Franklin and Cumberland Counties, Pennsylvania, engages in general commercial, retail banking and trust services normally associated with community banks and the deposits are insured (up to applicable limits) by the Federal Deposit Insurance Corporation ("the FDIC"). A wide variety of banking services are offered by F & M Trust to businesses, individuals, and governmental entities. These services include, but are not necessarily limited to, accepting and maintaining checking, savings, and time deposit accounts, offering certificates of deposit in various forms and at various interest rates, providing mortgage and trust services, making loans and providing safe deposit facilities. The Corporation's subsidiary is not dependent upon a single customer or a few customers for a material part of its business. Thus, the loss of any customer or identifiable group of customers would not materially affect the business of the Corporation of F&M Trust in an adverse manner. Also, none of the Corporation's business is seasonal. The Bank's lending activities consist primarily of commercial, agricultural and industrial loans, installment and revolving loans to consumers, residential mortgage loans, and construction loans. Secured and unsecured commercial and industrial loans, including accounts receivable, inventory financing and commercial equipment financing, are made to small and medium-sized businesses, individuals, governmental entities, and non-profit organizations. F&M Trust also participates in the Pennsylvania Higher Education Assistance Act student loan program and the Pennsylvania Housing Finance Agency program. Installment loans involve both direct loans to consumers and the purchase of consumer obligations from dealers and others who have sold or financed the purchase of merchandise, including automobiles and mobile homes, to their customers on time. The Bank's mortgage loans include long-term loans to individuals and to businesses secured by mortgages on the borrower's real property. Construction loans are made to finance the purchase of land and the construction of buildings thereon, and are secured by short-term mortgages on real estate. In certain situations, the Bank acquires properties through foreclosure on delinquent loans. The Bank holds these properties until such time as they are in a marketable condition and a buyer can be obtained. F&M Trust's Trust Department offers all of the personal and corporate trust services normally associated with trust departments of area banks, including estate planning and administration, corporate and personal trust fund management, pension, profit sharing and other employee benefits funds management, custodial services, and trustee services for publicly issued debentures. Competition The Corporation and its subsidiary operate in a competitive environment that has intensified in the past few years as they have been compelled to share their market with institutions that are not subject to the regulatory restrictions on domestic banks and bank holding companies. Profit margins in the traditional banking business of lending and deposit gathering have declined as deregulation has allowed nonbanking institutions to offer alternative services to many of F&M Trust's customers. The principal market of F&M Trust is in Franklin County and western Cumberland County, Pennsylvania. Twelve commercial bank competitors of F&M Trust have offices in this region, in addition to credit unions, savings and loan associations, mortgage banks, brokerage firms and other competitors. F&M trust is the largest locally owned financial institution in Franklin County and had total assets of approximately $336,000,000 at December 31, 1996. All of the local commercial bank competitors of the corporation are subsidiaries of bank holding companies. The Corporation would rank sixth in size of the thirteen consolidated bank holding companies having offices in Franklin County. Staff As of December 31, 1996, the Corporation and its subsidiary had 161 full-time employees and 50 part-time employees. Most employees participate in pension, profit sharing/bonus, and employee stock purchase plans and are provided with group life, health and major medical insurance. Management considers employee relations to be excellent. Supervision and Regulation Various requirements and restrictions under the laws of the United States and under Pennsylvania law affect the Corporation and its subsidiaries. General The Corporation is registered as a bank holding company subject to supervision and regulation by the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") under the BHCA, as amended. As a bank holding company, the Corporation's activities and those of its banking and nonbanking subsidiaries are limited to the business of banking and activities closely related or incidental to banking. Bank holding companies are required to file periodic reports with and are subject to examination by the Federal Reserve Board. The Federal Reserve Board has issued regulations under the BHCA that require a bank holding company to serve as a source of financial and managerial strength to its subsidiary banks. As a result, the Federal Reserve Board, pursuant to such regulations may require the Corporation to stand ready to use its resources to provide adequate capital funds to its banking subsidiaries during periods of financial stress or adversity. The BHCA prohibits the Corporation from acquiring direct or indirect control of more than 5% of the outstanding shares of any class of voting stock or substantially all of the assets of any bank or merging or consolidating with another bank holding company without prior approval of the Federal Reserve Board. Similar restrictions currently apply to acquisition of control of shares of stock of the Corporation or its banking subsidiaries by other bank holding companies. Additionally, the BHCA prohibits the Corporation from engaging in or from acquiring ownership or control of more than 5% of the outstanding shares of any class of voting stock of any company engaged in a nonbanking business, unless such business is determined by the Federal Reserve Board to be so closely related to banking as to be a proper incident thereto. F&M Trust is not a member of the Federal Reserve System. Accordingly, its operations are subject to regulation and examination by the FDIC and by the Pennsylvania Department of Banking (the "PDOB"). F&M Trust is subject to requirements and restrictions under federal and state law, including requirements to maintain reserves against deposits, restrictions on the types and amount of loans that may be granted and the interest that may be charged thereon, and limitations on the types of investments that may be made and the types of services that may be offered. Various consumer laws and regulations also affect the operations of the Bank. In addition to the impact of regulation, commercial banks are affected significantly by the actions of the Federal Reserve Board as it attempts to control the money supply and credit availability in order to influence the economy. Capital Adequacy Guidelines Bank holding companies are required to comply with the Federal Reserve Board's risk-based capital guidelines. The required minimum ratio of total capital to risk-weighted assets (including certain off-balance sheet activities, such as standby letters of credit) is 8%. At least half of the total capital is required to be "Tier 1 capital," consisting principally of common shareholders' equity, less certain intangible assets. The remainder ("Tier 2 capital") may consist of certain preferred stock, a limited amount of subordinated debt, certain hybrid capital instruments and other debt securities, and a limited amount of the general loan loss allowance. The risk-based capital guidelines are required to take adequate account of interest rate risk, concentration of credit risk, and risks of nontraditional activities. In addition to the risk-based capital guidelines, the Federal Reserve Board requires a bank holding company to maintain a leverage ratio of a minimum level of Tier 1 capital (as determined under the risk-based capital guidelines) equal to 3% of average total consolidated assets for those bank holding companies which have the highest regulatory examination ratings and are not contemplating or experiencing significant growth or expansion. All other bank holding companies are required to maintain a ratio of at least 1% to 2% above the stated minimum. The Bank is subject to almost identical capital requirements adopted by the FDIC. The Bank is also subject to PDOB capital guidelines. Although not adopted in regulation form, the PDOB utilizes capital standards requiring a minimum of 6% leverage capital and 10% risk-based capital. The components of leverage and risk-based capital are substantially the same as those defined by the FDIC. Prompt Corrective Action Rules The Federal Deposit Insurance Act (the "FDIA") requires each Federal banking agency to specify by regulation the levels at which an insured institution would be considered "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" and "critically undercapitalized." The applicable federal bank regulator for a depository institution can, under certain circumstances, reclassify a "well capitalized" institution as "adequately capitalized" or require an "adequately capitalized" or "undercapitalized" institution to comply with supervisory actions as if it were in the next lower category. Such a reclassification could be made if the regulatory agency determines that the institution is in an unsafe or unsound condition (which could include unsatisfactory examination ratings). F&M Trust meets the criteria to be "well capitalized" within the meaning of applicable regulations. Regulatory Restrictions on Dividends Dividend payments by the Bank to the Corporation are subject to the Pennsylvania Banking Code of 1965 (the "Banking Code"), the FDIA, and FDIC regulations. Under the Banking Code, no dividends may be paid except from "accumulated net earnings" (generally retained earnings). The Federal Reserve Board and the FDIC have formal and informal policies which provide that insured banks and bank holding companies should generally pay dividends only out of current operating earnings, with some exceptions. Under the FDIA, no dividends may be paid by an insured bank if the bank is in arrears in the payment of any insurance assessment due to the FDIC. The Prompt Corrective Action rules also limit the payment of dividends by banks which are not classified as well capitalized or adequately capitalized. Under these policies and subject to the restrictions applicable to the Bank, the Bank could declare, during 1997, without prior regulatory approval, aggregate dividends of approximately $4.653 million, plus net profits earned to the date of such dividend declaration. FDIC Insurance Assessments The FDIC has implemented a risk-related premium schedule for all insured depository institutions that results in the assessment of premiums based on capital and supervisory measures. Under the risk-related premium schedule, the FDIC assigns, on a semiannual basis, each depository institution to one of three capital groups (well-capitalized, adequately capitalized or undercapitalized) and further assigns such institution to one of three subgroups within a capital group. The institution's subgroup assignment is based upon the FDIC's judgment of the institution's strength in light of supervisory evaluations, including examination reports, statistical analyses and other information relevant to measuring the risk posed by the institution. Only institutions with a total capital to risk-adjusted assets ratio of 10% or greater, a Tier 1 capital to risk-based assets ratio of 6% or greater, and a Tier 1 leverage ratio of 5% or greater, are assigned to the well-capitalized group. As of December 31, 1996, the Bank was well capitalized for purposes of calculating insurance assessments. The Bank Insurance Fund ("BIF") is presently fully funded at more than the minimum amount required by law. Accordingly, the 1997 BIF assessment rates range from zero for those institutions with the least risk, to $0.27 for every $100 of insured deposits for institutions deemed to have the highest risk. The Bank is in the category of institutions that presently pay nothing for deposit insurance. The FDIC adjusts the rates every six months. While the Bank presently pays no premiums for deposit insurance, it is subject to assessments to pay the interest on Financing Corporation ("FICO") bonds. FICO was created by Congress to issue bonds to finance the resolution of failed thrift institutions. Prior to 1997, only thrift institutions were subject to assessments to raise funds to pay the FICO bonds. On September 30, 1996, as part of the omnibus budget act, Congress enacted the Deposit Insurance Funds Act of 1996, which recapitalized the Savings Association Insurance Fund ("SAIF") and provided that BIF deposits would be subject to 1/5 of the assessment to which SAIF deposits are subject for FICO bond payments through 1999. Beginning in 2000, BIF deposits and SAIF deposits will be subject to the same assessment for FICO bonds. The FICO assessment for the Bank for the first six months of 1997 is $.0065 for each $100 of BIF deposits and $.0324 for each $100 of SAIF deposits. New Legislation The Deposit Insurance Funds Act of 1996 was a part of the larger Economic Growth and Regulatory Paperwork Reduction Act of 1996 ("EGRPRA"). EGRPRA is a lengthy Act that amends many different bank regulatory and consumer protection statutes. While EGRPRA does not contain any major changes to banking law (except for the FDIC and FICO assessments discussed above), it does contain a number of smaller provisions that are beneficial to the banking industry. In particular, certain routine regulatory application requirements and procedures have been reduced or eliminated, making it easier and less expensive for banks to comply with regulatory requirements. While the changes effected by EGRPRA are welcome, the direct effect on the Corporation and the Bank are expected to be minimal. Proposed legislation is introduced in almost every legislative session that would dramatically affect the regulation of the banking industry. Whether or not such legislation will ever be enacted and what effect it may have on the Corporation and the Bank cannot be estimated at this time. Interstate Banking Prior to the passage of the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the "Interstate Banking Act"), the BHCA prohibited a bank holding company located in one state from acquiring a bank located in another state, unless such an acquisition by an out-of-state bank holding company was specifically authorized by the law of the state where the bank to be acquired was located. Similarly, interstate branching was generally prohibited by the McFadden Act. The Interstate Banking Act permits an adequately capitalized and adequately managed bank holding company to acquire a bank in another state, whether or not the law of that other state permits the acquisition, subject to certain deposit concentration caps and the approval of the Federal Reserve Board. In addition, beginning on June 1, 1997, under the Interstate Banking Act, a bank can engage in interstate expansion by merging with a bank in another state or acquiring the assets and liabilities of a bank in another state and also may consolidate the acquired bank into new branch offices of the acquiring bank, unless the other state affirmatively opts out of the legislation before that date. A state may also opt into the legislation earlier than June 1, 1997 if it wishes to do so. The Interstate Banking Act also permits de novo interstate branching as of June 1, 1997, but only if a state affirmatively opts in by adopting appropriate legislation. Pennsylvania, Delaware, Maryland, and New Jersey, as well as other states, adopted "opt in" legislation which allows such transactions prior to the June 1, 1997 federal effective date. Selected Statistical Information Certain statistical information is included in the Corporation's 1996 Annual Report and is incorporated herein by reference Description of Statistical Information Annual Incorporated by Reference from the Report 1996 Annual Report Page Net Interest Income 36 Analysis of Net Interest Income 37 Deposits by Major Classification 37 Rate-Volume Analysis of Net Interest Income 38 Investment Securities at Amortized Cost 40 Time Certificates of Deposit of $100,000 or More 41 Short-Term Borrowings 42 Loan Portfolio 44 Allocation of the Allowance for Possible Loan Losses 44 Non-Performing Assets 45 Allowance for Possible Loan Losses 45 Interest Rate Sensitivity 47 Maturity Distribution of Investment Portfolio 48 Maturities and Interest Rate Terms of Loans 49 Item 2. Properties The Corporation's headquarters is located in the main office of F&M Trust at 20 South Main street, Chambersburg, Pennsylvania. The Corporation owns eight properties throughout Franklin County which are held for future expansion and are currently leased to others or used for banking operations by F&M Trust. In addition to the main office, F&M Trust owns eleven, and leases two properties which are used for banking offices and operations. F&M Trust also owns two properties which are held for expansion and are currently leased to others. Item 3. Legal Proceedings None. Item 4. Submission of Matters to a Vote of Security Holders None. PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters The information related to this item is incorporated by reference to the information appearing under Market and Dividend Information on Page 12 and Shareholders' Information on Page 55 of the Corporation's 1996 Annual Report to Shareholders. Item 6. Selected Financial Data The information related to this item is incorporated by reference to the information appearing under Summary of Selected Financial Data on Page 3 of the Corporation's 1996 Annual Report to Shareholders. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations The information related to this item is incorporated by reference to the information appearing under Management's Discussion and Analysis on Pages 35 through 50 of the Corporation's 1996 Annual Report to Shareholders. Item 8. Financial Statements and Supplementary Data The information related to this item is incorporated by reference to the information appearing under Financial Statements and Notes to Consolidated Financial Statements, including the Report of Independent Public Accountants, on Pages 13 through 34 of the Corporation's 1996 Annual Report to Shareholders. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None. PART III Item 10. Directors and Executive Officers of the Registrant The information related to this item is incorporated by reference to the material set forth under the captions "Information about Nominees and Continuing Directors" on Pages 4 through 6, and "Executive Officers" on Page 7 of the Corporation's Proxy Statement for the 1997 Annual Meeting of Shareholders. Item 11. Executive Compensation The information related to this item is incorporated by reference to the material set forth under the captions "Compensation of Directors" on Page 7 and "Executive compensation and Related Matters" on Pages 8 through 13 of the Corporation's Proxy Statement for the 1997 Annual Meeting of Shareholders, except that information appearing under the captions "Compensation Committee Report on Executive Compensation" and "Stock Performance Graph" on pages 10 through 13 is not incorporated herein by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management The information related to this item is incorporated by reference to the material set forth under the captions "Voting of Shares and Principal Holders Thereof" on Page 2 and 3 and"Information about Nominees and Continuing Directors" on Pages 4 through 6 of the Corporation's Proxy Statement for the 1997 Annual Meeting of Shareholders. Item 13. Certain Relationships and Related Transactions The information related to this item is incorporated by reference to the material set forth under the caption "Transactions with Directors and Executive Officers" on Page 14 of the Corporation's Proxy Statement for the 1997 Annual Meeting of Shareholders. PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (a) The following documents are filed as part of this report: (1) The following Consolidated Financial Statements of the Corporation are incorporated by reference to the 1995 Annual Report to Shareholders: Report of Independent Public Accountants; Consolidated Balance Sheets - December 31, 1996 and 1995; Consolidated Statement of Income - Years ended December 31, 1996, 1995, and 1994; Consolidated Statements of Changes in Shareholders' Equity - Years ended December 31, 1996, 1995, and 1994; Notes to Consolidated Financial Statements. (2) All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and have therefore been omitted. (3) The following exhibits are being filed as part of this report; 3.1 Articles of Incorporation of the Corporation. Filed as Exhibit 4 to Registration Statement on Form S-8 (No.33-36509) and incorporated herein by reference. 3.2 Bylaws of the Corporation. Filed as Exhibit 4 to Registration Statement on Form S-8 (No.33-36509) and incorporated herein by reference. 10.1 Deferred Compensation Agreements with Bank Directors. Filed as Exhibit 10.1 to the 1995 Form 10-K -- Annual Report of the Corporation and incorporated herein by reference. 10.2 Director's Deferred Compensation Plan. Filed as Exhibit 10.2 to the 1995 Form 10-K -- Annual Report of the Corporation and incorporated herein by reference. 10.3 Long-Term Incentive Plan of 1990. Filed as Exhibit 10.3 to the 1995 Form 10-K -- Annual Report of the Corporation and incorporated herein by reference. 10.4 Senior Management Incentive Program, as amended, October 15, 1992. Filed as Exhibit 10.5 to the 1993 Form 10-K -- Annual report of the Corporation and incorporated herein by reference. 11 Statements re: computation of per share earnings. 13 The 1996 Annual Report to Shareholders of the Corporation. 22 Subsidiaries of the Corporation. 23 Consent of Arthur Andersen LLP 27 Financial Data Schedule (b) Reports on Form 8-K:None (c) The exhibits required to be filed as part of this report are submitted as a separate section of this report. (d) Financial Statement Schedules: None. SIGNATURES Pursuant to the requirements of section 13 or 15(d) of the Securities and Exchange act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. FINANCIAL SERVICES CORPORATION By: /s/ William E. Snell, Jr. Date: March 13, 1997 President and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Signature Title Date /s/ Jay L. Benedict, Jr. Chairman of the Board March 13, 1997 Jay L. Benedict, Jr. and Director /s/ Robert G. Zullinger Vice Chairman of the March 13, 1997 Robert G. Zullinger Board and Director /s/ William E. Snell, Jr. President, William E. Snell, Jr. Chief Executive Officer March 13, 1997 and Director /s/ Charles S. Bender II Executive Vice March 13, 1997 Charles S. Bender II President and Director /s/ Frank S. Elliott Sr. Vice President March 13, 1997 Frank S. Elliott /s/ Elaine G. Meyers Treasurer and Chief March 13, 1997 Elaine G. Meyers Financial Officer /s/ Charles R. Diller Director March 13, 1997 Charles R. Diller /s/ G. Warren Elliott Director March 13, 1997 G. Warren Elliott /s/ John M. Hull III Director March 13, 1997 John M. Hull III /s/ H. Huber McCLeary Director March 13, 1997 H. Huber McCleary /s/ Jeryl C. Miller Director March 13, 1997 Jeryl C. Miller /s/ Charles M. Sioberg Director March 13, 1997 Charles M. Sioberg Form 10-K December 31, 1996 Signature Page (continued) /s/ Director March 13, 1997 Martha B. Walker /s/ Director March 13, 1997 Dennis W. Good, Jr. /s/ Omer L. Eshleman Director March 13, 1997 Omer L. Eshleman Exhibit Index for the Year Ended December 31, 1996 Item Description 3.1 Articles of Incorporation of the Corporation. Filed as Exhibit 4 Registration on Form S-8 (No. 33-36509) and incorporated herein by reference. 3.2 Bylaws of the Corporation. Filed as Exhibit 4 Registration on Form S-8 (No. 33-36509) and incorporated herein by reference. 10.1 Deferred Compensation Agreements with Bank Directors. Filed as Exhibit 10.1 to the 1995 Form 10-K -- Annual Report of the Corporation and incorporated herein by reference. 10.2 Director's Deferred Compensation Plan. Filed as Exhibit 10.2 to the 1995 Form 10-K -- Annual Report of the Corporation and incorporated herein by reference. 10.3 Long-Term Incentive Plan of 1990. Filed as Exhibit 10.3 to the 1995 Forom 10-K -- Annual Report of the Corporation and incorporated herein by reference. 10.4 Senior Management Incentive Program, as amended, October 15, 1992. Filed as Exhibit 10.5 to the 1993 Form 10-K -- Annual Report of the Corporation and incorporated herein by reference. 11 Statements re: computation of per share earnings 13 The 1996 Annual Report to Shareholders of the Corporation 22 Subsidiaries of Corporation 23 Consent of Arthur Andersen LLP 27 Financial Data Schedule EX-11 2
EXHIBIT 11 COMPUTATION OF PER SHARE EARNINGS For the Years Ended December 31 1996 1995 Primary Earnings Fully Primary Earnings Fully Per Share(2) Diluted Per Share(2) Diluted Earnings Earnings as Reported as Adjusted Per Share as Reported as Adjusted Per Share Computation of earnings per common share: Shares Weighted average shares outstanding 1,878,379 1,878,379 1,878,379 1,921,476 1,921,476 1,921,476 Equivalent shares from exercise of dilutive stock equivalents -- 13,378 17,745 --- 25,778 30,150 1,878,379 1,891,757 1,896,124 1,921,476 1,947,254 1,951,626 Net Income $4,127,000 $4,127,000 $4,127,000 $4,179,000 $4,179,000 $4,179,000 Earnings per common share Net Income $2.20 $2.18 $2.18 $2.17 $2.15 $2.14 (1) Primary earnings per share "as reported" exclude the effect of the options issued under the Incentive Stock Option Plan, the Employee Stock Purchase Plan, and the restricted stock issued under the Long-Term Incentive Plan of 1990, as the effect of the equivalent shares on the earnings per share calculation is less than 3%. Primary earnings per share "as adjusted" include the effect of the options and restricted stock. (2) Primary earnings per share "as reported" exclude the effect of the options issued under the Employee Stock Purchase Plan and the restricted stock issued under the Long-Term Incentive Plan of 1990, as the effect of the equivalent shares on the earnings per share calculation is less than 3%. Primary earnings per share "as adjusted" include the effect of the options and restricted stock.
EXHIBIT 11 COMPUTATION OF PER SHARE EARNINGS For the Years Ended December 31 1994 Primary Earnings Fully Per Share(1) Diluted Earnings as Reported as Adjusted Per Share Computation of earnings per common share: Shares Weighted average shares outstanding 1,961,419 1,961,419 1,961,419 Equivalent shares from exercise of dilutive stock equivalents --- 31,882 31,895 1,961,419 1,993,301 1,993,314 Net Income $3,760,000 $3,760,000 $3,760,000 Earnings per common share Net Income $1.92 $1.89 $1.89 (1) Primary earnings per share "as reported" exclude the effect of the options issued under the Incentive Stock Option Plan, the Employee Stock Purchase Plan, and the restricted stock issued under the Long-Term Incentive Plan of 1990, as the effect of the equivalent shares on the earnings per share calculation is less than 3%. Primary earnings per share "as adjusted" include the effect of the options and restricted stock. (2) Primary earnings per share "as reported" exclude the effect of the options issued under the Employee Stock Purchase Plan and the restricted stock issued under the Long-Term Incentive Plan of 1990, as the effect of the equivalent shares on the earnings per share calculation is less than 3%. Primary earnings per share "as adjusted" include the effect of the options and restricted stock.
EX-13 3 FRANKLIN FINANCIAL SERVICES CORPORATION 1996 ANNUAL REPORT President's Message Dear Shareholder, 1996 was a year of renewal and positioning for the future at Franklin Financial. While your company recorded earnings of $4,127,000, this represented a modest decline from 1995 earnings of $4,179,000. 1996 earnings performance was impacted by expenses related to technology investments, an increased provision for loan losses, and our market expansion into Cumberland County during the fourth quarter. As shareholders, you received an 8.3% increase in dividends during the year as per share dividends increased from $.72 in 1995 to $.78 in 1996. The book value of a single share of Franklin Financial stock increased from $18.02 to $18.70 and market value improved as well, from $27.25 to $32.13. These values were adjusted to reflect the 3 for 2 stock split in the form of a 50% stock dividend distributed on December 29, 1995. Part of your management's continuing efforts to enhance long-term shareholder value includes our stock repurchase program to effectively manage our capital position. During the year, we purchased 88,604 shares at a cost of $2,682,500. Many analysts believe that repurchase programs should be viewed as a strategic acquisition, resulting in increased earnings per share and return on equity, as well as potentially higher stock prices to the continuing shareholders. The impact of this strategy is reflected in the increase in earnings per share from $2.17 in 1995 to $2.20 in 1996. Assets at the end of 1996 reached a record $336,120,000, an increase of 7.2% over assets of $313,473,000 on December 31, 1995. The 5% year-to-year growth in our loan portfolio reflects an acceleration in the fourth quarter which is quite promising after three consecutive relatively flat years, giving us added optimism to our projection of more asset growth with emerging development and penetration into the Cumberland County market. Preparing for future growth and service delivery, we made a number of investments in technology, including installing a digital image processing system, streamlining loan operations and introducing a debit card, which benefit our company through the reduction of processing expenses and increases in noninterest income. We are carefully monitoring the payback on these investments, to ensure that they are within anticipated time frames. Our market expansion into Cumberland County impacted earnings by increasing salary and benefits, facilities, marketing and other expenses. Unlike most branch acquisitions, the transaction to purchase the former PNCBank offices did not include customer deposits and loans. We simply bought the facilities and retail customer lists, thereby absorbing overhead expense without an immediate corresponding revenue stream. The new deposit and loan activity generated at these offices through the end of the first quarter of 1997 is very encouraging. We expect that our investment in these new markets will provide us with the potential for a significant increase in assets and additional income generation capability, and will enhance long-term value to our shareholders in the years ahead. In addition to the new offices in Boiling Springs, Newville, and Shippensburg, we opened a new office at the Penn Hall campus in Chambersburg which has already far exceeded our first-year projections. Net interest income after the provision for loan losses slipped 2.6% to $13,105,000, largely as a result of an increased provision for possible loan losses. The trend of rising consumer bankruptcies that began in the fourth quarter of 1995 continues to loom as a negative factor. Management acted prudently to increase the loan loss provision expense and intends to closely monitor the credit quality of our loan portfolio to ensure that we remain adequately reserved. Noninterest income showed an 11.0% increase over 1995 results. As our investment and trust service business continues to expand and develop, trust assets under management grew to $262,840,000 by year end, a 17.3% increase from a year earlier. Other contributors to noninterest income included security sales, the sale of real estate and other assets related to our former real estate brokerage subsidiary, and sales of mortgages into the secondary market. Meanwhile, other noninterest expenses increased by only 1.2% to $11,372,000 and were positively impacted by the reduction in FDIC insurance premiums. Clearly we have a number of strategic initiatives before us that we must implement in order to be successful in our mission. Among these are the need to be attentive to increased non-bank competition and the challenge of maintaining our net interest margin and growing our net interest income. We will also continue to be challenged to maintain loan quality. As a community bank, I also feel that we must capitalize on the competitive opportunities presented by increasingly affordable technology as well as by the continuing consolidation trend in the banking industry. Before I conclude this letter, I want to express my appreciation to Bob Zullinger and the other members of the board of directors for giving me the opportunity to serve as your president and chief executive officer as well as for their continued support and guidance. My personal pledge remains to work effectively and diligently to uphold the values that have guided our company for the past nine decades and to achieve our mission. At Franklin Financial and F&M Trust, our commitment continues to be to quality service: providing excellent customer service to produce quality earnings. It is our belief that the delivery of quality service by our employees to customers and our communities is the cornerstone for quality earnings to you our shareholders. This is how we will prosper as an independent, locally owned community bank. Our core values --- proactivity, honesty and integrity, teamwork, and a concern for the individual --- will serve as our road map to achieve our mission and guide us as we act as a good corporate citizen within our communities. Our continued success ultimately is linked to successfully serving our constituencies --- our shareholders, our customers, our employees, and our communities. The long-term value of our company has been placed in our stewardship, and we intend to work toward this benefit. Sincerely, William E. Snell, Jr. President and Chief Executive Officer 1996 - A Year of Growth and Expansion F&M Trust Company celebrated its 90th anniversary in 1996. Throughout the nine decades that the bank has endured, developed and prospered as an independent community bank, the economic, cultural, and business climates have changed, progressed and reoccured over the years. The success of F&M Trust is attributable to many individuals but is truly the result of core values and commitments to quality service, performance, and the ability to change. While it is often said that things change, people make change possible --- they are leaders, pioneers, change agents. One of the most significant change agents in the company's history, Robert G. Zullinger, retired from the banking profession in June of 1996 following 46 years of service to F&M Trust. Bob held just about every position there was at the bank as he climbed the corporate ladder. His resume' includes teller, bookkeeper, manager of the installment loan department, trust officer, loan officer, vice president, and eventually president and chief executive officer. His day-to-day energy and insight have been missed but his experience and depth of knowledge continues to benefit the bank through his contributions as an advisor to the company and as vice chairman of the Board of Directors. In keeping with change and progress, F&M Trust moved forward with strategic initiatives focused upon technology, training and growth that are designed to promote the bank's mission of exceptional quality service and enhanced long-term shareholder value as an independent community bank. Reengineering operations systems was a major part of F&M Trust's technology investment with a primary focus on improvements to quality service and cost reduction. Early in the year the bank purchased and installed a digital image processing system. The system creates digitized images of checks and deposit items that can be processed less expensively and more quickly than paper documents. The images of the documents are captured and stored on optical disks. Optical disk platters archive images for easy retrieval and research. The system benefits the bank through increased productivity by reducing the storage space needed for processed documents, lowering postage expense, improving the efficiency of statement printing and distribution, and enhancing signature verification and research. Customers receive a clear, easy-to-read and easy-to-file statement which includes images of their checks and improved responsiveness to requests for cancelled check information and research. The system also allows F&M Trust to provide additional services to better meet the needs of individuals and businesses. By the end of the year, nearly 99.5% of bank customers were receiving only imaged statements. The image processing system has improved productivity and efficiency in document processing, and is meeting management's projected return on investment. Loan operations were streamlined through enhancements made to the loan system through a conversion to the BancSource(TM) system. The improvements have effectively channeled paper flow while creating greater customer service opportunities. In July, the Freedom Card, a MasterMoney(TM) debit card, was introduced. The Freedom Card looks like a credit card but it works more like an ATM card and a check. Customers can pay for goods and services at MasterCard locations and the amount of their purchases is deducted directly from their checking account. The card also works like an ATM card so customers can get cash, make deposits, transfer funds between accounts, and more through automated teller machines on the MAC(R) or CIRRUS(R) networks. The Freedom Card reduces processing expense since there are fewer checks to process and provides additional noninterest income for the bank. Since the technology represented by these processing systems and the Freedom Card is only a delivery vehicle, it must be driven by people. Training people to effectively utilize new technology is often of greater importance than the technology itself. All employees now have faster access to information through a wide area network of personal computers. F&M Trust employees made a considerable commitment to increasing their knowledge and application of these enhancements to improve productivity and efficiency. Employees also are exposed to developmental opportunities through an association with the Covey Leadership Center which promotes their effectiveness as individuals as well as bank employees. Through various other training and educational offerings, they have exhibited a commitment to improve their technical and customer relations skills. Many bank employees assisted in the training of new employees hired to staff the new offices in Boiling Springs, Newville, and Shippensburg. These three offices, located in buildings previously operated as PNCBank branches, grew F&M Trust's service area which now extends from Waynesboro to the Carlisle area. In addition to these new offices, the bank opened a new office at the Penn Hall campus of Menno Haven retirement community earlier in the year, bringing the number of community offices to a dozen. Expansion wasn't limited to banking offices. As legislation removed some of the barriers between banking and insurance powers, F&M Trust was expanding its investment and trust services into the retail banking environment with the Personal Investment Center. The Personal Investment Center is located in the Memorial Square Office lobby and offers financial planning, investment management and retirement planning services. The center is staffed by Certified Financial Planner Kevin Shoemaker who offers investment planning that may include alternative non-bank financial products like annuities and mutual funds as well as discount brokerage services to better meet the needs of a wider base of customers. The investment and trust services department continued to develop additional clients and focused new efforts towards businesses in a joint effort with the commercial services department to provide employee benefit and 401(k) plans. The commercial services department proactively attracted new business customers for bill paying, investment, and lending services. Participating with other lending institutions provided commercial services with the opportunity to generate additional loans and grow revenues. Serving families and individuals through mortgage lending and retail services continued to be a significant portion of the bank's business. F&M Trust further established itself as the market leader in mortgages in 1996, as the volume of closed mortgages increased 40.3%. During the year, two new mortgage products were introduced: the "5/1" and "10/1" mortgages. Both of these products are hybrid adjustable rate mortgages that offer a fixed rate, either for the first five years or for the first ten years. F&M Trust also remained very active in first-time home buyer lending through Pennsylvania Housing Finance Agency (PHFA) financing and offers Federal Home Administration (FHA) and Veterans Administration (VA) financing. Retail services, including deposit services and lending, remained integral to business largely due to the delivery of quality service by our staff. Service excellence is critical for a community bank to differentiate itself from its competition. By knowing customers, listening to their needs, responding in a timely and professional manner with the most appropriate services that meet their needs, and exceeding their expectations, bank employees provide the high level of customer service that is necessary. Part of the quality equation also includes F&M Trust's commitment to the community, and the bank and its employees shine in this arena. For years the bank has been looked upon as the community leader for involvement and support, and that continues today. Giving back to the community through donations and financial support is only a small part of what you'll find at F&M Trust. You'll also find a commitment to get involved, have an impact, and make a difference in the lives of others, whether it be to preserve history, conserve the environment, help the less fortunate help themselves, or act as role models for youth. Even as much as the bank expanded and grew in the past year, don't expect a slow down in 1997. Additional strategic initiatives are underway to introduce a telephone banking service called the Freedom Access Center enabling customers to get account information and conduct banking business over the telephone, 24 hours a day, 7 days a week. In order to serve customers more effectively, a Marketing Customer Information File (MCIF) system will be installed. This will enable bank employees to look at a customer's overall relationship of accounts and services and make recommendations to better meet customer needs. Several new deposit products are also being examined that would offer customers benefits for relationship banking. Product enhancements will be supported by improvements in service delivery through additional customer service training, leadership training, lending training and operations systems enhancements in 1997. All in all, management expects that 1997 will be another year of growth, expansion, and solidifying the company's position to improve service delivery and provide for additional long-term shareholder value.
CONSOLIDATED FINANCIAL HIGHLIGHTS Twelve Months Ended December 31 % increase (amounts in thousands, except per share) 1996 1995 (decrease) Performance Net income $4,127 $4,179 (1) Return on assets 1.29% 1.34% Return on equity 11.83% 12.50% Shareholders' Value (per share) Net income $2.20 $2.17 1 Dividends 0.78 0.72 8 Book value 18.70 18.02 4 Market value 32.13 27.25 Market value/book value ratio 171.82% 151.22% Price/earnings multiple 14.60x 12.56x Dividend yield 2.43% 2.64% Safety and Soundness Shareholders' equity/asset ratio 10.03% 10.77% Nonperforming assets/total assets 0.54% 0.65% Allowance for loan loss as a % of loans 1.36% 1.47% Net charge-offs/average loans 0.32% 0.27% Allowance for loan loss/nonaccrual loans 357.48% 468.11% Allowance for loan loss/nonperforming loans 176.88% 175.08% Risk-based capital (Tier 1) 14.75% 16.41% Balance Sheet Highlights Total assets $336,120 $313,473 7 Investment Securities 89,792 77,342 16 Loans, net 221,166 210,067 5 Deposits 268,202 257,211 4 Shareholders' equity 35,341 34,956 1 Trust assets under management (market value) 262,840 224,163 17
SUMMARY OF SELECTED FINANCIAL DATA 1996 1995 1994 1993 1992 (amounts in thousands, except per share) Summary of operations Interest income $24,799 $24,971 $22,028 $21,559 $23,245 Interest expense 11,087 11,210 9,720 10,120 11,901 Net interest income 13,712 13,761 12,308 11,439 11,344 Provision for possible loan losses 607 302 48 701 1,281 Net interest income after provision for possible loan losses 13,105 13,459 12,260 10,738 10,063 Other income 3,773 3,400 3,604 5,048 4,117 Other expenses 11,372 11,229 11,104 11,817 10,857 Income before income taxes and cumulative effect of accounting change 5,506 5,630 4,760 3,969 3,323 Income tax 1,379 1,451 1,000 897 617 Income before cumulative effect of accounting change 4,127 4,179 3,760 3,072 2,706 Cumulative effect of accounting change -- -- -- 250 - Net income $4,127 $4,179 $3,760 $3,322 $2,706 Per common share* Net income before cumulative effect of accounting change $2.20 $2.17 $1.92 $1.59 $1.41 Cumulative effect of accounting change -- -- -- 0.12 - Net income $2.20 $2.17 $1.92 $1.71 $1.41 Cash dividends $0.78 $0.72 $0.65 $0.61 $0.55 Balance sheet data End of year Total assets $336,120 $313,473 $310,554 $314,557 $307,252 Deposits 268,202 257,211 256,697 262,707 266,836 Loans, net 221,166 210,067 219,311 210,663 210,870 Shareholders' equity 35,341 34,956 32,873 30,618 27,653 Performance yardsticks (unaudited) Return on average assets 1.29% 1.34% 1.21% 1.07% 0.92% Return on average equity 11.83% 12.50% 11.82% 11.49% 10.16% Dividend payout ratio 36.42% 33.98% 32.55% 32.54% 34.35% Average equity to average asset ratio 10.87% 10.69% 10.26% 9.33% 9.02% Trust assets under management (unaudited) Personal trusts (market value) $261,803 $223,230 $182,872 $182,184 $157,537 Corporate trusts (market value) 1,037 933 1,611 1,747 1,508 $262,840 $224,163 $184,483 $183,931 $159,045 * Per share information has been adjusted retroactively to reflect all stock splits and dividends.
Market and Dividend Information The Corporation's common stock is not actively traded in the over-the-counter market. The Corpoation stock is listed under the symbol "FRAF" on the O.T.C. Electronic Bulletin Board, an automated quotation service, made available through, and governed by, the NASDAQ system. Current price information is available from account executives at most brokerage firms as well as the registered market makers of Franklin Financial Services Corporation common stock. (See a listing of market makers on page 55 of this report.) There were 1,717 shareholders of record as of December 31, 1996. The range of high and low bid prices, as reported by local sources, are shown below for the years 1996 and 1995. Also shown are the quarterly cash dividends paid for the same years. Per share Per share 1996 High Low Cash div. 1995 High* Low* Cash div. 1st quarter . . . $28.75 $26.25 $0.19 1st quarter . . . $22.83 $22.17 $0.17 2nd quarter . . . 30.00 28.75 0.19 2nd quarter . . . 22.83 22.17 0.17 3rd quarter . . . 31.25 30.00 0.20 3rd quarter . . . 23.83 22.83 0.19 4th quarter . . . 31.25 31.25 0.20 4th quarter . . . 26.25 23.83 0.19 $0.78 $0.72 *Bid prices have been adjusted retroactively to reflect all stock splits and dividends. Cash dividend per share have been adjusted to reflect the 3 for 2 stock split issued in the form of a 50% stock dividend distributed on December 29, 1995.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Shareholders and Board of Directors, Franklin Financial Services Corporation: We have audited the accompanying consolidated balance sheets of FRANKLIN FINANCIAL SERVICES CORPORATION (a Pennsylvania corporation) and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of FRANKLIN FINANCIAL SERVICES CORPORATION and subsidiaries as of December 31, 1996 and 1995, and the results of their operations and cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. Arthur Andersen LLP Lancaster, PA January 28, 1997 Consolidated Balance Sheets (Amounts in thousands, except per share data) December 31 1996 1995 Assets Cash and due from banks (Note 3) $10,265 $8,244 Interest-bearing deposits in other banks 256 6,660 Investment securities held to maturity (market value of $36,199 and $35,563 at December 31, 1996 and 1995, respectively) (Notes 1 and 4) 36,290 35,317 Investment securities available for sale (Notes 1 and 4) 53,502 42,025 Loans, net (Notes 1 and 5) 221,166 210,067 Premises and equipment, net (Notes 1 and 7) 6,698 5,645 Other assets 7,943 5,515 Total assets $336,120 $313,473 Liabilities Deposits (Note 8) Demand (noninterest-bearing) $34,847 $31,609 Savings and interest checking 104,763 99,049 Time 128,592 126,553 Total Deposits 268,202 257,211 Securities sold under agreements to repurchase(Note 9) 15,122 13,611 Other borrowings (Note 9) 14,891 5,650 Other liabilities 2,564 2,045 Total liabilities 300,779 278,517 Commitments and contingencies (Notes 13 and 15) Shareholders' equity (Notes 2, 12 and 14) Common stock, $1 par value per share, 5,000 shares authorized with 2,030 shares issued and 1,890 and 1,940 outstanding at December 31, 1996 and 1995, respectively 2,030 2,030 Capital stock without par value, 5,000 shares authorized with no shares issued and outstanding - - Additional paid-in capital 19,745 19,431 Retained earnings 17,590 14,966 Net unrealized gain on securities 613 677 Treasury stock (3,830) (2,053) Unearned compensation (Note 11) (807) (95) Total shareholders' equity 35,341 34,956 Total liabilities and shareholders' equity $336,120 $313,473 The accompanying notes are an integral part of these statements.
Consolidated Statements of Income (Amounts in thousands, except per share data) Years ended December 31 1996 1995 1994 Interest income (Note 1) Interest on loans $19,903 $20,280 $17,723 Interest on deposits and other obligations of other banks 210 683 45 Interest on Federal funds sold - 9 3 Interest on investments: U.S. Government obligations 311 283 322 Obligations of U.S. Government agencies and corporations 2,542 1,893 1,638 Obligations of states and political subdivisions 999 1,096 1,295 Other securities 695 585 876 Dividend income 139 142 126 Total interest income 24,799 24,971 22,028 Interest expense Interest on deposits (Note 8) 9,848 10,119 8,824 Interest on securities sold under agreements to repurchase 762 639 212 Other borrowings 477 452 684 Total interest expense 11,087 11,210 9,720 Net interest income 13,712 13,761 12,308 Provision for possible loan losses (Notes 1 and 6) 607 302 48 Net interest income after provision for possible loan losses 13,105 13,459 12,260 Noninterest income Trust commissions 1,175 1,166 1,038 Service charges, commissions and fees 1,861 1,930 1,948 Other 571 294 399 Securities gains 166 10 219 Total noninterest income 3,773 3,400 3,604 Noninterest expense Salaries and employee benefits 6,406 6,100 5,774 Net occupancy expense 524 517 505 Furniture and equipment expense 751 762 750 FDIC insurance 163 323 580 Other 3,528 3,527 3,495 Total noninterest expense 11,372 11,229 11,104 Income before Federal income taxes 5,506 5,630 4,760 Federal income tax expense (Note 10) 1,379 1,451 1,000 Net income $4,127 $4,179 $3,760 Earnings per share (Note 1)* Net income per share $2.20 $2.17 $1.92 * Net income per share computations for 1994 have been adjusted to reflect a 3 for 2 stock split issued in the form of a 50% stock dividend distributed on December 29, 1995. The accompanying notes are an integral part of these statements.
Consolidated Statements of Changes in Shareholders' Equity For years ended December 31, 1996, 1995 and 1994: Additional Net Unrealized Common Paid-in Retained Gain(Loss)on Treasury Unearned (Amounts in thousands, except Stock Capital Earnings Securities Stock Compensation Total per share data) Balance at December 31, 1993 $1,231 $15,493 $14,358 $302 ($154) ($612) $30,618 Year ended December 31, 1994 Net income - -- 3,760 - - - 3,760 Cash dividends, $.65 per share (1,224) - - - (1,224) 10% stock dividend 122 3,888 (4,010) - - - - Common stock issued under stock option plans (Note 12) - 70 - - 147 - 217 Net unrealized gain on securities (Note 1 and Note 4) - - - (655) - - (655) Acquisition of 842 shares of treasury stock at cost - - - - (29) - (29) Amortization of unearned compensation (Note 11) - - - - - 186 186 Balance at December 31, 1994 1,353 19,451 12,884 (353) (36) (426) 32,873 Year ended December 31, 1995 Net income - - 4,179 - - - 4,179 Cash dividend, $.72 per share - - (1,420) - - - (1,420) 50% stock dividend 677 - (677) - - - - Common stock issued under stock option plans (Note 12) - (20) - - 218 - 198 Change in net unrealized loss on securities (Note 1 and Note 4) - - - 1,030 - - 1,030 Acquisition of 64,741 shares of treasury stock at cost - - - - (2,235) - (2,235) Amortization of unearned compensation (Note 11) - - - - - 331 331 Balance at December 31, 1995 2,030 19,431 14,966 677 (2,053) (95) 34,956 Year ended December 31, 1996 Net income - - 4,127 - - - 4,127 Cash dividends, $.78 per share - - (1,503) - - - (1,503) Common stock issued under stock option plans (Note 12) - (33) - - 233 - 200 Change in net unrealized gain on securities (Note 1 and Note 4) - - - (64) - - (64) Restricted stock issued under long-term incentive compensation plan (28,926 shares, net of forfeitures) - 177 - - 672 (849) - Acquisition of 88,604 shares of treasury stock at cost - - - - (2,682) - (2,682) Tax benefit of restricted stock transaction - 170 - - - - 170 Amortization of unearned compensation (Note 11) - - - - - 137 137 Balance at December 31, 1996 $2,030 $19,745 $17,590 $613 ($3,830) ($807) $35,341 Cash dividends in 1994 have been adjusted to reflect a 3 for 2 stock split issued in the form of a 50% stock dividend distributed on December 29, 1995. The accompanying notes are an integral part of these statements.
Consolidated Statements of Cash Flows Years ended December 31 1996 1995 1994 (Amounts in thousands) Cash flows from operating activities Net income $4,127 $4,179 $3,760 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 741 627 620 Premium amortization on investment securities 107 74 264 Discount accretion on investment securities (129) (173) (151) Provision for possible loan losses 607 302 48 Securities gains, net (166) (10) (219) Proceeds from sale of mortgage loans 15,225 15,076 7,680 Principal gains on sales of mortgage loans (71) (61) (47) Gain on sale of premises and equipment (196) (25) (116) Loan charge-offs, net of recoveries (688) (586) (221) Increase in interest receivable (138) (214) (165) Increase in interest payable 117 169 155 (Decrease) Increase in unearned discount (361) (591) 686 (Increase)Decrease in prepaid and other assets (432) (615) 88 Increase(Decrease) in accrued expenses and other liabilities 436 (893) 189 Other , net 305 366 180 Net cash provided by operating activities 19,484 17,625 12,751 Cash flows from investing activities Proceeds from sales of investment securities available for sale 334 - 757 Proceeds from maturities of investment securities held to maturity 11,026 18,172 21,850 Proceeds from maturities of investment securities available for sale 12,641 6,633 4,793 Purchase of investment securities held to maturity (11,999) (9,250) (13,438) Purchase of investment securities available for sale (24,360) (18,651) (967) Net change in loans (25,811) (4,896) (16,824) Acquisition of branch offices and customer lists (2,667) - - Capital expenditures (1,120) (1,313) (421) Proceeds from sales of premises and equipment 331 158 216 Net cash used in investing activities (41,625) (9,147) (4,034) Cash flows from financing activities Net increase (decrease) in demand deposits, NOW accounts and savings accounts 8,952 (4,642) (8,278) Net increase in certificates of deposit 2,039 5,156 2,268 Dividends (1,503) (1,420) (1,224) Common stock issued under stock option plans 200 198 217 Purchase of treasury shares (2,682) (2,235) (29) Cash inflows (outflows) from other borrowings 10,752 698 (437) Net cash provided by (used in) financing activities 17,758 (2,245) (7,483) (Decrease) Increase in cash and cash equivalents (4,383) 6,233 1,234 Cash and cash equivalents as of January 1 14,904 8,671 7,437 Cash and cash equivalents as of December 31 $10,521 $14,904 $8,671 Supplemental Disclosures of Cash Flow Information Cash paid during the year for: 1996 1995 1994 Interest paid on deposits and other borrowed funds $10,970 $11,041 $9,565 Income tax paid 1,335 1,425 995 The accompanying notes are an integral part of these statements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1. Summary of Significant Accounting Policies The accounting policies of Franklin Financial Services Corporation and its subsidiary conform to generally accepted accounting principles and to general industry practices. A summary of the more significant accounting policies which have been consistently applied in the preparation of the accompanying consolidated financial statements follows: Principles of Consolidation - The consolidated financial statements include the accounts of Franklin Financial Services Corporation (the Corporation) and its wholly-owned subsidiary, Farmers and Merchants Trust Company, a commercial bank (the Bank). Effective May 1, 1995, The Mont Alto State Bank, also a commercial bank and a subsidiary of the Corporation, was merged into Farmers and Merchants Trust Company. In addition, on December 29, 1995, Franklin Founders Life Insurance Company, a credit life reinsurance company and a subsidiary of the Corporation was dissolved. All significant intercompany transactions and account balances have been eliminated. Nature of Operations - The Corporation conducts all of its business through its subsidiary bank, Farmers and Merchants Trust Company. The Bank serves its customer base through twelve full-service offices located in Franklin and Cumberland Counties in Pennsylvania. The Bank is a community-oriented commercial bank that emphasizes quality customer service and convenience. As part of its strategy, the Bank has sought to develop a variety of products and services that meet the needs of its retail, commercial and trust customers. Use of Estimates in the Preparation of Financial Statements - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Statement of Cash Flows - For purposes of reporting cash flows, cash and cash equivalents include Cash and due from banks, Interest-bearing deposits in other banks and Federal funds sold. Generally, Federal funds are purchased and sold for one-day periods. Investment Securities - Except as noted below, debt securities are acquired with the intent to hold to maturity and are stated at cost, adjusted for amortization of premiums and accretion of discounts which are recognized as adjustments of interest income. Certain specific debt securities and all marketable equity securities have been classified as "available for sale" to serve as a potential source of liquidity. Available for sale securities are stated at estimated market value with the related unrealized holding gains and losses reported as a separate component of shareholders' equity, net of tax, until realized. Realized securities gains and losses are computed using the specific identification method. Interest and dividends on investment securities are recognized as income when earned. Gains or losses on the disposition of investment securities are based on the net proceeds and the adjusted carrying amount of the specific securities sold. In the opinion of management, the Corporation has the ability and intent to hold investment securities carried at amortized cost to maturity. In December 1995, the Corporation reclassified investment securities with a book value of $15,706,000 and a market value of $15,745,000 from held to maturity to available for sale. This reclassification was allowable under Financial Accounting Standards Board(FASB) guidance which permitted institutions to make a one-time reassessment of the appropriateness of investment security classifications. As a result of this reclassification, the unrealized gain on securities recorded as a component of shareholders' equity increased approximately $26,000, net of tax. Loans - Interest on all loans is accrued over the term of the loans based on the amount of principal outstanding. Unearned interest on installment loans is recognized on a basis which approximates the interest method. Accrual of interest income is generally discontinued when a loan becomes 90 days past due as to principal or interest and management considers the collection of principal or interest to be doubtful. When interest accruals are discontinued, interest credited to income in the current year is reversed and interest accrued in any prior year is charged to the allowance for loan losses. Allowance for Possible Loan Losses - For financial reporting purposes, the provision for possible loan losses charged to current operating income is based on estimates, and ultimate losses may vary from the current estimates. These estimates are reviewed periodically and, as adjustments become necessary, they are reported in earnings in the period in which they become known. The adequacy of the level of the reserve is determined by a continuing review of the composition of the loan portfolio, overall portfolio quality, specific problem loans, prior loan loss experience and current and prospective economic conditions that may affect a borrower's ability to pay. On January 1, 1995, the Corporation adopted Statement of Financial Accounting Standards No. 114, "Accounting by Creditors for Impairment of a Loan" (Statement No. 114) as amended by Statement of Financial Accounting Standards No. 118, "Accounting by Creditors for Impairment of a Loan - Income Recognition and Disclosures" (Statement No. 118). Statement No. 114 requires that impaired loans be measured based on the present value of expected future cash flows discounted at the loan's effective interest rate, or at the loan's observable market price or fair value of the collateral if the loan is collateral dependent, except for loans considered to be homogeneous pools and leases for which this statement does not apply. Management considers most consumer loans as homogeneous pools. A loan is considered to be impaired when, based on current information and events, it is probable that the Corporation will be unable to collect all amounts due according to the contractual terms of the loan agreement. Prior to the adoption of Statement No. 114, the allowance for loan losses related to impaired loans was based on undiscounted cash flows or the fair value of the collateral for collateral dependent loans. Adoption of Statement No. 114 did not significantly affect the Corporation's financial statements. Premises and Equipment - Premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method. When assets are retired or sold, the asset cost and related accumulated depreciation are eliminated from the respective accounts, and any resultant gain or loss is included in net income. The cost of maintenance and repairs is charged to operating expense as incurred, and the cost of major additions and improvements is capitalized. Federal Income Taxes - The Corporation and its subsidiary file a consolidated Federal income tax return. The Corporation accounts for income taxes in accordance with Statement No. 109, "Accounting for Income Taxes." Deferred tax assets or liabilities are computed based on the difference between the financial statement and income tax bases of assets and liabilities using the applicable enacted marginal tax rate. Deferred income tax expenses or benefits are based on the changes in the deferred tax asset or liability from period to period. Earnings per share - Earnings per share is computed based on the weighted average number of shares outstanding during each year, adjusted retroactively for stock splits and dividends. Adjustments resulted from a 3 for 2 stock split issued in the form of a 50% stock dividend distributed on December 29, 1995 to shareholders of record on December 8, 1995, and a 10% stock dividend distributed on December 30, 1994 to shareholders of record on December 9, 1994. Stock options and restricted stock are not reflected in the computation as there is no material dilutive effect. Reclassifications - Certain prior period amounts have been reclassified to conform with the current year presentation. Recent Accounting Pronouncements: Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities - In June 1996, the FASB issued Statement No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities." This Statement provides accounting and reporting standards for transfers and servicing of financial assets and extinguishment of liabilities. Those standards are based on consistent application of a financial-components approach that focuses on control. Under that approach, after a transfer of financial assets, an entity recognizes the financial and servicing assets it controls and the liabilities it has incurred, derecognizes financial assets when control has been surrendered, and derecognizes liabilities when extinguished. This Statement provides consistent standards for distinguishing transfers of financial assets that are sales from transfers that are secured borrowings. Statement No. 127 was also issued in 1996 and amended Statement No. 125 by deferring for one year the effective date for certain provisions of Statement No. 125. Statement No. 125, as amended, was adopted prospectively on January 1, 1997, and Statement No. 127 will be adopted on January 1, 1998. No material financial statement impact is anticipated. NOTE 2. Regulatory Matters Certain restrictions exist under Federal law regarding the ability of the Bank to transfer funds to the Corporation in the form of cash dividends, loans, or advances. The dividend limitation generally restricts dividend payments to the Bank's retained net income in the current and preceding two calendar years. Accordingly, under this limitation, as of December 31, 1996 approximately $4,653,000 of the undistributed earnings of the Bank would be available for distribution to the Corporation as dividends without prior regulatory approval. The Bank also is limited as to the amount it may loan the Corporation, unless such loans are collateralized by specific obligations. The Corporation's subsidiary Bank is subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Corporation's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgements by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). Management believes, as of December 31, 1996, that the Bank meets all capital adequacy requirements to which it is subject. As of December 31, 1996, the most recent notification from Federal Deposit Insurance Corporation categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based, Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the institution's category. The table that follows presents the total risk-based, Tier I risk-based and Tier I leverage requirements for the Corporation and the Bank. Actual capital amounts and ratios are also presented.
As of December 31, 1996 To be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provision (Amounts in thousands) Amount Ratio Amount Ratio Amount Ratio Total Capital (to Risk Weighted Assets) Corporation $35,354 16.00% $17,676 8.00% $22,095 10.00% Bank 32,479 14.80% 17,554 8.00% 21,943 10.00% Tier I Capital (to Risk Weighted Assets) Corporation $32,588 14.75% $8,838 4.00% $13,257 6.00% Bank 29,732 13.55% 8,777 4.00% 13,166 6.00% Tier I Capital (to Average Assets) Corporation $32,588 10.03% $13,003 4.00% $16,253 5.00% Bank 29,732 9.23% 12,878 4.00% 16,098 5.00% As of December 31, 1995 To be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provision Amount Ratio Amount Ratio Amount Ratio Total Capital (to Risk Weighted Assets) Corporation $36,489 17.66% $16,528 8.00% $20,661 10.00% Bank 32,569 15.96% 16,330 8.00% 20,412 10.00% Tier I Capital (to Risk Weighted Assets) Corporation $33,895 16.41% $8,264 4.00% $12,396 6.00% Bank 30,005 14.70% 8,165 4.00% 12,247 6.00% Tier I Capital (to Average Assets) Corporation $33,895 10.77% $12,587 4.00% $15,733 5.00% Bank 30,005 9.60% 12,504 4.00% 15,630 5.00% Management believes that under the current and proposed regulations the Corporation and its Bank subsidiary will continue to meet the minimum capital requirements in the forseeable future. However, events beyond the control of the Corporation, such as increased interest rates or a downturn in the economy in areas where the Bank subsidiary has a concentration of its loans, could adversely affect future earnings and, consequently, the ability of the Corporation and its Bank subsidiary to meet future capital requirements.
NOTE 3. Restricted Cash Balances Aggregate cash reserves of $2,624,000 and $1,874,000 were maintained to satisfy Federal regulatory requirements at December 31, 1996 and 1995, respectively. As compensation for check clearing and other services, compensating balances are required to be maintained with correspondent banks. At December 31, 1996 and 1995, these balances were approximately $900,000 and $600,000, respectively.
NOTE 4. Investment Securities Included as Other in the Held to Maturity classification in the following schedules are common stock of the Federal Home Loan Bank of Pittsburgh and Atlantic Central Bankers Bank which in the aggregagate total $ 1,223,000 and $1,139,000 at December 31, 1996 and 1995, respectively. Common stock of the Federal Home Loan Bank and Atlantic Central Bankers Bank represent ownership in institutions which are wholly owned by other financial institutions. The amortized cost and estimated market values of investment securities as of December 31, 1996 and 1995 are as follows: Gross Gross Estimated Amortized unrealized unrealized market (Amounts in thousands) cost gains losses value 1996 Held to Maturity U.S. Treasury securities and obligations of U.S. Government agencies and corporations $1,051 $7 $ - $1,058 Obligations of state and political subdivision 19,496 142 102 19,536 Corporate debt securities 3,688 4 15 3,677 Mortgage-backed securities 10,832 41 168 10,705 35,067 194 285 34,976 Other 1,223 -- -- 1,223 $36,290 $194 $285 $36,199 Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1996 Available for Sale Equity securities $1,380 $1,110 $ - $2,490 U.S. Treasury securities and obligations of U.S. Government agencies and corporations 27,054 89 88 27,055 Obligations of state and political subdivision 1,934 8 12 1,930 Corporate debt securities 5,046 14 2 5,058 Mortgage-backed securities 17,159 17 207 16,969 $52,573 $1,238 $309 $53,502 Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1995 Held to Maturity U.S. Treasury securities and obligations of U.S. Government agencies and corporations $849 $ - $ - $849 Obligations of state and political subdivision 16,225 276 17 16,484 Corporate debt securities 6,795 21 26 6,790 Mortgage-backed securities 10,309 97 105 10,301 34,178 394 148 34,424 Other 1,139 -- -- 1,139 $35,317 $394 $148 $35,563 Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1995 Available for Sale Equity securities $1,330 $826 $ - $2,156 U.S. Treasury securities and obligations of U.S. Government agencies and corporations 25,717 212 6 25,923 Obligations of state and political subdivision 2,417 14 11 2,420 Corporate debt securities 1,025 11 -- 1,036 Mortgage-backed securities 10,511 28 49 10,490 $41,000 $1,091 $66 $42,025 At December 31, 1996 and 1995, investment securities pledged to secure public funds, trust balances and other deposits and obligations totaled $54,864,000 and $41,547,000, respectively. Proceeds from the sale of available for sale securities totaled approximately $334,000 for the year ended December 31,1996. The net gains realized from these sales were $166,000. There were no sales in 1995. However, net gains of $10,000 were realized in 1995 which were the result of calls on two municipal securities The amortized cost and estimated market value of debt securities at December 31, 1996, by contractual maturity follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Estimated Amortized market cost value Held to Maturity Due in one year or less $2,690 $2,706 Due after one year through five years 14,711 14,738 Due after five years through ten years 5,191 5,141 Due after ten years 1,643 1,686 $24,235 $24,271 Mortgage-backed securities 10,832 10,705 $35,067 $34,976 Estimated Amortized market cost value Available for Sale Due in one year or less $7,613 $7,629 Due after one year through five years 19,937 19,945 Due after five years through ten years 6,484 6,469 $34,034 $34,043 Mortgage-backed securities 17,159 16,969 $51,193 $51,012 The amortized cost and estimated market value of mortgage backed securities by issuer as of December 31, 1996 and 1995 are as follows: Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1996 Held to Maturity Federal Home Loan Mortgage Corporation $4,028 $12 $41 $3,999 Federal National Mortgage Association 3,094 4 53 3,045 Government National Mortgage Association 530 13 -- 543 Other Private 3,180 12 74 3,118 $10,832 $41 $168 $10,705 Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1996 Available for Sale Federal Home Loan Mortgage Corporation $10,995 $ - $161 $10,834 Federal National Mortgage Association 5,556 5 46 5,515 Government National Mortgage Association 608 12 -- 620 $17,159 $17 $207 $16,969 Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1995 Held to Maturity Federal Home Loan Mortgage Corporation $4,771 $60 $21 $4,810 Federal National Mortgage Association 3,786 10 37 3,759 Government National Mortgage Association 622 27 -- 649 Other Private 1,130 -- 47 1,083 $10,309 $97 $105 $10,301 Gross Gross Estimated Amortized unrealized unrealized market cost gains losses value 1995 Available for Sale Federal Home Loan Mortgage Corporation $6,175 $ $43 $6,132 Federal National Mortgage Association 3,601 6 6 3,601 Government National Mortgage Association 735 22 -- 757 $10,511 $28 $49 $10,490
NOTE 5. Loans A summary of loans outstanding at the end of the reporting periods follows: December 31 (Amounts in thousands) 1996 1995 Real estate (primarily first mortgage residential loans) $79,478 $83,800 Real estate - Construction 3,727 5,233 Commercial, industrial and agricultural 91,244 74,678 Consumer (including home equity lines of credit) 49,936 50,017 224,385 213,728 Less: Unearned discount (159) (520) Allowance for possible loan losses (3,060) (3,141) Net Loans $221,166 $210,067 Loans to directors and executive officers and to their related interests and affiliated enterprises amounted to approximately $1,416,000 and $1,116,000 at December 31, 1996 and 1995, respectively. Such loans are made in the ordinary course of business at the Bank's normal credit terms and do not present more than a normal risk of collection. During 1996, $712,000 of new loans were made and repayments totaled $412,000.
NOTE 6. Allowance for Possible Loan Losses December 31 (Amounts in thousands) 1996 1995 1994 Balance at beginning of year $3,141 $3,425 $3,598 Charge-offs Commercial, industrial and agricultural (183) (89) (51) Consumer (582) (511) (230) Real estate (12) (76) (38) Total charge-offs (777) (676) (319) Recoveries: Commercial, industrial and agricultural 25 46 60 Consumer 64 43 19 Real estate -- 1 19 Total recoveries 89 90 98 Net charge-offs (688) (586) (221) Provision for possible loan losses 607 302 48 Balance at end of year $3,060 $3,141 $3,425 Nonaccrual loans at December 31, 1996 and 1995 were approximately $856,000 and $671,000, respectively. The gross interest that would have been recorded if these loans had been current in accordance with their original terms and the amounts actually recorded in income were as follows: (Amounts in thousands) 1996 1995 Gross interest due under terms $120 $129 Amount included in income (46) (26) Interest income not recognized $74 $103 At December 31, 1996 and 1995, the Corporation recorded no restructured loans. At December 31, 1996 and 1995, the recorded investment in loans that were considered to be impaired, as defined by Statement No. 114, totaled $789,300 and $495,000, respectively. Impaired loans have an allowance for credit losses of $14,000 and $123,500 as of December 31, 1996 and 1995, respectively. The Corporation does not recognize interest income on its impaired loans. Cash receipts on impaired loans are credited to the earliest amount owed by the borrower. The average recorded investment in impaired loans during the years ended December 31, 1996 and 1995, was $594,200 and $857,400 respectively.
NOTE 7. Premises and Equipment Premises and equipment consist of: Estimated December 31 (Amounts in thousands) useful life 1996 1995 Land $1,088 $ 841 Buildings 18-40 years 7,479 6,846 Furniture, fixtures and equipment 3-13 years 4,987 4,215 Total cost 13,554 11,902 Less: Accumulated Depreciation (6,856) (6,257) $6,698 $5,645
NOTE 8. Deposits Deposits are summarized as follows: December 31 (Amounts in thousands) 1996 1995 Demand $34,847 $31,609 Savings: Interest-bearing checking 34,473 31,090 Money market accounts 25,288 22,694 Passbook and statement savings 45,002 45,265 104,763 99,049 Time: Deposits of $100,000 and over 30,345 19,450 Other time deposits 98,247 107,103 128,592 126,553 Total deposits $268,202 $257,211 The interest expense on time deposits with denominations of $100,000 or more for the years ended December 31, 1996, 1995 and 1994 was $1,179,000, $1,185,000 and $825,000, respectively.
NOTE 9. Securities Sold Under Agreements to Repurchase and Other Borrowings The Corporation enters into sales of securities under agreements to repurchase. Securities sold under agreements to repurchase averaged $16,144,000 and $12,465,000 during 1996 and 1995, respectively, and the maximum amounts outstanding at any month end during 1996 and 1995, were $19,955,000 and $16,212,000, respectively. The weighted average interest rate on these repurchase agreements was 4.72% and 5.12% for 1996 and 1995, respectively. At December 31, 1996, securities sold under agreements to repurchase totaled $15,122,000 with interest rates ranging from 4.43% to 4.68%. The securities that serve as collateral for securities sold under agreements to repurchase represent primarily U.S. Government and U.S. Agency securities with a book and market value of $20,366,636 and $20,258,184 respectively, at December 31, 1996. The securities sold under agreements to repurchase are overnight borrowings. A summary of other borrowings at the end of the reporting period follows: December 31 (Amounts in thousands) 1996 1995 Open Repo Plus (a) $7,050 $ - Term loans (b) 7,841 5,650 Total other borrowings $14,891 $5,650 (a) Open Repo Plus is a revolving term commitment with the Federal Home Loan Bank of Pittsburgh (FHLB) used on an overnight basis. The term of these commitments may not exceed 364 days and the outstanding balance reprices daily at market rates. The total amount available under the commitment in place on December 31, 1996 was $20,000,000 and the rate on the outstanding balance was 6.75%. (b) Term loans with the FHLB bear interest at fixed rates ranging from 5.70% to 7.27% (weighted average rate of 6.53%) with various maturities beginning September 30, 1997 to September 30, 2002 All borrowings from the FHLB are collateralized by FHLB stock, mortgage-backed securities and first mortgage loans. The scheduled maturities of the term borrowings are as follows: 1997 $746 1998 687 1999 5,634 2000 592 2001 29 2002 and beyond 153 $7,841
NOTE 10. Federal Income Taxes The temporary differences which give rise to significant portions of deferred tax assets and liabilities under Statement No.109 are as follows: (amounts in thousands) Deferred Taxes December 31 Temporary Difference 1996 1995 Allowance for possible loan losses $1,034 $1,068 Deferred compensation 182 180 Pensions 53 22 Restricted stock 91 164 Depreciation (91) (243) Net unrealized gain on securities (316) (349) Deferred loan fees and costs,net 387 534 Other, net (36) 123 Valuation allowance - (118) Deferred taxes, net $1,304 $1,381 In determining the level of valuation reserves required, the Corporation has determined based upon its historical level of earnings, its interest margin, gap position and future taxable income that it is more likely than not that the net deferred tax assets will be realized over a period approximating 5 years. Accordingly, the valuation allowance was reduced in 1996.
The components of the provision for Federal income taxes attributable to income from operations were as follows: Years ended December 31 (Amounts in thousands) 1996 1995 1994 Currently payable $1,302 $1,488 $1,108 Deferred tax expense (benefit) 77 (37) (108) Income tax provision $1,379 $1,451 $1,000 For the years ended December 31, 1996, 1995 and 1994, the income tax provisions are different from the tax expense which would be computed by applying the Federal statutory rate to pretax operating earnings. A reconciliation between the tax provision at the statutory rate and the tax provision at the effective tax rate is as follows: Years ended December 31 (Amounts in thousands) 1996 1995 1994 Tax provision at statutory rate $1,872 $1,914 $1,618 Income on tax-exempt loans and securities (418) (461) (530) Nondeductible interest expense relating to carrying tax-exempt obligations 61 65 60 Dividends received exclusion (15) (16) (30) Valuation allowance adjustment (118) (101) (100) Other, net (3) 50 (18) Income tax expense $1,379 $1,451 $1,000 The tax provision in each year is applicable to: Years ended December 31 (Amounts in thousands) 1996 1995 1994 Operations $1,323 $1,448 $926 Securities gains (losses) 56 3 74 Income tax provision $1,379 $1,451 $1,000
NOTE 11. Employee Benefit Plans The Bank has a noncontributory retirement plan covering all employees of F& M Trust who meet certain age and service requirements. Benefits are based on years of service and the employee's compensation during the highest five consecutive years out of the last ten years of employment. The Banks' funding policy is to contribute annually the amount required to meet the minimum funding requirements of the Employee Retirement Income Security Act of 1974. Contributions are intended to provide not only for benefits attributed to service to date but also for those expected to be earned in the future. The following table sets forth the plan's funded status at December 31, 1996 based on a September 30, 1996 actuarial valuation together with comparative 1995 and 1994 amounts:
NOTE 11. Employee Benefit Plans (Amounts in thousands) 1996 1995 1994 Actuarial present value of benefit obligations: Accumulated benefit obligation, including vested benefits of $5,089, $4,566 and $3,845 in 1996, 1995 and 1994, respectively $5,182 $4,635 $3,886 Projected benefit obligation for service rendered to date 7,261 6,550 5,208 Plan assets at fair value* 7,817 7,023 5,720 Plan assets greater than projected benefit obligation 556 473 512 Unrecognized net (gain) (612) (502) (512) Unrecognized net asset at October 1, 1988 being recognized over 12 years (155) (194) (233) Unrecognized prior service cost 119 130 - Accrued pension cost included in other liabilities ($92) ($93) ($233) Net pension cost included the following components: Service cost - benefits earned during the period $296 $236 $219 Interest cost on projected benefit obligation 450 408 356 Actual return on plan assets (1,180) (1,220) (511) Net amortization and deferral 603 718 115 Net periodic pension cost $169 $142 $179 *Plan assets are primarily invested in equities, general assets of insurance companies and insurance contracts.
The assumed weighted-average discount rate and rate of increase in future compensation levels used in determining the actuarial present value of the projected benefit obligations were 7.00% and 5.75% in 1996. These rates were 7.25% and 6.00% and 7.75% and 5.75% in 1995 and 1994, respectively. The expected long-term rate of return on assets was 8.00% in 1996, 1995 and 1994. The Corporation maintains a 401(k) plan covering all employees who have completed one year of service. Employee contributions to the plan are matched on a graduated basis with a minimum match of 100% up to 3% of the participant's total compensation and a maximum match of 87.5% up to 4% of the participant's total compensation. The Corporation's match is subject to approval annually by the Board of Directors. Under this plan, not more than 15.00% of each participant's total compensation may be contributed in any given plan year. The Corporation's contribution in 1996, 1995 and 1994, as approved by the Board of Directors, was $132,500, $125,000 and $107,000, respectively. Under the terms of the Corporation's Long-Term Incentive Plan of 1990 ("the Plan"), the Compensation Committee of the Board of Directors (the Committee) is authorized to award up to 176,550 shares of presently authorized but unissued or reacquired common stock to certain employees of the Corporation and its subsidiary. Awards may be granted in the form of Options, Stock Appreciation Rights, Restricted Stock, Performance Units and Performance Shares. Pursuant to the Plan, in 1991 the Corporation implemented a program known as the Senior Management Incentive Program (the Program) and as of December 31, 1996 has awarded 75,725 restricted shares of $1.00 par value per share common stock of the Corporation to certain employees at no cost to the employee participants. These shares are issued subject to specific transfer restrictions, including the passage of time, ranging from one to ten years; and shall fully vest upon the expiration of ten years from the date of the agreements, or earlier, dependent upon the Corporation meeting certain income requirements established by the Board of Directors. The Committee has also awarded 15,489 restricted shares of the $1.00 par value per share common stock of the Corporation to certain employees at no cost to the employee participant. These shares also are issued subject to certain transfer restrictions and will automatically vest upon the expiration of ten years from the Agreement date (except for one senior officer whose shares vested in a shorter period). Unearned compensation, representing the fair market value of the shares at the date of issuance, will be expensed over the vesting period. The cost associated with the plan was approximately $137,000 in 1996, $297,000 in 1995 and $274,000 in 1994. The total of restricted shares vested was 1,035, 25,325 and 12,682 in 1996, 1995 and 1994, respectively. In addition to the restricted shares issued to the employee participants of the Program, the employees could elect to receive a portion of their award in cash. The payment of cash each year is dependent upon the Corporation meeting certain income requirements established by the Board of Directors. There was no incentive compensation expense under this feature of the plan in 1996. For the years ended December 31, 1995 and 1994, related incentive compensation expense was $37,000 and $31,000, respectively.
NOTE 12. Stock Option Plans In 1994, the Board of Directors of the Corporation approved and adopted the Employee Stock Purchase Plan of 1994. Under the Plan 132,000 shares of stock can be purchased by participating employees over a 10-year period. The number of shares which can be purchased by each participant is limited, as defined, and the option price is to be set by the Board of Directors. However, the option price cannot be less than lessor of 90% of the fair market value of the shares on the date the option to purchase shares is granted, or 90% of the fair market value of the shares on the exercise date. These options must be exercised one year from the date of grant. Any shares related to unexercised options are available for future grant. The following table summarizes the stock option activity (stock options have been adjusted to reflect a stock dividends): Number of shares 1996 1995 Outstanding, beginning of year 15,308 11,222 Granted at: $28.86 per share 13,048 - 21.79 per share _ 15,926 Exercised at: $28.86 per share (453) - 21.79 per share (8,492) (618) 29.76 per share _ (5,555) Terminated at: $21.79 per share (6,816) - 29.76 per share _ (5,667) Outstanding, end of year 12,595 15,308 Exercisable 12,595 15,308 Available for grant 104,278 110,510 During 1996, the Corporation adopted Statement No. 123, "Accounting for Stock-Based Compensation." As provided for in the statement, the Corporation elected to continue the intrinsic value method of expense recognition. Had compensation cost for the Employee Stock Purchase Plan been determined in accordance with Statement No. 123, the Corporation's net income and net income per share amounts would not have been materially different from 1996 and 1995 results as reported.
NOTE 13. Deferred Compensation Agreement The Corporation has entered into deferred compensation agreements with several officers and directors which provide for the payment of benefits over a ten-year period, beginning at age 65. At inception, the present value of the obligations under these deferred compensation agreements amounted to approximately $600,000, which is being accrued over the estimated remaining service period of these officers and directors. These obligations are partially funded through life insurance covering these individuals. NOTE 14. Shareholders' Equity In March 1996, the Board of Directors authorized the repurchase of up to 50,000 shares of the Corporation's common stock through March 1997. Subsequently in July 1996, the Board of Directors modified the stock repurchase program from 50,000 shares to 100,000 shares and extended the repurchase period from March 1997 to July 10, 1997. In January 1995, the Board of Directors authorized the repurchase of up to 50,000 shares of the Corporation's outstanding common stock through January 1996. In addition, the repurchase of a separate block of 25,000 outstanding shares was also authorized by the Board of Directors. Under these programs, the Corporation repurchased 88,604 shares for $2.7 million and 64,741 shares for $2.2 million during 1996 and 1995, respectively. The Corporation will use the treasury shares acquired for general corporate purposes including stock dividends and stock splits, employee benefit and executive compensation plans and the dividend reinvestment plan. Subsequent to year-end 1996, the Board of Directors authorized the repurchase of up to 100,000 shares of the Corporation's common stock through March 1998. On October 5, 1995, the Board of Directors approved a 3 for 2 stock split issued in the form of a 50% stock dividend, which was distributed on December 29, 1995 to shareholders of record on December 8, 1995. The result was a transfer from retained earnings to common stock of approximately $677,000. A cash amount of approximately $8,200 was paid in lieu of issuing fractional shares arising from the stock dividend.
Note 15. Commitments and Contingencies In the normal course of business, the Bank is party to financial instruments which are not reflected in the accompanying financial statements and are commonly referred to as off-balance-sheet instruments. These financial instruments are entered into primarily to meet the financing needs of the Bank's customers and include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit and interest rate risk not recognized in the statement of financial position. The Corporation's exposure to credit loss in the event of nonperformance by other parties to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contract or notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as they do for on-balance-sheet instruments. Unless noted otherwise, the Bank does not require collateral or other security to support financial instruments with credit risk. Contract or (Amounts in thousands) notional amount Financial instruments whose contract amounts represent credit risk: Commercial commitments to extend credit $26,576 Consumer commitments to extend credit (secured) 12,595 Consumer commitments to extend credit (unsecured) 11,049 Standby letters of credit 905 Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses with the exception of home equity lines and personal lines of credit and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management's credit evaluation of the counterparty. Collateral for most commercial commitments varies but may include accounts receivable, inventory, property, plant, and equipment and income-producing commercial properties. Collateral for secured consumer commitments consists of liens on residential real estate. Standby letters of credit are instruments issued by the Bank which guarantee the beneficiary payment by the Bank in the event of default by the Bank's customer in the nonperformance of an obligation or service. Most standby letters of credit are extended for one-year periods. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank holds collateral supporting those commitments for which collateral is deemed necessary primarily in the form of certificates of deposit and liens on real estate. Most of the Bank's business activity is with customers located within Franklin County, Pennsylvania and surrounding counties and does not involve any significant concentrations of credit to any one entity or industry. The Bank has entered into various noncancellable operating leases. Total rental expense on these leases was $316,000, $378,000 and $155,000 in the years 1996, 1995 and 1994, respectively. Future minimum payments under these leases are as follows: 1997 . . . . . . . . . . . . . . . . . . . . . . . . . . . . $295,000 1998 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 285,000 1999 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 280,000 2000 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14,400 2001 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9,500 In the normal course of business, the Corporation has commitments, lawsuits, contingent liabilities and claims. However, the Corporation does not expect that the outcome of these matters will have a materially adverse effect on its consolidated financial position or results of operations.
Note 16. Disclosures About Fair Value of Financial Instruments The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value: Cash, Federal funds sold and Interest-bearing deposits: For these short-term instruments, the carrying amount is a reasonable estimate of fair value. Investment securities and Investments available for sale: For debt and marketable equity securities held for investment purposes and available for sale, respectively, fair values are based on quoted market prices or dealer quotes. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Loans, net of allowance for possible loan losses: The fair value of loans is estimated for each major type of loan (e.g. real estate, commercial, industrial and agricultural and consumer) by discounting the future cash flows associated with such loans. The model considers scheduled principal maturities, repricing characteristics, prepayment assumptions and interest cash flows. The discount rates used are estimated based upon consideration of a number of factors including the treasury yield curve, credit quality factors, expense and service charge factors. Deposit liabilities and Other borrowings: The fair market value of demand deposits, savings accounts, and money market deposits is the amount payable on demand at the reporting date. This fair value does not include the benefit that results from the low cost of funding provided by these deposits compared to the cost of borrowing funds in the market. The fair value of fixed-maturity certificates of deposit and long-term debt are estimated by discounting the future cash flows using rates approximating those currently offered for certificates of deposit and borrowings with similar remaining maturities. The other borrowings consist of borrowings on a line of credit with the FHLB at a variable interest rate and securities sold under agreements to repurchase for which the carrying value approximates a reasonable estimate of the fair value. Unrecognized Financial Instruments: At December 31, 1996, the Corporation had outstanding commitments to extend credit of $50,220,000 and commitments under standby letters of credit of $905,000. Such commitments include fixed and variable rate commercial and consumer commitments. The value of the commitment is a reasonable estimate of the fair value as the fees and rates charged are approximately consistent with the amounts which would be charged to enter into similar arrangements at year-end. The estimated fair value of the Corporation's financial instruments at December 31 are as follows: 1996 1995 Carrying Fair Carrying Fair (Amounts in thousands) Amount Value Amount Value Financial assets: Cash and short-term investments $10,521 $10,521 $14,904 $14,904 Investment securities held to maturity 36,290 36,199 35,317 35,563 Investment securities available for sale 53,502 53,502 42,025 42,025 Net loans 221,166 224,888 210,067 214,107 Total Financial Assets $321,479 $325,110 $302,313 $306,599 Financial liabilities: Deposits $268,202 $268,478 $257,211 $257,495 Short-term borrowings 22,172 22,172 13,611 13,611 Long-term debt 7,841 7,897 5,650 5,716 Total Financial Liabilities $298,215 $298,547 $276,472 $276,822 The above values do not necessarily reflect the premium or discount that could result from offering for sale at one time the Corporation's entire holdings of a particular instrument. In addition, these values, derived from the methods and asumptions described above, do not consider the potential income taxes or other expenses that would be incurred on an actual sale of an asset or settlement of a liability.
NOTE 17. Parent Company (Franklin Financial Services Corporation) Financial Information Balance Sheets December 31 (Amounts in thousands) 1996 1995 Assets: Investment securities $1,761 $2,323 Equity investment in subsidiaries 32,410 31,261 Premises 1,238 1,216 Other assets 262 473 Total assets $35,671 $35,273 Liabilities: Accrued expenses $87 $5 Deferred tax liability 243 312 Total liabilities 330 317 Shareholders' equity: Common stock 2,030 2,030 Additional paid-in capital 19,745 19,431 Retained earnings 17,590 14,966 Net unrealized gain on securities 613 677 Treasury stock ( 141 and 90 shares, at cost, at December 31, 1996 and 1995 respectively) (3,830) (2,053) Unearned compensation (807) (95) Total shareholders' equity 35,341 34,956 Total liabilities and shareholders' equity $35,671 $35,273 Statements of Income Years ended December 31 (Amounts in thousands) 1996 1995 1994 Income: Dividends from Bank $2,631 $3,325 $1,429 Interest and dividend income 42 48 32 Gain on sale of securities 105 - 135 Other income 37 18 - Gain on sale of premises 90 - 117 2,905 3,391 1,713 Operating expenses 292 321 263 Income before equity in undistributed income of subsidiary 2,613 3,070 1,450 Equity in undistributed income of subsidiary 1,514 1,109 2,310 Net income $4,127 $4,179 $3,760 Statements of Cash Flows Years ended December 31 (Amounts in thousands) 1996 1995 1994 Cash flows from operating activities Consolidated net income $4,127 $4,179 $3,760 Less: Equity in undistributed income of subsidary (1,514) (1,109) (2,310) Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 29 36 35 Discount accretion on investment securities (1) (3) - Premium amortization - - 4 Gain on sale of premises (90) - (116) Securities gains, net (105) - (135) Decrease in other assets 179 587 149 Increase (Decrease) in other liabilities 13 (45) 12 Other, net 409 559 259 Net cash provided by operating activities 3,047 4,204 1,658 Cash flows from investing activities Proceeds from sales of investment securities 232 - 290 Proceeds from maturities of investment securities 850 534 100 Purchase of investment securities (218) (987) (967) Net change in loans 32 58 (150) Proceeds from sale of premises 225 - 200 Capital expenditures (183) (352) (23) Net cash provided by (used in) investing activities 938 (747) (550) Cash flows from financing activities Dividends (1,503) (1,420) (1,224) Proceeds from sales of common stock 200 198 145 Purchase of treasury shares (2,682) (2,235) (29) Net cash used in financing activities (3,985) (3,457) (1,108) Increase in cash and cash equivalents $ - $ - $ - Cash and cash equivalents as of January 1 - - - Cash and cash equivalents as of December 31 $ - $ - $ -
NOTE 18. Quarterly Results of Operation (Unaudited) The following is a summary of the quarterly results of consolidated operations of Franklin Financial for the years ended December 31, 1996 and 1995: (Amounts in thousands) Three months ended 1996 March 31 June 30 September 30 December 31 Interest income $6,116 $6,032 $6,398 $6,253 Interest expense 2,784 2,725 2,774 2,804 Net interest income 3,332 3,307 3,624 3,449 Provision for loan losses 94 131 96 286 Other noninterest income 834 1,026 877 870 Securities gains(losses) 78 - (1) 89 Noninterest expense 2,725 2,736 2,997 2,914 Income before income taxes 1,425 1,466 1,407 1,208 Income taxes 375 330 345 329 Net Income $1,050 $1,136 $1,062 $879 Per share $0.55 $0.57 $0.60 $0.47 1995 Interest income $6,009 $6,175 $6,555 $6,232 Interest expense 2,627 2,749 2,952 2,882 Net interest income 3,382 3,426 3,603 3,350 Provision for loan losses 39 83 90 90 Other noninterest income 910 892 751 837 Securities gains - - - 10 Noninterest expense 2,801 2,830 2,942 2,656 Income before income taxes 1,452 1,405 1,322 1,451 Income taxes 365 349 296 441 Net Income $1,087 $1,056 $1,026 $1,010 Per share* $0.56 $0.55 $0.54 $0.53 *Based on weighted-average shares outstanding during the period reported adjusted retroactively to reflect a 3 for 2 stock split issued in the form of a 50% stock dividend and distributed on December 29, 1995 to shareholders of record on December 8, 1995. Consequently, the sum of quarterly earnings per share may not equal the annual per share amount.
Management's Discussion and Analysis The following discussion and analysis is intended to assist the reader in reviewing the financial information presented and should be read in conjunction with theconsolidated financial statements and other financial data presented elsewhere herein.All changes discussed below have been brought about by general economic conditions unless otherwise noted. Results of Operations: Summary Franklin Financial Services Corporation recorded net income of $4.1 million for the year ended December 31, 1996, a decrease of $52,000, or 1.2%, compared to recorded net income of $4.2 million a year earlier. Per share earnings were $2.20 for 1996, up 1.4% over $2.17 for 1995. Net income and per share earnings recorded for 1994 were $3.8 million and $1.92, respectively. The Corporation's return on average assets and return on average equity were 1.29% and 11.83%, respectively, for 1996 compared to 1.34% and 12.50%, respectively, for 1995. For 1994, the return on average assets and return on average equity were 1.21% and 11.82%, respectively. During 1996 average earning assets grew moderately by $3.8 million, or 1.3%, to $302.7 million. The Corporation's net interest margin on a tax-equivalent basis moved to 4.7% at December 31, 1996, from 4.8% one year earlier. Net interest income on a full-tax equivalent basis equaled $14.2 million in 1996 compared to $14.4 million and $13.0 million in 1995 and 1994, respectively. The Corporation's measures of asset quality remain strong. The percentage of nonperforming assets, comprised of nonaccrual loans, restructured loans, loans past due 90 days or more and other real estate owned, represented .54% of total assets at December 31, 1996, compared to .65% one year earlier. The ratio of allowance for possible loan losses to total loans was 1.36% at December 31, 1996, compared to 1.47% at December 31, 1995. Nonperforming loans were covered 1.8 times by the allowance at December 31, 1996 and 1995. Net charge-offs to average loans increased to .32% for 1996 from .27% for 1995 requiring an increase in the provision for loan loss to $607,000 in 1996 from $302,000 in 1995. Loan charge-offs for 1996 were related primarily to the consumer loan portfolio. Noninterest income, excluding securities gains, increased $217,000, or 6.4% to $3.6 million for 1996 compared to $3.4 million for 1995 and 1994. Securities gains from the sale of available for sale securities for the years ended December 31, 1996, 1995 and 1994 totaled $166,000, $10,000 and $219,000, respectively. Noninterest expense increased $143,000, or 1.3%, to $11.4 million for 1996 compared to $11.2 million and $11.1 million for 1995 and 1994. An increase of $306,000 in salaries and employee benefits partially offset by a reduction of $160,000 for FDIC insurance expense accounted for the increase in noninterest expense. Total assets at December 31, 1996 were $336.1 million compared to $313.5 million at December 31, 1995. Total loans, net of discount, grew to $224.2 million at year-end 1996 from $213.2 million at year-end 1995. Total deposits reached $268.2 million at December 31, 1996 compared to $257.2 million at December 31, 1995. In order to support asset growth, which exceeded deposit growth, the Corporation increased other borrowings with the Federal Home Loan Bank of Pittsburgh to $14.9 million at December 31, 1996 compared to $5.6 million at December 31, 1995. The Corporation's capital position remains strong with total capital of $35.3 million at December 31, 1996 compared to $35.0 million one year earlier. At December 31, 1996, the Corporation's average Tier I leverage ratio and Tier I and Tier II risk-based capital ratios were 10.02%, 14.75% and 16.00%, respectively, compared to 10.77%, 16.41% and 17.66%, respectively, at December 31, 1995. Cash dividends paid to shareholders as approved by the Board of Directors amounted to $.78 for 1996, an 8.3% increase, compared to $.72 for 1995. On December 29, 1995, a 3 for 2 stock split issued in the form of a 50% stock dividend was distributed to shareholders of record on December 8, 1995. A more detailed discussion of the areas having the greatest impact on the reported results for 1996 follows.
TABLE 1. Net Interest Income (unaudited) Net interest income, defined as interest income less interest expense, is as shown in the following table: (Amounts in thousands) 1996 % Change 1995 % Change 1994 Interest income $24,799 (0.69)% $24,971 13.36% $22,028 Interest expense 11,087 (1.10)% 11,210 15.33% 9,720 Net interest income $13,712 (0.36)% $13,761 11.81% $12,308 Tax equivalent adjustment 514 599 689 Net interest income/ $14,226 (0.93)% $14,360 10.49% $12,997 full taxable equivalent
Net Interest Income Net interest income is a major component of the Corporation's operating income and represents the difference in dollars between rates earned on interest-earning assets and rates paid on interest-bearing liabilities. Net interest income is impacted by changes in interest rates and changes in volumes of interest-earning assets and interest-bearing liabilities. For the following discussion net interest income is adjusted to a tax-equivalent basis. This adjustment facilitates performance comparisons between taxable and tax-exempt assets by increasing the tax-exempt income by an amount equivalent to the Federal income taxes which would have been paid if this income were taxable at the Corporation's 34% Federal statutory rate. Table 1 presents net interest income on a full tax equivalent basis for each of the years in the three year period ended December 31, 1996. Table 2 presents average balances, tax equivalent interest income and expense and average rates earned and paid on the Corporation's interest earning assets and interest-bearing liabilities. Table 3 analyzes the changes attributable to the volume and rate components of net interest income. Short term interest rates declined slightly early in 1996 and remained relatively stable for the remainder of the year. The average prime rate in 1996 was 8.27% and the average Federal funds rate was 5.31% versus 8.83% and 5.85%, respectively in 1995. Long term rates rose steadily during the first half of the year, then drifted generally downward during the second half. Overall, interest rates were lower and the yield curve was steeper in 1996 than in 1995. Net interest income declined slightly in 1996 slipping $134,000 to $14.2 million at year-end 1996, from $14.4 million in 1995. As Tables 2 and 3 reflect, a moderate growth in volume and a 20 basis point decrease in the yield on interest-earning assets versus a 12 basis point decrease in the rates paid on interest-bearing liabilities adversely impacted net interest income. Consequently, the net interest margin which reflects the interest rate spread plus the contribution of assets funded by interest free sources decreased to 4.7% for the year ended December 31, 1996, from 4.8% for the year ended December 31, 1995. Average interest-earning assets grew $3.8 million to $302.7 million during 1996 from $298.9 million for 1995 and represented 94.3% and 95.5%, respectively, of total assets for the related years. Average loans comprised 72.0% of average interest-earning assets and, accordingly, contributed 79.2% of the total interest income in 1996. Despite the moderate growth in average interest-earning assets during the year, interest income decreased $257,000, or 1.0%, to $25.3 million for 1996 from $25.6 million in 1995. The decrease reflects lower market interest rates during the year and increased competitive pressures which produced a decline in the yield on average loans of 19 basis points to 9.19% for 1996 versus 9.38% for 1995. The yield on investment securities for 1996 decreased 14 basis points to 6.29% from 6.43% in 1995 due to reinvesting matured securities at lower rates when compared to the rates of the matured securities. The cost of interest-bearing deposits decreased 11 basis points to 4.36% for 1996 from 4.47% for 1995 due to lower market rates. Federal funds purchased and securities sold under agreements to repurchase realized a reduction of 48 basis points to 4.65% for 1996 from 5.13%, driven primarily by a lower Federal funds rate. Average interest rates rose in 1995 compared to 1994. The average prime rate in 1995 was 8.83% and the average Federal Funds rate was 5.85% versus 7.14% and 4.23%, respectively in 1994. Net interest income on a tax-equivalent basis grew $1.4 million, or 10.5%, to $14.4 million 1995 from $13.0 million in 1994. Average earning assets grew moderately by $2.5 million to $298.9 million for 1995 over 1994, and realized an increase in the yield earned of 89 basis points to 8.56%. Average interest-bearing liabilities decreased $1.7 million to $245.8 million for 1995 compared to 1994 but showed an increase in the rates paid on those liabilities of 63 basis points to 4.56% for 1995 versus 3.93% for 1994.
Table 2. Analysis of Net Interest Income (unaudited) 1996 Average Income or Average (Amounts in thousands) balance expense yield/rate Interest-earning assets: Interest-bearing deposits in other banks $4,122 $210 5.09% Federal funds sold - - - Investment securities Taxable 60,317 3,640 6.03% Nontaxable 20,181 1,426 7.07% Loans, net of unearned discount 218,033 20,037 9.19% Total interest-earning assets 302,653 25,313 8.36% Noninterest-earning assets 18,164 Total assets $320,817 Interest-bearing liabilities: Deposits: Interest-bearing checking $32,006 $697 2.18% Money market deposit accounts 23,633 841 3.56% Savings 45,835 1,300 2.84% Time 124,411 7,010 5.63% Total interest-bearing deposits 225,885 9,848 4.36% Federal funds purchased and securities sold under agreements to repurchase 16,376 762 4.65% Other borrowings 7,280 477 6.55% Total interest-bearing liabilities 249,541 11,087 4.44% Noninterest-bearing liabilities 36,398 Shareholders' equity 34,878 Total liabilities and shareholders' equity $320,817 Net interest income/Net interest margin 14,226 4.70% Tax equivalent adjustment (514) Net interest income 13,712 All amounts have been adjusted to a tax-equivalent basis using a tax rate of 34%
Table 2. Analysis of Net Interest Income (unaudited) 1995 Average Income or Average (Amounts in thousands) balance expense yield/rate Interest-earning assets: Interest-bearing deposits in other banks $11,694 $683 5.84% Federal funds sold 155 9 5.81% Investment securities Taxable 47,935 2,867 5.98% Nontaxable 21,145 1,577 7.46% Loans, net of unearned discount 217,932 20,434 9.38% Total interest-earning assets 298,861 25,570 8.56% Noninterest-earning assets 13,938 Total assets $312,799 Interest-bearing liabilities: Deposits: Interest-bearing checking $27,734 $564 2.03% Money market deposit accounts 26,663 1,022 3.83% Savings 46,183 1,345 2.91% Time 125,780 7,188 5.71% Total interest-bearing deposits 226,360 10,119 4.47% Federal funds purchased and securities sold under agreements to repurchase 12,454 639 5.13% Other borrowings 7,032 452 6.43% Total interest-bearing liabilities 245,846 11,210 4.56% Noninterest-bearing liabilities 33,523 Shareholders' equity 33,430 Total liabilities and shareholders' equity $312,799 Net interest income/Net interest margin 14,360 4.80% Tax equivalent adjustment (599) Net interest income 13,761 All amounts have been adjusted to a tax-equivalent basis using a tax rate of 34%
Table 2. Analysis of Net Interest Income (unaudited) 1994 Average Income or Average (Amounts in thousands) balance expense yield/rate Interest-earning assets: Interest-bearing deposits in other banks $1,026 $45 4.39% Federal funds sold 69 3 4.35% Investment securities Taxable 54,851 2,947 5.37% Nontaxable 23,636 1,841 7.79% Loans, net of unearned discount 216,688 17,881 8.25% Total interest-earning assets 296,270 22,717 7.67% Noninterest-earning assets 13,571 Total assets $309,841 Interest-bearing liabilities: Deposits: Interest-bearing checking $28,115 $526 1.87% Money market deposit accounts 33,416 1,041 3.12% Savings 51,821 1,364 2.63% Time 115,550 5,893 5.10% Total interest-bearing deposits 228,902 8,824 3.85% Federal funds purchased and securities sold under agreements to repurchase 5,177 212 4.10% Other borrowings 13,493 684 5.07% Total interest-bearing liabilities 247,572 9,720 3.93% Noninterest-bearing liabilities 30,468 Shareholders' equity 31,801 Total liabilities and shareholders' equity $309,841 Net interest income/Net interest margin 12,997 4.39% Tax equivalent adjustment (689) Net interest income 12,308 All amounts have been adjusted to a tax-equivalent basis using a tax rate of 34% Years ended December 31 1996 1995 1994 Rate Analysis: Yield on total earning assets 8.36% 8.56% 7.67% Cost of funds supporting earning assets 3.66% 3.76% 3.28% Net rate on earning assets 4.70% 4.80% 4.39%
TABLE 3. Rate-Volume Analysis of Net Interest Income (unaudited) Table 3 attributes increases and decreases in components of net interest income either to changes in average volume or to changes in average rates for interest-earning assets and interest-bearing liabilities. Numerous and simultaneous balance and rate changes occur during the year. The amount of change that is not due solely to volume or rate is allocated proportionally to both. 1996 Compared to 1995 1995 Compared to 1994 Increase (Decrease) due to: Increase (Decrease) due to: (Amounts in thousands) Volume Rate Net Volume Rate Net Interest earned on: Interest-bearing deposits in other banks ($395) ($78) ($473) $468 $170 $638 Federal funds sold (9) 0 (9) 4 2 6 Investment securities Taxable 747 26 773 (372) 292 (80) Nontaxable (70) (81) (151) (194) (70) (264) Loans 9 (406) (397) 103 2,450 2,553 Total net change in interest income 282 (539) (257) 9 2,844 2,853 Interest expense on: Interest-bearing checking 91 42 133 (7) 45 38 Money market deposit accounts (111) (70) (181) (210) 191 (19) Savings (10) (35) (45) (148) 129 (19) Time (78) (100) (178) 522 773 1,295 Federal funds purchased and securities sold under agreements to repurchase 174 (51) 123 299 128 427 Other borrowings 16 9 25 (328) 96 (232) Total net change in interest expense 82 (205) (123) 128 1,362 1,490 Increase (Decrease) in net interest income $200 ($334) ($134) ($119) $1,482 $1,363 Nonaccruing loans are included in the loan balances used to calculate the above rate volume analysis. The interest associated with these nonaccruing loans is not shown in the loan income numbers. All nontaxable interest income has been adjusted to a tax-equivalent basis, using a tax rate of 34%.
Provision for Possible Loan Losses The provision for loan losses charged against earnings was $607,000 in 1996 compared to $302,000 in 1995, an increase of 101.1%. The increase was mainly due to an increase in consumer loan delinquencies and subsequent charge-offs. Net charge-offs exceeded provision expense by $81,000 in 1996. The provision for loan losses in 1994 was $48,000. The provision for loan losses is determined based upon the adequacy of the allowance for possible loan losses and upon an analysis of the loan portfolio, current economic conditions and other relevant factors. For more information, refer to the loan quality discussion and Table 10. Noninterest Income and Expense Total noninterest income for 1996 increased $373,000, or 11.0%, to $3.8 million compared to a decrease of $204,000 to $3.4 million in 1995. Excluding securities gains, total noninterest income increased $217,000, or 6.4%, to $3.6 million for the year ended December 31, 1996, compared to virtually no increase in 1995 versus 1994. Trust fiduciary activities produced commissions of $1.2 million in 1996 compared to $1.2 million and $1.0 million in 1995 and 1994, respectively. An increase in personal trust activities offset by a decrease in estate settlement activities resulted in flat trust commissions in 1996 versus 1995. Service charges, commissions and fees decreased $69,000 to $1.8 million in 1996 from $1.9 million in 1995 compared with a decrease of $18,000 for 1995 versus 1994. Increased deferred loan fees related to mortgage lending activities is primarily responsible for the decrease. Other noninterest income increased $277,000, or 94.2%, to $571,000 in 1996 compared to 1995 due primarily to nonrecurring items. In 1996 the Corporation recognized gains of $196,000 related to the sale of the former real estate brokerage subsidiary and $58,000 related to the sale of foreclosed property. The increase in other noninterest income in 1996 compares to a decrease in 1995 versus 1994 of $105,000 due largely to a gain of $116,000 on real estate sold in 1994. Gains on the sale of available for sale investment securities, primarily equity securities, resulted in an increase in securities gains of $156,000 to $166,000 for the year ended December 31, 1996 compared to $10,000 for the same period a year earlier. Management reviews the performance and quality of equity securities within the investment portfolio on a regular basis to determine appropriate investment positions and possible deterioration within the portfolio. During 1996 management concluded that some equity investment positions should be reduced and accordingly, sold those equity securities producing the increased gains. Securities gains decreased $209,000 in 1995 versus 1994 to $10,000 from $219,000. Total noninterest expense increased $143,000, or 1.3%, to $11.4 million for the year ended December 31, 1996 from $11.2 million at December 31, 1995. Salaries and employee benefits increased $306,000, or 5.0%, to $6.4 million for 1996 compared to $6.1 million for 1995. Salaries expense increased $359,000, or 8.0%, to $4.8 million while benefits expense decreased 3.2% to $1.6 million primarily due to a decrease in costs associated with the long term incentive plan. Full time equivalent employees increased to 195 at December 31, 1996 compared to 177 at December 31, 1995 due primarily to staffing at three community offices acquired from PNCBank in the fourth quarter of 1996. Salaries expense related to the three acquired branches totaled approximately $69,000. The remainder of the salaries expense increase was due primarily to general merit increases. Federal Deposit Insurance Corporation (FDIC) deposit insurance expense decreased $160,000, or 49.5%, to $163,000 for 1996 from $323,000 for 1995. The FDIC insurance fund is comprised of two funds - the Bank Insurance Fund (BIF) and the Savings Association Insurance Fund (SAIF). In the second quarter of 1995 BIF reached its fully funded level of 1.25% of total insured deposits, as legislated by Congress in 1989. Consequently, the FDIC reduced the assessments for 1996 to zero. Most of the Corporation's deposits are insured under BIF. The Corporation has SAIF insured deposits related to the acquisition of the Waynesboro office in 1992. SAIF deposits equaled approximately $20.0 million at December 31, 1996. The SAIF continued to assess its members quarterly through the third quarter of 1996. In September 1996, SAIF financial institutions were assessed a one-time charge to bring the SAIF to its fully funded level of 1.25% of total deposits. The Corporation was assessed $123,000 for this one-time charge. Total SAIF expense for 1996 amounted to $163,000. The FDIC Board of Directors voted to retain the existing BIF assessment schedule of 0 to 27 basis points (annual rates) for the first semiannual period of 1997 continuing the zero percent rate. In addition, under the Deposit Insurance Funds Act of 1996 (DIFA) all BIF and SAIF financial institutions will be required to pay premiums to the Financing Corporation (FICO). For the Corporation, BIF deposits will be assessed an annual FICO rate of 1.296 basis points and SAIF deposits will be assessed an annual rate of 6.48 basis points. Management expects that its FDIC insurance expenses will be significantly reduced in 1997. Total noninterest expense increased $125,000, or 1.1%, to $11.2 million in 1995 from $11.1 million in 1994. Increased costs in salaries and benefits offset by decreased costs related to FDIC deposit insurance accounted for most of the change. In 1995 the FDIC refunded to BIF members the portion of their assessment for the second and third quarters of 1995 which represented overpayment once the BIF had achieved fully funded status. Accordingly, the Corporation received a refund of $132,000 in 1995. Provision for Income Taxes Federal income tax expense amounted to $1.4 million in 1996, compared to $1.5 million and $1.0 million in 1995 and 1994, respectively. The Corporation's effective tax rates for the years ended December 31, 1996, 1995 and 1994 were 25.0%, 25.8% and 21.0%, respectively. The effective tax rate in 1996 versus 1995 was virtually unchanged. The increase in the effective tax rate for 1995 versus 1994 was primarily due to lower tax-free income relative to pretax income. For a more comprehensive analysis of Federal income tax expense refer to Note 10 of the accompanying financial statements.
Table 4. Investment Securities at Amortized Cost (unaudited) The following tables present amortized costs of investment securities by type at December 31 for the past three years: Amortized cost (Amounts in thousands) 1996 1995 1994 Held to Maturity U.S. Treasury securities and obligations of U.S. Government agencies and corporations $1,051 $849 $17,466 Obligations of state and political subdivisions 19,496 16,225 18,909 Corporate debt securities 3,688 6,795 11,147 Mortgage-backed securities 10,832 10,309 9,810 35,067 34,178 57,332 Other 1,223 1,139 1,162 $36,290 $35,317 $58,494 Amortized cost 1996 1995 1994 Available for Sale Equity Securities $1,380 $1,330 $1,213 U.S. Treasury securities and obligations of U.S. Government agencies and corporations 27,054 25,717 - Obligations of state and political subdivisions 1,934 2,417 2,400 Corporate debt securities 5,046 1,025 - Mortgage-backed securities 17,159 10,511 11,004 $52,573 $41,000 $14,617 The Other Held to Maturity classification in the above schedule represents common stock of the Federal Home Loan Bank of Pittsburgh and Atlantic Central Bankers Bank which in the aggregate total $1,223,000, $1,139,000 and $1,162,000 at December 31, 1996, 1995 and 1994 respectively. Common stock of the Federal Home Loan Bank and Atlantic Central Bankers Bank represents ownership in institutions which are wholly owned by other financial institutions.
TABLE 5. Time Certificates of Deposit of $100,000 or More (unaudited) The maturity of outstanding certificates of deposit of $100,000 or more at December 31, 1996 is as follows: (Amounts in thousands) Amount Maturity distribution: Within three months $14,576 Over three through six months 3,409 Over six through twelve months 8,740 Over twelve months 3,620 Total $30,345
Financial Condition The Corporation's financial condition is evaluated in terms of its sources and uses of funds. Liabilities represent sources of funds while assets reflect the uses of those funds. At December 31, 1996, total assets reached $336.1 million, an increase of $22.6 million, or 7.2%, as compared to December 31, 1995. Investment securities increased $12.5 million, or 16.2%, during 1996 to $89.8 million at December 31, 1996, compared to a $4.8 million increase in 1995. The growth in investment securities in 1996 occurred primarily in mortgage-backed securities and municipal obligations and equaled $7.0 million and $2.8 million, respectively. U.S. Government securities and corporate debt securities increased $1.3 million and $914,000, respectively. As disclosed in Note 4 of the financial statements, the Corporation's mortgage-backed securities portfolio consists primarily of mortgage-backed securities issued by various agencies of the Federal government which carry either an explicit or implied Federal guarantee. Of the mortgage-backed securities issued by private issuers, the majority were rated triple A by a nationally recognized rating agency. None was rated lower than double A. Accordingly, the credit risk associated with the Corporation's mortgage-backed securities is low. The interest rate risk accompanying the mortgage-backed securities held by the Corporation is considered to be moderate. The current portfolio has an estimated duration of 2.96 years, suggesting that the market value of the mortgage-backed portfolio would rise (or fall) approximately 3.0% given a 100 basis point decrease (or increase) in market interest rates. However, proportionately greater price volatility would be expected with a larger change in market interest rates. The relatively short duration of the mortgage-backed portfolio indicates that the Corporation's exposure to prepayment of these assets in a lower rate environment is moderate. With the exception of one $163,000 mortgage-backed security, all collateralized mortgage obligations (CMOs) pass the Federal Financial Institutions Examination Council's high-risk stress test. The Corporation held $1.4 million and $1.3 million in available for sale equity securities (amortized cost basis) at December 31, 1996 and 1995, respectively. All equity securities are investments in common stocks of other financial institutions. At December 31, 1996, the net unrealized gain, net of tax, on available for sale securities was $613,000 compared to $677,000, a year earlier. Total loans, net of unearned discount, grew to $224.2 million at December 31, 1996, an increase of $11.0 million, or 5.2% over the reported $213.2 million at December 31, 1995. Total loans, net of unearned discount, represented 66.7% of total year-end assets compared to 68.0% for 1995. As Table 7 reflects, at December 31, 1996, consumer loan volume, including first mortgage residential loans and real estate construction loans decreased a total of $5.9 million, or 4.2%, to $133.1 million while commercial, industrial and agricultural loans increased $16.6 million, or 22.2%, to $91.2 million. The Corporation originated and sold approximately $15.2 million in mortgage loans to the secondary market, primarily to Federal National Mortgage Association (FNMA) in 1996 compared to $15.0 million originated and sold primarily to Countrywide Funding Corporation in 1995. Consumer loan demand, except for mortgages, continued to be weak during 1996 reflecting increased bank and nonbank competition in the local market. Conversely, commercial loan demand rebounded in 1996 and showed renewed optimism in the local business community. The ratio of nonperforming assets (primarily loans) to total assets improved to .54% at December 31, 1996 from .65% at December 31, 1995. Included in nonperforming assets was other real estate owned (OREO) totaling $99,000 and $258,000 at December 31, 1996 and 1995, respectively. OREO represents foreclosed real estate. The ratio of allowance for possible loan loss to total loans was 1.36% at December 31, 1996, and provided coverage for nonaccrual and nonperforming loans 3.6 times and 1.8 times, respectively. The ratio of allowance for possible loan loss to total loans at December 31, 1995, was 1.47%. For a more indepth analysis of the loan portfolio refer to the loan quality discussion which appears below. Funding for asset growth came primarily from deposit growth and other borrowings. Total deposits grew $11.0 million, or 4.3%, to $268.2 million at December 31, 1996 from $257.2 million at December 31, 1995. Moderate increases were reported in all deposit components - noninterest-bearing demand, savings and interest checking, and time. Savings and interest checking recorded the largest increase at $5.7 million. The deposit dollar market share is decreasing for the banking industry and the Corporation is not immune to this trend. In its market area the Corporation competes with as many as twelve banks and five credit unions, in addition to other financial service intermediaries such as brokerage houses and insurance companies. As an alternative funding source, the Corporation looks to its borrowing ability with the Federal Home Loan Bank of Pittsburgh (FHLB). Other borrowings with FHLB increased $9.2 million, or 163.6%, to $14.9 million at December 31, 1996 from $5.7 million a year earlier. The increase in other borrowings included an increase in overnight borrowings of $7.0 million and an increase in term borrowings of $2.2 million. Securities sold under agreements to repurchase (Repos) increased $1.5 million to $15.1 million at December 31, 1996, from $13.6 million a year earlier. Repos are also a funding source for the Corporation and represent customer cash management accounts. In the fourth quarter of 1996 the Corporation purchased four branch offices from PNCBank. Three of these offices are located in adjoining Cumberland County and have been converted to F&M Trust community offices . The fourth office is located in Franklin County and will not be used by F&M Trust as a community office. Included in the purchase price of $2.7 million was real estate, personal property and customer lists. Unlike most branch acquisitions, there were no loans acquired and no deposits assumed in the transaction. Management recognizes that the additional expense associated with the operation of these three new community offices will adversely impact earnings in the short-term, but believes that the long-term effect of the acquisition will have a positive impact on earnings.
TABLE 6. Short-Term Borrowings (unaudited) Federal funds purchased, FHLB borrowings, and Securities Sold Under Agreements to Repurchase: (Amounts in thousands) 1996 1995 1994 Ending balance $22,172 $13,611 $12,062 Average balance 18,639 12,990 11,948 Maximum month-end balance 26,724 16,212 16,695 Weighted-average interest rate on average balances 4.84% 5.14% 4.11%
Loan Quality The Corporation's loan portfolio, net of unearned discounts and the allowance for possible loan losses, equaled $221.2 million on December 31, 1996, or 5.3% greater than on December 31, 1995 (see Table 7). As a result of the Corporation's continued strategy of selling certain types of residential mortgages to secondary market investors, the real estate portfolio showed a 6.5% decrease to $83.2 million at December 31, 1996, compared to $89.0 million at December 31, 1995. Significant growth occurred in the commercial, industrial and agricultural loan portfolio, increasing 22.1% to $91.2 million at December 31, 1996 from $74.7 million at December 31, 1995. The increase in commercial, industrial and agricultural loans was largely attributable to the relatively healthy local economy and the Corporation's more competitive loan pricing structure. Consumer loans showed a modest decline to $49.9 million at December 31, 1996, compared to $50.0 million at December 31, 1995. The decrease in consumer loans resulted primarily from reductions in direct installment and indirect auto loans. Strong growth within the consumer loan portfolio occurred in closed-end home equity loans, which recorded an increase of 21.5% at December 31, 1996 to $10.4 million. As a percentage of total loans, the real estate portfolio represented 37.1% at December 31, 1996, down from 41.7% at December 31, 1995. Growth in the commercial portfolio caused that segment to rise to 40.7% of total loans at December 31, 1996 compared to 35.0% one year earlier. The consumer loan portfolio equaled 22.3% of total loans at December 31, 1996 versus 23.4% at December 31, 1995. The Corporation's net charge-offs in 1996 totaled $688,000 (0.32% of average loans), a 17.4% increase from the $586,000 (0.27% of average loans) in net charge-offs recorded in 1995. At 0.32%, the Corporation's ratio of net charge-offs to average loans was the highest since a ratio of 0.35% in 1992. As Table 10 shows, 75.3% of 1996 net charge-offs occurred within the consumer loan portfolio, which increased 10.7% to $518,000 in 1996 from $468,000 in 1995. Commercial net charge-offs grew $115,000, or 267.4% to $158,000 in 1996 compared to $43,000 in 1995. Table 9 shows that the Corporation's nonperforming assets totaled $1.8 million at December 31, 1996, a 10.9% decrease from the $2.1 million in nonperforming assets at December 31, 1995. Nonaccrual loans increased 27.6% at December 31, 1996 to $856,000, compared to $671,000 one year earlier. The increase in nonaccrual loans was related primarily to one commercial account, which represented $494,000 in outstanding loans, or approximately 57.7% of total nonaccrual loans at December 31, 1996. Aside from that one account, the Corporation was successful in reducing nonaccrual loans through partial and full payments. Offsetting the increase in nonaccrual loans were decreases in loans past due 90 days or more and still accruing interest and other real estate owned (OREO). Loans past due 90 days or more decreased $249,000 to $874,000 at December 31, 1996, down 22.2% from $1.1 million at December 31, 1995. The reduction in loans past due 90 days or more was concentrated in the consumer and commercial portfolios. As reported last year, the Corporation's management has and will continue to focus on loan quality control efforts to ensure that all lending activities are adequately and uniformly supported by quality assurance structures and processes. The final component of nonperforming assets, other real estate owned, decreased to $99,000 at December 31, 1996 from $258,000 a year earlier, and includes only one residential property. Subsequent to December 31, 1996, the property in OREO has become subject to an agreement of sale. For the second consecutive year, the Corporation recorded no restructured loans. Potential problem loans at December 31, 1996 have been determined to be immaterial. The allowance for possible loan losses was $3.1 million at December 31, 1996 and 1995 and represented 1.36% and 1.47%, respectively, of loans, net of unearned discounts. On December 31, 1996 the ratio of the allowance for possible loan losses to nonperforming loans was 176.9%. This indicator of allowance adequacy has remained steady, providing coverage of 175.1% and 152.7% for the years ended December 31, 1995 and 1994, respectively. While the allowance has gradually decreased from prior years, the Corporation has recorded significant reductions in nonperforming loans during that period and management has determined that allowance to be adequate. The loan loss reserve analysis utilized by management to establish the allowance considers financial condition, repayment capacity, payment performance, collateral values and support from guarantors for specifically allocated commercial loans; and, for the remainder of the loan portfolio historical losses, delinquency rates, and general economic conditions (refer to Tables 8 and 10 for allocation of the reserve and loan loss activity as of December 31, 1996). Management continuously monitors the adequacy of the allowance for possible loan losses and maintains it within a range which complies with loan portfolio requirements. Management's assessment of loan loss reserve adequacy is reviewed quarterly by the Loan Policy and Audit Committees of the Board of Directors. The maintenance of loan quality, because of its contributions to the Corporation's financial performance, remains a priority of management. In 1996, the corporation established an internal loan review function, which will help provide early recognition of deteriorating commercial credit situations, periodic review of the Corporation's loan portfolio, an independent assessment of the overall credit process and an assessment of the adequacy of the allowance for possible loan losses. In early 1997, management will be focusing its loan quality control efforts on consumer lending, which is the subject of growth plans and which, as mentioned earlier, experienced increased delinquencies and losses in 1996. Rising personal bankruptcies are also a concern in the consumer portfolio. Non-business bankruptcy filings grew 28% in Pennsylvania over the past two years; the Middle District of Pennsylvania reported a 40% increase in bankruptcy filings over the past year, ranking fifth out of the 94 Federal court districts. More importantly is the fact that more people are filing for bankruptcy with little warning, as evident in loan loss rates growing at a faster pace than delinquency rates. Accordingly, employee training in consumer lending, as well as in credit recovery, remains a priority of the Corporation. In 1995, President Clinton approved the BRAC recommendations that included the realignment of Letterkenny Army Depot in the Chambersburg (Franklin County) area. Letterkenny Army Depot is one of the area's largest employers; however, job reductions will occur gradually through the year 2001. The Franklin County Reuse Committee has been formed by the Franklin County Commissioners to investigate and recruit private industry to replace lost government jobs. Through the Franklin County Reuse Committee's efforts, the government has approved the transfer of 1,900 acres of real estate to the community. As a result of these efforts, the Reuse Committe expects that jobs will begin to be created within the next 18 months. The Franklin County Reuse Committee has designated the area as an industrial site, making it one of the largest in Pennsylvania. With the positive direction the reuse of Letterkenny Army Depot is taking, management of the Corporation does not anticipate any material negative impact from the realignment of the Depot regarding deposit growth, loan demand or loan losses.
TABLE 7. Loan Portfolio (unaudited) The following table presents an analysis of the Banks' loan portfolio for each of the past five years: December 31 (Amounts in thousands) 1996 1995 1994 1993 1992 Real estate (primarily first mortgage residential loans) $79,478 $83,800 $92,481 $95,918 $101,583 Real estate - construction 3,727 5,233 4,207 4,232 4,607 Commercial, industrial and agricultural 91,244 74,678 75,783 72,537 69,071 Consumer (including home equity lines of credit) 49,936 50,017 51,376 41,969 39,517 Total loans 224,385 213,728 223,847 214,656 214,778 Less: Unearned discount (159) (520) (1,111) (425) (475) Allowance for possible loan losses (3,060) (3,141) (3,425) (3,598) (3,433) Net loans $221,166 $210,067 $219,311 $210,633 $210,870
TABLE 8. Allocation of the Allowance for Possible Loan Losse The following table shows allocation of the allowance for possible loan losses by major loan category and the percentage of the loans in each category to total loans at year-end: (Amounts in thousands) December 31 1996 1995 1994 1993 1992 $ % $ % $ % $ % $ % Real estate $220 37% $583 42% $989 43% - 47% - 50% Commercial industrial and agricultural 1,326 41% 1,136 35% 1,520 34% 2,519 34% 2,403 32% Consumer 1,514 22% 1,422 23% 916 23% 1,079 19% 1,030 18% $3,060 100% $3,141 100% $3,425 100% $3,598 100% $3,433 100%
TABLE 9. Nonperforming Assets (unaudited) The following table presents an analysis of nonperforming assets for each of the past five years. December 31 (Amounts in thousands) 1996 1995 1994 1993 1992 Nonaccrual loans $856 $671 $1,047 $1,877 $2,574 Loans past due 90 days or more (not included above) 874 1,123 601 1,193 994 Restructured loans - - 595 872 1,086 Total nonperforming loans 1,730 1,794 2,243 3,942 4,654 Other real estate 99 258 - 267 342 Total non performing assets $1,829 $2,052 $2,243 $4,209 $4,996 The Corporation has no foreign loans. The Bank's policy is to classify loans as nonaccrual when the payment of principal or interest has not been made for a period of 90 days and management considers the collection of principal and interest doubtful. Any interest accrued prior to the date of nonaccrual classification is reversed. Subsequent payments are applied as a reduction of principal until the loan is returned to accruing status. Restructured loans occur when a borrower has experienced financial hardship and the loan repayment terms are adjusted to be more favorable to the borrower than those with which new loans would be granted.
TABLE 10. Allowance for Possible Loan Losses The following table presents an analysis of the allowance for possible loan losses for each of past five years. December 31 (Amounts in thousands) 1996 1995 1994 1993 1992 Balance at beginning of year $3,141 $3,425 $3,598 $3,433 $2,682 Charge-offs: Commercial,industrial and agriculturial (183) (89) (51) (447) (685) Consumer (582) (511) (230) (219) (213) Real estate (12) (76) (38) (34) (7) Total charge-offs (777) (676) (319) (700) (905) Recoveries: Commercial, industrial and agriculturial 25 46 60 104 166 Consumer 64 43 19 60 34 Real estate - 1 19 - - Total recoveries 89 90 98 164 200 Net charge-offs (688) (586) (221) (536) (705) Provision for possible loan losses 607 302 48 701 1,281 Waynesboro acquisition - - - - 175 Balance at end of year $3,060 $3,141 $3,425 $3,598 $3,433 Ratios: Net loans charged off as a percentage of average loans 0.32% 0.27% 0.10% 0.26% 0.35% Allowance as a percentage of net loans (at December 31) 1.36% 1.47% 1.54% 1.68% 1.60%
Liquidity and Interest Rate Sensitivity The Corporation must meet the financial needs of the communities which it serves, while providing a satisfactory return on the shareholders' investment. In order to accomplish this, Franklin Financial Services Corporation must maintain sufficient liquidity in order to respond quickly to the changing level of funds required for both loan and deposit activity. The goal of liquidity management is to meet the ongoing cash flow requirements of depositors who want to withdraw funds and of borrowers who request loan disbursements. Historically, Franklin Financial Services Corporation has satisfied its liquidity needs from the scheduled repayment of loans and securities, maturing investment securities, deposit growth, its ability to borrow through existing lines of credit and its earnings. Investments classified as available for sale provide an additional source of readily available liquidity. Growth in deposits generally provides the major portion of funds required to meet increased loan demand. Total deposits grew by $11.0 million between December 31, 1995 and 1996. In addition, the Corporation increased other borrowings by $9.2 million. These funding sources, together with an increase of $1.5 million in funds from securities sold under agreement to repurchase, were sufficient to meet the increase in loan demand and increased investments in securities. Table 6 presents specific information concerning short-term borrowings. Changes in interest rates can have a significant impact on the Corporation's net income. The objective of interest rate risk management is to identify and manage the sensitivity of net income to changing interest rates so as to produce consistent earnings that are not contingent upon favorable trends in interest rates. The Corporation uses several tools to measure interest rate risk. Income simulation modeling, the primary measurement tool, is used to project net income in different interest rate environments, and considers not only the impact of changing interest rates but also other sources of variability including loan and securities prepayments, loan spreads and customer preferences. The Corporation's simulation modeling also measures the sensitivity of the economic value of all assets and liabilities under different interest rate scenarios. The Corporation establishes tolerance ranges for these measures of interest rate sensitivity and manages within the ranges. An interest rate sensitivity or gap analysis is used to supplement simulation modeling. Gap analysis classifies assets and liabilities into maturity and repricing time intervals. The interest rate gap, the difference between interest-sensitive assets and liabilities, provides management with an indication of how net interest income will be impacted by changing rates scenarios. Table 11 presents an interest rate sensitivity analysis of the Corporation at December 31, 1996. The positive gap in the under one-year time intervals suggests that the Corporation's near-term earnings would increase in a higher interest rate environment. However, the simulation modeling indicates that prospective earnings for a one-year time period are well insulated and would fluctuate by less than five percent in response to a 200 basis point increase or decrease in market interest rates.
Table 11. Interest Rate Sensitivity Analysis (Unaudited) Interest Rate Sensitivity Gaps (Amounts in Thousands) 1-90 91-181 182-365 1-5 Beyond Days Days Days Years 5 Years Total Interest-earning assets: Interest -bearing deposits in other banks $256 $ - $ - $ - $ - $256 Federal funds sold - - - - - - Investment securities 8,454 3,108 7,205 41,805 29,220 89,792 Loans, net of unearned income 80,767 11,983 23,009 44,099 64,527 224,385 Total interest-earning assets $89,477 $15,091 $30,214 $85,904 $93,747 $314,433 Interest-bearing liabilities: Interest-bearing checking $ - $ - $ - $ 27,584 6,889 34,473 Money market deposit accounts 2,519 3,761 7,623 11,385 - 25,288 Savings - - - 36,001 9,001 45,002 Time 29,398 19,144 38,932 40,920 198 128,592 Federal funds purchased and securities sold under agreement to repurchase 15,122 - - - - 15,122 Other borrowings 7,050 - 745 6,943 153 14,891 Total interest-bearing liabilities $54,089 $22,905 $47,300 $122,833 $16,241 $263,368 Interest rate gap $35,388 ($7,814) ($17,086) ($36,929) $77,506 $51,065 Cumulative interest rate gap $35,388 $27,574 $10,488 ($26,441) $51,065 $ 51,065 Note 1: The maturity/repricing distribution of investment securities is based on the maturity date for nonamortizing, noncallable securities; probable exercise/non-exercise of call option for callable securities; and estimated amortization based on industry experience for amortizing securities. Note 2: Distribution of loans is based on contractual repayment terms except for residential mortgages where the scheduled maturities are accelerated based on estimated prepayments of approximately 15 percent per year (constant prepayment rate). Note 3: Interest-bearing checking, MMDA and savings accounts are non-maturity deposits which are distributed in accordance with guidelines provided by the FDIC.
Table 12. Maturity Distribution of Investment Portfolio (unaudited) The following presents an analysis of investments in debt securities at December 31, 1996 by maturity, and the weighted average yield for maturity presented. Securities with "put options" have been classified in the earliest period in which the options can be exercised. The yields in this table are presented on a tax-equivalent basis. After one year After five years After ten One year or less through five years through ten years years Total Amortized Amortized Amortized Amortized Amortized (Amounts in thousands) Cost Yield Cost Yield Cost Yield Cost Yield Cost Yield Held to Maturity U.S. Treasury securities & obligations of U.S. Government agencies & corporations $ --- --- $1,051 6.38% $ --- --- $ --- --- $1,051 6.38% Obligations of state & political subdivisions 1,916 7.60% 11,392 6.86% 4,545 6.84% 1,643 8.35% 19,496 7.05% Corporate debt securities 470 5.63% 2,572 5.97% 646 5.81% --- --- 3,688 5.90% Mortgage-backed securities 542 6.43% 974 6.39% 2,124 6.34% 7,192 6.66% 10,832 6.56% $2,928 7.07% $15,989 6.66% $7,315 6.60% $8,835 6.97% $35,067 6.76% Market Market Market Market Market Value Yield Value Yield Value Yield Value Yield Value Yield Available for Sale U.S. Treasury securities & obligations of U.S. Goverment agencies & corporations $6,614 6.03% $14,486 6.17% $5,955 7.07% $ --- --- $27,055 6.33% Obligations of state & political subdivisions 1,930 6.66% --- --- --- --- --- --- 1,930 6.66% Corporate debt securities 1,015 6.11% 3,530 6.61% 513 6.97% --- --- 5,058 6.55% Mortgage-backed securities --- --- 4,180 6.24% 8,757 6.56% 4,032 5.95% 16,969 6.34% $9,559 6.17% $22,195 6.25% $15,226 6.77% $4,032 5.95% $51,012 6.37%
TABLE 13. Maturities and Interest Rate Terms of Selected Loans (unaudited) Stated maturities (or earlier call dates) of selected loans as of December 31, 1996 are summarized in the table below. Residential mortgages and consumer loans are excluded from the presentation. After one year Within but within After (Amounts in thousands) one year five year five years Total Loans: Real estate - construction $3,727 - - $3,727 Commercial, industrial and agricultural 17,553 31,823 41,868 $91,244 $21,280 $31,823 $41,868 $94,971 The following table shows for the above loans the amounts which have predetermined interest rates and the amounts which have variable interest rates at December 31, 1996: After one year but within After five year five years Total Loans with predetermined rates $14,372 $20,528 $34,900 Loans with variable rates 17,451 21,340 $38,791 $31,823 $41,868 $73,691
TABLE 14. Capital Ratios December 31 1996 1995 1994 (unaudited) Risk-based ratios Tier 1 14.75% 16.41% 15.36% Tier 2 16.00% 17.66% 16.62% Leverage Ratio 10.03% 10.77% 10.99%
Capital and Dividends Total shareholders' equity equaled $35.3 million at December 31, 1996, representing an increase of $385,000, or 1.1% over $34.9 million at December 31, 1995. In 1996, earnings retained amounted to $2.6 million but was more than offset by the repurchase of outstanding common stock totaling $2.7 million. One year earlier, earnings retained amounted to $2.1 million and the repurchase of outstanding common stock totaled $2.2 million. The change in net unrealized gains in available for sale investment securities, net of deferred taxes for 1996 versus 1995 resulted in a decrease to shareholders' equity of $64,000 compared to an increase of $1.0 million for 1995 versus 1994. In March 1996, the Board of Directors authorized the repurchase of up to 50,000 shares of the Corporation's outstanding common stock through March 1997. Subsequently, in July 1996, the Board of Directors modified the stock repurchase program from 50,000 shares to 100,000 shares and extended the repurchase period from March 1997 to July 1997. Treasury stock acquired is used for general corporate purposes including stock dividends and stock splits, employee benefit and executive compensation plans and the dividend reinvestment plan. As a result of stock repurchase programs the Corporation repurchased 88,604 shares at a cost of $2.7 million and 64,741 shares at a cost of $2.2 million in 1996 and 1995, respectively. Subsequent to year-end 1996 , the Board of Directors authorized the repurchase of up to 100,000 shares of the Corporation's common stock through March 1998. A strong capital position is important to the Corporation and provides a solid foundation for the anticipated future growth of the Corporation. A strong capital position also instills confidence in the Corporation by depositors, regulators and investors, and is considered essential by management. Common measures of adequate capitalization for banking institutions are ratios of capital to assets. These ratios indicate the proportion of permanently committed funds to the total asset base. Guidelines issued by federal and state regulatory authorities require both banks and bank holding companies to meet minimum leverage capital ratios and risk-based capital ratios. The Leverage ratio compares Tier I Capital to total balance sheet assets while the risk-based ratio compares Tier I and Tier II capital to risk-weighted assets and off-balance-sheet activity in order to make capital levels more sensitive to the risk profiles of individual banks. Current regulatory capital guidelines call for a minimum Tier I leverage ratio of 4.0% and minimum Tier I and Tier II risk-based capital ratios of 4.0% and 8.0%, respectively. Well capitalized banking institutions are determined to have leverage capital ratios greater than or equal to 5.0% and Tier I and Tier II risk-based capital ratios greater than or equal to 6.0% and 10.0%, respectively. Tier I capital is composed of common stock, additional paid-in-capital and retained earnings reduced by goodwill, other intangible assets and the effect of unrealized losses on available for sale equity securities. Tier II capital is composed of Tier I capital plus the allowance for loan losses. Table 14 presents the consolidated capital ratios for the Corporation at December 31, 1996, 1995 and 1994. At year-end, the Corporation and its banking subsidiary exceeded all regulatory capital requirements. For additional information on capital adequacy refer to Note 2 of the financial statements. The Corporation paid cash dividends of $.78 per common share to its shareholders in 1996, an increase of 8.3% over the $.72 per common share paid in 1995. In 1994 the cash dividends paid equaled $.65 per common share. The ratio of cash dividends paid to net income for 1996 was 36.4% compared to 34.0% and 32.6%, respectively, for 1995 and 1994. In 1995 the Board of Directors approved a 3 for 2 stock split issued in the form of a 50% stock dividend distributed on December 29, 1995, to shareholders of record on December 8, 1995. Book value per common share was $18.70 at December 31, 1996, versus $18.02 at December 31, 1995. Market value per common share was $32.13 at December 31, 1996 versus $27.25 at December 31, 1995. Market value disclosed in the financial highlights reflects the mean between the bid and ask prices for the last business day of the year. As of year-end 1996, the Corporation's common stock was trading at 171.8% of its December 31 book value compared to 151.2% at year-end 1995; the price earnings multiple was 14.6 times at December 31, 1996 compared to 12.5 times at December 31, 1995. Shareholders' Information Dividend Reinvestment Plan Franklin Financial Services Corporation offers a dividend reinvestment program whereby shareholders with stock registered in their own names may reinvest their dividends in additional shares of the Corporation. Information concerning this optional program ia available by contacting the Corporate Secretary at 20 South Main Street, P.O. Box T, Chammbersburg, PA 17201-0819, telephone 717/264-6116. Dividend Direct Deposit Program Franklin Financial Services Corporation offers a dividend direct deposit program whereby shareholders with registered stock in their own names may choose to have their dividends directly deposited into the bank account of their choice on the dividend payment date. Information concerning this optional program ia available by contacting the Corporate Secretary at 20 South Main Street, P.O. Box T, Chammbersburg, PA 17201-0819, telephone 717/264-6116. Annual Meeting The Annual Shareholders' Meeting will be held on Tuesday, April 29, 1997 at The Lighthouse Restuarant, 4301 Philadelphia Avenue, Chambersburg. The business meeting will begin at 10:30 a.m. and will be followed by a luncheon served at 12:00 noon. Stock Information The following brokers are registered market makers of Franklin Financial Services Corporation's common stock: Ferris Baker Watts Hopper Soliday & Co., Inc. 17 East Washington Street 1703 Oregon Pike Hagerstown, MD 21740 Lancaster, PA 17601 800/344-4413 800/646-8647 F.J. Morrissey & Co., Inc. Ryan, Beck & Co. 1700 Market Street, Suite 1420 3 Parkway Philadelphia, PA 19103-3913 Philadelphia, PA 19102 215/563-3296 800/223-8969 Registrar and Transfer Agent The registrar and transfer agent for Franklin Financial Services Corporation is Fulton Bank, P.O. Box 4887, Lancaster, PA 17604. EX-21 4 Exhibit 21 Subsidiaries of Franklin Financial Services Corporation Farmers and Merchants Trust Company of Chambersburg - Direct (A Pennsylvania Bank and Trust Company) EX-24 5 Arthur Andersen LLP CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation of our report included in Franklin Financial Services Corporation 1996 annual report to stockholders incorporated by reference in this Form 10-K, into the Corporation's previously filed Registration Statements; File No. 2-92212, No. 2-98880, No. 33-36509, No. 33-64294 and No. 33-82420. /s/ Arthur Andersen LLP Lancaster, PA March 26, 1997 EX-27 6
9 1000 12-MOS DEC-31-1996 DEC-31-1996 10265 256 0 0 53502 36290 36199 224226 3060 336120 268202 22172 2564 7841 0 0 2030 33311 336120 19903 4686 210 24799 9848 11087 13712 607 166 11372 5506 5506 0 0 4127 2.20 2.18 8.36 856 874 0 0 3141 777 89 3060 3060 0 0
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