10-Q 1 l02574ae10vq.txt MIDDLEFIELD BANC CORP. UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20552 FORM 10 - Q [X] QUARTERLY REPORT UNDER SECTION 13 OF 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2003 [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT For the transition period from to Commission File Number 000-32561 ------------------------------- Middlefield Banc Corp. (Exact name of registrant as specified in its charter) Ohio 34 - 1585111 (State or other jurisdiction of (IRS Employer Identification No.) incorporation or organization) 15985 East High Street, Middlefield, Ohio 44062-0035 (Address of principal executive offices) (440) 632-1666 (Registrant's telephone number, including area code) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes No X --- --- Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes No X --- --- State the number of shares outstanding of each of the issuer's classes of common equity as of the latest practicable date: Class: Common Stock, without par value Outstanding at August 11, 2003: 1,158,354 MIDDLEFIELD BANC CORP. INDEX
Page Number ----------- PART I - FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheet (Unaudited) as of 3 June 30, 2003 and December 31, 2002 Consolidated Statement of Income (Unaudited) for the Three and Six Months ended June 30, 2003 and 2002 4 Consolidated Statement of Changes in Stockholders' Equity (Unaudited) for the Six Months ended June 30, 2003 5 Consolidated Statement of Cash Flows (Unaudited) for the Six Months ended June 30, 2003 and 2002 6 Notes to Unaudited Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9 Item 3. Quantitative and Qualitative Disclosures About Market Risk 14 Item 4. Controls and Procedures 16 PART II - OTHER INFORMATION Item 1. Legal Proceedings 17 Item 2. Changes in Securities 17 Item 3. Defaults Upon Senior Securities 17 Item 4. Submission of Matters to a Vote of Security Holders 17 Item 5. Other Information 17 Item 6. Exhibits and Reports on Form 8 - K 17 SIGNATURES
MIDDLEFIELD BANC CORP. CONSOLIDATED BALANCE SHEET (Unaudited)
June 30, December 31, 2003 2002 ------------- ------------- ASSETS Cash and due from banks $ 6,102,703 $ 1,775,324 Federal funds sold 8,235,000 350,000 ------------- ------------- Cash and cash equivalents 14,337,703 2,125,324 Interest-bearing deposits in other institutions 574,402 571,969 Investment securities available for sale 37,241,937 35,917,057 Investment securities held to maturity (estimated market value of $3,377,005 and $6,405,918) 3,265,946 6,242,095 Loans 182,418,551 174,943,131 Less allowance for loan losses 2,512,866 2,300,485 ------------- ------------- Net loans 179,905,685 172,642,646 Premises and equipment 6,907,800 6,480,730 Bank-owned life insurance 5,068,286 -- Accrued interest and other assets 2,584,116 2,265,712 ------------- ------------- TOTAL ASSETS $ 249,885,875 $ 226,245,533 ============= ============= LIABILITIES Deposits: Noninterest-bearing demand $ 29,595,597 26,610,912 Interest-bearing demand 8,230,978 7,216,385 Money market 12,865,490 10,660,657 Savings 54,867,549 49,277,572 Time 100,556,018 93,618,968 ------------- ------------- Total deposits 206,115,632 187,384,494 Short-term borrowings 399,176 785,778 Other borrowings 19,993,950 15,690,053 Accrued interest and other liabilities 667,174 638,800 ------------- ------------- TOTAL LIABILITIES 227,175,932 204,499,125 ------------- ------------- STOCKHOLDERS' EQUITY Common stock, no par value; 5,000,000 shares authorized, 1,213,255 and 1,209,123 shares issued 8,006,055 7,883,155 Retained earnings 15,856,470 15,051,110 Accumulated other comprehensive income 592,327 475,428 Treasury stock, at cost (55,309 and 52,578 shares) (1,744,909) (1,663,285) ------------- ------------- TOTAL STOCKHOLDERS' EQUITY 22,709,943 21,746,408 ------------- ------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 249,885,875 $ 226,245,533 ============= =============
See accompanying notes to unaudited consolidated financial statements. MIDDLEFIELD BANC CORP. CONSOLIDATED STATEMENT OF INCOME (Unaudited)
Three Months Ended Six Months Ended June 30, June 30, 2003 2002 2003 2002 ---------- ---------- ---------- ---------- INTEREST INCOME Interest and fees on loans $3,209,192 $3,078,538 $6,339,180 $6,078,155 Interest-bearing deposits in 4,719 13,627 11,820 30,063 other institutions Federal funds sold 9,906 9,407 19,213 25,060 Investment securities: Taxable interest 275,853 284,413 584,461 559,850 Tax-exempt interest 113,502 101,085 233,092 210,616 Dividends on FHLB stock 12,926 12,070 25,855 21,719 ---------- ---------- ---------- ---------- Total interest income 3,626,098 3,499,140 7,213,621 6,925,463 ---------- ---------- ---------- ---------- INTEREST EXPENSE Deposits 1,236,828 1,356,054 2,482,187 2,744,626 Short-term borrowings 1,049 2,274 3,339 3,546 Other borrowings 212,803 153,932 416,187 300,156 ---------- ---------- ---------- ---------- Total interest expense 1,450,680 1,512,260 2,901,713 3,048,328 ---------- ---------- ---------- ---------- NET INTEREST INCOME 2,175,418 1,986,880 4,311,908 3,877,135 Provision for loan losses 105,000 75,000 210,000 150,000 ---------- ---------- ---------- ---------- NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 2,070,418 1,911,880 4,101,908 3,727,135 ---------- ---------- ---------- ---------- NONINTEREST INCOME Service charges on deposit accounts 251,910 244,138 490,561 467,048 Investment securities gains, net -- -- 542 -- Other income 106,191 39,577 143,577 77,744 ---------- ---------- ---------- ---------- Total noninterest income 358,101 283,715 634,680 544,792 ---------- ---------- ---------- ---------- NONINTEREST EXPENSE Salaries and employee benefits 810,919 659,858 1,457,390 1,251,923 Occupancy expense 106,492 87,960 205,044 175,202 Equipment expense 57,586 81,167 137,612 164,375 Data processing costs 70,958 84,163 187,430 169,131 Ohio state franchise tax 75,000 67,500 150,050 135,050 Other expense 492,253 365,023 786,440 709,413 ---------- ---------- ---------- ---------- Total noninterest expense 1,613,208 1,345,671 2,923,966 2,605,094 ---------- ---------- ---------- ---------- Income before income taxes 815,311 849,924 1,812,622 1,666,833 Income taxes 200,363 278,000 544,928 546,000 ---------- ---------- ---------- ---------- NET INCOME $ 614,948 $ 571,924 $1,267,694 $1,120,833 ========== ========== ========== ========== EARNINGS PER SHARE Basic $ 0.53 $ 0.49 $ 1.10 0.97 Diluted 0.53 0.49 1.09 0.97 DIVIDENDS DECLARED PER SHARE 0.20 0.18 0.40 0.35
See accompanying notes to unaudited consolidated financial statements. MIDDLEFIELD BANC CORP. CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (Unaudited) Accumulated Other Total Common Retained Comprehensive Treasury Stockholders' Comprehensive Stock Earnings Income Stock Equity Income ------------ --------------- ----------- ------------ ------------- ------------ Balance, December 31, 2002 $ 7,883,155 $ 15,051,110 $ 475,428 $ (1,663,285) $ 21,746,408 Net income 1,267,694 1,267,694 $1,267,694 Other comprehensive income: Unrealized gain on available for sale securities net of taxes of $60,221 116,899 116,899 116,899 ----------- Comprehensive income $ 1,384,593 =========== Purchase of treasury stock (81,624) (81,624) Common stock issued 48,404 48,404 Dividend reinvestment plan 74,496 74,496 Cash dividends ($.40 per share) (462,334) (462,334) ------------ --------------- ----------- ------------ ------------- Balance, June 30, 2003 $ 8,006,055 $ 15,856,470 $ 592,327 $ (1,744,909) $ 22,709,943 ============ =============== =========== ============ =============
June 30, Components of comprehensive income: 2003 ----------- Change in net unrealized gain on investment securities available for sale $ 117,257 Realized gain included in net income, net of taxes of $184 (358) ----------- Total $ 116,899 ===========
See accompanying notes to unaudited consolidated financial statements. MIDDLEFIELD BANC CORP. CONSOLIDATED STATEMENT OF CASH FLOWS (Unaudited)
Six Months Ended June 30, 2003 2002 ------------ ------------ OPERATING ACTIVITIES Net income $ 1,267,694 $ 1,120,833 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 210,000 150,000 Depreciation and amortization 170,193 162,392 Amortization of premium and discount on investment securities 110,929 53,587 Amortization of net deferred loan costs (fees) (140,127) (121,255) Investment security gains (542) -- Decrease (increase) in accrued interest receivable 56,459 (99,375) Decrease in accrued interest payable (47,501) (91,871) Other, net (332,709) (93,732) ------------ ------------ Net cash provided by operating activities 1,294,396 1,080,579 ------------ ------------ INVESTING ACTIVITIES Decrease (increase) in interest-bearing deposits in other institutions, net (2,433) 91,141 Investment securities available for sale: Proceeds from repayments and maturities 8,027,641 2,362,510 Proceeds from the sale of securities 1,991,917 -- Purchases (11,266,556) (6,405,134) Investment securities held to maturity: Proceeds from repayments and maturities 2,965,000 2,589,537 Increase in loans, net (7,332,912) (11,458,492) Redemption (purchase) of Federal Home Loan Bank Stock (26,500) 214,430 Purchase of bank-owned life insurance (5,068,286) -- Purchase of premises and equipment (597,263) (246,461) ------------ ------------ Net cash used for investing activities (11,309,392) (12,852,469) ------------ ------------ FINANCING ACTIVITIES Net increase in deposits 18,731,138 11,412,600 Increase (decrease) in short-term borrowings, net (386,602) 434,483 Repayment of other borrowings (696,103) (152,693) Proceeds from other borrowings 5,000,000 4,000,000 Purchase of treasury stock (81,624) -- Exercise of stock options -- 18,960 Common stock issued 48,404 -- Proceeds from dividend reinvestment 74,496 -- Cash dividends (462,334) (416,583) ------------ ------------ Net cash provided by financing activities 22,227,375 15,296,767 Increase in cash and cash equivalents 12,212,379 3,524,877 CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 2,125,324 5,893,435 ------------ ------------ CASH AND CASH EQUIVALENTS AT END OF YEAR $ 14,337,703 $ 9,418,312 ============ ============ SUPPLEMENTAL INFORMATION Cash paid during the year for: Interest on deposits and borrowings $ 2,949,214 $ 3,140,199 Income taxes 545,000 254,000
See accompanying notes to unaudited consolidated financial statements. MIDDLEFIELD BANC CORP. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - BASIS OF PRESENTATION The consolidated financial statements of Middlefield Banc Corp. ("Middlefield") includes its wholly owned subsidiary, The Middlefield Banking Company (the "Bank"). All significant intercompany items have been eliminated. The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and the instructions for Form 10-Q and Article 10 of Regulation S-X. In Management's opinion, the financial statements include all adjustments, consisting of normal recurring adjustments, that Middlefield considers necessary to fairly state Middlefield's financial position and the results of operations and cash flows. The balance sheet at December 31, 2002, has been derived from the audited financial statements at that date but does not include all of the necessary informational disclosures and footnotes as required by accounting principles generally accepted in the United States of America. The accompanying financial statements should be read in conjunction with the financial statements and notes thereto included with Middlefield's Form 10-K (File No. 33-23094). The results of Middlefield's operations for any interim period are not necessarily indicative of the results of Middlefield's operations for any other interim period or for a full fiscal year. NOTE 2 - EARNINGS PER SHARE Middlefield provides dual presentation of Basic and Diluted earnings per share. Basic earnings per share utilizes net income as reported as the numerator and the actual average shares outstanding as the denominator. Diluted earnings per share includes any dilutive effects of options, warrants, and convertible securities. There are no convertible securities that would affect the numerator in calculating basic and diluted earnings per share; therefore, net income as presented on the Consolidated Statement of Income will be used as the numerator. The following tables set forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings per share computation.
For the Three For the Six Months Ended Months Ended June 30, June 30, 2003 2002 2003 2002 ---------- ---------- ---------- ---------- Weighted average common shares outstanding 1,211,554 1,204,387 1,210,537 1,204,149 Average treasury stock shares (55,309) (45,722) (54,350) (45,722) ---------- ---------- ---------- ---------- Weighted average common shares and common stock equivalents used to calculate basic earnings per share 1,156,245 1,158,665 1,156,187 1,158,427 ========== ========== ========== ========== Additional common stock equivalents (stock options) used to calculate diluted earnings per share 3,030 531 2,689 822 ---------- ---------- ---------- ---------- Weighted average common shares and common stock equivalents used to calculate diluted earnings per share 1,159,275 1,159,196 1,158,876 1,159,249 ========== ========== ========== ==========
Options to purchase 9,975 shares of common stock at prices from $29.52 to $30.24 per share were outstanding for all periods of 2003 and 2002, except for the three month period ended June 30, 2003, but were not included in the computation of diluted EPS because to do so would have been anti-dilutive. For the three month period ended June 30, 2003, options to purchase 7,350 shares of common stock at a price of $30.24 were not included in the computation of diluted EPS because to do so would have been anti-dilutive. NOTE 3 - COMPREHENSIVE INCOME The components of comprehensive income consist exclusively of unrealized gains and losses on available for sale securities. For the six months ended June 30, 2003, this activity is shown under the heading Comprehensive Income as presented in the Consolidated Statement of Changes in Stockholders' Equity (Unaudited). For the six months ended June 30, 2002, comprehensive income totaled $1,132,239. For the three months ended June 30, 2003 and 2002, comprehensive income totaled $850,452 and $789,583, respectively. NOTE 4- RECENT ACCOUNTING PRONOUNCEMENTS In August 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("FAS") No. 143, Accounting for Asset Retirement Obligations, which requires that the fair value of a liability be recognized when incurred for the retirement of a long-lived asset and the value of the asset be increased by that amount. The statement also requires that the liability be maintained at its present value in subsequent periods and outlines certain disclosures for such obligations. The adoption of this statement, which was effective January 1, 2003, did not have a material effect on the Company's financial position or results of operations. In July 2002, the FASB issued FAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities, which requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. This statement replaces EITF Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring). The new statement is effective for exit or disposal activities initiated after December 31, 2002. The adoption of this statement did not have a material effect on the Company's financial position or results of operations. On December 31, 2002, the FASB issued FAS No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure, which amends FAS No. 123, Accounting for Stock-Based Compensation. FAS No. 148 amends the disclosure requirements of FAS No. 123 to require more prominent and more frequent disclosures in financial statements about the effects of stock-based compensation. Under the provisions of FAS No. 123, companies that adopted the preferable, fair value based method were required to apply that method prospectively for new stock option awards. This contributed to a "ramp-up" effect on stock-based compensation expense in the first few years following adoption, which caused concern for companies and investors because of the lack of consistency in reported results. To address that concern, FAS No. 148 provides two additional methods of transition that reflect an entity's full complement of stock-based compensation expense immediately upon adoption, thereby eliminating the ramp-up effect. FAS No. 148 also improves the clarity and prominence of disclosures about the pro forma effects of using the fair value based method of accounting for stock-based compensation for all companies--regardless of the accounting method used--by requiring that the data be presented more prominently and in a more user-friendly format in the footnotes to the financial statements. In addition, the statement improves the timeliness of those disclosures by requiring that this information be included in interim as well as annual financial statements. The transition guidance and annual disclosure provisions of FAS No. 148 are effective for fiscal years ending after December 15, 2002, with earlier application permitted in certain circumstances. The interim disclosure provisions are effective for financial reports containing financial statements for interim periods beginning after December 15, 2002. The following table represents the effect on net income and earnings per share had the stock-based employee compensation expense been recognized:
Three Months Ended June 30, Six Months Ended June 30, 2003 2002 2003 2002 ------------- ------------- ------------- ------------- Net income, as reported: $ 614,948 $ 571,953 $ 1,267,693 $ 1,120,833 Less proforma expense related to stock options 13,113 0 26,226 0 ------------- ------------- ------------- ------------- Proforma net income 601,835 571,953 1,241,467 1,120,833 ============= ============= ============= ============= Basic net income per common share: As reported $ 0.53 $ 0.49 $ 1.10 $ 0.97 Pro forma 0.52 0.49 1.07 0.97 Diluted net income per common share: As reported $ 0.53 $ 0.49 $ 1.09 $ 0.97 Pro forma 0.52 0.49 1.07 0.97
In April, 2003, the FASB issued FAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities. This statement amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under FAS No. 133. The amendments set forth in FAS No. 149 improve financial reporting by requiring that contracts with comparable characteristics be accounted for similarly. In particular, this statement clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative as discussed in FAS No. 133. In addition, it clarifies when a derivative contains a financing component that warrants special reporting in the statement of cash flows. FAS No. 149 amends certain other existing pronouncements. Those changes will result in more consistent reporting of contracts that are derivatives in their entirety or that contain embedded derivatives that warrant separate accounting. This statement is effective for contracts entered into or modified after June 30, 2003, except as stated below and for hedging relationships designated after June 30, 2003. The guidance should be applied prospectively. The provisions of this statement that relate to FAS No. 133 Implementation Issues that have been effective for fiscal quarters that began prior to June 15, 2003, should continue to be applied in accordance with their respective effective dates. In addition, certain provisions relating to forward purchases or sales of when-issued securities or other securities that do not yet exist, should be applied to existing contracts as well as new contracts entered into after June 30, 2003. In May 2003, the FASB issued Statement No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. This Statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Such instruments may have been previously classified as equity. This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The Company does not anticipate that adoption of this standard will have a significant effect on its reported equity. In November, 2002, the FASB issued Interpretation No. 45, Guarantor's Accounting and Disclosure requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. This interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. This interpretation clarifies that a guarantor is required to disclose (a) the nature of the guarantee, including the approximate term of the guarantee, how the guarantee arose, and the events or circumstances that would require the guarantor to perform under the guarantee; (b) the maximum potential amount of future payments under the guarantee; (c) the carrying amount of the liability, if any, for the guarantor's obligations under the guarantee; and (d) the nature and extent of any recourse provisions or available collateral that would enable the guarantor to recover the amounts paid under the guarantee. This interpretation also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the obligations it has undertaken in issuing the guarantee, including its ongoing obligation to stand ready to perform over the term of the guarantee in the event that the specified triggering events or conditions occur. The objective of the initial measurement of that liability is the fair value of the guarantee at its inception. The initial recognition and initial measurement provisions of this interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor's fiscal year-end. The disclosure requirements in this interpretation are effective for financial statements of interim or annual periods ending after December 15, 2002. The adoption of this interpretation did not have a material effect on the Company's financial position or results of operations. In January, 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, in an effort to expand upon and strengthen existing accounting guidance that addresses when a company should include in its financial statements the assets, liabilities and activities of another entity. The objective of this interpretation is not to restrict the use of variable interest entities but to improve financial reporting by companies involved with variable interest entities. Until now, one company generally has included another entity in its consolidated financial statements only if it controlled the entity through voting interests. This interpretation changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns or both. The consolidation requirements of this interpretation apply immediately to variable interest entities created after January 31, 2003. The consolidation requirements apply to older entities in the first fiscal year or interim period beginning after June 15, 2003. Certain of the disclosure requirements apply in all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. The adoption of this interpretation has not and is not expected to have a material effect on the Company's financial position or results of operations. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS General ------- The Private Securities Litigation Act of 1995 contains safe harbor provisions regarding forward-looking statements. Forward-looking statements can be identified by terminology such as "believes," "expects," "anticipates," "estimates," "intends," "should," "will," "plans," "potential" and similar words. Forward-looking statements are also statements that are not statements of historical fact. Forward-looking statements necessarily involve risks and uncertainties. They are merely predictive or statements of probabilities, involving known and unknown risks, uncertainties and other factors. If one or more of these risks of uncertainties occurs or if the underlying assumptions prove incorrect, actual results in 2003 and beyond could differ materially from those expressed in or implied by the forward-looking statements. Forward-looking statements are based upon a variety of estimates and assumptions. The estimates and assumptions involve judgments about a number of things, including future economic, competitive, and financial market conditions and future business decisions. These matters are inherently subject to significant business, economic and competitive uncertainties, all of which are difficult to predict and many of which are beyond Middlefield's control. Although Middlefield believes its estimates and assumptions are reasonable, actual results could vary materially from those shown. Inclusion of forward-looking information in this Form 10-Q does not constitute a representation by Middlefield or any other person that the indicated results will be achieved. Investors are cautioned not to place undue reliance on forward-looking information. Comparison of Financial Condition at June 30, 2003 and December 31, 2002. ------------------------------------------------------------------------- Total assets increased $23.6 million to $249.9 million at June 30, 2003 from $226.2 million at December 31, 2002. This increase primarily resulted from an increase in net loans receivable of $7.3 million and cash and cash equivalents of $12.2 million that was funded by net increases in deposits and borrowings of $18.7 million and $3.9 million, respectively. Cash and cash equivalents increased to $14.3 million at June 30, 2003 as compared to $2.1 million at December 31, 2002. This increase was the result of strong deposit growth which were temporarily invested in federal funds sold. Investment securities available for sale increased to $37.2 million at June 30, 2003 from $35.9 million at December 31, 2002. Meanwhile, investment securities held to maturity decreased to $3.3 million at June 30, 2003 from $6.2 million at December 31, 2002. The net decrease in the investment securities portfolios was due to called and matured securities during the year. Total loans increased to $182.4 million at June 30, 2003 from $175.0 million at December 31, 2002. The increase in net loans receivable resulted from the economic health of Middlefield's market area and the strategic, service-oriented marketing approach taken by management to meet the lending needs of the area. The increased lending activity was divided among home equity, residential mortgage and commercial loans. Such loans grew $3.5 million, $2.0 million and $2.2 million, respectively, at June 30, 2003. The increased lending is attributed to continued customer referrals and Middlefield's overall relationship with its customers. The allowance for loan losses represents the amount that management estimates is adequate to provide for probable losses inherent in the loan portfolio, as of the balance sheet date. Accordingly, all loan losses are charged to the allowance, and all recoveries are credited to it. At June 30, 2003, Middlefield's allowance for loan losses increased approximately $212,000 to $2.5 million. The allowance for loan losses is established through a provision for loan losses, which is charged to operations. The provision is based on management's periodic evaluation of the adequacy of the allowance for loan losses, taking into account the overall risk characteristics of the various portfolio segments, past experience with losses, the impact of economic conditions on borrowers, and other relevant factors. The estimates used to determine the adequacy of the allowance for loan losses, including the amounts and timing of future cash flows expected on impaired loans, are particularly susceptible to significant change in the near term. The total allowance for loan losses is a combination of a specific allowance for identified problem loans, a formula allowance, and an unallocated allowance. During the first quarter of 2003, Middlefield purchased $5,000,000 in bank-owned life insurance in order to generate nontaxable earnings that will offset the cost of certain employee benefit plans. Total deposits increased to $206.1 million at June 30, 2003 from $187.4 million at December 31, 2002. Growth was primarily concentrated in savings and demand deposits and resulted from the continual marketing efforts by management, as well as customer preferences to readily accessible deposit products. Such accounts grew by $5.6 million and $6.9 million, respectively, during the period. Other borrowings increased to $20.0 million at June 30, 2003 from $15.75 million at December 31, 2002. This increase was the result of an additional $4.3 million in Federal Home Loan Bank borrowings to be repaid over a ten-year period. As noted previously, the proceeds from this borrowing were used to fund loan demand. Total stockholders' equity increased to $22.7 million at June 30, 2003 due to net income of $1,268,000 that was offset partially by dividend payments of $462,000 and an increase in accumulated other comprehensive income of $117,000. Accumulated other comprehensive income increased as a result of changes in the net unrealized gain on investment securities available for sale due to fluctuations in interest rates. Because of interest rate volatility, accumulated other comprehensive income could materially fluctuate for each interim period and year-end period depending on economic and interest rate conditions. In addition, future dividend policies will be determined by the Board of Directors in light of the earnings and financial condition of Middlefield, including applicable governmental regulations and policies. Comparison of Results of Operations for the Six and Three Months Ended June 30, ------------------------------------------------------------------------------- 2003 and 2002. -------------- Middlefield recorded net income of $1,268,000 for the six-month period ended June 30, 2003 as compared to net income of $1,121,000 for the same period ended June 30, 2002. This increase in net income was due to the significant growth in net interest income of $435,000 while offset by increases in non-interest expense and the provision for loan losses of $319,000 and $60,000 respectively. Basic and diluted earnings per share increased to $1.10 and $1.09 per share for the six months ended June 30, 2003 from $.97 per share for the same period ended 2002. For the three months ended June 30, 2003, Middlefield recorded net income of $615,000, or $.53 per share from $572,000 or $.49 per share for the same period ended June 30, 2002. Net interest income for the six months ended June 30, 2003 increased to $4,312,000 compared to $3,877,000 for the same period ended 2002. Interest income for the first six months of 2003 was $7,214,000 as compared to $6,925,000 for the same period ended 2002. This increase of $288,000 was influenced primarily by an increase in interest earned on loans receivable of $261,000, along with an increase in interest earned on investment securities and FHLB dividends of $47,000 and $4,000, respectively. Interest income was primarily driven by increases in average balances of interest-earning assets. The average balance of loans receivable increased $20.9 million to $178.8 million during 2003, as compared to $157.9 million for the 2002 period. The tax-equivalent yield on interest earning assets decreased to 6.51% for the six months ended 2003 from 7.21% for same period ended 2002, and primarily resulted from a 61 basis point and 114 basis point decrease in loans receivable and investment securities, respectively. Over the past two years, the Federal Reserve Board adopted a policy of aggressive interest rate reduction that resulted in this adverse impact on the yield on earning assets. Interest expense decreased $147,000 for the six months ended June 30, 2003 to $2,902,000 from $3,048,000 for the same period ended 2002. Interest expense incurred on deposits decreased $262,000 for the six months ended June 30, 2003 as compared to the same period ended 2002. This was primarily attributable to a declining interest rate environment which resulted in the cost of funds decreasing to 3.08% for the six months ended June 30, 2003 from 3.84% for the same period 2002. Offsetting the declining rates was an increase in the average balance of interest-bearing liabilities of $29.8 million to $188.6 million for the six months ended June 30, 2003. In particular, the average balance of savings and certificates of deposits increased $7.2 million and $9.5 million, respectively. As noted previously, such increases were the result of the competitively priced products being marketed throughout Middlefield's market area. Net interest income for the three months ended June 30, 2003 increased to $2,175,000, compared to $1,987,000 for the same period ended 2002. Interest income for the three months ending June 30, 2003 increased 3.63% due to fluctuations within the earning asset mix. This resulted in increases in interest earned on loans of $131,000 that were partially offset by reductions to interest earned on interest bearing deposits in other institutions of $8,000. The average balance of loans receivable increased $19.5 million to $180.5 million during 2003, as compared to $160.9 million for the 2002 period. The tax-equivalent yield on interest earning assets decreased to 6.50% for the three months ended June 30, 2003 from 7.17% for same period ended 2002, and primarily resulted from a 119 basis point and 54 basis point decrease in investment securities and loans receivable, respectively. As noted previously, the Federal Reserve Board adopted a policy of aggressive interest rate reduction over the past few years that resulted in this adverse impact on the yield on earning assets. Meanwhile, the decrease in interest expense was primarily the effect of a declining cost of funds for the three months ended June 30, 2003 to 3.01% from 3.92% for the same period ended 2002. These reductions that resulted in a $62,000 decline in interest incurred on deposits were offset somewhat by an increase in the average balance of interest bearing liabilities of $38.1 million. As noted above, the competitive pricing strategy of Middlefield has contributed to these increases in deposit balances. Total non-interest income for the six and three months ending June 30, 2003 increased by $90,000 and $74,000 respectively. Non-interest income items are primarily comprised of service charges and fees on deposit account activity, along with fee income derived from other financial related services. Total non-interest expenses increased $319,000 and $268,000 for the six and three months ended June 30, 2003, respectively, as compared to the same period ended 2002. Compensation and employee benefits increased $205,000 and $151,000, respectively, primarily as a result of normal merit raises and the addition of a new branch location. Occupancy expenses increased $30,000 and $19,000, respectively, as a result of added capital expenditures, in particular the Orwell branch which became operational in 2003. As a result of increased transaction activity from operating a larger organization, data processing expenses increased $18,000 during 2003 as compared to 2002. In addition, other expenses increased $77,000 and $127,000, respectively. The increase primarily reflects the addition of a new office, as well as the introduction of a new logo and marketing image for the company and its subsidiary. LIQUIDITY Liquidity management for Middlefield is measured and monitored on both a short and long-term basis, thereby allowing management to better understand and react to emerging balance sheet trends. After assessing actual and projected cash flow needs, management seeks to obtain funding at the most economical cost to Middlefield. Both short and long-term liquidity needs are addressed by maturities and sales of investment securities, loan payments and maturities, and liquidating money market investments such as federal funds sold. The use of these resources, in conjunction with access to credit, provide the core ingredients to meet depositor, borrower, and creditor needs. Middlefield's liquid assets consist of cash and cash equivalents, which include investments in very short-term investments (i.e., federal funds sold), and investment securities classified as available for sale. The level of these assets is dependent on Middlefield's operating, investing, and financing activities during any given period. At June 30, 2003, cash and cash equivalents totaled $14.3 million or 5.7% of total assets while investment securities classified as available for sale totaled $37.2 million or 15.0% of total assets. Management believes that the liquidity needs of Middlefield are satisfied by the current balance of cash and cash equivalents, readily available access to traditional funding sources, FHLB advances, and the portion of the investment and loan portfolios that mature within one year. These sources of funds will enable Middlefield to meet cash obligations and off-balance sheet commitments as they come due. Operating activities provided net cash of $1.3 million and $1.1 million for the six-month periods ended June 30, 2003 and 2002, respectively, and were generated principally from net income. Investing activities used $11.3 million and $12.9 million in funds during the six months of 2003 and 2002, respectively. These cash usages primarily consisted of loan originations of $7.3 million and $11.5 million, respectively. In 2003, the Company purchased bank-owned life insurance of approximately $5.0 million. Financing activities consist of the solicitation and repayment of customer deposits, and borrowings and repayment of borrowings. During the six months ended June 30, 2003, net cash provided by financing activities was $22.2 million, and consisted of an increase in deposits of $18.7 million and additional borrowings of $5,000,000. During the same period ended 2002, net cash provided by financing activities totaled $15.3 million, principally derived from an increase in deposit accounts in general, and savings deposits specifically. Also contributing to this influx of cash was proceeds from borrowings of $4.0 million. Liquidity may be adversely affected by unexpected deposit outflows, excessive interest rates paid by competitors, and similar matters. Management monitors projected liquidity needs and determines the level desirable, based in part on the bank's commitment to make loans, as well as management's assessment of Middlefield's ability to generate funds. Middlefield anticipates it will have sufficient liquidity available to meet estimated short-term and long-term funding needs. CAPITAL RESOURCES Middlefield is subject to federal regulations that impose certain minimum capital requirements. Management monitors both Middlefield's and the Bank's Total risk-based, Tier I risk-based and Tier I leverage capital ratios in order to assess compliance with regulatory guidelines. At June 30, 2003, both Middlefield and the Bank exceeded the minimum risk-based and leverage capital ratio requirements. Middlefield's Total risk-based, Tier I risk-based and Tier I leverage ratios were 15.93%, 14.67%, 9.17%, and the bank's were 15.52%, 14.26%, 8.91%, respectively, at June 30, 2002. RISK ELEMENT The table below presents information concerning non-performing assets including non-accrual loans, renegotiated loans, loans 90 days or more past due, other real estate loans, and repossessed assets. A loan is classified as non-accrual when, in the opinion of management, there are serious doubts about collectibility of interest and principal. At the time the accrual of interest is discontinued, future income is recognized only when cash is received. Renegotiated loans are those loans which terms have been renegotiated to provide a reduction or deferral of principal or interest as a result of the deterioration of the borrower.
June 30, December 31, 2003 2002 ---- ---- (Dollars in thousands) Loans on nonaccrual basis $510 $357 Loans past due 90 days or more and still accruing 196 181 ---- ---- Total nonperforming loans $706 $538 ---- ---- Nonperforming loans as a percent of total loans 0.28% 0.31% ==== ==== Nonperforming assets as a percent of total assets 0.39% 0.24% ==== ====
At June 30, 2003 and December 31, 2002, no real estate or other assets were held as foreclosed or repossessed property. Management monitors impaired loans on a continual basis. As of June 30, 2003, impaired loans had no material effect on the Company's financial position or results of operations. During the six month period ended June 30, 2003, loans increased $7.5 million while non-performing loans decreased to a total of $704,000. The allowance for loan losses increased $212,000 during this same period and the resulting percentage of allowance for loan losses to loans outstanding increased to 1.38% as compared to 1.31% at December 31, 2002. Non-performing loans are primarily made up of residential and commercial mortgages. The collateral requirements on such loans reduce the risk of potential losses to an acceptable level in management's opinion. The allowance for loan losses represents the amount that management estimates is adequate to provide for probable losses inherent in the loan portfolio, as of the balance sheet date. The relationship between the allowance for loan losses and outstanding loans is a function of the credit quality and known risk attributed to the loan portfolio. The on-going loan review program and credit approval process is used to determine the adequacy of the allowance for loan losses. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Like other financial institutions, the bank is subject to interest rate risk. The bank's interest-earning assets could mature or reprice more rapidly than or on a different basis from its interest-bearing liabilities (primarily borrowings and deposits with short- and medium-term maturities) in a period of declining interest rates. Although having assets that mature or reprice more frequently on average than liabilities will be beneficial in times of rising interest rates, that asset/liability structure will result in lower net interest income in periods of declining interest rates. Interest rate sensitivity, or interest rate risk, relates to the effect of changing interest rates on net interest income. Interest-earning assets with interest rates tied to the prime rate for example, or that mature in relatively short periods of time, are considered interest-rate sensitive. Interest-bearing liabilities with interest rates that can be repriced in a discretionary manner, or that mature in relatively short periods of time, are also considered interest-rate sensitive. The differences between interest-sensitive assets and interest-sensitive liabilities over various time horizons are commonly referred to as sensitivity gaps. As interest rates change, a sensitivity gap will have either a favorable effect or an adverse effect on net interest income. A negative gap -- with liabilities repricing more rapidly than assets -- generally should have a favorable effect when interest rates are falling, and an adverse effect when rates are rising. A positive gap -- with assets repricing more rapidly than liabilities -- generally should have the opposite effect: an adverse effect when rates are falling and a favorable effect when rates are rising. Middlefield and the bank have no financial instruments entered into for trading purposes. Interest rates change daily on federal funds purchased and sold. Federal funds are therefore the most sensitive to the market and have the most stable fair values. Loans and deposits tied to indices such as the prime rate or federal discount rate are also market sensitive, with stable fair values. The least sensitive instruments include long-term, fixed-rate loans and securities and fixed-rate savings deposits, which have the least stable fair value. Management of maturity distributions of assets and liabilities between these extremes is as important as the balances maintained. Management of maturity distributions involves matching interest rate maturities as well as principal maturities, and it influences net interest income significantly. In periods of rapidly changing interest rates, a negative or positive gap can cause major fluctuations in net interest income and earnings. Managing asset and liability sensitivities to enhance growth regardless of changes in market conditions is one of the objectives of the bank's asset/liability management strategy. Evaluating the bank's exposure to changes in interest rates is the responsibility of the Asset/Liability Committee, a committee of bank directors and officers. The Asset/Liability Committee assesses both the adequacy of the management process used to control interest rate risk and the quantitative level of exposure, ensuring that appropriate policies, procedures, management information systems and internal controls are in place to maintain interest rate risk at appropriate levels. Evaluating the quantitative level of interest rate risk exposure requires assessment of existing and potential effects of changes in interest rates on the bank's financial condition, including capital adequacy, earnings, liquidity and asset quality. The bank uses an asset/liability model to support its balance sheet strategies. Gap analysis, one of the methods used by management to analyze interest rate risk, does not necessarily show the precise impact of specific interest rate movements on Middlefield's net interest income because the re-pricing of certain assets and liabilities is discretionary and is subject to competitive and other pressures. In addition, assets and liabilities within the same period may, in fact, be repaid at different times and at different rate levels. Middlefield has not experienced the kind of earnings volatility that might be indicated from gap analysis. Middlefield's use of a simulation model to better measure the impact of interest rate changes on net interest income is incorporated into the risk management process to effectively identify, measure, and monitor Middlefield's risk exposure. Interest rate simulations using a variety of assumptions are employed by Middlefield to evaluate its interest rate risk exposure. A shock analysis at June 30, 2002 indicated that a 200 basis point movement in interest rates in either direction would have had a minor impact on Middlefield's anticipated net interest income and the market value of assets and liabilities over the next 12 months, well within Middlefield's ability to manage effectively. ITEM 4. CONTROLS AND PROCEDURES (a) Evaluation of disclosure controls and procedures. Based on their evaluation as of a date within 90 days of the filing date of this Quarterly Report on Form 10-Q, the Registrant's principal executive officer and principal financial officer have concluded that the Registrant's disclosure controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934 (the "Exchange Act")) are effective to ensure that information required to be disclosed by Middlefield in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. (b) Changes in internal controls. There were no significant changes in the Registrant's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. PART II - OTHER INFORMATION Item 1. Legal Proceedings None Item 2. Changes in rights of the Company's security holders None Item 3. Defaults by the Company on its senior securities None Item 4. Submission of matters to a vote of security holders The following represents the results of matters submitted to a vote of the stockholders at the annual meeting held on May 14, 2003: (a) The following Class III directors were elected to a three year term expiring in 2006:
Name SHARES FOR SHARES WITHHELD ---- ---------- --------------- George Hasman 919,519 5,375 James R. Heslop II 919,486 5,375 Martin S. Paul 952,832 5,375
Directors whose terms continued through the 2003 annual meeting include: Thomas G. Caldwell Richard T Coyne Frances H. Frank Thomas C. Halstead Donald D. Hunter Donald E. Villers (b) The recommendation of the Board of Directors to ratify the appointment of S. R. Snodgrass, A.C. as the Company's independent auditors, as described in the Proxy Statement for the Annual Meeting, was approved with 958,284 shares in favor, and 964 shares against, and 500 shares abstaining. Item 5. Other information None Item 6. Exhibits and Reports on Form 8-K (a) The following exhibits are included in this Report or incorporated herein by reference: 3.1 Second Amended and Restated Articles of Incorporation of Middlefield Banc Corp. * 3.2 Regulations of Middlefield Banc Corp. * 4 Specimen Stock Certificate * 10.1 1999 Stock Option Plan of Middlefield Banc Corp. * 10.2 Severance Agreement of President and Chief Executive Officer * 10.3 Severance Agreement of Executive Vice President * 10.4 Federal Home Loan Bank of Cincinnati Agreement for Advances and Security Agreement dated September 14, 2000 * 21 Subsidiaries of Middlefield Banc Corp. * 31 Certification Pursuant to Section 302 of the Securities Exchange Act of 1934 - Thomas G. Caldwell 31.1 Certification Pursuant to Section 302 of the Securities Exchange Act of 1934 - Donald L. Stacy 32 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act 0f 2002. 99.1 Form of Indemnification Agreement with directors of Middlefield Banc Corp. and executive officers of Middlefield Banc Corp. and The Middlefield Banking Company * 99.2 Independent Accountants Report * Incorporated by reference to the identically numbered exhibit to the December 31, 2001 Form 10-K (File No. 033-23094) filed with the SEC on March 28, 2002. (b) ) Reports on Form 8-K that were filed with or furnished to the SEC after March 31, 2003 as follows: (1) On May 16, 2003 a copy of Middlefield's May 15, 2003 press release reporting the results of the 2003 annual meeting and declaration of a cash dividend was furnished as a Form 8-K exhibit, and (2) On July 18, 2003 a copy of Middlefield's July 17, 2003 press release reporting second quarter financial results was furnished as a Form 8-K exhibit. SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned and hereunto duly authorized. MIDDLEFIELD BANC CORP. Date: August 13, 2003 By: /s/Thomas G. Caldwell ---------------------------------------- Thomas G. Caldwell President and Chief Executive Officer Date: August 13, 2003 By: /s/Donald L. Stacy ---------------------------------------- Donald L. Stacy Principal Financial and Accounting Officer