UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 2008
Commission file number: 001-15985
UNION BANKSHARES, INC.
VERMONT 03-0283552
P.O. BOX 667
MAIN STREET
MORRISVILLE, VT 05661
Registrant's telephone number: 802-888-6600
Former name, former address and former fiscal year, if changed since last
report: Not applicable
Securities registered pursuant to section 12(b) of the Act:
Common Stock, $2.00 par value Nasdaq Stock Market
----------------------------- -------------------
(Title of class) (Exchanges registered on)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting company. See
definitions of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [ ]
(Do not check if a smaller reporting company) Smaller reporting company [X]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of September 30, 2008:
Common Stock, $2 par value 4,483,641 shares
1
UNION BANKSHARES, INC.
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.
Unaudited Consolidated Financial Statements Union Bankshares,
Inc. and Subsidiary
Consolidated Balance Sheets 3
Consolidated Statements of Income 4
Consolidated Statement of Changes in Stockholders' Equity 5
Consolidated Statements of Cash Flows 6
Notes to Unaudited Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations. 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 41
Item 4T. Controls and Procedures. 41
PART II OTHER INFORMATION
Item 1. Legal Proceedings. 42
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 42
Item 6. Exhibits. 42
Signatures 43
2
Part l Financial Information
Item 1. Financial Statements
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2008 2007
---- ----
(Unaudited)
Assets (Dollars in thousands)
Cash and due from banks $ 15,789 $ 12,815
Federal funds sold and overnight deposits 3,637 614
-------- --------
Cash and cash equivalents 19,426 13,429
Interest bearing deposits in banks 14,949 11,868
Investment securities available-for-sale 27,417 33,822
Loans held for sale 1,818 7,711
Loans 341,572 310,594
Allowance for loan losses (3,440) (3,378)
Unearned net loan fees (97) (111)
-------- --------
Net loans 338,035 307,105
Accrued interest receivable 1,769 2,077
Premises and equipment, net 7,391 6,462
Other assets 12,263 10,887
-------- --------
Total assets $423,068 $393,361
======== ========
Liabilities and Stockholders' Equity
Liabilities
Deposits
Noninterest bearing $ 56,181 $ 56,155
Interest bearing 292,439 267,806
-------- --------
Total deposits 348,620 323,961
Borrowed funds 27,640 20,328
Accrued interest and other liabilities 5,625 6,998
-------- --------
Total liabilities 381,885 351,287
-------- --------
Commitments and Contingencies
Stockholders' Equity
Common stock, $2.00 par value; 7,500,000 shares
authorized at 9/30/08 and 12/31/07; 4,921,786
shares issued at 9/30/08 and 12/31/07 9,844 9,844
Paid-in capital 207 202
Retained earnings 35,778 35,791
Treasury stock at cost; 438,145 shares at
9/30/08 and 418,817 shares at 12/31/07 (3,326) (2,939)
Accumulated other comprehensive loss (1,320) (824)
-------- --------
Total stockholders' equity 41,183 42,074
-------- --------
Total liabilities and stockholders' equity $423,068 $393,361
======== ========
See accompanying notes to unaudited interim consolidated financial statements.
3
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
2008 2007 2008 2007
---- ---- ---- ----
(Dollars in thousands except Per Share Data)
Interest income
Interest and fees on loans $ 5,718 $ 6,115 $ 16,997 $ 17,959
Interest on debt securities
Taxable 244 275 830 766
Tax exempt 77 59 242 155
Dividends 15 25 54 82
Interest on federal funds sold and overnight deposits 46 132 105 312
Interest on interest bearing deposits in banks 104 128 335 324
--------- --------- --------- ---------
Total interest income 6,204 6,734 18,563 19,598
--------- --------- --------- ---------
Interest expense
Interest on deposits 1,486 1,941 4,623 5,606
Interest on borrowed funds 304 182 868 551
--------- --------- --------- ---------
Total interest expense 1,790 2,123 5,491 6,157
--------- --------- --------- ---------
Net interest income 4,414 4,611 13,072 13,441
Provision for loan losses 45 190 185 235
--------- --------- --------- ---------
Net interest income after provision for loan losses 4,369 4,421 12,887 13,206
--------- --------- --------- ---------
Noninterest income
Trust income 94 94 287 261
Service fees 885 866 2,637 2,516
Net gain on sales of investment securities available-for-sale - 30 16 67
Write-down of impaired investment securities available-for-sale (512) - (512) -
Net gain on sales of loans held for sale 74 48 246 98
Other income 297 45 450 211
--------- --------- --------- ---------
Total noninterest income 838 1,083 3,124 3,153
--------- --------- --------- ---------
Noninterest expense
Salaries and wages 1,636 1,565 4,825 4,692
Pension and employee benefits 481 541 1,855 1,721
Occupancy expense, net 214 186 705 620
Equipment expense 287 278 896 821
Other expenses 1,226 1,004 3,317 2,941
--------- --------- --------- ---------
Total noninterest expense 3,844 3,574 11,598 10,795
--------- --------- --------- ---------
Income before provision for income taxes 1,363 1,930 4,413 5,564
Provision for income taxes 198 508 652 1,421
--------- --------- --------- ---------
Net income $ 1,165 $ 1,422 $ 3,761 $ 4,143
========= ========= ========= =========
Earnings per common share $ 0.26 $ 0.32 $ 0.84 $ 0.92
========= ========= ========= =========
Weighted average number of common
shares outstanding 4,487,803 4,518,204 4,491,998 4,526,243
========= ========= ========= =========
Dividends per common share $ 0.28 $ 0.28 $ 0.84 $ 0.84
========= ========= ========= =========
See accompanying notes to unaudited interim consolidated financial statements.
4
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(Unaudited)
Common Stock
------------------- Accumulated
Shares, other Total
net of Paid-in Retained Treasury comprehensive stockholders'
Treasury Amount capital earnings stock loss equity
-------- ------ ------- -------- -------- ------------- -------------
(Dollars in thousands)
Balances, December 31, 2007 4,502,969 $9,844 $202 $35,791 $(2,939) $ (824) $42,074
Comprehensive income:
Net income - - - 3,761 - - 3,761
Other comprehensive income,
net of tax:
Change in net unrealized gain
(loss) on investment
securities available-for-sale,
net of reclassification
adjustment and tax effects - - - - - (513) (513)
Change in net unrealized gain
(loss) on unfunded defined
benefit plan liability,
net of reclassification
adjustment and tax effects - - - - - 17 17
-------
Total other comprehensive
income (496)
-------
Total comprehensive income 3,265
-------
Cash dividends declared
($0.84 per share) - - - (3,774) - - (3,774)
Stock based compensation expense - - 5 - - - 5
Purchase of treasury stock (19,328) - - - (387) - (387)
--------- ------ ---- ------- ------- ------- -------
Balances, September 30, 2008 4,483,641 $9,844 $207 $35,778 $(3,326) $(1,320) $41,183
========= ====== ==== ======= ======= ======= =======
See accompanying notes to unaudited interim consolidated financial statements.
5
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
September 30,
----------------------
2008 2007
---- ----
(Dollars in thousands)
Cash Flows From Operating Activities
Net Income $ 3,761 $ 4,143
Adjustments to reconcile net income to net cash
provided by operating activities
Depreciation 582 570
Provision for loan losses 185 235
Credit for deferred income taxes (55) (236)
Net amortization of investment securities available-for-sale 4 11
Equity in losses of limited partnerships 291 199
Stock based compensation expense 5 7
Write-down of investment securities available-for-sale 512 -
Write-down of other real estate owned and other assets 115 72
Decrease in unamortized loan fees (14) (15)
Proceeds from sales of loans held for sale 17,923 13,405
Origination of loans held for sale (11,784) (13,777)
Net gain on sales of loans held for sale (246) (98)
Net gain on sales of investment securities available-for-sale (16) (67)
Net loss on disposals of premises and equipment 50 1
Net loss (gain) on sales of repossessed property 5 (4)
Net loss (gain) on sales of other real estate owned 6 (44)
Decrease in accrued interest receivable 294 83
Decrease (increase) in other assets 124 (778)
(Decrease) increase in income taxes (343) 23
(Decrease) increase in accrued interest payable (406) 181
Increase in other liabilities 795 1,498
-------- --------
Net cash provided by operating activities 11,788 5,409
-------- --------
Cash Flows From Investing Activities
Interest bearing deposits in banks
Proceeds from maturities and redemptions 11,628 1,183
Purchases (14,709) (6,400)
Investment securities available-for-sale
Proceeds from sales 1,803 546
Proceeds from maturities, calls and paydowns 6,969 1,811
Purchases (3,645) (12,870)
Net (purchase) redemption of Federal Home Loan Bank stock (526) 82
Net (increase) decrease in loans (32,734) 1,883
Recoveries of loans charged off 40 33
Purchases of premises and equipment (1,561) (806)
Investments in limited partnerships (1,180) (361)
6
Nine Months Ended
September 30,
----------------------
2008 2007
---- ----
(Dollars in thousands)
Proceeds from sale of other real estate owned 265 255
Proceeds from sale of premises and equipment - 22
Proceeds from sale of repossessed property 49 24
-------- --------
Net cash used in investing activities (33,601) (14,598)
-------- --------
Cash Flows From Financing Activities
Net increase in borrowings outstanding 7,312 22
Net increase in noninterest bearing deposits 26 15
Net increase in interest bearing deposits 24,633 13,585
Purchase of treasury stock (387) (375)
Dividends paid (3,774) (3,803)
-------- --------
Net cash provided by financing activities 27,810 9,444
-------- --------
Net increase in cash and cash equivalents 5,997 255
Cash and cash equivalents
Beginning 13,429 20,957
-------- --------
Ending 19,426 $ 21,212
======== ========
Supplemental Disclosures of Cash Flow Information
Interest paid $ 5,898 $ 5,976
======== ========
Income taxes paid $ 1,050 $ 1,635
======== ========
Supplemental Schedule of Noncash Investing and
Financing Activities
Change in unrealized (losses) gains on investment securities
available-for-sale $ (777) $ 20
======== ========
Change in unrealized loss on unfunded defined benefit
pension plan liability $ 26 $ 21
======== ========
Other real estate acquired in settlement of loans $ 1,798 $ 547
======== ========
Repossessed property acquired in settlement of loans $ 79 $ 79
======== ========
Investment in limited partnerships acquired by
capital contributions payable $ - $ 1,397
======== ========
Loans originated to finance the sale of other real estate owned $ 289 $ 115
======== ========
See accompanying notes to unaudited interim consolidated financial statements.
7
UNION BANKSHARES, INC. AND SUBSIDIARY
NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS
Note 1. Basis of Presentation
The accompanying interim unaudited consolidated financial statements of Union
Bankshares, Inc. (the Company) as of September 30, 2008 and 2007, and for the
three and nine months then ended have been prepared in conformity with U.S.
generally accepted accounting principles (GAAP) for interim financial
information, general practices within the banking industry, and the accounting
policies described in the Company's Annual Report to Shareholders and Annual
Report on Form 10-K for the year ended December 31, 2007. In the opinion of
Company's management, all adjustments, consisting only of normal recurring
adjustments and disclosures necessary for a fair presentation of the
information contained herein have been made. This information should be read in
conjunction with the Company's 2007 Annual Report to Shareholders, 2007 Annual
Report on Form 10-K, and current reports on Form 8-K. The results of operations
for the interim periods are not necessarily indicative of the results of
operations to be expected for the full fiscal year ending December 31, 2008, or
any other interim period.
Certain amounts in the 2007 unaudited consolidated financial statements have
been reclassified to conform to the 2008 presentation.
Note 2. Commitments and Contingencies
In the normal course of business, the Company is involved in various legal
proceedings. In the opinion of management, any liability resulting from such
proceedings would not have a material adverse effect on the Company's financial
condition or results of operations.
Note 3. Per Share Information
Earnings per common share amounts are computed based on the weighted average
number of shares of common stock outstanding during the period and reduced for
shares held in treasury. The assumed conversion of available outstanding stock
options does not result in material dilution.
Note 4. Recent Accounting Pronouncements
In March 2008, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard (SFAS) No. 161, "Disclosures about
Derivative Instruments and Hedging Activities - an amendment of FASB Statement
No. 133". The objective of this Statement is to amend and expand the disclosure
requirements of Statement 133 with the intent to provide users of financial
statements with an enhanced understanding of: a) how and why an entity uses
derivative instruments, b) how derivative instruments and related hedged items
are accounted for under Statement 133 and its related interpretations, and c)
how derivative instruments and related hedged items affect an entity's
financial position, financial performance, and cash flows. The Statement
requires qualitative disclosures about objectives and strategies for using
derivatives, quantitative disclosures about fair value amounts of and gains and
losses on derivative instruments, and disclosures about credit-risk related
contingent features in derivative agreements. The statement is effective for
financial statements issued for quarterly interim reporting periods beginning
after November 15, 2008 with earlier adoption encouraged. The Company is in the
process of evaluating the impact of this statement on the disclosures in its
financial statements but it is not expected to have a material impact.
In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in
Consolidated Financial Statements - an amendment of Accounting Research
Bulletin No.51". The objective of this Statement is to improve the relevance,
comparability, and transparency of the financial information that a reporting
entity provides in its consolidated financial statements by establishing
accounting and reporting standards that require specific financial statement
disclosure, consistent accounting treatment for changes in a parent's ownership
interest and fair value measurement on the deconsolidation of a subsidiary. The
Statement applies to all entities that prepare consolidated financial
statements but will affect only those entities that have an outstanding
noncontrolling interest in one or more subsidiaries or that deconsolidate a
subsidiary. The Statement is effective for fiscal years and interim periods
within those fiscal years, beginning on or after December 15, 2008. Earlier
adoption is prohibited. The Company has no noncontrolling interests in a
subsidiary and therefore does not expect there to be any impact on the
consolidated financial statements.
8
In December 2007, the FASB issued Statement No. 141R, (revised) "Business
Combinations" which replaces Statement No. 141. The objective of this Statement
is to improve the relevance, representational faithfulness, and comparability
of the information that a reporting entity provides in its financial reports
about a business combination and its effects. To accomplish that, this
Statement establishes principles and requirements for how the acquirer: (1)
recognizes and measures in its financial statements the identifiable assets
acquired, the liabilities assumed, and any noncontrolling interest in the
acquiree, (2) recognizes and measures the goodwill acquired in the business
combination or a gain from a bargain purchase, and (3) determines what
information to disclose to enable users of the financial statements to evaluate
the nature and financial effects of the business combination. The Statement
shall be applied prospectively to business combinations for which the
acquisition date is on or after the beginning of the first annual reporting
period beginning on or after December 15, 2008. Earlier application is
prohibited. This Statement would affect the Company for any acquisitions after
December 31, 2008.
See Note 7 for recent accounting pronouncements relating to the fair value
measurement of assets.
Note 5. Defined Benefit Pension Plan
Union Bank (Union), the Company's sole subsidiary, sponsors a noncontributory
defined benefit pension plan covering all eligible employees. The plan provides
defined benefits based on years of service and final average salary.
Net periodic pension benefit cost for the three and nine months ended September
30, consisted of the following components:
Three Months Ended Nine Months Ended
2008 2007 2008 2007
---- ---- ---- ----
(Dollars in thousands)
Service cost $ 137 $ 130 $ 409 $ 389
Interest cost on projected benefit obligation 167 150 502 452
Expected return on plan assets (165) (150) (494) (451)
Amortization of prior service cost 2 2 5 5
Amortization of net loss 7 6 21 16
----- ----- ----- -----
Net periodic benefit cost $ 148 $ 138 $ 443 $ 411
===== ===== ===== =====
There were actuarial assumption changes between the first three quarters of
2007 and the first three quarters of 2008 as SFAS No. 87, Employers' Accounting
for Pensions states that measurements are based on the assumptions used for the
previous year-end measurements unless more recent measurements of both plan
assets and obligations are available, or a significant event occurs. Therefore,
2008 net periodic benefit costs are based on December 31, 2007 actuarial
assumptions while the 2007 costs are based on December 31, 2006 actuarial
assumptions.
Note 6. Other Comprehensive Income (Loss)
The components of accumulated other comprehensive loss, net of tax at September
30, were:
2008 2007
---- ----
(Dollars in thousands)
Net unrealized loss on investment
securities available-for-sale $ (513) $(141)
Defined benefit pension plan:
Net unrealized actuarial loss (787) (812)
Net unrealized prior service cost (20) (24)
------- -----
Total $(1,320) $(977)
======= =====
9
The following is a summary of changes in other comprehensive income (loss) for
the three and nine months ended September 30:
Three Months Ended Nine Months Ended
------------------ -----------------
2008 2007 2008 2007
---- ---- ---- ----
(Dollars in thousands)
Investment securities available-for-sale:
Change in net unrealized (losses) gains on investment
securities available-for-sale $(1,101) $ 311 $(1,273) $ 87
Reclassification adjustment for losses (gains)
realized in income 512 (30) 496 (67)
------- ----- ------- ----
Net unrealized (losses) gains (589) 281 (777) 20
Tax effect (200) 96 (264) 7
------- ----- ------- ----
Net of tax amount $ (389) $ 185 $ (513) $ 13
------- ----- ------- ----
Defined benefit pension plan:
Reclassification adjustment for amortization of net
actuarial loss, realized in net income $ 7 $ 16 $ 21 $ 16
Reclassification adjustment for amortization of prior
service cost, realized in net income 2 5 5 5
------- ----- ------- ----
Total 9 21 26 21
Tax effect 3 7 9 7
------- ----- ------- ----
Net of tax amount $ 6 $ 14 $ 17 $ 14
------- ----- ------- ----
Total, net of tax $ (383) $ 199 $ (496) $ 27
======= ===== ======= ====
Note 7: Fair Value Measurements
SFAS No. 157, "Fair Value Measurements", generally establishes the definition
of fair value expands disclosures about fair value measurement and establishes
a hierarchy of the levels of fair value measurement techniques. SFAS No. 159,
"The Fair Value Option for Financial Assets and Financial Liabilities,"
generally permits the measurement of selected eligible financial instruments at
fair value at specified election dates. SFAS 157 and SFAS 159 are effective for
fiscal years beginning after November 15, 2007. Effective January 1, 2008, the
Company adopted SFAS 157 and SFAS 159, but has not elected to apply the fair
value option to any financial assets or liabilities other than those situations
where other accounting pronouncements require fair value measurements.
In accordance with FASB Staff Position No. 157-2, "Effective Date of FASB
Statement No. 157," issued in February 2008, the Company has delayed the
application of SFAS No. 157 to nonfinancial assets and nonfinancial liabilities
until January 1, 2009. Management does not anticipate that such application
will have a material effect on the financial position of the Company.
On October 10, 2008 the FASB issued FASB Staff Position ("FSP") 157-3,
Determining the Fair Value of Financial Assets When the Market for that Asset
is Not Active, which provides an example that illustrates key considerations in
determining the fair value of a financial asset when the market for that asset
is not active. The FSP does not change existing GAAP. The FSP provides
clarification for how to consider various inputs in determining fair value
under current market conditions consistent with the principles of SFAS 157.
This FSP was effective upon issuance, including for prior periods for which
financial statements have not been issued. The adoption did not have a material
impact on the financial position or the results of operations of the Company.
Under SFAS No. 157, the three levels of the fair value hierarchy are:
o Level 1 - Unadjusted quoted prices in active markets that are
accessible at the measurement date for identical, unrestricted
assets or liabilities;
o Level 2 - Quoted prices for similar assets or liabilities in active
markets, quoted prices in markets that are not active, or inputs
that are observable, either directly or indirectly, for
substantially the full term of the asset or liability;
o Level 3 - Prices or valuation techniques that require inputs that
are both significant to the fair value measurement and unobservable
(i.e. supported by little or no market activity).
A financial instrument's level within the fair value hierarchy is based on the
lowest level of input that is significant to the fair value measurement.
10
The following table presents the fair value measurements of assets recognized
in the accompanying balance sheet measured at fair value on a recurring basis
and the level within the SFAS No. 157 fair value hierarchy in which the fair
value measurements fell at September 30, 2008:
Fair Value Measurements at Reporting Date Using
(Dollars in Thousands)
-----------------------------------------------
Quoted Prices in Significant
Active Markets Other Significant
for Observable Unobservable
Identical Assets Inputs Inputs
Fair Value (Level 1) (Level 2) (Level 3)
------------------------------------------------------------
Investment securities available-for-sale $27,417 $4,580 $22,837 $-
Fair values for available for sale securities are estimated by an independent
pricing service for identical assets or significantly similar securities. The
pricing service uses a variety of techniques to arrive at fair value including
market maker bids, quotes and pricing models. Inputs to the pricing models
include recent trades, benchmark interest rates, spreads and actual and
projected cash flows. Loans originated and intended for sale in the secondary
market are carried at the lower of cost or estimated fair value in the
aggregate. The fair value of loans held for sale is determined, when possible,
using quoted secondary market prices. If no such quoted price exists, the fair
value of a loan is determined using quoted prices for similar asset or assets,
adjusted for the specific attributes of that loan. As of September 30, 2008 the
carrying amount of loans held for sale was written down to fair market value
less cost to sell and is included on the consolidated balance sheet.
Certain other financial assets and financial liabilities are measured at fair
value on a nonrecurring basis, that is, the instruments are not measured at
fair value on an ongoing basis but are subject to fair value adjustments in
certain circumstances (for example, when there is evidence of impairment).
Financial assets and financial liabilities measured at fair value on a
non-recurring basis were not significant at September 30, 2008.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
The following discussion and analysis by management focuses on those factors
that had a material effect on Union Bankshares, Inc.'s (Company) financial
position as of September 30, 2008, and as of December 31, 2007, and its results
of operations for the three and nine months ended September 30, 2008 and 2007.
This discussion is being presented to provide a narrative explanation of the
financial statements and should be read in conjunction with the consolidated
financial statements and related notes and with other financial data appearing
elsewhere in this filing and with the Company's Annual Report on Form 10-K for
the year ended December 31, 2007. In the opinion of the Company's management,
the interim unaudited data reflects all adjustments, consisting only of normal
recurring adjustments, and disclosures necessary to fairly present the
Company's consolidated financial position and results of operations for the
interim period. Management is not aware of the occurrence of any events between
September 30, 2008 and November 7, 2008, which would materially affect the
information presented.
CAUTIONARY ADVICE ABOUT FORWARD LOOKING STATEMENTS
The Company may from time to time make written or oral statements that are
considered "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements may
include financial projections, statements of plans and objectives for future
operations, estimates of future economic performance and assumptions relating
thereto. The Company may include forward-looking statements in its filings with
the Securities and Exchange Commission (SEC), in its reports to stockholders,
including this Quarterly Report, in press releases, other written materials,
and in
11
statements made by senior management to analysts, rating agencies,
institutional investors, representatives of the media and others.
Forward-looking statements reflect management's current expectations and are
subject to uncertainties, both general and specific, and risk exists that those
predictions, forecasts, projections and other estimates contained in
forward-looking statements will not be achieved. When management uses any of
the words "believes," "expects," "anticipates," "intends," "plans," "seeks,"
"estimates", or similar expressions, they are making forward-looking
statements. Many possible events or factors, including those beyond the control
of management, could affect the future financial results and performance of the
Company. This could cause results or performance to differ materially from
those expressed in forward-looking statements. The possible events or factors
that might affect forward-looking statements include, but are not limited to,
the following:
o uses of monetary, fiscal, and tax policy by various governments;
o political, legislative, or regulatory developments in Vermont, New
Hampshire, or the United States including changes in laws concerning
accounting, taxes, financial reporting, banking, and other aspects of the
financial services industry;
o recent disruptions in U.S. and global financial and credit markets;
o developments in general economic or business conditions, globally,
nationally, in Vermont, or in northern New Hampshire, including interest
rate fluctuations, market fluctuations and perceptions, job creation and
unemployment rates, ability to attract new business, and inflation and
the effects of such changes on the Company or its customers;
o changes in the competitive environment for financial services
organizations, including increased competition from tax-advantaged credit
unions, mutual banks and out-of-market competitors offering financial
services over the internet;
o the implementation of international financial reporting standards (IFRS)
for United States companies;
o impact of governmental interposition in the financial services or other
industries;
o the Company's ability to attract and retain key personnel;
o adverse changes in the local real estate market, which negatively impacts
collateral values and the Company's ability to recoup loan losses through
disposition of real estate collateral;
o changes in technology, including demands for greater automation which
could present operational issues or significant capital outlays;
o acts or threats of terrorism or war, and actions taken by the United
States or other governments that might adversely affect business or
economic conditions for the Company or its customers;
o adverse changes in the securities market generally or in the market for
financial institution securities which could adversely affect the value
of the Company's stock;
o any actual or alleged conduct which could harm the Company's reputation;
o natural or other disasters which could affect the ability of the Company
to operate under normal conditions;
o the Company's ability to retain and attract deposits and loans;
o illegal acts of theft or fraud perpetuated against the Company's
subsidiary bank or its customers;
o unanticipated lower revenues or increased cost of funds, loss of
customers or business, or higher operating expenses;
o the failure of assumptions underlying the establishment of the allowance
for loan losses and estimations of values of collateral and various
financial assets and liabilities;
o the amount invested in new business opportunities and the timing of these
investments;
o the failure of actuarial, investment, work force, salary, and other
assumptions underlying the establishment of reserves for future pension
costs or changes in legislative or regulatory requirements;
o future cash requirements might be higher than anticipated due to loan
commitments or unused lines of credit being drawn upon or depositors
withdrawing their funds;
o assumptions made regarding interest rate movement and sensitivity could
vary substantially if actual experience differs from historical
experience which could adversely affect the Company's results of
operations; and
o the creditworthiness of current loan customers is different from
management's understanding or changes dramatically and therefore the
allowance for loan losses becomes inadequate.
12
When evaluating forward-looking statements to make decisions with respect to
the Company, investors and others are cautioned to consider these and other
risks and uncertainties, including the events and circumstances discussed under
"Recent Developments" below, and are reminded not to place undue reliance on
such statements. Forward-looking statements speak only as of the date they are
made and the Company undertakes no obligation to update them to reflect new or
changed information or events, except as may be required by federal securities
laws.
RECENT DEVELOPMENTS
The U.S. and global economies have experienced and are experiencing significant
stress and disruptions in the financial sector. Dramatic slowdowns in the
housing industry with falling home prices and increasing foreclosures and
unemployment have resulted in major issues for some financial institutions,
including government-sponsored entities and investment banks. These issues have
caused many financial institutions to seek additional capital, to merge with
larger and stronger institutions and, in some cases, to fail.
Despite the volatile economy, Vermont has the lowest residential foreclosure
rate in the country. Also, as northern New England had not experienced the
dramatic run up in housing prices, likewise, we have not seen the values drop
as far as other parts of the country.
In response to the financial crisis affecting the banking and financial
markets, in October 2008, the Emergency Economic Stabilization Act of 2008 (the
"EESA") was signed into law. Pursuant to the EESA, the Federal Deposit
Insurance Corporation temporarily increased the deposit insurance coverage
limits to $250,000 per ownership category at each insured financial institution
until December 31, 2009. Also, the U.S. Treasury ("the Treasury") will have the
authority to, among other things, purchase up to $700 billion of mortgages,
mortgage-backed securities and certain other financial instruments from
financial institutions for the purpose of stabilizing and providing liquidity
to the U.S. financial markets under the Troubled Asset Purchase Program (the
"TARP").
In addition, the Treasury announced that it has been authorized to purchase
equity stakes in U.S. financial institutions. Under this program, known as the
Troubled Asset Relief Program Capital Purchase Program (the "TARP Capital
Purchase Program"), from the $700 billion authorized by the EESA, the Treasury
will make $250 billion of capital available to U.S. financial institutions in
the form of preferred stock. The purchase of preferred stock investments will
be accompanied by the issuance to the Treasury of warrants to purchase common
stock with an aggregate market price equal to 15% of the total amount of the
preferred stock. Participating financial institutions will be required to adopt
the Treasury's standards for executive compensation and corporate governance
for the period during which the Treasury holds equity issued under the TARP
Capital Purchase Program and be restricted from increasing dividends to common
shareholders or repurchasing common stock for three years without the consent
of the Treasury.
Further, after receiving a recommendation from the boards of the Federal
Deposit Insurance Corporation ("the FDIC") and the Federal Reserve System (the
"Federal Reserve"), the Treasury signed the systemic risk exception to the FDIC
Act, enabling the FDIC to temporarily provide a 100% guarantee of the senior
unsecured debt of all FDIC-insured institutions and their holding companies, as
well as 100% of deposits in noninterest bearing transaction deposit accounts
under a Temporary Liquidity Guarantee Program. Coverage under the Temporary
Liquidity Guarantee Program is available for 30 days without charge and
thereafter at a cost of 75 basis points per annum for senior unsecured debt and
10 basis points per annum for noninterest bearing transaction deposits in
excess of the $250,000 insured deposit limit.
The Company has made a decision to participate in the Temporary Liquidity
Guarantee Program regarding the Noninterest Bearing Deposit Account Guarantee
but to opt out of the Senior Unsecured Debt Guaranty portion of that program.
The Company has also decided it is not in the best interest of the Company or
its shareholders to participate in either the Troubled Asset Purchase Program
or the Capital Purchase Program available under TARP given the strength of the
Company's capital position, government restrictions and the fact that the
Company did not target sub-prime borrowers. Please see the Capital Resources
section on page 39 of this Form 10-Q.
13
It is not clear at this time what impact the EESA, the TARP Capital Purchase
Program, the Temporary Liquidity Guarantee Program, other liquidity and funding
initiatives of the Federal Reserve and other agencies that have been previously
announced, and any additional programs that may be initiated in the future will
have on the Company and the U.S. and global financial markets.
CRITICAL ACCOUNTING POLICIES
The Company has established various accounting policies which govern the
application of accounting principles generally accepted in the United States of
America in the preparation of the Company's financial statements. Certain
accounting policies involve significant judgments and assumptions by management
which have a material impact on the reported amount of assets, liabilities,
revenues and expenses and related disclosures of contingent assets and
liabilities in the consolidated financial statements and accompanying notes.
The SEC has defined a company's critical accounting policies as the ones that
are most important to the portrayal of the company's financial condition and
results of operations, and which require the company to make its most difficult
and subjective judgments, often as a result of the need to make estimates of
matters that are inherently uncertain. Based on this definition, the Company
has identified the accounting policies and judgments most critical to the
Company. The judgments and assumptions used by management are based on
historical experience and other factors, which are believed to be reasonable
under the circumstances. Because of the nature of the judgments and assumptions
made by management, actual results could differ from estimates and have a
material impact on the carrying value of assets, liabilities, or the results of
operations of the Company.
The Company believes the allowance for loan losses is a critical accounting
policy that requires the most significant judgments and estimates used in the
preparation of its consolidated financial statements. In estimating the
allowance for loan losses, management utilizes historical experience as well as
other factors including the effect of changes in the local real estate market
on collateral values, the effect on the loan portfolio of current economic
indicators and their probable impact on borrowers and changes in delinquent,
nonperforming or impaired loans. Changes in these factors may cause
management's estimate of the allowance for loan losses to increase or decrease
and result in adjustments to the Company's provision for loan losses in future
periods. For additional information see, FINANCIAL CONDITION - Allowance for
Loan Losses below.
The Company's pension benefit obligations and net periodic benefit cost are
actuarially determined based on the following assumptions: discount rate,
estimated future return on plan assets, wage base rate, anticipated mortality
rates, Consumer Price Index rate, and rate of increase in compensation levels.
The annual determination of the pension benefit obligations and net periodic
benefit cost is a critical accounting estimate as it requires the use of
estimates and judgment related to the amount and timing of expected future cash
out flows for benefit payments and cash in flows for maturities and returns on
plan assets. Changes in estimates and assumptions could have a material impact
to the Company's financial condition or results of operations.
The Company also has other key accounting policies, which involve the use of
estimates, judgments and assumptions that are significant to understanding the
results including the valuation of deferred tax assets, investment securities
and other real estate owned. Given the market volatility and the number and
volume of corporate failures and bailouts over the last couple of months, the
determination of fair value and other than temporary impairment for investment
securities has been especially challenging. See FINANCIAL CONDITION -
Investment Activities below. Although management believes that its estimates,
assumptions and judgments are reasonable, they are based upon information
presently available. Actual results may differ significantly from these
estimates under different assumptions, judgments or conditions.
OVERVIEW
The Company's net income was $1.2 million for the quarter ended September 30,
2008, compared with net income of $1.4 million for the same period in 2007, or
a $257 thousand or 18.1% decrease between years. The decrease was the
cumulative result of a drop in net interest income of $197 thousand and
increases in all categories of noninterest expense except pension and employee
benefits totaling a net $782 thousand. The largest component of the decrease in
taxable income for the third quarter ending
14
September 30, 2008 was the $512 thousand of writedowns of two impaired
corporate bond investment securities available-for-sale that were deemed other
than temporarily impaired. The $74 thousand writedown of four other real estate
owned (OREO) properties to their fair market value less costs to sell, the
write-off of $25 thousand in furniture and fixtures also repossessed as
collateral with an OREO property, and the $70 thousand in carrying costs of the
OREO properties for the quarter also added to the decrease in taxable income.
These increases were partially offset by a $267 thousand increase in
noninterest income, primarily resulting from the receipt of $234 thousand from
a nontaxable life insurance benefit, a loan loss provision of $45 thousand for
the third quarter of 2008 compared to $190 thousand for the same period in 2007
and a $310 decrease in the provision for income taxes. The decrease in the
provision for income taxes was partially a result of the increased nontaxable
and reduced taxable income and partially a result of $27 thousand in low income
federal tax credits booked during the third quarter of 2008 on a late 2007
investment in a low income housing project.
The Company faced a challenging interest rate environment as the prime rate had
been reduced seven times since September 18, 2007 from 8.25% to 5.00% on April
30, 2008, where it remained throughout the balance of the reporting period.
Total interest income decreased by $530 thousand, or 7.9% to $6.2 million in
the third quarter of 2008 versus the $6.7 million in the third quarter of 2007,
while the decrease in interest expense from $2.1 million in 2007 to $1.8
million in 2008 was only $333 thousand between periods. The result of the
changes in interest income and expense was that net interest income for the
third quarter of 2008 was $4.4 million, down $197 thousand or 4.3% from the
third quarter of 2007 of $4.6 million. During the third quarter of 2008, the
Company's net interest margin decreased 49 basis points to 4.67%, from 5.16%
for the third quarter of 2007, reflecting both the decline in net interest
income and the growth in the balance sheet. The Company's net interest spread
declined 33 basis points to 4.25% for the third quarter of 2008, compared to
4.58% for the same period last year. The decline in the net interest spread was
primarily the result of the decline in average interest rates earned on loans
as the 325 basis point drop in the prime rate between the third quarter of 2007
and the third quarter of 2008 had an effect on the repricing of adjustable rate
loans and the volume of refinancings, as customers took advantage of the lower
rates. Further drops in the prime rate and/or increases in competitors deposit
rates could be problematic going forward as the individual instruments
re-price.
The Company's total assets increased from $393.4 million at December 31, 2007,
to $423.1 million at September 30, 2008, an increase of $29.7 million, or 7.5%.
Deposits increased from $324.0 million at December 31, 2007 to $348.6 million
at September 30, 2008, an increase of $24.6 million, or 7.6%, with most of that
increase in interest-bearing time deposits. Total loans, including loans held
for sale, increased $25.1 million, or 7.9%, from $318.3 million at December 31,
2007 to $343.4 million at September 30, 2008. This increase reflects strong
loan demand due to lower interest rates, a changing competitive environment due
to the sale of a number of our competitors, financial market turmoil and the
reluctance of some of our larger competitors to issue loans.
There was a $45 thousand provision for loan losses during the third quarter of
2008 versus a $190 thousand provision for the third quarter of 2007. The $45
thousand provision was deemed appropriate for the third quarter of 2008 in
light of net charge-offs for the quarter ended September 30, 2008 of $29
thousand compared to net charge-offs of $120 thousand for the quarter ended
September 30, 2007. There is continuing strong loan growth, an upward trend in
the dollar amount of commercial real estate loans and a softening of the
economy, which has resulted in an increase in nonperforming loans. These
factors were partially offset by a decline in classified loans between periods
as well as the growth in low risk loans to local municipalities and school
districts. For further details see, FINANCIAL CONDITION - "Allowance for Loan
Losses" and "Asset Quality" sections below.
15
The following unaudited per share information and key ratios depict several
measurements of performance or financial condition for or at the three and nine
months ended September 30, 2008 and 2007, respectively:
Three Months Ended Nine Months Ended
------------------ -----------------
September 30, September 30,
------------------ -----------------
2008 2007 2008 2007
---- ---- ---- ----
Return on average assets (ROA) (1) 1.12% 1.46% 1.25% 1.45%
Return on average equity (ROE) (1) 11.27% 13.71% 12.04% 13.29%
Net interest margin (1)(2) 4.67% 5.16% 4.80% 5.18%
Efficiency ratio (3) 68.11% 62.01% 69.05% 64.15%
Net interest spread (4) 4.25% 4.58% 4.34% 4.60%
Loan to deposit ratio 98.50% 95.47% 98.50% 97.20%
Net loan charge-offs to average loans
not held for sale (1) 0.03% 0.16% 0.05% 0.08%
Allowance for loan losses to loans not
held for sale 1.01% 1.09% 1.01% 1.09%
Non-performing assets to total assets 2.01% 0.96% 2.01% 0.96%
Equity to assets 9.73% 10.55% 9.73% 10.55%
Total capital to risk weighted assets 15.89% 16.82% 15.89% 16.82%
Book value per share $9.19 $9.29 $9.19 $9.29
Earnings per share $0.26 $0.32 $0.84 $0.92
Dividends paid per share $0.28 $0.28 $0.84 $0.84
Dividend payout ratio (5) 107.69% 87.50% 100.00% 91.30%
--------------------
(1) Annualized
(2) The ratio of tax equivalent net interest income to average earning assets.
(3) The ratio of noninterest expense to tax equivalent net interest income and
noninterest income excluding securities gains and losses.
(4) The difference between the average rate earned on assets minus the average
rate paid on liabilities.
(5) Cash dividends declared and paid per share divided by consolidated net income
per share.
RESULTS OF OPERATIONS
Net Interest Income. The largest component of the Company's operating income is
net interest income, which is the difference between interest and dividend
income received from interest-earning assets and the interest expense paid on
interest-bearing liabilities. The Company's net interest income decreased $197
thousand, or 4.3%, to $4.4 million for the three months ended September 30,
2008, from $4.6 million for the three months ended September 30, 2007. For the
nine months ended September 30, 2008 compared to the nine months ended
September 30, 2007, net interest income dropped $369 thousand or 2.7% to $13.1
million from $13.4 million. The net interest spread decreased 33 basis points
to 4.25% for the three months ended September 30, 2008, from 4.58% for the
three months ended September 30, 2007 while it only dropped 26 basis points to
4.34% from 4.60% for the nine months ended September 30, 2008 and September 30,
2007, respectively. The decline in the net interest spread was primarily the
result of the drop in average interest rates earned on loans as the 325 basis
point drop in the prime rate between September 18, 2007 to April 30, 2008
affected the repricing of adjustable rate loans as well as the volume of new
loans and refinancing activity as customers took advantage of the lower rates.
The adverse effect of declining rates on the Company's net interest spread was
mitigated somewhat by a 64 basis point decline in the average rate paid on
deposits and borrowed funds in the third quarter of 2008 versus the same period
last year. The net interest margin for the third quarter of 2008 decreased 49
basis points to 4.67% from the 2007 period at 5.16% reflecting both a decline
in net income and an increase of $24.0 million in average earning assets.
Similarly, the net interest margin for the nine months ended September 30, 2008
was 4.80% or 37 basis points lower than the 5.17% for the nine months ended
September 30, 2007 while average interest earning assets rose $17.1 million.
Further decrease in the prime rate would not necessarily be beneficial to the
Company in the near term, especially if funding rates
16
did not follow a similar downward trend. See "OTHER FINANCIAL CONSIDERATIONS -
Market Risk and Asset and Liability Management."
Yields Earned and Rates Paid. The following table shows, for the periods
indicated, the total amount of income recorded from average interest-earning
assets and the related average yields, the interest expense associated with
average interest-bearing liabilities, the related average rates paid, and the
relative net interest spread and net interest margin. Yield and rate
information is calculated on an annualized tax equivalent basis. Yield and rate
information for a period is average information for the period, and is
calculated by dividing the annualized tax equivalent income or expense item for
the period by the average balance of the appropriate balance sheet item during
the period. Net interest margin is annualized tax equivalent net interest
income divided by average interest-earning assets. Nonaccrual loans are
included in asset balances for the appropriate periods, but recognition of
interest on such loans is discontinued and any remaining accrued interest
receivable is reversed in conformity with federal regulations.
Three months ended September 30,
-----------------------------------------------------------------------
2008 2007
--------------------------------- ---------------------------------
Interest Average Interest Average
Average Earned/ Yield/ Average Earned/ Yield/
Balance Paid Rate Balance Paid Rate
------- -------- ------- ------- -------- -------
(Dollars in thousands)
Average Assets:
Federal funds sold and
overnight deposits $ 10,048 $ 46 1.83% $ 10,261 $ 131 5.01%
Interest bearing deposits in banks 9,590 104 4.31% 10,521 128 4.82%
Investment securities (1), (2) 27,483 322 5.16% 29,041 338 5.00%
Loans, net (1), (3) 337,271 5,718 6.85% 311,071 6,115 7.89%
FHLB of Boston stock 1,922 14 2.87% 1,385 22 6.34%
-------- ------- ---- -------- ------- ----
Total interest-earning assets (1) 386,314 6,204 6.51% 362,279 6,734 7.48%
Cash and due from banks 10,597 10,468
Premises and equipment 7,276 6,179
Other assets 10,685 9,727
-------- --------
Total assets $414,872 $388,653
======== ========
Average Liabilities and Stockholders' Equity:
NOW accounts $ 54,307 $ 71 0.52% $56,034 $ 119 0.84%
Savings/money market accounts 93,911 314 1.33% 92,405 415 1.78%
Time deposits 138,267 1,101 3.17% 126,931 1,407 4.40%
Borrowed funds 27,782 304 4.30% 14,479 182 4.93%
-------- ------- ---- -------- ------- ----
Total interest bearing liabilities 314,267 1,790 2.26% 289,849 2,123 2.90%
Noninterest bearing deposits 53,441 50,456
Other liabilities 5,797 6,874
-------- --------
Total liabilities 373,505 347,179
Stockholders' equity 41,367 41,474
-------- --------
Total liabilities and
stockholders' equity $414,872 $388,653
======== ========
Net interest income $ 4,414 $ 4,611
======= =======
Net interest spread (1) 4.25% 4.58%
==== ====
Net interest margin (1) 4.67% 5.16%
==== ====
--------------------
(1)Average yields reported on a tax-equivalent basis.
(2)Average balances of investment securities are calculated on the amortized cost basis.
(3)Includes loans held for sale and is net of unearned income and allowance for loan losses.
17
Nine months ended September 30,
-----------------------------------------------------------------------
2008 2007
--------------------------------- ---------------------------------
Interest Average Interest Average
Average Earned/ Yield/ Average Earned/ Yield/
Balance Paid Rate Balance Paid Rate
------- -------- ------- ------- -------- -------
(Dollars in thousands)
Average Assets:
Federal funds sold and
overnight deposits $ 6,703 $ 105 2.08% $ 8,046 $ 312 5.10%
Interest bearing deposits in banks 9,512 335 4.69% 9,236 324 4.69%
Investment securities (1), (2) 30,038 1,075 5.22% 26,948 931 4.94%
Loans, net (1), (3) 324,106 16,997 7.08% 309,432 17,959 7.86%
FHLB of Boston stock 1,795 51 3.74% 1,391 72 6.85%
-------- ------- ---- -------- ------- ----
Total interest-earning assets (1) $372,154 18,563 6.76% 355,053 19,598 7.49%
Cash and due from banks 10,129 10,280
Premises and equipment 7,000 6,122
Other assets 10,925 9,338
-------- --------
Total assets $400,208 $380,793
======== ========
Average Liabilities and Stockholders' Equity:
NOW accounts $ 53,550 $ 232 0.58% $ 53,100 $ 321 0.81%
Savings/money market accounts 91,327 951 1.39% 93,605 1,241 1.77%
Time deposits 129,617 3,440 3.53% 123,161 4,044 4.39%
Borrowed funds 26,492 868 4.31% 14,765 551 4.92%
-------- ------- ---- -------- ------- ----
Total interest bearing liabilities $300,986 5,491 2.43% 284,631 6,157 2.89%
Noninterest bearing deposits 51,257 48,475
Other liabilities 6,314 6,115
-------- --------
Total liabilities 358,557 339,221
Stockholders' equity 41,651 41,572
-------- --------
Total liabilities and
stockholders' equity $400,208 $380,793
======== ========
Net interest income $13,072 $13,441
======= =======
Net interest spread (1) 4.34% 4.60%
==== ====
Net interest margin (1) 4.80% 5.17%
==== ====
--------------------
(1)Average yields reported on a tax-equivalent basis.
(2)Average balances of investment securities are calculated on the amortized cost basis.
(3)Includes loans held for sale and is net of unearned income and allowance for loan losses.
Rate/Volume Analysis. The following table describes the extent to which changes
in average interest rates and changes in volume of average interest earning
assets and interest bearing liabilities have affected the Company's interest
income and interest expense during the period indicated. For each category of
interest earning assets and interest bearing liabilities information is
provided on changes attributable to:
o changes in volume (change in volume multiplied by prior rate);
o changes in rate (change in rate multiplied by prior volume); and
o total change in rate and volume.
18
Changes attributable to both rate and volume have been allocated
proportionately to the change due to volume and the change due to rate.
Three Months Ended September 30, 2008
Compared to
Three Months Ended September 30, 2007
Increase/(Decrease) Due to Change In
-------------------------------------
Volume Rate Net
------ ---- ---
(Dollars in thousands)
Interest earning assets:
Federal funds sold and overnight deposits $ (3) $ (82) $ (85)
Interest bearing deposits in banks (11) (13) (24)
Investment securities (25) 9 (16)
Loans, net 483 (880) (397)
FHLB of Boston stock 7 (15) (8)
---- ----- -----
Total interest earning assets $451 (981) (530)
---- ----- -----
Interest bearing liabilities:
NOW accounts $ (4) (44) (48)
Savings/money market accounts 7 (108) (101)
Time deposits 116 (422) (306)
Borrowed funds 148 (26) 122
---- ----- -----
Total interest bearing liabilities $267 (600) (333)
---- ----- -----
Net change in net interest income $184 $(381) $(197)
---- ----- -----
Nine Months Ended September 30, 2008
Compared to
Nine Months Ended September 30, 2007
Increase/(Decrease) Due to Change In
------------------------------------
Volume Rate Net
------ ---- ---
(Dollars in thousands)
Interest earning assets:
Federal funds sold and overnight deposits $(45) $ (162) $ (207)
Interest bearing deposits in banks 11 - 11
Investment securities 96 48 144
Loans, net 859 (1,821) (962)
FHLB of Boston stock 17 (38) (21)
---- ------- -------
Total interest earning assets $938 $(1,973) $(1,035)
---- ------- -------
Interest bearing liabilities:
NOW accounts $ 3 $ (92) $ (89)
Savings/money market accounts (29) (261) (290)
Time deposits 207 (811) (604)
Borrowed funds 391 (74) 317
---- ------- -------
Total interest bearing liabilities 572 (1,238) (666)
---- ------- -------
Net change in net interest income $366 $ (735) $ (369)
---- ------- -------
Three Months Ended September 30, 2008, compared to Three Months Ended
September 30, 2007.
Interest and Dividend Income. The Company's interest and dividend income
decreased $530 thousand, or 7.9%, to $6.2 million for the three months ended
September 30, 2008, from $6.7 million for the three months ended September 30,
2007. During the third quarter of 2008, average earning assets increased $24.0
million, or 6.6%, to $386.3 million, from $362.3 million for the three months
ended September 30, 2007. However, the increase in interest income resulting
from the rise in average earning assets was more than offset by the lower rates
earned on loans, federal funds sold, interest bearing deposits in banks and
Federal Home Loan Bank of Boston stock in third quarter of 2008 versus 2007. In
particular, interest income on loans decreased during the third quarter of 2008
versus the 2007 comparison period despite an increase in average loan volume
between periods. Average loans approximated $337.3 million at an average yield
of 6.85% for the three months ended September 30, 2008, up $26.2 million, or
8.4%, from $311.1 million at an average yield of 7.89% for the three months
ended September 30, 2007. However,
19
the increase in volume was more than offset by an 104 basis point decrease in
yield. Loan demand has risen during 2008 due to the lower interest rates, the
successful implementation of a call program and the changes in the competitive
landscape.
The 325 basis point drop in the prime rate from September 2007 at 8.25% to
April 2008 at 5.00% has now impacted the majority of variable rate loans and
was not positive for the Company, as adjustable rate loans continue to reprice
at lower rates. The further drop in the prime rate of 100 basis points in
October 2008 will also negatively impact net interest income for the Company in
future periods.
The average balance of investments (including mortgage-backed securities)
decreased $1.6 million or 5.4%, to $27.5 million for the three months ended
September 30, 2008, from $29.0 million for the three months ended September 30,
2007. The average level of interest bearing deposits in banks for the quarter
was $9.6 million, down $931 thousand or 8.8% from the 2007 average level of
$10.5 million. Maturing investments and FDIC insured certificates of deposit
were utilized to fund loan demand. The average level of federal funds sold and
overnight deposits decreased $213 thousand, to $10.1 million or 2.1% for the
three months ended September 30, 2008, from $10.3 million for the three months
ended September 30, 2007. Interest income from non-loan instruments decreased
$133 thousand or 21.5% between periods, with $486 thousand for the third
quarter of 2008 versus $619 thousand for the same period of 2007, reflecting
the overall decreases in yields on federal funds sold and overnight deposits,
as well as on interest bearing deposits in banks and the FHLB of Boston stock,
coupled with volume decreases on federal funds sold, interest bearing deposits,
and investment securities available-for-sale.
Interest Expense. The Company's interest expense decreased $333 thousand, or
15.7%, to $1.8 million for the three months ended September 30, 2008, from $2.1
million for the three months ended September 30, 2007. Of this decrease, $600
thousand was a result of the decrease in rates, partially offset by the $267
thousand attributable to the increase in volume, primarily related to the rise
in borrowed funds to support loan demand as well as the increased volume in
time deposits.
Interest expense on deposits decreased $455 thousand or 23.4% to $1.5 million
for the quarter ended September 30, 2008, from $1.9 million for the quarter
ended September 30, 2007. Competition for deposits has remained strong but
growth in average deposits for the quarter at $14.1 million or 4.3% is
illustrative of the overall growth in the franchise with the opening of two new
branches during the third quarter and some "flight to quality" in September
2008 as the financial markets continued to experience turmoil. Interest rates
paid have not dropped as much as anticipated given the drop in the prime rate
and the target rate on Federal Funds Sold. Management believes consumers have
become more rate sensitive over the last few years due to advertised "specials"
and the proliferation of nonlocal financial institutions trying to gather
deposits throughout the Company's market area. Average time deposits rose to
$138.3 million for the three months ended September 30, 2008, from $126.9
million for the three months ended September 30, 2007, or an increase of $11.3
million or 8.9%. While the majority of these deposits are new funds for the
Company, there has been movement of deposits from lower yielding deposit
accounts to higher paying certificates of deposit within its account base. The
average rate paid on time deposits decreased 123 basis points, to 3.17% from
4.40% for the three months ended September 30, 2008 and 2007, respectively. The
average balances for money market and savings accounts increased $1.5 million,
or 1.6%, to $93.9 million for the three months ended September 30, 2008, from
$92.4 million for the three months ended September 30, 2007. A $1.7 million or
3.1% decrease in NOW accounts brought the average balance down to $54.3 million
from $56.0 million between the two years.
Interest expense on borrowed funds increased from $182 thousand for the quarter
ended September 30, 2007 to $304 thousand for the quarter ended, September 30,
2008 as average funds borrowed from the FHLB of Boston increased from $14.4
million to $27.8 million between years, although the average rate paid on
borrowed funds declined 63 basis points between periods. The increasing loan
demand between the quarters ended September 30, 2007 and September 30, 2008,
the match funding of certain loans with FHLB of Boston amortizing advances and
the opportunity to lock in some low rate long term funding early in 2008 before
the long end of the yield curve rose led the Company to increase its reliance
on borrowed funds.
20
Provision for Loan Losses. There was a $45 thousand loan loss provision for the
quarter ended September 30, 2008 and a $190 thousand loan loss provision for
the quarter ended September 30, 2007. The lower provision in the third quarter
of 2008 versus 2007 was deemed appropriate for the third quarter of 2008 in
light of net charge-offs for the quarter ended September 30, 2008 of $29
thousand compared to the quarter ending September 30, 2007 of $120 thousand.
There is continuing strong loan growth, an upward trend in the dollar amount of
loans with higher risk characteristics and a softening of the economy, which
has resulted in an increase in nonperforming loans. However, these factors were
partially offset by a decline in classified loans between periods as well as
the growth in lower risk loans to local municipalities and school districts.
For further details see, FINANCIAL CONDITION -"Allowance for Loan Losses" and
"Asset Quality" sections below.
Noninterest income. The following table sets forth changes from the third
quarter of 2007 to the third quarter of 2008 for components of noninterest
income:
For The Three Months Ended September 30,
--------------------------------------------
2008 2007 $ Variance % Variance
(Dollars in thousands)
Trust income $ 94 $ 94 $ - -
Service fees 885 866 19 2.2
Net gains on sales of investment securities - 30 (30) (100.0)
Write-down of impaired investment securities (512) - (512) (100.0)
Net gains on sales of loans held for sale 74 48 26 54.2
Other 297 45 252 560.0
----- ------ -----
Total noninterest income $ 838 $1,083 $(245) (22.6)
===== ====== =====
Trust Income. Trust income has remained flat for the three months ended
September 30, 2008 compared to 2007, despite a number of new trust
relationships. Since the Company's trust fees are based largely on the value of
assets under management, the positive impact of these new relationships were
offset by the lower market value of the assets invested mainly due to market
turmoil.
Service fees. The increase resulted primarily from a rise in overdraft fees of
$25 thousand, or 7.8% and ATM/Debit Card usage fees increase of $21 thousand,
or 11.0%. These increases were partially offset by a decline in foreign
exchange fees of $17 thousand, or 83.4% as the price of the U.S. dollar
continued to decline and a decrease of $10 thousand, or 12.8%, in loan
servicing fees.
Net gains on sales of investment securities. There were no sales of investment
securities during the third quarter of 2008.
Write-down of impaired investment securities. Two corporate bonds in the
available-for-sale investment portfolio were determined to be other than
temporarily impaired and were written down by $512 thousand to reflect the fair
value of these securities as of September 30, 2008. See FINANCIAL CONDITION -
Investment Activities section below.
Net gains on sales of loans held for sale. Residential real estate loans of
$4.8 million were sold for a net gain of $74 thousand during the third quarter
of 2008, versus sales of $4.1 million for a net gain of $48 thousand during the
third quarter of 2007.
Other. The increase resulted primarily from the recording of a $234 thousand
nontaxable death benefit from a Company owned life insurance policy.
21
Noninterest expense. The following table sets forth changes from the third
quarter of 2007 to the third quarter of 2008 for components of noninterest
expense:
For The Three Months Ended September 30,
--------------------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Salaries and wages $1,636 $1,565 $ 71 4.5
Pension and employee benefits 481 541 (60) (11.1)
Occupancy expense, net 214 186 28 15.1
Equipment expense 287 278 9 3.2
Expenses of OREO and other
assets owned, net 174 36 138 383.3
Equity in losses of affordable
housing investments 97 66 31 47.0
Other 955 902 53 5.9
------ ------ ----
Total noninterest expense $3,844 $3,574 $270 7.6
====== ====== ====
Salaries and wages and related expenses. The increase in 2008 over 2007 was due
primarily to regular salary activity and hiring associated with the July and
October addition of two branches. This increase was partially offset by a
reduction in several staff positions, not withstanding continued growth of the
Company. There was a decrease of $84 thousand or 37.9% in the Company's medical
costs from $220 thousand in the third quarter of 2007 to $137 thousand for 2008
as a few large claims were processed during the third quarter of 2007 and were
not repeated in the third quarter of 2008. The Company self-insures healthcare
costs to a specific individual and aggregate level and carries "excess"
coverage for major claims.
Occupancy Expense. The increase between years is mainly due to the addition of
two new branch locations during the third quarter of 2008 as well as the lower
rental income received due to timing of tenants departures and rental of
available space.
Expenses of OREO and other assets owned, net. Four properties that were held as
Other Real Estate Owned during the third quarter of 2008 were written down to
their fair market value less cost to sell totaling $74 thousand. One of the
properties was sold in September 2008 and two more have been sold during the
fourth quarter 2008. Furniture and fixtures in one of the OREO properties
originally valued as Other Assets Owned at $25 thousand were written down to $0
during the third quarter of 2008. Net carrying costs of OREO and other assets
owned for the quarter were $174 thousand.
Equity in losses of affordable housing investments. Two new investments in low
income housing partnerships were made in late 2007 which increased the amount
of equity in the losses of these projects to be recorded in 2008.
Other. The net change between years has many components of both increases and
decreases; the largest four being a $34 thousand increase in professional fees
due to the retention of a consulting firm to review director and officer
compensation and benefit packages and the outsourcing of stock transfer agent
responsibilities effective January 1, 2008, an increase in director's fees due
to the increase of one outside director on both the Board of the Company and
the Bank, and an increase in the quarter's expenses of foreclosures and other
real estate owned which was $21 thousand during the third quarter of 2007
versus $75 thousand during the third quarter of 2008.
Income Tax Expense. The Company has provided for current and deferred federal
income taxes for the current and all prior periods presented. The Company's
provision for income taxes was $198 thousand for the three months ended
September 30, 2008 compared to $508 thousand for the same period in 2007,
reflecting the decrease in taxable net income between periods. Nontaxable
income from municipal loans and investments grew from $236 thousand to $284
thousand between years. Also, a $234 thousand nontaxable death benefit on one
of the Company owned life insurance policies added to third quarter 2008
nontaxable income. There was also an additional $27 thousand in low income tax
credits available in 2008 on two low income housing investments made in late
2007. The Company's effective tax rate therefore decreased to just 14.5% for
the three months ended September 30, 2008, from 26.3% for the same period in
2007.
22
Nine Months Ended September 30, 2008, compared to Nine Months Ended
September 30, 2007.
Interest and Dividend Income. The Company's interest and dividend income
decreased $1.0 million, or 5.3%, to $18.6 million for the nine months ended
September 30, 2008, from $19.6 million for the nine months ended September 30,
2007, with average earning assets increasing $17.1 million, or 4.8%, to $372.2
million for the nine months ended September 30, 2008, from $355.1 million for
the nine months ended September 30, 2007. However, the increase in interest
income resulting from the rise in average earning assets was more than offset
by the lower rates earned on loans, federal funds sold, and FHLB of Boston
stock in the first nine months of 2008 versus 2007. Interest income on loans
decreased during the nine months of 2008 versus the 2007 comparison period
despite an increase in average loan volume between periods. Average loans
approximated $324.1 million at an average yield of 7.08% for the first nine
months ended September 30, 2008, up $14.7 million from $309.4 million at an
average yield of 7.86% for the first nine months ended September 30, 2007.
However, the increase in volume was more than offset by a 78 basis point
decrease in yield resulting mostly from the 325 basis point drop in the prime
rate from 8.25% in September 2007 to 5.00% in April 2008 where it remained
throughout the balance of the reporting period. Loan demand has risen during
2008 due to lower interest rates, the successful implementation of a call
program and the changes in the competitive landscape.
The average balance of investments (including mortgage-backed securities)
increased $3.1 million or 11.5%, to $30.0 million for the nine months ended
September 30, 2008, from $26.9 million for the nine months ended September 30,
2007. The average level of interest bearing deposits in banks for the nine
months ended September 30, 2008 was $9.5 million up $276 thousand or 3.0% from
the 2007 average level of $9.2 million, as FDIC insured certificates of deposit
in other financial institutions was one of the highest yielding and safest
investment options available. The increase in the investment portfolio and
interest bearing deposits in banks from the first nine months of 2007 reflects
the slower loan demand of 2007 and early 2008 but that changed during 2008 and
cash flows from maturing or called instruments are being utilized to fund
loans. The average level of federal funds sold and overnight deposits decreased
$1.3 million, to $6.7 million at a rate of 2.08% for the nine months ended
September 30, 2008, from $8.0 million at a rate of 5.10% for the nine months
ended September 30, 2007, as funds were utilized to support the rising loan
demand. Interest income from non-loan instruments decreased $73 thousand or
4.5% between periods, with $1.57 million in income for these items for the nine
months ended September 30, 2008 and $1.64 million for the nine months ended
September 30, 2007, reflecting the overall increase in yields on investment
securities and volume increases on all instruments except federal funds sold.
Interest Expense. The Company's interest expense decreased $666 thousand, or
10.8%, to $5.5 million for the nine months ended September 30, 2008, from $6.2
million for the nine months ended September 30, 2007. Of this decrease, $1.2
million was a result of the decrease in rates, partially offset by a $572
thousand increase attributable to an increase in volume, primarily related to
the increase in time deposits as well as borrowed funds to support loan demand.
Interest expense on deposits decreased $983 thousand or 17.5% to $4.6 million
for the nine months ended, September 30, 2008, from $5.6 million for the nine
months ended September 30, 2007. Competition for deposits has remained strong
with growth in average deposits for the nine months ended September 30, 2008 of
$7.4 million or 2.3% from the nine months ended September 30, 2007. Volume
growth started to improve towards the end of the first half of 2008 as there
has been a flight to quality by customers concerned about the stock market
declines, Fannie Mae and Freddie Mac issues and bank and brokerage house
failures. Average time deposits rose to $129.6 million for the nine months
ended September 30, 2008, from $123.2 million for the nine months ended
September 30, 2007, or an increase of $6.4 million or 5.2%. While the majority
of these deposits are new funds for the Company, there has been movement of
deposits from lower yielding savings accounts to higher paying certificates of
deposit within its account base. The average rate paid on time deposits
decreased 86 basis points, to 3.53% from 4.39% for the nine months ended
September 30, 2008 and 2007, respectively. The average balances for money
market and savings accounts decreased $2.3 million, or 2.4%, to $91.3 million
for the nine months ended September 30, 2008, from $93.6 million for the nine
months ended September 30, 2007 as interest rates on time deposits were higher
which appeared to motivate customers to move funds into certificates of deposit
and lock in the higher rates, especially given the potential for a steep
downward trend in interest rates paid given the drop in the discount rate by
the Federal Open Market Committee (FOMC) and the decrease in the prime rate
during the first four months of 2008. A $450 thousand or
23
0.8% increase in NOW accounts brought the average balance up to $53.6 million
from $53.1 million between the two years.
Interest expense on borrowed funds increased from $551 thousand for the nine
months ended September 30, 2007 to $868 thousand for the nine months ended
September 30, 2008, as average funds borrowed from the FHLB of Boston increased
from $14.8 million to $26.5 million between years, although the average rate
paid on borrowed funds declined 61 basis points between periods. The increasing
loan demand, the slow growth in deposits on average between the periods ended
September 30, 2007 and September 30, 2008, and the opportunity to lock in some
low rate long term FHLB of Boston funding before the long end of the yield
curve rose led the Company to increase its reliance on borrowed funds early in
2008.
Provision for Loan Losses. There was a $185 thousand loan loss provision for
the nine months ended September 30, 2008 versus a $235 thousand provision for
the nine months ended September 30, 2007. Net charge-offs for the first nine
months of 2008 were $123 thousand, compared to $177 thousand for the first nine
months of 2007. Despite the $31 million growth in loans not held for sale since
December 31, 2007 ($10.8 million of the growth was in lower risk municipal
loans), and an increase in nonperforming loans of $3.6 million, the provision
of $185 thousand was deemed adequate. For further details see, FINANCIAL
CONDITION -"Allowance for Loan Losses" below.
Noninterest income. The following table sets forth changes from the first nine
months of 2007 to the first nine months of 2008 for components of noninterest
income:
For The Nine Months Ended September 30,
--------------------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Trust income $ 287 $ 261 $ 26 10.0
Service fees 2,637 2,516 121 4.8
Net gains on sales of investment securities 16 67 (51) (76.1)
Write-down of impaired investment securities (512) - (512) (100.0)
Net gains on sales of loans held for sale 246 98 148 151.0
Other 450 211 239 113.3
------ ------ -----
Total noninterest income $3,124 $3,153 $ (29) (0.9)
====== ====== =====
Trust Income. Trust income has risen for the nine months ended September 30,
2008 mainly due to a number of new trust relationships.
Service fees. The increase resulted primarily from a rise in overdraft fees of
$47 thousand, or 5.1%; merchant program income increase of $32 thousand, or
9.5%; and the increase in ATM/Debit Card usage fees of $63 thousand, or 11.5%.
These increases were partially offset by a decline in foreign exchange fees of
$38 thousand, or 76.3% as the price of the U.S. dollar compared to most foreign
currencies is lower in 2008.
Write-down of impaired investment securities. Two corporate bonds in the
available-for-sale investment portfolio were determined to be other than
temporarily impaired and were written down by $512 thousand to reflect the fair
value of these securities as of September 30, 2008. See FINANCIAL CONDITION -
Investment Activities section below.
Net gains on sales of loans held for sale. Residential real estate loans of
$17.7 million were sold for a net gain of $246 thousand during the nine months
ended September 30, 2008, versus sales of $13.3 million for a net gain of $98
thousand during the nine months ended September 30, 2007.
Other. The receipt of a nontaxable death benefit of $234 thousand from a
Company owned life insurance policy during the third quarter of 2008 is the
main reason for the increase between years.
24
Noninterest expense. The following table sets forth changes from the first nine
months of 2007 to the first nine months of 2008 for components of noninterest
expense:
For The Nine Months Ended September 30,
--------------------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Salaries and wages $ 4,825 $ 4,692 $133 2.8
Pension and employee benefits 1,855 1,721 134 7.8
Occupancy expense, net 705 620 85 13.7
Equipment expense 896 821 75 9.1
Expenses of OREO and other
assets owned, net 239 123 116 94.3
Equity in losses of affordable
housing investments 291 199 92 46.2
Other 2,787 2,619 168 6.4
------- ------- ----
Total noninterest expense $11,598 $10,795 $803 7.4
======= ======= ====
Salaries and wages and related expenses. The increase in 2008 over 2007 was due
primarily to the addition of two new branches in July and October 2008 and
regular salary activity offset partially by a reduction in several staff
positions, even as the Company continued to grow. An increase in the accrual
for pension plan expense of $32 thousand or 7.8% and a $90 thousand or 13.0%
increase in the Company's medical costs for which the Company is self insured
up to specific individual and aggregate limits were partially offset by a
decrease of $11 thousand or 22.8% in the company's dental insurance costs.
Occupancy expense, net. The $85 thousand or 13.7% increase between periods is
due primarily to the increase in snowplowing costs between years due to a
winter season of heavy snow and ice, the increase in fuel costs despite the
mild winter temperatures, the increase in depreciation and real estate taxes in
2008 as the renovation work on two administrative buildings in Morrisville was
completed in 2007, a decrease in rental income, and the increase in rental
expense which includes the new Danville, Vermont branch which was opened in
July 2008.
Equipment Expense. The $75 thousand increase, or 9.1%, between years is
partially due to the purchase of a Microsoft Enterprise license by the Company
which allows the Company to increase the number of personal computers on its
network and to migrate to future software upgrades, the $23 thousand write-off
during the first quarter of 2008 of the undepreciated value of the Company's
merchant services equipment which are now being expensed as the value is under
the Company's capitalization limit and the write-off during the second quarter
of 2008 of $25 thousand for the undepreciated value of the reader/sorter and
related equipment and software which are no longer used since the
implementation of branch capture imaging hardware and software.
Expenses of OREO and other assets owned, net. Four properties that were held as
Other Real Estate Owned were written down to their fair market value less cost
to sell totaling $85 thousand. One of those properties was sold in September
2008 and two more have been sold during the fourth quarter 2008. Furniture and
fixtures in one of the OREO properties originally valued as Other Assets Owned
at $25 thousand were written down to $0 during the third quarter of 2008. Net
carrying costs of OREO and other assets owned year to date for 2008 were $239
thousand.
Equity in losses of affordable housing investments. Two new investments in low
income housing partnerships were made in late 2007 which increased the amount
of equity in the losses of these projects to be recorded in 2008.
Other. The net change between years has many components; including a $28
thousand increase in training and development costs mainly related to the roll
out of the new personal computers and related software as well as the new
branch imaging system, a $62 thousand increase in professional fees due to the
retention of a consulting firm to review director and officer compensation and
benefit packages, the outsourcing of stock transfer agent responsibilities
effective January 1, 2008 and an increase in audit and
25
accounting services mainly related to SOX 404, an increase in director's fees
due to the increase of one outside director on both the Board of the Company
and the Bank, and an increase in the year's expenses of foreclosures and other
real estate owned which was $49 thousand during 2007 versus $120 thousand
during 2008. These increases were partially offset by a decrease in legal fees
paid from $114 thousand in 2007 to $62 thousand in 2008.
Income Tax Expense. The Company has provided for current and deferred federal
income taxes for the current and all prior periods presented. The Company's
provision for income taxes was $652 thousand for the nine months ended
September 30, 2008 compared to $1.4 million for the same period in 2007,
reflecting the receipt of federal rehabilitation tax credits of $195 thousand
available in 2008 resulting from the completion of affordable housing
investment partnership projects, the increase of $80 thousand in annual low
income housing credits due to the new projects, the nontaxable death benefit of
$234 thousand from one of the Company owned life insurance policies, an
increase of $88 thousand in nontaxable income from municipal investment income
and the decrease in taxable net income between periods. The Company's effective
tax rate decreased to just 14.8% for the nine months ended September 30, 2008,
from 25.5% for the same period in 2007, reflecting the federal rehabilitation
tax credit, increased low income housing credits and increase in nontaxable
income.
FINANCIAL CONDITION
At September 30, 2008 the Company had total consolidated assets of $423.1
million, including gross loans and loans held for sale ("total loans") of
$343.4 million, deposits of $348.6 million and stockholders' equity of $41.2
million. The Company's total assets increased $29.7 million or 7.5% to $423.1
million at September 30, 2008, from $393.4 million at December 31, 2007. Net
loans and loans held for sale were $339.9 million, or 80.3% of total assets at
September 30, 2008, as compared to $314.8 million, or 80.0% of total assets at
December 31, 2007.
Cash and cash equivalents, including federal funds sold and overnight deposits,
increased $6.0 million, or 44.7%, to $19.4 million at September 30, 2008, from
$13.4 million at December 31, 2007. Interest bearing deposits in banks
increased $3.1 million or 26.0% from $11.9 million at December 31, 2007 to
$14.9 million at September 30, 2008. These included $5 million in non FDIC
insured certificates of deposit with a correspondent approved under the
Company's Interbank Liability Policy all of which matured within two weeks of
September 30, 2008. Investment securities available-for-sale decreased from
$33.8 million at December 31, 2007, to $27.4 million at September 30, 2008, a
$6.4 million, or 18.9%, decrease. The securities available-for-sale and
interest bearing deposits in banks decreased from 11.6% of total assets at
December 31, 2007 to 10.0% at September 30, 2008, reflecting deployment of
available cash resources to fund loan demand.
Deposits increased $24.7 million, or 7.6%, to $348.6 million at September 30,
2008, from $324.0 million at December 31, 2007. Noninterest bearing deposits
remained flat at $56.2 million at December 31, 2007 and September 30, 2008.
Interest bearing deposits increased $24.6 million, or 9.2%, from $267.8 million
at December 31, 2007, to $292.4 million at September 30, 2008. (See average
balances and rates in the Yields Earned and Rates Paid tables on Page 17)
Aggressive rate competition from in-market and out-of-market financial
institutions makes deposit accounts harder to attract and retain. Noninterest
bearing deposits are especially difficult to develop and increase. It is yet to
be seen if increased FDIC insurance coverage and continuing financial and
credit market volatility will make it easier to attract and retain deposits in
the long run.
Total borrowings increased to $27.6 million at September 30, 2008 from $20.3
million, at December 31, 2007 as the Company took advantage of low rate FHLB of
Boston advances available during the first two months of the year to support
the growing loan demand at rates much lower and achievable with greater
administrative ease than medium term time deposits could be gathered, as well
as to specifically match fund a large new loan relationship.
Total stockholders' equity decreased $891 thousand to $41.2 million at
September 30, 2008 from $42.1 at December 31, 2007, reflecting net income of
$3.8 million for the first nine months of 2008, less regular cash dividends
paid of $3.8 million, the purchase of Treasury stock totaling $387 thousand,
and an
26
increase of $496 thousand in accumulated other comprehensive loss. (See Capital
Resources section on Page 39.)
Loans Held for Sale and Loan Portfolios. At September 30, 2008, the Company's
total loan portfolio was $343.4 million, or 81.2% of assets, up from $318.3
million, or 80.9% of assets at December 31, 2007, and up from $315.6 million or
79.4% of assets at September 30, 2007. Total loans (including loans held for
sale) have increased $25.1 million since December 31, 2007. Real estate secured
loans represented $292.0 million or 85.0% of total loans at September 30, 2008
and $276.5 million or $86.9% of total loans at December 31, 2007. The Company's
total loans primarily consist of adjustable-rate and fixed-rate mortgage loans
secured by one-to-four family, multi-family residential or commercial real
estate. Average net loans (including loans held for sale) were $309.4 million
for the first nine months of 2007 and have increased to $324.1 million for the
first nine months of 2008. The Company sold $17.7 million of loans held for
sale during the first nine months of 2008 resulting in a gain on sale of loans
of $246 thousand, compared with loan sales of $13.3 million and related gain on
sale of loans of $98 thousand for the first nine months of 2007. The Company
recognizes that competition for good loans is strong, however is able to
originate loans to both current and new customers while maintaining credit
quality. Municipal loan generation was much stronger in the annual cycle
starting July of 2008 and outstanding loans to municipalities and schools at
September 30, 2008 were $25.8 million compared to $15.1 million at December 31,
2007 and $16.8 million at September 30, 2007. The Company has seen a pickup in
commercial loan demand during 2008 in part due to lower interest rates which
has engendered some refinancing activity, loans generated from the Bank's call
program and competitive changes in the Bank's marketplace. The good 2008 winter
season in both northern Vermont and New Hampshire also encouraged businesses to
put some money back into infrastructure and equipment, generating commercial
loan activity. Consumer loan demand has remained steady but residential real
estate loan refinancing has declined. Loan demand, as anticipated, has also
slowed in 2008 for the construction portfolio, which is seasonal.
The following table shows information on the composition of the Company's total
loan portfolio as of September 30, 2008 and December 31, 2007:
Loan Type September 30, 2008 December 31, 2007
--------- ------------------ ------------------
Amount Percent Amount Percent
------ ------- ------ -------
(Dollars in thousands)
Residential real estate $123,271 35.9 $115,303 36.2
Construction real estate 22,679 6.6 20,190 6.4
Commercial real estate 144,222 42.0 133,320 41.9
Commercial 18,287 5.3 16,537 5.2
Consumer 7,282 2.1 7,175 2.3
Municipal loans 25,831 7.5 15,069 4.7
Term Federal Funds Sold - - 3,000 0.9
Loans Held for Sale 1,818 0.6 7,711 2.4
-------- ----- -------- -----
Total loans 343,390 100.0 318,305 100.0
Deduct:
Allowance for loan losses (3,440) (3,378)
Unearned net loan fees (97) (111)
-------- --------
Net loans and loans held for sale $339,853 $314,816
======== ========
The Company originates and sells some residential mortgages into the secondary
market, with most such sales made to the Federal Home Loan Mortgage Corporation
(FHLMC/"Freddie Mac") and the Vermont Housing Finance Agency (VHFA). Recently,
the Company entered into a contract with the FHLB of Boston Mortgage
Partnership Finance Program (MPF) to sell up to $5 million in loans. To date,
the Company has sold $4 million. At September 30, 2008, the Company serviced a
$216.3 million residential real estate mortgage portfolio, approximately $93.0
million of which was serviced for unaffiliated third parties. Additionally, the
Company originates commercial real estate and commercial loans under various
U.S. Small Business Administration, United States Department of Agriculture
Rural Development Authority and Vermont Economic Development Authority programs
which provide an agency guarantee for a portion of the loan amount. The Company
occasionally sells the guaranteed portion of the loan to other financial
concerns and will retain servicing rights, which generates fee income. The
Company
27
serviced $5.3 million of commercial and commercial real estate loans for
unaffiliated third parties as of September 30, 2008. The Company capitalizes
servicing rights for both mortgage and commercial loans sold with servicing
retained. The Company recognizes gains and losses on the sale of the principal
portion of these loans as they occur. The unamortized balance of servicing
rights on loans sold with servicing retained was $305 thousand at September 30,
2008, with an estimated market value in excess of their carrying value.
In the ordinary course of business, the Company occasionally participates out,
on a non-recourse basis, a portion of commercial, municipal or real estate
loans to other financial institutions for liquidity or credit concentration
management purposes. The total of loans participated out as of September 30,
2008 was $13.1 million.
Asset Quality. The Company, like all financial institutions, is exposed to
certain credit risks including those related to the value of the collateral
that secures its loans and the ability of borrowers to repay their loans. The
underlying value of real estate collateral has not seen as much of a decline in
Vermont and northwestern New Hampshire as has been experienced in other parts
of the country and the Company's conservative loan policies have been prudent
for both the Company and its customers. Continued market volatility, rising
unemployment and weakness in the general economic condition of the country,
especially if a decline in discretionary consumer income adversely affects
winter tourism to our market area, may have a negative affect on our customers
ability to make their loan payments on a timely basis and/or underlying
collateral values. Management closely monitors the Company's loan and
investment portfolios, other real estate and other assets owned for potential
problems and reports to the Company's and the subsidiary's Boards of Directors
at regularly scheduled meetings. Policies set forth portfolio diversification
levels to mitigate concentration risk.
The Company's Board of Directors has set forth lending policies (which are
periodically reviewed and revised as appropriate) that include conservative
individual lending limits for officers, aggregate and advisory board approval
levels, Board approval for large credit relationships, a loan review program
and other limits or standards deemed necessary and prudent. The Company's loan
review department is supervised by an experienced former regulatory examiner
and staffed by a Certified Public Accountant as well as other experienced
personnel and encompasses a quality control process for loan documentation and
underwriting. The Company also maintains a monitoring process to assess the
credit quality and degree of risk in the loan portfolio. The Company performs
periodic concentration analyses based on various factors such as industries,
collateral types, large credit sizes and officer portfolio loads. The Company
has established underwriting guidelines to be followed by its officers,
exceptions not addressed by the underwriting guidelines are required to be
approved by a senior loan officer or the Board of Directors. The Company
monitors its delinquency levels for any negative or adverse trends. There can
be no assurance, however, that the Company's loan portfolio will not become
subject to increasing pressures from deteriorating borrower credit due to
general or local economic conditions.
Restructured loans include the Company's troubled debt restructurings that
involved forgiving a portion of interest or principal on any loans, refinancing
loans at a rate materially less than the market rate, rescheduling loan
payments, or granting other concessions to a borrower due to financial or
economic reasons related to the debtor's financial difficulties. Restructured
loans do not include qualifying restructured loans that have complied with the
terms of their restructure agreement for a satisfactory period of time. There
were no restructured loans at September 30, 2008 and $184 thousand at December
31, 2007.
Loans on which the accrual of interest has been discontinued are designated as
nonaccrual loans. Management reviews the loan portfolio continuously for
evidence of problem loans. Such loans are placed under close supervision with
consideration given to placing the loan on nonaccrual status. Loans are
designated as nonaccrual when reasonable doubt exists as to the full collection
of interest and principal. Normally, when a loan is placed on nonaccrual
status, all interest previously accrued but not collected is reversed against
current period interest income. Income on such loans is then recognized only to
the extent that cash is received and where the future collection of interest
and principal is probable. Interest accruals are resumed on such loans only
when they are brought fully current with respect to interest and principal and
when, in the judgment of management, the loans are estimated to be fully
collectible as to both principal and interest.
28
The Company had loans in nonaccrual status totaling $2.6 million, or 0.77%, of
gross loans at September 30, 2008, $3.3 million, or 1.06%, at December 31,
2007, and $2.3 million, or 0.74%, at September 30, 2007. Certain loans in
non-accrual status are covered in part by guarantees of U.S. Government or
state agencies. Approximately $144 thousand of the balances in this category
were covered by such guarantees at September 30, 2008. The aggregate interest
income not recognized on nonaccrual loans amounted to approximately $404
thousand and $438 thousand as of September 30, 2008 and 2007, respectively and
$457 thousand as of December 31, 2007.
The Company had loans past due 90 days or more and still accruing of $4.4
million, or 1.30%, of gross loans at September 30, 2008, $2.3 million, or
0.74%, at December 31, 2007 and $1.1 million, or 0.34%, at September 30, 2007.
Certain loans past due 90 days or more and still accruing interest are covered
in part by guarantees of U.S. Government or state agencies. Approximately $1.5
million of the commercial and commercial real estate balances in this category
were covered by such guarantees at September 30, 2008. The majority of the
increase was in commercial real estate loans with one well secured relationship
of $1.9 million comprising the majority of the increase. We are actively
working with the borrower to bring the loan back to current status. Our
practice as a community bank is, and always will be, to actively work with our
troubled borrowers to resolve the borrower's delinquency while maintaining the
safe and sound credit practices of the bank and safeguarding our strong capital
position.
At September 30, 2008, and December 31, 2007, respectively, the Company had
internally classified loans totaling $13 thousand and $21 thousand,
respectively. In management's view, such loans represent a higher degree of
risk and could become nonperforming loans in the future. While still on a
performing status, in accordance with the Company's credit policy, loans are
internally classified when a review indicates the existence of any of the
following conditions makes the likelihood of collection questionable:
o the financial condition of the borrower is unsatisfactory;
o repayment terms have not been met;
o the borrower has sustained losses that are sizable, either in
absolute terms or relative to net worth;
o confidence is diminished;
o loan covenants have been violated;
o collateral is inadequate; or
o other unfavorable factors are present.
The Company has been actively working with customers who may be delinquent or
headed for problems due to the downturn in the economy and the slowdown in the
residential real estate market. Northern New England did not experience these
issues as soon or to the extent as other parts of the country, however the
effects have started to be felt. The downturn in the economy, the price of
gasoline and heating fuel, and the potential for less tourist traffic are
worrisome. To aid customers in reducing their energy costs, the Company has
introduced, late in the second quarter of 2008, a new GreenLend(TM) Program
working with Efficiency Vermont and the United States Department of Agriculture
Rural Development Agency to offer low interest rate loans to consumer and
commercial customers to purchase, install or upgrade energy efficient systems
or vehicles or renewable energy sources.
One of the benefits of being a community financial institution is our
employees' and Boards' knowledge of the community and borrowers which allows us
to be proactive in working closely with our loan customers. The Company's
delinquency rates have historically run higher than similar institutions while
losses have been lower. The Company did not target sub-prime borrowers.
On occasion real estate properties are acquired through or in lieu of loan
foreclosure. These properties are to be sold and are initially recorded at the
lesser of the recorded loan or fair value less estimated selling costs at the
date of the Company's acquisition of the property, with fair value based on an
appraisal for more significant properties and on management's estimate for
minor properties. The Company evaluates each property on at least a quarterly
basis for changes in the fair value of the property. The Company had four
residential real estate properties totaling $293 thousand and three commercial
real estate properties totaling $1.1 million classified as OREO at September
30, 2008, compared to a total of two properties composed of $10 thousand of
residential real estate and $216 thousand of commercial real estate property at
December 31, 2007. There was an allowance for losses
29
on OREO of $77 thousand at September 30, 2008 and $25 thousand at December 31,
2007 which have been netted out of the values above. The OREO was included in
Other Assets on the Consolidated Balance Sheet at both time periods.
One of the residential and one of the commercial properties, held at September
30, 2008, were sold in October 2008. The Company has scheduled auctions for the
other OREO properties over the next few months. Due to an apparent softening in
the real estate market the potential to recover all principal and related costs
for the auctions is uncertain.
Allowance for Loan Losses. Some of the Company's loan customers ultimately do
not make all of their contractually scheduled payments, requiring the Company
to charge off a portion or all of the remaining principal balance due. The
Company maintains an allowance for loan losses to absorb such losses. The
allowance is maintained at a level which, by management's best estimate, is
adequate to absorb probable credit losses inherent in the loan portfolio;
however, actual loan losses may vary from current estimates.
Adequacy of the allowance for loan losses is determined using a consistent,
systematic methodology, which analyzes the risk inherent in the loan portfolio.
In addition to evaluating the collectibility of specific loans when determining
the adequacy of the allowance, management also takes into consideration other
factors such as changes in the mix and size of the loan portfolio, historic
loss experience, the amount of delinquencies and loans adversely classified,
industry trends, and the impact of the local and regional economy on the
Company's borrowers. The adequacy of the allowance for loan losses is assessed
by an allocation process whereby specific loss allocations are made against
certain adversely classified loans and general loss allocations are made
against segments of the loan portfolio which have similar attributes. While the
Company allocates the allowance for loan losses based on a percentage by
category to total loans, the portion of the allowance for loan losses allocated
to each category does not represent the total available for future losses which
may occur within the loan category since the total allowance for possible loan
losses is a valuation reserve applicable to the entire portfolio.
The allowance for loan losses is increased by a provision for loan losses,
which is charged to earnings, and reduced by charge-offs, net of recoveries.
The provision for loan losses represents the current period credit cost
associated with maintaining an appropriate allowance for loan losses. Based on
an evaluation of the loan portfolio, management presents a quarterly analysis
of the allowance for loan losses to the Board of Directors, indicating any
changes since the last review and any recommendations as to adjustments in the
allowance. Additionally, bank regulatory agencies regularly review the
Company's allowance for loan losses as an integral part of their examination
process.
For the quarter ended September 30, 2008, the methodology used to determine the
provision for loan losses was unchanged from the prior quarter or year except
that loans totaling $3.7 million secured by deposit accounts have been broken
out separately and a lower risk factor assigned. The Company's loan portfolio
balance not held for sale increased $31 million from $310.6 million at December
31, 2007 to $341.6 million at September 30, 2008 mainly due to $8.0 million, or
6.9%, growth in residential real estate loans, $10.9 million, or 8.2%, growth
in commercial real estate loans and $10.8 million, or 71.4%, growth in
municipal loans. All other types of loans also grew between periods with the
exception of the maturity of $3.0 million in Term Federal Funds sold; see chart
on page 27 for further details.
As a result of the combined changes in volumes among various loan categories
and the net charge-offs for the third quarter of $29 thousand, the Company
designated a $45 thousand loan loss provision for the quarter ended September
30, 2008, which left the allowance for loan losses at $3.44 million at
September 30, 2008, up $62 thousand from December 31, 2007. The $39 thousand in
charge-offs for the quarter included $7 thousand due to credit card fraud, and
nine small consumer loan chargeoffs. There were no material changes in the
lending programs or terms during the quarter.
30
The following table reflects activity in the allowance for loan losses for the
three and nine months ended September 30, 2008 and 2007:
Three Months Ended, Nine Months Ended
September 30, September 30,
------------------- -----------------
2008 2007 2008 2007
---- ---- ---- ----
(Dollars in thousands)
Balance at beginning of period $3,424 $3,326 $3,378 $3,338
Charge-offs
Real Estate - 69 50 99
Commercial - 48 39 48
Consumer and other 39 9 74 63
------ ------ ------ ------
Total charge-offs 39 126 163 210
------ ------ ------ ------
Recoveries
Real Estate - 1 2 9
Commercial 1 - 5 2
Consumer and other 9 5 33 22
------ ------ ------ ------
Total recoveries 10 6 40 33
------ ------ ------ ------
Net charge-offs (29) (120) (123) (177)
------ ------ ------ ------
Provision for loan losses 45 190 185 235
------ ------ ------ ------
Balance at end of period $3,440 $3,396 $3,440 $3,396
====== ====== ====== ======
The following table (net of loans held for sale) shows the internal breakdown
of the Company's allowance for loan losses by category of loan and the
percentage of loans in each category to total loans in the respective
portfolios at the dates indicated:
September 30, 2008 December 31, 2007
------------------ ------------------
Amount Percent Amount Percent
------ ------- ------ -------
(Dollars in thousands)
Real Estate
Residential $ 762 36.1 $ 710 35.7
Commercial 1,906 42.2 2,011 42.9
Construction 227 6.6 202 6.5
Other Loans
Commercial 423 5.4 277 5.3
Consumer installment 77 2.1 112 2.3
Municipal, Other and
Unallocated 45 7.6 66 7.3
------ ----- -- -----
Total $3,440 100.0 $3,378 100.0
====== ===== ====== =====
Ratio of net charge offs to
average loans not held for
sale (1) 0.05% 0.07%
Ratio of allowance for loan
losses to loans not held
for sale 1.01% 1.09%
Ratio of allowance for loan
losses to nonperforming
loans (2) 48.59% 60.47%
--------------------
(1) Annualized
(2) Non-performing loans include loans in non-accrual status and loans past
due 90 days or more and still accruing.
Notwithstanding the categories shown in the table above, all funds in the
allowance for loan losses are available to absorb loan losses in the portfolio,
regardless of loan category.
31
Management of the Company believes, in their best estimate, that the allowance
for loan losses at September 30, 2008, is adequate to cover probable credit
losses inherent in the Company's loan portfolio as of such date. However, there
can be no assurance that the Company will not sustain losses in future periods,
which could be greater than the size of the allowance for loan losses at
September 30, 2008. See CRITICAL ACCOUNTING POLICIES. While the Company
recognizes that an economic slowdown and financial and credit market turmoil
may adversely impact its borrowers' financial performance and ultimately their
ability to repay their loans, management continues to be cautiously optimistic
about the collectability of the Company's loan portfolio.
Investment Activities. At September 30, 2008, the reported value of investment
securities available-for-sale was $27.4 million or 6.5% of assets. The amount
in investment securities available-for-sale decreased from $33.8 million, or
8.6% of assets at December 31, 2007 as maturing funds were utilized to fund
increased loan demand or placed into FDIC insured certificates of deposits. The
Company has no investment in either Fannie Mae or Freddie Mac preferred or
common stock or in their subordinated debt.
The Company had no securities classified as held-to-maturity or trading. The
reported value of investment securities available-for-sale at September 30,
2008 reflects net unrealized losses of $777 thousand compared to a net
unrealized loss of $1 thousand as of December 31, 2007. The offset of the
unrealized losses, net of income tax effect, was a $513 thousand loss reflected
in the Company's accumulated other comprehensive income (loss) component of
stockholders' equity at September 30, 2008.
Information (dollars in thousands) pertaining to investment securities
available-for-sale with gross unrealized losses at September 30, 2008 and
December 31, 2007; aggregated by investment category and length of time that
individual securities have been in a continuous loss position, follows:
September 30, 2008: Less Than 12 Months Over 12 Months
-------------------- -------------------
Gross Gross
Fair Unrealized Fair Unrealized
Value Loss Value Loss
----- ---- ----- ----
Debt securities:
U.S. Government sponsored
enterprises $ 1,498 $ (3) $ - $ -
Mortgage-backed 4,466 (34) 1,257 (44)
State and political subdivisions 4,999 (229) - -
Corporate 8,384 (487) 202 (48)
------- ----- ------ -----
Total debt securities 19,347 (753) 1,459 (92)
Marketable equity securities - - 11 (3)
------- ----- ------ -----
Total $19,347 $(753) $1,470 $ (95)
======= ===== ====== =====
December 31, 2007: Less Than 12 Months Over 12 Months
------------------- -------------------
Gross Gross
Fair Unrealized Fair Unrealized
Value Loss Value Loss
----- ---- ----- ----
Debt securities:
Mortgage-backed $ - $ - $6,701 $ (86)
State and political subdivisions 1,600 (15) 190 (1)
Corporate 2,926 (53) 1,875 (78)
------ ----- ------ -----
Total debt securities 4,526 (68) 8,766 (165)
Marketable equity securities 14 (1) - -
------ ----- ------ -----
Total $4,540 $ (69) $8,766 $(165)
====== ===== ====== =====
The Company evaluates all investment securities on a quarterly basis, and more
frequently when economic conditions warrant additional evaluations to determine
if an other-than-temporary impairment ("OTTI") exists pursuant to guidelines
established in FSP 115-1, The Meaning of Other-Than-Temporary Impairment and
Its Application to Certain Investments. In evaluating the possible impairment
of securities, consideration is given to the length of time and the extent to
which fair value has been less than amortized cost, the financial conditions
and near-term prospects of the issuer, and the ability and intent of the
Company to retain its investment in the issuer for a period of time sufficient
to allow for any
32
anticipated recovery in fair value. In analyzing an issuer's financial
condition, the Company may consider whether the securities are issued by the
federal government or its agencies, whether downgrades by bond rating agencies
have occurred, and the results of management's review of the issuer's financial
position. If management determines that an investment experienced an OTTI, the
loss is recognized in the income statement as a realized loss. Any recoveries
related to the value of these securities are recorded as an unrealized gain in
other comprehensive income (loss) in stockholder's equity and not recognized in
income until the security is ultimately sold.
Based upon an evaluation performed as of September 30, 2008, the Company
recorded an impairment charge of $512 thousand related to fixed maturity bonds
of American General Finance (an AIG subsidiary) and Lehman Brothers Holdings
which were considered to be OTTI at September 30, 2008.
The Company has both the ability and intent to hold debt securities in an
unrealized loss position until such time as the value recovers or the
securities mature. Management believes that the unrealized losses on debt
securities at September 30, 2008 represent temporary impairments. Also, at
September 30, 2008, the Company held one marketable equity security that was
also in an unrealized loss position and the Company has the ability and intent
to hold this security until market recovery. Therefore, management has
determined that the unrealized loss on marketable equity securities at
September 30, 2008 is temporary.
Further deterioration in credit quality and/or the continuation of the current
imbalances in liquidity that exist in the financial marketplace might adversely
affect the fair values of the Company's investment portfolio and may increase
the potential that certain unrealized losses will be designated as other than
temporary in future periods and the Company would incur additional write-downs.
Deposits. The following table shows information concerning the Company's
average deposits by account type and weighted average nominal rates at which
interest was paid on such deposits for the periods ended September 30, 2008,
and December 31, 2007:
Nine Months Ended September 30, 2008 Year Ended December 31, 2007
------------------------------------ -------------------------------
Percent Percent
Average of Total Average Average of Total Average
Amount Deposits Rate Amount Deposits Rate
------- -------- ------- ------- -------- -------
(Dollars in thousands)
Non-time deposits:
Noninterest bearing deposits $ 51,257 15.7 - $ 49,727 15.5 -
NOW accounts 53,550 16.5 0.58% 55,046 17.2 0.85%
Money Market accounts 51,268 15.7 2.10% 51,470 16.0 2.65%
Savings accounts 40,059 12.3 0.48% 41,377 12.9 0.60%
-------- ----- ---- -------- ----- ----
Total non-time deposits 196,134 60.2 0.81% 197,620 61.6 1.05%
Time deposits:
Less than $100,000 81,319 25.0 3.35% 78,237 24.4 4.07%
$100,000 and over 48,298 14.8 3.88% 45,138 14.0 4.87%
-------- ----- ---- -------- ----- ----
Total time deposits 129,617 39.8 3.53% 123,375 38.4 4.37%
-------- ----- ---- -------- ----- ----
Total deposits $325,751 100.0 1.42% $320,995 100.0 2.33%
======== ----- ---- ======== ===== ====
The Company continues to see some slight erosion of nontime interest bearing
deposits, which is more than offset by growth in time deposits.
As a participant in the Certificate of Deposit Account Registry Service (CDARS)
of Promontory Interfinancial Network, LLC, there were $13.1 million of time
deposits $100,000 or less on the balance sheet at September 30, 2008 which are
considered to be "brokered" deposits. The deposits are matched dollar for
dollar with Union's customer deposits which have been placed in other financial
institutions in order to provide those customers with full FDIC insurance
coverage.
33
The following table sets forth information regarding the Company's time
deposits in amounts of $100,000 and over at September 30, 2008 and December 31,
2007 that mature during the periods indicated:
September 30, 2008 December 31, 2007
------------------ -----------------
(Dollars in thousands)
Within 3 months $15,333 $15,443
3 to 6 months 4,924 16,706
6 to 12 months 19,929 11,859
Over 12 months 11,453 2,135
------- -------
$51,639 $46,143
======= =======
The majority of time deposits held by municipalities and school districts
mature each year on June 30th which primarily explains the difference between
the 3 to 6 months category and the 6 to 12 months category from December 31,
2007 to September 30, 2008. The increase in time deposits over $100,000
maturing in over one year is mainly due to one municipal customer which opened
two certificates of deposit maturing during the first quarter of 2010 with
balances totaling $8.2 million as of September 30, 2008.
Borrowings. Borrowings from the FHLB of Boston were $27.6 million at September
30, 2008, at a weighted average rate of 4.31%, and $20.3 million at December
31, 2007, at a weighted average rate of 4.83%. Borrowings were up at September
30, 2008 as the Company took advantage of some medium term, low-rate advances
to fund increasing loan demand at lower interest rates and easier generation
than time deposits could be gathered, as well as to match fund a large new loan
relationship.
OTHER FINANCIAL CONSIDERATIONS
Market Risk and Asset and Liability Management. Market risk is the potential of
loss in a financial instrument arising from adverse changes in market prices,
interest rates, foreign currency exchange rates, commodity prices, and equity
prices. The Company's market risk arises primarily from interest rate risk
inherent in its lending, investing, deposit taking and borrowing activities as
yields on assets change in a different time period or in a different amount
from that of interest costs on liabilities. Many other factors also affect the
Company's exposure to changes in interest rates, such as general and local
economic and financial conditions, competitive pressures, customer preferences,
and historical pricing relationships.
The earnings of the Company and its subsidiary are affected not only by general
economic conditions, but also by the monetary and fiscal policies of the United
States and its agencies, particularly the Federal Reserve System. The monetary
policies of the Federal Reserve System influence to a significant extent the
overall growth of loans, investments, deposits and borrowings; the level of
interest rates earned on assets and paid for liabilities; and including
interest rates charged on loans and paid on deposits. The nature and impact of
future changes in monetary policies are often not predictable.
Recent developments in the U.S. and global financial and credit markets, as
well as U.S. government measures to address the situation, may also affect the
Company's exposure to market risk. See "RECENT DEVELOPMENTS" at page 13.
A key element in the process of managing market risk involves direct
involvement by senior management and oversight by the Board of Directors as to
the level of risk assumed by the Company in its balance sheet. The Board of
Directors reviews and approves all risk management policies, including risk
limits and guidelines and reviews quarterly the current position in
relationship to those limits and guidelines. Daily oversight functions are
delegated to the Asset Liability Management Committee ("ALCO"). The ALCO,
consisting of senior business and finance officers, actively measures,
monitors, controls and manages the interest rate risk exposure that can
significantly impact the Company's financial condition and operating results.
The ALCO sets liquidity targets based on the Company's financial position and
existing and projected economic and market conditions. The Company does not
have any market risk sensitive instruments acquired for trading purposes. The
Company attempts to structure its balance sheet to maximize net interest income
and shareholder value while controlling its exposure to interest rate risk.
Strategies might include selling or participating out loans held for sale or
investments available-for-sale.
34
The ALCO formulates strategies to manage interest rate risk by evaluating the
impact on earnings and capital of such factors as current interest rate
forecasts and economic indicators, potential changes in such forecasts and
indicators, liquidity, competitive pressures and various business strategies.
The ALCO's methods for evaluating interest rate risk include an analysis of the
Company's interest rate sensitivity "gap", which provides a static analysis of
the maturity and repricing characteristics of the Company's entire balance
sheet, and a simulation analysis, which calculates projected net interest
income based on alternative balance sheet and interest rate scenarios,
including "rate shock" scenarios involving immediate substantial increases or
decreases in market rates of interest.
Members of ALCO meet at least weekly to set loan and deposit rates, make
investment decisions, monitor liquidity and evaluate the loan demand pipeline.
Deposit runoff is monitored daily and loan prepayments evaluated monthly. The
Company historically has maintained a substantial portion of its loan portfolio
on a variable-rate basis and plans to continue this Asset/Liability Management
(ALM) strategy in the future. Portions of the variable-rate loan portfolio have
interest rate floors and caps which are taken into account by the Company's ALM
modeling software to predict interest rate sensitivity, including prepayment
risk. As of September 30, 2008, the investment portfolio is all classified as
available-for-sale and the modified duration was relatively short and there was
no investment in either Fannie Mae or Freddie Mac preferred or common stock or
in their subordinated debt. The Company does not utilize any derivative
products or invest in any "high risk" instruments.
The Company's interest rate sensitivity analysis (simulation) as of December
2007 for a 200 basis point declining rate environment (prime at December 31,
2007 was 7.25% and 5.00% at September 30, 2008) projected the following for the
nine months ended September 30, 2008, compared to the actual results:
September 30, 2008
--------------------------------------
Percentage
Projected Actual Difference
--------- ------ ----------
(Dollars in thousands)
Net Interest Income $12,355 $13,072 5.8%
Net Income $ 3,217 $ 3,761 16.9%
Return on Assets 1.11% 1.25% 12.6%
Return on Equity 10.32% 12.04% 16.7%
Actual net income is higher than projected mainly due to the higher actual net
interest income than projected as interest rates did not drop on January 1st as
an immediate shock would imply but the prime rate dropped 75 basis points to
6.5% on January 22, 2008, another 50 basis points to 6.0% on January 30, 2008,
a third drop of 75 basis points on March 18, 2008 to 5.25% and a fourth 25
basis point prime rate drop on April 30, 2008 to bring the Prime Rate down to
5.00%. Also, contributing to higher than expected net income was the gain on
sale of loans projected at $109 thousand and actual gain for the nine months
ending September 30, 2008 was $246 thousand. Proceeds from a Company owned life
insurance policy of $234 thousand during the third quarter of 2008 was
unanticipated. In addition, the federal rehabilitation tax credits received in
the first six months of 2008 of $195 thousand from late 2007 investments in
affordable housing partnerships had not been projected in the simulation.
Partially offsetting the above mentioned increases were a write down on
impaired securities available-for-sale of $512 thousand and write downs and
carrying costs of foreclosures and other real estate owned of $222 thousand
compared to the projected expense of $51 thousand.
Commitments, Contingent Liabilities, and Off-Balance Sheet Arrangements. The
Company is a party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers, to
reduce its own exposure to fluctuations in interest rates, and to implement its
strategic objectives. These financial instruments include commitments to extend
credit, standby letters of credit, interest rate caps and floors written on
adjustable-rate loans, commitments to participate in or sell loans, credit
enhancements on sold loans, and commitments to buy or sell securities,
certificates of deposit or other investment instruments. Such instruments
involve, to varying degrees, elements of credit and interest rate risk in
excess of the amount recognized on the balance sheet. The contract or notional
amounts of these instruments reflect the extent of involvement the Company has
in a particular class of financial instruments.
35
The Company's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual notional amount of
those instruments. The Company uses the same credit policies in making
commitments and conditional obligations as it does for on-balance-sheet
instruments. For interest rate caps and floors written on adjustable-rate
loans, the contract or notional amounts do not represent the Company's exposure
to credit loss. The Company controls the risk of interest rate cap agreements
through credit approvals, limits, and monitoring procedures.
The Company generally requires collateral or other security to support
financial instruments with credit risk. As of September 30, 2008 and December
31, 2007, the contract or notional amount of financial instruments that
represent credit risk was as follows:
September 30, 2008 December 31, 2007
------------------ -----------------
(Dollars in thousands)
Commitments to originate loans $ 9,288 $ 7,084
Unused lines of credit 37,924 35,784
Standby letters of credit 1,772 1,248
Credit card arrangements 1,648 1,633
Equity investment commitment to
housing limited partnership 214 214
FHLB of Boston MPF credit enhancement
obligation, net 62 -
Commitment to purchase treasury stock 43 -
Commitment to purchase interest
bearing deposits 98 -
------- -------
Total $51,049 $45,963
======= =======
Commitments to originate loans 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 and may
require payment of a fee. Since many of the loan commitments are expected to
expire without being drawn upon and not all credit lines will be utilized, the
total commitment amounts do not necessarily represent future cash requirements.
The Company's subsidiary bank is required (as are all banks) to maintain vault
cash or a noninterest bearing reserve balance (interest bearing as of October
1, 2008) as established by Federal Reserve regulations. The Bank's average
total reserve for the 14 day maintenance period including September 30, 2008
was $451 thousand and for December 31, 2007 was $387 thousand, both of which
were satisfied by vault cash. The Company has also committed to maintain a
noninterest bearing contracted clearing balance of $1.0 million at September
30, 2008 with the Federal Reserve Bank of Boston.
Interest Rate Sensitivity "Gap" Analysis. An interest rate sensitivity "gap" is
defined as the difference between interest earning assets and interest bearing
liabilities maturing or repricing within a given time period. A gap is
considered positive when the amount of interest rate sensitive assets exceeds
the amount of interest rate sensitive liabilities. A gap is considered negative
when the amount of interest rate sensitive liabilities exceeds the amount of
interest rate sensitive assets. During a period of rising interest rates, a
negative gap would tend to adversely affect net interest income, while a
positive gap would tend to result in an increase in net interest income. During
a period of falling interest rates, a negative gap would tend to result in an
increase in net interest income, while a positive gap would tend to affect net
interest income adversely. Because different types of assets and liabilities
with the same or similar maturities may react differently to changes in overall
market interest rates or conditions, changes in interest rates may affect net
interest income positively or negatively even if an institution were perfectly
matched in each maturity category.
The Company prepares its interest rate sensitivity "gap" analysis by scheduling
interest earning assets and interest bearing liabilities into periods based
upon the next date on which such assets and liabilities could mature or
reprice. The amounts of assets and liabilities shown within a particular period
were determined in accordance with the contractual terms of the assets and
liabilities, except that:
36
o adjustable-rate loans, investment securities, variable-rate time
deposits, and FHLB of Boston advances are included in the period when
they are first scheduled to adjust and not in the period in which they
mature;
o fixed-rate mortgage-related securities and loans reflect estimated
prepayments, which were estimated based on analyses of broker estimates,
the results of a prepayment model utilized by the Company, and empirical
data;
o other nonmortgage related fixed-rate loans reflect scheduled contractual
amortization, with no estimated prepayments; and
o NOW, money markets, and savings deposits, which do not have contractual
maturities, reflect estimated levels of attrition, which are based on
detailed studies by the Company of the sensitivity of each such category
of deposit to changes in interest rates.
Management believes that these assumptions approximate actual experience and
considers them reasonable. However, the interest rate sensitivity of the
Company's assets and liabilities in the tables could vary substantially if
different assumptions were used or actual experience differs from the
historical experience on which the assumptions are based.
The following table shows the Company's rate sensitivity analysis as of
September 30, 2008:
Cumulative repriced within
-------------------------------------------------------------------------
3 Months 4 to 12 1 to 3 3 to 5 Over 5
or Less Months Years Years Years Total
-------- ------- ------ ------ ------ -----
(Dollars in thousands, by repricing date)
Interest sensitive assets:
Federal funds sold and overnight deposits $ 3,637 $ - $ - $ - $ - $ 3,637
Interest bearing deposits in banks 5,594 3,460 3,633 2,262 - 14,949
Investment securities available-for-sale (1)(3) 1,170 3,422 8,349 4,465 9,959 27,365
FHLB Stock - - - - 1,922 1,922
Loans and loans held for sale (2)(3) 93,571 59,453 69,877 66,576 53,816 343,293
-------- ------- ------- -------- -------- --------
Total interest sensitive assets $103,972 $66,335 $81,859 $ 73,303 $ 65,697 $391,166
======== ======= ======= ======== ======== ========
Interest sensitive liabilities:
Time deposits $ 43,581 $66,432 $22,788 $ 3,045 $ - $135,846
Money markets 8,828 - - - 47,069 55,897
Regular savings 3,251 - - - 38,096 41,347
NOW accounts 17,660 - - - 41,689 59,349
Borrowed funds 223 680 3,592 7,310 15,835 27,640
-------- ------- ------- -------- -------- --------
Total interest sensitive liabilities $ 73,543 $67,112 $26,380 $ 10,355 $142,689 $320,079
======== ======= ======= ======== ======== ========
Net interest rate sensitivity gap $ 30,429 $ (777) $55,479 $ 62,948 $(76,992) $ 71,087
Cumulative net interest rate sensitivity gap $ 30,429 $29,652 $85,131 $148,079 $ 71,087
Cumulative net interest rate sensitivity gap
as a percentage of total assets 7.2% 7.0% 20.1% 35.0% 16.8%
Cumulative net interest rate sensitivity gap
as a percentage of total Interest
sensitive assets 7.8% 7.6% 21.8% 37.9% 18.2%
Cumulative net interest rate sensitivity gap
as a percentage of total Interest sensitive
liabilities 9.5% 9.3% 26.6% 46.3% 22.2%
37
--------------------
(1) Investment securities available-for-sale exclude marketable equity
securities with a fair value of $11 thousand and mutual funds with a
value of $41 thousand that may be sold by the Company at any time.
(2) Balances shown net of unearned income of $97 thousand.
(3) Estimated repayment assumptions considered in Asset/Liability model.
Simulation Analysis. In its simulation analysis, the Company uses computer
software to simulate the estimated impact on net interest income and capital
(Net Fair Value) under various interest rate scenarios, balance sheet trends,
and strategies over a relatively short time horizon. These simulations
incorporate assumptions about balance sheet dynamics such as loan and deposit
growth, product pricing, prepayment speeds on mortgage related assets,
principal maturities on other financial instruments, and changes in funding
mix. While such assumptions are inherently uncertain as actual rate changes
rarely follow any given forecast and asset-liability pricing and other model
inputs usually do not remain constant in their historical relationships,
management believes that these assumptions are reasonable. Based on the results
of these simulations, the Company is able to quantify its estimate of interest
rate risk and develop and implement appropriate strategies.
The following chart reflects the cumulative results of the Company's latest
simulation analysis for the next twelve months on net interest income, net
income, return on assets, return on equity and net fair value ratio. Shocks are
intended to capture interest rate risk under extreme conditions by immediately
shifting to the new level. The projection utilizes a proportional rate shock,
of up and down 300 basis points from the September 30, 2008 prime rate of
5.00%, this is the highest and lowest internal slopes monitored. This slope
range was determined to be the most relevant during this economic cycle. It
should be noted that given the low current prime rate and other key rates at
September 30, 2008, the floor rates on various loan and deposit rates may be
hit in the down 300 point environment which is handled by the simulation model.
What the model can not take into account is what rates the Company will be
pressured to accept on loans or pay on deposits given the competitive
environment of the financial markets.
INTEREST RATE SENSITIVITY ANALYSIS MATRIX
(Dollars in thousands)
Return on Return on Net Fair
12 Months Prime Net Interest Change Net Assets Equity Value
Ending Rate Income % Income % % Ratio
September-09 8.00% $21,114 15.33 $6,759 1.65 16.54 6.34%
5.00% $18,308 0.00 $4,874 1.15 11.76 8.19%
2.00% $15,189 (17.04) $2,777 0.58 6.11 9.27%
The resulting projected cumulative effect of these estimates on net interest
income and the net fair value ratio for the twelve month period ending
September 30, 2009, are within approved ALCO guidelines for interest rate risks
but the return on assets and equity in a down 300 basis point shock scenario
are lower than Board guidelines. The simulations of earnings do not incorporate
any management actions, which might moderate the negative consequences of
interest rate deviations. Therefore, they do not reflect likely actual results,
but serve as conservative estimates of interest rate risk under different rate
scenarios.
Liquidity. Managing liquidity risk is essential to maintaining both depositor
confidence and stability in earnings. Liquidity is a measurement of the
Company's ability to meet potential cash requirements, including ongoing
commitments to fund deposit withdrawals, repay borrowings, fund investment and
lending activities, and for other general business purposes. The Company's
principal sources of funds are deposits, amortization and prepayment of loans
and securities, maturities of investment securities and other short-term
investments, sales of securities and loans available-for-sale, earnings and
funds provided from operations. Maintaining a relatively stable funding base,
which is achieved by diversifying funding sources, competitively pricing
deposit products, and extending the contractual maturity of liabilities,
reduces the Company's exposure to rollover risk on deposits and limits reliance
on volatile short-term purchased funds. Short-term funding needs arise from
declines in deposits or other funding sources, funding of loan commitments,
draws on unused lines of credit and requests for new loans. The Company's
strategy is to fund assets, to the maximum extent possible, with core deposits
that provide a
38
sizable source of relatively stable and low-cost funds. For the quarter ended,
September 30, 2008, the Company's ratio of average loans to average deposits
was 99.2% compared to the prior year of 95.5%.
In addition, as Union Bank is a member of the FHLB of Boston, it had access to
unused lines of credit up to $3.7 million at September 30, 2008 over and above
the $27.6 million term advances already drawn on the lines, based on FHLB of
Boston estimate as of that date; with the purchase of required FHLB of Boston
capital stock that amount would rise to $50.1 million. This line of credit
could be used for either short or long term liquidity or other needs. In
addition to its borrowing arrangements with the FHLB of Boston, Union Bank
maintains a $7.5 million pre-approved Federal Funds line of credit with an
upstream correspondent bank and a small repurchase agreement line with a
selected brokerage house. There were no balances outstanding on either line at
September 30, 2008. Union is a member of the Certificate of Deposit Account
Registry Service ("CDARS") of Promontory Interfinancial Network which allows
Union to provide higher FDIC deposit insurance to customers by exchanging
deposits with other members and allows Union to purchase deposits from other
members as another source of funding. There were no purchased deposits at
either September 30, 2008 or December 31, 2007, although Union had exchanged
$13.1 million and $6.6 million of deposits, respectively, with other CDARS
members at those dates.
While scheduled loan and securities payments and FHLB of Boston advances are
relatively predictable sources of funds, deposit flows and prepayments on loans
and mortgage-backed securities are greatly influenced by general interest
rates, economic conditions, and competition. The Company's liquidity is
actively managed on a daily basis, monitored by the ALCO, and reviewed
periodically with the subsidiary's Board of Directors. The ALCO measures the
Company's marketable assets and credit available to fund liquidity requirements
and compares the adequacy of that aggregate amount against the aggregate amount
of the Company's interest sensitive or volatile liabilities, such as core
deposits and time deposits in excess of $100,000, borrowings and term deposits
with short maturities, and credit commitments outstanding. The primary
objective is to manage the Company's liquidity position and funding sources in
order to ensure that it has the ability to meet its ongoing commitment to its
depositors, to fund loan commitments and unused lines of credit, and to
maintain a portfolio of investment securities.
The Company's management monitors current and projected cash flows and adjusts
positions as necessary to maintain adequate levels of liquidity. Although
approximately 81.0% of the Company's time deposits will mature within twelve
months, management believes, based upon past experience, (percentage of time
deposits to mature within twelve months has ranged from 72.3% to 87.8% over the
preceding eight years) the relationships developed with local municipalities,
and the variety of deposit products, that Union Bank will retain a substantial
portion of these deposits. Management has started to see a trend for renewing
customers to place their funds in longer term certificates of deposit during
2008 as rates have continued to fall and the stock market has seen unparalleled
volatility. Management will continue to offer a competitive but prudent pricing
strategy to facilitate retention of such deposits. The proliferation of
certificate of deposit specials, the ever increasing utilization of the
internet to shop for the best rate and the general economic uncertainty have
contributed to the relatively slow growth of the Company's deposit base. A
reduction in total deposits could be offset by purchases of federal funds,
purchases of deposits, short-or-long-term FHLB borrowings, utilization of the
repurchase agreement line, or liquidation of investment securities, purchased
brokerage certificates of deposit or loans held for sale. Such steps could
result in an increase in the Company's cost of funds or a decrease in the yield
earned on assets and therefore adversely impact the net interest spread and
margin. Management believes the Company has sufficient liquidity to meet all
reasonable borrower, depositor, and creditor needs in the present economic
environment. However, any projections of future cash needs and flows are
subject to substantial uncertainty. Management continually evaluates
opportunities to buy/sell securities available-for-sale and loans held for
sale, obtain credit facilities from lenders, or restructure debt for strategic
reasons or to further strengthen the Company's financial position.
Capital Resources. Capital management is designed to maintain an optimum level
of capital in a cost-effective structure that meets target regulatory ratios;
supports management's internal assessment of economic capital; funds the
Company's business strategies; and builds long-term stockholder value.
Dividends are generally increased in line with long-term trends in earnings per
share growth and conservative earnings projections, while sufficient profits
are retained to support anticipated business growth, fund strategic investments
and provide continued support for deposits. However, for the three
39
months ended September 30, 2008, dividends per share exceeded earnings per
share resulting in a dividend payout ratio of 107.7% and to 100.0% for the nine
months ended September 30, 2008. The Company and its subsidiary are considered
well capitalized under the capital adequacy requirements to which they are
subject even with these payout ratios. The Company continues to evaluate growth
opportunities both through internal growth or potential acquisitions. The
higher dividend payouts and treasury stock purchases of the last few years
reflects the Board's desire to utilize our capital for the benefit of the
shareholders until the right opportunities are found.
The total dollar value of the Company's stockholders' equity at September 30,
2008 was down $891 thousand from December 31, 2007 at $42.1 million, reflecting
net income of $3.8 million for the first nine months of 2008, less cash
dividends paid of $3.8 million, the purchase of 19,328 shares of Treasury stock
totaling $387 thousand, and an increase of $496 thousand in accumulated other
comprehensive loss.
Union Bankshares, Inc. has 7,500,000 shares of $2.00 par value common stock
authorized. As of September 30, 2008, the Company had 4,921,786 shares issued,
of which 4,483,641 were outstanding and 438,145 were held in Treasury.
The Board of Directors has authorized the repurchase of up to 100,000 shares of
common stock, or approximately 2.2% of the Company's outstanding shares at the
authorization date, for an aggregate repurchase cost not to exceed $2.15
million. Shares can be repurchased in the open market or in negotiated
transactions. The repurchase program is open for an unspecified period of time
and was reauthorized by the Board of Directors at their March 19, 2008 meeting.
As of September 30, 2008 the Company had repurchased 19,328 shares under this
program, for a total cost of $387 thousand during the first nine months of
2008, and 77,197 shares at a total cost of $1.6 million since the inception of
the program in November 2005.
As of September 30, 2008, there were outstanding employee incentive stock
options with respect to shares of the Company's common stock, granted pursuant
to Union Bankshares' 1998 Incentive Stock Option Plan. As of such date, 10,000
options for 10,000 shares were currently exercisable; however none of those
options were "in the money". Of the 75,000 shares authorized for issuance under
the 1998 Plan, 42,200 shares that had been available for future option grants
were taken out of reserve when the 1998 Plan expired in May 2008. During the
third quarter of 2008, 3,500 of these options lapsed as a retired executive
officer chose not to exercise the options since none were "in the money." A new
plan called the 2008 Incentive Stock Option Plan of Union Bankshares, Inc. and
Subsidiary was approved by the shareholders at the 2008 annual meeting. The
stock to be issued upon exercise of options granted under this Plan consists of
authorized but unissued shares of the common stock and/or shares held in
treasury. Subject to standard anti-dilution adjustments the aggregate number of
shares of common stock that may be delivered upon exercise of all options
granted under the Plan may not exceed fifty thousand (50,000) shares. The
Corporation will at all times reserve and keep available such number of shares
of common stock as shall be sufficient to satisfy the requirements of the Plan.
During the third quarter of 2008, no incentive stock options were granted or
exercised pursuant to either the 2008 or the 1998 plans.
Union Bankshares, Inc. and Union Bank are subject to various regulatory capital
requirements administered by the federal banking agencies. Management believes,
as of September 30, 2008, that both companies met all capital adequacy
requirements to which they are subject. As of September 30, 2008, the most
recent calculation categorizes Union Bank as well capitalized under the
regulatory framework for prompt corrective action. The prompt corrective action
capital category framework applies to FDIC insured depository institutions such
as Union but does not apply directly to bank holding companies such as the
Company. To be categorized as well capitalized, Union Bank must maintain
minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set
forth in the table below. As a bank holding company, the Company is subject to
substantially similar capital adequacy requirements of the Federal Reserve
Board.
There are no conditions or events between September 30, 2008 and November 7,
2008 that management believes have changed either company's category.
40
Union Bank's and the Company's actual capital amounts and ratios as of
September 30, 2008, are presented in the following table:
Minimums
To Be Well
Minimums Capitalized Under
For Capital Prompt Corrective
Actual Requirements Action Provisions
----------------- ---------------- ------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in thousands)
Total capital to risk weighted assets
Union Bank $45,783 15.7% $23,374 8.0% $29,217 10.0%
Company $46,527 15.9% $23,425 8.0% N/A N/A
Tier I capital to risk weighted assets
Union Bank $42,343 14.5% $11,681 4.0% $17,521 6.0%
Company $43,078 14.7% $11,714 4.0% N/A N/A
Tier I capital to average assets
Union Bank $42,343 10.2% $16,556 4.0% $20,696 5.0%
Company $43,078 10.9% $15,823 4.0% N/A N/A
Regulatory Matters. The Company and Union are subject to periodic examinations
by the various regulatory agencies. These examinations include, but are not
limited to, procedures designed to review lending practices, risk management,
credit quality, liquidity, compliance and capital adequacy. During 2008, the
Vermont State Department of Banking performed an examination of Union Bank
pursuant to their regular, periodic regulatory reviews. No comments were
received from these various bodies that would have a material adverse effect on
the Company's liquidity, financial position, capital resources, or results of
operations.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Information called for by this item is incorporated by reference in
Management's Discussion and Analysis of Financial Condition and Results of
Operations under the caption "OTHER FINANCIAL CONSIDERATIONS" on pages 34
through 38 in this Form 10-Q.
Item 4T. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures. The Company's chief executive
officer and chief financial officer, with the assistance of the Disclosure
Control Committee, evaluated the effectiveness of the design and operation of
the Company's disclosure controls and procedures (as defined in Rule 13a-15(e)
under the Exchange Act) as of September 30, 2008. Based on this evaluation they
concluded that those disclosure controls and procedures are effective to ensure
that information required to be disclosed by the Company in the reports that it
files or submits under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the Securities and Exchange
Commission's rules and forms. Disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that information
required to be disclosed by the Company in the reports that it files with the
Commission is accumulated and communicated to the Company's management,
including its principal executive and principal financial officer, or persons
performing similar functions, as appropriate to allow timely decisions
regarding required information.
Changes in Internal Controls over Financial Reporting. There was no change in
the Company's internal control over financial reporting, as defined in Rule
13a-15(f) of the Exchange Act, during the most recent fiscal quarter that has
materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting.
41
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
There are no known pending legal proceedings to which the Company or its
subsidiary is a party, or to which any of their properties is subject, other
than ordinary litigation arising in the normal course of business activities.
Although the amount of any ultimate liability with respect to such proceedings
cannot be determined, in the opinion of management, any such liability would
not have a material effect on the consolidated financial position or results of
operations of the Company and its subsidiary.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
ISSUER PURCHASES OF EQUITY SECURITIES
-------------------------------------
Maximum Number of
Shares that May Yet Be
Total Numbers of Shares Purchased Purchased Under
Total Number of Average Price as Part of Publicly Announced Plans the Plans or
Period Shares Purchased Paid per Share or Programs (1) Programs
-------------- ---------------- -------------- ----------------------------------- ----------------------
July 2008 - $ - - 27,984
August 2008 1,481 $20.46 1,481 26,503
September 2008 3,700 $20.49 3,700 22,803
(1) Since November 18, 2005, the Company has maintained an informal stock repurchase program pursuant to which the
Company may repurchase up to $2.15 million or 100,000 shares of common stock, or approximately 2.2% of the
Company's outstanding shares as of the authorization date. Shares can be repurchased in the open market or in
negotiated transactions. The repurchase program is open for an unspecified period of time and as such was
reauthorized by the Board of Directors at their March 19, 2008 meeting. As of September 30, 2008 the Company had
repurchased 19,328 shares under this program for a total cost of $387 thousand during 2008. Since inception of the
program, the Company has repurchased 77,197 shares at a total cost of $1.6 million.
Item 6. Exhibits.
31.1 Certification of the Chief Executive Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of the Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of the Chief Executive Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of the Chief Financial Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
42
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized.
Union Bankshares, Inc.
November 7, 2008 /s/ Kenneth D. Gibbons
-------------------------------------
Kenneth D. Gibbons
Director, President and
Chief Executive Officer
November 14, 2008 /s/ Marsha A. Mongeon
-------------------------------------
Marsha A. Mongeon
Chief Financial Officer and Treasurer
(Principal Financial Officer)
EXHIBIT INDEX
31.1 Certification of the Chief Executive Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of the Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of the Chief Executive Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of the Chief Financial Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
43