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, 2007
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
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 or a non-accelerated filer. (See definition of "accelerated
filer and large accelerated filer", in Rule 12b-2 of the Exchange Act). (Check
One):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X]
Indicate by a check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act). Yes _____ No __X__
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of
November 2, 2007:
Common Stock, $2 par value 4,507,308 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. 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 37
Item 4. Controls and Procedures. 37
PART II OTHER INFORMATION
Item 1. Legal Proceedings. 37
Item 1A. Risk Factors. 37
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 37
Item 6. Exhibits. 38
Signatures 38
2
Part l Financial Information
Item 1. Financial Statements
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(Unaudited)
September 30, December 31,
2007 2006
---- ----
Assets (Dollars in thousands)
Cash and due from banks $ 12,061 $ 11,694
Federal funds sold and overnight deposits 9,151 9,263
-------- --------
Cash and cash equivalents 21,212 20,957
Interest bearing deposits in banks 10,634 5,417
Investment securities available-for-sale 34,270 23,682
Loans held for sale 4,220 3,750
Loans 311,368 313,822
Allowance for loan losses (3,396) (3,338)
Unearned net loan fees (105) (120)
-------- --------
Net loans 307,867 310,364
Accrued interest receivable 1,918 2,001
Premises and equipment, net 6,293 6,080
Other assets 11,077 8,898
-------- --------
Total assets $397,491 $381,149
======== ========
Liabilities and Stockholders' Equity
Liabilities
Deposits
Noninterest bearing $ 54,890 $ 54,875
Interest bearing 278,532 264,947
-------- --------
Total deposits 333,422 319,822
Borrowed funds 14,618 14,596
Liability for pension benefits 1,589 1,317
Accrued interest and other liabilities 5,941 3,491
-------- --------
Total liabilities 355,570 339,226
-------- --------
Commitments and Contingencies
Stockholders' Equity
Common stock, $2.00 par value; 7,500,00 shares authorized
at 9/30/07 and 5,000,000 at 12/31/06; 4,918,611 shares
issued at 9/30/07 and 12/31/06 9,837 9,837
Paid-in capital 157 150
Retained earnings 35,543 35,203
Treasury stock at cost; 404,395 shares at 9/30/07 and 386,634
at 12/31/06 (2,639) (2,264)
Accumulated other comprehensive loss (977) (1,003)
-------- --------
Total stockholders' equity 41,921 41,923
-------- --------
Total liabilities and stockholders' equity $397,491 $381,149
======== ========
See accompanying notes to the unaudited consolidated financial statements.
3
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three Months Ended Nine Months Ended
------------------ -----------------
September 30, September 30,
2007 2006 2007 2006
---- ---- ---- ----
(Dollars in thousands except Per Share Data)
Interest income
Interest and fees on loans $ 6,115 $ 6,122 $ 17,959 $ 17,427
Interest on debt securities
Taxable 275 188 766 721
Tax exempt 59 47 155 145
Dividends 25 49 82 94
Interest on federal funds sold and overnight deposits 132 67 312 110
Interest on interest bearing deposits in banks 128 61 324 208
--------- --------- --------- ---------
Total interest income 6,734 6,534 19,598 18,705
--------- --------- --------- ---------
Interest expense
Interest on deposits 1,941 1,532 5,606 4,176
Interest on borrowed funds 182 287 551 700
--------- --------- --------- ---------
Total interest expense 2,123 1,819 6,157 4,876
--------- --------- --------- ---------
Net interest income 4,611 4,715 13,441 13,829
Provision for loan losses 190 - 235 150
--------- --------- --------- ---------
Net interest income after provision for loan losses 4,421 4,715 13,206 13,679
--------- --------- --------- ---------
Noninterest income
Trust income 94 74 261 219
Service fees 866 787 2,516 2,280
Net gains on sales of investment securities 30 5 67 22
Net gains on sales of loans held for sale 48 108 98 227
Other income 45 19 211 194
--------- --------- --------- ---------
Total noninterest income 1,083 993 3,153 2,942
--------- --------- --------- ---------
Noninterest expenses
Salaries and wages 1,565 1,536 4,692 4,541
Pension and employee benefits 541 541 1,721 1,670
Occupancy expense, net 186 184 620 585
Equipment expense 278 269 821 786
Other expenses 1,004 893 2,941 2,689
--------- --------- --------- ---------
Total noninterest expense 3,574 3,423 10,795 10,271
--------- --------- --------- ---------
Income before provision for income taxes 1,930 2,285 5,564 6,350
Provision for income taxes 508 623 1,421 1,681
--------- --------- --------- ---------
Net income $ 1,422 $ 1,662 $ 4,143 $ 4,669
========= ========= ========= =========
Earnings per common share $ 0.32 $ 0.37 $ 0.92 $ 1.03
========= ========= ========= =========
Weighted average number of common
shares outstanding 4,518,204 4,540,740 4,526,243 4,541,022
========= ========= ========= =========
Dividends per common share $ 0.28 $ 0.26 $ 0.84 $ 0.78
========= ========= ========= =========
See accompanying notes to the unaudited 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, 2006 4,531,977 $9,837 $150 $35,203 $(2,264) $(1,003) $41,923
Comprehensive income:
Net income - - - 4,143 - - 4,143
Change in net unrealized loss on
investment securities
available-for-sale, net of
reclassification adjustment and
tax effects - - - - - 13 13
Net change in unfunded liability
for pension benefits, net of tax - - - - - 13 13
-------
Total comprehensive income 4,169
-------
Cash dividends declared
($0.84 per share) - - - (3,803) - - (3,803)
Issuance of stock options - - 7 - - - 7
Purchase of treasury stock (17,761) - - - (375) - (375)
--------- ------ ---- ------- ------- ------- -------
Balances, September 30, 2007 4,514,216 $9,837 $157 $35,543 $(2,639) $ (977) $41,921
========= ====== ==== ======= ======= ======= =======
See accompanying notes to the unaudited consolidated financial statements.
5
UNION BANKSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
------------------------------
September 30, September 30,
2007 2006
---- ----
(Dollars in thousands)
Cash Flows From Operating Activities
Net Income $ 4,143 $ 4,669
Adjustments to reconcile net income to net cash
provided by operating activities
Depreciation 570 585
Provision for loan losses 235 150
Credit for deferred income taxes (236) (109)
Net amortization of investment securities 11 55
Equity in losses of limited partnerships 199 231
Issuance of stock options 7 7
Write-downs of other real estate owned 72 -
Decrease in unamortized loan fees (15) (26)
Proceeds from sales of loans held for sale 13,405 15,476
Origination of loans held for sale (13,777) (11,127)
Net gains on sales of loans held for sale (98) (227)
Net gains on sales of investment securities (67) (22)
Net losses (gains) on disposals of premises and equipment 1 (6)
Net gains on sales of repossessed property (4) -
Net gains on sales of other real estate owned (44) -
Decrease in accrued interest receivable 83 101
Increase in other assets (778) (341)
Increase in income taxes 23 153
Increase in accrued interest payable 181 289
Increase in other liabilities 1,498 716
-------- --------
Net cash provided by operating activities 5,409 10,574
-------- --------
Cash Flows From Investing Activities
Interest bearing deposits in banks
Maturities and redemptions 1,183 2,788
Purchases (6,400) (297)
Investment securities available-for-sale
Sales 546 7,594
Maturities, calls and paydowns 1,811 3,321
Purchases (12,870) (954)
Net redemption (purchase) of Federal Home Loan Bank stock 82 (443)
Net decrease (increase) in loans 1,883 (15,156)
Recoveries of loans charged off 33 152
Purchases of premises and equipment (806) (683)
Investments in limited partnerships (361) (347)
6
Nine Months Ended
------------------------------
September 30, September 30,
2007 2006
---- ----
(Dollars in thousands)
Proceeds from sales of other real estate owned 255 -
Proceeds from sales of premises and equipment 22 9
Proceeds from sales of repossessed property 24 15
-------- --------
Net cash used in investing activities (14,598) (4,001)
-------- --------
Cash Flows From Financing Activities
Net increase in borrowings outstanding 22 2,819
Net increase (decrease) in noninterest bearing deposits 15 (2,125)
Net increase (decrease) in interest bearing deposits 13,585 (2,242)
Purchase of treasury stock (375) (42)
Dividends paid (3,803) (3,542)
-------- --------
Net cash provided by (used) in financing activities 9,444 (5,132)
-------- --------
Increase in cash and cash equivalents 255 1,441
Cash and cash equivalents
Beginning 20,957 14,208
-------- --------
Ending $ 21,212 $ 15,649
======== ========
Supplemental Disclosures of Cash Flow Information
Interest paid $ 5,976 $ 4,588
======== ========
Income taxes paid $ 1,635 $ 1,685
======== ========
Supplemental Schedule of Noncash Investing and
Financing Activities
Change in net unrealized losses on investment securities
available-for-sale $ 20 $ (90)
======== ========
Change in unfunded liability for pension benefits for
amortization $ 20 $ -
======== ========
Other real estate acquired in settlement of loans $ 547 $ 177
======== ========
Repossessed property acquired in settlement of loans $ 79 $ 15
======== ========
Investment in limited partnerships acquired by capital
contributions payable $ 1,397 $ -
======== ========
Loans originated to finance the sale of other real estate owned $ 115 $ -
======== ========
See accompanying notes to the unaudited consolidated financial statements.
7
UNION BANKSHARES, INC. AND SUBSIDIARY
Note 1. Basis of Presentation
The accompanying interim unaudited consolidated financial statements of Union
Bankshares, Inc. (the Company) as of September 30, 2007 and 2006, and for the
three and nine months then ended have been prepared in conformity with U.S.
generally accepted accounting principles (GAAP), 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, 2006. 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 2006 Annual Report
to Shareholders, 2006 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, 2007, or any other interim period.
Certain amounts in the 2006 consolidated financial statements have been
reclassified to conform to the 2007 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 stock options does
not result in material dilution.
Note 4. New Accounting Pronouncements
In November, 2007, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 109, Written Loan Commitments Recorded at Fair Value
Through Earnings ("SAB 109"), which supersedes Staff Accounting Bulletin No.
105, Application of Accounting Principles to Loan Commitments. SAB 109
expresses the current view of the SEC staff that the expected net future cash
flows related to the servicing of loan commitments should be included in the
measurement of all written loan commitments that are accounted for at fair
value through earnings, whether accounted for as derivatives under Statement of
Financial Accounting Standard (SFAS) No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended by SFAS No. 149, Amendment of
Statement 133 on Derivative Instruments and Hedging Activities, or accounted
for at fair value under SFAS No. 159. SAB 109 also expresses the SEC staff's
view that internally-developed intangible assets, such as customer relationship
intangibles, should not be recorded as part of the fair value of any written
loan commitment accounted for at fair value through earnings, whether under
SFAS 133 or SFAS 159. SAB 109 is effective for loan commitments issued or
modified by the Company beginning on January 1, 2008. The Company is currently
assessing the financial statement impact, if any, that SAB 109 may have on the
Company.
In February 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No. 159, The Fair Value Option for Financial Assets and Financial Liabilities.
This Statement permits entities to choose to measure many financial instruments
and certain other items at fair value that are not currently required to be
measured at fair value. The objective is to improve financial reporting by
providing entities with the opportunity to mitigate volatility in reported
earnings caused by measuring related assets and liabilities differently without
having to apply complex hedge accounting provisions. This Statement also
establishes presentation and disclosure requirements designed to facilitate
comparisons between entities that choose different measurement attributes for
similar types of assets and liabilities. This Statement does not affect any
existing accounting literature that requires certain assets and liabilities to
be carried at fair value. This Statement does not establish requirements for
recognizing and measuring dividend income, interest income, or interest
expense. This Statement does not eliminate disclosure requirements included in
other accounting standards, including requirements for disclosures about fair
value measurements included in SFAS No. 157, Fair Value Measurements, and No.
107, Disclosures about Fair Value of Financial
8
Instruments. This Statement is effective prospectively for financial statements
issued for fiscal years beginning after November 15, 2007. The Company is
currently evaluating the impact of this new standard on the Company's
consolidated financial statements but does not expect that such impact will be
material.
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. This
statement defines fair value, establishes a framework for measuring fair value
in GAAP, and expands disclosures about fair value measurements. This Statement
applies under other accounting pronouncements that require or permit fair value
measurements. Accordingly, this Statement does not require any new fair value
measurements. However, for some entities, the application of this Statement
will change current practice. This Statement is effective for financial
statements issued for fiscal years beginning after November 15, 2007, and
interim periods within those fiscal years. The Company is currently evaluating
the impact of this new standard to determine its effects on the Company's
consolidated financial statements but does not expect that such impact will be
material.
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing of
Financial Assets, an amendment of SFAS No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, with respect
to the accounting for separately recognized servicing assets and servicing
liabilities. The Statement requires an entity to recognize a servicing asset or
servicing liability each time it undertakes an obligation to service a
financial asset by entering into a servicing contract in certain situations. It
requires all separately recognized servicing assets and liabilities to be
initially measured at fair value, if practicable. It permits an entity to
choose either the amortization method or the fair value measurement method for
each class of separately recognized servicing assets and liabilities and
requires additional disclosures in the financial statements under the fair
value measurement method. The Company adopted SFAS No.156 effective January 1,
2007 and will continue with the amortization method of accounting for servicing
rights, which has no additional impact on the Company's financial position or
results of operations.
Note 5. Defined Benefit Pension Plan
Union Bank (Union), the Company's bank 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, 2007 and 2006, consisted of the following components:
Three Months Ended Nine Months Ended
------------------ -----------------
2007 2006 2007 2006
---- ---- ---- ----
(Dollars in thousands)
Service cost $ 130 $ 129 $ 389 $ 371
Interest cost on projected benefit obligation 150 131 452 406
Expected return on plan assets (150) (122) (451) (364)
Amortization of prior service cost 2 1 5 4
Amortization of net loss 6 21 16 63
----- ----- ----- -----
Net periodic benefit cost $ 138 $ 160 $ 411 $ 480
===== ===== ===== =====
Note 6. Other Comprehensive Loss
The components of other comprehensive loss and related tax effects for the
three and nine months ended September 30, 2007 and 2006, are as follows:
Three Months Ended Nine Months Ended
------------------ -----------------
2007 2006 2007 2006
---- ---- ---- ----
(Dollars in thousands)
Unrealized holding losses (gains) on
investment securities available-for-sale $311 $ 327 $ 87 $(69)
Reclassification adjustment for net gains
realized in income (30) (5) (67) (22)
---- ----- ---- ----
Net unrealized losses (gains) 281 322 20 (91)
Tax effect (96) (109) (7) 31
---- ----- ---- ----
Net of tax amount $185 $ 213 $ 13 $(60)
==== ===== ==== ====
9
Three Months Ended Nine Months Ended
------------------ -----------------
2007 2006 2007 2006
---- ---- ---- ----
(Dollars in thousands)
Unfunded liability for pension benefits
reclassification adjustment for amortization
per FAS 158 recognized in income $20 $ - $20 $ -
Tax effect (7) - (7) -
--- ---- --- ----
Net of tax amount $13 $ - $13 $ -
=== ==== === ====
Note 7. Income Taxes
The Company adopted the provisions of FASB Interpretation No. 48, Accounting
for Uncertainty in Income Taxes - an interpretation of SFAS No. 109 (FIN 48),
on January 1, 2007. FIN 48 clarifies the accounting for uncertainty in income
taxes recognized in an enterprise's financial statements in accordance with
SFAS No. 109, Accounting for Income Taxes, and prescribes a recognition
threshold and measurement process for financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return.
FIN 48 also provides guidance on derecognition, classification, interest and
penalties, accounting in interim periods, disclosure and transition.
Based on management's evaluation, management has concluded that there are no
significant uncertain tax positions requiring recognition in the Company's
financial statements. Although the Company is not currently the subject of a
tax audit by the Internal Revenue Service (IRS), the Company's tax years ending
December 31, 2003 through 2006 are open to audit by the IRS under the
applicable statute of limitations.
The Company may from time to time be assessed interest and/or penalties by
federal or state tax jurisdictions, although any such assessments historically
have been minimal and immaterial to the Company's financial results. In the
event that the Company receives an assessment for interest and/or penalties, it
will be classified in the financial statements as other expenses.
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's) financial
position as of September 30, 2007, and as of December 31, 2006, and its results
of operations for the three and nine months ended September 30, 2007 and 2006.
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, 2006. In the opinion of 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 after
September 30, 2007, 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 other written materials, and in statements
made by senior management to analysts, rating agencies, institutional
investors, representatives of the media and others.
10
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 developments in general economic or business conditions 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
their effects on the Company or its customers;
o changes in the competitive environment for financial services
organizations, including increased competition from tax-advantaged credit
unions and out-of-market competitors offering financial services over the
internet;
o the Company's ability to attract and retain key personnel;
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 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;
o illegal acts of theft or fraud perpetuated against the 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.
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 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.
11
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, rate of increase in compensation levels,
anticipated service periods and retirement dates. The 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
Company's results of operation and financial condition, including the valuation
of deferred tax assets and of investment securities. 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 $1.42 million for the quarter ended September 30,
2007, compared with net income of $1.66 million for the same period in 2006, or
a 14.4% decrease between years. The Company faced a challenging interest rate
environment, and although total interest income increased by $200 thousand, or
3.1% in 2007 versus the third quarter of 2006, this increase was more than
offset by an increase in interest expense of $304 thousand, or 16.7% between
periods. The interest rate environment throughout 2006 and 2007 has proved
challenging. The prime rate was 7.25% as of December 31, 2005, and during 2006
rose twice in the first quarter and twice in the second quarter, by 25 basis
points each time, to reach 8.25% at June 29, 2006, where it remained until
September 18, 2007, when it dropped to 7.75%. This decline was in response to
the Federal Reserve's 50 basis point drop in both the target federal funds rate
and the discount rate. Toward the end of the second quarter of 2007, the yield
curve had started to trend toward a positive bias with short term interest
rates being lower than long term rates for the first time since August, 2006,
but it moved back to flat and slightly inverted during
12
the third quarter of 2007. During the third quarter of 2007, the Company's net
interest margin decreased 29 basis points to 5.16%, from 5.45% for the third
quarter of 2006, and decreased 22 basis points to 5.18% for the first nine
months of 2007 compared to 5.40% for the same period last year. The Company's
net interest spread declined 34 basis points to 4.58% for the third quarter of
2007, compared to 4.92% for the 2006 comparison period, and declined 33 basis
points to 4.60% for the first nine months of 2007, compared to 4.93% for the
same period last year. The decline in the net interest spread was primarily the
result of average interest rates paid on time and money market deposits rising
as traditional and non-traditional financial institutions and tax exempt credit
unions in the Company's market compete aggressively for core deposit dollars,
resulting in pricing pressures. 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 $381.1 million at December 31, 2006,
to $397.5 million at September 30, 2007, an increase of $16.4 million, or 4.3%.
Deposits increased from $319.8 million at December 31, 2006 to $333.4 million
at September 30, 2007, an increase of $13.6 million, or 4.3%. Total loans
including loans held for sale decreased $2.0 million, or 0.6% from $317.6
million at December 31, 2006 to $315.6 million at September 30, 2007.
Noninterest income is up $90 thousand, or 9.1%, to $1.1 million for the third
quarter of 2007 versus $1.0 million for 2006, due to increases in numerous
categories, but was partially offset by lower gains on sales of loans held for
sale. Noninterest expenses are up $151 thousand, or 4.4% for the third quarter
of 2007 to $3.57 million from $3.42 million for the third quarter of 2006,
primarily due to the costs to bring or maintain properties in other real estate
owned.
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, 2007 and 2006, respectively:
Three Months Ended Nine Months Ended
------------------ -----------------
September 30, September 30,
------------------ -----------------
2007 2006 2007 2006
---- ---- ---- ----
Return on average assets (ROA) (1) 1.46% 1.77% 1.45% 1.67%
Return on average equity (ROE) (1) 13.71% 15.83% 13.29% 14.93%
Net interest margin (1)(2) 5.16% 5.45% 5.18% 5.40%
Efficiency ratio (3) 62.01% 58.91% 64.15% 60.33%
Net interest spread (4) 4.58% 4.92% 4.60% 4.93%
Average loan to average deposit ratio 95.47% 102.85% 97.20% 100.88%
Net loan charge-offs (recoveries) to average loans
not held for sale (1) 0.16% (0.11%) 0.08% (0.04%)
Allowance for loan losses to loans not
held for sale 1.09% 1.05% 1.09% 1.05%
Non-performing assets to total assets 0.96% 1.22% 0.96% 1.22%
Equity to assets 10.55% 11.37% 10.55% 11.37%
Total capital to risk weighted assets 16.82% 17.54% 16.82% 17.54%
Book value per share $9.29 $9.39 $9.29 $9.39
Earnings per share $0.32 $0.37 $0.92 $1.03
Dividends paid per share $0.28 $0.26 $0.84 $0.78
Dividend payout ratio (5) 87.50% 70.27% 91.30% 75.73%
--------------------
(1) Annualized
(2) The ratio of tax equivalent net interest income to average earning assets.
(3) The ratio of noninterest expense to net interest income plus 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.
13
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 $104
thousand, or 2.2%, to $4.61 million for the three months ended September 30,
2007, from $4.72 million for the three months ended September 30, 2006. The net
interest spread decreased 34 basis points to 4.58% for the three months ended
September 30, 2007, from 4.92% for the three months ended September 30, 2006.
As money market and time deposit "specials" abounded throughout the market
place, interest rates paid to attract these deposits moved up more quickly than
rates earned on loans and other earning assets. Also, the continuing inversion
of the yield curve has contributed to the decrease as the majority of deposits
are short term in nature compared to the longer duration of the majority of
interest bearing assets. The net interest margin for the third quarter of 2007
decreased 29 basis points to 5.16% from the 2006 period at 5.45%. Another
decrease in the prime rate would not necessarily be beneficial to the Company
in the near term, 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 interest-earning assets and
the related average yields, the interest expense associated with
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 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.
14
Three months ended September 30,
-----------------------------------------------------------------------
2007 2006
--------------------------------- ---------------------------------
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 $ 10,261 $ 131 5.01% $ 5,064 $ 67 5.16%
Interest bearing deposits in banks 10,521 128 4.82% 6,261 61 3.90%
Investment securities (1), (2) 29,041 338 5.00% 22,949 243 4.62%
Loans, net (1), (3) 311,071 6,115 7.89% 315,648 6,122 7.80%
FHLB of Boston stock 1,385 22 6.34% 1,638 41 9.80%
-------- ------ ---- -------- ------ ----
Total interest-earning assets (1) 362,279 6,734 7.48% 351,560 6,534 7.49%
Cash and due from banks 10,468 10,555
Premises and equipment 6,179 6,070
Other assets 9,727 7,878
-------- --------
Total assets $388,653 $376,063
======== ========
Average Liabilities and Stockholders' Equity:
NOW accounts $ 56,034 $ 119 0.84% $ 52,850 $ 94 0.71%
Savings/money market accounts 92,405 415 1.78% 99,872 420 1.67%
Time deposits 126,931 1,407 4.40% 104,637 1,018 3.86%
Borrowed funds 14,479 182 4.93% 22,668 287 4.95%
-------- ------ ---- -------- ------ ----
Total interest bearing liabilities 289,849 2,123 2.90% 280,027 1,819 2.57%
Noninterest bearing deposits 50,456 49,532
Other liabilities 6,874 4,507
-------- --------
Total liabilities 347,179 334,066
Stockholders' equity 41,474 41,997
-------- --------
Total liabilities and
stockholders' equity $388,653 $376,063
======== ========
Net interest income $4,611 $4,715
====== ======
Net interest spread (1) 4.58% 4.92%
==== ====
Net interest margin (1) 5.16% 5.45%
==== ====
--------------------
(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.
15
Nine months ended September 30,
-----------------------------------------------------------------------
2007 2006
--------------------------------- ---------------------------------
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 $ 8,046 $ 312 5.10% $ 2,952 $ 110 4.91%
Interest bearing deposits in banks 9,236 324 4.69% 7,157 208 3.89%
Investment securities (1), (2) 26,948 931 4.94% 26,924 886 4.71%
Loans, net (1), (3) 309,432 17,959 7.86% 310,815 17,427 7.59%
FHLB of Boston stock 1,391 72 6.85% 1,508 74 6.49%
-------- ------- ---- -------- ------- ----
Total interest earning assets (1) 355,053 19,598 7.49% 349,356 18,705 7.26%
Cash and due from banks 10,280 10,229
Premises and equipment 6,122 6,100
Other assets 9,338 7,899
-------- --------
Total assets $380,793 $373,584
======== ========
Average Liabilities and Stockholders' Equity:
NOW accounts $ 53,100 $ 321 0.81% $ 52,258 $ 267 0.68%
Savings/money market accounts 93,605 1,241 1.77% 103,734 1,242 1.60%
Time deposits 123,161 4,044 4.39% 103,662 2,667 3.44%
Borrowed funds 14,765 551 4.92% 19,529 700 4.73%
-------- ------- ---- -------- ------- ----
Total interest bearing liabilities 284,631 6,157 2.89% 279,183 4,876 2.33%
Non-interest bearing deposits 48,475 48,457
Other liabilities 6,115 4,252
-------- --------
Total liabilities 339,221 331,892
Stockholders' equity 41,572 41,692
-------- --------
Total liabilities and
stockholders' equity $380,793 $373,584
======== ========
Net interest income $13,441 $13,829
======= =======
Net interest spread (1) 4.60% 4.93%
==== ====
Net interest margin (1) 5.18% 5.40%
==== ====
--------------------
(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 tables describe the extent to which changes
in interest rates and changes in volume of interest-earning assets and
interest-bearing liabilities have affected the Company's interest income and
interest expense during the periods 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.
Changes attributable to both rate and volume have been allocated
proportionately to the change due to volume and the change due to rate.
16
Three Months Ended September 30, 2007
Compared to
Three Months Ended September 30, 2006
Increase/(Decrease) Due to Change In
-------------------------------------
Volume Rate Net
------ ---- ---
(Dollars in thousands)
Interest earning assets:
Federal funds sold and overnight deposits $ 66 $ (2) $ 64
Interest bearing deposits in banks 49 18 67
Investment securities 73 22 95
Loans, net (86) 79 (7)
FHLB of Boston stock (5) (14) (19)
----- ----- -----
Total interest earning assets $ 97 $ 103 $ 200
Interest bearing liabilities:
NOW accounts $ 6 $ 19 $ 25
Savings/money market accounts (32) 27 (5)
Time deposits 235 154 389
Borrowed funds (104) (1) (105)
----- ----- -----
Total interest bearing liabilities $ 105 $ 199 $ 304
----- ----- -----
Net change in net interest income $ (8) $ (96) $(104)
===== ===== =====
Nine Months Ended September 30, 2007
Compared to
Nine Months Ended September 30, 2006
Increase/(Decrease) Due to Change In
------------------------------------
Volume Rate Net
------ ---- ---
(Dollars in thousands)
Interest earning assets:
Federal funds sold and overnight deposits $ 198 $ 4 $ 202
Interest bearing deposits in banks 68 48 116
Investment securities 1 44 45
Loans, net (81) 613 532
FHLB of Boston stock (6) 4 (2)
----- ------ ------
Total interest earning assets $ 180 $ 713 $ 893
Interest bearing liabilities:
NOW accounts $ 4 $ 50 $ 54
Savings/money market accounts (127) 126 (1)
Time deposits 558 819 1,377
Borrowed funds (176) 27 (149)
----- ------ ------
Total interest bearing liabilities $ 259 $1,022 $1,281
----- ------ ------
Net change in net interest income $ (79) $ (309) $ (388)
===== ====== ======
Three months Ended September 30, 2007, compared to Three months Ended
September 30, 2006.
Interest and Dividend Income. The Company's interest and dividend income
increased $200 thousand, or 3.1%, to $6.73 million for the three months ended
September 30, 2007, from $6.53 million for the three months ended September 30,
2006, with average earning assets increasing $10.7 million, or 3.0%, to $362.3
million for the three months ended September 30, 2007, from $351.6 million for
the three months ended September 30, 2006. The increase in interest income
resulting from the rise in average earning assets was augmented by the higher
rates earned on loans, investments, and interest bearing deposits in banks in
2007 versus 2006. Interest income increased during the third quarter of 2007
versus the 2006 comparison period despite a decline in average loan volume
between periods. Average loans approximated $311.1 million at an average yield
of 7.89% for the three months ended September 30, 2007, down $4.6 million from
$315.6 million at an average yield of 7.80% for the three months ended
17
September 30, 2006, or a 1.4% decrease in average volume. The decrease in
volume was partially offset by a 9 basis point increase in yield. Loan demand
has slowed during 2007 especially for residential mortgages and construction
loans.
The 50 basis point drop in the discount rate by the Federal Reserve in August
of 2007, followed by a 50 basis point decrease in the target Federal Funds rate
in September, precipitated a 50 basis point drop in the Prime rate which
impacted variable rate loans with monthly repricing, while continued
competition for deposits minimized reductions in deposit rates from this rate
drop.
The average balance of investments (including mortgage-backed securities)
increased $6.1 million or 26.6%, to $29.0 million for the three months ended
September 30, 2007, from $22.9 million for the three months ended September 30,
2006. The average level of interest bearing deposits in banks for the quarter
was $10.5 million up $4.3 million or 68.0% from the 2006 average level of $6.3
million, as FDIC insured certificates of deposit in other financial
institutions was one of the highest yielding investment options available. The
increase in the investment portfolio and interest bearing deposits in banks
from the third quarter of 2006 reflects slower loan demand. The average level
of federal funds sold and overnight deposits increased $5.2 million, to $10.3
million at 5.01% for the three months ended September 30, 2007, from $5.1
million at 5.16% for the three months ended September 30, 2006. The yield curve
through the majority of the quarter was flat or inverted with Federal Funds
yielding as much or more than available investment options. Interest income
from nonloan instruments increased $207 thousand or 50.2% between periods, with
$619 thousand for the third quarter of 2007 and $412 thousand for the same
period of 2006, reflecting the overall increases in yields on interest bearing
deposits and investment securities and volume increases on all instruments
except the Federal Home Loan Bank (FHLB) of Boston stock.
Interest Expense. The Company's interest expense increased $304 thousand, or
16.7%, to $2.12 million for the three months ended September 30, 2007, from
$1.82 million for the three months ended September 30, 2006, of which $105
thousand was a result of the increase in volume while the remaining $199
thousand increase was due to rate increases fueled by strong competition for
deposit dollars.
Interest expense on deposits increased $409 thousand or 26.7% to $1.94 million
for the quarter ended, September 30, 2007, from $1.53 million for the quarter
ended September 30, 2006. Competition for deposits has remained strong.
Management believes consumers have become more rate sensitive over the last two
years due to advertised "specials" and the proliferation of nonlocal financial
institutions trying to gather deposits throughout the Company's market area
reflecting this rate sensitivity. Average time deposits rose to $126.9 million
for the three months ended September 30, 2007, from $104.6 million for the
three months ended September 30, 2006, or an increase of $22.3 million or
21.3%. While the majority of these deposits are new funds for the Company,
there has been movement of deposits from lower yielding savings and NOW
accounts to higher paying certificates of deposit within its account base. The
average rate paid on time deposits increased 54 basis points, to 4.40% from
3.86% for the three months ended September 30, 2007 and 2006, respectively. The
average balances for money market and savings accounts decreased $7.5 million,
or 7.5%, to $92.4 million for the three months ended September 30, 2007, from
$99.9 million for the three months ended September 30, 2006 as the interest
rates on time deposits continued to be higher which appeared to motivate
customers to move funds into certificates of deposit and lock in the higher
rates. A $3.2 million or 6.0% increase in NOW accounts brought the average
balance up to $56.0 million from $52.9 million between the two years.
Interest expense on borrowed funds dropped from $287 thousand for the quarter
ended September 30, 2006 to $182 thousand for the quarter ended September 30,
2007, as the average funds borrowed from the FHLB of Boston dropped from $22.2
million to $14.4 million between years. The softening of loan demand, the $18.0
million growth in deposits on average between the quarters ended September 30,
2006 and September 30, 2007, and the continuing yield curve shape led the
Company to reduce its reliance on borrowed funds.
Provision for Loan Losses. There was an $190 thousand loan loss provision for
the quarter ended September 30, 2007 and no provision for the quarter ended
September 30, 2006. The provision was deemed necessary for the third quarter of
2007 as the net charge-offs for the quarter ended September 30, 2007 were $120
thousand and there had been an upward trend over the quarter in the dollar
amount
18
of loans with higher risk characteristics. For further details see, FINANCIAL
CONDITION -"Allowance for Loan Losses" below.
Noninterest income. The following table sets forth changes from the third
quarter of 2006 to the third quarter of 2007 for components of noninterest
income:
For The Three Months Ended September 30,
------------------------------------------
2007 2006 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Trust income $ 94 $ 74 $ 20 27.0
Service fees 866 787 79 10.0
Net gains on sales of investment securities 30 5 25 500.0
Net gains on sales of loans held for sale 48 108 (60) (55.6)
Other 45 19 26 136.8
------ ---- ----
Total noninterest income $1,083 $993 $ 90 9.1
====== ==== ====
Trust income. The increase resulted primarily from increases in regular fee
income, which is based on the market value of assets managed and the addition
of new customers.
Service fees. The increase resulted primarily from increases in overdraft fees
of $23 thousand, or 7.8%; merchant program income increase of $24 thousand, or
23.1%; foreign exchange fee increase of $15 thousand, or 271.2% as Canadian and
British traffic to our market area has picked up substantially due to the
weakened U.S. dollar, and ATM/Debit Card usage fees of $11 thousand, or 5.9%.
These increases were partially offset by a decline in deposit service charges
of $5.8 thousand, or 12.0%.
Net gains on sales of investment securities. The Company took advantage of an
issuer's buyback offer during the third quarter of 2007 and sold a position in
one equity investment resulting in a gain of $30 thousand.
Net gains on sales of loans held for sale. Residential real estate loans of
$4.1 million were sold for a net gain of $48 thousand during the third quarter
of 2007, versus sales of $2.8 million for a net gain of $31 thousand during the
third quarter of 2006. There were no sales of commercial loans during the third
quarter of 2007, compared to sales of $1.6 million of commercial real estate
loans were sold for a net gain of $77 thousand.
Other. The increase between periods is primarily due to the increase in net
mortgage servicing rights of $4 thousand from 2006 to 2007, a $16 thousand net
gain on the sale of other real estate owned, and a $4 thousand gain from the
purchase of Vermont State Tax credits.
Noninterest expense. The following table sets forth changes from the third
quarter of 2006 to the third quarter of 2007 for components of noninterest
expense:
For The Three Months Ended September 30,
--------------------------------------------
2007 2006 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Salaries and wages $1,565 $1,536 $ 29 1.9
Pension and employee benefits 541 541 - -
Occupancy expense, net 186 184 2 1.1
Equipment expense 278 269 9 3.3
Equity in losses of affordable
housing investments 66 66 - -
Other 938 827 111 13.4
------ ------ ----
Total noninterest expense $3,574 $3,423 $151 4.4
====== ====== ====
19
Salaries and wages and related expenses. The increase in 2007 over 2006 was due
primarily to regular salary activity offset partially by increased efficiency
in operations which allowed the Company to grow while reducing a few staff
positions. A decrease in the accrual for pension plan expense of $23 thousand
or 14.4% and a decrease of $5 thousand or 42.4% in the Company's dental
insurance costs were offset by a $31 thousand or 16.2% increase in the
Company's medical costs.
Equipment Expense. The increase between years is primarily due to the purchase
of a Microsoft open license by the Company which will allow the Company to
increase the number of personal computers on its network and to migrate to
future software upgrades, partially offset by a decrease in depreciation
expense.
Other. The net change between years has many components; the largest being an
increase for the costs to bring or maintain properties in Other Real Estate
Owned which accounts for $37 thousand or 33% of the increase. The expiration of
state tax credits and the growth in deposits led to an increase in Vermont
franchise taxes of $20 thousand. A $12 thousand increase from the $3 thousand
2006 invoice for the Company's share of the Vermont Banking Department's
division expenses was an unexpected expense in the third quarter. An increase
in Trust and Asset Management's expenses of $12 thousand for the quarter also
added to the higher other expenses.
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 $508 thousand for the three months ended
September 30, 2007 compared to $623 thousand for the same period in 2006,
reflecting the decrease in taxable net income and the reduction in nontaxable
deductions between periods. The Company's effective tax rate decreased to 26.3%
for the three months ended September 30, 2007, from 27.3% for the same period
in 2006, reflecting the reduction in nontaxable deductions.
Nine Months Ended September 30, 2007, compared to Nine Months Ended
September 30, 2006.
Interest and Dividend Income. The Company's interest and dividend income
increased $893 thousand, or 4.8% to $19.60 million for the nine months ended
September 30, 2007, from $18.70 million for the nine months ended September 30,
2006, with average earning assets increasing $5.7 million, or 1.6%, to $355.1
million for the nine months ended September 30, 2007, from $349.4 million for
the nine months ended September 30, 2006. The increase in interest income
resulting from the rise in average earning assets was augmented by the higher
rates earned on all categories of earning assets in 2007 versus 2006. Average
loans approximated $309.4 million at an average yield of 7.86% for the nine
months ended September 30, 2007, down $1.4 million or 0.5% from $310.8 million
at an average yield of 7.59% for the nine months ended September 30, 2006. The
slowing of loan demand especially for residential construction and mortgage
loans, is now being felt in the Northeast sector of the United States. This is
the main reason for the slight decrease in volume but there was a 27 basis
point increase in yield.
The average balance of investments (including mortgage-backed securities) was
$26.9 million for the nine months ended September 30, 2007 and 2006. The
average level of federal funds sold and overnight deposits increased $5.1
million to $8.0 million for the nine months ended September 30, 2007, from $2.9
million for the nine months ended September 30, 2006 as the yield curve was
inverted for the majority of the first nine months of 2007, making short term
funds an attractive investment vehicle. The average level of interest bearing
deposits in banks for the first nine months of 2007 was $9.2 million, up $2.1
million, or 29.0% from the 2006 average level of $7.2 million. Interest income
from non-loan instruments was $1.64 million year to date for 2007 and $1.28
million for the same period of 2006, reflecting the overall increases in yields
and volume.
Interest Expense. The Company's interest expense increased $1.28 million, or
26.3%, to $6.16 million for the nine months ended September 30, 2007, from
$4.88 million for the nine months ended September 30, 2006, of which $259
thousand was a result of the increase in volume and $1.02 million was due to
increases in rates, fueled by competition for funds from both local and
out-of-market competitors. This competition has been most evident for the money
market and certificate of deposit accounts, but higher paying interest-bearing
checking accounts are appearing in our market as well which puts more pressure
20
on the historical demand deposit and NOW account balances. Average
interest-bearing liabilities increased $5.4 million, or 2.0%, to $284.6 million
for the nine months ended September 30, 2007, from $279.2 million for the nine
months ended September 30, 2006, and the average rate paid increased 56 basis
points to 2.89%, from 2.33% for the nine months ended September 30, 2007 and
2006, respectively. Average time deposits were $123.2 million for the nine
months ended September 30, 2007, and $103.7 million for the nine months ended
September 30, 2006, or an increase of $19.5 million, or 18.8%. The average rate
paid on time deposits increased 95 basis points, to 4.39% from 3.44% for the
nine months ended September 30, 2007 and 2006, respectively. The average
balances for money market and savings accounts decreased $10.1 million, or
9.8%, to $93.6 million for the nine months ended September 30, 2007, from
$103.7 million for the nine months ended September 30, 2006. NOW accounts grew
modestly with the average balance of $53.1 million for 2007 compared to $52.3
million for 2006.
The average balance of funds borrowed decreased $4.8 million or 24.4% from
$19.5 million for the nine months ended September 30, 2006, to $14.8 million
for the nine months ended September 30, 2007, while the average rate paid on
those funds rose from 4.73% to 4.92% between years. The reduction in borrowings
were funded from the increase in customer deposits between years and reflected
slowing loan demand.
Provision for Loan Losses. The loan loss provision year to date as of September
30, 2007 was $235 thousand compared to $150 thousand for the same period in
2006. Net chargeoffs for 2007 year to date were $177 thousand compared to net
recoveries in 2006 of $103 thousand. While the composition of the loans within
the portfolio has remained fairly constant; the third quarter 2007 provision
reflects the net chargeoff activity and the upward trend of loans with higher
risk characteristics. The net change resulted in the continuing improvement in
both the ratios of allowance for loan losses to loans not held for sale and of
allowance for loan losses to nonperforming loans. For further details see,
FINANCIAL CONDITION - "Allowance for Loan Losses" below.
Noninterest income. The following table sets forth changes from year to date
2006 to year to date 2007 for components of noninterest income:
For The Nine Months Ended September 30,
--------------------------------------------
2007 2006 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Trust income $ 261 $ 219 $ 42 19.2
Service fees 2,516 2,280 236 10.4
Net gains on sales of investment securities 67 22 45 204.5
Net gains on sales of loans held for sale 98 227 (129) (56.8)
Other 211 194 17 8.8
------ ------ -----
Total noninterest income $3,153 $2,942 $ 211 7.2
====== ====== =====
Trust income. The increase resulted from increases in regular fee income, which
is based on the market value of assets managed and the addition of new
customers.
Service fees. The increase resulted primarily from increases in overdraft fees
of $92 thousand, or 10.9%; increase in loan servicing fee income of $18
thousand, or 7.1%; increase in merchant services income of $53 thousand, or
18.7%; foreign exchange fee increase of $32 thousand, or 181.5%; as Canadian
and British traffic to our market area has picked up substantially due to the
weakened US dollar, and ATM/Debit Card usage fees of $44 thousand, or 8.7%.
These increases were partially offset by a decline in deposit service charges
of $21 thousand, or 12.6%, which resulted from the introduction, during the
first and second quarters of 2006, of a group of retail deposit products that
generally are not charged monthly service fees.
Net gains on sales of loans held for sale. Residential real estate loans of
$13.3 million were sold for a net gain of $98 thousand during the first nine
months of 2007, compared to sales of $15.2 million with a net gain of $227
thousand during the first nine months of 2006. There were no sales of
Commercial loans during the first nine months of 2007, compared to sales of
$1.6 million during the first nine months of 2006, resulting in a gain of $76
thousand. As the yield curve moved from inverted to flat to slightly positive
21
and then back to inverted during the first nine months of 2007, premiums paid
on loans sold declined.
Other. The increase mainly resulted from a net gain of $46 thousand on the sale
of other real estate owned partially offset by a $22 thousand decrease in
mortgage servicing rights between years and a $7 thousand reduction in net
gains on disposals of premises and equipment.
Noninterest expense. The following table sets forth changes from year to date
2006 to year to date 2007 for components of noninterest expense:
For The Nine Months Ended September 30,
--------------------------------------------
2007 2006 $ Variance % Variance
---- ---- ---------- ----------
(Dollars in thousands)
Salaries and wages $ 4,692 $ 4,541 $151 3.3
Pension and employee benefits 1,721 1,670 51 3.1
Occupancy expense, net 620 585 35 6.0
Equipment expense 821 786 35 4.5
Equity in losses of affordable
housing investments 199 231 (32) (13.9)
Other 2,742 2,458 284 11.5
------- ------- ----
Total noninterest expense $10,795 $10,271 $524 5.1
======= ======= ====
Salaries and wages and related expenses. The increase in 2007 over 2006 was due
primarily to regular salary activity. Increases in the Company's medical
insurance costs of $112 thousand or 19.2% during the first nine months of 2007
was the main factor in the increase in pension and employee benefits. This
increase was partially offset by a $69 thousand or 14.4% drop in pension
expense due to rising long term interest rates and the performance of the
market.
Occupancy Expense. The increase for 2007 over 2006 was due primarily to the
increased square footage of the organization with the addition of the
Littleton, New Hampshire branch opened in March of 2006 and the purchase of an
additional office building in Morrisville, Vermont in December 2006. The
increased costs of fuel throughout the offices also contributed to the
increase.
Equipment Expense. The increase between years is primarily due to the purchase
of a Microsoft open license by the Company which will allow us to increase the
number of personal computers on our network and to migrate to future software
upgrades. This increase was partially offset by a $23 thousand or 5.2% decrease
in depreciation expense.
Amortization of investments in affordable housing projects. The expense for
2006 was higher than the current year as it included a $32 thousand adjustment
related to new partnerships investments for 2005 that was not known until the
partnership's 2005 financial statements were received in April of 2006.
Other. The increase between years is primarily due to the costs to bring or
maintain properties in other real estate owned which is $123 thousand higher in
2007 or $151 thousand in total. Other expenses also rose due to increases in
ATM/debit card expenses of $26 thousand, contributions of $17 thousand,
directors fees of $8 thousand, legal fees of $29 thousand, trust department
expenses of $50 thousand, bad checks and charged off accounts of $16 thousand
and Vermont franchise taxes of $57 thousand due to the expiration of state tax
credits and growth in deposits. These increases are somewhat offset by the
reduction in other costs of employment of $15 thousand, training of $19
thousand and checkbook expenses of $15 thousand as well as the nonrecurrence of
the one time robbery loss in June of 2006.
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 decreased $260 thousand, or 15.5%, to $1.42 million
for the nine months ended September 30, 2007, from $1.68 million for the same
period in 2006, reflecting a decrease in net income compared to the 2006 period
and an increase in nontaxable municipal income between periods. The Company's
effective tax rate decreased to 25.5% for the nine months ended September 30,
2007, from 26.5% for the same period in 2006.
22
FINANCIAL CONDITION
At September 30, 2007 the Company had total consolidated assets of $397.5
million, including gross loans and loans held for sale ("total loans") of
$315.6 million, deposits of $333.4 million and stockholders' equity of $41.9
million. The Company's total assets increased $16.3 million or 4.3% to $397.5
million at September 30, 2007, from $381.1 million at December 31, 2006. Net
loans and loans held for sale were $312.1 million, or 78.5% of total assets at
September 30, 2007, as compared to $314.1 million, or 82.4% of total assets at
December 31, 2006.
Cash and cash equivalents, including federal funds sold and overnight deposits,
increased $255 thousand, or 1.2%, to $21.2 million at September 30, 2007, from
$21.0 million at December 31, 2006. Interest bearing deposits in banks
increased $5.2 million or 96.3% from $5.4 million at December 31, 2006 to $10.6
million at September 30, 2007 as these FDIC insured deposits were one of the
most attractive investment alternatives during the first nine months of 2007.
Investment securities available-for-sale increased from $23.7 million at
December 31, 2006, to $34.3 million at September 30, 2007, a $10.6 million, or
44.7%, increase. As loan demand was not as strong during the first nine months
of 2007, the opportunity was taken to rebuild the investment portfolio to a
more normal level. The securities available-for-sale and interest bearing
deposits in banks increased from 7.6% of total assets at December 31, 2006 to
11.3% at September 30, 2007.
Deposits increased $13.6 million, or 4.3%, to $333.4 million at September 30,
2007, from $319.8 million at December 31, 2006. Noninterest bearing deposits
stayed stable at $54.9 million at December 31, 2006 and September 30, 2007,
while interest bearing deposits increased $13.6 million, or 5.1%, from $264.9
million at December 31, 2006, to $278.5 million at September 30, 2007. (See
average balances and rates in the Yields Earned and Rates Paid tables on Page
15 and 16.) With the rise in interest rates being paid on deposits of all types
over the past two years and aggressive rate competition from in-market and
out-of-market financial institutions, noninterest bearing deposit accounts are
harder to attract and retain.
Total borrowings remained level at $14.6 million at September 30, 2007, and at
December 31, 2006.
Total stockholders' equity remained level at $41.9 million at December 31, 2006
and September 30, 2007, reflecting net income of $4.1 million for the first
nine months of 2007, less the regular cash dividends paid of $3.8 million, the
purchase of Treasury stock totaling $375 thousand, and a decrease of $26
thousand in accumulated other comprehensive loss. (See Capital Resources
section on Page 35)
Loans Held for Sale and Loan Portfolios. 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. As of September 30,
2007, the Company's total loan portfolio was $315.6 million, or 79.4% of
assets, down from $317.6 million, or 83.3% of assets as of December 31, 2006,
and from $318.0 million or 84.8% of assets as of September 30, 2006. Total
loans (including loans held for sale) have decreased $2.0 million since
December 31, 2006. Average net loans (including loans held for sale) were
$310.8 million for the 2006 comparison period and have decreased to $309.4
million for the first nine months of 2007. The Company sold $13.3 million of
loans held for sale during the first nine months of 2007 resulting in a gain on
sale of loans of $98 thousand, compared with loan sales of $15.2 million and
related gain on sale of loans of $227 thousand for the first nine months of
2006. The Company recognizes that competition for good loans is strong and has
placed continued emphasis on calling on both current and prospective customers
while maintaining credit quality.
23
The following table shows information on the composition of the Company's total
loan portfolio as of September 30, 2007 and December 31, 2006:
Loan Type September 30, 2007 December 31, 2006
--------- ------------------ ------------------
Amount Percent Amount Percent
------ ------- ------ -------
(Dollars in thousands)
Residential real estate $110,852 35.1 $114,139 35.9
Construction real estate 21,137 6.7 22,568 7.1
Commercial real estate 134,546 42.7 130,848 41.2
Commercial 16,734 5.3 19,253 6.1
Consumer 7,264 2.3 7,717 2.4
Municipal loans 16,835 5.3 19,297 6.1
Term Federal Funds Sold 4,000 1.3 - -
Loans Held for Sale 4,220 1.3 3,750 1.2
-------- ----- -------- -----
Total loans 315,588 100.0 317,572 100.0
Deduct:
Allowance for loan losses 3,396 3,338
Unearned net loan fees 105 120
-------- --------
Net loans and loans held for sale $312,087 $314,114
======== ========
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). At
September 30, 2007, the Company serviced a $201.3 million residential real
estate mortgage portfolio, approximately $90.5 million of which was serviced
for unaffiliated third parties. Additionally, the Company originates commercial
real estate and commercial loans under various SBA, U.S. 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 serviced $6.1 million
of commercial and commercial real estate loans for unaffiliated third parties
as of September 30, 2007. The Company capitalizes servicing rights on these
fees and 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 $310 thousand at September 30, 2007, 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 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, 2007 was
$10.5 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.
Management closely monitors the Company's loan and investment portfolios and
other real estate owned for potential problems and reports to the Company's and
the subsidiary's Boards of Directors at regularly scheduled meetings.
The Company's loan review procedures include a credit quality assurance process
that begins with approval of lending policies and underwriting guidelines by
the Board of Directors and includes a loan review department supervised by an
experienced, former regulatory examiner, conservative individual lending limits
for officers, Board approval for large credit relationships and a quality
control process for loan documentation that includes post-closing reviews. The
Company also maintains a monitoring process for credit extensions. 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, and exceptions 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
24
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.
Restructured loans in compliance with modified terms totaled $214 thousand at
September 30, 2007 and $1.3 million at December 31, 2006. At September 30, 2007
the Company was not committed to lend any additional funds to borrowers whose
terms have been restructured.
Loans on which the accrual of interest has been discontinued are designated as
nonaccrual loans. 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.
The Company had loans in nonaccrual status totaling $2.3 million, or 0.74% of
gross loans at September 30, 2007, $2.5 million, or 0.80%, at December 31,
2006, and $1.7 million, or 0.55%, at September 30, 2006. Certain loans in
non-accrual status are covered by guarantees of U.S. Government or state
agencies. Approximately $316 thousand of the balances in this category were
covered by such guarantees at September 30, 2007. The aggregate interest income
not recognized on such nonaccrual loans amounted to approximately $438 thousand
and $327 thousand as of September 30, 2007 and 2006, respectively and $371
thousand as of December 31, 2006.
The Company had $1.1 million in loans past due 90 days or more and still
accruing at September 30, 2007 and $2.2 million at December 31, 2006. The
decrease between periods was mainly due to the improvement in the number of
days past due of several loans under $200 thousand each. Certain loans past due
90 days or more and still accruing interest are covered 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, 2007.
At September 30, 2007, and December 31, 2006, respectively, the Company had
internally classified certain loans totaling $48 thousand and $319 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 one or more of the following
conditions makes the likelihood of collection uncertain:
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.
25
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 via an appraisal for more significant
properties and an evaluation for minor properties at the date of acquisition
establishing a new carrying basis. The Company had $237 thousand in residential
real estate and $212 thousand of commercial real estate property classified as
OREO at September 30, 2007 compared to $3 thousand of land, $98 thousand of
residential real estate and $298 thousand of commercial real estate property at
December 31, 2006. The other real estate owned was included in Other Assets on
the Consolidated Balance Sheet at both time periods.
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, in management's judgment, is adequate
to absorb 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 for
internal analytical purposes the Company allocates the allowance for loan
losses based on a percentage by category, 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 available to cover
losses in 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.
Additionally, various regulatory agencies periodically review the Company's
allowance for loan losses as an integral part of their examination process.
For the quarter ended September 30, 2007, the methodology used to determine the
provision for loan losses was unchanged from the prior quarter or year. The
Company's loan portfolio balance decreased $2.5 million, or 0.8% from December
31, 2006. There was a reduction in the balance of all loan types except
commercial real estate and term federal funds sold between December 31, 2006
and September 30, 2007. In considering the adequacy of the allowance for loan
losses and establishing the amount of the provision, the overall reduction in
the loan portfolio was more than offset by an upward trend over the last few
months in the dollar amount of loans with higher risk characteristics resulting
in an increase in the estimated allowance for loan losses. As a result of the
combined changes and the net charge-offs for the third quarter of $120
thousand, the Company designated $190 thousand loan loss provision for the
quarter ended September 30, 2007 which left the allowance for loan losses at
$3.4 million at September 30, 2007. With the third quarter provision for loan
losses, there was an improvement in the ratio of allowance for loan losses to
nonperforming loans from 70.3% at December 31, 2006 to 101.1% at September 30,
2007. The charge-offs for the quarter were primarily on two loan relationships
for which the collateral has been moved to Other Real Estate Owned and Other
Assets Owned and plans to dispose of the assets are in process. There were no
material changes in the lending programs or terms during the quarter.
26
The following table reflects activity in the allowance for loan losses for the
three and nine months ended September 30, 2007 and 2006:
Three Months Ended, September 30, Nine Months Ended, September 30,
--------------------------------- --------------------------------
2007 2006 2007 2006
---- ---- ---- ----
(Dollars in thousands)
Balance at beginning of period $3,326 $3,235 $3,338 $3,071
Charge-offs
Real Estate 69 - 99 -
Commercial 48 3 48 3
Consumer and other 9 11 63 46
------ ------ ------ ------
Total charge-offs 126 14 210 49
------ ------ ------ ------
Recoveries
Real Estate 1 1 9 25
Commercial - 1 2 13
Consumer and other 5 101 22 114
------ ------ ------ ------
Total recoveries 6 103 33 152
------ ------ ------ ------
Net (charge-offs) recoveries (120) 89 (177) 103
------ ------ ------ ------
Provision for loan losses 190 - 235 150
------ ------ ------ ------
Balance at end of period $3,396 $3,324 $3,396 $3,324
====== ====== ====== ======
The following table shows the internal breakdown of the Company's allowance for
loan losses by category of loan (net of loans held for sale) and the percentage
of loans in each category to total loans in the respective portfolios at the
dates indicated:
September 30, 2007 December 31, 2006
------------------ ------------------
Amount Percent Amount Percent
------ ------- ------ -------
(Dollars in thousands)
Real Estate
Residential $ 714 34.3 $ 640 34.8
Commercial 2,031 43.2 1,901 41.7
Construction 211 6.8 296 7.2
Other Loans
Commercial 283 5.4 312 6.1
Consumer installment 114 2.3 125 2.5
Municipal, Other and
Unallocated 43 8.0 64 7.7
------ ----- ------ -----
Total $3,396 100.0 $3,338 100.0
====== ===== ====== =====
Ratio of Net Charge Offs
(Recoveries) to Average Loans
not held for sale (1) 0.08 (0.03)
===== =====
Ratio of Allowance for Loan
Losses to Loans not held
for sale 1.09 1.06
===== =====
Ratio of Allowance for Loan
Losses to nonperforming
loans (2) 101.1 70.26
===== =====
--------------------
(1) Annualized
(2) Non-performing loans include loans in non-accrual status and loans past
due 90 days or more and still accruing.
Not withstanding 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.
27
Management of the Company believes that the allowance for loan losses at
September 30, 2007, was appropriate to cover losses inherent in the Company's
loan portfolio as of such date. 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, 2007. See CRITICAL ACCOUNTING
POLICIES. While the Company recognizes that an economic slowdown may adversely
impact its borrowers' financial performance and ultimately their ability to
repay their loans, management continues to be cautiously optimistic about the
key credit indicators from the Company's loan portfolio.
Investment Activities. At September 30, 2007, the reported value of investment
securities available-for-sale was $34.3 million or 8.6% of assets. The amount
in investment securities available-for-sale increased from $23.7 million, or
6.2% of assets at December 31, 2006, as the Company rebuilt the investment
portfolio in light of decreased loan demand.
The Company had no securities classified as held-to-maturity or trading. The
reported value of investment securities available-for-sale at September 30,
2007 reflects a negative valuation adjustment of $214 thousand. The offset of
this adjustment, net of income tax effect, was a $141 thousand loss reflected
in the Company's accumulated other comprehensive loss component of
stockholders' equity at September 30, 2007.
At September 30, 2007, thirty-seven securities with a fair value of $13.5
million or 39.3% of the portfolio have been in an unrealized loss position for
more than twelve months totaling $254 thousand. These unrealized losses are
mainly attributed to the interest rate environment. Of the twenty-eight bonds
in the corporate bond portfolio, twelve of the bonds are in the financial
services arena with four of the bond issuers identified with problems in the
"so-called" sub-prime mortgage market. Only two of the bonds have been in a
loss position for more than twelve months. While we have concluded, due to
actions taken by the issuer's management and the improvement in the fair market
value of these bonds in September, that they are not other than temporarily
impaired, we are monitoring them closely. The Company has the ability to hold
all of these securities, classified as available-for-sale, for the foreseeable
future. Management deems the unrealized losses on the Company's securities not
to be other than temporary.
At December 31, 2006, the Company had thirty-eight debt securities with a fair
value of $15.0 million with an unrealized loss of $400 thousand, or 63.3% of
the value of the amortized cost of the entire investment portfolio, that had
existed for more than 12 months.
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, 2007,
and December 31, 2006:
Nine Months Ended September 30, 2007 Year Ended December 31, 2006
------------------------------------ -------------------------------
Percent Percent
Average of Total Average Average of Total Average
Amount Deposits Rate Amount Deposits Rate
------- -------- ------- ------- -------- -------
(Dollars in thousands)
Non-time deposits:
Demand deposits $ 48,475 15.2 - $ 49,328 15.9 -
NOW accounts 53,100 16.7 0.81% 52,937 17.1 0.74%
Money Market accounts 51,492 16.2 2.72% 56,286 18.1 2.48%
Savings accounts 42,113 13.2 0.61% 46,061 14.8 0.60%
-------- ----- -------- -----
Total non-time deposits 195,180 61.3 1.07% 204,612 65.9 1.01%
-------- ----- -------- -----
Time deposits:
Less than $100,000 77,521 24.4 4.08% 66,982 21.6 3.34%
$100,000 and over 45,640 14.3 4.91% 38,706 12.5 4.14%
-------- ----- -------- -----
Total time deposits 123,161 38.7 4.39% 105,688 34.1 3.64%
-------- ----- -------- -----
Total deposits $318,341 100.0 2.35% $310,300 100.0 1.90%
======== ===== ======== =====
28
The Company's customers have been opening certificates of deposit to take
advantage of increasing time deposit rates as evidenced by the $6.9 million, or
17.9% increase in average time deposits of $100,000 and over and the $10.5
million, or 15.7% increase in time deposits less than $100,000 in 2007 year to
date versus 2006.
As a participant in the Certificate of Deposit Account Registry Service (CDARS)
of Promontory Interfinancial Network, LLC, there were $6.7 million of time
deposits less than $100,000 on the balance sheet at September 30, 2007 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.
The following table sets forth information regarding the Company's time
deposits in amounts of $100,000 and over at September 30, 2007, and December
31, 2006, that mature during the periods indicated:
September 30, 2007 December 31, 2006
------------------ -----------------
(Dollars in thousands)
Within 3 months $17,119 $13,466
3 to 6 months 7,926 17,254
6 to 12 months 19,078 11,299
Over 12 months 2,379 2,219
------- -------
$46,502 $44,238
======= =======
Borrowings. Borrowings from the FHLB were $14.6 million at September 30, 2007,
at a weighted average rate of 4.93%, and $14.6 million at December 31, 2006, at
a weighted average rate of 4.82%.
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 including interest
rates charged on loans and paid on deposits. The nature and impact of future
changes in monetary policies are often not predictable.
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 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 position 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 and strategies might
include selling or participating out loans held for sale or investments
available-for-sale. 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, and various business strategies. The
ALCO's methods for
29
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 informally 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, 2007, the
investment portfolio was all classified as available-for-sale and the modified
duration was relatively short. 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
2006 for a flat rate environment (Prime at December 31, 2006 was 8.25% and
dropped to 7.75% on September 18, 2007) projected the following for the nine
months ended September 30, 2007, compared to the actual results:
September 30, 2007
-------------------------------------
Percentage
Projected Actual Difference
--------- ------ ----------
(Dollars in thousands)
Net Interest Income $13,236 $13,441 1.55%
Net Income $3,994 $4,143 3.73%
Return on Assets 1.43% 1.45% 1.40%
Return on Equity 12.80% 13.29% 3.83%
Actual net income is higher than projected mainly due to the higher actual net
interest income than projected, and the gain on sales of securities and other
real estate owned that had not been projected partially offset by the higher
actual loan loss provision and other real estate owned expenses.
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, 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.
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 and investment 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 management's estimate
of the actual 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, 2007 and December
31, 2006, the contract or notional amount of financial instruments that
represent credit risk was as follows:
30
September 30, December 31,
2007 2006
---- ----
(Dollars in thousands)
Commitments to originate loans $10,379 $12,176
Commitments to purchase investment securities 1,657 -
Unused lines of credit 37,688 36,574
Standby letters of credit 963 1,046
Credit Card arrangements 1,515 1,457
Equity investment commitment to housing
limited partnership - 917
------- -------
Total $52,202 $52,170
======= =======
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 significant fixed and determinable contractual obligations to
third parties at September 30, 2007, and December 31, 2006, were as follows:
September 30, 2007 December 31, 2006
------------------ -----------------
(Dollars in thousands)
Operating lease commitments $ 328 $ 316
Maturities on borrowed funds 14,618 14,596
Deposits without stated maturity (1) 206,233 202,997
Certificates of deposit (1) 127,189 116,825
Pension plan contributions (2) 581 700
Deferred compensation payouts (3) 489 551
Equity in housing limited partnerships 1,397 356
Real estate and construction contracts (4) 395 28
-------- --------
Total $351,230 $336,369
======== ========
--------------------
(1) While Union has a contractual obligation to depositors should they wish
to withdraw all or some of the funds on deposit, management believes,
based on historical analysis, that the majority of these deposits will
remain on deposit for the foreseeable future. The amounts exclude
interest accrued.
(2) Funding requirements for pension benefits after 2007 are excluded due to
the significant variability in the assumptions required to project the
amount and timing of future cash contributions.
(3) The Company owns life insurance on the lives of the payees, in an amount
estimated by management to be sufficient to reimburse the Company for the
deferred compensation payments should the Company desire to utilize the
death benefit proceeds for that purpose. The policies have a current cash
surrender value of $2.0 million which is reflected in the balance sheet
under Other Assets. The Company also owns mutual funds.
(4) Contracts to purchase a new branch site and to complete renovation on one
of the Morrisville administrative buildings.
The Company's subsidiary bank is required (as are all banks) to maintain vault
cash or a noninterest bearing reserve balance as established by Federal Reserve
regulations. The Bank's daily total reserve for the 14 day maintenance period
including September 30, 2007 was $418 thousand and for December 31, 2006 was
$2.3 million, both of which were satisfied by vault cash. For the purpose of
reporting deposits subject to reserves to the Federal Reserve Bank of Boston,
the Bank classifies transaction deposit accounts that meet certain criteria as
savings accounts, in accordance with Federal Reserve banking regulations.
Fluctuations in the number and balances of transaction deposit accounts
classified for Federal Reserve reporting purposes as savings accounts impact
the total reserve requirement for each 14 day maintenance period. The Company
has also committed to maintain a noninterest bearing contracted clearing
balance of $1.0 million at September 30, 2007 with the Federal Reserve Bank of
Boston.
31
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:
o adjustable-rate loans, investment securities, variable-rate time
deposits, and FHLB 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.
32
The following table shows the Company's rate sensitivity analysis as of
September 30, 2007:
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 $ 9,151 $ - $ - $ - $ - $ 9,151
Interest bearing deposits in banks 1,479 3,952 3,349 1,665 189 10,634
Investment securities available-for-sale (1)(3) 2,597 6,078 8,068 5,186 12,098 34,027
FHLB Stock - - - - 1,385 1,385
Loans and loans held for sale (2)(3) 92,756 61,051 74,833 60,968 25,875 315,483
-------- ------- -------- -------- -------- --------
Total interest sensitive assets $105,983 $71,081 $ 86,250 $ 67,819 $ 39,547 $370,680
Interest sensitive liabilities:
Time deposits $ 46,795 $64,749 $ 15,310 $ 335 $ - $127,189
Money markets 6,903 - - - 44,792 51,695
Regular savings 5,491 - - - 34,999 40,490
NOW accounts 19,487 - - - 39,671 59,158
Borrowed funds 214 587 1,310 2,984 9,523 14,618
-------- ------- -------- -------- -------- --------
Total interest sensitive liabilities $ 78,890 $65,336 $ 16,620 $ 3,319 $128,985 $293,150
Net interest rate sensitivity gap $ 27,093 $ 5,745 $ 69,630 $ 64,500 $(89,438) $ 77,530
Cumulative net interest rate
sensitivity gap $ 27,093 $32,838 $102,468 $166,968 $77,530
Cumulative net interest rate
sensitivity gap as a
percentage of total assets 6.8% 8.3% 25.8% 42.0% 19.5%
Cumulative net interest rate sensitivity
gap as a percentage of total
Interest sensitive assets 7.3% 8.9% 27.6% 45.0% 20.9%
Cumulative net interest rate sensitivity
gap as a percentage of total
Interest sensitive liabilities 9.2% 11.2% 35.0% 57.0% 26.4%
(1) Investment securities available-for-sale exclude marketable equity securities with a fair value of $225 thousand and
mutual funds with a value of $18 thousand that may be sold by the Company at any time.
(2) Balances shown net of unearned income of $105 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.
33
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 rate shock, applied
proportionately, of up and down 300 basis points from the September 30, 2007
prime rate of 7.75%, this is the highest and lowest internal slopes monitored.
This slope range was determined to be the most relevant during this economic
cycle.
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-08 10.75% $20,022 10.82 $7,018 1.78 16.51 8.19%
7.75% $18,067 0.00 $5,703 1.42 13.40 10.57%
4.75% $15,964 (11.64) $4,290 1.03 9.88 13.02%
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, 2008, are within approved ALCO guidelines for interest rate risk.
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 sizable source of relatively stable and low-cost funds. For the
quarter ended, September 30, 2007, the Company's ratio of average loans to
average deposits was 95.5% compared to the prior year of 102.9%.
In addition, as Union Bank is a member of the FHLB of Boston, it had access to
an unused line of credit up to $5.3 million at September 30, 2007 over and
above the term advances already drawn on the line based on FHLB estimate as of
that date; with the purchase of required FHLB of Boston capital stock that
amount would rise to $25.2 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 repurchase agreement line with a selected brokerage
house. There were no balances outstanding on either line at September 30, 2007.
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,
2007 or December 31, 2006, although Union had exchanged $6.7 million and $2.5
million, respectively, with other CDARS members as of those dates.
34
While scheduled loan and securities payments and FHLB 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 Company's ALCO sets liquidity targets
based on the Company's financial condition and existing and projected economic
and market conditions. 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 88% 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% to 85% over the
preceding eight years) the relationships developed with local municipalities,
and the introduction of new deposit products in 2005, that Union Bank will
retain a substantial portion of these deposits. Management will continue to
offer a competitive but prudent pricing strategy to facilitate retention of
such deposits. The inverted yield curve for the last year and the proliferation
of certificate of deposit specials have contributed to the shortening of the
maturities in time deposits. 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 and loans
available-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.
The total dollar value of the Company's stockholders' equity at September 30,
2007 was unchanged from September 30, 2006 at $41.9 million, reflecting net
income of $4.1 million for the first nine months of 2007, less cash dividends
paid of $3.8 million, the purchase of 17,761 shares of Treasury stock totaling
$375 thousand, and a decrease of $26 thousand in accumulated other
comprehensive loss.
Union Bankshares, Inc. has 7.5 million shares of $2.00 par value common stock
authorized. As of September 30, 2007, the Company had 4,918,611 shares issued,
of which 4,514,216 were outstanding and 404,395 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.
As of September 30, 2007 the Company had repurchased 17,761 shares under this
program, for a total cost of $375 thousand year-to-date, and 43,447shares at a
total cost of $900 thousand since the inception of the program in November,
2005.
35
As of September 30, 2007, 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, 12,825
options were currently exercisable but only 3,325 of those options were "in the
money". Of the 75,000 shares authorized for issuance under the 1998 Plan,
45,450 shares remain available for future option grants. During the third
quarter of 2007, no incentive stock options were granted or exercised pursuant
to the 1998 plan.
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, 2007, that both companies meet all capital adequacy
requirements to which they are subject. As of September 30, 2007, 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. There are no conditions or events since September 30,
2007, that management believes have changed either company's category.
Union Bank's and the Company's actual capital amounts and ratios as of
September 30, 2007, 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 $46,190 16.8% $21,969 8.0% $27,461 10.0%
Company $46,325 16.8% $22,020 8.0% N/A N/A
Tier I capital to risk weighted assets
Union Bank $42,763 15.6% $10,986 4.0% $16,479 6.0%
Company $42,898 15.6% $11,014 4.0% N/A N/A
Tier I capital to average assets
Union Bank $42,763 11.0% $15,522 4.0% $19,402 5.0%
Company $42,898 11.1% $15,529 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 2006 the
Securities and Exchange Commission, the Vermont State Department of Banking,
the Federal Deposit Insurance Corporation, and the Federal Reserve Bank of
Boston performed various examinations of the Company and Union 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.
36
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 29
through 36 in this Form 10-Q.
Item 4. 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 the end of the
period covered by this report and 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 officers, or persons performing similar functions, as appropriate to
allow timely decisions regarding required disclosure.
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 of the
Company and its subsidiary.
Item 1A. Risk Factors.
There have been no material changes in the Company's risk factors from those
previously disclosed in the Company's Annual Report on Form 10-K for the year
ended December 31, 2006.
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 2007 800 $21.39 800 62,184
August 2007 2,700 $20.42 2,700 59,484
September 2007 2,931 $20.47 2,931 56,553
(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. As of September 30, 2007
the Company had repurchased 17,761 shares under this program for a total cost of $375 thousand during 2007. Since
inception of the program, the Company has repurchased 43,447 shares at a total cost of $900 thousand.
37
Item 6. Exhibits.
3.1 Amended and Restated By-laws of Union Bankshares, Inc. as of
October 12, 2007.
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.
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.
November 14, 2007 Union Bankshares, Inc.
/s/ Kenneth D. Gibbons
-------------------------------------
Kenneth D. Gibbons
Director, President and
Chief Executive Officer
/s/ Marsha A. Mongeon
-------------------------------------
Marsha A. Mongeon
Chief Financial Officer and Treasurer
(Principal Financial Officer)
38
EXHIBIT INDEX
3.1 Amended and Restated By-laws of Union Bankshares, Inc.
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.
39