UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-Q
| x | QUARTERLY REPORT UNDER SECTION 13 OF 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2007
or
| ¨ | TRANSITION REPORT UNDER SECTION 13 OF 15(d) OF THE EXCHANGE ACT |
Or the transition period from to
Commission File Number 33-58936
Dimeco, Inc.
(Exact name of registrant as specified in its charter)
| Pennsylvania | 23-2250152 | |
| (State or other jurisdiction of Incorporation or organization) |
(I.R.S. Employer identification No.) |
820 Church Street
Honesdale, PA 18431
(Address of principal executive officers)
(570) 253-1970
(Issuer’s Telephone Number)
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)
Check whether the issuer (1) filed all reports required to be filed by Sections 13 or 15(d) of the Exchange Act during the past 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 shell company (as defined by Rule 12b-2 of the Exchange Act) Yes ¨ No x
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
As of November 1, 2007, the registrant had outstanding 1,521,990 shares of its common stock, par value $.50 share.
INDEX
–2–
CONSOLIDATED BALANCE SHEET (unaudited)
| September 30, 2007 | December 31, 2006 | |||||||
| (in thousands) | ||||||||
| Assets |
||||||||
| Cash and due from banks |
$ | 5,797 | $ | 6,684 | ||||
| Interest-bearing deposits in other banks |
23 | 2,287 | ||||||
| Federal funds sold |
2,835 | 10,000 | ||||||
| Total cash and cash equivalents |
8,655 | 18,971 | ||||||
| Mortgage loans held for sale |
262 | — | ||||||
| Investment securities available for sale |
62,546 | 67,266 | ||||||
| Loans (net of unearned income of $735 and $777) |
343,440 | 305,291 | ||||||
| Less allowance for loan losses |
5,046 | 4,469 | ||||||
| Net loans |
338,394 | 300,822 | ||||||
| Premises and equipment |
5,667 | 5,731 | ||||||
| Accrued interest receivable |
1,945 | 1,798 | ||||||
| Bank-owned life insurance |
8,126 | 5,892 | ||||||
| Other assets |
4,008 | 3,097 | ||||||
| TOTAL ASSETS |
$ | 429,603 | $ | 403,577 | ||||
| Liabilities |
||||||||
| Deposits : |
||||||||
| Noninterest-bearing |
$ | 34,137 | $ | 34,172 | ||||
| Interest-bearing |
324,416 | 303,945 | ||||||
| Total deposits |
358,553 | 338,117 | ||||||
| Short-term borrowings |
10,758 | 12,705 | ||||||
| Other borrowed funds |
17,947 | 13,763 | ||||||
| Accrued interest payable |
1,368 | 1,428 | ||||||
| Other liabilities |
2,299 | 2,227 | ||||||
| TOTAL LIABILITIES |
390,925 | 368,240 | ||||||
| Stockholders' Equity |
||||||||
| Common stock, $.50 par value; 5,000,000 shares authorized; 1,573,290 and 1,568,024 shares issued |
787 | 784 | ||||||
| Capital surplus |
4,920 | 4,775 | ||||||
| Retained earnings |
34,981 | 31,355 | ||||||
| Accumulated other comprehensive income (loss) |
17 | (35 | ) | |||||
| Treasury stock, at cost (53,000 and 43,000 shares) |
(2,027 | ) | (1,542 | ) | ||||
| TOTAL STOCKHOLDERS' EQUITY |
38,678 | 35,337 | ||||||
| TOTAL LIABILITES AND STOCKHOLDERS' EQUITY |
$ | 429,603 | $ | 403,577 | ||||
See accompanying notes to the unaudited consolidated financial statements.
–3–
CONSOLIDATED STATEMENT OF INCOME (unaudited)
| For the three months ended September 30, | For the nine months ended September 30, | |||||||||||
| (in thousands, except per share) | 2007 | 2006 | 2007 | 2006 | ||||||||
| Interest Income |
||||||||||||
| Interest and fees on loans |
$ | 6,785 | $ | 5,596 | $ | 19,163 | $ | 15,609 | ||||
| Investment securities: |
||||||||||||
| Taxable |
795 | 624 | 2,486 | 1,738 | ||||||||
| Exempt from federal income tax |
98 | 60 | 247 | 160 | ||||||||
| Other |
27 | 45 | 184 | 178 | ||||||||
| Total interest income |
7,705 | 6,325 | 22,080 | 17,685 | ||||||||
| Interest Expense |
||||||||||||
| Deposits |
2,828 | 2,161 | 8,409 | 5,785 | ||||||||
| Short-term borrowings |
104 | 108 | 280 | 284 | ||||||||
| Other borrowed funds |
221 | 156 | 556 | 505 | ||||||||
| Total interest expense |
3,153 | 2,425 | 9,245 | 6,574 | ||||||||
| Net Interest Income |
4,552 | 3,900 | 12,835 | 11,111 | ||||||||
| Provision for loan losses |
300 | 185 | 750 | 400 | ||||||||
| Net Interest Income After Provision for Loan Losses |
4,252 | 3,715 | 12,085 | 10,711 | ||||||||
| Noninterest Income |
||||||||||||
| Services charges on deposit accounts |
399 | 361 | 1,187 | 1,099 | ||||||||
| Mortgage loans held for sale gains, net |
33 | 54 | 98 | 167 | ||||||||
| Brokerage commissions |
133 | 87 | 329 | 264 | ||||||||
| Other income |
356 | 256 | 957 | 751 | ||||||||
| Total noninterest income |
921 | 758 | 2,571 | 2,281 | ||||||||
| Noninterest Expense |
||||||||||||
| Salaries and employee benefits |
1,504 | 1,330 | 4,375 | 3,925 | ||||||||
| Occupancy expense, net |
185 | 189 | 589 | 597 | ||||||||
| Furniture and equipment expense |
123 | 132 | 394 | 382 | ||||||||
| Other expense |
653 | 665 | 2,089 | 2,156 | ||||||||
| Total noninterest expense |
2,465 | 2,316 | 7,447 | 7,060 | ||||||||
| Income before income taxes |
2,708 | 2,157 | 7,209 | 5,932 | ||||||||
| Income taxes |
851 | 689 | 2,256 | 1,889 | ||||||||
| NET INCOME |
$ | 1,857 | $ | 1,468 | $ | 4,953 | $ | 4,043 | ||||
| Earnings per Share—basic |
$ | 1.22 | $ | 0.96 | $ | 3.25 | $ | 2.65 | ||||
| Earnings per Share—diluted |
$ | 1.18 | $ | 0.93 | $ | 3.13 | $ | 2.57 | ||||
| Dividends per share |
$ | 0.29 | $ | 0.26 | $ | 0.87 | $ | 0.78 | ||||
| Average shares outstanding—basic |
1,520,024 | 1,523,958 | 1,525,500 | 1,524,777 | ||||||||
| Average shares outstanding—diluted |
1,578,255 | 1,573,677 | 1,582,179 | 1,573,484 | ||||||||
See accompanying notes to the unaudited consolidated financial statements.
- 4 -
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (unaudited)
| Three months ended September 30, | Nine months ended September 30, | |||||||||||
| 2007 | 2006 | 2007 | 2006 | |||||||||
| Net income |
$ | 1,857 | $ | 1,468 | $ | 4,953 | $ | 4,043 | ||||
| Other comprehensive gain: |
||||||||||||
| Unrealized gain on available for sale securities |
302 | 424 | 79 | 284 | ||||||||
| Income tax expense related to other comprehensive income |
103 | 144 | 27 | 96 | ||||||||
| Other comprehensive gain, net of tax |
199 | 280 | 52 | 188 | ||||||||
| Comprehensive income |
$ | 2,056 | $ | 1,748 | $ | 5,005 | $ | 4,231 | ||||
See accompanying notes to the unaudited consolidated financial statements.
–5–
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited)
| Common Stock |
Capital Surplus |
Retained Earnings |
Accumulated Other Comprehensive Income (Loss) |
Treasury Stock |
Total Stockholders' Equity |
|||||||||||||||||
| (amounts in thousands) | ||||||||||||||||||||||
| Balance, December 31, 2006 |
$ | 784 | $ | 4,775 | $ | 31,355 | $ | (35 | ) | $ | (1,542 | ) | $ | 35,337 | ||||||||
| Net income |
4,953 | 4,953 | ||||||||||||||||||||
| Unrealized gain on available for sale securities, net of tax expense of $27 |
52 | 52 | ||||||||||||||||||||
| Exercise of stock options (5,266 shares) |
3 | 145 | 148 | |||||||||||||||||||
| Purchase treasury stock (10,000 shares) |
(485 | ) | (485 | ) | ||||||||||||||||||
| Cash dividends ($.87 per share) |
(1,327 | ) | (1,327 | ) | ||||||||||||||||||
| Balance, September 30, 2007 |
$ | 787 | $ | 4,920 | $ | 34,981 | $ | 17 | $ | (2,027 | ) | $ | 38,678 | |||||||||
See accompanying notes to the unaudited consolidated financial statements.
–6–
CONSOLIDATED STATEMENT OF CASH FLOWS (unaudited)
| (in thousands) | ||||||||
| For the nine months ended September 30, | 2007 | 2006 | ||||||
| Operating Activities |
||||||||
| Net income |
$ | 4,953 | $ | 4,043 | ||||
| Adjustments to reconcile net income to net cash provided by operating activities: |
||||||||
| Provision for loan losses |
750 | 400 | ||||||
| Depreciation and amortization |
529 | 558 | ||||||
| Amortization of premium and discount on investment securities, net |
(1,631 | ) | (800 | ) | ||||
| Amortization of net deferred loan origination fees |
(123 | ) | (91 | ) | ||||
| Origination of loans held for sale |
(5,237 | ) | (5,710 | ) | ||||
| Proceeds from sale of loans |
5,072 | 5,821 | ||||||
| Mortgage loans sold gains, net |
(98 | ) | (167 | ) | ||||
| Increase in accrued interest receivable |
(147 | ) | (271 | ) | ||||
| Increase (decrease) in accrued interest payable |
(60 | ) | 59 | |||||
| Deferred federal income taxes |
(285 | ) | (131 | ) | ||||
| Earnings on bank owned life insurance |
(263 | ) | — | |||||
| Other, net |
(296 | ) | (361 | ) | ||||
| Net cash provided by operating activities |
3,164 | 3,350 | ||||||
| Investing Activities |
||||||||
| Investment securities available for sale: |
||||||||
| Proceeds from maturities or paydown |
243,677 | 181,920 | ||||||
| Purchases |
(237,246 | ) | (182,001 | ) | ||||
| Net increase in loans |
(38,199 | ) | (16,704 | ) | ||||
| Redemption of Federal Home Loan Bank stock |
459 | 659 | ||||||
| Purchase of Federal Home Loan Bank stock |
(847 | ) | (623 | ) | ||||
| Purchase of bank-owned life insurance |
(2,000 | ) | — | |||||
| Purchase of premises and equipment |
(332 | ) | (124 | ) | ||||
| Net cash used for investing activities |
(34,488 | ) | (16,873 | ) | ||||
| Financing Activities |
||||||||
| Net increase in deposits |
20,436 | 27,780 | ||||||
| Increase (decrease) in short-term borrowings |
(1,947 | ) | 3,416 | |||||
| Proceeds from borrowed funds |
6,900 | 1,225 | ||||||
| Repayment of other borrowed funds |
(2,716 | ) | (3,810 | ) | ||||
| Purchase of treasury stock |
(485 | ) | (480 | ) | ||||
| Proceeds from exercise of stock options |
148 | 158 | ||||||
| Cash dividends paid |
(1,328 | ) | (1,188 | ) | ||||
| Net cash provided by financing activities |
21,008 | 27,101 | ||||||
| Increase (decrease) in cash and cash equivalents |
(10,316 | ) | 13,578 | |||||
| Cash and cash equivalents at beginning of period |
18,971 | 8,477 | ||||||
| Cash and cash equivalents at end of period |
$ | 8,655 | $ | 22,055 | ||||
| Amount paid for interest |
$ | 9,305 | $ | 6,515 | ||||
| Amount paid for income taxes |
$ | 2,439 | $ | 1,959 | ||||
See accompanying notes to the unaudited consolidated financial statements.
–7–
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements include the accounts of Dimeco, Inc. (the “Company”) and its wholly-owned subsidiary The Dime Bank (the “Bank”). The financial statements of The Dime Bank include the consolidated financial statements of the Bank’s wholly-owned subsidiary, TDB Insurance Services, LLC. All significant intercompany balances and transactions have been eliminated in the consolidation.
The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not necessarily include all information that would be included in audited financial statements. The information furnished reflects all adjustments which are, in the opinion of management, necessary for a fair statement of the results of operations. All such adjustments are of a normal recurring nature. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year.
Certain comparative amounts for prior periods have been reclassified to conform to current year presentation. The reclassifications did not affect net income or equity capital.
Recent Accounting Pronouncements
In September 2006, the FASB issued FAS No. 157, Fair Value Measurements, which provides enhanced guidance for using fair value to measure assets and liabilities. The standard applies whenever other standards require or permit assets or liabilities to be measured at fair value. The Standard does not expand the use of fair value in any new circumstances. FAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. Early adoption is permitted. The adoption of this standard is not expected to have a material effect on the Company’s results of operations or financial position.
In February 2007, the FASB issued FAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities – Including an amendment of FASB Statement No. 115, which provides all entities with an option to report selected financial assets and liabilities at fair value. The objective of the FAS No. 159 is to improve financial reporting by providing entities with the opportunity to mitigate volatility in earnings caused by measuring related assets and liabilities differently without having to apply the complex provisions of hedge accounting. FAS No. 159 is effective as of the beginning of an entity’s first fiscal year beginning after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007, provided the entity also elects to apply the provisions of FAS No. 157, Fair Value Measurements. The adoption of this standard is not expected to have a material effect on the Company’s results of operations or financial position.
In March 2007, the FASB ratified Emerging Issues Task Force Issue No. 06-10 (“EITF 06-10”), Accounting for Collateral Assignment Split-Dollar Life Insurance Agreements. EITF 06-10 provides guidance for determining a liability for the postretirement benefit obligation as well as recognition and measurement of the associated asset on the basis of the terms of the collateral assignment agreement. EITF 06-10 is effective for fiscal years beginning after December 15, 2007. The adoption of this standard is not expected to have a material effect on the Company’s results of operations or financial position.
–8–
In June 2007, the FASB ratified Emerging Issues Task Force Issue No. 06-11 (“EITF 06-11”), Accounting for Income Tax Benefits of Dividends on Share-Based Payment Awards. EITF 06-11 applies to share-based payment arrangements with dividend protection features that entitle employees to receive (a) dividends on equity-classified nonvested shares, (b) dividend equivalents on equity-classified nonvested share units, or (c) payments equal to the dividends paid on the underlying shares while an equity-classified share option is outstanding, when those dividends or dividend equivalents are charged to retained earnings under FAS No. 123R, Share-Based Payment, and result in an income tax deduction for the employer. A consensus was reached that a realized income tax benefit from dividends or dividend equivalents that are charged to retained earnings and are paid to employees for equity-classified nonvested equity shares, nonvested equity share units, and outstanding equity share options should be recognized as an increase in additional paid-in capital. EITF 06-11 is effective for fiscal years beginning after December 15, 2007, and interim periods within those fiscal years. The adoption of this standard is not expected to have a material effect on the Company’s results of operations or financial position.
In September 2006, the FASB reached consensus on the guidance provided by Emerging Issues Task Force Issue 06-4 (“EITF 06-4”), Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements. The guidance is applicable to endorsement split-dollar life insurance arrangements, whereby the employer owns and controls the insurance policy, that are associated with a postretirement benefit. EITF 06-4 requires that for a split-dollar life insurance arrangement within the scope of the Issue, an employer should recognize a liability for future benefits in accordance with FAS No. 106 (if, in substance, a postretirement benefit plan exists) or Accounting Principles Board Opinion No. 12 (if the arrangement is, in substance, an individual deferred compensation contract) based on the substantive agreement with the employee. EITF 06-4 is effective for fiscal years beginning after December 15, 2007. The Company is currently evaluating the impact the adoption of the EITF will have on the Company’s results of operations or financial condition.
–9–
Stock Options
The Company maintains a stock option plan for key officers and non-employee directors. There were no options granted in 2006 or 2007.
As of September 30, 2007 and 2006, there was no unrecognized compensation cost to unvested share-based compensation awards granted.
NOTE 2 – EARNINGS PER SHARE
There are no convertible securities which would affect the numerator in calculating basic and diluted earnings per share; therefore, net income as presented on the Consolidated Statement of Income (unaudited) will be used as the numerator. The following table sets forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings per share computation:
| Three months ended September 30, |
Nine months ended September 30, |
|||||||||||
| 2007 | 2006 | 2007 | 2006 | |||||||||
| Weighted average common stock outstanding |
1,573,024 | 1,559,393 | 1,571,907 | 1,556,773 | ||||||||
| Average treasury stock |
(53,000 | ) | (35,435 | ) | (46,407 | ) | (31,996 | ) | ||||
| Weighted average common stock and common stock equivalents used to calculate basic earnings per share |
1,520,024 | 1,523,958 | 1,525,500 | 1,524,777 | ||||||||
| Additional common stock equivalents (stock options) used to calculate diluted earnings per share |
58,231 | 49,719 | 56,679 | 48,707 | ||||||||
| Weighted average common stock and common stock equivalents used to calculate diluted earnings per share |
1,578,255 | 1,573,677 | 1,582,179 | 1,573,484 | ||||||||
–10–
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward Looking Statement
The Private Securities Litigation Act of 1995 contains safe harbor provisions regarding forward-looking statements. When used in this discussion, the words, “believes,” “anticipates,” “contemplated,” “expects,” and similar expressions are intended to identify forward-looking statements. Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. Those risks and uncertainties include changes in interest rates, the ability to control costs and expenses, and general economic conditions. The Company undertakes no obligation to publicly release the results of any revisions to those forward-looking statements which may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events
Financial Condition
Total assets were $429,603,000 at September 30, 2007, representing growth of $26,026,000 or 6.4% greater than reported for December 31, 2006.
Cash and cash equivalents declined $10,316,000 or 54.4% as these liquid monies were invested in loans during the period.
Investment securities available for sale declined $4,720,000 or 7.0% during 2007. Investments in callable U.S. government agency bonds were called when market interest rates were lower than the step up rate, resulting in a decline of $5,857,000 in this type investment. Investments in short-term commercial paper also declined during the period, resulting in $1,956,000 or 5.6% less than at the beginning of the year. Management purchased $3,471,000 of tax-exempt municipal bonds during the period, resulting in an increase of 47.3% in this type security. These bonds have been purchased mainly to pledge for public fund deposits and to extend maturities in smaller dollar amounts over longer time frames.
Loans increased by $38,149,000 or 12.5% from December 31, 2006 to total outstanding of $343,440,000 as of September 30, 2007. Loans secured by commercial real estate increased by $27,322,000 or 16.00%. The Bank continues to develop a niche in the children’s summer camp industry. Several large commercial real estate mortgages were granted to this sector during this period. Loans to a variety of other businesses have contributed to increase total balances in the commercial real estate mortgage category. Residential mortgage lending remains relatively stable from year to year. The bank closed 61 mortgages in 2007 as compared to 63 during the same period in 2006. All other loan categories remained relatively stable from year to year.
As we have noted in previous reports, the bank does not originate subprime mortgage loans and therefore has not had the problems that the industry has been experiencing with this type of lending. Community banks in general have not participated in this or any other predatory lending. These types of programs are not consistent with Dimeco’s mission statement which provides for our subsidiary, The Dime Bank, to provide services consistent with sound, prudent principles and to fulfill the social, economic, moral and political considerations associated with a responsible, well-run financial institution.
Bank-owned life insurance increased $2,234,000 or 37.9% over the period due to earnings along with the purchase of additional life insurance of $2,000,000 in the first quarter of 2007.
Total deposits increased $20,436,000 or 6.0% since December 31, 2006. Interest-bearing transaction accounts increased $14,996,000 or 37.9% due mainly to the seasonal receipts of tax dollars. Local school taxes are due by September 30 with discounts available for payment before this date. These funds are deposited in interest-bearing checking accounts until the taxing authority places the funds in certificates of deposit at local financial institutions. Early in October the bank was successful in bidding for $19,450,000 of certificates of deposit, which resulted in a decline of $12,383,000 in interest-bearing checking deposits. In addition, balances of money market deposits increased $6,441,000 or 18.3% during 2007. The bank pays interest using a tiered rate structure which allows us to compete favorably with local financial institutions, paying a slight discount to rates offered by larger institutions and brokerage houses for the highest balances. This strategy has allowed the bank to pay the higher rates only on large deposits and gives those customers a competitive rate combined with the ability to keep their deposits here.
–11–
Short-term borrowings declined $1,947,000 or 15.3% over the period. These borrowings are comprised entirely of commercial sweep accounts (securities sold under agreements to repurchase). Although the number of customers using this product has remained fairly stable over the period, the dollars invested by these customers has declined. With very competitive interest rates offered on certificates of deposit, many commercial customers have chosen to move funds that are not needed for immediate use into these longer term products. The bank has established a method to ease the paper and time requirements for business customers to invest in certificates of deposit.
Other borrowed funds increased $4,184,000 or 30.4% during the first nine months of the year. During the second quarter of 2007, we borrowed $6,900,000 from the Federal Home Loan Bank of Pittsburgh in order to lock in an interest spread on the funding of long term, fixed rate loans to commercial customers. A borrowing of $2,000,000 matured in June 2007 and was repaid along with regularly scheduled principal payments of $716,000 during the period.
Stockholders’ equity increased $3,341,000 or 9.5% during 2007, mainly attributable to earnings of $4,953,000. Dividends of $1,327,000 offset retained earnings and the purchase of 10,000 shares of treasury stock utilized $485,000. Regulatory ratios remain strong with capital ratios of 11.4% total risk-based capital and 10.2% Tier I capital and a Tier I leverage ratio of 9.2%. The regulatory minimums for these ratios are 8.0%, 4.0% and 3.0%, respectively.
Results of Operations
Comparison of the three months ended September 30, 2007 and 2006
Net income for the quarter ended September 30, 2007 was $1,857,000, representing an increase of $389,000 or 26.5% over the same quarter of 2006.
Net interest income of $4,552,000 represented an increase of $652,000 or 16.7% over that recorded for the third quarter of 2006. Interest and fees earned on loans was $6,785,000, an increase of $1,189,000 or 21.2% greater in 2007 than in 2006. The average balance of the portfolio increased $37,920,000 or 12.9% over the period and the average interest rate of the portfolio increased by .6% from 2006 to 2007, resulting in an average rate earned of 8.10% in 2007. Approximately 73% of our loan portfolio carries a variable interest rate which has increased over the previous year even though the prime interest rate declined in September 2007. Over half of these variable rate loans reprice on an annual basis thereby showing a lag in both rising and falling market conditions. During 2007 we experienced increases in our loan rates based upon 2006 increases in the prime rate.
Interest earned on taxable investments increased $171,000 or 27.4% in the third quarter of 2007 as compared to 2006. The average rate earned on the portfolio for the third quarter of 2007 was 5.41%, an increase of .42% over that earned in the same quarter of 2006. Each type of investment category showed a slight average rate increase with the exception of corporate bonds and equity investments. Each of these categories had purchases in 2007 made in a lower market rate environment than assets that were purchased previously. Taxable investments increased $8,603,000 or 17.4% on average in 2007 over the average balance for the same quarter of 2006.
Interest expense increased $728,000 or 30.0% during the third quarter of 2007 as compared to 2006. Interest paid on deposits increased $667,000 or 30.9% in 2007 over the same quarter in 2006. The average balance of interest-bearing deposits increased $40,623,000 or 15.1% while the average interest rate paid increased by .44% to 3.61% for the third quarter of 2007. Of all deposit products offered, average balances of certificates of deposit have increased the greatest, growing by $31,407,000 or 19.3% over the period. We have continued to offer competitive rates on certificates of deposit and are seeing a trend for customers to move funds from other types of lower-cost deposits into these certificates. We believe that the customers are actively looking for greater return on their investment while maintaining the security offered by FDIC insurance. Average balances of money market deposits increased $11,265,000 or 37.9% for the third quarter of 2007 as compared to the same period of 2006. The average interest rate paid for these deposits increased .30% to 3.81% due to a greater number of deposits in the highest interest rate tiers.
–12–
The provision for loan losses is charged to operations to bring the total allowance for loan losses to a level that represents management’s best estimates of the losses inherent in the portfolio, based on:
| • | historical experience; |
| • | volume; |
| • | type of lending conducted by the Bank; |
| • | industry standards; |
| • | the level and status of past due and non-performing loans; |
| • | the general economic conditions in the Bank’s lending area; and |
| • | other factors affecting the collectibility of the loans in its portfolio. |
Provision for loan loss expense was $300,000 in the third quarter of 2007, an increase of $115,000 or 62.2% greater than in 2006. We analyze the loan portfolio to determine what amount we believe is necessary for an adequate balance in the allowance for loan loss in order to determine the provision expense.
Noninterest income increased $163,000 or 21.5% in the third quarter of 2007 as compared to 2006. Service charges on deposit accounts increased $38,000 or 10.5% in 2007 versus 2006 based on the greater number of accounts serviced. Gains which were earned on the sale of mortgage loans declined $21,000 or 38.9% from 2006 to 2007. Opportunities for gains in the third quarter of 2006 were associated with changes in market interest rates and we were able to originate loans with rates that could be sold at a greater premium than in the current year. We regularly evaluate the criteria, including prepayment speeds, used to calculate the value of mortgage servicing rights. In the second half of 2006, we determined that the prepayment speed used to calculate the values should be lower. The value of these rights is included in the gain or loss on the sale of loans in the secondary market and therefore the benefit earned in 2007 was lower than in 2006. Other income increased $100,000 or 39.1% over a year earlier, due to a number of factors. Earnings on bank-owned life insurance were $32,000 or 54.2% greater in 2007 than in 2006 due to the purchase of additional life insurance in the first quarter of 2007 and higher rates earned on the existing policies. Interchange fees earned on our customers’ use of debit cards increased $19,000 or 32.2% in the third quarter of 2007 as compared to the same period in 2006 since we have increased the number of customers using cards over the past year. In addition, amortization of the value of mortgage servicing rights declined $17,000 or 49.0% in the third quarter of 2007 compared to 2006. This amortization is classified as an offset to participation fees earned on the servicing of loans for others and is therefore properly reported as a component of noninterest income. In 2006, more loans paid off early, accelerating the amortization expense associated with the servicing of the loans. Variances in several other earning categories are responsible for the additional income reported, no one of which was material alone.
Salaries and employee benefits increased $173,000 or 13.0% in the third quarter of 2007 as compared to 2006. Wages increased $99,000 or 10.6% in 2007 as compared to 2006 due to annual salary increases combined with four additional full time equivalent employees in 2007. Expenses related to changes in the supplemental executive retirement plans for key officers increased $22,000 or 146.0% in conjunction with the increased benefits offered in the plan. Employee benefits increased in relation to higher wages and having more employees who were eligible for benefits in the current year, adding $42,000 or 10.4% more in 2007 than in 2006.
Federal income taxes increased $162,000 or 23.5% in the third quarter of 2007 compared to the same quarter in 2006. Income before taxes increased $551,000 or 25.5% for the same period, necessitating the additional tax expense.
Comparison of the nine months ended September 30, 2007 and 2006
Net income for 2007 increased $910,000 or 22.5% over the nine months ended September 30, 2006. Net interest income increased $1,724,000, or 15.5%, over that recorded in 2006.
Interest income increased $4,395,000 or 24.9% in 2007 compared to 2006. As a community bank, interest earned on loans is the largest component of income. This category increased $3,554,000 or 22.8% based on a combination of $30,025,000 more in the average balance and an increase of .81% in the average interest rate received on loans. Variable rate loans comprise 73% of the loan portfolio and rates on these loans have increased during the first nine months of the year. It has been our practice to fix the interest rate on commercial real estate loans for up to three years after which the interest rate varies with changes in the prime rate. Many loans which were granted during a lower point in the interest rate cycle have re-priced to higher interest rates, accounting for the increase in the average interest rate earned on loans in 2007.
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Interest earned on taxable investments increased $748,000 or 43.0% during the first nine months of 2007 as compared to the same period in 2006. Over that time, the average portfolio increased $14,468,000 or 29.8% while the average interest rate earned on the bonds increased 49 basis points to 5.26%. We have continued to replace the majority of investment maturities and additional funds in short-term commercial paper to continue to have liquidity and our belief that interest rates for longer term bonds do not fit our return criteria at this time.
Interest expense increased $2,671,000 or 40.6% in 2007 as compared to 2006. Interest paid on deposits is the greatest expense for community banks. This category accounted for an increase of $2,624,000 or 45.4% more in the current year than in 2006. The average balance of interest-bearing deposits increased by $45,008,000 or 17.0% while the average interest rate paid increased 71 basis points to 3.64% in 2007. The average balance of money market accounts increased $11,356,000 or 40.9% over this time while the average interest rate paid grew by .81%. The average balance of certificates of deposit increased $37,746,000 or 23.7% over balances in 2006 and the average interest rate paid increased by .67% to 4.68% in 2007. Management has continued to offer very competitive interest rates on special short term certificates in order to maintain current deposits and attract new customers. Local competition for deposits continues to be strong. We believe that people are regaining confidence in the market and have become more proficient at shopping for the best interest rates when investing in certificates of deposit with much less regard to being loyal to one institution.
The provision for loan loss increased $350,000 or 87.5% due to management’s analysis of risk inherent in the loan portfolio. We have reviewed the analysis of the allowance for loan loss and believe that the level is adequate.
Noninterest income increased $290,000 or 12.7% to $2,571,000 in 2007 from income earned in 2006. Service charges on deposit accounts increased $88,000 or 8.0% based on a greater number of deposit accounts which are eligible for these fees. Gains on mortgage loans sold in the secondary market declined $69,000 or 41.3%. During the first nine months of 2006 gains were greater because we were able to originate loans with rates that could be sold at a greater premium than in the current year. In addition, we regularly evaluate the criteria, including prepayment speeds, used to calculate the value of mortgage servicing rights. In the second half of 2006, we determined that the prepayment speed used to calculate the values should be lower, thereby recognizing less gain on each sale since the value of these rights is included in the gain on the sale of loans in the secondary market. Other income increased $206,000 or 27.4%. In 2006 we recognized a recovery in market value of $60,000 in mortgage servicing rights which was not matched in 2007. Offsetting this decline in noninterest income were increases in several other categories. Earnings on the cash surrender value of life insurance policies increased $93,000 or 54.8% due to new policy purchases combined with an increase in the variable earnings rate on existing policies. Interchange fees earned on our customers’ use of debit cards increased $60,000 or 39.4% due to additional cards placed in service during the past year. Income relating to the merchant credit card program increased $28,000 or 31.7% in 2007 because a one-time refund was processed in 2006; we did not have a comparable situation in 2007. Income recognized from TDB Insurance Services, LLC, a wholly-owned subsidiary of The Dime Bank, increased $25,000 or 53.0% in 2007 with a greater number of customers utilizing our title insurance service. Variances in several other earning categories are responsible for the additional income reported, no one of which was material alone.
Salaries and employee benefits expense increased $450,000 or 11.5%. Salaries increased $269,000 or 9.8% in 2007 over the first nine months of 2006 due to normal annual salary increases along with the addition of four full time equivalent employees during that period. Employee incentives are accrued based on certain goals which are established in the beginning of each year. The trigger of these goals is related to return on equity for the Company, a ratio that is at its highest level for the employee incentives. All other goals have been achieved for the year; therefore the accrual of incentives has increased $47,000 or 16.3% over the previous year. Benefits relating to changes in the supplemental executive retirement plans for key officers increased expense by $65,000 in 2007. The remaining increase in costs is associated with employee benefits offered.
Income taxes increased $367,000 or 19.4% in 2007 as compared to 2006. Income before income taxes increased $1,277,000 or 21.5% during the same period. The increase in federal income tax is at a lower percentage growth due to a combination of a increase of $3,069,000 or 59.1% in the average balance of tax-exempt municipal bonds and $1,717,000 or 49.0% in tax-exempt municipal loans during the period. As stated previously, we have made an effort to invest in tax-exempt assets as opportunities for comparable interest rates on a tax equivalent basis arise.
Liquidity and Cash Flows
To ensure that the Company can satisfy customer credit needs for current and future commitments and deposit withdrawal requirements, the Bank manages the liquidity position by ensuring that there are adequate short-term funding sources available for
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those needs. Liquid assets consist of cash and due from banks, federal funds sold, interest-bearing deposits with other banks and investment securities maturing in one year or less. The following table shows these liquidity sources, minus short-term borrowings, as of September 30, 2007 compared to December 31, 2006:
| September 30, 2007 |
December 31, 2006 |
|||||||
| (dollars in thousands) | ||||||||
| Cash and due from banks |
$ | 5,797 | $ | 6,684 | ||||
| Interest-bearing deposits with other banks |
23 | 2,287 | ||||||
| Federal funds sold |
2,835 | 10,000 | ||||||
| Mortgage loans held for sale |
262 | — | ||||||
| Investment securities maturing or repricing in one year or less |
41,432 | 54,714 | ||||||
| 50,349 | 73,685 | |||||||
| Less short-term borrowings |
10,758 | 14,705 | ||||||
| Net liquidity position |
$ | 39,591 | $ | 58,980 | ||||
| As a percent of total assets |
9.2 | % | 14.6 | % | ||||
Short-term borrowings includes the portion of long-term debt that matures within the next twelve months.
The Bank has the ability to borrow from the Federal Home Loan Bank of Pittsburgh with the maximum borrowing capacity at September 30, 2007 of $78 million. Other sources of liquidity are cash flows from regularly scheduled and prepayments of loans, sales or maturities in the investment portfolio, sales of residential mortgages in the secondary market, operating income and deposit growth. The Consolidated Statement of Cash Flows specifically details the contribution of each source.
Management monitors liquidity on a consistent basis and feels that liquidity levels are adequate. We are not aware of any known trends, events or uncertainties that will have or is reasonably likely to have a material effect on the Company’s liquidity, capital resources or operations nor are we aware of any current recommendations by regulatory authorities, which if implemented, would have such an effect.
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Risk Elements
The table below presents information concerning nonperforming assets including nonaccrual loans, renegotiated loans, loans 90 days or more past due, other real estate loans and repossessed assets at September 30, 2007 and December 31, 2006. A loan is classified as nonaccrual when, in the opinion of management, there are doubts about collectability of interest and principal. At the time the accrual of interest is discontinued, future income is recognized only when cash is received. Impaired loans are recognized according to FASB 114, “Accounting by Creditors for Impairment of a Loan – Income Recognition and Disclosure.”
| September 30, 2007 |
December 31, 2006 |
|||||||
| (dollars in thousands) | ||||||||
| Loans on nonaccrual basis |
$ | 448 | $ | 426 | ||||
| Loans past due 90 days or more |
412 | 290 | ||||||
| Impaired loans |
— | — | ||||||
| Total nonperforming loans |
860 | 716 | ||||||
| Other real estate |
— | — | ||||||
| Repossessed assets |
— | 7 | ||||||
| Total nonperforming assets |
$ | 860 | $ | 723 | ||||
| Nonperforming loans as a percent of total loans |
0.3 | % | 0.2 | % | ||||
| Nonperforming assets as a percent of total assets |
0.2 | % | 0.2 | % | ||||
| Allowance for loan loss as a percent of loans |
1.47 | % | 1.46 | % | ||||
Management believes the level of the allowance for loan losses at September 30, 2007 is adequate to cover probable losses inherent in the loan portfolio. The relationship between the allowance for loan losses and outstanding loans is a function of the credit quality and known risk attributed to the loan portfolio. The on-going loan review program, along with management analysis, is used to determine the adequacy of the allowance for loan losses.
At September 30, 2007 there were loans classified as impaired under the terms of FAS No. 114, “Accounting by Creditors for Impairment of a Loan – Income Recognition and Disclosure” of $3,126,000 with a related allowance for loan loss of $1,446,000. The average balance of these loans was $3,232,000 in 2007. Interest recognized on these loans was $196,000 in 2007. There were no loans in this category on September 30, 2006.
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
A key function of management in its role as the Asset/Liability Committee (“ALCO”) is to evaluate the Company’s exposure to interest rate risk. The primary business of the Company in the financial services industry is to act as a depository financial intermediary. In this role, an integral element of risk involves the chance that prevailing interest rates will adversely affect assets, liabilities, capital, income and/or expense at different times and in different amounts. The ALCO is comprised of all senior officers of the bank and other key officers. This committee reports directly to the Board of Directors on at least a quarterly basis.
Two separate reports are used to assist in measuring interest rate risk. The first is the Statement of Interest Sensitivity Gap report. This report matches all interest-earning assets and all interest-bearing liabilities by the time frame in which funds can be reinvested or repriced. The second report is the Interest Rate Shock Analysis discussed in more detail below. In both reports, there are inherent assumptions that must be used in the evaluation. These assumptions include the maturity or repricing times of deposits, even though all deposits, other than time deposits, have no stated maturity and the reference that interest rate shifts will be parallel, with the rates of assets and liabilities shifting in the same amount in the same time frame. In reality, various assets and various liabilities will react differently to changes in interest rates, with some lagging behind the change and some anticipating the upcoming change and reacting before any actual change occurs. Each tool also suggests that there is a propensity to replace assets and liabilities with similar assets and liabilities rather than taking into consideration management’s ability to reallocate the Balance Sheet. In addition, the models used do not include any elements to determine how an action by management to increase or decrease interest rates charged on loans or paid on deposits or to increase borrowings at the FHLB will affect the results of the analysis. In spite of these limitations, these analyses are still very good tools to assist in management of the Company and similar versions of these same reports are used by all financial institutions.
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Statement of Interest Sensitivity Gap
| 90 days or less |
>90 days but < 1 year |
1 - 5 years |
>5 years | Total | |||||||||||||||
| Assets: |
|||||||||||||||||||
| Interest-bearing deposits in other banks and federal funds sold |
$ | 2,858 | $ | — | $ | — | $ | — | $ | 2,858 | |||||||||
| Mortgage loans held for sale |
262 | — | — | — | 262 | ||||||||||||||
| Investment securities available for sale (4) (6) |
37,062 | 4,370 | 10,349 | 12,067 | 63,848 | ||||||||||||||
| Loans (1) (5) |
94,366 | 81,719 | 95,697 | 71,405 | 343,187 | ||||||||||||||
| Rate sensitive assets |
$ | 134,548 | $ | 86,089 | $ | 106,046 | $ | 83,472 | $ | 410,155 | |||||||||
| Liabilities: |
|||||||||||||||||||
| Interest-bearing deposits: |
|||||||||||||||||||
| Interest-bearing demand (2) |
$ | 4,363 | $ | 13,634 | $ | 36,537 | $ | — | $ | 54,534 | |||||||||
| Money market (3) |
7,092 | 20,858 | 13,767 | — | 41,717 | ||||||||||||||
| Savings (2) |
2,633 | 8,227 | 22,049 | — | 32,909 | ||||||||||||||
| Time deposits |
52,900 | 98,876 | 43,480 | — | 195,256 | ||||||||||||||
| Short-term borrowings |
10,757 | — | — | — | 10,757 | ||||||||||||||
| Other borrowings |
286 | 877 | 6,199 | 10,585 | 17,947 | ||||||||||||||
| Rate sensitive liabilities |
$ | 78,031 | $ | 142,472 | $ | 122,032 | $ | 10,585 | $ | 353,120 | |||||||||
| Interest sensitivity gap |
$ | 56,517 | $ | (56,383 | ) | $ | (15,986 | ) | $ | 72,887 | $ | 57,035 | |||||||
| Cumulative gap |
$ | 56,517 | $ | 134 | $ | (15,852 | ) | $ | 57,035 | ||||||||||
| Cumulative gap to total assets |
13.16 | % | 0.03 | % | (3.69 | )% | 13.28 | % | |||||||||||
| (1) |
Loans are included in the earlier period in which interest rates are next scheduled to adjust or in which they are due. |
No adjustment has been made for scheduled repayments or for anticipated prepayments.
| (2) |
Interest-bearing demand deposits and savings are segmented based on the percentage of decay method. |
The decay rates used include "90 days or less" 8%, " >90 days but <1 year" 25% and "1-5 years" 67%.
| (3) |
Money market deposits are segmented based on the percentage of decay method. |
The decay rates used include "90 days or less" 17%, ">90 days but < 1 year" 50% and "1-5 years" 33%.
| (4) |
Includes Federal Home Loan Bank and Atlantic Central Bankers Bank stock which is included in Other Assets on the Consolidated Financial Statements. |
| (5) |
Does not include loans in nonaccrual status, deposit overdrafts, unposted items or deferred fees on loans. |
| (6) |
Investments are included in the earlier period in which interest rates are next scheduled to adjust or in which they are due. |
Included are U.S. Government Agency step-up bonds characterized by having tiered interest rates over their life.
Due to this feature these securities have been reallocated from their maturity date to their next step-up date.
The specific impact of this policy by timeframe is as follows: "90 days or less" increased $997, ">90 days but < 1 year" increased $994, "1-5 years" increased $1,000 and ">5 years" decreased $2,991.
As this report shows, the Company was nearly balanced at September 30, 2007 with .03% of the assets maturing or repricing before liabilities in that time frame. As interest rates are in flux, this is the most conservative position for a financial institution.
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The second report used to monitor interest rate risk is the Interest Rate Shock Analysis. This tool attempts to determine the affect on income of various shifts in the interest rate environment. In particular, a shift of 200 basis points, or 2% in interest rates, is the industry standard. Given a downward shift of 200 basis points, net interest income would decrease by $865,000 or 4.9% while net income would decrease $618,000 or 9.4%. The results of a potential shift of 200 basis points in either direction are well within internal policy guidelines. If the results were not tolerable, our policy would determine that management should reallocate the Balance Sheet in order to maintain compliance with the policy. If interest rates were to immediately increase 200 basis points, the economic value of equity (EVE) would decline $2,847,000 or 5.5%. The economic value of equity is sometimes referred to as the present value of equity and is presented as one more statistic to monitor in managing interest rate risk.
| 100 basis points | 200 basis points | |||||||||||||||||||||||||||
| Up | Down | Up | Down | |||||||||||||||||||||||||
| Amount | % | Amount | % | Amount | % | Amount | % | |||||||||||||||||||||
| Net interest income |
$ | 499 | 2.84 | % | $ | (411 | ) | -2.34 | % | $ | 962 | 5.47 | % | $ | (865 | ) | -4.92 | % | ||||||||||
| Net income |
$ | 352 | 5.35 | % | $ | (295 | ) | -4.47 | % | $ | 681 | 10.34 | % | $ | (618 | ) | -9.37 | % | ||||||||||
| EVE |
$ | (1,173 | ) | -2.26 | % | $ | 1,061 | 2.04 | % | $ | (2,847 | ) | -5.49 | % | $ | 1,870 | 3.60 | % | ||||||||||
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Evaluation of disclosure controls and procedures
As of September 30, 2007 an evaluation was performed under the supervision and with the participation of the Company’s management, including the CEO and CFO, on the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on that evaluation, the Company’s management, including the CEO and CFO, concluded that the Company’s disclosure controls and procedures were effective as of September 30, 2007. There have been no significant changes in the Company’s internal controls over financial reporting or in other factors that could significantly affect internal controls during the quarter.
Disclosure controls and procedures are the controls and other procedures that are designed to ensure that the information required to be disclosed by the Company in its reports filed and submitted under the Securities Exchange Act of 1934, as amended (“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 its reports filed under the Exchange Act is accumulated and communicated to the Company’s management, including the principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.
Changes in internal controls
There were no significant changes in the Registrant’s internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
–20–
| — | Legal Proceedings | |||
| NONE | ||||
| — | Risk Factors | |||
| There were no material changes to the risk factors described in Item 1a. in Dimeco’s Annual Report on Form 10K for the period ended December 31, 2006. | ||||
| — | Unregistered Sales of Equity Securities and Use of Proceeds | |||
| Total number of shares purchased |
Average price paid per share |
Total number of shares purchased as part of
publicly or programs |
Maximum number of shares that may yet be purchased under the plans or programs | ||||||
| 07/01/07 to 07/31/07 |
— | $ | — | — | |||||
| 08/01/07 to 08/31/07 |
— | $ | — | — | |||||
| 09/01/07 to 09/30/07 |
— | $ | — | — | |||||
| Total |
— | $ | — | — | 129,849 | ||||
| — | Defaults upon Senior Securities | |||
| Item 4 |
— | NONE | ||
| — | Other Information | |||
| NONE | ||||
–21–
| — | Exhibits | |||
Form 8K—Report on October 23, 2007—News Release of Registrant
| Exhibit Number: |
||
| 31.1 | Certification Pursuant to 15 U.S.C. Section 10A, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2003 | |
| 31.2 | Certification Pursuant to 15 U.S.C. Section 10A, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2003 | |
| 32 | Certification Pursuant to 18 U.S.C. Section 1350 | |
| 99 | Report of Independent Registered Public Accounting Firm | |
The following exhibits are included in this Report or incorporated herein by reference:
| 3(i) | Articles of Incorporation of Dimeco, Inc.* | |
| 3(ii) | Amended Bylaws of Dimeco, Inc.**** | |
| 10.1 | 2000 Independent Directors Stock Option Plan** | |
| 10.2 | 2000 Stock Incentive Plan*** | |
| 10.3 | Form of Salary Continuation Plan for Executive Officers**** | |
| * | Incorporated by reference to the Exhibit 3A to the Form S-4 (File No. 333-58936) filed with the Commission on February 26, 1993. |
| ** | Incorporated by reference to Exhibit 99.1 to the Form S-8 (File No. 333-69420) filed with the Commission on September 14, 2002. |
| *** | Incorporated by reference to Exhibit 99.1 to the Form S-8 (File No. 333-69416) filed with the Commission on September 14, 2002. |
–22–
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused the report to be signed on its behalf by the undersigned, thereunto duly authorized.
| DIMECO, INC. | ||||
| Date: November 9, 2007 | By: | /s/ Gary C. Beilman | ||
| Gary C. Beilman | ||||
| President and Chief Executive Officer | ||||
| Date: November 9, 2007 | By: | /s/ Maureen H. Beilman | ||
| Maureen H. Beilman | ||||
| Chief Financial Officer | ||||
–23–