ITEM 1 BUSINESS 1
ITEM 2
ITEM 2 - Properties
The Bank's operations are located at six sites in Union Township, one in Springfield Township, one in Berkeley Heights, and one in Vauxhall, Union County, New Jersey. The Bank also has one site in Madison, Morris County, New Jersey. The principal office is located at 2455 Morris Avenue, Union, Union County, New Jersey. The principal office is a two story building constructed in 1993.
All but four of the locations are owned by the Bank. The lease of the Five Points Branch located at 356 Chestnut Street, Union, New Jersey expires November 30, 2002 and is subject to renewal at the Bank's option. The Career Center Branch located in Union High School expires December 31, 2002 and is also subject to renewal at the Bank's option and the lease of the Madison office located at 300 Main Street, Madison, New Jersey expires June 6, 2005 and is subject to renewal at the Bank's option. The lease of the Millburn Mall Branch located at 2933 Vauxhall Road, Vauxhall, New Jersey expires February 01, 2003 and is subject to renewal at the Bank's option and the lease of the Morristown office located at 86 South Street, Suite 2A, Morristown, New Jersey expires February 28, 2003 and is subject to renewal at the Bank's option. (See the back
inside cover of the 1997 Annual Report for a complete listing of all branches and locations. The Drive In/walk Up located at 2022 Stowe Street, Union, New Jersey is adjacent to a part of the Main Office facility.) The Bank has two off-site ATM's, one at Union Hospital, 100 Galloping Hill Road, Union, New Jersey and one at Union County College, 1033 Springfield Avenue, Cranford, New Jersey.
ITEM 3
ITEM 3 - Legal Proceedings
There are no significant pending legal proceedings involving the Parent Corporation or Bank other than those arising out of routine operations. Management does not anticipate that the ultimate liability, if any, arising out of such litigation will have a material effect on the financial condition or results of operations of the Parent Corporation and Bank on a consolidated basis.
ITEM 4
ITEM 4 - Submission of Matters to a Vote of Security Holders
The Corporation had no matter submitted to a vote of security holders during the fourth quarter of 1997.
ITEM 4 A-Executive Officers
The following table sets forth the name and age of each executive officer of the Parent Corporation, the period during which each such person has served as an officer of the Parent Corporation or the Bank and each such person's business experience (including all positions with the Parent Corporation and the Bank) for the past five years:
Part II
ITEM 5
ITEM 5 - Market Information For the Registrant's Stock and Related Stockholder Matters
The information required by Item 5 of Form 10-K appears on page 33 of the 1997 Annual Report and is incorporated herein by reference. As of December 31, 1997, there were 609 holders of record of the Parent Corporation's Common Stock.
ITEM 6
ITEM 6 - Selected Financial Data
The information required by Item 6 of Form 10-K appears on pages 1 and 13 of the 1997 Annual Report and is incorporated herein by reference.
ITEM 7
ITEM 7 - Management's Discussion And Analysis of Financial Condition and Results of Operations
The information required by Item 7 of Form 10-K appears on pages 14 - 35 of the 1997 Annual Report and is incorporated herein by reference.
ITEM 7A
ITEM 7A - Quantitative and Qualitative Disclosures About Market Risk
The information required by Item 7A of Form 10-K appears on pages 28, 29, and 30 of the 1997 Annual Report and is incorporated herein by reference.
ITEM 8
ITEM 8 - Financial Statements and Supplementary Data
The information required by Item 8 of Form 10-K appears on pages 36 - 39 of the 1997 Annual Report and is incorporated herein by reference.
ITEM 9
ITEM 9 - Changes In and Disagreements With Accountants on Accounting and Financial Disclosures
None
Part III
ITEM 10
ITEM 10 - Directors of the Registrant
The Corporation responds to this item by incorporating herein by reference the material responsive to such item in the Corporation's definitive proxy statement for its 1998 Annual Meeting of Stockholders.
ITEM 11
ITEM 11 - Executive Compensation
The Corporation responds to this item by incorporating herein by reference the material responsive to such item in the Corporation's definitive proxy statement for its 1998 Annual Meeting of Stockholders.
ITEM 12
ITEM 12 - Security Ownership of Certain Beneficial Owners and Management
The Corporation responds to this item by incorporating herein by reference the material responsive to such item in the Corporation's definitive proxy statement for its 1998 Annual Meeting of Stockholders.
ITEM 13
ITEM 13 - Certain Relationships and Related Transactions The Corporation responds to this item by incorporating herein by reference the material responsive to such item in the Corporation's definitive proxy statement for its 1998 Annual Meeting of Stockholders.
Part IV
ITEM 14
ITEM 14 - Exhibits, Financial Statement Schedules, and Reports on Form 8 -K - -------------------------------------------------------------------------------- A1. Financial Statements
Page in Annual Report
Consolidated Statements of Condition-December 31, 1997, and 1996 36 - -------------------------------------------------------------------------------- Consolidated Statements of Income for the years ended December 31, 1997, 1996 and 1995 37 - -------------------------------------------------------------------------------- Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1997, 1996 and 1995 38 - -------------------------------------------------------------------------------- Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995 39 - -------------------------------------------------------------------------------- Notes to Consolidated Financial Statements 40 - 57 - -------------------------------------------------------------------------------- Report of Independent Auditors 58 - --------------------------------------------------------------------------------
A2. Financial Statement Schedules
All Schedules have been omitted as inapplicable, or not required, or because the required information is included in the Consolidated Financial Statements or the notes thereto.
A3. Exhibits
3.1 Certificate of Incorporation of the Registrant is incorporated by reference to Exhibit 3.1 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1992
3.2 Bylaws of the Registrant is incorporated by reference to Exhibit 3.2 to the Registrant's Annual Report on Form 10-K for the year ended December 31,
10.1 Employment agreement between the Registrant and Don Bennetti.
10.2 Employment agreement between the Registrant and John J. Davis is incorporated by reference to exhibit 10.2 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995
10.3 The Registrant's Employee Stock Option Plan is incorporated by reference to exhibit 10.3 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1993
10.4 The Registrant's Outside Director Stock Option Plan is incorporated by reference to exhibit 10.4 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1993
10.5 Supplemental Executive Retirement Plans ("SERPS") are incorporated by reference to exhibit 10.5 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1994
10.6 Executive Split Dollar Life Insurance Plan is incorporated by reference to exhibit 10.5 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1994
10.7 Employment agreement between the Registrant and Anthony C. Weagley, dated as of January 1, 1996 is incorporated by reference to exhibit 10.7 to the Registrant's Annual Report on Form 10-K for the year ended December 31,
10.8 Agreement and Plan of Merger, by and between the Registrant and Lehigh Savings Bank, SLA., dated as of February 14, 1996, as amended is incorporated by reference to exhibit 2 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995
10.9 Inducement Agreement, dated February 14, 1996 by and between the Registrant and the trustee under a trust agreement applicable to the majority shareholder of Lehigh Savings Bank, SLA is incorporated by reference to exhibit 10.2 of the Registrant's for 10-Q for the period ended March 31, 1996.
11.1 Statement regarding computation of per share earnings is omitted because the computation can be clearly determined from the material incorporated by reference in this Report.
13.1 Registrant's Annual Report to Shareholders for the year ended December 31, 1997 (parts not incorporated by reference are furnished for information purposes only and are not to be deemed to be filed herewith.)
21.1 Subsidiaries of the Registrant is incorporated by reference to exhibit 22.1 to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1992
23.1 Consent of KPMG Peat Marwick LLP
27.1 Financial Data Schedule
B. Reports on Form 8-K
There were no reports on Form 8-K filed by the Registrant during the fourth quarter of 1997.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, Center Bancorp Inc. has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
CENTER BANCORP INC.
/s/ JOHN J. DAVIS ------------------------------------- John J. Davis President and Chief Executive Officer
Dated March 31, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant, in the capacities described below and on the date indicated above:
/s/ CHARLES P. WOODWARD /s/ HUGO BARTH, III - ------------------------------------- ------------------------------------- Charles P. Woodward, Hugo Barth, III Director and Chairman of the Board Director
/s/ ROBERT L. BISCHOFF /s/ ALEXANDER BOL - ------------------------------------- ------------------------------------- Robert L. Bischoff Alexander Bol Director Director
/s/ BRENDA CURTIS /s/ DONALD G. KEIN - ------------------------------------- ------------------------------------- Brenda Curtis Donald G. Kein Director Director
/s/ JOHN J. DAVIS /s/ HERBERT SCHILLER - ------------------------------------- ------------------------------------- John J. Davis Herbert Schiller President and Chief Executive Officer Director and Director
/s/ PAUL LOMAKIN, JR. /s/ STAN R. SOMMER - ------------------------------------- ------------------------------------- Paul Lomakin, Jr. Stan R. Sommer Director Director
/s/ WILLIAM THOMPSON /s/ ANTHONY C. WEAGLEY - ------------------------------------- ------------------------------------- William Thompson Anthony C. Weagley Director Vice President & Treasurer ( Chief Accounting and Financial Officer)
Financial Hilights - ------------------------------------------------------------------------------
All share and per share amounts have been restated to reflect the 5% stock dividend paid in May, 1997 and the 3-for-2 stock split paid in May, 1996.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS
The following introduction to Management's Discussion and Analysis highlights the principal activities of Center Bancorp Inc. that have contributed to its earnings performance in 1997.
Center Bancorp's performance for 1997 was highlighted by loan growth, principally in the mortgage and consumer loan portfolios, with consistent asset quality which resulted in no additional provision to the allowance for loan losses and no other real estate owned (OREO) at December 31, 1997. 1997 represented another year of solid earnings. As a result of sustained earnings and capital growth, dividends were maintained at over a 40 percent dividend payout ratio and the Board of Directors declared a 5% stock dividend. The stock dividend was paid May 31, 1997, and constituted the fourth time in the last five years that the Corporation has either paid a stock dividend or declared a stock split.
Net income for the twelve months ended December 31, 1997, amounted to $4,511,000 as compared to $4,157,000 and $4,040,000 earned for the comparable periods in 1996 and 1995, respectively. Basic earnings per share amounted to $1.91 as compared to $1.77 and $1.73 earned in 1996 and 1995, respectively. Diluted earnings per share were $1.90 for 1997 compared to $1.77 in 1996 and $1.73 in 1995. These figures have been restated to reflect the five percent stock dividend in 1997, and the three-for-two stock split in 1996.
Earnings performance for 1997 reflected increased net interest income being offset in part by an increase in operating expenses. These expenses were a direct result of the growth and expansion of Union Center National Bank (the "Bank"). The increased net interest income was primarily a result of a change in the asset mix, and an increased volume of earnings-assets, offset in part by an increased volume of interest-bearing liabilities that partially funded earning-asset growth. The expanded level of net average earning-assets was primarily supported by an increased level of average interest-bearing time deposits.
The Corporation's total assets grew to an all time year-end high of $473.1 million at December 31, 1997, increasing $13.9 million or 3 percent over December 1996 levels. The return on average assets was 0.94 percent in 1997, as compared with 1.00 percent and 1.15 percent in 1996 and 1995, respectively.
A continuing key element of the Corporation's consistent performance is its strong capital base. The Corporation's risk-based capital ratios at December 31, 1997 were 15.5 percent for Tier I capital and 16.2 percent for total risk-based capital. These ratios substantially exceed the minimum of 4 percent for Tier I capital and 8 percent for total capital under regulatory guidelines. From a performance viewpoint, return on tangible average shareholder's equity was 15.9 percent in 1997, compared with 15.2 percent for 1996 and 15.3 percent in 1995.
The following sections discuss the Corporation's Results of Operations, Asset and Liability Management, Liquidity and Capital Resources. - --------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
RESULTS OF OPERATIONS
The most significant component of Center Bancorp's is net interest income, which is the difference between the interest earned on the portfolio of earning assets (principally investments and loans) and the interest paid for deposits and short-term borrowings which support these assets.
Net interest income is directly affected by changes in the volume and mix of interest-earning-assets and interest-bearing liabilities which support those assets, as well as changes in the rates earned and paid. Net interest income is presented in this financial review on a fully tax-equivalent basis, whereby tax-exempt income (primarily interest earned on various obligations of state and political subdivisions) was adjusted by the amount of income tax which would have been paid had the assets been invested in taxable issues- As a result, the net interest income data presented in this financial review differ from the Corporation's net interest income components of the consolidated financial statements presented elsewhere in this report.
The following table presents the components of net interest income (on a tax-equivalent basis) for the past three years.
*Before the provision (credit) for loan losses. NOTE: The tax-equivalent adjustment was computed based on an assumed statutory Federal income tax rate of 34 percent. Adjustments were made for interest earned on securities of state and political subdivisions.
NET INTEREST INCOME
Net interest income on a fully tax-equivalent basis increased $1.3 million or 8.3 percent to approximately $16.7 million during 1997 from approximately $15.4 million for 1996. The net interest margin decreased from 4.01 percent to 3.75 percent for 1997 due to the effect of the increased cost of funds reflecting the rise in short-term interest rates that prevailed throughout most of 1997. This was offset in part by an increase in the average volume of interest-earning assets in 1997 as compared to 1996. The average balance of interest-earning assets and interest-bearing liabilities increased from $385.0 million and $321.3 million, respectively, in 1996 to $445.2 million and $371.6 million, respectively, in 1997. Net average interest-earning-assets increased from $63.8 million in 1996 to $73.6 in 1997. The 1997 change in average balances was primarily due to increased volumes of taxable investments funded with increased volumes of time deposits.
The average yield on interest-earning assets remained even from 1996 to 1997 (7.01 % in both years) while there was a substantial increase in the average cost of interest-bearing liabilities (3.61 percent in 1996 versus 3.90 percent in 1997), reflecting the rise in short-term interest rates that prevailed through most of 1997.
The factors underlying the year-to-year changes in net interest income are reflected in the tables appearing below and on page 35, both of which have been presented on a tax-equivalent basis (assuming a 34 percent tax rate). The table on page 35 (Average Statements of Condition with Interest and Average Rates) shows the Corporation's consolidated average balance of assets, liabilities and stockholders' equity, the amount of income produced from interest-earning assets and the amount of expense resulting from interest-bearing liabilities, and net interest income as a percentage of average interest-earning assets. The table on page 18 (Analysis of Variance in Net Interest Income Due to Volume and Rates) quantifies the impact on net interest income resulting from changes in average balances and average rates over the past three years. Any change in interest income or expense attributable to both changes in volume and changes in rate has been allocated in proportion to the relationship of the absolute dollar amount of change in each category. - ------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
ANALYSIS OF VARIANCE IN NET INTEREST INCOME DUE TO VOLUME AND RATES
Interest income (tax-equivalent) increased by $4.2 million from 1996 to 1997 and by $4.6 million from 1995 to 1996. The primary factor in the improvement in interest income during 1997 was the increased level of earning-assets, as previously noted. The Corporation's loan portfolio increased on average by $17.6 million, primarily as a result of increased volumes of commercial real estate, commercial and home equity loans. This increase was primarily achieved through increased business development. The loan portfolio (traditionally the highest yielding type of interest-earning asset) represented 28.1 percent of the Corporation's interest-earning assets (on average) during 1997 as compared with 28.0 percent of such assets (on average) during 1996. The increased level of interest income generated from the loan portfolio in 1997 was due to increased volume, as the average yield on the Corporation's loans declined by 3 basis points.
Investments contributed the most significant change in the earning-asset mix in 1997. Investment volume which increased on average by $41.3 million was driven by increased deposit volume, primarily time deposits. Within the investment portfolio, volume increases in taxable securities of $45.1 million far outweighed (decreases) in the non-taxable portfolio of $3.8 million. The substantial growth in the taxable securities portfolio reflects the availability of higher rate taxable securities, making the yields on taxable instruments more attractive.
Interest expense increased during 1997, primarily as a result of the increased deposit volumes, and the continued pressure of the cost of funds in the short-term market, as the yield curve flattened. For the twelve months ended December 31, 1997, interest expense increased by $2.9 million or 25.0 - ------------------------------------------------------------------------------
percent as compared with the twelve months ended December 31, 1996. The average cost of funds increased by 29 basis points, reflecting the rise in interest rates, and changes in the liability mix, (i.e., increased volumes of more costly interest-bearing time deposits).
During 1996 interest expense increased $2.8 million or 31.8 percent as compared with the twelve months ended December 31, 1995. This was primarily a result of higher average funding costs, as short-term interest rates moved higher throughout most of 1996. The resulting average cost of funds to the Corporation increased by 24 basis points. This cost was further impacted by a change in the liability mix, as the Corporation had increased volumes of more costly interest-bearing liabilities and funding sources. During 1996 and 1997, less expensive deposits such as checking, Savings and Money Market accounts were replaced by more costly time deposits of $100,000 and over.
Inflationary fears and the expanding economy have pushed short-term interest rates up. This in turn has effected the cost of funds associated with a number of the Corporation's funding products, including municipal deposits tied to market indices, "Jumbo" Certificates of Deposit, and short-term repurchase agreements. Deposit growth continued to be impacted by the depositors' desire for higher-yielding investment alternatives, such as mutual funds, equity securities, tax-free instruments, and a variety of insurance products. As interest rates remained high in the short term market in 1996, and into 1997, depositors shifted funds from lower yielding savings and money market accounts into higher yielding certificates of deposit. This shift continued throughout 1997. The impact of this change in the deposit mix, coupled with the higher rates at the short end of the yield curve, gave rise to the net change in the cost of funds.
For the three year period ended December 31, 1997, the Corporation's net interest yield on a tax-equivalent basis (i.e., net interest income on a tax-equivalent basis as a percent of average interest-caming assets) declined to 3.75 percent in 1997 from 4.01 percent, and 4.21 percent for 1996 and 1995, respectively. The declines noted reflected a narrowing of spreads between yields earned on loans and investments and rates paid for supporting funds. There was a favorable change in the mix of interest-earning assets, primarily the increased loan volumes. However, this was not sufficient to offset the effects of the change in the mix of interest-bearing liabilities to more costly funding.
The contribution of noninterest-bearing sources (i.e. the differential between the average rate paid on all sources of funds and the average rate paid on interest-bearing sources) increased approximately 4 basis points during 1997 from 60 basis points in 1996. During the comparable periods of 1996 and 1995 there was a decrease of 6 basis points, from 66 basis points to 60 basis points.
The Corporation's net interest rate spread (i.e., the average yield on average interest-earning assets, calculated on a tax-equivalent basis, minus the average rate paid on interest-bearing liabilities) declined to 3.11 percent in 1997 from 3.40 percent in 1996 and 3.55 percent in 1995. The decline in net interest spreads is primarily a result of the increased cost of interest-bearing liabilities and the limitations on the Corporation's ability to expand its loan portfolio. - ------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
INVESTMENTS
The average volume of investment securities increased by $41.3 million in 1997 as compared to 1996. The tax-equivalent yield on investments remained unchanged at 6.67 percent during 1997. The stability in the yield on the investment portfolio in 1997 was achieved through equal or higher market rates on purchases made to replace similar yielding investments which had matured, were prepaid or were called.
The impact of repricing activity on yields was lessened by a change in the mix of the portfolio and shorter investment maturities, resulting in narrowed spreads. The change in investment strategies resulted from the current uncertainty of rates and the constraints imposed by SFAS No. 115. Securities available-for-sale are a part of the Corporation's interest rate risk management strategy and may be sold in response to changes in interest rates, changes in prepayment risk, liquidity management and other factors.
Pursuant to the provisions and implementation guidance contained within the special report "A Guide to Implementation of Statement 115 on Accounting for Certain Investments in Debt and Equity Securities", on November 27, 1995, the Corporation reassessed the classification of all securities within its portfolio and transferred $17.8 million from its held-to-maturity investment portfolio to its available-for-sale portfolio. These securities had a market value of $17.9 million, which resulted in the Corporation's recording an unrealized gain on securities available-for-sale, net of tax, within stockholders' equity of $60,000. During 1997 and 1996, the Corporation had no such transfers. Sales from the Available-for-Sale portfolio were made in the normal course of business.
At December 31, 1997, the total investment portfolio excluding overnight investments, was $298.3 million, or 67.5 percent of earning-assets, as compared to $280.1 million or 66.5 percent at December 31, 1996. The principal components of the investment portfolio are U.S. government Treasury and Federal Agency securities. For additional information regarding the Corporation's investment portfolio, see Note 4 to the Consolidated Financial Statements.
LOANS
Loan growth during 1997 occurred in all categories of the loan portfolio. This growth occurred from the volume acquired in the Lehigh acquisition enhanced by the Corporation's marketing and business development programs and new product lines. The stabilization of yield in the loan portfolio was the result of a stable prime rate environment coupled with a competitive rate structure to attract new loans. The effect of additions to the loan portfolio were lessened by continued refinancing activity and by the heightened competition for borrowers that exists in the lending markets. The Corporation's desire to grow this component of the earning-asset mix is reflected in its current business development plan and marketing plans, as well as its short-term strategic plan.
Analyzing the portfolio for the twelve months ended December 31, 1997, average loan volume increased $17.6 million, while the portfolio yield decreased 3 basis points as compared with 1996. Total average loan volume increased to $125.5 million with an average yield of 7.96 percent, as compared to $107.9 million with an average yield of 7.99% for December 31, 1996. For additional information regarding loans, see Note 5 to the Consolidated Financial Statements. - ------------------------------------------------------------------------------
ALLOWANCE FOR LOAN LOSSES AND RELATED PROVISION
The purpose of the allowance for loan losses is to absorb the impact of losses inherent in the loan portfolio. Additions to the allowance are made through provisions charged against current operations and through recoveries made on loans previously charged-off. The allowance for loan losses is maintained at an amount considered adequate by management to provide for potential credit losses based upon a periodic evaluation of the risk characteristics of the loan portfolio. In establishing an appropriate allowance, an assessment of the individual borrowers, a determination of the value of the underlying collateral, a review of historical loss experience and an analysis of the levels and trends of loan categories, delinquencies and problem loans are considered. Such factors as the level and trend of interest rates and current economic conditions are also reviewed. At year-end 1997, the level of the allowance was $1,269,000 as compared to a level of $1,293,000 at December 31, 1996. The Corporation had a credit to earnings (through the provision for loan losses) in 1996 of $132,000 and no provision charged to operations in 1997.
At December 31, 1997, the allowance for loan losses amounted to $1,269,000 or 0.96 percent of total loans. In management's view, the level of the allowance during 1997 has been adequate to cover any loss experience and therefore has not warranted any additions to the allowance during 1997. The increased balance of $220,000, in 1996, represented the allowance acquired from Lehigh on June 28, 1996, less net charge-offs.
Various regulatory agencies, as an integral part of their examination process, periodically review the Corporation's allowance for loan losses. Such agencies may require the Corporation to increase the allowance based on their analysis of information available to them at the time of their examination. The allowance for loan losses as a percentage of total loans amounted to 0.96 percent, 1.10 percent and 1.10 percent at December 31, 1997, 1996 and 1995, respectively. The Corporation's provision (credit) for loan losses required to reach these levels was $0, ($132,000), and $0 for 1997, 1996 and 1995, respectively.
During 1997 the Corporation did not experience any substantial problems within its loan portfolio. Net charge-offs were $24,000 in 1997, $341,000 in 1996. The Corporation had no net charge-offs in 1995. The Corporation had non-accrual loans amounting to $27,000 at December 31, 1997, $298,000 at December 31, 1996, and no non-accrual loans at year-end for the prior three years. The Corporation continues to aggressively pursue collections of principal and interest on loans previously charged-off.
The accounting for impaired loans requires that impaired loans be measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or at the fair value of the collateral if the loan is collateral dependent. Impaired loans consist of non-accrual loans and loans internally classified as substandard or below, in each instance above an established dollar threshold. All loans below the established dollar threshold are considered homogenous and are collectively evaluated for impairment. The Corporation does not have any impaired loans. - ------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
The Corporation's statements herein regarding the adequacy of the allowance for loan losses may constitute forward looking statements under the Private Securities Reform Litigation Act of 1995. Actual results could indicate that the amount of the Corporation's allowance was inadequate. Factors that could cause the allowance to be inaccurate are the same factors that are analyzed by the Corporation in establishing the amount of the allowance.
FIVE YEAR STATISTICAL ALLOWANCE FOR LOAN LOSSES
The following table reflects the relationship of loan volume, the provision and allowance for loan losses and net charge-offs for the past five years:
The 1996 charge-off of $470,000 in real-estate mortgage loans occurred on loans acquired from Lehigh, which were subsequently sold. Similarly, the $132,000 loan loss recovery, in 1996, was on a loan that had been previously part of Lehigh's portfolio.
ASSET QUALITY
The Corporation manages asset quality and credit risk by maintaining diversification in its loan portfolio and through review processes that include analysis of credit requests and ongoing examination of outstanding loans and delinquencies, with particular attention to portfolio dynamics and mix. The Corporation strives to identify loans experiencing difficulty early enough to correct the problems, to record charge-offs promptly based on realistic assessments of current collateral values, - ------------------------------------------------------------------------------
and to maintain an adequate allowance for loan losses at all times. These practices have protected the Corporation during economic downturns and periods of uncertainty.
It is generally the Corporation's policy to discontinue interest accruals once a loan is past due as to interest or principal payments for a period of ninety days. When a loan is placed on non-accrual, interest accruals cease and uncollected accrued interest is reversed and charged against current income.
Payments received on non-accrual loans are applied against principal. A loan may only be restored to an accruing basis when it again becomes well secured and in the process of collection or all past due amounts have been collected. Loan origination fees and certain direct loan origination costs are deferred and recognized over the life of the loan as an adjustment to the loan's yield.
The following table sets forth, as of the dates indicated, the amount of the Corporations non-accrual loans, restructured loans, accruing loans past due 90 days or more and other real estate owned.
At December 31, 1997, other than the loans set forth above, the Corporation is not aware of any loans which present serious doubts as to the ability of its borrowers to comply with present loan repayment terms and which are expected to fall into one of the categories set forth in the table above.
NONINTEREST INCOME
The following table presents the principal categories of noninterest income for each of the years in the three year period ended December 31, 1997.
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
Total other (noninterest) income, exclusive of gains on securities sold, reflects an increase of $125,000 or 19.2 percent in 1997. The primary component of the increase was the rise of fee revenue reflected in service charges, commissions and fees. This increase of $122,000 or 23.6 percent in such fees, was a result of increased fee income derived from ATM fees and checking account activity. For the 1996 period, total other (noninterest) income, exclusive of gains on securities sold, reflects a decrease of $54,000 or 9.5 percent. The primary component of the decrease was the result of reduced fee income derived from checking account activity. Other less significant factors contributing to the decline in service charges in 1996 were reductions in other fee income sources resulting from fluctuating levels of business activity, and a reduction to zero in the cost of automated teller fees to the customer.
During 1997 there were sales from the Corporation's available-for-sale portfolio with a net gain of approximately $334,000. These sales were made as part of the Corporation's investment strategy. In 1996 there were $75,000 in net gains on securities sold. These sales were made from the Corporation's available-for-sale investment portfolio and were made as part of structuring the Corporation's interest rate risk position.
NONINTEREST EXPENSE
The following table presents the principal categories of noninterest expense for each of the years in the three-year period ended December 31, 1997.
Total other (noninterest) expense increased $686,000 or 6.9 percent in 1997 as compared to an increase of $1.8 million or 21.8 percent from 1995 to 1996. Salaries and employee benefits accounted for 51.8 percent of total other expense for 1997, as compared to 52.1 percent and 53.1 percent for the years 1996 and 1995, respectively. Strict control over other expenses has been a key objective of Management to maximize earnings efficiency. The Corporation's efficiency/overhead ratio (other expenses less non-recurring expense and other income as a percentage of net interest income on a tax-equivalent basis) was 56.8 percent, 57.4 percent and 54.2 percent, respectively, for 1997, 1996 and 1995. The ratio of other expenses to average assets improved to 2.21 percent in 1997 from 2.39 percent in 1996 which had decreased from 2.50 percent in 1995. The level of operating expense during 1997 was favorably impacted by lower marketing and advertising expenditures as well as the reduction of stationery and printing expense resulting from recording a one-time inventory adjustment. The level of operating expense during 1996 was impacted by the acquisition of Lehigh and the opening of the Madison office. However, the Corporation's non-interest expense ratios from year to year continue to remain relatively stable and were maintained - ------------------------------------------------------------------------------
notwithstanding the addition of new expenses related to facilities expense, primarily the Bank's Madison office and Corporate headquarters in prior years, as well as technological initiatives such as check imaging and PC Banking.
Salaries and employees benefits increased $319,000 or 6.2 percent in 1997, primarily the result of higher benefits costs and merit and promotional raises. In 1996 these expenses increased $845,000 primarily due to the increased expense arising from increased staffing levels associated with the Lehigh acquisition, merit and promotional raises and higher benefit costs. Staffing levels overall decreased to 140 at December 31, 1997 from 151 full-time equivalent employees at December 31, 1996. Employees' longevity has continued to be significant. As of December 31, 1997, the Corporation's employees, excluding officers, have been employed by the Corporation for an average of 217.23 weeks or 4.18 years. This factor contributes to the Corporation's continued productivity, as evidenced by the ratio of average assets, in millions, per full time-equivalent employee, which amounted to $3.4 million, $2.7 million and $2.6 million in 1997, 1996 and 1995, respectively.
Occupancy and bank premises and equipment expense increased by $305,000 or 14.9 percent in 1997 over 1996. This increase in 1997 expense reflects the ongoing impact on operating costs of expanded facilities and operations coupled with the Lehigh acquisition, a full year's depreciation expense on 1996's fixed asset purchases, and technology expenditures. The increase in such expenses of $545,000 or 36.2 percent in 1996 from 1995, reflect the increased costs associated with the expansion of new facilities, primarily the new corporate headquarters building, offset by operating overhead efficiencies achieved during the period.
The Omnibus spending bill (H.R. 3610) President Clinton signed on September 30, 1996 included provisions for a special assessment to recapitalize the Savings Association Insurance Fund (SAIF), provisions to provide funding to meet the Financing Corporation (FICO) bond obligations, and to merge the Bank Insurance Fund (BIF) with the SAIF Fund on January 1, 1999. As a result of the acquisition of Lehigh, the Corporation was obligated to pay a one-time assessment on Lehigh's deposits. The special assessment calculation for the Corporation was based on those deposits Lehigh reported at March 31, 1995, at an assessment rate of 65.7 cents per $100.00 of deposits. The total assessment amounted to $469,606 and was paid to the Federal Deposit Insurance Corporation on November 27, 1996.
The Funds Act also separated, effective January 1, 1997, the Financing Corporation (FICO) assessment to service the interest on its bond obligations from the SAIF assessment. In general, the amount assessed on individual institutions by the FICO will be in addition to the amount paid for deposit insurance according to the FDIC's risk-related assessment rate schedules. Future Federal Deposit Insurance expense will be affected by the FICO bond payment and continued expense on Lehigh Saving's acquired deposits. The FICO obligation is to be shared by both SAIF and BIF insured institutions. For the years 1997-1999, BIF-assessable deposits will be assessed at a rate of 1/5 of the rate imposed on SAIF-assessable deposits. The deposits acquired from Lehigh Savings SLA are classified as SAIF assessable Oakar deposits. - ------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
INCOME TAXES
The Corporation's provision for income taxes increased from 1995 to 1996 and from 1996 to 1997 primarily as a result of increased state taxes and a reduction of tax-exempt income. The effective tax rates for the Corporation for the periods ended December 31, 1997, 1996 and 1995 were 33.0 percent, 28.2 percent and 27.3 percent, respectively. The effective tax rate continues to be less than the combined statutory Federal tax rate of 34 percent and the New Jersey state tax rate of 9 percent. The difference between the statutory and effective tax rates primarily reflects the tax-exempt status of interest income on obligations of states and political subdivisions and disallowed expense items for tax purposes, such as travel and entertainment expense, as well as amortization of goodwill. Tax-exempt interest income, on a tax-equivalent basis, decreased by $252,000 or 14.8 percent from 1996 to 1997, and declined by $329,000 or 16.2 percent from 1995 to 1996.
RECENT ACCOUNTING PRONOUNCEMENTS
FASB Statement No. 130, "Reporting Comprehensive Income" (Statement 130) establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains, and losses) in a full set of general-purpose financial statements. Statement 130 requires that all items that are required to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. Statement 130 does not require a specific format for that financial statement but requires that an enterprise display an amount representing total comprehensive income for the period in that financial statement.
Statement 130 requires that an enterprise (a) classify items of other comprehensive income by their nature in a financial statement and (b) display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. This statement is effective for fiscal years beginning after December 15, 1997. Reclassification of financial statements for earlier periods provided for comparative purposes is required.
FASB Statement No. 131 "Disclosures about Segments of an Enterprise and Related Information" (Statement 131) requires public companies to report information about business segments in their annual financial statements and selected business segment information in quarterly reports issued to shareholders. Statement 131 requires entity-wide disclosures about the products and services an entity provides, the material countries in which it holds assets and reports revenues, and its major customers. This statement Supersedes FASB Statement No. 14, "Financial Reporting for Segments of a Business Enterprise." Statement 131 is effective for fiscal years beginning after December 15, 1997. - ------------------------------------------------------------------------------
YEAR 2000 CENTURY DATE CHANGE
In May 1997, the Federal Financial Institutions Examination Council (FFIEC) issued a joint statement updating its prior statement, issued in June of 1996, addressing the assessment and preparedness for the Year 2000 Century date change. Regulators have defined a formal year 2000 management process to assist the financial industry in dealing with this issue on a timely basis.
The year 2000 century date change poses a significant challenge for financial institutions, as well as all businesses, because many computer programs and applications will cease to function normally as a result of the way that date fields have been programmed historically. This date problem exists because the two-digit representation of the year will be interpreted in many applications to mean the year 1900, not 2000, unless the date or program logic is changed. The result could be a number of errors, including incorrect mathematical calculations and lost system files.
The Corporation has implemented a strategic plan for Year 2000 compliance. The project objectives include assessment of the full effect of the Year 2000 issue, system development for testing and implementing solutions, determining how the Corporation will coordinate processing capabilities with its customer, vendor, and payment partners, and determining internal control requirements.
By June 1998, management expects to have completed the first several phases of the plan, including identification, modification, and preliminary testing. Management's goal is to be compliant with regulatory guidelines by December 1998, although no assurances can be given that the Corporation will be able to satisfy this objective. At present, management is unable to make a reliable estimate of the total costs to the Corporation of achieving Year 2000 compliance. However, management does not believe that such costs will be material to the Corporation's consolidated financial condition, full-year results of operations or liquidity. The immediately preceding sentence constitutes a forward-looking statement under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from the Corporation's forward-looking statement as a result of a variety of factors, including potential unavailability of technological resources, increased expenses associated with obtaining such resources and unanticipated technological difficulties.
ASSET AND LIABILITY MANAGEMENT
Asset and Liability management encompasses an analysis of market risk, the control of interest rate risk (interest sensitivity management) and the ongoing maintenance and planning of liquidity and capital. The composition of the Corporation's statement of condition is planned and monitored by the Asset and Liability Committee (ALCO). In general, management's objective is to optimize net interest income and minimize market risk and interest rate risk by monitoring these components of the statement of condition. - ------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
INTEREST SENSITIVITY
MARKET RISK
"Market risk" represents the risk of loss from adverse changes in market prices and rates. The Corporation's market rate risk arises primarily from interest rate risk inherent in its investing, lending and deposit taking activities. To that end, management actively monitors and manages its interest rate risk exposure.
The Corporation's profitability is affected by fluctuations in interest rates. A sudden and substantial increase in interest rates may adversely impact the Corporation's earnings to the extent that the interest rates borne by assets and liabilities do not similarly adjust. The Corporation's primary objective in managing interest rate risk is to minimize the adverse impact of changes in interest rates on the Corporation's net interest income and capital, while structuring the Corporation's asset-liability structure to obtain the maximum yield-cost spread on that structure. The Corporation relies primarily on its asset-liability structure to control interest rate risk. The Corporation continually evaluates interest rate risk management opportunities, including the use of derivative financial instruments. The management of the Corporation believes that hedging instruments currently available are not cost-effective, and therefore, has focused its efforts on increasing the Corporation's yield-cost spread through wholesale and retail growth opportunities.
The Corporation monitors the impact of changes in interest rates on its net interest income using several tools. One measure of the Corporation's exposure to differential changes in interest rates between assets and liabilities is the Corporation's analysis of its interest rate sensitivity.
This test measures the impact on net interest income and on net portfolio value of an immediate change in interest rates in 100 basis point increments. Net portfolio value is defined as the net present value of assets, liabilities, and off-balance sheet contracts.
The primary tool used by management to measure and manage interest rate exposure is a simulation model. Use of the model to perform simulations reflecting changes in interest rates over one and two-year time horizons has enabled management to develop and initiate strategies for managing exposure to interest rate risk. In its simulations, management estimates the impact on net interest income of various changes in interest rates. Projected net interest income sensitivity to movements in interest rates is modeled based on both an immediate rise or fall in interest rates ("rate shock"), as well as gradual changes in interest rates over a 12 month time period. The model is based on the actual maturity and repricing characteristics of interest-rate sensitive assets and liabilities. The model incorporates assumptions regarding earning-asset and deposit growth, prepayments, interest rates and other factors. Management believes that both individually and in the aggregate these assumptions are reasonable, but the complexity of the simulation modeling process results in a sophisticated estimate, not an absolutely precise calculation of exposure. For example, estimates of future cash flows must be made for instruments without contractual maturity or payment schedules.
Based on the information and assumptions in effect at December 31, 1997, management of the Corporation believes that rate shocks of up 100 and 200 basis points, respectively, would result in a change to net interest income of 6 percent and 12 percent, respectively. Conversely, rate shocks down 100 and 200 basis points are neutral, not materially affecting the Corporation's financial statement, with increases to net interest income of approximately 1 percent.
- ------------------------------------------------------------------------------
Short term interest rate exposure analysis is supplemented with an interest sensitivity gap ("Gap") model. The Corporation utilizes interest sensitivity analysis to measure the responsiveness of net interest income to changes in interest rate levels. Interest rate risk arises when an earning-asset matures or when its interest rate changes in a time period different from that of a supporting interest-bearing liability, or when an interest-bearing liability matures or when its interest rate changes in a time period different from that of an earning-asset that it supports. While the Corporation matches only a small portion of specific assets and liabilities, total earning assets and interest bearing liabilities are grouped to determine the overall interest rate risk within a number of specific time frames. The difference between interest sensitive assets and interest sensitive liabilities is referred to as the interest sensitivity gap. At any given point in time, the Corporation may be in an asset-sensitive position, whereby its interest-sensitive assets exceed its interest-sensitive liabilities, or in a liability-sensitive position, whereby its interest-sensitive liabilities exceed its interest-sensitive assets, depending on management's judgment as to projected interest rate trends.
The Corporation's rate sensitivity position in each time frame may be expressed as assets less liabilities, as liabilities less assets, or as the ratio between rate sensitive assets (RSA) and rate sensitive liabilities (RSL). For example, a short funded position (liabilities repricing before assets) would be expressed as a net negative position, when period gaps are computed by subtracting repricing liabilities from repricing assets. When using the ratio method, a RSA/RSL ratio of 1 indicates a balanced position, a ratio greater than 1 indicates an asset sensitive position, and a ratio less than 1 indicates a liability sensitive position.
A negative gap and/or a rate sensitivity ratio less than 1 tends to expand net interest margins in a falling rate environment and to reduce net interest margins in a rising rate environment. Conversely, when a positive gap occurs, generally margins expand in a rising rate environment and contract in a failing rate environment.
From time to time, the Corporation may elect to deliberately mismatch liabilities and assets in a strategic gap position.
At December 31, 1997, the Corporation reflects a negative interest sensitivity gap (or an interest sensitivity ratio) of .49:1.00 at the cumulative one year position. During much of 1997 the Corporation had a negative interest sensitivity gap. The maintenance of a liability-sensitive position during 1997 has had an adverse impact on the Corporation's net interest margins; however, based on management's perception that interest rates will continue to be volatile, emphasis has been, and is expected to continue to be placed on interest-sensitivity matching with the objective of achieving a stable net interest spread during 1998.
- ------------------------------------------------------------------------------
CENTER BANCORP
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
The following table depicts the Corporation's interest rate sensitivity position at December 31, 1997:
RESTUBED TABLE
The table above indicates the time period in which interest-earning assets and interest-bearing liabilities will mature or may reprice in accordance with their contractual terms. However, this table does not necessarily indicate the impact of general interest rate movements on the Corporation's net interest yield because the repricing of various categories of assets and liabilities is discretionary and is subject to competitive and other pressures. As a result, various assets and liabilities indicated as repricing within the same period may in fact reprice at different times and at different rate levels.
Expected maturities are contractual maturities adjusted for prepayments of principal based on current market indices. The Corporation uses certain assumptions to estimate fair values and expected maturities. For assets, expected maturities are based upon contractual maturity, projected repayments and prepayments of principal. For deposits, contractual maturities are assumed for certificates of deposit while other interest-bearing deposits were treated as if subject to immediate withdrawal.
- ------------------------------------------------------------------------------
LIQUIDITY
The liquidity position of the Corporation is dependent on successful management of its assets and liabilities so as to meet the needs of both deposit and credit customers. Liquidity needs arise principally to accommodate possible deposit outflows and to meet customers' requests for loans. Such needs can be satisfied by scheduled principal loan repayments, maturing investments, short-term liquid assets and deposit in-flows. The objective of liquidity management is to enable the Corporation to maintain sufficient liquidity to meet its obligations in a timely and cost-effective manner.
Management monitors current and projected cash flows, and adjusts positions as necessary to maintain adequate levels of liquidity. By using a variety of potential funding sources and staggering maturities, the risk of potential funding pressure is significantly reduced. Management also maintains a detailed liquidity contingency plan designed to adequately respond to situations which could lead to liquidity concerns.
The Corporation derives a significant proportion of its liquidity from its core deposit base. At December 31, 1997, core deposits (comprised of total demand and savings accounts plus money market accounts under $100,000) represented 51.0 percent of total deposits. More volatile rate sensitive deposits, concentrated in Certificates of deposit $100,000 and greater, increased to 26.8 percent of total deposits from 23.2 percent at December 31, 1996. This change was due to the sharp rise in short-term rates during the latter part of 1996 which continued into 1997 and customer preferences for such certificates.
The following table depicts the Company's core deposit mix at December 31, 1997 and 1996:
CORE DEPOSITS MIX
Short-term borrowings can be used to satisfy daily funding needs. Balances in those accounts fluctuate on a day-to-day basis. The Corporation's principal short-term funding sources are securities sold under agreement to repurchase. Average short-term borrowings during 1997 amounted to approximately $10.9 million, an increase of $4.2 million or 64.3 percent from the 1996 period.
- ------------------------------------------------------------------------------
CENTER BANCORP
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
The following table is a summary of securities sold under repurchase agreements for each of the last three years.
CASHFLOW
The consolidated statements of cash flows present the changes in cash and cash equivalents from operating, investing and financing activities. During 1997 cash and cash equivalents (which decreased overall by $17.0 million) were provided (on a net basis) by operating and financing activities and used (on a net basis) in investing activities. The cash flow provided by net increases in deposits and in short-term borrowings, supported the overall net investing activities, primarily investments and loans and supported property and equipment expenditures. Cash flow from operating activities, primarily net income, was used in investing activities primarily the purchase of securities available-for-sale.
STOCKHOLDERS' EQUITY AND DIVIDENDS-STOCKHOLDERS'EQUITY
Stockholders' equity averaged $31.9 million during 1997, an increase of $3.3 million, or 11.40 percent, as compared to 1996. At December 31, 1997, stockholders' equity totaled $33.4 million, a 10.62 percent increase over the prior year. The Corporation's dividend reinvestment and optional stock purchase plan contributed $271,000 in new capital during 1997. Book value per share increased at year end 1997 to $14.15 from the prior year amount of $12.86. Tangible book value at year end 1997 was $12.72 compared to $11.29 for 1996.
CAPITAL
The maintenance of a solid capital foundation continues to be a primary goal for the Corporation. Accordingly, capital plans and dividend policies are monitored on an ongoing basis. The most important objective of the capital planning process is to balance effectively the retention of capital to support future growth and the goal of providing stockholders with an attractive long-term return on their investment.
RISK-BASED CAPITAL/LEVERAGE
At December 31, 1997, total Tier I capital (defined as tangible stockholders' equity for common stock and certain perpetual preferred stock) amounted to $30.0 million or 6.35 percent of total assets. The Tier I leverage capital ratio was 6.19 percent of total average assets. Tier I capital excludes the effect of SFAS No. 115, which amounted to $592,000 of net unrealized gains, after tax, on securities available-for-sale (included as a component of stockholders' equity) and goodwill of $3,382,000 as of December 31, 1997. For information on goodwill, see Note 2 to the Consolidated Financial Statements.
- ------------------------------------------------------------------------------
United States bank regulators have additionally issued guidelines establishing minimum capital standards related to the level of assets and off balance-sheet exposures adjusted for credit risk. Specifically, these guidelines categorized assets and off balance-sheet items into four risk-weightings and require banking institutions to maintain a minimum ratio of capital to risk-weighted assets. At December 31, 1997, the Corporation's estimated Tier I and total risk-based capital ratios were 15.5 percent and 16.2 percent, respectively. These ratios are well above the minimum guidelines of capital to risk-adjusted assets in effect as of December 31, 1997. For information on risk-based capital and regulatory guidelines, see Note 7 to the Consolidated Financial Statements.
SECURITY MARKET INFORMATION
The common stock of the Corporation is traded on the NASDAQ National Market System, effective as of June 24, 1996. The Corporation's symbol is CNBC. As of December 31, 1997, the Corporation had 609 common stockholders of record. This does not include beneficial owners for whom CEDE & Company or others act as nominees. On December 31, 1997, the closing market bid and ask price was $23.50-$24.50 respectively. Since June 24, 1996, prices were reported by NASDAQ. For prior years the high and low bid prices were reported by National Quotation Bureau. Dividends declared on common stock, per share and stock prices, have been adjusted for the 3-for-2 stock split paid on May 31, 1996 and the 5 percent stock dividend paid May 27, 1997. The following table sets forth the high and low bid prices for the Corporation's common stock.
These quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions. For information on dividend restrictions and capital requirements which may limit the ability to pay dividends, see Note 13 to the Consolidated Financial Statements.
LOOKING FORWARD
One of the Corporation's primary objectives is to achieve balanced asset and revenue growth, and at the same time expand market presence and diversify its financial products. However, it is recognized that objectives, no matter how focused, are subject to factors beyond the control of the Corporation which can impede its ability to achieve these goals. The following factors should be considered when evaluating the Corporation's ability to achieve its objectives:
- ------------------------------------------------------------------------------
CENTER BANCORP INC.
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS (continued)
The financial market place is rapidly changing. Banks are no longer the only place to obtain loans, nor the only place to keep financial assets. The banking industry has lost market share to other financial service providers. The future is predicated on the Corporation's ability to adapt its products, provide superior customer service and compete in an ever-changing marketplace.
Net interest income, the primary source of earnings, is impacted favorably or unfavorably by changes in interest rates. Although the impact of interest rate fluctuations is mitigated by ALCO strategies, significant changes in interest rates can have an adverse impact on profitability.
The ability of customers to repay their obligations is often impacted by changes in the regional and local economy. Although the Corporation sets aside loan loss provisions toward the allowance for loan losses, significant unfavorable changes in the economy could impact the assumptions used in the determination of the adequacy of the allowance.
Technological changes will have a material impact on how financial service companies compete for and deliver services. It is recognized that these changes will have a direct impact on how the marketplace is approached and ultimately on profitability. The Corporation has already taken steps to improve its traditional delivery channels. However, continued success will be measured by the ability to react to future technological changes.
- ------------------------------------------------------------------------------
(1) Average balances for available-for-sale securities are based on amortized cost (2) Average balances for loans include loans on non-accrual status
- ------------------------------------------------------------------------------
CENTER BANCORP INC.
CONSOLIDATED STATEMENTS OF CONDITION
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF INCOME
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
CENTER BANCORP INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------------
CENTER BANCORP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION The consolidated financial statements of Center Bancorp Inc. (the Corporation) are prepared on the accrual basis and include the accounts of the Corporation and its wholly-owned subsidiary, Union Center National Bank (the Bank). All significant intercompany accounts and transactions have been eliminated from the accompanying consolidated financial statements.
BUSINESS The Bank provides a full range of banking services to individual and corporate customers through branch locations in Union and Morris Counties, New Jersey. The Bank is subject to competition from other financial institutions and is subject to the regulations of certain federal agencies and undergoes periodic examinations by those regulatory authorities.
BASIS OF FINANCIAL STATEMENT PRESENTATION The consolidated financial statements have been prepared in conformity with generally accepted accounting principles. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the statement of condition and revenues and expenses for that period. Actual results could differ significantly from those estimates.
CASH AND CASH EQUIVALENTS Cash and cash equivalents include cash and due from banks, Federal funds sold, and securities purchased under agreement to resell. Generally, Federal funds and securities purchased under agreement to resell are sold for one-day periods.
INVESTMENT SECURITIES The Corporation classifies investments into the following categories: (1) held to maturity securities, for which the Corporation has both the positive intent and ability to hold until maturity, will be reported at amortized cost; (2) trading securities, which are purchased and held principally for the purpose of selling in the near term, will be reported at fair value with unrealized gains and losses included in earnings; and (3) available for sale securities, which do not meet the criteria of the other two categories, will be reported at fair value with unrealized gains and losses, net of applicable income taxes, reported as a separate component of stockholders' equity and excluded from earnings. Investment securities held to maturity are adjusted for amortization of premiums and accretion of discounts which are recognized on a level yield method, as adjustments to interest income. Investment securities gains or losses are determined using the specific identification method.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
INCOME TAXES The Corporation recognizes deferred tax liabilities and assets for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates expected to apply to taxable income in the years in which the differences are expected to be settled.
LOANS Loans are stated at their principal amounts less net deferred loan origination fees. Interest income is credited as earned except when a loan becomes past due 90 days or more and doubt exists as to the ultimate collection of interest or principal; in those cases the recognition of income is discontinued. When a loan is placed on non-accrual, interest accruals cease and uncollected accrued interest is reversed and charged against current income. Payments received on non-accrual loans are applied against principal. A loan may only be restored to an accruing basis when it again becomes well secured and in the process of collection or all past due amounts have been collected. Loan origination fees and certain direct loan origination costs are deferred and recognized over the life of the loan as an adjustment to the loan's yield. The accounting for impaired loans requires that impaired loans be measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or at the fair value of the collateral if the loan is collateral dependent. The determination of impaired loans consists of non-accrual loans and loans internally classified as substandard or below in each instance above an established dollar threshold. All loans below the established dollar threshold are considered homogenous and are considered in the Bank's normal credit evaluation process. The Corporation does not have any impaired loans.
ALLOWANCE FOR LOAN LOSSES The allowance for loan losses is maintained at a level determined adequate to provide for potential loan losses. The allowance is increased by provisions charged to operations and reduced by loan charge-offs, net of recoveries. The allowance is based on Management's evaluation of the loan portfolio considering economic conditions, the volume and nature of the loan portfolio, historical loan loss experience and individual credit situations. Material estimates that are particularly susceptible to significant change in the near-term relate to the determination of the allowance for loan losses. In connection with the determination of the allowance for loan losses, management obtains independent appraisals for significant properties. The ultimate collectibility of a substantial portion of the Bank's loan portfolio is susceptible to changes in market conditions in the state of New Jersey.
- --------------------------------------------------------------------------------
CENTER BANCORP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
Management believes that the allowance for loan losses is adequate. While management uses available information to recognize loan losses, future additions to the allowance may be necessary based on changes in economic conditions, particularly in New Jersey. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on their judgments about information available to them at the time of their examinations.
BANK PREMISES AND EQUIPMENT Land is carried at cost and bank premises and equipment at cost less accumulated depreciation based on estimated useful lives of assets, computed principally on the straight-line basis. Expenditures for maintenance and repairs are charged to operations as incurred; major renewals and betterments are capitalized. Gains and losses on sales or other dispositions are recorded as other income or other expenses.
RECLASSIFICATIONS Certain reclassifications have been made in the consolidated financial statements for 1996 and 1995 to conform to the classifications presented in 1997.
PENSION PLAN The Corporation has a non-contributory pension plan covering all eligible employees. The Corporation's policy is to fund at least the minimum contribution required by the Employee Retirement Income Security Act of 1974.
STOCK BASED COMPENSATION In October, 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS 123), which is effective beginning in 1996. SFAS 123 allows companies either to continue to account for stock-based employee compensation plans under existing accounting standards (APB Opinion No. 25) which results in no compensation expense since the options have an exercise price equal to the market price on the date of the grant, or adopt a fair value based method of accounting for stock options as compensation expense over the service period as defined in the new standard. SFAS 123 requires that if a company continues to account for stock options under APB opinion No. 25, it must provide proforma net income and earnings per share information as if the new fair value approach had been adopted. Center Bancorp will continue to follow the existing accounting standard.
EARNINGS PER SHARE All share and per share amounts have been restated to reflect the 5% stock dividend paid on May 27, 1997 and the 3-for-2 stock split paid on May 31, 1996.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
On March 3, 1997, The Financial Accounting Standards board (the "FASB") issued statement of Financial Accounting Standards ("SFAS") No. 128 "Earnings Per Share". SFAS No. 128 established new standards for the computation of earnings per share ("EPS") by simplifying the standards prescribed in APB Opinion No. 15. Under the new requirements, the Company is required to present both basic and diluted EPS on the face of the income statement. Basic EPS replaced the current EPS terminology and is computed by dividing income available to common shareholders by the weighted-average number of common shares outstanding. Diluted EPS includes any additional common shares as if all potentially dilutive common shares were issued (e.g. stock options). The Company was required to adopt SFAS No. 128 for the period ended December 31, 1997. All prior-period EPS data is restated as required. The Corporations weighted average common shares outstanding for diluted EPS include the effect of stock options outstanding using the Treasury Stock Method, which are not included in the calculation of basic EPS.
TREASURY STOCK Treasury stock is recorded using the cost method and accordingly is presented as an unallocated reduction of stockholders' equity.
NOTE 2: ACQUISITION On June 28, 1996, the Corporation acquired Lehigh Savings Bank SLA (Lehigh), a New Jersey chartered savings and loan in a transaction accounted for under the purchase method of accounting. At June 28, 1996, Lehigh had assets of $70.9 million (primarily cash and cash equivalents of $53.0 million and loans of $15.0 million) and deposits and stockholders' equity of $68.2 million and $2.7 million, respectively. The Corporation paid $5.5 million in cash for Lehigh, resulting in goodwill of $3.8 million. The goodwill is being amortized on a straight-line basis over 15 years. The consolidated financial statements of the Corporation include assets, liabilities and results of operations of Lehigh since the acquisition date.
NOTE 3: CASH AND DUE FROM BANKS The subsidiary bank, Union Center National Bank, maintained average cash balances reserved to meet regulatory requirements of the Federal Reserve Board of approximately $86,000 and $4,547,000 at December 31, 1997 and 1996, respectively.
- --------------------------------------------------------------------------------
CENTER BANCORP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4: INVESTMENT SECURITIES (continued)
The following tables present information related to the Corporation's portfolio of securities held to maturity and available-for-sale at December 31, 1997 and 1996.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 4: INVESTMENT SECURITIES (continued)
The following table presents information for investments in securities held to maturity and securities a1available-for-sale at December 31, 1997, based on scheduled maturities. Actual maturities can be expected to differ from scheduled maturities due to prepayment or early call privileges of the issuer.
Securities sold from the Corporation's Available-for-Sale portfolio during 1997 and 1996 amounted to $26.2 and $14.4 million respectively. The gains on securities sold amounted to approximately $334,000 in 1997 and $121,000 in 1996 which were offset by losses on securities sold of approximately $46,000 in 1996. These securities were sold in the ordinary course of business. During 1995 the Corporation recorded net gains of $49,000 on sales of $7.6 million. Investment securities having a carrying value of approximately $36.6 million and $63.7 million at December 31, 1997 and 1996, respectively, were pledged to secure public deposits, short-term borrowings and for other purposes required or permitted by law.
NOTE 5: LOANS AND THE ALLOWANCE FOR LOAN LOSSES The following table sets forth the composition of the Corporation's loan portfolio at December 31, 1997 and 1996, respectively.
At December 31, 1997 and 1996 loans to officers and directors aggregated approximately $3,133,000 and $3,078,000 respectively. During the year ended December 31, 1997, the Corporation made new loans to officers and directors in the amount of $1,323,000; payments by such persons during 1997 aggregated $1,277,000. Management is of the opinion that the above loans were made on the same terms and conditions as those prevailing for comparable transactions with non-related borrowers.
- --------------------------------------------------------------------------------
CENTER BANCORP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 5: LOANS AND THE ALLOWANCE FOR LOAN LOSSES (continued)
A summary of the activity in the allowance for loan losses is as follows:
The allowance for loan losses for Federal income tax purposes amounted to $801,000 and $993,000 at December 31, 1997 and 1996, which is the maximum allowable. The outstanding balances of accruing loans which are 90 days or more past due as to principal or interest payments and non-performing assets at December 31, 1997 and 1996 were as follows:
The amount of interest income that would have been recorded on non-accrual loans in 1997 and 1996, had payments remained in accordance with the original contractual terms, approximated $2,800 and $23,000, respectively, while no interest income was received on these types of assets in 1997 and 1996, resulting in a loss of interest income of $2,800 and $23,000, respectively.
At December 31, 1997, there were no commitments to lend additional funds to borrowers whose loans were non-accrual or contractually past due in excess of 90 days and still accruing interest.
The Bank's policy is to grant commercial, mortgage, and installment loans to New Jersey residents and businesses within its trading area. The borrowers' abilities to repay their obligations are dependent upon various factors including the borrowers' income and net worth, cash flows generated by the borrowers' underlying collateral, value of the underlying collateral, and priority of the Bank's lien on the property. Such factors are dependent upon various economic conditions and individual circumstances beyond the Bank's control. The Bank is therefore subject to risk of loss. The Bank believes its lending policies and procedures adequately minimize the potential exposure to such risks and that adequate provisions for loan losses are provided for all known and inherent risks. Collateral and personal guarantees are required for virtually all loans.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 6: BANK PREMISES AND EQUIPMENT
A summary of the Corporation's premises and equipment at December 31, 1997 and 1996 follows:
NOTE 7: REGULATORY CAPITAL REQUIREMENTS FDIC regulations require banks to maintain minimum levels of regulatory capital. Under the regulations in effect at December 31, 1997, the Bank was required to maintain (i) a minimum leverage ratio of Tier 1 capital to total adjusted assets of 4.0%, and (ii) minimum ratios of Tier 1 and total capital to risk-weighted assets of 4.0% and 8.0%, respectively. Under its prompt corrective action regulations, the FDIC is required to take certain supervisory actions (and may take additional discretionary actions) with respect to an undercapitalized institution. Such actions could have a direct material effect on the institution's financial statements. The regulations establish a framework for the classification of savings institutions into five categories: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. Generally, an institution is considered well capitalized if it has a leverage (Tier 1) capital ratio of at least 5.0%; a Tier 1 risk-based capital ratio of at least 6.0%; and a total risk-based capital ratio of at least 10.0%.
The foregoing capital ratios are based in part on specific quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by the FDIC about capital components, risk weightings and other factors.
As of December 31, 1997, management believes that the Bank meets all capital adequacy requirements to which it is subject. Further, the most recent FDIC notification categorized the Bank as a well-capitalized institution under the prompt corrective action regulations. There have been no conditions or events since that notification that management believes have changed the Bank's capital classification.
- --------------------------------------------------------------------------------
CENTER BANCORP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 7: REGULATORY CAPITAL REQUIREMENTS (continued)
The following is a summary of the Bank's actual capital amounts and ratios as of December 31, 1997 and 1996, compared to the FDIC minimum capital adequacy requirements and the FDIC requirements for classification as a well-capitalized institution:
NOTE 8: PENSION AND BENEFITS The Corporation maintains a non-contributory pension plan for substantially all its employees. The benefits are based on years of service and the employee's compensation over the prior five-year period. The plan's assets consist primarily of an insurance annuity. In addition, the Corporation has a non-qualified retirement plan which is designed to supplement the pension plan for key employees. The following table sets forth the funded status and amounts recognized in the consolidated statements of condition for the Corporation's pension plans at December 31, 1997 and 1996.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 8: PENSION AND BENEFITS (continued)
The net periodic pension cost for 1997, 1996 and 1995 include the following components.
The following table presents the assumptions used to calculate the projected benefit obligation in each of the last three years.
401K BENEFIT PLAN
During 1994, the Corporation established a 401K employee savings plan to provide for defined contributions which covers substantially all employees of the Bank. The Corporation's contributions to the plan are limited to fifty percent of a matching percentage of each employee's contribution up to six percent of the employee's salary. The plan was effective January 1, 1995. For 1997, 1996, and 1995, employer contributions amounted to $60,777, $43,928 and $43,050, respectively.
STOCK OPTION PLANS
The Stock Option Plans permit Center Bancorp common stock to be issued to key employees and directors of the Corporation and its subsidiary. The options granted under the Plan are intended to be either Incentive Stock Options or Non-Qualified Options. Options have been granted to purchase common stock principally at the fair market value of the stock at the date of grant. Options are exercisable starting one year after the date of grant and generally expire ten years from the date of grant. Upon the exercise of options, proceeds received in excess of par value of the shares are credited to surplus.
- --------------------------------------------------------------------------------
Center Bancorp Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 8: PENSION AND BENEFITS (continued)
Changes in options outstanding during the past three years were as follows:
Fair Value of Stock Options Grants
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 1997: o Dividend yield of 3.70% o Expected volatility of 44.3% o Risk-free interest rates based upon equivalent-term Treasury Rates o Expected options lives were the contractual lives at the date of grant The following table summarizes the fair value of the stock options granted during the year ended December 31, 1997. There were no stock options granted in 1996 or 1995.
-------------------------------- Options Weighted Granted Average Fair Value Incentive stock options 0 $ 0 Non-qualifying stock options 0 $ 0 Directors' plan 9,923 $8.75 - ---------------------------------------------------------------------- Total 9,923 $8.75
Under APB Opinion 25, compensation cost for the stock options is not recognized because the exercise price of the stock options equals the market price of the underlying stock on the date of the grant. Had compensation expense been recorded for stock options granted as determined under SFAS 123, net income would have been reduced by approximately $19,000 in 1997 which would not have changed the Corporation's basic earnings per share, but which would have reduced the diluted earnings per share by $.01.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 9: INCOME TAXES
The current and deferred amounts of income tax expense for the years ended December 31, 1997, 1996 and 1995, respectively, are as follows:
A reconciliation between the amount of reported income tax expense and the amount computed by applying the statutory Federal income tax rate is as follows:
The tax effects of temporary differences that give rise to significant portions of the deferred tax asset and deferred tax liability at December 31, 1997 and 1996 are presented below.
- --------------------------------------------------------------------------------
Center Bancorp Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 9: INCOME TAXES (continued)
Based on the Corporation's historical and current pre-tax earnings and the availability of net operating loss carrybacks on a federal basis, management believes it is more likely than not that the 950506953Corporation will realize the benefit of the net deductible temporary differences existing at December 31, 1997 and 1996, respectively. The valuation allowance is due to the state tax effect of the net deductible temporary difference calculated on a separate company basis. The valuation allowance for deferred tax assets as of December 31, 1997 was $58,000 unchanged from 1996.
NOTE 10: (unaudited)
QUARTERLY FINANCIAL INFORMATION CENTER BANCORP INC.
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 11: FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments" (SFAS 107), requires that the Bank disclose estimated fair values for its financial instruments. Fair value estimates, methods, and assumptions are set forth below for the Corporation's financial instruments: The carrying amounts for cash and cash equivalents approximate fair value because they mature in 90 days or less and do not present unanticipated credit concerns. The fair value of investment securities is estimated based on bid quotations received from securities dealers. Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, real estate-mortgage, and installment loans. The fair value of performing loans, except residential mortgages, is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. The estimate of maturity is based on the Bank's historical experience with prepayments for each loan classification, modified as required by an estimate of the effect of current economic and lending conditions. For performing residential mortgage loans, fair value is estimated by discounting contractual cash flows adjusted for prepayment estimates using discount rates based on secondary market sources adjusted to reflect differences in servicing and credit costs. Under SFAS 107, the fair value of deposits with no stated maturity, such as noninterest-bearing demand deposits, savings and NOW accounts, and money market and checking accounts, is equal to the amount payable on demand as of December 31, 1997 and 1996. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. The fair value estimates of commitments to extend credit and standby letters of credit are estimated at the fee charged by the bank for similar transactions. This amount is deemed to be immaterial. Short-term borrowings that mature within six months have fair values equal to their carrying value. Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Corporation's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Bank's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
- --------------------------------------------------------------------------------
Center Bancorp Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 11: FAIR VALUE OF FINANCIAL INSTRUMENTS (continued)
Fair value estimates are based on existing on-and-off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Other significant assets and liabilities that are not considered financial assets or liabilities include deferred tax liabilities, goodwill, and premises and equipment. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered. The estimated fair value of the Corporation's financial instruments are as follows:
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 12: PARENT CORPORATION ONLY FINANCIAL STATEMENTS
Center Bancorp Inc., operates its wholly-owned subsidiary, Union Center National Bank. The earnings of this subsidiary are recognized by the Corporation using the equity method of accounting. Accordingly, earnings are recorded as increases in the Corporation's investment in the subsidiary and dividends paid reduce the investment in the subsidiary. Dividends payable by the Corporation are unrestricted, although the ability of the Corporation to pay dividends will largely depend upon the dividends paid to it by the Bank. Dividends payable by the Bank to the Corporation are restricted under supervisory regulations (see Note 13). Condensed financial statements of the Parent Corporation only follow:
CONDENSED STATEMENTS OF CONDITION
CONDENSED STATEMENTS OF INCOME
- --------------------------------------------------------------------------------
Center Bancorp Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 12: PARENT CORPORATION ONLY FINANCIAL STATEMENTS (continued)
CONDENSED STATEMENTS OF CASH FLOWS
NOTE 13: DIVIDENDS AND OTHER RESTRICTIONS
Certain restrictions, including capital requirements, exist on the availability of undistributed net profits of the subsidiary bank for the future payment of dividends to the Corporation. A dividend may not be paid if it would impair the Bank's capital. Furthermore, prior approval by the Comptroller of the Currency is required if the total of dividends declared in a calendar year exceeds the total of the Bank's net profits for that year combined with its retained profits for the two preceding years. At December 31, 1997, $3,855,000 was available for the payment of dividends.
NOTE 14: COMMITMENTS, CONTINGENCIES AND CONCENTRATIONS OF CREDIT RISK
In the normal course of business, the Corporation has outstanding commitments and contingent liabilities such as commitments to extend credit, including loan commitments of $39,418,000, ($38,918,000 subject to variable rate indices and $500,000 fixed rate commitments) and $23,910,000 as of December 31, 1997 and 1996, respectively. Standby letters of credit, which are not reflected in the accompanying consolidated financial statements, totaled $8,190,000 and $7,407,000 as of December 31, 1997 and 1996, respectively. Commitments to extend credit and standby letters of credit generally do not exceed one year. These financial instruments involve, to varying degrees, elements of credit risk in excess of the amounts recognized in the consolidated financial statements. The commitment or contract amount of these financial instruments is an
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 14: COMMITMENTS, CONTINGENCIES AND CONCENTRATIONS OF CREDIT RISK (continued)
indicator of the Corporation's level of involvement in each type of instrument as well as the exposure to credit loss in the event of non-performance by the other party to the financial instrument. The Corporation controls credit risk of these financial instruments through credit approvals, limits and monitoring procedures. To minimize potential credit risk the Corporation generally requires collateral and other credit related terms and conditions from the customer. In the opinion of management the financial condition of the Corporation will not be materially affected by the final outcome of these commitments and contingent liabilities. A substantial portion of the Bank's loans are one to four family residential first mortgage loans secured by real estate located in New Jersey. Accordingly, the collectibility of a substantial portion of the Bank's loan portfolio is susceptible to changes in the real estate market. Non-interest expenses include rentals for premises and equipment of $203,168 in 1997, $135,068 in 1996, and $49,412 in 1995. At December 31, 1997, Center Bancorp and its 950360413subsidiary were obligated under a number of non-cancelable leases for premises and equipment, many of which provide for increased rentals based upon increases in real estate taxes and the cost of living index. These leases, most of which have renewal provisions, are principally non-financing leases. Minimum rentals under the terms of these leases for the years 1998 through 2002 are $202,277, $215,294, $229,921, $246,385, and $259,947, respectively. Minimum rentals due after 2003 are $428,952. The Corporation is subject to claims and lawsuits which arise primarily in the ordinary course of business. Based upon the information currently available and advice received from legal counsel representing the Corporation in connection with such claims, it is the opinion of management that the disposition or ultimate determination of such claims will not have a material adverse impact on the consolidated financial position or results of operations, or liquidity of the Corporation.
- --------------------------------------------------------------------------------
INDEPENDENT AUDITORS' REPORT
KPMG Peat Marwick LLP
Certified Public Accountants
The Board of Directors and Stockholders Center Bancorp Inc.:
We have audited the accompanying consolidated statements of condition of Center Bancorp Inc. and subsidiary (the Corporation) as of December 31, 1997 and 1996, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 1997. These consolidated financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Corporation as of December 31, 1997 and 1996, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 1997 in conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Short Hills, New Jersey January 30, 1998
- --------------------------------------------------------------------------------
INDEPENDENT AUDITORS' CONSENT
The Board of Directors Center Bancorp Inc.:
We consent to the incorporation by reference in the Registration Statement No. 33-72176 on Form S-8 and Registration Statement No. 33-72178 on Form S-3 of Center Bancorp Inc. of our report dated January 30, 1998, relating to the consolidated statements of condition of Center Bancorp Inc. as of December 31, 1997 and 1996 and the related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 1997, which report is incorporated by reference in the December 31, 1997 Annual Report on Form 10-K of Center Bancorp Inc.
/s/ KPMG Peat Marwick LLP ------------------------- KPMG Peat Marwick LLP
Short Hills, New Jersey March 30, 1998