Item 1. Business - - ------- --------
General
Susquehanna Bancshares, Inc. ("Susquehanna") is a multi-state financial institution holding company headquartered in Lititz, Pennsylvania. As of December 31, 1998, Susquehanna operated as a super-community bank holding company with eight commercial banks, one federal savings bank, and two non-bank subsidiaries. (An additional commercial bank, First Capitol Bank, of York, Pennsylvania, was acquired on January 4, 1999). These subsidiaries provide banking and banking-related services from 134 offices located in central, southwestern and southeastern Pennsylvania, Maryland, Delaware and southern New Jersey. As of December 31, 1998, Susquehanna had assets of $4.1 billion, loans receivable of $2.8 billion, deposits of $3.1 billion and shareholders' equity of $391 million.
The relative sizes and profitability of Susquehanna's subsidiaries as of and for the year ended December 31, 1998, are depicted in the following table: (Dollars in Millions)
* Subsidiary of Susquehanna's wholly-owned subsidiary, Susquehanna Bancshares South, Inc. ("Susquehanna South") ** Subsidiaries of Susquehanna's wholly-owned subsidiary, Susquehanna Bancshares East, Inc. ("Susquehanna East")
Susquehanna's subsidiaries provide commercial and retail banking services in central and south central Pennsylvania, principally in Franklin, Lancaster, Northumberland, Snyder, Union, Columbia, York and Lycoming Counties; in southeastern Pennsylvania principally in Montgomery, Chester and Delaware Counties; in southwestern Pennsylvania principally in Bedford and Blair Counties; in western Maryland, principally in Allegany, Garrett and Washington Counties; in central Maryland, including Baltimore County, Baltimore City, Carroll County, Harford County, Cecil County, Worcester County, Wicomico County and Anne Arundel County; and in southern New Jersey, principally in Camden, Burlington and Gloucester Counties. Certain Susquehanna subsidiaries also provide trust, leasing, insurance and passive investment services.
As a "super-community" bank holding company, Susquehanna's strategy has been to manage its banking subsidiaries on a decentralized basis, allowing each subsidiary operating in different markets to retain its name and board of directors as well as substantial autonomy in its day to day operations. Susquehanna believes that this strategy permits these institutions greater flexibility to better serve their markets, increasing responsiveness to local needs, and differentiates Susquehanna from other large competitors. Susquehanna continues, however, to implement consolidations in selected lines of business, operations and support functions in order to achieve greater economies of scale and cost savings. Consistent with this philosophy, on October 1, 1998, Susquehanna merged Farmers National Bank, a subsidiary of Susquehanna East, into Equity National Bank, also a subsidiary of Susquehanna East, under the name "Equity Bank, National Association." In addition, Susquehanna continued its program initiated in 1997 to convert all of its affiliates to a uniform computer system. Seven of its financial institution affiliates will be converted to this system by March 31, 1999, with the remaining three (including First Capitol Bank) to be converted by mid-2000. Through the formation of Susquehanna Trust Company, which was approved by the Pennsylvania Department of Banking in January, 1998, and selection of a uniform processing system, Susquehanna anticipates further integration of its trust department operations. Mortgage banking operations are also expected to undergo increased consolidation. Susquehanna also provides its banking subsidiaries guidance in the areas of credit policy and administration, strategic planning, investment portfolio management and other financial and administrative services.
Susquehanna has no employees, other than its officers, each of whom are employees of one or the other of its commercial bank or savings bank subsidiaries. As of December 31, 1998, Susquehanna's subsidiaries employed 1,510 full-time and 356 part-time employees.
Susquehanna was incorporated in Pennsylvania in 1982. Its executive offices are located at 26 North Cedar Street, Lititz, Pennsylvania 17543, and its telephone number is (717) 626-4721.
Business
Susquehanna provides a wide range of retail and commercial banking services. It's strategy for its retail banking businesses is to expand its deposit and other product market share through a high level of customer service, new product offerings, application of new technologies and delivery systems, and selective acquisitions. Susquehanna operates an extensive branch network and has a strong market presence in its primary markets in Pennsylvania, Maryland and New Jersey. As a result of the development of broad banking relations with its customers, core deposits fund Susquehanna's lending and investing activities almost entirely.
Susquehanna's retail banking services include checking and savings accounts, money market accounts, certificates of deposit, individual retirement accounts, Christmas clubs, mutual funds and annuities (see discussion below), home equity lines of credit, residential mortgage loans, home improvement loans, student loans, automobile loans and personal loans.
In December, 1995, Susquehanna introduced six automated loan machines ("ALM"), three in Maryland and three in Pennsylvania. ALM's represent a relatively new development in bank services delivery systems and afford consumers the convenience of 24-hour credit up to a maximum loan amount of $5,000. As of December 31, 1998, Susquehanna operated 19 ALM's within Pennsylvania and Maryland.
Susquehanna also initiated a credit card offering in late 1995. Using experience and resources developed in a program operated through one of its Pennsylvania bank subsidiaries, the credit card program was expanded to include similar offerings through other Susquehanna subsidiaries. The program targets existing customers and selected prospects in Susquehanna's market areas. During 1996, Susquehanna introduced a check (debit) card in Pennsylvania and Maryland. As of December 31, 1998, there were over 77,173 issued and active debit cards.
The acquisition of the Maryland thrifts in 1995 and 1996 substantially enhanced Susquehanna's mortgage origination and mortgage banking capabilities. The consolidation of the several mortgage operations into
Susquehanna Mortgage Company (formerly known as "Atlantic First Mortgage Company"), a mortgage subsidiary of Susquehanna Bank, is expected to continue to enhance the expansion of Susquehanna's mortgage banking operations in its Maryland and Pennsylvania markets.
Susquehanna's consolidated commercial lending operations include commercial, financial and agricultural lending (15% of the total loan portfolio at December 31, 1998), real estate construction lending (9%), and commercial mortgage lending (21%). Loans originated by each subsidiary are subject to central review and uniform Susquehanna credit standards. Nearly all of Susquehanna's loans are concentrated in the markets served by its subsidiary commercial and savings banks.
Through its subsidiary, Susque-Bancshares Life Insurance Co., Susquehanna offers certain credit related insurance products. Susquehanna also offers certain leasing services through its subsidiary Susque-Bancshares Leasing Co., Inc., and its wholly owned subsidiary, Susquebanc Lease Co.
Business of Farmers First Bank. Farmers First Bank ("Farmers First"), ------------------------------- headquartered in Lititz, Pennsylvania, is engaged in commercial banking and trust business as authorized by the Pennsylvania Banking Code of 1965, as amended. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations, municipalities and other governmental bodies. Through its trust department, Farmers First renders services as trustee, executor, administrator, guardian, managing agent, custodian, investment advisor and other fiduciary activities authorized by law. As of December 31, 1998, Farmers First had twenty-eight (28) full-service and eleven (11) limited-service banking offices in Lancaster and York Counties. Farmers First's business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it. Effective June 6, 1996, the former Spring Grove National Bank, a Susquehanna affiliate, was merged into Farmers First, effectively expanding the service area of Farmers First into York County. During 1997, Farmers First commenced operation of an investment subsidiary in Delaware, Farmers First Brandywine Corporation, whose purpose is to assist in loan and investment portfolio management. During 1998, Susquehanna formed Susquehanna Trust Company as a subsidiary of Farmers First for the purpose of further integrating trust operations and services. Farmers First owns no other subsidiaries.
As of December 31, 1998, Farmers First had total assets of $1.0 billion, total shareholder's equity of $104 million and total deposits of $759 million.
Business of Citizens National Bank of Southern Pennsylvania. Citizens ----------------------------------------------------------- National Bank of Southern Pennsylvania ("Citizens") is engaged in commercial banking and trust business as authorized by the National Bank Act and its main office is located in Greencastle, Pennsylvania. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations and municipalities and other governmental bodies. Through its trust department, Citizens renders services as trustee, executor, administrator, guardian, managing agent, custodian, investment advisor and other fiduciary activities authorized by law. Citizens owns no subsidiaries.
As of December 31, 1998, Citizens had seven (7) full-service banking offices in Franklin County. Citizens' business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it.
As of December 31, 1998, Citizens had total assets of $192 million, total shareholder's equity of $15 million and total deposits of $170 million.
Business of First National Trust Bank. First National Trust Bank ("First ------------------------------------- National"), headquartered in Sunbury, Pennsylvania, is engaged in commercial banking and trust business authorized by the National Bank Act. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations and municipalities and other governmental bodies. Through its trust department, First National renders services as trustee, executor, administrator, guardian, managing agent, custodian, investment advisor and other fiduciary activities authorized by law. First National owns no subsidiaries.
As of December 31, 1998, First National had eleven (11) full-service and one (1) limited-service banking offices in Northumberland, Snyder, Columbia, and Union Counties. First National's business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it.
As of December 31, 1998, First National had total assets of $289 million, total shareholder's equity of $24 million and total deposits of $257 million.
Business of Williamsport National Bank. Williamsport National Bank -------------------------------------- ("Williamsport") is engaged in commercial banking and trust business authorized by the National Bank Act and its main office is in Williamsport, Pennsylvania. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations and municipalities and other governmental bodies. Through its trust department, Williamsport renders services as trustee, executor, administrator, guardian, managing agent, custodian, investment advisor and other fiduciary activities authorized by law. Williamsport owns no subsidiaries.
As of December 31, 1998, Williamsport had six (6) full-service and one (1) limited-service banking offices in Lycoming County. Williamsport's business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it.
As of December 31, 1998, Williamsport had total assets of $249 million, total shareholder's equity of $28 million and total deposits of $212 million.
Business of Farmers & Merchants Bank and Trust. Farmers & Merchants Bank ---------------------------------------------- and Trust ("F&M"), headquartered in Hagerstown, Maryland, is engaged in commercial banking as authorized by the banking laws of the State of Maryland. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations, municipalities and other governmental bodies. Through its Trust Department, which commenced operation during 1993, F&M is able to render services as trustee, executor, administrator, guardian, managing agent, custodian, investment advisor, and other fiduciary activities authorized by law. F&M operates FMBT, Inc. as a subsidiary to assist in investment portfolio management, and F&M Insurance Agency, Inc. as a subsidiary to engage in insurance agency business. Atlantic First Title Corporation is a subsidiary of F&M that was formed in 1997 for the purpose of providing title insurance and related services.
As of December 31, 1998, F&M had twenty-two (22) full-service and six (6) limited-service banking offices in Washington, Allegany and Garrett Counties, Maryland. F&M's business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it.
As of December 31, 1998, F&M had total assets of $611 million, total shareholder's equity of $49 million and total deposits of $474 million.
Business of Susquehanna Bank. Susquehanna Bank is a federally chartered ---------------------------- savings bank headquartered in Towson, Maryland. It was established, effective May 8, 1997, by the consolidation of Atlantic Federal Savings Bank, Fairfax Savings Bank FSB, and Reisterstown Federal Savings Bank. It is a wholly-owned subsidiary of Susquehanna South, which, in turn, is a wholly-owned subsidiary of Susquehanna.
Susquehanna Bank is principally engaged in the business of attracting deposits from the general public and using such deposits, together with borrowings and other funds, to invest in mortgage loans secured primarily by residential real estate and, to a lesser extent, multi-family real estate and commercial loans, mortgage-backed securities and investment and money market securities. Construction lending and land and development loans are a major focus of Susquehanna Bank. Through its subsidiary, Susquehanna Mortgage Corporation, Susquehanna Bank originates one-to-four family residential mortgage loans for sale in the secondary market. Susquehanna Bank has two other active subsidiaries--Reisterstown Service Corporation, a loan management company, and SBSI, Inc., a Delaware investment management company.
As of December 31, 1998, Susquehanna Bank had twenty-two (22) full service offices located in Baltimore City, and Baltimore, Cecil, Harford, Anne Arundel, Carroll, Worcester, and Wicomico Counties. It's main office is located in Towson, Maryland. Its business is not dependent upon any one customer and the loss of any customer or a few customers would have no material adverse effect upon it.
As of December 31, 1998, Susquehanna Bank had total assets of $1.0 billion, total shareholder's equity of $97 million, and total deposits of $700 million.
Business of First American National Bank of Pennsylvania. Effective at -------------------------------------------------------- 11:59 p.m. on December 16, 1998, Susquehanna completed the acquisition of the First American National Bank of Pennsylvania ("First American"), a national banking association headquartered in Everett, Pennsylvania.
First American is engaged in commercial banking as authorized by the National Bank Act. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations and municipalities and other governmental bodies. First American owns no active subsidiaries.
As of December 31, 1998, First American had five (5) full-service banking offices in Bedford and Blair Counties, Pennsylvania. First American's business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it.
As of December 31, 1998, First American had total assets of $138 million, total shareholder's equity of $18 million and total deposits of $114 million.
Business of Equity Bank, National Association. Effective October 1, 1998, --------------------------------------------- Farmers National Bank, a wholly-owned subsidiary of Susquehanna East, merged into Equity National Bank, also a subsidiary of Susquehanna East, under the name "Equity Bank, National Association" ("Equity Bank"). Equity Bank remains a wholly-owned subsidiary of Susquehanna East, which, in turn, is a wholly-owned subsidiary of Susquehanna.
Equity Bank is engaged in commercial banking as authorized by the National Bank Act. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations and municipalities and other governmental bodies. Equity Bank owns an investment subsidiary, EB Corp., whose purpose is to assist in investment portfolio management. EB Corp. results from the merger of Farmers Investment Company, a subsidiary of Farmers National Bank, into AT Corp., a subsidiary of Equity National Bank, that occurred simultaneously with the merger of Farmers National Bank into Equity National Bank under the name "Equity Bank, National Association."
As of December 31, 1998, Equity Bank had ten (10) full service and one (1) limited-service banking offices in Camden, Gloucester and Burlington Counties, New Jersey. Equity Bank's business is not dependent upon any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it.
As of December 31, 1998, Equity Bank had total assets of $332 million, total shareholder's equity of $25 million and total deposits of $304 million.
Business of Founders' Bank. Effective July 31, 1997, Susquehanna completed -------------------------- the acquisition of Founders' Bank ("Founders'"), of Bryn Mawr, Pennsylvania, a Pennsylvania state-chartered banking association and Federal Reserve member bank. Founders' also is a wholly-owned subsidiary of Susquehanna East, which, in turn, is a wholly-owned subsidiary of Susquehanna.
Founders' is engaged in commercial banking as authorized by the banking laws of the Commonwealth of Pennsylvania. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations and municipalities and other governmental bodies. Founders' has a real estate investment subsidiary, Old Lancaster Corporation, whose only asset was part ownership of Founders' headquarters building. Old Lancaster Corporation sold the building in January 1999. Founders' continues to lease its space in the building from the building's new owner.
As of December 31, 1998, Founders' had three (3) full-service offices in Montgomery, Chester, and Delaware Counties, Pennsylvania. Founders' business is not dependent upon any one customer, and the loss of any one customer or a few customers would not have a material adverse effect upon it. However, it should be noted that 45% of Founders' deposits at December 31, 1998, were from one customer. If this customer would leave, Founders' would have funding sources to replace those deposits.
As of December 31, 1998, Founders' had total assets of $153 million, total shareholder's equity of $10 million and total deposits of $138 million.
Business of First Capitol Bank. On January 4, 1999, Susquehanna completed ------------------------------ the acquisition of First Capitol Bank ("First Capitol"), a Pennsylvania state- chartered bank headquartered in York, Pennsylvania.
First Capitol is engaged in commercial banking and trust business as authorized by the Pennsylvania Banking Code of 1965, as amended. This involves accepting demand, time and savings deposits and granting loans (consumer, commercial, real estate and business) to individuals, corporations, partnerships, associations, municipalities and other governmental bodies. Through an affiliation it has with Hershey Trust Co., First Capitol also refers certain of its customers to Hershey Trust Co. for trust services.
As of January 4, 1999, the date of Susquehanna's acquisition of First Capitol, First Capitol had five (5) full-service banking offices in York County. First Capitol's business is not dependent on any one customer, and the loss of any customer or a few customers would not have a material adverse effect upon it. First Capitol owns no subsidiaries.
As of January 4, 1999, First Capitol had total assets of $111 million, total shareholder's equity of $11 million and total deposits of $93 million.
Year 2000 and Operating System Conversion. Susquehanna has engaged ----------------------------------------- consultants to assist in assessing the Year 2000 situation, develop a business process analysis and conduct remediation, where needed. Susquehanna has purchased new core application processing software and new computing equipment which are contracted to be Year 2000 compliant. See "Management's Discussion and Analysis of Results of Operations and Financial Conditions-Year 2000 Readiness Disclosure" for further discussion.
Recent Acquisitions
First American. Effective at 11:59 p.m. on December 16, 1998, -------------- Susquehanna completed the acquisition of Cardinal Bancorp, Inc. ("Cardinal"), Everett, Pennsylvania, and its wholly-owned subsidiary, First American. At December 31, 1998, First American had assets of $138 million and operated five banking offices located in Bedford and Blair Counties, Pennsylvania.
The acquisition of Cardinal and First American was completed through the exchange of 2,027,296 shares of Susquehanna common stock for all the outstanding capital stock of Cardinal. Cardinal shareholders received 2.048 shares of Susquehanna common stock for each share of Cardinal stock that they held as of December 16, 1998. The transaction qualified for pooling of interests accounting treatment. In connection with the transaction, Cardinal was merged with Susquehanna Bancshares West, Inc. ("Susquehanna West"), a wholly-owned subsidiary of Susquehanna formed solely for the purpose of facilitating the acquisition of Cardinal. Susquehanna West was merged into Susquehanna in January, 1999. As a result, First American became a wholly-owned subsidiary of Susquehanna. This transaction represented Susquehanna's initial entry into southwestern Pennsylvania.
First Capitol. The acquisition of First Capitol was completed through the ------------- exchange of 1,055,247 shares of Susquehanna common stock for all the outstanding capital stock of First Capitol. First Capitol shareholders received 2.028 shares of Susquehanna common stock for each share of First Capitol stock that they held as of January 4, 1999. The transaction qualified for pooling of interests accounting treatment. First Capitol is a direct, wholly-owned subsidiary of Susquehanna. This transaction increased Susquehanna's presence in York County, Pennsylvania.
Susquehanna contemplates that in the future it will evaluate and may acquire, or may cause its subsidiaries to acquire, other banks or savings associations. Susquehanna may acquire state and national banks whose principal business activities are in Pennsylvania and in states which have not opted out of the Interstate Banking Act, as hereinafter described. Susquehanna may also seek to enter businesses closely related to banking or to acquire existing companies already engaged in such activities which includes savings associations. Any acquisition by Susquehanna will require prior approval of the Board of Governors of the Federal Reserve System, the Pennsylvania Department of Banking, other regulatory agencies and, in some instances, its shareholders.
Other than as described above, Susquehanna currently has no formal commitments with respect to the acquisition of any entities, although discussions with prospects occur on a regular and continuing basis.
Supervision and Regulation
General. Susquehanna is registered with the Board of Governors of the ------- Federal Reserve System ("Board") and is subject to regulation under the Bank Holding Company Act of 1956, as amended ("BHC Act"). Provisions in the BHC Act require prior approval of an acquisition of assets or ownership or control of any voting shares of any bank, if such acquisition would give Susquehanna more than 5% of the voting shares of any bank or bank holding company.
The BHC Act also generally permits the acquisition of a non-bank company if such company engages only in activities which are determined to be closely related and incidental to banking. Susquehanna directly owns two non-bank subsidiaries - Susque-Bancshares Life Insurance Company ("SBLIC"), a wholly- owned reinsurance company, and Susque-Bancshares Leasing Company ("SBLC"), a wholly-owned leasing company. SBLIC is organized under the laws of the State of Arizona to operate as a credit life, health and accident reinsurer to the extent permitted by the laws of the Commonwealth of Pennsylvania. SBLIC is regulated by the Department of Insurance of the State of Arizona and is subject to periodic review by that department. SBLC is organized under the laws of the Commonwealth of Pennsylvania. SBLC in turn owns a single leasing company subsidiary (with commercial finance powers).
Susquehanna's subsidiary commercial and federal savings banks are also subject to specific regulation and supervision. Farmers First, a state bank, is subject to regulation and periodic examination by the Pennsylvania Department of Banking and the Federal Deposit Insurance Corporation ("FDIC"). Founders' and First Capitol are state member banks subject to regulation and periodic examination by the Board. Citizens, First National, Williamsport, First American and Equity Bank are national banks and are subject to regulation and periodic examination by the Office of the Comptroller of the Currency ("OCC"). F&M, a state bank, is subject to regulation and periodic examination by the Maryland Banking Commission and the FDIC. Susquehanna Bank is subject to
regulation and periodic examination by the Office of Thrift Supervision ("OTS"). Susquehanna South is also subject to supervision and regulation by the OTS as a savings and loan holding company. In addition, all of Susquehanna's banking subsidiaries are subject to examination by the Board.
The regulations that govern Susquehanna and its subsidiary commercial and federal savings banks impose certain restrictions on extensions of credit to Susquehanna from its subsidiary banks and with certain exceptions to other affiliates, on investments in the stock or securities thereof, on the taking of such stock or securities as collateral for loans to any borrower and on the issuance of a guarantee or letter of credit on behalf of Susquehanna or any other affiliate.
The federal and state regulations to which Susquehanna's subsidiary commercial and federal savings banks are subject encompass a broad spectrum including, without limitation, reserve requirements, loan limitations, restrictions as to interest rates on loans and deposits, restrictions as to payment of dividends and requirements governing the establishment of branches and other aspects of its operations. The regulations governing the subsidiary commercial and federal savings banks have generally been promulgated to protect depositors and creditors and not for the purpose of protecting shareholders.
Because of limitations arising under the BHC Act, Susquehanna's only line of business is that of providing commercial banking and other bank-related services and products to its customers. Such bank and bank-related services provided by Susquehanna and its subsidiaries in 1998 include commercial banking through its eight banking subsidiaries, thrift activities through its federal savings bank subsidiary, credit life insurance through another subsidiary, leasing operations through another subsidiary and passive investment management through its remaining subsidiary. Of the foregoing, commercial banking and thrift activities accounted for more than 97% of Susquehanna's gross revenues in each of the past two fiscal years.
Financial Institutions Reform, Recovery and Enforcement Act of 1989 ------------------------------------------------------------------- ("FIRREA"). FIRREA eliminated many of the distinctions between commercial banks - - ---------- and thrift institutions and their holding companies. It changed the capital requirements applicable to savings institutions to be "no less stringent than the capital standards applicable to national banks" and established a qualified thrift lender test regarding permissible investments for savings associations. It also amended applicable statutory provisions to permit bank holding companies to acquire savings institutions. FIRREA also expanded the jurisdiction of the regulators' enforcement powers to all "institution-affiliated parties," including stockholders, attorneys, appraisers and accountants who knowingly or recklessly participate in wrongful action having or likely to have an adverse effect on an insured institution. Under FIRREA, civil money penalties (classified into three levels, with amounts increasing with the severity of the violation) and/or prison sentences may be imposed for violations of law or regulation.
Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"). ------------------------------------------------------------------------ The FDICIA requires prompt corrective action against undercapitalized institutions and has established five capital categories. These are well- capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. Well-capitalized institutions significantly exceed the required minimum level for each capital measure (currently, risk-based and leverage). Adequately capitalized institutions include depository institutions that meet the required minimum level for each capital measure. Undercapitalized institutions represent depository institutions that fail to meet the required minimum level for any relevant capital measure. Significantly undercapitalized describes depository institutions that are significantly below the capital minimum requirements. Currently, all of Susquehanna's depository institution subsidiaries are considered well-capitalized.
Interstate Banking Act. Under the Riegle-Neal Interstate Banking and ---------------------- Branching Efficiency Act of 1994, substantially all state law barriers to the acquisition of banks by out-of-state bank holding companies were eliminated. The law permits interstate branching by banks effective as of June 1, 1997, subject to the ability of states to opt-out completely or to set an earlier effective date. The effect of the law has been to increase competition within the markets in which Susquehanna now operates.
The Omnibus Consolidated Appropriations Act Of 1997 ("OCAA"). The OCAA was ------------------------------------------------------------ signed into law on September 30, 1996. It includes, among others, Savings Association Insurance Fund ("SAIF") rescue provisions
and a number of other regulatory relief provisions for insured depository institutions and their holding companies. A summary of its more relevant provisions is set forth below.
SAIF Rescue Provisions. In September 1996, the federal government assessed a one-time special charge to recapitalize the SAIF. All U.S. banks and thrifts with deposits insured by SAIF were assessed a one-time charge of 65.7 cents per $100 of deposits. Susquehanna's assessment was $5.5 million before taxes. The assessment reflected SAIF deposits held by three affiliated thrifts in Maryland and one affiliated bank in Pennsylvania. After this one-time assessment, annual SAIF deposit premiums for well capitalized institutions were reduced from 23 cents per $100 of deposits to 6.44 cents per $100 of deposits, and in the year 2000 when the Bank Insurance Fund ("BIF") and SAIF are expected to be combined, the annual premium will be reduced to 2.43 cents per $100 of deposits. These reductions result in a payback period of approximately four years to recover the one-time special assessment of 65.7 cents per $100 of deposits.
Non-Banking Acquisitions by Well-Capitalized and Well-Managed Banking Organizations. The OCAA amended the BHC Act by eliminating or simplifying the notice procedure for well-managed and well-capitalized bank holding companies that seek to engage in permissible nonbanking activities de novo or through acquisitions subject to a size limitation, respectively.
A well-capitalized and well-managed bank holding company generally may engage de novo in any activity that is on the "laundry list" of permissible activities in Regulation Y promulgated by the Board without having to give prior notice to the Board. However, the bank holding company must provide written notification to the Board within 10 days after commencing the activity.
In addition, a well-capitalized and well-managed bank holding company may, with 12 days' prior notice, engage de novo in activities previously approved by the Board by order (i.e., activities that have been approved on a case-by-case basis and are not on the "laundry list" as generally approved) or make acquisitions of companies that fall within certain size limitations and whose activities are confined to permissible (by regulation or order) nonbanking activities. For this latter purpose, the (i) book value of the total assets to be acquired may not exceed 10% of the consolidated total risk-weighted assets of the acquiring bank holding company; (ii) the gross consideration to be paid for the securities or assets may not exceed 15% of the consolidated tier 1 capital of the acquiring bank holding company; and (iii) the holding company and its subsidiary depository institutions may not have recently been subject to a bank regulatory agency enforcement action. The notice only needs to include a description of the proposed activities and the terms of the proposed acquisition.
To meet the "well-capitalized" criteria, both before and immediately after the proposed transaction, the acquiring bank holding company itself must be well-capitalized; the lead insured depository institution subsidiary must be well-capitalized; well-capitalized insured depository institutions must hold at least 80% of the aggregate total risk-weighted assets of insured depository institutions controlled by the holding company; and no insured depository institution controlled by the holding company may be undercapitalized. "Well- capitalized" has the meaning set forth in the federal bank regulatory agencies' prompt corrective action regulations (i.e., a total risk-based capital ratio of 10% or greater, a tier 1 risk-based capital ratio of 6% or greater, and a leverage ratio of 5% or greater).
A banking organization is considered "well-managed" if the acquiring bank holding company, its lead insured depository institution, and insured depository institution subsidiaries controlling at least 90% of the aggregate total risk- weighted assets of the banking organization, are well-managed. A banking institution is considered well-managed if it has a composite rating of 1 or 2 under the CAMEL or similar rating system as of its most recent examination, and at least a satisfactory management rating in that examination.
Extension of Divestiture Period for Certain Shares. The OCAA also amended the BHC Act to allow a bank holding company to hold shares acquired pursuant to a debt previously acquired in good faith by extending to 10 years (instead of five years) the maximum time period for holding such shares. This gives bank holding companies the same flexibility as national banks, which may hold foreclosed shares or real estate for up to 10
years. The OCAA also allows a bank holding company to apply (within the 10-year limit) for extensions for more than one year at a time.
Savings and Loan Holding Companies that are also Bank Holding Companies. Before the passage of the OCAA, a holding company that controlled both a bank and a savings and loan association was subject to both the BHC Act and the Home Owners' Loan Act. Under the OCAA, such a company is excluded from the definition of a savings and loan holding company, and is subject to only the BHC Act. Accordingly, applications by such an organization have to be filed only with the Board, and not the Director of the OTS.
Lender Liability and Fiduciary Liability. The OCAA reinstated the Environmental Protection Agency lender liability rule and excluded from the Comprehensive Environmental Response, Compensation and Liability Act of 1980 ("CERCLA") definition of "owner or operator" those lenders that did not participate in the management of a vessel or facility prior to foreclosure and who, after foreclosure, sell, re-lease, or otherwise divest themselves of ownership of the vessel or facility, having sought to do so "at the earliest practicable, commercially reasonable time, on commercially reasonable terms, taking into account market conditions and legal and regulatory requirements." In addition, the CERCLA liability of a fiduciary for releases or threatened releases of hazardous substances from a vessel or facility held in a fiduciary capacity are limited to the assets so held, unless liability is predicated on something more than the fiduciary's ownership of the vessel or facility (e.g., the fiduciary's own negligence).
Loans to Executive Officers. The OCAA provides an exception to section 22(h)(2) of the Federal Reserve Act, which prohibits preferential loans to officers and directors of a member bank, by allowing an extension of credit made pursuant to a benefit or compensation program that is widely available to employees of the member bank and that does not give preference to any officer, director or principal shareholder of the member bank over other employees of that bank. The OCAA also allows the Board to grant exemptions from the prohibition in section 22(h)(2) to executive officers and directors of certain bank holding company subsidiaries where those individuals do not have authority to participate, and do not participate, in major policy making functions of the affiliated bank.
Audits and Audit Committees. The OCAA repealed the requirement imposed by the FDICIA that an independent public accountant attest to the extent of compliance of an insured depository institution and its holding company with laws and regulations designated by the FDIC.
In addition, the OCAA permits the independent audit committee of an insured depository institution to include inside directors, so long as a majority of the committee is composed of outside directors, if the appropriate federal bank regulatory agency determines that the institution has encountered hardships in retaining and recruiting a sufficient number of competent outside directors to serve on the committee. In making such a determination, the regulatory agency may take into account the size of the institution and whether the institution has made a good faith effort to elect additional outside directors who might serve on the internal audit committee.
Year 2000 Guidelines. The Federal Financial Institutions Examination -------------------- Council has issued several regulatory guidelines regarding Year 2000 readiness which are applicable to all depository institutions. The guidelines highlight, among others, risk management, contingency planning, fiduciary services, customers' awareness and safety and soundness issues on which the federal banking examiners will focus in bank examinations. In addition to readiness with respect to core operating systems, the guidelines also speak to the issue of the readiness of loan customers, bank suppliers and other third-parties which exchange data with depository institutions. The guidelines also require financial institution fiduciaries to, among others, develop a process to evaluate potential Year 2000 risks associated with managing clients' assets, conduct a review of significant fiduciary assets to determine potential liability or exposure attributable to issuers of securities with Year 2000 problems, and mitigate and manage Year 2000 exposure resulting from any such risks.
The Pennsylvania Department of Banking has also issued a statement, dated January 15, 1998, regarding Year 2000 readiness and state examinations. Other federal regulatory agencies, including the Board, the FDIC and the OCC have also issued a variety of advisory letters on the issue, including the OCC's advisory letter 98-1, which informed national banks that preparation for Year 2000 will be a factor in the OCC's review of certain corporate applications, including bank mergers. See "Management's Discussion and Analysis of Results of Operations and Financial Conditions-Year 2000 Readiness Disclosure" `for further discussion.
Environmental Impact Statement. Compliance by Susquehanna and its ------------------------------ subsidiaries with federal, state and local environmental protection laws during 1998 had no material effect upon capital expenditures, earnings or the competitive position of Susquehanna and its subsidiaries and is not expected to have a material effect on such expenditures or earnings during 1999.
Pending Legislation. From time to time legislation is proposed for ------------------- enactment before the United States Congress and before the Pennsylvania Legislature which could change a number of the regulations applicable to Susquehanna and its subsidiaries. It is not possible at this time to predict if or when such legislation might become law or the extent to which such legislation might affect the business or competitive status of Susquehanna and its subsidiaries.
National Monetary Policy. In addition to being affected by general ------------------------ economic conditions, the earnings and growth of Susquehanna and its subsidiaries are affected by the policies of regulatory authorities, including the OCC, the Board, the FDIC and the OTS. An important function of the Board is to regulate the money supply and credit conditions. Among the instruments used to implement these objectives are open market operations in U.S. Government securities, setting the discount rate and changes in reserve requirements against bank deposits. These instruments are used in varying combinations to influence overall growth and distribution of credit, bank loans, investments and deposits, and their use may also affect interest rates charged on loans or paid on deposits.
The monetary policies and regulations of the Board have had a significant effect on the operating results of commercial banks in the past and are expected to continue to do so in the future. The effects of such policies upon the future business, earnings and growth of Susquehanna and its subsidiaries cannot be predicted.
Competition
Bank holding companies and their subsidiary banks compete with many institutions for deposits, loans, trust services and other banking-related services. Like other depository institutions, Susquehanna has been subject to competition from less heavily regulated entities such as brokerage firms, money market funds, consumer finance, credit card companies and other financial services companies.
Legislative proposals are pending which would further liberalize many of the regulatory restrictions now imposed on Susquehanna and its subsidiaries or require their non-banking competitors to comply with similar regulatory restrictions. It is not possible to assess whether any of such proposals will be enacted, and if enacted, what effect such a proposal would have on the competitive positions of Susquehanna in its market place.
As a result of state and federal legislation enacted over the past 20 years, compression and consolidation in the industry has continued at a rapid pace. Further, as a result of relaxation of laws and regulations pertaining to branch banking in the state, and the opportunity to engage in interstate banking, the consolidation within the banking industry has had a significant competitive effect on Susquehanna and its markets. At present, Susquehanna and its subsidiary banks compete with numerous super-regional institutions with significantly greater resources and assets which conduct banking business throughout the region.
Farmers First's principal market areas are within Lancaster County and central York County, Pennsylvania. There are twenty-seven (27) commercial banks operating in those counties, seven (7) of which are headquartered in Lancaster County and eight (8) of which are headquartered in York County; the others are headquartered elsewhere in Pennsylvania, Maryland or New Jersey. Of the fifteen (15) commercial banks with
headquarters in Lancaster or York Counties, Farmers First ranked third in total deposits in those counties as of June 30, 1997, the last date for which information is available.
Citizens' principal market area consists of the central and southeastern portion of Franklin County, Pennsylvania, the northcentral and northeastern portion of Washington County, Maryland, and the northwestern portion of Frederick County, Maryland. It services a substantial number of depositors in this market area, with the greatest concentration within a limited radius of Waynesboro, Pennsylvania, and within a north-south strip of Interstate 81 from Chambersburg, Pennsylvania to Hagerstown, Maryland. There are thirteen (13) commercial banks in this market area including Citizens, seven (7) of which are headquartered in that market area. Citizens ranked fifth among the seven (7) banks in total deposits in that market area as of June 30, 1997, the last date for which information is available.
First National competes in market areas in Northumberland, Snyder, Union and Columbia Counties, Pennsylvania. Twenty-two (22) commercial banks operate offices in Northumberland, Snyder, Union and Columbia Counties, thirteen (13) of which are headquartered in those counties, and of the thirteen (13), First National ranked first in terms of total deposits in those counties as of June 30, 1997, the last date for which information is available.
Williamsport's principal market area consists of the south central and southeastern portions of Lycoming County, Pennsylvania. It services a substantial number of depositors in this service area, with the greatest concentration in the City of Williamsport. Eleven (11) commercial banks operate offices in Lycoming County, six (6) of which are headquartered in that county, and of the six (6), Williamsport ranked second in terms of total deposits in Lycoming County as of June 30, 1997, the last date for which information is available.
First American competes in market areas in Bedford and Blair Counties, Pennsylvania. Nine (9) commercial banks operate offices in Bedford and Blair Counties, four (4) of which are headquartered in those counties, and of the four (4), First American ranked third in terms of total deposits in those counties as of June 30, 1997, the last date for which information is available.
F&M's principal market area consists of Washington, Garrett and Allegany Counties, Maryland. Eight (8) commercial banks operate offices in those counties, three (3) of which are headquartered in Washington County, one (1) of which is headquartered in Garrett County, and two (2) of which are headquartered in Allegany County. Of the six (6), F&M ranked second in terms of total deposits in those counties as of June 30, 1997, the last date for which information is available.
Susquehanna Bank's principal market area consists of Baltimore, Cecil, Harford, Anne Arundel, Carroll, Worcester, and Wicomico Counties, Maryland, and portions of Baltimore City. Sixty-one (61) federal savings banks operate offices in that area, seven (7) of which are headquartered in Baltimore County, one (1) in Cecil County, two (2) in Harford County, three (3) in Anne Arundel County, two (2) in Carroll County, two (2) in Wicomico County, none in Worcester County, and thirty-two (32) in applicable portions of Baltimore City. Of the forty-nine (49) savings banks headquartered in that area, Susquehanna Bank ranked first in terms of total deposits in that area as of June 30, 1997, the last date for which information is available.
Equity Bank's principal market area consists of Camden, Gloucester and Burlington Counties, New Jersey. Eighteen (18) commercial banks operate offices in those counties, four (4) of which are headquartered in Camden County, two (2) of which are headquartered in Burlington County, and two (2) of which are headquartered in Gloucester County. Of the eight (8), Equity Bank ranked third in terms of total deposits in those counties as of June 30, 1997, the last date for which information is available.
Founders' principal market area consists of Chester, Delaware, and Montgomery Counties, Pennsylvania. Thirty-four (34) commercial banks operate offices in those counties, eight (8) of which are headquartered in Chester County, two (2) of which are headquartered in Delaware County and ten (10) of which are headquartered in Montgomery County. Of the twenty (20), Founders' ranked fourteenth in terms of total deposits in those counties as of June 30, 1997, the last date for which information is available.
First Capitol, which was acquired on January 4, 1999, competes in market areas in York County, Pennsylvania. Nineteen (19) commercial banks operate offices in York County, seven (7) of which are headquartered in that county, and of the seven (7), First Capitol ranked fifth in terms of total deposits in those counties as of June 30, 1997, the last date for which information is available.
Business Trends
Current business trends include a declining interest rate environment, a relatively strong and diverse local economy, a business climate which is sustaining, and continuing consumer confidence.
While conditions are presently stable, certain other factors create uncertainty in Susquehanna's markets as well as national markets. Susquehanna will continue its emphasis on control of funding costs and lending rates to effectively maintain profitability. In addition, Susquehanna will seek relationships which can generate fee income which is not directly tied to lending relationships. This thrust will help dampen Susquehanna's earnings fluctuations which are driven by movement in interest rates, business and consumer loan cycles, and local economic factors.
Item 2.
Item 2. Properties - - ------ ----------
Susquehanna does not own or lease any property. Susquehanna reimburses its subsidiaries for space and services utilized.
Susquehanna's subsidiary banks operate one hundred and fourteen (114) full- service branches, twenty (20) limited-service branches, thirty-three (33) free- standing automated teller machines and nineteen (19) automated loan machines. The banks own eighty (80) of the branches and lease the remaining fifty-nine (59). Ten (10) additional locations are owned or leased by subsidiary banks to facilitate operations and expansion. Management of Susquehanna believes that the properties currently owned and leased by its subsidiaries are adequate for present levels of operation.
As of December 31, 1998, the executive offices of the subsidiary banks are:1
Farmers First Bank Susquehanna Bank 9 East Main Street 100 West Road Lititz, Pennsylvania Towson, Maryland
First National Trust Bank Equity Bank, National Association 400 Market Street 8000 Sagemore Drive, Suite 8101 Sunbury, Pennsylvania Marlton, New Jersey
Citizens National Bank of Southern First American National Bank of Pennsylvania Pennsylvania 35 North Carlisle Street 140 East Main Street Greencastle, PA Everett, Pennsylvania
Williamsport National Bank Founders' Bank 329 Pine Street 101 Bryn Mawr Avenue Williamsport, Pennsylvania Bryn Mawr, Pennsylvania
Farmers & Merchants Bank and Trust 59 West Washington Street Hagerstown, Maryland
The executive offices of Farmers First, First National, Citizens National, Williamsport National, F&M and First American are owned by the respective subsidiary, and the offices of Susquehanna Bank, Equity Bank and Founders' are leased.
- - -------------------------- 1 First Capitol Bank was acquired on January 4, 1999. Its executive offices are located at 2951 Whiteford Road, York, Pennsylvania. First Capitol leases its executive offices.
Item 3.
Item 3. Legal Proceedings. - - ------ -----------------
There are no material proceedings to which Susquehanna or any of its present subsidiaries, directors, or officers are a party or by which they, or any of them, are threatened. All legal proceedings presently pending or threatened against Susquehanna and its subsidiaries involve routine litigation incidental to the business of Susquehanna or the subsidiary involved and are either not material in respect to the amount in controversy or are fully covered by insurance.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders. - - ------ ---------------------------------------------------
There were no matters submitted to a vote of security holders during the fourth quarter of 1998.
Executive Officers of Susquehanna
The following table sets forth the executive officers of Susquehanna, their ages, and their positions with Susquehanna:
PART II -------
Item 5.
Item 5. Market for Susquehanna Capital Stock and Related Shareholder Matters. - - ------ --------------------------------------------------------------------
Since November 5, 1985, Susquehanna Common Stock has been listed for quotation on the National Association of Securities Dealers National Market System. Set forth below are the high and low sales prices of Susquehanna's common stock as reported on the Nasdaq National Market System as reflected on the over-the-counter market, for the years 1997 and 1998.
- - ------------------------------------------------------------------- Price Range Per Share* ---------------------- - - ------------------------------------------------------------------- Cash ---- Year Period Dividends Paid Low Bid High Bid ---- ------ -------------- ------- --------
1997 1st Quarter Common 0.133 14.33 17.55 2nd Quarter Common 0.133 14.45 18.55 3rd Quarter Common 0.140 17.25 21.17 4th Quarter Common 0.140 17.67 25.92
1998 1st Quarter Common 0.140 21.67 26.00 2nd Quarter Common 0.140 22.67 26.08 3rd Quarter Common 0.140 17.88 26.75 4th Quarter Common 0.150 15.50 22.75 - - ------------------------------------------------------------------- *Common Stock prices and dividends have been adjusted to reflect Susquehanna's three-for-two stock split paid on July 1, 1998 to shareholders of record on June 15, 1998.
The foregoing represents prices between dealers and does not include retail markups, markdowns or commissions and does not necessarily represent actual transactions. As of February 28, 1999, there were 6,891 record holders of Susquehanna Common Stock and zero (0) record holders of Susquehanna Preferred Stock, which was redeemed by Susquehanna on February 7, 1994.
Dividends paid by Susquehanna are provided from dividends paid to it by Farmers First, First National, Williamsport, Citizens, First American, First Capitol, F&M, Susquehanna South, Susquehanna East and SBLC; under the Pennsylvania Banking Code of 1965 in the case of Farmers First; the Banking laws of the State of Maryland in the case of F&M; the National Bank Act in the case of First National, Williamsport, Citizens, Equity Bank and First American; the Federal Reserve Act in the case of Founders' and First Capitol; and the Federal Home Loan Act in the case of Susquehanna Bank.
Susquehanna's ability to pay dividends is largely dependent upon the receipt of dividends from its bank and savings bank subsidiaries. Both federal and state laws impose restrictions on the ability of these subsidiaries to pay dividends. In addition to the specific restrictions discussed below, bank and savings bank regulatory agencies, in general, also have the ability to prohibit proposed dividends by a bank or savings bank which would otherwise be permitted under applicable regulations if the regulatory body determines that such distribution would constitute an unsafe or unsound practice.
The Federal Reserve Board and the FDIC have issued policy statements which provide that, as a general matter, insured banks and bank holding companies may pay dividends only out of current operating earnings.
For national banks, the approval of the OCC is required for the payment of dividends in any calendar year by a national bank subsidiary if the total of all dividends declared by the bank in a calendar year exceeds the current year's net income combined with the retained net income of the two preceding years. "Retained net income" means the net income of a specified period less any common or preferred stock dividends declared for that period. Moreover, no dividends may be paid by a national bank in excess of its undivided profits account.
Dividends payable by a Pennsylvania state-chartered bank are restricted due to the requirement that such bank set aside to a surplus fund each year at least 10% of its net earnings until such surplus equals the amount of its capital. Furthermore, the payment of a dividend may not be made if it results in the reduction of the surplus available to the bank.
For a Maryland state-chartered bank, dividends may be paid out of undivided profits or, with the approval of the Maryland Bank Commissioner, from surplus in excess of 100% of required capital stock. If, however, the surplus of a Maryland bank is less than 100% of its required capital stock, cash dividends may not be paid in excess of 90% of net earnings.
As noted, Susquehanna looks to Susquehanna Bank for funds to distribute as dividends. However, federal regulations impose restrictions on dividend payments on savings institutions which convert from mutual to stock form of ownership and are federally insured at the time of the conversion, as was the case with the former Atlantic Federal Savings Bank ("Atlantic Federal") and Reisterstown Federal Savings Bank ("Reisterstown Federal"). Upon conversion, regulations require that a "liquidation account" be established by restricting a portion of net capital for the benefit of eligible savings account holders who maintain their savings accounts with the institution after conversion. In the event of complete liquidation (and only in such event), each savings account holder who continues to maintain a savings account will be entitled to receive a distribution from the liquidation account after payment to all creditors, but before any liquidation distribution with respect to capital stock. This account is proportionally reduced for any decreases in the eligible holder's savings accounts. Susquehanna Bank has succeeded to the liquidation account obligations of Atlantic Federal and Reisterstown Federal.
Under federal regulations, savings institutions which have converted under such regulations (including Atlantic Federal and Reisterstown Federal) may not declare or pay a cash dividend on common stock if the dividend would cause the institution's capital to be reduced below the amount required for the liquidation account or, as to all savings institutions, below the capital requirements imposed by the OTS under FIRREA, and regulations promulgated thereunder.
The OTS regulations impose limitations on all cash dividends by savings banks. The OTS regulations establish three tiers of institutions. An institution that exceeds all fully phased-in capital requirements before and after a proposed dividend ("Tier 1 Association") may, after prior notice, but without the approval of the OTS, make capital distributions during a calendar year of up to: (i) 100 percent of its net income to date during the calendar year plus the amount that would reduce by one-half of its surplus capital at the beginning of the calendar year; or (ii) 75 percent of its net income over the most recent four-quarter period. An institution that meets its regulatory capital requirement, but not its fully phased-in capital requirement before or after its cash dividend ("Tier 2 Association") may, after prior notice, but without the approval of the OTS, make capital distributions of up to 75 percent of its net income over the most recent four-quarter period if it satisfies the risk-based capital requirements that would be applicable to it on January 1, 1993, computed on its current portfolio; up to 50 percent of its net income over the most recent four-quarter period if it satisfies the risk-based capital standard that was applicable to it on January 1, 1991, computed on its current portfolio; and up to 25 percent of its net income over the most recent four- quarter period if it satisfies its current risk-based capital requirement. In computing the permissible percentage of cash dividend, previous distributions made during the prior four-quarter period must be included. A savings institution that does not meet its current regulatory capital requirements before or after payment of a proposed cash dividend ("Tier 3 Association") may not make any capital distributions without prior approval of the
OTS. In addition, the OTS has the ability to prohibit a proposed cash dividend by any institution which would otherwise be permitted by the regulations if the OTS determines that such distribution would constitute an unsafe or unsound practice. As of December 31, 1998, Susquehanna Bank satisfied the requirements of a Tier 1 Association.
The capital requirements mandated by FIRREA require thrifts to maintain tangible capital of at least 1.5 percent of adjusted total assets, a leverage ratio or core capital of at least 3 percent of adjusted total assets, and overall risk-based capital of at least 8 percent of total risk-weighted assets.
Tangible capital includes common stockholder's equity with certain assets phased out over several years. Core capital includes tangible capital plus "supervisory" goodwill and certain other defined items. The risk-based capital requirement involves the classification of certain assets, commitments and obligations, as defined, based upon their credit risk level. Higher credit risk amounts carry a progressively higher capital requirement.
In August 1993, the OTS adopted a final rule for calculating an interest rate risk ("IRR") component of risk-based capital. Under this rule, the IRR component of capital will be in addition to the existing 8 percent risk- based capital requirement. The new rule became effective January 1, 1994, with institutions first required to meet the new standard in 1994.
The rule provides that the OTS will calculate the IRR component quarterly for each institution starting in 1994 with information as of December 31, 1993. To estimate IRR, the OTS will compute each institution's market value of portfolio equity ("MVPE") in the present interest rate environment versus MVPEs derived after applying parallel rate shifts of plus and minus 200 basis points. Provided any measured decline in MVPE under both rate shifts is less than 2 percent of the estimated market value of the institution's assets, no addition will be made to the 8 percent risk-based capital requirement. If there is a measured decline in MVPE greater than 2 percent, then an institution will be required to maintain additional capital equal to one-half of the difference between its measured IRR and 2 percent, multiplied by the market value of its assets. Susquehanna Bank has not been required to maintain additional capital as a result of such calculations.
In accordance with the above regulatory restrictions, each subsidiary commercial and federal savings bank has the ability to pay dividends, and at December 31, 1998, $22 million is available for dividend distribution to Susquehanna in 1999 from its subsidiary commercial and federal savings banks without regulatory approval. Susquehanna currently expects that cash dividends will continue to be paid by subsidiaries in the future at levels comparable with prior years.
Item 6.
Item 6. Selected Financial Data. - - ------ -----------------------
See Page 22.
- - -------------------------------------------------------------------------------- Selected Financial Data - - --------------------------------------------------------------------------------
Item 7.
Item 7. Management's Discussion and Analysis of Results of Operations and - - ------ ----------------------------------------------------------------- Financial Condition - - -------------------
See Pages 24-49.
- - -------------------------------------------------------------------------------- Management's Discussion and Analysis - - -------------------------------------------------------------------------------- OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
The following pages of this report present management's discussion and analysis of the consolidated financial condition and results of operations of Susquehanna Bancshares, Inc., including its subsidiaries: Farmers First Bank; Farmers & Merchants Bank and Trust; First American National Bank of Pennsylvania; First National Trust Bank; Williamsport National Bank; Citizens National Bank of Southern Pennsylvania; Susquehanna Bancshares East, Inc. and its commercial bank subsidiaries Equity Bank, N.A., and Founders' Bank; Susquehanna Bancshares South, Inc. and its savings bank subsidiary Susquehanna Bank, Susque-Bancshares Leasing Co., Inc., and Susque-Bancshares Life Insurance Company.
Certain statements in this document may be considered to be "forward-looking statements" as that term is defined in the U.S. Private Securities Litigation Reform Act of 1995, such as statements that include the words "expect," "estimate," "project," "anticipate," "should," "intend," "probability," "risk," "target," "objective," and similar expressions or variations on such expressions. In particular, this document includes forward-looking statements relating, but not limited to, Susquehanna's potential exposures to various types of market risks, such as interest rate risk and credit risk. Such statements are subject to certain risks and uncertainties. For example, certain of the market risk disclosures are dependent on choices about key model characteristics and assumptions and are subject to various limitations. By their nature, certain of the market risk disclosures are only estimates and could be materially different from what actually occurs in the future. As a result, actual income gains and losses could materially differ from those that have been estimated. Other factors that could cause actual results to differ materially from those estimated by the forward-looking statements contained in this document include, but are not limited to, general economic conditions in market areas where Susquehanna has significant business activities or investments; the monetary and interest rate policies of the Board of Governors of the Federal Reserve System; inflation; deflation; unanticipated turbulence in interest rates; changes in laws, regulations, and taxes; changes in competition and pricing environments; natural disasters; the inability to hedge certain risks economically; the adequacy of loss reserves; acquisitions or restructurings; technological changes; changes in consumer spending and saving habits; economic and social turbulence which might result from the Y2K or millennium problem; and the success of Susquehanna in managing the risks involved in the foregoing.
RESULTS OF OPERATIONS Summary of 1998 Compared to 1997
Several significant transactions occurred which affected the comparability of Susquehanna's financial performance for the years ended December 31, 1998 and 1997. These transactions are described in the following paragraphs.
On February 28, 1997, Susquehanna completed the acquisition of ATCORP, Inc. ("AI"), a New Jersey bank holding company with $210 million in assets and $186 million in deposits at the acquisition date. Susquehanna issued one share (prior to the 1997 and 1998 stock splits) of common stock to the shareholders of AI for each of the 771,750 outstanding common shares of AI. The transaction was accounted for under the pooling-of-interests method of accounting; accordingly, the consolidated financial statements have been restated to include the consolidated accounts of AI for all periods presented.
Also on February 28, 1997, Susquehanna completed the acquisition of Farmers Banc Corp ("FBC"), a New Jersey bank holding company with $88 million in assets and $77 million of deposits at the acquisition date. Susquehanna issued 692,398 shares of common stock (prior to the 1997 and 1998 stock splits) to the shareholders of FBC based on an exchange ratio of 2.281 shares (prior to the 1997 and 1998 stock splits) of Susquehanna common stock for each outstanding share of FBC. The transaction was accounted for under the pooling-of-interests method of accounting; accordingly, the consolidated financial statements have been restated to include the consolidated accounts of FBC for all periods presented.
On May 1, 1997, Susquehanna combined its three savings banks located in and around Baltimore, Maryland, into one savings bank named Susquehanna Bank. As a result of this combination, there was a reduction in the work force of Susquehanna Bank with related severance packages. Consequently, Susquehanna recorded pre-tax severance of $1.3 million in 1997 related to these reductions. The annual pre-tax cost savings related to these reductions approximates $1.3 million.
On July 31, 1997, Susquehanna acquired Founders' Bank ("Founders'"), Bryn Mawr, Pa., through an exchange of 560,353 shares (prior to the 1998 stock split) of Susquehanna common stock to the shareholders of Founders' based on exchange ratio of 0.566 shares of Susquehanna common stock for each share of Founders' outstanding capital stock. The transaction was accounted for under the pooling-of-interests method of accounting. At the time of the acquisition, Founders' reported total assets of $103 million. The results of operations for Founders' prior to the acquisition were not material to Susquehanna's consolidated financial statements and, accordingly, Susquehanna's prior period consolidated financial statements have not been restated to reflect the acquisition of Founders'.
On December 16, 1998, Susquehanna acquired Cardinal Bancorp, Inc. ("Cardinal"), a Pennsylvania bank holding company with $138 million in assets and $114 million in deposits at the acquisition date. Susquehanna issued 2,027,296 shares of its common stock to the shareholders of Cardinal based upon an exchange ratio of 2.048 shares of Susquehanna common stock for each outstanding share of Cardinal. The transaction was accounted for under the pooling-of-interests method of accounting; accordingly, the consolidated financial statements have been restated to include the consolidated accounts of Cardinal for all periods presented.
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Susquehanna's net income for the year ended December 31, 1998, increased to $45.6 million, or 8% above 1997 net income of $42.1 million. Susquehanna's earnings performance was affected by significant growth in non-interest income resulting primarily from an increase in mortgage-banking activities and the purchase of certain insurance-related products, such as bank-owned life insurance ("BOLI"). Non-interest income increased $6.5 million, or 27%, in 1998 over 1997.
While diluted earnings per common share increased from $1.18 in 1997 to $1.26 in 1998, return on average assets ("ROA"), and return on average equity ("ROE"), decreased from 1.19% and 12.27%, respectively, in 1997 to 1.17% and 12.08%, respectively, in 1998. During 1995 and 1996, Susquehanna acquired two Maryland savings banks under the purchase method of accounting. These purchase transactions created an intangible asset, goodwill, of $34 million, which significantly affects Susquehanna's earnings and financial ratios. Goodwill amortization is a non-cash charge to earnings. Tangible net income is actual net income increased by the tax-effected amortization of those intangible assets which are deducted from equity in determining Tier 1 capital. For 1998, tangible net income, earnings per
TABLE 1--Distribution of Average Assets, Liabilities, and Stockholders' Equity Interest Rates and Interest Differential--Tax Equivalent Basis
For purposes of calculating loan yields, the average loan volume includes nonaccrual loans. For purposes of calculating yields on tax-advantaged interest income, the taxable equivalent is made to equate tax-advantaged interest on the same basis as taxable interest. The marginal tax rate is 35%.
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share, ROA, and ROE were $48.7 million, $1.36, 1.26%, and 14.23%, respectively, compared to actual net income, basic earnings per share, ROA and ROE of $45.6 million, $1.27, 1.17% and 12.08%, respectively. Tangible net income, earnings per share, ROA, and ROE for 1997 were $45.0 million, $1.27, 1.29% and 14.75%, respectively.
Net Interest Income--Taxable Equivalent Basis
The major source of operating revenues is net interest income, which rose to a level of $154.2 million in 1998, representing a $2.8 million, or 2%, increase above the $151.4 million attained in 1997. The net interest margin, on a tax equivalent basis, declined to 4.37% during 1998 from 4.74% in 1997.
Net interest income is the income which remains after deducting from total income generated by earning assets the interest expense attributable to the acquisition of the funds required to support earning assets. Income from earning assets includes income from loans, income from investment securities, and income from short-term investments. The amount of interest income is dependent upon many factors including the volume of earning assets, the general level of interest rates, the dynamics of the change in interest rates, and levels of nonperforming loans. The cost of funds varies with the amount of funds necessary to support earning assets, the rates paid to attract and hold deposits, rates paid on borrowed funds, and the levels of non-interest-bearing demand deposits and equity capital.
Table 1 presents average balances, taxable equivalent interest income and expenses, and yields earned or paid on these assets and liabilities of Susquehanna. For purposes of calculating taxable equivalent interest income, tax-exempt interest has been adjusted using a marginal tax rate of 35% in order to equate the yield to that of taxable interest rates. Net interest income as a percentage of net interest income and other income was 83%, 86%, and 86% for the twelve months ended December 31, 1998, 1997, and 1996, respectively.
Table 2 illustrates that the growth in interest income in 1998 over 1997 was attributed to volume. The growth in average interest-earning assets of $345 million in 1998 over 1997 was due to a $176 million increase in the investment portfolio and a $165 million increase in loans. As illustrated in Table 1, the tax equivalent yield on earning assets for 1998 declined to 8.18%
TABLE 2--Changes in Net Interest Income--Tax Equivalent Basis
Changes which are in part to volume and in part to rate are allocated in proportion to their relationship to the amounts of changes attributed directly to volume and rate.
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from 8.47% in 1997. This decline was primarily due to lower reinvestment rates on loans and investments and market forces impacting product pricing. Table 2 also illustrates that the growth in interest expense in 1998 over 1997 was primarily attributed to volume. Increased levels of interest-bearing demand deposits and long-term debt used to fund asset growth were the primary reasons for the $15.9 million increase in interest expense. The average funding costs rose slightly in 1998 to 4.47% from 4.41% in 1997 primarily due to competitive pricing for time deposits in Susquehanna's markets and the funding of investment growth with long-term debt, a higher cost of funds.
As a result of the preceding comments, Susquehanna's net interest margin, on a taxable equivalent basis, declined from 4.74% in 1997 to 4.37% in 1998. The increase in the investment portfolio was primarily due to a program that Susquehanna began in the first quarter of 1998 to better utilize its capital and to reduce its tax burden. Under this program, Susquehanna acquired $175 million of GNMA securities and borrowed from the Federal Home Loan Bank to fund the purchase. The program produced $1.1 million in net income for 1998, but negatively impacted the net interest margin by 18 basis points.
Variances do occur in the net interest margin as an exact repricing of assets and liabilities is not possible. A further explanation of the impact of asset and liability repricing is found in the Market Risks section of this discussion.
Provision and Allowance for Loan and Lease Losses
Susquehanna's provision for loan and lease losses is based upon management's quarterly loan portfolio review. The purpose of the review is to assess loan quality, identify impaired loans, analyze delinquencies, ascertain loan growth, evaluate potential charge-offs and recoveries, and assess general economic conditions in the markets its affiliates serve.
Commercial and real estate loans are rated by loan officers and, periodically, by loan review personnel. Consumer and residential real estate loans are generally reviewed in the aggregate as they are of relative small dollar size and homogeneous in nature.
In addition to economic conditions, loan portfolio diversification, delinquency, and historic loss experience, consideration is also given to examinations performed by the regulatory authorities.
To determine the allowance and corresponding provision, the amount required for specific allocation is first determined. For all types of commercial and construction loans, this amount is based upon specific borrower data determined by reviewing individual non-performing, delinquent, or potentially troubled credits. In addition, a general allocation is also determined using the same criteria applied to the total commercial portfolio. Consumer and residential real estate allowances, which may include specific allocations, generally are based upon recent charge-off and delinquency history, other known trends and expected losses over the remaining lives of these loans, as well as the condition of local, regional, and national economies.
The unallocated portion of the allowance is the amount which, when added to these allocated amounts, brings the total to the amount deemed adequate by management at that time. This unallocated portion is available to absorb losses sustained anywhere within the loan portfolio. Table 10 presents this allocation.
The loan portfolio represents loans made primarily within Susquehanna's market area, which includes central and southeastern Pennsylvania, Maryland, southern New Jersey, and, to a lesser extent, southwestern Pennsylvania, Delaware, West Virginia, northern Virginia, and the southern tier of New York state.
Determining the level of the allowance for possible loan and lease losses at any given period is difficult, particularly during deteriorating or uncertain economic periods. Management must make estimates using assumptions and information which is often subjective and changing rapidly. The review of the loan portfolio is a continuing event in light of a changing economy and the dynamics of the banking and regulatory environment. In management's opinion, the allowance for loan and lease losses is adequate at December 31, 1998. As illustrated in Table 3, the provision for loan and lease losses was $5.2 million for 1998 compared to $4.6 million in 1997. Net charge-offs, as seen in Table 3, were $5.6 million in 1998 compared with $5.3 million in 1997. As a result, the allowance for loan and lease losses at December 31, 1998, was 1.27% of period-end loans and leases, or $35.2 million, compared with 1.34%, or $35.5 million at December 31, 1997. The allowance for loan and lease losses as a percentage of non-performing loans increased from 153% at December 31, 1997, to 165% at December 31, 1998.
Should the economic climate no longer continue to improve or should it begin to deteriorate, borrowers may experience difficulty, and the level of non-performing loans and assets, charge-offs, and delinquencies could rise and require further increases in the provision.
In addition, regulatory authorities, as an integral part of their examinations, periodically review the allowance for possible loan and lease losses. They may require additions to allowances based upon their judgments about information available to them at the time of examination.
It is Susquehanna's policy not to renegotiate the terms of a loan simply because of a delinquency status. Rather, a loan is transferred to non-accrual status if not well secured and in the process of collection, and is delinquent in payment of either principal or interest beyond 90 days. Interest income received on non-performing loans in 1998 and 1997 was $0.9 million and $1.1 million, respectively. Interest income which would have been recorded on these loans under the original terms was $2.3 million for 1998 and 1997. At December 31, 1998, Susquehanna had no outstanding commitments to advance additional funds with respect to these non-performing loans. Table 3 is an analysis of the provision levels as well as the activity in the allowance for loan losses for the past five years.
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Table 4 reflects the five-year history of non-performing assets and loans contractually past due 90 days and still accruing. Total non-performing assets at December 31, 1998 and 1997, of $26.1 and $27.8 million, respectively, includes $4.7 million and $4.5 million, respectively, in other real estate acquired through foreclosure. Non-performing assets as a percentage of period-end loans and other real estate owned was 0.94% at December 31, 1998, the lowest level this decade.
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Real estate acquired through foreclosure is carried at the lower of the recorded amount of the loan for which the foreclosed property served as collateral or the fair market value of the property as determined by a current appraisal less estimated costs to sell (fair value). Prior to foreclosure, the recorded amount of the loan is written-down, if necessary, to fair value by charging the allowance for loan losses. Subsequent to foreclosure, gains or losses on the sale of real estate acquired through foreclosure are recorded in operating income and any losses determined as a result of periodic valuations are charged to other operating expense.
Loans with principal and/or interest delinquent 90 days or more which are still accruing interest were $10.4 million at December 31, 1998, up from the $7.0 million at December 31, 1997. Although the economy is stable, softness in the economy may adversely affect certain borrowers and may cause additional loans to become past due beyond 89 days or be placed on non-accrual status because of uncertainty of receiving full payment of either principal or interest on these loans.
Potential problem loans consist of loans which are performing, but for which potential credit problems have caused Susquehanna to place them on its internally monitored loan list. At December 31, 1998, such loans, not included in Table 4, amounted to $36.6 million. Depending upon the state of the economy and the impact thereon to these borrowers, as well as future events such as regulatory examination assessment, these loans and others not currently so identified could be classified as non-performing assets in the future.
Other Income
Non-interest income, recorded as other income, consists of service charges on deposit accounts, commissions, fees received for travelers' check sales and money orders, fees for trust services, income generated from bank-owned life insurance and reinsurance activities, gains and losses on security transactions, net gains on sales of mortgages, net gains on sales of other real estate owned, and other miscellaneous income, such as safe deposit box rents. Other income as a percentage of net interest income and other income was 17%, 14%, and 14% for 1998, 1997, and 1996, respectively.
Non-interest income increased $6.5 million, or 27%, in 1998 over 1997. Service charges on deposit accounts were up $1.3 million, or 19%, and other charges, fees, and commissions rose by $0.4 million, or 12%, reflecting the additional office locations and higher account volumes. All other income exceeded 1997 results by $2.5 million, or 35%, primarily due to income from bank-owned life insurance and increased debit card activity. Trust fees increased $0.3 million, or 8%, while gain on sale of mortgage loans increased $2.1 million, as loans originated for sale were $127 million more than 1997.
Other Expenses
Non-interest expenses are categorized into five main groupings: employee-related expenses, which include salaries, fringe
benefits, and employment taxes; occupancy expenses, which include depreciation, rents, maintenance, utilities, and insurance; equipment expenses, which include depreciation, rents, and maintenance; FDIC insurance premiums on deposits; and other expenses (detailed in Table 5) incurred in operating Susquehanna's business.
Non-interest expense increased $3.4 million, or 3%, in 1998 over 1997, due to a $2.8 million increase in legal and other professional fees related to Year 2000 remediation and a $0.5 million increase in communications expense resulting from new product delivery channels and additional branch locations.
Salaries and employee benefits decreased $2.4 million from 1997 to 1998 and equipment expense increased $1.7 million when comparing the same periods. These variances are due to the ongoing information systems conversions of Susquehanna's banking affiliates and related reductions in staff.
Income Taxes
Susquehanna's effective tax rate for 1998 was 31.63% compared to 31.47% in 1997. These effective rates were maintained because of increased levels of tax-advantaged income. During 1997 and 1998, Susquehanna purchased $60 million of insurance-related products and recognized $1.1 million and $3.4 million, respectively, of tax-advantaged income from the increase in cash surrender values and insurance proceeds. Offsetting the increase in tax-advantaged income was an increase in permanent differences resulting from acquisition-related activity.
As tax-advantaged loans and securities continue to mature, and the opportunities for investment in additional tax-advantaged enterprises become less attractive due to certain provi-
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sions of the Tax Reform Act of 1986, effective tax rates may increase in the years ahead.
Susquehanna recognizes deferred tax liabilities for taxable temporary differences (the difference between financial and tax bases) and deferred tax assets for deductible temporary differences. Management believes the deferred tax assets recognized at December 31, 1998, will be realized in future tax returns. While the ultimate realization of deferred tax assets is dependent on future taxable income, taxable income in prior carryback years and future reversals of existing taxable temporary differences are sufficient to offset the future reversals of deductible temporary differences without implementing any tax strategies or assuming future taxable income.
FINANCIAL CONDITION Investment Securities
Susquehanna follows SFAS 115, "Accounting for Certain Investments in Debt and Equity Securities." This accounting pronouncement requires the segregation of investment securities into three categories, each having a distinct accounting treatment.
Securities identified as "held-to-maturity" continue to be carried at their amortized cost and, except for limited circumstances, may not be sold prior to maturity. Securities identified as "available-for-sale" must be reported at their market or "fair" value, and the difference between that value and their amortized cost recorded in the equity section, net of taxes. As a result, total equity of Susquehanna was positively impacted by $2.2 million as the "unrealized gains or losses for available-for-sale securities," changed from a positive $3.8 million at December 31, 1997, to a positive $6.0 million at December 31, 1998. Securities identified as "trading account securities" are marked-to-market with the change recorded in the income statement.
Presently, Susquehanna does not engage in trading activity, but does engage in active portfolio management which requires the majority of its security portfolios to be identified as "available-for-sale." While SFAS 115 requires segregation into "held-to-maturity" and "available-for-sale" categories (see Table 6), it does not change Susquehanna's policy concerning the purchase of only high-quality securities. Strategies employed address liquidity, capital adequacy, and net interest margin considerations which then determine the assignment of purchases into these two categories. Table 7 illustrates the maturities of these security portfolios and the weighted average yields based upon amortized costs. Yields are shown on a tax equivalent basis assuming a 35% federal income tax rate. At December 31, 1998, Susquehanna held no securities of one issuer, other than U.S. Government obligations, where the aggregate book value exceeded ten percent of stockholders' equity.
Loans
Table 8 presents the loans outstanding, by type of loan, for the past five years. Loan growth for 1998 was 5%, or $130 million. Loan growth in 1998 was mainly associated with real estate mortgage and construction loans which increased $85 million and leases which grew by $57 million. As noted in Table 11, Susquehanna's loan portfolio contains no significant concentrations other than the geographic and housing developments.
Susquehanna's banking subsidiaries have historically reported a significant amount of loans secured by real estate, as depicted in Table 8. Many of these loans have real estate collateral taken as additional security not related to the acquisition of the real estate pledged. Open-end home equity loans amounted to $106 million at year end, and an additional $185 million was lent against junior liens on residential properties. Senior liens on 1-4 family residential properties totaled $888 million, and much of the $509 million in loans secured by non-farm, non-residential properties represented collateralization of operating lines or term loans that finance equipment, inventory, or receivables. Loans secured by farmland totaled $38 million, while loans secured by multi-family residential properties totaled $42 million at December 31, 1998.
Table 9 represents the maturity of commercial, financial, and agricultural loans as well as real estate construction loans. These loans with maturities after 1999 consist of $132 million with fixed-rate pricing and $94 million with variable-rate pricing.
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TABLE 7--Investment Securities
The following table shows the maturities of investment securities at fair value and amortized cost as of December 31, 1998, and the weighted average yields of such securities. Those securities that do not have a single maturity date are shown in total based upon final maturity. Yields are shown on a tax equivalent basis assuming a 35% federal income tax rate.
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Deposits
Susquehanna's deposit base is consumer-oriented, consisting of time deposits, primarily certificates of deposit of various terms, interest-bearing demand accounts, savings accounts, and demand deposits. The average amounts of deposits by type are summarized in Table 12. Susquehanna does not rely upon time deposits of $100,000 or more as a principal source of funds, as they represent only 5% of total deposits. Table 13 presents a breakdown of maturities of time deposits of $100,000 or more as of December 31, 1998.
Market Risks
The types of market risk exposures generally faced by banking entities include interest rate risk, liquidity risk, equity market price risk, foreign currency risk, and commodity price risk.
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TABLE 11--Loan Concentrations
Substantially all of Susquehanna's loans and leases are to enterprises and individuals in Pennsylvania, New Jersey and Maryland. At December 31, 1998, Susquehanna's portfolio included the following concentrations:
Due to the nature of its operations, only interest rate risk and liquidity risk are significant to Susquehanna.
Liquidity and interest rate risk are related but distinctly different from one another. The maintenance of adequate liquidity--the ability to meet the cash requirements of its customers and other financial commitments--is a fundamental aspect of Susquehanna's asset/liability management strategy. Susquehanna's policy of diversifying its funding sources--purchased funds, repurchase agreements, and deposit accounts--allows it to avoid undue concentration in any single financial market and also to avoid heavy funding requirements within short periods of time. At December 31, 1998, Susquehanna's subsidiary banks and savings bank have an unused line of credit available to them from the Federal Home Loan Bank totaling $377 million.
However, liquidity is not entirely dependent on increasing Susquehanna's liability balances. Liquidity can also be generated from maturing or readily marketable assets. The carrying value of investment securities maturing within one year amounted to $141 million at December 31, 1998. These maturing investments represent 15% of total investment securities. Short-term investments amounted to $76 million and represent additional sources of liquidity.
Closely related to the management of liquidity is the man-
TABLE 12--Average Deposit Balances - - ------------------------------------------------------------ Dollars in thousands - - ------------------------------------------------------------ Year ended December 31 1998 1997 1996 - - ------------------------------------------------------------ Demand deposits $ 381,730 $ 344,222 $ 323,626 Interest-bearing demand deposits 866,960 784,894 733,509 Savings deposits 443,676 451,588 457,136 Time deposits 1,327,057 1,306,907 1,309,114 - - ------------------------------------------------------------ Total $3,019,423 $2,887,611 $2,823,385 ============================================================
TABLE 13--Deposit Maturity Maturity of time deposits of $100 or more at December 31, 1998 - - ----------------------------------------------------------- Dollars in thousands - - ----------------------------------------------------------- Three months or less $ 53,686 Over three months through six months 26,539 Over six months through twelve months 34,608 Over twelve months 43,805 - - ----------------------------------------------------------- Total $158,638 ===========================================================
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agement of interest rate risk which focuses on maintaining stability in the net interest margin, an important factor in earnings growth. Interest rate sensitivity is the matching or mismatching of the maturity and rate structure of the interest-bearing assets and liabilities. It is the objective of management to control the difference in the timing of the rate changes for these assets and liabilities to preserve a satisfactory net interest margin. In doing so, Susquehanna endeavors to maximize earnings in an environment of changing interest rates. However, there is a lag in maintaining the desired matching because the repricing of products does occur at varying time intervals.
Susquehanna employs a variety of methods to monitor interest rate risk. Dividing assets and liabilities into three groups--fixed rate, floating rate, and those which reprice only at management's discretion--strategies are developed to minimize exposure to interest rate fluctuations . Management utilizes gap analysis to evaluate rate sensitivity at a given point in time. Table 14 illustrates Susquehanna's estimated interest rate
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sensitivity and periodic and cumulative gap positions as calculated at December 31, 1998 and 1997. These estimates include anticipated paydowns on mortgage-backed securities and certain assumptions regarding core deposits. An institution with more assets repricing than liabilities over a given time frame is considered asset sensitive, and one with more liabilities repricing than assets is considered liability sensitive. An asset-sensitive institution will generally benefit from rising rates, and a liability-sensitive institution will generally benefit from declining rates. Susquehanna currently has a positive gap position (asset-sensitive) at one year and, therefore, would be negatively affected by a decline in interest rates. See Table 16 for the estimated net interest income effect of Susquehanna's positive gap position.
In addition to periodic gap reports comparing the sensitivity of interest- earning assets and interest-bearing liabilities to changes in interest rates, management also utilizes a quarterly report prepared for Susquehanna by independent third-party consultants based on information provided by Susquehanna which measures Susquehanna's exposure to interest rate risk. The model calculates the income effect and the present value of assets, liabilities, and equity at current interest rates, and at hypothetical higher and lower interest rates at one percent intervals. The income effect and present value of each major cat-
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egory of financial instrument is calculated by the model using estimated cash flows based on prepayments, early withdrawals, and weighted average contractual rates and terms. For present value calculations, the model also considers discount rates for similar financial instruments. The resulting present value of longer-term fixed-rate financial instruments is more sensitive to change in a higher or lower market interest rate scenario, while adjustable-rate financial instruments largely reflect only a change in present value representing the difference between the contractual and discounted rates until the next interest rate repricing date.
A substantial portion of Susquehanna's loans and mortgage-backed securities are residential mortgage loans containing significant imbedded options which permit the borrower to prepay the principal balance of the loan prior to maturity ("prepayments") without penalty. A loan's propensity for prepayment is dependent upon a number of factors, including, the current interest rate, the interest rate on the loan, the financial ability of the borrower to refinance, the economic benefit to be obtained from refinancing, availability of refinancing at attractive terms, as well as economic and other factors in specific geographic areas which affect the sales and price levels of residential property. In a changing interest rate environment, prepayments may increase or decrease on fixed- and adjustable-rate loans depending on the current relative levels and expectations of future short- and long-term interest rates. Since a significant portion of Susquehanna's loans are variable rate loans, prepayments on such loans generally increase when long-term interest rates fall or are at historically low levels relative to short-term interest rates making fixed-rate loans more desirable.
Investment securities, other than those with early call provisions, generally do not have significant imbedded options and repay pursuant to specific terms until maturity. While savings and checking deposits generally may be withdrawn upon the customer's request without prior notice, a continuing relationship with customers resulting in future deposits and withdrawals is generally predictable, resulting in a dependable and uninterruptible source of funds. Time deposits generally have early withdrawal penalties, while term FHLB borrowings and subordinated notes have prepayment penalties, which discourage customer withdrawal of time deposits and prepayment of FHLB borrowings and subordinated notes prior to maturity.
Susquehanna's loans and mortgage-backed securities are primarily indexed to national interest indices. When such loans and mortgage-backed securities are funded by interest-bearing liabilities which are determined by other indices, primarily deposits and FHLB borrowings, a changing interest rate environment may result in different levels of change in the different indices, resulting in disproportionate changes in the value of, and the net earnings generated from, Susquehanna's financial instruments. Each index is unique and is influenced by different external factors; therefore, the historical relationships in various indices may not be indicative of the actual change which may result in a changing interest rate environment.
Tables 15 and 16 reflect the estimated income effect and present value of assets, liabilities, and equity calculated using certain assumptions determined by Susquehanna as of December 31, 1998 and 1997, at current interest rates and at hypothetical higher and lower interest rates of one and two percent. As noted in Table 15, the economic equity at risk is only five percent at an interest rate change of minus two percent, while Table 16 discloses that net interest income at risk is only two percent at an interest rate change of minus two percent.
Capital Adequacy Risk-based capital ratios, based upon guidelines adopted by bank regulators in 1989, focus upon credit risk. Assets and
(A) Tier I capital divided by year-end risk-adjusted assets, as defined by the risk-based capital guidelines. (B) Total capital divided by year-end risk-adjusted assets. (C) Tier I capital divided by average total assets less disallowed intangible assets. (C) Tier I capital dividend by average total assets less disallowed intangible assets.
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certain off-balance sheet items are segmented into one of four broad-risk categories and weighted according to the relative percentage of credit risk assigned by the regulatory authorities. Off-balance sheet instruments are converted into a balance sheet credit equivalent before being assigned to one of the four risk-weighted categories. To supplement the risk-based capital ratios, the regulators issued a minimum leverage ratio guideline (Tier 1 capital as a percentage of average assets less excludable intangibles).
Capital elements are segmented into two tiers. Tier 1 capital represents shareholders' equity reduced by excludable intangibles, while total capital represents Tier 1 capital plus certain allowable long-term debt, the portion of the allowance for loan losses equal to 1.25% of risk-adjusted assets, and 45% of the unrealized gain on equity securities.
The maintenance of a strong capital base at both the parent company level as well as at each bank affiliate is an important aspect of Susquehanna's philosophy. Table 17 illustrates these capital ratios for each bank and savings bank subsidiary and Susquehanna on a consolidated basis. Susquehanna and each of its banking and savings bank subsidiaries have leverage and risk-weighted ratios well in excess of regulatory minimums, and each entity is considered "well capitalized" under regulatory guidelines.
Year 2000 Readiness Disclosure
The following section contains forward-looking statements which involve risks and uncertainties. Susquehanna's actual impact from the Year 2000 issue could materially differ from that which is anticipated in these forward-looking statements, as a result of certain factors identified below.
The "Year 2000 Issue" is the result of computer programs having been written using two digits rather than four to define the applicable year. Any of Susquehanna's computer systems that have date-sensitive software or date- sensitive hardware may recognize a date using "00" as the Year 1900 rather than the Year 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send statements, or engage in similar normal business activities.
Based on an ongoing assessment, Susquehanna has determined that it will be required to modify or replace portions of its software and hardware so that its computer systems will properly utilize dates beyond December 31, 1999. Susquehanna presently believes that as a result of modifications to existing software and hardware and conversions to new software and hardware, the Year 2000 Issue can be mitigated. However, if such modifications and conversions are not made, or are not completed on a timely basis, the Year 2000 Issue could have a material adverse impact on the operations of Susquehanna. Susquehanna is currently on schedule.
Included within the scope of Susquehanna's Year 2000 Action Plan is the assessment of non-information technology systems with embedded chips. Susquehanna's assessment process generally includes inventorying such equipment and making a determination as to the Year 2000 readiness status of these items. This assessment has been completed. No Year 2000 modifications or replacements of a material nature have been identified for non-information technology systems.
Susquehanna's Year 2000 Action Plan has been categorized into five phases: Awareness, Assessment, Renovation (testing), Validation, and Implementation. The initial focus within those phases has been on systems and vendors that are related to mission-critical business processes. Mission-critical processes are defined as those areas of the business whose continued operations are required in order to provide basic banking services. All other business processes were categorized as either significant or ancillary and have also been subject to Y2K remediation programs. As of December 31, 1998, the Awareness and Assessment phases for all business processes (mission-critical, significant and ancillary) were completed. The Renovation and Validation phases for all business processes (mission-critical, significant and ancillary) were substantially completed. The Implementation phase for all business processes (mission-critical, significant and ancillary) is expected to be substantially completed by the end of the first quarter of 1999.
Susquehanna has initiated formal communications with all of its vendors and large commercial customers to determine the extent to which Susquehanna is vulnerable to those third parties' failure to remediate their own Year 2000 Issue. Susquehanna's estimated Year 2000 project costs include the costs and time associated with the impact of a third-party's Year 2000 Issue, and are based on presently available information.
Vendors of services to Susquehanna were evaluated for Y2K compliancy. As of December 31, 1998, the evaluation of vendors has substantially been completed. All vendors evaluated have been determined to be Y2K compliant or alternative vendors have been designated. Y2K risk assessments of borrowers and depositors have been conducted. Identified risks are deemed to be nominal.
Susquehanna believes that it will be Year 2000 ready before December 31, 1999, and testing to date has not revealed a need for business remediation contingency plans for core or other internal processing systems. Exposure to counter-parties and other directly related external vendors was deemed limited and required only nominal contingency planning, such as the designation of an alternative vendor. The greatest risk is believed to be through external parties that are not within Susquehanna's control. A significant electrical failure, for example, may require the company to limit or even eliminate services until power is restored. Backup records will be produced immediately prior to January 1, 2000, to assure an orderly resumption of business if major disruptions occur. Further, business resumption contingency planning is being done throughout the company in order to assure rapid and disciplined approaches to handling any unexpected occurrence.
Susquehanna is utilizing both internal and external resources
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to reprogram, or replace, and test its software and hardware for Year 2000 modifications. Concurrent with the Year 2000 project, Susquehanna is also converting all its major data processing systems, both hardware and software, to current Year 2000 compliant technology. Susquehanna plans to complete both the Year 2000 and systems conversion projects by March 31, 1999, for all critical systems. The total cost of the Year 2000 and systems conversion projects is estimated at $12 million. Of the total projects' cost, approximately $8 million is attributable to the purchase of new software and hardware which will be capitalized. The remaining $4 million will be expensed as incurred during 1998 and 1999. These costs are not expected to have a material effect on the results of operations of Susquehanna.
The costs of the projects and the date on which Susquehanna plans to complete both the Year 2000 modifications and systems conversions are based on management's best estimates, which were derived utilizing numerous assumptions of future events including the continued availability of certain resources, third-party modification plans, and other factors. However, there can be no guarantee that these estimates will be achieved and actual results could differ materially from those plans. Specific factors that might cause such material differences include, but are not limited to, the availability and cost of personnel trained in this area, new initiatives, if any, undertaken to assure compliancy, and information regarding externalities presently unknown.
As a bank holding company, Susquehanna and its subsidiaries are subject to the regulation and oversight of various banking regulators. Their oversight includes the provision of specific timetables, programs, and guidance regarding Year 2000 issues. Regulatory examination of the holding company and its subsidiaries' Year 2000 program are conducted on a quarterly basis, and reports are submitted by Susquehanna to the regulators on a periodic basis.
Summary of 1997 Compared to 1996
Several significant transactions occurred which affected the comparability of Susquehanna's financial performance for the years ended December 31, 1997 and 1996. These transactions are described in the following paragraphs.
In September 1996, Susquehanna's earnings were significantly affected by a one-time special charge assessed by the federal government to recapitalize the Savings Association Insurance Fund ("SAIF") of the Federal Deposit Insurance Corporation. All U.S. banks and thrifts with deposits insured by SAIF were assessed a one-time charge of 65.7 cents per $100 of deposits. Susquehanna's assessment was $5.5 million before taxes. However, going forward, annual SAIF deposit insurance premiums for well-capitalized institutions will be reduced from 23 cents per $100 of deposits to 6.44 cents per $100 of deposits, and in the year 2000, when the Bank Insurance Fund and the SAIF are expected to be combined, the annual premium will be reduced to 2.43 cents per $100 of deposits. These reductions result in a payback period of approximately four years to recover the one-time special assessment.
On February 28, 1997, Susquehanna completed the acquisition of AI, a New Jersey bank holding company with $210 million in assets and $186 million in deposits at the acquisition date, and Susquehanna also completed the acquisition of FBC, a New Jersey bank holding company with $88 million in assets and $77 million of deposits at the acquisition date. Specific details as to the acquisitions have been previously discussed. However, please note that these transactions were accounted for under the pooling-of-interests method of accounting; accordingly, the consolidated financial statements have been restated to include the consolidated accounts of AI and FBC for all periods presented.
On May 1, 1997, Susquehanna combined its three savings banks located in and around Baltimore, Maryland, into one savings bank, and there was a reduction in the work force. Consequently, Susquehanna recorded a pre-tax charge of $1.3 million in 1997 related to the severance. The annual pre-tax cost savings related to these reductions approximates $1.3 million.
On July 31, 1997, Susquehanna acquired Founders'. The transaction was accounted for under the pooling-of-interests method of accounting. At the time of the acquisition, Founders' reported total assets of $103 million. Results of operations for Founders' prior to the acquisition were not material to Susquehanna's consolidated financial statements and, accordingly, Susquehanna's prior-period consolidated financial statements have not been restated for Founders'.
Susquehanna's net income for the year ended December 31, 1997, increased to $42.1 million, or 29%, above 1996 net income of $32.7 million, which included the special one-time charge of $5.5 million assessed by the federal government to recapitalize the SAIF of the FDIC in the third quarter of 1996. Excluding the SAIF special charge, net income would have increased 17% from $36.0 million in 1996 to $42.1 million in 1997, due primarily to improved net interest income resulting from increased volume.
Diluted earnings per common share were $1.18 in 1997 compared to $0.93 ($1.03 adjusted for the SAIF special charge) in 1996. Return on average assets and return on average equity increased from 0.97% and 10.24%, respectively, in 1996 to 1.19% and 12.27%, respectively, in 1997.
For 1997, tangible net income, earnings per share, return on average assets, and return on average equity were $45.0 million, $1.27, 1.29% and 14.75%, respectively. Tangible net income, earnings per share, return on average assets, and return on average equity for 1996, excluding the SAIF special charge, were $38.8 million, $1.12, 1.16%, and 14.69%, respectively. Tangible net income is actual net income increased by the tax-effected amortization of those intangible assets which are deducted from equity in determining Tier 1 capital.
Item 8.
Item 8. Financial Statements and Supplementary Data - - ------ -------------------------------------------
The following consolidated financial statements of Susquehanna are submitted herewith:
Page Reference --------------
Consolidated Balance Sheets at December 31, 1998 and 1997........... 41
Consolidated Statements of Income for the years ended December 31, 1998, 1997, and 1996................................... 42
Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997, and 1996................................... 43
Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1998, 1997, and 1996............... 44
Notes to Consolidated Financial Statements ......................... 45
Report of Independent Accountants .................................. 61
Summary of Quarterly Financial Data ................................ 62
- - -------------------------------------------------------------------------------- Consolidated Balance Sheets - - -------------------------------------------------------------------------------- SUSQUEHANNA BANCSHARES, INC. AND SUBSIDIARIES
The accompanying notes are an integral part of these financial statements.
- - -------------------------------------------------------------------------------- Consolidated Statements Of Income - - -------------------------------------------------------------------------------- SUSQUEHANNA BANCSHARES, INC. AND SUBSIDIARIES
Per share amounts adjusted for the three-for-two stock split.
The accompanying notes are an integral part of these financial statements.
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SUSQUEHANNA BANCSHARES, INC. AND SUBSIDIARIES
The accompanying notes are an integral part of these financial statements.
- - -------------------------------------------------------------------------------- Consolidated Statements of Changes in Stockholders' Equity - - -------------------------------------------------------------------------------- SUSQUEHANNA BANKSHARES, INC. AND SUBSIDIARIES
Dividends per share have been adjusted to reflect the three-for-two stock splits.
The accompanying notes are an integral part of these financial statements.
- - -------------------------------------------------------------------------------- Notes to Consolidated Financial Statements - - -------------------------------------------------------------------------------- YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
Dollars in thousands, except as noted and per share data) - - -------------------------------------------------------------------------------- 1. Summary of Significant Accounting Policies
The accounting and reporting policies of Susquehanna Bancshares, Inc. and subsidiaries ("Susquehanna") conform to generally accepted accounting principles and to general practices in the banking industry. The more significant policies follow: Principles of Consolidation. The accompanying consolidated financial statements include the accounts of Susquehanna Bancshares, Inc., and its wholly-owned subsidiaries: Farmers First Bank ("Farmers"), Farmers & Merchants Bank and Trust ("F&M"), First American National Bank of Pennsylvania ("FANB"), First National Trust Bank ("First National"), Williamsport National Bank ("Williamsport"), Citizens National Bank of Southern Pennsylvania ("Citizens"), Susquehanna Bancshares East, Inc. and subsidiaries ("Susquehanna East"), Susquehanna Bancshares South, Inc. and subsidiaries ("Susquehanna South"), Susque-Bancshares Life Insurance Co. ("SBLIC"), and Susque-Bancshares Leasing Company, Inc. and subsidiary ("SBLC"), as of and for the years ended December 31, 1998, 1997, and 1996. All material intercompany transactions have been eliminated.
Income and expenses are recorded on the accrual basis of accounting except for trust and certain other fees which are recorded principally on the cash basis. This does not materially affect the results of operations or financial position of Susquehanna.
Nature of Operations. Susquehanna is a multifinancial institution holding company which operates eight commercial banks and one savings bank based upon the sound principles of supercommunity banking. These subsidiaries provide financial services from 134 branches located in central and south-central Pennsylvania, central and western Maryland, and southern New Jersey. In addition, Susquehanna operates two non-bank subsidiaries which provide leasing and insurance services. Susquehanna's primary source of revenue is derived from loans to customers who are predominately small- and middle-market businesses and middle-income individuals.
Use of Estimates in the Preparation of Financial Statements. The preparation of financial statements, in conformity with generally accepted accounting principles, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates.
Purchase Method of Accounting. Net assets of companies acquired in purchase transactions are recorded at the fair value at the date of acquisition. Core deposit and other intangible assets are amortized on a straight-line basis over 10 years. The excess of purchase price over the fair value of net assets acquired (goodwill) is amortized on a straight-line basis generally over 15 years. The unamortized amount of goodwill was $34,101 and $35,530 at December 31, 1998 and 1997, respectively.
Cash and Cash Equivalents. For purposes of reporting cash flows, cash and cash equivalents includes cash, due from banks, and short-term investments. Short- term investments consist of interest-bearing deposits in other banks, federal funds sold, and money market funds with original maturities of three months or less.
Consolidated Statement of Cash Flows. Interest paid on deposits, short-term borrowings, and long-term debt was $137,596 in 1998, $120,421 in 1997, and $116,281 in 1996. Income taxes paid were $19,478 in 1998, $16,959 in 1997, and $14,674 in 1996. Amounts transferred to other real estate owned were $8,408 in 1998, $5,516 in 1997, and $8,040 in 1996.
On February 1, 1996, Susquehanna acquired Fairfax Financial Corporation, Baltimore, Md., for $62,725. At the time of the acquisition, loans acquired were $401,658, investment securities, $19,467, and deposits, $396,390.
On July 30, 1997, Susquehanna acquired Founders' Bank, Bryn Mawr, Pa., using the pooling-of-interests method. Results of operations for Founders' prior to the acquisition were not material to Susquehanna's consolidated results and, therefore, prior periods were not restated.
Investment Securities. Susquehanna classifies debt and equity securities as either "held-to-maturity" or "available-for-sale." Susquehanna does not have any securities classified as "trading" at December 31, 1998, or 1997. Investments for which management has the intent, and Susquehanna has the ability to hold to maturity, are carried at the lower of cost or market adjusted for amortization of premium and accretion of discount. Amortization and accretion are calculated principally on the interest method. All other securities are classified as "available-for-sale" and reported at fair value. Changes in unrealized gains and losses for "available-for-sale" securities are recorded as a component of shareholders' equity.
Securities classified as "available-for-sale" include investments management intends to use as part of its asset/liability management strategy, and that may be sold in response to changes in interest rates, resultant prepayment risk, and other factors. Realized gains and losses on the sale of securities are recognized using the specific identification method and are included in Other Income in the Consolidated Statements of Income.
Allowance for Loan and Lease Losses. The loan and lease loss provision charged to operating expense reflects the amount deemed appropriate by management to produce an adequate reserve to meet the present and foreseeable risk characteristics of the loan and lease portfolio. Loan and lease losses are charged directly against the allowance for loan and lease losses, and recoveries on previously charged-off loans and leases are added to the allowance.
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Susquehanna considers a loan to be impaired, based upon current information and events, if it is probable that Susquehanna will be unable to collect the scheduled payments of principle or interest according to the contractual terms of the loan agreement. Larger groups of small-balance loans, such as residential mortgage and installment loans, are collectively evaluated for impairment. Only commercial loans exceeding $100 are individually evaluated for impairment. An insignificant delay or shortfall in the amounts of payments, when considered independent of other factors, would not cause a loan to be rendered impaired. Insignificant delays or shortfalls may include, depending on specific facts and circumstances, those that are associated with temporary operational downturns or seasonal delays.
Management performs periodic reviews of Susquehanna's loan portfolio to identify impaired loans. The measurement of impaired loans is based on the present value of expected future cash flows discounted at the historical effective interest rate, except that all collateral-dependent loans are measured for impairment based on the fair value of the collateral.
Loans continue to be classified as impaired unless they are brought fully current and the collection of scheduled interest and principle is considered probable. When an impaired loan or portion of an impaired loan is determined to be uncollectable, the portion deemed uncollectable is charged against the related valuation allowance and subsequent recoveries, if any, are credited to the valuation allowance.
Depreciable Assets. Buildings, leasehold improvements, and furniture and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is computed primarily by the straight-line method over the estimated useful lives of the related property as follows: Buildings, 40 years; furniture and equipment, 3-20 years. Leasehold improvements are amortized over the shorter of the lease term, or 10-20 years. Maintenance and normal repairs are charged to operations as incurred, while additions and improvements to buildings and furniture and equipment are capitalized. Gain or loss on disposition is reflected in operations.
Long-lived assets and certain intangible assets are evaluated for impairment by management on an ongoing basis. An impairment may occur whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.
Other Real Estate. Other real estate property acquired through foreclosure or other means, is recorded at the lower of its carrying value, or fair value of the property at the transfer date less estimated selling costs. Costs to maintain other real estate are expensed as incurred.
Interest Income on Loans and Leases. Interest income on commercial, consumer, and mortgage loans is recorded on the interest method. Interest income on installment loans is recorded on the sum-of-the-years-digits and the actuarial methods. Loan fees and certain direct loan origination costs are being deferred and the net amount amortized as an adjustment to the related loan yield on the interest method, generally over the contractual life of the related loans.
Nonaccrual loans are those on which the accrual of interest has ceased, and where all previously accrued and unpaid interest is reversed. Loans, other than consumer loans, are placed on nonaccrual status when principal or interest is past due 90 days or more and the loan is not well-collateralized and in the process of collection or immediately if, in the opinion of management, full collection is doubtful. Interest accrued but not collected as of the date of placement on nonaccrual status is reversed and charged against current income. Susquehanna does not accrue interest on impaired loans. While a loan is considered impaired or on nonaccrual status, subsequent cash payments received are either applied to the outstanding principal balance or recorded as interest income, depending upon management's assessment of the ultimate collectibility of principal and interest. Consumer loans are charged off to the allowance for loan losses when they become 120 days or more past due, unless such loans are in the process of collection. In any case, the deferral or non-recognition of interest does not constitute forgiveness of the borrower's obligation.
Federal Income Taxes. Deferred income taxes reflect the temporary tax consequences on future years of differences between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the difference is expected to reverse.
Earnings Per Share. On May 29, 1997, Susquehanna announced a three-for-two stock split in the form of a 50% stock dividend on its common stock. The stock split was distributed on July 2, 1997, to common shareholders of record June 10, 1997.
On April 15, 1998, Susquehanna announced a three-for-two stock split in the form of a 50% stock dividend on its common stock. The stock split was distributed on July 1, 1998, to common shareholders of record June 15, 1998. All share, per share and option data in these financial statements have been adjusted to give effect to the stock splits.
Consolidated Statements of Changes in Stockholders' Equity
- - -------------------------------------------------------------------------------- Common Shares Outstanding - - -------------------------------------------------------------------------------- Balance, January 1, 1996 15,313,844 Stock issued under employee benefit plans 37,344 Stock issued in public offering 195,000 - - -------------------------------------------------------------------------------- Balance, December 31, 1996 15,546,188 Stock issued under employee benefit plans 24,997 Effect of three-for-two stock split 7,774,953 Acquisition of Founders' Bank 560,354 - - -------------------------------------------------------------------------------- Balance, December 31, 1997 23,906,492 Stock issued under employee benefit plans 27,167 Effect of three-for-two stock split 11,956,652 Purchase of treasury stock (33,000) - - -------------------------------------------------------------------------------- Balance, December 31, 1998 35,857,311 ================================================================================
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Recent Accounting Pronouncements. During 1998, Susquehanna adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS No. 130), which established standards for the reporting and disclosure of comprehensive income and its components (revenues, expenses, gains, and losses). SFAS 130 requires that all items required to be recognized under accounting standards as components of comprehensive income are to be reported in a financial statement that is displayed with the same prominence as other financial statements. Comprehensive income includes a reclassification adjustment for net realized investment gains included in net income of $73, $173, and $195 for the years ended December 31, 1998, 1997, and 1996, respectively. The new standard requires only additional disclosures in the consolidated financial statements; it does not affect Susquehanna's financial position or results of operations.
The Financial Accounting Standards Board issued Statement of Financial Standard No. 131, "Disclosure About Segments of an Enterprise and Related Information" ("SFAS 131") in 1997. SFAS 131 establishes standards for disclosures about products, services, geographic areas, and major customers. SFAS 131 is effective for fiscal years beginning after December 15, 1997. Management has reviewed SFAS 131 and determined that Susquehanna has one qualifying segment, and, therefore, no additional disclosure is required.
During 1998, Susquehanna also adopted Statement of Financial Accounting Standards No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits" (SFAS No. 132), which revises employers' disclosures about pensions and other postretirement benefit plans. It standardizes the disclosure requirements for pensions and other postretirement benefits to the extent practicable, requires additional information on changes in the benefit obligations and fair values of plan assets that will facilitate financial analysis and eliminates certain disclosures that are no longer as useful as they were under previous pronouncements.
The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" in June of 1998. SFAS 133 establishes standards for recording derivative financial instruments on the balance sheet at their fair value. This Statement requires changes in the fair value of derivatives be recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction and, if it is, the type of hedge transaction. This Statement is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. Management anticipates that the adoption of SFAS 133 will not have a material effect on Susquehanna's financial condition or results of operations.
SFAS 134, "Accounting for Mortgage-Backed Securities Retained after the Securitization of Mortgage Loans Held for Sale by a Mortgage Banking Enterprise," requires that after a securitization of mortgage loans held for sale, an entity engaged in mortgage banking activities classifies the resulting mortgage-backed securities or other retained interest based on its ability and intent to sell or hold those investments. This Statement conforms the subsequent accounting for securities retained after the securitization of mortgage loans by a mortgage banking enterprise with the subsequent accounting for securities retained after the securitization of other types of assets by non-mortgage banking enterprises. The Statement is effective for the first fiscal quarter beginning after December 15, 1998. Management anticipates that this Statement will not have a material effect on Susquehanna's financial condition or results of operations.
- - -------------------------------------------------------------------------------- 2. Completed Acquisitions
On December 16, 1998, Susquehanna completed the acquisition of Cardinal Bancorp, Inc. ("CBI"), a Pennsylvania bank holding company with $138 million in assets and $114 million in deposits at the acquisition date. Susquehanna issued 2.048 shares of common stock to the shareholders of CBI for each of the 990,000 outstanding common shares of CBI. The transaction was accounted for under the pooling-of-interests method of accounting; accordingly, the consolidated financial statements have been restated to include the consolidated accounts of CBI for all periods presented.
Previously reported information has been restated as follows:
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On January 4, 1999, Susquehanna completed the acquisition of First Capitol Bank ("FCB"), a Pennsylvania commercial bank with $111 million in assets and $93 million in deposits at the acquisition date. Susquehanna issued 2.028 shares of common stock to the shareholders of FCB for each of the 520,393 outstanding common shares of FCB. The transaction will be accounted for under the pooling- of-interests method of accounting. No pro forma data has been disclosed because the transaction is not material to Susquehanna.
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3. Short-Term Investments
The book value of short-term investments and weighted average interest rates on December 31, 1998 and 1997 were as follows:
- - -------------------------------------------------------------------------------- 1998 1997 - - -------------------------------------------------------------------------------- Book Book Value Rates Value Rates - - -------------------------------------------------------------------------------- Interest-bearing deposits in other banks $17,926 4.69% $15,543 5.55% Federal funds sold 44,435 4.75% 20,084 6.24% Money market funds 13,654 5.10% 9,165 5.17% - - -------------------------------------------------------------------------------- Total $76,015 $44,792 ================================================================================
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- - -------------------------------------------------------------------------------- 4. Investment Securities
The amortized cost and fair values of investment securities at December 31, 1998 and 1997, are as follows:
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At December 31, 1998 and 1997, investment securities with a carrying value of $289,186 and $308,109, respectively, were pledged to secure public funds and for other purposes as required by law.
There were no investment securities whose ratings were less than investment grade at December 31, 1998 or 1997.
The amortized cost and fair values of U.S. Treasury, government agency, state and municipal, and corporate debt and mortgage-backed securities, at December 31, 1998, by contractual maturity, are shown below. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. - - -------------------------------------------------------------------------------- Amortized Fair Cost Value - - -------------------------------------------------------------------------------- Securities Available-for-Sale: Within one year $115,218 $115,832 After one year but within five years 317,682 320,636 After five years but within ten years 75,986 76,483 After ten years 326,875 327,183 - - -------------------------------------------------------------------------------- 835,761 840,134 - - -------------------------------------------------------------------------------- Securities Held-to-Maturity: Within one year $ 25,191 $ 25,390 After one year but within five years 28,785 29,422 After five years but within ten years 2,414 2,576 After ten years 3,447 3,631 - - -------------------------------------------------------------------------------- 59,837 61,019 - - -------------------------------------------------------------------------------- Total debt securities $895,598 $901,153 ================================================================================
The gross realized gains and gross realized losses on investment securities transactions are summarized below. During 1998, 1997, and 1996, certain securities classified as held-to-maturity were called for early redemption by the issuer. The results of those transactions are recorded in the corresponding category. - - -------------------------------------------------------------------------------- Available-for-Sale Held-to-Maturity - - -------------------------------------------------------------------------------- For the year ended December 31, 1998 - - -------------------------------------------------------------------------------- Gross gains $208 $ 0 Gross losses 133 2 - - -------------------------------------------------------------------------------- Net gains $ 75 $(2) ================================================================================ - - -------------------------------------------------------------------------------- For the year ended December 31, 1997 - - -------------------------------------------------------------------------------- Gross gains $446 $ 1 Gross losses 271 3 - - -------------------------------------------------------------------------------- Net gains $175 $(2) ================================================================================ - - -------------------------------------------------------------------------------- For the year ended December 31, 1996 - - -------------------------------------------------------------------------------- Gross gains $326 $ 1 Gross losses 130 2 - - -------------------------------------------------------------------------------- Net gains $196 $(1) ================================================================================ Interest earned on investment securities for the years ended December 31 was as follows: - - -------------------------------------------------------------------------------- 1998 1997 1996 - - -------------------------------------------------------------------------------- Taxable $47,706 $36,438 $38,309 Tax-advantaged 5,398 5,405 6,038 - - -------------------------------------------------------------------------------- Total $53,104 $41,843 $44,347 ================================================================================
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5. Loans and Leases
At December 31, loans and leases, net of unearned income ($26,293 at December 31, 1998, and $25,585 at December 31, 1997), were as follows: - - -------------------------------------------------------------------------------- 1998 1997 - - -------------------------------------------------------------------------------- Commercial, financial, and agricultural $ 288,852 $ 317,579 Real estate--construction 250,835 225,971 Real estate--mortgage 1,768,172 1,708,409 Consumer 344,007 327,172 Leases 121,684 64,422 - - -------------------------------------------------------------------------------- Total $2,773,550 $2,643,553 ================================================================================ At December 31, 1998, commercial, financial, and agricultural loans included a $1.2 million, restructured loan. Susquehanna had no outstanding commitment to advance additional funds on this loan.
Certain directors and executive officers of Susquehanna and its affiliates, including their immediate families and companies in which they are principal owners (more than 10%), were indebted to banking subsidiaries. In the opinion of management, such loans are consistent with sound banking practices and are within applicable regulatory bank lending limitations. Susquehanna relies on the directors and executive officers for the identification of their associates.
The activity of loans to such persons whose balance exceeded $60 during 1998, 1997, and 1996 follows: - - -------------------------------------------------------------------------------- 1998 1997 1996 - - -------------------------------------------------------------------------------- Balance--January 1 $26,779 $29,017 $34,466 Additions 20,379 11,797 19,071 Deductions: Amounts collected 20,656 11,616 23,190 Other changes -- (2,419) (1,330) - - -------------------------------------------------------------------------------- Balance--December 31 Current $26,502 $26,779 $29,017 ================================================================================ Substantially all of Susquehanna's loans and leases are to enterprises and individuals in Pennsylvania, New Jersey, and Maryland. Susquehanna has no concentration of loans to borrowers in any one industry, or related industry, which exceeds 10% of total loans with the exception of housing developments.
An analysis of impaired loans at December 31, 1998 and 1997, is presented as follows: - - -------------------------------------------------------------------------------- 1998 1997 - - -------------------------------------------------------------------------------- Impaired loans without a related reserve $ 9,437 $11,359 Impaired loans with a reserve 3,571 1,814 - - -------------------------------------------------------------------------------- Total impaired loans $13,008 $13,173 ================================================================================ Reserve for impaired loans $ 591 $ 269 ================================================================================ An analysis of impaired loans for the years ended December 31, 1998 and 1997, is presented as follows: - - -------------------------------------------------------------------------------- 1998 1997 - - -------------------------------------------------------------------------------- Average balance of impaired loans $11,869 $13,871 Interest income on impaired loans (cash basis) 242 376
- - -------------------------------------------------------------------------------- 6. Allowance for Loan and Lease Losses Changes in the allowance for loan losses were as follows: - - -------------------------------------------------------------------------------- 1998 1997 1996 - - -------------------------------------------------------------------------------- Balance--January 1 $35,508 $34,757 $30,610 Allowance acquired in business combination --- 1,460 4,229 Provision charged to operating expenses 5,247 4,557 4,807 - - -------------------------------------------------------------------------------- 40,755 40,774 39,646 - - -------------------------------------------------------------------------------- Charge-offs (6,954) (6,628) (6,553) Recoveries 1,370 1,362 1,664 - - -------------------------------------------------------------------------------- Net charge-offs (5,584) (5,266) (4,889) - - -------------------------------------------------------------------------------- Balance--December 31 $35,171 $35,508 $34,757 ================================================================================
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- - -------------------------------------------------------------------------------- 7. Premises and Equipment
Property, buildings, and equipment, at December 31, were as follows: - - -------------------------------------------------------------------------------- 1998 1997 - - -------------------------------------------------------------------------------- Land $ 8,045 $ 8,049 Buildings 43,987 41,169 Furniture and equipment 53,017 45,325 Leasehold improvements 6,266 6,228 Land improvements 1,148 1,532 - - -------------------------------------------------------------------------------- 112,463 102,303 - - -------------------------------------------------------------------------------- Less: Accumulated depreciation and amortization 59,290 52,486 - - -------------------------------------------------------------------------------- $ 53,173 $ 49,817 ================================================================================ Depreciation and amortization expense charged to operations amounted to $5,636 in 1998, $5,340 in 1997, and $4,969 in 1996.
All subsidiaries lease certain banking branches and equipment under operating leases which expire on various dates through 2011. Renewal options are available for periods up to 20 years. Minimum future rental commitments under non-cancellable leases, as of December 31, 1998, are as follows: - - -------------------------------------------------------------------------------- Operating Leases - - -------------------------------------------------------------------------------- 1999 $2,181 2000 1,312 2001 1,085 2002 967 2003 705 Subsequent years 3,416 - - -------------------------------------------------------------------------------- $9,666 ================================================================================ Total rent expense charged to operations amounted to $2,919 in 1998, $2,678 in 1997, and $2,384 in 1996.
- - -------------------------------------------------------------------------------- 8. Deposits
Deposits at December 31 were as follows: - - -------------------------------------------------------------------------------- 1998 1997 - - -------------------------------------------------------------------------------- Non-interest-bearing: Demand $ 422,573 $ 368,470 Interest-bearing: Interest-bearing demand 960,696 817,984 Savings 443,528 442,752 Time 1,138,897 1,157,393 Time of $100 or more 158,638 174,039 - - -------------------------------------------------------------------------------- Total deposits $3,124,332 $2,960,638 ================================================================================
- - -------------------------------------------------------------------------------- 9. Short-Term Borrowings
Short-term borrowings and weighted average interest rates, at December 31, were as follows:
Under an agreement with the Federal Home Loan Bank, Susquehanna subsidiary banks and savings bank have a line of credit available to them totaling $685 million and $538 million, of which $308 million and $96 million was outstanding at December 31, 1998 and 1997, respectively.
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- - -------------------------------------------------------------------------------- 10. Long-Term Debt
Long-term debt at December 31 was as follows:
Farmers' installment note is a demand note with a final maturity of June 2, 1999. Until such demand is made, Farmers will pay equal monthly payments to the individual holder.
SBLC's notes are payable with interest-only payments being made until maturity. These notes are guaranteed by Susquehanna.
Susquehanna subsidiaries' Federal Home Loan Bank debt is under a blanket floating lien security with the FHLB of Atlanta and Pittsburgh. Susquehanna subsidiaries are required to maintain as collateral for all borrowings certain amounts of qualifying first mortgage loans. In addition, all of the subsidiaries' stock in the FHLB of Atlanta and Pittsburgh is pledged as collateral for such debt.
On February 9, 1995, Susquehanna issued $50 million of its 9.00% subordinated notes due 2005. The proceeds were used to retire $10 million in short-term borrowings and the balance was used for acquisitions and for general corporate purposes.
On January 29, 1996, Susquehanna issued $35 million of its 6.30% senior notes due 2003. The proceeds were used for acquisitions and general corporate purposes.
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- - -------------------------------------------------------------------------------- 11. Income Taxes
The components of the provision for income taxes are as follows: - - -------------------------------------------------------------------------------- 1998 1997 1996 - - -------------------------------------------------------------------------------- Current $17,109 $17,051 $15,411 Deferred 3,975 2,264 227 - - -------------------------------------------------------------------------------- Total $21,084 $19,315 $15,638 ================================================================================
The provision for income taxes differs from the amount derived from applying the statutory income tax rate to income before income taxes as follows:
- - -------------------------------------------------------------------------------- 1998 1997 1996 - - -------------------------------------------------------------------------------- Provision at statutory rates $23,330 $21,482 $16,921 Tax-advantaged income (3,044) (2,910) (3,165) Other, net 798 743 1,882 - - -------------------------------------------------------------------------------- Total $21,084 $19,315 $15,638 ================================================================================
Accounting for income tax requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax return. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse.
The components of the net deferred tax asset as of December 31 were as follows:
- - -------------------------------------------------------------------------------- 1998 1997 1996 - - -------------------------------------------------------------------------------- Deferred tax assets: Reserve for loan losses $13,107 $12,729 $11,781 Loan fee income (404) 817 1,496 Accrued pension expense 1,314 1,473 1,644 Deferred directors' fees 811 760 744 Deferred compensation 108 177 180 Nonaccrual loan interest 1,073 1,065 1,514 Core deposit intangible 25 490 (179) Other assets 1,179 1,143 1,183 Deferred tax liabilities: FHLB stock dividends (395) (395) (330) Premises and equipment (2,146) (2,158) (1,699) Operating lease income, net (6,770) (4,731) (2,340) Purchase accounting 449 (519) (819) Recapture of savings banks' bad debt reserve (598) (1,016) (1,058) Unrealized investment gains and losses (3,200) (2,425) (451) Other liabilities (2,194) (301) (319) - - -------------------------------------------------------------------------------- Net deferred income tax assets $2,359 $7,109 $11,347 ================================================================================
- - -------------------------------------------------------------------------------- 12. Financial Instruments with Off-Balance Sheet Risk
Susquehanna is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to orginate loans and standby letters of credit. The instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated statement of condition. The contract or notional amount of those instruments reflect the extent of involvement Susquehanna has in particular classes of financial instruments.
Susquehanna's exposure to credit loss in the event of nonperformance by the other party to the financial instruments for loan commitments and standby letters of credit is represented by the contractual amount of these instruments. Susquehanna uses the same credit policies for these instruments as it does for on-balance sheet instruments.
Standby letters of credit are conditional commitments issued by Susquehanna to guarantee the performance by a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.
Commitments to originate loans are agreements to lend to a customer provided there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment does not necessarily represent future cash requirements. Susquehanna evaluates each customer's creditworthiness on a case-by-case basis.
The amount of collateral obtained, if deemed necessary by Susquehanna upon extension of credit, is based on management's credit evaluation of the borrower.
Financial instruments with off-balance sheet risk at December 31, 1998 and 1997, are as follows: - - -------------------------------------------------------------------------------- Contractual 1998 1997 - - -------------------------------------------------------------------------------- Financial instruments whose contract amounts represent credit risk: Standby letters of credit $ 33,117 $ 30,438 Commitments to originate loans 93,527 77,292 Unused portion of home equity and credit card lines 174,653 167,543 Other unused commitments, principally commercial lines of credit 366,674 343,595
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- - -------------------------------------------------------------------------------- 13. Fair Value of Financial Instruments
Susquehanna's estimated fair value information about financial instruments is presented below. Some of this information is presented whether it is recognized in the Consolidated Balance Sheet or not, and if it is practicable to estimate that value. Fair value is best determined by values quoted through active trading markets. Active trading markets are characterized by numerous transactions of similar financial instruments between willing buyers and willing sellers. Because no active trading market exists for various types of financial instruments, many of the fair values disclosed were derived using present value discounted cash flow or other valuation techniques. As a result, Susquehanna's ability to actually realize these derived values cannot be assured.
The estimated fair values disclosed herewith may vary significantly between institutions based on the estimates and assumptions used in the various valuation methodologies. The disclosure requirements exclude disclosure of nonfinancial assets such as buildings, as well as certain financial instruments such as leases. Susquehanna also has several intangible assets which are not included in the fair value disclosures. Accordingly, the aggregate estimated fair values presented do not represent the underlying value of Susquehanna.
The following methods and assumptions were used to estimate the fair value of each class of financial instrument.
Cash and Due from Banks and Short-Term Investments. The fair value of cash and due from banks and short-term investments is deemed to be the same as their carrying value.
Investment Securities. The fair value of investment securities is estimated based on quoted market prices, where available. When quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.
Loans. Variable rate loans which do not expose Susquehanna to interest rate risk have a fair value that equals their carrying value, discounted for estimated future credit losses. The fair value of fixed rate loans was based upon the present value of projected cash flows. The discount rate was based upon the U.S. Treasury yield curve, adjusted for credit risk.
Deposits. The fair values of demand, interest-bearing demand, and savings deposits are the amounts payable on demand at the balance sheet date. The carrying value of variable rate time deposits represents a reasonable estimate of fair value. The fair value of fixed rate time deposits is based upon the discounted value of future cash flows expected to be paid at maturity. Discount rates are calculated off the U.S. Treasury yield curve.
Short-Term Borrowings. The carrying amounts reported in the balance sheet represent a reasonable estimate of fair value since these liabilities mature in less than one year.
Long-Term Debt. Fair values were based upon quoted rates of similar instruments, issued by banking companies with similar credit ratings.
Off-Balance Sheet Items. The fair value of unused commitments to lend and standby letters is deemed to be the same as their carrying value.
The following table represents the carrying amount and estimated fair value of Susquehanna's financial instruments at December 31:
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- - -------------------------------------------------------------------------------- 14. Benefit Plans
Susquehanna maintains a single non-contributory pension plan that covers substantially all full-time employees. In addition, Susquehanna offers life insurance and other benefits to its retirees. A summary of the plans at December 31 is as follows:
The plan assets were invested principally in U.S. Government securities and listed stocks and bonds including 30,697 and 29,531 shares of Susquehanna common stock at December 31, 1998 and 1997, respectively.
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Susquehanna maintains a 401(k) savings plan which allows employees to invest a percentage of their earnings, matched up to a certain amount specified by Susquehanna. Contributions to the savings plan which are included in salaries and benefits expense amounted to $1,213 in 1998, $1,007 in 1997, and $889 in 1996.
Susquehanna offers an Employee Stock Purchase Plan ("ESPP"), which allows employees to purchase Susquehanna common stock up to 3% of their salary at discount to the market price, through payroll deductions.
Susquehanna implemented a nonqualified Equity Compensation Plan (the "Compensation Plan") in 1996 under which Susquehanna may grant options to its employees and directors for up to 1,462,500 shares of common stock. Under the Compensation Plan, the exercise price of each option equals the market price of the company's stock on the date of grant. An option's maximum term is 10 years. Options are granted upon approval of the Board of Directors and typically vest one-third at the end of years three, four, and five. The option prices range from a low of $6.44 to a high of $24.75.
On January 1, 1996, Susquehanna adopted SFAS 123, and, as permitted by SFAS 123, Susquehanna has chosen to apply APB Opinion No. 25, "Accounting for Stock Issued to Employees", and related interpretations in accounting for the Compensation Plan. Accordingly, no compensation cost has been recognized for options granted under the Compensation Plan.
For purposes of disclosure, the fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model based upon the assumptions noted below. Option data noted below has been adjusted for the three-for-two stock splits of 1998 and 1997. The pro forma effects on net income include both the Compensation Plan and the ESPP.
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15. Susquehanna Bancshares, Inc.(Parent Only) Condensed Balance Sheets - - -------------------------------------------------------------------------------- December 31 1998 1997 - - -------------------------------------------------------------------------------- Assets Cash in subsidiary bank $ 746 $ 794 Short-term investments 62 665 Investment in consolidated subsidiaries at equity in net assets 465,560 436,879 Other investment securities 5,466 11,999 Premises and equipment (net) 215 96 Other assets 11,276 4,082 - - -------------------------------------------------------------------------------- Total assets $483,325 $454,515 ================================================================================ Liabilities Long-term debt $ 85,000 $ 85,000 Accrued taxes and expenses payable 7,129 5,859 - - -------------------------------------------------------------------------------- Total liabilities 92,129 90,859 - - -------------------------------------------------------------------------------- Equity Preferred stock (no par) -- -- Common stock ($2 par value) 71,825 47,874 Surplus 53,993 77,575 Retained earnings 260,106 234,569 Accumulated other comprehensive income, net of taxes 5,955 3,793 Less: Treasury stock at cost 683 155 - - -------------------------------------------------------------------------------- Total stockholders' equity 391,196 363,656 - - -------------------------------------------------------------------------------- Total liabilities and stockholders' equity $483,325 $454,515 ================================================================================ - - -------------------------------------------------------------------------------- Susquehanna Bancshares, Inc. (Parent Only) Condensed Statements of Income - - -------------------------------------------------------------------------------- Year ended December 31 1998 1997 1996 - - -------------------------------------------------------------------------------- Income Dividends from subsidiaries $ 68,171 $28,537 $24,356 Interest and dividends on investment securities 231 191 546 Interest and management fee from subsidiaries 4,137 4,115 3,601 - - -------------------------------------------------------------------------------- Total income 72,539 32,843 28,503 - - -------------------------------------------------------------------------------- Expenses Interest expense 6,864 6,861 6,684 Other expenses 4,036 4,096 3,097 - - -------------------------------------------------------------------------------- Total expenses 10,900 10,957 9,781 - - -------------------------------------------------------------------------------- Income before taxes, and equity in undistributed income of subsidiaries 61,639 21,886 18,722 Income taxes 241 (386) (2) Equity in undistributed income of subsidiaries (15,824) 19,790 13,983 - - -------------------------------------------------------------------------------- Net Income $ 45,574 $42,062 $32,707 ================================================================================
- - --------------------------------------------------------------------------------
- - -------------------------------------------------------------------------------- Susquehanna Bancshares, Inc. (Parent Only) Condensed Statements of Cash Flows - - -------------------------------------------------------------------------------- Year ended December 31 1998 1997 1996 - - -------------------------------------------------------------------------------- Operating Activities: Net income $ 45,574 $ 42,062 $ 32,707 Adjustment to reconcile net income to cash provided by operating activities: Depreciation and amortization 313 158 182 Equity in undistributed income of subsidiaries and income of subsidiaries accrued not received 15,824 (19,790) (13,983) Increase in other assets (6,712) (549) (1,173) Increase/(decrease) in accrued expenses payable 1,271 602 (55) Other, net 960 29 (809) - - -------------------------------------------------------------------------------- Net cash provided from operating activities 57,230 22,512 16,869 - - -------------------------------------------------------------------------------- Investing Activities: Purchase of investment securities -- (8,489) (29,987) Proceeds from the sale/maturities of investment securities 8,500 -- 29,987 Net cash paid in acquisition -- -- (62,700) Capital expenditures (179) (72) (24) Net infusion of investment in subsidiaries (46,006) (1,200) (9,400) - - -------------------------------------------------------------------------------- Net cash used for investing activities (37,685) (9,761) (72,124) - - -------------------------------------------------------------------------------- Financing Activities: Proceeds from issuance of long-term debt -- -- 35,000 Proceeds from issuance of common stock 551 619 5,945 Dividends paid (20,037) (18,297) (16,226) Cash paid for treasury stock (742) -- -- Other, net 32 (43) -- - - -------------------------------------------------------------------------------- Net cash (used for)/provided from financing activities (20,196) (17,721) 24,719 - - -------------------------------------------------------------------------------- Net decrease in cash and cash equivalents (651) (4,970) (30,536) Cash and cash equivalents at January 1 1,459 6,429 36,965 - - -------------------------------------------------------------------------------- Cash and cash equivalents at December 31 $ 808 $ 1,459 $ 6,429 ================================================================================ Cash and cash equivalents: Cash in subsidiary bank $ 746 $ 794 $ 603 Short-term investments 62 665 5,826 - - -------------------------------------------------------------------------------- Cash and cash equivalents at December 31 $ 808 $ 1,459 $ 6,429 ================================================================================
- - --------------------------------------------------------------------------------
- - -------------------------------------------------------------------------------- 16. Earnings Per Share
The following table sets forth the calculation of basic and diluted earnings per share for the years ended below:
- - -------------------------------------------------------------------------------- 17. Regulatory Restrictions of Banking Subsidiaries
Susquehanna is limited by regulatory provisions in the amount it can receive in dividends from its banking subsidiaries. Accordingly, at December 31, 1998, $21,646 is available for dividend distribution to Susquehanna in 1999 from its banking subsidiaries.
Included in cash and due from banks are balances required to be maintained by banking subsidiaries on deposit with the Federal Reserve. The amounts of such reserves are based on percentages of certain deposit types and totalled $5,638 and $7,019 at December 31, 1998 and 1997, respectively.
- - -------------------------------------------------------------------------------- 18. Contingent Liabilities
Susquehanna is party to various legal proceedings incidental to its business. Certain claims, suits, and complaints arising in the ordinary course of business have been filed or are pending against Susquehanna. In the opinion of management, all such matters are adequately covered by insurance or, if not covered, are without merit or are of such kind, or involve such amounts, as would not have a material effect on the financial position, results of operations, and cash flows of Susquehanna, if disposed of unfavorably.
PriceWaterhouseCoopers LLP One South Market Square Harrisburg, PA 17101-9916 Telephone (717) 231-5900 Facsimile (717) 232-5672
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of Susquehanna Bancshares, Inc. Lititz, Pennsylvania
In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of income, changes in stockholders' equity, and cash flows present fairly, in all material respects, the financial position of Susquehanna Bancshares, Inc. (Susquehanna) and its subsidiaries at December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. These financial statements are the responsibility of Susquehanna's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above.
/s/ PricewaterhouseCoopers LLP
One South Market Square Harrisburg, PA January 26, 1999
- - -------------------------------------------------------------------------------- Summary of Quarterly Financial Data - - --------------------------------------------------------------------------------
- - -------------------------------------------------------------------------------- Market for Susquehanna Capital Stock - - --------------------------------------------------------------------------------
Since November 5, 1985, Susquehanna common stock has been listed for quotation on the National Association of Securities Dealers National Market System. Set forth below are the high and low sales prices of Susquehanna's common stock as reported on the Nasdaq National Market System for the years 1998 and 1997.
Common stock prices and dividends have been adjusted to reflect Susquehanna's three-for-two stock splits of 1998 and 1997.
Item 9.
Item 9. Changes in and Disagreements on Accounting and Financial Disclosure. - - ------ --------------------------------------------------------------------
There has been no change in Susquehanna's principal accountants in over two years. There have been no disagreements with such principal accountants on any matters of accounting principles, practices, financial statement disclosure, auditing scope or procedures.
PART III --------
Item 10.
Item 10. Directors and Executive Officers of Susquehanna. - - ------- -----------------------------------------------
The information required by this Item will be included in Susquehanna's Proxy Statement for its 1999 Annual Meeting of Shareholders (the "1999 Proxy Statement") in the Election of Directors-Biographical Summaries of Nominees and Continuing Directors section and in the Additional Information section, each of which sections is incorporated herein by reference, and in Part I of this Form 10-K under the heading "Executive Officers of Susquehanna."
Item 11.
Item 11. Executive Compensation - - ------- ----------------------
The information required by this Item will be included in the 1999 Proxy Statement in the Directors' Compensation section and in the Executive Compensation section, and is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management - - ------- --------------------------------------------------------------
The information required by this Item will be included in the 1999 Proxy Statement in the Beneficial Ownership of Stock section, and is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions - - ------- ----------------------------------------------
The information required by this Item will be included in the 1999 Proxy Statement in the Business Relationships; Related Transactions and Certain Legal Proceedings section, and is incorporated herein by reference.
PART IV -------
Item 14.
Item 14. Exhibits, Financial Statement Schedule and Reports on Form 8-K. - - ------- --------------------------------------------------------------
(a) The following documents are filed as part of this report:
(1) Financial Statements. See Item 8 of this report for the consolidated financial statements of Susquehanna and its subsidiaries (including the index to financial statements).
(2) Financial Statement Schedules. Not Applicable.
(3) Exhibits. A list of the Exhibits to this Form 10-K is set forth on the Exhibit Index immediately preceding such exhibits.
(b) Report on Form 8-K.
(1) Susquehanna filed a Current Report on form 8-K, dated December 16, 1998, to report the consummation of the transactions contemplated in the Agreement and Plan of Affiliation dated April 13, 1998, between and among Susquehanna, Susquehanna Bancshares West, Inc., Cardinal Bancorp, Inc. and the First American National Bank of Pennsylvania, filed pursuant to Item 5.
(c) Exhibits. The exhibits required to be filed as part of this report pursuant to Item 601 of Regulation S-K are filed herewith or incorporated by reference.
(d) Financial Statement Schedule. None Required.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
SUSQUEHANNA BANCSHARES, INC.
By: /s/ Robert S. Bolinger --------------------------- Robert S. Bolinger, President Dated: March 17, 1999
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this Report has been signed by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature Title Date - - --------- ----- ----
/s/ Robert S. Bolinger President, Chief Executive March 17, 1999 - - -------------------------- Officer and Director (Robert S. Bolinger)
/s/ Drew K. Hostetter Vice President, Treasurer March 17, 1999 - - -------------------------- and Chief Financial Officer (Drew K. Hostetter)
/s/ Richard M. Cloney Vice President, Secretary March 18, 1999 - - -------------------------- and Director (Richard M. Cloney)
/s/ James G. Apple Director March 17, 1999 - - -------------------------- (James G. Apple)
/s/ Trudy B. Cunningham Director March 18, 1999 - - -------------------------- (Trudy B. Cunningham)
/s/ John M. Denlinger Director March 17, 1999 - - -------------------------- (John M. Denlinger)
/s/ Owen O. Freeman, Jr. Director March 17, 1999 - - -------------------------- (Owen O. Freeman, Jr.)
/s/ Henry H. Gibbel Director March 17, 1999 - - -------------------------- (Henry H. Gibbel)
/s/ Marley R. Gross Director March 17, 1999 - - -------------------------- (Marley R. Gross)
/s/ T. Max Hall Director March 17, 1999 - - -------------------------- (T. Max Hall)
/s/ Edward W. Helfrick Director March 17, 1999 - - -------------------------- (Edward W. Helfrick)
SECURITIES AND EXCHANGE COMMISSION
SUSQUEHANNA BANCSHARES, INC. Form 10-K, December 31, 1998
[SIGNATURES CONTINUED]
Signature Title Date - - --------- ----- ----
/s/ C. William Hetzer, Jr. Director March 17, 1999 - - ---------------------------- (C. William Hetzer, Jr.)
/s/ George J. Morgan Director March 17, 1999 - - ---------------------------- (George J. Morgan)
/s/ Clyde R. Morris Director March 17, 1999 - - ---------------------------- (Clyde R. Morris)
/s/ Raymond M. O'Connell Director March 22, 1999 - - ---------------------------- (Raymond M. O'Connell)
Director March ___, 1999 - - ---------------------------- (Robert C. Reymer, Jr.)
/s/ Roger V. Wiest Director March 17, 1999 - - ---------------------------- (Roger V. Wiest)
[END OF SIGNATURE PAGES]
EXHIBIT INDEX
Exhibit Numbers Description and Method of Filing - - --------------- --------------------------------
(2) Plan of acquisition, reorganization, arrangement, liquidation or succession. Incorporated by reference to Appendices C and D to Susquehanna's Joint Proxy Statement/Prospectus on Susquehanna's Registration Statement on Form S-4, Registration No. 333-58373.
(3) (i) Articles of Incorporation. Incorporated by reference to Attachment E to Susquehanna's Joint Proxy Statement/Prospectus on Susquehanna's Registration Statement on Form S-4, Registration No. 33-13276 and to Exhibit 3.3 of Susquehanna's Quarterly Report on Form 10-Q for the quarterly period ended June 30, 1998.
(ii) By-laws. Incorporated by reference to Exhibit (3)(b) of Susquehanna's Annual Report on Form 10-K for the fiscal year ended December 31, 1994.
(4) Instruments defining the rights of security holders including indentures. The rights of the holders of Susquehanna's Common Stock and the rights of Susquehanna's note holders are contained in the following documents or instruments, which are incorporated herein by reference.
(i) Articles of Incorporation. Incorporated by reference to Attachment E to Susquehanna's Joint Proxy Statement/Prospectus on Susquehanna's Registration Statement on Form S-4, Registration No. 33-76319 and to Exhibit 3.3 of Susquehanna's Quarterly Report on Form 10-Q for the quarterly period ended June 30, 1998.
(ii) By-laws. Incorporated by reference to Exhibit (3)(b) of Susquehanna's Annual Report on Form 10-K for the fiscal year ended December 31, 1994.
(iii) Form of Subordinated Note/Indenture incorporated by reference to Susquehanna's Registration Statement on Form S-3, Registration No. 33-87624, to which it was attached as an exhibit.
(9) Voting trust agreement. Not Applicable
(10) Material Contracts. Susquehanna's Executive Deferred Income Plan, effective January 1, 1999, is filed herewith as Exhibit 10. Susquehanna's Performance Award Plan as amended in 1995, is incorporated by reference to Exhibit (a)(10) of Susquehanna's Annual Report on Form 10-K for the fiscal year ended December 31, 1995. The Equity Compensation Plan, as adopted in 1996, is incorporated by reference to Exhibit (a)(10) of Susquehanna's Annual Report on Form 10-K for the fiscal year ended December 31, 1996.
(11) Statement re: computation of per share earnings. Not Applicable.
(12) Statements re: computation of ratios. Not applicable.
(13) Annual report to security holders, Form 10-Q or quarterly report to security holders. Not applicable.
(16) Letter re: change in certified accountant. Not applicable.
(18) Letter re: change in accounting principles. Not Applicable.
(19) Report furnished to security holders. Not Applicable.
(21) Subsidiaries of the registrant. Filed herewith.
(22) Published report regarding matters submitted to vote of security holders. Not Applicable.
(23) Consents of experts and counsel. Filed herewith.
(24) Power of Attorney. Not Applicable.
(27) Financial Data Schedule. Filed herewith.
(99) Additional Exhibits. Not Applicable.