UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly period ended
March 31, 2005OR
[ ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-17122
FIRST FINANCIAL HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Delaware
57-0866076
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
34 Broad Street, Charleston, South Carolina
29401
(Address of principal executive offices)
(Zip Code)
Registrant's telephone number, including area code
(843) 529-5933
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES X NO
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
YES X NO
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
Class
Outstanding Shares at
Common Stock
April 29, 2005
$.01 Par Value
12,351,877
FIRST FINANCIAL HOLDINGS, INC.
INDEX
PART I -- CONSOLIDATED FINANCIAL INFORMATION
PAGE NO.
Item
1.
Consolidated Financial Statements
Consolidated Statements of Financial Condition
1
at March 31, 2005 and September 30, 2004
Consolidated Statements of Income for the Three
2
Months Ended March 31, 2005 and 2004
Consolidated Statements of Income for the Six
3
Months Ended March 31, 2005 and 2004
Consolidated Statements of Stockholders' Equity and
4
Comprehensive Income at March 31, 2005 and 2004
Consolidated Statements of Cash Flows for the
5
Six months Ended March 31, 2005 and 2004
Notes to Consolidated Financial Statements
6-14
2.
Management's Discussion and Analysis of Financial 15-34 Condition and Results of Operations 3.
Quantitative and Qualitative Disclosures About Market Risk 35 4.
Controls and Procedures 35 PART II - OTHER INFORMATION Item 1. Legal Proceedings 36 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities 37 4. Submission of Matters to a Vote of Security Holders 37-38 5. Other Information 38 6.
Exhibits 39-40 SIGNATURES 41 EXHIBIT 31 -- CERTIFICATIONS 42-43 EXHIBIT 32 -- CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND
44 CHIEF FINANCIAL OFFICER SCHEDULES OMITTED
All schedules other than those indicated above are omitted because of the absence of the conditions under which they are required or because the information is included in the Financial Statements and related notes.
PART I. CONSOLIDATED FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
FIRST FINANCIAL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION March 31, September 30, 2005 2004 (Amounts in thousands) (Unaudited) ASSETS Cash and cash equivalents $
101,916 $ 102,310 Investments available for sale, at fair value 31,024 28,926 Investment in capital stock of FHLB, at cost 29,665 33,900 Loans receivable, net of allowance of $14,404 and $14,799 1,857,223 1,813,531 Loans held for sale 3,951 4,054 Mortgage-backed securities available for sale, at fair value 336,992 346,847 Accrued interest receivable 8,872 8,909 Office properties and equipment, net 51,379 50,574 Real estate and other assets acquired in settlement of loans 2,654 4,003 Intangible assets 22,784 22,452 Other assets 26,605 26,807 Total assets $
2,473,065 $ 2,442,313 LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Deposit accounts $ 1,547,696 $ 1,520,817 Advances from FHLB 552,000 658,000 Other short-term borrowings 105,821 1,262 Long-term debt 46,392 46,392 Advances by borrowers for taxes and insurance 3,186 5,557 Outstanding checks 11,930 12,850 Accounts payable and other liabilities 35,136 32,248 Total liabilities 2,302,161 2,277,126 Stockholders' equity: Serial preferred stock, authorized 3,000,000 shares--none issued Common stock, $.01 par value, authorized 24,000,000 shares, issued and outstanding 16,181,271 and 16,090,859 shares at March 31, 2005 and September 30, 2004, respectively 162 161 Additional paid-in capital 46,610 44,812 Retained income, substantially restricted 196,978 189,675 Accumulated other comprehensive loss, net of income taxes (3,525 )
(1,458 )
Treasury stock at cost, 3,829,359 and 3,787,714 shares at March 31, 2005 and September 30, 2004, respectively (69,321 )
(68,003 )
Total stockholders' equity 170,904 165,187 Total liabilities and stockholders' equity $ 2,473,065 $ 2,442,313 See accompanying notes to consolidated financial statements. 1
FIRST FINANCIAL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF INCOME Three Months Ended March 31, 2005 2004 (Amounts in thousands, except per share amounts) (Unaudited) INTEREST INCOME Interest and fees on loans $ 27,945 $ 27,743 Interest on mortgage-backed securities 3,321 3,864 Interest and dividends on investments 595 413 Other 51 17 Total interest income 31,912 32,037 INTEREST EXPENSE Interest on deposits 6,115 5,506 Interest on borrowed money 6,865 6,922 Total interest expense 12,980 12,428 NET INTEREST INCOME 18,932 19,609 Provision for loan losses 1,300 1,825 Net interest income after provision for loan losses 17,632 17,784 OTHER INCOME Net gain on sale of loans 467 744 Net gain on sale of investment and mortgage-backed securities - 958 Brokerage fees 670 650 Commissions on insurance 5,800 5,021 Other agency income 330 430 Service charges and fees on deposit accounts 2,742 2,766 Loan servicing operations, net 1,007 (1,150 )
Gains (losses) on disposition of assets 36 (3 )
Other 1,456 1,009 Total other income 12,508 10,425 NON-INTEREST EXPENSE Salaries and employee benefits 12,127 11,238 Occupancy costs 1,224 1,357 Marketing 465 391 Depreciation, rental and maintenance of equipment 1,223 1,235 Amortization of intangibles 121 96 Other 3,923 3,988 Total non-interest expense 19,083 18,305 Income before income taxes 11,057 9,904 Income tax expense 4,010 3,514 NET INCOME $ 7,047 $ 6,390 NET INCOME PER COMMON SHARE BASIC $ 0.57 $ 0.51 NET INCOME PER COMMON SHARE DILUTED $ 0.56 $ 0.50 See accompanying notes to consolidated financial statements. 2
FIRST FINANCIAL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF INCOME Six Months Ended March 31, 2005 2004 (Amounts in thousands, except per share amounts) (Unaudited) INTEREST INCOME Interest and fees on loans $ 56,039 $ 55,951 Interest on mortgage-backed securities 6,620 6,972 Interest and dividends on investments 1,143 840 Other 91 34 Total interest income 63,893 63,797 INTEREST EXPENSE Interest on deposits 11,995 11,265 Interest on borrowed money 13,820 13,784 Total interest expense 25,815 25,049 NET INTEREST INCOME 38,078 38,748 Provision for loan losses 2,600 3,250 Net interest income after provision for loan losses 35,478 35,498 OTHER INCOME Net gain on sale of loans 840 954 Net (loss) gain on sale of investment and mortgage-backed securities (56 )
1,394 Brokerage fees 1,304 1,144 Commissions on insurance 9,512 7,867 Other agency income 594 692 Service charges and fees on deposit accounts 5,689 5,523 Loan servicing operations, net 1,322 (735 )
Gains on disposition of assets 1,602 244 Other 3,906 1,807 Total other income 24,713 18,890 NON-INTEREST EXPENSE Salaries and employee benefits 25,245 22,539 Occupancy costs 2,477 2,639 Marketing 969 741 Depreciation, rental and maintenance of equipment 2,396 2,572 Prepayment penalties on FHLB advances 964 Amortization of intangibles 242 191 Other 7,595 7,628 Total non-interest expense 39,888 36,310 Income before income taxes 20,303 18,078 Income tax expense 7,343 6,434 NET INCOME $ 12,960 $ 11,644 NET INCOME PER COMMON SHARE BASIC $ 1.05 $ 0.93 NET INCOME PER COMMON SHARE DILUTED $ 1.03 $ 0.90 See accompanying notes to consolidated financial statements. 3
FIRST FINANCIAL HOLDINGS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (amounts in thousands) (unaudited) Accumulated Additional Other Common Stock Paid-in Retained Comprehensive Treasury Stock Shares Amount Capital Income Income (Loss) Shares Amount Total Balance at September 30, 2003 15,870 $ 159 $ 41,106 $ 176,111 $ 672 3,348 $ (55,042 )
$ 163,006 Net income 11,644 11,644 Other comprehensive loss: Unrealized net gain on securities available for sale, net of income tax 1,532 1,532 Total comprehensive income 13,176 Common stock issued pursuant to stock option and employee benefit plans 121
1 1,925 1,926 Cash dividends ($.44 per share) (5,513 )
(5,513 ) Treasury stock purchased 93 (2,763 ) (2,763 ) Balance at March 31, 2004 15,991 $ 160 $ 43,031 $ 182,242 $ 2,204 3,441 $ (57,805 ) $ 169,832 Accumulated Additional Other Common Stock Paid-in Retained Comprehensive Treasury Stock Shares Amount Capital Income Loss Shares Amount Total Balance at September 30, 2004 16,091 $ 161 $ 44,812 $ 189,675 $ (1,458 )
3,788 $ (68,003 )
$ 165,187 Net income 12,960 12,960 Other comprehensive loss: Unrealized net loss on securities available for sale, net of income tax (2,067 )
(2,067 )
Total comprehensive income 10,893 Common stock issued pursuant to stock option and employee benefit plans 90
1 1,798 1,799 Cash dividends ($.46 per share) (5,657 )
(5,657 )
Treasury stock purchased 41 (1,318 )
(1,318 )
Balance at March 31, 2005 16,181 $ 162 $ 46,610 $ 196,978 $ (3,525 )
3,829 $ (69,321 )
$ 170,904 See accompanying notes to consolidated financial statements. 4
FIRST FINANCIAL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS Six Months Ended March 31, 2005 2004 (Amounts in thousands)
OPERATING ACTIVITIES (Unaudited) Net income $ 12,960 $ 11,644 Adjustments to reconcile net income to net cash provided by operating activities Depreciation 2,324 2,276 Amortization of intangibles 242 191 Gain on sale of loans, net (840 )
(954 )
Loss (gain) on sale of investments and mortgage-backed securities, net 56 (1,394 ) Gain on sale of property and equipment, net (1,602 ) (244 ) (Gain) loss on sale of real estate owned, net (147 ) 14 Amortization of unearned discounts/premiums on investments, net 1,138 1,187 Prepayment penalties on FHLB advances 964 Decrease in deferred loan fees and discounts (62 ) (71 ) Decrease (increase) in receivables and other assets 834 (5,417 ) Provision for loan losses 2,600 3,250 Write down of real estate acquired in settlement of loans 274 51 Proceeds from sales of loans held for sale 80,978 111,776 Impairment (recovery) loss from write-down of mortgage servicing rights (595 ) 1,423 Origination of loans held for sale (80,035 ) (105,175 ) Increase (decrease) in accounts payable and other liabilities 3,284 (11,035 ) Net cash provided by operating activities 22,373 7,522 INVESTING ACTIVITIES Proceeds from maturity of investments available for sale 6 2,250 Proceeds from sales of investment securities available for sale 14,150 16,050 Net purchases of investment securities available for sale (16,316 ) (41,347 ) Redemption (purchase) of FHLB stock 4,235 (5,300 ) Increase in loans, net (49,119 ) (23,170 ) Repayments on mortgage-backed securities available for sale 33,966 54,012 Proceeds from sales of mortgage-backed securities available for sale 24,962 41,489 Purchase of mortgage-backed securities available for sale (53,588 ) (167,840 ) Proceeds from the sales of real estate owned 4,111 1,209 Purchase of insurance subsidiaries (574 ) (6,127 ) Net purchase of office properties and equipment (1,527 ) (1,427 ) Net cash used in investing activities (39,694 ) (130,201 ) FINANCING ACTIVITIES Net increase (decrease) in checking, passbook and money market fund accounts 35,547 (9,899 ) Net decrease in certificates of deposit (8,668 ) (1,357 ) Net (repayments) proceeds of FHLB advances (106,000 ) 91,000 Prepayment penalties on FHLB advances (964 ) Net increase in securities sold under agreements to repurchase 105,805 34,718 Net increase in long-term borrowings 46,392 Costs associated with long-term debt (1,392 ) Decrease in other borrowed money (1,246 ) (22,632 ) Decrease in advances by borrowers for taxes and insurance (2,371 ) (2,269 ) Proceeds from the exercise of stock options 1,799 1,926 Dividends paid (5,657 ) (5,513 ) Treasury stock purchased (1,318 ) (2,763 ) Net cash provided by financing activities 16,927 128,211 Net (decrease) increase in cash and cash equivalents (394 ) 5,532 Cash and cash equivalents at beginning of period 102,310 85,523 Cash and cash equivalents at end of period $ 101,916 $ 91,055 Supplemental disclosures: Cash paid during the period for: Interest $ 28,328 $ 28,541 Income taxes 6,247 8,439 Loans foreclosed 2,889 1,214 Loans securiitzed 8,094 Unrealized net (loss) gain on securities available for sale, net of income tax (2,067 )
1,532 See accompanying notes to consolidated financial statements 5
FIRST FINANCIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2005
(Unaudited)A. BASIS OF PRESENTATION AND ACCOUNTING POLICIES
The unaudited consolidated financial statements include the accounts of First Financial Holdings, Inc, ("First Financial", or the "Company"), its wholly-owned thrift subsidiary, First Federal Savings and Loan Association of Charleston ("First Federal" or the "Association"), First Southeast Insurance Services, Inc., Kimbrell Insurance Group, Inc. (see Note F, Business Combinations) and First Southeast Investor Services, Inc. All significant intercompany items related to the consolidated subsidiaries have been eliminated.
The Company determines whether it has a controlling financial interest in an entity by first evaluating whether the entity is a voting interest entity or a variable interest entity under accounting principles generally accepted in the United States of America. Voting interest entities are entities in which the total equity investment at risk is sufficient to enable each entity to finance itself independently and provides the equity holders with the obligation to absorb losses, the right to receive residual returns and the right to make decisions about the entity's activities. The Company consolidates voting interest entities in which it has all, or at least a majority of, the voting interest. As defined in applicable accounting standards, variable interest entities ("VIEs") are entities that lack one or more of the characteristics of a voting interest entity described above. A controlling financial interest in an entity is present when an enterprise has a variable interest, or combination of variable interests, that will absorb a majority of the entity's expected losses, receive a majority of the entity's expected residual returns, or both. The enterprise with a controlling financial interest, known as the primary beneficiary, consolidates the VIE. FFSL I LLC qualifies as a VIE of the Association as the Association is the primary beneficiary, therefore, FFSL I LLC is combined into the accounts of the Association. The Company's wholly-owned trust subsidiary, First Financial Capital Trust I, is a VIE for which the Company is not the primary beneficiary. Accordingly, the accounts of this entity are not included in the Company's consolidated financial statements.
The significant accounting policies followed by First Financial for interim financial reporting are consistent with the accounting policies followed for annual financial reporting. The unaudited consolidated financial statements and notes are presented in accordance with the instructions for Form 10-Q. The information contained in the footnotes included in First Financial's latest annual report on Form 10-K should be referred to in connection with the reading of these unaudited interim consolidated financial statements. Certain fiscal 2004 amounts have been reclassified to conform to the statement presentations for fiscal 2005.
The results of operations for the six months ended March 31, 2005 are not necessarily indicative of the results of operations that may be expected in future periods.
B. NATURE OF OPERATIONS
First Financial is a thrift holding company headquartered in Charleston, South Carolina. First Financial conducts its operations principally in South Carolina and has one full-service office located in North Carolina. The thrift subsidiary, First Federal, provides a wide range of traditional banking services and also offers investment, trust and insurance services through subsidiaries or affiliated
6
companies. The Association has a total of 48 offices in South Carolina located in the Charleston Metropolitan area and Horry, Georgetown, Florence and Beaufort counties, and Brunswick County, in coastal North Carolina.
C. ACCOUNTING ESTIMATES AND ASSUMPTIONS
Certain policies require management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ significantly from these estimates and assumptions. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses, income taxes, mortgage servicing rights and accounting for acquisitions.
D. OTHER COMPREHENSIVE INCOME
Comprehensive income is the change in the Corporation's equity during the period from transactions and other events and circumstances from non-owner sources. Total comprehensive income is comprised of net income and other comprehensive income (loss) and for the six months ended March 31, 2005 and 2004 amounted to $10.9 million and $13.2 million, respectively.
The Corporation's "other comprehensive income (loss)" for the six months ended March 31, 2005 and 2004 and "accumulated other comprehensive income (loss)" as of March 31, 2005 and 2004 are comprised solely of unrealized gains and losses on certain investments in debt and equity securities.
Other comprehensive (loss) income for the three months ended March 31, 2005 and 2004 follows (in thousands):
Three Months Ended March 31, 2005 2004 Unrealized holding (losses) gains arising during period, net of tax $ (1,837 ) $ 3,515 Less: reclassification adjustment for realized gains, net of tax 618 Unrealized (losses) gains on securities available for sale, net of applicable income taxes $ (1,837 ) $ 2,897 Other comprehensive (loss) income for the six months ended March 31, 2005 and 2004 follows (in thousands):
Six Months Ended March 31, 2005 2004 Unrealized holding (losses) gains arising during period, net of tax $
(2,103 )
$ 2,430 Less: reclassification adjustment for realized (losses) gains, net of tax (36 )
898 Unrealized (losses) gains on securities available for sale, net of applicable income taxes $ (2,067 )
$ 1,532 7
E. BUSINESS COMBINATIONS
On January 29, 2004, First Financial Holdings, Inc. acquired the following companies: The Kimbrell Company, Inc.; The Kimbrell Company, Inc./Florida; Preferred Markets, Inc.; Preferred Markets, Inc./Florida; and Atlantic Acceptance Corporation. The Kimbrell companies are a managing general agency specializing in placing coverage within the non-standard insurance market. Non-standard markets offer coverage to customers that have unusual or high-risk exposures. The Preferred Markets companies are a managing general agency specializing in placing coverage in standard insurance markets. Atlantic Acceptance Corporation is a premium finance company. The acquisition was accounted for using the purchase method of accounting, and accordingly, the assets and liabilities of the Kimbrell companies were recorded at their estimated fair values as of the merger date. The Company acquired tangible assets of $4.4 million, assumed liabilities totaling $4.4 million, recorded g oodwill of $5.2 million and recorded a customer list intangible of $908 thousand. The customer list intangibles are amortized on a straight-line basis over its estimated useful life of up to ten years. In addition, the principals of the Kimbrell companies have a right to receive future payments based on financial performance, which if paid would increase goodwill by $2.4 million over the three years following the purchase.
F. INTANGIBLE ASSETS
Intangible assets, net of accumulated amortization, at March 31, 2005, September 30, 2004 and March 31, 2004 are summarized as follows (in thousands):
March 31, September 30, March 31, 2005 2004 2004 Goodwill $ 20,798 $ 20,224 $ 20,697 Customer list 3,574 3,574 2,686 Less accumulated amortization (1,588 )
(1,346 )
(1,082 )
1,986 2,228 1,604 Total
$ 22,784 $ 22,452 $ 22,301 The following summarizes the changes in the carrying amount of goodwill related to insurance operations for the six months ended March 31, 2005 (in thousands):
First Southeast Kimbrell Insurance Insurance Services, Inc. Group, Inc. Total
Balance, September 30, 2004 $ 15,076 $ 5,148 $ 20,224 Goodwill acquired 75 499 574 Balance, March 31, 2005 $ 15,151 $ 5,647 $ 20,798 The principals of Woodruff & Co. (acquired by First Southeast Insurance Services, Inc.) and Kimbrell Insurance Group, Inc. received earn-outs based on performance of $75 thousand and $499 thousand, respectively. These earn-outs were classified as goodwill.
Amortization of intangibles totaled $242 thousand, $455 thousand and $192 thousand for the six months ended March 31, 2005, fiscal year ended September 30, 2004 and the six months ended
8
March 31, 2004, respectively.
The Company expects to record amortization expense related to intangibles of $482 thousand for fiscal year 2005, $470 thousand for fiscal 2006, $391 thousand for fiscal 2007, $322 thousand for fiscal 2008, $153 thousand for fiscal 2009 and an aggregate of $410 thousand for all years thereafter.
G. MORTGAGE SERVICING RIGHTS
The following summarizes the changes in the carrying amount of capitalized mortgage servicing rights ("MSRs"), which are included in other assets, for the six months ended March 31, 2005, the fiscal year ended September 30, 2004 and the six months ended March 31, 2004 (in thousands):
March 31, 2005 September 30, 2004 March 31, 2004 Balance at beginning of period $ 11,938 $ 12,300 $ 12,300 Capitalized mortgage servicing right4 814 2,852 1,480 Amortization (1,086 )
(2,296 ) (1,196 ) Change in valuation allowance 595 (918 ) (1,423 ) Balance at end of period $ 12,261 $ 11,938 $ 11,161 The aggregate fair value of capitalized mortgage servicing rights at March 31, 2005, September 30, 2004 and March 31, 2004 was $12.3 million, $11.9 million and $11.2 million, respectively. At March 31, 2005, September 30, 2004 and March 31, 2004, respectively, the valuation allowance for capitalized MSRs totaled $1.146 million, $1.740 million and $2.245 million, respectively. In the quarter ended March 31, 2005 the Company recorded an impairment recovery of approximately $607 thousand compared with an impairment loss of approximately $1.4 million for the three months ended March 2004. For the six months ended March 31, 2005 and March 31, 2004, the Company recorded an impairment recovery of $595 thousand and an impairment loss of $1.4 million, respectively. At March 31, 2005, September 30, 2004 and March 31, 2004, the Company was servicing loans for others in the amount of $945.6 million, $952.6 million and $939.3 million, respectively.
The estimated amortization expense for mortgage servicing rights for future years ending September 30 is as follows: $1.9 million for 2005, $2.0 million for 2006, $1.8 million for 2007, $1.7 million for 2008, $1.5 million for 2009 and $5.6 million thereafter. The estimated amortization expense is based on current information regarding loan payments and prepayments. Amortization expense could change in future periods based on changes in the volume of prepayments and economic factors.
H. DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES
The Company uses derivatives as part of its interest rate management activities. Prior to the implementation of SAB 105, the Company recognized a servicing value at the time the commitment was made. After implementation, the Company recognizes the servicing value when the loan is sold. Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities," ("SFAS 133") as amended by SFAS Nos. 137, 138 and 149, establishes accounting and reporting standards for derivatives and hedging activities. SFAS No. 133 requires an entity to recognize all derivatives as either assets or liabilities in the balance sheet, and to measure
9
those instruments at fair value. Changes in the fair value of those derivatives are reported in current earnings or other comprehensive income depending on the purpose for which the derivative is held and whether the derivative qualifies for hedge accounting. The Company does not currently engage in any activities that qualify for hedge accounting under SFAS No. 133. All changes in the fair value of derivative instruments are recorded as non-interest income in the consolidated statements of operations.
The Company has identified the following derivative instruments which were recorded on the Company's balance sheet at March 31, 2005: commitments to originate fixed-rate and certain other residential loans held for sale and forward sales commitments.
The Company originates certain fixed rate and adjustable-rate residential loans with the intention of selling these loans. Between the time that the Company enters into an interest rate lock or a commitment to originate a fixed rate residential loan with a potential borrower and the time the closed loan is sold, the Company is subject to variability in market prices related to these commitments. The Company believes that it is prudent to limit the variability of expected proceeds from the sales through forward sales of "to be issued" mortgage backed securities and loans ("forward sales commitments"). The commitments to originate fixed rate conforming loans totaled $21.6 million at March 31, 2005. It is anticipated 90% of these loans will close totaling $19.5 million. The fair value of derivative assets related to commitments to originate fixed rate loans held for sale and forward sales commitments was not significant at March 31, 2005.
I. EARNINGS PER SHARE
Basic and diluted earnings per share ("EPS") have been computed based upon net income as presented in the accompanying statements of income divided by the weighted average number of common shares outstanding or assumed to be outstanding as summarized below:
Three Months Ended March 31, 2005 2004 Weighted average number of common shares used in basic EPS 12,323,460 12,559,744 Effect of dilutive stock options 245,983 344,557 Weighted average number of common shares and dilutive potential common shares used in diluted EPS 12,569,443 12,904,301
Six Months Ended March 31, 2005 2004 Weighted average number of common shares used in basic EPS 12,312,055 12,550,895 Effect of dilutive stock options 275,323 375,810 Weighted average number of common shares and dilutive potential common shares used in diluted EPS 12,587,378 12,926,705 For the three and six months ended March 31, 2005 there were 282,586 option shares that were excluded from the calculation of diluted earnings per share at some time during the period because the exercise prices of $32.30, $32.28, $29.92, and $29.35 were greater than the average market price
10
of the common shares. For the three and six months ended March 31, 2004 there were 95,870 option shares that were excluded from the calculation of diluted earnings per share at some time during the period because the exercise price of $32.28 was greater than the average market price of the common shares.
J. STOCK-BASED COMPENSATION
At March 31, 2005, the Company has five stock-based employee and non-employee compensation option plans, which are described more fully in Note 18 of the Notes To Consolidated Financial Statements included in the Company's 10-K for September 30, 2004. SFAS No. 123, "Accounting for Stock-Based Compensation," allows a company to either adopt the fair value method of valuation or continue using the intrinsic valuation method presented under Accounting Principles Bulletin ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees", to account for stock-based compensation. The Company has elected to continue using APB Opinion 25. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions to the plans for the three months and six months ended March 31, 2005 and 2004 (amounts in thousands except for per share amounts):
For The Three Months Ended March 31, For The Six Months Ended March 31, 2005 2004 2005 2004 Net income, as reported $ 7,047 $ 6,390 $ 12,960 $ 11,644 Deduct: Total stock-based employee and director compensation expense determined under fair value based method for all rewards, net of related tax effects. (249 )
(218 )
(497 )
(436 )
Pro forma net income $ 6,798 $ 6,172 $ 12,463 $ 11,208 Earnings per share: Basic - as reported $ 0.57 $ 0.51 $ 1.05 $ 0.93 Basic - pro forma $ 0.55 $ 0.49 $ 1.01 $ 0.89 Diluted - as reported $ 0.56 $ 0.50 $ 1.03 $ 0.90 Diluted - pro forma $ 0.54 $ 0.48 $ 0.99 $ 0.87 The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for the grants in the quarters ended March 31, 2005 and 2004, respectively: dividend yield of 2.86% and 2.84%, expected volatility of 38% and 39%, average risk-free interest rate of 4.03% and 3.04%, expected lives of 6 years and a vesting period ranging from one to five years. The weighted average fair value of options granted approximated $10.38 for the six months ended March 31, 2005 and $10.77 for the six months ended March 31, 2004. For purposes of the pro forma calculation, compensation expense is recognized on a straight-line basis over the vesting period.
The Company's directors also participate in a stock awards plan providing non-employee directors with an opportunity to increase their equity interests in the Company based on the attainment of specific performance criteria for the Company and the Association. Shares awarded under the stock awards plan are expensed in the appropriate periods.
See Management's Discussion and Analysis for description of FAS No. 123(R).
11
K. BUSINESS SEGMENTS
The Company has two principal operating segments, banking and insurance operations, which are evaluated regularly by Management and the Board of Directors in deciding how to allocate resources and assess performance. Both of these operating segments are reportable segments by virtue of exceeding certain quantitative thresholds.
First Federal, the Company's primary operating segment, engages in general banking business focusing on mortgage, consumer and commercial lending to small and middle market businesses and consumers in its markets. First Federal also provides demand transaction accounts and time deposit accounts to businesses and individuals. First Federal offers products and services primarily to customers in its market areas, consisting of counties in Coastal South Carolina and North Carolina from the Hilton Head area of Beaufort County to the Sunset Beach area of Brunswick County and Florence County. Revenues for First Federal are derived primarily from interest and fees on loans, interest on investment securities, service charges on deposits and other customer service fees.
First Southeast Insurance Services, Inc. operates as an independent insurance agency and brokerage through eleven offices, seven located throughout the coastal region of South Carolina, two offices in Florence County and one office each in Columbia and Lake Wylie, South Carolina, with revenues consisting principally of commissions paid by insurance companies. The Kimbrell Insurance Group, Inc. (acquired in January 2004) operates as a managing general agency and brokerage through its primary office, located in Horry County, South Carolina, with revenues consisting principally of commissions paid by insurance companies. Also part of The Kimbrell Insurance Group, Inc. is Atlantic Acceptance Corporation, Inc., which finances insurance premiums. No single customer accounts for a significant amount of the revenues of either reportable segment. The Company evaluates performance based on budget to actual comparisons and segment profits. The accounting policies of the reportable segments are the same as those described in Note 1 of the Company's latest annual report on Form 10-K.
Segment information is shown in the tables below. The "Other" column includes all other business activities that did not meet the quantitative thresholds and therefore are not shown as a reportable segment. Certain passive activities of First Financial are also included in the "Other" column as well as inter-company elimination entries required for consolidation (in thousands).
Three months ended March 31, 2005 Insurance Banking Activities Other Total Interest income $ 31,792 $ 71 $ 49 $
31,912 Interest expense 12,188 19 773 12,980 Net interest income 19,604 52 (724 ) 18,932 Provision for loan losses 1,300 1,300 Other income 5,747 28 603 6,378 Commissions on insurance and other agency income 57 6,104 (31 ) 6,130 Non-interest expenses 14,508 3,544 910 18,962 Amortization of intangibles 121 121 Income tax expense 3,482 907 (379 ) 4,010 Net income $
6,118 $ 1,612 $ (683 ) $ 7,047 12
Six months ended March 31, 2005 Insurance Banking Activities Other
Total Interest income $ 63,602 $ 196 $ 95 $
63,893 Interest expense 24,221 35 1,559 25,815 Net interest income 39,381 161 (1,464 ) 38,078 Provision for loan losses 2,600 2,600 Other income 13,371 67 1,169 14,607 Commissions on insurance and other agency income 120 10,048 (62 ) 10,106 Non-interest expenses 31,049 6,938 1,659 39,646 Amortization of intangibles 242 242 Income tax expense 6,930 1,115 (702 ) 7,343 Net income $ 12,293 $ 1,981 $ (1,314 ) $ 12,960 March 31, 2005 Total assets $ 2,422,417 $ 37,450 $ 13,198 $ 2,473,065 Loans $ 1,859,125 $ 2,049 $ 1,861,174 Deposits $ 1,555,012 $ (7,316 ) $ 1,547,696 Three months ended March 31, 2004 Insurance Banking
Activities Other
Total Interest income $ 31,950 $ 67 $ 20 $ 32,037 Interest expense 12,189 19 220 12,428 Net interest income 19,761 48 (200 ) 19,609 Provision for loan losses 1,825 1,825 Other income 4,367 17 590 4,974 Commissions on insurance and other agency income 83 5,368 5,451 Non-interest expenses 13,677 3,506 1,026 18,209 Amortization of intangibles 96 96 Income tax expense 3,104 638 (228 ) 3,514 Net income $ 5,605 $ 1,193 $ (408 ) $ 6,390 13
Six months ended March 31, 2004 Insurance Banking
Activities Other
Total Interest income $ 63,669 $ 68 $ 60 $
63,797 Interest expense 24,621 19 409 25,049 Net interest income 39,048 49 (349 ) 38,748 Provision for loan losses 3,250 3,250 Other income 9,273 31 1,027 10,331 Commissions on insurance and other agency income 197 8,362 8,559 Non-interest expenses 28,064 6,164 1,890 36,118 Amortization of intangibles 192 192 Income tax expense 6,140 730 (436 ) 6,434 Net income $ 11,064 $ 1,356 $ (776 ) $ 11,644 March 31, 2004 Total assets $ 2,398,863 $ 35,536 $ 21,217 $ 2,455,616 Loans $ 1,804,966 $ 2,002 $ 1,806,968 Deposits $ 1,476,660 $ (6,265 )
$ 1,470,395 L. GUARANTEES
Standby letters of credit represent an obligation of the Company to a third party contingent upon the failure of the Company's customer to perform under the terms of an underlying contract with the third party or obligate the Company to guarantee or stand as surety for the benefit of the third party. The underlying contract may entail either financial or nonfinancial obligations and may involve such things as the customer's delivery of merchandise, completion of a construction contract, release of a lien, or repayment of an obligation. Under the terms of a standby letter, drafts will generally be drawn only when the underlying event fails to occur as intended. The Company can seek recovery of the amounts paid from the borrower. In addition, some of these standby letters of credit are collateralized. Commitments under standby letters of credit are usually for one year or less. No contingent liability was determined to be necessary relating to the Company's obligati on to perform as a guarantor, since such amounts are not considered material. The maximum potential amount of undiscounted future payments related to standby letters of credit at March 31, 2005 was $3.2 million.
M. COMMITMENTS AND CONTINGENCIES
The Company is currently subject to various legal proceedings and claims that have arisen in the ordinary course of its business. In the opinion of management based on consultation with external legal counsel, any reasonably foreseeable outcome of such current litigation would not materially affect the Company's consolidated financial position or results of operations.
N. OTHER INCOME
Included in Other Income for the six months ended March 31, 2005 is the receipt of a judgment totaling $1.3 million. See PART II, Item 1 - -- Legal Proceedings for additional information.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
WEBSITE AVAILABILITY OF REPORTS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION
All of the Company's electronic filings with the Securities and Exchange Commission ("SEC"), including its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and other documents filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, are made available at no cost on the Company's web site, www.firstfinancialholdings.com, using the First Financial SEC Reports link.
DISCUSSION OF FORWARD-LOOKING STATEMENTS
This report may contain certain forward-looking statements with respect to financial conditions, results of operations and business of First Financial. These forward-looking statements constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements relate to, among others, expectations of the business environment in which the Company operates, projections of future performance, perceived opportunities in the market, potential future credit experience, and statements regarding the Company's mission and vision. These forward-looking statements are based upon current management expectations, and may, therefore, involve risks and uncertainties. The Company's actual results, performance or achievements may differ materially from those suggested, expressed or implied by forward-looking statements due to a wide range of factors including, but not limited to, the general business enviro nment, general economic conditions nationally and in the State of South Carolina, interest rates, the South Carolina real estate market, competitive conditions between banks and non-bank financial services providers, regulatory changes and other risks detailed in the Company's reports filed with the Securities and Exchange Commission, including the Annual Report on Form 10-K for the fiscal year ended September 30, 2004. Forward-looking statements are effective only as of the date that they are made and the Company assumes no obligation to update this information.
OVERVIEW
First Financial Holdings, Inc. ("First Financial" or the "Company") is a savings and loan holding company incorporated under the laws of Delaware in 1987. The Company is headquartered in Charleston, South Carolina and operates First Federal Savings and Loan Association of Charleston ("First Federal" or the "Association"). Insurance operations are conducted under other First Financial subsidiaries, First Southeast Insurance Services, Inc. ("FSIns.") and Kimbrell Insurance Group, Inc. ("Kimbrell"). The Company also owns First Southeast Investor Services, Inc. ("FSIS"), a South Carolina corporation organized in 1998 for the purpose of operating as a broker-dealer.
First Federal, chartered in 1934, is the largest financial institution headquartered in the Charleston, South Carolina metropolitan area and the third largest financial institution headquartered in South Carolina based on asset size. First Federal is a federally-chartered stock savings and loan association that conducts its business through operation centers located in Charleston and Conway along with 38 full service retail branch sales offices, seven in-store (Wal-Mart Supercenters) retail branch sales offices, and three limited service branches located in the following counties: Charleston County (16), Berkeley County (3), Dorchester County (4), Hilton Head area of Beaufort County (3),
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Georgetown County (2), Horry County (14), Florence County (5) and the Sunset Beach area of Brunswick County North Carolina (1).
The business of the Company consists primarily of acting as a financial intermediary by attracting deposits from the general public and using such funds, together with borrowings and other funds, to originate first mortgage loans on residential properties located in its primary market areas. The Company also makes construction, consumer, non-residential mortgage and commercial business loans and invests in mortgage-backed securities, federal government and agency obligations, money market obligations and certain corporate obligations. Through its direct subsidiaries or subsidiaries of the Association, the Company also engages in full-service brokerage activities, property, casualty, life and health insurance, third party administrative services, trust and fiduciary services, reinsurance of private mortgage insurance, premium finance activities and certain passive investment activities.
The Company continues to move forward with many strategic initiatives. In the first quarter of fiscal 2005, the seventh Wal-Mart in-store retail sales office was opened. This new office is located in Myrtle Beach, South Carolina. This new office will enhance our coverage of higher growth markets in South Carolina.
SECOND QUARTER HIGHLIGHTS
Net income for the quarter ended March 31, 2005 increased 10.3% to $7.0 million from net income of $6.4 million in the comparable quarter in fiscal 2004. Basic earnings per common share increased to $.57 per common share for the quarter ended March 31, 2005 compared to $.51 per common share for the quarter ended March 31, 2004. On a diluted basis, earnings per common share increased to $.56 from $.50 in the comparable period.
Net income during the March 31, 2005 quarter in comparison to the March 31, 2004 quarter increased by $657 thousand. Non-interest income was $12.5 million for the second quarter of fiscal 2005, increasing by $2.1 million, or 20%, over the comparable quarter last year. Commissions on insurance comprised 46.4% of total other income in the current quarter and increased $779 thousand, or 15.5%, from the comparable quarter ended March 31, 2004. The increase was principally related to higher annual contingent payments, which the Company traditionally receives in the first calendar quarter of each year. Total contingent-based commissions were $2.2 million in the quarter ended March 31, 2005 compared with $1.4 million in the quarter ended March 31, 2004. Loan servicing operations, net, totaled $1.0 million during the quarter ended March 31, 2005. The current quarter's results reflect a $607 thousand increase in originated mortgage servicing values. There was a $1.2 millio n loss in loan servicing operations during the comparable quarter ended March 31, 2004, which included a $1.4 million addition to an impairment reserve for the valuation of originated mortgage servicing rights. During the quarter ended March 31, 2004, the Company recorded $958 thousand in net gains on sales of investment and mortgage-backed securities while there was no similar activity in the current quarter.
Total non-interest expense increased by 4.3%, or $778 thousand, during the quarter ended March 31, 2005 compared with the comparable quarter ended March 31, 2004. Salaries and employee benefit costs were higher in the current quarter, increasing by $889 thousand, due almost entirely to the increased staffing for several new offices opened since March 2004 and from adjustments for annual merit increases and other benefit programs. The total for all of the remaining expense categories was slightly lower than the quarter ended March 31, 2004.
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On a comparative basis, net interest income decreased $677 thousand, or 3.5%, between the quarters ended March 31, 2005 and March 31, 2004. The Company's net interest margin in the quarter ended March 31, 2005 declined to 3.33% compared with 3.41% during the quarter ended March 31, 2004. The Company's average earning assets decreased $26.2 million between the quarters ended March 31, 2005 and 2004.
CRITICAL ACCOUNTING POLICIES
The Company's accounting policies are discussed in Item 8, Note 1 to the Consolidated Financial Statements of the 10K for September 30, 2004. Of these significant accounting policies, the Company has determined that accounting for allowance for loan losses, income taxes, mortgage servicing rights and accounting for acquisitions are deemed critical because of the valuation techniques used, and the sensitivity of these financial statement amounts to the methods, assumptions and estimates underlying these balances. Accounting for these critical areas requires the most subjective and complex judgments that could be subject to revision as new information becomes available.
OFF-BALANCE SHEET ARRANGEMENTS
In the normal course of operations, the Company engages in a variety of financial transactions that, in accordance with generally accepted accounting principles, are not recorded in the financial statements or are recorded in amounts that differ from the notional amounts. These transactions involve, to varying degrees, elements of credit, interest rate, and liquidity risk. The Company uses such transactions for general corporate purposes or for customer needs. Corporate purpose transactions are used to help manage credit, interest rate, and liquidity risk or to optimize capital. Customer transactions are used to manage customers' requests for funding.
The Company's off-balance sheet arrangements, which principally include lending commitments and derivatives, are described below.
Lending Commitments. Lending Commitments include loan commitments, standby letters of credit, unused business and consumer credit lines, and documentary letters of credit. These instruments are not recorded in the consolidated balance sheet until funds are advanced under the commitments. The Company provides these lending commitments to customers in the course of business. The Company applies essentially the same credit policies and standards as it does in the lending process when making these commitments.
For commercial customers, loan commitments generally take the form of revolving credit arrangements to finance customers' working capital requirements. For retail customers, loan commitments are generally lines of credit secured by residential property. At March 31, 2005, commercial and retail loan commitments and the undisbursed portion of construction loans totaled $137.9 million. Unused business, personal and credit card lines, which totaled $277.6 million at March 31, 2005, are generally for short-term borrowings.
Derivatives. In accordance with SFAS No. 133, the Company records derivatives at fair value, as either assets or liabilities, on the consolidated balance sheets. Derivative transactions are measured in terms of the notional amount, but this amount is not recorded on the balance sheet and is not, when viewed in isolation, a meaningful measure of the risk profile of the instrument. The notional amount
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is not exchanged, but is used only as the basis upon which interest and other payments are calculated. See Note H in the Notes to Consolidated Financial Statements.
OTHER POSTRETIREMENT BENEFITS
The Company sponsors postretirement benefit plans that provide health care, life insurance and other postretirement benefits to retired employees. The health care plans generally include participant contributions, co-insurance provisions, limitations on the Company's obligation and service-related eligibility requirements. The Company pays these benefits as they are incurred. Postretirement benefits for employees hired after January 1, 1989 and those electing early retirement or normal retirement after January 1, 1999, were substantially curtailed. The Company's other postretirement benefits are discussed more fully in Item 8, Note 18 to the Consolidated Financial Statements of the 10K for September 30, 2004.
On December 8, 2003, the President signed the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the "Act") into law. The Act introduces a voluntary prescription drug benefit under Medicare as well as a federal subsidy to sponsors of retiree health care plans that provide at least an actuarially equivalent benefit. The Financial Accounting Standards Board issued a Staff Position, FAS 106-2, on May 9, 2004, effective for the first interim or annual reporting period beginning after June 15, 2004. The Company adopted FAS 106-2 effective July 1, 2004. The Company believes that the drug benefit under its postretirement benefit plan is actuarially equivalent to Medicare Part D and that it will qualify for the subsidy starting in 2006. The Company began to recognize a reduction in postretirement benefit costs during the first quarter of fiscal 2005.
The components of net periodic benefit costs for the three months ended March 31, 2005 and 2004 are shown in the following statement (in thousands):
Other Postretirement Benefits Three months ended March 31, 2005 2004 Interest Cost $ 27 $ 30 Amortization of transition obligation 24 25 $ 51 $ 55 The components of net periodic benefit costs for the six months ended March 31, 2005 and 2004 are shown in the following statement (in thousands):
Other Postretirement Benefits Six months ended March 31, 2005 2004 Interest Cost $ 54 $ 60 Amortization of transition obligation 48 50 $ 102 $ 110 18
The Company previously disclosed in its financial statements for the year ended September 30, 2004, that it expected to contribute $128 thousand for postretirement benefit payments in fiscal year 2005. As of the three and six months periods ended March 31, 2005, $34 thousand and $73 thousand, respectively, of contributions had been required.
BALANCE SHEET ANALYSIS
Total assets of First Financial increased $30.8 million, or 1.26%, during the six months ended March 31, 2005. The following table shows the variances in dollars and percent change between the Consolidated Statements of Financial Condition for First Financial at March 31, 2005 and September 30, 2004:
FIRST FINANCIAL HOLDINGS, INC. CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION March 31, September 30, 2005 2004 (Amounts in thousands) (Unaudited) Variance % Change ASSETS Cash and cash equivalents $ 101,916 $ 102,310 $ (394 ) (0.39 )% Investments available for sale, at fair value 31,024 28,926 2,098 7.25 Investment in capital stock of FHLB, at cost 29,665 33,900 (4,235 ) (12.49 ) Loans receivable, net of allowance of $14,404 and $14,799 1,857,223 1,813,531 43,692 2.41 Loans held for sale 3,951 4,054 (103 ) (2.54 ) Mortgage-backed securities available for sale, at fair value 336,992 346,847 (9,855 ) (2.84 ) Intangible assets 22,784 22,452 332 1.48 Other assets 89,510 90,293 (783 ) (0.87 ) Total assets $
2,473,065 $ 2,442,313 $ 30,752 1.26 % LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Deposit accounts $ 1,547,696 $ 1,520,817 $ 26,879 1.77 % Advances from Federal Home Loan Bank 552,000 658,000 (106,000 ) (16.11 ) Other short-term borrowings 105,821 1,262 104,559 8,285.18 Long-term debt 46,392 46,392 Other liabilities 50,252 50,655 (403 ) (0.80 ) Total liabilities 2,302,161 2,277,126 25,035 1.10 % Stockholders' equity 170,904 165,187 5,717 3.46 Total liabilities and stockholders' equity $ 2,473,065 $ 2,442,313 $ 30,752 1.26 % Investment Securities and Mortgage-backed Securities
Investments available for sale, investment in capital stock of FHLB and mortgage-backed securities available for sale decreased $12.0 million in the current six months ended March 31, 2005. Purchases of investments available for sale and mortgage-backed securities available for sale totaled $69.9 million during the six months ended March 31, 2005. The Company also sold $39.1 million of investments available for sale and mortgage-backed securities available for sale and repayments during the six months ended March 31, 2005 totaled $34.0 million. Net redemption of FHLB stock amounted to $4.2 million during the six months ended March 31, 2005.
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Loans Receivable
The following table summarizes outstanding loans by collateral type for real estate secured loans and by borrower type for all other loans. Collateral type represents the underlying assets securing the loan, rather than the purpose of the loans (in thousands):
March 31, September 30, March 31, 2005 2004 2004 Real estate - residential mortgages (1-4 family) $ 969,274 $ 987,825 $ 1,040,623 Real estate - residential construction 87,966 73,542 68,216 Commercial secured by real estate including multi-family 238,699 223,994 212,415 Commercial financial and agricultural 66,222 57,594 52,234 Land 119,494 101,263 87,722 Home equity loans 208,670 189,232 169,296 Mobile home loans 146,546 143,502 137,718 Credit cards 11,863 11,747 11,768 Other consumer loans 89,740 91,370 81,231 Total gross loans 1,938,474 1,880,069 1,861,223 Less: Allowance for loan losses 14,404 14,799 14,725 Loans in process 63,696 48,423 39,740 Deferred loan fees and discounts on loans (800 )
(738 )
(210 )
77,300 62,484 54,255 Total $ 1,861,174 $ 1,817,585 $ 1,806,968 Net loans increased $43.6 million during the six months ended March 31, 2005. As a result of historically low interest rates, consumer preference for mortgage products has shifted in recent quarters to fixed-rate residential loan products resulting in higher repayments of certain of the Company's normal portfolio loan products, such as adjustable rate mortgage loans. Refinance activity declined in the six months ended March 31, 2005, resulting in slowing repayments of residential 1-4 family loans. Proceeds from sales of loans held for sale also declined by $30.8 million, or 27.5%, during the six months ended March 31, 2005 as compared to the first six months of fiscal 2004. Gross residential mortgage loans (1-4 family) declined $71.3 million during the twelve months ended March 31, 2005. Most other categories of loans exhibited growth, particularly commercial, land and home equity loans during the twelve months ended March 31, 2005 and during the first six months of fiscal 2005. The Company continues to place increased emphasis on the origination of commercial business and consumer loans.
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Asset Quality
The following table summarizes the Company's problem assets for the periods indicated (amounts in thousands):
March 31, September 30, March 31, 2005 2004 2004 Non-accrual loans $ 7,472 $ 8,439 $ 9,553 Loans 90 days or more delinquent (1) 72 63 71 Renegotiated loans 289 Real estate and other assets acquired in settlement of loans 2,654 4,003 3,949 Total $ 10,198 $ 12,505 $ 13,862 As a percent of net loans and real estate owned 0.55 % 0.69 % 0.77 % As a percent of total assets 0.41 % 0.51 % 0.56 % (1) The Company continues to accrue interest on these loans. Problem assets decreased $2.3 million during the six months ended March 31, 2005 from September 30, 2004. The majority of the decrease was in non-accrual loans and real estate and other assets acquired in settlement of loans, which decreased $967 thousand and $1.3 million, respectively, from September 30, 2004.
The Company's largest concentration of loans is in the Residential (1-4 family) market. There is no concentration of loans in any particular industry or group of industries. Most of the Company's residential and business loans are with customers located within the coastal counties of South Carolina, Florence County and Brunswick County in North Carolina.
Allowance for Loan Losses
The Company provides for loan losses on the allowance method. Accordingly, all loan losses are charged to the related allowance and all recoveries are credited to the allowance. Additions to the allowance for loan losses are provided by charges to operations based on various factors which, in management's judgment, deserve current recognition in estimating losses. Such factors considered by management include the fair value of the underlying collateral, growth and composition of the loan portfolios, loss experience, delinquency trends and economic conditions. Management evaluates the carrying value of loans periodically and the allowance is adjusted accordingly. While management uses the best information available to make evaluations, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the evaluations. The allowance for loan losses is subject to periodic evaluation by variou s regulatory authorities and may be subject to adjustment upon their examination.
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Following is a summary of the reserve for loan losses (in thousands):
At and for the six months ended March 31, 2005 2004 Balance at beginning of year $ 14,799 $ 14,957 Provision charged to operations 2,600 3,250 Recoveries of loans previously charged-off 284 307 Loan losses charged to reserves (3,279 )
(3,789 )
Balance at end of period $ 14,404 $ 14,725 Net charge-offs totaled $3.0 million in the current six months ended March 31, 2005 compared to $3.5 million in the comparable six months in fiscal 2004. Consumer net charge-offs totaled $2.2 million in the current six months compared to $2.6 million in the comparable six months in fiscal 2004. Real Estate (residential and commercial) and commercial loan net charge-offs decreased to $846 thousand in the current six months, compared to $850 thousand in the six months ended March 31, 2004. Annualized net charge-offs as a percentage of average net loans decreased six basis points to .33% for the six months ended March 31, 2005 as compared to .39% for the six months ended March 31, 2004 and decreased eight basis points from .42% to .34% for the quarter ended March 31, 2005 as compared to the quarter ended March 31, 2004.
Over recent years the Company has been successful in increasing originations of consumer and commercial business loans which typically have higher rates of delinquency and greater risk of loss than do single-family real estate loans but are shorter in duration and have less interest rate risk.
The Company's impaired loans totaled $1.8 million at March 31, 2005, $363 thousand at September 30, 2004 and $1.2 million at March 31, 2004.
Deposits and Borrowings
First Financial's deposit composition at the indicated dates is as follows (amounts in thousands):
March 31, 2005 September 30, 2004 March 31, 2004 Balance % of Total Balance % of Total Balance % of Total Checking accounts $ 474,398 30.65 % $ 439,051 28.87 % $ 418,670 28.47 % Statement and other accounts 171,206 11.06 166,990 10.98 159,143 10.82 Money market accounts 239,157 15.45 243,173 15.99 246,826 16.79 Certificate accounts 662,935 42.84 671,603 44.16 645,756 43.92 Total deposits $ 1,547,696 100.00 % $
1,520,817 100.00 % $ 1,470,395 100.00 % Deposits increased $26.9 million during the six months ended March 31, 2005. The Company's emphasis on checking account growth has resulted in checking balances now comprising 30.7% of deposits with $35.3 million growth in balances during the six months ended March 31, 2005.
As a result of moderate asset growth and higher deposit balances, the Company's borrowings remained stable during the six months ended March 31, 2005. The mix of borrowings changed as
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FHLB advances declined $106 million and other short-term borrowings increased $104.6 million during the six months ended March 31, 2005. The mix changed principally due to more competitive rates from sources other than FHLB advances.
In the first three months of fiscal 2005, the Company incurred a $964 thousand prepayment fee related to the early prepayment of a $15 million Federal Home Loan Bank advance. The Company continues to evaluate the relative cost and benefit of incurring prepayment penalties from early prepayment of FHLB advances.
Stockholders' Equity
The Company's capital ratio, total capital to total assets, was 6.91% at March 31, 2005, compared to 6.76% at September 30, 2004. During the six months ended March 31, 2005, the Company increased its dividend to stockholders to $.46 compared with $.44 per share in the first six months of fiscal 2004. During the quarter ended June 30, 2003 the Company announced approval of a stock repurchase program to acquire up to 650 thousand shares of Common Stock that was subsequently extended until November 30, 2004. At the time the plan expired the Company had purchased approximately 594 thousand shares at a total cost of approximately $17.5 million. During the first quarter of fiscal 2005 the Company purchased through the plan approximately 34 thousand shares at a cost of approximately $1.1 million. The Company did not repurchase any of its common stock in the second quarter of fiscal 2005.
On April 29, 2005, the Company announced the approval of a new stock repurchase program to acquire up to 625 thousand shares of common stock. The program will expire June 30, 2006.
Changes in stockholders' equity during the six months ended March 31, 2005 was comprised of net income, the after tax effect of unrealized losses on securities available for sale, stock issued pursuant to stock option and employee benefit plans, dividends paid and treasury stock repurchased.
Regulatory Capital
Under current Office of Thrift Supervision ("OTS") regulations, savings associations must satisfy three minimum capital requirements: core capital, tangible capital and risk-based capital. Savings associations must meet all of the standards in order to comply with the capital requirements. At March 31, 2005, the Association was categorized as "well capitalized" under the Prompt Corrective Action regulations adopted by the OTS pursuant to the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"). To remain in this status, the Association must maintain core and risk-based, Tier 1 risk-based, and Tier 1 core ("leverage") ratios as set forth in the table. There are no conditions or events since that date that management believes have changed the institution's category.
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The following table summarizes the capital requirements for First Federal as well as its capital position at March 31, 2005 (amounts in thousands):
For Capital To Be Well Capitalized Adequacy Purposes Under Prompt Corrective Actual Purposes Action Provisions Amount Ratio Amount Ratio Amount Ratio As of March 31, 2005 Tangible capital (to Total Assets) $ 176,470 7.25 % $ 36,498 1.50 % Core capital (to Total Assets) 176,470 7.25 97,328 4.00 $ 121,661 5.00 % Tier I capital (to Risk-based Assets) 176,470 10.61 97,952 6.00 Risk-based capital (to Risk-based Assets) 188,585 11.48 130,602 8.00 163,253 10.00 For a complete discussion of capital issues, refer to "Capital Requirements" and "Limitations on Capital Distributions" in the Company's 10-K for the fiscal year ending September 30, 2004.
LIQUIDITY AND ASSET AND LIABILITY MANAGEMENT
Liquidity
The Association is subject to federal regulations requiring it to maintain adequate liquidity to assure safe and sound operations.
The Association's primary sources of funds consist of retail and commercial deposits, borrowings from the FHLB, principal repayments on loans and mortgage-backed securities, securities sold under agreements to repurchase and the sale of loans and securities. Each of the Association's sources of liquidity is subject to various uncertainties beyond the control of the Association. As a measure of protection, the Association has back-up sources of funds available, including excess borrowing capacity and excess liquidity in securities available for sale. The table below summarizes future contractual obligations as of March 31, 2005 (in thousands).
At March 31, 2005 Payments Due by Period Over One Over Two Over Three Within One to Two to Three to Five After Five Year Years Years Years Years Total Certificate accounts $ 387,107 $ 72,799 $ 148,611 $ 51,218 $ 3,200 $ 662,935 Borrowings 382,821 25,000 75,000 75,000 146,392 704,213 Operating leases 749 740 697 611 3,063 5,860 Total contractual obligations $ 770,677 $ 98,539 $ 224,308 $ 126,829 $ 152,655 $ 1,373,008 The Association's use of FHLB advances is limited by the policies of the FHLB. Based on the current level of advances, asset size and available collateral under the FHLB programs, the Association at March 31, 2005, estimates that an additional $202.2 million of funding is available. At March 31, 2005, the Association has approximately $103.8 million of unpledged investments and mortgage-backed securities available for sale. At March 31, 2005, the Association maintained collateral at the Federal Reserve of Richmond, sufficient to ensure that approximately $25.6 million is available from the "Discount Window". All of the above liquidity sources except cash and cash equivalents give the Association approximately $331.6 million capacity to meet future funding
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demands. These sources are available should deposit cash flows and other funding be reduced in any given period. Should the Association so desire, it may request additional availability at the FHLB, subject to standard lending policies in effect at the FHLB.
During the current six months the Company experienced a net cash outflow from investing activities of $39.7 million consisting principally of purchases of investments and mortgage-backed securities available for sale of $69.9 million and a net increase of $49.1 million in loan growth, offset by repayments of mortgage-backed securities of $34.0 million, proceeds from sales of investments and mortgage-backed securities available for sale of $39.1 million, proceeds from sales of real estate owned of $4.1 million, and net redemption of FHLB stock of $4.2 million. The Company experienced cash inflows of $22.4 million and $16.9 million from operating activities and financing activities, respectively. Financing activities consisted principally of a net increase of $26.9 million in deposits, an increase of $105.8 million in securities sold under agreements to repurchase and proceeds from exercise of stock options of $1.8 million offset by decreases in FHLB advances of $1 06.0 million, advances by borrowers for taxes and insurance of $2.4 million, prepayment penalties on FHLB advances of $964 thousand, dividends paid of $5.7 million and purchase of treasury stock of $1.3 million during the first six months of fiscal 2005.
Parent Company Liquidity
As a holding company, First Financial conducts its business through its subsidiaries. Unlike the Association, First Financial is not subject to any regulatory liquidity requirements. Potential sources for First Financial's payment of principal and interest on its borrowings and for its future funding needs include (i) dividends from First Federal and other subsidiaries; (ii) payments from existing cash reserves and sales of marketable securities; and (iii) interest on its investment securities.
First Federal's ability to pay dividends and make other capital contributions to First Financial is restricted by regulation and may require regulatory approval. First Federal's ability to make distributions may also depend on its ability to meet minimum regulatory capital requirements in effect during the period. For a complete discussion of capital distribution regulations, refer to "Limitations on Capital Distributions" in the Company's 10-K for the fiscal year ending September 30, 2004.
Asset/Liability Management
The Company's Asset and Liability Committee establishes policies and monitors results to control interest rate sensitivity. Although the Company utilizes measures such as static and dynamic gap, which are measurements of the differences between interest-sensitive assets and interest-sensitive liabilities repricing for a particular time period including modeling that includes and excludes loan prepayment assumptions. More important may be the process of evaluating how particular assets and liabilities are affected by changes in interest rates or selected indices as they reprice. Asset/liability modeling is performed by the Company to assess varying interest rate and balance mix assumptions.
The following table is a summary of the Company's one-year dynamic gap at March 31, 2005 (amounts in thousands):
March 31, 2005
Interest-earning assets maturing or repricing within one year $ 1,005,696 Interest-bearing liabilities maturing or repricing within one year 1,117,933 Cumulative gap $ (112,237 )
Gap as a percent of total assets (4.54 )% 25
Based on the Company's March 31, 2005 dynamic gap position, which considers expected prepayments of loans and mortgage-backed securities, in a one-year time period $1.0 billion in interest-earning assets will reprice and approximately $1.1 billion in interest-bearing liabilities will reprice. This current dynamic gap position results in a negative one-year gap position of $112.2 million, or 4.5% of assets. The Company's one year dynamic gap position at March 31, 2004 was a negative $153.7 million, or 6.3% of assets. At the end of fiscal year ended September 30, 2004, the dynamic gap was a negative $143.4 million or 5.9% of assets. The above table does not take into consideration the repricing dynamics in adjustable-rate loans, such as minimum and maximum annual and lifetime interest rate adjustments and also the index utilized and whether the index is a current or lagging index. Included in the above numbers are the Company's estimates of prepayments of fixed-ra te loans and mortgage-backed securities in a one-year period and the Company's expectation that under current interest rates, certain advances of the FHLB will not be called. Changes between the periods were related to differing prepayment speeds expected, levels of loans held for sale, increased rate sensitive assets, and changing liability funding.
A negative gap indicates that cumulative interest-sensitive liabilities exceed cumulative interest-sensitive assets and suggests that net interest income would decline if market interest rates increased. A positive gap would suggest the reverse. This relationship is not always ensured due to the repricing attributes of both interest-sensitive assets and interest-sensitive liabilities.
COMPARISON OF OPERATING RESULTS
QUARTERS ENDING MARCH 31, 2005 AND 2004The following table shows the variances in dollars and percentages between the Consolidated Statements of Income for First Financial for the quarters ended March 31, 2005 and 2004:
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CONSOLIDATED STATEMENTS OF INCOME Three Months Ended March 31, 2005 2004 (Amounts in thousands, except per share amounts) (Unaudited) Variance % change INTEREST INCOME Interest and fees on loans $ 27,945 $ 27,743 $ 202 0.73 % Interest on mortgage-backed securities 3,321 3,864 (543 ) (14.05 )
Interest and dividends on investments 595 413 182 44.07 Other 51 17 34 200.00 Total interest income 31,912 32,037 (125 ) (0.39 )
INTEREST EXPENSE Interest on deposits 6,115 5,506 609 11.06 Interest on borrowed money 6,865 6,922 (57 ) (0.82 ) Total interest expense 12,980 12,428 552 4.44 NET INTEREST INCOME 18,932 19,609 (677 ) (3.45 ) Provision for loan losses 1,300 1,825 (525 ) (28.77 ) Net interest income after provision for loan losses 17,632 17,784 (152 ) (0.85 ) OTHER INCOME Net gain on sale of loans 467 744 (277 ) (37.23 ) Net (loss) gain on sale of investment and mortgage-backed securities 958 (958 ) (100.00 ) Brokerage fees 670 650 20 3.08 Commissions on insurance 5,800 5,021 779 15.51 Other agency income 330 430 (100 ) (23.26 ) Service charges and fees on deposit accounts 2,742 2,766 (24 ) (0.87 ) Loan servicing operations, net 1,007 (1,150 ) 2,157 187.57 Gain on disposition of assets 36 (3 ) 39 1,300.00 Other 1,456 1,009 447 44.30 Total other income 12,508 10,425 2,083 19.98 NON-INTEREST EXPENSE Salaries and employee benefits 12,127 11,238 889 7.91 Occupancy costs 1,224 1,357 (133 ) (9.80 ) Marketing 465 391 74 18.93 Depreciation, rental and maintenance of equipment 1,223 1,235 (12 ) (0.97 ) Amortization of intangibles 121 96 25 26.04 Other 3,923 3,988 (65 ) (1.63 ) Total non-interest expense 19,083 18,305 778 4.25 Income before income taxes 11,057 9,904 1,153 11.64 Income tax expense 4,010 3,514 496 14.11 NET INCOME $ 7,047 $ 6,390 $ 657 10.28 % NET INCOME PER COMMON SHARE BASIC $ 0.57 $ 0.51 $ 0.06 11.76 % NET INCOME PER COMMON SHARE DILUTED $ 0.56 $ 0.50 $ 0.06 12.00 % 27
Net Interest Income
Net interest income was $18.9 million and $19.6 during the quarters ended March 31, 2005 and March 31, 2004, respectively. The net interest margin for the quarter ended March 31, 2005 was 3.33% compared with 3.41% during the quarter ended March 31, 2004. Average earnings assets decreased 1.14% to $2.277 billion during the quarter ended March 31, 2005 compared to $2.303 billion in the March 2004 quarter. As a result of these variances, net interest income declined 3.5%, or $677 thousand, between the two quarters. The gross interest margin decreased from 3.32% during the quarter ended March 31, 2004 to 3.27% during the quarter ended March 31, 2005.
The following table summarizes rates, yields and average earning asset and costing liability balances for the respective quarters (amounts in thousands):
Three Months Ended March 31, 2005 2004 Average Average Average Average Balance Yield/Rate Balance Yield/Rate Loans $ 1,862,589 6.00 % $ 1,821,411 6.11 % Mortgage-backed securities 346,497 3.84 417,774 3.70 Investments and other interest-earning assets 67,963 3.82 64,046 2.83 Total interest-earning assets $ 2,277,049 5.61 % $ 2,303,231 5.58 % Deposits $ 1,525,975 1.63 % $ 1,452,890 1.54 % Borrowings 724,127 3.84 809,880 3.55 Total interest-bearing liabilities $ 2,250,102 2.34 % $ 2,262,770 2.26 % Gross interest margin 3.27 % 3.32 % Net interest margin 3.33 % 3.41 % Management expects continued pressure on its net interest margin as a result of the amortization and maturities of loans and investment and mortgage-backed securities and the need to reinvest those funds at current market spreads for new earning assets. The Federal Reserve increased the federal funds target rate by 25 basis points in each of seven moves starting in June of 2004 and ending in March 2005. However, the Treasury yield curve depicts an increase in short-term rates over this time period while long-term rates have declined. A continuation of this trend for a longer period would be detrimental to the Company's net interest margin.
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The following rate/volume analysis depicts the increase (decrease) in net interest income attributable to interest rate and volume fluctuations compared to the prior period (in thousands):
Three Months Ended March 31, 2005 versus 2004 Volume Rate Total Interest income: Loans $ 659 $ (457 ) $ 202 Mortgage-backed securities (679 ) 136 (543 ) Investments and other interest-earning assets 31 185 216 Total interest income 11 (136 ) (125 ) Interest expense: Deposits 290 319 609 Borrowings (686 ) 629 (57 ) Total interest expense (396 ) 948 552 Net interest income $ 407 $ (1,084 ) $ (677 ) Provision for Loan Losses
The provision for loan losses is recorded in amounts sufficient to bring the allowance for loan losses to a level deemed appropriate by management. Management determines this amount based on many factors, including its assessment of loan portfolio quality, loan growth, change in loan portfolio composition, net loan charge-off levels, and expected economic conditions. The lower provision for loan losses in the March 2005 quarter was principally attributable to lower problem asset levels and lower net loan charge-offs trends. Net loan charge-offs totaled $1.6 million and $1.9 million for the quarters ended March 31, 2005 and 2004, respectively. Problem assets were $10.2 million at March 31, 2005 compared to $13.9 million at March 31, 2004. Total loan loss reserves as of March 31, 2005 were $14.4 million, or .77% of the total net loan portfolio compared with $14.7 million, or .81% of the total net loan portfolio at March 31, 2004.
Other Income/Non-Interest Expenses
Total other income increased 20.0% or $2.1 million, during the quarter ended March 31, 2005 compared with the quarter ended March 31, 2004. Gains on sale of loans decreased $277 thousand to $467 thousand from sales of loans during the quarter ended March 31, 2005 compared with gains of $744 thousand a year ago. Gains on sale of investments and mortgage-backed securities decreased $958 thousand during the quarter ended March 31, 2005 compared to the March 31, 2004 quarter, as there were no sales during the three months ended March 31, 2005. The cyclical receipt of contingent commissions contributed materially to higher total commissions received from insurance agency operations, which increased $779 thousand, or 15.5%, during the quarter ended March 31, 2005 compared with the quarter ended March 31, 2004. Total contingent-based commissions were $2.2 million in the quarter ended March 31, 2005 compared with $1.4 million in the quarter ended March 31, 2004. Loan servicing operations, net totaled $1.0 million during the quarter ended March 31, 2005. The current quarter's results reflect a $607 thousand increase in originated mortgage servicing values. There was a $1.2 million loss in loan servicing operations, net during the comparable quarter ended March 31, 2004, which included a $1.4 million addition to an impairment reserve for the valuation of originated mortgage servicing rights. After excluding gains from loan sales, gains on sale of investment and mortgage-backed securities, commissions from insurance agency operations and loan servicing operations, net from other revenues during the respective quarters ended March 31,
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2005 and 2004, all other sources of other income increased by $382 thousand, or 7.9%, during the current quarter.
Total non-interest expenses increased by $778 thousand, or 4.3%, during the quarter ended March 31, 2005 compared with the comparable quarter ended March 31, 2004. Salaries and employee benefit costs were higher in the current quarter, increasing by $889 thousand, primarily due to increased staffing for several new offices opened since March 2004 and for higher incentive-based accruals due to improved performance.
Income Tax Expense
During the second quarter of fiscal 2005 the Company's effective tax rate approximated 36.3% as compared to 35.5% during the second quarter of fiscal 2004.
COMPARISON OF OPERATING RESULTS
SIX MONTHS ENDING MARCH 31, 2005 AND 2004The following table shows the variances in dollars and percentages between the Consolidated Statements of Income for First Financial for the six months ended March 31, 2005 and 2004:
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CONSOLIDATED STATEMENTS OF INCOME Six Months Ended March 31, 2005 2004 (Amounts in thousands, except per share amounts) (Unaudited) Variance % change INTEREST INCOME Interest and fees on loans $ 56,039 $ 55,951 $ 88 0.16 % Interest on mortgage-backed securities 6,620 6,972 (352 ) (5.05 ) Interest and dividends on investments 1,143 840 303 36.07 Other 91 34 57 167.65 Total interest income 63,893 63,797 96 0.15 INTEREST EXPENSE Interest on deposits 11,995 11,265 730 6.48 Interest on borrowed money 13,820 13,784 36 0.26 Total interest expense 25,815 25,049 766 3.06 NET INTEREST INCOME 38,078 38,748 (670 ) (1.73 ) Provision for loan losses 2,600 3,250 (650 ) (20.00 ) Net interest income after provision for loan losses 35,478 35,498 (20 ) (0.06 ) OTHER INCOME Net gain on sale of loans 840 954 (114 ) (11.95 ) Net (loss) gain on sale of investment and mortgage-backed securities (56 )
1,394 (1,450 ) (104.02 ) Brokerage fees 1,304 1,144 160 13.99 Commissions on insurance 9,512 7,867 1,645 20.91 Other agency income 594 692 (98 ) (14.16 ) Service charges and fees on deposit accounts 5,689 5,523 166 3.01 Loan servicing operations, net 1,322 (735 )
2,057 279.86 Gain on disposition of assets 1,602 244 1,358 556.56 Other 3,906 1,807 2,099 116.16 Total other income 24,713 18,890 5,823 30.83 NON-INTEREST EXPENSE Salaries and employee benefits 25,245 22,539 2,706 12.01 Occupancy costs 2,477 2,639 (162 )
(6.14 ) Marketing 969 741 228 30.77 Depreciation, rental and maintenance of equipment 2,396 2,572 (176 ) (6.84 ) Prepayment penalties on FHLB advances 964 964 100.00 Amortization of intangibles 242 191 51 26.70 Other 7,595 7,628 (33 ) (0.43 ) Total non-interest expense 39,888 36,310 3,578 9.85 Income before income taxes 20,303 18,078 2,225 12.31 Income tax expense 7,343 6,434 909 14.13 NET INCOME $ 12,960 $ 11,644 $ 1,316 11.30 % NET INCOME PER COMMON SHARE BASIC $ 1.05 $ 0.93 $ 0.12 12.90 % NET INCOME PER COMMON SHARE DILUTED $ 1.03 $ 0.90 $ 0.13 14.44 % 31
Net Interest Income
Net interest income was $38.1 million and $38.7 million during the six months ended March 31, 2005 and March 31, 2004, respectively. The net interest margin for the six months ended March 31, 2005 was 3.35% compared with 3.42% during the six months ended March 31, 2004. Average earnings assets increased .35% to $2.271 billion during the six months ended March 31, 2005 compared to $2.263 billion in the March 2004 quarter. As a result of these variances, net interest income declined 1.7%, or $670 thousand, between the two periods.
The following table summarizes rates, yields and average earning asset and costing liability balances for the respective quarters (amounts in thousands):
Six Months Ended March 31, 2005 2004 Average Average Average Average Balance Yield/Rate Balance Yield/Rate Loans $ 1,854,508 6.04 % $ 1,816,808 6.17 % Mortgage-backed securities 349,094 3.79 381,677 3.66 Investments and other interest-earning assets 67,166 3.66 64,483 2.89 Total interest-earning assets $ 2,270,768 5.63 % $ 2,262,968 5.65 % Deposits $ 1,523,644 1.58 % $ 1,462,103 1.55 % Borrowings 715,041 3.88 752,823 3.77 Total interest-bearing liabilities $ 2,238,685 2.31 % $ 2,214,926 2.30 % Gross interest margin 3.32 % 3.35 % Net interest margin 3.35 % 3.42 % The following rate/volume analysis depicts the increase (decrease) in net interest income attributable to interest rate and volume fluctuations compared to the prior period (in thousands):
Six Months Ended March 31, 2005 versus 2004 Volume Rate Total Interest income: Loans $ 1,177 $ (1,089 )
$ 88 Mortgage-backed securities (609 )
257 (352 )
Investments and other interest-earning assets 70 290 360 Total interest income 638 (542 )
96 Interest expense: Deposits 480 250 730 Borrowings (496 ) 532 36 Total interest expense (16 ) 782 766 Net interest income $ 654 $ (1,324 )
$ (670 )
Provision for Loan Losses
The provision for loan losses was $2.6 million for the six months ended March 31, 2005 compared with $3.3 million in the six months ended March 31, 2004. The lower provision for loan
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losses in the six months ended March 31, 2005 was principally attributable to lower problem asset levels and lower net loan charge-offs trends. Net loan charge-offs totaled $3.0 million and $3.5 million for the six months ended March 31, 2005 and 2004, respectively.
Other Income/Non-Interest Expenses
Total other income increased 30.8%, or $5.8 million, during the six months ended March 31, 2005 compared with the six months ended March 31, 2004. Included in the current results were gains from property sales of $1.6 million and the receipt of a judgment settlement of $1.25 million. The Company recorded a net loss of $56 thousand from sales of securities during the six months ended March 31, 2005 compared with net gains of $1.4 million a year ago. The purchase of the Kimbrell Insurance Group in January 2004 and increased contingent commissions in the overall agency system resulted in a $1.6 million, or 20.9% increase in commissions from insurance operations during the current six months. Loan servicing operations, net, improved by $2.1 million during the six months ended March 31, 2005 as compared to the six months ended March 31, 2004. Loan servicing operations, net, in the current six months reflects a $595 thousand increase in originated mortgage servicing values as compared to a $1.4 million additional impairment during the six months ended March 31, 2004.
Total non-interest expenses increased by $3.6 million during the six months ended March 31, 2005, compared with the comparable six months ended March 31, 2004. The Company incurred a $964 thousand prepayment fee related to the early prepayment of a $15 million Federal Home Loan Bank advance. Salaries and employee benefit costs were higher in the current six months, increasing by $2.7 million, due partially to three additional in-store sales offices opened over the past year, increased accruals related to the Company's defined contribution plan and incentive payments, and growth from employee costs related to the acquisition of the Kimbrell Insurance Group in January 2004. In addition, costs during the six months included discretionary bonuses of approximately $658 thousand. Marketing costs were 30.8% higher during the six months ended March 31, 2005 due to additional marketing campaigns and higher customer new account incentives paid. The acquisition of the Kimbre ll Insurance Group also resulted in an increase in amortization of intangibles of $51 thousand, or 26.7%, during the six months ended March 31, 2005 compared with the comparable six months ended March 31, 2004.
Income Tax Expense
During the second quarter of fiscal 2005 the Company's effective tax rate approximated 36.2% as compared to 35.6% during the second quarter of fiscal 2004.
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
Accounting for Prescription-Drug Subsidy
On December 8, 2003, the President signed the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the "Act") into law. The Act introduces a voluntary prescription drug benefit under Medicare as well as a federal subsidy to sponsors of retiree health care plans that provide at least an actuarially equivalent benefit. The Financial Accounting Standards Board (FASB) issued a Staff Position, FAS 106-2, on May 9, 2004, which was effective for the first interim or annual reporting period beginning after June 15, 2004. The Company adopted FAS 106-2 effective
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July 1, 2004. The Company believes that the drug benefit under its postretirement benefit plan is actuarially equivalent to Medicare part D and that it will qualify for the subsidy starting in 2006.
RECENTLY ISSUED ACCOUNTING PRONOUCEMENTS
Accounting for Stock-Based Compensation
In December 2004, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment ("FAS No. 123(R)"). FAS No. 123(R) is a revision of FASB Statement No. 123 ("FAS No. 123"), Accounting for Stock-Based Compensation. This Statement supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and its related implementation guidance. FAS No.123(R) establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. It also addresses transactions in which an entity incurs liabilities in exchange for goods and services that are based on the fair value of the entity's equity instruments or that may be settled by the issuance of those equity instruments. This Statement focuses primarily on accounting for transactions in which an entity obtains employee services in sha re-based transactions. FAS No. 123(R) does not change the accounting guidance for share-based payment transactions with parties other than employees provided in FASB No. 123 as originally issued and EITF Issue No. 96-18, "Accounting for Equity Instruments That are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services." This statement does not address the accounting for employee share ownership plans, which are subject to AICPA Statement of Position 93-6, Employers' Accounting for Employee Stock Ownership Plans.
The Company will be required to adopt FAS No. 123(R) effective October 1, 2005. The Company is in the process of analyzing the complex provisions of FAS No. 123(R) and the impact that FAS No. 123(R) will have on its results of operations, including the effects of various transition rules. See Note J, Stock-Based Compensation, for a discussion of the Company's current method of accounting for stock-based compensation.
The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments
In March 2004, the FASB issued EITF No. 03-1 ("EITF 03-1"), "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments," which provided guidance for evaluating whether an investment is other-than-temporarily impaired and its application to investments classified as either available for sale or held to maturity under FASB Statement No. 115, "Accounting for Certain Investments in Debt and Equity Securities," and investments accounted for under the cost or equity method of accounting. In September 2004, the FASB issued FASB Staff Position ("FSP") EITF No. 03-1, a delay of the effective date for the measurement and recognition guidance contained in paragraphs 10-20 of EITF 03-1 until FASB issues final guidance.
Paragraphs 10 through 20 of EITF 03-1 provide guidance on when impairment of debt and equity securities is considered other-than-temporary. This guidance generally states impairment is considered other-than-temporary unless the holder of the security has both the intent and ability to hold the security until the fair value recovers and evidence supporting the recovery outweighs evidence to the contrary. As a result of the effective date of this guidance being delayed the Company has not evaluated the impact of the initial adoption of this guidance on the financial condition or results of operations.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk reflects the risk of economic loss resulting from adverse changes in market price and interest rates. This risk of loss can be reflected in diminished current market values and/or reduced potential net interest income in future periods.
The Corporation's market risk arises primarily from interest rate risk inherent in its lending, deposit-taking and other funding activities. The structure of the Corporation's loan, investment, deposit and borrowing portfolios is such that a significant increase in interest rates may adversely impact net market values and net interest income. The Corporation does not maintain a trading account nor is the Corporation subject to currency exchange risk or commodity price risk. Responsibility for monitoring interest rate risk rests with the Asset/Liability Management Committee ("ALCO"), which is comprised of senior management. ALCO regularly reviews the Corporation's interest rate risk position and adopts balance sheet strategies that are intended to optimize net interest income while maintaining market risk within a set of Board-approved guidelines.
As of March 31, 2005, Management believes that there have been no significant changes in market risk as disclosed in the Corporation's Annual Report on Form 10-K for the year ended September 30, 2004.
In addition to regulatory calculations, the Company performs additional analyses assuming that interest rates increase or decrease by specified amounts in equal increments over the next four quarters. Combined with internal assumptions of new business activity and assumptions of changes in product pricing relative to rate changes, these analyses indicate that from a base rate scenario assuming no change in rates a gradual increase of 100 basis points over the next twelve months would decrease net interest income by 3.0%. Should rates gradually decline over the next twelve months by 100 basis points from the base rate scenario, net interest income would increase by .2% over that period.
ITEM 4. CONTROLS AND PROCEDURES
An evaluation was carried out under the supervision and with the participation of the Company's management, including chief executive officer ("CEO") and chief financial officer ("CFO"), of the effectiveness of the Company's disclosure controls and procedures as of March 31, 2005. Based on that evaluation, the Company's management, including the CEO and CFO, has concluded that the Company's disclosure controls and procedures are effective. During the second quarter of fiscal 2005, there was no change in the Company's internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.
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FIRST FINANCIAL HOLDINGS, INC.
PART II - OTHER INFORMATIONItem 1 -- Legal Proceedings
The Company is subject to various legal proceedings and claims arising in the ordinary course of its business. Any litigation is vigorously defended by the Company, and, in the opinion of management based on consultation with external legal counsel, any outcome of such litigation would not materially affect the Company's consolidated financial position or results of operations.
In September 1998, Peoples Federal (a subsidiary of the Company) filed a declaratory judgment action in Georgetown County, which named certain mortgage debtor defendants from a prior foreclosure and others, seeking a judicial determination of claims made by the former mortgage debtors against Peoples Federal as purchaser of the property foreclosed. A final order was issued in October 2001. The ruling resulted in a net money judgment in Peoples Federal's favor for conspiracy to devalue the foreclosed property. There were other rulings pertaining to such issues as declaration of developers' rights, future assessments, restrictive covenants and density designation, which were varied. Both sides appealed. Peoples Federal was consolidated into First Federal on August 30, 2002.
In April 2004, the South Carolina Supreme Court ruled in favor of Peoples Federal. The Court upheld the conspiracy finding, upheld the punitive damages ($600 thousand) awarded to Peoples Federal for the conspiracy, reversed an award of assessments and attorney's fees against Peoples Federal, and ruled Peoples Federal has developer's rights on the foreclosed property under the restrictive covenants as amended. The Court remanded the case for re-determination of the actual damages awarded to Peoples Federal for the conspiracy, due to an apparent double recovery. Peoples Federal was also awarded costs on the appeal as prevailing party.
A petition for rehearing of the appeal filed by the former mortgage debtors and others was denied by the Supreme Court. Following motions on the remand, an order was entered in August 2004, setting the actual conspiracy damage award to Peoples Federal at approximately $455 thousand, plus the $600 thousand punitive damages previously awarded and affirmed on appeal. Motion for reconsideration of that award was denied.
The former mortgage debtors and others also filed motions for supplemental relief for developers' assessments, fees, and costs of approximately $850 thousand, and for further determination of development rights. That motion was denied. A motion to refer the supplemental relief issues to the Special Referee who entered the conspiracy award on remand was also denied and denial of that motion to refer remained under reconsideration until dismissed when any and all claims were released in 2005 upon sale of the foreclosed property. The judgment debtors paid the conspiracy judgment in October 2004. The amount of the payment was approximately $1.25 million and was recorded in other income in the first quarter of fiscal year 2005.
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Item 2 -- Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities
The following table summarizes the total number of shares repurchased by the Company as part of a publicly announced plan or as part of exercising outstanding stock options:
For the Six Months Ended March 31, 2005 Total Number Maximum Number of Shares of Shares that Total Number Average Purchased as May Yet Be of Shares Price paid Part of Publicly Purchased Under Purchased Per Share Announced Plan the Announced Plan 10/1/2004 thru 10/31/2004 1,674 $ 30.60 89,600 11/1/2004 thru 11/30/2004 35,930 31.57 33,583 56,017 12/1/2004 thru 12/31/2004 4,041 32.72 Plan expired 11/30/04
01/01/2005 thru 1/31/2005 02/01/2005 thru 2/28/2005 03/01/2005 thru 3/31/2005 41,645 31.64 33,583 On May 27, 2003, the Company announced that the Board of Directors had authorized a stock repurchase program to acquire up to 650,000 shares of the Company's common stock. On April 20, 2004, the Company announced that the Board of Directors extended the expiration date from March 31, 2004 until November 30, 2004. At the time of expiration the Company had purchased approximately 594 thousand shares under the repurchase program at a total cost of $17.5 million.
On April 29, 2005, the Company announced the approval of a new stock repurchase program to acquire up to 625 thousand shares of common stock. The program will expire June 30, 2006.
In addition to the repurchase program described above, the Company's employee and outside directors stock options plans contain provisions allowing the repurchase of shares as part or the full payment for exercising outstanding options. For the three months ended December 31, 2004, 8,062 shares were repurchased under these provisions.
The Company did not repurchase any shares during the quarter ended March 31, 2005, either as part of a publicly announced plan or from employees and directors.
Item 4 -- Submission of Matters to a Vote of Security Holders
At the 2005 First Financial Annual Meeting of Shareholders held January 27, 2005, there were 10,394,143 shares present in person or in proxy of the 12,292,876 shares of common stock entitled to vote at the Annual Meeting.
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Proposal I -- Election of Directors. The shareholders elected Thomas J. Johnson, James C. Murray, and D. Kent Sharples as directors of the Company for three-year terms ending in 2008. Pursuant to Regulation 14 of the Securities and Exchange Act of 1934, as amended, management solicited proxies for the Annual Meeting and there were no solicitations in opposition to management's nominees. The director nominees received the following votes:
For Withheld Thomas J. Johnson 9,971,345 422,798 James C. Murray 9,992,736 401,407 D. Kent Sharples 9,955,958 438,185 The continuing directors for the Company are: Paula Harper Bethea, Paul G. Campbell, Jr., Ronnie M. Givens, A. Thomas Hood, James L. Rowe and Henry M. Swink.
Proposal II -- Approval of the 2005 Stock Option Plan as adopted by the Board of Directors on October 28, 2004. The Shareholders approved the ratification of the plan with the total votes as follows:
For 6,659,010 Against 941,110 Withheld 107,173 Proposal III -- Approval of the 2005 Performance Equity Plan for Non-Employee Directors as adopted by the Board of Directors on October 28, 2004. The Shareholders approved the ratification of the plan with the total votes as follows:
For 6,840,773 Against 752,755 Withheld 114,054 Item 5 -- Other Information
There was no information required to be disclosed by the Company in a report on Form 8-K during the first quarter of fiscal 2005 that was not so disclosed.
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Item 6 -- Listing of Exhibits.
Exhibit No.
Description of Exhibit
Location
3.1
Certificate of Incorporation, as amended, of Registrant
Incorporated by reference to Exhibit 3 to the Registrant's Quarterly Report on Form 10-Q for the quarter ended December 31, 1993.
3.2
Bylaws, as amended, of Registrant
Incorporated by reference to Exhibit 3 to the Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 1995.
3.4
Amendment to Registrant's Certificate of Incorporation
Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q for the quarter ended December 31, 1997.
3.7
Amendment to Registrant's Bylaws
Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q for the quarter ended December 31, 2003.
3.8
Amendment to Registrant's Bylaws
Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q for the quarter ended December 31, 1997.
3.9
Amendment to Registrant's Bylaws
Incorporated by reference to the Registrant's Form 8-K filed October 29, 2004
3.10
Amendment to Registrant's Bylaws
Incorporated by reference to the Registrant's Form 8-K filed December 1, 2004
3.11
Amendment to Registrant's Bylaws
Incorporated by reference to the Registrant's Form 8-K filed December 1, 2004
4
The Registrant hereby agrees to furnish to the Commission, upon request, the instruments defining the rights of the holders of each issue of long-term debt of the Registrant and its consolidated subsidiaries
N/A
10.3
Employment Agreement with A. Thomas Hood, as amended
Incorporated by reference to the Registrant's Annual Report on Form 10-K for the year ended September 30, 1996.
10.4
Employment Agreement with Charles F. Baarcke, Jr.
Incorporated by reference to the Registrant's Annual Report on Form 10-K for the year ended September 30, 1995.
10.5
Employment Agreement with John L. Ott, Jr.
Incorporated by reference to the Registrant's Annual Report on Form 10-K for the year ended September 30, 1995.
10.6
1990 Stock Option and Incentive Plan
Incorporated by reference to the Registrant's Registration Statement on Form S-8 File No. 33-57855.
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Exhibit No.
Description of Exhibit
Location
10.9
1996 Performance Equity Plan for Non-Employee Directors
Incorporated by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders held on January 22, 1997.
10.10
Employment Agreement with Susan E. Baham
Incorporated by reference to the Registrant's Annual Report on Form 10-K for the year ended September 30, 1996.
10.11
1997 Stock Option and Incentive Plan
Incorporated by reference to the Registrant's Preliminary Proxy Statement for the Annual Meeting of Stockholders held on January 28, 1998.
10.16
2001 Stock Option Plan
Incorporated by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders held on January 31, 2001.
10.17
2004 Outside Directors Stock Options-For-Fees Plan
Incorporated by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders held on January 29, 2004.
10.18
2004 Employee Stock Purchase Plan
Incorporated by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders held on January 29, 2004.
10.19
2005 Stock Option Plan
Incorporated by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders held on January 27, 2005.
10.20
2005 Performance Equity Plan for Non-Employee Directors
Incorporated by reference to the Registrant's Proxy Statement for the Annual Meeting of Stockholders held on January 27, 2005.
31.1
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 by the Chief Executive Officer
Filed herewith
31.2
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 by the Chief Financial Officer
Filed herewith
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Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by the Chief Executive Officer and Chief Financial Officer
Filed herewith
40
FIRST FINANCIAL HOLDINGS, INC.
SIGNATURESPursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
First Financial Holdings, Inc.
Date: May 10, 2005
By:
/s/ Susan E. Baham
Susan E. Baham
Executive Vice President
Chief Financial Officer and Principal Accounting Officer
41