[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2002
OR
[ ] 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 000-22461
PAVILION BANCORP, INC.
(Exact name of registrant as specified in its charter)
|
Michigan (State or other jurisdiction of Incorporation or organization) 135 East Maumee Street Adrian, Michigan (Address of principal executive offices) |
38-3088340 (I.R.S. Employer Identification No.) 49221 (Zip Code) |
517-265-5144; 517-265-3926 (FAX)
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendments to this Form 10-K. X
Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12-b-2). Yes No X .
State the aggregate market value of the voting and nonvoting common equity held by nonaffiliates of the registrant computed by reference to the price at which the common equity was sold, or the average bid and asked prices of such common equity, as of the last business day of the registrant’s most recently completed second quarter.
Aggregate Market Value as of June 30, 2002: $ 32,127,165.50
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.
Common stock outstanding at March7, 2003: 824,880 — shares.
Portions of the Company’s Proxy Statement for the Annual Meeting of Shareholders to be held April 17, 2003 are incorporated by reference into Parts II and III of this report.
Pavilion Bancorp, Inc. (the Company), a bank holding company, which was incorporated in Michigan in 1993, has two wholly-owned bank subsidiaries, Bank of Lenawee and Bank of Washtenaw (the “Banks”). On April 15, 1993, the Company acquired all of the stock of the Bank of Lenawee, a Michigan banking corporation chartered in 1869. On January 1, 2001 the Bank of Lenawee made the real estate origination component of its business a separate entity named Pavilion Mortgage Company. On January 8, 2001 the Company opened a new bank, the Bank of Washtenaw. The new bank is operating the former Saline Michigan branch of the Bank of Lenawee and has opened a new branch and administrative offices in Ann Arbor, Michigan. On April 22, 2002, the Company changed its name from Lenawee Bancorp, Inc. to Pavilion Bancorp, Inc.
Business is concentrated primarily in a single industry segment — commercial banking. Each Bank provides a full range of banking services to individuals, commercial businesses and industries located in its service area. Each Bank maintains diversified loan portfolios, including loans to individuals for home mortgages, automobiles and personal expenditures, and loans to business enterprises for current operations and expansion. Each Bank offers a variety of deposit products, including checking, savings, money market, individual retirement accounts and certificates of deposit.
The principal markets for financial services are the mid-Michigan communities in which the Banks are located and the areas immediately surrounding these communities. The Banks serve these markets through 11 locations in or near their communities. The Banks do not have any material foreign assets or income.
The principal source of revenue is interest and fees on loans. On a consolidated basis, interest and fees on loans accounted for 71% of total revenue in 2002 compared to 77% in 2001. Further reductions in interest rates during 2002 resulted in a significant increase in the volume of loan sale activity and gains on sales of mortgage loans. These gains accounted for 19% of the Company’s total revenue in 2002 as compared to 11% in 2001.
The Banks’ principal competitors are United Bank & Trust, Key Bank, Sky Bank, Standard Federal Bank, and TLC Community Credit Union. With the exception of United Bank & Trust and TLC Community Credit Union, each of these financial institutions has headquarters in larger metropolitan areas, and has significantly greater assets and financial resources than the Company. Based on deposit information as of June 30, 2002, the Bank of Lenawee holds an estimated 19.2 % of the FDIC insured deposits in Lenawee County and the Bank of Washtenaw holds an estimated 1.2 % of the FDIC insured deposits in Washtenaw County. Information as to asset size of competitor financial institutions is derived from publicly available reports filed by and with regulatory agencies.
The following is a summary of certain statutes and regulations affecting the Company and the Banks. This summary is qualified in its entirety by such statutes and regulations. A change in applicable laws or regulations may have a material effect on the Company, the Banks and the business of the Company and the Banks.
Financial institutions and their holding companies are extensively regulated under federal and state law. Consequently, the growth and earnings performance of the Company and the Banks can be affected not only by management decisions and general economic conditions, but also by the statutes administered by, and the regulations and policies of, various governmental regulatory authorities. Those authorities include, but are not limited to, the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”), the FDIC, the Commissioner of the Michigan Office of Financial and Insurance Services (“Commissioner”), the Internal Revenue Service, and state taxing authorities. The effect of such statutes, regulations and policies can be significant, and cannot be predicted with a high degree of certainty.
Federal and state laws and regulations generally applicable to financial institutions and their holding companies regulate, among other things, the scope of business, investments, reserves against deposits, capital levels relative to operations, lending activities and practices, the nature and amount of collateral for loans, the establishment of branches, mergers, consolidations and dividends. The system of supervision and regulation applicable to the Company and the Banks establishes a comprehensive framework for their respective operations and is intended primarily for the protection of the FDIC’s deposit insurance funds, the depositors of the Banks, and the public, rather than shareholders of the Banks or the Company.
Federal law and regulations establish supervisory standards applicable to the lending activities of the Banks, including internal controls, credit underwriting, loan documentation and loan-to-value ratios for loans secured by real property.
General. The Company is a bank holding company and, as such, is registered with, and subject to regulation by, the Federal Reserve Board under the Bank Holding Company Act, as amended (the “BHCA”). Under the BHCA, the Company is subject to periodic examination by the Federal Reserve Board, and is required to file with the Federal Reserve Board periodic reports of its operations and such additional information as the Federal Reserve Board may require.
In accordance with Federal Reserve Board policy, the Company is expected to act as a source of financial strength to the Banks and to commit resources to support the Banks in circumstances where the Company might not do so absent such policy. In addition, if the Commissioner deems a Bank’s capital to be impaired, the Commissioner may require the Bank to restore its capital by a special assessment upon the Company as the Bank’s sole shareholder. If the Company were to fail to pay any such assessment, the directors of the Banks would be required, under Michigan law, to sell the shares of the Bank’s stock owned by the Company to the highest bidder at either a public or private auction and use the proceeds of the sale to restore the Bank’s capital.
Investments and Activities. In general, any direct or indirect acquisition by the Company of any voting shares of any bank which would result in the Company’s direct or indirect ownership or control of more than 5% of any class of voting shares of such bank, and any merger or consolidation of the Company with another bank company, will require the prior written approval of the Federal Reserve Board under the BHCA. In acting on such applications, the Federal Reserve Board must consider various statutory factors, including among others, the effect of the proposed transaction on competition in relevant geographic and product markets, and each party’s financial condition, managerial resources, and record of performance under the Community Reinvestment Act.
The merger or consolidation of an existing bank subsidiary of the Company with another bank, or the acquisition by such a subsidiary of assets of another bank, or the assumption of liability by such a subsidiary to pay any deposits in another bank, will require the prior written approval of the responsible Federal depository institution regulatory agency under the Bank Merger Act, based upon a consideration of statutory factors similar to those outlined above with respect to the BHCA. In addition, in certain such cases an application to, and the prior approval of, the Federal Reserve Board under the BHCA and/or the Commissioner under the Michigan Banking Code, may be required.
With certain limited exceptions, the BHCA prohibits any bank company from engaging, either directly or indirectly through a subsidiary, in any activity other than managing or controlling banks unless the proposed non-banking activity is one that the Federal Reserve Board has determined to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. Under current Federal Reserve Board regulations, such permissible non-banking activities include such things as mortgage banking, equipment leasing, securities brokerage, and consumer and commercial finance company operations. Well-capitalized and well-managed bank holding companies may engage de novo in certain types of non-banking activities without prior notice to, or approval of, the Federal Reserve Board, provided that written notice of the new activity is given to the Federal Reserve Board within 10 business days after the activity is commenced. If a bank holding company wishes to engage in a non-banking activity by acquiring a going concern, prior notice and/or prior approval will be required, depending upon the activities in which the company to be acquired is engaged, the size of the company to be acquired and the financial and managerial condition of the acquiring bank holding company.
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Eligible bank holding companies that elect to operate as financial holding companies may engage in, or own shares in companies engaged in, a wider range of nonbanking activities, including securities and insurance activities and any other activity that the Federal Reserve Board, in consultation with the Secretary of the Treasury, determines by regulation or order is financial in nature, incidental to any such financial activity or complementary to any such financial activity and does not pose a substantial risk to the safety or soundness of depository institutions or the financial system generally. The Bank Holding Company Act generally does not place territorial restrictions on the domestic activities of non-bank subsidiaries of bank or financial holding companies. While the Company believes it is eligible to elect to operate as a financial holding company, as of the date of this filing, it has not applied for approval to operate as a financial holding company.
The Company’s common stock is registered under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). It is therefore subject to the information, proxy solicitation, insider trading and other restrictions and requirements of the SEC under the Exchange Act. On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002. The Sarbanes-Oxley Act provides for numerous changes to the reporting, accounting, corporate governance and business practices of companies as well as financial and other professionals who have involvement with the U.S. public markets. The SEC continues to issue new and proposed rules implementing various provisions of the Sarbanes-Oxley Act.
Capital Requirements. The Federal Reserve Board uses capital adequacy guidelines in its examination and regulation of bank holding companies. If capital falls below minimum guidelines, a bank company may, among other things, be denied approval to acquire or establish additional banks or non-bank businesses.
The Federal Reserve Board’s capital guidelines establish the following minimum regulatory capital requirements for bank holding companies: (i) a leverage capital requirement expressed as a percentage of total average assets, and (ii) a risk-based requirement expressed as a percentage of total risk-weighted assets. The leverage capital requirement consists of a minimum ratio of Tier 1 capital (which consists principally of shareholders’ equity) to total average assets of 3% for the most highly rated companies, with minimum requirements of 4% to 5% for all others. The risk-based requirement consists of a minimum ratio of total capital to total risk-weighted assets of 8%, of which at least one-half must be Tier 1 capital.
The risk-based and leverage standards presently used by the Federal Reserve Board are minimum requirements, and higher capital levels will be required if warranted by the particular circumstances or risk profiles of individual banking organizations. The Federal Reserve Board has not advised the Company of any specific minimum Tier 1 Capital leverage ratio applicable to it.
Dividends. The Company is a corporation separate and distinct from the Banks. Most of the Company’s revenues are received by it in the form of dividends paid by the Banks. Thus, the Company’s ability to pay dividends to its shareholders is indirectly limited by statutory restrictions on the Banks’ ability to pay dividends described below. Further, the Federal Reserve Board has issued a policy statement on the payment of cash dividends by bank holding companies. In the policy statement, the Federal Reserve Board expressed its view that a bank holding company experiencing earnings weaknesses should not pay cash dividends exceeding its net income or which can only be funded in ways that weaken the bank holding company’s financial health, such as by borrowing. Additionally, the Federal Reserve Board possesses enforcement powers over bank holding companies and their non-bank subsidiaries to prevent or remedy actions that represent unsafe or unsound practices or violations of applicable statutes and regulations. Among these powers is the ability to proscribe the payment of dividends by banks and bank holding companies. Similar enforcement powers over the Banks are possessed by the FDIC. The “prompt corrective action” provisions of federal law and regulation authorizes the Federal Reserve Board to restrict the payment of dividends by the Company for an insured bank which fails to meet specified capital levels.
In addition to the restrictions on dividends imposed by the Federal Reserve Board, the Michigan Business Corporation Act provides that dividends may be legally declared or paid only if after the distribution a corporation, such as the Company, can pay its debts as they come due in the usual course of business and its total assets equal or exceed the sum of its liabilities plus the amount that would be needed to satisfy the preferential rights upon dissolution of any holders of preferred stock whose preferential rights are superior to those receiving the distribution. The Company’s Articles of Incorporation do not authorize the issuance of preferred stock and there are no current plans to seek such authorization.
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General. The Banks are Michigan banking corporations, are members of the Federal Reserve System and their deposit accounts are insured by the Bank Insurance Fund (the “BIF”) of the FDIC. As Federal Reserve System members and Michigan chartered banks, the Banks are subject to the examination, supervision, reporting and enforcement requirements of the Federal Reserve Board as their primary federal regulator and the Commissioner, as the chartering authority for Michigan banks. These agencies and the federal and state laws applicable to the Banks and their operations, extensively regulate various aspects of the banking business including, among other things, permissible types and amounts of loans, investments and other activities, capital adequacy, branching, interest rates on loans and on deposits, the maintenance of non-interest bearing reserves on deposit accounts, and the safety and soundness of banking practices.
Deposit Insurance. As FDIC-insured institutions, the Banks are required to pay deposit insurance premium assessments to the FDIC. The FDIC has adopted a risk-based assessment system under which all insured depository institutions are placed into one of nine categories and assessed insurance premiums, based upon their respective levels of capital and results of supervisory evaluation. Institutions classified as well-capitalized (as defined by the FDIC) and considered healthy pay the lowest premium while institutions that are less than adequately capitalized (as defined by the FDIC) and considered of substantial supervisory concern pay the highest premium. Risk classification of all insured institutions is made by the FDIC for each semi-annual assessment period.
The Federal Deposit Insurance Act (“FDIA”) requires the FDIC to establish assessment rates at levels which will maintain the Deposit Insurance Fund at a mandated reserve ratio of not less than 1.25% of estimated insured deposits. For several years, the BIF reserve ratio has been at or above the mandated ratio and assessments have ranged from 0% of deposits for institutions in the lowest risk category to .27% of deposits in the highest risk category.
FICO Assessments. The Banks, as members of the BIF, are subject to assessments to cover the payments on outstanding obligations of the Financing Corporation (“FICO”). FICO was created to finance the recapitalization of the Federal Savings and Loan Insurance Corporation, the predecessor to the FDIC’s Savings Association Insurance Fund (the “SAIF”) which insures the deposits of thrift institutions. From now until the maturity of the outstanding FICO obligations in 2019, BIF members and SAIF members will share the cost of the interest on the FICO bonds on a pro rata basis. It is estimated that FICO assessments during this period will be less than 0.025% of deposits.
Commissioner Assessments. Michigan banks are required to pay supervisory fees to the Commissioner to fund the operations of the Commissioner. The amount of supervisory fees paid by a bank is based upon the bank’s total assets, as reported to the Commissioner.
Capital Requirements. The Federal Reserve has established the following minimum capital standards for state-chartered, member banks, such as the Banks: a leverage requirement consisting of a minimum ratio of Tier 1 capital to total average assets of 3% for the most highly-rated banks with minimum requirements of 4% to 5% for all others, and a risk-based capital requirement consisting of a minimum ratio of total capital to total risk-weighted assets of 8%, at least one-half of which must be Tier 1 capital. Tier 1 capital consists principally of shareholders’ equity. These capital requirements are minimum requirements. Higher capital levels will be required if warranted by the particular circumstances or risk profiles of individual institutions. For example, Federal Reserve regulations provide that higher capital may be required to take adequate account of, among other things, interest rate risk and the risks posed by concentrations of credit, nontraditional activities or securities trading activities.
Federal law provides the federal banking regulators with broad power to take prompt corrective action to resolve the problems of undercapitalized institutions. The extent of the regulators’ powers depends on whether the institution in question is “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” or “critically undercapitalized.” Federal regulations define these capital categories as follows:
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Total Tier 1
Risk-Based Risk-Based
Capital Ratio Capital Ratio Leverage Ratio
------------- ------------- --------------
Well capitalized 10% or above 6% or above 5% or above
Adequately capitalized 8% or above 4% or above 4% or above
Undercapitalized Less than 8% Less than 4% Less than 4%
Significantly undercapitalized Less than 6% Less than 3% Less than 3%
Critically undercapitalized -- -- A ratio of tangible
equity to total assets
of 2% or less
As of December 31, 2002, each of the Banks’ ratios exceeded minimum requirements for the well capitalized category.
Depending upon the capital category to which an institution is assigned, the regulators’ corrective powers include: requiring the submission of a capital restoration plan; placing limits on asset growth and restrictions on activities; requiring the institution to issue additional capital stock (including additional voting stock) or to be acquired; restricting transactions with affiliates; restricting the interest rate the institution may pay on deposits; ordering a new election of directors of the institution; requiring that senior executive officers or directors be dismissed; prohibiting the institution from accepting deposits from correspondent banks; requiring the institution to divest certain subsidiaries; prohibiting the payment of principal or interest on subordinated debt; and ultimately, appointing a receiver for the institution.
In general, a depository institution may be reclassified to a lower category than is indicated by its capital levels if the appropriate federal depository institution regulatory agency determines the institution to be otherwise in an unsafe or unsound condition or to be engaged in an unsafe or unsound practice. This could include a failure by the institution, following receipt of a less-than-satisfactory rating on its most recent examination report, to correct the deficiency.
Dividends. Under Michigan law, the Banks are restricted as to the maximum amount of dividends they may pay on their common stock. The Banks may not pay dividends except out of net income after deducting their losses and bad debts. A Michigan state bank may not declare or pay a dividend unless the bank will have surplus amounting to at least 20% of its capital after the payment of the dividend.
As a member of the Federal Reserve System, each of the Banks is required by federal law to obtain the prior approval of the Federal Reserve Board for the declaration or payment of a dividend, if the total of all dividends declared by the Bank’s Board of Directors in any year will exceed the total of (i) the Bank’s retained net income (as defined and interpreted by regulation) for that year plus (ii) the retained net income for the preceding two years, less any required transfers to surplus. Federal law generally prohibits a depository institution from making any capital distribution (including payment of a dividend) or paying any management fee to its holding company if the depository institution would thereafter be undercapitalized. Further, federal regulatory agencies can prohibit a banking institution or bank holding company from engaging in unsafe and unsound business practices and could prohibit payment of dividends if such payment could be deemed an unsafe and unsound business practice.
Insider Transactions. The Banks are subject to certain restrictions imposed by the Federal Reserve Act on any extensions of credit to the Company or its subsidiaries, on investments in the stock or other securities of the Company or its subsidiaries and the acceptance of the stock or other securities of the Company or its subsidiaries as collateral for loans. Certain limitations and reporting requirements are also placed on extensions of credit by each Bank to its directors and officers, to directors and officers of the Company and its subsidiaries, to principal shareholders of the Company, and to “related interests” of such directors, officers and principal shareholders. In addition, federal law and regulations may affect the terms upon which any person becoming a director or officer of the Company or one of its subsidiaries or a principal shareholder of the Company may obtain credit from banks with which the Banks maintain a correspondent relationship.
Safety and Soundness Standards. The federal banking agencies have adopted guidelines to promote the safety and soundness of federally insured depository institutions. These guidelines establish standards for internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, compensation, fees and benefits, asset quality and earnings.
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Investments and Other Activities. Under federal law and regulations, Federal Reserve System member banks and FDIC-insured state banks are prohibited, subject to certain exceptions, from making or retaining equity investments of a type, or in an amount, that are not permissible for a national bank. Federal law, as implemented by regulations, also prohibits state banks and their subsidiaries, subject to certain exceptions, from engaging as principal in any activity that is not permitted for a national bank or its subsidiary, respectively, unless the bank meets, and continues to meet, its minimum regulatory capital requirements and the bank’s primary federal regulator determines the activity would not pose a significant risk to the deposit insurance fund of which the bank is a member. Impermissible investments and activities must be divested or discontinued within certain time frames set by the bank’s primary federal regulator in accordance with federal law. These restrictions are not currently expected to have a material impact on the operations of the Bank.
Consumer Protection Laws. The Banks’ businesses include making a variety of types of loans to individuals. In making these loans, the Banks are subject to State usury and regulatory laws and to various federal statutes, including the privacy of consumer financial information provisions of the Gramm-Leach-Bliley Act and regulations promulgated thereunder, the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the Truth in Lending Act, the Real Estate Settlement Procedures Act, and the Home Mortgage Disclosure Act, and the regulations promulgated thereunder, which prohibit discrimination, specify disclosures to be made to borrowers regarding credit and settlement costs, and regulate the mortgage loan servicing activities of the Banks, including the maintenance and operation of escrow accounts and the transfer of mortgage loan servicing. In receiving deposits, the Banks are subject to extensive regulation under State and federal law and regulations, including the Truth in Savings Act, the Expedited Funds Availability Act, the Bank Secrecy Act, the Electronic Funds Transfer Act, and the Federal Deposit Insurance Act. Violation of these laws could result in the imposition of significant damages and fines upon the Banks and their directors and officers.
Branching Authority. Michigan banks, such as the Banks, have the authority under Michigan law to establish branches anywhere in the State of Michigan, subject to receipt of all required regulatory approvals.
Banks may establish interstate branch networks through acquisitions of other banks. The establishment of de novo interstate branches or the acquisition of individual branches of a bank in another state (rather than the acquisition of an out-of-state bank in its entirety) is allowed only if specifically authorized by state law.
Michigan permits both U.S. and non-U.S. banks to establish branch offices in Michigan. The Michigan Banking Code permits, in appropriate circumstances and with the approval of the Michigan Office of Financial and Insurance Services, Division of Financial Institutions, (1) acquisition of Michigan banks by FDIC-insured banks, savings banks or savings and loan associations located in other states, (2) sale by a Michigan bank of branches to an FDIC-insured bank, savings bank or savings and loan association located in a state in which a Michigan bank could purchase branches of the purchasing entity, (3) consolidation of Michigan banks and FDIC-insured banks, savings banks or savings and loan associations located in other states having laws permitting such consolidation, (4) establishment of branches in Michigan by FDIC-insured banks located in other states, the District of Columbia or U.S. territories or protectorates having laws permitting a Michigan bank to establish a branch in such jurisdiction, and (5) establishment by foreign banks of branches located in Michigan.
Item 2. Properties.
The Bank of Lenawee’s main office is located in Adrian and it serves other communities with branch offices in Hudson, Morenci, Tecumseh and Waldron. The Bank of Washtenaw’s main office is located in Saline and it has a branch office and an administrative office in Ann Arbor. The Banks’ offices are located throughout Lenawee County, in the southeastern portion of Hillsdale County, and the southern portion of Washtenaw County. The area in which the Banks’ offices are located, which is basically southeastern Michigan, has historically been rural in character but now has a growing urban population as residents choose the area to live in while commuting to Ann Arbor, Detroit, and Toledo. The populations of the cities in which the Banks’ offices are located are per the 2000 U.S. Census were as follows: Adrian—21,574; Ann Arbor—114,024; Hudson—2,499; Morenci—2,398; Saline—8,034; Tecumseh—8,574; and Waldron—590; The main office of Bank of Lenawee is a three story 40,768 square foot building constructed in 1906. The other offices of the Banks range in size from 1,200 square feet to 4,000 square feet. The majority of the offices of Bank of Lenawee are owned and those of Bank of Washtenaw are leased.
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There are no legal proceedings except routine litigation incidental to the ordinary course of business. Although litigation is subject to many uncertainties and the ultimate exposure with respect to many of these matters cannot be ascertained, management does not believe the ultimate outcome of these matters will have a material effect on the financial condition of the Company or the Banks, individually or in the aggregate.
Item 4. Submission of Matters to Vote of Security Holders.
No matters were submitted to a vote of the Company’s security holders during the fourth quarter of 2002.
The following information concerning executive officers of the Company has been omitted from the Registrant’s proxy statement pursuant to Instruction 3 to Regulation SK, Item 401(b).
Officers of the Company are appointed annually by the Board of Directors of the Company and serve at the pleasure of the Board of Directors. Information concerning these executive officers is given below:
Douglas L. Kapnick (age 59) was elected Chairman of the Board of the Company in September of 2000 and has been a director of Bank of Lenawee since 1982 and has been a director of the holding company since it was formed in 1993. Mr. Kapnick was elected interim President and Chief Executive Office of the Company and the Bank of Lenawee effective October 31, 2002, when Patrick K. Gill resigned those positions. Mr. Kapnick is President of Kapnick & Company a full service insurance broker with offices in Adrian and Southfield employing a total of approximately 85 persons.
Pamela S. Fisher (age 53) is the Corporate Secretary of the Company and Senior Vice President of Administrative Services of the Bank of Lenawee. Ms. Fisher joined the Bank of Lenawee in 1979 and has served the bank in various capacities. She was elected as Senior Vice President of Bank of Lenawee in 2000 and was elected Secretary of the Company in 1995.
Loren V. Happel (age 47) is the Company’s Chief Financial Officer and Senior Vice President and Chief Financial Officer of the Bank of Lenawee. Mr. Happel joined the Company and Bank of Lenawee in December of 1994. At that time he was appointed Treasurer of the Company and First Vice President and Chief Financial Officer of Bank of Lenawee.
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The information under the caption “COMMON STOCK INFORMATION” at page 43 of the Company’s 2002 Annual Report to shareholders, is here incorporated by reference to Exhibit 13.
Item 6. Selected Financial Data.
The information under the caption “SELECTED FINANCIAL DATA” at page 2 of the Company’s 2002 Annual Report to shareholders, is here incorporated by reference to Exhibit 13.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The information under the captions “MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS” at pages 3 through 11 of the Company’s 2002 Annual Report to shareholders, is here incorporated by reference to Exhibit 13.
The information under the captions “MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS” at pages 11 through 14 of the Company’s 2002 Annual Report to shareholders, is here incorporated by reference to Exhibit 13.
The financial statements, notes and report of independent auditors included in the Company’s 2002 Annual Report to shareholders, is here incorporated by reference to Exhibit 13.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None
Item 10. Directors and Executive Officers of the Registrant.
Information with respect to the Company’s Executive Officers is included in this report in Part I. The information with respect to Directors of the Company, set forth under the caption “Information About Directors and Nominees” on pages 8 through 10 of the Company’s definitive proxy statement, as filed with the Commission and dated March 18, 2003, relating to the April 17, 2003 Annual Meeting of Shareholders, is incorporated herein by reference.
Item 11. Executive Compensation.
The information set forth under the caption “COMPENSATION OF EXECUTIVE OFFICERS” on page 11 through 12 of the Company’s definitive proxy statement, as filed with the Commission and dated March 18, 2003, relating to the April 18, 2003 Annual Meeting of Shareholders, is incorporated herein by reference.
The information set forth under the caption “VOTING SECURITIES AND BENEFICIAL OWNERSHIP OF MANAGEMENT AND OTHERS” on page 7 through 8 of the Company’s definitive proxy statement, as filed with the Commission and dated March 18, 2003, relating to the April 17, 2003 Annual Meeting of Shareholders, is incorporated herein by reference.
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Securities Authorized for Issuance Under Equity Compensation Plans. The Company had the following equity compensation plans at December 31, 2002:
Number of securities
remaining available for
future issuance under
equity compensation
Number of securities to Weighted-average plans (excluding
be issued upon exercise exercise price of securities reflected in
of outstanding options outstanding options column (1))
---------------------- ------------------- -----------
Plan Category (1) (2) (3)
------------- --- --- ---
Equity compensation
plans approved by
security holders 38,760 $36.94 37,096
Equity compensation
plans not approved by
security holders none none none
---------------------------- ---------------------------- ----------------------------
Total 38,760 $36.94 37,096
---------------------------- ---------------------------- ----------------------------
These equity compensation plans are more fully described in Note 12 to the Consolidated Financial Statements.
The information set forth under the caption “CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS” on page 14 of the Company’s definitive proxy statement, as filed with the Commission and dated March 18, 2003, relating to the April 17, 2003 Annual Meeting of Shareholders, is incorporated herein by reference.
(a) Evaluation of Disclosure Controls and Procedures.
The Company’s Chief Executive Officer and Chief Financial Officer, after evaluating the effectiveness of the Company’s disclosure controls and procedures (as defined in Exchange Act Rules 13a-14(c) and 15d-14(c)) as of a date within 90 days of the filing date of this Form 10-K Annual Report (the “Evaluation Date”), have concluded that as of the Evaluation Date, the Company’s disclosure controls and procedures were adequate and effective to ensure that material information relating to the Company would be made known to them by others within the Company, particularly during the period in which this Form 10-K Annual Report was being prepared.
(b) Changes in Internal Controls.
There were no significant changes in the Company’s internal controls or in other factors that could significantly affect internal controls subsequent to the date of the most recent evaluation, nor any significant deficiencies or material weaknesses in such internal controls requiring corrective actions. As a result, no corrective actions were taken.
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| (a) | 1. |
Financial Statements The following consolidated financial statements of the Company and Report of Crowe Chizek and Company LLP, Independent Auditors, are incorporated by reference under Item 8 “Financial Statements and Supplementary Data” of this document: Consolidated Balance Sheets Consolidated Statements of Income Consolidated Statements of Changes in Shareholders' Equity Consolidated Statements of Cash Flows Notes to Consolidated Financial Statements Report of Crowe Chizek and Company LLP, Independent Accountants |
| 2. |
Financial Statement Schedules Not applicable |
|
| 3. |
Exhibits (Numbered in accordance with Item 601 of Regulation S-K) The Exhibit Index is located on the final page of this report on Form 10-K. |
|
| (b) | Reports on Form 8-K | |
|
The following reports on Form 8-K were filed during the fourth quarter of the year ended December 31, 2002: |
||
| 1. |
Report dated October 31, 2002, reporting the resignation of the Registrant's President and CEO. |
|
| 2. | Report dated October 15, 2002, reporting that Douglas L. Kapnick would serve as Interim Chairman and CEO of the Registrant. | |
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Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, dated March 18, 2003.
|
PAVILION BANCORP, INC. /s/ Douglas L. Kapnick Douglas L. Kapnick Chairman and Chief Executive officer /s/ Loren V. Happel Loren V. Happel Chief Financial Officer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Each director of the Registrant, whose signature appears below, hereby appoints Douglas L. Kapnick and Loren V. Happel, and each of them severally, as his or her attorney-in-fact, to sign in his or her name and on his or her behalf, as a director of the Registrant, and to file with the Commission any and all Amendments to this Report on Form 10-K.
| Signature |
|
Date |
| /s/ Allan F. Brittain
Allan F. Brittain |
March 18, 2003 | |
| /s/ Fred R. Duncan
Fred R. Duncan |
March 18, 2003 | |
| /s/ Edward J. Engle, Jr.
Edward J. Engle, Jr. |
March 18, 2003 | |
| /s/ William R. Gentner
William R. Gentner |
March 18, 2003 | |
| /s/ Douglas L. Kapnick
Douglas L. Kapnick |
March 18, 2003 | |
| /s/ Emory M. Schmidt
Emory M. Schmidt |
March 18, 2003 | |
| /s/ J. David Stutzman
J. David Stutzman |
March 18, 2003 |
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I, Douglas L. Kapnick, certify that:
| 1. | I have reviewed this annual report on Form 10-K of Pavilion Bancorp, Inc.; |
| 2. | Based on my knowledge, this annual report does not contain any untrue statement of material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; |
| 3. | Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this Annual Report; |
| 4. | The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: |
| (a) | designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; |
| (b) | evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and |
| (c) | presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; |
| 5. | The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function): |
| (a) | all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and |
| (b) | any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and |
| 6. | The registrant’s other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. |
Date: March 18, 2003
| /s/ Douglas L. Kapnick
Douglas L. Kapnick Chairman and Chief Executive Officer |
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I, Loren V. Happel, certify that:
| 1. | I have reviewed this annual report on Form 10-K of Pavilion Bancorp, Inc.; |
| 2. | Based on my knowledge, this annual report does not contain any untrue statement of material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; |
| 3. | Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this Annual Report; |
| 4. | The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: |
| (a) | designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; |
| (b) | evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and |
| (c) | presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; |
| 5. | The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function): |
| (a) | all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and |
| (b) | any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and |
| 6. | The registrant’s other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. |
Date: March 18, 2003
| /s/ Loren V. Happel
Loren V. Happel Chief Financial Officer |
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The following exhibits are filed herewith, indexed according to the applicable assigned number:
| Exhibit Number |
| 13 | Rule 14a-3 2002 Annual Report to Security Holders (This report, except for those portions which are expressly incorporated by reference in this filing, is furnished for the information of the Securities and Exchange Commission and is not deemed “filed” as part of this filing). |
| 21 | Subsidiaries of Registrant |
| 23 | Consent of Crowe, Chizek and Company, LLP. - Independent Public Accountants. |
| 24 | Powers of Attorney. Contained on the signature page of this report. |
| 99.1 | Certificate of Chief Executive Officer of Pavilion Bancorp, Inc. pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| 99.2 | Certificate of Chief Financial Officer of Pavilion Bancorp, Inc. pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
The following exhibits, indexed according to the applicable assigned number, were previously filed by the Registrant and are incorporated by reference in this Form 10-K Annual Report.
| Exhibit Number |
| 3.1 | Articles of Incorporation of the Registrant are incorporated by reference to Exhibit 3.1 of the Registrant’s Registration Statement on Form 10, as amended. |
| 3.2 | Amendment to Articles of Incorporation of Registrant incorporated by reference to Exhibit 3 of the Registrant’s Report on Form 10-Q for the quarter ended March 31, 2002. |
| 3.3 | Bylaws of the Registrant are incorporated by reference to Exhibit 3.2 of the Registrant's Registration Statement on Form 10, as amended. |
| 4 | Form of Registrant’s Stock Certificate is incorporated by reference to Exhibit 4 of the Registrant’s Registration Statement on Form 10, as amended. |
| 10 | 2001 Stock Option Plan, incorporated by reference to Appendix A to the Registrant’s Definitive Proxy Statement filed with respect to its April 18, 2001 annual meeting of shareholders. |
| 10.1 | 1996 Stock Option Plan, incorporated by reference to Exhibit 10.1 to the Registrant's Registration Statement filed on Form 10, as amended. |
| 10.2 | Employment Agreement dated February 22, 1999, and amended February 22, 2000, between Bank of Lenawee and Patrick K. Gill, incorporated by reference to Exhibit 10.2 of the Registrant’s Registration Statement on Form 10, as amended. |
| 10.3 | Supplemental Executive Retirement Agreement dated December 19, 1997, between
Bank of Lenawee and Allan W. Brittain, incorporated by reference to the
Registrant’s Registration Statement on Form 10, as amended. |
| 10.4 | Consulting Agreement dated January 1, 1998, between Bank of Lenawee and Allan W. Brittain, incorporated by reference to Registrant’s Registration Statement on Form 10, as amended. |
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This 2002 Annual Report contains audited financial statements and a detailed financial review. This is Pavilion Bancorp’s 2002 annual report to shareholders. Although attached to our proxy statement, this report is not part of our proxy statement, is not deemed to be soliciting material, and is not deemed to be filed with the Securities and Exchange Commission (the “SEC”) except to the extent that it is expressly incorporated by reference in a document filed with the SEC.
The 2002 Summary Annual Report to Shareholders accompanies this proxy statement. This report presents information concerning the business and financial results of Pavilion Bancorp in a format and level of detail that we believe shareholders will find useful and informative. Shareholder who would like to receive even more detailed information than that contained in this 2002 Annual Report are invited to request our Annual Report on Form 10-K.
Pavilion Bancorp, Inc.‘s Form 10-K Annual Report to the Securities and Exchange Commission will be provided to any shareholder without charge upon written request. Requests should be addressed to Pavilion Bancorp, Inc., Attention: Pamela S. Fisher, 135 East Maumee Street, Adrian, Michigan 49221.
PAVILION BANCORP, INC.
CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002 and 2001
CONTENTS
| SELECTED FINANCIAL DATA............................................................................................................................ | 2 |
| MANAGEMENT'S DISCUSSION AND ANALYSIS............................................................................................ | 3 |
| MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING......................................................... | 16 |
| REPORT OF INDEPENDENT AUDITORS......................................................................................................... | 17 |
| CONSOLIDATED FINANCIAL STATEMENTS | |
| CONSOLIDATED BALANCE SHEETS.......................................................................................................... | 18 |
| CONSOLIDATED STATEMENTS OF INCOME.......................................................................................... | 19 |
| CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY................................. | 20 |
| CONSOLIDATED STATEMENTS OF CASH FLOWS................................................................................. | 21 |
| NOTES TO CONSOLIDATED FINANCIAL STATEMENTS...................................................................... | 22 |
| COMMON STOCK INFORMATION................................................................................................................. | 43 |
SELECTED FINANCIAL DATA
(In thousands, except
per share data)
2002 2001 2000 1999 1998
For the Year:
Total interest income $ 19,182 $ 21,012 $ 20,851 $ 17,923 $ 17,517
Total interest expense 6,029 8,198 8,710 6,312 7,205
Net interest income 13,153 12,814 12,141 11,611 10,312
Provision for loan losses 953 388 30 2,560 239
Noninterest income 5,975 4,151 2,064 2,237 2,850
Noninterest expense 13,993 12,182 9,414 8,994 8,913
Income before income taxes 4,182 4,395 4,761 2,294 4,010
Net income 2,855 3,043 3,205 1,563 2,660
Per Share Data:
Basic earnings per share $ 3.39 $ 3.58 $ 3.75 $ 1.83 $ 3.13
Diluted earnings per share 3.37 3.54 3.71 1.83 3.12
Cash dividends declared per share .86 .80 .94 .75 .67
Shareholders' equity and net ESOP obligation per share 35.09 33.01 29.91 26.72 26.26
Shareholders' equity per share 30.16 27.77 23.90 21.64 21.92
At Year-End:
Total assets $287,286 $278,277 $259,747 $ 239,904 $ 220,414
Loans receivable 235,770 214,749 214,512 197,308 158,487
Allowance for loan losses 2,660 2,200 2,287 4,646 2,182
Deposits 241,720 235,407 224,143 199,206 185,891
Borrowed funds 8,635 7,394 7,936 16,177 10,626
Shareholders' equity and net ESOP obligations 29,170 28,007 25,467 22,775 22,345
Shareholders' equity 25,059 23,563 20,353 18,449 18,648
Financial:
Net interest income to average earning assets 5.12% 5.09% 5.26% 5.66% 5.07%
Return on average shareholders' equity and
net ESOP obligation 9.94 11.58 13.29 6.65 12.46
Return on average shareholders' equity 11.66 14.14 16.59 8.02 14.76
Return on average assets 1.02 1.12 1.28 .70 1.21
Tier 1 leverage ratio 12.00 11.90 9.90 9.90 9.90
Dividend payout ratio 25.37 22.35 25.07 40.98 21.41
Average shareholders' equity and net ESOP
obligation to average total assets 10.26 9.66 9.60 10.52 9.72
Average shareholders' equity to average total assets 8.75 7.91 7.72 8.72 8.21
All per share data has been adjusted to reflect stock splits and stock dividends.
2.
The following discussion provides information about the financial condition and results of operations of Pavilion Bancorp, Inc. It should be read in conjunction with the consolidated financial statements included elsewhere in this Annual Report.
Pavilion Bancorp, Inc. (the Company), a bank holding company, was incorporated in Michigan in 1993. The shareholders elected to change its name to Pavilion Bancorp Inc. from Lenawee Bancorp Inc. on April 18, 2002. The Company holds all of the stock of the Bank of Lenawee, a Michigan banking corporation chartered in 1869, and the Bank of Washtenaw founded by the Company on January 8, 2001.
The business is concentrated primarily in a single industry segment — commercial banking. Each bank provides a full range of banking services to individuals, commercial businesses and industries located in its service area. Each bank maintains diversified loan portfolios, including loans to individuals for home mortgages, automobiles and personal expenditures, and loans to business enterprises for current operations and expansion. Each bank offers a variety of deposit products, including checking, savings, money market, individual retirement accounts and certificates of deposit.
The principal markets for financial services we provide are the mid-Michigan communities in which the banks are located and the areas immediately surrounding these communities. The banks serve these markets through 11 locations in or near their communities. The banks do not have any material foreign assets or income.
The principal source of revenue is interest and fees on loans. On a consolidated basis, interest and fees on loans accounted for 71 % of our total revenue in 2002 compared to 77% in 2001. Lower than normal interest rates during 2002 and 2001 resulted in a significant increase in the volume of mortgage loan sale activity and gains on sales of mortgage loans. These gains accounted for 19 % of our total revenue in 2002 as compared to 11% in 2001.
Net income for the year ended December 31, 2002 was $2,855,342, which was a 6.17% decrease from our 2001 net income of $3,043,072. As a result our basic earnings per share decreased to $3.39 in 2002 from $3.58 in 2001. Diluted earnings per share decreased from $3.54 in 2001 to $3.37 in 2002. Our return on average equity including net ESOP obligation declined from 11.58% in 2001 to 9.94% in 2002.
Total assets grew to $287.3 million in 2002 from $278.3 million in 2001. Our net loan balances increased $20.5 million or 9.62%, an amount consistent with the prior year activity.
The largest component of our operating income is net interest income. Net interest income is the difference between the interest and fees the Company earns on our earning assets and the interest we pay on deposits and other borrowings. A number of factors influence net interest income. These factors include: changes in volume and mix of interest-earning assets and interest-bearing liabilities, government monetary and fiscal policies, national and local market interest rates and customer preference.
Our net interest income was $13.2 million in 2002, an increase of $339,000 over 2001. The 2002 increase in net interest income was primarily the result of decreased funding costs and growth in interest-earning assets. The table below shows the yields earned on our interest-earning assets and our costs of interest-bearing liabilities. The table also reflects our net interest margin for the years ended December 31, 2002, 2001 and 2000.
3.
Average Balance Sheet and Analysis of Net Interest Income
Years ended December 31,
---------------2002------------ -------------2001-------------- -------------2000--------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
(Dollars in thousands)
Interest-earning assets:
Loans receivable $222,017 $17,786 8.01% $217,424 $19,284 8.87% $203,698 $19,268 9.46%
Securities available for sale (1) 26,023 1,127 4.33 24,038 1,253 5.21 21,264 1,168 5.49
Federal funds sold 5,723 88 1.54 6,783 255 3.76 2,708 167 6.17
Federal Home Loan Bank Stock 2,504 161 6.43 2,504 181 7.23 2,504 200 7.99
Interest-bearing balances with
other financial institutions 840 20 2.38 867 40 4.61 782 48 6.14
-------- ------- -------- ------- -------- ------
Total interest-earning assets 257,107 19,182 7.46 251,616 21,013 8.35 230,956 20,851 9.03
Noninterest-earning assets:
Cash and due from financial
institutions 11,684 10,316 8,369
Premises and equipment, net 6,562 6,526 6,333
Other assets 4,646 3,424 5,466
-------- -------- --------
Total assets $279,999 $271,882 $251,124
======== ======== ========
Interest-bearing liabilities:
Interest-bearing demand deposits $ 55,635 647 1.16 $56,113 $ 1,207 2.15 $ 53,156 $ 1,821 3.43%
Savings deposits 27,856 278 1.00 24,389 340 1.39 23,756 358 1.51
Time deposits 106,388 4,441 4.17 115,060 6,233 5.42 97,827 5,675 5.80
Repurchase agreements and other
borrowings 7,811 351 4.49 3,083 86 2.79 3,955 191 4.83
FHLB advances 5,143 312 6.07 5,519 333 6.03 10,637 665 6.25
-------- ------- -------- ------- -------- ------
Total interest-bearing
liabilities 202,833 6,029 2.97 204,164 8,199 4.02 189,331 8,710 4.60
------- ------- ------
Noninterest-bearing liabilities:
Demand deposits 45,681 39,198 35,839
Other liabilities 2,764 2,251 1,846
-------- -------- --------
Total liabilities 251,278 245,613 227,016
Common stock subject to
repurchase obligation in ESOP 4,225 4,756 4,720
Shareholders' equity 24,496 21,513 19,388
-------- -------- --------
Total liabilities and
shareholders' equity $279,999 $271,882 $251,124
======== ======== ========
Net interest income/interest rate
spread $13,153 4.49% $12,814 4.33% $12,141 4.43%
======= ===== ======= ===== ======= =====
Net interest margin (2) 5.12% 5.09% 5.26%
===== ===== =====
Average interest-earning assets to
average interest-bearing liabilities 126.76% 123.24% 121.99%
======= ======= =======
(1)
Interest income on tax-exempt securities has not been adjusted to a taxable
equivalent basis.
(2) Net interest earnings divided by average
interest-earning assets.
4.
Net interest margin is net interest income divided by average earning assets. Our net interest margin increased slightly to 5.12% in 2002 from 5.09% in 2001. During 2001, the Federal Reserve decreased the discount rate by 475 basis points from 6.0% to 1.25%. During 2002, the Federal Reserve decreased the discount rate an additional 50 basis to .75%. As a result, our prime lending rate decreased from 9.5% at December 31, 2000 to 4.75% at December 31, 2001 and then to 4.25% at December 31, 2002. With such a drastic change in interest rates, we have experienced a proportionate decline in momentum of gross revenues from this decrease in the prime lending rate. A large portion of our variable rate business and consumer loan portfolios are tied directly to the prime lending rate. Offsetting the impact of this reduction in interest income on our loan products is the decrease in our costs of local deposit funding. Nearly all funding is from the local markets we serve and our costs of funds decreased from 4.02% in 2001 to 2.97% in 2002.
The following table analyzes the effect of volume and rate changes on interest income and expense for the periods indicated.
---------2002 Compared to 2001------- --------2001 Compared to 2000---------
Amount Amount Net Amount Amount Net
Due to Due to Increase Due to Due to Increase
Volume Rate (Decrease) Volume Rate (Decrease)
------ ---- ---------- ------ ---- ----------
(In thousands)
Interest income
Loans receivable $ 400 $ (1,898) $ (1,498) $ 1,256 $ (1,240) $ 16
Securities available for sale 98 (224) (126) 147 (62) 85
Federal funds sold (35) (132) (167) 173 (85) 88
Federal Home Loan Bank Stock - (20) (20) - (19) (19)
Interest-bearing balances with
financial institutions (1) (19) (20) 5 (13) (8)
--------- --------- --------- -------- -------- ---------
Total interest income 462 (2,293) (1,831) 1,581 (1,419) 162
Interest expense
Interest-bearing deposits
Demand (10) (550) (560) 96 (712) (616)
Savings 44 (106) (62) 9 (27) (18)
Time (443) (1,349) (1,792) 952 (394) 558
Repurchase agreements and
other borrowings 190 75 265 (36) (69) (105)
FHLB advances (23) 2 (21) (310) (22) (332)
--------- --------- --------- -------- -------- ---------
Total interest expense (242) (1,928) (2,170) 711 (1,224) (513)
--------- --------- --------- -------- -------- ---------
Net interest income $ 704 $ (365) $ 339 $ 870 $ (197) $ 673
========= ========= ========= ======== ======== =========
5.
The provision for loan losses is the amount added to the allowance for loan losses to absorb losses that have been incurred. The loan loss provision is based on historical loss experience and individual economic factors, which, in our judgment, deserve current recognition in maintaining an adequate allowance for loan losses balance.
The provision for loan losses was $953,000 in 2002 and $388,000 in 2001. This $565,000 increase in provision for loan losses is representative of the inherent risk associated with additional loan volume combined with necessary dollar coverage of outstanding nonperforming loans. Additional loan growth of $ 21.0 million primarily occurred in commercial loans to small businesses. Nonperforming loans, also primarily small business loans, increased from $1.3 million to $1.6 million.
Noninterest income was $6.0 million in 2002 as compared to $4.2 million in 2001. This represents a 44% increase from 2001.
The largest contributing factor to our 2002 noninterest income growth was a $2.1 million increase in net gains on mortgage loan sales. The historically low interest rates over the course of 2002 continued to expand our mortgage refinancing business. During 2002, we sold $231.4 million of loans in the secondary market, resulting in net gains of $4.8 million. In 2001, we sold $158.3 million of loans in the secondary market, resulting in net gains of $2.7 million. In 2000, we sold $45.0 million of loans resulting in net gains of $652,000. Loan sale gains were partially offset by increased amortization of mortgage servicing rights as a significant portion of our loan servicing portfolio refinanced during the current year.
Contributing further to noninterest income, were increases in our service charges and fees which grew to $1.9 million in 2002 from $1.4 million in 2001. This increase is primarily attributable to the growth of additional deposit customers.
Noninterest expense of $14.0 million in 2002 is an increase of $1.8 million or 15% compared to the noninterest expense of $12.2 million in 2001. A significant amount of the increase is continued organizational expenses associated with opening the Bank of Washtenaw. We increased our staff from 150 full time equivalents at December 31, 2001 to 155 full time equivalents at December 31, 2002. While the staff member increase is 3% over the course of the year, salaries and employee benefits increased 18%. The 18% increase reflects a full year tenure of organizational staff at the Bank of Washtenaw for 2002. Salary expenses also grew as a result of the increased levels of mortgage loan originations and sales. Mortgage originators earned additional amounts of commission payments for higher levels of mortgages sold. Our efficiency ratio (noninterest expense as a percentage of net interest income plus noninterest income) worsened from 71.81% in 2001 to 73.15% in 2002.
6.
Our income tax expense was $1.3 million in 2002 compared to $1.4 million in 2001 and $1.6 million in 2000.
The statutory federal tax rate during 2002, 2001 and 2000 was 34%. Our effective tax rate was lower than the statutory rate in all three years, primarily due to our tax-exempt interest income. Our effective tax rate was 32% in 2002, 31% in 2001, and 33% in 2000.
The following table shows securities by classification as of December 31, 2002 and the amounts and weighted-average yields by maturity period. Securities that are not due at a single maturity date, primarily mortgage-backed securities, are not shown.
---------------------------------------------MATURING------------------------------------------------------
Within After One But After Five But After
One Within Five Within Ten Ten
Year Years Years Years Total
(Dollars in thousands)
Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield
Available For Sale
U.S. Treasuries
and government
agencies - -% $ 18,710 5.36% $ - -% $ - -% $ 18,710 5.36%
State and municipal (1) 961 4.36% 2,395 4.87% 576 5.89% 448 6.75% 4,380 5.08%
---------- ---------- ---------- ---------- ----------
Total $ 961 $ 21,105 $ 576 $ 448 $ 23,090
========== ========== ========== ========== ==========
(1) Yields on tax-exempt securities are computed on a fully taxable-equivalent basis.
Our Asset/Liability Management Committee (Committee) is responsible for developing investment guidelines and strategies. The Committee relies on the expertise of an investment advisor to select appropriate investments for the portfolio. Decisions to purchase securities