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EX-32.2 - EXHIBIT 32.2 - NATIONAL BANK OF INDIANAPOLIS CORPc97633exv32w2.htm
EX-31.2 - EXHIBIT 31.2 - NATIONAL BANK OF INDIANAPOLIS CORPc97633exv31w2.htm
EX-31.1 - EXHIBIT 31.1 - NATIONAL BANK OF INDIANAPOLIS CORPc97633exv31w1.htm
EX-32.1 - EXHIBIT 32.1 - NATIONAL BANK OF INDIANAPOLIS CORPc97633exv32w1.htm
EX-21.00 - EXHIBIT 21.00 - NATIONAL BANK OF INDIANAPOLIS CORPc97633exv21w00.htm
Table of Contents

 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
     
þ   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2009
OR
     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 000-21671
THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
(Exact name of Registrant as Specified in its Charter)
     
Indiana
(State or Other Jurisdiction of
Incorporation or Organization)
 
35-1887991
(I.R.S. Employer Identification No.)
     
107 North Pennsylvania Street
Indianapolis, Indiana

(Address of Principal Executive Offices)
 
46204
(Zip Code)
(317) 261-9000
(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
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No þ
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes o No þ
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 þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
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 the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. þ
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
             
Large accelerated filer o   Accelerated filer þ   Non-accelerated filer o   Smaller reporting company o
        (do not check if a smaller reporting company)    
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
The aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2009, was approximately $59,882,284. The number of shares of the registrant’s Common Stock outstanding March 12, 2010 was 2,307,327.
DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part III of this Report on Form 10-K, to the extent not set forth herein, is incorporated herein by reference to the Registrant’s definitive proxy statement to be filed in connection with the annual meeting of shareholders to be held on June 17, 2010.
 
 

 

 


 

Form 10-K Cross Reference Index
         
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    90  
 
       
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    92  
 
       
    95  
 
       
 Exhibit 21.00
 Exhibit 31.1
 Exhibit 31.2
 Exhibit 32.1
 Exhibit 32.2

 

 


Table of Contents

PART I
Item 1. Business
The Corporation. The National Bank of Indianapolis Corporation (the “Corporation”) was formed as an Indiana corporation on January 29, 1993, for the purpose of forming a banking institution in the Indianapolis, Indiana metropolitan area and holding all of the shares of common stock of such banking institution. The Corporation formed a national banking association named “The National Bank of Indianapolis” (the “Bank”) as a wholly-owned subsidiary.
The Bank opened for business to the public on December 20, 1993. The Bank’s deposits are insured by the FDIC. The Bank currently conducts its business through twelve offices, including its downtown headquarters located at 107 North Pennsylvania Street in Indianapolis, and its neighborhood bank offices located at:
   
8451 Ditch Road in northwestern Marion County;
   
6807 East 82nd Street in northeastern Marion County;
   
Chamber of Commerce Building on North Meridian Street;
   
One America Office Complex in downtown Indianapolis;
   
4930 North Pennsylvania Street in northern Marion County;
   
650 East Carmel Drive in Hamilton County;
   
10590 North Michigan Road in Hamilton County;
   
1689 West Smith Valley Road in Johnson County;
   
2714 East 146th Street in Hamilton County;
   
2410 Harleston Street in Hamilton County; and
   
11701 Olio Road in Hamilton County.
The Bank provides a full range of deposit, credit, and money management services to its targeted market, which is small to medium size businesses, affluent executive and professional individuals, and not-for-profit organizations. The Bank has full trust powers.
Management initially sought to position the Bank to capitalize on the customer disruption, dissatisfaction, and turn-over which it believed had resulted from the acquisition of the three largest commercial banks located in Indianapolis by out-of-state holding companies. Management is now focused on serving the local markets with an organization which is not owned by an out-of-state company and whose decisions are made locally. On December 31, 2009, the Corporation had consolidated total assets of $1.2 billion and total deposits of $1.1 billion.
Management believes that the key ingredients in the growth of the Bank have been a well-executed business plan, an experienced Board of Directors and management team and a seasoned group of bank employees. The basic strategy of the Bank continues to emphasize the delivery of highly personalized services to the target client base with an emphasis on quick response and financial expertise.

 

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Business Plan Overview. The business plan of the Bank is based on being a strong, locally owned bank providing superior service to a defined group of customers, which are primarily corporations with annual sales under $100 million, executives, professionals, and not-for-profit organizations. The Bank provides highly personalized banking services with an emphasis on knowledge of the particular financial needs and objectives of its clients and quick response to customer requests. Because the management of the Bank is located in Indianapolis, all credit and related decisions are made locally, thereby facilitating prompt response. The Bank emphasizes both highly personalized service at the customer’s convenience and non-traditional delivery services that do not require customers to frequent the Bank. This personal contact has become a trademark of the Bank and a key means of differentiating the Bank from other financial service providers.
The Bank offers a broad range of deposit services typically available from most banks and savings associations, including interest and non-interest bearing checking accounts, savings and other kinds of deposits of various types (ranging from daily money market accounts to longer term certificates of deposit). The Bank has emphasized paying competitive interest rates on deposit products.
The Bank also offers a full range of credit services, including commercial loans (such as lines of credit, term loans, refinancings, etc.), personal lines of credit, direct installment consumer loans, credit card loans, residential mortgage loans, construction loans, and letters of credit. Lending strategies focus primarily on commercial loans to small and medium size businesses as well as personal loans to executives and professionals.
The residential mortgage lending area of the Bank offers conforming, jumbo, portfolio, and Community Reinvestment Act mortgage products. The Bank utilizes secondary market channels it has developed for sale of those mortgage products described above. Secondary market channels include FNMA, as well as private investors identified through wholesale entities. Consumer lending is directed to executive and professional clients through residential mortgages, credit cards, and personal lines of credit to include home equity loans.
The Bank has a full-service Wealth Management division, which offers trust, estate, retirement and money management services.
The Market. The Bank derives a substantial proportion of its business from the Indianapolis, Indiana Metropolitan Statistical Area (“Indianapolis MSA”).
Competition. The Bank’s service area is highly competitive. There are numerous financial institutions operating in the Indianapolis MSA marketplace, which provide strong competition to the Bank. In addition to the challenge of attracting and retaining customers for traditional banking services offered by commercial bank competitors, significant competition also comes from savings and loans associations, credit unions, finance companies, insurance companies, mortgage companies, securities and brokerage firms, money market mutual funds, loan production offices, and other providers of financial services in the area. These competitors, with focused products targeted at highly profitable customer segments, compete across geographic boundaries and provide customers increasing access to meaningful alternatives to banking services in nearly all significant products. The increasingly competitive environment is a result primarily of changes in regulations, changes in technology, product delivery systems and the accelerating pace of consolidation among financial service providers. These competitive trends are likely to continue. The Bank’s ability to maintain its historical levels of financial performance will depend in part on the Bank’s ability over time to expand its scope of available financial services as needed to meet the needs and demands of its customers. The Bank competes in this marketplace primarily on the basis of highly personalized service, responsive decision making, and competitive pricing.

 

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Employees. The Corporation and the Bank have 270 employees, of which 261 are full-time equivalent employees. The Bank has employed persons with substantial experience in the Indianapolis MSA banking market. The average banking experience level for all Bank employees is in excess of 15 years.
Lending Activity. The Bank’s lending strategy emphasizes a high quality, well-diversified loan portfolio. The Bank’s principal lending categories are commercial, commercial mortgage, residential mortgage, private banking/personal, and home equity. Commercial loans include loans for working capital, machinery and equipment purchases, premises and equipment acquisitions and other corporate needs. Residential mortgage lending includes loans on first mortgage residential properties. Private banking loans include secured and unsecured personal lines of credit as well as home equity loans.
Commercial loans typically entail a thorough analysis of the borrower and its management, occasional review of its industry, current and projected financial condition and other factors. Credit analysis involves cash flow analysis, collateral, the type of loan, loan maturity, terms and conditions, and various loan-to-value ratios as they relate to loan policy. The Bank typically requires commercial borrowers to have annual financial statements prepared by independent accountants and may require such financial statements to be audited or reviewed by accountants. The Bank generally requires appraisals or evaluations in connection with loans secured by real estate. Such appraisals or evaluations are usually obtained prior to the time funds are advanced. The Bank also often requires personal guarantees from principals involved with closely-held corporate borrowers.
Generally, the Bank requires loan applications or personal financial statements from its personal borrowers on loans that the Bank originates. Loan officers or credit analysts complete a debt to income analysis, an analysis of the borrower’s liquidity, and an analysis of collateral, if appropriate, that should meet established standards of lending policy.
The Bank maintains a comprehensive loan policy that establishes guidelines with respect to all categories of lending. In addition, loan policy sets forth lending authority for each loan officer. The Loan Committee of the Bank reviews all loans in excess of $500 thousand. Any loan in excess of a lending officer’s lending authority, up to $2 million, must receive the approval of the Chief Executive Officer (“CEO”), Chief Lending Officer (“CLO”), Chief Credit Officer, Commercial Lending Manager, or Chief Client Officer. Loans in excess of $2 million but less than $6 million must be approved by the Loan Committee prior to the Bank making such loan. The Board of Directors Loan Policy Committee is not usually required to approve loans unless they are above $6 million. Commercial loans are assigned a numerical rating based on creditworthiness and are monitored for improvement or deterioration. Consumer loans are monitored by delinquency trends. The consumer portfolios are assigned an average weighted risk grade based on specific risk characteristics. Loans are made primarily in the Bank’s designated market area.
REGULATION AND SUPERVISION
Both the Corporation and the Bank operate in highly regulated environments and are subject to supervision and regulation by several governmental regulatory agencies, including the Board of Governors of the Federal Reserve System (the “Federal Reserve”), the Office of the Comptroller of the Currency (“OCC”), and the Federal Deposit Insurance Corporation (the “FDIC”). The laws and regulations established by these agencies are generally intended to protect depositors, not shareholders. Changes in applicable laws, regulations, governmental policies, income tax laws and accounting principles may have a material effect on our business and prospects. The following summary is qualified by reference to the statutory and regulatory provisions discussed.

 

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THE CORPORATION
The Bank Holding Company Act. Because the Corporation owns all of the outstanding capital stock of the Bank, it is registered as a bank holding company under the federal Bank Holding Company Act of 1956 and is subject to periodic examination by the Federal Reserve and required to file periodic reports of its operations and any additional information that the Federal Reserve may require.
Investments, Control, and Activities. With some limited exceptions, the Bank Holding Company Act requires every bank holding company to obtain the prior approval of the Federal Reserve before acquiring another bank holding company or acquiring more than five percent of the voting shares of a bank (unless it already owns or controls the majority of such shares).
Bank holding companies are prohibited, with certain limited exceptions, from engaging in activities other than those of banking or of managing or controlling banks. They are also prohibited from acquiring or retaining direct or indirect ownership or control of voting shares or assets of any company which is not a bank or bank holding company, other than subsidiary companies furnishing services to or performing services for their subsidiaries, and other subsidiaries engaged in activities which the Federal Reserve Board determines to be so closely related to banking or managing or controlling banks as to be incidental to these operations. The Bank Holding Company Act does not place territorial restrictions on the activities of such nonbanking-related activities.
Bank holding companies which meet certain management, capital, and CRA standards may elect to become a financial holding company, which would allow them to engage in a substantially broader range of nonbanking activities than is permitted for a bank holding company, including insurance underwriting and making merchant banking investments in commercial and financial companies.
The Corporation does not currently plan to engage in any activity other than owning the stock of the Bank.
Capital Adequacy Guidelines for Bank Holding Companies. The Federal Reserve, as the regulatory authority for bank holding companies, has adopted capital adequacy guidelines for bank holding companies. Bank holding companies with assets in excess of $500 million must comply with the Federal Reserve’s risk-based capital guidelines which require a minimum ratio of total capital to risk-weighted assets (including certain off-balance sheet activities such as standby letters of credit) of 8%. At least half of the total required capital must be “Tier 1 capital,” consisting principally of common stockholders’ equity, noncumulative perpetual preferred stock, a limited amount of cumulative perpetual preferred stock and minority interest in the equity accounts of consolidated subsidiaries, less certain goodwill items. The remainder (“Tier 2 capital”) may consist of a limited amount of subordinated debt and intermediate-term preferred stock, certain hybrid capital instruments and other debt securities, cumulative perpetual preferred stock, and a limited amount of the general loan loss allowance. In addition to the risk-based capital guidelines, the Federal Reserve has adopted a Tier 1 (leverage) capital ratio under which the bank holding company must maintain a minimum level of Tier 1 capital to average total consolidated assets of 3% in the case of bank holding companies which have the highest regulatory examination ratings and are not contemplating significant growth or expansion. All other bank holding companies are expected to maintain a ratio of at least 1% to 2% above the stated minimum.

 

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Certain regulatory capital ratios for the Corporation as of December 31, 2009, are shown below:
         
Tier 1 Capital to Risk-Weighted Assets
    9.3 %
Total Risk Based Capital to Risk-Weighted Assets
    11.1 %
Tier 1 Leverage Ratio
    6.8 %
Dividends. The Federal Reserve’s policy is that a bank holding company experiencing earnings weakness should not pay cash dividends exceeding its net income or which could only be funded in ways that weaken the bank holding company’s financial health, such as by borrowing. Additionally, the Federal Reserve 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.
Source of Strength. In accordance with Federal Reserve policy, the Corporation is expected to act as a source of financial strength to the Bank and to commit resources to support the Bank in circumstances in which the Corporation might not otherwise do so.
THE BANK
General Regulatory Supervision. The Bank is a national bank organized under the laws of the United States of America and is subject to the supervision of the OCC, whose examiners conduct periodic examinations of national banks. The Bank must undergo regular on-site examinations by the OCC and must submit quarterly and annual reports to the OCC concerning its activities and financial condition.
The deposits of the Bank are insured by the Deposit Insurance Fund (“DIF”) administered by the FDIC and are subject to the FDIC’s rules and regulations respecting the insurance of deposits. See “Deposit Insurance”.
Lending Limits. Under federal law, the total loans and extensions of credit by a national bank to a borrower outstanding at one time and not fully secured may not exceed 15 percent of the bank’s capital and unimpaired surplus. In addition, the total amount of outstanding loans and extensions of credit to any borrower outstanding at one time and fully secured by readily marketable collateral may not exceed 10 percent of the unimpaired capital and unimpaired surplus of the bank (this limitation is separate from and in addition to the above limitation). If a loan is secured by United States obligations, such as treasury bills, it is not subject to the bank’s legal lending limit.
Deposit Insurance. As an FDIC-insured institution, the Bank is required to pay deposit insurance premium assessments to the FDIC. The FDIC has adopted a risk-based assessment system whereby FDIC-insured depository institutions pay insurance premiums at rates based on their risk classification. An institution’s risk classification is assigned based on its capital levels and the level of supervisory concern the institution poses to the regulators. Under the regulations of the FDIC, as presently in effect, insurance assessments range from 0.07% to 0.78%, depending on an institution’s risk classification, as well as its unsecured debt, secured liability and brokered deposits.

 

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Deposits in the Bank are insured by the FDIC up to a maximum amount, which is generally $250 thousand (in effect until December 31, 2013) per depositor subject to aggregation rules. The Bank is also subject to assessment for the Financial Corporation (“FICO”) to service the interest on its bond obligations. The amount assessed on individual institutions, including the Bank, by FICO is in addition to the amount paid for deposit insurance according to the risk-related assessment rate schedule. Increases in deposit insurance premiums or changes in risk classification will increase the Bank’s cost of funds, and it may not be able to pass these costs on to its customers. On December 30, 2009, the Bank paid, along with the regular quarterly risk-based deposit insurance for the third quarter of 2009, a prepaid assessment for the fourth quarter of 2009, and for the three years beginning in 2010 and ending in 2012 in the amount of $6 million.
Transactions with Affiliates and Insiders. The Bank is subject to limitations on the amount of loans or extensions of credit to, or investments in, or certain other transactions with, affiliates and insiders on the amount of advances to third parties collateralized by the securities or obligations of affiliates. Furthermore, within the foregoing limitations as to amount, each covered transaction must meet specified collateral requirements. Compliance is also required with certain provisions designed to avoid the taking of low quality assets. The Bank is also prohibited from engaging in certain transactions with certain affiliates and insiders unless the transactions are on terms substantially the same, or at least as favorable to such institution or its subsidiaries, as those prevailing at the time for comparable transactions with nonaffiliated companies.
Extensions of credit by the Bank to its executive officers, directors, certain principal shareholders, and their related interests must:
   
be made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with third parties; and
   
not involve more than the normal risk of repayment or present other unfavorable features.
Dividends. Under federal law, the Bank may pay dividends from its undivided profits in an amount declared by its Board of Directors, subject to prior approval of the OCC if the proposed dividend, when added to all prior dividends declared during the current calendar year, would be greater than the current year’s net income and retained earnings for the previous two calendar years.
Federal law generally prohibits the Bank from paying a dividend to the Corporation if the depository institution would thereafter be undercapitalized. The FDIC may prevent an insured bank from paying dividends if the Bank is in default of payment of any assessment due to the FDIC. In addition, payment of dividends by a bank may be prevented by the applicable federal regulatory authority if such payment is determined, by reason of the financial condition of such bank, to be an unsafe and unsound banking practice. In addition, the Bank is subject to certain restrictions imposed by the Federal Reserve on extensions of credit to the Corporation, on investments in the stock or other securities of the Corporation, and in taking such stock or securities as collateral for loans.
Branching and Acquisitions. Under federal and Indiana law, the Bank may establish an additional banking location anywhere in Indiana. Federal law also allows bank holding companies to acquire banks anywhere in the United States subject to certain state restrictions, and permits an insured bank to merge with an insured bank in another state without regard to whether such merger is prohibited by state law. Additionally, an out-of-state bank may acquire the branches of an insured bank in another state without acquiring the entire bank if the law of the state where the branch is located permits such an acquisition. Bank holding companies may merge existing bank subsidiaries located in different states into one bank.

 

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Community Reinvestment Act. The Community Reinvestment Act requires that the OCC evaluate the records of the Bank in meeting the credit needs of its local community, including low and moderate income neighborhoods. These factors are also considered in evaluating mergers, acquisitions, and applications to open a branch or facility. Failure to adequately meet these criteria could result in the imposition of additional requirements and limitations on the Bank.
Capital Regulations. The OCC has adopted risk-based capital ratio guidelines to which the Bank is subject. The guidelines establish a systematic analytical framework that makes regulatory capital requirements more sensitive to differences in risk profiles among banking organizations. Risk-based capital ratios are determined by allocating assets and specified off-balance sheet commitments to four risk weighted categories, with higher levels of capital being required for the categories perceived as representing greater risk.
These guidelines divide a bank’s capital into two tiers. The first tier (Tier 1) includes common equity, certain non-cumulative perpetual preferred stock (excluding auction rate issues) and minority interests in equity accounts of consolidated subsidiaries, less goodwill and certain other intangible assets (except mortgage servicing rights and purchased credit card relationships, subject to certain limitations). Supplementary (Tier 2) capital includes, among other items, cumulative perpetual and long-term limited-life preferred stock, mandatory convertible securities, certain hybrid capital instruments, term subordinated debt and the allowance for loan and lease losses, subject to certain limitations, less required deductions. Banks are required to maintain a total risk-based capital ratio of 8%, of which 4% must be Tier 1 capital. The OCC may, however, set higher capital requirements when a bank’s particular circumstances warrant. Banks experiencing or anticipating significant growth are expected to maintain capital ratios, including tangible capital positions, well above the minimum levels.
In addition, the OCC established guidelines prescribing a minimum Tier 1 leverage ratio (Tier 1 capital to adjusted total assets as specified in the guidelines). These guidelines provide for a minimum Tier 1 leverage ratio of 3% for banks that meet certain specified criteria, including that they have the highest regulatory rating and are not experiencing or anticipating significant growth. All other banks are required to maintain a Tier 1 leverage ratio of 3% plus an additional cushion of at least 1% to 2% basis points.
Certain actual regulatory capital ratios under the OCC’s risk-based capital guidelines for the Bank at December 31, 2009, are shown below:
         
Tier 1 Capital to Risk-Weighted Assets
    9.2 %
Total Risk-Based Capital to Risk-Weighted Assets
    10.9 %
Tier 1 Leverage Ratio
    6.7 %
The federal bank regulators, including the OCC, also have issued a joint policy statement to provide guidance on sound practices for managing interest rate risk. The statement sets forth the factors the federal regulatory examiners will use to determine the adequacy of a bank’s capital for interest rate risk. These qualitative factors include the adequacy and effectiveness of the bank’s internal interest rate risk management process and the level of interest rate exposure. Other qualitative factors that will be considered include the size of the bank, the nature and complexity of its activities, the adequacy of its capital and earnings in relation to the bank’s overall risk profile, and its earning exposure to interest rate movements. The interagency supervisory policy statement describes the responsibilities of a bank’s board of directors in implementing a risk management process and the requirements of the bank’s senior management in ensuring the effective management of interest rate risk. Further, the statement specifies the elements that a risk management process must contain.

 

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The OCC has also issued final regulations further revising its risk-based capital standards to include a supervisory framework for measuring market risk. The effect of these regulations is that any bank holding company or bank which has significant exposure to market risk must measure such risk using its own internal model, subject to the requirements contained in the regulations, and must maintain adequate capital to support that exposure. These regulations apply to any bank holding company or bank whose trading activity equals 10% or more of its total assets, or whose trading activity equals $1 billion or more. Examiners may require a bank holding company or bank that does not meet the applicability criteria to comply with the capital requirements if necessary for safety and soundness purposes. These regulations contain supplemental rules to determine qualifying and excess capital, calculate risk-weighted assets, calculate market risk-equivalent assets and calculate risk-based capital ratios adjusted for market risk.
The Bank is also subject to the “prompt corrective action” regulations, which implement a capital-based regulatory scheme designed to promote early intervention for troubled banks. This framework contains five categories of compliance with regulatory capital requirements, including “well capitalized”, “adequately capitalized”, “undercapitalized”, “significantly undercapitalized”, and “critically undercapitalized”. As of December 31, 2009, the Bank was qualified as “well capitalized.” It should be noted that a bank’s capital category is determined solely for the purpose of applying the “prompt corrective action” regulations and that the capital category may not constitute an accurate representation of the bank’s overall financial condition or prospects. The degree of regulatory scrutiny of a financial institution increases, and the permissible activities of the institution decrease, as it moves downward through the capital categories. Bank holding companies controlling financial institutions can be required to boost the institutions’ capital and to partially guarantee the institutions’ performance.
USA Patriot Act. The Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA Patriot Act”) is intended to strengthen the ability of U.S. Law Enforcement to combat terrorism on a variety of fronts. The potential impact of the USA Patriot Act on financial institutions is significant and wide-ranging. The USA Patriot Act contains sweeping anti-money laundering and financial transparency laws and requires financial institutions to implement additional policies and procedures with respect to, or additional measures designed to address, any or all of the following matters, among others: money laundering and currency crimes, customer identification verification, cooperation among financial institutions, suspicious activities and currency transaction reporting.
Sarbanes-Oxley Act of 2002. The Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) represents a comprehensive revision of laws affecting corporate governance, accounting obligations and corporate reporting. Among other requirements, the Sarbanes-Oxley Act established: (i) new requirements for audit committees of public companies, including independence, expertise, and responsibilities; (ii) additional responsibilities regarding financial statements for the chief executive officers and chief financial officers of reporting companies; (iii) new standards for auditors and regulation of audits; (iv) increased disclosure and reporting obligations for reporting companies regarding various matters relating to corporate governance, and (v) new and increased civil and criminal penalties for violation of the securities laws.

 

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Recent Legislative and Regulatory Initiatives to Address Financial and Economic Crises. Congress, the United States Department of the Treasury (“Treasury”) and the federal banking regulators, including the FDIC, have taken broad action since early September 2008 to address volatility in the U.S. banking system and financial markets.
In October 2008, the Emergency Economic Stabilization Act of 2008 (“EESA”) was enacted. The EESA authorizes Treasury to purchase from financial institutions and their holding companies up to $700 billion in mortgage loans, mortgage-related securities and certain other financial instruments, including debt and equity securities issued by financial institutions and their holding companies in a troubled asset relief program (“TARP”). The purpose of TARP is to restore confidence and stability to the U.S. banking system and to encourage financial institutions to increase their lending to customers and to each other. As part of TARP, Treasury has allocated $250 billion towards the Capital Purchase Program. Under the Capital Purchase Program, Treasury will purchase debt or equity securities from participating institutions. Participants in the Capital Purchase Program are subject to executive compensation limits and are encouraged to expand their lending and mortgage loan modifications. The Corporation elected not to participate in this program. EESA also increased FDIC deposit insurance on most accounts from $100 thousand to $250 thousand. This increase is in place until the end of 2013.
Following a systemic risk determination, on October 14, 2008, the FDIC established a Temporary Liquidity Guarantee Program (“TLGP”). The TLGP includes the Transaction Account Guarantee Program (“TAGP”), which provides unlimited deposit insurance coverage, for noninterest-bearing transaction accounts (typically business checking accounts) and certain funds swept into noninterest-bearing savings accounts. As originally enacted, the TAGP expired on December 31, 2009, and banks participating in the TAGP paid a 10 basis points fee (annualized) on the balance of each covered account in excess of $250 thousand.
On October 1, 2009, the FDIC extended the TAGP for six months until June 30, 2010. Any insured depository institution that was participating in the TAGP program as of October 1, 2009, was permitted to continue in the TAGP during the extension period. The annual assessment rate that applies to participating institutions during the extension period is either 15 basis points, 20 basis points or 25 basis points, depending on the “Risk Category” assigned to the institution under the FDIC’s risk-based premium system. Any institution participating in the TAGP program as of October 1, 2009, that desired to opt out of the TAGP extension was required to submit its opt-out election to the FDIC on or before November 2, 2009. The Corporation elected to participate in the TAGP through June 30, 2010.
The TLGP also includes the Debt Guarantee Program (“DGP”), under which the FDIC guaranteed certain senior unsecured debt of FDIC-insured institutions and their holding companies issued on or after October 14, 2008, and not later than June 30, 2009. The guarantee is effective through the earlier of the maturity date or June 30, 2012. The DGP coverage limit is generally 125% of the entity’s eligible debt outstanding on September 30, 2008, and scheduled to mature on or before June 30, 2009, or, for certain insured institutions, 2% of their total liabilities as of September 30, 2008. Depending on the term of the debt maturity, the nonrefundable DGP fee ranges from 50 to 100 basis points (annualized) for covered debt outstanding until the earlier of maturity or June 30, 2012. The DGP is in effect for all eligible entities, unless the entity opted out on or before December 5, 2008. The Corporation did not opt out of the DGP, although it does not have any eligible debt and therefore will not pay any premium associated with the DGP.

 

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On February 17, 2009, President Barack Obama signed the American Recovery and Reinvestment Act of 2009 (“ARRA”), more commonly known as the economic stimulus or economic recovery package. ARRA includes a wide variety of programs intended to stimulate the economy and provide for extensive infrastructure, energy, health and education needs. In addition, ARRA imposes new executive compensation and corporate governance limits on current and future participants in the Treasury’s Capital Purchase Program (“CPP”), which are in addition to those previously announced by Treasury. The new limits remain in place until the participant has redeemed the preferred stock sold to Treasury, which is now permitted under ARRA without penalty and without the need to raise new capital, subject to Treasury’s consultation with the recipient’s appropriate federal regulator. On June 10, 2009, Treasury released an interim final rule, effective June 15, 2009, that provided guidance on the compensation and governance standards for participants in the CPP, and promulgated regulations to implement the restrictions and standards set forth in ARRA. Among other things, Treasury’s final rule and ARRA significantly expanded the executive compensation restrictions previously imposed by EESA.
On May 20, 2009, the Helping Families Save Their Homes Act of 2009, which extended the temporary increase in the standard maximum deposit insurance amount provided by the FDIC to $250 thousand per depositor through December 31, 2013, was signed into law. This extension of the temporary $250 thousand coverage limit (pursuant to EESA) became effective immediately upon the President’s signature. The legislation provides that the standard maximum deposit insurance amount provided by the FDIC will return to $100 thousand on January 1, 2014.
On October 22, 2009, the Federal Reserve issued a comprehensive proposal on incentive compensation policies (the “Incentive Compensation Proposal”) intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. This guidance sets expectations for banking organizations concerning their incentive compensation arrangements and related risk-management, control and governance processes. The Incentive Compensation Proposal, which covers all employees that have the ability to materially affect the risk profile of an organization, either individually or as part of a group, is based upon three primary principles: (i) balanced risk-taking incentives, (ii) compatibility with effective controls and risk management, and (iii) strong corporate governance. Any deficiencies in compensation practices that are identified may be incorporated into the organization’s supervisory ratings, which can affect its ability to make acquisitions or perform other actions. In addition, under the Incentive Compensation Proposal, the Federal Reserve in appropriate circumstances may take enforcement action against a banking organization.
On January 14, 2010, the current administration announced a proposal to impose a fee (the “Financial Crisis Responsibility Fee”) on those financial institutions that benefited from recent actions taken by the U.S. government to stabilize the financial system. If implemented as initially proposed, the Financial Crisis Responsibility Fee will be applied to firms with over $50 billion in consolidated assets, and, therefore, by its terms would not apply to the Corporation. The Financial Crisis Responsibility Fee would be collected by the Internal Revenue Service and would be approximately fifteen basis points, or 0.15%, of an amount calculated by subtracting a covered institution’s Tier 1 capital and FDIC-assessed deposits (and/or an adjustment for insurance liabilities covered by state guarantee funds) from such institution’s total assets. The Financial Crisis Responsibility Fee, if implemented as proposed by the current administration, would go into effect on June 30, 2010, and remain in place for at least ten years. The U.S. Treasury would be asked to report after five years on the effectiveness of the Financial Crisis Responsibility Fee as well as its progress in repaying projected losses to the U.S. government as a result of TARP. If losses to the U.S. government as a result of TARP have not been recouped after ten years, the Financial Crisis Responsibility Fee would remain in place until such losses have been recovered.

 

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Other Regulations
Federal law extensively regulates other various aspects of the banking business such as reserve requirements. Current federal law also requires banks, among other things to make deposited funds available within specified time periods. In addition, with certain exceptions, a bank and a subsidiary may not extend credit, lease or sell property or furnish any services or fix or vary the consideration for the foregoing on the condition that (i) the customer must obtain or provide some additional credit, property or services from, or to, any of them, or (ii) the customer may not obtain some other credit, property or service from a competitor, except to the extent reasonable conditions are imposed to assure the soundness of credit extended.
Interest and other charges collected or contracted by the Bank are subject to state usury laws and federal laws concerning interest rates. The Bank’s loan operations are also subject to federal and state laws applicable to credit transactions, such as the:
   
Truth-In-Lending Act and state consumer protection laws governing disclosures of credit terms and prohibiting certain practices with regard to consumer borrowers;
   
Home Mortgage Disclosure Act of 1975, requiring financial institutions to provide information to enable the public and public officials to determine whether a financial institution is fulfilling its obligation to help meet the housing needs of the community it serves;
   
Equal Credit Opportunity Act and other fair lending laws, prohibiting discrimination on the basis of race, creed or other prohibited factors in extending credit;
   
Fair Credit Reporting Act of 1978 and Fair and Accurate Credit Transactions Act of 2003, governing the use and provision of information to credit reporting agencies;
   
Fair Debt Collection Practices Act, governing the manner in which consumer debts may be collected by collection agencies; and rules and regulations of the various federal agencies charged with the responsibility of implementing such federal laws.
The deposit operations of the Bank also are subject to the:
   
Customer Information Security Guidelines. The federal bank regulatory agencies have adopted final guidelines (the “Guidelines”) for safeguarding confidential customer information. The Guidelines require each financial institution, under the supervision and ongoing oversight of its Board of Directors, to create a comprehensive written information security program designed to ensure the security and confidentiality of customer information, protect against any anticipated threats or hazards to the security or integrity of such information; protect against unauthorized access to or use of such information that could result in substantial harm or inconvenience to any customer; and implement response programs for security breaches.
   
Electronic Funds Transfer Act and Regulation E. The Electronic Funds Transfer Act, which is implemented by Regulation E, governs automatic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking service.
   
Gramm-Leach-Bliley Act, Fair and Accurate Credit Transactions Act. The Gramm-Leach-Bliley Act, the Fair and Accurate Credit Transactions Act, and the implementing regulations govern consumer financial privacy, provide disclosure requirements and restrict the sharing of certain consumer financial information with other parties.

 

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The federal banking agencies have established guidelines which prescribe standards for depository institutions relating to internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, asset quality, earnings, compensation fees and benefits, and management compensation. The agencies may require an institution which fails to meet the standards set forth in the guidelines to submit a compliance plan. Failure to submit an acceptable plan or adhere to an accepted plan may be grounds for further enforcement action.
Enforcement Powers. Federal regulatory agencies may assess civil and criminal penalties against depository institutions and certain “institution-affiliated parties”, including management, employees, and agents of a financial institution, as well as independent contractors and consultants such as attorneys and accountants and others who participate in the conduct of the financial institution’s affairs.
In addition, regulators may commence enforcement actions against institutions and institution-affiliated parties. Possible enforcement actions include the termination of deposit insurance. Furthermore, regulators may issue cease-and-desist orders to, among other things, require affirmative action to correct any harm resulting from a violation or practice, including restitution, reimbursement, indemnifications or guarantees against loss. A financial institution may also be ordered to restrict its growth, dispose of certain assets, rescind agreements or contracts, or take other actions as determined by the regulator to be appropriate.
Effect of Governmental Monetary Policies. The Corporation’s earnings are affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies. The Federal Reserve Bank’s monetary policies have had, and are likely to continue to have, an important impact on the operating results of commercial banks through its power to implement national monetary policy in order, among other things, to curb inflation or combat a recession. The monetary policies of the Federal Reserve have major effects upon the levels of bank loans, investments and deposits through its open market operations in United States government securities and through its regulation of the discount rate on borrowings of member banks and the reserve requirements against member bank deposits. It is not possible to predict the nature or impact of future changes in monetary and fiscal policies.
Available Information
The Corporation files annual reports on Form 10-K, quarterly reports on Form 10-Q, proxy statements and other information with the Securities and Exchange Commission. Such reports, proxy statements and other information can be read and copied at the public reference facilities maintained by the Securities and Exchange Commission at the Public Reference Room, 100 F Street, NE, Washington, D.C. 20549. Information regarding the operation of the Public Reference Room may be obtained by calling the Securities and Exchange Commission at 1-800-SEC-0330. The Securities and Exchange Commission maintains a web site (http://www.sec.gov) that contains reports, proxy statements, and other information. The Corporation’s filings are also accessible at no cost on the Corporation’s website at www.nbofi.com.

 

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Item 1A. Risk Factors
Difficult conditions in the capital markets and the economy generally may materially adversely affect our business and results of operations
Our results of operations are materially affected by conditions in the capital markets and the economy generally. The capital and credit markets have been experiencing extreme volatility and disruption for more than twelve months at unprecedented levels. In many cases, these markets have produced downward pressure on stock prices of, and credit availability to, certain companies without regard to those companies’ underlying financial strength.
Recently, concerns over inflation, energy costs, geopolitical issues, the availability and cost of credit, the U.S. mortgage market and a declining U.S. real estate market have contributed to increased volatility and diminished expectations for the economy and the capital and credit markets going forward. These factors, combined with volatile oil prices, declining business and consumer confidence and increased unemployment, have precipitated an economic slowdown and national recession. In addition, the fixed-income markets are experiencing a period of extreme volatility which has negatively impacted market liquidity conditions. Initially, the concerns on the part of market participants were focused on the subprime segment of the mortgage-backed securities market. However, these concerns have since expanded to include a broad range of mortgage-and asset-backed and other fixed income securities, including those rated investment grade, the U.S. and international credit and interbank money markets generally, and a wide range of financial institutions and markets, asset classes and sectors.
Factors such as consumer spending, business investment, government spending, the volatility and strength of the capital markets, and inflation all affect the business and economic environment and, ultimately, the amount and profitability of our business. In an economic downturn characterized by higher unemployment, lower family income, lower corporate earnings, lower business investment and lower consumer spending, the demand for our financial products could be adversely affected. Adverse changes in the economy could affect earnings negatively and could have a material adverse effect on our business, results of operations and financial condition. The current mortgage crisis and economic slowdown has also raised the possibility of future legislative and regulatory actions in addition to the recent enactment of EESA that could further impact our business. We cannot predict whether or when such actions may occur, or what impact, if any, such actions could have on our business, results of operations and financial condition.
There can be no assurance that actions of the U.S. government, Federal Reserve and other governmental and regulatory bodies for the purpose of stabilizing the financial markets will achieve the intended effect
In response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions, on October 3, 2008, President Bush signed EESA into law. Pursuant to EESA, the Treasury has the authority to utilize up to $700 billion to purchase distressed assets from financial institutions or infuse capital into financial institutions for the purpose of stabilizing the financial markets. The Treasury announced the Capital Purchase Program under EESA pursuant to which it has purchased and will continue to purchase senior preferred stock in participating financial institutions such as the Corporation. There can be no assurance, however, as to the actual impact that EESA, including the Capital Purchase Program and the Treasury’s Troubled Asset Repurchase Program, will have on the financial markets or on us. The failure of these programs to help stabilize the financial markets and a continuation or worsening of current financial market conditions could materially and adversely affect our business, financial condition, results of operations, access to credit or the trading price of our common stock.

 

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The federal government, Federal Reserve and other governmental and regulatory bodies have taken or are considering taking other actions to address the financial crisis. There can be no assurance as to what impact such actions will have on the financial markets, including the extreme levels of volatility currently being experienced. Such continued volatility could materially and adversely affect our business, financial condition and results of operations, or the trading price of our common stock.
We may be required to pay significantly higher Federal Deposit Insurance Corporation (FDIC) premiums in the future
Recent insured institution failures, as well as deterioration in banking and economic conditions, have significantly increased FDIC loss provisions, resulting in a decline in the designated reserve ratio to historical lows. The FDIC expects a higher rate of insured institution failures in the next few years compared to recent years; thus, the reserve ratio may continue to decline. In addition, EESA temporarily increased the limit on FDIC coverage to $250 thousand through December 31, 2013.
Additionally, the FDIC adopted a final rule requiring insured depository institutions to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012. The prepaid assessments for these periods were collected on December 30, 2009, along with the regular quarterly risk-based deposit insurance assessment for the third quarter of 2009. This prepayment does not preclude the FDIC from changing assessment rates or from further revising the risk-based assessment system during the prepayment period or thereafter. As a result, we may also be required to pay significantly higher FDIC insurance assessments premiums in the future.
Recent negative developments in the financial industry and the credit markets may subject us to additional regulation
As a result of the recent global financial crisis, the potential exists for new federal or state laws and regulations regarding lending and funding practices and liquidity standards to be promulgated, and bank regulatory agencies are expected to be active in responding to concerns and trends identified in examinations, including the expected issuance of many formal enforcement orders. Negative developments in the financial industry and the domestic and international credit markets, and the impact of new legislation in response to those developments, may negatively impact our operations by restricting our business operations, including our ability to originate or sell loans, and may adversely impact our financial performance.

 

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The Corporation is subject to interest rate risk
Our earnings and cash flows are largely dependent upon our net interest income. Net interest income is the difference between interest income earned on interest earning assets such as loans and securities and interest expense paid on interest bearing liabilities such as deposits and borrowed funds. Interest rates are highly sensitive to many factors that are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies. Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and securities and the interest we pay on deposits and borrowings, but such changes could also affect (i) our ability to originate loans and obtain deposits and (ii) the fair value of our financial assets and liabilities. Currently, we are in a liability-sensitive position. Therefore, if interest rates increase, the rates paid on deposits and other borrowings will increase at a faster rate than the interest rates received on loans and other investments, resulting in a decline in our net interest margin. If this happens, earnings could be adversely affected. In addition, due to the current low interest rate environment, if interest rates further decrease, our liabilities will reprice downward more quickly than our assets. Because deposit pricing cannot become significantly lower than current levels, our net interest margin could decline in that case as well and earnings could be adversely affected.
The Corporation is subject to lending risk
There are inherent risks associated with the Corporation’s lending activities. These risks include, among other things, the impact of changes in interest rates and changes in the economic conditions in the markets where the Corporation operates as well as those across Indiana and the United States. Increases in interest rates and/or weakening economic conditions could adversely impact the ability of borrowers to repay outstanding loans or the value of the collateral securing these loans. The Corporation is also subject to various laws and regulations that affect its lending activities. Failure to comply with applicable laws and regulations could subject the Corporation to regulatory enforcement action that could result in the assessment of significant civil money penalties against the Corporation.
The Corporation’s allowance for loan losses may be insufficient
The Corporation maintains an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, that represents management’s best estimate of probable incurred losses that are inherent within the existing portfolio of loans. The level of the allowance reflects management’s continuing evaluation of industry concentrations; specific credit risks; loan loss experience; current loan portfolio quality; present economic, political and regulatory conditions and unidentified losses inherent in the current loan portfolio. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires the Corporation to make significant estimates of current credit risks and future trends, all of which may undergo material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of the Corporation’s control, may require an increase in the allowance for loan losses. In addition, bank regulatory agencies periodically review the Corporation’s allowance for loan losses and may require an increase in the provision for loan losses or the recognition of further loan charge-offs, based on judgments different than those of management. In addition, if charge-offs in future periods exceed the allowance for loan losses, the Corporation will need additional provisions to increase the allowance for loan losses. Any increases in the allowance for loan losses will result in a decrease in net income and, possibly, capital, and may have a material adverse effect on the Corporation’s financial condition and results of operations.

 

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The Corporation operates in a highly competitive industry and market area
The Corporation faces substantial competition in all areas of its operations from a variety of different competitors, many of which are larger and may have more financial resources. Such competitors include banks and many other types of financial institutions, including, without limitation, savings and loans, credit unions, finance companies, brokerage firms, insurance companies, factoring companies and other financial intermediaries. The financial services industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting) and merchant banking. Also, technology has lowered barriers to entry and made it possible for non-banks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems. Many of the Corporation’s competitors have fewer regulatory constraints and may have lower cost structures. Additionally, due to their size, many competitors may be able to achieve economies of scale and, as a result, may offer a broader range of products and services as well as better pricing for those products and services than the Corporation can.
The Corporation’s ability to compete successfully depends on a number of factors, including, among other things:
   
The ability to develop, maintain and build upon long-term customer relationships based on top quality service, and safe, sound assets;
   
The ability to expand the Corporation’s market position;
   
The scope, relevance and pricing of products and services offered to meet customer needs and demands;
   
The rate at which the Corporation introduces new products and services relative to its competitors;
   
Customer satisfaction with the Corporation’s level of service; and
   
Industry and general economic trends.
Failure to perform in any of these areas could significantly weaken the Corporation’s competitive position, which could adversely affect the Corporation’s growth and profitability, which, in turn, could have a material adverse effect on the Corporation’s financial condition and results of operations.
The Corporation is subject to extensive government regulation and supervision
The Corporation, primarily through the Bank, is subject to extensive federal regulation and supervision. Banking regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the banking system as a whole, not shareholders. These regulations affect the Corporation’s lending practices, capital structure, investment practices, and growth, among other things. Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. Changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, could affect the Corporation in substantial and unpredictable ways. Such changes could subject the Corporation to additional costs, limit the types of financial services and products the Corporation may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or reputation damage, which could have a material adverse effect on the Corporation’s business, financial condition and results of operations. While the Corporation has policies and procedures designed to prevent any such violations, there can be no assurance that such violations will not occur.

 

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The Corporation’s controls and procedures may fail or be circumvented
Management regularly reviews and updates the Corporation’s internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of the Corporation’s controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on the Corporation’s business, results of operations and financial condition.
The Corporation is dependent on certain key management and staff
The Corporation relies on key personnel to manage and operate its business. The loss of key staff may adversely affect our ability to maintain and manage these portfolios effectively, which could negatively affect our revenues. In addition, loss of key personnel could result in increased recruiting and hiring expenses, which could cause a decrease in the Corporation’s net income.
The Corporation’s information systems may experience an interruption or breach in security
The Corporation relies heavily on communications and information systems to conduct its business. Any failure, interruption or breach in security of these systems could result in failures or disruptions in the Corporation’s customer relationship management, general ledger, deposit, loan and other systems. While the Corporation has policies and procedures designed to prevent or limit the effect of the failure, interruption or security breach of its information systems, there can be no assurance that any such failures, interruptions or security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any failures, interruptions or security breaches of the Corporation’s information systems could damage the Corporation’s reputation, result in a loss of customer business, subject the Corporation to additional regulatory scrutiny, or expose the Corporation to civil litigation and possible financial liability, any of which could have a material adverse effect on the Corporation’s financial condition and results of operations.

 

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The Corporation has opened new offices
The Corporation has placed a strategic emphasis on expanding the Bank’s banking office network. Executing this strategy carries risks of slower than anticipated growth in the new offices, which require a significant investment of both financial and personnel resources. Lower than expected loan and deposit growth in new offices can decrease anticipated revenues and net income generated by those offices, and opening new offices could result in more additional expenses than anticipated and divert resources from current core operations.
The geographic concentration of our markets makes our business highly susceptible to local economic conditions
Unlike larger banking organizations that are more geographically diversified, our operations are currently concentrated in three counties located in central Indiana. As a result of this geographic concentration, our financial results depend largely upon economic conditions in these market areas. Deterioration in economic conditions in our market could result in one or more of the following:
   
an increase in loan delinquencies;
   
an increase in problem assets and foreclosures;
   
a decrease in the demand for our products and services; and
   
a decrease in the value of collateral for loans, especially real estate, in turn reducing customers’ borrowing power, the value of assets associated with problem loans and collateral coverage.
Future growth or operating results may require the Corporation to raise additional capital but that capital may not be available or it may be dilutive
The Corporation is required by federal and state regulatory authorities to maintain adequate levels of capital to support its operations. To the extent the Corporation’s future operating results erode capital or the Corporation elects to expand through loan growth or acquisition it may be required to raise capital. The Corporation’s ability to raise capital will depend on conditions in the capital markets, which are outside of its control, and on the Corporation’s financial performance. Accordingly, the Corporation cannot be assured of its ability to raise capital when needed or on favorable terms. If the Corporation cannot raise additional capital when needed, it will be subject to increased regulatory supervision and the imposition of restrictions on its growth and business. These could negatively impact the Corporation’s ability to operate or further expand its operations through acquisitions or the establishment of additional branches and may result in increases in operating expenses and reductions in revenues that could have a material adverse effect on its financial condition and results of operations.
The Corporation continually encounters technological change
The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and to reduce costs. The Corporation’s future success depends, in part, upon its ability to address the needs of its customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in the Corporation’s operations. Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse impact on the Corporation’s business and, in turn, the Corporation’s financial condition and results of operations.

 

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Item 1B. Unresolved Staff Comments
None.
Item 2. Property
The Bank owns the downtown office building which houses its main office as well as the Corporation’s main office at 107 North Pennsylvania Street, Indianapolis, Indiana. The Bank and the Corporation utilize eight floors of this ten-story building and lease the remainder to other business enterprises.
The Bank opened its first neighborhood bank office in February 1995 at 84th and Ditch Road. The Bank also opened a neighborhood bank office at 82nd and Bash Road on the northeast side of Indianapolis in December 1995. The Bank owns the land and the premises for both of these offices. In March 1996, the Bank opened an office in the Chamber of Commerce building at 320 N. Meridian Street in the downtown Indianapolis area. The Bank leases the premises at this banking office. In March 1998, the Bank opened an office at 4930 North Pennsylvania Street and leased the premises at this banking office until January 2, 2007, when the Bank purchased the property. In June 1999, the Bank opened an office in the One America Office Complex located at One American Square in the downtown Indianapolis area. The Bank leases the premises at this banking office. In September 2000, the Bank opened an office at 650 East Carmel Drive in Carmel. This office is located in Hamilton County, which is north of Indianapolis. The Bank leases the premises at this banking office. In October 2001, the Bank opened an office at 1675 West Smith Valley Road in Greenwood, which was leased. During 2005, the Bank upgraded the Greenwood Bank Office to a full-size, freestanding building located at 1689 West Smith Valley Road. The Bank owns the land and the premises for this office. In January 2005, the Bank opened an office located at 106th and Michigan Road. The Bank owns the premises for this office and leased the land on which the building is constructed. In March 2007, the Bank purchased the property at this location. In January 2008, the Bank opened an office at 2714 East 146th Street in Cool Creek Village, which is located in Hamilton County. The Bank owns the premises for this office and leased the land until it was purchased in March 2008. In June 2007, the Bank purchased land in the Villages of West Clay, located in Hamilton County and opened this location in November 2008. The Bank owns the premises for this office. In June 2008, the Bank purchased land at 116th and Olio Road, located in Hamilton County and opened this location in December 2009. The Bank owns the premises for this office. The Bank has installed four remote ATMs at the following locations: Indianapolis City Market, Parkwood Crossing, Meridian Mark II Office Complex, and Angie’s List. These remote ATMs provide additional banking convenience for the customers of the Bank and generate an additional source of fee income for the Bank.
The Corporation’s properties are in good physical condition and are considered by the Corporation to be adequate to meet the needs of the Corporation and the Bank and the banking needs of the customers in the communities served.

 

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Item 3. Legal Proceedings
Neither the Corporation nor the Bank are involved in any material pending legal proceedings at this time, other than routine litigation incidental to its business.
Item 4. Submission of Matters to a Vote of Security Holders
None.
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Shares of the common stock of the Corporation are not traded on any national or regional exchange or in the over-the-counter market. Accordingly, there is no established market for the common stock. There are occasional trades as a result of private negotiations which do not always involve a broker or a dealer. The table below lists the high and low prices per share, of which management is aware, during 2009 and 2008.
                                 
    Price per Share  
    High     Low  
Quarter   2009     2008     2009     2008  
First Quarter
  $ 50.00     $ 53.93     $ 35.65     $ 52.22  
Second Quarter
  $ 39.67     $ 51.80     $ 35.97     $ 50.92  
Third Quarter
  $ 39.90     $ 52.29     $ 38.97     $ 51.12  
Fourth Quarter
  $ 40.00     $ 52.36     $ 36.74     $ 38.18  
There may have been other trades at other prices of which management is not aware. Management does not have knowledge of the price paid in all transactions and has not verified the accuracy of those prices that have been reported to it. Because of the lack of an established market for the common shares of the Corporation, these prices would not necessarily reflect the prices at which the shares would trade in an active market.
The Corporation had 675 shareholders on record as of March 12, 2010.
The Corporation has not declared or paid any cash dividends on its shares of common stock since its organization in 1993. The Corporation and the Bank anticipate that earnings will be retained to finance the Bank’s growth in the immediate future. Future dividend payments by the Corporation, if any, will be dependent upon dividends paid by the Bank, which are subject to regulatory limitations, earnings, general economic conditions, financial condition, capital requirements, and other factors as may be appropriate in determining dividend policy.

 

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During the fourth quarter of 2009, the Corporation sold common stock pursuant to the exercise of stock options to employees in the aggregate of 3,400 shares for $88 thousand. As previously reported in the Corporation’s prior filings with the Securities and Exchange Commission, the Corporation sold no shares pursuant to the exercise by employees and directors of stock options during the third quarter of 2009, an aggregate of 30,100 shares for $586 thousand during the second quarter of 2009, and an aggregate of 24,600 shares for $471 thousand during the first quarter of 2009. All of these shares were sold in private placements pursuant to Section 4(2) of the Securities Act of 1933.
On November 20, 2008, the Board of Directors adopted a new three-year stock repurchase program for directors and employees. Under the new stock repurchase program, the Corporation may repurchase shares in individually negotiated transactions from time to time as such shares become available and spend up to $8 million to repurchase such shares over the three-year term. Subject to the $8 million limitation, the Corporation intends to purchase shares recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of restricted stock, and limit its acquisition of shares which were not recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of shares of restricted stock to no more than 10,000 shares per year. Under the new repurchase plan, the Corporation purchased 5,514 shares during 2009 and as of December 31, 2009, approximately $5.9 million is still available under the new repurchase plan. The stock repurchase program does not require the Corporation to acquire any specific number of shares and may be modified, suspended, extended or terminated by the Corporation at any time without prior notice. The repurchase program will terminate on December 31, 2011, unless earlier suspended or discontinued by the Corporation.
During 2009, the Corporation repurchased in the aggregate, 49,074 shares for an aggregate cost of approximately $2 million. The following table sets forth the issuer repurchases of equity securities that are registered by the Corporation pursuant to Section 12 of the Securities Exchange Act of 1934 during the fourth quarter of 2009 under new repurchase program:
                                 
                            Maximum Number  
                            (or Approximate  
                            Dollar Value) of  
                    Total Number of     Shares that May Yet  
                    Shares Purchased as     Be Purchased Under  
                    Part of Publicly     the Plans or  
    Total Number of     Average Price Paid     Announced Plans or     Programs (dollars in  
Period   Shares Purchased     per Share     Programs**     thousands)  
10/01/09 – 10/31/09
    2,000     $ 39.66       2,000     $ 5,977  
11/01/09 – 11/30/09
    1,400     $ 39.02       1,400     $ 5,923  
12/01/09 – 12/31/09
    490     $ 36.74       490     $ 5,905  
 
                       
 
       
Total
    3,890       *       3,890          
 
                       
     
*  
The weighted average price per share under the new repurchase program for the period October 2009 through December 2009 was $39.06.
 
**  
All shares repurchased by the Corporation during the fourth quarter 2009 were completed pursuant to the new repurchase program.

 

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Item 6. Selected Financial Data
The following table sets forth certain consolidated information concerning the Corporation for the periods and dates indicated and should be read in connection with, and is qualified in its entirety by, the detailed information and consolidated financial statements and related notes set forth in the Corporation’s audited financial statements included elsewhere herein for the years ended December 31, ($ in 000’s), except per share data:
                                         
    2009     2008     2007     2006     2005  
Consolidated Operating Data:
                                       
Interest income
  $ 47,531     $ 56,377     $ 68,880     $ 61,375     $ 50,847  
Interest expense
    11,313       20,449       35,263       29,565       20,906  
Net interest income
    36,218       35,928       33,617       31,811       29,941  
Provision for loan losses
    11,905       7,400       904       1,086       2,085  
Net interest income after provision for loan losses
    24,313       28,528       32,713       30,725       27,856  
Other operating income
    12,903       11,204       9,834       8,356       7,461  
Other operating expenses
    38,354       34,706       30,800       28,595       25,176  
Income (loss) before taxes
    (1,138 )     5,026       11,747       10,486       10,141  
Federal and state income tax (benefit)
    (1,250 )     1,242       3,856       3,501       3,911  
Net income
    112       3,784       7,891       6,985       6,230  
 
                                       
Consolidated Balance Sheet Data (at end of period):
                                       
Total assets
  $ 1,233,630     $ 1,117,784     $ 1,163,109     $ 1,034,432     $ 928,462  
Total investment securities (including stock in Federal Banks)
    165,368       143,694       137,174       150,137       157,471  
Total loans
    864,722       904,207       830,328       744,538       684,488  
Allowance for loan losses
    (13,716 )     (12,847 )     (9,453 )     (8,513 )     (8,346 )
Deposits
    1,052,065       965,966       1,004,762       875,084       774,316  
Shareholders’ equity
    73,031       72,212       68,938       59,785       51,583  
Weighted basic average shares outstanding
    2,302       2,311       2,328       2,302       2,299  
 
                                       
Per Share Data:
                                       
Diluted net income per common share (1)
  $ 0.05     $ 1.58     $ 3.27     $ 2.90     $ 2.61  
Cash dividends declared
    0       0       0       0       0  
Book value (2)
    31.65       31.48       29.63       25.88       22.11  
 
                                       
Other Statistics and Operating Data:
                                       
Return on average assets
    0.0 %     0.3 %     0.7 %     0.7 %     0.7 %
Return on average equity
    0.2 %     5.3 %     12.3 %     12.7 %     12.8 %
Net interest margin (3)
    3.2 %     3.4 %     3.3 %     3.4 %     3.3 %
Average loans to average deposits
    85.5 %     88.5 %     82.3 %     85.9 %     85.5 %
Allowance for loan losses to loans at end of period
    1.6 %     1.4 %     1.1 %     1.1 %     1.2 %
Allowance for loan losses to non-performing loans
    90.8 %     146.4 %     164.1 %     119.0 %     228.8 %
Non-performing loans to loans at end of period
    1.7 %     1.0 %     0.7 %     1.0 %     0.5 %
Net charge-offs to average loans
    1.2 %     0.5 %     0.0 %     0.1 %     0.2 %
Number of offices
    12       11       9       9       9  
Number of full and part-time employees
    270       252       228       221       211  
Number of Shareholders of Record
    679       681       676       639       601  
 
                                       
Capital Ratios:
                                       
Average shareholders’ equity to average assets
    6.1 %     6.3 %     5.9 %     5.7 %     5.2 %
Equity to assets
    5.9 %     6.5 %     5.9 %     5.8 %     5.6 %
Total risk-based capital ratio (Bank only)
    10.9 %     10.5 %     10.6 %     10.7 %     10.9 %
     
(1)  
Based upon weighted average shares outstanding during the period.
 
(2)  
Based on Common Stock outstanding at the end of the period.
 
(3)  
Net interest income as a percentage of average interest-earning assets.

 

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of the Corporation relates to the years ended December 31, 2009, 2008, and 2007 and should be read in conjunction with the Corporation’s Consolidated Financial Statements and Notes thereto included elsewhere herein.
Overview
The primary source of the Bank’s revenue is net interest income from loans and deposits and fees from financial services provided to customers. Overall economic factors including market interest rates, business spending, and consumer confidence, as well as competitive conditions within the marketplace tend to influence business volumes.
The Corporation monitors the impact of changes in interest rates on its net interest income through its Asset/Liability Committee (“ALCO”) Policy. One of the primary goals of asset/liability management is to maximize net interest income and the net value of future cash flows within authorized risk limits. At December 31, 2009, the interest rate risk position of the Corporation was liability sensitive. Maintaining a liability sensitive interest rate risk position means that net income should decrease as rates rise and increase as rates fall.
In addition to net interest income, net income is affected by other non-interest income, other non-interest expense and the provision for loan losses. Other non-interest income increased for the year ended December 31, 2009, as compared to year ended December 31, 2008. The increase is primarily due to mortgage banking income. The increase in mortgage banking income was the result of an increase in gains recorded on mortgage loan sales for the year ended December 31, 2009, as compared to the year ended December 31, 2008. In addition to the increase in mortgage banking income, service charges and fees on deposit accounts increased for the year ended December 31, 2009, as compared to the year ended December 31, 2008. The increase is attributable to an increase in service charges collected for DDA business and non profit accounts due to a lower earnings credit rate for the year ended December 31, 2009, as compared to the year ended December 31, 2008. Other non-interest expense increased for the year ended December 31, 2009, as compared to the year ended December 31, 2008. The increase is due to an increase in FDIC insurance premiums paid during 2009 as compared to 2008 and non-performing asset expense for the year ended December 31, 2009, as compared to the year ended December 31, 2008. The increase is partially offset by a decrease in other expense for the year ended December 31, 2009, as compared to December 31, 2008. The decrease in other expense is due to non-recurring charges relating to certain deposit accounts during 2008. The provision for loan losses increased for the year ended December 31, 2009, as compared to December 31, 2008. The increase is due to an increase in charge offs and a high level of special mention and classified loans due to the overall decline in the economy and the decline in real estate values. Management performs an evaluation as to the amounts required to maintain an allowance adequate to provide for probable incurred losses inherent in the loan portfolio. The level of this allowance is dependent upon the total amount of past due and non-performing loans, general economic conditions and management’s assessment of probable incurred losses based upon internal credit evaluations of loan portfolios and particular loans. Typically, improved economic strength generally will translate into better credit quality in the banking industry. Management believes that the allowance for loan losses is adequate to absorb credit losses inherent in the loan portfolio as of December 31, 2009.

 

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The risks and challenges that management believes will be important during 2010 are price competition for loans and deposits by competitors, marketplace credit effects, continued spread compression, a continued slowdown in the local economy that could adversely impact the ability of borrowers to repay outstanding loans or the value of the collateral securing these loans, and the lingering effects from the financial crisis in the U.S. market and foreign markets.
Results of Operations
Year ended December 31, 2009, Compared to the Year Ended December 31, 2008, and the Year Ended December 31, 2008, Compared to the Year Ended December 31, 2007.
The Corporation’s results of operations depend primarily on the level of its net interest income, its provision for loan losses, its non-interest income and its operating expenses. Net interest income depends on the volume of and rates associated with interest earning assets and interest bearing liabilities which results in the net interest spread.
2009 compared with 2008
The Corporation had net income of $112 thousand for 2009 compared to net income of $3.8 million for 2008. The decrease in net income is due to an increase in: the provision for loan losses, non performing asset expense, FDIC insurance expense, and salary, wages, and employee benefits. These increases in expenses were partially offset by a decrease in other operating expense and an increase in mortgage banking income .
The Bank experienced an increase in total assets in 2009 compared with 2008. Total assets increased $116 million or 10% to $1,234 million in 2009 from $1,118 million in 2008. The increase is primarily due to: an increase in cash and cash equivalents of $121 million or 390% to $152 million in 2009 from $31 million in 2008, an increase in investments of $21 million or 15% to $162 million in 2009 from $141 million in 2008, and an increase in other real estate owned and repossessions of $5 million or 167% to $8 million in 2009 from $3 million in 2008. The increase is partially offset by a decrease in loans of $39 million or 4% to $865 million in 2009 from $904 million in 2008.
2008 compared with 2007
The Corporation had net income of $3.8 million for 2008 compared to net income of $7.9 million for 2007. The decrease in net income is due to a non-recurring charge in the first quarter of 2008 related to certain deposit accounts and increases in: the provision for loan losses, FDIC insurance expense, occupancy, and furniture, fixtures, and equipment expense related to the opening of a new lockbox/disaster site and new banking center at 2714 East 146th Street in January 2008. These increases in expenses were partially offset by an increase in net interest income period over period and an increase in other operating income.
The Bank experienced a decrease in total assets in 2008 compared with 2007. Total assets decreased $45 million or 4% to $1,118 million in 2008 from $1,163 million in 2007. The decrease is primarily due to: a decrease in cash and cash equivalents of $131 million or 81% to $31 million in 2008 from $162 million in 2007, an increase in loans of $74 million or 9% to $904 million in 2008 from $830 million in 2007, an increase in investments of $7 million or 5% to $141 million in 2008 from $134 million in 2007, and an increase in other real estate owned and repossessions of $3 million or 826% to $3.4 million in 2008 from $363 thousand in 2007.

 

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Net Interest Income
The following table details the components of net interest income for the years ended December 31, ($ in 000’s):
                                                                 
    2009     2008     $ Change     % Change     2008     2007     $ Change     % Change  
Interest income:
                                                               
Interest and fees on loans
  $ 42,217     $ 48,988     $ (6,771 )     -13.8 %   $ 48,988     $ 57,383     $ (8,395 )     -14.6 %
Interest on investment securities taxable
    3,242       4,489       (1,247 )     -27.8 %     4,489       6,777       (2,288 )     -33.8 %
Interest on investment securities nontaxable
    2,068       2,047       21       1.0 %     2,047       1,817       230       12.7 %
Interest on federal funds sold
    4       705       (701 )     -99.4 %     705       2,492       (1,787 )     -71.7 %
Interest on reverse repurchase agreements
          148       (148 )     -100.0 %     148       411       (263 )     -64.0 %
 
                                               
Total interest income
  $ 47,531     $ 56,377     $ (8,846 )     -15.7 %   $ 56,377     $ 68,880     $ (12,503 )     -18.2 %
 
                                                               
Interest expense:
                                                               
Interest on deposits
  $ 9,427     $ 17,979     $ (8,552 )     -47.6 %   $ 17,979     $ 30,847     $ (12,868 )     -41.7 %
Interest on other short term borrowings
    182       544       (362 )     -66.5 %     544       2,078       (1,534 )     -73.8 %
Interest on FHLB advances and overnight borrowings
          193       (193 )     -100.0 %     193       463       (270 )     -58.3 %
Interest on short-term debt
    121       16       105       656.3 %     16             16       100.0 %
Interest on long-term debt
    1,583       1,717       (134 )     -7.8 %     1,717       1,875       (158 )     -8.4 %
 
                                               
Total interest expense
  $ 11,313     $ 20,449     $ (9,136 )     -44.7 %   $ 20,449     $ 35,263     $ (14,814 )     -42.0 %
 
                                               
Net interest income
  $ 36,218     $ 35,928     $ 290       0.8 %   $ 35,928     $ 33,617     $ 2,311       6.9 %
 
                                               
2009 compared with 2008
Total average earning assets increased for 2009 as compared to 2008. The increase is primarily attributable to an increase in the average balance in interest bearing due from banks and an increase in average loans. Interest income decreased for 2009 as compared to 2008. The decrease is due to an overall lower interest rate environment in 2009 as compared to 2008 as a result of significant interest rate decreases by the Federal Reserve in 2008. Over the course of 2008, the prime interest rate decreased by 400 basis points to 3.25% from 7.25%.
Total average interest bearing liabilities increased for 2009 as compared to 2008. The increase is due primarily to an increase in average interest bearing demand deposits and average certificates of deposits. Interest expense decreased due to lower interest rates paid on interest bearing liabilities.
The increase in net interest income was a result of an increase in the net interest spread during 2009 as compared to 2008. The increase in the net interest spread was the result of a larger decline in the cost of interest bearing liabilities than the decline in the yield on earning assets during 2009 compared to 2008. The decrease in the contribution of non-interest bearing funds to 0.20% from 0.40% for the year ended December 31, 2009, as compared to December 31, 2008, caused an overall decrease in the net interest margin FTE to 3.32% from 3.47% for the year ended December 31, 2009, as compared to December 31, 2008.

 

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2008 compared with 2007
Total average earning assets increased for 2008 as compared to 2007. The increase is primarily attributable to an increase in average loan growth. Interest income decreased for 2008 as compared to 2007. The decrease is due to an overall lower interest rate environment in 2008 as compared to 2007 as a result of significant interest rate decreases by the Federal Reserve in 2008. Over the course of 2008, the prime interest rate decreased by 400 basis points to 3.25% from 7.25% in 2007.
Total interest bearing liabilities increased for 2008 compared to 2007. The increase is due primarily to an increase in interest bearing demand deposits and savings/money market deposits. Interest expense decreased due to lower interest rates paid on interest bearing liabilities.
The increase in net interest income was a result of an increase in the net interest spread during 2008 as compared to 2007. The increase in the net interest spread was the result of a better mix of earning assets during 2008 compared to 2007.

 

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The following table details average balances, interest income / expense and average rates / yields for the Bank’s earning assets and interest bearing liabilities for the years ended December 31, ($ in 000’s):
                                                                         
    2009     2008     2007  
            Interest     Average             Interest     Average             Interest     Average  
    Average     Income/     Rate/     Average     Income/     Rate/     Average     Income/     Rate/  
    Balance     Expense     Yield     Balance     Expense     Yield     Balance     Expense     Yield  
Assets:
                                                                       
Interest bearing due from banks
  $ 91,295     $ 231       0.25 %   $ 20,645     $ 509       2.47 %   $ 61,200     $ 2,999       4.90 %
Reverse repurchase agreements
    1,000             0.01 %     4,197       148       3.53 %     8,701       411       4.72 %
Federal funds
    2,646       4       0.15 %     31,530       705       2.24 %     52,466       2,492       4.75 %
Non taxable investment securities — FTE
    56,070       3,140       5.60 %     55,178       3,046       5.52 %     46,252       2,640       5.71 %
Taxable investments securities
    88,855       3,011       3.39 %     98,585       3,980       4.04 %     93,757       3,778       4.03 %
Loans (gross)
    883,721       42,217       4.78 %     855,313       48,988       5.73 %     768,271       57,383       7.47 %
 
                                                     
 
                                                                       
Total earning assets — FTE
  $ 1,123,587     $ 48,603       4.33 %   $ 1,065,448     $ 57,376       5.39 %   $ 1,030,647     $ 69,703       6.76 %
Non-earning assets
    83,573                       63,335                       57,065                  
 
                                                                 
 
       
Total assets
  $ 1,207,160                     $ 1,128,783                     $ 1,087,712                  
 
                                                                 
 
                                                                       
Liabilities:
                                                                       
Interest bearing DDA
  $ 160,233     $ 600       0.37 %   $ 116,999     $ 1,206       1.03 %   $ 97,908     $ 1,632       1.67 %
Savings
    472,181       3,448       0.73 %     495,956       9,698       1.96 %     481,295       19,589       4.07 %
CD’s under $100
    63,609       1,665       2.62 %     66,256       2,547       3.84 %     71,087       3,378       4.75 %
CD’s over $100
    129,325       3,160       2.44 %     101,008       3,806       3.77 %     107,030       5,415       5.06 %
Individual retirement accounts
    19,980       554       2.77 %     18,737       722       3.85 %     17,618       833       4.73 %
Repurchase agreements and other secured short term borrowings
    68,742       182       0.26 %     57,125       544       0.95 %     54,326       2,078       3.83 %
FHLB advances
                      7,336       193       2.63 %     9,318       463       4.97 %
Short-term debt
    4,200       121       2.88 %     586       16       2.73 %                  
Subordinated debt
    5,000       108       2.16 %     5,000       242       4.84 %     5,000       393       7.86 %
Long term debt
    13,918       1,475       10.60 %     13,918       1,475       10.60 %     13,918       1,482       10.65 %
 
                                                     
 
                                                                       
Total interest bearing liabilities
  $ 937,188     $ 11,313       1.21 %   $ 882,921     $ 20,449       2.32 %   $ 857,500     $ 35,263       4.11 %
Non-interest bearing liabilities
    188,594                       167,121                       158,882                  
Other liabilities
    8,034                       7,921                       7,141                  
 
                                                                 
 
       
Total liabilities
  $ 1,133,816                     $ 1,057,963                     $ 1,023,523                  
Equity
    73,344                       70,820                       64,189                  
 
                                                                 
 
       
Total liabilities & equity
  $ 1,207,160                     $ 1,128,783                     $ 1,087,712                  
 
                                                                 
 
                                                                       
Recap:
                                                                       
Interest income — FTE
          $ 48,603       4.33 %           $ 57,376       5.39 %           $ 69,703       6.76 %
Interest expense
            11,313       1.21 %             20,449       2.32 %             35,263       4.11 %
 
                                                           
 
       
Net interest income/spread — FTE
          $ 37,290       3.12 %           $ 36,927       3.07 %           $ 34,440       2.65 %
 
                                                           
 
       
Contribution of non-interest bearing funds
                    0.20 %                     0.40 %                     0.69 %
 
                                                                       
Net interest margin — FTE
                    3.32 %                     3.47 %                     3.34 %
 
                                                                 

 

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Notes to the average balance and interest rate tables:
   
Average balances are computed using daily actual balances.
   
The average loan balance includes non-accrual loans and the interest recognized prior to becoming non-accrual is reflected in the interest income for loans.
   
Interest income on loans includes loan fees net of loan costs, of $(645) thousand, $(714) thousand, and $153 thousand, for the years ended December 31, 2009, 2008, and 2007, respectively.
   
Net interest income on a fully taxable equivalent basis, the most significant component of the Corporation’s earnings, is total interest income on a fully taxable equivalent basis less total interest expense. The level of net interest income on a fully taxable equivalent basis is determined by the mix and volume of interest earning assets, interest bearing deposits and borrowed funds, and changes in interest rates.
   
Net interest spread is the difference between the fully taxable equivalent rate earned on interest earning assets less the rate expensed on interest bearing liabilities.
   
Net interest margin represents net interest income on a fully taxable equivalent basis as a percentage of average interest earning assets. Net interest margin is affected by both the interest rate spread and the level of non-interest bearing sources of funds, primarily consisting of demand deposits and shareholders’ equity.
   
Interest income on a fully taxable equivalent basis includes the additional amount of interest income that would have been earned if investments in certain tax-exempt interest earning assets had been made in assets subject to federal taxes yielding the same after-tax income. Interest income on municipal securities has been calculated on a fully taxable equivalent basis using a federal and state income tax blended rate of 40%. The appropriate tax equivalent adjustments to interest income were $1.1 million, $999 thousand, and $823 thousand, for the years ended December 31, 2009, 2008, and 2007, respectively.
   
Management believes the disclosure of the fully taxable equivalent net interest income information improves the clarity of financial analysis, and is particularly useful to investors in understanding and evaluating the changes and trends in the Corporation’s results of operations. This adjustment is considered helpful in the comparison of one financial institution’s net interest income to that of another institution, as each will have a different proportion of tax-exempt interest from their earning asset portfolios.

 

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The following table sets forth an analysis of volume and rate changes in interest income and interest expense of the Corporation’s average earning assets and average interest-bearing liabilities. The table distinguishes between the changes related to average outstanding balances of assets and liabilities (changes in volume holding the initial average interest rate constant) and the changes related to average interest rates (changes in average rate holding the initial average outstanding balance constant). The change in interest due to both volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.
Net Interest Income Changes Due to Volume and Rates ($ in 000’s):
                                                 
    2009 Changes from 2008     2008 Changes from 2007  
    Net     Due to     Due to     Net     Due to     Due to  
    Change     Rate     Volume     Change     Rate     Volume  
Interest earning assets:
                                               
Interest bearing due from banks
  $ (278 )   $ (781 )   $ 503     $ (2,490 )   $ (1,067 )   $ (1,423 )
Reverse repurchase agreements
  $ (148 )   $     $ (148 )   $ (263 )   $ (86 )   $ (177 )
Federal funds
  $ (701 )   $ (354 )   $ (347 )   $ (1,787 )   $ (1,019 )   $ (768 )
Non taxable investment securities — FTE
  $ 94     $ 44     $ 50     $ 406     $ (89 )   $ 495  
Taxable investment securities
  $ (969 )   $ (600 )   $ (369 )   $ 202     $ 7     $ 195  
Loans (gross)
  $ (6,771 )   $ (8,353 )   $ 1,582     $ (8,395 )   $ (14,401 )   $ 6,006  
 
                                   
 
                                               
TOTAL
    (8,773 )     (10,044 )     1,271       (12,327 )     (16,655 )     4,328  
 
                                               
Interest bearing liabilities:
                                               
Interest bearing DDA
  $ (606 )   $ (947 )   $ 341     $ (426 )   $ (703 )   $ 277  
Savings deposits
  $ (6,250 )   $ (5,806 )   $ (444 )   $ (9,891 )   $ (10,471 )   $ 580  
CDs under $100
  $ (882 )   $ (784 )   $ (98 )   $ (831 )   $ (613 )   $ (218 )
CDs over $100
  $ (646 )   $ (1,547 )   $ 901     $ (1,609 )   $ (1,318 )   $ (291 )
Individual retirement accounts
  $ (168 )   $ (213 )   $ 45     $ (111 )   $ (161 )   $ 50  
Repurchase agreements and other short-term secured borrowings
  $ (362 )   $ (455 )   $ 93     $ (1,534 )   $ (1,636 )   $ 102  
FHLB advances
  $ (193 )   $     $ (193 )   $ (270 )   $ (186 )   $ (84 )
Short-term debt
  $ 105     $ 1     $ 104     $ 16     $     $ 16  
Subordinated debt
  $ (134 )   $ (134 )   $     $ (151 )   $ (151 )   $  
Long term debt
  $     $     $     $ (7 )   $ (7 )   $  
 
                                   
 
                                               
TOTAL
  $ (9,136 )   $ (9,885 )   $ 749     $ (14,814 )   $ (15,246 )   $ 432  
 
                                   
 
                                               
Net change in net interest income
  $ 363     $ (159 )   $ 522     $ 2,487     $ (1,409 )   $ 3,896  
 
                                   

 

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Provision for Loan Losses
The amount charged to the provision for loan losses by the Bank is based on management’s evaluation as to the amounts required to maintain an allowance adequate to provide for probable incurred losses inherent in the loan portfolio. The level of this allowance is dependent upon the total amount of past due and non-performing loans, general economic conditions and management’s assessment of probable incurred losses based upon internal credit evaluations of loan portfolios and particular loans. Loans are principally to borrowers in central Indiana. The following table details the components of loan loss reserve as of December 31, ($ in 000’s):
                                         
    2009     2008     2007     2006     2005  
Beginning of Period
  $ 12,847     $ 9,453     $ 8,513     $ 8,346     $ 7,796  
Provision for loan losses
    11,905       7,400       904       1,086       2,085  
 
                                       
Chargeoffs
                                       
Commercial
    2,603       1,697       228       1,094       1,318  
Commercial Real Estate
    6,150       1,126             191        
Residential Mortgage
    864       1,360       600       121       447  
Consumer
    21       64       50       51       5  
Credit Cards
    84       97       4       28       50  
Construction
    1,710       49                    
 
                             
 
    11,432       4,393       882       1,485       1,820  
 
                                       
Recoveries
                                       
Commercial
    343       187       814       412       259  
Residential Mortgage
    20       174       67       154       26  
Consumer
          1       6              
Credit Cards
    33       25       31              
 
                             
 
    396       387       918       566       285  
 
                             
 
                                       
End of Period
  $ 13,716     $ 12,847     $ 9,453     $ 8,513     $ 8,346  
 
                             
 
                                       
Allowance as a % of Loans
    1.59 %     1.42 %     1.14 %     1.14 %     1.22 %
2009 compared with 2008
The provision for loan losses was $11.9 million for 2009 compared to $7.4 million for 2008. The increase in the provision for loan losses for 2009 as compared to 2008 is due to increased charge offs and a higher level of special mention and classified loans as compared to the same period in 2008 due to the overall decline in the economy and the sharp decline in real estate values. These chargeoffs relate to specific commercial loans, commercial real estate loans, and construction loans. Management does not believe that these chargeoffs are indicative of systematic problems with the loan portfolio. Based on management’s risk assessment and evaluation of the probable incurred losses of the loan portfolio, management believes that the current allowance for loan losses is adequate to provide for probable incurred losses in the loan portfolio.
2008 compared with 2007
The provision for loan losses was $7.4 million for 2008 compared to $904 thousand for 2007. The increase in the provision for loan losses for 2008 as compared to 2007 is due to loan growth, increased charge offs, and a higher level of special mention and classified loans as compared to the same period in 2007 due to the overall decline in the economy and the sharp decline in real estate values. These chargeoffs relate to specific commercial loans, commercial real estate loans, and residential mortgage loans. Management does not believe that these chargeoffs are indicative of systematic problems with the loan portfolio. Based on management’s risk assessment and evaluation of the probable incurred losses of the loan portfolio, management believes that the current allowance for loan losses is adequate to provide for probable incurred losses in the loan portfolio.

 

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Other Operating Income
The following table details the components of other operating income for the years ended December 31, ($ in 000’s):
                                                                 
    2009     2008     $ Change     % Change     2008     2007     $ Change     % Change  
Wealth management fees
  $ 4,917     $ 5,048     $ (131 )     -2.6 %   $ 5,048     $ 4,547     $ 501       11.0 %
Service charges and fees on deposit accounts
    3,113       2,484       629       25.3 %     2,484       1,818     $ 666       36.6 %
Rental income
    321       575       (254 )     -44.2 %     575       597     $ (22 )     -3.7 %
Mortgage banking income
    1,576       62       1,514       2,441.9 %     62       329     $ (267 )     -81.2 %
Interchange income
    1,007       877       130       14.8 %     877       678     $ 199       29.4 %
Other income
    1,969       2,158       (189 )     -8.8 %     2,158       1,865     $ 293       15.7 %
 
                                               
Total other operating income
  $ 12,903     $ 11,204     $ 1,699       15.2 %   $ 11,204     $ 9,834     $ 1,370       13.9 %
 
                                               
2009 compared with 2008
Other operating income increased for 2009 compared to 2008. There are several factors that contribute to the overall increase.
Wealth Management fees decreased for 2009 compared to 2008. The decrease is attributable to the overall decline in the stock market. Partially offsetting the decrease is an increase in estate administration fees and fees collected for tax return preparation.
Service charges and fees on deposit accounts increased for 2009 compared to 2008. The increase is primarily attributable to an increase in service charges collected for DDA business and non-profit accounts due to a lower earnings credit rate in 2009 compared to 2008. The increase is partially offset by a decrease in overdraft and NSF fees.
Building rental income decreased for 2009 compared to 2008. This was due to the bank occupying more space at the 4930 North Pennsylvania Street and 107 North Pennsylvania Street locations thus reducing the space available for tenants.
A net gain on mortgage loan sales of $1.6 million was recorded in 2009 as compared to a net gain of $499 thousand in 2008. Mortgage loan originations were in excess of $96.0 million with sales in excess of $70.9 million to the secondary market in 2009. Additionally, the write down of the fair value of mortgage servicing rights (“MSRs”) decreased for 2009 as compared to 2008. The Corporation recorded a write down of $334 thousand for 2009 as compared to a write down of $715 thousand for 2008.
When a mortgage loan is sold and the MSRs are retained, the MSRs are recorded as an asset on the balance sheet. The value of the MSRs is sensitive to changes in interest rates. In a declining interest rate environment, mortgage loan refinancings generally increase, causing actual and expected loan prepayments to increase, which decreases the value of existing MSR’s. Conversely, as interest rates rise, mortgage loan refinancings generally decline, causing actual and expected loan prepayments to decrease, which increases the value of the MSRs.

 

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Interchange income increased for 2009 compared to 2008. The increase is attributable to higher transaction volumes for debit cards and credit cards in 2009 compared to 2008.
Other income decreased for 2009 compared to 2008. The decrease is primarily due to a decrease in prepayment penalties collected, bank owned life insurance income, documentation fees, and Dreyfus money market funds sweep fees. The decrease is partially offset by an increase for income collected for a participation fee.
2008 compared with 2007
Other operating income increased for 2008 compared to 2007. There are several factors that contribute to the overall increase.
Wealth Management fees increased for 2008 compared to 2007. The net increase in wealth management fees is attributable to the overall fee increase for many of the accounts with assets under management and increased fees collected for tax return preparation. In addition, as a result of the financial crisis in the U.S. markets as well as foreign markets, wealth management clients transferred assets into Dreyfus money market funds, thus increasing the fees collected on those types of assets.
Service charges and fees on deposit accounts increased for 2008 compared to 2007. The increase is primarily attributable to an increase in service charges collected for DDA business and non-profit accounts due to a lower earnings credit rate in 2008 compared to 2007.
Building rental income decreased for 2008 compared to 2007. This was due to a decline in tenants at the 4930 North Pennsylvania Street location due to the Bank occupying more space.
Mortgage banking income decreased for 2008 compared to 2007. The decrease is due to a write down of the fair value of MSRs of $715 thousand in 2008 compared to $145 thousand in 2007. Offsetting this decrease was an increase in the net gain on the sale of mortgage loans. A net gain of $499 thousand was recorded in 2008 as compared to a net gain of $205 thousand in 2007. Mortgage originations were in excess of $56.0 million with sales in excess of $40.6 million to the secondary market in 2008 as compared to mortgage originations in excess of $29.0 million with sales in excess of $15.2 million to the secondary market in 2007. When a mortgage loan is sold and the MSRs are retained, the MSR is recorded as an asset on the balance sheet. The value of MSRs is sensitive to changes in interest rates. In a declining interest rate environment, mortgage loan refinancings generally increase, causing actual and expected loan prepayments to increase, which decreases the value of existing MSRs. Conversely, as interest rates rise, mortgage loan refinancings generally decline, causing actual and expected loan prepayments to decrease, which increases the values of the MSRs.
Interchange income increased for 2008 compared to 2007. The increase is attributable to higher transaction volumes for debit and credit cards in 2008 as compared to 2007 and a reduction in cash back rewards expense for 2008 as compared to 2007.
Other income increased for 2008 compared to 2007. The increase is primarily due to an increase in letter of credit fees, application fees, credit card merchant fees, sweep fees for Dreyfus money market funds, as well as prepayment penalties and late fees collected. The increase is offset by a decrease in documentation fees, other miscellaneous income, and Bank Owned Life Insurance (“BOLI”) income.

 

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Other Operating Expenses
The following table details the components of other operating expenses for the years ended December 31, ($ in 000’s):
                                                                 
    2009     2008     $ Change     % Change     2008     2007     $ Change     % Change  
Salaries, wages and employee benefits
  $ 21,332     $ 19,172     $ 2,160       11.3 %   $ 19,172     $ 19,098     $ 74       0.4 %
Occupancy
    2,441       2,081       360       17.3 %     2,081       1,791     $ 290       16.2 %
Furniture and equipment
    1,359       1,428       (69 )     -4.8 %     1,428       1,241     $ 187       15.1 %
Professional services
    1,873       1,971       (98 )     -5.0 %     1,971       1,800     $ 171       9.5 %
Data processing
    2,752       2,514       238       9.5 %     2,514       2,200     $ 314       14.3 %
Business development
    1,531       1,526       5       0.3 %     1,526       1,292     $ 234       18.1 %
FDIC insurance
    2,142       918       1,224       133.3 %     918       99     $ 819       827.3 %
Non performing assets
    1,383       149       1,234       828.2 %     149       109     $ 40       36.7 %
Other
    3,541       4,947       (1,406 )     -28.4 %     4,947       3,170     $ 1,777       56.1 %
 
                                               
Total other operating expenses
  $ 38,354     $ 34,706     $ 3,648       10.5 %   $ 34,706     $ 30,800     $ 3,906       12.7 %
 
                                               
2009 compared with 2008
Other operating expenses increased for 2009 compared to 2008. There are several factors that contribute to the overall increase.
Salaries, wages and employee benefits increased for 2009 compared to 2008. The increase is the result of increased salary expense and group medical and dental benefits. Salary expense, which includes restricted stock expense, increased due to an increase in full-time equivalent employees of 20 from 241 in 2008 to 261 in 2009. Also contributing to the increase was additional restricted stock expense due to grants to officers of the Bank during the second quarter of 2009. Group medical and dental benefits increased due to the increase in employees as well as due to higher costs in 2009.
Occupancy expense increased for 2009 compared to 2008. The increase is due to an increase in building rental expense for the lockbox processing center/disaster site, building and improvements depreciation expense due to the opening of the banking center located at 2410 Harleston Street in November 2008, real estate tax expense, lawn maintenance, janitorial and trash expense, and utilities.
Furniture and equipment expense decreased for 2009 compared to 2008. This decrease is due to a decrease in furniture, fixture, and equipment purchased and expensed for $500 and depreciation for furniture, fixture, and equipment due to older assets being fully depreciated. This decrease is partially offset by an increase in depreciation expense associated with computer equipment for the new banking center at 2410 Harleston Street.
Professional services expense decreased for 2009 compared to 2008. The decrease is due to a decrease in courier service, accounting fees, advertising agency fees, and consulting fees. The decrease is partially offset by an increase in design services.
Data processing expenses increased for 2009 compared to 2008. The increase is due to an increase in bill payment services, ATM/debit cards, credit cards, remote deposit capture fees, and increased service bureau fees related to increased transaction activity by the Bank. The increase is partially offset by a decrease in fiduciary income tax preparation for wealth management accounts and mutual fund expense due to an overall decline in market values.

 

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Business development expenses increased for 2009 compared to 2008. The increase is due to an increase in advertising, customer entertainment, sales and product literature, public relations, and direct mail campaign. The increase is partially offset by a decrease in customer relations, customer promotion and premium items, and grand opening expense.
FDIC insurance increased for 2009 compared to 2008. The increase is due to an overall increase in the assessment by the FDIC effective January 1, 2009, as well as a special assessment of $557 thousand paid by the Corporation during 2009. Effective April 1, 2009, insurance assessments range from 0.07% to 0.78%, depending on the institution’s risk classifications, as well as its unsecured debt, secured liability and brokered deposits.
Non performing assets expenses increased for 2009 compared to 2008. This is due to an increase in expense related to other real estate owned by the Corporation, such as real estate taxes, lawn maintenance, and appraisal fees as well as the write down of the carrying value of real estate owned.
Other expenses decreased for 2009 compared to 2008. During 2008, a non-recurring charge of $1.4 million related to certain deposit accounts and a charge of $94 thousand related to certain wealth management accounts was recorded. Also contributing to the decrease is lower expense related to conferences and conventions, personal property taxes, and charitable contributions. The overall decrease is partially offset by a loss of $40 thousand as a result of the Heartland Payment Systems credit card software compromise and a charge of $50 thousand related to certain deposit accounts.
2008 compared with 2007
Other operating expenses increased for 2008 compared to 2007. There are several factors that contribute to the overall increase.
Salaries, wages and employee benefits increased for 2008 compared to 2007. The increase is the result of annual merit increases for many employees, increased costs relating to group medical benefits, and 401(k) contributions, as well as, additional salary expense and benefits associated with the increase in full-time equivalent employees to 241 in 2008 from 217 in 2007. This increase is partially offset by the effect of accounting for direct loan origination costs and a decrease in expense relating to the performance bonus and the associated employer FICA tax on the performance bonus for 2008 compared to 2007 because no performance bonus was earned in 2008.
Occupancy expense increased for 2008 compared to 2007. The increase is due to increased real estate taxes and the purchase of land located at the 2410 Harleston Street in June 2007 and the purchase of the land at 2714 East 146th Street in March 2008. In addition, leasehold improvements expense and building rental expense increased due to the opening of a new lockbox processing center/disaster site in January 2008. Snow removal costs, electrical expense, janitorial and trash service, and building utilities were higher in 2008 compared to 2007. The increase is partially offset by a decrease in other miscellaneous expense and property repairs and maintenance in 2008.
Furniture and equipment expense increased for 2008 compared to 2007. The increase is due to an increase in depreciation expense for furniture, fixtures, and equipment, computer equipment, and maintenance contracts as a result of the January 2008 opening of the new banking center located at 2714 East 146th Street, the November 2008 opening of the new banking center located at 2410 Harleston Street, as well as the opening of the new lockbox processing center/disaster site in January 2008.

 

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Professional services expense increased for 2008 compared to 2007. The increase is due to an increase in courier service, advertising agency fees, attorney fees, and design services. The increase is partially offset by a decrease in accounting fees and consulting fees.
Data processing expenses increased for 2008 compared to 2007. The increase is due to an increase in bill payment services, ATM/debit cards, credit cards, remote deposit capture, increased service bureau fees related to increased transaction activity by the Bank, and assistance with the fiduciary income tax preparation for wealth management accounts.
Business development expenses increased for 2008 compared to 2007. The increase is due to an increase in advertising, customer relations and entertainment, public relations, and grand opening expense. The increase is offset by a decrease in sales and product literature and direct mail campaign.
FDIC insurance increased for 2008 compared to 2007. During 2007, the FDIC began collecting deposit insurance premiums in arrears. In addition, the Corporation had only paid FICO insurance because it had received a one time credit from the FDIC in early 2007 and did not have to pay FDIC insurance premiums. The Corporation had only a small amount of the credit available for offset against the first quarter 2008 insurance premium.
Non performing assets expenses increased for 2008 compared to 2007. This is due to an increase in expense related to other real estate owned by the Corporation, such as real estate taxes, lawn maintenance, and appraisal fees. The increase is partially offset by a gain on sale of repossessions.
Other expenses increased for 2008 compared to 2007 due to an increase in telephone expense, postage, ATM surcharges refunded, and correspondent bank charges. Also contributing to the increase was a non-recurring charge in the first quarter of $1.4 million related to certain deposit accounts and a non-recurring charge in the second quarter of $94 thousand related to certain wealth management accounts. The increase is partially offset by a decrease in office supplies, other miscellaneous expense and credit card losses.
Tax (Benefit)/Expense
The Corporation applies a federal income tax rate of 34% and a state tax rate of 8.5% in the computation of tax expense. The provision for income taxes consisted of the following for the years ended December 31, ($ in 000’s):
                         
    2009     2008     2007  
 
                       
Current tax (benefit) expense
  $ (405 )   $ 3,155     $ 4,181  
Deferred tax (benefit) expense
    (845 )     1,913       (325 )
 
                 
 
  $ (1,250 )   $ 1,242     $ 3,856  
 
                 

 

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The statutory tax rate reconciliation is as follows for the years ended December 31, ($ in 000’s):
                         
    2009     2008     2007  
 
                       
Income (loss) before provision for income tax
  $ (1,138 )   $ 5,026     $ 11,747  
 
                 
 
                       
Tax expense (benefit) at federal statutory rate
  $ (387 )   $ 1,709     $ 3,994  
 
                       
Increase (decrease) in taxes resulting from:
                       
State income taxes
    (92 )     203       603  
Tax-exempt interest
    (716 )     (685 )     (558 )
Other
    (55 )     15       (183 )
 
                 
 
  $ (1,250 )   $ 1,242     $ 3,856  
 
                 
Income tax expense is the total of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in years in which those temporary differences are expected to be recovered or settled. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.
The components of the Corporation’s net deferred tax assets in the consolidated balance sheet as of December 31, are as follows ($ in 000’s):
                 
    2009     2008  
Deferred tax assets:
               
Allowance for loan losses
  $ 5,364     $ 5,025  
Equity based compensation
    1,841       1,193  
Accrued contingencies
    391       391  
Other
    693       508  
 
           
Total deferred tax assets
    8,289       7,117  
Deferred tax liabilities:
               
Mortgage servicing rights
    (570 )     (418 )
Net unrealized gain on securities
          (537 )
Other
    (586 )     (413 )
 
           
Total deferred tax liabilities
    (1,156 )     (1,368 )
 
           
Net deferred tax assets
  $ 7,133     $ 5,749  
 
           
Effects of Inflation
Inflation can have a significant effect on the operating results of all industries. This is especially true in industries with a high proportion of fixed assets and inventory. However, management believes that these factors are not as critical in the banking industry. Inflation does, however, have an impact on the growth of total assets and the need to maintain a proper level of equity capital.
Interest rates are significantly affected by inflation, but it is difficult to assess the impact since neither the timing nor the magnitude of the changes in the various inflation indices coincides with changes in interest rates. There is, of course, an impact on longer-term earning assets; however, this effect continues to diminish as investment maturities are shortened and interest-earning assets and interest-bearing liabilities shift from fixed rate, long-term to rate-sensitive, short-term.

 

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Liquidity and Interest Rate Sensitivity
The Corporation must maintain an adequate liquidity position in order to respond to the short-term demand for funds caused by withdrawals from deposit accounts, extensions of credit and for the payment of operating expenses. Maintaining an adequate liquidity position is accomplished through the management of the liquid assets — those which can be converted into cash — and access to additional sources of funds. The Corporation must monitor its liquidity ratios as established by ALCO. In addition, the Corporation has established a contingency funding plan to address liquidity needs in the event of depressed economic conditions. The liquidity position is continually monitored and reviewed by ALCO.
The Corporation has many sources of funds available, they include: cash and due from Federal Reserve, overnight federal funds sold, investments available for sale, maturity of investments held for sale, deposits, Federal Home Loan Bank (“FHLB”) advances, and issuance of debt. During 2009, deposits were the most significant source of funds while purchases of investment securities were the most significant use of funds. During 2008, issuance of short-term debt provided the most significant funding source while loans were the most significant use of funds. During 2007, deposits were the most significant source of funding while loans were the most significant use of funds.
On June 29, 2007, the Corporation entered into a $5 million loan agreement with U.S. Bank, which matured on June 27, 2009, and was renewed and matured on August 31, 2009. The loan agreement was used to provide additional liquidity support to the Corporation, if needed. On September 5, 2008, and December 11, 2008, the Corporation drew $1.3 million and $2.9 million, respectively, on the revolving loan agreement with U.S. Bank.
On August 31, 2009, U.S. Bank renewed the revolving loan agreement which will mature on August 31, 2010. As part of the renewal of the revolving loan agreement, U.S. Bank reduced the revolving loan amount from $5 million to $2 million. Of the $4.1 million outstanding, $3 million was moved to a separate one-year term facility with principal payments of $62 thousand and interest payments due quarterly. Under the terms of the one-year facility, the Corporation pays prime plus 1.25% which equated to 4.50% at December 31, 2009.
Under the terms of the revolving loan agreement, the Corporation paid prime minus 1.25% which equated to 2.00% through August 31, 2009, and interest payments were due quarterly. Beginning September 1, 2009, the Corporation pays prime plus 1.25% which equated to 4.50% at December 31, 2009, and interest payments are due quarterly. In addition, beginning October 1, 2009, U.S. Bank assessed a 0.25% fee on the unused portion of the revolving line of credit.
The loan agreements contain various financial and non-financial covenants. The Bank was in violation of the following covenants as of December 31, 2009.
                 
Covenants   U.S. Bank Policy     Actual  
Non-performing assets to total loans
  < 2.65 %     2.70 %
Return on assets
  not < 0.30 %     0.19 %
Loan loss reserve to non-performing loans
  not £ 100 %     90.80 %

 

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At this time, U.S. Bank has not indicated an intention to exercise any of its remedies available under the credit facility as a result of the Corporation’s covenant violation. The remedies available to U.S. Bank are: make the note immediately due and payable; termination of the obligation to extend further credit; and/or invoke default interest of 3.0% over current interest rate. Management does not believe the impact of any of these remedies would have a material impact on the Corporation’s results of operation or financial position and is currently discussing a waiver for these covenant violations with U.S. Bank.
Primary liquid assets of the Corporation are cash and due from banks, federal funds sold, investments held as available for sale, and maturing loans. Due from the Federal Reserve represented the Corporation’s primary source of immediate liquidity and averaged approximately $91 million for the year ended December 31, 2009. During the years ended December 31, 2008 and 2007, respectively, federal funds sold represented the Corporation’s primary source of immediate liquidity and averaged approximately $31.5 million and $52.4 million. The Corporation believes these balances are maintained at a level adequate to meet immediate needs. Reverse repurchase agreements may serve as a source of liquidity, but are primarily used as collateral for customer balances in overnight repurchase agreements. Maturities in the Corporation’s loan and investment portfolios are monitored regularly to avoid matching short-term deposits with long-term loans and investments. Other assets and liabilities are also monitored to provide the proper balance between liquidity, safety, and profitability. This monitoring process must be continuous due to the constant flow of cash which is inherent in a financial institution.
The Corporation’s management believes its liquidity sources are adequate to meet its operating needs and does not know of any trends, events or uncertainties that may result in a significant adverse effect on the Corporation’s liquidity position.
The Corporation actively manages its interest rate sensitive assets and liabilities to reduce the impact of interest rate fluctuations. At December 31, 2009, the Corporation’s rate sensitive liabilities exceeded rate sensitive assets due within one year by $60.8 million. At December 31, 2008, the Corporation’s rate sensitive liabilities exceeded rate sensitive assets due within one year by $103.7 million.
The purpose of the Bank’s Investment Committee is to manage and balance interest rate risk of the investment portfolio, to provide a readily available source of liquidity to cover deposit runoff and loan growth, and to provide a portfolio of safe, secure assets of high quality that generate a supplemental source of income in concert with the overall asset/liability policies and strategies of the Bank.
The Bank holds securities of the U.S. Government and its agencies along with mortgage-backed securities, collateralized mortgage obligations, municipals, and Federal Home Loan Bank and Federal Reserve Bank stock. In order to properly manage market risk, credit risk and interest rate risk, the Bank has guidelines it must follow when purchasing investments for the portfolio and adherence to these policy guidelines are reported monthly to the board of directors.
A portion of the Bank’s investment securities consist of mortgage-backed securities and collateralized mortgage obligations. The Bank limits the level of these securities that can be held in the portfolio to a specified percentage of total average assets.
All mortgage-related securities must pass the FFIEC stress test. This stress test determines if price volatility under a 200 basis point interest rate shock for each security exceeds a benchmark 30 year mortgage-backed security. If the security fails the test, it is considered high risk and the Bank will not purchase it. All mortgage-related securities purchased and included in the investment portfolio will be subject to the FFIEC test as of December 31 each year to determine if they have become high risk holdings. If a mortgage-related security becomes high risk, it will be evaluated by the Bank’s Investment Committee to determine if the security should be liquidated. At December 31, 2009, and 2008, the Bank did not hold any high risk mortgage-related securities.

 

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The Bank’s investment portfolio also consists of bank-qualified municipal securities. Municipal securities purchased are limited to the first four (4) investment grades of the rating agencies. The grade is reviewed each December 31 to verify that the grade has not deteriorated below the first four (4) investment grades. The Bank may purchase non-rated general obligation municipals, but the credit strength of the municipality must be evaluated by the Bank’s Credit Department. Generally, municipal securities from each issuer will be limited to $2 million, never to exceed 10% of the Bank’s tier 1 capital and will not have a stated final maturity date of greater than fifteen (15) years.
The fully taxable equivalent (“FTE”) average yield on the Bank’s investment portfolio is as follows for the years ended December 31,
                         
    2009     2008     2007  
 
       
U.S. Treasuries
    1.09 %     3.59 %     4.81 %
U.S. Government agencies
    3.42 %     4.32 %     4.25 %
Collateralized mortgage obligations
    3.28 %     3.46 %     3.50 %
Municipals
    5.60 %     5.52 %     5.71 %
Other securities
    0.39 %     2.78 %     4.91 %
With the exception of securities of the U.S. Government and U.S. Government agencies and corporations, the Corporation had no other securities with a book or market value greater than 10% of shareholders’ equity as of December 31, 2009, 2008, and 2007.

 

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The following is a summary of available-for-sale securities and held-to-maturity securities as of December 31, ($ in 000’s):
                                 
    Available-for-Sale Securities  
            Gross     Gross     Estimated  
    Amortized     Unrealized     Unrealized     Fair  
    Cost     Gain     Loss     Value  
2009
                               
U.S. Treasury securities
  $ 506     $     $     $ 506  
U.S. Government agencies
    66,795       97       102       66,790  
 
                       
 
  $ 67,301     $ 97     $ 102     $ 67,296  
 
                       
 
                               
2008
                               
U.S. Treasury securities
  $ 494     $ 5     $     $ 499  
U.S. Government agencies
    55,109       1,369             56,478  
 
                       
 
  $ 55,603     $ 1,374           $ 56,977  
 
                       
 
                               
2007
                               
U.S. Treasury securities
  $ 1,504     $ 10     $     $ 1,514  
U.S. Government agencies
    60,000       889       138       60,751  
Collateralized mortgage obligations
    3                   3  
 
                       
 
  $ 61,507     $ 899     $ 138     $ 62,268  
 
                       
                                 
    Held-to-Maturity Securities  
            Gross     Gross     Estimated  
    Amortized     Unrealized     Unrealized     Fair  
    Cost     Gain     Loss     Value  
2009
                               
Municipals
  $ 54,913     $ 1,805     $ 47     $ 56,671  
Collateralized mortgage obligations, residential
    30,124       29       232       29,921  
Mortgage backed securities, residential
    9,735       111             9,846  
Other securities
    150                   150  
 
                       
 
  $ 94,922     $ 1,945     $ 279     $ 96,588  
 
                       
 
                               
2008
                               
Municipals
  $ 56,874     $ 213     $ 800     $ 56,287  
Collateralized mortgage obligations, residential
    8,825       12             8,837  
Mortgage backed securities, residential
    17,693       45       66       17,672  
Other securities
    175                   175  
 
                       
 
  $ 83,567     $ 270     $ 866     $ 82,971  
 
                       
 
                               
2007
                               
Municipals
  $ 46,257     $ 554     $ 12     $ 46,799  
Collateralized mortgage obligations, residential
    20,535             209       20,326  
Mortgage backed securities, residential
    4,764             53       4,711  
Other securities
    200             1       199  
 
                       
 
  $ 71,756     $ 554     $ 275     $ 72,035  
 
                       
The Corporation held 21 investment securities as of December 31, 2009, of which the amortized cost was greater than fair value. Management does not believe any individual unrealized loss as of December 31, 2009, represents an other than temporary impairment. The Corporation does not intend to sell these securities and it is not more likely than not that the Corporation will be required to sell these securities prior to their anticipated recovery to amortized cost.

 

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The unrealized losses for investments classified as available-for-sale are attributable to changes in interest rates and individually are 0.87% or less of the respective amortized costs. The largest unrealized loss relates to one security issued by the Federal Home Loan Bank (“FHLB’). Given this investment is backed by the U.S. Government and its agencies, there is no credit risk.
The unrealized losses for investments classified as held-to-maturity are attributable to changes in interest rates and/or economic environment and individually were 5.0% or less of their respective amortized costs. The unrealized losses relate primarily to residential collateralized mortgage obligations and securities issued by various municipalities. The residential collateralized mortgage obligations were purchased in September 2009. Prepayments increased due to a decline in long-term interest rates from the time of the investment purchases and December 31, 2009, which affects the fair value of residential collateralized mortgage obligations. All residential collateralized mortgage obligations are backed by the U.S. Government and its agencies and represent no credit risk. The majority of securities issued by various municipalities that have an unrealized loss were purchased during 2005 and first quarter of 2006 when rates were lower. The largest unrealized loss relates to one municipal that was purchased February 2006. The credit rating of the individual municipalities is assessed monthly. As of December 31, 2009, all but five of the municipal debt securities were rated BBB or better (as a result of insurance of the underlying rating on the bond). These five municipal debt securities have no underlying rating. Credit reviews of the municipalities have been conducted. As a result, we have determined that all of our non-rated debt securities would be a rated a “pass” asset and thus classified as an investment grade security. All interest payments are current for all municipal securities and management expects all to be collected in accordance with contractual terms.
The following table ($ in 000’s) shows the carrying value and weighted-average yield of investment securities at December 31, 2009, by contractual maturity. Expected maturities will differ from contractual maturities because the issuers of the securities may have the right to call and/or prepay obligations prior to maturity. Collateralized mortgage obligations and mortgage backed securities are allocated based on the average life at December 31, 2009.
                                         
    Available-for-Sale Securities  
                                    Weighted-  
    Within     1 to 5     5 to 15             Average  
    1 Year     Years     Years     Total     Yield  
 
                                       
U.S. Treasury securities
  $ 506     $     $     $ 506       0.38 %
U.S. Government agencies
    28,868       37,922             66,790       1.62 %
 
                               
Fair value
  $ 29,374     $ 37,922     $     $ 67,296          
 
                               
Weighted-average yield
    1.64 %     1.59 %             1.61 %        
                                         
    Held-to-Maturity Securities  
                                    Weighted-  
    Within     1 to 5     5 to 15             Average  
    1 Year     Years     Years     Total     Yield  
 
                                       
Muncipals — FTE
  $ 9,675     $ 12,891     $ 32,347     $ 54,913       5.72 %
Collateralized mortgage obligations, residential
    6,697       17,656       5,771       30,124       3.89 %
Mortgage backed securities, residential
    7,801       1,934             9,735       3.71 %
Other securities
    25       125             150       4.27 %
 
                               
Amortized cost
  $ 24,198     $ 32,606     $ 38,118     $ 94,922          
 
                               
Weighted-average yield — FTE
    4.51 %     4.53 %     5.54 %     4.93 %        

 

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Investment securities with a carrying value of approximately $83 million and $51 million at December 31, 2009, and 2008, respectively, were pledged as collateral for Wealth Management accounts and securities sold under agreements to repurchase.
As part of managing liquidity, the Corporation monitors its loan to deposit ratio on a daily basis. At December 31, 2009, the ratio was 82.2 percent and as of December 31, 2008, the ratio was 93.6 percent, which is within the Corporation’s acceptable range.
The following table shows the composition of the Bank’s loan portfolio as of December 31, ($ in 000’s):
                                                                                 
    2009     2008     2007     2006     2005  
            % of             % of             % of             % of             % of  
    Amount     Total     Amount     Total     Amount     Total     Amount     Total     Amount     Total  
TYPES OF LOANS
                                                                               
Commercial
  $ 273,117       31.6 %   $ 307,409       34.0 %   $ 279,109       33.6 %   $ 253,745       33.9 %   $ 234,216       34.3 %
Construction
    75,615       8.7 %     83,822       9.3 %     82,581       9.9 %     57,083       7.7 %     50,173       7.3 %
Commercial Mortgage
    232,841       26.9 %     217,445       24.0 %     175,027       21.1 %     164,256       22.1 %     156,108       22.8 %
Residential Mortgage
    254,722       29.5 %     260,354       28.8 %     243,015       29.3 %     217,170       29.2 %     196,045       28.6 %
Consumer
    24,488       2.8 %     31,833       3.5 %     47,550       5.7 %     49,575       6.7 %     45,188       6.6 %
Credit Cards
    3,939       0.5 %     3,344       0.4 %     3,046       0.4 %     2,709       0.4 %     2,737       0.4 %
 
       
Other
          0.0 %           0.0 %           0.0 %           0.0 %     20       0.0 %
 
                                                           
Total — Gross
  $ 864,722       100.0 %   $ 904,207       100.0 %   $ 830,328       100.0 %   $ 744,538       100.0 %   $ 684,487       100.0 %
 
                                                                     
 
       
Allowance
    (13,716 )             (12,847 )             (9,453 )             (8,513 )             (8,346 )        
 
                                                                     
 
       
Total — Net
  $ 851,006             $ 891,360             $ 820,875             $ 736,025             $ 676,141          
 
                                                                     
The following table shows the composition of the commercial loan category by industry type as of December 31, ($ in $000’s):
                                                                                 
    2009     2008     2007     2006     2005  
Type   Amount     %     Amount     %     Amount     %     Amount     %     Amount     %  
 
       
Agriculture, Foresty & Fishing
  $ 355       0.1 %   $ 369       0.1 %   $ 307       0.1 %   $ 355       0.1 %   $ 1,136       0.5 %
Mining
    5,162       1.9 %     6,947       2.3 %     5,136       1.8 %     5,123       2.0 %     2,574       1.1 %
Utilities
    27       0.0 %     31       0.0 %     28       0.0 %           0.0 %           0.0 %
Construction
    7,593       2.8 %     14,417       4.7 %     10,885       3.9 %     9,367       3.7 %     9,527       4.1 %
Manufacturing
    41,814       15.3 %     38,979       12.7 %     43,067       15.4 %     46,982       18.5 %     37,988       16.2 %
Wholesale Trade
    38,428       14.1 %     37,627       12.2 %     40,889       14.6 %     30,421       12.0 %     30,850       13.2 %
Retail Trade
    6,391       2.3 %     6,025       2.0 %     7,257       2.6 %     7,090       2.8 %     4,330       1.9 %
Transportation
    17,479       6.4 %     18,045       5.9 %     16,635       6.0 %     9,617       3.8 %     7,793       3.3 %
Information
    737       0.3 %     123       0.0 %     140       0.0 %     606       0.2 %     945       0.4 %
Finance & Insurance
    10,952       4.0 %     10,667       3.5 %     6,866       2.5 %     5,050       2.0 %     3,845       1.6 %
Real Estate and Rental & Leasing
    50,336       18.5 %     58,624       18.9 %     44,657       16.0 %     52,833       20.8 %     47,627       20.2 %
Professional, Scientific & Technical Services
    31,217       11.4 %     39,809       13.0 %     37,345       13.4 %     30,146       11.9 %     31,565       13.5 %
Management of Companies & Enterprises
    1,803       0.7 %     2,521       0.8 %     2,652       1.0 %     3,928       1.6 %     1,576       0.7 %
Administrative and Support, Waste Management & Remediation Services
    1,857       0.7 %     2,367       0.8 %     2,428       0.9 %     2,453       1.0 %     1,476       0.6 %
Educational Services
    3,359       1.2 %     4,919       1.6 %     4,270       1.5 %     5,160       2.0 %     4,384       1.9 %
Health Care & Social Assistance
    29,278       10.7 %     32,063       10.4 %     26,264       9.4 %     25,160       9.9 %     19,494       8.3 %
Arts, Entertainment & Recreation
    2,704       1.0 %     3,013       1.0 %     2,093       0.8 %     1,678       0.7 %     1,759       0.8 %
Accommodation & Food Services
    3,059       1.1 %     3,627       1.2 %     3,908       1.4 %     6,777       2.7 %     6,842       2.9 %
Other Services
    20,566       7.5 %     27,236       8.9 %     24,282       8.7 %     10,999       4.3 %     20,505       8.8 %
 
                                                           
 
  $ 273,117       100.0 %   $ 307,409       100.0 %   $ 279,109       100.0 %   $ 253,745       100.0 %   $ 234,216       100.0 %
 
                                                           

 

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The following table shows the composition of the Bank’s deposit portfolio as of December 31, ($ in 000’s):
                                                 
    2009     2008     2007  
            % of             % of             % of  
    Amount     Total     Amount     Total     Amount     Total  
TYPES OF DEPOSITS
                                               
Demand
  $ 192,705       22.86 %   $ 178,656       23.75 %   $ 180,590       22.30 %
MMDA/Savings
    650,353       77.14 %     573,679       76.25 %     629,342       77.70 %
 
                                   
Total Demand Deposits
    843,058       100.00 %     752,335       100.00 %     809,932       100.00 %
 
                                         
 
                                               
CDs < $100,000
    62,769       30.03 %     63,590       29.77 %     71,503       36.70 %
CDs > $100,000
    124,085       59.37 %     131,426       61.52 %     104,238       53.50 %
Individual Retirement Accounts
    22,153       10.60 %     18,615       8.71 %     19,089       9.80 %
 
                                   
Total Certificates of Deposit
    209,007       100.00 %     213,631       100.00 %     194,830       100.00 %
 
                                   
 
       
Total Deposits
  $ 1,052,065             $ 965,966             $ 1,004,762          
 
                                         

 

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The following table ($ in 000’s) illustrates the projected maturities and the repricing mechanisms of the major asset/liabilities categories of the Corporation as of December 31, 2009, based on certain assumptions. Prepayment rate assumptions have been made for the residential loans secured by real estate portfolio. Maturity and repricing dates for investments have been projected by applying the assumptions set forth below to contractual maturity and repricing dates. A 12% run off assumption is used for Demand Deposits.
                                                                 
    0 – 180     181 – 365     1 – 2     2 – 3     3 – 5     5 +     Non-interest        
    days     days     years     years     years     years     Earning     Total  
 
                                                               
Interest Earning Assets:
                                                               
Cash and due from banks
  $ 149,375                                         $ 149,375  
Reverse repurchase agreements
    1,000                                                       1,000  
Federal funds sold
    1,242                                                       1,242  
Investments
    19,360       34,212       23,052       32,695       14,781       38,118             162,218  
Federal reserve and FHLB stock
    2,188                               962             3,150  
Loans
                                                               
Commercial & Industrial
                                                               
Fixed
    16,952       5,562       16,167       9,648       10,703       4,858       734       64,624  
Variable
    204,488       212       489       336       25             2,943       208,493  
Construction
    53,769       4       154             775             2,305       57,007  
Commercial Loans Secured by Real Estate
                                                               
Fixed
    7,840       15,205       19,571       16,689       27,293       17,343       716       104,657  
Variable
    108,148       4,529       5,303       787       2,093             7,324       128,184  
Residential Loans Secured by Real Estate
                                                               
Fixed
    54,315       21,248       19,014       6,158       2,725       411       500       104,371  
Variable
    137,670       9,524       7,738       5,467       6,830       1,153       577       168,959  
Other
                                                               
Fixed
    1,325       760       1,414       1,099       1,981                   6,579  
Variable
    21,848                                           21,848  
 
                                               
 
                                                               
Total Interest Earning Assets
  $ 779,520     $ 91,256     $ 92,902     $ 72,879     $ 67,206     $ 62,845     $ 15,099     $ 1,181,707  
 
                                               
 
                                                               
Non-Interest Earning Assets
                                                    51,923       51,923  
 
                                               
 
                                                               
Total Assets
  $ 779,520     $ 91,256     $ 92,902     $ 72,879     $ 67,206     $ 62,845     $ 67,022     $ 1,233,630  
 
                                               
 
                                                               
Interest Bearing Liabilities:
                                                               
Demand Deposits
  $ 11,234     $ 10,704     $ 19,566     $ 17,343     $ 28,998     $ 104,860     $     $ 192,705  
Interest Bearing Demand
    200,831                                                       200,831  
Savings Deposits
    21,667                                                       21,667  
Money Market Accounts
    427,855                                                       427,855  
Certificate of Deposits
    35,359       24,182       7,490       3,046       5,298       1,694             77,069  
Jumbo CDs
    67,050       46,258       11,907       2,519       3,182       1,022               131,938  
Repurchase agreements and other short-term secured borrowings
    75,643       1,650       4,021                                       81,314  
Short-term debt
    126       4,012                                               4,138  
Subordinated Debt
    5,000                                                       5,000  
Company obligated mandatorily redeemable preferred capital securities of subsidiary trust holding solely the junior subordinated debentures of the parent company
                                            13,918               13,918  
 
                                               
Total Interest Bearing Liabilities
  $ 844,765     $ 86,806     $ 42,984     $ 22,908     $ 37,478     $ 121,494     $     $ 1,156,435  
 
                                                               
Non-Interest Bearing Liabilities
                                                    4,164       4,164  
 
                                                               
Equity
                                                    73,031       73,031  
 
                                               
 
                                                               
Total Liabilities & Shareholders’ Equity
  $ 844,765     $ 86,806     $ 42,984     $ 22,908     $ 37,478     $ 121,494     $ 77,195     $ 1,233,630  
 
                                               
 
                                                               
Interest Sensitivy Gap per Period
  $ (65,245 )   $ 4,450     $ 49,918     $ 49,971     $ 29,728     $ (58,649 )   $ (10,173 )        
 
                                                               
Cumulative Interest Sensitivity Gap
  $ (65,245 )   $ (60,795 )   $ (10,877 )   $ 39,094     $ 68,822     $ 10,173     $          
 
                                                               
Interest Sensitivity Gap as a Percentage of Earning Assets
    -5.59 %     0.38 %     4.28 %     4.28 %     2.55 %     -5.03 %     -0.87 %        
 
                                                               
Cumulative Sensitivity Gap as a Percentage of Earning Assets
    -5.59 %     -5.21 %     -0.93 %     3.35 %     5.90 %     0.87 %     0.00 %        
Of the $67.1 million Jumbo CDs maturing in 0 — 180 days, $41.7 million will mature in three months or less.

 

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Contractual Obligations
The following table ($ in 000’s) presents, as of December 31, 2009, significant fixed and determinable contractual obligations to third parties by payment date. Further discussion of the nature of each obligation is included in the referenced notes to the Consolidated Financial Statements under Item 8 of this report.
                                                 
    Payments Due In  
    Note     Less than One     One to Two     Three to Five     Over Five        
    Reference     Year     Years     Years     Years     Total  
Deposits without a stated maturity(a)
          $ 843,058     $     $     $     $ 843,058  
Consumer certificates of deposits(a)
    9       172,849       24,962       8,480       2,716       209,007  
Revolving line of credit(a)
    10       4,200                         4,200  
Security repurchase agreements and other secured short-term borrowings(a)
    10       77,293       4,021                   81,314  
Long-term debt(a)
    5,10                         18,918       18,918  
Operating leases
    7       398       702       678       1,001       2,779  
     
(a)  
Excludes Interest
The Corporation’s operating lease obligations represent rental payments for banking center offices.
Critical Accounting Policies
The Corporation’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow general practices within the industries in which it operates. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions, and judgments are necessary when assets and liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants an impairment write-down or valuation reserve to be established, or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets are based either on quoted market prices or are provided by other third-party sources, when available. When third-party information is not available, valuation adjustments are estimated in good faith by management primarily through the use of internal cash flow modeling techniques.
Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has identified the valuation of the mortgage servicing asset, the valuation of investment securities, and the determination of the allowance for loan losses to be the accounting areas that require the most subjective or complex judgments, and as such could be most subject to revision as new information becomes available.

 

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Mortgage Servicing Assets
Mortgage servicing rights are recognized separately when they are acquired through sales of loans. Capitalized mortgage servicing rights are reported in other assets. When mortgage loans are sold, servicing rights are initially recorded at fair value with the income statement effect recorded in gains on sales of loans. Fair value is based on a valuation model that calculates the present value of estimated future net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as the cost to service, the discount rate, the custodial earnings rate, an inflation rate, ancillary income, prepayment speeds and default rates and losses. The Corporation obtains fair value estimates from an independent third party and compares significant valuation model inputs to published industry data in order to validate the model assumptions and results.
Under the fair value measurement method, the Corporation measures servicing rights at fair value at each reporting date and reports changes in fair value of servicing assets in earnings in the period in which the changes occur, and these changes are included in mortgage banking income on the income statement. The fair values of servicing rights are subject to significant fluctuations as a result of changes in estimated and actual prepayment speeds and default rates and losses.
Investment Securities Valuation
When the Corporation classifies debt securities as held-to-maturity, it has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost. Debt securities not classified as held-to-maturity are classified as available-for-sale. Available-for-sale securities are stated at fair value, with the unrealized gains and losses, net of tax, reported as a component of other comprehensive income. Interest income includes amortization of purchase premium or discount. Premiums and discounts on securities are amortized on the level-yield method without anticipating prepayments, except for mortgage backed securities where prepayments are anticipated. Gains and losses on sales are recorded on the trade date and determined using the specific identification method.
The Corporation obtains fair values from a third party on a monthly basis in order to adjust the available-for-sale securities to fair value. Equity securities that do not have readily determinable fair values are carried at cost. When other-than-temporary-impairment (“OTTI”) occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss. If an entity intends to sell or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost basis less any current-period loss, the OTTI shall be separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the total OTTI related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment. In determining whether a market value decline is other-than-temporary, management considers the reason for the decline, the extent of the decline and the duration of the decline. Management evaluates securities for OTTI at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation.

 

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Allowance for Loan Losses
The allowance for loan losses is a valuation allowance for probable incurred credit losses. The allowance for loan losses is established through provisions for loan losses charged against income. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance for loan losses.
Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off.
Within the allowance, there are specific and general loss components. The specific loss component is assessed for non-homogeneous loans that management believes to be impaired. Loans are considered to be impaired when it is determined that the obligor will not pay all contractual principal and interest due. For loans determined to be impaired, the loan’s carrying value is compared to its fair value using one of the following fair value measurement techniques: present value of expected future cash flows, observable market price, or fair value of the associated collateral less costs to sell. An allowance is established when the fair value is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for current factors. These loans are segregated by major product type and/or risk grade with an estimated loss ratio applied against each product type and/or risk grade. The loss ratio is generally based upon historic loss experience for each loan type as adjusted for certain environmental factors management believes to be relevant.
It is the policy of the Corporation to promptly charge off any commercial loan, or portion thereof, which is deemed to be uncollectible. This includes, but is not limited to, any loan rated “Loss” by the regulatory authorities. Impaired commercial credits are considered on a case-by-case basis. An assessment of the adequacy of the allowance is performed on a quarterly basis. Management believes the allowance for loan losses is maintained at a level that is adequate to absorb probable incurred losses inherent in the loan portfolio.

 

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The following table shows the dollar amount of the allowance for loan losses using management’s estimate by loan category as of December 31, ($ in $000’s):
                                         
    2009     2008     2007     2006     2005  
Commercial
  $ 4,155     $ 5,113     $ 3,422     $ 3,870     $ 4,204  
Construction
    2,443       1,650       1,381       448       404  
Commercial Mortgage
    3,836       2,378       1,724       1,529       1,319  
Residential Mortgage
    3,003       3,332       2,445       2,165       1,758  
Consumer
    53       262       400       410       586  
Credit Card
    189       61       74       73       74  
Other
    37       51       7       18       1  
 
                             
Total
  $ 13,716     $ 12,847     $ 9,453     $ 8,513     $ 8,346  
 
                             

 

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Management considers the present allowance to be appropriate and adequate to cover losses inherent in the loan portfolio based on the current economic environment. However, future economic changes cannot be predicted. Deterioration in economic conditions could result in an increase in the risk characteristics of the loan portfolio and an increase in the provision for loan losses.
Loans are placed on non-accrual status when significant doubt exists as to the collectibility of principal and interest. Interest continues to legally accrue on these nonaccrual loans, but no income is recognized for financial statement purposes. Both principal and interest payments received on non-accrual loans are applied to the outstanding principal balance until the remaining balance is considered collectible, at which time interest income may be recognized when received.
The following table presents a summary of non-performing loans as of December 31, ($ in 000’s):
                                                                                 
    2009     2008     2007     2006     2005  
            % of             % of             % of             % of             % of  
    Amount     Total     Amount     Total     Amount     Total     Amount     Total     Amount     Total  
 
                                                                               
Commercial
  $ 3,422       22.7 %   $ 3,429       39.1 %   $ 316       5.5 %   $ 4,754       66.5 %   $ 1,055       28.9 %
Construction
    2,305       15.3 %           0.0 %     1,466       25.4 %           0.0 %           0.0 %
Commercial Mortgage
    8,040       53.2 %     3,085       35.2 %     2,025       35.2 %     1,220       17.1 %     629       17.2 %
Residential Mortgage
    1,332       8.8 %     2,243       25.5 %     1,851       32.1 %     1,039       14.5 %     1,777       48.8 %
Consumer
          0.0 %     17       0.2 %     104       1.8 %     139       1.9 %     187       5.1 %
 
                                                           
Total
  $ 15,099       100.0 %   $ 8,774       100.0 %   $ 5,762       100.0 %   $ 7,152       100.0 %   $ 3,648       100.0 %
 
                                                           
 
                                                                               
Loans 90 Days Past Due — Still Accruing
  $ 7             $ 4             $ 27             $ 33             $          
 
                                                                               
Restructured due to troubled conditions of the borrower
  $             $             $             $             $          
The primary reasons for the increase in the allowance for loan losses from December 31, 2008, to December 31, 2009, were:
   
an increase of $962 thousand in the allocation for classified loans not impaired due mainly to commercial mortgages and construction loan portfolios;
   
an increase of $1,683 thousand in the general allocation related largely to credit deterioration in commercial, commercial mortgages, and construction portfolios;
   
an increase of $35 thousand in the specific loan allocation;
   
a decrease of $1,379 thousand in the allocation of qualitative factors considered for the entire loan portfolio;
   
a decrease of $432 thousand for the allocation for special mention loans.

 

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The following table presents a summary of non-performing loans as of December 31, ($ in 000’s):
                                         
    2009     2008     2007     2006     2005  
Loan Type
                                       
Commercial
                                       
# of loans
    11       25       4       9       12  
Interest income recognized
  $ 37     $ 140     $ 34     $ 188     $ 57  
Additional interest income if loan had been accruing
  $ 180     $ 148     $ 62     $ 138     $ 111  
 
                                       
Commercial Construction
                                       
# of loans
    3             1              
Interest income recognized
  $ 178     $     $ 105     $     $  
Additional interest income if loan had been accruing
  $ 13     $     $ 10     $     $  
 
                                       
Commercial Mortgage
                                       
# of loans
    8       5       3       1       3  
Interest income recognized
  $ 354     $ 110     $ 51     $ 18     $  
Additional interest income if loan had been accruing
  $ 146     $ 122     $ 127     $ 10     $ 54  
 
                                       
Consumer
                                       
# of loans
    2       5       4       2       3  
Interest income recognized
  $     $ 1     $ 1     $     $  
Additional interest income if loan had been accruing
  $     $ 1     $ 20     $ 21     $ 22  
 
                                       
Residential Mortgage
                                       
# of loans
    27       17       15       23       20  
Interest income recognized
  $ 48     $ 73     $ 47     $ 12     $ 52  
Additional interest income if loan had been accruing
  $ 65     $ 72     $ 72     $ 80     $ 73  
 
                                       
Credit cards
                                       
# of loans
    2       3       6              
Interest income recognized
  $     $     $ 3     $     $  
Additional interest income if loan had been accruing
  $     $     $ 1     $     $  
 
                                       
Restructured loans
  $     $     $     $     $  

 

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Capital Resources
The Corporation has a $2 million revolving line of credit and a $3 million one-year term loan with U.S. Bank. See “Liquidity and Interest Rate Sensitivity” section on page 37 for further discussion.
The Bank entered into a $5 million subordinated term loan agreement with Harris Trust and Savings Bank dated June 6, 2003. The first advance was made in the amount of $2 million on June 6, 2003. The second advance was made in the amount of $3 million on May 3, 2004. The final maturity date of the loan was June 6, 2012. The outstanding principal balance was due at maturity, prepayment of the principal balance was permitted prior to maturity with prior consent from the Federal Reserve. On June 29, 2007, the Bank entered into a Subordinated Debenture Purchase Agreement with U.S. Bank in the amount of $5 million, which will mature on June 28, 2017.
The proceeds from the Subordinated Debenture Purchase Agreement with U.S. Bank were used to pay in full the Subordinated Term Loan Agreement with Harris Trust and Savings Bank in the amount of $5 million. Under the terms of the Subordinated Purchase Agreement, the Bank pays three-month LIBOR plus 1.20% which equated to 1.51% on December 31, 2009. Interest payments are due quarterly.
In September 2000, the Trust, which is wholly owned by the Corporation, issued $13,500 thousand of company obligated mandatorily redeemable capital securities. The proceeds from the issuance of the capital securities and the proceeds from the issuance of the common securities of $418 thousand were used by the Trust to purchase from the Corporation $13,918 thousand Fixed Rate Junior Subordinated Debentures. The capital securities mature September 7, 2030, or upon earlier redemption as provided by the Indenture. The Corporation has the right to redeem the capital securities, in whole or in part, but in all cases in a principal amount with integral multiples of $1 thousand on any March 7 or September 7 on or after September 7, 2010, at a premium, declining ratably to par on September 7, 2020. The capital securities and the debentures have a fixed interest rate of 10.60% and are guaranteed by the Bank. The net proceeds received by the Corporation from the sale of capital securities were used for general corporate purposes.
There were no FHLB advances outstanding as of December 31, 2009, and 2008. A schedule of the FHLB advances as of December 31, 2007, is as follows ($ in 000’s):
                     
Amount     Rate     Maturity  
$ 3,000     5.55%     10/02/2008  
                   
$ 3,000                  
                   
The Bank may add indebtedness of this nature in the future if determined to be in the best interest of the Bank.
Repurchase agreements and other secured short-term borrowings consist of security repurchase agreements and a non deposit product secured with the Corporation’s municipal portfolio. The majority of the non deposit product generally matures within a year. Security repurchase agreements generally mature within one to three days from the transaction date. At December 31, 2009, and 2008, the weighted average interest rate on these borrowings was 0.25% and 0.88%, respectively. During 2009, the maximum amount outstanding at any month-end during the year was $85.2 million. Due to the fact that security repurchase agreements are a sweep product used by our corporate clients, there is not a large volatility in the average balances, because of the core deposit base. Balances in excess of this core deposit base are generally invested in overnight Federal Funds sold or at the Federal Reserve. Thus, liquidity is not materially affected.

 

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Capital for the Bank is above well-capitalized regulatory requirements at December 31, 2009. Pertinent capital ratios for the Bank as of December 31, 2009 are as follows:
                         
            Well     Adequately  
    Actual     Capitalized     Capitalized  
Tier 1 risk-based capital ratio
    9.2 %     6.0 %     4.0 %
Total risk-based capital ratio
    10.9 %     10.0 %     8.0 %
Leverage ratio
    6.7 %     5.0 %     4.0 %
Dividends from the Bank to the Corporation may not exceed the net undivided profits of the Bank (included in consolidated retained earnings) for the current calendar year and the two previous calendar years without prior approval of the OCC. In addition, Federal banking laws limit the amount of loans the Bank may make to the Corporation, subject to certain collateral requirements. No loans were made during 2009 or 2008 by the Bank to the Corporation. A dividend of $1.4 million and $1.3 million was declared and made by the Bank to the Corporation during 2009 and 2008, respectively.
On November 20, 2008, the Board of Directors adopted a new three-year stock repurchase program for directors and employees. Under the new stock repurchase program, the Corporation may repurchase shares in individually negotiated transactions from time to time as such shares become available and spend up to $8 million to repurchase such shares over the three-year term. Subject to the $8 million limitation, the Corporation intends to purchase shares recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of restricted stock, and limit its acquisition of shares which were not recently acquired by the selling shareholder pursuant to the exercise of stock options or the vesting of shares of restricted stock to no more than 10,000 shares per year. Under the new repurchase plan, the Corporation purchased 5,514 shares during 2009 and as of December 31, 2009, approximately $5.9 million is still available under the new repurchase plan. The stock repurchase program does not require the Corporation to acquire any specific number of shares and may be modified, suspended, extended or terminated by the Corporation at any time without prior notice. The repurchase program will terminate on December 31, 2011, unless earlier suspended or discontinued by the Corporation.
The amount and timing of shares repurchased under the repurchase program, as well as the specific price, will be determined by management after considering market conditions, company performance and other factors.
Recent Accounting Pronouncements and Developments
Note 2 to the Consolidated Financial Statements under Item 8 discusses new accounting policies adopted by the Corporation during 2009 and the expected impact of accounting policies. Note 2 also discusses recently issued or proposed new accounting policies but not yet required to be adopted and the impact of the accounting policies if known. To the extent the adoption of new accounting standards materially affects financial conditions; results of operations, or liquidity, the impacts if known are discussed in the applicable section(s) of notes to consolidated financial statements.

 

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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This discussion contains certain forward-looking statements that are subject to risks and uncertainties and includes information about possible or assumed future results of operations. Many possible events or factors could affect our future financial results and performance. This could cause results or performance to differ materially from those expressed in our forward-looking statements. Words such as “expects,” “anticipates,” “believes,” “estimates,” variations of such words and other similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in, or implied by, such forward-looking statements. Readers should not rely solely on the forward-looking statements and should consider all uncertainties and risks discussed throughout this discussion. These statements are representative only on the date hereof.
The possible events or factors include, but are not limited to, the following matters. Loan growth is dependent on economic conditions, as well as various discretionary factors, such as decisions to sell or purchase certain loans or loan portfolios; participations of loans; retention of residential mortgage loans; the management of a borrower; industry, product and geographic concentrations and the mix of the loan portfolio. The rate of charge-offs and provision expense can be affected by local, regional and international economic and market conditions, concentrations of borrowers, industries, products and geographic locations, the mix of the loan portfolio and management’s judgments regarding the collectibility of loans. Liquidity requirements may change as a result of fluctuations in assets and liabilities and off-balance sheet exposures, which will impact our capital and debt financing needs and the mix of funding sources. Decisions to purchase, hold or sell securities are also dependent on liquidity requirements and market volatility, as well as on- and off-balance sheet positions. Factors that may impact interest rate risk include local, regional and international economic conditions, levels, mix, maturities, yields or rates of assets and liabilities, and the wholesale and retail funding sources of the Bank. There is exposure to the potential of losses arising from adverse changes in market rates and prices which can adversely impact the value of financial products, including securities, loans, deposits, debt and derivative financial instruments, such as futures, forwards, swaps, options and other financial instruments with similar characteristics.
In addition, the banking industry in general is subject to various monetary and fiscal policies and regulations, which include those determined by the Federal Reserve Board, the OCC, and the Federal Deposit Insurance Corporation (“FDIC”), whose policies and regulations could affect our results. Other factors that may cause actual results to differ from the forward-looking statements include the following: competition with other local, regional and international banks, thrifts, credit unions and other non-bank financial institutions, such as investment banking firms, investment advisory firms, brokerage firms, investment companies and insurance companies, as well as other entities which offer financial services, located both within and outside the United States and through alternative delivery channels such as the World Wide Web; interest rate, market and monetary fluctuations; inflation; market volatility; general economic conditions and economic conditions in the geographic regions and industries in which we operate; introduction and acceptance of new banking-related products, services and enhancements; fee pricing strategies, mergers and acquisitions and our ability to manage these and other risks.

 

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Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Market risk is the risk of loss due to adverse changes in market prices and rates. The Corporation’s market risk arises primarily from interest rate risk inherent in its lending and deposit taking activities. Management actively monitors and manages its interest rate exposure and makes monthly reports to ALCO. The ALCO is responsible for reviewing the interest rate sensitivity position and establishing policies to monitor and limit exposure to interest rate risk. The guidelines established by ALCO are reviewed by the ALCO/Investment Committee of the Corporation’s Board of Directors.
The Corporation’s profitability is affected by fluctuations in interest rates. A sudden and substantial increase in interest rates may adversely impact the Corporation’s earnings to the extent that the interest rates earned by assets and paid on liabilities do not change at the same speed, to the same extent, or on the same basis. The Corporation monitors the impact of changes in interest rates on its net interest income. The Corporation attempts to maintain a relatively neutral gap between earning assets and liabilities at various time intervals to minimize the effects of interest rate risk.
One of the primary goals of asset/liability management is to maximize net interest income and the net value of future cash flows within authorized risk limits. Net interest income is affected by changes in the absolute level of interest rates. Net interest income is also subject to changes in the shape of the yield curve. In general, a flattening of the yield curve would result in a decline in earnings due to the compression of earning asset yields and funding rates, while a steepening would result in increased earnings as investment margins widen. Earnings are also affected by changes in spread relationships between certain rate indices, such as prime rate.
Interest rate risk is monitored through earnings simulation modeling. The earnings simulation model projects changes in net interest income caused by the effect of changes in interest rates. The model requires management to make assumptions about how the balance sheet is likely to behave through time in different interest rate environments. Loan and deposit balances remain static and maturities reprice at the current market rate. The investment portfolio maturities and prepayments are assumed to be reinvested in similar instruments. Mortgage loan prepayment assumptions are developed from industry median estimates of prepayment speeds. Non-maturity deposit pricing is modeled on historical patterns. The Corporation performs a 200 basis point upward and downward interest rate shock to determine whether there would be an adverse impact on its annual net income and that it is within the established policy limits. At December 31, 2009 and 2008, a downward interest rate shock scenario was not performed due to the low level of current interest rates. The earnings simulation model as of December 31, 2009, projects an approximate decrease of 34.5% in net income in a 200 basis point upward interest rate shock. The Corporation was in violation of its policy limits established by the ALCO policy. Management believes there is a 0.00% probability that interest rates would rise 200 basis points immediately. Management performs additional interest rate scenarios that have higher probabilities of occurrence. In these rate scenarios, the change to net income is well within established limits. As of December 31, 2008, the earnings simulation model projected an approximate increase of 4.0% in net income in a 200 basis point upward interest rate shock. The upward interest rate shock is well within the policy limits established by the ALCO policy. Further discussion on interest rate sensitivity can be found on page 37.

 

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Item 8. Financial Statements and Supplementary Data
Management’s Report on Internal Control over Financial Reporting
Management of The National Bank of Indianapolis Corporation is responsible for the preparation, integrity, and fair presentation of the financial statements included in this annual report. The financial statements and notes have been prepared in conformity with United States generally accepted accounting principles and necessarily include some amounts that are based on management’s best estimates and judgments.
As management of The National Bank of Indianapolis Corporation, we are responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended) that is designed to produce reliable financial statements in conformity with United States generally accepted accounting principles. The system of internal control over financial reporting as it relates to the financial statements is evaluated for effectiveness by management and tested for reliability through a program of internal audits. Actions are taken to correct potential deficiencies as they are identified. Any system of internal control, no matter how well designed, has inherent limitations, including the possibility that a control can be circumvented or overridden and misstatements due to error or fraud may occur and not be detected. Also, because of changes in conditions, internal control effectiveness may vary over time. Accordingly, even an effective system of internal control will provide only reasonable assurance with respect to financial statement preparation.
Management assessed the system of internal control over financial reporting as of December 31, 2009, in relation to criteria for adequate internal control over financial reporting as described in “Internal Control — Integrated Framework,” issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management concludes that, as of December 31, 2009, its system of internal control over financial reporting is effective and meets the criteria of the “Internal Control — Integrated Framework.” Crowe Horwath LLP, independent registered public accounting firm, has issued an attestation report on the effectiveness of internal control over financial reporting.
         
/s/ Morris L. Maurer
  /s/ Debra L. Ross    
 
Morris L. Maurer
 
 
Debra L. Ross
   
President and Chief Executive Officer
  Senior Vice President and Chief Financial Officer    

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
The National Bank of Indianapolis Corporation
Indianapolis, Indiana
We have audited the accompanying consolidated balance sheets of The National Bank of Indianapolis Corporation as of December 31, 2009 and 2008, and the related consolidated statements of income, shareholders’ equity, and cash flows for the years then ended. We also have audited The National Bank of Indianapolis Corporation’s internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The National Bank of Indianapolis Corporation’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on these financial statements and an opinion on the company’s internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of The National Bank of Indianapolis Corporation as of December 31, 2009 and 2008, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion The National Bank of Indianapolis Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control — Integrated Framework issued by the COSO.
/s/ Crowe Horwath LLP
Indianapolis, Indiana
March 12, 2010

 

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Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
The National Bank of Indianapolis Corporation
We have audited the accompanying consolidated statements of income, shareholders’ equity, and cash flows of The National Bank of Indianapolis Corporation (the Corporation) for the year ended December 31, 2007. These financial statements are the responsibility of the Corporation’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements of The National Bank of Indianapolis Corporation referred to above present fairly, in all material respects, the consolidated results of its operations and its cash flows for the year ended December 31, 2007 in conformity with U.S. generally accepted accounting principles.
/s/ Ernst & Young LLP
March 7, 2008

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
                 
    2009     2008  
ASSETS
               
Cash and cash equivalents
               
Cash and due from banks
  $ 149,375     $ 29,819  
Reverse repurchase agreements
    1,000       1,000  
Federal funds sold
    1,242       601  
 
           
Total cash and cash equivalents
    151,617       31,420  
 
               
Investment securities
               
Available-for-sale securities
    67,296       56,977  
Held-to-maturity securities (fair value of $96,588 and $82,971 at December 31, 2009, and 2008)
    94,922       83,567  
 
           
Total investment securities
    162,218       140,544  
 
               
Loans
    864,722       904,207  
Less allowance for loan losses
    (13,716 )     (12,847 )
 
           
Net loans
    851,006       891,360  
Premises and equipment
    24,532       22,818  
Deferred tax asset
    7,133       5,749  
Accrued interest
    4,199       4,855  
Federal Reserve and FHLB stock
    3,150       3,150  
Other real estate owned and repossessions
    8,432       3,418  
Other assets
    21,343       14,470  
 
           
 
               
Total assets
  $ 1,233,630     $ 1,117,784  
 
           
 
               
LIABILITIES AND SHAREHOLDERS’ EQUITY
               
Deposits:
               
Non-interest-bearing demand deposits
  $ 192,705     $ 178,656  
Money market and savings deposits
    650,353       573,679  
Time deposits over $100
    131,938       136,814  
Other time deposits
    77,069       76,817  
 
           
Total deposits
    1,052,065       965,966  
Repurchase agreements and other secured short-term borrowings
    81,314       51,146  
Short-term debt
    4,138       4,200  
Subordinated debt
    5,000       5,000  
Junior subordinated debentures owed to unconsolidated subsidiary trust
    13,918       13,918  
Other liabilities
    4,164       5,342  
 
           
Total liabilities
    1,160,599       1,045,572  
Shareholders’ equity:
               
Preferred stock, no par value — authorized 5,000,000 shares
  $     $  
Common stock, no par value — authorized 15,000,000 shares issued 2,840,382 shares at December 31, 2009, and 2,778,311 shares at December 31, 2008
    34,440       33,136  
Treasury stock, at cost; 533,204 shares at December 31, 2009, and 484,130 shares at December 31, 2008
    (20,346 )     (18,481 )
Additional paid-in capital
    10,873       8,766  
Retained earnings
    48,067       47,955  
Accumulated other comprehensive income (loss)
    (3 )     836  
 
           
Total shareholders’ equity
    73,031       72,212  
 
           
 
               
Total liabilities and shareholders’ equity
  $ 1,233,630     $ 1,117,784  
 
           
See accompanying notes.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
                         
    2009     2008     2007  
Interest income:
                       
Interest and fees on loans
  $ 42,217     $ 48,988     $ 57,383  
Interest on investment securities taxable
    3,242       4,489       6,777  
Interest on investment securities nontaxable
    2,068       2,047       1,817  
Interest on federal funds sold
    4       705       2,492  
Interest on reverse repurchase agreements
          148       411  
 
                 
Total interest income
    47,531       56,377       68,880  
 
                       
Interest expense:
                       
Interest on deposits
    9,427       17,979       30,847  
Interest on other short term borrowings
    182       544       2,078  
Interest on FHLB advances and overnight borrowings
          193       463  
Interest on short-term debt
    121       16        
Interest on long-term debt
    1,583       1,717       1,875  
 
                 
Total interest expense
    11,313       20,449       35,263  
 
                 
Net interest income
    36,218       35,928       33,617  
 
                       
Provision for loan losses
    11,905       7,400       904  
 
                 
Net interest income after provision for loan losses
    24,313       28,528       32,713  
 
                       
Other operating income:
                       
Wealth management fees
    4,917       5,048       4,547  
Service charges and fees on deposit accounts
    3,113       2,484       1,818  
Rental income
    321       575       597  
Mortgage banking income
    1,576       62       329  
Interchange income
    1,007       877       678  
Other income
    1,969       2,158       1,865  
 
                 
Total other operating income
    12,903       11,204       9,834  
 
                       
Other operating expenses:
                       
Salaries, wages and employee benefits
    21,332       19,172       19,098  
Occupancy
    2,441       2,081       1,791  
Furniture and equipment
    1,359       1,428       1,241  
Professional services
    1,873       1,971       1,800  
Data processing
    2,752       2,514       2,200  
Business development
    1,531       1,526       1,292  
FDIC insurance
    2,142       918       99  
Non performing assets
    1,383       149       109  
Other
    3,541       4,947       3,170  
 
                 
Total other operating expenses
    38,354       34,706       30,800  
 
                 
 
                       
Income (loss) before tax
    (1,138 )     5,026       11,747  
Federal and state income tax (benefit)
    (1,250 )     1,242       3,856  
 
                 
 
                       
Net income
  $ 112     $ 3,784     $ 7,891  
 
                 
 
                       
Basic earnings per share
  $ 0.05     $ 1.64     $ 3.39  
 
                 
 
                       
Diluted earnings per share
  $ 0.05     $ 1.58     $ 3.27  
 
                 
See accompanying notes.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
                                                 
                                    Accumulated        
                    Additional             Other        
    Common     Treasury     Paid-In     Retained     Comprehensive        
    Stock     Stock     Capital     Earnings     Income (Loss)     Total  
 
                                               
Balance at January 1, 2007
  $ 30,386     $ (12,585 )   $ 6,236     $ 36,280     $ (533 )   $ 59,784  
 
                                               
Comprehensive income:
                                               
Net income
                      7,891             7,891  
Other comprehensive income
                                               
Net unrealized gain on investments, net of tax of $588
                            896       896  
Net unrealized gain on swap, net of tax of $64
                            97       97  
 
                                             
Total comprehensive income
                                            8,884  
 
                                               
Income tax benefit from deferred stock compensation
                552                   552  
Issuance of 63,567 shares of common stock under stock-based compensation plans
    1,719             (816 )                 904  
Repurchase of 47,718 shares of common stock
          (2,394 )                       (2,394 )
Stock based compensation earned
                1,209                   1,209  
 
                                   
 
                                               
Balance at December 31, 2007
    32,105       (14,979 )     7,181       44,171       460       68,938  
Comprehensive income:
                                               
Net income
                      3,784             3,784  
Other comprehensive income:
                                               
Net unrealized gain on investments, net of tax of $236
                            376       376  
 
                                             
 
                                               
Total comprehensive income
                                  4,160  
(Continued)

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
                                                 
                                    Accumulated        
                    Additional             Other        
    Common     Treasury     Paid-In     Retained     Comprehensive        
    Stock     Stock     Capital     Earnings     Income (Loss)     Total  
 
                                               
Income tax benefit from deferred stock compensation
  $     $     $ 321     $     $     $ 321  
Issuance of 36,873 shares of common stock under stock-based compensation plans
    1,031             (98 )                 933  
Repurchase of stock 69,027 shares of common stock
          (3,502 )                       (3,502 )
Stock based compensation earned
                1,362                   1,362  
 
                                   
 
                                               
Balance at December 31, 2008
    33,136       (18,481 )     8,766       47,955       836       72,212  
 
                                               
Comprehensive income:
                                               
Net income
                      112             112  
Other comprehensive income:
                                               
Net unrealized loss on investments, net of tax of $540
                            (839 )     (839 )
 
                                             
Total comprehensive loss
                                            (727 )
 
       
Income tax benefit from deferred stock compensation
                414                   414  
Issuance of 62,071 shares of common stock under stock-based compensation plans
    1,304             (60 )                 1,244  
Repurchase of 49,074 shares of common stock
          (1,865 )                       (1,865 )
Stock based compensation earned
                1,753                   1,753  
 
                                   
 
                                               
Balance at December 31, 2009
  $ 34,440     $ (20,346 )   $ 10,873     $ 48,067     $ (3 )   $ 73,031  
 
                                   
See accompanying notes.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOW
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
                         
    2009     2008     2007  
Operating Activities
                       
Net income
  $ 112     $ 3,784     $ 7,891  
Adjustments to reconcile net income to net cash provided by operating activities:
                       
Provision for loan losses
    11,905       7,400       904  
Proceeds from sale of loans
    70,930       40,594       15,188  
Origination of loans held for sale
    (69,691 )     (38,524 )     (15,003 )
Depreciation and amortization
    1,533       1,545       1,408  
Fair value adjustment on mortgage servicing rights
    334       715       145  
Gain on sale of loans
    (1,561 )     (499 )     (205 )
Gain on disposal of premises and equipment
                (1 )
Increase in deferred income taxes
    (845 )     (1,913 )     (325 )
Increase in bank owned life insurance
    (410 )     (450 )     (476 )
Excess tax benefit from deferred stock compensation
    (414 )     (321 )     (552 )
Stock compensation
    100       100       100  
Net accretion of discounts and amortization of premiums on investments
    480       309       175  
Compensation expense related to restricted stock and options
    1,753       1,362       1,209  
(Increase) decrease in:
                       
Accrued interest receivable
    656       610       12  
Other real estate owned and repossessions
    (5,013 )     (3,055 )     75  
Other assets
    (6,797 )     686       (917 )
Increase (decrease) in:
                       
Other liabilities
    (764 )     (3,352 )     2,055  
 
                 
 
                       
Net cash provided by operating activities
    2,308       8,991       11,683  
 
                       
Investing activities
                       
Proceeds from maturities of investment securities held-to-maturity
    19,904       16,377       14,284  
Proceeds from maturities of investment securities available-for-sale
    51,000       23,003       36,514  
Purchases of investment securities held-to-maturity
    (31,451 )     (28,417 )     (25 )
Purchases of investment securities available-for-sale
    (62,986 )     (17,180 )     (36,501 )
Net (increase) decrease in loans
    28,771       (79,456 )     (85,734 )
Purchases of premises and equipment
    (3,247 )     (6,947 )     (6,756 )
 
                 
 
                       
Net cash provided (used) by investing activities
    1,991       (92,620 )     (78,218 )
 
                       
Financing activities
                       
Net increase (decrease) in deposits
    86,099       (38,796 )     129,677  
Net increase (decrease) in repurchase agreements and other secured short-term borrowings
    30,168       (7,330 )     (657 )
Net change in FHLB borrowings
          (3,000 )     (11,000 )
Proceeds from issuance of long-term debt
                5,000  
Repayment of long-term debt
                (5,000 )
Net change in short-term debt
    (62 )     4,200        
Income tax benefit from deferred stock compensation
    414       321       552  
Proceeds from issuance of stock
    1,144       833       804  
Repurchase of stock
    (1,865 )     (3,502 )     (2,394 )
 
                 
 
                       
Net cash provided (used) by financing activities
    115,898       (47,274 )     116,982  
 
                 
 
                       
Increase (decrease) in cash and cash equivalents
    120,197       (130,903 )     50,447  
Cash and cash equivalents at beginning of year
    31,420       162,323       111,876  
 
                 
 
                       
Cash and cash equivalents at end of year
  $ 151,617     $ 31,420     $ 162,323  
 
                 
 
                       
Interest paid
  $ 11,377     $ 21,050     $ 35,052  
 
                 
 
                       
Income taxes paid
  $ 1,612     $ 3,755     $ 2,669  
 
                 
See accompanying notes.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 1 — ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Principles of Consolidation: The National Bank of Indianapolis Corporation (the Corporation) was incorporated in the state of Indiana on January 29, 1993. The Corporation subsequently formed a de novo national bank, The National Bank of Indianapolis (the Bank), and a statutory trust, NBIN Statutory Trust I (the Trust). The Bank is a wholly owned subsidiary and commenced operations in December 1993. The Trust was formed in September 2000 as part of the issuance of trust preferred capital securities.
The Corporation and the Bank engage in a wide range of commercial, personal banking, and trust activities primarily in central Indiana. Its primary deposit products are checking, savings, and term certificate accounts, and its primary lending products are residential mortgage, commercial, and installment loans. Substantially all loans are secured by specific items of collateral including business assets, consumer assets, and commercial and residential real estate. Commercial loans are expected to be repaid from cash flow from operations of businesses. There are no significant concentrations of loans to any one industry or customer. However, the customers’ ability to repay their loans is dependent on the real estate and general economic conditions in the area.
The Corporation has a full-service Wealth Management division, which offers trust, estate, retirement and money management services. Income from wealth management services is recognized when earned.
The consolidated financial statements include the accounts of the Corporation and the Bank. In accordance with applicable consolidation guidance, the Corporation does not consolidate the Trust in its financial statements. See Note 4, “Junior Subordinated Debentures” in the notes to the consolidated financial statements of this report for further information. All intercompany accounts and transactions have been eliminated in consolidation.
Subsequent Events: The Corporation has evaluated subsequent events for recognition or disclosure through March 12, 2010, which is the date that the Corporation’s financial statements were issued.
Cash Flows: Cash and cash equivalents consist of cash, interest-bearing deposits, and instruments with maturities of one month or less when purchased. Interest-bearing deposits are available on demand. Net cash flows are reported for customer loan and deposit transactions, interest bearing deposits in other financial institutions, and federal funds purchased and repurchase agreements.
Investment Securities: Investments in debt securities are classified as held-to-maturity or available-for-sale. Management determines the appropriate classification of the securities at the time of purchase based on a policy approved by the Board of Directors.
When the Corporation classifies debt securities as held-to-maturity, it has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost.
Debt securities not classified as held-to-maturity are classified as available-for-sale. Available-for-sale securities are stated at fair value, with the unrealized gains and losses, net of tax, reported as a component of other comprehensive income.
Interest income includes amortization of purchase premium or discount. Premiums and discounts on securities are amortized on the level-yield method without anticipating prepayments, except for mortgage backed securities where prepayments are anticipated. Gains and losses on sales are recorded on the trade date and determined using the specific identification method.
The Corporation obtains fair values from a third party on a monthly basis in order to adjust the available-for-sale securities to fair value. Equity securities that do not have readily determinable fair values are carried at cost. Management evaluates securities for other-than-temporary-impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 1 — ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Federal Home Loan Bank (FHLB) and Federal Reserve Bank (FRB) Stock: The Bank is a member of FHLB Indianapolis. Members are required to own a certain amount of stock based on the level of borrowings and other factors, and may invest in additional amounts. FHLB and FRB stock is carried at cost, classified as a restricted security, and periodically evaluated for impairment based on ultimate recovery of par value. Both cash and stock dividends are reported as income.
Loans Held for Sale: The Corporation periodically sells residential mortgage loans it originates based on the overall loan demand of the Corporation and outstanding balances of the residential mortgage portfolio. Loans held for sale are carried at the lower of cost or market, determined on an aggregate basis. Gains from the sale of these loans into the secondary market are included in mortgage banking income. The determination of loans held for sale is based on the loan’s compliance with Federal National Mortgage Association (FNMA) underwriting standards.
Loans: Interest income on commercial, mortgage, and consumer loans are accrued on the principal amount of such loans outstanding and is recognized when earned. Loan origination fees and certain direct origination costs are deferred and recognized in interest income using the level-yield method without anticipating prepayments.
Loans are typically placed on non-accrual when they become past due ninety days or it is determined that the obligor will not pay all contractual principal and interest due. Unless there is a significant reason to the contrary, consumer loans are charged off when deemed uncollectible, but generally no later than when a loan is past due 150 days. Any accrued interest is charged against interest income. Interest continues to legally accrue on these non-accrual loans, but no income is recognized for financial statement purposes. Both principal and interest payments received on non-accrual loans are applied to the outstanding principal balance, until the remaining balance is considered collectible, at which time interest income may be recognized when received.
Allowance for Loan Losses: The allowance for loan losses is a valuation allowance for probable incurred credit losses. The allowance for loan losses is established through provisions for loan losses charged against income. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance for loan losses.
Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off.
Within the allowance, there are specific and general loss components. The specific loss component is assessed for non-homogeneous loans that management believes to be impaired. Loans are considered to be impaired when it is determined that the obligor will not pay all contractual principal and interest due. For loans determined to be impaired, the loan’s carrying value is compared to its fair value using one of the following fair value measurement techniques: present value of expected future cash flows, observable market price, or fair value of the associated collateral less costs to sell. An allowance is established when the fair value is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for current factors. These loans are segregated by major product type and/or risk grade with an estimated loss ratio applied against each product type and/or risk grade. The loss ratio is generally based upon historic loss experience for each loan type as adjusted for certain environmental factors management believes to be relevant.
It is the policy of the Corporation to promptly charge off any commercial loan, or portion thereof, which is deemed to be uncollectible. This includes, but is not limited to, any loan rated “Loss” by the regulatory authorities. Impaired commercial credits are considered on a case-by-case basis.
An assessment of the adequacy of the allowance is performed on a quarterly basis. Management believes the allowance for loan losses is maintained at a level that is adequate to absorb probable incurred losses inherent in the loan portfolio.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 1 — ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Mortgage Servicing Rights: Mortgage servicing rights are recognized separately when they are acquired through sales of loans. Capitalized mortgage servicing rights are reported in other assets. When mortgage loans are sold, servicing rights are initially recorded at fair value with the income statement effect recorded in gains on sales of loans. Fair value is based on a valuation model that calculates the present value of estimated future net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as the cost to service, the discount rate, the custodial earnings rate, an inflation rate, ancillary income, prepayment speeds and default rates and losses. The Corporation obtains fair value estimates from an independent third party and compares significant valuation model inputs to published industry data in order to validate the model assumptions and results.
Under the fair value measurement method, the Corporation measures servicing rights at fair value at each reporting date and reports changes in fair value of servicing assets in earnings in the period in which the changes occur, and are included in mortgage banking income on the income statement. The fair values of servicing rights are subject to significant fluctuations as a result of changes in estimated and actual prepayment speeds and default rates and losses.
Servicing fee income which is reported on the income statement as mortgage banking income is recorded for fees earned for servicing loans. The fees are based on a contractual percentage of the outstanding principal; or a fixed amount per loan and are recorded as income when earned. Servicing fees totaled $349, $278, and $269 for the years ended December 31, 2009, 2008 and 2007. Late fees and ancillary fees related to loan servicing are not material.
Transfer of Financial Assets: Transfers of financial assets are accounted for as sales, when control over the assets has been relinquished. Control over transferred assets is deemed to be surrendered when the assets have been isolated from the Corporation, the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and the Corporation does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
Loan Commitments and Related Financial Instruments: Financial instruments include off-balance sheet credit instruments, such as commitments to make loans and commercial letters of credit, issued to meet customer financing needs. The face amount for these items represents the exposure to loss, before considering customer collateral or ability to repay. Such financial instruments are recorded when they are funded.
Derivative Instruments and Hedging Activities: During 2004, the Corporation entered into a three-year interest rate swap, which expired April 15, 2007. The interest rate swap was utilized to mitigate the risk of adverse interest rate movements on the value of future cash flows related to its investment in overnight Federal Funds sold. Cash flow hedges are accounted for by recording the fair value of the derivative instrument on the consolidated balance sheets as either an asset or liability, with a corresponding offset recorded in other comprehensive income within shareholders’ equity, net of tax, to the extent the hedge was effective.
Under the cash flow hedge accounting method, derivative gains and losses not effective in hedging the change in expected cash flows of the hedged item were recognized immediately in the consolidated income statements. At the hedge’s inception and quarterly thereafter, a formal assessment was performed to determine whether changes in cash flows of the derivative instrument had been highly effective in offsetting changes in the cash flows of the hedged item and whether they were expected to be highly effective in the future. If it was determined a derivative instrument had not been highly effective as a hedge, hedge accounting was discontinued. There were no outstanding derivative instruments as of December 31, 2009 and 2008.
Premises and Equipment: Premises and equipment are stated at cost less accumulated depreciation computed by the straight-line method over their useful lives or, for leasehold improvements, the shorter of the remaining lease term or useful life of the asset. Maintenance and repairs are charged to operating expense when incurred, while improvements that extend the useful life of the assets are capitalized and depreciated over the estimated remaining life.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 1 — ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Foreclosed Assets: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through non performing assets expense. Operating costs after acquisition are expensed.
Bank-Owned Life Insurance: The Corporation owns bank-owned life insurance (BOLI) on certain officers. BOLI is recorded at the amount that can be realized under the insurance contract at the balance sheet date, which is the cash surrender value adjusted for other charges or other amounts due that are probable at settlement.
Changes in the cash surrender values are included in other income. At December 31, 2009, 2008 and 2007, income recorded from BOLI totaled $410, $450 and $476, respectively.
Long-Term Assets: Premises and equipment and other long-term assets are reviewed for impairment when events indicate their carrying amount may not be recoverable from future undiscounted cash flows. If impaired, the assets are recorded at fair value.
Securities Purchased Under Resale Agreements and Securities Sold Under Repurchase Agreements: Securities purchased under resale agreements (also known as reverse repurchase agreements) and securities sold under repurchase agreements are generally treated as collateralized financing transactions and are recorded at the amount at which the securities were acquired or sold plus accrued interest. Securities, generally U.S. government and Federal agency securities, pledged as collateral under these financing arrangements cannot be sold by the secured party. The fair value of collateral either received from or provided to a third party is monitored and additional collateral is obtained or requested to be returned as deemed appropriate.
Comprehensive Income: Comprehensive income is defined as net income plus other comprehensive income, which, under existing accounting standards, includes unrealized gains and losses on available-for-sale debt securities and unrealized gains or losses on interest rate swaps utilized in an effective cash flow hedge program, net of deferred taxes. Comprehensive income is reported by the Corporation in the consolidated statements of shareholders’ equity.
Earnings Per Share: Basic earnings per share is computed by dividing net income available to common shareholders by the weighted-average number of shares of common stock outstanding for the period. Diluted earnings per share is computed by dividing net income applicable to common shareholders by the sum of the weighted-average number of shares and the potentially dilutive shares that could be issued through stock award programs or convertible securities.
Loss Contingencies: Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated. Based upon information presently available, we believe that the total amounts, if any, that will ultimately be paid arising from these claims and legal actions are reflected in the consolidated results of operations and financial position.
Fair Values of Financial Instruments: The fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in a separate note. Fair value estimates involve uncertainties and matters of significant judgment concerning several factors, especially in the absence of broad markets for particular items. Changes in assumptions or in market conditions could significantly affect the estimates.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 1 — ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Stock-Based Compensation: Compensation cost is recognized for stock options and restricted stock awards issued to employees, based on the fair value of these awards at the date of grant. A Black-Scholes model is utilized to estimate the fair value of stock options, while the market price of the Corporation’s common stock at the date of grant is used for restricted stock awards. Compensation cost is recognized over the required service period, generally defined as the vesting period. For awards with a cliff vest, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award.
New shares are issued upon share option exercise or restricted stock vesting from common stock.
Retirement Plans: Employee 401(k) expense is the amount of matching contributions.
Reportable Segments: The Corporation has determined that it has one reportable segment, banking services. The Bank provides a full range of deposit, credit, and money management services to its target markets, which are small to medium size businesses, affluent executive and professional individuals, and not-for-profit organizations in the Indianapolis Metropolitan Statistical Area of Indiana.
Income Taxes: The Corporation and the Bank file a consolidated federal income tax return. The provision for income taxes is based upon income in the financial statements, rather than amounts reported on the Corporation’s income tax return.
Income tax expense is the total of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in years in which those temporary differences are expected to be recovered or settled. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.
The Corporation adopted guidance issued by the FASB with respect to accounting for uncertainty in income taxes as of January 1, 2008. A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. The adoption had no effect on the Corporation’s financial statements.
The Corporation recognizes interest and/or penalties related to income tax matters in income tax expense.
Use of Estimates: The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. The allowance for loan losses, loan servicing rights, and fair values of financial instruments are particularly subject to change.
NOTE 2 — NEW ACCOUNTING PRONOUNCEMENTS
In September 2006, the FASB issued guidance that defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. This guidance also establishes a fair value hierarchy about the assumptions used to measure fair value and clarifies assumptions about risk and the effect of a restriction on the sale or use of an asset. The guidance was effective for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued guidance that delayed the effective date of this fair value guidance for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The adoption of this statement did not have a material impact on the Corporation’s consolidated financial position or results of operations.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 2 — NEW ACCOUNTING PRONOUNCEMENTS (Continued)
In May 2009, the FASB issued guidance which requires the effects of events that occur subsequent to the balance-sheet date be evaluated through the date the financial statements are either issued or available to be issued. Companies should disclose the date through which subsequent events have been evaluated and whether that date is the date the financial statements were issued or the date the financial statements were available to be issued.
Companies are required to reflect in their financial statements the effects of subsequent events that provide additional evidence about conditions at the balance-sheet date (recognized subsequent events). Companies are also prohibited from reflecting in their financial statements the effects of subsequent events that provide evidence about conditions that arose after the balance-sheet date (nonrecognized subsequent events), but requires information about those events to be disclosed if the financial statements would otherwise be misleading. This guidance was effective for interim and annual financial periods ending after June 15, 2009, with prospective application. The adoption of this statement did not have a material impact on the Corporation’s consolidated financial position or results of operations.
In June 2009, the FASB replaced The Hierarchy of Generally Accepted Accounting Principles, with the FASB Accounting Standards Codification TM (The Codification) as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with GAAP. Rules and interpretive releases of the Securities and Exchange Commission under authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. The Codification was effective for financial statements issued for periods ending after September 15, 2009.
In April 2009, the FASB amended existing guidance for determining whether impairment is other-than-temporary for debt securities. The guidance requires an entity to assess whether it intends to sell, or it is more likely than not that it will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. If either of these criteria is met, the entire difference between amortized cost and fair value is recognized as impairment through earnings. For securities that do not meet the aforementioned criteria, the amount of impairment is split into two components as follows: 1) other-than-temporary impairment (OTTI) related to other factors, which is recognized in other comprehensive income and 2) OTTI related to credit loss, which must be recognized in the income statement. The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis. Additionally, disclosures about other-than-temporary impairments for debt and equity securities were expanded. This guidance was effective for interim and annual reporting periods ending after June 15, 2009. The adoption of this statement did not have a material impact on the Corporation’s consolidated financial position or results of operations.
In April 2009, the FASB issued guidance that emphasizes that the objective of a fair value measurement does not change even when market activity for the asset or liability has decreased significantly. Fair value is the price that would be received for an asset sold or paid to transfer a liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. When observable transactions or quoted prices are not considered orderly, then little, if any, weight should be assigned to the indication of the asset or liability’s fair value. Adjustments to those transactions or prices should be applied to determine the appropriate fair value. The guidance, which was applied prospectively, was effective for interim and annual reporting periods ending after June 15, 2009. The adoption of this statement did not have a material impact on the Corporation’s consolidated financial position or results of operations.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 2 — NEW ACCOUNTING PRONOUNCEMENTS (Continued)
Effect of Newly Issued But Not Yet Effective Accounting Standards: In June 2009, the FASB amended previous guidance relating to transfers of financial assets and eliminates the concept of a qualifying special purpose entity. This guidance must be applied as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter. This guidance must be applied to transfers occurring on or after the effective date. Additionally, on and after the effective date, the concept of a qualifying special-purpose entity is no longer relevant for accounting purposes. Therefore, formerly qualifying special-purpose entities should be evaluated for consolidation by reporting entities on and after the effective date in accordance with the applicable consolidation guidance. The disclosure provisions were also amended and apply to transfers that occurred both before and after the effective date of this guidance. The adoption of this standard is not expected to have a material effect on the Corporation’s results of operations or financial position.
In June 2009, the FASB amended guidance for consolidation of variable interest entity guidance by replacing the quantitative-based risks and rewards calculation for determining which enterprise, if any, has a controlling financial interest in a variable interest entity with an approach focused on identifying which enterprise has the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance and (1) the obligation to absorb losses of the entity or (2) the right to receive benefits from the entity.
Additional disclosures about an enterprise’s involvement in variable interest entities are also required. This guidance is effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter. Early adoption is prohibited. The adoption of this standard is not expected to have a material effect on the Corporation’s results of operations or financial position.
NOTE 3 — RESTRICTIONS ON CASH AND DUE FROM BANK ACCOUNTS
The Corporation is required to maintain average reserve balances with the Federal Reserve Bank or as cash on hand or on deposit with a correspondent bank. The required amount of reserve to be maintained at the Federal Reserve Bank was approximately $2,661 at December 31, 2009, and $25 at December 31, 2008.
NOTE 4 — JUNIOR SUBORDINATED DEBENTURES
In September 2000, the Corporation established the Trust, a Connecticut statutory business trust, which subsequently issued $13,500 of company obligated mandatorily redeemable capital securities and $418 of common securities. The proceeds from the issuance of both the capital and common securities were used by the Trust to purchase from the Corporation $13,918 fixed rate junior subordinated debentures. The capital securities and debentures mature September 7, 2030, or upon earlier redemption as provided by the Indenture. The Corporation has the right to redeem the capital securities, in whole or in part, but in all cases, in a principal amount with integral multiples of $1, on any March 7 or September 7 on or after September 7, 2010, at a premium, declining ratably to par on September 7, 2020. The capital securities and the debentures have a fixed interest rate of 10.60% and are guaranteed by the Bank. The subordinated debentures are the sole assets of the Trust, and the Corporation owns all of the common securities of the Trust. The net proceeds received by the Corporation from the sale of capital securities were used for general corporate purposes. The indenture, dated September 7, 2000, requires compliance with certain non-financial covenants.
The Corporation is not considered the primary beneficiary of this Trust, therefore the trust is not consolidated in the Corporation’s financial statements. The junior subordinated debt obligation issued to the Trust of $13,918 is reflected in the Corporation’s consolidated balance sheets at December 31, 2009 and 2008. The junior subordinated debentures owed to the Trust and held by the Corporation qualify as Tier 1 capital for the Corporation under Federal Reserve Board guidelines.
Interest payments made on the junior subordinated debentures are reported as a component of interest expense on long-term debt.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 5 — INVESTMENT SECURITIES
The following is a summary of available-for-sale and held-to-maturity securities:
                                 
    Available for Sale Securities  
            Gross     Gross     Estimated  
    Amortized     Unrealized     Unrealized     Fair  
    Cost     Gain     Loss     Value  
2009
                               
U.S. Treasury securities
  $ 506     $     $     $ 506  
U.S. Government agencies
    66,795       97       102       66,790  
 
                       
 
  $ 67,301     $ 97     $ 102     $ 67,296  
 
                       
 
                               
2008
                               
U.S. Treasury securities
  $ 494     $ 5     $     $ 499  
U.S. Government agencies
    55,109       1,369             56,478  
 
                       
 
  $ 55,603     $ 1,374     $     $ 56,977  
 
                       
                                 
    Held-to-Maturity Securities  
            Gross     Gross     Estimated  
    Amortized     Unrecognized     Unrecognized     Fair  
    Cost     Gain     Loss     Value  
2009
                               
Municipals
  $ 54,913     $ 1,805     $ 47     $ 56,671  
Collateralized mortgage obligations, residential
    30,124       29       232       29,921  
Mortgage backed securities, residential
    9,735       111             9,846  
Other securities
    150                   150  
 
                       
 
  $ 94,922     $ 1,945     $ 279     $ 96,588  
 
                       
 
                               
2008
                               
Municipals
  $ 56,874     $ 213     $ 800     $ 56,287  
Collateralized mortgage obligations, residential
    8,825       12             8,837  
Mortgage backed securities, residential
    17,693       45       66       17,672  
Other securities
    175                   175  
 
                       
 
  $ 83,567     $ 270     $ 866     $ 82,971  
 
                       
The fair value of debt securities and carrying amount, if different, by contractual maturity were as follows. Securities not due at a single maturity date, primarily mortgage-backed securities, are shown separately. There were no sales of securities during 2009, 2008 or 2007.
                                 
    Held-to-Maturity     Available-for-Sale  
    Amortized     Fair     Amortized     Fair  
    Cost     Value     Cost     Value  
2009
                               
Due in one year or less
  $ 8,720     $ 8,784     $ 10,563     $ 10,629  
Due from one to five years
    8,190       8,428       56,738       56,667  
Due from five to ten years
    38,153       39,609              
CMOs/Mortgage-backed, residential
    39,859       39,767              
 
                       
 
  $ 94,922     $ 96,588     $ 67,301     $ 67,296  
 
                       

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 5 — INVESTMENT SECURITIES (Continued)
At year-end 2009 and 2008, there were no holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of shareholder equity.
Investment securities with a carrying value of approximately $83,000 and $51,000 were pledged as collateral for Wealth Management accounts and securities sold under agreements to repurchase at December 31, 2009, and December 31, 2008, respectively.
Securities with unrealized losses at year-end 2009 and 2008, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, are as follows:
                                                 
    Less Than 12 Months     12 Months or More     Total  
    Fair     Unrealized     Fair     Unrealized     Fair     Unrealized  
    Value     Loss     Value     Loss     Value     Loss  
2009
                                               
U.S. Government agencies
  $ 36,515     $ 102     $     $     $ 36,515     $ 102  
Collateralized mortgage Obligations, residential
    24,851       232                   24,851       232  
Municipal bonds
    1,796       10       1,424       37       3,220       47  
 
                                   
Total temporarily Impaired
  $ 63,162     $ 344     $ 1,424     $ 37     $ 64,586     $ 381  
 
                                   
 
                                               
2008
                                               
Mortgage backed securities, residential
  $ 14,035     $ 66     $     $     $ 14,035     $ 66  
Municipal bonds
    7,981       22       33,281       778       41,262       800  
 
                                   
Total temporarily Impaired
  $ 22,016     $ 88     $ 33,281     $ 778     $ 55,297     $ 866  
 
                                   
In determining other-than-temporary impairment (OTTI) for debt securities, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the Company has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.
When OTTI occurs, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss. If an entity intends to sell or it is more likely than not it will be required to sell the security before recovery of its amortized cost basis, less any current-period credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost basis less any current-period loss, the OTTI shall be separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the total OTTI related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 5 — INVESTMENT SECURITIES (Continued)
As of December 31, 2009, the Corporation held 21 investments for which the amortized cost was greater than fair value.
The unrealized losses for investments classified as available-for sale are attributable to changes in interest rates and individually are 0.87% or less of the respective amortized costs. The largest unrealized loss relates to one security issued by the Federal Home Loan Bank (“FHLB”). Given this investment is backed by the U.S. Government and its agencies, there is no credit risk.
The unrealized losses for investments classified as held-to-maturity are attributable to changes in interest rates and/or economic environment and individually were 5.0% or less of their respective amortized costs. The unrealized losses relate primarily to residential collateralized mortgage obligations and securities issued by various municipalities. The residential collateralized mortgage obligations were purchased in September 2009. Prepayments increased due to a decline in long-term interest rates from the time of the investment purchases and December 31, 2009, which affects the fair value of residential collateralized mortgage obligations. All residential collateralized mortgage obligations are backed by the U.S. Government and its agencies and represent no credit risk. The majority of securities issued by various municipalities that have an unrealized loss were purchased during 2005 and first quarter of 2006 when rates were lower. The largest unrealized loss relates to one municipal that was purchased February 2006. The credit rating of the individual municipalities is assessed monthly. As of December 31, 2009, all but five of the municipal debt securities were rated BBB or better (as a result of insurance of the underlying rating on the bond). These five municipal debt securities have no underlying rating. Credit reviews of the municipalities have been conducted. As a result, we have determined that all of our non-rated debt securities would be rated a “pass” asset and thus classified as an investment grade security. All interest payments are current for all municipal securities and management expects all to be collected in accordance with contractual terms.
NOTE 6 — LOANS AND ALLOWANCE FOR LOAN LOSSES
Loans, including net unamortized deferred fees and costs, consist of the following at December 31:
                 
    2009     2008  
 
               
Residential loans secured by real estate
  $ 254,722     $ 260,354  
Commercial loans secured by real estate
    232,841       217,445  
Construction loans
    75,615       83,822  
Other commercial and industrial loans
    273,117       307,409  
Consumer loans
    28,427       35,177  
 
           
Total loans
    864,722       904,207  
Less allowance for loan losses
    (13,716 )     (12,847 )
 
           
Total loans, net
  $ 851,006     $ 891,360  
 
           
The Corporation periodically sells residential mortgage loans it originates based on the overall loan demand of the Corporation and outstanding balances of the residential mortgage portfolio.
As of December 31, 2009 and 2008, loans held for sale totaled $884 and $969, respectively, and are included in the totals above.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 6 — LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
There were no loans pledged as collateral for FHLB advances as of December 31, 2009 and 2008.
Activity in the allowance for loan losses was as follows:
                         
    2009     2008     2007  
 
                       
Beginning balance
  $ 12,847     $ 9,453     $ 8,513  
Loan charge offs
    (11,432 )     (4,393 )     (882 )
Recoveries
    396       387       918  
Provision for loan losses
    11,905       7,400       904  
 
                 
Ending balance
  $ 13,716     $ 12,847     $ 9,453  
 
                 
Loans are considered to be impaired when it is determined that the obligor will not pay all contractual principal and interest when due. The table below provides information on impaired loans at December 31:
                         
    2009     2008     2007  
 
                       
Balance of impaired loans
  $ 15,106     $ 8,777     $ 5,789  
Related allowance on impaired loans
  $ 1,724     $ 1,689     $ 1,066  
Impaired loans with related allowance
  $ 7,844     $ 6,210     $ 3,358  
Impaired loans without an allowance
  $ 7,262     $ 2,567     $ 2,431  
Average balance of impaired loans
  $ 11,961     $ 7,708     $ 5,386  
Accrued interest recorded during impairment
  $     $ 1     $  
Cash basis interest income recognized
  $     $     $  
At December 31, 2009 and 2008, there were approximately $7 and $4, respectively, of loans greater than 90 days past due and still accruing interest. The total amount of non-accrual loans as of December 31, 2009 was $15,099 as compared to $8,773 at December 31, 2008.
NOTE 7 — PREMISES AND EQUIPMENT
Premises and equipment consist of the following at December 31:
                 
    2009     2008  
 
               
Land and improvements
  $ 8,893     $ 8,893  
Building and improvements
    14,507       12,548  
Leasehold improvements
    2,259       2,257  
Furniture and equipment
    13,624       12,339  
 
           
 
    39,283       36,037  
Less accumulated depreciation and amortization
    (14,751 )     (13,219 )
 
           
Net premises and equipment
  $ 24,532     $ 22,818  
 
           
Depreciation expense was $1,533, $1,545, and $1,408 for 2009, 2008 and 2007, respectively.
Certain Corporation facilities and equipment are leased under various operating leases. Rental expense under these leases was $394, $307, and $257 for 2009, 2008 and 2007, respectively.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 7 — PREMISES AND EQUIPMENT (Continued)
Future minimum rental commitments under non-cancelable leases are:
         
2010
  $ 398  
2011
    350  
2012
    352  
2013
    357  
2014
    321  
Thereafter
    1,001  
 
     
 
  $ 2,779  
 
     
NOTE 8 — MORTGAGE BANKING ACTIVITIES
The unpaid principal balances of mortgage loans serviced for others were $154,323 and $125,353 at December 31, 2009 and 2008, respectively.
Custodial escrow balances maintained in connection with serviced loans were $1,195 and $1,244 at year-end 2009 and 2008, respectively.
The following table includes activity for mortgage servicing rights:
                         
    2009     2008     2007  
 
                       
Balance at January 1
  $ 1,070     $ 1,348     $ 1,327  
Plus additions
    723       437       166  
Fair value adjustments
    (334 )     (715 )     (145 )
 
                 
Net ending balance
  $ 1,459     $ 1,070     $ 1,348  
 
                 
Mortgage servicing rights are carried at fair value at December 31, 2009 and 2008. Fair value at year-end 2009 was determined using discount rates ranging from 11.0% to 17.0%, prepayment speeds ranging from 8.68% to 28.92%, depending on the stratification of the specific right, and a weighted average default rate of 0.41%. Fair value at year-end 2008 was determined using discount rates ranging from 11.0% to 17.0%, prepayment speeds ranging from 11.0% to 29.7%, depending on the stratification of the specific right, and a weighted average default rate of 0.54%.
NOTE 9 — DEPOSITS
Scheduled maturities of time deposits for the next five years are as follows:
         
2010
  $ 172,849  
2011
    19,397  
2012
    5,565  
2013
    4,637  
2014
    3,843  

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 10 — OTHER BORROWINGS
Repurchase agreements and other secured short-term borrowings consist of security repurchase agreements and a non deposit product secured with the Corporation’s municipal portfolio. The majority of the non deposit product generally matures within a year. Security repurchase agreements generally mature within one to three days from the transaction date. At maturity, the securities underlying the agreements are returned to the Corporation. Information concerning the non deposit product and securities sold under agreements to repurchase is summarized as follows:
                         
    2009     2008     2007  
 
                       
Average daily balance during the year
  $ 68,740     $ 57,114     $ 54,326  
Average interest rate during the year
    0.25 %     0.88 %     3.83 %
Maximum month-end balance during the year
  $ 85,248     $ 66,000     $ 65,969  
Weighted average interest rate at year-end
    0.27 %     0.15 %     3.04 %
On June 29, 2007, the Bank entered into a Subordinated Debenture Purchase Agreement with U.S. Bank in the amount of $5,000, which will mature on June 28, 2017. Under the terms of the Subordinated Debenture Purchase Agreement, the Bank pays 3-month LIBOR plus 1.20% which equated to 1.51% at December 31, 2009. Interest payments are due quarterly.
On June 29, 2007, the Corporation entered into a $5,000 loan agreement with U.S. Bank, which matured on June 27, 2009, and was renewed and matured on August 31, 2009. The loan agreement was used to provide additional liquidity support to the Corporation, if needed. On September 5, 2008, and December 11, 2008, the Corporation drew $1,300 and $2,900, respectively, on the revolving loan agreement with U.S. Bank.
On August 31, 2009, U.S. Bank renewed the revolving loan agreement which will mature on August 31, 2010. As part of the renewal of the revolving loan agreement, U.S. Bank reduced the revolving loan amount from $5,000 to $2,000. Of the $4,138 outstanding, $3,000 was moved to a separate one-year term facility with principal payments of $62 and interest payments due quarterly. Under the terms of the one-year term facility, the Corporation pays prime plus 1.25% which equated to 4.50% at December 31, 2009.
Under the terms of the revolving loan agreement, the Corporation paid prime minus 1.25% which equated to 2.00% through August 31, 2009, and interest payments are due quarterly. Beginning September 1, 2009, the Corporation pays prime plus 1.25% which equated to 4.50% at December 31, 2009. In addition, beginning October 1, 2009, U.S. Bank assessed a 0.25% fee on the unused portion of the revolving line of credit.
The loan agreements contain various financial and non-financial covenants. The Bank was in violation of the following covenants as of December 31, 2009:
                 
Covenants   U.S. Bank Policy     Actual  
 
               
Non-performing assets to total loans
  < 2.65 %     2.70 %
Return on assets
  not < 0.30 %     0.19 %
Loan loss reserve to non-performing loans
  not £ 100 %     90.80 %
At this time, U.S. Bank has not indicated an intention to exercise any of its remedies available under the credit facility as a result of the Corporation’s covenant violation. The remedies available to U.S. Bank are: make the note immediately due and payable; termination of the obligation to extend further credit; and/or invoke default interest rate of 3.0% over current interest rate. Management does not believe the impact of any of these remedies would have a material impact on the Corporation’s results of operation or financial position and is currently discussing a waiver for these covenant violations with U.S. Bank.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 11 — EQUITY-BASED COMPENSATION
The Board of Directors and the shareholders of the Corporation adopted stock option plans for directors and key employees at the initial formation of the Bank in 1993. The Board of Directors authorized 130,000 shares in 1993, 90,000 shares in 1996, 150,000 shares in 1999, and an additional 120,000 during 2002 to be reserved for issuance under the Corporation’s stock option plan. Options awarded under these plans all vested during December 2009. In May 2003, the director stock option plan was dissolved, and in June 2005, the key employee stock option plan was dissolved; however, all of the options in these plans remain exercisable for a period of ten years from the date of issuance, subject to the terms and conditions of the plans.
A summary of the activity in the 1993 Stock Option Plan for 2009 follows:
                                 
                    Weighted        
            Weighted     Average        
            Average     Remaining     Aggregate  
            Exercise     Contractual     Intrinsic  
    Shares     Price     Term     Value  
Outstanding at beginning of year
    154,163     $ 24.58                  
Exercised
    58,100     $ 19.70                  
 
                             
Outstanding at end of year
    96,063     $ 27.53             $ 885  
 
                             
 
                               
Exercisable at end of year
    96,063     $ 27.53       2.4     $ 885  
Information related to the stock option plan during each year follows:
                         
    2009     2008     2007  
 
                       
Intrinsic value of options exercised
  $ 1,069     $ 806     $ 801  
Cash received from option exercises
  $ 1,145     $ 667     $ 498  
Tax benefit realized from option exercises
  $ 413     $ 302     $ 304  
As of December 31, 2009, there was no unrecognized compensation cost. The recognized compensation cost related to this plan during 2009, 2008 and 2007 was $7, $10, and $89, respectively.
1993 Restricted Stock Plan: The Board of Directors also approved a restricted stock plan in 1993. Shares reserved by the Corporation for the restricted stock plan include 50,000 shares in 1993, 20,000 shares in 1996, 40,000 in 1999, and an additional 55,000 shares in 2002. Starting January 1, 2006, compensation expense for the fair value of the restricted stock granted is earned over the vesting period and recorded to additional paid-in capital (APIC). When the restricted stock vests, then the fair value of the stock at the date of grant is recorded as an issuance of common stock and removed from APIC. In June 2005, the restricted stock plan was dissolved, and no additional restricted stock will be issued from this plan.
The table presented below is a summary of the Corporation’s nonvested restricted stock awards under this plan and the changes during the year ended December 31, 2009:
                 
            Weighted Average  
    Restricted     Grant Date Fair  
    Stock     Value  
 
               
Nonvested awards at beginning of year
    1,400     $ 34.50  
Vested
    1,400     $ 34.50  
 
             
Nonvested awards at end of year
        $  
 
             

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 11 — EQUITY-BASED COMPENSATION (Continued)
Information related to the restricted stock plan during each year follows:
                         
    2009     2008     2007  
 
       
Intrinsic value of shares vested
  $ 51     $ 111     $ 1,421  
Tax benefit realized from shares vested
  $ 1     $ 19     $ 247  
As of December 31, 2009, there was no unrecognized compensation cost. The recognized compensation costs related to this plan during 2009, 2008 and 2007 were $10, $12, and $97, respectively.
2005 Equity Incentive Plan: During 2005, the Board of Directors and the shareholders of the Corporation adopted The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan. The maximum number of shares to be delivered upon exercise of all options and restricted stock awarded under the plan will not exceed 333,000 shares. All equity awards are issued with a five-year cliff vest.
A summary of option activity in the 2005 Equity Incentive Plan for 2009 follows:
                                 
                    Weighted        
            Weighted     Average        
            Average     Remaining     Aggregate  
            Exercise     Contractual     Intrinsic  
    Shares     Price     Term     Value  
 
                               
Outstanding at beginning of year
    189,400     $ 44.03                  
Granted
    5,600     $ 35.97                  
Exercised
                           
Forfeited or expired
    (2,800 )   $ 49.78                  
 
                             
Outstanding at end of year
    192,200     $ 43.71       6.6     $ 4  
 
                             
 
                               
Exercisable at end of year
    2,800     $ 43.38       6.4     $  
Information related to the stock option plan during each year follows:
                         
    2009     2008     2007  
 
       
Intrinsic value of options exercised
  $     $     $  
Cash received from option exercises
                 
Tax benefit realized from option exercises
                 
Weighted average fair value of options granted
  $ 11.91     $ 18.56     $ 20.12  
As of December 31, 2009, there was $1,016 of total unrecognized compensation costs related to nonvested options granted under the 2005 Equity Incentive Plan, which is expected to be recognized over the weighted-average period of 1.6 years. The compensation cost that was recognized during 2009, 2008 and 2007 was $684, $674, and $697, respectively.
The fair value for the options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions: a dividend yield; volatility factor of the expected market price of the Corporation’s common stock; an expected life of the options of ten years; and the risk-free interest rate.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 11 — EQUITY-BASED COMPENSATION (Continued)
The following is a summary of the weighted-average assumptions used in the Black-Scholes pricing model:
                         
Year   Dividend Yield     Volatility Factor     Risk-Free Rate  
 
                       
2009
          13.42 %     3.41 %
2008
          7.65 %     4.37 %
2007
          3.92 %     5.18 %
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. Expected stock price volatility is based on historical volatilities of the Corporations’ common stock. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of the grant.
Restricted Stock Issued:
The table presented below is a summary of the Corporation’s nonvested restricted stock awards under the 2005 plan and the changes during the year ended December 31, 2009:
                 
            Weighted Average  
    Restricted     Grant Date Fair  
    Stock     Value  
 
               
Nonvested restricted stock at beginning of year
    70,675     $ 50.03  
Granted
    65,000     $ 35.97  
Forfeited or expired
    (900 )   $ 49.78  
 
             
Nonvested restricted stock at end of year
    134,775     $ 43.25  
 
             
The total fair value of the shares related to this plan that vested during 2009, 2008, and 2007 was $0, as the restricted stock grants were granted with a five-year cliff vest.
As of December 31, 2009, there was $3,795 of total unrecognized compensation costs related to nonvested restricted stock awards granted under this plan which is expected to be recognized over the weighted-average period of 3.4 years. The recognized compensation costs related to this plan during 2009, 2008 and 2007 was $1,052, $666, and $326, respectively.
NOTE 12 — EMPLOYEE BENEFIT PROGRAM
The Corporation sponsors The National Bank of Indianapolis Corporation 401(k) Savings Plan (the 401(k) Plan) for the benefit of substantially all of the employees of the Corporation and its subsidiaries. All employees of the Corporation and its subsidiaries become participants in the 401(k) Plan after attaining age 18. The Corporation amended the plan January 1, 2007, with additional amendments in 2008.
The Corporation expensed approximately $584, $594, and $505 for employee-matching contributions to the plan during 2009, 2008, and 2007, respectively. The Board of Directors of the Corporation may, in its discretion, make an additional matching contribution to the 401(k) Plan in such amount as the Board of Directors may determine. In addition, the Corporation may fund all, or any part of, its matching contributions with shares of its stock. The Corporation also may, in its discretion, make a profit-sharing contribution to the 401(k) Plan. No additional matching contributions or profit-sharing contributions have been made to the plan during 2009, 2008, or 2007.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 12 — EMPLOYEE BENEFIT PROGRAM (Continued)
An employee who has an interest in a qualified retirement plan with a former employer may transfer the eligible portion of that benefit into a rollover account in the 401(k) Plan. The participant may request that the trustee invests up to 25% of the fair market value of the participant’s rollover contribution to a maximum of $200 (valued as of the effective date of the contribution to the 401(k) Plan) in whole and fractional shares of the common stock to the Corporation.
NOTE 13 — REGULATORY CAPITAL MATTERS
Dividends from the Bank to the Corporation may not exceed the net undivided profits of the Bank (included in consolidated retained earnings) for the current calendar year and the two previous calendar years without prior approval from the Office of the Comptroller of the Currency. In addition, Federal banking laws limit the amount of loans the Bank may make to the Corporation, subject to certain collateral requirements. No loans were made from the Bank to the Corporation during 2009 or 2008. The Bank declared and made a $1,385, $1,315, and $1,300 dividend to the Corporation during 2009, 2008, and 2007, respectively.
Banks and bank holding companies are subject to regulatory capital requirements administered by the federal banking agencies. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Failure to meet minimum capital requirements can initiate regulatory action. Management believes as of December 31, 2009, the Corporation and Bank meet all capital adequacy requirements to which it is subject.
Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of total qualifying capital to total adjusted asset (as defined).
Prompt corrective action regulations provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required. As of December 31, 2009 and 2008, the most recent notification from the Comptroller of the Currency categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the institution’s category.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 13 — REGULATORY CAPITAL MATTERS (Continued)
Actual and required capital amounts and ratios are presented below at year end.
                                                 
                                    To Be Well  
                    Required     Capitalized Under  
                    For Capital     Prompt Corrective  
    Actual     Adequacy Purposes     Action Regulations  
    Amount     Ratio     Amount     Ratio     Amount     Ratio  
2009
                                               
Total Capital to risk weighted assets Consolidated
  $ 103,202       11.1 %   $ 74,552       8.0 %             N/A  
Bank
    101,635       10.9 %     74,335       8.0 %     92,919       10.0 %
Tier 1 (Core) Capital to risk weighted assets Consolidated
    86,528       9.3 %     37,276       4.0 %             N/A  
Bank
    84,994       9.2 %     37,168       4.0 %     55,752       6.0 %
Tier 1 (Core) Capital to average assets Consolidated
    86,528       6.8 %     50,658       4.0 %             N/A  
Bank
    84,994       6.7 %     50,715       4.0 %     63,394       5.0 %
 
                                               
2008
                                               
Total Capital to risk weighted assets Consolidated
  $ 101,930       10.6 %   $ 76,961       8.0 %             N/A  
Bank
    101,121       10.5 %     76,800       8.0 %     96,000       10.0 %
Tier 1 (Core) Capital to risk weighted assets Consolidated
    84,895       8.8 %     38,480       4.0 %             N/A  
Bank
    84,110       8.8 %     38,400       4.0 %     57,600       6.0 %
Tier 1 (Core) Capital to average assets Consolidated
    84,895       7.5 %     45,069       4.0 %             N/A  
Bank
    84,110       7.5 %     45,073       4.0 %     56,341       5.0 %
NOTE 14 — RELATED PARTIES
Certain directors, executive officers, and principal shareholders of the Corporation, including their families and companies in which they are principal owners, are loan customers of, and have other transactions with, the Corporation or its subsidiary in the ordinary course of business. The aggregate dollar amount of these loans was approximately $15,646 and $13,003 on December 31, 2009 and 2008, respectively. The amounts do not include loans made in the ordinary course of business to companies in which officers or directors of the Corporation are either officers or directors, but are not principal owners, of such companies. During 2009, new loans to these parties amounted to $3,554, draws amounted to $31,138, and repayments amounted to $32,049. There were no changes in the composition of related parties.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 15 — INCOME TAXES
The Corporation applies a federal income tax rate of 34% and a state tax rate of 8.5% in the computation of tax expense or benefit. The provision for income taxes consisted of the following:
                         
    2009     2008     2007  
 
       
Current tax (benefit) expense
  $ (405 )   $ 3,155     $ 4,181  
Deferred tax (benefit) expense
    (845 )     (1,913 )     (325 )
 
                 
 
  $ (1,250 )   $ 1,242     $ 3,856  
 
                 
The statutory tax rate reconciliation is as follows:
                         
    2009     2008     2007  
 
                       
Income (loss) before provision for income tax
  $ (1,138 )   $ 5,026     $ 11,747  
 
                 
 
                       
Tax expense (benefit) at federal statutory rate
  $ (387 )   $ 1,709     $ 3,994  
 
                       
Increase (decrease) in taxes resulting from:
                       
State income taxes
    (92 )     203       603  
Tax-exempt interest
    (716 )     (685 )     (558 )
Other
    (55 )     15       (183 )
 
                 
 
  $ (1,250 )   $ 1,242     $ 3,856  
 
                 
The components of the Corporation’s net deferred tax assets in the consolidated balance sheets as of December 31 are as follows:
                 
    2009     2008  
 
               
Deferred tax assets:
               
Allowance for loan losses
  $ 5,364     $ 5,025  
Equity based compensation
    1,841       1,193  
Accrued contingencies
    391       391  
Other
    693       508  
 
           
Total deferred tax assets
    8,289       7,117  
 
               
Deferred tax liability:
               
Mortgage servicing rights
    (570 )     (418 )
Net unrealized gain on securities
          (537 )
Other
    (586 )     (413 )
 
           
Total deferred tax liabilities
    (1,156 )     (1,368 )
 
           
Net deferred tax assets
  $ 7,133     $ 5,749  
 
           
Unrecognized Tax Benefits: The Corporation had no unrecognized tax benefits as of January 1, 2009 and did not recognize any increase in unrecognized benefits during 2009 relative to any tax positions taken in 2009. Should the accrual of any interest or penalties relative to unrecognized tax benefits be necessary, it is the Corporation’s policy to record such accruals in its income tax expense; no such accruals exist as of December 31, 2009. The Corporation and its subsidiary file a consolidated U.S. federal and Indiana income tax return, which is subject to examination for all years after 2005.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 15 — INCOME TAXES (Continued)
Valuation Allowance on Deferred Tax Assets: In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the existence of sufficient taxable income of the appropriate character within any available carryback period or generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon the level of historical taxable income and projections for future taxable income over the periods which the deferred tax assets are deductible, and the implementation of various tax planning strategies, if necessary, management believes it is more likely than not the Corporation will realize the benefits of these deductible differences as of December 31, 2009 and 2008 and accordingly no valuation allowance has been provided.
NOTE 16 — COMMITMENTS AND CONTINGENCIES
Some financial instruments, such as loan commitments, credit lines, letters of credit, and overdraft protection, are issued to meet customer financing needs. These are agreements to provide credit or to support the credit of others, as long as conditions established in the contract are met, and usually have expiration dates. Commitments may expire without being used. Off-balance-sheet risk to credit loss exists up to the face amount of these instruments, although material losses are not anticipated. The same credit policies are used to make such commitments as are used for loans, including obtaining collateral at exercise of the commitment.
The contractual amount of financial instruments with off-balance sheet risk was as follows:
                 
    2009     2008  
 
               
Unused commercial credit lines
  $ 198,815     $ 231,795  
Unused revolving home equity and credit card lines
    99,629       98,925  
Standby letters of credit
    24,338       24,224  
Demand deposit account lines of credit
    2,499       2,917  
 
           
 
  $ 325,281     $ 357,861  
 
           
The majority of commitments to fund loans are variable rate. The demand deposit account lines of credit are a fixed rate at 18% with no maturity.
The credit risk associated with loan commitments and standby letters of credit is essentially the same as that involved in extending loans to customers and is subject to normal credit policies. Collateral may be obtained based on management’s credit assessment of the customer.
The Corporation is party to various lawsuits and proceedings arising in the ordinary course of business. In addition, many of these proceedings are pending in jurisdictions that permit damage awards disproportionate to the actual economic damages alleged to have been incurred. Based upon information presently available, we believe that the total amounts, if any, that will ultimately be paid arising from these lawsuits and proceedings will not have a material adverse effect on our consolidated results of operations or financial position.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 17 — FAIR VALUE
Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair values:
Level 1: Quoted prices (unadjusted) of identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing and asset or liability.
The Corporation used the following methods and significant assumptions to estimate the fair value of each type of asset or liability carried at fair value:
The fair value of available for sale securities are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on securities’ relationship to other benchmark quoted securities (Level 2 inputs).
The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income. The Corporation is able to compare the valuation model inputs and results to widely available published industry data for reasonableness.
The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.
Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned (OREO) are measured at the lower of carrying amount or fair value, less costs to sell. Fair values are generally based on third party appraisals of the property resulting in a Level 3 classification. In cases where the carrying amount exceeds the fair value less costs to sell, an impairment loss is recognized.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 17 — FAIR VALUE (Continued)
Assets and Liabilities Measured on a Recurring Basis
Assets and liabilities measured at fair value on a recurring basis are summarized below:
                                 
            Fair Value Measurements Using:  
                    Significant        
            Quoted Prices in     Other     Significant  
            Active Markets for     Observable     Unobservable  
            Identical Assets     Inputs     Inputs  
    December 31, 2009     (Level 1)     (Level 2)     (Level 3)  
Assets:
                               
Available for sale securities
  $ 67,296     $     $ 67,296     $  
Mortgage servicing rights
    1,459             1,459        
 
                               
 
  December 31, 2008                          
Assets:
                               
Available for sale securities
  $ 56,977     $     $ 56,977     $  
Mortgage servicing rights
    1,070             1,070        
Assets and Liabilities Measured on a Non-Recurring Basis
Assets and liabilities measured at fair value on a non-recurring basis are summarized below:
                                 
            Fair Value Measurements Using:  
                    Significant        
            Quoted Prices in     Other     Significant  
            Active Markets for     Observable     Unobservable  
            Identical Assets     Inputs     Inputs  
    December 31, 2009     (Level 1)     (Level 2)     (Level 3)  
Assets:
                               
Impaired loans
  $ 6,120     $     $     $ 6,120  
Other real estate
    8,432                   8,432  
 
                               
 
  December 31, 2008                          
Assets:
                               
Impaired loans
  $ 4,521     $     $     $ 4,521  
Other real estate
    3,414                   3,414  

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 17 — FAIR VALUE (Continued)
The following represent impairment charges recognized during the period:
Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $7,844, with a valuation allowance of $1,724 at December 31, 2009, resulting in an additional provision for loan losses of $5,284 for the year ending December 31, 2009. At December 31, 2008, impaired loans had a carrying amount of $6,210, with a valuation allowance of $1,689, resulting in an additional provision for loan losses of $4,628 for the year ending December 31, 2008.
Other real estate is carried at lower of cost or fair value and was written down to a fair value of $8,432 resulting in a charge of $905 to earnings for the year ending December 31, 2009. At December 31, 2008, other real estate was carried at lower of cost or fair value and was written down to a fair value of $3,414 resulting in a charge of $76 to earnings.
The estimated fair values of the Corporation’s financial instruments at December 31 are as follows:
                                 
    2009     2008  
    Carrying     Fair     Carrying     Fair  
    Amount     Value     Amount     Value  
Assets
                               
Cash and due from banks
  $ 149,375     $ 149,375     $ 29,819     $ 29,819  
Federal funds sold
    1,242       1,242       601       601  
Reverse repurchase agreements
    1,000       1,000       1,000       1,000  
Investment securities available-for-sale
    67,296       67,296       56,977       56,997  
Investment securities held-to-maturity
    94,922       96,588       83,567       82,971  
Net loans
    851,006       850,877       891,360       904,043  
Federal Reserve and FHLB stock
    3,150       N/A       3,150       N/A  
Accrued interest receivable
    4,199       4,199       4,855       4,855  
 
                               
Liabilities
                               
Deposits
    1,052,065       1,053,849       965,966       967,071  
Repurchase agreements and other secured short-term borrowings
    81,314       81,415       51,146       51,146  
Short-term debt
    4,138       4,138       4,200       4,200  
Subordinated debt
    5,000       5,000       5,000       4,997  
Junior subordinated debentures
    13,918       10,102       13,918       9,962  
Accrued interest payable
    2,158       2,158       2,222       2,222  
The following methods and assumptions, not previously presented, were used by the Corporation in estimating its fair value disclosures for financial instruments not recorded at fair value.
Carrying amount is the estimated fair value for cash and short-term investments, interest bearing deposits, accrued interest receivable and payable, demand deposits, borrowings under repurchase agreements, short-term debt, variable rate loans or deposits that reprice frequently and fully. For fixed rate loans, deposits, or other secured short-term borrowings or for variable rate loans or deposits with infrequent pricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. It was not practicable to determine the fair value of Federal Reserve and FHLB stock due to restrictions place on its transferability. The fair value of the subordinated debt and junior subordinated debentures are based upon discounted cash flows using rates for similar securities with the same maturities. The fair value of off-balance-sheet items is not considered material.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 18 — ACCUMULATED OTHER COMPREHENSIVE INCOME
The following is a summary of activity in accumulated other comprehensive income:
                         
    2009     2008     2007  
 
                       
Accumulated unrealized gain (loss) on securities available-for-sale at January 1, net of tax
  $ 836     $ 460     $ (436 )
Net unrealized gain (loss) for period
    (1,379 )     612       1,484  
Tax benefit (expense)
    540       (236 )     (588 )
 
                 
Ending other comprehensive income (loss) at December 31, net of tax
  $ (3 )   $ 836     $ 460  
 
                 
 
                       
Accumulated unrealized loss on swap at January 1, net of tax
  $     $     $ (97 )
Net unrealized gain for period
                161  
Tax expense
                (64 )
 
                 
Ending other comprehensive income at December 31, net of tax
  $     $     $  
 
                 
 
                       
Accumulated other comprehensive income (loss) at January 1, net of tax
  $ 836     $ 460     $ (533 )
Other comprehensive income (loss), net of tax
    (839 )     376       993  
 
                 
Accumulated other comprehensive income (loss) at December 31, net of tax
  $ (3 )   $ 836     $ 460  
 
                 
NOTE 19 — EARNINGS PER SHARE
A computation of earnings per share follows:
                         
    2009     2008     2007  
 
                       
Basic EPS Calculation
                       
Basic average shares outstanding
    2,301,502       2,311,022       2,327,878  
 
                 
 
                       
Net income
  $ 112     $ 3,784     $ 7,891  
 
                 
 
                       
Basic earnings per common share
  $ 0.05     $ 1.64     $ 3.39  
 
                 
 
                       
Diluted EPS Calculation
                       
Average shares outstanding
    2,301,502       2,311,022       2,327,878  
Nonvested restricted stock
    19,289       15,239       12,574  
Net effect of the assumed exercise of stock options
    28,313       65,046       69,833  
 
                 
Diluted average shares
    2,349,104       2,391,307       2,410,285  
 
                 
 
                       
Net income
  $ 112     $ 3,784     $ 7,891  
 
                 
 
                       
Diluted earnings per common share
  $ 0.05     $ 1.58     $ 3.27  
 
                 
As of December 31, 2009, 2008 and 2007, options to purchase 4,004, 183,220, and 0 shares respectively, and 6,076, 1,051, and 0 restricted shares, respectively, were outstanding but not included in the computation of diluted earnings per share because they were antidilutive.

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 20 — PARENT COMPANY FINANCIAL STATEMENTS
The condensed financial statements of the Corporation, prepared on a parent company unconsolidated basis, are presented as follows:
Balance Sheets
                 
    December 31  
    2009     2008  
Assets
               
Cash
  $ 3,974     $ 3,801  
Investment in subsidiary
    85,137       85,054  
Other assets
    3,002       2,274  
 
           
Total assets
  $ 92,113     $ 91,129  
 
           
 
               
Liabilities and shareholders’ equity
               
Other liabilities
  $ 1,026     $ 799  
Short term debt
    4,138       4,200  
Junior subordinated debentures owed to unconsolidated subsidiary trust
    13,918       13,918  
 
           
Total liabilities
    19,082       18,917  
 
               
Shareholders’ equity
    73,031       72,212  
 
           
Total liabilities and shareholders’ equity
  $ 92,113     $ 91,129  
 
           
Statements of Income
                         
    Year Ended December 31  
    2009     2008     2007  
 
                       
Interest income
  $ 7     $ 7     $ 35  
Interest expense
    1,596       1,492       1,482  
 
                 
Net interest income
    (1,589 )     (1,485 )     (1,447 )
 
                 
Other income
    44       44       44  
Dividend income from subsidiary
    1,385       1,315       1,300  
Other operating expenses:
                       
Deferred compensation
    1,753       1,362       1,209  
Other expenses
    304       321       345  
 
                 
Total other operating expenses
    2,057       1,683       1,554  
 
                 
Net loss before tax benefit and equity in undistributed net income of subsidiary
    (2,217 )     (1,809 )     (1,657 )
Tax benefit
    1,406       1,213       1,161  
 
                 
 
                       
Net loss before equity in undistributed net income of subsidiary
    (811 )     (596 )     (496 )
 
                       
Equity in undistributed net income of subsidiary
    923       4,380       8,387  
 
                 
Net income
  $ 112     $ 3,784     $ 7,891  
 
                 

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2009 and 2008
(Dollar amounts in thousands except per share data)
NOTE 20 — PARENT COMPANY FINANCIAL STATEMENTS (Continued)
Statements of Cash Flows
                         
    Year Ended December 31  
    2009     2008     2007  
 
       
Operating activities
                       
Net income
  $ 112     $ 3,784     $ 7,891  
Adjustments to reconcile net income to net cash provided by operating activities:
                       
Undistributed net income of subsidiary
    (923 )     (4,380 )     (8,387 )
Stock compensation
    100       100       100  
Excess tax benefit from deferred compensation
    (414 )     (321 )     (552 )
Compensation expense related to restricted stock and options
    1,753       1,362       1,209  
Increase in deferred income taxes
    (648 )     (499 )     (148 )
Increase in other assets
    (79 )     (31 )     (32 )
Increase in other liabilities
    641       409       773  
 
                 
Net cash provided by operating activities
    542       424       854  
 
                       
Investing activities
                       
Net cash provided by investing activities
                 
 
                       
Financing activities
                       
Proceeds from issuance of stock
    1,144       833       804  
Repurchase of stock
    (1,865 )     (3,502 )     (2,394 )
Net change in short term debt
    (62 )     4,200        
Income tax benefit from deferred compensation
    414       321       552  
 
                 
Net cash provided (used) in financing activities
    (369 )     1,852       (1,038 )
 
                 
 
                       
Increase (decrease) in cash and cash equivalents
    173       2,276       (184 )
Cash and cash equivalents at beginning of year
    3,801       1,525       1,709  
 
                 
Cash and cash equivalents at end of year
  $ 3,974     $ 3,801     $ 1,525  
 
                 

 

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THE NATIONAL BANK OF INDIANAPOLIS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008 and 2007
NOTE 21 — QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a summary of the unaudited quarterly results of operations for the years ended December 31:
                                 
    March 31     June 30     September 30     December 31  
2009
                               
Interest income
  $ 11,665     $ 11,795     $ 12,185     $ 11,886  
Interest expense
    3,157       2,834       2,763       2,559  
 
                       
Net interest income
    8,508       8,961       9,422       9,327  
 
       
Provision for loan losses
    1,250       2,650       3,955       4,050  
Other operating income
    3,003       3,569       2,991       3,340  
Other operating expense
    9,210       10,060       9,128       9,956  
 
                       
Net income (loss) before tax
    1,051       (180 )     (670 )     (1,339 )
Federal and state income tax (benefit)
    206       (259 )     (462 )     (735 )
 
                       
Net income (loss) after tax
  $ 845     $ 79     $ (208 )   $ (604 )
 
                       
 
                               
Basic earnings per share
  $ 0.37     $ 0.03     $ (0.09 )   $ (0.26 )
Diluted earnings per share
  $ 0.36     $ 0.03     $ (0.09 )   $ (0.26 )
                                 
    March 31     June 30     September 30     December 31  
2008
                               
Interest income
  $ 15,689     $ 13,913     $ 13,788     $ 12,987  
Interest expense
    6,700       4,794       4,556       4,399  
 
                       
Net interest income
    8,989       9,119       9,232       8,588  
 
       
Provision for loan losses
    1,075       2,100       1,800       2,425  
Other operating income
    2,413       3,048       2,926       2,817  
Other operating expense
    9,747       8,353       7,917       8,688  
 
                       
Net income before tax
    580       1,714       2,441       292  
Federal and state income tax (benefit)
    34       505       798       (94 )
 
                       
Net income after tax
  $ 546     $ 1,209     $ 1,643     $ 386  
 
                       
 
       
Basic earnings per share
  $ 0.24     $ 0.52     $ 0.71     $ 0.17  
Diluted earnings per share
  $ 0.23     $ 0.50     $ 0.69     $ 0.16  

 

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Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.
None.
Item 9A. Controls and Procedures
Disclosure Controls and Procedures. The Corporation’s principal executive officer and principal financial officer have concluded that the Corporation’s disclosure controls and procedures (as defined under Rules 13(a)-15(e) or Rules 15d-15(e) under the Securities Exchange Act of 1934, as amended), based on their evaluation of these controls and procedures as of the period covered by this Form 10-K, are effective.
Management’s Report on Internal Control Over Financial Reporting.

See report on page 55.
Attestation Report of the Independent Registered Public Accounting Firm.

See report on page 56.
Changes in Internal Controls Over Financial Reporting. There has been no change in the Corporation’s internal controls over financial reporting that has occurred during the Corporation’s last fiscal quarter that has materially affected or is reasonable likely to materially affect, the Corporation’s internal control over financial reporting.
The Corporation’s management, including its principal executive officer and principal financial officer, does not expect that the Corporation’s disclosure controls and procedures and other internal controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control.
The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can only be reasonable assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, control may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Appearing immediately following the Signatures section of this report there are Certifications of the Corporation’s principal executive officer and principal financial officer. The Certifications are required in accord with Section 302 of the Sarbanes-Oxley Act of 2002 (the “Section 302 Certifications”). This Item of this report which you are currently reading is the information concerning the Evaluation referred to in the Section 302 Certifications and this information should be read in conjunction with the Section 302 Certifications for a more complete understanding of the topics presented.

 

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Item 9B. Other Information
Not Applicable.
PART III
Items 10. 11, 12, 13 and 14
In accordance with the provisions of General Instruction G to Form 10-K, the information required for the required disclosures under Items 10, 11, 12, 13 and 14 are not set forth herein because the Corporation intends to file with the Securities and Exchange Commission a definitive Proxy Statement pursuant to Regulation 14A not later than 120 days following the end of its 2009 fiscal year, which Proxy Statement will contain such information. The information required by Items 10, 11, 12, 13 and 14 is incorporated herein by reference to such Proxy Statement.

 

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Part IV
Item 15. Exhibits, Financial Statement Schedules
(a) (1) The following consolidated financial statements are included in Item 8:
  (2)  
See response to Item 15 (a)(1). All other financial statement schedules have been omitted because they are not applicable, or the required information is shown in the consolidated financial statements or notes thereto.
  (3)  
List of Exhibits

 

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EXHIBIT INDEX
         
  3.01    
Articles of Incorporation of the Corporation, filed as Exhibit 3(i) to the Corporation’s Form 10-QSB as of September 30, 1995 are incorporated by reference and Articles of Amendment filed as Exhibit 3(i) to the Form 10-K for the fiscal year ended December 31, 2001
       
 
  3.02    
Bylaws of the Corporation, filed as Exhibit 3(ii) to the Corporation’s Form 8-K filed July 30, 2009, are incorporated by reference
       
 
  10.01 *  
1993 Key Employees’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(a) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.02 *  
1993 Directors’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(b) to the Corporation’s Form 10-Q as of June 30, 2001 is incorporated by reference
       
 
  10.03 *  
1993 Restricted Stock Plan of the Corporation, as amended, filed as Exhibit 10(c) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.04 *  
Form of agreement under the 1993 Key Employees Stock Option Plan, filed as Exhibit 10(d) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.05 *  
Form of agreement under the 1993 Restricted Stock Plan, filed as Exhibit 10(e) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.06 *  
Schedule of Directors Compensation Arrangements, filed as Exhibit 10(f) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference
       
 
  10.07 *  
Schedule of Named Executive Officers Compensation Arrangements, filed as Exhibit 10.07 to the Corporation’s Form 8-K dated May 18, 2006 is incorporated by reference, as amended by the Corporation’s Form 8-K filed January 9, 2009, the Corporation’s Form 8-K filed April 16, 2009, and the Corporation’s Form 8-K filed January 11, 2010
       
 
  10.08 *  
The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.01 to the Corporation’s Form 8-K dated June 22, 2005 is incorporated by reference
       
 
  10.09 *  
Form of Restricted Stock Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.02 to the Corporation’s Form 8-K dated June 22, 2005 is incorporated by reference
       
 
  10.10 *  
Form of Stock Option Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.03 to the Corporation’s Form 8-K dated June 22, 2005, is incorporated by reference
       
 
  10.11 *  
Employment Agreement dated December 15, 2005 between Morris L. Maurer and the Corporation, filed as Exhibit 10.06 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.06 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference
       
 
  10.13 *  
The National Bank of Indianapolis Corporation Executive’s Deferred Compensation Plan, filed as Exhibit 10.08 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.08 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference
       
 
  10.14 *  
The National Bank of Indianapolis Corporation 401(K) Savings Plan (as amended and restated generally effective January 1, 2006), filed as Exhibit 10.14 to the Corporation’s Form 10-K dated December 31, 2005 is incorporated by reference
       
 
  21.00    
Subsidiaries of The National Bank of Indianapolis Corporation

 

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  31.1    
Certificate of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended
       
 
  31.2    
Certificate of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended
       
 
  32.1    
Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350
       
 
  32.2    
Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350

 

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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Exchange Act, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
             
(Registrant)
  The National Bank of Indianapolis Corporation        
 
           
By (Signature and Title)
  /S/ Morris L. Maurer
 
Morris L. Maurer, President (Principal Executive Officer)
  March 12, 2010
 
Date
   
Pursuant to the requirements of the Securities Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
             
By (Signature and Title)
  /S/ Morris L. Maurer
 
Morris L. Maurer, President (Principal Executive Officer)
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ Philip B. Roby
 
Philip B. Roby, Executive Vice President
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ Debra L. Ross
 
Debra L. Ross, Senior Vice President (Principal Financial and Accounting Officer)
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ Michael S. Maurer
 
Michael S. Maurer, Chairman of the Board
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ Kathryn G. Betley
 
Kathryn G. Betley, Director
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ David R. Frick
 
David R. Frick, Director
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ Andre B. Lacy
 
Andre B. Lacy, Director
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ William S. Oesterle
 
William S. Oesterle, Director
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ Todd H. Stuart
 
Todd H. Stuart, Director
  March 12, 2010
 
Date
   
 
           
By (Signature and Title)
  /S/ John T. Thompson
 
John T. Thompson, Director
  March 12, 2010
 
Date
   

 

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EXHIBIT INDEX
         
  3.01    
Articles of Incorporation of the Corporation, filed as Exhibit 3(i) to the Corporation’s Form 10-QSB as of September 30, 1995 are incorporated by reference and Articles of Amendment filed as Exhibit 3(i) to the Form 10-K for the fiscal year ended December 31, 2001
       
 
  3.02    
Bylaws of the Corporation, filed as Exhibit 3(ii) to the Corporation’s Form 8-K filed July 30, 2009, are incorporated by reference
       
 
  10.01 *  
1993 Key Employees’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(a) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.02 *  
1993 Directors’ Stock Option Plan of the Corporation, as amended, filed as Exhibit 10(b) to the Corporation’s Form 10-Q as of June 30, 2001 is incorporated by reference
       
 
  10.03 *  
1993 Restricted Stock Plan of the Corporation, as amended, filed as Exhibit 10(c) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.04 *  
Form of agreement under the 1993 Key Employees Stock Option Plan, filed as Exhibit 10(d) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.05 *  
Form of agreement under the 1993 Restricted Stock Plan, filed as Exhibit 10(e) to the Form 10-K for the fiscal year ended December 31, 2004 is incorporated by reference
       
 
  10.06 *  
Schedule of Directors Compensation Arrangements, filed as Exhibit 10(f) to the Form 10-K for the fiscal year ended December 31, 2004, is incorporated by reference
       
 
  10.07 *  
Schedule of Named Executive Officers Compensation Arrangements, filed as Exhibit 10.07 to the Corporation’s Form 8-K dated May 18, 2006 is incorporated by reference, as amended by the Corporation’s Form 8-K filed January 9, 2009, the Corporation’s Form 8-K filed April 16, 2009, and the Corporation’s Form 8-K filed January 11, 2010
       
 
  10.08 *  
The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.01 to the Corporation’s Form 8-K dated June 22, 2005 is incorporated by reference
       
 
  10.09 *  
Form of Restricted Stock Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.02 to the Corporation’s Form 8-K dated June 22, 2005 is incorporated by reference
       
 
  10.10 *  
Form of Stock Option Award Agreement for The National Bank of Indianapolis Corporation 2005 Equity Incentive Plan, filed as Exhibit 10.03 to the Corporation’s Form 8-K dated June 22, 2005 is incorporated by reference
       
 
  10.11 *  
Employment Agreement dated December 15, 2005 between Morris L. Maurer and the Corporation, filed as Exhibit 10.06 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.06 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference
       
 
  10.13 *  
The National Bank of Indianapolis Corporation Executive’s Deferred Compensation Plan, filed as Exhibit 10.08 to the Corporation’s Form 8-K dated December 21, 2005, and as amended by Exhibit 10.08 to the Corporation’s Form 8-K dated November 26, 2008, is incorporated by reference
       
 
  10.14 *  
The National Bank of Indianapolis Corporation 401(K) Savings Plan (as amended and restated generally effective January 1, 2006), filed as Exhibit 10.14 to the Corporation’s Form 10-K dated December 31, 2005 is incorporated by reference
       
 
  21.00    
Subsidiaries of The National Bank of Indianapolis Corporation

 

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  31.1    
Certificate of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended
       
 
  31.2    
Certificate of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended
       
 
  32.1    
Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350
       
 
  32.2    
Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350

 

97