UNITED STATES
SECURITIES AND EXCHANGE COMMISION
Washington, D.C. 20549
FORM 10-Q/A
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For quarter ended September 30, 2004
------------------
Commission file number 000-23904
---------
SLADE'S FERRY BANCORP.
--------------------------------------------------------
(Exact name of registrant as specified in its character)
Massachusetts 04-3061936
------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
100 Slade's Ferry Avenue
Somerset, Massachusetts 02726
---------------------------------------- ----------------------
(Address of principal executive offices) (Zip code)
(508)-675-2121
----------------------------------------------------
(Registrant's telephone number, including area code)
Check 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
past 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements
for the past 90 days.
Yes X No
------------ ------------
Indicate by checkmark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes No X
------------ ------------
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date:
Common stock ($0.01 par value) 4,067,848 shares as of October 31, 2004.
-----------------------------------------------------------------------
TABLE OF CONTENTS
Part I
EXPLANATORY NOTE 2
ITEM 1 - Financial Statements of Slade's Ferry Bancorp. and Subsidiary 3
Condensed Consolidated Balance Sheets - September 30, 2004
(Unaudited) and December 31, 2003
Condensed Consolidated Statements of Income and Expense
(Unaudited) - Nine Months Ended September 30, 2004 and 2003
Condensed Consolidated Statements of Income and Expense
(Unaudited) - Three Months Ended September 30, 2004 and 2003
Condensed Consolidated Statement of Changes in Stockholders'
Equity (Unaudited) - Nine Months Ended September 30, 2004
and 2003
Condensed Consolidated Statements of Cash Flows (Unaudited) -
Nine Months Ended September 30, 2004 and 2003
Notes to Condensed Consolidated Financial Statements (Unaudited)
ITEM 2 - Management's Discussion and Analysis of Financial Condition
and Results of Operations 13
ITEM 3 - Quantitative and Qualitative Disclosures About Market Risk 29
ITEM 4 - Controls and Procedures 30
Part II
ITEM 1 - Legal Proceedings 31
ITEM 2 - Changes in Securities, Use of Proceeds and Issuer Purchases
of Equity Securities 31
ITEM 3 - Defaults upon Senior Securities 31
ITEM 4 - Submission of Matters to a Vote of Security Holders 31
ITEM 5 - Other Information 31
ITEM 6 - Exhibits 32
1
EXPLANATORY NOTE
We announced in a Form 8-K filed on July 19, 2005, that in May 2005, a
financial reporting error relating to our pension plan that affects our
previously filed financial statements was discovered. The pension plan
commenced on January 1, 1969 and was frozen on December 31, 1997. In May of
2005, we began exploring alternatives with respect to possibly liquidating
the pension plan.
At that time, we discovered that the amount of our prepaid benefit cost had
been overstated (and our pension expense had been cumulatively understated)
since fiscal year 1996. Such misstatements related to (1) the failure to use
settlement accounting for significant lump sum distributions, as required by
FASB Statement No. 88, Employers' Accounting for Settlements and
Curtailments of Defined Benefit Plans and for Termination Benefit, and (2)
the understatement of the projected benefit obligation prior to 2003.
This Form 10-Q/A is being filed to amend and restate the financial statements
and related information contained in our Form 10-Q for the period ended
September 30, 2004.
The table below shows the cumulative effect of the defined benefit pension
plan adjustment to retained earnings and accumulated other comprehensive
income (loss) as of December 31, 2003 and 2002, and the impact on net
income and earnings per share for the three and nine months ended September
30, 2004 and 2003.
At December 31,
---------------------------
2003 2002
----------- -----------
Retained earnings, as previously reported $14,698,595 $13,445,335
Cumulative decrease to retained earnings (398,337) (394,095)
----------- -----------
Retained earnings, as restated $14,300,258 $13,051,240
=========== ===========
Accumulated other comprehensive loss
as previously reported $ (605,619) $ (10,908)
Cumulative increase (decrease) in accumulated other
comprehensive loss 193,223 (149,918)
----------- -----------
Accumulated other comprehensive loss, as restated $ (412,396) $ (160,826)
=========== ===========
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -------------------------
2004 2003 2004 2003
---------- -------- ---------- ----------
Net income, as previously reported $1,071,213 $699,345 $2,318,930 $1,616,861
Increase (decrease) to pension expense (8,877) (85,743) 54,386 (14,932)
Net deferred tax effect 3,633 35,095 (22,260) 6,112
---------- -------- ---------- ----------
(Decrease) increase to net income 5,244 50,648 (32,126) 8,820
---------- -------- ---------- ----------
Net income, as restated $1,076,457 $749,993 $2,286,804 $1,625,681
========== ======== ========== ==========
Earnings per share, as previously reported:
Basic $ 0.26 $ 0.18 $ 0.57 $ 0.40
Diluted $ 0.26 $ 0.17 $ 0.57 $ 0.41
Earnings per share, as restated:
Basic $ 0.27 $ 0.19 $ 0.57 $ 0.41
Diluted $ 0.26 $ 0.19 $ 0.56 $ 0.41
2
PART I
ITEM 1
Financial Statements
--------------------
SLADE'S FERRY BANCORP. AND SUBSIDIARY
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
September 2004 December 31, 2003
-------------- -----------------
Assets
------
Cash and due from banks $ 20,507,497 $ 18,428,932
Interest bearing demand deposits with other banks - 213,438
Money market mutual funds - 63,539
Federal Home Loan Bank overnight deposit 1,000,000 -
Federal funds sold 5,000,000 4,000,000
------------ ------------
Cash and cash equivalents 26,507,497 22,705,909
Interest bearing time deposits with other bank 100,000 200,000
Investments in available-for-sale securities (at fair value) 84,329,600 47,162,852
Investments in held-to-maturity securities (fair values
of $41,140,312 as of September 31, 2004 and $11,851,713
as of December 31, 2003) 40,631,411 11,300,402
Federal Home Loan Bank stock 4,204,300 3,023,800
Loans, net of allowance for loan losses $4,102,567 at
September 30, 2004 and $4,154,394 at December 31, 2003 362,389,567 331,496,525
Premises and equipment 5,844,940 5,894,736
Goodwill 2,173,368 2,173,368
Accrued interest receivable 2,037,264 1,497,104
Cash surrender value of life insurance 11,473,825 10,980,879
Deferred taxes 2,097,060 2,138,336
Other assets 1,205,078 659,791
------------ ------------
Total assets $542,993,910 $439,233,702
============ ============
Liabilities and Stockholders' Equity
------------------------------------
Deposits: $403,454,662 $333,144,817
Federal Home Loan Bank advances 80,388,352 60,474,864
Subordinated debentures 10,310,000 -
Other liabilities 3,665,999 3,076,994
------------ ------------
Total liabilities 497,819,013 396,696,675
Stockholders' equity:
Common stock, par value $.01 per share; authorized
10,000,000 shares; issued and outstanding 4,060,049
shares on September 30, 2004 and 3,995,857 shares
at December 31, 2003 40,601 39,959
Paid-in capital 29,816,333 28,609,206
Retained earnings 15,495,017 14,300,258
Accumulated other comprehensive income (loss) (177,054) (412,396)
------------ ------------
Total stockholders' equity 45,174,897 42,537,027
------------ ------------
Total liabilities and stockholders' equity $542,993,910 $439,233,702
============ ============
Investment securities held-to-maturity have a fair market value of
$41,140,312 as of September 30, 2004 and $11,851,713 as of December
31, 2003.
Securities classified as available-for-sale are stated at fair value
with any unrealized gains or losses reflected as an adjustment in
Stockholders' Equity, net of tax effect.
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
SLADE'S FERRY BANCORP. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND EXPENSE
(Unaudited)
NINE MONTHS ENDED SEPTEMBER 30,
2004 2003
----------- -----------
Interest and dividend income:
Interest and fees on loans $15,061,034 $12,928,787
Interest and dividends on investments 2,206,021 2,258,138
Other interest 220,044 135,253
----------- -----------
Total interest and dividend income 17,487,099 15,322,178
Interest expense:
Interest on deposits 3,726,333 3,538,854
Interest on Federal Home Loan Bank advances 1,800,220 1,059,978
Interest on subordinated debentures 236,126 -
----------- -----------
Total interest expense 5,762,679 4,598,832
----------- -----------
Net interest and dividend income 11,724,420 10,723,346
Provision for loan losses 376,215 (539,357)
----------- -----------
Net interest and dividend income after
provision for loan losses 11,348,205 11,262,703
Noninterest income:
Service charges on deposit accounts 404,129 429,266
Overdraft service charges 403,602 410,788
Gain (loss) on sales and calls of available-for-sale securities, net 46,298 1,944
Gain (loss) on sale of loans 195,817 (115,792)
Increase in cash surrender value of life insurance policies 357,946 318,405
Other income 568,355 430,816
----------- -----------
Total noninterest income 1,976,147 1,475,427
Noninterest expense:
Salaries and employee benefits 6,027,104 5,728,779
Occupancy expense 599,518 710,580
Equipment expense 417,887 398,971
Stationary and supplies 176,783 164,337
Professional fees 779,085 780,640
Marketing expense 409,637 310,058
Other expense 1,484,305 1,391,228
----------- -----------
Total noninterest expense 9,894,319 9,484,593
----------- -----------
Income before income taxes 3,430,033 3,253,537
Income taxes 1,143,229 1,627,856
----------- -----------
Net income (1) $ 2,286,804 $ 1,625,681
=========== ===========
Earnings per common share - basic $ 0.57 $ 0.41
=========== ===========
Earnings per common share - diluted $ 0.56 $ 0.41
=========== ===========
Average common shares outstanding - basic 4,038,499 3,963,167
=========== ===========
Average common shares outstanding - diluted 4,086,415 3,994,511
=========== ===========
Dividend declared per share $ 0.27 $ 0.27
=========== ===========
Comprehensive income (2) $ 2,522,147 $ 1,317,965
=========== ===========
--------------------
The year to date results of operations for the period ended September
30, 2003 have been revised from that previously reported to remove the
extraordinary item. The extraordinary item treatment previously
presented was revised, and its individual components were reclassed to
income tax expense in the amount of $529,191, and included in other
expense is interest of $128,977. See Footnote 20 to the Company's
audited consolidated financial statements included in the Company's
annual report on Form 10-K for the year ended December 31, 2003 filed
with the U.S. Securities and Exchange Commission.
Calculated using the change in accumulated other comprehensive income
(loss) for the period and net income for the period.
4
SLADE'S FERRY BANCORP. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND EXPENSE
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30,
2004 2003
----------- -----------
Interest and dividend income:
Interest and fees on loans $ 5,194,000 $ 4,419,503
Interest and dividends on investments 998,496 671,857
Other interest 57,509 26,873
----------- -----------
Total interest and dividend income 6,250,005 5,118,233
Interest expense:
Interest on deposits 1,279,272 1,090,910
Interest on Federal Home Loan Bank advances 627,084 408,772
Interest on subordinated debentures 118,203 -
----------- -----------
Total interest expense 2,024,559 1,499,682
----------- -----------
Net interest and dividend income 4,225,446 3,618,551
Provision for loan losses - -
----------- -----------
Net interest and dividend income after
provision for loan losses 4,225,446 3,618,551
Noninterest income:
Service charges on deposit accounts 132,295 151,072
Overdraft service charges 148,815 147,662
Gain (loss) on sales and calls of available-for-sale securities, net 6,994 42,862
Gain (loss) on sale of loans 195,817 (12,258)
Increase in cash surrender value of life insurance policies 100,183 102,065
Other income 228,628 137,763
----------- -----------
Total noninterest income 812,732 569,166
Noninterest expense:
Salaries and employee benefits 1,944,972 1,919,939
Occupancy expense 179,326 225,567
Stationary and supplies 138,190 143,949
Equipment expense 66,975 50,055
Professional fees 302,470 238,964
Marketing expense 211,169 80,441
Other expense 618,461 424,376
----------- -----------
Total noninterest expense 3,461,563 3,083,291
----------- -----------
Income before income taxes 1,576,615 1,104,426
Income taxes 500,158 354,433
----------- -----------
Net income $ 1,076,457 $ 749,993
=========== ===========
Earnings per common share - basic $ 0.27 $ 0.19
=========== ===========
Earnings per common share - diluted $ 0.26 $ 0.19
=========== ===========
Average common shares outstanding - basic 4,058,086 3,976,557
=========== ===========
Average common shares outstanding - diluted 4,101,223 4,022,804
=========== ===========
Dividend declared per share $ 0.09 $ 0.09
=========== ===========
Comprehensive income (1) $ 1,821,723 $ 228,627
=========== ===========
--------------------
Calculated using the change in accumulated other comprehensive income
(loss) for the period and net income (loss) for the period.
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
SLADE'S FERRY BANCORP. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003
(Unaudited)
Accumulated
Other
Common Paid-in Retained Comprehensive
Stock Capital Earnings (Loss) Income Total
------------------------------------------------------------------------
Balance, December 31, 2003,
as previously reported $39,959 $28,609,206 $14,698,595 $(605,619) $42,742,141
Cumulative effect relating
to pension plan adjustment - - (398,337) 193,223 (205,114)
------------------------------------------------------------------------
Balance, December 31, 2003,
as restated 39,959 28,609,206 14,300,258 (412,396) 42,537,027
Comprehensive income:
Net income - - 2,286,804
Other comprehensive income 235,342
Comprehensive income 2,522,146
Issuance of common stock from
dividend reinvestment plan 210 461,770 - - 461,980
Stock issuance relating to optional
cash contribution plan 44 88,920 - - 88,964
Stock options exercised 422 531,510 - - 531,932
Tax benefit of stock options - 157,261 - - 157,261
Retirement of 3,412 shares
of common stock (34) (32,334) - - (32,368)
Dividends declared ($.09 per share) - - (1,092,045) - (1,092,045)
------------------------------------------------------------------------
Balance, September 30, 2004 $40,601 $29,816,333 $15,495,017 $(177,054) $45,174,897
========================================================================
Accumulated
Other
Common Paid-in Retained Comprehensive
Stock Capital Earnings (Loss) Income Total
------------------------------------------------------------------------
Balance, December 31, 2002,
as previously reported $39,378 $27,693,199 $13,445,335 $ (10,908) $41,167,004
Cumulative effect relating
to pension plan adjustment (394,095) (149,918) (544,013)
------------------------------------------------------------------------
Balance, December 31, 2002,
as restated 39,378 27,693,199 13,051,240 (160,826) 40,622,991
Comprehensive income:
Net income 1,625,681
Other comprehensive income (307,716)
Comprehensive income 1,317,965
Issuance of common stock from
dividend reinvestment plan 338 509,423 509,761
Stock issuance relating to optional
cash contribution plan 70 104,444 104,514
Stock options exercised 10 9,490 9,500
Dividends declared ($.09 per share) (1,071,017) (1,071,017)
------------------------------------------------------------------------
Balance, September 30, 2003 $39,796 $28,316,556 $13,605,904 $(468,542) $41,493,715
========================================================================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
SLADE'S FERRY BANCORP. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30,
(Unaudited)
2004 2003
-----------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,286,804 $ 1,625,681
Adjustments to reconcile net income to net cash
provided by operating activities:
Amortization, net of accretion of securities 122,013 156,662
Gains on sales of available-for-sale securities, net (46,298) (1,944)
(Gains)losses on sale of loans (195,817) 115,792
Change in unearned income 170,038 35,935
Provision (benefit) for loan losses 376,215 (539,357)
Depreciation and amortization 482,745 473,251
Increase in cash surrender value of life insurance policies (357,946) (318,405)
Decrease in taxes receivable 57,986 215,024
Deferred tax (benefit) expense (25,323) 59,053
(Increase) decrease in other assets (501,688) 47,739
Increase in prepaid expenses (20,214) (39,605)
Increase in interest receivable (540,160) (18,907)
Increase (decrease) in other liabilities 363,928 (13,265)
Increase in accrued expenses 96,433 120,183
Increase in interest payable 41,439 11,111
Increase in community investment fund (10,069) 0
Decrease in minority interest 0 (3,500)
-----------------------------
Net cash provided by operating activities 2,300,086 1,925,448
-----------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities of interest-bearing
time deposits with other banks 100,000 0
Purchases of available-for-sale securities (48,903,948) (29,246,394)
Proceeds from sales of available-for-sale securities 624,977 0
Proceeds from maturities and calls of available-for-sale securities 11,348,091 41,882,767
Purchases of held-to-maturity securities (31,428,123) (4,926,305)
Proceeds from maturities of held-to-maturity securities 2,097,540 6,463,543
Purchase of Federal Home Loan Bank stock (1,180,500) (1,092,000)
Loan originations and principal collections, net (39,533,350) (53,473,842)
Recoveries of loans previously charged off 91,609 90,927
Proceeds from sales of loans 8,198,263 1,862,319
Capital expenditures (432,949) (396,642)
Investment in life insurance policies (135,000) (950,500)
-----------------------------
Net cash used in investing activities (99,153,390) (39,786,127)
-----------------------------
The accompanying notes are an integral part of these condensed consolidated
financial statements.
7
SLADE'S FERRY BANCORP. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------
(Unaudited)
(Continued)
2004 2003
-----------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in demand deposits, NOW,
and savings accounts 53,411,595 18,164,159
Net increase (decrease) in time deposits 16,898,250 (7,567,685)
Proceeds from long term Federal Home Loan Bank advances 24,000,000 22,920,823
Payments on Federal Home Loan Bank long-term advances (262,512) 0
Net change in short-term advances from Federal Home Loan Bank (3,824,000) 0
Proceeds from issuance of subordinated debentures 10,310,000 0
Proceeds from issuance of common stock 550,947 623,775
Stock options exercised 689,190 0
Retired common stock shares (32,368) 0
Dividends paid (1,086,210) (1,067,257)
-----------------------------
Net cash provided by financing activities 100,654,892 33,073,815
-----------------------------
Net increase (decrease) in cash and cash equivalents 3,801,588 (4,786,864)
Cash and cash equivalents at beginning of year 22,705,909 34,716,536
-----------------------------
Cash and cash equivalents at the end of period $ 26,507,497 $ 29,929,672
=============================
SUPPLEMENTAL DISCLOSURES:
Interest paid $ 5,721,240 $ 4,587,721
Income taxes paid (received) $ 1,104,441 $ 824,588
The accompanying notes are an integral part of these condensed consolidated
financial statements.
8
SLADE'S FERRY BANCORP. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
September 30, 2004
Note A - Basis of Presentation
------------------------------
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with accounting principles generally accepted in
the United States of America (GAAP) for interim financial information and
the instructions to Form 10-Q and, accordingly, do not include all of the
information and footnotes required by GAAP for complete financial
statements. In the opinion of the management of Slade's Ferry Bancorp. (the
"Company"), all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results for the nine and three month periods ended September 30, 2004 are
not necessarily indicative of the results that may be expected for the year
ending December 31, 2004.
The year-end condensed consolidated balance sheet data was derived from
audited financial statements, but does not include all disclosures required
by GAAP.
Note B - Accounting Policies
----------------------------
The accounting principles followed by Slade's Ferry Bancorp. and subsidiary
and the methods of applying these principles which materially affect the
determination of financial position, results of operations, or changes in
financial position are consistent with those used for the year ended
December 31, 2003.
The consolidated financial statements of Slade's Ferry Bancorp. include its
wholly-owned subsidiary, Slade's Ferry Trust Company, and its subsidiaries,
Slade's Ferry Realty Trust, Slade's Ferry Securities Corporation, Slade's
Ferry Securities Corporation II and Slade's Ferry Loan Company. All
significant intercompany balances have been eliminated.
Note C - Stock Based Compensation
---------------------------------
At September 30, 2004, the Company has a stock-based employee compensation
plan. The Company accounts for the plan under the recognition and
measurement principles of APB Opinion No. 25, "Accounting for Stock Issued
to Employees," and related Interpretations. No stock-based employee
compensation cost is reflected in net income (except for appreciation from
options surrendered), as all options granted under this plan had an exercise
price equal to the market value of the underlying common stock on the date
of grant. The following table illustrates the effect on net income and
earnings per share if the Company had applied the fair value recognition
provisions of SFAS Statement No. 123, "Accounting for Stock-Based
Compensation," to stock-based employee compensation.
3 Months Ended September 30, 9 Months Ended September 30,
2004 2003 2004 2003
------------------------------------------------------------
Net income, as reported $1,076,457 $749,993 $2,286,804 $1,625,681
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects 0 0 87,438 55,967
-------------------------------------------------------
Pro forma net income $1,076,457 $749,993 $2,199,366 $1,569,714
=======================================================
Earnings per share:
Basic - as reported $ 0.27 $ 0.19 $ 0.57 $ 0.41
Basic - pro forma $ 0.27 $ 0.19 $ 0.54 $ 0.40
Diluted - as reported $ 0.26 $ 0.19 $ 0.56 $ 0.41
Diluted - pro forma $ 0.26 $ 0.19 $ 0.54 $ 0.39
9
Note D - Pension Benefits
-------------------------
The net periodic benefit cost is summarized below:
Nine months ended September 30, Three months ended September 30,
2004 2003 2004 2003
-------------------------------------------------------------------
Interest cost $ 79,158 $ 80,643 $ 26,386 $ 26,881
Expected return on plan assets (80,724) (35,901) (26,908) (11,967)
Settlement charge 98,250 105,047 39,968 -
Recognized net actuarial (gain) loss 31,761 25,404 10,587 8,468
Net periodic benefit cost (income) $128,445 $175,193 $ 50,033 $ 23,382
========================================================
The Company previously disclosed in its consolidated financial statements
for the year ended December 31, 2003 that it expected employer pension plan
contributions to be $150,000 in 2004. This contribution was made in
September 2004.
Note E - Impact of New Accounting Standards
-------------------------------------------
The initial recognition and initial measurement provisions of FIN 45 are
applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The disclosure requirements in FIN 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. The Company adopted the initial recognition and initial measurement
provisions of FIN 45 effective as of January 1, 2003 and adopted the
disclosure requirements effective as of December 31, 2002. The adoption of
this interpretation did not have a material effect on the Company's
financial position or results of operations.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement No. 133
on Derivative Instruments and Hedging Activities" ("SFAS No. 149"), which
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." This Statement (a) clarifies
under what circumstances a contract with an initial net investment meets the
characteristic of a derivative, (b) clarifies when a derivative contains a
financing component, (c) amends the definition of an underlying to conform
to language used in FASB Interpretation No. 45, "Guarantor's Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others," and (d) amends certain other existing
pronouncements. The provisions of SFAS No. 149 are effective for contracts
entered into or modified after September 30, 2003. There was no substantial
impact on the Company's consolidated financial statements on adoption of
this Statement.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity" ("SFAS No.
150"). This Statement establishes standards for the classification and
measurement of certain financial instruments with characteristics of both
liabilities and equity. SFAS No. 150 requires that certain financial
instruments that were previously classified as equity must be classified as
a liability. Most of the guidance in SFAS No. 150 is effective for financial
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of the first interim period beginning after June
15, 2003. This Statement did not have any material effect on the Company's
consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"), in an effort to expand upon and
strengthen existing accounting guidance that addresses when a company should
include in its financial statements the assets, liabilities and activities
of another entity. In December 2003, the FASB revised Interpretation No. 46,
also referred to as Interpretation 46 (R) ("FIN 46(R)"). The
10
objective of this interpretation is not to restrict the use of variable
interest entities but to improve financial reporting by companies involved
with variable interest entities. Until now, one company generally has
included another entity in its consolidated financial statements only if it
controlled the entity through voting interests. This interpretation changes
that, by requiring a variable interest entity to be consolidated by a
company only if that company is subject to a majority of the risk of loss
from the variable interest entity's activities or entitled to receive a
majority of the entity's residual returns or both. The Company is required
to apply FIN 46, as revised, to all entities subject to it no later than the
end of the first reporting period ending after March 15, 2004. However,
prior to the required application of FIN 46, as revised, the Company shall
apply FIN 46 or FIN 46 (R) to those entities that are considered to be
special-purpose entities as of the end of the first fiscal year or interim
period ending after December 15, 2003. The adoption of this interpretation
did not have a material effect on the Company's consolidated financial
statements.
In December 2003, the FASB issued SFAS No. 132 (revised 2003), "Employers'
Disclosures about Pensions and Other Postretirement Benefits - an amendment
of SFAS No. 87, SFAS No. 88 and SFAS No. 106" ("SFAS No. 132 (revised
2003)"). This Statement revises employers' disclosures about pension plans
and other postretirement benefit plans. It does not change the measurement
or recognition of those plans required by SFAS No. 87, "Employers'
Accounting for Pensions," SFAS No. 88, "Employers' Accounting for
Settlements and Curtailments of Defined Benefit Pension Plans and for
Termination Benefits," and SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than Pensions." This Statement retains the
disclosure requirements contained in SFAS No. 132, "Employers' Disclosures
About Pensions and Other Postretirement Benefits," which it replaces. It
requires additional disclosures to those in the original Statement 132 about
assets, obligations, cash flows and net periodic benefit cost of defined
benefit pension plans and other defined benefit postretirement plans. This
Statement is effective for financial statements with fiscal years ending
after December 15, 2003 and interim periods beginning after December 15,
2003. Adoption of this Statement did not have a material impact on the
Company's consolidated financial statements.
In December 2003, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position 03-3 ("SOP 03-3") "Accounting for
Certain Loans or Debt Securities Acquired in a Transfer." SOP03-3 requires
loans acquired through a transfer, such as a business combination, where
there are differences in expected cash flows and contractual cash flows due
in part to credit quality be recognized at their fair value. The excess of
contractual cash flows over expected cash flows is not to be recognized as
an adjustment of yield, loss accrual, or valuation allowance. Valuation
allowances cannot be created nor "carried over" in the initial accounting
for loans acquired in a transfer on loans subject to SFAS 114, "Accounting
by Creditors for Impairment of a Loan." This SOP is effective for loans
acquired in fiscal years beginning after December 15, 2004, with early
adoption encouraged. The Bank/Company/Corporation does not believe the
adoption of SOP 03-3 will have a material impact on the
Bank's/Company's/Corporation's financial position or results of operations.
On March 9, 2004, the SEC issued Staff Accounting Bulletin 105, "Application
of Accounting Principles to Loan Commitments," ("SAB 105") to inform
registrants of the Staff's view that the fair value of the recorded loan
commitments should not consider the expected future cash flows related to
the associated servicing of the future loan. The provisions of SAB 105 must
be applied to loan commitments accounted for as derivatives that are entered
into after March 31, 2004. The Staff will not object to the application of
existing accounting practices to loan commitments accounted for as
derivatives that are entered into on or before March 31, 2004, with
appropriate disclosures. The Company records the value of its mortgage loan
commitments at fair market value for mortgages it intends to sell, and does
not currently include, and was not including, the value of mortgage
servicing or any other internally-developed intangible assets in the
valuation of its mortgage loan commitments. Therefore, the adoption of SAB
105 did not have an impact on the Company's financial condition or results
of operations.
At its March 2004 meetings, the Emerging Issues Task force ("EITF")
revisited EITF Issue No. 03-1, "The Meaning of Other-Than-Temporary
Impairment and its Application to Certain Investments" (EITF No. 03-1).
11
Effective with reporting periods beginning after June 15, 2004, companies
carrying certain types of debt and equity securities whose amortized cost is
higher than the securities' fair values will have to use more detailed
criteria to evaluate whether to record a loss and will have to disclose
additional information about unrealized losses. The Company has reviewed the
revised EITF No. 03-1 and plans to implement these additional procedures
effective with the quarter beginning on July 1, 2004. Even though as of June
30, 2004 most of the unrealized losses on the Company's investments and
mortgage-backed securities were deemed temporary, at this time the Company
can not determine whether the adoption of this new issuance will have an
impact on the Company's financial position and results of operations, as the
extent of any impact will vary due to the fact that the model calls for many
judgements and additional evidence gathering at each securities valuation
date.
12
ITEM 2
Management's Discussion and Analysis of Financial Condition and
---------------------------------------------------------------
Results of Operations
---------------------
This Form 10-Q/A contains certain forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995, including
statements regarding the strength of the company's capital and asset
quality. Such statements may be identified by words such as "believes,"
"will," "expects," "project," "may," "developments," "strategic,"
"launching," "opportunities," "anticipates," "estimates," "intends,"
"plans," "targets" and similar expressions. These statements are based upon
the current beliefs and expectations of Slade's Ferry Bancorp.'s management
and are subject to significant risks and uncertainties. Actual results may
differ materially from those set forth in the forward-looking statements as
a result of numerous factors.
The following factors, among others, could cause actual results to differ
materially from the anticipated results or other expectations expressed in
our forward-looking statements: (1) enactment of adverse government
regulation; (2) competitive pressures among depository and other financial
institutions may increase significantly and have an effect on pricing,
spending, third-party relationships and revenues; (3) the strength of the
United States economy in general and specifically the strength of the New
England economies may be different than expected, resulting in, among other
things, a deterioration in overall credit quality and borrowers' ability to
service and repay loans, or a reduced demand for credit, including the
resultant effect on the Bank's loan portfolio, levels of charge-offs and
non-performing loans and allowance for loan losses; (4) changes in the
interest rate environment may reduce interest margins and adversely impact
net interest income; and (5) changes in assumptions used in making such
forward-looking statements. Should one or more of these risks materialize or
should underlying beliefs or assumptions prove incorrect, Slade's Ferry
Bancorp.'s actual results could differ materially from those discussed. All
subsequent written and oral forward-looking statements attributable to
Slade's Ferry Bancorp. or any person acting on its behalf are expressly
qualified in their entirety by the cautionary statements set forth above.
Slade's Ferry Bancorp. does not intend or undertake any obligation to update
any forward-looking statement to reflect circumstances or events that occur
after the date the forward-looking statements are made.
Slade's Ferry Bancorp. (the "Company," "us," or "we"), a business
corporation organized under the laws of the Commonwealth of Massachusetts,
serves as the holding company for Slade's Ferry Trust Company (the "Bank")
and its subsidiaries. Our common stock is quoted on the Nasdaq Small Cap
Market under the symbol "SFBC." Unless the context otherwise requires, all
references herein to the Company include the Company, the Bank and its
subsidiaries on a consolidated basis.
Critical Accounting Policies
Our significant accounting policies are described in Note 2 to our
Consolidated Financial Statements filed within form 10-K for the year ended
December 31, 2003. In preparing financial information, management is
required to make significant judgements, estimates, and assumptions that
impact the reported amounts of certain assets, liabilities, revenues and
expenses. The accounting principles followed by us and the methods of
applying these principles conform to accounting principles generally
accepted in the United States, and general banking practices. We consider
the following to be our critical accounting policies: allowance for loan
losses, goodwill and other intangible assets, other than temporary
impairment of investments, and deferred taxes.
Allowance for loan losses. Establishing an appropriate level of allowance
for loan losses involves a high degree of judgement. The allowance for loan
losses is established through a charge or credit to the provision for loan
losses, and is based on our projection of the adequate level of the
allowance in relation to the inherent loss exposure in the loan portfolio.
On a monthly basis, management evaluates the adequacy of the allowance. Such
evaluation includes a formal analysis that considers, among other factors,
business and economic conditions and industry trends, the size and
characteristics of the loan portfolio, delinquency trends, charge-off
experience, loan growth, nonaccrual loan trends, and portfolio migration
information. Although we use
13
available information to project the appropriate level of the allowance
which is based on factors and risk identification procedures discussed in
"Item I Business - Summary of Loan Loss Experience," the use of judgements
and projections may change in the future. Changes in factors or assumptions
used by us to determine the adequacy of the allowance or the availability of
new information could cause the allowance for loan losses to be increased or
decreased in future periods. In addition, bank regulatory agencies, as part
of their examination process, may require the Company to recognize
adjustments to the allowance based on their judgements and projections.
Accounting for Acquisitions and Review of Goodwill. The Bank completed an
acquisition in 1996 and used the purchase method of accounting. For
acquisitions under this method, assets acquired and liabilities assumed were
recorded at their estimated fair value, which in some instances involves
estimates based on internal and third party pressures, or other valuation
techniques. In addition, this purchase acquisition resulted in goodwill,
which is subject to ongoing periodic impairment tests, and is evaluated
using fair value techniques that contain estimates. If the estimated fair
value is less than the carrying amount, a loss due to impairment would be
recognized to reduce the carrying value to fair value.
Other than temporary impairment. Management records an impairment charge
when it believes an investment security experiences a decrease in value that
is "other than temporary". In making a decision whether an investment is
permanently impaired, management reviews current and forecasted information
about the underlying investment that is available, applicable industry data,
and analyst reports. When an investment is deemed to be impaired on an
"other than temporary" basis, it is written down to current fair market
value. Future adverse changes in economic and market conditions,
deterioration in credit quality, and continued poor financial results of
underlying investments or other factors could result in further losses that
may not be reflected in an investment's current book value that could result
in future writedown charges due to impairment.
Deferred tax estimates. Management utilizes the asset and liability method
for accounting for income taxes. Under this method, deferred tax assets and
liabilities are recognized for the future tax attributable to differences
between the financial statement carrying amounts of assets and liabilities
and their respective tax basis. We must also assess the probability that
deferred tax assets will be recovered from future taxable income, and
establish a valuation allowance for any assets determined not likely to be
recovered. Management exercises judgement in evaluating the amount and
timing of recognition of the resulting deferred tax assets and liabilities,
including projections of future taxable income. These judgements are
estimates and assumptions and are reviewed on a continuing basis.
Comparison of Financial Condition at September 30, 2004 and December 31, 2003
Total Assets. Total assets increased by $103.8 million, or 23.6%, from
$439.2 million at December 31, 2003 to $543.0 million at September 30, 2004.
Net loans increased from $331.5 million at December 31, 2003 to $362.4
million at September 30, 2004, while investments increased from $57.7
million to $125.1 million during the same time period. Asset growth was
funded predominantly by deposit growth of $70.3 million. In addition, the
Bank participated in a trust preferred offering which raised gross proceeds
in the amount of $10.3 million in March 2004, providing the Company with
additional regulatory capital that will be used to fund continued growth of
the institution. The remainder of the growth was funded by the net increase
in advances from the Federal Home Loan Bank of Boston (the "FHLB"), totaling
$19.9 million. These advances were made in accordance with the Bank's
strategic initiatives.
Cash and Cash Equivalents. Cash and cash equivalents increased by $3.8
million, from $22.7 million as of year-end 2003 to $26.5 million at
September 30, 2004. Cash and cash equivalents, for purposes of reporting
cash flows, includes cash, amounts due from banks, interest-bearing demand
deposits with other banks, federal funds sold, overnight deposit with the
FHLB and money market mutual funds.
14
Investments. Total investments, excluding FHLB stock and interest-bearing
time deposits with other banks, increased by $66.5 million from $58.6
million at December 31, 2003 to $125.0 million at September 30, 2004.
Investments in both the "Held to Maturity" and Available for Sale portfolios
increased with the inflow of funds from deposits and borrowed funds. Certain
of these securities are viewed as temporary, with the funds waiting to be
deployed as loans.
The main objectives of the investment portfolio are (1) to provide adequate
liquidity to meet reasonable declines in deposits and any anticipated
increases in the loan portfolio; (2) to provide safety of principal and
interest; (3) to generate earnings adequate to provide a stable income; and
(4) to fit within the overall asset/liability management objectives of the
Company. The Company has not purchased investments with off-balance sheet
characteristics, such as swaps, options, futures, and other hedging
activities; nor has it purchased collateral mortgage obligations.
In accordance with Statement of Financial Accounting Standards No. 115,
entitled "Accounting for Certain Investments in Debt and Equity Securities"
("SFAS No. 115"), the investment portfolio is segregated into a "Held-to-
Maturity" category and an "Available-for-Sale" category as defined by SFAS
No. 115. The designation is determined at the time of purchase. Neither the
Company nor the Bank maintains any securities as "Held for Trading".
The Held-to-Maturity category consists of securities issued by states and
municipalities of the United States and political subdivisions of states and
mortgage-backed securities issued by federal agencies. The Company has the
positive intent and ability to hold these securities to maturity. In
managing the Held-to-Maturity portfolio, the Company seeks to maximize its
return and maintain consistency to meet short and long term liquidity
forecasts by purchasing securities with maturities laddered within a short-
term period of 1-3 years, a mid-term period of 3-5 years, and mortgage-
backed securities with weighted average lives of up to 71/2 years.
Investment Securities Held-to-Maturity are carried at amortized cost on the
balance sheet, and are summarized as follows as of September 30, 2004:
Amortized Gross Unrealized Gross Unrealized
(Dollars In Thousands) Cost Basis Holding Gains Holding Losses Fair Value
-------------------------------------------------------------------------------------------------------------
U. S. Treasury securities and obligations
of U. S. Government Corporations
and Agencies $ 9,195 $407 $ 0 $ 9,602
Mortgage-backed securities 30,105 102 0 30,207
Other debt securities 1,331 0 0 1,331
------------------------------------------------------------------------------------------------------------
Total $40,631 $509 $ 0 $41,140
============================================================================================================
Securities in the Available-for-Sale category are securities that the
Company intends to hold for an indefinite period of time, but not
necessarily to maturity. These securities may be sold in response to
interest rate changes, liquidity needs or other factors. Any unrealized gain
or loss, net of taxes, for the Available-for-Sale securities is reflected in
Stockholders' Equity as a separate component.
15
Investments in Available-for-Sale securities are carried at fair value on
the balance sheet and are summarized as follows as of September 30, 2004:
Gains in Losses in
Accumulated Accumulated
Other Other
Amortized Comprehensive Comprehensive
(Dollars In Thousands) Cost Basis Income Income Fair Value
--------------------------------------------------------------------------------------------------
Debt Securities issued by the U. S.
Treasury and other U. S. Government
Corporations and Agencies $40,993 $ 187 $229 $40,951
Marketable Equity Securities 3,936 218 415 3,739
Mortgage-backed Securities 29,522 607 110 30,019
Corporate Debt Securities 9,488 133 0 9,621
-------------------------------------------------------------------------------------------------
Total $83,939 $1,145 $754 $84,330
=================================================================================================
Securities of the U.S. Treasury, U.S. Government corporations and agencies,
and mortgage-backed securities have little or no credit risk, other than
being sensitive to changes in interest rates, and if held-to-maturity, these
securities will mature at par. The Company amortizes premiums and accretes
discounts over the life of the securities. Corporate and municipal bonds are
subject to credit risk. Accordingly, the Company's investment policy
requires that these securities meet minimum credit quality standards.
Specifically, Moody's or Standard and Poor's must rate the securities as
"investment grade" before being considered for investment. Securities that
subsequently fall below investment grade are evaluated on a case by case
basis by both management and the Finance and Investment Committee of the
Board of Directors.
Marketable equity securities have an even greater risk as they are subject
to market fluctuations. Marketable equity securities are constantly
monitored and evaluated to determine their suitability for sale, retention
in the portfolio, or possible writedowns due to impairment issues. Market
risk is controlled by limiting the total amount invested into marketable
equity securities, and by maintaining a diversified mix of securities across
various industry sectors. It is the Company's policy not to invest in equity
securities that are not traded actively on a national exchange. At September
30, 2004, the amount invested in marketable equity securities was 3.0% of
the total market value of the investment portfolio and was distributed over
various industry sectors.
The Company holds certain securities in two subsidiary corporations
designated as Massachusetts Securities Corporations. These corporations are
afforded a beneficial state tax rate, 1.34%, as compared to the regular
Massachusetts Bank tax rate of 10.50%, provided that the principal and
interest remains held within the securities corporations. Earnings
distributed to the Bank or the Company from the securities corporations
would be subject to state taxation as dividend income to the Bank or the
Company, and securities transferred to the Bank or the Company would be
transferred at fair value, subject to taxes on any gains realized. The two
Massachusetts Securities Corporations hold securities totaling $56.2
million. Certain securities have been pledged by the Bank as collateral to
secure FHLB borrowings.
16
Loans. The following table shows the amount of loans by category at
September 30, 2004 and December 31, 2003.
(In Thousands) September 30, 2004 December 31, 2003
-----------------------------------------------------------------------------
Residential real estate $172,743 $147,178
Commercial real estate 140,640 140,572
Commercial 28,483 33,980
Construction and land development 22,479 10,346
Consumer 2,680 3,961
Other 81 57
------------------------------------------------------------------------
Total gross loans 367,106 336,094
Allowance for loan losses (4,103) (4,154)
Unearned income (613) (443)
------------------------------------------------------------------------
Net loans $362,390 $331,497
========================================================================
Total gross loans increased by $31.0 million, or 9.2%, from $336.1 million
at December 31, 2003, to $367.1 million at September 30, 2004. Residential
mortgage and home equity loans increased by $25.5 million, to $172.7 million
as of September 30, 2004, compared to $147.2 million at year-end 2003.
Commercial real estate loans remained constant at $140.6 million.
Construction and land development loans increased by $12.1 million to $22.5
million at September 30, 2004, compared to $10.3 million reported at year-
end 2003. The commercial and consumer portions of the Bank's portfolio
decreased by $5.5 million and $1.3 million respectively from December 31,
2003 to September 30, 2004. Changes in the loan portfolio mix are indicative
of the Bank's increased emphasis on the origination of residential real
estate loans, both first mortgages and equity lines of credit, as a means of
diversification and credit risk management. Consistent with this emphasis,
residential real estate and home equity loans represent 47.1% of total loans
as of September 30, 2004 compared to 43.8% as of December 31, 2003.
Commercial real estate loans represent 38.3% of the total loans as of
September 30, 2004, as compared to 41.8% as of December 31, 2003. These
loans are collateralized by various types of commercial properties, without
any predominant type of property or concentration of credit in any one
industry.
INFORMATION WITH RESPECT TO NONACCRUAL AND PAST DUE LOANS
AT SEPTEMBER 30, 2004 AND 2003 AND DECEMBER 31, 2003 AND 2002
At September 30, At December 31,
--------------------------------------------------------------------------------------------------
(Dollars In Thousands) 2004 2003 2003 2002
--------------------------------------------------------------------------------------------------
Nonaccrual Loans $ 218 $ 637 $ 407 $ 635
Loans 90 days or more past due and still accruing 173 13 0 8
Real estate acquired by foreclosure
or substantively repossessed 0 0 0 0
Percentage of nonaccrual loans to total gross loans 0.06% 0.20% 0.12% 0.24%
Percentage of nonaccrual loans, restructured loans,
and real estate acquired by foreclosure or
substantively repossessed to total assets 0.07% 0.15% 0.09% 0.16%
Percentage of allowance for loan losses
to nonaccrual loans 1,882.11% 687.28% 1,020.64% 764.19%
Non-performing assets include nonaccrual loans, loans past due 90 days or
more and still accruing, restructured loans not performing in accordance
with amended terms, and other real estate acquired through foreclosure. Non-
performing assets as a total decreased by $16,000, from $407,000 on December
31, 2003 to $391,000 as of September 30, 2004.
17
The $218,000 in nonaccrual loans as of September 30, 2004 consists of
$73,000 of real estate mortgages, $100,000 attributed to commercial loans
and $45,000 of consumer loans. There were no restructured loans included in
nonaccrual loans for the first nine months of 2004.
The percentage of nonaccrual loans to total gross loans decreased from 0.12%
reported at the year-end 2003 to 0.06% at September 30, 2004 due to a
decrease in the nonaccrual category and the increase in the total loan
portfolio. The percentage of nonaccrual loans, restructured loans and real
estate acquired by foreclosure or substantively repossessed to total assets
decreased to 0.07% at September 30, 2004 from 0.09% reported at year-end
2003 due to the decrease in nonaccrual loans.. As noted above, subsequent to
the Balance Sheet date these loans have been paid or sold. The percentage of
allowance for loan losses to nonaccrual loans increased to 1,882.11% at
September 30, 2004 from 1,020.64% at year end 2003 due to a decrease in
nonaccrual loans.
INFORMATION WITH RESPECT TO INTEREST ON NONACCRUAL AND PAST DUE
LOANS AT SEPTEMBER 30, 2004 AND 2003 AND DECEMBER 31, 2003 AND 2002
At September 30, At December 31,
------------------------------------------------------------------------------------
(In Thousands) 2004 2003 2003 2002
------------------------------------------------------------------------------------
Nonaccrual Loans $218 $637 $407 $635
Interest income that would have been recorded
during the period under original terms 21 30 41 303
Interest income recorded during the period 42 18 30 121
The Company stops accruing interest on a loan once it becomes past due 90
days or more unless there is adequate collateral and the financial condition
of the borrower is sufficient. When a loan is placed on nonaccrual status,
all previously accrued but unpaid interest is reversed and charged against
current income. Interest is thereafter recognized in that category only when
payments are received and the loan becomes current. Loans in the nonaccrual
category will remain in that category until the possibility of collection no
longer exists, the loan is paid off, or the loan becomes current. When a
loan is determined to be uncollectible, it is then charged off against the
allowance for loan losses.
Statement of Financial Accounting Standards No. 114 "Accounting by Creditors
for Impairment of a Loan" ("SFAS No. 114") applies to all loans except large
groups of smaller-balance homogeneous loans that are collectively evaluated
for impairment, loans measured at fair value or at a lower of cost or fair
value, leases, and debt securities as defined in SFAS No. 115. SFAS No.114
requires that impaired loans be valued at the present value of expected
future cash flows discounted at the loan's effective interest rate or as a
practical expedient, at the loan's observable market value of the collateral
if the loan is collateral dependent. Large groups of smaller balance
homogeneous loans are collectively evaluated for impairment. Accordingly, we
do not separately identify individual consumer and residential loans for
impairment disclosures. A loan is considered impaired when, based on current
information and events, it is probable that we will be unable to collect the
scheduled payments of principle or interest when due according to the
contractual terms of the loan agreement.
At September 30, 2004 there were $120,000 of loans which we had determined
to be impaired, with a related allowance for credit losses of $6,000. In
addition, principal reductions, loan payoffs, charged off balances, loan
upgrades, and a change in our impairment identification methodology are
other factors resulting in a decrease of impaired loans.
There were no other loans classified for regulatory purposes as of September
30, 2004 that we expect will materially impact future operating results,
liquidity or capital resources.
18
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES
Nine Months Year Ended
Ended September 30, December 31,
----------------------------------------------------------------------------------------------
(Dollars In Thousands) 2004 2003 2003
----------------------------------------------------------------------------------------------
Balance at January 1 $4,154 $4,854 $4,854
------------------------------------------------------------------------------------------
Charge-offs:
Commercial (62) 0 (10)
Commercial real estate (425) 0 0
Residential real estate (18) (10) (169)
Construction and land development (4) 0 0
Consumer (11) (18) (32)
Other 0 0 0
------------------------------------------------------------------------------------------
Total charge-offs (520) (28) (211)
------------------------------------------------------------------------------------------
Recoveries:
Commercial 57 51 55
Commercial real estate 0 0 0
Residential real estate 25 29 44
Construction and land development 0 0 0
Consumer 10 11 14
Other 0 0 0
------------------------------------------------------------------------------------------
Total recoveries 92 91 113
------------------------------------------------------------------------------------------
Net (charge-offs) recoveries (428) 63 (98)
------------------------------------------------------------------------------------------
Provision (benefit) charged to (increasing) operations 376 (539) (602)
------------------------------------------------------------------------------------------
Balance at end of period $4,102 $4,378 $4,154
==========================================================================================
Ratio of net charge-offs to
average loans outstanding (0.15%) (0.01%) (0.03%)
The Bank maintains an allowance for loan losses at a level that is
sufficient to absorb the projected credit losses associated with its loan
portfolio. Projected credit losses reflect consideration of all significant
factors that affect repayment as of the evaluation date. Projected losses on
loan categories reflect historical net charge-off levels for similar loans,
adjusted for changes in current conditions or other relevant factors.
Calculation of historical charge-off rates can range from a simple average
of net charge-offs over a relevant period, to more complex techniques such
as migration analysis.
The level of the allowance for loan losses is evaluated monthly by
management and reviewed by the Board of Directors. Factors considered in the
evaluation process include growth of the loan portfolio, risk
characteristics of the loan types in the portfolio, the value of underlying
collateral, delinquency and charge off trends, current economic conditions
within the Bank's market area, and various other external and internal
factors. The allowance for loan losses is maintained at a level that
management considers adequate to absorb estimated losses within the Bank's
loan portfolio. The assessment of the adequacy of the allowance for loan
losses is reviewed annually by an independent loan review consultant, our
independent auditors, and regulatory agencies.
The allowance for loan losses at September 30, 2004 was $4.1 million,
compared to $4.2 million at year-end 2003. The allowance for loan losses as
a percentage of outstanding loans was 1.13% at September 30, 2004, and 1.25%
at December 31, 2003. The decrease in the allowance is related to sale of
certain loans, which were previously identified as problem credits.
Accordingly, these loans were allocated an elevated level of loan loss
reserve. Gains on the sale of these loans totaled $196,000 in 2004. In the
nine months ended September 30, 2003, the Company realized losses on sales
of problem loans totaling $116,000.
As the composition of the Bank's loan portfolio gradually changes and
diversifies from higher credit risk weighted loans, such as commercial real
estate and commercial and industrial loans, to residential and home equity
loans, management believes that a smaller reserve allowance will be
required. During the first three
19
quarters of 2004, due to the continued changes in the loan portfolio,
stronger underwriting guidelines, the sales of loans previously deemed
substandard, and overall improvement in credit quality of existing loans,
management believes that the level of overall credit risk embedded in the
loan portfolio decreased.
Charge-offs of loans were $211,000 for the year ended December 31, 2003,
$520,000 for the nine months ended September 30, 2004, and $28,000 for the
nine months ended September 30, 2003. Recoveries of loans previously charged
off totaled $113,000 for the year ended December 31, 2003, $92,000 for the
nine months ended September 30, 2004, and $91,000 for the nine months ended
September 30, 2003. Management believes that the allowance for loan losses
of $4.1 million as of September 30, 2004 is adequate to cover potential
losses in the loan portfolio, based on current information available to us.
The following table shows an allocation of the allowance for loan losses as
of the end of each of the periods indicated.
September 30, 2004 December 31, 2003
--------------------------------------------------------
Percent of Percent of
Loans in Each Loans in Each
Category to Category to
Amount Total Loans Amount Total Loans
--------------------------------------------------------
(Dollars In Thousands)
Commercial (5) $ 456(1) 7.76% $ 943(1) 10.11%
Residential real estate 416(2) 47.06 323(2) 43.79
Commercial real estate 3,045(3) 38.31 2,748(3) 41.83
Construction and land development 121 6.12 52 3.08
Consumer 64(4) .73 80(4) 1.17
Other - .02 8 .02
----------------------------------------------------
$4,102 100.00% $4,154 100.00%
====================================================
--------------------
Includes amounts specifically reserved for impaired loans of $0 as of
September 30, 2004 and $251,280 as of December 31, 2003 as required by
SFAS No. 114.
Includes amounts specifically reserved for impaired loans of $3,533 as
of September 30, 2004 and $13,979 as of December 31, 2003 as required
by SFAS No. 114.
Includes amounts specifically reserved for impaired loans of $0 as of
September 30, 2004 and $9,642 as of December 31, 2003 as required by
SFAS No. 114.
Includes amounts specifically reserved for impaired loans of $0 as of
September 30, 2004 and $170 as of December 31, 2003 as required by
SFAS No. 114.
Includes commercial, financial, agricultural and nonprofit loans.
Commercial real estate loans represent 38.31% of gross loans as of September
30, 2004. Residential real estate, including home equity loans, represents
47.06% of gross loans. The Company requires a loan to value ratio of 80% in
both commercial and residential mortgages. Residential real estate loans
secured by a first mortgage can be written with a loan-to-value ratio of 95%
with private mortgage insurance. These mortgages are secured by real
properties that have a readily ascertainable appraised value.
Generally, commercial real estate loans have a higher degree of credit risk
than residential real estate loans because they depend primarily on the cash
flows from rental or operation of the underlying collateral. When granting
these loans, we evaluate the financial condition of the borrower, the
location of the real estate, the quality of management, and general economic
and competitive conditions. When granting a residential mortgage, we review
the property securing the loan, the borrower's repayment history on past
debts and the
20
borrower's ability to meet existing obligations and payments on the proposed
loans. Real estate construction loans comprise both residential and
commercial construction loans throughout our market area.
Commercial loans consist of loans predominantly collateralized by inventory,
furniture and fixtures, and accounts receivable. In assessing the collateral
for this type of loan, we apply a 50% liquidation value to inventories; 25%
to furniture, fixtures and equipment; and 70% to accounts receivable less
than 90 days of invoice date. Commercial loans represent 7.8% of the loan
portfolio as of September 30, 2004, compared to 10.1% at December 31, 2003.
Consumer loans are both secured and unsecured borrowings and, at September
30, 2004, represents only 0.7% of the total loan portfolio, compared to 1.2%
at December, 2003. These loans have a higher degree of risk than residential
mortgage loans. The underlying collateral of a secured consumer loan tends
to depreciate in value. Consumer loans are typically made based on the
borrower's ability to repay the loan through continued financial stability.
We endeavor to minimize risk by reviewing the borrower's repayment history
on past debts, and assessing the borrower's ability to meet existing
obligations on the proposed loans.
Total Liabilities. Total liabilities increased from $396.7 million on
December 31, 2003 to $497.8 million at September 30, 2004. This increase is
mainly attributable to a $70.3 million increase in deposits throughout the
year, a net increase in FHLB advances of $19.9 million, and the issuance of
$10.3 million of subordinated debentures in March 2004.
Deposits. Total deposits at September 30, 2004 were $403.5 million, an
increase of $70.3 million or 21.1%, as compared to $333.1 million at
December 31, 2003. Savings deposit balances and money market accounts
increased by $43.2 million during the first nine months of 2004. This
increase is mainly attributable to the addition of a market-rate savings
product. Term certificates of deposit as of September 30, 2004 increased by
$17.3 million when compared to December 31, 2003. The Bank's marketing
programs, particularly in early 2004, were targeted to attracting and
cementing multiple account relationships with more affluent customers. The
Bank continues to offer a full range of deposit products to customers of all
income levels.
The following table shows the amount of deposits at the end of September 30,
2004 and December 31, 2003.
(In Thousands) September 30, 2004 December 31, 2003
------------------ -----------------
Noninterest-bearing $ 77,182 $ 73,254
Interest-bearing 326,273 259,891
-------- --------
$403,455 $333,145
======== ========
FHLB Advances. Total borrowed funds were $80.4 million at September 30,
2004, as compared to $60.5 million at December 31, 2003, an increase of
$19.9 million. In accordance with the Bank's strategic plan, FHLB advances
of varying terms, totaling $29.8 million were drawn during the nine months
ended September 30, 2004. A total of $24.0 million of these advances funded
the purchase of investment securities in the third quarter of 2004, in order
to "pre-fund" or replace expected loan origination during the third and
fourth quarters of 2004. Maturing advances totaling $9.6 million were repaid
during the nine months ended September 30, 2004, and principal totaling $0.3
million was repaid on amortizing advances during the same time frame.
During the next twelve months, FHLB advances totaling $5 million will
mature. Management believes that there will be adequate liquidity on hand to
repay these advances on schedule.
Subordinated Debentures. On March 17, 2004, Slade's Ferry Capital Trust I
(the "Trust"), a Connecticut Statutory trust formed by the Company,
completed the sale of $10.0 million of floating rate trust preferred
securities (liquidation amount of $1,000 per security) in a private
placement as part of a pooled trust preferred
21
securities transaction. The Trust also issued common securities to the
Company and used the net proceeds from the offering to purchase a like
amount of floating rate junior subordinated deferrable interest debentures
of the Company. The subordinated debentures are the sole assets of the
Trust. The Company contributed $10 million of the proceeds from the sale of
the subordinated debentures to the Bank as Tier I Capital to support the
Bank's growth. Total expenses associated with the offering approximating
$140,000 at March 31, 2004 are included in other assets and are being
amortized on a straight-line basis over the life of the subordinated
debentures.
The trust preferred securities accrue and pay distributions quarterly on
March 17, June 17, September 17 and December 17 of each year, commencing on
June 17, 2004, at a floating rate of 3-Month LIBOR plus 2.79% of the stated
liquidation amount of $1,000 per trust preferred security. At September 30,
2004, this rate was 4.68%. The Company has fully and unconditionally
guaranteed all of the obligations of the Trust, including the semi-annual
distributions and payments on liquidation or redemption of the trust
preferred securities.
The trust preferred securities are mandatorily redeemable upon the maturing
of the subordinated debentures on March 17, 2034 or upon earlier redemption
as provided in the Indenture. The Company has the right to redeem the
subordinated debentures, in whole or in part, on or after March 17, 2009 at
par value, plus any accrued but unpaid interest to the redemption date.
Redemption may occur prior to March 17, 2009 under certain conditions, at a
premium to par value.
Stockholders' Equity. Total stockholders' equity increased by $2.7 million,
from $42.5 million as reported on December 31, 2003, to $45.2 million as of
September 30, 2004. A portion of this increase resulted from net income of
$2.3 million, net change in comprehensive income totaling $0.2 million and
dividend reinvestments and option exercises totaling $1.3 million, partially
offset by dividends declared of $1.1 million.
22
Results of Operations
Nine-month period ended September 30, 2004 compared to the nine-month period
ended September 30, 2003. The Company's operating performance is dependent
on net interest and dividend income, which is the difference between
interest income earned on loans and investments and interest expense paid on
deposits and borrowed funds. The level of net interest income achieved is
significantly impacted by several factors such as economic conditions,
interest rates, asset/liability management, and corporate tax and strategic
planning.
The year-to-date results of operations nine months ended September 30, 2003
have been revised from that previously reported to reclassify the
extraordinary item. The extraordinary item treatment previously presented in
Form 10-Q for the quarter ended September 30, 2003 was revised, and its
individual components were reclassified to other expense and income taxes.
See Footnote 20 to the Company's audited consolidated financial statements
included in the Company's annual report on Form 10-K for the year ended
December 31, 2003 filed with the U.S. Securities and Exchange Commission.
The Company's net income for the nine months ended September 30, 2004 was
$2,286,804 or $0.56 per share diluted, as compared to $1,625,681 for the
nine months ended September 30, 2003 or $0.41 per share diluted.
Total interest and dividend income for the nine-month period ended September
30, 2004 increased by $2,164,921 or 14.1%, to $17,487,099, as compared to
$15,322,178 recorded during the same period in 2003. Interest and fees on
loans increased $2,132,247, or 16.5%, from $12,928,787 for the nine months
ended September 30, 2003 to $15,061,034 for the nine months ended September
30, 2004. The change was attributable to increases in the levels of both the
commercial and residential loan portfolios. As previously discussed, the
portfolio growth is the result of increased focus on expansion of the Bank's
loan portfolio, leveraging the Bank's excess capital. Interest and dividend
income on investments, federal funds sold, and other interest remained
relatively constant, increasing by a total of $32,674 when comparing the
nine months ended September 30, 2004 and 2003. Although balances increased,
the yields on this group of assets, taken as a whole, decreased, as a large
portion was held in the liquidity portfolio of overnight investments, in
anticipation of deployment as loans or longer-term securities.
Total interest expense increased from $4,598,832 for the nine months ended
September 30, 2003 to $5,762,679 for the nine months ended September 30,
2004, an increase of 25.3%. This increase was primarily attributable to the
growth in Federal Home Loan Bank advances in 2004 as well as the issuance of
subordinated debt in March, 2004. Interest on deposits increased by
$187,479. This increase resulted from increased deposit volume and is
partially offset by reduced market interest rates.
The net interest margin decreased by 33 basis points from 3.78% reported at
September 30, 2003 to 3.45% as of September 30, 2004. The Bank, like other
financial institutions, has experienced margin compression because of the
extended periods of low market interest rates.
The Company records a provision for loan losses as a charge against earnings
to fund the allowance for loan losses. Management maintains the allowance
for loan losses at a level that it believes is adequate to absorb losses
inherent within the loan portfolio. Management reviews the adequacy of the
allowance for loan losses on a monthly basis and reports changes in the
allowance to the Board of Directors. In determining the appropriate level of
the allowance for loan losses, management considers past and anticipated
loss experience, prevailing economic conditions, evaluations of underlying
collateral, and the volume of the loan portfolio and balance of non-
performing and classified loans. The Bank's provision for loan losses for
the nine months ended September 30, 2004 totaled $376,215, compared to a
benefit to earnings of $539,357 for the nine months ended September 30,
2003. The benefit recorded in 2003 was the result of the Bank's successful
and continuing efforts to improve the credit quality of its loan portfolio.
During 2004, the Bank sold additional non-performing loans, enabling the
Bank to reduce its allowance for loan losses and recognize gains on certain
loans. Management believes that the loan sales have improved overall loan
quality.
23
Total non-interest income increased by $500,720 or 34.0%, from $1,475,427
for the nine months ended September 30, 2003, to $1,976,147 for the nine
months ended September 30, 2004. The increase is primarily the result of an
increase of $311,609 in gain on sale of loans. Gains recognized on sales of
non-performing loans totaled $195,817 for the nine months ended September
30, 2004, as compared to a loss on sales of loans totaling $115,792 for the
nine months ended September 30, 2003. Service and overdraft charges on
deposit accounts decreased slightly by $32,323, when comparing the nine
months ended 2004 and 2003. The proliferation of "free" checking accounts in
the Bank's market area has resulted in the Bank's offering and promoting
these accounts. The income realized through the increase in cash surrender
value of bank owned life insurance policies associated with both the
directors' and executive officers' life insurance programs increased by
$39,541 over the same time frame. Other income increased by $137,539 when
compared to the first nine months of 2003, primarily the result of increased
commissions on sales of non-deposit investment products. Other income
consists of commissions derived from sale of non-deposit investment income,
safe deposit rental, ATM and debit card fees.
Total non-interest expense increased from $9,484,593 for the nine months
ended September 30, 2003 to $9,894,319 for the nine months ended September
30, 2004, an increase of 4.3%. Salaries and employee benefits increased by
$298,324, or 5.2%, from $5,728,779 during the first nine months of 2003, to
$6,027,104 million during the same period in 2004. The increase was
attributable to additions in staff to support consumer lending activities,
sales incentive commissions paid for achieving sales production targets and
general salary increases due to annual performance reviews. Occupancy
expense totaled $599,518 for the nine months ended September 30, 2004,
compared to $710,580 for the nine months ended September 30, 2003. The
decrease was achieved through closing a branch office in Swansea,
Massachusetts during 2003. Two additional branches were closed in October
2004. Management believes that these closings will afford additional cost
savings in the future. These savings will be partially offset by the costs
associated with the opening and operation of a new branch in Assonet,
Massachusetts, which is expected to be open in early 2005. Equipment
expenses increased by $18,916, or 4.8% from $398,971 for the first nine
months of 2003 to $417,887 for the same period in 2004. The Company, during
2003 and early 2004, made significant technology investments, adding the
infrastructure to support internet banking functions and a more active call
center, as well as increased levels of back room automation. Equipment
expenses have increased based on the costs necessary to support the
technology and depreciation and amortization of hardware and software.
The expenses for stationery and supplies increased by 7.6% from $164,337 for
the nine months ended September 30, 2003 to $176,783 for the nine months
ended September 30, 2004. The increase is attributable to the support of new
marketing initiatives, as well as increases in the general price levels due
to inflation. These costs are partially offset by new inventory control
procedures initiated in 2004 and the closing of the Swansea branch office in
late 2003.
Professional fees remained relatively constant, decreasing form $780,640 for
the nine months ended September 30, 2003 to $779,085 for the nine months
ended September 30, 2004. Although constant, management believes, that in
the short term, these costs will increase, based on the anticipated costs of
implementation of the internal controls provisions of section 404 of the
Sarbanes-Oxley Act.
Marketing expenses attributed to production and media costs, print
advertising, and other direct marketing increased by $99,579 to $409,637 for
the nine months ended September 30, 2004, from $310,058 for the same period
in 2003. The increase in marketing costs is attributed to the introduction
of internet banking, cash management, and a host of new relationship-based
deposit products.
24
The following table sets forth the primary components of other expenses.
This table reflects an increase of $194,085 to $424,376 from $618,461 for
the three month period ending September 30, 2004 and an increase of $93,077
to $1,391,228 from $1,484,305 for the nine month period ending September 30,
2004 when compared to the same periods in 2003.
Three Months Nine Months
-------------------------------------------------------------------------
2004 2003 Variance 2004 2003 Variance
-------------------------------------------------------------------------
Communications/postage $ 91,631 $ 83,383 $ 8,248 $ 263,404 $ 251,341 $ 12,063
Committee fees 60,062 40,750 19,312 183,212 123,650 59,562
Interest expense (associated
with REIT tax treatment) 0 0 0 0 128,977 (128,977)
Other various expenses 466,768 300,243 166,525 1,037,689 887,260 150,429
-------------------------------------------------------------------------
Other expense total $618,461 $424,376 $194,085 $1,484,305 $1,391,228 $ 93,077
=========================================================================
Income before income taxes totaled $3,430,034 for the nine months ended
September 30, 2004, an increase of $176,497, or 5.42% as compared to
$3,253,537 for the nine months ended September 30, 2003. Applicable taxes
decreased by $484,627 to $1,143,229 for the nine months ended September 30,
2004, as compared to $1,627,856 for the nine months ended September 30,
2003. The 2003 presentation includes income taxes related to the dissolution
of the REIT totaling $529,133.
25
Three Month Period Ended September 30, 2004 Compared to the Three Month
Period Ended September 30, 2003. Net income for the three months ended
September 30, 2004 totaled $1,076,457, or $0.26 per share diluted, as
compared to $749,993, or $0.19 per share diluted for the three months ended
September 30, 2003.
Total interest and dividend income increased by $1,131,772, or 22.1%, from
$5,118,233 for the three months ended September 30, 2003 to $6,250,005 for
the three months ended September 30, 2004. Interest and fees on loans
increased by $729,497 or 16.5%, from $4,419,503 for the three months ended
September 30, 2003 to $5,149,000 for the three months ended September 30,
2004. This increase was the result of the growth in the Bank's loan
portfolio. Interest and dividends on investments increased from $671,857 for
the three months ended September 30 2003 to $998,496 for the corresponding
period in 2004. The increase, totaling $326,639, or 48.6%, is the result of
the deployment of excess liquidity, raised in the deposit campaign and
through pre-funding planned loan originations into the investment portfolio.
Other interest, primarily interest on federal funds sold and other cash
equivalents, totaled $57,509 for the three months ended September 30, 2004,
an increase of $30,636 when comparing to the three months ended September
30, 2003. This increase is the result of the cash flows from the deposit
campaign being temporarily parked in short-term investments until such time
as the funds could be deployed in a fashion consistent with the Company's
strategic goals.
Total interest expense increased from $1,499,682 for the three months ended
September 20, 2003 to $2,024,559, an increase of $524,877 or 35.0%. The
increase is the result of increased levels of deposits, particularly from
the deposit promotions in early 2004, increased levels of borrowing from the
FHLB during 2004, and the issue of subordinated debt in March 2004. Total
interest on deposits increased by $188,362, or 17.3%, as the Bank's highly
successful deposit campaign in early 2004 led to a 22% increase in deposits.
These deposits were raised predominantly in the month of January 2004.
Interest on FHLB advances increased by $218,312 as a result of the expanded
use of this wholesale funding opportunity. Borrowings during the three
months ended September 30, 2004 have been utilized to pre-fund anticipated
loan growth in late 2004 and 2005.
Net interest income increased from $3,618,551 for the three months ended
September 30, 2003 to $4,225,446 for the three months ended September 30,
2004, an increase of $606,895 or 16.8%.
Total non-interest income increased by $243,566, to a total of $812,732 for
the three months ending September 30, 2004, as compared to $569,166 for the
three months ended September 30, 2003; an increase of 42.8%. The increase is
primarily attributable to a gain recognized on the sale of loans totaling
$195,817, compared with losses of $12,558 recognized in the three months
ended September 30, 2003. Also contributing to the increase was an increase
in investment and insurance commissions (included in other income) of
$97,376. The increase is partially offset by decreases in deposit and
overdraft charges, totaling $17,624, and decreases in securities gains
totaling $35,868.
Total non-interest expenses, made up of various noninterest expenses,
increased by $378,272 from $3,083,291 for the three month period ended
September 30, 2003 to $3,461,563 for the three month period ended September
30, 2004. The increase can be attributed to increases in marketing expenses
as the Bank more actively promoted its internet banking and relationship-
based deposit products. Marketing costs increased from $80,441 for the three
months ended September 30, 2003 to $211,169 for the three months ended
September 30, 2004. Professional fees also increased as the Company incurred
additional legal costs associated with general corporate matters. As
indicated above, other expenses also increased by a total of $194,085.
Salaries and employee benefits remained relatively constant, increasing by
$25,033, from $1,919,939 for the three months ended September 30, 2003 to
$1,944,972 for the three months ended September 30, 2004. Cost savings from
staff attrition and the closing of one branch in late 2003 offset the
increases in salaries and benefits costs arising from promotions and
performance reviews. These increases are partially offset by decreases in
occupancy and equipment charges totaling $52,000.
26
Liquidity and Capital Resources
Liquidity is defined as the ability to meet current and future funding
requirements. The primary objective of the Company's liquidity management
program is to maintain a balance between sources and uses of funds to meet
the Company's cash flow needs in an economical and expedient manner. The
Company's cash flow needs require the availability of cash to meet the
withdrawal demands of customers and the credit commitments to borrowers. In
assessing the appropriate level of liquidity, we consider deposit levels,
lending funding requirements and investment maturities in light of
prevailing economic conditions. Through this assessment, we manage our
liquidity level to optimize earnings and respond to fluctuations in customer
borrowing needs and cash withdrawals from deposit accounts.
Our principal sources of funds are customer deposits, borrowings, principal
and interest payments on outstanding loans and mortgage-backed securities,
maturities of investment securities and funds provided from operations.
Although scheduled payments from amortization of loans, mortgage-backed
securities, and maturing investment securities are predictable sources of
liquidity, deposit cash flows and loan prepayments are influenced by
interest rate movement. In addition, deposit flow could be impacted by other
instruments available to the public such as mutual funds and annuities.
Customer deposits represent the Company's principal source of funds.
Deposits are obtained from consumers and commercial customers within our
community reinvestment area, being Bristol County, Massachusetts and several
abutting towns in Rhode Island. The Bank does not currently solicit or
accept brokered deposits. The level of interest rates, economic conditions,
and the attractiveness of competing deposits and other investment
alternatives influence deposit flows.
The Bank has the ability to borrow funds for liquidity purposes from
correspondent banks, the FHLB, as well as the Federal Reserve Bank of
Boston, by pledging various investment securities as collateral, and in the
case of FHLB borrowings, one to four family residential loans are secured as
collateral. Borrowings from the FHLB increased by approximately $19.9
million from December 31, 2003 to September 30, 2004. During 2003, we took
advantage of the favorable low interest rate environment to draw down some
longer term structured funding opportunities, and to hedge against any
possible interest rate risk as a result of the increase in long term, fixed
rate residential mortgages. As of September 30, 2004, we had approximately
$13.2 million in available borrowing capacity with the FHLB that is
contingent upon the purchase of additional FHLB stock.
Excess available funds are invested on a daily basis into Federal Funds Sold
and overnight deposits with the FHLB. An appropriate level of Federal Funds
Sold is maintained to meet loan commitments, anticipated loan growth and
deposit forecasts. Funds exceeding this level are then used to purchase
investment securities that are suitable in yields and maturities for the
investment portfolio.
Liquidity during the first nine months of 2004 was primarily provided by a
net increase in deposits of $70.3 million, trust preferred securities of
$10.3 million, and proceeds from maturities, sales and calls of securities
totaling $14.1 million. These were offset by purchases of securities of
$80.3 million and net loan originations totaling $39.5 million. Other
factors affecting liquidity included cash provided by other operating
activities and cash used in financing activities as indicated in the
consolidated statements of cash flows.
At September 30, 2004 the Bank had firm commitments to lend totaling $20.3
million, as well as commitments on outstanding construction and commercial
loans and lines of credit totaling $16.1 million and commitments on existing
equity lines of credit totaling $19.0 million. Management believes that
there is adequate liquidity available to fund these commitments.
Total stockholders' equity was $45.2 million at September 30, 2004, as
compared to $42.5 million at December 31, 2003, an increase of $2.6 million.
The increase was a combination of several factors, including nine months
earnings of $2.3 million and transactions originating through the Company's
Dividend
27
Reinvestment Program whereby 4,225 shares were issued for optional cash
contributions of $89,000 and 20,989 shares were issued in lieu of cash
dividend payments of $462,000. There were also stock options exercised
resulting in the issuance of common stock totaling $532,000, including a tax
benefit of $157,000. These additions were offset by dividends declared of
$1.1 million.
Capital also increased as a result of a decrease in the accumulated other
comprehensive loss, which reflects net unrealized gains or losses, net of
taxes, on securities classified as Available-for-Sale and the minimum
pension liability adjustment. On December 31, 2003, the Available-for-Sale
portfolio had unrealized losses, net of taxes, of $9,740, and on September
30, 2004, as a result of the change in market values, the portfolio had
unrealized gains, net of taxes, of $225,602. There was no change in the
minimum pension liability adjustment of $402,652, net of taxes, recorded
December 31, 2003.
Under the requirements for Risk Based and Leverage Capital of the federal
banking agencies, a minimum level of capital will vary among banks based on
safety and soundness of operations. Risk Based Capital ratios are calculated
with reference to risk-weighted assets, which include both on and off
balance sheet exposure.
In addition to meeting the required levels, the Company and the Bank's
capital ratios meet the criteria of the "well capitalized" category
established by the federal bank regulatory agencies as of September 30,
2004.
At September 30, 2004 the actual total Risk Based Capital of the Bank was
$44,741,000 for Tier 1 Capital, exceeding the minimum requirements of
$14,402,000 by $30,339,000. Total Capital of $48,843,000 exceeded the
minimum requirements of $28,803,000 by $20,040,000 and Leverage Capital of
$44,741,000 exceeded the minimum requirements of $20,652,000 by $24,089,000.
In addition to the "minimum" capital requirements, "well capitalized"
standards have also been established by the Federal Banking Regulators.
The table below illustrates the capital ratios of the Company and the Bank
on September 30, 2004 and at December 31, 2003.
Well September 30, 2004 December 31, 2003
Capitalized ------------------ -----------------
Requirement Bancorp Bank Bancorp Bank
------------------------------------------------------
Total Capital (to Risk Weighted Assets) > or = 10% 15.83% 13.57% 13.58% 11.42%
Tier 1 Capital (to Risk Weighted Assets) > or = 6% 11.83% 12.43% 12.33% 10.17%
Leverage Capital (to Average Assets) > or = 5% 8.26% 8.67% 9.28% 7.70%
The Bank was required to maintain a 7% Tier 1 Leverage Capital ratio while
under the informal agreement with the Massachusetts Commissioner of Banks
and the Federal Deposit Insurance Corporation which was originally entered
into in 2000, and revised in March of 2003. As a result of the improved
condition and operation of the Bank, the informal agreement was terminated
effective January 22, 2004.
Off-Balance Sheet Arrangements
Neither the Company, nor the Bank have any off-balance sheet arrangements
that have or are reasonably likely to have a current or future effect on our
financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures or capital resources that is material to investors.
28
ITEM 3
Quantitative and Qualitative Disclosures About Market Risk
----------------------------------------------------------
Interest Rate Risk
The Company's net income is largely dependent on its net interest income,
the difference between the yield on its interest-earning assets and the cost
of its interest-bearing liabilities. Volatility in market interest rates
requires the Company to manage interest rate risk that arises from the
differences in the timing of repricing of assets and liabilities. Management
considers interest rate risk, the exposure of earnings to adverse movements
in interest rates, to be a significant market risk as it could potentially
have an affect on our financial condition and results of operation.
The Company's objective is to control interest rate risk and control the
vulnerability of its net interest margin to changes in interest rates by
managing the relationship of interest-earning assets and interest-bearing
liabilities. The interest rate risk is managed by periodic review and
evaluation of the risk potential in certain balance sheet accounts, and
determining the level of risk considered appropriate for our level of
capital. This, in conjunction with certain assumptions and other related
factors, such as anticipated changes in interest rates, liquidity
requirements, performance objectives and strategic plans, provides
management a means of evaluating interest rate risk.
The Finance and Investment Committee; comprised of designated executive
management and directors, is responsible for managing and monitoring
interest rate risk. The Committee reviews the Company's interest rate risk
position with the Board of Directors at least quarterly, including the
impact changes in interest rates would have on net interest income, and the
maintenance of interest rate risks within approved guidelines.
The Company quantifies its interest rate risk exposure using a sophisticated
income simulation model. This simulation analysis is used to measure the
exposure to net interest income to changes in interest rates over a
specified time frame. The simulation analysis projects future interest
income and interest expense under different rate scenarios. Internal
guidelines on limitations on interest rate risk specify that for every 100
basis points of immediate change in interest rates, projected net interest
income over the next twelve months should not decline by more than 5%.
The simulation model generally utilizes a 300 basis point shift in interest
rates, both upward and downward. However, because of the existing low
interest rate environment in effect with the average Federal Funds overnight
rate trading below 1.75%, the simulation model only reduces rates downward
by 75 basis points. The interest rate movements used assume an instant and
parallel change in interest rates, and no implementation of any strategic
plans are made in response to the change in interest rates. Prepayment
speeds for loans are based on median dealer forecasts for each for each loan
type in a given interest rate scenario.
The following table reflects our estimated exposure as a percentage of
estimated net interest income for the next twelve months, assuming an
immediate change in interest rates as set forth below:
Estimated Exposure as a Percentage
Rate Change of Net Interest Income
(Basis Points) September 30, 2004
-----------------------------------------------------
+300 (14.16)%
-75 (0.85)%
The model used to monitor earnings-at-risk provides management a measurement
tool to assess the effect of changes in interest rates on our current and
future earnings. The limit we established provides an internal tolerance
level to control interest rate risk exposure.
29
ITEM 4
Controls and Procedures
-----------------------
As required by Rule 13a-15 under the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), the Company's management conducted an
evaluation with the participation of the Company's Chief Executive Officer
and Chief Financial Officer, regarding the effectiveness of the Company's
disclosure controls and procedures, as of the end of the last fiscal
quarter. Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that the Company's disclosure controls and
procedures were effective as of September 30, 2004 to ensure that
information required to be disclosed by the Company in the reports it files
or submits under the Exchange Act is (i) recorded, processed, summarized and
reported, within the time periods specified in the Securities and Exchange
Commission's rules and forms and (ii) accumulated and communicated to the
Company's management, including its principal executive and financial
officers, as appropriate to allow timely decisions regarding required
disclosure. We intend to continue to review and document our disclosure
controls and procedures, including our internal controls and procedures for
financial reporting, and we may from time to time make changes to the
disclosure controls and procedures to enhance their effectiveness and to
ensure that our systems evolve with our business. In designing and
evaluating the Company's disclosure controls and procedures, the Company and
its management recognize that any controls and procedures, no matter how
well designed and operated, can provide only a reasonable assurance of
achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating and implementing possible
controls and procedures.
There has been no change in the Company's internal control over financial
reporting identified in connection with the evaluation that occurred during
the Company's last fiscal quarter that has materially affected, or that is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
30
PART II
Other Information
ITEM 1
Legal Proceedings
-----------------
None.
ITEM 2
Changes in Securities, Use of Proceeds and Issuer Purchases
-----------------------------------------------------------
of Equity Securities
--------------------
During the three months ended September 30, 2004, the Company did not
repurchase any of its common stock. The Company currently does not have a
stock repurchase program in place.
ITEM 3
Defaults Upon Senior Securities
-------------------------------
None.
ITEM 4
Submission of Matters to a Vote of Security Holders
---------------------------------------------------
None.
ITEM 5
Other Information
-----------------
None.
31
ITEM 6
Exhibits
--------
(1) Exhibit 11.1 - Computation of Per Share Earnings
(2) Exhibit 31.1 - Rule 13a-14(a)/15d-14(a) Certification of the CEO
(3) Exhibit 31.2 - Rule 13a-14(a)/15d-14(a) Certification of the CFO
(4) Exhibit 32.1 - Section 1350 Certification of the CEO
(5) Exhibit 32.2 - Section 1350 Certification of the CFO
32
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
SLADE'S FERRY BANCORP.
-------------------------------------
(Registrant)
August 15, 2005 /s/ Mary Lynn D. Lenz
------------------- -------------------------------------
(Date) (Signature) Mary Lynn D. Lenz
President/Chief Executive Officer
August 15, 2005 /s/ Deborah A. McLaughlin
------------------- -------------------------------------
(Date) (Signature) Deborah A. McLaughlin
Executive Vice President
Chief Operating Officer/
Chief Financial Officer
EXHIBIT INDEX
Exhibit No. Description Item
----------- ----------- ----
3.1 Amended and Restated Articles of Incorporation of
Slade's Ferry Bancorp. (1)
3.2 Amended and Restated Bylaws of Slade's Ferry Bancorp. (2)
3.3 Articles of Amendment to the Amended and Restated
Articles of Incorporation of Slade's Ferry Bank (3)
10.1 Slade's Ferry Bancorp. 1996 Stock Option Plan,
as amended (4)
10.2 Supplemental Executive Retirement Agreement between
Slade's Ferry Bancorp. and Manuel J. Tavares (5)
10.3 Form of Director Supplemental Retirement Program
Director Agreement, Exhibit 1 thereto (Slade's Ferry
Trust Company Director Supplemental Retirement
Program Plan) and Endorsement Method Split Dollar Plan
Agreement thereunder. (6)
10.4 Form of Directors' Paid-up Insurance Policy (part of
the Director Supplemental Retirement Program). (7)
10.5 Supplemental Executive Retirement Agreement between
Slade's Ferry Bancorp. and Mary Lynn D. Lenz (8)
10.6 Employment Agreement between Slade's Ferry Bancorp.
and Mary Lynn D. Lenz (9)
10.7 Employment Agreement between Slade's Ferry Bancorp.
and Deborah A. McLaughlin (10)
10.8 Employment Agreement between Slade's Ferry Bancorp.
and Manuel J. Tavares (11)
10.9 Form Change of Control Agreement (12)
10.10 Severance Pay Plan (13)
10.11 Slade's Ferry Bancorp 2004 Equity Incentive Plan (14)
11.1 Statement Regarding Computation of Per Share Earnings
14.1 Code of Ethics (15)
31.1 Rule 13a-14(a)/15d-14(a) Certification of the CEO
31.2 Rule 13a-14(a)/15d-14(a) Certification of the CFO
32.1 Section 1350 Certification of the CEO
32.2 Section 1350 Certification of the CFO
--------------------
Incorporated by reference to the Registrant's Registration Statement
on Form SB-2 filed with the Commission on April 14, 1997.
Incorporated by reference to the Registrant's Form 10-Q filed with the
Commission on May 12, 2005.
Incorporated by reference to the Registrant's Form 8-K filed with the
Commission on December 21, 2004.
Incorporated by reference to the Registrant's Form 10-Q/A for the
quarter ended June 30, 1999.
Incorporated by reference to the Registrant's Form 10-K/ASB for the
fiscal year ended December 31, 1996.
Incorporated by reference to Exhibit 10 to the Registrant's Form
10-Q/A for the quarter ended March 31, 1999.
Incorporated by reference to Exhibit 10 to the Registrant's Form
10-Q/ASB for the quarter ended June 30, 1998.
Incorporated by reference to Exhibit 10.10 to the Registrant's Form
10-Q/A for the quarter ended March 31, 2003.
Incorporated by reference to Exhibit 10.11 to the Registrant's Form
10-Q/A for the quarter ended June 30, 2004.
Incorporated by reference to Exhibit 10.7 to the Registrant's Form
10-Q/A for the quarter ended September 30, 2004.
Incorporated by reference to Exhibit 10.8 to the Registrant's Form
10-Q/A for the quarter ended September 30, 2004.
Incorporated by reference to the Registrant's Form 8-K filed with the
Commission on January 13, 2005.
Incorporated by reference to the Registrant's Form 8-K filed with the
Commission on January 14, 2005.
Incorporated by reference to Appendix C to the Registrant's Proxy
Statement filed on April 9, 2004
Incorporated by reference to the Registrant's Form 10-K for the fiscal
year ended December 31, 2003.