Form 10-K
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

F O R M 1 0 – K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2013    Commission File Number 0-13396

CNB FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)

 

Pennsylvania      

25-1450605

(State or other jurisdiction of       (I.R.S. Employer Identification No.)

incorporation or organization)

     

1 South Second Street

P.O. Box 42

Clearfield, Pennsylvania 16830

(Address of principal executive office)

Registrant’s telephone number, including area code (814) 765-9621

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

Common Stock, no par value per share   The NASDAQ Stock Market LLC
  (NASDAQ Global Select Market)

Securities registered pursuant to Section 12 (g) of the Act:

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

¨  Yes  x  No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

¨  Yes  x  No

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x  Yes  ¨  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x  Yes  ¨  No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer  ¨   Accelerated filer  x   Non-accelerated filer  ¨   Smaller reporting company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).

¨  Yes  x  No

Aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2013:

$198,933,179

The number of shares outstanding of the registrant’s common stock as of March 3, 2014:

14,464,041 shares

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the proxy statement for the annual shareholders’ meeting to be held on April 15, 2014 are incorporated by reference into Part III.


Table of Contents

TABLE OF CONTENTS

 

          Page Number  
PART I.   
ITEM 1.    Business      1   
ITEM 1A.    Risk Factors      17   
ITEM 1B.    Unresolved Staff Comments      27   
ITEM 2.    Properties      27   
ITEM 3.    Legal Proceedings      27   
ITEM 4.    Mine Safety Disclosures      27   
PART II.   
ITEM 5.    Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities      28   
ITEM 6.    Selected Financial Data      31   
ITEM 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations      32   
ITEM 7A.    Quantitative and Qualitative Disclosures about Market Risk      48   
ITEM 8.    Financial Statements and Supplementary Data      49   
ITEM 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure      108   
ITEM 9A.    Controls and Procedures      108   
ITEM 9B.    Other Information      110   
PART III.   
ITEM 10.    Directors, Executive Officers and Corporate Governance      110   
ITEM 11.    Executive Compensation      110   
ITEM 12.    Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters      110   
ITEM 13.    Certain Relationships and Related Transactions, and Director Independence      110   
ITEM 14.    Principal Accountant Fees and Services      110   
PART IV.   
ITEM 15.    Exhibits and Financial Statement Schedules      111   
SIGNATURES      113   


Table of Contents

PART I.

ITEM 1.    BUSINESS

CNB Financial Corporation (the “Corporation”) is a financial holding company registered under the Bank Holding Company Act of 1956, as amended. It was incorporated under the laws of the Commonwealth of Pennsylvania in 1983 for the purpose of engaging in the business of a financial holding company. On April 26, 1984, the Corporation acquired all of the outstanding capital stock of County National Bank, a national banking chartered institution. In December 2006, County National Bank changed its name to CNB Bank, referred to herein as the Bank, and became a state bank chartered in Pennsylvania and subject to regulation by the Pennsylvania Department of Banking and the Federal Deposit Insurance Corporation. In October 2013, the Corporation acquired FC Banc Corp. and its subsidiary, The Farmers Citizens Bank.

In addition to the Bank, the Corporation has four other subsidiaries. CNB Securities Corporation is incorporated in Delaware and currently maintains investments in debt and equity securities. County Reinsurance Company is an Arizona corporation and provides credit life and disability insurance for customers of CNB Bank. CNB Insurance Agency, incorporated in Pennsylvania, provides for the sale of nonproprietary annuities and other insurance products. Holiday Financial Services Corporation, incorporated in Pennsylvania, offers small balance unsecured loans and secured loans, primarily collateralized by automobiles and equipment, to borrowers with higher risk characteristics.

CNB Bank

CNB Bank (the “Bank”) was incorporated in 1934 and is chartered in the Commonwealth of Pennsylvania. ERIEBANK, a division of CNB Bank, began operations in 2005. In October 2013, the Corporation completed its previously announced acquisition of FC Banc Corp. and its subsidiary, Farmers Citizens Bank. Farmers Citizens Bank served the central Ohio markets of Bucyrus, Cardington, Fredericktown, Mount Hope and Shiloh, as well as the markets of Worthington and Upper Arlington in the greater Columbus, Ohio area, with 8 branch locations. The Corporation is continuing to operate these 8 branch locations as FCBank, a division of CNB Bank, with local decision making and oversight.

The Bank has 37 full service branch offices and one loan production office located in various communities in its market area. CNB Bank’s primary market area includes the Pennsylvania counties of Cambria, Cameron, Centre, Clearfield, Crawford, Elk, Indiana, Jefferson, and McKean. As ERIEBANK, a division of CNB Bank, the Bank operates in the Pennsylvania counties of Crawford, Erie, and Warren. As FCBank, a division of CNB Bank, the Bank operates in the Ohio counties of Crawford, Richland, Ashland, Wayne, Marion, Morrow, Knox, Holmes, Delaware, and Franklin.

The Bank is a full service bank engaging in a full range of banking activities and services for individual, business, governmental and institutional customers. These activities and services principally include checking, savings, and time deposit accounts; real estate, commercial, industrial, residential and consumer loans; and a variety of other specialized financial services. The Bank’s Wealth & Asset Management Services division offers a full range of client services.

Holiday Financial Services Corporation

In 2005, the Corporation entered the consumer discount loan and finance business, which is conducted through a wholly owned subsidiary, Holiday Financial Services Corporation. Holiday currently has

 

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eleven offices within the Corporation’s footprint. Management believes that it has made the necessary investments in experienced personnel and technology which has helped facilitate the growth of Holiday into a successful and profitable subsidiary.

Competition

The financial services industry in the Corporation’s service area continues to be extremely competitive, both among commercial banks and with other financial service providers such as consumer finance companies, thrifts, investment firms, mutual funds and credit unions. The increased competition has resulted from changes in the legal and regulatory guidelines as well as from economic conditions. Mortgage banking firms, leasing companies, financial affiliates of industrial companies, brokerage firms, retirement fund management firms, and even government agencies provide additional competition for loans and other financial services. Some of the financial service providers operating in the Corporation’s market area operate on a large-scale regional or national basis and possess resources greater than those of the Corporation. The Corporation is generally competitive with all competing financial institutions in its service area with respect to interest rates paid on time and savings deposits, service charges on deposit accounts and interest rates charged on loans.

Supervision and Regulation

The Corporation is a bank holding company and a financial holding company and the Bank is a Pennsylvania state-chartered bank that is not a member of the Board of Governors of the Federal Reserve System (Federal Reserve Board). Accordingly, the Corporation is subject to the oversight of the Federal Reserve Board and the Pennsylvania Department of Banking, and the Bank is subject to the oversight of the Pennsylvania Department of Banking and Federal Deposit Insurance Corporation (“FDIC”). The Corporation and Bank are also subject to various requirements and restrictions under federal and state law, such as requirements to maintain reserves against deposits, restrictions on the types, amounts and terms and conditions of loans that may be granted, and limitations on the types of investments that may be made and the types of services that may be offered. Various consumer financial protection laws and regulations also affect the operation of the Bank and, pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), the Bureau of Consumer Financial Protection (“CFPB”) is authorized to write rules on consumer financial products which could affect the operations of the Bank. In addition to the impact of regulation, commercial banks are affected significantly by the actions of the Federal Reserve Board, including actions taken with respect to interest rates, as the Federal Reserve Board attempts to control the money supply and credit availability in the U.S. in order to influence the economy.

The following summary sets forth certain of the material elements of the regulatory framework applicable to bank holding companies and their subsidiaries and provides certain specific information about us and our subsidiaries. It does not describe all of the provisions of the statutes, regulations and policies that are identified. To the extent that the following information describes statutory and regulatory provisions, it is qualified in its entirety by express reference to each of the particular statutory and regulatory provisions. A change in applicable statutes, regulations or regulatory policy may have a material effect on our business.

Bank Holding Company Regulation

As a bank holding company, the Corporation is subject to regulation and examination by the Pennsylvania Department of Banking and the Federal Reserve Board. We are required to file with the

 

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Federal Reserve Board an annual report and such additional information as the Federal Reserve Board may require pursuant to the Bank Holding Company Act of 1956, as amended (the “BHC Act”), and applicable regulations. For instance, the BHC Act requires each bank holding company to obtain the approval of the Federal Reserve Board before it may acquire substantially all the assets of any bank, or before it may acquire ownership or control of any voting shares of any bank if, after such acquisition, it would own or control, directly or indirectly, more than five percent of any class of voting shares of such bank. Such a transaction may also require approval of the Pennsylvania Department of Banking.

Pursuant to provisions of the BHC Act and regulations promulgated by the Federal Reserve Board thereunder, the Corporation may only engage in, or own companies that engage in, activities deemed by the Federal Reserve Board to be permissible for bank holding companies or financial holding companies. Activities permissible for bank holding companies are those that are so closely related to the business of banking or managing or controlling banks as to be a proper incident thereto. Permissible activities for financial holding companies include those “so closely related to banking” as well as certain additional activities deemed “financial in nature.” The Corporation must obtain permission from or provide notice to the Federal Reserve Board prior to engaging in most new business activities.

Under Federal Reserve Board regulations, a bank holding company is required to serve as a source of financial and managerial strength to its subsidiary banks and may not conduct its operations in an unsafe or unsound manner. In addition, it is the Federal Reserve Board’s policy that in serving as a source of strength to its subsidiary banks, a bank holding company should stand ready to use available resources to provide adequate capital funds to its subsidiary banks during periods of financial stress or adversity and should maintain the financial flexibility and capital-raising capacity to obtain additional resources for assisting its subsidiary banks. A bank holding company’s failure to meet its obligations to serve as a source of strength to its subsidiary banks will generally be considered by the Federal Reserve Board to be an unsafe and unsound banking practice or a violation of the Federal Reserve Board regulations or both. This doctrine is commonly known as the “source of strength” doctrine.

The Federal Reserve has adopted risk-based capital guidelines for bank holding companies. Currently, the required minimum ratio of total capital to risk-weighted assets (including off-balance sheet activities, such as standby letters of credit) is 8%. At least half of the total capital is required to be Tier 1 capital, consisting principally of common shareholders’ equity, non-cumulative perpetual preferred stock, a limited amount of cumulative perpetual preferred stock and minority interests in the equity accounts of consolidated subsidiaries, less goodwill. The remainder (Tier 2 capital) may consist of a limited amount of subordinated debt and intermediate-term preferred stock, certain hybrid capital instruments and other debt securities, perpetual preferred stock and a limited amount of the general loan loss allowance.

In addition to the risk-based capital guidelines, the Federal Reserve has established minimum leverage ratio (Tier 1 capital to total assets) guidelines for bank holding companies. These guidelines provide for a minimum leverage ratio of 3% for those bank holding companies which have the highest regulatory examination ratings and are not contemplating or experiencing significant growth or expansion. All other bank holding companies are required to maintain a leverage ratio of at least 4%.

In May 2013, the Securities and Exchange Commission and the Commodity Futures Trading Commission (together, the “Commissions”) jointly issued final rules and guidelines to require certain regulated entities to establish programs to address risks of identity theft. The rules and guidelines

 

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implement provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act. These provisions amend Section 615(e) of the Fair Credit Reporting Act and directed the Commissions to adopt rules requiring entities that are subject to the Commissions’ jurisdiction to address identity theft in two ways. First, the rules require financial institutions and creditors to develop and implement a written identity theft prevention program that is designed to detect, prevent, and mitigate identity theft in connection with certain existing accounts or the opening of new accounts. The rules include guidelines to assist entities in the formulation and maintenance of programs that would satisfy the requirements of the rules. Second, the rules establish special requirements for any credit and debit card issuers that are subject to the Commissions’ jurisdiction, to assess the validity of notifications of changes of address under certain circumstances.

On July 2, 2013, the Federal Reserve Board issued final rules, and on July 9, 2013, the FDIC issued interim final rules that revise existing regulatory capital requirements to incorporate certain revisions to the Basel capital framework, including Basel III, and to implement certain provisions of the Dodd-Frank Act. The final rules seek to strengthen the components of regulatory capital, increase risk-based capital requirements, and make selected changes to the calculation of risk-weighted assets. The final rules, among other things:

 

   

revise minimum capital requirements and adjust prompt corrective action thresholds;

 

   

revise the components of regulatory capital, add a new minimum common equity Tier 1 capital ratio of 4.5% of risk-weighted assets, increase the minimum Tier 1 capital ratio requirement from 4% to 6%;

 

   

retain the existing risk-based capital treatment for 1-4 family residential mortgage exposures;

 

   

permit most banking organizations, including the Corporation, to retain, through a one-time permanent election, the existing capital treatment for accumulated other comprehensive income;

 

   

implement a new capital conservation buffer of common equity Tier 1 capital equal to 2.5% of risk-weighted assets, which will be in addition to the 4.5% common equity Tier 1 capital ratio and be phased in over a three year period beginning January 1, 2016 which buffer is generally required to make capital distributions and pay executive bonuses;

 

   

increase capital requirements for past-due loans, high volatility commercial real estate exposures, and certain short-term loan commitments;

 

   

require the deduction of mortgage servicing assets and deferred tax assets that exceed 10% of common equity Tier 1 capital in each category and 15% of common equity Tier 1 capital in the aggregate; and

 

   

remove references to credit ratings consistent with Dodd-Frank and establish due diligence requirements for securitization exposures.

Under the interim and final rules, compliance is required beginning January 1, 2015, for most banking organizations including the Corporation, subject to a transition period for several aspects of the final rules, including the new minimum capital ratio requirements, the capital conservation buffer, and the regulatory capital adjustments and deductions. We are still in the process of assessing the impacts of these complex final and interim final rules; however, we believe we will continue to exceed all estimated well-capitalized regulatory requirements on a fully phased-in basis.

 

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Regulation of CNB Bank

CNB Bank is a Pennsylvania-chartered bank and is subject to regulation, supervision and regular examination by the Pennsylvania Department of Banking and the FDIC. Federal and state banking laws and regulations govern, among other things, the scope of a bank’s business, the investments a bank may make, the reserves against deposits a bank must maintain, the loans a bank makes and collateral it takes, the activities of a bank with respect to mergers and acquisitions, the establishment of branches, management practices, and numerous other aspects of banking operations.

Legislation

The Dodd-Frank Act, enacted into law on July 21, 2010, includes numerous provisions designed to strengthen the financial industry, enhance consumer financial protection, expand disclosures and provide for transparency, and significantly changed the bank regulatory structure and affected and will continue to affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. The Dodd-Frank Act also created a CFPB, which is authorized to write rules on a number of consumer financial products, and a Financial Services Oversight Council, which is empowered to determine which entities are systematically significant and require tougher regulations.

It is difficult to predict at this time what specific impact certain provisions of the Dodd-Frank Act and the implementing rules and regulations, many which have yet to be written, will have on the Corporation, including any regulations promulgated by the CFPB. The legislation and any implementing rules that are ultimately issued could have adverse implications on the financial industry, the competitive environment, and the Corporation’s ability to conduct business. The Corporation will have to apply resources to ensure that it is in compliance with all applicable provisions of the Dodd-Frank Act and any implementing rules, which may increase its costs of operations and adversely impact its earnings.

Dividend Restrictions

The Corporation is a legal entity separate and distinct from the Bank. Declaration and payment of cash dividends depends upon cash dividend payments to the Corporation by the Bank, which is our primary source of revenue and cash flow. Accordingly, the right of the Corporation, and consequently the right of our creditors and shareholders, to participate in any distribution of the assets or earnings of any subsidiary is necessarily subject to the prior claims of creditors of the subsidiary, except to the extent that claims of the Corporation in its capacity as a creditor may be recognized.

As a Pennsylvania state-chartered bank, the Bank is subject to regulatory restrictions on the payment and amounts of dividends under the Pennsylvania Banking Code. Further, the ability of banking subsidiaries to pay dividends is also subject to their profitability, financial condition, capital expenditures and other cash flow requirements.

The payment of dividends by the Bank and the Corporation may also be affected by other factors, such as the requirement to maintain adequate capital above regulatory guidelines. The federal banking agencies have indicated that paying dividends that deplete a depository institution’s capital base to an inadequate level would be an unsafe and unsound banking practice. A depository institution may not pay any dividend if payment would cause it to become undercapitalized or if it already is undercapitalized. Moreover, the federal agencies have issued policy statements that provide that bank

 

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holding companies and insured banks should generally only pay dividends out of current operating earnings. Federal banking regulators have the authority to prohibit banks and bank holding companies from paying a dividend if the regulators deem such payment to be an unsafe or unsound practice.

Capital Adequacy and Operations

Under applicable “prompt corrective action” (“PCA”) statutes and regulations, depository institutions are placed into one of five capital categories, ranging from “well capitalized” to “critically undercapitalized.” The FDIC, in the case of the Bank, is required to take certain, and is authorized to take other, supervisory action against a depository institution that falls below certain of these levels. The PCA statute and regulations provide for progressively more stringent supervisory measures as a depository institution’s capital category declines. An institution that is not well capitalized is generally prohibited from accepting brokered deposits and offering interest rates on deposits higher than the prevailing rate in its market. An undercapitalized depository institution must submit an acceptable capital restoration plan to the appropriate federal bank regulatory agency. One requisite element of such a plan is that the institution’s parent holding company must guarantee compliance by the institution with the plan, subject to certain limitations.

At December 31, 2013, the Bank qualified as “well capitalized” under applicable regulatory capital standards.

Community Reinvestment Act

Under the Community Reinvestment Act of 1977 (“CRA”), the FDIC is required to assess the record of all financial institutions regulated by it to determine if these institutions are meeting the credit needs of the community (including low and moderate income neighborhoods) which they serve. CRA performance evaluations are based on a four-tiered rating system: Outstanding, Satisfactory, Needs to Improve and Substantial Noncompliance. CRA performance evaluations are considered in evaluating applications for such things as mergers, acquisitions and applications to open branches. The Bank received a CRA rating of “Satisfactory” at its most current CRA exam.

Restrictions on Transactions with Affiliates and Insiders

The Bank and Corporation also are subject to the restrictions of Sections 23A and 23B of the Federal Reserve Act, and their implementing Regulation W, issued by the Federal Reserve Board. Section 23A requires that loans or extensions of credit by the Bank to an affiliate, purchases of securities by the Bank issued by an affiliate, purchases of assets by the Bank from an affiliate (except as may be exempted by order or regulation), the acceptance by the Bank of securities issued by an affiliate as collateral and the issuance by the Bank of a guarantee, acceptance by the Bank of letters of credit on behalf of an affiliate (collectively, “Covered Transactions”) be on terms and conditions consistent with safe and sound banking practices. Section 23A also imposes quantitative restrictions on the amount of and collateralization requirements on such transactions. Section 23B requires that all Covered Transactions and certain other transactions, including the sale of securities or other assets by the Bank to an affiliate and the payment of money or the furnishing of services by the Bank to an affiliate, be on terms comparable to those prevailing for similar transactions with non-affiliates.

The Bank is also subject to Sections 22(g) and 22(h) of the Federal Reserve Act, and their implementing Regulation O issued by the Federal Reserve Board. These provisions impose limitations on loans and extensions of credit by the Bank to its executive officers, directors and principal

 

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shareholders and their related interests as well as to the Corporation and any subsidiary of the Corporation. The limitations restrict the terms and aggregate amount of such transactions. Regulation O also imposes certain recordkeeping and reporting requirements.

Deposit Insurance and Premiums

The deposits of the Bank are insured up to applicable limits per insured depositor by the FDIC. The Dodd-Frank Act has permanently increased the standard maximum deposit insurance amount to $250,000 per depositor per insured depository institution, retroactive to January 1, 2008, and qualifying non-interest bearing transaction accounts had unlimited deposit insurance through December 31, 2012.

The Dodd-Frank Act also broadens the base for FDIC insurance assessments. Assessments will now be based on the average consolidated total assets less tangible equity capital of a financial institution.

Other Federal Laws and Regulations

State usury and other credit laws limit the amount of interest and various other charges collected or contracted by a bank on loans. The Bank is also subject to lending limits on loans to one borrower and regulatory guidance on concentrations of credit. The Bank’s loans and other products and services are also subject to numerous federal and state consumer financial protection laws, including, but not limited to, the following:

 

   

Truth-In-Lending Act, which governs disclosures of credit terms to consumer borrowers;

 

   

Truth-in-Savings Act, which governs disclosures of the terms of deposit accounts to consumers;

 

   

Home Mortgage Disclosure Act, requiring financial institutions to provide information to regulators to enable determinations as to whether financial institutions are fulfilling their obligations to meet the home lending needs of the communities they serve and not discriminating in their lending practices;

 

   

Equal Credit Opportunity Act, prohibiting discrimination on the basis of race, gender or other prohibited factors in extending credit;

 

   

Real Estate Settlement Procedures Act, which imposes requirements relating to real estate settlements, including requiring lenders to disclose certain information regarding the nature and cost of real estate settlement services;

 

   

Fair Credit Reporting Act, covering numerous areas relating to certain types of consumer information and identity theft;

 

   

Privacy provisions of the Gramm-Leach-Bliley Act and related regulations, which require that financial institutions provide privacy policies to consumers, to allow customers to “opt out” of certain sharing of their nonpublic personal information, and to safeguard sensitive and confidential customer information.

 

   

Electronic Fund Transfer Act, which is a consumer protection law regarding electronic fund transfers;

 

   

The Bank Secrecy Act and USA Patriot Act, which require financial institutions to take certain actions to help prevent, detect and prosecute money laundering and the financing of terrorism; and

 

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Numerous other federal and state laws and regulations, including those related to consumer protection and bank operations.

Sarbanes-Oxley Act of 2002

The Sarbanes-Oxley Act of 2002 was enacted on July 30, 2002 and represented a comprehensive revision of laws affecting corporate governance, accounting obligations and corporate reporting. The Sarbanes- Oxley Act is applicable to all companies with equity securities registered or that file reports under the Securities Exchange Act of 1934, as amended, including publicly-held financial holding companies such as the Corporation. In particular, the Sarbanes-Oxley Act establishes: (i) requirements for audit committees, including independence, expertise, and responsibilities; (ii) additional responsibilities regarding financial statements for the Chief Executive Officer and Chief Financial Officer of the reporting company; (iii) standards for auditors and regulation of audits; (iv) increased disclosure and reporting obligations for the reporting company and its directors and executive officers; and (v) new and increased civil and criminal penalties for violations of the securities laws. Many of the provisions were effective immediately while other provisions became effective over a period of time and are subject to rulemaking by the SEC.

Governmental Policies

Our earnings are significantly affected by the monetary and fiscal policies of governmental authorities, including the Federal Reserve Board. Among the instruments of monetary policy used by the Federal Reserve Board to implement these objectives are open-market operations in U.S. Government securities and federal funds, changes in the discount rate on member bank borrowings and changes in reserve requirements against member bank deposits. These instruments of monetary policy are used in varying combinations to influence the overall level of bank loans, investments and deposits, and the interest rates charged on loans and paid for deposits. The Federal Reserve Board frequently uses these instruments of monetary policy, especially its open-market operations and the discount rate, to influence the level of interest rates and to affect the strength of the economy, the level of inflation or the price of the dollar in foreign exchange markets. The monetary policies of the Federal Reserve Board have had a significant effect on the operating results of banking institutions in the past and are expected to continue to do so in the future. It is not possible to predict the nature of future changes in monetary and fiscal policies, or the effect which they may have on our business and earnings.

Other Legislative Initiatives

Proposals may be introduced in the United States Congress, in the Pennsylvania Legislature, and/or by various bank regulatory authorities that could alter the powers of, and restrictions on, different types of banking organizations and which could restructure part or all of the existing regulatory framework for banks, bank and financial holding companies and other providers of financial services. Moreover, other bills may be introduced in Congress which would further regulate, deregulate or restructure the financial services industry, including proposals to substantially reform the regulatory framework. It is not possible to predict whether these or any other proposals will be enacted into law or, even if enacted, the effect which they may have on our business and earnings.

Employees

As of December 31, 2013, the Corporation had a total of 395 employees of which 359 were full time and 36 were part time.

 

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Executive Officers

The Corporation’s executive officers, their ages, and their principal occupations are as follows:

 

Name

    

Age

  

Principal Occupation

Joseph B. Bower, Jr.

    

50

  

President and Chief Executive Officer, CNB Bank and CNB Financial Corporation, since January 1, 2010; and previously, Secretary, CNB Financial Corporation and Executive Vice President and Chief Operating Officer, CNB Bank.

Richard L. Greslick, Jr.

    

37

  

Executive Vice President/Chief Operating Officer, CNB Bank since December 2012 and Secretary, CNB Financial Corporation, since July 2010; previously, Senior Vice President/Administration since July 2010; Vice President/Operations since 2007; and previously Controller, CNB Bank and CNB Financial Corporation.

Mark D. Breakey

    

55

  

Executive Vice President and Chief Credit Officer, CNB Bank.

Joseph E. Dell, Jr.

    

57

  

Senior Vice President and Chief Lending Officer, CNB Bank since December 31, 2013; previously, Senior Vice President and Senior Commercial Lending Officer since February 2013; previously, Chief Lending Officer and Commercial Line of Business Manager for First Security Group, Inc. and FSG Bank, N.A. from 2011 to February 2013; and previously served in various executive level positions with First Commonwealth Bank, including Chief Lending Officer and Commercial Line of Business Leader since 2008.

Vincent C. Turiano

    

63

  

Senior Vice President/Operations, CNB Bank, since November 25, 2009; previously Financial Consultant for RBC Wealth Management (formerly Ferris, Baker Watts, Inc.) since 2006; and previously Executive Vice President of Omega Bank and Omega Financial Corporation.

Brian W. Wingard

    

39

  

Treasurer, Principal Financial Officer and Principal Accounting Officer, CNB Financial Corporation, since March 2012; Senior Vice President/Chief Financial Officer, CNB Bank, since March 2012; previously Controller, CNB Bank and CNB Financial Corporation, since 2007; and previously a Certified Public Accountant in public practice.

 

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Officers are elected annually at the reorganization meeting of the Board of Directors. There are no arrangements or understandings between any officer and any other persons pursuant to which he was selected as an officer.

Available Information

The Corporation makes available free of charge on its website (www.bankcnb.com) its Annual Report on Form 10-K, its quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as practicable after it electronically files such material with, or furnishes it to, the Securities and Exchange Commission, the SEC. Information on the Corporation’s website is not incorporated by reference into this report.

Shareholders may obtain a copy of the Corporation’s Annual Report on Form 10-K free of charge by writing to: CNB Financial Corporation, 1 South Second Street, PO Box 42, Clearfield, PA 16830, Attn: Shareholder Relations.

Interested persons may also read and copy materials the Corporation files with, or furnishes to, the SEC at the SEC’s Public Reference Room at 100 F Street, NE Washington, DC 20549. Information concerning the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. The SEC also maintains an internet site that contains reports, proxy statements and other information about electronic filers such as the Corporation. The site is available at http://www.sec.gov.

Statistical Disclosure

The following tables set forth statistical information relating to the Corporation and its wholly owned subsidiaries. The tables should be read in conjunction with the consolidated financial statements of the Corporation.

 

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Average Balances and Net Interest Margin

(Dollars in thousands)

 

     December 31, 2013          December 31, 2012     December 31, 2011  
     Average
Balance
    Annual
Rate
    Interest
Inc./
Exp.
         Average
Balance
    Annual
Rate
    Interest
Inc./
Exp.
    Average
Balance
    Annual
Rate
    Interest
Inc./
Exp.
 

Assets

                   

Securities:

                   

Taxable (1)

  $ 607,224        2.25   $ 13,456        $ 605,974        2.51   $ 14,688      $ 499,221        2.92   $ 14,395   

Tax-Exempt (1, 2)

    129,858        4.52     5,743          115,634        4.89     5,344        86,851        5.14     4,366   

Equity Securities (1, 2)

    3,262        8.49     277          2,843        4.08     116        1,906        2.49     47   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Total Securities

    740,344        2.67     19,476          724,451        2.89     20,148        587,978        3.31     18,808   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Loans

                   

Commercial (2)

    311,914        4.86     15,151          296,465        4.96     14,718        275,442        5.20     14,329   

Mortgage (2)

    675,408        4.77     32,215          546,374        5.29     28,919        492,922        5.68     28,015   

Consumer

    65,107        10.93     7,119          50,069        13.27     6,642        51,402        12.72     6,536   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Total Loans (3)

    1,052,429        5.18     54,485          892,908        5.63     50,279        819,766        5.96     48,880   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Total earning assets

    1,792,773        4.15   $ 73,961          1,617,359        4.42   $ 70,427        1,407,744        4.84   $ 67,688   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Non Interest Earning Assets

                   

Cash & Due From Banks

    26,710              30,275            33,846       

Premises & Equipment

    26,475              24,114            24,323       

Other Assets

    64,399              55,851            56,616       

Allowance for Loan Losses

    (15,496           (13,424         (11,750    
 

 

 

         

 

 

       

 

 

     

Total Non Interest Earning Assets

    102,088              96,816            103,035       
 

 

 

         

 

 

       

 

 

     

Total Assets

  $ 1,894,861            $ 1,714,175          $ 1,510,779       
 

 

 

         

 

 

       

 

 

     

Liabilities and Shareholders’ Equity

                   

Interest-Bearing Deposits

                   

Demand – interest-bearing

  $ 388,237        0.38   $ 1,468        $ 313,673        0.50   $ 1,559      $ 296,440        0.77   $ 2,287   

Savings

    819,774        0.47     3,885          738,023        0.76     5,595        501,475        1.09     5,489   

Time

    219,791        1.20     2,642          229,694        1.62     3,721        320,704        1.82     5,849   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Total interest – bearing deposits

    1,427,802        0.56     7,995          1,281,390        0.85     10,875        1,118,619        1.22     13,625   

Short-term borrowings

    21,602        0.19     40          9,402        0.15     14        9,728        0.28     27   

Long-term borrowings

    75,018        4.54     3,407          74,370        4.34     3,231        74,141        4.25     3,149   

Subordinated Debentures

    20,620        3.73     770          20,620        3.88     800        20,620        3.77     778   
 

 

 

     

 

 

     

 

 

     

 

 

   

 

 

     

 

 

 

Total interest-bearing liabilities

    1,545,042        0.79   $ 12,212          1,385,782        1.08   $ 14,920        1,223,108        1.44   $ 17,579   
     

 

 

         

 

 

       

 

 

 

Demand – non-interest-bearing

    186,180              164,368            148,287       

Other liabilities

    17,076              23,174            17,173       
 

 

 

         

 

 

       

 

 

     

Total Liabilities

    1,748,298              1,573,324            1,388,568       

Shareholders’ Equity

    146,563              140,851            122,211       
 

 

 

         

 

 

       

 

 

     

Total Liabilities and Shareholders’ Equity

  $   1,894,861            $   1,714,175          $   1,510,779       
 

 

 

         

 

 

       

 

 

     

Interest Income/Earning Assets

      4.15   $ 73,961            4.42   $ 70,427          4.84   $ 67,688   

Interest Expense/Interest Bearing Liabilities

      0.79     12,212            1.08     14,920          1.44     17,579   
   

 

 

       

 

 

     

 

 

 

Net Interest Spread

      3.36   $ 61,749            3.34   $ 55,507          3.40   $ 50,109   
   

 

 

       

 

 

     

 

 

 

Interest Income/Earning Assets

      4.15   $ 73,961            4.42   $ 70,427          4.84   $ 67,688   

Interest Expense/Earning Assets

      0.68     12,212            0.92     14,920          1.25     17,579   
   

 

 

       

 

 

     

 

 

 

Net Interest Margin

      3.47   $ 61,749            3.49   $ 55,507          3.59   $ 50,109   
   

 

 

       

 

 

     

 

 

 

 

1.

Includes unamortized discounts and premiums. Average balance is computed using the amortized cost of securities. The average yield has been computed using the historical amortized cost average balance for available for sale securities.

2.

Average yields and interest income are stated on a fully taxable equivalent basis using the Corporation’s marginal federal income tax rate of 35%. Interest income has been increased by $2,544, $2,298, and $1,976 for the years ended December 31, 2013, 2012, and 2011, respectively, as a result of the effect of tax-exempt interest and dividends earned by the Corporation.

3.

Average outstanding includes the average balance outstanding of all non-accrual loans. Loans consist of the average of total loans less average unearned income. Included in loan interest income is loan fees of $1,732, $1,636, and $1,567 for the years ended December 31, 2013, 2012, and 2011, respectively.

 

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Table of Contents

Net Interest Income

Rate-Volume Variance

(Dollars in thousands)

  

For Twelve Months Ended

December 31, 2013 over
(under) 2012

Due to Change In (1)

   

For Twelve Months Ended
December 31, 2012 over

(under) 2011

Due to Change In (1)

 
      Volume     Rate     Net     Volume     Rate     Net  

Assets

            

Securities:

            

Taxable

   $ 347      $ (1,579   $ (1,232   $ 3,097      $ (2,804   $ 293   

Tax-Exempt (2)

     879        (480     399        1,267        (289     978   

Equity Securities (2)

     17        144        161        24        45        69   
  

 

 

 

Total Securities

     1,243        (1,915     (672     4,388        (3,048     1,340   

Loans

            

Commercial (2)

     759        (326     433        1,094        (705     389   

Mortgage (2)

     6,828        (3,532     3,296        3,038        (2,134     904   

Consumer

     1,998        (1,521     477        (169     275        106   
  

 

 

 

Total Loans

     9,585        (5,379     4,206        3,963        (2,564     1,399   
  

 

 

 

Total Earning Assets

   $   10,828      $ (7,294   $ 3,534      $ 8,351      $ (5,612   $ 2,739   
  

 

 

 

Liabilities and Shareholders’ Equity

            

Interest-Bearing Deposits

            

Demand – Interest-Bearing

   $ 363      $ (454   $ (91   $ 133      $ (861   $ (728

Savings

     652        (2,362     (1,710     2,589        (2,483     106   

Time

     (156     (923     (1,079     (1,660     (468     (2,128
  

 

 

 

Total Interest-Bearing Deposits

     859        (3,739     (2,880     1,062        (3,812     (2,750

Short-Term Borrowings

     17        9        26        (1     (12     (13

Long-Term Borrowings

     29        147        176        10        72        82   

Subordinated debentures

     -        (30     (30     -        22        22   
  

 

 

 

Total Interest-Bearing Liabilities

   $ 905      $ (3,613   $ (2,708   $ 1,071      $ (3,730   $ (2,659
  

 

 

 
            
  

 

 

 

Change in Net Interest Income

   $ 9,923      $ (3,681   $ 6,242      $ 7,280      $ (1,882   $ 5,398   
  

 

 

 

 

1.

The change in interest due to both volume and rate have been allocated entirely to volume changes.

2.

Changes in interest income on tax-exempt securities and loans are presented on a fully taxable-equivalent basis, using the Corporation’s marginal federal income tax rate of 35%.

 

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Table of Contents

Securities

(Dollars In Thousands)   December 31, 2013     December 31, 2012     December 31, 2011  
    Amortized
Cost
    Unrealized     Market
Value
    Amortized
Cost
    Unrealized     Market
Value
    Amortized
Cost
    Unrealized     Market
Value
 
      Gains     Losses         Gains     Losses         Gains     Losses    

Securities Available for Sale

                       

U.S. Treasury

    $        -        $        -        $        -        $        -        $4,018        $18        $        -        $4,036        $8,064        $66        $        -        $8,130   

U.S. Government Sponsored

                       

Entities

    185,205        2,894        (6,474)        181,625        157,965        5,977        (161)        163,781        102,258        5,249        (15)        107,492   

State and Political Subdivisions

    176,490        3,770        (2,317)        177,943        170,223        11,113        (57)        181,279        149,685        8,844        (92)        158,437   

Residential and multi-family mortgage

    248,017        2,410        (7,820)        242,607        308,800        8,724        (702)        316,822        292,297        8,043        (214)        300,126   

Commercial mortgage

    385            -        (11)        374        1,275        29            -        1,304        2,077        45            -        2,122   

Corporate notes and bonds

    15,744        65        (1,734)        14,075        17,368        26        (2,370)        15,024        17,358        50        (3,548)        13,860   

Pooled trust preferred

    800            -        (139)        661        800            -        (200)        600        800            -        (460)        340   

Pooled SBA

    70,077        688        (3,044)        67,721        50,667        2,277        (17)        52,927        44,851        1,282        (77)        46,056   

Other securities

    1,020            -        (35)        985        1,521        17            -        1,538        1,521        23            -        1,544   
 

 

 

 
    $697,738        $9,827        $(21,574)        $685,991        $712,637        $28,181        $(3,507)        $737,311        $618,911        $23,602        $(4,406)        $638,107   
 

 

 

 

Maturity Distribution of Investment Securities

(Dollars In Thousands)

December 31, 2013

 

    Within
One Year
    After One But Within
Five Years
    After Five But
Within Ten
Years
    After Ten
Years
   

Pooled SBA,

Residential and Multi-

Family Mortgage and

Commercial Mortgage

 
    $ Amt.     Yield     $ Amt.     Yield     $ Amt.     Yield     $ Amt.     Yield     $ Amt.     Yield  

Securities Available for Sale

                   

U.S. Treasury

  $ -                     

U.S. Government Sponsored Entities

    24,326        1.20%        79,486        1.52%        $77,813        2.37%           

State and Political Subdivisions

    6,576        4.65%        58,552        3.68%        83,435        4.68%        $29,380        5.36%       

Corporate notes and bonds

        3,372        2.04%        2,989        3.24%        7,714        1.57%       

Pooled trust preferred

                661        6.35%       

Pooled SBA

                    $67,721        2.66%   

Residential and multi-family mortgage

                    242,607        2.35%   

Commercial mortgage

                    374        4.70%   
 

 

 

 

TOTAL

    $30,902        1.94%        $141,410        2.43%        $164,237        3.56%        $37,755        4.60%        $310,702        2.42%   
 

 

 

 

The weighted average yields are based on market value and effective yields weighted for the scheduled maturity with tax-exempt securities adjusted to a taxable-equivalent basis using a tax rate of 35%.

The portfolio contains no holdings of a single issuer that exceeds 10% of shareholders’ equity other than the US Treasury and governmental sponsored entities.

 

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Table of Contents

LOAN PORTFOLIO

(Dollars in thousands)

A. TYPE OF LOAN

 

     2013          2012          2011          2010          2009  

Commercial, industrial and agricultural

   $ 291,704         $ 257,091         $ 253,324         $ 257,491         $ 239,966   

Commercial mortgages

     467,292           261,791           242,511           212,878           193,632   

Residential real estate

     471,298           347,904           298,628           266,604           226,931   

Consumer

     63,491           58,668           53,471           51,966           53,542   

Credit cards

     5,065           4,800           4,412           4,106           3,560   

Overdrafts

     409           971           423           3,964           391   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 

Gross loans

     1,299,259           931,225           852,769           797,009           718,022   

Less: unearned income

     3,896           3,401           2,886           2,447           2,880   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 

Total loans net of unearned

   $ 1,295,363         $ 927,824         $ 849,883         $ 794,562         $ 715,142   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 

B. LOAN MATURITIES AND INTEREST SENSITIVITY

 

    December 31, 2013  
    One Year
or Less
        One Through
Five Years
        Over
Five Years
        Total Gross
Loans
 

Commercial, industrial and agricultural

             

Loans With Fixed Interest Rate

  $ 99,704        $ 80,432        $ 21,710        $ 201,846   

Loans With Floating Interest Rate

    15,282          35,869          38,707          89,858   
 

 

 

     

 

 

     

 

 

     

 

 

 
  $ 114,986        $ 116,301        $ 60,417        $ 291,704   
 

 

 

     

 

 

     

 

 

     

 

 

 

C. RISK ELEMENTS

 

     2013          2012          2011          2010          2009  

Loans on non-accrual basis

   $ 11,573         $ 14,445         $ 16,567         $ 11,926         $ 12,757   

Accruing loans which are contractually past due 90 days or more as to interest or principal payment

     344           357           441           889           584   

Performing troubled debt restructurings

     8,006           9,961           7,688           1,714           -   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 
   $ 19,923         $ 24,763         $ 24,696         $ 14,529         $ 13,341   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 

Interest income recorded on the non-accrual loans for the year ended December 31, 2013 was $17. Additional interest income which would have been recorded on non-accrual loans had they been on accrual status was $604 for the year ended December 31, 2013.

Loans are placed in non-accrual status when the interest or principal is 90 days past due, unless the loan is in collection, well secured and it is believed that there will be no loss of interest or principal.

 

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Table of Contents

At December 31, 2013, there were $22,132 in special mention loans, $64,254 in substandard loans, and $866 in doubtful loans which are considered problem loans. These loans are not included in the table above. In the opinion of management, these loans are adequately secured and losses are believed to be minimal.

SUMMARY OF LOAN LOSS EXPERIENCE

(Dollars in Thousands)

 

Analysis of the Allowance for Loan Losses

                      
Years Ended December 31,    2013          2012          2011          2010          2009  

Balance at beginning of Period

   $ 14,060         $ 12,615         $ 10,820         $ 9,795         $ 8,719   

Charge-Offs:

                      

Commercial, industrial and agricultural

     958           2,871           1,796           543           860   

Commercial mortgages

     1,931           401           175           2,061           381   

Residential real estate

     467           304           217           211           378   

Consumer

     1,919           1,279           907           1,223           1,622   

Credit cards

     97           78           39           94           101   

Overdrafts

     258           257           222           239           269   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 
     5,630           5,190           3,356           4,371           3,611   

Recoveries:

                      

Commercial, industrial and agricultural

     7           45           9           11           2   

Commercial mortgages

     1,430           -           -           3           -   

Residential real estate

     5           1           13           2           1   

Consumer

     114           91           88           100           62   

Credit cards

     16           18           10           10           13   

Overdrafts

     94           99           94           112           144   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 
     1,666           254           214           238           222   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 

Net charge-offs

     (3,964        (4,936        (3,142        (4,133        (3,389

Provision for loan losses

     6,138           6,381           4,937           5,158           4,465   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 

Balance at end of period

   $ 16,234         $ 14,060         $ 12,615         $ 10,820         $ 9,795   
  

 

 

      

 

 

      

 

 

      

 

 

      

 

 

 
Percentage of net charge-offs during the period to average loans outstanding      0.38        0.55        0.38        0.56        0.49

The provision for loan losses reflects the amount deemed appropriate by management to establish an adequate reserve to meet the present and foreseeable risk characteristics of the present loan portfolio. Management’s judgment is based on the evaluation of individual loans, the overall risk characteristics of various portfolio segments, past experience with losses, the impact of economic conditions on borrowers, and other relevant factors.

 

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Table of Contents

ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES

(Dollars In Thousands)

 

    2013     2012     2011     2010     2009  
    Amount     % of Loans
in each
Category
    Amount     % of Loans
in each
Category
    Amount     % of Loans
in each
Category
    Amount     % of Loans
in each
Category
    Amount     % of Loans
in each
Category
 

Commercial, industrial, and agricultural

  $ 6,279        22.45   $ 4,940        27.61   $ 4,511        29.71   $ 3,517        32.31   $ 2,790        33.42

Commercial mortgages

    5,469        35.97     4,697        28.11     4,470        28.44     3,511        26.71     3,291        26.97

Residential real estate

    2,880        36.27     2,466        37.36     1,991        35.02     1,916        33.45     1,583        31.61

Consumer

    1,333        4.89     1,699        6.30     1,404        6.27     1,561        6.52     1,751        7.46

Credit Cards

    66        0.39     83        0.51     71        0.51     96        0.52     85        0.49

Overdrafts

    207        0.03     175        0.10     168        0.05     219        0.50     295        0.05
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  $ 16,234        100.00   $ 14,060        100.00   $ 12,615        100.00   $ 10,820        100.00   $ 9,795        100.00
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

In determining the allocation of the allowance for loan losses, the Corporation considers economic trends, historical patterns and specific credit reviews.

With regard to the credit reviews, a “watchlist” is evaluated on a monthly basis to determine potential commercial losses. Consumer loans and mortgage loans are allocated using historical loss experience.

DEPOSITS

(Dollars In Thousands)

 

     Year Ended December 31,  
     2013     2012     2011  
     Average
Amount
     Annual
Rate
    Average
Amount
     Annual
Rate
    Average
Amount
     Annual
Rate
 

Demand – Non Interest Bearing

   $ 186,180         $ 164,368         $ 148,287      

Demand – Interest Bearing

     388,237         0.38     313,673         0.50     296,440         0.77

Savings Deposits

     819,774         0.47     738,023         0.76     501,475         1.09

Time Deposits

     219,791         1.20     229,694         1.62     320,704         1.82
  

 

 

      

 

 

      

 

 

    

TOTAL

   $   1,613,982         $   1,445,758         $   1,266,906      
  

 

 

      

 

 

      

 

 

    

 

The maturity of certificates of deposits and other time deposits

in denominations of $100,000 or more as of December 31, 2013 is as follows:

  

Three months or less

   $ 41,001   

Greater than three months and through twelve months

     23,978   

Greater than one year and through three years

     41,957   

Greater than three years

     19,987   
  

 

 

 
   $ 126,923   
  

 

 

 

RETURN ON EQUITY AND ASSETS

 

       Year Ended December 31,    
     2013     2012     2011  

Return on average assets

     0.88     1.00     1.00

Return on average equity

     11.38     12.17     12.36

Dividend payout ratio

     51.40     47.93     53.79

Average equity to average assets ratio

     7.73     8.22     8.09

 

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ITEM 1A.   RISK FACTORS

The Corporation’s financial condition and results of operations are subject to various risks inherent in its business. The material risks and uncertainties that management believes affect the Corporation are described below. If any of these risks actually occur, the Corporation’s business, financial condition, liquidity, results of operations and prospects could be materially and adversely affected. You should consider all of the following risks together with all of the other information in this Annual Report on Form 10-K.

The possibility of the economy’s return to recessionary conditions and the possibility of further turmoil or volatility in the financial markets would likely have an adverse effect on the Corporation’s business, financial position and results of operations.

The economy in the United States and globally began to recover from severe recessionary conditions in mid-2009 and is currently in the midst of a moderate economic recovery. The sustainability of the moderate recovery is dependent on a number of factors that are not within the Corporation’s control, such as a return to private sector job growth and investment, strengthening of housing sales and construction, continuation of the economic recovery globally, and the timing and impact of changing governmental policies. The Corporation continues to face risks resulting from the aftermath of the severe recession generally and the moderate pace of the current recovery. A slowing or failure of the economic recovery would likely aggravate the adverse effects of these difficult economic and market conditions on the Corporation and on others in the financial services industry. In particular, the Corporation may face the following risks in connection with the current economic or market environment:

 

   

The Corporation’s and the Bank’s ability to borrow from other financial institutions or to access the debt or equity capital markets on favorable terms or at all could be adversely affected by further disruptions in the capital markets or other events, including actions by rating agencies and deteriorating investor expectations.

   

The Corporation faces increased regulation of the banking and financial services industry. Compliance with such regulation may increase its costs and limit its ability to pursue business opportunities.

   

Market developments may affect customer confidence levels and may cause increases in loan delinquencies and default rates, which management expects would adversely impact the Bank’s charge-offs and provision for loan losses.

   

Market developments may adversely affect the Bank’s securities portfolio by causing other-than-temporary-impairments, prompting write-downs and securities losses.

   

Competition in banking and financial services industry could intensify as a result of the increasing consolidation of financial services companies in connection with current market conditions.

The Bank’s allowance for loan losses may not be adequate to cover loan losses which could have a material adverse effect on the Corporation’s business, financial condition and results of operations.

A significant source of risk for the Corporation arises from the possibility that losses will be sustained because borrowers, guarantors and related parties may fail to perform in accordance with the terms of their loan agreements. Most loans originated by the Bank are secured, but some loans are unsecured based upon management’s evaluation of the creditworthiness of the borrowers. With respect to secured loans, the collateral securing the repayment of these loans principally includes a wide variety of real estate, and to a lesser extent personal property, either of which may be insufficient to cover the obligations owed under such loans.

 

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Collateral values and the financial performance of borrowers may be adversely affected by changes in prevailing economic, environmental and other conditions, including declines in the value of real estate, changes in interest rates and debt service levels, changes in oil and gas prices, changes in monetary and fiscal policies of the federal government, widespread disease, terrorist activity, environmental contamination and other external events, which are beyond the control of the Bank. In addition, collateral appraisals that are out of date or that do not meet industry recognized standards might create the impression that a loan is adequately collateralized when in fact it is not. Although the Bank may acquire any real estate or other assets that secure defaulted loans through foreclosures or other similar remedies, the amounts owed under the defaulted loans may exceed the value of the assets acquired.

The allowance for loan losses is subject to a formal analysis by the credit administrator of CNB using a methodology whereby loan pools are segregated into special mention, substandard, doubtful and unclassified categories and the pools are evaluated based on historical loss factors. The Bank monitors delinquencies and losses on a monthly basis. The Bank has adopted underwriting and credit monitoring policies and procedures, including the review of borrower financial statements and collateral appraisals, which management believes are appropriate to mitigate the risk of loss by assessing the likelihood of borrower non-performance and the value of available collateral. The Bank also manages credit risk by diversifying its loan portfolio. An ongoing independent review, subsequent to management’s review, of individual credits is performed by an independent loan review function, which reports to the Loan Committee of the Corporation’s Board of Directors. However, such policies and procedures have limitations, including judgment errors in management’s risk analysis, and may not prevent unexpected losses that could have a material adverse effect on the Corporation’s business, financial condition and results of operations.

Interest rate volatility could significantly reduce the Corporation’s profitability.

The Corporation’s earnings largely depend on the relationship between the yield on its earning assets, primarily loans and investment securities, and the cost of funds, primarily deposits and borrowings. This relationship, commonly known as the net interest margin, is susceptible to significant fluctuation and is affected by economic and competitive factors that influence the yields and rates, and the volume and mix of the Bank’s interest earning assets and interest bearing liabilities.

Interest rate risk can be defined as the sensitivity of net interest income and of the market value of financial instruments to the direction and frequency of changes in interest rates. Interest rate risk arises from the imbalance in the re-pricing, maturity and/or cash flow characteristics of assets and liabilities. The Corporation is subject to interest rate risk to the degree that its interest bearing liabilities re-price or mature more slowly or more rapidly or on a different basis than its interest earning assets. Changes in interest rates will affect the levels of income and expense recorded on a large portion of the Bank’s assets and liabilities, and fluctuations in interest rates will impact the market value of all interest sensitive assets. Significant fluctuations in interest rates could have a material adverse impact on the Corporation’s business, financial condition, results of operations, or liquidity.

The Bank’s interest rate risk measurement and management techniques incorporate the re-pricing and cash flow attributes of its balance sheet and off-balance sheet instruments as they relate to current and potential changes in interest rates. The level of interest rate risk, measured in terms of the potential future effect on earnings, is determined through the use of static gap analysis and earnings simulation modeling under multiple interest rate scenarios. Management’s objectives are to measure, monitor and develop strategies in response to the interest rate risk profile inherent in the Bank’s balance sheet in order to preserve the sensitivity of net interest income to actual or potential changes in interest rates. At

 

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December 31, 2013, the interest rate sensitivity position was asset sensitive in the short-term. For further information on risk relating to interest rates, refer to Part I, Item 7a, “Quantitative and Qualitative Disclosures about Market Risk,” herein.

The Bank’s loans are principally concentrated in certain areas of Pennsylvania and Ohio, and adverse economic conditions in those markets could adversely affect the Corporation’s business, financial condition and results of operations.

The Corporation’s success is dependent to a significant extent upon general economic conditions in the United States and, in particular, the local economies in northwest and central Pennsylvania and central Ohio, the primary markets served by the Bank. The Bank is particularly exposed to real estate and economic factors in these geographic areas, as most of its loan portfolio is concentrated among borrowers in these markets. Furthermore, because a substantial portion of the Bank’s loan portfolio is secured by real estate in these areas, the value of the associated collateral is also subject to regional real estate market conditions.

The Bank is not immune to negative consequences arising from overall economic weakness and, in particular, a sharp downturn in the local real estate markets served by the Bank. While the Bank’s loan portfolio has not shown significant signs of credit quality deterioration despite continued challenges in the U.S. economy, we cannot assure you that no deterioration will occur. An economic recession in the markets served by the Bank, and the nation as a whole, could negatively impact household and corporate incomes. This impact could lead to decreased loan demand and increase the number of borrowers who fail to pay the Bank interest or principal on their loans, and accordingly, could have a material adverse effect on the Corporation’s business, financial condition, results of operations, or liquidity.

The Corporation’s investment securities portfolio is subject to credit risk, market risk, and liquidity risk, and declines in value in its investment securities portfolio may require it to record other than temporary impairment charges that could have a material adverse effect on its results of operations and financial condition.

The Corporation’s investment securities portfolio has risks beyond its control that can significantly influence the portfolio’s fair value. These factors include, but are not limited to, rating agency downgrades of the securities, defaults of the issuers of the securities, lack of market pricing of the securities, and continued instability in the credit markets. Recent lack of market activity with respect to certain of the securities has, in certain circumstances, required the Corporation to base its fair market valuation on unobservable inputs. The Corporation has engaged valuation experts to price these certain securities using proprietary models, which incorporate assumptions that market participants would use in pricing the securities, including bid/ask spreads and liquidity and credit premiums. Any change in current accounting principles or interpretations of these principles could impact the Corporation’s assessment of fair value and thus its determination of other-than-temporary impairment of the securities in its investment securities portfolio.

The Bank may be required to record other-than-temporary impairment charges on its investment securities if they suffer declines in value that are considered other-than-temporary. Numerous factors, including collateral deterioration underlying certain private label mortgage-backed securities, lack of liquidity for re-sales of certain investment securities, absence of reliable pricing information for certain investment securities, adverse changes in business climate, adverse actions by regulators, or unanticipated changes in the competitive environment could negatively effect the Bank’s securities portfolio in future periods. An other-than-temporary impairment charge could have a material adverse effect on the Corporation’s results of operations and financial condition.

 

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The Corporation’s business and that of the Bank is highly regulated and impacted by monetary policy, limiting the manner in which the Corporation and the Bank may conduct business and obtain financing, and modifications to the existing regulatory framework under which the Corporation operates could have a material adverse effect on its business, financial condition, results of operations or liquidity.

As a financial holding company and state-chartered financial institution, respectively, the Corporation and the Bank are subject to extensive regulation and supervision under federal and state laws and regulations. The restrictions imposed by such laws and regulations, along with the existing tax, accounting, securities, insurance, and monetary laws, regulations, rules, standards, policies and laws and interpretations, limit the manner in which the Corporation and the Bank conduct business, undertake new investments and activities, and obtain financing. These laws and regulations are designed primarily for the protection of the deposit insurance funds and consumers and not to benefit shareholders. These laws and regulations may sometimes impose significant limitations on the Corporation’s operations. These laws, regulations, rules, standards, policies and interpretations are constantly evolving and may change significantly over time.

The nature, extent, and timing of the adoption of significant new laws and regulations, or changes in or repeal of existing laws and regulations, or specific actions of our regulators, could have a material adverse effect on our business, financial condition, results of operations or liquidity. Furthermore, federal monetary policy, particularly as implemented through the Federal Reserve System, significantly affects credit risk and interest rate risk conditions for the Bank and the Corporation, and any unfavorable change in these conditions could have a material adverse effect on the Corporation’s business, financial condition, results of operations or liquidity.

Compliance with the Dodd-Frank Act is increasing our regulatory compliance burdens and may increase our operating costs and/or adversely impact our earnings and/or capital ratios.

The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) was enacted on July 21, 2010. The Dodd-Frank Act represented a significant overhaul of many aspects of the regulation of the financial-services industry. Among other things, the Dodd-Frank Act created a new federal Consumer Financial Protection Bureau (“CFPB”), tightened capital standards, imposed clearing and margining requirements on many derivatives activities, and generally increased oversight and regulation of financial institutions and financial activities.

In addition to the self-implementing provisions of the statute, the Dodd-Frank Act calls for over 300 administrative rulemakings by various federal agencies to implement various parts of the legislation. While some rules have been finalized and/or issued in proposed form, many have yet to be proposed. It is impossible to predict when all such additional rules will be issued or finalized, and what the content of such rules will be. We will have to apply resources to ensure that we are in compliance with all applicable provisions of the Dodd-Frank Act and any implementing rules, which may increase our costs of operations and adversely impact our earnings.

The Dodd-Frank Act and any implementing rules that are ultimately issued could have adverse implications on the financial industry, the competitive environment, and/or our ability to conduct business.

The Corporation relies on its management and other key personnel, and the loss of any of them may adversely affect its operations.

The Corporation is and will continue to be dependent upon the services of its executive management team. In addition, it will continue to depend on its ability to retain and recruit key client relationship

 

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managers. The unexpected loss of services of any key management personnel, or the inability to recruit and retain qualified personnel in the future, could have an adverse effect on its business and financial condition.

Strong competition within the Corporation’s markets may have a material adverse impact on its profitability.

The Corporation competes with an ever-increasing array of financial service providers. As noted above, as a financial holding company and state-chartered financial institution, respectively, the Corporation and the Bank are subject to extensive regulation and supervision, including, in many cases, regulations that limit the type and scope of activities. The non-bank financial service providers that compete with the Corporation and the Bank may not be subject to such extensive regulation, supervision, and tax burden. Competition from nationwide banks, as well as local institutions, is strong in the Corporation’s markets.

The financial services industry is undergoing rapid technological change and technological advances are likely to intensify competition. In addition to improving customer services, effective use of technology increases efficiency and enables financial institutions to reduce costs. Accordingly, the Corporation’s future success will depend in part on its ability to address customer needs by using technology. The Corporation cannot assure you that it will be able to develop new technology driven products and services, or be successful in marketing these products to its customers. Many of its competitors have far greater resources to invest in technology.

Many regional, national and international competitors have far greater assets and capitalization than the Corporation has and greater access to capital markets and can consequently offer a broader array of financial services than it can. We cannot assure you that we will continue to be able to compete effectively with other financial institutions in the future. Furthermore, developments increasing the nature or level of competition could have a material adverse effect on the Corporation’s business, financial condition, results of operations, or liquidity. For further information on competition, refer to Part I, Item 1, “Competition” herein.

Non-compliance with applicable laws and/or regulations, including the Bank Secrecy Act and USA Patriot Act, may adversely affect the Corporation’s operations and its financial results and could result in significant fines or sanctions.

Federal and state regulators have the ability to impose substantial sanctions, restrictions and requirements on the Corporation’s banking and nonbanking subsidiaries if they determine, upon examination or otherwise, that any such subsidiary has violated laws or regulations with which it or its subsidiaries must comply, or that weaknesses or failures exist with respect to general standards of safety and soundness. Such enforcement actions may be formal or informal and can include, among other things, civil money penalties and orders to take certain actions or to refrain from certain actions. The imposition of regulatory sanctions, including any monetary penalties, may have a material impact on the Corporation’s financial condition and results of operations, damage its reputation, and/or cause it to lose its financial holding company status. In addition, compliance with any such action could distract management’s attention from the Corporation’s operations, cause the Corporation to incur significant expenses, restrict it from engaging in potentially profitable activities, and limit its ability to raise capital.

 

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The USA Patriot and Bank Secrecy Acts require financial institutions to develop programs to prevent the institutions from being used for money laundering and terrorist activities. If certain activities are detected, financial institutions are obligated to file suspicious activity reports with the U.S. Treasury Department’s Financial Crimes Enforcement Network. These rules also require financial institutions to establish procedures for identifying and verifying the identity of customers seeking to open new financial accounts or conduct transactions, and require the filing of certain reports, such as those for cash transactions above a certain threshold. Financial institutions must also refrain from transacting business with certain countries or persons designated by the Office of Foreign Assets Control.

Non-compliance with laws and regulations such as these could result in significant fines or sanctions. These particular laws and regulations have significant implications for all financial institutions, establish new crimes and penalties, and require the federal banking agencies, in reviewing merger and acquisition transactions, to consider the effectiveness of the parties to such transactions in combating money laundering and terrorist activities. Even inadvertent non-compliance and technical failure to follow the regulations may result in significant fines or other penalties, which could have a material adverse impact on the Corporation’s business, financial condition, results of operations or liquidity.

A failure in or breach of the Corporation’s operational or security systems or infrastructure, or those of third party vendors and other service providers, including as a result of cyber attacks, could disrupt the Corporation’s businesses, result in the disclosure or misuse of confidential or proprietary information, damage its reputation, increase its costs and cause losses.

As a financial institution, the Corporation depends on its ability to continuously process, record and monitor a large number of customer transactions and customer, public and regulatory expectations regarding operational and information security have increased over time. Accordingly, its operational systems and infrastructure must continue to be safeguarded and monitored for potential failures, disruptions and breakdowns. Although the Corporation has business continuity plans and other safeguards in place, disruptions or failures in the physical infrastructure or operating systems that support its businesses and customers, or cyber attacks or security breaches of the networks, systems or devices on which customers’ personal information is stored and that customers use to access the Corporation’s products and services could result in customer attrition, regulatory fines, penalties or intervention, reputational damage, reimbursement or other compensation costs, and/or additional compliance costs, any of which could materially adversely affect the Corporation’s results of operations or financial condition.

Although to date the Corporation has not experienced any material losses relating to cyber attacks or other information security breaches, there can be no assurance that it will not suffer such losses in the future. The Corporation’s risk and exposure to these matters remains heightened because of, among other things, the evolving nature of these threats, our plans to continue to implement our Internet banking and mobile banking channel strategies and develop additional remote connectivity solutions to serve our customers when and how they want to be served. As a result, cybersecurity and the continued development and enhancement of the Corporation’s controls, processes and practices designed to protect its systems, computers, software, data and networks from attack, damage or unauthorized access remain a priority for the Corporation. As cyber threats continue to evolve, the Corporation may be required to expend significant additional resources to continue to modify or enhance its protective measures or to investigate and remediate any information security vulnerabilities.

 

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The Corporation may not be able to meet its cash flow needs on a timely basis at a reasonable cost, and the Corporation’s cost of funds for banking operations may significantly increase as a result of general economic conditions, interest rates and competitive pressures.

Liquidity is the ability to meet cash flow obligations as they come due and cash flow needs on a timely basis and at a reasonable cost. The liquidity of the Bank is used to make loans and to repay deposit and borrowing liabilities as they become due, or are demanded by customers and creditors. Many factors affect the Bank’s ability to meet liquidity needs, including variations in the markets served by its network of offices, its mix of assets and liabilities, reputation and standing in the marketplace, and general economic conditions.

The Bank’s primary source of funding is retail deposits, gathered throughout its network of banking offices. Periodically, the Corporation utilizes term borrowings from the Federal Home Loan Bank of Pittsburgh, or FHLB, of which the Bank is a member, and other lenders to meet funding obligations. The Bank’s securities and loan portfolios provide a source of contingent liquidity that could be accessed in a reasonable time period through sales.

Significant changes in general economic conditions, market interest rates, competitive pressures or otherwise, could cause the Bank’s deposits to decrease relative to overall banking operations, and it would have to rely more heavily on brokered funds and borrowings in the future, which are typically more expensive than deposits.

Management and the Board of Directors of CNB, through its Asset/Liability Committee, or the ALCO, monitor liquidity and the ALCO establishes and monitors acceptable liquidity ranges. The Bank actively manages its liquidity position through target ratios. Continual monitoring of these ratios, both historical and through forecasts under multiple rate scenarios, allows the Bank to employ strategies necessary to maintain adequate liquidity.

Changes in economic conditions, including consumer savings habits and availability of or access to capital, could potentially have a significant impact on the Bank’s liquidity position, which in turn could materially impact the Corporation’s financial condition, results of operations and cash flows.

A substantial decline in the value of the Bank’s FHLB common stock may adversely affect the Corporation’s results of operations, liquidity and financial condition.

As a requirement of membership in the FHLB of Pittsburgh, the Bank must own a minimum required amount of FHLB stock, calculated periodically based primarily on its level of borrowings from the FHLB. Borrowings from the FHLB represent the Bank’s primary source of short-term and long-term wholesale funding.

In an extreme situation, it is possible that the capitalization of an FHLB, including the FHLB of Pittsburgh, could be substantially diminished or reduced to zero. Consequently, given that there is no trading market for the Bank’s FHLB common stock, the Corporation’s management believes that there is a risk that the Corporation’s investment could be deemed impaired at some time in the future. If this occurs, it may adversely affect the Corporation’s results of operations and financial condition.

In addition, if the capitalization of the FHLB of Pittsburgh is substantially diminished, the Bank’s liquidity may be adversely impaired if it is not able to obtain alternative sources of funding.

 

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There are 12 banks of the FHLB, including Pittsburgh. The 12 FHLB banks are jointly liable for the consolidated obligations of the FHLB system. To the extent that one FHLB bank cannot meet its obligations to pay its share of the system’s debt, other FHLB banks can be called upon to make the payment. The Corporation cannot assure you, however, that the FHLB system will be able to meet these obligations.

The Bank could be held responsible for environmental liabilities relating to properties acquired through foreclosure, resulting in significant financial loss.

In the event the Bank forecloses on a defaulted commercial or residential mortgage loan to recover its investment, it may be subject to environmental liabilities in connection with the underlying real property, which could significantly exceed the value of the real property. Although the Bank exercises due diligence to discover potential environmental liabilities prior to acquiring any property through foreclosure, hazardous substances or wastes, contaminants, pollutants, or their sources may be discovered on properties during its ownership or after a sale to a third party. The Corporation cannot assure you that the Bank would not incur full recourse liability for the entire cost of any removal and cleanup on an acquired property, that the cost of removal and cleanup would not exceed the value of the property, or that the Bank could recover any of the costs from any third party. Losses arising from environmental liabilities could have a material adverse impact on the Corporation’s business, financial condition, results of operations, or liquidity.

Federal and state governments could pass legislation responsive to current credit conditions which could cause the Corporation to experience higher credit losses.

The Corporation could experience higher credit losses because of federal or state legislation or regulatory action that reduces the amount the Bank’s borrowers are otherwise contractually required to pay under existing loan contracts. Also, the Corporation could experience higher credit losses because of federal or state legislation or regulatory action that limits the Bank’s ability to foreclose on property or other collateral or makes foreclosure less economically feasible. The Corporation cannot assure you that future legislation will not significantly and adversely impact its ability to collect on its current loans or foreclose on collateral.

The preparation of the Corporation’s financial statements requires the use of estimates that could significantly vary from actual results, which could have a material adverse effect on the Corporation’s business, financial condition, results of operations or liquidity.

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make significant estimates that affect the financial statements. For example, one of these significant estimates is the allowance for loan losses. Due to the inherent nature of estimates, the Corporation cannot provide absolute assurance that it will not significantly increase the allowance for loan losses and/or sustain credit losses that are significantly higher than the provided allowance, which could have a material adverse effect on the Corporation’s business, financial condition, results of operations or liquidity.

The Corporation’s financial results may be subject to the impact of changes in accounting standards or interpretation in new or existing standards.

From time to time the Financial Accounting Standards Board, or FASB, and the SEC change accounting regulations and reporting standards that govern the preparation of the Corporation’s financial statements. In addition, the FASB, SEC, and bank regulators may revise their previous interpretations regarding existing accounting regulations and the application of these accounting

 

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standards. These revisions in their interpretations are out of the Corporation’s control and may have a material impact on its financial statements.

Customer information may be obtained and used fraudulently, which may negatively impact the Corporation’s reputation and customer base, cause increased regulatory scrutiny and expose the Corporation to litigation.

Risk of theft of customer information resulting from security breaches by third parties exposes the Corporation to reputation risk and potential monetary loss. CNB has exposure to fraudulent use of its customers’ personal information resulting from its general business operations and through customer use of financial instruments such as debit cards. While CNB has policies and procedures designed to prevent or limit the effect of this risk, the Corporation cannot assure you that any such security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any security breaches could damage CNB’s reputation, result in a loss of customer business, subject CNB to additional regulatory scrutiny, or expose CNB to civil litigation and possible financial liability, any of which could have a material adverse effect on CNB’s financial condition and results of operations.

The unsoundness of other financial institutions with which the Corporation does business could adversely affect the Corporation’s business, financial condition or results of operations.

Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial institutions are interrelated as a result of trading, clearing, counterparty, investment or other relationships. The Corporation routinely executes transactions with counterparties in the financial services industry such as commercial banks, brokers and dealers, investment banks and other institutional clients for a range of transactions including loan participations, derivatives and hedging transactions. In addition, the Corporation invests in securities or loans originated or issued by financial institutions or supported by the loans they originate. As a result, defaults by, or even rumors or questions about, one or more financial institutions, or the financial industry generally, have led to market-wide liquidity problems and could lead to losses or defaults by us or other institutions. Many of these transactions expose the Corporation to credit or investment risk in the event of default by the Corporation’s counterparty. In addition, the Corporation’s credit risk may be exacerbated if the collateral it holds cannot be realized or is liquidated at prices not sufficient to recover the full amount of the loan or other exposure to the Corporation. The Corporation could incur losses to its securities portfolio as a result of these issues. These types of losses may have a material adverse effect on the Corporation’s business, financial condition or results of operation.

Some provisions contained in the Corporation’s articles of incorporation and its bylaws and under Pennsylvania law could deter a takeover attempt or delay changes in control or management of the Corporation.

Certain anti-takeover provisions of the Pennsylvania Business Corporation Law of 1988, as amended, apply to Pennsylvania registered corporations (e.g., publicly traded companies) including, but not limited to, those relating to (1) control share acquisitions, (2) disgorgement of profits by certain controlling persons, (3) business combination transactions with interested shareholders, and (4) the rights of shareholders to demand fair value for their stock following a control transaction. Pennsylvania law permits corporations to opt-out of these anti-takeover provisions, but the Corporation has not done so. Such provisions could have the effect of deterring takeovers or delaying changes in control or management of the Corporation. Additionally, such provisions could limit the price that some investors might be willing to pay in the future for shares of the Corporation’s common stock.

 

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For example, the Corporation’s amended and restated articles of incorporation require the affirmative vote of 66% of the outstanding shares entitled to vote to effect a business combination. In addition, the Corporation’s amended and restated articles of incorporation, subject to the limitations prescribed in such articles and subject to limitations prescribed by Pennsylvania law, authorize the Corporation’s board of directors, from time to time by resolution and without further shareholder action, to provide for the issuance of shares of preferred stock, in one or more series, and to fix the designation, powers, preferences and other rights of the shares and to fix the qualifications, limitations and restrictions thereof. As a result of its broad discretion with respect to the creation and issuance of preferred stock without shareholder approval, the board of directors could adversely affect the voting power and other rights of the holders of common stock and, by issuing shares of preferred stock with certain voting, conversion and/or redemption rights, could discourage any attempt to obtain control of CNB.

The Corporation’s bylaws, as amended and restated, provide for the division of the Corporation’s board of directors into three classes of directors, with each serving staggered terms. In addition, any amendment to the Corporation’s bylaws must be approved by the affirmative vote of a majority of the votes cast by all shareholders entitled to vote thereon and, if any shareholders are entitled to vote thereon as a class, upon receiving the affirmative vote of a majority of the votes cast by the shareholders entitled to vote as a class.

Any of the foregoing provisions may have the effect of deterring takeovers or delaying changes in control or management of the Corporation.

The price of the Corporation’s common stock may fluctuate significantly, and this may make it difficult for you to resell shares of common stock owned by you at times or at prices you find attractive.

The price of the Corporation’s common stock on the NASDAQ constantly changes. The Corporation expects that the market price of its common stock will continue to fluctuate, and the Corporation cannot give you any assurances regarding any trends in the market prices for its common stock.

The Corporation’s stock price may fluctuate as a result of a variety of factors, many of which are beyond its control. These factors include the Corporation’s:

 

   

past and future dividend practice;

   

financial condition, performance, creditworthiness and prospects;

   

quarterly variations in the Corporation’s operating results or the quality of the Corporation’s assets;

   

operating results that vary from the expectations of management, securities analysts and investors;

   

changes in expectations as to the Corporation’s future financial performance;

   

announcements of innovations, new products, strategic developments, significant contracts, acquisitions and other material events by the Corporation or its competitors;

   

the operating and securities price performance of other companies that investors believe are comparable to the Corporation;

   

future sales of the Corporation’s equity or equity-related securities;

   

the credit, mortgage and housing markets, the markets for securities relating to mortgages or housing, and developments with respect to financial institutions generally; and

   

instability in global financial markets and global economies and general market conditions, such as interest or foreign exchange rates, stock, commodity or real estate valuations or volatility, budget deficits or sovereign debt level concerns and other geopolitical, regulatory or judicial events.

 

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The Corporation’s ability to pay dividends is limited by law and regulations.

The future declaration of dividends by the Corporation’s Board of Directors will depend on a number of factors, including capital requirements, regulatory limitations, the Corporation’s operating results and financial condition and general economic conditions. The Corporation’s ability to pay dividends depends primarily on the receipt of dividends from the Bank. Dividend payments from the Bank are subject to legal and regulatory limitations, generally based on retained earnings, imposed by bank regulatory agencies. The ability of the Bank to pay dividends is also subject to financial condition, regulatory capital requirements, capital expenditures and other cash flow requirements. The Corporation cannot assure you that the Bank will be able to pay dividends to CNB in the future. The Corporation may decide to limit the payment of dividends to its stockholders even when the Corporation has the legal ability to pay them in order to retain earnings for use in the Corporation’s business.

The risks presented by acquisitions could adversely affect our financial condition and results of operations.

Any acquisitions, including our recently completed acquisition of FC Banc Corp., will be accompanied by the risks commonly encountered in acquisitions including, among other things: our ability to realize anticipated cost savings and avoid unanticipated costs relating to the merger, the difficulty of integrating operations and personnel, the potential disruption of our or the acquired company’s ongoing business, the inability of our management to maximize our financial and strategic position, the inability to maintain uniform standards, controls, procedures and policies, and the impairment of relationships with the acquired company’s employees and customers as a result of changes in ownership and management. These risks may prevent the Corporation from fully realizing the anticipated benefits of an acquisition or cause the realization of such benefits to take longer than expected.

ITEM 1B.  UNRESOLVED STAFF COMMENTS

None

ITEM 2.  PROPERTIES

The headquarters of the Corporation and the Bank are located at 1 South Second Street, Clearfield, Pennsylvania, in a building owned by the Corporation. The Bank operates 37 full-service offices and 1 loan production office. Of these 37 offices, 25 are owned and 12 are leased from independent owners. Holiday Financial Services Corporation has eleven full-service offices of which eight are leased from independent owners and three are leased from the Bank. There are no encumbrances on the offices owned and the rental expense on the leased property is immaterial in relation to operating expenses. The initial lease terms range from one to twenty years.

ITEM 3.  LEGAL PROCEEDINGS

There are no material pending legal proceedings to which the Corporation or any of its subsidiaries is a party, or of which any of their property is the subject, except ordinary routine proceedings which are incidental to the business.

ITEM 4.  MINE SAFETY DISCLOSURES

None

 

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Table of Contents

PART II.

ITEM 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Quarterly Share Data; Holders

Our common stock is traded on the Global Select Market of The NASDAQ Stock Market LLC under the symbol CCNE. The following tables set forth, for the periods indicated, the quarterly high and low sales price of the Corporation’s common stock as reported by the NASDAQ Global Select Market and actual cash dividends paid per share. As of December 31, 2013, the approximate number of shareholders of record of the Corporation’s common stock was 3,817.

Price Range of Common Stock

 

     2013      2012  
     High      Low      High      Low  

First quarter

   $ 17.35       $ 16.34       $ 17.50       $ 14.59   

Second quarter

     17.11         15.50         17.32         14.24   

Third quarter

     18.47         16.41         18.20         15.28   

Fourth quarter

     21.04         16.58         17.90         14.62   

Cash Dividends Paid

 

     2013      2012  

First quarter

   $ 0.165       $ 0.165   

Second quarter

     0.165         0.165   

Third quarter

     0.165         0.165   

Fourth quarter

     0.165         0.165   

See Note 18 to the consolidated financial statements in Item 8 and “Supervision and Regulation—Dividend Restrictions” in Part I, Item 1 for a discussion of dividend restrictions.

 

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Issuer Purchases of Equity Securities

The following table provides information with respect to any purchase of shares of the Corporation’s common stock made by or on behalf of the Corporation for the quarter ended December 31, 2013.

 

Period

   Total Number
of Shares
Purchased
     Average Price
Paid per Share
     Total
Number of
Shares
Purchased as
Part of
Publicly
Announced
Plans or
Programs
     Maximum
Number (or
approximate
dollar value) of
Shares that
May Yet Be
Purchased
Under the
Plans or
Programs (1)
 

October 1 – 31, 2013

                         -                             -                             -         168,386   

November 1 – 31, 2013

     -         -         -         168,386   

December 1 - 31, 2013

     -         -         -         168,386   

 

(1)

The Corporation’s stock repurchase program, which was announced on December 12, 2006, authorizes the repurchase of up to 500,000 shares of common stock. The program will remain in effect until fully utilized or until modified, suspended or terminated. As of December 31, 2013, there were 168,386 shares remaining in the program.

 

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Performance Graph

Set forth below is a chart comparing the Corporation’s cumulative return to stockholders against the cumulative return of the NASDAQ Composite Index and a Peer Group Index of banking organizations for the five-year period commencing December 31, 2008 and ending December 31, 2013.

 

LOGO

 

    

Period Ending

 

Index

     12/31/08         12/31/09         12/31/10         12/31/11         12/31/12         12/31/13   

CNB Financial Corporation

     100.00         150.48         145.78         162.86         176.25         212.30   

NASDAQ Composite

     100.00         145.36         171.74         170.38         200.63         281.22   

SNL Bank NASDAQ

     100.00         81.12         95.71         84.92         101.22         145.48   

 

Source : SNL Financial LC, Charlottesville, VA

  

© 2014

  

www.snl.com

  

 

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ITEM 6.  SELECTED FINANCIAL DATA

 

   

Year ended December 31,

 
(Dollars in thousands, except per share data)   2013     2012     2011     2010     2009  

 

 

INTEREST AND DIVIDEND INCOME:

         

Loans including fees

  $ 53,927      $ 49,760      $ 48,324      $ 46,955      $ 45,839   

Securities:

         

Taxable

    13,456        14,688        14,395        11,728        7,902   

Tax-exempt

    3,828        3,595        2,957        2,435        2,095   

Dividends

    205        86        36        29        34   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest and dividend income

    71,416        68,129        65,712        61,147        55,870   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

INTEREST EXPENSE:

         

Deposits

    7,995        10,875        13,625        13,558        13,091   

Borrowed funds

    3,447        3,245        3,176        4,716        4,527   

Subordinated debentures

    770        800        778        782        850   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest expense

    12,212        14,920        17,579        19,056        18,468   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

NET INTEREST INCOME

    59,204        53,209        48,133        42,091        37,402   

PROVISION FOR LOAN LOSSES

    6,138        6,381        4,937        5,158        4,465   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net interest income after provision for loan losses

    53,066        46,828        43,196        36,933        32,937   

NON-INTEREST INCOME

    13,766        12,664        10,719        9,650        7,950   

NON-INTEREST EXPENSES

    43,813        35,945        33,282        31,798        30,021   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

INCOME BEFORE INCOME TAXES

    23,019        23,547        20,633        14,785        10,866   

INCOME TAX EXPENSE

    6,340        6,411        5,529        3,469        2,354   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

NET INCOME

  $ 16,679      $ 17,136      $ 15,104      $ 11,316      $ 8,512   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

PER SHARE DATA:

         

Basic

  $ 1.29      $ 1.38      $ 1.23      $ 1.06      $ 0.98   

Fully diluted

    1.29        1.38        1.23        1.06        0.98   

Dividends declared

    0.66        0.66        0.66        0.66        0.66   

Book value per share at year end

    11.43        11.65        10.66        8.96        7.92   

AT END OF PERIOD:

         

Total assets

  $  2,131,289      $  1,773,079      $  1,602,207      $  1,413,511      $  1,161,591   

Securities

    690,118        741,770        641,340        503,028        347,748   

Loans, net of unearned discount

    1,295,363        927,824        849,883        794,562        715,142   

Allowance for loan losses

    16,234        14,060        12,615        10,820        9,795   

Deposits

    1,835,314        1,485,003        1,353,851        1,162,868        956,858   

FHLB and other borrowings

    75,000        74,296        74,456        105,259        100,003   

Subordinated debentures

    20,620        20,620        20,620        20,620        20,620   

Shareholders’ equity

    164,911        145,364        131,889        109,645        69,409   

KEY RATIOS:

         

Return on average assets

    0.88%        1.00%        1.00%        0.87%        0.79%   

Return on average equity

    11.38%        12.17%        12.36%        11.62%        12.86%   

Loan to deposit ratio

    70.58%        62.48%        62.78%        68.33%        74.74%   

Dividend payout ratio

    51.40%        47.93%        53.79%        61.27%        67.27%   

Average equity to average assets ratio

    7.73%        8.22%        8.09%        7.46%        6.17%   

 

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ITEM 7.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of the consolidated financial statements of CNB Financial Corporation (the “Corporation”) is presented to provide insight into management’s assessment of financial results. The Corporation’s subsidiary, CNB Bank (the “Bank”), provides financial services to individuals and businesses primarily within its primary market area of the Pennsylvania counties of Cambria, Cameron, Centre, Clearfield, Crawford, Elk, Indiana, Jefferson, and McKean. As ERIEBANK, a division of CNB Bank, the Bank operates in the Pennsylvania counties of Crawford, Erie, and Warren. As FCBank, a division of CNB Bank, the Bank operates in the Ohio counties of Crawford, Richland, Ashland, Wayne, Marion, Morrow, Knox, Holmes, Delaware, and Franklin. The Bank is subject to regulation, supervision and examination by the Pennsylvania State Department of Banking as well as the Federal Deposit Insurance Corporation.

CNB Securities Corporation is incorporated in Delaware and currently maintains investments in debt and equity securities. County Reinsurance Company is an Arizona Corporation and provides credit life and disability insurance for customers of CNB Bank. CNB Insurance Agency, incorporated in Pennsylvania, provides for the sale of nonproprietary annuities and other insurance products. Holiday Financial Services Corporation (“Holiday”), incorporated in Pennsylvania, offers small balance unsecured loans and secured loans, primarily collateralized by automobiles and equipment, to borrowers with higher risk characteristics.

The financial condition and results of operations of the Corporation and its consolidated subsidiaries are not necessarily indicative of future performance. Management’s discussion and analysis should be read in conjunction with the audited consolidated financial statements and related notes.

Risk identification and management are essential elements for the successful management of the Corporation. In the normal course of business, the Corporation is subject to various types of risk, including interest rate, credit, and liquidity risk. These risks are controlled through policies and procedures established by the Corporation.

Interest rate risk is the sensitivity of net interest income and the market value of financial instruments to the direction and frequency of changes in interest rates. Interest rate risk results from various repricing frequencies and the maturity structure of the financial instruments owned by the Corporation. The Corporation uses its asset/liability management policy and systems to control, monitor and manage interest rate risk.

Credit risk represents the possibility that a customer may not perform in accordance with contractual terms. Credit risk results from loans to customers and the purchase of securities. The Corporation manages credit risk by following an established credit policy and using a disciplined evaluation of the adequacy of the allowance for loan losses. Also, the investment policy limits the amount of credit risk that may be taken in the securities portfolio.

Liquidity risk represents the inability to generate or otherwise obtain funds at reasonable rates to satisfy commitments to borrowers and obligations to depositors. The Corporation has established guidelines within its asset-liability management policy to manage liquidity risk. These guidelines include contingent funding alternatives.

 

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Forward-Looking Statements

The information below includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, with respect to the financial condition, liquidity, results of operations, future performance and our business. These forward-looking statements are intended to be covered by the safe harbor for “forward-looking statements” provided by the Private Securities Litigation Reform Act of 1995. Forward-looking statements are those that are not historical facts. Forward-looking statements include statements with respect to beliefs, plans, objectives, goals, expectations, anticipations, estimates and intentions that are subject to significant risks and uncertainties and are subject to change based on various factors (some of which are beyond our control). Forward-looking statements often include the words “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook” or similar expressions or future conditional verbs such as “may,” “will,” “should,” “would” and “could.” Such known and unknown risks, uncertainties and other factors that could cause the actual results to differ materially from the statements, include, but are not limited to, (i) changes in general business, industry or economic conditions or competition; (ii) changes in any applicable law, rule, regulation, policy, guideline or practice governing or affecting financial holding companies and their subsidiaries or with respect to tax or accounting principals or otherwise; (iii) adverse changes or conditions in capital and financial markets; (iv) changes in interest rates; (v) higher than expected costs or other difficulties related to integration of combined or merged businesses; (vi) the inability to realize expected cost savings or achieve other anticipated benefits in connection with business combinations and other acquisitions; (vii) changes in the quality or composition of our loan and investment portfolios; (viii) adequacy of loan loss reserves; (ix) increased competition; (x) loss of certain key officers; (xi) continued relationships with major customers; (xii) deposit attrition; (xiii) rapidly changing technology; (xiv) unanticipated regulatory or judicial proceedings and liabilities and other costs; (xv) changes in the cost of funds, demand for loan products or demand for financial services; and (xvi) other economic, competitive, governmental or technological factors affecting our operations, markets, products, services and prices. Such developments could have an adverse impact on our financial position and our results of operations.

The forward-looking statements contained herein are based upon management’s beliefs and assumptions. Any forward-looking statement made herein speaks only as of the date on which it is made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.

Completed Acquisition

On March 26, 2013, the Corporation announced the signing of a definitive merger agreement to acquire FC Banc Corp. and its subsidiary, Farmers Citizens Bank, for $30.00 per share in cash and stock, or approximately $41.6 million in the aggregate. The transaction closed on October 11, 2013. Farmers Citizens Bank served the central Ohio markets of Bucyrus, Cardington, Fredericktown, Mount Hope and Shiloh, as well as the markets of Worthington and Upper Arlington in the greater Columbus, Ohio area, with 8 branch locations. The Corporation continues to operate these 8 branch locations as FCBank, a division of CNB Bank, with local decision making and oversight.

In order to facilitate its entry into the central Ohio market, the Bank opened a loan production office in Dublin, Ohio in the third quarter of 2013. In the fourth quarter of 2013, management incorporated this office into the commercial banking division of FCBank.

 

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General Overview

Management concentrates on return on average equity, earnings per share, asset quality, and other metrics to measure the performance of the Corporation. The interest rate environment will continue to play an important role in the future earnings of the Corporation. We experienced some compression of our net interest margin in 2013 as a result of the current interest rate environment. During the past several years, in order to address the historic lows on interest rates that are primarily tied to short-term rates, such as the Prime Rate, the Corporation has taken a variety of measures including instituting rate floors on our commercial lines of credit and home equity lines. In addition, the Corporation decreased interest rates on certain deposit products during 2013 and 2012 but maintained deposit growth as a result of successful marketing and business development strategies. The increase in intermediate and long-term market interest rates during 2013 did not have a significant impact on the Corporation’s earnings.

Non-interest costs are expected to increase with the growth of the Corporation; however, management’s growth strategies are expected to also result in an increase in earning assets as well as enhanced non-interest income which is expected to more than offset increases in non-interest expenses in 2014 and beyond. While past results are not an indication of future earnings, management believes the Corporation is well-positioned to sustain core earnings during 2014.

The Dodd-Frank Act, enacted into law on July 21, 2010, includes numerous provisions designed to strengthen the financial industry, enhance consumer protection, expand disclosures and provide for transparency, and significantly changed the bank regulatory structure and affected and will continue to affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies.

The Dodd-Frank Act requires various federal agencies to adopt a broad range of new rules and regulations, and to prepare various studies and reports for Congress.

It is difficult to predict at this time what specific impact certain provisions of the Dodd-Frank Act and the implementing rules and regulations will have on the Corporation. The legislation and any implementing rules may have adverse implications on the financial industry, the competitive environment, and the Corporation’s ability to conduct business. The Corporation will apply resources to ensure that it is in compliance with all applicable provisions of the Dodd-Frank Act and its many and varied implementing rules, which may increase its costs of operations and adversely impact its earnings.

Financial Condition

The following table presents ending balances, growth, and the percentage change of certain measures of our financial condition for specified years (dollars in millions):

 

    2013
Balance
    $ Change
vs. prior
year
    % Change
vs. prior
year
    2012
Balance
    $ Change
vs. prior
year
    % Change
vs. prior
year
    2011
Balance
 

Total assets

  $ 2,131.3      $ 358.2        20.2   $ 1,773.1      $ 170.9        10.7   $ 1,602.2   

Total loans, net

    1,279.1        365.4        40.0        913.8        76.5        9.1        837.3   

Total securities

    690.1        (51.7     (7.0     741.7        100.4        15.7        641.3   

Total deposits

    1,835.3        350.3        23.6        1,485.0        131.1        9.7        1,353.9   

Total shareholders’ equity

    164.9        19.5        13.4        145.4        13.5        10.2        131.9   

 

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Overview of Balance Sheet

In conjunction with its acquisition of FC Banc Corp. in the fourth quarter of 2013, the Corporation received loans with a fair value of $247.7 million and assumed deposits with a fair value of $332.0 million. Excluding the loans and deposits acquired, the Corporation’s loan growth and deposit growth were $117.7 million and $18.3 million, respectively.

During the fourth quarter of 2013, 1,873,879 shares of common stock were issued in connection with the acquisition of FC Banc Corp. The shares were valued at approximately $33.6 million based on the October 11, 2013 closing price of $17.91 per share. This increase in shareholders’ equity was offset by a decrease in accumulated other comprehensive income of $23.4 million resulting from the decline in fair value of available-for-sale securities in relation to book value. This offset was expected given the increases in intermediate and long-term interest rates that occurred in 2013.

Cash and Cash Equivalents

Cash and cash equivalents totaled $29.6 million at December 31, 2013 compared to $31.9 million at December 31, 2012. Cash and cash equivalents fluctuate based on the timing and amount of liquidity events that occur in the normal course of business. We believe the year end balance to be adequate to support our expected funding needs in the short term.

We believe the liquidity needs of the Corporation are satisfied by the current balance of cash and cash equivalents, readily available access to traditional funding sources, Federal Home Loan Bank financing, and the portion of the securities and loan portfolios that matures within one year. These sources of funds will enable the Corporation to meet cash obligations and off-balance sheet commitments as they come due.

Securities

Securities available for sale and trading securities have combined to decrease $51.7 million, or 7.0%, at December 31, 2013 when compared to December 31, 2012, as the Corporation has been able to deploy principal cash flows from the securities portfolio resulting from maturities and sales in the loan portfolio. Note 4 to the consolidated financial statements provides more detail concerning the composition of the Corporation’s securities portfolio, the process for evaluating securities for other-than-temporary impairment, and for valuation of structured pooled trust preferred securities.

The Corporation generally buys into the market over time and does not attempt to “time” its transactions. In doing this, the highs and lows of the market are averaged into the portfolio and the overall effect of different rate environments is minimized. The Corporation monitors the earnings performance and the effectiveness of the liquidity of the securities portfolio on a regular basis through meetings of the Asset/Liability Committee of the Corporation’s Board of Directors (“ALCO”). The ALCO also reviews and manages interest rate risk for the Corporation. Through active balance sheet management and analysis of the securities portfolio, we maintain a sufficient level of liquidity to satisfy depositor requirements and various credit needs of our customers.

Loans

The Corporation’s lending is focused in the west central and northwest Pennsylvania and central Ohio markets and consists principally of commercial and retail lending, which includes single family residential mortgages and other consumer loans.

 

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As detailed in the table below, at December 31, 2013, the Corporation had $1.3 billion in loans outstanding, net of unearned discount, an increase of $367.5 million since December 31, 2012. As described in the overview of the balance sheet, the Corporation acquired loans of $247.7 million from FC Banc Corp. in 2013. In addition, the Corporation had organic loan growth of $117.7 million, or 12.9% of loans outstanding at December 31, 2012. The increase was primarily the result of two factors. The first factor was increasing demand for commercial mortgage loans. The Corporation views commercial lending as its competitive advantage and continues to focus on this area by hiring and retaining experienced loan officers and supporting them with quality credit analysis. The second factor was increasing demand for residential mortgage loan products throughout 2013, resulting in both refinancing activity as well as new mortgage loans and home equity borrowings.

 

(dollars in thousands)    2013     2012  

Commercial, industrial, and agricultural

   $ 291,704      $ 257,091   

Commercial mortgages

     467,292        261,791   

Residential real estate

     471,298        347,904   

Consumer

     63,491        58,668   

Credit cards

     5,065        4,800   

Overdrafts

     409        971   

Less: unearned discount

     (3,896     (3,401
  

 

 

   

 

 

 

Total loans, net of unearned discount

   $ 1,295,363      $ 927,824   
  

 

 

   

 

 

 

In its Pennsylvania markets, the Corporation expects loan demand in 2014 to be consistent with 2013. In its Ohio markets, the Corporation expects significant growth in its commercial mortgage portfolio as a result of enhanced lending opportunities anticipated in the Columbus, Ohio metropolitan area.

Loan Concentration

The Corporation monitors loan concentrations by individual industries in order to track potential risk exposures resulting from industry related downturns. In connection with the acquisition of FC Banc Corp., the Corporation added approximately $183 million to its commercial real estate loan portfolio. At December 31, 2013, no concentration existed within our commercial or real estate loan portfolio that exceeded 10% of the total loans.

Loan Quality

The Corporation has established written lending policies and procedures that require underwriting standards, loan documentation, and credit analysis standards to be met prior to funding a loan. Subsequent to the funding of a loan, ongoing review of credits is required. Credit reviews are performed annually on approximately 65% of the commercial loan portfolio by an outsourced loan review firm. In addition, classified assets, past due loans and nonaccrual loans are reviewed by the loan review partner semiannually and monthly by our credit administration staff.

 

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Table of Contents

The following table presents information concerning loan delinquency and other non-performing assets at December 31, 2013, 2012, and 2011 (dollars in thousands):

 

     2013      2012      2011  

Non-accrual loans

   $ 11,573       $ 14,445       $ 16,567   

Accrual loans greater than 89 days past due

     344         357         441   
  

 

 

    

 

 

    

 

 

 

Total nonperforming loans

     11,917         14,802         17,008   

Other real estate owned

     986         325         505   
  

 

 

    

 

 

    

 

 

 

Total nonperforming assets

   $ 12,903       $ 15,127       $ 17,513   
  

 

 

    

 

 

    

 

 

 

Loans modified in a troubled debt restructuring (TDR):

        

Performing TDR loans

   $ 8,006       $ 9,961       $ 7,688   

Non-performing TDR loans *

     4,130         1,660         -   
  

 

 

    

 

 

    

 

 

 

Total TDR loans

   $ 12,136       $ 11,621       $ 7,688   
  

 

 

    

 

 

    

 

 

 

Total loans, net of unearned income

   $ 1,295,363       $ 927,824       $ 849,883   

Nonperforming loans as a percentage of loans, net

     0.92%         1.60%         2.00%   

Total assets

   $ 2,131,289       $ 1,773,079       $ 1,602,207   

Nonperforming assets as a percentage of total assets

     0.61%         0.85%         1.09%   

 

*

Nonperforming TDR loans are also included in the balance of non-accrual loans in the previous table.

Management continues to closely monitor nonperforming loans, and the Corporation’s nonperforming loans to total loans ratio continues to be favorable compared to peer institutions. See the “Allowance for Loan Losses” section for further discussion of credit review procedures and changes in nonperforming loans.

Allowance for Loan Losses

The allowance for loan losses is established by provisions for losses in the loan portfolio as well as overdrafts in deposit accounts. These provisions are charged against current income. Loans and overdrafts deemed not collectible are charged off against the allowance while any subsequent collections are recorded as recoveries and increase the allowance.

 

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The following table presents activity within the allowance for loan losses during the years ended December 31, 2013, 2012, and 2011 (dollars in thousands):

 

     2013     2012     2011  

Balance at beginning of period

   $ 14,060      $ 12,615      $ 10,820   
  

 

 

   

 

 

   

 

 

 

Charge-offs:

      

Commercial, industrial, and agricultural

     (958     (2,871     (1,796

Commercial mortgages

     (1,931     (401     (175

Residential real estate

     (467     (304     (217

Consumer

     (1,919     (1,279     (907

Credit cards

     (97     (78     (39

Overdrafts

     (258     (257     (222
  

 

 

   

 

 

   

 

 

 
     (5,630     (5,190     (3,356
  

 

 

   

 

 

   

 

 

 

Recoveries:

      

Commercial, industrial, and agricultural

     7        45        9   

Commercial mortgages

     1,430        -        -   

Residential real estate

     5        1        13   

Consumer

     114        91        88   

Credit cards

     16        18        10   

Overdrafts

     94        99        94   
  

 

 

   

 

 

   

 

 

 
     1,666        254        214   
  

 

 

   

 

 

   

 

 

 

Net charge-offs

     (3,964     (4,936     (3,142
  

 

 

   

 

 

   

 

 

 

Provision for loan losses

     6,138        6,381        4,937   
  

 

 

   

 

 

   

 

 

 

Balance at end of period

   $ 16,234      $ 14,060      $ 12,615   
  

 

 

   

 

 

   

 

 

 

Loans, net of unearned income

   $ 1,295,363      $ 927,824      $ 849,883   

Allowance to net loans

     1.25%        1.52%        1.48%   

At December 31, 2013, the ratio of the allowance for loan losses to loans was 1.25%, compared to 1.52% at December 31, 2012 and 1.48% at December 31, 2011. In connection with its acquisition of FC Banc Corp. in the fourth quarter of 2013, CNB recorded a fair value adjustment on the acquired loan portfolio of $8.7 million and there was no carryover of the allowance for loan losses that was previously recorded by FC, resulting in the decrease in the ratio of the allowance for loan losses to total loans.

The adequacy of the allowance for loan losses is subject to a formal analysis by the credit administrator of the Corporation. As part of the formal analysis, delinquencies and losses are monitored monthly. The loan portfolio is divided into several categories in order to better analyze the entire pool. First, impaired loans are selected and that group of loans is given a specific reserve. The remaining loans are pooled, by category, into these segments:

Reviewed

   

Commercial, industrial, and agricultural

   

Commercial mortgages

Homogeneous

   

Residential real estate

   

Consumer

 

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Credit cards

   

Overdrafts

The reviewed loan pools are further segregated into three categories: special mention, substandard, and doubtful. Historical loss factors are calculated for each reviewed pool, excluding overdrafts, based on the previous eight quarters of experience. The homogeneous pools are evaluated by analyzing the historical loss factors from the most previous quarter end and the two most recent year ends.

The historical loss factors for both the reviewed and homogeneous pools are adjusted based on these six qualitative factors:

 

   

levels of and trends in delinquencies, non-accrual loans, and classified loans;

   

trends in volume and terms of loans;

   

effects of any changes in lending policies and procedures;

   

experience, ability and depth of management;

   

national and local economic trends and conditions; and

   

concentrations of credit.

The methodology described above was created using the experience of our credit administrator, guidance from the regulatory agencies, expertise of our third party loan review provider, and discussions with our peers. The resulting factors are applied to the pool balances in order to estimate the probable risk of loss within each pool.

As a result of the application of these procedures, the allocation of the allowance for loan losses was as follows at December 31, 2013, 2012 and 2011 (in thousands):

 

     2013      2012      2011  

Commercial, industrial and agricultural

   $ 6,279       $ 4,940       $ 4,511   

Commercial mortgages

     5,469         4,697         4,470   

Residential real estate

     2,880         2,466         1,991   

Consumer

     1,333         1,699         1,404   

Credit cards

     66         83         71   

Overdrafts

     207         175         168   
  

 

 

    

 

 

    

 

 

 

Total

   $ 16,234       $ 14,060       $ 12,615   
  

 

 

    

 

 

    

 

 

 

Throughout 2013, the Corporation evaluated its provision and allowance for loan losses in light of changes in reserves required for impaired loans, changes in nonperforming loans, and growth in loans outstanding. Note 5 to the consolidated financial statements provides further disclosure of loan balances by portfolio segment as of December 31, 2013 and 2012, as well as the nature and scope of loans modified in a troubled debt restructuring during 2013 and 2012 and the related effect on the provision and allowance for loan losses.

In 2013, an impaired commercial real estate loan was placed on nonaccrual status, resulting in an increase in nonperforming assets of $2.9 million. No loan loss reserve was required for this loan as of December 31, 2012. However, due to a rapid deterioration in the loan collateral value, the Corporation recorded an increase in the provision for loan losses of $1.1 million and concurrently charged off

 

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$822 thousand of the loan balance. The customer repaid the remaining balance of $2.0 million prior to December 31, 2013. An impaired commercial real estate loan to a related borrower with a carrying value of $1.7 million as of December 31, 2012 was also repaid in 2013, resulting in a chargeoff of $974 and an additional provision for loan losses of $258 thousand. A commercial mortgage loan to a related borrower with a carrying value of $3.3 million defaulted in 2013 and was subsequently modified in a troubled debt restructuring, which will result in the Corporation receiving reduced monthly payments that will be applied entirely to the loan’s principal balance. The Corporation also obtained an updated appraisal for the loan collateral and, as a result, recorded a provision for loan losses of $514 thousand during the year ended December 31, 2013.

A commercial mortgage loan with a balance of $1.1 million that was modified in a troubled debt restructuring prior to 2013 defaulted under its modified terms in 2013, resulting in an increase in the provision for loan losses of $555 thousand.

An impaired commercial and industrial loan with a carrying value of $1.6 million as of December 31, 2012 deteriorated further in 2013, resulting in a chargeoff of $649 thousand and an additional provision for loan losses of $175 thousand.

Unsecured consumer loans to two related borrowers totaling $498 thousand were charged off in the fourth quarter of 2013. An associated loan loss provision of $498 thousand was recorded in the fourth quarter.

The Corporation recorded a loan loss recovery of $1.4 million in the third quarter of 2013 related to an impaired commercial mortgage loan that had been partially charged off prior to January 1, 2013. At the recovery date, the carrying amount of the loan was $5.2 million, which was satisfied in full by the Corporation’s participation in the issuance of a loan at market terms to a new borrower that purchased the property securing the loan.

Finally, the effect of increases in net chargeoffs in 2013 and 2012, as compared to net chargeoffs in 2011, as disclosed in the Summary of Loan Loss Experience table in Item 1, as well as the increase in the Corporation’s loan portfolio in 2013, had a significant impact on the loan loss reserves required for homogeneous loan pools during the year ended December 31, 2013. As disclosed in Note 5 to the consolidated financial statements, the allowance for loan loss balance attributable to loans collectively evaluated for impairment increased from $12.2 million at December 31, 2012 to $14.4 million at December 31, 2013.

Prudent business practices dictate that the level of the allowance, as well as corresponding charges to the provision for loan losses, should be commensurate with identified areas of risk within the loan portfolio and the attendant risks inherent therein. The quality of the credit risk management function and the overall administration of this vital segment of the Corporation’s assets are critical to the ongoing success of the Corporation.

The previously mentioned analysis considered numerous historical and other factors to analyze the adequacy of the allowance and charges against the provision for loan losses. Management paid special attention to a section of the analysis that compared and plotted the actual level of the allowance against the aggregate amount of loans adversely classified in order to compute the estimated probable losses associated with those loans. By noting the “spread” at that time, as well as prior periods, management can evaluate the current adequacy of the allowance as well as evaluate trends that may be developing.

 

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The volume and composition of the Corporation’s loan portfolio continue to reflect growth in commercial credits including commercial real estate loans.

As mentioned in the “Loans” section of this analysis, management considers commercial lending a competitive advantage and continues to focus on this area as part of its strategic growth initiatives. However, management must also consider the fact that the inherent risk is more pronounced in these types of credits and is also driven by the economic environment of its market areas.

Management believes that both its 2013 provision and allowance for loan losses were reasonable and adequate to absorb probable incurred losses in its portfolio at December 31, 2013.

Bank Owned Life Insurance

The Corporation has periodically purchased Bank Owned Life Insurance (“BOLI”). The policies cover executive officers and a select group of other employees with the Bank being named as beneficiary. Earnings from the BOLI assist the Corporation in offsetting its benefit costs. During the second quarter of 2013, additional BOLI of $2.0 million was purchased. In addition, BOLI with a fair value of $4.0 million was acquired from FC Banc Corp. Proceeds from BOLI death benefits were $1.3 million during the year ended December 31, 2013.

Funding Sources

Although the Corporation considers short-term borrowings and long-term debt when evaluating funding sources, traditional deposits continue to be the main source for funding. As noted in the following table, traditional deposits increased 23.6% during 2013.

 

    

Percentage change

2013 vs. 2012

   

Percentage change

2012 vs. 2011

   

2013

   

2012

   

2011

 

Demand, Non interest bearing

     26.3     14.7   $ 221,293      $ 175,239      $ 152,732   

Demand, Interest bearing

     33.6     10.1     450,216        336,911        305,960   

Savings deposits

     18.2     21.2     898,043        759,910        627,106   

Time deposits

     24.8     (20.6 %)      265,762        212,943        268,053   
      

 

 

   

 

 

   

 

 

 

Total

     23.6     9.7   $ 1,835,314      $ 1,485,003      $ 1,353,851   
      

 

 

   

 

 

   

 

 

 

The growth in deposits of $350.3 million was primarily attributable to the fair value of deposits acquired from FC Banc Corp. of $332.0 million.

Periodically, the Corporation utilizes term borrowings from the Federal Home Loan Bank (FHLB) and other lenders to meet funding obligations or match fund certain loan assets. The terms of these borrowings are detailed in Note 11 to the consolidated financial statements.

Shareholders’ Equity and Capital Ratios and Metrics

The Corporation’s capital continues to provide a base for profitable growth. In 2013, the Corporation earned $16.7 million and declared dividends of $8.6 million, resulting in a dividend payout ratio of 51.4% of net income. During the fourth quarter of 2013, 1,873,879 shares of common stock were issued in connection with the acquisition of FC Banc Corp. The shares were valued at $33.6 million based on the October 11, 2013 closing price of $17.91 per share.

 

 

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The Corporation has complied with the standards of capital adequacy mandated by government regulations. Bank regulators have established “risk-based” capital requirements designed to measure capital adequacy. Risk-based capital ratios reflect the relative risks of various assets banks hold in their portfolios. A weight category of 0% (lowest risk assets), 20%, 50%, or 100% (highest risk assets), is assigned to each asset on the balance sheet. The Corporation’s capital ratios and book value per common share at December 31, 2013 and 2012 are as follows:

 

     2013     2012  

Total risk-based capital ratio

     13.72     15.28

Tier 1 capital ratio

     12.51     14.03

Leverage ratio

     7.96     8.06

Tangible common equity/tangible assets (1)

     6.34     7.63

Book value per share

   $ 11.43      $ 11.65   

Tangible book value per share (1)

   $ 9.23        10.77   

 

(1)

Tangible common equity, tangible assets and tangible book value per share are non-GAAP financial measures calculated using GAAP amounts. Tangible common equity is calculated by excluding the balance of goodwill and other intangible assets from the calculation of stockholders’ equity. Tangible assets is calculated by excluding the balance of goodwill and other intangible assets from the calculation of total assets. Tangible book value per share is calculated by dividing tangible common equity by the number of shares outstanding. The Corporation believes that these non-GAAP financial measures provide information to investors that is useful in understanding its financial condition. Because not all companies use the same calculation of tangible common equity and tangible assets, this presentation may not be comparable to other similarly titled measures calculated by other companies. A reconciliation of these non-GAAP financial measures is provided below (dollars in thousands, except per share data).

 

     December 31,
2013
     December 31,
2012
 

Shareholders’ equity

   $ 164,911       $ 145,364   

Less goodwill

     27,194         10,946   

Less core deposit intangible

     4,583         -   
  

 

 

    

 

 

 

Tangible common equity

   $ 133,134       $ 134,418   
  

 

 

    

 

 

 

Total assets

   $ 2,131,289       $ 1,773,079   

Less goodwill

     27,194         10,946   

Less core deposit intangible

     4,583         -   
  

 

 

    

 

 

 

Tangible assets

   $ 2,099,512       $ 1,762,133   
  

 

 

    

 

 

 

Ending shares outstanding

     14,427,780         12,475,904   

Tangible book value per share

   $ 9.23       $ 10.77   

Tangible common equity/tangible assets

     6.34%         7.63%   

The decrease in tangible common equity/tangible assets, book value per share, and tangible book value per share from December 31, 2012 to December 31, 2013 is primarily attributable to the significant decline in the fair value of the Corporation’s available-for-sale investment securities in relation to book value. This decline in fair value of available-for-sale securities was expected given the increases in intermediate and long-term interest rates that occurred in the second and third quarters of 2013.

 

 

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The decrease in the Tier 1 and Total risk-based regulatory capital ratios from December 31, 2012 to December 31, 2013 resulted from CNB’s addition of a significant portfolio of commercial real estate loans in the fourth quarter of 2013 in conjunction with its acquisition of FC Banc Corp.

Liquidity

Liquidity measures an organization’s ability to meet its cash obligations as they come due. The consolidated statements of cash flows included in the accompanying financial statements provide analysis of the Corporation’s cash and cash equivalents and the sources and uses of cash. Additionally, the portion of the loan portfolio that matures within one year and securities with maturities within one year in the investment portfolio are considered part of the Corporation’s liquid assets. Liquidity is monitored by both management and the Board’s ALCO, which establishes and monitors ranges of acceptable liquidity. Also, the Bank is a member of FHLB which provides the Bank with a total borrowing line of approximately $414 million with approximately $349 million available at December 31, 2013. Management believes that the Corporation’s current liquidity position is acceptable.

Year Ended December 31, 2013 vs. Year Ended December 31, 2012

Overview of the Income Statement

The Corporation had net income of $16.7 million for 2013 compared to $17.1 million for 2012. Net interest income increased $6.0 million, or 11.3%, and non-interest income increased $1.1 million, or 8.7%. The provision for loan losses decreased by $243 thousand, or 3.8%, and non-interest expenses increased by $7.9 million, or 21.9%. The earnings per diluted share were $1.29 in 2013 and $1.38 in 2012. The return on assets and the return on equity for 2013 are 0.88% and 11.38% as compared to 1.00% and 12.17% for 2012. Non-interest expenses for the year ended December 31, 2013 include $2.4 million associated with merger related expenses. As described in Note 2 to the consolidated financial statements, FC Banc Corp. results of operations were included in the Corporation’s results beginning October 12, 2013.

Interest Income and Expense

Net interest margin on a fully tax equivalent basis was 3.46% for the year ended December 31, 2013, compared to 3.49% for the year ended December 31, 2012. Total interest and dividend income increased by $3.3 million, or 4.8%, as compared to 2012. Although the Corporation’s earning assets continue to grow, these increases have been offset by decreases in the yield on earning assets as a result of the current interest rate environment. The Corporation’s average earning assets increased by $175.4 million for the year ended December 31, 2013 while the yield during that time decreased by 28 basis points from 4.42% to 4.14%. Total interest expense decreased $2.7 million, or 18.2%, for the year ended December 31, 2013 as compared to the comparable period in 2012 as a result of the Corporation’s focus on deposit mix and active management of deposit rates. The cost of interest bearing deposits decreased by 29 basis points, which offset the increase in average interest bearing deposits of $146.4 million.

 

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Provision for Loan Losses

The Corporation recorded a provision for loan losses of $6.1 million in 2013 compared to $6.4 million in 2012. Net loan charge-offs were $4.0 million during the year ended December 31, 2013 compared to $4.9 million during the year ended December 31, 2012. As disclosed in the Allowance for Loan Losses section of Management’s Discussion and Analysis, the Corporation recorded the provision for loan losses based on management’s evaluation of impaired loans and also recorded a significant loan loss recovery for a commercial mortgage loan.

Management believes the charges to the provision in 2013 are appropriate and the allowance for loan losses is adequate to absorb probable incurred losses in our portfolio as of December 31, 2013.

Non-Interest Income

Non-interest income was $13.8 million for the year ended December 31, 2013, compared to $12.7 million for the year ended December 31, 2012. Net realized gains on available-for-sale securities were $355 thousand during the year ended December 31, 2013, compared to $1.4 million during the year ended December 31, 2012. Net realized and unrealized gains on trading securities were $728 thousand and $564 thousand during the years ended December 31, 2013 and 2012, respectively.

During the year ended December 31, 2013, the Corporation recorded $1.6 million in income from bank owned life insurance policies, including $576 thousand representing the excess of the face value of certain policies over their cash surrender values resulting from the maturity of the policies.

Wealth and asset management fees increased from $1.8 million during the year ended December 31, 2012 to $2.4 million during the year ended December 31, 2013 due to increases in assets under management resulting from the Corporation’s strategic focus to grow its Wealth and Asset Management Division.

Non-Interest Expense

Total non-interest expenses increased $7.9 million, or 21.9%, during the year ended December 31, 2013 compared to the year ended December 31, 2012. Merger costs associated with the Corporation’s acquisition of FC Banc Corp. were expensed as incurred and totaled $2.4 million during the year ended December 31, 2013. Salaries and benefits expenses increased $2.8 million, or 14.9%, during the year ended December 31, 2013 compared to the year ended December 31, 2012, in part due to routine merit increases, an increase in average full-time equivalent employees, and increases in certain employee benefit expenses, such as health insurance costs, which continue to increase in line with market conditions. Net occupancy expenses increased $855 thousand, or 18.4%, during year ended December 31, 2013 compared to the year ended December 31, 2012, as a result of anticipated increases in repair, maintenance, and utility expenses, as well as increases in depreciation expense for recently completed projects and asset purchases.

Year Ended December 31, 2012 vs. Year Ended December 31, 2011

Overview of the Income Statement

The Corporation had net income of $17.1 million for 2012 compared to $15.1 million for 2011. The increase in net income is attributable to an increase in net interest income of $5.1 million, or 10.5%, as

 

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well as an increase in non-interest income of $1.8 million, or 17.2%. The provision for loan losses increased by $1.4 million, or 29.2%, and non-interest expenses increased by $2.7 million, or 8.0%, from 2012 to 2011. The earnings per diluted share increased from $1.23 in 2011 to $1.38 in 2012. The return on assets and the return on equity for 2012 are 1.00% and 12.17% as compared to 1.00% and 12.36% for 2011.

Interest Income and Expense

Net interest margin on a fully tax equivalent basis was 3.49% for the year ended December 31, 2012, compared to 3.59% for the year ended December 31, 2011. Total interest and dividend income increased by $2.4 million, or 3.7%, as compared to 2011. Although the Corporation’s earning assets continue to grow, these increases have been offset by decreases in the yield on earning assets as a result of the current interest rate environment. The Corporation’s average earning assets increased by $209.6 million for the year ended December 31, 2012 while the yield during that time decreased by 42 basis points from 4.84% to 4.42%. Total interest expense decreased $2.7 million, or 15.1%, for the year ended December 31, 2012 as compared to the comparable period in 2011 as a result of the Corporation’s focus on deposit mix and active management of deposit rates. The cost of interest bearing deposits decreased by 37 basis points, which offset the increase in average interest bearing deposits of $162.8 million.

Provision for Loan Losses

The Corporation recorded a provision for loan losses of $6.4 million in 2012 compared to $4.9 million in 2011. Net loan chargeoffs were $4.9 million during the year ended December 31, 2012 compared to $3.1 million during the year ended December 31, 2011. As disclosed in the Allowance for Loan Losses section of Management’s Discussion and Analysis, the Corporation increased the provision for loan losses as a result of management’s evaluation of impaired loans as well as an evaluation of general reserves required for loans that are not impaired.

Management believes the charges to the provision in 2012 are appropriate and the allowance for loan losses is adequate to absorb probable incurred losses in our portfolio as of December 31, 2012.

Non-Interest Income

Excluding the effects of the securities transactions described below, non-interest income was $10.7 million for the year ended December 31, 2012, compared to $10.4 million for the year ended December 31, 2011. Net realized gains on available-for-sale securities were $1.4 million during the year ended December 31, 2012, compared to $614 thousand during the year ended December 31, 2011. Net realized and unrealized gains on securities for which fair value was elected were $461 thousand and $64 thousand during the years ended December 31, 2012 and 2011, respectively. An other-than-temporary impairment charge of $398 thousand was recorded in earnings on structured pooled trust preferred securities during the year ended December 31, 2011.

Non-Interest Expense

Total non-interest expenses increased $2.7 million, or 8.0%, during the year ended December 31, 2012 compared to the year ended December 31, 2011. Salaries and employee benefit expenses combined to increase $1.6 million, or 9.3%, during the year ended December 31, 2012 compared to the year ended

 

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December 31, 2011, in part due to routine merit increases, an increase in full-time equivalent employees from 300 at December 31, 2011 to 323 at December 31, 2012, and increases in certain employee benefit expenses, such as health insurance costs, which continue to increase in line with market conditions. The remaining non-interest expenses increased $1.1 million, or 6.6%, as a result of CNB’s continued growth.

Total non-interest expenses on an annualized basis in relation to CNB’s average asset size declined from 2.20% for the year ended December 31, 2011 to 2.10% for the year ended December 31, 2012.

Income Tax Expense

Income taxes were $6.3 million in 2013, compared to $6.4 million in 2012 and $5.5 million in 2011. The effective tax rates were 27.5%, 27.2%, and 26.8% for 2013, 2012 and 2011, respectively. The effective tax rate for the periods differed from the federal statutory rate of 35.0% principally as a result of tax-exempt income from securities and loans as well as earnings from bank owned life insurance.

Contractual Obligations and Commitments

The Corporation has various financial obligations, including contractual obligations and commitments that may require future cash payments. The following table presents, as of December 31, 2013, significant fixed and determinable contractual obligations to third parties by payment date. Further discussion of the nature of each obligation is included in the referenced note to the consolidated financial statements.

 

     Payments Due In  
(dollars in thousands)    Note
Reference
     One
Year or
Less
     One to
Three Years
     Three to
Five Years
     Over Five
Years
     Total  

Deposits without a stated maturity

      $ 1,569,552         0         0         0       $ 1,569,552   

Certificates of deposit

     10         122,126         83,980         47,651         12,005         265,762   

FHLB and other borrowings

     11         13,159         20,445         50,483         3,863         87,950   

Operating leases

     7         626         1,183         612         1,168         3,589   

Sale-leaseback

     7         112         224         224         893         1,453   

Subordinated debentures

     11         0         0         0         20,620         20,620   

The Corporation’s operating lease obligations represent short and long-term lease and rental payment for facilities. The Corporation’s sale-leaseback obligation represents a long-term real estate lease associated with one of the Corporation’s branch office locations.

The Corporation also has obligations under its postretirement plan for health care and supplemental executive retirement plan as described in Note 14 to the consolidated financial statements. The postretirement benefit payments represent actuarially determined future benefit payments to eligible plan participants. The supplemental executive retirement plan allocates expenses over the participant’s service period. The Corporation reserves the right to terminate these plans at any time.

Off-Balance Sheet Arrangements

See Note 19 to the consolidated financial statements for information about our off-balance sheet arrangements.

 

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Applications of Critical Accounting Policies

The Corporation’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the U.S. and follow general practices within the industries in which the Corporation operates. Application of these principles requires management to make estimates or judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates or judgments. Certain policies inherently have a greater reliance on the use of estimates, and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates or judgments are necessary when assets and liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants an impairment write-down or valuation reserve to be established, or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets and liabilities are based either on quoted market prices or are provided by other third party sources, when available. When third-party information is not available, valuation adjustments are estimated in good faith by management primarily through the use of internal cash flow modeling techniques.

The most significant accounting policies used by the Corporation are presented in Note 1 to the consolidated financial statements. These policies, along with the disclosures presented in the other financial statement notes and in this financial review, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Management views critical accounting policies to be those which are highly dependent on subjective or complex judgments, estimates and assumptions, and where changes in those estimates and assumptions could have a significant impact on the financial statements.

A material estimate that is susceptible to significant change is the determination of the allowance for loan losses. The Corporation’s methodology for determining the allowance for loan losses is described previously in Management’s Discussion and Analysis. Given the subjective nature of identifying and valuing loan losses, it is likely that well-informed individuals could make materially different assumptions and could therefore calculate a materially different allowance value. While management uses available information to recognize losses on loans, changes in economic conditions may necessitate revisions in future years. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses. Such agencies may require the Corporation to recognize adjustments to the allowance based on their judgments of information available to them at the time of their examination.

Another material estimate is the calculation of fair values of the Corporation’s debt securities. For most of the Corporation’s debt securities, the Corporation receives estimated fair values from an independent valuation service or from brokers. In developing fair values, the valuation service and the brokers use estimates of cash flows, based on historical performance of similar instruments in similar interest rate environments. Based on experience, management is aware that estimated fair values of debt securities tend to vary among brokers and other valuation services.

Finally, the fair value of assets acquired and liabilities assumed in connection with the acquisition of FC Banc Corp., including the associated goodwill that was recorded, required the use of material estimates. Specifically, the fair values of loans, the core deposit intangible asset, premises and equipment, and time

 

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deposits were susceptible to estimation and management’s judgment about real estate and equipment values, as well as the amount and timing of future cash flows associated with loans and deposits.

ITEM 7A  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a financial institution, the Corporation’s primary source of market risk is interest rate risk, which is the exposure to fluctuations in the Corporation’s future earnings resulting from changes in interest rates. This exposure is correlated to the repricing characteristics of the Corporation’s portfolio of assets and liabilities. Each asset or liability reprices either at maturity or during the life of the instrument.

The principal purpose of asset/liability management is to maximize current and future net interest income within acceptable levels of interest rate risk while satisfying liquidity and capital requirements. Net interest income is enhanced by increasing the net interest margin and by the growth in earning assets. As a result, the primary goal of interest rate risk management is to maintain a balance between risk and reward such that net interest income is maximized while risk is maintained at an acceptable level.

The Corporation uses an asset-liability management model to measure the effect of interest rate changes on its net interest income. The Corporation’s management also reviews asset-liability maturity gap and repricing analyses regularly. The Corporation does not always attempt to achieve a precise match between interest sensitive assets and liabilities because it believes that an actively managed amount of interest rate risk is inherent and appropriate in the management of the Corporation’s profitability.

Asset-liability modeling techniques and simulation involve assumptions and estimates that inherently cannot be measured with precision. Key assumptions in these analyses include maturity and repricing characteristics of assets and liabilities, prepayments on amortizing assets, non-maturing deposit sensitivity, and loan and deposit pricing. These assumptions are inherently uncertain due to the timing, magnitude, and frequency of rate changes and changes in market conditions and management strategies, among other factors. However, the analyses are useful in quantifying risk and provide a relative gauge of the Corporation’s interest rate risk position over time.

Management reviews interest rate risk on a quarterly basis and reports to the ALCO. This review includes earnings shock scenarios whereby interest rates are immediately increased and decreased by 100, 300, and 400 basis points. These scenarios, detailed in the table below, indicate that there would not be a significant variance in net interest income over a one-year period due to interest rate changes; however, actual results could vary significantly. At December 31, 2013 and 2012, all interest rate risk levels according to the model were within the tolerance limits of ALCO approved policy. In addition, the table does not take into consideration changes that management would make to realign its assets and liabilities in the event of an unexpected changing interest rate environment. Due to the historically low interest rate environment, the -300 and -400 scenarios have been excluded from the table.

 

December 31, 2013

   

December 31, 2012

 

Change in

Basis Points

   % Change in Net
Interest Income
    Change in
Basis  Points
    % Change in Net
Interest Income
 

400

     -6.2     400        -0.5

300

     -3.8     300        -0.8

100

     -0.1     100        2.3

(100)

     -3.7     (100     -4.0

 

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

CONSOLIDATED BALANCE SHEETS

Dollars in thousands, except share data

 

 

 
    

December 31,

 
      2013     2012  

ASSETS

  

Cash and due from banks

   $ 25,769      $ 28,570   

Interest bearing deposits with other banks

     3,864        3,311   
  

 

 

   

 

 

 

Total cash and cash equivalents

     29,633        31,881   

Interest bearing time deposits with other banks

     275        225   

Securities available for sale

     685,991        737,311   

Trading securities

     4,127        4,459   

Loans held for sale

     487        2,398   

Loans

     1,299,259        931,225   

Less: unearned discount

     (3,896     (3,401

Less: allowance for loan losses

     (16,234     (14,060
  

 

 

   

 

 

 

Net loans

     1,279,129        913,764   

FHLB and other equity interests

     7,533        6,684   

Premises and equipment, net

     31,589        24,072   

Bank owned life insurance

     33,804        27,645   

Mortgage servicing rights

     904        714   

Goodwill

     27,194        10,946   

Core deposit intangible

     4,583        -   

Accrued interest receivable and other assets

     26,040        12,980   
  

 

 

   

 

 

 

Total Assets

   $ 2,131,289      $ 1,773,079   
  

 

 

   

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

  

Non-interest bearing deposits

   $ 221,293      $ 175,239   

Interest bearing deposits

     1,614,021        1,309,764   
  

 

 

   

 

 

 

Total deposits

     1,835,314        1,485,003   

FHLB and other long-term borrowings

     75,000        74,296   

Other short-term borrowings

     12,950        23,510   

Subordinated debentures

     20,620        20,620   

Accrued interest payable and other liabilities

     22,494        24,286   
  

 

 

   

 

 

 

Total liabilities

     1,966,378        1,627,715   
  

 

 

   

 

 

 

Common stock, $0 par value; authorized 50,000,000 shares; issued 14,473,482 shares at December 31, 2013 and 12,599,603 shares at December 31, 2012

     0        0   

Additional paid in capital

     77,923        44,223   

Retained earnings

     97,066        88,960   

Treasury stock, at cost (45,702 shares for 2013 and 123,699 for 2012)

     (633     (1,743

Accumulated other comprehensive income (loss)

     (9,445     13,924   
  

 

 

   

 

 

 

Total shareholders’ equity

     164,911        145,364   
  

 

 

   

 

 

 

Total Liabilities and Shareholders’ Equity

   $ 2,131,289      $ 1,773,079   
  

 

 

   

 

 

 

 

 

See Notes to Consolidated Financial Statements

 

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Table of Contents

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

Dollars in thousands, except per share data

 

 

 
    

Year ended December 31,

 
      2013     2012     2011  

Interest and Dividend Income:

      

Loans including fees

   $ 53,927      $ 49,760      $ 48,324   

Securities:

      

Taxable

     13,456        14,688        14,395   

Tax-exempt

     3,828        3,595        2,957   

Dividends

     205        86        36   
  

 

 

   

 

 

   

 

 

 

Total interest and dividend income

     71,416        68,129        65,712   
  

 

 

   

 

 

   

 

 

 

Interest Expense:

      

Deposits

     7,995        10,875        13,625   

Borrowed funds

     3,447        3,245        3,176   

Subordinated debentures (includes $400, $390, and $402 accumulated other comprehensive income reclassification for change in fair value of interest rate swap agreements in 2013, 2012, and 2011)

     770        800        778   
  

 

 

   

 

 

   

 

 

 

Total interest expense

     12,212        14,920        17,579   
  

 

 

   

 

 

   

 

 

 

Net Interest Income

     59,204        53,209        48,133   

Provision for Loan Losses

     6,138        6,381        4,937   
  

 

 

   

 

 

   

 

 

 

Net Interest Income After Provision for Loan Losses

     53,066        46,828        43,196   
  

 

 

   

 

 

   

 

 

 

Non-Interest Income:

      

Wealth and asset management fees

     2,426        1,819        1,691   

Service charges on deposit accounts

     4,272        4,106        4,233   

Other service charges and fees

     2,179        1,868        1,626   

Net realized gains on trading securities

     579        298        30   

Net unrealized gains on trading securities

     149        266        34   

Mortgage banking

     940        990        735   

Bank owned life insurance

     1,552        973        930   

Other

     1,314        965        1,224   
  

 

 

   

 

 

   

 

 

 
     13,411        11,285        10,503   
  

 

 

   

 

 

   

 

 

 

Total other-than-temporary impairment losses on available-for-sale securities

     0        0        (398

Less portion of loss recognized in other comprehensive income

     0        0        0   
  

 

 

   

 

 

   

 

 

 
      

Net impairment losses recognized in earnings

     0        0        (398

Net realized gains on available-for-sale securities (includes $355, $1,379, and $614 accumulated other comprehensive income reclassifications for net realized gains on available-for-sale securities in 2013, 2012, and 2011)

     355        1,379        614   
  

 

 

   

 

 

   

 

 

 

Net impairment losses recognized in earnings and realized gains on available-for-sale securities

     355        1,379        216   
  

 

 

   

 

 

   

 

 

 

Total non-interest income

     13,766        12,664        10,719   
  

 

 

   

 

 

   

 

 

 

Non-Interest Expenses:

      

Salaries

     15,467        13,106        12,349   

Employee benefits