SECURITIES AND EXCHANGE COMMISSION Washington, D.C. FORM 10-Q [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarter Ended September 30, 1995 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number: 0-12507 ARROW FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) New York 22-2448962 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification Number) 250 GLEN STREET, GLENS FALLS, NEW YORK 12801 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (518) 745-1000 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 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding as of October 31, 1995 Common Stock, 5,624,282 par value $1.00 per share PAGE 1
<TABLE> <CAPTION> ARROW FINANCIAL CORPORATION FORM 10-Q SEPTEMBER 30, 1995 INDEX PART I FINANCIAL INFORMATION Page No. <S> <C> Consolidated Balance Sheets as of September 30, 1995 and December 31, 1994 3 Consolidated Statements of Income for the Three Month and Nine Month Periods Ended September 30, 1995 and 1994 4 Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 1995 and 1994 5 Notes to Consolidated Financial Statements 6 Management's Discussion and Analysis of Financial Condition and Results of Operations 7 OTHER INFORMATION 18 SIGATURES 18 EXHIBITS 19 </TABLE> PAGE 2
PART I - FINANCIAL INFORMATION <TABLE> <CAPTION> ARROW FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (Dollars in Thousands)(Unaudited) Sep 30, Dec 31, 1995 1994 ASSETS <S> <C> <C> Cash and Due From Banks $ 23,302 $ 26,624 Securities Held to Maturity: (Approximate Fair Value of $131,685 in 1995 and $123,519 in 1994) U.S. Treasury and Other U.S. Government Agencies and Corporations 109,786 113,191 State and Municipal Obligations 13,655 10,409 Other Securities 7,026 6,135 Total Securities Held to Maturity 130,467 129,735 Federal Funds Sold and Securities Purchased Under Agreements to Resell 47,400 8,000 Securities Available for Sale (At Fair Value) 65,323 53,868 Loans and Leases, Net of Unearned Income 515,935 507,553 Less: Allowance for Loan Losses (12,379) (12,338) Net Loans and Leases 503,556 495,215 Premises and Equipment 14,041 14,590 Other Real Estate Owned 2,702 3,396 Other Assets 15,489 15,003 Total Assets $802,280 $746,431 LIABILITIES Deposits: Demand $ 94,832 $ 93,075 Regular Savings, N.O.W. and Money Market Deposit Accounts 351,155 359,143 Time Certificates of $100,000 or More 68,442 36,171 Other Time Deposits 189,981 162,096 Total Deposits 704,410 650,485 Short-Term Borrowings: Federal Funds Purchased and Securities Sold Under Agreements to Repurchase 12,543 21,162 Other Short-Term Borrowings 8,100 3,703 Other Liabilities 11,294 7,669 Long-Term Debt 220 5,007 Total Liabilities 736,567 688,026 SHAREHOLDERS' EQUITY Preferred Stock, $5 Par Value; 1,000,000 Shares Authorized --- --- Common Stock, $1 Par Value; 20,000,000 Shares Authorized (5,979,124 Shares Issued in 1995 and 5,725,765 Shares Issued in 1994) 5,979 5,726 Surplus 40,847 36,102 Undivided Profits 22,580 19,149 Valuation Allowance for Securities Available for Sale 446 (673) Reserve for Unearned ESOP Shares (56,929 Shares in 1995 and None in 1994) (924) --- Treasury Stock at Cost (261,253 Share s in 1995 and 221,109 Shares in 1994) (3,215) (1,899) Total Shareholders' Equity 65,713 58,405 Total Liabilities and Shareholders' Equity $802,280 $746,431 </TABLE> PAGE 3
<TABLE> <CAPTION> ARROW FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Dollars in Thousands, Except Per Share Amounts)(Unaudited) Three Months Ended Nine Months Ended September 30, September 30, 1995 1994 1995 1994 INTEREST INCOME <S> <C> <C> <C> <C> Interest and Fees on Loans and Leases $12,043 $10,780 $35,617 $31,258 Interest and Dividends on Securities Held to Maturity: U.S. Treasury and Other U.S. Government Agencies and Corporations 1,599 1,471 4,838 4,599 State and Municipal Obligations 189 81 550 229 Other Securities 129 55 374 91 Interest on Federal Funds Sold and Securities Purchased Under Agreements to Resell 512 165 767 402 Interest and Dividends on Securities Available for Sale 961 751 2,726 2,122 Total Interest Income 15,433 13,303 44,872 38,701 INTEREST EXPENSE Interest on Deposits: Time Certificates of $100,000 or More 1,036 357 2,743 720 Other Deposits 5,229 3,960 14,698 12,083 Interest on Short-Term Borrowings: Federal Funds Purchased and Securities Sold Under Agreements to Repurchase 144 66 448 151 Other Short-Term Borrowings 71 22 170 79 Interest on Long-Term Debt 24 111 229 335 Total Interest Expense 6,504 4,516 18,288 13,368 NET INTEREST INCOME 8,929 8,787 26,584 25,333 Provision for Loan Losses 280 108 640 (1,017) NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 8,649 8,679 25,944 26,350 OTHER INCOME Income from Fiduciary Activities 946 908 2,891 2,809 Fees for Other Services to Customers 1,225 1,129 3,528 3,212 Net Losses on Securities Transactions --- --- --- (10) Other Operating Income 285 354 5,735 811 Total Other Income 2,456 2,391 12,154 6,822 OTHER EXPENSE Salaries and Employee Benefits 4,200 3,992 12,724 12,052 Occupancy Expense of Premises, Net 488 542 1,556 1,718 Furniture and Equipment Expense 474 518 1,474 1,574 Other Operating Expense 2,015 2,302 7,006 8,569 Total Other Expense 7,177 7,354 22,760 23,913 INCOME BEFORE PROVISION FOR INCOME TAXES 3,928 3,716 15,338 9,259 Provision for Income Taxes 1,438 129 5,524 288 NET INCOME $ 2,490 $ 3,587 $ 9,814 $8,971 Average Shares Outstanding 5,694 5,761 5,719 5,745 Per Common Share: Earnings $ .44 $ .62 $ 1.72 $ 1.56 Dividends Declared .14 .10 .40 .24 Book Value 11.61 9.92 11.61 9.92 Per share amounts have been adjusted for the November 10, 1995 four percent stock dividend declared September 27, 1995. </TABLE> PAGE 4
<TABLE> <CAPTION> ARROW FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in Thousands)(Unaudited) Nine Months Ended September 30, 1995 1994 Operating Activities: <S> <C> <C> Net Income $ 9,814 $ 8,971 Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities: Provision for Loan Losses 640 (1,017) Provision for Other Real Estate Owned Losses 107 198 Depreciation and Amortization 1,262 1,709 Gains on the Sale of Securities Available for Sale --- (3) Proceeds from the Sale of Loans 10,802 5,433 Net Losses (Gains) on the Sale of Loans, Fixed Assets and Other Real Estate Owned (56) 1,192 Decrease (Increase) in Deferred Tax Assets 405 (1,837) Decrease (Increase) in Interest Receivable (605) 263 Increase (Decrease) in Interest Payable 1,180 63 Decrease (Increase) in Other Assets (1,322) 231 Increase (Decrease) in Other Liabilities 2,537 1,216 Net Cash Provided By Operating Activities 24,764 16,419 Investing Activities: Proceeds from the Sale of Securities Available for Sale --- 1,075 Proceeds from the Maturities of Securities Available for Sale 24,024 14,045 Purchases of Securities Available for Sale (33,477) (24,850) Proceeds from the Maturities of Securities Held to Maturity 5,020 47,620 Purchases of Securities Held to Maturity (5,885) (41,743) Net Increase in Loans and Leases (21,204) (11,021) Proceeds from the Sale of Fixed Assets and Other Real Estate Owned 1,194 4,742 Purchase of Fixed Assets (468) (752) Net Cash Used In Investing Activities (30,796) (10,884) Financing Activities: Net Increase in Deposits 53,925 6,866 Net Decrease in Short-Term Borrowings (4,222) (1,918) Repayment of Long-Term Debt (4,430) (74) Common Stock Issued --- 165 Purchase of Treasury Stock (57,314 Shares) (892) (63) Other Equity Transactions 30 --- Cash Dividends Paid (2,301) (1,378) Net Cash Provided By Financing Activities 42,110 3,598 Net Increase in Cash and Cash Equivalents 36,078 9,133 Cash and Cash Equivalents at Beginning of Period 34,624 28,885 Total Cash and Cash Equivalents $70,702 $38,018 Cash and Cash Equivalents: Cash and Due from Banks $23,302 $23,718 Federal Funds Sold and Securities Purchased Under Agreements to Resell 47,400 14,300 Total Cash and Cash Equivalents $70,702 $38,018 Supplemental Cash Flow Information: Interest Paid $17,108 $13,305 Income Taxes Paid 4,608 1,036 Transfer of Loans to Other Real Estate Owned 585 1,599 Change in the Valuation Allowance for Securities Available for Sale 1,119 (838) Other Equity Transactions 92 --- Guarantee of ESOP Debt (1,173) --- Reduction of Unearned ESOP Shares 249 --- Cancellation of Debentures by Exercise of Cancellable Mandatory Stock Purchase Contracts 370 --- </TABLE> PAGE 5
ARROW FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FORM 10-Q SEPTEMBER 30, 1995 1. Financial Statement Presentation In the opinion of the management of Arrow Financial Corporation (the "Company"), the accompanying consolidated financial statements contain all of the adjustments necessary to present fairly the financial position as of September 30, 1995 and December 31, 1994; the results of operations for the three and nine month periods ended September 30, 1995 and 1994; and the statements of cash flows for the nine month periods ended September 30, 1995 and 1994. All such adjustments are of a normal recurring nature. Certain items have been reclassified to conform to the 1995 presentation. Per share amounts have been restated to reflect the November 10, 1995 four percent stock dividend declared September 27, 1995. 2. Accounting by Creditors for Impairment of a Loan In May 1993, the Financial Accounting Standards Board ("FASB") released Statement of Financial Accounting Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan." SFAS No. 114, as amended by SFAS No. 118, requires that impaired loans, except for large groups of smaller-balance homogeneous loans, be measured based on (I) the present value of expected future cash flows discounted at the loan's effective interest rate, (II) the loan's observable market price or (III) if the loan is collateral dependent, the fair value of the collateral . The Company adopted SFAS No. 114 January 1, 1995 on a prospective basis. After the adoption of SFAS No. 114, the Company continued to determine the allowance for loan losses for smaller-balance homogeneous loans, which include all consumer loans and commercial loans under $250,000, under SFAS No. 5, "Accounting for Contingencies." For impaired loans accounted for under SFAS No. 114, the Company recognizes interest income and allocates cash payments on a loan by loan basis, based upon the reliability of collateral valuation methods and demonstrated cash flow performance. 3. Derivative Financial Instruments In October 1994, the FASB released SFAS No. 119, "Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments." SFAS No. 119 requires disclosures about amounts, nature, and terms of derivative financial instruments that are not subject to SFAS No. 105, "Disclosure of Information about Financial Instruments with Off-Balance-Sheet Risk and Financial Instruments with Concentrations of Credit Risk", because they do not result in off-balance-sheet risk of accounting loss. SFAS No. 119 also requires disclosures in addition to the requirements of SFAS No. 105 and No. 107, "Disclosures about Fair Value of Financial Instruments." For the Company, SFAS No.119 is effective for financial statements issued after 1995. The Company does not trade in derivative financial instruments and as of September 30, 1995 did not use derivative financial instruments to hedge its interest rate risk position. Consequently, as of September 30, 1995 and December 31, 1994, SFAS No. 119 would not have required the Company to provide disclosures in addition to those already required by SFAS No. 105 and SFAS No. 107. 4. Accounting for Long-Lived Assets In March 1995, the FASB released SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of." SFAS No. 121 requires that long-lived assets and certain identifiable intangibles to be held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. SFAS No. 121 requires that long-lived assets and certain identifiable intangibles to be disposed of be reported at the lower of carrying amount or fair value less cost to sell. SFAS No. 121 is effective for years beginning after December 15, 1995, with earlier adoption allowed. The Company plans to adopt SFAS No. 121 in 1996. 5. Accounting for Mortgage Servicing Rights In May 1995, the FASB released SFAS No. 122, "Accounting for Mortgage Servicing Rights." SFAS No. 122 amends SFAS No. 65, "Accounting for Certain Mortgage Banking Activities", to require that a mortgage banking enterprise recognize as separate assets rights to service mortgage loans for others, however those servicing rights are acquired. A mortgage banking enterprise that acquires mortgage servicing rights either through purchase or origination of mortgage loans and sells or securitizes those loans PAGE 6
with servicing rights retained should allocate the total cost of the mortgage loans to the mortgage servicing rights and the loans (without the mortgage servicing rights) based on their relative fair values if it is practicable to estimate those fair values. SFAS No. 122 requires that a mortgage banking enterprise assess its capitalized mortgage servicing rights for impairment based on the fair value of those rights and recognize any impairment through a valuation reserve. The Company is currently anlayzing the provisions of FAS No. 122 and has not yet determined the period of adoption. ARROW FINANCIAL CORPORATION AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SEPTEMBER 30, 1995 Overview Arrow Financial Corporation (the "Company") is a three bank holding company headquartered in Glens Falls, New York. The banking subsidiaries are: Glens Falls National Bank and Trust Company whose main office is located in Glens Falls, New York; Saratoga National Bank and Trust Company whose main office is located in Saratoga Springs, New York; and Green Mountain Bank, whose main office is located in Rutland, Vermont. The following table presents adjustments to net income for the three month and nine month periods ended September 30, 1995 and 1994 to arrive at the Company's core or recurring net income. The nonrecurring or special items are more fully described below the table and in the detailed discussion of the results of operations. <TABLE> <CAPTION> SUMMARY OF RECURRING INCOME (in thousands) Three Months Ended Nine Months Ended Sep 1995 Sep 1994 Sep 1995 Sep 1994 <S> <C> <C> <C> <C> Net Income, as reported $2,490 $3,587 $9,814 $8,971 Net Operating Loss Benefits --- (1,246) --- (3,148) Other Items, net of tax: OREO Transactions (29) 40 90 1,026 Severance Benefits 47 --- 405 --- Insurance Settlement --- --- (3,250) --- Credit to the Provision f or Loan Losses --- --- --- (990) Recurring Income $2,508 $2,381 $7,059 $5,859 Earnings Per Share, as reported $ .44 $ .62 $ 1.72 $ 1.56 Earnings Per Share, recurring .44 .41 1.23 1.02 </TABLE> The Company reported earnings of $2.5 million for the third quarter of 1995 which compares to earnings of $3.6 million for the third quarter of 1994. Earnings per share for the two respective periods were $.44 and $.62. The $1.1 million decrease in earnings, or $.18 per share, was primarily attributable to a $1.2 million net operating loss carryforward benefit recognized in the 1994 period with no comparable benefit recognized in the 1995 period. Adjusting for the nonrecurring or speical items as itemized in the table above, net income for the third quarter of 1995 increased $127 thousand or $.03 per share over the 1994 quarter. The principal factors behind this increase were modest gains in net interest income and other income and a decrease in other expense. The annualized return on average assets was 1.25% and 1.91% for the third quarter of 1995 and 1994, respectively. The annualized return on average equity was 15.14% and 25.96% for the third quarter of 1995 and 1994, respectively. On a year-to-date basis, the Company reported earnings of $9.8 million for the first nine months of 1995 which compares to earnings of $9.0 million for the first nine months of 1994. Earnings per share for the two respective periods were $1.72 and $1.56. Each period saw substantial benefits from nonrecurring items. In the 1995 period, the Company experienced a $3.25 million after-tax benefit as a result of a $5.0 million settlement in the second quarter from the Company's financial institution bond company on a claim for losses suffered in earlier periods, which was offset only partially by a nonrecurring $405 thousand expense for severance benefits. Net income for the 1994 period benefited from the utilization of net operating losses, which reduced the provision for income taxes by $3.1 million. As discussed above in the quarter-to-quarter comparison, no comparable benefit was experienced in the 1995 period. PAGE 7
Adjusting for the nonrecurring items as itemized in the table above, net income for the first nine months of 1995 increased $1.2 million or $.21 per share over the 1994 period, due to increases in net interest income and other income and a reduction in other operating expense. The annualized return on average assets was 1.70% and 1.62% for the first nine months of 1995 and 1994, respectively. The annualized return on average equity was 20.82% and 22.52% for the first nine months of 1995 and 1994, respectively. Total assets amounted to $802.3 million at September 30, 1995, reflecting an increase of $55.8 million or 7.5% over December 31, 1994. Nonperforming assets amounted to $8.0 million at September 30, 1995, or a $171 thousand decrease from the balance at June 30, 1995, but reflected a $176 thousand increase from the level of nonperforming assets at December 31, 1994. During the second quarter of 1995, the Company placed on nonaccrual status a $1.9 million loan to one commercial borrower that filed for reorganization through bankruptcy. Shareholders' equity increased $7.3 million or 12.5% from year-end 1994. At period end, the Company qualified as "well-capitalized" under the capital standards adopted by federal bank regulators, with risk-based capital ratios and a Tier 1 leverage ratio well in excess of regulatory requirements. During the third quarter of 1995, the Company paid a cash dividend of 14.4 cents per share, adjusted for the 4% stock dividend, and in October declared a 16 cent dividend for the fourth quarter. On June 1, 1995, the Company entered into a definitive agreement to sell eight branches of Green Mountain Bank to Mascoma Savings Bank of Lebanon, New Hampshire. Pending regulatory approval, the Company expects to close the sale early in the first quarter of 1996. On July 8, 1995, the Company redeemed $4.4 million of outstanding 8 1/8 percent subordinated debentures due December 1, 1996 and cancelled the related mandatory stock purchase contracts. <TABLE> <CAPTION> CHANGE IN FINANCIAL CONDITION SUMMARY OF CONSOLIDATED BALANCE SHEETS (Dollars in Thousands) Period End Balances: Sep 1995 Dec 1994 Sep 1994 <S> <C> <C> <C> Securities Held to Maturity $130,467 $129,735 $119,673 Securities Available for Sale 65,323 53,868 64,245 Federal Funds Sold 47,400 8,000 14,300 Loans, Net of Unearned Income (1) 515,935 507,553 504,740 Allowance for Loan Losses 12,379 12,338 12,914 Earning Assets (1) 759,125 699,156 702,958 Total Assets 802,280 746,431 746,455 Total Deposits 704,410 650,485 666,293 Borrowed Funds 20,863 29,872 15,787 Shareholders' Equity 65,713 58,405 56,926 </TABLE> <TABLE> <CAPTION> $ Change $ Change % Change % Change Period End Balances: From Dec From Sep From Dec From Sep <S> <C> <C> <C> <C> Securities Held to Maturity $ 732 $10,794 0.6% 9.0% Securities Available for Sale 11,455 1,078 21.3 1.7 Federal Funds Sold 39,400 33,100 492.5 231.5 Loans, Net of Unearned Income (1) 8,382 11,195 1.7 2.2 Allowance for Loan Losses 41 (535) 0.3 (4.1) Earning Assets (1) 59,969 56,167 8.6 8.0 Total Assets 55,849 55,825 7.5 7.5 Total Deposits 53,925 38,117 8.3 5.7 Borrowed Funds (9,009) 5,076 (30.2) 32.2 Shareholders' Equity 7,308 8,787 12.5 15.4 (1) Includes Nonaccrual Loans </TABLE> Total resources at September 30, 1995 amounted to $802.3 million, an increase of $55.8 million or 7.5% from year-end 1994, and an increase of $55.8 million or 7.5% over September 30, 1994. Sources of funds for the increase in total assets from year-end 1994 were primarily increases in deposits, and secondarily, retained earnings, offset in part by a decrease in borrowed funds. The Company was able to place $8.4 million of the increase in funds into net loan growth, while the remainder of the net new funds were placed in securities and short-term investments. PAGE 8
<TABLE> <CAPTION> Sources of Funds Period End Balances: Sep 1995 Dec 1994 Sep 1994 <S> <C> <C> <C> Demand Deposits $ 94,832 $ 93,075 $ 91,744 N.O.W./ Super N.O.W. 158,264 128,158 131,450 Savings/ M.M.D.A. 192,891 230,985 246,961 Time Deposits of $100,000 or More 68,442 36,171 34,832 Other Time Deposits 189,981 162,096 161,306 Total Deposits $704,410 $650,485 $666,293 Other Borrowed Funds $20,863 $29,872 $15,787 Shareholders' Equity 65,713 58,405 56,926 </TABLE> <TABLE> <CAPTION> $ Change $ Change % Change % Change From Dec From Sep From Dec From Sep <S> <C> <C> <C> <C> Demand Deposits $ 1,757 $ 3,088 1.9% 3.4% N.O.W./ Super N.O.W. 30,106 26,814 23.5 20.4 Savings/ M.M.D.A. (38,094) (54,070) (16.5) (21.9) Time Deposits of $100,000 or More 32,271 33,610 89.2 96.5 Other Time Deposits 27,885 28,675 17.2 17.8 Total Deposits $53,925 $38,117 8.3 5.7 Other Borrowed Funds $(9,009) $5,076 (30.2) 32.2 Shareholders' Equity 7,308 8,787 12.5 15.4 </TABLE> Total deposits of $704.4 million at September 30, 1995 were $53.9 million above the December 31, 1994 level. During the nine month period the Company experienced a shift in the mix of deposits. Such shift is often related to general interest rate changes. From 1989 until early 1992, during a period of generally declining interest rates the spread in yields between time deposits and savings/money market accounts began to diminish. As this spread diminished the Company, and the industry in general, experienced a shift from time deposits to savings/NOW and money market accounts. Beginning in April of 1994, however, the prime rate rose steadily from 6.50% to 8.75% by January of 1995. In this rising rate environment, the Company, and the industry in general, began to experience a widening in the spread between time deposits and savings/money market accounts, and a corresponding shift in the mix of deposits from savings/ money market accounts to time deposits. This trend continued through the first nine months of 1995, as average time deposits of $100,000 or more for the quarter ended September 30, 1995, were $33.8 million, or 87.1% above the fourth quarter 1994 totals and average other time deposits for the third quarter of 1995 were $29.1 million, or 18.0% above the average for the fourth quarter of 1994, while the average of all other deposits, including demand, NOW and MMDA, between the fourth quarter of 1994 and the third quarter of 1995 decreased by $30.6 million, or 6.6%. The following table presents the average balances by deposit type for the past five quarters and the relative portion of each deposit type. <TABLE> <CAPTION> Quarterly Average Deposit Balances Sep 1995 Jun 1995 Mar 1995 Amount % Amount % Amount % <S> <C> <C> <C> <C> <C> <C> Demand Deposits $ 93,353 14 $ 84,352 12 $ 85,286 13 N.O.W. and Super N.O.W. 140,454 20 134,495 20 125,995 19 Savings and M.M.D.A 197,013 28 201,788 30 220,557 34 Time Deposits of $100,000 or More 72,561 10 69,021 10 54,068 8 Other Time Deposits 190,593 28 186,605 28 173,117 26 Total Deposits $693,974 100 $676,261 100 $659,023 100 </TABLE> <TABLE> <CAPTION> Dec 1994 Sep 1994 Amount % Amount % <S> <C> <C> <C> <C> Demand Deposits $ 91,446 14 $ 91,656 14 N.O.W. and Super N.O.W. 132,058 20 125,411 19 Savings and M.M.D.A 237,919 36 255,359 38 Time Deposits of $100,000 or More 38,777 6 34,812 5 Other Time Deposits 161,538 24 158,225 24 Total Deposits $661,738 100 $665,463 100 </TABLE> <TABLE> <CAPTION> Quarterly Cost of Deposits Sep 1995 Jun 1995 Mar 1995 <S> <C> <C> <C> Demand Deposits --- % --- % --- % N.O.W. and Super N.O.W. 2.94 2.93 2.39 Savings and M.M.D.A 3.06 3.07 3.06 Time Deposits of $100,000 or More 5.67 5.70 5.45 Other Time Deposits 5.55 5.35 4.78 Total Deposits 3.58 3.56 3.19 </TABLE> <TABLE> <CAPTION> Dec 1994 Sep 1994 <S> <C> <C> Demand Deposits --- % --- % N.O.W. and Super N.O.W. 2.05 1.84 Savings and M.M.D.A 2.85 2.77 Time Deposits of $100,000 or More 4.51 4.07 Other Time Deposits 4.25 4.00 Total Deposits 2.73 2.57 </TABLE> As indicated in the above table, the Company experienced increasing deposit growth over the second and third quarters of 1995. If the Company had maintained the same mix of deposits as existed for the quarter ended September 30, 1994, the cost of total deposits would have been 3.35% rather than the actual cost of 3.58%. Management believes the shift from demand/money market deposits to time deposits may be decelerating. For the quarter ending September 30, 1995, time deposits comprised 38% of total deposits, the same percentage of total deposits as for the quarter ending June 30, 1995. This leveling off is consistent with the leveling off of the prime rate over the first three quarters of 1995. Demand deposits at September 30, 1995 were 3.4% above the level at September 30, 1994, and 1.9% above the level of December 31, 1994, which was seasonally high at year-end. The increase in demand deposits at September 30, 1995 is primarily attributable to seasonal municipal deposits resulting from annual property tax collections. Other borrowed funds (primarily repurchase agreements, treasury tax and loan accounts and debentures) decreased $9.0 million or 30.2% from the PAGE 9
December 31, 1994 total. On July 8, 1995, the Company called the remaining $4.4 million of its December 1996 subordinated debentures. Other changes are attributable to the daily fluctuations in short-term borrowing balances. Shareholders' equity amounted to $65.7 million at September 30, 1995, an increase of $7.3 million or 12.5% over the balance at year-end 1994. The increase was primarily attributable to retained earnings. As adjusted, the Company paid cash dividends of $.125 , $.135 and $.144 for the first three quarters of 1995, respectively, and has declared a $.16 cash dividend for the fourth quarter of 1995. Application of Funds Most of the net new funds received by the Company from December 31, 1994 to September 30, 1995, were placed in federal funds and securities available for sale. In part, the Company created this liquid position to accommodate cash needs in connection with the branch sale to Mascoma Savings Bank, which is more fully discussed in the following section on Liquidity. However, the Company also experienced modest growth in the loan portfolio during the nine month period. The following table analyzes the change in the mix of the loan portfolio for the past five quarters. <TABLE> <CAPTION> Quarterly Average Loan Balances: Sep 1995 Jun 1995 Mar 1995 Amount % Amount % Amount % <S> <C> <C> <C> <C> <C> <C> Commercial and Commercial Real Estate $160,269 31 $166,378 32 $162,740 32 Residential Real Estate 175,462 34 174,927 34 174,947 34 Home Equity 45,292 9 44,539 9 43,282 8 Indirect Consumer Loans 86,799 17 83,289 16 80,279 16 Direct Consumer Loans 30,790 6 29,938 6 29,489 6 Other Loans (primarily credit card loans) 15,094 3 14,840 3 19,149 4 Total Loans $513,706 100 $513,911 100 $509,886 100 </TABLE> <TABLE> <CAPTION> Dec 1994 Sep 1994 Amount % Amount % <S> <C> <C> <C> <C> Commercial and Commercial Real Estate $162,552 32 $167,214 33 Residential Real Estate 176,120 35 175,828 35 Home Equity 42,023 8 40,220 8 Indirect Consumer Loans 76,827 16 72,186 15 Direct Consumer Loans 30,018 6 30,121 6 Other Loans (primarily credit card loans) 17,130 3 16,366 3 Total Loans $504,670 100 $501,935 100 </TABLE> <TABLE> <CAPTION> Quarterly Taxable Equivalent Yield on Loans: Sep 1995 Jun 1995 Mar 1995 <S> <C> <C> <C> Commercial and Commercial Real Estate 10.30% 10.35% 10.64% Residential Real Estate 8.38 8.35 8.22 Home Equity 9.59 9.67 9.38 Indirect Consumer Loans 8.42 8.27 8.08 Direct Consumer Loans 9.93 9.93 9.96 Other Loans (primarily credit card loans) 13.91 14.66 12.36 Total Loans 9.35 9.37 9.32 </TABLE> <TABLE> <CAPTION> Dec 1994 Sep 1994 <S> <C> <C> Commercial and Commercial Real Estate 9.75% 9.29% Residential Real Estate 7.90 7.65 Home Equity 8.80 8.40 Indirect Consumer Loans 7.98 8.02 Direct Consumer Loans 9.81 9.64 Other Loans (primarily credit card loans) 12.27 12.14 Total Loans 8.85 8.58 </TABLE> As indicated in the above table, the Company experienced relatively steady growth in home equity and indirect consumer loans (primarily auto loans) over the period. Other loan categories remained relatively level except for commercial loans, which continued to decrease in both gross balances and in portfolio percentage, as a result of the Company's decision to de-emphasize that area of lending. If the Company had maintained the same mix in the loan portfolio in the third quarter of 1995 as existed for the prior year period, the taxable equivalent yield on loans would have been 9.37% rather than the actual yield of 9.35%. In the past, the Company's exposure to loss in the home equity and indirect portfolios has been much less than the losses sustained in the commercial and commercial real estate portfolios. The Company expects that the trend in the loan portfolio mix will continue for the short term. PAGE 10
<TABLE> <CAPTION> SUMMARY OF THE ALLOWANCE AND PROVISION FOR LOAN LOSSES (Dollars in Thousands)(Loans Stated Net of Unearned Income) Sep 1995 Jun 1995 Mar 1995 Dec 1994 Sep 1994 Dec 1993 <S> <C> <C> <C> <C> <C> <C> Period End Loans $515,935 $517,165 $508,626 $507,553 $504,740 $502,784 Average Loans, Year-to-Date 512,515 511,909 509,886 502,224 501,400 489,326 Allowance for Loan Losses, Beginning of Period $12,338 $12,338 $12,338 $16,078 $16,078 $17,328 Provision for Loans Losses, YTD 640 360 130 (950) (1,017) 690 Net Charge-offs, YTD (599) (515) (258) (2,790) (2,147) (1,940) Allowance for Loan Losses, End of Period $12,379 $12,183 $12,210 $12,338 $12,914 $16,078 Nonaccrual Loans $4,927 $5,060 $2,780 $3,618 $5,287 $ 9,861 Loans 90 Days or More Past Due and Still Accruing Interest 371 327 526 231 128 364 Loans Restructured and in Compliance with Modified Terms --- --- 62 580 596 2,405
Total Nonperforming Loans 5,298 5,387 3,368 4,429 6,011 12,630 Other Real Estate Owned 2,703 2,785 3,545 3,396 2,912 7,506 Total Nonperforming Assets $8,001 $8,172 $6,913 $7,825 $8,923 $20,136 Impaired Loans (FAS No. 114) (2) $2,557 $2,933 --- --- --- --- Allowance Allocated to Impaired Loans 384 440 --- --- --- --- Performance Ratios: Allowance to Nonperforming Loans 233.65% 226.17% 362.53% 278.57% 214.84% 127.30% Allowance to Perriod End Loans 2.40 2.36 2.40 2.43 2.56 3.20 Provision to Average Loans (1) 0.17 0.14 0.10 (0.19) (0.27) 0.14 Net Charge-offs to Average Loans (1) 0.16 0.20 0.21 0.56 0.57 0.40 Nonperforming Assets to Loans & OREO 1.54 1.57 1.35 1.53 1.76 3.95 (1) Annualized (2)All impaired loans were also reported as nonaccrual loans for all periods presented. </TABLE> Nonperforming assets amounted to $8.0 million at September 30, 1995, an increase of $176 thousand or 2.2% from year-end 1994. During the second quarter of 1995 one of the Company's large commercial borrowers filed a voluntary bankruptcy petition for reorganization. Accordingly, the Company placed $1.9 million of the borrower's loans, net of SBA payment of the guaranteed portion, on nonaccrual status and established a reserve for estimated losses in accordance with FAS No. 114. Except for these loans, the Company would have continued to experience a period-to-period decrease in nonperforming assets over the past four quarters. The allowance for loan losses was more than two times the amount of nonperforming loans at September 30, 1995. The ratio of net charge-offs to average loans for the first nine months of 1995 was at an annualized rate of .16%, well below the ratios for 1994 and 1993, which were .56% and .40%, respectively. The annualized ratio of the provision for loan losses to average loans over the nine month period was .17%, which the Company believed to be adequate in light of the allowance's substantial coverage of nonperforming loans and the size of the unallocated portion of the allowance. The annualized ratio of the provision for loan losses to average loans was negative as of the end of each of the last two quarters of 1994 listed in the above table as a result of the Company's decision to reduce the level of the allowance for loan losses during the second quarter of 1994, effected as a $1.5 million credit to the provision for loan losses. Capital Resources Shareholders' equity was $65.7 million at September 30, 1995, an increase of $7.3 million or 12.5% from December 31, 1994. The increase was primarily attributable to retained current year earnings and a $1.1 million favorable change in the valuation allowance for securities available for sale. The valuation allowance was established upon the December 31, 1993 adoption of SFAS No. 115 which requires that securities available for sale be carried at fair value through a valuation reserve in PAGE 11
shareholders' equity. During the nine month period ending September 30, 1995, the Company repurchased $892 thousand of it outstanding shares at an average price of $15.54 and established a reserve for unearned ESOP shares, which amounted to $924 thousand at period end. The Company and its subsidiaries are currently subject to two sets of capital guidelines, a leverage ratio test and a risk-based capital measure. The risk-based capital guidelines assign weightings to all assets and certain off-balance sheet items and establish an 8% minimum ratio of qualifying total capital to risk-weighted assets. At least half of total capital must consist of "Tier 1" capital, which is comprised of common equity, retained earnings and a limited amount of permanent preferred stock, less goodwill. Up to half of total capital may consist of so-called "Tier 2" capital, comprising a limited amount of subordinated debt, other preferred stock, certain other instruments and a limited amount of loan loss reserves. The leverage ratio guideline establishes minimum limits on the ratio of Tier 1 capital to total tangible assets. For top-rated companies, the minimum leverage ratio is 3%, but lower-rated companies may be required to meet substantially greater minimum ratios. The FDIC Improvement Act of 1991 ("FDICIA") required banking regulators to establish different categories of capitalization for financial institutions, based upon these capital ratios. In accordance with FDICIA, the regulators have established five levels of capitalization ranging from "critically undercapitalized" to "well-capitalized." As of September 30, 1995, the Company and its banking subsidiaries all qualified as "well-capitalized" under these standards. On such date, the Tier 1 leverage and risk-based capital ratios for the Company and its subsidiaries were as follows: <TABLE> <CAPTION> SUMMARY OF CAPITAL RATIOS Tier 1 Total Risk-Based Risk-Based Leverage Capital Capital Ratio Ratio Ratio <S> <C> <C> <C> Arrow Financial Corporation 8.02% 13.14% 14.41% Glens Falls National Bank & Trust Co. 7.60 13.48 14.73 Saratoga National Bank & Trust Co. 8.45 11.61 12.87 Green Mountain Bank 9.45 14.18 15.47 Regulatory Minimum 3.00 4.00 8.00 FDICIA's "Well-Capitalized" Standard 5.00 6.00 10.00 </TABLE> <TABLE> <CAPTION> SUMMARY OF QUARTERLY CASH DIVIDENDS PAID (restated for the November 1995 stock dividend) 1995 1994 <S> <C> <C> Fourth Quarter (1995 Payable December 15) $ .160 $ .115 Third Quarter .144 .102 Second Quarter .135 .074 First Quarter .125 .065 On October 25,1995, the Company declared a cash dividend of $.16 per share for the fourth quarter, payable December 15, 1995. Liquidity The object of the Company's liquidity management is to satisfy cash flow requirements, principally the need of depositors and borrowers to access funds. Currently, the Company's liquidity plan has been modified to satisfy projected extraordinary funding needs in connection with the Company's planned sale of eight branches (approximately 13% of the Company's deposits) of the Company's Vermont subsidiary bank, Green Mountain Bank, to Mascoma Savings Bank, Lebanon, New Hampshire. These extraordinary funding needs, and the projected sources of funds, are described in the following paragraph. Liquidity is provided through the assumption or "purchase" of liabilities, the maturity of asset balances and the sale of assets. The Company's liability liquidity arises primarily from its significant base of "core" and other deposits gathered through a branch network operating over a dispersed geographical area. The "core" balances consist of demand deposits, savings, N.O.W. and money market deposit account balances and small denomination time deposits. At September 30, 1995, the Company's loan to deposit ratio was 73.2% and averaged 75.8% and 75.3% for the nine months ending September 30, 1995 and 1994, respectively. The Company maintains a securities available for sale portfolio, short-term investments in Federal funds and interest-bearing deposits with banks, which serve as a primary liquidity source. These balances amounted to $112.7 million at September 30, 1995. As a supplement, various short-term borrowing facilities have been established. At period-end, the Company was experiencing no significant liquidity problems or pressure at any of its subsidiary banks. PAGE 12
In connection with the pending sale by Green Mountain Bank of eight of its branches to Mascoma Savings Bank, it is currently anticipated that the amount of deposit liabilities to be assumed by Mascoma from Green Mountain Bank at closing (net of the premium on deposits) will exceed the amount of loans and other branch-related assets to be transferred by Green Mountain to Mascoma by $40 - $45 million. The Company anticipates being able to fund this amount with available liquid funds at Green Mountain Bank plus up to $20 million in sales of available for sale securities or loans (externally in the secondary market or to affiliates) of Green Mountain Bank. Otherwise, the Company is not aware of any known trends, events or uncertainties that will have or that are reasonably likely to have a material effect or make material demands on the Company's liquidity, capital resources or results of operations. RESULTS OF OPERATIONS: Three Months Ended September 30, 1995 Compared With Three Months Ended September 30, 1994 </TABLE> <TABLE> <CAPTION> SUMMARY OF EARNINGS PERFORMANCE (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Net Income $2,490 $3,578 $(1,088) (30.4)% Earnings Per Share .44 .62 (.18) (29.0) Return on Assets 1.25% 1.91% (.66)% (34.6) Return on Equity 15.14% 25.96% (10.82)% (41.7) </TABLE> The Company's net income for the three month period ended September 30, 1995 was $2.5 million, which compares to earnings of $3.6 million for the third quarter of 1994. Earnings per share for the two respective periods were $.44 and $.62. The $1.1 million decrease in earnings, or $.18 per share, was primarily attributable to net operating loss tax benefits recognized in the 1994 period, which were not available in the 1995 period. Adjusting for the 1994 net operating loss benefit, net income for the third quarter of 1995 increased $127 thousand or $.03 per share over the third quarter of 1994. The 1995 quarter compared favorably to the 1994 quarter in net interest income and certain categories of other income and other expense. These and other changes are reviewed in the following sections on net interest income, other income, other expense and income taxes. Net Interest Income <TABLE> <CAPTION> SUMMARY OF NET INTEREST INCOME (Taxable Equivalent Basis) (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Interest Income $ 15,599 $ 13,423 $ 2,176 16.2% Interest Expense 6,504 4,516 1,988 44.0 Net Interest Income $ 9,095 $ 8,907 $ 188 2.1 Average Earning Assets (1) $741,206 $695,678 $45,528 6.5% Average Paying Liabilities 618,060 587,964 30,096 5.1 Taxable Equivalent Adjustment 166 120 46 38.3 Yield on Earning Assets (1) 8.35% 7.66% 0.69% 9.0% Cost of Paying Liabilities 4.17 3.05 1.12 36.7 Net Interest Spread 4.18 4.61 (0.43) (9.3) Net Interest Margin 4.87 5.08 0.21) (4.1) (1) Includes Nonaccrual Loans </TABLE> On a taxable equivalent basis, net interest income for the third quarter of 1995 increased $188 thousand, or 2.1%, over the third quarter of 1994. The improvement in the 1995 period was principally attributable to a 6.5% increase in average earning assets which was only partially offset by reductions in the net interest spread and net interest margin between the two periods, reflecting the unfavorable change in the mix of paying liabilities discussed earlier in the section on the change in financial condition (i.e. PAGE 13
the move from savings/money market deposits to time deposits). Net interest income was also positively impacted by the fact that average paying liabilities increased more slowly than average earning assets between the periods due largely to retention of earnings. Average earning assets amounted to $741 million for the third quarter of 1995, a $45.5 million or 6.5% increase over the third quarter of 1994. The 6.5% increase in average earning assets compared to a 5.1% increase in average paying liabilities. Sources of the increased funds from September 30, 1994, other than paying liabilities, included retained earnings, sales of OREO and a small increase in average demand deposits. The $46 thousand, or 38.3%, increase in the taxable equivalent adjustment reflected the Company's increased investment in tax exempt bonds and loans, which were maintained at lower than normal levels during the period when the Company was carrying forward net operating loss tax benefits. The provision for loan losses was $280 thousand for the quarter ending September 30, 1995, compared to a $108 thousand provision for the 1994 period. The provision for loan losses was discussed previously under the "Summary of the Allowance and Provision for Loan Losses". Other Income <TABLE> <CAPTION> SUMMARY OF OTHER INCOME (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Income From Fiduciary Activities $ 946 $ 908 $ 38 4.2% Fees for Other Services to Customers 1,225 1,129 96 8.5 Other Operating Income 285 354 (69) (19.5) Total Other Income $2,456 $2,391 $ 65 2.7 </TABLE> Other income (i.e. noninterest income) amounted to $2.5 million for the third quarter of 1995, an increase of $65 thousand or 2.7% from the third quarter of 1994. Income from fiduciary services increased $38 thousand or 4.2% over the third quarter of 1994. Fees for other services to customers (primarily service charges on deposit accounts, credit card fee income and servicing income on sold loans) increased $96 thousand or 8.5% primarily due to increased service charges on deposit accounts in the 1995 period. Other operating income (primarily credit card processing income and gains on the sale of other real estate owned, loans and other assets) decreased $69 thousand. The period to period difference was primarily attributable to a gain on the sale of repossessed property recognized in the 1994 period, which was offset only in part by gains on the sale of OREO in the 1995 period. In the absence of these transactions, other operating income would have increased $20 thousand in the third quarter of 1995 as compared to the third quarter of 1994, or 9.0%. Other Expense <TABLE> <CAPTION SUMMARY OF OTHER EXPENSE (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Salaries and Employee Benefits $4,200 $3,992 $ 208 5.2% Occupancy Expense of Premises, Net 488 542 (54) (10.0) Furniture and Equipment Expense 474 518 (44) (8.5) Other Operating Expense 2,015 2,302 (287) (12.5) Total Other Expense $7,177 $7,354 $ (177) (2.4) </TABLE> Other (i.e. noninterest) expense decreased $177 thousand or 2.4% for the third quarter of 1995 compared with the third quarter of 1994. During the comparative periods, salaries and benefits expense increased $208 thousand or 5.2% as a decrease in gross salaries was more than offset by an increase in all areas of employee benefits including pension, insurances and other employee benefit plans. Expenses relating to both occupancy and furniture and equipment expense for the quarter ending September 30, 1995 were below the comparative 1994 period. The decrease is primarily attributable to lower depreciation expenses. Other operating expense decreased $287 thousand or 12.5% between the two comparative quarters reflecting a $461 thousand reduction in FDIC insurance costs offset in part by an increase in legal expenses in the 1995 period. PAGE 14
Income Taxes <TABLE> <CAPTION> SUMMARY OF INCOME TAXES (Dollars in Thousands) Sep 1995 Sep 1994 $ Change <S> <C> <C> <C> Provision for Income Taxes $1,438 $129 $ 1,309 </TABLE> The provisions for federal and state income taxes amounted to $1.4 million and $129 thousand for the third quarter of 1995 and 1994, respectively. The low level of the provision for the 1994 period reflected utilization of a net operating loss carryforward and a reduction in the valuation allowance for deferred tax assets. That benefit amounted to $1.2 million for the third quarter of 1994. During the fourth quarter of 1994 the Company utilized the remaining net operating loss carryforward, and such benefits were not available for any 1995 period. On a comparative basis, the effective tax rate was 36.6% and 37.0% for the quarters ended September 30, 1995 and 1994, respectively. The decrease in the effective tax rate for the 1995 period was primarily attributable to an increase in the tax exempt bond and loan portfolios offset in part by a 1% increase in the federal income tax rate. RESULTS OF OPERATIONS: Nine Months Ended September 30, 1995 Compared With Nine Months Ended September 30, 1994 <TABLE> <CAPTION> SUMMARY OF EARNINGS PERFORMANCE (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Net Income $9,814 $8,971 $ 843 9.4% Earnings Per Share 1.72 1.56 .16 10.3 Return on Assets 1.70% 1.62% 0.08% 4.9 Return on Equity 20.82% 22.52% (1.70)% (7.5) </TABLE> The Company's net income was $9.8 million for the first nine months of 1995, compared to earnings of $9.0 million for the first nine months of 1994. Earnings per share were $1.72 and $1.56 for the two respective periods. The most significant factor in the period-to-period comparison was the $5.0 million pre-tax settlement under the Company's financial institution bond received in the second quarter of 1995. The other principal factor in the comparison, which largely offset the first factor, was the $3.1 million tax benefit realized in the 1994 period resulting from the utilization of a net operating loss. A benefit that was not available or realized in the 1995 period. The net operating loss carryforward was fully utilized during the last quarter of 1994. Adjusting for the nonrecurring or special events in both periods, net income for the first nine months of 1995 increased $1.2 million or 20.5% over the first nine months of 1994. The increase in core earnings was primarily attributable to an increase in net interest income and secondarily to an increase in other income. These and other changes are reviewed in the following sections on net interest income, other income, other expense and income taxes. PAGE 15
Net Interest Income <TABLE> <CAPTION> SUMMARY OF NET INTEREST INCOME (Taxable Equivalent Basis) (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Interest Income $45,416 $39,040 $6,376 16.3% Interest Expense 18,288 13,368 4,920 36.8 Net Interest Income $27,128 $25,672 $1,456 5.7 Average Earning Assets (1) $722,311 $693,562 $28,749 4.1% Average Paying Liabilities 608,137 593,654 14,483 2.4 Taxable Equivalent Adjustment 544 339 205 60.5 Yield on Earning Assets (1) 8.41% 7.53% 0.88% 11.7% Cost of Paying Liabilities 4.02 3.01 1.01 33.6 Net Interest Spread 4.39 4.52 (0.13) (2.9) Net Interest Margin 5.02 4.95 0.07 1.4 (1) Includes Nonaccrual Loans </TABLE> On a taxable equivalent basis, net interest income for the first nine months of 1995 increased $1.5 million over the comparative period in 1994. The improvement in the 1995 period was primarily attributable to both a 4.1% increase in average earning assets and to a reduction in the relative amount of nonaccrual loans included in earning assets. Net interest income was also positively impacted by the fact that average paying liabilities increased more slowly than average earning assets between the periods due largely to retention of earnings and increased levels of demand deposits. Net interest spread contracted slightly between the two periods, primarily as a result of the shift in the mix of deposits from savings/money market deposits to time deposits discussed elsewhere in this report, while the net interest margin increased slightly between the two periods, as the faster growth of earning assets as compared to paying liabilities more than offset the shrinkage in the net interest spread. Average earning assets amounted to $722 million for the first nine months of 1995, a $28.7 million or 4.1% increase over the first nine months of 1994. The 4.1% increase in average earning assets compares to a 2.4% increase in average paying liabilities. Sources of funds, other than paying liabilities, included retained earnings, sales of OREO and an increase in average demand deposits. The $205 thousand or 60.5% increase in taxable equivalent adjustment reflected the Company's increased investment in tax exempt bonds and loans, which were purchased at reduced levels during the period when the Company was carrying forward net operating loss tax benefits. The provision for loan losses was $640 thousand for the nine month period ended September 30, 1995, compared to a $1.0 million benefit for the 1994 period. The provision for loan losses was discussed previously under the "Summary of the Allowance and Provision for Loan Losses" on page 10 of this report. Other Income <TABLE> <CAPTION> SUMMARY OF OTHER INCOME (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Income From Fiduciary Activities $ 2,891 $2,809 $ 82 2.9% Fees for Other Services to Customers 3,528 3,212 316 9.8 Net Losses on Securities Transactions --- (10) 10 (100.0) Other Operating Income 5,735 811 4,924 607.2 Total Other Income $12,154 $6,822 $5,332 78.2 Without Regard to the Bond Settlement: Other Operating Income $ 735 $ 811 $ (76) (9.4) Total Other Income 7,154 6,822 332 4.9 </TABLE> Other income increased in the first nine months of 1995 by $5.3 million, or 78.2%, over the level for the prior year period, with the major factor accounting for the increase being the $5.0 million settlement payment received in May 1995 from the Company's financial institution bond company, discussed in more detail in the Company's June 30, 1995 quarterly report. PAGE 16
Without regard to the bond settlement, other (i.e. noninterest) income increased $332 thousand or 4.9% for the first nine months of 1995 compared with the first nine months of 1994. Income from fiduciary services increased $82 thousand or 2.9% over the first nine months of 1994. Fees for other services to customers (primarily service charges on deposit accounts, credit card fee income and servicing income on sold loans) increased $316 thousand or 9.8% primarily due to increased service charges on deposit accounts and increased fees from merchant credit card processing in the 1995 period. Other operating income (primarily third party credit card processing income and gains on the sale of other real estate owned, loans and other assets) decreased $76 thousand without regard to the bond settlement. The decrease was primarily due to a gain in the 1994 period on the sale of repossessed assets. Other Expense <TABLE> <CAPTION> SUMMARY OF OTHER EXPENSE (Dollars in Thousands) Sep 1995 Sep 1994 $ Change % Change <S> <C> <C> <C> <C> Salaries and Employee Benefits $ 12,724 $ 12,052 $ 672 5.6% Occupancy Expense of Premises, Net 1,556 1,718 (162) (9.4) Furniture and Equipment Expense 1,474 1,574 (100) (6.4) Other Operating Expense 7,006 8,569 (1,563) (18.2) Total Other Expense $22,760 $23,913 $(1,153) (4.8) Without Regard to Severance Benefits & OREO Transactions: Salaries and Employee Benefits $12,101 $12,052 $ 49 0.4 Other Operating Expense 6,867 7,015 (148) (2.1) Total Other Expense 21,998 22,359 (361) (1.6) </TABLE> Other (i.e. noninterest) expense decreased $1.2 million or 4.8% for the first nine months of 1995 compared with the first nine months of 1994. The overall decrease reflected a $1.6 million decrease in other operating expense, primarily attributable to a decrease in OREO liquidation expenses, offset in part by a $672 thousand increase in salary and employee benefits, most of which was attributable to one-time severance expenses. After making adjustments for these nonrecurring items, including OREO liquidation expenses, total other expense decreased $361 thousand or 1.6% in the first nine months of 1995 as compared to the 1994 period. Salaries and employee benefits, as thus adjusted, increased $49 thousand between the periods, as a decrease in gross salaries was offset by an increase in all areas of employee benefits including pension, insurance and other employee benefit plans. Occupancy and equipment expenses decreased $262 thousand. The decrease was primarily attributable to lower depreciation expenses in the 1995 period. Other operating expense decreased $148 thousand or 2.1% in the first nine months of 1995 as compared to the 1994 period. A $510 thousand reduction in FDIC and other insurance expense was offset by increases in other expenses, primarily legal costs. Income Taxes <TABLE> <CAPTION> SUMMARY OF INCOME TAXES (Dollars in Thousands) Sep 1995 Sep 1994 $ Change <S> <C> <C> <C> Provision for Income Taxes $ 5,524 $ 288 $5,236 </TABLE> The provisions for federal and state income taxes amounted to $5.5 million and $288 thousand for the first nine months of 1995 and 1994, respectively. The low level of the provision for the 1994 period resulted from utilization of a net operating loss carryforward and a reduction in the valuation allowance for deferred tax assets. That benefit amounted to $3.1 million for the first nine months of 1994. During the fourth quarter of 1994 the Company utilized the remaining net operating loss carryforward, and no such benefit was not available for the 1995 period. On a comparative basis, the effective tax rate was 36.0% and 37.1% for the nine month periods ended September 30, 1995 and 1994, respectively. The decrease in the effective tax rate for the 1995 period was primarily attributable to a relative increase in holdings of tax exempt bonds offset in part by a 1% increase in the federal income tax rate. PAGE 17
PART II - OTHER INFORMATION Item 1. Legal Proceedings The Company is not involved in any material pending legal proceedings, other than ordinary routine litigation occurring in the normal course of its business. The Company's subsidiary banks are parties to various legal claims which arise in the normal course of their business. . The various pending legal claims against the subsidiary banks will not, in the current opinion of management, likely result in any material liability to the subsidiary banks or the Company. Item 2. Changes in Securities - None Item 3. Defaults Upon Senior Securities - None Item 4. Submission of Matters to a Vote of Security Holders - None Item 5. Other Information - None Item 6. Exhibits and Reports Filed on Form 8-K Exhibit 27 Financial Data Schedule (Submitted with Electronic Filing Only) Page 19 On August 4, 1995, the Company filed a Form relating to (a) the redemption of the Company's 8 1/8 percent subordinated debentures due December 1, 1996, and cancellation of the related mandatory stock purchase contracts, (b) the Company's entering into an agreement to sell eight branches of Green Mountain Bank to Mascoma Savings Bank, and ( c) the resignation of Green Mountain Bank president, J. Peter Yankowski. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ARROW FINANCIAL CORPORATION Registrant Date: November 10, 1995 s/ Michael F. Massiano Michael F. Massiano, Chairman and President (Chief Executive Officer) Date: November 10, 1995 s/ John J. Murphy John J. Murphy, Executive Vice President and Treasurer/CFO (Principal Financial Officer and Principal Accounting Officer) PAGE 18