SECURITIES & EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED June 30, 1998 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM __________TO___________ Commission file number 2-81353 CENTER BANCORP, INC. ----------------------------------------------------------------------- (Exact name of registrant as specified in its charter) New Jersey 52-1273725 - -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 2455 Morris Avenue, Union, New Jersey 07083 ------------------------------------------------------------------------ (Address of principal executives offices) (Zip Code) (908) 688-9500 ------------------------------------------------------------------------ (Registrant's telephone number, including area code) ------------------------------------------------------------------------ (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No [ ] Shares outstanding on June 30, 1998 - -------------------------------------------- Common stock no par value - 3,558,979 shares
CENTER BANCORP INC. INDEX TO FORM 10-Q PART I. FINANCIAL INFORMATION PAGE Item I. Financial Statements Consolidated Statements of Condition at June 30, 1998 (Unaudited) and December 31, 1997 3 Consolidated Statements of Income for the Three and Six Months Ended June 30, 1998 and 1997 (Unaudited) 4 Consolidated Statements of Cash Flows for the Six Months Ended June 30, 1998 and 1997 (Unaudited) 5 Notes to the Consolidated Financial Statements 6-7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8-18 PART II. OTHER INFORMATION Item 1. Legal Proceedings 19 Item 2. Changes in Securities 19 Item 4. Submission of Matters to a Vote of Security Holders 19 Item 6. Exhibits 19 Signature 20 Exhibit Index 21
Center Bancorp Inc. Consolidated Statements of Condition <TABLE> <CAPTION> June 30, December 31, (Dollars in thousands) 1998 1997 ----------- ------------- (unaudited) Assets: <S> <C> <C> Cash and due from banks $ 14,517 $ 15,210 Federal funds sold 1,200 10,900 Securities purchased under agreement to resell 18,100 0 ---------- ---------- Total cash and cash equivalents 33,817 26,110 ---------- ---------- Investment securities held to maturity (approximate market value of $183,197 in 1998 and $198,960 in 1997) 186,432 196,980 Investment securities available for sale 112,378 101,318 ---------- ---------- Total investment securities 298,810 298,298 ---------- ---------- Loans, net of unearned income 139,524 132,424 Less - Allowance for loan losses 1,327 1,269 ---------- ---------- Net loans 138,197 131,155 ---------- ---------- Premises and equipment, net 8,952 9,130 Accrued interest receivable 4,483 4,350 Other assets 850 687 Goodwill 3,220 3,382 ---------- ---------- Total assets $ 488,329 $ 473,112 ---------- ---------- Liabilities Deposits: Non-interest bearing $ 79,512 $ 77,821 Interest bearing: Certificates of deposit $100,000 and over 95,050 116,746 Savings and time deposits 247,511 241,443 ---------- ---------- Total deposits 422,073 436,010 Federal funds purchased and securities sold under agreements to repurchase 27,959 700 Accounts payable and accrued liabilities 3,270 2,980 ---------- ---------- Total liabilities 453,302 439,690 Stockholders' equity Common stock, no par value: Authorized 20,000,000 shares; issued 4,021,495 and 4,012,372 shares in 1998 and 1997, respectively 7,461 7,296 Additional paid in capital 3,577 3,513 Retained earnings 24,970 23,829 ---------- ---------- 36,008 34,638 Less - Treasury stock at cost (462,516 shares in 1998 and 470,202 shares in 1997, respectively 1,777 1,808 Accumulated other comprehensive income 796 592 ---------- ---------- Total stockholders' equity 35,027 33,422 ---------- ---------- Total liabilities and stockholders' equity $ 488,329 $ 473,112 ---------- ---------- </TABLE> All share amounts have been restated to reflect the 3-for-2 stock split distributed on May 29, 1998 to stockholders of record May 1, 1998 and the 5% stock dividend distributed in May of 1997. See Accompanying Notes to Consolidated Financial Statements
Center Bancorp Inc. Consolidated Statements of Income (unaudited) <TABLE> <CAPTION> Three Months Ended Six Months Ended June 30, June 30, --------------------------- --------------------------- (in thousands, except per share data) 1998 1997 1998 1997 ---------- ---------- ---------- ---------- <S> <C> <C> <C> <C> Interest income: Interest and fees on loans $ 2,698 $ 2,455 $ 5,370 $ 4,853 Interest and dividends on investment securities: Taxable interest income 4,618 4,933 9,229 9,437 Nontaxable interest income 174 240 367 499 Interest on Federal funds sold and securities purchased under agreement to resell 237 108 286 309 ---------- ---------- ---------- ---------- Total interest income 7,727 7,736 15,252 15,098 ---------- ---------- ---------- ---------- Interest expense: Interest on certificates of deposit $100,000 1,316 1,495 2,627 2,765 or more Interest on other deposits 1,938 2,013 3,939 4,025 Interest on short-term borrowings 323 188 476 295 ---------- ---------- ---------- ---------- Total interest expense 3,577 3,696 7,042 7,085 Net interest income 4,150 4,040 8,210 8,013 ---------- ---------- ---------- ---------- Provision for loan losses 30 0 60 0 Net interest income after provision for loan losses 4,120 4,040 8,150 8,013 ---------- ---------- ---------- ---------- Other income: Service charges, commissions and fees 168 137 348 275 Other income 38 39 81 70 ---------- ---------- ---------- ---------- Total other income 206 176 429 345 ---------- ---------- ---------- ---------- Other expense: Salaries and employee benefits 1,431 1,384 2,766 2,682 Occupancy expense, net 258 242 520 520 Premises and equipment expense 283 321 554 649 Stationary and printing expense 146 120 187 196 Marketing and advertising 93 81 202 208 Other expenses 632 568 1,191 932 ---------- ---------- ---------- ---------- Total other expense 2,843 2,716 5,420 5,187 ---------- ---------- ---------- ---------- Income before income tax expense 1,483 1,500 3,159 3,171 Income tax expense 527 554 1,070 985 ---------- ---------- ---------- ---------- Net income $ 956 $ 946 $ 2,089 $ 2,186 ---------- ---------- ---------- ---------- Earnings per share $ $ $ $ Basic .27 .27 .59 .62 Diluted .26 .26 .58 .61 ---------- ---------- ---------- ---------- Average weighted common shares outstanding Basic 3,558,008 3,533,811 3,553,345 3,529,212 Diluted 3,594,115 3,569,120 3,592,707 3,555,765 ---------- ---------- ---------- ---------- </TABLE> All share and per share amounts have been restated to reflect the 3-for-2 stock split distributed on May 29, 1998 to stockholders of record May 1, 1998 and the 5% stock dividend distributed in May of 1997. See Accompanying Notes to Consolidated Financial Statements
Center Bancorp Inc. Consolidated Statements of Cash Flows <TABLE> <CAPTION> Six Months Ended June 30 --------------------------------- (Dollars in thousands) 1998 1997 -------- -------- <S> <C> <C> CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 2,089 $ 2,186 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 677 735 Provision for Loan Losses 60 0 Increase in accrued interest receivable (133) (408) Increase in other assets (164) (283) Increase in other liabilities 290 556 Amortization of premium and accretion of discount on investment securities, net 143 141 -------- -------- Net cash provided by operating activities 2,962 2,927 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from maturities of securities 41,576 8,801 available-for-sale Proceeds from maturities of securities held-to-maturity 23,489 17,265 Purchase of securities available-for-sale (45,671) (27,744) Purchase of securities held-to-maturity (19,724) (36,011) Net increase in loans (7,160) (8,121) Property and equipment expenditures, net (338) (32) -------- -------- Net cash used in investing activities (7,828) (45,842) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Net increase in deposits (13,937) (4,436) Dividends paid (947) (919) Proceeds from issuance of common stock 198 145 Net increase in short-term borrowing 27,259 23,482 -------- -------- Net cash provided by financing activities 12,573 18,272 -------- -------- Net increase (decrease) in cash and cash 7,707 (24,643) equivalents -------- -------- Cash and cash equivalents at beginning of period 26,110 43,061 -------- -------- Cash and cash equivalents at end of period $ 33,817 $ 18,418 -------- -------- Supplemental disclosures of cash flow information: Interest paid on deposits and short-term borrowings $ 7,041 $ 7,007 Income taxes $ 304 $ 353 </TABLE>
Notes to Consolidated Financial Statements NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements of Center Bancorp Inc., (the Corporation) are prepared on the accrual basis and include the accounts of the Corporation and its wholly owned subsidiary, Union Center National Bank (the Bank). All significant intercompany accounts and transactions have been eliminated from the accompanying consolidated financial statements. BUSINESS The Bank provides a full range of banking services to individual and corporate customers through branch locations in Union and Morris Counties, New Jersey. The Bank is subject to competition from other financial institutions and is subject to the regulations of certain federal agencies and undergoes periodic examinations by those regulatory authorities. BASIS OF FINANCIAL STATEMENT PRESENTATION The consolidated financial statements have been prepared in conformity with generally accepted accounting principles. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the statement of condition and revenues and expenses for the applicable period. Actual results could differ significantly from those estimates. In the opinion of Management, all adjustments necessary for a fair presentation of the Corporation's financial position and results of operations for the interim periods have been made. Such adjustments are of a normal recurring nature. All share and per share amounts have been restated to reflect the 3-for-2 stock split distributed May 29, 1998 to stockholders of record on May 1, 1998. Also reflected and restated for all prior periods is the 5% stock dividend distributed on May 31, 1997. Results for the period ended June 30, 1998 are not necessarily indicative of results for any other interim period or for the entire fiscal year. Reference is made to the Corporation's Annual Report on Form 10-K for the year ended December 31, 1997 for information regarding accounting principles. NOTE 2 RECENTLY ISSUED ACCOUNTING STANDARDS SFAS No. 130 FASB Statement No. 130, "Reporting Comprehensive Income" (Statement 130) establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains, and losses) in a full set of general-purpose financial statements. Statement 130 requires that all items that are required to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. Statement 130 does not require a specific format for that financial statement but requires that an enterprise display an amount representing total comprehensive income for the period in that financial statement.
Statement 130 requires that an enterprise (a) classify items of other comprehensive income by their nature in a financial statement and (b) display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. This statement is effective for fiscal years beginning after December 15, 1997. Reclassification of financial statements for earlier periods provided for comparative purposes is required. The Corporation adopted Statement 130 on January 1, 1998 and the required disclosure is contained in the table set forth below. <TABLE> <CAPTION> Three Months Six Months Ended June 30, Ended June 30, (in thousands) 1998 1997 1998 1997 ---- ---- ---- ---- Comprehensive Income - ----------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> Net Income $ 956 $ 946 $2,089 $2,186 Other comprehensive income Unrealized holding gains arising during the period, net of taxes 69 543 204 138 ------ ------ ------ ------ Total comprehensive income $1,025 $1,489 $2,293 $2,324 ====== ====== ====== ====== </TABLE> SFAS No. 132 In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about Pensions and Other Post Retirement Benefits". This Statement standardizes the disclosure requirements for pensions and other post retirement benefits by requiring additional information that will facilitate financial analysis, and eliminating certain disclosures that are considered no longer useful. SFAS No. 132 supersedes the disclosure requirements in SFAS Nos. 87, 88, and 106. This Statement is effective for fiscal years beginning after December 15, 1997. Restatement of disclosures for earlier periods provided for comparative purposes is required unless the information is nor readily available. SFAS No. 133 In June 1998, the FASB adopted a New Statement of Accounting Standards, SFAS No. 133, "Accounting for Derivatives and Similar Financial Instruments and for Hedging Activities." This Statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically designated as (a) a hedge of the exposure to changes in the fair value of a recognized asset or liability or an unrecognized firm commitment, (b) a hedge of the exposure to variable cash flows of a forecasted transaction, or (c) a hedge of the foreign currency exposure of a net investment in a foreign operation, an unrecognized firm commitment, an available-for-sale security, or a foreign-currency-denominated forecasted transaction. This Statement is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. Initial application of this Statement should be as of the beginning of an entity's fiscal quarter; on that date, hedging relationships must be designated a new and documented pursuant to the provisions of this Statement. Earlier application of all of the provisions of this Statement is encouraged, but it is permitted only as of the beginning of any fiscal quarter that begins after issuance of this Statement. This Statement should not be applied retroactively to financial statements of prior periods.
Management's Discussion & Analysis of Financial Condition and Results of Operations Net income and earnings per share decreased for the first six months of 1998 compared to the first six months of 1997. Net income for the six months ended June 30, 1998 was $2,089,000 as compared to $2,186,000 earned for the comparable six month period of 1997. On a diluted per share basis, earnings were $0.58 as compared to $0.61 per share for the six months ended June 30, 1997. The annualized return on average assets was 0.88 percent for the six months ended June 30, 1998 as compared with 0.92 percent for the comparable period in 1997, while the annualized return on average stockholders' equity was 12.1 percent and 14.2 percent, respectively. Earnings performance for the six months ended June 30, 1998, reflected increased net interest income offset by increases in non-interest expense and income tax expense. All share and per share amounts have been restated to reflect the 3 for 2 stock split distributed in May of 1998 and the 5% stock dividend distributed on May 18, 1997. Net income for the three months ended June 30, 1998 amounted to $956,000 as compared to $946,000 for the comparable three month period ended June 30, 1997. On a diluted per share basis, earnings were $0.26 and $0.26 per share for both three month periods ended June 30, 1998 and 1997, while the annualized return on average assets was 0.80 percent for the three months ended June 30, 1998 compared with 0.78 percent for the comparable three month period in 1997. The annualized return on average stockholders' equity was 11.0 percent for the three month period ended June 30, 1998 as compared to 12.2 percent for the comparable three months ended June 30, 1997. Earnings performance for the second quarter of 1998 reflects an increase in net interest income and non-interest income partially offset by an increase in non- interest expense. Net interest income is the difference between the interest earned on the portfolio of earning-assets (principally loans and investments) and the interest paid for deposits and short-term borrowings which support these assets. Net interest income is presented below first in accordance with the Corporation's consolidated financial statements and then on a fully tax-equivalent basis by adjusting tax-exempt income (primarily interest earned on various obligations of state and political subdivisions) by the amount of income tax which would have been paid had the assets been invested in taxable issues. Net Interest Income <TABLE> <CAPTION> - ----------------------------------------------------------------------------------------------------------------- (dollars in thousands) Three months ended Six months ended June 30, June 30, Percent Percent 1998 1997 Change 1998 1997 Change ---- ---- ---- ---- <S> <C> <C> <C> <C> <C> <C> Interest income: Investments $4,792 $5,173 (7.37) $ 9,596 $ 9,936 (3.42) Loans, including fees 2,698 2,455 9.90 5,370 4,853 10.65 Federal funds sold 237 108 119.44 286 309 (7.44) ------ ------ ------- ------- Total interest income 7,727 7,736 (.12) 15,252 15,098 1.02 ------ ------ ------- ------- Interest expense: Certificates $100,000 or 1,316 1,495 (11.97) 2,627 2,765 (4.99) more Deposits 1,938 2,013 (3.73) 3,939 4,025 (2.14) Short-term borrowings 323 188 71.81 476 295 61.36 ------ ------ ------- ------- Total interest expense 3,577 3,696 (3.22) 7,042 7,085 (0.61) ------ ------ ------- ------- Net Interest income * 4,150 4,040 2.72 8,210 8,013 2.46 ------ ------ ------- ------- Tax-equivalent adjustment 99 124 (20.16) 189 257 (24.46) Net interest income on a fully tax-equivalent basis $4,249 $4,164 2.04 $ 8,399 $ 8,270 1.56 ------ ------ ------- ------- </TABLE> * Before the provision for loan losses. NOTE: The tax-equivalent adjustment was computed based on an assumed statutory Federal income tax rate of 34 percent. Adjustments were made for interest accrued on securities of state and political subdivisions.
Net interest income on a fully tax-equivalent basis for the six months ended June 30, 1998 increased $129,000 or 1.56 percent, from approximately $8.3 million for the comparable six month period in 1997. The Corporation's gross interest yield rose 1 basis point to 3.77 percent from 3.76 percent in 1997 due to a 5 basis point decline in the average interest rates supporting earning assets offset by a 4 basis point decline in the average yield on earning-assets from 6.97 percent in 1997 to 6.93 percent for the six months in 1998. For the six months ended June 30, 1998 earning-assets increased by $5.0 million on average as compared with the six months ended June 30, 1997. Net interest income on a fully tax-equivalent basis increased $85,000 or 2.04 percent to approximately $4.2 million for the three months ended June 30, 1998, from approximately $4.1 million for the comparable period in 1997. The gross interest yield increased to 3.76 percent from 3.71 percent due to an 11 basis point decline in the average interest rates supporting earning-assets offset by a 4 basis point decline in the yield on earning-assets from 7.00 percent in 1997 to 6.94 percent in 1998. Average earning-assets increased by $1.5 million, as compared with the comparable three month period in 1997. The net decrease in average interest-bearing liabilities was $9.8 million over the comparable three month period in 1997. The 1998 second quarter changes in average volumes were primarily due to increased volumes of loans and federal funds sold and securities purchased under agreement to resell and funded by short-term borrowings and cashflows from the investment portfolio. Interest income for the six month period ended June 30, 1998 increased by approximately $154,000 or 1.02 percent, versus the comparable period ended June 30, 1997. The primary factor contributing to the increase was the previously cited changes in the mix and growth of average earning-assets, primarily loans. The Corporation's loan portfolio increased on average $13.1 million to $135.6 million from $122.5 million in the same period of 1997. This growth was primarily driven by growth in commercial loans, commercial mortgages, and home equity lines of credit. This growth was funded by increased short term borrowing and cashflows from the investment portfolio. The loan portfolio (traditionally the Corporation's highest yielding earning asset) represented approximately 30 percent of the Corporation's interest earning-assets (on average) for the six months ended June 30, 1998 as compared with 28 percent for the comparable period in 1997. For the three month period ended June 30, 1998 interest income decreased by $34,000 or 0.43 percent over the comparable three month period in 1997 on fully tax-equivalent basis. The primary factor contributing to the decrease was a lower level of tax-exempt interest income. The Corporation's loan portfolio increased on average $12.6 million to $136.6 million from $124.0 million in the same quarter in 1997, primarily driven by growth in commercial loans, commercial mortgages and home equity lines of credit. This growth was funded through cash flows from the investment portfolio and short term borrowings . The loan portfolio represented approximately 30 percent of the Corporation's interest-earning-assets (on average) during the second quarter of 1998 and 28 percent in the same quarter 1997. Interest income generated from the loan portfolio during the three months ended June 30, 1998 was driven by continued loan demand. Investments accounted for the most significant change in the earning-asset mix for both the six and three month periods ended June 30, 1998. Average investment volume decreased both for the six and three month periods in 1998 compared to 1997. For the six months ended June 30, 1998 investments decreased $6.9 million to $299.7 million. For the three months ended June 30, the decrease amounted to $14.9 million compared to the average investments for the second quarter of 1997. The decrease for both periods is attributable to the flatness of the yield curve as well as accelerated prepayment of principal during the second quarter of 1998 on outstanding mortgage backed securities. The flatness of the yield curve limited investment opportunities with sufficient spread to the Corporation, thereby curtailing reinvestment. Interest expense for the six months ended June 30, 1998 decreased as a result of a more favorable mix of deposits and lower cost short-term borrowings. For the six months ended June 30, 1998, interest expense decreased $43,000 or 0.61 percent as compared with the comparable six month period in 1997. Interest expense for the three months ended June 30, 1998 decreased as a result of the continued growth in short-term borrowings, coupled with the changes in deposit mix.
Inflationary concerns and uncertain prospects for continued economic growth have kept short-term interest rates unchanged at current levels, while the long and intermediate sectors of the curve have continued to flatten. There continues to be a disparity of rates in the short-term interest rate market versus that of core banking deposit rates. This in turn has affected the cost of funds associated with a number of the Corporation's funding products, i.e. municipal deposits tied to market indices, "Jumbo" Certificates of Deposits, and short-term repurchase agreements keeping them higher to meet the short end of the yield curve. Management believes that this pressure and continued flatness of the yield curve will continue to exert upward pressure on the cost of funds throughout 1998. Deposit growth during the first and second quarter of 1998 continued to be impacted by the depositors' desire for higher-yielding investment alternatives, such as mutual funds, stocks, tax-free instruments, and a variety of insurance products. Depositors have continued to shift funds from lower yielding savings and money market accounts into higher yielding certificates of deposit. Furthermore, the impact of this volume change in the deposit mix, coupled with the increased deposit volume indexed to this end of the curve, continued to be a major factor in the net change in the mix of funds, during 1998 as compared with 1997. For the six months ended June 30, 1998, the Corporation's net interest yield on a tax-equivalent basis (i.e. net interest income on a tax-equivalent basis as a percent of average interest-earning-assets) declined to 3.06 percent from 3.16 percent for the six months ended June 30, 1997. This decline reflected a narrowing of margins due to the previously discussed pressure on rates at the short-end of the yield curve. The increase in these funding costs continues to change disproportionately to the rates on new loans and investments. The yield on interest-earning assets for the six months ended June 30, 1998, declined to 6.93 percent from 6.97 percent in 1997. The average rate paid on interest-bearing liabilities increased to 3.87 percent from 3.81 percent in 1997. For the three months ended June 30, 1998, the Corporation's net interest yield on a tax-equivalent basis declined to 3.06 percent from 3.10 percent for the three months ended June 30, 1997. This decline reflected a narrowing of spreads between yields earned on loans and investments and rates paid for supporting funds. The yield on interest-earning assets for the three months ended June 30, 1998 declined to 6.94 percent from 7.00 percent in 1997. The average rates paid on supporting funds declined to 3.88 percent from 3.90 percent in 1997. The contribution of non-interest-bearing sources (i.e. the differential between the average rate paid on all sources of funds and the average rate paid on interest-bearing sources) was approximately 71 and 60 basis points during both six month periods ended June 30, 1998 and 1997, respectively, and 70 and 61 basis points for the respective three month periods ended June 30, 1998 and 1997. This trend reflects the continued deposit pricing pressure exerted on interest margins, due to a shifting of these deposits to interest-bearing accounts. Historically the Corporation has enjoyed more favorable volumes of these deposits which further underscores the change to more reliance on interest-bearing funding sources. Investments For the six months ended June 30, 1998, the average volume of investment securities decreased by $6.9 million as compared to the same period in 1997. The tax-equivalent yield on investments decreased to 6.52 percent or 13 basis points from a yield of 6.65 percent during the six month period ended June 30, 1997. The decline in the yield on the investment portfolio during the first six months of 1998 was offset through the purchase of higher coupon callable securities to replace, in certain cases, higher yielding investments which had matured, were prepaid, or were called. For the three months ended June 30, 1998, the average volume of investment securities decreased by $14.9 million to $302.2 million from approximately $317.1 million on average for the same three month period in 1997. The tax-equivalent yield on the investments was 6.46 percent and 6.68 percent in 1998 and 1997, respectively. The impact of repricing activity on yields was lessened by a change in bond segmentation and some extension where risk is minimal within the portfolio investment maturities, resulting in narrowed spreads and by the flatness of the yield curve and uncertainty of future rates. Securities available-for-sale are a part of the Corporation's interest rate risk management strategy and may be sold in response to changes in interest rates, changes in prepayment risk, liquidity management and other factors.
For the six months ended June 30, 1998, the total investment portfolio excluding overnight investments, averaged $299.7 million, or 67.2 percent of earning-assets, as compared to $303.6 million or 69.6 percent for the six months ended June 30, 1997. The principal components of the investment portfolio are U.S. Government Treasury and Federal Agency callable and noncallable securities, including agency issued collateralized mortgage obligations. Loans Loan growth during the first six months of 1998 occurred in all segments of the loan portfolio. This growth resulted from the Corporation's business development efforts enhanced by the Corporation's marketing programs and new product lines. The stabilization of yield in the portfolio was the result of a stable prime rate environment coupled with a competitive rate structure to attract new loans. The results of increased volume were lessened by continued re-financing activity and by the heightened competition for lending relationships that exists in the market area. The Corporation's desire to grow this segment of the earning asset mix is reflected in its current business development plan and marketing plans, as well as its short-term strategic plan. Analyzing the loan portfolio for the six months ended June 30, 1998, average loan volume increased $13.1 million or 10.72 percent, while portfolio yield remained flat at 7.92 percent, compared with the same period in 1997. The volume related factors contributed increased earnings of $520,000 offset by a decline of $1,000 in the rate related change. The increased total average loan volume was due to increased customer activity and new products. For the three months ended June 30, 1998, average loan volume increased $12.6 million, while the portfolio yield remained flat decreasing by 1 basis point as compared with the same period in 1997. The volume related factors contributed increased earnings of $249,000 offset by a decline of $3,000 due to rate related changes. Total average loan volume increased to $136.6 million with a net interest yield of 7.91 percent, as compared to $124.1 million with a yield of 7.92 percent for the three months ended June 30, 1997. Allowance for Loan Losses The purpose of the allowance for loan losses is to absorb the impact of losses inherent in the loan portfolio. Additions to the allowance are made through provisions charged against current operations and through recoveries made on loans previously charged-off. The allowance for loan losses is maintained at an amount considered adequate by Management to provide for potential credit losses based upon a periodic evaluation of the risk characteristics of the loan portfolio. In establishing an appropriate allowance, an assessment of the individual borrowers, a determination of the value of the underlying collateral, a review of historical loss experience and an analysis of the levels and trends of loan categories, delinquencies, and problem loans are considered. Such factors as the level and trend of interest rates and current economic conditions are also reviewed. At June 30, 1998 the level of allowance was $1,327,000 as compared to a level of $1,277,000 at June 30, 1997. The provision for loan losses during the six and three month periods ended June 30, 1998 amounted to $60,000 and $30,000, respectively. There was no provision during the first six months of 1997. 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 increase the allowance based on their analysis of information available to them at the time of their examinations. The allowance for loan losses as a percentage of total loans amounted to 0.95 percent and 1.01 percent at June 30, 1998, and 1997, respectively. In Management's view the level of the allowance as of June 30, 1998 is adequate to cover any loss experience. During the six month period ended June 30, 1998, the Corporation did not experience any substantial credit problems within its loan portfolio. Net charge-offs were approximately $2,000. At June 30, 1998 the Corporation had non-accrual loans amounting to $143,000 and $129,000 of non-accrual loans at June 30, 1997. The Corporation continues to aggressively pursue collections of principal and interest on loans previously charged off. The Corporation defines impaired loans to consist of non-accrual loans and loans internally classified as substandard or below, in each instance above an established dollar threshold. All loans below the established dollar threshold are considered homogenous and are collectively evaluated for impairment. The Corporation did not have any impaired loans in either 1998 or 1997.
The Corporation's statements herein regarding the adequacy of the allowance for loan losses may constitute forward looking statements under the Private Securities Reform Litigation Act of 1995. Actual results may indicate that the amount of the Corporation's allowance was inadequate. Factors that could cause the allowance to be inaccurate are the same factors that are analyzed by the Corporation in establishing the amount of the allowance. Changes in the allowance for possible loan losses for the period ended June 30, 1998 and 1997, respectively, are set forth below. Allowance for loan losses (in thousands) - -------------------------------------------------------------------------------- Six Months Ended June 30 1998 1997 Average loans outstanding 135,647 $122,509 -------- -------- Total loans at end of period 139,524 125,935 -------- -------- Analysis of the allowance for loan losses Balance at the beginning of year 1,269 1,293 Charge-offs: Commercial 0 1 Real estate-mortgage 0 0 Installment loans 8 19 -------- -------- Total charge-offs 8 20 Recoveries: Commercial 0 0 Real estate-mortgage 0 0 Installment loans 6 4 -------- -------- Total recoveries 6 4 Net Charge-offs: 2 16 -------- -------- Provision for Loan Losses 60 0 ======== ======== Balance at end of period $ 1,327 $ 1,277 ======== ======== Ratio of net charge-offs during the period to average loans outstanding during the period 0.00% 0.01% -------- -------- Allowance for loan losses as a percentage of total loans 0.95 1.01 -------- --------
Asset Quality The Corporation manages asset quality and credit risk by maintaining diversification in its loan portfolio and through review processes that include analysis of credit requests and ongoing examination of outstanding loans and delinquencies, with particular attention to portfolio dynamics and mix. The Corporation strives to identify loans experiencing difficulty early enough to correct the problems, to record charge-offs promptly based on realistic assessments of current collateral values, and to maintain an adequate allowance for loan losses at all times. These practices have protected the Corporation during economic downturns and periods of uncertainty. It is generally the Corporation's policy to discontinue interest accruals once a loan is past due as to interest/or principal payments for a period of ninety days. When a loan is placed on non-accrual, interest accruals cease and uncollected accrued interest is reversed and charged against current income. Payments received on non-accrual loans are applied against principal. A loan may only be restored to an accruing basis when it again becomes well secured and in the process of collection or all past due amounts have been collected. Loan origination fees and certain direct loan origination costs are deferred and recognized over the life of the loan as an adjustment to the loan's yield. At June 30, 1998 and 1997, the Corporation had no restructured loans. Non-accrual loans amounted to $143,000 at June 30, 1998, and were comprised of one residential mortgage loan and two home equity loans, as compared to $129,000 at June 30, 1997. Past due loans 90 days or more and still accruing amounted to $81,000 as of June 30, 1998 and $87,000 as of June 30, 1997. Of the balance, respectively, in each period, $76,000 and $87,000 were comprised of student loans, which are wholly guaranteed by the U.S. Government. Additionally, the Corporation did not have any other real estate owned (OREO) at June 30, 1998 and 1997. - ------------------------------------------------------------------------------ Non-Performing Assets Six Months Ended June 30 (dollars in thousands) 1998 1997 ==== ==== Loans past due 90 days and still accruing $81 $87 Non-accrual loans 143 129 ==== ==== Total non-performing assets $224 $216 ==== ==== Other Non-Interest Income The following table presents the principal categories of non-interest income for the three and six month periods ended June 30, 1998 and 1997. <TABLE> <CAPTION> - ----------------------------------------------------------------------------------------------------------- (dollars in thousands) Three months ended Six months ended June 30, June 30, 1998 1997 % change 1998 $ 1997 % change ----- ---- ---- ------ <S> <C> <C> <C> <C> <C> <C> Other income: Service charges, commissions and $168 $137 22.63 $348 $275 26.55 fees Other income 38 39 (2.56) 81 70 15.71 ---- ---- ---- ---- Total other income $206 $176 17.05 $429 $345 24.35 ---- ---- ---- ---- </TABLE> For the six month period ended June 30, 1998, total other (non-interest) income, reflects an increase of $84,000 or 24.4 percent compared with the comparable six month period ended June 30, 1997. This overall increase was primarily as a result of service charges, commissions, and fees. These fees increased primarily as a result of an increase in ATM surcharge income.
For the three months ended June 30, 1998, total other (non-interest) income, increased $30,000 or 17.1 percent as compared to the three months ended June 30, 1997. The increase in other income is primarily due to the increase in service charges, commissions and fees which primarily increased as a result of an increase in business activity. Other Non-Interest Expense The following table presents the principal categories of non-interest expense for the three and six month periods ended June 30, 1998 and 1997. <TABLE> <CAPTION> --------------------------------------------------------------------------------------------------------- (dollars in thousands) Three months ended Six months ended June 30, June 30, Other expense: 1998 1997 % change 1998 1997 % change ---------- -------- ----------- ---------- <S> <C> <C> <C> <C> <C> <C> Salaries and employee $1,431 $1,384 3.40 $2,766 $2,682 3.13 benefits Occupancy expense, net . 258 242 6.61 520 520 0.00 Premise & equipment expense 283 321 (11.84) 554 649 (14.64) Stationery and printing 146 120 21.67 187 196 (4.59) expense Marketing & Advertising 93 81 14.81 202 208 (2.97) Legal and Consulting 103 39 164.1 212 166 27.71 Other expenses 529 529 0.00 979 766 27.81 ------ ------ ------ ----- Total other expense $2,843 $2,716 4.68 $5,420 $5,187 4.49 ------ ------ ------ ----- </TABLE> For the six month period ended June 30, 1998, total other (non-interest) expenses increased $233,000 or 4.5 percent over the comparable period ended June 30, 1997. Salaries and employee benefits costs coupled with legal and consulting and other expenses (FDIC Insurance, Examination expense, Computer related and correspondent bank charges) comprised the primary components of the total increase for the period. For the three month period ended June 30, 1998 total other (non-interest) expenses increased $127,000 or 4.7 percent over the comparable three months ended June 30, 1997. Salaries and employee benefits costs coupled with legal and consulting as well as occupancy expenses comprised the primary components of the total increase for the three month period ended June 30, 1998. Prudent management of other expenses has been a key objective of Management in an effort to improve earnings efficiency. The Corporation's efficiency ratio (other expenses less nonrecurring expenses as a percentage of net interest income on a tax-equivalent basis plus non-interest income) for the six months ended June 30, 1998, was 61.4 percent as compared with 58.5 percent at June 30, 1997. For the three months ended June 30, 1998 this ratio was 63.8 percent as compared with 61.0 percent for the comparable period ended June 30, 1997. For the six months ended June 30, 1998, the increase in employment expense is primarily attributable to merit and promotional raises and the accrual in 1998 of an incentive expense. The increase of $47,000 or 3.4 percent during the three months ended June 30, 1998 as compared with the comparable three month period in 1997, was also attributable to these factors. The Corporation employed 144 full-time equivalent employees at June 30, 1998 versus 153 at June 30, 1997. Staffing levels required to support the growth of the Bank and to maintain current staffing levels at the Corporation's office locations were achieved though the use of temporary staff, who are not included in the employee count for 1998 but the expense is included as part of employment expense. Occupancy and equipment expenses for the six months ended June 30, 1998 decreased by $95,000 or 8.13 percent compared to the comparable period ended June 30, 1997. This decrease in expense is primarily attributed to lower depreciation expense on furniture and equipment as well as lower repair and maintenance expenses on equipment. Occupancy and equipment expenses for the three months ended June 30, 1998 decreased $22,000 or 3.91 percent from the comparable three month period in 1997. The decrease in expenses occurred in the same expense categories as noted above, with the exception that the increase in occupancy expense is related to our new Morristown banking center and rental increases on other leased locations.
Provision for Income Taxes The effective tax rate for the six month period ended June 30, 1998 was 33.9 percent as compared to 31.1 percent for the six months ended June 30, 1997. The effective tax rate for the six months ended June 30, 1998 approximates the statutory federal tax rate of 34 percent. The increase in the effective tax rates reflects the decreasing tax-exempt interest income on obligations of states and political subdivisions. Asset Liability Management The composition of the Corporation's statement of condition is planned and monitored by the Asset and Liability Committee (ALCO). Asset and Liability management encompasses the control of interest rate risk (interest sensitivity management) and the ongoing maintenance and planning of liquidity and capital. In general, management's objective is to optimize net interest income and minimize interest rate risk by monitoring these components of the statement of condition. Interest Sensitivity The management of interest rate risk is also important to the profitability of the Corporation. Interest rate risk arises when an earning asset matures or when its interest rate changes in a time period different from that of a supporting interest bearing liability, or when an interest bearing liability matures or when its interest rate changes in a time period different from that of an earning asset that it supports. While the Corporation matches only a small portion of specific assets and liabilities, total earning-assets and interest bearing liabilities are grouped to determine the overall interest rate risk within a number of specific time frames. Interest sensitivity analysis attempts to measure the responsiveness of net interest income to changes in interest rate levels. The difference between interest sensitive assets and interest sensitive liabilities is referred to as the interest sensitivity gap. At any given point in time, the Corporation may be in an asset-sensitive position, whereby its interest-sensitive assets exceed its interest-sensitive liabilities, or in a liability-sensitive position, whereby its interest-sensitive liabilities exceed its interest-sensitive assets, depending on management's judgment as to projected interest rate trends. The Corporation's rate sensitivity position in each time frame may be expressed as assets less liabilities, as liabilities less assets, or as the ratio between rate sensitive assets (RSA) and rate sensitive liabilities (RSL). For example, a short funded position (liabilities repricing before assets) would be expressed as a net negative position, when period gaps are computed by subtracting repricing liabilities from repricing assets. When using the ratio method, a RSA/RSL ratio of 1 indicates a balanced position, a ratio greater than 1 indicates an asset sensitive position, and a ratio less than 1 indicates a liability sensitive position. A negative gap and/or a rate sensitivity ratio less than 1 tends to expand net interest margins in a falling rate environment and to reduce net interest margins in a rising rate environment. Conversely, when a positive gap occurs, generally margins expand in a rising rate environment and contract in a falling rate environment. From time to time, the Corporation may elect to deliberately mismatch liabilities and assets in a strategic gap position. At June 30, 1998, the Corporation reflects a negative interest sensitivity gap (or an interest sensitivity ratio) of .50:1.0 at the cumulative one year position. During much of 1998 the Corporation had a negative interest sensitivity gap. The maintenance of a liability-sensitive position during 1997 had an adverse impact on the Corporation's net interest margins; however, based on management's perception that interest rates will continue to be volatile, emphasis has been placed on interest-sensitivity matching with the objective of achieving a stable net interest spread during 1998.
Liquidity The liquidity position of the Corporation is dependent on successful management of its assets and liabilities so as to meet the needs of both deposit and credit customers. Liquidity needs arise principally to accommodate possible deposit outflows and to meet customers' requests for loans. Such needs can be satisfied by scheduled principal loan repayments, maturing investments, short-term liquid assets and deposit in-flows. The objective of liquidity management is to enable the Corporation to maintain sufficient liquidity to meet its obligations in a timely and cost-effective manner. Management monitors current and projected cashflows, and adjusts positions as necessary to maintain adequate levels of liquidity. By using a variety of potential funding sources and staggering maturities, the risk of potential funding pressure is significantly reduced. Management also maintains a detailed liquidity contingency plan designed to adequately respond to situations which could lead to liquidity concerns. Anticipated cash-flows at June 30, 1998, projected to June of 1999, indicates that the Bank's liquidity should remain strong, with an approximate projection of $100.2 million in anticipated cashflows over the next twelve months. This projection represents a forward-looking statement under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from this projection depending upon a number of factors, including the liquidity needs of the Bank's customers, the availability of sources of liquidity and general economic conditions. The Corporation derives a significant proportion of its liquidity from its core deposit base. For the six month period ended June 30, 1998, average core deposits (comprised of total demand, savings accounts and money market accounts under $100,000) represented 50.9 percent of total deposits as compared with 47.6 percent on average in the comparable period in 1997. More volatile rate sensitive deposits, concentrated in time certificates of deposit for the six month period ended June 30, 1998, decreased slightly to 39.2 percent on average of total deposits from 39.5 percent during the six months ended June 30, 1997. Average funding sources during the six months ended June 30, 1998 decreased by approximately $5.1 million compared to 1997. The decrease was attributed to outflows in savings and time accounts offset in part by an increase in demand deposits and short-term borrowings. Non-interest bearing funding sources as a percentage of the funding mix increased to 16.5 percent on average as compared to 15.9 percent for the six month period ended June 30, 1997. Demand deposits as a percentage of the funding mix continue to be replaced by more expensive interest-bearing core deposits. Short-term borrowings can be used to satisfy daily funding needs. Balances in these accounts fluctuate significantly on a day-to-day basis. The Corporation's principal short-term funding sources are securities sold under agreement to repurchase and advances from the Federal Home Loan Bank (FHLB). Average short-term borrowings during the first six months of 1998 were $16.7 million, an increase of $5.8 million or 53.3 percent from $10.9 million in average short-term borrowings during the comparable six months ended June 30, 1997. This change was primarily due to insufficient core deposit funding. Cash Flow The consolidated statements of cash flows present the changes in cash and cash equivalents from operating, investing and financing activities. During the six months ended June 30, 1998, cash and cash equivalents (which increased overall by $7.7 million) were provided (on a net basis) by approximately $3.0 million in cash flows from operating activities and by $12.6 million in cash flows provided by financing activities. A total of $7.8 million was used in investing activities, of that amount $7.2 million was used to increase loans. Stockholders' Equity Stockholders' equity averaged $34.5 million for the six month period ended June 30, 1998, an increase of $3.6 million or 11.7 percent from $30.9 million, for the same period in 1997. The Corporation's dividend reinvestment and optional stock purchase plan contributed $165,000 in new capital for the six months ended June 30, 1998 as compared with $145,000 for the comparable period in 1997. Tangible book value per common share, after the 3-for-2 stock split effective May 1, 1998, distributed May 29, 1998, and the 5% stock dividend effective May 18, 1997, distributed May 31, 1997, was $8.94 at June 30, 1998 as compared to $8.48 at December 31, 1997. Tangible book value per common share was $7.86 at June 30, 1997, as adjusted for the above noted stock split and 5% stock dividend.
Capital The maintenance of a solid capital foundation continues to be a primary goal for the Corporation. Accordingly, capital plans and dividend policies are monitored on an ongoing basis. The most important objective of the capital planning process is to balance effectively the retention of capital to support future growth and the goal of providing stockholders with an attractive long-term return on their investment. Risk-Based Capital/Leverage FDIC regulations require banks to maintain minimum levels of regulatory capital. Under the regulations in effect at June 30, 1998, the Bank was required to maintain (i) a minimum leverage ratio of Tier 1 capital to total adjusted assets of 4.0%, and (ii) minimum ratios of Tier 1 and total capital to risk-weighted assets of 4.0% and 8.0%, respectively. At June 30, 1998, total Tier l capital (defined as tangible stockholders' equity for common stock and certain perpetual preferred stock) amounted to $31,011 million or 6.35 percent of total assets. The total Tier II leverage capital ratio was 6.62 percent of total assets. Tier I capital excludes the effect of SFAS No. 115, which amounted to $796,000 of net unrealized gain, after tax, on securities available-for-sale (included as a component of stockholders' equity) and goodwill of approximately $3.220 million as of June 30, 1998. At June 30, 1998, the Corporation's estimated Tier I risk based and total risk-based capital ratios were 15.84 percent and 16.51 percent, respectively. These ratios are well above the minimum guidelines of capital to risk-adjusted assets in effect as of June 30, 1998. Under its prompt corrective action regulations, bank regulators are required to take certain supervisory actions (and may take additional discretionary actions) with respect to an undercapitalized institution. Such actions could have a direct material effect on the institution's financial statements. The regulations establish a framework for the classification of financial institutions into five categories: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. Generally, an institution is considered well capitalized if it has a leverage (Tier 1) capital ratio of at least 5.0%; a Tier 1 risk-based capital ratio of at least 6.0%; and a total risk-based capital ratio of at least 10.5%. The foregoing capital ratios are based in part on specific quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by the bank regulators about capital components, risk weightings and other factors. As of June 30, 1998, management believes that the Bank meets all capital adequacy requirements to which it is subject.
YEAR 2000 CENTURY DATE CHANGE In May 1997, the Federal Financial Institutions Examination Council (FFIEC) issued a joint statement updating its prior statement, issued in June of 1996, addressing the assessment and preparedness for the Year 2000 Century date change. Regulators have defined a formal year 2000 management process to assist the financial industry in dealing with this issue on a timely basis. The year 2000 century date change poses a significant challenge for financial institutions, as well as all businesses, because many computer programs and applications will cease to function normally as a result of the way that date fields have been programmed historically. This date problem exists because the two-digit representation of the year will be interpreted in many applications to mean the year 1900, not 2000, unless the date or program logic is changed. The result could be a number of errors, including incorrect mathematical calculations and lost system files. The Corporation has implemented a strategic plan for Year 2000 compliance. The project objectives include assessment of the full effect of the Year 2000 issue, system development for testing and implementing solutions, determining how the Corporation will coordinate processing capabilities with its customer, vendor, and payment partners, and determining internal control requirements. As of June 1998, management has completed several phases of the plan, including identification, modification , and preliminary testing. Management's goal is to be compliant with regulatory guidelines by December 1998, although no assurances can be given that the Corporation will be able to satisfy this objective. At present, total costs to the Corporation of achieving Year 2000 compliance are estimated at $300,000. However, management believes that such costs may rise if and when additional issues arise that may require additional expenditures to make the Corporation Year 2000 compliant. In addition management has begun an evaluation process necessary to formulate a comprehensive contingency plan. It is expected that the contingency planing process will be completed during the fourth quarter of 1998. The immediately preceding sentence constitutes a forward-looking statement under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from the Corporation's forward-looking statement as a result of a variety of factors, including potential unavailability of technological resources, increased expenses associated with obtaining such resources and unanticipated technological difficulties.
II. OTHER INFORMATION Item 1 Legal proceedings The Corporation is subject to claims and lawsuits which arise primarily in the ordinary course of business. Based upon the information currently available, it is the opinion of management that the disposition or ultimate determination of such claims will not have a material adverse impact on the consolidated financial position or results of operations, or liquidity of the Corporation. Item 2 Changes in Securities On April 14, 1998, the Board of Directors of the registrant approved a three-for-two split on the common stock of the registrant, payable on May 29, 1998 to stockholders of record May 1, 1998. All share data has been retroactively adjusted for the common stock split. Item 4 Submission of Matters to Vote of Security Holders None Item 6 Exhibits and Reports on Form 8-K A) Exhibits: Exhibit (27-1) - Center Bancorp Inc. Financial Data Schedule - June 30, 1998 B) Reports on Form 8-K There were no reports on Form 8-K filed during the three months ended June 30, 1998.
SIGNATURE 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. CENTER BANCORP, INC. DATE: August 14, 1998 /s/ Anthony C. Weagley - --------------------- ----------------------------------- Anthony C. Weagley, Treasurer (Chief Financial Officer)