United StatesSECURITIES AND EXCHANGE COMMISSION
FORM 10-Q
(Mark One)
For quarterly period ended March 31, 2005
Commission file number 0-18539
EVANS BANCORP, INC.
14 -16 North Main Street, Angola, New York 14006
(716) 926-2000
Not applicable
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the exchange Act)
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
Common Stock, $.50 Par Value— 2,593,494 shares as of May 11, 2005
INDEX
EVANS BANCORP, INC. AND SUBSIDIARIES
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PART I - FINANCIAL INFORMATION
See Notes to Unaudited Consolidated Financial Statements
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See notes to Unaudited Consolidated Financial Statements
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PART 1 - FINANCIAL INFORMATIONITEM 1 - FINANCIAL STATEMENTS
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PART I - FINANCIAL INFORMATIONITEM I - FINANCIAL STATEMENTS
(continued)
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EVANS BANCORP, INC. AND SUBSIDIARIESUNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWSFOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004(in thousands)
(concluded)
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PART 1 – FINANCIAL INFORMATIONITEM 1 – FINANCIAL STATEMENTS
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Allowance for loan losses
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Three Months EndedMarch 31, 2005(in thousands)
Three Months EndedMarch 31, 2004(in thousands)
Starting January 1, 2005, the activities of non-deposit investment service sales have been functionally reorganized into the Company’s Insurance Agency Activities and are being internally managed as a segment of ENBI. As a result, all activities have been reported as Insurance Agency Activities beginning January 1, 2005. Activities prior to January 1, 2005 have been reclassified as Insurance Agency Activities for comparative purposes.
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ITEM 2 — MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q may contain certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve substantial risks and uncertainties. When used in this report, or in the documents incorporated by reference herein, the words “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “plan,” “seek,” and similar expressions identify such forward-looking statements. These forward-looking statements include statements regarding the Company’s business plans, prospects, growth and operating strategies, statements regarding the asset quality of the Company’s loan and investment portfolios, and estimates of the Company’s risks and future costs and benefits.
These forward-looking statements are based largely on the expectations of the Company’s management and are subject to a number of risks and uncertainties, including but not limited to general economic conditions, either nationally or in the Company’s market areas, that are worse than expected; increased competition among depository or other financial institutions; inflation and changes in the interest rate environment that reduce the Company’s margins or reduce the fair value of financial instruments; changes in laws or government regulations affecting financial institutions, including changes in regulatory fees and capital requirements; the Company’s ability to enter new markets successfully and capitalize on growth opportunities; the Company’s ability to successfully integrate acquired entities; changes in accounting pronouncements and practices, as adopted by financial institution regulatory agencies, the Financial Accounting Standards Board (“FASB”) and the Public Company Accounting Oversight Board; changes in consumer spending, borrowing and saving habits; changes in the Company’s organization, compensation and benefit plans; and other factors discussed elsewhere in this report on Form 10-K, as well as in the Company’s periodic reports filed with the Securities and Exchange Commission (the “SEC”). Many of these factors are beyond the Company’s control and difficult to predict.
Because of these and other uncertainties, the Company’s actual results, performance or achievements could differ materially from those contemplated, expressed or implied by the forward-looking statements contained herein. Forward-looking statements speak only as of the date they are made. The Company undertakes no obligation, to publicly update or revise forward-looking information, whether as a result of new, updated information, future events or otherwise.
APPLICATION OF CRITICAL ACCOUNTING ESTIMATES
The Company’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America and follow general practices within the industries in which it operates. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the consolidated financial statements. Accordingly, as this information changes, the consolidated financial statements could reflect different estimates, assumptions and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments, and as such have a greater possibility of producing results that could be materially different than originally reported.
The most significant accounting policies followed by the Company are presented in Note 1 to the consolidated financial statements in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2004. These policies, along with the disclosures presented in the other notes to consolidated financial statement and in this Management’s Discussion and Analysis of Financial Condition and Results of Operations provide information on how significant assets and liabilities are valued in the Company’s consolidated financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions and estimates underlying those amounts, management has identified the determination of the allowance for loan losses and valuation of goodwill to be the accounting areas that require the most subjective or complex judgments and as such could be most subject to revision as new information becomes available.
The allowance for loan losses represents management’s estimate of probable credit losses in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on the impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the consolidated balance sheets.
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The amount of goodwill reflected in the Company’s consolidated financial statements is required to be tested by management for impairment on at least an annual basis. The test for impairment of goodwill on the identified reporting unit is considered a critical accounting estimate because it requires judgment and the use of estimates related to the growth assumptions and market multiples used in the valuation model.
ANALYSIS OF FINANCIAL CONDITION
Average Balance Sheet
The following table presents the significant categories of the assets and liabilities of the Company, interest income and interest expense, and the corresponding yields earned and rates paid for the periods indicated. The assets and liabilities are presented as daily averages. The average loan balances include both performing and non-performing loans. Investments are included at amortized cost. Yields are presented on a non tax-equivalent basis.
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Loan Activity
Total gross loans grew to $225.9 million at March 31, 2005, reflecting a 2.4% or $5.3 million increase from December 31, 2004. Commercial loans totaled $157.5 million at March 31, 2005, reflecting a 3.8% or $5.7 million increase from December 31, 2004. Consumer loans totaled $67.8 million at March 31, 2005, reflecting a 0.6% or $0.4 million decrease from December 31, 2004. The Bank continues to sell certain fixed rate residential mortgages originated below a designated interest level to the Federal National Mortgage Association (“FNMA”), while maintaining the servicing rights. During the first quarter 2005, the Bank sold mortgages to the FNMA totaling $1.2 million as compared to $0.9 million during the first quarter 2004. At March 31, 2005, the Bank had a loan servicing portfolio principal balance of $29.8 million upon which it earns servicing fees. This loan servicing portfolio balance compares to $29.2 million at December 31, 2004.
Loan Portfolio Composition
The following table presents selected information on the composition of the Company’s loan portfolio in dollar amounts and in percentages as of the dates indicated.
Asset quality continues to remain strong with net recoveries of $29 thousand in the first quarter of 2005. Non-performing loans, defined as accruing loans greater than 90 days past due and non-accrual loans, totaled 0.99% of total loans outstanding at March 31, 2005 as compared to 0.82% at December 31, 2004. The increase in non-performing loans was primarily due to one $500,000 commercial loan becoming 90 days past due in the first quarter of 2005. The allowance for loan losses totaled $3.2 million or 1.41% of gross loans outstanding at March 31, 2005 as compared to $3.0 million or 1.36% of gross loans outstanding at December 31, 2004.
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The adequacy of the Company’s allowance for loan losses is reviewed quarterly by the Company’s management with consideration given to loan concentrations, charge-off history, delinquent loan percentages, and general economic conditions. Management believes the allowance for loan losses is adequate for credit losses from existing loans.
The following table sets forth information regarding non-performing loans as of the dates specified.
For the quarter ended March 31, 2005, gross interest income that would have been reported on non-accruing loans, had they been current, was $31 thousand. There was no interest income included in net income for the quarter ended March 31, 2005 on non-accruing loans.
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The following table sets forth information regarding the allocation of the allowance for loan losses as of the dates specified.
Allocation of the Allowance for Loan Losses
Investing Activities
The Company’s securities portfolio increased by 4.5%, or $7.7 million, to approximately $177.6 million at March 31, 2005 as compared to approximately $169.9 million at December 31, 2004. The growth in the securities portfolio was due in part to the seasonal growth in Muni-Vest deposits during the three month period ended March 31, 2005, discussed below. Available funds continue to be invested in U.S. government and agency securities and tax-advantaged bonds issued by New York State municipalities and school districts. The Company monitors extension and prepayment risk in the portfolio to limit potential exposures. Management believes the average expected life of the portfolio is 3.90 years as of March 31, 2005, as compared to 3.92 years as of December 31, 2004. Available-for-sale securities with a total fair value of $152.4 million at March 31, 2005 were pledged as collateral to secure public deposits and for other purposes required or permitted by law.
Funding Activities
Total deposits during the quarter increased 18.3% to $357.0 million at March 31, 2005 from $301.9 million at December 31, 2004. Regular savings deposits decreased to $94.8 million at March 31, 2005, reflecting a 6.6% or $6.7 million decrease for the quarter, partially due to funds reallocated to a certificate of deposit promotion related to the Bank’s new branch opening in January 2005. Time deposits less than $100,000 increased 38.5% or $21.5 million. Muni-Vest deposits increased 75.8% or $30.5 million for the quarter, due to the normal inflow of municipal tax receipts, which occurs during the first quarter of the calendar year. Core deposits (all deposits excluding time deposits greater than $100,000) increased to $321.8 million, reflecting a 19.5% or $52.5 million increase for the quarter. Time deposits $100,000 and over increased 11.8%, and securities sold under agreement to repurchase decreased 5.2% from December 31, 2004. The balances of these items vary day to day within a range based on customer transaction volume. Variances within that range represent normal deposit activity.
Other Balance Sheet Changes
Other borrowed funds decreased to $40.9 million at March 31, 2005 from $68.0 million at December 31, 2004. The decrease of approximately $27.1 million is primarily attributed to the Bank paying down borrowings with funds generated from Muni-Vest deposits and funds from a certificate of deposit promotion.
ANALYSIS OF RESULTS OF OPERATIONS
Net Income
Net income was $1.3 million or $0.49 per share for the quarter ended March 31, 2005 as compared to $1.2 million or $0.45 per share for the quarter ended March 31, 2004. Net income represented a return on average assets of 1.14% for the quarter ended March 31, 2005 compared to 1.33% for the same period in 2004. The return on
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average equity for the first quarter of 2005 was 14.17 % compared to 13.54% for the first quarter of 2004. The increase is primarily due to the factors discussed below.
Other Operating Results
Net interest income for the first quarter 2005 was $3.4 million and represented a $0.4 million increase from first quarter 2004, primarily as a result of growth in interest-earning assets and the acquisition of M&C Leasing Co., Inc. (“M&C Leasing”) on December 31, 2004. The net interest margin for the first quarter of 2005 was 3.42% as compared to 3.74% for the first quarter of 2004, primarily due to an increase in the Bank’s cost of interest-bearing liabilities, from 1.58% in 2004 to 2.13% in 2005. Muni-vest, time deposits, and interest on junior subordinated debentures issued were the primary drivers of this increase in the cost of funds.
The provision for loan losses increased to $151 thousand for the first quarter of 2005 from $136 thousand for the same time period in 2004. The increase was a result of continued commercial loan growth. Commercial real estate loans tend to have a higher credit risk than consumer loans. To offset this higher credit risk, the Bank continued to portfolio fixed rate residential loans during the quarter ended March 31, 2005.
Non-interest income was $3.0 million for the first quarter of 2005, an increase of $0.7 million, or 30.0% over the fourth quarter of 2004. This increase was primarily a result of an increase in insurance fee revenue of $0.7 million, or 49.8% over the prior year quarter. The increased insurance fee revenue in the quarter was partially the result of ENBI’s acquisition of Ulrich & Company, Inc. (“Ulrich & Company”) on October 1, 2004. Additionally, profit sharing revenue, revenue earned from performance with insurance companies from the prior year, resulted in insurance fee revenue of $0.7 million in the first quarter of 2005, an increase of $0.3 million from the $0.4 million profit sharing revenue in the first quarter of 2004.
Non-interest expense was $4.5 million for the first quarter of 2005, an increase of $0.9 million, or 23.4% over the first quarter of 2004. A component of the increase was an additional $0.4 million in salary and employee benefit expense related to Company growth and merit pay increases awarded in early 2005, as well as an increase in the number of employees related to the acquisitions of Ulrich & Company and M&C Leasing in the fourth quarter of 2004. In addition, occupancy expense for the first quarter of 2005 increased $0.1 million over the first quarter of 2004 primarily due to Company growth, including the insurance agency location in Lockport, New York in October 2004 and the Bank’s move to administrative offices in Hamburg, New York in July 2004. Additionally, in the first quarter of 2005, there was an aggregate $0.4 million increase over the first quarter of 2004 for the following expenses: advertising and public relations increased due to promotions for the Bank’s new branch location in North Buffalo, along with efforts to promote the Bank’s name in its new markets; professional services increased due to the Bank’s engagement of an outside consultant for a revenue enhancement project; other expenses increased primarily due to the acquisitions of Ulrich & Company and M&C leasing.
Income tax expense totaled $492 thousand and $388 thousand for the three month periods ended March 31, 2005 and 2004, respectively. The effective combined tax rate for the first quarter of 2005 was 28.1% compared to 24.9% for the first quarter of 2004. The increase is primarily a result of the decreased composition of non-taxable municipal securities as a percentage of the overall investment portfolio.
CAPITAL
The Bank has consistently maintained regulatory capital ratios at, or above, federal “well capitalized” standards. Total stockholders’ equity was $34.4 million at March 31, 2005, down from $35.5 million at December 31, 2004. This decrease is primarily attributable to unrealized investment losses recognized in the first quarter of 2005. Equity as a percentage of assets was 7.5% at March 31, 2005, compared to 8.3% at December 31, 2004. Book value per common share declined to $13.28 at March 31, 2005, from $13.68 at December 31, 2004.
LIQUIDITY
The Bank utilizes cash flows from the investment portfolio and federal funds sold balances to manage the liquidity requirements it experiences due to loan demand and deposit fluctuations. The Bank also has many borrowing options. As a member of the Federal Home Loan Bank (“FHLB”) the Bank is able to borrow funds at competitive rates. Advances of up to $16.0 million can be drawn on the FHLB via an Overnight Line of Credit Agreement between the Bank and the FHLB. An amount equal to 25% of the Bank’s total assets could be borrowed through the advance programs under certain qualifying circumstances. The Bank also has the ability to purchase up to $10.0 million in federal funds from one of its correspondent banks. By placing sufficient collateral in safekeeping at the Federal Reserve Bank, the Bank could also borrow at the discount window. Additionally, the Bank has access to capital markets as a funding source.
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Cash flows from the Bank’s investment portfolio are laddered, so the securities mature at regular intervals, to provide funds from principal and interest payments at various times as liquidity needs may arise. Contractual maturities are also laddered, with consideration as to the volatility of market prices, so that the securities are available for sale from time-to-time without the need to incur significant losses. At March 31, 2005, approximately 23.91% of the Bank’s securities had contractual maturity dates of one year or less and approximately 1.91% had maturity dates of five years or less. Available assets of $189.6 million, less public and purchased funds of $175.2 million, resulted in a long-term liquidity ratio of 108% at March 31, 2005, versus 102% at December 31, 2004.
Liquidity needs can also be met by more aggressively pursuing municipal deposits, which are normally awarded on the basis of competitive bidding. The Company believes that the Bank maintains a sufficient level of U.S. government and government agency securities and New York State municipal bonds that can be pledged as collateral for these deposits.
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ITEM 3 — QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Additional information responsive to this Item is contained in the Liquidity section of Management’s Discussion and Analysis of Financial Condition and Results of Operation, which information is incorporated herein by reference.
Market risk is the risk of loss from adverse changes in market prices and/or interest rates of the Bank’s financial instruments. The primary market risk the Company is exposed to is interest rate risk. The core banking activities of lending and deposit-taking expose the Bank to interest rate risk, which occurs when assets and liabilities reprice at different times and by different amounts as interest rates change. As a result, net interest income earned by the Bank is subject to the effects of changing interest rates. The Bank measures interest rate risk by calculating the variability of net interest income in the future periods under various interest rate scenarios using projected balances for interest-earning assets and interest-bearing liabilities. Management’s philosophy toward interest rate risk management is to limit the variability of net interest income. The balances of financial instruments used in the projections are based on expected growth from forecasted business opportunities, anticipated prepayments of loans, and investment securities and expected maturities of investment securities, loans and deposits. Management supplements the modeling technique described above with analysis of market values of the Bank’s financial instruments and changes to such market values given changes in the interest rates.
The Bank’s Asset Liability Committee, which includes members of senior management, monitors the Bank’s interest rate sensitivity with the aid of a computer model that considers the impact of ongoing lending and deposit taking activities, as well as interrelationships in the magnitude and timing of the repricing of financial instruments, including the effect of changing interest rates on expected prepayments and maturities. When deemed prudent, management has taken actions, and intends to do so in the future, to mitigate exposure to interest rate risk through the use of on – or off-balance sheet financial instruments. Possible actions include, but are not limited to, changing the pricing of loan and deposit products, and modifying the composition of interest-earning assets and interest-bearing liabilities, and other financial instruments used for interest rate risk management purposes.
The following table demonstrates the possible impact of changes in interest rates on the Bank’s net interest income over a 12 month period of time:
SENSITIVITY OF NET INTEREST INCOMETO CHANGES IN INTEREST RATES
Many assumptions were utilized by management to calculate the impact that changes in the interest rates may have on net interest income. The more significant assumptions related to the rate of prepayments of mortgage-related assets, loan and deposit volumes and pricing, and deposit maturities. The Bank assumed immediate changes in rates including 200 basis point rate changes. In the event that the 200 basis point rate changes cannot be achieved, the applicable rate changes are limited to lesser amounts such that interest rates cannot be less than zero. These assumptions are inherently uncertain and, as a result, the Bank cannot precisely predict the impact of changes in interest rates on net interest income. Actual results may differ significantly due to the timing, magnitude, and frequency of interest rate changes in market conditions and interest rate differentials (spreads) between maturity/repricing categories, as well as any actions such as those previously described, which management may take to counter such changes. In light of the uncertainties and assumptions associated with the process, the amounts presented in the table and changes in such amounts are not considered significant to the Bank’s projected net interest income.
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ITEM 4 — CONTROLS AND PROCEDURES
DISCLOSURE CONTROLS AND PROCEEDURES
The Company’s management, with the participation of the Company’s principal executive officer and principal financial officer, evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)) under the Exchange Act. Based on that evaluation, the Company’s principal executive and principal financial officers concluded that the Company’s disclosure controls and procedures as of March 31, 2005 (the end of the period covered by this Report) have been designed and are functioning effectively to provide reasonable assurance that the information required to be disclosed by the Company in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There were no changes in the Company’s internal control over financial reporting that occurred in the fiscal quarter ended March 31, 2005 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II — OTHER INFORMATION
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds
Issuer Purchases of Equity Securities
The following table includes all Company repurchases made on a monthly basis during the period covered by this report, including those made pursuant to publicly announced plans, or programs.
All of the foregoing shares were purchased in open market transactions. On October 22, 2003, the Company announced that its Board of Directors had authorized the repurchase of up to 50,000 shares of the Company’s common stock over a two year period. The Company did not make any repurchases during the quarter ended March 31, 2005 other than pursuant to this publicly announced program, and there were no other publicly announced plans outstanding as of March 31, 2005.
ITEM 5. Other Information
The Company maintains long term disability insurance for all of its employees, which provides 67 percent replacement income coverage when an employee becomes disabled, with a maximum monthly benefit of $10,000. On May 12, 2005, each of the Company’s executive officers, including its named executive officers (which officers were determined by reference to the Company’s proxy statement dated March 28, 2005), executed applications with Massachusetts Mutual Life Insurance Company for supplemental disability income insurance coverage, to
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supplement the monthly income benefit payable under the Company’s group long term disability insurance to the Company’s highly compensated employees, including the Company’s named executive officers. In addition to the payment of additional monthly insurance benefits, the supplemental disability income insurance provides a $500 monthly contribution to a retirement account on the disabled executive officer’s behalf. The supplemental disability insurance coverage is effective June 1, 2005.
ITEM 6. Exhibits
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed by the undersigned thereunto duly authorized.
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Exhibit Index