UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarter ended June 30, 2002 Commission file number 000-26121 LCNB Corp. ----------------------------------------------------- (Exact name of registrant as specified in its charter) OHIO 31-1626393 - ------------------------------- ------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification incorporation or organization) Number) 2 North Broadway, Lebanon, Ohio 45036 ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) (513) 932-1414 ---------------------------------------------------- (Registrant's telephone number, including area code) 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 The number of shares outstanding of the issuer's common stock, without par value, as of July 29, 2002, was 1,775,942 shares.
LCNB Corp. INDEX Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets - June 30, 2002, and December 31, 2001 . . . . . . . . . 1 Consolidated Statements of Income - Three and Six Months Ended June 30, 2002 and 2001. . . 2 Consolidated Statements of Shareholders' Equity - Six Months Ended June 30, 2002 and 2001. . . . . . . . 3 Consolidated Statements of Cash Flows - Six Months Ended June 30, 2002 and 2001. . . . . . . . 4 Notes to Consolidated Financial Statements. . . . . . .5-9 Independent Accountants' Review Report. . . . . . . . . 10 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations . . . . . . 11-23 Item 3. Quantitative and Qualitative Disclosures about Market Risks . . . . . . . . . . . . . . . . . . . . .23 Part II. Other Information Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . 24 Item 2. Changes in Securities and Use of Proceeds . . . . . . 24 Item 3. Defaults by the Company on its Senior Securities . . . 24 Item 4. Submission of Matters to a Vote of Security Holders. . 24 Item 5. Other Information . . . . . . . . . . . . . . . . . . 24 Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . 24
Part I - Financial Information Item 1. Financial Statements <TABLE> LCNB Corp. and Subsidiaries Consolidated Balance Sheets (thousands) <CAPTION> June 30, December 31, 2002 2001 (unaudited) (a) <s> <c> <c> ASSETS: Cash and due from banks $ 15,811 14,286 Federal funds sold 16,575 19,950 ------- ------- Total cash and cash equivalents 32,386 34,236 ------- ------- Securities available for sale, at market value 114,469 98,610 Federal Reserve Bank stock and Federal Home Loan Bank stock, at cost 2,820 2,772 Loans 330,254 327,165 Less-allowance for loan losses 2,000 2,000 ------- ------- Net loans 328,254 325,165 ------- ------- Premises and equipment, net 11,809 11,628 Accrued income receivable 3,136 3,051 Intangible assets 3,428 3,729 Other assets 1,363 1,244 ------- ------- TOTAL ASSETS $497,665 480,435 ======= ======= LIABILITIES: Deposits- Noninterest-bearing $ 56,685 59,137 Interest-bearing 376,702 355,635 ------- ------- Total deposits 433,387 414,772 Long-term debt 10,280 12,306 Accrued interest and other liabilities 3,842 3,850 ------- ------- TOTAL LIABILITIES 447,509 430,928 ------- ------- SHAREHOLDERS' EQUITY: Common stock-no par value, authorized 4,000,000 shares; issued and outstanding 1,775,942 shares 10,560 10,560 Surplus 10,553 10,553 Retained earnings 29,095 27,714 Treasury shares, at cost, 54,917 and 12,997 shares at June 30, 2002 and December 31, 2001, respectively (2,193) (516) Accumulated other comprehensive income, net of taxes 2,141 1,196 ------- ------- TOTAL SHAREHOLDERS' EQUITY 50,156 49,507 ------- ------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $497,665 480,435 ======= ======= <FN> (a) Financial information as of December 31, 2001, has been derived from the audited, consolidated financial statements of the Registrant. </FN> The accompanying notes to the consolidated financial statements are an integral part of these statements. </TABLE> -1-
<TABLE> LCNB Corp. and Subsidiaries Consolidated Statements of Income (In thousands except per share data) (unaudited) <CAPTION> Three Months Ended Six Months Ended June 30, June 30, ------------------ ---------------- 2002 2001 2002 2001 <s> <c> <c> <c> <c> INTEREST INCOME: Interest and fees on loans $6,206 6,916 12,460 14,011 Interest on federal funds sold 93 252 188 379 Dividends on Federal Reserve Bank and Federal Home Loan Bank stock 44 51 68 51 Interest on investment securities- Taxable 763 650 1,415 1,313 Non-taxable 431 368 838 741 ----- ----- ------ ------ TOTAL INTEREST INCOME 7,537 8,237 14,969 16,495 ----- ----- ------ ------ INTEREST EXPENSE: Interest on deposits 2,554 3,657 5,080 7,617 Interest on borrowings 177 155 366 286 ----- ----- ------ ------ TOTAL INTEREST EXPENSE 2,731 3,812 5,446 7,903 ----- ----- ------ ------ NET INTEREST INCOME 4,806 4,425 9,523 8,592 PROVISION FOR LOAN LOSSES 71 53 125 110 ------ ----- ------ ------ NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 4,735 4,372 9,398 8,482 ----- ----- ------ ------ NON-INTEREST INCOME: Trust income 230 197 531 405 Service charges and fees 600 583 1,179 1,144 Net gain (loss) on sale of securities 12 (1) 21 17 Insurance agency income 273 299 524 692 Other operating income 31 35 66 80 ----- ----- ------ ------ TOTAL NON-INTEREST INCOME 1,146 1,113 2,321 2,338 ----- ----- ------ ------ NON-INTEREST EXPENSE: Salaries and wages 1,624 1,461 3,239 2,957 Pension and other employee benefits 408 378 885 812 Equipment expenses 159 162 315 328 Occupancy expense, net 265 266 513 522 State franchise tax 131 131 272 262 Marketing 117 103 200 173 Intangible amortization 152 128 301 257 Other non-interest expenses 830 750 1,674 1,492 ----- ----- ------ ------ TOTAL NON-INTEREST EXPENSE 3,686 3,379 7,399 6,803 ----- ----- ------ ------ INCOME BEFORE INCOME TAXES 2,195 2,106 4,320 4,017 PROVISION FOR INCOME TAXES 619 570 1,218 1,124 ----- ----- ------ ------ NET INCOME $1,576 1,536 3,102 2,893 ===== ===== ====== ====== Dividends declared per common share $ 0.50 0.45 1.00 .90 Basic earnings per common share $ 0.92 0.87 1.80 1.63 Average shares outstanding (000's) 1,721 1,772 1,727 1,774 The accompanying notes to the consolidated financial statements are an integral part of these statements. </TABLE> -2-
<TABLE> LCNB Corp. and Subsidiaries Consolidated Statements of Shareholders' Equity (thousands) (unaudited) <CAPTION> Accumulated Other Total Common Retained Treasury Comprehensive Shareholders'Comprehensive Shares Surplus Earnings Shares Income Equity Income <s> <c> <c> <c> <c> <c> <c> <c> Balance January 1,2001 $10,560 10,553 24,916 - 281 46,310 Comprehensive Income: Net income 2,893 2,893 $2,893 Net unrealized gain on available-for-sale securities (net of taxes of $461) 895 895 895 Reclassification adjustment for net realized gain on sale of available-for-sale securities included in net income (net of taxes of $6) (11) (11) (11) ----- Total comprehensive income $3,777 ===== Treasury shares purchased (420) (420) Cash dividends declared (1,594) (1,594) ------ ------ ------ ------ ------ ------ Balance June 30, 2001 $10,560 10,553 26,215 (420) 1,165 48,073 ====== ====== ====== ====== ====== ====== Balance January 1,2002 $10,560 10,553 27,714 (516) 1,196 49,507 Comprehensive Income: Net income 3,102 3,102 $3,102 Net unrealized gain on available-for-sale securities (net of taxes of $494) 959 959 959 Reclassification adjustment for net realized gain on sale of available-for-sale securities included in net income (net of taxes of $7) (14) (14) (14) ----- Total comprehensive income $4,047 ===== Treasury shares purchased (1,677) (1,677) Cash dividends declared (1,721) (1,721) ------ ------ ------ ------ ------ ------ Balance June 30, 2002 $10,560 10,553 29,095 (2,193) 2,141 50,156 ====== ====== ====== ====== ====== ====== The accompanying notes to the consolidated financial statements are an integral part of these statements. </TABLE> -3-
<TABLE> LCNB Corp. and Subsidiaries Consolidated Statements of Cash Flows (thousands) (unaudited) <CAPTION> Six Months Ended June 30, ------------------ 2002 2001 <s> <c> <c> CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 3,102 2,893 Adjustments to reconcile net income to net cash Depreciation, amortization, and accretion 1,303 1,039 Provision for loan losses 125 110 Deferred income tax benefit (117) (64) Realized (gain) loss on sales of securities available for sale (21) (20) Origination of mortgage loans for sale (2,806) (4,098) Proceeds from sales of mortgage loans 2,827 4,113 (Increase) decrease in income receivable (85) 48 Increase (decrease) in other liabilities (1,023) (272) ------ ------ NET CASH PROVIDED BY OPERATING ACTIVITIES 3,305 3,749 ------ ------ CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales of securities available for sale 8,075 7,209 Proceeds from maturities of securities available for sale 9,426 6,716 Purchases of securities available for sale (32,271) (11,279) Purchases of Federal Home Loan Bank stock - (252) Net decrease (increase) in loans (3,429) (2,144) Purchases of premises and equipment (603) (911) Proceeds from sale of premises and equipment - 188 ------ ------ NET CASH USED IN INVESTING ACTIVITIES (18,802) (473) ------ ------ CASH FLOWS FROM FINANCING ACTIVITIES: Net change in deposits 18,615 6,062 Net change in short-term borrowings 456 1,268 Proceeds from long-term debt - 2,000 Principal payments on long-term debt (2,026) (25) Cash dividends paid (1,721) (1,594) Purchases of treasury shares (1,677) (420) ------ ------ NET CASH PROVIDED BY FINANCING ACTIVITIES 13,647 7,291 ------ ------ NET CHANGE IN CASH AND CASH EQUIVALENTS (1,850) 10,567 CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 34,236 18,262 ------ ------ CASH AND CASH EQUIVALENTS AT END OF PERIOD $32,386 28,829 ====== ====== SUPPLEMENTAL CASH FLOW INFORMATION: Interest paid $ 5,691 8,103 Income taxes paid 1,388 1,200 The accompanying notes to the consolidated financial statements are an integral part of these statements. </TABLE> -4-
LCNB Corp. and Subsidiaries Notes to the Consolidated Financial Statements (Unaudited) NOTE 1 - BASIS OF PRESENTATION Substantially all of the assets, liabilities and operations of LCNB Corp. ("LCNB") are attributable to its wholly owned subsidiaries, Lebanon Citizens National Bank ("Lebanon Citizens") and Dakin Insurance Agency, Inc. ("Dakin"). The accompanying unaudited consolidated financial statements include the accounts of LCNB, Lebanon Citizens, and Dakin. The statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, the unaudited consolidated financial statements include all adjustments (consisting of normal, recurring accruals) considered necessary for a fair presentation of financial position, results of operations and cash flows for the interim periods. The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Results of operations for the three and six months ended June 30, 2002 are not necessarily indicative of the results to be expected for the full year ending December 31, 2002. These unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements, accounting policies and financial notes thereto included in LCNB's 2001 Form 10-K filed with the Securities and Exchange Commission. The financial information presented on pages one through ten of this Form 10-Q has been subject to a review by J.D. Cloud & Co., L.L.P., LCNB's independent certified public accountants, as described in their report on page ten. NOTE 2 - EARNINGS PER SHARE Basic earnings per share is calculated by dividing net income by the weighted average number of common shares outstanding during the period. LCNB's capital structure includes no potential for dilution. There are no outstanding warrants, options or other arrangements that would increase the number of shares outstanding. -5-
LCNB Corp. and Subsidiaries Notes to the Consolidated Financial Statements (Unaudited) (Continued) NOTE 3 - LOANS Major classifications of loans at June 30, 2002 and December 31, 2001 are as follows (thousands): <TABLE> <CAPTION> June 30, December 31, 2002 2001 -------- ----------- <s> <c> <c> Commercial and industrial $ 36,815 $ 40,486 Commercial, secured by real estate 78,739 72,477 Residential real estate 160,077 165,710 Consumer, excluding credit card 46,797 41,006 Agricultural 1,937 2,020 Credit card 2,584 2,658 Other loans 825 112 Lease financing 1,737 2,088 ------- ------- 329,511 326,557 Deferred net origination costs 743 608 ------- ------- 330,254 327,165 Allowance for loan losses (2,000) (2,000) ------- ------- Loans - net $328,254 325,165 ======= ======= </TABLE> Mortgage loans sold to and serviced for the Federal Home Loan Mortgage Corporation ("FHLMC") are not included in the accompanying balance sheets. The unpaid principal balances of those loans at June 30, 2002 and December 31, 2001 were $24,288,000 and $23,734,000, respectively. Loans sold to the FHLMC during the three and six months ended June 30, 2002 totaled $534,000 and $2,806,000, respectively, and $3,544,000 and $4,098,000 during the three and six months ended June 30, 2001, respectively. -6-
LCNB Corp. and Subsidiaries Notes to the Consolidated Financial Statements (Unaudited) (Continued) NOTE 3 - LOANS (continued) <TABLE> Changes in the allowance for loan losses were as follows (thousands): <CAPTION> June 30, June 30, 2002 2001 --------- --------- <s> <c> <c> Balance - beginning of year $2,000 2,000 Provision for loan losses 125 110 Charge offs (146) (134) Recoveries 21 24 ----- ----- Balance - end of period $2,000 2,000 ===== ===== </TABLE> Loans accounted for on a nonaccrual basis totaled $210,000 at June 30, 2002, and consisted of three loans secured by 1-4 family residential properties. There were no nonaccrual loans at December 31, 2001. NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES LCNB is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments included commitments to extend credit. They involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheets. Exposure to credit loss in the event of nonperformance by the other parties to financial instruments for commitments to extend credit is represented by the contract amount of those instruments. LCNB uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. Financial instruments whose contract amounts represent off-balance-sheet credit risk at June 30, 2002 and December 31, 2001 were as follows (thousands): <TABLE> <CAPTION> June 30, December 31, 2002 2001 --------- --------- <s> <c> <c> Commitments to extend credit $76,767 56,738 Standby letters of credit 6,461 6,410 </TABLE> -7-
LCNB Corp. and Subsidiaries Notes to Consolidated Financial Statements (Unaudited) (Continued) NOTE 4 - COMMITMENTS AND CONTINGENT LIABILITIES (continued) Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. At June 30, 2002 and December 31, 2001, outstanding guarantees of $1,571,000 and $1,520,000, respectively, were issued to developers and contractors. These guarantees generally expire within one year and are fully secured. In addition, LCNB has an approximate $5 million participation at June 30, 2002 and December 31, 2001 in a letter of credit securing payment of principal and interest on a bond issue. This letter of credit will expire July 15, 2005, and is secured by an assignment of rents and the underlying real property. LCNB evaluates each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary, is based on management's credit evaluation of the borrower. Collateral held varies, but may include accounts receivable; inventory; property, plant and equipment; residential realty; and income-producing commercial properties. LCNB and its subsidiaries are parties to various claims and proceedings arising in the normal course of business. Management, after consultation with legal counsel, believes that the liabilities, if any, arising from such proceedings and claims will not be material to the consolidated financial position or results of operations. NOTE 5 - NEW ACCOUNTING PRONOUNCEMENT On January 1, 2002, the Company adopted Statement of Financial Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets." SFAS No. 142 provides that goodwill shall not be amortized but should be tested for impairment on an annual basis, using criteria prescribed in the statement. If the carrying amount of goodwill exceeds its implied fair value, as recalculated, an impairment loss equal to the excess shall be recognized. Recognized intangible assets other than goodwill should be amortized over their useful lives and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" (superseded by SFAS No. 144, which substantially carries over the applicable provisions of SFAS No. 121). The Company's intangible assets at June 30, 2002 are classified as "intangible assets other than goodwill" and primarily represent the unamortized intangible related to the Company's 1997 acquisition of three branch offices from another bank. At June 30, 2002, the carrying amount of this intangible was $3.3 million, net of accumulated amortization of $2.7 million, and is being amortized on a straight line basis over ten years in accordance with SFAS No. 72, "Accounting for Certain Acquisitions of Banking or Thrift Institutions," which was not superseded by SFAS No. 142. -8-
LCNB Corp. and Subsidiaries Notes to Consolidated Financial Statements (Unaudited) (Continued) NOTE 5 - NEW ACCOUNTING PRONOUNCEMENT (continued) On May 10, 2002, the Financial Accounting Standards Board issued an exposure draft titled "Acquisitions of Certain Financial Institutions, " which amends certain provisions of SFAS No. 72. If adopted, the proposal will remove acquisitions of financial institutions from the scope of SFAS No. 72 and will require that such acquisitions be accounted for in accordance with SFAS No. 141, "Business Combinations." If the acquisition meets the definition of a business combination, it shall be accounted for by the purchase method in accordance with the provisions of SFAS No. 141. Any goodwill that results will be accounted for in accordance with the provisions of SFAS No. 142. If the acquisition does not meet the definition of a business combination, the cost of the assets acquired shall be allocated to the individual assets acquired and liabilities assumed based on their relative fair values and shall not give rise to goodwill. In addition, this proposed statement would amend SFAS No. 144 to include in its scope long-term customer-relationship intangible assets of financial institutions such as depositor- and borrower- relationship intangible assets and credit-cardholder intangible assets. Consequently, those intangible assets would be subject to the same undiscounted cash flow recoverability tests and impairment loss recognition and measurement provisions that SFAS No. 144 requires for long-term tangible assets and other finite-lived intangible assets that are held and used. Existing unidentifiable intangible assets, as that term is defined in SFAS No. 72, previously recognized under the provisions of SFAS No. 72 shall continue to be amortized (consistent with the existing clarifying provisions of Emerging Issues Task Force Topic D-100) unless: (a) the transaction in which the intangible asset arose met the definition of a business combination, and (b) intangible assets acquired in the transaction were recognized apart from the unidentifiable intangible asset and those intangible assets were accounted for separately from the unidentifiable intangible asset after the date of acquisition. Management does not believe these criteria have been met and intends to continue amortizing the intangible over ten years, subject to periodic review of its useful life. -9-
INDEPENDENT ACCOUNTANTS' REVIEW REPORT To the Board of Directors and Shareholders LCNB Corp. and subsidiaries Lebanon, Ohio We have reviewed the accompanying consolidated balance sheet of LCNB Corp. and subsidiaries as of June 30, 2002, the related consolidated statements of income for each of the three-month and six-month periods ended June 30, 2002 and 2001, and the related consolidated statements of cash flows and shareholders' equity for each of the six-month periods ended June 30, 2002 and 2001. These financial statements are the responsibility of the Company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with U.S. generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to the accompanying consolidated interim financial statements for them to be in conformity with U.S. generally accepted accounting principles. We previously audited, in accordance with U.S. generally accepted auditing standards, the consolidated balance sheet as of December 31, 2001 (presented herein), and the related consolidated statements of income, shareholders' equity, and cash flows for the year then ended (not presented herein), and in our report dated January 11, 2002, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of December 31, 2001, is fairly stated in all material respects. /s/ J.D. Cloud & Co. L.L.P. Cincinnati, Ohio July 24, 2002 -10-
LCNB Corp. and Subsidiaries Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations FORWARD-LOOKING STATEMENTS Certain matters disclosed herein may be deemed to be forward-looking statements that involve risks and uncertainties, including regulatory policy changes, interest rate fluctuations, loan demand, loan delinquencies and losses, and other risks. Actual strategies and results in future time periods may differ materially from those currently expected. Such forward-looking statements represent management's judgment as of the current date. The Company disclaims, however, any intent or obligation to update such forward- looking statements. RESULTS OF OPERATIONS LCNB earned $1,576,000, or $0.92 per share, for the three months ended June 30, 2002 compared to $1,536,000, or $0.87 per share, for the three months ended June 30, 2001. The return on average assets (ROAA) was 1.29% and the return on average equity (ROAE) was 12.73% for the second quarter of 2002, compared with an ROAA of 1.26% and an ROAE of 12.25% for the second quarter of 2001. LCNB earned $3,102,000, or $1.80 per share, during the first six months of 2002 compared to $2,893,000, or $1.63 per share, for the first six months of 2001. The ROAA and ROAE for the first six months of 2002 were 1.29% and 12.66%, respectively. The comparable ratios for the first six months of 2001 were 1.26% and 12.25%, respectively. NET INTEREST INCOME LCNB's primary source of earnings is net interest income, which is the difference between earnings from loans and other investments and interest paid on deposits and other liabilities. The following table presents, for the three and six months ended June 30, 2002 and 2001, average balances for interest-earning assets and interest-bearing liabilities, the income or expense related to each item, and the resultant average yields earned or rates paid. -11-
<TABLE> <CAPTION> Three Months Ended Six Months Ended June 30, June 30, ------------------ ---------------- 2002 2001 2002 2001 (Dollars in thousands) <s> <c> <c> <c> <c> Interest-earning Assets: Average balance (1) $460,138 437,510 454,112 429,782 Interest income (2) 7,768 8,427 15,416 16,877 Average rate 6.77% 7.73% 6.85% 7.92% Interest-bearing Liabilities: Average balance 381,529 367,632 376,205 361,576 Interest expense 2,731 3,812 5,446 7,903 Average rate 2.87% 4.16% 2.92% 4.41% Net interest income 5,037 4,615 9,970 8,974 Net interest margin on a taxable equivalent basis (3) 4.39% 4.23% 4.43% 4.21% </TABLE> <FN> (1) Includes nonaccrual loans, if any. (2) Income from tax-exempt securities is included in interest income on a taxable basis. Interest income has been divided by a factor comprised of the complement of the incremental tax rate of 34%. (3) The net interest margin is the taxable-equivalent net interest income divided by average interest-earning assets. </FN> THREE MONTHS ENDED JUNE 30, 2002 VS. 2001. The following table presents the changes in taxable-equivalent basis interest income and expense for each major category of interest-earning assets and interest-bearing liabilities and the amount of change attributable to volume and rate changes for the three months ended June 30, 2002 as compared to the comparable period in 2001. Changes not solely attributable to rate or volume have been allocated to volume and rate changes in proportion to the relationship of absolute dollar amounts of the changes in each. -12-
<TABLE> <CAPTION> Three Months Ended June 30, 2002 vs 2001 -------------------------- Increase (decrease) due to: Volume Rate Total (In thousands) <s> <c> <c> <c> Interest-earning Assets Loans $ (144) (557) (701) Federal funds sold (4) (155) (159) Federal Reserve Bank stock - (1) (1) Federal Home Loan Bank stock 3 (9) (6) Investment securities Taxable 233 (120) 113 Nontaxable 173 (78) 95 ------ ----- ----- Total interest income 261 (920) (659) Interest-bearing Liabilities Deposits 109 (1,212) (1,103) Short-term borrowings (3) (2) (5) Long-term debt 52 (25) 27 ------ ----- ----- Total interest expense 158 (1,239) (1,081) ------ ----- ----- Net interest income $ 103 319 422 ====== ===== ===== </TABLE> Net interest income on a fully tax equivalent basis for the three months ended June 30, 2002 totaled $5,037,000, an increase of $422,000 from the comparable period in 2001. Total interest income decreased $659,000 and was more than offset by a decrease in total interest expense of $1,081,000. The decreases in both interest income and expense were primarily a result of decreases in the average rate earned on loans and investments and the average rate paid for deposits and borrowings. The rate decreases reflect a 475 basis point (a basis point equals 0.01%) decrease in the intended federal funds rate, as set by the Federal Reserve Board, during 2001. The net interest margin (net interest income divided by average total earning assets) is a measure of the revenue generated by a financial institution's earning assets, after deducting interest expense. The net interest margin for the second quarter of 2002 was 4.39%, as compared to 4.23% for the second quarter, 2001. The net interest margin and net interest income increased due to rates paid for deposits and other borrowings decreasing more rapidly than rates earned on loans and other investments. -13-
The decrease in total interest income was primarily due to a 96 basis point reduction in the average rate earned on earning assets, from 7.73% for the second quarter of 2001 to 6.77% for the second quarter of 2002. This decrease was partially offset by a $22.6 million increase in average total earning assets. Average investment securities increased $29.9 million, partially offset by a $7.1 million decrease in average loans. Average loans decreased primarily because of payoffs from loan refinances and sales of new fixed-rate residential loans to the Federal Home Loan Mortgage Corporation. The significant decrease in total interest expense was due to a 129 basis point decrease in the average rate paid, slightly offset by a $13.9 million increase in average interest-bearing liabilities. Average interest-bearing deposits increased $10.9 million and average long-term debt increased $3.3 million. The deposit increase was primarily in regular savings accounts, reflecting customer prefrence for highly liquid, short-term investment products during the current rate cycle. The increase in long-term debt reflects additional borrowings of $4.0 from the Federal Home Loan Bank during December, 2001 to lock in additional long-term funding at current, historically low market rates, offset by the maturation of a $2.0 million advance in June, 2002. SIX MONTHS ENDED JUNE 30, 2002 VS. 2001. The following table presents the changes in taxable-equivalent basis interest income and expense for each major category of interest-earning assets and interest-bearing liabilities and the amount of change attributable to volume and rate changes for the six months ended June 30, 2002 as compared to the comparable period in 2001. <TABLE> <CAPTION> Six Months Ended June 30, 2002 vs 2001 -------------------------- Increase (decrease) due to: Volume Rate Total (In thousands) <s> <c> <c> <c> Interest-earning Assets Loans $ (330) (1,206) (1,536) Federal funds sold 122 (313) (191) Federal Reserve Bank stock - (1) (1) Federal Home Loan Bank stock 6 12 18 Investment securities Taxable 385 (283) 102 Nontaxable 301 (154) 147 ------ ----- ----- Total interest income 484 (1,945) (1,461) </TABLE> -14-
<TABLE> <CAPTION> Six Months Ended June 30, 2002 vs 2001 -------------------------- Increase (decrease) due to: Volume Rate Total (In thousands) <s> <c> <c> <c> Interest-bearing Liabilities Deposits 210 (2,747) (2,537) Short-term borrowings 1 (13) (12) Long-term debt 145 (53) 92 ------ ----- ----- Total interest expense 356 (2,813) (2,457) ------ ----- ----- Net interest income $ 128 868 996 ====== ===== ===== </TABLE> Net interest income on a fully tax equivalent basis for the first half of 2002 totaled $9,970,000, an increase of $996,000 from the first half of 2001. Total interest income decreased $1,461,000 and was more than offset by a decrease in total interest expense of $2,457,000. The decrease in total interest income was primarily due to a 107 basis point decrease in the average rate earned on earning assets, from 7.92% for the first half of 2001 to 6.85% for the first half of 2002. This decrease was partially offset by a $24.3 million increase in average total earning assets. Average investment securities increased $24.8 million, partially offset by a $8.0 million decrease in average loans. Average loans decreased primarily because of payoffs from loan refinances and sales of new fixed-rate residential loans to the Federal Home Loan Mortgage Corporation. The decrease in total interest expense was due to a 149 basis point decrease in the average rate paid, slightly offset by a $14.6 million increase in average interest-bearing liabilities. Average interest-bearing deposits increased $10.0 million and average long-term debt increased $4.6 million for substantially the same reasons discussed in the previous section. PROVISION AND ALLOWANCE FOR LOAN LOSSES The total provision for loan losses is determined based upon management's evaluation as to the amount needed to maintain the allowance for credit losses at a level considered appropriate in relation to the risk of losses inherent in the portfolio. The total loan loss provision and the other changes in the allowance for loan losses are shown below. -15-
<TABLE> <CAPTION> Quarter Ended Six Months Ended June 30, June 30, 2002 2001 2002 2001 (In thousands) <s> <c> <c> <c> <c> Balance, beginning of period $2,000 2,000 2,000 2,000 ----- ----- ----- ----- Charge-offs 78 70 146 134 Recoveries 7 17 21 24 ----- ----- ----- ----- Net charge-offs 71 53 125 110 ----- ----- ----- ----- Provision for loan losses 71 53 125 110 ----- ----- ----- ----- Balance, end of period $2,000 2,000 2,000 2,000 ====== ====== ====== ====== </TABLE> Charge-offs for the first half of 2002 and 2001 are attributable to consumer loans, including $23,000 in credit card charge-offs for both 2002 and 2001. The following table sets forth information regarding the past due, non-accrual and renegotiated loans of the Bank at the dates indicated: <TABLE> <CAPTION> June 30 December 31 2002 2001 -------- ----------- (In thousands) <s> <c> <c> Loan accounted for on non-accrual basis $210 - Accruing loans which are past due 90 days or more 148 146 Renegotiated loans - - --- --- Total $358 146 === === </TABLE> The non-accrual loans at June 30, 2002, consist of three loans secured by 1-4 family residential property. Accruing loans which are past due 90 days or more at June 30, 2002 and December 31, 2001 consist of installment loans and loans secured by 1-4 family residential property. -16-
NON-INTEREST INCOME THREE MONTHS ENDED JUNE 30, 2002 VS. 2001. Total non-interest income for the second quarter of 2002 was $33,000 or 3.0% greater than for the second quarter of 2001 primarily due to increases in trust income, service charges and fees, and net gains from sales of securities, all partially offset by a decrease in insurance agency income. Total service charges and fees increased primarily due to an increase in check card fees caused by increased usage of the cards by LCNB customers. Insurance agency income decreased primarily due to a decrease in the dollar amount of new life insurance policies written. SIX MONTHS ENDED JUNE 30, 2002 VS. 2001. Total non-interest income for the first six months of 2002 was $17,000 or 0.7% less than for the comparable period in 2001 due to a $168,000 decrease in insurance agency income. This decrease was mitigated in part by increases in trust income and service charges and fees, substantially for the same reasons mentioned in the previous section. Insurance agency income decreased due to the absence of $189,000 in contingency commissions received during the first quarter of 2001, but not in 2002. Contingency commissions are profit-sharing arrangements on property and casualty policies between the originating agency and the underwriter and are generally based on underwriting results and written premium. As such, the amount received each year can vary significantly depending on loss experience. NON-INTEREST EXPENSE THREE MONTHS ENDED JUNE 30, 2002 VS. 2001. Total non-interest expense increased $307,000 or 9.1% during the second quarter, 2002 compared with the second quarter, 2001 primarily due to increases in salaries and wages, pension and other employee benefits, and other non-interest expenses. Salaries and wages increased $163,000 or 11.2% due to normal pay increases and the addition of several new employees. A small increase in the number of staff was necessary because of the opening of a full-service office in Hamilton, Ohio in September, 2001. Pension and other employee benefits increased $30,000 or 7.9% primarily due to increased health insurance costs. Other non-interest expenses increased $80,000 or 10.7% due to: a. a $35,000 increase in computer maintenance costs due to new hardware and software required for a conversion to a new operating system; and b. a $38,000 increase in automatic teller machine (ATM) expenses due to increased usage of ATMs, an increase in fees paid the ATM processor, and the cost for a new maintenance contract on ATMs. SIX MONTHS ENDED JUNE 30, 2002 VS. 2001. Total non-interest expense increased $596,000 or 8.8% during the first half, 2002 compared with the first half of 2001 primarily due to increases in salaries and wages, pension and other employee benefits, and other non-interest expenses. Salaries and wages increased $282,000 or 9.5% for the same reasons mentioned in the previous section. Pension and other employee benefits increased $73,000 or 9.0% primarily due to increased health insurance costs and to increased Social Security and Medicare matching as a result of increased salaries and wages. Other non-interest expenses increased $182,000 or 12.2% primarily due to a $64,000 increase in computer maintenance costs and a $78,000 increase in automatic teller machine (ATM) expenses for the same reasons mentioned in the previous section. -17-
FINANCIAL CONDITION The following table highlights the changes in the balance sheet. The analysis uses quarterly averages to give a better indication of balance sheet trends. <TABLE> <CAPTION> CONDENSED QUARTERLY AVERAGE BALANCE SHEETS June 30, March 31, December 31, 2002 2002 2001 (In thousands) <s> <c> <c> <c> ASSETS Interest-earning: Federal funds sold $ 22,329 24,911 24,172 Investment securities 111,464 100,471 90,746 Loans 326,345 322,636 332,340 ------- ------- ------- Total interest-earning assets 460,138 448,018 447,258 Noninterest-earning: Cash and due from banks 13,419 14,195 13,291 All other assets 19,590 19,562 19,323 Allowance for credit losses (2,002) (2,002) (2,001) ------- ------- ------- Total assets $491,145 479,773 477,871 ======= ======= ======= LIABILITIES Interest-bearing: Interest-bearing deposits $369,410 357,373 356,127 Short-term borrowings 514 1,148 1,296 Long-term debt 11,605 12,300 9,226 ------- ------- ------- Total interest-bearing liabilities 381,529 370,821 366,649 Noninterest-bearing: Noninterest-bearing deposits 57,363 57,203 57,953 All other liabilities 2,627 2,594 3,273 ------- ------- ------- Total liabilities 441,519 430,618 427,875 SHAREHOLDERS' EQUITY 49,626 49,155 49,996 ------- ------- ------- Total liabilities and shareholders' equity $491,145 479,773 477,871 ======= ======= ======= </TABLE> -18-
Total average assets increased approximately $11.4 million or 2.4% during the second quarter, 2002 when compared to the first quarter, 2002. Substantially all of the growth, approximately $11.0 million, was in investment securities. Average loans increased $3.7 million. The increase in average loans was primarily in the installment, Homeline (secured residential line of credit), and commercial loan portfolios; the real estate loan portfolio decreased $3.7 million on an average basis. The decrease was due to payoffs on loans refinanced combined with the sale of $534,000 in new fixed-rate mortgage loans during the second quarter. With limited opportunities to invest deposit growth in the loan portfolio, management purchased additional investment securities available for sale, which can readily be sold if the funds should be needed for future loan growth. Total average interest-bearing liabilities for the second quarter, 2002, were $10.7 million or 2.9% greater than for the first quarter, 2002. The growth was in interest-bearing deposits, which increased $12.0 million on an average basis - $7.0 of the growth was in highly liquid savings and NOW account products and $5.0 million was in certificates of deposit and IRA accounts. Management believes the growth in the savings products reflects investor preference for short-term, highly liquid investments during the current economic cycle. This means much of the recent savings deposit growth could be quickly withdrawn if interest rates increase. Management is attempting to lock in a portion of these funds by offering special rates and terms on selected certificate of deposit products. The $695,000 decrease in average long-term debt reflects the maturation and pay-off of a $2.0 million advance at the beginning of June, 2002. ASSETS UNDER MANAGEMENT In addition to assets recorded in its balance sheet, LCNB, as a fiduciary, manages assets for customers and investors as a part of its normal operations. The following table shows balances for the different types of assets managed. <TABLE> <CAPTION> June 30, December 31, 2002 2001 ---------- ---------- (In thousands) <s> <c> <c> Total consolidated assets recorded on the LCNB Corp. consolidated balance sheet $497,665 480,435 Assets managed by the Trust Department, at fair market value 109,258 109,456 Mortgage loans serviced for others 24,288 23,734 Business cash management, at fair market value 17,452 26,163 Brokerage accounts, at fair market value 1,671 - ------- ------- Total assets managed $650,334 639,788 ======= ======= </TABLE> -19-
CAPITAL Lebanon Citizens and LCNB are required by regulators to meet certain minimum levels of capital adequacy. These are expressed in the form of certain ratios. Capital is separated into Tier 1 capital (essentially shareholders' equity less goodwill and other intangibles) and Tier 2 capital (essentially the allowance for loan losses limited to 1.25% of risk-weighted assets). The first two ratios, which are based on the degree of credit risk in LCNB's assets, provide for weighting assets based on assigned risk factors and include off-balance sheet items such as loan commitments and stand-by letters of credit. The ratio of Tier 1 capital to risk-weighted assets must be at least 4.0% and the ratio of Total capital (Tier 1 capital plus Tier 2 capital) to risk-weighted assets must be at least 8.0%. The capital leverage ratio supplements the risk-based capital guidelines. Banks are required to maintain a minimum ratio of Tier 1 capital to adjusted quarterly average total assets of 3.0%. A summary of the regulatory capital and capital ratios of LCNB follows: <TABLE> <CAPTION> At At June 30, December 31, 2002 2001 (Dollars in thousands) <s> <c> <c> Regulatory Capital: Shareholders' equity $50,156 49,507 Goodwill and other intangibles (3,428) (3,729) Net unrealized securities gains (2,193) (1,196) ------ ------ Tier 1 risk-based capital 44,535 44,582 Eligible allowance for loan losses 2,000 2,000 ------ ------ Total risk-based capital $46,535 46,582 ======= ====== Capital Ratios: Total risk-based 14.84% 15.40% Tier 1 risk-based 14.20% 14.74% Leverage 9.17% 9.46% Minimum Required Capital Ratios: Total risk-based 8.00% 8.00% Tier 1 risk-based 4.00% 4.00% Tier 1 leverage 3.00% 3.00% </TABLE> -20-
On April 17, 2001, LCNB's Board of Directors authorized three separate stock repurchase programs, two phases of which continue. The shares purchased will be held for future corporate purposes. Under the "Market Repurchase Program" LCNB will purchase up to 50,000 shares of its stock through market transactions with a selected stockbroker. Through June 30, 2002, 7,565 shares had been purchased under this program. The "Private Sale Repurchase Program" is available to shareholders who wish to sell large blocks of stock at one time. Because LCNB's stock is not widely traded, a shareholder releasing large blocks may not be able to readily sell all shares through normal procedures. Purchases of blocks will be considered on a case-by-case basis and will be made at prevailing market prices. A total of 46,897 shares had been purchased under this program at June 30, 2002. LIQUIDITY LCNB depends on dividends from its subsidiaries for the majority of its liquid assets, including the cash needed to pay dividends to its shareholders. National banking law limits the amount of dividends Lebanon Citizens may pay to the sum of retained net income, as defined, for the current year plus retained net income for the previous two years. Prior approval from the Office of the Comptroller of the Currency, Lebanon Citizens primary regulator, would be necessary for Lebanon Citizens to pay dividends in excess of this amount. In addition, dividend payments may not reduce capital levels below minimum regulatory guidelines. Management believes Lebanon Citizens will be able to pay anticipated dividends to LCNB without needing to request approval. Liquidity is the ability to have funds available at all times to meet the commitments of LCNB. Asset liquidity is provided by cash and assets which are readily marketable or pledgeable or which will mature in the near future. Liquid assets include cash, federal funds sold and securities available for sale. At June 30, 2002, LCNB liquid assets amounted to $146.9 million or 29.5% of total gross assets, an increase from $132.8 million or 27.7% at December 31,2001. Liquidity is also provided by access to core funding sources, primarily core depositors in the bank's trade area. Approximately 90.0% of total deposits at June 30, 2002 were "core" deposits. Core deposits, for this purpose, are defined as total deposits less public funds and certificates of deposit greater than $100,000. LCNB does not solicit brokered deposits as a funding source. Secondary sources of liquidity include LCNB's ability to sell loan participations, borrow funds from the Federal Home Loan Bank, and purchase federal funds. Management closely monitors the level of liquid assets available to meet ongoing funding needs. It is management's intent to maintain adequate liquidity so that sufficient funds are readily available at a reasonable cost. LCNB experienced no liquidity or operational problems as a result of the current liquidity levels. -21-
In June, 2001, LCNB signed a contract with Jack Henry & Associates for replacement of LCNB's core processing system, including computer hardware and software. Conversion from the current system to the new system is tentatively scheduled for late 2002 through early 2003. Management believes the new system will allow LCNB to enhance operating efficiencies and improve customer service. Anticipated software and hardware costs total approximately $1,086,000, which will be capitalized and charged to depreciation expense over the estimated lives of the assets, primarily seven years. Costs of converting data files from the current to the new system and costs of training employees on the new system are expected to total approximately $194,000 during 2002 and $31,000 during 2003 and will be expensed as incurred. It is anticipated the associated costs will be funded by liquidating short-term assets. RECENT ACCOUNTING PRONOUNCEMENTS On January 1, 2002, the Company adopted Statement of Financial Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets. " SFAS No. 142 provides that goodwill shall not be amortized but should be tested for impairment on an annual basis, using criteria prescribed in the statement. If the carrying amount of goodwill exceeds its implied fair value, as recalculated, an impairment loss equal to the excess shall be recognized. Recognized intangible assets other than goodwill should be amortized over their useful lives and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" (superseded by SFAS No. 144, which substantially carries over the applicable provisions of SFAS No. 121). The Company's intangible assets at June 30, 2002 are classified as "intangible assets other than goodwill" and primarily represent the unamortized intangible related to the Company's 1997 acquisition of three branch offices from another bank. At June 30, 2002, the carrying amount of this intangible was $3.3 million, net of accumulated amortization of $2.7 million, and is being amortized on a straight line basis over ten years in accordance with SFAS No. 72, "Accounting for Certain Acquisitions of Banking or Thrift Institutions, " which was not superseded by SFAS No. 142. On May 10, 2002, the Financial Accounting Standards Board issued an exposure draft titled "Acquisitions of Certain Financial Institutions, " which amends certain provisions of SFAS No. 72. If adopted, the proposal will remove acquisitions of financial institutions from the scope of SFAS No. 72 and will require that such acquisitions be accounted for in accordance with SFAS No. 141, "Business Combinations." If the acquisition meets the definition of a business combination, it shall be accounted for by the purchase method in accordance with the provisions of SFAS No. 141. Any goodwill that results will be accounted for in accordance with the provisions of SFAS No. 142. If the acquisition does not meet the definition of a business combination, the cost of the assets acquired shall be allocated to the individual assets acquired and liabilities assumed based on their relative fair values and shall not give rise to goodwill. In addition, this proposed statement would amend SFAS No. 144 to include in its scope long-term customer-relationship -22-
intangible assets of financial institutions such as depositor- and borrower- relationship intangible assets and credit-cardholder intangible assets. Consequently, those intangible assets would be subject to the same undiscounted cash flow recoverability tests and impairment loss recognition and measurement provisions that SFAS No. 144 requires for long-term tangible assets and other finite-lived intangible assets that are held and used. Existing unidentifiable intangible assets, as that term is defined in SFAS No. 72, previously recognized under the provisions of SFAS No. 72 shall continue to be amortized (consistent with the existing clarifying provisions of Emerging Issues Task Force Topic D-100) unless: (c) the transaction in which the intangible asset arose met the definition of a business combination, and (d) intangible assets acquired in the transaction were recognized apart from the unidentifiable intangible asset and those intangible assets were accounted for separately from the unidentifiable intangible asset after the date of acquisition. Management does not believe these criteria have been met and intends to continue amortizing the intangible over ten years, subject to periodic review of its useful life. Item 3. Quantitative and Qualitative Disclosures about Market Risks For a discussion of LCNB's asset and liability management policies and gap analysis for the year ended December 31, 2000 see Item 7A, Quantitative and Qualitative Disclosures about Market Risks, in the recently filed Form 10-K for the year ended December 31, 2001. There have been no material changes in LCNB's market risks, which for LCNB is primarily interest rate risk. -23-
PART II. OTHER INFORMATION LCNB Corp. and Subsidiaries Item 1. Legal Proceedings - Not Applicable Item 2. Changes in Securities and Use of Proceeds - Not Applicable Item 3. Defaults by the Company on its Senior Securities - Not Applicable Item 4. Submission of Matters to a Vote of Security Holders - On April 16, 2002, the Annual Meeting of the shareholders of LCNB Corp. was held. Two items were voted on by the shareholders of LCNB: 1. Election of four Class III directors to serve until the 2005 Annual Meeting, and 2. Approval and adoption of the LCNB Corp. Ownership Incentive Plan. The following members of the Board of Directors of LCNB Corp. were elected as Class III directors by the votes indicated: <TABLE> <CAPTION> Director For Against Abstain -------- ------------- ------- ------- <s> <c> <c> <c> George L. Leasure 1,470,413.501 0 580 William H. Kaufman 1,470,413.501 0 580 James B. Miller 1,465,253.501 0 5,740 Howard E. Wilson 1,468,653.501 0 2,340 </TABLE> The following Class I and III members of the Board of Directors have terms expiring in 2003 and 2004, respectively: Class I: Stephen P. Wilson, David S. Beckett, and Robert C. Cropper Class II: Corwin M. Nixon, Kathleen Porter Stolle, and Marvin E. Young The LCNB Corp. Ownership Incentive Plan was approved by the votes indicated: <TABLE> <CAPTION> For Against Abstain ------------- ---------- --------- <s> <c> <c> <c> 1,445,425.318 20,377.115 5,191.068 </TABLE> Item 5. Other Information - Not Applicable Item 6. Exhibits and Reports on Form 8-K - None -24-
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. LCNB Corp. Registrant Date: July 29, 2002 /s/Steve P. Foster ------------------------ Steve P. Foster Executive Vice President and Chief Financial Officer -25-