Form 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2005 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 0-13507 RURBAN FINANCIAL CORP. (Exact name of registrant as specified in its charter) <TABLE> <S> <C> Ohio 34-1395608 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) </TABLE> 401 Clinton Street, Defiance, Ohio 43512 (Address of principal executive offices) (Zip Code) (419) 783-8950 (Registrant's telephone number, including area code) None (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 proceeding 12 months (or for such shorter period 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 ----- ----- Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes No X ----- ----- Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes No X ----- ----- The number of common shares of Rurban Financial Corp. outstanding was 4,571,317 on November 1, 2005. 1
RURBAN FINANCIAL CORP. FORM 10-Q TABLE OF CONTENTS <TABLE> <S> <C> PART I - FINANCIAL INFORMATION Item 1. Financial Statements Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 3. Quantitative and Qualitative Disclosures About Market Risk Item 4. Controls and Procedures PART II - OTHER INFORMATION Item 1. Legal Proceedings Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Item 3. Defaults Upon Senior Securities Item 4. Submission of Matters to a Vote of Security Holders Item 5. Other Information Item 6. Exhibits Exhibit 4.1 - Indenture, dated as of September 15, 2005, by and between Rurban Financial Corp. and Wilmington Trust Company, as Debenture Trustee, relating to Floating Rate Junior Subordinated Deferrable Interest Debentures Exhibit 4.2 - Amended and Restated Declaration of Trust of Rurban Statutory Trust II, dated as of September 15, 2005 Exhibit 4.3 - Guarantee Agreement, dated as of September 15, 2005, by and between Rurban Financial Corp. and Wilmington Trust Company, as Guarantee Trustee Exhibit 31.1 - Rule 13a-14(a)/15d-14(a) Certification (Principal Executive Officer) Exhibit 31.2 - Rule 13a-14(a)/15d-14(a) Certification (Principal Executive Officer) Exhibit 32.1 - Section 1350 Certification (Principal Executive Officer) Exhibit 32.2 - Section 1350 Certification (Principal Executive Officer) </TABLE> 2
PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS The interim condensed consolidated financial statements of Rurban Financial Corp. ("Rurban" or the "Company") are unaudited; however, the information contained herein reflects all adjustments which are, in the opinion of management, necessary for a fair presentation of financial condition and results of operations for the interim periods presented. All adjustments reflected in these financial statements are of a normal recurring nature in accordance with Rule 10-01(b)(8) of Regulation S-X. Results of operations for the three and nine months ended September 30, 2005 are not necessarily indicative of results for the complete year. 3
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, 2005, DECEMBER 31, 2004 AND SEPTEMBER 30, 2004 <TABLE> <CAPTION> (UNAUDITED) (UNAUDITED) -------------------------------------------- SEPTEMBER 30, DECEMBER 31, SEPTEMBER 30, 2005 2004 2004 ------------- ------------ ------------- <S> <C> <C> <C> ASSETS Cash and due from banks $ 8,794,880 $ 10,617,766 $ 12,111,512 Federal funds sold -- -- 4,500,000 ------------ ------------ ------------ Cash and cash equivalents 8,794,880 10,617,766 16,611,512 Interest-bearing deposits 150,000 150,000 250,000 Available-for-sale securities 119,075,282 108,720,491 95,599,129 Loans held for sale -- 112,900 -- Loans, net of unearned income 271,409,384 264,480,789 272,955,578 Allowance for loan losses (4,813,956) (4,899,063) (5,368,515) Premises and equipment, net 9,614,849 7,740,442 7,530,485 Purchased software 4,120,523 4,564,474 4,747,030 Federal Reserve and Federal Home Loan Bank stock 2,875,400 2,793,000 2,814,100 Foreclosed assets held for sale, net 2,227,581 720,000 -- Interest receivable 2,469,046 1,984,452 2,033,254 Deferred income taxes -- -- 2,583,235 Goodwill 6,092,072 2,144,304 2,144,304 Core deposits and other intangibles 1,208,095 542,978 567,992 Cash value of life insurance 9,339,022 9,146,816 9,051,215 Other 6,019,922 6,529,397 4,307,877 ------------ ------------ ------------ Total assets $438,582,100 $415,348,746 $415,827,196 ============ ============ ============ </TABLE> See notes to condensed consolidated financial statements (unaudited) Note: The balance sheet at December 31, 2004 has been derived from the audited consolidated financial statements at that date. 4
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED) SEPTEMBER 30, 2005, DECEMBER 31, 2004 AND SEPTEMBER 30, 2004 <TABLE> <CAPTION> (UNAUDITED) (UNAUDITED) -------------------------------------------- SEPTEMBER 30, DECEMBER 31, SEPTEMBER 30, 2005 2004 2004 ------------- ------------ ------------- <S> <C> <C> <C> LIABILITIES Deposits Demand $ 37,940,995 $ 37,831,810 $ 36,640,451 Savings, interest checking and money market 104,535,697 87,795,630 94,495,084 Time 176,014,845 153,996,874 158,846,720 ------------ ------------ ------------ Total deposits 318,491,537 279,624,314 289,982,255 Notes payable 2,052,794 3,079,656 3,428,574 Federal Home Loan Bank advances 34,000,000 56,000,000 56,000,000 Federal funds purchased 2,100,000 7,500,000 -- Retail repurchase agreements 6,600,152 4,059,151 3,017,151 Trust preferred securities 20,620,000 10,310,000 10,310,000 Interest payable 1,171,173 994,114 734,751 Deferred income taxes 404,334 523,111 -- Other liabilities 2,861,352 2,952,605 2,350,706 ------------ ------------ ------------ Total liabilities 388,301,342 365,042,951 365,823,437 ------------ ------------ ------------ COMMITMENTS AND CONTINGENT LIABILITIES STOCKHOLDERS' EQUITY Common stock, $2.50 stated value; authorized 10,000,000 shares; issued 4,571,317; outstanding September 30, 2005 - 4,571,317, December 31, 2004 - 4,568,388 and September 30, 2004 - 4,567,968 shares 11,428,293 11,439,255 11,439,255 Additional paid-in capital 10,773,550 11,003,642 11,004,876 Retained earnings 29,275,237 28,943,736 28,229,151 Unearned employee stock ownership plan (ESOP) shares -- -- (45,539) Accumulated other comprehensive income (loss) (1,196,322) (803,189) (340,450) Treasury stock, at cost September 30, 2005 - 0, December 31, 2004 - 7,314 and September 30, 2004 - 7,734 common shares -- (277,649) (283,534) ------------ ------------ ------------ Total stockholders' equity 50,280,758 50,305,795 50,003,759 ------------ ------------ ------------ Total liabilities and stockholders' equity $438,582,100 $415,348,746 $415,827,196 ============ ============ ============ </TABLE> See notes to condensed consolidated financial statements (unaudited) Note: The balance sheet at December 31, 2004 has been derived from the audited consolidated financial statements at that date. 5
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) THREE MONTHS ENDED <TABLE> <CAPTION> SEPTEMBER 30, SEPTEMBER 30, 2005 2004 ------------- ------------- <S> <C> <C> INTEREST INCOME Loans, including fees Taxable $4,187,543 $4,071,529 Tax-exempt 17,898 15,282 Securities Taxable 1,095,151 925,549 Tax-exempt 71,264 39,497 Other 57,498 11,994 ---------- ---------- Total interest income 5,429,354 5,063,851 ---------- ---------- INTEREST EXPENSE Deposits 1,615,308 1,050,918 Other borrowings 67,162 64,335 Retail repurchase agreements 23,874 8,052 Federal Home Loan Bank advances 440,175 495,192 Trust preferred securities 300,360 290,855 ---------- ---------- Total interest expense 2,446,879 1,909,352 ---------- ---------- NET INTEREST INCOME 2,982,475 3,154,499 PROVISION (CREDIT) FOR LOAN LOSSES (382,000) 319,517 ---------- ---------- NET INTEREST INCOME AFTER PROVISION (CREDIT) FOR LOAN LOSSES 3,364,475 2,834,982 ---------- ---------- NON-INTEREST INCOME Data service fees 2,834,357 2,566,485 Trust fees 767,969 726,417 Customer service fees 526,197 499,528 Net gains on loan sales 28,895 7,043 Net realized gains on sales of available-for-sale securities 34,050 112,394 Loan servicing fees 79,186 91,216 Loss on sale of assets (36,011) (10,508) Other 151,328 87,432 ---------- ---------- Total non-interest income 4,385,971 4,080,007 ---------- ---------- </TABLE> See notes to condensed consolidated financial statements (unaudited) 6
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (CONTINUED) THREE MONTHS ENDED <TABLE> <CAPTION> SEPTEMBER 30, SEPTEMBER 30, 2005 2004 ------------- ------------- <S> <C> <C> NON-INTEREST EXPENSE Salaries and employee benefits $3,607,270 $3,080,476 Net occupancy expense 312,661 235,173 Equipment expense 1,294,686 1,099,129 Data processing fees 99,085 75,702 Professional fees 467,951 512,476 Marketing expense 144,954 84,663 Printing and office supplies 115,320 73,506 Telephone and communications 180,261 171,529 Postage and delivery expense 77,979 85,747 State, local and other taxes 146,683 (5,493) Employee expense 225,032 165,510 Other 338,556 332,110 ---------- ---------- Total non-interest expense 7,010,438 5,910,528 ---------- ---------- INCOME BEFORE INCOME TAX 740,008 1,004,461 PROVISION FOR INCOME TAXES 247,824 305,819 ---------- ---------- NET INCOME $ 492,184 $ 698,642 ========== ========== BASIC EARNINGS PER SHARE $ 0.11 $ 0.15 ========== ========== DILUTED EARNINGS PER SHARE $ 0.11 $ 0.15 ========== ========== DIVIDENDS DECLARED PER SHARE $ 0.05 $ -- ========== ========== </TABLE> See notes to condensed consolidated financial statements (unaudited) 7
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) NINE MONTHS ENDED <TABLE> <CAPTION> SEPTEMBER 30, SEPTEMBER 30, 2005 2004 ------------- ------------- <S> <C> <C> INTEREST INCOME Loans, including fees Taxable $12,098,708 $12,233,058 Tax-exempt 48,227 50,508 Securities Taxable 3,134,559 2,570,230 Tax-exempt 165,462 119,990 Other 159,716 53,059 ----------- ----------- Total interest income 15,606,672 15,026,845 ----------- ----------- INTEREST EXPENSE Deposits 4,012,052 3,481,494 Other borrowings 204,365 297,538 Retail repurchase agreements 60,328 23,147 Federal Home Loan Bank advances 1,581,052 1,332,752 Trust preferred securities 842,170 843,356 ----------- ----------- Total interest expense 6,699,967 5,978,287 ----------- ----------- NET INTEREST INCOME 8,906,705 9,048,558 PROVISION (CREDIT) FOR LOAN LOSSES (30,000) 129,517 ----------- ----------- NET INTEREST INCOME AFTER PROVISION (CREDIT) FOR LOAN LOSSES 8,936,705 8,919,041 ----------- ----------- NON-INTEREST INCOME Data service fees 8,662,825 7,683,585 Trust fees 2,351,509 2,302,406 Customer service fees 1,409,199 1,518,714 Net gains on loan sales 46,243 27,090 Net realized gains on sales of available-for-sale securities 25,300 236,356 Loan servicing fees 225,326 285,247 Gain (loss) on sale of assets (18,935) 67,823 Other 513,714 376,685 ----------- ----------- Total non-interest income 13,215,181 12,497,906 ----------- ----------- </TABLE> See notes to condensed consolidated financial statements (unaudited) 8
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (CONTINUED) NINE MONTHS ENDED <TABLE> <CAPTION> SEPTEMBER 30, SEPTEMBER 30, 2005 2004 ------------- ------------- <S> <C> <C> NON-INTEREST EXPENSE Salaries and employee benefits $10,339,614 $ 9,631,372 Net occupancy expense 897,058 721,878 Equipment expense 3,831,477 3,158,707 Data processing fees 303,781 284,159 Professional fees 1,697,020 1,658,423 Marketing expense 308,925 263,444 Printing and office supplies 397,153 327,145 Telephone and communications 494,198 483,998 Postage and delivery expense 236,006 262,147 State, local and other taxes 380,036 409,108 Employee expense 726,561 553,739 Other 1,163,450 1,010,319 ----------- ----------- Total non-interest expense 20,775,279 18,764,439 ----------- ----------- INCOME BEFORE INCOME TAX 1,376,607 2,652,508 PROVISION FOR INCOME TAXES 359,661 632,801 ----------- ----------- NET INCOME $ 1,016,946 $ 2,019,707 =========== =========== BASIC EARNINGS PER SHARE $ 0.22 $ 0.44 =========== =========== DILUTED EARNINGS PER SHARE $ 0.22 $ 0.44 =========== =========== DIVIDENDS DECLARED PER SHARE $ 0.15 $ -- =========== =========== </TABLE> See notes to condensed consolidated financial statements (unaudited) 9
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED) <TABLE> <CAPTION> Three Months Ended Nine Months Ended --------------------------------------- --------------------------------------- September 30, 2005 September 30, 2004 September 30, 2005 September 30, 2004 ------------------ ------------------ ------------------ ------------------ <S> <C> <C> <C> <C> Balance at beginning of period $50,599,536 $48,227,216 $50,305,795 $48,382,756 Net Income 492,184 698,642 1,016,946 2,019,707 Other comprehensive income (loss): Net change in unrealized gains (losses) on securities available-for-sale, net (582,396) 1,031,379 (393,135) (541,532) ----------- ----------- ----------- ----------- Total comprehensive income (loss) (90,212) 1,730,021 623,811 1,478,175 Cash dividend (228,566) -- (685,443) -- Stock options exercised -- 7,204 36,595 24,874 Paydown of ESOP loan -- 39,318 -- 117,954 ----------- ----------- ----------- ----------- Balance at end of period $50,280,758 $50,003,759 $50,280,758 $50,003,759 =========== =========== =========== =========== </TABLE> See notes to condensed consolidated financial statements (unaudited) 10
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) NINE MONTHS ENDED <TABLE> <CAPTION> SEPTEMBER 30, SEPTEMBER 30, 2005 2004 ------------- ------------- <S> <C> <C> OPERATING ACTIVITIES Net income $ 1,016,946 $ 2,019,707 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 2,280,844 1,761,071 Provision for loan losses (30,000) 129,517 ESOP shares earned -- 117,954 Amortization of premiums and discounts on securities 143,019 465,515 Amortization of intangible assets 77,815 76,995 Deferred income taxes 83,746 -- Proceeds from sale of loans held for sale 4,468,743 3,945,061 Originations of loans held for sale (4,309,600) (3,917,971) Gain from sale of loans (46,243) (27,090) Loss on sales of foreclosed assets 19,221 10,508 FHLB Stock Dividends (82,400) (69,200) Gain on sales of premises and equipment (286) -- Net realized gains on available-for-sale securities (25,300) (236,356) Changes in Interest receivable (455,632) (32,522) Other assets 343,478 1,300,066 Interest payable and other liabilities (22,740) (2,807,557) ------------ ------------ Net cash provided by operating activities 3,461,611 2,735,698 ------------ ------------ INVESTING ACTIVITIES Net change in interest-bearing deposits -- 10,000 Purchases of available-for-sale securities (30,171,309) (60,969,199) Proceeds from maturities of available-for-sale securities 13,792,631 49,605,726 Proceeds from the sales of available-for-sale securities 5,310,512 22,413,277 Net change in loans (4,223,001) 6,346,236 Purchase of bank owned life insurance -- (8,000,000) Proceeds from assumption of net liabilities in business acquisition 48,645,686 -- Purchase of premises and equipment (2,760,567) (2,893,087) Purchase of Federal Home Loan and Federal Reserve Bank stock -- (383,300) Proceeds from sale of Federal Home Loan and Federal Reserve Bank stock -- 383,300 Proceeds from sales of premises and equipment 288,553 -- Proceeds from the sale of foreclosed assets 1,573,627 1,459,157 ------------ ------------ Net cash provided by investing activities 32,456,132 7,972,110 ------------ ------------ </TABLE> See notes to condensed consolidated financial statements (unaudited) 11
RURBAN FINANCIAL CORP. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (CONTINUED) NINE MONTHS ENDED <TABLE> <CAPTION> SEPTEMBER 30, SEPTEMBER 30, 2005 2004 ------------- ------------- <S> <C> <C> FINANCING ACTIVITIES Net decrease in demand deposits, money market, interest checking and savings accounts $ (2,126,650) $(11,670,644) Net decrease in certificates of deposit (19,389,270) (15,821,850) Net increase (decrease) in securities sold under agreements to repurchase 2,541,001 (906,603) Net decrease in federal funds purchased (5,400,000) -- Proceeds from Federal Home Loan Bank advances 12,500,000 17,000,000 Repayment of Federal Home Loan Bank advances (34,500,000) -- Repayment of notes payable (1,026,862) (6,899,025) Proceeds from trust preferred 10,310,000 -- Dividends paid (685,443) -- Proceeds from stock options exercised 36,595 24,874 ------------ ------------ Net cash used in financing activities (37,740,629) (18,273,248) ------------ ------------ DECREASE IN CASH AND CASH EQUIVALENTS (1,822,886) (7,565,440) CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 10,617,766 24,176,952 ------------ ------------ CASH AND CASH EQUIVALENTS, END OF PERIOD $ 8,794,880 $ 16,611,512 ============ ============ SUPPLEMENTAL CASH FLOWS INFORMATION Interest paid $ 6,522,908 $ 7,590,839 Transfer of loans to foreclosed assets $ 3,126,638 $ 79,113 </TABLE> See notes to condensed consolidated financial statements (unaudited) 12
RURBAN FINANCIAL CORP. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) NOTE A--BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared by the Company in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. The financial statements reflect all adjustments that are, in the opinion of management, necessary to fairly present the financial position, results of operations and cash flows of the Company for the interim periods presented herein. Those adjustments consist only of normal recurring adjustments. Results of operations for the three and nine months ended September 30, 2005 are not necessarily indicative of results for the complete year. The condensed consolidated balance sheet of the Company as of December 31, 2004 has been derived from the audited consolidated balance sheet of the Company as of that date. These financial statements should be read in conjunction with the consolidated financial statements and footnotes included in the Company's Annual Report on Form 10-K for the year ended December 31, 2004. The Company accounts for its stock option plan under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees"(APB 25) and related interpretations. Under APB 25, no stock-based employee compensation cost is reflected in net income, as all options granted under the Company's stock option plan had an exercise price equal to the market value of the underlying common stock on the grant date. Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based Compensation," as amended by SFAS 148, requires pro forma disclosures of net income and earnings per share for companies not adopting its fair value accounting method for stock-based employee compensation. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value provisions of FASB Statement No. 123 to measure stock-based employee compensation expense. <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, ------------------- ----------------------- 2005 2004 2005 2004 -------- -------- ---------- ---------- <S> <C> <C> <C> <C> Net income, as reported $492,184 $698,642 $1,016,946 $2,019,707 Less: Total stock-based employee compensation cost determined under the fair value based method, net of income taxes (2,970) (49,183) (640,765) (147,548) -------- -------- ---------- ---------- Pro forma net income $489,214 $649,459 $ 376,181 $1,872,159 ======== ======== ========== ========== Earnings per share: Basic - as reported $ 0.11 $ 0.15 $ 0.22 $ 0.44 Basic - pro forma $ 0.11 $ 0.14 $ 0.08 $ 0.41 Diluted - as reported $ 0.11 $ 0.15 $ 0.22 $ 0.44 Diluted - pro forma $ 0.11 $ 0.14 $ 0.08 $ 0.41 </TABLE> 13
On April 14, 2005, the Securities and Exchange Commission (SEC) announced the adoption of a new rule that delays the dates for compliance with Statement of Financial Accounting Standards No. 123 (revised 2004) (SFAS No. 123R). SFAS No. 123R was previously scheduled to become mandatory for public entities, such as the Company, that do not file as small business issuers as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. The SEC's new rule allows these public entities to implement SFAS No. 123R at the beginning of the next fiscal year that begins after June 15, 2005. SFAS No. 123R prohibits companies from using APB 25 for the accounting of stock options and requires that grants of stock options be charged to expense. Companies are permitted to adopt SFAS No. 123R earlier than the beginning of their next fiscal year, but management of the Company intends to adopt SFAS No. 123R in the first quarter of 2006. SFAS No. 123R permits public companies to adopt its requirements using one of two methods. The "modified prospective" method recognizes compensation expense beginning with the effective date for all stock options granted after the effective date and for all stock options that become vested after the effective date. The "modified retrospective" method includes the requirements of the "modified prospective" method described above, but also permits entities to restate prior period results based on the amounts previously recognized under SFAS No. 123 for purpose of pro forma disclosures. The Company has not made a determination as to which method it will utilize upon adoption of SFAS no. 123R. NOTE B--EARNINGS PER SHARE Earnings per share have been computed based on the weighted average number of shares outstanding during the periods presented. For the periods ended September 30, 2005 and 2004, stock options totaling 235,066 and 302,122 shares of common stock, respectively, were not considered in computing EPS as they were anti-dilutive. The number of shares used in the computation of basic and diluted earnings per share was: <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, --------------------- -------------------- 2005 2004 2005 2004 --------- --------- --------- --------- <S> <C> <C> <C> <C> Basic earnings per share 4,573,033 4,555,590 4,570,266 4,555,207 Diluted earnings per share 4,574,492 4,557,019 4,584,070 4,570,010 </TABLE> 14
NOTE C - LOANS, RISK ELEMENTS AND ALLOWANCE FOR LOAN LOSSES Total loans on the balance sheet are comprised of the following classifications at: <TABLE> <CAPTION> September 30, December 31, September 30, 2005 2004 2004 ------------- ------------ ------------- <S> <C> <C> <C> Commercial $ 53,918,640 $ 58,498,557 $ 62,788,372 Commercial real estate 69,955,831 64,107,549 63,586,814 Agricultural 41,838,103 41,239,895 43,300,968 Residential real estate 65,671,854 63,828,237 64,009,425 Consumer 37,844,514 31,948,581 32,982,783 Lease financing 2,403,323 5,127,639 6,579,814 ------------ ------------ ------------ Total loans 271,632,265 264,750,458 273,248,176 Less Net deferred loan fees, premiums and discounts (222,881) (269,669) (292,598) ------------ ------------ ------------ Loans, net of unearned income $271,409,384 $264,480,789 $272,955,578 ============ ============ ============ Allowance for loan losses $ (4,813,956) $ (4,899,063) $ (5,368,515) ============ ============ ============ </TABLE> The following is a summary of the activity in the allowance for loan losses account for the three and nine months ended September 30, 2005 and September 30, 2004. <TABLE> <CAPTION> Three Months Ended Nine Months Ended September 30, September 30, ------------------------ ------------------------- 2005 2004 2005 2004 ---------- ----------- ----------- ----------- <S> <C> <C> <C> <C> Balance, beginning of year $5,210,464 $ 6,922,995 $ 4,899,063 $10,181,135 Provision charged to expense (382,000) 319,517 (30,000) 129,517 Recoveries 304,140 204,041 1,419,602 1,279,283 Loans charged off (318,648) (2,078,038) (1,474,709) (6,221,420) ---------- ----------- ----------- ----------- Balance, end of period $4,813,956 $ 5,368,515 $ 4,813,956 $ 5,368,515 ========== =========== =========== =========== </TABLE> The following schedule summarizes nonaccrual, past due and impaired loans at: <TABLE> <CAPTION> September 30, December 31, September 30, 2005 2004 2004 ------------- ------------ ------------- <S> <C> <C> <C> Non-accrual loans $12,507,000 $13,384,000 $16,524,000 Accruing loans which are contractually past due 90 days or more as to interest or principal payments 0 11,000 0 ----------- ----------- ----------- Total non-performing loans $12,507,000 $13,395,000 $16,524,000 =========== =========== =========== </TABLE> 15
Individual loans determined to be impaired, including non-accrual loans, were as follows: <TABLE> <CAPTION> September 30, December 31, September 30, 2005 2004 2004 ------------- ------------ ------------- <S> <C> <C> <C> Loans with no allowance for loan losses allocated $ 923,000 $ 975,000 $ 443,000 Loans with allowance for loan losses allocated 8,525,000 10,411,000 12,402,000 ---------- ----------- ----------- Total impaired loans $9,448,000 $11,386,000 $12,845,000 ========== =========== =========== Amount of allowance allocated $1,299,000 $ 1,265,000 $ 2,472,000 ========== =========== =========== </TABLE> NOTE D - ACQUISITIONS PURCHASE OF LIMA, OHIO BRANCHES On March 15, 2005, State Bank and Trust Company ("State Bank"), a wholly owned subsidiary of Rurban, entered into a Branch Purchase and Assumption Agreement (the "Purchase Agreement") with Liberty Savings Bank, FSB ("Liberty Savings"), a subsidiary of Liberty Capital, Inc. The Purchase Agreement provided for the sale to State Bank of two of Liberty Savings' bank branches and one non-banking facility located in Lima, Ohio. The transaction, which included the acquisition of approximately $60.6 million in deposits and $5.9 million in loans, closed on June 17, 2005 and the branches opened as State Bank branches on June 20, 2005. As of September 30, 2005, the Lima branches had $48.3 million in deposits and $9.4 million in loans. The following table summarizes the estimated fair values of the assets and liabilities acquired during the acquisition as of September 30, 2005: <TABLE> <S> <C> Loans $ 5,887,339 Core deposits 752,574 Goodwill 3,928,552 Accrued interest receivable 28,962 Premises and equipment 1,239,000 ------------- Total assets acquired 11,836,427 Deposits 60,623,457 CD premium (249,890) Accrued interest payable 62,114 Other liabilities 46,432 ------------- Total liabilities acquired 60,482,113 ------------- Net liabilities assumed ($48,645,686) ============= </TABLE> The total deposit premium paid for this transaction was $4.9 million. Of this amount, $752,574 was allocated to a core deposit intangible asset, $249,890 was allocated to a CD premium, and $3.9 million was allocated to goodwill. The operating information from the purchased branches was not available from Liberty Savings and therefore, the pro forma information is omitted. 16
ACQUISITION OF EXCHANGE BANCSHARES, INC. On April 13, 2005, Rurban entered into an Agreement and Plan of Merger (the "Merger Agreement") with Exchange Bancshares, Inc., an Ohio corporation ("Exchange"), headquartered in Luckey, Ohio. In accordance with the terms and conditions of the Merger Agreement, Exchange will be merged with and into Rurban, with Rurban being the surviving corporation in the merger. Exchange's wholly-owned subsidiary, Exchange Bank, will operate as a separate bank subsidiary of Rurban following the completion of the merger. This transaction is expected to be completed later this year. Pursuant to the terms of the Merger Agreement, approximately one-half of the outstanding common shares of Exchange will be exchanged for cash and approximately one-half of the outstanding common shares will be exchanged for common shares of Rurban. Subject to certain adjustments set forth in the Merger Agreement, each outstanding common share of Exchange will be converted into either $22.00 in cash or 1.555 common shares of Rurban. Shareholders of Exchange who hold 100 or fewer shares will receive all cash, while shareholders holding more than 100 shares may elect cash, Rurban common shares or a combination of cash and Rurban common shares. The merger is subject to approval by federal and state regulators, as well as the satisfaction of other customary conditions set forth in the Merger Agreement. As of the date of this filing, final regulatory approval had not been received. The shareholders of Exchange approved the acquisition at a special board meeting held on October 11, 2005. As stated in the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2005, the Merger Agreement provides for a reduction in the purchase price per share to be paid by the Company in the merger in the event the shareholders' equity of Exchange (as adjusted in accordance with the Merger Agreement) falls below $8.1 million prior to the closing. On or about July 13, 2005, Exchange filed Amendment No. 1 to its Form 10-KSB for the fiscal year ended December 31, 2004 and Amendment No. 1 to its Form 10-QSB for the quarterly period ended March 31, 2005 in response to a comment letter received from the Securities and Exchange Commission relating to the accounting and reporting by Exchange of its valuation allowance for deferred tax assets. The impact of the Amendments was to decrease Exchange's shareholder's equity at December 31, 2004 by $196,000 and to further decrease Exchange's shareholders' equity at March 31, 2005 by $35,000. The impact of these reductions could result in a reduction in the per share purchase price to be paid by Rurban in the merger. NOTE E - NOTES PAYABLE AND TRUST PREFERRED SECURITIES RFCBC, Inc. has a note payable to an unaffiliated bank secured by the common stock of Rurbanc Data Services, Inc. ("RDSI") and substantially all of the assets of RFCBC, Inc. The note requires quarterly principal payments of $300,000 together with interest at the prime rate plus 1% (7.75% at September 30, 2005) and matures on June 6, 2006. The principal note balance was $1,100,000 as of September 30, 2005, $2,000,000 as of December 31, 2004 and $2,300,000 as of September 30, 2004. The outstanding balance of $1,100,000 was paid off on October 7, 2005. RDSI has two notes payable to State Bank. The notes were originated in September of 2004 and had a combined original principal balance of $2,028,574, of which $1,128,574 was participated to an unaffiliated bank. The first note is secured by equipment and second lien positions on all business assets and requires monthly payments of $15,857, with interest at 6.50%. The participated principal 17
note balance was $666,793 as of September 30, 2005 and $773,654 as of December 31, 2004. The second note is secured by equipment and second lien positions on all business assets and requires monthly payments of $6,272, with interest at 6.50%. The participated principal note balance was $263,736 as of September 30, 2005 and $306,002 as of December 31, 2004. State Bank has a note payable to Ford Motor Credit Company which is secured by a vehicle. The note requires monthly payments of $795 at a zero percent interest rate and matures on January 5, 2008. The principal note balance was $22,265 as of September 30, 2005. The company established Rurban Statutory Trust II ("RST II") in August 2005. In September 2005, RST II completed a pooled private offering of 10,000 Capital Securities with a liquidation amount of $1,000 per security. The proceeds of the offerings were loaned to the Company in exchange for junior subordinated debentures of the Company with terms substantially similar to the Capital Securities. The balance of trust preferred securities was $20,620,000 as of September 30, 2005. NOTE F - REGULATORY MATTERS The Company and State Bank are subject to various regulatory capital requirements administered by federal and state banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators. If undertaken, these actions could have a direct material adverse effect on the Company's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and State Bank must meet specific capital guidelines that involve quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company and State Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined in the regulations), and of Tier I capital (as defined in the regulations) to average assets (as defined as in the regulations). As of September 30, 2005, the Company and State Bank exceeded all "well-capitalized" requirements to which they are subject. As of September 30, 2005, the most recent notification to the regulators categorized State Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, State Bank must maintain capital ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed State Bank's categorization as well capitalized. 18
The Company's consolidated and State Bank's actual capital amounts (in millions) and ratios are presented in the following table. <TABLE> <CAPTION> MINIMUM REQUIRED TO BE WELL CAPITALIZED FOR CAPITAL UNDER PROMPT CORRECTIVE ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS -------------- ----------------- ----------------------- AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO ------ ----- ------ ----- ------ ----- <S> <C> <C> <C> <C> <C> <C> As of September 30, 2005 Total Capital (to Risk-Weighted Assets) Consolidated $67.9 23.0% $23.6 8.0% $ -- N/A State Bank 35.8 13.1 22.0 8.0 27.5 10.0 Tier I Capital (to Risk-Weighted Assets) Consolidated 61.3 20.8 11.8 4.0 -- N/A State Bank 32.8 11.9 11.0 4.0 16.5 6.0 Tier I Capital (to Average Assets) Consolidated 61.3 14.0 17.5 4.0 -- N/A State Bank 32.8 7.9 16.6 4.0 20.7 5.0 As of December 31, 2004 Total Capital (to Risk-Weighted Assets) Consolidated $61.9 22.0% $22.5 8.0% $ -- N/A State Bank 39.4 15.3 20.7 8.0 25.8 10.0 Tier I Capital (to Risk-Weighted Assets) Consolidated 58.4 20.7 11.3 4.0 -- N/A State Bank 36.3 14.0 10.3 4.0 15.5 6.0 Tier I Capital (to Average Assets) Consolidated 58.4 14.2 16.5 4.0 -- N/A State Bank 36.3 9.3 15.6 4.0 19.5 5.0 </TABLE> NOTE G - CONTINGENT LIABILITIES There are various contingent liabilities that are not reflected in the Company's consolidated financial statements, including claims and legal actions arising in the ordinary course of business. In the opinion of management, after consultation with legal counsel, the ultimate disposition of these matters is not expected to have a material effect on the Company's consolidated financial condition or results of operations. NOTE H - NEW ACCOUNTING PRONOUNCEMENTS On April 14, 2005, the Securities and Exchange Commission (SEC) announced the adoption of a new rule that delays the dates for compliance with Statement of Financial Accounting Standards No. 123 (revised 2004) (SFAS No. 123R). SFAS No. 123R was previously scheduled to become mandatory for public entities, such as the Company, that do not file as small business issuers as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. The SEC's new rule allows these public entities to implement SFAS No. 123R at the beginning of the next fiscal year that begins after June 15, 2005. SFAS No. 123R prohibits companies from using APB 25 for the 19
accounting of stock options and requires that grants of stock options be charged to expense. Companies are permitted to adopt SFAS No. 123R earlier than the beginning of their next fiscal year, but management of the Company intends to adopt SFAS No. 123R in the first quarter of 2006. SFAS No. 123R permits public companies to adopt its requirements using one of two methods. The "modified prospective" method recognizes compensation expense beginning with the effective date for all stock options granted after the effective date and for all stock options that become vested after the effective date. The "modified retrospective" method includes the requirements of the "modified prospective" method described above, but also permits entities to restate prior period results based on the amounts previously recognized under SFAS No. 123 for purpose of pro forma disclosures. The Company has not made a determination as to which method it will utilize upon adoption of SFAS no. 123R. NOTE I - COMMITMENTS AND CREDIT RISK As of September 30, 2005, loan commitments and unused lines of credit totaled $55,351,000 standby letters of credit totaled $451,000 and no commercial letters of credit were outstanding. NOTE J - SEGMENT INFORMATION The reportable segments are determined by the products and services offered, primarily distinguished between banking and data processing operations. Other segments include the accounts of the holding company, Rurban, which provides management and operational services to its subsidiaries; and Reliance Financial Services, N.A., which provides trust and financial services to customers nationwide. Information reported internally for performance assessment follows. 20
As of and for the nine months ended September 30, 2005 <TABLE> <CAPTION> Data Total Intersegment Consolidated Banking Processing Other Segments Elimination Totals ------------ ----------- ----------- ------------ ------------ ------------ <S> <C> <C> <C> <C> <C> <C> Income statement information: Net interest income (expense) $ 9,955,738 $ (183,276) $ (865,757) $ 8,906,705 $ 8,906,705 Non-interest income - external customers 2,159,638 8,662,825 2,392,718 13,215,181 13,215,181 Non-interest income - other segments -- 1,016,193 1,321,091 2,337,284 (2,337,284) -- ------------ ----------- ----------- ------------ ------------ ------------ Total revenue 12,115,376 9,495,742 2,848,052 24,459,170 (2,337,284) 22,121,886 Non-interest expense 11,872,865 7,707,020 3,532,678 23,112,563 (2,337,284) 20,775,279 Significant non-cash items: Depreciation and amortization 482,951 1,712,128 85,765 2,280,844 -- 2,280,844 Provision for loan losses (30,000) -- -- (30,000) -- (30,000) Income tax expense (benefit) 150,152 648,504 (438,995) 359,661 -- 359,661 Segment profit (loss) $ 712,325 $ 1,140,218 $ (835,597) $ 1,016,946 $ -- $ 1,016,946 Balance sheet information: Total assets $433,565,505 $10,182,412 $15,405,372 $459,153,289 $(20,571,189) $438,582,100 Goodwill and intangibles 7,300,167 -- -- 7,300,167 -- 7,300,167 Premises and equipment expenditures, Nine months ended September 30, 2005 700,081 1,935,221 125,265 2,760,567 -- 2,760,567 </TABLE> 21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Rurban is a bank holding company registered with the Federal Reserve Board. State Bank is engaged in commercial banking. Rurban's subsidiary, Rurbanc Data Services, Inc. ("RDSI"), provides computerized data processing services to community banks and businesses. Rurban Statutory Trust I ("RST") was established in August 2000. In September 2000, RST completed a pooled private offering of 10,000 Capital Securities with a liquidation amount of $1,000 per security. The proceeds of the offering were loaned to the Company in exchange for junior subordinated debentures of the Company with terms substantially similar to the Capital Securities. The sole assets of RST are the junior subordinated debentures, and the back-up obligations, in the aggregate, constitute a full and unconditional guarantee by the Company of the obligations of RST under the Capital Securities. Rurban Statutory Trust II ("RST II") was established in August 2005. In September 2005, RST II completed a pooled private offering of 10,000 Capital Securities with a liquidation amount of $1,000 per security. The proceeds of the offering were loaned to the Company in exchange for junior subordinated debentures of the Company with terms substantially similar to the Capital Securities. The sole assets of RST II are the junior subordinated debentures, and the back-up obligations, in the aggregate, constitute a full and unconditional guarantee by the Company of the obligations of RST II under the Capital Securities. Reliance Financial Services, N.A. ("Reliance"), a wholly owned subsidiary of State Bank, provides trust and financial services to customers nationwide. CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION Certain statements within this document which are not statements of historical fact constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve risks and uncertainties and actual results may differ materially from those predicted by the forward-looking statements. These risks and uncertainties include, but are not limited to, risks and uncertainties inherent in the national and regional banking, insurance and mortgage industries, competitive factors specific to markets in which Rurban and its subsidiaries operate, future interest rate levels, legislative and regulatory actions, capital market conditions, general economic conditions, geopolitical events, the loss of key personnel and other factors. Forward-looking statements speak only as of the date on which they are made, and Rurban undertakes no obligation to update any forward-looking statement to reflect unanticipated events or circumstances occurring after the date on which the statement is made. All subsequent written and oral forward-looking statements attributable to Rurban or any person acting on our behalf are qualified by these cautionary statements. The following discussion is intended to provide a review of the consolidated financial condition and results of operations of Rurban. This discussion should be read in conjunction with the consolidated financial statements and related footnotes in Rurban's Annual Report on Form 10-K for the fiscal year ended December 31, 2004 filed with the SEC. 22
CRITICAL ACCOUNTING POLICIES The accounting and reporting policies of the Company are in accordance with accounting principles generally accepted in the United States and conform to general practices within the banking industry. The Company's significant accounting policies are described in detail in the notes to the Company's consolidated financial statements for the year ended December 31, 2004. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions. The Company's financial position and results of operations can be affected by these estimates and assumptions and are integral to the understanding of reported results. Critical accounting policies are those policies that management believes are the most important to the portrayal of the Company's financial condition and results, and they require management to make estimates that are difficult, subjective, or complex. ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses provides coverage for probable losses inherent in the Company's loan portfolio. Management evaluates the adequacy of the allowance for loan losses each quarter based on changes, if any, in underwriting activities, loan portfolio composition (including product mix and geographic, industry or customer-specific concentrations), trends in loan performance, regulatory guidance and economic factors. This evaluation is inherently subjective, as it requires the use of significant management estimates. Many factors can affect management's estimates of specific and expected losses, including volatility of default probabilities, rating migrations, loss severity and economic and political conditions. The allowance is increased through provisions charged to operating earnings and reduced by net charge-offs. The Company determines the amount of the allowance based on relative risk characteristics of the loan portfolio. The allowance recorded for commercial loans is based on reviews of individual credit relationships and an analysis of the migration of commercial loans and actual loss experience. The allowance recorded for homogeneous consumer loans is based on an analysis of loan mix, risk characteristics of the portfolio, fraud loss and bankruptcy experiences, and historical losses, adjusted for current trends, for each homogeneous category or group of loans. The allowance for credit losses relating to impaired loans is based on the loan's observable market price, the collateral for certain collateral-dependent loans, or the discounted cash flows using the loan's effective interest rate. Regardless of the extent of the Company's analysis of customer performance, portfolio trends or risk management processes, certain inherent but undetected losses are probable within the loan portfolio. This is due to several factors, including inherent delays in obtaining information regarding a customer's financial condition or changes in their unique business conditions, the subjective nature of individual loan evaluations, collateral assessments and the interpretation of economic trends. Volatility of economic or customer-specific conditions affecting the identification and estimation of losses for larger non-homogeneous credits and the sensitivity of assumptions utilized to establish allowances for homogenous groups of loans are also factors. The Company estimates a range of inherent losses related to the existence of these exposures. The estimates are based upon the Company's evaluation of imprecise risk associated with the commercial and consumer allowance levels and the estimated impact of the current economic environment. GOODWILL AND OTHER INTANGIBLES - The Company records all assets and liabilities acquired in purchase acquisitions, including goodwill and other intangibles, at fair value as required by SFAS 141. Goodwill is subject, at a minimum, to annual tests for impairment. Other intangible assets are amortized over their estimated useful lives using straight-line or accelerated methods, and are subject to impairment if events or circumstances indicate a possible inability to realize the carrying amount. The initial goodwill and 23
other intangibles recorded and subsequent impairment analysis requires management to make subjective judgments concerning estimates of how the acquired asset will perform in the future. Events and factors that may significantly effect the estimates include, among others, customer attrition, changes in revenue growth trends, specific industry conditions and changes in competition. IMPACT OF ACCOUNTING CHANGES On April 14, 2005, the Securities and Exchange Commission (SEC) announced the adoption of a new rule that delays the dates for compliance with Statement of Financial Accounting Standards No. 123 (revised 2004) (SFAS No. 123R). SFAS No. 123R was previously scheduled to become mandatory for public entities, such as the Company, that do not file as small business issuers as of the beginning of the first interim or annual reporting period that begins after June 15, 2005. The SEC's new rule allows these public entities to implement SFAS No. 123R at the beginning of the next fiscal year that begins after June 15, 2005. SFAS No. 123R prohibits companies from using APB 25 for the accounting of stock options and requires that grants of stock options be charged to expense. Companies are permitted to adopt SFAS No. 123R earlier than the beginning of their next fiscal year, but management of the Company intends to adopt SFAS No. 123R in the first quarter of 2006. SFAS No. 123R permits public companies to adopt its requirements using one of two methods. The "modified prospective" method recognizes compensation expense beginning with the effective date for all stock options granted after the effective date and for all stock options that become vested after the effective date. The "modified retrospective" method includes the requirements of the "modified prospective" method described above, but also permits entities to restate prior period results based on the amounts previously recognized under SFAS No. 123 for purpose of pro forma disclosures. The Company has not made a determination as to which method it will utilize upon adoption of SFAS no. 123R. PURCHASE OF LIMA, OHIO BRANCHES On June 17, 2005, State Bank acquired two bank branches and one non-banking facility located in Lima, Ohio from Liberty Savings Bank, FSB, a subsidiary of Liberty Capital, Inc. The acquisition included approximately $60.6 million in deposits and $5.9 million in loans. The branches opened as State Bank branches on June 20, 2005. As of September 30, 2005, the Lima branches had $48.3 million in deposits and $9.4 million in loans. ACQUISITION OF EXCHANGE BANCSHARES, INC. On April 13, 2005, Rurban entered into an Agreement and Plan of Merger (the "Merger Agreement") with Exchange Bancshares, Inc., an Ohio corporation ("Exchange") headquartered in Luckey, Ohio. In accordance with the terms and conditions of the Merger Agreement, Exchange will be merged with and into Rurban, with Rurban being the surviving corporation in the merger. Exchange's wholly-owned subsidiary, Exchange Bank, will operate as a separate bank subsidiary of Rurban following the completion of the merger. This transaction is expected to be completed later this year. Pursuant to the terms of the Merger Agreement, approximately one-half of the outstanding common shares of Exchange will be exchanged for cash and approximately one-half of the outstanding common shares will be exchanged for common shares of Rurban. Subject to certain adjustments set forth in the Merger Agreement, each outstanding common share of Exchange will be converted into either $22.00 in cash or 1.555 common shares of Rurban. Shareholders of Exchange who hold 100 or fewer shares will 24
receive all cash, while shareholders holding more than 100 shares may elect cash, Rurban common shares or a combination of cash and Rurban common shares. The merger is subject to approval by federal and state regulators, as well as the satisfaction of other customary conditions set forth in the Merger Agreement. As of the date of this filing, final regulatory approval had not been received. The shareholders of Exchange approved the acquisition at a special board meeting held on October 11, 2005. As stated in the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2005, the Merger Agreement provides for a reduction in the purchase price per share to be paid by the Company in the merger in the event the shareholders' equity of Exchange (as adjusted in accordance with the Merger Agreement) falls below $8.1 million prior to the closing. On or about July 13, 2005, Exchange filed Amendment No. 1 to its Form 10-KSB for the fiscal year ended December 31, 2004 and Amendment No. 1 to its Form 10-QSB for the quarterly period ended March 31, 2005 in response to a comment letter received from the Securities and Exchange Commission relating to the accounting and reporting by Exchange of its valuation allowance for deferred tax assets. The impact of the Amendments was to decrease Exchange's shareholder's equity at December 31, 2004 by $196,000 and to further decrease Exchange's shareholders' equity at March 31, 2005 by $35,000. The impact of these reductions could result in a reduction in the per share purchase price to be paid by Rurban in the merger. QUARTERLY AND YTD EARNINGS SUMMARY The net income for the third quarter of 2005 was $492,000, or $0.11 per diluted share, versus net income of $699,000, or $0.15 per diluted share, for the third quarter of 2004. Net income for the nine months was $1,017,000, or $0.22 per diluted share, versus net income of $2.0 million, or $0.44 per diluted share, for the same period in 2004. The third quarter net income was mainly driven by the reduction in the loan loss provision as a result of continued improvement in asset quality offset by higher levels of non-interest expense associated with expansion initiatives. Net interest income decreased $172,000 to $3.0 million in the third quarter of 2005 compared to $3.2 million for the third quarter of 2004. The net interest margin was 3.10% for the third quarter of 2005 compared to 3.35% for the third quarter of 2004. Net interest income for the nine months was $8.9 million versus $9.0 million for the same period in 2004. The decline in net interest income resulted from higher funding costs driven by the rapid rise in short-term market rates plus the acquisition of the Lima branch deposits during the second quarter of 2005. The Company has begun utilizing the excess liquidity from its Lima branch acquisition by paying down higher-cost time deposits and borrowings as they mature. The Company continues to maintain its conservative posture on asset quality and adheres to its disciplined approach to loan growth. The Company has managed its balance sheet so that rate-sensitive assets are greater than rate-sensitive liabilities, and as a result, the Company will benefit from rising interest rates. The provision for loan losses was a credit of $382,000 for the third quarter of 2005 compared to a provision of $320,000 for the third quarter of 2004. The provision for loan losses for the nine months was a credit of $30,000 versus a provision of $130,000 for the same period in 2004. Loan loss reserves were 1.77% of total loans in the third quarter of 2005 compared to 1.97% in the third quarter of 2004. The $382,000 reduction for the quarter and the $30,000 reduction for the nine month period to the Company's reserve was specifically the result of continued asset quality improvement. 25
Non-interest income increased $306,000 to $4.4 million in the third quarter of 2005 compared to $4.1 million for the third quarter of 2004. Non-interest income for the nine months was $13.2 million versus non-interest income of $12.5 million for the same period in 2004. The quarterly increase in non-interest income was mainly the result of the increase in data processing fees of $268,000 associated with the expansion of RDSI's customer base, a $42,000 increase in trust fees, and a $27,000 in customer service fees. The quarterly increase was partially offset by a $26,000 increase in the loss on the sale of repossessed assets. The year-to-date increase is mainly attributed to the increase in data processing fees of $979,000 as a result in the expansion of RDSI's customer base. Non-interest expense increased $1.1 million to $7.0 million for the third quarter of 2005 compared to $5.9 million for the third quarter of 2004. Non-interest expense for the nine months was $20.8 million versus $18.8 million for the same period in 2004. The increase in non-interest expense was impacted by the operating expenses of the Lima branches that totaled $446,000 for the quarter and $584,000 year-to-date, certain costs associated with the pending Exchange acquisition, and the branch market optimization study. CHANGES IN FINANCIAL CONDITION SEPTEMBER 30, 2005 VS. DECEMBER 31, 2004 At September 30, 2005, total assets were $438.6 million, an increase of $23.3 million from December 31, 2004. The increase in assets was mainly attributable to the branch acquisitions in Lima and the issuance of new trust preferred debt. As of September 30, 2005, the Lima branches had $48.3 million in deposits and $9.4 million in loans. The increase was partially offset by the maturity of some higher-cost FHLB advances and allowing the Brokered Deposit portfolio to run-down. SEPTEMBER 30, 2005 VS. SEPTEMBER 30, 2004 As of September 30, 2005, total assets increased $22.8 million from September 30, 2004. The increase was mainly due to the aforementioned Lima branch acquisition. The Lima branch acquisition added significant asset liquidity to the September 30, 2005 balance sheet compared to the same period a year ago most notably in the increase of available-for-sale securities of almost $23.5 million. Liability liquidity was also favorably impacted through the purchase of lower cost deposit liabilities which allowed the Company the ability to reduce its reliance on higher cost borrowings and brokered deposits and the new trust preferred debt. LINKED QUARTER COMPARISON The Company reported net income for the third quarter of 2005 of $492,000, or $0.11 per diluted share, versus a net loss of $114,000, or $0.02 per diluted share, for the second quarter of 2005. The third quarter was impacted favorably by a reduction in the loan loss provision as asset quality continues to improve, an increase in net interest income from an increase in average earning asset balances, and a decrease in non-interest expense. The second quarter loss was mainly driven by the Lima branch acquisition and the pending acquisition of Exchange, as well as a higher loan loss provision to address changing collateral values in the auto lease portfolio in response to recent automakers' discount programs. 26
Net interest income increased $55,000 or 2% to $3.0 million for the third quarter of 2005 when compared to the second quarter of 2005. This increase was driven principally as a result of the Lima market expansion. A comparison of financial results for the quarter ended September 30, 2005 to the previous quarter ended June 30, 2005 is as follows: <TABLE> <CAPTION> Linked Three Months Ended Quarter 09/30/05 06/30/05 % Change -------- -------- -------- (dollars in millions, except per share data) <S> <C> <C> <C> Total Assets $ 439 $ 451 -3% Loans Held for Sale -- 0.4 -- Loans (net of unearned income) 271 272 -- Allowance for Loan Losses 4.8 5.2 -8% Total Deposits 318 340 -6% FHLB Advances & Federal Funds Purchased 36.1 38.0 -5% Net interest Income 3.0 2.9 +2% Loan Loss Provision (0.4) 0.4 -- Non-interest Income 4.4 4.4 -- Non-interest Expense 7.0 7.2 -3% Net Income (Loss) 0.5 (0.1) -- Basic Earnings (Loss) Per Share $0.11 $(0.02) -- Diluted Earnings (Loss) Per Share $0.11 $(0.02) -- </TABLE> On a linked quarter basis, total loans decreased $1 million and total assets decreased $12 million. These decreases are mainly attributable to expected deposit run-offs in the Lima market. The Company continues to promote the exiting of out-of-market loans. FHLB advances and federal funds purchased, combined, decreased $1.9 million as a result of purchasing lower cost deposit liabilities in the Lima branch acquisition, which allowed the Company to reduce its reliance on higher cost borrowings and brokered deposits. TOTAL REVENUE <TABLE> <CAPTION> Three Months Ended --------------------------------------- 09/30/05 06/30/05 $Change %Change -------- -------- ------- ------- (dollars in thousands) <S> <C> <C> <C> <C> Total Revenue $7,368 $7,346 $+22 +0.3% </TABLE> Total revenue (net interest income plus noninterest income) was $7.4 million for the third quarter of 2005 compared to $7.3 million for the second quarter of 2005, up $22,000 or 0.3%. NET INTEREST INCOME <TABLE> <CAPTION> Three Months Ended --------------------------------------- 09/30/05 06/30/05 $Change %Change -------- -------- ------- ------- (dollars in thousands) <S> <C> <C> <C> <C> Net Interest Income $2,982 $2,927 $+55 +2% </TABLE> Net interest income increased $55,000 in the third quarter of 2005 when compared to the second quarter of 2005. The tax equivalent net interest margin for the third quarter of 2005 was 3.10%, flat 27
compared to the previous quarter. The increase in net interest income was driven by an increase in earning assets as a result of the Lima branch acquisition that took place late in the second quarter. LOAN LOSS PROVISION The provision for loan losses was a credit of $382,000 for the third quarter of 2005 compared to a charge of $352,000 in the second quarter of 2005. The $382,000 reduction to the Company's reserve was the result of the continued improvement in asset quality. The results of the third quarter are discussed in the "Allowance for Loan Losses" section. NON-INTEREST INCOME <TABLE> <CAPTION> Three Months Ended --------------------------------------- 09/30/05 06/30/05 $Change %Change -------- -------- ------- ------- (dollars in thousands) <S> <C> <C> <C> <C> Total Non-interest Income $ 4,386 $4,419 $-33 -1% - - Data Service Fees 2,834 2,873 -39 -1% - - Trust Fees 768 779 -11 -1% - - Deposit Service Fees 526 446 +80 +18% - - Gains on Sale of Loans 29 9 +20 +222% - - Gains on Sale of Securities 34 -- +34 -- - - Gain (Loss) on Assets (36) 56 -92 -164% - - Other 231 256 +25 +10% </TABLE> Non-interest income decreased by $33,000 in the third quarter of 2005 compared to the second quarter of 2005. The third quarter slight decrease is mainly due to the Company liquidating various repossessed assets resulting in a loss of $36,000 in the third quarter of 2005 versus a gain of $56,000 in the second quarter of 2005. The third quarter decrease was mostly offset by an increase in customer service fees of $80,000 due to the expansion in the Lima market. NON-INTEREST EXPENSE <TABLE> <CAPTION> Three Months Ended --------------------------------------- 09/30/05 06/30/05 $Change %Change -------- -------- ------- ------- (dollars in thousands) <S> <C> <C> <C> <C> Total Non-interest Expense $7,010 $7,244 $-234 -3% - - Salaries & Employee Benefits 3,607 3,501 +106 +3% - - Equipment Expense 1,295 1,283 +12 +1% - - Professional Fees 468 711 -243 -34% - - All Other 1,640 1,749 -109 -6% </TABLE> Non-interest expense for the third quarter of 2005 was $7.0 million compared to $7.2 million for the second quarter of 2005, a decrease of $234,000 or 3%. The linked quarter comparison reflects a gradual improvement in operating efficiencies throughout the Company, despite the $446,000 increase in quarterly operating expense related to the Lima acquisition. 28
LOANS <TABLE> <CAPTION> As of ------------------------------------------- % of % of Inc 09/30/05 Total 06/30/05 Total (Dec) -------- ----- -------- ----- ----- (dollars in millions) <S> <C> <C> <C> <C> <C> Commercial $ 54 20% $ 55 20% $ (1) Commercial real estate 70 26% 70 26% 0 Agricultural 42 15% 44 16% (2) Residential 66 24% 64 24% 2 Consumer 38 14% 36 13% 2 Leasing loans 2 1% 3 1% (1) ---- ---- ----- Total $272 $272 $ 0 Loans held for sale 0 0.4 (0.4) ---- ---- ----- Total $272 $272 $ 0 </TABLE> Loans remained constant from June 30, 2005 to September 30, 2005. However, the increase in the second quarter was mainly attributable to the Lima branch acquisition which resulted in approximately $6 million in loans. As of September 30, 2005, the Lima branches had $9.4 million in total loans. During the first quarter of 2005, the Company intensified its marketing efforts in Northwest Ohio and continued its focus on sales resulting in an improvement in loan volume, some of which is seasonally related to agriculture and some of which may be attributed to an improved local economy. These marketing efforts will continue throughout 2005. ASSET QUALITY As of and For the Quarter Ended (dollars in millions) <TABLE> <CAPTION> 09/30/05 06/30/05 Change -------- -------- ------- <S> <C> <C> <C> Non-performing loans $12.5 $13.5 $ -1.0 Non-performing assets 15.0 16.1 -1.1 Non-performing assets/ loan plus OREO 5.47% 5.87% -0.40% Non-performing assets/ total assets 3.42% 3.57% -0.15% Net chargeoffs -- (0.1) +0.1 Net chargeoffs (annualized)/ total loans N/A N/A N/A Loan loss provision (0.4) 0.4 -0.8 Allowance for loan loss - $ 4.8 5.2 -0.4 Allowance for loan loss - % 1.77% 1.91% -0.14% Allowance/non-performing loans 38% 39% -- Allowance/non-performing assets 32% 32% -- </TABLE> Non-performing assets at September 30, 2005 decreased to $15 million or 3.42% of total assets, versus $16.1 million, or 3.57% of total assets at June 30, 2005, a decrease of $1.1 million. This decrease is attributable to a $1 million decrease in non-accrual loans. The Company had net chargeoffs of $14,000 for the third quarter of 2005 compared to net recovery of $0.1 million in the second quarter of 2005. 29
ALLOWANCE FOR LOAN LOSSES The Company grades its loans using an eight grade system. Loans with concerns are classified as either: - Grade 5 - Special Mention: Potential weaknesses that deserve management's close attention; - Grade 6 - Substandard: Inadequately protected, with well-defined weakness that jeopardize pay off of debt; - Grade 7 - Doubtful: Inherent weaknesses which are well-defined and a high probability of loss (impaired) (these loans are typically reserved down to collateralized values); or - Grade 8 - Loss: Considered uncollectible. May have recovery or salvage value with future collection efforts (these loans are either fully reserved or charged off). The Company's allowance for loan losses has four components. Those components are shown in the following table. Commercial, commercial real estate and agricultural loans of over $100,000 are individually reviewed and assessed regarding the need for an individual allocation. <TABLE> <CAPTION> 09/30/05 06/30/05 ---------------------- ---------------------- ALLOCATION ALLOCATION LOAN ------------ LOAN ------------ BALANCE $ % BALANCE $ % ------- ---- ----- ------- ---- ----- <S> <C> <C> <C> <C> <C> <C> Allocations for individual commercial loans graded Doubtful (impaired) $ 9.4 $1.3 13.83% $ 10.3 $1.8 17.48% Allocations for individual commercial loans graded Substandard 7.0 0.6 8.57 9.2 0.7 7.61 Allocation based on Special Mention loan balance 11.3 0.3 2.65 12.1 0.4 3.31 "General" allowance based on chargeoff history of nine categories of loans 243.9 2.6 1.07 240.8 2.3 0.96 ------ ---- ----- ------ ---- ----- TOTAL $271.6 $4.8 1.77% $272.4 $5.2 1.91% </TABLE> The amount of loans classified as doubtful decreased $.9 million to $9.4 million for the quarter ended September 30, 2005 and substandard loans decreased $2.2 million to $7.0 million. Allowance allocations on doubtful loans decreased $0.5 million and the allowance allocations on substandard loans decreased $0.1 million from June 30, 2005. The allowance for loan losses at September 30, 2005 was $4.8 million or 1.77% of loans compared to $5.2 million or 1.91% at June 30, 2005. CAPITAL RESOURCES At September 30, 2005, actual capital levels (in millions) and minimum required levels were: <TABLE> <CAPTION> Minimum Required Minimum Required To Be Well Capitalized For Capital Under Prompt Corrective Actual Adequacy Purposes Action Regulations -------------- ----------------- ----------------------- Amount Ratio Amount Ratio Amount Ratio ------ ----- ------ ----- ------ ----- <S> <C> <C> <C> <C> <C> <C> Total capital (to risk weighted assets) Consolidated $67.9 23.0% $23.6 8.0% $ -- N/A State Bank 35.8 13.1 22.0 8.0 27.5 10.0 </TABLE> The Company and State Bank were categorized as well capitalized at September 30, 2005. 30
LIQUIDITY Liquidity relates primarily to the Company's ability to fund loan demand, meet deposit customers' withdrawal requirements and provide for operating expenses. Assets used to satisfy these needs consist of cash and due from banks, federal funds sold, interest earning deposits in other financial institutions, securities available-for sale and loans held for sale. These assets are commonly referred to as liquid assets. Liquid assets were $128.0 million at September 30, 2005 compared to $119.6 million at December 31, 2004. Management believes its current liquidity level is sufficient to meet its operating needs. The Company's residential first mortgage portfolio of $65.7 million at September 30, 2005 and $63.8 million at June 30, 2005, which can and has been used to collateralize borrowings, is an additional source of liquidity. At September 30, 2005, all eligible mortgage loans were pledged under a FHLB blanket lien. The cash flow statements for the periods presented provide an indication of the Company's sources and uses of cash as well as an indication of the ability of the Company to maintain an adequate level of liquidity. A discussion of the cash flow statements for the nine months ended September 30, 2005 and 2004 follows. The Company experienced positive cash flows from operating activities for the nine months ended September 30, 2005 and 2004. Net cash from operating activities was $3.5 million and $2.7 million, respectively, for the nine months ended September 30, 2005 and 2004. Net cash flow from investing activities was $32.5 million and $8.0 million for the nine months ended September 30, 2005 and 2004, respectively. The changes in net cash from investing activities for the nine months ended September 30, 2005 include increases in loan growth and securities of $4.2 million and $11.1 million, respectively, offset by the proceeds from the Lima branch acquisition. The changes in net cash from investing activities for the nine months ended September 30, 2004 include a increase in securities of $11.0 million, a decrease in loans of $(6.3) million and changes in interest-bearing deposits, purchases of premises and equipment and other investing activities. Net cash flow from financing activities was $(37.7) million and $(18.3) million for the nine months ended September 30, 2005 and 2004, respectively. The net cash variance was primarily due to repayments of FHLB advances of $34.5 million for the nine months ended September 30, 2005 compared to a reduction of total deposits of $(27.5) million for the nine months ended September 30, 2004. OFF-BALANCE-SHEET BORROWING ARRANGEMENTS: Significant additional off-balance-sheet liquidity is available in the form of FHLB advances, unused federal funds lines from correspondent banks, and the national certificate of deposit market. Approximately $56.7 million of the Company's $65.7 million residential first mortgage loan portfolio qualifies to collateralize FHLB borrowings and was pledged to meet FHLB collateralization requirements as of September 30, 2005. In addition to residential first mortgage loans, $14.7 million in investment securities are pledged to meet FHLB collateralization requirements. Based on the current collateralization requirements of the FHLB, approximately $16.7 million of additional borrowing capacity existed at September 30, 2005. 31
As of September 30, 2005 and June 30, 2005, the Company had unused federal funds lines totaling $20.0 million from three correspondent banks. Federal funds borrowed were $2.1 million at September 30, 2005 and $0 at June 30, 2005. TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS <TABLE> <CAPTION> SEPTEMBER 30, 2005 PAYMENT DUE BY PERIOD -------------------------------------------------------------------- LESS MORE THAN 1 1 - 3 3 - 5 THAN 5 Contractual Obligations TOTAL YEAR YEARS YEARS YEARS - ----------------------- ------------ ------------ ----------- ---------- ----------- <S> <C> <C> <C> <C> <C> Long-Term Debt Obligations $ 34,000,000 $ 5,000,000 $ 8,000,000 $5,000,000 $16,000,000 Other Debt Obligations 22,672,794 1,299,529 464,671 288,594 20,620,000 Capital Lease Obligations 0 0 0 0 0 Operating Lease Obligations 2,103,072 261,600 523,200 523,200 795,072 Purchase Obligations 0 0 0 0 0 Other Long-Term Liabilities Reflected on the Registrant's Balance Sheet under GAAP 176,014,845 108,516,781 63,751,598 2,902,934 843,532 ------------ ------------ ----------- ---------- ----------- Total $234,790,711 $115,077,910 $72,739,469 $8,714,728 $38,258,604 ============ ============ =========== ========== =========== </TABLE> The Company's contractual obligations as of September 30, 2005 were evident in long-term debt obligations, other debt obligations, operating lease obligations and other long-term liabilities. Long-term debt obligations are comprised of FHLB advances of $34.0 million. Other debt obligations are comprised of Trust Preferred Securities of $20.6 million and Notes Payable of $2.1 million. The operating lease obligation is a lease on the State Bank operations building (formerly the RDSI-South building) of $99,600 a year and the RDSI-North building of $162,000 a year. Other long-term liabilities are comprised of time deposits of $176,014,845. ASSET LIABILITY MANAGEMENT Asset liability management involves developing and monitoring strategies to maintain sufficient liquidity, maximize net interest income and minimize the impact that significant fluctuations in market interest rates would have on earnings. The business of the Company and the composition of its balance sheet consists of investments in interest-earning assets (primarily loans, mortgage-backed securities, and securities available for sale) which are primarily funded by interest-bearing liabilities (deposits and borrowings). With the exception of loans which are originated and held for sale, all of the financial instruments of the Company are for other than trading purposes. All of the Company's transactions are denominated in U.S. dollars with no specific foreign exchange exposure. In addition, the Company has limited exposure to commodity prices related to agricultural loans. The impact of changes in foreign exchange rates and commodity prices on interest rates are assumed to be insignificant. The Company's financial instruments have varying levels of sensitivity to changes in market interest rates resulting in market risk. Interest rate risk is the Company's primary market risk exposure; to a lesser extent, liquidity risk also impacts market risk exposure. Interest rate risk is the exposure of a banking institution's financial condition to adverse movements in interest rates. Accepting this risk can be an important source of profitability and stockholder value; however, excessive levels of interest rate risk could pose a significant threat to the Company's earnings 32
and capital base. Accordingly, effective risk management that maintains interest rate risks at prudent levels is essential to the Company's safety and soundness. Evaluating a financial institution's exposure to changes in interest rates includes assessing both the adequacy of the management process used to control interest rate risk and the organization's quantitative level of exposure. When assessing the interest rate risk management process, the Company seeks to ensure that appropriate policies, procedures, management information systems, and internal controls are in place to maintain interest rate risks at prudent levels of consistency and continuity. Evaluating the quantitative level of interest rate risk exposure requires the Company to assess the existing and potential future effects of changes in interest rates on its consolidated financial condition, including capital adequacy, earnings, liquidity, and asset quality (when appropriate). Financial institutions derive their income primarily from the excess of interest collected over interest paid. The rates of interest an institution earns on its assets and owes on its liabilities generally are established contractually for a period of time. Since market interest rates change over time, an institution is exposed to lower profit margins (or losses) if it cannot adapt to interest rate changes. For example, assume that an institution's assets carry intermediate or long term fixed rates and that those assets are funded with short-term liabilities. If market interest rates rise by the time the short-term liabilities must be refinanced, the increase in the institution's interest expense on its liabilities may not be sufficiently offset if assets continue to earn at the long-term fixed rates. Accordingly, an institution's profits could decrease on existing assets because the institution will either have lower net interest income or possibly, net interest expense. Similar risks exist when assets are subject to contractual interest rate ceilings, or rate sensitive assets are funded by longer-term, fixed-rate liabilities in a declining rate environment. There are several ways an institution can manage interest rate risk including: 1) matching repricing periods for new assets and liabilities, for example, by shortening terms of new loans or investments; 2) selling existing assets or repaying certain liabilities; and 3) hedging existing assets, liabilities, or anticipated transactions. An institution might also invest in more complex financial instruments intended to hedge or otherwise change interest rate risk. Interest rate swaps, futures contacts, options on futures contracts, and other such derivative financial instruments can be used for this purpose. Because these instruments are sensitive to interest rate changes, they require management's expertise to be effective. The Company has not purchased derivative financial instruments in the past. GOALS FOR 2005 AND 2006 The Company's near term goals include: - Continued focus on the quality of the loan underwriting process - Continued efforts to reduce the level of problem loans - Continued focus on Customer Relationship Management (CRM) - Continued efforts to improve operational efficiencies - Continue to build shareholder value and franchise value. 33
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The following table provides information about the Company's financial instruments used for purposes other than trading that are sensitive to changes in interest rates as of September 30, 2005. It does not present when these items may actually reprice. For loans receivable, securities, and liabilities with contractual maturities, the table presents principal cash flows and related weighted-average interest rates by contractual maturities as well as the Company's historical experience regarding interest rate fluctuations on the prepayment of loans and mortgage backed securities. For core deposits (demand deposits, interest-bearing checking, savings, and money market deposits) that have no contractual maturity, the table presents principal cash flows and, as applicable, related weighted-average interest rates based upon the Company's historical experience, management's judgment and statistical analysis, as applicable, concerning their most likely withdrawal behaviors. The current interest rates for core deposits have been assumed to apply for future periods in this table as the actual interest rates that will need to be paid to maintain these deposits are not currently known. Weighted average variable rates are based upon contractual rates existing at the reporting date. PRINCIPAL/NOTIONAL AMOUNT MATURING OR ASSUMED TO WITHDRAW IN: (DOLLARS IN THOUSANDS) <TABLE> <CAPTION> First Years Year 2 - 5 Thereafter Total -------- -------- ---------- -------- <S> <C> <C> <C> <C> Comparison of 2005 to 2004: Total rate-sensitive assets: At September 30, 2005 $181,776 $135,403 $ 76,554 $393,733 At December 31, 2004 131,266 151,944 93,318 376,528 -------- -------- -------- -------- Increase (decrease) $ 50,510 $(16,541) $(16,764) $ 17,205 Total rate-sensitive liabilities: At September 30, 2005 $152,227 $191,055 $ 40,583 $383,865 At December 31, 2004 152,986 174,129 33,459 360,574 -------- -------- -------- -------- Increase (decrease) $ (759) $ 16,926 $ 7,124 $ 23,291 </TABLE> The above table reflects expected maturities, not expected repricing. The contractual maturities adjusted for anticipated prepayments and anticipated renewals at current interest rates, as shown in the preceding table, are only part of the Company's interest rate risk profile. Other important factors include the ratio of rate-sensitive assets to rate sensitive liabilities (which takes into consideration loan repricing frequency but not when deposits may be repriced) and the general level and direction of market interest rates. For core deposits, the repricing frequency is assumed to be longer than when such deposits actually reprice. For some rate sensitive liabilities, their repricing frequency is the same as their contractual maturity. For variable rate loans receivable, repricing frequency can be daily or monthly. For adjustable rate loans receivable, repricing can be as frequent as annually for loans whose contractual maturities range from one to thirty years. While increasingly aggressive local market competition in lending rates has pushed loan rates lower, the Company's increased reliance on non-core funding sources has restricted the Company's ability to reduce funding rates in concert with declines in lending rates. The Company manages its interest rate risk by the employment of strategies to assure that desired levels of both interest-earning assets and interest-bearing liabilities mature or reprice with similar time frames. Such strategies include: 1) loans receivable which are renewed (and repriced) annually, 2) variable rate loans, 3) certificates of deposit with terms from one month to six years and 4) securities available for sale which mature at various times primarily from one through ten years, 5) federal funds borrowings with terms of one day to three days, and 6) FHLB borrowings with terms of one day to ten years. 34
ITEM 4. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures With the participation of the President and Chief Executive Officer (the principal executive officer) and the Executive Vice President and Chief Financial Officer (the principal financial officer) of the Company, the Company's management has evaluated the effectiveness of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the quarterly period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the Company's President and Chief Executive Officer and Executive Vice President and Chief Financial Officer have concluded that: - information required to be disclosed by the Company in this Quarterly Report on Form 10-Q and other reports which the Company files or submits under the Exchange Act would be accumulated and communicated to the Company's management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure; - information required to be disclosed by the Company in this Quarterly Report on Form 10-Q and other reports which the Company files or submits under the Exchange Act would be recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms; and - the Company's disclosure controls and procedures are effective as of the end of the quarterly period covered by this Quarterly Report on Form 10-Q to ensure that material information relating to the Company and its consolidated subsidiaries is made known to them, particularly during the period in which this Quarterly Report on Form 10-Q is being prepared. Changes in Internal Control Over Financial Reporting There were no changes in the Company's internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred during the Company's fiscal quarter ended September 30, 2005, that have materially affected or are reasonably likely to materially affect, the Company's internal control over financial reporting. 35
PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company is not party to any pending legal proceedings other than routine litigation which management does not believe will have a material adverse effect on the Company. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS a. Not applicable b. Not applicable c. The following table provides information regarding repurchases of the Company's common shares during the three months ended September 30, 2005: <TABLE> <CAPTION> Maximum Number (or Total Number of Approximate Dollar Shares Purchased as Value) of Shares Part of Publicly that May Yet Be Total Number of Average Price Paid Announced Plans or Purchased Under the Period Shares Purchased (1) per Share Programs Plans or Programs - --------------------- -------------------- ------------------ ------------------- ------------------- <S> <C> <C> <C> <C> Julyl 1 thru July 31, 2005 2,655 $12.94 -- -- August 1 thru August 31, 2005 771 $13.01 -- -- September 1 thru September 30, 2005 3,404 $12.94 -- -- </TABLE> (1) All of the repurchased shares were purchased by Reliance Financial Services, N.A., an indirect subsidiary of the Company, in its capacity as the administrator of the Company's Employee Stock Ownership and Savings Plan. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not applicable ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable ITEM 5. OTHER INFORMATION Not applicable 36
ITEM 6. EXHIBITS <TABLE> <CAPTION> Exhibit No. Description Location - ----------- ----------- -------- <S> <C> <C> 4.1 Indenture, dated as of September 15, 2005, by and between Rurban Filed herewith Financial Corp. and Wilmington Trust Company, as Debenture Trustee, relating to Floating Rate Junior Subordinated Deferrable Interest Debentures 4.2 Amended and Restated Declaration of Trust of Rurban Statutory Filed herewith Trust II, dated as of September 15, 2005 4.3 Guarantee Agreement, dated as of September 15, 2005, by and Filed herewith between Rurban Financial Corp. and Wilmington Trust Company, as Guarantee Trustee 31.1 Rule 13a-14(a)/15d-14(a) Certification (Principal Executive Filed herewith Officer) 31.2 Rule 13a-14(a)/15d-14(a) Certification (Principal Financial Filed herewith Officer) 32.1 Section 1350 Certification (Principal Executive Officer) Filed herewith 32.2 Section 1350 Certification (Principal Financial Officer) Filed herewith </TABLE> 37
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has caused this report to be signed on its behalf by the undersigned hereunto duly authorized. RURBAN FINANCIAL CORP. Date: November 14, 2005 By /S/ Kenneth A. Joyce ------------------------------------- Kenneth A. Joyce President & Chief Executive Officer By /S/ James E. Adams ------------------------------------- James E. Adams Executive Vice President & Chief Financial Officer 38