SECURITIES AND EXCHANGE COMMISSION
Form 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
For the fiscal year ended December 31, 2003
Univest Corporation of Pennsylvania
Registrant’s telephone number, including area code
Securities registered pursuant to Section 12(g) of the Act:
The approximate aggregate market value of voting stock held by non-affiliates of the registrant is $379,679,287 as of January 31, 2004.
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 twelve 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 ninety days. YES þ NO o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this form 10-K. o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). YES þ NO o
Part I and Part III incorporate information by reference from the proxy statement for the annual meeting of shareholders on April 13, 2004.
UNIVEST CORPORATION OF PENNSYLVANIA
TABLE OF CONTENTS
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PART I
The information contained in this report may contain forward-looking statements. When used or incorporated by reference in disclosure documents, the words “believe,” “anticipate,” “estimate,” “expect,” “project,” “target,” “goal” and similar expressions are intended to identify forward-looking statements within the meaning of section 27A of the Securities Act of 1933. Such forward-looking statements are subject to certain risks, uncertainties and assumptions, including those set forth below:
Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated, expected or projected. These forward-looking statements speak only as of the date of the report. The Corporation expressly disclaims any obligation to publicly release any updates or revisions to reflect any change in the Corporation’s expectations with regard to any change in events, conditions or circumstances on which any such statement is based.
Item 1. Business
General
Univest Corporation of Pennsylvania, (the Corporation), is a Pennsylvania corporation organized in 1973 and registered as a bank holding company pursuant to the Bank Holding Company Act of 1956. Univest elected to become a Financial Holding Company in 2000 as provided under Title I of the Gramm-Leach-Bliley Act. It owns all of the capital stock of Univest National Bank and Trust Co. (Univest National Bank), Univest Realty Corporation, Univest Delaware, Inc., and Univest Reinsurance Corporation.
The consolidated financial statements include the accounts of Univest Corporation of Pennsylvania and its wholly owned subsidiaries, including Univest National Bank, referred to herein as the “Bank.”
On January 18, 2003 Union National Bank and Trust Company of Souderton and Pennview Savings Bank combined to form Univest National Bank and Trust Co.
Univest National Bank is engaged in the general commercial banking business and provides a full range of banking services and trust services to its customers. Delview, Inc., a wholly owned subsidiary of Univest National Bank, is a passive investment holding company located in Delaware. Delview provides various financial services including financial planning, investment management, insurance products and brokerage services to individuals and businesses through its subsidiaries Univest Investments, Inc. and Univest Insurance, Inc.
Univest Realty Corporation was established to obtain, hold and operate properties for the holding company and its subsidiaries.
Univest Reinsurance Corporation, as a reinsurer, offers life and disability insurance to individuals in connection with credit extended to them by the Bank.
Univest Delaware, Inc. is a passive investment holding company located in Delaware.
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Employees
As of December 31, 2003, Univest and its subsidiaries employed five hundred and thirty-one (531) persons.
Competition
Univest’s service areas are characterized by intense competition for banking business among commercial banks, savings and loan associations, savings banks and other financial institutions. The Corporation’s subsidiary bank actively competes with such banks and financial institutions for local retail and commercial accounts, in Bucks and Montgomery counties, as well as other financial institutions outside its primary service area.
In competing with other banks, savings and loan associations, and other financial institutions, Univest National Bank seeks to provide personalized services through management’s knowledge and awareness of their service area, customers and borrowers.
Other competitors, including credit unions, consumer finance companies, insurance companies and mutual funds, compete with certain lending and deposit gathering services offered by Univest National Bank, Univest Investments, Inc. and Univest Insurance, Inc.
Supervision and Regulation
Univest National Bank is subject to supervision and is regularly examined by the Office of the Comptroller of the Currency. Also, Univest National Bank is subject to examination by the Federal Deposit Insurance Corporation and by the Federal Reserve System.
Univest is subject to the provisions of the Bank Holding Company Act of 1956, as amended, and is registered pursuant to its provisions. Univest is subject to the reporting requirements of the Board of Governors of the Federal Reserve System, and Univest, together with its subsidiaries, is subject to examination by the Board. The Federal Reserve Act limits the amount of credit that a member bank may extend to its affiliates, and the amount of its funds that it may invest in or lend on the collateral of the securities of its affiliates. Under the Federal Deposit Insurance Act, insured banks are subject to the same limitations.
Univest elected to become a Financial Holding Company in 2000 as provided under Title I of the Gramm-Leach-Bliley Act. The Act provides a new regulatory framework for regulation through the financial holding company, which has as its umbrella regulator the Federal Reserve Board. The Gramm-Leach-Bliley Act requires “satisfactory” or higher Community Reinvestment Act compliance for insured depository institutions and their financial holding companies in order for them to engage in new financial activities. The Act provides a federal right to privacy of non-public personal information of individual customers.
Univest is subject to the Sarbanes-Oxley Act of 2002 that went into effect on July 30, 2002. The Act legislated reforms that are intended to address corporate and accounting fraud. The Sarbanes-Oxley Act adopts new standards of corporate governance and imposes new requirements on the board and management of public companies. The bill also requires that the chief executive officer and chief financial officer certify the accuracy of periodic reports filed with the SEC.
Credit and Monetary Policies
Univest National Bank is affected by the fiscal and monetary policies of the federal government and its agencies, including the Federal Reserve System. An important function of the policies is to curb inflation and control recessions through control of the supply of money and credit. The Federal Reserve System uses its powers to regulate reserve requirements of member banks, the discount rate on member-bank borrowings, interest rates on time and savings deposits of member banks, and to conduct open-market operations in United States Government securities to exercise control
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Univest National Bank is a member of the Federal Home Loan Bank System, which consists of 12 regional Federal Home Loan Banks, and is subject to supervision and regulation by the Federal Housing Finance Board. The Federal Home Loan Banks provide a central credit facility primarily for member institutions. The Bank, as a member of the Federal Home Loan Bank of Pittsburgh, is required to acquire and hold shares of capital stock in that Federal Home Loan Bank in an amount equal to 5% of outstanding loans plus 0.7% of the unused credit line from the Federal Home Loan Bank of Pittsburgh.
Statistical Disclosure
Univest was incorporated under Pennsylvania law in 1973 for the purpose of acquiring the stock of Union National Bank and subsequently to engage in other business activities permitted under the Bank Holding Company Act. On September 28, 1973, pursuant to an exchange offer, Univest acquired the outstanding stock of Union National Bank and on August 1, 1990 acquired the stock of Pennview Savings Bank. Two new subsidiaries were incorporated on September 8, 1998 in the State of Delaware. Univest Delaware, Inc. and Delview, Inc. were formed as passive investment companies. Univest Delaware, Inc. is wholly owned by the Corporation and Delview, Inc. is wholly owned by Univest National Bank and Trust Co. Univest Insurance, Inc. and Univest Investments, Inc. are wholly owned by Delview, Inc. Univest Insurance, Inc. acquired Gum Insurance on December 3, 2001. On January 18, 2003, Union National Bank and Trust Company and Pennview Savings Bank combined to form Univest National Bank and Trust Co. Univest National Bank acquired First County Bank on May 17, 2003 and Suburban Community Bank on October 4, 2003. Both First County Bank and Suburban Community Bank were merged into Univest National Bank and Trust Co.
Univest and its subsidiaries occupy thirty-seven properties in Montgomery and Bucks counties in Pennsylvania, which are used principally as banking offices.
Univest National Bank, with its head office in Souderton, Montgomery County, serves the area through its twenty-eight traditional offices, seven supermarket branches that offer traditional commercial bank and trust services, one work site office offering a payroll check cashing service, an express banking center located in the Montgomery Mall and five off-premise automated teller machines. Univest National Bank also provides banking and trust services for the residents and employees of twelve retirement home communities. Fifteen banking offices are in Montgomery County and twenty banking offices are in Bucks County. The work site office and the express banking center are located in Montgomery County. Three off-premise automated teller machines are located in Montgomery County and two are located in Bucks County.
There are no proceedings pending other than the ordinary routine litigation incident to the business of the corporation.
Incorporated herein by reference from the registrant’s definitive proxy statement for the annual meeting of shareholders on April 13, 2004.
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PART II
Univest Corporation of Pennsylvania common stock is listed on NASDAQ: UVSP. Univest’s shares were approved for NASDAQ listing and began trading on the NASDAQ National Market, effective August 15, 2003. At December 31, 2003, Univest had 2,165 stockholders.
As of December 1, 2003, Univest Corporation of Pennsylvania contracted with StockTrans, Inc. to serve as the transfer agent to assist shareholders in managing their Univest stock. StockTrans, Inc. is located at 44 East Lancaster Avenue, Ardmore, PA. Shareholders can contact a representative by calling 610-649-7300.
Range of Market Prices
The following table shows the range of market values of the Corporation’s stock. The prices shown on this page represent transactions between dealers and do not include retail markups, markdowns, or commissions.
Cash Dividends Paid Per Share*
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Equity Compensation Plan Information
The following table sets forth information regarding outstanding options and shares under the equity compensation plans as of December 31, 2003:
Securities and Exchange Commission Reports
The Corporation makes available free of charge its reports that are electronically filed with the SEC on its website as a hyperlink to EDGAR. These reports are available as soon as reasonably practicable after the material is electronically filed. Univest’s website address is www.univest.net. The Corporation will provide at no charge a copy of the SEC Form 10-K annual report for the year 2003 to each shareholder who requests one in writing after March 31, 2004. Requests should be directed to: Wallace H. Bieler, Secretary, Univest Corporation of Pennsylvania, P.O. Box 64197, Souderton, PA 18964.
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Item 6. Selected Financial Data
Net income and applicable income taxes for the year ended December 31, 1999 have been adjusted by $766 thousand to reflect the impact of not properly recording the deferred taxes (benefits) on certain items in periods prior to 1999 relating primarily to the Corporation’s Supplemental Retirement Plan. The effect of this adjustment increased the Corporation’s assets and shareholders’ equity by $766 thousand for the years ended December 31, 2002, 2001, 2000 and 1999.
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(All dollar amounts presented within tables are in thousands, except per share data.)
(Common stock data has been restated to give effect to a five for four stock split effected in the form of a dividend declared on January 22, 2003 to shareholders of record as of February 7, 2003, paid on February 28, 2003. All share and per share amounts have been retroactively adjusted to give effect to the stock split.)
The principal component of earnings for the Corporation is net interest income, which is the difference between the yield on interest-earning assets and the cost on interest-bearing liabilities. The net interest margin, which is the ratio of net interest income to average earning assets, is affected by several factors including market interest rates, economic conditions, loan demand, and deposit activity. The Corporation seeks to maintain a steady net interest margin and consistent growth of net interest income. Growth is pursued through expansion of current customer relationships and development of additional relationships with new offices and strategic related acquisitions. The Corporation has also taken steps in recent years to reduce its dependence on net interest income by intensifying its focus on fee based income from trust, insurance, and investment services to customers.
Univest Corporation of Pennsylvania consolidated net income and earnings per share for 2003, 2002, and 2001 were as follows:
The 2003 results compared to 2002 include the following significant pretax components:
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The 2002 results compared to 2001 include the following significant pretax components:
Net interest income is the difference between interest earned on loans, investments and other interest-earning assets and interest paid on deposits and other interest-bearing liabilities. Net interest income is the principal source of the Corporation’s revenue. Table 1 presents a summary of Univest’s average balances, the yields earned on average assets, the cost of average liabilities, and shareholders’ equity for the years ended December 31, 2003, 2002, and 2001. Table 2 analyzes the changes in net interest income for the periods broken down by their rate and volume components. Sensitivities associated with the mix of assets and liabilities are numerous and complex. The Asset/ Liability Management and Investment Committees work to maintain an adequate and reliable net interest margin for the Corporation.
In 2001, market interest rates declined significantly. In 2002 market rates continued to decline, although at a much slower pace. And in 2003, rates were mixed; in general short-term rates declined slightly and long-term rates increased slightly. The impact of lower market rates is reflected in Table 1. The average rate for every interest-earning asset (with the exception of Federal Reserve Bank Stock) and for every interest-bearing liability has declined. The net interest margin, which is net interest income as a percentage of average assets, declined from 4.0% at both December 31, 2002 and 2001 to 3.8% at December 31, 2003.
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Table 1 — Distribution of Assets, Liabilities and Stockholders’ Equity; Interest Rates and Interest Differential
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Table 2 — Analysis of Changes in Net Interest Income
The rate-volume variance analysis set forth in the table below compares changes in net interest for the periods indicated by their rate and volume components. The change in interest income/expense due to both volume and rate has been allocated to change in volume.
Interest and fees on loans increased 1.7% or $0.9 million from the $53.3 million recorded for the year ended December 31, 2002 to $54.2 million for the year ended December 31, 2003. Prime rate, which is an important factor of the Bank’s loan interest income, decreased from 4.25% at December 31, 2002 to 4.00% at December 31, 2003. The average prime rate for the year ended
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Tax-exempt interest on loans decreased $0.5 million, or 15.6%, from $3.2 million for the year ended December 31, 2002 to $2.7 million for the year ended December 31, 2003. There was average loan volume growth in tax-exempt loans that was more than offset by a decrease in rates. The decrease in rate is a result of market conditions. There was little change from $3.3 million for the year ended December 31, 2001 to $3.2 million for the year ended December 31, 2002.
Interest on U.S. Government obligations decreased from $4.5 million for the year ended December 31, 2002 to $4.3 million for the year ended December 31, 2003. As in 2002, the volume increase was offset by a decrease in the portfolio yield due to repricing through maturities, calls, and advantageous sales. Interest on U.S. Government obligations decreased from $5.2 million for the year ended December 31, 2001 to $4.5 million for the year ended December 31, 2002. U.S. Government obligation volume was higher than the previous year, but as higher yielding securities matured or were called, they were replaced with lower yielding securities.
Interest and dividends on state and political subdivisions continues to show an increasing trend from $1.9 million in 2001 to $2.8 million in 2002 and $3.4 million in 2003. The increase is a result of a continued commitment to invest in tax-exempt securities. During 2003, 2002 and 2001, the Corporation acquired tax-exempt securities with a term of greater than ten years and at tax-equated yields substantially higher than other investment opportunities. The increase in volume offset the slight decline in yield.
The other securities category consists mainly of U.S. Government Agency mortgage-backed securities. Income on other securities declined from $12.2 million in 2002 to $10.0 million in 2003. Prepayments on mortgage-backed securities during 2003 were significant. The average volume grew from $196.3 million in 2002 to $204.6 million in 2003, however this growth was offset by a decrease in the average yield from 6.2% in 2002 to 4.8% in 2003 as higher yielding securities matured or were prepaid and were replaced with lower yielding securities. Income on other securities declined from $12.5 million in 2001 to $12.2 million in 2002. Growth in the average volume of $3.7 million in 2002 was offset by a decrease in the yield.
Interest on federal funds sold is the resulting daily investment activity that can be volatile in both rate and volume. Interest on federal funds sold decreased from $0.2 million in 2002 to $0.1 million in 2003 due to continued decreases in both average volume and the federal funds rate. Interest on federal funds sold decreased from $0.7 million in 2001 to $0.2 million in 2002 due to both decreased volume and a decline in the federal funds rate.
The average rates paid on deposits declined significantly during 2003 throughout the banking industry. The Corporation’s average cost of deposits declined 90 basis points from 2.7% in 2002 to 1.8% in 2003. Every major category of deposits grew in average volume during both 2002 and 2003. In each case, the impact on interest expense of this increase in volume was offset by a decrease in the average interest rate for that category.
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Interest expense on demand deposits decreased 39.5% or $1.5 million from $3.8 million in 2002 to $2.3 million in 2003. Comparing 2001 to 2002, interest expense on demand deposits decreased 51.9% or $4.1 million from $7.9 million in 2001 to $3.8 million in 2002.
Interest expense on savings deposits decreased 57.1% or $1.2 million from $2.1 million in 2002 to $0.9 million in 2003. Interest expense on savings deposits decreased from $2.6 million in 2001 to $2.1 million in 2002.
Interest expense on time deposits decreased from $17.1 million in 2002 to $14.3 million in 2003. Interest expense on time deposits decreased from $20.3 million in 2001 to $17.1 million in 2002.
Interest expense-all other consists of interest paid on short-term borrowings such as federal funds purchased and repurchase agreements. In addition, Univest National Bank offers an automated cash management checking account that sweeps funds daily into a repurchase agreement account. Interest expense decreased from $2.2 million in 2001, to $1.2 million in 2002, and to $0.7 million in 2003.
Interest on long-term debt increased from $1.5 million at December 31, 2002 to $2.8 million at December 31, 2003. This increase represents interest on total long-term debt of $87.4 million as of December 31, 2003 which included $14.3 million in Subordinated Capital Notes, $20.0 million in Company-Obligated Mandatorily Redeemable Preferred Securities of Subsidiary Trusts Holding Junior Subordinated Debentures of Univest (“Trust Preferred Securities”), and $50.1 million borrowed from the Federal Home Loan Bank of Pittsburgh. At December 31, 2002 the total long-term debt was $31.1 million, all of which were borrowed from the Federal Home Loan Bank of Pittsburgh. Interest on long-term debt increased from $1.4 million at December 31, 2001 to $1.5 million at December 31, 2002. Federal Home Loan Bank advances are available to meet seasonal and other withdrawals from deposit accounts, to purchase mortgage-backed securities and to expand lending.
The reserve for loan losses is determined through a periodic evaluation that takes into consideration the growth of the loan portfolio, the status of past-due loans, current economic conditions, various types of lending activity, policies, real estate and other loan commitments, and significant changes in charge-off activity. Loans are also reviewed for impairment based on discounted cash flows using the loans’ initial effective interest rate or the fair value of the collateral for certain collateral dependent loans as provided for under SFAS No. 114. Any of the above criteria may cause the provision to fluctuate. The provision for the years ended December 31, 2003, 2002, and 2001 was $1.0 million, $1.3 million, and $0.8 million, respectively. Growing loan volumes and current economic conditions indicated the need for an increase to the reserve in 2003.
Noninterest income consists of trust department fee income, service charge income, commission income, net gains on sales of securities, net gains on the sale of mortgages and other miscellaneous types of income. It also includes various types of service charges, such as ATM fees and changes in the cash surrender value of bank-owned insurance.
Trust income for the year ended December 31, 2003 of $4.6 million was $0.4 million or 9.5% greater than the $4.2 million reported for the year ended December 31, 2002. This increase was due primarily to an increase in the fees charged for trust services, as well as an increase in the market value of assets under management. Income for the year ended December 31, 2002 of $4.2 million was $0.1 million or 2.3% less than the $4.3 million reported for the year ended December 31, 2001. The increase in the number of trust accounts during 2002 was offset by the decline in market conditions thereby lowering the dollar value of assets under management.
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Service charges on deposit accounts increased $0.2 million from $5.5 million for the year ended December 31, 2002 to $5.7 million for the year ended December 31, 2003. This is due primarily to an increase in fees received for nonsufficient funds. Service charges on deposit accounts increased $0.3 million from $5.2 million for the year ended December 31, 2001 to $5.5 million for the year ended December 31, 2002. Service charge revenue increased as earnings credit rates for commercial accounts declined. Nonsufficient funds fees also increased. These increases were partially offset by a decrease in ATM fee revenue.
Commission income, which is offset by commission expense, is the primary source of income for Univest Investments, Inc. and Univest Insurance, Inc. Commission income grew from $4.4 million at December 31, 2002 to $4.8 million at December 31, 2003, an increase of $0.4 million or 9.1%. This growth is primarily due to a large increase in loss ratio based bonuses for Univest Insurance, Inc. Commission income grew from $2.6 million at December 31, 2001 to $4.4 million at December 31, 2002, an increase of $1.8 million or 69.2%. The growth is primarily due to the acquisition of the Gum Insurance Agency in December 2001.
Other noninterest income consists mainly of general fee income and other miscellaneous types of income. Other noninterest income of $5.8 million for 2003 is $0.4 million or 7.4% higher than the $5.4 million earned in 2002. This growth is attributed to an increase in cash surrender values of bank owned life insurance policies, a one-time receipt of a liquidation distribution representing our membership interest in certain bank owned insurance policies of $0.4 million, and the generation of mortgage placement income. Other noninterest income of $5.4 million for 2002 is $0.3 million or 5.3% lower than the $5.7 million earned in 2001. Increases in debit card compensation, cash surrender values of bank-owned life insurance policies and an adjustment to the reserve account for off-balance sheet credit exposures were offset by decreases in financial planning service fees and mortgage servicing rights fees.
Sales of mortgage loans during the year ended December 31, 2003 resulted in a gain of $0.6 million as compared to $0.2 million for the year ended December 31, 2002. Sales of mortgage loans during the year ended December 31, 2002 resulted in a gain of $0.2 million as compared to $0.1 million for the year ended December 31, 2001. Sales increased in both 2002 and 2003 due to the large number of refinancings as a result of record low mortgage rates.
During 2003, debt and equity securities totaling approximately $105.1 million were sold resulting in a net gain of $2.1 million. Using the same strategy as last year, short-term securities were sold and the funds were reinvested in medium-term securities to take advantage of a steep yield curve. During 2002, securities totaling approximately $27.9 million were sold from the available-for-sale portfolio resulting in a net gain of $0.9 million. In 2001, securities totaling approximately $15.9 million were sold from the available-for-sale portfolio or matured, resulting in a net gain of $0.2 million.
The operating costs of the Corporation are known as noninterest expense, and include, but are not limited to, salaries and benefits, equipment expense, and occupancy costs. Expense control is very important to the management of the Corporation, and every effort is made to contain and minimize the growth of operating expenses, attempting to provide technological innovation whenever practical, as operations change or expand.
Salaries and benefits increased $2.6 million or 11.9% from $21.9 million in 2002 to $24.5 million in 2003. This increase is due primarily to the acquisitions of the First County Bank and Suburban Community Bank, increased pension and medical insurance expenses and increased commission expense generated by Univest Investments, Inc. and Univest Insurance, Inc. Salaries and benefits increased $1.9 million or 9.5% from $20.0 million in 2001 to $21.9 million in 2002. The acquisition of
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Net occupancy expense increased $0.5 million from $3.0 million for the year ended December 31, 2002 to $3.5 million for the year ended December 31, 2003 due to additional facilities from the acquisitions. Net occupancy expense increased $0.3 million from $2.7 million for the year ended December 31, 2001 to $3.0 million for the year ended December 31, 2002. Equipment expense increased $0.5 million from $2.3 million in 2002 to $2.8 million in 2003, primarily due to an increase in software expense. Equipment expense increased $0.1 million from $2.2 million in 2001 to $2.3 million in 2002.
Other expenses increased $0.7 million or 6.6% to $11.3 million for the year ended December 31, 2003 as compared to $10.6 million for the year ended December 31, 2002. Audits and regulatory examination fees, insurance expense, Pennsylvania State Capital Shares tax, and the core deposit intangible amortization expense all increased and there was a one-time Nasdaq Stock Market application fee of $0.1 million. Advertising and marketing, public relations and community relations expenses for 2003 were less than 2002 expenses due to planned budget restrictions. These budget items have been increased for the 2004 plan. Other expenses decreased $0.3 million, or 2.8%, to $10.6 million for the year ended December 31, 2002 as compared to $10.9 million for the year ended December 31, 2001. Audits and regulatory examination fees, legal, consultant and pension advisory fees, and insurance expense all increased while no amortization of goodwill was expensed due to the Corporation’s adoption of FAS 142.
The provision for income taxes was $8.2 million for the year ended December 31, 2003, $7.6 million for the year ended December 31, 2002 and $7.0 million for the year ended December 31, 2001. The provision for income taxes for 2003, 2002, and 2001, was at effective rates of 26.2%, 26.5%, and 26.7%, respectively. The effective tax rates reflect the benefits of tax credits generated from investments in low-income housing projects and tax-exempt income from investments in municipal securities, loans and bank-owned life insurance.
During 2003, total assets increased to $1,657.2 million, a growth of $330.6 million or 24.9% over the $1,326.6 million in 2002. Total investments increased by $28.2 million from $395.1 million at December 31, 2002 to $423.3 million at December 31, 2003. Federal funds sold decreased $1.4 million to $2.5 million at December 31, 2003 as compared to the $3.9 million at December 31, 2002. Total loans increased $237.0 million from $825.4 million at December 31, 2002 to $1,062.4 million at December 31, 2003. Total deposits increased $227.2 million to $1,270.3 million as compared to the $1,043.1 million at December 31, 2002. Detailed explanations follow below.
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ASSETS
At the time of the respective acquisitions, First County Bank and Suburban Community Bank had combined total assets of $230.5 million as shown in the table below. As a result of these acquisitions, $34.9 million was recorded as goodwill and $2.0 million was recorded as core deposit intangibles.
The investment portfolio is managed as part of the overall asset and liability management process to optimize income and market performance over an entire interest rate cycle while mitigating risk. Activity in this portfolio is undertaken primarily to manage liquidity and interest rate risk and to take advantage of market conditions that create more economically attractive returns on these investments. The securities portfolio consists primarily of U.S. Government agency, mortgage-backed and municipal securities.
Total investments increased by $28.2 million from $395.1 million at December 31, 2002 to $423.3 million at December 31, 2003. This increase is due primarily to the addition of the investment portfolio balances from the acquisitions of First County Bank and Suburban Community Bank. Short-term securities sold during 2003 were replaced by medium-term securities to take advantage of the steep yield curve.
Table 3 — Investment Securities
The following table shows the carrying amount of investment securities as of the dates indicated. Held-to-maturity and available-for-sale portfolios are combined.
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Table 4 — Investment Securities (Yields)
The following table shows the maturity distribution and weighted average yields of the investment securities for the periods indicated. The weighted average yield is calculated by dividing income, which has not been tax equated on tax-exempt obligations, within each maturity range by the outstanding amount of the related investment. Held-to-maturity and available-for-sale portfolios are combined.
Total loans increased $237.0 million from $825.4 million at December 31, 2002 to $1,062.4 million at December 31, 2003. This growth came primarily from the acquisitions. Commercial loans grew steadily through the year for an increase of $214.0 million. Consumer loans grew, increasing after the first quarter with total growth for the year of $20.7 million. Mortgage loans were relatively flat with net growth of $2.0 million.
Table 5 — Loan Portfolio
The following table presents the composition of the loan portfolio as of the dates indicated:
Table 6 — Loan Maturities and Sensitivity to Changes in Interest Rates
The following table presents the maturity of the loan portfolio as of December 31, 2003:
Loans due after one year totaling $124.5 million have variable interest rates. The remaining $263.4 million in loans have fixed rates.
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The commercial mortgages and Industrial Development Authority mortgages that are presently being written at both fixed and floating rates of interest include loans written for a three (3) or five (5) year term with a monthly payment based on a fifteen (15) year amortization schedule. At each three-year or five-year anniversary date of the mortgages, the interest rate is renegotiated and the term of the loan is extended for an additional three or five years. At each three-year or five-year anniversary date of the mortgages, the Bank also has the right to require payment in full. These are included in the “Due in One to Five Years” category on issue. The borrower has the right to prepay the loan at any time.
Performance of the entire loan portfolio is reviewed on a regular basis by bank management and loan officers. A number of factors regarding the borrower, such as overall financial strength, collateral values, and repayment ability, are considered in deciding what actions should be taken when determining the collectibility of interest for accrual purposes.
When a loan, including a loan impaired under SFAS No. 114, is classified as nonaccrual, the accrual of interest on such a loan is discontinued. A loan is classified as nonaccrual when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about the further collectibility of principal or interest, even though the loan is currently performing. A loan may remain on accrual status if it is in the process of collection and is either guaranteed or well secured. When a loan is placed on nonaccrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against other expense. Interest received on nonaccrual loans is either applied against principal or reported as interest income, according to management’s judgment as to the collectibility of principal.
Loans are usually restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time, and the ultimate collectibility of the total contractual principal and interest is no longer in doubt.
Total cash basis, restructured and nonaccrual loans totaled $8.6 million at December 31, 2003, $2.6 million at December 31, 2002 and $1.6 million at December 31, 2001 and consist mainly of commercial loans and real estate related commercial loans. For the years ended December 31, 2003, 2002 and 2001, nonaccrual loans resulted in lost interest income of $0.4 million, $0.2 million and $0.2 million respectively. The Corporation’s ratio of nonperforming assets to total loans was .89% as of December 31, 2003 and ..32% as of December 31, 2002.
At December 31, 2003, the recorded investment in loans that are considered to be impaired under SFAS No. 114 was $8.6 million, all of which were on a nonaccrual basis. The related reserve for loan losses for those loans was $1.9 million. In the third quarter of 2003, two commercial credits totaling $5.3 million were added to impaired loans and are included in the year-end total. Both credits are secured by real estate and specific reserves have been established based on current facts and management’s judgments about the ultimate outcome of these credits. The amount of the specific reserve needed for these credits could change in future periods subject to changes in facts and judgments related to these credits. At December 31, 2002, the recorded investment in loans that are considered to be impaired under SFAS No. 114 was $2.5 million, all of which were on a nonaccrual basis. The related reserve for loan losses for those loans was $0.4 million.
At December 31, 2003, management is not aware of other potential problem loans that cause serious doubts as to the ability of the borrowers to comply with the present loan repayment terms. In management’s evaluation of the loan portfolio risks, any significant future increases in nonperforming loans are dependent to a large extent on the economic environment, or specific industry problems.
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At December 31, 2003 there were no concentrations of loans exceeding 10% of total loans other than disclosed in Table 5.
Table 7 — Nonaccrual, Past Due and Restructured Loans
The following table details the aggregate principal balance of loans classified as nonaccrual, past due and restructured:
Reserve For Loan Losses
Management believes the reserve for loan losses is maintained at a level that is adequate to absorb losses in the loan portfolio. Management’s methodology to determine the adequacy of and the provisions to the reserve considers specific credit reviews, past loan loss experience, current economic conditions and trends, and the volume, growth, and composition of the loan portfolio.
The reserve for loan losses is determined through a monthly evaluation of reserve adequacy. Quarterly, this analysis takes into consideration the growth of the loan portfolio, the status of past-due loans, current economic conditions, various types of lending activity, policies, real estate and other loan commitments, and significant changes in charge-off activity. Non-accrual loans are evaluated individually. All other loans are evaluated as pools. Based on historical loss experience, loss factors are determined giving consideration to the areas noted in the first paragraph and applied to the pooled loan categories to develop the general or allocated portion of the reserve. Loans are also reviewed for impairment based on discounted cash flows using the loans’ initial effective interest rate or the fair value of the collateral for certain collateral-dependent loans as provided under SFAS No. 114. Management also reviews the activity within the allowance to determine what actions, if any, should be taken to address differences between estimated and actual losses. Any of the above factors may cause the provision to fluctuate.
The reserve for loan losses is based on management’s evaluation of the loan portfolio under current economic conditions and such other factors, which deserve recognition in estimating loan losses. This evaluation is inherently subjective, as it requires estimates including the amounts and timing of future cash flows expected to be received on impaired loans that may be susceptible to significant change. Additions to the reserve arise from the provision for loan losses charged to operations or from the recovery of amounts previously charged off. Loan charge-offs reduce the reserve. Loans are charged off when there has been permanent impairment or when in the opinion of management the full amount of the loan, in the case of non-collateral dependent borrowings, will not be realized. Certain impaired loans are reported at the present value of expected future cash flows using the loan’s initial effective interest rate, or at the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent.
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The reserve for loan losses consists of an allocated reserve and an unallocated reserve. The allocated reserve is comprised of reserves established on specific loans, and class reserves based on historical loan loss experience, current trends, and management assessments. The unallocated reserve is based on both general economic conditions and other risk factors in the Corporation’s individual markets and portfolios.
The specific reserve element is based on a regular analysis of impaired commercial and real estate loans. For these loans, the specific reserve established is based on an analysis of related collateral value, cash flow considerations and, if applicable, guarantor capacity.
The class reserve element is determined by an internal loan grading process in conjunction with associated allowance factors. The Corporation revises the class allowance factors whenever necessary in order to address improving or deteriorating credit quality trends or specific risks associated with a given loan pool classification.
The Corporation maintains a reserve in other liabilities for off-balance sheet credit exposures that currently are unfunded.
Table 8 — Allocated, Unallocated Loan Loss Reserves
The reserve for loan losses is made up of the allocated reserve and the unallocated portion. The following table summarizes the two categories for the periods indicated.
The total reserve for loan losses increased $2.3 million primarily due to the reserve acquired as part of the acquisitions of First County and Suburban Community Bank which added $2.1 million to the reserve. The $2.8 million increase in the allocated portion of the reserve for the year ended December 31, 2003 occurred as increased risk associated with the commercial loan portfolio more than offset lower risk identified for the retail loan portfolio. Commercial loan allocation increases were attributable to material loan growth together with the recognition of one impaired loan with high specific reserve requirements. Commercial loans outstanding increased $214 million year over year (more than 40%) partly because of the two commercial bank acquisitions. Although the number of impaired credits declined year over year, the average size and corresponding specific reserve requirements have increased materially, almost entirely due to one credit. The favorable impact of commercial real estate loan grade migrations nearly matched additional allocation requirements related to weaker C&I portfolio quality. Retail loan allocations decreased primarily due to material improvement in retail past due and loss experience. The $0.6 million reduction in the unallocated position reflects refinements instituted in the justification methodology and the employment of lower stress test factors due to improved grading accuracy and positive economic forecasts.
The $0.3 million increase in the allocated portion of the reserve for the year ended December 31, 2002 occurred as increased risk associated with the commercial loan portfolio more than offset lower risk identified for the retail loan portfolio. Commercial loan allocation increases were attributable to loan growth of $24.7 million together with a weakening of portfolio quality measures. Classified commercial loans outstanding experienced a year over year rise of $10.8 million. Retail loan allocations decreased due to a combination of reduced consumer loan volume, more favorable trends in recent historical loss experience and reserve methodology adjustments related to guaranteed student loans. The $0.1 million reduction in the unallocated position is a result of the enhancements noted above. Analysis of unallocated adequacy is based on a stress-testing model assessing loan grade migration as influenced by economic conditions and grading accuracy.
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Management believes that both the allocated and unallocated portions of the reserve are maintained at a level that is adequate to absorb losses in the loan portfolio.
As the accompanying table indicates, the amount of loan loss provision charged to expense for 2003 was $1.0 million compared to $1.3 million in 2002 and $0.8 million in 2001.
Table 9 — Summary of Loan Loss Experience
Total cash-basis and nonaccrual loans of $8.6 million at December 31, 2003, were generally comprised of $1.0 million in residential real estate loans, $0.3 million in nonfarm nonresidential real estate loans, $3.2 million in commercial real estate loans and $4.1 million in commercial and other loans.
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The ratio of the reserve for loan losses to total loans was 1.2% at December 31, 2003 and 1.3% at December 31, 2002.
Goodwill and Other Intangible Assets
On January 1, 2002, the Corporation adopted Statement No. 142, “Goodwill and Other Intangible Assets” (SFAS No. 142). In accordance with the provisions of SFAS No. 142, the Corporation has completed the annual impairment tests and no impairment was noted. There can be no assurance that future goodwill impairment tests will not result in a charge to earnings.
The Corporation has a covenant not to compete, intangible assets due to bank and branch acquisitions, core deposit intangibles, and mortgage servicing rights, which are not deemed to have an indefinite life and therefore will continue to be amortized over their useful life. The amortization for these intangible assets was $0.4 million for the year ended December 31, 2003, $0.3 million for the year ended December 31, 2002, and $0.3 million for the year ended December 31, 2001. The Corporation also has goodwill of $41.1 million, which is deemed to be an indefinite intangible asset and will not be amortized. In connection with the acquisitions of First County Bank and Suburban Community Bank, the Corporation recorded $34.9 million of goodwill.
LIABILITIES
At the time of the respective acquisitions, First County Bank and Suburban Community Bank had combined total liabilities of $209.2 million as shown in the table below.
Deposits
Total deposits grew $227.2 million, or 21.8%, from $1,043.1 million at December 31, 2002 to $1,270.3 million at December 31, 2003. Deposit growth of $180.8 million, or 17.3%, came from the acquisitions. Savings deposits grew 32.6% in 2003. Demand deposits, non-interest and interest bearing, grew 28.5% and 27.1% respectively for the year. Certificates of deposit grew only 8.8%, reflecting the Corporation’s desire to limit these higher priced deposits. Univest and its subsidiaries do not have any foreign offices or foreign deposits.
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Table 10 — Deposits
The following table summarizes the average amount of deposits for the years indicated:
The following table summarizes the maturities of certificates of deposit and other time deposits with balances of $100 thousand or more at December 31, 2003:
Long-term debt increased $56.3 million from $31.1 million at December 31, 2002 to $87.4 million at December 31, 2003. This increase is attributed to $15 million in Subordinated Capital Notes issued in May 2003, the issuance of $20 million of Trust Preferred Securities issued in August 2003, and additional long-term borrowings acquired in the mergers with First County Bank and Suburban Community Bank. Also included in this increase is a $3.0 million fair market value adjustment relating to long-term debt acquired in the First County Bank and Suburban Community Bank acquisitions.
Table 11 — Short Term Borrowings
The following table details key information pertaining to securities sold under agreement to repurchase on an overnight basis for the periods indicated:
Shareholders’ equity increased $11.6 million or 8.6% to $145.8 million at December 31, 2003 compared to $134.2 million at December 31, 2002. Treasury stock increased $0.1 million to $39.9 million at December 31, 2003 from $39.8 million at December 31, 2002. There is a buyback program in place which as of December 31, 2003 allows the Corporation to purchase an additional 216,557 shares of its outstanding common stock in the open market or in negotiated transactions.
On February 28, 2003 the Corporation issued a five for four stock split in the form of a dividend. All share and per share data has been restated to give effect to the dividend.
The accumulated other comprehensive income, related to debt securities, of $3.5 million, net of taxes, has been included in shareholders’ equity as of December 31, 2003. At December 31, 2002,
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The accumulated other comprehensive income related to interest-rate swaps, of $3 thousand, net of taxes, has been included in shareholders’ equity as of December 31, 2003. The accumulated other comprehensive income related to interest-rate swaps, net of taxes, included in shareholders’ equity as of December 31, 2002 was $0.3 million. Accumulated other comprehensive income related to interest-rate swaps reflects the current market value of the swap net of taxes. The interest-rate swap matured on January 7, 2004 and therefore had a minimal market value as of December 31, 2003.
Capital guidelines which banking regulators have adopted assign minimum capital requirements for categories of assets depending on their assigned risks. The components of risk-based capital are Tier I and Tier II. Minimum required total risk-based capital is 8.0%. Univest had a Tier I capital ratio of 10.0% and total risk-based capital ratio of 12.0% at December 31, 2003. At December 31, 2002 the Corporation had a Tier I capital ratio of 12.5% and total risked-based capital ratio of 13.6%. These ratios declined during the year as a result of the bank acquisitions, yet continue to place Univest in the “well-capitalized” category under regulatory standards.
In April 2003, Univest secured $15.0 million in subordinated capital notes that qualifies for Tier II capital status. In August 2003 the Corporation issued $20.0 million of trust preferred securities that qualify for Tier I capital status. The proceeds from these transactions were used to support the future growth of Univest and its banking subsidiary and for general corporate purposes.
Management, in order to prepare Univest’s financial statements in conformity with generally accepted accounting principles, is required to make estimates and assumptions that effect the amounts reported in the Corporation’s financial statements. There are uncertainties inherent in making these estimates and assumptions. Certain critical accounting policies, discussed below, could materially affect the results of operations and financial position of the Corporation should changes in circumstances require a change in related estimates or assumptions. The Corporation has identified the reserve for loan losses, derivatives, intangible assets, investment securities, mortgage servicing rights and benefit plans as its critical accounting policies.
Reserve for loan losses are provided using techniques that specifically identify losses on impaired loans, estimate losses on pools of homogeneous loans, and estimate the amount of unallocated reserve necessary to account for losses that are present in the loan portfolio but not yet currently identifiable. The adequacies of these reserves are sensitive to changes in current economic conditions that may affect the ability of borrowers to make contractual payments as well as the value of the collateral committed to secure such payments. Rapid or sustained downturns in the economy may require increases in reserves that may negatively impact the Corporation’s results of operation and statements of financial condition in the periods requiring additional reserves.
The Corporation accounts for its interest-rate swap contracts, in compliance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” by establishing and documenting the effectiveness of the instrument in offsetting the change in cash flows of certain prime-rate-based loans held by the Bank. When the effectiveness of the hedge can be established
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Intangible assets have been recorded on the books of the Corporation in connection with its acquisitions of First County Bank, Pennview Savings Bank, Suburban Community Bank, Univest Investments, and Univest Insurance. These assets, both identifiable and unidentifiable, are subject to tests for impairment. Changes in the useful life or economic value of acquired assets may require a reduction in the asset value carried on the financial statements of the Corporation and a related charge in the statement of operations. Such changes in asset value could result from a change in market demand for the products or services offered by an acquired business or by reductions in the expected profit margins that can be obtained through the future delivery of the acquired product or service line. SFAS No. 142, which took effect January 1, 2002, defines the methods that are acceptable for determining whether intangible asset values are sustainable.
Univest designates its investment securities as held-to-maturity, available-for-sale or trading in accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” Each of these designations affords different treatment in the statement of operations and statement of financial condition for market value changes effecting securities that are otherwise identical. Should evidence emerge that indicates that management’s intent or ability to manage the securities as originally asserted is not supportable, securities in the held-to-maturity or available-for-sale designations may be re-categorized so that either statement of financial position or statement of operations adjustments may be required.
Univest accounts for mortgage servicing rights for mortgages it originated but subsequently sold in accordance with SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities — a replacement of FAS No. 125.” As such, the value of the rights is booked as income when the corresponding mortgages are sold. The income booked at sale is the estimated present value of the cash flows that will be received from servicing the loans over the entire future term. The term of a servicing right can be reasonably estimated using prepayment assumptions of comparable assets priced in the secondary market. As mortgage rates being offered to the public decrease, the life of loan servicing rights tends to shorten, as borrowers have increased incentive to refinance. Shortened loan servicing lives require a change in the value of the servicing rights that have already been recorded to be marked down in the statement of operations of the servicing company. This may cause a material change in reported operations for the Corporation depending on the size of the servicing portfolio and the degree of change in the prepayment speed of the type and coupon of loans being serviced.
The Corporation has a retirement plan that it provides as a benefit to employees and former employees and supplemental retirement plans that it provides as a benefit to certain current and former executives. Determining the adequacy of the funding of these plans may require estimates of future salary rate increases, of long-term rates of investment return, and the use of an appropriate discount rate for the obligation. Changes in these estimates and assumptions due to changes in the economic environment or financial markets may result in material changes in the Corporation’s report of operation or statement of financial condition.
Readers of the Corporation’s financial statements should be aware that the estimates and assumptions used in the Corporation’s current financial statements may need to be updated in future financial presentations for changes in circumstances, business or economic conditions in order to fairly represent the condition of the Corporation at that time.
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The primary functions of Asset/ Liability Management are to assure adequate earnings, capital and liquidity while maintaining an appropriate balance between interest-earning assets and interest-bearing liabilities. Liquidity management involves the ability to meet cash flow requirements of customers and corporate needs. Interest-rate sensitivity management seeks to avoid fluctuating net interest margins and to enhance consistent growth of net interest income through periods of changing rates.
Univest uses both GAP and simulation techniques to quantify its exposure to interest rate risk. The Corporation uses GAP techniques to identify and monitor long-term rate exposure and uses a simulation model to measure the short-term rate exposures. The Corporation runs various earnings simulation scenarios to quantify the effect of declining or rising interest rates on the net interest margin over a one-year horizon. The simulation uses existing portfolio rate and repricing information, combined with assumptions regarding future loan and deposit growth, future spreads, prepayments on residential mortgages, and the discretionary pricing of non-maturity assets and liabilities.
The Corporation uses interest-rate swap agreements that convert a portion of its floating rate commercial loans to a fixed rate basis. In these swaps, the Corporation agrees to exchange, at specified intervals, the difference between fixed and floating-interest rates calculated on an agreed upon notional principal amount. Interest-rate swaps in which the Corporation pays a floating rate and receives a fixed rate are used to reduce the impact of changes in interest rates on the Corporation’s net interest income.
At December 31, 2003, the total notional amount of “Pay Floating, Receive Fixed” swaps outstanding was $10.0 million. At December 31, 2002, the total notional amount of “Pay Floating, Receive Fixed” swaps outstanding was $30.0 million. The net payable or receivable from interest-rate swap agreements is accrued as an adjustment to interest income. The $10.0 million in notional amount of interest-rate swaps outstanding at December 31, 2003 expired on January 7, 2004.
The impact of the interest-rate swaps on net interest income for the year ended December 31, 2003 was a positive $0.5 million and for the year ended December 31, 2002 was a positive $0.7 million.
The Corporation’s current credit exposure on swaps is limited to the value of interest-rate swaps that have become favorable to the Corporation. As of December 31, 2003, the market value of interest-rate swaps in a favorable position was $5 thousand and there were no interest-rate swaps with a market value in an unfavorable position. As of December 31, 2002, the market value of interest-rate swaps in a favorable position was $0.5 million and there were no interest-rate swaps with a market value in an unfavorable position. Credit risk exists because the counterparty to a derivative contract with an unrealized gain might fail to perform according to the terms of the agreement.
Extending credit exposes Univest to credit risk, which is the risk that the principal balance of a loan and any related interest will not be collected due to the inability of the borrower to repay the loan. Univest manages credit risk in the loan portfolio through adherence to consistent standards, guidelines and limitations established by the Board of Directors. Written loan policies establish underwriting standards, lending limits and other standards or limits as deemed necessary and prudent.
The loan review department conducts ongoing, independent reviews of the lending process to ensure adherence to established policies and procedures, monitors compliance with applicable laws and regulations, provides objective measurement of the risk inherent in the loan portfolio, and ensures that proper documentation exists.
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Univest focuses on both assessing the borrower’s capacity and willingness to repay and on obtaining sufficient collateral. Commercial and industrial loans are generally secured by the borrower’s assets and by personal guarantees. Commercial real estate loans are originated primarily within the Eastern Pennsylvania market area and are secured by developed real estate at conservative loan-to-value ratios and often by a guarantee of the borrowers. Management closely monitors the composition and quality of the total commercial loan portfolio to ensure that significant credit concentrations by borrower or industry do not exist.
Credit risk in the direct consumer loan portfolio is controlled by strict adherence to conservative underwriting standards that consider debt-to-income levels and the creditworthiness of the borrower and, if secured, collateral values. In the home equity loan portfolio, combined loan-to-value ratios are generally limited to 80%. Other credit considerations may warrant higher combined loan-to-value ratios for approved loans.
Univest originates fixed-rate and adjustable-rate residential mortgage loans that are secured by the underlying 1- to 4-family residential properties. Credit risk exposure in this area of lending is minimized by the evaluation of the credit worthiness of the borrower, including debt-to-equity ratios, credit scores and adherence to underwriting policies that emphasize conservative loan-to-value ratios of generally no more than 80%. Residential mortgage loans granted in excess of the 80% loan-to-value ratio criterion are generally insured by private mortgage insurance.
Univest closely monitors delinquencies as another means of maintaining high asset quality. Collection efforts begin after a loan payment is missed, by attempting to contact all borrowers. If collection attempts fail, Univest will proceed to gain control of any and all collateral in a timely manner in order to minimize losses. While liquidation and recovery efforts continue, officers continue to work with the borrowers, if appropriate, to recover all monies owed to Univest. Univest monitors delinquency trends and past due reports are submitted to the Board of Directors.
Univest, in its role as a financial intermediary, is exposed to certain liquidity risks. Liquidity refers to the Corporation’s ability to ensure that sufficient cash flow and liquid assets are available to satisfy demand for loans and deposit withdrawals. Univest manages its liquidity risk by measuring and monitoring its liquidity sources and estimated funding needs. Univest has a contingency funding plan in place to address liquidity needs in the event of an institution-specific or a systemic financial crisis.
Core deposits and cash management repurchase agreements (Repos) have historically been the most significant funding sources for the Corporation. These deposits and Repos are generated from a base of consumer, business and public customers primarily located in Bucks and Montgomery counties, Pennsylvania. The Corporation faces increased competition for these deposits from a large array of financial market participants, including banks, thrifts, mutual funds, security dealers and others.
Univest supplements its core funding with money market funds it holds for the benefit of various trust accounts. These funds are fully collateralized by the Bank’s investment portfolio and are at current money market mutual fund rates. This funding source is subject to changes in the asset allocations of the trust accounts.
Univest, through its Bank, has short-term and long-term credit facilities with the Federal Home Loan Bank of Pittsburgh with a maximum borrowing capacity of approximately $430.8 million. At December 31, 2003, Univest’s outstanding borrowings under the FHLB credit facilities totaled $50.1 million. The maximum borrowing capacity changes as a function of the Bank’s qualifying
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The Corporation maintains federal fund lines with several correspondent banks totaling $70 million. At December 31, 2003, there was $29 million in outstanding borrowings under these lines. Future availability under these lines is subject to the policies of the granting banks and may be withdrawn.
Univest, through Univest National Bank, has an available line of credit at the Federal Reserve Bank of Philadelphia, the amount of which is dependent upon the balance of loans and securities pledged as collateral. At December 31, 2003, the Corporation had no outstanding borrowings under this line.
In 2003, Univest raised $35.0 million of funds through the issue of subordinate debt and trust preferred securities. These financings were undertaken to support the Corporation’s capitalization as it acquired banking businesses and may not be typical of the Corporation’s future financing plans.
The Corporation has cash requirements including various financial obligations, including contractual obligations and commitments, that require cash payments. The contractual obligations table that follows presents, as of December 31, 2003, significant fixed and determinable contractual obligations to third parties. The most significant obligation, in both the under and over one year time period, is for the Bank to repay its certificates of deposit. Securities sold under agreement to repurchase constitute the next largest payment obligation and it is short term in nature. The Bank anticipates meeting these obligations by continuing to provide convenient depository and cash management services through its branch network, thereby replacing these contractual obligations with similar fund sources at rates that are competitive in our market.
The Commitments table that follows shows the amounts and expected maturities of significant commitments as of December 31, 2003. These commitments do not necessarily represent future cash requirements in that these commitments often expire without being drawn upon. Commitments to extend credit are the Banks most significant commitment in both the under and over one year time periods.
In 2003, the Corporation made investments in bank acquisitions requiring cash outlays of $51.6 million. These cash outlays to invest in income producing businesses are discretionary and may not be typical of the Corporation’s regular cash requirements.
Univest enters into contractual obligations in the normal course of business as a source of funds for its asset growth and its asset/liability management, to fund acquisitions and to meet required capital needs. These obligations require Univest to make cash payments over time as detailed in the table below. For further information regarding Univest’s contractual obligations, refer to Footnote 14 of the Consolidated Financial Statements, herein.
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Table 12 — Contractual Obligations
Univest is a party to financial instruments with off-balance sheet risk in the normal course of business to manage the Corporation’s exposure to fluctuation in interest rates. These financial instruments include commitments to extend credit, standby and commercial letters of credit. These financial instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. The contract or notional amounts of these financial instruments reflect the extent of involvement the Corporation has in particular classes of financial instruments.
The Corporation’s exposure to credit loss in the event of non-performance by the other party to the financial instrument for commitments to extend credit and standby and commercial letters of credit is represented by the contractual amount of those instruments. The Corporation uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. Unless noted otherwise, Univest does not require and is not required to pledge
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Table 13 — Other Commercial Commitments
In December 2003, the Financial Accounting Standards Board revised Interpretation No. 46, Consolidation of Variable Interest Entities, an interpretation of Accounting Research Bulletin No. 51 (the Interpretation). The Interpretation requires the consolidation of entities in which an enterprise absorbs a majority of the entity’s expected losses, receives a majority of the entity’s expected residual returns, or both, as a result of ownership, contractual or other financial interests in the entity. Currently, entities are generally consolidated by an enterprise when it has a controlling financial interest through ownership of a majority voting interest in the entity. Application of this Interpretation is required in financial statements of public entities that have interests in variable interest entities or potential variable interest entities commonly referred to as special purpose entities which were created prior to February 1, 2003, for periods ending after December 15, 2003. Application by public entities for all other types of entities and special purpose entities created after February 1, 2003, is required in financial statements for periods ending after March 15, 2004. As a result of the adoption of FIN 46, the Corporation will deconsolidate its Capital Trust, formed in August 2003, in the first quarter of 2004.
In April 2003, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 149 (SFAS 149), “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS 149 is effective for contracts entered into or modified after June 30, 2003, except as stated below and for hedging relationships designated after June 30, 2003. In addition, except as stated below, all provisions of this Statement should be applied prospectively. The provisions of this Statement that relate to Statement 133 Implementation Issues that have been effective for fiscal quarters that began prior to June 15, 2003, should continue to be applied in accordance with their respective effective dates. This statement clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative, clarifies when a derivative contains a financing component, amends the definition of an underlying to conform it to language used in FASB Interpretation No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, and amends certain other existing pronouncements. The adoption of SFAS No. 149 did not have any impact on the Corporation’s financial position and results of operations.
In May 2003, the FASB issued SFAS 150 — “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after September 15, 2003. This Statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a freestanding financial instrument that is within its scope as a liability or an asset in some circumstances. Many of those instruments were previously classified as equity. Some of the provisions of this Statement are consistent with the current
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In December 2003, the Medicare Prescription Drug Improvement and Modernization Act of 2003 was enacted. The Corporation has chosen the one-time election to defer recognizing the effects of the prescription-drug provisions of the Act. Specific authoritative guidance on the accounting for the federal subsidy provision is expected to be released in 2004. Univest Corporation’s postretirement benefit obligation and net periodic postretirement benefit cost as disclosed in Note 9 of this report does not reflect the effects of this Act. Upon recognition, the Corporation may be required to change previously reported postretirement benefit information.
Market risk is the risk of loss from adverse changes in market prices and rates. In the course of its lending and deposit taking activities, Univest is subject to changes in the economic value and/or earnings potential of these assets and liabilities due to changes in interest rates. Univest’s Asset/Liability Management Committee (ALMC) manages interest rate risk in a manner so as to provide adequate and reliable earnings. This is accomplished through the establishment of policy limits on maximum risk exposures, as well as the regular and timely monitoring of reports designed to quantify risk and return levels.
Univest uses both GAP and simulation techniques to quantify its exposure to interest rate risk. The Corporation uses GAP techniques to identify and monitor long-term rate exposure and uses a simulation model to measure the short-term rate exposures. The Corporation runs various earnings simulation scenarios to quantify the effect of declining or rising interest rates on the net interest margin over a 1-year horizon. The simulation uses existing portfolio rate and repricing information, combined with assumptions regarding future loan and deposit growth, future spreads, prepayments on residential mortgages, and the discretionary pricing of non-maturity assets and liabilities. The Corporation is permitted to use interest-rate swaps and interest-rate caps/floors with indices that correlate to on-balance sheet instruments, to modify its indicated net interest sensitivity to levels deemed to be appropriate based on the Corporation’s current economic outlook. The effect of the interest-rate swaps that the Bank uses to reduce its earnings volatility due to rate risk is also included in the results of the simulation.
At December 31, 2003, the simulation, based upon forward-looking assumptions, projects that Univest’s greatest interest margin exposure to interest-rate risk would occur if interest rates decline from present levels. Given the assumptions, a 200 basis point parallel shift in the yield curve applied on a ramp-down basis would cause Univest’s net interest margin, over a 1-year horizon, to be approximately 2.1% less than it would be if market rates would remain unchanged. At December 31, 2002, the simulation projected that Univest’s greatest interest margin exposure to interest-rate risk would occur if interest rates had declined. A 200 basis point parallel shift in the yield curve applied on a ramp-down basis would cause Univest’s interest margin, over a 1-year horizon, to be approximately 2.0% less than it would be if market rates would remain unchanged. Policy limits have been established which allow a tolerance for no more than approximately a 2.8% negative impact to the interest margin resulting from a 200 basis point parallel yield curve shift over a forward looking 12-month period. See Management’s Discussion and Analysis of Financial Condition and Results of
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Table 14 — Interest Sensitivity Analysis
Interest Sensitivity Analysis at December 31, 2003 (Dollars in thousands)
Notes to interest sensitivity analysis:
The following audited consolidated financial statements and related documents are set forth in this Annual Report on Form 10-K on the following pages:
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Report of Independent Auditors
Board of Directors and Shareholders
We have audited the accompanying consolidated balance sheets of Univest Corporation of Pennsylvania as of December 31, 2003 and 2002, and the related consolidated statements of income, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Univest Corporation of Pennsylvania at December 31, 2003 and 2002, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2003 in conformity with accounting principles generally accepted in the United States.
As discussed in Note 1 to the Consolidated Financial Statements, in 2002, Univest Corporation of Pennsylvania changed its method of accounting for its goodwill.
/s/ Ernst & Young LLP
Philadelphia, Pennsylvania
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CONSOLIDATED BALANCE SHEETS
See accompanying notes to consolidated financial statements.
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CONSOLIDATED STATEMENTS OF INCOME
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CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
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CONSOLIDATED STATEMENTS OF CASH FLOWS
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Notes to Consolidated Financial Statements
Note 1. Summary of Significant Accounting Policies
Univest Corporation of Pennsylvania (the Corporation) through its wholly owned subsidiary, Univest National Bank and Trust Co. (Univest National Bank), is engaged in domestic commercial and retail banking services and provides a full range of banking and trust services to its customers. Delview, through its subsidiaries, provides financial planning, investment management, insurance products and brokerage services. Univest National Bank serves the Montgomery and Bucks counties of Pennsylvania through 35 banking offices and provides banking and trust services to the residents and employees of 12 retirement communities, a work site office at Moyer Packing Company, which performs a payroll check cashing service and an express banking center located in the Montgomery Mall.
The consolidated financial statements include the accounts of Univest Corporation of Pennsylvania and its wholly owned subsidiary, Univest National Bank, referred to herein as the “Bank.” All significant intercompany balances and transactions have been eliminated in consolidation.
Retained earnings at December 31, 2000 has been adjusted to reflect the impact of not properly recording the deferred taxes (benefits) on certain items in periods prior to 1999 relating primarily to the Corporation’s Supplemental Retirement Plan. The effect of this change is to increase the Corporation’s retained earnings and other assets by $766 thousand.
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
Interest-bearing deposits with other banks consist of deposit accounts with other financial institutions generally having maturities of three months or less.
Securities are classified as investment securities held-to-maturity and carried at amortized cost if management has the positive intent and ability to hold the securities to maturity. Securities purchased with the intention of recognizing short-term profits are placed in the trading account and are carried at market value. Securities not classified as held-to-maturity or trading are designated securities available-for-sale and carried at fair value with unrealized gains and losses reflected in accumulated other comprehensive income, net of estimated income taxes. The net unrealized gain on available-for-sale securities included in accumulated other comprehensive income was $3,494 and $6,915 at December 31, 2003 and December 31, 2002, respectively.
Gains and losses on sales of securities are computed on a specific security basis.
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Notes to Consolidated Financial Statements — (Continued)
Loans are stated at the principal amount less net deferred loan fees and unearned discount. Interest income on commercial, consumer, and mortgage loans is recorded on the outstanding balance method, using actual interest rates applied to daily principal balances. Accrual of interest income on loans ceases when collectibility of interest and/or principal is questionable. If it is determined that the collection of interest previously accrued is uncertain, such accrual is reversed and charged to current earnings. Thereafter, income is only recognized as payments are received for loans on which there is no uncertainty as to the collectibility of principal. Loans are considered past due based upon failure to comply with contractual terms.
Fees collected upon loan origination and certain direct costs of originating loans are deferred and recognized over the contractual lives of the related loans as yield adjustments. Upon prepayment or other disposition of the underlying loans before their contractual maturities, any associated unamortized fees or costs are recognized.
The Corporation uses interest-rate swap agreements to manage the interest-rate risk of its floating-rate loan portfolio. Univest accounts for its interest-rate swap contracts in compliance with SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities,” by establishing and documenting the effectiveness of the instrument in offsetting the change in cash flows of certain prime-rate-based loans held by the Bank. When the effectiveness of the hedge can be established and adequately documented at the inception of the derivative contract, the change in market value of the swap is recorded on the balance sheet of the Corporation but only the accrued payments due under the contract for the current period are passed through the statement of operations. To ensure effectiveness, Univest performs an analysis to ensure that changes in fair value or cash flow of the derivative correlates to the equivalent changes in the loans being hedged. Related fees, if any, are deferred and amortized on a straight-line basis over the life of the swap, which corresponds to the estimated life of the asset being hedged. Interest-rate differentials to be paid or received as a result of interest-rate swap agreements are accrued and recognized as an adjustment of interest income related to the designated floating-rate loans. Recorded amounts related to interest-rate swaps are included in other assets or liabilities. Should the Corporation be unable to document the effectiveness of all or part of the cash flow hedge, the change in market value of the ineffective part of the instrument will need to be marked-to-market through the statement of operations, potentially
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causing material fluctuations in reported earnings in the period of the change relative to comparable periods.
The reserve for loan losses consists of an allocated reserve and an unallocated reserve. The allocated reserve is comprised of reserves established on specific loans, and class reserves based on historical loan loss experience, current trends, and management assessments. The unallocated reserve is based on both general economic conditions and other risk factors in the Corporation’s individual markets and portfolios, and is to account for a level of imprecision in management’s estimation process.
The specific reserve element is based on a regular analysis of impaired commercial and real estate loans. The specific reserve established for these loans is based on a careful analysis of related collateral value, cash flow considerations and, if applicable, guarantor capacity.
The Corporation maintains an unallocated reserve to recognize the existence of credit exposures that are within the loan portfolio although currently are undetected. There are many factors considered such as the inherent delay in obtaining information regarding a customer’s financial condition or changes in their business condition, the judgmental nature of loan evaluations, the delay in the interpretation of economic trends and the judgmental nature of collateral assessments.
Land is stated at cost, and bank premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed on the straight-line method and charged to operating expenses over the estimated useful lives of the assets (bank premises and improvements — average life 25 years; furniture and equipment — average life 10 years).
Other real estate owned represents properties acquired through customers’ loan defaults and is included in accrued interest and other assets. The real estate is stated at an amount equal to the
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loan balance prior to foreclosure, plus costs incurred for improvements to the property, but no more than the fair market value of the property, less estimated costs to sell.
The Corporation grants stock options to employees with an exercise price equal to the fair value of the shares at the date of grant. The Corporation has elected to follow the intrinsic value method of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25) and related Interpretations in accounting for its employee stock options. The Corporation has not determined whether or when it will adopt Financial Accounting Standard No. 123, “Accounting for Stock-Based-Compensation” (SFAS No. 123). The Corporation has adopted Financial Accounting Standard No. 148, “Accounting for Stock-Based-Compensation — Transition and Disclosure” (SFAS No. 148). Note 10 provides a pro forma presentation of the effects that such an election would have on income and earnings per share. Under APB 25, no compensation expense is recognized because the exercise price of the Corporation’s employee stock options equals the market price of the underlying stock on the date of grant.
The Univest Dividend Reinvestment Plan (the “Reinvestment Plan”) provided 1,250,000 shares of common stock and the 1996 Employee Stock Purchase Plan (the “Purchase Plan”) provided 625,000 shares of common stock available for issuance. Employees may elect to make contributions to the Purchase Plan in an aggregate amount not less than 2% nor more than 10% of such employee’s total compensation. These contributions are then used to purchase stock during an offering period determined by the Corporation’s Administrative Committee. The purchase price of the stock is established by the Administrative Committee provided, however, that the purchase price will not be less than 85% of the lesser of the market price on the first day or last day of the offering period.
During 2003 and 2002, 46,488 and 40,553 shares, respectively, were issued under the Reinvestment Plan, with 960,495 shares available for future purchase as of December 31, 2003. During 2003 and 2002, 5,051 and 5,249 shares, respectively, were issued under the Purchase Plan, with 604,919 shares available for future purchase as of December 31, 2003.
Deferred income taxes are provided on temporary differences between amounts reported for financial statement and tax purposes in accordance with SFAS No. 109, “Accounting for Income Taxes.”
The Corporation acquired intangible assets in connection with the acquisitions of Pennview Savings Bank, Univest Investments, Inc., Univest Insurance, Inc., First County Bank and Suburban Community Bank that include goodwill, a covenant not to compete and core deposit intangibles. In accordance with the adoption of SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill is no longer amortized. The net carrying amount of goodwill at December 31, 2003 and 2002 was $41,137 and $6,210 respectively. On July 20, 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards SFAS No. 141 and SFAS No. 142, which changed the initial measurement and subsequent recording of goodwill and intangible assets. The effect of adopting SFAS No. 142 is discussed in Note 7, Intangible Assets. Core deposit
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intangibles are being amortized over their average estimated useful lives of eight years. The covenant not to compete is being amortized over the five year contractual life.
Mortgage servicing rights are recognized as separate assets when mortgage loans are sold and the rights are retained. Capitalized servicing rights are reported in other assets and are amortized into noninterest income in proportion to, and over the period of, the estimated future net servicing period of the underlying mortgage loans. Servicing assets are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. Fair value is based upon discounted cash flows using market-based assumptions. Impairment is recognized through a valuation allowance, to the extent that fair value is less than the capitalized amount. The balance of capitalized servicing rights, net of valuation allowances, included in other assets at December 31, 2003 was $569 and at December 31, 2002 was $353. The aggregate fair value of these rights was $644 and $409, respectively. The fair value of servicing rights was determined using discount rates ranging from 5.1% to 7.5%. Amortization of mortgage servicing rights of approximately $19 was recorded during 2003, $15 was recorded in 2002 and $19 was recorded in 2001. The valuation allowance was $632 at December 31, 2003 and $439 at December 31, 2002.
Substantially all employees are covered by a noncontributory retirement plan. The plan provides benefits based on a formula of each participant’s final average pay.
The Corporation also provides supplemental executive retirement benefits, a portion of which is in excess of limits imposed on qualified plans by federal tax law. These plans are nonqualified benefit plans.
Univest sponsors a 401(k) deferred salary savings plan, which is a qualified defined contribution plan, and which covers all employees of Univest and its subsidiaries, and provides that the Corporation make matching contributions as defined by the plan.
The Corporation provides certain postretirement healthcare and life insurance benefits for retired employees. The Corporation accrues the costs associated with providing these benefits during the active service periods of employees in accordance with Statement of Financial Accounting Standard No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions” (SFAS No. 106).
Univest has defined those items included in the caption “Cash and due from banks” as cash and cash equivalents.
Assets held by the Corporation in a fiduciary or agency capacity for its customers are not included in the consolidated financial statements since such items are not assets of the Corporation.
On January 22, 2003, the Corporation’s board of directors declared a five for four stock split in the form of a dividend paid on February 28, 2003 to all shareholders of record as of February 7, 2003. All share and per share amounts have been retroactively adjusted to give effect to the stock split.
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Basic earnings per share represents income available to common stockholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflects additional common shares that would have been outstanding if option common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Corporation relate solely to outstanding stock options, and are determined using the treasury stock method.
Unrealized gains or losses on the Corporation’s available-for-sale securities and cash flow hedges are included in comprehensive income.
The following shows the accumulated comprehensive income, net of income taxes, for the periods presented:
In April 2003, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 149 (SFAS 149), “Amendment of Statement 133 on Derivative Instruments and Hedging Activities”. SFAS 149 is effective for contracts entered into or modified after June 30, 2003, except as stated below and for hedging relationships designated after June 30, 2003. In addition, except as stated below, all provisions of this Statement should be applied prospectively. The provisions of this Statement that relate to Statement 133 Implementation Issues that have been effective for fiscal quarters that began prior to June 15, 2003, should continue to be applied in
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accordance with their respective effective dates. This statement clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative, clarifies when a derivative contains a financing component, amends the definition of an underlying to conform it to language used in FASB Interpretation No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, and amends certain other existing pronouncements. The adoption of SFAS No. 149 did not have any impact on the Corporation’s financial position and results of operations.
In May 2003, the FASB issued SFAS 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. This Statement establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a freestanding financial instrument that is within its scope as a liability or an asset in some circumstances. Many of those instruments were previously classified as equity. Some of the provisions of this Statement are consistent with the current definition of liabilities in FASB Concepts Statement No. 6, Elements of Financial Statements. The adoption of SFAS No. 150 did not have any impact on the Corporation’s financial position and results of operations.
Note 2. Restrictions on Cash and Due from Bank Accounts
Univest National Bank is required to maintain reserve balances with the Federal Reserve Bank. The average amount of those reserve balances was $1,028 at December 31, 2003 and $849 at December 31, 2002.
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Note 3. Investment Securities
The following table shows the amortized cost and the approximate market value of the held-to-maturity securities and available-for-sale securities at December 31, 2003 and 2002, by maturity within each type:
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Expected maturities will differ from contractual maturities because debt issuers may have the right to call or prepay obligations without call or prepayment penalties.
Securities with a market value of $255,600 and $221,962 at December 31, 2003 and 2002, respectively, were pledged to secure public deposits and for other purposes as required by law.
During the year ended December 31, 2003, available-for-sale securities with a fair value at the date of sale of $105,065 were sold, $27,890 in 2002. Gross realized gains on such sales totaled $2,580 during 2003, $885 in 2002 and $151 in 2001, and the gross realized losses totaled $504 during 2003, $0 in 2002 and $1 in 2001. Tax expense related to net realized gains from the sales of investments securities for the years ended December 31, 2003, 2002 and 2001 were $727, $310, $53, respectively. Net unrealized gains on available-for-sale securities included in accumulated other comprehensive income as a separate component of shareholders’ equity totaled $3,494 in 2003 and $6,915 in 2002. Unrealized losses in investment securities at December 31, 2003 and 2002 do not represent permanent impairments.
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At December 31, 2003 and 2002, there were no investments in any single non-federal issuer representing more than 10% of shareholders’ equity.
The following table shows the amount of securities that were in an unrealized loss position at December 31, 2003:
As of December 31, 2003, the amount of unrealized losses, for less than twelve months, in debt and equity securities classified as either available-for-sale or held-to-maturity was $1,793 and had a fair value of $107,726. The amount of unrealized losses, for twelve months or longer, in debt and equity securities classified as either available-for-sale or held-to-maturity was $5 and had a fair value of $14. The Corporation believes that the unrealized loss listed in the twelve months or longer category is not other-than temporary because the security has, subsequent to December 31, 2003, traded at its book cost. As of December 31, 2003, the Corporation has concluded that the unrealized losses are temporary in nature since they are primarily related to market interest rates and are not related to the underlying credit quality of the issuers of our investment portfolio. None of the investments are believed to be other-than-temporarily impaired. The Corporation has the ability and intent to hold the securities until maturity to recover the entire value.
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Note 4. Loans
The following is a summary of the major loan categories:
Net unamortized deferred loan origination fees for the years ended December 31, 2003 and 2002 were $2,332 and $1,747 respectively.
At December 31, 2003, loans to directors and executive officers of Univest and companies in which directors have an interest aggregated $13,622. These loans have been made in the ordinary course of business on substantially the same terms, including interest rates and collateral, as those prevailing at the same time for comparable transactions with customers and did not involve more than the normal risk of collectibility or present other unfavorable terms. The summary of activity for the past year is as follows:
Note 5. Reserve for Loan Losses
A summary of the activity in the reserve for loan losses is as follows:
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Information with respect to loans that are considered to be impaired under SFAS No. 114 for the year ended December 31 is as follows:
Loans greater than 90 days past due and still accruing interest were $940 and $880 at December 31, 2003 and 2002 respectively.
The following is an analysis of interest on nonaccrual and restructured loans at December 31 as follows:
No interest income was recognized on these loans for the years ended December 31, 2003, 2002 and 2001.
There was no other real estate owned at December 31, 2003 and December 31, 2002.
Note 6. Premises and Equipment
Note 7. Intangible Assets
On January 1, 2002, the Corporation adopted Statement No. 142, “Goodwill and Other Intangible Assets” (SFAS No. 142) and ceased amortization of its goodwill. In accordance with the provisions of SFAS No. 142, the Corporation has completed the annual impairment tests and no impairment was noted. There can be no assurance that future goodwill impairment tests will not result in a charge to earnings.
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The Corporation has a covenant not to compete, intangible assets due to branch acquisitions, core deposit intangibles and mortgage servicing rights, which are not deemed to have an indefinite life and therefore will continue to be amortized over their useful life. The amortization for these intangible assets was $414 for the year ended December 31, 2003, $297 for the year ended December 31, 2002 and $309 for the year ended December 31, 2001. The Corporation also has goodwill of $41,137, which is deemed to be an indefinite intangible asset and will not be amortized. In connection with the acquisitions of First County Bank and Suburban Community Bank, the Corporation recorded $34,927 of goodwill.
The following table reflects the components of intangible assets as of the date indicated:
The estimated aggregate amortization expense for each of the five succeeding fiscal years ending December 31, is:
The following table reflects the components of mortgage servicing rights as of the periods indicated:
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Note 8. Income Taxes
The provision for federal and state income taxes included in the accompanying consolidated statements of income consists of the following:
The provision for income taxes differs from the expected statutory provision as follows:
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Deferred income taxes reflect the tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amount used for income tax purposes. The assets and liabilities giving rise to the Corporation’s deferred tax assets and liabilities as of December 31, 2003 and 2002 are as follows:
No valuation allowance was recognized for the deferred tax assets at December 31, 2003 and 2002.
Note 9. Retirement Plan and Supplemental Retirement Plans
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Information with respect to the Retirement and Supplemental Retirement Plans and Other Postretirement Benefits follows:
The accumulated benefit obligation for all defined benefit pension plans was $16,170 and $14,883 at December 31, 2003 and 2002, respectively.
Information for the pension plans with an accumulated benefit obligation in excess of plan assets:
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The retirement benefit cost includes the following components:
There was no minimum liability included in other comprehensive income at December 31, 2003 and 2002.
Weighted-average assumptions used to determine benefit obligations at December 31,
Weighted-average assumptions used to determine net periodic cost at December 31,
Historical investment returns is the basis used to determine the overall expected long-term rate of return on assets.
Assumed health care cost trend rates have a significant effect on the amounts reported for health care plans. A one-percentage-point change in the assumed health care cost trend rates would have the following effects:
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The Corporation’s pension plan asset allocation at December 31, 2003 and 2002, by asset category are as follows:
Plan assets include marketable equity securities, corporate and government debt securities, and certificates of deposit. The investment strategy is to keep a 50% equity to 50% fixed income mix to achieve the overall expected long-term rate of return of 8.5%. Equity securities do not include any common stock of the Corporation.
The Corporation expects to contribute or make non-qualified benefit payments of $406 to its pension plan and $80 to its other postretirement benefit plan in 2004.
Expense recorded by the Corporation for the 401(k) deferred salary savings plan for the years ended December 31, 2003, 2002 and 2001 was $371, $359 and $298, respectively.
The Corporation adopted the shareholders’ approved 2003 Long-Term Incentive Plan to replace the 1993 Long-Term Incentive Plan at its expiration. The 234,913 unissued common shares remaining expired and are no longer available for future options. The Corporation may grant options to employees to purchase up to 1,000,000 shares of common stock. The plan provides for the issuance of options to purchase common shares at prices not less than 100 percent of the fair market value at the date of option grant. After two years, 33 percent of the optioned shares are exercisable each year for a period not exceeding ten years. There were 910,900 common shares available for future options and 497,975 options to purchase common shares were outstanding at December 31, 2003. Transactions involving the plan are summarized as follows:
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The following table summarizes Univest’s stock options outstanding at December 31, 2003:
Had compensation expense for stock option awards been determined consistent with SFAS No. 123, net income and earnings per share would be reduced to the pro forma amounts indicated as follows:
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Significant assumptions used to calculate the above are as follows:
The pro forma effects are presented in accordance with the requirements of SFAS No. 123; however, such effects are not representative of the effects to be reported in future years due to the fact that options vest over several years and additional awards generally are made each year. For purposes of providing the pro forma disclosures required under SFAS 123 and SFAS 148, the fair value of stock options granted were estimated at the date of grant using a Black-Sholes option pricing model. The model is sensitive to changes in subjective assumptions, which can affect the resulting fair value estimates. The Corporation used assumptions for volatility, expected life of the options, assumed risk-free rates, and expected dividend rates. The model applies these assumptions along with the known characteristics of the options such as vesting period and exercise price to establish a fair value estimate. The estimated pro forma presentation of compensation expense and resulting pro forma net income and earnings per share is sensitive to the subjective assumptions mentioned which affect the fair value estimates of the options at the date of grant. Management cautions the reader that the Black-Sholes option pricing model does not necessarily provide an accurate estimate of the fair value of the stock options that the Corporation has granted. The options in question have vesting restrictions and are limited in their transferability, characteristics that are not factored into the Black-Sholes option pricing model methodology for establishing fair value estimates of options.
The aggregate amount of certificates of deposit in denominations of $100 or more was $59,363 at December 31, 2003 and $39,518 at December 31, 2002, with interest expense of $1,958 for 2003 and $1,791 for 2002. Other time deposits in denominations of $100 or more were $9,986 at December 31, 2003, and $15,147 at December 31, 2002, with interest expense of $217 for 2003 and $344 for 2002.
At December 31, 2003, the scheduled maturities of time deposits in denominations of $100 or more are as follows:
Deposits received from related parties as of December 31, 2003 was $5,293.
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Note 12. Borrowings
At December 31, 2003 and 2002, long-term debt consisted of the following:
The contractual maturities of long-term debt as of December 31, 2003 are as follows:
Advances from the Federal Home Loan Bank are collateralized by Federal Home Loan Bank stock and substantially all first mortgage loans of the Bank. As a result of the acquisitions of First County Bank and Suburban Community Bank, $18.0 million in FHLB advances were assumed. The net carrying value of the fair market value adjustment of the assumed advances was $3.0 million at December 31, 2003.
Univest, through Univest National Bank, has short-term and long-term credit facilities with the Federal Home Loan Bank of Pittsburgh with a maximum borrowing capacity of approximately $430.8 million. At December 31, 2003, the Bank’s outstanding borrowings under the FHLB credit facilities totaled $50.1 million. The maximum borrowing capacity changes as a function of the Bank’s qualifying collateral assets and the amount of funds received may be reduced by additional required purchases of FHLB stock. Included in the $50.1 million of outstanding, FHLB borrowings are $47.0 million of convertible advances whereby the Federal Home Loan Bank of Pittsburgh has the option at a pre-determined time to convert the fixed interest rate to an adjustable rate tied to three-month LIBOR. The Bank has the option to prepay these advances without penalty if the rate on these borrowings is converted and on each quarterly reset date thereafter. Management does not believe that conversion is likely unless short-term interest rates increase several hundred basis points.
Univest Corporation secured two subordinated term loan notes during the second quarter of 2003. The first note was issued for $5.0 million at the fixed rate of 5.5% per annum. This note converts to a floating rate in second quarter 2008 based upon the one-month LIBOR plus 1.40% per annum. Quarterly principal and interest payments are made on this note. The second note was issued for $10.0 million at a floating rate based upon the one-month LIBOR plus 1.40% per annum.
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Quarterly principal and interest payments are made on this note. Both of these notes mature in second quarter 2013.
On August 27, 2003, the Corporation issued $20.0 million of Capital Securities of Univest Capital Trust I, a Delaware statutory trust formed by Univest Corporation. This issuance constitutes Trust Preferred Securities, which were completed through a placement in Junior Subordinated Debentures of the Corporation. The 30-year term securities were issued on a variable rate based upon the published Libor rate plus 3.05% per annum. The initial interest rate of the securities is 4.19% and is callable by Univest at par in whole or in part after five years. Quarterly interest payments are made on this note. At December 31, 2003, the $20.0 million in capital securities qualified as Tier 1 capital under capital guidelines of the Federal Reserve. The proceeds are being used to support the future growth of Univest Corporation and its banking subsidiary, Univest National Bank.
Univest National Bank maintains federal fund credit lines with several correspondent banks totaling $70.0 million. At December 31, 2003, there was $29.0 million in outstanding borrowings under these lines. Future availability under these lines is subject to the prerogatives of the granting banks and may be withdrawn at will.
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Note 13. Earnings per Share
The following table sets forth the computation of basic and diluted earnings per share:
For additional disclosures regarding the employee stock options, see Note 10.
Note 14. Commitments and Contingencies
Loan commitments are made to accommodate the financial needs of the Bank’s customers. Standby letters of credit commit the Bank to make payments on behalf of customers when certain specified future events occur. They primarily are issued to support commercial paper, medium and long-term notes and debentures, including industrial revenue obligations. Historically, substantially all standby letters of credit expire unfunded. Both arrangements have credit risk essentially the same as that involved in extending loans to customers and are subject to the Bank’s normal credit policies. Collateral is obtained based on management’s credit assessment of the customer.
The Bank offers commercial, mortgage, and consumer credit products to their customers in the normal course of business, which are detailed in Note 4. These products represent a diversified credit portfolio and are generally issued to borrowers within the Bank’s branch office systems in eastern Pennsylvania. The ability of the customers to repay their credit is, to some extent, dependent upon the economy in the Bank’s market areas.
Standby letters of credit commit the Bank to make payments on behalf of customers when certain specified future events occur. They primarily are issued to support commercial paper, medium and long-term notes and debentures, including industrial revenue obligations. The approximate term is usually one year but some can be up to five years. Historically, substantially all standby letters of credit expire unfunded.
The maximum potential amount of future payments under the guarantee is $38,913.
The current carrying amount of the contingent obligation is $84.
This arrangement has credit risk essentially the same as that involved in extending loans to customers and is subject to the Bank’s normal credit policies. Collateral is obtained based on management’s credit assessment of the customer.
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The Bank also controls their credit risk by limiting the amount of credit to any business, institution, or individual. As of December 31, 2003, the Bank has identified the due from banks’ balance of $27,474 as a significant concentration of credit risk because it contains a balance due from a single depository institution that is unsecured. Management evaluates the creditworthiness of the institution on at least a quarterly basis in an effort to monitor its credit risk associated with this concentration.
The following schedule summarizes the Corporation’s off-balance sheet financial instruments:
As of December 31, 2003, Univest and its subsidiaries were obligated under noncancelable leases for various premises and equipment. A summary of the future minimum rental commitments under noncancelable operating leases net of related sublease revenue is as follows:
Rental expense charged to operations was $1,122, $926, and $707 for 2003, 2002, and 2001, respectively.
Note 15. Derivative Instruments and Hedging Activities
The Corporation may enter into interest-rate swaps in managing its interest-rate risk. In these swaps, the Corporation agrees to exchange, at specified intervals, the difference between fixed and floating interest amounts calculated on an agreed-upon notional principal amount. Interest-rate swaps in which the Corporation pays a floating rate and receives a fixed rate are used to reduce the impact of changes in interest rates on the Corporation’s net interest income.
At December 31, 2003 a $10 million in notional interest-rate swap was outstanding. This Swap will expire in the first quarter 2004. The impact of the interest-rate swaps on net interest income for the year ended December 31, 2003 was a positive $524 and for the year ended December 31, 2002, a positive $746. The ineffective portion of the swaps’ change in fair value is to be immediately recognized in earnings.
The Corporation’s current credit exposure on swaps is limited to the value of interest-rate swaps that have become favorable to the Corporation. As of December 31, 2003, the market value of interest-rate swaps in a favorable position was $5. There were no interest-rate swaps in an unfavorable position. At December 31, 2002, the market value of interest-rate swaps in a favorable position was $500 and there were no interest-rate swaps in an unfavorable position. Credit risk also
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exists when the counterparty to a derivative contract with an unrealized gain fails to perform according to the terms of the agreement.
Note 16. Fair Values of Financial Instruments
Statement of Financial Accounting Standard No. 107, “Disclosures about Fair Value of Financial Instruments” (SFAS No. 107), requires all entities to disclose the estimated fair value of its financial instruments whether or not recognized in the balance sheet. For Univest, as for most financial institutions, substantially all of its assets and liabilities are considered financial instruments as defined in SFAS No. 107. Many of the Corporation’s financial instruments, however, lack an available trading market as characterized by a willing buyer and willing seller engaging in an exchange transaction. It is also the Corporation’s general practice and intent to hold its financial instruments to maturity and not to engage in trading or sales activities other than residential mortgage loans held-for-sale and those investment securities classified as available-for-sale. Significant estimations and present value calculations, which are affected by the assumptions used, including the discount rate and estimate of future cash flows, were used by the Corporation for the purposes of this disclosure.
The Corporation, using the best available data and an estimation methodology suitable for each category of financial instruments, has determined estimated fair values. For certain loans and deposits with floating interest rates, it is presumed that estimated fair values generally approximate the recorded book balances. Various methodologies are described in the accompanying notes.
SFAS No. 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Corporation.
Management is concerned that reasonable comparability between financial institutions may not be likely due to the wide range of permitted valuation techniques and numerous estimates which must be made given the absence of readily available active secondary market valuations for many of the financial instruments. This lack of uniform valuation methodologies also introduces a greater degree of subjectivity to these estimated fair values. Certain estimated fair values cannot be substantiated by comparison to independent valuation sources and, in many cases, might not be realized in immediate settlement of the instrument.
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The following table represents the estimates of fair value of financial instruments:
The following methods and assumptions were used by the Corporation in estimating its fair value disclosures for financial instruments:
Cash and due from banks and short-term investments: The carrying amounts reported in the balance sheets for cash and due from banks, time deposits with other banks, and federal funds sold and other short-term investments approximates those assets’ fair values.
Investment securities (including mortgage-backed securities): Fair values for investment securities are based on quoted market prices.
Loans: The fair values for loans are estimated using discounted cash flow analyses, using a discount rate consisting of an appropriate risk free rate, as well as components for credit risk, operating expense, and imbedded prepayment options.
Deposit liabilities:The fair values for deposits with fixed maturities are estimated by discounting the final maturity, and the fair values for non-maturity deposits are established using a decay factor estimate of cash flows based upon industry-accepted assumptions. The discount rate applied to deposits consists of an appropriate risk free rate and included components for credit risk, operating expense, and imbedded prepayment options.
Short-term borrowings:The carrying amounts of securities sold under repurchase agreements, and other short-term borrowings approximate their fair values.
Long-term debt: The fair values of the Corporation’s long-term borrowings (other than deposits) are estimated using a discounted cash flow analysis using a discount rate consisting of an appropriate risk free rate, as well as components for credit risk, operating expense, and imbedded prepayment options.
Off-balance-sheet instruments:Fair values for the Corporation’s off-balance-sheet instruments are based on the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing.
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Note 17. Regulatory Matters
The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classifications 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 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), and of Tier I capital (as defined) to average assets (as defined). Management believes, as of December 31, 2003, that the Bank met all capital adequacy requirements to which it is subject.
As of December 31, 2003, the most recent notification from the Office of Comptroller of the Currency and Federal Deposit Insurance Corporation (FDIC) categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Bank’s category.
The Bank’s actual capital amounts and ratios are also presented in the table.
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The approval of the Office of Comptroller of the Currency is required for a national bank to pay dividends if the total of all dividends declared in any calendar year exceeds the Bank’s net profits (as defined) for that year combined with its retained net profits for the preceding two calendar years. Under this formula, the Bank can declare dividends in 2004 without approval of the Office of Comptroller of the Currency of approximately $19,337 plus an additional amount equal to the Bank’s net profits for 2004 up to the date of any such dividend declaration.
The Federal Reserve Act requires that extension of credit by the Bank to certain affiliates, including Univest Corporation (parent), be secured by readily marketable securities, that extension of credit to any one affiliate be limited to 10% of the Bank’s capital and surplus (as defined), and that extensions of credit to all such affiliates be limited to 20% of the Bank’s capital and surplus.
Note 18. Parent Company Financial Information
Condensed financial statements of Univest, parent company only, follow:
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Note 19. Quarterly Data (Unaudited)
The unaudited results of operations for the quarters for the years ended December 31, 2003 and 2002 were as follows:
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Note 20. Acquisitions
On May 17, 2003, Univest Corporation of Pennsylvania, parent company of Univest National Bank, completed the acquisition of First County Bank. Subsequent to this acquisition, First County merged with and into Univest National Bank. Univest acquired First County Bank to further expand into the Bucks County market. In this transaction, Univest acquired all the outstanding shares of First County Bank common stock for a total consideration of $29,475.
The following table summarizes the fair values of the assets acquired and liabilities assumed at the date of acquisition:
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In accordance with FAS 141, Univest used the purchase method of accounting to record this transaction. The $20,850 of goodwill recorded in connection with the acquisition of First County Bank is calculated below. The goodwill recorded was allocated to the Univest National Bank reporting unit in accordance with FAS 142 as all of the assets and liabilities acquired are related to the banking reporting unit.
On October 4, 2003, Univest Corporation of Pennsylvania, parent company of Univest National Bank, completed the acquisition of Suburban Community Bank. Subsequent to this acquisition, Suburban Community merged with and into Univest National Bank. Univest acquired Suburban Community Bank to further expand into the Bucks County market. In this transaction, Univest acquired all the outstanding shares of Suburban Community Bank common stock for total consideration of $24,123.
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In accordance with FAS 141, Univest used the purchase method of accounting to record this transaction. The $14,077 of goodwill recorded in connection with the acquisition of Suburban Community Bank is calculated below. The goodwill recorded in connection with the transaction was allocated to the Univest National Bank reporting unit in accordance with FAS 142 as all of the assets and liabilities acquired are related to the banking reporting unit.
The following table reflects the results of operations for Univest Corporation had First County Bank and Suburban Community Bank been acquired as of January 1, 2002:
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On January 14, 2004, Univest Corporation of Pennsylvania (“Univest”) retained KPMG LLP (“KPMG”) as its new independent accountants to audit Univest’s financial statements for the fiscal year ended December 31, 2004. Ernst & Young LLP (“E&Y”) was dismissed on January 14, 2004, but will continue to serve as its independent accountants for the fiscal year ending December 31, 2003. The decision to change independent accountants was recommended and approved by the Audit Committee of Univest.
During each of the fiscal years ended December 31, 2002 and 2003, none of E&Y’s reports on the financial statements of Univest contained an adverse opinion or a disclaimer of opinion or was qualified or modified as to uncertainty, audit scope or accounting principle and there were no disagreements between Univest and E&Y on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreement (s), if not resolved to the satisfaction of E&Y would have caused it to make reference to the subject matter of the disagreement (s) in connection with its reports. There were no “reportable events” as that term is defined in Item 304 (a)(1)(v) of Regulation S-K occurring within Univest in the two most recent fiscal years.
During Univest’s two most recent fiscal years, Univest has not consulted with KPMG regarding any of the matters or events set forth in Item 304 (a) (2) of Regulation S-K.
Univest provided E&Y with a copy of the foregoing disclosures and requested that E&Y review such disclosures. E&Y provided a letter addressed to the Securities and Exchange Commission stating that they agree with such statements.
Item 9A. Controls and Procedures
As of December 31, 2003, an evaluation was performed under the supervision and with the participation of the Corporation’s management, including the CEO and CFO, of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures. Based on that evaluation, the Corporation’s management, including the CEO and CFO, concluded that the Corporation’s disclosure controls and procedures were effective as of December 31, 2003. There has been no significant changes in the Corporation’s internal control over financial reporting that occurred during the quarter ended December 31, 2003 that has materially affected, or is reasonably likely to affect, the Corporation’s internal control over financial reporting.
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PART III
The Corporation has adopted a Code of Conduct, which incorporates a code of ethics, for all directors, officers and employees. The waiver reporting requirement process was established in 2003 and there have been no waivers. The code of conduct is available on the Corporation’s website, www.univest.net.
Part IV
(a) 1. & 2. Financial Statements and Schedules
The financial statements listed in the accompanying index to financial statements are filed as part of this annual report.
3. Listing of Exhibits
The exhibits listed on the accompanying index to exhibits are filed as part of this annual report.
(b) Reports on Form 8-K during the fourth quarter of 2003.
(c) Exhibits — The response of this portion of item 15 is submitted as a separate section.
(d) Financial Statement Schedules — none.
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UNIVEST CORPORATION OF PENNSYLVANIA AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
[Item 15(a)]
Financial statement schedules are omitted since the required information is not present or is not present in amounts sufficient to require submission of the schedule, or because the information required is included in the financial statements and notes thereto.
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INDEX TO EXHIBITS
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Annual Report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated:
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