UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________
Commission file number 01-13465
Falmouth Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Delaware 04-3337685
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
20 Davis Straits, Falmouth, MA. 02540
(Address of principal executive offices) (Zip Code)
(508) 548-3500
(Registrant's telephone number including area code)
NA
(Former name, former address and former fiscal year,
if changed from last Report)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for
such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date
Outstanding at
Class April 30, 2004
----- --------------
Common Stock, Par Value $.01 917,227
Transitional small business disclosure format:
Yes [ ] No [X]
FALMOUTH BANCORP, INC.
AND SUBSIDIARIES
INDEX TO FORM 10-QSB
PART I. FINANCIAL INFORMATION Page
Item 1 Financial Statements
Condensed Consolidated Balance Sheets
March 31, 2004 (unaudited) and September 30, 2003 1
Condensed Consolidated Statements of Income
For Three and Six Months Ended March 31, 2004
and 2003 (unaudited) 2-3
Condensed Consolidated Statements of Changes in
Stockholders' Equity For Six Months Ended
March 31, 2004 and 2003 (unaudited) 4
Condensed Consolidated Statements of Cash Flows
For Six Months Ended March 31, 2004 and 2003
(unaudited) 5-6
Notes to Unaudited Condensed Consolidated Financial
Statements 7-10
Item 2 Management's Discussion and Analysis of Financial
Condition and Operating Results 11-19
Item 3 Controls and Procedures 20
PART II OTHER INFORMATION
Item 1. Legal Proceedings 21
Item 2. Changes in Securities and Small Business Issuer
Purchases of Equity Securities 21
Item 3. Defaults Upon Senior Securities 21
Item 4. Submission of Matters to a Vote of Security Holders 21
Item 5. Other Information 22
Item 6. Exhibits and Reports on Form 8-K 22
Signatures 23
Certifications
FORWARD LOOKING STATEMENTS
This report contains certain forward-looking statements consisting of
estimates with respect to the financial condition, results of operations and
business of the Company and the Bank that are subject to various factors
which could cause actual results to differ materially from these estimates.
These factors include, but are not limited to: general and local economic
conditions; changes in interest rates, deposit flows, demand for mortgages
and other loans, real estate values, and competition; changes in accounting
principles, policies, or guidelines; changes in legislation or regulation;
and other economic, competitive, governmental, regulatory, and technological
factors affecting our operations, pricing, products and services.
Any or all of our forward-looking statements in the report and in any
other public statements we make may turn out to be wrong. They can be
affected by inaccurate assumptions we might make or by known or unknown
risks and uncertainties. Consequently, no forward-looking statement can be
guaranteed.
We undertake no obligation to publicly update forward-looking
statements, whether as a result of new information, future events or
otherwise.
Part I. Item I.
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONDENSED CONSOLIDATED BALANCE SHEETS
-------------------------------------
March 31, 2004 and September 30, 2003
-------------------------------------
March 31, September 30,
2004 2003
--------- -------------
(Unaudited) (Audited)
ASSETS
------
Cash, due from banks, and interest bearing deposits $ 4,842,252 $ 3,335,059
Federal funds sold 3,066,370 4,037,306
------------ ------------
Total cash and cash equivalents 7,908,622 7,372,365
Investments in available-for-sale securities (at fair value) 28,582,974 37,179,799
Investments in held-to-maturity securities (fair values of
$26,318,113 as of March 31, 2004 and $32,556,554 as of
September 30, 2003) 26,295,422 32,549,241
Federal Home Loan Bank stock, at cost 878,000 878,000
Loans held-for-sale, fair value $840,474 as of September 30, 2003 - 825,677
Loans, net of allowance for loan losses of $820,877 as of
March 31, 2004 and $760,552 as of September 30, 2003 90,348,915 82,493,801
Premises and equipment 2,254,605 1,911,894
Accrued interest receivable 1,119,426 1,333,910
Cooperative Central Bank Reserve Fund Deposit 395,395 395,395
Other assets 974,246 1,178,108
------------ ------------
Total Assets $158,757,605 $166,118,190
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Deposits:
Non-interest bearing $ 20,651,173 $ 20,425,557
Interest-bearing 117,979,017 125,109,413
------------ ------------
Total deposits 138,630,190 145,534,970
Federal Home Loan Bank advances 2,532,982 2,582,885
Other liabilities 146,012 256,956
------------ ------------
Total Liabilities 141,309,184 148,374,811
------------ ------------
Stockholders' equity:
Preferred stock, par value $.01 per share, authorized
500,000 shares; none issued
Common stock, par value $.01 per share, authorized
2,500,000 shares; issued 1,454,750 shares 14,547 14,547
Paid-in capital 14,113,728 14,093,713
Retained earnings 13,237,078 13,858,343
Unallocated Employee Stock Ownership Plan shares (169,021) (213,114)
Treasury stock (537,523 shares as of March 31, 2004;
541,023 shares as of September 30, 2003) (9,516,683) (9,578,649)
Unearned compensation (227,072) (340,994)
Accumulated other comprehensive loss (4,156) (90,467)
------------ ------------
Total stockholders' equity 17,448,421 17,743,379
------------ ------------
Total liabilities and stockholders' equity $158,757,605 $166,118,190
============ ============
The accompanying notes are any integral part of these condensed consolidated
financial statements.
1
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
-------------------------------------------
(Unaudited)
Three Months Ended Six Months Ended
------------------------- -------------------------
March 31, March 31, March 31, March 31,
2004 2003 2004 2003
--------- --------- --------- ---------
Interest and dividend income:
Interest and fees on loans $1,287,633 $1,321,836 $2,540,264 $2,816,705
Interest and dividends on securities:
Taxable 180,054 311,522 465,264 649,634
Dividends on marketable equity securities 16,053 20,843 34,961 41,290
Dividends on Cooperative Bank Investment
and Liquidity Funds - - - -
Other interest 5,111 33,501 16,636 63,921
---------- ---------- ---------- ----------
Total interest and dividend income 1,488,851 1,687,702 3,057,125 3,571,550
---------- ---------- ---------- ----------
Interest expense:
Interest on deposits 394,853 561,113 824,423 1,214,464
Interest on securities sold under agreement
to repurchase - 3,226 - 5,209
Interest on Federal Home Loan Bank advances 32,848 61,644 65,696 124,097
---------- ---------- ---------- ----------
Total interest expense 427,701 625,983 890,119 1,343,770
---------- ---------- ---------- ----------
Net interest and dividend income 1,061,150 1,061,719 2,167,006 2,227,780
Provision for loan losses 60,000 - 60,000 -
---------- ---------- ---------- ----------
Net interest income after provision
for loan losses 1,001,150 1,061,719 2,107,006 2,227,780
---------- ---------- ---------- ----------
Other income:
Service charges on deposit accounts 50,178 43,279 110,923 93,644
Securities gains (losses), net 51,393 (378,905) 68,195 (455,492)
Net gains on sales of loans 19,202 286,462 59,634 611,773
Loan servicing fees 14,745 7,774 29,857 14,374
Other income 53,609 59,644 114,133 147,444
---------- ---------- ---------- ----------
Total other income 189,127 18,254 382,742 411,743
---------- ---------- ---------- ----------
Other expense:
Salaries and employee benefits 598,085 506,807 1,163,419 994,486
Occupancy expense 70,808 44,433 129,947 85,414
Equipment expense 45,828 44,869 98,041 89,693
Data processing expense 121,321 109,053 250,926 197,758
Directors' fees 47,840 18,675 67,205 37,285
Legal and professional fees 461,974 56,868 613,868 134,663
Interest on income taxes claimed by the
Commonwealth of Massachusetts - 49,281 - 49,281
Advertising expense 18,387 16,052 53,357 39,421
Printing and stationary expense 23,767 14,831 47,063 33,349
Postage and express expense 15,926 16,657 34,595 26,841
Write-downs of mortgage servicing assets 10,070 62,285 26,131 116,140
Other expenses 94,350 96,301 225,690 193,363
---------- ---------- ---------- ----------
Total other expenses 1,508,356 1,036,112 2,710,242 1,997,694
---------- ---------- ---------- ----------
Income (loss) before income taxes (318,079) 43,861 (220,494) 641,829
Income taxes 66,163 615,387 162,604 838,237
---------- ---------- ---------- ----------
Net loss $ (384,242) $ (571,526) $ (383,098) $ (196,408)
=======================================================
Comprehensive income (loss) $ (398,731) $ (174,494) $ (296,787) $ 363,193
=======================================================
The accompanying notes are any integral part of these condensed consolidated
financial statements.
2
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
-------------------------------------------
(Continued)
(unaudited)
Three Months Ended Six Months Ended
----------------------- ----------------------
March 31, March 31, March 31, March 31,
2004 2003 2004 2003
--------- --------- --------- ---------
Loss per common share, basic
and assuming dilution $(0.43) $(0.66) $(0.43) $(0.23)
====== ====== ====== ======
The accompanying notes are any integral part of these condensed consolidated
financial statements.
3
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
--------------------------------------------------------------------
Six Months Ended March 31, 2004
-------------------------------
(unaudited)
Unallocated Accumulated
Employee Other
Stock Compre-
Ownership hensive
Common Paid-In Retained Plan Treasury Unearned Income
Stock Capital Earnings Shares Stock Compensation (Loss) Total
------ ------- -------- ----------- -------- ------------ ----------- ------
Balance, September 30, 2003 $14,547 $14,093,713 $13,858,343 $(213,114) $(9,578,649) $(340,994) $ (90,467) $17,743,379
Employee Stock Ownership Plan 98,334 98,334
ESOP shares released 44,093 44,093
Recognition and retention plan 50,757 50,757
Distribution of RRP shares (113,922) 113,922 -
Exercise of stock options and
related tax benefit (15,154) 61,966 46,812
Dividends declared ($.26
per share) (238,167) (238,167)
Comprehensive loss:
Net loss (383,098)
Net change in unrealized
holding gain on available-
for-sale securities 86,311
Comprehensive loss (296,787)
------- ----------- ----------- --------- ----------- --------- --------- -----------
Balance, March 31, 2004 $14,547 $14,113,728 $13,237,078 $(169,021) $(9,516,683) $(227,072) $ (4,156) $17,448,421
======= =========== =========== ========= =========== ========= ========= ===========
Six Months Ended March 31, 2003
-------------------------------
(unaudited)
Unallocated Accumulated
Employee Other
Stock Compre-
Ownership hensive
Common Paid-In Retained Plan Treasury Unearned Income
Stock Capital Earnings Shares Stock Compensation (Loss) Total
------ ------- -------- ----------- -------- ------------ ----------- ------
Balance, September 30, 2002 $14,547 $13,981,543 $13,735,221 $(301,299) $(9,807,890) $(477,088) $(806,301) $16,338,733
Employee Stock Ownership Plan 65,751 65,751
ESOP shares released 44,093 44,093
Recognition and retention plan 68,009 68,009
Distribution of RRP shares (136,094) 136,094 -
Exercise of stock options and
related tax benefit (6,750) 42,385 35,635
Dividends declared ($.26
per share) (234,592) (234,592)
Comprehensive income:
Net loss (196,408)
Net change in unrealized
holding gain on available-
for-sale securities 559,601
Comprehensive income 363,193
------- ----------- ----------- --------- ----------- --------- --------- -----------
Balance, March 31, 2003 $14,547 $13,972,459 $13,304,221 $(257,206) $(9,765,505) $(340,994) $(246,700) $16,680,822
======= =========== =========== ========= =========== ========= ========= ===========
The accompanying notes are any integral part of these condensed consolidated
financial statements.
4
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
-----------------------------------------------
For the Six Months Ended March 31, 2004 and 2003
------------------------------------------------
2004 2003
---- ----
(Unaudited) (Unaudited)
Cash flows from operating activities
Net loss $ (383,098) $ (196,408)
Adjustments to reconcile net loss to net cash
Provided by operating activities:
Securities (gains) losses, net (68,195) 455,492
Amortization of investment securities, net 1,301,224 641,850
Provision for loan losses 60,000 -
Change in deferred loan costs, net of origination fees 17,947 (69,530)
Decrease (increase) in loans held-for-sale 825,677 (119,000)
Depreciation and amortization 96,072 84,300
Decrease in accrued interest receivable 214,484 23,684
(Increase) decrease in prepaid expenses (102,656) 8,494
Decrease (increase) in mortgage servicing rights 50,683 (166,354)
Increase in other assets (152) (54,814)
Recognition and retention plan (RRP) 50,757 68,009
Decrease in accrued expenses (47,996) (59,544)
Decrease in taxes receivable 249,716 518,447
Increase (decrease) in accrued interest payable 13 (25)
Decrease in other liabilities (62,961) (205,525)
----------- -----------
Net cash provided by operating activities 2,201,515 929,076
----------- -----------
Cash flows from investing activities
Purchases of available-for-sale securities (5,006,934) (14,804,935)
Proceeds from sales of available-for-sale securities 1,762,125 660,788
Proceeds from maturities of available-for-sale securities 11,320,074 12,159,847
Purchases of held-to-maturity securities (10,245,863) (19,111,631)
Proceeds from maturities of held-to-maturity securities 15,880,795 16,291,371
Loan originations and principal collections, net (7,933,386) 13,332,048
Recoveries of previously charged off loans 325 -
Capital expenditures (438,783) (19,591)
----------- -----------
Net cash provided by investing activities 5,338,353 8,507,897
----------- -----------
Cash flows from financing activities:
Net (decrease) increase in demand deposits, NOW and savings accounts (4,754,484) 4,381,404
Net decrease in time deposits (2,150,296) (2,368,560)
Net increase in securities sold under agreements to repurchase - 249,816
Repayments of Federal Home Loan Bank long-term advances (49,903) (47,031)
Net change in Federal Home Loan Bank short-term advances - 144,000
Redemption of preferred shares relative to minority interests - (3,000)
Proceeds from exercise of stock options 46,812 35,635
Dividends paid (238,167) (234,592)
Employee Stock Ownership Plan 98,334 65,751
Unallocated ESOP shares released 44,093 44,093
----------- -----------
Net cash (used in) provided by financing activities (7,003,611) 2,267,516
----------- -----------
The accompanying notes are any integral part of these condensed consolidated
financial statements.
5
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
-----------------------------------------------
For the Six Months Ended March 31, 2004 and 2003
(Continued)
2004 2003
---- ----
(Unaudited) (Unaudited)
Decrease in cash and cash equivalents 536,257 11,704,489
Cash and cash equivalents at beginning of period 7,372,365 7,422,584
----------- -----------
Cash and cash equivalents at end of period $ 7,908,622 $19,127,073
=========== ===========
Supplemental disclosures:
Interest paid $ 890,106 $ 1,343,795
Income taxes (received) paid (87,112) 319,790
The accompanying notes are any integral part of these condensed consolidated
financial statements.
6
FALMOUTH BANCORP, INC.
----------------------
AND SUBSIDIARIES
----------------
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1 - Basis of Presentation
The condensed consolidated financial statements of Falmouth Bancorp,
Inc. (the "Company") and its subsidiaries presented herein are unaudited and
should be read in conjunction with the consolidated financial statements of
the Company for the year ended September 30, 2003. The results of
operations for the six-month period ended March 31, 2004 are not necessarily
indicative of the results to be expected for the full year. All material
intercompany balances and transactions have been eliminated in
consolidation. In the opinion of management, the condensed consolidated
financial statements reflect all adjustments (consisting solely of normal
recurring adjustments) necessary for a fair presentation of results for the
interim periods. The year-end condensed balance sheet was derived from
audited financial statements, but does not include all disclosures required
by accounting principles generally accepted in the USA (GAAP).
Note 2 - Accounting Policies
The accounting and reporting policies of the Company conform to GAAP
and prevailing practices within the banking industry. The interim financial
information should be read in conjunction with the Company's 2003 Annual
Report which is an exhibit to Form 10-KSB/A. The Form 10-KSB for the fiscal
year ended September 30, 2003 was amended to segregate loans held-for sale
from loans held in portfolio. This 10-QSB includes an additional line in
the balance sheet to show the loans that are held-for-sale. Also GAAP
requires that the origination and sale of loans classified as held-for-sale
be reported in the operating activities section of the statement of cash
flows. Previously, the effects of the origination and sale of loans were
presented in the investing activities section as a component of the line
item "Loan originations and principal collections, net."
Management is required to make estimates and assumptions that affect
amounts reported in the consolidated financial statements. Actual results
could differ significantly from those estimates.
Note 3 - Impact of New Accounting Standards
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities" ("SFAS No. 146"). This
Statement requires that a liability for a cost associated with an exit or
disposal activity be recognized and measured initially at fair value only
when the liability is incurred. SFAS No. 146 is effective for exit or
disposal activities that are initiated after December 31, 2002. This
Statement did not have a material impact on the Company's consolidated
financial statements.
In October 2002, the FASB issued SFAS No. 147 "Acquisitions of Certain
Financial Institutions" ("SFAS No. 147"), an Amendment of SFAS Nos. 72 and
144 and FASB Interpretation No. 9. SFAS No. 72 "Accounting for Certain
Acquisitions of Banking or Thrift Institutions" and FASB Interpretation No.
9 "Applying APB Opinions No. 16 and 17 When a Savings and Loan Association
or a Similar Institution Is Acquired in a Business Combination Accounted for
by the Purchase Method" provided interpretive guidance on the application of
the purchase method to acquisitions of financial institutions. Except for
transactions between two or more mutual enterprises, SFAS No. 147 removes
acquisitions of financial institutions from the scope of both Statement 72
and Interpretation 9 and requires that those transactions be accounted for
in
7
accordance with SFAS No. 141 "Business Combinations" and SFAS No. 142
"Goodwill and Other Intangible Assets." Thus, the requirement in paragraph
5 of Statement 72 to recognize (and subsequently amortize) any excess of the
fair value of liabilities assumed over the fair value of tangible and
identifiable intangible assets acquired as an unidentifiable intangible
asset no longer applies to acquisitions within the scope of SFAS No. 147.
In addition, SFAS No. 147 amends SFAS No. 144 "Accounting for the Impairment
or Disposal of Long-Lived Assets" to include in its scope long-term
customer-relationship intangible assets of financial institutions such as
depositor- and borrower-relationship intangible assets and credit cardholder
intangible assets. Consequently, those intangible assets are subject to the
same undiscounted cash flow recoverability test and impairment loss
recognition and measurement provisions that SFAS No. 144 requires for other
long-lived assets that are held and used.
Paragraph 5 of SFAS No. 147, which relates to the application of the
purchase method of accounting, is effective for acquisitions for which the
date of acquisition is on or after October 1, 2002. The provisions in
paragraph 6 related to accounting for the impairment or disposal of certain
long-term customer-relationship intangible assets are effective on October
1, 2002. Transition provisions for previously recognized unidentifiable
intangible assets in paragraphs 8-14 are effective on October 1, 2002, with
earlier application permitted. There was no substantial impact on the
Company's consolidated financial statements on adoption of this Statement.
In November 2002, the FASB issued FASB Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45
elaborates on the disclosure to be made by a guarantor in its interim and
annual financial statements about its obligations under certain guarantees
that it has issued. It also clarifies that a guarantor is required to
recognize, at the inception of a guarantee, a liability for the fair value
of the obligation undertaken in issuing the guarantee. FIN 45 clarifies
that a guarantor is required to disclose (a) the nature of the guarantee;
(b) the maximum potential amount of future payments under the guarantee; (c)
the carrying amount of the liability; (d) the nature and extent of any
recourse provisions or available collateral that would enable the guarantor
to recover the amounts paid under the guarantee.
The initial recognition and initial measurement provisions of FIN 45
are applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The disclosure requirements in FIN 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. The Company adopted the initial recognition and initial measurement
provisions of FIN 45 effective as of January 1, 2003 and adopted the
disclosure requirements effective as of December 31, 2002. The adoption of
this interpretation did not have a material effect on the Company's
financial position or results of operations.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-
Based Compensation - Transition and Disclosure, an amendment of SFAS
Statement No. 123" ("SFAS No. 148"). SFAS No. 148 provides alternative
methods of transition for a voluntary change to the fair value based method
of accounting for stock-based employee compensation. In addition, SFAS No.
148 amends the disclosure requirements of SFAS No. 123 to require prominent
disclosures in both annual and interim financial statements about the method
of accounting for stock-based employee compensation and the effect of the
method used on reported results. The transition provisions and disclosure
provisions are required for financial statements for fiscal years ending
after December 15, 2002. The Company adopted the disclosure provisions of
SFAS No. 148 as of December 31, 2002 and currently uses the intrinsic value
method of accounting for stock options.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation
of Variable Interest Entities" ("FIN 46"), in an effort to expand upon and
strengthen existing accounting guidance that addresses when a company should
include in its financial statements the assets, liabilities and activities
of another entity. In
8
December 2003, the FASB revised Interpretation No. 46, also referred to as
Interpretation 46 (R) ("FIN 46(R)"). The objective of this interpretation
is not to restrict the use of variable interest entities but to improve
financial reporting by companies involved with variable interest entities.
Until now, one company generally has included another entity in its
consolidated financial statements only if it controlled the entity through
voting interests. This interpretation changes that, by requiring a variable
interest entity to be consolidated by a company only if that company is
subject to a majority of the risk of loss from the variable interest
entity's activities or entitled to receive a majority of the entity's
residual returns or both. The Company is required to apply FIN 46, as
revised, to all entities subject to it no later than the end of the first
reporting period ending after March 15, 2004. However, prior to the
required application of FIN 46, as revised, the Company shall apply FIN 46
or FIN 46 (R) to those entities that are considered to be special-purpose
entities as of the end of the first fiscal year or interim period ending
after December 15, 2003. The adoption of this interpretation did not have a
material effect on the Company's consolidated financial statements.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
No. 133 on Derivative Instruments and Hedging Activities" ("SFAS No. 149"),
which amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." This Statement (a)
clarifies under what circumstances a contract with an initial net investment
meets the characteristic of a derivative, (b) clarifies when a derivative
contains a financing component, (c) amends the definition of an underlying
to conform to language used in FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others," and (d) amends certain other existing
pronouncements. The provisions of SFAS No. 149 are effective for contracts
entered into or modified after June 30, 2003. There was no substantial
impact on the Company's consolidated financial statements on adoption of
this Statement.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity"
("SFAS No. 150"). This Statement establishes standards for the
classification and measurement of certain financial instruments with
characteristics of both liabilities and equity. SFAS No. 150 requires that
certain financial instruments that were previously classified as equity must
be classified as a liability. Most of the guidance in SFAS No. 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 did not have any
material effect on the Company's consolidated financial statements.
In December 2003, the FASB issued SFAS No. 132 (revised 2003),
"Employers' Disclosures about Pensions and Other Postretirement Benefits -
an amendment of SFAS No. 87, SFAS No. 88 and SFAS No. 106" ("SFAS No. 132
(revised 2003)"). This Statement revises employers' disclosures about
pension plans and other postretirement benefit plans. It does not change
the measurement or recognition of those plans required by SFAS No. 87,
"Employers' Accounting for Pensions," SFAS No. 88, "Employers' Accounting
for Settlements and Curtailments of Defined Benefit Pension Plans and for
Termination Benefits," and SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than Pensions." This Statement retains the
disclosure requirements contained in SFAS No. 132, "Employers' Disclosures
About Pensions and Other Postretirement Benefits," which it replaces. It
requires additional disclosures to those in the original Statement 132 about
assets, obligations, cash flows and net periodic benefit cost of defined
benefit pension plans and other defined benefit postretirement plans. This
Statement is effective for financial statements with fiscal years ending
after December 15, 2003 and interim periods beginning after December 15,
2003.
9
Adoption of this Statement did not have a material impact on the Company's
consolidated financial statements.
Note 4 - Accounting for Stock-Based Compensation.
Statement of Financial Accounting Standards No. 148 "Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment to FASB
Statement No. 123 (SFAS No. 148)" was issued by FASB in December 2002. This
new Statement requires, in interim financial statements, certain new
disclosures about stock-based compensation. Management measures stock-based
compensation in accordance with APB Opinion No. 25. The following table
illustrates the effect on net income and earnings per share if the Company
had applied the fair value recognition provision of SFAS No. 123 "Accounting
for Stock-Based Compensation" to stock-based compensation.
3 months ended 6 months ended
March 31, March 31,
----------------------- -----------------------
2004 2003 2004 2003
---- ---- ---- ----
Net loss as reported $(384,242) $(571,526) $(383,098) $(196,408)
Stock based compensation expense
determined under fair value method, net of tax benefit (4,746) (5,303) (9,545) (9,996)
--------- --------- --------- ---------
Pro forma net loss $(388,988) $(576,829) $(392,643) $(206,404)
========= ========= ========= =========
Loss per share: basic and diluted
Reported $ (0.43) $ (0.66) $ (0.43) $ (0.23)
========= ========= ========= =========
Pro forma $ (0.43) $ (0.66) $ (0.44) $ (0.24)
========= ========= ========= =========
Average shares outstanding at end of period, basic
and diluted 895,023 872,249 893,930 871,445
10
Note 5 - Dividends
On February 17, 2004, the Board of Directors of the Company declared a
quarterly cash dividend of $0.13 per share of common stock, which was paid
on March 23, 2004 to stockholders of record at the close of business on
March 9, 2004.
Note 6 - Recent Developments
During the quarter ended March 31, 2004, the Company released 500
shares due to exercised employee stock options. At March 31, 2004, the
Company had 537,523 treasury shares.
Note 7 - Contingency
On January 8, 2004, Independent Bank Corp. ("Independent"), INDB Sub,
Inc. ("INDB") and the Company entered into an Agreement and Plan of Merger
(the "Agreement") between Independent, INDB, an interim de novo wholly-owned
subsidiary of Independent, and the Company. Under the terms of the
Agreement, Independent will acquire the Company in a part cash, part stock
transaction. The acquisition is subject to customary conditions, including
shareholder and regulatory approval, and is expected to be completed mid-
year 2004.
11
Part I. Item 2.
Management's Discussion and
Analysis of Financial Condition and Operating Results
General
Falmouth Bancorp, Inc. (the "Company" or "Bancorp"), a Delaware
corporation, is the holding company for Falmouth Bank (the "Bank" or
"Falmouth"), a Massachusetts chartered stock co-operative bank. At March 31,
2004, there were 917,227 shares of the common stock of the Company
outstanding. The Company's stock trades on the American Stock Exchange
under the symbol "FCB".
On January 8, 2004, the Board of Directors of the Company approved,
and the Company entered into, an Agreement and Plan of Merger, dated as of
January 8, 2004, between Independent Bank Corp., INDB Sub, Inc. and the
Company whereby Independent will acquire the Company in a part cash, part
stock transaction valued at approximately $36.9 million, including
approximately $2.5 million in cash that will be paid to Company option
holders in exchange for the cancellation of those options. The $36.9
million transaction value is derived by using Independent's closing price
per share on January 8, 2004 of $29.00 for the stock component of the
transaction. The terms of the Agreement call for half of the outstanding
shares of the Company to be converted into the right to receive 1.28 shares
of Independent common stock per share of Company common stock and for the
other half of the outstanding shares of the Company to be purchased for
$38.00 cash per share of Company common stock.
The transaction is subject to the approval of the Company's
shareholders and various regulatory authorities. If approved, it is
anticipated the transaction will be finalized mid-year 2004.
The Company's sole business activity is ownership of the Bank. The
Company also makes investments in long and short-term marketable securities
and other liquid investments. The business of the Bank consists of
attracting deposits from the general public and local businesses and using
these funds to originate primarily residential and commercial real estate
loans located in Falmouth, Massachusetts and surrounding areas and to invest
in United States Government and Agency securities. To a lesser extent, the
Bank engages in various forms of consumer and home equity lending. The
Bank's business strategy is to operate as a profitable community bank
dedicated to financing home ownership, small business, and consumer needs in
its market area and to provide personal, high quality service to its
customers.
The Company had average shares outstanding of 895,023 for the three
months ended March 31, 2004, as compared to 872,249 average shares
outstanding for the three months ended March 31, 2003.
Critical Accounting Policies
The Notes to our Audited Consolidated Financial Statements for the
year ended September 30, 2003, included in our Form 10-KSB/A, which was
filed with the Securities and Exchange Commission on February 13, 2004,
contain a summary of our significant accounting policies. We believe our
policies with respect to the methodology for our determination of the
allowance for loan losses, the valuation of mortgage servicing rights and
asset impairment judgments, and other than temporary declines in the value
of our securities, involve a high degree of complexity and require
management to make difficult and subjective judgments which often require
assumptions or estimates about highly uncertain matters. Changes in these
judgments, assumptions or estimates could cause reported results to differ
materially. These critical policies and their application are periodically
reviewed by the Audit Committee and the Company's Board of Directors.
12
SECURITIES:
Investments in debt securities are adjusted for amortization of
premiums and accretion of discounts computed so as to approximate the
interest method. Gains or losses on sales of investment securities are
computed on a specific identification basis. The Company classifies debt
and equity securities into one of three categories: held-to-maturity,
available-for-sale, or trading. This security classification may be
modified after acquisition only under certain specified conditions. In
general, securities may be classified as held-to-maturity only if the
Company has the positive intent and ability to hold them to maturity.
Trading securities are defined as those bought and held principally for the
purpose of selling them in the near term. All other securities must be
classified as available-for-sale.
-- Held-to-maturity securities are measured at amortized cost on
the consolidated balance sheets. Unrealized holding gains and losses are
not included in earnings or in a separate component of stockholders' equity.
They are merely disclosed in the notes to the consolidated financial
statements.
-- Available-for-sale securities are carried at fair value on the
consolidated balance sheets. Unrealized holding gains and losses are not
included in earnings, but are reported as a net amount (less expected tax)
in a separate component of stockholders' equity until realized.
-- Trading securities are carried at fair value on the consolidated
balance sheets. Unrealized holding gains and losses for trading securities
are included in earnings.
If a decline in the fair value below the adjusted cost basis of an
investment is judged to be other than temporary, the cost basis of the
investment is written down to fair value as the new cost basis and the
amount of the write down is included as a charge against securities gains,
net.
LOANS:
Loans receivable that management has the intent and ability to hold
until maturity or payoff, are reported at their outstanding principal
balances adjusted for amounts due to borrowers on unadvanced loans, any
charge-offs, the allowance for loan losses and any deferred fees, costs on
originated loans or unamortized premiums or discounts on purchased loans.
Interest on loans is recognized on a simple interest basis. Loan
origination, commitment fees and certain direct origination costs are
deferred and the net amount amortized as an adjustment of the related loan's
yield. The Company is amortizing these amounts over the contractual life of
the related loans. Residential real estate loans are generally placed on
nonaccrual status when reaching 90 days past due or in the process of
foreclosure. All closed-end consumer loans 90 days or more past due and any
equity line in the process of foreclosure are placed on nonaccrual status.
Secured consumer loans are written down to realizable value and unsecured
consumer loans are charged-off upon reaching 120 or 180 days past due
depending on the type of loan. Commercial real estate loans and commercial
business loans and leases which are 90 days or more past due are generally
placed on nonaccrual status, unless secured by sufficient cash or other
assets immediately convertible to cash. When a loan has been placed on
nonaccrual status, previously accrued and uncollected interest is reversed
against interest on loans. A loan can be returned to accrual status when
collectibility of principal is reasonably assured and the loan has performed
for a period of time, generally six months. Cash receipts of interest
income on impaired loans is credited to principal to the extent necessary to
eliminate doubt as to the collectibility of the net carrying amount of the
loan. Some or all of the cash receipts of interest income on impaired loans
is recognized as interest income if the remaining net carrying amount of the
loan is deemed to be fully collectible. When recognition of interest income
on an impaired loan on a cash basis is appropriate, the amount of income
that is recognized is limited to that which would have been accrued on the
net carrying amount of the loan at the contractual interest rate.
13
Any cash interest payments received in excess of the limit and not applied
to reduce the net carrying amount of the loan are recorded as recoveries of
charge-offs until the charge-offs are fully recovered.
LOANS HELD-FOR-SALE:
Loans held-for-sale in the secondary market are carried at the lower
of cost or estimated fair value in the aggregate. Net unrealized losses are
provided for in a valuation allowance by charges to operations. Interest
income on loans held-for-sale is accrued currently and classified as
interest on loans.
ALLOWANCE FOR LOAN LOSSES:
The allowance for loan losses is established as losses are estimated
to have occurred through a provision for loan losses charged to earnings.
Loan losses are charged against the allowance when management believes the
uncollectibility of a loan balance is confirmed. Subsequent recoveries, if
any, are credited to the allowance. The allowance for loan losses is
evaluated on a regular basis by management and is based upon management's
periodic review of the collectibility of the loans in light of historical
experience, the nature and volume of the loan portfolio, adverse situations
that may affect the borrower's ability to repay, estimated value of any
underlying collateral and prevailing economic conditions. This evaluation
is inherently subjective as it requires estimates that are susceptible to
significant revision as more information becomes available. A loan is
considered impaired when, based on current information and events, it is
probable that the Company will be unable to collect the scheduled payments
of principal or interest when due according to the contractual terms of the
loan agreement. Factors considered by management in determining impairment
include payment status, collateral value, and the probability of collecting
scheduled principal and interest payments when due. Loans that experience
insignificant payment delays and payment shortfalls generally are not
classified as impaired. Management determines the significance of payment
delays and payment shortfalls on a case-by-case basis, taking into
consideration all of the circumstances surrounding the loan and the
borrower, including the length of the delay, the reasons for the delay, the
borrower's prior payment record, and the amount of the shortfall in relation
to the principal and interest owed. Impairment is measured on a loan by
loan basis for commercial and construction loans by either the present value
of expected future cash flows discounted at the loan's effective interest
rate, the loan's obtainable market price, or the fair value of the
collateral if the loan is collateral dependent. Large groups of smaller
balance homogeneous loans are collectively evaluated for impairment.
Accordingly, the Company does not separately identify individual consumer
and residential loans for impairment disclosures.
PREMISES AND EQUIPMENT:
Premises and equipment are stated at cost, less accumulated
depreciation and amortization. Cost and related allowances for depreciation
and amortization of premises and equipment retired or otherwise disposed of
are removed from the respective accounts with any gain or loss included in
income or expense. Depreciation and amortization are calculated principally
on the straight-line method over the estimated useful lives of the assets.
OTHER REAL ESTATE OWNED AND IN-SUBSTANCE FORECLOSURES:
Other real estate owned includes properties acquired through
foreclosure and properties classified as in-substance foreclosures in
accordance with SFAS No. 15, "Accounting by Debtors and Creditors for
Troubled Debt Restructuring." These properties are carried at the lower of
cost or estimated fair value less estimated costs to sell. Any write-down
from cost to estimated fair value, required at the time of foreclosure or
classification as in-substance foreclosure, is charged to the allowance for
loan losses. Expenses incurred in
14
connection with maintaining these assets, subsequent write-downs and gains
or losses recognized upon sale are included in other expense. In accordance
with SFAS No. 114, "Accounting by Creditors for Impairment of a Loan," the
Company classifies loans as in-substance repossessed or foreclosed if the
Company receives physical possession of the debtor's assets regardless of
whether formal foreclosure proceedings take place.
ADVERTISING:
The Company directly expenses costs associated with advertising as
they are incurred.
INCOME TAXES:
The Company recognizes income taxes under the asset and liability
method. Under this method, deferred tax assets and liabilities are
established for the temporary differences between the accounting basis and
the tax basis of the Company 's assets and liabilities at enacted tax rates
expected to be in effect when the amounts related to such temporary
differences are realized or settled.
RETIREMENT PLAN:
The compensation cost of an employee's pension benefit is recognized
on the net periodic pension cost method over the employee's approximate
service period. The aggregate cost method is used for funding purposes.
FAIR VALUES OF FINANCIAL INSTRUMENTS:
Statement of Financial Accounting Standards No. 107, "Disclosures
About Fair Value of Financial Instruments," requires that the Company
disclose estimated fair value for its financial instruments. The Company
reports estimated fair value for this purpose on an annual basis in its Form
10-KSB.
MORTGAGE SERVICING RIGHTS:
In years prior to the year ended September 30, 2002, the Company
considered the value of its mortgage servicing asset to be immaterial. The
"loans serviced for others" portfolio has increased significantly and the
Company now recognizes its mortgage servicing rights as an asset on the
consolidated balance sheet. The Company adheres to the accounting and
reporting standards as set forth in SFAS No. 140, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities" and
SFAS No. 65, "Accounting for Certain Mortgage Banking Activities" as amended
by Statement 140. When the Company sells a mortgage loan and retains the
servicing rights, the Company allocates the cost of the loan and servicing
based on their relative fair values. The asset created thereby is amortized
in proportion to, and over the period of, estimated net servicing income.
The servicing asset is reviewed for impairment on a quarterly basis. The
amount by which the book value exceeds the fair value is recorded in a
valuation allowance and charged to current period income.
No valuation allowance for the carrying amount of mortgage servicing
rights at March 31, 2004 and 2003 was recorded because management estimates
that there is no impairment in the carrying amount of those rights.
Comparison of Financial Condition at March 31, 2004 and September 30, 2003.
The Company's total assets decreased by $7.3 million or 4.39% for the
six months ended March 31, 2004, from $166.1 million at September 30, 2003
to $158.8 million at March 31, 2004, primarily due to decreases in
investment securities. Investment securities decreased $14.8 million or
21.0% due, in part,
15
to meeting deposit withdrawals and funding loans held for portfolio. The
decrease in investment securities was partially offset by a $7.0 million
increase in net loans. Total net loans, including loans held-for-sale, were
$90.3 million or 65.2% of total deposits at March 31, 2004, as compared to
$83.3 million or 57.3% of total deposits at September 30, 2003. This
increase was due, in part, to management's decision to selectively retain 15
year 1-4 family mortgages and adjustable rate mortgages originated by the
Bank and a decrease in loans paid off and refinanced. Investment securities
were $55.8 million or 35.1% of total assets at March 31, 2004, as compared
to $70.6 million or 42.5% of total assets at September 30, 2003. Total
deposits decreased $6.9 million or 4.74%, from $145.5 million at September
30, 2003 to $138.6 million at March 31, 2004. This decrease was due, in
part, to historically low rates offered on deposit accounts coupled with the
recovery of the equities market which made equities an attractive investment
alternative to bank deposits. The Bank does not believe that the pending
acquisition of the Company by Independent Bank Corp., a Massachusetts
Corporation, has had a significant effect on its deposit activity.
Borrowed funds from the Federal Home Loan Bank of Boston ("FHLB")
decreased from $2.58 million at September 30, 2003 to $2.53 million at March
31, 2004. The decrease of $50,000 was the result of regularly scheduled
amortization. The Bank maintains a $1.9 million line of credit with the
FHLB for short term cash management. The most recent FHLB Qualified
Collateral Report shows that the Bank has unused borrowing capacity of $27.0
million with the FHLB.
Stockholders' equity was $17.4 million at March 31, 2004, as compared
to $17.7 million at September 30, 2003, a decrease of $295,000. This change
was primarily the result of a net loss and dividends paid to stockholders
which reduced retained earnings by $621,000, a decrease in accumulated other
comprehensive loss of $86,000 due to a decrease in unrealized losses on
available for sale investments, scheduled discharge of liabilities on stock-
based employee benefit plans of $193,000 (ESOP and RRP), and the exercise of
stock options, net of tax benefits, of $47,000. The ratio of stockholders'
equity to total assets was 10.99% at March 31, 2004, and the book value per
share of common stock was $19.02, compared to 10.68% and $19.43,
respectively, at September 30, 2003.
The ratio of the allowance for loan losses to total loans was .90% at
March 31, 2004. Management believes the allowance is adequate based upon,
among other things, past loss experience, prevailing economic conditions,
and the level of credit risk in the loan portfolio. However, the Bank may
periodically provide additional provisions as deemed necessary to maintain a
sufficient allowance for the loan loss to total loan ratio.
Three Months Ended March 31, 2004 and 2003
Net Loss. The Company's net loss for the three months ended March 31,
2004 was $384,000, as compared to a net loss of $572,000 for the three
months ended March 31, 2003. The decrease in net loss of $188,000 was
primarily the result of an increase in other income of $171,000 and a
decrease in income taxes of $549,000, off set, in part, by an increase in
other expenses of $472,000. There was also a $60,000 increase in the
provision for loan losses to reflect the growth of the loan portfolio.
Interest Expense. Total interest expense for the three months ended
March 31, 2004 was $428,000, as compared to $626,000 for the same period of
the prior year, a decrease of $198,000. This was the result of decreased
FHLB borrowings as well as a reduction in interest rates paid on deposits
during the period.
Net Interest and Dividend Income. Net interest and dividend income
was $1.061 million for the
16
three-month period ended March 31, 2004 as compared to $1.062 million for
the three months ended March 31, 2003. The decrease was the result of a
$199,000 decrease in interest and dividend income, offset in part by a
$198,000 decrease in interest expense. Interest and dividend income
decreased primarily as the result of low interest rates on loans and other
investments. The decrease in interest expense was primarily due to a
reduction in the general level of interest rates coupled with a decrease in
total deposits. The net interest margin for the three months ended March 31,
2004 was 2.82%, a decrease of 3 basis points, as compared to 2.85% for the
three months ended March 31, 2003. The decrease in net interest margin was
primarily the result of a decrease in the yield on earning assets.
Provision for Loan Losses. The Bank made a provision of $60,000 to
its allowance for loan losses during the quarter ended March 31, 2004, as
compared to no provision for the quarter ended March 31, 2003. Management
has decided to retain 1-4 family residential fixed rate mortgages with
scheduled amortization periods of 15 years or less and this has increased
the amount of loans held in portfolio as compared to the same period of the
previous year. Management believes that, although the provision is deemed
adequate based on its delinquency and loan loss record, additional
provisions may be added from time to time as the loan portfolio expands by
loan type and volume, including expansion in the commercial loan portfolio.
The Bank reviews the general and specific reserves allocated to each loan
type, both on and off the balance sheet. This review procedure allows
management to look at the growth and risk of each loan type. If necessary,
additional reserves can be allocated where loss exposure appears to have
risen. Where commercial loans traditionally have a greater degree of loss
exposure, the amount of the allowance may be greater than that of
traditional 1-4 family mortgage loans of the same amount. If losses appear
imminent within a loan type or in general, allowances could be increased.
The Bank's Asset/Liability Committee routinely reviews the risk weighting
applied to each type of loan. During the period ended March 31, 2004, the
Bank, through analysis and the recommendation of its Asset/Liability
Committee changed the percentage of reserves on its commercial real estate
loans from 2.00% to 1.50%. This reduction was recommended due to the low
loan to value ratios of these loans, its historically low delinquency record
and its low historical loss record. As of March 31, 2004, the Bank had no
non-performing loans.
Other Income. Total other income for the three-month period ended
March 31, 2004 was $189,000, as compared to $18,000 for the three months
ended March 31, 2003. The $171,000 increase was primarily the result of a
decrease in realized losses on investment securities of $430,000 caused by
the combination of a $51,000 realized gain in the three month period ended
March 31, 2004 and a $379,000 loss in the three month period ended March 31,
2003. The change is attributable to the recent recovery of the stock market
in general. The increase was offset in part by a decrease in net gains on
mortgages sold of $267,000 caused by a decrease in refinancing activity.
Other Expenses. Total other expenses for the three months ended March
31, 2004 were $1.5 million, as compared to $1.0 million for the three months
ended March 31, 2003. The $500,000 increase was primarily due to the
combination of an increase in salaries and employee benefits of $91,000, an
increase in occupancy expense of $26,000, an increase in data processing
expense of $12,000, an increase in Directors' fees of $29,000, and an
increase in legal and professional costs of $405,000. This increase was
offset in part by a decrease in interest on State income taxes of $49,000
following the settlement of a tax claim with the Commonwealth of
Massachusetts in connection with the Company's real estate investment trust
subsidiary and a decrease in writedowns of mortgage servicing rights of
$52,000 due to fewer mortgage loan prepayments. The increase in operating
expenses was primarily the result of additional legal, professional and
accounting fees, and directors' fees associated with the proposed
acquisition of the Company by Independent Bank Corp. and the additional
costs of operating the de novo Bourne, Massachusetts branch which opened in
November of 2003. The annualized ratio of operating expenses to average
total assets for the three months ended March 31, 2004 was 3.82% as compared
to
17
2.60% for the three-month period ended March 31, 2003, an increase of 122
basis points.
Six months Ended March 31, 2004 and 2003
Net Loss. The Company's net loss for the six months ended March 31,
2004 was $383,000 as compared to a net loss of $196,000 for the six months
ended March 31, 2003. This increase was primarily due to a $712,000
increase in operating expenses, partially offset by a decrease in income
taxes of $675,000, a decrease in net interest income after provision for
loan loss of $121,000 and a decrease in total other income of $29,000. The
decrease in income tax expense was primarily due to the State tax liability
recognized during March 2003 due to a change in Massachusetts tax law. As
discussed further below, the increase in expenses was primarily the result
of costs associated with the proposed acquisition of the Company.
Interest and Dividend Income. Total interest and dividend income for
the six months ended March 31, 2004 was $3.1 million, a decrease of $500,000
as compared to $3.6 million for the six-month period ended March 31, 2003.
The decrease in interest and dividend income is attributable to lower
interest rates on loans and other investments. Loans held for investment
have increased from 61.2% of total deposits at March 31, 2003 to 65.2% at
March 31, 2004. Although the investment portfolio grew $3.9 million from
$51.9 million at March 31, 2003 to $55.8 million at March 31, 2004, interest
and dividends on securities and other interest income decreased $238,000 due
to the decrease in interest rates generally and the Bank's strategy of
investing in short term, lower yielding securities in anticipation of rising
interest rates. Although management believes it is well positioned for a
rising rate scenario, profitability will continue to be under pressure due
to the compression of the net interest margin during the transition to a
rising rate environment.
Interest Expense. Interest expense for the six months ended March 31,
2004 was $890,000, including $66,000 in interest on FHLB advances, a
decrease of $454,000 from $1.3 million for the six months ended March 31,
2003. This was the result of decreased FHLB borrowings as well as a
reduction in interest rates paid on deposits during the period. There was a
$390,000 decrease in interest on deposits and a $64,000 decrease in interest
on borrowed funds and securities sold under agreement to repurchase.
Net Interest and Dividend Income. Net interest and dividend income
for the six-month period ended March 31, 2004 was $2.167 million as compared
to $2.228 million for the six months ended March 31, 2003. The net interest
margin (NIM) for the six months ended March 31, 2004 was 2.84%, a decrease
of 16 basis points as compared to 3.00% for the six months ended March 31,
2003. The decrease in the NIM was primarily due to the decrease in interest
and fees on loans, the decline in yield on debt securities held for
investment, and the low interest rate environment generally.
Provision for Loan Losses. The Bank made a $60,000 allocation to its
allowance for loan losses account for the six months ended March 31, 2004
compared to no provision made for the six months period ended March 31,
2003. The allowance for loan losses is maintained at a level determined to
be adequate by management to absorb future charge-offs of loans deemed
uncollectible. This allowance is increased by provisions charged to income
and by recoveries on loans previously charged off, and reduced by benefits
for loan losses credited to income and charge-offs. Arriving at an
appropriate level of allowance for loan losses necessarily involves a high
degree of judgment and is determined based on management's ongoing
evaluation. Although the provision was deemed adequate based on the
Company's delinquency and loan loss record, management believes that
additional provisions may be added during the quarter ending June 30, 2004
as the loan portfolio is expected to expand slightly during the period. The
expected expansion in the loan portfolio is the result of the Company's
intent to place additional loans in portfolio and sell fewer 1-4 family
residential loans in the secondary market.
18
The Company's allowance for loan losses was 0.90% of total loans at
March 31, 2004 as compared to 0.91% at September 30, 2003. On March 31,
2004 the Company had two consumer loans totaling $1,000 that were 60 or more
days delinquent, no small commercial loans overdue and no non-performing
loans.
The allowance for loan losses is maintained at a level determined to
be adequate by management to absorb future charge-offs of loans deemed
uncollectible. This allowance is increased by provisions charged to income
and by recoveries on loans previously charged off, and reduced by benefits
for loan losses credited to income and charge-offs. Arriving at an
appropriate level of allowance for loan losses necessarily involves a high
degree of judgment and is determined based on management's ongoing
evaluation.
The Company maintains an allowance for loan losses at a level which it
believes is sufficient to cover potential charge-offs of loans deemed to be
uncollectible based on continuous review of a variety of factors. These
factors consist of the character and size of the loan portfolio, business
and economic conditions, loan growth, charge-off experience, delinquency
trends, non-performing loan trends and other asset quality factors. The
primary means of adjusting the level of this allowance is through provisions
(benefits) for loan losses, which are established and charged (credited) to
income on a quarterly basis. Although the Company uses available
information to establish the appropriate level of the allowance for loan
losses, future additions to the allowance may be necessary because its
estimates of the potential losses in the loan portfolio are susceptible to
change as a result of changes in the factors noted above. Any such increase
would adversely affect our results of operations.
For the commercial business loan and commercial real estate loan
portfolios, the Company evaluates each loan rated "substandard" or worse.
On an ongoing basis, the Company reviews classified loans to ensure the
accuracy of the loan classifications. Estimated reserves for each of these
credits are determined by reviewing current collateral value, financial
information, cash flow, payment history and trends and other relevant facts
surrounding the particular credit. Provisions for losses on the remaining
commercial loans are based on pools of similar loans using historical loss
experience and other qualitative factors.
For the residential real estate and consumer loan portfolios, the
range of reserves is calculated by applying historical charge-offs and
recovery experience to the current outstanding balance in each loan
category, with consideration given to loan growth over the preceding twelve
months.
Other Income. Total other income for the six-month period ended March
31, 2004 was $383,000 as compared to $412,000 for the six months ended March
31, 2003. The $29,000 decrease is primarily the result of a decrease of
$552,000 in gains on loans sold offset by a decrease of $524,000 in realized
losses on investment securities. Other income decreased $33,000 while net
loan servicing income increased $16,000 during the same six-month
comparative.
Other Expenses. Total other expenses for the six months ended March
31, 2004 were $2.7 million as compared to $2.0 million for the six months
ended March 31, 2003. The $700,000 increase was primarily due to an
increase in salaries and employee benefits expense of $169,000, an increase
in occupancy expense of $45,000, an increase in equipment expense of $8,000,
an increase in data processing expense of $53,000, an increase in directors
fees of $30,000, an increase in legal and professional fees of $479,000, an
increase in advertising expense of $14,000, an increase in printing expense
of $14,000, an increase in postage expense of $8,000, and an increase in
other expense of $33,000, offset in part by a decrease in interest on State
income taxes of $49,000 following the settlement of a tax claim with the
Commonwealth of Massachusetts in connection with the Bank's real estate
investment trust subsidiary and a decrease in the writedowns of mortgage
servicing assets of $90,000 due to a decrease in refinancing activity. The
ratio of annualized operating expenses to average total assets for the six
months ended March 31, 2004 was 3.43% as compared to 2.57% for the six-month
period ended March 31, 2003. The increase in salary and employee benefits
was
19
due, substantially, to the annual increase in employee compensation and the
opening of a new branch office in Bourne, Massachusetts in November 2003.
Most of the increases in occupancy, equipment, data processing and
advertising expense can be attributed to the operation of the new branch
office. The increase in legal and professional fees and directors' fees are
attributable to the specialized services required by the proposed
acquisition of the Company by Independent Bank Corp.
Liquidity and Capital Resources
The Bank's primary sources of funds consist of deposits, repayment and
prepayment of loans and mortgage-backed securities, maturities of
investments and interest-bearing deposits, and funds provided from
operations. While scheduled repayments of loans and mortgage-backed
securities and maturities of investment securities are predictable sources
of funds, deposit flows and loan prepayments are greatly influenced by the
general level of interest rates, economic conditions and competition. The
Bank uses its liquidity resources principally to fund existing and future
loan commitments, to fund net deposit outflows, to invest in other interest-
earning assets, to maintain liquidity, and to meet operating expenses.
The Bank is required to maintain adequate levels of liquid assets.
This guideline, which may be varied depending upon economic conditions and
deposit flows, is based upon a percentage of deposits and short-term
borrowings. The Bank has historically maintained a level of liquid assets
in excess of regulatory requirements. The Bank's liquidity ratio at March
31, 2004 was 45.27%.
A major portion of the Bank's liquidity consists of short-term
securities obligations. The level of these assets is dependent on the
Bank's operating, investing, lending and financing activities during any
given period. At March 31, 2004, regulatory liquidity totaled $63.2
million. The primary investing activities of the Bank include origination
of loans and the purchase of investment securities.
Liquidity management is both a daily and long-term function of
management. If the Bank requires funds beyond its ability to generate them
internally, the Bank believes that it could borrow additional funds from the
FHLB and, according to its most recent Qualified Collateral Report, has
excess borrowing capacity of $27.0 million. At March 31, 2004, the Bank had
outstanding advances from the FHLB in the amount of $2.5 million in short
and long-term borrowings. As these advances mature, they will be repaid or
re-written as longer-term matched borrowings, which will assist the match of
rate sensitive assets to rate sensitive liabilities as well as reduce
interest expense.
At March 31, 2004, the Bank had $9.5 million in outstanding
residential and commercial commitments to originate loans, as well as $24.0
million in unadvanced loan commitments. If the Bank anticipates that it may
not have sufficient funds available to meet its current loan commitments it
may commence further matched borrowings from the FHLB. At March 31, 2004,
certificates of deposit that are scheduled to mature in one year or less
totaled $40.8 million. Based on historical experience, management believes
that a significant portion of such deposits will remain with the Bank.
Although there was a significant decrease in deposits during the three
months ended December 31, 2003, deposit levels have been stable during the
three months ended March 31, 2004. The Bank has adequate liquidity in the
form of short term investments and borrowing capacity at the FHLB to meet
its anticipated cash needs.
At March 31, 2004 the Bank exceeded all of its regulatory capital
requirements.
20
As of its March 31, 2004 Call Report the Bank reported:
Regulatory
Actual Minimum
------ ----------
Risk-Based Capital Ratio 14.55% 8.00%
Tier 1 Capital/Net Risk-Weighted Assets 13.83% 8.00%
Leverage Ratio 10.09% 4.00%
Tangible Equity Ratio 13.83% n/a
Off Balance Sheet Arrangements
The Company does not have any off-balance sheet arrangements that
have, or are reasonably likely to have, a current or future effect on the
Company's financial condition, revenues or expenses, results of operations,
liquidity, capital expenditures or capital resources that are material to
investors.
21
Part 1. Item 3.
Controls and Procedures.
Management, including the Company's President and Chief Executive
Officer and Senior Vice President and Chief Financial officer, has evaluated
the effectiveness of the Company's disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the
period covered by this report. Based upon that evaluation, the Company's
President and Chief Executive Officer and Senior Vice President and Chief
Financial Officer concluded that the disclosure controls and procedures were
effective, in all material respects, to ensure that information required to
be disclosed in the reports the Company files and submits under the Exchange
Act is recorded, processed, summarized and reported as and when required.
There have been no changes in the Company's internal control over
financial reporting identified in connection with the evaluation that
occurred during the Company's last fiscal quarter that has materially
affected, or that is reasonably likely to materially affect, the Company's
internal control over financial reporting.
22
OTHER INFORMATION
Part II.
Item 1. Legal Proceedings
None
Item 2. Changes in Securities and Small Business Issuer Purchases of Equity
Securities
During the three months ended March 31, 2004, the Company did not
repurchase any of its common stock. The Company currently does not have a
stock repurchase program in place.
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its Annual Meeting of Stockholders ("Meeting") on
January 20, 2004. All of the proposals submitted to stockholders and the
tabulation of votes for each proposal are as follows:
1. Election of three candidates to the Board of Directors to serve
for a three-year term.
The number of votes cast with respect to this matter was as follows:
----------------------------------------------------------
Nominee For % Withhold %
----------------------------------------------------------
John J. Lynch, Jr. 799,105 99.6 2,962 0.4
----------------------------------------------------------
William E. Newton 799,776 99.7 2,291 0.3
----------------------------------------------------------
Santo P. Pasqualucci 796,451 99.3 5,616 0.7
----------------------------------------------------------
2. Ratification of the appointment of Shatswell, MacLeod & Company,
P.C. as independent public accountants for the fiscal year ending September
30, 2004.
---------------------------------------------------
For % Against % Abstain %
---------------------------------------------------
796,858 99.4 1,100 0.1 4,109 0.5
---------------------------------------------------
There were no broker non-votes with respect to the above proposals.
Item 5. Other Information
None
23
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibit 31.1, Rule 13a - 14 (a)/15d - 14(a) Certification
Exhibit 31.2, Rule 13a - 14 (a)/15d - 14(a) Certification
Exhibit 32.1, Section 1350 Certification
Exhibit 32.2, Section 1350 Certification
(b) Reports on Form 8-K
On January 12, 2004, the Company filed a report on Form 8-K with the
SEC, dated January 8, 2004, announcing under item 5 the entering into an
Agreement and Plan of Merger dted April 8, 2004 by and among Independent
Bank Corp., INDB Sub, Inc., and Falmouth Bancorp, Inc.
On January 27, 2004, the Company furnished a report on Form 8-K, dated
January 26, 2004, to the SEC reporting issuance of a press release
announcing earnings for the first quarter of the 2004 fiscal year.
24
SIGNATURES
In accordance with the requirements of the Exchange Act, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FALMOUTH BANCORP, INC.
(Registrant)
Date: May 17, 2004 By: /s/ Santo P. Pasqualucci
-------------------------------
Santo P. Pasqualucci
President and Chief Executive
Officer
Date: May 17, 2004 By: /s/ George E. Young, III
-------------------------------
George E. Young, III
Senior Vice President and Chief
Financial Officer
25