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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2008
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 001-13677
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MID PENN BANCORP, INC.
(Exact Name of Registrant as Specified in its Charter)
----------------
Pennsylvania
(State or Other Jurisdiction of
Incorporation or Organization)
349 Union Street
Millersburg, Pennsylvania 17061
------------------------- -----
(Address of Principal Executive Offices) (Zip Code)
25-1666413
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(I.R.S. Employer Identification Number)
(717) 692-2133
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definition of "accelerated filer, large accelerated filer and smaller reporting
company" in Rule 12b-2 of the Exchange Act. (Check One):
Large accelerated filer [ ] Accelerated filer [X]
Non-accelerated filer [ ] Smaller reporting company [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes [ ] No [X]
As of November 1, 2008, there were 3,479,780 shares of the registrant's common
stock outstanding, par value $1.00 per share.
MID PENN BANCORP, INC.
INDEX
PART I - FINANCIAL INFORMATION Page
Item 1 - Financial Statements (Unaudited)
Consolidated Balance Sheets...................................... 1
Consolidated Statements of Income...............................2-3
Consolidated Statements of Cash Flows...........................4-5
Notes to Consolidated Financial Statements......................6-12
Item 2 - Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................13-21
Item 3 - Quantitative and Qualitative Disclosures about Market Risk........21
Item 4 - Controls and Procedures...........................................23
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings ................................................24
Item 1A - Risk Factors......................................................24
Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds.......24
Item 3 - Defaults upon Senior Securities...................................24
Item 4 - Submission of Matters to a Vote of Security Holders...............25
Item 5 - Other Infmation...................................................25
Item 6 - Exhibits.......................................................25-26
Signature Page ...........................................................27
Exhibit 31.1-Certification of Principal Executive Officer Pursuant to Exchange
Act Rules 13a-14(a)/15d-14(a) as added by Section 302 of the
Sarbanes-Oxley Act of 2002......................................
Exhibit 31.2-Certification of Principal Financial Officer Pursuant to Exchange
Act Rules 13a-14(a)/15d-14(a) as added by Section 302 of the
Sarbanes-Oxley Act of 2002......................................
Exhibit 32-Certification of Principal Executive Officer and Principal Financial
Officer Pursuant to 18 U.S.C. Section 1350 as Added by Section
906 of the Sarbanes-Oxley Act of 2002.............................
Unless the context otherwise requires, the terms "Mid Penn," "we," "us," and
"our" refer to Mid Penn Bancorp, Inc. and its consolidated subsidiaries.
PART I - FINANCIAL INFORMATION
ITEM 1 - FINANCIAL STATEMENTS
MID PENN BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
September 30, December 31,
2008 2007
------------- ----------
(Unaudited) (Audited)
ASSETS
Cash and due from banks $ 7,711 $ 10,599
Federal funds sold -- --
Interest-bearing balances with other financial institutions 50,404 46,830
Available-for-sale investment securities 47,517 54,072
Loans and leases 424,450 377,128
Less: Allowance for loan and lease losses (5,067) (4,790)
--------- ---------
Net loans and leases 419,383 372,338
--------- ---------
Bank premises and equipment, net 11,083 10,638
Foreclosed assets held for sale 1,374 529
Accrued interest receivable 2,743 2,818
Deferred income taxes 2,309 2,053
Goodwill 1,016 1,016
Core deposit and other intangibles, net 420 362
Cash surrender value of life insurance 7,360 6,961
Other assets 1,092 1,541
--------- ---------
Total Assets $ 552,412 $ 509,757
========= =========
LIABILITIES & STOCKHOLDERS' EQUITY
Deposits:
Noninterest bearing demand $ 49,788 $ 46,478
Interest bearing demand 35,119 36,627
Money Market 71,795 62,596
Savings 25,342 24,844
Time 235,853 202,272
--------- ---------
Total Deposits 417,897 372,817
Short-term borrowings 31,998 37,349
Long-term debt 55,264 54,581
Accrued interest payable 3,314 1,990
Other liabilities 3,243 2,576
--------- ---------
Total Liabilities 511,716 469,313
Stockholders' Equity:
Common stock, par value $1 per share; authorized
10,000,000 shares; 3,533,340 shares issued at
September 30, 2008 and December 31, 2007, respectively 3,533 3,533
Additional paid-in capital 31,107 31,107
Retained earnings 7,648 6,660
Accumulated other comprehensive income (loss) (200) 284
Treasury stock, at cost (53,560 and 43,706 shares at
September 30, 2008 and December 31, 2007, respectively) (1,392) (1,140)
--------- ---------
Stockholders' Equity, Net 40,696 40,444
--------- ---------
Total Liabilities and Stockholders' Equity $ 552,412 $ 509,757
========= =========
The accompanying notes are an integral part of
these consolidated financial statements
1
MID PENN BANCORP, INC.
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(Dollars in thousands, except per share data) Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- --------------------
2008 2007 2008 2007
------- ------- ------- -------
INTEREST INCOME
Interest & fees on loans and leases $ 6,869 $ 6,686 $20,176 $19,622
Interest on interest-bearing balances 592 637 1,961 1,894
Interest and dividends on investment securities:
U.S. Treasury and government agencies 193 225 631 723
State and political subdivision obligations,
tax-exempt 297 352 960 1,012
Other securities 35 50 121 150
Interest on federal funds sold and securities purchased
under agreements to resell -- -- -- 33
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Total Interest Income 7,986 7,950 23,849 23,434
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INTEREST EXPENSE
Interest on deposits 2,841 2,879 8,623 8,571
Interest on short-term borrowings 132 305 557 649
Interest on long-term debt 721 708 2,030 2,165
-------------------- --------------------
Total Interest Expense 3,694 3,892 11,210 11,385
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Net Interest Income 4,292 4,058 12,639 12,049
PROVISION FOR LOAN AND LEASE LOSSES 275 175 530 375
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Net Interest Income After Provision for Loan and Lease
Losses 4,017 3,883 12,109 11,674
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NONINTEREST INCOME
Trust department income 69 69 204 225
Service charges on deposits 455 386 1,303 1,115
Investment securities gains (losses), net 8 -- 8 --
Increase in bank-owned life insurance 65 66 192 201
Mortgage banking income 32 18 114 109
Other income 369 210 979 803
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Total Noninterest Income 998 749 2,800 2,453
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NONINTEREST EXPENSE
Salaries and employee benefits 1,832 1,670 5,428 4,982
Occupancy expense, net 227 202 754 640
Equipment expense 208 215 634 633
Pennsylvania Bank Shares tax expense 93 83 277 246
ATM and debit card processing expense 53 38 142 112
Professional fees 220 105 516 425
Director fees and benefits expense 77 73 245 266
Advertising expense 155 86 337 311
Computer expense 135 138 383 372
Stationery and supplies expense 61 68 188 193
Other expenses 464 372 1,544 1,360
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Total Noninterest Expense 3,525 3,050 10,448 9,540
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INCOME BEFORE PROVISION FOR INCOME TAXES 1,490 1,582 4,461 4,587
Provision for income taxes 368 372 1,106 1,114
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NET INCOME $ 1,122 $ 1,210 $ 3,355 $ 3,473
==================== ====================
The accompanying notes are an integral part of
these consolidated financial statements
2
MID PENN BANCORP, INC.
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) - CONTINUED
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------- --------------------
2008 2007 2008 2007
---- ---- ---- ----
PER SHARE INFORMATION
Net Income $0.32 $0.35 $0.96 $0.99
Cash Dividends $0.20 $0.20 $0.60 $0.60
Weighted Average Number of Shares Outstanding 3,479,780 3,494,195 3,484,210 3,499,812
The accompanying notes are an integral part of
these consolidated financial statements
3
MID PENN BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Dollars in Thousands) For the Nine Months
Ended September 30,
---------------------
2008 2007
---- ----
Operating Activities:
Net Income $ 3,355 $ 3,473
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan and lease losses 530 375
Depreciation 625 593
(Accretion) amortization of core deposit intangible (58) 98
Increase in cash surrender value of life insurance (399) (201)
Investment securities gains, net (8) --
Loss on sale of other real estate 32 21
Gain on sale of loans -- (21)
Change in deferred income taxes (7) 92
Change in accrued interest receivable 75 47
Change in other assets 449 (389)
Change in accrued interest payable 1,324 1,047
Change in other liabilities 393 45
-------------------------
Net Cash Provided By Operating Activities 6,311 5,180
-------------------------
Investing Activities:
Net (increase) decrease in interest-bearing balances (3,574) (1,918)
Proceeds from the maturity of investment securities 17,238 6,918
Purchases of investment securities (11,408) (4,144)
Net increase in loans and leases (48,504) (14,407)
Purchases of bank premises and equipment (1,070) (1,753)
Proceeds from sale of foreclosed assets 52 205
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Net Cash Used In Investing Activities (47,266) (15,099)
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Financing Activities:
Net increase in demand deposits and savings accounts 11,499 5,304
Net increase (decrease) in time deposits 33,581 (7,586)
Net increase (decrease) in short-term borrowings (5,351) 17,154
Cash dividend paid (2,091) (2,073)
Long-term debt repayment (15,113) (5,098)
Purchase of treasury stock (253) (401)
Proceeds from long-term borrowings 15,795 --
-------------------------
Net Cash Provided By Financing Activities 38,067 7,300
-------------------------
Net increase (decrease) in cash and due from banks (2,888) (2,619)
Cash and due from banks, beginning of period 10,599 9,498
-------------------------
Cash and due from banks, end of period $ 7,711 $ 6,879
=========================
The accompanying notes are an integral part of
these consolidated financial statements
4
MID PENN BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) - CONTINUED
(Dollars in Thousands) For the Nine Months
Ended September 30,
-------------------
2008 2007
---- ----
Supplemental Disclosures of Cash Flow Information:
Interest paid $ 9,886 $10,338
Income taxes paid $ 1,295 $ 1,405
Supplemental Noncash Disclosures:
Loan chargeoffs $ 352 $ 251
Transfers to foreclosed assets held for sale $ 929 $ 525
The accompanying notes are an integral part of
these consolidated financial statements.
5
MID PENN BANCORP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The consolidated financial statements for 2008 and 2007 include the accounts of
Mid Penn Bancorp ("Mid Penn"), its subsidiaries Mid Penn Bank (the "Bank"), Mid
Penn Insurance Services, LLC, and Mid Penn Investment Corporation (collectively
the "Corporation"). All material intercompany accounts and transactions have
been eliminated in consolidation.
Certain information and footnote disclosures normally included in consolidated
financial statements prepared in accordance with accounting principles generally
accepted in the United States of America ("GAAP") have been condensed or omitted
pursuant to the rules and regulations of the Securities and Exchange Commission
("SEC"). We believe the information presented is not misleading and the
disclosures are adequate. The financial information included herein, with the
exception of the consolidated balance sheet dated December 31, 2007, is
unaudited; however, such information reflects all adjustments (consisting only
of normal recurring accruals and adjustments) necessary to present fairly our
financial position, results of operations and cash flows for the interim
periods. The results of operations for interim periods are not necessarily
indicative of operating results expected for the full year. These interim
consolidated financial statements should be read in conjunction with the audited
financial statements and notes thereto included in Mid Penn's Annual Report on
Form 10-K for the year ended December 31, 2007, and with Mid Penn's Forms 8-K,
that were filed during 2008 with the SEC.
2. USE OF ESTIMATES
The preparation of financial statements requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods. Actual results could differ from those estimates. A material
estimate that is particularly susceptible to significant change relates to the
determination of the allowance for loan and lease losses.
3. SHORT-TERM BORROWINGS
Short-term borrowings as of September 30, 2008, and December 31, 2007
consisted of:
(Dollars in thousands)
September 30, December 31,
2008 2007
------------ ------------
Federal funds purchased $23,650 $29,600
Securities sold under repurchase agreements 7,602 7,156
Treasury tax and loan note 746 593
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$31,998 $37,349
======= =======
Federal funds purchased represent overnight funds. Securities sold under
repurchase agreements generally mature between one day and one year. Treasury
tax and loan notes are open-ended interest bearing notes payable to the U.S.
Treasury upon call. All tax deposits accepted by the Bank are placed in the
Treasury note option account.
6
4. LONG-TERM DEBT
During the quarter ended September 30, 2008, the Bank entered into no additional
long-term borrowings with the Federal Home Loan Bank of Pittsburgh.
5. DEFINED BENEFIT PLANS
Mid Penn has an unfunded noncontributory defined benefit retirement plan for
directors. The plan provides defined benefits based on years of service. In
addition, Mid Penn sponsors a defined benefit health care plan that provides
post-retirement medical benefits and life insurance to full-time employees.
These health care and life insurance plans are noncontributory. A December 31
measurement date for our plans is used.
The components of net periodic benefit costs from these benefit plans are as
follows:
Three months ended September 30:
(Dollars in thousands) Pension Benefits Other Benefits
---------------- --------------
2008 2007 2008 2007
---- ---- ---- ----
Service cost $ 6 $ 6 $ 12 $ 10
Interest cost 15 15 9 8
Amortization of transition obligation -- -- 4 4
Amortization of prior service cost 5 7 -- --
Amortization of net (gain) loss -- -- (1) (2)
-------------------------------- --------------------------------
Net periodic benefit cost $ 26 $ 28 $ 24 $ 20
================================ ================================
Nine months ended September 30:
(Dollars in thousands) Pension Benefits Other Benefits
---------------- --------------
2008 2007 2008 2007
---- ---- ---- ----
Service cost $ 18 $ 19 $ 36 $ 30
Interest cost 45 45 27 24
Amortization of transition obligation -- -- 12 11
Amortization of prior service cost 15 20 -- --
Amortization of net (gain) loss -- -- (3) (5)
-------------------------------- --------------------------------
Net periodic benefit cost $ 78 $ 84 $ 72 $ 60
================================ ================================
7
6. Earnings per Share
Basic earnings per share is computed by dividing net income by the weighted
average number of common shares outstanding during each of the periods
presented, giving retroactive effect to stock dividends and splits. The basic
and diluted earnings per share are the same since there are no potentially
dilutive securities outstanding.
(Dollars in thousands, except per share data)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ -------------------------------
2008 2007 2008 2007
---- ---- ---- ----
Net Income $ 1,122 $ 1,210 $ 3,355 $ 3,473
Weighted average number of
common shares outstanding 3,479,780 3,494,195 3,484,210 3,499,812
---------- ---------- ---------- ----------
Basic earnings per share $ 0.32 $ 0.35 $ 0.96 $ 0.99
========== ========== ========== ==========
7. COMPREHENSIVE INCOME
The purpose of reporting comprehensive income is to report a measure of all
changes in Mid Penn's equity resulting from economic events other than
transactions with stockholders in their capacity as stockholders. For Mid Penn,
comprehensive income includes traditional income statement amounts as well as
unrealized gains and losses on certain investments in debt and equity securities
(i.e. available-for-sale securities). Because unrealized gains and losses are
part of comprehensive income, comprehensive income may vary substantially
between reporting periods due to fluctuations in the market prices of securities
held. Other comprehensive income also includes a pension component in accordance
with Financial Accounting Standards Board No. 158. The components of
comprehensive income, and the related tax effects, are as follows:
(Dollars in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ -------------------------------
2008 2007 2008 2007
---- ---- ---- ----
Net Income $ 1,122 $ 1,210 $ 3,355 $ 3,473
------- ------- ------- -------
Other Comprehensive Income (Loss):
Unrealized holding gains (losses) on
available-for-sale
investment securities arising during the period (368) 480 (725) (103)
Reclassification adjustment for (gains) losses
included in net income (8) -- (8) --
------- ------- ------- -------
Other comprehensive income (loss) before
income tax (provision) benefit (376) 480 (733) (103)
Amortization of net transition obligation, prior
service cost, and net actuarial gain included
in net benefit cost -- -- -- (311)
Income tax (provision) benefit related to other
comprehensive income (loss) 128 (163) 249 141
------- ------- ------- -------
Total Other Comprehensive Income (Loss) (248) 317 (484) (273)
------- ------- ------- -------
Total Comprehensive Income (Loss) $ 874 $ 1,527 2,871 $ 3,200
======= ======= ======= =======
8
8. GUARANTEES
In the normal course of business, Mid Penn makes various commitments and incurs
certain contingent liabilities, which are not reflected in the accompanying
consolidated financial statements. The commitments include various guarantees
and commitments to extend credit. Commitments to extend credit are agreements to
lend to a customer as long as there is no violation of any condition established
in the contract. Commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. Mid Penn evaluates each
customer's credit-worthiness on a case-by-case basis. The amount of collateral
obtained, if deemed necessary upon extension of credit, is based on management's
credit evaluation of the customer. Standby letters of credit and financial
guarantees written are conditional commitments to guarantee the performance of a
customer to a third party. Those guarantees are primarily issued to support
public and private borrowing arrangements. The credit risk involved in issuing
letters of credit is essentially the same as that involved in extending loans to
customers. Mid Penn had $11,251,000 and $11,480,000 of standby letters of credit
outstanding as of September 30, 2008 and December 31, 2007, respectively. The
Company does not anticipate any losses as a result of these transactions.
9. SPLIT DOLLAR LIFE INSURANCE POSTRETIREMENT BENEFITS
Effective January 1, 2008, Mid Penn Bank adopted the provisions of Emerging
Issues Task Force ("EITF") Issue No. 06-4, "Accounting for Deferred Compensation
and Postretirement Benefit Aspects of Endorsement Split Dollar Life Insurance
Arrangements" ("EITF 06-4"). EITF 06-4 requires the recognition of a liability
related to the postretirement benefits covered by an endorsement split-dollar
life insurance arrangement, and the liability for the future death benefit
should be recognized by following the guidance in SFAS No. 106 or Accounting
Principles Board Opinion No. 12, as appropriate. In adopting EITF 06-4, Mid Penn
recorded a cumulative effect adjustment to the balance of retained earnings of
$276,000 as of January 1, 2008.
10. FAIR VALUE MEASUREMENT OF ASSETS AND LIABILITIES
Effective January 1, 2008, Mid Penn adopted Statement of Financial Accounting
Standards ("SFAS") No. 157, "Fair Value Measurements" for financial assets and
financial liabilities. In accordance with Financial Accounting Standards Board
Staff Position (FSP) No. 157-2, "Effective Date of FASB Statement No. 157," Mid
Penn will delay application of SFAS No. 157 for non-financial assets and
non-financial liabilities, until January 1, 2009. SFAS 157 defines fair value,
establishes a framework for measuring fair value in generally accepted
accounting principles, and expands disclosures about fair value measurements.
9
Fair value is the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at
the measurement date. Inputs to valuation techniques refer to the assumptions
that market participants would use in pricing the asset or liability. Inputs may
be observable, meaning those that reflect the assumptions market participants
would use in pricing the asset or liability developed based on market data
obtained from independent sources, or unobservable, meaning those that reflect
the reporting entity's own belief about the assumptions market participants
would use in pricing the asset or liability based upon the best information
available in the circumstances. SFAS 157 establishes a fair value hierarchy for
valuation inputs that gives the highest priority to quoted prices in active
markets for identical assets or liabilities and the lowest priority to
unobservable inputs. The fair value hierarchy is as follows:
LEVEL 1 INPUTS - Unadjusted quoted prices in active
markets that are accessible at the measurement date
for identical, unrestricted assets or liabilities;
LEVEL 2 INPUTS - Quoted prices in markets that are not
active, or inputs that are observable either
directly or indirectly, for substantially the full
term of the asset or liability;
LEVEL 3 INPUTS - Prices or valuation techniques that
require inputs that are both significant to the
fair value measurement and unobservable (i.e.,
supported by little or no market activity).
A description of the valuation methodologies used for instruments measured at
fair value, as well as the general classification of such instruments pursuant
to the valuation hierarchy, is set forth below. These valuation methodologies
were applied to all of Mid Penn's financial assets and financial liabilities
carried at fair value effective January 1, 2008.
SECURITIES AVAILABLE FOR SALE
Securities classified as available for sale are generally reported at fair value
utilizing Level 2 inputs. For these securities, we obtain fair value
measurements from an independent pricing service. These valuation services
estimate fair value using pricing models and other accepted valuation
methodologies, such as quotes for similar securities and observable yield curves
and spreads. Level 3 inputs are used for investment security positions that are
not traded in active markets or are subject to transfer restrictions. Such
inputs are generally based on available market evidence. In the absence of such
evidence, management's best estimate is used.
IMPAIRED LOANS
Certain loans are evaluated for impairment using the practical expedients
permitted by SFAS No. 114, "Accounting by Creditors for Impairment of a Loan",
including impaired loans measured at an observable market price (if available),
or at the fair value of the loan's collateral (if the loan is collateral
dependent). The value of the collateral is determined through appraisals
performed by independent licensed appraisers. When the value of the collateral,
less estimated costs to sell, is less than the principal balance of the loan, a
specific reserve is established. Mid Penn considers the appraisals used in its
impairment analysis to be Level 3 inputs. Impaired loans are reviewed and
evaluated as needed for additional impairment, and reserves are adjusted
accordingly.
10
The following table illustrates the financial instruments measured at fair value
on a recurring basis segregated by hierarchy fair value levels:
Fair value measurements at September 30, 2008 using:
-------------------------------------------------------------------------
(Dollars in thousands) Total carrying value Quoted prices in Significant other Significant unobservable
at active markets observable inputs inputs
Assets: September 30, 2008 (Level 1) (Level 2) (Level 3)
--------------------------------- ------------------------ -------------------------------------------------------------------------
Securities available for sale $ 47,517 $ 47,517
Certain financial assets and financial liabilities are measured at fair value on
a nonrecurring basis; that is, the instruments are not measured at fair value on
an ongoing basis, but are subject to fair value adjustments in certain
circumstances (for example, when there is evidence of impairment). The following
table illustrates the financial instruments measured at fair value on a
nonrecurring basis segregated by hierarchy fair value levels:
fair value measurements at september 30, 2008 using:
-------------------------------------------------------------------------
(Dollars in thousands) total carrying value at Quoted prices in Significant other Significant unobservable
active markets observable inputs inputs
assets: September 30, 2008 (Level 1) (Level 2) (Level 3)
--------------------------------- ------------------------ -------------------------------------------------------------------------
Impaired Loans $ 3,978 $ 3,978
Effective January 1, 2008, Mid Penn adopted the provisions of SFAS No. 159, "The
Fair Value Option for Financial Assets and Financial Liabilities-Including an
amendment of FASB Statement No. 115" ("SFAS 159"). SFAS 159 expands the use of
fair value accounting but does not affect existing standards, which require
assets and liabilities to be carried at fair value. Under SFAS 159, a company
may elect to use fair value to measure accounts and loans receivable,
available-for-sale and held-to-maturity securities, accounts payable,
guarantees, issued debt and other eligible financial instruments. At September
30, 2008, Mid Penn had made no elections to use fair value as an alternative
measurement for financial assets and liabilities not previously carried at fair
value.
11. RECENT ACCOUNTING PRONOUNCEMENTS
In December 2007, the FASB issued SFAS No. No. 141 (R) "Business Combinations"
("SFAS 141(R)"). SFAS 141(R) establishes principles and requirements for how the
acquirer of a business recognizes and measures in its financial statements the
identifiable assets acquired, the liabilities assumed, and any noncontrolling
interest in the acquiree. SFAS 141(R) also provides guidance for recognizing and
measuring the goodwill acquired in the business combination and determines what
information to disclose to enable users of the financial statements to evaluate
the nature and financial effects of the business combination. The guidance will
become effective as of the beginning of a company's fiscal year beginning after
December 15, 2008. SFAS 141(R) will impact the Corporation's accounting for
business combinations beginning January 1, 2009.
11
In December 2007, the FASB issued SFAS No. 160 "Noncontrolling Interests in
Consolidated Financial Statements--an amendment of ARB No. 51" ("SFAS 160").
SFAS 160 establishes accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary. The
guidance will become effective as of the beginning of a company's fiscal year
beginning after December 15, 2008. Management does not believe that SFAS 160
will have a material impact on its consolidated financial statements.
In February 2008, the FASB issued FASB Staff Position (FSP) FAS 140-3,
"Accounting for Transfers of Financial Assets and Repurchase Financing
Transactions." This FSP addresses the issue of whether or not these transactions
should be viewed as two separate transactions or as one "linked" transaction.
The FSP includes a "rebuttable presumption" that presumes linkage of the two
transactions unless the presumption can be overcome by meeting certain criteria.
The FSP will be effective for fiscal years beginning after November 15, 2008,
and will apply only to original transfers made after that date; early adoption
will not be allowed. Management is currently evaluating the potential impact the
new pronouncement will have on the Corporation's consolidated financial
statements.
In March 2008, the FASB issued Statement No. 161, "Disclosures about Derivative
Instruments and Hedging Activities--an amendment of FASB Statement No. 133"
("Statement 161"). Statement 161 requires entities that utilize derivative
instruments to provide qualitative disclosures about their objectives and
strategies for using such instruments, as well as any details of
credit-risk-related contingent features contained within derivatives. Statement
161 also requires entities to disclose additional information about the amounts
and location of derivatives located within the financial statements, how the
provisions of SFAS 133 have been applied, and the impact that hedges have on an
entity's financial position, financial performance, and cash flows. Statement
161 is effective for fiscal years and interim periods beginning after November
15, 2008, with early application encouraged. Management does not believe that
Statement 161 will have a material impact on its consolidated financial
statements.
12. SUBSEQUENT EVENT
On October 30, 2008, the Corporation announced the resignation of Alan W. Dakey
as President and Chief Executive Officer of the Corporation. Mr. Dakey also
resigned as a member of the Board of Directors of the Corporation and as
Chairman, President and CEO of Mid Penn Bank, the Corporation's wholly owned
banking subsidiary. Edwin D. Schlegel, the current Chairman of the Board of the
Corporation, has been appointed as interim President and CEO of the Corporation
and as Chairman, President and CEO of Mid Penn Bank. Mr. Schlegel has been a
director of the Corporation since 1991 and served as Lead Director from 2006
until his appointment as Board Chairman in April 2008.
The Executive Committee of the Board is acting as a search committee to seek a
permanent replacement for Mr. Dakey. The Committee will consider both internal
and external candidates.
The cost of Mr. Dakey's package is anticipated to be approximately $475,000 and
will be accrued during the fourth quarter.
12
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following is Management's Discussion of Consolidated Financial Condition as
of September 30, 2008, compared to year-end 2007 and the Results of Operations
for the third quarter and the first nine months of 2008 compared to the same
periods in 2007.
This discussion should be read in conjunction with the financial tables,
statistics, and the audited financial statements and notes thereto included in
Mid Penn's Annual Report on Form 10-K for the year ended December 31, 2007, and
with Mid Penn's Forms 8-K, that were filed during 2008 with the SEC. The results
of operations for interim periods are not necessarily indicative of operating
results expected for the full year.
Certain of the matters discussed in this document and in documents incorporated
by reference herein, including matters discussed under the caption "Management's
Discussion and Analysis of Financial Condition and Results of Operations," may
constitute forward-looking statements for purposes of the Securities Act of
1933, as amended, and the Securities Exchange Act of 1934, as amended, and as
such may involve known and unknown risks, uncertainties and other factors which
may cause the actual results, performance or achievements of the corporation to
be materially different from future results, performance or achievements
expressed or implied by such forward-looking statements. The words "expect,"
"anticipates," "intend," "plan," "believe," "estimate," and similar expressions
are intended to identify such forward-looking statements.
The Corporation's actual results may differ materially from the results
anticipated in these forward-looking statements due to a variety of factors,
including, without limitation:
o The effects of future economic conditions on Mid Penn and its customers;
o The costs and effects of litigation and of unexpected or adverse outcomes
in such litigation;
o Governmental monetary and fiscal policies, as well as legislative and
regulatory changes;
o The effect of changes in accounting policies and practices, as may be
adopted by the regulatory agencies, as well as the Financial Accounting
Standards Board and other accounting standard setters;
o The risks of changes in interest rates on the level and composition of
deposits, loan demand, and the values of loan collateral, securities and
interest rate protection agreements, as well as interest rate risks;
o The effects of competition from other commercial banks, thrifts, mortgage
banking firms, consumer finance companies, credit unions, securities
brokerage firms, insurance companies, money market and other mutual funds
and other financial institutions operating in Mid Penn's market area and
elsewhere, including institutions operating locally, regionally, nationally
and internationally, together with such competitors offering banking
products and services by mail, telephone, computer and the internet;
o Technological changes;
o Acquisitions and integration of acquired businesses;
o The failure of assumptions underlying the establishment of reserves for
loan and lease losses and estimations of values of collateral and various
financial assets and liabilities; and
o Acts of war or terrorism.
Mid Penn undertakes no obligation to publicly revise or update these
forward-looking statements to reflect events or circumstances that arise after
the date of this report. Readers should carefully review the risk factors
described in the Annual Report and other documents that we periodically file
with the SEC, including Mid Penn's Annual Report on Form 10-K for the year ended
December 31, 2007.
CRITICAL ACCOUNTING POLICIES
Management of the Corporation considers the accounting policy relating to the
allowance for loan and lease losses to be a critical accounting policy given the
uncertainty in evaluating the level of the allowance required to cover credit
losses inherent in the loan and lease portfolio and the material effect that
such judgments can have on the results of operations. While management's current
evaluation of the allowance indicates that the allowance is adequate, under
adversely different conditions or assumptions, the allowance may need to be
increased. For example, if historical loan and lease loss experience
significantly worsened or if current economic conditions significantly
deteriorated, additional provisions for loan and lease losses may be required to
increase the allowance. In addition, the assumptions and estimates used in the
13
internal reviews of the Corporation's non-performing loans and leases and
potential problem loans and leases have a significant impact on the overall
analysis of the adequacy of the allowance. While management has concluded that
the current evaluation of collateral values is reasonable under the
circumstances, if collateral valuations were significantly lowered, the
Corporation's allowance may also require additional provisions for loan and
lease losses. Throughout the remainder of this presentation, the terms "loan" or
"loans" refers to both loans and leases.
RESULTS OF OPERATIONS
OVERVIEW
Net income was $1,122,000 or $0.32 per share for the quarter ended September 30,
2008, as compared to net income of $1,210,000 or $0.35 per share for the quarter
ended September 30, 2007. Net interest income in the third quarter increased
from $4,058,000 in 2007 to $4,292,000 in 2008.
Higher personnel and professional expenses offset the increases in service
charge income during the quarter as we added additional talent to our staff and
as we continue to update our computer systems with a goal of continuing to
improve our operational support capabilities.
The provision for loan and lease losses in the third quarter of 2008 was
$275,000, as compared to $175,000 in the third quarter of 2007. The increased
provision reflects both strong loan growth during the quarter as well as
weakening economic conditions.
Net income as a percent of average assets, (return on average assets or "ROA"),
and stockholders' equity, (return on average equity or "ROE"), were as follows
on an annualized basis:
Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- -------------------------------
2008 2007 2008 2007
---- ---- ---- ----
Return on average assets 0.82% 0.97% 0.84% 0.94%
Return on average equity 11.10% 12.31% 11.09% 11.94%
Efficiency ratio 64.16% 60.63% 64.55% 62.79%
Total assets grew to $552,412,000 at September 30, 2008, from $509,757,000 on
December 31, 2007. This asset growth was boosted by strong loan demand with net
loans of $419,383,000 at September 30, 2008 compared to $372,338,000 at
year-end, an increase of approximately $47 million.
Deposit growth was also quite strong during the first nine months of 2008. Total
deposits were $417,897,000 at September 30, 2008, compared to $372,817,000 at
December 31, 2007, an increase of approximately $45 million. This increase in
deposits was boosted by a successful special-rate certificate of deposit
promotion launched early in 2008 as well as an anniversary special, which took
place throughout the third quarter.
NET INTEREST INCOME/FUNDING SOURCES
Net interest income, Mid Penn's primary source of revenue, is the amount by
which interest income on loans and investments exceeds interest incurred on
deposits and borrowings. The amount of net interest income is affected by
changes in interest rates and changes in the volume and mix of
interest-sensitive assets and liabilities. Net interest income and corresponding
yields are presented in the analysis below on a taxable-equivalent basis. Income
from tax-exempt assets, primarily loans to or securities issued by state and
local governments, is adjusted by an amount equivalent to the federal income
taxes which would have been paid if the income received on these assets was
taxable at the statutory rate of 34%.
14
Average Balances, Effective Interest Differential and Interest Yields Interest
rates and interest differential - taxable equivalent basis
for the Nine Months Ended for the Nine Months Ended
September 30, 2008 September 30, 2007
------------------------------------ ----------------------------------
(Dollars in thousands) Average Interest Rate (%) Average Interest Rate (%)
-------- -------- -------- -------- -------- --------
Balance Balance
ASSETS:
Interest Earning Balances $ 56,211 $ 1,961 4.66% $ 46,956 $ 1,894 5.39%
Investment Securities:
Taxable 23,490 752 4.28% 24,782 873 4.71%
Tax-Exempt 27,990 1,454 6.94% 29,726 1,533 6.90%
-------- --------
Total Investment Securities 51,480 54,508
-------- --------
Federal Funds Sold -- -- 0.00% 624 33 7.07%
Loans and Leases, Net:
Taxable 387,194 19,877 6.86% 356,579 19,357 7.26%
Tax-Exempt 8,487 453 7.13% 9,048 521 7.70%
-------- --------
Total Loans and Leases, Net 395,681 365,627
--------------------- --------------------
Total Earning Assets 503,372 24,497 6.50% 467,715 24,211 6.92%
-------- --------
Cash and Due from Banks 7,826 7,559
Other Assets 21,717 20,915
-------- --------
Total Assets $532,915 $496,189
======== ========
LIABILITIES & STOCKHOLDERS' EQUITY:
Interest Bearing Deposits:
NOW $ 36,265 86 0.32% $ 35,048 104 0.40%
Money Market 67,592 1,063 2.10% 63,927 1,680 3.51%
Savings 25,749 50 0.26% 26,067 57 0.29%
Time 227,488 7,424 4.36% 203,117 6,730 4.43%
Short-term Borrowings 30,533 557 2.44% 22,528 649 3.85%
Long-term Debt 52,038 2,030 5.21% 56,908 2,165 5.09%
--------------------- --------------------
Total Interest Bearing Liabilities 439,665 11,210 3.41% 407,595 11,385 3.73%
-------- --------
Demand Deposits 46,571 44,021
Other Liabilities 6,252 5,696
Stockholders' Equity 40,427 38,877
-------- --------
Total Liabilities and Stockholders' Equity $532,915 $496,189
======== ========
Net Interest Income $ 13,287 $ 12,826
======== ========
Net Yield on Interest Earning Assets:
Total Yield on Earning Assets 6.50% 6.92%
Rate on Supporting Liabilities 3.41% 3.73%
Average Interest Spread 3.09% 3.19%
Net Interest Margin 3.53% 3.67%
For the nine months ended September 30, 2008, Mid Penn's taxable-equivalent net
interest margin declined to 3.53% from 3.67% during the nine months ended
September 30, 2007, driven primarily by the recent reduction in interest rates
and the tightening spread between the yield on earning assets and the cost of
supporting liabilities. In spite of this margin compression, net interest
income, on a taxable-equivalent basis, in the first nine months of 2008
increased to $13,287,000 from $12,826,000 in the first nine months of 2007, due
to the strong growth in average earning assets, which increased 7.62% from
September 30, 2007.
15
Although the effective interest rate impact on earning assets and funding
sources can be reasonably estimated at current interest rate levels, the options
selected by customers, and the future mix of the loan, investment and deposit
products in the Bank's portfolios, may significantly change the estimates used
in the simulation models. In addition, our net interest income may be impacted
by further interest rate actions of the Federal Reserve Bank.
PROVISION FOR LOAN LOSSES
The provision for loan and lease losses is the expense necessary to maintain the
allowance for loan and lease losses at a level adequate to absorb management's
estimate of probable losses in the loan and lease portfolio. Mid Penn's
provision for loan and lease losses is based upon management's quarterly review
of the loan portfolio. The purpose of the review is to assess loan quality,
identify impaired loans and leases, analyze delinquencies, ascertain loan and
lease growth, evaluate potential charge-offs and recoveries, and assess general
economic conditions in the markets we serve.
During the third quarter of 2008, we continued to experience a challenging
operating environment. Given the economic pressures that impact some of our
borrowers, we have increased our allowance for loan and lease losses in
accordance with our assessment process, which took into consideration our
increase in nonperforming loans from September 30, 2007. The provision for loan
and lease losses was $530,000 for the nine months ended September 30, 2008, as
compared to $375,000 for the nine months ended September 30, 2007. For further
discussion of factors affecting the provision for loan and lease losses please
see Credit Quality, Credit Risk, and Allowance for Loan and Lease Losses in the
Financial Condition section of this Management Discussion and Analysis.
NONINTEREST INCOME
Noninterest income increased by $249,000 or 33.2% during the third quarter of
2008 versus the third quarter of 2007. During the first nine months of 2008,
noninterest income increased $347,000 or 14.1% over the same period in 2007. The
net increases were a result of increases in the following components of
noninterest income:
(Dollars in thousands) Three Months Ended September 30,
--------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
Service charges on deposits $ 455 $ 386 $ 69 17.9%
Miscellaneous income 132 - 132 100.0%
(Dollars in thousands) Nine Months Ended September 30,
-------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
Service charges on deposits $ 1,303 $ 1,115 $ 188 16.9%
Retail investment sales commissions 151 121 30 24.8%
ATM and debit card income 358 320 38 11.9%
Miscellaneous income 167 48 119 247.9%
The increases in service charges on deposits in both the three-month and
nine-month periods reflect an increase in Mid Penn's overdraft fee during the
first quarter of 2008. The jump in miscellaneous income is the result of the
loan discount on the purchased loans from the Omega branch acquisition being
incorrectly treated as a premium. This income represents the aggregate entry
necessary to correct the cumulative accounting for these loan pools. Both
increases in retail investment sales commissions and ATM and debit card income
reflect the successful expansion of services in these areas. The costs
associated with the expanding ATM and debit card programs are reflected below.
16
NONINTEREST EXPENSES
Noninterest expenses increased by $475,000 or 15.6% during the third quarter of
2008, versus the same period in 2007. During the first nine months of 2008,
noninterest expenses increased $908,000 or 9.5% over the same period in 2007.
The net increases were a result of (increases) decreases in the following
components of noninterest expense:
(Dollars in thousands) Three Months Ended September 30,
--------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
Salaries and employee benefits $ 1,832 $ 1,670 $ (162) -9.7%
Occupancy expense 227 202 (25) -12.4%
Professional fees 220 105 (115) -109.5%
Advertising expense 155 86 (69) -80.2%
Check fraud 43 12 (31) -258.3%
(Dollars in thousands) Nine Months Ended September 30,
-------------------------------
2008 2007 $ Variance % Variance
---- ---- ---------- ----------
Salaries and employee benefits $ 5,428 $ 4,982 $ (446) -9.0%
Occupancy expense 754 640 (114) -17.8%
Pennsylvania Bank Shares tax expense 277 246 (31) -12.6%
ATM and debit card processing expense 142 112 (30) -26.8%
Professional fees 516 425 (91) -21.4%
Advertising expense 337 311 (26) -8.4%
Check and debit card fraud 110 30 (80) -266.7%
The increases in salaries and employee benefits reflect the impact of the
current initiative to add talented team members throughout the organization to
position Mid Penn for handling current needs and future growth. Increased
occupancy expenses reflect the first full year of operation of our Camp Hill
office, opened in September of 2007. Advertising expenses are higher in 2008 as
we promote our 140th anniversary. During the third quarter of 2008, Mid Penn
experienced increasing incidents of substantially overdrawn deposit accounts and
check fraud resulting in increased write-offs when compared to the same period
in 2007. Professional Fees have increased in 2008 due to increased legal
expenses surrounding loan workout activities.
FINANCIAL CONDITION
INVESTMENT SECURITIES
Securities to be held for indefinite periods of time, but not intended to be
held to maturity, are classified as available for sale and carried at fair
value. Securities held for indefinite periods of time include securities that
management intends to use as part of its asset and liability management strategy
and that may be sold in response to changes in interest rates, resultant
prepayment risk, and other factors related to interest rate and resultant
prepayment risk changes.
Realized gains and losses on dispositions are based on the net proceeds and the
adjusted book value of the securities sold, using the specific identification
method. Unrealized gains and losses on investment securities available for sale
are based on the difference between book value and fair value of each security.
These gains and losses are credited or charged to other comprehensive income,
whereas realized gains and losses flow through the Corporation's results of
operations.
Interest-bearing balances with other financial institutions is comprised mainly
of certificates of deposit in other financial institutions. All of these
investments are fully covered by FDIC Insurance.
17
As of September 30, 2008 and December 31, 2007, all of Mid Penn's investment
securities are classified as available-for-sale, with the stratification noted
in the table below:
(Dollars in thousands) September 30, 2008 December 31,2007
----------------------------------- -----------------------------------
Amortized Cost Fair Value Amortized Cost Fair Value
----------------------------------- -----------------------------------
Available-for-sale:
U.S. Government agencies $ 13,365 $ 13,155 $ 12,044 $ 12,063
Mortgage-backed U.S. government agencies 4,614 4,668 6,862 6,858
State and political subdivision obligations 25,301 25,395 30,437 31,088
Restricted equity securities 4,313 4,299 4,072 4,063
----------------------------------- -----------------------------------
Total investment securities $ 47,593 $ 47,517 $ 53,415 $ 54,072
=================================== ===================================
At December 31, 2007, fair value exceeded amortized cost by $657,000 and at
September 30, 2008, amortized cost exceeded fair value by $76,000. In
shareholders' equity, the balance of accumulated other comprehensive income
decreased to $(200,000) at September 30, 2008 from $284,000 at December 31,
2007.
CREDIT QUALITY, CREDIT RISK AND ALLOWANCE FOR LOAN AND LEASE LOSSES
During the first nine months of 2008, Mid Penn had net charge-offs of $253,000
as compared to net charge-offs of $121,000 during the same period of 2007. We
may need to make future adjustments to the allowance, and the provision for loan
and lease losses, if economic conditions or loan credit quality differs
substantially from the assumptions used in making our evaluation of the level of
the allowance for loan losses as compared to the balance of outstanding loans.
ANALYSIS OF THE ALLOWANCE FOR LOAN AND LEASE LOSSES:
(Dollars in thousands) Nine Months Ended Nine Months Ended
----------------- -----------------
September 30, 2008 September 30, 2007
------------------ ------------------
Average total loans outstanding (net of unearned income) $ 395,681 $ 365,627
Period ending total loans outstanding (net of unearned income) $ 424,450 $ 372,355
Balance, beginning of period $ 4,790 $ 4,187
Loans charged off during period (352) (251)
Recoveries of loans previously charged off 99 130
---------- ----------
Net chargeoffs (253) (121)
---------- ----------
Provision for loan and lease losses 530 375
---------- ----------
Balance, end of period $ 5,067 $ 4,441
========== ==========
Ratio of net loans charged off to average loans outstanding (annualized) 0.09% 0.04%
Ratio of allowance for loan losses to net loans at end of period 1.19% 1.19%
Other than as described herein, we do not believe there are any trends, events
or uncertainties that are reasonably expected to have a material impact on
future results of operations, liquidity or capital resources. Further, based on
known information, we believe that the effects of current and past economic
conditions and other unfavorable business conditions may impact certain
borrowers' abilities to comply with their repayment terms. We continue to
closely monitor these borrowers' financial strength.
18
At September 30, 2008, total nonperforming loans amounted to $4,029,000, or .95%
of loans and leases net of unearned income, as compared to levels of $4,317,000,
or 1.14%, at December 31, 2007 and $2,350,000, or .63%, at September 30, 2007.
SCHEDULE OF NONPERFORMING ASSETS:
(Dollars in thousands)
September 30, 2008 December 31, 2007 September 30, 2007
------------------ ----------------- ------------------
Nonperforming Assets:
Nonaccrual loans $ 3,978 $ 4,317 $ 2,350
Loans renegotiated with borrowers 51 -- --
------------------ ----------------- ------------------
Total nonperforming loans 4,029 4,317 2,350
Foreclosed real estate 1,374 529 445
Other repossessed property -- 58 --
------------------ ----------------- ------------------
Total non-performing assets 5,403 4,904 2,795
Accruing loans 90 days or more past due 3,971 2,439 982
------------------ ----------------- ------------------
Total risk elements $ 9,374 $ 7,343 $ 3,777
================== ================= ==================
Nonperforming loans as a % of total
loans outstanding 0.95% 1.14% 0.63%
Nonperforming assets as a % of total
loans outstanding + other real estate 1.27% 1.30% 0.75%
Ratio of allowance for loan losses
to nonperforming loans 125.76% 110.96% 188.98%
Mid Penn considers a loan or lease to be impaired when, based upon current
information and events, it is probable that all interest and principal payments
due according to the contractual terms of the loan or lease agreement will not
be collected. An insignificant delay or shortfall in the amounts of payments
would not cause a loan or lease to be considered 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
or lease 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. Larger groups of small-balance
loans, such as residential mortgages and consumer installment loans, are
collectively evaluated for impairment. Accordingly, individual consumer and
residential loans are not separately identified for impairment disclosures
unless such loans are the subject of a restructuring agreement. As previously
discussed in Note 10 to the consolidated financial statements, Mid Penn
determines the fair value of impaired loans on a case-by-case basis based
primarily upon the fair value of the underlying collateral using Level 3 inputs
comprised of customized collateral value discounting analyses. As of September
30, 2008, only the loans that were not accruing interest were considered to be
impaired.
Mid Penn maintains the allowance for loan losses at a level believed adequate to
absorb estimated probable loan losses. We are responsible for the adequacy of
the allowance for loan losses, which is formally reviewed on a quarterly basis.
The allowance is increased by a provision for loan and lease losses, which is
charged to expense, and reduced by charge-offs, net recoveries. The evaluation
of the adequacy of the allowance is based on our past loan loss experience,
known and inherent risks in the portfolio, adverse situations that may affect
the borrower's ability to repay (including the timing of future payments), the
estimated value of any underlying collateral, composition of the loan portfolio,
current economic conditions and other relevant factors. While we use available
information to make such evaluations, future adjustments to the allowance may be
necessary if economic conditions differ substantially from the assumptions used
in making the evaluation.
19
Various regulatory agencies, as an integral part of their examination process,
review the Bank's allowance for loan losses. Such agencies may require us to
recognize additions to the allowance based on their judgment of information
available to them at the time of their examination. No adjustment to the
allowance for loan losses was necessary as a result of our most recent
regulatory examination.
Management believes, based on information currently available, that the current
allowance for loan and lease losses of $5,067,000 is adequate to meet potential
loan and lease losses.
INCOME TAXES
The provision for income taxes was $368,000 for the three months ended September
30, 2008, as compared to $372,000 the same period of last year. The effective
tax rate as of September 30, 2008 was 24.8%. Generally, our effective tax rate
is below the statutory rate due to earnings on tax-exempt loans, investments,
and bank-owned life insurance, and the impact of tax credits. The realization of
deferred tax assets is dependent on future earnings. As a result of Mid Penn's
adoption of FIN 48 and FIN 48-1 effective January 1, 2007, no significant income
tax uncertainties were identified, therefore, Mid Penn recognized no adjustment
for unrealized income tax benefits for the periods ended September 30, 2008 and
December 31, 2007. We currently anticipate that future earnings will be adequate
to fully utilize deferred tax assets.
LIQUIDITY
Mid Penn Bank's objective is to maintain adequate liquidity to meet funding
needs at a reasonable cost and to provide contingency plans to meet
unanticipated funding needs or a loss of funding sources, while minimizing
interest rate risk. Adequate liquidity provides resources for credit needs of
borrowers, for depositor withdrawals and for funding corporate operations.
Sources of liquidity are as follows:
o Agrowing core deposit base;
o Proceeds from the sale or maturity of investment securities;
o Proceeds from certificates of deposit in other financial institutions;
o Payments received on loans and mortgage-backed securities; and,
o Overnight correspondent bank borrowings on various credit lines, and
borrowing capacity available from the FHLB.
We believe that our core deposits are fairly stable even in periods of changing
interest rates like we are currently experiencing. Liquidity and funds
management are governed by policies and are measured on a monthly basis. These
measurements indicate that liquidity generally remains stable and exceeds our
minimum defined levels of adequacy. Other than the trends of continued
competitive pressures and volatile interest rates, there are no known demands,
commitments, events or uncertainties that will result in, or that are reasonably
likely to result in, liquidity increasing or decreasing in any material way.
20
CAPITAL
Mid Penn Bancorp, Inc. is a financial holding company and, as such, chooses to
maintain a well-capitalized status in its bank subsidiary. Quantitative measures
established by regulation to ensure capital adequacy require Mid Penn to
maintain minimum amounts and ratios (set forth below) of Tier 1 capital to
average assets and of total capital (as defined in the regulations) to
risk-weighted assets. As of September 30, 2008 and December 31, 2007, Mid Penn
met all capital adequacy requirements to which the Bank is subject, and the Bank
is considered "well-capitalized". Management is not aware of any current
recommendations by regulatory authorities, which, if implemented, would have a
material effect on Mid Penn's liquidity, capital resources or operations.
Mid Penn maintained the following regulatory capital levels and leverage and
risk-based capital ratios in its bank subsidiary as of September 30, 2008, and
December 31, 2007, as follows:
(Dollars in thousands) September 30, 2008 December 31, 2007
-------------------- ------------------
Amount % Amount %
------ ----- ------ -----
Leverage Ratio:
Tier I capital to average total assets $ 39,416 7.30% $ 38,591 7.67%
Minimum required for capital adequacy
purposes 21,588 4.00% 20,115 4.00%
To be well-capitalized under prompt
corrective action provisions 26,985 5.00% 25,144 5.00%
Risk-based Capital Ratios:
Tier I capital ratio - actual 39,416 9.15% 38,591 9.46%
Minimum required for capital adequacy
purposes 17,222 4.00% 16,326 4.00%
To be well-capitalized under prompt
corrective action provisions 25,834 6.00% 24,489 6.00%
Total capital ratio - actual 44,483 10.33% 43,381 10.63%
Minimum required for capital adequacy
purposes 34,445 8.00% 32,652 8.00%
To be well-capitalized under prompt
corrective action provisions 43,056 10.00% 40,815 10.00%
RECENT DEVELOPMENTS
The global and U.S. economies are experiencing significantly reduced business
activity as a result of, among other factors, disruptions in the financial
system during the past year. Dramatic declines in the housing market during the
past year, with falling home prices and increasing foreclosures and
unemployment, have resulted in significant write-downs of asset values by
financial institutions, including government-sponsored entities and major
commercial and investment banks. These write-downs, initially of mortgage-backed
securities but spreading to credit default swaps and other derivative securities
have caused many financial institutions to seek additional capital, to merge
with larger and stronger institutions and, in some cases, to fail.
Reflecting concern about the stability of the financial markets generally and
the strength of counterparties, many lenders and institutional investors have
reduced, and in some cases, ceased to provide funding to borrowers, including
other financial institutions. The availability of credit, confidence in the
financial sector, and level of volatility in the financial markets have been
significantly adversely affected as a result. In recent weeks, volatility and
disruption in the capital and credit markets has reached unprecedented levels.
In some cases, the markets have produced downward pressure on stock prices and
credit capacity for certain issuers without regard to those issuers' underlying
financial strength.
21
In response to the financial crises affecting the banking system and financial
markets and going concern threats to investment banks and other financial
institutions, on October 3, 2008, the Emergency Economic Stabilization Act of
2008 (the "EESA") was signed into law. Pursuant to the EESA, the U.S. Treasury
will have the authority to, among other things, purchase up to $700 billion of
mortgages, mortgage-backed securities and certain other financial instruments
from financial institutions for the purpose of stabilizing and providing
liquidity to the U.S. financial markets. The EESA included a provision for a
temporary increase in FDIC insurance from $100,000 to $250,000 per depositor
through December 31, 2009.
On October 14, 2008, Secretary Paulson, after consulting with the Federal
Reserve and the FDIC, announced that the Department of the Treasury will
purchase equity stakes in a wide variety of banks and thrifts. Under this
program, known as the Troubled Asset Relief Program ("TARP") Capital Purchase
Program, from the $700 billion authorized by the EESA, the Treasury will make
$250 billion of capital available to U.S. financial institutions in the form of
preferred stock. In conjunction with the purchase of preferred stock, the
Treasury will receive warrants to purchase common stock with an aggregate market
price equal to 15% of the preferred investment. Participating financial
institutions will be required to adopt the Treasury's standards for executive
compensation and corporate governance for the period during which the Treasury
holds equity issued under TARP Capital Purchase Program.
Also on October 14, 2008, after receiving a recommendation from the boards of
the FDIC and the Federal Reserve, and consulting with the President, Secretary
Paulson signed the systemic risk exception to the FDIC Act, enabling the FDIC to
temporarily provide a 100% guarantee of the senior debt of all FDIC-insured
institutions and their holding companies, as well as deposits in non-interest
bearing transaction deposit accounts under a Temporary Liquidity Guarantee
Program. Coverage under the Temporary Liquidity Guarantee Program is available
until November 12, 2008 without charge and thereafter at a cost of 75 basis
points per annum for senior unsecured debt and 10 basis points per annum for
non-interest bearing transaction deposits. [The Corporation is assessing its
participation in both TARP Capital Purchase Program and the Temporary Liquidity
Guarantee Program but has not yet made a definitive decision as to whether it
will participate.]
It is not clear at this time what impact the EESA, TARP Capital Purchase
Program, the Temporary Liquidity Guarantee Program, other liquidity and funding
initiatives of the Federal Reserve and other agencies that have been previously
announced, and any additional programs that may be initiated in the future will
have on the financial markets and the other difficulties described above,
including the extreme levels of volatility and limited credit availability
currently being experienced, or on the U.S. banking and financial industries and
the broader U.S. and global economies. Further adverse effects could have an
adverse effect on the Corporation and its business.
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is defined as the exposure to interest rate risk, foreign currency
exchange rate risk, commodity price risk, and other relevant market rate or
price risks. For domestic banks, the majority of market risk is related to
interest rate risk.
Interest rate sensitivity management requires the maintenance of an appropriate
balance between interest sensitive assets and liabilities. Interest bearing
assets and liabilities that are maturing or repricing should be adequately
balanced to avoid fluctuating net interest margins and to enhance consistent
growth of net interest income through periods of changing interest rates. Mid
Penn has consistently followed a strategy of pricing assets and liabilities
according to prevailing market rates while largely matching maturities, within
the guidelines of sound marketing and competitive practices. Rate sensitivity is
measured by monthly gap analysis, quarterly rate shocks, and periodic
simulation.
No material changes in the market risk strategy occurred during the current
period and no material changes have been noted in the Corporation's equity value
at risk. A detailed discussion of market risk is provided in the Form 10-K for
the year ended December 31, 2007. Mid Penn enjoys a closely balanced position
that does not place it at undue risk under any interest rate scenario. Deposit
dollars in transaction accounts are discretionarily priced so management
maintains significant pricing flexibility.
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ITEM 4 - CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Mid Penn maintains controls and procedures designed to ensure that information
required to be disclosed in the reports that the Corporation files or submits
under the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the
Securities and Exchange Commission. Based upon their evaluation of those
controls and procedures as of September 30, 2008, the Corporation's Chief
Executive Officer and Chief Financial Officer concluded that the disclosure
controls and procedures were adequate.
CHANGES IN INTERNAL CONTROLS
During the three months ended September 30, 2008, there were no changes in Mid
Penn's internal controls over financial reporting that have materially affected,
or are reasonable likely to materially affect, these controls.
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PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
Management is not aware of any litigation that would have a material adverse
effect on the consolidated financial position of Mid Penn. There are no
proceedings pending other than the ordinary routine litigation incident to the
business of Mid Penn. In addition, management does not know of any material
proceedings contemplated by governmental authorities against the Corporation or
any of its properties.
ITEM 1A - RISK FACTORS
There have been no material changes to the risk factors described in our Annual
Report on Form 10-K for the year ended December 31, 2007.
THE SOUNDNESS OF OTHER FINANCIAL INSTITUTIONS MAY ADVERSELY AFFECT US.
Financial services institutions are interrelated as a result of trading,
clearing, counterparty, or other relationships. The Corporation has exposure to
many different industries and counterparties, and routinely executes
transactions with counterparties in the financial services industry, including
commercial banks, brokers and dealers, investment banks, and other institutional
clients. Many of these transactions expose the Corporation to credit risk in the
event of a default by a counterparty or client. In addition, the Corporation's
credit risk may be exacerbated when the collateral held by the Corporation
cannot be realized upon or is liquidated at prices not sufficient to recover the
full amount of the credit or derivative exposure due to the Corporation. Any
such losses could have a material adverse affect on the Corporation's financial
condition and results of operations.
CURRENT LEVELS OF MARKET VOLATILITY ARE UNPRECEDENTED AND MAY HAVE MATERIALLY
ADVERSE EFFECTS ON OUR LIQUIDITY AND FINANCIAL CONDITION.
The capital and credit markets have been experiencing extreme volatility and
disruption for more than 12 months. In recent weeks, the volatility and
disruption have reached unprecedented levels. In some cases, the markets have
exerted downward pressure on stock prices, security prices and credit capacity
for certain issuers without regard to those issuers' underlying financial
strength. If the current levels of market disruption and volatility continue or
worsen, there can be no assurance that we will not experience adverse effects,
which may be material, on our liquidity, financial condition and profitability.
ITEM 2 - UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
In September of 2005, Mid Penn Bancorp's Board of Directors approved a Stock
Repurchase Program under which the Corporation could buy back up to 250,000
shares of Mid Penn Bancorp, Inc. common stock. The Board of Directors, at their
June 25, 2008 meeting, voted to end the Stock Repurchase Program effective June
30, 2008. During the Stock Repurchase Program, 34,504 shares had been
repurchased at an average price of $24.75 per share.
On October 10, 2008, Mid Penn Bancorp's Board of Directors approved a Stock
Repurchase Program under which the Corporation could buy back, in open market
and privately negotiated transactions, up to 50,000 shares of Mid Penn Bancorp,
Inc. common stock.
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES
None
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ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5 - OTHER INFORMATION
None
ITEM 6 - EXHIBITS
o Exhibit No. 3(i) - The Registrant's Articles of Incorporation.
(Incorporated by reference to Registrant's Annual Report on form 10-K filed
with the Securities and Exchange Commission on March 10, 2008.)
o Exhibit 3(ii) - The Registrant's By-laws. (Incorporated by reference to
Registrant's Annual Report on form 10-K filed with the Securities and
Exchange Commission on March 10, 2008.)
o Exhibit 10.1 - Mid Penn Bank's Profit Sharing Retirement Plan.
(Incorporated by reference to Registrant's Annual Report on form 10-K filed
with the Securities and Exchange Commission on March 10, 2008.)
o Exhibit 10.2 - Mid Penn Bank's Employee Stock Ownership Plan. (Incorporated
by reference to Registrant's Annual Report on form 10-K filed with the
Securities and Exchange Commission on March 10, 2008.)
o Exhibit 10.3 - The Registrant's Dividend Reinvestment Plan, as amended and
restated. (Incorporated by reference to Registrant's Registration Statement
on Form S-3, filed with the Securities and Exchange Commission on October
12, 2005.)
o Exhibit 10.4 - Salary Continuation Agreement between Mid Penn Bank and Alan
W. Dakey. (Incorporated by reference to Registrant's Annual Report on form
10-K filed with the Securities and Exchange Commission on March 28, 2003.)
o Exhibit 10.5 - Split Dollar Agreement between Mid Penn Bank and Eugene F.
Shaffer. (Incorporated by reference to Registrant's Annual Report on Form
10-K filed with the Securities and Exchange Commission on March 14, 2005.)
o Exhibit 10.6 - Death Benefit Plan and Agreement between Mid Penn Bank and
the Trustee of the Eugene F. Shaffer Irrevocable Trust. (Incorporated by
reference to Registrant's Annual Report on Form 10-K filed with the
Securities and Exchange Commission on March 14, 2005.)
o Exhibit 10.7 - Executive Employment Agreement between Mid Penn Bank and
Alan W. Dakey dated as of August 31, 2007. Incorporated by reference to
Registrant's Current Report on Form 8-K filed with the Securities and
Exchange Commission on August 6, 2007.)
o Exhibit 10.8 - Key Executive Management Change of Control between Mid Penn
Bancorp, Inc. and Kevin W. Laudenslager dated as of April 1, 2008.
(Incorporated by reference to Registrant's Current Report on form 8-K filed
with the Securities and Exchange Commission on April 4, 2008.)
o Exhibit 10.9 - Revised Directors' Retirement Plan (Incorporated by
reference to Registrant's Quarterly Report on Form 10-Q filed with the
Securities and Exchange Commission on May 8, 2008.)
o Exhibit 10.10 - Executive Deferred Compensation Agreement by and between
Mid Pen Bank and Alan W. Dakey dated as of July 24, 2002.
o Exhibit 10.11 - Split Dollar Agreement between Mid Penn Bank and Alan W.
Dakey effective January 1, 1999.
o Exhibit 10.12 - Executive Deferred Bonus Agreement between Mid Penn Bank
and Alan W. Dakey dated as of January 15, 1999.
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o Exhibit 10.13 - Amended and Restated Director Deferred Fee Agreement
effective January 1, 2005 between Mid Penn Bank and Alan W. Dakey.
o Exhibit 11.1 - Statement regarding the computation of Per Share Earnings.
(Included in body of 10-Q.)
o Exhibit No. 31.1 - Certification of Principal Executive Officer Pursuant to
Exchange Act Rules 13a-14(a)/15d-14(a) as added by Section 302 of the
Sarbanes-Oxley Act of 2002
o Exhibit No. 31.2 - Certification of Principal Financial Officer Pursuant to
Exchange Act Rules 13a-14(a)/15d-14(a) as added by Section 302 of the
Sarbanes-Oxley Act of 2002
o Exhibit No. 32 - Certification of Principal Executive Officer and Principal
Financial Officer Pursuant to 18 U.S.C. Section 1350 as added by Section
906 of the Sarbanes-Oxley Act of 2002
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Mid Penn Bancorp, Inc.
(Registrant)
By /s/ Edwin D. Schlegel
--------------------------------
Edwin D. Schlegel
Interim President and CEO
(Principal Executive Officer)
Date: November 5, 2008
By /s/ Kevin W. Laudenslager
--------------------------------
Kevin W. Laudenslager
Treasurer
(Principal Financial and
Accounting Officer)
Date: November 5, 2008
27