Item 1. Description of Business
THE COMPANY
Premier Financial Bancorp, Inc. (the "Company" or "Premier") is a multi-bank holding company that, as of March 16, 2002, operates sixteen banking offices in Kentucky, four banking offices in Ohio, and six banking offices in West Virginia. At December 31, 2001, Premier had total consolidated assets of $711.8 million, total consolidated deposits of $570.5 million and total consolidated shareholders' equity of $59.9 million. The banking subsidiaries (the "Banks" or "Affiliate Banks") consist of Citizens Deposit Bank & Trust, Vanceburg, Kentucky; Bank of Germantown, Germantown, Kentucky, Citizens Bank (Kentucky), Inc., Georgetown, Kentucky; Farmers Deposit Bank, Eminence, Kentucky; Ohio River Bank, Ironton, Ohio; First Central Bank, Inc., Philippi, West Virginia; and Boone County Bank, Inc., Madison, West Virginia.
In 2000 Premier suspended its acquisition strategy in order to focus on improving operations, strengthening capital and management oversight and improving profitability at the banks previously acquired. As part of this change in strategy Premier elected to dispose of two of its subsidiary banks, the Bank of Mt. Vernon and The Sabina Bank. These disposals were completed in 2001. While Premier remains committed to its core strategy of rural banking with community oriented and named institutions, the Company may dispose of additional corporate assets that no longer meet Premier's geographic or operational performance goals.
During October 2001, the Company appointed Robert Walker to the position of President and Chief Executive Officer to replace the retiring Gardner Daniel. During February 2002, the Company's CFO left the Company. A search is underway for a replacement.
Premier is a legal entity separate and distinct from its Affiliate Banks and nonbank subsidiaries. Accordingly, the right of Premier, and thus the right of Premier's creditors and shareholders, to participate in any distribution of the assets or earnings of any of the Affiliate Banks or nonbank subsidiaries is necessarily subject to the prior claims of creditors of such subsidiaries, except to the extent that claims of Premier, in its capacity as a creditor, may be recognized. The principal source of Premier's revenue is dividends from its Affiliate Banks and nonbank subsidiaries. See "REGULATORY MATTERS -- Dividend Restrictions" for discussion of the restrictions on the Affiliate Banks' ability to pay dividends to Premier.
Premier was incorporated as a Kentucky corporation in 1991 and has functioned as a bank holding company since its formation. Premier's principal executive offices are located at 115 North Hamilton Street, Georgetown, Kentucky 40324, and its telephone number is (502) 863-1955.
BUSINESS General
Through the Banks and its data processing subsidiary, the Company focuses on providing quality, community banking services to individuals and small-to medium sized businesses primarily in non-urban areas. By seeking to provide such banking services in non-urban areas, the Company believes that it can minimize the competitive effect of larger financial institutions that typically are focused on large metropolitan areas. Through its experiences in acquiring its Banks, the Company has developed and implemented a strategy of joining together community banks that retain their commitment to local orientation and direction, while having the benefit of the Company's capital for growth and staff assistance to promote safety, soundness and regulatory compliance. Each Bank is managed on a decentralized basis that offers customers direct access to the Bank's president and other officers in an environment conducive to friendly, informed and courteous service. This decentralized approach also enables each Bank to offer local and timely decision-making, and flexible and reasonable operating procedures and credit policies limited only by a framework of centralized risk controls provided by the Company to promote prudent banking practices. Each Bank maintains its community orientation by,
among other things, having selected members of its community as members of its board of directors, who assist in the introduction of prospective customers to the Bank and in the development or modification of products and services to meet customer needs. As a result of the development of personal banking relationships with its customers and the convenience and service offered by the Banks, the Banks' lending and investing activities are funded primarily by core deposits.
When appropriate and economically advantageous, the Company centralizes certain of the Banks' back office, support and investment functions in order to achieve consistency and cost efficiency in the delivery of products and services. The Company centrally provides services such as data processing, operations support, accounting, loan review, compliance and internal auditing to the Banks to enhance their ability to compete effectively. The Company also provides overall direction in the areas of credit policy and administration, strategic planning, marketing, investment portfolio management and other financial and administrative services. Each Bank participates in product development by advising management of new products and services needed by their customers and desirable changes to existing products and services.
Each of the Banks provides a wide range of retail and commercial banking services, including commercial, real estate, agricultural and consumer lending; depository and funds transfer services; collections; safe deposit boxes; cash management services; and other services tailored for both individuals and businesses. Farmers Deposit Bank in Eminence, Kentucky, also offers limited trust services and acts as executor, administrator, trustee and in various other fiduciary capacities. Through Premier Data Services, Inc., the Company's data processing subsidiary, the Company currently provides centralized data processing services to six of the Banks as well as one non-affiliated bank.
The Banks' residential mortgage lending activities consist primarily of loans for purchasing personal residences or loans for commercial or consumer purposes secured by residential mortgages. Consumer lending activities consist of traditional forms of financing for automobile and personal loans.
The Banks' range of deposit services includes checking accounts, NOW accounts, savings accounts, money market accounts, club accounts, individual retirement accounts, certificates of deposit and overdraft protection. Deposits of the Banks are insured by the Bank Insurance Fund administered by the FDIC.
Competition
The Banks encounter strong competition both in making loans and attracting deposits. The deregulation of the banking industry and the widespread enactment of state laws that permit multi-bank holding companies as well as the availability of nationwide interstate banking have created a highly competitive environment for financial services providers. In one or more aspects of its business, each Bank competes with other commercial banks, savings and loan associations, credit unions, finance companies, mutual funds, insurance companies, brokerage and investment banking companies and other financial intermediaries operating in its market and elsewhere, many of which have substantially greater financial and managerial resources. Being smaller financial institutions, each of the Banks' competitors include large bank holding companies having substantially greater resources and offer certain services that Premier Banks may not currently provide. Each Bank seeks to minimize the competitive effect of larger financial institutions through a community banking approach that emphasizes direct customer access to the Bank's president and other officers in an environment conducive to friendly, informed and courteous service.
Management believes that each Bank is positioned to compete successfully in its respective primary market area, although no assurances can be given. Competition among financial institutions is based upon interest rates offered on deposit accounts, interest rates charged on loans and other credit and service charges, the quality and scope of the services rendered, the convenience of the banking facilities and, in the case of loans to commercial borrowers, relative lending limits. Management believes that the commitment of its Banks to personal service, innovation and involvement in their respective communities and primary market areas, as well as their commitment to quality community banking service, are factors that contribute to their competitiveness.
Regulatory Matters
The following discussion sets forth certain elements of the regulatory framework applicable to bank holding companies and their subsidiaries and provides certain specific information relevant to Premier. This regulatory framework is intended primarily for the protection of depositors and the federal deposit insurance funds and not for the protection of the holders of securities, including Premier Common Shares. To the extent that the following information describes statutory or regulatory provisions, it is qualified in its entirety by reference to those provisions. A change in the statutes, regulations or regulatory policies applicable to Premier or its subsidiaries may have a material effect on the business of Premier.
General - As a bank holding company, Premier is subject to regulation under the Bank Holding Company Act ("BHC Act"), and to inspection, examination and supervision by the Board of Governors of the Federal Reserve System ("Federal Reserve"). Under the BHC Act, bank holding companies generally may not acquire ownership or control of more than 5% of the voting shares or substantially all the assets of any company, including a bank, without the Federal Reserve's prior approval. Similarly, bank holding companies generally may not acquire ownership or control of a savings association without the prior approval of the Federal Reserve. Further, branching by the Affiliate Banks is subject to the jurisdiction, and requires the approval, of each Affiliate Bank's primary federal banking regulator and, if the Affiliate Bank is a state-chartered bank, the appropriate state banking regulator.
Under the BHC Act, the Federal Reserve has the authority to require a bank holding company to terminate any activity or relinquish control of the nonbank subsidiary (other than a nonbank subsidiary of a bank) upon the Federal Reserve's determination that such activity or control constitutes a risk to the financial soundness and stability of any bank subsidiary of the bank holding company. Premier and the Affiliate Banks are subject to the Federal Reserve Act, which limits borrowings by Premier and its nonbank subsidiaries from the Affiliate Banks and also limits various other transactions between Premier and its nonbank subsidiaries with the Affiliate Banks.
The four Affiliate Banks chartered in Kentucky are supervised, regulated and examined by the Kentucky Department of Financial Institutions, the Affiliate Bank chartered in Ohio is supervised, regulated and examined by the Ohio Division of Financial Institutions, and the two Affiliate Banks chartered in West Virginia are supervised, regulated and examined by the West Virginia Division of Banking. In addition, those Affiliate Banks that are state banks and members of the Federal Reserve System are supervised and regulated by the Federal Reserve, and those state banks that are not members of the Federal Reserve System are supervised and regulated by the Federal Deposit Insurance Corporation ("FDIC"). Each banking regulator has the authority to issue cease-and-desist orders if it determines that the activities of a bank regularly represent an unsafe and unsound banking practice or a violation of law.
Both federal and state law extensively regulates various aspects of the banking business, such as reserve and capital requirements, truth-in-lending and truth-in-savings disclosure, equal credit opportunity, fair credit reporting, trading in securities and other aspects of banking operations. Premier, the Affiliate Banks and Premier's nonbank subsidiaries are also affected by the fiscal and monetary policies of the federal government and the Federal Reserve and by various other governmental laws, regulations and requirements. Further, the earnings of Premier and Affiliate Banks are affected by general economic conditions and prevailing interest rates. Legislation and administrative actions affecting the banking industry are frequently considered by the United States Congress, state legislatures and various regulatory agencies. It is not possible to predict with certainty whether such legislation or administrative actions will be enacted or the extent to which the banking industry, in general, or Premier and the Affiliate Banks, in particular, would be affected.
Liability for Bank Subsidiaries - The Federal Reserve has a policy to the effect that a bank holding company is expected to act as a source of financial and managerial strength to each of its subsidiary banks and to maintain resources adequate to support each such subsidiary bank. This support may be required at times when Premier may not have the resources to provide it. In the event of a bank holding company's bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank would be assumed by the bankruptcy trustee and entitled to priority of payment.
Any depository institution insured by the FDIC may be held liable for any loss incurred, or reasonably expected to be incurred, by the FDIC in connection with (i) the default of a commonly controlled FDIC-insured depository institution, or (ii) any assistance provided by the FDIC to a commonly controlled FDIC-insured depository institution in danger of default. "Default" is defined generally as the appointment of a conservator or receiver and "in danger of default" is defined generally as the existence of certain conditions indicating that a "default" is likely to occur in the absence of regulatory assistance. In the event that such a default occurred with respect to a bank, any loans to the bank from its parent holding company will be subordinate in right of payment of the bank's depositors and certain of its other obligations.
Capital Requirements - Premier is subject to capital ratios, requirements and guidelines imposed by the Federal Reserve, which are substantially similar to the ratios, requirements and guidelines imposed by the Federal Reserve and the FDIC on the banks within their respective jurisdictions. These capital requirements establish higher capital standards for banks and bank holding companies that assume greater credit risks. For this purpose, a bank's or holding company's assets and certain specified off-balance sheet commitments are assigned to four risk categories, each weighted differently based on the level of credit risk that is ascribed to such assets or commitments. A bank's or holding company's capital is divided into two tiers: "Tier I" capital, which includes common shareholders' equity, noncumulative perpetual preferred stock and related surplus (excluding auction rate issues), minority interests in equity accounts of consolidated subsidiaries, less goodwill, certain identifiable intangible assets and certain other assets; and "Tier 2" capital, which includes, among other items, perpetual preferred stock not meeting the Tier I definition, mandatory convertible securities, subordinated debt and allowances for loan and lease losses, subject to certain limitations, less certain required deductions.
Bank holding companies currently are required to maintain Tier I and total capital (the sum of Tier 1 and Tier 2 capital) equal to at least 4% and 8% of total risk-weighted assets, respectively. At December 31, 2001, Premier met both requirements, with Tier I and total capital equal to 13.4% and 16.6% of its total risk-weighted assets, respectively.
In addition to the risk-based capital guidelines, the Federal Reserve requires bank holding companies to maintain a minimum "leverage ratio" (Tier I capital to adjusted total assets) of 3%, if the holding company has the highest regulatory ratings for risk-based capital purposes and, accordingly, is required to maintain a minimum "leverage ratio" of 3%. All other bank holding companies are required to maintain a leverage ratio of 3% plus at least 100 to 200 basis points. At December 31, 2001, Premier's leverage ratio was 8.5%.
The foregoing capital requirements are minimum requirements. The Federal Reserve may set capital requirements higher than the minimums described above for holding companies whose circumstances warrant it. For example, holding companies experiencing or anticipating significant growth may be expected to maintain capital ratios, including tangible capital positions, well above the minimum levels.
Additionally, the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), among other things, identifies five capital categories for insured depository institutions (well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized) and requires the respective federal regulatory agencies to implement systems for "prompt corrective action" for insured depository institutions that do not meet minimum capital requirements within such categories. FDICIA imposes progressively more restrictive constraints on operations, management and capital distributions, depending on the category in which an institution is classified. Failure to meet the capital guidelines could also subject a banking institution to capital raising requirements.
An "undercapitalized" bank must develop a capital restoration plan and its parent holding company must guarantee the bank's compliance with the plan. The liability of the parent holding company under any such guarantee is limited to the lesser of 5% of the Bank's assets at the time it became "undercapitalized" or the amount needed to comply with the plan. Furthermore, in the event of the bankruptcy of the parent holding company, such guarantee would take priority over the parent's general unsecured creditors. In addition, FDICIA requires the various regulatory agencies to prescribe certain non-capital standards for safety and executive compensation and permits regulatory action against a financial institution that does not meet such standards.
Regulatory Agreements - On September 29, 2000, the Company entered into an agreement with the Federal Reserve that prohibits the company from paying dividends or incurring any additional debt without the prior written approval of the Federal Reserve. Additionally, the agreement requires the company to develop and monitor compliance with certain operational policies designed to strengthen Board of Director oversight including credit administration, liquidity, internal audit and loan review.
Two of the Banks, Citizens Deposit Bank & Trust and Bank of Germantown, have entered into similar agreements with their respective primary regulator which, among other things, prohibits the payment of dividends without prior written approval and requires significant changes in their lending and credit administration policies.
These agreements, which require periodic reporting, will remain in force until the regulators are satisfied that the company and the banks have fully complied with the terms of the agreement.
Dividend Restrictions - Premier is dependent on dividends from its Affiliate Banks for its revenues. Various federal and state regulatory provisions limit the amount of dividends the Affiliate Banks can pay to Premier without regulatory approval. At December 31, 2001, approximately $3.2 million of the total shareholders' equity of the Affiliate Banks was available for payment of dividends to Premier without approval by the applicable regulatory authority.
In addition, federal bank regulatory authorities have authority to prohibit Premier's Affiliate Banks from engaging in an unsafe or unsound practice in conducting their business. The payment of dividends, depending upon the financial condition of the bank in question, could be deemed to constitute such an unsafe or unsound practice. The ability of the Affiliate Banks to pay dividends in the future is presently, and could be further, influenced by bank regulatory policies and capital guidelines as well as each Affiliate Bank's earnings and financial condition. Additional information regarding dividend limitations can be found in Note 20 of the accompanying audited consolidated financial statements.
Interstate Banking - Under the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the "Riegle-Neal Act"), subject to certain concentration limits, (i) bank holding companies, such as Premier, are permitted to acquire banks and bank holding companies located in any state of the United States, subject to certain restrictions, and (ii) banks are permitted to acquire branch offices outside their home state by merging with out-of-state banks, purchasing branches in other states or establishing de novo branch offices in other states; provided that, in the case of any such purchase or opening of individual branches, the host state has adopted legislation "opting in" to the relevant provisions of the Riegle-Neal Act; and provided further, that, in the case of a merger with a bank located in another state, the host state has not adopted legislation "opting out" of the relevant provisions of the Riegle-Neal Act.
Gramm-Leach-Bliley Act - On November 12, 1999, the Gramm-Leach-Bliley Act (the "Act") was signed into law, eliminating many of the remaining barriers to full convergence of the banking, securities, and insurance industries. The major provisions of the Act took effect March 12, 2000.
The Act enables a broad-scale consolidation among banks, securities firms, and insurance companies by creating a new type of financial services company called a "financial holding company," a bank holding company with dramatically expanded powers. Financial holding companies can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting), and merchant banking. In addition, the Act permits the Federal Reserve and the Treasury Department to authorize additional activities for financial holding companies, but only if they jointly determine that such activities are "financial in nature" or "complementary to financial activities."
The FRB serves as the primary "umbrella" regulator of financial holding companies, with jurisdiction over the parent company and more limited oversight over its subsidiaries. The primary regulator of each subsidiary of a financial holding company depends on the activities conducted by the subsidiary. A financial holding company need not obtain FRB approval prior to engaging, either de novo or through acquisitions, in financial activities previously determined to be permissible by the FRB. Instead, a financial holding company need only provide notice to the FRB within 30 days after commencing the new activity or consummating the acquisition.
Number of Employees - The Company and its subsidiaries collectively had approximately 274 full-time equivalent employees as of December 31, 2001. Its executive offices are located at 115 North Hamilton Street, Georgetown, Kentucky, telephone number (502) 863-1955 (facsimile number (502) 863-5604).
Item 2.
Item 2. Properties
The Company owns 115 North Hamilton Street in Georgetown, Kentucky, at which the Company's executive offices are located. The Company also owns property located at 104 Jefferson Street, Brooksville, Kentucky, which serves as a branch for Bank of Germantown. Except as noted each of the Banks owns the real property and improvements on which their banking activities are conducted.
Citizens Deposit Bank & Trust, in addition to its main office at 400 Second Street in Vanceburg, Kentucky, has four branch offices in Lewis County, Kentucky, including one leased facility. The Bank of Germantown, with its main office located on Highway 10 in Germantown, Kentucky, has two branches located in Bracken County, Kentucky. Citizens Bank (Kentucky), Inc., in addition to its main office at 120 North Hamilton Street in Georgetown, Kentucky, has two branches in Scott County, Kentucky, and two branches in Bath County, Kentucky. Farmers Deposit Bank, in addition to its main office at 5230 South Main Street in Eminence, Kentucky, has two branches in Henry County, Kentucky. Ohio River Bank, in addition to its main office at 221 Railroad Street in Ironton, Ohio, has two branches, one each located in Lawrence and Scioto Counties, Ohio. First Central Bank, in addition to its main office at 2 South Main Street in Philippi, West Virginia, has a branch located in Upshur County, West Virginia, and a loan production office located in Barbour County, West Virginia. Boone County Bank, in addition to its main office at 300 State Street, Madison, West Virginia, has three branches, one each located in Boone, Logan and Lincoln Counties, West Virginia.
Item 3.
Item 3. Legal Proceedings
The Banks are respectively parties to legal actions that are ordinary routine litigation incidental to a commercial banking business. In management's opinion, the outcome of these matters, individually or in the aggregate, will not have a material adverse impact on the results of operations or financial position of the Company.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
There were no matters submitted to a vote of security holders, through solicitation of proxies or otherwise during the fourth quarter of the fiscal year covered by this report.
PART II
Item 5.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters ---------------------------------------------------------------------
The Company's common stock is listed on the NASDAQ under the symbol PFBI. At December 31, 2001, the Company had approximately 733 record holders of its common shares.
The following table sets forth on a quarterly basis cash dividends paid and the range of high and low sales prices on a per share basis during the quarters indicated. Cash dividends paid per share shown below have been adjusted retroactively to reflect prior stock splits effected in the form of share dividends.
The Board of Directors suspended the payment of dividends during the second quarter of 2000. In September 2000 as a result of an agreement entered into with the Federal Reserve, the Company agreed not to declare additional dividends without the prior approval of the Federal Reserve. The Board of Directors anticipates paying dividends at some future date when, in its discretion, financial prudence allows and the Federal Reserve concurs in the payment of such dividends. Even if the Company is able to resume the payment of dividends, there can be no assurance that the amount of the dividends will be what the Company paid before the payment of dividends was suspended.
The payment of dividends by the Company depends upon the ability of the Banks to declare and pay dividends to the Company because the principal source of the Company's revenue will be dividends paid by the Banks. At December 31, 2001, approximately $3.2 million was available for payment as dividends from the Banks to the Company without the need for regulatory approval. In considering the payment of dividends, the Board of Directors will take into account the Company's financial condition, results of operations, tax considerations, costs of expansion, industry standards, economic conditions and need for funds, as well as governmental policies and regulations applicable to the Company and the Banks. See "REGULATORY MATTERS - Capital Requirements" for discussion on capital guidelines.
Item 6.
Item 6. Selected Financial Data
The following table presents consolidated selected financial data for the Company, it does not purport to be complete and is qualified in its entirety by more detailed financial information and the audited consolidated financial statements contained elsewhere in this annual report. The consolidated selected financial data presented below has been retroactively adjusted to reflect all prior stock dividends and splits effected in the form of share dividends and has been restated to give the effect of acquisitions accounted for as a pooling of interests.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
This discussion presents Management's analysis of the primary factors affecting Premier Financial Bancorp, Inc.'s (the "Company" or "Premier") performance and financial condition. It should be read in conjunction with the accompanying audited consolidated financial statements included in this report. Unless otherwise noted, all amounts and per share data have been restated to give the effect of acquisitions accounted for as a pooling of interests. All dollar amounts (except per share data) are presented in thousands unless otherwise noted.
FORWARD-LOOKING STATEMENTS - -------------------------- Management's discussion and analysis contains forward-looking statements that are provided to assist in the understanding of anticipated future financial performance. However, such performance involves risks and uncertainties, and there are certain important factors that may cause actual results to differ materially from those anticipated. These important factors include, but are not limited to, economic conditions (both generally and more specifically in the markets in which Premier operates), competition for Premier's customers from other providers of financial services, government legislation and regulation (which changes from time to time), changes in interest rates, Premier's ability to originate quality loans and attract and retain deposits, the impact of Premier's growth, Premier's ability to control costs, and new accounting pronouncements, all of which are difficult to predict and many of which are beyond the control of Premier.
OVERVIEW - -------- In 2001, Premier continued efforts to make stronger its network of independently managed community banks by way of a more centralized corporate structure. In doing so, Premier suspended its acquisition strategy in order to focus on improving operations, strengthening capital and management oversight and improving profitability at the banks previously acquired. As part of this change in strategy Premier elected to dispose of two of its subsidiary banks, the Bank of Mt. Vernon and The Sabina Bank. While Premier remains committed to its core strategy of rural banking with community oriented and named institutions, the Company may dispose of additional corporate assets that no longer meet Premier's geographic or operational performance goals.
For 2001, net income was $2,319 compared to $1,335 for 2000; total assets decreased to $711,850 from the $889,932 in 2000, and shareholders' equity increased to $59,875 from $55,830 in 2000.
Quarterly unaudited financial information for the Company for the years ended December 31, 2001 and 2000, is summarized as follows:
BUSINESS COMBINATIONS - --------------------- In 1999, Premier completed one acquisition. On January 20, 1999, the Company acquired Mount Vernon Bancshares and its wholly owned subsidiary, Bank of Mt. Vernon, with offices in Somerset, Mt. Vernon, Berea and Richmond, Kentucky, in a cash transaction that was accounted for as a purchase.
On January 26, 2001, the company disposed of all the deposits (approximately $110 million), the majority of loans (approximately $92 million) and the premises and equipment (approximately $1.6 million) of the Bank of Mt. Vernon under the terms of a Purchase and Assumption Agreement. As a result of this transaction, the banking charter of the Bank of Mt. Vernon was relinquished and the Company agreed to not compete in the markets previously served by the Bank of Mt. Vernon.
On December 10, 2001, the Company disposed of certain assets and liabilities of The Sabina Bank. The sale included all the loans (approximately 31 million) and all the deposits (approximately 41 million), as well as the premises and equipment (approximately 1.2 million). Certain assets, of the bank, were retained by Premier pending liquidation of the bank. The operating results of both the Bank of Mount Vernon and The Sabina Bank were included in the Company's operating results through the respective dates of the sale. The results relating to the assets retained by the Company continue to be included in the Company's operating results.
RESULTS OF OPERATIONS - --------------------- Earnings Summary
Premier recorded net income for 2001 of $2,319, versus $1,335 and $4,590 for 2000 and 1999. Basic and diluted earnings per common share were $0.44 in 2001 compared to $0.26 in 2000 and $0.88 in 1999. The increase for 2001 versus 2000 was primarily attributable to net gains of $8,713 on the disposals of two affiliate banking operations. These gains more than offset a $3,989 increase to loan loss provision that the company experienced in 2001 as it worked to strengthen credit risk identification and monitoring. Non interest income improved from $4,012 in 2000 to $13,336 in 2001 due to these gains. Non interest expense was down $2,120 at $23,985 for 2001 versus $26,105 in 2000. The net improvements to income noted above were partially offset by added income taxes which increased from $316 in 2000 to $3,385 in 2001.
Net income of $1,335 in 2000 represented a 70.9% decrease from the 1999 amount of $4,590. This decrease in 2000 was primarily attributed to an increase in the provision for loan losses from $3,294 in 1999 to $4,932 in 2000 and an increase in noninterest expense of $3,475 from $22,630 in 1999 to $26,105 in 2000. Partially offsetting these decreases to net income were an increase in noninterest income from $3,776 in 1999 to $4,012 in 2000, an increase of $236 or 6.3%, and a decrease in provision for income taxes from $1,927 in 1999 to $316 in 2000, a decrease of $1,611 or 83.6%.
NET INTEREST INCOME - ------------------- Premier's primary source of revenue is its net interest income, which is the difference between the interest received on its earning assets and the interest paid on the funds acquired to support those assets. Loans made to businesses and individuals are the primary interest earning assets, followed by investment securities and federal funds sold in the inter-bank market. Deposits are the primary interest bearing liabilities used to support the interest earning assets.
The level of net interest income is affected by both the balances and mix of interest earning assets and interest bearing liabilities, the changes in their corresponding yields and costs, by the volume of interest earning assets funded by non interest bearing deposits, and the level of capital. Premier's long term objective is to manage this income to provide the largest possible amount of income while balancing interest rate, credit and liquidity risks.
Nontaxable income from loans and investment securities is presented on a tax-equivalent basis whereby income exempt from tax has been adjusted upward by an amount equivalent to the prevailing federal income taxes that would have been paid if the income had been fully taxable. The discussion of factors influencing net interest income that follows is based on taxable equivalent data. In each of the three years, this adjustment is based on an assumed federal income tax rate of 34%.
The following table shows, for the three year period ended December 31, 2001, the average distribution of assets, liabilities and the interest earned or paid on those items together with the level of shareholders' equity as well as Premier's net interest spread and net interest margin on interest earning assets (net interest income divided by average earning assets). In 2001, tax equivalent net income was $25,817, which reflected a decrease of $3,587 from $29,399 in 2000. The larger portion of the decrease related to $84,380 in lower average earning assets and $94,853 in lower interest bearing liabilities. The primary drivers of these lower volumes were of course the sale of the banking operations that occurred during 2001. The lower volumes resulted in $3,582 of lower net interest income. The yield on earning assets in 2001 of 8.21% was 56 basis points lower than the 8.77% earned in 2000, and the cost of interest bearing liabilities decreased 40 basis points to 5.08% in 2001 from 5.49% in 2000. Consequently, Premier's net interest spread decreased from 3.28% in 2000 to 3.13% in 2001 and the net interest margin decreased from 3.68% in 2000 to 3.62% in 2001. While a portion of the decrease in net interest spread was the result of changes in the portfolio makeup from the sales of two subsidiary banking operations, a lower overall interest rate environment in 2001 lead to shrinkage in the pricing of interest earning assets that were added or repriced during 2001. While similar changes occurred on the liability side, the impact was smaller and the net result was the margin shrinkage discussed above. In terms of dollars the decrease in margin relating to lower rates in 2001 versus 2000 was $931.
In 2000, tax equivalent net interest income was $29,399, an amount essentially unchanged from the $29,391 in 1999. The 2000 net interest income is the result of an increase of $70,486 or 9.7% in average earning assets and an increase of $66,317 or 9.9% in average interest bearing liabilities. The yield on earning assets in 2000 of 8.77% was 3 basis points higher than the 8.74% earned in 1999, and the cost of interest bearing liabilities increased 40 basis points to 5.49% in 2000 from 5.09% in 1999. Consequently, Premier's net interest spread decreased from 3.65% in 1999 to 3.28% in 2000 and the net interest margin decreased from 4.04% in 1999 to 3.68% in 2000. The decrease in net interest spread and net interest margin is primarily attributable to the 40 basis point increase in the rising rate environment experienced in 2000 and the 22 basis point decrease in yield on loans. The reduction in yield on loans can be attributed to the liquidations of the higher yielding subprime real estate portfolio, the increase in the average balance of nonaccrual loans, and the increased level of competition experienced with the growth in the volume of loans.
The following table presents average balances and interest rates for the three-year period ended December 31, 2001.
(1) Taxable - equivalent yields are calculated assuming a 34% federal income tax rate. (2) Yields are calculated on historical cost except for yields on marketable equity securities that are calculated using fair value. (3) Includes loan fees, immaterial in amount, in both interest income and the calculation of yield on loans. (4) Includes loans on nonaccrual status.
The accompanying analysis of changes in net interest income in the following table shows the relationship of the volume and rate portions of these changes in 2001 and 2000.
The change in interest income and expense due to both rate and volume has been allocated to changes in average volume and changes in average rate in proportion to the relationship of the absolute dollar amounts of change in each category.
PROVISION AND ALLOWANCE FOR LOAN LOSSES - --------------------------------------- The company maintains its allowance for loan losses (allowance) at a level that is considered sufficient to absorb probable incurred credit losses existing in the loan portfolio. The allowance is increased by the provision for probable loan losses as well as recoveries of previously charged-off loans, and is decreased by loan charge-offs. The provision is the necessary charge to expense to provide for current loan losses and to maintain the allowance at an adequate level commensurate with management's evaluation of the risks inherent in the loan portfolio. Various factors are taken into consideration when the Company determines the amount of the provision and the adequacy of the allowance. Some of the factors include:
* Past due and nonperforming assets; * Specific internal analyses of loans requiring special attention; * The current level of regulatory classified and criticized assets and the associated risk factors with each; * Examinations and reviews by the Company's independent accountants, external and internal loan review personnel; and * Examinations of the loan portfolio by federal and state regulatory agencies. The data collected from these sources is evaluated with regard to current national and local economic trends, prior loss history, underlying collateral values, credit concentrations, and industry risks. An estimate of potential
future loss on specific loans is developed in conjunction with an overall risk evaluation of the total loan portfolio.
The following table is a summary of the Company's loan loss experience for each of the past five years.
The provision for loan losses for 2001 was $8,921 compared to $4,932 in 2000, an increase of $3,989. This increase can be mainly attributed to additional charge-offs and an increase in nonperforming assets. In 2001, net charge-offs were $7,530 compared to $3,923 in 2000, an increase of $3,607. The increase in 2001 net charge-offs is primarily attributed to the deterioration in the loan portfolios in certain markets served by the subsidiary banks. At December 31, 2001, Premier's allowance for loan losses was 1.95% of period-end loans compared to 1.31% at December 31, 2000.
Net charge-offs to average loans were 1.47% for the year 2001 compared to .66% for the year 2000. At December 31, 2001, Premier's allowance for loan losses totaled $8,946, representing an increase of $1,125 over the amount for December 31, 2000. The allowance for loan losses was 57% of nonperforming loans on December 31, 2001, compared to 73% at December 31, 2000. At year end 2001, nonperforming loans represented 3.40% of total outstanding loans, up from 1.80% on December 31, 2000.
The following table sets forth an allocation for the allowance for loan losses by category of loan and a percentage of loans in that category. In making the allocation, consideration was given primarily to management's best estimates as to the current losses in the portfolio. The components considered in arriving at these amounts included identified specific risks in the portfolio, along with current trends in losses and non performing in the specific loan categories. An allocation for the allowance for loan losses is an estimate of the portion of the allowance that will be used to cover future charge-offs in each major loan category, but it does not preclude any portion of the allowance allocated to one type of loan being used to absorb losses of another loan type. The loan loss reserve represents managements best estimate of the actual losses anticipated in the portfolio that are reasonably likely and probable to occur.
Any reallocation to the allowance is primarily indicative of changes in loan portfolio mix, not changes in loan concentrations or terms. The Company does consider quality in regards to specific loans when determining an adequate allowance allocation. The level of increase in nonperforming loans, which is more specifically addressed in the nonperforming loan section, is largely attributable to deterioration in loan quality as well as the company's efforts at improving risk identification and monitoring.
NONINTEREST INCOME AND EXPENSES - ------------------------------- Noninterest income is a significant component of the Company's total income. The Company continues to develop and enhance existing products and to create new products in order to augment fee income as trends in the financial services industry and the economic environment continue to put pressure on the Company's ability to increase its net interest income. Noninterest income includes deposit service charges, fees from data processing and trust services, fees and commissions from many other corporate and retail products and gains and losses from the sale of investment securities.
Total fees and other income in 2001 decreased $184 or 4.3% to $4,107 from $4,291 in 2000. Service charges on deposit accounts decreased 2.0% or $44 to $2,191 from $2,235 in 2000. Insurance commissions decreased 38.1% and other income increased 1.8%. The service charge and insurance commission decreases were in large part due to the result of the sales of the subsidiary banking operations during 2001.
Total fees and other income increased $532 or 14.2% in 2000 to $4,291 from $3,759 in 1999. Service charges on deposit accounts increased 13.7% and all other income increased 14.6%.
Gains on the sale of investment securities in 2001 were $516, an increase of $795 from the losses of $(279) in investment securities in 2000. Investment securities losses in 2000 were $(279) versus gains of $17 in 1999, a decrease of $296.
Premier recognized gains of $8,713 in 2001 from the sale of two of its subsidiary banking operations.
Premier recognized a gain of $289 during the second quarter of 2000 as the result of the sale of an affiliate's Federal Home Loan Bank advance. This gain was substantially offset by losses on securities of $281, which was also recognized in the second quarter of 2000.
Noninterest expenses decreased $2,120 or 8.1% in 2001, from $26,105 in 2000 to $23,985 in 2001, and increased $3,475 or 15.4% in 2000 from $22,630 in 1999. The primary factor resulting in the 2001 decrease in expenses was the sale during the year of two subsidiary banking operations.
Salaries and employee benefits, the largest component of noninterest expense, decreased 11.6% in 2001 and increased 14.2% in 2000. The changes include salary increases and reflect changes in the number of full time equivalent employees from 351 at December 31, 1999 to 361 at December 31, 2000 and 274 at December 31, 2001. The decrease for 2001 reflects the sales of two subsidiary banking operations during the year. The 2000 increase can be primarily attributed to the addition of three banking locations, the expensing of severance costs and annual salary increases.
Occupancy and equipment expense for 2001 of $2,941 was $246 or 7.7% lower than the $3,187 for 2000. The increase in 2000 was $302, or 10.5%, more than the $2,885 expensed in 1999. The 2001 decrease was the result of the sale of two subsidiary banking operations during the year. The increase in 2000 is primarily attributable to the expansion in the number of banking locations.
Other noninterest expense, which is the second largest category, decreased $532 or 8.1% in 2001 and increased $1,461 or 28.6% in 2000. The 2001 decrease was the result of the sale of two subsidiary banking operations during the year. The 2000 increases are primarily attributed to write-downs of other real estate owned of approximately $617 and increased costs associated with heightened levels of risk identification and controls.
Amortization of intangibles decreased $242 or 15.4% to $1,329 for 2001 from the 2000 amount of $1,571. The 2000 amortization was a decrease of $54 from the 1999 amount of $1,625. The significant 2001 decrease was the result of the reduction in intangibles related to the sale of the two subsidiary banking operations during 2001.
The Company continually seeks to develop fees and other income for services provided while holding operating expenses to the minimum amount required to provide quality service. In 2001, total net noninterest expenses (excluding investment securities gains, gain on FHLB advance sale and gain on sales of subsidiary banking operations) as a percent of average total assets were 2.69%, compared to 2.54% in 2000 and 2.36% in 1999.
The following table is a summary of non-interest income and expense for the three-year period indicated.
INCOME TAXES - ------------ The Company's provision for income taxes was $3,385 in 2001, which represented 59.3% of pre-tax income versus $316 in 2000 or 19.1% and $1,927 or 29.6% of pre-tax income in 1999. The increase in taxes as well as the increased tax percentage for 2001 versus 2000 was due to the sale during 2001 of two subsidiary banking operations and the taxability of the gains relating to those sales.
An analysis of the difference between the effective tax rates and the statutory U.S. federal income tax rate is contained in Note 13 to the consolidated financial statements.
FINANCIAL CONDITION Lending Activities
Loans are the Company's primary use of financial resources and represent the largest component of earning assets. The Company's loans are made predominantly within the Banks' market areas and the portfolio is diversified. Credit risk is inherent in each financial institution's loan and investment portfolio. In an effort to minimize credit risk, the Company utilizes a credit administration network, including specific lending authorities for each loan officer, a system of loan committees to review and approve loans, and a loan review and credit quality rating system. This network assists in the evaluation of the quality of new loans and in the identification of problem or potential problem credits and provides information to aid management and the Board of Directors in determining the adequacy of the allowance for possible loan losses. During 2001,the Company continued its efforts to strengthen its procedures and policies relating to credit risk identification and monitoring. Those efforts should enhance the scope, breadth, and depth of the Company's credit risk identification processes.
Total loans, net of unearned income, averaged $512,240 in 2001 compared with $590,518 in 2000. At year end 2001, loans net of unearned income totaled $458,741 compared to $595,576 at December 31, 2000, a decrease of $136,835 or 23%. The decrease in loan balances was primarily the result of the sales of two of the affiliate banking operations in 2001.
The following table presents a summary of the Company's loan portfolio by category for each of the last five years. Other than the categories noted, there is no concentration of loans in any industry greater than 5% in the portfolio. The Company has no foreign loans or highly leveraged transactions in its loan portfolio.
Commercial loans generally are made to small-to-medium size businesses located within a Bank's defined market area and typically are secured by business assets and guarantees of the principal owners. Collateral for real estate mortgage loans include residential properties and the loans generally do not exceed 80% of the value of the real property securing the loan based on recent independent appraisals. The Company's real estate mortgage loan portfolio primarily consists of adjustable rate residential mortgage loans. The origination of these mortgage loans can be more difficult in a low interest rate environment where there is a significant demand for fixed rate mortgages. A number of the Banks do participate in the origination of loans into the secondary market and recognize the referral fees into other income. Consumer loans generally are made to individuals living in a Bank's defined market area who are known to the Bank's staff. Consumer loans are made for terms of up to seven years on a secured or unsecured basis. While consumer loans generally provide the Company with increased interest income, consumer loans may involve a greater risk of default. Loss experience in all categories has been increasing over the past five years, with net charge-offs being 1.47% of loans in 2001 and .66% in 2000. With respect to consumer loans in particular, net charge-offs for the year ended December 31, 2001 were $1,709, or 2.15% of total consumer loans outstanding at December 31, 2001, and $761 in 2000, or .70% of total consumer loans outstanding at December 31, 2000.
The following table sets forth the maturity distribution and interest sensitivity of selected loan categories at December 31, 2001. Maturities are based upon contractual terms. The Company's policy is to specifically review and approve any loan renewed; no loans are automatically rolled over.
Nonperforming assets
Nonperforming assets consist of loans on which interest is no longer accrued, certain restructured loans where interest rate or other terms have been renegotiated, accruing loans past due 90 days or more and real estate acquired through foreclosure. All loans considered impaired under SFAS 114 are included in nonperforming loans.
The Company discontinues the accrual of interest on loans when management believes after consideration of economic and business conditions and collection efforts, that the borrowers financial condition is such that collection of interest is doubtful. A loan remains in a nonaccrual status until doubts concerning the collectibility no longer exist. A loan is classified as a restructured loan when the interest rate is materially reduced or the term is extended beyond the original maturity date because of the inability of the borrower to service the loan under the original terms. Other real estate is recorded at the lower of cost or fair value less estimated costs to sell.
A summary of the components of nonperforming assets, including several ratios using period-end data, is shown as follows:
Nonaccrual loans increased from $7,840 at December 31, 2000 to 9,307 at December 31, 2001. Total nonperforming assets increased from $13,841 at December 31, 2000 to $21,424 at December 31, 2001. The percentage of nonperforming loans to total loans increased from 1.80% to 3.40%.
The increase in total nonperforming loans and other real estate owned of $7,583 is largely attributable to the deterioration in loan quality as well as a result of the Company's efforts at improving risk identification and monitoring.
Reserves allocated in connection with these assets are believed to be adequate.
The Company continues to follow its long-standing policy of not engaging in international lending and not concentrating lending activity in any one industry.
Although loans may be classified as nonperforming, some continue to pay interest irregularly or at less than original contractual rates. A summary of actual income recognized on nonaccrual and restructured loans versus their full contractual yields for each of the past five years is presented below.
Investment Activities
The securities portfolio consists of debt and equity securities, which provide the Company with a relatively stable source of income. Additionally, the investment portfolio provides a balance to interest rate and credit risks in other categories of the balance sheet. The Company also uses the securities portfolio as a secondary source of liquidity. All of the company's securities at December 31, 2001 were classified as available for sale.
Securities as a percentage of average interest-earning assets decreased to 21.7% in 2001 versus 23.0% in 2000 and 25.2% in 1999. The 2000 decrease in securities reflects the movement of funds into higher yielding loan balances, primarily in regards to the acquisition of deposits held in the West Virginia branches.
At December 31, 2000 and 1999, the Company had an investment in noncumulative perpetual preferred stock of First Guaranty Bank, Hammond, Louisiana. The market value of this investment approximated its book value, which totaled $2 million at December 31, 2000 and 1999. The dividend rate on the preferred stock is 2% in excess of the prime rate as in effect from time to time. This stock was disposed of in 2001.
The following tables present the carrying values and maturity distribution of investment securities.
*The weighted average yields are calculated on historical cost on a non tax-equivalent basis.
Deposit Activities
Managing the mix and repricing of deposit liabilities is an important aspect of the Company's ability to maximize its net interest margin. The strategies used to manage interest-bearing deposit liabilities are designed to adjust as the interest rate environment changes. In this regard, management of the Company regularly assesses its funding needs, deposit pricing, and interest rate outlooks.
Total deposits averaged $629,892 in 2001, an 10.8% decrease from 2000. Total deposits averaged $706,171 in 2000, an increase of $57,576 or 8.9% over 1999. Noninterest bearing deposits averaged 10.4% of total deposits in 2001, compared to 10.3% in 2000 and 10.3% in 1999.
At December 31, 2001, deposits totaled $570,531, compared to $728,412 at December 31, 2000, a decrease of $157,881, or 21.7%. The primary driver of the decrease in deposits was the sale of two affiliate banking operations during 2001.
The table below provides information on the maturities of time deposits of $100,000 or more at December 31, 2001.
The following table sets forth the average amount of and average rate paid on selected deposit categories during the past three full years.
Capital
Stockholders' equity increased $4,045 in 2001 to $59.9 million or 8.4% of total assets at December 31, 2001. This compares to $55.8 million, or 6.3% of total assets at December 31, 2000. The primary reason for the 2001 increase in stockholders' equity was the 2001 retained earnings of $2,319 as well as an increase in unrealized gains on securities of $1,726 from ($869) on December 31, 2000, to $857 on December 31, 2001. This is a component of accumulated other comprehensive income. Stockholders' equity increased $3,703 or 7.1% in 2000 from $52.2 million at December 31, 1999 to $55.8 million for 2000. The primary reason for the 2000 increase in stockholders' equity was the decrease in unrealized loss on securities of $3,153 from ($4,022) on December 31, 1999, to ($869) on December 31, 2000. The decrease was partially offset by the retention of net earnings of $550 in 2000. The consolidated statements of changes in stockholders' equity detail the changes in equity for the last three years.
The fair value adjustment of the Company's available for sale securities portfolio, which is recorded as a component of stockholders' equity, may change significantly as market conditions change. The adjustment resulted in an increase of stockholders' equity of $857 at December 31, 2001 versus a reduction of $869 at December 31, 2000. Further volatility in stockholders' equity may occur in the future as market conditions change.
The Company's principal source of funds for dividend payments to stockholders is dividends received from the subsidiary Banks. Banking regulations limit the amount of dividends that may be paid without prior approval of regulatory agencies. Under these regulations, the amount of dividends that may be paid without prior approval of regulatory agencies in any calendar year is limited to the current year's net profits, as defined, combined with the retained net profits of the preceding two years, subject to regulatory capital requirements and additional restrictions as more fully described in Note 20 to the consolidated financial statements. During 2002, the Banks could, without prior approval, declare dividends to the Company of approximately $3.2 million plus any 2002 net profits retained to the date of the dividend declaration.
The various regulatory agencies having supervisory authority over financial institutions have adopted risk-based capital guidelines, which define the adequacy of the capital levels of regulated institutions. These risk-based capital guidelines require minimum levels of capital based upon the risk rating of assets and certain off-balance-sheet items. Assets and off-balance-sheet items are assigned regulatory-risk weights ranging from 0% to 100% depending on their level of credit risk. The guidelines classify capital in two tiers, Tier I and Tier 2, the sum of which is total capital. Tier I capital is essentially common equity, less intangible assets. Tier 2 capital is essentially qualifying long-term debt and a portion of the allowance for possible loan losses.
The capital ratios were dramatically improved in 2001 over 2000 as a result of the sales of two affiliated banking operations during 2001. These sales were the primary reason for the large decrease in Goodwill (6.8 million).
Liquidity
Liquidity for a financial institution can be expressed in terms of maintaining sufficient cash flows to meet both existing and unplanned obligations in a cost-effective manner. Adequate liquidity allows the Company to meet the demands of both the borrower and the depositor on a timely basis, as well as pursuing other business opportunities as they arise. Thus, liquidity management embodies both an asset and liability aspect. Liquidity is maintained through the Company's ability to convert assets into cash, manage the maturities of liabilities and generate funds through the attraction of local deposits.
As part of its liquidity management, the Company maintains funding relationships with the Federal Home Loan Bank and other financial institutions. The Company prefers to manage its liquidity requirements generally through the matching of maturities of assets and liabilities. The consolidated statements of cash flows for the periods presented in the financial statements provide an indication of the Company's sources and uses of cash as well as an indication of the ability of the Company to maintain an adequate level of liquidity.
Liquidity risk is the possibility that the Company may not be able to meet its cash requirements. Management of liquidity risk includes maintenance of adequate cash and sources of cash to fund operations and meets the needs of borrowers, depositors and creditors. Liquidity must be maintained at a level, which is adequate but not excessive. Excess liquidity has a negative impact on earnings resulting from the lower yields on short-term assets.
The Company's principal source of funds to meet the cash requirements of the holding company is dividends received from its subsidiaries and the cash flows provided by intercompany tax payments. Additional funds have been provided in prior years from the borrowings on the Company's credit facilities. The Company expects the cash flows from its subsidiaries to be sufficient to meet its cash requirements, however the Company has identified certain assets that could be sold to generate additional funds as needed.
Cash, cash equivalents, Federal funds sold, and the securities portfolio provides an important source of liquidity to the subsidiary banks. The total of securities maturing within one year along with cash, due from banks, interest-earning balances with banks maturing within one year, and Federal funds sold totaled $87.4 million as of December 31, 2001. Additionally, securities available-for-sale with maturities greater than one year, equity securities, and interest-earning balances, with banks with maturities greater than one year, totaled $122.2 million at December 31, 2001. These securities represent a secondary source available to meet liquidity needs on a continuing basis.
To maintain a desired level of liquidity, the Banks have several sources of funds available. One is the cash flow generated daily from the Banks' various loan portfolios in the form of principal and interest payments. Another source is its deposit base. The Company maintains a relatively stable base of customer deposits, which has historically exhibited steady growth. This growth, when combined with other sources, is expected to be adequate to meet its demand for funds. Due to the nature of the markets served by the Company's subsidiary banks, management believes that the majority of certificates of deposit of $100,000 or more are no more volatile than its core deposits. Certificates of deposits and other time deposits of $100,000 or more represented approximately 15.6% and 14.5% of total deposits at December 31, 2001 and 2000. A number of techniques are used to measure the liquidity position, including the utilization of ratios that are presented below. These ratios are calculated based on annual averages for each year.
This analysis shows that the Company's loan to deposit ratio has increased in both 1999 and 2000. The increases are primarily the result of funds moving from lower yielding assets into higher yielding loans, principally in the West Virginia markets. The change for 2001 was the result of the changes in loan and deposit mix as a result of the disposal of two Affiliate Banks during 2001.
Information regarding short-term borrowings for the past three years is presented below.
Substantially all federal funds purchased and repurchase agreements mature in less than ninety days. Other short-term borrowings primarily represent Federal Home Loan Bank (FHLB) advances to Bank Affiliates (with varying maturity dates) which are funding residential mortgage and commercial loans.
Interest Rate Sensitivity
The interest spread and liability funding discussed above are directly related to changes in asset and liability mixes, volumes, maturities and repricing opportunities of interest-earning assets and interest-bearing liabilities. Interest-sensitive assets and liabilities are those, which are subject to being repriced in the near term, including either floating or adjustable rate instruments and instruments approaching maturity. The interest sensitivity gap is the difference between total interest-sensitive assets and total interest-sensitive liabilities. Interest rates on the Company's various asset and liability categories do not respond uniformly to changing market conditions. Interest rate risk is the degree to which interest rate fluctuations in the marketplace can affect net interest income.
The need for interest sensitivity gap management is most critical in times of a significant change in overall interest rates. Management generally seeks to limit the exposure of the Company to interest rate fluctuations by maintaining a relatively balanced mix of rate sensitive assets and liabilities on a one-year time horizon. This mix is altered periodically depending upon management's assessment of current business conditions and the interest rate outlook.
One tool, which is used to monitor interest rate risk, is the interest sensitivity analysis as shown in the table below. This analysis reflects the repricing characteristics of assets and liabilities over -various time periods. The gap indicates the level of assets and liabilities that are subject to repricing over a given time period.
As shown by the interest rate sensitivity analysis as of December 31, 2001, the cumulative amount of the Company's interest earning assets repricing during the first year is lower than the total amount of its interest bearing liabilities repricing during this period. This position, which is normally termed a negative interest sensitivity gap, generally allows for enhanced net interest income during periods of falling interest rates. This negative gap is within the Company's internal policy guidelines and is not expected to impact significantly the Company's net interest income during a period of rising interest rates.
The following table provides an analysis of the Company's interest rate sensitivity at December 31, 2001.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk - -------------------------------------------------------------------- Asset/Liability Management and Market Risk
Market risk is the risk of gain or loss from changes in the fair value of financial instruments due to changes in interest rates, exchange rates and equity prices. Premier's market risk is composed almost exclusively with interest rate risk. This exposure is managed primarily through the strategy of selecting the types and terms of interest earning assets and interest bearing liabilities which generate favorable earnings, while limiting the potential negative effects of changes in market interest rates. Since Premier's primary source of interest bearing liabilities is customer deposits, the ability to manage the types and terms of such deposits may be somewhat limited by customer preferences in the market areas in which it operates. Borrowings, which include Federal Home Loan Bank advances, short-term borrowings and long-term borrowings, are generally structured with specific terms, which in management's judgment, when aggregated with the terms for outstanding deposits and matched with interest earning assets, mitigate our exposure to interest rate risk.
The Company's Board of Directors is responsible for reviewing the interest rate sensitivity of the Company and establishing policies to monitor and limit exposure to interest rate risk. Interest rate risk is monitored through the use of an earnings simulation model prepared by an independent third party to analyze net interest income sensitivity.
The earnings simulation model forecasts the effect of instantaneous movements in interest rates of both 100 and 200 basis points. The most recent earnings simulation model projects net interest income would decrease by approximately 0.5% of stable rate net interest income if rates rise by 100 basis points over the next year. It projects a decrease of 1.0% if the rates fall by 100 basis points. Management believes this reflects a slight asset sensitive rate risk position for the less than 90 day time frame. For the one-year horizon the rate risk position evolves into one with a slight liability sensitivity.
Within the same time frame, but assuming a 200 basis point movement in rates, the model forecasts that net interest income would drop below that earned in a stable rate environment by 2.9% in a rising rate scenario and decrease by 2.4% in a falling rate scenario. Under both the 100 and 200 basis point forecast, the percentage changes in net interest income are within ALCO guidelines.
This simulation model includes assumptions about how the balance sheet is likely to evolve through time. Loan prepayments are developed from industry median estimates for prepayment speeds. Noncontractual deposit pricing and sensitivity are assumed to follow historical patterns.
The Economic Value at Risk (EVR) of the balance sheet, at a point in time, is defined as the discounted present value of asset cash flows minus the discounted value of liability cash flows. The resulting percentage change in EVR is an indication of the longer term repricing risk imbedded in the balance sheet. At December 31, 2001, a 200 basis point increase in rates is estimated to increase EVR by 3.05%. Additionally, EVR is projected to decrease by 26.2% if rates fall by 200 basis points. Although the 26.2% decrease is outside the stated ALCO guidelines of + 20% the Board has approved this deviation and management believes this deviation to be temporary.
The calculations of present value have certain shortcomings. The discount rates utilized are based on estimated market interest rate levels for similar loans and securities nationwide. The unique characteristics of Premier's loans and securities may not necessarily parallel those assumed in this calculation, and therefore, would likely result in different discount rates, prepayment experiences and present values. The discount rates utilized for deposits and borrowings are based upon available alternative types and sources of funds which are not necessarily indicative of the present value of deposits and FHLB advances since such deposits and advances are unique to, and have certain price and customer relationship advantages for, depository institutions. A higher or lower interest rate environment will most likely result in different investment and borrowing strategies by Premier designed to further mitigate the effect on the value of, and the net earnings generated from, the Company's net assets from any change in interest rates.
Summary information about the simulation model's interest rate risk measures is presented below:
Interest Rate Risk Management
Premier's strategy of investing primarily in loans and securities is intended to limit its exposure to interest rate and credit risk, while at the same time achieving a positive interest rate spread from the difference between the income earned on interest earning assets and the cost of interest bearing liabilities. Managing this exposure involves significant assumptions about the relationship of various interest rate indices of certain financial instruments. Prepayments on loans and mortgage-backed securities generally increase when long-term interest rates fall or are at historically low levels relative to short-term interest rates making fixed rate loans more desirable. Other investment securities, other than those with early call provisions, generally do not have significant imbedded options and repay pursuant to specific terms until maturity. While savings and checking deposits generally may be withdrawn upon the customer's request without prior notice, a continuing relationship with customers resulting in future deposits and withdrawals is generally predictable resulting in a dependable and uninterruptible source of funds. Time deposits generally have early withdrawal penalties, which discourage customer withdrawal, while term Federal Home Loan Bank advances have prepayment penalties, which discourage prepayment prior to maturity.
Certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the loan. Further, in the event of a change in interest rates, prepayment and early withdrawal levels could deviate significantly from those assumed in calculating the table. Finally, the ability of many borrowers to service their debt may decrease in the event of a significant interest rate increase.
The previous table does not necessarily indicate the impact of general interest rate movements on Premier's net interest income because the repricing of certain categories of assets and liabilities are subject to competitive and other pressures beyond our control. As a result, certain assets and liabilities indicated as maturing or otherwise repricing within a stated period may in fact mature or reprice at different times and at different volumes.
Management expects interest rates to be biased toward flat to increasing during 2002 and believes that the current modest level of liability sensitivity is appropriate when taken in conjunction with the unlikely event of a significant rate decrease. Premier's interest sensitivity profile changed from 2000 to 2001 as a result primarily of asset/liability mix changes as a result of the sales of two affiliate banking operations as well as normal maturities and repricing.
Trade Risk Management
Premier does not maintain a trading account, which would primarily provide investment products and risk management services to its customers as well as to take propriety risk positions.
Derivative Instruments
A derivative financial instrument includes futures, forwards, interest rate swaps, options and other financial instruments with similar characteristics. Premier currently does not enter into futures, forwards, swaps or options. However, the Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to make loans and standby letters of credit, which involve to varying degrees elements of credit risk and interest rate risk in excess of amounts recognized on the balance sheets. Commitments to make loans are agreements to lend to a customer as long as there is no violation of any contract condition. Commitments generally have fixed expiration dates and may require collateral if deemed necessary. Standby letters of credit are conditional commitments issued by Premier to guarantee the performance of a customer to a third party up to a stipulated amount and with specific terms and conditions. Commitments to make loans and standby letters of credit are not recorded as an asset or liability by the Company until the instrument is exercised.
Item 8.
Item 8. Financial Statements and Supplementary Data - ---------------------------------------------------- The Company's Financial Statements and related Independent Auditors' Report are presented in the following pages. The financial statements filed in this Item 8 are as follows:
Independent Auditors' Report
Financial Statements: Consolidated Balance Sheets - December 31, 2001 and 2000 Consolidated Statements of Income - Years Ended December 31, 2001, 2000 and 1999 Consolidated Statements of Comprehensive Income - Years Ended December 31, 2001, 2000 and 1999 Consolidated Statements of Changes in Stockholders' Equity - Years ended December 31, 2001, 2000 and 1999 Consolidated Statements of Cash Flows - Years ended December 31, 2001, 2000 and 1999 Notes to Consolidated Financial Statements
PREMIER FINANCIAL BANCORP, INC.
CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
REPORT OF INDEPENDENT AUDITORS
Board of Directors Premier Financial Bancorp, Inc. Georgetown, Kentucky
We have audited the accompanying consolidated balance sheets of Premier Financial Bancorp, Inc. as of December 31, 2001 and 2000, and the related consolidated statements of income and comprehensive income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Premier Financial Bancorp, Inc. as of December 31, 2001 and 2000 and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States of America.
As disclosed in Note 1, during 2001 the Company adopted new accounting guidance on derivatives.
Crowe, Chizek and Company LLP
Lexington, Kentucky February 15, 2002
- -------------------------------------------------------------------------------- See accompanying notes. 42.
PREMIER FINANCIAL BANCORP, INC. CONSOLIDATED BALANCE SHEETS December 31, 2001 and 2000 (In Thousands, Except Per Share Data)
- --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- See accompanying notes. 43.
PREMIER FINANCIAL BANCORP, INC. CONSOLIDATED STATEMENTS OF INCOME Years Ended December 31 (In Thousands, Except Per Share Data) - --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- See accompanying notes. 44.
PREMIER FINANCIAL BANCORP, INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME Years Ended December 31 (In Thousands, Except Per Share Data)
- --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- See accompanying notes. 45.
PREMIER FINANCIAL BANCORP, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY Years Ended December 31, 2001, 2000 and 1999 (In Thousands, Except Per Share Data)
- --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- See accompanying notes. 46.
PREMIER FINANCIAL BANCORP, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS Years Ended December 31 (In Thousands)
- --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- See accompanying notes. 47.
PREMIER FINANCIAL BANCORP, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS Years Ended December 31 (In Thousands)
- --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- See accompanying notes. 48.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements include the accounts of Premier Financial Bancorp, Inc. (the Company) and its wholly-owned subsidiaries:
The Company also has a data processing subsidiary, Premier Data Services, Inc., and PFBI Capital Trust subsidiary as discussed in Note 12. All intercompany transactions and balances have been eliminated.
Prior period consolidated financial statements have been restated to include the accounts of significant acquisitions accounted for using the pooling of interests method of accounting. Business combinations accounted for as purchases are included in the consolidated financial statements from the respective dates of acquisition. Assets and liabilities of financial institutions accounted for as purchases are adjusted to their fair values as of their dates of acquisition. Certain prior amounts have been reclassified to conform with the current year presentation.
Nature of Operations: The Banks operate under state bank charters and provide traditional banking services, including trust services, to customers primarily located in the counties and adjoining counties in Kentucky, Ohio, and West Virginia in which the Banks operate. Chartered as state banks, the Banks are subject to regulation by their respective state banking regulators and the Federal Deposit Insurance Corporation (FDIC) or the Federal Reserve Bank for member banks. The Company is also subject to regulation by the Federal Reserve Bank.
- -------------------------------------------------------------------------------- (Continued) 49.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Estimates in the Financial Statements: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The allowance for loan losses and fair values of financial instruments are particularly subject to change.
Cash Flows: For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and interest-earning balances with banks with an original maturity less than ninety days. Net cash flows are reported for loans, federal funds sold, deposits, and other borrowing transactions.
Investment Securities: The Company classifies its investment securities portfolio into three categories: trading, securities available for sale and securities held to maturity. Fair value adjustments are made to the securities based on their classification with the exception of the held to maturity category. The Company has no investments classified as trading.
Investment securities available for sale are carried at fair value. Adjustments from amortized cost to fair value are recorded in stockholders' equity, net of related income tax, under accumulated other comprehensive income on securities available for sale. The adjustment is computed on the difference between fair value and cost adjusted for amortization of premiums and accretion of discounts which are recorded as adjustments to interest income using the constant yield method.
Investment securities for which the Banks have the positive intent and ability to hold to maturity are stated at cost, adjusted for amortization of premiums and accretion of discounts, which are recorded as adjustments to interest income using the constant yield method. Other securities such as Federal Home Loan Bank stock are carried at cost.
Interest income includes amortization of purchase premium or discount. Gains or losses on dispositions are based on the net proceeds and adjusted carrying amount of the securities sold using the specific identification method. Securities are written down to fair value when a decline in fair value is not temporary.
- -------------------------------------------------------------------------------- (Continued) 50.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Loans: Loans are stated at the amount of unpaid principal, reduced by unearned income and an allowance for loan losses. Interest income on loans is recognized on the accrual basis except for those loans in a nonaccrual of income status. The accrual of interest on impaired loans is discontinued when management believes, after consideration of economic and business conditions and collection efforts, that the borrowers' financial condition is such that collection of interest is doubtful. When interest accrual is discontinued, interest income is subsequently recognized only to the extent cash payments are received.
The allowance for loan losses is a valuation allowance for probable incurred credit losses increased by a provision for loan losses charged to expense. The allowance is an amount that management believes will be adequate to absorb incurred losses on existing loans based on evaluations of the collectibility of loans and prior loan loss experience. The evaluations take into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrowers' ability to pay. Loans are charged against the allowance for loan losses when management believes that the collection of principal is unlikely.
A loan is impaired when full payment under the loan terms is not expected. Impairment is evaluated in total for smaller-balance loans of similar nature such as residential mortgage, consumer, and credit card loans, and on an individual loan basis for other loans. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan's existing rate or at the fair value of collateral if repayment is expected solely from the collateral.
Certain loan origination fees and direct origination costs are capitalized and recognized as an adjustment of the yield on the related loan.
Premises and Equipment: Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation. Depreciation is recorded principally by the straight-line method over the estimated useful lives of the premises and equipment.
Real Estate Acquired Through Foreclosure: Real estate acquired through foreclosure is carried at the lower of the recorded investment in the property or its fair value. The value of the underlying loan is written down to the fair value of the real estate to be acquired by a charge to the allowance for loan losses, if necessary. Any subsequent write-downs are charged to operating expenses. Certain parcels of real estate are being leased to third parties to offset holding period costs. Operating expenses of such properties, net of related income, and gains and losses on their disposition are included in other expenses.
- -------------------------------------------------------------------------------- (Continued) 51.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Long-term Assets: Premises and equipment and other long-term assets are reviewed for impairment when events indicate that the carrying amount may not be recoverable from future undiscounted cash flows. If impaired, the assets are recorded at discounted amounts.
Repurchase Agreements: Substantially all repurchase agreement liabilities represent amounts advanced by various customers. Securities are pledged to cover these liabilities, which are not covered by federal deposit insurance.
Goodwill and Other Intangibles: The unamortized costs in excess of the fair value of acquired net tangible assets are included in goodwill and other intangibles. Identifiable intangibles, except for premiums on purchased deposits which are amortized on a straight-line method over 10 years, are amortized over the estimated periods benefited. The remaining costs (goodwill) are amortized on a straight-line basis over 15 to 25 years.
Income Taxes: The Company uses the liability method for computing deferred income taxes. Under the liability method, deferred income taxes are based on the change during the year in the deferred tax liability or asset established for the expected future tax consequences of differences in the financial reporting and tax bases of assets and liabilities. The differences relate principally to premises and equipment, unrealized gains and losses on investment securities available for sale, FHLB stock, and the allowance for loan losses.
Earnings Per Common Share: Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options. Earnings and dividends per share are restated for all stock splits and dividends through the date of issuance of the financial statements.
Comprehensive Income: Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes unrealized gains and losses on securities available for sale which are also recognized as a separate component of equity.
New Accounting Pronouncements: Beginning January 1, 2001, a new accounting standard required all derivatives to be recorded at fair value. Unless designated as hedges, changes in these fair values will be recorded in the income statement. Fair value changes involving hedges will generally be recorded by offsetting gains and losses on the hedge and on the hedged item, even if the fair value of the hedged item is not otherwise recorded. Implementation of this standard did not have a material effect on the consolidated financial statements.
- -------------------------------------------------------------------------------- (Continued) 52.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Another new accounting standard requires all business combinations to be recorded using the purchase method of accounting for any transaction initiated after June 30, 2001. Under the purchase method, all identifiable tangible and intangible assets and liabilities of the acquired company must be recorded at fair value at date of acquisition, and the excess of cost over fair value of net assets acquired is recorded as goodwill. Identifiable intangible assets with finite useful lives will be amortized under the new standard, whereas goodwill, both amounts previously recorded and future amounts purchased, will cease being amortized starting in 2002. Annual impairment testing will be required for goodwill with impairment being recorded if the carrying amount of goodwill exceeds its implied fair value. Adoption of this standard on January 1, 2002 will not have a material effect on the Company's financial statements.
Industry Segments: All of the Company's operations are considered by management to be aggregated into one reportable operating segment.
NOTE 2 - BUSINESS COMBINATIONS
On January 20, 1999, the Company acquired all of the outstanding shares of Mt. Vernon Bancshares, Inc., Mt. Vernon, Kentucky, a one-bank holding company owning all of the shares of Bank of Mt. Vernon (Mt. Vernon) for cash. Mt. Vernon offers full service banking in the counties of Rockcastle, Pulaski, and Madison, Kentucky. The total acquisition cost exceeded the fair value of net assets acquired by approximately $4.5 million. The combination was accounted for as a purchase and the results of operations of Mt. Vernon are included in the consolidated financial statements from January 20, 1999.
On January 26, 2001, the Company disposed of all the deposits (approximately $110,000,000), the majority of loans (approximately $92,000,000) and the premises and equipment (approximately $1,600,000) of the Bank of Mt. Vernon under the terms of a Purchase and Assumption Agreement. The net cash paid by the Company relating to this transaction was approximately $9,700,000. The Company realized a gain of $3,418,000 on the sale. As part of the transaction, the Company retained certain assets previously held by the Bank of Mt. Vernon, which are held in a subsidiary called Mt. Vernon Financial Holdings, Inc.
On December 10, 2001, the Company disposed of the deposits (approximately $49,000,000), the loans (approximately $40,000,000), and the premises and equipment (approximately $1,300,000) of The Sabina Bank under the terms of a Purchase and Assumption Agreement. The proceeds to the Company and the gain realized from this transaction were $12,954,000 and $5,295,000, respectively. Certain assets of the bank were retained by the Company pending liquidation of the bank.
- -------------------------------------------------------------------------------- (Continued) 53.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 2 - BUSINESS COMBINATIONS (Continued)
The operating results of both the Bank of Mt. Vernon and The Sabina Bank were included in the Company's operating results through the respective dates of the sales. The results relating to the assets retained by the Company continue to be included in the Company's operating results.
NOTE 3 - REGULATORY MATTERS
On September 29, 2000, the Company entered into an agreement with the Federal Reserve Bank (FRB) that prohibits the Company from paying dividends or incurring any additional debt without the prior written approval of the FRB. Additionally, the agreement requires the Company to develop and monitor compliance with certain operational policies designed to strengthen Board of Director oversight including credit administration, liquidity, internal audit and loan review.
Two of the Company's subsidiaries, Citizens Deposit Bank & Trust and Bank of Germantown have entered into similar agreements with their respective primary regulators which, among other things, prohibit the payment of dividends without prior written approval and requires significant changes in their credit administration policies.
These agreements, which require periodic reporting, will remain in force until the regulators are satisfied that the Company and the banks have fully complied with the terms of the agreement.
NOTE 4 - RESTRICTIONS ON CASH AND DUE FROM BANKS
Included in cash and due from banks are certain non-interest bearing deposits that are held at the Federal Reserve or maintained in vault cash in accordance with average balance requirements specified by the Federal Reserve Board of Governors. The balance requirement at December 31, 2001 and 2000 was $2.5 million and $3.6 million.
- -------------------------------------------------------------------------------- (Continued) 54.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 5 - INVESTMENT SECURITIES
Amortized cost and fair value of investment securities, by category, at December 31 were as follows (in thousands):
- -------------------------------------------------------------------------------- (Continued) 55.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 5 - INVESTMENT SECURITIES (Continued)
Upon adoption of Financial Accounting Standards Board Statement 133 on January 1, 2001, all of the Company's securities classified as held to maturity were reclassified as available for sale.
The amortized cost and fair value of investment securities at December 31, 2001, by category and contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Proceeds from sales of investment securities during 2001, 2000 and 1999 were $15.4 million, $19.7 million and $40.1 million. Gross gains of $545,000, $7,000 and $44,000, and gross losses of $29,000, $286,000 and $27,000 were realized on those sales.
Investment securities with an approximate carrying value of $87.5 million and $134.1 million at December 31, 2001 and 2000 were pledged to secure public deposits, trust funds, securities sold under agreements to repurchase and for other purposes as required or permitted by law.
- -------------------------------------------------------------------------------- (Continued) 56.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 6 - LOANS
Loans at year-end were as follows (in thousands):
Certain directors and executive officers of the Banks and companies, in which they have beneficial ownership, were loan customers of the Banks during 2001 and 2000. Such loans were made in the ordinary course of business at the Banks' normal credit terms and interest rates.
An analysis of the 2001 activity with respect to all director and executive officer loans is as follows (in thousands):
Activity in the allowance for loan losses was as follows (in thousands):
- -------------------------------------------------------------------------------- (Continued) 57.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 6 - LOANS (Continued)
Impaired loans were as follows. There were no impaired loans for the periods presented without an allowance allocation.
Nonperforming loans include impaired loans and smaller balance homogeneous loans, such as residential mortgage and consumer loans, that are collectively evaluated for impairment.
NOTE 7 - PREMISES AND EQUIPMENT
Year-end premises and equipment were as follows (in thousands):
- -------------------------------------------------------------------------------- (Continued) 58.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 8 - DEPOSITS
At December 31, 2001, the scheduled maturities of time deposits are as follows (in thousands):
Certain directors and executive officers of the Banks and companies, in which they have beneficial ownership, were deposit customers of the Banks during 2001 and 2000. The balance of such deposits at December 31, 2001 and 2000 were approximately $9,926,000 and $10,246,000.
NOTE 9 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase generally mature within one to ninety days from the transaction date. Information concerning securities sold under agreements to repurchase is summarized as follows (in thousands):
- -------------------------------------------------------------------------------- (Continued) 59.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 10 - FEDERAL HOME LOAN BANK ADVANCES
The Banks own stock of the Federal Home Loan Bank (FHLB) of Cincinnati, Ohio. This stock allows the Banks to borrow advances from the FHLB.
All advances are paid either on a monthly basis or at maturity, over remaining terms of one to fourteen years, with interest rates ranging from 1.90% to 8.45%. Advances are secured by the FHLB stock and substantially all single family first mortgage loans of the participating Banks. Scheduled principal payments due on advances during the five years subsequent to December 31, 2001 are as follows (in thousands):
NOTE 11 - OTHER BORROWED FUNDS
The Company has a $20 million line of credit with a financial institution for general corporate purposes, including acquisitions. The line of credit, expiring June 2002, contains certain covenants and performance terms, all of which have been complied with or waiver received thereon at December 31, 2001. Interest is payable at term at LIBOR plus 2.00% and adjusts based on agreed terms. Common stock of four of the Company's subsidiary Banks is pledged to secure the agreement. There was $8 million and $20 million borrowed under this agreement at December 31, 2001 and 2000.
In 2001, the Company entered into a promissory note with a commercial bank which is secured by Boone County Bank common stock. The interest rate is prime rate, and all accrued interest and principal are due at maturity on March 27, 2002. The outstanding balance at December 31, 2001 was $5 million and the interest rate was 4.75%.
- -------------------------------------------------------------------------------- (Continued) 60.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 12 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN COMPANY'S DEBENTURES
Guaranteed preferred beneficial interests in Company's debentures (Preferred Securities) represent preferred beneficial interests in the assets of PFBI Capital Trust (Trust). The Trust holds certain 9.75% junior subordinated debentures due June 30, 2027 issued by the Company on June 9, 1997. Distributions on the Preferred Securities are payable at an annual rate of 9.75% of the stated liquidation amount of $25 per Capital Security, payable quarterly. Cash distributions on the Preferred Securities are made to the extent interest on the debentures is received by the Trust. In the event of certain changes or amendments to regulatory requirements or federal tax rules, the Preferred Securities are redeemable in whole. Otherwise, the Preferred Securities are generally redeemable by the Company in whole or in part on or after June 30, 2002 at 100% of the liquidation amount. The Trust's obligations under the Preferred Securities are fully and unconditionally guaranteed by the Company.
NOTE 13 - INCOME TAXES
The components of the provision for income taxes are as follows (in thousands):
The Company's deferred tax assets and liabilities at December 31 are shown below (in thousands). No valuation allowance for the realization of deferred tax assets is considered necessary.
- -------------------------------------------------------------------------------- (Continued) 61.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 13 - INCOME TAXES (Continued)
An analysis of the differences between the effective tax rates and the statutory U.S. federal income tax rate is as follows (in thousands):
NOTE 14 - EMPLOYEE BENEFIT PLANS
The Company has qualified profit sharing plans that cover substantially all employees. Contributions to the plans consist of a Company match and additional amounts are at the discretion of the Company's Board of Directors. Total contributions to the plans were $264,000, $276,000 and $251,000 in 2001, 2000 and 1999.
- -------------------------------------------------------------------------------- (Continued) 62.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 14 - EMPLOYEE BENEFIT PLANS (Continued)
The Company also maintains the Premier Financial Bancorp, Inc. 1996 Employee Stock Ownership incentive Plan (the Plan), whereby certain employees of the Company are eligible to receive incentive stock options. The Plan is accounted for in accordance with Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued to Employees", and related interpretations. Under the Plan, a maximum of 100,000 shares of the Company's common stock may be issued through the exercise of these incentive stock options. The option price is the fair market value of the Company's shares at the date of the grant. The options are exercisable ten years from the date of grant.
A summary of the Company's stock option activity is as follows:
Although the Company has elected to follow APB No. 25, SFAS No. 123, "Accounting for Stock Based Compensation" requires pro forma disclosure of net income and earnings per share as if the Company had accounted for its employee stock options under that Statement. The fair value of each option grant was estimated on the grant date using an option-pricing model.
- -------------------------------------------------------------------------------- (Continued) 63.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 14 - EMPLOYEE BENEFIT PLANS (Continued)
Under SFAS No. 123, compensation cost is recognized in the amount of the estimated fair value of the options and amortized to expense over the options' vesting period. The pro forma effects on net income and earnings per share of this statement are as follows (in thousands):
Future pro forma net income will be negatively impacted should the Company choose to grant additional options.
NOTE 15 - RELATED PARTY TRANSACTIONS
During 2001, 2000, and 1999, the Company paid approximately $437,000, $391,000, and $432,000 for printing, supplies, furniture, and equipment to a company affiliated by common ownership. The Company also paid this affiliate approximately $1,199,000, $1,066,000, and $820,000 in 2001, 2000, and 1999 to permit the Company's employees to participate in its employee medical benefit plan.
The Company previously held noncumulative perpetual preferred stock with a carrying value of $2.0 million in a Louisiana bank controlled by the Company's largest stockholder. The dividend rate on the preferred stock was 2% over the prevailing prime rate. This stock was sold during 2001 resulting in a gain of $60,000.
- -------------------------------------------------------------------------------- (Continued) 64.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 16 - EARNINGS PER SHARE
A reconciliation of the numerators and denominators of the earnings per common share and earnings per common share assuming dilution computations for 2001, 2000 and 1999 is presented below (in thousands, except per share data):
Stock options for 62,000 shares of common stock were not included in the 2001, 2000 and 1999 computation of earnings per share assuming dilution because their impact was anti-dilutive.
- -------------------------------------------------------------------------------- (Continued) 65.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 17 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair values of the Company's financial instruments at year-end are as follows (in thousands):
Carrying amount is the estimated fair value for cash and cash equivalents, short-term borrowings, Federal Home Loan Bank and Federal Reserve Bank stock, accrued interest receivable and payable, demand deposits, short-term debt, and variable rate loans or deposits that reprice frequently and fully. Security fair values are based on market prices or dealer quotes, and if no such information is available, on the rate and term of the security and information about the issuer. For fixed rate loans or deposits and for variable rate loans or deposits with infrequent repricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. Fair values for impaired loans are estimated using discounted cash flow analysis or underlying collateral values. Fair value of debt is based on current rates for similar financing. The fair value of commitments to extend credit and standby letters of credit is not considered material.
- -------------------------------------------------------------------------------- (Continued) 66.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 18 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Banks are parties to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of their customers. These financial instruments include standby letters of credit and commitments to extend credit in the form of unused lines of credit. The Banks use the same credit policies in making commitments and conditional obligations as they do for on-balance sheet instruments.
At December 31, 2001 and 2000, the Banks had the following financial instruments whose approximate contract amounts represent credit risk (in thousands):
Standby letters of credit represent conditional commitments issued by the Banks to guarantee the performance of a third party. The credit risk involved in issuing these letters of credit is essentially the same as the risk involved in extending loans to customers. Collateral held varies but primarily includes real estate and certificates of deposit. Some letters of credit are unsecured.
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. Outstanding commitments are at current market rates. Fixed rate loan commitments have interest rates ranging from 4% to 18%. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Banks evaluate each customer's creditworthiness on a case-by-case basis. Since some of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Collateral held varies but may include accounts receivable, inventory, property and equipment, and income producing properties.
- -------------------------------------------------------------------------------- (Continued) 67.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 19 - LEGAL PROCEEDINGS
Legal proceedings involving the Company and its subsidiaries periodically arise in the ordinary course of business, including claims by debtors and their related interests against the Company's subsidiaries following initial collection proceedings. These legal proceedings sometimes can involve claims for substantial damages. At December 31, 2001, management is unaware of any legal proceedings, of which the ultimate result would have a material adverse effect upon the consolidated financial statements of the Company.
NOTE 20 - STOCKHOLDERS' EQUITY
The Company's principal source of funds for dividend payments is dividends received from the subsidiary Banks. Banking regulations limit the amount of dividends that may be paid without prior approval of regulatory agencies. Under these regulations, the amount of dividends that may be paid in any calendar year is limited to the current year's net profits, as defined, combined with the retained net profits of the preceding two years, subject to the capital requirements and additional restrictions as discussed below. During 2002, the Banks could, without prior approval, declare dividends of approximately $3.2 million plus any 2002 net profits retained to the date of the dividend declaration.
The Company and the subsidiary Banks are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Banks must meet specific guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices.
These quantitative measures established by regulation to ensure capital adequacy require the Company and Banks to maintain minimum amounts and ratios (set forth in the following table) of Total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). Management believes, as of December 31, 2001, the Company and the Banks meet all quantitative capital adequacy requirements to which they are subject.
- -------------------------------------------------------------------------------- (Continued) 68.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 20 - STOCKHOLDERS' EQUITY (Continued)
The capital amounts and classifications are also subject to qualitative judgments by the regulators. As a result of these qualitative judgments, the Company and two of the Company's subsidiaries have entered into agreements with the applicable regulatory authorities which provide for additional restrictions on their respective capital levels and the payment of dividends. The Company entered into an agreement with the Federal Reserve Bank (FRB) on September 29, 2000 restricting the Company from declaring or paying dividends without prior approval from the FRB. An additional provision of this agreement requires prior approval from the FRB before the Company increases its borrowings or incurs any debt. This agreement is in effect until terminated by the FRB.
Citizens Deposit Bank (Citizens) entered into a Written Agreement with the FRB on September 29, 2000 restricting Citizens from declaring or paying dividends without prior approval. This agreement is in effect until terminated by the FRB. Citizens Tier I capital to average assets was 9.9% at December 31, 2001.
Bank of Germantown (Germantown) entered into an agreement with the Kentucky Department of Financial Institutions (KDFI) and the Federal Deposit Insurance Corporation (FDIC) on June 13, 2000 restricting Germantown from declaring or paying dividends, without prior approval, if its Tier I capital to average assets falls below 8%. This agreement, in effect until terminated by the KDFI and FDIC. Germantown's Tier I capital to average assets was 7.0% at December 31, 2001.
As of December 31, 2001, the most recent notification from the Federal Reserve Bank categorized the Company and its subsidiary banks as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Company must maintain minimum Total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the Company's category.
- -------------------------------------------------------------------------------- (Continued) 69.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 20 - STOCKHOLDERS' EQUITY (Continued)
The Company's and the four largest subsidiary Banks' capital amounts and ratios as of December 31, 2001 and 2000 are presented in the table below (in thousands):
- -------------------------------------------------------------------------------- (Continued) 70.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 21 - PARENT COMPANY FINANCIAL STATEMENTS
- -------------------------------------------------------------------------------- (Continued) 71.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 21 - PARENT COMPANY FINANCIAL STATEMENTS (Continued)
- -------------------------------------------------------------------------------- (Continued) 72.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 21 - PARENT COMPANY FINANCIAL STATEMENTS (Continued)
- -------------------------------------------------------------------------------- (Continued) 73.
PREMIER FINANCIAL BANCORP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2001, 2000 and 1999
- --------------------------------------------------------------------------------
NOTE 22 - QUARTERLY FINANCIAL DATA (UNAUDITED)
- -------------------------------------------------------------------------------- (Continued) 74.
PART III
Item 9.
Item 9. Changes In and Disagreements with Accountants on Accounting and - ------------------------------------------------------------------------ Financial Disclosure --------------------
There have been no changes in or disagreements with accountants on accounting or financial disclosure matters.
Item 10, 11, 12 and 13. Directors and Executive Officers of the Registrant; - ---------------------------------------------------------------------------- Executive Compensation; Security Ownership of Certain Beneficial Owners ----------------------------------------------------------------------- and Management; and Certain Relationships and Related Transactions ------------------------------------------------------------------
The information required by these Items is omitted because the Corporation is filing a definitive proxy statement pursuant to Regulation 14A not later than 120 days after the end of the fiscal year covered by this report which includes the required information. The required information contained in the Corporation's proxy statement is incorporated herein by reference.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K - -------------------------------------------------------------------------
(a) The following documents are filed as part of this report:
1. Financial Statement Schedules:
No financial statement schedules have been included as part of this report because they are either not required or the information is otherwise included.
2. List of Exhibits:
The following is a list of exhibits required by Item 601 of Regulation S-K and by paragraph (c) of this Item 14.
(b) Reports on Form 8-K
On December 26, 2001 an 8-K was filed relating to the disposition of certain assets and liabilities of the Company's Sabina Ohio subsidiary.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, registrant has duly caused this Annual Report on Form 10-K to be signed on its behalf by the undersigned thereunto duly authorized, in the City of Georgetown, Commonwealth of Kentucky, on the 27th day of March, 2002.
PREMIER FINANCIAL BANCORP, INC.
By: /s/ Robert W. Walker, President ------------------------------- Robert W. Walker, President
Pursuant to the requirements of the Securities Exchange Act of 1934, this Annual Report on Form 10-K has been signed below by the following persons on behalf of the registrant in the capacities and on the dates indicated.
Exhibit 21 SUBSIDIARIES OF THE REGISTRANT
The following is a list of all subsidiaries of Premier Financial Bancorp, Inc. and their state of incorporation.