Item 1. Business
The Company is a Pennsylvania business corporation headquartered at 1240 Broadcasting Road, Wyomissing, Pennsylvania 19610. The Company was organized as a bank holding company on January 1, 1986. The Company's election with the Board of Governors of the Federal Reserve System to become a financial holding company became effective on February 7, 2002. The Company offers a wide array of financial services through its various subsidiaries. The Company's executive offices are located at 1240 Broadcasting Road, Wyomissing, Pennsylvania 19610.
The Company's common stock is traded on the NASDAQ Global Market system under the symbol "VIST."
At December 31, 2008, the Company had total assets of $1.2 billion, total shareholders' equity of $122.5 million, and total deposits of $850.6 million.
On December 19, 2008, the Company issued to the United States Department of the Treasury ("Treasury") 25,000 shares of Series A, Fixed Rate, Cumulative Perpetual Preferred Stock ("Series A Preferred Stock"), with a par value of $0.01 per share and a liquidation preference of $1,000 per share, and a warrant ("Warrant") to purchase 364,078 shares of the Company's common stock, par value $5.00 per share, for an aggregate purchase price of $25.0 million in cash (see note 15 of the consolidated financial statements). The issuance of the Series A Preferred Stock also carries certain restrictions with regards to the Company's declaration and payment of cash dividends on common stock and the redemption, purchase or acquisition any shares of Common Stock or other capital stock or other equity securities of any kind of the Company, or any junior subordinate debt (trust preferred securities) issued by the Company or any affiliate of the Company.
Subsidiary Activities
The Bank
The Company's wholly-owned banking subsidiary is VIST Bank ("VIST Bank" or the "Bank"), a Pennsylvania chartered commercial bank. During the year ended December 31, 2000, the charters of The First National Bank of Leesport, incorporated under the laws of the United States of America as a national bank in 1909, and Merchants Bank of Pennsylvania, both wholly-owned banking subsidiaries of the Company at that time, were merged into a single charter. VIST Bank operates in Berks, Schuylkill, Philadelphia, Delaware and Montgomery counties in Pennsylvania.
On October 1, 2004, the Company acquired 100% of the outstanding voting shares of Madison Bancshares Group, Ltd., the holding company for Madison Bank ("Madison"), a Pennsylvania state-chartered commercial bank and its mortgage banking division, Philadelphia Financial Mortgage Company, now known as VIST Mortgage. Madison and VIST Mortgage are both now divisions of VIST Bank. The transaction enhances the Bank's strong presence in Pennsylvania, particularly in the high growth counties of Berks, Philadelphia, Montgomery and Delaware.
VIST Bank had two wholly-owned subsidiaries as of December 31, 2008; VIST Mortgage Holdings, LLC and VIST Realty Solutions, LLC.
VIST Mortgage Holdings, LLC, a Pennsylvania limited liability company, provides mortgage brokerage services, including, without limitation, any activity in which a mortgage broker may engage. It is operated as a permissible "affiliated business arrangement" within the meaning of the Real Estate Settlement Procedures Act of 1974. VIST Mortgage Holdings, LLC is currently inactive.
VIST Realty Solutions, LLC, a Pennsylvania limited liability company, provides title insurance and other real estate related services to the Company's customers through limited partnership arrangements with unaffiliated third parties involved in the real estate services industry. The capital contributions of VIST Realty Solutions, LLC in connection with the formation of each of the limited partnerships were not material. None of the limited partnership arrangements involves the use of a special purposes entity for financial accounting purposes or any off-balance sheet financing technique. On October 29, 2008, VIST Realty Solutions, LLC dissolved its operations by selling its partnership interest to the remaining limited partnerships for an amount which approximated its initial capital contribution. Neither the Company nor any other affiliate of the Company nor VIST Realty Solutions, LLC has any continuing contractual financial commitment to the limited partnerships.
Commercial and Retail Banking
VIST Bank provides services to its customers through seventeen full service financial centers, which operate under VIST Bank's name in Leesport, Blandon, Bern Township, Wyomissing, Breezy Corner, Hamburg, Birdsboro, Northeast Reading, Exeter Township, and Sinking Spring all of which are in Berks County, Pennsylvania. VIST Bank also operates a financial center in Schuylkill Haven, which is located in Schuylkill County, Pennsylvania. VIST Bank also operates financial centers in Blue Bell, Conshohocken, Oaks and Centre Square all of which are in Montgomery County, Pennsylvania. The Bank closed its Horsham financial center in 2008. The Bank also operates a financial center in Fox Chase (northeast Philadelphia) in Philadelphia County, Pennsylvania and Strafford in Delaware County, Pennsylvania. The Bank also operates a limited service facility in Wernersville, Berks County, Pennsylvania. All full service financial centers provide automated teller machine services. Each financial center, except the Wernersville and Breezy Corner locations, provides drive-in facilities.
VIST Bank engages in full service commercial and consumer banking business, including such services as accepting deposits in the form of time, demand and savings accounts. Such time deposits include certificates of deposit, individual retirement accounts and Roth IRAs. The Bank's savings accounts include money market accounts, health savings accounts, club accounts, NOW accounts and traditional regular savings accounts. In addition to accepting deposits, the Bank makes both secured and unsecured commercial and consumer loans, finances commercial transactions, provides equipment lease and accounts receivable financing and makes construction and mortgage loans, including home equity loans. The Bank also provides small business loans and other services including rents for safe deposit facilities.
At December 31, 2008, the Company and VIST Bank had the equivalent of 293 and 194 full-time employees, respectively.
Mortgage Banking
VIST Bank provides mortgage banking services to its customers through VIST Mortgage. VIST Mortgage operates offices in Reading and Blue Bell, which are located in Berks County, Pennsylvania, Schuylkill County, Pennsylvania and Montgomery County, Pennsylvania, respectively. In 2008, VIST Mortgage closed its Camp Hill office which was located in Cumberland County, Pennsylvania.
Insurance
VIST Insurance, LLC ("VIST Insurance"), a full service insurance agency, offers a full line of personal and commercial property and casualty insurance as well as group insurance for businesses, employee and group benefit plans, and life insurance. VIST Insurance is headquartered in Reading, Pennsylvania with sales offices at 108 South Fifth Street, Reading, Pennsylvania; 460 Norristown Road, Blue Bell, Pennsylvania; and 1240 Broadcasting Road, Wyomissing, Pennsylvania. VIST Insurance had 64 full-time employees at December 31, 2008.
Wealth Management
VIST Capital Management LLC, ("VIST Capital"), a full service investment advisory and brokerage services company, offers a full line of products and services for individual financial planning, retirement and estate planning, investments, corporate and small business pension and retirement planning. VIST Capital is headquartered at 1240 Broadcasting Road, Wyomissing, Pennsylvania and had 7 full-time employees at December 31, 2008.
Equity Investments
Health Savings Accounts-In July 2005, the Company purchased a 25% equity position in First HSA, LLC a national health savings account ("HSA") administrator. The investment formalized a relationship that existed since 2001. This relationship has allowed the Company to be a custodian for HSA customers throughout the country. At December 31, 2008, the Company has more than 29,908 accounts with approximately $56.4 million in deposits. The HSA relationship has given the Company a strong presence in the HSA business and will continue to benefit the Company by raising deposits in 2009.
Junior Subordinated Debt
The Company owns First Leesport Capital Trust I (the "Trust"), a Delaware statutory business trust formed on March 9, 2000, in which the Company owns all of the common equity. The Trust has outstanding $5 million of 10.875% fixed rate mandatory redeemable capital securities. These securities must be redeemed in March 2030, but may be redeemed on or after March 9, 2010 or earlier in the event that the interest expense becomes non-deductible for federal income tax purposes or if these securities no longer qualify as Tier 1 capital for the Company. In October, 2002 the Company entered into an interest rate swap agreement that effectively converts the securities to a floating interest rate of six month LIBOR plus 5.25%. In June, 2003 the Company purchased a six month LIBOR cap to create protection against rising interest rates for the interest rate swap.
On September 26, 2002, the Company established Leesport Capital Trust II, a Delaware statutory business trust, in which the Company owns all of the common equity. Leesport Capital Trust II issued $10 million of mandatory redeemable capital securities carrying a floating interest rate of three month LIBOR plus 3.45%. These securities must be redeemed in September 2032, but may be redeemed on or after November 7, 2007 or earlier in the event that the interest expense becomes non-deductible for federal income tax purposes or if these securities no longer qualify as Tier 1 capital for the Company. The Company opted not to redeem these capital securities in 2008 due to unfavorable economic conditions and interest rates. The Company will continue to evaluate the feasibility of redeeming these capital securities. In September 2008, the Company entered into an interest rate swap agreement that effectively converts the $10 million of adjustable-rate capital securities to a fixed interest rate of 7.25%. The effective date of the swap transaction is February 2009.
On June 26, 2003, Madison established Madison Statutory Trust I, a Connecticut statutory business trust. Pursuant to the purchase of Madison on October 1, 2004, the Company assumed Madison Statutory Trust I in which the Company owns all of the common equity. Madison Statutory Trust I issued $5 million of mandatory redeemable capital securities carrying a floating interest rate of three month LIBOR plus 3.10%. These securities must be redeemed in June 2033, but may be redeemed on or after September 26, 2008 or earlier in the event that the interest expense becomes non-deductible for federal income tax purposes or if the treatment of these securities is no longer qualified as Tier 1 capital for the Company. The Company opted not to redeem these capital securities in 2008 due to unfavorable economic conditions and interest rates. The Company will continue to evaluate the feasibility of redeeming these capital securities. In September 2008, the Company entered into an interest rate swap agreement that effectively converts the $5 million of adjustable-rate capital securities to a fixed interest rate of 6.90%. The effective date of the swap transaction is March 2009.
Prior to the earlier of the third anniversary date of the issuance of the Series A Preferred Stock issued to Treasury (December 19, 2011) or the date on which the Series A Preferred Stock has been redeemed in whole or the Treasury has transferred all of the Series A Preferred Stock to third parties which are not affiliates of the Treasury, neither the Company nor any of its subsidiaries are permitted to, redeem, purchase or acquire any trust preferred securities issued by the Company or any affiliate of the Company without the consent of the Treasury.
Competition
The Company faces substantial competition in originating loans, in attracting deposits, and generating fee-based income. This competition comes principally from other banks, savings institutions, credit unions, mortgage banking companies and, with respect to deposits, institutions offering investment alternatives, including money market funds. Competition also comes from other insurance agencies and direct writing insurance companies. Due to the passage of landmark banking legislation in November 1999, competition may increasingly come from insurance companies, large securities firms and other financial services institutions. As a result of consolidation in the banking industry, some of the Company's competitors and their respective affiliates may enjoy advantages such as greater financial resources, a wider geographic presence, a wider array of services, or more favorable pricing alternatives and lower origination and operating costs.
Supervision and Regulation
General
The Company is registered as a bank holding company, which has elected to be treated as a financial holding company, and is subject to supervision and regulation by the Board of Governors of the Federal Reserve System under the Bank Holding Act of 1956, as amended. As a bank holding company, the Company's activities and those of its bank subsidiary are limited to the business of banking and activities closely related or incidental to banking. Bank holding companies are required to file periodic reports with and are subject to examination by the Federal Reserve Board. The Federal Reserve Board has issued regulations under the Bank Holding Company Act that require a bank holding company to serve as a source of financial and managerial strength to its subsidiary banks. As a result, the Federal Reserve Board, pursuant to such regulations, may require the Company to stand ready to use its resources to provide adequate capital funds to its bank subsidiary during periods of financial stress or adversity.
The Bank Holding Company Act prohibits the Company from acquiring direct or indirect control of more than 5% of the outstanding shares of any class of voting stock, or substantially all of the assets of any bank, or from merging or consolidating with another bank holding company, without prior approval of the Federal Reserve Board. Additionally, the Bank Holding Company Act prohibits the Company from engaging in or from acquiring ownership or control of more than 5% of the outstanding shares of any class of voting stock of any company engaged in a non-banking business, unless such business is determined by the Federal Reserve Board to be so closely related to banking as to be a proper incident thereto. The types of businesses that are permissible for bank holding companies to own were expanded by the Gramm-Leach-Bliley Act in 1999.
As a Pennsylvania bank holding company for purposes of the Pennsylvania Banking Code, the Company is also subject to regulation and examination by the Pennsylvania Department of Banking.
The Company is under the jurisdiction of the Securities and Exchange Commission and of state securities commissions for matters relating to the offering and sale of its securities. In addition, the Company is subject to the Securities and Exchange Commission's rules and regulations relating to periodic reporting, proxy solicitation, and insider trading.
Regulation of VIST Bank
VIST Bank is a Pennsylvania chartered commercial bank, and its deposits are insured (up to applicable limits) by the Federal Deposit Insurance Corporation (the "FDIC"). The Bank is subject to regulation and examination by the Pennsylvania Department of Banking and by the FDIC. The Community Reinvestment Act requires VIST Bank to help meet the credit needs of the entire
community where VIST Bank operates, including low and moderate income neighborhoods. VIST Bank's rating under the Community Reinvestment Act, assigned by the FDIC pursuant to an examination of VIST Bank, is important in determining whether the Bank may receive approval for, or utilize certain streamlined procedures in, applications to engage in new activities.
VIST Bank is also subject to requirements and restrictions under federal and state law, including requirements to maintain reserves against deposits, restrictions on the types and amounts of loans that may be granted and the interest that may be charged thereon, and limitations on the types of investments that may be made and the types of services that may be offered. Various consumer laws and regulations also affect the operations of VIST Bank. In addition to the impact of regulation, commercial banks are affected significantly by the actions of the Federal Reserve Board as it attempts to control the money supply and credit availability in order to influence the economy.
Capital Adequacy Guidelines
Bank holding companies are required to comply with the Federal Reserve Board's risk-based capital guidelines. The required minimum ratio of total capital to risk-weighted assets (including certain off-balance sheet activities, such as standby letters of credit) is 8%. At least half of the total capital is required to be "Tier 1 capital," consisting principally of common shareholders' equity, less certain intangible assets. The remainder ("Tier 2 capital") may consist of certain preferred stock, a limited amount of subordinated debt, certain hybrid capital instruments and other debt securities, and a limited amount of the general loan loss allowance. The risk-based capital guidelines are required to take adequate account of interest rate risk, concentration of credit risk, and risks of nontraditional activities.
In addition to the risk-based capital guidelines, the Federal Reserve Board requires a bank holding company to maintain a leverage ratio of a minimum level of Tier 1 capital (as determined under the risk-based capital guidelines) equal to 3% of average total consolidated assets for those bank holding companies which have the highest regulatory examination ratings and are not contemplating or experiencing significant growth or expansion. All other bank holding companies are required to maintain a ratio of at least 1% to 2% above the stated minimum. The Pennsylvania Department of Banking requires state chartered banks to maintain a 6% leverage capital level and 10% risk based capital, defined substantially the same as the federal regulations. The Bank is subject to almost identical capital requirements adopted by the FDIC.
Prompt Corrective Action Rules
The federal banking agencies have regulations defining the levels at which an insured institution would be considered "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" and "critically undercapitalized." The applicable federal bank regulator for a depository institution could, under certain circumstances, reclassify a "well-capitalized" institution as "adequately capitalized" or require an "adequately capitalized" or "undercapitalized" institution to comply with supervisory actions as if it were in the next lower category. Such a reclassification could be made if the regulatory agency determines that the institution is in an unsafe or unsound condition (which could include unsatisfactory examination ratings). The Company and the Bank each satisfy the criteria to be classified as "well capitalized" within the meaning of applicable regulations.
Regulatory Restrictions on Dividends
Dividend payments made by VIST Bank to the Company are subject to the Pennsylvania Banking Code, the Federal Deposit Insurance Act, and the regulations of the FDIC. Under the Banking Code, no dividends may be paid except from "accumulated net earnings" (generally, retained earnings). The Federal Reserve Board and the FDIC have formal and informal policies which provide that insured banks and bank holding companies should generally pay dividends only out of current operating
earnings, with some exceptions. The Prompt Corrective Action Rules, described above, further limit the ability of banks to pay dividends if they are not classified as well capitalized or adequately capitalized.
Under these policies and subject to the restrictions applicable to the Bank, the Bank had approximately $9.6 million available for payment of dividends to the Company at December 31, 2008, without prior regulatory approval.
FDIC Insurance Assessments
In February 2006, deposit insurance modernization legislation was enacted. Effective March 31, 2006, the law merged the BIF Fund and the SAIF Fund into a single Deposit Insurance Fund, increased deposit insurance coverage for IRAs to $250,000, provided for the future increase of deposit insurance on all accounts by authorizing the FDIC to index the coverage to the rate of inflation, authorized the FDIC to set the reserve ratio of the combined Deposit Insurance Fund at a level between 1.15% and 1.50%, and permited the FDIC to establish assessments to be paid by insured banks. On October 3, 2008, in response to the ongoing economic crisis affecting the financial services industry, the Emergency Economic Stabilization Act of 2008 was enacted which raised the basic limit on federal deposit insurance coverage from $100,000 to $250,000 per depositor. This legislation provides that the basic deposit insurance limit will return to $100,000 after December 31, 2009.
The FDIC has implemented a risk-related premium schedule for all insured depository institutions that results in the assessment of premiums based on capital adequacy and supervisory measures as well as certain financial ratios. Deposit insurance assessment rates are billed quarterly and in arrears. The current assessment rate calculation is valid only for Risk Category I or well-capitalized institutions with minimum composite CAMELS ratings as of the end of the quarterly assessment period. Only institutions with a total capital to risk-adjusted assets ratio of 10% or greater, a Tier 1 capital to risk-based assets ratio of 6% or greater, and a Tier 1 leverage ratio of 5% or greater, are assigned to the well-capitalized group. As of December 31, 2008, the Bank was well capitalized for purposes of calculating FDIC insurance assessments.
The FDIC's Board of Directors has adopted minimum and maximum assessment rates for Risk Category I institutions of 5.0 basis points and 7.0 basis points, respectively, beginning in 2007. Based on the FDIC assessment rate calculation at December 31, 2008, the Bank's FDIC assessment rate is 6.59 basis points. On December 16, 2008, the FDIC Board of Directors approved the final rule on deposit insurance assessment rates for the first quarter of 2009. The rule raises assessment rates uniformly by 7 basis points (annual rate) for the first quarter of 2009 only. Annual rates applicable to the first quarter 2009 assessments, which would be collected at the end of June 2009, are as follows:
Risk Category I: 12 - 14 basis points;
Risk Category II: 17 basis points;
Risk Category III: 35 basis points; and
Risk Category IV: 50 basis points.
On February 27, 2009, the FDIC Board of Directors took further action to strengthen the Deposit Insurance Fund ("DIF") by adopting an interim rule imposing a special assessment on insured institutions of 20 basis points on June 30, 2009, with the option of imposing an emergency special assessment after June 30, 2009 of up to 10 basis points, adopting a final rule implementing changes to the risk-based assessment system, and setting assessment rates beginning with the second quarter of 2009. The ultimate goal of these FDIC actions is to restore the DIF reserve ratio to 1.15% within the next seven years. The FDIC increased the DIF reserve ratio restoration period from five to seven years due to recent economic pressures impacting banks and the financial system. Based on our most recent FDIC deposit insurance assessment base, the special assessment on insured institutions of 20 basis points, if implemented, would increase our FDIC deposit insurance premiums by approximately $1.6 million in 2009.
Assessment rates beginning April 1, 2009 will increase. Banks in the top tier risk category currently pay any where from 12 cents per $100 of deposits to 14 cents per $100 of deposits for FDIC insurance. FDIC insurance assessment rates for these banks will increase and will now include an initial base rate of between 12 cents per $100 of deposits to 16 cents per $100 of deposits with higher assessment rates for those institutions that rely significantly on secured borrowings and brokered deposits. The FDIC will reduce assessment rates for smaller banks, banks with high levels of tier 1 capital and banks that hold long-term unsecured debt.
In 2008, the Bank paid $493,600 in FDIC deposit insurance premiums, however, it is subject to assessments to pay the interest on Financing Corporation ("FICO") bonds. The Financing Corporation was created by Congress to issue bonds to finance the resolution of failed thrift institutions. Prior to 1997, only thrift institutions were subject to assessments to raise funds to pay the FICO bonds. Beginning in 2000, commercial banks and thrifts are subject to the same assessment for FICO bonds. The FDIC sets the Financing Corporation assessment rate every quarter. The current FICO bond assessment for the Bank is $.0114, annualized, for each $100 of deposits. The deposit insurance modernization legislation does not affect the authority of the Financing Corporation to collect these assessments.
FDIC Temporary Liquidity Guarantee Program
On October 14, 2008, the FDIC announced the Temporary Liquidity Guarantee Program (TLG Program) to strengthen confidence and encourage liquidity in the banking system. The TLG Program consists of two components: a temporary guarantee of newly issued senior unsecured debt (the Debt Guarantee Program) and a temporary unlimited guarantee of funds in noninterest-bearing transaction accounts at FDIC-insured institutions (the Transaction Account Guarantee Program).
The TLG Program became effective on October 14, 2008. All eligible entities were covered under the TLG Program for the first 30 days of the TLG Program. No later than December 5, 2008, each eligible entity mandatory informed the FDIC of its desired to opt out of the Debt Guarantee Program or the Transaction Account Guarantee Program, or both. The decision to opt out is irrevocable. Failure to opt out of either component by December 5, 2008, constituted an irrevocable decision to continue participation in that component. For each component, a U.S. Bank Holding Company and all of its affiliates that are eligible entities must have made the same election regarding participation. Similarly, for each component, a U.S. Savings and Loan Holding Company and all of its affiliates that are eligible entities must have made the same election regarding participation. For example, if one member of a holding company group opted out with respect to the Debt Guarantee Program, then all eligible entities within the same group are also deemed to have opted out. Entities that opted out were subject to certain disclosure requirements, as specified in Part 370 of the FDIC's regulations.
No entity was charged for the first 30 days of the TLG Program. Any eligible entity that opted out of the Program on or before December 5, 2008, did not pay any assessment under the Program. Any eligible entity that did not opt out on or before December 5, 2008, was required to pay assessments retroactive to November 13, 2008. The assessments associated with the TLG Program, as outlined in the Final Rule, are as follows:
All new issued senior unsecured debt as defined in the regulation was charged an annualized assessment of up to 100 basis points (depending on debt term) multiplied by the amount of debt issued, and calculated through the date of that debt or June 30, 2012, whichever is earlier.
Holding companies and other non-insured depository institutions in a holding company structure may be assessed an additional 10 basis points under certain circumstances, as described in the Final Rule.
Amounts exceeding the existing deposit insurance limit of $250,000 in any noninterest-bearing transaction accounts as defined in the regulation will be assessed an annualized 10 basis points collected quarterly for coverage through December 31, 2009.
Any eligible entity that did not opt out of the Debt Guarantee Program notified the FDIC of the amount of outstanding senior unsecured debt as of September 30, 2008 that is scheduled to mature on or before June 30, 2009, for purposes of determining the maximum guaranteed amount under this component.
The Company and the Bank are participating in the Debt Guarantee Program and the Transaction Account Guarantee Program. For both the Company and the Bank, the total amount of outstanding senior unsecured debt as defined in the regulation as of September 30, 2008, that is scheduled to mature on or before June 30, 2009, was $0.
If a participating entity wanted to have the option of issuing certain non-guaranteed senior unsecured debt before issuing the maximum amount of guaranteed debt, it could have elected to do so. Election of this option requires a participating entity to pay an upfront nonrefundable fee in exchange for which it will be able to issue, at any time and without regard to the cap, non-guaranteed senior unsecured debt with a maturity date after June 30, 2012. The nonrefundable fee would be equal to 37.5 basis points of the par or face value of senior unsecured debt, excluding debt extended to affiliates or institution affiliated parties, outstanding as of September 30, 2008, that is scheduled to mature on or before June 30, 2009. An entity electing the nonrefundable fee option will be billed as it issues guaranteed debt under the Debt Guarantee Program, and the amounts paid as a nonrefundable fee will offset these bills until the nonrefundable fee is exhausted. Thereafter, the institution must pay an additional assessment for guaranteed debt as it issues the debt. Both the Company and the Bank declined the option of issuing certain non-guaranteed senior unsecured debt before issuing the maximum amount of guaranteed debt.
Federal Home Loan Bank System
The Bank is a member of the Federal Home Loan Bank of Pittsburgh (the "FHLB"), which is one of 12 regional Federal Home Loan Banks. Each Federal Home Loan Bank serves as a reserve or central bank for its members within its assigned region. It is funded primarily from funds deposited by member institutions and proceeds from the sale of consolidated obligations of the Federal Home Loan Bank System. It makes loans to members (i.e., advances) in accordance with policies and procedures established by the board of directors of the Federal Home Loan Bank. At December 31, 2008, the Bank had $53.4 million in short-term FHLB advances outstanding and $50.0 million in longer-term FHLB advances outstanding.
As a member, the Bank is required to purchase and maintain stock in the FHLB in an amount equal to the greater of 1% of its aggregate unpaid residential mortgage loans, home purchase contracts or similar obligations at the beginning of each year or 5% of its outstanding advances from the FHLB. At December 31, 2008, the Bank had $5.7 million in stock of the FHLB which was in compliance with this requirement.
Emergency Economic Stabilization Act of 2008
The Emergency Economic Stabilization Act of 2008 ("EESA") was enacted on October 3, 2008. EESA enables the federal government, under terms and conditions to be developed by the Secretary of the Treasury, to insure troubled assets, including mortgage-backed securities, and collect premiums from participating financial institutions. EESA includes, among other provisions: (a) the $700 billion Troubled Assets Relief Program ("TARP"), under which the Secretary of the Treasury is authorized to purchase, insure, hold, and sell a wide variety of financial instruments, particularly those that are based on or related to residential or commercial mortgages originated or issued on or before March 14, 2008; and (b) an increase in the amount of deposit insurance provided by the FDIC.
Under the TARP, the United States Department of Treasury authorized a voluntary Capital Purchase Program to purchase up to $250 billion of senior preferred shares of qualifying financial institutions that elected to participate by November 14, 2008. As previously disclosed, on
December 19, 2008, the Company issued to Treasury, 25,000 shares of Series A Preferred Stock and a warrant to purchase 364,078 shares of the Company's common stock for an aggregate purchase price of $25.0 million under the TARP Capital Purchase Program (see note 15 to notes to consolidated financial statements). Companies participating in the TARP Capital Purchase Program were required to adopt certain standards relating to executive compensation. The terms of the TARP Capital Purchase Program also limit certain uses of capital by the issuer, including with respect to repurchases of securities and increases in dividends.
Financial Stability Plan
On February 10, 2009, the Financial Stability Plan ("FSP") was announced by the U.S. Treasury Department. The FSP is a comprehensive set of measures intended to bolster the financial system. The core elements of the FSP include making bank capital injections, creating a public-private investment fund to buy troubled assets, establishing guidelines for loan modification programs and expanding the Federal Reserve lending program. Treasury has indicated more details regarding the FSP are to be announced on a newly created government website, FinancialStability.gov, in the next several weeks.
American Recovery and Reinvestment Act of 2009
On February 17, 2009, the American Recovery and Reinvestment Act of 2009 ("ARRA") was enacted. ARRA is intended to provide a stimulus to the U.S. economy in the wake of the economic downturn brought about by the subprime mortgage crisis and the resulting credit crunch. The bill includes federal tax cuts, expansion of unemployment benefits and other social welfare provisions, and domestic spending in education, healthcare, and infrastructure, including the energy structure. The new law also includes certain noneconomic recovery related items, including a limitation on executive compensation in federally aided financial institutions, including institutions, such as the Company, that had previously received an investment by Treasury under the TARP Capital Purchase Program.
Under ARRA, an institution that either will receive funds or which had previously received funds under TARP, will be subject to certain restrictions and standards throughout the period in which any obligation arising under TARP remains outstanding (except for the time during which the federal government holds only warrants to purchase common stock of the issuer). The following summarizes the significant requirements of ARRA, which are to be included in standards to be established by Treasury:
•limits on compensation incentives for risks by senior executive officers;
•a requirement for recovery of any compensation paid based on inaccurate financial information;
•a prohibition on "golden parachute payments" to specified officers or employees, which term is generally defined as any payment for departure from a company for any reason;
•a prohibition on compensation plans that would encourage manipulation of reported earnings to enhance the compensation of employees;
•a prohibition on bonus, retention award, or incentive compensation to designated employees, except in the form of long-term restricted stock;
•a requirement that the board of directors adopt a luxury expenditures policy;
•a requirement that shareholders be permitted a separate nonbinding vote on executive compensation;
•a requirement that the chief executive officer and the chief financial officer provide a written certification of compliance with the standards, when established, to the SEC.
Under ARRA, subject to consultation with the appropriate federal banking agency, Treasury is required to permit a recipient of TARP funds to repay any amounts previously provided to or invested in the recipient by Treasury without regard to whether the institution has replaced the funds from any
other source or to any waiting period. These provisions of ARRA relating to repayment of an investment by Treasury are different from the terms originally adopted under Treasury's Capital Purchase Program and reflected in the transaction documents executed by the Company on December 19, 2008. Treasury has confirmed that recipients of funds under the Capital Purchase Program may repay them irrespective of funding dates notwithstanding the terms of the original transaction documents.
Homeowner Affordability and Stability Plan
On February 18, 2009, the Homeowner Affordability and Stability Plan ("HASP") was announced by the President. HASP is intended to support a recovery in the housing market and ensure that workers can continue to pay off their mortgages by providing access to low-cost refinancing for responsible homeowners suffering from falling home prices, implementing a $75 billion homeowner stability initiative to prevent foreclosure and help responsible families stay in their homes, and supporting low mortgage rates by strengthening confidence in Fannie Mae and Freddie Mac. More details regarding HASP are expected to be announced on March 4, 2009. We continue to monitor these developments and assess their potential impact on the business of the Company and the Bank.
Other Legislation
The Gramm-Leach-Bliley Act, passed in 1999, dramatically changed certain banking laws. One of the most significant changes was that the separation between banking and the securities businesses mandated by the Glass-Steagall Act has now been removed, and the provisions of any state law that prohibits affiliation between banking and insurance entities have been preempted. Accordingly, the legislation now permits firms engaged in underwriting and dealing in securities, and insurance companies, to own banking entities, and permits bank holding companies (and in some cases, banks) to own securities firms and insurance companies. The provisions of federal law that preclude banking entities from engaging in non-financially related activities, such as manufacturing, have not been changed. For example, a manufacturing company cannot own a bank and become a bank holding company, and a bank holding company cannot own a subsidiary that is not engaged in financial activities, as defined by the regulators.
The legislation creates a new category of bank holding company called a "financial holding company." In order to avail itself of the expanded financial activities permitted under the law, a bank holding company must notify the Federal Reserve Board ("Federal Reserve") that it elects to be a financial holding company. A bank holding company can make this election if it, and all its bank subsidiaries, are well capitalized, well managed, and have at least a satisfactory Community Reinvestment Act rating, each in accordance with the definitions prescribed by the Federal Reserve and the regulators of the subsidiary banks. Once a bank holding company makes such an election, and provided that the Federal Reserve does not object to such election by such bank holding company, the financial holding company may engage in financial activities (i.e., securities underwriting, insurance underwriting, and certain other activities that are financial in nature as to be determined by the Federal Reserve) by simply giving a notice to the Federal Reserve within thirty days after beginning such business or acquiring a company engaged in such business. This makes the regulatory approval process to engage in financial activities much more streamlined than under prior law. On February 7, 2002, the Company's election with the Board of Governors of the Federal Reserve System to become a financial holding company became effective.
The Sarbanes-Oxley Act of 2002 was enacted to enhance penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures under the federal securities laws. The Sarbanes-Oxley Act generally applies to all companies, including the Company, that file or are required to file periodic reports with the Securities and Exchange Commission under the Securities Exchange Act of 1934, or the Exchange Act. The legislation includes provisions, among other things, governing the services that can be
provided by a public company's independent auditors and the procedures for approving such services, requiring the chief executive officer and chief financial officer to certify certain matters relating to the company's periodic filings under the Exchange Act, requiring expedited filings of reports by insiders of their securities transactions and containing other provisions relating to insider conflicts of interest, increasing disclosure requirements relating to critical financial accounting policies and their application, increasing penalties for securities law violations, and creating a new Public Company Accounting Oversight Board ("PCAOB"), a regulatory body subject to SEC jurisdiction with broad powers to set auditing, quality control and ethics standards for accounting firms. In connection with this legislation, the national securities exchanges and Nasdaq have adopted rules relating to certain matters, including the independence of members of a company's audit committee, as a condition to listing or continued listing. The Company does not believe that the application of these rules to the Company will have a material effect on its business, financial condition or results of operations.
The USA PATRIOT Act, enacted in direct response to the terrorist attacks on September 11, 2001, strengthens the anti-money laundering provisions of the Bank Secrecy Act. Many of the new provisions added by the Act apply to accounts at or held by foreign banks, or accounts of or transactions with foreign entities. While the Bank does not have a significant foreign business, the new requirements of the Bank Secrecy Act still require the Bank to use proper procedures to identify its customers. The Act also requires the banking regulators to consider a bank's record of compliance under the Bank Secrecy Act in acting on any application filed by a bank. As the Bank is subject to the provisions of the Bank Secrecy Act (i.e., reporting of cash transactions in excess of $10,000), the Bank's record of compliance in this area will be an additional factor in any applications filed by it in the future. To the Bank's knowledge, its record of compliance in this area is satisfactory.
The Fair and Accurate Credit Transaction Act was adopted in 2003. It extends and expands upon provisions in the Fair Credit Reporting Act, affecting the reporting of delinquent payments by customers and denials of credit applications. The revised act imposes additional record keeping, reporting, and customer disclosure requirements on all financial institutions, including the Bank. Also in late 2003, the Check 21 Act was adopted. This Act affects the way checks can be processed in the banking system, allowing payments to be converted to electronic transfers rather than processed as traditional paper checks.
Congress is often considering some financial industry legislation, and the federal banking agencies routinely propose new regulations. The Company cannot predict how any new legislation, or new rules adopted by the federal banking agencies, may affect its business in the future.
VIST Insurance and VIST Capital are subject to additional regulatory requirements. VIST Insurance is subject to Pennsylvania insurance laws and the regulations of the Pennsylvania Department of Insurance. The securities brokerage activities of VIST Capital are subject to regulation by the SEC and the NASD/SIPC, and VIST Capital is a registered investment advisor subject to regulation by the SEC.
Item 1A.
Item 1A. Risk Factors
Recent legislative and regulatory initiatives to address difficult market and economic conditions may not stabilize the U.S. banking system.
On October 3, 2008, President Bush signed into law the Emergency Economic Stabilization Act of 2008 (the "EESA") which, among other measures, authorizes Treasury to purchase from financial institutions and their holding companies up to $700 billion in mortgage loans, mortgage-related securities and certain other financial instruments, including debt and equity securities issued by financial institutions and their holding companies, under a troubled asset relief program, or "TARP." The purpose of TARP is to restore confidence and stability to the U.S. banking system and to encourage financial institutions to increase their lending to customers and to each other. Under the TARP Capital Purchase Program, Treasury is purchasing equity securities from participating institutions.
EESA also increased federal deposit insurance on most deposit accounts from $100,000 to $250,000. This increase is in place until the end of 2009 and is not covered by deposit insurance premiums paid by the banking industry.
EESA followed, and has been followed by, numerous actions by the Board of Governors of the Federal Reserve System, the U.S. Congress, Treasury, the FDIC, the SEC and others to address the current liquidity and credit crisis that has followed the sub-prime meltdown that commenced in 2007. These measures include homeowner relief that encourage loan restructuring and modification; the establishment of significant liquidity and credit facilities for financial institutions and investment banks; the lowering of the federal funds rate; emergency action against short selling practices; a temporary guaranty program for money market funds; the establishment of a commercial paper funding facility to provide back-stop liquidity to commercial paper issuers; and coordinated international efforts to address illiquidity and other weaknesses in the banking sector.
On October 14, 2008, the FDIC announced the establishment of a temporary liquidity guarantee program to provide full deposit insurance for all non-interest bearing transaction accounts and guarantees of certain newly issued senior unsecured debt issued by FDIC-insured institutions and their holding companies. Insured institutions were automatically covered by this program from October 14, 2008 until December 5, 2008, unless they opted out prior to that date. Under the program, the FDIC will guarantee timely payment of newly issued senior unsecured debt issued on or before June 30, 2009. The debt includes all newly issued unsecured senor debt including promissory notes, commercial paper and inter-bank funding. The aggregate coverage for an institution may not exceed 125% of its debt outstanding on September 30, 2008 that was scheduled to mature before June 30, 2009, or, for certain insured institutions, 2% of liabilities as of September 30, 2008. The guarantee will extend to June 30, 2012 even if the maturity of the debt is after that date.
The purpose of these legislative and regulatory actions is to stabilize the U.S. banking system. EESA and the other regulatory initiatives described above may not have their desired effects. If the volatility in the markets continues and economic conditions fail to improve or worsen, our business, financial condition, results of operations and cash flows could be materially and adversely affected.
Difficult market conditions and economic trends have adversely affected our industry and our business.
We are particularly exposed to downturns in the U. S. housing market. Dramatic declines in the housing market over the past year, with decreasing home prices and increasing delinquencies and foreclosures, may have a negative impact on the credit performance of mortgage, consumer, commercial and construction loan portfolios resulting in significant write-downs of assets by many financial institutions. In addition, the values of real estate collateral supporting many loans have declined and may continue to decline. General downward economic trends, reduced availability of commercial credit and increasing unemployment may negatively impact the credit performance of commercial and consumer credit, resulting in additional write-downs. Concerns over the stability of the financial markets and the economy have resulted in decreased lending by financial institutions to their customers and to each other. This market turmoil and tightening of credit has led to increased commercial and consumer deficiencies, lack of customer confidence, increased market volatility and widespread reduction in general business activity. Competition among depository institutions for deposits has increased significantly. Financial institutions have experienced decreased access to deposits or borrowings. The resulting economic pressure on consumers and businesses and the lack of confidence in the financial markets may adversely affect our business, financial condition, results of operations and stock price. We do not expect that the difficult market conditions will improve in the near future. A worsening of these conditions would likely exacerbate the adverse effects of these
difficult market conditions on us and others in the industry. In particular, we may face the following risks in connection with these events:
•We expect to face increased regulation of our industry. Compliance with such regulation may increase our costs and limit our ability to pursue business opportunities.
•Our ability to assess the creditworthiness of customers and to estimate the losses inherent in our credit exposure is made more complex by these difficult market and economic conditions.
•We also may be required to pay even higher Federal Deposit Insurance Corporation premiums than the recently increased level, because financial institution failures resulting from the depressed market conditions have depleted and may continue to deplete the deposit insurance fund and reduce its ratio of reserves to insured deposits.
•Our ability to borrow from other financial institutions or the Federal Home Loan Bank on favorable terms or at all could be adversely affected by further disruptions in the capital markets or other events.
•We may experience a prolonged decrease in dividend income from our investment in Federal Home Loan Bank stock.
•We may experience increases in foreclosures, delinquencies and customer bankruptcies, as well as more restricted access to funds.
Current levels of market volatility are unprecedented.
The capital and credit markets have been experiencing volatility and disruption for more than a year. In recent months, the volatility and disruption has reached unprecedented levels. In some cases, the markets have produced downward pressure on stock prices and credit availability for certain issuers without regard to those issuers' underlying financial strength. If current levels of market disruption and volatility continue or worsen, there can be no assurance that we will not experience an adverse effect, which may be material, on our ability to access capital and on our business, financial condition, results of operations and cash flows.
The market value of our securities portfolio may continue to be impacted by the level of interest rates and the credit quality and strength of the underlying issuers.
If a decline in market value of a security is determined to be other than temporary, under generally accepted accounting principles, we are required to write these securities down to their estimated fair value. As of December 31, 2008, we owned single issue and pooled trust preferred securities and private label collateralized mortgage obligations whose aggregate historical cost basis is greater than their estimated fair value (see note 4 of the consolidated financial statements). We have reviewed these securities and determined that the decreases in estimated fair value are temporary. We perform an ongoing analysis of these securities utilizing both readily available market data and third party analytical models. Future changes in interest rates or the credit quality and strength of the underlying issuers may reduce the market value of these and other securities. If such decline is determined to be other than temporary, we will write them down through a charge to earnings to their then current fair value.
The Company's banking subsidiary, VIST Bank, is a member of the FHLB and is required to purchase and maintain stock in the FHLB in an amount equal to the greater of 1% of its aggregate unpaid residential mortgage loans, home purchase contracts or similar obligations at the beginning of each year or 5% of its outstanding advances from the FHLB. At December 31, 2008, the Bank had $5.7 million in stock of the FHLB which was in compliance with this requirement. These equity securities are "restricted" in that they can only be sold back to the respective institutions or another member institution at par. Therefore, they are less liquid than other tradable equity securities, their fair value is equal to amortized cost, and no impairment write-downs have been recorded on these securities during 2008, 2007, or 2006. At December 31, 2008, the Bank had $53.4 million in short-term FHLB advances outstanding and $50.0 million in longer-term FHLB advances outstanding.
The FHLB of Pittsburgh announced in December 2008 that it voluntarily suspended the payment of dividends and the repurchase of excess capital stock from member banks. The FHLB cited a significant reduction in the level of core earnings resulting from lower short-term interest rates, the increased cost of maintaining liquidity and constrained access to the debt markets at attractive rates and maturities as the main reasons for the decision to suspend dividends and the repurchase excess capital stock. The FHLB last paid a dividend in the third quarter of 2008. Accounting guidance indicates that an investor in FHLB Pittsburgh capital stock should recognize impairment if it concludes that it is not probable that it will ultimately recover the par value of its shares. The decision of whether impairment exists is a matter of judgment that should reflect the investor's view of FHLB Pittsburgh's long-term performance, which includes factors such as its operating performance, the severity and duration of declines in the market value of its net assets related to its capital stock amount, its commitment to make payments required by law or regulation and the level of such payments in relation to its operating performance, the impact of legislation and regulatory changes on FHLB Pittsburgh, and accordingly, on the members of FHLB Pittsburgh and its liquidity and funding position. After evaluating all of these considerations, the Company believes the par value of its shares will be recovered. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
Changes in interest rates could reduce our income, cash flows and asset values.
Our income and cash flows and the value of our assets depend to a great extent on the difference between the interest rates we earn on interest-earning assets, such as loans and investment securities, and the interest rates we pay on interest-bearing liabilities such as deposits and borrowings. These rates are highly sensitive to many factors which are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Board of Governors of the Federal Reserve System. Changes in monetary policy, including changes in interest rates, will influence not only the interest we receive on our loans and investment securities and the amount of interest we pay on deposits and borrowings but will also affect our ability to originate loans and obtain deposits and the value of our investment portfolio. If the rate of interest we pay on our deposits and other borrowings increases more or decreases less than the rate of interest we earn on our loans and other investments, our net interest income, and therefore our earnings, could be adversely affected. Our earnings also could be adversely affected if the rates on our loans and other investments fall more quickly than those on our deposits and other borrowings.
Our financial condition and results of operations would be adversely affected if our allowance for loan losses is not sufficient to absorb actual losses or if we are required to increase our allowance.
Despite our underwriting criteria, we may experience loan delinquencies and losses. In order to absorb losses associated with nonperforming loans, we maintain an allowance for loan losses based on, among other things, historical experience, an evaluation of economic conditions, and regular reviews of delinquencies and loan portfolio quality. Determination of the allowance inherently involves a high degree of subjectivity and requires us to make significant estimates of current credit risks and future trends, all of which may undergo material changes. At any time there are likely to be loans in our portfolio that will result in losses but that have not been identified as nonperforming or potential problem credits. We cannot be sure that we will be able to identify deteriorating credits before they become nonperforming assets or that we will be able to limit losses on those loans that are identified. We may be required to increase our allowance for loan losses for any of several reasons. State and federal regulators, in reviewing our loan portfolio as part of a regulatory examination, may request that we increase our allowance for loan losses. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require an increase in our allowance. In addition, if charge-offs in future periods exceed our allowance for loan losses, we will need additional increases in our
allowance for loan losses. Any increases in our allowance for loan losses will result in a decrease in our net income and, possibly, our capital, and may materially affect our results of operations in the period in which the allowance is increased.
Competition may decrease our growth or profits.
We face substantial competition in all phases of our operations from a variety of different competitors, including commercial banks, savings and loan associations, mutual savings banks, credit unions, consumer finance companies, factoring companies, leasing companies, insurance companies and money market mutual funds. There is very strong competition among financial services providers in our principal service area. Our competitors may have greater resources, higher lending limits or larger branch systems than we do. Accordingly, they may be able to offer a broader range of products and services as well as better pricing for those products and services than we can.
In addition, some of the financial services organizations with which we compete are not subject to the same degree of regulation as is imposed on federally insured financial institutions. As a result, those non-bank competitors may be able to access funding and provide various services more easily or at less cost than we can, adversely affecting our ability to compete effectively.
We may be adversely affected by government regulation.
The banking industry is heavily regulated. Banking regulations are primarily intended to protect the federal deposit insurance funds and depositors, not shareholders. Changes in the laws, regulations, and regulatory practices affecting the banking industry may increase our costs of doing business or otherwise adversely affect us and create competitive advantages for others. Regulations affecting banks and financial services companies undergo continuous change, and we cannot predict the ultimate effect of these changes, which could have a material adverse effect on our profitability or financial condition.
We rely on our management and other key personnel, and the loss of any of them may adversely affect our operations.
We are and will continue to be dependent upon the services of our executive management team. In addition, we will continue to depend on our ability to retain and recruit key commercial loan officers. The unexpected loss of services of any key management personnel or commercial loan officers could have an adverse effect on our business and financial condition because of their skills, knowledge of our market, years of industry experience and the difficulty of promptly finding qualified replacement personnel.
Environmental liability associated with lending activities could result in losses.
In the course of our business, we may foreclose on and take title to properties securing our loans. If hazardous substances were discovered on any of these properties, we could be liable to governmental entities or third parties for the costs of remediation of the hazard, as well as for personal injury and property damage. Many environmental laws can impose liability regardless of whether we knew of, or were responsible for, the contamination. In addition, if we arrange for the disposal of hazardous or toxic substances at another site, we may be liable for the costs of cleaning up and removing those substances from the site even if we neither own nor operate the disposal site. Environmental laws may require us to incur substantial expenses and may materially limit use of properties we acquire through foreclosure, reduce their value or limit our ability to sell them in the event of a default on the loans they secure. In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase our exposure to environmental liability.
Failure to implement new technologies in our operations may adversely affect our growth or profits.
The market for financial services, including banking services and consumer finance services, is increasingly affected by advances in technology, including developments in telecommunications, data processing, computers, automation, Internet-based banking and telebanking. Our ability to compete successfully in our markets may depend on the extent to which we are able to exploit such technological changes. However, we can provide no assurance that we will be able to properly or timely anticipate or implement such technologies or properly train our staff to use such technologies. Any failure to adapt to new technologies could adversely affect our business, financial condition or operating results.
An investment in our common stock is not an insured deposit.
Our common stock is not a bank deposit and, therefore, is not insured against loss by the Federal Deposit Insurance Corporation, commonly referred to as the FDIC, any other deposit insurance fund or by any other public or private entity. Investment in our common stock is subject to the same market forces that affect the price of common stock in any company.
Our ability to pay dividends is limited by law and federal banking regulation.
Our ability to pay dividends to our shareholders largely depends on our receipt of dividends from VIST Bank. The amount of dividends that VIST Bank may pay to us is limited by federal laws and regulations. We also may decide to limit the payment of dividends even when we have the legal ability to pay them in order to retain earnings for use in our business.
Federal and state banking laws, our articles of incorporation and our by-laws may have an anti-takeover effect.
Federal law imposes restrictions, including regulatory approval requirements, on persons seeking to acquire control over us. Pennsylvania law also has provisions that may have an anti-takeover effect. In addition, our articles of incorporation and bylaws permit our board of directors to issue, without shareholder approval, preferred stock and additional shares of common stock that could adversely affect the voting power and other rights of existing common shareholders. These provisions may serve to entrench management or discourage a takeover attempt that shareholders consider to be in their best interest or in which they would receive a substantial premium over the current market price.
We plan to continue to grow rapidly and there are risks associated with rapid growth.
We intend to continue to expand our business and operations to increase deposits and loans. Continued growth may present operating and other problems that could adversely affect our business, financial condition and results of operations. Our growth may place a strain on our administrative and operational, personnel, and financial resources and increase demands on our systems and controls. Our ability to manage growth successfully will depend on our ability to attract qualified personnel and maintain cost controls and asset quality while attracting additional loans and deposits on favorable terms, as well as on factors beyond our control, such as economic conditions and interest rate trends. If we grow too quickly and are not able to attract qualified personnel, control costs and maintain asset quality, this continued rapid growth could materially adversely affect our financial performance.
Our legal lending limits are relatively low and restrict our ability to compete for larger customers.
At December 31, 2008, our lending limit per borrower was approximately $14.5 million, or approximately 12% of our capital. Accordingly, the size of loans that we can offer to potential borrowers (without participation by other lenders) is less than the size of loans that many of our competitors with larger capitalization are able to offer. Our legal lending limit also impacts the
efficiency of our lending operation because it tends to lower our average loan size, which means we have to generate a higher number of transactions to achieve the same portfolio volume. We may engage in loan participations with other banks for loans in excess of our legal lending limits. However, there can be no assurance that such participations will be available at all or on terms which are favorable to us and to our customers.
If we are unable to identify and acquire other financial institutions and successfully integrate their acquired businesses, our business and earnings may be negatively affected.
Acquisition of other financial institutions is a component of our growth strategy. The market for acquisitions remains highly competitive, and we may be unable to find acquisition candidates in the future that fit our acquisition and growth strategy.
Acquisitions of financial institutions involve operational risks and uncertainties, and acquired companies may have unforeseen liabilities, exposure to asset quality problems, key employee and customer retention problems and other problems that could negatively affect our organization. We may not be able to complete future acquisitions and, if completed, we may not be able to successfully integrate the operations, management, products and services of the entities that we acquire and eliminate redundancies. The integration process may also require significant time and attention from our management that they would otherwise direct at servicing existing business and developing new business. Our failure to successfully integrate the entities we acquire into our existing operations may increase our operating costs significantly and adversely affect our business and earnings.
The market price for our common stock may be volatile.
The market price for our common stock has fluctuated, ranging between $18.43 and $7.73 per share during the 12 months ended December 31, 2008. The overall market and the price of our common stock may continue to be volatile. There may be a significant impact on the market price for our common stock due to, among other things, developments in our business, variations in our anticipated or actual operating results, changes in investors' or analysts' perceptions of the risks and conditions of our business and the size of the public float of our common stock. The average daily trading volume for our common stock as reported on NASDAQ was 2,984 shares during the twelve months ended December 31, 2008, with daily volume ranging from a low of zero shares to a high of 85,700 shares. There can be no assurance that a more active or consistent trading market in our common stock will develop. As a result, relatively small trades could have a significant impact on the price of our common stock.
Market conditions may adversely affect our fee based investment and insurance business.
The revenues of our fee based insurance business are derived primarily from commissions from the sale of insurance policies, which commissions are generally calculated as a percentage of the policy premium. These insurance policy commissions can fluctuate as insurance carriers from time to time increase or decrease the premiums on the insurance products we sell. Similarly, we receive fee based revenues from commissions from the sale of securities and investment advisory fees. In the event of decreased stock market activity, the volume of trading facilitated by VIST Capital Management, LLC will in all likelihood decrease resulting in decreased commission revenue on purchases and sales of securities. In addition, investment advisory fees, which are generally based on a percentage of the total value of an investment portfolio, will decrease in the event of decreases in the values of the investment portfolios, for example, as a result of overall market declines.
Item 1B.
Item 1B. Unresolved Staff Comments
None
Item 2.
Item 2. Properties
The Company's principal office is located in the administration building at 1240 Broadcasting Road, Wyomissing, Pennsylvania.
Listed below are the locations of properties owned or leased by the Company and its subsidiaries. Owned properties are not subject to any mortgage, lien or encumbrance.
VIST Insurance shares offices in the Company's administration building located at 1240 Broadcasting Road, Wyomissing, Pennsylvania. VIST Insurance is charged a pro rata amount of the total lease expense.
VIST Capital also shares office space in the Company's administration building in Wyomissing as well as in VIST Insurance's office in Blue Bell and are accordingly charged a pro rata amount of the total lease expense.
Item 3.
Item 3. Legal Proceedings
A certain amount of litigation arises in the ordinary course of the business of the Company, and the Company's subsidiaries. In the opinion of the management of the Company, there are no proceedings pending to which the Company, or the Company's subsidiaries are a party or to which their property is subject, that, if determined adversely to the Company or its subsidiaries, would be material in relation to the Company's shareholders' equity or financial condition, nor are there any proceedings pending other than ordinary routine litigation incident to the business of the Company and its subsidiaries. In addition, no material proceedings are pending or are known to be threatened or contemplated against the Company or its subsidiaries by governmental authorities.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
At a special meeting of shareholders held on December 17, 2008, shareholders of the Company approved the following matters:
1. Amendment of VIST Financial Corp.'s Articles of Incorporation to authorize the issuance of up to 1 million shares of preferred stock.
2. Grant management the authority to adjourn, postpone or continue the special meeting.
Item 4A. Executive Officers of the Registrant
Certain information, as of December 31, 2008, including principal occupation during the past five years, relating to each executive officer of the Company is as follows:
PART II
Item 5.
Item 5. Market For Registrant's Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities
Performance Graph
Set forth below is a graph and table comparing the yearly percentage change in the cumulative total shareholder return on the Company's common stock against the cumulative total return on the NASDAQ-Total US Index, and the SNL Mid-Atlantic Bank Index for the five-year period commencing December 31, 2003, and ending December 31, 2008.
Cumulative total return on the Company's common stock, the NASDAQ Combination Bank Index, and the SNL Mid-Atlantic Bank Index equals the total increase in value since December 31, 2003, assuming reinvestment of all dividends. The graph and table were prepared assuming that $100 was invested on December 31, 2003, in Company common stock, the NASDAQ-Total US Index, and the SNL Mid-Atlantic Bank Index.
VIST Financial Corp.
As of December 31, 2008, there were 780 record holders of the Company's common stock. The market price of the Company's common stock for each quarter in 2008 and 2007 and the dividends declared on the Company's common stock for each quarter in 2008 and 2007 are set forth below.
Market Price of Common Stock
The Company's common stock is traded on the NASDAQ Global Select Market under the symbol "VIST." The following table sets forth, for the fiscal quarters indicated, the high and low bid and asked price per share of the Company's common stock, as reported on the NASDAQ Global Select Market, and has been adjusted for the 5% stock dividend distributed to shareholders on June 15, 2007:
Series A Preferred Stock and Common Stock Dividends
On December 19, 2008, the Company issued to the Treasury 25,000 shares of Series A Preferred Stock which pays cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter. Under ARRA, the Series A Preferred Stock may be redeemed at any time following consultation by the Company's primary bank regulator and Treasury, not withstanding the terms of the original transaction documents. Under FAQ's issued recently by Treasury, participants in the Capital Purchase Program desiring to repay part of an investment by Treasury must repay a minimum of 25% of the issue price of the preferred stock.
Prior to the earlier of the third anniversary date of the issuance of the Series A Preferred Stock (December 19, 2011) or the date on which the Series A Preferred Stock have been redeemed in whole or the Treasury has transferred all of the Series A Preferred Stock to third parties which are not affiliates of the Treasury, the Company can not increase its common stock dividend from the last quarterly cash dividend per share ($0.10) declared on the common stock prior to October 14, 2008 without the consent of the Treasury,
Cash dividends on the Company's common stock have historically been payable on the 15th of January, April, July, and October. In 2008, cash dividends were paid in the months of January, April, July, and November. In 2009, cumulative cash dividends on the Series A Preferred Stock and cash dividends on common stock are payable on the 15th of February, May, August, and November.
The Company derives a significant portion of its income from dividends paid to it by the Bank. For a description of certain regulatory restrictions on the payment of dividends by the Bank to the Company, see "Business-Regulatory Restrictions on Dividends."
Stock Repurchase Plan. On July 17, 2007, the Company announced that it has increased the number of shares remaining for repurchase under its stock repurchase plan, originally effective January 1, 2003, and extended May 20, 2004, to 150,000 shares. During 2008, the Company did not repurchase repurchased any of its outstanding shares of common stock. At December 31, 2008, the maximum number of shares that may yet be purchased under the plan remained at 115,000.
The following table sets forth certain information relating to shares of the Company's common stock repurchased by the company during the fourth quarter of 2008.
As a result of the issuance of the Series A Preferred Stock, prior to the earlier of the third anniversary date of the issuance of the Series A Preferred Stock (December 19, 2011) or the date on which the Series A Preferred Stock has been redeemed in whole or the Treasury has transferred all of the Series A Preferred Stock to third parties which are not affiliates of the Treasury, the Company is generally restricted against redeeming, purchasing or acquiring any shares of Common Stock or other capital stock or other equity securities of any kind of the Company without the consent of the Treasury.
Item 6.
Item 6. Selected Financial Data
The selected consolidated financial and other data and management's discussion and analysis of financial condition and results of operation set forth below and in Item 7
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The Company is a financial services company. As of December 31, 2008, VIST Bank, VIST Insurance, LLC, and VIST Capital Management, LLC were wholly-owned subsidiaries of the Company. As of December 31, 2008, VIST Mortgage Holdings, LLC was a wholly-owned, non-bank subsidiary of VIST Bank.
During 2000, VIST Realty Solutions, LLC was formed as a subsidiary of VIST Bank for the purpose of providing title insurance and other real estate related services to its customers through limited partnership arrangements with third parties involved in the real estate services industry. On October 29, 2008, VIST Realty Solutions, LLC dissolved its operations by selling its partnership interest for an amount which approximated its initial capital contribution.
In May 2002, the Company's subsidiary, VIST Bank, jointly formed VIST Mortgage Holdings, LLC with another real estate company. VIST Bank's initial investment was $15,000. In May 2004, VIST Bank dissolved its investment with the real estate company. In May 2004, VIST Bank formed VIST Mortgage Holdings, LLC to provide mortgage brokerage services, including, without limitation, any activity in which a mortgage broker may engage. It is operated as a permissible "affiliated business arrangement" within the meaning of the Real Estate Settlement Procedures Act of 1974. VIST Mortgage Holdings, LLC is currently inactive.
On September 1, 2008, the Company paid cash of $1.8 million for Fisher Benefits Consulting, an insurance agency specializing in Group Employee Benefits, located in Pottstown, Pennsylvania. Fisher Benefits Consulting has become a part VIST Insurance. As a result of the acquisition, VIST Insurance continues to expand its retail and commercial insurance presence in southeastern Pennsylvania counties. The results of Fisher Benefits Consultings operations have been included in the Company's consolidated financial statements since September 2, 2008.
Included in the $1.8 million purchase price for Fisher Benefits Consulting was goodwill of $0.2 million and identifiable intangible assets of $1.6 million. Contingent payments totaling $750,000, or $250,000 for each of the first three years following the acquisition, will be paid if certain predetermined revenue target ranges are met. These payments are expected to be added to goodwill when paid. The contingent payments could be higher or lower depending upon whether actual revenue earned in each of the three years following the acquisition is less than or exceeds the predetermined revenue goals.
On October 1, 2004, the Company acquired 100% of the outstanding voting shares of Madison Bancshares Group, Ltd. ("Madison"), the holding company for Madison Bank, a Pennsylvania state-chartered commercial bank and its mortgage banking division, VIST Mortgage. Madison Bank has become a division of VIST Bank. For each share of Madison common stock, the Company exchanged 0.6028 shares of the Company's common stock resulting in the issuance of 1,311,010 shares of the Company's common stock and a cash payment of $11,790. The total purchase price was $34.6 million. The value of the common shares issued was determined based on the average market price of the Company's common shares five days before and five days after the date of the announcement. In connection with the transaction, Madison paid cash of $7.1 million and recognized the expense for 699,122 Madison options and warrants outstanding at September 30, 2004. In addition, Madison paid cash of $2.3 million and recognized the expense for the termination of existing contractual arrangements.
Critical Accounting Policies
Disclosure of the Company's significant accounting policies is included in Note 1 to the consolidated financial statements. Certain of these policies are particularly sensitive requiring significant judgments, estimates and assumptions to be made by management. Additional information is contained in Management's Discussion and Analysis and the Notes to the Consolidated Financial Statements for
the most sensitive of these issues. These include, the provision and allowance for loan losses, revenue recognition for insurance activities, stock based compensation, derivative financial instruments, goodwill and intangible assets and investment securities other-than-temporary impairment evaluation. These discussions, analysis and disclosures identify and address key variables and other qualitative and quantitative factors that are necessary for an understanding and evaluation of the Company and its results of operations.
Allowance for Loan Losses
The provision for loan losses charged to operating expense reflects the amount deemed appropriate by management to provide for known and inherent losses in the existing loan portfolio. Management's judgment is based on the evaluation of individual loans past experience, the assessment of current economic conditions, and other relevant factors. Loan losses are charged directly against the allowance for loan losses and recoveries on previously charged-off loans are added to the allowance.
Management uses significant estimates to determine the allowance for loan losses. Consideration is given to a variety of factors in establishing these estimates including current economic conditions, diversification of the loan portfolio, delinquency statistics, borrowers' perceived financial and managerial strengths, the adequacy of underlying collateral, if collateral dependent, or present value of future cash flows, and other relevant factors. Since the sufficiency of the allowance for loan losses is dependent, to a great extent, on conditions that may be beyond our control, it is possible that management's estimates of the allowance for loan losses and actual results could differ in the near term. Although we believe that we use the best information available to establish the allowance for loan losses, future additions to the allowance may be necessary if certain future events occur that may cause actual results to differ from the assumptions used in making the evaluation. For example, a downturn in the local economy could cause increases in non-performing loans. Additionally, a decline in real estate values could cause some of our loans to become inadequately collateralized. In either case, this may require us to increase our provisions for loan losses, which would negatively impact earnings. Additionally, a large loss could deplete the allowance and require increased provisions to replenish the allowance, which would negatively impact earnings. In addition, regulatory authorities, as an integral part of their examination, periodically review the allowance for loan losses. They may require additions to the allowance for loan losses based upon their judgments about information available to them at the time of examination. Future increases to our allowance for loan losses, whether due to unexpected changes in economic conditions or otherwise, could adversely affect our future results of operations.
Revenue Recognition for Insurance Activities
Insurance revenues are derived from commissions and fees. Commission revenues, as well as the related premiums receivable and payable to insurance companies, are recognized the later of the effective date of the insurance policy or the date the client is billed, net of an allowance for estimated policy cancellations. The reserve for policy cancellations is periodically evaluated and adjusted as necessary. Commission revenues related to installment premiums are recognized as billed. Commissions on premiums billed directly by insurance companies are generally recognized as income when received. Contingent commissions from insurance companies are generally recognized as revenue when the data necessary to reasonably estimate such amounts is obtained. A contingent commission is a commission paid by an insurance company that is based on the overall profit and/or volume of the business placed with the insurance company. Fee income is recognized as services are rendered.
Stock-Based Compensation
Prior to 2006, the Company accounted for stock-based compensation in accordance with Accounting Principals Board Opinion ("APB") No. 25, as permitted by Statement of Financial
Accounting Standards ("SFAS") No. 123. Under APB No. 25, no compensation expense was recognized in the income statement related to any option granted under the Company's stock option plans.
In December 2004, the Financial Accounting Standards Board (FASB) issued Statement No. 123 (R), "Share-Based Payment." Statement No. 123 (R) addresses the accounting for share-based payment transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprise's equity instruments or that may be settled by the issuance of such equity instruments. Statement 123 (R) requires an entity to recognize the grant-date fair-value of stock options and it's other equity- based compensation issued to the employees in the income statement. The revised Statement generally requires that an entity account for those transactions using the fair-value-based method, and eliminates the intrinsic value method of accounting in APB Opinion No. 25. "Accounting for Stock Issued to Employees," which was permitted under Statement No. 123, as originally issued.
The revised Statement requires entities to disclose information about the nature of the share-based payment transaction and the effects of those transactions on the financial statements. Statement No. 123 (R) is effective for fiscal periods beginning after June 15, 2005. All public companies use either the modified prospective or the modified retrospective transition method. Effective January 1, 2006, the Company adopted SFAS No. 123 using the modified prospective method. Using the modified prospective method, the Company's total stock-based compensation expense, net of related tax effects, was $211,000 for the year ending December 31, 2008. Any additional impact that the adoption of this statement will have on our results of operations will be determined by share-based payments granted in future periods.
Derivative Financial Instruments:
The Company maintains an overall interest rate risk-management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility. The Company's goal is to manage interest rate sensitivity by modifying the repricing or maturity characteristics of certain balance sheet assets and liabilities so that the net interest margin is not, on a material basis, adversely affected by movements in interest rates. As a result of interest rate fluctuations, hedged assets and liabilities will appreciate or depreciate in market value. The effect of this unrealized appreciation or depreciation will generally be offset by income or loss on the derivative instruments that are linked to the hedged assets and liabilities. The Company views this strategy as a prudent management of interest rate sensitivity, such that earnings are not exposed to undue risk presented by changes in interest rates.
By using derivative instruments, the Company is exposed to credit and market risk. If the counterparty fails to perform, credit risk exists to the extent of the fair value gain in a derivative. When the fair value of a derivative contract is positive, this generally indicates that the counterparty owes the Company, and, therefore, creates a repayment risk for the Company. When the fair value of a derivative contract is negative, the Company owes the counterparty and, therefore, it has no repayment risk. The Company minimizes the credit (or repayment) risk in the derivative instruments by entering into transactions with high quality counterparties.
Market risk is the adverse effect that a change in interest rates, currency, or implied volatility rates has on the value of a financial instrument. The Company manages the market risk associated with interest rate contracts by establishing and monitoring limits as to the types and degree of risk that may be undertaken. The Company periodically measures this risk by using value-at-risk methodology.
During 2002, the Company entered into an interest rate swap to convert its fixed rate trust preferred securities to floating rate debt. Both the interest rate swap and the related debt are recorded on the balance sheet at fair value through adjustments to other expense.
During 2003, the Company also entered into an interest rate cap agreement to limit its exposure to the variable rate interest achieved through the interest rate swap. The interest rate cap was not designated as a cash flow hedge and thus, it is carried on the balance sheet in other assets at fair value through adjustments to interest expense.
During 2008, the Company entered into two interest rate swaps to manage its exposure to interest rate risk. The interest rate swap transactions involved the exchange of the Company's floating rate interest rate payment on its $15 million in floating rate junior subordinated debt for a fixed rate interest payment without the exchange of the underlying principal amount. The cumulative change in fair value of the hedging derivative, to the extent that it is expected to be offset by the cumulative change in anticipated interest cash flows from the hedged exposure, will be deferred and reported as a component of other comprehensive income or loss (OCI). Any hedge ineffectiveness will be charged to current earnings.
Goodwill and Other Intangible Assets
The Company has recorded goodwill of $39.7 million at December 31, 2008 related to the acquisition of its banking, insurance and wealth management companies. The Company utilizes a third party valuation service to perform its annual goodwill impairment test in the fourth quarter of each calendar year. A fair value is determined for the banking and financial services, insurance services and investment services reporting segments. If the fair value of the reporting unit exceeds the book value, no write downs of goodwill is necessary. If the fair value is less than the book value, an additional test is necessary to assess the proper carrying value of goodwill. As a result of the third part valuation analysis, the Company determined that no goodwill impairment write-off was necessary during 2008 and 2007.
Business unit valuation is inherently subjective, with a number of factors based on assumption and management judgments. Among these are future growth rates, discount rates and earnings capitalization rates. Changes in assumptions and results due to economic conditions, industry factors and reporting unit performance could result in different assessments of the fair value and could result in impairment charges in the future.
Investment Securities Impairment Evaluation
Management evaluates securities for the other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.
If a decline in market value of a security is determined to be other than temporary, under generally accepted accounting principles, we are required to write these securities down to their estimated fair value. As of December 31, 2008, we owned single issue and pooled trust preferred securities of other financial institutions and private label collateralized mortgage obligations whose aggregate historical cost basis is greater than their estimated fair value (see note 4 of the consolidated financial statements). We have reviewed these securities and determined that the decreases in estimated fair value are temporary. We perform an ongoing analysis of these securities utilizing both readily available market data and third party analytical models. Future changes in interest rates or the credit quality and strength of the underlying issuers may reduce the market value of these and other securities. If such decline is determined to be other than temporary, we will write them down through a charge to earnings to their then current fair value.
The Company's banking subsidiary, VIST Bank, is required to maintain certain amounts of FHLB stock as a member of the FHLB. These equity securities are "restricted" in that they can only be sold back to the respective institutions or another member institution at par. Therefore, they are less liquid than other tradable equity securities, their fair value is equal to amortized cost, and no impairment write-downs have been recorded on these securities during 2008, 2007, or 2006.
The FHLB of Pittsburgh announced in December 2008 that it voluntarily suspended the payment of dividends and the repurchase of excess capital stock from member banks. The FHLB cited a significant reduction in the level of core earnings resulting from lower short-term interest rates, the increased cost of maintaining liquidity and constrained access to the debt markets at attractive rates and maturities as the main reasons for the decision to suspend dividends and the repurchase excess capital stock. The FHLB last paid a dividend in the third quarter of 2008. Accounting guidance indicates that an investor in FHLB Pittsburgh capital stock should recognize impairment if it concludes that it is not probable that it will ultimately recover the par value of its shares. The decision of whether impairment exists is a matter of judgment that should reflect the investor's view of FHLB Pittsburgh's long-term performance, which includes factors such as its operating performance, the severity and duration of declines in the market value of its net assets related to its capital stock amount, its commitment to make payments required by law or regulation and the level of such payments in relation to its operating performance, the impact of legislation and regulatory changes on FHLB Pittsburgh, and accordingly, on the members of FHLB Pittsburgh and its liquidity and funding position. After evaluating all of these considerations, the Company believes the par value of its shares will be recovered. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
Results of Operations
Net income for 2008 was $191,000 or $0.03 per share diluted compared to $7.47 million or $1.31 per share diluted for 2007 and $9.15 million or $1.62 per share diluted for 2006. These changes are a result of increasing net interest income after provision for loan losses offset by decreases in other income each year, net of increases in other expenses. Details regarding changes in net income and diluted earnings per share follows.
Return on average assets was 0.02% for 2008, 0.70% for 2007 and 0.92% for 2006. Return on average shareholders' equity was 0.18% for 2008, 7.15% for 2007 and 9.38% for 2006.
Included in the operating results for the twelve months ended December 31, 2008 was a pre-tax loss of $7.3 million, or $4.8 million after-tax, relating to the sale of perpetual preferred stock associated with the federal takeover of Fannie Mae and Freddie Mac. Also included in the operating results for the twelve months ended December 31, 2008, were pre-tax losses associated with the sale of the Company's equity holdings of $141,000 in Fannie Mae common stock and $104,000 in Wachovia Corporation common stock. The total amount of pre-tax losses relating to the sale of the Company's equity holdings included in the operating results for the twelve months ended December 31, 2008, were approximately $7.5 million. Included in the operating results for the twelve months ended December 31, 2007 was a pre-tax loss of $2.5 million, or $1.6 million after-tax, resulting primarily from a balance sheet restructuring in March 2007 which included the sale of $64.1 million in lower-yielding available for sale securities and the reinvestment of the sale proceeds into higher yielding available for sale investment securities.
Net Interest Income
Net interest income is a primary source of revenue for the Company. This income results from the difference between the interest and fees earned on loans and investments and the interest paid on deposits to customers and other non-deposit sources of funds, such as repurchase agreements and
borrowings from the Federal Home Loan Bank and other correspondent banks. Net interest margin is the difference between the gross (tax-effected) yield on earning assets and the cost of interest bearing funds as a percentage of earning assets. All discussion of net interest margin is on a fully taxable equivalent basis. Both net interest income and net interest margin are influenced by the frequency, magnitude and direction of interest rate changes and by product concentrations and volumes of earning assets and funding sources.
Average Balances, Rates and Net Yield
The following table sets forth the average daily balances of major categories of interest earning assets and interest bearing liabilities, the average rate paid thereon, and the net interest margin for each of the periods indicated.
(1)Interest Income and rates on loans and investment securities are reported on a tax-equivalent basis using a tax rate of 34%.
(2)Held for Sale and Non-accrual loans have been included in average loan balances. Tax-equivalent net interest income increased to $36.9 million or 6.1% for the year ended December 31, 2008, compared to $34.8 million for 2007. The increase in tax-equivalent interest income during 2008 was primarily the result of an increase in average earning assets, due mainly to strong commercial loan growth and an increase in available for sale security investment yields as a result of the $64.1 million balance sheet restructuring in early 2007. Average loans increased by $67.8 million or 8.6% from 2007 to 2008. Management attributes this increase in organic commercial loan growth to a well established market in the Reading area and continued penetration into the Philadelphia market through successful marketing initiatives.
Tax-equivalent net interest income increased to $34.8 million or 4.9% for the year ended December 31, 2007, compared to $33.1 million for 2006. The increase in tax-equivalent interest income during 2007 was primarily the result of an increase in average earning assets, due mainly to strong
commercial loan growth and an increase in available for sale security investment yields as a result of the $64.1 million balance sheet restructuring. Average loans increased by $80.2 million or 11.3% from 2006 to 2007. Management attributes the increase in organic commercial loan growth to a well established market in the Reading area and continued penetration into the Philadelphia market through successful marketing initiatives.
Interest expense decreased during 2008 along with an increase in the overall growth in funding sources. The overall cost of funds decreased from 4.12% in 2007 to 3.23% in 2008. Interest bearing deposit rates decreased from 3.85% in 2007 to 3.10% in 2008. The decrease in interest-bearing deposit rates was the result of management's disciplined approach to deposit pricing in response to the decrease in short-term interest rates. Average interest bearing deposits increased $38.6 million or 6.1% from 2007 to 2008 due primarily to growth in time deposits. Total average short and long term borrowings grew by $66.0 million and, combined with the growth in interest bearing deposits, provided all of the funding needed for the $104.6 million in average loan and investment security growth. Average balances for federal funds purchased and repurchase agreements for the year 2008 were $76.3 million and $120.6 million, respectively, compared to average balances for federal funds purchased and repurchase agreements for the year 2007 of $76.8 million and $95.2 million, respectively. Average rates paid for federal funds purchased and repurchase agreements for the year 2008 were 2.35% and 3.37%, respectively compared to average rates paid for federal funds purchased and repurchase agreements for the year 2007 of 5.06% and 4.05%, respectively. Average long-term borrowings increased $41.1 million or 232.0% from 2007 to 2008.
Interest expense increased during 2007 along with the overall growth in funding sources. The overall cost of funds increased from 3.82% in 2006 to 4.12% in 2007. Interest bearing deposit rates increased from 3.48% in 2006 to 3.85% in 2007. The increase in interest-bearing deposit rates was the result of both management pricing strategy as well as the effect of longer-term certificates of deposit that matured during the year and repriced at higher rates. Average interest bearing deposits increased $55.4 million or 9.6% from 2006 to 2007 due primarily to strong organic growth in business solutions savings and escrow deposits and time deposits. Total average interest-bearing funding grew by $16.7 million and, combined with the growth in interest bearing deposits, provided all of the funding needed for the $72.7 million in average loan and investment security growth. Average balances for federal funds purchased and repurchase agreements for the year 2007 were $76.8 million and $95.2 million, respectively, compared to average balances for federal funds purchased and repurchase agreements for the year 2006 of $67.2 million and $71.8 million, respectively. Average rates paid for federal funds purchased and repurchase agreements for the year 2007 were 5.06% and 4.05%, respectively compared to average rates paid for federal funds purchased and repurchase agreements for the year 2006 of 5.15% and 3.96%, respectively. Average long-term borrowings decreased $16.3 million or 48.0% from 2006 to 2007.
In 2008, as a result of an increase in the volume of commercial loans originated offset by a decrease in commercial loan yields along with an increased yield in the available for sale investment portfolio, tax-equivalent net interest income increased as a result of a decrease in overall cost of funds. Tax-equivalent net interest margin decreased to 3.45% in 2008 from 3.60% in 2007.
In 2007, as a result of an increase in the volume of commercial loans originated and an increase in the yield on available for sale investments, tax-equivalent net interest income was able to increase despite rising cost of funds. Tax-equivalent net interest margin, however, decreased to 3.60% in 2007 from 3.71% in 2006.
Changes in Interest Income and Interest Expense
The following table sets forth certain information regarding changes in interest income and interest expense of the Company for the periods indicated. For each category of interest-earning asset and interest-bearing liability, information is provided on changes attributable to (1) changes in volume (period to period changes in average balance multiplied by beginning rate), and (2) changes in rate (period to period changes in rate multiplied by beginning average balance).
Analysis of Changes in Interest Income/Expense (1) (2) (3)
(1)Loan fees have been included in the change in interest income totals presented. Non-accrual loans have been included in average loan balances.
(2)Changes due to both volume and rates have been allocated in proportion to the relationship of the dollar amount change in each.
(3)Interest income on loans and securities is presented on a taxable equivalent basis. Other Income
The following table details non-interest income as follows:
The Company's primary source of other income for 2008 was commissions and other revenue generated through sales of insurance products through its insurance subsidiary, VIST Insurance. Revenues from insurance operations totaled $11.3 million in 2008 compared to $11.4 million in 2007 and $11.3 million in 2006. The decrease in revenue from insurance operations was due mainly to a decrease in contingency income received. Revenues from broker and investment advisory commissions generated through VIST Capital, the Company's investment subsidiary, decreased to $813,000 in 2008 from $886,000 in 2007 due to a decrease in investment and advisory services. Also, annuity and other insurance commissions generated by VIST Capital of $113,000, $130,000 and $151,000 are included in commissions and fees from insurance sales for the years 2008, 2007 and 2006, respectively.
Revenues from VIST Insurance operations totaled $11.4 million in 2007 compared to $11.3 million in 2006. Revenues from broker and investment advisory commissions generated through VIST Capital, the Company's investment subsidiary, decreased to $886,000 in 2007 from $721,000 in 2006 due to an increase in investment and advisory services.
The Company also relies on several other sources for its other income, including sales of newly originated mortgage loans and service charges on deposit accounts. The income recognized from mortgage banking activities was $0.9 million in 2008 and $1.9 million in 2007. The decrease in mortgage banking revenue from 2007 to 2008 is mainly attributable to a decrease in the volume of mortgage loan originations sold into the secondary mortgage market through the Company's mortgage banking division, VIST Mortgage. The decrease in mortgage loan originations and sales is related to a general slowdown in the housing market as a result of the industry wide effects of the ongoing sub-prime credit crisis. VIST Mortgage does not underwrite any sub-prime loans.
The income recognized from mortgage banking activities was $1.9 million in 2007 and $3.6 million in 2006. The decrease in mortgage banking revenue from 2006 to 2007 is attributable to a decrease in the volume of mortgage loan originations sold into the secondary mortgage market through the Company's mortgage banking division, VIST Mortgage volumes of mortgage loans originated and sold into the secondary mortgage market.
The income recognized from customer service fees was approximately $3.0 million, $2.7 million and $2.7 million for the years ended 2008, 2007 and 2006, respectively. The changes in income from customer service fees reflect an expanded customer base, new products and services and an annual review of the fee pricing. During 2008, the Company completed a thorough review of its service charge routines. As a result of its service charge analysis, the Company was able to increase service charge revenue. The increase in service charge revenue resulted primarily from increases in commercial account analysis fees, uncollected funds charges and non-sufficient funds charges.
Also included in other income are net gains on other loan sales of $47,000 in 2008, $164,000 in 2007 and $102,000 in 2006 from the sale of $0.7 million, $2.0 million and $1.6 million, respectively, of fixed and adjustable rate portfolio residential mortgage loans, SBA loans and USDA loans.
Earnings on investment in life insurance represent the change in cash value of Bank Owned Life Insurance (BOLI) policies. The BOLI policies of the Company are designed to offset the costs of employee benefit plans and to enhance tax-free earnings. The investment in BOLI totaled $18.6 million, $17.9 million and $17.2 million at December 31, 2008, 2007 and 2006. In 2006, the Bank purchased an additional $5 million in BOLI. Earnings on BOLI are affected by fluctuations in interest rates.
Other income includes debit card network interchange income, merchant fee income, SBA service fee income and safe deposit box rentals, as well as, other miscellaneous income items. The most significant volume of income in this category is derived from ATM surcharge fees and interchange fees from the Bank's ATM network and fees from debit card transactions. These fees totaled $1.1 million in 2008 which represents a 13.2% increase over 2007. Throughout the year, the Bank has initiated
marketing campaigns to encourage its customers to use debit cards as a convenient alternative to traditional check transactions. ATM surcharge fees and interchange fees from the Bank's ATM network and fees from debit card transactions totaled $1.0 million in 2007 which represents an 11.0% increase over 2006.
Net securities losses totaled $7,230,000 for 2008 compared to net security losses of $2,324,000 for 2007. The net securities losses for 2008 were primarily due to the loss on the sale of approximately $7.3 million in perpetual preferred stock associated with the federal takeover of government sponsored enterprises ("GSE's") Fannie Mae and Freddie Mac, placed into conservatorship by the Federal Housing Finance Agency and the U.S. Treasury. Net securities losses totaled $2,324,000 for 2007 compared to net security gains of $515,000 for 2006. The net securities losses for 2007 were primarily due to the sale of $64.1 million in lower-yielding available for sale securities as part of a balance sheet restructuring completed in the first quarter of 2007, which resulted in a pre-tax loss of $2,493,000.
Other Expenses
The following table details non-interest expense as follows:
Non-interest expense consists primarily of costs associated with personnel, occupancy and equipment, data processing, marketing and professional fees.
The Company's non-interest expense for the year ended December 31, 2008 totaled $43.6 million, representing an increase of $2.8 million or 6.8% as compared to 2007. Salaries and employee benefits, the largest component of non-interest expense, increased $517,000 or 2.4% from 2007 to 2008. Full-time equivalent (FTE) employees for the Company are 293 and 317 for the years ended December 31, 2008 and 2007, respectively. The increase in salaries and employee benefits from 2007 to 2008 was primarily attributed to merit increases and increased health benefits costs. The decrease in FTE employees from 2007 to 2008 was primarily attributed to a decrease in operational staff as a result of improved efficiencies through the implementation of new programs such as Check 21. Total commissions paid for the year ended December 31, 2008 and 2007 were $1.6 million and $1.6 million, respectively.
The Company's non-interest expense for the year ended December 31, 2007 totaled $40.9 million, representing an increase of $636,000 or 1.6% as compared to 2006. Salaries and employee benefits decreased $581,000 or 2.6% from 2006 to 2007. The decrease in salaries and employee benefits from 2006 to 2007 was primarily the result of a reduction in staff due to a corporate-wide reorganization plan and a reduction of commissions paid on revenue generated from sales of insurance products through VIST Insurance and wealth management products through VIST Capital, as well as, higher
benefits costs consistent with industry trends. Full-time equivalent (FTE) employees for the Company are 317 and 323 for the years ended December 31, 2007 and 2006, respectively.
Total occupancy expense and equipment expense decreased 7.9% in 2008 compared to 2007 primarily due to an increase in building lease expense including a lease termination for a planned branch consolidation and an increase in general building repairs and maintenance.
Total occupancy expense and equipment expense decreased 3.5% in 2007 compared to 2006 primarily due to a reduction in general building repairs and maintenance and a termination of leases for VIST Insurance's Langhorne, PA office and VIST Mortgage's Lancaster office which were no longer needed due to efficiencies gained through systems and personnel reorganizations.
Total marketing expense decreased $37,000 or 2.2% in 2008 compared to 2007 primarily due to a decrease in re-branding initiative expenses of changing the Company's name to VIST Financial Corp. A significant portion of these expenses occurred in 2007. The new Company name and logo increased visibility for the Company, setting the stage for continued commercial loan and core franchise growth in the Reading and Philadelphia markets. The decrease is also due to reduced costs for market research and media advertisement.
Total marketing expense increased $318,000 or 23.5% in 2007 compared to 2006 primarily due to the re-branding initiative changing the Company's name to VIST Financial Corp. The Company continues its marketing campaigns for the introduction of new products and services, as well as new marketing campaigns targeting the greater Philadelphia region. The re-branding gives the Company a more cohesive and strategic branding approach designed to focus on our overall portfolio of banking, insurance and wealth management products and services.
Total amortization of identifiable intangible assets increased $7,000 or 1.1% in 2008 as compared to 2007 due to the Fisher Benefits Consulting acquisition, total outside processing services increased $131,000 or 4.1% in 2008 as compared to 2007 due to an increase in network fees and computer services and total insurance expense increased $648,000 or 105.5% in 2008 as compared to 2007 due to an increase in FDIC deposit insurance assessments.
Total amortization of identifiable intangible assets decreased $14,000 or 2.2% in 2007 as compared to 2006, total outside processing services increased $222,000 or 7.4% in 2007 as compared to 2006 and total insurance expense increased $114,000 or 22.8% in 2007 as compared to 2006. The increase in outside processing services is due primarily to continuing the implementation of various projects utilizing our core processing system. The increase in insurance expense is due primarily to general increases in insurance policy premiums.
Total professional services increased $759,000 or 41.4% in 2008 as compared to 2007. The increase in professional services is due primarily to an increase in legal fees associated with the Company's name change to VIST Financial Corp. and general corporate counsel, costs associated with the outsourcing of the internal audit function and other consulting, accounting and tax services and general Company business.
Total professional services and outside processing services increased $578,000 or 46.0% in 2007 as compared to 2006. The increase in professional services is due primarily to an increase in legal and consultative expenses for the Company's re-branding initiative, general Company business initiatives, employment contract renewals and accounting and tax services.
Other expense includes utility expense, postage expense, stationary and supplies expense and OREO and foreclosure expense, as well as, other miscellaneous expense items. These costs totaled $4.7 million in 2008 which represents a 4.3% increase over 2007. Increases in other expenses were primarily attributable to an increase in collections costs and OREO expenses.
Other expense includes utility expense, postage expense, stationary and supplies expense and OREO and foreclosure expense, as well as, other miscellaneous expense items. These costs totaled $4.5 million in 2007 which represents a 5.9% increase over 2006. Increases in other expenses were primarily attributable to purchase accounting amortization, an increase in shares tax expense as a result of an increase in the Bank's equity and an increase in master escrow fees associated with business solutions escrow accounts.
Income Taxes
The effective income tax rate for the Company for the years ended December 31, 2008, 2007 and 2006 was 110.3%, 19.0% and 23.7%, respectively. The effective tax rate for 2008 increased from 2007 and 2006 primarily due to the increase in the income tax benefit resulting from an increase in the net loss before taxes. Included in the income tax provision is a federal tax benefit from our $5.0 million investment in an affordable housing, corporate tax credit limited partnership of $600,000, respectively, for each of the years ended December 31, 2008, 2007 and 2006.
Financial Condition
The Company's total assets at December 31, 2008 and 2007 were $1.2 billion and $1.1 billion, respectively.
Cash and Securities Portfolio
Cash and balances due from banks decreased to $19.3 million at December 31, 2008 from $25.8 million at December 31, 2007.
The securities portfolio increased 20.7% to $235.4 million at December 31, 2008, from $195.1 million at December 31, 2007 primarily due to investments in higher yielding available for sale securities. Securities are used to supplement loan growth as necessary, to generate interest and dividend income, to manage interest rate risk, and to provide pledging and liquidity. To accomplish these ends, most of the purchases in the portfolio during 2008 and 2007 were of mortgage-backed securities issued by US Government agencies.
The securities portfolio included a net unrealized loss on available for sale securities of $11.9 million and $1.7 million at December 31, 2008 and 2007, respectively. In addition, net unrealized losses of $1.1 million were present in the held to maturity securities at December 31, 2008. Changes in longer-termed treasury interest rates, underlying collateral and credit concerns and dislocation and illiquidity in the current market were primarily responsible for the decrease in the fair market value of the securities.
Debt securities that management has the positive ability and intent to hold to maturity are classified as held-to-maturity and recorded at amortized cost. Securities classified as available for sale are those securities that the Company intends to hold for an indefinite period of time but not necessarily to maturity. Any decision to sell a security classified as available for sale would be based on various factors, including significant movement in interest rates, changes in maturity mix of the Company's assets and liabilities, liquidity needs, regulatory capital considerations and other similar factors. Securities available for sale are carried at fair value. Unrealized gains and losses are reported in other comprehensive income or loss, net of the related deferred tax effect. Realized gains or losses, determined on the basis of the cost of the specific securities sold, are included in earnings. Purchased premiums and discounts are recognized in interest income using a method which approximates the interest method over the terms of the securities. Declines in the fair value of held-to-maturity and available-for-sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the
financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.
Loans
Loans increased to $886.3 million at December 31, 2008 from $821.0 million at December 31, 2007, an increase of $65.3 million or 8.0%. Management has targeted the commercial loan portfolio as a key to the Company's continuing growth. Specifically, the Company has a commercial lending focus within the Reading and Philadelphia market areas targeting higher yielding commercial loans made to small and medium sized businesses. Through a strong commercial lending footprint in the Reading market and through acquisition and the expansion of the commercial lending staff in the Philadelphia market, the year over year growth in commercial loans originated underscores the commercial customer focus as the commercial loan portfolio increased to $590.2 million at December 31, 2008, from $530.7 million at December 31, 2007, an increase of $59.5 million or 11.2%.
Loans secured by 1 to 4 family residential real estate decreased to $185.9 million at December 31, 2008, from $198.6 million as of December 31, 2007, an increase of $12.7 million or 6.4%. Loans secured by multi-family residential real estate increased to $34.9 million at December 31, 2008, from $33.5 million as of December 31, 2007, an increase of $1.4 million or 4.2%. The overall decrease in residential real estate loans is attributable to a decrease in the volume of mortgage loan originations generated and sold into the secondary mortgage market through the Company's mortgage banking division, VIST Mortgage.
Home equity lending products increased to $76.1 million at December 31, 2008, from $59.1 million as of December 31, 2007. Consumer demand for these types of loans increased in 2008. Although the Company's focus primarily centered on the commercial customer, management remained disciplined in its pricing of consumer loans. Despite the numerous economic challenges faced in 2008, the Company was able to increase our outstanding balances through the successful marketing of its Equilock consumer loan product which carries both a fixed and variable component allowing the consumer to lock and unlock the loan at the prevailing interest rate.
The loans held for sale category is composed of $2.3 million of mortgage loans committed for sale to other institutions and the secondary market as of December 31, 2008 versus $3.2 million as of December 31, 2007. The decrease in loans held for sale is primarily due to decreased loan origination and sale activity through VIST Mortgage.
The sales of residential real estate loans in the secondary market reflects the Company's strategy of de-emphasizing the retention of long-term, fixed rate loans in the portfolio utilizing these loans sales to generate fees, improve interest-rate risk and fund growth in higher yielding assets.
Premises and Equipment
Premises and equipment, net of accumulated depreciation and amortization, decreased to $6.6 million for 2008 from $6.9 million in 2007. Purchases of premises and equipment totaled $1.2 million in 2008 and $1.5 million in 2007. During 2008, as a result of the Company's re-branding initiative, the Company purchased new signage totaling approximately $595,000. During 2007, the Company purchased a corporate-wide telephone system. The total cost for the telephone system was approximately $673,000. This new system allows for seamless communication between the Company's banking, insurance and wealth management affiliates. Depreciation expense and amortization of leasehold improvements totaled $1.5 million in 2008 and $1.5 million in 2007.
Goodwill and Identifiable Intangible Assets
Goodwill increased to $39.7 million for the years ended December 31, 2008 from $39.2 million for 2007. During 2008, the Company recorded goodwill of $320,000 representing contingent payments as part of the VIST Insurance asset purchase agreement. In addition, $223,000 in goodwill was added due to the Fisher Benefits Consulting acquisition in 2008. Identifiable intangible assets increased to $4.8 million from $3.9 million for the years ended December 31, 2008 and 2007, respectively. The increase in identifiable intangible assets is due mainly to the acquisition of Fisher Benefits Consulting in 2008. Amortization of identifiable intangible assets was $629,000 in 2008 and $622,000 in 2007.
Bank Owned Life Insurance
Bank owned life insurance increased $695,000 to $18.6 million at December 31, 2008 from $17.9 million at December 31, 2007. The increase in bank owned life insurance is due primarily to increased earnings on the cash surrender value of the underlying policies.
Deposits and Borrowings
Total deposits at December 31, 2008 and 2007 were $850.6 million and $712.6 million, respectively.
Non-interest bearing deposits decreased to $108.6 million at December 31, 2008, from $109.7 million at December 31, 2007, a decrease of $1.1 million or 1.0%. The decrease in non-interest bearing deposits is primarily due to a decrease in non-interest bearing personal accounts. Management continues its efforts to promote growth in these types of deposits, such as offering a free checking product, as a method to help reduce the overall cost of the Company's funds. Interest bearing deposits increased by $139.0 million or 23.1%, from $602.9 million at December 31, 2007 to $742.0 million at December 31, 2008. The increase in interest bearing deposits is due primarily to an increase in interest bearing core deposits including time deposits maturing in one year or less. Management continues to promote these types of deposits through a disciplined pricing strategy as a means of managing the Company's overall cost of funds, as well as, management's continuing emphasis on commercial and retail marketing programs and customer service.
Borrowed funds from various sources are generally used to supplement deposit growth. Federal funds purchased from the Federal Home Loan Bank ("FHLB") were $53.4 million at December 31, 2008, and $118.2 million at December 31, 2007. This decrease is primarily the result of an increase in deposits. Securities sold under agreements to repurchase were $120.1 million at December 31, 2008 and $110.9 at December 31, 2007. Increases in commercial loan demand and investment securities were funded primarily by interest-bearing deposits. Long-term borrowings consisting of advances from the FHLB totaling $50.0 million and $45.0 million at December 31, 2008 and 2007, respectively, and long-term securities sold under agreements to repurchase totaling $100.0 million and $85.0 million at December 31, 2008 and 2007, respectively.
Shareholders' Equity
Total equity, including common and preferred stock, surplus, retained earnings, treasury stock and accumulated other comprehensive loss, increased by $15.9 million or 14.9% to $122.5 million at December 31, 2008 from $106.6 million at December 31, 2007. The increase for 2008 is primarily the result of a Series A 5% cumulative preferred stock issuance of $25 million offset by cash dividends declared of $2.8 million and a $7.5 million increase in accumulated other comprehensive loss.
On December 19, 2008, the Company issued to the United States Department of the Treasury ("Treasury") 25,000 shares of Series A, Fixed Rate, Cumulative Perpetual Preferred Stock ("Series A Preferred Stock"), with a par value of $0.01 per share and a liquidation preference of $1,000 per share, and a warrant ("Warrant") to purchase 364,078 shares of the Company's common stock, par value $5.00 per share, for an aggregate purchase price of $25,000,000 in cash.
The Series A Preferred Stock qualifies as Tier 1 capital and will pay cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter. Under ARRA, the Series A Preferred Stock may be redeemed at any time following consultation by the Company's primary bank regulator and Treasury, not withstanding the terms of the original transaction documents. Under FAQ's issued recently by Treasury, participants in the Capital Purchase Program desiring to repay part of an investment by Treasury must repay a minimum of 25% of the issue price of the preferred stock.
Prior to the earlier of the third anniversary date of the issuance of the Series A Preferred Stock (December 19, 2011) or the date on which the Series A Preferred Stock have been redeemed in whole or the Treasury has transferred all of the Series A Preferred Stock to third parties which are not affiliates of the Treasury, the Company can not increase its common stock dividend from the last quarterly cash dividend per share ($0.10) declared on the common stock prior to October 14, 2008 without the consent of the Treasury,
The Warrant has a 10-year term and is immediately exercisable upon its issuance, with an exercise price, subject to anti-dilution adjustments, equal to $10.30 per share of common stock. If the Company receives aggregate gross cash proceeds of not less than $25,000,000 from qualified equity offerings on or prior to December 31, 2009, the number of shares of common stock issuable pursuant to exercise of the Warrant will be reduced by one half of the original number of shares underlying the Warrant. In addition, in the event that the Company redeems the Series A Preferred Stock, the Company can repurchase the warrant at "fair value" as defined in the investment agreement with Treasury.
Total shareholders' equity includes accumulated other comprehensive loss, which includes an adjustment for the fair value of the Company's securities portfolio. This amount attempts to identify the impact to equity in the unlikely event that the Company's entire securities portfolio would be liquidated under current economic conditions. The amounts and types of securities held by the Company at the end of 2008, combined with current interest rates, resulted in a decrease in equity, net of taxes, of $7.5 million. This compares with an increase to equity, net of taxes, of $1.4 million during 2007.
Interest Rate Sensitivity
Through the years, the banking industry has adapted to an environment in which interest rates have fluctuated dramatically and in which depositors have been provided with liquid, rate sensitive investment options. The industry utilizes a process known as asset/liability management as a means of managing this adaptation.
Asset/liability management is intended to provide for adequate liquidity and interest rate sensitivity by analyzing and understanding the underlying cash flow structures of interest rate sensitive assets and liabilities and coordinating maturities and repricing characteristics on those assets and liabilities.
Interest rate risk management involves managing the extent to which interest-sensitive assets and interest-sensitive liabilities are matched. Interest rate sensitivity is the relationship between market interest rates and earnings volatility due to the repricing characteristics of assets and liabilities. The Company's net interest income is affected by changes in the level of market interest rates. In order to maintain consistent earnings performance, the Company seeks to manage, to the extent possible, the repricing characteristics of its assets and liabilities.
One major objective of the Company when managing the rate sensitivity of its assets and liabilities is to stabilize net interest income. The management of and authority to assume interest rate risk is the responsibility of the Company's Asset/Liability Committee ("ALCO"), which is comprised of senior management and Board members. The ALCO meets quarterly to monitor the ratio of interest sensitive assets to interest sensitive liabilities. The process to review interest rate risk management is a regular part of management of the Company. In addition, there is an annual process to review the interest rate
risk policy with the Board of Directors which includes limits on the impact to earnings and value from shifts in interest rates.
To manage the interest rate sensitivity position, an asset/liability model called "gap analysis" is used to monitor the difference in the volume of the Company's interest sensitive assets and liabilities that mature or reprice within given periods. A positive gap (asset sensitive) indicates that more assets reprice during a given period compared to liabilities, while a negative gap (liability sensitive) has the opposite effect.
During October 2002, the Company entered into its first interest rate swap agreement with a notional amount of $5 million. This derivative financial instrument effectively converted fixed interest rate obligations of outstanding junior subordinated debt to variable interest rate obligations, decreasing the asset sensitivity of its balance sheet by more closely matching the Company's variable rate assets with variable rate liabilities. The Company considers the credit risk inherent in the contracts to be negligible.
Interest rate caps are generally used to limit the exposure from the repricing and maturity of liabilities and to limit the exposure created by interest rate swaps. In June of 2003, the Company purchased a six month LIBOR cap to create protection against rising interest rates for the above mentioned $5 million interest rate swap. The initial premium related to this interest rate cap was $102,000. At December 31, 2008 and 2007, the carrying value and market value of the interest rate cap was approximately $0 and $3,000, respectively.
During September 2008, the Company entered into two interest rate swap agreements with an aggregate notional amount of $15 million. This interest rate swap transaction involved the exchange of the Company's floating rate interest rate payment on $15.0 million in floating rate junior subordinated debt for a fixed rate interest payment without the exchange of the underlying principal amount.
Also, the Company sells fixed and adjustable rate residential mortgage loans to limit the interest rate risk of holding longer-term assets on the balance sheet. In 2008, 2007 and 2006, the Company sold $0.7 million, $2.0 million and $1.7 million, respectively, of fixed and adjustable rate loans.
At December 31, 2008, the Company was in a positive one-year cumulative gap position. Commercial adjustable rate loans increased $35.3 million or 8.4% from $440.1 million at December 31, 2007 to $475.4 million at December 31, 2008. Installment adjustable rate loans increased $12.1 million or 26.4% from $45.8 million at December 31, 2007 to $57.9 million at December 31, 2008. During 2008, the targeted short-term interest rate, as established by the FRB, decreased which resulted in a decrease in the prime rate from 7.25% at December 31, 2007, to 3.25% at December 31, 2008. The decrease in interest rates throughout 2008 contributed to margin compression as the Bank's adjustable and variable rate commercial and consumer loan portfolio tied to the prime rate repriced downward. As a result of an ongoing industry-wide credit crisis due to sub-prime lending, the refinance market remains stagnant effectively extending the maturities for fixed rate loans and investments. In order to augment the funding needs for new commercial and consumer loan originations and investment security purchases, interest-bearing deposits, which include interest-bearing NOW and time deposits, increased $139.0 million or 23.1% from $602.9 million at December 31, 2007 to $741.9 million at December 31, 2008. These factors contributed to the Company's positive one-year cumulative gap position. In 2009, the Company will continue its strategy to originate fixed and adjustable rate commercial and consumer loans and use investment security cash flows and interest-bearing and non-interest bearing deposits to rebalance commercial borrowings to maintain a more neutral gap position.
Interest Sensitivity Gap at December 31, 2008
(1)Includes gross unrealized gains/losses on available for sale securities.
(2)Securities and loans are included in the earlier of the period in which interest rates were next scheduled to adjust or the period in which they are due.
(3)Demand and savings accounts are generally subject to immediate withdrawal. However, management considers a certain amount of such accounts to be core accounts having significantly longer effective maturities based on the retention experiences of such deposits in changing interest rate environments. Certain shortcomings are inherent in the method of analysis presented in the above table. Although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market interest rates. 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 of assets and liabilities may lag behind changes in market interest rates. Certain assets, such as adjustable-rate mortgages, have features which restrict changes in interest rates on a short-term basis and over the life of the asset. In the event of a change in interest rates, prepayment and early withdrawal levels may deviate significantly from those assumed in calculating the table. The ability of many borrowers to service their adjustable-rate debt may decrease in the event of an interest rate increase.
The Company also measures its near-term sensitivity to interest rate movements through simulations of the effects of rate changes upon its net interest income. Net interest income simulations evaluate the effect that interest rate changes have on the prepayment, repricing and maturity attributes of the Company's interest earning assets and interest bearing liabilities over the next twelve months. Interest rate movements of up 100, 200 and 300 basis points and down 100, 200 and 300 basis points, adjusted for activity in the current and forecasted interest rate environment, were applied to the
Company's interest earning assets and interest bearing liabilities as of December 31, 2008. The results of these simulations on net interest income for 2008 are as follows:
The Company also measures its longer-term sensitivity to interest rate movements through simulations of the effects of rate changes upon its economic value of shareholders' equity. Economic value of shareholders' equity simulations evaluate the effect that interest rate changes have on the prepayment, repricing and maturity attributes of the Company's interest earning assets and interest bearing liabilities over the life of each financial instrument. Interest rate movements of up 100, 200 and 300 basis points and down 100, 200 and 300 basis points, adjusted for activity in the current and forecasted interest rate environment, were applied to the Company's interest earning assets and interest bearing liabilities as of December 31, 2008. The results of these simulations on economic value of shareholders' equity for 2008 are as follows:
Capital
Federal bank regulatory agencies have established certain capital-related criteria that must be met by banks and bank holding companies. The measurements which incorporate the varying degrees of risk contained within the balance sheet and exposure to off-balance sheet commitments were established to provide a framework for comparing different institutions.
Other than Tier 1 capital restrictions on the Company's junior subordinated debt discussed later, the Company is not aware of any pending recommendations by regulatory authorities that would have a material impact on the Company's capital, resources, or liquidity if they were implemented, nor is the Company under any agreements with any regulatory authorities.
The adequacy of the Company's capital is reviewed on an ongoing basis with regard to size, composition and quality of the Company's resources. An adequate capital base is important for continued growth and expansion in addition to providing an added protection against unexpected losses.
An important indicator in the banking industry is the leverage ratio, defined as the ratio of common shareholders' equity less intangible assets, to average quarterly assets less intangible assets. The leverage ratio at December 31, 2008 was 9.16% compared to 7.99% at December 31, 2007. The increase is primarily the result of an increase in Tier 1 capital due to the issuance of Series A Preferred Stock. For 2008 and 2007, the ratios were above minimum regulatory guidelines.
As required by the federal banking regulatory authorities, guidelines have been adopted to measure capital adequacy. Under the guidelines, certain minimum ratios are required for core capital and total capital as a percentage of risk-weighted assets and other off-balance sheet instruments. For the Company, Tier 1 capital consists of common shareholders' equity less intangible assets plus the junior subordinated debt, and Tier 2 capital includes the allowable portion of the allowance for loan losses, currently limited to 1.25% of risk-weighted assets. By regulatory guidelines, the separate component of equity for unrealized appreciation or depreciation on available for sale securities is excluded from Tier 1 capital. In addition, federal banking regulating authorities have issued a final rule restricting the Company's junior subordinated debt to 25% of Tier 1 capital. Amounts of junior subordinated debt in excess of the 25% limit generally may be included in Tier 2 capital. The final rule provides a five-year transition period ending March 31, 2009.
On December 19, 2008, the Company issued to the United States Department of the Treasury ("Treasury") 25,000 shares of Series A, Fixed Rate, Cumulative Perpetual Preferred Stock ("Series A Preferred Stock"), with a par value of $0.01 per share and a liquidation preference of $1,000 per share, and a warrant ("Warrant") to purchase 364,078 shares of the Company's common stock, par value $5.00 per share, for an aggregate purchase price of $25,000,000 in cash.
The Series A Preferred Stock qualifies as Tier 1 capital and will pay cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter. Under ARRA, the Series A Preferred Stock may be redeemed at any time following consultation by the Company's primary bank regulator and Treasury, not withstanding the terms of the original transaction documents. Under FAQ's issued recently by Treasury, participants in the Capital Purchase Program desiring to repay part of an investment by Treasury must repay a minimum of 25% of the issue price of the preferred stock.
In December 2008, the Company infused $10 million in capital into the Bank.
The following table sets forth the Company's capital ratios.
Regulatory guidelines require that Tier 1 capital and total risk-based capital to risk-adjusted assets must be at least 4.0% and 8.0%, respectively.
Liquidity and Funds Management
Liquidity management ensures that adequate funds will be available to meet anticipated and unanticipated deposit withdrawals, debt servicing payments, investment commitments, commercial and consumer loan demand and ongoing operating expenses. Funding sources include principal repayments on loans and investment securities, sales of loans, growth in core deposits, short and long-term borrowings and repurchase agreements. Regular loan payments are a dependable source of funds, while the sale of loans and investment securities, deposit flows, and loan prepayments are significantly influenced by general economic conditions and level of interest rates.
At December 31, 2008, the Company maintained $19.3 million in cash and cash equivalents primarily consisting of cash and due from banks. In addition, the Company had $232.4 million in available for sale securities and $3.1 million in held to maturity securities. Cash and investment securities totaled $254.7 million which represented 20.8% of total assets at December 31, 2008 compared to 19.6% at December 31, 2007.
The Company considers its primary source of liquidity to be its core deposit base, which includes non-interest-bearing and interest-bearing demand deposits, savings, and time deposits under $100,000. This funding source has grown steadily over the years through organic growth and acquisitions and consists of deposits from customers throughout the financial center network. The Company will continue to promote the growth of deposits through its financial center offices. At December 31, 2008, approximately 55.5% of the Company's assets were funded by core deposits acquired within its market area. An additional 10.0% of the assets were funded by the Company's equity. These two components provide a substantial and stable source of funds.
Off-Balance Sheet Arrangements
The Company's financial statements do not reflect various off-balance sheet arrangements that are made in the normal course of business, which may involve some liquidity risk. These commitments consist mainly of unfunded loans and letters of credit made under the same standards as on-balance sheet instruments. Unused commitments, at December 31, 2008 totaled $260.7 million. This consisted of $59.1 million in commercial real estate and construction loans, $48.9 million in home equity lines of credit, $138.2 million in unused business lines of credit and $14.5 million in standby letters of credit. Because these instruments have fixed maturity dates, and because many of them will expire without being drawn upon, they do not generally present any significant liquidity risk to the Company. Any amounts actually drawn upon, management believes, can be funded in the normal course of operations. The Company has no investment in or financial relationship with any unconsolidated entities that are reasonably likely to have a material effect on liquidity or the availability of capital resources.
Contractual Obligations
The following table represents the Company's aggregate contractual obligations to make future payments.
Risk Elements
Non-performing loans, consisting of loans on non-accrual status, loans past due 90 days or more and still accruing interest, and renegotiated troubled debt were $11.1 million at December 31, 2008, an increase from $6.8 million at December 31, 2007. Generally, loans that are more than 90 days past due are placed on non-accrual status. As a percentage of total loans, non-performing loans represented 1.25% at December 31, 2008 and .83% at December 31, 2007. The allowance for loan losses represents 73.0% of non-performing loans at December 31, 2008, compared to 106.5% at December 31, 2007.
The Company continues to emphasize credit quality and believes that pre-funding analysis and diligent intervention at the first signs of delinquency will help to manage these levels.
The following table is a summary of non-performing loans and renegotiated loans for the years presented.
At December 31, 2008, there were no commercial loans for which payments are current, but where the borrowers were experiencing significant financial difficulties, that were not classified as non-accrual.
The following summary shows the impact on interest income of non-accrual and restructured loans for the year ended December 31, 2008 (in thousands):
Provision and Allowance for Loan Losses
The provision for loan losses for 2008 was $4.8 million compared to $1.0 million in 2007 and $1.1 million in 2006. The Company performs a review of the credit quality of its loan portfolio on a monthly basis to determine the adequacy of the allowance for possible loan losses. The Company experienced growth in the loan portfolio of 8.0% in 2008 and 7.3% in 2007. The allowance for loan losses at December 31, 2008 was $8.1 million, or 0.92% of outstanding loans, compared to $7.3 million or 0.88% of outstanding loans at December 31, 2007. The increase in the provision for loan losses for 2008 over 2007 is due primarily to the result of management's evaluation and classification of the credit quality of the loan portfolio utilizing a qualitative and quantitative internal loan review process.
The allowance for loan losses is an amount that management believes to be adequate to absorb potential losses in the loan portfolio. Additions to the allowance are charged through the provision for loan losses. Management regularly assesses the adequacy of the allowance by performing an ongoing evaluation of the loan portfolio, including such factors as charge-off history, the level of delinquent
loans, the current financial condition of specific borrowers, value of any collateral, risk characteristics in the loan portfolio, and local and national economic conditions. All loans are individually analyzed, while other smaller balance loans are evaluated by loan category. Based upon the results of such reviews, management believes that the allowance for loan losses at December 31, 2008 was adequate to absorb credit losses inherent in the portfolio as of that date.
The following table presents a comparative allocation of the allowance for loan losses for each of the past five year-ends. Amounts were allocated to specific loan categories based upon management's classification of loans under the Company's internal loan grading system and assessment of near-term charge-offs and losses existing in specific larger balance loans that are reviewed in detail by the Company's internal loan review department and pools of other loans that are not individually analyzed. The allocation is made for analytical purposes and is not necessarily indicative of the categories in which future credit losses may occur.
Allocation of Allowance for Loan Losses
(In thousands except percentage data)
The unallocated portion of the allowance is intended to provide for possible losses that are not otherwise accounted for and to compensate for the imprecise nature of estimating future loan losses. Management believes the allowance is adequate to cover the inherent risks associated with the Company's loan portfolio. While allocations have been established for particular loan categories, management considers the entire allowance to be available to absorb losses in any category.
The following tables set forth an analysis of the Company's allowance for loan losses for the years presented.
Analysis of the Allowance for Loan Losses
(in thousands except ratios)
Loan Policy and Procedure
The Bank's loan policies and procedures have been approved by the Board of Directors, based on the recommendation of the Bank's President, Chief Lending Officer, Chief Credit Officer, and the Risk Management Officer, who collectively establish and monitor credit policy issues. Application of the loan policy is the direct responsibility of those who participate either directly or administratively in the lending function.
The Bank's Relationship Managers originate loan requests through a variety of sources which include the Bank's existing customer base, referrals from directors and various networking sources (accountants, attorneys, and realtors), and market presence. Over the past several years, the Bank's Relationship Managers have been significantly increased through (1) the hiring of experienced commercial lenders in the Bank's geographic markets, (2) the Bank's continued participation in community and civic events, (3) strong networking efforts, (4) local decision making, and (5) consolidation and other changes which are occurring with respect to other local financial institutions.
The Bank's Relationship Managers have a combined lending authority up to $1,000,000. Loans over $1,000,000 and up to $2,000,000 require the additional approval of the Chief Lending Officer, Chief Credit Officer and/or the Bank President. Loans in excess of $2,000,000 are presented to the Bank's Credit Committee, comprised of the Chief Lending Officer, Chief Credit Officer, Chief Credit Officer (non-voting), and selected market Executives. The Credit Committee can approve loans up to $4,500,000 and recommend loans to the Executive Loan Committee for approval up to the Bank's legal
lending limit of approximately $14,460,000. The Executive Loan Committee is composed of the Bank President, the Chief Lending Officer, the Chief Credit Officer, the Chief Financial Officer, the Chief Credit Officer (non-voting member) and selected Board members. The Bank has established an "in-house" lending limit of 80% of its legal lending limit and, at December 31, 2008, the Bank has no loan relationships in excess of its in-house limit.
Through the Chief Credit Officer and the Credit Committee, the Bank has successfully implemented individual, joint, and committee level approval procedures which have monitored and solidified credit quality as well as provided lenders with a process that is responsive to customer needs.
The Bank manages credit risk in the loan portfolio through adherence to consistent standards, guidelines, and limitations established by the credit policy. The Bank's credit department, along with the Relationship Managers, analyzes the financial statements of the borrower, collateral values, loan structure, and economic conditions, to then make a recommendation to the appropriate approval authority. Commercial loans generally consist of real estate secured loans, lines of credit, term, and equipment loans. The Bank's underwriting policies impose strict collateral requirements and normally will require the guaranty of the principals. For requests that qualify, the Bank will use Small Business Administration guarantees to improve the credit quality and support local small business.
The Bank's loan review officers/department conduct ongoing, independent reviews of all new loan relationships to ensure adherence to established policies and procedures, monitor compliance with applicable laws and regulations, and provide objective measurement statistics. The Bank's loan review officers/department submit quarterly reports to the Audit Committee and/or the Board on loan concentrations, large loan relationships, collateral and documentation exceptions, and relevant loan ratios pertaining to the Bank's loan loss reserves, delinquency, and other key asset quality ratios.
Loan Portfolio
The following table sets forth the Company's loan distribution at the periods presented:
Loan Maturities
The following table shows the maturity of commercial, financial and agricultural loans outstanding at December 31, 2008:
Securities Portfolio
The following table sets forth the amortized cost of the Company's investment securities at its last three fiscal year ends:
For purposes of financial reporting, available for sale securities are reflected at estimated fair value.
Securities Portfolio Maturities and Yields
The following table sets forth information about the maturities and weighted average yield on the Company's securities portfolio. Floating rate securities are included in the "Due in 1 Year or Less" bucket. Yields are not reported on a tax equivalent basis.
Maturity of Certificates of Deposit of $100,000 or More
The following table sets forth the amounts of the Bank's certificates of deposit of $100,000 or more by maturity date.
Average Deposits and Average Rates by Major Classification
The following table sets forth the average balances of the Bank's deposits and the average rates paid for the years presented.
Other Borrowed Funds
Other borrowings at December 31, 2008 consisted of overnight borrowings from the FHLB under a repurchase agreement, overnight borrowings from other correspondent financial institutions, and repurchase agreements with customers and other financial institutions. The borrowings are collateralized by certain qualifying assets of the Bank.
Federal funds purchased by the Bank were $53.4 million and $118.2 million at December 31, 2008 and 2007, respectively. The federal funds purchased typically mature in one day.
Information concerning the short-term borrowings is summarized as follows:
Dividends and Shareholders' Equity
The Company declared cash dividends in 2008 of $0.50 per share and $0.77 per share in 2007. The cash dividends have been adjusted for the 5% stock dividend in 2007.
Management has discussed the development and selection of these critical accounting estimates with the Audit Committee of the Board of Directors and the Audit Committee has reviewed the Company's disclosure relating to it in this "Management's Discussion and Analysis".
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The discussion concerning the effects of interest rate changes on the Company's estimated net interest income for the year ended December 31, 2008 set forth under "Management's Discussion and Analysis of Financial Condition and Results of Operations-Interest Rate Sensitivity" in Item 7 hereof, is incorporated herein by reference.
Item 8.
Item 8. Financial Statements and Supplementary Data
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
VIST Financial Corp.
Wyomissing, Pennsylvania
We have audited the accompanying consolidated balance sheets of VIST Financial Corp. and its subsidiaries (the "Company") as of December 31, 2008 and 2007, and the related consolidated statements of income, shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 2008. The Company's management is responsible for these consolidated financial statements. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated 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 consolidated financial position of VIST Financial Corp. and its subsidiaries as of December 31, 2008 and 2007 and the consolidated results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2008 in conformity with accounting principles generally accepted in the United States of America.
As discussed in Note 1 to the consolidated financial statements, effective January 1, 2007, the Company early adopted Statement of Financial Standards (SFAS) No. 157, Fair Value Measurements, and SFAS No. 159, The Fair Value Option for Financial Assets and Liabilities.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), VIST Financial Corp.'s internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 4, 2009 expressed an unqualified opinion.
/s/ BEARD MILLER COMPANY LLP
Beard Miller Company LLP
Reading, Pennsylvania
March 4, 2009
VIST FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollar amounts in thousands, except per share data)
See Notes to Consolidated Financial Statements.
VIST FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 2008, 2007 and 2006
(Amounts in thousands, except per share data)
See Notes to Consolidated Financial Statements.
VIST FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31, 2008, 2007 and 2006
(Dollar amounts in thousands, except share data)
VIST FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (Continued)
Years Ended December 31, 2008, 2007 and 2006
(Dollar amounts in thousands, except share data)
See Notes to Consolidated Financial Statements.
VIST FINANCIAL CORP. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2008, 2007 and 2006
(Dollar amounts in thousands)
See Notes to Consolidated Financial Statements.
VIST FINANCIAL CORP. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
Years ended December 31, 2008, 2007 and 2006
(Dollar amounts in thousands)
See Notes to Consolidated Financial Statements.
1. Significant Accounting Policies
Principles of Consolidation:
On March 3, 2008, the Company changed its name from Leesport Financial Corp. to VIST Financial Corp. This re-branding initiative brought all the Leesport Financial Family of Companies under one new name and brand.
The consolidated financial statements include the accounts of VIST Financial Corp. (the "Company"), a bank holding company, which has elected to be treated as a financial holding company, and its wholly-owned subsidiaries, VIST Bank (the "Bank"), VIST Insurance, LLC ("VIST Insurance") and VIST Capital Management, LLC ("VIST Capital"). As of December 31, 2008, the Bank's wholly-owned subsidiary was VIST Mortgage Holdings, LLC. All significant inter-company accounts and transactions have been eliminated.
Nature of Operations:
The Bank provides full banking services. VIST Insurance provides risk management services, employee benefits insurance and personal and commercial insurance coverage through multiple insurance companies. VIST Capital provides investment advisory and brokerage services. VIST Mortgage Holdings, LLC provides mortgage brokerage services through its limited partnership agreements with unaffiliated third parties involved in the real estate services industry. First Leesport Capital Trust I, Leesport Capital Trust II and Madison Statutory Trust I are trusts formed for the purpose of issuing mandatory redeemable debentures on behalf of the Company. These trusts are wholly-owned subsidiaries of the Company, but are not consolidated for financial statement purposes. See "Junior Subordinated Debt" in Note 10 of the consolidated financial statements. The Company and the Bank are subject to the regulations of various federal and state agencies and undergo periodic examinations by various regulatory authorities.
Use of Estimates:
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 and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the potential impairment of goodwill and intangible assets, restricted stock, the valuation of deferred tax assets and the determination of other-than-temporary impairment on securities.
Significant Group Concentrations of Credit Risk:
Most of the Company's banking, insurance and wealth management activities are with customers located within Berks, Schuylkill, Philadelphia, Montgomery and Delaware Counties, as well as, within other southeastern Pennsylvania market areas. Note 4 of the consolidated financial statements details the Company's investment securities portfolio for both available for sale and held to maturity investments. Note 5 of the consolidated financial statements details the Company's loan concentrations. Although the Company has a diversified loan portfolio, its debtors' ability to honor contracts is influenced by the region's economy.
Reclassifications:
For comparative purposes, prior years' consolidated financial statements have been reclassified to conform to report classifications of the current year. The reclassifications had no effect on net income.
Presentation of Cash Flows:
For purposes of reporting cash flows, cash and cash equivalents include cash and due from banks and interest-bearing deposits in other banks.
Investment Securities Impairment Evaluation:
Debt securities that management has the positive ability and intent to hold to maturity are classified as held-to-maturity and recorded at amortized cost. Securities classified as available for sale are those securities that the Company intends to hold for an indefinite period of time but not necessarily to maturity. Any decision to sell a security classified as available for sale would be based on various factors, including significant movement in interest rates, changes in maturity mix of the Company's assets and liabilities, liquidity needs, regulatory capital considerations and other similar factors. Securities available for sale are carried at fair value. Unrealized gains and losses are reported in other comprehensive income or loss, net of the related deferred tax effect. Realized gains or losses, determined on the basis of the cost of the specific securities sold, are included in earnings. Purchased premiums and discounts are recognized in interest income using a method which approximates the interest method over the terms of the securities. Declines in the fair value of held-to-maturity and available-for-sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.
If a decline in market value of a security is determined to be other than temporary, under generally accepted accounting principles, we are required to write these securities down to their estimated fair value. As of December 31, 2008, we owned single issue and pooled trust preferred securities of other financial institutions and private label collateralized mortgage obligations whose aggregate historical cost basis is greater than their estimated fair value (see note 4 of the consolidated financial statements). We have reviewed these securities and determined that the decreases in estimated fair value are temporary. We perform an ongoing analysis of these securities utilizing both readily available market data and third party analytical models. Future changes in interest rates or the credit quality and strength of the underlying issuers may reduce the market value of these and other securities. If such decline is determined to be other than temporary, we will write them down through a charge to earnings to their then current fair value.
The Company's banking subsidiary, VIST Bank, is required to maintain certain amounts of FHLB stock as a member of the FHLB. These equity securities are "restricted" in that they can only be sold back to the respective institutions or another member institution at par. Therefore, they are less liquid than other tradable equity securities, their fair value is equal to amortized cost, and no impairment write-downs have been recorded on these securities during 2008, 2007, or 2006.
The FHLB of Pittsburgh announced in December 2008 that it voluntarily suspended the payment of dividends and the repurchase of excess capital stock from member banks. The FHLB cited a significant reduction in the level of core earnings resulting from lower short-term interest rates, the increased cost of maintaining liquidity and constrained access to the debt markets at attractive rates and maturities as the main reasons for the decision to suspend dividends and the repurchase excess capital stock. The FHLB last paid a dividend in the third quarter of 2008. Accounting guidance
indicates that an investor in FHLB Pittsburgh capital stock should recognize impairment if it concludes that it is not probable that it will ultimately recover the par value of its shares. The decision of whether impairment exists is a matter of judgment that should reflect the investor's view of FHLB Pittsburgh's long-term performance, which includes factors such as its operating performance, the severity and duration of declines in the market value of its net assets related to its capital stock amount, its commitment to make payments required by law or regulation and the level of such payments in relation to its operating performance, the impact of legislation and regulatory changes on FHLB Pittsburgh, and accordingly, on the members of FHLB Pittsburgh and its liquidity and funding position. After evaluating all of these considerations, the Company believes the par value of its shares will be recovered. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
Loans:
Loans that management has the intent and ability to hold for the foreseeable future, or until maturity or pay-off, generally are stated at their outstanding unpaid principal balances, net of any deferred fees or costs on originated loans or unamortized premiums or discounts on purchased loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the yield (interest income) of the related loans. These amounts are generally being amortized over the contractual life of the loan. Discounts and premiums on purchased loans are amortized to income using the interest method over the expected lives of the loans.
The accrual of interest is generally discontinued when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about further collectability of principal or interest, even though the loan is currently performing. A loan may remain on accrual status if it is in the process of collection and is either guaranteed or well secured. When a loan is placed on non-accrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against the allowance for loan losses. Interest received on non-accrual loans generally is either applied against principal or reported as interest income, according to management's judgment as to the collectability of principal. Generally, loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time and the ultimate collectability of the total contractual principal and interest is no longer in doubt.
Allowance for Loan Losses:
The allowance for loan losses is established through provisions for loan losses charged against income. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance.
The allowance for loan losses is maintained at a level considered adequate to provide for losses that can be reasonably anticipated. Management's periodic evaluation of the adequacy of the allowance is based on the Company's past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions, and other relevant factors. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.
The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as either doubtful or substandard or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value for
that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management's estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.
A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, or the fair value of the collateral if the loan is collateral dependent.
Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Bank does not separately identify individual consumer and residential mortgage loans for impairment disclosures, unless such loans are the subject of a restructuring agreement.
Loans Held for Sale:
Mortgage loans originated and intended for sale in the secondary market at the time of origination are carried at the lower of cost or estimated fair value on an aggregate basis. The majority of all sales are made with 90 day recourse.
Rate Lock Commitments:
The Company enters into commitments to originate loans whereby the interest rate on the loan is determined prior to funding (rate lock commitments). Rate lock commitments on mortgage loans that are intended to be sold are considered to be derivatives. Accordingly, such commitments, along with any related fees received from potential borrowers, are recorded at fair value in derivative assets or liabilities, with changes in fair value recorded in the net gain or loss on sale of mortgage loans. Fair value is based on fees currently charged to enter into similar agreements, and for fixed-rate commitments also considers the difference between current levels of interest rates and the committed rates.
Foreclosed Assets:
Foreclosed assets, which are recorded in other assets were $263,000 and $548,000 at December 31, 2008 and 2007, repsectively, include properties acquired through foreclosure or in full or partial satisfaction of the related loan.
Foreclosed assets are initially recorded at fair value, net of estimated selling costs, at the date of foreclosure, establishing a new cost basis. After foreclosure, valuations are periodically performed by management, and the real estate is carried at the lower of carrying amount or fair value, less estimated costs to sell. Revenue and expense from operations and changes in the valuation allowance are included in other expense.
Premises and Equipment:
Land and land improvements are stated at cost. Premises and equipment are stated at cost less accumulated depreciation. Depreciation expense is calculated principally on the straight-line method over the respective assets estimated useful lives as follows:.
Transfer of Financial Assets:
Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
Bank-Owned Life Insurance:
The Bank invests in bank owned life insurance ("BOLI") as a source of funding for employee benefit expenses. BOLI involves the purchasing of life insurance by the Bank on a chosen group of employees. The Bank is the owner and beneficiary of the policies and, in 2006, the Bank purchased $5 million of additional BOLI. This life insurance investment is carried at the cash surrender value of the underlying policies in the amount of $18.6 million and $17.9 million at December 31, 2008 and 2007, respectively. Income from the increase in cash surrender value of the policies is included in other income on the income statement.
Stock-Based Compensation:
Prior to January 1, 2006, employee compensation expense under stock option plans was recognized only if options were granted with exercise prices below the market price of the related stock at the stock option grant date in accordance with the intrinsic value method of Accounting Principles Board (APB) No. 25, "Accounting for Stock Issued to Employees," and related interpretations. Because the exercise price of the Company's employee stock options always equaled the market price of the underlying stock on the date of grant, no compensation expense was recognized on options granted. The Company adopted the provisions of SFAS No. 123, "Share-Based Payment (Revised 2004)," on January 1, 2006. SFAS No. 123R eliminates the ability to account for stock-based compensation using APB No. 25 and requires that such transactions be recognized as compensation cost in the consolidated statements of income based on their fair values on the measurement date, which, for the Company, is the date of the grant. The Company transitioned to fair-value based accounting for stock-based compensation using the modified-prospective transition method. Under the modified-prospective method, the Company is required to record compensation cost for new awards and to awards modified, purchased or cancelled after January 1, 2006. Additionally, compensation cost for the portion of non-vested awards (awards for which the requisite service has not been rendered) that were outstanding as of January 1, 2006 will be recognized prospectively over the remaining vesting period of such awards.
Loan Servicing:
Capitalized servicing rights are reported in other assets and are amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets. Servicing rights are evaluated for impairment based upon the fair value of the rights as
compared to amortized cost. Fair value is determined using prices for similar assets with similar characteristics, when available, or based upon discounted cash flows using market-based assumptions. Impairment is recognized through a valuation allowance to the extent that fair value is less than the capitalized amount.
Revenue Recognition for Insurance Activities:
Insurance revenues are derived from commissions and fees. Commission revenues, as well as the related premiums receivable and payable to insurance companies, are recognized the later of the effective date of the insurance policy or the date the client is billed, net of an allowance for estimated policy cancellations. The reserve for policy cancellations is periodically evaluated and adjusted as necessary. Commission revenues related to installment premiums are recognized as billed. Commissions on premiums billed directly by insurance companies are generally recognized as income when received. Contingent commissions from insurance companies are generally recognized as revenue when the data necessary to reasonably estimate such amounts is obtained. A contingent commission is a commission paid by an insurance company that is based on the overall profit and/or volume of the business placed with the insurance company. Fee income is recognized as services are rendered.
Goodwill and Other Intangible Assets:
The Company accounts for goodwill and other intangible assets in accordance with SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 142 revised the accounting for purchased intangible assets and, in general, requires that goodwill no longer be amortized, but rather that it be tested for impairment on an annual basis at the reporting unit level, which is either at the same level or one level below an operating segment. Other acquired intangible assets with finite lives, such as purchased customer accounts, are required to be amortized over their estimated lives. Other intangible assets are amortized using the straight line method over estimated useful lives of four to twenty years. The Company periodically assesses whether events or changes in circumstances indicate that the carrying amounts of goodwill and other intangible assets may be impaired.
Income Taxes:
Income Taxes-The calculation of the provision for federal and state income taxes is complex and requires the use of estimates and judgments. In the Company's consolidated balance sheet, the Company maintains two accruals for income taxes: the Company's income tax payable represents the estimated amount currently due to the federal and state government and is reported as a component of "other liabilities"; the Company's deferred federal and state income tax asset or liability represents the estimated impact of temporary differences between how the Company recognizes its assets and liabilities under GAAP, and how such assets and liabilities are recognized under the federal and state tax codes.
Deferred federal and state taxes are provided on the liability method whereby deferred tax assets are recognized for deductible temporary differences, and deferred federal and state tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities in the financial statements and their tax basis. Deferred federal and state tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred federal and state tax assets and liabilities are adjusted through the provision for income taxes for the effects of changes in tax laws and rates on the date of enactment.
The effective tax rate is based in part on the Company's interpretation of the relevant current tax laws. The Company believes the aggregate liabilities related to taxes are appropriately reflected in the consolidated financial statements. The Company reviews the appropriate tax treatment of all
transactions taking into consideration statutory, judicial, and regulatory guidance in the context of the Company's tax positions. In addition, the Company relies on various tax opinions, recent tax audits, and historical experience.
From time to time, the Company engages in business transactions that may have an effect on its tax liabilities. Where appropriate, the Company obtains opinions of outside experts and has assessed the relative merits and risks of the appropriate tax treatment of business transactions taking into account statutory, judicial, and regulatory guidance in the context of the tax position. However, changes to the Company's estimates of accrued taxes can occur due to changes in tax rates, implementation of new business strategies, resolution of issues with taxing authorities regarding previously taken tax positions and newly enacted statutory, judicial, and regulatory guidance. Such changes could affect the amount of our accrued taxes and could be material to the Company's financial position and/or results of operations. (See Note 13 of the consolidated financial statements.)
Off-Balance Sheet Financial Instruments:
In the ordinary course of business, the Bank has entered into off-balance sheet financial instruments consisting of commitments to extend credit and letters of credit. Such financial instruments are recorded in the consolidated balance sheets when they become receivable or payable.
Derivative Financial Instruments:
The Company maintains an overall interest rate risk-management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility. The Company's goal is to manage interest rate sensitivity by modifying the repricing or maturity characteristics of certain balance sheet assets and liabilities so that the net interest margin is not, on a material basis, adversely affected by movements in interest rates. As a result of interest rate fluctuations, hedged assets and liabilities will appreciate or depreciate in market value. The effect of this unrealized appreciation or depreciation will generally be offset by income or loss on the derivative instruments that are linked to the hedged assets and liabilities. The Company views this strategy as a prudent management of interest rate sensitivity, such that earnings are not exposed to undue risk presented by changes in interest rates.
By using derivative instruments, the Company is exposed to credit and market risk. If the counterparty fails to perform, credit risk exists to the extent of the fair value gain in a derivative. When the fair value of a derivative contract is positive, this generally indicates that the counterparty owes the Company, and, therefore, creates a repayment risk for the Company. When the fair value of a derivative contract is negative, the Company owes the counterparty and, therefore, it has no repayment risk. The Company minimizes the credit (or repayment) risk in the derivative instruments by entering into transactions with high quality counterparties.
Market risk is the adverse effect that a change in interest rates, currency, or implied volatility rates has on the value of a financial instrument. The Company manages the market risk associated with interest rate contracts by establishing and monitoring limits as to the types and degree of risk that may be undertaken. The Company periodically measures this risk by using value-at-risk methodology.
During 2002, the Company entered into an interest rate swap to convert its fixed rate trust preferred securities to floating rate debt. Both the interest rate swap and the related debt are recorded on the balance sheet at fair value through adjustments to other expense.
During 2003, the Company also entered into an interest rate cap agreement to limit its exposure to the variable rate interest achieved through the interest rate swap. The interest rate cap was not designated as a cash flow hedge and thus, it is carried on the balance sheet in other assets at fair value through adjustments to interest expense.
During 2008, the Company entered into two interest rate swaps to manage its exposure to interest rate risk. The interest rate swap transactions involved the exchange of the Company's floating rate interest rate payment on its $15 million in floating rate junior subordinated debt for a fixed rate interest payment without the exchange of the underlying principal amount. The cumulative change in fair value of the hedging derivative, to the extent that it is expected to be offset by the cumulative change in anticipated interest cash flows from the hedged exposure, will be deferred and reported as a component of other comprehensive income or loss (OCI). Any hedge ineffectiveness will be charged to current earnings.
Advertising:
Advertising costs are expensed as incurred.
Earnings Per Common Share:
Basic earnings per common share is calculated by dividing net income, less Series A Preferred Stock dividends, by the weighted average number of shares of common stock outstanding. Diluted earnings per share is calculated by adjusting the weighted average number of shares of common stock outstanding to include the effect of stock options, if dilutive, using the treasury stock method. For 2008, dividends on the Series A Preferred Stock were immaterial and were not included in income available for common shareholders or basic and diluted earnings per common share.
The Company's calculation of earnings per share for the years ended December 31, 2008, 2007, and 2006 is as follows:
Comprehensive Income:
Accounting principles generally require that recognized revenue, expense, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available for sale securities are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.
The components of other comprehensive income (loss) and related tax effects were as follows:
Equity Method Investment:
On December 29, 2003, the Bank entered into a limited partner subscription agreement with Midland Corporate Tax Credit XVI Limited Partnership, where the Bank receives special tax credits and other tax benefits. The Bank subscribed to a 6.2% interest in the partnership, which is subject to an adjustment depending on the final size of the partnership at a purchase price of $5 million. This investment of $3.6 million and $3.9 million is included and recorded in other assets as of December 31, 2008 and 2007, respectively, and is not guaranteed; therefore, it is accounted for in accordance with Statement of Position (SOP) 78-9, "Accounting for Investments in Real Estate Ventures" using the equity method.
Segment Reporting:
The Bank acts as an independent community financial services provider which offers traditional banking and related financial services to individual, business and government customers. Through its branch and automated teller machine networks, the Bank offers a full array of commercial and retail financial services, including the taking of time, savings and demand deposits; the making of commercial, consumer and mortgage loans; and the providing of other financial services. Management does not separately allocate expenses, including the cost of funding loan demand, between the commercial and retail operations of the Bank. As such, discrete financial information is not available and segment
reporting for the Bank would not be meaningful. See Note 18 for a discussion of insurance operations, investment advisory and brokerage operations and mortgage banking operations.
Recently Issued Accounting Standards:
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities-Including an amendment of FASB Statement No. 115." SFAS No. 159 permits certain financial assets and financial liabilities to be measured at fair value, using an instrument-by-instrument election. The initial effect of adopting SFAS No. 159 must be accounted for as a cumulative-effect adjustment to opening retained earnings for the year in which SFAS No. 159 is applied. Retrospective application of SFAS No. 159 to years preceding the effective date is not permitted. The Company elected to early adopt SFAS No. 159 as of January 1, 2007. This adoption resulted in a one-time cumulative after-tax charge of $409,000 ($619,000 pre-tax) to opening retained earnings as of January 1, 2007. See Note 17, for additional information.
In September 2006, the FASB issued FASB Statement No. 157, "Fair Value Measurements", which defines fair value, establishes a framework for measuring fair value under GAAP, and expands disclosures about assets and liabilities measured at fair value. FASB Statement No. 157 does not change existing guidance as to whether or not an asset or liability is carried at fair value. The new standard provides a consistent definition of fair value which focuses on exit price and prioritizes, within a measurement of fair value, the use of market-based inputs over entity-specific inputs. The standard also establishes a three-level hierarchy for fair value measurements based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The standard eliminates large position discounts for financial instruments quoted in active markets, requires costs related to acquiring financial instruments carried at fair value to be included in earnings as incurred and requires that an issuer's credit standing be considered when measuring liabilities at fair value. The new guidance is effective for financial statements issued for fiscal years beginning after November 15, 2007, with early adoption permitted. In conjunction with the early adoption of SFAS No. 159 indicated above, the Company adopted SFAS No. 157 beginning January 1, 2007. See Note 17, for the new disclosures required by SFAS No. 157 regarding the market-based pricing associated with assets and liabilities carried at fair value. No significant impact to amounts reported in the consolidated financial position or results of operations resulted from the adoption of SFAS No. 157.
In December 2007, the FASB issued FASB statement No. 141 (R) "Business Combinations". This Statement establishes principles and requirements for how the acquirer of a business recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree. The Statement also provides guidance for recognizing and measuring the goodwill acquired in the business combination and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The guidance is effective for fiscal years beginning after December 15, 2008. This new pronouncement will impact the Company's accounting for business combinations completed beginning January 1, 2009.
In December 2007, the FASB issued FASB statement No. 160 "Non-controlling Interests in Consolidated Financial Statements-an amendment of ARB No. 51". This Statement establishes accounting and reporting standards for the non-controlling interest in a subsidiary and for the deconsolidation of a subsidiary. The guidance is effective for fiscal years beginning after December 15, 2008. The implementation of this standard will not have a material impact on the Company's consolidated financial position and results of operations.
In February 2008, the FASB issued a FASB Staff Position (FSP) FAS 140-3, "Accounting for Transfers of Financial Assets and Repurchase Financing Transactions." This FSP addresses the issue of whether or not these transactions should be viewed as two separate transactions or as one "linked" transaction. The FSP includes a "rebuttable presumption" that presumes linkage of the two
transactions unless the presumption can be overcome by meeting certain criteria. The FSP will be effective for fiscal years beginning after November 15, 2008 and will apply only to original transfers made after that date; early adoption will not be allowed. The implementation of this standard will not have a material impact on the Company's consolidated financial statements.
In March 2008, the FASB issued Statement No. 161, "Disclosures about Derivative Instruments and Hedging Activities-an amendment of FASB Statement No. 133" (Statement 161). Statement 161 requires entities that utilize derivative instruments to provide qualitative disclosures about their objectives and strategies for using such instruments, as well as any details of credit-risk-related contingent features contained within derivatives. Statement 161 also requires entities to disclose additional information about the amounts and location of derivatives located within the financial statements, how the provisions of SFAS No. 133 has been applied, and the impact that hedges have on an entity's financial position, financial performance, and cash flows. Statement 161 is effective for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The implementation of this standard will not have a material impact on the Company's consolidated financial position and results of operations.
In April 2008, the FASB issued FASB Staff Position ("FSP") FAS 142-3, "Determination of the Useful Life of Intangible Assets." This FSP amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). The intent of this FSP is to improve the consistency between the useful life of a recognized intangible asset under SFAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS No. 141R, and other GAAP. This FSP is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Early adoption is prohibited. The implementation of this standard will not have a material impact on the Company's consolidated financial position and results of operations.
In May 2008, the FASB issued SFAS No. 163, "Accounting for Financial Guarantee Insurance Contracts-an interpretation of FASB Statement No. 60" (Statement 163). This Statement clarifies how FASB Statement No. 60, Accounting and Reporting by Insurance Enterprises, applies to financial guarantee insurance contracts issued by insurance enterprises, including the recognition and measurement of premium revenue and claim liabilities. It also requires expanded disclosures about financial guarantee insurance contracts. Statement 163 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and all interim periods within those fiscal years, except for disclosures about the insurance enterprise's risk-management activities, which are effective the first period (including interim periods) beginning after May 23, 2008. Except for the required disclosures, earlier application is not permitted. The implementation of this standard will not have a material impact on the Company's consolidated financial position and results of operations.
In June 2008, the FASB issued FASB Staff Position (FSP) EITF 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities." This FSP clarifies that all outstanding unvested share-based payment awards that contain rights to nonforfeitable dividends participate in undistributed earnings with common shareholders. Awards of this nature are considered participating securities and the two-class method of computing basic and diluted earnings per share must be applied. This FSP is effective for fiscal years beginning after December 15, 2008. The implementation of this standard will not have a material impact on the Company's consolidated financial position and results of operations.
In September 2008, the FASB issued FSP 133-1 and FIN 45-4, "Disclosures about Credit Derivatives and Certain Guarantees: An Amendment of FASB Statement No. 133 and FASB Interpretation No. 45; and Clarification of the Effective Date of FASB Statement No. 161" (FSP 133-1 and FIN 45-4). FSP 133-1 and FIN 45-4 amends and enhances disclosure requirements for sellers of credit derivatives and financial guarantees. It also clarifies that the disclosure requirements of SFAS
No. 161 are effective for quarterly periods beginning after November 15, 2008, and fiscal years that include those periods. FSP 133-1 and FIN 45-4 are effective for reporting periods (annual or interim) ending after November 15, 2008. The implementation of this standard did not have a material impact on the Company's consolidated financial position and results of operations.
In November 2008, the SEC released a proposed roadmap regarding the potential use by U.S. issuers of financial statements prepared in accordance with International Financial Reporting Standards (IFRS). IFRS is a comprehensive series of accounting standards published by the International Accounting Standards Board ("IASB"). Under the proposed roadmap, the Company may be required to prepare financial statements in accordance with IFRS as early as 2014. The SEC will make a determination in 2011 regarding the mandatory adoption of IFRS. The Company is currently assessing the impact that this potential change would have on its consolidated financial statements, and it will continue to monitor the development of the potential implementation of IFRS.
In December 2008, the FASB issued FSP SFAS 140-4 and FASB Interpretation (FIN) 46(R)-8, "Disclosures by Public Entities (Enterprises) about Transfers of Financial Assets and Interests in Variable Interest Entities" (FSP SFAS 140-4 and FIN 46(R)-8). FSP SFAS 140-4 and FIN 46(R)-8 amends FASB SFAS 140 "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities", to require public entities to provide additional disclosures about transfers of financial assets. It also amends FIN 46(R), "Consolidation of Variable Interest Entities", to require public enterprises, including sponsors that have a variable interest in a variable interest entity, to provide additional disclosures about their involvement with variable interest entities. Additionally, this FSP requires certain disclosures to be provided by a public enterprise that is (a) a sponsor of a qualifying special purpose entity (SPE) that holds a variable interest in the qualifying SPE but was not the transferor of financial assets to the qualifying SPE and (b) a servicer of a qualifying SPE that holds a significant variable interest in the qualifying SPE but was not the transferor of financial assets to the qualifying SPE. The disclosures required by FSP SFAS 140-4 and FIN 46(R)-8 are intended to provide greater transparency to financial statement users about a transferor's continuing involvement with transferred financial assets and an enterprise's involvement with variable interest entities and qualifying SPEs. FSP SFAS 140-4 and FIN 46(R) are effective for reporting periods (annual or interim) ending after December 15, 2008. The implementation of this standard did not have a material impact on the Company's consolidated financial position and results of operations.
In January 2009, the FASB issued FSP EITF 99-20-1, "Amendments to the Impairment of Guidance of EITF Issue No. 99-20" (FSP EITF 99-20-1). FSP EITF 99-20-1 amends the impairment guidance in EITF Issue No. 99-20, "Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests That Continue to Be Held by a Transferor in Securitized Financial Assets", to achieve more consistent determination of whether an other-than-temporary impairment has occurred. FSP EITF 99-20-1 also retains and emphasizes the objective of an other-than-temporary impairment assessment and the related disclosure requirements in SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities", and other related guidance. FSP EITF 99-20-1 is effective for interim and annual reporting periods ending after December 15, 2008, and shall be applied prospectively. Retrospective application to a prior interim or annual reporting period is not permitted. The implementation of this standard did not have a material impact on the Company's consolidated financial position and results of operations, however, see note 4 of the consolidated financial statements for a furhter discussion.
2. Acquisitions Including Goodwill and Other Intangible Assets
On September 1, 2008, the Company paid cash of $1.8 million for Fisher Benefits Consulting, an insurance agency specializing in Group Employee Benefits, located in Pottstown, Pennsylvania. Fisher Benefits Consulting has become a part of VIST Insurance. As a result of the acquisition, VIST Insurance, continues to expand its retail and commercial insurance presence in southeastern
Pennsylvania counties. The results of Fisher Benefits Consultings operations have been included in the Company's consolidated financial statements since September 2, 2008.
Included in the $1.8 million purchase price for Fisher Benefits Consulting was goodwill of $0.2 million and identifiable intangible assets of $1.6 million. Contingent payments totaling $750,000, or $250,000 for each of the first three years following the acquisition, will be paid if certain predetermined revenue target ranges are met. These payments are expected to be added to goodwill when paid. The contingent payments could be higher or lower depending upon whether actual revenue earned in each of the three years following the acquisition is less than or exceeds the predetermined revenue goals.
In accordance with the provisions of SFAS No. 142, the Company amortizes other intangible assets over the estimated remaining life of each respective asset. Amortizable intangible assets were composed of the following:
The changes in the carrying amount of goodwill for the years ended December 31, 2008 and 2007 are as follows:
3. Restrictions on Cash and Due from Banks
The Federal Reserve Bank requires the Bank to maintain average reserve balances. For the year 2008 and 2007, the average of the daily reserve balances required to be maintained approximated $2.6 million and $1.2 million, respectively.
4. Securities Available For Sale and Securities Held to Maturity
The amortized cost and estimated fair values of securities available for sale and securities held to maturity were as follows at December 31, 2008 and 2007 (in thousands):
Proceeds from sales of investment securities available-for-sale were $91.4 million in 2008, $118.7 million in 2007 and $8.0 million in 2006.
The following gross gains and losses were realized on sales of securities available for sale in 2008, 2007 and 2006 (in thousands):
Securities with a market value of $182.8 million and $173.4 million at December 31, 2008 and 2007, respectively, were pledged to secure securities sold under agreements to repurchase, public deposits and for other purposes as required or permitted by law.
The federal income tax provision includes ($2,460,000), ($790,000) and $175,000 in 2008, 2007 and 2006, respectively, of federal income taxes related to net gains and losses on the sale of securities.
The following table shows the gross unrealized losses and fair value of securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2008 and 2007 (in thousands):
Other-Than-Temporary-Impairment
Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.
If a decline in market value of a security is determined to be other than temporary, under generally accepted accounting principles, we are required to write these securities down to their estimated fair value. As of December 31, 2008, we owned single issue and pooled trust preferred securities of other financial institutions and private label collateralized mortgage obligations whose aggregate historical cost basis is greater than their estimated fair value We have reviewed these securities and determined that the decreases in estimated fair value are temporary. We perform an ongoing analysis of these securities utilizing both readily available market data and third party analytical models. Future changes in interest rates or the credit quality and strength of the underlying issuers may reduce the market value of these and other securities. If such decline is determined to be other than temporary, we will write them down through a charge to earnings to their then current fair value.
At December 31, 2008, there were 65 securities with unrealized losses in the less than twelve month category and 37 securities with unrealized losses in the twelve month or more category.
A. Obligations of U. S. Government Agencies and Corporations. The unrealized losses on the Company's investments in obligations of U S Government agencies were caused by illiquidity and dislocation in the market as a result of the ongoing credit crisis. At December 31, 2008, U. S. Government agencies and corporations bonds represented 4.0% of the total available for sale securities held in the investment securities portfolio. The Company purchased those investments at par or at a discount relative to their face amount and the contractual cash flows are guaranteed by an agency of the U S Government. Because the Company has the ability and intent to hold these investments until a recovery of fair value, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at December 31, 2008. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
B. Mortgage-Backed Debt Securities. The unrealized losses on the Company's investments in federal agency mortgage-backed securities and corporate (non-agency) collateralized mortgage obligations were primarily caused by illiquidity and dislocation in the market as a result of the ongoing credit crisis. At December 31, 2008, federal agency mortgage-backed securities represented 60.5% of the total fair value of available for sale securities held in the investment securities portfolio and corporate collateralized mortgage obligations represented 19.1% of the total fair value of available for sale securities held in the investment securities portfolio. The Company purchased those securities at a price relative to the market at the time of the purchase. The contractual cash flows of those federal agency mortgage-backed securities are guaranteed by the US Government.
For corporate (non-agency) collateralized mortgage obligations, the Company uses a model to further analyze each issue to determine whether or not the current unrealized losses are other-than-temporary. This framework applies stress to each issue based on current market data detailing underlying collateral, delinquency, bankruptcy, foreclosure and real estate owned (REO). Each category is assigned a standard default and severity rate to derive a total custom credit coverage rate. This custom credit coverage rate is compared to the current credit support along with various other criteria including: percent decline in fair value; credit rating downgrades; probability of repayment of amounts due; changes in average life and the Company's ability and intent to hold the securities to recovery of its full value to determine whether the issue is other-than-temporarily impaired.
Because the decline in the market value of mortgage-backed debt securities is primarily attributable to illiquidity and not credit quality, and because the Company has the ability and intent to hold those investments until a recovery of fair value, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at December 31, 2008. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
C. State and Municipal Obligations. The unrealized losses on the Company's investments in state and municipal obligations were primarily caused by illiquidity, dislocation in the market as a result of the ongoing credit crisis and the deterioration of the creditworthiness of certain monoline bond insurers. At December 31, 2008, state and municipal obligation bonds represented 10.8% of the total fair value of available for sale securities held in the investment securities portfolio. The Company purchased those obligations at a price relative to the market at the time of the purchase, and the tax advantaged benefit of the interest earned on these investments reduce the Company's federal tax liability. Because the Company has the ability and intent to hold those investments until a recovery of fair value, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at December 31, 2008. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
D. Other Debt Securities. Included in other debt securities at December 31, 2008, were one asset-backed security which represented 0.1% of the total total fair value of available for sale securities, three corporate debt issues representing 1.4% of the total total fair value of available for sale securities, three single issue trust preferred securities ("TRUPS") representing 0.2% and 97.0% of the total fair value of available for sale securities and the total held to maturity securities, respectively, and ten pooled TRUPS representing 0.3% and 3.0% of the total fair value of available for sale securities and the total held to maturity securities, respectively.
The Company's unrealized losses on other debt securities relate primarily to its investment in pooled TRUPS. The decline in value is primarily attributable to temporary illiquidity and the financial crisis affecting these markets and not necessarily the expected cash flows of the individual securities. Due to the illiquidity in the market, it is unlikely that the Company would be able to recover its investment in these securities if the Company sold the securities at this time. Because the Company has analyzed the cash flow characteristics of the securities and has the ability and intent to hold these securities until a recovery of fair value, which may be at maturity; and determined that there was no adverse change in the expected cash flows, it does not consider the investment in these securitized assets to be other-than-temporarily impaired at December 31, 2008.
Investments in other debt securities include $16.2 million book value of single issue and pooled TRUPS of other financial institutions. The issuers in these securities are primarily banks, but some of the pools do include a limited number of insurance companies. For pooled TRUPS, the Company uses a third party OTTI evaluation model to compare the present value of current cash flows to the previous estimate to ensure there are no adverse changes in cash flows during the quarter. The OTTI
model considers the structure and term of the CDO and the financial condition of the underlying issuers. Specifically, the model details interest rates, principal balances of note classes and underlying issuers, the timing and amount of interest and principal payments of the underlying issuers, and the allocation of the payments to the note classes. The current estimate of cash flows is based on the most recent trustee reports and any other relevant market information including announcements of interest payment deferrals or defaults of underlying TRUPS. Management assumptions used in the model include expected future default rates and prepayments. The Company assumes no recoveries on defaults and treats all interest payment deferrals as defaults. In addition, the model "stresses" each CDO, or makes assumptions more severe than expected activity, to determine the degree to which assumptions could deteriorate underlying collateral before the CDO could break yield and no longer fully support repayments. At December 31, 2008, the cash flow model indicated no OTTI impairment charge. Future evaluations of the above mentioned factors could result in the Company recognizing an impairment charge.
E. Equity Securities. Equity securities include restricted stock in the Federal Home Loan Bank of Pittsburgh ("FHLB") of $5.7 million and $5.5 million at December 31, 2008 and 2007, respectively. The FHLB requires the Company to maintain a certain amount of FHLB stock according to a predetermined formula. The stock is carried at cost.
The amortized cost and fair value of securities as of December 31, 2008, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because certain securities may be called or prepaid without penalty.
5. Loans
The components of loans were as follows:
Changes in the allowance for loan losses were as follows:
The recorded investment in impaired loans not requiring an allowance for loan losses was $3.2 million at December 31, 2008 and $6.0 million at December 31, 2007. The recorded investment in impaired loans requiring an allowance for loan losses was $7.5 million and $2.1 million at December 31, 2008 and 2007, respectively. At December 31, 2008 and 2007, the related allowance for loan losses associated with those loans was $2.3 million and $1.3 million, respectively. For the years ended December 31, 2008, 2007 and 2006, the average recorded investment in these impaired loans was $8.8 million, $8.9 million and $9.9 million, respectively; and the interest income recognized on impaired loans was $33,000 for 2008, $407,000 for 2007 and $702,000 for 2006.
Loans on which the accrual of interest has been discontinued amounted to $10.7 million and $3.6 million at December 31, 2008 and 2007, respectively. Loan balances past due 90 days or more and still accruing interest but which management expects will eventually be paid in full, amounted to $140,000 and $3.0 million at December 31, 2008 and 2007, respectively.
6. Loan Servicing
Loans serviced for others are not included in the accompanying consolidated balance sheets. The unpaid principal balance of these loans as of December 31, 2008 and 2007 was $19.7 million and $22.2 million, respectively.
The balance of capitalized servicing rights included in other assets at December 31, 2008 and 2007, was $295,000 and $491,000, respectively. The fair value of these rights was $295,000 and $491,000, respectively. The fair value of servicing rights was determined using a 9.5 percent discount rate for 2008 and 2007.
The following summarizes mortgage servicing rights capitalized and amortized:
7. Premises and Equipment
Components of premises and equipment were as follows:
Certain facilities and equipment are leased under various operating leases. Rental expense for these leases was $3.3 million, $2.9 million and $3.1 million for the years ended December 31, 2008, 2007 and 2006, respectively.
Future minimum rental commitments under non-cancelable leases as of December 31, 2008 were as follows (in thousands):
8. Deposits
The components of deposits were as follows:
At December 31, 2008, the scheduled maturities of time deposits were as follows (in thousands):
9. Borrowings and Other Obligations
At December 31, 2008 and 2007, the Bank had purchased federal funds from the FHLB and correspondent banks totaling $53.4 million and $118.2 million, respectively.
During 2007, the Bank entered into securities sold under agreements to repurchase totaling $65 million. These securities sold under agreements to repurchase have 8 to 10 year terms, carry a fixed rate or a variable interest rate spread to the three month LIBOR rate ranging from 3.25% to 4.85%, and, at the contractual reset dates, may either convert to a fixed rate or variable rate loan or may be called. During 2008, the Bank entered into securities sold under agreements to repurchase totaling $35 million. These securities sold under agreements to repurchase have 8 to 10 year terms, carry a fixed rate or a variable interest rate spread to the three month LIBOR rate ranging from 1.95% to 4.75%, and, at the contractual reset dates, may either convert to a fixed rate or variable rate loan or may be called. Total borrowings under these repurchase agreements were $100.0 million and $85.0 million at December 31, 2008 and 2007, respectively.
These repurchase agreements are treated as financings with the obligations to repurchase securities sold reflected as a liability in the balance sheet. The dollar amount of securities underlying the agreements remains recorded as an asset, although the securities underlying the agreements are delivered to the broker who arranged the transactions. In certain instances, the brokers may have sold, loaned, or disposed of the securities to other parties in the normal course of their operations, and have agreed to deliver to the Company substantially similar securities at the maturity of the agreement. The broker/dealers who participated with the Company in these agreements are primarily broker/dealers reporting to the Federal Reserve Bank of New York. Securities underlying sales of securities under repurchase agreements consisted of investment securities that had an amortized cost of $106.2 million and a market value of $108.3 million at December 31, 2008.
Securities sold under agreements to repurchase at December 31, 2008 and 2007 consisted of the following:
(1)$20 million called during 2008
(2)$15 million callable 12/26/2009
(3)$5 million callable 03/05/2009; $20 million callable 04/30/2009; $25 million callable 03/22/2009
(4)$15 million callable 01/17/2010
(5)$20 million callable 05/22/2009
In addition, the Bank enters into agreements with bank customers as part of cash management services where the Bank sells securities to the customer overnight with the agreement to repurchase them at par. Securities sold under agreements to repurchase generally mature one day from the transaction date.
The securities underlying the agreements are under the Bank's control. The outstanding customer balances and related information of securities sold under agreements to repurchase are summarized as follows:
Long-term debt at December 31, 2008 and 2007 consisted of the following:
The Bank has a maximum borrowing capacity with the FHLB of approximately $189.2 million, of which advances of $53.4 million of overnight advances and $50.0 million of fixed rate term advances and letters of credit of $13.1 million were outstanding at December 31, 2008. The letters of credit are used to collateralize public deposits. Advances and letters of credit from the FHLB are secured by qualifying assets of the Bank.
The Company has entered into a contract with a provider of information systems services for the supply of such services through April 2011. The Company is required to make minimum annual payments as follows, whether or not it uses the services (in thousands):
Total expenditures during 2008, 2007 and 2006 in connection with the contract were $1.9 million, $1.9 million and $1.7 million, respectively.
10. Junior Subordinated Debt
First Leesport Capital Trust I, a Delaware statutory business trust, was formed on March 9, 2000 and is a wholly-owned subsidiary of the Company. The Trust issued $5 million of 107/8% fixed rate capital trust pass-through securities to investors. First Leesport Capital Trust I purchased $5 million of fixed rate junior subordinated deferrable interest debentures from VIST Financial Corp. The debentures are the sole asset of the Trust. The terms of the junior subordinated debentures are the same as the terms of the capital securities. The obligations under the debentures constitute a full and unconditional guarantee by VIST Financial Corp. of the obligations of the Trust under the capital securities. The capital securities are redeemable by VIST Financial Corp. on or after March 9, 2010, at stated premiums, or earlier if the deduction of related interest for federal income taxes is prohibited, classification as Tier 1 Capital is no longer allowed, or certain other contingencies arise. The capital securities must be redeemed upon final maturity of the subordinated debentures on March 9, 2030. In October 2002, the Company entered into an interest rate swap agreement with a notional amount of $5 million that effectively converts the securities to a floating interest rate of six month LIBOR plus 5.25% (8.36% at December 31, 2008). In June, 2003, the Company purchased a six month LIBOR cap with a rate of 5.75% to create protection against rising interest rates for the above mentioned $5 million interest rate swap. Interest rate caps are generally used to limit the exposure from the repricing and maturity of liabilities and to limit the exposure created by other interest rate swaps.
On September 26, 2002, the Company established Leesport Capital Trust II, a Delaware statutory business trust, in which the Company owns all of the common equity. Leesport Capital Trust II issued $10 million of mandatory redeemable capital securities carrying a floating interest rate of three month LIBOR plus 3.45% (6.25% at December 31, 2008). These debentures are the sole assets of the Trust. The terms of the junior subordinated debentures are the same as the terms of the capital securities. The obligations under the debentures constitute a full and unconditional guarantee by VIST Financial Corp. of the obligations of the Trust under the capital securities. These securities must be redeemed in September 2032, but may be redeemed on or after November 7, 2007 or earlier in the event that the interest expense becomes non-deductible for federal income tax purposes or if the treatment of these securities is no longer qualified as Tier 1 capital for the Company. As of December 31, 2008, the Company has not exercised the call option on these debentures. In September 2008, the Company entered into an interest rate swap agreement that effectively converts the $10 million of adjustable-rate capital securities to a fixed interest rate of 7.25%. The effective date of the swap transaction is February 2009 (see note 16 of the consolidated financial statements).
On June 26, 2003, Madison established Madison Statutory Trust I, a Connecticut statutory business trust. Pursuant to the purchase of Madison on October 1, 2004, the Company assumed Madison Statutory Trust I in which the Company owns all of the common equity. Madison Statutory Trust I issued $5 million of mandatory redeemable capital securities carrying a floating interest rate of three month LIBOR plus 3.10% (6.58% at December 31, 2008). These debentures are the sole assets of the Trusts. The terms of the junior subordinated debentures are the same as the terms of the capital securities. The obligations under the debentures constitute a full and unconditional guarantee by VIST Financial Corp. of the obligations of the Trust under the capital securities. These securities must be redeemed in June 2033, but may be redeemed on or after September 26, 2008 or earlier in the event that the interest expense becomes non-deductible for federal income tax purposes or if the treatment of these securities is no longer qualified as Tier 1 capital for the Company. In September 2008, the Company entered into an interest rate swap agreement that effectively converts the $5 million of adjustable-rate capital securities to a fixed interest rate of 6.90%. The effective date of the swap transaction is March 2009 (see note 16 of the consolidated financial statements).
In January 2003, the Financial Accounting Standards Board issued FASB Interpretation No. 46, "Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51" which was revised in December 2003. This Interpretation provides guidance for the consolidation of variable interest entities (VIEs). First Leesport Capital Trust I, Leesport Capital Trust II and Madison Statutory Trust I (the "Trusts") each qualify as a variable interest entity under FIN 46. The Trusts issued mandatory redeemable preferred securities (Trust Preferred Securities) to third-party investors and loaned the proceeds to the Company. The Trusts hold, as their sole assets, subordinated debentures issued by the Company.
FIN 46 required the Company to deconsolidate First Leesport Capital Trust I and Leesport Capital Trust II from the consolidated financial statements as of March 31, 2004 and to deconsolidate Madison Statutory Trust I as of December 31, 2004. There has been no restatement of prior periods. The impact of this deconsolidation was to increase junior subordinated debentures by $20,150,000 and reduce the mandatory redeemable capital debentures line item by $20,150,000 which had represented the trust preferred securities of the trust. For regulatory reporting purposes, the Federal Reserve Board has indicated that the preferred securities will continue to qualify as Tier 1 Capital subject to previously specified limitations, until further notice. If regulators make a determination that Trust Preferred Securities can no longer be considered in regulatory capital, the securities become callable and the Company may redeem them. The adoption of FIN 46 did not have an impact on the Company's results of operations or liquidity.
11. Employee Benefits
The Company has an Employee Stock Ownership Plan (ESOP) to provide its employees with future retirement plan assistance. The ESOP invests primarily in the Company's common stock. Contributions to the Plan are at the discretion of the Board of Directors. For the years ended December 31, 2008, 2007 and 2006, no amounts were accrued to provide for contribution of shares to the Plan. During 2008, 2007 and 2006 respectively, no shares, no shares and 11,873 shares were purchased on behalf of the ESOP. The ESOP plan was terminated as of June 30, 2006. The Company received a favorable determination from the Internal Revenue Service that the ESOP is qualified under Sections 401(a), 409(1) and 4975(e)(7) of the Internal Revenue Code of 1986.
The Company has a 401(k) Salary Deferral Plan. This plan covers all eligible employees who elect to contribute to the Plan. An employee who has attained 18 years of age and has been employed for at least 30 calendar days is eligible to participate in the Plan effective with the next quarterly enrollment period. Employees become eligible for the Company contribution to the Salary Deferral Plan at each future enrollment period upon completion of one year of service. The Company contributes 150% match of the first 2% of a participants pay deferred into the Plan plus 100% of next 1%, 50% of next 4% for a total available match of 6%. Contributions from the Company vest to the employee over a five year schedule. The annual expense included in salaries and employee benefits representing the expense of the Company's contribution was $713,000, $715,000, and $708,000 for the years ended December 31, 2008, 2007, and 2006, respectively.
The Company has entered into deferred compensation agreements with certain directors and a salary continuation plan for certain key employees. At December 31, 2008 and 2007, the present value of the future liability for these agreements was $1.6 million for both years. For the years ended December 31, 2008, 2007 and 2006, $159,000, $168,000 and $214,000, respectively, was charged to expense in connection with these agreements. To fund the benefits under these agreements, the Company is the owner and beneficiary of life insurance policies on the lives of certain directors and employees. These bank-owned life insurance policies had an aggregate cash surrender value of $18.6 million and $17.9 million at December 31, 2008 and 2007, respectively.
The Company has a non-compensatory Employee Stock Purchase Plan (ESPP). Under the ESPP, employees of the Company who elect to participate are eligible to purchase common stock at prices up to a 5 percent discount from the market value of the stock. The ESPP does not allow the discount in the event that the purchase price would fall below the Company's most recently reported book value per share. The ESPP allows an employee to make contributions through payroll deductions to purchase common shares up to 15 percent of annual compensation. The total number of shares of common stock that may be issued pursuant to the ESPP is 250,886. As of December 31, 2008, a total of 52,990 shares have been issued under the ESPP.
12. Stock Option Plans and Shareholders' Equity
The Company has an Employee Stock Incentive Plan (ESIP) that covers all officers and key employees of the Company and its subsidiaries and is administered by a committee of the Board of Directors. The total number of shares of common stock that may be issued pursuant to the ESIP is 486,781. The option price for options issued under the Plan must be at least equal to 100% of the fair market value of the common stock on the date of grant and shall not be less than the stock's par value. Options granted under the Plan have various vesting periods ranging from immediate up to 5 years, 20% exercisable not less than one year after the date of grant, but no later than ten years after the date of grant in accordance with the vesting. Vested options expire on the earlier of ten years after the date of grant, three months from the participant's termination of employment or one year from the date of the participant's death or disability. As of December 31, 2008, a total of 148,072 shares have been issued under the ESIP. This ESIP plan expired on November 10, 2008.
The Company has an Independent Directors Stock Option Plan (IDSOP). The total number of shares of common stock that may be issued pursuant to the IDSOP is 121,695. The Plan covers all directors of the Company who are not employees and former directors who continue to be employed by the Company. The option price for options issued under the Plan will be equal to the fair market value of the Company's common stock on the date of grant. Options are exercisable from the date of grant and expire on the earlier of ten years after the date of grant, three months from the date the participant ceases to be a director of the Company or the cessation of the participant's employment, or twelve months from the date of the participant's death or disability. As of December 31, 2008, a total of 21,166 shares have been issued under the IDSOP. This IDSOP plan expired on November 10, 2008.
On April 17, 2007, shareholders approved the VIST Financial Corp. 2007 Equity Incentive Plan (EIP). The total number of shares which may be granted under the Equity Incentive Plan is equal to 12.5% of the outstanding shares of the Company's common stock on the date of approval of the Plan and is subject to automatic annual increases by an amount equal to 12.5% of any increase in the number of the Company's outstanding shares of common stock during the preceding year or such lesser number as determined by the Company's board of directors. The total number of shares of common stock that may be issued pursuant to the EIP is 676,572. The EIP covers all employees and non-employee directors of the Company and its subsidiaries. Incentive stock options, nonqualified stock options and restricted stock grants are authorized for issuance under the EIP. The exercise price for stock options granted under the EIP must equal the fair market value of the Company's common stock on the date of grant. Vesting of awards under the EIP is determined by the Human Resources Committee of the board of directors, but must be at least one year. The committee may also subject an award to one or more performance criteria. Stock options and restricted stock awards generally expire upon termination of employment. In certain instances after an optionee terminates employment or service, the Committee may extend the exercise period for a vested nonqualified stock option up to the remaining term of the option. A vested incentive stock option must be exercised within three months following termination of employment if such termination is for reasons other than cause. Performance goals generally cannot be accelerated or waived except in the event of a change in control or upon death, disability or retirement. As of December 31, 2008, no shares have been issued under the EIP. This EIP will expire on April 17, 2017.
A combined summary of stock option transactions under the Plans is presented in the following table:
Options available for grant at December 31, 2008 were 406,921.
Other information regarding options outstanding and exercisable as of December 31, 2008 is as follows:
Proceeds from stock option exercises from director and employee stock purchase plans totaled $0 in 2008, $222,000 in 2007 and $1.8 million in 2006.
As of December 31, 2008, 2007 and 2006, the aggregate intrinsic value of options outstanding was $0, $350,000 and $1.1 million, respectively. As of December 31, 2008, 2007 and 2006, the weighted average remaining term of options outstanding was 7.6 years, 7.1 years and 8.2 years, respectively. As of December 31, 2008, 2007 and 2006, the aggregate intrinsic value of options exercisable was $0, $350,000 and $1.0 million, respectively. As of December 31, 2008, 2007 and 2006, the weighted average remaining term of options exercisable was 6.0 years, 6.4 years and 7.0 years, respectively.
The aggregate intrinsic value of a stock option represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holder had all option holders exercised their options on December 31, 2008. The aggregate intrinsic value of a stock option will change based on fluctuations in the market value of the Company's stock.
Stock-Based Compensation Expense. As stated in Note 1-Significant Accounting Policies, the Company adopted the provisions of SFAS No. 123R on January 1, 2006. SFAS No. 123R requires that stock-based compensation to employees be recognized as compensation cost in the consolidated statements of income based on their fair values on the measurement date, which, for the Company, is the date of grant. Included in the results for the years ended December 31, 2008, 2007 and 2006 were compensation costs relating to the adoption of Statement No. 123R of approximately $319,000, $255,000 and $245,000, respectively, or $211,000 net of tax, $168,000 net of tax and $162,000 net of tax, respectively. Cash flows from financing activities for 2008 and 2007 included $0 and $12,000, respectively, in cash inflows from excess tax benefits related to stock compensation. As of December 31, 2008 and 2007, there was approximately $436,000 and $414,000, respectively, of total unrecognized compensation cost related to non-vested stock options under the plans.
Valuation of Stock-Based Compensation. The fair value of options granted during 2008, 2007 and 2006 was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions:
The expected volatility is based on historic volatility. The risk-free interest rates for periods within the contractual life of the awards are based on the U.S. Treasury yield curve in effect at the time of the grant. The expected life is based on historical exercise experience. The dividend yield assumption is based on the Company's history and expectation of dividend payouts.
Stock Repurchase Plan. On July 17, 2007, the Company announced that it has increased the number of shares remaining for repurchase under its stock repurchase plan, originally effective January 1, 2003, and extended May 20, 2004, to 150,000 shares. During 2008, the Company repurchased no shares of common stock. At December 31, 2008, the maximum number of shares that may yet be purchased under the plan is 115,000.
As a result of the issuance of the Series A Preferred Stock, prior to the earlier of the third anniversary date of the issuance of the Series A Preferred Stock (December 19, 2011) or the date on which the Series A Preferred Stock have been redeemed in whole or the Treasury has transferred all of the Series A Preferred Stock to third parties which are not affiliates of the Treasury, the Company is restriced against redeeming, purchasing or acquiring any shares of Common Stock or other capital stock or other equity securities of any kind of the Company without the consent of the Treasury.
13. Income Taxes
The components of federal and state income tax expense were as follows:
Reconciliation of the statutory federal income tax expense computed at 34% to the income tax expense included in the consolidated statements of income is as follows:
Deferred income taxes reflect temporary differences in the recognition of revenue and expenses for tax reporting and financial statement purposes, principally because certain items, such as, the allowance for loan losses and loan fees are recognized in different periods for financial reporting and tax return purposes. A valuation allowance has not been established for deferred tax assets. Realization of the deferred tax assets is dependent on generating sufficient taxable income. Although realization is not assured, management believes it is more likely than not that all of the deferred tax asset will be realized. Deferred tax assets are recorded in other assets.
Net deferred tax assets consisted of the following components:
As of December 31, 2008, the Company has utilized all of the federal net operating loss carryovers from the acquisition of Madison. The utilization of these losses is subject to annual limitation under
Section 382 of the Internal Revenue Code. The Company has approximately $5.1 million of state net operating loss carryovers which will expire in 2024.
In July 2006, the Financial Accounting Standards Board (FASB) issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN 48). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise's financial statements in accordance with FASB Statement 109, Accounting for Income Taxes. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company adopted FIN 48 as of January 1, 2007. The Company has evaluated its tax positions as of December 31, 2008. A tax position is recognized as a benefit only if it is "more likely than not" that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that has a likelihood of being realized on examination of more than 50 percent. For tax positions not meeting the "more likely than not" test, no tax benefit is recorded. Under the "more likely than not" threshold guidelines, the Company believes no significant uncertain tax positions exist, either individually or in the aggregate, that would give rise to the non-recognition of an existing tax benefit. As of December 31, 2008, the Company had no material unrecognized tax benefits or accrued interest and penalties. The Company's policy is to account for interest as a component of interest expense and penalties as a component of other expense. The Company and its subsidiaries are subject to U.S. federal income tax as well as income tax of the Commonwealth of Pennsylvania. The Company is no longer subject to examination by U.S. Federal taxing authorities for the years before January 1, 2005 and for all state income taxes through December 31, 2004.
14. Transactions with Executive Officers and Directors
The Bank has had banking transactions in the ordinary course of business with its executive officers and directors and their related interests on the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with others. At December 31, 2008 and 2007, these persons were indebted to the Bank for loans totaling $10.6 million and $7.9 million, respectively. During 2008, $0.7 million of new loans were made and repayments totaled $2.0 million.
15. Regulatory Matters and Capital Adequacy
The Company and the Bank 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 their financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of its assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk-weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets, and of Tier 1 capital to average assets. Management believes, as of December 31, 2008, that the Company and the Bank meet all minimum capital adequacy requirements to which they are subject.
As of December 31, 2008, the most recent notification from the Bank's primary regulator categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed its category.
The Company's and the Bank's actual capital amounts and ratios are presented below:
On December 19, 2008, the Company issued to the United States Department of the Treasury ("Treasury") 25,000 shares of Series A, Fixed Rate, Cumulative Perpetual Preferred Stock ("Series A Preferred Stock"), with a par value of $0.01 per share and a liquidation preference of $1,000 per share, and a warrant ("Warrant") to purchase 364,078 shares of the Company's common stock, par value $5.00 per share, for an aggregate purchase price of $25,000,000 in cash.
The Series A Preferred Stock qualifies as Tier 1 capital and will pay cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter. Under ARRA, the Series A Preferred Stock may be redeemed at any time following consultation by the Company's primary bank regulator and Treasury, not withstanding the terms of the original transaction documents. Under FAQ's issued recently by Treasury, participants in the Capital Purchase Program desiring to repay part of an investment by Treasury must repay a minimum of 25% of the issue price of the preferred stock.
Prior to the earlier of the third anniversary date of the issuance of the Series A Preferred Stock (December 19, 2011) or the date on which the Series A Preferred Stock have been redeemed in whole or the Treasury has transferred all of the Series A Preferred Stock to third parties which are not affiliates of the Treasury, the Company can not increase its common stock dividend from the last quarterly cash dividend per share ($0.10) declared on the common stock prior to October 14, 2008 without the consent of the Treasury,
The Warrant has a 10-year term and is immediately exercisable upon its issuance, with an exercise price, subject to anti-dilution adjustments, equal to $10.30 per share of common stock. If the Company receives aggregate gross cash proceeds of not less than $25,000,000 from qualified equity offerings on or prior to December 31, 2009, the number of shares of common stock issuable pursuant to exercise of
the Warrant will be reduced by one half of the original number of shares underlying the Warrant. In addition, in the event that the Company redeems the Series A Preferred Stock, the Company can repurchase the warrant at "fair value" as defined in the investment agreement with Treasury.
Federal and state banking regulations place certain restrictions on dividends paid and loans or advances made by the Bank to the Company. At December 31, 2008, the Bank had approximately $9.6 million available for payment of dividends to the Company. Loans or advances are limited to 10 percent of the Bank's capital stock and surplus on a secured basis. At December 31, 2008, the Bank had a $1.0 million loan outstanding to VIST Insurance. At December 31, 2007, the Bank had no secured loans outstanding to the Company or any of its subsidiaries.
As of January 20, 2009, the Company had declared a $0.10 per share cash dividend for common shareholders of record on February 2, 2009, payable February 13, 2009. As of December 19, 2007, the Company had declared a $.20 per share cash dividend for common shareholders of record on January 2, 2008, payable January 15, 2008.
For 2008, dividends on the Series A Preferred Stock were immaterial and were not included in income available for common shareholders or basic and diluted earnings per common share.
In addition, dividends paid by the Bank to the Company would be prohibited if the effect thereof would cause the Bank's capital to be reduced below applicable minimum capital requirements.
16. Financial Instruments with Off-Balance Sheet Risk
The Bank 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 extend credit and letters of credit. Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheets.
The Bank's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet investments.
A summary of the Bank's financial instrument commitments is as follows:
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. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Bank evaluates each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management's credit evaluation. Collateral held varies but may include personal or commercial real estate, accounts receivable, inventory and equipment.
Standby letters of credit written are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. The majority of these standby letters of credit expire within the next twelve months. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending other loan commitments. The Bank requires collateral supporting these letters of credit as deemed necessary. Management believes that the proceeds obtained through a liquidation of such collateral would be sufficient to cover the maximum potential amount of future payments required under the corresponding guarantees. The current amount of the liability as of December 31, 2008 and 2007 for guarantees under standby letters of credit issued is not material.
During October 2002, the Company entered into an interest rate swap agreement with a notional amount of $5 million. This derivative financial instrument effectively converted fixed interest rate obligations of outstanding mandatory redeemable capital debentures to variable interest rate obligations, decreasing the asset sensitivity of its balance sheet by more closely matching the Company's variable rate assets with variable rate liabilities. The Company considers the credit risk inherent in the contracts to be negligible. This swap has a notional amount equal to the outstanding principal amount of the related trust preferred securities, together with the same payment dates, maturity date and call provisions as the related trust preferred securities.
Under the swap, the Company pays interest at a variable rate equal to six month LIBOR plus 5.25%, adjusted semiannually (8.36% at December 31, 2008), and the Company receives a fixed rate equal to the interest that the Company is obligated to pay on the related trust preferred securities (10.875%). The interest rate swap is designated a fair value hedge as defined in SFAS No. 133. Both the interest rate swap and the related debt are recorded on the balance sheet at fair value through adjustments to other expense.
In September 2008, the Company entered into two interest rate swaps to manage its exposure to interest rate risk. The interest rate swap transactions involved the exchange of the Company's floating rate interest rate payment on its $15 million in floating rate junior subordinated debt for a fixed rate interest payment without the exchange of the underlying principal amount. Entering into interest rate derivatives potentially exposes the Company to the risk of counterparties' failure to fulfill their legal obligations including, but not limited to, potential amounts due or payable under each derivative contract. Notional principal amounts are often used to express the volume of these transactions, but the amounts potentially subject to credit risk are much smaller.
This hedge relationship fails to qualify for the assumption of no ineffectiveness (short cut method) as defined by SFAS No. 133 paragraph 68. Therefore, consistent with the requirement of SFAS No. 133 paragraphs 28-35 and with the risk management objective of hedging the variability of expected future cash flows, the Company accounts for this hedge relationship as a cash flow hedge.
The cumulative change in fair value of the hedging derivative, to the extent that it is expected to be offset by the cumulative change in anticipated interest cash flows from the hedged exposure, will be deferred and reported as a component of other comprehensive income or loss (OCI). Any hedge ineffectiveness will be charged to current earnings. Consistent with the risk management objective and the hedge accounting designation, management measured the degree of hedge effectiveness by comparing the cumulative change in anticipated interest cash flows from the hedged exposure over the hedging period to the cumulative change in anticipated cash flows from the hedging derivative. Management will utilize the "Hypothetical Derivative Method" to compute the cumulative change in anticipated interest cash flows from the hedged exposure. To the extent that the cumulative change in anticipated cash flows from the hedging derivative offsets from 80% to 125% of the cumulative change in anticipated interest cash flows from the hedged exposure, the hedge will be deemed effective. The Company will use the Hypothetical Derivative Method to measure ineffectiveness. Under this method, the calculation of ineffectiveness, as required under paragraph 30(b)(2) of SFAS No. 133, will be done by using the change in fair value of the hypothetical derivative. That is, the swap will be recorded at
fair value on the balance sheet and other comprehensive income or loss will be adjusted to an amount that reflects the lesser of either the cumulative change in fair value of the swap or the cumulative change in the fair value of the hypothetical derivative instrument. Management will determine the ineffectiveness of the hedging relationship by comparing the cumulative change in anticipated interest cash flows from the hedged exposure over the hedging period to the cumulative change in anticipated cash flows from the hedging derivative. Any difference between these two measures will be deemed hedge ineffectiveness and recorded in current earnings. As of December 31, 2008 the hedge instrument was deemed to be effective, therefore, no amounts were charged to current earnings. The Company does not expect to reclassify any hedge-related amounts from accumulated other comprehensive income (loss) to earnings over the next twelve months.
The cash flow hedge is comprised of two pay fixed interest rate swap contracts to hedge $15 million in floating rate junior subordinated debt. The first pay fixed interest rate swap contract carries a 3.80% fixed rate and hedges $10 million in floating rate junior subordinated debt and will become effective on February 7, 2009. The second pay fixed interest rate swap contract carries a 3.80% fixed rate and hedges $5 million in floating rate junior subordinated debt and will become effective on March 27, 2009.
The estimated fair values of the interest rate swap agreements represent the amount the Company would have expected to receive to terminate such contract. At December 31, 2008 and 2007, the estimated fair value of the interest rate swap agreements was $(1,601,000) and $82,000, respectively, and was offset by an increase in the fair value of the related trust preferred security. The swap agreements expose the Company to market and credit risk if the counterparty fails to perform. Credit risk is equal to the extent of a fair value gain on the swaps. The Company manages this risk by entering into these transactions with high quality counterparties.
During the years ended December 31, 2008, 2007 and 2006, the Company recognized amounts received or receivable under the agreement of $100,000, $4,000 and $27,000, which were recorded as a reduction of interest expense on the trust preferred securities.
Interest rate caps are generally used to limit the exposure from the repricing and maturity of liabilities and to limit the exposure created by other interest rate swaps. In June 2003, the Company purchased a six month LIBOR cap to create protection against rising interest rates for the above mentioned $5 million interest rate swap. The initial premium related to this interest rate cap was $102,000. At December 31, 2008 and 2007, the carrying and market values were approximately $0 and $3,000, respectively.
17. Fair Value of Financial Instruments
Management uses its best judgment in estimating the fair value of the Company's financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amount the Company could have realized in a sale transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective year ends and have not been re-evaluated or updated for purposes of these consolidated financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each year end.
In September 2006, the Financial Accounting Standards Board ("FASB") issued Statement No. 157, Fair Value Measurements ("SFAS 157"), which defines fair value, establishes a framework for measuring fair value under GAAP, and expands disclosures about fair value measurements. SFAS 157 applies to other accounting pronouncements that require or permit fair value measurements. The Company adopted SFAS 157 effective for its fiscal year beginning January 1, 2007.
The following methods and assumptions were used to estimate the fair values of the Company's financial instruments at December 31, 2008 and 2007:
SFAS No. 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
Fair Value Measurements (SFAS No. 159)
The Company elected to early adopt SFAS No. 159 as of January 1, 2007. Early adoption was elected to accommodate balance sheet strategies to facilitate the Company's regulatory capital, liquidity management and interest rate risk management. The Company adopted the fair value option for its junior subordinated debt that had been carried at approximately $20.2 million at December 31, 2006. Effective January 1, 2007, junior subordinated debt was accounted for at their then fair value. This resulted in a one-time cumulative after-tax charge of $409,000 ($619,000 pre-tax) to opening retained earnings as of January 1, 2007. As a result of the change in fair value of the junior subordinated debt, included in other non-interest income for the first nine months of 2007 is a pre-tax loss of approximately $67,000.
The following table presents information about the eligible financial liabilities for which the Company elected the fair value measurement option and for which a transition adjustment was recorded to retained earnings as of January 1, 2007:
SFAS No. 157 requires the use of valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement costs). Valuation techniques should be consistently applied. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be
observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity's own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, SFAS No. 157 establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs.
The three levels defined by SFAS No. 157 hierarchy are as follows:
Level1: Quoted prices are available in active markets for identical assets or liabilities as of the reported date.
Level2: Pricing inputs are other than quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these assets and liabilities include items for which quoted prices are available but traded less frequently, and items that are fair valued using other financial instruments, the parameters of which can be directly observed.
Level3: Assets and liabilities that have little to no pricing observability as of the reported date. These items do not have two-way markets and are measured using management's best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation. The following table presents the assets and liabilities measured on a recurring basis reported on the consolidated statements of financial condition at their fair value by level within the fair value hierarchy.
The following table presents the assets measured on a nonrecurring basis reported on the consolidated statements of financial condition at their fair value by level within the fair value hierarchy.
Impaired loans totaled $5.3 million at December 31, 2008, compared to $837,000 at December 31, 2007. The $4.4 million increase in non-performing loans from December 31, 2007 to December 31, 2008, was due primarily to three commercial real estate loans totaling approximately $4.6 million.
As a result of the change in fair value of the junior subordinated debt, included in other assets for the year ended December 31, 2008 is a gain of approximately $521,000.
Certain assets and liabilities are measured at fair value on a nonrecurring basis, that is, are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). Assets and liabilities measured at fair value on a non-recurring basis were not significant at December 31, 2008.
Net securities losses for the year ended December 31, 2008, were primarily due to the pre-tax losses of approximately $7.5 million on the sale of perpetual preferred stock associated with the federal takeover of Fannie Mae and Freddie Mac, government sponsored enterprises ("GSE's"), placed into conservatorship on September 7, 2008, by the Federal Housing Finance Agency and the U.S. Treasury and other corporate equity securities.
The following information should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only provided for a limited portion of the Company's assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Company's disclosures and those of other companies may not be meaningful.
Cash and cash equivalents:
The carrying amounts reported in the balance sheet for cash and short-term instruments approximate those assets' fair values.
Investment Securities Available for Sale:
Securities classified as available for sale are reported at fair value utilizing Level 1 and Level 2 inputs. For these securities, the Company obtains fair value measurements from an independent pricing
service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U. S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayments speeds, credit information and the bond's terms and conditions, among other things.
Loans Held for Sale:
The fair value of loans held for sale is determined, when possible, using quoted secondary-market prices. If no such quoted price exists, the fair value of a loan is determined based on expected proceeds based on sales contracts and commitments.
Impaired Loans:
Impaired loans are those that are accounted for under FASB Statement No. 114, Accounting by Creditors for Impairment of a Loan ("SFAS114"), in which the Company has measured impairment generally based on the fair value of the loan's collateral. Impaired loans are evaluated and valued at the time the loan is identified as impaired. Fair value is measured based on the value of the collateral securing these loans and is classified at a Level 3 in the fair value hierarchy. Collateral may be real estate and/or business assets including equipment, inventory and/or accounts receivable and is determined based on appraisals by qualified licensed appraisers hired by the Company. Appraised and reported values may be discounted based on management's historical knowledge, changes in market conditions from the time of valuation, and/or management's expertise and knowledge of the client and client's business. Impaired loans are reviewed and evaluated on a monthly basis for additional impairment and adjusted accordingly, based on the same factors identified above.
Mortgage servicing rights:
The fair value of mortgage servicing rights is based on observable market prices when available or the present value of expected future cash flows when not available.
Interest Rate Swap Agreements:
Interest rate swap agreements are measured by alternative pricing sources with reasonable levels of price transparency in markets that are not active. Based on the complex nature of interest rate swap agreements, the markets these instruments trade in are not as efficient and are less liquid than that of the more mature Level 1 markets. These markets do however have comparable, observable inputs in which an alternative pricing source values these assets in order to arrive at a fair market value. These characteristics classify interest rate swap agreements as Level 2 as presented in SFAS No. 157.
Deposit liabilities:
The fair values disclosed for demand deposits (e.g., interest and non-interest checking, savings and certain types of money market accounts) are considered to be equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for fixed-rate time deposits are estimated using a discounted cash flow calculation that applies interest rates currently being offered on time deposits to a schedule of aggregated expected monthly maturities on time deposits.
Securities sold under agreements to repurchase and federal funds purchased:
The carrying amounts of these borrowings approximate their fair values.
Long-term debt:
The fair value of long-term debt is calculated based on the discounted value of contractual cash flows, using rates currently available for borrowings with similar maturities.
Junior Subordinated Debt:
The Company records selected liabilities at fair value, with unrealized gains and losses reflected in the consolidated statement of income. The degree of judgment utilized in measuring the fair value of these liabilities generally correlates to the level of observable pricing. Pricing observability is impacted by a number of factors, including the type of liability, whether the liability has an established market and the characteristics specific to the transaction. Liabilities with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of pricing observability and a lesser degree of judgment utilized in measuring fair value. Conversely, liabilities rarely traded or not quoted will generally have less, or no, pricing observability and a higher degree of judgment utilized in measuring fair value. Junior Subordinated Debt is reported at fair value utilizing Level 2 inputs. For these debt instruments, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include market spreads, cash flows, trade execution data and credit information, among other things.
Accrued interest receivable and payable:
The carrying amount of accrued interest receivable and accrued interest payable approximates its fair value.
Off-balance sheet instruments:
Fair values for the off-balance sheet instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing.
The estimated fair values of the Company's financial instruments as of December 31, 2008 and 2007 were as follows:
18. Segment and Related Information
The Company's insurance operations, investment operations and mortgage banking operations are managed separately from the traditional banking and related financial services that the Company also offers. The mortgage banking operation offers residential lending products and generates revenue primarily through gains recognized on loan sales. The VIST Insurance operation provides coverage for commercial, individual, surety bond, and group and personal benefit plans. The VIST Capital operation provides services for individual financial planning, retirement and estate planning, investments, corporate and small business pension and retirement planning.
Segment information for 2008, 2007 and 2006 is as follows (in thousands):
Income (loss) before income taxes, as presented above, does not reflect referral and management fees of approximately $588,000, $1.6 million and $213,000 that the mortgage banking operation, insurance operation and the brokerage and investment operation, respectively, paid to the Company during 2008. For 2007, referral and management fees of approximately $694,000, $1.4 million and $149,000 were paid by the mortgage banking operation, insurance operation and the brokerage and investment operation, respectively. For 2006, referral and management fees of approximately $891,000, $1.2 million and $140,000 were paid by the mortgage banking operation, insurance operation and the brokerage and investment operation, respectively.
19. Legal Proceedings
The Company is party to legal actions that are routine and incidental to its business. In management's opinion, the outcome of these matters, individually or in the aggregate, will not have a material effect on the financial statements of the Company.
20. VIST Financial Corp. (Parent Company Only) Financial Information
BALANCE SHEET
STATEMENTS OF INCOME
STATEMENTS OF CASH FLOWS
21. Quarterly Data (Unaudited)
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Item 9A. Controls and Procedures
The Company's management, with the participation of the Chief Executive Officer and the Chief Financial Officer, has evaluated the effectiveness of the design and operation of the Company's disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), as of December 31, 2008. Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that the Company's disclosure controls and procedures are effective as of such date.
The Company's management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) promulgated under the Exchange Act. The Company's management, with the participation of the Company's principal executive officer and principal financial officer, has evaluated the effectiveness of our internal control over financial reporting based on the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on an evaluation under the framework in Internal Control-Integrated Framework, the Company's management concluded that our internal control over financial reporting was effective as of December 31, 2008.
There have been no changes in the Company's internal control over financial reporting during the fourth quarter of 2008 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
The effectiveness of our internal control over financial reporting as of December 31, 2008, has been audited by Beard Miller Company LLP, an independent registered public accounting firm, as stated in its report which is included herein.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management is responsible for establishing and maintaining an adequate system of internal control over financial reporting. An adequate system of internal control over financial reporting encompasses the processes and procedures that have been established by management to:
•Maintain records that, in reasonable detail, accurately reflect the company's transactions
•Provide reasonable assurance that the transactions are recorded as necessary to permit preparation of the financial statement and footnote disclosures in accordance with accounting principles generally accepted in the United States, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and the directors of the Corporation
•Provide reasonable assurance regarding the prevention of unauthorized acquisition, use, or disposition of the Company's assets that could have a material effect on the financial statements.
Management conducted an evaluation of the effectiveness of the Company's internal control over financial reporting based on the criteria in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this evaluation under the criteria in Internal Control- Integrated Framework, management concluded that internal control over financial reporting was effective as of December 31, 2008. Furthermore, during the conduct of its assessment, management identified no material weakness in its financial reporting control system.
The Board of Directors of VIST Financial Corp., through its Audit Committee, provides oversight to managements' conduct of the financial reporting process. The Audit Committee, which is composed entirely of independent directors, is also responsible to recommend the appointment of independent public accountants. The Audit Committee also meets with management, the internal audit staff, and the independent public accountants throughout the year to provide assurance as to the adequacy of the financial reporting process and to monitor the overall scope of the work performed by the internal audit staff and the independent public accountants.
The consolidated financial statements of VIST Financial Corp. have been audited by Beard Miller Company LLP, an independent registered public accounting firm, who was engaged to express an opinion as to the fairness of presentation of such financial statements. In connection therewith, Beard Miller Company LLP is required to form an opinion on the effectiveness of VIST Financial Corp.'s internal control over financial reporting. Its opinion on the fairness of the financial statement presentation, and its opinion on internal control over financial reporting are included herein.
/s/ ROBERT D. DAVIS
Robert D. Davis
President and
Chief Executive Officer
/s/ EDWARD C. BARRETT
Edward C. Barrett
Executive Vice President and
Chief Executive Officer
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
VIST Financial Corp.
Wyomissing, Pennsylvania
We have audited VIST Financial Corp.'s (the "Company") internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management's Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, VIST Financial Corp. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets and the consolidated related statements of income, shareholders' equity, and cash flows of VIST Financial Corp. and subsidiaries, and our report dated March 4, 2009 expressed an unqualified opinion.
/s/ BEARD MILLER COMPANY LLP
Beard Miller Company, LLP
Reading, Pennsylvania
March 4, 2009
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
The information under the captions "MATTER NO. 1-Election of Directors,""Director Information;" "Corporate Governance;" "Board of Directors and Committee Meetings;" and "Other Director and Officer Information" included in the Registrant's Proxy Statement for the Annual meeting of Shareholders to be held on April 21, 2009 is incorporated herein by reference.
Item 11.
Item 11. Executive Compensation
The information under the captions "Director Compensation;" "Compensation Discussion and Analysis," "Executive Compensation;" and "Other Director and Officer information" included in the Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held on April 21, 2009 is incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters
The information under the captions "Beneficial Ownership by Directors and Executive Officers" and "Additional Information" included in the Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held on April 21, 2009 is incorporated herein by reference.
The following table provides certain information regarding securities issued or issuable under the Company's equity compensation plans as of December 31, 2008.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information relating to certain relationships and related transactions is incorporated herein by reference to the information disclosed under the captions "Corporate Governance" and "Other Director and Officer Information" included in the Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held on April 21, 2009 is incorporated herein by reference.
Item 14.
Item 14. Principal Accounting Fees and Services
The information relating to principal accounting fees and services is incorporated herein by reference to the information under the caption "Audit and Other Fees" included in the Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held on April 21, 2009.
PART IV
Item 15.
Item 15. Exhibits, Financial Statement Schedules
(a)1. Financial Statements.
Consolidated financial statements are included under Item 8 of Part II of this Form 10-K.
(a)2. Financial Statement Schedules.
Financial statement schedules are omitted because the required information is either not applicable, not required or is shown in the respective financial statements or in the notes thereto.
(b)Exhibits
EXHIBIT INDEX
*Denotes a management contract or compensatory plan or arrangement.
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
March 6,
VIST FINANCIAL CORP.
By:
/s/ ROBERT D. DAVIS
Robert D. Davis
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
/s/ ROBERT D. DAVIS
Robert D. Davis
President and Chief Executive
Officer, Director (Principal
Executive Officer)
March 6, 2009
/s/ EDWARD C. BARRETT
Edward C. Barrett
Chief Financial Officer (Principal
Financial and Accounting Officer)
March 6, 2009
/s/ JAMES H. BURTON
James H. Burton
Director
March 6, 2009
/s/ PATRICK J. CALLAHAN
Patrick J. Callahan
Director
March 6, 2009
/s/ ROBERT D. CARL, III
Robert D. Carl, III
Director
March 6, 2009
/s/ CHARLES J. HOPKINS
Charles J. Hopkins
Director
March 6, 2009
/s/ PHILIP E. HUGHES, JR.
Philip E. Hughes, Jr.
Director
March 6, 2009
/s/ ANDREW J. KUZNESKI III
Andrew J. Kuzneski III
Director
March 6, 2009
/s/ M. DOMER LEIBENSPERGER
M. Domer Leibensperger
Director
March 6, 2009
/s/ FRANK C. MILEWSKI
Frank C. Milewski
Vice Chairman of the Board; Director
March 6, 2009
/s/ MICHAEL J. O'DONOGHUE
Michael J. O'Donoghue
Director
March 6, 2009
/s/ HARRY J. O'NEILL III
Harry J. O'Neill III
Director
March 6, 2009
/s/ BRIAN R. RICH
Brian R. Rich
Director
March 6, 2009
/s/ KAREN A. RIGHTMIRE
Karen A. Rightmire
Director
March 6, 2009
/s/ ALFRED J. WEBER
Alfred J. Weber
Chairman of the Board; Director
March 6, 2009