UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2007

OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                to               

Commission file number 0-12126

FRANKLIN FINANCIAL SERVICES CORPORATION

(Exact name of registrant as specified in its charter)

 

20 SOUTH MAIN STREET (P.O. BOX 6010), CHAMBERSBURG, PA 17201-0819

(Address of principal executive offices)

717/264-6116

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x    No o

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.

Large accelerated filer o

Accelerated filer x

Non-accelerated filer o

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act)  Yeso  No x

There were 3,850,930 outstanding shares of the Registrant’s common stock as of June 30, 2007.

INDEX

Part I - FINANCIAL INFORMATION
Item 1 - Financial Statements
	Consolidated Balance Sheets as of June 30, 2007 and December 31, 2006
	Consolidated Statements of Income for the Three and Six Months ended June 30, 2007 and 2006
	Consolidated Statements of Changes in Shareholders’ Equity for the Six Months ended June 30, 2007 and 2006
	Consolidated Statements of Cash Flows for the Six Months ended June 30, 2007 and 2006
	Notes to Consolidated Financial Statements
Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3 – Quantitative and Qualitative Disclosures about Market Risk
Item 4 – Controls and Procedures
Part II - OTHER INFORMATION
Item 1 – Legal Proceedings
Item 1A – Risk Factors
Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds
Item 3 – Defaults by the Company on its Senior Securities
Item 4 – Submission of Matters to a Vote of Security Holders
Item 5 – Other Information
Item 6 – Exhibits
SIGNATURE PAGE
EXHIBITS

 

Part I - FINANCIAL INFORMATION

Item 1.  Financial Statements

Consolidated Balance Sheets

(Amounts in thousands, except per share data)

		June 30 2007			December 31 2006
		(unaudited)
Assets
Cash and due from banks		$	16,849		$	21,855
Interest bearing deposits in other banks		912			293
Total cash and cash equivalents		17,761			22,148
Investment securities available for sale		188,319			189,345
Restricted stock		2,895			3,142
Loans held for sale		4,506			2,561
Loans		559,555			528,534
Allowance for loan losses		(7,101		)	(6,850		)
Net Loans		552,454			521,684
Premises and equipment, net		13,276			13,101
Bank owned life insurance		17,884			17,561
Goodwill		8,520			9,113
Other intangible assets		2,891			3,071
Equity method investment		4,003			4,028
Other assets		14,582			13,579
Total assets		$	827,091		$	799,333
Liabilities
Deposits
Demand (non-interest bearing)		$	83,183		$	87,688
Savings and interest checking		374,008			337,985
Time		165,000			169,622
Total Deposits		622,191			595,295
Securities sold under agreements to repurchase		90,946			78,410
Short-term borrowings		—			6,700
Long-term debt		33,019			38,449
Other liabilities		8,079			8,865
Total liabilities		754,235			727,719
Shareholders’ equity
Common stock $1 par value per share, 15,000 shares authorized with 4,299 shares issued and 3,851 and 3,838 shares outstanding at June 30, 2007 and December 31, 2006 , respectively.		4,299			4,299
Capital stock without par value, 5,000 shares authorized with no shares issued or outstanding		—			—
Additional paid-in capital		32,490			32,251
Retained earnings		44,812			42,649
Accumulated other comprehensive (loss) income		(1,121		)	236
Treasury stock, 448 shares and 461 shares at cost at June 30, 2007 and December 31, 2006, respectively		(7,624		)	(7,821		)
Total shareholders’ equity		72,856			71,614
Total liabilities and shareholders’ equity		$	827,091		$	799,333

 

The accompanying notes are an integral part of these financial statements.

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Consolidated Statements of Income

(Amounts in thousands, except per share data)

(unaudited)

		For the Three Months Ended June 30						For the Six Months Ended June 30
		2007			2006			2007			2006
Interest Income
Loans, including fees		$	9,958		$	7,138		$	19,504		$	13,747
Interest and dividends on investments:
Taxable interest		1,631			1,287			3,229			2,484
Tax exempt interest		579			513			1,139			978
Dividend income		82			77			167			145
Federal funds sold		205			143			257			195
Deposits and obligations of other banks		9			12			20			20
Total interest income		12,464			9,170			24,316			17,569
Interest Expense
Deposits		4,700			3,059			9,264			5,717
Securities sold under agreements to repurchase		1,103			777			2,016			1,319
Short-term borrowings		9			1			33			27
Long-term debt		431			540			920			1,148
Total interest expense		6,243			4,377			12,233			8,211
Net interest income		6,221			4,793			12,083			9,358
Provision for loan losses		300			60			450			240
Net interest income after provision for loan losses		5,921			4,733			11,633			9,118
Noninterest Income
Investment and trust services fees		868			818			1,863			1,615
Service charges and fees		1,070			954			2,048			1,793
Mortgage banking activities		237			163			326			218
Increase in cash surrender value of life insurance		163			115			323			230
Equity method investments		32			62			(25		)	(14		)
Other		38			—			91			—
Securities gains, net		6			—			284			95
Total noninterest income		2,414			2,112			4,910			3,937
Noninterest Expense
Salaries and benefits		2,736			2,169			5,551			4,454
Net occupancy expense		434			297			820			605
Furniture and equipment expense		249			167			503			344
Advertising		478			308			748			543
Legal and professional fees		255			225			522			479
Data processing		323			264			702			609
Pennsylvania bank shares tax		170			124			341			247
Intangible amortization		90			47			181			93
Other		887			698			1,946			1,392
Total noninterest expense		5,622			4,299			11,314			8,766
Income before Federal income taxes		2,713			2,546			5,229			4,289
Federal income tax expense		654			668			1,106			922
Net income		$	2,059		$	1,878		$	4,123		$	3,367
Per share data
Basic earnings per share		$	0.54		$	0.56		$	1.07		$	1.00
Diluted earnings per share		$	0.53		$	0.56		$	1.07		$	1.00
Cash dividends declared		$	0.26		$	0.25		$	0.51		$	0.49

 

The accompanying notes are an integral part of these financial statements.

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Consolidated Statements of Changes in Shareholders’ Equity

for the Six Months Ended June 30, 2007 and 2006
(unaudited)

(Dollars in thousands, except per share data)		Common Stock			Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income (Loss)			Treasury Stock			Total
Balance at December 31, 2005		$	3,806		$	19,907		$	38,638		$	801		$	(7,482	)	$	55,670
Comprehensive income:
Net income		—			—			3,367			—			—			3,367
Unrealized loss on securities, net of reclassification adjustments		—			—			—			(559		)	—			(559		)
Unrealized gain on hedging activities, net of reclassification adjustments		—			—			—			74						74
Total Comprehensive income																	2,882
Cash dividends declared, $.49 per share		—			—			(1,643		)	—			—			(1,643		)
Acquisition of 6,592 shares of treasury stock		—			—			—			—			(166		)	(166		)
Common stock issued under stock option plans		—			70			—			—			141			211
Stock option compensation		—			39			—			—			—			39
Balance at June 30, 2006		$	3,806		$	20,016		$	40,362		$	316		$	(7,507	)	$	56,993
Balance at December 31, 2006		$	4,299		$	32,251		$	42,649		$	236		$	(7,821	)	$	71,614
Comprehensive income:
Net income		—			—			4,123			—			—			4,123
Unrealized loss on securities, net of reclassification adjustments		—			—			—			(1,368		)	—			(1,368		)
Unrealized gain on hedging activities, net of reclassification adjustments		—			—			—			11						11
Total Comprehensive income																	2,766
Cash dividends declared, $.51 per share		—			—			(1,960		)	—			—			(1,960		)
Common stock issued under stock option plans		—			23			—			—			65			88
Acquisition of 3,050 shares of treasury stock		—			—			—			—			(83		)	(83		)
Treasury shares issued to dividend reinvestment plan		—			131			—			—			215			346
Stock option compensation		—			85			—			—			—			85
Balance at June 30, 2007		$	4,299		$	32,490		$	44,812		$	(1,121	)	$	(7,624	)	$	72,856

 

The accompanying notes are an integral part of these financial statements.

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Consolidated Statements of Cash Flows

(unaudited)

		For the Six Months Ended June 30
(Amounts in thousands)		2007			2006
Cash flows from operating activities
Net income		$	4,123		$	3,367
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		642			537
Net (accretion) amortization of investment securities		(491		)	3
Stock option compensation expense		85			39
Amortization and net change in mortgage servicing rights valuation		(48		)	50
Amortization of intangibles		181			93
Provision for loan losses		450			240
Securities gains, net		(284		)	(95		)
Loans originated for sale		(13,181		)	(13,053		)
Proceeds from sale of loans		11,335			10,383
Gain on sales of loans		(99		)	(104		)
Loss on sale or disposal of premises and equipment		5			5
Increase in cash surrender value of life insurance		(323		)	(230		)
Loss on equity method investment		25			14
Impairment writedown on equity securities		32			—
Increase in interest receivable and other assets		(8		)	(777		)
(Decrease) increase in interest payable and other liabilities		(423		)	198
Other, net		(54		)	27
Net cash provided by operating activities		1,967			697
Cash flows from investing activities
Proceeds from sales of investment securities available for sale		10,425			537
Proceeds from maturities of investment securities available for sale		43,716			20,131
Net decrease in restricted stock		247			315
Purchase of investment securities available for sale		(54,399		)	(26,620		)
Net increase in loans		(31,193		)	(35,840		)
Capital expenditures		(843		)	(1,030		)
Net cash used in investing activities		(32,047		)	(42,507		)
Cash flows from financing activities
Net increase in demand deposits, NOW accounts and savings accounts		31,518			33,583
Net increase in certificates of deposit		(4,622		)	(739		)
Net decrease in short-term borrowings		5,836			15,547
Long-term debt payments		(5,430		)	(8,648		)
Dividends paid		(1,960		)	(1,643		)
Common stock issued to dividend reinvestment plan		346			—
Common stock issued under stock option plans		88			211
Purchase of treasury shares		(83		)	(166		)
Net cash provided by financing activities		25,693			38,145
Decrease in cash and cash equivalents		(4,387		)	(3,665		)
Cash and cash equivalents as of January 1		22,148			24,738
Cash and cash equivalents as of June 30		$	17,761		$	21,073
Supplemental Disclosures of Cash Flow Information
Cash paid during the year for:
Interest on deposits and other borrowed funds		$	12,160		$	8,094
Income taxes		$	2,165		$	1,075

 

The accompanying notes are an integral part of these financial statements.

5

FRANKLIN FINANCIAL SERVICES CORPORATION and SUBSIDIARIES

UNAUDITED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 - Basis of Presentation

The consolidated financial statements include the accounts of Franklin Financial Services Corporation (the Corporation), and its wholly-owned subsidiaries, Farmers and Merchants Trust Company of Chambersburg (the Bank), Franklin Financial Properties Corp., and Franklin Future Fund Inc.  Farmers and Merchants Trust Company of Chambersburg is a commercial bank that has one wholly-owned subsidiary, Franklin Realty Services Corporation.  Franklin Realty Services Corporation is an inactive real-estate brokerage company.  Franklin Financial Properties Corp. holds real estate assets that are leased by the Bank. Franklin Future Fund Inc. is a non-bank investment company. The activities of nonbank entities are not significant to the consolidated totals.  All significant intercompany transactions and account balances have been eliminated.

In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the financial position, results of operations, and cash flows at and as of June 30, 2007, and for all periods presented have been made.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted.  It is suggested that these consolidated financial statements be read in conjunction with the audited consolidated financial statements and notes thereto included in the Corporation’s 2006 Annual Report on Form 10-K.  The results of operations for the period ended June 30, 2007 are not necessarily indicative of the operating results for the full year.

The balance sheet at December 31, 2006 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.

For purposes of reporting cash flows, cash and cash equivalents include Cash and due from banks, Interest-bearing deposits in other banks and Federal funds sold.  Generally, Federal funds are purchased and sold for one-day periods.

Earnings per share is computed based on the weighted average number of shares outstanding during each period end.  A reconciliation of the weighted average shares outstanding used to calculate basic earnings per share and diluted earnings per share follows:

		For the three months ended June 30				For the six months ended June 30
(Amounts in thousands)		2007		2006		2007		2006
Weighted average shares outstanding (basic)		3,846		3,350		3,842		3,351
Impact of common stock equivalents		8		6		9		7
Weighted average shares outstanding (diluted)		3,854		3,356		3,851		3,358

 

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Note 2 – Comprehensive Income

Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes unrealized gains and losses on available-for-sale securities and derivatives that are recognized as separate components of shareholders’ equity.

The components of other comprehensive income (loss) and related tax effects are as follows:

		For the Three Months Ended June 30						For the Six Months Ended June 30
(Amounts in thousands)		2007			2006			2007			2006
Net Income		$	2,059		$	1,878		$	4,123		$	3,367
Securities:
Unrealized losses arising during the period		(1,811		)	(773		)	(1,790		)	(751		)
Reclassification adjustment for (gains) included in net income		(6		)	—			(284		)	(95		)
Net unrealized (losses)		(1,817		)	(773		)	(2,074		)	(846		)
Tax effect		618			263			706			288
Net of tax amount		(1,199		)	(510		)	(1,368		)	(559		)
Derivatives:
Unrealized gains arising during the period		12			33			9			84
Reclassification adjustment for losses included in net income		5			8			8			29
Net unrealized gains		17			41			17			112
Tax effect		(5		)	(14		)	(6		)	(38		)
Net of tax amount		12			27			11			74
Total other comprehensive income		(1,187		)	(483		)	(1,357		)	(485		)
Total Comprehensive Income		$	872		$	1,395		$	2,766		$	2,882

 

The components of accumulated other comprehensive loss included in shareholders’ equity are as follows:

		June 30
(Amounts in thousands)		2007			2006
Net unrealized gains on securities		$	333		$	503
Tax effect		(113		)	(171		)
Net of tax amount		220			332
Net unrealized losses on derivatives		(20		)	(24		)
Tax effect		7			8
Net of tax amount		(13		)	(16		)
Accumulated pension adjustment		(2,012		)	—
Tax effect		684			—
Net of tax amount		(1,328		)	—
Total accumulated other comprehensive income		$	(1,121	)	$	316

 

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Note 3 – Guarantees

The Corporation does not issue any guarantees that would require liability recognition or disclosure, other than its standby letters of credit.  Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party.  Generally, all letters of credit, when issued have expiration dates within one year.  The credit risk involved in issuing letters of credit is essentially the same as those that are involved in extending loan facilities to customers.  The Bank generally holds collateral and/or personal guarantees supporting these commitments.  The Bank had $28.1 million standby letters of credit as of June 30, 2007 and $17.0 million as of December 31, 2006. Management believes that the proceeds obtained through a liquidation of collateral and the enforcement of guarantees would be sufficient to cover the potential amount of future payments required under the corresponding guarantees.

Note 4 – Pensions

The components of pension expense for the periods presented are as follows:

		Three months ended June 30						Six months ended June 30
(Amounts in thousands)		2007			2006			2007			2006
Components of net periodic benefit cost:
Service cost		$	92		$	91		$	183		$	183
Interest cost		181			172			362			345
Expected return on plan assets		(230		)	(219		)	(460		)	(440		)
Amortization of prior service cost		23			22			47			44
Net periodic benefit cost		$	66		$	66		$	132		$	132

 

Note 5 – Recent Accounting Pronouncements

FIN 48

In July 2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes, which clarified the accounting for uncertainty in income taxes recognized in the financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes.  FIN 48 provides guidance on the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosures, and transition.  We adopted FIN 48 effective on January 1, 2007 and this adoption did not impact our consolidated financial statements.

EITF Issue No. 06-04, “Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements”

In September 2006, the FASB’s Emerging Issues Task Force (EITF) issued EITF Issue No. 06-4, “Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split Dollar Life Insurance Arrangements” (“EITF 06-4”).  EITF 06-4 requires the recognition of a liability related to the postretirement benefits covered by an endorsement split-dollar life insurance arrangement.  The consensus highlights that the employer (who is also the policyholder) has a liability for the benefit it is providing to its employee.  As such, if the policyholder has agreed to maintain the insurance policy in force for the employee’s benefit during his or her retirement, then the liability recognized during the

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employee’s active service period should be based on the future cost of insurance to be incurred during the employee’s retirement.  Alternatively, if the policyholder has agreed to provide the employee with a death benefit, then the liability for the future death benefit should be recognized by following the guidance in SFAS No. 106 or Accounting Principles Board (APB) Opinion No. 12, as appropriate.  For transition, an entity can choose to apply the guidance using either of the following approaches: (a) a change in accounting principle through retrospective application to all periods presented or (b) a change in accounting principle through a cumulative-effect adjustment to the balance in retained earnings at the beginning of the year of adoption.  The EITF is applicable in fiscal years beginning after December 15, 2007, with early adoption permitted. The Corporation is evaluating the affect EITF 06-4 will have on its consolidated financial statements.

SFAS No. 157,  “Fair Value Measurement”

In September 2006, the Financial Accounting Standards Board (FASB) issued Statement No. 157, Fair Value Measurements, which defines fair value, establishes a framework for measuring fair value under GAAP, and expands disclosures about fair value measurements. SFAS No. 157 applies to other accounting pronouncements that require or permit fair value measurements. The new guidance is effective for financial statements issued for fiscal years beginning after November 15, 2007, and for interim periods within those fiscal years. The Corporation is evaluating the affect the adoption of SFAS No. 157 will have on its consolidated financial statements.

SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities-Including an amendment of FASB Statement 115”

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 115.”  SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. Unrealized gains and losses on items for which the fair value option has been elected will be recognized in earnings at each subsequent reporting date.  The Corporation did not elect the early adoption option of SFAS No. 159.  SFAS No. 159 is effective for the Corporation January 1, 2008 and it is evaluating the affect it will have on its consolidated financial statements.

Note 6 – Acquisition

On July 1, 2006, Franklin Financial Services Corporation completed its acquisition of Fulton Bancshares Corporation.  In connection with the transaction, The Fulton County National Bank and Trust Company, a subsidiary of Fulton Bancshares was merged with and into Farmers and Merchants Trust Company of Chambersburg, a subsidiary of Franklin Financial Services Corporation.  The acquisition added approximately $123 million in assets and 6 community-banking offices in Fulton, Franklin and Huntingdon counties to Franklin Financial Services Corporation. Management believes that the acquisition gave it access to a contiguous market, via an established network, that could be expanded with the product offerings of the Corporation.

The following unaudited pro forma combined results of operations for the periods shown below give effect to the merger as if the merger had been completed on January 1, 2006. The pro forma results show the combination of Fulton Bancshares’ results into Franklin Financial Services Corporation’s consolidated statements of income. While adjustments have been made for the estimated effect of purchase accounting, the pro forma results do not reflect the actual results the combined company would have achieved had the combination occurred at the beginning of the periods presented.

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		Pro forma
		Three months ended June 30			Six months ended June 30
(in thousands, except per share)		2006			2006
Net interest income		$	5,948		$	11,557
Other income (excluding securities gains & losses)		2,295			4,276
Net income		344			1,879
Diluted earnings per share		0.09			0.49

 

Note 7 – Reclassifications

Certain prior period amounts may have been reclassified to conform to the current year presentation.  Such reclassifications did not affect reported net income.

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Part I, Item 2

Management’s Discussion and Analysis of Results of Operations and Financial Condition

For the Three and Six Month Periods Ended June 30, 2007 and 2006

Forward Looking Statements

Certain statements appearing herein which are not historical in nature are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  Such forward-looking statements refer to a future period or periods, reflecting management’s current views as to likely future developments, and use words such as “may,” “will,” “expect,” “believe,” “estimate,” “anticipate,” or similar terms.  Because forward-looking statements involve certain risks, uncertainties and other factors over which the Corporation has no direct control, actual results could differ materially from those contemplated in such statements.  These factors include (but are not limited to) the following: general economic conditions, changes in interest rates, changes in the Corporation’s cost of funds, changes in government monetary policy, changes in government regulation and taxation of financial institutions, changes in the rate of inflation, changes in technology, the intensification of competition within the Corporation’s market area, and other similar factors.

Critical Accounting Policies

Management has identified critical accounting policies for the Corporation to include Allowance for Loan Losses, Mortgage Servicing Rights, Financial Derivatives, Temporary Investment Impairment and Stock-based Compensation.  There were no other changes to the critical accounting policies disclosed in the 2006 Annual Report on Form 10-K in regards to application or related judgements and estimates used.  Please refer to Item 7 of the Corporation’s 2006 Annual Report on Form 10-K for a more detailed disclosure of the critical accounting policies.

Results of Operations

The results of operations for 2007 reflect the acquisition of Fulton Bancshares Corporation on July 1, 2006, which are not reflected in the 2006 results presented.

Summary

The Corporation reported net income for the six months ended June 30, 2007 of $4.123 million.  This is a 22.5% increase versus net income of $3.367 million for the same period in 2006. Total revenue (net interest income and noninterest income) increased $3.7 million year-over-year, but was partially offset by an increase in noninterest expense of $2.5 million. Diluted earnings per share increased from $1.00 in 2006 to $1.07 in 2007. Total assets were $827.1 million at June 30, 2007, up 3.5% from year-end 2006.  Net loans and total deposits both grew during the quarter with ending balances of $552.5 million and $622.2 million, respectively.

Other key performance ratios as of, or for the six months ended June 30, 2007 (on an annualized basis) are listed below:

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		2007		2006
Return on average equity (ROE)		11.20	%	11.86	%
Return on average assets (ROA)		1.00	%	1.06	%
Return on average tangible average equity(1)		14.08	%	11.86	%
Return on average tangible average assets(1)		1.07	%	1.06	%

 

(1) The Corporation supplements its traditional GAAP measurements with Non-GAAP measurements. The Non-GAAP measurements include Return on Average Tangible Assets and Return on Average Tangible Equity. The purchase method of accounting was used to record the acquisition of Fulton Bancshares Corporation.  As a result, intangible assets (primarily goodwill and core deposit intangibles) were created. The Non-GAAP disclosures are intended to eliminate the effects of the intangible assets and allow for better comparisons to periods when such assets did not exist.  The following table shows the adjustments made between the GAAP and NON-GAAP measurements:

GAAP Measurement		Calculation
Return on Average Assets		Net Income / Average Assets
Return on Average Equity		Net Income / Average Equity
Non- GAAP Measurement		Calculation
Return on Average Tangible Assets		Net Income plus Intangible Amortization /
			Average Assets less Average Intangible Assets
Return on Average Tangible Equity		Net Income plus Intangible Amortization /
			Average Equity less Average Intangible Assets

 

A more detailed discussion of the operating results for the three and six months ended June 30, 2007 follows:

Net Interest Income

Comparison of the six months ended June 30, 2007 to the six months ended June 30, 2006:

Interest income increased by $6.7 million during the period to $24.3 million. Most of this increase came from interest on loans that grew by $5.8 million from the prior year period. This growth was the result of an increase in the average total loan balance and an increase in loan yield. Average total loan balance increased approximately $132.0 million and the average yield rose from 6.81% to 7.30%. The majority of the loan growth occurred in the commercial loan portfolio, which increased $77.8 million on average from 2006 to 2007. All other loan categories reported an increase in the average outstanding balance year over year as well. Growth in the investment portfolio and a corresponding increase in interest income also contributed to the increase in total interest income for the period.

Interest expense was $12.2 million year-to-date, an increase of $4.0 million from the prior year period. Interest bearing liabilities averaged $641.7 million for the first six months of 2007, an increase of $143.2 million over the 2006 average.  The cost of these deposits also increased from 3.32% to 3.84% year over year. The 2007 average balance of the Money Management product was $219.3 million. It increased $77.6 million over the 2006 average and was the largest growing deposit product during the period.   Time deposits and securities sold under agreements to repurchase (Repo) also recorded growth in average balances in excess of 30% year over year. Time deposit growth was primarily the result of the 2006 acquisition while the Repo growth was internally generated.

As a result, year-to-date net interest income increased $2.7 million to $12.1 million from the previous year total of $9.4 million, an increase of 29.12%.

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The following table shows a comparative analysis of average balances, asset yields and funding costs for the six months ended June 30, 2007 and 2006. These components drive changes in net interest income.

			For the Six Months Ended June 30
			2007								2006
(Dollars in thousands)			Average balance			Tax Equivalent Interest			Average yield/rate		Average balance			Tax Equivalent Interest			Average yield/rate
	Interest-earning assets
Federal funds sold and interest bearing balances			$	10,273		$	277		5.36	%	$	8,894		$	215		4.81	%
Investment securities			184,847			5,013			5.47	%	165,786			4,027			4.90	%
Loans			543,180			19,651			7.30	%	411,171			13,890			6.81	%
	Total interest-earning assets		$	738,300		24,941			6.81	%	$	585,851		18,132			6.24	%
	Interest-bearing liabilities
Interest-bearing deposits			$	524,433		9,264			3.56	%	$	393,353		5,717			2.93	%
Securities sold under agreements to repurchase			80,761			2,016			5.03	%	59,807			1,319			4.45	%
Short-term borrowings			1,192			33			5.58	%	1,167			27			4.67	%
Long-term debt			35,299			920			5.26	%	44,162			1,148			5.24	%
	Total interest-bearing liabilities		$	641,686		12,233			3.84	%	$	498,489		8,211			3.32	%
Interest spread									2.97	%							2.92	%
Net interest income/Net interest margin						12,708			3.47	%				9,921			3.41	%
Tax equivalent adjustment						(624		)						(562		)
Net interest income						$	12,083							$	9,358

 

Comparison of the three months ended June 30, 2007 to the three months ended June 30, 2006:

Net interest income for the quarter was $6.2 million and represents an increase of $1.4 million over net interest income of $4.8 million in the second quarter of 2006.  Interest income increased $3.3 million (35.9%) during the quarter, reaching $12.5 million as compared to $9.2 million in the prior year.  The majority of the increase in interest income occurred in the loan portfolio and was the result of an increase of $132.0 million in average outstanding loans quarter over quarter. The increase in the loan portfolio occurred primarily in the commercial loan portfolio.

Interest expense was $6.2 million for the quarter, an increase of $1.9 million from the prior year quarter. The largest contributor to the increase in interest expense was the Money Management product.  Interest expense on this product increased $883 thousand quarter over quarter as average balances increased $77.1 million.

Provision for Loan Losses

The Corporation recorded $450 thousand in provision expense during the first six months of 2007 versus $240 thousand for the same period in 2006.  For the second quarter of 2007, provision expense was $300 thousand versus $60 thousand for the same period in 2006.

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