UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
x ANNUAL REPORT PURSUANT TO
SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF
1934
For the fiscal year ended December 31, 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 0-6233
1 ST
SOURCE CORPORATION
(Exact
name of registrant as specified in its charter)
|
Indiana
|
35-1068133
|
|
|
(State
or other jurisdiction of incorporation or
organization)
|
(I.R.S.
Employer
Identification
No.)
|
|
100 North Michigan
Street
|
||
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South
Bend, Indiana
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46601 | |
|
(Address
of principal executive offices)
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(Zip
Code)
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Registrant’s
telephone number, including area code: (574) 235-2000
Securities
registered pursuant to Section 12(b) of the Act:
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Title of
Class
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Name of Each Exchange
on Which Registered
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Common
Stock — without par value
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The
NASDAQ Stock Market LLC
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Securities
registered pursuant to Section 12(g) of the Act: None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yes o No x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.Yes o No x
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 if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer ” and “smaller
reporting company ” in Rule 12b-2 of the Exchange Act. (Check one):
|
Large
accelerated filer
|
o |
Accelerated
filer
|
x |
Non-accelerated
filer
|
o |
Smaller Reporting Company
|
o |
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes o No
x
The
aggregate market value of the voting common stock held by non-affiliates of the
registrant as of June 30, 2007 was $344,792,173
The
number of shares outstanding of each of the registrant’s classes of stock as of
February 20, 2008:
Common
Stock, without par value –– 24,092,110 shares
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the annual proxy statement for the 2008 annual meeting of shareholders to be
held April 24, 2008, are incorporated by reference into Part III.
TABLE OF CONTENTS
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Part
I
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Item
1.
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3
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Item
1A.
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7 | |
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Item
1B.
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9 | |
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Item
2.
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9 | |
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Item
3.
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9 | |
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Item
4.
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9 | |
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Part
II
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Item
5.
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Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities | 9 |
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Item
6.
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10 | |
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Item
7.
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10 | |
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Item
7A.
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23 | |
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Item
8
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24 | |
| 24 | ||
| 26 | ||
| 27 | ||
| 28 | ||
| 29 | ||
| 30 | ||
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Item
9
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47 | |
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Item
9A.
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48 | |
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Item
9B.
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48 | |
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Part
III
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Item
10.
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48 | |
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Item
11.
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48 | |
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Item
12.
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49 | |
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Item
13.
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49 | |
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Item
14.
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49 | |
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Part
IV
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Item
15.
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50 | |
| 52 | ||
PART
I
ITEM 1. BUSINESS.
1st SOURCE
CORPORATION
1st
Source Corporation, an Indiana corporation incorporated in 1971, is a bank
holding company headquartered in South Bend, Indiana that provides, through our
subsidiaries (collectively referred to as "1st Source"), a broad array of
financial products and services. 1st Source Bank and First National
Bank, Valparaiso (collectively referred to as the "Banks"), our banking
subsidiaries, offer commercial and consumer banking services, trust and
investment management services, and insurance to individual and business clients
through most of our 83 banking center locations in 17 counties in Indiana and
Michigan. 1st Source Bank's Specialty Finance Group, with 24
locations nationwide, offers specialized financing services for new and used
private and cargo aircraft, automobiles and light trucks for leasing and rental
agencies, medium and heavy duty trucks, construction equipment, and
environmental equipment. While concentrated in certain equipment types, we enjoy
serving a very diverse client base. We are not dependent upon any
single industry or client. At December 31, 2007, we had consolidated
total assets of $4.45 billion, loans and leases of $3.19 billion, deposits of
$3.47 billion, and total shareholders’ equity of $430.50 million.
Our
principal executive office is located at 100 North Michigan Street, South Bend,
Indiana 46601 and our telephone number is 574 235-2000. Access to our annual
report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form
8-K, and all amendments to those reports is available, free of charge, at
www.1stsource.com soon after the material is electronically filed with the
Securities Exchange Commission (SEC). We will provide a printed copy
of any of the aforementioned documents to any requesting
shareholder.
1st SOURCE
BANK
1st
Source Bank is a wholly owned subsidiary of 1st Source Corporation that offers a
broad range of consumer and commercial banking services through its lending
operations, retail branches, and fee based businesses.
Commercial, Agricultural, and Real Estate Loans
— 1st Source Bank provides commercial, agricultural, and real estate loans to
primarily privately owned business clients mainly located within our regional
market area. Loans are made for a wide variety of general corporate
purposes, including financing for industrial and commercial properties,
financing for equipment, inventories and accounts receivable, and acquisition
financing. Other services include commercial leasing and cash
management services.
Consumer Services — 1st Source Bank provides a
full range of consumer banking services, including checking accounts, on-line
banking including bill payment, telephone banking, savings programs, installment
and real estate loans, home equity loans and lines of credit, drive-through and
night deposit services, safe deposit facilities, automated teller machines,
overdraft facilities, debit and credit card services, and brokerage
services.
Trust Services — 1st Source Bank provides a
wide range of trust, investment, agency, and custodial services for individual
and corporate clients. These services include the administration of
estates and personal trusts, as well as the management of investment accounts
for individuals, employee benefit plans, and charitable
foundations.
Specialty Finance Group Services
— 1st Source Bank, through its Specialty Finance
Group, provides a broad range of comprehensive equipment loan and
lease finance products addressing the financing needs of diverse companies. This
group can be broken down into four areas: auto, light truck, and environmental
equipment financing; medium and heavy duty truck financing; aircraft financing;
and construction equipment financing.
Auto,
light truck, and environmental equipment financing consists of financings to
automobile rental and leasing companies, light truck rental and leasing
companies, and environmental equipment companies. Auto, light truck,
and environmental equipment finance receivables generally range from $50,000 to
$15 million with fixed or variable interest rates and terms of two to seven
years.
Medium
and heavy duty truck financing consists of financings for highway tractors and
trailers and delivery trucks to the commercial trucking
industry. Medium and heavy duty truck finance receivables
generally range from $50,000 to $15 million with fixed or variable interest
rates and terms of two to seven years.
Aircraft
financing consists of financings for new and used general aviation aircraft for
private and corporate aircraft users, aircraft distributors and dealers, air
charter operators, and air cargo carriers. We have selectively
entered the business aircraft markets of Brazil, Canada and Mexico on a limited
basis where desirable aircraft financing opportunities
exist. Aircraft finance receivables generally range from $250,000 to
$15 million with fixed or variable interest rates and terms of two to fifteen
years.
Construction
equipment financing includes financing of equipment (i.e., asphalt and concrete
plants, bulldozers, excavators, cranes, and loaders, etc.) to the construction
industry. Construction equipment finance receivables generally range
from $100,000 to $15 million with fixed or variable interest rates and terms of
three to seven years.
We also
generate equipment rental income through the leasing of construction equipment,
various trucks, and other equipment to clients through operating
leases.
SPECIALITY FINANCE GROUP
SUBSIDIARIES
The
Specialty Finance Group also consists of separate wholly owned subsidiaries of
1st Source Bank which include: Michigan Transportation Finance
Corporation, 1st Source Specialty Finance, Inc., SFG Equipment Leasing, Inc.,
1st Source Intermediate Holding, LLC, 1st Source Commercial Aircraft Leasing,
Inc., and SFG Equipment Leasing Corporation I.
FIRST NATIONAL BANK,
VALPARAISO
First
National Bank, Valparaiso (First National) is a wholly owned subsidiary of 1st
Source Corporation that was acquired on May 31, 2007. First National
offers a broad range of consumer and commercial banking services through its
lending operations, retail branches, and fee based businesses.
Commercial, Agricultural, and Real Estate Loans
—First National provides commercial, agricultural, and real estate loans
to corporations and other business clients primarily located within Northwestern
Indiana. Loans are made for a wide variety of general corporate
purposes, including financing for industrial and commercial properties,
financing for equipment, inventories and accounts receivable, and acquisition
financing.
Consumer Services —First National provides a
full range of consumer banking services, including checking accounts, on-line
banking, savings programs, installment and real estate loans, home equity loans
and lines of credit, drive-through and night deposit services, safe deposit
facilities, automated teller machines, overdraft facilities, and debit and
credit card services.
TRUSTCORP MORTGAGE
COMPANY
Trustcorp
Mortgage Company (Trustcorp) is a mortgage banking company and is a wholly owned
subsidiary of 1st Source Corporation. During 2007, their mortgage
activity was merged with 1st Source Bank.
1ST SOURCE INSURANCE,
INC.
1st
Source Insurance, Inc. is a wholly owned subsidiary of 1st Source Bank that
provides insurance services to individuals and businesses covering corporate and
personal property products, casualty insurance products, and individual and
group health and life insurance products.
1ST SOURCE CORPORATION
INVESTMENT ADVISORS, INC.
1st
Source Corporation Investment Advisors, Inc. is a wholly owned subsidiary of 1st
Source Bank that provides investment advisory services to trust and investment
clients of 1st Source Bank and to the 1st Source Monogram
Funds. 1st Source Corporation
Investment Advisors, Inc. is registered as an investment advisor with the
Securities and Exchange Commission under the Investment Advisors Act of 1940.
1st Source Corporation Investment Advisors, Inc. serves strictly in an advisory
capacity and, as such, does not hold any client securities.
OTHER CONSOLIDATED
SUBSIDIARIES
1ST SOURCE CAPITAL TRUST II,
III, IV, AND 1ST SOURCE MASTER TRUST
Our
unconsolidated subsidiaries include 1st Source Capital Trust III, IV, and 1st
Source Master Trust. These subsidiaries were created for the purposes of issuing
$10.00 million, $30.00 million, and $57.00 million of trust preferred
securities, respectively, and lending the proceeds to 1st Source. We
guarantee, on a limited basis, payments of distributions on the trust preferred
securities and payments on redemption of the trust preferred
securities. 1st Source Capital Trust II was not active as of December
31, 2007.
COMPETITION
The activities in which we and the Banks engage are highly competitive. These activities and the geographic markets served involve competition with other banks, some of which are affiliated with large bank holding companies headquartered outside of our principal market. We generally compete on the basis of client service and responsiveness to client needs, available loan and deposit products, the rates of interest charged on loans and leases, the rates of interest paid for funds, other credit and service charges, the quality of services rendered, the convenience of banking facilities, and in the case of loans and leases to large commercial borrowers, relative lending limits.
In
addition to competing with other banks within our primary service areas, the
Banks also compete with other financial service companies, such as credit
unions, industrial loan associations, securities firms, insurance companies,
small loan companies, finance companies, mortgage companies, real estate
investment trusts, certain governmental agencies, credit organizations, and
other enterprises. Additional competition for depositors’ funds comes from
United States Government securities, private issuers of debt obligations, and
suppliers of other investment alternatives for depositors. Many of our non-bank
competitors are not subject to the same extensive Federal regulations that
govern bank holding companies and banks. Such non-bank competitors may, as a
result, have certain advantages over us in providing some services.
We
compete against these financial institutions by offering a full array of
products and highly personalized services. We also rely on our history in our
core market dating back to 1863, as well as relationships that our long-term
colleagues have with our clients, and the capacity we have for quick local
decision-making.
EMPLOYEES
At
December 31, 2007, we had approximately 1,350 employees on a full-time
equivalent basis. We provide a wide range of employee benefits and consider
employee relations to be good.
REGULATION AND
SUPERVISION
General — 1st Source and the Banks are
extensively regulated under Federal and State law. To the extent that
the following information describes statutory or regulatory provisions, it is
qualified in its entirety by reference to the particular statutory and
regulatory provisions. Any change in applicable laws or regulations may have a
material effect on our business and our prospective business. Our operations may
be affected by legislative changes and by the policies of various regulatory
authorities. We are unable to predict the nature or the extent of the effects on
our business and earnings that fiscal or monetary policies, economic controls,
or new Federal or State legislation may have in the future.
We are a
registered bank holding company under the Bank Holding Company Act of 1956
(BHCA) and, as such, we are subject to regulation, supervision, and examination
by the Board of Governors of the Federal Reserve System (Federal Reserve). We
are required to file annual reports with the Federal Reserve and to provide the
Federal Reserve such additional information as it may require.
1st
Source Bank, as an Indiana state bank and member of the Federal Reserve System,
is supervised by the Indiana Department of Financial Institutions (DFI) and the
Federal Reserve. As such, 1st Source Bank is regularly examined by and subject
to regulations promulgated by the DFI and the Federal Reserve. First National,
as a national bank, is supervised by the Office of the Comptroller of the
Currency (OCC). As such, First National is regularly examined by and
subject to regulations promulgated by the OCC. Because the Federal
Deposit Insurance Corporation (FDIC) provides deposit insurance to 1st Source
Bank and First National, both are also subject to supervision and regulation by
the FDIC (even though the FDIC is not their primary Federal
regulator).
Bank Holding Company Act — Under the BHCA, as
amended, our activities are limited to business so closely related to banking,
managing, or controlling banks as to be a proper incident thereto. We are also
subject to capital requirements applied on a consolidated basis in a form
substantially similar to those required of the Banks. The BHCA also requires a
bank holding company to obtain approval from the Federal Reserve before (i)
acquiring, or holding more than 5% voting interest in any bank or bank holding
company, (ii) acquiring all or substantially all of the assets of another bank
or bank holding company, or (iii) merging or consolidating with another bank
holding company.
The BHCA
also restricts non-bank activities to those which, by statute or by Federal
Reserve regulation or order, have been identified as activities closely related
to the business of banking or of managing or controlling banks. As discussed
below, the Gramm-Leach-Bliley Act, which was enacted in 1999, established a new
type of bank holding company known as a "financial holding company" that has
powers that are not otherwise available to bank holding companies.
Financial Institutions Reform, Recovery and
Enforcement Act of 1989 — The Financial Institutions Reform, Recovery and
Enforcement Act of 1989 (FIRREA) reorganized and reformed the regulatory
structure applicable to financial institutions generally.
The Federal Deposit Insurance Corporation Improvement
Act of 1991 — The Federal Deposit Insurance Corporation Improvement Act
of 1991 (FDICIA) was adopted to supervise and regulate a wide variety of banking
issues. In general, FDICIA provides for the recapitalization of the Bank
Insurance Fund (BIF), deposit insurance reform, including the implementation of
risk-based deposit insurance premiums, the establishment of five capital levels
for financial institutions ("well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized," and "critically
undercapitalized") that would impose more scrutiny and restrictions on less
capitalized institutions, along with a number of other supervisory and
regulatory issues. At December 31, 2007, the Banks were categorized
as "well capitalized," meaning that their total risk-based capital ratio
exceeded 10.00%, their Tier 1 risk-based capital ratio exceeded
6.00%, their leverage ratio exceeded 5.00%, and they were not subject to a
regulatory order, agreement, or directive to meet and maintain a specific
capital level for any capital measure.
Federal Deposit Insurance Reform Act — On
February 1, 2006, Congress approved the Federal Deposit Insurance Reform Act of
2005 (FDIRA). Among other things, the FDIRA provides for the merger
of the Bank Insurance Fund with the Savings Association Insurance Fund and for
an immediate increase in Federal deposit insurance for certain retirement
accounts up to $250,000. The statute further provides for the
indexing of the maximum deposit insurance coverage for all types of deposit
accounts in the future to account for inflation. The FDIRA also
requires the FDIC to provide certain banks and thrifts that were in existence
prior to December 31, 1996 with one-time credits against future premiums based
on the amount of their payments to the Bank Insurance Fund or Savings
Association Insurance Fund prior to that date.
Securities and Exchange Commission (SEC) and The
Nasdaq Stock Market (Nasdaq) — We are under the jurisdiction of the SEC
and certain state securities commissions for matters relating to the offering
and sale of our securities and our investment advisory services. We
are subject to the disclosure and regulatory requirements of the Securities Act
of 1933, as amended, and the Securities Exchange Act of 1934, as amended, as
administered by the SEC. We are listed on the Nasdaq Global Select
Market under the trading symbol "SRCE," and we are subject to the rules of
Nasdaq for listed companies.
Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 — Congress enacted the Riegle-Neal Interstate
Banking and Branching Efficiency Act of 1994 (Interstate Act) in September 1994.
Beginning in September 1995, bank holding companies have the right to expand, by
acquiring existing banks, into all states, even those which had theretofore
restricted entry. The legislation also provides that, subject to future action
by individual states, a holding company has the right to convert the banks which
it owns in different states to branches of a single bank. The states of Indiana
and Michigan have adopted the interstate branching provisions of the Interstate
Act.
Economic Growth and Regulatory Paperwork Reduction Act
of 1996 — The Economic Growth and Regulatory Paperwork Reduction Act of
1996 (EGRPRA) was signed into law on September 30, 1996. Among other things,
EGRPRA streamlined the non-banking activities application process for
well-capitalized and well-managed bank holding companies.
Gramm-Leach-Bliley Act of 1999 — The
Gramm-Leach-Bliley Act of 1999 (GLBA) is intended to modernize the banking
industry by removing barriers to affiliation among banks, insurance companies,
the securities industry, and other financial service providers. It provides
financial organizations with the flexibility of structuring such affiliations
through a holding company structure or through a financial subsidiary of a bank,
subject to certain limitations. The GLBA establishes a new type of bank holding
company, known as a financial holding company, which may engage in an expanded
list of activities that are "financial in nature," which include securities and
insurance brokerage, securities underwriting, insurance underwriting, and
merchant banking. The GLBA also sets forth a system of functional regulation
that makes the Federal Reserve the "umbrella supervisor" for holding companies,
while providing for the supervision of the holding company’s subsidiaries by
other Federal and state agencies. A bank holding company may not become a
financial holding company if any of its subsidiary financial institutions are
not well-capitalized or well-managed. Further, each bank subsidiary of the
holding company must have received at least a satisfactory Community
Reinvestment Act (CRA) rating. The GLBA also expands the types of financial
activities a national bank may conduct through a financial subsidiary, addresses
state regulation of insurance, generally prohibits unitary thrift holding
companies organized after May 4, 1999 from participating in new activities that
are not financial in nature, provides privacy protection for nonpublic customer
information of financial institutions, modernizes the Federal Home Loan Bank
system, and makes miscellaneous regulatory improvements. The Federal Reserve and
the Secretary of the Treasury must coordinate their supervision regarding
approval of new financial activities to be conducted through a financial holding
company or through a financial subsidiary of a bank. While the provisions of the
GLBA regarding activities that may be conducted through a financial subsidiary
directly apply only to national banks, those provisions indirectly apply to
state-chartered banks. In addition, the Banks are subject to other provisions of
the GLBA, including those relating to CRA and privacy, regardless of whether we
elect to become a financial holding company or to conduct activities through a
financial subsidiary. We do not, however, currently intend to file
notice with the Board to become a financial holding company or to engage in
expanded financial activities through a financial subsidiary.
Financial Privacy — In accordance with the
GLBA, Federal banking regulators adopted rules that limit the ability of banks
and other financial institutions to disclose non-public information about
customers to nonaffiliated third parties. These limitations require
disclosure of privacy policies to consumers and, in some circumstances, allow
consumers to prevent disclosure of certain personal information to a
nonaffiliated third party. The privacy provisions of the GLBA affect
how consumer information is transmitted through diversified financial companies
and conveyed to outside vendors.
USA Patriot Act of 2001 — The USA Patriot Act
of 2001 (USA Patriot Act) was signed into law following the terrorist attacks of
September 11, 2001. The USA Patriot Act is comprehensive
anti-terrorism legislation that, among other things, substantially broadened the
scope of anti-money laundering laws and regulations by imposing significant new
compliance and due diligence obligations on financial institutions.
The
regulations adopted by the United States Treasury Department under the USA
Patriot Act impose new obligations on financial institutions to maintain
appropriate policies, procedures and controls to detect, prevent and report
money laundering, and terrorist financing. Additionally, the
regulations require that we, upon request from the appropriate Federal
regulatory agency, provide records related to anti-money laundering, perform due
diligence of private banking and correspondent accounts, establish standards for
verifying customer identity, and perform other related duties.
Failure
of a financial institution to comply with the USA Patriot Act's requirements
could have serious legal and reputational consequences for the
institution.
Regulations Governing Capital Adequacy — The
Federal bank regulatory agencies use capital adequacy guidelines in their
examination and regulation of bank holding companies and banks. If capital falls
below the minimum levels established by these guidelines, a bank holding company
or bank will be required to submit an acceptable plan for achieving compliance
with the capital guidelines and will be subject to denial of applications and
appropriate supervisory enforcement actions. The various regulatory capital
requirements that we are subject to are disclosed in Part II, Item 8, Financial
Statements and Supplementary Data — Note R of the Notes to Consolidated
Financial Statements. Our management believes that the risk-weighting of assets
and the risk-based capital guidelines do not have a material adverse impact on
our operations or on the operations of the Banks.
Community Reinvestment Act — The Community
Reinvestment Act of 1977 requires that, in connection with examinations of
financial institutions within their jurisdiction, the Federal banking regulators
must evaluate the record of the financial institutions in meeting the credit
needs of their local communities, including low and moderate income
neighborhoods, consistent with the safe and sound operation of those banks.
Federal banking regulators are required to consider a financial institution's
performance in these areas as they review applications filed by the institution
to engage in mergers or acquisitions or to open a branch or
facility.
Regulations Governing Extensions of Credit —
1st Source Bank and First National are subject to certain restrictions imposed
by the Federal Reserve Act on extensions of credit to 1st Source or our
subsidiaries, or investments in our securities and on the use of our securities
as collateral for loans to any borrowers. These regulations and restrictions may
limit our ability to obtain funds from the Banks for our cash needs, including
funds for acquisitions and for payment of dividends, interest and operating
expenses. Further, the BHCA, certain regulations of the Federal Reserve, state
laws and many other Federal laws govern the extensions of credit and generally
prohibit a bank from extending credit, engaging in a lease or sale of property,
or furnishing services to a customer on the condition that the customer obtain
additional services from the bank’s holding company or from one of its
subsidiaries.
1st
Source Bank and First National are also subject to certain restrictions imposed
by the Federal Reserve Act on extensions of credit to executive officers,
directors, principal shareholders, or any related interest of such persons.
Extensions of credit (i) must be made on substantially the same terms, including
interest rates and collateral, and subject to credit underwriting
procedures that are at least as stringent as those prevailing at the time for
comparable transactions with non affiliates, and (ii) must not involve more than
the normal risk of repayment or present other unfavorable features. The Banks
are also subject to certain lending limits and restrictions on overdrafts to
such persons.
Reserve Requirements — The Federal Reserve
requires all depository institutions to maintain reserves against their
transaction account deposits. The Banks must maintain reserves of 3.00% against
net transaction accounts greater than $8.50 million and less than $45.80 million
(subject to adjustment by the Federal Reserve) and reserves of 10.00% must be
maintained against that portion of net transaction accounts in excess of $45.80
million.
Dividends — The ability of the Banks to pay
dividends is limited by state and Federal Regulations that require 1st Source
Bank and First National to obtain the prior approval of the DFI or the OCC,
respectively, before paying a dividend that, together with other dividends it
has paid during a calendar year, would exceed the sum of its retained net income
for the year to date combined with its retained net income for the previous two
years. The amount of dividends the Banks may pay may also be limited by
certain covenant agreements and by the principles of prudent bank
management.
Monetary Policy and Economic Control — The
commercial banking business in which we engage is affected not only by general
economic conditions, but also by the monetary policies of the Federal Reserve.
Changes in the discount rate on member bank borrowing, availability of borrowing
at the "discount window," open market operations, the imposition of changes in
reserve requirements against member banks deposits and assets of foreign
branches, and the imposition of, and changes in, reserve requirements against
certain borrowings by banks and their affiliates are some of the instruments of
monetary policy available to the Federal Reserve. These monetary policies are
used in varying combinations to influence overall growth and distributions of
bank loans, investments, and deposits, and such use may affect interest rates
charged on loans and leases or paid on deposits. The monetary policies of the
Federal Reserve have had a significant effect on the operating results of
commercial banks and are expected to do so in the future. The monetary policies
of the Federal Reserve are influenced by various factors, including inflation,
unemployment, short-term and long-term changes in the international trade
balance, and in the fiscal policies of the U.S. Government. Future monetary
policies and the effect of such policies on our future business and earnings,
and the effect on the future business and earnings of the Banks cannot be
predicted.
Sarbanes-Oxley Act of 2002 — On July 30, 2002,
the Sarbanes-Oxley Act of 2002 (SOA) was signed into law. The SOA's
stated goals include enhancing corporate responsibility, increasing penalties
for accounting and auditing improprieties at publicly traded companies and
protecting investors by improving the accuracy and reliability of corporate
disclosures pursuant to the securities laws. The SOA generally
applies to all companies that file or are required to file periodic reports with
the SEC under the Securities Exchange Act of 1934 (Exchange Act.)
Among
other things, the SOA creates the Public Company Accounting Oversight Board as
an independent body subject to SEC supervision with responsibility for setting
auditing, quality control, and ethical standards for auditors of public
companies. The SOA also requires public companies to make faster and
more-extensive financial disclosures, requires the chief executive officer and
the chief financial officer of public companies to provide signed certifications
as to the accuracy and completeness of financial information filed with the SEC,
and provides enhanced criminal and civil penalties for violations of the Federal
securities laws.
The SOA
also addresses functions and responsibilities of audit committees of public
companies. The statute, by mandating certain stock exchange listing
rules, makes the audit committee directly responsible for the appointment,
compensation, and oversight of the work of the company's outside auditor, and
requires the auditor to report directly to the audit committee. The
SOA authorizes each audit committee to engage independent counsel and other
advisors, and requires a public company to provide the appropriate funding, as
determined by its audit committee, to pay the company's auditors and any
advisors that its audit committee retains. The SOA also requires
public companies to prepare an internal control report and assessment by
management, along with an attestation to this report prepared by the company's
registered public accounting firm, in their annual reports to
stockholders.
Pending
Legislation — Because of concerns relating to competitiveness and the
safety and soundness of the banking industry, Congress often considers a number
of wide-ranging proposals for altering the structure, regulation, and
competitive relationships of the nation’s financial institutions. We cannot
predict whether or in what form any proposals will be adopted or the extent to
which our business may be affected thereby.
ITEM 1A. RISK FACTORS.
An
investment in our common stock is subject to risks inherent to our
business. The material risks and uncertainties that we believe affect
us are described below. See “Forward Looking Statements” under Item 7
of this report for a discussion of other important factors that can affect our
business.
Fluctuations
in interest rates could reduce our profitability and affect the value of our
assets —
Like other financial institutions, we are subject to interest rate
risk. Our primary source of income is net interest income, which is
the difference between interest earned on loans and leases and investments, and
interest paid on deposits and borrowings. We expect that we will
periodically experience imbalances in the interest rate sensitivities of our
assets and liabilities and the relationships of various interest rates to each
other. Over any defined period of time, our interest-earning assets
may be more sensitive to changes in market interest rates than our
interest-bearing liabilities, or vice-versa. In addition, the
individual market interest rates underlying our loan and lease and deposit
products may not change to the same degree over a given time
period. In any event, if market interest rates should move contrary
to our position, earnings may be negatively affected. In addition,
loan and lease volume and quality and deposit volume and mix can be affected by
market interest rates as can the businesses of our clients. Changes
in levels of market interest rates could have a material adverse affect on our
net interest spread, asset quality, origination volume, and overall
profitability.
Market
interest rates are beyond our control, and they fluctuate in response to general
economic conditions and the policies of various governmental and regulatory
agencies, in particular, the Federal Reserve Board. Changes in
monetary policy, including changes in interest rates, may negatively affect our
ability to originate loans and leases, the value of our assets and our ability
to realize gains from the sale of our assets, all of which ultimately could
affect our earnings.
Future
expansion involves risks —
In the future, we may acquire all or part of other financial institutions and we
may establish de novo branch offices. There could be considerable
costs involved in executing our growth strategy. For instance, new
branches generally require a period of time to generate sufficient revenues to
offset their costs, especially in areas in which we do not have an established
presence. Accordingly, any new branch expansion could be expected to
negatively impact earnings for some period of time until the branch reaches
certain economies of scale. Acquisitions and mergers involve a
number of risks, including the risk that:
|
·
|
We
may incur substantial costs identifying and evaluating potential
acquisitions and merger partners, or in evaluating new markets, hiring
experienced local managers, and opening new
offices;
|
|
·
|
Our
estimates and judgments used to evaluate credit, operations, management,
and market risks relating to target institutions may not be
accurate;
|
|
·
|
There
may be substantial lag-time between completing an acquisition or opening a
new office and generating sufficient assets and deposits to support costs
of the expansion;
|
|
·
|
We
may not be able to finance an acquisition, or the financing we obtain may
have an adverse effect on our operating results or dilution of our
existing shareholders;
|
|
·
|
The
attention of our management in negotiating a transaction and integrating
the operations and personnel of the combining businesses may be diverted
from our existing business;
|
|
·
|
Acquisitions
typically involve the payment of a premium over book and market values
and; therefore, some dilution of our tangible book value and net income
per common share may occur in connection with any future
transaction;
|
|
·
|
We
may enter new markets where we lack local
experience;
|
|
·
|
We
may incur goodwill in connection with an acquisition, or the goodwill we
incur may become impaired, which results in adverse short-term effects on
our operating results; or
|
|
·
|
We
may lose key employees and clients.
|
Competition from other
financial services providers could adversely impact our results of
operations — The banking and financial services business is highly
competitive. We face competition in making loans and leases,
attracting deposits and providing insurance, investment, trust, and other
financial services. Increased competition in the banking and
financial services businesses may reduce our market share, impair our growth or
cause the prices we charge for our services to decline. Our results
of operations may be adversely impacted in future periods depending upon the
level and nature of competition we encounter in our various market
areas.
We
are dependent upon the services of our management team —
Our future success and profitability is substantially dependent upon our
management and the banking abilities of our senior executives. We
believe that our future results will also depend in part upon our ability to
attract and retain highly skilled and qualified management. We are
especially dependent on a limited number of key management personnel, many of
whom do not have employment agreements with us. The loss of the chief
executive officer and other senior management and key personnel could have a
material adverse impact on our operations because other officers may not have
the experience and expertise to readily replace these
individuals. Many of these senior officers have primary contact with
our clients and are important in maintaining personalized relationships with our
client base. The unexpected loss of services of one or more of these
key employees could have a material adverse effect on our operations and
possibly result in reduced revenues if we were unable to find suitable
replacements promptly. Competition for senior personnel is intense,
and we may not be successful in attracting and retaining such
personnel. Changes in key personnel and their responsibilities may be
disruptive to our businesses and could have a material adverse effect on our
businesses, financial condition, and results of operations.
Technology
security breaches could expose us to possible liability and damage our
reputation — Any compromise of our security also could deter our clients
from using our internet banking services that involve the transmission of
confidential information. We rely on standard internet security
systems to provide the security and authentication necessary to effect secure
transmission of data. These precautions may not protect our systems
from compromises or breaches of our security measures that could result in
damage to our reputation and business.
We
are subject to credit risks relating to our loan and lease
portfolios —
We have certain lending policies and procedures in place that are designed to
optimize loan and lease income within an acceptable level of
risk. Our management reviews and approves these policies and
procedures on a regular basis. A reporting system supplements the
review process by providing our management with frequent reports related to loan
and lease production, loan quality, concentrations of credit, loan and lease
delinquencies, and nonperforming and potential problem loans and
leases. Diversification in the loan and lease portfolios is a means
of managing risk associated with fluctuations and economic
conditions.
We
maintain an independent loan review department that reviews and validates the
credit risk program on a periodic basis. Results of these reviews are
presented to our management. The loan and lease review process
complements and reinforces the risk identification and assessment decisions made
by lenders and credit personnel, as well as our policies and
procedures.
In the
financial services industry, there is always a risk that certain borrowers may
not repay borrowings. Our reserve for loan and lease losses may not be
sufficient to cover the loan and lease losses that we may actually incur. If we
experience defaults by borrowers in any of our businesses, our earnings could be
negatively affected. Changes in local economic conditions could adversely affect
credit quality, particularly in our local business loan and lease
portfolio. Changes in national economic conditions could also
adversely affect the quality of our loan and lease portfolio and negate, to some
extent, the benefits of national diversification through our Specialty Finance
Group’s portfolio.
Commercial
and commercial real estate loans generally involve higher credit risks than
residential real estate and consumer loans. Because payments on loans secured by
commercial real estate or equipment are often dependent upon the successful
operation and management of the underlying assets, repayment of such loans may
be influenced to a great extent by conditions in the market or the
economy. We seek to minimize these risks through our
underwriting standards. We obtain financial information and perform
credit risk analysis on our customers. Credit criteria may include, but are not
limited to, assessments of income, cash flows, and net worth; asset ownership;
bank and trade credit reference; credit bureau report; and operational
history.
Commercial
real estate or equipment loans are underwritten after evaluating and
understanding the borrower's ability to operate profitably and generate positive
cash flows. Our management examines current and projected cash flows
of the borrower to determine the ability of the borrower to repay their
obligations as agreed. Underwriting standards are designed to promote
relationship banking rather than transactional banking. Most
commercial and industrial loans are secured by the assets being financed or
other business assets; however, some loans may be made on an unsecured
basis. Our credit policy sets different maximum exposure limits
both by business sector and our current and historical relationship and previous
experience with each customer.
We offer
both fixed-rate and adjustable-rate consumer mortgage loans secured by
properties, substantially all of which are located in our primary market area.
Adjustable-rate mortgage loans help reduce our exposure to changes in interest
rates; however, during periods of rising interest rates, the risk of default on
adjustable-rate mortgage loans may increase as a result of repricing and the
increased payments required from the borrower. Additionally, most
residential mortgages are sold into the secondary market and serviced by our
principal banking subsidiary, 1st Source Bank.
Consumer
loans are primarily all other non-real estate loans to individuals in our
regional market area. Consumer loans can entail risk, particularly in
the case of loans that are unsecured or secured by rapidly depreciating assets.
In these cases, any repossessed collateral may not provide an adequate source of
repayment of the outstanding loan balance. The remaining deficiency often does
not warrant further substantial collection efforts against the borrower beyond
obtaining a deficiency judgment. In addition, consumer loan collections are
dependent on the borrower’s continuing financial stability, and thus are more
likely to be adversely affected by job loss, divorce, illness, or personal
bankruptcy.
The 1st
Source Specialty Finance Group loan and lease portfolio consists of commercial
loans and leases secured by construction and transportation equipment, including
aircraft, autos, trucks, and vans. Finance receivables for this Group
generally provide for monthly payments and may include prepayment penalty
provisions.
Our
construction and transportation related businesses could be adversely affected
by slow downs in the economy. Clients who rely on the use of assets financed
through the Specialty Finance Group to produce income could be negatively
affected, and we could experience substantial loan and lease losses. By the
nature of the businesses these clients operate in, we could be adversely
affected by continued rapid increases of fuel costs. Since some of
the relationships in these industries are large (up to $25 million), a slow down
could have a significant adverse impact on our performance.
Our
construction and transportation related businesses could be adversely impacted
by the negative effects caused by high fuel costs, terrorist attacks, potential
attacks, and other destabilizing events. These factors could
contribute to the deterioration of the quality of our loan and lease portfolio,
as they could have a negative impact on the travel sensitive businesses for
which our specialty finance businesses provide financing.
In
addition, our leasing and equipment financing activity is subject to the risk of
cyclical downturns, industry concentration and clumping, and other adverse
economic developments affecting these industries and markets. This area of
lending, with transportation in particular, is dependent upon general economic
conditions and the strength of the travel, construction, and transportation
industries.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None
ITEM 2. PROPERTIES.
Our
headquarters building is located in downtown South Bend. In 1982, the land was
leased from the City of South Bend on a 49-year lease, with a 50-year renewal
option. The building is part of a larger complex, including a 300-room hotel and
a 500-car parking garage. Also, in 1982, we sold the building and entered into a
leaseback agreement with the purchaser for a term of 30 years. The building is a
structure of approximately 160,000 square feet, with 1st Source and our
subsidiaries occupying approximately 70% of the available office space and
approximately 30% subleased to unrelated tenants.
At
December 31, 2007, we also owned property and/or buildings on which 61 of the
1st Source Bank's and First National's 83 banking centers were located,
including the facilities in Allen, Elkhart, Fulton, Huntington, Kosciusko,
LaPorte, Marshall, Porter, St. Joseph, Starke, and Wells Counties in the State
of Indiana and Berrien and Cass Counties in the State of Michigan, as well as an
operations center, training facility, warehouse, and our former headquarters
building, which is utilized for additional business operations. The
Banks lease additional property and/or buildings to and from third parties under
lease agreements negotiated at arms-length.
ITEM 3. LEGAL PROCEEDINGS.
1st Source
and our subsidiaries are involved in various legal proceedings incidental to the
conduct of our businesses. Our management does not expect that the outcome of
any such proceedings will have a material adverse effect on our consolidated
financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS.
None
PART
II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS AND
ISSUER
PURCHASES OF EQUITY SECURITIES.
Our
common stock is traded on the Nasdaq Global Select Market under the symbol
"SRCE." The following table sets forth for each quarter the high and
low sales prices for our common stock, as reported by Nasdaq, and the cash
dividends paid per share for each quarter.
|
2007
Sales Price
|
Cash
Dividends
|
2006
Sales Price
|
Cash
Dividends
|
|||||||||
|
Common
Stock Prices (quarter
ended)
|
High
|
Low
|
Paid
|
High
|
Low
|
Paid
|
||||||
|
March
31
|
$
|
32.62
|
$
|
24.27
|
$
|
.140
|
$
|
27.26
|
$
|
22.64
|
$
|
.127
|
|
June
30
|
27.92
|
23.32
|
.140
|
30.81
|
24.68
|
.127
|
||||||
|
September
30
|
27.00
|
18.41
|
.140
|
31.33
|
28.46
|
.140
|
||||||
|
December
31
|
24.47
|
16.28
|
.140
|
33.46
|
29.08
|
.140
|
||||||
|
As
of December 31, 2007, there were 1,048 holders of record of 1st Source
common stock
|
||||||||||||
COMPARISON
OF FIVE YEAR CUMULATIVE TOTAL RETURN*
Among 1st
Source, Hemscott Market Weighted NASDAQ Index** and Peer Group
Index***
* Assumes
$100 invested on December 31, 2002, in 1st Source Corporation common stock,
Hemscott Market Weighted NASDAQ index, and peer group index.
** The
Hemscott Market Weighted NASDAQ Index Return is calculated using all companies
which trade as NASD Capital Markets, NASD Global Markets or NASD Global Select.
It includes both domestic and foreign companies. The index is weighted by the
then current shares outstanding and assumes dividends reinvested. The return is
calculated on a monthly basis.
*** The
peer group is a market-capitalization-weighted stock index of 61 banking
companies in Indiana, Michigan, Ohio, and Wisconsin.
NOTE: Total
return assumes reinvestment of dividends.
The
following table summarizes our share repurchase activity during the three months
ended December 31, 2007.
|
Total
Number of
|
Maximum
Number (or Approximate
|
||||
|
Shares
Purchased as
|
Dollar
Value) of Shares that
|
||||
|
Total
Number of
|
Average
Price
|
Part
of Publicly Announced
|
may
yet be Purchased Under
|
||
|
Period
|
Shares
Purchased
|
Paid
Per Share
|
Plans
or Programs*
|
the
Plans or Programs
|
|
|
October
01 - 31, 2007
|
4,225
|
$
|
18.55
|
4,225
|
1,524,096
|
|
November
01 - 30, 2007
|
76,648
|
18.73
|
76,648
|
1,447,448
|
|
|
December
01 - 31, 2007
|
-
|
-
|
-
|
1,447,448
|
|
|
*1st
Source maintains a stock repurchase plan that was authorized by the Board
of Directors on April 26, 2007. Under the terms of the plan, 1st Source
may repurchase up to
|
|||||
|
2,000,000
shares of its common stock when favorable conditions exist on the open
market or through private transactions at various prices from time to
time. Since the inception
|
|||||
|
of
the plan, 1st Source has repurchased a total of 552,552
shares.
|
|||||
Federal
laws and regulations contain restrictions on the ability of 1st Source and the
Banks to pay dividends. For information regarding restrictions on
dividends, see Part I, Item 1, Business - Regulation and Supervision - Dividends
and Part II, Item 8, Financial Statements and Supplementary Data - Note R of the
Notes to Consolidated Financial Statements.
ITEM 6. SELECTED FINANCIAL DATA.
The
following selected financial data should be read in conjunction with our
Consolidated Financial Statements and the accompanying notes presented elsewhere
herein.
|
(Dollars
in thousands, except per share amounts)
|
2007 (2)
|
2006
|
2005
|
2004
|
2003
|
|||||||||||||||
| $ | 253,587 | $ | 208,994 | $ | 168,532 | $ | 151,437 | $ | 162,322 | |||||||||||
|
Interest
expense
|
134,677 | 102,561 | 70,104 | 52,749 | 59,070 | |||||||||||||||
|
Net
interest income
|
118,910 | 106,433 | 98,428 | 98,688 | 103,252 | |||||||||||||||
|
Provision
for (recovery of) loan and lease losses
|
7,534 | (2,736 | ) | (5,855 | ) | 229 | 17,361 | |||||||||||||
|
Net
interest income after provision for (recovery of)
|
||||||||||||||||||||
|
loan
and lease losses
|
111,376 | 109,169 | 104,283 | 98,459 | 85,891 | |||||||||||||||
|
Noninterest
income
|
70,619 | 76,585 | 68,533 | 62,733 | 80,196 | |||||||||||||||
|
Noninterest
expense
|
140,312 | 126,211 | 123,439 | 127,091 | 138,904 | |||||||||||||||
|
Income
before income taxes
|
41,683 | 59,543 | 49,377 | 34,101 | 27,183 | |||||||||||||||
|
Income
taxes
|
11,144 | 20,246 | 15,626 | 9,136 | 8,029 | |||||||||||||||
|
Net
income
|
$ | 30,539 | $ | 39,297 | $ | 33,751 | $ | 24,965 | $ | 19,154 | ||||||||||
|
Assets
at year-end
|
$ | 4,447,104 | $ | 3,807,315 | $ | 3,511,277 | $ | 3,563,715 | $ | 3,330,153 | ||||||||||
|
Long-term
debt and mandatorily redeemable
|
||||||||||||||||||||
|
securities
at year-end
|
34,702 | 43,761 | 23,237 | 17,964 | 22,802 | |||||||||||||||
|
Shareholders’
equity at year-end
|
430,504 | 368,904 | 345,576 | 326,600 | 314,691 | |||||||||||||||
|
Basic
net income per common share (1)
|
1.30 | 1.74 | 1.48 | 1.10 | 0.83 | |||||||||||||||
|
Diluted
net income per common share (1)
|
1.28 | 1.72 | 1.46 | 1.08 | 0.82 | |||||||||||||||
|
Cash
dividends per common share (1)
|
.560 | .534 | .445 | .382 | .336 | |||||||||||||||
|
Dividend
payout ratio
|
43.75 | % | 31.05 | % | 30.48 | % | 35.37 | % | 40.98 | % | ||||||||||
|
Return
on average assets
|
0.74 | % | 1.11 | % | 1.00 | % | 0.75 | % | 0.59 | % | ||||||||||
|
Return
on average common equity
|
7.47 | % | 10.98 | % | 10.12 | % | 7.81 | % | 6.12 | % | ||||||||||
|
Average
common equity to average assets
|
9.85 | % | 10.07 | % | 9.89 | % | 9.55 | % | 9.60 | % | ||||||||||
|
(1)
The computation of per common share data gives retroactive recognition to
a 10% stock dividend declared July 27, 2006.
|
||||||||||||||||||||
| (2) Results for 2007 include the acquisition of FINA Bancorp, Inc. Refer to Note C of the Notes to Consolidated Financial Statements for further details. | ||||||||||||||||||||
The
purpose of this analysis is to provide the reader with information relevant to
understanding and assessing our results of operations for each of the past three
years and financial condition for each of the past two years. In order to fully
appreciate this analysis the reader is encouraged to review the consolidated
financial statements and statistical data presented in this
document.
FORWARD-LOOKING
STATEMENTS
This
report, including Management’s Discussion and Analysis of Financial Condition
and Results of Operations, contains forward-looking
statements. Forward-looking statements include statements with
respect to our beliefs, plans, objectives, goals, expectations, anticipations,
assumptions, estimates, intentions, and future performance, and involve known
and unknown risks, uncertainties and other factors, which may be beyond our
control, and which may cause actual results, performance or achievements to be
materially different from future results, performance or achievements expressed
or implied by such forward-looking statements.
All
statements other than statements of historical fact are statements that could be
forward-looking statements. Words such as “believe”, “contemplate”,
“seek”, “estimate”, “plan”, “project”, “anticipate”, “assume”, “expect”,
“intend”, “targeted”, “continue”, “remain”, “will”, “should”, “indicate”,
“would”, “may” and other similar expressions are intended to identify
forward-looking statements but are not the exclusive means of identifying such
statements. Forward-looking statements provide current expectations
or forecasts of future events and are not guarantees of future performance, nor
should they be relied upon as representing management’s views as of any
subsequent date. The forward-looking statements are based on our
expectations and are subject to a number of risks and
uncertainties.
All
written or oral forward-looking statements that are made by or attributable to
us are expressly qualified in their entirety by this cautionary
notice. We have no obligation and do not undertake to update, revise,
or correct any of the forward-looking statements after the date of this report,
or after the respective dates on which such statements otherwise are
made. We have expressed our expectations, beliefs, and projections in
good faith and we believe they have a reasonable basis. However, we
make no assurances that our expectations, beliefs, or projections will be
achieved or accomplished. These forward-looking statements may not be
realized due to a variety of factors, including, without limitation, the
following:
|
·
|
Local,
regional, national, and international economic conditions and the impact
they may have on us and our clients and our assessment of that
impact.
|
|
·
|
Changes
in the level of nonperforming assets and
charge-offs.
|
|
·
|
Changes
in estimates of future cash reserve requirements based upon the periodic
review thereof under relevant regulatory and accounting
requirements.
|
|
·
|
The
effects of and changes in trade and monetary and fiscal policies and laws,
including the interest rate policies of the Federal Reserve
Board.
|
|
·
|
Inflation,
interest rate, securities market, and monetary
fluctuations.
|
|
·
|
Political
instability.
|
|
·
|
Acts
of war or terrorism.
|
|
·
|
Substantial
increases in the cost of fuel.
|
|
·
|
The
timely development and acceptance of new products and services and
perceived overall value of these products and services by
others.
|
|
·
|
Changes
in consumer spending, borrowings, and savings
habits.
|
|
·
|
Changes
in the financial performance and/or condition of our
borrowers.
|
|
·
|
Technological
changes.
|
|
·
|
Acquisitions
and integration of acquired
businesses.
|
|
·
|
The
ability to increase market share and control
expenses.
|
|
·
|
Changes
in the competitive environment among bank holding
companies.
|
|
·
|
The
effect of changes in laws and regulations (including laws and regulations
concerning taxes, banking, securities, and insurance) with which we and
our subsidiaries must comply.
|
|
·
|
The
effect of changes in accounting policies and practices and auditing
requirements, as may be adopted by the regulatory agencies, as well as the
Public Company Accounting Oversight Board, the Financial Accounting
Standards Board, and other accounting standard
setters.
|
|
·
|
Changes
in our organization, compensation, and benefit
plans.
|
|
·
|
The
costs and effects of legal and regulatory developments including the
resolution of legal proceedings or regulatory or other governmental
inquires and the results of regulatory examinations or
reviews.
|
|
·
|
Greater
than expected costs or difficulties related to the integration of new
products and lines of business.
|
|
·
|
Our
success at managing the risks described in Item 1A. Risk
Factors.
|
CRITICAL ACCOUNTING
POLICIES
Our
consolidated financial statements are prepared in accordance with U. S.
generally accepted accounting principles and follow general practices within the
industries in which we operate. Application of these principles requires our
management to make estimates or judgments that affect the amounts reported in
the financial statements and accompanying notes. These estimates or judgments
reflect our management’s view of the most appropriate manner in which to record
and report our overall financial performance. Because these estimates or
judgments are based on current circumstances, they may change over time or prove
to be inaccurate based on actual experience. As such, changes in these
estimates, judgments, and/or assumptions may have a significant impact on our
financial statements. All accounting policies are important, and all policies
described in Part II, Item 8, Financial Statements and Supplementary Data, Note
A (Note A), should be reviewed for a greater understanding of how our financial
performance is recorded and reported.
We have
identified three policies as being critical because they require our management
to make particularly difficult, subjective, and/or complex estimates or
judgments about matters that are inherently uncertain and because of the
likelihood that materially different amounts would be reported under different
conditions or using different assumptions. These policies relate to the
determination of the reserve for loan and lease losses, the valuation of
mortgage servicing rights, and the valuation of securities. Our management has
used the best information available to make the estimations or judgments
necessary to value the related assets and liabilities. Actual performance that
differs from estimates or judgments and future changes in the key variables
could change future valuations and impact net income. Our management has
reviewed the application of these policies with the Audit Committee of the Board
of Directors. A brief discussion of our critical accounting policies appears
below.
Reserve for Loan and Lease Losses — The reserve
for loan and lease losses represents our management’s estimate of probable
losses inherent in the loan and lease portfolio and the establishment of a
reserve that is sufficient to absorb those losses. In determining an
adequate reserve, our management makes numerous judgments, assumptions, and
estimates based on continuous review of the loan and lease portfolio, estimates
of future client performance, collateral values, and disposition, as well as
historical loss rates and expected cash flows. In assessing these factors, our
management benefits from a lengthy organizational history and experience with
credit decisions and related outcomes. Nonetheless, if our management’s
underlying assumptions prove to be inaccurate, the reserve for loan and lease
losses would have to be adjusted. Our accounting policy related to the reserve
is disclosed in Note A under the heading "Reserve for Loan and Lease
Losses."
Mortgage Servicing Rights Valuation — We
recognize as assets the rights to service mortgage loans for others, known as
mortgage servicing rights whether the servicing rights are acquired through
purchases or through originated loans. Mortgage servicing rights do not trade in
an active open market with readily observable market prices. Although sales of
mortgage servicing rights do occur, the precise terms and conditions may not be
readily available. As such, the value of mortgage servicing assets are
established and valued using discounted cash flow modeling techniques which
require management to make estimates regarding estimated future net servicing
cash flows, taking into consideration actual and expected mortgage loan
prepayment rates, discount rates, servicing costs, and other economic factors.
The expected rates of mortgage loan prepayments is the most significant
factor driving the value of mortgage servicing assets. Increases in mortgage
loan prepayments reduce estimated future net servicing cash flows because the
life of the underlying loan is reduced. In determining the fair value of the
mortgage servicing assets, mortgage interest rates (which are used to determine
prepayment rates), and discount rates are held constant over the estimated life
of the portfolio. Expected mortgage loan prepayment rates are derived from a
third-party model and adjusted to reflect our actual prepayment experience.
Mortgage servicing assets are carried at the lower of the initial capitalized
amount, net of accumulated amortization or fair value. The values of these
assets are sensitive to changes in the assumptions used and readily available
market pricing does not exist. The valuation of mortgage servicing assets is
discussed further in Note A under the heading "Mortgage Banking
Activities."
Valuation of Securities — Our
available-for-sale security portfolio is reported at fair value. The
fair value of a security is determined based on quoted market
prices. If quoted market prices are not available, fair value is
determined based on quoted prices of similar
instruments. Available-for-sale and held-to-maturity securities are
reviewed quarterly for possible other-than-temporary impairment. The
review includes an analysis of the facts and circumstances of each individual
investment such as length of time the fair value has been below cost, the
expectation for that security's performance, the credit worthiness of the
issuer, and our intent and ability to hold the security for a time necessary to
recover the amortized cost. A decline in value that is considered to
be other-than-temporary is recorded as investment securities and other
investment losses in the Consolidated Statements of Income. The
valuation of securities is discussed further in Note A under the heading
"Securities."
EARNINGS
SUMMARY
Net
income in 2007 was $30.54 million, down from $39.30 million in 2006 and from
$33.75 million in 2005. We declared a 10% stock dividend on July 27, 2006;
therefore, all share and per share information has been adjusted
accordingly. Diluted net income per common share was $1.28 in 2007,
$1.72 in 2006, and $1.46 in 2005. Return on average total assets was
0.74% in 2007 compared to 1.11% in 2006, and 1.00% in 2005. Return on
average common shareholders' equity was 7.47% in 2007 versus 10.98% in 2006, and
10.12% in 2005.
Net
income in 2007 was favorably affected by an 11.72% increase in net interest
income over 2006. However, this increase was more than offset by an
increase in the provision for loan and lease losses, decreased mortgage banking
income, investment securities impairment and increased noninterest
expenses. Net income in 2006 was favorably affected by a strong
increase in noninterest income that was primarily related to solid progress in
growing our leased equipment portfolio during the year and positive market
valuation adjustments related to our investments in venture
partnerships. In addition, net interest income improved 8.13% for
2006 over 2005. The improvement in net interest income was driven
primarily by an increase in average earning assets; however, the higher cost of
deposits greatly offset the increase in average earning
assets. Noninterest expense increased moderately in 2006 as compared
to 2005
Dividends
paid on common stock in 2007 amounted to $0.560 per share, compared to $0.534
per share in 2006, and $0.445 per share in 2005. The level of
earnings reinvested and dividend payouts are based on management’s assessment of
future growth opportunities and the level of capital necessary to support
them.
Acquisition of First National Bank, Valparaiso
- On May 31, 2007, we acquired FINA Bancorp (FINA), the parent company of
First National Bank, Valparaiso for $134.19 million. First National
is a full service bank with 16 banking facilities, as of December 31, 2007,
located in Porter and LaPorte Counties of Indiana. Pursuant to the
definitive agreement, FINA shareholders were able to choose whether to receive
1st Source common stock and/or cash pursuant to the election procedures
described in the definitive agreement. Under the terms of the
transaction, FINA was acquired in exchange for 2,124,974 shares of 1st Source
common stock valued at $53.68 million and $80.51 million in cash. The
value of the common stock was $25.26 per share. We believe that the
purchase of FINA is a natural extension of our service area and is consistent
with our growth and market expansion initiatives.
Upgrade of Core Systems — During 2007, we
upgraded a majority of our core and ancillary data processing
systems. Numerous internal teams were formed to manage the
installation and conversion of data and various systems. The core
technology includes a loan system, deposit system, general ledger system, and
customer information file system. Additionally, ATM networks, a voice
response unit (VRU) system, and document imaging systems were
installed. Total 2007 expenses for this upgrade were $2.71
million. We continue to work on increasing the effectiveness and
efficiency of our operations since the completion of the core system
upgrade.
Net Interest Income — Our primary source of
earnings is net interest income, the difference between income on earning assets
and the cost of funds supporting those assets. Significant categories
of earning assets are loans and securities while deposits and borrowings
represent the major portion of interest-bearing liabilities. For
purposes of the following discussion, comparison of net interest income is done
on a tax equivalent basis, which provides a common basis for comparing yields on
earning assets exempt from federal income taxes to those which are fully
taxable.
Net
interest margin (the ratio of net interest income to average earning assets) is
affected by movements in interest rates and changes in the mix of earning assets
and the liabilities that fund those assets. Net interest margin on a fully
taxable equivalent basis was 3.18% in 2007 compared to 3.29% in 2006, and 3.21%
in 2005. The lower margin in 2007 reflects higher funding costs,
narrower spreads on loans, and lower levels of demand deposits.
Net
interest income was $118.91 million for 2007, compared to $106.43 million for
2006. Tax-equivalent net interest income totaled $122.53 million for
2007, an increase of $13.55 million from the $108.98 million reported for
2006. The $13.55 million increase is due to increased volume of
earning assets.
During
2007, average earning assets increased $537.63 million while average
interest-bearing liabilities increased $534.67 million over the comparable
period. The yield on average earning assets increased 30 basis points
to 6.68% for 2007 from 6.38% for 2006. The rate earned on assets was
positively impacted by a change in the mix of earning assets, with a 16.61%
increase in average loans outstanding. Total cost of average
interest-bearing liabilities increased 37 basis points during 2007 as
liabilities continued to reprice to current market rates. The result
was a decrease of seven basis points to net interest spread, or the difference
between interest income on earning assets and expense on interest-bearing
liabilities.
The
largest contributor to the increase in the yield on average earning assets in
2007, on a volume-weighted basis, was the $426.32 million increase in net loans
and leases. The acquisition of First National accounted for $143.59
million of this increase. The loan and lease portfolio contributed
approximately $36.60 million to the change in interest income, while the
portfolio's average yield increased 24 basis points from the prior year to
7.18%.
During
2007, the tax-equivalent yield on securities available for sale increased 65
basis points to 4.88% while the average balance increased $105.68
million. The majority of the increase in the portfolio was due to the
acquisition of First National.
Average
interest-bearing deposits increased $500.41 million during 2007 while the
effective rate paid on those deposits increased 42 basis points. The
increase in the average cost of interest-bearing deposits was primarily the
result of the acquisition of First National and the timing of deposit product
rate repricing and increased competition for deposits across all
markets. Average demand deposits decreased $1.15 million during
2007.
Average
short-term borrowings increased $5.55 million during 2007; however, the
effective rate paid decreased 11 basis points. Average subordinated
notes which represent our trust preferred borrowings increased $23.39 million
during 2007, to fund our acquisition of First National, while the effective rate
increased two basis points. Average long-term debt increased $5.31
million during 2007 as the effective rate increased 25 basis
points.
The
following table provides an analysis of net interest income and illustrates
interest income earned and interest expense charged for each major component of
interest earning assets and the interest bearing
liabilities. Yields/rates are computed on a tax-equivalent basis,
using a 35% rate. Nonaccrual loans and leases are included in the
average loan and lease balance outstanding.
|
2007
|
2006
|
2005
|
||||||||||||||||||||||||||||||||||
|
Interest
|
Interest
|
Interest
|
||||||||||||||||||||||||||||||||||
|
Average
|
Income/
|
Yield/
|
Average
|
Income/
|
Yield/
|
Average
|
Income/
|
Yield/
|
||||||||||||||||||||||||||||
|
(Dollars
in thousands)
|
Balance
|
Expense
|
Rate
|
Balance
|
Expense
|
Rate
|
Balance
|
Expense
|
Rate
|
|||||||||||||||||||||||||||
|
ASSETS
|
||||||||||||||||||||||||||||||||||||
|
Investment
securities:
|
||||||||||||||||||||||||||||||||||||
|
Taxable
|
$ | 523,931 | $ | 25,770 | 4.92 | % | $ | 470,447 | $ | 19,816 | 4.21 | % | $ | 515,992 | $ | 14,777 | 2.86 | % | ||||||||||||||||||
|
Tax-exempt
|
225,849 | 10,800 | 4.78 | 173,652 | 7,416 | 4.27 | 186,614 | 7,682 | 4.12 | |||||||||||||||||||||||||||
|
Mortgages
held for sale
|
28,913 | 1,892 | 6.54 | 53,034 | 3,549 | 6.69 | 82,174 | 4,779 | 5.82 | |||||||||||||||||||||||||||
|
Net
loans and leases
|
2,992,540 | 214,725 | 7.18 | 2,566,217 | 178,125 | 6.94 | 2,348,690 | 143,295 | 6.10 | |||||||||||||||||||||||||||
|
Other
investments
|
81,496 | 4,023 | 4.94 | 51,754 | 2632 | 5.09 | 18,765 | 666 | 3.55 | |||||||||||||||||||||||||||
|
Total
earning assets
|
3,852,729 | 257,210 | 6.68 | 3,315,104 | 211,538 | 6.38 | 3,152,235 | 171,199 | 5.43 | |||||||||||||||||||||||||||
|
Cash
and due from banks
|
82,451 | 78,365 | 84,517 | |||||||||||||||||||||||||||||||||
|
Reserve
for loan and
|
||||||||||||||||||||||||||||||||||||
|
lease
losses
|
(61,555 | ) | (59,082 | ) | (61,072 | ) | ||||||||||||||||||||||||||||||
|
Other
assets
|
277,684 | 217,914 | 197,457 | |||||||||||||||||||||||||||||||||
|
Total
assets
|
$ | 4,151,309 | $ | 3,552,301 | $ | 3,373,137 | ||||||||||||||||||||||||||||||
|
LIABILITIES
AND
|
||||||||||||||||||||||||||||||||||||
|
SHAREHOLDERS’
EQUITY
|
||||||||||||||||||||||||||||||||||||
|
Interest
bearing deposits
|
$ | 2,918,756 | $ | 115,113 | 3.94 | % | $ | 2,418,344 | $ | 85,067 | 3.52 | % | $ | 2,217,923 | $ | 56,341 | 2.54 | % | ||||||||||||||||||
|
Short-term
borrowings
|
271,377 | 10,935 | 4.03 | 265,824 | 11,011 | 4.14 | 295,271 | 8,628 | 2.92 | |||||||||||||||||||||||||||
|
Subordinated
notes
|
82,414 | 6,051 | 7.34 | 59,022 | 4,320 | 7.32 | 59,022 | 4,008 | 6.79 | |||||||||||||||||||||||||||
|
Long-term
debt and
|
||||||||||||||||||||||||||||||||||||
|
mandatorily
redeemable
|
||||||||||||||||||||||||||||||||||||
|
securities
|
42,265 | 2,578 | 6.10 | 36,952 | 2,163 | 5.85 | 18,270 | 1,127 | 6.17 | |||||||||||||||||||||||||||
|
Total
interest bearing liabilities
|
3,314,812 | 134,677 | 4.06 | 2,780,142 | 102,561 | 3.69 | 2,590,486 | 70,104 | 2.71 | |||||||||||||||||||||||||||
|
Noninterest
bearing deposits
|
351,050 | 352,204 | 392,475 | |||||||||||||||||||||||||||||||||
|
Other
liabilities
|
76,472 | 62,196 | 56,553 | |||||||||||||||||||||||||||||||||
|
Shareholders'
equity
|
408,975 | 357,759 | 333,623 | |||||||||||||||||||||||||||||||||
|
Total
liabilities and
|
||||||||||||||||||||||||||||||||||||
|
shareholders’
equity
|
$ | 4,151,309 | $ | 3,552,301 | $ | 3,373,137 | ||||||||||||||||||||||||||||||
|
Net
interest income
|
$ | 122,533 | $ | 108,977 | $ | 101,095 | ||||||||||||||||||||||||||||||
|
Net
interest margin on a tax
|
||||||||||||||||||||||||||||||||||||
|
equivalent
basis
|
3.18 | % | 3.29 | % | 3.21 | % | ||||||||||||||||||||||||||||||
The
change in interest due to both rate and volume has been allocated to volume and
rate changes in proportion to the relationship of the absolute dollar amounts of
the change in each. The following table shows changes in tax
equivalent interest earned and interest paid, resulting from changes in volume
and changes in rates:
|
Increase
(Decrease) due to
|
||||||||||||
|
(Dollars
in thousands)
|
Volume
|
Rate
|
Net
|
|||||||||
|
2007
compared to 2006
|
||||||||||||
|
Interest
earned on:
|
||||||||||||
|
Investment
securities:
|
||||||||||||
|
Taxable
|
$ | 2,386 | $ | 3,568 | $ | 5,954 | ||||||
|
Tax-exempt
|
2,422 | 962 | 3,384 | |||||||||
|
Mortgages
held for sale
|
(1,579 | ) | (78 | ) | (1,657 | ) | ||||||
|
Net
loans and leases
|
30,264 | 6,336 | 36,600 | |||||||||
|
Other
investments
|
1,467 | (76 | ) | 1,391 | ||||||||
|
Total
earning assets
|
$ | 34,960 | $ | 10,712 | $ | 45,672 | ||||||
|
Interest
paid on:
|
||||||||||||
|
Interest
bearing deposits
|
$ | 19,125 | $ | 10,921 | $ | 30,046 | ||||||
|
Short-term
borrowings
|
241 | (317 | ) | (76 | ) | |||||||
|
Subordinated
notes
|
1,719 | 12 | 1,731 | |||||||||
|
Long-term
debt and mandatorily redeemable securities
|
320 | 95 | 415 | |||||||||
|
Total
interest bearing liabilities
|
$ | 21,405 | $ | 10,711 | $ | 32,116 | ||||||
|
Net
interest income
|
$ | 13,555 | $ | 1 | $ | 13,556 | ||||||
|
2006
compared to 2005
|
||||||||||||
|
Interest
earned on:
|
||||||||||||
|
Investment
securities:
|
||||||||||||
|
Taxable
|
$ | (1,169 | ) | $ | 6,208 | $ | 5,039 | |||||
|
Tax-exempt
|
(568 | ) | 302 | (266 | ) | |||||||
|
Mortgages
held for sale
|
(2,143 | ) | 913 | (1,230 | ) | |||||||
|
Net
loans and leases
|
14,009 | 20,821 | 34,830 | |||||||||
|
Other
investments
|
1,576 | 390 | 1,966 | |||||||||
|
Total
earning assets
|
$ | 11,705 | $ | 28,634 | $ | 40,339 | ||||||
|
Interest
paid on:
|
||||||||||||
|
Interest
bearing deposits
|
$ | 5,395 | $ | 23,331 | $ | 28,726 | ||||||
|
Short-term
borrowings
|
(747 | ) | 3,130 | 2,383 | ||||||||
|
Subordinated
notes
|
- | 312 | 312 | |||||||||
|
Long-term
debt and mandatorily redeemable securities
|
1,091 | (55 | ) | 1,036 | ||||||||
|
Total
interest bearing liabilities
|
$ | 5,739 | $ | 26,718 | $ | 32,457 | ||||||
|
Net
interest income
|
$ | 5,966 | $ | 1,916 | $ | 7,882 | ||||||
Noninterest Income — Noninterest income
decreased 7.79% in 2007 from 2006 following an 11.75%
increase in 2006 over 2005. Noninterest income for the most
recent three years ended December 31 was as follows:
|
(Dollars
in thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Noninterest
income:
|
||||||||||||
|
Trust
fees
|
$ | 15,567 | $ | 13,806 | $ | 12,877 | ||||||
|
Service
charges on deposit accounts
|
20,470 | 19,040 | 17,775 | |||||||||
|
Mortgage
banking income
|
2,868 | 11,637 | 10,868 | |||||||||
|
Insurance
commissions
|
4,666 | 4,574 | 4,133 | |||||||||
|
Equipment
rental income
|
21,312 | 18,972 | 16,067 | |||||||||
|
Other
income
|
8,864 | 6,554 | 6,463 | |||||||||
|
Investment
securities and other investment (losses) gains
|
(3,128 | ) | 2,002 | 350 | ||||||||
|
Total
noninterest income
|
$ | 70,619 | $ | 76,585 | $ | 68,533 | ||||||
Trust
fees (which includes investment management fees, estate administration fees,
mutual fund fees, annuity fees, and fiduciary fees) increased by 12.76% in 2007
from 2006 compared to an increase of 7.21% in 2006 over 2005. Trust fees are
largely based on the size of client relationships and the market value and mix
of assets under management. The market value of trust assets under
management at December 31, 2007 and 2006, was $3.05 billion and $2.98 billion,
respectively. At December 31, 2007, these trust assets were comprised
of $1.66 billion of personal and agency trusts, $0.84 billion of employee
benefit plan assets, $386.34 million of estate administration assets, and
$168.31 million of custody assets. Growth in trust fees was mainly
attributed to an increase in assets under management coupled with a stronger
stock and bond market in 2007.
Service
charges on deposit accounts increased 7.51% in 2007 from 2006 compared to an
increase of 7.12% in 2006 from 2005. The growth in service charges on
deposit accounts reflects growth in the number of deposit accounts and a higher
volume of fee generating transactions, primarily overdrafts, debit card and
nonsufficient funds transactions.
Mortgage
banking income decreased 75.35% in 2007 over 2006, compared to an increase of
7.08% in 2006 from 2005. The decrease in 2007 was primarily due to a
decline in production volume, non-recurring 2006 gains on the sale of mortgage
servicing rights and a decline in loan servicing fee income. In 2006,
we recognized $4.75 million in pre-tax gains on bulk sales of mortgage servicing
rights related to both governmental and conventional loans that occurred during
the second and third quarters. During 2007 and 2006, we determined
that no permanent write-down was necessary for previously recorded impairment on
mortgage servicing assets.
Insurance
commissions were up 2.01% in 2007 from 2006 compared to an increase of 10.67% in
2006 from 2005. The increase for 2007 was mainly attributed to an acquisition of
an insurance agency in the Fort Wayne area. The increase for 2006 was
mainly attributed to higher contingent commissions.
Equipment
rental income generated from operating leases grew by 12.33% during 2007 from
2006 compared to an increase of 18.08% in 2006 from 2005. Revenues
from operating leases for construction equipment, various trucks, and other
equipment increased as clients responded positively to our strong marketing
efforts and entered into new lease agreements over the course of 2007 and
2006.
Investment
securities and other investment losses totaled $3.13 million for the year ended
2007 compared to gains of $2.00 million for the year ended 2006. In
2007, we took $4.11 million in impairment charges on investments in the Federal
National Mortgage Association (FNMA) and the Federal Home Loan Mortgage
Corporation (FHLMC) preferred stock. Late 2007 capital restructuring
at the FNMA and the FHLMC and the impact of developments in the residential
mortgage business resulted in impairment of these securities. Due to
the uncertainty of future market conditions and how they might impact the
financial performance of the FNMA and the FHLMC, we were unable to determine
when or if this impairment will be recovered. Favorable market
valuation adjustments on our venture partnership investments during 2006 were
the main factor contributing to the 2006 gains. In 2005, investment
securities and other investment gains totaled $0.35 million as the result of
gains on venture capital investments that were partially offset by
other-than-temporary impairment of $0.61 million.
Other
income increased 35.25% in 2007 from 2006 after remaining relatively unchanged
in 2006 as compared to 2005. The increase in 2007 was primarily due
to increases in interest rate swap fee income, credit card merchant fees, and
income on bank owned life insurance policies.
Noninterest Expense — Noninterest expense
increased 11.17% in 2007 over 2006 following a 2.25% increase
in 2006 from 2005. Noninterest expense for the recent three
years ended December 31 was as follows:
|
(Dollars
in thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Noninterest
expense:
|
||||||||||||
|
Salaries
and employee benefits
|
$ | 73,944 | $ | 66,605 | $ | 69,767 | ||||||
|
Net
occupancy expense
|
9,030 | 7,492 | 7,749 | |||||||||
|
Furniture
and equipment expense
|
15,145 | 12,316 | 11,418 | |||||||||
|
Depreciation
— leased equipment
|
17,085 | 14,958 | 12,895 | |||||||||
|
Professional
fees
|
4,575 | 3,998 | 3,362 | |||||||||
|
Supplies
and communications
|
5,987 | 5,496 | 5,462 | |||||||||
|
Business
development and marketing expense
|
4,788 | 4,008 | 3,630 | |||||||||
|
Intangible
asset amortization
|
874 | 1,910 | 2,663 | |||||||||
|
Loan
and lease collection and repossession expense (income)
|
1,123 | 704 | (1,094 | ) | ||||||||
|
Other
expense
|
7,761 | 8,724 | 7,587 | |||||||||
|
Total
noninterest expense
|
$ | 140,312 | $ | 126,211 | $ | 123,439 | ||||||
Total
salaries and employee benefits increased 11.02% in 2007 from 2006, following a
4.53% decrease in 2006 from 2005.
Employee
salaries increased 13.25% in 2007 from 2006 compared to a decrease of 5.56% in
2006 from 2005. The increase in 2007 is mainly attributable to a
larger work force following the acquisition of First National and lower 2006
salaries due to the first quarter 2006 reversal of previously recognized
stock-based compensation expense under historical accounting methods related to
the estimated forfeiture of stock awards. This one-time expense
reversal, combined with the adoption of Statement of Financial Accounting
Standards No. 123(R), Share-based Payment, (SFAS
No. 123(R)) estimated forfeiture accounting requirements, resulted in a
reduction in stock-based compensation of $2.07 million, pre-tax, for the 2006
year.
Employee
benefits remained relatively stable in 2007 and 2006. We were able to
contain employee benefit costs during 2007 and 2006 by maintaining our group
insurance costs close to 2005 levels.
Occupancy
expense increased 20.53% in 2007 from 2006, compared to a 3.32% decrease in 2006
from 2005. The increase in 2007 was primarily due to the increase in
number of locations following the acquisition of First National. The
decrease in 2006 was primarily driven by lower depreciation expense than that
experienced in 2005.
Furniture
and equipment expense, including depreciation, increased in 2007 over 2006 by
22.97%, compared to a 7.86% increase in 2006 from 2005. Higher
software costs which were mostly related to implementation of upgrades to our
core accounting and management systems, and higher debit card transaction
expense were the significant factors contributing to the increased costs in 2007
and in 2006.
Depreciation
on equipment owned under operating leases increased 14.22% in 2007 from 2006,
following a 16.00% increase in 2006 from 2005. In 2007 and in 2006,
depreciation on equipment owned under operating leases increased in conjunction
with the increase in equipment rental income as some of our clients opted to
enter into new lease arrangements rather than purchase equipment.
Professional
fees increased 14.43% in 2007 from 2006, compared to an 18.92% increase in 2006
from 2005. The majority of the increase in 2007 was due to higher
consulting fees paid in conjunction with our core system upgrade. The
majority of the increase in 2006 was due to higher legal fees and audit and
examination fees which were mainly incurred in the normal course of
business.
Supplies
and communications expense increase 8.93% in 2007 from 2006 after remaining
relatively unchanged in 2006 as compared to 2005. The increase in
2007 was due to increased telephone and data line expense and increased freight
expense.
Business
development and marketing expense increased 19.46% in 2007 from 2006 compared to
a 10.41% increase in 2006 from 2005. The increase in 2007 was mainly
due to strong marketing across our entire footprint area. The increase in
2006 was mainly due to robust marketing related to the opening of new branches
and expansion of our business into the Kalamazoo area.
Intangible
asset amortization decreased 54.24% in 2007 from 2006 compared to a 28.28%
decrease in 2006 from 2005. The decrease in intangible asset
amortization for 2007 and 2006 was primarily due to the effects of the complete
amortization of assets associated with acquisitions which occurred during
2001.
Loan and
lease collection and repossession expenses increased 59.52% in 2007 from 2006
compared to a 164.35% in 2006 from 2005. The increase in 2007 was
mainly due to increased collection and repossession activity. The
increase in 2006 was mainly due to lower gains than in 2005 on the disposition
of repossessed assets as we continued to dispose of our inventory of repossessed
assets.
Other
expenses decreased 11.04% in 2007 as compared to 2006 following an increase of
14.99% in 2006 from 2005. 2006 other expenses were higher largely due
to losses related to an employee defalcation and expenses related to employee
training and education and relocation.
Income Taxes — 1st Source recognized income tax
expense in 2007 of $11.14 million, compared to $20.25 million in 2006, and
$15.63 million in 2005. The effective tax rate in 2007 was 26.74% compared to
34.00% in 2006, and 31.65% in 2005. The effective tax rate decreased
in 2007 due to an increase in tax-exempt interest in relation to taxable
income. For detailed analysis of 1st Source’s income taxes see Part
II, Item 8, Financial Statements and Supplementary Data — Note O of the Notes to
Consolidated Financial Statements.
FINANCIAL
CONDITION
Loan and Lease Portfolio — The following table
shows 1st Source’s loan and lease distribution at the end of each of the last
five years as of December 31:
|
(Dollars
in thousands)
|
2007
|
2006
|
2005
|
2004
|
2003
|
|||||||||||||||
|
Commercial
and agricultural loans
|
$ | 593,806 | $ | 478,310 | $ | 453,197 | $ | 425,018 | $ | 402,905 | ||||||||||
|
Auto,
light truck and environmental equipment
|
305,238 | 317,604 | 310,786 | 263,637 | 269,490 | |||||||||||||||
|
Medium
and heavy duty truck
|
300,469 | 341,744 | 302,137 | 267,834 | 221,562 | |||||||||||||||
|
Aircraft
financing
|
587,022 | 498,914 | 459,645 | 444,481 | 489,155 | |||||||||||||||
|
Construction
equipment financing
|
377,785 | 305,976 | 224,230 | 196,516 | 219,562 | |||||||||||||||
|
Loans
secured by real estate
|
881,646 | 632,283 | 601,077 | 583,437 | 533,749 | |||||||||||||||
|
Consumer
loans
|
145,475 | 127,706 | 112,359 | 99,245 | 94,577 | |||||||||||||||
|
Total
loans and leases
|
$ | 3,191,441 | $ | 2,702,537 | $ | 2,463,431 | $ | 2,280,168 | $ | 2,231,000 | ||||||||||
At
December 31, 2007, 13.6% and 12.4% of total loans and leases were concentrated
with borrowers in trucking and truck leasing and construction end users,
respectively.
Average
loans and leases, net of unearned discount, increased 16.61% and 9.26% in 2007
and 2006, respectively. Loans and leases, net of unearned discount,
at December 31, 2007, were $3.19 billion and were 71.76% of total assets,
compared to $2.70 billion and 70.98% of total assets at December 31,
2006.
Commercial
and agricultural lending, excluding those loans secured by real estate,
increased 24.15% in 2007 over 2006. Commercial and agricultural
lending outstandings were $593.81 million and $478.31 million at December 31,
2007 and December 31, 2006, respectively. This increase was mainly
due to increased sales activity within the commercial loan and small business
loan areas coupled with stable market conditions and market
expansion. The acquisition of First National accounted for $39.19
million of the 2007 increase.
Loans
secured by real estate increased 39.44% during 2007 over 2006. Loans
secured by real estate outstanding at December 31, 2007, were $881.65 million
and $632.28 million at December 31, 2006. Loans on commercial real
estate, the majority of which is owner occupied, were $530.45 million at
December 31, 2007 and $412.52 million at December 31, 2006. The acquisition of
First National accounted for $56.55 million of the increase at December 31,
2007. The remainder of the increase was mostly due to business
clients' continued investment in real estate for expansion or relocation of
their commercial facilities. Residential mortgage lending was $351.20 million at
December 31, 2007 and $219.76 million at December 31, 2006. The
acquisition of First National accounted for the majority of this increase with
$124.23 million outstanding at December 31, 2007.
Auto,
light truck, and environmental equipment financing decreased 3.89% in 2007 over
2006. At December 31, 2007, auto, light truck, and environmental equipment
financing had outstandings of $305.24 million and $317.60 million at December
31, 2006. Environmental equipment financing remained flat in 2007.
Auto and light truck financing decreased 6.14% at December 31, 2007 compared to
December 31, 2006, mainly due to our customers reducing their fleet size in an
effort to improve their operating efficiencies.
Medium
and heavy duty truck loans and leases decreased 12.08%, in 2007. Medium and
heavy duty truck financing at December 31, 2007 and 2006, had outstandings of
$300.47 million and $341.74 million, respectively. Most of the
decrease at December 31, 2007 from December 31, 2006 can be attributed to
clients' making proactive decisions to contain their future costs by completing
purchases of 2007 new tractor needs in 2006. Most of our clients were
affected by a new regulatory standard which mandated that, effective January 1,
2007, all Class 8 diesel trucks produced have emission compliant
engines. This requirement increased the cost of each vehicle
approximately $6,000 to $9,000.
Aircraft
financing at year-end 2007 increased 17.66% from year-end
2006. Aircraft financing at December 31, 2007 and 2006, had
outstandings of $587.02 million and $498.91 million,
respectively. The increase in 2007 was primarily due to focused sales
efforts and an improvement in the general aviation industry.
Construction
equipment financing increased 23.47% in 2007 over
2006. Construction equipment financing at December 31, 2007,
had outstandings of $377.79 million, compared to outstandings of $305.98 million
at December 31, 2006. The increase at December 31, 2007 from December
31, 2006 was mainly the result of continued strong commercial, industrial, and
non-residential building industries, as well as, substantial Federal, state and
local funding for roads, bridges, and general transportation projects upon which
our client base relies for business.
Consumer
loans increased 13.91% in 2007 over 2006. Consumer loans outstanding
at December 31, 2007, were $145.48 million and $127.71 million at December 31,
2006. The acquisition of First National accounted for this increase
with $18.83 million outstanding at December 31, 2007.
The
following table shows the maturities of loans and leases in the categories of
commercial and agriculture, auto, light truck and environmental equipment,
medium and heavy duty truck, aircraft and construction equipment outstanding as
of December 31, 2007. The amounts due after one year are also
classified according to the sensitivity to changes in interest
rates.
|
(Dollars
in thousands)
|
0-1
Year
|
1-5
Years
|
Over
5 Years
|
Total
|
||||||||||||
|
Commercial
and agricultural loans
|
$ | 277,126 | $ | 249,128 | $ | 67,552 | $ | 593,806 | ||||||||
|
Auto,
light truck and environmental equipment
|
129,508 | 168,693 | 7,037 | 305,238 | ||||||||||||
|
Medium
and heavy duty truck
|
93,083 | 201,915 | 5,471 | 300,469 | ||||||||||||
|
Aircraft
financing
|
180,267 | 376,374 | 30,381 | 587,022 | ||||||||||||
|
Construction
equipment financing
|
106,818 | 266,966 | 4,001 | 377,785 | ||||||||||||
|
Total
|
$ | 786,802 | $ | 1,263,076 | $ | 114,442 | $ | 2,164,320 | ||||||||
|
Rate
Sensitivity (Dollars in
thousands)
|
Fixed
Rate
|
Variable
Rate
|
Total
|
|||||||||
|
1 –
5 Years
|
$ | 888,902 | $ | 374,174 | $ | 1,263,076 | ||||||
|
Over
5 Years
|
23,593 | 90,849 | 114,442 | |||||||||
|
Total
|
$ | 912,495 | $ | 465,023 | $ | 1,377,518 | ||||||
Most of
the Bank's residential mortgages are sold into the secondary
market. Mortgage loans held for sale were $25.92 million at December
31, 2007 and were $50.16 million at December 31, 2006.
CREDIT
EXPERIENCE
Reserve for Loan and Lease Losses — Our reserve
for loan and lease losses is provided for by direct charges to operations.
Losses on loans and leases are charged against the reserve and likewise,
recoveries during the period for prior losses are credited to the reserve. Our
management evaluates the adequacy of the reserve quarterly, reviewing all loans
and leases over a fixed-dollar amount ($100,000) where the internal credit
rating is at or below a predetermined classification, actual and anticipated
loss experience, current economic events in specific industries, and other
pertinent factors including general economic conditions. Determination of the
reserve is inherently subjective as it requires significant estimates, including
the amounts and timing of expected future cash flows or fair value of collateral
on collateral-dependent impaired loans and leases, estimated losses on pools of
homogeneous loans and leases based on historical loss experience, and
consideration of economic trends, all of which may be susceptible to significant
and unforeseen changes. We review the status of the loan and lease portfolio to
identify borrowers that might develop financial problems in order to aid
borrowers in the handling of their accounts and to mitigate losses. See Part II,
Item 8, Financial Statements and Supplementary Data — Note A of the Notes to
Consolidated Financial Statements for additional information on management’s
evaluation of the adequacy of the reserve for loan and lease
losses.
The
reserve for loan and lease losses at December 31, 2007 totaled $66.60 million
and was 2.09% of loans and leases, compared to $58.80 million or 2.18% of loans
and leases at December 31, 2006 and $58.70 million or 2.38% of loans and leases
at December 31, 2005. It is our opinion that the reserve for loan and lease
losses was adequate to absorb losses inherent in the loan and lease portfolio as
of December 31, 2007.
The
provision for loan and lease losses was $7.53 million for 2007, compared to
recovery of provision for loan and lease losses of $2.74 million for 2006 and
$5.86 million for 2005. The recovery of the provision for 2006 and 2005 was due
to increased loan recoveries and was consistent with our improved credit quality
of the loan and lease portfolio.
The
following table summarizes our loan and lease loss experience for each of the
last five years ended December 31:
|
(Dollars
in thousands)
|
2007
|
2006
|
2005
|
2004
|
2003
|
|||||||||||||||
|
Amounts of loans and leases
outstanding
|
||||||||||||||||||||
|
at
end of period
|
$ | 3,191,441 | $ | 2,702,537 | $ | 2,463,431 | $ | 2,280,168 | $ | 2,231,000 | ||||||||||
|
Average
amount of net loans and leases outstanding
|
||||||||||||||||||||
|
during
period
|
$ | 2,992,540 | $ | 2,566,217 | $ | 2,348,690 | $ | 2,240,055 | $ | 2,091,004 | ||||||||||
|
Balance
of reserve for loan and lease losses
|
||||||||||||||||||||
|
at
beginning of period
|
$ | 58,802 | $ | 58,697 | $ | 63,672 | $ | 70,045 | $ | 59,218 | ||||||||||
|
Charge-offs:
|
||||||||||||||||||||
|
Commercial
and agricultural loans
|
1,841 | 1,038 | 1,478 | 6,104 | 1,187 | |||||||||||||||
|
Auto,
light truck and environmental equipment
|
1,770 | 340 | 630 | 2,408 | 2,789 | |||||||||||||||
|
Medium
and heavy duty truck
|
569 | - | 15 | 352 | 69 | |||||||||||||||
|
Aircraft
financing
|
378 | 1,126 | 2,424 | 3,585 | 6,877 | |||||||||||||||
|
Construction
equipment financing
|
799 | 118 | - | 686 | 4,712 | |||||||||||||||
|
Loans
secured by real estate
|
356 | 129 | 167 | 456 | 344 | |||||||||||||||
|
Consumer
loans
|
1,654 | 1,203 | 858 | 1,090 | 1,560 | |||||||||||||||
|
Total
charge-offs
|
7,367 | 3,954 | 5,572 | 14,681 | 17,538 | |||||||||||||||
|
Recoveries:
|
||||||||||||||||||||
|
Commercial
and agricultural loans
|
2,356 | 1,594 | 1,308 | 1,312 | 519 | |||||||||||||||
|
Auto,
light truck and environmental equipment
|
446 | 430 | 1,140 | 1,277 | 1,182 | |||||||||||||||
|
Medium
and heavy duty truck
|
64 | 59 | 174 | 14 | - | |||||||||||||||
|
Aircraft
financing
|
1,779 | 3,612 | 2,255 | 4,460 | 1,698 | |||||||||||||||
|
Construction
equipment financing
|
19 | 753 | 1,065 | 547 | 248 | |||||||||||||||
|
Loans
secured by real estate
|
169 | 31 | 89 | 107 | 11 | |||||||||||||||
|
Consumer
loans
|
421 | 316 | 421 | 362 | 523 | |||||||||||||||
|
Total
recoveries
|
5,254 | 6,795 | 6,452 | 8,079 | 4,181 | |||||||||||||||
|
Net
(recoveries) charge-offs
|
2,113 | (2,841 | ) | (880 | ) | 6,602 | 13,357 | |||||||||||||
|
(Recoveries)
provisions charged to operating expense
|
7,534 | (2,736 | ) | (5,855 | ) | 229 | 17,361 | |||||||||||||
|
Reserves
acquired in acquisitions
|
2,379 | - | - | - | 6,823 | |||||||||||||||
|
Balance
at end of period
|
$ | 66,602 | $ | 58,802 | $ | 58,697 | $ | 63,672 | $ | 70,045 | ||||||||||
|
Ratio
of net charge-offs (recoveries) to average net
|
||||||||||||||||||||
|
loans
and leases outstanding
|
0.07 | % | (0.11 | ) % | (0.04 | ) % | 0.29 | % | 0.64 | % | ||||||||||
Net
(recoveries) charge-offs as a percentage of average loans and leases by
portfolio type follow:
|
2007
|
2006
|
2005
|
2004
|
2003
|
||||||||||||||||
|
Commercial
and agricultural loans
|
(0.09 | ) % | (0.12 | ) % | 0.04 | % | 1.14 | % | 0.16 | % | ||||||||||
|
Auto,
light truck and environmental equipment
|
0.40 | (0.03 | ) | (0.17 | ) | 0.43 | 0.62 | |||||||||||||
|
Medium
and heavy duty truck
|
0.16 | (0.02 | ) | (0.06 | ) | 0.14 | 0.03 | |||||||||||||
|
Aircraft
financing
|
(0.26 | ) | (0.54 | ) | 0.04 | (0.19 | ) | 1.73 | ||||||||||||
|
Construction
equipment financing
|
0.22 | (0.24 | ) | (0.51 | ) | 0.07 | 1.67 | |||||||||||||
|
Loans
secured by real estate
|
0.02 | 0.02 | 0.01 | 0.06 | 0.06 | |||||||||||||||
|
Consumer
loans
|
0.88 | 0.74 | 0.41 | 0.77 | 1.04 | |||||||||||||||
|
Total
net charge-offs (recoveries) to average portfolio loans and
leases
|
0.07 | % | (0.11 | ) % | (0.04 | ) % | 0.29 | % | 0.64 | % | ||||||||||
The
reserve for loan and lease losses has been allocated according to the amount
deemed necessary to provide for the estimated probable losses that have been
incurred within the categories of loans and leases set forth in the table
below. The amount of such components of the reserve at December 31
and the ratio of such loan and lease categories to total outstanding loan and
lease balances, are as follows (for purposes of this analysis, auto, light truck
and environmental equipment and medium and heavy duty truck loans and leases
have been consolidated into the category truck and automobile
financing):
|
2007
|
2006
|
2005
|
2004
|
2003
|
||||||||||||||||||||||||||||||||||||
|
Percent
of
|
Percent
of
|
Percent
of
|
Percent
of
|
Percent
of
|
||||||||||||||||||||||||||||||||||||
|
Loans
and
|
Loans
and
|
Loans
and
|
Loans
and
|
Loans
and
|
||||||||||||||||||||||||||||||||||||
|
Leases
|
Leases
|
Leases
|
Leases
|
Leases
|
||||||||||||||||||||||||||||||||||||
|
in
Each
|
in
Each
|
in
Each
|
in
Each
|
in
Each
|
||||||||||||||||||||||||||||||||||||
|
Category
|
Category
|
Category
|
Category
|
Category
|
||||||||||||||||||||||||||||||||||||
|
to
Total
|
to
Total
|
to
Total
|
to
Total
|
to
Total
|
||||||||||||||||||||||||||||||||||||
|
Reserve
|
Loans
and
|
Reserve
|
Loans
and
|
Reserve
|
Loan
and
|
Reserve
|
Loans
and
|
Reserve
|
Loans
and
|
|||||||||||||||||||||||||||||||
|
(Dollars
in thousands)
|
Amount
|
Leases
|
Amount
|
Leases
|
Amount
|
Leases
|
Amount
|
Leases
|
Amount
|
Leases
|
||||||||||||||||||||||||||||||
|
Commercial
and agricultural loans
|
$ | 17,393 | 18.61 | % | $ | 14,547 | 17.70 | % | $ | 15,472 | 18.40 | % | $ | 13,612 | 18.64 | % | $ | 9,589 | 18.06 | % | ||||||||||||||||||||
|
Truck
and automobile financing
|
16,017 | 18.98 | 13,359 | 24.40 | 13,008 | 24.88 | 12,633 | 23.31 | 13,966 | 22.01 | ||||||||||||||||||||||||||||||
|
Aircraft
financing
|
17,761 | 18.39 | 18,621 | 18.46 | 19,583 | 18.66 | 26,475 | 19.49 | 31,733 | 21.93 | ||||||||||||||||||||||||||||||
|
Construction
equipment financing
|
6,171 | 11.84 | 5,030 | 11.32 | 4,235 | 9.10 | 4,502 | 8.62 | 9,061 | 9.84 | ||||||||||||||||||||||||||||||
|
Loans
secured by real estate
|
6,320 | 27.62 | 4,672 | 23.40 | 4,058 | 24.40 | 4,187 | 25.59 | 3,798 | 23.92 | ||||||||||||||||||||||||||||||
|
Consumer
loans
|
2,940 | 4.56 | 2,573 | 4.72 | 2,341 | 4.56 | 2,263 | 4.35 | 1,898 | 4.24 | ||||||||||||||||||||||||||||||
|
Total
|
$ | 66,602 | 100.00 | % | $ | 58,802 | 100.00 | % | $ | 58,697 | 100.00 | % | $ | 63,672 | 100.00 | % | $ | 70,045 | 100.00 | % | ||||||||||||||||||||
Nonperforming Assets — Our policy is to
discontinue the accrual of interest on loans and leases where principal or
interest is past due and remains unpaid for 90 days or more, or when an
individual analysis of a borrower's credit worthiness indicates a credit should
be placed on nonperforming status, except for residential mortgage loans, which
are placed on nonaccrual at the time the loan is placed in foreclosure and
consumer loans that are both well secured and in the process of collection.
Nonperforming assets amounted to $18.48 million at December 31, 2007, compared
to $17.67 million at December 31, 2006, and $22.04 million at December 31, 2005.
Impaired loans and leases totaled $6.19 million, $12.32 million, and $16.87
million at December 31, 2007, 2006, and 2005, respectively. During 2007,
interest income that would have been recorded on nonaccrual loans and leases
under their original terms was $0.98 million, compared to $1.90 million in 2006.
Interest income that was recorded on nonaccrual loans and leases was $0.26
million and $0.62 million in 2007 and 2006, respectively.
Nonperforming
assets at December 31, 2007 increased 4.60% from December 31, 2006, mainly due
to an increase in other real estate. The increase in other real
estate is due to $3.57 million of bank premises held for sale at First
National. This increase and the increase in loans past due over 90
days, loans secured by real estate, and consumer loans was partially offset by a
decrease in aircraft financing and medium and heavy duty truck nonaccrual
loans.
|
Nonperforming
assets at December 31 (Dollars in
thousands)
|
2007
|
2006
|
2005
|
2004
|
2003
|
|||||||||||||||
|
Loans
past due over 90 days
|
$ | 1,105 | $ | 116 | $ | 245 | $ | 481 | $ | 212 | ||||||||||
|
Nonaccrual
loans and leases and restructured loans:
|
||||||||||||||||||||
|
Commercial
and agricultural loans
|
1,597 | 1,768 | 3,701 | 6,928 | 2,795 | |||||||||||||||
|
Auto,
light truck and environmental equipment
|
507 | 481 | 812 | 2,336 | 2,419 | |||||||||||||||
|
Medium
and heavy duty truck
|
277 | 1,755 | 17 | 179 | 1,823 | |||||||||||||||
|
Aircraft
financing
|
1,846 | 8,219 | 7,641 | 10,132 | 12,900 | |||||||||||||||
|
Construction
equipment financing
|
1,196 | 853 | 2,513 | 4,097 | 4,663 | |||||||||||||||
|
Loans
secured by real estate
|
3,581 | 2,214 | 1,475 | 1,141 | 1,786 | |||||||||||||||
|
Consumer
loans
|
1,132 | 285 | 393 | 440 | 699 | |||||||||||||||
|
Total
nonaccrual loans and leases and restructured loans
|
10,136 | 15,575 | 16,552 | 25,253 | 27,085 | |||||||||||||||
|
Total
nonperforming loans and leases
|
11,241 | 15,691 | 16,797 | 25,734 | 27,297 | |||||||||||||||
|
Other
real estate
|
4,821 | 800 | 960 | 1,307 | 3,010 | |||||||||||||||
|
Repossessions:
|
||||||||||||||||||||
|
Commercial
and agricultural loans
|
45 | 2 | - | - | 34 | |||||||||||||||
|
Auto,
light truck and environmental equipment
|
183 | 178 | 128 | 1,112 | 847 | |||||||||||||||
|
Medium
and heavy duty truck
|
54 | - | - | - | - | |||||||||||||||
|
Aircraft
financing
|
1,850 | 300 | 4,073 | 3,037 | 4,551 | |||||||||||||||
|
Construction
equipment financing
|
92 | 400 | - | 183 | 753 | |||||||||||||||
|
Consumer
loans
|
67 | 95 | 83 | 50 | 78 | |||||||||||||||
|
Total
repossessions
|
2,291 | 975 | 4,284 | 4,382 | 6,263 | |||||||||||||||
|
Operating
leases
|
126 | 201 | - | 1,785 | 257 | |||||||||||||||
|
Total
nonperforming assets
|
$ | 18,479 | $ | 17,667 | $ | 22,041 | $ | 33,208 | $ | 36,827 | ||||||||||
|
Nonperforming
loans and leases to loans and leases,
|
||||||||||||||||||||
|
net
of unearned discount
|
0.35 | % | 0.58 | % | 0.68 | % | 1.13 | % | 1.22 | % | ||||||||||
|
Nonperforming
assets to loans and leases and operating leases,
|
||||||||||||||||||||
|
net
of unearned discount
|
0.56 | % | 0.64 | % | 0.87 | % | 1.42 | % | 1.59 | % | ||||||||||
At
December 31, 2007, our management was not aware of any potential problem loans
or leases that would have a material effect on loan and lease delinquency or
loan and lease charge-offs. Loans and leases are subject to continual
review and are given management’s attention whenever a problem situation appears
to be developing.
INVESTMENT
PORTFOLIO
The
amortized cost of securities at year-end 2007 increased 11.53% from 2006,
following an 11.16% increase from year-end 2005 to year-end 2006. The
amortized cost of securities at December 31, 2007 was $790.86 million or 17.78%
of total assets, compared to $709.09 million or 18.62% of total assets at
December 31, 2006.
The
amortized cost of securities available-for-sale as of December 31 is summarized
as follows:
|
(Dollars
in thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
U.S.
Treasury and government agencies, including agency mortgage-backed
securities
|
$ | 483,596 | $ | 466,326 | $ | 415,793 | ||||||
|
States
and political subdivisions
|
258,260 | 182,356 | 179,797 | |||||||||
|
Other
securities
|
49,003 | 60,409 | 42,288 | |||||||||
|
Total
investment securities available-for-sale
|
$ | 790,859 | $ | 709,091 | $ | 637,878 | ||||||
Yields on
tax-exempt obligations are calculated on a fully tax equivalent basis assuming a
35% tax rate. The following table shows the maturities of securities
available-for-sale at December 31, 2007, at the amortized costs and weighted
average yields of such securities:
|
(Dollars
in thousands)
|
Amount
|
Yield
|
||||||
|
U.S.
Treasury and government agencies, including agency mortgage-backed
securities
|
||||||||
|
Under
1 year
|
$ | 286,760 | 4.87 | % | ||||
|
1 –
5 years
|
40,558 | 5.20 | ||||||
|
5 –
10 years
|
22,315 | 4.77 | ||||||
|
Over
10 years
|
133,963 | 5.56 | ||||||
|
Total
U.S. Treasury and government agencies, including agency mortgage-backed
securities
|
483,596 | 5.08 | ||||||
|
States
and political subdivisions
|
||||||||
|
Under
1 year
|
105,219 | 6.85 | ||||||
|
1 –
5 years
|
102,124 | 6.76 | ||||||
|
5 –
10 years
|
50,917 | 7.25 | ||||||
|
Over
10 years
|
- | - | ||||||
|
Total
states and political subdivisions
|
258,260 | 6.90 | ||||||
|
Other
securities
|
||||||||
|
Under
1 year
|
9,282 | 3.09 | ||||||
|
1 –
5 years
|
3,010 | 5.27 | ||||||
|
5 –
10 years
|
- | - | ||||||
|
Over
10 years
|
- | - | ||||||
|
Marketable
equity securities
|
36,711 | 6.69 | ||||||
|
Total
other securities
|
49,003 | 5.92 | ||||||
|
Total
investment securities available-for-sale
|
$ | 790,859 | 5.73 | % | ||||
DEPOSITS
The
average daily amounts of deposits and rates paid on such deposits are summarized
as follows:
|
2007
|
2006
|
2005
|
|||||||||||||||||||||||
|
(Dollars
in thousands)
|
Amount
|
Rate
|
Amount
|
Rate
|
Amount
|
Rate
|
|||||||||||||||||||
|
Noninterest
bearing demand deposits
|
$ | 351,050 | - | % | $ | 352,204 | - | % | $ | 392,475 | - | % |
|
||||||||||||
|
Interest
bearing demand deposits
|
988,308 | 3.10 | 715,242 | 2.51 | 784,366 | 1.78 | |||||||||||||||||||
|
Savings
deposits
|
250,927 | 1.21 | 190,347 | 0.44 | 210,151 | 0.30 | |||||||||||||||||||
|
Other
time deposits
|
1,679,521 | 4.85 | 1,512,755 | 4.38 | 1,223,406 | 3.41 | |||||||||||||||||||
|
Total
deposits
|
$ | 3,269,806 | - | $ | 2,770,548 | - | $ | 2,610,398 | - | ||||||||||||||||
The
amount of certificates of deposit of $100,000 or more and other time deposits of
$100,000 or more outstanding at December 31, 2007, by time remaining until
maturity is as follows:
|
(Dollars
in thousands)
|
||||
|
Under
3 months
|
$ | 146,879 | ||
|
4 –
6 months
|
94,276 | |||
|
7 –
12 months
|
139,995 | |||
|
Over
12 months
|
151,504 | |||
|
Total
|
$ | 532,654 | ||
Scheduled maturities of time deposits, including both provate and
public funds, at December 31, 2007 were as follows:
|
(Dollars
in thousands)
|
||||
|
2008
|
$ | 1,226,775 | ||
|
2009
|
220,217 | |||
|
2010
|
49,598 | |||
|
2011
|
18,725 | |||
|
2012
|
17,025 | |||
|
Thereafter
|
16,012 | |||
|
Total
|
$ | 1,548,352 | ||
SHORT-TERM
BORROWINGS
The
following table shows the distribution of our short-term borrowings and the
weighted average interest rates thereon at the end of each of the last three
years. Also provided are the maximum amount of borrowings and the
average amount of borrowings, as well as weighted average interest rates for the
last three years.
|
Federal
Funds
|
||||||||||||||||
|
Purchased
and
|
||||||||||||||||
|
Security
|
Other
|
|||||||||||||||
|
Repurchase
|
Commercial
|
Short-Term
|
Total
|
|||||||||||||
|
(Dollars
in thousands)
|
Agreements
|
Paper
|
Borrowings
|
Borrowings
|
||||||||||||
|
2007
|
||||||||||||||||
|
Balance
at December 31, 2007
|
$ | 303,429 | $ | 10,783 | $ | 23,620 | $ | 337,832 | ||||||||
|
Maximum
amount outstanding at any month-end
|
327,623 | 15,478 | 42,784 | 385,885 | ||||||||||||
|
Average
amount outstanding
|
246,792 | 12,598 | 11,987 | 271,377 | ||||||||||||
|
Weighted
average interest rate during the year
|
3.92 | % | 4.84 | % | 5.49 | % | 4.03 | % | ||||||||
|
Weighted
average interest rate for outstanding amounts at
|
||||||||||||||||
|
December
31, 2007
|
2.98 | % | 4.04 | % | 2.60 | % | 2.99 | % | ||||||||
|
2006
|
||||||||||||||||
|
Balance
at December 31, 2006
|
$ | 195,262 | $ | 10,907 | $ | 16,549 | $ | 222,718 | ||||||||
|
Maximum
amount outstanding at any month-end
|
265,362 | 12,922 | 90,689 | 368,973 | ||||||||||||
|
Average
amount outstanding
|
211,973 | 7,997 | 45,854 | 265,824 | ||||||||||||
|
Weighted
average interest rate during the year
|
3.95 | % | 4.99 | % | 4.87 | % | 4.14 | % | ||||||||
|
Weighted
average interest rate for outstanding amounts at
|
||||||||||||||||
|
December
31, 2006
|
3.41 | % | 5.08 | % | 4.89 | % | 3.60 | % | ||||||||
|
2005
|
||||||||||||||||
|
Balance
at December 31, 2005
|
$ | 230,756 | $ | 4,600 | $ | 42,113 | $ | 277,469 | ||||||||
|
Maximum
amount outstanding at any month-end
|
273,428 | 5,552 | 122,038 | 401,018 | ||||||||||||
|
Average
amount outstanding
|
214,199 | 2,054 | 79,018 | 295,271 | ||||||||||||
|
Weighted
average interest rate during the year
|
2.55 | % | 3.36 | % | 3.91 | % | 2.92 | % | ||||||||
|
Weighted
average interest rate for outstanding amounts at
|
||||||||||||||||
|
December
31, 2005
|
3.86 | % | 3.88 | % | 2.76 | % | 3.70 | % | ||||||||
LIQUIDITY
Core Deposits — Our major source of investable
funds is provided by stable core deposits consisting of all interest bearing and
noninterest bearing deposits, excluding brokered certificates of deposit and
certain certificates of deposit of $100,000 and over. In 2007, average core
deposits equaled 67.12% of average total assets, compared to 63.27% in 2006 and
67.60% in 2005. The effective cost rate of core deposits in 2007 was 3.25%,
compared to 2.65% in 2006 and 1.96% in 2005.
Average
demand deposits (noninterest bearing core deposits) decreased 0.33% in 2007
compared to a decrease of 10.26% in 2006. These represented 12.60% of total core
deposits in 2007, compared to 15.67% in 2006, and 17.21% in 2005.
Purchased Funds — We use purchased funds to
supplement core deposits and include certain certificates of deposit of $100,000
and over, brokered certificates of deposit, Federal funds, securities sold under
agreements to repurchase, commercial paper, and other short-term borrowings.
Purchased funds are raised from customers seeking short-term investments and are
used to manage the Banks interest rate sensitivity. During 2007, our reliance on
purchased funds decreased to 18.19% of average total assets from 22.21% in
2006.
Shareholders’ Equity — Average shareholders’
equity equated to 9.85% of average total assets in 2007 compared to 10.07% in
2006. Shareholders’ equity was 9.68% of total assets at year-end 2007, compared
to 9.69% at year-end 2006. In accordance with SFAS No. 115, "Accounting for Certain Investments
in Debt and Equity Securities," we include unrealized gain (loss) on
available-for-sale securities, net of income taxes, as accumulated other
comprehensive income (loss) which is a component of shareholders’ equity. While
regulatory capital adequacy ratios exclude unrealized gain (loss), it does
impact our equity as reported in the audited financial statements. The
unrealized gain (loss) on available-for-sale securities, net of income taxes,
was $2.52 million and $(0.26) million at December 31, 2007 and 2006,
respectively.
Liquidity Risk Management — The Banks’
liquidity is monitored and closely managed by the Asset/Liability Management
Committees (ALCO), whose members are comprised of the Banks’ senior management.
Asset and liability management includes the management of interest rate
sensitivity and the maintenance of an adequate liquidity position. The purpose
of interest rate sensitivity management is to stabilize net interest income
during periods of changing interest rates.
Liquidity
management is the process by which the Banks ensure that adequate liquid funds
are available to meet financial commitments on a timely basis. Financial
institutions must maintain liquidity to meet day-to-day requirements of
depositors and borrowers, take advantage of market opportunities and provide a
cushion against unforeseen needs.
Liquidity
of the Banks is derived primarily from core deposits, principal payments
received on loans, the sale and maturity of investment securities, net cash
provided by operating activities, and access to other funding sources. The most
stable source of liability funded liquidity is deposit growth and retention of
the core deposit base. The principal source of asset-funded liquidity is
available-for-sale investment securities, cash and due from banks, Federal funds
sold, securities purchased under agreements to resell, and loans and interest
bearing deposits with other banks maturing within one year. Additionally,
liquidity is provided by repurchase agreements, and the ability to borrow from
the Federal Reserve Bank and Federal Home Loan Bank.
Interest Rate Risk Management — ALCO
monitors and manages the relationship of earning assets to interest bearing
liabilities and the responsiveness of asset yields, interest expense, and
interest margins to changes in market interest rates. In the normal course of
business, we face ongoing interest rate risks and uncertainties. We occasionally
utilize interest rate swaps to partially manage the primary market exposures
associated with the interest rate risk related to underlying assets,
liabilities, and anticipated transactions.
A
hypothetical change in earnings was modeled by calculating an immediate 100
basis point (1.00%) change in interest rates across all maturities. This
analysis presents the hypothetical change in earnings of those rate sensitive
financial instruments and interest rate swaps which we held at December 31,
2007. The aggregate hypothetical decrease in pre-tax earnings was estimated to
be $0.44 million on an annualized basis on all rate-sensitive financial
instruments, based on a hypothetical increase of a 100 basis point change in
interest rates. The aggregate hypothetical increase in pre-tax earnings was
estimated to be $1.37 million on an annualized basis on all rate-sensitive
financial instruments based on a hypothetical decrease of a 100 basis point
change in interest rates. The earnings simulation model excludes the earnings
dynamics related to how fee income and noninterest expense may be affected by
changes in interest rates. Actual results may differ materially from
those projected. The use of this methodology to quantify the market risk of the
balance sheet should not be construed as an endorsement of its accuracy or the
accuracy of the related assumptions. At December 31, 2007, the impact
of these hypothetical fluctuations in interest rates on our derivative holdings
was not significant, and, as such, separate disclosure is not
presented.
We manage
the interest rate risk related to loan commitments by entering into contracts
for future delivery of loans with outside parties. See Part II, Item 8,
Financial Statements and Supplementary Data — Note P of the Notes to
Consolidated Financial Statements.
OFF-BALANCE SHEET
ARRANGEMENTS AND CONTRACTUAL OBLIGATIONS
In the
ordinary course of operations, we enter into certain contractual obligations.
Such obligations include the funding of operations through debt issuances as
well as leases for premises and equipment. The following table summarizes our
significant fixed, determinable, and estimated contractual obligations, by
payment date, at December 31, 2007, except for obligations associated with
short-term borrowing arrangements. Payments for borrowings do not
include interest. Further discussion of the nature of each obligation
is included in the referenced note to the consolidated financial
statements.
Contractual
obligations payments by period.
|
Indeterminate
|
||||||||||||||||||||||||||||
|
(Dollars
in thousands)
|
Note
|
0 –
1 Year
|
1 –
3 Years
|
3 –
5 Years
|
Over
5 Years
|
maturity
|
Total
|
|||||||||||||||||||||
|
Deposits
without stated maturity
|
- | $ | 1,921,311 | $ | - | $ | - | $ | - | $ | - | $ | 1,921,311 | |||||||||||||||
|
Certificates
of deposit
|
- | 1,226,775 | 269,815 | 35,750 | 16,012 | - | 1,548,352 | |||||||||||||||||||||
|
Long-term
debt
|
K | 15,394 | 11,016 | 235 | 869 | 7,188 | 34,702 | |||||||||||||||||||||
|
Subordinated
notes
|
M | - | - | - | 100,002 | - | 100,002 | |||||||||||||||||||||
|
Operating
leases
|
P | 2,749 | 4,470 | 2,610 | 1,069 | - | 10,898 | |||||||||||||||||||||
|
Purchase
obligations
|
- | 15,910 | 5,640 | 5,529 | - | - | 27,079 | |||||||||||||||||||||
|
Total
contractual obligations
|
$ | 3,182,139 | $ | 290,941 | $ | 44,124 | $ | 117,952 | $ | 7,188 | $ | 3,642,344 | ||||||||||||||||
We
routinely enter into contracts for services. These contracts may require payment
for services to be provided in the future and may also contain penalty clauses
for early termination of the contract. We have made a diligent effort
to estimate such payments and penalties, where
applicable. Additionally, where necessary, we have made reasonable
estimates as to certain purchase obligations as of December 31,
2007. Our management has used the best information available to make
the estimations necessary to value the related purchase
obligations. Our management is not aware of any additional
commitments or contingent liabilities which may have a material adverse impact
on our liquidity or capital resources.
We also
enter into derivative contracts under which we are required to either receive
cash from, or pay cash to, counterparties depending on changes in interest
rates. Derivative contracts are carried at fair value on the consolidated
balance sheet with the fair value representing the net present value of expected
future cash receipts or payments based on market interest rates as of the
balance sheet date. The fair value of the contracts change daily as market
interest rates change. Because the derivative liabilities recorded on the
balance sheet at December 31, 2007 do not necessarily represent the amounts that
may ultimately be paid under these contracts, these liabilities are not included
in the table of contractual obligations presented above.
In
addition, due to the uncertainty with respect to the timing of future cash flows
associated the with our unrecognized tax benefits at December 31, 2007, we are
unable to make reasonably reliable estimates of the period of cash settlement
with the respective taxing authority. Therefore, $5.38 million of
unrecognized tax benefits have been excluded from the contractual obligations
table above. See Note O of the Notes to Consolidated Financial
Statements for a discussion on income taxes.
Assets
under management and assets under custody are held in fiduciary or custodial
capacity for our clients. In accordance with U. S. generally accepted
accounting principles, these assets are not included on our balance
sheet.
We are
also party to financial instruments with off-balance sheet risk in the normal
course of business to meet the financing needs of our clients. These financial
instruments include commitments to extend credit and standby letters of credit.
Further discussion of these commitments is included in Part II, Item 8,
Financial Statements and Supplementary Data — Note P of the Notes to
Consolidated Financial Statements.
QUARTERLY RESULTS OF
OPERATIONS
|
Three
Months Ended (Dollars in
thousands, except per share amounts)
|
March
31
|
June
30
|
September
30
|
December
31
|
||||||||||||
|
2007
|
||||||||||||||||
|
Interest
income
|
$ | 55,953 | $ | 62,332 | $ | 68,330 | $ | 66,972 | ||||||||
|
Interest
expense
|
29,681 | 33,461 | 36,632 | 34,903 | ||||||||||||
|
Net
interest income
|
26,272 | 28,871 | 31,698 | 32,069 | ||||||||||||
|
(Recovery
of) provision for loan and lease losses
|
(623 | ) | 1,247 | 3,660 | 3,250 | |||||||||||
|
Investment
securities and other investment gains (losses)
|
247 | 207 | (154 | ) | (3,428 | ) | ||||||||||
|
Income
before income taxes
|
12,581 | 12,248 | 8,495 | 8,359 | ||||||||||||
|
Net
income
|
8,523 | 8,060 | 6,130 | 7,826 | ||||||||||||
|
Diluted
net income per common share
|
0.37 | 0.34 | 0.25 | 0.32 | ||||||||||||
|
2006
|
||||||||||||||||
|
Interest
income
|
$ | 46,396 | $ | 50,781 | $ | 54,379 | $ | 57,438 | ||||||||
|
Interest
expense
|
21,297 | 23,636 | 26,928 | 30,700 | ||||||||||||
|
Net
interest income
|
25,099 | 27,145 | 27,451 | 26,738 | ||||||||||||
|
(Recovery
of) provision for loan and lease losses
|
(300 | ) | (1,671 | ) | (667 | ) | (98 | ) | ||||||||
|
Investment
securities and other investment gains (losses)
|
2,083 | 150 | (223 | ) | (8 | ) | ||||||||||
|
Income
before income taxes
|
14,998 | 15,497 | 17,117 | 11,931 | ||||||||||||
|
Net
income
|
9,933 | 10,277 | 10,964 | 8,123 | ||||||||||||
|
Diluted
net income per common share
|
0.43 | 0.45 | 0.48 | 0.36 | ||||||||||||
Net
income was $7.83 million for the fourth quarter of 2007, down 3.66% compared to
the $8.12 million of net income reported for the fourth quarter of 2006. Diluted
net income per common share for the fourth quarter of 2007 amounted to $0.32,
compared to $0.36 per common share reported in the fourth quarter of
2006.
The net
interest margin was 3.21% for the fourth quarter of 2007 versus 3.10% for the
same period in 2006. Tax-equivalent net interest income was $33.14
million for the fourth quarter
of 2007, up 21.01% from 2006’s fourth quarter.
Our
provision for loan and lease losses was $3.25 million in the fourth quarter of
2007 compared to a recovery of provision for loan and lease losses of $0.10
million in the fourth quarter of 2006. Net charge-offs were $1.48
million for the fourth quarter 2007, compared to net charge-offs of $0.10
million a year ago.
Noninterest
income for the fourth quarter of 2007 was $16.17 million, a decrease of 8.62%
compared to the fourth quarter of 2006. During the fourth quarter of
2007, we wrote-down Federal Home Loan Mortgage Corporation (Freddie Mac) and
Federal National Mortgage Association (Fannie Mae) preferred stocks in the
investment portfolio by $4.11 million. In addition, mortgage banking
income declined $1.34 million. These decreases were partially offset
by increases in trust fees, services charges on deposit accounts, insurance
commissions and other investment securities gains.
Noninterest
expense for the fourth quarter of 2007 was $36.63 million, an increase of 12.37%
as compared to the fourth quarter of 2006. This was primarily due to
higher salaries and employee benefits and furniture and equipment
expense.
The
fourth quarter 2007 results include a tax benefit of $1.51 million to correct
the deferred tax liability. All of this amount relates to the years 2000 through
2005.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK.
For
information regarding Quantitative and Qualitative Disclosures about Market
Risk, see Part II, Item 7, Management’s Discussion and Analysis of Financial
Condition and Results of Operations, Interest Rate Risk Management.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM
The
Board of Directors and Shareholders of 1st Source Corporation
We have
audited 1st Source Corporation’s internal control over financial reporting as of
December 31, 2007, based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (the COSO criteria). 1st Source Corporation’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 included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and 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.
As
indicated in the accompanying Management’s Report on Internal Control Over
Financial Reporting, management’s assessment of and conclusion on the
effectiveness of internal control over financial reporting did not include the
internal controls of First National Bank, Valparaiso, which is included in the
2007 consolidated financial statements of 1st Source Corporation and constituted
less than fifteen percent of total consolidated assets, as of December 31, 2007
and less than seven percent of total consolidated revenues, for the year then
ended. Our audit of internal control over financial reporting of 1st
Source Corporation also did not include an evaluation of the internal control
over financial reporting of First National Bank, Valparaiso.
In our
opinion, 1st Source Corporation maintained, in all material respects, effective
internal control over financial reporting as of December 31, 2007, based on the COSO criteria.
We have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated financial statements of 1st
Source Corporation and subsidiaries as of December 31, 2007 and 2006, and the
related consolidated statements of income, shareholders’ equity, and cash flow
for each of the three years in the period ended December 31, 2007 and our report
dated February 22, 2008 expressed an unqualified opinion thereon.
/s/
Ernst & Young LLP
Chicago,
Illinois
February
22, 2008
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The
Board of Directors and Shareholders of 1st Source Corporation
We have
audited the accompanying consolidated statements of financial condition of
1st Source Corporation and subsidiaries as of December 31, 2007 and 2006, and
the related consolidated statements of income, shareholders' equity, and cash
flows for each of the three years in the period ended December 31,
2007. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We
conducted our audits in accordance with 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 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 financial statements referred to above present fairly, in all
material respects, the consolidated financial position of 1st Source Corporation
and subsidiaries at December 31, 2007 and 2006, and the consolidated results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2007, in conformity with U.S. generally accepted accounting
principles.
As
discussed in Note A to the financial statements, in 2006 the Company changed its
method of accounting for stock-based compensation.
We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), 1st Source Corporation’s internal control
over financial reporting as of December 31, 2007, based on criteria established
in Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission and our report dated February 22,
2008 expressed an unqualified opinion
thereon.
/s/ Ernst
& Young LLP
Chicago,
Illinois
February
22, 2008
|
CONSOLIDATED STATEMENTS OF FINANCIAL
CONDITION
|
||||||||
|
December
31 (Dollars in
thousands)
|
2007
|
2006
|
||||||
|
ASSETS
|
||||||||
|
Cash
and due from banks
|
$ | 153,137 | $ | 118,131 | ||||
|
Federal
funds sold and interest bearing deposits with other banks
|
25,817 | 64,979 | ||||||
|
Investment
securities available-for-sale
|
||||||||
|
(amortized
cost of $790,859 and $709,091 at December 31, 2007 and December 31, 2006,
respectively)
|
794,918 | 708,672 | ||||||
|
Mortgages
held for sale
|
25,921 | 50,159 | ||||||
|
Loans
and leases, net of unearned discount:
|
||||||||
|
Commercial
and agricultural loans
|
593,806 | 478,310 | ||||||
|
Auto,
light truck and environmental equipment
|
305,238 | 317,604 | ||||||
|
Medium
and heavy duty truck
|
300,469 | 341,744 | ||||||
|
Aircraft
financing
|
587,022 | 498,914 | ||||||
|
Construction
equipment financing
|
377,785 | 305,976 | ||||||
|
Loans
secured by real estate
|
881,646 | 632,283 | ||||||
|
Consumer
loans
|
145,475 | 127,706 | ||||||
|
Total
loans and leases
|
3,191,441 | 2,702,537 | ||||||
|
Reserve
for loan and lease losses
|
(66,602 | ) | (58,802 | ) | ||||
|
Net
loans and leases
|
3,124,839 | 2,643,735 | ||||||
|
Equipment
owned under operating leases, net
|
81,960 | 76,310 | ||||||
|
Net
premises and equipment
|
45,048 | 37,326 | ||||||
|
Goodwill
and intangible assets
|
93,567 | 19,418 | ||||||
|
Accrued
income and other assets
|
101,897 | 88,585 | ||||||
|
Total
assets
|
$ | 4,447,104 | $ | 3,807,315 | ||||
|
LIABILITIES
|
||||||||
|
Deposits:
|
||||||||
|
Noninterest
bearing
|
$ | 418,529 | $ | 339,866 | ||||
|
Interest
bearing
|
3,051,134 | 2,708,418 | ||||||
|
Total
deposits
|
3,469,663 | 3,048,284 | ||||||
|
Short-term
borrowings:
|
||||||||
|
Federal
funds purchased and securities sold under agreements to
repurchase
|
303,429 | 195,262 | ||||||
|
Other
short-term borrowings
|
34,403 | 27,456 | ||||||
|
Total
short-term borrowings
|
337,832 | 222,718 | ||||||
|
Long-term
debt and mandatorily redeemable securities
|
34,702 | 43,761 | ||||||
|
Subordinated
notes
|
100,002 | 59,022 | ||||||
|
Accrued
expenses and other liabilities
|
74,401 | 64,626 | ||||||
|
Total
liabilities
|
4,016,600 | 3,438,411 | ||||||
|
SHAREHOLDERS'
EQUITY
|
||||||||
|
Preferred
stock; no par value
|
||||||||
|
Authorized
10,000,000 shares; none issued or outstanding
|
- | - | ||||||
|
Common
stock; no par value
|
||||||||
|
Authorized
40,000,000 shares; issued 25,927,510 shares in 2007 and 23,781,518 shares
in 2006
|
||||||||
|
less
unearned shares (284,004 in 2007 and 262,986 in
2006)
|
342,840 | 289,163 | ||||||
|
Retained
earnings
|
117,373 | 99,572 | ||||||
|
Cost
of common stock in treasury (1,551,396 shares in 2007 and 1,022,435
shares in 2006)
|
(32,231 | ) | (19,571 | ) | ||||
|
Accumulated
other comprehensive income (loss)
|
2,522 | (260 | ) | |||||
|
Total
shareholders' equity
|
430,504 | 368,904 | ||||||
|
Total
liabilities and shareholders' equity
|
$ | 4,447,104 | $ | 3,807,315 | ||||
|
The
accompanying notes are a part of the consolidated financial
statements.
|
||||||||
|
CONSOLIDATED STATEMENTS OF INCOME
|
||||||||||||
|
Year
Ended December 31 (Dollars in
thousands, except per share data)
|
2007
|
2006
|
2005
|
|||||||||
|
Interest
income:
|
||||||||||||
|
Loans
and leases
|
$ | 216,186 | $ | 181,363 | $ | 147,814 | ||||||
|
Investment
securities, taxable
|
25,770 | 19,816 | 14,777 | |||||||||
|
Investment
securities, tax-exempt
|
7,608 | 5,183 | 5,275 | |||||||||
|
Other
|
4,023 | 2,632 | 666 | |||||||||
|
Total
interest income
|
253,587 | 208,994 | 168,532 | |||||||||
|
Interest
expense:
|
||||||||||||
|
Deposits
|
115,113 | 85,067 | 56,341 | |||||||||
|
Short-term
borrowings
|
10,935 | 11,011 | 8,628 | |||||||||
|
Subordinated
notes
|
6,051 | 4,320 | 4,008 | |||||||||
|
Long-term
debt and mandatorily redeemable securities
|
2,578 | 2,163 | 1,127 | |||||||||
|
Total
interest expense
|
134,677 | 102,561 | 70,104 | |||||||||
|
Net
interest income
|
118,910 | 106,433 | 98,428 | |||||||||
|
Provision
for (recovery of provision for) loan and lease losses
|
7,534 | (2,736 | ) | (5,855 | ) | |||||||
|
Net
interest income after provision for (recovery of provision for) loan and
lease losses
|
111,376 | 109,169 | 104,283 | |||||||||
|
Noninterest
income:
|
||||||||||||
|
Trust
fees
|
15,567 | 13,806 | 12,877 | |||||||||
|
Service
charges on deposit accounts
|
20,470 | 19,040 | 17,775 | |||||||||
|
Mortgage
banking income
|
2,868 | 11,637 | 10,868 | |||||||||
|
Insurance
commissions
|
4,666 | 4,574 | 4,133 | |||||||||
|
Equipment
rental income
|
21,312 | 18,972 | 16,067 | |||||||||
|
Other
income
|
8,864 | 6,554 | 6,463 | |||||||||
|
Investment
securities and other investment (losses) gains
|
(3,128 | ) | 2,002 | 350 | ||||||||
|
Total
noninterest income
|
70,619 | 76,585 | 68,533 | |||||||||
|
Noninterest
expense:
|
||||||||||||
|
Salaries
and employee benefits
|
73,944 | 66,605 | 69,767 | |||||||||
|
Net
occupancy expense
|
9,030 | 7,492 | 7,749 | |||||||||
|
Furniture
and equipment expense
|
15,145 | 12,316 | 11,418 | |||||||||
|
Depreciation
- leased equipment
|
17,085 | 14,958 | 12,895 | |||||||||
|
Professional
fees
|
4,575 | 3,998 | 3,362 | |||||||||
|
Supplies
and communications
|
5,987 | 5,496 | 5,462 | |||||||||
|
Business
development and marketing expense
|
4,788 | 4,008 | 3,630 | |||||||||
|
Loan
and lease collection and repossession expense
|
1,123 | 704 | (1,094 | ) | ||||||||
|
Other expense
|
8,635 | 10,634 | 10,250 | |||||||||
|
Total
noninterest expense
|
140,312 | 126,211 | 123,439 | |||||||||
|
Income
before income taxes
|
41,683 | 59,543 | 49,377 | |||||||||
|
Income
taxes
|
11,144 | 20,246 | 15,626 | |||||||||
|
Net
income
|
$ | 30,539 | $ | 39,297 | $ | 33,751 | ||||||
|
Basic
net income per common share
|
$ | 1.30 | $ | 1.74 | $ | 1.48 | ||||||
|
Diluted
net income per common share
|
$ | 1.28 | $ | 1.72 | $ | 1.46 | ||||||
|
The
accompanying notes are a part of the consolidated financial
statements.
|
||||||||||||
|
CONSOLIDATED STATEMENTS OF SHAREHOLDERS'
EQUITY
|
||||||||||||||||||||
|
Cost
of
|
Accumulated
|
|||||||||||||||||||
|
Common
|
Other
|
|||||||||||||||||||
|
Common
|
Retained
|
Stock
|
Comprehensive
|
|||||||||||||||||
|
(Dollars
in thousands, except per share data)
|
Total
|
Stock
|
Earnings
|
in
Treasury
|
Income
(Loss), Net
|
|||||||||||||||
|
Balance
at January 1, 2005
|
$ | 326,600 | $ | 221,579 | $ | 115,830 | $ | (10,512 | ) | $ | (297 | ) | ||||||||
|
Comprehensive
income, net of tax:
|
||||||||||||||||||||
|
Net
income
|
33,751 | - | 33,751 | - | - | |||||||||||||||
|
Change
in unrealized losses of
|
||||||||||||||||||||
|
available-for-sale
securities, net of tax
|
(2,943 | ) | - | - | - | (2,943 | ) | |||||||||||||
|
Total
comprehensive income
|
30,808 | - | - | - | - | |||||||||||||||
|
Issuance
of 51,433 common shares per
|
||||||||||||||||||||
|
stock
based compensation awards, including
|
||||||||||||||||||||
|
related
tax effects
|
528 | - | 159 | 369 | - | |||||||||||||||
|
Cost
of 111,475 shares of common
|
||||||||||||||||||||
|
stock
acquired for treasury
|
(2,221 | ) | - | - | (2,221 | ) | - | |||||||||||||
|
Cash
dividend ($.445 per share)
|
(10,139 | ) | - | (10,139 | ) | - | - | |||||||||||||
|
Balance
at December 31, 2005
|
$ | 345,576 | $ | 221,579 | $ | 139,601 | $ | (12,364 | ) | $ | (3,240 | ) | ||||||||
|
Comprehensive
income, net of tax:
|
||||||||||||||||||||
|
Net
income
|
39,297 | - | 39,297 | - | - | |||||||||||||||
|
Change
in unrealized losses of
|
||||||||||||||||||||
|
available-for-sale
securities, net of tax
|
2,980 | - | - | - | 2,980 | |||||||||||||||
|
Total
comprehensive income
|
42,277 | - | - | - | - | |||||||||||||||
|
Issuance
of 95,032 common shares per
|
||||||||||||||||||||
|
stock
based compensation awards, including
|
||||||||||||||||||||
|
related
tax effects
|
814 | - | 364 | 450 | - | |||||||||||||||
|
Cost
of 335,038 shares of common
|
||||||||||||||||||||
|
stock
acquired for treasury
|
(7,657 | ) | - | - | (7,657 | ) | - | |||||||||||||
|
Cash
dividend ($.534 per share)
|
(12,094 | ) | - | (12,094 | ) | - | - | |||||||||||||
|
10%
common stock dividend
|
||||||||||||||||||||
|
($12
cash paid in lieu of fractional shares)
|
(12 | ) | 67,584 | (67,596 | ) | - | - | |||||||||||||
|
Balance
at December 31, 2006
|
$ | 368,904 | $ | 289,163 | $ | 99,572 | $ | (19,571 | ) | $ | (260 | ) | ||||||||
|
Comprehensive
income, net of tax:
|
||||||||||||||||||||
|
Net
income
|
30,539 | 30,539 | ||||||||||||||||||
|
Change
in unrealized losses of
|
||||||||||||||||||||
|
available-for-sale
securities, net of tax
|
2,782 | 2,782 | ||||||||||||||||||
|
Total
comprehensive income
|
33,321 | |||||||||||||||||||
|
Issuance
of 40,349 common shares per
|
||||||||||||||||||||
|
stock
based compensation awards, including
|
||||||||||||||||||||
|
related
tax effects
|
545 | 384 | 161 | |||||||||||||||||
|
Cost
of 569,310 shares of common
|
||||||||||||||||||||
|
stock
acquired for treasury
|
(12,821 | ) | (12,821 | ) | ||||||||||||||||
|
Cash
dividend ($.560 per share)
|
(13,122 | ) | (13,122 | ) | ||||||||||||||||
|
Issuance
of 2,124,974 shares of common
|
||||||||||||||||||||
|
stock
for FINA Bancorp purchase
|
53,677 | 53,677 | ||||||||||||||||||
|
Balance
at December 31, 2007
|
$ | 430,504 | $ | 342,840 | $ | 117,373 | $ | (32,231 | ) | $ | 2,522 | |||||||||
|
The
accompanying notes are a part of the consolidated financial
statements.
|
||||||||||||||||||||
|
CONSOLIDATED STATEMENTS OF CASH FLOW
|
||||||||||||
|
Year
Ended December 31 (Dollars in
thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Operating
activities:
|
||||||||||||
|
Net
income
|
$ | 30,539 | $ | 39,297 | $ | 33,751 | ||||||
|
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
||||||||||||
|
Provision
for (recovery of provision for) loan and lease losses
|
7,534 | (2,736 | ) | (5,855 | ) | |||||||
|
Depreciation
of premises and equipment
|
5,364 | 4,797 | 5,002 | |||||||||
|
Depreciation
of equipment owned and leased to others
|
17,085 | 14,958 | 12,895 | |||||||||
|
Amortization
of investment security premiums and accretion of discounts,
net
|
(356 | ) | (259 | ) | 4,471 | |||||||
|
Amortization
of mortgage servicing rights
|
2,403 | 4,587 | 6,782 | |||||||||
|
Mortgage
servicing asset impairment/(recoveries)
|
143 | (12 | ) | (2,271 | ) | |||||||
|
Deferred
income taxes
|
(3,239 | ) | (3,921 | ) | (2,908 | ) | ||||||
|
Realized
investment securities losses (gains)
|
3,128 | (2,002 | ) | (350 | ) | |||||||
|
Change
in mortgages held for sale
|
24,238 | 17,065 | (11,513 | ) | ||||||||
|
Change
in interest receivable
|
(1,296 | ) | (3,616 | ) | (1,876 | ) | ||||||
|
Change
in interest payable
|
(380 | ) | 10,577 | 3,265 | ||||||||
|
Change
in other assets
|
(8,587 | ) | 8,378 | (1,347 | ) | |||||||
|
Change
in other liabilities
|
2,684 | (4,270 | ) | 8,391 | ||||||||
|
Other
|
5,101 | 1,253 | 827 | |||||||||
|
Net
change in operating activities
|
84,361 | 84,096 | 49,264 | |||||||||
|
Investing
activities:
|
||||||||||||
|
Cash
paid for acquisition, net
|
(55,977 | ) | - | - | ||||||||
|
Proceeds
from sales of investment securities
|
121,671 | 65,682 | 28,806 | |||||||||
|
Proceeds
from maturities of investment securities
|
496,324 | 322,073 | 315,660 | |||||||||
|
Purchases
of investment securities
|
(518,041 | ) | (456,706 | ) | (196,061 | ) | ||||||
|
Net
change in short-term investments
|
195,337 | 3,599 | 151,552 | |||||||||
|
Net
change in loans and leases
|
(252,929 | ) | (236,266 | ) | (182,382 | ) | ||||||
|
Net
change in equipment owned under operating
leases
|
(22,734 | ) | (33,015 | ) | (23,887 | ) | ||||||
|
Purchases
of premises and equipment
|
(14,467 | ) | (5,553 | ) | (5,858 | ) | ||||||
|
Net
change in investing activities
|
(50,816 | ) | (340,186 | ) | 87,830 | |||||||
|
Financing
activities:
|
||||||||||||
|
Net
change in demand deposits, NOW accounts and savings
accounts
|
(14,260 | ) | (101,390 | ) | (132,699 | ) | ||||||
|
Net
change in certificates of deposit
|
(86,502 | ) | 404,087 | 71,284 | ||||||||
|
Net
change in short-term borrowings
|
96,930 | (54,751 | ) | (22,193 | ) | |||||||
|
Proceeds
from issuance of long-term debt
|
1,159 | 21,922 | 5,368 | |||||||||
|
Proceeds
from issuance of subordinated notes
|
58,764 | - | - | |||||||||
|
Payments
on subordinated notes
|
(17,784 | ) | - | - | ||||||||
|
Payments
on long-term debt
|
(11,225 | ) | (1,306 | ) | (274 | ) | ||||||
|
Net
proceeds from issuance of treasury stock
|
545 | 814 | 528 | |||||||||
|
Acquisition
of treasury stock
|
(12,821 | ) | (7,657 | ) | (2,221 | ) | ||||||
|
Cash
dividends
|
(13,345 | ) | (12,315 | ) | (10,325 | ) | ||||||
|
Net
change in financing activities
|
1,461 | 249,404 | (90,532 | ) | ||||||||
|
Net
change in cash and cash equivalents
|
35,006 | (6,686 | ) | 46,562 | ||||||||
|
Cash
and cash equivalents, beginning of year
|
118,131 | 124,817 | 78,255 | |||||||||
|
Cash
and cash equivalents, end of year
|
$ | 153,137 | $ | 118,131 | $ | 124,817 | ||||||
|
Supplemental
Information:
|
||||||||||||
|
Cash
paid for:
|
||||||||||||
|
Interest
|
$ | 137,397 | $ | 91,985 | $ | 66,839 | ||||||
|
Income
taxes
|
13,314 | 29,364 | 12,002 | |||||||||
|
The
accompanying notes are a part of the consolidated financial
statements.
|
||||||||||||
NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
Note
A — Accounting Policies
The
principal line of business of 1st Source and our subsidiaries is banking and
closely related activities. The following is a summary of significant accounting
policies followed in the preparation of the consolidated financial
statements.
Principles of Consolidation — The financial
statements consolidate 1st Source and our subsidiaries (principally the Banks).
All significant intercompany balances and transactions have been eliminated. For
purposes of the parent company only financial information presented in Note T,
investments in subsidiaries are carried at equity in our underlying net
assets.
Use of Estimates in the Preparation of Financial
Statements — Financial statements prepared in accordance with U. S.
generally accepted accounting principles require our 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 income and expenses during
the reporting period. Actual results could differ from those
estimates.
Business Combinations — Business combinations
are accounted for under the purchase method of accounting. Under the purchase
method, assets and liabilities of the business acquired are recorded at their
estimated fair values as of the date of acquisition with any excess of the cost
of the acquisition over the fair value of the net tangible and intangible assets
acquired recorded as goodwill. Results of operations of the acquired business
are included in the income statement from the date of acquisition. Refer to Note
C - Acquisitions for further discussion.
Cash Flow — For purposes of the consolidated
and parent company only statements of cash flows, we consider cash and due from
banks as cash and cash equivalents.
Securities — Securities that we have the
ability and positive intent to hold to maturity are classified as investment
securities held-to-maturity. Held-to-maturity investment securities, when
present, are carried at amortized cost. We currently hold no securities
classified as held-to-maturity. Securities that may be sold in response to, or
in anticipation of, changes in interest rates and resulting prepayment risk, or
for other factors, are classified as available-for-sale and are carried at fair
value. Unrealized gains and losses on these securities are reported net of
applicable taxes, as a separate component of accumulated other comprehensive
income (loss) in shareholders’ equity.
The fair
value is determined based on quoted market prices. If quoted market
prices are not available, fair value is determined based on quoted prices of
similar instruments. Available-for-sale and held-to-maturity
securities are reviewed quarterly for possible other-than-temporary
impairment. The review includes an analysis of the facts and
circumstances of each individual investment such as length of time the fair
value has been below cost, the expectation for that security's performance, the
credit worthiness of the issuer, and our intent and ability to hold the security
for a time necessary to recover the amortized cost. A decline in
value that is determined to be other-than-temporary is recorded as a loss in the
Consolidated Statements of Income.
Debt and
equity securities that are purchased and held principally for the purpose of
selling them in the near term are classified as trading account securities and
are carried at fair value with unrealized gains and losses reported in earnings.
At December 31, 2007 and 2006, we did not have any securities classified as
trading securities. Realized gains and losses on the sales of all
securities are reported in earnings and computed using the specific
identification cost basis.
Loans and Leases — Loans are stated at the
principal amount outstanding, net of unamortized deferred loan origination fees
and costs and net of unearned income. Interest income is accrued as
earned based on unpaid principal balances. Origination fees and
direct loan and lease origination costs are deferred and the net amount
amortized to interest income over the estimated life of the related loan or
lease. Loan commitment fees are deferred and amortized into other income over
the commitment period.
Direct
financing leases are carried at the aggregate of lease payments plus estimated
residual value of the leased property, less unearned income. Interest
income on direct financing leases is recognized over the term of the lease to
achieve a constant periodic rate of return on the outstanding
investment.
The
accrual of interest on loans and leases is discontinued when a loan or lease
becomes contractually delinquent for 90 days, or when an individual analysis of
a borrower's credit worthiness indicates a credit should be placed on
nonperforming status, except for residential mortgage loans and consumer loans
that are well secured and in the process of collection. Residential mortgage
loans are placed in nonaccrual at the time the loan is placed in foreclosure.
When interest accruals are discontinued, interest credited to income in the
current year is reversed and interest accrued in the prior year is charged to
the reserve for loan and lease losses. However, in some cases, management may
elect to continue the accrual of interest when the net realizable value of
collateral is sufficient to cover the principal and accrued interest. When a
loan or lease is classified as nonaccrual and the future collectibility of the
recorded loan or lease balance is doubtful, collections on interest and
principal are applied as a reduction to principal outstanding.
A loan or
lease is considered impaired, based on current information and events, if it is
probable that we will be unable to collect the scheduled payments of principal
or interest when due according to the contractual terms of the loan or lease
agreement. Interest on impaired loans and leases, which are not classified as
nonaccrual, is recognized on the accrual basis. We evaluate loans and
leases exceeding $100,000 for impairment in accordance with the provisions of
Statement of Financial Accounting Standards No. 114, "Accounting by Creditors for
Impairment of a Loan," (SFAS No. 114) which requires an allowance to be
established as a component of the allowance for loan and lease losses when it is
probable all amounts due will not be collected pursuant to the contractual terms
of the loan and lease and the recorded investment in the loan or lease exceeds
its fair value.
1st
Source Bank sells mortgage loans to the Government National Mortgage Association
(GNMA) in the normal course of business and retains the servicing
rights. The GNMA programs under which the loans are sold allow us to
repurchase individual delinquent loans that meet certain criteria from the
securitized loan pool. At our option, and without GNMA's prior
authorization, we may repurchase a delinquent loan for an amount equal to 100%
of the remaining principal balance on the loan. Under SFAS No. 140,
once we have the unconditional ability to repurchase a delinquent loan, we are
deemed to have regained effective control over the loan and we are required to
recognize the loan on our balance sheet and record an offsetting liability,
regardless of our intent to repurchase the loan. At December 31, 2007
and 2006, residential real estate portfolio loans included $2.91 million and
$2.42 million, respectively, of loans available for repurchase under the GNMA
optional repurchase programs with the offsetting liability recorded within other
short-term borrowings.
Mortgage Banking Activities — Loans held for
sale are primarily composed of performing one-to-four family residential
mortgage loans originated for resale and carried at the lower of cost or fair
value as determined on an aggregate basis. Fair value is determined using
available secondary market prices for loans with similar coupons, maturities,
and credit quality.
We
recognize the rights to service mortgage loans for others as separate assets,
whether the servicing rights are acquired through a separate purchase or through
the sale of originated loans with servicing rights retained. We allocate a
portion of the total cost of a mortgage loan to servicing rights based on the
relative fair value. The fair value of the servicing rights is based on market
prices, when available, or is determined by estimating the present value of
future net servicing income, taking into consideration market loan prepayment
speeds and discount rates. These assets are amortized as reductions of mortgage
servicing fee income over the estimated servicing period in proportion to the
estimated servicing income to be received. Gains and losses on the sale of
mortgage servicing rights are recognized as noninterest income in the period in
which such rights are sold.
Mortgage
servicing assets are evaluated for impairment in accordance with SFAS No.
140. For purposes of impairment measurement, mortgage servicing
assets are stratified based on the predominant risk characteristics of the
underlying servicing, principally by loan type and interest rate. The fair value
of each tranche of the servicing portfolio is estimated by calculating the
present value of estimated future net servicing cash flows, taking into
consideration actual and expected mortgage loan prepayment rates, discount
rates, servicing costs, and other economic factors. If temporary impairment
exists within a tranche, a valuation allowance is established through a charge
to income equal to the amount by which the carrying value exceeds the fair
value. If it is later determined all or a portion of the temporary impairment no
longer exists for a particular tranche, the valuation allowance is reduced
through a recovery of income.
Mortgage
servicing assets are also reviewed for other-than-temporary impairment.
Other-than-temporary impairment exists when recoverability of a recorded
valuation allowance is determined to be remote considering historical and
projected interest rates, prepayments, and loan pay-off activity. When this
situation occurs, the unrecoverable portion of the valuation allowance is
applied as a direct write-down to the carrying value of the mortgage servicing
asset. Unlike a valuation allowance, a direct write-down permanently reduces the
carrying value of the mortgage servicing asset and the valuation allowance,
precluding subsequent recoveries.
As part
of mortgage banking operations, we enter into commitments to purchase or
originate loans whereby the interest rate on these loans is determined prior to
funding ("rate lock commitments"). Similar to loans held for sale,
the fair value of rate lock commitments is subject to change primarily due to
changes in interest rates. Under our risk management policy, these
fair values are hedged primarily by selling forward contracts on agency
securities. The rate lock commitments on mortgage loans intended to
be sold and the related hedging instruments are recorded at fair value with
changes in fair value recorded in current earnings. The fair value of
rate lock commitments is determined using current secondary market prices for
underlying loans with similar coupons, maturity and credit quality, subject to
the anticipated loan funding probability, or fallout factor. The
benefit of servicing rights inherent in the loans underlying the rate lock
commitments is not recognized until these loans are funded and
sold.
Reserve for Loan and Lease Losses — The reserve
for loan and lease losses is maintained at a level believed to be adequate by
management to absorb probable losses inherent in the loan and lease portfolio.
The determination of the reserve requires significant judgment reflecting
management’s best estimate of probable loan and lease losses related to
specifically identified loans and leases as well as probable losses in the
remainder of the various loan and lease portfolios. The methodology for
assessing the appropriateness of the reserve consists of several key elements,
which include: specific reserves for identified special attention loans and
leases (classified loans and leases and internal watch list credits), percentage
allocations for special attention loans and leases without specific reserves,
formula reserves for each business lending division portfolio including a higher
percentage reserve allocation for special attention loans and leases without a
specific reserve and reserves for pooled homogenous loans and leases.
Management’s evaluation is based upon a continuing review of these portfolios,
estimates of future customer performance, collateral values and disposition and
forecasts of economic and geopolitical events, all of which are subject to
judgment and will change.
Specific
reserves are established for certain business and specialty finance credits
based on a regular analysis of special attention loans and leases. This analysis
is performed by the Credit Policy Committee, the Loan Review Department, Credit
Administration, and the Loan Workout Departments. The specific reserves are
based on an analysis of underlying collateral values, cash flow considerations
and, if applicable, guarantor capacity.
The
formula reserves determined for each business lending division portfolio are
calculated quarterly by applying loss factors to outstanding loans and leases
and certain unfunded commitments based upon a review of historical loss
experience and qualitative factors, which include but are not limited to,
economic trends, current market risk assessment by industry, recent loss
experience in particular segments of the portfolios, movement in equipment
values collateralizing specialized industry portfolios, concentrations of
credit, delinquencies, trends in volume, experience and depth of relationship
managers and division management, and the effects of changes in lending policies
and practices, including changes in quality of the loan and lease origination,
servicing and risk management processes. Special attention loans and leases
without specific reserves receive a higher percentage allocation ratio than
credits not considered special attention.
Pooled
loans and leases are smaller credits and are homogenous in nature, such as
consumer credits and residential mortgages. Pooled loan and lease loss reserves
are based on historical net charge-offs, adjusted for delinquencies, the effects
of lending practices and programs and current economic conditions, and projected
trends in the geographic markets which we serve.
A
comprehensive analysis of the reserve is performed by management on a quarterly
basis. Although management determines the amount of each element of the reserve
separately and relies on this process as an important credit management tool,
the entire reserve is available for the entire loan and lease portfolio. The
actual amount of losses incurred can vary significantly from the estimated
amounts both positively and negatively. Management’s methodology includes
several factors intended to minimize the difference between estimated and actual
losses. These factors allow management to adjust our estimate of losses based on
the most recent information available.
Loans and
leases, which are deemed uncollectible, are charged off and deducted from the
reserve, while recoveries of amounts previously charged off are credited to the
reserve. A (recovery of) provision for loan and lease losses is credited or
charged to operations based on management’s periodic evaluation of the factors
previously mentioned, as well as other pertinent factors.
Equipment Owned Under Operating Leases — We
finance various types of construction equipment, medium and heavy duty trucks,
and automobiles under leases classified as operating leases. Revenue consists of
the contractual lease payments and is recognized on a straight-line basis over
the lease term. Lease terms range from three to seven years. Leased assets are
being depreciated on a straight-line method over the lease term to the estimate
of the equipment’s fair market value at lease termination, also referred to as
"residual" value. These residual values are reviewed periodically to ensure the
recorded amount does not exceed the fair market value at the lease
termination.
Other Real Estate — Other real estate acquired
through partial or total satisfaction of nonperforming loans is included in
other assets and recorded at the estimated fair value less anticipated selling
costs based upon the property’s appraised value at the date of transfer, with
any difference between the fair value of the property less cost to sell, and the
carrying value of the loan charged to the reserve for loan losses. Other real
estate also includes bank premises qualifying as held for sale under SFAS No.
144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." Bank premises
are transferred at the lower of carrying value or estimated fair value less
anticipated selling costs. Subsequent changes in value of other real
estate are reported as adjustments to the carrying amount and are recorded in
noninterest expense on the income statement. Gains or losses not previously
recognized resulting from the sale of other real estate are recognized on the
date of sale. As of December 31, 2007 and 2006, other real estate had carrying
values of $4.82 million and $0.80 million, respectively.
Repossessed Assets — Repossessed assets may
include fixtures and equipment, inventory and receivables, and aircraft,
construction equipment, and vehicles acquired through foreclosure or in lieu of
foreclosure from our business banking activities and our specialty finance
activities. Repossessed assets are included in other assets at the lower of cost
or fair value of the equipment or vehicle. We estimate fair value based on the
best estimate of an orderly liquidation value. Valuation resources typically
include vehicle and equipment dealers, valuation guides, and other third
parties, including appraisers. At the time of foreclosure, the recorded amount
of the loan or lease is written down, if necessary, to the fair value of the
equipment or vehicle by a charge to the reserve for loan and lease losses.
Subsequent write-downs are included in noninterest expense. Gains or losses not
previously recognized resulting from the sale of repossessed assets are
recognized on the date of sale. Repossessed assets totaled $2.29
million and $0.97 million, as of December 31, 2007 and 2006,
respectively.
Premises and Equipment — Premises and equipment
are stated at cost, less accumulated depreciation and amortization. The
provision for depreciation is computed by the straight-line method, primarily
with useful lives ranging from three to 31.5 years. Maintenance and repairs are
charged to expense as incurred, while improvements, which extend the useful
life, are capitalized and depreciated over the estimated remaining
life.
Long-lived
depreciable assets are evaluated periodically for impairment when events or
changes in circumstances indicate the carrying amount may not be recoverable.
Impairment exists when the expected undiscounted future cash flows of a
long-lived asset are less than its carrying value. In that event, we recognize a
loss in the amount of the difference between the carrying amount and the
estimated fair value of the asset based on a quoted market price, if applicable,
or a discounted cash flow analysis. Impairment losses are recorded in other
noninterest expense in the income statement.
Goodwill and Intangibles — Goodwill represents
the excess of the cost of an acquisition over the fair value of the net assets
acquired. Other intangible assets represent purchased assets that also lack
physical substance but can be distinguished from goodwill because of contractual
or other legal rights or because the asset is capable of being sold or exchanged
either on its own or in combination with a related contract, asset, or
liability. Goodwill is reviewed at least annually for impairment.
Intangible assets that have finite lives continue to be amortized over their
estimated useful lives and also continue to be subject to impairment testing.
All of our other intangible assets have finite lives and are amortized on a
straight-line basis over varying periods not exceeding eight years. We performed
the required annual impairment test of goodwill during the first quarter of 2007
and determined that no impairment exists.
Venture
Capital Investment — We account for
our investments in venture capital partnerships on the equity method based upon
the guidance included in EITF D-46. The venture capital partnerships
which we have investments in, account for their investments at fair value
pursuant to the guidance in the AICPA Investment Company
Guide. As a result, our investments in these venture capital
partnerships reflect the underlying fair value of the partnerships’
investments. We account for our investments in venture capital
partnerships that are owned three percent and greater under this
method. We account for our investments in venture capital
partnerships that are owned less than three percent at the lower of cost or
market. Venture capital
investments in partnerships are included in other assets on the balance sheet.
The balances as of December 31, 2007 and 2006 were $1.65 million and $2.31
million, respectively.
Short-Term Borrowings — Our short-term
borrowings consist of Federal funds purchased, securities sold under agreements
to repurchase, commercial paper, U.S. Treasury demand notes, Federal Home Loan
Bank notes, and borrowings from non-affiliated banks. Federal funds purchased,
securities sold under agreements to repurchase, and other short-term borrowings
mature within one to 365 days of the transaction date. Commercial paper matures
within seven to 270 days. Other short-term borrowings on the balance
sheet include our liability related to mortgage loans available for repurchase
under GNMA optional repurchase programs.
Securities
purchased under agreements to resell and securities sold under agreements to
repurchase are treated as collateralized financing transactions and are recorded
at the amounts at which the securities were acquired or sold plus accrued
interest. The fair value of collateral either received from or provided to a
third party is continually monitored and additional collateral obtained or
requested to be returned to us as deemed appropriate.
Trust Fees — Trust fees are recognized on the
accrual basis.
Income Taxes — 1st Source and our subsidiaries
file a consolidated Federal income tax return. The provision for incomes taxes
is based upon income in the consolidated financial statements, rather than
amounts reported on our income tax return. Deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized as income or expense in the period that
includes the enactment date.
Positions
taken in our tax returns may be subject to challenge by the taxing authorities
upon examination. Uncertain tax positions are initially recognized in the
financial statements when it is more likely than not the position will be
sustained upon examination by the tax authorities. Such tax positions are both
initially and subsequently measured as the largest amount of tax benefit that is
greater than 50% likely of being realized upon settlement with the tax
authority, assuming full knowledge of the position and all relevant facts. We
provide for interest and, in some cases, penalties on tax positions that may be
challenged by the taxing authorities. Interest expense is recognized beginning
in the first period that such interest would begin accruing. Penalties are
recognized in the period that we claim the position in the tax return. Interest
and penalties on income tax uncertainties are classified within income tax
expense in the income statement.
Net Income Per Common Share — Net income per
common share is computed in accordance with SFAS No. 128, "Earnings per Share." Basic earnings per share is computed
by dividing net income by the weighted-average number of shares of common stock
outstanding, which were as follows (in thousands): 2007, 23,516; 2006, 22,537;
and 2005, 22,755. Diluted earnings per share is computed by dividing net income
by the weighted-average number of shares of common stock outstanding, plus the
dilutive effect of outstanding stock options. The weighted-average number of
common shares, increased for the dilutive effect of stock options, used in the
computation of diluted earnings per share were as follows (in thousands): 2007,
23,810; 2006, 22,830; and 2005, 23,053.
Stock-Based Employee Compensation — Prior to
January 1, 2006, employee compensation expense under stock option plans was
reported only if options were granted below market price at grant date in
accordance with the intrinsic value method of Accounting Principles Board
Opinion No. 25 (APB No. 25), "Accounting for Stock Issued to
Employees," and related interpretations. We generally would have
recognized compensation expense for stock options only if we granted options
with a discounted exercise price or modified the terms of previously issued
options, and would have recognized the related compensation expense ratably over
the associated service period, which was generally the option vesting
term. Because the exercise price of the employee stock options
granted always equaled the market price of the underlying stock on the date of
grant, no compensation expense was recognized on options granted.
We adopted the provisions
of SFAS No. 123(R) on January 1, 2006. SFAS
No. 123(R) 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 income statement based on their fair values on the
measurement date, which, for our purposes, is the date of grant. We
transitioned to fair-value based accounting for stock-based compensation using
the modified prospective application and, therefore, have not restated results
for prior periods. This transition method applies to new awards for
service periods beginning on or after January 1, 2006, and to awards modified,
repurchased, or cancelled after January 1, 2006. Additionally,
compensation cost for the portion of awards for which the requisite service has
not been rendered (generally referring to non-vested award) which were granted
prior to January 1, 2006 will be recognized as the remaining requisite service
is rendered during the period of and/or the periods after the adoption of SFAS
No. 123(R).
SFAS No.
123(R) requires pro forma disclosures of net income and earnings per share for
all periods prior to the adoption of the fair value accounting method for
stock-based employee compensation. The pro forma disclosures
presented in Note L - Employee Stock Benefit Plans use the fair value method
of SFAS No. 123 to measure compensation expense for stock-based employee
compensation plans for years prior to 2006.
Segment Information — In our management's
opinion, 1st Source has one principal business segment, commercial
banking. While our chief decision makers monitor the revenue streams
of various products and services, the identifiable segments operations are
managed and financial performance is evaluated on a company-wide
basis. Accordingly, all of our financial service operations are
considered by management to be aggregated in one reportable operating
segment.
Derivative Financial Instruments — We
occasionally enter into derivative financial instruments as part of our interest
rate risk management strategies. These derivative financial instruments consist
primarily of interest rate swaps. Under the guidance of SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," as amended, all derivative
instruments are recorded on the balance sheet, as either an asset or liability,
at their fair value. The accounting for the gain or loss resulting from the
change in fair value depends on the intended use of the derivative. For a
derivative used to hedge changes in fair value of a recognized asset or
liability, or an unrecognized firm commitment, the gain or loss on the
derivative will be recognized in earnings together with the offsetting loss or
gain on the hedged item. This results in an earnings impact only to the extent
that the hedge is ineffective in achieving offsetting changes in fair
value. If it is determined that the derivative instrument is not
highly effective as a hedge, hedge accounting is discontinued and the adjustment
to fair value of the derivative instrument is recorded in
earnings. For a derivative used to hedge changes in cash flows
associated with forecasted transactions, the gain or loss on the effective
portion of the derivative will be deferred, and reported as accumulated other
comprehensive income, a component of shareholders’ equity, until such time the
hedged transaction affects earnings. For derivative instruments not accounted
for as hedges, changes in fair value are recognized in noninterest
income/expense. Deferred gains and losses from derivatives that are
terminated are amortized over the shorter of the original remaining term of the
derivative or the remaining life of the underlying asset or
liability.
Reclassifications — Certain amounts in the
prior period consolidated financial statements have been reclassified to conform
with the current year presentation. These reclassifications had no effect on
total assets, shareholders’ equity or net income as previously
reported. We declared a 10% stock dividend on July 27, 2006;
therefore, all share and per share information has been adjusted
accordingly
Note
B — Recent Accounting Pronouncements
Noncontrolling
Interests in Consolidated Financial Statements: In December
2007, the Financial Accounting Standards Board (FASB) issued Statement No. 160,
“Noncontrolling Interests in
Consolidated Financial Statements – an amendment of ARB No. 51” (SFAS No.
160). SFAS No. 160 requires that a noncontrolling interest in a
subsidiary be reported separately within equity and the amount of consolidated
net income specifically attributable to the noncontrolling interest be
identified in the consolidated financial statements. It also calls
for consistency in the manner of reporting changes in the parent’s ownership
interest and requires fair value measurement of any noncontrolling equity
investment retained in a deconsolidation. SFAS No. 160 is effective
for fiscal years, and interim periods within those fiscal years, beginning on or
after December 15, 2008. We do not expect the provisions of SFAS No.
160 to have a material impact on our financial condition or results of
operations.
Business
Combinations: In December 2007, the FASB issued SFAS No. 141R,
“Business
Combinations.” SFAS No. 141R broadens the guidance of SFAS No.
141, extending its applicability to all transactions and other events in which
one entity obtains control over one of more other businesses. It
broadens the fair value measurement and recognition of assets acquired,
liabilities assumed, and interests transferred as a result of business
combinations. SFAS No. 141R expands on required disclosures to
improve the statement users’ abilities to evaluate the nature and financial
effects of business combinations. SFAS No. 141R is effective for the
first annual reporting period beginning on or after December 15,
2008. The provisions of SFAS No. 141R will only impact us if we are
party to a business combination closing on or after January 1,
2009.
Written Loan Commitments
Recorded at Fair Value Through
Earnings: In November 2007, the
Securities and Exchange Commission issued Staff Accounting Bulletin No. 109 (SAB
No. 109), “Written Loan Commitments Recorded at Fair Value through Earnings,” an
amendment of SAB No. 105, “Application of Accounting Principles to
Loan Commitments.” Under SAB No. 109, the expected net future cash
flows of associated loan servicing activities should be included in the
measurement of written loan commitments accounted for at fair value through
earnings. The guidance in SAB No. 109 is applied on a prospective
basis to derivative loan commitments issued or modified in fiscal quarters
beginning after December 15, 2007. We do not expect the adoption of
SAB No. 109 to have a material impact on our financial condition or results of
operations.
Fair Value
Option: In February 2007, the FASB issued SFAS No. 159,
“The Fair Value Option for
Financial Assets and Financial Liabilities – Including an Amendment of FASB No.
115.” This standard permits an entity to choose to measure
many financial instruments and certain other items at fair value. The
fair value option permits companies to choose to measure eligible items at fair
value at specified election dates. Companies will report unrealized
gains and losses on items for which the fair value option has been elected in
earnings after adoption. SFAS No. 159 requires additional disclosures
related to the fair value measurements included in the companies financial
statements. This statement is effective for financial statements
issued for fiscal years beginning after November 15, 2007. We will
adopt SFAS No. 159 on January 1, 2008. We do not expect the
provisions of this statement to have a material impact on our financial
condition or results of operations.
Fair Value
Measurements: In September 2006, the FASB issued SFAS
No. 157, “Fair Value
Measurements.” This standard clarifies the principle that fair
value should be based on the assumptions that market participants would use when
pricing an asset or liability. Additionally, it establishes a fair value
hierarchy that prioritizes the information used to develop those assumptions.
The provisions of SFAS No. 157 are effective as of the beginning of our 2008
fiscal year. We do not expect the provisions of this
interpretation to have a material impact on our financial condition or results
of operations.
Employers’
Accounting for Defined Benefit Pension and Other Postretirement
Plans: In September 2006, the FASB issued SFAS
No. 158, “Employers’
Accounting for Defined Benefit Pension and Other Postretirement Plans an
amendment of FASB Statements No. 87, 88, 106, and 132(R).”
This standard requires employers to recognize the underfunded or overfunded
status of a defined benefit postretirement plan as an asset or liability in its
statement of financial position and to recognize changes in the funded status in
the year in which the changes occur through accumulated other comprehensive
income. Additionally, SFAS No. 158 requires employers to measure the funded
status of a plan as of the date of its year-end statement of financial position.
We have adopted the new reporting requirements and related new footnote
disclosure rules of SFAS No. 158 however, our accrued postretirement benefit
cost was not material at December 31, 2007, 2006, and 2005; therefore,
additional disclosure is not provided. The new measurement date
requirement applies for fiscal years ending after December 15, 2008. We do not
expect the new measurement date requirement of this statement to have a material
impact on our financial condition or results of operations.
Accounting for
Uncertainty in Income Taxes: In July 2006, the FASB
issued FASB Interpretation No. 48 (FIN No. 48), “Accounting for Uncertainty in Income
Taxes—an interpretation of FASB Statement No. 109” which clarifies
the accounting for uncertainty in tax positions. FIN No. 48 requires that we
recognize in our financial statements, the impact of a tax position, if that
position is more likely than not of being sustained on audit, based on the
technical merits of the position. We adopted the provisions of FIN No. 48
effective January 1, 2007. The adoption of FIN No. 48 did not have
any impact on our financial condition. Details related to the
adoption of FIN No. 48 are more fully discussed in Note O - Income
Taxes.
Note
C — Acquisitions
On May
31, 2007, we acquired FINA Bancorp (FINA), the parent company of First National
Bank, Valparaiso (First National), for $134.19 million. First
National is a full service bank that had 26 banking facilities located in
Porter, LaPorte and Starke Counties of Indiana. Pursuant to the
definitive agreement, FINA shareholders were able to choose whether to receive
1st Source common stock and/or cash pursuant to the election procedures
described in the definitive agreement. Under the terms of the
transaction, FINA was acquired in exchange for 2,124,974 shares of 1st Source
common stock valued at $53.68 million and $80.51 million in cash. The
value of the common stock was $25.26 per share. We believe that the
purchase of FINA is a natural extension of our service area and is consistent
with our growth and market expansion initiatives. The results of operations for
First National have been included in the consolidated financial statements since
the date of acquisition.
The
acquisition was accounted for under the purchase method of accounting, and
accordingly, the purchase price has been allocated to the tangible and
identified intangible assets purchased and the liabilities assumed based upon
the estimated fair values at the date of acquisition. There are
refinements in the process of allocating the purchase price that have not been
entirely completed. Identified intangible assets and purchase
accounting fair value adjustments are being amortized under various methods over
the expected lives of the corresponding assets and
liabilities. Goodwill will not be amortized, but will be reviewed for
impairment on an annual basis.
The
following table shows the excess purchase price over carrying value of new
assets acquired, purchase prince allocation and resulting goodwill recorded to
date.
|
(Dollars
in thousands)
|
||||
|
Purchase
price
|
$ | 134,193 | ||
|
Carrying
value of net assets acquired
|
68,676 | |||
|
Excess
of purchase price over carrying value of net assets
acquired
|
65,517 | |||
|
Purchase
accounting adjustments
|
||||
|
Securities
|
(44 | ) | ||
|
Loans
|
1,707 | |||
|
Premises
and equipment
|
1,765 | |||
|
Mortgage
servicing rights
|
(511 | ) | ||
|
Other
assets
|
337 | |||
|
Deposits
|
(1,489 | ) | ||
|
Severance
and exit costs
|
3,098 | |||
|
Other
liabilities
|
503 | |||
|
Deferred
taxes
|
1,944 | |||
|
Subtotal
|
72,827 | |||
|
Core
deposit intangibles
|
(8,689 | ) | ||
|
Other
identifiable intangible assets
|
(254 | ) | ||
|
Goodwill
|
$ | 63,884 | ||
The
following table summarizes the estimated fair value of net assets acquired
related to the FINA acquisition.
|
(Dollars
in thousands)
|
||||
|
Assets:
|
||||
|
Cash
and cash equivalents
|
$ | 171,308 | ||
|
Securities
|
184,494 | |||
|
Loans,
net of reserve for loan losses
|
235,709 | |||
|
Premises
and equipment
|
14,277 | |||
|
Mortgage
servicing rights
|
1,086 | |||
|
Goodwill
and other intangibles
|
72,827 | |||
|
Other
assets
|
8,623 | |||
|
Total
assets
|
688,324 | |||
|
Liabilities:
|
||||
|
Deposits
|
(521,630 | ) | ||
|
Borrowings
|
(18,184 | ) | ||
|
Other
liabilities
|
(14,317 | ) | ||
|
Total
liabilities
|
(554,131 | ) | ||
|
Fair
value of net assets acquired
|
$ | 134,193 | ||
Note
D — Investment Securities
Investment
securities available-for-sale were as follows:
|
Amortized
|
Gross
|
Gross
|
||||||||||||||
|
(Dollars
in thousands)
|
Cost
|
Unrealized
Gains
|
Unrealized
Losses
|
Fair
Value
|
||||||||||||
|
December
31, 2007
|
||||||||||||||||
|
U.S.
Treasury and government agencies securities
|
$ | 284,214 | $ | 1,556 | $ | (134 | ) | $ | 285,636 | |||||||
|
States
and political subdivisions
|
258,260 | 1,162 | (544 | ) | 258,878 | |||||||||||
|
Mortgage-backed
securities
|
199,382 | 988 | (1,274 | ) | 199,096 | |||||||||||
|
Other
securities
|
49,003 | 2,832 | (527 | ) | 51,308 | |||||||||||
|
Total
investment securities available-for-sale
|
$ | 790,859 | $ | 6,538 | $ | (2,479 | ) | $ | 794,918 | |||||||
|
December
31, 2006
|
||||||||||||||||
|
U.S.
Treasury and government agencies securities
|
$ | 386,678 | $ | 67 | $ | (2,442 | ) | $ | 384,303 | |||||||
|
States
and political subdivisions
|
182,356 | 266 | (1,882 | ) | 180,740 | |||||||||||
|
Mortgage-backed
securities
|
79,648 | 490 | (960 | ) | 79,178 | |||||||||||
|
Other
securities
|
60,409 | 4,328 | (286 | ) | 64,451 | |||||||||||
|
Total
investment securities available-for-sale
|
$ | 709,091 | $ | 5,151 | $ | (5,570 | ) | $ | 708,672 | |||||||
The
contractual maturities of investment securities available-for-sale at December
31, 2007, are shown below. Expected maturities will differ from contractual
maturities, because borrowers may have the right to call or prepay obligations
with or without call or prepayment penalties.
|
Amortized
|
||||||||
|
(Dollars
in thousands)
|
Cost
|
Fair
Value
|
||||||
|
Due
in one year or less
|
$ | 358,627 | $ | 359,279 | ||||
|
Due
after one year through five years
|
145,222 | 146,157 | ||||||
|
Due
after five years through ten years
|
50,917 | 51,344 | ||||||
|
Due
after ten years
|
- | - | ||||||
|
Mortgage-backed
securities
|
199,382 | 199,096 | ||||||
|
Equity
securities
|
36,711 | 39,042 | ||||||
|
Total
investment securities available-for-sale
|
$ | 790,859 | $ | 794,918 | ||||
At
December 31, 2007, the mortgage-backed securities we held consisted primarily of
GNMA, FNMA and FHLMC pass-through certificates which are guaranteed by those
respective agencies of the United States government. At December 31,
2007, other securities we held consisted primarily of other equity investments,
FNMA and FHLMC preferred securities, and FHLB securities.
Gross
realized losses of $4.12 million, $0.45 million, and $0.64 million and gross
gains of $1.06 million, $0.61 million, and $0.17 million were recognized on
investment securities available-for-sale, in 2007, 2006, and 2005,
respectively. The gross losses in 2007 and 2005 include $4.11 million
and $0.61 million, respectively, in other-than-temporary impairment on preferred
stock issued by the FNMA and the FHLMC. We did not record any
other-than-temporary impairment on any securities for 2006. There
were no trading securities outstanding at December 31, 2007 or
2006.
The
following tables summarize our gross unrealized losses and fair value by
investment category and age:
|
Less
than 12 Months
|
12
months or Longer
|
Total
|
||||||||||||||||||||||
|
Fair
|
Unrealized
|
Fair
|
Unrealized
|
Fair
|
Unrealized
|
|||||||||||||||||||
|
(Dollars
in thousands)
|
Value
|
Losses
|
Value
|
Losses
|
Value
|
Losses
|
||||||||||||||||||
|
December
31, 2007
|
||||||||||||||||||||||||
|
U.S.
Treasury and government agencies securities
|
$ | 5,058 | $ | (5 | ) | $ | 47,856 | $ | (129 | ) | $ | 52,914 | $ | (134 | ) | |||||||||
|
States
and political subdivisions
|
30,209 | (137 | ) | 70,039 | (407 | ) | 100,248 | (544 | ) | |||||||||||||||
|
Mortgage-backed
securities
|
64,965 | (627 | ) | 27,680 | (647 | ) | 92,645 | (1,274 | ) | |||||||||||||||
|
Other
securities
|
921 | (229 | ) | 6,715 | (298 | ) | 7,636 | (527 | ) | |||||||||||||||
|
Total
temporarily impaired securities
|
$ | 101,153 | $ | (998 | ) | $ | 152,290 | $ | (1,481 | ) | $ | 253,443 | $ | (2,479 | ) | |||||||||
|
December
31, 2006
|
||||||||||||||||||||||||
|
U.S.
Treasury and government agencies securities
|
$ | 139,532 | $ | (58 | ) | $ | 137,416 | $ | (2,384 | ) | $ | 276,948 | $ | (2,442 | ) | |||||||||
|
States
and political subdivisions
|
21,702 | (65 | ) | 112,493 | (1,817 | ) | 134,195 | (1,882 | ) | |||||||||||||||
|
Mortgage-backed
securities
|
17,585 | (105 | ) | 27,013 | (855 | ) | 44,598 | (960 | ) | |||||||||||||||
|
Other
securities
|
2,236 | (56 | ) | 6,302 | (230 | ) | 8,538 | (286 | ) | |||||||||||||||
|
Total
temporarily impaired securities
|
$ | 181,055 | $ | (284 | ) | $ | 283,224 | $ | (5,286 | ) | $ | 464,279 | $ | (5,570 | ) | |||||||||
At
December 31, 2007, we do not believe any individual unrealized loss represented
other-than-temporary impairment. The unrealized losses were primarily
attributable to changes in interest rates. We have both the
intent and the ability to hold these securities for a time necessary to recover
the amortized cost.
At
December 31, 2007 and 2006, investment securities with carrying values of
$403.82 million and $286.60 million, respectively, were pledged as collateral to
secure government deposits, security repurchase agreements, and for other
purposes.
Note
E — Loans and Lease Financings
Total
loans and leases outstanding were recorded net of unearned income and deferred
loan fees and costs at December 31, 2007 and 2006, and totaled $3.19 billion and
$2.70 billion, respectively. At December 31, 2007 and 2006, net
deferred loan and lease costs were $6.30 million and $6.26 million,
respectively.
The loan
and lease portfolio includes direct financing leases, which are included in
auto, light truck and environmental equipment, medium and heavy duty truck,
aircraft financing, and construction equipment financing on the consolidated
balance sheet.
A summary
of the gross investment in lease financing and the components of the investment
in lease financing at December 31, 2007 and 2006, follows:
|
(Dollars
in thousands)
|
2007
|
2006
|
||||||
|
Direct
finance leases:
|
||||||||
|
Rentals
receivable
|
$ | 157,658 | $ | 153,058 | ||||
|
Estimated
residual value of leased assets
|
44,775 | 54,060 | ||||||
|
Gross
investment in lease financing
|
202,433 | 207,118 | ||||||
|
Unearned
income
|
(29,402 | ) | (31,773 | ) | ||||
|
Net
investment in lease financing
|
$ | 173,031 | $ | 175,345 | ||||
At
December 31, 2007, the minimum future lease payments receivable for each of the
years 2008 through 2012 were $44.74 million, $37.11 million, $28.39 million,
$18.85 million, and $9.37 million, respectively.
We and
our subsidiaries have extended, and expect to extend in the future, loans to
officers, directors, and principal holders of equity securities of 1st Source
and our subsidiaries and to our associates. In the opinion of management, these
loans are made on substantially the same terms, including interest rates and
collateral, as those prevailing at the time for comparable transactions with
other parties and are consistent with sound banking practices and within
applicable regulatory and lending limitations. The aggregate dollar amounts of
these loans were $5.51 million and $8.99 million at December 31, 2007 and 2006,
respectively. During 2007, $4.31 million of new loans were made and repayments
and other reductions totaled $7.79 million.
Note
F — Reserve for Loan and Lease Losses
Changes
in the reserve for loan and lease losses for each of the three years ended
December 31 are shown below.
|
(Dollars
in thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Balance,
beginning of year
|
$ | 58,802 | $ | 58,697 | $ | 63,672 | ||||||
|
Provision
for (recovery of provision for) loan and lease losses
|
7,534 | (2,736 | ) | (5,855 | ) | |||||||
|
Charge-offs
|
(7,367 | ) | (3,954 | ) | (5,572 | ) | ||||||
|
Recoveries
|
5,254 | 6,795 | 6,452 | |||||||||
|
Reserves
acquired in acquisitions
|
2,379 | - | - | |||||||||
|
Balance,
end of year
|
$ | 66,602 | $ | 58,802 | $ | 58,697 | ||||||
At
December 31, 2007 and 2006, nonaccrual and restructured loans and leases,
substantially all of which are collateralized, were $10.14 million and $15.58
million, respectively. Interest income for the years ended December 31, 2007,
2006, and 2005, would have increased by approximately $0.72 million, $1.28
million, and $1.38 million, respectively, if these loans and leases had earned
interest at their full contract rate.
As of
December 31, 2007 and 2006, impaired loans and leases totaled $6.19 million and
$12.32 million, respectively, of which $1.26 million and $3.73 million had
corresponding specific reserves for loan and lease losses totaling $0.11 million
and $0.49 million, respectively. The remaining balances of impaired loans and
leases had no specific reserves for loan and lease losses associated with them.
As of December 31, 2007, a total of $5.24 million of the impaired loans and
leases were nonaccrual loans and leases. For 2007, 2006, and 2005 the average
recorded investment in impaired loans and leases was $8.35 million, $11.39
million and $27.65 million, respectively, and interest income recognized on
impaired loans and leases totaled $0.04 million, $0.56 million, and $1.01
million, respectively.
Note
G — Operating Leases
We
finance various types of construction equipment, medium and heavy duty trucks,
automobiles, and miscellaneous production equipment under leases principally
classified as operating leases. These operating leases are reported
at cost, net of accumulated depreciation. These operating lease
arrangements require the lessee to make a fixed monthly rental payment over a
specified lease term, typically from three to seven years. These
operating lease assets are recorded net of accumulated depreciation in the
consolidated balance sheet. Rental income is earned on the operating
lease assets and reported as noninterest income. These operating
lease assets are depreciated over the term of the lease to the estimated fair
value of the asset at the end of the lease. The depreciation of these
operating lease assets is reported as a component of noninterest
expense. At the end of the lease, the operating lease asset is either
purchased by the lessee or returned to us.
Operating
lease equipment at December 31, 2007 and 2006, was $81.96 million and $76.31
million, respectively, net of accumulated depreciation of $21.63 million and
$27.76 million, respectively. Depreciable lives for operating lease
equipment generally range from three to seven years.
The
minimum future lease rental payments due from clients on operating lease
equipment at December 31, 2007, totaled $67.36 million, of which $21.97 million
is due in 2008, $18.21 million in 2009, $14.00 million in 2010, $8.93 million in
2011, $3.60 million in 2012, $0.57 million in 2013, and $0.08 million in
2014. Depreciation expense related to operating lease equipment for
the year ended December 31, 2007 was $17.09 million.
Note
H — Premises and Equipment
Premises
and equipment as of December 31 consisted of the following:
|
(Dollars
in thousands)
|
2007
|
2006
|
||||||
|
Land
|
$ | 6,981 | $ | 7,063 | ||||
|
Buildings
and improvements
|
52,443 | 43,111 | ||||||
|
Furniture
and equipment
|
35,397 | 32,948 | ||||||
|
Total
premises and equipment
|
94,821 | 83,122 | ||||||
|
Accumulated
depreciation and amortization
|
(49,773 | ) | (45,796 | ) | ||||
|
Net
premises and equipment
|
$ | 45,048 | $ | 37,326 | ||||
Depreciation
and amortization of properties and equipment totaled $5.36 million in 2007,
$4.80 million in 2006, and $5.00 million in 2005.
Note
I - Mortgage Servicing Assets
The
unpaid principal balance of residential mortgage loans serviced for third
parties was $0.76 billion at December 31, 2007, compared to $0.65 billion at
December 31, 2006, and $1.54 billion at December 31, 2005.
Changes
in the carrying value of mortgage servicing assets and the associated valuation
allowance follow:
|
(Dollars
in thousands)
|
2007
|
2006
|
||||||
|
Mortgage
servicing assets:
|
||||||||
|
Balance
at beginning of period
|
$ | 7,590 | $ | 19,393 | ||||
|
Additions
|
4,987 | 8,023 | ||||||
|
Acquisition
of First National Bank, Valparaiso
|
1,086 | - | ||||||
|
Amortization
|
(2,403 | ) | (4,411 | ) | ||||
|
Sales
|
(3,820 | ) | (15,415 | ) | ||||
|
Carrying
value before valuation allowance at end of period
|
7,440 | 7,590 | ||||||
|
Valuation
allowance:
|
||||||||
|
Balance
at beginning of period
|
(18 | ) | (30 | ) | ||||
|
Impairment
(charges) recoveries
|
(143 | ) | 12 | |||||
|
Balance
at end of period
|
$ | (161 | ) | $ | (18 | ) | ||
|
Net
carrying value of mortgage servicing assets at end of
period
|
$ | 7,279 | $ | 7,572 | ||||
|
Fair
value of mortgage servicing assets at end of period
|
$ | 9,010 | $ | 10,624 | ||||
Mortgage
servicing assets are evaluated for impairment and a valuation allowance is
established through a charge to income when the carrying value of the mortgage
servicing assets exceeds the fair value. Other-than-temporary
impairment is recognized when the recoverability of a recorded valuation
allowance is determined to be remote taking into consideration historical and
projected interest rates and loan pay-off activity. When this situation occurs,
the unrecoverable portion of the valuation allowance is applied as a direct
write-down to the carrying value of the mortgage servicing asset. Unlike a
valuation allowance, a direct write-down permanently reduces the carrying value
of the mortgage servicing asset and the valuation allowance, precluding
subsequent recoveries. During 2007, management determined that it was not
necessary to permanently write-down any previously established valuation
allowance. At December 31, 2007, the fair value of mortgage servicing
assets exceeded the carrying value reported in the consolidated balance sheet by
$1.73 million. This difference represents increases in the fair value of certain
mortgage servicing assets accounted for under SFAS No. 140 that could not be
recorded above cost basis.
The key
economic assumptions used to estimate the value of the mortgage servicing rights
as of December 31 follow:
|
2007
|
2006
|
|||||||
|
Expected
weighted-average life (in years)
|
3.19 | 3.06 | ||||||
|
Weighted-average
constant prepayment rate (CPR)
|
17.28 | % | 12.24 | % | ||||
|
Weighted-average
discount rate
|
8.57 | % | 8.37 | % | ||||
Funds
held in trust at 1st Source for the payment of principal, interest, taxes and
insurance premiums applicable to mortgage loans being serviced for others, were
approximately $6.27 million and $7.67 million at December 31, 2007 and December
31, 2006, respectively. Mortgage loan contractual servicing fees, including late
fees and ancillary income, were $2.58 million, $5.37 million, and $7.86 million
for 2007, 2006, and 2005, respectively. Mortgage loan contractual servicing fees
are included in Mortgage banking income on the consolidated statement of
income.
Note
J — Intangible Assets and Goodwill
At
December 31, 2007, intangible assets consisted of goodwill of $83.68 million and
other intangible assets of $9.89 million, net of accumulated amortization of
$13.21 million. At December 31, 2006, intangible assets consisted of goodwill of
$18.85 million and other intangible assets of $0.57 million, net of accumulated
amortization of $12.34 million. Intangible asset amortization was $0.87 million,
$1.91 million, and $2.66 million for 2007, 2006, and 2005, respectively.
Amortization on other intangible assets is expected to total $1.40 million,
$1.40 million, $1.40 million, $1.37 million, and $1.24 million in 2008, 2009,
2010, 2011, and 2012, respectively.
A summary
of core deposit intangible and other intangible assets as of December 31
follows:
|
(Dollars
in thousands)
|
2007
|
2006
|
||||||
|
Core
deposit intangibles:
|
||||||||
|
Gross
carrying amount
|
$ | 15,655 | $ | 5,710 | ||||
|
Less:
accumulated amortization
|
(5,999 | ) | (5,143 | ) | ||||
|
Net
carrying amount
|
$ | 9,656 | $ | 567 | ||||
|
Other
intangibles:
|
||||||||
|
Gross
carrying amount
|
$ | 7,454 | $ | 7,201 | ||||
|
Less:
accumulated amortization
|
(7,219 | ) | (7,201 | ) | ||||
|
Net
carrying amount
|
$ | 235 | $ | - | ||||
Note
K — Long-Term Debt and Mandatorily Redeemable Securities
Details
of long-term debt and mandatorily redeemable securities as of December 31, 2007
and 2006, are as follows:
|
(Dollars
in thousands)
|
2007
|
2006
|
||||||
|
Term
loan
|
$ | - | $ | 10,000 | ||||
|
Federal
Home Loan Bank borrowings (4.73%–6.54%)
|
26,005 | 26,028 | ||||||
|
Mandatorily
redeemable securities
|
7,188 | 6,181 | ||||||
|
Other
long-term debt
|
1,509 | 1,552 | ||||||
|
Total
long-term debt and mandatorily redeemable securities
|
$ | 34,702 | $ | 43,761 | ||||
Annual
maturities of long-term debt outstanding at December 31, 2007, for the next five
years beginning in 2008, are as follows (in thousands): $15,394; $10,407; $609;
$201; and $34.
At
December 31, 2006, the $10.00 million term loan bore a fixed interest rate of
4.76%. Interest was payable quarterly with principal due at the
October 31, 2007, maturity. The Term Loan Agreement contained, among other
provisions, certain covenants relating to existence and mergers, capital
structure, and financial requirements.
At
December 31, 2007, the Federal Home Loan Bank borrowings represented a source of
funding for certain residential mortgage activities and consisted of eight fixed
rate notes with maturities ranging from 2008 to 2022. These notes were
collateralized by $35.11 million of certain real estate loans.
During
2007, we entered into a line of credit agreement whereby 1st Source may borrow
up to $30.00 million. At December 31, 2007, there were no outstanding
borrowings under this line.
Mandatorily
redeemable securities as of December 31, 2007, of $7.19 million reflected the
"book value" shares under the 1st Source Executive Incentive Plan. See Note L -
Employee Stock Benefit Plans for additional information. Dividends paid on these
shares and increases in book value per share are recorded as other interest
expense. Total interest expense recorded for 2007, 2006, and 2005 was $0.80
million, $0.66 million, and $0.54 million, respectively.
Note
L — Employee Stock Benefit Plans
As of
December 31, 2007, we had five stock-based employee compensation
plans. These plans include two stock option plans, namely, the 1992
Stock Option Plan, and the 2001 Stock Option Plan; two executive stock award
plans, namely, the Executive Incentive Plan, and the Restricted Stock Award
Plan; and the Employee Stock Purchase Plan. These stock-based
employee compensation plans were established to help retain and motivate key
employees. All of the plans have been approved by the shareholders of
1st Source Corporation. The Executive Compensation and Human
Resources Committee (the "Committee") of the 1st Source Corporation Board of
Directors has sole authority to select the employees, establish the awards to be
issued, and approve the terms and conditions of each award under the stock-based
compensation plans.
A
combined summary of activity regarding our active stock option plans and stock
award plans is presented in the following table.
|
Non-Vested
Stock
|
Stock Options
|
|||||||||||||||||||
|
Awards
Outstanding
|
Outstanding
|
|||||||||||||||||||
|
Weighted-
|
Weighted-
|
|||||||||||||||||||
|
Shares
|
Number
of
|
Average
|
Average
|
|||||||||||||||||
|
Available
|
Shares
|
Grant-Date
|
Number
of
|
Exercise
|
||||||||||||||||
|
for
Grant
|
Fair
Value
|
Shares
|
Price
|
|||||||||||||||||
|
Balance,
January 1, 2005
|
2,413,399 | 328,620 | $ | 12.88 | 617,698 | $ | 23.61 | |||||||||||||
|
Shares
authorized --2005 EIP
|
71,963 | - | - | - | - | |||||||||||||||
|
Granted
|
(83,974 | ) | 83,974 | 15.16 | - | - | ||||||||||||||
|
Stock
options exercised
|
- | - | - | (29,721 | ) | 11.31 | ||||||||||||||
|
Stock
awards vested
|
- | (14,892 | ) | 15.39 | - | - | ||||||||||||||
|
Forfeited
|
9,570 | (24,653 | ) | 12.08 | (7,129 | ) | 27.21 | |||||||||||||
|
Canceled
|
- | - | - | - | - | |||||||||||||||
|
Balance,
December 31, 2005
|
2,410,958 | 373,049 | 13.35 | 580,848 | 24.19 | |||||||||||||||
|
Shares
authorized --2006 EIP
|
76,442 | - | - | - | - | |||||||||||||||
|
Granted
|
(97,123 | ) | 94,264 | 16.65 | 2,859 | 29.46 | ||||||||||||||
|
Stock
options exercised
|
- | - | - | (71,062 | ) | 12.78 | ||||||||||||||
|
Stock
awards vested
|
- | (37,269 | ) | 15.57 | - | - | ||||||||||||||
|
Forfeited
|
17,382 | (19,896 | ) | 13.46 | (23,170 | ) | 20.74 | |||||||||||||
|
Canceled
|
- | - | - | - | - | |||||||||||||||
|
Balance,
December 31, 2006
|
2,407,659 | 410,148 | 13.90 | 489,475 | 26.04 | |||||||||||||||
|
Shares
authorized --2007 EIP
|
97,250 | - | - | - | - | |||||||||||||||
|
Granted
|
(131,796 | ) | 129,100 | 18.90 | 2,696 | 28.40 | ||||||||||||||
|
Stock
options exercised
|
- | - | - | (20,654 | ) | 15.63 | ||||||||||||||
|
Stock
awards vested
|
- | (48,530 | ) | 15.43 | - | - | ||||||||||||||
|
Forfeited
|
555 | (20,516 | ) | 12.33 | - | - | ||||||||||||||
|
Canceled
|
- | - | - | - | - | |||||||||||||||
|
Balance,
December 31, 2007
|
2,373,668 | 470,202 | $ | 15.18 | 471,517 | $ | 26.51 | |||||||||||||
Stock Option Plans — Our incentive stock option
plans include the 1992 Stock Option Plan (the "1992 Plan") and the 2001 Stock
Option Plan (the "2001 Plan"). As of December 31, 2007, there were
407,262 stock options remaining exercisable under the 1992 Plan, all of which
will expire no later than January 2011. We have not issued any awards
from the 1992 Plan since 2001, as the 1992 Plan was terminated, except for
outstanding options, after the 2001 Plan was approved by the
shareholders. Options under the 2001 Plan vest in one to eight years
from date of grant. As of December 31, 2007, there were 64,255 shares
available for issuance upon exercise and 2,119,922 shares available for issuance
under the 2001 Plan.
Each
award from all plans is evidenced by an award agreement that specifies the
option price, the duration of the option, the number of shares to which the
option pertains, and such other provisions as the Committee
determines. The option price is equal to the fair market value of a
share of 1st Source Corporation's common stock on the date of
grant. Options granted expire at such time as the Committee
determines at the date of grant and in no event does the exercise period exceed
a maximum of ten years, except for reload options under the 2001 Plan, which are
given the remaining term of the original grant. Upon merger,
consolidation, or other corporate consolidation in which 1st Source Corporation
is not the surviving corporation, as defined in the plans, all outstanding
options immediately vest.
Proceeds
from stock option exercises totaled $0.32 million in 2007, $0.91 million in
2006, and $0.34 million in 2005. During 2007, 20,654 shares were
issued in connection with stock option exercises from available treasury
shares. All shares issued in connection with stock option exercises
and non-vested stock awards are issued from available treasury
stock.
The total
intrinsic value of outstanding stock options and outstanding exercisable stock
options was $0.12 million and $0.06 million, respectively, at December 31,
2007. The total intrinsic value of stock options exercised was $0.27
million in 2007, $0.96 million in 2006, and $0.29 million in
2005. The total fair value of share awards vested was $0.98 million
during 2007, $0.67 million in 2006, and $0.46 million in 2005.
Other
information regarding stock options outstanding and exercisable as of December
31, 2007, is as follows:
|
Options
Outstanding
|
Options
Exercisable
|
|||||
|
Weighted-Average
|
||||||
|
Number
of
|
Remaining
Contractual
|
Weighted-Average
|
Number
of
|
Weighted-Average
|
||
|
Range
of Exercise Prices
|
Shares
|
Life
(Years)
|
Exercise
Price
|
Shares
|
Exercise
Price
|
|
|
$12.04
to $17.99
|
29,508
|
4.74
|
$13.38
|
18,508
|
$14.18
|
|
|
$18.00
to $26.99
|
55,587
|
2.83
|
21.06
|
55,587
|
21.06
|
|
|
$27.00
to $29.46
|
386,422
|
0.60
|
28.30
|
383,726
|
28.30
|
|
As stated
in Note A - Accounting Policies, effective January 1, 2006, we adopted the fair
value recognition provisions of SFAS No. 123(R). SFAS No. 123(R)
requires that stock-based compensation to employees be recognized as
compensation cost in the income statement based on their fair values on the
measurement date, which, for 1st Source, is the date of
grant. Stock-based compensation expense is recognized ratably over
the requisite service period for all awards. As a result of applying
the provisions of SFAS No. 123(R), we recognized additional stock-based
compensation expense related to stock options of $65,174 for 2007 and $61,606
for 2006 (not subject to tax). The increase in stock-based
compensation expense related to stock options had an immaterial impact on basic
or diluted earnings per share during 2007 and 2006.
The fair
value of each option on the date of grant was estimated using the Black-Scholes
option pricing model. Expected volatility is based on the historical volatility
estimated over a period at least equal to the estimated term of the
options. In estimating the fair value of stock options under the
Black-Scholes valuation model, separate groups of employees that have similar
historical exercise behavior are considered separately. The expected
term of the options granted is derived based on past experience and represents
the period of time that options granted are expected to be
outstanding. The following weighted-average assumptions were used in
the option pricing model for options granted in 2007 and 2006 (no options were
granted in 2005): a risk-free interest rate of 4.10% for 2007 and
4.87% for 2006; an expected dividend yield of 1.94% for 2007 and 2.02% for 2006;
an expected volatility factor of 30.46% for 2007 and 35.73% for 2006; and an
expected option life of 4.67 years for 2007 and 5.23 years for 2006. The
weighted-average grant date per share fair value of options granted was $7.67
for 2007 and $9.75 for 2006.
The
following pro forma information presents net income and earnings per share for
2005 as if the fair value method of SFAS No. 123 had been used to measure
compensation cost for the stock option plans.
|
Year
Ended December 31 (Dollars in
thousands, except per share data)
|
2005
|
|||
|
Net
income, as reported
|
$ | 33,751 | ||
|
Add:
|
||||
|
Stock-based
employee compensation expense included in reported net
income,
|
||||
|
net
of related tax effects
|
2,875 | |||
|
Deduct:
|
||||
|
Stock-based
employee compensation expense determined under fair value
based
|
||||
|
method
for all awards, net of related tax effects
|
(2,998 | ) | ||
|
Pro
forma net income
|
$ | 33,628 | ||
|
Earnings
per share:
|
||||
|
Basic
— as reported
|
$ | 1.48 | ||
|
Basic
— pro forma
|
$ | 1.48 | ||
|
Diluted
— as reported
|
$ | 1.46 | ||
|
Diluted
— pro forma
|
$ | 1.46 | ||
Stock Award Plans — Our incentive stock award
plans include the Executive Incentive Plan (EIP) and the Restricted Stock Award
Plan (RSAP). The EIP is also administered by the Committee. Awards
under the EIP include "book value" shares and "market value" shares of common
stock. These shares are awarded annually based on weighted performance criteria
and generally vest over a period of five years. The EIP book value shares may
only be sold to 1st Source and such sale is mandatory in the event of death,
retirement, disability, or termination of employment. The RSAP is
designed for key employees. Awards under the RSAP are made to employees
recommended by the Chief Executive Officer and approved by the Committee. Shares
granted under the RSAP vest over a five- to ten-year period and vesting is based
upon meeting certain various criteria, including continued employment with 1st
Source.
Stock-based
compensation expense totaled $1.83 million in 2007, $0.41 million in 2006, and
$4.66 million in 2005. The total income tax benefit recognized in the
accompanying consolidated statements of income related to stock-based
compensation was $0.69 million in 2007, $0.16 million in 2006, and $1.79 million
in 2005. Unrecognized stock-based compensation expense related to
stock options totaled $43,846 at December 31, 2007. At such date, the
weighted-average period over which this unrecognized expense was expected to be
recognized was 3.1 years. Unrecognized stock-based compensation
expense related to non-vested stock awards was $785,292 at December 31,
2007. At such date, the weighted-average period over which this
unrecognized expense was expected to be recognized was 4.95 years.
The fair
value of non-vested stock awards for the purposes of recognizing stock-based
compensation expense is market price of the stock on the measurement date,
which, for our purposes is the date of the award.
Employee Stock Purchase Plan — We offer an
Employee Stock Purchase Plan (ESPP) for substantially all employees with at
least two years of service on the effective date of an offering under the
plan. Eligible employees may elect to purchase any dollar amount of
stock, so long as such amount does not exceed 25% of their base rate of pay and
the aggregate stock accrual rate for all offerings does not exceed $25,000 in
any calendar year. The purchase price for shares offered is the lower of the
closing market bid price for the offering date or the average market bid price
for the five business days preceding the offering date. The purchase price and
discount to the actual market closing price on the offering date for the 2007,
2006, and 2005 offerings were $25.58 (1.69%), $25.70 (3.45%), and
$21.84 (2.02%), respectively. Payment for the stock is made through payroll
deductions over the offering period, and employees may discontinue the
deductions at any time and exercise the option or take the funds out of the
program. The most recent offering began June 1, 2007 and runs through June 1,
2009, with $421,502 in stock value to be purchased at $25.58 per share. The 2007
and 2006 offerings have been determined to be non-compensatory under SFAS No.
123(R). The fair value of the employees’ purchase rights for the 2005
offering was estimated using the Black-Scholes model. The following assumptions
were used in the model: a risk-free interest rate of 3.40%; an expected dividend
yield of 2.17%; an expected volatility factor of 27.49%; and an expected life
2.0 years. The fair value for shares offered in 2005 was $3.44.
Note
M — Subordinated Notes
As of
December 31, 2007, we sponsored three trusts, 1st Source Capital Trust III and
IV and 1st Source Master Trust (Capital Trusts) of which 100% of the common
equity is owned by 1st Source. The Capital Trusts were formed for the purpose of
issuing corporation-obligated mandatorily redeemable capital securities (the
capital securities) to third-party investors and investing the proceeds from the
sale of the capital securities solely in junior subordinated debt securities of
1st Source (the subordinated notes). The subordinated notes held by each Capital
Trust are the sole assets of that Capital Trust.
Distributions
on the capital securities issued by the Capital Trusts are payable quarterly at
a rate per annum equal to the interest rate being earned by the Capital Trust on
the subordinated notes held by that Capital Trust. The capital
securities are subject to mandatory redemption, in whole or in part, upon
repayment of the subordinated notes. We have entered into agreements which,
taken collectively, fully and unconditionally guarantee the capital securities
subject to the terms of each of the guarantees. The capital
securities held by the Capital Trusts qualify as Tier 1 capital under Federal
Reserve Board guidelines.
The
subordinated notes are summarized as follows, at December 31, 2007:
|
Amount
of
|
|||||||||
|
Subordinated
|
Interest
|
Maturity
|
|||||||
|
(Dollars
in thousands)
|
Notes
|
Rate
|
Date
|
||||||
|
November
2002 issuance-floating rate
|
$ | 10,310 | 8.22 | % |
11/15/32
|
||||
|
September
2004 issuance-fixed rate
|
30,928 | 7.66 | % |
12/15/34
|
|||||
|
June
2007 issuance-fixed rate
|
41,238 | 7.22 | % |
06/15/37
|
|||||
|
August
2007 issuance-fixed rate
|
17,526 | 7.10 | % |
09/15/37
|
|||||
|
Total
|
$ | 100,002 | |||||||
On
February 15, 2008, the capital securities of Capital Trust III, the November
2002 issuance, were redeemed.
Note
N — Employee Benefit Plans
Effective
October 1, 2006, we amended the 1st Source Corporation Employees’ Profit Sharing
Plan and Trust, which was renamed the 1st Source Corporation Employee Stock
Ownership and Profit Sharing Plan (as amended, the “Plan”). The Plan
includes an employee stock ownership component, which is designed to invest in
and hold 1st Source common stock, and a 401(k) plan component, which holds all
Plan assets not invested in 1st Source common stock. The Plan now
also includes a number of new features that encourage diversification of
investments with more opportunities to change investment elections and
contribution levels.
Employees
are eligible to participate in the Plan on the first day of
employment. After one year and 1,000 hours of service worked, we are
required under the 401(k) component of the Plan to match dollar for dollar
participant contributions up to 4% of compensation, plus 50 cents per dollar of
the next 2% deferrals. We will also contribute to the Plan an amount
designated as a fixed profit sharing contribution. The amount of
fixed profit sharing contribution is equal to two percent of
compensation. Additionally, each year we may, in our sole discretion,
make additional contributions to the 401(k) component of the Plan. As
of December 31, 2007 and 2006, there were 1,302,924 and 1,312,203 shares,
respectively, of 1st Source Corporation common stock held in relation to
employee benefit plans.
Our
contribution is allocated among the participants on the basis of
compensation. Each participant’s account is credited with cash or
shares of 1st Source common stock based on that participant’s compensation
earned during the year. After completing five years of service in
which they worked at least 1,000 hours per year, a participant will be
completely vested in their Plan account. Plan participants are
entitled to receive distributions from their Plan accounts only upon termination
of service, which includes retirement or death.
Contribution
expense for the years ended December 31, 2007, 2006, and 2005, amounted to $2.74
million, $2.39 million, and $2.32 million, respectively.
Contributions
to the defined contribution money purchase pension plan are based on 2% of
participants’ eligible compensation. For the years ended December 31, 2007,
2006, and 2005, total pension expense for this plan amounted to $1.06 million,
$0.85 million, and $0.91 million, respectively.
Through
April 30, 2007, Trustcorp contributed to a defined contribution plan for all of
its employees who met the general eligibility requirements of the plan.
Contribution expense for this plan for the years ended December 31, 2007, 2006,
and 2005, amounted to $0.03 million, $0.09 million, and $0.14 million,
respectively. Effective May 1, 2007, this plan was merged into the
1st Source
Corporation Employee Stock Ownership and Profit Sharing
Plan.
First
National contributed to a defined contribution plan for all of its employees who
met general eligibility requirements of the plan. Contribution
expense for this plan for the year ended December 31, 2007 was $0.09
million.
In
addition to the 1st Source Corporation Employee Stock Ownership and Profit
Sharing Plan, we provide certain health care and life insurance benefits for
substantially all of our retired employees. All of our full-time employees
become eligible for these retiree benefits upon reaching age 55 with 20 years of
credited service. The medical plan pays a stated percentage of eligible medical
expenses reduced for any deductibles and payments made by government programs
and other group coverage. The lifetime maximum benefit payable under the medical
plan is $15,000 and for life insurance is $3,000.
Our net
periodic postretirement benefit cost recognized in the consolidated financial
statements for the years ended December 31, 2007, 2006, and 2005 amounted to
$(0.01) million, $0.12 million, and $0.33 million, respectively. Our
accrued postretirement benefit cost was not material at December 31, 2007, 2006,
and 2005.
Note
O — Income Taxes
Income
tax expense was comprised of the following:
|
Year
Ended December 31 (Dollars in
thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Current:
|
||||||||||||
|
Federal
|
$ | 14,630 | $ | 22,350 | $ | 16,625 | ||||||
|
State
|
1,072 | 1,781 | 1,909 | |||||||||
|
Total
current
|
15,702 | 24,131 | 18,534 | |||||||||
|
Deferred:
|
||||||||||||
|
Federal
|
(4,191 | ) | (3,434 | ) | (2,644 | ) | ||||||
|
State
|
(367 | ) | (451 | ) | (264 | ) | ||||||
|
Total
deferred
|
(4,558 | ) | (3,885 | ) | (2,908 | ) | ||||||
|
Total
provision
|
$ | 11,144 | $ | 20,246 | $ | 15,626 | ||||||
The
reasons for the difference between income tax expense and the amount computed by
applying the statutory federal income tax rate (35%) to income before income
taxes are as follows:
|
2007
|
2006
|
2005
|
||||||||||||||||||||||
|
Percent
of
|
Percent
of
|
Percent
of
|
||||||||||||||||||||||
|
Pretax
|
Pretax
|
Pretax
|
||||||||||||||||||||||
|
Year
Ended December 31 (Dollars in
thousands)
|
Amount
|
Income
|
Amount
|
Income
|
Amount
|
Income
|
||||||||||||||||||
|
Statutory
federal income tax
|
$ | 14,589 | 35.0 | % | $ | 20,840 | 35.0 | % | $ | 17,282 | 35.0 | % | ||||||||||||
|
(Decrease)
increase in income taxes resulting from:
|
||||||||||||||||||||||||
|
Tax-exempt
interest income
|
(2,380 | ) | (5.7 | ) | (1,669 | ) | (2.8 | ) | (1,749 | ) | (3.5 | ) | ||||||||||||
|
State
taxes, net of federal income tax benefit
|
458 | 1.1 | 865 | 1.5 | 1,069 | 2.2 | ||||||||||||||||||
|
Dividends
received deduction
|
(343 | ) | (0.8 | ) | (270 | ) | (0.5 | ) | (188 | ) | (0.4 | ) | ||||||||||||
|
Other
|
(1,180 | ) | (2.9 | ) | 480 | 0.8 | (788 | ) | (1.6 | ) | ||||||||||||||
|
Total
|
$ | 11,144 | 26.7 | % | $ | 20,246 | 34.0 | % | $ | 15,626 | 31.7 | % | ||||||||||||
|
The
tax (benefit) expense applicable to securities (losses) gains for the
years 2007, 2006, and 2005 was $(1,185,000), $758,000, and $134,000,
respectively.
|
||||||||||||||||||||||||
|
Deferred
tax assets and liabilities as of December 31, 2007 and 2006 consisted of
the following:
|
||||||||
|
(Dollars
in thousands)
|
2007
|
2006
|
||||||
|
Deferred
tax assets:
|
||||||||
|
Reserve
for loan and lease losses
|
$ | 25,649 | $ | 22,551 | ||||
|
Accruals
for employee benefits
|
3,693 | 3,827 | ||||||
|
Securities
valuation reserve
|
2,762 | 1,319 | ||||||
|
Net
unrealized losses on securities available-for-sale
|
- | 159 | ||||||
|
Other
|
586 | 1,403 | ||||||
|
Total
deferred tax assets
|
32,690 | 29,259 | ||||||
|
Deferred
tax liabilities:
|
||||||||
|
Differing
depreciable bases in premises and leased equipment
|
30,558 | 32,108 | ||||||
|
Capitalized
loan costs
|
2,833 | 2,307 | ||||||
|
Mortgage
servicing
|
2,174 | 3,394 | ||||||
|
Differing
bases in assets related to acquisitions
|
2,095 | 433 | ||||||
|
Net
unrealized gains on securities available-for-sale
|
1,537 | - | ||||||
|
Other
|
1,674 | 2,060 | ||||||
|
Total
deferred tax liabilities
|
40,871 | 40,302 | ||||||
|
Net
deferred tax liability
|
$ | 8,181 | $ | 11,043 | ||||
A
reconciliation of the beginning and ending amount of unrecognized tax benefits
is as follows:
|
(Dollars
in thousands)
|
2007
|
|||
|
Balance,
beginning of year
|
$ | 5,795 | ||
|
Additions
based on tax positions related to the current year
|
1,268 | |||
|
Additions
for tax positions of prior years
|
- | |||
|
Reductions
for tax positions of prior years
|
- | |||
|
Settlements
|
- | |||
|
Balance,
end of year
|
$ | 7,063 | ||
Of the
balance at December 31, 2007, $4.25 million would affect the effective tax rate
if recognized. Interest and penalties are recognized through the
income tax provision. For the years 2007, 2006 and 2005, we
recognized approximately $0.26 million, $(0.11) million and $0.23 million,
respectively, in interest, net of tax effect, and penalties. Interest
and penalties of approximately $1.13 million, $0.87 million, and $0.98 million
were accrued at December 31, 2007, 2006, and 2005, respectively.
Tax years
that remain open and subject to audit include the Federal 2004–2007 years and
the Indiana 2002–2007 years. Additionally, we have an open tax
examination with the Indiana Department of Revenue for the tax years
2002-2004. Indiana is currently proposing adjustments for certain
apportionment issues. We are appealing these
adjustments.
Note
P — Contingent Liabilities, Commitments, and Financial Instruments with
Off-Balance-Sheet Risk
Contingent Liabilities —1st Source and our
subsidiaries are defendants in various legal proceedings arising in the normal
course of business. In the opinion of management, based upon present information
including the advice of legal counsel, the ultimate resolution of these
proceedings will not have a material effect on our consolidated financial
position or results of operations.
Commitments — 1st Source and our subsidiaries
are obligated under operating leases for certain office premises and equipment.
In 1982, we sold the headquarters building and entered into a leaseback
agreement with the purchaser. At December 31, 2007, the remaining
term of the lease was four years with options to renew for up to 15 additional
years. Approximately 30% of the facility is subleased to other
tenants.
Future
minimum rental commitments for all noncancellable operating leases total
approximately, $2.75 million in 2008, $2.40 million in 2009, $2.07 million in
2010, $1.79 million in 2011, $0.82 million in 2012, and $1.07 million,
thereafter. As of December 31, 2007, future minimum rentals to be received under
noncancellable subleases totaled $3.31 million.
Rental
expense of office premises and equipment and related sublease income were as
follows:
|
Year
Ended December 31 (Dollars in
thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Gross
rental expense
|
$ | 3,255 | $ | 3,250 | $ | 3,574 | ||||||
|
Sublease
rental income
|
(1,640 | ) | (1,626 | ) | (1,809 | ) | ||||||
|
Net
rental expense
|
$ | 1,615 | $ | 1,624 | $ | 1,765 | ||||||
Financial Instruments with Off-Balance-Sheet
Risk —To meet the financing needs of our clients, 1st Source and our
subsidiaries are parties to financial instruments with off-balance-sheet risk in
the normal course of business. These off-balance-sheet financial instruments
include commitments to originate, purchase and sell loans, and standby letters
of credit. The instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the consolidated
statements of financial condition.
Our
exposure to credit loss in the event of nonperformance by the other party to the
financial instruments for loan commitments and standby letters of credit is
represented by the dollar amount of those instruments. We use the same credit
policies and collateral requirements in making commitments and conditional
obligations as we do for on-balance-sheet instruments.
Loan
commitments have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements.
The Banks
grant mortgage loan commitments to borrowers, subject to normal loan
underwriting standards. The interest rate risk associated with these loan
commitments is managed by entering into contracts for future deliveries of
loans.
Letters
of credit are conditional commitments issued to guarantee the performance of a
client to a third party. The credit risk involved in and collateral obtained
when issuing letters of credit are essentially the same as those involved in
extending loan commitments to clients.
As of
December 31, 2007 and 2006, 1st Source and our subsidiaries had commitments
outstanding to originate and purchase mortgage loans aggregating $71.50 million
and $113.25 million, respectively. Outstanding commitments to sell loans
aggregated $45.53 million at December 31, 2007, and $73.87 million at December
31, 2006. Standby letters of credit totaled $61.79 million and $83.15 million at
December 31, 2007 and 2006, respectively. Standby letters of credit have terms
ranging from six months to one year.
Note
Q — Derivative Financial Instruments
We have
certain interest rate derivative positions that are not designated as hedging
instruments. These derivative positions relate to transactions in
which we enter into an interest rate swap with a client while at the same time
entering into an offsetting interest rate swap with another financial
institution. In connection with each transaction, we agree to pay
interest to the client on a notional amount at a variable interest rate and
receive interest from the client on the same notional amount at a fixed interest
rate. At the same time, we agree to pay another financial institution
the same fixed interest rate on the same notional amount and receive the same
variable interest rate on the same notional amount. The transaction
allows our client to effectively convert a variable rate loan to a fixed
rate. Because we act as an intermediary for our client, changes in
the fair value of the underlying derivative contracts offset each other and do
not impact our results of operations. At December 31, 2007 and 2006,
the notional amount of non-hedging interest rate swaps was $196.52 million and
$14.55 million, respectively.
Note
R — Regulatory Matters
We are
subject to various regulatory capital requirements administered by the Federal
banking agencies. Failure to meet minimum capital requirements can result in
certain mandatory and possible additional discretionary actions by regulators
that, if undertaken, could have a material effect on our financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, we must meet specific capital guidelines that involve
quantitative measures of our assets, liabilities, and certain off-balance-sheet
items as calculated under regulatory accounting practices. Our capital amounts
and classification are subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
Quantitative
measures established by regulation to ensure capital adequacy require us to
maintain minimum amounts and ratios of total capital and Tier I capital to
risk-weighted assets and of Tier I capital to average assets. We believe that we
meet all capital adequacy requirements to which we are subject.
The most
recent notification from the Federal bank regulators categorized 1st Source
Bank, the largest of our subsidiaries, as "well capitalized" under the
regulatory framework for prompt corrective action. To be categorized as "well
capitalized" we must maintain minimum total risk-based, Tier I risk-based, and
Tier I leverage ratios as set forth in the table below. There are no conditions
or events since that notification that we believe will have changed the
institution’s category.
As
discussed in Note M- Subordinated Notes, the capital securities held by the
Capital Trusts qualify as Tier 1 capital under Federal Reserve Board
guidelines.
The
actual and required capital amounts and ratios for 1st Source Corporation, 1st
Source Bank, and First National Bank, Valparaiso, as of December 31, 2007, are
presented in the table below:
|
To
Be Well
|
||||||||||||||||||||||||
|
Capitalized
Under
|
||||||||||||||||||||||||
|
Minimum
Capital
|
Prompt
Corrective
|
|||||||||||||||||||||||
|
Actual
|
Adequacy
|
Action
Provisions
|
||||||||||||||||||||||
|
(Dollars
in thousands)
|
Amount
|
Ratio
|
Amount
|
Ratio
|
Amount
|
Ratio
|
||||||||||||||||||
|
Total
Capital (to Risk-Weighted Assets):
|
||||||||||||||||||||||||
|
1st
Source Corporation
|
$ | 478,433 | 13.04 | % | $ | 293,407 | 8.00 | % | $ | 366,759 | 10.00 | % | ||||||||||||
|
1st
Source Bank
|
404,607 | 11.82 | % | 273,837 | 8.00 | % | 342,296 | 10.00 | % | |||||||||||||||
|
First
National Bank, Valparaiso
|
63,970 | 24.12 | % | 21,218 | 8.00 | % | 26,522 | 10.00 | % | |||||||||||||||
|
Tier
I Capital (to Risk-Weighted Assets):
|
||||||||||||||||||||||||
|
1st
Source Corporation
|
431,283 | 11.76 | % | 146,704 | 4.00 | % | 220,056 | 6.00 | % | |||||||||||||||
|
1st
Source Bank
|
361,486 | 10.56 | % | 136,918 | 4.00 | % | 205,377 | 6.00 | % | |||||||||||||||
|
First
National Bank, Valparaiso
|
61,156 | 23.06 | % | 10,609 | 4.00 | % | 15,913 | 6.00 | % | |||||||||||||||
|
Tier
I Capital (to Average Assets):
|
||||||||||||||||||||||||
|
1st
Source Corporation
|
431,283 | 9.92 | % | 173,859 | 4.00 | % | 217,324 | 5.00 | % | |||||||||||||||
|
1st
Source Bank
|
361,486 | 9.16 | % | 157,906 | 4.00 | % | 197,382 | 5.00 | % | |||||||||||||||
|
First
National Bank, Valparaiso
|
61,156 | 10.20 | % | 23,972 | 4.00 | % | 29,965 | 5.00 | % | |||||||||||||||
The Banks are
required to maintain noninterest bearing cash balances with the Federal Reserve
Bank. The average balance of these deposits for the years ended December 31,
2007 and 2006, was approximately $4.32 million and $6.23 million,
respectively.
Dividends
that may be paid by a subsidiary bank to the parent company are subject to
certain legal and regulatory limitations and also may be affected by capital
needs, as well as other factors. Without regulatory approval, the Banks can pay
dividends in 2008 of up to $24.32 million, plus an additional amount equal to
its net profits for 2008, as defined by statute, up to the date of any such
dividend declaration.
Due to
our mortgage activities, 1st Source Bank is required to maintain minimum net
worth capital requirements established by various governmental
agencies. 1st Source Bank's net worth requirements are governed by
the Department of Housing and Urban Development and GNMA. As of
December 31, 2007, 1st Source Bank met its minimum net worth capital
requirements.
Note
S — Fair Values of Financial Instruments
The fair
values of our financial instruments as of December 31, 2007 and 2006 are
summarized in the table below.
|
2007
|
2006
|
|||||||||||||||
|
Carrying
or
|
Carrying
or
|
|||||||||||||||
|
(Dollars
in thousands)
|
Contract
Value
|
Fair
Value
|
Contract
Value
|
Fair
Value
|
||||||||||||
|
Assets:
|
||||||||||||||||
|
Cash
and due from banks
|
$ | 153,137 | $ | 153,137 | $ | 118,131 | $ | 118,131 | ||||||||
|
Federal
funds sold and interest bearing deposits with other banks
|
25,817 | 25,817 | 64,979 | 64,979 | ||||||||||||
|
Investment
securities, available-for-sale
|
794,918 | 794,918 | 708,672 | 708,672 | ||||||||||||
|
Mortgages
held for sale
|
25,921 | 25,921 | 50,159 | 50,159 | ||||||||||||
|
Loans
and leases, net of reserve for loan and lease losses
|
3,124,839 | 3,144,394 | 2,643,735 | 2,608,909 | ||||||||||||
|
Interest
rate swaps
|
4,573 | 4,573 | 122 | 122 | ||||||||||||
|
Liabilities:
|
||||||||||||||||
|
Deposits
|
$ | 3,469,663 | $ | 3,468,360 | $ | 3,048,284 | $ | 3,048,971 | ||||||||
|
Short-term
borrowings
|
337,832 | 337,832 | 222,718 | 222,718 | ||||||||||||
|
Long-term
debt and mandatorily redeemable securities
|
34,702 | 34,900 | 43,761 | 43,502 | ||||||||||||
|
Subordinated
notes
|
100,002 | 89,959 | 59,022 | 60,768 | ||||||||||||
|
Interest
rate swaps
|
4,573 | 4,573 | 122 | 122 | ||||||||||||
|
Off-balance-sheet
instruments *
|
- | 406 | - | 346 | ||||||||||||
|
*
Represents estimated cash outflows required to currently settle the
obligations at current market rates.
|
||||||||||||||||
We used
the following methods and assumptions in estimating the fair value of our
financial instruments:
Cash and Cash Equivalents — The carrying values
reported in the consolidated statements of financial condition for cash and due
from banks, Federal funds sold and interest bearing deposits with other banks
approximate fair values for these assets.
Investment Securities — Fair values for
securities are based on quoted market prices, where available. If quoted market
prices are not available, fair values are estimated based on quoted market
prices of comparable investments.
Loans and Leases — For variable rate loans and
leases that reprice frequently and with no significant change in credit risk,
fair values are based on carrying values. The fair values for certain real
estate loans (e.g., one-to-four single family residential mortgage loans) are
based on quoted market prices of similar loans sold in conjunction with
securitization transactions, adjusted for differences in loan characteristics.
The fair values of all other loans and leases are estimated using discounted
cash flow analyses which use interest rates currently being offered for loans
and leases with similar terms to borrowers of similar credit
quality.
Mortgages Held for Sale — The fair value of
loans held for sale is determined based upon the market sales price of similar
loans.
Deposits — The fair values for all deposits
other than time deposits are equal to the amounts payable on demand (the
carrying value). Fair values of variable rate time deposits are equal to their
carrying values. Fair values for fixed rate time deposits are estimated using
discounted cash flow analyses using interest rates currently being offered for
deposits with similar remaining maturities.
Short-Term Borrowings — The carrying values of
Federal funds purchased, securities sold under repurchase agreements, and other
short-term borrowings, including our liability related to mortgage loans
available for repurchase under GNMA optional repurchase programs, approximate
their fair values.
Long-Term Debt and Mandatorily Redeemable Securities
— The fair values of long-term debt are estimated using discounted cash
flow analyses, based on our current estimated incremental borrowing rates for
similar types of borrowing arrangements. The carrying values of mandatorily
redeemable securities are based on approximate fair values.
Subordinated Notes — Fair values are based on
quoted market prices, where available. If quoted market prices are not
available, fair values are estimated based on calculated market prices of
comparable securities.
Interest Rate Swaps — The carrying value of
interest rate swaps is equal to the fair value. The fair value is
based on the estimated amount we would receive or pay to terminate the contract,
taking into account the current interest rate.
Off-Balance-Sheet Instruments — Contract and
fair values for certain of our off-balance-sheet financial instruments
(guarantees and loan commitments) are estimated based on fees currently charged
to enter into similar agreements, taking into account the remaining terms of the
agreements and the counterparties’ credit standing.
Limitations — Fair value estimates are made at
a specific point in time based on relevant market information and information
about the financial instruments. Because no market exists for a significant
portion of our financial instruments, fair value estimates are based on
judgments regarding future expected loss experience, current economic
conditions, risk characteristics of various financial instruments, and other
such factors.
These
estimates do not reflect any premium or discount that could result from offering
for sale at one time our entire holdings of a particular financial
instrument. These estimates are subjective in nature and require
considerable judgment to interpret market data. Accordingly, the
estimates presented herein are not necessarily indicative of the amounts we
could realize in a current market exchange, nor are they intended to represent
the fair value of 1st Source as a whole. The use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair value amounts. The fair value estimates presented
herein are based on pertinent information available to management as of the
respective balance sheet date. Although management is not aware of
any factors that would significantly affect the estimated fair value amounts,
such amounts have not been comprehensively revalued since the presentation
dates, and therefore, estimates of fair value after the balance sheet date may
differ significantly from the amounts presented herein.
Other
significant assets, such as premises and equipment, other assets, and
liabilities not defined as financial instruments, are not included in the above
disclosures. In addition, for investment and mortgage-backed
securities, the income tax ramifications related to the realization of
unrealized gains and losses can have a significant effect on fair value
estimates and have not been considered in many of the estimates. Also, the fair
value estimates for deposits do not include the benefit that results from the
low-cost funding provided by the deposit liabilities compared to the cost of
borrowing funds in the market.
Note
T — 1st Source Corporation (Parent Company Only) Financial
Information
|
STATEMENTS
OF FINANCIAL CONDITION
|
||||||||
|
December
31 (Dollars in
thousands)
|
2007
|
2006
|
||||||
|
ASSETS
|
||||||||
|
Cash
|
$ | 32 | $ | 1 | ||||
|
Short-term
investments with bank subsidiary
|
11,220 | 14,442 | ||||||
|
Investment
securities, available-for-sale
|
||||||||
|
(amortized
cost of $8,907 and $17,112 at December 31, 2007 and 2006,
respectively)
|
11,075 | 19,697 | ||||||
|
Investments
in:
|
||||||||
|
Bank
subsidiaries
|
514,988 | 402,805 | ||||||
|
Non-bank
subsidiaries
|
4,127 | 10,202 | ||||||
|
Loan
receivables:
|
||||||||
|
Non-bank
subsidiaries
|
- | 3,030 | ||||||
|
Premises
and equipment, net
|
2,237 | 2,143 | ||||||
|
Other
assets
|
9,509 | 7,660 | ||||||
|
Total
assets
|
$ | 553,188 | $ | 459,980 | ||||
|
LIABILITIES AND
SHAREHOLDERS’ EQUITY
|
||||||||
|
Commercial
paper borrowings
|
$ | 11,475 | $ | 11,472 | ||||
|
Other
liabilities
|
3,086 | 3,209 | ||||||
|
Long-term
debt and mandatorily redeemable securities
|
108,123 | 76,395 | ||||||
|
Total
liabilities
|
122,684 | 91,076 | ||||||
|
Shareholders’
equity
|
430,504 | 368,904 | ||||||
|
Total
liabilities and shareholders’ equity
|
$ | 553,188 | $ | 459,980 | ||||
|
STATEMENTS
OF INCOME
|
||||||||||||
|
Year
Ended December 31 (Dollars in
thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Income:
|
||||||||||||
|
Dividends
from bank and non-bank subsidiaries
|
$ | 58,051 | $ | 15,045 | $ | 11,552 | ||||||
|
Rental
income from subsidiaries
|
2,442 | 2,542 | 2,472 | |||||||||
|
Other
|
2,080 | 4,134 | 3,286 | |||||||||
|
Total
income
|
62,573 | 21,721 | 17,310 | |||||||||
|
Expenses:
|
||||||||||||
|
Interest
on long-term debt and mandatorily redeemable securities
|
7,294 | 5,495 | 5,040 | |||||||||
|
Interest
on commercial paper and other short-term borrowings
|
639 | 418 | 73 | |||||||||
|
Rent
expense
|
1,057 | 1,059 | 1,059 | |||||||||
|
Other
|
1,572 | 1,148 | 2,352 | |||||||||
|
Total
expenses
|
10,562 | 8,120 | 8,524 | |||||||||
|
Income
before income tax benefit and equity in undistributed (distributed in
excess of) income of subsidiaries
|
52,011 | 13,601 | 8,786 | |||||||||
|
Income
tax benefit
|
2,380 | 220 | 897 | |||||||||
|
Income
before equity in undistributed (distributed in excess of) income of
subsidiaries
|
54,391 | 13,821 | 9,683 | |||||||||
|
Equity
in undistributed (distributed in excess of) income of
subsidiaries:
|
||||||||||||
|
Bank
subsidiaries
|
(23,028 | ) | 23,448 | 24,057 | ||||||||
|
Non-bank
subsidiaries
|
(824 | ) | 2,028 | 11 | ||||||||
|
Net
income
|
$ | 30,539 | $ | 39,297 | $ | 33,751 | ||||||
|
STATEMENTS
OF CASH FLOW
|
||||||||||||
|
Year
Ended December 31 (Dollars in
thousands)
|
2007
|
2006
|
2005
|
|||||||||
|
Operating
activities:
|
||||||||||||
|
Net
income
|
$ | 30,539 | $ | 39,297 | $ | 33,751 | ||||||
|
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
||||||||||||
|
Equity
distributed in excess of (undistrbuted) income of
subsidiaries
|
23,852 | (25,476 | ) | (24,068 | ) | |||||||
|
Depreciation
of premises and equipment
|
316 | 289 | 305 | |||||||||
|
Realized
and unrealized investment securities (gains) losses
|
(53 | ) | (517 | ) | (72 | ) | ||||||
|
Other
|
(579 | ) | (1,124 | ) | (218 | ) | ||||||
|
Net
change in operating activities
|
54,075 | 12,469 | 9,698 | |||||||||
|
Investing
activities:
|
||||||||||||
|
Proceeds
from sales and maturities of investment securities
|
18,752 | 1,817 | 15,356 | |||||||||
|
Purchases
of investment securities
|
(10,499 | ) | (3,754 | ) | (10,361 | ) | ||||||
|
Net
change in premises and equipment
|
(410 | ) | (288 | ) | (118 | ) | ||||||
|
Change
in short-term investments with bank subsidiary
|
3,222 | (2,880 | ) | (6,329 | ) | |||||||
|
Change
in loans made to subsidiaries, net
|
3,030 | 2,970 | 1,000 | |||||||||
|
Capital
contributions to subsidiaries
|
- | 1,400 | (1,460 | ) | ||||||||
|
Return
of capital from subsidiaries
|
5,106 | - | - | |||||||||
|
Cash
paid for acquisition, net
|
(78,348) | - | - | |||||||||
|
Net
change in investing activities
|
(59,147 | ) | (735 | ) | (1,912 | ) | ||||||
|
Financing
activities:
|
||||||||||||
|
Net
change in commercial paper and other short-term borrowings
|
3 | 6,673 | 3,964 | |||||||||
|
Proceeds
from issuance of subordinated notes
|
58,764 | - | - | |||||||||
|
Payments
on subordinated notes
|
(17,784 | ) | - | - | ||||||||
|
Proceeds
from issuance of long-term debt
|
- | 874 | 311 | |||||||||
|
Payments
on long-term debt
|
(10,259 | ) | (123 | ) | (44 | ) | ||||||
|
Net
proceeds from issuance of treasury stock
|
545 | 814 | 528 | |||||||||
|
Acquisition
of treasury stock
|
(12,821 | ) | (7,657 | ) | (2,221 | ) | ||||||
|
Cash
dividends
|
(13,345 | ) | (12,315 | ) | (10,325 | ) | ||||||
|
Net
change in financing activities
|
5,103 | (11,734 | ) | (7,787 | ) | |||||||
|
Net
change in cash and cash equivalents
|
31 | - | (1 | ) | ||||||||
|
Cash
and cash equivalents, beginning of year
|
1 | 1 | 2 | |||||||||
|
Cash
and cash equivalents, end of year
|
$ | 32 | $ | 1 | $ | 1 | ||||||
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.
None
ITEM 9A. CONTROLS AND PROCEDURES.
1st
Source carried out an evaluation, under the supervision and with the
participation of 1st Source's management, including 1st Source's Chief Executive
Officer and Chief Financial Officer, of the effectiveness
of the design and operation of 1st Source's disclosure controls and procedures
pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief
Executive Officer and Chief Financial
Officer concluded that, at December 31, 2007, 1st Source's disclosure controls
and procedures are effective in accumulating and communicating to management
(including such officers) the information
relating to 1st Source (including its consolidated subsidiaries) required to be
included in 1st Source's periodic SEC filings.
MANAGEMENT
REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management
of 1st Source Corporation (“1st Source”) is responsible for establishing and
maintaining adequate internal control over financial reporting. 1st
Source’s internal control over financial reporting includes policies and
procedures pertaining to 1st Source’s ability to record, process, and report
reliable information. Actions are taken to correct any deficiencies
as they are identified through internal and external audits, regular
examinations by bank regulatory agencies, 1st Source’s formal risk management
process, and other means. 1st Source’s internal control system is
designed to provide reasonable assurance to 1st Source’s management and Board of
Directors regarding the preparation and fair presentation of 1st Source’s
published financial statements.
All
internal control systems, no matter how well designed, have inherent
limitations. Therefore, even those systems determined to be effective
can provide only reasonable assurance with respect to financial statement
preparation and presentation. Further, because of changes in
conditions, the effectiveness of internal control may vary over
time.
1st
Source’s management assessed the effectiveness of internal control over
financial reporting as of December 31, 2007. In making this
assessment, management used the criteria set forth by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated
Framework. Based on management’s assessment, we believe that,
as of December 31, 2007, 1st Source’s internal control over financial reporting
is effective based on those criteria.
As
permitted by the Securities and Exchange Commission, management elected to
exclude First National Bank, Valparaiso (First National) which was acquired by
us on May 31, 2007. The assets recorded for First National
represented less than fifteen percent of our total consolidated assets as
of December 31, 2007, and contributed less than seven percent of total
consolidated revenue for the year ended December 31, 2007.
Ernst
& Young LLP, independent registered public accounting firm, has issued an
attestation report on management’s assessment of 1st Source’s internal control
over financial reporting. This report appears on page
24.
| /s/CHRISTOPHER J. MURPHY III | /s/LARRY E. LENTYCH |
|
CHRISTOPHER
J. MURPHY III
|
LARRY
E. LENTYCH
|
|
Chairman,
President and
|
Treasurer
and Chief Financial
|
|
Chief
Executive Officer
|
Officer
|
|
South
Bend, Indiana
|
ITEM 9B. OTHER INFORMATION.
None
PART
III
The
information under the caption "Proposal Number 1: Election of Directors," "Board
Committees and other Corporate Governance Matters," and "Section 16(a)
Beneficial Ownership Reporting Compliance" of the 2008 Proxy Statement is
incorporated herein by reference.
The
information under the caption "Remuneration of Executive Officers" of the 2008
Proxy Statement is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
The
information under the caption "Voting Securities and Principal Holders Thereof "
and "Proposal Number 1: Election of Directors" of the 2008 Proxy Statement is
incorporated herein by reference.
EQUITY
COMPENSATION PLAN INFORMATION:
|
Number
of Securities
|
|||
|
Remaining
Available
|
|||
|
for
Future Issuance
|
|||
|
Number
of Securities to be
|
Weighted-average
|
Under
Equity
|
|
|
Issued
upon Exercise of
|
Exercise
Price of
|
Compensation
Plans
|
|
|
Outstanding
Options,
|
Outstanding
Options,
|
[excluding
securities
|
|
|
Warrants
and Rights
|
Warrants
and Rights
|
reflected
in column (a)]
|
|
|
Equity
compensation plans
|
|||
|
approved
by shareholders
|
|||
|
1992
stock option plan
|
407,262
|
$27.81
|
-
|
|
2001
stock option plan
|
64,255
|
18.29
|
2,119,922
|
|
1997
employee stock purchase plan
|
16,133
|
25.63
|
169,915
|
|
1982
executive incentive plan
|
-
|
-
|
95,332 (1)
(2)
|
|
1982
restricted stock award plan
|
-
|
-
|
158,414 (1)
|
|
Total
plans approved by shareholders
|
487,650
|
$26.48
|
2,543,583
|
|
Equity
compensation plans
|
|||
|
not
approved by shareholders
|
-
|
-
|
-
|
|
Total
equity compensation plans
|
487,650
|
$26.48
|
2,543,583
|
|
(1)Amount is to be awarded by grants
administered by the Executive Compensation Committee of the 1st Source
Board of Directors.
|
|||
|
(2)Amount includes market value
stock only. Book value shares used for annual awards may only be sold to
1st Source
|
|||
The
information under the caption "Proposal Number 1: Election of Directors" of the
2008 Proxy Statement is incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The
information under the caption "Relationship with Independent Registered Public
Accounting Firm" of the 2008 Proxy Statement is incorporated herein by
reference.
PART
IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT
SCHEDULES.
(a)
Financial Statements and Schedules:
The
following Financial Statements and Supplementary Data are filed as part of this
annual report:
Reports
of Independent Registered Public Accounting Firm
Consolidated
statements of financial condition — December 31, 2007 and 2006
Consolidated
statements of income — Years ended December 31, 2007, 2006, and
2005
Consolidated
statements of shareholders’ equity — Years ended December 31, 2007, 2006, and
2005
Consolidated
statements of cash flows — Years ended December 31, 2007, 2006, and
2005
Notes to
consolidated financial statements — December 31, 2007, 2006, and
2005
Financial
statement schedules required by Article 9 of Regulation S-X are not required
under the related instructions, or are inapplicable and, therefore, have been
omitted.
(b)
Exhibits (numbered in accordance with Item 601 of Regulation S-K):
|
3(a)
|
Articles
of Incorporation of Registrant, as amended April 30, 1996, and filed as
exhibit to Form 10-K, dated December 31, 1996, and incorporated herein by
reference.
|
|
|
3(b)
|
By-Laws
of Registrant, as amended January 29, 2004, filed as exhibit to Form 10-K,
dated December 31, 2003, and incorporated herein by
reference.
|
|
|
4(a)
|
Form
of Common Stock Certificates of Registrant filed as exhibit to
Registration Statement 2-40481 and incorporated herein by
reference.
|
|
|
4(b)
|
1st
Source agrees to furnish to the Commission, upon request, a copy of each
instrument defining the rights of holders of Senior and Subordinated debt
of 1st Source.
|
|
|
10(a)(1)
|
Employment
Agreement of Christopher J. Murphy III, dated April 16, 1998, filed as
exhibit to Form 10-K, dated December 31, 1998, and incorporated herein by
reference.
|
|
|
10(a)(2)
|
Employment
Agreement of Wellington D. Jones III, dated April 16, 1998, filed as
exhibit to Form 10-K, dated December 31, 1998, and incorporated
herein by reference.
|
|
|
10(a)(4)
|
Employment
Agreement of Larry E. Lentych, dated April 16, 1998, filed as exhibit to
Form 10-K, dated December 31, 1998, and incorporated herein by
reference.
|
|
|
10(a)(5)
|
Employment
Agreement of Richard Q. Stifel, dated April 16, 1998, filed as exhibit to
Form 10-K, dated December 31, 1998, and incorporated herein by
reference.
|
|
|
10(a)(6)
|
Employment
Agreement of John B. Griffith, dated March 31, 2001, filed as exhibit to
Form 10-K, dated December 31, 2002, and incorporated herein by
reference.
|
|
|
10(b)
|
1st
Source Corporation Employee Stock Purchase Plan dated April 17, 1997,
filed as exhibit to Form 10-K, dated December 31, 1997, and incorporated
herein by reference.
|
|
|
10(c)
|
1st
Source Corporation 1982 Executive Incentive Plan, amended January 17,
2003, and filed as exhibit to Form 10-K, dated December 31, 2003, and
incorporated herein by reference.
|
|
|
10(d)
|
1st
Source Corporation 1982 Restricted Stock Award Plan, amended January
17, 2003, and filed as exhibit to Form 10-K, dated December 31, 2003, and
incorporated herein by reference.
|
|
|
10(e)
|
1st
Source Corporation 2001 Stock Option Plan, amended July 27, 2006, and
filed as an exhibit to 1st Source Corporation Proxy Statement dated March
7, 2001, and incorporated herein by reference.
|
|
|
10(g)(1)
|
1st
Source Corporation 1992 Stock Option Plan, amended July 27, 2006, and
dated April 23, 1992, as amended December 11, 1997, filed as exhibit to
Form 10-K, dated December 31, 1997, and incorporated herein by
reference.
|
|
|
10(g)(2)
|
An
amendment to 1st Source Corporation 1992 Stock Option Plan, dated July 18,
2000, and filed as exhibit to Form 10-K, dated December 31, 2000, and
incorporated herein by reference.
|
|
|
10(h)
|
1st
Source Corporation 1998 Performance Compensation Plan, dated February 19,
1998, filed as exhibit to Form 10-K, dated December 31, 1998, and
incorporated herein by reference.
|
|
|
10(i)
|
Consulting
Agreement of Ernestine M. Raclin, dated April 14, 1998, filed as exhibit
to Form 10-K, dated December 31, 1998, and incorporated herein by
reference.
|
|
|
10(j)
|
Contract
with Fiserv Solutions, Inc. dated November 23, 2005, filed as exhibit to
Form 10-K, dated, December 31, 2005, and incorporated herein by
reference.
|
|
|
21
|
Subsidiaries
of Registrant (unless otherwise indicated, each subsidiary does business
under its own name):
|
|
|
Name
|
Jurisdiction
|
|
|
1st
Source Bank
|
Indiana
|
|
|
First
National Bank, Valparaiso
|
Indiana
|
|
|
SFG
Equipment Leasing, Inc. *
|
Indiana
|
|
|
1st
Source Insurance, Inc. *
|
Indiana
|
|
|
1st
Source Specialty Finance, Inc. *
|
Indiana
|
|
|
FBT
Capital Corporation (Inactive)
|
Indiana
|
|
|
1st
Source Leasing, Inc.
|
Indiana
|
|
|
1st
Source Capital Corporation *
|
Indiana
|
|
|
Trustcorp
Mortgage Company
|
Indiana
|
|
|
1st
Source Capital Trust II
|
Delaware
|
|
|
1st
Source Capital Trust III
|
Delaware
|
|
|
1st
Source Capital Trust IV
|
Delaware
|
|
|
1st
Source Master Trust
|
Delaware
|
|
|
Michigan
Transportation Finance Corporation *
|
Michigan
|
|
|
1st
Source Intermediate Holding, LLC
|
Delaware
|
|
|
1st
Source Funding, LLC
|
Delaware
|
|
|
1st
Source Corporation Investment Advisors, Inc. *
|
Indiana
|
|
|
SFG
Commercial Aircraft Leasing, Inc. *
|
Indiana
|
|
|
SFG
Equipment Leasing Corporation I*
|
Indiana
|
|
|
*Wholly-owned
subsidiaries of 1st Source Bank
|
||
|
23
|
||
|
31.1
|
||
|
31.2
|
||
|
32.1
|
||
|
32.2
|
||
(c) Financial Statement Schedules —
None.
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.
1st
SOURCE CORPORATION
By ______/s/
CHRISTOPHER J. MURPHY III
Christopher J. Murphy III, Chairman of
the Board,
President
and Chief Executive Officer
Date:
February 22, 2008
Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
|
Signature
|
Title
|
Date
|
|
/s/
CHRISTOPHER J. MURPHY III
|
Chairman
of the Board,
|
February
22, 2008
|
|
Christopher
J. Murphy III
|
President
and Chief Executive Officer
|
|
|
/s/
WELLINGTON D. JONES III
|
Executive
Vice President
|
February
22, 2008
|
|
Wellington
D. Jones III
|
and
Director
|
|
|
/s/
LARRY E. LENTYCH
|
Treasurer,
Chief Financial Officer
|
February
22, 2008
|
|
Larry
E. Lentych
|
and
Principal Accounting Officer
|
|
|
/s/
JOHN B. GRIFFITH
|
Secretary
|
February
22, 2008
|
|
John
B. Griffith
|
and
General Counsel
|
|
|
/s/
DANIEL B. FITZPATRICK
|
Director
|
February
22, 2008
|
|
Daniel
B. Fitzpatrick
|
||
|
/s/
TERRY L. GERBER
|
Director
|
February
22, 2008
|
|
Terry
L. Gerber
|
||
|
/s/
LAWRENCE E. HILER
|
Director
|
February
22, 2008
|
|
Lawrence
E. Hiler
|
||
|
/s/
WILLIAM P. JOHNSON
|
Director
|
February
22, 2008
|
|
William
P. Johnson
|
||
|
/s/
CRAIG A. KAPSON
|
Director
|
February
22, 2008
|
|
Craig
A. Kapson
|
||
|
/s/
REX MARTIN
|
Director
|
February
22, 2008
|
|
Rex
Martin
|
||
|
/s/
DANE A. MILLER
|
Director
|
February
22, 2008
|
|
Dane
A. Miller
|
||
|
/s/
TIMOTHY K. OZARK
|
Director
|
February
22, 2008
|
|
Timothy
K. Ozark
|
||
|
/s/
JOHN T. PHAIR
|
Director
|
February
22, 2008
|
|
John
T. Phair
|
||
|
/s/
MARK D. SCHWABERO
|
Director
|
February
22, 2008
|
|
Mark
D. Schwabero
|
||
|
/s/
TOBY S. WILT
|
Director
|
February
22, 2008
|
|
Toby
S. Wilt
|
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