Mercantile Bankshares
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q
 
(MARK ONE)
 
x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 
For the Quarterly Period Ended September 30, 2002
 
OR
 
¨    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 0-5127
 
MERCANTILE BANKSHARES CORPORATION
(Exact name of registrant as specified in its charter)
 
Maryland
  
52-0898572
(State or other jurisdiction of
incorporation or organization)
  
(I.R.S. Employer
Identification No.)
2 Hopkins Plaza, Baltimore, Maryland
  
21201
(Address of principal executive offices)
  
(Zip code)
 
(410) 237-5900
(Registrant’s telephone number, including area code)
 
(Former name, former address and former fiscal year, if changed since last report)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes x    No ¨
 
APPLICABLE ONLY TO CORPORATE ISSUERS:
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practical date. As of October 31, 2002, registrant had outstanding 68,839,527 shares of Common Stock.

Page 2

PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
 
MERCANTILE BANKSHARES CORPORATION
CONSOLIDATED BALANCE SHEETS
 
(Dollars in thousands, except per share data)
   
September 30, 2002
     
December 31,
2001
     
September 30, 2001
  
ASSETS
                           
Cash and due from banks
   
$
333,824
 
   
$
   290,177
 
   
$
   275,485
 
Interest-bearing deposits in other banks
   
 
358
 
   
 
357
 
   
 
356
 
Federal funds sold
   
 
272,134
 
   
 
23,813
 
   
 
122,216
 
    
  
  
Total cash and cash equivalents
   
 
606,316
 
   
 
314,347
 
   
 
398,057
 
    
  
  
 
Investment securities available-for-sale (Note 3)
   
 
2,411,941
 
   
 
2,288,694
 
   
 
1,872,726
 
Investment securities held-to-maturity (Note 3)
   
 
52,454
 
   
 
52,269
 
   
 
52,558
 
 
Loans held-for-sale
   
 
94
 
   
 
137,950
 
   
 
30,273
 
 
Loans:
                           
Commercial
   
 
4,213,108
 
   
 
4,048,018
 
   
 
3,996,177
 
Construction
   
 
790,318
 
   
 
652,486
 
   
 
676,050
 
Residential real estate
   
 
1,067,868
 
   
 
1,060,519
 
   
 
1,060,857
 
Consumer
   
 
1,009,040
 
   
 
991,341
 
   
 
1,010,712
 
Lease financing
   
 
120,456
 
   
 
153,882
 
   
 
156,343
 
    
  
  
Total loans
   
 
7,200,790
 
   
 
6,906,246
 
   
 
6,900,139
 
Less: allowance for loan losses
   
 
(136,587
)
   
 
(141,463
)
   
 
(141,003
)
    
  
  
Loans, net
   
 
7,064,203
 
   
 
6,764,783
 
   
 
6,759,136
 
    
  
  
Bank premises and equipment, less accumulated depreciation of $116,687 (2002), $113,806 (December 2001) and $110,961 (September 2001)
   
 
102,223
 
   
 
101,295
 
   
 
101,762
 
Other real estate owned, net
   
 
123
 
   
 
181
 
   
 
195
 
Goodwill, net
   
 
102,705
 
   
 
102,705
 
   
 
104,838
 
Other intangible assets, net
   
 
7,999
 
   
 
9,319
 
   
 
7,296
 
Other assets
   
 
234,816
 
   
 
157,243
 
   
 
141,163
 
    
  
  
Total assets
   
$
10,582,874
 
   
$
9,928,786
 
   
$
9,468,004
 
    
  
  
LIABILITIES
                           
Deposits:
                           
Noninterest-bearing deposits
   
$
2,040,521
 
   
$
1,883,878
 
   
$
1,789,489
 
Interest-bearing deposits
   
 
6,004,976
 
   
 
5,563,494
 
   
 
5,458,235
 
    
  
  
Total deposits
   
 
8,045,497
 
   
 
7,447,372
 
   
 
7,247,724
 
Short-term borrowings
   
 
811,840
 
   
 
853,278
 
   
 
773,260
 
Accrued expenses and other liabilities
   
 
105,803
 
   
 
128,493
 
   
 
138,676
 
Long-term debt
   
 
289,313
 
   
 
269,437
 
   
 
84,200
 
    
  
  
Total liabilities
   
 
9,252,453
 
   
 
8,698,580
 
   
 
8,243,860
 
    
  
  
SHAREHOLDERS’ EQUITY
                           
Preferred stock, no par value; authorized 2,000,000 shares; issued and outstanding — None
                           
Common stock, $2 par value; authorized 130,000,000 shares; issued shares —69,612,217 (2002), 69,775,710 (December 2001) and 69,816,937 (September 2001); restricted shares — 67,215 (2002) and None (December and September 2001)
   
 
139,224
 
   
 
139,551
 
   
 
139,634
 
Capital surplus
   
 
150,592
 
   
 
159,947
 
   
 
161,820
 
Retained earnings
   
 
982,408
 
   
 
904,479
 
   
 
879,802
 
Accumulated other comprehensive income (loss)
   
 
58,197
 
   
 
26,229
 
   
 
42,888
 
    
  
  
Total shareholders’ equity
   
 
1,330,421
 
   
 
1,230,206
 
   
 
1,224,144
 
    
  
  
Total liabilities and shareholders’ equity
   
$
10,582,874
 
   
$
9,928,786
 
   
$
9,468,004
 
    
  
  
 
See notes to consolidated financial statements
 
 
Mercantile Bankshares Corporation

Page 3

MERCANTILE BANKSHARES CORPORATION
STATEMENT OF CONSOLIDATED INCOME
 
    
For the 9 Months Ended
September 30,
     
For the 3 Months Ended
September 30,
(Dollars in thousands, except per share data)
   
2002
   
2001
     
2002
     
2001
INTEREST INCOME
                                
Interest and fees on loans
   
$
352,220
   
$
418,998
 
   
$
118,398
 
   
$
134,835
    
  
  
  
Interest and dividends on investment securities:
                                
Taxable interest income
   
 
73,902
   
 
68,890
 
   
 
24,695
 
   
 
22,986
Tax-exempt interest income
   
 
1,429
   
 
1,506
 
   
 
470
 
   
 
504
Dividends
   
 
800
   
 
984
 
   
 
258
 
   
 
304
Other investment income
   
 
8,732
   
 
2,494
 
   
 
2,844
 
   
 
804
    
  
  
  
    
 
84,863
   
 
73,874
 
   
 
28,267
 
   
 
24,598
    
  
  
  
Other interest income
   
 
4,039
   
 
5,087
 
   
 
1,372
 
   
 
1,611
    
  
  
  
Total interest income
   
 
441,122
   
 
497,959
 
   
 
148,037
 
   
 
161,044
    
  
  
  
INTEREST EXPENSE
                                
Interest on deposits
   
 
94,268
   
 
158,241
 
   
 
30,659
 
   
 
49,303
Interest on short-term borrowings
   
 
9,074
   
 
21,816
 
   
 
2,834
 
   
 
5,762
Interest on long-term debt
   
 
8,253
   
 
4,425
 
   
 
2,630
 
   
 
1,380
    
  
  
  
Total interest expense
   
 
111,595
   
 
184,482
 
   
 
36,123
 
   
 
56,445
    
  
  
  
NET INTEREST INCOME
   
 
329,527
   
 
313,477
 
   
 
111,914
 
   
 
104,599
Provision for loan losses
   
 
11,443
   
 
9,230
 
   
 
3,244
 
   
 
3,101
    
  
  
  
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES
   
 
318,084
   
 
304,247
 
   
 
108,670
 
   
 
101,498
    
  
  
  
NONINTEREST INCOME
                                
Investment and wealth management
   
 
51,521
   
 
51,888
 
   
 
17,166
 
   
 
17,229
Service charges on deposit accounts
   
 
23,161
   
 
20,457
 
   
 
7,972
 
   
 
7,157
Mortgage banking related fees
   
 
7,395
   
 
7,967
 
   
 
2,306
 
   
 
3,106
Investment securities gains and (losses)
   
 
846
   
 
3,135
 
   
 
(203
)
   
 
1,596
Other income
   
 
24,107
   
 
23,763
 
   
 
8,145
 
   
 
8,649
    
  
  
  
Total noninterest income
   
 
107,030
   
 
107,210
 
   
 
35,386
 
   
 
37,737
    
  
  
  
NONINTEREST EXPENSES
                                
Salaries
   
 
97,283
   
 
91,391
 
   
 
32,278
 
   
 
31,101
Employee benefits
   
 
25,076
   
 
22,293
 
   
 
8,476
 
   
 
7,157
Stock-based compensation expense
   
 
997
   
 
(353
)
   
 
177
 
   
 
185
Net occupancy expense of bank premises
   
 
12,214
   
 
10,497
 
   
 
4,245
 
   
 
3,726
Furniture and equipment expenses
   
 
18,062
   
 
17,500
 
   
 
6,003
 
   
 
5,752
Communications and supplies
   
 
10,014
   
 
9,852
 
   
 
3,351
 
   
 
3,279
Goodwill amortization
   
 
—
   
 
6,939
 
   
 
—
 
   
 
2,134
Other expenses
   
 
39,112
   
 
36,538
 
   
 
14,107
 
   
 
13,253
    
  
  
  
Total noninterest expenses
   
 
202,758
   
 
194,657
 
   
 
68,637
 
   
 
66,587
    
  
  
  
Income before income taxes
   
 
222,356
   
 
216,800
 
   
 
75,419
 
   
 
72,648
Applicable income taxes
   
 
80,621
   
 
79,739
 
   
 
26,804
 
   
 
26,569
    
  
  
  
NET INCOME
   
$
141,735
   
$
137,061
 
   
$
48,615
 
   
$
46,079
    
  
  
  
NET INCOME PER SHARE OF COMMON STOCK (Note 2):
                                
Basic
   
$
2.03
   
$
1.93
 
   
$
.70
 
   
$
.66
    
  
  
  
Diluted
   
$
2.02
   
$
1.92
 
   
$
.69
 
   
$
.65
    
  
  
  
 
See notes to consolidated financial statements
 
Mercantile Bankshares Corporation

Page 4

MERCANTILE BANKSHARES CORPORATION
STATEMENT OF CONSOLIDATED CASH FLOWS
 
Increase (decrease) in cash and cash equivalents
   
For the 9 Months Ended September 30,
  
(Dollars in thousands)
   
2002
     
2001
  
CASH FLOWS FROM OPERATING ACTIVITIES:
                  
Net income
   
$
141,735
 
   
$
137,061
 
Adjustments to reconcile net income to net cash provided by operating activities:
                  
Provision for loan losses
   
 
11,443
 
   
 
9,230
 
Depreciation and amortization
   
 
9,679
 
   
 
9,267
 
Amortization of goodwill
   
 
—
 
   
 
6,939
 
Amortization of other intangible assets
   
 
1,561
 
   
 
1,265
 
Investment securities (gains) and losses
   
 
(846
)
   
 
(3,135
)
Write-downs of investments in private equity funds
   
 
2,494
 
   
 
619
 
Write-downs of other real estate owned
   
 
2
 
   
 
36
 
Gains on sales of other real estate owned
   
 
(51
)
   
 
(267
)
Gains on sales of buildings
   
 
(456
)
   
 
(510
)
Net (increase) decrease in assets:
                  
Interest receivable
   
 
(2,170
)
   
 
2,337
 
Other receivables
   
 
(2,999
)
   
 
(69
)
Other assets
   
 
(16,397
)
   
 
(527
)
Loans held-for-sale
   
 
137,856
 
   
 
(23,678
)
Net increase (decrease) in liabilities:
                  
Interest payable
   
 
(3,520
)
   
 
290
 
Accrued expenses
   
 
(5,262
)
   
 
(608
)
Taxes payable
   
 
(588
)
   
 
45,522
 
    
  
Net cash provided by operating activities
   
 
272,481
 
   
 
183,772
 
    
  
CASH FLOWS FROM INVESTING ACTIVITIES:
                  
Proceeds from maturities of investment securities held-to-maturity
   
 
2,667
 
   
 
3,181
 
Proceeds from maturities of investment securities available-for-sale
   
 
419,357
 
   
 
447,892
 
Proceeds from sales of investment securities available-for-sale
   
 
79,253
 
   
 
3,135
 
Purchases of investment securities held-to-maturity
   
 
(2,852
)
   
 
(4,986
)
Purchases of investment securities available-for-sale
   
 
(570,227
)
   
 
(599,974
)
Net increase in customer loans
   
 
(310,983
)
   
 
(214,211
)
Proceeds from sales of other real estate owned
   
 
227
 
   
 
1,568
 
Capital expenditures
   
 
(11,126
)
   
 
(9,266
)
Proceeds from sales of buildings
   
 
975
 
   
 
916
 
Acquisition of commercial mortgage company
   
 
—
 
   
 
(7,000
)
Purchase of bank-owned life insurance
   
 
(50,000
)
   
 
—
 
Other investing activity
   
 
(11,654
)
   
 
(2,083
)
    
  
Net cash used in investing activities
   
 
(454,363
)
   
 
(380,828
)
    
  
CASH FLOWS FROM FINANCING ACTIVITIES:
                  
Net increase in noninterest-bearing deposits
   
 
156,643
 
   
 
195,986
 
Net increase in checking plus interest and savings accounts
   
 
398,525
 
   
 
131,876
 
Net increase in certificates of deposit
   
 
42,957
 
   
 
123,321
 
Net decrease in short-term borrowings
   
 
(41,438
)
   
 
(8,208
)
Repayment of long-term debt
   
 
(8,300
)
   
 
(8,347
)
Proceeds from issuance of shares
   
 
6,566
 
   
 
5,733
 
Repurchase of common shares
   
 
(19,754
)
   
 
(61,953
)
Dividends paid
   
 
(61,348
)
   
 
(58,040
)
    
  
Net cash provided by financing activities
   
 
473,851
 
   
 
320,368
 
    
  
Net increase (decrease) in cash and cash equivalents
   
 
291,969
 
   
 
123,312
 
Cash and cash equivalents at beginning of period
   
 
314,347
 
   
 
274,745
 
    
  
Cash and cash equivalents at end of period
   
$
606,316
 
   
$
398,057
 
    
  
 
 
See notes to consolidated financial statements
 
Mercantile Bankshares Corporation

Page 5

MERCANTILE BANKSHARES CORPORATION
STATEMENT OF CHANGES IN CONSOLIDATED SHAREHOLDERS’ EQUITY
 
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002 AND 2001
 
(Dollars in thousands, except per share data)
   
Total
     
Common Stock
     
Capital Surplus
     
Retained Earnings
       
Accumulated Other Comprehensive Income (Loss)
  
BALANCE, DECEMBER 31, 2000
   
$
1,173,301
 
   
$
142,198
 
   
$
214,454
 
   
$
800,781
 
     
$
15,868
 
 
Net income
   
 
137,061
 
                     
 
137,061
 
           
Unrealized gains (losses) on securities available-for-sale, net of reclassification adjustment, net of taxes
   
 
27,020
 
                                
 
27,020
 
    
                                     
Comprehensive income
   
 
164,081
 
                                      
    
                                     
Cash dividends paid:
                                               
Common stock ($.82 per share)
   
 
(58,040
)
                     
 
(58,040
)
           
Issuance of 84,817 shares for dividend reinvestment and stock purchase plan
   
 
3,128
 
   
 
169
 
   
 
2,959
 
                    
Issuance of 17,546 shares for employee stock purchase dividend reinvestment plan
   
 
684
 
   
 
35
 
   
 
649
 
                    
Issuance of 115,824 shares for employee stock option plan
   
 
1,921
 
   
 
232
 
   
 
1,689
 
                    
Purchase of 1,500,000 shares under stock repurchase plan
   
 
(61,953
)
   
 
(3,000
)
   
 
(58,953
)
                    
Vested stock options
   
 
1,022
 
            
 
1,022
 
                    
    
  
  
  
    
BALANCE, SEPTEMBER 30, 2001
   
$
1,224,144
 
   
$
139,634
 
   
$
161,820
 
   
$
879,802
 
     
$
42,888
 
    
  
  
  
    
BALANCE, DECEMBER 31, 2001
   
$
1,230,206
 
   
$
139,551
 
   
$
159,947
 
   
$
904,479
 
     
$
26,229
 
 
Net income
   
 
141,735
 
                     
 
141,735
 
           
Unrealized gains (losses) on securities available-for-sale, net of reclassification adjustment, net of taxes (Note 7)
   
 
31,968
 
                                
 
31,968
 
    
                                     
Comprehensive income
   
 
173,703
 
                                      
    
                                     
Cash dividends paid:
                                               
Common stock ($.88 per share)
   
 
(61,348
)
                     
 
(61,348
)
           
Issuance of 80,889 shares for dividend reinvestment and stock purchase plan
   
 
2,889
 
   
 
162
 
   
 
2,727
 
                    
Issuance of 16,981 shares for employee stock purchase dividend reinvestment plan
   
 
684
 
   
 
34
 
   
 
650
 
                    
Issuance of 175,922 shares for employee stock option plan
   
 
2,993
 
   
 
352
 
   
 
2,641
 
                    
Issuance of 67,215 shares for restricted stock awards
   
 
3,019
 
   
 
134
 
   
 
2,885
 
                    
Deferred compensation—restricted stock awards
   
 
(2,458
)
                     
 
(2,458
)
           
Purchase of 504,500 shares under stock repurchase plan
   
 
(19,754
)
   
 
(1,009
)
   
 
(18,745
)
                    
Vested stock options
   
 
487
 
            
 
487
 
                    
    
  
  
  
    
BALANCE, SEPTEMBER 30, 2002
   
$
1,330,421
 
   
$
139,224
 
   
$
150,592
 
   
$
982,408
 
     
$
58,197
 
    
  
  
  
    
 
See notes to consolidated financial statements
 
 
Mercantile Bankshares Corporation

Page 6

 
MERCANTILE BANKSHARES CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
1.    Basis of Presentation
 
The consolidated financial statements, which include the accounts of Mercantile Bankshares Corporation (Bankshares) and all of its affiliates, are prepared in conformity with accounting principles generally accepted in the United States of America and follow general practice within the banking industry. In the opinion of management, the consolidated financial statements include all adjustments necessary for a fair presentation of the results for the interim period. These adjustments are of a normal recurring nature and include adjustments to eliminate all significant intercompany transactions. In view of the changing conditions in the national economy, the effect of actions taken by regulatory authorities and normal seasonal factors, the results for the interim period are not necessarily indicative of annual performance. For comparability, certain prior period amounts have been reclassified to conform with current period presentation.
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and contingent assets and liabilities at the date of the financial statements, and the disclosure of revenues and expenses during the reporting period. These estimates and assumptions are based on information available as of the date of the financial statements and could differ from actual results.
 
2.    Earnings Per Share
 
Basic earnings per share (EPS) is computed by dividing income available to common shareholders by weighted average common shares outstanding. Diluted EPS is computed using the same components as in basic EPS with the denominator adjusted for the dilutive effect of stock options and restricted stock awards. The following tables provide a reconciliation between the computation of basic EPS and diluted EPS for the nine months and quarters ended September 30, 2002 and 2001:
 
    
For the 9 Months Ended September 30,
    
2002
   
2001
(In thousands, except per share data)
   
Net
Income
     
Weighted Average Common Shares
   
EPS
   
Net Income
     
Weighted Average Common Shares
   
EPS
Basic EPS
   
$
141,735
     
69,750
   
$
2.03
   
$
137,061
     
70,844
   
$
1.93
Dilutive effect of stock options and restricted stock awards
            
530
                   
632
       
             
                  
      
Diluted EPS
   
$
141,735
     
70,280
   
$
2.02
   
$
137,061
     
71,476
   
$
1.92
             
                  
      
    
For the 3 Months Ended September 30,
    
2002
   
2001
(In thousands, except per share data)
   
Net
Income
     
Weighted Average Common Shares
   
EPS
   
Net Income
     
Weighted Average Common Shares
   
EPS
Basic EPS
   
$
48,615
     
69,637
   
 
$.70
   
$
46,079
     
70,237
   
 
$.66
Dilutive effect of stock options and restricted stock awards
            
474
                   
626
       
             
                  
      
Diluted EPS
   
$
48,615
     
70,111
   
 
$.69
   
$
46,079
     
70,863
   
 
$.65
             
                  
      
 
Mercantile Bankshares Corporation

Page 7

3.    Investment Securities
 
The amortized cost and fair value of investment securities at September 30, 2002, December 31, 2001 and September 30, 2001, are shown below:
 
    
September 30, 2002
   
December 31, 2001
   
September 30, 2001
(Dollars in thousands)
   
Amortized Cost
  
Fair
Value
   
Amortized Cost
   
Fair
Value
   
Amortized Cost
   
Fair
Value
Securities available-for-sale
                                          
U.S. Treasury and government agencies
   
$
2,115,091
   
$
2,197,283
   
$
2,029,682
   
$
2,066,990
   
$
1,758,252
   
$
1,815,263
States and political subdivisions
   
 
549
   
 
579
   
 
649
   
 
667
   
 
1,149
   
 
1,180
Other investments
   
 
202,700
   
 
214,079
   
 
215,545
   
 
221,037
   
 
43,771
   
 
56,283
    
  
  
  
  
  
Total
   
$
2,318,340
   
$
2,411,941
   
$
2,245,876
   
$
2,288,694
   
$
1,803,172
   
$
1,872,726
    
  
  
  
  
  
Securities held-to-maturity
                                          
States and political subdivisions
   
$
36,993
   
$
40,071
   
$
38,815
   
$
40,172
   
$
39,104
   
$
41,073
Other investments
   
 
15,461
   
 
15,461
   
 
13,454
   
 
13,454
   
 
13,454
   
 
13,454
    
  
  
  
  
  
Total
   
$
52,454
   
$
55,532
   
$
52,269
   
$
53,626
   
$
52,558
   
$
54,527
    
  
  
  
  
  
 
4.    Impaired Loans
 
A loan is considered impaired, based on current information and events, if it is probable that Bankshares will not collect all principal and interest payments according to the contractual terms of the loan agreement. Generally, a loan is considered impaired once either principal or interest payments become 90 days past due at the end of a calendar quarter. A loan may be considered impaired sooner if, in management’s judgement, such action is warranted. The impairment of a loan is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate, or the fair value of the collateral if the repayment is expected to be provided predominantly by the underlying collateral. A majority of Bankshares’ impaired loans are measured by reference to the fair value of the collateral. Accrued interest on impaired loans is reversed and is recognized on the cash basis. Information with respect to impaired loans and the related valuation allowance (if the measure of the impaired loan is less than the recorded investment) at September 30 and June 30, 2002 and at the end of December 2001, is shown below. See Form 10-K for more details.
 
(Dollars in thousands)
     
September 30, 2002
  
June 30, 2002
     
December 31, 2001
Impaired loans with a specific valuation allowance
     
$
14,678
  
$
20,000
     
$
47,963
All other impaired loans
     
 
22,257
  
 
22,314
     
 
6,379
      
 
    
Total impaired loans
     
$
36,935
  
$
42,314
     
$
54,342
      
 
    
Specific allowance for loan losses applicable to impaired loans
     
$
6,494
  
$
5,209
     
$
10,484
General allowance for loan losses
     
 
130,093
  
 
130,185
     
 
130,979
      
 
    
Total allowance for loan losses
     
$
136,587
  
$
135,394
     
$
141,463
      
 
    
Year-to-date interest income on impaired loans recorded on the cash basis
     
$
420
  
$
274
     
$
510
      
 
    
Year-to-date average recorded investment in impaired loans during the period
     
$
56,948
  
$
61,008
     
$
33,095
      
 
    
Quarter-to-date interest income on impaired loans recorded on the cash basis
     
$
146
  
$
239
     
$
253
      
 
    
Quarter-to-date average recorded investment in impaired loans during the period
     
$
48,829
  
$
54,777
     
$
37,827
      
 
    
 
Note: Impaired loans do not include large groups of smaller balance homogeneous loans that are evaluated collectively for impairment (e.g., residential mortgages and consumer installment loans). The allowance for loan losses related to these loans is included in the allowance for loan losses applicable to other than impaired loans.
 
5.    Commitments
 
Various commitments to extend credit (lines of credit) are made in the normal course of banking business. Total unused lines of credit approximated $2,888,425,000, $3,055,291,000 and $2,803,080,000 at September 30, 2002, December 31, 2001 and
 
Mercantile Bankshares Corporation

Page 8

September 30, 2001, respectively. In addition, letters of credit are issued for the benefit of customers by affiliated banks. Outstanding letters of credit were $232,921,000 at September 30, 2002, $197,546,000 at December 31, 2001 and $194,510,000 at September 30, 2001.
 
6.    Intangible Assets
 
The following table discloses the gross carrying amount and accumulated amortization of intangible assets subject to amortization at September 30, 2002 and December 31, 2001:
 
    
September 30, 2002
   
December 31, 2001
(Dollars in thousands)
   
Gross Carrying Amount
   
Accumulated Amortization
     
Net Amount
   
Gross Carrying Amount
   
Accumulated Amortization
     
Net Amount
Deposit intangibles
   
$
13,846
   
$
(6,215
)
   
$
7,631
   
$
13,846
   
$
(4,899
)
   
$
8,947
Mortgage servicing rights
   
 
1,600
   
 
(1,243
)
   
 
357
   
 
1,749
   
 
(1,406
)
   
 
343
Other
   
 
50
   
 
(39
)
   
 
11
   
 
50
   
 
(21
)
   
 
29
    
  
  
  
  
  
Total
   
$
15,496
   
$
(7,497
)
   
$
7,999
   
$
15,645
   
$
(6,326
)
   
$
9,319
    
  
  
  
  
  
 
The aggregate amortization expense was $1,561,000 for the nine months ended September 30, 2002 and $2,082,000 for the year ended December 31, 2001. The estimated aggregate amortization expense for each of the next five years is: 2003 – $1,716,000; 2004 – $1,463,000; 2005 – $1,463,000; 2006 – $1,463,000; 2007 – $1,261,000.
 
7.    Comprehensive Income
 
The following table summarizes the related tax effect of unrealized gains (losses) on securities available-for-sale for the nine months ended September 30, 2002 and 2001. The net amount is included in accumulated other comprehensive income (loss) in the Statement of Changes in Consolidated Shareholders’ Equity on Page 5.
 
    
For the 9 Months Ended September 30,
  
    
2002
     
2001
  
(Dollars in thousands)
   
Pretax Amount
     
Tax (Expense) Benefit
     
Net Amount
     
Pretax Amount
     
Tax (Expense) Benefit
     
Net Amount
  
Unrealized gains (losses) on securities available-for-sale:
                                                      
Unrealized holding gains (losses) arising during the period
   
$
51,629
 
   
$
(19,150
)
   
$
32,479
 
   
$
47,224
 
   
$
(18,309
)
   
$
28,915
 
Reclassification adjustment for (gains) losses included in net income
   
 
(846
)
   
 
335
 
   
 
(511
)
   
 
(3,135
)
   
 
1,240
 
   
 
(1,895
)
    
  
  
  
  
  
Total
   
$
50,783
 
   
$
(18,815
)
   
$
31,968
 
   
$
44,089
 
   
$
(17,069
)
   
$
27,020
 
    
  
  
  
  
  
 
8.    Capital Adequacy
 
Bankshares and its bank affiliates are subject to various regulatory capital requirements administered by the federal and state banking agencies. These requirements include maintaining certain capital ratios above minimum levels. These capital ratios include Tier I capital and Total risk-based capital as percents of net risk-weighted assets and Tier I capital as a percent of adjusted average total assets (leverage ratio). The minimum ratios for capital adequacy purposes are 4.00%, 8.00% and 4.00%, for the Tier I capital, Total capital and leverage ratios, respectively. To be categorized as well capitalized, a bank must maintain minimum ratios of 6.00%, 10.00% and 5.00%, for its Tier I capital, Total capital and leverage ratios, respectively. Management believes that, as of September 30, 2002, Bankshares and its bank affiliates exceeded all capital adequacy requirements to which they are subject.
 
Mercantile Bankshares Corporation

Page 9

Capital ratios and the amounts used to calculate them are presented in the following table for Bankshares and Mercantile – Safe Deposit & Trust Company (MSD&T), the lead bank, as of September 30, 2002 and December 31, 2001.
 
    
September 30, 2002
     
December 31, 2001
  
(Dollars in thousands)
   
Bankshares
     
MSD&T
     
Bankshares
     
MSD&T
  
Tier I capital
   
$
1,161,179
 
   
$
427,589
 
   
$
1,092,262
 
   
$
410,376
 
Total risk-based capital
   
 
1,257,027
 
   
 
469,684
 
   
 
1,185,518
 
   
 
451,926
 
Net risk-weighted assets
   
 
7,463,392
 
   
 
3,353,464
 
   
 
7,088,939
 
   
 
3,166,865
 
Adjusted average total assets
   
 
10,185,319
 
   
 
4,231,574
 
   
 
9,413,946
 
   
 
3,853,753
 
                                     
Tier I capital ratio
   
 
15.56
%
   
 
12.75
%
   
 
15.41
%
   
 
12.96
%
Total capital ratio
   
 
16.84
%
   
 
14.01
%
   
 
16.72
%
   
 
14.27
%
Leverage ratio
   
 
11.40
%
   
 
10.10
%
   
 
11.60
%
   
 
10.65
%
 
9.    Segment Reporting
 
Operating segments are defined as components of an enterprise about which separate financial information is available that management relies on for decision making and performance assessment. Bankshares has three reportable segments – its nineteen Community Banks, the Banking Division of Mercantile – Safe Deposit & Trust Company (MSD&T) and the Trust Division of MSD&T.
 
The following tables present selected segment information for the nine months ended September 30, 2002 and 2001. The components in the “Other” column consist of amounts for the nonbank affiliates and intercompany eliminations. Certain expense amounts such as operations overhead have been reclassified from internal financial reporting in order to provide for full cost absorption. These reclassifications are shown in the “Adjustments” line. The amounts reported reflect the merger of The Sparks State Bank into MSD&T.
 
    
For the 9 Months Ended September 30, 2002
  
(Dollars in thousands)
   
MSD&T Banking
     
MSD&T Trust
     
Total MSD&T
     
Community Banks
     
Other
     
Total
  
Net interest income
   
$
    109,942
 
   
$
—
 
   
$
    109,942
 
   
$
221,296
 
   
$
(1,711
)            
   
$
329,527
 
Provision for loan losses
   
 
(6,800
)
   
 
—
 
   
 
(6,800
)
   
 
(4,643
)
   
 
—
 
   
 
(11,443
)
Noninterest income
   
 
29,987
 
   
 
51,195
 
   
 
81,182
 
   
 
37,375
 
   
 
(11,527
)
   
 
107,030
 
Noninterest expenses
   
 
(68,215
)
   
 
(32,261
)
   
 
(100,476
)
   
 
(112,988
)
   
 
10,706
 
   
 
(202,758
)
Adjustments
   
 
12,720
 
   
 
(1,252
)
   
 
11,468
 
   
 
(6,376
)
   
 
(5,092
)
   
 
—
 
    
  
  
  
  
  
Income (loss) before income taxes
   
 
77,634
 
   
 
17,682
 
   
 
95,316
 
   
 
134,664
 
   
 
(7,624
)
   
 
222,356
 
Income tax (expense) benefit
   
 
(28,045
)
   
 
(7,073
)
   
 
(35,118
)
   
 
(47,035
)
   
 
1,532
 
   
 
(80,621
)
    
  
  
  
  
  
Net income (loss)
   
$
49,589
 
   
$
10,609
 
   
$
60,198
 
   
$
87,629
 
   
$
(6,092
)
   
$
141,735
 
    
  
  
  
  
  
Average assets
                     
$
4,101,243
 
   
$
6,157,184
 
   
$
(253,236
)
   
$
10,005,191
 
Average equity
                     
 
435,080
 
   
 
774,514
 
   
 
42,913
 
   
 
1,252,507
 
    
 
For the 9 Months Ended September 30, 2001
  
(Dollars in thousands)
   
MSD&T Banking
     
MSD&T Trust
     
Total MSD&T
     
Community Banks
     
Other
     
Total
  
Net interest income
   
$
107,481
 
   
$
—
 
   
$
107,481
 
   
$
206,368
 
   
$
(372
)
   
$
313,477
 
Provision for loan losses
   
 
(4,853
)
   
 
—
 
   
 
(4,853
)
   
 
(4,377
)
   
 
—
 
   
 
(9,230
)
Noninterest income
   
 
27,851
 
   
 
51,703
 
   
 
79,554
 
   
 
34,442
 
   
 
(6,786
)
   
 
107,210
 
Noninterest expenses
   
 
(62,863
)
   
 
(29,983
)
   
 
(92,846
)
   
 
(105,961
)
   
 
4,150
 
   
 
(194,657
)
Adjustments
   
 
8,849
 
   
 
(1,381
)
   
 
7,468
 
   
 
(14,118
)
   
 
6,650
 
   
 
—
 
    
  
  
  
  
  
Income (loss) before income taxes
   
 
76,465
 
   
 
20,339
 
   
 
96,804
 
   
 
116,354
 
   
 
3,642
 
   
 
216,800
 
Income tax (expense) benefit
   
 
(27,741
)
   
 
(8,136
)
   
 
(35,877
)
   
 
(43,048
)
   
 
(814
)
   
 
(79,739
)
    
  
  
  
  
  
Net income (loss)
   
$
48,724
 
   
$
12,203
 
   
$
60,927
 
   
$
73,306
 
   
$
2,828
 
   
$
137,061
 
    
  
  
  
  
  
Average assets
                     
$
3,707,151
 
   
$
5,586,602
 
   
$
(167,130
)
   
$
9,126,623
 
Average equity
                     
 
407,806
 
   
 
669,512
 
   
 
118,132
 
   
 
1,195,450
 
 
Mercantile Bankshares Corporation

Page 10

10.    Derivative Instruments and Hedging Activities
 
Bankshares maintains an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility. Derivative instruments that are used as part of the interest rate risk management strategy have been restricted to interest rate swaps. Interest rate swaps generally involve the exchange of fixed-rate and variable-rate interest payments between two parties, based on a common notional principal amount and maturity date. Bankshares has entered into interest rate swaps to convert fixed-rate loans made to borrowers to floating-rate loans and convert its nonprepayable fixed-rate debt to floating-rate debt.
 
The fair value of derivative instruments was $13,563,000 at September 30, 2002, recorded in other assets, and $14,625,000 at December 31, 2001, recorded in accrued expenses and other liabilities. For the nine months ended September 30, 2002, Bankshares recognized a net loss of $12,000, included in interest and fees on loans, which represented the ineffective portion of the fair-value hedge of fixed-rate loans made to borrowers. For the year ended December 31, 2001, Bankshares recognized a net loss of $28,000. The fair-value hedge of the nonrepayable fixed-rate debt was 100% effective for the reported periods.
 
11.    Accounting Changes
 
In June 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard (SFAS) No. 141, Business Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001. Additionally, it further clarifies the criteria for the initial recognition and measurement of intangible assets separate from goodwill. SFAS No. 142 is effective for fiscal years beginning after December 15, 2001 and prescribes the accounting for goodwill and intangible assets subsequent to initial recognition. The provisions of SFAS No. 142 discontinue the amortization of goodwill and intangible assets with indefinite lives. Instead, these assets will be subject to at least an annual impairment review, and more frequently if certain impairment indicators are in evidence. SFAS No. 142 also requires that reporting units be identified for the purpose of assessing potential future impairments of goodwill.
 
Mercantile Bankshares Corporation adopted SFAS No. 142 on January 1, 2002. In preparing for its adoption of SFAS No. 142, Bankshares determined its reporting units and the amounts of goodwill and intangible assets to be allocated to those reporting units. Bankshares is not anticipating any reclassifications between goodwill and intangible assets or any changes in the useful lives of intangible assets. Application of the nonamortization provisions of the Statement is expected to result in additional net income of $8.4 million for the year ended December 31, 2002.
 
SFAS No. 142 requires that goodwill be tested annually for impairment using a two-step process. The first step, which Bankshares completed during the first half of 2002, is to identify a potential impairment. The second step, which Bankshares will complete by the end of 2002, measures the amount of the impairment loss, if any. Based on current information, Bankshares is not expecting impairment charges for goodwill to impact the 2002 financial statements.
 
The following table presents a reconciliation of reported net income and earnings per share to amounts adjusted to exclude goodwill amortization, net of tax:
 
    
For the 9 Months Ended
   
For the 3 Months Ended
    
September 30,
  
September 30,
(Dollars in thousands, except per share data)
   
2002
     
2001
   
2002
     
2001
Net income
                                
Reported
   
$
141,735
     
$
137,061
   
$
48,615
     
$
46,079
Add: goodwill amortization
   
 
—
     
 
6,834
   
 
—
     
 
2,089
    
    
  
    
Adjusted
   
$
141,735
     
$
143,895
   
$
48,615
     
$
48,168
    
    
  
    
Reported
   
$
2.03
     
$
1.93
   
$
.70
     
$
.66
Add: goodwill amortization
   
 
—
     
 
.10
   
 
—
     
 
.03
    
    
  
    
Adjusted
   
$
2.03
     
$
2.03
   
$
.70
     
$
.69
    
    
  
    
Diluted earnings per share
                                
Reported
   
$
2.02
     
$
1.92
   
$
.69
     
$
.65
Add: goodwill amortization
   
 
—
     
 
.09
   
 
—
     
 
.03
    
    
  
    
Adjusted
   
$
2.02
     
$
2.01
   
$
.69
     
$
.68
    
    
  
    
 
Mercantile Bankshares Corporation
 

Page 11

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
MERCANTILE BANKSHARES CORPORATION
 
Consolidated Financial Results
 
Net income for the quarter ended September 30, 2002 was $48,615,000, a 5.5% increase from net income of $46,079,000 for the same period in 2001. For the quarter ended September 30, 2002, diluted net income per share was $.69, an increase of 6.2% over the $.65 reported for the third quarter last year. As a result of newly-adopted rules under Generally Accepted Accounting Principles, amortization of goodwill has been discontinued in 2002. Had the same rules been in effect in 2001, net income would have been $.03 per share higher for the quarter ended September 30, 2001. The higher growth in earnings per share was also attributable to a decline in adjusted weighted average shares outstanding from 70,863,000 for the quarter ended September 30, 2001, to 70,111,000 for the quarter ended September 30, 2002. The decline in shares primarily resulted from activity under the share repurchase program, which had remaining repurchase authorization for 2.4 million shares at September 30, 2002.
 
For the first nine months of 2002, net income was $141,735,000, an increase of 3.4% over the $137,061,000 reported for the comparable period in 2001. Diluted net income per share for the first three quarters of 2002 was $2.02, a 5.2% increase over the $1.92 reported for the same period last year. Excluding goodwill amortization, net income would have been $2.01 for the nine months ending September 30, 2001.
 
The return on average assets for the third quarter of 2002 was 1.87%, as compared with 2.06% for the third quarter of 2001. The return on average tangible equity was 16.45% and the ratio of average tangible equity to average tangible assets was 11.49% for the third quarter of 2002. For the third quarter 2001, the return on average tangible equity was 17.54% and the ratio of average tangible equity to average tangible assets was 11.88%.
 
Net Interest Income and Net Interest Margin
 
Net interest income for the quarter ended September 30, 2002 increased 7.0% to $111,914,000 from $104,599,000 for the third quarter last year. This represented the best quarterly performance over the prior year since the first quarter 2001, when the Federal Reserve began lowering short-term interest rates. The current quarter reflected a 1.3% growth over the $110,425,000 reported for the prior quarter this year. The growth in net interest income was attributable to the growth in average earning assets, particularly investment securities. Average earning assets grew to $9,789,103,000, a 10.8% increase over the previous year's $8,837,624,000 quarterly average. The net interest margin at 4.60% for the third quarter 2002 was 17 basis points lower than the same quarter last year and 14 basis points lower than the prior quarter this year. The net interest margin was adversely affected by deposit growth that significantly exceeded loan demand. The excess was employed in lower yielding federal funds sold, which increased approximately $160,000,000 from the prior quarter, accounting for 10 of the 14 basis point decline in the net interest margin.
 
Net interest income for the first nine months of 2002 increased to $329,527,000 or 5.1% over the $313,477,000 for the same period last year. The growth in net interest income was attributable to a 9.7% growth in average earning assets, partially offset by a 22 basis point decline in the net interest margin from 4.90% to 4.68%. See the Analysis of Interest Rates and Interest Differentials on pages 17 and 18 and Rate/Volume Analysis on page 19 for further details.
 
      
For the 9 Months Ended September 30,
2002 vs. 2001
Due to variances in
      
For the 3 Months Ended September 30,
2002 vs. 2001
Due to variances in
  
(Dollars in thousands)
     
Rates
       
Volumes
     
Total
       
Rates
       
Volumes
     
Total
  
Total interest income
     
$
(97,452
)
     
$
40,339
     
$
(57,113
)
     
$
(27,505
)
     
$
14,467
     
$
(13,038
)
Total interest expense
     
 
(86,372
)
     
 
13,485
     
 
(72,887
)
     
 
(25,618
)
     
 
5,296
     
 
(20,322
)
      
    
    
    
    
    
Net interest earned
     
$
(11,080
)
     
$
26,854
     
$
15,774
 
     
$
(1,887
)
     
$
9,171
     
$
7,284
 
      
    
    
    
    
    
 
Interest income for the quarter decreased $13,007,000 or 8.1% to $148,037,000. For the first nine months of 2002, interest income decreased $56,837,000 or 11.4% to $441,122,000. On a tax-equivalent basis, interest income for the first nine months

Mercantile Bankshares Corporation

Page 12

of 2002 decreased $57,113,000. This decline is attributable to the Federal Reserve's 475 basis point reduction in short-term interest rates last year. Reflective of the Federal Reserve’s actions, the tax-equivalent yield on the loan portfolio declined 120 basis points from 7.83% last year to 6.63% in the current quarter and 153 basis points from 8.29% to 6.76% for the first three quarters of 2001 and 2002, respectively. Similarly, the tax-equivalent yield on the investment portfolio declined 75 basis points to 4.76% from 5.51% in the third quarter last year and 88 basis points from 5.78% to 4.90% for the first three quarters 2001 and 2002, respectively. The increase in interest income related to changes in volume is primarily attributable to the investment portfolio, which grew over the prior year by 32.8% and 35.1% for the quarter and nine months, respectively. In contrast, average loans grew by 3.9% and 3.3% for the three and nine months ended September 30, 2002 compared to the same periods last year.
 
Interest expense for the quarter ended September 30, 2002 decreased $20,322,000 or 36.0% to $36,123,000. For the first nine months of 2002, interest expense decreased $72,887,000 or 39.5% to $111,595,000. Although interest rates have generally stabilized since the fourth quarter 2001, the repricing upon maturity of longer duration certificates of deposit has continued to reduce interest expense. The average rate paid on time deposits $100,000 and over during the third quarter 2002 was 3.10%, a decline of 222 basis points from the prior year. For the nine month period, the average rate paid declined 244 basis points to 3.31%. Other time deposits, primarily consumer certificates of deposit, declined 188 basis points and 193 basis points to an average rate paid of 3.39% and 3.65% for the three and nine months ended September 30, 2002, as compared to the same periods last year. Overall, the average rate paid on interest-bearing deposits declined 153 basis points and 171 basis points for the three and nine months ended September 30, 2002 when compared to the prior year. The average rate paid on short-term borrowings declined 168 basis points for the three months ended and 253 basis points for the nine months ended September 30, 2002, respectively. The increase in interest expense due to increased volume for both the quarter and nine months is attributable to the growth in long-term debt, short-term borrowings, savings and money market deposits. Average money market balances increased 32.6% compared to the third quarter 2001, and 30.8% for the nine month period. Comparing this quarter of 2002 with 2001, checking plus interest and savings account balances grew 13.8% and 15.2%, respectively, and the growth was 12.5% and 12.2% for the comparable nine month period.
 
Noninterest Income
 
      
For the 9 Months Ended September 30,
2002 vs. 2001
      
For the 3 Months Ended September 30,
2002 vs. 2001
  
Noninterest Income
(Dollars in thousands)
     
Increase/(Decrease)
Amount
     
%
       
Increase/(Decrease) Amount
     
%
  
Investment and wealth management
     
$
(367
)
   
(.7
)
     
$
(63
)
   
(.4
)
Service charges on deposit accounts
     
 
2,704
 
   
13.2
 
     
 
815
 
   
11.4
 
Mortgage banking related fees
     
 
(572
)
   
(7.2
)
     
 
(800
)
   
(25.8
)
Investments securities gains and (losses)
     
 
(2,289
)
   
(73.0
)
     
 
(1,799
)
   
(112.7
)
Other income
     
 
344
 
   
1.4
 
     
 
(504
)
   
(5.8
)
      
           
      
Total noninterest income
     
$
(180
)
   
(.2
)
     
$
(2,351
)
   
(6.2
)
      
           
      
 
Noninterest income decreased 6.2% to $35,386,000 for the third quarter 2002 versus the comparable period in 2001. Included in noninterest income was a $203,000 loss in third quarter 2002 and a $1,596,000 gain in third quarter 2001 from the sale of investment securities. Excluding the securities gains and losses realized in the third quarter of 2002 and 2001, noninterest income declined 1.5%. Investment and wealth management revenues remained relatively unchanged for the quarter ended September 30, 2002. Mortgage banking revenues decreased 25.8% to $2,306,000 due to lower volumes in commercial mortgage loan originations and outsourcing of the retail origination business. This quarter also reflects earnings of $378,000 from the bank-owned life insurance program (BOLI) initiated through two $25,000,000 investments in July and August. The other income component of noninterest income for the third quarter of 2002 reflects write-downs of investments in third-party private equity funds of $1,456,000. See the Analysis of Financial Condition section for additional commentary. For the

Mercantile Bankshares Corporation

Page 13

first nine months, excluding investment securities gains, noninterest income increased $2,109,000, or 2.0%. Increased commercial checking and account analysis fees and the BOLI income account for the increase.
 
Noninterest Expenses
 
 
      
For the 9 Months Ended September 30,
2002 vs. 2001
       
For the 3 Months Ended September 30,
2002 vs. 2001
  
Noninterest Expenses
(Dollars in thousands)
     
Increase/(Decrease)
Amount
     
%
       
Increase/(Decrease) Amount
     
%
  
Salaries
     
$
5,892
 
   
6.4
 
     
$
1,177
 
   
3.8
 
Employee benefits
     
 
2,783
 
   
12.5
 
     
 
1,319
 
   
18.4
 
Stock-based compensation expense
     
 
1,350
 
   
382.4
 
     
 
(8
)
   
(4.3
)
Net occupancy expense of bank premises
     
 
1,717
 
   
16.4
 
     
 
519
 
   
13.9
 
Furniture and equipment expenses
     
 
562
 
   
3.2
 
     
 
251
 
   
4.4
 
Communications and supplies
     
 
162
 
   
1.6
 
     
 
72
 
   
2.2
 
Other expenses
     
 
2,574
 
   
7.0
 
     
 
854
 
   
6.4
 
      
           
      
Noninterest expenses before goodwill
amortization
     
 
15,040
 
   
8.0
 
     
 
4,184
 
   
6.5
 
Goodwill amortization
     
 
(6,939
)
   
(100.0
)
     
 
(2,134
)
   
(100.0
)
      
           
      
Total noninterest expenses
     
$
8,101
 
   
4.2
 
     
$
2,050
 
   
3.1
 
      
           
      
 
Noninterest expenses for the quarter ended September 30, 2002, increased 3.1% to $68,637,000 from $66,587,000 for the third quarter of 2001. Excluding goodwill amortization, noninterest expenses were $64,453,000 for the third quarter of 2001. Excluding goodwill amortization, noninterest expenses for the third quarter 2002 increased by 6.5% over the third quarter 2001. Excluding $1,700,000 in severance expenses related to investment and wealth management reorganization, recorded in the second quarter of 2002, noninterest expenses this quarter increased $2,407,000 compared to the prior quarter. Other expenses provided the largest increase and included increases in professional fees, charitable contribution expense, and merchant card processing fees. Retiree medical insurance premiums also increased from last quarter. The principal contributor to the year over year increase in expenses was a $1.3 million or 18.4% increase in employee benefits, primarily due to increases in pension expense and medical costs related to retiree insurance premiums. Net occupancy expense increased $519,000 or 13.9% to $4,245,000 for the current quarter from the quarter ending September 2001 due to growth in rent and utility costs. Other noninterest expense increases are a result of higher professional fees and a charitable contribution of appreciated equity securities with a cost of $177,000. The gifting of these securities lowered the effective tax rate for the quarter.
 
Noninterest expenses for the first nine months of 2002 increased $15,040,000, or 8.0%, after excluding the amortization of goodwill in 2001. The increase in expenses was attributable in part, to salaries and benefits related to severance expenses for the investment and wealth management reorganization, as discussed in the previous quarter. Also impacting this period was increased incentive compensation expenses and increased stock compensation related to stock options and restricted stock awards. The prior year’s credit was due to directors’ deferred compensation, which fluctuates based on the market price of Mercantile’s stock. Additionally, the increase in occupancy expense is a function of increases in rental payments, repair and maintenance expenses associated with improvements at some branch locations and insurance costs. Mercantile continued to expand its internal use of its headquarters building causing a reduction in outside tenants in that building.
 
The efficiency ratio, a key measure of expense management, was 46.10% for year to date 2002 versus 44.49% for the comparable period in 2001.

Mercantile Bankshares Corporation

Page 14

 
Analysis of Financial Condition
 
At September 30, 2002, total assets increased 11.8% to $10,582,874,000 compared to $9,468,004,000 one year earlier. Compared to the year ended December 31, 2001 at $9,928,786,000, total assets increased 6.6%. Investment securities increased 28.0% to $2,464,395,000 compared to $1,925,284,000 at September 30, 2001. Total loans increased 4.4% to $7,200,790,000 at September 30, 2002, compared to $6,900,139,000 at September 30, 2001. The mix of the loan portfolio is relatively consistent, except for the expected decline in leases in the portfolio from 2.3% of outstandings at September 2001 to 2.2% at December 2001 to 1.7% currently.
 
Included in other assets is the investment in third-party equity investments of $5,205,000 at September 30, 2002. The total commitment to these investments is $23,000,000, of which $9,605,000 has been advanced. These investments are carried at the lower of cost or fair value. Also included in other assets this quarter is the BOLI at cash surrender value of $50,378,000 funded in July and August of this quarter. The BOLI investment was made to partially fund increasing costs of employee benefits.
 
Total deposits at September 30, 2002, were $8,045,497,000 an increase of 11.0% from $7,247,724,000 at the end of the third quarter 2001, and an 8.0% increase from the end of last year. Interest-bearing deposits were $6,004,976,000, an increase of 10.0% from September 30, 2001, and a 7.9% increase from the end of 2001. Interest-bearing deposits were 74.6% of total deposits at September 30, 2002, which represented a decrease from the 75.3% at September 30, 2001 and remained relatively unchanged from 74.7% at the end of last year. Noninterest-bearing deposits increased as a percentage of total deposits. Noninterest-bearing deposits were 24.7% of deposits at September 2001, 25.3% at the end of 2001 and 25.4% for the current quarter. Noninterest-bearing deposits increased 14.0% to $2,040,521,000 as of September 30, 2002, compared to $1,789,489,000 at September 30, 2001, and increased 8.3% compared to $1,883,878,000 at December 31, 2001.
 
Shareholders’ equity at September 30, 2002, was $1,330,421,000, an increase of 8.7% from $1,224,144,000 at September 30, 2001 and an increase of 8.1% from $1,230,206,000 at December 31, 2001. The Corporation, having repurchased 504,500 shares year to date, still has prior authorizations enabling it to repurchase up to 2.4 million shares. For more details see the Statement of Changes in Consolidated Shareholders’ Equity on page 5.
 
Asset Quality
 
Nonperforming Assets
 
Nonperforming assets consist of nonaccrual loans, renegotiated loans and other real estate owned (ie., real estate acquired in foreclosure or in lieu of foreclosure). With respect to nonaccrual loans, Bankshares’ policy is that, regardless of the value of the underlying collateral and/or guarantees, no interest is accrued on the entire balance once either principal or interest payments on any loan become 90 days past due at the end of a calendar quarter. All accrued and uncollected interest on such loans is eliminated from the income statement and is recognized only as collected. A loan may be put on nonaccrual status sooner than this standard if, in management’s judgement, such action is warranted.
 
During the three months ended September 30, 2002, nonperforming assets declined $5,701,000 to $39,640,000. Nonperforming loans, one of the components of nonperforming assets, decreased $5,761,000 while other real estate owned, the other component increased $60,000. The decrease in nonperforming loans is a result of successful efforts in collection and sale of collateral. Nonperforming assets as a percent of period-end loans and other real estate owned was .55% at September 30, 2002, .64% at June 30, 2002 and .50% at September 30, 2001, respectively. The current decline resulted from actions taken to address credit quality issues, particularly in the leasing business. The leasing company’s portfolio accounted for $8,114,000 or 20.5% of nonperforming loans at September 30, 2002, as compared to 2.3% of the outstanding portfolio of loans and leases. At June 30, 2002, nonperforming assets in the leasing portfolio were $10,073,000 or 22.2% of nonperforming loans. As a result of credit quality concerns about the leasing portfolio, management previously announced it was narrowing the focus of the leasing business and discontinuing certain activities. These concerns are reflected in the increased allocation to leasing of the allowance for loan losses, reflected in the 2001 Form 10-K. Excluding the leasing portfolio, nonperforming loans are .44% of period-end loans.

Mercantile Bankshares Corporation

Page 15

The level of “monitored” loans, or loans with characteristics suggesting that they could be classified as nonperforming in the near future, also improved during the quarter. At September 30, 2002, monitored loans were $1,940,000 compared to $7,885,000 at June 30, 2002. One monitored loan of $3,861,000 at June 2002, was moved to nonaccrual/impaired status at September 30, 2002 and a valuation reserve of $2,894,000 was established.
 
The level of impaired loans improved during the quarter. Impaired loans are also given nonaccrual or nonperforming status. Impaired loans at September 30, 2002 reflected a net decrease of $17,407,000 to $36,935,000, from $54,342,000 at December 31, 2001. This is largely the result of gross charge-offs of $18,673,000 this year. At December 31, 2001, 88.3% of the total impaired loans had a valuation allowance, while 47.3% did at June 30, 2002. At September 30, 2002 the percentage has declined to 39.7%. The decline in the ratio at December 31, 2001 to September 30, 2002 was also due to charge-offs. The decline in the portion of loans with a valuation allowance in this quarter is a result of a charge-off taken and a sale of collateral. The loan involved was previously shown as impaired with a valuation allowance and the current balance is now less than the collateral proceeds to be received. Therefore, while the remaining portion of this loan is still nonaccrual and included in impaired, there is no valuation allowance assigned.
 
The table below presents a comparison of nonperforming assets at September 30 and June 30, 2002 and at the end of December 2001.
 
Nonperforming Assets
(Dollars in thousands)
     
September 30,
2002
     
June 30, 2002
       
December 31,
2001
  
Nonaccrual loans (1)
                               
Commercial
     
$
30,420
 
   
$
35,764
 
     
$
23,284
 
Construction
     
 
2,015
 
   
 
2,450
 
     
 
2,201
 
Residential real estate
     
 
2,325
 
   
 
2,648
 
     
 
2,251
 
Consumer
     
 
257
 
   
 
317
 
     
 
408
 
Lease financing
     
 
4,500
 
   
 
4,099
 
     
 
4,775
 
      
  
    
Total nonaccrual loans
     
 
39,517
 
   
 
45,278
 
     
 
32,919
 
Renegotiated loans (1)
     
 
—
 
   
 
—
 
     
 
—
 
Loans contractually past due 90 days or more and still accruing interest
     
 
—
 
   
 
—
 
     
 
—
 
      
  
    
Total nonperforming loans
     
 
39,517
 
   
 
45,278
 
     
 
32,919
 
Other real estate owned
     
 
123
 
   
 
63
 
     
 
181
 
      
  
    
Total nonperforming assets
     
$
39,640
 
   
$
45,341
 
     
$
33,100
 
      
  
    
Nonperforming assets as a percent of period-end loans and other real estate owned
     
 
.55
%
   
 
.64
%
     
 
.48
%
      
  
    
 
(1)
 
Aggregate gross interest income of $2,681,000, $2,285,000 and $3,737,000 for the first nine months of 2002, the first six months of 2002 and the year 2001, respectively, on nonaccrual and renegotiated loans, would have been recorded if these loans had been accruing on their original terms throughout the period or since origination if held for part of the period. The amount of interest income on the nonaccrual and renegotiated loans that was recorded totalled $536,000, $458,000 and $1,593,000 for the first nine months of 2002, the first six months of 2002 and the year 2001, respectively.
 
Note: The Corporation was monitoring loans estimated to aggregate $1,940,000 at September 30, 2002, $7,885,000 at June 30, 2002 and $15,940,000 at December 31, 2001, not classified as nonaccrual or renegotiated loans. These loans had characteristics which indicated they might result in such classification in the future.
 
Allowance and Provision for Loan Losses
 
Each Bankshares affiliate is required to maintain an allowance for loan losses adequate to absorb losses inherent in the loan portfolio. Management at each affiliate, along with Bankshares management, maintains a regular overview to assure that adequacy. On a periodic basis, significant credit exposures, nonperforming loans, impaired loans, historical losses by loan type and various statistical measurements of asset quality are examined to assure the adequacy of the allowance for loan losses.
 
The allowance for loan losses has been established through provisions for loan losses charged against income. The provision for loan losses for the third quarter of 2002 was $3,244,000, a 4.6% increase over $3,101,000 for the same period last year and 36.6% less than last quarter. The provision for the first nine months of 2002 was $11,443,000, an increase of 24.0% over

Mercantile Bankshares Corporation

Page 16

last year’s provision of $9,230,000. Loans deemed uncollectible are charged against the allowance for loan losses and any subsequent recoveries are credited to the allowance. Intensive collection efforts continue after charge-off in order to maximize recovery amounts. Charge-offs were lower in this quarter than the prior year and prior quarter. However, on a year to date basis, charge-offs increased over the prior year. There were no charge-offs related to the leasing business this quarter, but 43.5% of the charge-offs in 2002 were related to the leasing business. Net charge-offs were $2,051,000 for the third quarter of 2002 compared to $5,703,000 for the same period in 2001. Net charge-offs for the first three quarters of 2002 were $16,319,000 compared to $6,839,000 last year. The allowance for loan losses as a percent of period-end loans was 1.90% at September 30, 2002 and 2.04% at the end of the third quarter last year.
 
The following table presents a summary of the activity in the Allowance for Loan Losses for the nine months and quarters ended September 30, 2002 and 2001:
 
      
For the 9 Months Ended
       
For the 3 Months Ended
  
Allowance for Loan Losses
(Dollars in thousands)
     
September 30,
       
September 30,
  
    
2002
       
2001
       
2002
       
2001
  
Allowance balance — beginning
     
$
141,463
 
     
$
138,612
 
     
$
135,394
 
     
$
143,605
 
Charge-offs:
                                            
Commercial
     
 
(11,522
)
     
 
(655
)
     
 
(2,136
)
     
 
(353
)
Construction
     
 
—
 
     
 
—
 
     
 
—
 
     
 
—
 
Residential real estate
     
 
(117
)
     
 
(71
)
     
 
(7
)
     
 
(1
)
Consumer
     
 
(2,234
)
     
 
(2,432
)
     
 
(702
)
     
 
(907
)
Lease financing
     
 
(4,800
)
     
 
(5,828
)
     
 
—
 
     
 
(5,175
)
      
    
    
    
Total
     
 
(18,673
)
     
 
(8,986
)
     
 
(2,845
)
     
 
(6,436
)
      
    
    
    
Recoveries:
                                            
Commercial
     
 
675
 
     
 
655
 
     
 
158
 
     
 
103
 
Construction
     
 
148
 
     
 
66
 
     
 
11
 
     
 
37
 
Residential real estate
     
 
77
 
     
 
85
 
     
 
19
 
     
 
30
 
Consumer
     
 
1,244
 
     
 
1,341
 
     
 
396
 
     
 
563
 
Lease financing
     
 
210
 
     
 
—
 
     
 
210
 
     
 
—
 
      
    
    
    
Total
     
 
2,354
 
     
 
2,147
 
     
 
794
 
     
 
733
 
      
    
    
    
Net charge-offs
     
 
(16,319
)
     
 
(6,839
)
     
 
(2,051
)
     
 
(5,703
)
Provision for loan losses
     
 
11,443
 
     
 
9,230
 
     
 
3,244
 
     
 
3,101
 
      
    
    
    
Allowance balance — ending
     
$
136,587
 
     
$
141,003
 
     
$
136,587
 
     
$
141,003
 
      
    
    
    
Average loans
     
$
7,041,412
 
     
$
6,816,978
 
     
$
7,162,156
 
     
$
6,890,076
 
      
    
    
    
Net charge-offs (annualized) as a percent of average loans
     
 
.31
%
     
 
.13
%
     
 
.11
%
     
 
.33
%
      
    
    
    
Period-end loans
     
$
7,200,790
 
     
$
6,900,139
 
                      
      
    
                     
Allowance for loan losses as a percent of period-end loans
     
 
1.90
%
     
 
2.04
%
                      
      
    
                     
 
Cautionary Statement
 
This report contains forward-looking statements within the meaning of and pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. A forward-looking statement encompasses any estimate, prediction, opinion or statement of belief contained in this report, and the underlying management assumptions. Such statements in this report include identification of trends, loan growth, comments on adequacy of the allowance for loan losses, credit quality, changes in leasing activities, impact of FASB pronouncements (including impairment testing of goodwill), effects of asset sensitivity and interest rate changes, and information concerning market risk referenced in Item 3. Forward-looking statements are based on current expectations and assessments of potential developments affecting market conditions, interest rates and other economic conditions, and results may ultimately vary from the statements made in this report.

Mercantile Bankshares Corporation

Page 17

MERCANTILE BANKSHARES CORPORATION
 
ANALYSIS OF INTEREST RATES AND INTEREST DIFFERENTIALS
 
The following table presents the distribution of the average consolidated balance sheets, interest income/expense and annualized yields earned and rates paid through the first nine months of 2002 and 2001.
    
For the 9 Months Ended
September 30, 2002
       
For the 9 Months Ended
September 30, 2001
  
(Dollars in thousands)
   
Average
Balance
     
Income*/
Expense
   
Yield*/
Rate
       
Average
Balance
     
Income*/
Expense
   
Yield*/
Rate
  
Earning assets
                                                
Loans:
                                                
Commercial
   
$
4,256,364
 
   
$
209,810
   
6.59
%
     
$
3,917,090
 
   
$
243,750
   
8.32
%
Construction
   
 
714,563
 
   
 
33,139
   
6.20
 
     
 
839,682
 
   
 
52,195
   
8.31
 
Residential real estate
   
 
1,074,334
 
   
 
59,239
   
7.37
 
     
 
1,061,458
 
   
 
63,665
   
8.02
 
Consumer
   
 
996,151
 
   
 
53,603
   
7.19
 
     
 
998,748
 
   
 
63,155
   
8.45
 
    
  
           
  
      
Total loans
   
 
7,041,412
 
   
 
355,791
   
6.76
 
     
 
6,816,978
 
   
 
422,765
   
8.29
 
    
  
           
  
      
Federal funds sold, et al
   
 
152,041
 
   
 
4,028
   
3.54
 
     
 
141,591
 
   
 
5,073
   
4.79
 
Securities:**
                                                
Taxable securities
                                                
U.S. Treasury securities
   
 
1,494,734
 
   
 
52,100
   
4.66
 
     
 
1,331,986
 
   
 
55,096
   
5.53
 
U.S. Agency securities
   
 
583,895
 
   
 
21,802
   
4.99
 
     
 
300,149
 
   
 
13,794
   
6.14
 
Other stocks and bonds
   
 
224,559
 
   
 
9,633
   
5.74
 
     
 
60,906
 
   
 
3,608
   
7.92
 
Tax-exempt securities
                                                
States and political subdivisions
   
 
38,888
 
   
 
2,364
   
8.13
 
     
 
40,603
 
   
 
2,492
   
8.21
 
    
  
           
  
      
Total securities
   
 
2,342,076
 
   
 
85,899
   
4.90
 
     
 
1,733,644
 
   
 
74,990
   
5.78
 
    
  
           
  
      
Interest-bearing deposits in other banks
   
 
358
 
   
 
11
   
4.21
 
     
 
368
 
   
 
14
   
5.12
 
    
  
           
  
      
Total earning assets
   
 
9,535,887
 
   
 
445,729
   
6.25
 
     
 
8,692,581
 
   
 
502,842
   
7.73
 
             
                    
      
Cash and due from banks
   
 
224,488
 
                   
 
213,652
 
              
Bank premises and equipment, net
   
 
101,275
 
                   
 
103,304
 
              
Other assets
   
 
285,367
 
                   
 
259,555
 
              
Less: allowance for loan losses
   
 
(141,826
)
                   
 
(142,469
)
              
    
                  
             
Total assets
   
$
10,005,191
 
                   
$
9,126,623
 
              
    
                  
             
Interest-bearing liabilities
                                                
Deposits:
                                                
Savings
   
$
951,952
 
   
 
6,630
   
.93
 
     
$
848,242
 
   
 
10,448
   
1.65
 
Checking plus interest
   
 
855,101
 
   
 
2,234
   
.35
 
     
 
759,916
 
   
 
4,423
   
.78
 
Money market
   
 
1,065,126
 
   
 
10,913
   
1.37
 
     
 
814,008
 
   
 
17,554
   
2.88
 
Certificates of deposit $100,000 and over
   
 
1,057,250
 
   
 
26,147
   
3.31
 
     
 
1,153,200
 
   
 
49,631
   
5.75
 
Other time deposits
   
 
1,768,526
 
   
 
48,344
   
3.65
 
     
 
1,825,978
 
   
 
76,185
   
5.58
 
    
  
           
  
      
Total interest-bearing deposits
   
 
5,697,955
 
   
 
94,268
   
2.21
 
     
 
5,401,344
 
   
 
158,241
   
3.92
 
Short-term borrowings
   
 
852,070
 
   
 
9,074
   
1.42
 
     
 
739,080
 
   
 
21,816
   
3.95
 
Long-term debt
   
 
280,752
 
   
 
8,253
   
3.93
 
     
 
89,669
 
   
 
4,425
   
6.60
 
    
  
           
  
      
Total interest-bearing funds
   
 
6,830,777
 
   
 
111,595
   
2.18
 
     
 
6,230,093
 
   
 
184,482
   
3.96
 
             
                    
      
Noninterest-bearing deposits
   
 
1,815,090
 
                   
 
1,585,413
 
              
Other liabilities and accrued expenses
   
 
106,817
 
                   
 
115,667
 
              
    
                  
             
Total liabilities
   
 
8,752,684
 
                   
 
7,931,173
 
              
Shareholders’ equity
   
 
1,252,507
 
                   
 
1,195,450
 
              
    
                  
             
Total liabilities and shareholders’ equity
   
$
10,005,191
 
                   
$
9,126,623
 
              
    
                  
             
Net interest income
            
$
334,134
                     
$
318,360
       
             
                    
      
Net interest rate spread
                   
    4.07
%
                     
3.77
%
Effect of noninterest-bearing funds
                   
.61
 
                     
1.13
 
                    
                    
Net interest margin on earning assets
                   
      4.68
%
                     
4.90
%
                    
                    
Taxable-equivalent adjustment included in:
                                                
Loan income
            
$
3,571
                     
$
3,767
       
Investment securities income
            
 
1,036
                     
 
1,116
       
             
                    
      
Total
            
$
4,607
                     
$
4,883
       
             
                    
      
  * Presented on a tax-equivalent basis using the statutory federal corporate income tax rate of 35%.
** Balances reported at amortized cost; excludes pretax unrealized gains (losses) on securities available-for-sale.

Mercantile Bankshares Corporation

Page 18

MERCANTILE BANKSHARES CORPORATION
 
ANALYSIS OF INTEREST RATES & INTEREST DIFFERENTIALS
 
The following table presents the distribution of the average consolidated balance sheets, interest income/expense and annualized yields earned and rates paid for the third quarters of 2002 and 2001.
    
For the 3 Months Ended September 30, 2002
     
For the 3 Months Ended
September 30, 2001
  
(Dollars in thousands)
   
Average
Balance
     
Income*/
Expense
   
Yield*/
Rate
     
Average
Balance
     
Income*/
Expense
   
Yield*/
Rate
  
Earning assets
                                              
Loans:
                                              
Commercial
   
$
4,309,714
 
   
$
70,450
   
6.49
%
   
$
3,985,579
 
   
$
78,547
   
7.82
%
Construction
   
 
769,238
 
   
 
11,702
   
6.04
 
   
 
849,489
 
   
 
16,162
   
7.55
 
Residential real estate
   
 
1,076,355
 
   
 
19,518
   
7.19
 
   
 
1,049,194
 
   
 
20,787
   
7.86
 
Consumer
   
 
1,006,849
 
   
 
17,954
   
7.07
 
   
 
1,005,814
 
   
 
20,566
   
8.11
 
    
  
         
  
      
Total loans
   
 
7,162,156
 
   
 
119,624
   
6.63
 
   
 
6,890,076
 
   
 
136,062
   
7.83
 
    
  
         
  
      
Federal funds sold, et al
   
 
240,313
 
   
 
1,369
   
2.26
 
   
 
150,013
 
   
 
1,607
   
4.25
 
Securities:**
                                              
Taxable securities
                                              
U.S. Treasury securities
   
 
1,462,968
 
   
 
16,602
   
4.50
 
   
 
1,304,455
 
   
 
17,647
   
5.37
 
U.S. Agency securities
   
 
663,388
 
   
 
8,093
   
4.84
 
   
 
392,234
 
   
 
5,339
   
5.40
 
Other stocks & bonds
   
 
221,417
 
   
 
3,136
   
5.62
 
   
 
59,355
 
   
 
1,149
   
7.68
 
Tax-exempt securities
                                              
States & political subdivisions
   
 
38,503
 
   
 
778
   
8.02
 
   
 
41,135
 
   
 
835
   
8.05
 
    
  
         
  
      
Total securities
   
 
2,386,276
 
   
 
28,609
   
4.76
 
   
 
1,797,179
 
   
 
24,970
   
5.51
 
    
  
         
  
      
Interest-bearing deposits in other banks
   
 
358
 
   
 
3
   
3.84
 
   
 
356
 
   
 
4
   
4.72
 
    
  
         
  
      
Total earning assets
   
 
9,789,103
 
   
 
149,605
   
6.06
 
   
 
8,837,624
 
   
 
162,643
   
7.30
 
             
                  
      
Cash and due from banks
   
 
234,441
 
                 
 
221,736
 
              
Bank premises and equipment
   
 
101,131
 
                 
 
102,849
 
              
Other assets
   
 
316,554
 
                 
 
260,892
 
              
Less: allowance for loan losses
   
 
(137,249
)
                 
 
(144,813
)
              
    
                
             
Total assets
   
$
10,303,980
 
                 
$
9,278,288
 
              
    
                
             
Interest-bearing liabilities
                                              
Deposits:
                                              
Savings
   
$
983,806
 
   
 
2,228
   
.90
 
   
$
854,026
 
   
 
3,040
   
1.41
 
Checking plus interest
   
 
872,322
 
   
 
754
   
.34
 
   
 
766,858
 
   
 
1,191
   
.62
 
Money market
   
 
1,140,825
 
   
 
3,735
   
1.30
 
   
 
860,471
 
   
 
5,519
   
2.54
 
Certificates of deposit $100,000 and over
   
 
1,138,356
 
   
 
8,881
   
3.10
 
   
 
1,153,042
 
   
 
15,455
   
5.32
 
Other time deposits
   
 
1,763,253
 
   
 
15,061
   
3.39
 
   
 
1,814,301
 
   
 
24,098
   
5.27
 
    
  
         
  
      
Total interest-bearing deposits
   
 
5,898,562
 
   
 
30,659
   
2.06
 
   
 
5,448,698
 
   
 
49,303
   
3.59
 
Short-term borrowings
   
 
833,966
 
   
 
2,834
   
1.35
 
   
 
754,235
 
   
 
5,762
   
3.03
 
Long-term debt
   
 
275,677
 
   
 
2,630
   
3.78
 
   
 
84,200
 
   
 
1,380
   
6.50
 
    
  
         
  
      
Total interest-bearing funds
   
 
7,008,205
 
   
 
36,123
   
2.04
 
   
 
6,287,133
 
   
 
56,445
   
3.56
 
             
                  
      
Noninterest-bearing deposits
   
 
1,917,680
 
                 
 
1,670,375
 
              
Other liabilities and accrued expenses
   
 
103,074
 
                 
 
125,362
 
              
    
                
             
Total liabilities
   
 
9,028,959
 
                 
 
8,082,870
 
              
Shareholders’ equity
   
 
1,275,021
 
                 
 
1,195,418
 
              
    
                
             
Total liabilities & shareholders’ equity
   
$
10,303,980
 
                 
$
9,278,288
 
              
    
                
             
Net interest income
            
$
113,482
                   
$
106,198
       
             
                  
      
Net interest rate spread
                   
4.02
%
                   
3.74
%
Effect of noninterest-bearing funds
                   
.58
 
                   
1.03
 
                    
                  
Net interest margin on earning assets
                   
4.60
%
                   
4.77
%
                    
                  
Taxable-equivalent adjustment included in:
                                              
Loan income
            
$
1,226
                   
$
1,227
       
Investment securities income
            
 
342
                   
 
372
       
             
                  
      
Total
            
$
1,568
                   
$
1,599
       
             
                  
      
  * Presented on a tax-equivalent basis using the statutory federal corporate income tax rate of 35%.
** Balances reported at amortized cost; excludes pretax unrealized gains (losses) on securities available-for-sale.

Mercantile Bankshares Corporation

Page 19

 
MERCANTILE BANKSHARES CORPORATION
 
RATE/VOLUME ANALYSIS
 
A rate/volume analysis, which demonstrates changes in interest income and expense for significant assets and liabilities, appears below:
 
    
For the 9 Months
Ended September 30,
2002 vs. 2001
Due to variances in
     
For the 3 Months
Ended September 30,
2002 vs. 2001
Due to variances in
  
(Dollars in thousands)
   
Rates
     
Volumes
     
Total
     
Rates
     
Volumes
     
Total
  
Interest earned on:
                                                      
Loans:
                                                      
Commercial (1)
   
$
(55,052
)
   
$
21,112
 
   
$
(33,940
)
   
$
(14,485
)
   
$
6,388
 
   
$
(8,097
)
Construction (2)
   
 
(11,279
)
   
 
(7,777
)
   
 
(19,056
)
   
 
(2,933
)
   
 
(1,527
)
   
 
(4,460
)
Residential real estate
   
 
(5,198
)
   
 
772
 
   
 
(4,426
)
   
 
(1,807
)
   
 
538
 
   
 
(1,269
)
Consumer
   
 
(9,388
)
   
 
(164
)
   
 
(9,552
)
   
 
(2,633
)
   
 
21
 
   
 
(2,612
)
    
  
  
  
  
  
Total loans
   
 
(80,917
)
   
 
13,943
 
   
 
(66,974
)
   
 
(21,858
)
   
 
5,420
 
   
 
(16,438
)
Taxable securities (3)
   
 
(15,090
)
   
 
26,127
 
   
 
11,037
 
   
 
(4,437
)
   
 
8,133
 
   
 
3,696
 
Tax-exempt securities (3)
   
 
(23
)
   
 
(105
)
   
 
(128
)
   
 
(4
)
   
 
(53
)
   
 
(57
)
Federal funds sold, et al
   
 
(1,419
)
   
 
374
 
   
 
(1,045
)
   
 
(1,205
)
   
 
967
 
   
 
(238
)
Interest-bearing deposits in other banks
   
 
(3
)
   
 
—
 
   
 
(3
)
   
 
(1
)
   
 
—
 
   
 
(1
)
    
  
  
  
  
  
Total interest income
   
 
(97,452
)
   
 
40,339
 
   
 
(57,113
)
   
 
(27,505
)
   
 
14,467
 
   
 
(13,038
)
    
  
  
  
  
  
Interest paid on:
                                                      
Savings deposits
   
 
(5,095
)
   
 
1,277
 
   
 
(3,818
)
   
 
(1,274
)
   
 
462
 
   
 
(812
)
Checking plus interest deposits
   
 
(2,743
)
   
 
554
 
   
 
(2,189
)
   
 
(601
)
   
 
164
 
   
 
(437
)
Money market accounts
   
 
(12,056
)
   
 
5,415
 
   
 
(6,641
)
   
 
(3,582
)
   
 
1,798
 
   
 
(1,784
)
Certificates of deposit $100,000 and over
   
 
(19,355
)
   
 
(4,129
)
   
 
(23,484
)
   
 
(6,377
)
   
 
(197
)
   
 
(6,574
)
Other time deposits
   
 
(25,444
)
   
 
(2,397
)
   
 
(27,841
)
   
 
(8,359
)
   
 
(678
)
   
 
(9,037
)
Short-term borrowings
   
 
(16,077
)
   
 
3,335
 
   
 
(12,742
)
   
 
(3,537
)
   
 
609
 
   
 
(2,928
)
Long-term debt
   
 
(5,602
)
   
 
9,430
 
   
 
3,828
 
   
 
(1,888
)
   
 
3,138
 
   
 
1,250
 
    
  
  
  
  
  
Total interest expense
   
 
(86,372
)
   
 
13,485
 
   
 
(72,887
)
   
 
(25,618
)
   
 
5,296
 
   
 
(20,322
)
    
  
  
  
  
  
Net interest earned
   
$
(11,080
)
   
$
26,854
 
   
$
15,774
 
   
$
(1,887
)
   
$
9,171
 
   
$
7,284
 
    
  
  
  
  
  
 
(1)
 
Year-to-date tax-equivalent adjustments of $2,728,000 and $3,134,000 for 2002 and 2001, respectively and quarter-to-date tax-equivalent adjustments of $907,000 and $998,000 for 2002 and 2001, respectively are included in the commercial loan rate variances.
(2)
 
Year-to-date tax-equivalent adjustments of $843,000 and $633,000 for 2002 and 2001, respectively and quarter-to-date tax-equivalent adjustments of $319,000 and $229,000 for 2002 and 2001, respectively are included in the construction loan rate variances.
(3)
 
Year-to-date tax-equivalent adjustments of $1,036,000 and $1,116,000 for 2002 and 2001, respectively and quarter-to-date tax-equivalent adjustments of $342,000 and $372,000 for 2002 and 2001, respectively are included in the investment securities rate variances.
 
Item 3. Quantitative and Qualitative Disclosures About Market Risk
 
Information responsive to this Item as of December 31, 2001 appears under the captions “Asset/Liability and Liquidity Management”, “Interest Rate Sensitivity Analysis” and “Earnings Simulation Model Projections” on pages 21-23 of the registrant‘s 2001 Annual Report to Shareholders, filed as Exhibit 13 to registrant‘s Annual Report on Form 10-K for the year ended December 31, 2001. There was no material change in such information as of September 30, 2002.
 
Item 4. Controls and Procedures
 
Within the ninety days prior to the filing of this report, the Company’s management, under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design

Mercantile Bankshares Corporation

Page 20

and operation of the Company’s disclosure controls and procedures. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective. There were no significant changes in the Company’s internal controls or in other factors subsequent to the date of the evaluation that could significantly affect those controls.
 
PART II. OTHER INFORMATION
Item 5.    Other Information
 
The 2003 Annual Meeting of Stockholders of the registrant is expected to be held on April 30, 2003.
 
Item 6. Exhibits and Reports on Form 8-K
 
(a) Exhibits
 
3 A (15).
   
Certificate of Correction effective July 3, 2002, concerning Articles of Amendment effective May 8, 1986.
3 A (16).
   
Certificate of Correction effective July 3, 2002, concerning Articles of Amendment effective April 26, 1990.
99.1
   
Certification of Chief Executive Officer
99.2
   
Certification of Chief Financial Officer
 
(b) Reports on Form 8-K
Form 8-K filed, dated July 19, 2002, Item 5.

Mercantile Bankshares Corporation

Page 21

SIGNATURES
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
       
MERCANTILE BANKSHARES CORPORATION
 
 
November 8, 2002
 
      
Principal Executive Officer
 
       
 
/s/ Edward J. Kelly, III  
       
By: Edward J. Kelly, III
President and
Chief Executive Officer
 
         
 
November 8, 2002
 
      
Principal Financial Officer
 
       
 
/s/ Terry L. Troupe  
       
By: Terry L. Troupe
Chief Financial Officer
 
         
 
November 8, 2002
 
      
Chief Accounting Officer
 
       
 
/s/ Diana E. Nelson
       
By: Diana E. Nelson
Controller and Chief Accounting Officer
 
 
 
Mercantile Bankshares Corporation

Page 22

 
I, Edward J. Kelly, III, certify that:
 
1.
 
I have reviewed this quarterly report on Form 10-Q of Mercantile Bankshares Corporation:
 
2.
 
Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
 
3.
 
Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
 
4.
 
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a – 14 and 15d-14) for the registrant and we have:
 
 
a)
 
designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
 
 
b)
 
evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
 
 
c)
 
presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
 
5.
 
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
 
 
a)
 
all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
 
 
b)
 
any fraud, whether or not material that involves management or other employees who have a significant role in the registrant’s internal controls; and
 
6.
 
The registrant’s other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weakness.
 
/s/     EDWARD J. KELLY, III        
Edward J. Kelly, III
President and Chief Executive Officer

Mercantile Bankshares Corporation

Page 23

 
I, Terry L. Troupe, certify that:
 
1.
 
I have reviewed this quarterly report on Form 10-Q of Mercantile Bankshares Corporation:
 
2.
 
Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
 
3.
 
Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
 
4.
 
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a – 14 and 15d-14) for the registrant and we have:
 
 
a)
 
designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
 
 
b)
 
evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
 
 
c)
 
presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
 
5.
 
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
 
 
a)
 
all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
 
 
b)
 
any fraud, whether or not material that involves management or other employees who have a significant role in the registrant’s internal controls; and
 
6.
 
The registrant’s other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weakness.
 
/s/    TERRY L. TROUPE        
Terry L. Troupe
Chief Financial Officer and Treasurer
 

Mercantile Bankshares Corporation