Back to GetFilings.com
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, 2003
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 0-13585
INTEGRA BANK CORPORATION
(Exact name of registrant as specified in its charter)
Indiana 35-1632155
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) number)
21 S.E. Third Street, P.O. Box 868, Evansville, IN 47705-0868
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 812-464-9677
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $1.00 STATED VALUE
(Title of Class)
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 | |
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. | |
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes |X| No | |
Based on the closing sales price as of June 30, 2003 (the last business day of
the registrant's most recently completed second quarter), the aggregate market
value of the voting stock held by non-affiliates of the registrant was
approximately $252,745,000.
The number of shares outstanding of the registrant's common stock was 17,327,430
at February 27, 2004.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's Proxy Statement for the 2004 Annual Meeting of
Shareholders (Part III).
1
INTEGRA BANK CORPORATION
2003 FORM 10-K ANNUAL REPORT
Table of Contents
PAGE
NUMBER
PART I
Item 1. Business 3
Item 2. Properties 7
Item 3. Legal Proceedings 7
Item 4. Submission of Matters to a Vote of Security Holders 7
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters 8
Item 6. Selected Financial Data 9
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operation 10
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 28
Item 8. Financial Statements and Supplementary Data 30
Item 9. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosures 63
Item 9A. Controls and Procedures 63
PART III
Item 10. Directors and Executive Officers of the Registrant 63
Item 11. Executive Compensation 63
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters 63
Item 13. Certain Relationships and Related Transactions 63
Item 14. Principal Accountant Fees and Services 63
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K 64
Signatures
2
FORM 10-K
INTEGRA BANK CORPORATION
December 31, 2003
PART I
ITEM 1. BUSINESS
General
Integra Bank Corporation (the "Company" or "Integra") is a bank holding company
that is based in Evansville, Indiana. The Company's principal subsidiary is
Integra Bank N.A., a national banking association ("Integra Bank" or the
"Bank"). At December 31, 2003, the Company had total consolidated assets of $3.0
billion. The Company provides services and assistance to its wholly owned
subsidiaries and Integra Bank's subsidiaries in the areas of strategic planning,
administration, and general corporate activities. In return, the Company
receives income and/or dividends from Integra Bank, where most of the Company's
business activities take place.
Integra Bank provides a wide range of financial services to the communities it
serves in Indiana, Kentucky, Illinois and Ohio. These services include
commercial, consumer and mortgage loans, lines of credit, credit cards,
transaction accounts, time deposits, repurchase agreements, letters of credit,
corporate cash management services, correspondent banking services, mortgage
servicing, brokerage and annuity products and services, credit life and other
selected insurance products, securities safekeeping, safe deposit boxes and
complete personal and corporate trust services.
Integra Bank's products and services are delivered through our customers'
channel of preference. At December 31, 2003, Integra Bank served its customers
through 72 banking centers, 134 automatic teller machines ("ATMs"), and three
loan production offices (LPOs). Integra Bank also serves its customers through
its telephone banking, and offers a suite of Internet-based products and
services that can be found at www.integrabank.com.
At December 31, 2003, the Company and its subsidiaries had 886 full-time
equivalent employees. The Company and its subsidiaries provide a wide range of
employee benefits, are not parties to any collective bargaining agreements, and
in the opinion of management, enjoy good relations with its employees. The
Company is an Indiana corporation and was formed in 1985.
COMPETITION
The Company has active competition in all areas in which it presently engages in
business. Integra Bank competes for commercial and individual deposits, loans
and financial services with other bank and non-bank institutions. Since the
amount of money a bank may lend to a single borrower, or to a group of related
borrowers, is limited to a percentage of the bank's shareholders' equity,
competitors larger than Integra Bank have higher lending limits than Integra
Bank.
In addition to competing with depository institutions operating in our market
areas, the Company competes with various money market and other mutual funds,
brokerage houses, other financial institutions, insurance companies, leasing
companies, regulated small loan companies, credit unions, governmental agencies,
and commercial entities offering financial services and products.
FOREIGN OPERATIONS
The Company and its subsidiaries have no foreign banking centers or significant
business with foreign obligors or depositors.
REGULATION AND SUPERVISION
General
The Company is a registered bank holding company under the Bank Holding Company
Act of 1956, as amended ("BHCA"), and as such is subject to regulation by the
Board of Governors of the Federal Reserve System ("Federal Reserve"). The
Company files periodic reports with the Federal Reserve regarding the business
operations of the Company and its subsidiaries, and is subject to examination by
the Federal Reserve.
Integra Bank is supervised and regulated primarily by the Office of the
Comptroller of the Currency ("OCC"). It is also a member of the Federal Reserve
System and subject to the applicable provisions of the Federal Reserve Act and
the Federal Deposit Insurance Act.
The federal banking agencies have broad enforcement powers, including the power
to terminate deposit insurance, impose substantial
3
fines and other civil and criminal penalties, and appoint a conservator or
receiver. Failure to comply with applicable laws, regulations, and supervisory
agreements could subject the Company, Integra Bank, as well as their officers,
directors, and other institution-affiliated parties, to administrative sanctions
and potentially substantial civil money penalties. In addition to the measures
discussed under "Deposit Insurance," the appropriate federal banking agency may
appoint the Federal Deposit Insurance Corporation ("FDIC") as conservator or
receiver for a banking institution (or the FDIC may appoint itself, under
certain circumstances) if any one or more of a number of circumstances exist,
including, without limitation, the banking institution becoming undercapitalized
and having no reasonable prospect of becoming adequately capitalized, it fails
to become adequately capitalized when required to do so, it fails to submit a
timely and acceptable capital restoration plan, or it materially fails to
implement an accepted capital restoration plan. Supervision and regulation of
bank holding companies and their subsidiaries is intended primarily for the
protection of depositors, the deposit insurance funds of the FDIC, and the
banking system as a whole, not for the protection of bank holding company
shareholders or creditors.
Acquisitions and Changes in Control
Under the BHCA, without the prior approval of the Federal Reserve, the Company
may not acquire direct or indirect control of more than 5% of the voting stock
or substantially all of the assets of any company, including a bank, and may not
merge or consolidate with another bank holding company. In addition, the BHCA
generally prohibits the Company from engaging in any nonbanking business unless
such business is determined by the Federal Reserve to be so closely related to
banking as to be a proper incident thereto. Under the BHCA, the Federal Reserve
has the authority to require a bank holding company to terminate any activity or
relinquish control of a non-bank subsidiary (other than a nonbank subsidiary of
a bank) upon the Federal Reserve's determination that such activity or control
constitutes a serious risk to the financial soundness and stability of any bank
subsidiary of the bank holding company.
The Change in Bank Control Act prohibits a person or group of persons from
acquiring "control" of a bank holding company unless the Federal Reserve has
been notified and has not objected to the transaction. Under a rebuttable
presumption established by the Federal Reserve, the acquisition of 10% or more
of a class of voting stock of a bank holding company with a class of securities
registered under Section 12 of the Securities Exchange Act of 1934, as amended,
such as the Company, would, under the circumstances set forth in the
presumption, constitute acquisition of control of the Company. In addition, any
company is required to obtain the approval of the Federal Reserve under the BHCA
before acquiring 25% (5% in the case of an acquirer that is a bank holding
company) or more of the outstanding common stock of the Company, or otherwise
obtaining control or a "controlling influence" over the Company.
Dividends and Other Relationships with Affiliates
The Company is a legal entity separate and distinct from its subsidiaries. The
primary source of the Company's cash flow, including cash flow to pay dividends
on the Company's common stock, is the payment of dividends to the Company by
Integra Bank. Generally, such dividends are limited to the lesser of: undivided
profits (less bad debts in excess of the allowance for credit losses); and
absent regulatory approval, the net profits for the current year combined with
retained net profits for the preceding two years. Further, a depository
institution may not pay a dividend if it would become "undercapitalized" as
determined by federal banking regulatory agencies; or if, in the opinion of the
appropriate banking regulator, the payment of dividends would constitute an
unsafe or unsound practice.
Integra Bank is subject to additional restrictions on its transactions with
affiliates, including the Company. State and federal statutes limit credit
transactions with affiliates, prescribing forms and conditions deemed consistent
with sound banking practices, and imposing limits on permitted collateral for
credit extended.
Under Federal Reserve policy, the Company is expected to serve as a source of
financial and managerial strength to Integra Bank. The Federal Reserve requires
the Company to stand ready to use its resources to provide adequate capital
funds during periods of financial stress or adversity. This support may be
required by the Federal Reserve at times when the Company may not have the
resources to provide it or, for other reasons, would not be inclined to provide
it. Additionally, under the Federal Deposit Insurance Corporation Improvements
Act of 1991, the Company may be required to provide limited guarantee of
compliance of any insured depository institution subsidiary that may become
"undercapitalized" with the terms of any capital restoration plan filed by such
subsidiary with its appropriate federal banking agency.
Regulatory Capital Requirements
The Company and Integra Bank are subject to risk-based and leverage capital
requirements imposed by the appropriate primary bank regulator. Both complied
with applicable minimums as of December 31, 2003, and Integra Bank qualified as
"well capitalized" under the regulatory framework. See Note 15 of the Notes to
Consolidated Financial Statements for an additional discussion of regulatory
capital.
4
Failure to meet capital requirements could result in a variety of enforcement
remedies, including the termination of deposit insurance or measures by banking
regulators to correct the deficiency in the manner least costly to the deposit
insurance fund.
Deposit Insurance
Integra Bank is subject to federal deposit insurance assessments by the FDIC.
The assessment rate is based on classification of a depository institution into
a risk assessment category. Such classification is based upon the institution's
capital level and certain supervisory evaluations of the institution by its
primary regulator.
The FDIC may terminate the deposit insurance of any insured depository
institution if the FDIC determines, after a hearing, that the institution has
engaged or is engaging in unsafe or unsound practices, is in an unsafe or
unsound condition to continue operations, or has violated any applicable law,
regulation, order, or any condition imposed in writing by, or written agreement
with, the FDIC. The FDIC may also suspend deposit insurance temporarily during
the hearing process for a permanent termination of insurance if the institution
has no tangible capital. Management is not aware of any activity or condition
that could result in termination of the deposit insurance of Integra Bank.
Community Reinvestment Act
The Community Reinvestment Act of 1977 ("CRA") requires financial institutions
to meet the credit needs of their entire communities, including low-income and
moderate-income areas. CRA regulations impose a performance-based evaluation
system, which bases the CRA rating on an institution's actual lending, service,
and investment performance. Federal banking agencies may take CRA compliance
into account when regulating a bank or bank holding company's activities; for
example, CRA performance may be considered in approving proposed bank
acquisitions. A copy of the CRA public evaluation issued by the Office of the
Comptroller of the Currency is available at each banking center location.
Gramm-Leach-Bliley Act
The Gramm-Leach-Bliley Act (the "GLB") has fostered further consolidation among
banks, securities firms, and insurance companies by creating a new type of
financial services company called a "financial holding company," a bank holding
company with dramatically expanded powers. Financial holding companies can offer
virtually any type of financial service, including banking, securities
underwriting, insurance (both agency and underwriting) and merchant banking.
Activities that United States banking organizations are currently permitted to
conduct both domestically and overseas can be conducted by financial holding
companies domestically (they include a broad range of financial activities,
including operating a travel agency). In addition, the GLB permits the Federal
Reserve and the Treasury Department to authorize additional activities for
financial holding companies, but only if they jointly determine that such
activities are "financial in nature" or "complementary to financial activities."
The Federal Reserve serves as the primary "umbrella" regulator of financial
holding companies, with jurisdiction over the parent company and more limited
oversight over its subsidiaries. The primary regulator of each subsidiary of a
financial holding company depends on the activities conducted by the subsidiary.
A financial holding company need not obtain Federal Reserve approval prior to
engaging, either de novo or through acquisitions, in financial activities
previously determined to be permissible by the Federal Reserve. Instead, a
financial holding company need only provide notice to the Federal Reserve within
30 days after commencing the new activity or consummating the acquisition. The
Company has no present plans to become a financial holding company.
USA Patriot Act of 2001
On October 6, 2001, the "Uniting and Strengthening America by Providing
Appropriate Tools Required to Intercept and Obstruct Terrorism (USA Patriot) Act
of 2001" was enacted. The statute increased the power of the United States
Government to obtain access to information and to investigate a full array of
criminal activities. In the area of money laundering activities, the statute
added terrorism, terrorism support, and foreign corruption to the definition of
money laundering offenses and increased the civil and criminal penalties for
money laundering; applied certain anti-money laundering measures to United
States bank accounts used by foreign persons; prohibited financial institutions
from establishing, maintaining, administering or managing a correspondent
account with a foreign shell bank; provided for certain forfeitures of funds
deposited in United States interbank accounts by foreign banks; provided the
Secretary of the Treasury with regulatory authority to ensure that certain types
of bank accounts are not used to hide the identity of customers transferring
funds and to impose additional reporting requirements with respect to money
laundering activities; and included other measures. On October 28, 2002, the
Department of Treasury issued a final rule concerning compliance by covered
United States financial institutions with the new statutory anti-money
laundering requirement regarding correspondent accounts established or
maintained for foreign banking institutions, including the requirement that
financial institutions take reasonable steps to ensure that correspondent
accounts provided to foreign banks are not being used to indirectly provide
banking services to foreign shell banks. The Company believes that compliance
with the new requirements will not have a material adverse impact on its
operations or financial condition.
5
Sarbanes-Oxley Act of 2002
The passage of the Sarbanes-Oxley Act of 2002 and subsequent actions of the
Securities and Exchange Commission and stock exchanges have had a significant
impact on the Company's corporate governance and related matters. A description
of some of the steps that the Company has taken in response to these
developments is included in the Company's proxy statement for its 2004 annual
meeting of shareholders.
In June 2003, the Securities and Exchange Commission adopted final rules under
Section 404 of the Sarbanes-Oxley Act of 2002. Commencing with its 2004 Annual
Report on Form 10-K, the Company will be required to include a report of
management on the Company's internal control over financial reporting. The
internal control report must include a statement of management's responsibility
for establishing and maintaining adequate control over financial reporting as of
year-end; of the framework used by management to evaluate the effectiveness of
the Company's internal control over financial reporting; and that the Company's
independent accounting firm has issued an attestation report on management's
assessment of the Company's internal control over financial reporting, which
report is also required to be filed as part of the Annual Report.
Additional Regulation, Government Policies, and Legislation
In addition to the restrictions discussed above, the activities and operations
of the Company and Integra Bank are subject to a number of additional complex
and, sometimes overlapping, laws and regulations. These include state usury and
consumer credit laws, state laws relating to fiduciaries, the Federal
Truth-in-Lending Act, the Federal Equal Credit Opportunity Act, the Fair Credit
Reporting Act, the Truth-in-Savings Act, anti-redlining legislation, and
antitrust laws.
The actions and policies of banking regulatory authorities have had a
significant effect on the operating results of the Company and Integra Bank in
the past and are expected to do so in the future.
Finally, the earnings of Integra Bank are affected by actions of the Federal
Reserve to regulate aggregate national credit and the money supply through such
means as open market dealings in securities, establishment of the discount rate
on member bank borrowings from the Federal Reserve, establishment of the federal
funds rate on member bank borrowings among themselves, and changes in reserve
requirements against member bank deposits. The Federal Reserve's policies may be
influenced by many factors, including inflation, unemployment, short-term and
long-term changes in the international trade balance and fiscal policies of the
United States Government. The effects of Federal Reserve actions on future
performance cannot be predicted.
STATISTICAL DISCLOSURE
The statistical disclosure concerning the Company and Integra Bank, on a
consolidated basis, included in response to Item 7 of this report is hereby
incorporated by reference herein.
AVAILABLE INFORMATION
The Company's Internet website address is www.integrabank.com. The Company's
annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K and amendments to those reports filed or furnished pursuant to Section
13(a) or 15(d) of the Exchange Act are available or may be accessed free of
charge through the Investor Relations section of the Company's Internet website
as soon as reasonably practicable after it electronically files such material
with, or furnishes it to, the SEC. The Company's Internet website and the
information contained therein or connected thereto are not intended to be
incorporated into this Annual Report on Form 10-K.
The following corporate governance documents are also available through the
Investor Relations section of the Company's Internet website or may be obtained
in print form by request to Secretary, Integra Bank Corporation, 21 S. E. Third
Street, P. O. Box 868, Evansville, IN 47705-0868: Corporate Governance
Principles, Code of Business Conduct and Ethics, Audit Committee Charter,
Compensation Committee Charter and Nomination and Governance Committee Charter.
6
EXECUTIVE OFFICERS OF THE COMPANY
Certain information concerning the executive officers of the Company as of March
1, 2004, is set forth in the following table.
NAME AGE OFFICE AND BUSINESS EXPERIENCE
- -------------------- --- ------------------------------------------------------------------------
Michael T. Vea 45 Chairman of the Board, President, and Chief Executive Officer of the
Company (January 2000 to present); Chairman of the Board and Chief
Executive Officer of the Company (September 1999 to January 2000);
President and Chief Executive Officer, Bank One, Cincinnati, OH
(1995-1999).
Charles A. Caswell 41 Chief Financial Officer and Executive Vice President of the Company
(October 2002 to present); Chief Financial Officer, RBC Centura Banks
Inc. (2001 to October 2002); Treasurer, RBC Centura Banks Inc. (1997
to 2001).
Archie M. Brown 43 Executive Vice President, Commercial and Consumer Banking (October
2003 to present); Executive Vice President, Retail Manager and
Community Markets Manager of the Company (March 2001 to October 2003);
Senior Vice President, Firstar Bank, N.A. (1997 to 2001).
Martin M. Zorn 47 Executive Vice President, Chief Risk Officer (March 2001 to present);
Regional Vice President and Region Executive, Wachovia Corporation
(1999 to 2001); Senior Vice President, Regional Corporate Banking
Manager, Wachovia Corporation (1994 to 1999).
The above information includes business experience during the past five years
for each of the Company's executive officers. Executive officers of the Company
serve at the discretion of the Board of Directors. There is no family
relationship between any of the directors or executive officers of the Company.
ITEM 2. PROPERTIES
The net investment of the Company and its subsidiaries in real estate and
equipment at December 31, 2003, was $54,563. The Company's offices are located
at 21 S.E. Third Street, Evansville, Indiana. The main and all banking center
offices of Integra Bank, loan production offices, and the leasing company are
located on premises either owned or leased. None of the property is subject to
any major encumbrance.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in legal proceedings from time to
time arising in the ordinary course of business. None of such legal proceedings
are, in the opinion of management, expected to have a materially adverse effect
on the Company's consolidated financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
7
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The Company's common stock is traded on the Nasdaq Stock Market under the symbol
IBNK.
The following table lists the stock price for the past two years and dividend
information for the Company's common stock.
Range of Stock Price
----------------------- Dividends
Quarter High Low Declared
- ---------- --------- ---------- --------- -----------
2003 1st $19.77 $15.50 $ 0.235
2nd 18.30 16.12 0.235
3rd 20.42 16.95 0.235
4th 23.00 19.21 0.235
- ---------- --------- ---------- --------- -----------
2002 1st $22.50 $18.25 $ 0.235
2nd 23.55 18.80 0.235
3rd 22.88 18.00 0.235
4th 18.30 15.00 0.235
The Company has historically paid quarterly cash dividends. The Company
generally depends upon the dividends from Integra Bank to pay cash dividends to
its shareholders. The ability of Integra Bank to pay such dividends is governed
by banking laws and regulations. Additional discussion regarding dividends is
included in the Liquidity section of Management's Discussion and Analysis of
Financial Condition and Results of Operations.
As of February 27, 2004, there were approximately 6,100 shareholders, which
includes holders of record and individual participants in security position
listings.
The Company did not sell any equity securities which were not registered under
the Securities Act during the fourth quarter of 2003.
The information required by this Item concerning equity compensation plans is
incorporated by reference in Item 12 to this report.
8
ITEM 6. SELECTED FINANCIAL DATA
FOR THE YEAR ENDED DECEMBER 31, 2003 2002 2001 2000 1999
(In thousands, except per share data and ratios)
Net interest income $ 72,242 $ 73,845 $ 82,080 $ 91,856 $ 89,817
Provision for loan losses 4,945 3,143 31,077 4,138 12,497
Non-interest income 32,793 36,281 33,202 20,131 13,523
Non-interest expense 82,267 82,877 78,303 63,438 60,290
---------- ---------- ----------- ---------- ----------
Income before income taxes and cumulative effect
of accounting change 17,823 24,106 5,902 44,411 30,553
Income taxes (benefit) 58 3,778 (1,629) 13,920 7,909
---------- ---------- ----------- ---------- ----------
Income before cumulative effect of
accounting change 17,765 20,328 7,531 30,491 22,644
Cumulative effect of accounting change, net of tax -- -- (273) -- --
---------- ---------- ----------- ---------- ----------
Net income $ 17,765 $ 20,328 $ 7,258 $ 30,491 $ 22,644
========== ========== =========== ========== ==========
PER COMMON SHARE
Net income:
Basic $ 1.03 $ 1.18 $ 0.42 $ 1.77 $ 1.28
Diluted 1.03 1.18 0.42 1.77 1.27
Cash dividends declared 0.94 0.94 0.94 0.87 0.78
Book value 13.46 13.45 12.79 12.94 12.73
Weighted average shares:
Basic 17,285 17,276 17,200 17,233 17,701
Diluted 17,300 17,283 17,221 17,254 17,794
AT YEAR-END
Total assets $2,958,294 $2,857,738 $ 3,035,890 $3,068,818 $2,203,477
Securities available for sale 1,006,986 982,263 1,010,470 997,494 332,359
Loans, net of unearned income 1,699,688 1,606,155 1,599,732 1,687,330 1,694,004
Deposits 1,812,630 1,781,948 1,928,412 1,871,036 1,694,661
Shareholders' equity 232,992 232,600 221,097 205,517 223,088
Shares outstanding 17,311 17,291 17,284 15,881 17,518
AVERAGE BALANCES
Total assets $2,949,016 $2,906,846 $ 3,266,322 $2,511,947 $2,154,168
Securities, at amortized cost 1,000,195 969,062 956,338 643,779 341,815
Loans, net of unearned income 1,670,938 1,596,462 1,747,882 1,674,864 1,636,924
Interest-bearing deposits 1,606,116 1,614,167 1,894,300 1,512,294 1,456,703
Shareholders' equity 234,948 230,298 241,252 227,573 228,740
FINANCIAL RATIOS
Return on average assets 0.60% 0.70% 0.22% 1.21% 1.05%
Return on average equity 7.56 8.83 3.01 13.40 9.90
Net interest margin 2.87 2.96 2.85 4.14 4.79
Cash dividends payout 91.26 79.66 223.81 49.15 60.94
Average shareholders' equity to average assets 7.97 7.92 7.39 9.06 10.62
Note: Effective January 1, 2001, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No, 133, Accounting for Derivative Instruments and
Hedging Activities. In accordance with the transition provisions of SFAS No.
133, the Company recorded a cumulative-effect-type transaction loss, net of tax,
to recognize excess of carrying value over the fair value of all interest rate
caps.
9
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
INTRODUCTION
The discussion and analysis which follows is presented to assist in the
understanding and evaluation of the financial condition and results of
operations of Integra Bank Corporation and its subsidiaries (the "Company") as
presented in the following consolidated financial statements and related notes.
The text of this review is supplemented with various financial data and
statistics.
Certain statements made in this report may constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. When used in this report, the words "may," "will," "should," "would,"
"anticipate," "estimate," "expect," "plan," "believe," "intend," and similar
expressions identify forward-looking statements. Such forward-looking statements
involve known and unknown risks, uncertainties and other factors which may cause
the actual results, performance or achievements to be materially different from
the results, performance or achievements expressed or implied by such
forward-looking statements. Such factors include, among others, the following
without limitation: general, regional and local economic conditions and their
effect on interest rates, the Company and its customers; credit risks and risks
from concentrations (geographic and by industry) within the loan portfolio;
changes in regulations on accounting policies affecting financial institutions;
the costs and effects of litigation and of unexpected or adverse outcomes in
such litigation; technological changes; acquisitions and integration of acquired
business; the failure of assumptions underlying the establishment of resources
for loan losses and estimations of values of collateral and various financial
assets and liabilities; the outcome of efforts to manage interest rate or
liquidity risk; competition; and acts of war or terrorism. The Company
undertakes no obligation to release revisions to these forward-looking
statements or to reflect events or conditions occurring after the date of this
report.
OVERVIEW
This overview of management's discussion and analysis highlights selected
information in this document and may not contain all of the information that is
important to you. For a more complete understanding of trends, events,
commitments, uncertainties, liquidity, capital resources, and critical
accounting estimates, you should carefully read this entire document. These have
an impact on the Company's financial condition and results of operations.
Summary 2003 Results, Goals, and Objectives
Net income was $17.8 million, $20.3 million, and $7.3 million and diluted
earnings per diluted common share was $1.03, $1.18, and $0.42 for the years
ended December 31, 2003, 2002, 2001, respectively. The diminished performance in
2003 was primarily the result an unsuccessful leverage strategy implemented in
2000 and an asset sensitive balance sheet while interest rates fell through 2002
and the first half of 2003. Returns on average assets were 0.60%, 0.70%, and
0.22% and returns on average equity were 7.56%, 8.83%, and 3.01% for the years
ended 2003, 2002, and 2001, respectively.
Management has set a number of goals intended to facilitate the Company's
transition from a decentralized group of community banks to a growth company.
First, the Company wants to drive earnings through focused sales and service
initiatives. Successful execution of this goal would lead to growth in key
elements of the balance sheet. Second, the Company wants to extend the
improvements of its credit risk management culture. Successful execution of this
goal would include additional credit quality improvements throughout the year.
Finally, Integra wants to enhance its financial management capabilities and use
those capabilities to improve results and more effectively manage risk.
Successful execution of this goal would lead to stabilization and improvement in
net interest income, net interest margin trends and acceptable levels of
interest rate and liquidity risk.
On the first goal, new sales and service initiatives led to growth in consumer
and mortgage loans and, to a lesser extent, commercial lending. Management
believes that, over the long term, the Company should work toward an equal
balance between commercial and retail lending. Commercial loans represented 54%
of total loans at the end of 2003, down 2% from 2002. Overall loan balance
growth averaged 4.7% in 2003, primarily in the consumer and mortgage lending,
with the average balances for consumer loans growing by 14.5% and mortgage loans
by 7.6%. Commercial loans grew by 0.1%, on average, in 2003.
On the deposit side of the balance sheet, the Company's sales efforts were
focused on growing demand deposit, money market and savings account balances
("valuable core deposits"). Valuable core deposit average balances grew 4.0%, or
$36.9 million during 2003 with stronger growth trends observed in the second
half of the year. Valuable core deposits grew $57.9 million, or 6.2%, in 2003
when comparing the average balance of the fourth quarter of 2002 with the fourth
quarter of 2003.
Integra's second goal was to extend the credit quality improvements achieved in
2002. Credit quality remained satisfactory during the year. Non-performing
assets fell by $4.9 million to $22.3 million and the ratio of non-performing
loans to total loans fell by 31 basis points to 1.08%. Net charge-offs for 2003
were 25 basis points, in line with management's expectations for the year. The
ratio of allowance for loan losses to total loans was 150 basis points at
year-end 2003.
10
The third goal was to enhance and effectively use the Company's financial
management capabilities. A new Chief Financial Officer was hired in late 2002
and a new Treasurer, a new Controller, a new Quantitative Risk Manager and a new
Strategic Initiatives Manager were added in 2003. This new team contributed
significantly to the improvement in net interest income and the net interest
margin. The net interest margin in the fourth quarter of 2003 was 7 basis points
higher than the net interest margin for the same quarter of 2002.
The stability in net interest margin experienced during the year was
attributable in part to several restructuring transactions during 2003 that were
implemented on an opportunistic basis, building on similar efforts in 2002.
First, the investment portfolio was restructured to reduce the concentration of
high-premium, long-term, fixed rate mortgage backed securities. Sales proceeds
from these securities were reinvested in low premium or discount, shorter term,
collateralized mortgage obligations ("CMOs") or 3 to 5 year hybrid adjustable
rate mortgages ("ARMs"). Second, in June, the Company called $34.5 million of
fixed-rate trust preferred securities, using the proceeds of a new $34.5 million
issue of floating rate trust preferred securities. Finally, the Company prepaid
$15 million in fixed rate high coupon Federal Home Loan Bank ("FHLB") advances.
Management believes there are further opportunities for restructuring of the
balance sheet, primarily centered on the $467 million in FHLB advances which
have an average coupon rate of 6.16%. These advances are described in more
detail in the Long-Term Borrowings section of this analysis and the notes to
financial statements. Management is weighing three basic alternative courses of
action. First, the Company can let the FHLB advances mature as scheduled from
2005 through 2010. This strategy would preserve capital, but limit further
improvement in the net interest margin. Second, the Company can continue to
reduce the FHLB advances on an opportunistic basis. As was seen in 2002 and
2003, this strategy balances the incremental impact on capital while potentially
improving the net interest margin on an incremental basis. Third, the Company
can prepay a significant portion or all of the FHLB advances. This strategy
would likely result in a significant prepayment charge, reducing capital in the
short term, but greatly enhance the potential for earnings improvement. Based on
estimates from FHLB, management estimates the pre-tax impact of prepaying all of
the FHLB advances as of December 31, 2003 at approximately $50 million.
Management will evaluate these alternatives against their impact on current and
future capital levels, the ability of such a transaction to further contain
interest rate risk, improve the Company's liquidity, enhance future earnings,
and other considerations.
Integra reaffirmed its policy of providing an attractive dividend for
shareholders in 2003. The dividend yield was in a range between 4 to 5 percent
for most of the year. Integra's divided payout ratio was 91 percent in 2003.
Other Objectives
The Company continually evaluates and refines its retail distribution network.
One of the Company's objectives is to reach an approximately equal balance
between banking centers located in community and metropolitan markets over the
next 3 to 4 years. The Company currently has approximately 75 percent of its
banking centers located in community markets. Integra initiated plans to build
four new banking centers in 2003 in metropolitan markets. Additionally, in May
2003, Integra sold its Owingsville, Kentucky banking center with approximately
$5.0 million in loans and $17.4 million in deposits for a gain of approximately
$1.0 million.
In the second half of 2003, the Company extended its commercial lending
activities by adding an experienced team of commercial lenders with a focus on
commercial real estate. The team had a past working relationship with several
members of the Company's executive team at another financial institution in the
area. Offices were opened in metro Cincinnati and Cleveland, Ohio and
Louisville, Kentucky. The team's emphasis will be on loans to borrowers with
stronger credit ratings than the Company's current average commercial real
estate borrower. By year-end this group had originated approximately $28 million
in loans. Most of these loans are located within the areas they serve. Subject
to limits, loans may be occasionally made on projects outside the markets the
Company serves to borrowers located within the Company's broader market area.
The Company will also continue to look at opportunities to further optimize
their banking center network and loan portfolios. This strategy may involve
selling or purchasing, banking centers, loan portfolios, or specific lines of
business.
Financial Overview
Net income for 2003 was $17.8 million compared to $20.3 million for the same
period in 2002. The Company generated successive quarterly improvements in net
income throughout 2003. Lower net interest income, greater loan loss provision
expense, and lower non-interest income offset lower non-interest and tax
expense. Specifically, net interest income was $1.6 million lower ($1.4 million
lower on a tax equivalent basis). There was an additional $1.8 million provision
for loan loss expense and non-interest income was $3.5 million lower while
non-interest expense was $0.6 million lower and income tax expense declined $3.7
million.
11
Net interest income ("NII"), on a tax equivalent basis ("TE"), was $77.0 million
in 2003 compared with $78.5 million in 2002. Though both average loan and
deposit balances were higher in 2003, net interest income was lower in part, due
to the effect of the Company's asset-sensitive interest rate risk position.
Though reduced early in 2003, the asset sensitive interest rate risk position
was in place in 2002 as interest rates fell 50 to 200 basis points. The full
effect of this lower interest rate environment was felt throughout 2003.
Net interest income trends were favorable through 2003 as NII grew in 3 of the 4
quarters in 2003, and was unchanged in the other quarter. Compared to the fourth
quarter of 2002, net interest income (TE) grew 7.1 percent, or $1.3 million. The
net interest margin (TE) improved by 7 basis points, from 2.83% to 2.90%,
despite lower interest rates for much of 2003. The improvement resulted from
balance sheet growth, more disciplined pricing and a more balanced interest rate
risk posture.
Non-interest income was $32.8 million in 2003 compared with $36.3 million in
2002 a decline of $3.5 million. This was primarily the result of a $6.0 million
decrease in securities gains from $9.1 million in 2002 to $3.1 million in 2003,
partially offset by the $1.0 million gain recognized from the 2003 banking
center sale. For additional detail, see table on page 15.
The remaining components of non-interest income were approximately $1.5 million
greater in 2003 than 2002, with the majority of the improvement attributable to
mortgage-related revenue, higher deposit and other service revenue and insurance
commissions.
Non-interest expense decreased from $82.9 million to $82.3 million in 2003, a
decline of $0.6 million. As part of this total, the Company recognized $1.2
million in expense related to calling its $34.5 million trust preferred
securities in June 2003. No similar expense was incurred in 2002. Expense
related to the Company's investments in LIHP increased by $1.9 million, from
$0.7 million in 2002 to $2.6 million in 2003. Finally, expense incurred from the
Company's loan sale project totaled $2.7 million in 2002 and there was no
comparable expense in 2003. For additional detail, see table on page 16.
The remaining components of non-interest expense totaled $77.3 million in 2003
compared with $73.6 million in 2002, a $3.7 million, or 5.0% increase.
Personnel-related expenses were $3.5 million higher in 2003 than 2002, making up
most of the increase. Of the increase in personnel-related expenses,
performance-based incentives and higher benefits costs (primarily health care
costs) made up approximately 70% of the increase. Overall, salary expenses were
$30.9 million in 2003 compared with $29.8 million in 2002, representing a 3.5%
increase. Part of the increase in salary expense in 2003 is attributable to
insourcing the Company's internal audit and loan review functions.
Net income for 2002 was $20.3 million compared to $7.3 million earned in 2001.
Earnings in 2001 were negatively impacted by the $26.0 million writedown of loan
values in 2001 prior to a loan sale in 2002. Specifically, at December 31, 2001,
$78.3 million of identified loans were written down by $26.0 million to the
lower of cost or market value prior to being reclassified from the loan
portfolio into loans held for sale. During 2002, the Company sold approximately
$25.2 million of the loans held for sale and transferred $24.0 million of
performing loans back into the loan portfolio, as the Company no longer had the
intent to sell these loans. The Company completed the loan sale during 2002.
Net interest income decreased by $8.2 million, or 10.0%, in 2002. The decrease
in net interest income was precipitated by a $382 million decline in average
earning assets and an asset-sensitive interest rate risk position, partially
offset with a more favorable mix of loan and deposit products. The provision for
loan losses decreased $27.9 million to $3.1 million in 2002. Non-interest income
was $36.3 million in 2002 compared with $33.2 million in 2001, which included
$9.1 million and $8.2 million of securities gains in 2002 and 2001,
respectively. Non-interest expenses increased $4.6 million in 2002, which
included debt prepayment fees of $5.9 million and loans held for sale expenses
of $2.7 million.
Earnings per share, on a diluted basis were $1.03 for 2003 compared to $1.18 in
2002 and $0.42 in 2001.
Returns on average assets and equity for 2003 were 0.60% and 7.56%,
respectively, compared with 0.70% and 8.83% in 2002. Effective January 1, 2001,
the Company adopted Statement of Financial Accounting Standards ("SFAS") No.
133, Accounting for Derivative Instruments and Hedging Activities. In accordance
with the transition provisions of SFAS No. 133, the Company recorded a
cumulative-effect-type transaction loss, net of tax, of $0.3 million, or $.01
per diluted share, to recognize the excess of carrying value over the market
value of all interest rate caps.
The Company began a leverage program in 2000 in which medium and long-term
mortgage-backed securities and agency and trust preferred securities were
acquired with long-term Federal Home Loan Bank advances and long term national
market repurchase agreements. During 2002, the Company terminated the leverage
program, reducing its dependency on non-core funding sources and taking other
steps to reduce its sensitivity to changes in interest rates. These steps
included selling fixed-rate, longer-maturity, mortgage-backed securities and
reinvesting the proceeds in shorter maturity securities with a more stable and
predictable cash flow. Gains from securities sales were used to cover the costs
associated with prepaying $90 million in long-term debt and expenses incurred
from the loan sale in 2002 and an additional $15 million in 2003.
12
CRITICAL ACCOUNTING POLICIES
The accounting and reporting policies of the Company conform with accounting
principles generally accepted in the United States and general practices within
the financial services industry. The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. These estimates, assumptions, and judgements
are based on information available as of the date of the financial statements;
accordingly, as this information changes, the financial statements could reflect
different estimates, assumptions, and judgements. Certain policies inherently
have a greater reliance on the use of estimates, assumptions, and judgements and
as such have a greater possibility of producing results that could be materially
different than originally reported. The Company considers its critical
accounting policies to include the following:
Allowance for Loan Losses: The allowance for loan losses represents management's
best estimate of probable losses inherent in the existing loan portfolio. The
allowance for loan losses is increased by the provision for losses, and reduced
by loans charged off, net of recoveries. The provision for loan losses is
determined based on management's assessment of several factors: actual loss
experience, changes in composition of the loan portfolio, evaluation of specific
borrowers and collateral, current economic conditions, trends in past-due and
non-accrual loan balances, and the results of recent regulatory examinations.
Loans are considered impaired when, based on current information and events, it
is probable the Company will not be able to collect all amounts due in
accordance with the contractual terms. The measurement of impaired loans is
generally based on the present value of expected future cash flows discounted at
the historical effective interest rate stipulated in the loan agreement, except
that all collateral-dependent loans are measured for impairment based on the
market value of the collateral, less estimated cost to liquidate. In measuring
the market value of the collateral, management uses assumptions and
methodologies consistent with those that would be utilized by unrelated third
parties.
Changes in the financial condition of individual borrowers, in economic
conditions, in historical loss experience and in the conditions of the various
markets in which the collateral may be liquidated may all affect the required
level of the allowance for loan losses and the associated provision for loan
losses.
Estimation of Market Value: The estimation of market value is significant to
several of the Company's assets, including loans held for sale, investment
securities available for sale, mortgage servicing rights, other real estate
owned, as well as market values associated with derivative financial instruments
and goodwill and other intangibles. These are all recorded at either market
value or the lower of cost or market value. Market values are determined based
on third party sources, when available. Furthermore, accounting principles
generally accepted in the United States require disclosure of the market value
of financial instruments as a part of the notes to the consolidated financial
statements. Market values are volatile and may be influenced by a number of
factors, including market interest rates, prepayment speeds, discount rates and
the shape of yield curves.
Market values for securities available for sale are based on quoted market
prices. If a quoted market price is not available, market values are estimated
using quoted market prices for similar securities. The market values for loans
held for sale are based upon quoted market values while the market values of
mortgage servicing rights are based on discounted cash flow analysis utilizing
dealer consensus prepayment speeds and market discount rates. The market values
of other real estate owned are typically determined based on appraisals by third
parties, less estimated costs to sell. The market values of derivative financial
instruments are estimated based on current market quotes.
Goodwill represents the excess of the cost of an acquisition over the fair value
of the net assets acquired. The Company assesses goodwill for impairment
annually on a segment level by applying a fair-value-based test using net
present value of estimated net cash flows. Impairment exists when the carrying
amount of the goodwill exceeds its implied fair value. 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 an asset or liability. On January 1, 2002, the Company adopted
SFAS 142, Goodwill and Other Intangible Assets. Under the provisions of SFAS
142, goodwill is no longer ratably amortized into the income statement over an
estimated life, but rather is tested at least annually for impairment.
Intangible assets which have finite lives continue to be amortized over their
estimated useful lives and also continue to be subject to impairment testing.
All other intangible assets have finite lives and are amortized on a
straight-line basis over varying periods not exceeding 15 years. Note 8 of the
Notes to Consolidated Financial Statements includes a summary of goodwill and
other intangible assets.
NET INTEREST INCOME
Net interest income is the difference between interest income on earning assets,
such as loans and investments, and interest expense paid on liabilities such as
deposits and borrowings. Net interest income is affected by the general level of
interest rates, changes in interest rates, and by changes in the amount and
composition of interest-earning assets and interest-bearing liabilities. Changes
in net interest income for the last two years are presented in the following
schedule. The change in net interest income not solely due to
13
changes in volume or rates has been allocated in proportion to the absolute
dollar amounts of the change in each. In addition to this schedule, at the end
of Management's Discussion and Analysis, there is a three-year balance sheet
analysis on an average basis and an analysis of net interest income.
CHANGES IN NET INTEREST INCOME (INTEREST ON A FEDERAL-TAX-EQUIVALENT BASIS)
2003 Compared to 2002 2002 Compared to 2001
------------------------------------- ----------------------------------
Change Due to Change Due to
Increase (decrease) a Change in a Change in
----------------------- ---------------------
Total Total
Interest income Volume Rate Change Volume Rate Change
--------- -------- ---------- --------- --------- ----------
Loans $ 5,208 $(15,662) $ (10,454) $ (11,849) $ (21,422) $ (33,271)
Securities 1,713 (10,225) (8,512) 811 (8,276) (7,465)
Loans held for sale (1,126) (140) (1,266) 1,535 (141) 1,394
Other short-term investments (752) (361) (1,113) (7,451) (4,922) (12,373)
--------- -------- ---------- --------- --------- ----------
Total interest income 5,043 (26,388) (21,345) (16,954) (34,761) (51,715)
Interest expense
Deposits (221) (14,188) (14,409) (10,772) (26,255) (37,027)
Short-term borrowings 1,838 (1,268) 570 (1,935) (2,403) (4,338)
Long-term borrowings (5,057) (1,017) (6,074) (1,432) (675) (2,107)
--------- -------- ---------- --------- --------- ----------
Total interest expense (3,440) (16,473) (19,913) (14,139) (29,333) (43,472)
--------- -------- ---------- --------- --------- ----------
Net interest income $ 8,483 $ (9,915) $ (1,432) $ (2,815) $ (5,428) $ (8,243)
========= ======== ========== ========= ========= ==========
The following discussion of results of operations is on a tax-equivalent basis.
Tax-exempt income, such as interest on loans and securities of state and
political subdivisions, has been increased to an amount that would have been
earned had such income been taxable.
Net interest income was $1.4 million or 1.8% lower in 2003 than in 2002. The
decrease was primarily due to an asset-sensitive balance sheet for most of 2002
in a lower rate environment. Pricing discipline on both loan and deposits was
stressed and monitored in 2003. The securities portfolio was restructured and 15
and 30 year fixed-rate high premium mortgaged-backed securities were replaced
primarily with two to three year duration low premium or discount collateralized
mortgage obligations with significant prepayment protection of the cashflow and
3 to 5 year hybrid ARMs. In 2002, net interest income was $78.5 million, $8.2
million or 9.5% less than that earned in 2001. Earning assets averaged $2,652
million in 2002 compared to $3,034 million in 2001. Average interest-bearing
liabilities were $2,446 million and $2,809 million in 2002 and 2001,
respectively. The net interest margin for the twelve months ended December 31,
2002 was 2.96% compared to 2.85% for the same period one-year prior. The lower
net interest income in 2002 was the result of the 12.6% decline in average
earning assets partially offset by the eleven basis point improvement in net
interest margin. Though the balance sheet remained asset sensitive in 2002, the
margin improvement resulted from a higher proportion of higher spread loans and
fewer time deposits in 2002 than 2001.
During 2003 and 2002, the Federal Reserve lowered the targeted federal funds
interest rates 25 and 50 basis points, respectively. The significant drop in
rates over the past two years increased prepayments in both the mortgage-backed
investment securities and fixed-rate loan portfolios, including a significant
impact on residential mortgages. When prepaid, these funds were generally
reinvested at lower rates.
Average earning assets increased $32.1 million during 2003 to $2,684 million.
The Company made a decision to hold fewer short-term investments in 2003,
finding other alternatives to provide liquidity. Average federal funds sold and
other short-term investments decreased $55.8 million compared to 2002. Average
loans held for sale decreased $18.1 million, in 2003 due primarily to the loan
sale conducted during 2002. During 2003 average loans increased $74.5 million,
or 4.7%; and average investment securities increased $31.1 million, or 3.2%. The
mix of earning assets shows average loans to average earning assets increased
from 60.2% in 2002 to 62.3% in 2003.
Average loans increased $74.5 million, or 4.7%, during 2003, compared to a
decrease of $151.4 million, or 8.7%, during 2002. Most of the increase occurred
in Integra's consumer and mortgage loan portfolios. Loan income decreased 9.4%
in 2003 as a result of a 94 basis point decline in loan yields. Loan income
decreased 22.9% in 2002 as a result of a 130 basis point decline in loan yields
accompanied with a decrease in average balances. The average yield on loans was
6.06% in 2003 versus 7.00% in 2002.
14
Average investment securities increased $31.1 million or 3.2% in 2003 partially
offsetting the reduction in short-term investments. The yield on securities
declined from 5.64% in 2002 to 4.61% in 2003. Security income decreased 15.6% in
2003 as a result of a 103 basis point decline in security yields partially
offset by the increase in average balances.
Overall, average deposit balances rose by $3.2 million, or 0.2%, in 2003. This
reflects a $36.9 million increase in valuable core deposits, partially offset by
a $33.7 million reduction in time deposits. During the current low interest rate
environment, customer preferences have shifted to shorter term, liquid deposit
products and to deposit alternatives, including annuities. During 2003, average
short-term borrowings increased $124.0 million and average long-term borrowings
decreased $81.6 million. The decrease in long-term borrowings was primarily due
to the prepayment of long-term, higher rate debt.
NON-INTEREST INCOME
Non-interest income totaled $32.8 million for the twelve months ended December
31, 2003 compared to $36.3 million for 2002 and $33.2 million for 2001. Adjusted
non-interest income totaled $28.7 million in 2003, $27.2 million in 2002 and
$25.0 million in 2001. Adjusted non-interest income continues to be an
increasingly significant portion of revenue for the Company and has grown to
represent 27.1% of net federal-tax-equivalent revenues in 2003 as compared to
25.7% in 2002 and 22.4% in 2001. The table below illustrates several
non-interest income items incurred outside the traditional core bank operations
and reconciles non-interest income and adjusted non-interest income. Management
feels excluding these items presents a clearer picture of its core operating
non-interest income.
(In thousands) 2003 2002 2,001
-------- -------- --------
Non-interest income as reported $ 32,793 $ 36,281 $ 33,202
Less Gain on banking center sale 1,056 -- --
Less Securities gains 3,052 9,098 8,212
-------- -------- --------
Adjusted non-interest income $ 28,685 $ 27,183 $ 24,990
======== ======== ========
Service charges on deposit accounts increased $0.5 million, or 4.4%, in 2003.
Growth in these fees resulted from new fee sources, including an enhanced
overdraft protection service, greater product and service usage and improved
efforts to collect a greater percentage of assessed fees. Service charge income
totaled $11.6 million in 2003, $11.1 million in 2002, and $9.3 million in 2001.
Other service charges and fees increased $0.6 million from $5.1 million in 2002
to $5.7 million in 2003. Card-related fees totaled $4.4 million in 2003 compared
to $3.9 million in 2002 and $3.3 million in 2001 due to increased sales efforts
of debit cards and the increasing preference of these cards over checks. As a
result of the national MasterCard/Visa settlement with Wal-Mart Stores Inc.,
debit card interchange fees decreased in the second half of 2003. The Company is
making an effort to increase the number of debit cards outstanding and the
number of customer transactions. A successful campaign would lessen the impact
on future debit card revenue.
Mortgage servicing income in 2003 was $1.9 million compared to $1.1 million in
2002 due to the continuing high demand for new and refinanced residential
mortgages. The Company sold the majority of its current year's fixed rate
mortgage loan production to generate fee income and reduce interest rate
exposure. The Company continues to service most of these loans. At December 31,
2003, the Company was servicing $290.8 million of sold residential mortgage
loans compared to $198.6 million at December 31, 2002. Management anticipates a
slower mortgage origination environment in 2004 due to a higher interest rate
environment as compared to 2003. The Company has implemented programs with
wholesale mortgage brokers and LendingTree as new sources of mortgage
production. These loans or customers are in the Company's lending area. ARM
loans originated through the wholesale brokers are retained in the Company's
portfolio and fixed rate mortgages are sold servicing retained. The LendingTree
mortgages are expected to be sold within 30 days with servicing released.
Investment services commissions, which include brokerage and annuity
commissions, totaled $1.2 million in 2003 compared to $1.1 million in 2002 and
$0.4 million in 2001. The Company sees additional opportunities in the sale of
annuities, mutual funds and other non-traditional banking products in 2004.
Trust income for 2003 was $2.0 million, essentially flat when compared to 2002.
Total trust assets under management increased $64 million, or 19.3%, from $331
million in 2002 to $395 million in 2003 primarily due to the overall increase in
values of the financial assets during the past year. Trust income for 2002 was
$2.0 million, a decrease of 10.2% from 2001 as trust assets under management
decreased $77 million, or 18.9%, from $408 million in 2001.
Other non-interest income totaled $7.2 million in 2003 compared to $6.7 million
in 2002 and $7.7 million in 2001. Included in 2002 are $0.4 million from the
expiration of covered call option contracts and $0.1 million from net securities
trading account income, compared to $2.4 million and $2.4 million, respectively
in 2001. These revenue sources were related to the leverage program and both
were discontinued in 2002. Management has no plans to revive these programs.
Also included in other non-interest income in
15
2003 was $1.8 million from bank-owned life insurance and $2.0 million from
gains on the sale of loans, versus $1.9 million from bank-owned life insurance
and $1.0 million from the sale of loans in 2002 and $1.6 million and $0.9
million, respectively, in 2001.
Securities transactions resulted in gains of $3.1 million in 2003, $9.1 million
in 2002, and $8.2 million in 2001. The gains in 2003 were used, in part, to
offset the costs associated with prepaying $15 million in long-term FHLB
borrowings and the redemption of $34.5 million of trust preferred securities.
NON-INTEREST EXPENSE
Non-interest expense for 2003 totaled $82.3 million, a decrease of $0.6 million,
or 0.7% compared to the prior year. Adjusted non-interest expense was $77.3
million for 2003, or 5.0% higher than 2002. The table below illustrates several
expenses incurred outside the traditional core bank operations and reconciles
non-interest expense and adjusted non-interest expense. Management feels
excluding these items presents a clearer picture of its core operating expense.
(In thousands) 2003 2002 2,001
-------- -------- --------
Non-interest expense as reported $ 82,267 $ 82,877 $ 78,303
Less Debt prepayment expenses 1,243 5,938 --
Less Loan held for sale expense 1 2,677 --
Less Low income housing project losses 2,570 652 926
Less Accelerated Trust Preferred amortization 1,196 -- --
-------- -------- --------
Adjusted non-interest expense $ 77,257 $ 73,610 $ 77,377
======== ======== ========
Salaries and employee benefits accounted for 51.5% of non-interest expense in
2003 compared to 46.8% in 2002 and 48.8% in 2001. Salaries and employee benefits
totaled $42.3 million in 2003 compared to $38.9 million in 2002. The increase
was attributable to three items (1) salaries increased $1.0 million, or 3.5%,
(2) medical insurance increased $1.1 million, and (3) commissions and incentives
increased $1.5 million. Part of the increase in salary expense in 2003 is
attributable to insourcing the Company's internal audit and loan review
functions. The Company has reviewed the costs of medical insurance and has begun
offering an alternative choice to employees that incents employees to more
actively manage their health care consumption and could help control the
increase in these expenses in the future. The commissions and incentives
increases in 2003 and 2002 were mainly due to the increase in performance-based
awards tied to loan originations and sales of fee-based services and deposit
products. Personnel expense increased $0.6 million in 2002 from $38.2 million in
2001. Benefits expense increased in 2001 due to a $0.6 million charge related to
the curtailment of a defined benefit cash balance plan and benefits associated
with the increased staff size. At December 31, 2003, the Company had 886
full-time equivalent employees compared to 915 in 2002 and 941 in 2001.
Occupancy expense and equipment expense for 2003 were $5.9 million and $4.4
million, respectively, compared to $5.6 million and $4.5 million, respectively
in 2002 and $5.0 million and $5.0 million, respectively in 2001. The Company was
operating 72 banking centers at December 31, 2003 compared to 74 banking centers
one-year prior and 76 in 2001. New banking centers were opened in Bowling Green
and Georgetown, Kentucky during January 2004. The banking centers planned for
Evansville, Indiana and Florence, Kentucky are expected to open in the second
and fourth quarters of 2004, respectively. In May 2003, the Company sold its
Owingsville, Kentucky banking center.
Professional fees were $4.4 million in 2003, a decrease of $0.5 million, or
10.2%, from 2002. In part of 2002, the Company outsourced its Loan Review,
Internal Audit, and certain data processing functions and in 2003 brought these
functions in-house thus decreasing professional fees. Professional fees were
$4.9 million in 2002, a decrease of $0.7 million, or 12.3% from 2001.
Communication and transportation expenses and processing expenses both decreased
slightly in 2003. Communication expense decreased due to a switch in carriers.
The Company incurred debt prepayment expenses of $1.2 million in 2003 and $5.9
million in 2002 as a result of prepaying $15 million in long-term FHLB advances
and $90 million in term repurchase agreements in 2003 and 2002, respectively.
The Company restructured a portion of its balance sheet each year by selling
certain mortgaged-backed investment securities, using the proceeds to retire the
debt and reinvest in shorter maturity securities with more predictable cash
flows.
The Company recorded expenses of $2.7 million in 2002 and no comparable expense
for 2003 related to the loan sale project. The writedown in 2002 was
precipitated primarily by the rapid deterioration in one commercial loan and
lower than anticipated prices were realized on the remaining loans held for
sale. The loan sale project was completed in 2002.
Amortization of intangible assets was $1.6 million in 2003 compared to $1.6
million and $5.3 million in 2002 and 2001, respectively. The decrease in 2002,
resulted from the Company adopting SFAS No. 142, Goodwill and Other Intangible
Assets. Goodwill and
16
certain other intangible assets having indefinite lives are no longer
amortized to earnings, but rather are subject to testing for impairment. The
Company completed this testing in 2003 and found no impairment. The purchase of
Webster Bancorp, Inc. in January 2001 and the full year effect of the banking
center purchase completed in November 2000 accounted for the increase in 2001.
During the fourth quarter of 2002, the Company adopted SFAS No. 147,
Acquisitions of Certain Financial Institutions, and, as required, reversed
approximately $0.5 million of pre-tax amortization expense incurred during the
first nine months of 2002.
Other non-interest expenses were $11.8 million in 2003, increasing $3.6 million,
or 44.5%, from the prior year. Pre-tax operating losses related to the Company's
investment in low-income housing projects ("LIHP") increased $1.9 million in
2003. This increase is mainly attributable to the LIHP entered into in late
2002. Expenses related to trust preferred amortization also increased $1.2
million, caused mainly from the redemption of $34.5 million of fixed rate trust
preferred securities in the second quarter of 2003.
Upon adoption of FAS 133, Accounting for Derivatives Instruments and Hedging
Activities, on January 1, 2001, the Company recorded a cumulative effect of
change in accounting principle of $0.3 million, net of tax.
INCOME TAXES
The Company recognized income tax expense of $58 thousand, or an effective tax
rate of 0.3%, for the twelve months ended December 31, 2003, compared with a tax
expense of $3.8 million, or an effective tax rate of 16%, in 2002 and a tax
benefit of $1.6 million, or an effective tax rate of (28)%, in 2001. Investments
in bank-owned life insurance policies on certain officers, a tax-exempt item,
generated $1.8 million of income during 2003 compared to $1.9 million in 2002.
Dividend income on tax-preferred securities decreased $0.6 million during 2003
compared to 2002. Throughout 2003, the Company looked for opportunities to
reduce its holdings of tax-preferred securities. In late 2002, the Company
invested in a LIHP which generated $1.3 million more tax credits in 2003 than in
2002. These credits are a direct offset to tax expense and a large component of
lowering the tax expense in 2003 and 2002. The 2001 tax benefit was primarily
the result of lower taxable income as a result of the additional provision for
loan losses recorded in the fourth quarter. Income from tax-exempt or
tax-preferred sources, including bank-owned life insurance, low-income housing
projects and dividends on tax-preferred securities, including municipals and tax
preferred agencies, increased in 2002 compared to one year prior. See note 11 of
the Notes to the Consolidated Financial Statements for an additional discussion
of these sources.
17
INTERIM FINANCIAL DATA
The following table reflects summarized quarterly data for the periods
described:
(In thousands, except per share data)
2003
---------------------------------------------------
Three months ended December 31 September 30 June 30 March 31
- ------------------ ----------- ------------ --------- ---------
Interest income $ 35,269 $ 35,506 $ 36,011 $ 36,329
Interest expense 16,421 17,093 18,520 18,839
----------- ------------ --------- ---------
Net interest income 18,848 18,413 17,491 17,490
Provision for loan losses 1,000 1,110 1,600 1,235
Non-interest income 7,794 8,582 8,887 7,530
Non-interest expense 19,828 21,090 20,978 20,371
----------- ------------ --------- ---------
Income before income taxes 5,814 4,795 3,800 3,414
Income taxes 945 141 (513) (515)
----------- ------------ --------- ---------
Net income $ 4,869 $ 4,654 $ 4,313 $ 3,929
=========== ============ ========= =========
Earnings per share:
Basic $ 0.28 $ 0.27 $ 0.25 $ 0.23
Diluted 0.28 0.27 0.25 0.23
Average shares:
Basic 17,287 17,286 17,286 17,273
Diluted 17,310 17,303 17,287 17,274
2002
---------------------------------------------------
Three months ended December 31 September 30 June 30 March 31
- ------------------ ----------- ------------ --------- ---------
Interest income $ 38,082 $ 39,681 $ 43,147 $ 43,721
Interest expense 20,636 22,165 23,266 24,719
----------- ------------ --------- ---------
Net interest income 17,446 17,516 19,881 19,002
Provision for loan losses 1,383 930 180 650
Non-interest income 9,863 13,107 6,650 6,661
Non-interest expense 21,572 23,942 18,644 18,719
----------- ------------ --------- ---------
Income before income taxes 4,354 5,751 7,707 6,294
Income taxes 385 836 1,570 987
----------- ------------ --------- ---------
Net income $ 3,969 $ 4,915 $ 6,137 $ 5,307
=========== ============ ========= =========
Earnings per share:
Basic $ 0.23 $ 0.28 $ 0.36 $ 0.31
Diluted 0.23 0.28 0.36 0.31
Average shares:
Basic 17,281 17,281 17,275 17,269
Diluted 17,281 17,295 17,298 17,275
FINANCIAL CONDITION
Total assets at December 31, 2003, were $2,958 million, compared to $2,858
million at December 31, 2002.
SHORT-TERM INVESTMENTS
Federal funds sold and other short-term investments totaled $8.7 million at
December 31, 2003 compared to $0.5 million one-year prior. In 2003 federal funds
sold were $8.1 million of the total short-term investments. There were no
federal funds sold on December 31, 2002.
18
SECURITIES PORTFOLIO
Total investment securities, which are all classified as available for sale,
comprised 34.0% of total assets at December 31, 2003 compared to 34.4% at
December 31, 2002. They represent the second largest asset component after
loans. Securities increased $24.7 million to $1,007.0 million at December 31,
2003 from one-year prior. The portfolio has continued to shift toward
investments in 2-3 year low premium or discount CMOs and 3 to 5 year hybrid ARMs
and out of high premium 15 and 30 year fixed rate passthrough mortgage-backed
securities. Inherent in mortgage-backed securities is prepayment risk, which
occurs when borrowers prepay their obligations due to market fluctuations and
rates. Prepayment rates generally can be expected to increase during periods of
lower interest rates as underlying mortgages are refinanced at lower rates,
which occurred in 2003 and 2002. Mortgage-backed securities and collateralized
mortgage obligations represented 74.5% of the investment portfolio at December
31, 2003 as compared to 71.2% and 65.1% at December 31, 2002 and 2001,
respectively. Management repositioned a portion of the portfolio late in 2002
and early 2003 in order to reduce the exposure to accelerating prepayments and
unanticipated premium write-downs going forward. The Company's present
investment strategy focuses on shorter duration securities with more predictable
cash flows in a variety of interest rate scenarios.
SECURITIES PORTFOLIO (At Fair Value) December 31,
------------------------------------
(In thousands) 2003 2002 2001
---------- --------- ----------
U.S. Government agencies $ 40,977 $ 15,437 $ 144,615
Mortgage-backed securities 285,997 369,405 654,795
Collateralized Mortgage Obligations 464,562 330,104 2,751
State & political subdivisions 117,078 147,214 147,444
Federal Home Loan Bank
and Federal Reserve stock 32,875 32,763 34,671
Other securities 65,497 87,340 26,194
---------- --------- ----------
Total $1,006,986 $ 982,263 $1,010,470
========== ========= ==========
LOANS
Loans, net of unearned income at December 31, 2003 totaled $1,699.7 million
compared to $1,606.2 million at year-end 2002, reflecting an increase of $93.5
million, or 5.83%. Commercial loans, which include commercial, industrial and
agricultural and commercial real estate, increased $7.7 million at December 31,
2003 compared to the same period in 2002. Commercial, industrial and
agricultural loans decreased $57.9 million to $586.2 million from $644.1 million
at December 31, 2002 while commercial real estate loans increased $65.6 million
as a greater emphasis was placed on commercial real estate lending. In the
second half of 2003, the Company expanded its commercial lending activities by
adding a team of commercial lenders with a particular focus on commercial real
estate. The team had a past working relationship with several members of the
Company's executive team at another financial institution in the area. Offices
were opened in metro Cincinnati and Cleveland, Ohio and Louisville, Kentucky. By
year-end this group had originated approximately $28 million in loans. Most of
these loans are located within the areas they serve. Loans are occasionally made
on projects outside the markets the Company serves to borrowers located within
the Company's defined lending area. Residential mortgage loans grew $26.0
million, or 5.75% to $477.9 million at December 31, 2003 compared to $451.9
million at the same time in 2002. Home equity loans increased to $132.1 million
at December 31, 2003 an increase of $5.8 million as homeowners refinanced in the
low rate environment. Home equity loans are generally lines of credit
collateralized by a mortgage on the customer's primary residence. Consumer loans
increased $35.8 million, or 24.13% to $184.4 million at December 31, 2003.
Consumer loans include direct and indirect loans to consumers. Indirect loans at
December 31, 2003 were $88.4 million compared to $37.4 million at December 31,
2002. These indirect loans are primarily boat and recreational vehicle loans to
customers with average FICO scores of 718 and 730, respectively.
As of December 31, 2001, the Company identified $78.3 million of performing and
non-performing loans which it intended to sell. This portfolio consisted of
$69.0 million of commercial loans, $8.7 million of residential mortgage loans
and $0.7 million of consumer loans. The loans identified for sales in 2001 were
written down to market value, resulting in charge-offs totaling $26.0 million,
prior to being reclassified from the loan portfolio into loans held for sale.
During 2002, the Company sold approximately $25.2 million of the loans held for
sale and transferred $24.0 million of performing loans back into the loan
portfolio, as the Company no longer had the intent to sell these loans. In
addition, during the same period the Company wrote down the held for sale
portfolio by a total of $2.7 million. This additional writedown was necessitated
due to the rapid deterioration of a significant commercial credit in the
portfolio, lower realization on the loans sold and lower estimated realization
on the remaining loans held for sale. Net activity, including payments and
disbursements, on these loans totaled $0.4 million in 2002. The loan sale was
completed in 2002.
19
LOAN PORTFOLIO AT YEAR END (1)
(In thousands) 2003 2002 2001 2000 1999
----------- ----------- ---------- ----------- -----------
Commercial, industrial and
agricultural loans $ 586,159 $ 644,084 $ 326,549 $ 353,934 $ 372,821
Economic development loans and
other obligations of state and
political subdivisions 20,951 18,360 19,980 25,120 22,331
Lease financing 6,796 7,366 8,004 14,486 16,980
Commercial real estate 238,261 172,640 -- -- --
Construction and development 53,108 36,981 -- -- --
Real estate loans -- -- 1,118,607 1,154,129 1,115,569
Residential mortgages 477,895 451,920 -- -- --
Home equity 132,101 126,257 -- -- --
Consumer loans 184,426 148,580 126,735 139,804 166,847
----------- ----------- ---------- ----------- -----------
Total loans 1,699,697 1,606,188 1,599,875 1,687,473 1,694,548
Less: unearned income 9 33 143 143 544
----------- ----------- ---------- ----------- -----------
Loans, net of unearned income $ 1,699,688 $ 1,606,155 $1,599,732 $ 1,687,330 $ 1,694,004
=========== =========== ========== =========== ===========
(1) In 2003, the Company changed its methodology for classifying the types
of loans in its portfolio. The principal effect of this change was to reduce the
number of loans reported prior to 2002 as real estate or real estate mortgage
loans. The Company determined that it was not practical to apply the new
methodology to earlier years. As a result, information for years prior to 2002
is shown as previously reported and is not comparable to the information for
2003 and 2002. Comparable amounts that would be included in the real estate
loans line for 2003 and 2002 would be $1,136,431and $1,113,404, respectively.
Different types of loans are subject to varying levels of risk. Management
mitigates this risk through portfolio diversification as well as geographic
diversification. The Company concentrates its lending activity in the geographic
market areas that it serves, primarily Indiana, Illinois, Kentucky and Ohio. The
loan portfolio is also diversified by type of loan and industry.
The Company lends to customers in various industries including real estate,
agricultural, health and other related services, and manufacturing. There is no
concentration of loans in any single industry exceeding 10% of the portfolio nor
does the portfolio contain any loans to finance speculative transactions or
loans to foreign entities.
LOAN MATURITIES AND RATE SENSITIVITIES AT DECEMBER 31, 2003
Total Loans After 1 Year
(In thousands) Within But Within Over
Rate sensitivities: 1 Year 5 Years 5 Years Total
--------- ------------ ---------- -----------
Fixed rate loans $ 78,124 $ 388,074 $ 307,903 $ 774,101
Variable rate loans 562,976 295,075 51,811 909,862
--------- ------------ ---------- -----------
Subtotal $ 641,100 $ 683,149 $ 359,714 1,683,963
--------- ------------ ----------
Percent of total 38.07% 40.57% 21.36%
Nonaccrual loans 15,725
-----------
Total loans $ 1,699,688
===========
20
LOAN MATURITIES AND RATE SENSITIVITIES AT DECEMBER 31, 2003
(In thousands) After 1 Year
Within But Within Over
1 Year 5 Years 5 Years Total
-------- -------- -------- --------
Commercial, industrial and
agriculture loans $320,260 $195,778 $ 62,471 $578,509
Construction and development 45,165 6,662 1,244 53,071
-------- -------- -------- --------
Total $365,425 $202,440 $ 63,715 $631,580
======== ======== ======== ========
Fixed rate $ 23,566 $173,460 $ 60,847 $257,873
Variable rate 341,859 28,980 2,868 373,707
-------- -------- -------- --------
Subtotal $365,425 $202,440 $ 63,715 631,580
-------- -------- --------
Percent of total 57.86% 32.05% 10.09%
Nonaccrual loans 7,687
--------
Total $639,267
========
NON-PERFORMING ASSETS
Non-performing assets consist primarily of nonaccrual loans, restructured loans,
loans past due 90 days or more and other real estate owned. Nonaccrual loans are
loans on which interest recognition has been suspended because of doubts as to
the borrower's ability to repay principal or interest according to the terms of
the contract. Loans are generally placed on nonaccrual status after becoming 90
days past due if the ultimate collectability of the loan is in question. Loans
which are current, but as to which serious doubt exists about repayment ability,
may also be placed on nonaccrual status. Restructured loans are loans for which
the terms have been renegotiated to provide a reduction or deferral of principal
or interest because of the borrower's financial position. Loans 90 days or more
past-due are loans that are continuing to accrue interest, but which are
contractually past due 90 days or more as to interest or principal payments.
Other real estate owned represents properties obtained for debts previously
contracted. Management is not aware of any loans which have not been disclosed
as non-performing assets that represent or result from unfavorable trends or
uncertainties which management reasonably believes will materially adversely
affect future operating results, liquidity or capital resources, or represent
material credits as to which management has serious doubt as to the ability of
such borrower to comply with loan repayment terms. Included in the
non-performing assets is a defaulted utility bond anticipation note issue, with
a face value of $3.0 million. The refinancing of these securities was delayed
pending resolution of an appeal by rate payers of the rate increases necessary
to support the refinancing. On January 14, 2004, the Indiana Supreme Court
denied the petition to transfer, effectively settling the rate case. It is our
expectation that the securities can now be refinanced.
NON-PERFORMING ASSETS AT YEAR END
(In thousands) 2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
Non-performing loans:(1)
Nonaccrual $ 15,725 $ 20,010 $ 21,722 $ 33,079 $ 32,025
Restructured -- -- -- 160 1,275
90 days past due 2,566 2,367 2,500 3,760 1,629
-------- -------- -------- -------- --------
Total non-performing loans 18,291 22,377 24,222 36,999 34,929
Defaulted municipal securities 2,692 2,536 -- -- --
Other real estate owned 1,341 2,286 2,866 1,522 936
-------- -------- -------- -------- --------
Total non-performing assets $ 22,324 $ 27,199 $ 27,088 $ 38,521 $ 35,865
======== ======== ======== ======== ========
(1) Includes non-performing loans classified as loans held for sale.
Non-performing loans were 1.08% and 1.39% of loans, net of unearned income at
the end of 2003 and 2002, respectively. The improvement in the non-performing
loan to total loan ratio is due to aggressive management of non-performing
loans. The interest recognized on nonaccrual loans was approximately $69
thousand, $68 thousand and $132 thousand, in 2003, 2002 and 2001, respectively.
The amount of interest that would have been earned had these nonaccrual loans
remained in accruing status was $0.9 million, $1.1 million and $2.3 million for
2003, 2002 and 2001, respectively.
21
The Company monitors watch list assets. For the most part, assets are designated
as watch list to ensure more frequent monitoring. The assets are reviewed to
insure proper earning status and security perfection. If it is determined that
there is serious doubt as to performance in accordance with the original terms
of the contract then the loan is placed on nonaccrual. These loans are reviewed
on an ongoing basis.
CREDIT MANAGEMENT
The Company's credit management procedures include Board oversight of the
lending function by the Board's Credit and Risk Management Committee, which
meets at least quarterly. The committee monitors credit quality through its
review of information such as delinquencies, non-performing loans and assets,
problem and watch list loans and charge-offs. The lending policies address risks
associated with each type of lending, including collateralization, loan-to-value
ratios, loan concentrations, insider lending and other pertinent matters and are
regularly reviewed to ensure that they remain appropriate for the current
lending environment. In addition, a sample of loans is reviewed by an
independent loan review department, compliance as well as regulatory agencies.
Consumer, mortgage and small business loans are centrally underwritten and
approved while commercial loans are approved through a combination of low
individual lending authorities, independent senior credit officers and an
executive loan committee. The executive loan committee approves or ratifies all
loans in excess of $2.5 million.
The allowance for loan losses is that amount which, in management's opinion, is
adequate to absorb probable inherent loan losses as determined by management's
ongoing evaluation of the loan portfolio. The evaluation by management is based
upon consideration of various factors including growth of the portfolio, an
analysis of individual credits, adverse situations that could affect a
borrower's ability to repay, prior and current loss experience, the results of
recent regulatory examinations and economic conditions. Loans that are deemed to
be uncollectible are charged to the allowance, while recoveries of previously
charged off amounts are credited to the allowance. The provision for loan losses
is the amount charged to operations to provide assurance that the allowance for
loan losses is sufficient to absorb probable losses.
The adequacy of the allowance for loan losses is based on ongoing quarterly
assessments of the probable losses inherent in the credit portfolios. The
methodology for assessing the adequacy of the allowance establishes both an
allocated and unallocated component. The allocated component of the allowance
for commercial loans is based on a review of specific loans as well as
delinquency, classification levels and historic charge-offs for pools of
non-reviewed loans. For consumer loans, the allocated component is based on loan
payment status and historical loss rates.
A review of selected loans (based on risk rating and size) is conducted to
identify loans with heightened risk or probable losses. The primary
responsibility for this review rests with management assigned accountability for
the credit relationship. This review is supplemented with reviews by the credit
review function and regulatory agencies. These reviews provide information which
assist in the timely identification of problems and potential problems and in
deciding whether the credit represents a probable loss or risk which should be
recognized. Where appropriate, an allocation is made to the allowance for
individual loans based on management's estimate of the borrower's ability to
repay the loan given the availability of collateral, other sources of cash flow
and legal options available to the Company.
Included in the review of individual loans are those that are impaired as
provided in SFAS No. 114, Accounting by Creditors for Impairment of a Loan.
Loans are considered impaired when, based on current information and events, it
is probable the Company will not be able to collect all amounts due in
accordance with the contractual terms. The allowance established for impaired
loans is generally based on the present value of expected future cash flows
discounted at the historical effective interest rate stipulated in the loan
agreement, except that all collateral-dependent loans are measured for
impairment based on the market value of the collateral, less estimated cost to
liquidate.
Homogeneous pools of loans, such as consumer installment and residential real
estate loans, are not individually reviewed. An allowance is established for
each pool of loans based upon historical loss ratios, based on the net
charge-off history by loan category. In addition, the allowance reflects other
risks affecting the loan portfolio, such as economic conditions in the Company's
geographic areas, specific industry financial conditions and other factors.
The unallocated portion of the allowance covers general economic uncertainties
as well as the imprecision inherent in any loan and lease loss forecasting
methodology. It will vary over time depending on economic, industry,
organization and portfolio conditions.
The factors used to evaluate homogenous loans in accordance with the SFAS No. 5,
Accounting for Contingencies are reviewed at least quarterly and are updated as
conditions warrant, resulting in improved allocation of specific reserves. The
provision for loan losses is the amount necessary to adjust the allowance for
loan losses to an amount that is adequate to absorb estimated loan losses as
determined by management's periodic evaluations of the loan portfolio. This
evaluation by management is based upon consideration of actual loss experience,
changes in composition of the loan portfolio, evaluation of specific borrowers
and collateral, current economic conditions, trends in past-due and non-accrual
loan balances and the results of recent regulatory examinations.
22
The adequacy of the allowance for loan losses is reviewed on a quarterly basis
and presented to the Audit Committee of the Board of Directors for approval. The
accounting policies related to the allowance for loan losses are significant
policies that involve the use of estimates and a high degree of subjectivity.
Management believes that they have developed appropriate policies and procedures
for assessing the adequacy of the allowance for loan losses that reflect the
assessment of credit risk after careful consideration of known relevant facts.
In developing this assessment, management must rely on estimates and exercise
judgement regarding matters where the ultimate outcome is unknown such as
economic factors, developments affecting companies in specific industries or
issues with respect to single borrowers. Depending on changes in circumstances,
future assessments of credit risk may yield different results, which may require
an increase or decrease in the allowance for loan losses.
The Company continues to invest in its loan portfolio monitoring system to
enhance its risk management capabilities. The provision for loan losses totaled
$4.9 million in 2003, an increase of $1.8 million from the $3.1 million provided
in 2002. At December 31, 2003, the allowance for loan losses as a percentage of
loans was 1.50% as compared to 1.53% as of year-end 2002. During 2003, the
Company's ratio of net charge-offs to average loans was 25 basis points compared
to 15 basis points in 2002. Net charge-offs in 2002 were uncharacteristically
low due to the large charge offs in late 2001 and subsequent recoveries in 2002
as a result of the loan sale. The allowance for loan losses to non-performing
loans at December 31 was 138.88% in 2003 and 110.08% in 2002.
SUMMARY OF LOAN LOSS EXPERIENCE (ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES) (1)
(In thousands) 2003 2002 2001 2000 1999
----------- ----------- ----------- ----------- -----------
Allowance for loan losses, January 1 $ 24,632 $ 23,868 $ 25,264 $ 25,155 $ 18,443
Allowance associated with purchase acquisitions -- -- 4,018 1,103 --
Writedowns related to loans transferred
to loans held for sale -- -- 26,047 -- --
Loans charged off:
Commercial, industrial and agriculture 2,330 1,235 4,457 1,722 1,859
Lease financing 59 -- 113 48 10
Commercial mortgages 840 492 -- -- --
Construction and development -- -- -- -- --
Real estate mortgage -- -- 4,452 1,658 2,539
Residential mortgages 1,734 2,236 -- -- --
Home Equity 180 266 -- -- --
Consumer 1,367 1,480 2,934 3,065 3,256
----------- ----------- ----------- ----------- -----------
Total 6,510 5,709 11,956 6,493 7,664
Recoveries on charged off loans:
Commercial, industrial and agriculture 1,105 1,192 270 242 534
Lease financing 119 4 2 13 --
Commercial mortgages 86 138 -- -- --
Real estate mortgage -- -- 371 235 251
Residential mortgages 405 1,266 -- -- --
Home Equity 1 33 -- -- --
Consumer 620 697 869 871 1,094
----------- ----------- ----------- ----------- -----------
Total 2,336 3,330 1,512 1,361 1,879
----------- ----------- ----------- ----------- -----------
Net charge-offs 4,174 2,379 10,444 5,132 5,785
Provision for loan losses 4,945 3,143 31,077 4,138 12,497
----------- ----------- ----------- ----------- -----------
Allowance for loan losses, December 31 $ 25,403 $ 24,632 $ 23,868 $ 25,264 $ 25,155
=========== =========== =========== =========== ===========
Total loans at year-end, net of unearned income $ 1,699,688 $ 1,606,155 $ 1,599,732 $ 1,687,330 $ 1,694,004
Average loans* 1,678,252 1,621,859 1,751,083 1,679,881 1,647,210
Total non-performing loans 18,291 22,377 24,222 36,999 34,929
Net charge-offs to average loans** 0.25% 0.15% 2.08% 0.31% 0.35%
Provision for loan losses to average loans 0.29 0.19 1.77 0.25 0.76
Allowance for loan losses to loans 1.50 1.53 1.49 1.50 1.48
Allowance for loan losses to non-performing loans 138.88 110.08 98.54 68.28 72.02
* Includes loans classified as held for sale.
** 2001 includes writedowns related to loans transferred to loans held for sale.
Excluding this amount, net charge-offs to average loans was 0.60%.
(1) In 2003, the Company changed its methodology for classifying the types of
loans in its portfolio. As a result, information for years prior to 2002 is
shown as previously reported and is not comparable to the information for
2003 and 2002.
23
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES AT DECEMBER 31 (1)
(In thousands)
Allowance Applicable to Percent of Loans to Total Gross Loans
Loan Type 2003 2002 2001 2000 1999 2003 2002 2001 2000 1999
- -------------- -------- -------- -------- -------- -------- ---- ---- ---- ---- ----
Commercial, industrial $ 12,789 $ 13,421 $ 6,845 $ 6,042 $ 7,252 57% 61% 21% 23% 22%
and agriculture
Economic development loans
and other obligations of
state and political
subdivisions 135 117 -- -- -- 1% 1% -- -- --
Lease financing 105 129 140 3,184 3,230 1% 1% 1% 1% 1%
Commercial mortgages 3,130 2,198 -- -- -- 14% 10% -- -- --
Construction and
development 344 280 -- -- -- 2% 1% -- -- --
Real estate mortgage -- -- 9,993 9,508 9,291 -- -- 70% 68% 66%
Residential mortgages 1,845 2,347 -- -- -- 8% 10% -- -- --
Home equity 778 529 -- -- -- 3% 2% -- -- --
Consumer 3,095 3,046 2,405 2,690 3,217 14% 14% 8% 8% 11%
-------- -------- -------- -------- -------- ---- ---- ---- ---- ----
Allocated 22,221 22,067 19,383 21,424 22,990 100% 100% 100% 100% 100%
==== ==== ==== ==== ====
Unallocated 3,182 2,565 4,485 3,840 2,165
-------- -------- -------- -------- --------
Total $ 25,403 $ 24,632 $ 23,868 $ 25,264 $ 25,155
======== ======== ======== ======== ========
(1) As indicated above, in 2003 the Company changed its methodology for
classifying the type of loans in its portfolio. The information for years
prior to 2002 is included as reported in those respective years.
DEPOSITS
Total deposits were $1,812.6 million at December 31, 2003 compared to $1,781.9
million at December 31, 2002. The declining rate environment shifted some
depositors' preferences to short-term liquid deposit products or annuities as
opposed to long-term time deposits. This migration was consistent with
management's objective to reduce the Company's reliance on high-yield, single
service time deposit customers. Measured at year-end, valuable core deposits
grew by $31.7 million, or 3.4% in 2003. Time deposits greater than $100 thousand
have increased $66.6 million, while other time deposits decreased $67.6 million
since December 31, 2002. The majority of the growth in time deposits greater
than $100 thousand is attributable to a renewed focus on raising public
deposits.
TIME DEPOSITS OF $100 OR MORE AT DECEMBER 31, 2003
(In thousands)
Maturing:
3 months or less $ 155,499
Over 3 to 6 months 70,613
Over 6 to 12 months 27,048
Over 12 months 52,703
---------
Total $ 305,863
=========
SHORT-TERM BORROWINGS
Short-term borrowings totaled $254.0 million at December 31, 2003, an increase
of $163.0 million from year-end 2002. Federal funds purchased represent
short-term borrowings, usually overnight, from other financial institutions.
Securities sold under agreements to repurchase are collateralized transactions
acquired in national markets as well as from the Company's commercial customers
as a part of a cash management service. Repurchase agreements generally are
overnight funds and provide the Company with a lower interest cost than similar
sources of funds. The Company had repurchase agreements outstanding of $195.4
million and $64.4 million at December 31, 2003 and 2002, respectively.
Short-term Federal Home Loan Bank ("FHLB") advances and other short-term
borrowed funds are borrowings with a maturity date of one year or less.
Short-term borrowed funds totaled $7.6 million and $14.2 million at December 31,
2003 and 2002, respectively. The Company currently has an unsecured line of
credit for $15 million and had $4 million outstanding at year-end 2003.
24
LONG-TERM BORROWINGS
Long-term borrowings generally provide longer term funding and include advances
from the FHLB and term notes from other financial institutions. Long-term
borrowings decreased $20.7 million during 2003 to $638.7 million from $659.4
million at December 31, 2002. Included in long-term borrowings are $54.1 million
in trust preferred securities and $481.2 million of FHLB advances. These
advances carried a weighted average interest rate of 6.15% with final maturities
occurring from 2005 through 2010 at December 31, 2003. The prepayment costs on
these FHLB advances at December 31, 2003 were estimated at approximately $50
million. In September 2003, the Company prepaid $15 million of 6.00% FHLB
advances and in the second half of 2002 extinguished $90 million of other
long-term, high-coupon debt prior to scheduled maturities.
In April 2003, the Company issued $10 million of floating rate subordinated
debt, which will mature on April 10, 2013. Issuance costs of $0.3 million were
paid by the Company and are being amortized over the life of the securities.
During the second quarter of 2003, the Company issued $35.6 million in trust
preferred securities as a participant in a pooled fund with a floating interest
rate, which was 4.27% on December 31, 2003. The issue matures on June 26, 2033.
Issuance costs of $1.0 million were paid by the Company and are being amortized
over the life of the securities. The Company has the right to call these
securities at par effective June 25, 2008. The funds were used to redeem $34.5
million of trust preferred securities which had a fixed rate of 8.25%.
In 2001, the Company issued $18 million in trust preferred securities as a
participant in a pooled fund. The issue matures on July 25, 2031. Issuance costs
of $0.6 million were paid by the Company and are being amortized over the life
of the securities. The Company has the right to call these securities at par
effective July 16, 2011.
Management continuously reviews the Company's liability composition. Any
modifications could adversely affect the profitability and capital levels of the
Company over the near term, but would be undertaken if management determines
that restructuring the balance sheet will improve the Company's interest rate
risk and liquidity risk profile on a longer-term basis.
OFF-BALANCE SHEET ARRANGEMENTS AND AGGREGATE CONTRACTUAL OBLIGATIONS
As of December 31, 2003 Less than 1 to 3 3 to 5 After 5
(In thousand) Total One Year Years Years Years
--------- --------- -------- --------- ---------
Contractual On Balance Sheet Obligations:
Long-term debt $ 638,698 $ 790 $ 233,182 $ 204,027 $ 200,699
Operating leases 8,503 1,753 1,532 1,278 3,940
--------- --------- --------- --------- ---------
Total contractual cash obligations $ 647,201 $ 2,543 $ 234,714 $ 205,305 $ 204,639
========= ========= ========= ========= =========
Off Balance Sheet Obligations:
Lines of credit $ 251,369 $ 98,834 $ 15,303 $ 8,054 $ 129,178
Standby letters of credit 7,428 7,346 82 -- --
Other commitments 53,183 15,882 18,630 11,385 7,286
--------- --------- --------- --------- ---------
Total other commitments $ 311,980 $ 122,062 $ 34,015 $ 19,439 $ 136,464
========= ========= ========= ========= =========
As of December 31, 2003, the scheduled maturities of time deposits are as
follows:
(In thousands)
2004 $ 572,370
2005 169,050
2006 33,345
2007 40,249
2008 and thereafter 30,014
---------
Total $ 845,028
=========
CAPITAL RESOURCES
At December 31, 2003, shareholders' equity totaled $233.0 million, an increase
of $0.4 million, or 0.2%, from 2002. The amount of net earnings retained after
the declaration of cash dividends was $1.5 million for the year ended December
31, 2003 compared to $4.1 million in the prior year. The dividend payout ratio
for 2003 was 91.26%, compared to 79.66% in 2002. The average equity to average
asset ratio was 7.97% and 7.92% for 2003 and 2002, respectively.
25
The Company opened two new banking centers in early 2004 and has plans to open
one each in the second and fourth quarters of 2004. The two planned banking
centers are estimated to cost between $5 million to $6 million, in total. The
Florence banking center will also serve as a regional office for the Cincinnati
metro area.
The Company and the banking industry are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can elicit certain mandatory actions by regulators
that, if undertaken, could have a direct material effect on the Company's
financial statements. Capital adequacy in the banking industry is evaluated
primarily by the use of ratios that measure capital against assets and certain
off-balance sheet items. Certain ratios weight these assets based on risk
characteristics according to regulatory accounting practices. At December 31,
2003, the Company and Integra Bank exceeded the regulatory minimums and Integra
Bank met the regulatory definition of well capitalized.
The capital securities held by the trusts currently qualify as Tier 1capital for
the Company under Federal Reserve Board guidelines. As a result of the issuance
of FIN 46, the Federal Reserve Board is currently evaluating whether
deconsolidation of the trusts will affect the qualification of the capital
securities as Tier 1 capital.
LIQUIDITY
Liquidity of a banking institution reflects the ability to provide funds to meet
loan requests, to accommodate possible outflows in deposits and other
borrowings, and to take advantage of interest rate market opportunities. Funding
loan requests, providing for deposit out flows, and managing interest rate
fluctuations require monitoring and continuous analysis in order to match
maturities of specific categories of short-term and long-term loans and
investments with specific types of deposits and borrowings. Bank liquidity is
normally considered in terms of the nature of mix of the banking institution's
sources and uses of funds.
For the Bank, the primary sources of short-term asset liquidity have been
Federal Funds sold, commercial paper, interest-bearing deposits with other
financial institutions, and securities available for sale. In addition to these
sources, short-term asset liquidity is provided by scheduled principal paydowns
and maturing loans and securities. The balance between these sources and needs
to fund loan demand and deposit withdrawals is monitored under the Company's
asset/liability management program. When these sources are not adequate, the
Company may use Fed Fund purchases, brokered deposits, repurchase agreements,
sale of investment securities or utilize its borrowing capacity with FHLB
Indianapolis, as alternative sources of liquidity. Additionally, the Company's
underwriting standards for its mortgage loan portfolio comply with standards
established by government housing agencies; as a result, a portion of the
mortgage loan portfolio could be sold to provide additional liquidity. At
December 31, 2003 and 2002, respectively, federal funds sold and other
short-term investments were $8,658 and $488. Additionally, at December 31, 2003,
the Company had $255 million available from unused federal funds lines and in
excess of $362 million in unencumbered securities available for repurchase
agreements. The Bank also has a "borrower in custody" ("BIC") line with the
Federal Reserve Bank totaling over $400 million as part of its liquidity
contingency.
For the Company, liquidity is provided by dividends from the Bank, cash
balances, credit line availability, liquid assets, and proceeds from capital
market transactions. Federal banking law limits the amount of capital
distributions that national banks can make to their holding companies without
obtaining prior regulatory approval. A national bank's dividend paying capacity
is affected by several factors, including the amount of its net profits (as
defined by statute) for the two previous calendar years and net profits for the
current year up to the date of dividend declaration. The Company has an
unsecured line of credit available which permits it to borrow up to $15 million.
At December 31, 2003 the Company had $11 million available for future use.
Management believes that the Company has adequate liquidity to meet its
foreseeable needs.
Liquidity for the Company is required to support operational expenses of the
Company, pay taxes, meet the outstanding debt and trust preferred securities
obligations of the Company, provide dividends to common shareholders and other
general corporate purposes. Management believes that funds to fulfill these
obligations for 2004 will be available from currently available cash and
marketable securities, accessing the Company's line of credit, dividends to the
Company, or other sources that management expects to be available during the
year. While management believes that maintaining the current dividend level is
important to the Company's shareholders, the Board of Directors will determine
on a quarterly basis whether to pay dividends and the amount of the dividend
after taking into account the availability of funds, the results of current
operations and prospects for future operations, and the need to maintain prudent
capital levels at the Company and Integra Bank.
ACCOUNTING CHANGES
For information regarding accounting standards issued which will be adopted in
future periods, refer to Note 1 to the Consolidated Financial Statements.
26
AVERAGE BALANCE SHEET AND ANALYSIS OF NET INTEREST INCOME
(In thousands)
For the Years Ended
December 31, 2003 2002
------------------------------------- ------------------------------------
Average Interest Yield/ Average Interest Yield/
EARNING ASSETS: Balances & Fees Cost Balances & Fees Cost
------------ ------------ ----- ----------- --------- -----
Interest-bearing deposits in banks $ 351 $ 3 0.85% $ 63 $ 1 1.59%
Federal funds sold & other
short-term investments 5,127 57 1.11% 60,859 1,171 1.92%
Loans held for sale 7,314 451 6.17% 25,396 1,717 6.76%
Securities:
Taxable 834,407 33,084 3.96% 773,224 40,152 5.19%
Tax-exempt 165,788 13,025 7.86% 195,838 14,469 7.39%
------------ ------------ ----- ----------- --------- -----
Total securities 1,000,195 46,109 4.61% 969,062 54,621 5.64%
Loans 1,670,938 101,300 6.06% 1,596,462 111,755 7.00%
------------ ------------ ----- ----------- --------- -----
Total earning assets 2,683,925 $ 147,920 5.51% 2,651,842 $ 169,265 6.38%
============ =========
Fair value adjustment on
securities available for sale 15,701 13,350
Allowance for loan loss (24,967) (24,473)
Other non-earning assets 274,357 266,127
------------ -----------
TOTAL ASSETS $ 2,949,016 $ 2,906,846
============ ===========
INTEREST-BEARING LIABILITIES:
Deposits
Savings and interest-bearing demand $ 539,234 $ 3,370 0.62% $ 518,905 $ 4,953 0.95%
Money market accounts 198,707 3,379 1.70% 193,403 4,475 2.31%
Certificates of deposit and other time 868,175 23,246 2.68% 901,859 34,976 3.88%
------------ ------------ ----- ----------- --------- -----
Total interest-bearing deposits 1,606,116 29,995 1.87% 1,614,167 44,404 2.75%
Short-term borrowings 221,522 2,613 1.18% 97,474 2,043 2.10%
Long-term borrowings 652,967 38,265 5.86% 734,543 44,339 6.04%
------------ ------------ ----- ----------- --------- -----
Total interest-bearing liabilities 2,480,605 $ 70,873 2.86% 2,446,184 $ 90,786 3.71%
============ =========
Non-interest bearing deposits 218,022 206,763
Other noninterest-bearing liabilities and
shareholders' equity 250,389 253,899
------------ -----------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 2,949,016 $ 2,906,846
============ ===========
Interest income/earning assets $ 147,920 5.51% $ 169,265 6.38%
Interest expense/earning assets 70,873 2.64% 90,786 3.42%
------------ ----- --------- -----
Net interest income/earning assets $ 77,047 2.87% $ 78,479 2.96%
------------ ----- --------- -----
For the Years Ended
December 31, 2001
-----------------------------------
Average Interest Yield/
EARNING ASSETS: Balances & Fees Cost
----------- --------- ------
Interest-bearing deposits in banks $ 381 $ 14 3.67%
Federal funds sold & other
short-term investments 326,084 13,531 4.15%
Loans held for sale 3,201 323 10.09%
Securities:
Taxable 760,257 47,670 6.27%
Tax-exempt 196,081 14,416 7.35%
----------- --------- ------
Total securities 956,338 62,086 6.49%
Loans 1,747,882 145,026 8.30%
----------- --------- ------
Total earning assets 3,033,886 $ 220,980 7.28%
=========
Fair value adjustment on
securities available for sale 14,044
Allowance for loan loss (27,476)
Other non-earning assets 245,868
-----------
TOTAL ASSETS $ 3,266,322
===========
INTEREST-BEARING LIABILITIES:
Deposits
Savings and interest-bearing demand $ 468,220 $ 6,579 1.41%
Money market accounts 236,658 8,883 3.75%
Certificates of deposit and other time 1,189,422 65,970 5.55%
----------- --------- ------
Total interest-bearing deposits 1,894,300 81,432 4.30%
Short-term borrowings 151,808 6,381 4.20%
Long-term borrowings 762,597 46,446 6.09%
----------- --------- ------
Total interest-bearing liabilities 2,808,705 $ 134,259 4.78%
=========
Non-interest bearing deposits 191,027
Other noninterest-bearing liabilities and
shareholders' equity 266,590
-----------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $ 3,266,322
===========
Interest income/earning assets $ 220,980 7.28%
Interest expense/earning assets 134,259 4.43%
--------- ------
Net interest income/earning assets $ 86,721 2.85%
--------- ------
Note: Tax exempt income presented on a tax equivalent basis based on a 35%
federal tax rate.
Loans include nonaccrual loans and loan fees of $2,843, $2,983, and
$3,446 for 2003, 2002, and 2001, respectively.
Securities yields are calculated on an amortized cost basis.
Federal tax equivalent adjustments on securities are $4,333, $4,178, and
$3,988 for 2003, 2002, and 2001, respectively
Federal tax equivalent adjustments on loans are $472, $456, and $653
for 2003, 2002, and 2001, respectively
27
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest rate risk is the exposure of earnings and capital to changes in
interest rates. Fluctuations in rates affect earnings by changing net interest
income and other interest-sensitive income and expense levels. Interest rate
changes affect the market value of capital by altering the underlying value of
assets, liabilities and off balance sheet instruments. The interest rate risk
management program for the Company is comprised of several components. The
components include (1) Board of Directors' oversight, (2) senior management
oversight, (3) risk limits and control, (4) risk identification and measurement,
(5) risk monitoring and reporting and (6) independent review. It is the
objective of the Company's interest rate risk management processes to manage the
impact of interest rate volatility on bank earnings and capital.
At the Company, interest rate risk is managed through the Corporate Asset and
Liability Committee ("Corporate ALCO") with oversight through the ALCO and
Finance Committee of the Board of Directors ("Board ALCO"). The Board ALCO meets
at least twice a quarter and is responsible for the establishment of policies,
risk limits and authorization levels. The Corporate ALCO meets at least monthly
and is responsible for implementing policies and procedures, overseeing the
entire interest rate risk management process and establishing internal controls.
Interest rate risk is measured and monitored on a proactive basis by utilizing a
simulation model. The Company uses the following key methodologies to measure
interest rate risk.
EARNINGS AT RISK ("EAR"). EAR is considered management's best source of managing
short-term interest rate risk (one year time frame). This measure reflects the
dollar amount of net interest income that will be impacted by changes in
interest rates. The Company uses a simulation model to run immediate and
parallel changes in interest rates from a "Base" scenario using implied forward
rates. The standard simulation analysis assesses the impact on net interest
income over a 12-month horizon by shocking the implied forward yield curve up
and down 100, 200, and 300 basis points. Additional yield curve scenarios are
tested from time to time to assess the risk to changes in the slope of the yield
curve and changes in basis relationships. These interest rate scenarios are
executed against a balance sheet utilizing projected growth and composition.
Additional simulations are run from time to time to assess the risk to earnings
and liquidity from balance sheet growth occurring faster or slower than
anticipated as well as the impact of faster or slower prepayments in the loan
and securities portfolio. This simulation model projects the net interest income
forecasted under each scenario and calculates the percentage change from the
"Base" interest rate scenario. The Board ALCO has approved policy limits for
changes in one year EAR from the "Base" interest rate scenario of minus 10
percent to a 200 basis point rate shock in either direction. At December 31,
2003, the Company would experience a negative 5.20% change in EAR, if interest
rates moved downward 200 basis points. If interest rates moved upward 200 basis
points, the Company would experience a negative 4.26% change in net interest
income. Both simulation results are within the policy limits established by the
Board ALCO. Two major changes factored into the variance in risk at +200 basis
points from December 2002 to December 2003. In 2003, a more conservative
approach was employed to measure the pricing behavior risk of money market
accounts in a rising rate environment. This had the effect of reducing the
calculated level of asset sensitivity. Though not restated, management believes
that the EAR benefit in a rising rate scenario was overstated at December 31,
2002. Also in 2003, $34.5 million in 8.25% fixed rate trust preferred securities
were retired and refinanced with lower coupon, floating rate trust preferred
securities. Prior to December 2002, the Company used the simulation model to
calculate these changes assuming that rates and balance sheet composition remain
unchanged. The changes in EAR using the unchanged rate and balance sheet
composition assumptions produced risk measures that were materially the same as
the risk measures produced by the current assumptions.
Estimated Change in EAR from the Flat Interest Rate Scenario
------------------------------------------------------------
-200 basis points +200 basis points
----------------- -----------------
December 31, 2003 -5.20% -4.26%
December 31, 2002 -7.96% 5.82%
ECONOMIC VALUE OF EQUITY ("EVE"). Management considers EVE to be its best
analytical tool for measuring long-term interest rate risk. This measure
reflects the dollar amount of net equity that will be impacted by changes in
interest rates. The Company uses a simulation model to evaluate the impact of
immediate and parallel changes in interest rates from a "Base" scenario using
implied forward rates. The standard simulation analysis assesses the impact on
EVE by shocking the implied forward yield curve up and down 100, 200, and 300
basis points. This simulation model projects the estimated economic value of
assets and liabilities under each scenario. The difference between the economic
value of total assets and the economic value of total liabilities is referred to
as the economic value of equity. The simulation model calculates the percentage
change from the "Base" interest rate scenario.
The Board ALCO has approved policy limits for changes in EVE. The variance limit
for EVE is measured in an environment when the "Base" interest rate scenario is
shocked up or down 200 basis points.
Effective January 31, 2003, the Board of Directors updated and approved a policy
that allows Corporate ALCO to manage EVE risk to a 200 basis point rate shock
within a range of plus or minus 15%. The discretionary limit prior to January
31, 2003 had been 20%.
28
At December 31, 2003, the Company would experience a positive 0.04% change in
EVE if interest rates moved downward 200 basis points. If interest rates moved
upward 200 basis points, the Company would experience a negative 12.77% change
in EVE. Both of these measures are within Board approved policy limits. Prior to
December 2002, the Company used the simulation model to calculate these changes
assuming that rates remain unchanged. For EVE calculations, future balance sheet
composition is not a factor. The changes in EVE using unchanged rates and
balance sheet composition assumptions produced risk measures that were
materially the same as the risk measures produced by the current assumptions.
Estimated Change in EVE from the Flat Interest Rate Scenario
------------------------------------------------------------
-200 basis points +200 basis points
----------------- -----------------
December 31, 2003 0.04% -12.77%
December 31, 2002 -2.69% -12.35%
The assumptions in any of these simulation runs are inherently uncertain. Any
simulation cannot precisely estimate net interest income or economic value of
the assets and liabilities or predict the impact of higher or lower interest
rates on net interest income or on the economic value of the assets and
liabilities. Actual results will differ from simulated results due to the
timing, magnitude and frequency of interest-rate changes, the difference between
actual experience and the characteristics assumed, as well as changes in market
conditions and management strategies.
29
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Shareholders of Integra Bank Corporation
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, comprehensive income, changes in
shareholders' equity and cash flows present fairly, in all material respects,
the financial position of Integra Bank Corporation ("Integra") and its
subsidiaries at December 31, 2003 and 2002, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 2003, in conformity with accounting principles generally accepted in the
United States of America. These financial statements are the responsibility of
Integra's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with auditing standards generally accepted in the
United States of America, which 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, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Columbus, Ohio
January 26, 2004
30
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Balance Sheets
(In Thousands, Except Share Data)
December 31,
2003 2002
----------- -----------
ASSETS
Cash and due from banks $ 66,285 $ 70,045
Federal funds sold and other short-term investments 8,658 488
----------- -----------
Total cash and cash equivalents 74,943 70,533
Loans held for sale (at lower of cost or fair value) 242 13,767
Securities available for sale 1,006,986 982,263
Loans, net of unearned income 1,699,688 1,606,155
Less: Allowance for loan losses (25,403) (24,632)
----------- -----------
Net loans 1,674,285 1,581,523
Premises and equipment 54,563 53,537
Goodwill 44,839 44,159
Other intangible assets 10,309 11,928
Other assets 92,127 100,028
----------- -----------
TOTAL ASSETS $ 2,958,294 $ 2,857,738
=========== ===========
LIABILITIES
Deposits:
Non-interest-bearing demand $ 219,983 $ 213,405
Interest-bearing:
Savings, interest checking and money market accounts 747,619 722,486
Time deposits of $100,000 or more 305,863 239,243
Other interest-bearing 539,165 606,814
----------- -----------
Total deposits 1,812,630 1,781,948
Short-term borrowings 253,978 90,975
Long-term borrowings 638,698 606,851
Guaranteed preferred beneficial interests
in the Corporation's subordinated debentures -- 52,500
Other liabilities 19,996 92,864
----------- -----------
TOTAL LIABILITIES 2,725,302 2,625,138
Commitments and contingent liabilities (Note 18) -- --
SHAREHOLDERS' EQUITY
Preferred stock - 1,000,000 shares authorized
None outstanding
Common stock - $1.00 stated value:
Shares authorized: 29,000,000
SSharesooutstanding: 17,310,782 and 17,291,368, respectively 17,311 17,291
Additional paid-in capital 125,789 125,467
Retained earnings 83,510 82,011
Unvested restricted stock (292) (147)
Accumulated other comprehensive income 6,674 7,978
----------- -----------
TOTAL SHAREHOLDERS' EQUITY 232,992 232,600
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 2,958,294 $ 2,857,738
=========== ===========
See Accompanying Notes to Consolidated Financial Statements.
31
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Statements of Income
(In Thousands)
Year Ended December 31,
------------------------------------
2003 2002 2001
---------- ---------- ----------
INTEREST INCOME
Interest and fees on loans:
Taxable $ 99,951 $ 110,042 $ 142,718
Tax-exempt 877 1,257 1,656
Interest and dividends on securities:
Taxable 33,084 40,152 47,670
Tax-exempt 8,692 10,291 10,427
Interest on loans held for sale 451 1,717 323
Interest on federal funds sold and other short-term investments 60 1,172 13,545
---------- ---------- ----------
Total interest income 143,115 164,631 216,339
INTEREST EXPENSE
Interest on deposits 29,995 44,404 81,432
Interest on short-term borrowings 2,613 2,043 6,381
Interest on long-term borrowings 38,265 44,339 46,446
---------- ---------- ----------
Total interest expense 70,873 90,786 134,259
NET INTEREST INCOME 72,242 73,845 82,080
Provision for loan losses 4,945 3,143 31,077
---------- ---------- ----------
Net interest income after provision for loan losses 67,297 70,702 51,003
---------- ---------- ----------
NON-INTEREST INCOME
Service charges on deposit accounts 11,628 11,135 9,301
Other service charges and fees 5,703 5,136 4,403
Mortgage servicing income 1,931 1,087 877
Investment services commissions 1,196 1,115 392
Trust income 2,035 2,041 2,273
Securities gains 3,052 9,098 8,212
Gain on mortgage loans sold 1,988 1,014 907
CSV life insurance income 1,788 1,925 1,606
Other 3,472 3,730 5,231
---------- ---------- ----------
Total non-interest income 32,793 36,281 33,202
NON-INTEREST EXPENSE
Salaries and employee benefits 42,347 38,825 38,215
Occupancy 5,909 5,586 4,994
Equipment 4,361 4,474 5,049
Professional fees 4,404 4,905 5,590
Communication and transportation 3,990 4,030 4,080
Processing 4,782 4,840 3,361
Marketing 1,774 1,789 2,115
Debt prepayment fees 1,243 5,938 --
Loans held for sale expense 1 2,677 --
Low income housing project losses 2,570 652 926
Amortization of intangible assets 1,619 1,622 5,299
Other 9,267 7,539 8,674
---------- ---------- ----------
Total non-interest expense 82,267 82,877 78,303
---------- ---------- ----------
Income before income taxes and cumulative effect of accounting change 17,823 24,106 5,902
Income taxes (benefit) 58 3,778 (1,629)
---------- ---------- ----------
Income before cumulative effect of accounting change 17,765 20,328 7,531
Cumulative effect of accounting change, net of tax -- -- (273)
---------- ---------- ----------
NET INCOME $ 17,765 $ 20,328 $ 7,258
========== ========== ==========
Consolidated Statements of Income are continued on the following page.
32
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Statements of Income (Continued)
(In Thousands, Except Share and Per Share Data)
Year Endeed December 31,
---------------------------------
2003 2002 2001
-------- -------- ---------
Earnings per share:
Basic:
Income before cumulative effect of accounting change $ 1.03 $ 1.18 $ 0.43
Cumulative effect of accounting change, net of tax -- -- (0.01)
-------- -------- ---------
Net Income $ 1.03 $ 1.18 $ 0.42
======== ======== =========
Diluted:
Income before cumulative effect of accounting change $ 1.03 $ 1.18 $ 0.43
Cumulative effect of accounting change, net of tax -- -- (0.01)
-------- -------- ---------
Net Income $ 1.03 $ 1.18 $ 0.42
======== ======== =========
Weighted average shares outstanding:
Basic 17,285 17,276 17,200
Diluted 17,300 17,283 17,221
See Accompanying Notes to Consolidated Financial Statements
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Statements of Comprehensive Income
(In Thousands)
Year Ended December 31,
--------------------------------
2003 2002 2001
-------- -------- --------
Net income $ 17,765 $ 20,328 $ 7,258
Other comprehensive income, net of tax:
Unrealized gain (loss) on securities:
Unrealized gain (loss) arising in period (37) 12,465 3,434
Reclassification of realized amounts (1,815) (5,411) (4,884)
-------- -------- --------
Net unrealized gain (loss) on securities (1,852) 7,054 (1,450)
Unrealized gain (loss) on hedged derivatives arising in period 548 110 (885)
-------- -------- --------
Net unrealized gain (loss), recognized in other comprehensive income (1,304) 7,164 (2,335)
-------- -------- --------
Comprehensive income $ 16,461 $ 27,492 $ 4,923
======== ======== ========
See Accompanying Notes to Consolidated Financial Statements.
33
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Statements of Changes In Shareholders' Equity
(In Thousands, Except Share and Per Share Data)
Accumulated
Shares of Additional Unvested Other Total
Common Common Paid-In Retained Restricted Comprehensive Shareholders'
Stock Stock Capital Earnings Stock Income Equity
---------- ------- --------- -------- --------- ------------- ------------
BALANCE AT DECEMBER 31, 2000 15,880,999 $ 15,881 $ 99,497 $ 86,990 $ -- $ 3,149 $ 205,517
Net income -- -- -- 7,258 -- -- 7,258
Cash dividend declared ($0.94 per share) -- -- -- (16,313) -- -- (16,313)
Repurchase of outstanding shares (175,500) (176) (4,130) -- -- -- (4,306)
Change, net of tax, in unrealized gain/loss on:
Securities -- -- -- -- -- (1,450) (1,450)
Interest rate swaps -- -- -- -- -- (885) (885)
Exercise of stock options 62,569 63 1,026 -- -- -- 1,089
Issuance of stock for acquisition 1,499,967 1,500 28,589 -- -- -- 30,089
Grant of restricted stock 16,000 16 352 -- (368) -- --
Unearned compensation amortization -- -- -- -- 98 -- 98
----------- -------- --------- -------- --------- ----------- -----------
BALANCE AT DECEMBER 31, 2001 17,284,035 17,284 125,334 77,935 (270) 814 221,097
----------- -------- --------- -------- --------- ----------- -----------
Net income -- -- -- 20,328 -- -- 20,328
Cash dividend declared ($0.94 per share) -- -- -- (16,252) -- -- (16,252)
Change, net of tax, in unrealized gain/loss on:
Securities -- -- -- -- -- 7,054 7,054
Interest rate swaps -- -- -- -- -- 110 110
Exercise of stock options 7,333 7 133 -- -- -- 140
Unearned compensation amortization -- -- -- -- 123 -- 123
----------- -------- --------- -------- ---------- ----------- -----------
BALANCE AT DECEMBER 31, 2002 17,291,368 17,291 125,467 82,011 (147) 7,978 232,600
=========== ========= ========= ======== ========= =========== ===========
Net income -- -- -- 17,765 -- -- 17,765
Cash dividend declared ($0.94 per share) -- -- -- (16,266) -- -- (16,266)
Change, net of tax, in unrealized gain/loss on:
Securities -- -- -- -- -- (1,852) (1,852)
Interest rate swaps -- -- -- -- -- 548 548
Exercise of stock options 1,000 1 19 -- -- -- 20
Grant of restricted stock 18,414 19 303 -- (322) -- --
Unearned compensation amortization -- -- -- -- 177 -- 177
----------- -------- --------- -------- ---------- ----------- -----------
BALANCE AT DECEMBER 31, 2003 17,310,782 $ 17,311 $ 125,789 $ 83,510 $ (292) $ 6,674 $ 232,992
=========== ========= ========= ======== ========= =========== ===========
See Accompanying Notes to Consolidated Financial Statements.
34
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Statements of Cash Flows
(In Thousands)
Year Ended December 31,
---------------------------------------
2003 2002 2001
--------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 17,765 $ 20,328 $ 7,258
Adjustments to reconcile net income to
net cash provided by operating activities:
Federal Home Loan Bank stock dividends (93) (186) (272)
Amortization and depreciation 12,300 15,258 15,476
Amortization of unearned compensation 177 123 98
Provision for loan losses 4,945 3,143 31,077
Net securities gains (3,052) (9,098) (8,212)
(Gain) loss on sale of premises and equipment 24 (156) 48
(Gain) loss on sale of other real estate owned (117) (65) 158
Loss on low-income housing investments 286 653 927
Increase (decrease) in deferred taxes 3,724 (9,081) 10,057
Net gain on sale of loans held for sale (1,988) (1,014) (907)
Proceeds from sale of loans held for sale 189,664 173,068 88,829
Origination of loans held for sale (174,151) (151,681) (89,568)
Debt prepayment fees 1,243 5,938 --
(Increase) decrease in other assets 2,824 (3,230) (29,322)
Increase (decrease) in other liabilities (73,403) 71,670 (19,998)
--------- ----------- -----------
Net cash flows provided by (used in) operating activities (19,852) 115,670 5,649
--------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities of securities available for sale 419,893 405,015 1,020,133
Proceeds from sales of securities available for sale 328,278 988,234 1,170,692
Purchase of securities available for sale (777,119) (1,351,661) (2,103,148)
(Increase) decrease in loans made to customers (98,150) 13,269 156,405
Purchase of premises and equipment (6,568) (4,118) (3,498)
Proceeds from sale of premises and equipment 1,513 437 275
Proceeds from sale of other real estate owned 1,424 2,661 1,818
Net cash and cash equivalents from acquisition -- -- 25,115
--------- ----------- -----------
Net cash flows provided by (used in) investing activities (130,729) 53,837 267,792
--------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in deposits 30,682 (146,464) (190,576)
Termination fee on interest rate swap -- (1,904) --
Net increase (decrease) in short-term borrowed funds 159,302 (1,155) (335,088)
Proceeds from long-term borrowings 10,000 -- 244,979
Repayment of long-term borrowings (29,820) (115,437) (47,560)
Proceeds from trust preferred securities 35,568 -- 18,000
Repayment of trust preferred securities (34,500) -- --
Dividends paid (16,261) (16,250) (16,146)
Repurchase of common stock -- -- (4,306)
Proceeds from exercise of stock options 20 140 1,089
--------- ----------- -----------
Net cash flows provided by (used in) financing activities 154,991 (281,070) (329,608)
--------- ----------- -----------
Net increase (decrease) in cash and cash equivalents 4,410 (111,563) (56,167)
--------- ----------- -----------
Cash and cash equivalents at beginning of year 70,533 182,096 238,263
--------- ----------- -----------
Cash and cash equivalents at end of year $ 74,943 $ 70,533 $ 182,096
========= =========== ===========
Consolidated Statements of Cash Flows are continued on the following page.
35
INTEGRA BANK CORPORATION and Subsidiaries
Consolidated Statements of Cash Flows (Continued)
(In Thousands)
Year Ended December 31,
---------------------------------
2003 2002 2001
-------- -------- ---------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year:
Interest $ 72,484 $ 96,482 $ 135,309
Income taxes (3,340) 37 7,228
SUPPLEMENTAL DISCLOSURE OF NONCASH TRANSACTIONS
Change in allowance for unrealized (gain)/loss on securities available for sale $ (3,113) $ 11,861 $ (2,438)
Change in deferred taxes attributable to securities available for sale (1,261) 4,807 (988)
Change in fair value of derivative hedging instruments (2,283) (1,488) --
Other real estate acquired in settlement of loans 443 2,360 3,703
Loans transferred from held for sale to loan portfolio -- 23,985 --
Purchase of subsidiaries:
---------
Assets acquired:
Securities $ 99,991
Loans 159,948
Premises and equipment 5,814
Other assets 11,641
Liabilities assumed:
Deposits (247,953)
Short-term borrowings (10,776)
Other borrowings (11,134)
Other liabilities (2,557)
Shareholders' Equity (30,089)
---------
Net cash and cash equivalents from acquisitions $ 25,115
=========
See Accompanying Notes to Consolidated Financial Statements.
36
INTEGRA BANK CORPORATION and Subsidiaries
Notes to Consolidated Financial Statements
(In Thousands, Except Share and Per Share Data)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
Integra Bank Corporation (the "Company") is a bank holding company that is based
in Evansville, Indiana. The Company's principal subsidiary is Integra Bank N.A.,
a national banking association ("Integra Bank" or "Bank"). The Company owns
Integra Reinsurance Company, Ltd. which was formed under the laws of the Turks
and Caicos Islands and the state of Arizona. The Company merged a real estate
holding subsidiary, Twenty-One South East Corporation, into the Company in May
2003. The Company also has a controlling interest in Integra Capital Trust II
and Integra Capital Statutory Trust III, its trust securities affiliates. In
June 2003 the Company dissolved Integra Capital Trust I, when the trust
securities were called and issued new securities through the new affiliate,
Integra Capital Statutory Trust III. At December 31, 2003, the Company had total
consolidated assets of $3.0 billion. The Company provides services and
assistance to its wholly owned subsidiaries and Integra Bank's subsidiaries in
the areas of strategic planning, administration, and general corporate
activities. In return, the Company receives income and/or dividends from Integra
Bank, where most of the Company's activities take place.
Integra Bank provides a wide range of financial services to the communities it
serves in Indiana, Kentucky, Illinois and Ohio. These services include various
types of personal and commercial banking services and products, investment and
trust services and selected insurance services. Specifically, these products and
services include commercial, consumer and mortgage loans, lines of credit,
credit cards, transaction accounts, time deposits, repurchase agreements,
letters of credit, corporate cash management services, correspondent banking
services, mortgage servicing, brokerage and annuity products and services,
credit life and other selected insurance products, securities safekeeping, safe
deposit boxes and complete personal and corporate trust services. Integra Bank
also has a 29 percent ownership interest in Total Title Services, LLC, a
provider of residential title insurance, which is accounted for under the equity
method of accounting as an unconsolidated subsidiary.
Integra Bank's products and services are delivered through its customers'
channel of preference. At December 31, 2003, Integra Bank served its customers
through 72 banking centers, 134 automatic teller machines ("ATMs") and three
loan production offices ("LPOs"). Integra Bank also serves its customers through
its telephone banking and offers a suite of Internet-based products and services
that can be found at www.integrabank.com.
Integra Bank's wholly owned subsidiary, IBNK Leasing Corp. holds leases
originated in years prior to 2000. Since 2000, Integra Bank has not originated
leases through this subsidiary.
Integra Reinsurance Company, Ltd. is an insurance company formed in June 2002
under the laws of the Turks and Caicos Islands as an exempted company for twenty
years under the companies Ordinance 1981. It operates as an alien corporation in
the state of Arizona and as such is subject to the rules and regulations of the
National Association of Insurance Companies ("NAIC"). The company sells only
American United Life Insurance Company's ("AUL") credit life and disability
policies and operates within the Bank's banking center system. Integra
Reinsurance Company began operation in May 2003.
The consolidated financial statements of the Company have been prepared in
conformity with accounting principles generally accepted in the United States
and conform to predominate practice within the banking industry. The following
is a description of the Company's significant accounting policies.
BASIS OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts of
Integra Bank Corporation and its certain subsidiaries. At December 31, 2003, the
Company's subsidiaries included in the consolidated financial statements
consisted of a commercial bank, Integra Bank, and a reinsurance company. In May
2003, the Company merged its property management company into the parent company
and also formed a reinsurance company. In January 2003, the FASB issued
Interpretation ("FIN") No. 46, Consolidation of Variable Interest Entities
("VIEs"). FIN 46 provides that business enterprises that represent the primary
beneficiary of another entity by retaining a controlling financial interest in
that entity's assets, liabilities, and results of operating activities must
consolidate the entity in their financial statements. Prior to the issuance of
FIN 46, consolidation generally occurred when an enterprise controlled another
entity through voting interest. Certain VIEs that are qualifying special purpose
entities subject to the reporting requirements of SFAS No. 140, Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities,
will not be required to be consolidated under the provisions of FIN 46. The
consolidation provisions of FIN 46 apply to VIEs created or entered into after
January 31, 2003, and for pre-existing VIEs of the Company beginning July 1,
2003. SFAS No. 150, Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity, was issued in May 2003. This
Statement establishes
37
guidance for how an issuer classifies and measures certain financial instruments
with characteristics of both liabilities and equity. As of July 1, 2003 the
Company adopted FIN 46 and SFAS 150 for Integra Statutory Capital Trust III, by
deconsolidating the statutory business trust it created in June, 2003 to issue
additional trust preferred securities that were used to redeem an earlier issue
of trust preferred securities. As of December 31, 2003, the Company
deconsolidated Integra Capital Trust II in accordance with FIN 46. Earlier
periods will have the statutory business trust that issued the trust preferred
securities redeemed included in the consolidated financial statements.
All significant intercompany transactions and balances have been eliminated. The
Company and its subsidiaries utilize the accrual basis of accounting. Certain
prior period amounts have been reclassified to conform to the 2003 financial
reporting presentation.
In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the amounts reported in the
consolidated financial statements. Significant estimates which are particularly
susceptible to short-term changes include valuation of the securities portfolio,
the determination of the allowance for loan losses and valuation of real estate
and other properties acquired in connection with foreclosures or in satisfaction
of amounts due from borrowers on loans. Actual results could differ from those
estimates.
CASH FLOWS
Cash and cash equivalents include cash on hand, amounts due from banks,
commercial paper and federal funds sold which are readily convertible to known
amounts of cash. Interest-bearing deposits in banks, regardless of maturity, are
considered short-term investments.
TRUST ASSETS
Property held for customers in fiduciary or agency capacities, other than trust
cash on deposit at Integra Bank, is not included in the accompanying
consolidated financial statements since such items are not assets of the
Company.
SECURITIES
Securities classified as trading are those debt and equity securities that the
Company bought and principally held for the purpose of selling them in the near
future. Gains and losses on sales and fair-value adjustments are included as a
component of net income.
Securities classified as held to maturity are those securities the Company has
both the intent and ability to hold to maturity regardless of changes in market
conditions, liquidity needs or changes in general economic conditions. These
securities are carried at cost adjusted for amortization of premium and
accretion of discount, computed by the interest method over their contractual
lives.
Securities classified as available for sale are those debt and equity securities
that the Company intends to hold for an indefinite period of time, but not
necessarily to maturity. Any decision to sell a security classified as available
for sale would be based on various factors, including significant movements in
interest rates, changes in the maturity mix of assets and liabilities, liquidity
needs, regulatory capital considerations, and other similar factors. Securities
available for sale are carried at market value. Unrealized gains or losses are
reported as increases or decreases in shareholders' equity, net of the related
deferred tax effect. Realized gains or losses, determined on the basis of the
cost of specific securities sold, are included as a component of net income.
Security transactions are accounted for on a trade date basis.
LOAN SALES
When the Company sells loans through either securitizations or individual loan
sales, it may retain one or more subordinated tranches, servicing rights and in
some cases a cash reserve account, all of which are retained interests in the
securitized or sold loans. Gain or loss on sale of the loans depends in part on
the previous carrying amount of the financial assets involved in the sale,
allocated between the assets sold and the retained interests based on their
relative market value at the date of sale. To obtain market values, quoted
market prices are used if available. If quotes are not available for retained
interests, the Company calculates market value based on the present value of
future expected cash flows using management's best estimates of the key
assumptions - credit losses, prepayments speeds, forward yield curves and
discount rates commensurate with the risks involved.
Servicing rights resulting from loan sales are amortized in proportion to, and
over the period of estimated net servicing revenues. Servicing rights are
assessed for impairment on an ongoing basis, based on market value, with any
impairment recognized through a valuation allowance. For purposes of measuring
impairment, the rights are stratified based on interest rate and original
maturity. Fees received for servicing mortgage loans owned by investors are
based on a percentage of the outstanding monthly principal balance of such loans
and are included in income as loan payments are received. Costs of servicing
loans are charged to expense as incurred. At December 31, 2003 and 2002, the
Company had mortgage servicing rights assets of $2,744 and $1,440, respectively.
38
LOANS
Loans are stated at the principal amount outstanding, net of unearned income.
Loans held for sale are valued at the lower of aggregate cost or fair value.
Interest income on loans is based on the principal balance outstanding, with the
exception of interest on discount basis loans, computed using a method, which
approximates the effective interest rate. Loan origination fees, certain direct
costs and unearned discounts are amortized as an adjustment to the yield over
the term of the loan. Management endeavors to recognize as quickly as possible
situations where the borrower's repayment ability has become impaired or the
collectability of interest is doubtful or involves more than the normal degree
of risk. Generally, a loan is placed on non-accrual status upon becoming 90 days
past due as to interest or principal (unless both well-secured and in the
process of collection), when the full timely collection of interest or principal
becomes uncertain or when a portion of the principal balance has been
charged-off. Real estate 1 - 4 family loans (both first and junior liens) are
placed on nonaccrual status within 120 days of becoming past due as to interest
or principal, regardless of security. The Company adheres to the standards for
classification and treatment of open and closed-end credit extended to
individuals for household, family and other personal expenditures, and includes
consumer loans and credit cards, that are established by the Uniform Retail
Classification and Account Management Policy (OCC Bulletin 2000-20). At the time
a loan is placed in nonaccrual status, all unpaid accrued interest and deferred
loan fees will be reversed. When doubt exists as to the collectability of the
remaining book balance of a loan placed in nonaccrual status, any payments
received will be applied to reduce principal to the extent necessary to
eliminate such doubt. Nonaccrual loans are returned to accrual status when, in
the opinion of management, the financial position of the borrower indicates
there is no longer any reasonable doubt as to the timely collectability of
interest and principal. Past due loans are loans that are contractually past due
as to interest or principal payments.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is that amount which, in management's opinion, is
adequate to absorb probable loan losses as determined by management's ongoing
evaluation of the loan portfolio. The evaluation by management is based upon
consideration of various factors including growth of the portfolio, an analysis
of individual credits, adverse situations that could affect a borrower's ability
to repay, prior and current loss experience, the results of recent regulatory
examinations and economic conditions. Loans that are deemed to be uncollectible
are charged to the allowance, while recoveries of previously charged-off amounts
are credited to the allowance. A provision for loan losses is charged to
operations based upon management's ongoing evaluation of the factors previously
mentioned as well as any other pertinent factors.
The adequacy of the allowance for loan losses is based on ongoing quarterly
assessments of the probable losses inherent in the loan portfolio. The Company's
methodology for assessing the appropriate reserve level consists of several key
elements.
A review of selected loans (based on loan type and size) is conducted to
identify loans with heightened risk or inherent losses. The primary
responsibility for this review rests with those members of management assigned
accountability for the credit relationship. This review is supplemented with
reviews by Integra Bank's credit review function and regulatory agencies. These
reviews provide information which assists in the timely identification of
problems and potential problems and in deciding whether the credit represents a
probable loss or risk which should be recognized. Where appropriate, an
allocation is made to the allowance for individual loans based on management's
estimate of the borrower's ability to repay the loan given the availability of
collateral, other sources of cash flow and legal options available to the
Company.
Included in the review of individual loans are those that are impaired as
provided in Statement of Financial Accounting Standards ("SFAS") No. 114,
Accounting by Creditors for Impairment of a Loan. Loans are considered impaired
when, based on current information and events, management considers it probable
the Company will not be able to collect all amounts that are due based on
contractual terms. The allowance established for impaired loans is determined
based on the market value of the investment measured using either the present
value of expected cash flows based on the initial effective interest rate on the
loan or the market value of the collateral if the loan is collateral dependent.
Historical loss ratios are applied to other homogeneous pools of loans, such as
consumer installment and residential real estate loans not subject to specific
allowance allocations. In addition, the allowance reflects other risks affecting
the loan portfolio, such as economic conditions in the bank's geographic areas,
specific industry financial conditions and other factors.
The unallocated portion of the allowance is determined based on management's
assessment of economic conditions and specific economic factors in the
individual markets in which the Company operates.
OTHER REAL ESTATE OWNED
Properties acquired through foreclosure and unused bank premises are initially
recorded at market value, reduced by estimated selling costs and are accounted
for at lower of cost or fair value. The market values of other real estate are
typically determined based on
39
appraisals by independent third parties. Write-downs of the related loans at or
prior to the date of foreclosure are charged to the allowance for losses on
loans. Subsequent write-downs, income and expense incurred in connection with
holding such assets, and gains and losses realized from the sales of such
assets, are included in non-interest income and expense. At December 31, 2003
and 2002, net other real estate owned was $1,341 and $2,286, respectively.
PREMISES AND EQUIPMENT
Premises and equipment, including leasehold improvements, are stated at cost
less accumulated depreciation and amortization. Depreciation is calculated using
the straight-line method based on estimated useful lives of up to thirty-one and
one-half years for premises and five to ten years for furniture and equipment.
Costs of major additions and improvements are capitalized. Maintenance and
repairs are charged to operating expenses as incurred.
INTANGIBLE ASSETS
Costs in excess of market value of net assets acquired consist primarily of
goodwill and core deposit intangibles. Management evaluates the carrying value
of intangibles based upon facts and circumstances surrounding the associated
assets. In the event that facts and circumstances indicate that the carrying
value of intangibles may be impaired, an evaluation of recoverability would be
performed.
On January 1, 2002, the Company adopted SFAS No. 142, Goodwill and Other
Intangible Assets. This standard changed how intangible assets that are acquired
individually or with a group of other assets (but not those acquired in a
business combination) should be accounted for in the financial statements upon
their acquisition and also provides guidance on the accounting for intangible
assets subsequent to the acquisition in a business combination.
SFAS No. 142 adopts a view of goodwill that bases the accounting for goodwill on
the reporting units of the combined entity into which the acquired entity is
integrated. The standard requires goodwill and other intangible assets that have
indefinite lives to be tested at least annually for impairment rather than being
amortized. Intangible assets that have finite useful lives continue to be
amortized over their useful lives, but without the constraint of an arbitrary
ceiling. SFAS No. 142 provides specific guidance for testing goodwill for
impairment and provides specific guidance on testing intangible assets that will
not be amortized for impairment and thus removes those assets from the scope of
other impairment guidance.
Upon adoption of SFAS No. 142, the Company assessed both its goodwill and other
intangible assets and determined that there was no impairment. Consequently,
other intangible assets continued to be amortized in accordance with their
previously established lives.
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase are generally treated as
collateralized financing transactions and are recorded at the amounts at which
the securities were sold plus accrued interest. Securities, generally U.S.
government and federal agency securities, pledged as collateral under these
financing arrangements cannot be sold or repledged by the secured party. The
market value of collateral provided to a third party is continually monitored
and additional collateral provided, obtained or requested to be returned to the
Company as deemed appropriate.
MORTGAGE SERVICING RIGHTS
Mortgage servicing rights ("MSRs") represent an estimate of the present value of
future cash servicing income, net of estimated costs, the Company expects to
receive on loans sold with servicing retained. MSRs are capitalized as separate
assets when loans are sold and servicing is retained. The carrying value of MSRs
is amortized in proportion to and over the period of, net servicing income and
this amortization is recorded as a reduction to income.
The carrying value of the MSRs asset is periodically reviewed for impairment
based on the fair value of the MSRs, using groupings of the underlying loans by
interest rates and by geography and prepayment characteristics. Any impairment
of a grouping would need to be reported as a valuation allowance. A primary
factor influencing the fair value is the estimated life of the underlying loans
serviced. The estimated life of the loans serviced is significantly influenced
by market interest rates. During a period of declining interest rates, the fair
value of the MSRs should decline due to expected prepayments within the
portfolio. Alternatively, during a period of rising interest rates the fair
value of MSRs should increase as prepayments on the underlying loans would be
expected to decline. On an ongoing basis, management considers all relevant
factors to estimate the fair value of the MSRs to be recorded when the loans are
initially sold with servicing retained.
40
DERIVATIVE FINANCIAL INSTRUMENTS
The Company maintains an overall interest rate risk management strategy that
incorporates the use of derivative instruments to minimize significant unplanned
fluctuations in earnings and cash flows caused by interest rate volatility. The
Company's interest rate risk management strategy involves modifying the
repricing characteristics of certain assets and liabilities so that changes in
interest rates do not adversely affect the net interest margin and cash flows.
Derivative instruments that the Company may use as part of its interest rate
risk management strategy include interest rate swaps, interest rate floors,
forward contracts and both futures contracts and options on futures contracts.
Interest rate swap contracts are exchanges of interest payments, such as
fixed-rate payments for floating-rate payments, based on a common notional
amount and maturity date. Forward contracts are contracts in which the buyer
agrees to purchase and the seller agrees to make delivery of a specific
financial instrument at a predetermined price or yield. Futures contracts
represent the obligation to buy or sell a predetermined amount of debt subject
to the contract's specific delivery requirements at a predetermined date and a
predetermined price. Options on futures contracts represent the right but not
the obligation to buy or sell. Freestanding derivatives also include derivative
transactions entered into for risk management purposes that do not otherwise
qualify for hedge accounting.
Effective January, 2001, the Company adopted SFAS No. 133, Accounting for
Derivative Instruments and Hedging Activities, as amended, which establishes
accounting and reporting standards for derivative instruments and hedging
activities and requires recognition of all derivatives as either assets or
liabilities in the statement of financial condition and measurement of those
instruments at fair value. On the date the Company enters into a derivative
contract, the Company designates the derivative instrument as either a fair
value hedge, cash flow hedge or as a freestanding derivative instrument. For a
market value hedge, changes in the market value of the derivative instrument and
changes in the market value of the hedged asset or liability or of an
unrecognized firm commitment attributable to the hedged risk are recorded in
current period net income. For a cash flow hedge, changes in the market value of
the derivative instrument, to the extent that it is effective, are recorded as a
component of accumulated other comprehensive income within shareholders' equity
and subsequently reclassified to net income in the same period that the hedged
transaction impacts net income. For freestanding derivative instruments, changes
in the market values are reported in current period net income.
Prior to entering a hedge transaction, the Company formally documents the
relationship between hedging instruments and hedged items, as well as the risk
management objective and strategy for undertaking various hedge transactions.
This process includes linking all derivative instruments that are designated as
fair value or cash flow hedges to specific assets and liabilities on the balance
sheet or to specific forecasted transactions along with a formal assessment at
both inception of the hedge and on an ongoing basis as to the effectiveness of
the derivative instrument in offsetting changes in market values or cash flows
of the hedged item. The Company considers hedge instruments with a correlation
from 80% to 120% to be sufficiently effective to qualify as a hedge instrument.
If it is determined that the derivative instrument is no longer highly effective
as a hedge or if the hedge instrument is terminated, hedge accounting is
discontinued and the adjustment to market value of the derivative instrument is
recorded in net income.
Upon adoption of this statement on January 1, 2001, the Company recorded a
cumulative effect of change in accounting principle of $273, net of tax.
Cash Flow Hedges - The Company had previously entered into interest rate swaps
to convert floating-rate liabilities to fixed rates. The liabilities are
typically grouped and share the same risk exposure for which they are being
hedged. Gains and losses on derivative contracts that are reclassified from
accumulated other comprehensive income to current period earnings are included
in the line item in which the hedged item's effect in earnings is recorded.
During 2001, the Company entered into interest rate swap agreements totaling
$75,000 notional amount to convert a portion of its liabilities from variable
rate to fixed rate to assist in managing its interest rate sensitivity. The
Company terminated these agreements in 2002. The loss due to termination of
$1,121, net of tax, was recorded as a component of accumulated other
comprehensive income and is being amortized into earnings over the remaining
term of the agreements.
Free-Standing Derivative Instruments - Derivative transactions that do not
qualify for hedge accounting treatment under FAS 133 would be considered
free-standing derivative instruments. Gains of losses from these instruments
would be marked-to-market on a monthly basis and the impact recorded in net
income. It is the Company's policy not to enter into freestanding derivative
instruments without prior approval from the ALCO and Finance Committee of the
Board of Directors.
INCOME TAXES
The Company and its subsidiaries file a consolidated federal income tax return
with each organization computing its taxes on a separate company basis. The
provision for income taxes is based on income as reported in the financial
statements. Deferred income tax assets and liabilities are computed annually for
differences between the financial statement and tax basis of assets and
liabilities that will result in taxable or deductible amounts in the future. The
deferred tax assets and liabilities are computed based on enacted tax laws and
rates applicable to the periods in which the differences are expected to affect
taxable income. Valuation allowances are
41
established when necessary to reduce deferred tax assets to an amount expected
to be realized. Income tax expense is the tax payable or refundable for the
period plus or minus the change during the period in deferred tax assets and
liabilities. Investment tax credits are recorded as a reduction to tax provision
in the period for which the credits may be utilized.
STOCK-BASED COMPENSATION
Stock options are accounted for using the intrinsic value method following
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees and related interpretations. In December 2002, the FASB issued SFAS
No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure, an
amendment of SFAS No. 123. SFAS 148 provides alternative methods of transition
for a change to the market value based method of accounting for stock-based
employee compensation. SFAS 148 is effective for fiscal years ended after
December 15, 2002. Had compensation costs been determined based on the grant
date market values of awards (the method described in SFAS No. 123, Accounting
for Stock-Based Compensation), reported net income and earnings per common share
would have been reduced to the proforma amounts shown below.
For the Year Ended December 31, 2003 2002 2001
-------- -------- -------
Net income:
As reported $ 17,765 $ 20,328 $ 7,258
Proforma 16,966 19,699 6,148
Earings per share:
Basic
As reported $ 1.03 $ 1.18 $ 0.42
Proforma 0.98 1.14 0.36
Diluted
As reported $ 1.03 $ 1.18 $ 0.42
Proforma 0.98 1.14 0.36
RECENT ACCOUNTING PRONOUNCEMENTS
In November 2002, the FASB issued Interpretation No. 45, Guarantor's Accounting
and Disclosure Requirements for Guarantees, including Indirect Guarantees of
Indebtedness of Others, An Interpretation of FASB Statements No. 5, 57 and 107
and Rescission of FASB interpretation No. 34, to clarify accounting and
disclosure requirements relating to a guarantor's issuance of certain types of
guarantees. FIN 45 requires entities to disclose additional information about
guarantees, or groups of similar guarantees, even if the likelihood of the
guarantor's having to make any payments under the guarantee is remote. The
disclosure provisions are effective for financial statements for fiscal years
ended after December 15, 2002. For certain guarantees, FIN 45 requires that
guarantors recognize a liability equal to the market value of the guarantee upon
issuance. This initial recognition and measurement provision is to be applied
only on a prospective basis to guarantees issued after December 31, 2002.
Initial adoption did not have a material effect on the Company's consolidated
results of operations, financial position or cash flows. See Notes 18 for
further discussion.
In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities. FIN 46 provides that business enterprises that
represent the primary beneficiary of another entity by retaining a controlling
financial interest in that entity's assets, liabilities, and results of
operating activities must consolidate the entity in their financial statements.
Prior to the issuance of FIN 46, consolidation generally occurred when an
enterprise controlled another entity through voting interest. Certain VIEs that
are qualifying special purpose entities subject to the reporting requirements of
SFAS 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities, will not be required to be consolidated under the
provisions of FIN 46. The consolidation provisions of FIN 46 apply to VIEs
created or entered into after January 31, 2003, and for pre-existing VIEs in the
first reporting period beginning after September 15, 2003. The Company adopted
FIN 46 for entities formed after February 28, 2003 in the third quarter of 2003
and fully adopted as of December 31, 2003. As a result the trust preferred
securities are recorded in the Company's balance sheet at December 31, 2003 as
debt securities. Prior to adoption of FIN 46 these entities were consolidated
under Accounting Research Bulletin 51 ("ARB 51") as amended by Financial
Accounting Standards 94 ("FAS 94") which requires all investments in which a
parent company has controlling interest to be consolidated.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, which amends and clarifies
financial accounting and reporting for derivative instruments and hedging
activities under SFAS No. 133, as well as amends certain existing FASB
pronouncements. In general, SFAS 149 is effective for derivative transactions
entered into or modified and for hedging relationships designated after June 30,
2003. The adoption of this standard did not have a material effect on the
Company's consolidated results of operations, financial position or cash flows.
42
In May 2003, FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. This Statement
establishes standards for classifying and measuring certain financial
instruments that embody obligations of the issuer and have characteristics of
both liabilities and equity. The provisions of SFAS 150 became effective June 1,
2003, for all financial instruments created or modified after May 31, 2003, and
otherwise became effective as of July 1, 2003. The adoption of this standard did
not have a material effect on the Company's consolidated results of operations,
financial position or cash flows.
In December 2003, the FASB deferred for an indefinite period the application of
the guidance in SFAS 150 to noncontrolling interest that are classified as
equity in the financial statements of a subsidiary but would be classified as a
liability in the parent's financial statements under SFAS 150. The deferral is
limited to mandatorily redeemable noncontrolling interests associated with
finite-lived subsidiaries. Management does not believe any such applicable
entities exist as of December 31, 2003, but will continue to evaluate the
applicability of this deferral to entities which may be consolidated as a result
of FIN 46 discussed above.
In December 2003, the FASB issued a revision of FIN 46 ("FIN 46(R)") which
replaced the Interpretation issued in January 2003. The revised Interpretation
clarifies some of the provisions of FIN 46 and provides additional exemptions
for certain entities. The provisions of FIN 46(R) are required to be adopted for
periods ending after March 15, 2004. The Company does not expect the adoption of
FIN 46(R) to have a material impact on the Company's financial condition,
results of operations or cash flows.
In December 2003, AcSEC issued Statement of Position ("SOP") 03-3, Accounting
for Certain Loans or Debt Securities Acquired in a Transfer. The SOP is
effective for loans acquired in fiscal years beginning after December 15, 2004,
with earlier application encouraged. A certain transition provision applies for
certain aspects of loans currently within the scope of Practice Bulletin 6,
Amortization of Discounts on Certain Acquired Loans. The SOP addresses
accounting for differences between contractual cash flows and cash flows
expected to be collected from an investor's initial investment in loans or debt
securities (loans) acquired in a transfer if those differences are attributable,
at least in part, to credit quality. Loans acquired in business combinations are
included in the scope of the SOP. The SOP does not apply to loans originated by
the entity. The Company has not yet adopted the provisions of the SOP and does
not expect them to have a material impact on the Company's financial condition,
results of operations or cash flows.
NOTE 2. EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income for the year by the
weighted average number of shares outstanding. Diluted earnings per share is
computed as above, adjusted for the dilutive effects of stock options and
restricted stock. Weighted average shares of common stock have been increased
for the assumed exercise of stock options with proceeds used to purchase
treasury stock at the average market price for the period.
The following provides a reconciliation of basic and diluted earnings per share:
For the Year Ended December 31, 2003 2002 2001
-------- -------- --------
Net income $ 17,765 $ 20,328 $ 7,258
Weighted average shares outstanding - Basic 17,285 17,276 17,200
Stock option adjustment 10 7 20
Restricted stock adjustment 5 -- 1
-------- -------- --------
Average shares outstanding - Diluted 17,300 17,283 17,221
======== ======== ========
Earnings per share-Basic $ 1.03 $ 1.18 $ 0.42
Effect of stock options -- -- --
-------- -------- --------
Earnings per share - Diluted $ 1.03 $ 1.18 $ 0.42
======== ======== ========
Options to purchase 1,095 shares, 667 shares and 559 shares were outstanding at
December 31, 2003, 2002 and 2001, respectively, were not included in the
computation of net income per diluted share because the exercise price of these
options was greater than the average market price of the common shares, and
therefore, the effect would be antidilutive.
43
NOTE 3. SECURITIES
On December 31, 2003 and 2002, the Company had no held to maturity securities.
Amortized cost and market value of securities classified as available for sale
are as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- --------- -----------
December 31, 2003:
U.S. Government agencies $ 40,773 $ 206 $ 2 $ 40,977
Mortgage-backed securities 282,377 3,934 314 285,997
Collateralized Mortgage Obligations 465,682 1,354 2,474 464,562
States & political subdivisions 111,147 6,242 311 117,078
Federal Home Loan Bank
and Federal Reserve stock 32,875 -- -- 32,875
Other securities 62,527 3,395 425 65,497
--------- ---------- --------- -----------
Total $ 995,381 $ 15,131 $ 3,526 $ 1,006,986
========= ========== ========= ===========
December 31, 2002:
U.S. Government agencies $ 15,422 $ 15 $ -- $ 15,437
Mortgage-backed securities 362,452 7,001 48 369,405
Collateralized Mortgage Obligations 330,073 31 -- 330,104
States & political subdivisions 141,097 6,638 521 147,214
Federal Home Loan Bank
and Federal Reserve stock 32,763 -- -- 32,763
Other securities 85,738 3,002 1,400 87,340
--------- ---------- --------- -----------
Total $ 967,545 $ 16,687 $ 1,969 $ 982,263
========= ========== ========= ===========
The amortized cost and fair value of the securities as of December 31, 2003, by
contractual maturity, except for mortgage-backed securities and collateralized
mortgage obligations which are based on estimated average lives, are shown
below. Expected maturities may differ from contractual maturities in
mortgage-backed securities, because certain mortgages may be called or prepaid
without penalties.
Maturity of securities available for sale:
Maturity 1 - 5 Years 5 - 10 Years Over 10 Years
Under 1 Year Maturity Maturity Maturity Total
--------------- ----------------- ---------------- ----------------- -------------------
Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield
------- ------- ---------- ------ -------- ------ --------- ------ ---------- ------
U. S. Government agencies $ -- --% $ 40,574 3.37% $ 199 4.09% $ -- --% $ 40,773 3.37%
Mortgage-backed securities -- --% 215,548 4.56% 64,859 4.53% 1,970 3.91% 282,377 4.55%
Collateralized Mortgage
Obligations -- -- 371,881 3.81% 93,801 4.69% -- --% 465,682 3.99%
States & subdivisions 9,554 6.06% 21,715 6.91% 32,802 7.03% 47,076 7.43% 111,147 7.09%
Federal Home Loan Bank
and Federal Reserve stock -- --% -- --% -- --% 32,875 5.08% 32,875 5.08%
Other securities -- --% -- --% -- --% 62,527 7.02% 62,527 7.02%
------- ------- ---------- ------- -------- ----- --------- ------ ----------- -----
Amortized Cost $9,554 6.06% $ 649,718 4.13% $191,661 5.04% $144,448 6.67% $ 995,381 4.69%
======= ======= ========== ======= ======== ===== ========= ====== =========== =====
Fair Value $9,337 $ 653,503 193,749 $150,397 $1,006,986
======= ========== ======== ========= ===========
Note: The yield is calculated on a 35 percent federal-tax-equivalent basis
44
Securities gains and(losses) are summarised as follows:
2003 2002 2001
-------- -------- --------
Gross realized gains $ 3,079 $ 9,196 $ 8,927
Gross realized losses (27) (98) (715)
-------- -------- --------
Total $ 3,052 $ 9,098 $ 8,212
======== ======== ========
Securities with unrealized losses not recognized in income are as follows:
Less Than 12 Months 12 Months or More Total
-----------------------------------------------------------------------
December 31, 2003 Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
---------- ---------- ---------- ---------- ---------- ----------
U.S. Government agencies $ 248 $ 2 $ -- $ -- $ 248 $ 2
Mortgage-backed securities 44,884 314 -- -- 44,884 314
Collateralized Mortgage Obligations 224,885 2,474 -- -- 224,885 2,474
State & political subdivisions 1,328 3 2,692 308 4,020 311
Federal Home Loan Bank and Federal Reserve stock -- -- -- -- -- --
Other securities 12,081 287 2,862 138 14,943 425
---------- ---------- ---------- ---------- ----------- ----------
Total $ 283,426 $ 3,080 $ 5,554 $ 446 $ 288,980 $ 3,526
========== ========== ========== ========== =========== ==========
The Company does not believe any individual unrealized loss as of December 31,
2003 represents an other than temporary impairment. Factors considered include
whether the securities are backed by the U.S. Government or its agencies and
concerns surrounding the recovery of full principal.
At December 31, 2003 and 2002, the carrying value of securities pledged to
secure public deposits, trust funds, repurchase agreements and FHLB advances was
$605,971 and $539,775, respectively.
NOTE 4. LOANS
A summary of loans as of December 31, follows:
2003 2002
----------- -----------
Commercial and industrial
Commercial, industrial and
agricultural loans $ 586,159 $ 644,084
Economic development loans and
other obligations of state and
political subdivisions 20,951 18,360
Lease financing 6,796 7,366
----------- -----------
Total commercial and industrial 613,906 669,810
Commercial real estate
Commercial mortgages 238,261 172,640
Construction and development 53,108 36,981
----------- -----------
Total commercial real estate 291,369 209,621
Residential mortgages 477,895 451,920
Home equity 132,101 126,257
Consumer loans 184,426 148,580
----------- -----------
Total loans 1,699,697 1,606,188
Less: unearned income 9 33
----------- -----------
Loans, net of unearned income $ 1,699,688 $ 1,606,155
=========== ===========
45
A summary of non-performing loans, including those classified as loans
held for sale, as of December 31 follows:
2003 2002 2001
-------- -------- --------
Nonaccrual $ 15,725 $ 20,010 $ 21,722
90 days past due and still accruing interest 2,566 2,367 2,500
-------- -------- --------
Total non-performing loans $ 18,291 $ 22,377 $ 24,222
======== ======== ========
The Company had no restructured loans at December 31, 2003, 2002 or 2001.
The following table presents data on impaired loans at December 31:
2003 2002 2001
-------- -------- --------
Impaired loans for which there is a related allowance for loan losses $ 6,726 $ 8,807 $ 3,033
Impaired loans for which there is no related allowance for loan losses 10,080 13,079 13,323
-------- -------- --------
Total impaired loans $ 16,806 $ 21,886 $ 16,356
======== ======== ========
Allowance for loan losses for impaired loans
included in the allowance for loan losses $ 3,112 $ 4,186 $ 1,948
Average recorded investment in impaired loans 18,043 20,855 16,410
Interest income recognized from impaired loans 831 436 651
Cash basis interest income recognized from impaired loans 98 198 616
There are no unused commitments available on any impaired loans.
The amount of loans serviced by the Company for the benefit of others is not
included in the accompanying Consolidated Balance Sheets. The amount of unpaid
principal balances of these loans was $290,830, $198,570, and $105,464 as of
December 31, 2003, 2002 and 2001, respectively.
In the normal course of business, Integra Bank makes loans to its executive
officers and directors and to companies and individuals affiliated with officers
and directors of Integra Bank and the Company. The activity in these loans
during 2003 is as follows:
Balance as of January 1, 2003 $ 2,761
New loans 2,298
Repayments (1,869)
Director and officer changes (1,055)
--------
Balance as of December 31, 2003 $ 2,135
========
NOTE 5. LEASE FINANCING
The Company's leasing operations include direct financing, leveraged leases and
operating leases. The direct financing leasing activity involves the leasing of
various types of office, data processing, and transportation equipment. These
equipment leases have lives of three to seven years.
Under the direct financing method of accounting for leases, the total net
rentals receivable under the lease contracts, initial direct costs (net of
fees), and the estimated unguaranteed residual value of the leased equipment,
net of unearned income, are recorded as a net investment in direct financing
leases, and the unearned income on each lease is recognized using an effective
interest rate method.
The composition of the net investment in direct lease financing at December 31
is as follows:
2003 2002
------ --------
Minimum lease payments receivable $ 87 $ 858
Add estimated residual values of leased equipment 212 1,186
Add initial direct costs -- 3
Less: unearned lease income (9) (398)
------ --------
Net investment in direct lease financing $ 290 $ 1,649
====== ========
At December 31, 2003, the minimum future lease payments due under the direct
financing leases total $87 in 2004.
46
In 1997 IBNK Leasing entered into two leveraged leases with a regional air
carrier for aircraft, which had an estimated economic life of 23 years, and were
leased for a term of 16.5 years. The equity investment in the aircraft
represented 22% of the purchase price; the remaining 78% was furnished by third
party financing in the form of long-term debt with no recourse against the
lessor and is secured by a first lien on the aircraft. At the end of the lease
term, the aircraft will be returned to the lessor. The residual value at the end
of the lease term was estimated to be 32% of the cost. For federal income tax
purposes, the lessor receives the benefit of tax deductions for depreciation on
the entire leased asset and for the interest on the long-term debt. Since during
the early years of the lease those deductions exceeded the lease rental income,
excess deductions are available to offset other taxable income. In the later
years of the lease, rental income will exceed the deductions, which will
increase taxable income. Deferred taxes are provided to reflect this reversal of
tax deductions. The net investment in leveraged leases at December 31 is
composed of the following elements:
2003 2002
------- ------
Rentals receivable (net of principal and interest on nonrecourse debt) $ 1,841 $1,841
Estimated residual value of leased assets 5,722 5,722
Less: unearned and deferred income 1,832 1,846
------- ------
Investment in leveraged leases 5,731 5,717
Less: deferred taxes arising from leveraged leases 5,853 4,422
------- ------
Net investment in leveraged leases $ (122) $1,295
======= ======
NOTE 6. ALLOWANCE FOR LOAN LOSSES
Changes in the allowance for loan losses were as follows during the three years
ended December 31:
2003 2002 2001
-------- -------- --------
Balance at beginning of year $ 24,632 $ 23,868 $ 25,264
Allowance associated with acquisitions -- -- 4,018
Provision for loan losses 4,945 3,143 31,077
Loans charged to allowance (6,510) (5,709) (11,956)
Writedowns from loans transferred to held for sale -- -- (26,047)
Recoveries credited to allowance 2,336 3,330 1,512
-------- -------- --------
Balance at end of year $ 25,403 $ 24,632 $ 23,868
======== ======== ========
NOTE 7. PREMISES AND EQUIPMENT
Premises and equipment as of December 31 consist of:
2003 2002
-------- -------
Land, buildings, and lease improvements $ 66,395 $65,742
Equipment 29,716 30,104
Construction in progress 5,234 1,253
-------- -------
Total cost 101,345 97,099
Less accumulated depreciation 46,782 43,562
-------- -------
Net premises and equipment $ 54,563 $53,537
======== =======
Depreciation and amortization expense for 2003, 2002 and 2001 was $4,060,
$4,265, and $4,428 respectively.
NOTE 8. INTANGIBLE ASSETS
December 31, 2003 December 31, 2002
Gross Net Gross Net
Carrying Accumulated Carrying Carrying Accumulated Carrying
Amount Amortization Amount Amount Amortization Amount
------- ------------ ------- ------- ------------ -------
Core deposits (Amortizing) $17,080 (6,771) $10,309 $17,080 (5,152) $11,928
Goodwill (Non-amortizing) 44,839 -- 44,839 44,159 -- 44,159
------- ----------- ------- ------- ------------ -------
Total intangible assets $61,919 $ (6,771) $55,148 $61,239 $ (5,152) $56,087
======= =========== ======= ======= ============ =======
47
All of the intangible assets relate to the banking operating segment.
Amortization expense for core deposit intangibles for 2003, 2002 and 2001 was
$1,619, $1,619 and $1,605, respectively.
Estimated intangible asset amortization expense for each of the succeeding
years is as follows:
Year ending December 31,
- -----------------------------------
2004 $ 1,612
2005 933
2006 933
2007 933
2008 933
Thereafter 4,967
The following table reflects results adjusted as though SFAS No. 142 had been
adopted on January 1, 2000:
Year ended
December 31,
2003 2002 2001
------- ------- --------
Net income as reported $17,765 $20,328 $ 7,258
Goodwill amortization -- -- 2,996
Tax effect -- -- (148)
------- ------- --------
Net income as adjusted $17,765 $20,328 $ 10,106
======= ======= ========
Net income per share, as reported:
Basic $ 1.03 $ 1.18 $ 0.42
Diluted 1.03 1.18 0.42
Net income per share, as adjusted:
Basic $ 1.03 $ 1.18 $ 0.59
Diluted 1.03 1.18 0.59
NOTE 9. MORTGAGE SERVICING RIGHTS
A summary of capitalized MSRs at December 31 which are included in other assets
follows:
2003 2002
------- -------
Balance at beginning of year $ 1,440 $ 726
Amount capitalized 1,673 1,062
Amount amortized (498) (219)
Change in valuation allowance 129 (129)
------- -------
Balance at end of year $ 2,744 $ 1,440
======= =======
An increase in prepayment speeds of 10% and 20% variations may result in a
decline in fair value of $79 and $152, respectively. Also, the effect of a
variation in a particular assumption on the fair value of the MSRs is calculated
independently without changing any other assumption. In reality, changes in one
factor may result in changes in another (for example, changes in mortgage
interest rates, which drive changes in prepayment rate estimates, could result
in changes in the discount rates), which might magnify or counteract the
sensitivities. There was no valuation reserve at December 31, 2003.
48
NOTE 10. DEPOSITS
As of December 31, 2003, the scheduled maturities of time deposits are as
follows:
2004 $ 572,370
2005 169,050
2006 33,345
2007 40,249
2008 and thereafter 30,014
---------
Total $ 845,028
=========
NOTE 11. INCOME TAXES
The components of income tax expense for the three years ended December 31 are
as follows:
2003 2002 2001
------- ------- -------
Federal:
Current $ 3,472 $(4,462) $ 7,128
Deferred (3,254) 8,149 (8,791)
------- ------- -------
Total 218 3,687 (1,663)
State:
Current 310 (841) 1,300
Deferred (470) 932 (1,266)
------- ------- -------
Total (160) 91 34
------- ------- -------
Total income taxes (benefit) $ 58 $ 3,778 $(1,629)
======= ======= =======
The portion of the tax provision relating to net realized securities gains
amounted to $1,237, $3,687, and $3,328 for 2003, 2002 and 2001, respectively.
A reconciliation of income taxes in the statement of income, with the amount
computed by applying the statutory rate of 35%, is as follows:
2003 2002 2001
------- ------- -------
Federal income tax computed at the statutory rates $ 6,238 $ 8,437 $ 2,066
Adjusted for effects of:
Tax exempt interest (2,633) (3,007) (3,247)
Goodwill amortization -- -- 1,155
Nondeductible expenses 342 424 561
Low income housing credit (2,386) (1,042) (838)
Cash surrender value of life insurance policies (626) (657) (515)
Dividend received deduction (530) (532) (776)
Reduction of valuation allowance (330) -- --
Other differences (17) 155 (35)
------- ------- -------
Total income taxes (benefit) $ 58 $ 3,778 $(1,629)
======= ======= =======
49
The tax effects of principal temporary differences are shown in the following
table:
December 31,
2003 2002
-------- --------
Allowance for loan losses $ 9,684 $ 9,386
Low income housing project credits 4,785 --
Unrealized gain on securities available for sale -- 3,064
Unrealized loss on hedging instruments 155 --
Writedown on loans held for sale 1,111 4,806
Other, net 1,910 1,389
-------- --------
Total deferred tax assets 17,645 18,645
Direct financing and leveraged leases (5,930) (4,531)
FHLB dividend (1,541) (1,506)
Mortgage servicing rights (1,046) (549)
Partnership income (999) (659)
Premises and equipment (2,549) (5,979)
Purchase accounting adjustments (1,051) (1,377)
Unrealized gain on securities available for sale (4,703) --
Unrealized loss on hedging instruments -- (248)
-------- --------
Total deferred tax liabilities (17,819) (14,849)
-------- --------
Valuation allowance -- (330)
-------- --------
Net deferred tax asset (liability) $ (174) $ 3,466
======== ========
NOTE 12. SHORT-TERM BORROWINGS
Information concerning short-term borrowings for the years ended December 31 was
as follows:
2003 2002
-------- --------
Federal funds purchased $ 51,000 $ 12,400
Securities sold under agreements to repurchase 195,372 64,384
Short-term Federal Home Loan Bank advances 3,606 14,191
Other short-term borrowed funds 4,000 --
-------- --------
Total short-term borrowed funds $253,978 $ 90,975
======== ========
A summary of selected data related to short-term borrowed funds follows:
Average amount outstanding $221,512 $ 95,990
Maximum amount at any month-end 288,832 104,391
Weighted average interest rate:
During year 1.18% 2.10%
End of year 1.05% 1.62%
At December 31, 2003, the Company had $255,000 available from unused federal
funds purchased lines. In addition, the Company has an unsecured line of credit
available which permits it to borrow up to $15,000 at variable rates adjusted
daily to the effective Federal Fund rate, through July 20, 2004. At December 31,
2003, $11,000 remained available for future use.
50
NOTE 13. LONG-TERM BORROWINGS
Long-term borrowings at December 31 consist of the following:
2003 2002
-------- --------
FHLB Advances
Convertible advances (weighted average rate of 6.10% in 2003 and 2002) $412,000 $427,000
Fixed maturity advances (weighted average rate of 6.57%) 55,000 55,000
Amortizing and other advances (weighted average rate of 5.99% in 2003
and 6.05% in 2002) 14,202 21,328
-------- --------
Total FHLB Advances 481,202 503,328
Securities sold under repurchase agreements with maturities 85,000 85,000
at various dates through 2006 (weighted average rate of 4.79%)
Note payable, unsecured, with an interest rate of 8.10%, and -- 9,417
monthly payments through 2003 with a final balloon payment of $9,083
Notes payable, secured by equipment, with an interest rate of 7.26%, 8,371 9,106
due at various dates through 2012
Subordinated debt, unsecured, with a floating interest rate equal to three- 10,000 --
month LIBOR plus 3.25%, with a maturity date of April 24, 2013
Floating Rate Capital Securities, with an interest rate equal to six-month 18,557 --
LIBOR plus 3.75%, with a maturity date of July 25, 2031, and callable
effective July 16, 2011 *
Floating Rate Capital Securities, with an interest rate equal to three-month 35,568 --
LIBOR plus 3.10%, with a maturity date of June 26, 2033 and callable
effective June 25, 2008 *
-------- --------
Total long-term borrowings $638,698 $606,851
======== ========
* These items in 2002 were included in Guaranteed preferred beneficial interest
in the Corporation's subordinated debentures.
Aggregate maturities required on long-term borrowings at December 31, 2003 are
due in future years as follows:
2004 $ 790
2005 91,013
2006 142,169
2007 173,238
2008 30,788
Thereafter 200,700
---------
Total principal payments $ 638,698
=========
Included in long-term borrowings is $85,000 of national market repurchase
agreements with original maturity dates greater than one year. The Company
incurred debt prepayment expenses of $1,243 in 2003 and $5,938 in 2002 as a
result of prepaying $15,000 in long-term Federal Home Loan Banks ("FHLBs")
advances and $90,000 in term repurchase agreements in 2003 and 2002,
respectively.
The Company borrows these funds under a master repurchase agreement. The Company
must maintain collateral with a value equal to 105% of the repurchase price of
the securities transferred. As originally issued, the Company's repurchase
agreement counterparty had an option to put the collateral back to the Company
at the repurchase price on a specified date.
Also included in long-term borrowings are $481,202 in FHLB advances to fund
investments in mortgage-backed securities, loan programs and to satisfy certain
other funding needs. The Company must pledge collateral in the form of
mortgage-backed securities and mortgage loans to secure these advances. At
December 31, 2003, the Company had an adequate amount of mortgage-backed
securities and mortgage loans to satisfy the collateral requirements associated
with these borrowings. At December 31, 2003, the
51
amount of the mortgage loans pledged as collateral totaled $369,594.
An aggregate of $412,000 of FHLB advances may be converted at the option of the
FHLB from fixed rate advances to 3-month LIBOR based floating rate advances
starting on the first conversion date and quarterly thereafter. While the
maturity date of these advances will not change, if any of these advances are
converted into floating rate advances, the Company has the option to prepay such
converted advances at par value.
FHLB advances totaling $55,000 were not converted following their only
conversion date. These advances carry a weighted average fixed interest rate of
6.57% with final maturities ranging from 2007 through 2009.
In June 2003, the Company issued through a subsidiary, Integra Capital Statutory
Trust III, $34,500 of floating rate capital securities with a variable interest
rate of 3.10% plus 3-month LIBOR. Issuance costs of $1,045 were paid by the
Company and are being amortized over the life of the securities. The securities
mature in 2033. The Company has the right to call these securities at par
effective June 25, 2008.
In July 2001, the Company issued $18,000 of floating rate capital securities
through a subsidiary, Integra Capital Trust II. The trust preferred securities
bear interest at a variable per annum rate equal to six-month LIBOR plus 3.75%
with interest payable semiannually. The issue matures on July 25, 2031. Issuance
costs of $581 were paid by the Company and are being amortized over the life of
the securities. The Company has the right to call these securities at par
effective July 16, 2011.
In March 1998, the Company issued through a subsidiary, Integra Capital Trust I,
$34,500 of 8.25% cumulative trust preferred securities which would have matured
on March 31, 2028. Issuance costs of $1,514 were paid by the Company and were
being amortized over the life of the securities. The Company called these
securities at par effective June 25, 2003, through the issuance of the Integra
Capital Statutory Trust III as discussed above.
The principal assets of each trust subsidiary are subordinated debentures of the
Company. The subordinated debentures bear interest at the same rate as the
related trust preferred securities and mature on the same dates. The obligations
of the Company with respect to the trust preferred securities constitute a full
and unconditional guarantee by the Company of the trusts' obligations with
respect to the securities.
Subject to certain exceptions and limitations, the Company may, from time to
time, defer subordinated debenture interest payments, which would result in a
deferral of distribution payments on the related trust preferred securities and,
with certain exceptions, prevent the Company from declaring or paying cash
distributions on the Company's common stock or debt securities that rank junior
to the subordinated debenture.
As a result of applying the provisions of FIN 46, governing when an equity VIE
should be consolidated, the Company was required to deconsolidate these
subsidiary trusts from its financial statements. The deconsolidation of the net
assets and results of operations of the trust had virtually no impact on the
Company's financial statements or liquidity position since the Company continues
to be obligated to repay the debentures held by the trusts and guarantees
repayment of the capital securities issued by the trusts. The consolidated debt
obligation related to the trusts increased from $52,500 to $54,125 upon
deconsolidation with the difference representing the Company's common ownership
interest in the trusts.
The capital securities held by the trusts currently qualify as Tier 1capital for
the Company under Federal Reserve Board guidelines. As a result of the issuance
of FIN 46, the Federal Reserve Board is currently evaluating whether
deconsolidation of the trusts will affect the qualification of the capital
securities as Tier 1 capital.
NOTE 14. SHAREHOLDERS' EQUITY
On July 18, 2001, the Company adopted a Shareholder Rights Plan. Under the Plan,
rights were distributed at the rate of one right for each share held by
shareholders of record as of the close of business on July 30, 2001. Initially,
each right will entitle shareholders to buy one one-hundredth of a share of
preferred stock at a purchase price of $75.
The rights generally will be exercisable only if a person or group acquires 15%
or more of the Company's common stock or commences a tender or exchange offer
which, upon consummation, would result in a person or group owning 15% or more
of the Company's common stock. In such event, each right not owned by such
person or group will entitle its holder to purchase at the then current purchase
price, shares of common stock (or their equivalent) having a value of twice the
purchase price. Under certain circumstances, the rights are exchangeable for
shares or are redeemable at a price of one cent per right. The rights will
expire on July 18, 2011.
The Company had a stock repurchase program to purchase up to 5% of the
outstanding shares of the Company's common stock through July 18, 2002. The
shares of common stock purchased will be used to fund future stock dividends,
awards under stock-based
52
compensation programs and other corporate uses. As of the expiration date of
July 18, 2002, the Company had repurchased 166,070 shares pursuant to this
program.
NOTE 15. REGULATORY MATTERS
Integra Bank is required by the Board of Governors of the Federal Reserve System
to maintain reserve balances in the form of vault cash or deposits with the
Federal Reserve Bank of St. Louis based on specified percentages of certain
deposit types, subject to various adjustments. At December 31, 2003, the net
reserve requirement totaled $6,671. The Bank was in compliance with all cash
reserve requirements as of December 31, 2003.
The Company and Integra Bank are subject to various regulatory capital
requirements administered by federal and state banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have a
materially adverse effect on the Company's financial condition. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action, a
bank must meet specific capital guidelines that involve quantitative measures of
assets, liabilities, and certain off-balance-sheet items as calculated under
regulatory accounting practices. Capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and Integra Bank to maintain minimum amounts and ratios (set
forth in the following table) of total and Tier 1 capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as
defined) to average assets (as defined). As of December 31, 2003, the Company
and Integra Bank met all capital adequacy requirements to which they were
subject.
As of December 31, 2003, the most recent notification from the federal and state
regulatory agencies categorized Integra Bank as well capitalized. Integra Bank
must maintain the minimum total risk-based, Tier 1 risk-based, and Tier 1
leverage ratios as set forth in the table. There are no conditions or events
since that notification that management believes has changed the categorization
of Integra Bank.
The amounts of dividends which the Company's subsidiaries may pay is governed by
applicable laws and regulations. For Integra Bank, prior regulatory approval is
required if dividends to be declared in any year would exceed net earnings of
the current year (as defined under the National Banking Act) plus retained net
profits for the preceding two years. As of December 31, 2003, Integra Bank has
retained earnings available for distribution in the form of dividends to the
Company without prior regulatory approval.
53
The following table presents the actual capital amounts and ratios for the
Company, on a consolidated basis, and Integra Bank:
Required
Minimum Ratios For Capital Capital Ratios
Actual Adequacy Purposes: To Be Well Capitalized
------------------ ------------------------ -----------------------
Amount Ratio Amount Ratio Amount Ratio
-------- ----- -------- ---- --------- -----
As of December 31, 2003
Total Capital (to Risk Weighted Assets)
Consolidated $257,102 13.13% $156,606 8.00% N/A N/A
Integra Bank 247,838 12.74% 155,592 8.00% $ 194,490 10.00%
Tier I Capital (to Risk Weighted Assets)
Consolidated $222,621 11.37% $ 78,303 4.00% N/A N/A
Integra Bank 223,513 11.49% 77,796 4.00% $ 116,694 6.00%
Tier I Capital (to Average Assets)
Consolidated $222,621 7.64% $116,490 4.00% N/A N/A
Integra Bank 223,513 7.70% 116,140 4.00% $ 145,174 5.00%
As of December 31, 2002:
Total Capital (to Risk Weighted Assets)
Consolidated $244,104 13.16% $148,442 8.00% N/A N/A
Integra Bank 231,158 12.52% 147,748 8.00% $ 184,685 10.00%
Tier I Capital (to Risk Weighted Assets)
Consolidated $220,892 11.90% $ 74,221 4.00% N/A N/A
Integra Bank 208,053 11.27% 73,874 4.00% $ 110,811 6.00%
Tier I Capital (to Average Assets)
Consolidated $220,892 7.94% $111,290 4.00% N/A N/A
Integra Bank 208,053 7.52% 110,716 4.00% $ 138,395 5.00%
NOTE 16. STOCK OPTION PLAN AND AWARDS
The Company's 2003 Stock Option and Incentive Plan currently reserves shares of
common stock for issuance as incentive awards to directors and key employees of
the Company. Awards may be incentive stock options, non-qualified stock options,
restricted shares, performance shares and performance units. The Company's 1999
Stock Option and Incentive Plan provided for incentive stock options and
non-qualified stock options. All options granted under the current plans or any
predecessor (the "Plans") are required to be exercised within ten years of the
date granted. The exercise price of options granted under the Plans cannot be
less than the market value of the common stock on the date of grant. Under the
Plans, at December 31, 2003, there were 812,654 shares available for the
granting of additional awards.
In 1999, the Company also granted non-qualified options to purchase 31,500
shares of common stock at an exercise price of $25.83, outside of the Plans, in
connection with the employment of its Chairman and CEO. Such options are vested
and must be exercised within ten years. At December 31, 2003, all 31,500 options
remained outstanding.
54
A summary of the status of the options granted under the Plans by the Company as
of December 31, 2003, 2002 and 2001, and changes during the years ending on
those dates is presented below:
2003 2002 2001
---------------------------- ---------------------------- ---------------------------
Weighted Average Weighted Average Weighted Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
--------- ---------------- -------- ----------------- -------- ----------------
Options outstanding, beginning of year 773,472 $22.73 697,285 $24.65 608,461 $25.09
Options granted 354,946 17.75 222,700 19.61 252,500 23.26
Options exercised (1,000) 19.69 (7,333) 19.11 (62,569) 17.41
Options forfeited (41,041) 19.97 (139,180) 27.52 (101,107) 28.40
--------- ------ -------- ------ -------- ------
Options outstanding, end of year 1,086,377 $21.20 773,472 $22.73 697,285 $24.65
========= ====== ======== ====== ======== ======
Options exercisable 530,594 378,610 330,250
Weighted-average fair value of options
granted during the year $3.63 $4.70 $7.33
All options granted prior to 1999 vested one year from the grant date.
Subsequent grants from the 1999 Plan, except the special grant noted above, vest
one-third in each year following the date of the grant. As of December 31, 2003,
all options granted from the 2003 Plan vest two years from the date of the
grant.
The following table summarizes information about options granted under the Plans
that were outstanding at December 31, 2003.
Weighted Average
Range of Weighted Average Remaining Weighted Average
Exercise Number Exercise Contractual Life Number Exercise
Price Outstanding Price (in years) Exercisable Price
- ---------------- ----------- ---------------- ---------- ----------- --------
$ 15.75 - 19.69 584,633 $ 18.27 8.6 102,399 $ 18.65
20.23 - 23.38 334,596 22.57 6.7 264,382 22.42
23.81 - 25.83 115,200 25.43 5.9 111,865 25.45
33.92 - 38.00 51,948 35.97 4.3 51,948 35.97
- ---------------- ----------- --------- ---------- ----------- --------
1,086,377 $ 21.20 7.5 530,594 $ 23.66
=========== ========= ========== =========== ========
The market value of the stock options granted under the Plans has been estimated
using the Black-Scholes options pricing model with the following weighted
average assumptions.
2003 2002 2001
----------- ----------- -----------
Number of options granted 354,946 222,700 252,500
Risk-free interest rate 3.35% 5.77% 5.67%
Expected life, in years 7 10 10
Expected volatility 33.40% 34.06% 45.03%
Expected dividend yield 5.31% 4.81% 4.04%
Estimated fair value per option $ 3.63 $ 4.70 $ 7.33
The 2003 Plan permits the award of restricted stock. Prior to 2003, the Company
made awards of restricted stock outside of any plan. During 2003, the Company
awarded 18,414 shares of restricted stock which vest over a three-year period.
Unvested shares are subject to certain restrictions and risk of forfeiture by
the participants. Shares vesting totaled 5,334 in 2003, 5,332 in 2002 and none
in 2001. Expense recorded was $177, $123 and $98 in 2003, 2002 and 2001,
respectively.
55
NOTE 17. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table reflects a comparison of the carrying amounts and fair
values of financial instruments of the Company at December 31:
2003 2002
----------------------- -------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ---------- ---------- ----------
Financial Assets:
Cash and short-term investments $ 74,943 $ 74,943 $ 70,533 $ 70,533
Loans held for sale (at lower of cost or market) 242 242 13,767 13,767
Securities available for sale 1,006,986 1,006,986 982,263 982,263
Loans-net of allowance 1,674,285 1,763,741 1,581,523 1,606,663
Mortgage servicing rights 2,744 2,964 1,440 1,440
Financial Liabilities:
Deposits $1,812,630 $1,760,579 $1,781,948 $1,732,898
Short-term borrowings 253,978 253,977 90,975 90,994
Long-term borrowings 638,698 697,521 606,851 690,746
Guaranteed preferred beneficial interests in
the Corporation's subordinated debenture -- -- 52,500 52,320
Financial Instruments:
Interest rate swap agreements $ 703 $ 703 $ -- $ --
The above fair value information was derived using the information described
below for the groups of instruments listed. It should be noted the fair values
disclosed in this table do not represent fair values of all assets and
liabilities of the Company and, thus, should not be interpreted to represent a
market or liquidation value for the Company.
CASH AND SHORT-TERM INVESTMENTS
Cash and short-term investments include cash and due from banks,
interest-bearing deposits in banks, short-term money market investments,
commercial paper and federal funds sold. For cash and other short-term
investments, the carrying amount is a reasonable estimate of fair value.
LOANS HELD FOR SALE
These instruments are carried in the consolidated statements of financial
position at the lower of cost or fair value. The fair values are based on quoted
market prices of similar instruments.
SECURITIES
For securities, fair value equals quoted market price, if available. If a quoted
market price is not available, fair value is estimated using quoted market
prices for similar securities. Fair values for nonmarketable equity securities
are equal to cost, as there is no readily determinable fair value. Carrying
amount of accrued interest receivable approximates fair value.
LOANS
For certain homogeneous categories of loans, such as some residential mortgages,
fair value is estimated using the quoted market prices for securities backed by
similar loans, adjusted for differences in loan characteristics. The fair value
of other types of loans is estimated by discounting the future cash flows using
the current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities. Carrying amount of accrued
interest receivable approximates fair value.
MORTGAGE SERVICING RIGHTS
Mortgage servicing rights are stratified based on guarantor, origination period,
original maturity and interest rate. The servicing rights are carried at the
lower of cost or market by strata. The servicing rights capitalized are
amortized in proportion to and over the period of estimated servicing income.
Management evaluates the recoverability of the servicing rights in relation to
the impact of actual and anticipated loan portfolio prepayment, foreclosure and
delinquency experience.
DEPOSITS
The fair value of demand deposits, savings accounts, money market deposits, and
variable rate certificates of deposit is the amount payable on demand at the
reporting date. The fair value of other time deposits is estimated by
discounting future cashflows using the rates currently offered for deposits of
similar remaining maturities. Carrying amount of accrued interest payable
approximates fair value.
56
SHORT-TERM BORROWINGS
Rates currently available to the Company for debt with similar terms and
remaining maturities are used to estimate fair value of existing debt. These
instruments adjust on a periodic basis and thus the carrying amount represents
fair value. Carrying amount of accrued interest payable approximates fair value.
LONG-TERM BORROWINGS
The fair value of long-term borrowings is estimated by discounting future
cashflows using rates currently available for debt with similar terms and
maturities are used to estimate fair value of existing debt. Carrying amount of
accrued interest payable approximates fair value.
DERIVATIVE INSTRUMENTS
The fair values of the interest rate caps and swap agreements was based on
quoted market prices of comparable instruments.
COMMITMENTS TO EXTEND CREDIT AND STANDBY LETTERS OF CREDIT
The fair value of commitments is estimated using the fees currently charged to
enter into similar agreements, taking into account the remaining terms of the
agreements and the present creditworthiness of the counterparties. For
fixed-rate loan commitments, fair value also considers the difference between
current levels of interest rates and the committed rates. The fair value of
guarantees and letters of credit is based on fees currently charged for similar
agreements or on the estimated cost to terminate them or otherwise settle the
obligations with the counterparties at the reporting date. Because all
commitments and standby letters of credit reflect current fees and interest
rates, no unrealized gains or losses are reflected in the summary of fair
values.
NOTE 18. COMMITMENTS, CONTINGENCIES, AND CREDIT RISK
The Company is committed under various operating leases for premises and
equipment. Future minimum rentals for lease commitments having initial or
remaining non-cancelable lease terms in excess of one year totaled $8,503 at
December 31, 2003. Rental expense for operating leases totaled $1,715, $1,610,
and $901 in 2003, 2002 and 2001, respectively.
Most of the business activity of the Company and its subsidiaries is conducted
with customers located in the immediate geographic area of their offices. These
areas are comprised of Indiana, Illinois, Kentucky, and Ohio. The Company
maintains a diversified loan portfolio which contains no concentration of credit
risk from borrowers engaged in the same or similar industries exceeding 10% of
total loans.
Integra Bank evaluates each credit request of their customers in accordance with
established lending policies. Based on these evaluations and the underlying
policies, the amount of required collateral (if any) is established. Collateral
held varies but may include negotiable instruments, accounts receivable,
inventory, property, plant and equipment, income producing properties,
residential real estate and vehicles. Integra Bank's access to these collateral
items is generally established through the maintenance of recorded liens or, in
the case of negotiable instruments, possession.
The Company and its subsidiaries are parties to legal actions which arise in the
normal course of their business activities. In the opinion of management, the
ultimate resolution of these matters is not expected to have a materially
adverse effect on the financial position or on the results of operations of the
Company and its subsidiaries.
The Company is a party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of its customers.
These instruments involve, to varying degrees, elements of credit and interest
rate risk in excess of the amount recognized in the balance sheet. The
contractual or notional amounts of those instruments reflect the extent of
involvement the Company has in particular classes of financial instruments.
The Company's exposure to credit loss, in the event of nonperformance by the
counter party to the financial instrument for commitments to extend credit and
standby letters of credit, is represented by the contractual notional amount of
those instruments. The Company uses the same credit policies in making
commitments and conditional obligations as it does for other on-balance sheet
instruments. Financial instruments whose contract amounts represent credit risk
at December 31, 2003, follows:
Ranges of Rates
Variable Rate Fixed Rate Total on Fixed Rate
Commitment Commitment Commitment Commitments
-------------- ------------ ------------ --------------
Commitments to extend credit $ 252,353 $ 29,242 $ 281,595 1.90%-21.00%
Standby letters of credit 4,083 3,225 7,308 4.00%-8.75%
57
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally 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.
Standby letters of credit written are conditional commitments issued by the
banks to guarantee the performance of a customer to a third party. Those
guarantees are primarily issued to support public and private borrowing
arrangements, including commercial paper, bond financing, and similar
transactions. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities to customers.
NOTE 19. INTEREST RATE CONTRACTS
The Company purchased interest rate caps in 2000 to limit its exposure to rising
interest rates. The Company purchased long-term fixed rate securities, that
would extend in duration in a rising rate environment, funded by long-term debt,
that would contract in duration in a rising rate environment, as a means of
increasing earnings and utilizing excess capital. The caps limited the Company's
interest rate exposure to owning long-term, fixed rate assets which decrease in
value in a rising rate environment. The caps had expired by December 31, 2002,
but had a notional value of $125,000 at December 31, 2001. The caps were indexed
to one-month LIBOR with contract strike rates of 7.00% and matured prior to
2003.
During 2001, the Company entered into interest rate swap agreements totaling
$75,000 notional amount to convert a portion of its liabilities from variable
rate to fixed rate to assist in managing its interest rate sensitivity. The
interest rate swaps required the Company to pay a fixed rate of interest ranging
from 4.56% to 4.92% and receive a variable rate based on one-month LIBOR and
expired on or prior to September 10, 2004. The Company terminated a $25,000
notional amount agreement in June 2002. The loss due to termination of $460, net
of tax, is recorded as a component of accumulated other comprehensive income and
will be amortized into earnings over the remaining term of the agreement. The
remaining swap agreements were terminated in July 2002. The resulting losses
totaling $661, net of tax, also remain as a component of accumulated other
comprehensive income and are being amortized into earnings over the remaining
term of the agreements.
During the second quarter of 2002, the Company purchased a $200,000 notional
interest rate floor contract for $195. The interest rate floor was indexed to
one-month LIBOR with a contract strike rate of 2.00% and had a termination date
of May 17, 2004. This derivative transaction was accounted for as a freestanding
derivative with cash flows and changes in market value recorded in current
period earnings. The floor was terminated on October 25, 2002 with a market
value of $920.
During the first quarter of 2003, the Company entered into $75,000 notional
amount of interest rate swap contracts to convert a portion of its long-term
repurchase agreements from fixed rate to variable rate as part of its balance
sheet management strategy. The interest rate swaps require the Company to pay a
variable rate based on three-month LIBOR and receive a fixed rate of interest
ranging from 2.60% to 2.72%. The interest rate swaps expire on or prior to May
22, 2006.
The Company is exposed to losses if a counterparty fails to make its payments
under a contract in which the Company is in a receiving status. Although
collateral or other security is not obtained, the Company minimizes its credit
risk by monitoring the credit standing of the counterparties and anticipates
that the counterparties will be able to fully satisfy their obligations under
the agreements.
NOTE 20. EMPLOYEE RETIREMENT PLANS
Through December 31, 2001 the Company maintained a noncontributory cash balance
plan in which substantially all full-time employees were eligible to
participate. Plan benefits, totaling approximately $2,926 were distributed to
participants during 2002.
The Company also has a benefit plan offering postretirement medical benefits.
The medical portion of the plan is contributory to the participants. The Company
has no plan assets attributable to the plan and funds the benefits as claims
arise. Benefit costs related to this plan are recognized in the periods
employees provide service for such benefits. Employees of the Company hired by
The National City Bank of Evansville before 1978 who are age 55 with 20 years of
service and retire directly from the Company are eligible for a medical plan
premium reimbursement. The Company reserves the right to terminate or make
changes at any time.
The 2003 health care trend rate is projected to be 12.0%. The rate is assumed to
decrease incrementally each year until it reaches 5.5% and remain at that level
thereafter. Increasing or decreasing the health care cost trend rates by one
percentage point would not have had a material effect on the December 31, 2003,
accumulated postretirement benefit obligation or the annual cost of retiree
health plans.
58
In establishing the amounts reflected in the financial statements, the following
significant assumption rates were used:
OTHER
CASH BALANCE PLAN POSTRETIREMENT BENEFITS
------------------ -----------------------
2003 2002 2003 2002
------ -------- -------- -------
Discount rate -- 5.12% 6.75% 7.00%
Increase in compensation rate -- N/A 5.00% 5.00%
Expected long-term rate of return -- N/A N/A N/A
The following summary reflects the plan's funded status and the amounts
reflected on the Company's financial statements.
Actuarial present values of benefit obligations at December 31 are:
OTHER
CASH BALANCE PLAN POSTRETIREMENT BENEFITS
------------------ -----------------------
2003 2002 2003 2002
------- -------- -------- --------
Change in Fair Value of Plan Assets:
Balance at beginning of year $ -- $ 2,617 $ -- $ --
Actual return on plan assets -- (49) -- --
Employer contributions -- 358 61 --
Benefits paid, net of retiree contributions -- (2,926) (61) --
------- -------- -------- --------
Balance at end of year -- -- -- --
------- -------- -------- --------
Change in Benefit Obligation:
Balance at beginning of year -- 2,751 1,802 1,291
Service cost -- -- 45 10
Interest costs -- 141 115 85
Actuarial gains -- 34 (16) 416
Benefits paid, net of retiree contributions -- (2,926) (61) --
------- -------- -------- --------
Balance at end of year -- -- 1,885 1,802
------- -------- -------- --------
Funded status -- -- (1,885) (1,802)
Unrecognized prior service cost -- -- 301 467
Unrecognized net actuarial loss -- -- 1,061 875
------- -------- -------- --------
(Accrued) prepaid benefit cost $ -- $ -- $ (523) $ (460)
======= ======== ======== ========
Net periodic pension cost included the following components for the years ended
December 31:
OTHER
CASH BALANCE PLAN POSTRETIREMENT BENEFITS
------------------------- -----------------------
2003 2002 2001 2003 2002 2001
------ ------ ------- ----- ----- ------
Service cost - benefits earned during the period $ -- $ -- $ 980 $ 45 $ 10 $ --
Interest cost on projected benefit obligation -- 141 108 115 85 --
Return on assets -- -- -- -- -- --
Net amortization and deferral -- -- 645 87 28 --
Termination settlement gain -- 84 -- -- -- --
------ ------ ------- ----- ----- ------
Net periodic cost $ -- $ 225 $ 1,733 $ 247 $ 123 $ --
====== ====== ======= ===== ===== ======
Substantially all employees are eligible to contribute a portion of their pretax
salary to a defined contribution plan. The Company may make contributions to the
plan in varying amounts depending on the level of employee contributions. The
Company's expense related to this plan was $988, $887 and $842 for 2003, 2002
and 2001, respectively.
As the result of previous mergers and subsequent amendment of the Company's
pension and profit-sharing plans to include employees of the other subsidiaries,
retirement plans previously maintained by those subsidiaries have been
terminated or frozen.
59
NOTE 21. SEGMENT INFORMATION
The Company operates one reporting line of business: Banking. Banking services
include various types of deposit accounts; safe deposit boxes; safekeeping of
securities; automated teller machines; consumer, mortgage and commercial loans;
mortgage loan sales and servicing; letters of credit; corporate cash management
services; brokerage and annuity products and services; and complete personal and
corporate trust services. Other includes the operating results of the Parent
Company and its non-bank subsidiaries, including, Integra Reinsurance Company
LTD (formed in May 2003), and its property management company, Twenty-One
Southeast Third Corporation (merged into the parent company in May 2003).
The accounting policies of the Banking segment are the same as those described
in the summary of significant accounting policies. The following tables present
selected segment information for Banking and other operating units.
For the Year Ended
December 31, 2003 Banking Other Eliminations Total
----------- ---------- ------------ -----------
Interest income $ 142,966 $ 2,522 $ (2,373) $ 143,115
Interest expense 67,297 5,949 (2,373) 70,873
----------- ---------- ------------ -----------
Net interest income 75,669 (3,427) -- 72,242
Provision for loan losses 4,945 -- -- 4,945
Other income 32,599 21,228 (21,034) 32,793
Other expense 79,912 2,459 (104) 82,267
----------- ---------- ------------ -----------
Earnings before income taxes and
cumulative effect of accounting change 23,411 15,342 (20,930) 17,823
----------- ---------- ------------ -----------
Income taxes (benefit) 2,615 (2,557) -- 58
----------- ---------- ------------ -----------
Net income $ 20,796 $ 17,899 $ (20,930) $ 17,765
=========== ========== ============ ===========
Segment assets $ 2,951,085 $ 300,199 $ (292,990) $ 2,958,294
=========== ========== ============ ===========
For the Year Ended
December 31, 2002 Banking Other Eliminations Total
----------- ---------- ------------ -----------
Interest income $ 164,429 $ 4,995 $ (4,793) $ 164,631
Interest expense 86,813 8,766 (4,793) 90,786
----------- ---------- ------------ -----------
Net interest income 77,616 (3,771) -- 73,845
Provision for loan losses 3,143 -- -- 3,143
Other income 36,186 23,177 (23,082) 36,281
Other expense 82,287 650 (60) 82,877
----------- ---------- ------------ -----------
Earnings before income taxes and
cumulative effect of accounting change 28,372 18,756 (23,022) 24,106
----------- ---------- ------------ -----------
Income taxes (benefit) 5,423 (1,645) -- 3,778
----------- ---------- ------------ -----------
Net income $ 22,949 $ 20,401 $ (23,022) $ 20,328
=========== ========== ============ ===========
Segment assets $ 2,849,139 $ 348,727 $ (340,128) $ 2,857,738
=========== ========== ============ ===========
60
For the Year Ended
December 31, 2001 Banking Other Eliminations Total
------------ ---------- ------------ ------------
Interest income $ 215,882 $ 4,918 $ (4,461) $ 216,339
Interest expense 129,617 9,101 (4,459) 134,259
------------ ---------- ------------ ------------
Net interest income 86,265 (4,183) (2) 82,080
Provision for loan losses 31,077 -- -- 31,077
Other income 33,260 10,562 (10,620) 33,202
Other expense 77,453 909 (59) 78,303
------------ ---------- ------------ ------------
Earnings before income taxes and
cumulative effect of accounting change 10,995 5,470 (10,563) 5,902
------------ ---------- ------------ ------------
Cumulative effect of accounting change (273) -- -- (273)
Income taxes (benefit) 229 (1,858) -- (1,629)
------------ ---------- ------------ ------------
Net income $ 10,493 $ 7,328 $ (10,563) $ 7,258
============ ========== ============ ============
Segment assets $ 3,015,239 $ 353,094 $ (332,443) $ 3,035,890
============ ========== ============ ============
Eliminations include intercompany loan and deposits, interest income and
expense, and earnings of the subsidiaries.
NOTE 22. FINANCIAL INFORMATION OF PARENT COMPANY
Condensed financial data for Integra Bank Corporation (parent company only)
follows:
CONDENSED STATEMENTS OF BALANCE SHEETS December 31,
2003 2002
---------- ----------
ASSETS
Cash and cash equivalents $ 4,992 $ 5,057
Investment in subsidiaries 287,958 275,404
Securities available for sale 2,664 1,039
Other assets 10,268 9,844
---------- ----------
TOTAL ASSETS $ 305,882 $ 291,344
========== ==========
LIABILITIES
Short-term borrowings $ 4,000 $ --
Long-term borrowings 64,125 54,124
Dividends payable 4,068 4,063
Other liabilities 697 557
---------- ----------
Total liabilities 72,890 58,744
SHAREHOLDERS' EQUITY
Common stock 17,311 17,291
Capital surplus 125,789 125,467
Retained earnings 83,510 82,011
Unearned compensation (292) (147)
Accumulated other comprehensive income 6,674 7,978
---------- ----------
Total shareholders' equity 232,992 232,600
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 305,882 $ 291,344
========== ==========
61
CONDENSED STATEMENTS OF INCOME Year Ended December 31,
2003 2002 2001
--------- --------- ---------
Dividends from subsidiaries $ 4,000 $ -- $ 46,000
Other income 389 587 579
--------- --------- ---------
Total income 4,389 587 46,579
Interest expense 3,810 4,050 4,711
Other expenses 2,319 927 1,077
--------- --------- ---------
Total expenses 6,129 4,977 5,788
--------- --------- ---------
Income before income taxes and equity in
undistributed earnings of subsidiaries (1,740) (4,390) 40,791
Income tax benefit 2,581 1,696 1,905
--------- --------- ---------
Income before equity in undistributed earnings of subsidiaries 841 (2,694) 42,696
Equity in undistributed earnings of subsidiaries 16,924 23,022 (35,438)
--------- --------- ---------
Net income $ 17,765 $ 20,328 $ 7,258
========= ========= =========
CONDENSED STATEMENTS OF CASH FLOWS
Year Ended December 31,
-----------------------------------
2003 2002 2001
--------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 17,765 $ 20,328 $ 7,258
Adjustments to reconcile net income to
net cash provided by operating activities:
Amortization and depreciation 1,327 80 265
Employee benefit expenses 177 123 98
Excess distributions (undistributed) earnings of subsidiaries (16,924) (23,022) 35,438
(Decrease) increase in deferred taxes (9) (467) (275)
(Increase) decrease in other assets (75) (1,881) 113
(Decrease) increase in other liabilities 141 (283) (11,303)
--------- --------- ---------
Net cash flows provided by operating activities 2,402 (5,122) 31,594
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales of securities -- 20 --
Proceeds from sale of property and equipment -- -- 71
Payments for investments in and advances to subsidiaries (1,380) -- (405)
Sale or repayment of investments in and advances to subsidiaries 2,821 -- --
Capital expenditures (1,668) -- --
--------- --------- ---------
Net cash flows provided by (used in) investing activities (227) 20 (334)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Dividends paid (16,261) (16,250) (16,146)
Net increase (decrease) in short-term borrowed funds 4,000 (12,000)
Proceeds from other borrowings 45,568 -- 28,557
Repayments of other borrowings (35,567) -- (10,000)
Repurchase of common stock -- -- (4,306)
Proceeds from exercise of stock options 20 140 1,089
--------- --------- ---------
Net cash flows used in financing activities (2,240) (28,110) (806)
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents (65) (33,212) 30,454
--------- --------- ---------
Cash and cash equivalents at beginning of year 5,057 38,269 7,815
--------- --------- ---------
Cash and cash equivalents at end of year $ 4,992 $ 5,057 $ 38,269
========= ========= =========
62
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There are no changes in or disagreements with accountants on accounting and
financial disclosures.
ITEM 9A. CONTROLS AND PROCEDURES
Based on an evaluation of the Company's disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15c) as of December 31, 2003,
the Company's Chief Executive Officer and Chief Financial Officer have concluded
that the Company's disclosure controls and procedures are effective in timely
alerting the Company's management to material information required to be
included in this Form 10-K and other Exchange Act filings.
There have been no changes in the Company's internal control over financial
reporting that occurred during the quarter ended December 31, 2003 that have
materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item concerning the directors and nominees for
director of the Company is incorporated herein by reference from the Company's
definitive Proxy Statement for its 2004 Annual Meeting of Shareholders, which
will be filed with the Commission pursuant to Regulation 14A within 120 days
after the end of the Company's last fiscal year. Information concerning the
executive officers of the Company is included under the caption "Executive
Officers of the Company" at the end of Part I of this Annual Report.
ITEM 11. EXECUTIVE COMPENSATION
The information under the heading "Compensation of Executive Officers" in the
Company's Proxy Statement for its 2004 Annual Meeting of Shareholders is hereby
incorporated by reference herein.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information under the headings "General Information - Security Ownership of
Management and Principal Owners" and "Compensation of Executive Officers -
Equity Compensation Plan Information" in the Company's Proxy Statement for its
2004 Annual Meeting of Shareholders is hereby incorporated by reference herein.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information under the heading "Transactions with Management" in the
Company's Proxy Statement for its 2004 Annual Meeting of Shareholders is hereby
incorporated by reference herein.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information under the heading "Audit-Related Matters - Principal Accounting
Firm Fees" in the Company's Proxy Statement for its 2004 Annual meeting of
shareholders is hereby incorporated by reference herein.
63
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
Documents Filed as Part of Form 10-K
1. Financial Statements
Report of Independent Auditors
Consolidated Balance Sheets at December 31, 2003 and 2002
Consolidated Statements of Income for the years ended December 31,
2003, 2002 and 2001
Consolidated Statements of Comprehensive Income for the years ended
December 31, 2003, 2002 and 2001
Consolidated Statements of Changes in Shareholders' Equity for the years
ended December 31, 2003, 2002 and 2001
Consolidated Statements of Cash Flows for the years ended December 31,
2003, 2002 and 2001
Notes to Consolidated Financial Statements
2. Schedules
No schedules are included because they are not applicable or the required
information is shown in the financial statements or the notes thereto.
3. Exhibits
Exhibit Index is on page 67.
Reports on Form 8-K
On October 21, 2003, under Item 9, the Company furnished a press
release to the Securities and Exchange Commission containing earnings
information for the period ending September 30, 2003.
64
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized, on the dates indicated.
INTEGRA BANK CORPORATION
/s/ MICHAEL T. VEA 3/12/2004
----------------------------------------- -----------
Michael T. Vea Date
Chairman of the Board, Chief Executive
Officer and President
/s/ CHARLES A. CASWELL 3/12/2004
----------------------------------------- -----------
Charles A. Caswell Date
Executive Vice President and
Chief Financial Officer
65
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.
/s/ SANDRA CLARK BERRY 3/9/2004
------------------------------------------ ------------
Sandra Clark Berry Date
Director
/s/ H. RAY HOOPS 3/9/2004
------------------------------------------ ------------
H. Ray Hoops Date
Director
/s/ GEORGE D. MARTIN 3/9/2004
------------------------------------------ ------------
George D. Martin Date
Director
/s/ THOMAS W. MILLER 3/9/2004
------------------------------------------ ------------
Thomas W. Miller Date
Director
/s/ RONALD G. REHERMAN 3/9/2004
------------------------------------------ ------------
Ronald G. Reherman Date
Director
/s/ RICHARD M. STIVERS 3/9/2004
------------------------------------------ ------------
Richard M. Stivers Date
Director
/s/ ROBERT W. SWAN 3/9/2004
------------------------------------------ ------------
Robert W. Swan Date
Director
/s/ ROBERT D. VANCE 3/9/2004
------------------------------------------ ------------
Robert D. Vance Date
Director
/s/ MICHAEL T. VEA 3/9/2004
------------------------------------------ ------------
Michael T. Vea Date
Chairman, CEO, President and Director
(Principal Executive Officer)
/s/ WILLIAM E. VIETH 3/9/2004
------------------------------------------ ------------
William E. Vieth Date
Director
/s/ DANIEL T. WOLFE 3/9/2004
------------------------------------------ ------------
Daniel T. Wolfe Date
Director
66
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- ---------- -------------------------------------------------------------
3(a)(i) Restated Articles of Incorporation (incorporated by reference to
Exhibit 3.1 to Form 8-A/A dated June 12, 1998)
3(a)(ii) Articles of Amendment dated May 17, 2000 (incorporated by reference
to Exhibit 3(a) to Quarterly Report on Form 10-Q for the period
ending September 30, 2000)
3(a)(iii) Articles of Amendment dated July 18, 2001 (incorporated by
reference to Exhibit 4(a))
3(b) By-Laws (as amended through February 18, 2004)
4(a) Rights Agreement, dated July 18, 2001, between Integra Bank
Corporation and Integra Bank N.A., as Rights Agent. The Rights
Agreement includes the form of Articles of Amendment setting forth
terms of Series A Junior Participating Preferred Stock as Exhibit
A, the form of Right Certificate as Exhibit B and the Summary of
Rights to Purchase Preferred Shares as Exhibit C (incorporated by
reference to Exhibit 1 to the Current Report on Form 8-K dated July
18, 2001)
10 (a)* Integra Bank Corporation Employees' 401(K) Plan (2000 Restatement)
(incorporated by reference to Exhibit 10(p) to Annual Report on
Form 10-K for the fiscal year ended December 31, 2001)
10 (b) 1999 Stock Option and Incentive Plan (incorporated by reference to
Exhibit A to Proxy Staement on Schedule 14A filed April 24, 1999)
10 (c)* Contract of Employment dated August 23, 1999, between National City
Bancshares, Inc. and Michael T. Vea (incorporated by reference to
Exhibit 10.1 to Quarterly Report on Form 10-Q for the period ending
September 30, 1999)
10 (d)* Amendment to Contract of Employment dated September 20, 2000
between Integra Bank Corporation and Michael T. Vea (incorporated
by reference to Exhibit 10(h) to Annual Report on Form 10-K for the
fiscal year ended December 31, 2000)
10 (e)* Nonqualified Stock Option Agreement (Non Plan) dated September 7,
1999, between National City Bancshares, Inc. and Michael T. Vea
(incorporated by reference to Exhibit 10.3 to Quarterly Report on
Form 10-Q for the period ending September 30, 1999)
10 (f)* Employment Agreement dated July 28, 2003, between Integra Bank
Corporation and Archie M. Brown, Jr. (incorporated by reference to
Exhibit 10(a) to Quarterly Report on Form 10-Q for the period
ended September 30, 2003)
10 (g)* Employment Agreement dated July 28, 2003, between Integra Bank
Corporation and Martin M. Zorn (incorporated by reference to
Exhibit 10(c) to Quarterly Report on Form 10-Q for the period ended
September 30, 2003)
10 (h)* Employment Agreement dated July 28, 2003, between Integra Bank
Corporation and Charles A. Caswell (incorporated by reference to
Exhibit 10(d) to Quarterly Report on Form 10-Q for the period ended
September 30, 2003)
10 (i) Credit Agreement dated August 30, 2002 between Integra Bank
Corporation and The Northern Trust Company (incorporated by
reference to Exhibit 10.1 to Quarterly Report on Form 10-Q for the
period ending September 30, 2002)
10 (j) First Amendment to Credit Agreement dated as of December 31, 2002
between Integra Bank Corporation and The Northern Trust Company
10 (k) First Amendment to Integra Bank Corporation Employees' 401(K) Plan
dated March 7, 2001 (incorporated by reference to Exhibit 10(q) to
Annual Report on Form 10-K for the fiscal year ended December 31,
2001)
10 (l)* Second Amendment to Integra Bank Corporation Employees' 401(K) Plan
dated October 17, 2001 (incorporated by reference to Exhibit 10(r)
to Annual Report on Form 10-K for the fiscal year ended December
31, 2001)
10 (m)* Third Amendment to Integra Bank Corporation Employees' 401(K) Plan
dated January 30, 2002 (incorporated by reference to Exhibit 10(s)
to Annual Report on Form 10-K for the fiscal year ended December
31, 2001)
10 (n) Code of Business Conduct and Ethics dated January 9, 2004.
10 (o)* 2003 Stock Option and Incentive Plan (incorporated by reference to
Exhibit B to Proxy Statement on Schedule 14A filed March 20, 2003)
67
10 (p)* Executive Annual and Long-Term Incentive Plan (incorporated by
reference to Exhibit 10.1 to Quarterly Report on Form 10-Q for the
period ended June 30, 2003)
21 Subsidiaries of the Registrant
23 Consent of PricewaterhouseCoopers LLP
31 (a) Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 of Chief Executive Officer
31 (b) Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 of Chief Financial Officer
32 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
* The indicated exhibit is a management contract, compensatory
plan or arrangement required to be filed by Item 601 of
Regulation S-K.
68