Item
2:
Management’s Discussion and Analysis of Financial Condition and Results of
Operations
Oak
Hill Financial, Inc.
MANAGE
M
ENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
For
the
nine and three month periods ended September 30, 2007 and 2006
Discussion
of Financial Condition Changes from December 31, 2006 to September 30,
2007
The
Company’s total assets amounted to $1.3 billion at September 30, 2007, a
decrease of $780,000, or 0.1%, from the total at December 31, 2006. The decrease
in assets was the result of a decrease of $9.7 million, or 1.0%, in loans
receivable and mortgage servicing assets, which was partially offset by an
$8.7
million increase in investment securities.
Cash
and due from banks, federal funds
sold, and investment securities, including mortgage-backed securities, increased
by $6.0 million, or 3.3%, to a total of $184.8 million at September 30, 2007,
compared to December 31, 2006. Investment securities increased by $8.7 million,
as purchases of $63.2 million exceeded maturities and repayments of $36.8
million and sales of $17.1 million. Federal funds sold decreased by
$615,000 during the nine-month period ended September 30, 2007.
Loans
receivable, including loans held
for sale and mortgage servicing assets, totaled $1.0 billion at September 30,
2007, a decrease of $9.7 million, or 1.0%, from the comparable totals at
December 31, 2006. Loan disbursements and purchases totaled $209.5
million during the nine-month period ended September 30, 2007, which were
partially offset by loan sales of $12.4 million, principal repayments of $196.9
million, and $10.9 million recorded in market value decline related to the
mark-to-market effects associated with $33.3 million in gross loans identified
as held for sale at September 30, 2007. These loans were identified as held
for
sale in connection with the requirements of the definitive agreement and pending
merger with WesBanco, Inc. Loan disbursements and purchases decreased by $66.2
million when compared to the same period in 2006. Sales volume
decreased by $10.5 million when compared to the same period in
2006. Loan originations declined primarily in the consumer loan area
as competition in our market areas continues to intensify. The
decrease in the loan portfolio during the nine months ended September 30, 2007
was comprised of a $16.3 million, or 15.2%, decrease in installment loans and
a
$9.5 million, or 6.1%, decrease in commercial and other loans, which were
partially offset by a $12.4 million, or 2.0%, increase in commercial and
residential real estate loans and a $3.7 million, or 7.0%, increase in
construction and land development loans. The allowance for loan losses totaled
$9.6 million at September 30, 2007, a decrease of $3.3 million, or 25.7%,
from the total at December 31, 2006. The allowance for
loan losses represented 0.94% and 1.25% of the total loan portfolio at September
30, 2007 and December 31, 2006, respectively. This 31 basis point decrease
is
related to the transfer of loan loss allowance associated with loans transfered
to held for sale at September 30, 2007,
Oak
Hill Financial, Inc.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
For
the
nine and three month periods ended September 30, 2007 and 2006
Net
charge-offs totaled approximately $1.8 million for the nine months ended
September 30, 2007 and 2006. The Company’s allowance represented 86.4% and 95.2%
of the nonperforming loans, which totaled $15.2 million and $13.6 million at
September 30, 2007 and December 31, 2006, respectively. At September 30, 2007,
nonperforming loans were comprised of $8.4 million of loans secured primarily
by
commercial real estate, $1.7 million in commercial and other loans, $4.8 million
secured by one-to-four family residential real estate, and $392,000 in
installment and credit card loans. Approximately $11.4 million of non-performing
loans at September 30, 2007 are recorded as held for sale and appropriately
recorded at estimated fair value. In management’s opinion, based upon its
ongoing review, knowledge, and current information, the carrying value of
commercial and non-residential credits are appropriate
and
all nonperforming loans were adequately collateralized
or reserved for at September 30, 2007.
Deposits
totaled $950.4 million at
September 30, 2007, an increase of $7.5 million, or 0.8%, over the total at
December 31, 2006. Total savings and time deposits increased by $8.2 million,
or
1.0%, during the period. Total demand deposits decreased by $767,000, or 0.8%,
during the period. Brokered deposits totaled $34.9 million, or 3.7% of total
deposits, with a weighted-average cost of 4.50% at September 30, 2007, as
compared to the $39.5 million, or 4.2% of total deposits, with a 3.87%
weighted-average cost at December 31, 2006. Proceeds from deposit growth were
used primarily to fund loan originations and to pay down FHLB
advances.
Advances
from the Federal Home Loan
Bank totaled $148.1 million at September 30, 2007, a decrease of $9.5 million,
or 6.0%, from the total at December 31, 2006. Securities sold under agreements
to repurchase totaled $57.5 million at September 30, 2007, an increase of $1.2
million, or 2.1%, over the total at December 31, 2006.
The
Company’s stockholders’ equity amounted to $90.4 million at September 30, 2007,
a decrease of $389,000, or 0.4%, from the balance at December 31, 2006. The
decrease resulted primarily from dividends of $3.4 million and a $213,000
increase in the unrealized loss on securities available for sale, net of tax,
which was partially offset by net earnings of $1.9 million and proceeds from
options and related tax benefits of $1.2 million.
Comparison
of Results of Operations for the Nine-Month Periods Ended September 30, 2007
and
2006
General
Net
earnings for the nine months ended September 30, 2007 totaled $1.9 million,
a
$7.7 million, or 80.1%, decrease from net earnings reported in the comparable
2006 period. The decrease in earnings resulted primarily from a $10.9 million
mark to market adjustment on loans held for sale, a $690,000 increase in
general, administrative and other expenses, and a $699,000 decrease in net
interest income, which were partially offset by a $4.4 million decrease in
the
provision for federal income tax expense and a $408,000 increase in total other
income.
Net
Interest Income
Total
interest income for the nine months ended September 30, 2007, amounted to $63.7
million, an increase of $4.6 million, or 7.9%, over the comparable 2006 period.
Interest income on loans totaled $57.6 million, an increase of $3.7 million,
or
6.8%, over the 2006 period. This increase resulted primarily from a $9.2
million, or 0.9%, increase in the average portfolio balance, to a total of
$1.0
billion for the nine months ended September 30, 2007, coupled with a 41 basis
point increase in the average fully-taxable equivalent yield, to 7.43% for
the
nine month period ended September 30, 2007. Interest income on investment
securities and other interest-earning assets increased by $982,000, or 19.1%.
This increase resulted primarily from an $18.8 million, or 12.4%, increase
in
the average portfolio balance, to a total of $170.3 million for the nine months
ended September 30, 2007, coupled with a 16 basis point increase in the average
fully-taxable equivalent yield, to 5.51% for the nine months ended September
30,
2007.
Total
interest expense amounted to $35.6 million for the nine months ended September
30, 2007, an increase of $5.3 million, or 17.7%, over the comparable 2006
period. Interest expense on deposits increased by $3.4 million, or 14.5%, to
a
total of $26.7 million for the nine months ended September 30, 2007. The
increase resulted primarily from a 94 basis point increase in the average cost
of deposits, to 4.15%, which was partially offset by a $112.7 million, or 11.6%,
decrease in the average portfolio balance for the nine months ended September
30, 2007. Interest expense on borrowings increased by $2.0 million, or 28.5%,
for the nine months ended September 30, 2007. The increase was due to a $52.4
million, or 29.1%, increase in the average borrowings outstanding for the nine
months ended September 30, 2007, which was partially offset by a 2 basis point
decrease in the average cost of borrowings, to 5.11% for the nine months ended
September 30, 2007.
Oak
Hill Financial, Inc.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
For
the
nine and three month periods ended September 30, 2007 and 2006
As
a result of the foregoing changes in
interest income and interest expense, net interest income decreased by $699,000,
or 2.4%, for the nine months ended September 30, 2007, as compared to the same
period in 2006. The interest rate spread decreased by 50 basis points, to 2.80%
for the nine months ended September 30, 2007, compared to 3.30% for the nine
months ended September 30, 2006. The fully-taxable equivalent net interest
margin decreased by 16 basis points, from 3.39% to 3.23% for the nine months
ended September 30, 2006 and 2007, respectively.
Provision
for Losses on Loans
A
provision for losses on loans is charged to earnings to bring the total
allowance for loan losses to a level considered appropriate by management based
on historical experience, the volume and type of lending conducted by the
Company, the status of past due principal and interest payments, general
economic conditions, particularly as such conditions relate to the Company’s
market area, and other factors related to the collectibility of the Company’s
loan portfolio. As a result of such analysis, management recorded a
$1.9 million provision for losses on loans for the nine months ended September
30, 2007, an increase of $218,000, compared to same period in 2006. The
provision recorded was predicated on net charge-offs of $1.8
million, offset by an approximate $600,000 reduction in allowance
allocations due to improvement in the credit quality of internally classified
loans.
Other
Income (Loss)
Other
income (loss) totaled a loss of $425,000 for the nine months ended September
30,
2007, a decrease of $10.5 million, from the amount reported in the comparable
2006 period. This decrease resulted primarily from a $10.9 million mark to
market adjustment, coupled with a $317,000 increase in loss on sale of other
real estate owned, a $305,000, or 41.1%, decrease in gain on sale of loans,
and
a $70,000, or 2.7%, decrease in commission income offset by a $996,000
non-taxable gain recorded on insurance proceeds from bank owned life insurance,
a $30,000, or 20.7%, increase in gain on sale of securities, and a $121,000,
or
1.9%, increase in service fees, charges and other income. The mark to market
adjustment on the loans held for sale is related to the $33.3 million of gross
loans WesBanco identified as outside the parameters of their internal lending
policy. The increase in service charges and other income resulted primarily
from
a $384,000, or 9.6%, increase in service charges and deposits, a $174,000,
or
22.2%, increase in ATM fees, and $5,000, or 10.0%, increase in credit card
fee
income, which were partially offset by a decrease in other miscellaneous
non-interest income income totaling $572,000, the effects of amortization and,
impairment of mortgage servicing asset which decreased $122,000, and a $66,000
decrease in real estate servicing fees. The $305,000 decline on gain on sale
of
loans is attributable to a decrease in sales volume of Small Business
Administration and residential real estate loans with contributing effects
of
$195,000 and $110,000, respectively. The increase in the loss on sale
of other real estate owned is attributable to the sale during the period of
a
REO property with a carrying value totaling $3.0 million.
General,
Administrative and Other Expense
General,
administrative and other expense totaled $25.7 million for the nine months
ended
September 30, 2007, an increase of $690,000, or 2.8%, over the amount reported
in the 2006 period. The increase resulted primarily from a $608,000, or 4.8%,
increase in employee compensation and benefits, a $404,000, or 13.3%, increase
in occupancy and equipment expense, and a $327,000 increase in merger-related
expenses in 2007, which were partially offset by a $395,000, or 5.4%, decrease
in other operating expenses, a $72,000, or 6.7%, decrease in franchise taxes,
and a $175,000, or 23.6%, decrease in amortization of core deposit
intangible.
The
increase in occupancy and equipment expense was due primarily to a $195,000,
or
23.0%, increase in maintenance contracts and a $132,000, or 11.2%, increase
in
depreciation expense associated with the Company’s expansion in
2006. Additionally, the Company experienced a $63,000, or 11.1%,
increase in utilities, property taxes and insurance, which was partially offset
by a $13,000, or 2.6% decrease in rent expense net of rental
income. The increase in compensation and benefits resulted primarily
from a $377,000, or 21.5%, decrease in the amortization of net loan costs
associated with SFAS No. 91, a $223,000, or 1.8%, increase in salaries and
wages, and a $75,000, or 7.7%, increase in payroll taxes, which were partially
offset by a $6,000, or 0.8%, decrease in group insurance expense and a $63,000,
or 39.4%, decrease in other employee benefits. The decrease in other
expenses resulted primarily from a $152,000 decrease in costs associated with
improvements to the Company’s core processing system, a $368,000, or 69.1%,
decrease in dealer participation expense, a $202,000, or 37.4%, decrease in
marketing expense, a $31,000 favorable mark-to-market adjustment on the
Company’s interest rate swaps, and a $79,000, or 44.3%, decrease in commissions
paid, which were partially offset by a $359,000, or 43.5%, increase in credit
and collection expense, a $134,000, or 26.3%, increase in ATM expense, a
$55,000, or 60.5%, increase in employee training, a $27,000, or 7.1%, increase
in courier expense, and a $60,000, or 50.5%, increase in losses associated
with
bad checks and overdrafts in 2007.
Oak
Hill Financial, Inc.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
For
the
nine and three month periods ended September 30, 2007 and 2006
Federal
Income Taxes
The
federal income tax benefit amounted to $1.8 million for the nine months ended
September 30, 2007, a decrease of $4.4 million compared to the a provision
of
$2.6 million for the same period in 2006. The decrease resulted primarily from
a
$12.1 million, or 99.1%, decrease in earnings before taxes, coupled with a
$50,000 increase in New Markets Tax Credits pursuant to the Bank’s qualified
investment in Oak Hill Community Development Corp. and the absence of tax
effects associated with the $996,000 non-taxable gain related to insurance
proceeds from bank owned life insurance.
Comparison
of Results of Operations for the Three-Month Periods Ended September 30, 2007
and 2006
General
Net
loss
for the three months ended September 30, 2007 totaled $4.6 million, a $7.8
million decrease from the net earnings of $3.2 million reported in the
comparable 2006 period. The decrease in earnings resulted primarily from an
$11.0 million decrease in other income (loss) from the effects of the $10.9
million mark to market adjustment on loans transferred to held for sale, a
$666,000 increase in the provision for losses on loans, a $100,000 decrease
in
net interest income, and a $97,000 increase in general, administrative and
other
expenses, which were partially offset by a $4.0 million decrease in the
provision for federal income tax.
Net
Interest Income
Total
interest income for the three months ended September 30, 2007, totaled $21.6
million, an increase of $1.1 million, or 5.4%, from the comparable 2006 period.
Interest income on loans totaled $19.5 million, an increase of $772,000, or
4.1%, over the 2006 period. This increase resulted primarily from a $7.9
million, or 0.8%, increase in the average portfolio balance, to a total of
$1.0
billion for the three months ended September 30, 2007, coupled with a 23 basis
point increase in the average fully-taxable equivalent yield, to 7.45% for
the
three month period ended September 30, 2007. Interest income on investment
securities and other interest-earning assets increased by $333,000, or 18.5%.
This increase resulted primarily from a $15.0 million, or 9.5%, increase in
the
average portfolio balance, to a total of $173.2 million for the three months
ended September 30, 2007, coupled with a 32 basis point increase in the average
fully-taxable equivalent yield, to 5.59% for the three months ended September
30, 2007.
Total
interest expense amounted to $12.1 million for the three months ended September
30, 2007, an increase of $1.2 million, or 11.1%, over the comparable 2006
period. Interest expense on deposits increased by $813,000, or 9.9%, to a total
of $9.1 million for the three months ended September 30, 2007. The increase
resulted primarily from a 73 basis point increase in the average cost of
deposits, to 4.13%, which was partially offset by an $92.9 million, or 9.6%,
decrease in the average portfolio balance, to a total of $870.4 million for
the
three months ended September 30, 2007. Interest expense on borrowings increased
by $392,000, or 15.1%, for the three months ended September 30, 2007. The
increase was due to a $27.8 million, or 14.0%, increase in the average
borrowings outstanding for the three months ended September 30, 2007 and a
5
basis point increase in the average cost of borrowings, to 5.22% for the three
months ended September 30, 2007.
As
a result of the foregoing changes in
interest income and interest expense, net interest income decreased by $100,000,
or 1.0%, for the three months ended September 30, 2007, as compared to the
same
period in 2006. The interest rate spread decreased by 43 basis points, to 2.83%
for the three months ended September 30, 2007, compared to 3.26% for the three
months ended September 30, 2006. The fully-taxable equivalent net interest
margin decreased by 10 basis points, from 3.34% to 3.24% for the three months
ended September 30, 2006 and 2007, respectively.
Provision
for Losses on Loans
A
provision for losses on loans is charged to earnings to bring the total
allowance for loan losses to a level considered appropriate by management based
on historical experience, the volume and type of lending conducted by the
Company, the status of past due principal and interest payments, general
economic conditions, particularly as such conditions relate to the Company’s
market area, and other factors related to the collectibility of the Company’s
loan portfolio. As a result of such analysis, management recorded a
$1.1 million provision for losses on loans for the three months ended September
30, 2007, an increase of $666,000 compared to same period in 2006. The provision
for losses on loans for the three months ended September 30, 2007 was primarily
related to $780,000 in net charge-offs offset by an approximate
$600,000 reduction in allowance allocations related to improvement in the credit
quality of internally classified loans.
Oak
Hill Financial, Inc.
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF
FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
For
the
nine and three month periods ended September 30, 2007 and 2006
Other
Income (Loss)
Other
income (loss) totaled a loss of $7.7 million for the three months ended
September 30, 2007, a decrease of $11.0 million, from the amount reported in
the
comparable 2006 period. This decrease resulted primarily from the mark to market
charge on the $33.3 million in gross loans transferred to held for sale, a
$127,000, or 14.3%, decrease in commission income, a $113,000, or 56.5%,
decrease in gain on sale of loans, and a $14,000, or 11.1%, decrease in earnings
on bank owned life insurance, which were partially offset by a $13,000, or
31.7%, increase in gain on sale of securities, the absence of a $12,000 loss
on
sale of other real estate owned, and a $180,000, or 8.7%, increase in service
fees, charges and other income. The mark to market adjustment on the loans
held
for sale is related to the $33.3 million of gross loans WesBanco identified
as
outside the parameters of their internal lending policy. The increase in service
charges and other income was due to the effects of amortization and, impairment
of mortgage servicing assets totaling $44,000, a $24,000 decrease in real estate
servicing fees, and a decrease in other miscellaneous non-interest income
totaling $32,000, which were partially offset by an increase of $149,000 in
service charges and deposits and an increase in ATM fees totaling $51,000 in
the
2007 quarter.
General,
Administrative and Other Expense
General,
administrative and other expense totaled $8.6 million for the three months
ended
September 30, 2007, an increase of $97,000, or 1.1%, over the amount reported
in
the 2006 period. The increase resulted primarily from a $327,000 increase in
merger-related expenses, a $94,000, or 2.2%, increase in employee compensation
and benefits, and an $83,000, or 7.8%, increase in occupancy and equipment,
which were partially offset by an $407,000, or 13.4%, net decrease in the
operating expense categories of deposit insurance, amortization of core deposit
intangible, franchise taxes, and other operating expenses.
The
increase in occupancy and equipment expense was due primarily to a $50,000,
or
17.4%, increase in maintenance contracts, a $26,000, or 6.2%, increase in
depreciation expense, and an $8,000, or 6.3%, increase in rent expense net
of
rental income, which were partially offset by a $1,000 or 0.6%, decrease in
utilities, property taxes and insurance. The increase in compensation and
benefits resulted primarily from an $111,000, or 2.7%, increase in salaries
and
wages, a $36,000, or 12.6%, increase in payroll taxes, and an $8,000, or 1.7%,
decrease in net loan costs capitalized pursuant to SFAS No. 91, which were
partially offset by a $42,000, or 59.7%, decrease in other employee benefits,
a
$14,000, or 19.0%, decrease in directors’ fees and a $7,000, or 2.6%, decrease
in group insurance. The increase in other expenses resulted primarily
from a $137,000, or 49.8%, increase in credit and collection expense, a $84,000,
or 30.4%, increase in franchise tax expense, a $44,000, or 25.0%, increase
in
ATM expense, a $32,000 increase in cash shortages and overages, a $22,000,
or
33.3%, increase in computer and PC expense, and a $10,000, or 35.8%, increase
in
employee training, which were partially offset by a $94,000, or 26.5%, decrease
in professional fees, a $92,000 decrease in dealer participation expense, a
$77,000, or 45.9%, decrease in marketing expense, $51,000, or 74.7%, decrease
in
commissions paid, a $45,000, or 30.8%, decrease in travel expense, and a $31,000
favorable mark-to-market adjustment on the Company’s interest rate
swaps.
Federal
Income Taxes
The
federal income tax benefit amounted $3.2 million for the three months ended
September 30, 2007, compared to the $861,000 provision recorded in the
comparable period in 2006. The decrease resulted primarily from an $11.9 million
decrease in earnings before taxes, coupled with a $25,000 increase in New
Markets Tax Credits pursuant to the Bank’s qualified investment in Oak Hill
Community Development Corp.
Subsequent
Event
In
October, 2007, Oak Hill Banks
Community Development Corporation (“OHCDC”), a wholly-owned subsidiary, was
selected by the United States Department of the Treasury to receive tax credit
allocations under the New Markets Tax Credit program on up to $40.0 million
invested in OHCDC by the Company’s primary subsidiary, Oak Hill Banks. In
return, Oak Hill Banks will be eligible to earn tax credits equal to 39% of
the
amount invested over the next seven years.