U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10- KSB
[ 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
[ ] 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 000-29599
PATRIOT NATIONAL BANCORP, INC.
(Name of small business issuer in its charter)
Connecticut 06-1559137
(State or other jurisdiction (IRS Employer Identification Number)
of incorporation or organization)
900 Bedford Street
Stamford, Connecticut 06901
(Address of principal executive offices) (Zip Code)
Issuer's telephone number (203) 324-7500
Securities registered under Section 12(b) of the Exchange Act:
None
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, par value $2.00 per share
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
past 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
Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will 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-KSB or any amendment to this Form 10-KSB. [ ]
State issuer's revenue for its most recent fiscal year: $ 20,028,442
----------
Aggregate market value of the voting stock held by nonaffiliates of the
registrant as of February 28, 2004 based on the last sale price as
reported on the NASDAQ Small Cap Market: $ 21,348,833.
----------
Number of shares of the registrant's Common Stock, par value $2.00 per
share, outstanding as of February 28, 2004: 2,412,774.
---------
Documents Incorporated by Reference
-----------------------------------
Proxy Statement for 2004 Annual Incorporated into Part III
Meeting of Shareholders. (A definitive Form 10-KSB
proxy statement will be filed with the
Securities and Exchange Commission within
120 days after the close of the fiscal year
covered by this Form 10-KSB.)
Transitional Small Business Disclosure Format (check one):
Yes No X
Table of Contents
Part I
------
Item 1. Description of Business
Item 2. Description of Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
Part II -------
Item 5. Market for Common Equity and Related Shareholder Matters
Item 6. Management's Discussion and Analysis or Plan of Operation
Item 7. Financial Statements
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Item 8A. Controls and Procedures
Part III --------
Item 9. Directors and Executive Officers of the Registrant
Item 10. Executive Compensation
Item 11. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters
Item 12. Certain Relationships and Related Transactions
Item 13. Exhibits and Reports on Form 8-K
Item 14. Principal Accountant Fees and Services
PART I
Item 1. Description of Business
-----------------------
Patriot National Bancorp, Inc. ("Bancorp"), a Connecticut corporation,
was organized in 1999 for the purpose of becoming a one-bank holding
company (the "Reorganization") for Patriot National Bank, a national
banking association headquartered in Stamford, Fairfield County,
Connecticut (the "Bank"). Following receipt of regulatory and
shareholder approvals, the Reorganization became effective as of the
opening of business on December 1, 1999. Upon consummation of the
Reorganization, each outstanding share of Common Stock, par value $2.00
per share, of the Bank ("Bank Common Stock"), was converted into the
right to receive one share of Common Stock, par value $2.00 per share,
of Bancorp ("Bancorp Common Stock"), and each outstanding option or
warrant to purchase Bank Common Stock became an option or warrant to
purchase an equal number of shares of Bancorp Common Stock.
The Bank was granted preliminary approval by the Comptroller of the
Currency (the "OCC") on March 5, 1993. It received its charter and
commenced operations as a national bank on August 31, 1994. Since then,
the Bank has opened branch offices in Greenwich and Old Greenwich,
Connecticut in 1997 and 1999, respectively, two branch offices in
Norwalk, Connecticut, one in 2001 and a second in 2003, a second
Stamford location in 2003 and a branch office in Wilton, Connecticut in
2003. It recently received regulatory approval to open a branch office
in Darien, Connecticut.
On June 30, 1999, the Bank through its wholly-owned subsidiary, PinPat
Acquisition Corporation, acquired all of the outstanding capital stock
of Pinnacle Financial Corp., a Connecticut corporation, Pinnacle
Financial Corp., a New Jersey corporation, and Pinnacle Financial Corp.,
a New York corporation (collectively, "Pinnacle"), a residential
mortgage broker. Pinnacle surrendered its mortgage licenses and the
mortgage brokerage business of Pinnacle is now conducted through a
division of the Bank.
On March 11, 2003, Bancorp formed Patriot National Statutory Trust I
(the "Trust") for the sole purpose of issuing trust preferred securities
and investing the proceeds in subordinated debentures issued by Bancorp.
Bancorp primarily invested the funds from the issuance of the debt in
the Bank, which in turn used the proceeds to fund general operations of
the Bank.
As of the date hereof, the only business of Bancorp is its ownership of
all of the issued and outstanding capital stock of the Bank and the
Trust. Except as specifically noted otherwise herein, the balance of the
description of Bancorp's business is a description of the Bank's
business.
The Bank conducts business at its main office located at 900 Bedford
Street, Stamford, Connecticut and at branch offices located at 838 High
Ridge Road, Stamford, Connecticut, 100 Mason Street, Greenwich,
Connecticut, 184 Sound Beach Avenue, Old Greenwich, Connecticut, 16
River Street and 365 Westport Avenue in Norwalk, Connecticut and One
Danbury Road, Wilton Connecticut. The Bank also operates mortgage
origination offices at 71 Lewis Street, Greenwich, Connecticut and 20
Broad Hollow Road, Melville, New York.
The Bank offers a broad range of consumer and commercial banking
services with an emphasis on serving the needs of individuals, small and
medium-sized businesses and professionals. The Bank offers consumer and
commercial deposit accounts that include: checking accounts,
interest-bearing "NOW" accounts, insured money market accounts, time
certificates of deposit, savings accounts and IRA's (Individual
Retirement Accounts). Other services include money orders, traveler's
checks, ATM's (automated teller machines), internet banking and debit
cards. In addition, the Bank may in the future offer Keogh accounts and
other financial services. The Bank does not currently accept brokered
deposits.
The Bank offers commercial real estate and construction loans to area
businesses and developers. Real estate loans made to individuals include
home mortgages, home improvement loans, bridge loans and home equity
lines of credit. Other personal loans include lines of credit,
installment loans and credit cards. Commercial loans offered to small
and medium-sized businesses include secured and unsecured loans to
service companies, real estate developers, manufacturers, restaurants,
wholesalers, retailers and professionals doing business in the region.
The Bank offers residential mortgages through its mortgage brokerage
division Pinnacle Financial. Pinnacle solicits and processes
conventional mortgage loan applications from consumers on behalf of
permanent investors and originates loans for sale.
The Bank competes with all institutions in its market area. Most have
greater financial resources and capitalization, which gives them higher
lending limits and the ability to conduct larger advertising campaigns
to attract business. Generally the larger institutions offer services
such as trust and international banking which the Bank is not equipped
to offer directly. When the need arises, arrangements are made with
correspondent institutions to provide such services. To attract business
in this competitive environment, the Bank relies on local promotional
activities and personal contact by officers, directors and shareholders
and on its ability to offer personalized services.
The Bank does not offer trust services. If the Bank desires in the
future to offer trust services, prior approval of the OCC will be
required.
The customer base of the Bank is diversified so that there is not a
concentration of either loans or deposits within a single industry, a
group of industries, a single person or groups of people. The Bank is
not dependent on one or a few major customers for either its deposit or
lending activities, the loss of any one of which would have a material
adverse effect on the business of the Bank.
Residents and businesses in Stamford, Greenwich, Norwalk and Wilton,
Connecticut provide the majority of the Bank's deposits. The Bank has
focused its attention on serving the segment of its market area
historically served by community banks. The Bank competes in its market
by providing a high level of personalized and responsive banking service
for which the Bank believes there is a need. This area is bordered by
New York State to the west, the Town of Ridgefield to the north, the
Town of Westport to the east, and Long Island Sound to the south.
The Bank's loan customers extend beyond Stamford, Greenwich, Norwalk and
Wilton to include the adjacent towns in Fairfield County, Connecticut,
and towns in Westchester County, New York, although the Bank's loan
business is not necessarily limited to these areas. The Bank's mortgage
brokerage business is concentrated in the areas surrounding its loan
origination offices. While the Bank does not currently hold or intend to
attract significant deposit or loan business from major corporations
with headquarters in the Fairfield County area, the Bank believes that
the service, professional and related businesses which have been
attracted to this area, as well as the individuals that reside in this
area, represent current and potential customers of the Bank.
In the normal course of business and subject to applicable government
regulations, the Bank invests a portion of its assets in investment
securities, which may include certain debt and equity securities,
including government securities. An objective of the Bank's investment
policy is to seek to optimize its return on assets while limiting its
exposure to interest rate movements and to maintain adequate levels of
liquidity.
The Bank's employees perform most routine day-to-day banking
transactions at the Bank. However, the Bank has entered into a number of
arrangements with third parties for banking services such as
correspondent banking, check clearing, data processing services, credit
card processing and armored carrier service.
The Cities of Stamford and Norwalk and the Towns of Greenwich and Wilton
are presently served by approximately 130 branches of commercial banks
and savings banks, most of which are offices of banks which have
headquarters outside of the area or are subsidiaries of bank or
financial holding companies whose headquarters are outside of Stamford,
Greenwich, Norwalk or Wilton. In addition to banks with branches in the
same areas as the Bank, there are numerous banks and financial
institutions serving the communities surrounding these areas, which also
draw customers from Stamford, Greenwich, Norwalk and Wilton, posing
significant competition to the Bank for deposits and loans. Competition
can also be expected from out-of-state financial institutions, which may
establish or acquire offices in the Bank's service area and from other
local financial institutions which may be formed in the future. Many of
such banks and financial institutions are well established and well
capitalized.
In recent years, intense market demands, economic pressures and
significant legislative and regulatory actions have eroded banking
industry classifications which were once clearly defined and have
increased competition among banks, as well as other financial
institutions. This increase in competition has caused banks and other
financial service institutions to diversify their services and become
more cost effective as a result of competition with one another and with
new types of financial service companies, including non-bank
competitors. The impact on Bancorp of federal legislation authorizing
increased services by financial holding companies and interstate
branching of banks has resulted in increased competition. These events
have resulted in increasing homogeneity in the financial services
offered by banks and other financial institutions. The impact on banks
and other financial institutions of these market dynamics and
legislative and regulatory changes has been increased customer awareness
of product and service differences among competitors and increased
merger activity.
As a bank holding company, Bancorp's operations are subject to
regulation, supervision and examination by the Board of Governors of the
Federal Reserve Board (the "Federal Reserve Board"). The Federal Reserve
Board has established capital adequacy guidelines for bank holding
companies that are similar to the OCC's capital guidelines applicable to
the Bank. The Bank Holding Company Act of 1956, as amended (the "BHC
Act"), limits the types of companies that a bank holding company may
acquire or organize and the activities in which it or they may engage.
In general, bank holding companies and their subsidiaries are only
permitted to engage in or acquire direct control of any company engaged
in banking or in a business so closely related to banking as to be a
proper incident thereto. Federal legislation enacted in 1999 authorizes
certain entities to register as financial holding companies. Registered
financial holding companies are permitted to engage in businesses,
including securities and investment banking businesses, which are
prohibited to bank holding companies. While the creation of financial
holding companies is evolving, to date, there has been no significant
impact on Bancorp.
Under the BHC Act, Bancorp is required to file annually with the Federal
Reserve Board a report of its operations. Bancorp, the Bank and any
other subsidiaries are subject to examination by the Federal Reserve
Board. In addition, Bancorp will be required to obtain the prior
approval of the Federal Reserve Board to acquire, with certain
exceptions, more than 5% of the outstanding voting stock of any bank or
bank holding company, to acquire all or substantially all of the assets
of a bank or to merge or consolidate with another bank holding company.
Moreover, Bancorp, the Bank and any other subsidiaries are prohibited
from engaging in certain tying arrangements in connection with any
extension of credit or provision of any property or services. The Bank
is also subject to certain restrictions imposed by the Federal Reserve
Act on issuing any extension of credit to Bancorp or any of its
subsidiaries or making any investments in the stock or other securities
thereof and on the taking of such stock or securities as collateral for
loans to any borrower. If Bancorp wants to engage in businesses
permitted to financial holding companies but not to bank holding
companies, it would need to register with the Federal Reserve Board as a
financial holding company.
The Federal Reserve Board has issued a policy statement on the payment
of cash dividends by bank holding companies, which expresses the Federal
Reserve Board's view that a bank holding company should pay cash
dividends only to the extent that bank holding company's net income for
the past year is sufficient to cover both the cash dividend and a rate
of earnings retention that is consistent with the bank holding company's
capital needs, asset quality and overall financial condition. The
Federal Reserve Board has also indicated that it would be inappropriate
for a company experiencing serious financial problems to borrow funds to
pay dividends. Furthermore, under the prompt corrective action
regulations adopted by the Federal Reserve Board pursuant to applicable
law, the Federal Reserve Board may prohibit a bank holding company from
paying any dividends if the bank holding company's bank subsidiary is
classified as "undercapitalized."
A bank holding company is required to give the Federal Reserve Board
prior written notice of any purchase or redemption of its outstanding
equity securities, if the gross consideration for the purchase or
redemption, when combined with the net consideration paid for all such
purchases or redemptions during the preceding 12 months, is equal to 10%
or more of its consolidated retained earnings. The Federal Reserve Board
may disapprove such a purchase or redemption if it determines that the
proposal would constitute an unsafe or unsound practice or would violate
any law, regulation, Federal Reserve Board order, or any condition
imposed by, or written agreement with, the Federal Reserve Board.
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994,
("Riegle-Neal Act") was enacted to ease restrictions on interstate
banking. Effective September 29, 1995, the Riegle-Neal Act allows the
Federal Reserve Board to approve an application of an adequately
capitalized and adequately managed bank holding company to acquire
control of, or acquire all or substantially all or the assets of, a bank
located in a state other than such holding company's state, without
regard to whether the transaction is prohibited by the laws of any
state. The Federal Reserve Board may not approve the acquisition of a
bank that has not been in existence for the minimum time period (not
exceeding five years) specified by the statutory law of the host state.
The Riegle-Neal Act also prohibits the Federal Reserve Board from
approving an application if the applicant (and its depository
institution affiliates) controls or would control more than 10% of the
insured deposits in the United States or 30% or more of the deposits in
the target bank's home state or in any state in which the target bank
maintains a branch. The Riegle-Neal Act does not affect the authority of
states to limit the percentage of total insured deposits in the state
which may be held or controlled by a bank or bank holding company to the
extent that such limitation does not discriminate against out-of-state
banks or bank holding companies. Individual states may also waive the
30% statewide concentration limits contained in the Riegle-Neal Act.
Bancorp is subject to capital adequacy rules and guidelines issued by
the OCC, the Federal Reserve Board and the Federal Deposit Insurance
Corporation ("FDIC"), and the Bank is subject to capital adequacy rules
and guidelines issued by the OCC. These substantially identical rules
and guidelines require Bancorp to maintain certain minimum ratios of
capital to adjusted total assets and/or risk-weighted assets. Under the
provisions of the Federal Deposit Insurance Corporation Improvements Act
of 1991, the Federal regulatory agencies are required to implement and
enforce these rules in a stringent manner. Bancorp is also subject to
applicable provisions of Connecticut law insofar as they do not conflict
with or are not otherwise preempted by Federal banking law.
Bancorp is subject to the reporting requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and, in
accordance with the Exchange Act, files periodic reports, proxy
statements and other information with the SEC.
The Bank's operations are subject to regulation, supervision and
examination by the OCC and the FDIC.
Federal and state banking regulations regulate, among other things, the
scope of the business of a bank, a bank holding company or a financial
holding company, the investments a bank may make, deposit reserves a
bank must maintain, the nature and amount of collateral for certain
loans a bank makes, the establishment of branches and the activities of
a bank with respect to mergers and acquisitions. The Bank is a member of
the Federal Reserve System and is subject to applicable provisions of
the Federal Reserve Act and regulations thereunder. The Bank is subject
to the federal regulations promulgated pursuant to the Financial
Institutions Supervisory Act to prevent banks from engaging in unsafe
and unsound practices, as well as various other federal and state laws
and consumer protection laws. The Bank is also subject to the
comprehensive provisions of the National Bank Act.
The OCC regulates the number and locations of the branch offices of a
national bank. The OCC may only permit a national bank to maintain
branches in locations and under the conditions imposed by state law upon
state banks. At this time, applicable Connecticut banking laws do not
impose any material restrictions on the establishment of branches by
Connecticut banks throughout Connecticut.
The earnings and growth of Bancorp, the Bank and the banking industry
are affected by the monetary and fiscal policies of the United States
Government and its agencies, particularly the Federal Reserve Board. The
Open Market Committee of the Federal Reserve Board implements national
monetary policy to curb inflation and combat recession. The Federal
Reserve Board uses its power to adjust interest rates in United States
Government securities, the Discount Rate and deposit reserve retention
rates. The actions of the Federal Reserve Board influence the growth of
bank loans, investments and deposits. They also affect interest rates
charged on loans and paid on deposits. The nature and impact of any
future changes in monetary policies cannot be predicted.
In addition to other laws and regulations, Bancorp and the Bank are
subject to the Community Reinvestment Act ("CRA"), which requires the
Federal bank regulatory agencies, when considering certain applications
involving Bancorp or the Bank, to consider Bancorp's and the Bank's
record of helping to meet the credit needs of its entire community,
including low- and moderate-income neighborhoods. The CRA was originally
enacted because of concern over unfair treatment of prospective
borrowers by banks and over unwarranted geographic differences in
lending patterns. Existing banks have sought to comply with CRA in
various ways; some banks have made use of more flexible lending criteria
for certain types of loans and borrowers (consistent with the
requirement to conduct safe and sound operations), while other banks
have increased their efforts to make loans to help meet identified
credit needs within the consumer community, such as those for home
mortgages, home improvements and small business loans. For example, this
may include participation in various government insured lending
programs, such as Federal Housing Administration insured or Veterans
Administration guaranteed mortgage loans, Small Business Administration
loans, and participation in other types of lending programs such as high
loan-to-value ratio conventional mortgage loans with private mortgage
insurance. To date, the market area from which the Bank draws much of
its business is Stamford, Greenwich, Norwalk and Wilton, which are
characterized by a very diverse ethnic, economic and racial
cross-section of the population. As the Bank expands further, the market
areas served by the Bank will continue to evolve. Bancorp and the Bank
have not and will not adopt any policies or practices, which discourage
credit applications from, or unlawfully discriminate against,
individuals or segments of the communities served by the Bank.
Bancorp does not anticipate that compliance with applicable federal and
state banking laws will have a material adverse effect on its business
or the business of the Bank. Neither Bancorp nor the Bank has any
material patents, trademarks, licenses, franchises, concessions and
royalty agreements or labor contracts, other than the charter granted to
the Bank by the OCC. The Bank has, however, registered the trademark
"Patriot" and the corresponding logo with the State of Connecticut
Trademark Office. Compliance by Bancorp and the Bank with federal, state
and local provisions which have been enacted or adopted regulating or
otherwise relating to the discharge of material into the environment is
not expected to have a material effect upon the capital expenditures,
earnings or competitive position of Bancorp.
As of December 31, 2003, Bancorp had 84 full-time employees and six
part-time employees. None of the employees of Bancorp is covered by a
collective bargaining agreement.
Item 2. Description of Properties
-------------------------
The Bank leases approximately 12,000 square feet of office space located
at 900 Bedford Street, Stamford, Connecticut, which is used for its main
office and as the corporate offices of Bancorp. Such space is adequate
for Bancorp's and the Bank's current needs. The entire building is being
leased by the Bank for a term of ten years, which commenced on September
1, 1994. The Bank's lease also provides the Bank with a right of first
refusal to purchase the building in the event the owner of the property
receives an offer to purchase the building from a third party which it
wishes to accept, on the same terms and conditions of such offer,
subject to the terms of the lease. The Bank renewed this lease for a
term of ten years commencing September 1, 2004 at a fixed rent for the
first year with rent increases for the remainder of the term based on
increases in the consumer price index. The lease provides for a
five-year renewal after the initial term at the Bank's option. The Bank
currently occupies approximately 90% of the space in the 900 Bedford
Street building. The Bank has sublet the remaining space under a
sublease having a maturity which coincides with the Bank's lease
maturity. The business of the subtenant of the Bank is a law practice.
See also, "Item 12. Certain Relationships and Related Transactions."
The Bank has entered into an agreement for additional parking at an
annual rent of $18,000 which lease expires on January 31, 2005.
The Bank leases approximately 5,000 square feet of office space on the
first floor located at 100 Mason Street, Greenwich, Connecticut which
includes the 71 Lewis Street office of Pinnacle. The lease has a
five-year term commencing July 1, 2002 at an initial annual rent of
$246,000, which rent will increase by approximately 3% each consecutive
year. The lease provides for two additional five-year renewals after the
initial term at the Bank's option.
The Bank leases approximately 1,300 square feet of office space at 184
Sound Beach Avenue, Old Greenwich, Connecticut. The lease was renewed on
December 31, 2003 at a fixed annual rent of $54,000.
The Bank leases approximately 2,100 square feet of office space at 16
River Street, Norwalk, Connecticut. The lease commenced on January 1,
2001 with a five-year term at an initial annual rent of $27,648 with
annual increases of approximately 2.4% through the fifth year of the
lease. The lease provides for a five-year renewal after the initial term
at the Bank's option.
The Bank leases approximately 1,200 square feet of office space at 20
Broad Hollow Road, Melville, New York for a Pinnacle mortgage
origination office. The lease commenced on April 1, 2002 at an initial
annual rent of $23,400 with a three-year term, which rent will increase
by approximately 5% each consecutive year. The lease provides for a
three-year renewal after the initial term at the Bank's option.
The Bank leases approximately 1,250 square feet of office space at 365
Westport Avenue, Norwalk Connecticut. The lease commenced on January 1,
2003 with a five-year term at an annual rent of $36,240, which rent will
increase based on increases in the Consumer Price Index. The lease
provides for three five-year renewals after the initial term at the
Bank's option.
The Bank leases approximately 3,032 square feet of office space at 838
High Ridge Road, Stamford Connecticut. The lease commenced on April 1,
2003 at an annual rent of $100,056 for an initial term of ten years,
which rent will increase by approximately 3% during the third year;
during years four through ten, increases will be based on increases in
the Consumer Price Index. The lease provides for a ten-year renewal
after the initial term at the option of the Bank. The Bank currently
occupies 95% of the space in the 838 High Ridge Road facility. The Bank
has licensed the remaining space under a licensing agreement with an
attorney. See also, "Item 12. Certain Relationships and Related
Transactions."
The Bank leases approximately 2,000 square feet of office space at One
Danbury Road, Wilton, Connecticut. The lease commenced on April 1, 2003
at an annual rent of $53,700 for an initial term of ten years, which
rent will increase each year thereafter based on increases in the
consumer price index. The lease provides for a five-year renewal after
the initial term at the option of the Bank.
The Bank leases approximately 3,900 square feet of office space at 1177
Summer Street, Stamford, Connecticut for a Pinnacle mortgage origination
office which is relocating from the 71 Lewis Street, Greenwich,
Connecticut location. The lease commenced on March 19, 2004 at an annual
rent of $90,800 for an initial term of five years, which rent will
increase $3,900 per year in years two through five. The lease provides
for two five-year renewal periods after the initial term at the Bank's
option.
The Bank leases approximately 2,400 square feet of office space at 800
Post Road, Darien, Connecticut for the purpose of establishing a branch
office; it is anticipated that the Darien location will open for
business in the second quarter of 2004. The lease commences on April 15,
2004 at an annual rent of $86,500 for an initial term which expires
October 15 ,2004, which rent will increase by approximately 8.5% after
the fifth year. The lease provides for a five-year renewal after the
initial term at the option of the Bank.
All leased properties described above are in good condition.
Item 3. Legal Proceedings
-----------------
Neither Bancorp nor the Bank has any pending legal proceedings, other
than ordinary routine litigation incidental to its business, to which
Bancorp or the Bank is a party or any of its property is subject.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
During the fourth quarter of 2003, no matter was submitted to a vote of
shareholders.
PART II
Item 5. Market for Common Equity and Related Shareholder Matters
--------------------------------------------------------
Market Information
------------------
The Bancorp Common Stock is traded on the NASDAQ Small Cap Market under
the Symbol "PNBK." On December 31, 2003, the last sale price for Bancorp
Common Stock on NASDAQ Small Cap Market was $12.50.
The following table sets forth the high and low sales price and
dividends per share of Bancorp Common Stock for the last two fiscal
years for each quarter as reported on the NASDAQ Small Cap Market.
2003 2002
-----------------------------------------------------
Sales Price Cash Sales Price Cash
------------- Dividends -------------- Dividends
Quarter Ended High Low Declared High Low Declared
------------- ------------------------ --------------------------
March 31 $ 10.56 $ 9.50 $ 0.025 $ 8.50 $ 8.10 $ 0.020
June 30 10.80 9.10 0.030 8.50 8.00 0.025
September 30 11.45 9.65 0.030 8.80 8.05 0.025
December 31 12.50 10.76 0.030 10.66 8.30 0.025
Holders
-------
There were approximately 881 shareholders of record of Bancorp Common
Stock as of December 31, 2003.
Dividends
---------
2001 marked the first year in which Bancorp paid a dividend on Bancorp
Common Stock; during the second quarter of 2002 and 2003 the quarterly
dividend was increased by 25% and 20%, respectively . Bancorp's ability
to pay future dividends on its Common Stock depends on the Bank's
ability to pay dividends to Bancorp. In accordance with OCC rules and
regulations, the Bank may continue to pay dividends only if the total
amount of all dividends that will be paid, including the proposed
dividend, by the Bank in any calendar year does not exceed the total of
the Bank's retained net income of that year to date, combined with the
retained net income of the preceding two years, unless the proposed
dividend is approved by the OCC. In addition, the OCC and/or the FDIC
may impose further restrictions on dividends. Future dividends depend on
many factors, including management's estimates of future earnings and
Bancorp's need for capital.
Recent Sales of Unregistered Securities
---------------------------------------
On December 31, 2003, Bancorp issued 7,482 shares of its Common Stock
upon the exercise of certain warrants that were granted by the Bank in
1994 in connection with its organization to persons who assisted the
Bank in meeting its pre-opening expenses. The exercise price per share
of these warrants is $6.00. The obligations under these warrants were
assumed by Bancorp at the time the Bank became a wholly owned subsidiary
of Bancorp.
The total amount received by Bancorp for these shares was $44,892. No
underwriter was used in connection with the sale of these 7,482 shares
nor were any underwriting discounts or commissions paid. Bancorp claims
an exemption from registration for the sale of these shares under Rule
504 of the Securities Act of 1933, on the basis that the aggregate
exercise price for all of the warrants issued to individuals involved in
the organization is less than $1,000,000.
Securities Authorized for Issuance under Equity Compensation Plans
------------------------------------------------------------------
The following table presents information as of December 31, 2003 for
equity compensation plans maintained by Bancorp.
Equity Compensation Plan Information
Number of Weighted- Number of Securities
Securities average remaining available for
to be issued price of future issuance under
upon exercise outstanding equity compensation
of outstanding options, plans (excluding
options, warrants warrants and securities reflected
rights rights in column (a))
------------------------------------------------------
(a) (b) (c)
------------------------------------------------------
Equity compensation
plans approved by
security holders 110,000 $10.13 -
Equity compensation
plans not approved by
security holders - - -
Total 110,000 $10.13 -
Item 6. Management's Discussion and Analysis or Plan of Operation
---------------------------------------------------------
Patriot National Bancorp, Inc
Financial Highlights
2003 2002 2001
---------------------------------------------
Operating Data
--------------
Interest and dividend
income $ 15,214,702 $ 12,604,718 $ 13,722,943
Interest expense 5,588,255 4,764,693 6,866,960
Net interest income 9,626,447 7,840,025 6,855,983
Provision for loan losses 563,000 468,000 250,000
Noninterest income 4,813,740 4,113,820 3,509,955
Noninterest expense 11,659,467 9,812,838 8,675,551
Net income 1,340,720 1,052,007 876,387
Basic income per share 0.56 0.44 0.37
Diluted income per share 0.55 0.43 0.36
Dividends per share 0.115 0.095 0.060
Balance Sheet Data
------------------
Cash and due from banks 4,023,732 5,385,757 7,544,242
Federal funds sold 15,000,000 3,000,000 12,700,000
Short term investmEnts 10,430,939 3,348,968 6,788,569
Investment securities 92,330,533 61,720,716 35,816,880
Loans, net 214,420,528 170,794,939 135,680,036
Total assets 342,469,049 248,496,753 202,569,457
Total deposits 289,992,182 217,911,260 183,263,939
Total borrowings 31,301,385 10,292,675 839,280
Total shareholders'
equity 18,779,913 18,544,955 17,406,016
2000 1999
----------------------------
Operating Data
--------------
Interest and dividend
income $14,694,135 $ 9,732,719
Interest expense 8,017,615 4,739,921
Net interest income 6,676,520 4,992,798
Provision for loan losses 325,900 553,000
Noninterest income 2,685,296 1,221,329
Noninterest expense 7,693,345 5,245,986
Net income 767,171 348,641
Basic income per share 0.34 0.17
Diluted income per share 0.33 0.16
Dividends per share - -
Balance Sheet Data
------------------
Cash and due from banks 3,656,071 2,685,031
Federal funds sold 29,500,000 18,900,000
Short term investmEnts - 10,976,264
Investment securities 34,073,832 33,003,494
Loans, net 126,411,265 107,769,911
Total assets 197,628,127 177,194,697
Total deposits 179,666,098 162,746,354
Total borrowings 945,270 888,687
Total shareholders'
equity 16,427,436 13,236,088
(a) Plan of Operation
Not applicable since Bancorp has had revenues from operations in each of
the last two fiscal years.
(b) Management's Discussion and Analysis of Financial Condition
and Results of Operations
Summary
Bancorp, for the fourth consecutive year, reported record earnings,
which were $1,341,000 ($0.56 basic income per share and $0.55 diluted
income per share) for 2003 compared to $1,052,000 ($0.44 basic income
per share and $0.43 diluted income per share) for 2002. Total assets
also ended the year at a new record high of $342.5 million, an increase
of $94.0 million from December 31, 2002.
Net interest income for the year ended December 31, 2003 increased $1.8
million or 22.8% to $9.6 million as compared to $7.8 million for the
year ended December 31, 2002.
Total assets increased by 37.8% during the year as total loans increased
from $170.8 million at December 31, 2002 to $214.4 million at December
31, 2003. The available for sale securities portfolio increased $30.0
million or 49.4% to $90.6 million from $60.6 million at December 31,
2002; this increase resulted from the investment of funds from the
proceeds of the issuance of subordinated debentures at the end of the
first quarter of 2003 and an interest rate leveraging strategy in which
purchases of mortgage backed securities during the second quarter of
2003 were funded by Federal Home Loan Bank advances. Increases in
commercial real estate and construction loans of $30.4 million and $17.9
million, respectively; and commercial and industrial loans of $2.5
million were partially offset by decreases in residential real estate
and home equity loans of $5.2 million and $1.2 million, respectively.
Loan growth was funded primarily through growth in total deposits.
Deposits increased $72.1 million to $290.0 million at December 31, 2003;
interest bearing deposits increased $67.1 million, or 34.9%, and
non-interest bearing deposits increased $5.0 million or 19.4%.
Borrowings increased $21.0 million due to the closing of the
subordinated debt transaction and the interest rate leveraging strategy
previously mentioned. The exercise of stock warrants combined with the
increase in retained earnings from net income, net of dividend payments,
partially offset by the decrease in other comprehensive income from
unrealized losses on the available for sale securities portfolio,
resulted in an increase of $235 thousand in shareholders' equity.
FINANCIAL CONDITION
Assets
Bancorp's total assets increased $94.0 million or 37.8% from $248.5
million at December 31, 2002 to $342.5 million at December 31, 2003. The
growth in total assets was funded primarily by deposit and borrowings
growth of $72.1 million and $21.0 million, respectively, as well as net
income after dividend payments.
Investments
The following table is a summary of Bancorp's investment portfolio at
December 31 for the years shown.
2003 2002 2001
------------------------------------------
U. S. Government Agency
Obligations $ 11,865,618 $ 9,129,414 -
Mortgage backed
securities 66,696,465 38,461,159 10,243,418
Corporate bonds - 383,797 11,880,156
Marketable equity
securities 12,000,000 12,643,996 12,594,356
Federal Reserve Bank
stock 691,150 481,050 481,050
Federal Home Loan Bank
stock 1,077,300 621,300 617,900
-------------------------------------------
Total Investments $ 92,330,533 $ 61,720,716 $ 35,816,880
===========================================
The available for sale portfolio increased $30.0 million to $90.6
million primarily due to purchases of U. S. Government Agency
Obligations and agency mortgage backed securities. A portion of the
increase in the mortgage backed securities portfolio was funded through
an increase in borrowings as part of an interest rate leveraging
strategy. The Bank is a member of the Federal Home Loan Bank of Boston
which provides an additional source of liquidity.
The following table presents the maturity distribution of available for
sale investment securities at December 31, 2003 and the weighted average
yield of such securities. The weighted average yields were calculated on
the amortized cost and effective yields to maturity of each security.
Over one Over five
One year through through
or less five years ten years
----------------------------------------
U. S. Government
agency obligations $ - $ 11,011,134 $ 1,006,977
Mortgage backed
securities - - -
Money market preferred
equity securities - - -
----------------------------------------
Total $ - $ 11,011,134 $ 1,006,977
----------------------------------------
Weighted average
yield -% 3.24% 4.38%
========================================
- continued -
Weighted
Over ten Average
years No maturity Total Yield
-------------------------------------------------
U.S. Government
agency obligations $ - $ - $ 12,018,111 3.34%
Mortgage backed
securities - 67,042,163 67,042,163 4.37%
Money market preferred
equity securities - 12,000,000 12,000,000 1.40%
------------------------------------------------
Total $ - $ 79,042,163 $ 91,060,274 3.84%
------------------------------------------------
Weighted average
yield -% 3.92% 3.84%
================================================
The following table presents a summary of investments for any issuer
that exceeds 10% of shareholders' equity at December 31, 2003.
Amortized Fair
Cost Value
---------------------------------------------------------------
Available for sale securities:
-----------------------------
U.S. Government agency obligations $ 12,018,111 $ 11,865,618
U.S. Government agency mortgage
backed securities 67,042,163 66,696,465
Short term investments:
----------------------
Merrill Lynch Premier
Institutional Fund 10,430,939 10,430,939
Loans
The following table is a summary of Bancorp's loan portfolio at December
31 for the years shown.
2003 2002 2001
------------------------------------------
Real Estate
Commercial $ 96,339,220 $ 65,967,205 $ 60,481,789
Construction 57,122,445 39,208,651 26,215,265
Residential 21,772,759 27,012,024 7,501,504
Commercial 15,532,902 13,021,909 14,649,112
Consumer installment 1,861,924 1,757,321 1,231,672
Consumer home equity 25,607,775 26,812,092 27,770,723
------------------------------------------
Total Loans 218,237,025 173,779,202 137,850,065
Net deferred fees (881,822) (611,809) (275,575)
Allowance for loan losses (2,934,675) (2,372,454) (1,894,454)
------------------------------------------
Loans, net $ 214,420,528 $170,794,939 $135,680,036
==========================================
Bancorp's net loan portfolio increased $43.6 million from $170.8 million
at December 31, 2002 to $214.4 million at December 31, 2003. Loan growth
was funded through an increase in total deposits. At December 31, 2003,
the net loan to deposit ratio was 73.9% and the net loan to asset ratio
was 62.6%. At December 31, 2002, the net loan to deposit ratio was
78.4%, and the net loan to asset ratio was 68.7%.
During an historic environment of lower interest rates, loan activity
continued to remain strong and the volume of new loans far exceeded
principal reductions and payoffs.
Maturities and Sensitivities of Loans to Changes in Interest Rates
The following table presents the maturities of loans in Bancorp's
portfolio at December 31, 2003, by type of loan:
Due after
Due in one year
one year through Due after
(thousands of dollars) or less five years five years Total
-------------------------------------------------------------------
Commercial real estate $ 10,262 $ 45,387 $ 40,690 $ 96,339
Construction loans 35,590 21,532 - 57,122
Residential real estate 4,540 1,193 16,040 21,773
Commercial loans 9,333 5,114 1,086 15,533
Consumer installment 1,614 248 - 1,862
Consumer home equity 66 952 24,590 25,608
--------------------------------------------------------------------
Total $ 61,405 $ 74,426 $ 82,406 $ 218,237
====================================================================
Fixed rate loans $ 6,701 $ 28,728 $ 2,080 $ 37,509
Variable rate loans 54,704 45,698 80,326 180,728
--------------------------------------------------------------------
Total $ 61,405 $ 74,426 $ 82,406 $ 218,237
====================================================================
The following table presents loan concentrations at December 31, 2003:
Dollars
Category Percentage Outstanding
---------------------------------------------------------------
(thousands of dollars)
Construction 26.2% $ 57,122
Commercial Retail 8.5% 18,579
Commercial Residential 4.6% 10,014
Restaurant 2.2% 4,696
Limousine Service 1.4% 3,094
Critical Accounting Policies
----------------------------
In the ordinary course of business, Bancorp has made a number of
estimates and assumptions relating to reporting results of operations
and financial condition in preparing its financial statements in
conformity with accounting principles generally accepted in the United
States of America. Actual results could differ significantly from those
estimates under different assumptions and conditions. The Company
believes the following discussion addresses Bancorp's only critical
accounting policy, which is the policy that is most important to the
presentation of Bancorp's financial results and requires management's
most difficult, subjective and complex judgments, often as a result of
the need to make estimates about the effect of matters that are
inherently uncertain.
Allowance for Loan Losses
-------------------------
The allowance for loan losses, a material estimate susceptible to
significant change in the near-term, is established as losses are
estimated to have occurred through a provision for loan losses charged
against operations and is maintained at a level that management
considers adequate to absorb losses in the loan portfolio. Management's
judgment in determining the adequacy of the allowance is inherently
subjective and is based on the evaluation of individual loans, the known
and inherent risk characteristics and size of the loan portfolios, the
assessment of current economic and real estate market conditions,
estimates of the current value of underlying collateral, past loan loss
experience, review of regulatory authority examination reports and
evaluations of specific loans and other relevant factors. The allowance
for loan losses is maintained at a level that management believes is
adequate to absorb probable losses on existing loans based on an
evaluation of the collectibility of loans and prior loan loss
experience.
The allowance consists of specific, general and unallocated components.
The specific component relates to loans that are considered impaired. A
risk rating system is utilized to measure the adequacy of the general
component of the allowance for loan losses. Under this system, each loan
is assigned a risk rating between one and nine, which has a
corresponding loan loss factor assigned, with a rating of "one" being
the least risk and a rating of "nine" reflecting the most risk or a
complete loss. Risk ratings are assigned by the originating loan officer
or loan committee at the initiation of the transactions and are reviewed
and changed, when necessary during the life of the loan. Loan loss
reserve factors are multiplied against the balances in each risk rating
category to arrive at the appropriate level for the allowance for loan
losses. Loans assigned a risk rating of "six" or above are monitored
more closely by the credit administration officers. The unallocated
portion of the allowance reflects management's estimate of probable but
undetected losses inherent in the portfolio; such estimates are
influenced by uncertainties in economic conditions, delays in obtaining
information, including unfavorable information about a borrower's
financial condition, difficulty in identifying triggering events that
correlate perfectly to subsequent loss rates, and risk factors that have
not yet manifested themselves in loss allocation factors. Loan quality
control is continually monitored by management and reviewed by the board
of directors and loan committee on a monthly basis, subject to oversight
by the board of directors through its members who serve on the loan
committee. The methodology for determining the adequacy of the allowance
for loan losses is consistently applied; however, revisions may be made
to the methodology and assumptions based on historical information
related to charge-off and recovery experience and management's
evaluation of the current loan portfolio.
Based upon this evaluation, management believes the allowance for loan
losses of $2.9 million, at December 31, 2003, which represents 1.35% of
gross loans outstanding, is adequate, under prevailing economic
conditions, to absorb losses on existing loans. At December 31, 2002,
the allowance for loan losses was $2.4 million or 1.37% of gross loans
outstanding.
The accrual of interest income on loans is discontinued whenever
reasonable doubt exists as to its collectibility and generally is
discontinued when loans are past due 90 days as to either principal or
interest. When the accrual of interest income is discontinued, all
previously accrued and uncollected interest is reversed against interest
income. The accrual of interest on loans past due 90 days or more,
including impaired loans, may be continued if the loan is well secured,
and it is believed all principal and accrued interest income due on the
loan will be realized, and the loan is in the process of collection. A
non-accrual loan is restored to an accrual status when it is no longer
delinquent and collectibility of interest and principal is no longer in
doubt.
Management considers all non-accrual loans and restructured loans to be
impaired. In most cases, loan payments that are past due less than 90
days, based on contractual terms, are considered minor collection delays
and the related loans are not considered to be impaired. Bancorp
considers consumer installment loans to be pools of smaller balance
homogeneous loans, which are collectively evaluated for impairment.
Analysis of Allowance for Loan Losses
-------------------------------------
2003 2002 2001 2000 1999
------------------------------------
(thousands of dollars)
Balance at beginning
of period $ 2,372 $ 1,894 $ 1,645 $ 1,360 $ 785
-----------------------------------------
Charge-offs (1) - (2) (44) (19)
Recoveries - 10 1 3 41
-----------------------------------------
Net recoveries (charge-offs) (1) 10 (1) (41) 22
-----------------------------------------
Additions charged to operations 563 468 250 326 553
-----------------------------------------
Balance at end of period $ 2,934 $ 2,372 $ 1,894 $ 1,645 $ 1,360
=========================================
Ratio of net recoveries (charge-offs)
during the period to average
loans outstanding during
the period (0.00%) 0.01% (0.00%) (0.03%) 0.03%
=========================================
Allocation of the Allowance for Loan Losses
-------------------------------------------
Balance at end of each Amounts (thousands of dollars)
period applicable to 2003 2002 2001 2000 1999
----------------------------------------------
Real Estate:
Commercial $ 1,183 $ 893 $ 833 $ 700 $ 622
Construction 972 726 348 270 154
Residential 230 276 153 34 76
Commercial 155 129 142 185 79
Consumer installment 12 11 14 12 12
Consumer home equity 285 283 296 312 267
Unallocated 97 54 108 132 150
-----------------------------------------------
Total $ 2,934 $ 2,372 $ 1,894 $ 1,645 $ 1,360
===============================================
- continued -
Percent of loans in each category
Balance at end of each to total loans
period applicable to 2003 2002 2001 2000 1999
----------------------------------------------
Real Estate:
Commercial 44.15% 37.97% 43.88% 44.67% 49.65%
Construction 26.17% 22.56% 19.02% 17.91% 12.69%
Residential 9.98% 15.54% 5.44% 3.93% 6.22%
Commercial 7.12% 7.49% 10.63% 10.01% 10.14%
Consumer installment 0.85% 1.01% 0.89% 1.29% 1.45%
Consumer home equity 11.73% 15.43% 20.14% 22.19% 19.85%
Unallocated N/A N/A N/A N/A N/A
-----------------------------------------------
Total 100.00% 100.00% 100.00% 100.00% 100.00%
===============================================
Non-Accrual, Past Due and Restructured Loans
--------------------------------------------
The following table is a summary of non-accrual and past due loans at
the end of each of the last five years.
2003 2002 2001 2000 1999
------------------------------------------------------------------
(thousands of dollars)
Loans delinquent over 90
days still accruing $ 165 $ 1,172 $ 1,300 $ 507 $ 475
Non-accruing loans 150 201 1,654 1,759 91
--------------------------------------------
$ 315 $ 1,373 $ 2,954 $ 2,266 $ 566
============================================
% of Total Loans 0.14% 0.79% 2.14% 1.77% 0.52%
% of Total Assets 0.09% 0.56% 1.46% 1.15% 0.32%
Additional income on non-accrual
loans if recognized on
an accrual basis $ 18 $ 67 $ 159 $ 115 $ 9
There were no loans in either 2003 or 2002 considered as "troubled debt
restructurings."
Potential Problem Loans
-----------------------
The $150,000 of non-accruing loans at December 31, 2003 is comprised of
one loan that is well collateralized and in process of collection.
At December 31, 2003, Bancorp had no loans other than those described
above, as to which management has significant doubts as to the ability
of the borrower to comply with the present repayment terms.
Deposits
The following table is a summary of Bancorp's deposits at December 31
for each of the years shown.
2003 2002 2001
----------------------------------------------
Non-interest bearing $ 30,477,295 $ 25,519,809 $ 16,961,636
----------------------------------------------
Interest bearing
Time certificates,
less than $100,000 92,574,784 57,202,908 53,081,137
Time certificates,
$100,000 or more 50,793,863 28,681,345 25,376,629
Money market 69,503,859 56,973,507 10,255,056
Savings 23,792,811 26,847,780 31,258,415
NOW 22,849,570 22,685,911 46,331,066
----------------------------------------------
Total interest bearing 259,514,887 192,391,451 166,302,303
----------------------------------------------
Total deposits $ 289,992,182 $ 217,911,260 $ 183,263,939
==============================================
Total deposits increased $72.1 million to $290.0 million at December 31,
2003. Non-interest bearing deposits increased $5.0 million to $30.5
million at December 31, 2003. Interest bearing deposits increased $67.1
million. During 2003, the Bank established three new branch banking
offices; these new offices attracted $36.5 million or 50.6% of the
annual growth in deposits. The new branch offices' grand opening
promotional campaigns were also a contributing factor to the growth of
deposits in existing branches. Increases in certificates of deposit and
money market fund products of $57.5 million and $12.5 million,
respectively, were partially offset by a decrease in savings accounts of
$3.1 million. The outflow of funds from savings accounts is due in part
to a shift of funds into the premium money market fund products and
longer term certificates of deposit. The Bank continues to offer
attractive interest rates in the very competitive Fairfield County
marketplace in order to attract additional deposits to fund loan growth.
As of December 31, 2003, the Bank's maturities of time deposits were:
$100,000 or Less than
greater $100,000 Totals
-----------------------------------------------------------------
(thousands of dollars)
Three months or less $ 6,263 $ 14,085 $ 20,348
Three to six months 3,039 8,248 11,287
Six months to one year 9,240 17,905 27,145
Over one year 32,252 52,336 84,588
---------------------------------------
Total $ 50,794 $ 92,574 $ 143,368
=======================================
Borrowings
Borrowings increased $21.0 million net of principal repayments on
capital leases and collateralized borrowings.
Borrowings include short term securities sold under agreements to
repurchase, Federal Home Loan Bank Advances, junior subordinated
debentures, a capital lease and a collateralized borrowing.
During 2003, the Bank entered into an additional $13 million in
borrowing transactions with the Federal Home Loan Bank; $10 million was
used as part of an interest rate leveraging strategy; the additional $3
million was used to fund loan demand.
At the end of the first quarter of 2003, Bancorp created a statutory
trust of which Bancorp owns 100% of the capital stock. The trust issued
$8.0 million in variable rate preferred securities to investors with a
current rate of 4.32%; the rate adjusts quarterly based on changes to
LIBOR. The duration of the trust is 30 years with early redemption at
par at the Company's option after five years, or earlier in the event of
certain regulatory or tax changes. The proceeds from the issuance of the
preferred securities were used to purchase junior subordinated debt from
Bancorp which bear interest at the same rate as the trust preferred
securities. Bancorp primarily invested the funds from the issuance of
the debt in the Bank, which in turn used the proceeds to fund general
operations of the Bank. The securities qualify for up to 25% of
Bancorp's Tier 1 Capital with the remainder qualifying as Tier 2
Capital.
The following table sets forth short term borrowing amounts along with
the respective interest rates and maturities:
Securities sold under repurchase agreements:
Average
Amount Maturity Rate amount outstanding
---------------------------------------------------------
$ 5,700,000 05/23/2004 1.250% $ 5,700,000
=======================================================
Federal Home Loan Bank advances:
Average
Amount Maturity Rate amount outstanding
---------------------------------------------------------
$ 6,000,000 02/23/2004 1.270% $ 2,169,863
3,000,000 04/29/2004 1.490% 2,021,918
-------------------------------------------------------
$ 9,000,000 1.343% $ 4,191,781
=======================================================
The amounts of short term borrowings outstanding at December 31, 2003
are representative of the maximum amounts of short term borrowings
outstanding at any month end during 2003.
Other
The increase in premises and equipment is due primarily to the
capitalized costs associated with leasehold improvements made to and
providing equipment for three new branch offices.
The increase in accrued interest receivable is due to higher outstanding
balances in investment securities and loans at December 31, 2003 as
compared to those in effect at December 31, 2002.
The increase in accrued expenses and other liabilities is due primarily
to increases in accruals for incentive compensation arrangements and
higher balances at year end for other accrued expenses.
The following table presents average balance sheets (daily averages),
interest income, interest expense and the corresponding yields earned
and rates paid:
Distribution of Assets, Liabilities and Shareholders' Equity
Interest Rates and Interest Differential
and Rate Volume Variance Analysis
(thousands of dollars) (1)
2003
------------------------------
Interest
Average Income/ Average
Balance Expense Rate
------------------------------
Interest earning assets:
Loans (2) $ 193,990 $ 12,782 6.59%
Short term investments 7,124 79 1.11%
Investments (4) 72,250 2,256 3.12%
Federal funds sold 9,147 97 1.06%
------------------------------
Total interest earning assets 282,511 15,214 5.39%
------------------------------
Cash and due from banks 4,001
Premises and equipment, net 1,083
Allowance for loan losses (2,652)
Other 5,798
-------
Total Assets $ 290,741
=======
Interest bearing liabilities:
Time certificates $ 110,129 $ 3,512 3.19%
Savings accounts 24,824 337 1.36%
Money market accounts 62,217 863 1.39%
NOW accounts 22,627 149 0.66%
Repurchase agreements 5,700 91 1.60%
FHLB advances 11,671 327 2.80%
Subordinated debt 6,159 271 4.40%
Other borrowings 471 38 8.07%
------------------------------
Total interest
bearing liabilities 243,798 5,588 2.29%
------------------------------
Demand deposits 25,892
Accrued expenses and
other liabilities 2,140
Shareholders' equity 18,911
---------
Total liabilities and equity $ 290,741
=========
Net interest income $ 9,626
=======
Interest margin 3.41%
======
Interest Spread 3.10%
======
(1) The rate volume analysis reflects the changes in net interest income
arising from changes in interest rates and from asset and liability
volume, including mix. The change in interest attributable to volume
includes changes in interest attributable to mix.
(2) Includes non-accruing loans.
(3) Favorable/ (unfavorable) fluctuations.
(4) Yields are calculated at historical cost and excludes the effects of
unrealized gain or loss on available for sale securities.
- TABLE CONTINUES -
Distribution of Assets, Liabilities and Shareholders' Equity
Interest Rates and Interest Differential
and Rate Volume Variance Analysis
(thousands of dollars) (1)
2002
------------------------------
Interest
Average Income/ Average
Balance Expense Rate
------------------------------
Interest earning assets:
Loans (2) $ 145,162 $ 10,135 6.98%
Short term investments 7,443 138 1.85%
Investments (4) 51,572 2,177 4.22%
Federal funds sold 9,404 155 1.65%
------------------------------
Total interest earning assets 213,581 12,605 5.90%
------------------------------
Cash and due from banks 5,961
Premises and equipment, net 924
Allowance for loan losses (2,061)
Other 4,088
-------
Total Assets $ 222,493
=======
Interest bearing liabilities:
Time certificates $ 79,691 $ 2,827 3.55%
Savings accounts 30,191 563 1.86%
Money market accounts 37,394 786 2.10%
NOW accounts 29,728 322 1.08%
Repurchase agreements 3,482 79 2.27%
FHLB advances 2,570 125 4.86%
Subordinated debt - - -
Other borrowings 712 63 8.85%
------------------------------
Total interest
bearing liabilities 183,768 4,765 2.59%
------------------------------
Demand deposits 19,522
Accrued expenses and
other liabilities 1,114
Shareholders' equity 18,089
---------
Total liabilities and equity $ 222,493
=========
Net interest income $ 7,840
=======
Interest margin 3.67%
======
Interest Spread 3.31%
======
(1) The rate volume analysis reflects the changes in net interest income
arising from changes in interest rates and from asset and liability
volume, including mix. The change in interest attributable to volume
includes changes in interest attributable to mix.
(2) Includes non-accruing loans.
(3) Favorable/ (unfavorable) fluctuations.
(4) Yields are calculated at historical cost and excludes the effects of
unrealized gain or loss on available for sale securities.
- TABLE CONTINUES -
Distribution of Assets, Liabilities and Shareholders' Equity
Interest Rates and Interest Differential
and Rate Volume Variance Analysis
(thousands of dollars) (1)
Fluctuations in Interest
Income/Expense(3)
Due to change in:
Volume Rate Total
------------------------------
Interest earning assets:
Loans (2) $ 3,241 $ (594) $ 2,647
Short term investments (6) (53) (59)
Investments (4) 735 (656) 79
Federal funds sold (4) (54) (58)
------------------------------
Total interest earning assets 3,966 (1,357) 2,609
------------------------------
Interest bearing liabilities:
Time certificates $ 994 $ (309) $ 685
Savings accounts (89) (137) (226)
Money market accounts 404 (327) 77
NOW accounts (66) (107) (173)
Repurchase agreements 40 (28) 12
FHLB advances 275 (73) 202
Subordinated debt 271 - 271
Other borrowings (19) (6) (25)
------------------------------
Total interest
bearing liabilities 1,810 (987) 823
------------------------------
Net interest income $ 2,156 $ (370) $ 1,786
==============================
(1) The rate volume analysis reflects the changes in net interest income
arising from changes in interest rates and from asset and liability
volume, including mix. The change in interest attributable to volume
includes changes in interest attributable to mix.
(2) Includes non-accruing loans.
(3) Favorable/ (unfavorable) fluctuations.
(4) Yields are calculated at historical cost and excludes the effects of
unrealized gain or loss on available for sale securities.
RESULTS OF OPERATIONS
For the year ended December 31, 2003, Bancorp earned $1,341,000 ($0.56
basic income per share and $0.55 diluted income per share) an increase
of 27.5% as compared to 2002 when Bancorp earned $1,052,000 ($0.44 basic
income per share and $0.43 diluted income per share). Interest income
increased $2.6 million to $15.2 million in 2003 as compared to 2002 when
interest income was $12.6 million. This increase is due mainly to the
growth in the loan and the available for sales securities portfolios.
Noninterest income increased $700,000 or 17.0% to $4.8 million for 2003.
A favorable interest rate environment for borrowers and an increase in
the volume of loan refinancings resulted in an increase in mortgage
brokerage and referral fees and loan processing fees of $520,000 as
compared to the previous year. The sale of investment securities
resulted in a gain of $308,000 for the year ended December 31, 2003 as
compared to loss on the sale of investment securities of $26,000 for the
year ended December 31, 2002.
Interest expense increased $824,000 or 17.3% to $5.6 million in 2003
compared to $4.8 million in 2002. The increase in interest expense is
due to the increase in total deposits and Federal Home Loan Bank
borrowings and to the issuance of subordinated debentures.
Noninterest expenses for 2003 totaled $11.6 million which represents an
increase of $1.8 million or 18.8% over the prior year. The higher
operating costs were the result of staff additions, most of which were
made for the three new branch offices; the new branch offices also
contributed to the increase in occupancy expenses of $307,000 over last
year.
The following are measurements relating to Bancorp's earnings.
2003 2002 2001
-----------------------------
Return on average assets .46% .47% .46%
Return on average equity 7.09% 5.82% 5.10%
Dividend payout ratio 20.54% 21.59% 16.21%
Average equity to average assets 6.50% 8.13% 9.05%
Basic income per share $0.56 $0.44 $0.37
Diluted income per share $0.55 $0.43 $0.36
Interest income and expense
Bancorp's net interest income increased $1.8 million or 22.8%, to $9.6
million in 2003 from $7.8 million in 2002. An increase in average
earning assets of $68.9 million, or 32.3% combined with a slightly
declining rate environment increased Bancorp's interest income 20.7%
from $12.6 million in 2002 to $15.2 million in 2003. Average loans
outstanding increased $48.8 million or 33.6% led by growth in
construction and real estate loans, which reflects the continued
strength of the local real estate market. An increase in average
investments resulted in an increase in interest income on available for
sale securities of $20,000 despite a reduction in the investment yield.
Low short-term interest rates resulted in a decrease of $58,000 in
interest earned on Federal funds sold. Total average interest bearing
liabilities increased by $60.0 million; average certificates of deposits
increased by $30.4 million; average money market deposits increased
$24.8 million; average NOW accounts and average savings accounts
decreased $7.1 million and $5.4 million, respectively; average FHLB
advances increased $9.1 million; the issuance of subordinated debentures
resulted in an increase in average interest bearing liabilities of $6.2
million. The slightly declining rate environment, mentioned earlier, is
also responsible for the general rate decreases across interest bearing
liabilities. Interest expense increased from $4.8 million in 2002 to
$5.6 million in 2003. Interest expense on certificates of deposit
increased $685,000 as a result of higher average outstanding balances
partially offset by a decrease in the cost of funds for that portfolio
from 3.55% in 2002 to 3.19% in 2003.
Noninterest income
Noninterest income increased $700,000 from $4.1 million in 2002 to $4.8
million in 2003. The increase is due primarily to the continued
favorable interest rate environment for borrowers and an increase in the
volume of residential mortgage loan originations which resulted in an
increase of $520,000 in mortgage brokerage and loan processing fees.
Gains from the sale of investment securities for the year ended December
31, 2003 were $308,000 as compared to losses on the sale of investment
securities of $26,000 for the year ended December 31, 2002. Included in
the gains for 2003 is $117,000 attributable to an investment security
for which Bancorp recorded a write-down in 2001 made for the impairment
of a debt security due to the deterioration in the financial condition
of the issuer; in March 2003, Bancorp received the proceeds from a
tender offer made by the issuer at a price of 100% of par for the above
security under a comprehensive refinancing plan. Increases in accounts
and transaction volumes resulted in an increase in fees and service
charges of $66,000 from $312,000 for the year ended December 31, 2002 to
$378,000 for the year ended December 31, 2003. Included in the results
for 2002 is a gain of $249,000 resulting from the sale of a non-accrual
loan.
Noninterest expenses
Noninterest expenses increased $1.8 million in 2003 from $9.8 million in
2002 to $11.6 million in 2003. Salaries and benefits increased $1.2
million due to staff additions made primarily for the opening of three
new branch offices and to increases in performance related bonus and
sales incentive compensation. Higher staffing levels and incentive
compensation also resulted in higher payroll taxes and employee benefit
costs. Occupancy and equipment expenses increased $307,000 from $1.0
million 2002 to $1.3 million in 2003; this increase is due primarily to
the opening of three new branch offices in 2003 as well as to increases
in maintenance and repairs. Loan administration and processing expenses
increased $114,000 from $290,000 for the year ended December 31, 2002 to
$404,000 for the year ended December 31, 2003; this increase is related
to the increase in volume of residential mortgage loans and the
resultant increases in mortgage brokerage and loan processing fees.
The provision for income taxes of $877,000 in 2003 and $621,000 for 2002
represents the tax expense recognized for both federal and state income
tax. The effective tax rates for 2003 and 2002 are 39.5% and 37.1%,
respectively. Fluctuations in effective tax rates are due to the change
in pre-tax income as well as to an increase in the Connecticut tax rate.
Management believes that additional branch offices will contribute to
the future growth and earnings of Bancorp. While the opening of these
new branches will result in increased operating expenses, the openings
will be strategically planned to maintain profitable operations.
Management regularly reviews loan and deposit rates and attempts to
price Bancorp's products competitively. With the assistance of its
investment advisors, Bancorp tracks its mix of asset/liability
maturities and strives to maintain a reasonable match. Performance
ratios are reviewed monthly by management and the Board and are used to
set strategies.
LIQUIDITY
Bancorp's liquidity position was 35.1% and 29.1% at December 31, 2003
and 2002, respectively. The liquidity ratio is defined as the percentage
of liquid assets to total assets. The following categories of assets as
described in the accompanying balance sheets are considered liquid
assets: cash and due from banks, federal funds sold, short-term
investments, available-for-sale securities and held-to-maturity
securities maturing in one year or less. Liquidity is a measure of
Bancorp's ability to generate adequate cash to meet financial
obligations. The principal cash requirements of a financial institution
are to cover increases in its loan portfolio and downward fluctuations
in deposit accounts. Management believes Bancorp's short-term assets
have sufficient liquidity to satisfy loan demand, cover potential
fluctuations in deposit accounts and to meet other anticipated cash
requirements.
CAPITAL
The following table illustrates the Bank's regulatory capital ratios for
each of the years shown:
December 31,
2003 2002 2001
--------------------------
Total Risk-Based Capital 11.67% 10.36% 10.69%
Tier 1 Risk-Based Capital 10.47% 9.11% 9.57%
Leverage Capital 7.85% 6.98% 8.11%
The following table illustrates Bancorp's regulatory capital ratios for
each of the years shown:
December 31,
2003 2002 2001
--------------------------
Total Risk-Based Capital 11.87% 10.39% 10.74%
Tier 1 Risk-Based Capital 10.00% 9.13% 9.61%
Leverage Capital 7.51% 6.99% 8.15%
Capital adequacy is one of the most important factors used to determine
the safety and soundness of individual banks and the banking system.
Based on the above ratios, the Bank is considered to be "well
capitalized" under applicable regulations. To be considered
"well-capitalized," an institution must generally have a leverage
capital ratio of at least 5%, a Tier 1 risk-based capital ratio of at
least 6% and a total risk-based capital ratio of at least 10%.
The increase in capital ratios is due primarily to the formation, in the
first quarter of 2003, of a statutory trust as well as to the increase
in retained earnings net of dividends paid.
MARKET RISK
Market risk is defined as the sensitivity of income to fluctuations in
interest rates, foreign exchange rates, equity prices, commodity prices
and other market-driven rates or prices. Based upon the nature of
Bancorp's business, market risk is primarily limited to interest rate
risk, which is the impact that changing interest rates have on current
and future earnings.
Bancorp's goal is to maximize long term profitability while minimizing
its exposure to interest rate fluctuations. The first priority is to
structure and price Bancorp's assets and liabilities to maintain an
acceptable interest rate spread while reducing the net effect of changes
in interest rates. In order to accomplish this, the focus is on
maintaining a proper balance between the timing and volume of assets and
liabilities re-pricing within the balance sheet. One method of achieving
this balance is to originate variable rate loans for the portfolio and
purchase short term investments to offset the increasing short term
re-pricing of the liability side of the balance sheet. In fact, a number
of the interest bearing deposit products have no contractual maturity.
Customers may withdraw funds from their accounts at any time and deposit
balances may therefore run off unexpectedly due to changing market
conditions. Additionally, loans and investments with longer term rate
adjustment frequencies are matched against longer term deposits and
borrowings to lock in a desirable spread.
The exposure to interest rate risk is monitored by the Asset and
Liability Management Committee ("ALCO") consisting of senior management
personnel. ALCO reviews the interrelationships within the balance sheet
to maximize net interest income within acceptable levels of risk. ALCO
reports to the Board of Directors on a monthly basis regarding its
activities.
Impact of Inflation and Changing Prices
Bancorp's financial statements have been prepared in terms of historical
dollars, without considering changes in relative purchasing power of
money over time due to inflation. Unlike most industrial companies,
virtually all of the assets and liabilities of a financial institution
are monetary in nature. As a result, interest rates have a more
significant impact on a financial institution's performance than the
effect of general levels of inflation. Interest rates do not necessarily
move in the same direction or in the same magnitude as the prices of
goods and services. Notwithstanding this, inflation can directly affect
the value of loan collateral, in particular, real estate. Inflation, or
disinflation, could significantly affect Bancorp's earnings in future
periods.
"Safe Harbor" Statement Under Private Securities Litigation Reform Act
of 1995
Certain statements contained in Bancorp's public reports, including this
report, and in particular in this "Management's Discussion and Analysis
or Plan of Operation," may be forward looking and subject to a variety
of risks and uncertainties. These factors include, but are not limited
to, (1) changes in prevailing interest rates which would affect the
interest earned on Bancorp's interest earning assets and the interest
paid on its interest bearing liabilities, (2) the timing of repricing of
Bancorp's interest earning assets and interest bearing liabilities, (3)
the effect of changes in governmental monetary policy, (4) the effect of
changes in regulations applicable to Bancorp and the Bank and the
conduct of its business, (5) changes in competition among financial
service companies, including possible further encroachment of non-banks
on services traditionally provided by banks and the impact of federal
legislation, (6) the ability of competitors which are larger than
Bancorp to provide products and services which it is impracticable for
Bancorp to provide, (7) the effect of Bancorp's opening of branches, and
(8) the effect of any decision by Bancorp to engage in any business not
historically permitted to it. Other such factors may be described in
Bancorp's filings with the SEC.
Although Bancorp believes that it offers the loan and deposit products
and has the resources needed for continued success, future revenues and
interest spreads and yields cannot be reliably predicted. These trends
may cause Bancorp to adjust its operations in the future. Because of the
foregoing and other factors, recent trends should not be considered
reliable indicators of future financial results or stock prices.
Item 7. Financial Statements
--------------------
The consolidated balance sheets of Bancorp as of December 31, 2003 and
December 31, 2002 and the related consolidated statements of income,
shareholders' equity and cash flows for the years ended December 31,
2003 and December 31, 2002, together with the report thereon of
McGladrey & Pullen, LLP dated February 24, 2004, are included as part of
this Form 10-KSB in the "Financial Report" following page 31 hereof.
Item 8. Changes in and Disagreements with Accountants on Accounting
-----------------------------------------------------------
and Financial Disclosure
------------------------
Not applicable.
Item 8A. Controls and Procedures
-----------------------
Based on an evaluation of the effectiveness of Bancorp's disclosure
controls and procedures performed by Bancorp's management, with the
participation of Bancorp's Chief Executive Officer and its Chief
Financial Officer as of the end of the period covered by this report,
Bancorp's Chief Executive Officer and Chief Financial Officer concluded
that Bancorp's disclosure controls and procedures have been effective.
As used herein, "disclosure controls and procedures" mean controls and
other procedures of Bancorp that are designed to ensure that information
required to be disclosed by Bancorp in the reports that it files or
submits under the Securities Exchange Act is recorded, processed,
summarized and reported, within the time periods specified in the
Commission's rules and forms. Disclosure controls and procedures
include, without limitation, controls and procedures designed to ensure
that information required to be disclosed by Bancorp in the reports that
it files or submits under the Securities Exchange Act is accumulated and
communicated to Bancorp's management, including its principal executive,
and principal financial officers, or persons performing similar
functions, as appropriate to allow timely decisions regarding required
disclosure.
There were no changes in Bancorp's internal control over financial
reporting identified in connection with the evaluation described in the
preceding paragraph that occurred during Bancorp's fiscal year ended
December 31, 2003 that has materially affected, or is reasonably likely
to materially affect, Bancorp's internal control over financial
reporting
PART III
Item 9. Directors and Executive Officers of the Registrant
--------------------------------------------------
The information required by Items 401 and 405 of Regulation S-B is
incorporated into this Form 10-KSB by reference to Bancorp's definitive
proxy statement (the "Definitive Proxy Statement") for its 2004 Annual
Meeting of Shareholders.
Item 10. Executive Compensation
----------------------
The information required by Item 402 of Regulation S-B is incorporated
into this Form 10-KSB by reference to the Definitive Proxy Statement.
Item 11. Security Ownership of Certain Beneficial Owners and Management
--------------------------------------------------------------
The information required by Item 201(d) and Item 403 of Regulation S-B
is incorporated into this Form 10-KSB by reference to the Definitive
Proxy Statement.
Item 12. Certain Relationships and Related Transactions
----------------------------------------------
The information required by Item 404 of Regulation S-B is incorporated
into this Form 10-KSB by reference to the Definitive Proxy Statement.
Item 13. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
--------
Exhibit No. Description
2 Agreement and Plan of Reorganization dated as of
June 28, 1999 between Bancorp and the Bank (incorporated
by reference to Exhibit 2 to Bancorp's Current Report on
Form 8-K dated December 1, 1999 (Commission
File No. 000-29599)).
3(i) Certificate of Incorporation of Bancorp, (incorporated
by reference to Exhibit 3(i) to Bancorp's Current Report
on Form 8-K dated December 1, 1999 (Commission File
No. 000-29599)).
3(ii) By-laws of Bancorp (incorporated by reference to
Exhibit 3(ii) to Bancorp's Current Report on Form 8-K
dated December 1, 1999 (Commission File No. 000-29599)).
10(a)(1) 2001 Stock Appreciation Rights Plan of Bancorp
(incorporated by reference to Exhibit 10(a)(1) to
Bancorp's Annual Report on Form 10-KSB for the year
ended December 31, 2001 (Commission File No. 000-29599)).
10(a)(3) Employment Agreement, dated as of October 23, 2000, as
amended by a First Amendment, dated as of March 21, 2001,
among the Bank, Bancorp and Charles F. Howell
(incorporated by reference to Exhibit 10(a)(3) to
Bancorp's Annual Report on Form 10-KSB for the year
ended December 31, 2000 (Commission File No. 000-29599)).
10(a)(4) Second Amendment to Employment Agreement among Patriot
National Bank, Bancorp and Charles F. Howell, dated
May 9, 2002 (incorporated by reference to Exhibit 10(a)(4)
to Form 10-KSB for the year ended December 31, 2002
(Commission File No. 000-29599)).
10(a)(5) Employment Agreement dated as of November 3, 2003 among
Patriot National Bank, Bancorp and Robert F. O'Connell.
10(a)(6) Change of Control Agreement, dated as of November 3, 2003
between Robert F. O'Connell and Patriot National Bank.
10(a)(7) Employment Agreement dated as of January 1, 2004 between
Patriot National Bank and Todd Brown.
10(a)(8) Employment Agreement dated as of January 1, 2004 between
Patriot National Bank and Marcus Zavattaro.
10(c) 1999 Stock Option Plan of the Bank (incorporated by
reference to Exhibit 10(c) to Bancorp's Current Report on
Form 8-K dated December 1, 1999 (Commission File
No. 000-29599)).
10(a)(9) License agreement dated July 1, 2003 between Patriot
National Bank and L. Morris Glucksman.
10(a)(10) Employment Agreement dated as of October 23, 2003 among
the Bank, Bancorp and Charles F. Howell.
21 Subsidiaries of Bancorp (incorporated by reference to
Exhibit 21 to Bancorp's Annual Report on Form 10-KSB for
the year ended December 31, 1999 (Commission File
No. 000-29599)).
23 Consent of McGladrey & Pullen, LLP.
31(1) Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer
31(2) Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer
32 Section 1350 Certification
(b) Reports on Form 8-K
During the quarter ended December 31, 2003, Bancorp filed one current
Report of Form 8-K dated October 28, 2003 (filed October 29, 2003)
responding to Items 7 and 12 and relating to a press release announcing
certain information concerning Bancorp's results of operations for the
quarter and nine months ended September 30, 2003 and its financial
condition at September 30, 2003.
14. Principal Accountant Fees and Services
--------------------------------------
The information required by Item 9(e) of Schedule 14A of Regulation S-B
is incorporated into this Form 10-KSB by reference to the Definitive
Proxy Statement.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant has caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Patriot National Bancorp, Inc.
(Registrant)
By: /s/ Angelo De Caro
-----------------------------
Name: Angelo De Caro
Title: Chairman & Chief
Executive Officer
Date: March 25, 2004
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in capacities
and on the dates indicated.
/s/ Angelo De Caro March 25, 2004
---------------------------- ----------------
Angelo De Caro, Chairman, Chief Executive Date
Officer and Director
/s/ Robert F. O'Connell March 24, 2004
---------------------------- ----------------
Robert F. O'Connell Date
Senior Executive Vice President,
Chief Financial Officer and Director
/s/ Michael A. Capodanno March 24, 2004
------------------------------ ----------------
Michael A. Capodanno Date
Senior Vice President & Controller
/s/ John J. Ferguson March 24, 2004
------------------------------ ----------------
John J. Ferguson Date
Director
/s/ John A. Geoghegan March 24, 2004
------------------------------ ----------------
John A. Geoghegan Date
Director
Form 10 KSB - Signatures continued
/s/ L. Morris Glucksman March 24, 2004
------------------------------ ----------------
L. Morris Glucksman Date
Director
/s/ Charles F. Howell March 24, 2004
------------------------------ ----------------
Charles F. Howell Date
Director
/s/ Michael Intrieri March 24, 2004
------------------------------ ----------------
Michael Intrieri Date
Director
Richard Naclerio ----------------
---------------------------- Date
Director
/s/ Paul Settelmeyer March 24, 2004
---------------------------- ----------------
Paul Settelmeyer Date
Director
/s/ Philip Wolford March 24, 2004
---------------------------- ----------------
Philip Wolford Date
Director
PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY
FINANCIAL REPORT
December 31, 2003 and 2002
CONTENTS
INDEPENDENT AUDITOR'S REPORT
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated balance sheets
Consolidated statements of income
Consolidated statements of shareholders' equity
Consolidated statements of cash flows
Notes to consolidated financial statements
INDEPENDENT AUDITOR'S REPORT
To the Shareholders and Board of Directors
Patriot National Bancorp, Inc. and Subsidiary
Stamford, Connecticut
We have audited the accompanying consolidated balance sheets of Patriot
National Bancorp, Inc. and Subsidiary (the "Company") as of December 31,
2003 and 2002, and the related consolidated statements of income,
shareholders' equity and cash flows for the years then ended. These
consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that
we plan and perform the audits to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements. An audit also
includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of
Patriot National Bancorp, Inc. and Subsidiary as of December 31, 2003
and 2002, and the results of their operations and their cash flows for
the years then ended, in conformity with accounting principles generally
accepted in the United States of America.
/s/McGladrey & Pullen, LLP
New Haven, Connecticut
February 24, 2004
PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31, 2003 and 2002
2003 2002
-----------------------------
ASSETS
Cash and due from banks (Note 2) $ 4,023,732 $ 5,385,757
Federal funds sold 15,000,000 3,000,000
Short-term investments 10,430,939 3,348,968
-----------------------------
Cash and cash equivalents 29,454,671 11,734,725
Available for sale securities
(at fair value) (Note 3) 90,562,083 60,618,366
Federal Reserve Bank stock 691,150 481,050
Federal Home Loan Bank stock (Note 7) 1,077,300 621,300
Loans receivable (net of allowance for
loan losses: 2003 $2,934,675
2002 $2,372,454) (Note 4) 214,420,528 170,794,939
Accrued interest receivable 1,470,622 1,311,453
Premises and equipment, net (Notes 5 and 8) 1,421,098 789,197
Deferred tax asset (Note 9) 1,524,125 754,696
Goodwill (Note 10) 930,091 930,091
Other assets (Note 7) 917,381 460,936
-----------------------------
Total assets $ 342,469,049 $ 248,496,753
=============================
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits (Note 6):
Noninterest bearing deposits $ 30,477,295 $ 25,519,809
Interest bearing deposits 259,514,887 192,391,451
-----------------------------
Total deposits 289,992,182 217,911,260
Repurchase agreements 5,700,000 5,700,000
Federal Home Loan Bank borrowings (Note 7) 17,000,000 4,000,000
Subordinated debt (Note 7) 8,248,000 -
Capital lease obligation (Note 8) 103,941 243,231
Collateralized borrowings 249,444 349,444
Accrued expenses and other liabilities 2,395,569 1,747,863
-----------------------------
Total liabilities 323,689,136 229,951,798
-----------------------------
Commitments and Contingencies (Notes 7, 8, 11 and 13)
Shareholders' equity (Notes 11 and 14)
Common stock, $2 par value: 5,333,333 shares authorized;
shares issued and outstanding:
2003 2,408,607; 2002 2,400,525 4,817,214 4,801,050
Additional paid-in capital 11,519,037 11,484,649
Retained earnings 2,752,541 1,688,158
Accumulated other comprehensive income
- net unrealized (loss) gain on available
for sale securities (308,879) 571,098
-----------------------------
Total shareholders' equity 18,779,913 18,544,955
-----------------------------
Total liabilities and
shareholders' equity $ 342,469,049 $ 248,496,753
=============================
See Notes to Consolidated Financial Statements.
PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 2003 and 2002
2003 2002
-------------------------------
Interest and Dividend Income
Interest and fees on loans $ 12,782,457 $ 10,134,768
Interest and dividends on
investment securities 2,335,552 2,315,412
Interest on Federal funds sold 96,693 154,538
-------------------------------
Total interest and dividend income 15,214,702 12,604,718
-------------------------------
Interest Expense
Interest on deposits (Note 6) 4,861,152 4,497,409
Interest on Federal Home Loan Bank
borrowings 327,020 124,489
Interest on subordinated debt 270,610 -
Interest on other borrowings 129,473 142,795
-------------------------------
Total interest expense 5,588,255 4,764,693
-------------------------------
Net interest income 9,626,447 7,840,025
Provision for Loan Losses (Note 4) 563,000 468,000
-------------------------------
Net interest income after provision
for loan losses 9,063,447 7,372,025
-------------------------------
Noninterest Income
Mortgage brokerage referral fees 3,356,470 2,936,735
Loan origination and processing fees 668,410 567,686
Fees and service charges 378,415 311,729
Gains and origination fees from loans sold - 249,365
Gain (loss) on sale of investment securities 307,739 (25,733)
Other income 102,706 74,038
-------------------------------
Total noninterest income 4,813,740 4,113,820
-------------------------------
Noninterest Expenses
Salaries and benefits (Note 12) 7,574,532 6,418,855
Occupancy and equipment expense, net 1,311,038 1,004,297
Data processing
and other outside services 690,168 623,877
Professional services 301,016 302,000
Advertising and promotional expenses 332,852 265,845
Loan administration
and processing expenses 404,231 290,426
Other operating expenses 1,045,630 907,538
-------------------------------
Total noninterest expenses 11,659,467 9,812,838
-------------------------------
Income before income taxes 2,217,720 1,673,007
Provision for Income Taxes (Note 9) 877,000 621,000
-------------------------------
Net income $ 1,340,720 $ 1,052,007
===============================
Basic income per share (Note 11) $ 0.56 $ 0.44
===============================
Diluted income per share (Note 11) $ 0.55 $ 0.43
===============================
Dividends per share $ 0.115 $ 0.095
===============================
See Notes to Consolidated Financial Statements.
PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31, 2003 and 2002
-----------------------------------------------------------------------
Additional
Number of Common Paid-in
Shares Stock Capital
-------------------------------------------
Balance at December 31, 2001 2,400,525 $4,801,050 $11,484,649
Comprehensive income
Net income - - -
Unrealized holding gain
on available for sale
securities, net of taxes
(Note 16) - - -
Total comprehensive income
Dividends - - -
-------------------------------------------
Balance at December 31, 2002 2,400,525 4,801,050 11,484,649
Comprehensive income
Net income - - -
Unrealized holding loss
on available for sale
securities, net of taxes
(Note 16) - - -
Total comprehensive income
Dividends - - -
Issuance of capital stock 8,082 16,164 34,388
--------------------------------------------
Balance, December 31, 2003 2,408,607 $4,817,214 $11,519,037
============================================
See Notes to Consolidated Financial Statements.
- TABLE CONTINUES -
Accumulated
Other
Retained Comprehensive
Earnings Income(Loss) Total
--------------------------------------------
Balance at December 31,
2001 $864,202 $256,115 $17,406,016
-----------
Comprehensive income
Net income 1,052,007 - 1,052,007
Unrealized holding gain
on available for sale
securities, net of
taxes (Note 16) 314,983 314,983
----------
Total comprehensive income 1,366,990
Dividends (228,051) - (228,051)
-------------------------------------------
Balance at December 31,
2002 1,688,158 571,098 18,544,955
----------
Comprehensive income
Net income 1,340,720 - 1,340,720
Unrealized holding loss
on available for sale
securities, net of
taxes (Note 16) (879,977) (879,977)
---------
Total comprehensive income 460,743
---------
Dividends (276,337) - (276,337)
Issuance of capital stock - - 50,552
--------------------------------------------
Balance, December 31,
2003 $2,752,541 $(308,879) $18,779,913
============================================
See Notes to Consolidated Financial Statements.
PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2003 and 2002
-----------------------------------------------------------------------
2003 2002
------------------------
Cash Flows from Operating Activities
Net Income $ 1,340,720 $ 1,052,007
Adjustments to reconcile net income to net cash provided by
operating activities:
Amortization and accretion of
investment premiums and discounts, net 593,490 138,158
Originations of loans held for sale - 208,000
Proceeds from sales of loans held for sale - (208,000)
Gains on sales of loans - (249,365)
Provision for loan losses 563,000 468,000
(Gain) loss on sales of
investment securities (307,739) 25,733
Depreciation and amortization
of premises and equipment 417,377 405,040
Loss on disposal of bank
premises and equipment 2,037 -
Deferred income taxes (230,089) (269,753)
Change in assets and liabilities:
Increase in deferred loan fees 270,013 336,234
Increase in accrued interest receivable (159,169) (232,003)
Decrease (increase) in other assets 31,555 (195,471)
Increase in accrued expenses and
other liabilities 635,461 675,637
-------------------------
Net cash provided by
operating activities 3,156,656 2,154,217
-------------------------
Cash Flows from Investing Activities
Purchases of available for sale securities (71,907,123) (55,062,998)
Proceeds from sales of available for
sale securities 7,094,321 11,375,386
Proceeds from maturities of available
for sale securities 8,200,000 7,000,000
Principal repayments on available for
sale securities 24,964,017 11,115,621
Purchase of Federal Reserve Bank stock (210,100) -
Purchase of Federal Home Loan Bank stock (456,000) (3,400)
Proceeds from sale of loan receivable - 1,549,365
Net increase in loans (44,458,602) (37,219,137)
Purchases of premises and equipment (1,058,215) (91,809)
Proceeds from sale of bank premises
and equipment 6,900 -
Investment in trust (Note 7) (248,000) -
---------------------------
Net cash used in
investing activities (78,072,802) (61,336,972)
---------------------------
Cash Flows from Financing Activities
Net increase in demand, savings and
money market deposits 14,596,528 27,220,834
Net increase in time certificates of deposit 57,484,394 7,426,487
Increase in securities sold under repurchase
agreements - 5,700,000
Proceeds from FHLB borrowings 16,000,000 4,000,000
Principal repayments of FHLB borrowings (3,000,000) -
Proceeds from issuance of subordinated debt 8,248,000 -
Debt issuance costs (240,000) -
Principal payments on capital lease
obligation (139,290) (121,605)
Decrease in collateralized borrowings (100,000) (125,000)
Proceeds from issuance of common stock 50,552 -
Dividends paid on common stock (264,092) (216,047)
--------------------------
Net cash provided by financing
activities 92,636,092 43,884,669
--------------------------
Net increase (decrease) in cash
and cash equivalents 17,719,946 (15,298,086)
Cash and cash equivalents
Beginning 11,734,725 27,032,811
-------------------------
Ending $ 29,454,671 $11,734,725
==========================
Supplemental Disclosures of Cash
Flow Information
Cash paid for:
Interest $ 5,569,011 $ 4,782,645
==========================
Income taxes $ 1,102,971 $ 808,809
==========================
Supplemental Disclosure of Noncash
Investing and Financing
Activities
Unrealized holding gains on
available for sale securities
arising during the period $ (1,419,317) $ 492,336
==========================
Accrued dividends declared on common stock $ 72,258 $ 60,013
==========================
See Notes to Consolidated Financial Statements.
Note 1. Nature of Operations and Summary of Significant Accounting
Policies
Patriot National Bancorp, Inc. (the "Company"), a Connecticut
corporation, is a bank holding company that was organized in 1999. On
December 1, 1999, all the issued and outstanding shares of Patriot
National Bank (the "Bank") were converted into Company common stock and
the Bank became a wholly owned subsidiary of the Company. The Bank is a
nationally chartered commercial bank whose deposits are insured under
the Bank Insurance Fund, which is administered by the Federal Deposit
Insurance Corporation. The Bank provides a full range of banking
services to commercial and consumer customers through its main office in
Stamford, Connecticut, and six branch offices in Fairfield County,
Connecticut. The Bank's customers are concentrated in Fairfield County,
Connecticut and Westchester County, New York. The Bank also conducts
mortgage brokerage operations in Connecticut and New York through its
mortgage brokerage division, Pinnacle Financial.
On March 11, 2003, the Company formed Patriot National Statutory Trust I
for the purpose of issuing trust preferred securities and investing the
proceeds in subordinated debentures issued by the Company, and on March
26, 2003, the first series of trust preferred securities were issued.
The following is a summary of the Company's significant accounting
principles:
Significant group concentrations of credit risk
-----------------------------------------------
Most of the Company's activities are with customers located within
Fairfield County, Connecticut and Westchester County, New York. Note 3
discusses the types of securities in which the Company invests. Note 4
discusses the types of lending in which the Company engages. The Company
does not have any significant concentrations to any one industry or
customer.
Principles of consolidation and basis of financial
statement presentation
--------------------------------------------------
The consolidated financial statements include the accounts of the
Company and its wholly owned subsidiary, the Bank, and the Bank's wholly
owned subsidiary, PinPat Acquisition Corporation (currently inactive);
and have been prepared in accordance with accounting principles
generally accepted in the United States of America and general practices
within the banking industry. All significant intercompany balances and
transactions have been eliminated. In preparing the consolidated
financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
and disclosures of contingent assets and liabilities, as of the balance
sheet date and reported amounts of revenues and expenses for the
reporting period. Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant
change in the near term relate to the determination of the allowance for
loan losses and the evaluation of goodwill for impairment.
Cash and cash equivalents
-------------------------
Cash and due from banks, Federal funds sold and short-term investments
are recognized as cash equivalents in the consolidated financial
statements. Federal funds sold generally mature in one day. For purposes
of reporting cash flows, the Company considers all highly liquid debt
instruments purchased with a maturity of three months or less to be cash
equivalents. Cash flows from loans and deposits are reported net. The
Company maintains amounts due from banks and Federal funds sold which,
at times, may exceed Federally insured limits. The Company has not
experienced any losses from such concentrations. The short-term
investment represents an investment in a money market mutual fund of a
single issuer.
Investments in debt and marketable equity securities
----------------------------------------------------
Management determines the appropriate classification of securities at
the date individual investment securities are acquired, and the
appropriateness of such classification is reassessed at each balance
sheet date.
Debt securities, if any, that management has the positive intent and
ability to hold to maturity are classified as "held to maturity" and
recorded at amortized cost. "Trading" securities, if any, are carried at
fair value with unrealized gains and losses recognized in earnings.
Securities not classified as held to maturity or trading, including
equity securities with readily determinable fair values, are classified
as "available for sale" and recorded at fair value, with unrealized
gains and losses excluded from earnings and reported in other
comprehensive income, net of taxes.
Purchase premiums and discounts are recognized in interest income using
the interest method over the terms of the securities. In estimating
other-than-temporary impairment losses, which are charged to earnings,
management considers (1) the length of time and the extent to which the
fair value has been less than cost, (2) the financial condition and
near-term prospects of the issuer, and (3) the intent and ability of the
Company to retain its investment in the issuer for a period of time
sufficient to allow for any anticipated recovery in fair value. Gains
and losses on the sale of securities are recorded on the trade date and
are determined using the specific identification method.
The sale of a held to maturity security within three months of its
maturity date or after collection of at least 85% of the principal
outstanding at the time the security was acquired is considered a
maturity for purposes of classification and disclosure.
Loans held for sale
-------------------
Loans held for sale are those loans the Company has the intent to sell
in the foreseeable future, and are carried at the lower of aggregate
cost or market value. Gains and losses on sales of loans are recognized
at the trade dates, and are determined by the difference between the
sales proceeds and the carrying value of the loans. Loans are sold with
servicing released.
Loans receivable
----------------
Loans receivable are stated at their current unpaid principal balances
and are net of the allowance for loan losses and net deferred loan
origination fees. The Company has the ability and intent to hold its
loans for the foreseeable future or until maturity or payoff.
A loan is classified as a restructured loan when certain concessions
have been made to the original contractual terms, such as reductions in
interest rates or deferral of interest or principal payments, due to the
borrower's financial condition.
Impaired loans are measured based on the present value of expected
future cash flows discounted at the loan's effective interest rate or,
as a practical expedient, at the loan's observable market price or the
fair value of the collateral if the loan is collateral dependent. The
amount of impairment, if any, and any subsequent changes are recorded as
adjustments to the allowance for loan losses. A loan is impaired when it
is probable the Company will be unable to collect all contractual
principal and interest payments due in accordance with the terms of the
loan agreement.
Management considers all nonaccrual loans and restructured loans to be
impaired. In most cases, loan payments that are past due less than 90
days, based on contractual terms, are considered minor collection
delays, and the related loans are not considered to be impaired. The
Company considers consumer installment loans to be pools of smaller
balance homogeneous loans, which are collectively evaluated for
impairment.
Allowance for loan losses
-------------------------
The allowance for loan losses, a material estimate susceptible to
significant change in the near-term, is established as losses are
estimated to have occurred through a provision for losses charged
against operations and is maintained at a level that management
considers adequate to absorb losses in the loan portfolio. Management's
judgment in determining the adequacy of the allowance is inherently
subjective and is based on the evaluation of individual loans, the known
and inherent risk characteristics and size of the loan portfolios, the
assessment of current economic and real estate market conditions,
estimates of the current value of underlying collateral, past loan loss
experience, review of regulatory authority examination reports and
evaluations of specific loans and other relevant factors. Loans,
including impaired loans, are charged against the allowance for loan
losses when management believes that the uncollectibility of principal
is confirmed. Any subsequent recoveries are credited to the allowance
for loan losses when received. In connection with the determination of
the allowance for loan losses, management obtains appraisals for
significant properties, when considered necessary.
The allowance consists of specific, general and unallocated components.
The specific component relates to loans that are considered impaired.
For impaired loans, an allowance is established when the discounted cash
flows (or collateral value or observable market price) of the impaired
loan is lower than the carrying value of that loan. A risk rating system
is utilized to measure the general component of the allowance for loan
losses. Under this system, each loan is assigned a risk rating between
one and nine, which has a corresponding loan loss factor assigned, with
a rating of "one" being the least risk and a rating of "nine" reflecting
the most risk or a complete loss. Risk ratings are assigned by the
originating loan officer or loan committee at the initiation of the
transactions and are reviewed and changed, when necessary, during the
life of the loan. Loan loss reserve factors are multiplied against the
balances in each risk rating category to arrive at the appropriate level
for the allowance for loan losses. Loans assigned a risk rating of "six"
or above are monitored more closely by the credit administration
officers. An unallocated component is maintained to cover uncertainties
that could affect management's estimate or probable losses. The
unallocated component of the allowance reflects the margin of
imprecision inherent in the underlying assumptions used in the
methodologies for estimating specific and general losses in the
portfolio.
The Company's real estate loans are collateralized by real estate
located principally in Connecticut and New York, and accordingly, the
ultimate collectibility of a substantial portion of the Company's loan
portfolio is susceptible to changes in regional real estate market
conditions.
Management believes the allowance for loan losses is adequate. While
management uses available information to recognize losses on loans,
future additions to the allowance may be necessary based on changes in
economic conditions. In addition, various regulatory agencies, as an
integral part of their examination process, periodically review the
Company's allowance for loan losses. Such agencies have the authority to
require the Company to recognize additions to the allowance or
charge-offs based on the agencies' judgments about information available
to them at the time of their examination.
Interest and fees on loans
--------------------------
Interest on loans is accrued and included in operating income based on
contractual rates applied to principal amounts outstanding. The accrual
of interest income is discontinued whenever reasonable doubt exists as
to its collectibility and generally is discontinued when loans are past
due 90 days as to either principal or interest. When the accrual of
interest income is discontinued, all previously accrued and uncollected
interest is reversed against interest income. The accrual of interest on
loans past due 90 days or more, including impaired loans, may be
continued if the loan is well secured, and it is believed all principal
and accrued interest income due on the loan will be realized, and the
loan is in the process of collection. A nonaccrual loan is restored to
an accrual status when it is no longer delinquent and collectibility of
interest and principal is no longer in doubt.
Loan origination fees, net of direct loan origination costs, are
deferred and amortized as an adjustment to the loan's yield generally
over the contractual life of the loan, utilizing the interest method.
Loan brokerage activities
-------------------------
The Company receives loan brokerage fees for soliciting and processing
conventional loan applications on behalf of permanent investors.
Brokerage fee income is recognized upon closing of loans for permanent
investors.
Transfers of financial assets
-----------------------------
Transfers of financial assets are accounted for as sales, when control
over the assets has been surrendered. Control over transferred assets is
deemed to be surrendered when (1) the assets have been isolated from the
Company, (2) the transferee obtains the right to pledge or exchange the
transferred assets and no condition both constrains the transferee from
taking advantage of that right and provides more than a trivial benefit
for the transferor, and (3) the transferor does not maintain effective
control over the transferred assets through either (a) an agreement that
both entitles and obligates the transferor to repurchase or redeem the
assets before maturity or (b) the ability to unilaterally cause the
holder to return specific assets, other than through a cleanup call.
Other real estate owned
-----------------------
Other real estate owned, if any, consists of properties acquired
through, or in lieu of, loan foreclosure or other proceedings and is
initially recorded at fair value at the date of foreclosure, which
establishes a new cost basis. After foreclosure, the properties are held
for sale and are carried at the lower of cost or fair value less
estimated costs of disposal. Any write-down to fair value at the time of
acquisition is charged to the allowance for loan losses. Properties are
evaluated regularly to ensure the recorded amounts are supported by
current fair values, and valuation allowances are recorded as necessary
to reduce the carrying amount to fair value less estimated cost of
disposal. Revenue and expense from the operation of other real estate
owned and valuation allowances are included in operations. Costs
relating to the development and improvement of the property are
capitalized, subject to the limit of fair value of the collateral. Gains
or losses are included in operations upon disposal.
Premises and equipment
----------------------
Premises and equipment are stated at cost for purchased assets, and at
the lower of fair value or the net present value of the minimum lease
payments required over the term of the lease for assets under capital
leases, net of accumulated depreciation and amortization. Leasehold
improvements are capitalized and amortized over the shorter of the terms
of the related leases or the estimated economic lives of the
improvements. Depreciation is charged to operations using the
straight-line method over the estimated useful lives of the related
assets which range from three to ten years. Amortization of premises
under capital leases is charged to operations using the straight-line
method over the life of the lease. Gains and losses on dispositions are
recognized upon realization. Maintenance and repairs are expensed as
incurred and improvements are capitalized.
Impairment of assets
--------------------
Long-lived assets, which are held and used by the Company, are reviewed
for impairment whenever events or changes in circumstances indicate that
the carrying amount of an asset may not be recoverable. If impairment is
indicated by that review, the asset is written down to its estimated
fair value through a charge to noninterest expense.
Goodwill
--------
Goodwill represents the cost in excess of net assets of businesses
acquired and was being amortized on a straight-line basis over ten years
through December 31, 2001. Statement of Financial Accounting Standards
No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142") was adopted
January 1, 2002, and accordingly amortization of goodwill was
discontinued and such goodwill is tested for impairment annually, or
more frequently under prescribed conditions.
Collateralized borrowings
-------------------------
Collateralized borrowings represent the portion of loans transferred to
other institutions under loan participation agreements. Such transfers
were not recognized as sales due to recourse provisions and/or
restrictions on the participant's right to transfer their portion of the
loan.
Income taxes
------------
The Company recognizes income taxes under the asset and liability
method. Under this method, deferred tax assets and liabilities are
recognized for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases, and loss carryforwards.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the enactment date.
Deferred tax assets are reduced by a valuation allowance when, in the
opinion of management, it is more likely than not that some portion or
all of the deferred tax assets will not be realized.
Related party transactions
--------------------------
Directors and officers of the Company and the Bank and their affiliates
have been customers of and have had transactions with the Bank, and it
is expected that such persons will continue to have such transactions in
the future. Management believes that all deposit accounts, loans,
services and commitments comprising such transactions were made in the
ordinary course of business, and on substantially the same terms,
including interest rates and collateral, as those prevailing at the time
for comparable transactions with other customers who are not directors
or officers. In the opinion of management, the transactions with related
parties did not involve more than normal risks of collectibility or
favored treatment or terms, or present other unfavorable features. Note
15 contains details regarding related party transactions.
Earnings per share
------------------
Basic earnings per share represents income available to common
stockholders and is computed by dividing net income by the
weighted-average number of common shares outstanding. Diluted earnings
per share reflects additional common shares that would have been
outstanding if dilutive potential common shares had been issued, as well
as any adjustment to income that would result from the assumed issuance.
Potential common shares that may be issued by the Company relate to
outstanding stock options and warrants, and are determined using the
treasury stock method.
Stock compensation plans
------------------------
Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting
for Stock-Based Compensation," encourages all entities to adopt a fair
value based method of accounting for employee stock compensation plans,
whereby compensation cost is measured at the grant date based on the
value of the award and is recognized over the service period, which is
usually the vesting period. However, it also allows an entity to
continue to measure compensation cost for those plans using the
intrinsic value based method of accounting prescribed by Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," whereby compensation cost is the excess, if any, of the
quoted market price of the stock at the grant date (or other measurement
date) over the amount an employee must pay to acquire the stock. Stock
options issued under the Company's stock option plan, and stock warrants
issued, have no intrinsic value at the grant date, and under Opinion No.
25 no compensation cost is recognized for them. The Company has elected
to continue with the accounting methodology in Opinion No. 25 and, as a
result, provides pro forma disclosures of net income and earnings per
share and other disclosures, as if the fair value based method of
accounting had been applied. There is no proforma disclosure required
for 2003 and 2002, because no compensation cost related to stock options
and warrants was attributed to those periods.
Comprehensive income
--------------------
Accounting principles generally require that recognized revenue,
expenses, gains and losses be included in net income. Although certain
changes in assets and liabilities, such as unrealized gains and losses
on available for sale securities, are reported as a separate component
of the shareholders' equity section of the consolidated balance sheets,
such items, along with net income, are components of comprehensive
income.
Fair values of financial instruments
------------------------------------
The following methods and assumptions were used by the Company in
estimating the fair value of its financial instruments:
Cash and due from banks, federal funds sold, short-term
investments and accrued interest receivable
The carrying amount is a reasonable estimate of fair value.
Securities
Fair values, excluding restricted Federal Reserve Bank stock and
Federal Home Loan Bank stock, are based on quoted market prices
or dealer quotes, if available. If a quoted market price is not
available, fair value is estimated using quoted market prices
for similar securities. The carrying values of the Federal
Reserve Bank stock and Federal Home Loan Bank stock approximate
fair value based on the redemption provisions of the related
stock.
Loans receivable
For variable rate loans which reprice frequently, and have no
significant changes in credit risk, fair value is based on the
loans' carrying value. The fair value of fixed rate loans is
estimated by discounting the future cash flows using the year
end rates at which similar loans would be made to borrowers
with similar credit ratings and for the same remaining
maturities.
Deposits
The fair value of demand deposits, regular savings and certain
money market deposits is the amount payable on demand at the
reporting date. The fair value of certificates of deposit and
other time deposits is estimated using a discounted cash flow
calculation that applies interest rates currently being
offered for deposits of similar remaining maturities to a
schedule of aggregated expected maturities on such deposits.
Borrowings
For variable rate borrowings which reprice frequently, and
short-term borrowings, fair value is based on carrying value.
The fair value of fixed rate borrowings is estimated by
discounting the future cash flows using current interest rates
for similar available borrowings with the same remaining
maturities.
Off-balance-sheet instruments
Fair values for the Company's off-balance-sheet instruments
(lending commitments and standby letters of credit) are based
on fees currently charged to enter into similar agreements,
taking into account the remaining terms of the agreements and
the counterparties' credit standing.
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," ("FIN 45"), which covers
guarantees such as standby letters of credit, performance guarantees,
and direct or indirect guarantees of the indebtedness of others, but not
guarantees of funding. FIN 45 requires a guarantor to recognize, at the
inception of a guarantee, a liability in an amount equal to the fair
value of the obligation undertaken in issuing the guarantee, and
requires disclosure about the maximum potential payments that might be
required, as well as the collateral or other recourse obtainable. The
recognition and measurement provisions of FIN 45 were effective on a
prospective basis after December 31, 2002, and its adoption by the
Company on January 1, 2003 has not had a significant effect on the
Company's consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation
of Variable Interest Entities," ("FIN 46"), which establishes guidance
for determining when an entity should consolidate another entity that
meets the definition of a variable interest entity. FIN 46 requires a
variable interest entity to be consolidated by a company if that company
will absorb a majority of the expected losses, will receive a majority
of the expected residual returns, or both. Transfers to qualified
special-purpose entities ("QSPEs") and certain other interests in a QSPE
are not subject to the requirements of FIN 46. On December 17, 2003, the
FASB revised FIN 46 (FIN 46R) and deferred the effective date of FIN 46
to no later than the end of the first reporting period that ends after
March 15, 2004, however, for special-purpose entities, FIN 46 would be
required to be applied as of December 31, 2003. See Note 7 for the
impact of the adoption of FIN 46 by the Company.
In April 2003, the FASB issued SFAS 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." This Statement amends
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," and clarifies accounting for derivative instruments,
including certain derivative instruments embedded in other contracts,
and for hedging activities under SFAS No. 133. This Statement is
effective for contracts entered into or modified after June 30, 2003,
except in certain circumstances, and for hedging relationships
designated after June 30, 2003. This Statement did not have a material
effect on the Company's consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity." This Statement provides new rules on the accounting for certain
financial instruments that, under previous guidance, issuers could
account for as equity. Such financial instruments include mandatorily
redeemable shares, instruments that require the issuer to buy back some
of its shares in exchange for cash or other assets, or obligations that
can be settled with shares, the monetary value of which is fixed. Most
of the guidance in SFAS No. 150 is effective for financial instruments
entered into or modified after May 31, 2003, and otherwise is effective
at the beginning of the first interim period beginning after June 30,
2003. This Statement had no effect on the Company's consolidated
financial statements.
In December 2003, the FASB issued SFAS No. 132 (revised 2003),
"Employers' Disclosures about Pensions and Postretirement Benefits."
This Statement requires additional disclosures about the assets,
obligations and cash flows of defined benefit pension and postretirement
plans, as well as the expense recorded for such plans. This Statement
had no effect on the Company's consolidated financial statements.
Reclassifications
-----------------
Certain 2002 financial statement amounts have been reclassified to
conform with the 2003 presentations. Such reclassifications had no
effect on 2002 net income.
Note 2. Restrictions on Cash and Due From Banks
The Company is required to maintain reserves against its respective
transaction accounts and non-personal time deposits. At December 31,
2003 and 2002, the Bank was required to have cash and liquid assets of
approximately $1,617,000 and $1,053,000, respectively, to meet these
requirements. In addition, at December 31, 2003 and 2002, the Company
was required to maintain $25,000 in the Federal Reserve Bank for
clearing purposes.
Note 3. Available for Sale Securities
The amortized cost, gross unrealized gains, gross unrealized losses and
approximate fair values of available for sale securities at December 31,
2003 and 2002 are as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
2003 Cost Gains Losses Value
---- ---------------------------------------------
U.S. Government agency
obligations $12,018,111 $ 7,500 $ (159,993) $11,865,618
Mortgage-backed
securities 67,042,163 147,589 (493,287) 66,696,465
Money market preferred
equity securities 12,000,000 - - 12,000,000
---------------------------------------------
$91,060,274 $155,089 $ (653,280) $90,562,083
=============================================
The following table presents the Bank's available for sale securities'
gross unrealized losses and fair value, aggregated by the length of time
the individual securities have been in a continuous loss position, at
December 31, 2003:
Less Than 12 Months 12 Months or More
------------------- ------------------
Fair Unrealized Fair Unrealized
Value Loss Value Loss
------------------- -------------------
U.S. Government agency
obligations $ 10,858,118 $ (159,993) $ - $ -
Mortgage-backed
securities 43,560,220 (493,287) - -
----------------------------------------------
Totals $ 54,418,338 $ (653,280) $ - $ -
==============================================
Total
-------------------
Fair Unrealized
Value Loss
-------------------
U.S. Government agency
obligations
$ 10,858,118 $ (159,993)
Mortgage-backed
securities
43,560,220 (493,287)
------------------------
Totals $ 54,418,338 $ (653,280)
========================
At December 31, 2003, there are no losses on available for sale
securities that existed for a period of twelve months or more.
Management believes that none of the unrealized losses on available for
sale securities above are other than temporary due to the fact that they
relate to debt and mortgage-backed securities issued by U.S. Government
and Government sponsored agencies. Additionally, management expects to
receive all contractual principal and interest related to these
investments.
Gross Gross
Amortized Unrealized Unrealized Fair
2002 Cost Gains Losses Value
---- ---------------------------------------------
U.S. Government agency
obligations $ 9,024,526 $ 104,888 $ - $ 9,129,414
Mortgage-backed
securities 37,756,793 705,573 (1,207) 38,461,159
Corporate bonds 283,853 99,944 - 383,797
Money market preferred
equity securities
and mutual funds 12,632,068 11,928 - 12,643,996
----------------------------------------------
$ 59,697,240 $ 922,333 $ (1,207) $ 60,618,366
==============================================
At December 31, 2003 and 2002, available for sale securities with a
carrying value of $7,599,558 and $8,368,347, respectively, were pledged
to secure obligations under repurchase agreements and municipal
deposits.
The amortized cost and fair value of available for sale debt securities
at December 31, 2003 by contractual maturity are presented below. Actual
maturities of mortgage-backed securities may differ from contractual
maturities because the mortgages underlying the securities may be called
or repaid without any penalties. Because mortgage-backed securities are
not due at a single maturity date, they are not included in the maturity
categories in the following maturity summary.
Amortized Fair
Cost Value
-----------------------------
Maturity:
1-5 years $ 11,011,134 $ 10,864,681
5-10 years 1,006,977 1,000,937
Mortgage-backed securities 67,042,163 66,696,465
-----------------------------
Total $ 79,060,274 $ 78,562,083
=============================
During 2003 and 2002, proceeds from sales of available for sale
securities were $7,094,321 and $11,375,386, respectively, and there were
gross gains of $307,739 and gross losses of $25,733 on such sales,
respectively.
Note 4. Loans Receivable and Allowance for Loan Losses
A summary of the Company's loan portfolio at December 31, 2003 and 2002
is as follows:
2003 2002
------------------------------
Real estate:
Commercial $ 96,339,220 $ 65,967,205
Residential 21,772,759 27,012,024
Construction, net of undisbursed
portion of $31,958,302 in 2003 and
$29,592,692 in 2002 57,122,445 39,208,651
Commercial 15,532,902 13,021,909
Consumer installment 1,861,924 1,757,321
Consumer home equity 25,607,775 26,812,092
-------------------------------
Total loans 218,237,025 173,779,202
Net deferred loan fees (881,822) (611,809)
Allowance for loan losses (2,934,675) (2,372,454)
-------------------------------
Loans receivable, net $ 214,420,528 $ 170,794,939
===============================
The changes in the allowance for loan losses for the years ended
December 31, 2003 and 2002 are as follows:
2003 2002
----------------------------
Balance, beginning of year $ 2,372,454 $ 1,894,454
Provision for loan losses 563,000 468,000
Recoveries of loans previously
charged-off - 10,000
Loans charged-off (779) -
----------------------------
Balance, end of year $ 2,934,675 $ 2,372,454
============================
At December 31, 2003 and 2002, the unpaid principal balances of loans
delinquent 90 days or more were $315,127 and $1,372,705, respectively,
and the unpaid principal balances of loans placed on nonaccrual status
were $150,000 and $200,957, respectively.
The following information relates to impaired loans as of and for the
years ended December 31, 2003 and 2002:
2003 2002
----------------------------
Loans receivable for which there is
a related allowance for credit losses $ - $ -
============================
Loans receivable for which there is
no related allowance for credit losses $ 150,000 $ 200,957
============================
Allowance for credit losses related
to impaired loans $ - $ -
============================
Average recorded investment in
impaired loans $ 157,678 $ 903,634
============================
There was no interest income on impaired loans collected or recognized
in 2003 and 2002. The Company has no commitments to lend additional
funds to borrowers whose loans are impaired.
The Company's lending activities are conducted principally in Fairfield
County, Connecticut and Westchester County, New York. The Company grants
commercial real estate loans, commercial business loans and a variety of
consumer loans. In addition, the Company grants loans for the
construction of residential homes, residential developments and for land
development projects. All residential and commercial mortgage loans are
collateralized by first or second mortgages on real estate. The ability
and willingness of borrowers to satisfy their loan obligations is
dependent in large part upon the status of the regional economy and
regional real estate market. Accordingly, the ultimate collectibility of
a substantial portion of the loan portfolio and the recovery of a
substantial portion of any resulting real estate acquired is susceptible
to changes in market conditions.
The Company has established credit policies applicable to each type of
lending activity in which it engages, evaluates the creditworthiness of
each customer and, in most cases, extends credit of up to 75% of the
market value of the collateral at the date of the credit extension
depending on the Company's evaluation of the borrowers' creditworthiness
and type of collateral. The market value of collateral is monitored on
an ongoing basis and additional collateral is obtained when warranted.
Real estate is the primary form of collateral. Other important forms of
collateral are accounts receivable, inventory, other business assets,
marketable securities and time deposits. While collateral provides
assurance as a secondary source of repayment, the Company ordinarily
requires the primary source of repayment to be based on the borrower's
ability to generate continuing cash flows.
Note 5. Premises and Equipment
At December 31, 2003 and 2002, premises and equipment consisted of the
following:
2003 2002
----------------------------
Premises under capital lease $ 783,000 $ 783,000
Leasehold improvements 1,372,576 880,169
Furniture, equipment and software 1,561,579 1,034,782
----------------------------
3,717,155 2,697,951
Less accumulated depreciation and
amortization (2,296,057) (1,908,754)
----------------------------
$ 1,421,098 $ 789,197
============================
For the years ended December 31, 2003 and 2002, depreciation and
amortization expense related to premises and equipment totaled $417,377
and $405,040, respectively. Note 6. Deposits At December 31, 2003 and
2002, deposits consisted of the following:
2003 2002
----------------------------
Noninterest bearing $ 30,477,295 $ 25,519,809
Interest bearing:
Time certificates, less than $100,000 92,574,784 57,202,908
Time certificates, $100,000 or more 50,793,863 28,681,345
Money market 69,503,859 56,973,507
Savings 23,792,811 26,847,780
NOW 22,849,570 22,685,911
------------------------------
Total interest bearing 259,514,887 192,391,451
------------------------------
Total deposits $ 289,992,182 $ 217,911,260
==============================
Interest expense on certificates of deposit in denominations of $100,000
or more was $1,297,461 and $985,602 for the years ended December 31,
2003 and 2002, respectively.
Contractual maturities of time certificates of deposit as of December
31, 2003 are summarized below:
Due within:
1 year $ 58,780,205
1-2 years 25,807,595
2-3 years 21,409,139
3-4 years 16,254,678
4-5 years 21,117,030
------------
$ 143,368,647
============
Note 7. Borrowings
Federal Home Loan Bank borrowings
---------------------------------
The Bank is a member of the Federal Home Loan Bank of Boston ("FHLB").
At December 31, 2003, the Bank has the ability to borrow from the FHLB
based on a certain percentage of the value of the Bank's qualified
collateral, as defined in the FHLB Statement of Products Policy,
comprised mainly of mortgage-backed securities delivered under
collateral safekeeping to the FHLB, and a blanket lien on qualifying
mortgage loans, at the time of the borrowing. In accordance with an
agreement with the FHLB, the qualified collateral must be free and clear
of liens, pledges and encumbrances. In addition, the Company has a
$2,000,000 available line of credit with the FHLB. At December 31, 2003
and 2002, there were no advances outstanding under this line of credit.
At December 31, 2003, other outstanding advances from the FHLB
aggregated $17,000,000 at interest rates ranging from 1.27% to 5.11%,
and at December 31, 2002, outstanding advances aggregated $4,000,000 at
interest rates ranging from 4.48% to 5.11%.
The Bank is required to maintain an investment in capital stock of the
FHLB in an amount equal to a percentage of its outstanding mortgage
loans and contracts secured by residential properties, including
mortgage-backed securities. No ready market exists for FHLB stock and it
has no quoted market value. For disclosure purposes, such stock is
assumed to have a market value which is equal to cost since the Bank can
redeem the stock with FHLB at cost.
Repurchase agreements
---------------------
At December 31, 2003 and 2002, the Company had $5,700,000 outstanding
under short-term securities sold under agreements to repurchase at
1.25%, and 1.4% to 2.69%, respectively.
Subordinated debt
-----------------
During 2003, the Company formed Patriot National Statutory Trust I (the
"Trust") of which the Company owns 100% of the Trust's common
securities. The Trust has no independent assets, and exists for the sole
purpose of issuing trust securities and investing the proceeds thereof
in an equivalent amount of junior subordinated debentures issued by the
Company.
The Trust issued $8,000,000 of trust preferred securities in 2003.
Pursuant to FASB Interpretation No. 46R ("FIN 46R"), "Consolidated of
Variable Interest Entities," issued in December 2003, the Company
deconsolidated the Trust at December 31, 2003. As a result, the balance
sheet as of December 31, 2003 includes $8,248,000 of subordinated debt,
which was previously presented in the Company's 2003 quarterly unaudited
balance sheets as $8,000,000 in trust preferred securities after a
consolidation elimination entry of $248,000. The Company's investment in
the Trust of $248,000 is included in other assets. The overall effect on
the financial position and operating results of the Company as a result
of the deconsolidation was not material.
Trust preferred securities currently qualify for up to 25% of the
Company's Tier I Capital, with the excess qualifying as Tier 2 Capital.
The Company believes that the Board of Governors of the Federal Reserve
System, which is the banking regulator for the Holding Company, may rule
on continued inclusion of trust preferred securities in regulatory
capital following the issuance of FIN 46R. At this time, management
cannot estimate the effect, if any, on the Company's regulatory capital
as a result of any future action by the Board of Governors of the
Federal Reserve System.
The subordinated debentures are unsecured obligations of the Company and
are subordinate and junior in right of payment to all present and future
senior indebtedness of the Company. The Company has entered into a
guarantee, which together with its obligations under the subordinated
debentures and the declaration of trust governing the Trust, including
its obligations to pay costs, expenses, debts and liabilities, other
than trust securities, provides a full and unconditional guarantee of
amounts on the capital securities. The subordinated debentures, which
bear interest at three month LIBOR plus 3.15% (4.32% at December 31,
2003), mature on March 26, 2033 and can be redeemed at the Company's
option in 2008.
The duration of the Trust is 30 years with early redemption at par at
the Company's option in 2008, or earlier in the event of certain
regulatory or tax changes. The trust securities also bear interest at
three month LIBOR plus 3.15%.
Maturity of borrowings
----------------------
The contractual maturities of the Company's borrowings at December 31,
2003, by year, are as follows:
Fixed Floating
Rate Rate Total
-------------------------------------
2004 $ 14,700,000 $ - $ 14,700,000
2005 4,000,000 - 4,000,000
2006 1,000,000 - 1,000,000
2007 3,000,000 - 3,000,000
2008 - - -
Thereafter - 8,248,000 8,248,000
----------------------------------------
Total borrowings 22,700,000 8,248,000 30,948,000
========================================
Note 8. Commitments and Contingencies
Capital lease
-------------
The Company leases the Bank's main office under a capital lease which
expires in 2004. Premises under capital lease of $783,000 and related
accumulated amortization of $730,800 and $652,500 as of December 31,
2003 and 2002, respectively, are included in premises and equipment.
During 2003, the Company entered into a new lease agreement for its
existing main office that commences in August 2004. This new lease will
be classified as an operating lease upon commencement.
The Company is obligated under the lease to pay executory costs
including insurance, property taxes, maintenance and other related
expenses.
At December 31, 2003, future minimum lease payments, by years and in
the aggregate, under this capital lease are as follows:
Years Ending
December 31, Amount
------------------------------------ -----------
2004 $109,333
Less amount representing interest 5,392
--------
Present value of future minimum lease
payments-capital lease obligation $103,941
========
Operating leases
----------------
The Company also has non-cancelable operating leases for certain of its
branch offices and for its mortgage brokerage office in New York. Under
these lease agreements, the Company is required to pay certain executory
costs such as insurance and property taxes. The Company also leases
parking space under a noncancelable operating lease agreement and
certain equipment under cancelable and noncancelable arrangements.
Future minimum rental commitments under the terms of these leases, by
year and in the aggregate, are as follows:
Years Ending
December 31, Amount
------------ ------
2004 $677,703
2005 783,385
2006 745,077
2007 602,457
2008 423,842
Thereafter 1,871,205
---------
$5,103,669
=========
Total rental expense charged to operations for cancelable and
noncancelable operating leases was $630,002 and $423,343 for the years
ended December 31, 2003 and 2002, respectively.
Employment Agreements
---------------------
President's Agreement
In October of 2003, the Company and the Bank entered into an employment
agreement (the "Agreement") with the Bank's President and Chief
Executive Officer that expires on December 31, 2006. The Agreement
provides for, among other things, a stipulated base salary for the first
year of the Agreement, annual increases at each anniversary and a
discretionary annual bonus to be determined by the Board of Directors.
In the event of the early termination of the Agreement for any reason
other than cause, the Company would be obligated to compensate the
President in one lump sum payment, an amount equal to the higher of the
aggregate salary payments that would be made to the President under the
remaining term of the Agreement, or eighteen months of the President's
stipulated base salary at the time of termination.
The Agreement also includes change of control provisions that entitles
the President to a lump sum payment of two times the greater of the
President's stipulated base salary at the time of the change in control;
total cash compensation, as defined, for the year preceding the change
in control; or the average total cash compensation, as defined, for the
two years preceding the change in control.
The provisions of the early termination clause apply only to termination
of the Agreement prior to a change of control. Termination of the
Agreement following a change of control shall be governed by the change
of control provisions.
Under the terms of a prior employment agreement (the "Prior Agreement"),
the Prior Agreement provided that the Company granted shares of the
Company's common stock to the President on December 31, 2000, and
annually thereafter through December 31, 2003. The number of shares
granted was based on 30% of the President's stipulated base salary for
the preceding annual employment period, as defined, and such shares
granted would vest and be distributed to the President in four annual
installments (with any balance distributed upon termination other than
for cause). Compensation cost is being recognized over four years under
the terms of the Prior Agreement. Under certain circumstances defined in
the Prior Agreement, this stock grant may be settled in cash. The Prior
Agreement also provided for the grant of options to purchase a minimum
of 10,000 shares of the Company's common stock on December 31, 2000, and
annually thereafter through December 2002, and on December 31, 2003, if
the President remained employed by the Bank. In the event that the
Company did not have stock options available to grant at any of the
stipulated dates, which was the case at December 31, 2000, 2001, 2002
and 2003, the President may then elect, on a future determination date,
as defined, to be chosen by the President, to receive cash compensation
in the future equal to the difference between the value of the Company's
stock at the time the options would have been granted, and the value of
the Company's stock on the determination date. For the years ended
December 31, 2003 and 2002, approximately $194,000 and $75,000,
respectively, was charged to expense related to the stock and option
compensation components of the Agreement.
Other Employment Agreements
Effective January 1, 2004, the Company entered into one-year employment
agreements with two officers of the Pinnacle Financial division, which
replaced contracts that expired on December 31, 2003. The agreements
provide for, among other things, a minimum and maximum base salary and
commission arrangement, as well as additional compensation based upon
the achievement of certain other financial results, and for
reimbursement of expenses incurred incidental to their duties as
officers. The agreements terminate on December 31, 2004.
In November 2003, the Company entered into an employment agreement with
its Chief Financial Officer that expires on December 31, 2007. The
agreement provides for, among other things, a stipulated base salary and
annual discretionary bonuses as determined from time to time by the
Board of Directors. In addition, the Chief Financial Officer has a
change of control agreement that entitles the Chief Financial Officer to
receive two years' compensation (as defined in the agreement) if a
change of control (as defined in the agreement) occurs while the Chief
Financial Officer is a full-time officer of the Bank or within six
months following termination of employment other than for cause (as
defined in the agreement) or by reason of death or disability.
In addition, certain officers of the Company have change of control
agreements that entitle such officers to receive one year's compensation
(as defined in the agreements) if a change of control (as defined in the
agreements) occurs while such officers are full time officers of the
Bank or within six months following termination of employment other than
for cause (as defined in the agreements) or by reason of death or
disability.
Stock Appreciation Rights Plan
------------------------------
During 2001, the Company adopted the Patriot National Bancorp, Inc. 2001
Stock Appreciation Rights Plan (the "SAR Plan"). Under the terms of the
SAR Plan, the Company may grant stock appreciation rights to officers of
the Company that entitle the officers to receive, in cash or Company
common stock, the appreciation in the value of the Company's common
stock from the date of grant. Each award vests at the rate of 20% per
year from the date of grant. Any unexercised rights will expire ten
years from the date of grant. During 2001, the Company granted a total
of 18,000 stock appreciation rights to three Company officers, and
$36,576 and $2,600, respectively, was charged to operations under the
SAR Plan for the years ended December 31, 2003 and 2002.
Legal Matters
-------------
The Company is involved in various legal proceedings which have arisen
in the normal course of business. Management believes that resolution of
these matters will not have a material effect on the Company's financial
condition or results of operations.
Other
-----
The Company expects to open two new branch offices in 2004. Subsequent
to December 31, 2003, the Company entered into a non-cancelable lease
for one of these locations.
Note 9. Income Taxes
The components of the income tax provision for the years ended December
31, 2003 and 2002 are as follows:
2003 2002
-------------------------------
Current
Federal $ 842,241 $ 701,867
State 264,848 188,886
---------- ---------
Total 1,107,089 890,753
---------- ---------
Deferred
Federal (178,241) (211,866)
State (51,848) (57,887)
---------- ---------
Total (230,089) (269,753)
---------- ---------
Provision for income taxes $ 877,000 $ 621,000
========== =========
A reconciliation of the anticipated income tax provision (computed by
applying the statutory Federal income tax rate to the income before
income taxes) to the income tax provision as reported in the statements
of income for the years ended December 31, 2003 and 2002 is as follows:
2003 2002
-------------------------------
Provision for income taxes at
statutory Federal rate $ 754,000 $ 568,800
State taxes, net of Federal benefit 129,000 86,800
Dividends received deduction (45,900) (69,100)
Nondeductible expenses 10,900 9,000
Other 29,000 25,500
---------- ----------
Total provision for income taxes $ 877,000 $ 621,000
========== ==========
At December 31, 2003 and 2002, the components of gross deferred tax
assets and gross deferred tax liabilities are as follows:
2003 2002
-------------------------------
Deferred tax assets:
Allowance for loan losses $ 1,172,111 $ 939,729
Investment securities 189,312 46,613
Asset under capital lease 20,667 44,654
Premises and equipment 230,643 159,637
Accrued expenses 13,580 14,062
Other 7,206 15,938
---------- ----------
Gross deferred tax assets 1,633,519 1,220,633
---------- ----------
Deferred tax liabilities:
Tax bad debt reserve 109,394 115,909
Investment securities - 350,028
---------- ----------
Gross deferred tax liabilities 109,394 465,937
---------- ----------
Deferred tax asset, net $ 1,524,125 $ 754,696
========== ==========
Note 10. Goodwill
The Company adopted the provisions of SFAS 142 effective January 1,
2002. As a result, effective January 1, 2002, goodwill is no longer
amortized, and is evaluated for impairment under SFAS 142. Based on the
Company's initial goodwill impairment test, goodwill was not impaired at
the date of adoption of SFAS 142, and based on the Company's annual
goodwill impairment tests performed in October 2003 and 2002, goodwill
was not impaired for the years ended December 31, 2003 and 2002. In
addition, no goodwill was acquired during 2003 and 2002.
Note 11. Shareholders' Equity
Income Per Share
----------------
The following is information about the computation of income per share
for the years ended December 31, 2003 and 2002.
2003
----------------------------------
Net Per Share
Income Shares Amount
----------------------------------
Basic Income Per Share
Income available to
common shareholders $ 1,340,720 2,400,879 $ 0.56
Effect of Dilutive Securities
Warrants and stock options
outstanding - 42,357 (0.01)
-----------------------------------
Diluted Income Per Share
Income available to common
shareholders plus assumed
conversions $ 1,340,720 2,443,236 $ 0.55
===================================
2002
----------------------------------
Net Per Share
Income Shares Amount
----------------------------------
Basic Income Per Share
Income available to
common shareholders $ 1,052,007 2,400,525 $ 0.44
Effect of Dilutive Securities
Warrants and stock options
outstanding - 26,789 (0.01)
-----------------------------------
Diluted Income Per Share
Income available to common
shareholders plus assumed
conversions $ 1,052,007 2,427,314 $ 0.43
===================================
Stock warrants
---------------
The Bank issued warrants to certain of the Bank's original organizing
group and certain other individuals to purchase up to 95,000 shares of
the Bank's common stock at the original public offering price of $6 per
share. These warrants are currently exercisable and expire on August 31,
2004. The obligations related to all warrants issued by the Bank were
assumed by the Company. The Company has reserved 83,484 shares of its
common stock for issuance upon exercise of these warrants.
A summary of the status of the warrants at December 31, 2003 and 2002,
and changes during the years ended on those dates, is as follows:
2003 2002
------------------------- -------------------------
Weighted- Weighted-
Number Average Number Average
of Exercise of Exercise
Shares Price Shares Price
------------------------- -------------------------
Outstanding at
beginning of year 91,166 $ 6.00 91,166 $ 6.00
Expired - -
Exercised 7,682 6.00 -
-------- --------
Outstanding at
end of year 83,484 6.00 91,166 6.00
======== ========
Exercisable at
end of year 83,484 6.00 91,166 6.00
======== ========
The weighted average remaining contractual life for the warrants
outstanding at December 31, 2003 is 0.7 years.
Stock options
-------------
On August 17, 1999, the Bank adopted a stock option plan (the "Plan")
for employees and directors, under which both incentive and
non-qualified stock options could have been granted, and subsequently
the Company assumed all obligations related to such options. The Plan
provided for the grant of 110,000 non-qualified and incentive stock
options in 1999 to certain directors of the Company, with an exercise
price equal to the market value of the Company's stock on the date of
grant. Such options were immediately exercisable and expire if
unexercised ten years after the date of grant. The Company has reserved
110,000 shares of common stock for issuance under the Plan. No
additional options may be granted under the Plan.
A summary of the status of the stock options at December 31, 2003 and
2002 is as follows:
2003 2002
------------------------- -------------------------
Weighted- Weighted-
Number Average Number Average
of Exercise of Exercise
Shares Price Shares Price
------------------------- -------------------------
Outstanding at
beginning of year 110,000 $ 10.13 110,000 $ 10.13
Granted - -
-------- ---------
Outstanding at
end of year 110,000 10.13 110,000 10.13
======== =========
Exercisable at
end of year 110,000 10.13 110,000 10.13
======== =========
The weighted-average remaining contractual life for the options
outstanding at December 31, 2003 is 5.6 years.
Note 12. 401(k) Savings Plan
The Company offers employees participation in the Patriot National Bank
401(k) Savings Plan (the "401(k) Plan") under Section 401(k) of the
Internal Revenue Code. The 401(k) Plan covers substantially all
employees who have completed six months of service, are 21 years of age
and who elect to participate. Under the terms of the 401(k) Plan,
participants can contribute up to the maximum amount allowed, subject to
Federal limitations. The Company may make discretionary matching
contributions to the 401(k) Plan. Participants are immediately vested in
their contributions and Company contributions. The Company contributed
approximately $73,000 and $34,000 to the 401(k) Plan in 2003 and 2002,
respectively.
Note 13. Financial Instruments With Off-Balance-Sheet Risk
In the normal course of business, the Company is a party to financial
instruments with off-balance-sheet risk to meet the financing needs of
its customers. These financial instruments include commitments to extend
credit and standby letters of credit and involve, to varying degrees,
elements of credit and interest rate risk in excess of the amounts
recognized in the balance sheets. The contract amounts of these
instruments reflect the extent of involvement the Company has in
particular classes of financial instruments.
The contractual amounts of commitments to extend credit and standby
letters of credit represent the amounts of potential accounting loss
should the contract be fully drawn upon, the customer default, and the
value of any existing collateral become worthless. The Company uses the
same credit policies in making commitments and conditional obligations
as it does for on-balance-sheet instruments and evaluates each
customer's creditworthiness on a case-by-case basis. Management believes
that the Company controls the credit risk of these financial instruments
through credit approvals, credit limits, monitoring procedures and the
receipt of collateral as deemed necessary.
Financial instruments whose contract amounts represent credit risk are
as follows at December 31, 2003 and 2002:
2003 2002
---------------------------------
Commitments to extend credit:
Future loan commitments $ 23,618,500 $ 32,714,416
Unused lines of credit 31,433,770 25,127,648
Undisbursed construction loans 31,958,302 29,592,692
Financial standby letters of credit 122,000 635,500
----------- -----------
$ 87,132,572 $ 88,070,256
=========== ===========
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 to extend credit generally have fixed expiration
dates or other termination clauses and may require payment of a fee by
the borrower. Since these commitments could expire without being drawn
upon, the total commitment amounts do not necessarily represent future
cash requirements. The amount of collateral obtained, if deemed
necessary by the Company upon extension of credit, is based on
management's credit evaluation of the counterparty. Collateral held
varies, but may include residential and commercial property, deposits
and securities.
Standby letters of credit are written commitments issued by the Company
to guarantee the performance of a customer to a third party. The credit
risk involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers. As of January
1, 2003, newly issued or modified guarantees that are not derivative
contracts have been recorded on the Company's consolidated balance sheet
at their fair value at inception. No liability related to guarantees was
required to be recorded at December 31, 2003.
Note 14. Regulatory Matters
The Company and the Bank are subject to various regulatory capital
requirements administered by the federal 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 direct material effect on the Company's
financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Company and the
Bank must meet specific capital guidelines that involve quantitative
measures of the Company's and the Bank's assets, liabilities, and
certain off-balance-sheet items as calculated under regulatory
accounting practices. The Company's and the Bank's 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 the Bank to maintain minimum amounts
and ratios (set forth in the table below) of total and Tier I capital
(as defined in the regulations) to risk-weighted assets (as defined),
and of Tier I capital (as defined) to average assets (as defined).
Management believes, as of December 31, 2003, that the Company and the
Bank meet all capital adequacy requirements to which it is subject.
The most recent notification from the Office of the Comptroller of the
Currency categorized the Bank as well capitalized under the regulatory
framework for prompt corrective action. To be categorized as well
capitalized, the Bank must maintain minimum total risk-based, Tier I
risk-based, and Tier-I leverage ratios as set forth in the table. There
are no conditions or events since then that management believes have
changed the Bank's category.
The Company's and the Bank's actual capital amounts and ratios at
December 31, 2003 and 2002 were (dollars in thousands):
To Be Well
Capitalized
Under Prompt
Corrective
For Capital Action
Actual Adequacy Purposes Provisions
------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
------------------------------------------------
2003
====
The Company:
-----------
Total Capital (to Risk
Weighted Assets) $ 29,094 11.87% $ 19,608 8.00% $ N/A N/A
Tier I Capital (to Risk
Weighted Assets) 24,522 10.00% 9,809 4.00% N/A N/A
Tier I Capital
(Average Assets) 24,522 7.51% 13,061 4.00% N/A N/A
The Bank:
--------
Total Capital (to Risk
Weighted Assets) $ 28,568 11.67% $ 19,584 8.00% $24,480 10.00%
Tier I Capital (to Risk
Weighted Assets) 25,633 10.47% 9,793 4.00% 14,689 6.00%
Tier I Capital (to
Average Assets) 25,633 7.85% 13,061 4.00% 16,327 5.00%
---------------------------------------------------
2002
====
The Company:
-----------
Total Capital (to Risk
Weighted Assets) $ 19,382 10.39% $ 14,924 8.00% $ N/A N/A
Tier I Capital (to Risk
Weighted Assets) 17,044 9.13% 7,467 4.00% N/A N/A
Tier I Capital
(Average Assets) 17,044 6.99% 9,753 4.00% N/A N/A
The Bank:
--------
Total Capital (to Risk
Weighted Assets) $ 19,340 10.36% $ 14,934 8.00% $18,668 10.00%
Tier I Capital (to Risk
Weighted Assets) 17,001 9.11% 7,465 4.00% 11,197 6.00%
Tier I Capital
(to Average Assets) 17,001 6.98% 9,743 4.00% 12,178 5.00%
Restrictions on dividends, loans and advances
---------------------------------------------
The Company's ability to pay dividends is dependent on the Bank's
ability to pay dividends to the Company. However, certain restrictions
exist regarding the ability of the Bank to transfer funds to the Company
in the form of cash dividends, loans or advances. The approval of the
Comptroller of the Currency is required to pay dividends in excess of
the Bank's earnings retained in the current year plus retained net
earnings for the preceding two years. As of December 31, 2003, the Bank
had retained earnings of approximately $3,477,000, all of which is
available for distribution to the Company as dividends without prior
regulatory approval. The Bank is also prohibited from paying dividends
that would reduce its capital ratios below minimum regulatory
requirements, and the FRB may impose further dividend restrictions on
the Company.
Loans or advances to the Company by the Bank are limited to 10% of the
Bank's capital stock and surplus on a secured basis.
Note 15. Related Party Transactions
In the normal course of business, the Company grants loans to executive
officers, directors and members of their immediate families, as defined,
and to entities in which these individuals have more than a 10% equity
ownership. Such loans are transacted at terms, including interest rates,
similar to those available to unrelated customers.
Changes in loans outstanding to such related parties during 2003 and
2002 are as follows:
2003 2002
-----------------------------
Balance, beginning of year $ 3,547,766 $ 3,847,622
Additional loans 8,823 4,043,876
Repayments (2,129,708) (3,914,030)
Adjustment for former related parties (16,441) (429,702)
-----------------------------
Balance, end of year $ 1,410,440 $ 3,547,766
=============================
Related party deposits aggregated approximately $4,126,000 and
$4,002,000 as of December 31, 2003 and 2002, respectively.
The Company leases office space to a director of the Company under two
leases. Rental income under these leases was approximately $25,300 and
$22,300, respectively, for the years ended December 31, 2003 and 2002.
During 2003 and 2002, the Company paid legal fees of approximately
$30,400 and $21,800, respectively, to an attorney who is a director of
the Company.
Note 16. Other Comprehensive Income
Other comprehensive income, which is comprised solely of the change in
unrealized gains and losses on available for sale securities, is as
follows:
2003
--------------------------------------
Before-Tax Net-of-Tax
Amount Tax Effect Amount
--------------------------------------
Unrealized holding losses
arising during period $ (1,727,056) $ 656,281 $ (1,070,775)
Less reclassification
adjustment for gains
recognized in net income 307,739 (116,941) 190,798
--------------------------------------
Unrealized holding loss
on available for sale
securities, net of taxes $ (1,419,317) $ 539,340 $ (879,977)
======================================
2002
--------------------------------------
Before-Tax Net-of-Tax
Amount Tax Effect Amount
--------------------------------------
Unrealized holding gains
arising during period $ 466,603 $(168,083) $ 298,520
Add reclassification
adjustment for losses
recognized in net income 25,733 (9,270) 16,463
--------------------------------------
Unrealized holding gain on
available for sale
securities, net of taxes $ 492,336 $(177,353) $ 314,983
======================================
Note 17. Fair Value of Financial Instruments and Interest Rate Risk
SFAS No. 107, "Disclosures About Fair Value of Financial Instruments"
("Statement No. 107"), requires disclosure of fair value information
about financial instruments, whether or not recognized in the statements
of condition, for which it is practicable to estimate that value. In
cases where quoted market prices are not available, fair values are
based on estimates using present value or other valuation techniques.
Those techniques are significantly affected by the assumptions used,
including the discount rates and estimates of future cash flows. In that
regard, the derived fair value estimates cannot be substantiated by
comparisons to independent markets and, in many cases, could not be
realized in immediate settlement of the instrument. Statement No. 107
excludes certain financial instruments from its disclosure requirements.
Accordingly, the aggregate fair value amounts presented do not represent
the underlying value of the Company.
Management uses its best judgment in estimating the fair value of the
Company's financial instruments; however, there are inherent weaknesses
in any estimation technique. Therefore, for substantially all financial
instruments, the fair value estimates presented herein are not
necessarily indicative of the amounts the Company could have realized in
a sales transaction at December 31, 2003 and 2002. The estimated fair
value amounts for 2003 and 2002 have been measured as of their
respective year-ends, and have not been reevaluated or updated for
purposes of these consolidated financial statements subsequent to those
respective dates. As such, the fair values of these financial
instruments subsequent to the respective reporting dates may be
different from the amounts reported at each year-end.
The information presented should not be interpreted as an estimate of
the fair value of the entire Company since a fair value calculation is
only required for a limited portion of the Company's assets and
liabilities. Due to the wide range of valuation techniques and the
degree of subjectivity used in making the estimate, comparisons between
the Company's disclosures and those of other bank holding companies may
not be meaningful.
As of December 31, 2003 and 2002, the recorded book balances and
estimated fair values of the Company's financial instruments were (in
thousands):
2003 2002
--------------------- ---------------------
Recorded Recorded
Book Book
Balance Fair Value Balance Fair Value
--------------------- ---------------------
Financial Assets:
----------------
Cash and due from banks $ 4,024 $ 4,024 $ 5,386 $ 5,386
Federal funds sold 15,000 15,000 3,000 3,000
Short-term investments 10,431 10,431 3,349 3,349
Available for sale
securities 90,562 90,562 60,618 60,618
Federal Reserve Bank stock 691 691 481 481
Federal Home Loan Bank stock 1,077 1,077 621 621
Loans receivable, net 214,421 218,064 170,795 174,693
Accrued interest receivable 1,471 1,471 1,311 1,311
Financial Liabilities:
---------------------
Demand deposits $ 30,477 $ 30,477 $ 25,520 $ 25,520
Savings deposits 23,793 23,793 26,848 26,848
Money market deposits 69,504 69,504 56,974 56,974
NOW accounts 22,850 22,850 22,686 22,686
Time deposits 143,369 148,005 85,884 88,470
FHLB borrowings 17,000 17,107 4,000 4,251
Securities sold under
agreements to repurchase 5,700 5,700 5,700 5,700
Subordinated debt 8,248 8,248 - -
Collateralized borrowings 249 249 349 349
Unrecognized financial instruments
-----------------------------------
Loan commitments on which the committed interest rate is less than the
current market rate were insignificant at December 31, 2003 and 2002.
The estimated fair value of fee income on letters of credit at December
31, 2003 and 2002 was insignificant.
The Company assumes interest rate risk (the risk that general interest
rate levels will change) as a result of its normal operations. As a
result, the fair values of the Company's financial instruments will
change when interest rate levels change and that change may be either
favorable or unfavorable to the Company. Management attempts to match
maturities of assets and liabilities to the extent believed necessary to
minimize interest rate risk. However, borrowers with fixed rate
obligations are less likely to prepay in a rising rate environment and
more likely to prepay in a falling rate environment. Conversely,
depositors who are receiving fixed rates are more likely to withdraw
funds before maturity in a rising rate environment and less likely to do
so in a falling rate environment. Management monitors rates and
maturities of assets and liabilities and attempts to minimize interest
rate risk by adjusting terms of new loans and deposits and by investing
in securities with terms that mitigate the Company's overall interest
rate risk.
Note 18. Segment Reporting
The Company has two reportable segments, the commercial bank and the
mortgage broker. The commercial bank segment provides its commercial
customers with products such as commercial mortgage and construction
loans, working capital loans, equipment loans and other business
financing arrangements, and provides its consumer customers with
residential mortgage loans, home equity loans and other consumer
installment loans. The commercial bank segment also attracts deposits
from both consumer and commercial customers and invests such deposits in
loans, investments and working capital. The commercial bank's revenues
are generated primarily from net interest income from its lending,
investment and deposit activities.
The mortgage broker solicits and processes conventional mortgage loan
applications from consumers on behalf of permanent investors and
originates loans for sale. Revenues are generated from loan brokerage
and application processing fees received from the permanent investors,
and gains and origination fees from loans sold.
Information about reportable segments, and a reconciliation of such
information to the consolidated financial statements as of and for the
years ended December 31, 2003 and 2002 is as follows (in thousands):
Commercial Mortgage Consolidated
2003 Bank Broker Totals
---- ---------------------------------------
Net interest income $ 9,626 $ - $ 9,626
Noninterest income 851 3,963 4,814
Noninterest expenses 8,441 3,218 11,659
Provision for loan losses 563 - 563
Income before taxes 1,473 745 2,218
Assets 341,473 996 342,469
Commercial Mortgage Consolidated
2002 Bank Broker Totals
---- ---------------------------------------
Net interest income $ 7,840 $ - $ 7,840
Noninterest income 496 3,618 4,114
Noninterest expenses 6,934 2,879 9,813
Provision for loan losses 468 - 468
Income before taxes 934 739 1,673
Assets 247,459 1,038 248,497
The accounting policies of the segments are the same as those described
in the summary of significant accounting policies. Management allocates
certain overhead expenses of the commercial bank to the mortgage broker
segment, which allocations are based on a pre-determined monthly charge
agreed to between the Company and the mortgage broker segment.
Management evaluates the performance of each segment based on profit or
loss from operations before income taxes. Intersegment revenues are
accounted for at amounts that assume the revenues were between unrelated
third parties at the current market prices at the time of the
transactions.
The Company's reportable segments are strategic business units that
offer different products and services. They are managed separately
because each segment appeals to different markets and, accordingly,
requires different technology and marketing strategies.
The Company does not have operating segments other than those reported
and the Company does not have a single external customer from which it
derives 10% or more of its revenues and the Company operates in one
geographical area.