SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [MarkOne] [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2005 [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________ to ____________ Commission File Number 0-32637 AMES NATIONAL CORPORATION ------------------------------------------------------ (Exact Name of Registrant as Specified in Its Charter) IOWA 42-1039071 ------------------------------------------------------------------------------ (State or Other Jurisdiction of (I. R. S. Employer Incorporation or Organization) Identification Number) 405 FIFTH STREET AMES, IOWA 50010 --------------------------------------- (Address of Principal Executive Offices) Registrant's Telephone Number, Including Area Code: (515) 232-6251 Not Applicable ------------------------------------------------------------------------------ (Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___ Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes __X__ No _____ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ____ No ___X_ Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. COMMON STOCK, $2.00 PAR VALUE 9,419,271 - -------------------------------------------------------------------------------- (Class) (Shares Outstanding at November 1, 2005) 1
AMES NATIONAL CORPORATION INDEX Page Part I. Financial Information Item 1. Consolidated Financial Statements (Unaudited) Consolidated Balance Sheets at September 30, 2005 and December 31, 2004 3 Consolidated Statements of Income for the three and nine months ended September 30, 2005 and 2004 Consolidated Statements of Cash Flows for the nine months ended September 30, 2005 and 2004 4 Notes to Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 6 Item 3. Quantitative and Qualitative Disclosures About Market Risk 20 Item 4. Controls and Procedures 20 Part II.Other Information Items 1 through 6 21 Signatures 22 2
AMES NATIONAL CORPORATION AND SUBSIDIARIES Consolidated Balance Sheets (unaudited) <TABLE> Assets September 30, December 31, 2005 2004 - ------------------------------------------------------------------------------------------------------ <S> <C> <C> Cash and due from banks ............................................. $ 20,264,961 $ 18,759,086 Federal funds sold .................................................. 100,000 19,865,000 Interest bearing deposits in financial institutions ................. 6,973,569 9,575,174 Securities available-for-sale ....................................... 343,497,810 363,459,462 Loans receivable, net ............................................... 435,708,073 411,638,565 Loans held for sale ................................................. 756,219 234,469 Bank premises and equipment, net .................................... 9,221,385 8,790,636 Accrued income receivable ........................................... 7,471,349 6,262,424 Other assets ........................................................ 420,048 1,167,971 ----------------------------- Total assets ............................................. $ 824,413,414 $ 839,752,787 ============================= Liabilities and Stockholders' Equity Liabilities: Deposits: Demand ........................................................... $ 71,330,829 $ 71,666,385 NOW accounts ..................................................... 163,803,373 172,313,429 Savings and money market ......................................... 153,653,610 174,358,165 Time, $100,000 and over .......................................... 92,021,355 69,063,977 Other time ....................................................... 176,630,452 170,773,883 ----------------------------- Total deposits ........................................... 657,439,619 658,175,839 ============================= Federal funds purchased and securities sold under agreements to repurchase .............................. 50,678,317 64,072,475 Dividends payable ................................................... 2,354,818 1,537,162 Deferred taxes ...................................................... 423,282 2,334,670 Accrued interest and other liabilities .............................. 3,623,182 2,708,701 ----------------------------- Total liabilities ........................................ 714,519,218 728,828,847 ----------------------------- Stockholders' Equity: Common stock, $2 par value; authorized 18,000,000 shares; 9,419,271 shares issued and outstanding September 30, 2005; 9,459,690 and 9,411,198 shares issued and outstanding at December 31, 2004, respectively ............................. 18,838,542 18,919,380 Additional paid-in-capital ....................................... 22,383,375 22,225,516 Retained earnings ................................................ 64,359,425 63,200,352 Treasury stock, at cost; 48,492 shares at December 31, 2004 ...... -- (889,020) Accumulated other comprehensive income - net unrealized gain on securities available-for-sale ............................... 4,312,854 7,467,712 ----------------------------- Total stockholders' equity ............................... 109,894,196 110,923,940 ----------------------------- Total liabilities and stockholders' equity ............... $ 824,413,414 $ 839,752,787 ============================= </TABLE> 3
AMES NATIONAL CORPORATION AND SUBSIDIARIES Consolidated Statements of Income (unaudited) <TABLE> Three Months Ended Nine Months Ended September 30, September 30, 2005 2004 2005 2004 - ----------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Interest and dividend income: Loans ............................................... $ 7,036,222 $ 5,721,244 $ 19,888,720 $16,545,006 Securities Taxable ........................................... 2,121,380 2,157,631 6,469,383 6,385,422 Tax-exempt ........................................ 1,040,237 1,061,069 3,162,676 3,206,725 Federal funds sold .................................. 3,277 3,065 131,557 81,161 Dividends ........................................... 333,722 380,838 1,053,311 1,129,368 ------------------------------------------------------ Total interest income .................................. 10,534,838 9,323,847 30,705,647 27,347,682 ------------------------------------------------------ Interest expense: Deposits ............................................ 3,691,821 2,470,179 10,237,119 7,144,678 Other borrowed funds ................................ 482,849 192,070 1,148,575 360,697 ------------------------------------------------------ Total interest expense ................................. 4,174,670 2,662,249 11,385,694 7,505,375 ------------------------------------------------------ Net interest income ........................... 6,360,168 6,661,598 19,319,953 19,842,307 Provision for loan losses .............................. 118,431 (63,820) 247,038 204,888 ------------------------------------------------------ Net interest income after provision for loan losses .... 6,241,737 6,725,418 19,072,915 19,637,419 ------------------------------------------------------ Non-interest income: Trust department income ............................. 271,730 266,539 1,015,260 875,697 Service fees ........................................ 465,027 503,027 1,335,672 1,320,895 Securities gains, net ............................... 265,771 19,821 633,554 51,363 Gain on sale of loans held for sale ................. 186,812 125,764 468,833 473,505 Merchant and ATM fees ............................... 145,006 137,384 429,209 406,789 Other ............................................... 110,473 365,236 351,314 680,362 ------------------------------------------------------ Total non-interest income ..................... 1,444,819 1,417,771 4,233,842 3,808,611 ------------------------------------------------------ Non-interest expense: Salaries and employee benefits ...................... 2,354,097 2,240,214 7,065,595 6,768,289 Data processing ..................................... 469,622 482,341 1,515,026 1,590,621 Occupancy expenses .................................. 285,962 250,782 864,370 755,734 Other operating expenses ............................ 697,397 730,908 1,999,283 1,918,551 ------------------------------------------------------ Total non-interest expense .................... 3,807,078 3,704,245 11,444,274 11,033,195 ------------------------------------------------------ Income before income taxes .................... 3,879,478 4,438,944 11,862,483 12,412,835 Income tax expense ..................................... 962,102 1,066,557 2,962,871 3,213,867 ------------------------------------------------------ Net income .................................... $ 2,917,376 $ 3,372,387 8,899,612 $ 9,198,968 ====================================================== Basic and diluted earnings per share ................... $ 0.31 $ 0.36 0.95 $ 0.98 ====================================================== Declared dividends per share ........................... $ 0.25 $ 0.16 0.75 $ 0.64 ====================================================== Comprehensive Income ................................... $ 473,204 $ 6,946,426 5,744,755 $ 8,124,695 ====================================================== </TABLE> 4
AMES NATIONAL CORPORATION AND SUBSIDIARIES Consolidated Statements of Cash Flows (unaudited) <TABLE> Nine Months Ended September 30, 2005 2004 - -------------------------------------------------------------------------------------------------------------------- <S> <C> <C> Cash flows from operating activities: Net income .......................................................................$ 8,899,612 $ 9,198,968 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses ...................................................... 247,038 204,888 Amortization and accretion, net ................................................ 396,565 512,740 Depreciation ................................................................... 667,635 673,275 Provision for deferred taxes ................................................... (58,535) (54,728) Securities gains, net .......................................................... (633,554) (51,363) Change in assets and liabilities: (Increase) decrease loans held for sale ........................................ (521,750) 518,989 (Increase) in accrued income receivable ........................................ (1,208,925) (874,626) (Increase) decrease in other assets ............................................ 747,923 (575,616) Increase in accrued interest and other liabilities ............................. 914,481 131,950 ------------------------------- Net cash provided by operating activities ................................ 9,450,490 9,684,477 ------------------------------- Cash flows from investing activities: Purchase of securities available-for-sale ........................................ (49,455,168) (111,799,588) Proceeds from sale of securities available-for-sale .............................. 21,228,870 1,746,803 Proceeds from maturities of securities available-for-sale ........................ 43,417,229 74,748,136 Net (increase) decrease in interest bearing deposits in financial institutions ... 2,601,605 (2,851,057) Net decrease in federal funds sold ............................................... 19,765,000 20,045,000 Net (increase) in loans .......................................................... (24,316,546) (32,074,261) Purchase of bank premises and equipment .......................................... (1,098,384) (1,079,287) -------------------------------- Net cash provided by (used in) investing activities ...................... 12,142,606 (51,264,254) -------------------------------- Cash flows from financing activities: Increase (decrease) in deposits .................................................. (736,220) 29,368,726 Increase (decrease) in federal funds purchased and securities sold under agreements to repurchase ............................. (13,394,158) 14,793,901 Dividends paid ................................................................... (6,244,780) (4,419,571) Proceeds from issuance of treasury stock ......................................... 287,937 247,482 -------------------------------- Net cash provided by (used in) financing activities ...................... (20,087,221) 39,990,538 -------------------------------- Net (decrease) in cash and cash equivalents .............................. 1,505,875 (1,589,239) -------------------------------- Cash and cash equivalents at beginning of the year .................................. 18,759,086 31,982,144 -------------------------------- Cash and cash equivalents at end of quarter .........................................$ 20,264,961 $ 30,392,905 ================================ Supplemental disclosures of cash flow information: Cash paid for interest ...........................................................$ 11,359,468 $ 7,761,791 Cash paid for taxes .............................................................. 3,068,666 3,314,024 </TABLE> 5
AMES NATIONAL CORPORATION AND SUBSIDIARIES Notes to Consolidated Financial Statements (Unaudited) 1. Significant Accounting Policies The consolidated financial statements for the three and nine month periods ended September 30, 2005 and 2004 are unaudited. In the opinion of the management of Ames National Corporation (the "Company"), these financial statements reflect all adjustments, consisting only of normal recurring accruals, necessary to present fairly these consolidated financial statements. The results of operations for the interim periods are not necessarily indicative of results which may be expected for an entire year. Certain information and footnote disclosures normally included in complete financial statements prepared in accordance with generally accepted accounting principles have been omitted in accordance with the requirements for interim financial statements. The interim financial statements and notes thereto should be read in conjunction with the year-end audited financial statements contained in the Company's 10-K. The consolidated condensed financial statements include the accounts of the Company and its wholly-owned banking subsidiaries (the "Banks"). All significant intercompany balances and transactions have been eliminated in consolidation. 2. Dividends On August 10, 2005, the Company declared a cash dividend on its common stock, payable on November 15, 2005 to stockholders of record as of November 1, 2005, equal to $0.25 per share. 3. Earnings Per Share Earnings per share amounts were calculated using the weighted average shares outstanding during the periods presented. The weighted average outstanding shares for the three months ended September 30, 2005 and 2004 were 9,419,271 and 9,411,198, respectively. The weighted average outstanding shares for the nine months ended September 30, 2005 and 2004 were 9,414,362 and 9,403,860, respectively. 4. Stock Split On June 15, 2005, shareholders of the Company approved an amendment to the Restated Articles increasing the Company's authorized common stock from 6 million to 18 million shares and reducing the par value of such common stock from $5.00 to $2.00 per share. The purpose of the amendment was to provide a sufficient number of shares of authorized common stock to accommodate a 3-for-1 stock split previously approved by the Board of Directors of the Company on May 11, 2005. The stock split was effective July 15, 2005 for holders of record as of July 1, 2005. Share and per share data for all periods presented have been restated to reflect the stock split. 5. Off-Balance Sheet Arrangements The Company is party to financial instruments with off-balance-sheet risk in the normal course of business. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet. No material changes in the Company's off-balance sheet arrangements have occurred since December 31, 2004. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Overview Ames National Corporation is a bank holding company established in 1975 that owns and operates five bank subsidiaries in central Iowa. The following discussion is provided for the consolidated operations of the Company and its Banks, First National Bank, Ames, Iowa (First National), State Bank & Trust Co. (State Bank), Boone Bank & Trust Co. (Boone Bank), Randall-Story State Bank (Randall-Story Bank) and United Bank & Trust NA (United Bank). The purpose of this discussion is to focus on significant factors affecting the Company's financial condition and results of operations. Share and per share data for all periods presented have been restated to reflect the stock split. 6
The Company does not engage in any material business activities apart from its ownership of the Banks. Products and services offered by the Banks are for commercial and consumer purposes including loans, deposits and trust services. The Banks also offer investment services through a third-party broker dealer. The Company employs ten individuals to assist with financial reporting, human resources, audit, compliance, marketing, technology systems and the coordination of management activities, in addition to 175 full-time equivalent individuals employed by the Banks. The Company's primary competitive strategy is to utilize seasoned and competent Bank management and local decision making authority to provide customers with faster response times and more flexibility in the products and services offered. This strategy is viewed as providing an opportunity to increase revenues through creating a competitive advantage over other financial institutions. The Company also strives to remain operationally efficient to provide better profitability while enabling the Company to offer more competitive loan and deposit rates. The principal sources of Company revenues and cash flow are: (i) interest and fees earned on loans made by the Banks; (ii) interest on fixed income investments held by the Banks; (iii) securities gains and dividends on equity investments held by the Company and the Banks; (iv) service charges on deposit accounts maintained at the Banks; and (v) fees on trust services provided by those Banks exercising trust powers. The Company's principal expenses are: (i) interest expense on deposit accounts and other borrowings; (ii) salaries and employee benefits; (iii) data processing costs associated with maintaining the Bank's loan and deposit functions; and (iv) occupancy expenses for maintaining the Banks' facilities. The largest component contributing to the Company's net income is net interest income, which is the difference between interest earned on earning assets (primarily loans and investments) and interest paid on interest bearing liabilities (primarily deposits and other borrowings). One of management's principal functions is to manage the spread between interest earned on earning assets and interest paid on interest bearing liabilities in an effort to maximize net interest income while maintaining an appropriate level of interest rate risk. The Company earned net income of $2,917,000, or $0.31 per share for the three months ended September 30, 2005, compared to net income of $3,372,000, or $0.36 per share, for the three months ended September 30, 2004, a decrease of 14%. This decrease in net income was primarily the result of lower net interest income as interest bearing liabilities adjusted to increased market interest rates faster than loans and investments. For the nine month period ending September 30, 2005, the Company earned net income of $8,900,000, or $0.95 per share, a 3% decrease over net income of $9,199,000, or $0.98 per share, earned a year ago. As with the quarterly earnings results, higher interest expense was a drag on earnings, reducing net interest income by $522,000 compared to the first nine months one year ago. However, earnings were bolstered for the nine months ending September 30, 2005 by net securities gains totaling $634,000 compared to $51,000 for the same period in 2004. Non-interest expense increased 4% for the nine month period ending September 30, 2005 compared to the same period a year ago, primarily as the result of normal salary and benefit increases. The following management discussion and analysis will provide a summary review of important items relating to: o Challenges o Key Performance Indicators and Industry Results o Income Statement Review o Balance Sheet Review o Asset Quality and Credit Risk Management o Liquidity and Capital Resources o Forward-Looking Statements and Business Risks 7
Challenges Management has identified certain challenges that may negatively impact the Company's revenues in the future and is attempting to position the Company to best respond to those challenges. o Short-term federal fund interest rates have risen 2.00% since September of last year. This rapid increase has negatively impacted the Company's net interest margin as interest expense on interest bearing liabilities increased more quickly than interest income on earning assets. Additional rapid increases in short term rates may create additional downward pressure on the Company's earnings. As a result of the short term rate increases and the competitive nature of the Company's markets, the net interest margin has fallen to 3.58% for the three months ended September 30, 2005 compared to 3.95% for the three months ended September 30, 2004. The Company's earning assets (primarily its loan and investment portfolio) have longer maturities than its interest bearing liabilities (primarily deposits and other borrowings); therefore, in a rising interest rate environment, interest expense will increase more quickly than interest income as the interest bearing liabilities reprice more quickly than earning assets. In response to this challenge, the Banks model quarterly the changes in income that would result from various changes in interest rates. Management believes the Bank's assets have the appropriate maturity and repricing characteristics to optimize earnings and the Banks' interest rate risk positions. o The Company's market in central Iowa has numerous banks, credit unions, and investment and insurance companies competing for similar business opportunities. This competitive environment will continue to put downward pressure on the Banks' net interest margins and thus affect profitability. Strategic planning efforts at the Company and Banks continue to focus on capitalizing on the Banks' strengths in local markets while working to identify opportunities for improvement to gain competitive advantages. o A potential challenge to the Company's earnings would be poor performance in the Company's equity portfolio, thereby reducing the historical level of realized security gains. The Company, on an unconsolidated basis, invests capital that may be utilized for future expansion in a portfolio of primarily financial and utility stocks with a market value of $23 million as of September 30, 2005. The Company focuses on stocks that have historically paid dividends that may lessen the negative effects of a bear market. Key Performance Indicators and Industry Results Certain key performance indicators for the Company and the industry are presented in the following chart. The industry figures are compiled by the Federal Deposit Insurance Corporation (FDIC) and are derived from 8,930 commercial banks and savings institutions insured by the FDIC. Management reviews these indicators on a quarterly basis for purposes of comparing the Company's performance from quarter to quarter against the industry as a whole. Selected Indicators for the Company and the Industry <TABLE> September 30, 2005 June 30, 2005 Years Ended December 31, 3 Months 9 Months 3 Months Ended Ended Ended 2004 2003 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- Company Company Company Industry* Company Industry Company Industry <S> <C> <C> <C> <C> <C> <C> <C> <C> Return on assets 1.41% 1.43% 1.42% 1.28% 1.56% 1.29% 1.60% 1.38% Return on equity 10.54% 10.78% 10.89% 12.35% 11.47% 13.28% 11.16% 15.04% Net interest margin 3.58% 3.60% 3.53% 3.49% 3.97% 3.53% 4.02% 3.73% Efficiency ratio 48.78% 48.59% 48.61% 58.22% 46.59% 58.03% 47.18% 56.59% Capital ratio 13.31% 13.23% 13.37% 8.26% 13.62% 8.12% 14.33% 7.88% </TABLE> *Latest available data 8
Key performances indicators include: o Return on Assets This ratio is calculated by dividing net income by average assets. It is used to measure how effectively the assets of the Company are being utilized in generating income. The Company's annualized return on average assets was 1.41% and 1.70%, respectively, for the three month periods ending September 30, 2005 and 2004. Although the Company's return on assets ratio compares favorably to that of the industry, this ratio declined in 2005 as the result of lower net income and a higher level of average assets. o Return on Equity This ratio is calculated by dividing net income by average equity. It is used to measure the net income or return the Company generated for the shareholders' equity investment in the Company. The Company's annualized return on equity ratio is below that of the industry's primarily as a result of the higher level of capital the Company maintains for future growth and acquisitions. The Company's return on average equity was 10.54% and 12.66%, respectively for the three month periods ending September 30, 2005 and 2004. Lower net income as the result of higher interest expense contributed to the lower return on equity as compared to that of a year ago. o Net Interest Margin The net interest margin for the three months ended September 30, 2005 was 3.58% compared to 3.95% for the three months ended September 30, 2004. The ratio is calculated by dividing net interest income by average earning assets. Earning assets are primarily made up of loans and investments that earn interest. This ratio is used to measure how well the Company is able to maintain interest rates on earning assets above those of interest-bearing liabilities, which is the interest expense paid on deposits and other borrowings. The Company's net interest margin declined 37 basis points for the quarter ended September 30, 2005 when compared to the same period ended September 30, 2004, and is slightly higher than the industry average of 3.49%. Management expects the rising interest rate environment and the competitive nature of the Company's market environment to put downward pressure on the Company's margin for the remainder of 2005. o Efficiency Ratio This ratio is calculated by dividing noninterest expense by net interest income and noninterest income. The ratio is a measure of the Company's ability to manage noninterest expenses. The Company's efficiency ratio compares favorably to the industry's average and was 48.78% and 45.85% for the three months ended September 30, 2005 and 2004, respectively. Lower net interest income and an increase in salary and benefits of 5% compared to one year ago contributed to the higher efficiency ratio in 2005. o Capital Ratio The average capital ratio is calculated by dividing total equity capital by average total assets. It measures the level of average assets that are funded by shareholders' equity. Given an equal level of risk in the financial condition of two companies, the higher the capital ratio, generally the more financially sound the company. The Company's capital ratio is significantly higher than the industry average. 9
Industry Results The FDIC Quarterly Banking Profile reported the following results for the second quarter of 2005: Weaker Results at Large Banks Produce a Decline in Industry Profits Lower servicing fee income, lower trading revenue, and a large charge for litigation settlement expenses led to a decline in the net income earned by insured institutions in the second quarter. The 8,868 commercial banks and savings institutions insured by the FDIC reported net income of $33.1 billion, a decline of $1.1 billion (3.3%) from the record quarterly total in the first quarter. Industry earnings still represented the second-best quarterly performance ever reported, and were $2.0 billion (6.3%) above the level of the second quarter of 2004. The quarter-to-quarter decline was caused by lower earnings at a few large banks; for the industry as a whole, almost two out of every three institutions (62%) reported higher net income than in the first quarter, but five of the ten largest insured institutions saw their earnings decline. Servicing fees were $2.2 billion (43.9%) lower than in the first quarter, while trading revenue fell by $1.9 billion (43.3%). Noninterest expenses rose by $2.2 billion (2.9%) from the first quarter, including a $1.2-billion charge for litigation settlement costs. On the positive side, sales of securities and other assets yielded $2.3 billion in gains, compared to $845 million in the first quarter and $1.6 billion in the second quarter of 2004. Strong growth in interest-earning assets produced a $672-million (0.9%) increase in net interest income. Loan-loss provision expenses were $434 million (7.0%) higher than in the first quarter, but were still $722 million (9.8%) below the level of a year earlier. The industry's return on assets (ROA) fell to 1.28 % in the second quarter, from 1.35% in the first quarter and 1.31% in the second quarter of 2004. More than half of all institutions (58%) had quarterly ROAs of 1 % or better, and only 5.6% of insured institutions reported a net loss for the quarter. Critical Accounting Policies The discussion contained in this Item 2 and other disclosures included within this report are based on the Company's audited consolidated financial statements. These statements have been prepared in accordance with accounting principles generally accepted in the United States of America. The financial information contained in these statements is, for the most part, based on the financial effects of transactions and events that have already occurred. However, the preparation of these statements requires management to make certain estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. The Company's significant accounting policies are described in the "Notes to Consolidated Financial Statements" contained in the Company's 10-K. Based on its consideration of accounting policies that involve the most complex and subjective estimates and judgments, management has identified its most critical accounting policy to be that related to the allowance for loan losses. The allowance for loan losses is established through a provision for loan losses that is treated as an expense and charged against earnings. Loans are charged against the allowance for loan losses when management believes that collectibility of the principal is unlikely. The Company has policies and procedures for evaluating the overall credit quality of its loan portfolio, including timely identification of potential problem loans. On a quarterly basis, management reviews the appropriate level for the allowance for loan losses incorporating a variety of risk considerations, both quantitative and qualitative. Quantitative factors include the Company's historical loss experience, delinquency and charge-off trends, collateral values, known information about individual loans and other factors. Qualitative factors include the general economic environment in the Company's market area and the expected trend of the economic conditions. To the extent actual results differ from forecasts and management's judgment, the allowance for loan losses may be greater or lesser than future charge-offs. 10
Income Statement Review for Three Months Ended September 30, 2005 The following highlights a comparative discussion of the major components of net income and their impact for the three month periods ended September 30, 2005 and 2004: AVERAGE BALANCES AND INTEREST RATES The following two tables are used to calculate the Company's net interest margin. The first table includes the Company's average assets and the related income to determine the average yield on earning assets. The second table includes the average liabilities and related expense to determine the average rate paid on interest bearing liabilities. The net interest margin is equal to the interest income less the interest expense divided by average earning assets. <TABLE> AVERAGE BALANCE SHEETS AND INTEREST RATES Three Months Ended September 30, 2005 2004 ------------------------------------------------------------------------- ASSETS Average Revenue/ Yield/ Average Revenue/ Yield/ (dollars in thousands) balance expense rate balance expense rate - ---------------------------------------------------------------------------------------------------------------------- Interest-earning assets - ---------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Loans Commercial $ 66,715 $ 1,103 6.61% $ 49,740 $ 646 5.20% Agricultural 30,352 572 7.54% 28,689 468 6.53% Real estate 312,650 4,922 6.30% 289,358 4,291 5.93% Installment and other 30,914 439 5.68% 22,299 316 5.67% --------------------------------- ------------------------------- Total loans (including fees) (1) $440,631 $ 7,036 6.39% $390,086 $ 5,721 5.87% Investment securities Taxable $213,712 $ 2,180 4.08% $218,252 $ 2,239 4.10% Tax-exempt 125,579 1,960 6.24% 129,555 2,043 6.31% --------------------------------- ------------------------------- Total investment securities $339,291 $ 4,140 4.88% $347,807 $ 4,282 4.92% Interest bearing deposits with banks $ 6,962 42 2.41% $8,985 $33 1.47% Federal funds sold 215 3 5.58% 1,086 3 1.10% --------------------------------- ------------------------------- Total interest-earning assets (2) $787,099 $11,221 5.70% $747,964 $10,039 5.37% Non-interest-earning assets 38,288 45,047 ----------- ----------- TOTAL ASSETS $825,387 $793,011 ========== =========== </TABLE> (1) Average loan balances include nonaccrual loans, if any. Interest income on nonaccrual loans has been included. (2) Tax-exempt income has been adjusted to a tax-equivalent basis using an incremental tax rate of 35%. 11
<TABLE> AVERAGE BALANCE SHEETS AND INTEREST RATES Three Months Ended September 30, 2005 2004 - ------------------------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY ............. Average Revenue/ Yield/ Average Revenue/ Yield/ (dollars in thousands) ........................... balance expense rate balance expense rate --------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Interest-bearing liabilities Deposits Savings, NOW accounts, and money markets ......... $305,367 $ 1,407 1.84% $324,818 $ 817 1.01% Time deposits < $100,000 ......................... 174,961 1,426 3.26% 172,639 1,226 2.84% Time deposits > $100,000 ......................... 96,165 859 3.57% 67,127 427 2.54% ----------------------------- ----------------------------------- Total deposits ................................... $576,493 $ 3,692 2.56% $564,584 $ 2,470 1.75% Other borrowed funds ............................. 61,674 483 3.13% 47,387 192 1.62% ----------------------------- ----------------------------------- Total Interest-bearing ........................... $638,167 $ 4,175 2.62% $611,971 $ 2,662 1.74% liabilities ...................................... -------- Non-interest-bearing liabilities Demand deposits .................................. $ 68,543 $ 66,449 Other liabilities ................................ 7,966 8,061 -------- ------- Stockholders' equity ............................. $110,711 $106,530 -------- ------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ............................. $825,387 $793,011 ======== ======= Net interest: income / margin (1)................ 7,046 3.58% $ 7,377 3.95% ======== ======= Spread Analysis Interest income/average assets ................... 11,221 5.44% 10,039 5.06% Interest expense/average assets .................. 4,175 2.02% 2,662 1.34% Net interest income/average assets ............... 7,046 3.41% 7,377 3.72% </TABLE> (1) Tax-exempt income has been adjusted to a tax-equivalent basis using an incremental tax rate of 35%. 12
Net Interest Income For the three months ended September 30, 2005 and 2004, the Company's net interest margin adjusted for tax exempt income was 3.58% and 3.95%, respectively. Net interest income, prior to the adjustment for tax-exempt income, for the three months ended September 30, 2005 and September 30, 2004 totaled $6,360,000 and $6,662,000, respectively. For the quarter ended September 30, 2005, net interest income decreased $301,000 or 4.5% when compared to the same period in 2004. For the quarter ended September 30, 2005, interest income increased $1,211,000 or 13.0% compared to the same quarter a year ago. The increase in interest income was primarily attributable to growth in the loan portfolio at an average yield of 52 basis points higher than the third quarter of 2004. Commercial and commercial real estate portfolios had the largest dollar volume increases with First National, State Bank, and United Bank experiencing strong loan growth over the past twelve months. Interest expense increased $1,512,000 or 56.8% for the quarter ended September 30, 2005 when compared to the same period in 2004. The higher interest expense for the quarter is attributable to a higher volume and average rates on total deposits and other borrowed funds as short term market interest rates have increased significantly in comparison to the same period in 2004. Provision for Loan Losses The Company's provision for loan losses for the three months ended September 30, 2005 was $118,000 compared to a negative $64,000 during the same period last year. The provision expense to fund the allowance for loan losses increased primarily as the result of higher general reserves relating to growth in the loan portfolio. Non-interest Income and Expense Non-interest income increased $27,000, or 1.9% during the quarter ended September 30, 2005 compared to the same period in 2004. The increase can be primarily attributed to $266,000 of realized gains on the sale of securities in the Company's equity portfolio in the third quarter of 2005 in contrast to $20,000 of realized security gains in the third quarter of 2004. The sale of a small insurance agency and a gain on the sale of an other real estate property was the reason for the higher other non interest income in the third quarter of 2004 compared to 2005 quarterly results. Non-interest expense increased $103,000 or 2.8% for the third quarter of 2005 compared to the same period in 2004. The increase in non-interest expenses is related to normal increases in salaries and benefits, higher legal and professional fees including NASDAQ and legal fees relating to the recent stock split. Income Taxes The provision for income taxes for the three months ended September 30, 2005 and September 30, 2004 was $962,000 and $1,067,000, respectively. This amount represents an effective tax rate of 24.8% for the three months ended September 30, 2005 versus 24.0% for the same quarter in 2004. The Company's marginal federal tax rate is currently 35%. The difference between the Company's effective and marginal tax rate is primarily related to investments made in tax exempt securities. 13
Income Statement Review for Nine Months Ended September 30, 2005 The following highlights a comparative discussion of the major components of net income and their impact for the nine months ended September 30, 2005 and 2004: AVERAGE BALANCES AND INTEREST RATES The following two tables are used to calculate the Company's net interest margin. The first table includes the Company's average assets and the related income to determine the average yield on earning assets. The second table includes the average liabilities and related expense to determine the average rate paid on interest bearing liabilities. The net interest margin is equal to the interest income less the interest expense divided by average earning assets. <TABLE> ASSETS (dollars in thousands) AVERAGE BALANCE SHEETS AND INTEREST RATES Nine Months Ended September 30, 2005 2004 ------------------------------------------ ---------------------------------------- Average Revenue/ Yield/ Average Revenue/ Yield/ balance expense rate balance expense rate ------------------------------------------ ---------------------------------------- Interest-earning assets <S> <C> <C> <C> <C> <C> <C> Loans Commercial $ 65,781 $3,092 6.27% $ 47,120 $1,799 5.09% Agricultural 29,657 1,598 7.18% 27,981 1,348 6.42% Real estate 310,383 14,077 6.05% 279,027 12,421 5.94% Installment and other 27,866 1,123 5.37% 22,757 977 5.72% ------------------------------------------ ---------------------------------------- Total loans (including fees) (1) $433,687 $19,890 6.12% $376,885 $16,545 5.85% Investment securities Taxable $219,253 $6,659 4.05% $210,224 $6,635 4.21% Tax-exempt 127,256 6,000 6.29% 126,283 6,151 6.49% ------------------------------------------ ---------------------------------------- Total investment securities $346,509 $12,659 4.87% $336,507 $12,786 5.07% Interest bearing deposits with banks $ 7,099 $127 2.39% $ 8,501 $89 1.40% Federal funds sold 6,341 130 2.73% 10,663 81 1.01% ------------------------------------------ ---------------------------------------- Total interest-earning assets (2) $793,636 $32,806 5.51% $732,556 $29,501 5.37% Total noninterest-earning assets $ 36,900 $ 47,440 ---------------- ---------------- TOTAL ASSETS $830,536 $779,996 ================ ================ </TABLE> (1) Average loan balance include nonaccrual loans, if any. Interest income on nonaccrual loans has been included. (2) Tax-exempt income has been adjusted to a tax-equivalent basis using an incremental tax rate of 35%. 14
<TABLE> LIABILITIES AND STOCKHOLDERS' EQUITY (dollars in thousands) AVERAGE BALANCE SHEETS AND INTEREST RATES Nine Months Ended September 30, 2005 2004 ---------------------------------------------------------------------------------- Average Revenue/ Yield/ Average Revenue/ Yield/ balance expense rate balance expense rate ---------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Interest-bearing liabilities Deposits Savings, NOW accounts, and money markets 325,671 4,066 1.66% $323,812 $ 2,113 0.87% Time deposits < $100,000 172,485 3,980 3.08% 174,494 3,748 2.86% Time deposits > $100,000 89,030 2,191 3.28% 69,461 1,283 2.46% ---------------------------------------------------------------------------------- Total deposits 587,186 10,237 2.32% $567,767 $ 7,144 1.68% Other borrowed funds 59,643 1,149 2.57% 32,085 361 1.50% ---------------------------------------------------------------------------------- Total Interest-bearing 646,829 11,386 2.35% $599,852 $ 7,505 1.67% liabilities Noninterest-bearing liabilities Demand deposits 66,036 $64,927 Other liabilities 7,596 8,028 ---------------- ----------------- Stockholders' equity 110,075 $107,189 ---------------- ----------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY 830,536 $779,996 ================ ================= Net interest income / margin (1) 21,420 3.60% $21,996 4.00% ======== ======== Spread Analysis Interest income/average assets 32,806 5.27% $29,501 5.04% Interest expense/average assets 11,386 1.83% 7,505 1.28% Net interest income/average assets 21,420 3.44% 21,996 3.76% </TABLE> (1) Tax-exempt income has been adjusted to a tax-equivalent basis using an incremental tax rate of 35%. 15
Net Interest Income For the nine months ended September 30, 2005 and 2004, the Company's net interest margin adjusted for tax exempt income was 3.60% and 4.00%, respectively. Net interest income, prior to the adjustment for tax-exempt income, for the nine months ended September 30, 2005 and September 30, 2004 totaled $19,320,000 and $19,842,000, respectively, a 2.6% decline. For the nine months ended September 30, 2005, interest income increased $3,358,000 or 12.3% when compared to the same period in 2004. The increase was primarily attributable to growth in the loan portfolio at an average yield of 27 basis points higher than the nine months ended September 30, 2004. Commercial and commercial real estate portfolios had the largest dollar volume increases with First National, State Bank, and United Bank experiencing strong loan growth over the past twelve months. Interest expense increased $3,880,000 or 51.7% for the nine months ended September 30, 2005 when compared to the same period in 2004. The higher interest expense for the period is attributable to a higher volume and average rate on total deposits and other borrowed funds as short term market interest rates have increased significantly in comparison to the same period in 2004. Provision for Loan Losses The Company's provision for loan losses for the nine months ended September 30, 2005 was $247,000 compared to $205,000 during the same period last year. Loan growth at United Bank and First National was the most significant factor leading to the higher provision expense recorded for nine months ended September 30, 2005. Net recoveries of $7,000 were realized in the nine months ended September 30, 2005 and compare to net recoveries of loans of $56,000 for the nine months ended September 30, 2004. Non-interest Income and Expense Non-interest income increased $425,000, or 11.2% during the nine months ended September 30, 2005 compared to the same period in 2004. The increase can be attributed to a higher level of realized gains on the sale of securities in the Company's equity portfolio of $634,000 in 2005 compared to $51,000 in first nine months of 2004. Improved trust revenues contributed an additional $140,000 to non-interest income with State Bank generating additional income as the result of opening new trust relationships and the settlement of a large estate. The sale of a small insurance agency and a gain on the sale of an other real estate property was the reason for the higher other non interest income in the nine months ended September 30, 2004 compared to the same period in 2005. Non-interest expense increased $411,000 or 3.7% for the first nine months of 2005 compared to the same period in 2004. Annual salary increases and higher legal and professional fees were the primary contributing factors to the increase non-interest expense. The higher legal and professional fees relate to higher auditing costs to comply with the Sarbanes Oxley Act and NASDAQ fees associated with the recent stock split. Income Taxes The provision for income taxes for September 30, 2005 and September 30, 2004 was $2,963,000 and $3,214,000, respectively. This amount represents an effective tax rate of 25.0% for the nine months ended September 30, 2005 versus 25.9% for the same nine months in 2004. The Company's marginal federal tax rate is currently 35%. The difference between the Company's effective and marginal tax rate is primarily related to investments made in tax-exempt securities. 16
Balance Sheet Review As of September 30, 2005, total assets were $824,413,000 compared to $839,753,000 as of December 31, 2004. A reduction in federal funds sold and securities available for sale balances has occurred since December 31, 2004, partially offset by higher loan balances. The lower asset levels are a result of a decline in funding liabilities. Securities sold under agreements to repurchase were much higher than historical averages as of December 31, 2004 as the result of a temporary increase in one large commercial customer's balance. Investment Portfolio The investment portfolio totaled $343,498,000 as of September 30, 2005, lower than the December 31, 2004 balance of $363,459,000. The reduction is the result of sold and maturing investments being utilized to fund loan growth and a reduction in securities sold under agreements to repurchase. Loan Portfolio Net loans totaled $435,708,000 as of September 30, 2005 compared to $411,639,000 as of December 31, 2004. The increased level of loans primarily relates to new loan originations at First National, State Bank, and United Bank. Commercial operating and commercial real estate loans were the lending categories with the most significant growth. Deposits Deposits totaled $657,440,000 as of September 30, 2005, a decline from the $658,176,000 total as of December 31, 2004. The mix of deposits has changed as significant balances held in public fund money market accounts as December 31, 2004 has been replaced with public fund certificates of deposit exceeding $100,000. Average deposits balances for the third quarter 2005 compared to the second quarter 2005 decreased $26,403,000 or 3.9% with public funds accounting for nearly the entire decline in average deposit balances. The receipt of public funds relating to property tax collections in September of 2005 has improved temporarily the decline in average public fund balances the Company experienced in the third quarter of this year. Other Borrowed Funds Other borrowed funds as of September 30, 2005 totaled $50,678,000 consisting of federal funds purchased and securities sold under agreements to repurchase (repurchase agreements). Other borrowings as of December 31, 2004 totaled $64,072,000. Federal funds purchased as of September 30, 2005 totaled $15,000,000 and have been utilized to fund an expected run-off in repurchase agreement balances from December 31, 2004 levels. Off-Balance Sheet Arrangements The Company is party to financial instruments with off-balance-sheet risk in the normal course of business. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet. No material changes in the Company's off-balance sheet arrangements have occurred since December 31, 2004. Asset Quality Review and Credit Risk Management The Company's credit risk is centered in the loan portfolio, which on September 30, 2005 totaled $435,708,000 compared to $411,639,000 as of December 31, 2004. Net loans comprise 53% of total assets as of September 30, 2005. The object in managing loan portfolio risk is to reduce the risk of loss resulting from a customer's failure to perform according to the terms of a transaction and to quantify and manage credit risk on a portfolio basis. The Company's level of problem loans consisting of non-accrual loans and loans past due 90 days or more as a percentage of total loans totaled 0.54% as of September 30, 2005. The problem loan ratio for Company's peer group of 383 bank holding companies with assets of $500 million to $1 billion was 0.51% compared to the Company's 0.38% as of June 30, 2005. 17
Impaired loans totaled $2,394,000 as of September 30, 2005 compared to $1,976,000 as of December 31, 2004. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Impaired loans include loans accounted for on a non-accrual basis, accruing loans, which are contractually past due 90 days or more as to principal or interest payments, and any restructured loans. As of September 30, 2005, non-accrual loans totaled $1,911,000, loans past due 90 days still accruing totaled $483,000 and there were no restructured loans outstanding. Other real estate owned as of September 30, 2005 and December 31, 2004 totaled $233,000 and $772,000, respectively. The allowance for loan losses as a percentage of outstanding loans as of September 30, 2005 and December 31, 2004 was 1.52% and 1.55%, respectively. The allowance for loan and lease losses totaled $6,729,000 and $6,476,000 as of September 30, 2005 and December 31, 2004, respectively. Net loan charge-offs totaled $18,000 for the most recent quarter end compared to net loan recoveries of $99,000 for the three-month period ended September 30, 2004. The allowance for loan losses is management's best estimate of probable losses inherent in the loan portfolio as of the balance sheet date. Factors considered in establishing an appropriate allowance include: an assessment of the financial condition of the borrower, a realistic determination of value and adequacy of underlying collateral, the condition of the local economy and the condition of the specific industry of the borrower, an analysis of the levels and trends of loan categories and a review of delinquent and classified loans. Liquidity and Capital Resources Liquidity management is the process by which the Company, through its Banks' Asset and Liability Committees (ALCO), ensures that adequate liquid funds are available to meet its financial commitments on a timely basis, at a reasonable cost and within acceptable risk tolerances. These commitments include funding credit obligations to borrowers, funding of mortgage originations pending delivery to the secondary market, withdrawals by depositors, maintaining adequate collateral for pledging for public funds, trust deposits and borrowings, paying dividends to shareholders, payment of operating expenses, funding capital expenditures and maintaining deposit reserve requirements. Liquidity is derived primarily from core deposit growth and retention; principal and interest payments on loans; principal and interest payments, sale, maturity and prepayment of investment securities; net cash provided from operations; and access to other funding sources. Other funding sources include federal funds purchased lines, Federal Home Loan Bank (FHLB) advances and other capital market sources. As of September 30, 2005, the level of liquidity and capital resources of the Company remain at a satisfactory level and compare favorably to that of other FDIC insured institutions. Management believes that the Company's liquidity sources will be sufficient to support its existing operations for the foreseeable future. The liquidity and capital resources discussion will cover the follows topics: o Review the Company's Current Liquidity Sources o Review of the Statements of Cash Flows o Company Only Cash Flows o Review of Commitments for Capital Expenditures, Cash Flow Uncertainties and Known Trends in Liquidity and Cash Flows Needs o Capital Resources Review of the Company's Current Liquidity Sources Liquid assets of cash on hand, balances due from other banks, federal funds sold and interest-bearing deposits in financial institutions at September 30, 2005 and December 31, 2004 totaled $27,339,000 and $48,199,000, respectively. The lower level of liquidity is primarily the result of lower federal funds sold balances that were utilized to fund increased loan demand. Other sources of liquidity available to the Banks as of September 30, 2005 include borrowing capacity with the Federal Home Loan Bank of Des Moines, Iowa of $31,000,000 and federal funds borrowing capacity at correspondent banks of $86,500,000 with a current outstanding federal fund purchase balances of $15,000,000. The Company had securities sold under agreements to repurchase totaling $33,529,000 and did not have any outstanding FHLB advances as of September 30, 2005. 18
Total investments as of September 30, 2005 were $343,498,000 compared to $363,459,000 as of year end 2004. These investments provide the Company with a significant amount of liquidity since all of the investments are classified as available for sale as of September 30, 2005. The investment portfolio serves an important role in the overall context of balance sheet management in terms of balancing capital utilization and liquidity. The decision to purchase or sell securities is based upon the current assessment of economic and financial conditions, including the interest rate environment, liquidity and credit considerations. The portfolio's scheduled maturities represent a significant source of liquidity. Review of Statements of Cash Flows Operating cash flows for September 30, 2005 and 2004 totaled $9,450,000 and $9,684,000, respectively. The primary variance in operating cash flows for the first nine months of 2005 compared to the same period in 2004 is a decrease in other assets that was the result of selling an other real estate property. Net cash provided by investing activities through September 30, 2005 totaled $12,143,000 compared to cash used in investing activities of $51,264,000 in the nine months ended September 30, 2004. The increase in cash provided by investing activity was primarily due to lower bond purchases as a significant level of bond purchases occurred in 2004 and the use of maturing or sold investments to fund loan demand. Net cash used in financing activities for September 30, 2005 totaled $20,087,000 compared to cash provided by financing activities of $39,991,000 in the first nine months of 2004. Deposit runoff and a reduction in the utilization of other borrowed funds in 2005 contributed to the lower cash flow generated from financing activities. As of September 30, 2005, the Company did not have any external debt financing, off balance sheet financing arrangements, or derivative instruments linked to its stock. Company Only Cash Flows The Company's liquidity on an unconsolidated basis is heavily dependent upon dividends paid to the Company by the Banks. The Company requires adequate liquidity to pay its expenses and pay stockholder dividends. For the nine months ended September 30, 2005, dividends paid by the Banks to the Company amounted to $6,438,000 compared to $6,288,000 for the same period in 2004. In 2004, dividends paid by the Banks to the Company amounted to $8,384,000 through December 31, 2004 compared to $7,868,000 for the year ended December 31, 2003. Various federal and state statutory provisions limit the amounts of dividends banking subsidiaries are permitted to pay to their holding companies without regulatory approval. Federal Reserve policy further limits the circumstances under which bank holding companies may declare dividends. For example, a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition. In addition, the Federal Reserve and the FDIC have issued policy statements, which provide that insured banks and bank holding companies should generally pay dividends only out of current operating earnings. Federal and state banking regulators may also restrict the payment of dividends by order. The Company has unconsolidated interest bearing deposits and marketable investment securities totaling $34,175,000 that are presently available to provide additional liquidity to the Banks. Review of Commitments for Capital Expenditures, Cash Flow Uncertainties and Known Trends in Liquidity and Cash Flows Needs 19
No material capital expenditures or material changes in the capital resource mix are anticipated at this time. The primary cash flow uncertainty would be a sudden decline in deposits causing the Banks to liquidate securities. Historically, the Banks have maintained an adequate level of short-term marketable investments to fund the temporary declines in deposit balances. There are no known trends in liquidity and cash flows needs as of September 30, 2005 that is a concern to management. Capital Resources The Company's total stockholders' equity decreased to $109,894,000 as of September 30, 2005, from $110,924,000 at December 31, 2004. The decrease in equity is attributable to lower net unrealized gains on securities available for sale offset by a higher level of retained earnings. At September 30, 2005 and December 31, 2004, stockholders' equity as a percentage of total assets was 13.36% and 13.21%, respectively. The capital levels of the Company currently exceed applicable regulatory guidelines as of September 30, 2005. Forward-Looking Statements and Business Risks The discussion in the foregoing Management Discussion and Analysis and elsewhere in this Report contains forward-looking statements about the Company, its business and its prospects. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include use of the words "believe", "expect", "anticipate", "intend", "plan", "estimate" or words of similar meaning, or future or conditional verbs such as "will", "would", "should", "could" or "may". Forward-looking statements, by their nature, are subject to risks and uncertainties. A number of factors, many of which are beyond the Company's control, could cause actual conditions, events or results to differ significantly from those described in the forward-looking statements. Such risks and uncertainties with respect to the Company include, but are not limited to, those related to the economic conditions, particularly in the areas in which the Company and the Banks operate, competitive products and pricing, fiscal and monetary policies of the U.S. government, changes in governmental regulations affecting financial institutions (including regulatory fees and capital requirements), changes in prevailing interest rates, credit risk management and asset/liability management, the financial and securities markets and the availability of and costs associated with sources of liquidity. These factors may not constitute all factors that could cause actual results to differ materially from those discussed in any forward-looking statement. The Company operates in a continually changing business environment and new facts emerge from time to time. It cannot predict such factors nor can it assess the impact, if any, of such factors on its financial position or its results of operations. Accordingly, forward-looking statements should not be relied upon as a predictor of actual results. The Company disclaims any responsibility to update any forward-looking statement provided in this document. Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company's market risk is comprised primarily of interest rate risk arising from its core banking activities of lending and deposit taking. Interest rate risk results from the changes in market interest rates, which may adversely affect the Company's net interest income. Management continually develops and applies strategies to mitigate this risk. Management does not believe that the Company's primary market risk exposure and how it has been managed to-date in 2005 changed significantly when compared to 2004. Item 4. Controls and Procedures An evaluation was performed under the supervision and with the participation of the Company's management, including the Principal Executive Officer and Principal Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of September 30, 2005. Based on that evaluation, the Company's management, including the Principal Executive Officer and Principal Financial Officer, concluded that the Company's disclosure controls and procedures were effective. There have been no significant changes in the Company's disclosure controls or its internal controls over financial reporting, or in other factors that could significantly affect the disclosure controls or the Company's internal controls over financial reporting. Changes in Internal Controls There was no change in the Company's internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) of the Exchange Act that occurred during the Company's last fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 20
PART II. OTHER INFORMATION Item 1. Legal Proceedings Not applicable Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not applicable Item 3. Defaults Upon Senior Securities Not applicable Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None Item 6. Exhibits (a) Exhibits 31.1 Certification of Principal Executive Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2 Certification of Principal Financial Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1 Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350. 32.2 Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350. 21
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. AMES NATIONAL CORPORATION DATE: November 7, 2005 By: /s/ Daniel L. Krieger ---------------------------- Daniel L. Krieger, President Principal Executive Officer By: /s/ John P. Nelson ---------------------------- John P. Nelson, Vice President Principal Financial Officer 22