UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
For the quarterly period ended September 30, 2004
or
For the transition period from to
Commission File Number 0-13396
CNB FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
County National Bank
1 South Second Street
P.O. Box 42
Clearfield, Pennsylvania 16830
(Address of principal executive offices)
Registrant’s telephone number, including area code, (814) 765-9621
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 periods 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 Act). Yes x No ¨
The number of shares outstanding of the issuer’s common stock as of October 28, 2004:
COMMON STOCK: $1.00 PAR VALUE 9,100,446 SHARES
INDEX
SequentialPage Number
PART I.
FINANCIAL INFORMATION
ITEM 1. – Financial Statements (unaudited)
PAGE 3.
PAGE 4.
PAGE 5.
PAGE 6.
PAGE 7.
PAGE 8.
ITEM 2 – Management’s Discussion and Analysis
PAGE 11.
ITEM 3 – Quantitative and Qualitative Disclosures
PAGE 16.
ITEM 4 – Controls and Procedures
PART II.
OTHER INFORMATION
PAGE 18.
PAGE 19.
2
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
ASSETS
Cash and due from banks
Interest bearing deposits with other financial institutions
Total cash and cash equivalents
Securities available for sale
Loans held for sale
Loans and leases
Less: unearned discount
Less: allowance for loan losses
NET LOANS
FHLB and Federal Reserve Stock
Premises and equipment, net
Bank owned life insurance
Accrued interest receivable and other assets
Mortgage servicing rights
Goodwill
Intangible, net
TOTAL ASSETS
LIABILITIES
Deposits:
Non-interest bearing deposits
Interest bearing deposits
TOTAL DEPOSITS
Short-term borrowings
Federal Home Loan Bank advances
Accrued interest and other liabilities
Subordinated debentures
TOTAL LIABILITIES
SHAREHOLDERS’ EQUITY
Common stock $1.00 par valueAuthorized 10,000,000 shares,Issued 9,233,750 shares for September 2004 and 3,693,500 shares for December 2003
Additional paid in capital
Retained earnings
Treasury stock, at cost(136,341 shares for September 2004, and 93,974 for December 2003)
Accumulated other comprehensive income
TOTAL SHAREHOLDERS’ EQUITY
TOTAL LIABILITIES & SHAREHOLDERS’ EQUITY
3
CONSOLIDATED STATEMENTS OF INCOME (unaudited)
(Dollars in thousands, except per share data)
INTEREST AND DIVIDEND INCOME
Loans including fees
Deposits with other financial institutions
Federal funds sold
Securities:
Taxable
Tax-exempt
Dividends
TOTAL INTEREST AND DIVIDEND INCOME
INTEREST EXPENSE
Deposits
Borrowed funds
TOTAL INTEREST EXPENSE
Net interest income
Provision for loan losses
NET INTEREST INCOME AFTER PROVISION
OTHER INCOME
Trust & asset management fees
Service charges on deposit accounts
Other service charges and fees
Securities gains
Gains on sale of loans
Bank owned life insurance earnings
Other
TOTAL OTHER INCOME
OTHER EXPENSES
Salaries
Employee benefits
Net occupancy expense of premises
Amortization of intangibles
TOTAL OTHER EXPENSES
Income before income taxes
Applicable income taxes
NET INCOME
EARNINGS PER SHARE, BASED ON WEIGHTED AVERAGE SHARES OUTSTANDING
Net income, basic
Net income, diluted
DIVIDENDS PER SHARE
Cash dividends per share
4
5
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Consolidated Statements of Comprehensive Income (unaudited)
(dollars in thousands)
Net Income
Other comprehensive income, net of tax Unrealized gains/(losses) on securities:
Unrealized gains/(losses) arising during the period
Reclassified adjustment for accumulated gains included in net income, net of tax
Other comprehensive income (loss)
Comprehensive income
6
CONSOLIDATED STATEMENTS OF CASHFLOWS
Consolidated Statements of Cash Flows (unaudited)
Cash flows from operating activities:
Adjustments to reconcile net income to net cash provided by operations:
Depreciation and amortization
Amortization and accretion and deferred loan fees
Deferred taxes
Security gains
Gain on sale of loans
Net gains on dispositions of acquired property
Proceeds from sale of loans
Origination of loans for sale
Increase in bank owned life insurance
Changes in:
Interest receivable and other assets
Interest payable and other liabilities
Net cash provided by operating activities
Cash flows from investing activities:
Proceeds from maturities of:
Proceeds from sales of securities available for sale
Purchase of securities available for sale
Loan origination and payments, net
(Purchase) sale of Federal Reserve Bank Stock and Federal Home Loan Bank Stock
Purchase of bank owned life insurance
Net, purchase of premises and equipment
Proceeds from the sale of foreclosed assets
Net cash used in investing activities
Cash flows from financing activities:
Net change in:
Checking, money market and savings accounts
Certificates of deposit
Treasury stock purchased
Proceeds from sale of treasury stock
Cash dividends paid
Net advances from short-term borrowings
Net cash provided by financing activities
Net increase in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of period
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest
Income Taxes
Supplemental non cash disclosures:
Loans transferred to other real estate owned
7
CNB FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
BASIS OF PRESENTATION
The accompanying consolidated financial statements have been prepared pursuant to rules and regulations of the Securities and Exchange Commission (SEC) and in compliance with accounting principles generally accepted in the United States of America. Because this report is based on an interim period, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted.
In the opinion of Management of the registrant, the accompanying consolidated financial statements for the quarter and nine month periods ended September 30, 2004 and 2003 include all adjustments, consisting of only normal recurring adjustments, necessary for a fair presentation of the financial condition and the results of operations for the period. The financial performance reported for CNB Financial Corporation (the Corporation) for the three and nine-month periods ended September 30, 2004 is not necessarily indicative of the results to be expected for the full year. This information should be read in conjunction with the Corporation’s Annual Report to shareholders and Form 10-K for the period ended December 31, 2003.
COMMON STOCK PLAN
The Corporation has a common stock plan for key employees and independent directors. The Stock Incentive Plan, which is administered by the Executive Compensation and Personnel Committee, comprised of independent members of the Board of Directors, provides for the issuance of up to 625,000 shares of common stock in the form of nonqualified options. The Corporation applies Accounting Principles Board Opinion 25 and related interpretations in accounting for its common stock plan. Accordingly, no compensation expense has been recognized for the plans. No stock options were granted during the third quarter of 2004 or 2003.
EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income by the weighted average number of shares outstanding during the period. Diluted earnings per share is computed using the weighted average number of shares determined for the basic computation plus the dilutive effect of potential common shares issuable under stock options. For the three and nine month periods ended September 30, 2004, 56,250 weighted average shares under option were excluded from the diluted earnings per share calculation as they were anti-dilutive. There were no anti-dilutive shares for the three and nine month periods ended September 30, 2003. Earnings per share calculations for all prior periods presented were restated to reflect a 2 1/2 for 1 stock split for shares owned and recorded on April 21, 2004.
8
The computation of basic and diluted EPS is shown below (in thousands except per share data):
Net income
Weighted-average common shares outstanding (basic)
Effect of stock options
Weighted-average common shares outstanding (diluted)
Earnings per share:
Basic
Diluted
RECENT ACCOUNTING PRONOUNCEMENTS
EITF 03-01, Other-Than-Temporary Impairment
In March 2004, the FASB Emerging Issues Task Force (“EITF”) reached a consensus regarding EITF 03-01, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” The consensus clarifies the meaning of other-than-temporary impairment and its application to investments classified as either available-for-sale or held-to-maturity under SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities,” and investments accounted for under the cost method or the equity method. The recognition and measurement guidance for which the consensus was reached is to be applied to other-than-temporary impairment evaluations. In September 2004, the Financial Accounting Standards Board (“FASB”) issued a final FASB Staff Position, FSP EITF Issue 03-01-1, which has delayed the effective date for the measurement and recognition guidance of EITF 03-01. The comment period is currently open related to this staff position. The implementation date is unknown until further guidance is issued by the FASB. Management of the Corporation is currently evaluating the impact of adopting EITF 03-01 in anticipation of the implementation date.
9
CONSOLIDATED YIELD COMPARISONS
CNB Financial Corporation
Average Balances and Net Interest Margin
Inc./Exp.
Assets
Interest-bearing deposits with banks
Federal funds sold and securities purchased under agreements to resell
Investment Securities:
Tax-Exempt (1)
Equity Investments (1)
Total Investments
Loans
Commercial (1)
Mortgage (1)
Installment
Leasing
Total loans (2)
Total earning assets
Non Interest Bearing Assets
Cash & Due From Banks
Premises & Equipment
Other Assets
Allowance for Possible Loan Losses
Total Non-interest earning assets
Total Assets
Liabilities and Shareholders’ Equity Interest-Bearing Deposits
Demand - interest-bearing
Savings
Time
Total interest-bearing deposits
Long-term borrowings
Trust Preferred Securities
Total interest-bearing liabilities
Demand - non-interest-bearing
Other liabilities
Total Liabilities
Shareholders’ equity
Total Liabilities and Shareholders’ Equity
Interest income/earning assets
Interest expense/interest bearing liabilities
Net Interest Spread
Interest Income/Interest Earning Assets
Interest expense/Interest Earning Assets
Net Interest Margin
10
ITEM 2
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
FINANCIAL CONDITION
The following discussion and analysis of the consolidated financial statements of the Corporation is presented to provide insight into management’s assessment of financial results. The Corporation’s primary subsidiary County National Bank (the “Bank”) provides financial services to individuals and businesses within the Bank’s market area made up of the west central Pennsylvania counties of Clearfield, Cambria, Centre, Elk, Jefferson, and McKean. County National Bank is a member of the Federal Reserve System and subject to regulation, supervision and examination by the Office of the Comptroller of the Currency (“OCC”).
The market area that County National Bank operates in is rural in nature. The customer makeup consists of small business and individuals. The health of the economy in the region is mixed with unemployment rates running high in most of our market areas except Centre County.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents totaled $22,135,000 at September 30, 2004 compared to $20,981,000 on December 31, 2003. This increase resulted from recent scheduled pay-offs of several large commercial loans.
Management believes the liquidity needs of the Corporation are satisfied by the current balance of cash and cash equivalents, readily available access to traditional funding sources, and the portion of the investment and loan portfolios that mature within one year. These sources of funds will enable the Corporation to meet cash obligations and off-balance sheet commitments as they come due.
SECURITIES
Securities decreased approximately $22,380,000 or 12.7% since December 31, 2003. The decrease resulted primarily from payments of principal received from our mortgage-backed securities without reinvesting back into the market. Also, the market value of the portfolio has declined $1,245,000 since year end due mainly to an increase in short and intermediate interest rates. The Corporation has been reinvesting the proceeds mainly in the loan portfolio.
Management monitors the earnings performance and the effectiveness of the liquidity of the securities portfolio on a regular basis through Asset / Liability Committee (“ALCO’) meetings. The ALCO also reviews and manages interest rate risk for the Corporation. Through active balance sheet management and analysis of the securities portfolio, the Corporation maintains sufficient liquidity to satisfy depositer requirements and various credit needs of its customers.
LOANS
The Corporation’s lending consists principally of commercial lending primarily to locally owned small businesses and retail lending which includes single-family residential mortgages and other consumer lending. The Corporation’s loan demand was strong during the first nine months of 2004. At September 30, 2004, the Corporation had $486,137,000 in loans and leases outstanding, net of unearned discount, up $27,888,000 (or 6.1%) since December 31, 2003. The increase was caused by demand in commercial loans including mortgages. While we remain dedicated to the success of commercial lending, as we see this as our competitive advantage, a more aggressive marketing approach has been adopted toward secured consumer loans mainly in the form of home equity loans and lines of credit. This strategy is part of an overall initiative to increase our market share of consumer customers in loans and deposits. The Corporation has continued to use direct marketing to aggressively grow relationships within our market.
11
ALLOWANCE FOR LOAN AND LEASE LOSSES
The allowance for loan and lease losses is established by provisions for losses in the loan and lease portfolio. These provisions are charged against current income. Loans deemed not collectible are charged-off against the allowance while any subsequent collections are recorded as recoveries and increase the allowance.
The table below shows activity within the allowance account:
($’s in thousands)
Sept 30,
2003
Balance at beginning of Period
Charge-offs:
Commercial and financial
Commercial mortgages
Residential mortgages
Lease receivables
Recoveries:
Net charge-offs:
Balance at end-of-period
Loans, net of unearned
Allowance to net loans
Net charge-offs to average loans
The adequacy of the allowance for loan and lease losses is subject to a formal analysis by the credit administrator of the Bank. As part of the formal analysis, delinquencies and losses are monitored monthly. The loan portfolio is divided into several categories in order to better analyze the entire pool. First is a selection of criticized loans that is given a specific reserve. The remaining loans are pooled, by category, into these segments:
Reviewed
Homogeneous
The reviewed loan pools are further segregated into three categories: substandard, doubtful and unclassified. Historical loss factors are calculated for each pool based on the previous eight quarters of experience. The homogeneous pools are evaluated by analyzing the historical loss factors from the most previous quarter end and the two most recent year ends. The historical loss factors for both the reviewed and homogeneous pools are adjusted based on these six qualitative factors:
12
The methodology described above was created using the experience of our credit administrator, guidance from the regulatory agencies, expertise of our loan review partner, and discussions with our peers. The resulting factors are applied to the pool balances in order to estimate the inherent risk of loss within each pool.
The allowance coverage of net loans has declined over the past twelve months. Through the analysis methodology detailed above, a decrease in coverage was considered appropriate as our risk profile has been improving. The adequacy of the allowance for loan and lease losses is subject to a formal analysis by an independent loan review analyst, as well as our internal credit administrator, and is deemed to be adequate to absorb probable incurred losses in the portfolio as of September 30, 2004.
Management continues to closely monitor loan delinquency and loan losses. Non-performing assets, which include loans 90 or more days past due, non-accrual loans and other real estate owned, were $4,952,000 or 0.70% of total assets on September 30, 2004 compared to $3,235,000 or 0.46% on December 31, 2003. The increase was caused by one large loan in nonaccrual due to bankruptcy. The bankruptcy court has approved a purchaser for the property and the sale should occur during the fourth quarter. Without this loan, the ratio at September 30, 2004 would have been approximately 0.43%.
FUNDING SOURCES
The Corporation considers deposits, short-term borrowings, and term debt when evaluating funding sources. Traditional deposits continue to be the main focus for source of funds in the Corporation, reaching $582,193,000 at September 30, 2004. Deposits have increased only 1.20% since year-end 2003. Deposit growth has been slow during the year as loan growth has been strong. However, the change in the mix of deposits has been positive as the non-interest bearing deposits have grown 16.4%.
The Corporation utilizes term borrowings from the Federal Home Loan Bank (FHLB) to meet funding needs not accommodated by deposit growth. Management plans to maintain access to short and long-term FHLB borrowings as an appropriate funding source
The Corporation’s capital continues to provide a base for profitable growth. Total shareholders’ equity was $67,533,000 at September 30, 2004 compared to $66,447,000 at December 31, 2003, an increase of $1,086,000 or 1.63%. In the first nine months of 2004, the Corporation earned $6,063,000 and declared dividends of $3,574,000, a dividend payout ratio of 58.9% of net income. This growth was offset by a decline in the securities market value as previously mentioned in the securities section and discussed below as well as an increase of $712,000 in Treasury stock.
The securities in the Corporation’s portfolio are classified as available for sale making the Corporation’s balance sheet more sensitive to the changing market value of investments. Interest rates in the first nine months of 2004 have begun to rise. This situation has caused a decrease in accumulated other comprehensive income, included in shareholders’ equity of $857,000 since December 31, 2003.
The Corporation has also complied with the standards of capital adequacy mandated by the banking regulators. Bank regulators have established “risk-based” capital requirements designed to measure capital adequacy. Risk-based capital ratios reflect the relative risks of various assets banks hold in their portfolios. A weight category of 0% (lowest risk assets), 20%, 50%, or 100% (highest risk assets), is assigned to each asset on the balance sheet. The Corporation’s total risk-based capital ratio of 12.97% at September 30, 2004 is above the well-capitalized standard of 10%. The Corporation’s Tier 1 capital ratio of 11.85% is above the well-capitalized minimum of 6%. The leverage ratio at September 30, 2004 was 9.13%, also above the well-capitalized standard of 5%. The Corporation is well capitalized as measured by the federal regulatory agencies. The ratios provide quantitative data demonstrating the strength and future opportunities for use of the Corporation’s capital base. Management continues to evaluate risk-based capital ratios and the capital position of the Corporation as part of its strategic decision making process.
13
LIQUIDITY AND INTEREST RATE SENSITIVITY
Liquidity measures an organizations’ ability to meet cash obligations as they come due. The Consolidated Statement of Cash Flows presented on page 7 of the accompanying unaudited financial statements provides analysis of the Corporation’s cash and cash equivalents. Additionally, management considers that portion of the loan and investment portfolio that matures within one year as part of the Corporation’s liquid assets. The Corporation’s liquidity is monitored by the ALCO Committee, which establishes and monitors ranges of acceptable liquidity. Management feels the Corporation’s current liquidity and interest rate position is acceptable.
OFF BALANCE SHEET ACTIVITIES
Some financial instruments, such as loan commitments, credit lines, letters of credit and overdraft protection, are issued to meet customer financing needs. The contractual amount of financial instruments with off-balance sheet risk was as follows at September 30, 2004:
Commitments to extend credit
Standby letters of credit
RESULTS OF OPERATIONS
OVERVIEW OF THE INCOME STATEMENT
The Corporation had net income of $2,032,000 and $6,063,000 for the third quarter and first nine months of 2004, respectively. The earnings per diluted share for the respective periods were $0.22 and $0.66. Net income was $2,380,000 and $6,672,000 for the third quarter and first nine months of 2003, which equates to earnings per diluted share of $0.26 and $0.73, respectively. Although a compression of the margin has contributed to a decreased net income between 2003 and 2004, the primary reason for the decrease in net income is an increase in Other Expense as discussed later in this analysis. The return on assets and the return on equity for the nine months of 2004 are 1.15% and 12.57%.
INTEREST INCOME AND EXPENSE
Net interest income totaled $6,066,000 in the third quarter, an increase of 2.4% over the third quarter of 2003 and totaled $18,093,000 for the nine months of 2004, a decrease of 0.8% compared to the prior year. Total interest income increased by $26,000 or 0.3% while interest expense decreased by $114,000 or 3.4% when compared to the third quarter of 2003. The resulting modest increase in net interest income as compared to the third quarter of 2003 is primarily the result of the growth of the Corporation’s earning assets which mitigates a slightly lower yield due to decreased rates as compared to the third quarter of 2003. See page 10 for a yield comparison between periods.
PROVISION FOR LOAN LOSSES
The Corporation recorded a provision for loan and lease losses in the third quarter of $200,000 in both 2003 and 2004 and $800,000 for the nine months of 2004 compared to $1,280,000 in 2003. As part of the in-depth analysis as previously described, it has been determined that the credit risk of the Corporation is showing positive trends and therefore a lesser provision is required. In 2003, the commercial mix in the portfolio became the majority of our loans as opposed to our traditional concentration in home mortgages and thus management felt that a larger provision was required at that time. In addition, charge-off history has remained positive. Based on managements’ evaluation of problem loans, criticized assets and charge-offs in the loan portfolio and the overall effects of the economy, management’s analysis indicates that the allowance provision appears to be adequate.
Other income decreased $179,000 (or 9.4%) and $323,000 (or 6.1%) in the third quarter and nine months of 2004, respectively, when compared to the same periods in 2003. During 2004, income derived from the sale of mortgages was lower due to a rise in mortgage rates. This decrease was $397,000 or 79.4.% over the first nine months of 2003. Mitigating this decline was an increase in service charges on deposit accounts of $261,000 or 10.3% due to continued increases in the number of deposit accounts as well as a slight increase in the amount of fee charged per occurrence.
14
OTHER EXPENSE
Other expense increased $447,000 or 9.9% during the third quarter of 2004 and $966,000 or 7.2% in the nine months of 2004 when compared to the same periods in 2003. The increase is primarily due to increasing salary and benefits expense which increased 5.4% over the prior year. Our increasing personnel costs are a result of adding employees with the opening of our loan production office in the fourth quarter of 2003. In addition, occupancy expenses have increased 9.3% over the prior year as a result of several ongoing projects. Finally, legal expenses are up $132,000 over the prior year as we have filed suit as plaintiff against another corporation for trademark infringement.
RETURN ON ASSETS
For the nine months ended September 30, 2004, the Corporation’s return on average assets (“ROA”) totaled 1.15% compared to 1.30% recorded in 2003.
RETURN ON EQUITY
The Corporation’s return on average shareholder’s equity (“ROE”) in the first nine months was 12.57% compared to 14.81% for 2003.
FEDERAL INCOME TAX EXPENSE
Federal income tax expense was $590,000 in the third quarter of 2004 as compared to $728,000 in the third quarter of 2003 resulting in an effective tax rate of 22.5%and 23.4%, respectively. For the nine month period comparisons the effective tax rate was 22.9% in 2004 versus 24.4% in 2003.
FUTURE OUTLOOK
With interest rates still at historically low levels, the Corporation is experiencing pressure on earnings resulting from a lower net interest margin when compared to 2003. Net interest income could show little growth in the remainder of the year even if interest rates continue a gradual increase during the last quarter of 2004. Management continues to focus on growth from increased market share utilizing checking accounts and home equity lending as core banking services augmented by the sale of other income producing products and services. The Bank has introduced wealth management services to its product mix and their sale will generate additional non-interest income over the remainder of the year. Management also continues to focus on loan growth with the generation of commercial loans throughout its market.
Loan demand was strong to moderate during the first nine months. Management expects loan levels at December 31,2004 to be approximately the same as the end of the third quarter due to scheduled payoffs of several large commercial loans combined with moderate new loan activity. The Corporation’s loan to deposit ratio has increased to 82.47% at the end of the third quarter compared to 78.63% at year-end 2003 and 77.48% at September 30, 2003. Deposit growth has been minimal during the first three quarters and is expected to be flat throughout the remainder of 2004.
During the first three quarters of 2004, consumer loan charge-offs continued to comprise the majority of the Corporation’s recent charge-offs. In the first nine months, total net charge-offs were $561,000 of which consumer net charge-offs totaled $344,000. The collection efforts in the bank attempt to address problem consumer loans prior to the loans going past due 90 days. With this effort, more rapid repossession of collateral can occur. As the Corporation’s loan mix has changed to a more commercial portfolio, the credit review focus has increased. Procedures have been established to monitor our larger borrowers to more closely track any potential charge-offs. In this way, management believes problem situations can be addressed more timely thus reducing any negative impacts.
Enhancing non-interest income and controlling non-interest expense are important factors in the success of the Corporation and is measured in the financial services industry by the efficiency ratio, calculated according to the following: non-interest expense (less amortization of intangibles) as a
15
percentage of fully tax equivalent net interest income and non-interest income (less non-recurring income). For the nine months ended September 30, 2004, the Corporation’s efficiency ratio was 57.89% compared to 52.72% for the same period last year. The increase is caused in a large part to the reduction in net interest income without a corresponding decrease in expenses.
Management concentrates on return on average equity and earnings per share evaluations, plus other methods, to measure and direct the performance of the Corporation. While past results are not an indication of future earnings, management feels the Corporation is positioned to enhance performance of normal operations through the remainder of 2004.
CRITICAL ACCOUNTING POLICIES
The accounting and reporting policies of CNB Financial Corporation are in accordance with accounting principles generally accepted in the United States of America and conform to general practices within the financial services industry. Accounting and reporting practices for the allowance for loan and lease losses and mortgage servicing rights are deemed critical since they involve the use of estimates and require significant management judgments. Application of assumptions different than those used by management could result in material changes in CNB Financial Corporation’s financial position or results of operations. Note 1 ( Summary of Significant Accounting Policies), Note 5 (Allowance for Loan and Lease Losses), and Note 6 (Secondary Mortgage Market Activities), of the 2003 Annual Report and 10-K, provide detail with regard to the Corporation’s accounting for the allowance for loan and lease losses and for mortgage servicing rights. There have been no significant changes in the application of accounting policies since December 31, 2003.
“SAFE HARBOR” STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Certain statements contained in the report that are not historical facts are forward looking statements that are subject to certain risks and uncertainties. When used herein, the terms “anticipates,” “plans,” “expects,” “believes,” “estimate” or “projected” and similar expressions as they relate to CNB Financial Corporation or its management are intended to identify such forward looking statements. CNB Financial Corporation’s actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks and uncertainties that could cause or contribute to such material differences include, but are not limited to, general economic conditions, interest rate environment, competitive conditions in the financial services industry, changes in law, governmental policies and regulations, and rapidly changing technology affecting financial services.
ITEM 3
QUANTITATIVE & QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the course of conducting business activities, the Corporation is exposed to market risk, principally interest rate risk, through the operation of the Bank. Interest rate risk arises from market driven fluctuations in interest rates, which affect cash flows, income, expense and values of all financial instruments. Management and the ALCO Committee of the Board monitor the Corporation’s interest rate risk position. No material changes have occurred during the period in the Bank’s market risk strategy or position, a discussion of which can be found in the SEC Form-10K filed for the period ended December 31, 2003.
ITEM 4
CONTROLS AND PROCEDURES
As of the end of the period covered by this quarterly report, an evaluation was carried out under the supervision and with the participation of the Corporation’s management, including our Chief Executive
16
Officer and Principal Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934). Based on their evaluation, our Chief Executive Officer and Principal Financial Officer have concluded that the Corporation’s disclosure controls and procedures are, to the best of their knowledge, effective to ensure that information required to be disclosed by the Corporation in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. Subsequent to the date of their evaluation, our Chief Executive Officer and Principal Financial Officer have concluded that there were no significant changes in the Corporation’s internal controls or in other factors that could significantly affect its internal controls, including any corrective actions with regard to significant deficiencies and material weaknesses.
Sarbanes-Oxley Act Section 404
In July of 2002, the Sarbanes-Oxley Act of 2002 was signed into law. Section 404 of the Act (SOX 404), and related rules of the SEC, require management of public companies to report on the effectiveness of the company’s internal control over financial reporting as of the end of each fiscal year, including disclosure of any material weaknesses in the company’s internal control over financial reporting that have been identified by management. In addition, SOX 404 requires the company’s independent auditors to attest to and report on management’s annual assessment of the company’s internal control over financial reporting. The Corporation is required to comply with SOX 404 as of its year ended December 31, 2004. As part of its SOX 404 compliance program, the Corporation has established a SOX 404 Steering Committee which is comprised of management from various functional areas of the organization and has been tasked with spearheading the Corporation’s SOX 404 process. The Steering Committee, and other project team members, have been and are currently in the process of documenting, testing and assessing the Corporation’s systems of internal control over financial reporting, as required under SOX 404 and PCAOB Standard No. 2, “An Audit of Internal Control Over Financial Reporting Performed in Conjunction With An Audit of Financial Statements” (Standard No. 2), which was adopted in June 2004 to provide the basis for management’s report on the effectiveness of our internal controls over financial reporting as of December 31, 2004.
During our assessment and testing phases which will be ongoing through December 31, 2004, we could identify deficiencies in our internal controls over financial reporting that would fall into one of three categories:
Based on our assessment, the two possible outcomes as of our reporting date are as follows:
As of September 30 2004, the Steering Committee and project team believe they have performed control assessments on all significant areas of the Corporation’s internal control over financial reporting. At this stage, management has not identified any areas or systems where we believe there will be pervasive control deficiencies or deficiencies which cannot be remediated prior to our reporting date of December 31, 2004.
17
PART II OTHER INFORMATION
ISSUER PURCHASES OF EQUITY SECURITIES
Period
Total Number
of Shares
(or Units)
Purchased
Average
Price Paid
per Share
(or Unit)
Total Number of
Shares (or Units)
Purchased as Part
of Publicly
Announced Plans
or Programs
Maximum Number (or
Approximate Dollar
Value) of Shares (or
Units) that May Yet Be
Purchased Under the
Plans or Programs
7/1/04 to 7/31/04
8/1/04 to 8/31/04
9/1/04 to 9/30/04
Total
A Form 8-K was filed on July 28, 2004 announcing the retirement of board director Robert C. Penoyer effective August 7, 2004
A Form 8-K was filed on August 10, 2004 announcing the appointment of Michael F. Lezzer as a board director effective August 12, 2004.
A Form 8-K was filed on August 10, 2004 announcing the declaration of a 13 cent per share dividend payable on September 15, 2004 to shareholders of record on September 3, 2004.
A From 8-K was filed on October 21, 2004 announcing reported earnings for the quarter ended September 30, 2004 and for the nine months ended September 30, 2004.
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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.
(Registrant)
DATE: November 4, 2004
/s/ William F. Falger
William F. Falger
President and Director
(Principal Executive Officer)
/s/ Joseph B. Bower, Jr.
Joseph B. Bower, Jr.
Treasurer
(Principal Financial Officer)
(Principal Accounting Officer)
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