Independent Bank Corp. - 10-Q quarterly report FY

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2002

Commission File Number: 1-9047

Independent Bank Corp.

(Exact name of registrant as specified in its charter)

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   ý            No   o

As of November 1, 2002, there were 14,457,919 shares of the issuer’s common stock outstanding, par value $.01 per share.

INDEX

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PART 1. FINANCIAL INFORMATION

Item 1.  Financial Statements

INDEPENDENT BANK CORP.

CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these consolidated financial statements.

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INDEPENDENT BANK CORP

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited - - In Thousands, Except Share and Per Share Amounts)

(1)  Reflects the restatment of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

The accompanying notes are an integral part of these consolidated financial statements.

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INDEPENDENT BANK CORP.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(Unaudited - Dollars in Thousands, Except Share and Per Share Data)

(1)  Reflects the restatement of the six months ended June 30, 2002 for the nonamotization of goodwill in accordance with SFAS No. 147.

The accompanying notes are an intergral part of these consolidated financial statements.

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INDEPENDENT BANK CORP.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited - In Thousands)

DISCLOSURE OF ACCOUNTING POLICY:

For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks,  and fed funds sold and assets purchased under resale agreements.  Generally, federal funds are sold for up to two week periods.

(1)  Reflects the restatement of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

The accompanying notes are an integral part of these consolidated financial statements.

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CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 -  BASIS OF PRESENTATION

Independent Bank Corp. (the “Company”) is a state chartered, federally registered bank holding company headquartered in Rockland, Massachusetts.  The Company is the sole stockholder of Rockland Trust Company (“Rockland” or “the Bank”), a Massachusetts trust company chartered in 1907.  The Company’s other subsidiaries are Independent Capital Trust III and Independent Capital Trust IV, each of which have issued trust preferred securities to the public.  Independent Capital Trust I and II were liquidated earlier this year upon redemption of their trust preferred securities.  The Bank’s subsidiaries consist of two Massachusetts securities corporations; RTC Securities Corp. and RTC Securities Corp. X, as well as South Shore Holdings, Ltd. (“South Shore Holdings”), a holding Company for Rockland Preferred Capital Corporation, a Massachusetts Real Estate Investment Trust (REIT).

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.  In the opinion of management, all adjustments considered necessary for a fair presentation of the financial statements, primarily consisting of normal recurring adjustments, have been included.  Operating results for the nine months and the three month period ended September 30, 2002 are not necessarily indicative of the results that may be expected for the year ended December 31, 2002 or any other interim period. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2001 filed with the Securities and Exchange Commission.

NOTE 2 -  GOODWILL AND INTANGIBLE ASSETS

On October 1, 2002, the Financial Accounting Standards Board (FASB) released SFAS No. 147, “Acquisitions of Certain Financial Institutions.” The statement allows for financial institutions that have certain unidentifiable intangible assets that arose from business combinations where the fair value of liabilities assumed exceeded the fair value of assets acquired to reclassify these assets to goodwill as of the later of the date of acquisition or the application date of SFAS 142, January 1, 2002.

The reclassified goodwill shall be accounted for and reported prospectively as goodwill under SFAS 142, “Goodwill and Other Intangible Assets.” Any previously recognized amortization of such reclassified unidentified intangible asset that was recorded subsequent to the adoption of SFAS 142 shall be restated to the application date of SFAS 142, January 1, 2002. When financial information is presented for these dates, that financial information is to

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be presented on the restated basis.  The reclassified goodwill will be subject to the impairment provisions of SFAS 142 and the impairment test shall be completed by the end of the fiscal year.

As permitted by the FASB, the Company has adopted SFAS No. 147 as of September 30, 2002 and retroactively ceased amortization of goodwill. The restated balance of the goodwill, including the unidentifiable intangible asset that has been reclassified to goodwill at September 30, 2002 is $36.2 million, compared to $34.2 million had the Company not adopted the statement and retroactively ceased amortization.

The following schedule is a reconcilement of net income and earnings per share excluding intangible asset amortization for the three and nine months ended September 30, 2002 and 2001:

IMPACT OF INTANGIBLE ASSET AMORTIZATION ON NET INCOME AND EARNINGS PER SHARE

(1) We did not report earnings with intangible asset amortization as of September 30, 2002, however, results are shown in this table as though they were for informational purposes.

(2) Net Income shown above does not include the Write-off of Trust Preferred Issuance Costs which are included in the calculation of EPS

(3) Net of tax

(4) Net income and diluted earnings per share during the 2002 quarters are shown as restated.  Comparative net income and diluted earning per share during the 2001 quarters are shown adjusted for intangible asset amortization, these periods will not be restated.

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NOTE 3 – RECENT ACCOUNTING DEVELOPMENTS

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections” (SFAS No. 145). SFAS No. 145 among other things addresses financial accounting and reporting of gains and losses from extinguishment of debt. SFAS No. 145 requires gains and losses resulting from the extinguishment of debt to be classified as extraordinary items only if they meet the criteria in Accounting Principles Board (“APB”) Opinion No. 30, “Reporting the Results of Operations- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions”. This statement rescinds SFAS No. 4, “Reporting Gains and Losses from Extinguishment of Debt,” SFAS No. 64, “Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements,” and amends SFAS No. 13, “Accounting for Leases.” SFAS No. 145 is effective for fiscal years beginning after May 15, 2002, with early application encouraged.  The Company does not believe the adoption of this Statement will have a material impact on the Company’s financial position or results of operations.

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” SFAS No. 146 addresses financial accounting and reporting for costs associated with exit or disposal activities. The statement supersedes Emerging Issues Task Force (EITF) Issue No. 94-3 “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring).” SFAS No. 146 is effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged.  The Company does not believe the adoption of this Statement will have a material impact on the Company’s financial position or results of operations.

See Note 2 for the adoption of SFAS No. 147, “Acquisitions of Certain Financial Institutions.”

NOTE 4 -  REDEMPTION/ISSUANCE OF TRUST PREFERRED SECURITIES

On December 11, 2001, the Company issued, through Independent Trust III, 1,000,000 shares of 8.625% Trust Preferred Securities, $25 face value, due December 31, 2031 but callable at the option of the Company on or after December 31, 2006.  On January 31, 2002, the Company used the net proceeds from the transaction to call the 1,000,000 shares of 11% Trust Preferred Securities issued by Independent Capital Trust II in January 2000.  On April 12, 2002, the Company issued through Independent Capital Trust IV an additional 1,000,000 shares of 8.375% Trust Preferred Securities, $25 face value, due April 30, 2032, but callable at the option of the Company on or after April 30, 2007.  The Company used the net proceeds from the transaction to call on May 20, 2002, the 1,150,000 shares of 9.28% Trust Preferred Securities issued by Independent Capital Trust I in May 1997.  The Company expects the refinancing of the 11% and 9.28% Trust Preferred Security issuances to reduce the Company’s annual pre-tax minority interest expense by approximately $1.2 million.

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NOTE 5 -  WORLDCOM BOND IMPAIRMENT CHARGE

The Company recognized a pre-tax securities’ impairment charge of $4.4 million ($2.5 million net of tax, or 17 cents per diluted share) during the second quarter of 2002 on an investment in corporate bonds issued by WorldCom Inc. (the “WorldCom Bonds”) with a book value of $5.1 million.  The WorldCom Bonds were purchased in May 2001, with a 7.875% coupon and a May 15, 2003 maturity date.  Upon determination of the impairment on the WorldCom Bonds, the securities were reclassified from held to maturity to available for sale.  On July 18, 2002 the Company sold the WorldCom Bonds for $712,500, with a book value of $750,000, resulting in a realized loss of $37,500 recognized in the third quarter of 2002.

NOTE 6 -  CONTINGENCY:  REAL ESTATE INVESTMENT TRUST TAXATION (“REIT”)

As previously disclosed, in June 2002 the Massachusetts Department of Revenue (“DOR”) began to issue Notices of Intent to Assess additional excise tax to numerous financial institutions in Massachusetts that have a REIT in their corporate structure.

In 1997 Rockland, through its subsidiary South Shore Holdings, formed a second-tier REIT subsidiary.  On November 7, 2002 South Shore Holdings received from the DOR a Notice of Intent to Assess additional state excise tax for the years ended 1999, 2000, and 2001. The DOR contends that, under Massachusetts law, dividend distributions to South Shore Holdings from its REIT are fully taxable.  Management has estimated the impact to be approximately $3.3 million, net of federal benefit and excluding interest and penalties, for 1999 through September of 2002.

The Company believes that the Massachusetts statute that provides for a dividends received deduction equal to 95% of certain dividend distributions applies to the distributions made to South Shore Holdings from its REIT. As a consequence, no provision has been made in the Company’s financial statements for the amounts assessed or for additional amounts that the DOR might assess in the future. The Company intends to vigorously defend its position and appeal the assessment when issued.

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NOTE 7 -  EARNINGS PER SHARE

Stated below are the basic and diluted earnings per share for the nine months and three months ended September 30, 2002 and September 30, 2001.

EARNINGS PER SHARE

(In Thousands, Except Per Share Data)

(1)  Reflects the restatement of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

Options to purchase common stock with an exercise price greater than the average market price of common shares for the period are excluded from the calculation of diluted earnings per share, as their effect on earnings per share would be antidilutive.  For the nine months ended September 30, 2002 and September 30, 2001, there were 8,615 and 187,967 shares, respectively excluded from the calculation of diluted earnings per share.  For the three months ended September 30, 2002 and September 30, 2001, there were 14,000 and 17,000 shares, respectively, excluded from the calculation of diluted earnings per share.

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NOTE 8 -  COMPREHENSIVE INCOME

Information on the Company’s comprehensive income, presented net of taxes, is set forth below for the nine months and three months ended September 30, 2002 and September 30, 2001.

Comprehensive income is reported net of taxes, as follows:

(In Thousands)

(1)  Reflects the restatement of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

NOTE 9 -  SEGMENT INFORMATION

The Company has identified its reportable operating business segment as community banking, based on how the business is strategically managed by the Chief Executive Officer, who is the chief operating decision-maker.  The Company’s community banking business segment consists of commercial banking, retail banking, and investment management.  The community banking business segment is managed as a single strategic unit which derives its revenues from a wide range of banking services, including lending activities, acceptance of demand, savings and time deposits, investment management, and mortgage servicing income from investors.  The Company does not have a single customer from whom it derives ten percent or more of its revenues, and operates in the southeastern area of Massachusetts.

Non-reportable operating segments of the Company’s operations, which do not have similar characteristics to the community banking operations and do not meet the quantitative thresholds requiring disclosure, are included in the other category in the disclosure of business segments below.  For the periods presented, these non-reportable segments include financial information with respect to the Company and Independent Capital Trusts I, II, III and IV.

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Information about reportable segments and reconciliation of such information to the consolidated financial statements for the nine months and three months ended September 30, 2002 and 2001 follows:

RECONCILIATION TO CONSOLIDATED FINANCIAL INFORMATION

(In Thousands)

(1)  Reflects the restatement of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

The accounting policies of the segments are the same as those described in the summary of significant accounting policies.  The Company evaluates performance based on profit or loss from operations before income taxes, not including non-recurring gains or losses.

The Company derives a majority of its revenues from interest income and the chief operating decision maker relies primarily on net interest revenue to assess the performance of the segments and make decisions about resources to be allocated to the segment.  Therefore, the segments are reported above using net interest income.

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with the financial statements, notes and tables included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2001, filed with the Securities and Exchange Commission.  The discussion may contain certain forward-looking statements regarding the future performance of the Company.  All forward-looking information is inherently uncertain and actual results may differ materially from the assumptions, estimates or expectations reflected or contained in the forward-looking information.  Please refer to “Cautionary Statement Regarding Forward-Looking Information” of this Form 10-Q for a further discussion.

RESULTS OF OPERATIONS

SUMMARY

The Company reported net income of $7.0 million for the third quarter 2002 as compared with net income of $5.5 million for the third quarter of 2001.  Diluted earnings per share were $0.48 for the three months ended September 30, 2002, compared to $0.38 per share for the prior quarter.

For the three months ended September 30, 2002, the Company recorded net operating earnings of $7.0 million.  This represents an increase of 32.1% from the $5.3 million of net operating earnings reported for the three months ended September 30, 2001, respectively.  Diluted operating earnings per share were $0.48 and $0.37 for the three months ended September 30, 2002 and 2001, respectively.

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The Company summarizes the financial results for the nine months and three months ended September 30, 2002 and September 30, 2001 on both an operating basis and on an actual basis.  These results are as follows:

(1)  Reflects the restatement of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

Net interest income increased $1.7 million or 7.3% for the three months ended September 30, 2002 as compared to the same period in 2001.  The provision for loan losses decreased to $1.2 million for the three months ended September 30, 2002, compared with $1.3 million for the same period last year.  Non-interest income increased $0.6 million, or 12.5% excluding the security losses in 2002 and security gains in 2001, while non-interest expense decreased $27,000, or 0.2%.

In October of 2002, the Financial Accounting Standards Board (“FASB”) released a new statement, SFAS No. 147, entitled “Acquisitions of Certain Financial Institutions”, allowing financial institutions meeting certain criteria to reclassify their unidentifiable intangible asset balances to goodwill and cease amortization beginning as of January 1, 2002.  As permitted by the FASB, the Company adopted SFAS No. 147 as of September 30, 2002 and retroactively ceased amortization of goodwill. The restated goodwill balance is $36.2 million and amortization expense of $439,000 and $1.3 million, net of tax, has been added back to net income for the three and nine months ended September 30, 2002, respectively.   The full year impact to earnings net of tax is $1.8 million, or $0.12 per diluted share.

The annualized consolidated returns on average equity and average assets for the three months ended September 30, 2002 were 18.87% and 1.23%, respectively, compared to 17.04% and 1.04% reported for the same period last year.  On an operating basis, the annualized consolidated returns on average equity and average assets for the three months ended

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September 30, 2002 were 18.93% and 1.23%, respectively, compared to 16.58% and 1.01% reported for the three months ended September 30, 2001.

Net income for the nine months ended September 30, 2002 was $18.0 million compared to $15.8 million for the same period last year.  Diluted earnings per share were $1.13 for the nine months ended September 30, 2002, compared to $1.09 per share for the same period last year.

On an operating basis, earnings were $20.6 million.  This represents an increase of 39.2% from the $14.8 million of net operating earnings reported for the nine months ended September 30, 2001.  Diluted operating earnings per share were $1.41 and $1.03 for the nine months ended September 30, 2002 and 2001, respectively.

Net interest income increased $9.2 million or 14.0% for the nine months ended September 30, 2002.  The provision for loan losses increased to $3.6 million for the first nine months of 2002, compared with $2.8 million for the same period last year.  Non-interest income increased $2.5 million, or 17.3% excluding the security losses of ($38,000) in 2002 and security gains of $1.4 million in 2001, while non-interest expense increased $1.6 million, or 3.1%, excluding the WorldCom Bonds’ impairment charge of $4.4 million, over the first nine months of 2001.

The annualized consolidated returns on average equity and average assets for the first nine months of 2002 were 17.01% and 1.08%, respectively, compared to 17.11% and 1.04% reported for the same period last year.  On an operating basis, the annualized returns on average equity and average assets for the nine months ended September 30, 2002 were 19.43% and 1.23%, respectively, compared to 16.11% and 0.97% reported for the nine months ended September 30, 2001.

During the nine months ended September 30, 2002, the Company, through a subsidiary Trust, redeemed $28.8 million of 9.28% Trust Preferred Securities which were issued in May of 1997.  This redemption was another step in a refinancing strategy designed to lower the Company’s cost of capital which began in December 2001, when the Company issued $25 million of 8.625% Trust Preferred Securities and concluded in April 2002 with the issuance of $25 million of 8.375% Trust Preferred Securities.  In accordance with Generally Accepted Accounting Principles (GAAP), the unamortized portion of the issuance costs ($767,000) net of tax, on the 9.28% Trust Preferred Securities were written-off during the second quarter as a charge to equity and included within the calculation of earnings per share available to common shareholders.   The Company also wrote-off the unamortized portion of the issuance costs ($738,000) net of tax, associated with the $25 million of 11% Trust Preferred Securities which were effectively refinanced by the issuance of the aforementioned $25 million 8.625% Trust Preferred Securities.

The Company recognized a securities’ impairment charge of $4.4 million ($2.5 million net of tax, or 17 cents per diluted share) during the second quarter of 2002 on an investment in WorldCom Bonds. Despite the recognition of the securities’ impairment charge, the Company improved net income for the nine months ended September 30, 2002 as compared to the same period for the prior year by $2.3 million. The WorldCom bonds had a 7.875% coupon and a May 15, 2003 maturity date. On July 18, 2002 the Company sold the WorldCom Bonds for $712,000, with a remaining book value of $750,000, resulting in a realized loss of $37,500 in the third quarter of 2002.

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NET INTEREST INCOME

Net interest income is the difference between income on earning assets such as loans, leases and securities, and interest expense paid on liabilities such as deposits and borrowings. Net interest income is affected by the level of interest rates, changes in interest rates and by changes in the amount and the combination of interest-earning assets and interest-bearing liabilities.

Fully tax equivalent net interest income for the third quarter of 2002 increased $1.8 million to $25.8 million as compared to the third quarter of 2001.  The Company’s net interest margin decreased to 4.90% for the third quarter of 2002 from 4.94% in the third quarter of 2001.  The Company’s interest rate spread (the difference between the weighted average yield on interest-earning assets and the weighted average cost of interest-bearing liabilities) increased by 11 basis points to 4.34% during the third quarter of 2002 as compared to the third quarter of 2001.  Management anticipates that the net interest margin will contract in the coming months as assets continue to reprice at historically low levels without a corresponding decrease in rates paid.  Management continues to take steps to protect the net interest margin and improve the Bank’s asset sensitivity, such as emphasizing adjustable rate loan production, shorter-term investments and longer-term funding.

The Company’s fully tax equivalent net interest income for the nine months ended September 30, 2002 amounted to  $76.0 million, an increase of $9.5 million, or 14.2%, from the comparable nine months in 2001. The Company’s net interest margin increased from 4.77% to 4.90% for the nine months ended September 30, 2002.  The increase in the net interest margin is due to a lower cost of funds and a balance sheet that was well positioned to benefit from the Federal Reserve’s easing of interest rates in 2001.

The average balance of interest-earning assets for the third quarter of 2002 amounted to $2.1 billion, an increase of $164.3 million, or 8.5%, from the comparable time frame in 2001.  Loans increased by $96.8 million, or 7.7%.  Investments increased by $67.5 million, or 9.8%.  Income from interest-earning assets amounted to $35.9 million for the three months ended September 30, 2002, a decrease of $1.3 million, or 3.6%, from the three months ended September 30, 2001.  The yield on interest earning assets was 6.82% in 2002 compared to 7.67% in 2001.

The average balance of interest-earning assets for the nine months of 2002 amounted to $2.1 billion, an increase of $206.8 million, or 11.1%, from the comparable time frame in 2001.  Loans increased by $110.9 million, or 9.1%, resulting from increases in general business volume, primarily in the commercial real estate, residential real estate, and real estate construction categories, as well as home equity loans.  Investments increased by $96.0 million, or 15.0%.  Income from interest-earning assets amounted to $107.6 million for the nine months ended September 30, 2002, a decrease of $1.7 million, or 1.6%, from the first nine months of 2001.  The yield on interest earning assets was 6.94% in 2002 compared to 7.84% in 2001.

Interest income is also impacted by the amount of non-performing loans.  The amount of interest due, but not recognized, on non-performing loans amounted to approximately $83,000 for the three months ended September 30, 2002, compared to $77,000 for the same period in

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2001 and $225,000 for the nine months ended September 30, 2002 compared to $294,000 for the same period in 2001.

The average balance of interest-bearing liabilities for the third quarter of 2002 was $1.6 billion, or 5.8% higher than the comparable 2001 time frame.  Average interest bearing deposits increased by $64.4 million, or 5.4%, for the three months ended September 30, 2002 over the same period last year.  For the three months ended September 30, 2002, average borrowings were $370.9 million.  This represents an increase of $25.1 million or 7.3% from the three months ended September 30, 2001.  Notwithstanding the increase in the average balance of interest-bearing liabilities, interest expense decreased by $3.2 million, or 23.9%, to $10.1 million in the third quarter of 2002 as compared to the same period last year.  The yield on interest-bearing liabilities was 2.48% in 2002 compared to 3.44% in 2001.

The average balance of interest-bearing liabilities for the first nine months of 2002 was $1.6 billion, or 8.4% higher than the comparable 2001 time frame.  Average interest bearing deposits increased by $78.1 million, or 6.7 %, for the first nine months of 2002 over the same period last year.  For the nine months ended September 30, 2002, average borrowings were $374.0 million.   This represents an increase of $47.7 million or 14.6% from the nine months ended September 30, 2001.  Notwithstanding the increase in the average balance of interest-bearing liabilities, interest expense decreased by $11.2 million, or 26.1%, to $31.6 million in the first nine months of as compared to the same period last year.  The yield on interest-bearing liabilities was 2.60% in 2002 compared to 3.82% in 2001.

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CONSOLIDATED AVERAGE BALANCE SHEET AND AVERAGE RATE DATA

CONSOLIDATED AVERAGE BALANCE SHEET AND AVERAGE RATE DATA

(Unaudited - Dollars in Thousands)

(1)          The total amount of adjustment to present interest income and yield on a fully tax-equivalent basis is $1,204 and $941 for the nine months ended September 30, 2002 and 2001, respectively. Also, non-accrual loans have been included in the average loan category, however, unpaid interest on non-accrual loans has not been included for purposes of determining interest income.

(2)          Interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average cost of interest-bearing liabilities.  Net interest margin represents annualized net interest income as a percent of average interest-earning assets.

(3)          Reflects the restatement of the six months ended June 30, 2002 for the nonamortization of goodwill in accordance with SFAS No. 147.

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CONSOLIDATED AVERAGE BALANCE SHEET AND AVERAGE RATE DATA

(Unaudited - Dollars in Thousands)