SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003
Commission file number: 33-18888
ORRSTOWN FINANCIAL SERVICES, INC.
---------------------------------
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2530374
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(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
77 East King Street, P. O. Box 250, Shippensburg, Pennsylvania 17257
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (717) 532-6114
-------------
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, No Par Value
--------------------------
Title of each class
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (229.405 of this chapter) is not contained herein and will
not be contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. [ X ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [ X ] No [ ]
As of December 31, 2003, 2,537,011 shares of the registrant's common stock were
outstanding. The aggregate market value of such shares held by nonaffiliates on
that date was $ 169,979,737.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the annual shareholders report for the year ended December 31, 2003
are incorporated by reference into Parts I and II. Portions of the Proxy
Statement for the 2004 Annual Meeting of Security Holders are incorporated by
reference in Part III of this Form 10-K.
ORRSTOWN FINANCIAL SERVICES, INC.
FORM 10-K
INDEX
Page
Part I
Item 1. Business 2
Item 2. Properties 9
Item 3. Legal Proceedings 9
Item 3a. Executive Officers of the Registrant 9
Item 4. Submission of Matters to a Vote of Security Holders 10
Part II
Item 5. Market for Registrant's Common Equity and Related
Security Holder Matters 11
Item 6. Selected Financial Data 11
Item 7. Management's Discussion and Analysis of Financial
Condition and Results
of Operations 11
Item 8. Financial Statements and Supplementary Data 11
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 21
Item 9a. Controls and Procedures 21
Part III
Item 10. Directors and Executive Officers of the Registrant 22
Item 11. Executive Compensation 22
Item 12. Security Ownership of Certain Beneficial Owners
and Management 22
Item 13. Certain Relationships and Related Transactions 23
Item 14. Principal Accountant Fees and Services 23
Part IV
Item 15. Exhibits, Financial Statement Schedules and Reports
on Form 8-K 24
Signatures 27
Part I
Item 1. Business.
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History and Business
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Orrstown Financial Services, Inc. (the Corporation) is a financial
holding company registered under the Gramm-Leach-Bliley Act. Orrstown Financial
Services, Inc. was organized on November 17, 1987, under the laws of the
Commonwealth of Pennsylvania for the purpose of acquiring Orrstown Bank (the
Bank), Shippensburg, Pennsylvania, and such other banks and bank related
activities as are permitted by law and desirable. On March 8, 1988, Orrstown
Financial Services, Inc. acquired 100% ownership of Orrstown Bank, issuing
131,455 shares of Orrstown Financial Services, Inc.'s common stock to the former
Bank shareholders.
Orrstown Financial Services, Inc.'s primary activity consists of
owning and supervising its two subsidiaries, Orrstown Bank and Pennbanks
Insurance Company Cell P1. Orrstown Bank is engaged in providing banking and
bank related services in South Central Pennsylvania, principally Franklin and
Cumberland Counties, where its twelve branches are located in Shippensburg (2),
Carlisle (3), Spring Run, Orrstown, Chambersburg (3), Greencastle and
Mechanicsburg, Pennsylvania. The day-to-day management of Orrstown Bank is
conducted by the subsidiary's officers. Pennbanks Insurance Company Cell P1 is
a reinsurer of credit life, and disability insurance which services customers of
Orrstown Bank. Orrstown Financial Services, Inc. derives a majority of its
current income from Orrstown Bank.
Orrstown Financial Services, Inc. has no employees other than its six
officers who are also employees of the Bank, its subsidiary. On December 31,
2003, the Bank had 126 full-time and 32 part-time employees.
Orrstown Bank was organized as a state-chartered bank in 1987 as part
of an agreement and plan of merger between Orrstown Financial Services, Inc. and
Orrstown Bank, the predecessor of Orrstown Bank, under which Orrstown Bank
became a wholly-owned subsidiary of Orrstown Financial Services, Inc. As
indicated, the Bank is the successor to Orrstown Bank which was originally
organized in 1919.
The Bank is engaged in commercial banking and trust business as
authorized by the Pennsylvania Banking Code of 1965. This involves accepting
demand, time and savings deposits, and granting loans. The Bank grants
agribusiness, commercial and residential loans to customers in South Central
Pennsylvania, principally Franklin and Cumberland Counties. The concentrations
of credit by type of loan are set forth on the face of the balance sheet (page 2
of the annual report to shareholders). The Bank maintains a diversified loan
portfolio and evaluates each customer's creditworthiness on a case-by-case
basis. The amount of collateral obtained, if deemed necessary by the Bank upon
the extension of credit, is based on management's credit evaluation of the
customer and collateral standards established in the Bank's lending policies and
procedures.
All secured loans are supported with appraisals of collateral.
Business equipment and machinery, inventories, accounts receivable, and farm
equipment are considered appropriate security, provided they meet acceptable
standards for liquidity and marketability.
-2-
Loans secured by equipment and/or other non real estate collateral
normally do not exceed 70% of appraised value or cost, whichever is lower.
Loans secured by real estate generally do not exceed 80% of the appraised value
of the property. Loan to collateral values are monitored as part of the loan
review, and appraisals are updated as deemed appropriate in the circumstances.
Administration and supervision over the lending process is provided by
the Bank's Credit Administration Department via loan reviews. The loan review
process is continuous, commencing with the approval of a loan. Each new loan is
reviewed by the Credit Administration Department for compliance with banking
regulations and lending policy requirements for documentation, collateral
standards, and approvals.
The Credit Administration Department continues to monitor and evaluate
loan customers utilizing risk-rating criteria established in the lending policy
in order to spot deteriorating trends and detect conditions which might indicate
potential problem loans.
Reports of the results of the loan reviews are submitted quarterly to
the Directors' Credit Administration Committee for approval and provide the
basis for evaluating the adequacy of the allowance for loan losses.
Through its trust department, the Bank renders services as trustee,
executor, administrator, guardian, managing agent, custodian, investment
advisor, and other fiduciary activities authorized by law.
As of December 31, 2003, the Corporation had total assets of
approximately $ 472 million, total shareholders' equity of approximately $ 43
million and total deposits of approximately $ 359 million.
Regulation and Supervision
- --------------------------
Orrstown Financial Services, Inc. is a financial holding company, and
is registered as such with the Board of Governors of the Federal Reserve System
(the Federal Reserve Board). As a registered bank holding company and financial
holding company, the Corporation is subject to regulation under the Bank Holding
Company Act of 1956 and to inspection, examination, and supervision by the
Federal Reserve Board.
The operations of the Bank are subject to federal and state statutes
applicable to banks chartered under the banking laws of the United States, and
to banks whose deposits are insured by the Federal Deposit Insurance
Corporation. Bank operations are also subject to regulations of the
Pennsylvania Department of Banking, the Federal Reserve Board, and the Federal
Deposit Insurance Corporation (FDIC).
Several of the more significant regulatory provisions applicable to
banks and financial holding companies to which the Corporation and its
subsidiaries are subject are discussed below, along with certain regulatory
matters concerning the Corporation and its subsidiaries. To the extent that the
following information describes statutory or regulatory provisions, it is
qualified in its entirety by reference to the particular statutory provisions.
Any change in applicable law or regulation may have a material effect on the
business and prospects of the Corporation and its subsidiaries.
-3-
Financial and Bank Holding Company Activities
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"Financial in Nature" Requirement. As a financial holding company,
the Corporation may engage in, and acquire companies engaged in, activities that
are considered "financial in nature", as defined by the Gramm-Leach-Bliley Act
and Federal Reserve Board interpretations. These activities include, among
other things, securities underwriting, dealing and market-making, sponsoring
mutual funds and investment companies, insurance underwriting and agency
activities, and merchant banking. If any banking subsidiary of the Corporation
ceases to be "well capitalized" or "well managed" under applicable regulatory
standards, the Federal Reserve Board may, among other things, place limitations
on the Corporation's ability to conduct the broader financial activities
permissible for financial holding companies or, if the deficiencies persist,
require the Corporation to divest the banking subsidiary. In addition, if any
banking subsidiary of the Corporation receives a Community Reinvestment Act
rating of less than satisfactory, the Corporation would be prohibited from
engaging in any additional activities other than those permissible for bank
holding companies that are not financial holding companies. The Corporation may
engage directly or indirectly in activities considered financial in nature,
either de novo or by acquisition, as long as it gives the Federal Reserve Board
after-the-fact notice of the new activities.
Interstate Banking and Branching. As the bank holding company, the
Corporation is required to obtain prior Federal Reserve Board approval before
acquiring more than 5% of the voting shares, or substantially all of the assets,
of a bank holding company, bank, or savings association. Under the Riegle-Neal
Interstate Banking and Branching Efficiency Act (Riegle-Neal), subject to
certain concentration limits and other requirements, bank holding companies such
as the Corporation may acquire banks and bank holding companies located in any
state. Riegle-Neal also permits banks to acquire branch offices outside their
home states by merging with out-of-state banks, purchasing branches in other
states, and establishing de novo branch offices in other states. The ability of
banks to acquire branch offices is contingent, however, on the host state having
adopted legislation "opting in" to those provisions of Riegle-Neal. In
addition, the ability of a bank to merge with a bank located in another state is
contingent on the host state not having adopted legislation "opting out" of that
provision of Riegle-Neal.
Control Acquisitions. The Change in Bank Control Act prohibits a
person or group of persons from acquiring "control" of a bank holding company,
unless the Federal Reserve Board has been notified and has not objected to the
transaction. Under a rebuttable presumption established by the Federal Reserve
Board, the acquisition of 10% or more of a class of voting stock of a bank
holding company with a class of securities registered under Section 12 of the
Exchange Act, such as the Corporation, would, under the circumstances set forth
in the presumption, constitute acquisition of control of the bank holding
company. In addition, a company is required to obtain the approval of the
Federal Reserve Board under the Bank Holding Company Act before acquiring 25%
(5% in the case of an aquiror that is a bank holding company) or more of any
class of outstanding voting stock of a bank holding company, or otherwise
obtaining control or a "controlling influence" over that bank holding company.
-4-
Liability for Banking Subsidiaries
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Under Federal Reserve Board policy, a bank holding company is expected
to act as a source of financial and managerial strength to each of its
subsidiary banks and to commit resources to their support. This support may be
required at times when the bank holding company may not have the resources to
provide it. Similarly, under the cross-guarantee provisions of the Federal
Deposit Insurance Act, the FDIC can hold any FDIC-insured depository institution
liable for any loss suffered or anticipated by the FDIC in connection with (1)
the "default" of a commonly controlled FDIC-insured depository institution; or
(2) any assistance provided by the FDIC to a commonly controlled FDIC-insured
depository institution "in danger of default".
Capital Requirements
- --------------------
Information concerning the Corporation and its subsidiaries with
respect to capital requirements is incorporated by reference from Note 15,
"Regulatory Matters", of the "Notes to Consolidated Financial Statements"
included under Item 8 of this report, and from the "Capital Adequacy and
Regulatory Matters" section of the "Management's Discussion and Analysis of
Consolidated Financial Condition and Results of Operations", included under Item
7 of this report.
FDICIA
- ------
The Federal Deposit Insurance Corporation Improvement Act of 1991
(FDICIA), and the regulations promulgated under FDICIA, among other things,
established five capital categories for insured depository institutions - well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized - and requires federal bank
regulatory agencies to implement systems for "prompt corrective action" for
insured depository institutions that do not meet minimum capital requirements
based on these categories. Unless a bank is well capitalized, it is subject to
restrictions on its ability to offer brokered deposits and on certain other
aspects of its operations. An undercapitalized bank must develop a capital
restoration plan and its parent bank holding company must guarantee the bank's
compliance with the plan up to the lesser of 5% of the bank's assets at the time
it became undercapitalized and the amount needed to comply with the plan. As of
December 31, 2003, the Bank was considered well capitalized based on the
guidelines implemented by the bank regulatory agencies.
Dividend Restrictions
- ---------------------
The Corporation's funds for cash distributions to its shareholders are
derived from a variety of sources, including cash and temporary investments.
One of the principal sources of those funds is dividends received from its
subsidiary Orrstown Bank. Various federal laws limit the amount of dividends
the Bank can pay to the Corporation without regulatory approval. In addition,
federal bank regulatory agencies have authority to prohibit the Bank from
engaging in an unsafe or unsound practice in conducting their business. The
payment of dividends, depending upon the financial condition of the bank in
question, could be deemed to constitute an unsafe or unsound practice. The
ability of the Bank to pay dividends in the future is currently, and could be
further, influenced by bank regulatory policies and capital guidelines.
Additional information concerning the Corporation and its banking subsidiary
with respect to dividends is incorporated by reference from Note 15, "Regulatory
Matters", of the "Notes to Consolidated Financial
-5-
Statements" included under Item 8 of this report, and the "Capital Adequacy and
Regulatory Matters" sections of "Management's Discussion and Analysis of
Consolidated Financial Condition and Results of Operations", included under Item
7 of this report.
Depositor Preference Statute
- ----------------------------
In the "liquidation or other resolution" of an institution by any
receiver, U.S. federal legislation provides that deposits and certain claims for
administrative expenses and employee compensation against the insured depository
institution would be afforded a priority over the general unsecured claims
against that institution, including federal funds and letters of credit.
Other Federal Laws and Regulations
- ----------------------------------
Our operations are subject to additional federal laws and regulations
applicable to financial institutions, including, without limitation:
- Privacy provisions of the Gramm-Leach-Bliley Act and related
regulations, which require us to maintain privacy policies intended
to safeguard customer financial information, to disclose the
policies to our customers and to allow customers to "opt out" of
having their financial service providers disclose their
confidential financial information to non-affiliated third parties,
subject to certain exceptions;
- Right to Financial Privacy Act, which imposes a duty to maintain
confidentiality of consumer financial records and prescribes
procedures for complying with administrative subpoenas of financial
records;
- Consumer protection rules for the sale of insurance products by
depository institutions, adopted pursuant to the requirements of
the Gramm-Leach-Bliley Act; and
- USA Patriot Act, which requires financial institutions to take
certain actions to help prevent, detect and prosecute international
money laundering and the financing of terrorism.
Sarbanes-Oxley Act of 2002
- --------------------------
On July 30, 2002, President Bush signed into law the Sarbanes-Oxley
Act of 2002. The Sarbanes-Oxley Act represents a comprehensive revision of laws
affecting corporate governance, accounting obligations and corporate reporting.
The Sarbanes-Oxley Act is applicable to all companies with equity securities
registered or that file reports under the Securities Exchange Act of 1934. In
particular, the Sarbanes-Oxley Act establishes: (i) new requirements for audit
committees, including independence, expertise, and responsibilities; (ii)
additional responsibilities regarding financial statements for the Chief
Executive Officer and Chief Financial Officer of the reporting company; (iii)
new standards for auditors and regulation of audits; (iv) increased disclosure
and reporting obligations for the reporting company and its directors and
executive officers; and (v) new and increased civil and criminal penalties for
violations of the securities laws. Many of the provisions were effective
immediately while other provisions become effective over a period of time and
are subject to rulemaking by the SEC. Because the Corporation's common stock is
registered with the SEC, it is currently subject to this Act.
-6-
Future Legislation
- ------------------
Changes to the laws and regulations in the state where the Corporation
and the Bank do business can affect the operating environment of bank holding
companies and their subsidiaries in substantial and unpredictable ways. The
Corporation cannot accurately predict whether those changes in laws and
regulations will occur, and, if those changes occur, the ultimate effect they
would have upon the financial condition or results of operations of the
Corporation.
Important Factors Relating to Forward Looking Statements
- --------------------------------------------------------------
This Report contains statements (including, without limitation,
statements in "Management's Discussion and Analysis of Financial Condition and
Results of Operations," included in this Report under Item 7), that are
considered "forward-looking statements" as defined in the Private Securities
Litigation Reform Act of 1995. In addition, the Corporation may make other
written and oral communications from time to time that contain such statements.
Forward-looking statements, including statements as to industry trends, future
expectations and other matters that do not relate strictly to historical facts,
are based on certain assumptions by management, and are often identified by
words or phrases such as "anticipated", "believe", "expect", "intend", "seek",
"plan", "objective", "trend", and "goal". Forward-looking statements are
subject to various assumptions, risks, and uncertainties, which change over
time, and speak only as of the date they are made.
The Corporation undertakes no obligation to update any forward-looking
statements. Actual results could differ materially from those anticipated in
forward-looking statements and future results could differ materially from
historical performance. In addition to factors mentioned elsewhere in this
Report or previously disclosed in our SEC reports (accessible on the SEC's
website at www.sec.gov or on our website at www.orrstown.com), the following
factors, among others, could cause actual results to differ materially from
forward-looking statements and future results could differ materially from
historical performance:
- general political and economic conditions may be less favorable
than expected;
- developments concerning credit quality in various corporate lending
industry sectors as well as consumer and other types of credit, may
result in an increase in the level of our provision for credit
losses, nonperforming assets, net charge-offs and reserve for
credit losses;
- customer borrowing, repayment, investment, and deposit practices
generally may be less favorable than anticipated; and interest rate
and currency fluctuations, equity and bond market fluctuations, and
inflation may be grater than expected;
- the mix of interest rates and maturities of our interest earning
assets and interest bearing liabilities (primarily loans and
deposits) may be less favorable than expected;
- competitive product and pricing pressures among financial
institutions within our markets may increase;
-7-
- legislative or regulatory developments, including changes in laws
or regulations concerning taxes, banking, securities, capital
requirements and risk-based capital guidelines, reserve
methodologies, deposit insurance and other aspects of the financial
services industry, may adversely affect the businesses in which we
are engaged or our financial results;
- legal and regulatory proceedings and related matters with respect
to the financial services industry, including those directly
involving the Corporation and its subsidiaries, could adversely
affect the Corporation or the financial services industry
generally;
- pending and proposed changes in accounting rules, policies,
practices, and procedures could adversely affect our financial
results;
- instruments and strategies used to manage exposure to various types
of market and credit risk could be less effective than anticipated,
and we may not be able to effectively mitigate our risk exposures
in particular market environments or against particular types of
risk;
- terrorist activities or other hostilities, including the situation
surrounding Iraq, may adversely affect the general economy,
financial and capital markets, specific industries, and the
Corporation; and
- technological changes, including the impact of the Internet on our
businesses, may be more difficult or expensive than anticipated.
Competition
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The Bank's principal market area consists of Franklin County and
Cumberland County, Pennsylvania. It services a substantial number of depositors
in this market area, with the greatest concentration within a radius of
Chambersburg, Shippensburg, and Carlisle, Pennsylvania.
The Bank, like other depository institutions, has been subjected to
competition from less heavily regulated entities such as credit unions,
brokerage firms, money market funds, consumer finance and credit card companies,
and other commercial banks, many of which are larger than the Bank. The
principal methods of competing effectively in the financial services industry
include improving customer service through the quality and range of services
provided, improving efficiencies and pricing services competitively. Orrstown
Bank is competitive with all competing financial institutions in its service
area with respect to interest rates paid on time and savings deposits, service
charges on deposit accounts and interest rates charged on loans.
One outgrowth of the competitive environment discussed above has been
significant consolidation within the financial services industry on a global,
national, and regional level. We continue to implement strategic initiatives
focused on expanding our core businesses and to explore, on an ongoing basis,
acquisition, divestiture, and joint venture opportunities. We analyze each of
our products and businesses in the context of customer demands, competitive
advantages, industry dynamics, and growth potential.
-8-
The Corporation files periodic reports with the Securities and
Exchange Commission (SEC) in the form of 10-Q's - quarterly reports; 10-K -
annual report; annual proxy statements and Form 8-K for any significant events
that may arise during the year. Copies of the Corporation's filings may be
obtained through the SEC's internet site at www.sec.gov or by accessing the
Corporation's website at www.orrstown.com.
Item 2. Properties.
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Orrstown Bank owns buildings in Orrstown, Shippensburg (2), Carlisle
(2), Spring Run, Chambersburg (2), and Mechanicsburg, Pennsylvania. Offices of
the Bank are located in each of these buildings. It also leases space for
offices located in Greencastle, Chambersburg, and Carlisle, Pennsylvania.
Item 3. Legal Proceedings.
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Orrstown Financial Services, Inc. is an occasional party to legal
actions arising in the ordinary course of its business. In the opinion of
management, the Corporation has adequate legal defenses and/or insurance
coverage respecting any and each of these actions and does not believe that they
will materially affect the Corporation's operations or financial position.
Item 3a. Executive Officers of Registrant
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The following table sets forth selected information about the
principal officers of the holding company, each of whom is elected by the Board
of Directors and each of whom holds office at the discretion of the Board.
Name/Office Held Held Employe Age as
Since e of
Since 3/10/04
Joel R. Zullinger, Chairman of the Board 1991 (1) 55
Jeffrey W. Coy, Vice Chairman of the Board 1988 (1) 52
Kenneth R. Shoemaker, President, CEO 1987 1986 56
Bradley S. Everly, Senior Vice President, Treasurer 1997 1997 52
Stephen C. Oldt, Executive Vice President, 1987 1987 61
Assistant Secretary
Philip E. Fague, Executive Vice President, 2001 1988 44
Assistant Treasurer
Denver L. Tuckey, Secretary 1999 (1) 70
Jeffrey W. Embly, Vice President 1999 1997 33
(1) These officers are not employees of the Corporation
-9-
Senior Operating Officers of the Bank
Name/Office Held Held Bank Age as of
Since Employee 3/10/04
Since
Kenneth R. Shoemaker, President, 1987 1986 56
Chief Executive Officer
Stephen C. Oldt, Executive Vice 1987 1987 61
President, Chief Operations Officer
Philip E. Fague, Executive Vice President, 1999/ 1988 44
Chief Sales and Service Officer 2000
Bradley S. Everly, Senior Vice 1997 1997 52
President, Chief Financial Officer
Benjamin S. Stoops, Vice President, 1998 1998 52
Chief Technology Officer
Jeffrey W. Embly, Vice President, 1999 1997 33
Senior Loan Officer
Barbara E. Brobst, Vice President, 2001 1997 45
Senior Trust Officer
Nathan A. Eifert, Vice President, 2002 2000 35
Director of Marketing
Stephen C. Caldwell, Vice President, 2002 2001 55
Director of Human Resources
Item 4. Submission of Matters to Vote of Security Holders.
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None
-10-
Part II
Item 5. Market for Registrant's Common Stock and Related Security Holder
- -------------------------------------------------------------------------
Matters.
--------
Orrstown Financial Services, Inc.'s common stock is not traded on a
national securities exchange, but is traded through the local and over the
counter local markets under the symbol ORRF. At December 31, 2003, the
approximate number of shareholders of record was approximately 2,338. The price
ranges for Orrstown Financial Services, Inc. common stock set forth below are
the approximate bid prices obtained from brokers who make a market in the stock.
Market Cash Market Cash
Price Dividend Price Dividend
Dividend (1) 2003 2002
High Low High Low
First Quarter $ 48.57 $ 44.76 $ 0.19 $ 39.05 $ 36.71 $ 0.162
Second Quarter 58.00 46.19 0.21 47.62 37.38 0.162
Third Quarter 67.50 60.00 0.21 47.62 41.90 0.171
Fourth Quarter 68.00 63.75 0.23 44.76 43.81 0.191
(1) Note: All per share data has been restated after giving
retroactive recognition to a 5% stock dividend effective May 30, 2003.
See Note 15 to the financial statements contained in the annual
shareholders' report for the year ended December 31, 2003 for restrictions on
the payment of dividends.
Item 6. Selected Financial Data.
- -----------------------------------
The selected five-year financial data on page 26 of the annual
shareholders' report for the year ended December 31, 2003 is incorporated herein
by reference.
Item 7. Management's Discussion and Analysis of Financial Condition and
- --------------------------------------------------------------------------
Results of Operations.
- ----------------------
Contractual obligations of the Corporation as of December 31, 2003 are
as follows:
Payments due by period
- - - - - - - - - - - - - - - - - - - - - - - - - -
(In thousands) Total Less 1 - 3 3 - 5 More than
Contractual than 1 years years 5 years
obligations year
- - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - -
Long-term debt $ 37,193 $ 1,653 $ 7,707 $ 13,679 $ 14,154
obligations
Operating lease 141 162
obligations 454 151 0
-------- ------- ------- -------- --------
Total $ 37,647 $ 1,794 $ 7,869 $ 13,830 $ 14,154
======== ======= ======= ======== ========
All other information required by Item 7 is included in "Management's
Discussion and Analysis of Financial Condition and Results of Operations", on
pages 18 through 25 of the annual shareholders' report which are incorporated
herein by reference.
Item 8. Financial Statements and Supplementary Data.
- -------------------------------------------------------
The financial statements and supplementary data, some of which is
required under Guide 3 (statistical disclosures by bank holding companies) are
shown on pages 2 through 26 of the annual shareholders' report for the year
ended December 31, 2003 and are incorporated herein by reference. Certain
-11-
statistical information required in addition to those included in the annual
shareholders' report are submitted herewith as follows.
Description of Statistical Information Page
Changes in net interest income tax equivalent yields 13
Investment portfolio 14
Loan portfolio 15
Summary of loan loss experience 16
Nonaccrual, delinquent and impaired loans 17
Allocation of allowances for loan losses 18
Deposits and return on equity and assets 19
Consolidated summary of operations 20
-12-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
CHANGES IN NET INTEREST INCOME TAX EQUIVALENT YIELDS
2003 Versus 2002 2002 Versus 2001
Increase (Decrease) Increase (Decrease)
Due to Change in Due to Change in
Average Average Total Average Average Total
Volume Rate Increase Volume Rate Increase
(Decrease) (Decrease)
(000 omitted)
Interest Income
Loans (net of $ 3,507 ($ 2,529) $ 978 $ 2,598 ($ 3,287) ($ 689)
unearned
discounts)
Taxable investment 494 ( 1,004) ( 510) 230 ( 609) ( 379)
securities
Nontaxable ( 29) ( 25) ( 54) 769 ( 56) 713
investment
securities
Other short-term ( 36) ( 83) ( 119) 17 ( 240) ( 223)
investments
------- ------- ------- ------- ------- ------
Total interest 3,936 ( 3,641) 295 3,614 ( 4,192) ( 578)
income
------- ------- ------- ------- ------- ------
Interest Expense
Interest bearing 553 ( 720) ( 167) 927 ( 1,180) ( 253)
demand
Savings deposits 26 ( 87) ( 61) 40 ( 140) ( 100)
Time deposits 136 ( 962) ( 826) ( 479) ( 1,446) ( 1,925)
Short-term ( 13) ( 142) ( 155) ( 8) ( 503) ( 511)
borrowings
Long-term 180 ( 199) ( 19) 106 ( 9) 97
borrowings
------- ------- ------- ------- ------- ------
Total interest 882 ( 2,110) ( 1,228) 586 ( 3,278) ( 2,692)
expense
------- ------- ------- ------- ------- ------
Net interest income $ 1,523 $ 2,114
======= =======
Changes which are attributed in part to volume and in part to rate are
allocated in proportion to their relationships to the amounts of changes.
-13-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
INVESTMENT PORTFOLIO
The following table shows the maturities of investment securities at
book value as of December 31, 2003, and weighted average yields of such
securities. Yields are shown on a tax equivalent basis, assuming a 34% federal
income tax rate.
Within 1 After 1 After 5 After 10 Total
year year but years but years
within 5 within 10
years years
(000 omitted)
Bonds:
U. S. Treasury
Book value $ 1,007 $ 27 $ 0 $ 28 $ 1,062
Yield 5.78% 5.29% 0% 5.35% 5.76%
U. S. Government
agencies
Book value 0 13,988 0 0 13,988
Yield 0% 2.98% 2.98%
State and municipal
Book value 0 875 2,521 18,626 22,022
Yield 0% 9.01% 7.69% 7.99% 8.00%
Corporate
Book value 1,000 0 0 945 1,945
Yield 2.41% 0% 0% 1.92% 2.17%
Trust preferred
Book value 0 0 0 1,000 1,000
Yield 0% 0% 0% 9.25% 9.25%
Total book value $ 2,007 $ 14,890 $ 2,521 $ 20,599 $ 40,017
======= ======== ======= ======== ========
Yield 7.69%
4.10% 3.34% 7.77% 5.93%
==== ==== ==== ==== ====
Mortgage-backed
securities:
Total book value $ 45,867
========
Yield 4.02%
========
Equity Securities:
Total book value $ 1,472
========
Yield 4.68%
========
Total Investment $ 87,356
Securities
========
Yield 4.91%
========
-14-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
LOAN PORTFOLIO
The following table presents the loan portfolio at the end of each of the
last five years:
2003 2002 2001 2000 1999
(000 omitted)
Commercial, financial
and agricultural $ 38,186 33,806 $ 28,534 $23,938 $ 23,938
Real estate - Construction 21,016 22,048 20,480 17,425 15,580
Real estate - Mortgage 277,985 217,791 192,192 157,722 134,046
Installment and other
personal loans (net
of unearned
discount) 7,867 7,746 8,610 10,096 9,562
--------- --------- --------- --------- ---------
Total loans $ 345,054 $ 281,391 $ 249,816 $ 209,181 $ 180,691
========= ========= ========= ========= =========
Presented below are the approximate maturities of the loan portfolio
(excluding real estate mortgages, installments, and credit cards) at December
31, 2003:
Under One One to Over Five Total
Year Five Years
years
(000 omitted)
Commercial, financial and agricultural $ 6,032 $ 7,236 $ 24,918 $ 38,186
Real estate - Construction 2,905 3,477 14,634 21,016
------- -------- -------- --------
Total $ 8,937 $ 10,713 $ 39,552 $ 59,202
======= ======== ======== ========
The following table presents the approximate amount of fixed rate
loans and variable rate loans due as of December 31, 2003:
Fixed Rate Variable
Loans Rate Loans
(000 omitted)
Due within one year $ 886 $ 16,630
Due after one but within five years 22,094 9,833
Due after five years 79,975 215,636
------------ ----------
Total $ 102,955 $ 242,099
============ ==========
-15-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
SUMMARY OF LOAN LOSS EXPERIENCE
Years Ended December 31
2003 2002 2001 2000 1999
(000 omitted)
Average total loans outstanding $ 313,833 $ 264,296 $ 233,103 $ 192,902 $ 169,458
(net of unearned income)
========= ========= ========= ========= =========
Allowance for loan losses, $ 3,734 $ 3,104 $ 2,691 $ 2,455 $ 1,971
beginning of period
Additions to provision for loan 491 720 504 360 547
losses charged to operations
Loans charged off during the
year
Mortgages 12 0 0 0 0
Commercial 4 48 67 99 97
Installment 33 36 2 19 24
Personal credit lines and credit 32 17 29 11 7
cards
--------- --------- --------- --------- ---------
Total charge-off's 81 101 98 129 128
--------- --------- --------- --------- ---------
Recoveries of loans previously
charged off:
Mortgages 3 0 0 0 0
Commercial 0 3 6 1 59
Installment 8 8 1 2 1
Personal credit lines and credit 6 0 0 2 5
cards
--------- --------- --------- --------- ---------
Total recoveries 17 11 7 5 65
--------- --------- --------- --------- ---------
Net loans charged off 64 90 91 124 63
(recovered)
Allowance for loan losses, end $ 4,161 $ 3,734 $ 3,104 $ 2,691 $ 2,455
of period
========= ========= ========= ========= =========
Ratio of net loans charged off .02% .03% .04% .06% .04%
to average loans outstanding
========= ========= ========= ========= =========
The provision is based on an evaluation of the adequacy of the
allowance for possible loan losses. The evaluation includes, but is not
limited to, review of net loan losses for the year, the present and
prospective financial condition of the borrowers, and
evaluation of current and projected economic conditions.
-16-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
NONACCRUAL, DELINQUENT AND IMPAIRED LOANS
The following table sets forth the outstanding balances of those
loans on anonaccrual status and those on accrual status which are contractually
past due as to principal or interest payments for 30 days or more at
December 31.
2003 2002 2001 2000 1999
(000 omitted)
Nonaccrual loans $ 130 $ 85 $ 56 $ 12 $ 64
======== ======== ======== ======== ========
Accrual loans:
Restructured $ 0 $ 1,428 $ 0 $ 0 $ 0
30 through 89 days past due 1,440 1,419 2,244 865 3,420
90 days or more past due 2,743 1,446 644 814 97
-------- -------- -------- -------- --------
Total accrual loans $ 4,183 $ 4,293 $ 2,888 $ 1,679 $ 3,517
======== ======== ======== ======== ========
See Note 6 of the notes to consolidated financial statements for
details of income recognized and foregone revenue on nonaccrual loans for the
past three years, and discussion concerning impaired loans at December 31,
2003.
-17-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
ALLOCATION OF ALLOWANCE FOR LOAN LOSSES
The following is an allocation by loan categories of the allowance for loan
losses at December 31 for the last five years. In retrospect the specific
allocation in any particular category may prove excessive or inadequate and
consequently may be reallocated in the future to reflect the then current
conditions. Accordingly, the entire allowance is available to absorb losses in
any category:
Years Ended December 31
2003 2002
Allowanc Percentage Allowance Percentage
e Amount of Loans Amount of Loans
to Total to Total
Loans Loans
(000 omitted)
Commercial, financial and $ 928 10.75% $ 806 12.01%
agricultural
Commercial, real estate secured 828 44.20 545 41.37
Real estate - Construction 0 6.37 0 7.84
Real estate - Mortgage 326 35.78 255 36.03
Installment 9 2.90 28 2.75
Unallocated 2,070 0.00 2,100 0.00
------- ------ ------- ------
Total $ 4,161 100.00% $ 3,734 100.00%
======= ====== ======= ======
Years Ended December 31
2001 2000
Allowanc Percentage Allowance Percentage
e Amount of Loans Amount of Loans
to Total to Total
Loans Loans
(000 omitted)
Commercial, financial and $ 466 11.42% $ 43 11.74%
agricultural
Commercial, real estate secured 563 46.42 786 21.29
Real estate - Construction 0 8.20 0 8.30
Real estate - Mortgage 350 30.51 56 53.86
Installment 33 3.45 34 4.81
Unallocated 1,692 0.00 1,772 0.00
------- ------ ------- ------
Total $ 3,104 100.00% $ 2,691 100.00%
======= ====== ======= ======
Years Ended December 31
1999
Allowance Percentage of
Amount Loans to Total
Loans
(000 omitted)
Commercial, financial and $ 45 11.90%
agricultural
Commercial, real estate secured 609 18.03
Real estate - Construction 0 8.62
Real estate - Mortgage 93 56.16
Installment 27 5.29
Unallocated 1,681 0.00
------- -------
Total $ 2,455 100.00%
======= =======
-18-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
DEPOSITS
The average amounts of deposits are summarized below:
Years Ended December 31
2003 2002 2001
(000 omitted)
Demand deposits $ 47,416 $ 39,688 $ 32,628
Interest bearing demand 170,832 136,500 99,103
deposits
Savings deposits 26,602 23,558 20,787
Time deposits 94,043
97,539 102,856
--------- --------- ---------
Total deposits $ 342,389 $ 293,789 $ 255,374
========= ========= =========
The following is a breakdown of maturities of time deposits of $ 100,000 or
more as of December 31, 2003:
(000 omitted)
Three months or less $ 7,083
Over three months through twelve months 3,649
Over one year through three years 6,366
Over three years 1,747
--------
$ 18,845
========
RETURN ON EQUITY AND ASSETS (APPLYING DAILY AVERAGE BALANCES)
The following table presents a summary of significant earnings and
capital ratios: (000 omitted)
2003 2002 2001
Average assets $ 443,737 $ 385,765 $ 340,428
Net income $ 6,980 $ 5,915 $ 5,092
Average equity $ 40,491 $ 34,408 $ 29,612
Cash dividends paid $ 2,126 $ 1,722 $ 1,411
Return on assets 1.57% 1.53% 1.50%
Return on equity 17.24% 17.19% 17.20%
Dividend payout ratio 30.45% 29.12% 27.71%
Equity to asset ratio 9.12% 8.92% 8.70%
-19-
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
CONSOLIDATED SUMMARY OF OPERATIONS
Years Ended December 31
2003 2002 2001 2000 1999
(000 omitted)
Interest income $ 23,484 $ 23,173 $ 23,978 $ 21,758 $ 18,324
Interest expense 10,677 10,318
6,757 7,985 8,074
-------- -------- -------- -------- --------
Net interest income 16,727 15,188 13,301 11,440 10,250
Provision for loan losses 504 547
491 720 360
-------- -------- -------- -------- --------
Net interest income after 16,236 14,468 12,797 11,080 9,703
provision for loan losses
Other income:
Trust and brokerage services 1,948 1,780 1,480 1,466 1,230
Service charges - Deposits, 3,866 3,171 2,634 1,818 1,623
other service charges,
collection and exchange
charges, commission and fees
Other operating income 618 409 366 458 728
-------- -------- -------- -------- --------
Total other income 6,432 5,360 4,480 3,742 3,581
-------- -------- -------- -------- --------
Income before operating expense 22,668 19,828 17,277 14,822 13,284
Operating expenses:
Salaries and employees benefits 6,787 5,993 5,151 4,755 4,297
Occupancy and equipment expense 2,109 1,800 1,676 1,558 1,099
Other operating expenses 4,114 3,895 3,420 2,800 2,822
-------- -------- -------- -------- --------
Total operating expenses 13,010 11,688 10,247 9,113 8,218
-------- -------- -------- -------- --------
Income before income taxes 9,658 8,140 7,030 5,709 5,066
Income tax 2,678 2,225 1,537
-------- -------- -------- -------- --------
Net income applicable to
common stock $ 6,980 $ 5,915 $ 5,092 $ 4,172 $ 3,755
======== ======== ======== ======== ========
Per share data (1):
Basic earnings $ 2.76 $ 2.36 $ 2.05 $ 1.70 $ 1.54
Diluted earnings $ 2.68 $ 2.30 $ 2.02 $ 1.69 $ 1.54
Cash dividends $ .84 $ .69 $ .57 $ .52 $ .47
Weighted average shares:
Basic 2,527,185 2,510,144 2,485,042 2,457,876 2,441,984
Diluted 2,607,769 2,566,681 2,518,041 2,469,732 2,441,984
(1) Per share amounts have been restated to reflect:
The 5% stock dividend effective May 30, 2003.
The 5% stock dividend effective September 15, 2001.
The 71/2% stock dividend effective November 19, 1999.
-20-
Item 9. Disagreements on Accounting and Financial Disclosures.
- -----------------------------------------------------------------
Not applicable.
Item 9a. Controls and Procedures
- ---------------------------------
The Corporation's Chief Executive Officer and Chief Financial Officer have
evaluated the effectiveness of the Corporation's disclosure controls and
procedures (as such term is defined in Rules 13a-14(c) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")) as of December 31, 2003.
Based on such evaluation, such officers have concluded that, as of December 31,
2003, the Corporation's disclosure controls and procedures are effective in
alerting them on a timely basis to material information relating to the
Corporation (including its consolidated subsidiaries) required to be included in
the Corporation's periodic filings under the Exchange Act.
CHANGES IN INTERNAL CONTROLS
There have not been any significant changes in the Corporation's internal
control over financial reporting or in other factors that could significantly
affect such control during the fourth quarter of 2003.
-21-
PART III
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
The Corporation has adopted a code of ethics that applies to all senior
financial officers (including its chief executive officer, chief financial
officer, chief accounting officer, controller, and any person performing similar
functions). The Corporation has filed a copy of this Code of Ethics as Exhibit
14 to this Form 10-K. The Corporation has also made the Code of Ethics
available on its website at http://www.orrstown.com.
All other information required by Item 10 is incorporated by reference from
Orrstown Financial Services, Inc.'s definitive proxy statement for the 2004
Annual Meeting of Shareholders filed pursuant to Regulation 14A.
Item 11. Executive Compensation
- --------------------------------
The information required by Item 11 is incorporated by reference from
Orrstown Financial Services, Inc.'s definitive proxy statement for the 2004
Annual Meeting of Shareholders filed pursuant to Regulation 14A.
Item 12. Security Ownership of Certain Beneficial Owners and Management
- ------------------------------------------------------------------------
Equity Compensation Plan Information
Plan Category Number of securities to be Weighted-average Number of
issued upon exercise of exercise price of securities
outstanding options outstanding options remaining available
for future issuance
under equity
compensation plans
(excluding
securities
reflected in column
(a))
(a) (b) (c)
Equity compensation 80,221 $ 42.43 139,177
plan approved by
security holders
Equity compensation 10,554 $ 38.41 22,251
plan not approved by
security holders (1)
------ ------- -------
Total 90,775 $ 41.97 161,428
====== ======= =======
(1) Non-Employee Director Stock Option Plan of 2000. On January 27,
2000, the Board of Directors of the Corporation approved the
Orrstown Financial Services, Inc. Non-Employee Director Stock
Option Plan of 2000. The Directors' Option Plan is a formula plan
under which options to purchase shares of the Corporation's Common
Stock are granted each year to directors in office on April 1. The
number of options granted each year is based on the Corporation's
return on average equity for the most recent fiscal year. All
options have a term of 10 years from the regular grant date, are
fully exercisable from the regular grant date, and have an exercise
price equal to the fair market value of the Corporation's Common
Stock as of the date of the grant of the option based upon
criteria as outlined in the plan. If a director "retires",
whether as a result of reaching mandatory retirement age,
-22-
(1)
or under any other circumstances, the Board of Directors, in its
discretion, may determine to constitute retirement, the options
previously granted to the director will expire at their scheduled
expiration date. If a director's service as a director terminates
for any other reason, the options previously granted to the
director will expire six months after the date of termination of
service unless scheduled to expire sooner.
All other information required by Item 12 is incorporated by
reference from Orrstown Financial Services, Inc.'s definitive proxy
statement for the 2004 Annual Meeting of Shareholders filed
pursuant to Regulation 14A.
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information required by Item 13 is incorporated by reference from
Orrstown Financial Services, Inc.'s definitive proxy statement for the 2004
Annual Meeting of Shareholders filed pursuant to Regulation 14A.
Item 14. Principal Accountant Fees and Services
- ------------------------------------------------
The information required by Item 14 is incorporated by reference from
Orrstown Financial Services, Inc.'s definitive proxy statement for the 2004
Annual Meeting of Shareholders filed pursuant to Regulation 14A.
-23-
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports of Form 8-K.
- --------------------------------------------------------------------------
(a) (1) - List of Financial Statements
The following consolidated financial statements of
Orrstown Financial Services, Inc. and its subsidiaries,
included in the annual report of the registrant to its
shareholders for the year ended December 31, 2003, are
incorporated by reference in Item 8:
Consolidated balance sheets - December 31, 2003 and 2002
Consolidated statements of income - Years ended December 31,
2003, 2002, and 2001
Consolidated statements of shareholders' equity - Years ended
December 31, 2003, 2002, and 2001
Consolidated statements of cash flows - Years ended December 31,
2003, 2002, and 2001
Notes to consolidated financial statements - December 31, 2003
(2) List of Financial Statement Schedules
All financial statement schedules for which provision is made in
the applicable accounting regulations of the Securities and
Exchange Commission are not required under the related
instructions or are inapplicable and therefore have been omitted.
(3) Listing of Exhibits
Exhibit (3) (i) Articles of incorporation
Exhibit (3) (ii) Bylaws
Exhibit (4) Instruments defining the rights of security holders
including indentures
Exhibit (10) Material contracts
Exhibit (13) Annual report to security holders
Exhibit (14) Code of Ethics
Exhibit (21) Subsidiaries of the registrant
Exhibit (23) Consent of independent auditors
Exhibit (31) Rule 13a - 14(a)/15d-14(a) Certifications
Exhibit (32) Section 1350 Certifications
All other exhibits for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission
are not required under the related instructions or are
inapplicable and therefore have been omitted.
(b) Reports on Form 8-K filed
Report filed January 2, 2004 for news release announcing a 2-for-
1 stock split payable February 10, 2004.
-24
(c) Exhibits
(3) (i) Articles of incorporation. Incorporated by reference to
Exhibit 3(i) of the registrant's Form 10-K for the year ended
December 31, 1998.
(ii) By-laws. Incorporated by reference to Exhibit 3.2 to the
Registrant's Registration Statement on Form S-4, Registration
No. 33-18888.
(4) Instruments defining the rights of security holders including
indentures. The rights of the holders of Registrant's common
stock are contained in:
(i) Articles of Incorporation of Orrstown Financial
Services, Inc., incorporated by reference to Exhibit 3(i)
of the registrant's Form 10-K for the year ended
December 31, 1998.
(ii) By-laws of Orrstown Financial Services, Inc.,
incorporated by reference to Exhibit 3.2 to the
Registrant's Registration Statement on Form S-4
(Registration No. 33-18888).
(10.1) Change in control agreement between Orrstown Financial
Services, Inc. and its chief executive officer.
Incorporated by reference to Exhibit 99 of the registrant's
Form 10-K for the year ended December 31, 1996.
(10.2) Salary continuation plan for selected officers -
incorporated by reference to the registrant's Form 10-K for
the year ended December 31, 1999
(10.3) Officer group term replacement plan for selected officers -
incorporated by reference to the registrant's Form 10-K for
the year ended December 31, 1999
(10.4) Director retirement plan - incorporated by reference to the
registrant's Form 10-K for the year ended December 31, 1999
(10.5) Revenue neutral retirement plan - incorporated by reference
to the registrant's Form 10-K for the year ended
December 31, 1999
(10.6) Non-employee director stock option plan of 2000 -
incorporated by reference to the registrant's registration
statement on Form S-8 dated April 11, 2000
(10.7) Employee stock option plan of 2000 - incorporated by
reference to the registrant's registration statement on
Form S-8 dated March 31, 2000
(13) Annual report to security holders - filed herewith
(14) Code of Ethics Policy for Senior Financial Officers - filed
herewith
(21) Subsidiaries of the registrant - filed herewith
(23.1) Consent of independent auditors - filed herewith
(31.1) Certification of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 - filed
herewith
-25-
(31.2) Certification of Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002 - filed herewith
(32.1) Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350 as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 - filed herewith.
(32.2) Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350 as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 - filed herewith.
(d) Financial statement schedules
None
-26-
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
ORRSTOWN FINANCIAL SERVICES, INC.
---------------------------------
(Registrant)
By /s/ Kenneth R. Shoemaker
-----------------------------
Kenneth R. Shoemaker, President
Dated: March 10, 2004 (Duly authorized officer)
By /s/ Bradley S. Everly
---------------------------------
Bradley S. Everly, Chief Financial
Officer
(Principal Accounting Officer)
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, this report has been signed by the following persons on
behalf of the Registrant and in the capacities and on the dates indicated.
Signature
Title Date
/s/ Kenneth R. Shoemaker President, CEO and March 10, 2004
- --------------------------------- Director
Kenneth R. Shoemaker
/s/ Anthony F. Ceddia Director March 10, 2004
- ---------------------------------
Dr. Anthony F. Ceddia
/s/ Glenn W. Snoke Director March 10, 2004
- ---------------------------------
Glenn W. Snoke
/s/ Gregory A. Rosenberry Director March 10, 2004
- ---------------------------------
Gregory A. Rosenberry
/s/ Joel R. Zullinger Chairman of the March 10, 2004
- --------------------------------- Board and Director
Joel R. Zullinger
/s/ Jeffrey W. Coy Vice Chairman March 10, 2004
- --------------------------------- of the Board
Jeffrey W. Coy and Director
/s/ John S. Ward Director March 10, 2004
- ---------------------------------
John S. Ward
/s/ Denver L. Tuckey Secretary and March 10, 2004
- --------------------------------- Director
Denver L. Tuckey
/s/ Andrea Pugh Director March 10, 2004
- ---------------------------------
Andrea Pugh
Exhibit 13
Orrstown Financial Services, Inc.
2003 Annual Financial Report
C O N T E N T S
Page
INDEPENDENT AUDITOR'S REPORT 1
CONSOLIDATED FINANCIAL STATEMENTS
Balance sheets 2
Statements of income 3
Statements of changes in shareholders' equity 4
Statements of cash flows 5
Notes to consolidated financial statements 6 - 17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 18 - 24
SUMMARY OF QUARTERLY FINANCIAL DATA 25
SELECTED FIVE-YEAR FINANCIAL DATA 26
MARKET, DIVIDEND AND INVESTOR INFORMATION 27
INDEPENDENT AUDITOR'S REPORT
Board of Directors
Orrstown Financial Services, Inc.
Orrstown, Pennsylvania
We have audited the accompanying consolidated balance sheets of
Orrstown Financial Services, Inc. and its wholly-owned subsidiaries as of
December 31, 2003 and 2002 and the related consolidated statements of income,
changes in shareholders' equity, and cash flows for each of the three years in
the period ended December 31, 2003. These consolidated financial statements are
the responsibility of the Corporation's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with auditing standards
generally accepted in the United States of America. Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the consolidated financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial position of
Orrstown Financial Services, Inc. and its wholly-owned subsidiaries as of
December 31, 2003 and 2002, and the results of their operations and their cash
flows for each of the three years in the period ended December 31, 2003 in
conformity with accounting principles generally accepted in the United States of
America.
/S/ SMITH ELLIOTT KEARNS & COMPANY, LLC
--------------------------------------------------
SMITH ELLIOTT KEARNS & COMPANY, LLC
Chambersburg, Pennsylvania
February 4, 2004
Consolidated Balance Sheets
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
(Dollars in thousands) Dec. 31, 2003 Dec. 31, 2002
ASSETS
Cash and due from banks $ 12,283 $ 10,656
Federal funds sold 8,217
3,829
Interest bearing deposits with banks 1,095
1,001
Securities available for sale 89,074 90,106
Federal Home Loan Bank, Federal Reserve and
Atlantic
Central Bankers Bank stock, at cost which
approximates market value 2,912 2,268
--------------- ---------------
109,099 112,342
--------------- ---------------
Loans
Commercial, financial and agricultural 38,186 33,806
Real estate - Mortgages 277,985 217,791
Real estate - Construction and land development 21,016 22,048
Consumer 7,867 7,746
--------------- ---------------
345,054 281,391
Less: Allowance for loan losses ( 4,161) ( 3,734)
--------------- ---------------
340,893 277,657
--------------- ---------------
Premises and equipment, net 11,168 9,849
Accrued interest receivable 1,647 1,606
Cash surrender value of life insurance 7,234 6,916
Other assets 2.352 1,928
--------------- ---------------
Total assets $ 472,393 $ 410,298
=============== ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits
Non-interest bearing $ 52,276 $ 42,704
Interest bearing 306,367 276,464
-------------- ---------------
358,643 319,168
-------------- ---------------
Federal funds purchased and securities sold under
agreements to repurchase 29,440 20,808
Other borrowed funds 37,193 28,539
Accrued interest and other liabilities 4,282 3,821
-------------- ---------------
Total liabilities 429,558 372,336
-------------- ---------------
Shareholders' equity
Common stock: No par value - $.1041 stated value
per share 10,000,000 shares authorized
with 2,537,011 shares issued at December 31,
2003; 2,398,405 shares issued
at December 31, 2002 264 250
Additional paid-in capital 32,928 25,913
Retained earnings 8,509 9,750
-------------- ---------------
Accumulated other comprehensive income 1,134 2,049
-------------- ---------------
Total shareholders' equity 42,835 37,962
-------------- ---------------
Total liabilities and shareholders' equity $ 472,393 $ 410,298
============== ===============
The Notes to the Consolidated Financial
Statements are an integral part of these
statements.
-2-
Consolidated Statements of Income
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
Years Ended December 31,
(Dollars in thousands) 2003 2002 2001
Interest and Dividend Income
Interest and fees on loans $ 19,610 $ 8,635 $ 19,308
Interest and dividends on investment
securities
U.S. Government and agency 2,141 2,583 2,869
Exempt from federal income tax 1,335 1,370 899
Other investment income 398 585 902
---------- ------------ ----------
Total interest and dividend income 23,484 23,173 23,978
---------- ------------ ----------
Interest Expense
Interest on deposits 5,015 6,069 8,347
Interest on borrowed money 1,742 1,916 2,330
---------- ------------ ----------
Total interest expense 6,757 7,985 10,677
---------- ------------ ----------
Net interest income 16,727 15,188 13,301
Provision for loan losses 491 720 504
---------- ------------ ----------
Net interest income after provision for loan
losses 16,236 14,468 12,797
---------- ------------ ----------
Other Income
Service charges on deposit accounts 2,628 2,257 1,890
Other service charges, commissions, and fees 1,238 914 744
Trust department income 1,463 1,386 1,219
Brokerage income 485 394 261
Securities gains 199 21 11
Other income 419 388 355
---------- ------------ ----------
Total other income 6,432 5,360 4,480
Net interest income and other income 22,668 19,828 17,277
---------- ------------ ----------
Other Expenses
Salaries 4,456 4,035 3,506
Employee benefits 2,331 1,958 1,645
Occupancy expense of bank premises, and
furniture and equipment expenses 2,109 1,800 1,676
Other operating expenses 4,114 3,895 3,420
---------- ------------ ----------
Total other expenses 13,010 11,688 10,247
---------- ------------ ----------
Income before income tax 9,658 8,140 7,030
Applicable income tax 2,678 2,225 1,938
---------- ------------ ----------
Net income $ 6,980 $ 5,915 $ 5,092
========== ============ ==========
Earnings per share
Basic earnings per share $ 2.76 $ 2.36 $ 2.05
Weighted average shares outstanding 2,527,185 2,510,144 2,485,042
Diluted earnings per share $ 2.68 $ 2.30 $ 2.02
Weighted average shares outstanding 2,607,769 2,566,681 2,518,041
Dividends per share $ .84 $ .69 $ .57
The Notes to the
Consolidated Financial
Statements are an
integral part of these
statements.
-3-
Consolidated Statements of Changes in Shareholders' Equity
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
Years Ended December 31, 2003, 2002 and 2001
Accumulated
Additional Other Total
Common Paid-In Retained Comprehensive Shareholder
s'
(Dollars in thousands) Stock Capital Earnings Income Equity
Balance, December 31, 2000 $ 233 $ 19,360 $ 6,619 $ 462 $ 26,674
Comprehensive income
Net income 0 0 5,092 0 5,092
Change in unrealized gain on
investment securities available
for sale, net of tax of $ 94 0 0 0 ( 182) ( 182)
---------
Total comprehensive income 4,910
Cash dividends ($.57 per share) 0 0 ( 1,411) 0 ( 1,411)
Stock dividends issued 12 4,711 ( 4,723) 0 0
Cash paid in lieu of fractional
stock dividends 0 0 ( 20) 0 ( 20)
Issuance of stock through
employee stock purchase plan/
stock option plan 0 73 0 0 74
Issuance of stock through
dividend reinvestment plan 2 933 0 0 935
-------- -------- -------- -------- --------
Balance, December 31, 2001 248 25,077 5,557 280 31,162
Comprehensive income
Net income 0 0 5,915 0 5,915
Change in unrealized gain on
investment securities available
for sale, net of tax of $ 911 0 0 0 1,769 1,769
--------
Total comprehensive income 7,684
Cash dividends ($.69 per share) 0 0 ( 1,722) 0 ( 1,722)
Issuance of stock through
employee stock purchase plan/
stock option plan 0 71 0 0 71
Issuance of stock through
dividend reinvestment plan 2 765 0 0 767
-------- -------- -------- -------- --------
Balance, December 31, 2002 250 25,913 9,750 2,049 37,962
Comprehensive income
Net income 0 0 6,980 0 6,980
Change in unrealized gain on
investment securities available
for sale, net of tax of $ 471 0 0 0 ( 915) ( 915)
--------
Total comprehensive income 6,065
Cash dividends ($.84 per share) 0 0 ( 2,126) 0 ( 2,126)
Stock dividends issued 12 6,061 ( 6,073) 0 0
Cash paid in lieu of fractional
stock dividends 0 0 ( 22) 0 ( 22)
Issuance of stock through
employee stock purchase plan/
stock option plan 1 205 0 0 206
Issuance of stock through
dividend reinvestment plan 1 749 0 0 750
-------- -------- -------- -------- --------
Balance, December 31, 2003 $ 264 $ 32,928 $ 8,509 $ 1,134 $ 42,835
======== ======== ======== ======== ========
The Notes to the Consolidated Financial
Statements are an integral part of these
statements.
-4-
Consolidated Statements of Cash Flows
ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARIES
Years Ended December 31,
(Dollars in thousands) 2003 2002 2001
Cash flows from operating activities:
Net income $ 6,980 $ 5,915 $ 5,092
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,013 874 828
Provision for loan losses 491 720 504
(Gain) on disposal of other real estate owned ( 6) ( 3) ( 4)
Loss on disposal of bank premises and equipment 0 2 3
Deferred income taxes ( 110) ( 131) ( 113)
Securities (gains) ( 199) ( 21) ( 11)
Increase in cash surrender value of life insurance ( 318) ( 312) ( 286)
(Increase) decrease in accrued interest receivable ( 41) ( 64) 474
(Decrease) in accrued interest payable ( 6) ( 107) ( 210)
Other net 555 526 387
-------- -------- --------
Net cash provided by operating activities 8,359 7,399 6,664
-------- -------- --------
Cash flows from investing activities:
Net (increase) decrease in interest bearing deposits
with banks 94 ( 416) ( 507)
Sales of available for sale securities 20,839 1,223 5,427
Maturities of available for sale securities 30,480 21,754 36,239
Purchase of available for sale securities ( 51,475) ( 41,961) ( 40,433)
(Purchases) redemptions of FHLB stock ( 644) ( 565) 431
Net (increase) in loans ( 63,811) ( 31,725) ( 41,118)
Purchases of bank premises and equipment ( 2,261) ( 1,641) ( 512)
Proceeds from disposal of other real estate owned 89 64 180
Proceeds from disposal of bank premises and equipment 0 7 4
Investment in cash surrender value life insurance
policies 0 ( 682) 0
-------- -------- --------
Net cash (used) by investing activities ( 66,689) ( 53,942) ( 40,289)
-------- -------- --------
Cash flows from financing activities:
Net increase in deposits 39,475 38,000 39,160
Net increase (decrease) in federal funds purchased
and securities sold under agreements to repurchase 8,632 ( 10,723) 13,105
Proceeds from debt 10,000 5,026 8,025
Payment on debt ( 1,346) ( 3,000) ( 3,316)
Cash dividends paid ( 2,126) ( 1,722) ( 1,411)
Cash paid in lieu of fractional stock dividends ( 22) 0 ( 20)
Proceeds from sale of stock 956 838 1,009
-------- -------- --------
Net cash provided by financing activities 55,569 28,419 56,552
-------- -------- --------
Net increase (decrease) in cash and cash equivalents ( 2,761) ( 18,124) 22,927
Cash and cash equivalents, beginning balance 18,873 36,997 14,070
-------- -------- --------
Cash and cash equivalents, ending balance $ 16,112 $ 18,873 $ 36,997
======== ======== ========
Supplemental disclosure of cash flows information:
Cash paid during the year for:
Interest 6,763 8,092 10,887
Income taxes 2,650 2,375 2,200
Supplemental schedule of noncash investing and
financing activities:
Other real estate acquired in settlement of 83 61 392
loans
Unrealized gain (loss) on investment securities
available for sale (net of tax effects) ( 915) 1,769 ( 182)
The Notes to the Consolidated Financial
Statements are an integral part of these
statements.
-5-
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of operations
Orrstown Financial Services, Inc.'s primary activity consists of owning and
supervising its subsidiaries, Orrstown Bank, and Pennbanks Insurance Company
Cell P1. Orrstown Bank is engaged in providing banking and bank related
services in South Central Pennsylvania, principally Franklin and Cumberland
Counties. Its twelve branches are located in Shippensburg (2), Carlisle (3),
Spring Run, Orrstown, Chambersburg (3), Mechanicsburg and Greencastle,
Pennsylvania. Pennbanks Insurance Company Cell P1 is a reinsurer of credit,
life, and disability insurance which services customers of Orrstown Bank.
Principles of consolidation
The consolidated financial statements include the accounts of the Corporation
and its wholly-owned subsidiaries, Orrstown Bank and Pennbanks Insurance Company
Cell P1. All significant intercompany transactions and accounts have been
eliminated.
Use of estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for losses on loans and the
valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the allowance
for losses on loans and foreclosed real estate, management obtains independent
appraisals for significant properties.
While management uses available information to recognize losses on loans and
foreclosed real estate, future additions to the allowances may be necessary
based on changes in local economic conditions. In addition, regulatory
agencies, as an integral part of their examination process, periodically review
the Corporation's allowance for losses on loans and foreclosed real estate.
Such agencies may require the Corporation to recognize additions to the
allowance based on their judgments about information available to them at the
time of their examination. Because of these factors, management's estimate of
credit losses inherent in the loan portfolio and the related allowance may
change in the near term.
Investment securities
Under generally accepting accounting principles, the Corporation may segregate
their investment portfolio into three specific categories: "securities held to
maturity", "trading securities" and "securities available for sale". Securities
held to maturity are to be accounted for at their amortized cost; securities
classified as trading securities are to be accounted for at their current market
value with unrealized gains and losses on such securities included in current
period earnings; and securities classified as available for sale are to be
accounted for at their current market value with unrealized gains and losses on
such securities to be excluded from earnings and reported as a net amount in
other comprehensive income.
Management determines the appropriate classification of securities at the time
of purchase. If management has the intent and the Corporation has the ability
at the time of purchase to hold securities until maturity, they are classified
as securities held to maturity and carried at amortized historical cost.
Securities to be held for indefinite periods of time and not intended to be held
to maturity are classified as available for sale and carried at fair value.
Securities held for indefinite periods of time include securities that
management intends to use as part of its asset and liability management strategy
and that may be sold in response to changes in interest rates, resultant
prepayment risk and other factors related to interest rate and resultant
prepayment risk changes.
The Corporation has classified all of its investment securities as "available
for sale".
Realized gains and losses on dispositions are based on the net proceeds and
the adjusted book value of the securities sold, using the specific
identification method. Unrealized gains and losses on investment securities
available for sale are based on the difference between book value and fair value
of each security. These gains and losses are credited or charged to other
comprehensive income, whereas realized gains and losses flow through the
Corporation's results of operations.
Cash flows
For purposes of the Statements of Cash Flows, the Corporation has defined cash
and cash equivalents as those amounts included in the balance sheet captions
"Cash and due from banks" and "Federal funds sold". The Corporation has elected
to present the net increase or decrease in deposits with banks, loans, and
deposits in the Statements of Cash Flows.
Premises, equipment, furniture and fixtures and depreciation
Buildings, improvements, equipment, furniture and fixtures are carried at cost
less accumulated depreciation. Depreciation has been provided generally on the
straight-line method and is computed over the estimated useful lives of the
various assets as follows:
Years
Buildings and improvements 10-40
Equipment, furniture and fixtures 3-15
Repairs and maintenance are charged to operations as incurred.
Computer software is amortized over 3-5 years.
Intangibles
Identifiable intangible assets are amortized on a straight-line basis over
fifteen years.
Advertising
The Corporation follows the policy of charging costs of advertising to expense
as incurred. Advertising expense was $ 267,000, $ 218,000, and $ 196,000, for
2003, 2002, and 2001, respectively.
Loans and allowance for loan losses
Loans are stated at the amount of unpaid principal, reduced by an allowance
for loan losses. Interest on loans is calculated by using the simple interest
method on daily balances of the principal amount outstanding. The allowance for
loan losses is established through a provision for loan losses charged to
expenses. Loans are charged against the allowance when management believes that
the collectibility of the principal is
-6-
unlikely. The allowance is an amount that management believes will be adequate
to absorb possible losses on existing loans that may become uncollectible, based
on evaluations of the collectibility of loans and prior loan loss experience.
The evaluations take into consideration such factors as changes in the nature
and volume of the loan portfolio, overall portfolio quality, review of specific
problem loans, and current economic conditions that may affect the borrowers'
ability to pay.
Nonaccrual/Impaired loans
The accrual of interest income on loans ceases when principal or interest is
past due 90 days or more and collateral is inadequate to cover principal and
interest or immediately if, in the opinion of management, full collection is
unlikely. Interest accrued but not collected as of the date of placement on
nonaccrual status is reversed and charged against current income unless fully
collateralized. Subsequent payments received either are applied to the
outstanding principal balance or recorded as interest income, depending on
management's assessment of the ultimate collectibility of principal. Interest
income generally is not recognized on specific impaired loans unless the
likelihood of further loss is remote. Interest payments received on such loans
are applied as a reduction of loan principal balance. Interest income on
impaired loans is recognized only to the extent of interest payments received.
Foreclosed real estate
Real estate properties acquired through, or in lieu of, loan foreclosure are
to be sold and are initially recorded at the lower of carrying value or fair
value less estimated costs to sell the underlying collateral. After
foreclosure, valuations are periodically performed by management and the real
estate is carried at the lower of carrying amount or fair value less estimated
cost to sell.
Earnings per share of common stock
Earnings per share is calculated as net income divided by the weighted
average number of shares outstanding, after giving retroactive recognition to a
5% stock dividend in September 2001 and May 2003. For diluted net income per
share, net income is divided by the weighted average of shares outstanding plus
the incremental number of shares added as a result of converting common stock
equivalents. The Corporation's common stock equivalents consist of outstanding
stock options.
A reconciliation of the weighted average shares outstanding used to calculate
basic net income per share and diluted net income per share follows. There is
no adjustment to net income to arrive at diluted net income per share.
2003 2002 2001
Weighted average shares 2,527,185 2,510,144 2,485,042
outstanding (basic)
Impact of common stock 80,584 56,537 32,999
equivalents
--------- --------- ---------
Weighted average shares 2,607,769 2,566,681 2,518,041
outstanding (diluted)
========= ========= =========
Stock-Based Compensation
The Corporation grants stock options for a fixed number of shares to
directors and employees with an exercise price equal to the fair value of the
shares at the date of grant. The Corporation accounts for stock option grants
using the intrinsic-value method in accordance with APB Opinion No. 25,
"Accounting for Stock Issued to Employees" and related Interpretations. Under
the intrinsic-value method, because the exercise price of the Corporation's
employee stock options is more than or equals the market price of the underlying
stock on the date of grant, no compensation expense is recognized. See Note 10
for the proforma effect on net income and earnings per share as if the
Corporation had applied the fair value recognition provisions of FASB Statement
123, "Accounting for Stock-Based Compensation" to stock-based employee
compensation.
Federal income taxes
For financial reporting purposes the provision for loan losses charged to
operating expense is based on management's judgment, whereas for federal income
tax purposes, the amount allowable under present tax law is deducted.
Additionally, deferred compensation is charged to operating expense in the
period the liability is incurred for financial reporting purposes, whereas for
federal income tax purposes, these expenses are deducted when paid. As a result
of these and timing differences in depreciation expense, deferred income taxes
are provided for in the financial statements. See Note 11 for further details.
Fair values of financial instruments
The Corporation meets the requirements for disclosure of fair value
information about financial instruments, whether or not recognized in the
balance sheet. In cases where quoted market prices are not available, fair
values are based on estimates using present value or other valuation techniques.
Those techniques are significantly affected by the assumptions used, including
the discount rate and estimates of future cash flows. In that regard, the
derived fair value estimates cannot be substantiated by comparison to
independent markets and, in many cases, could not be realized in immediate
settlement of the instruments. Certain financial instruments and all
nonfinancial instruments are excluded from disclosure requirements.
Accordingly, the aggregate fair value amounts presented do not represent the
underlying value of the Corporation.
The following methods and assumptions were used by the Corporation in
estimating fair values of financial instruments as disclosed herein:
Cash, Due from Banks, Short-Term Investments, and Federal Funds Sold. The
carrying amounts of cash, due from banks, short-term investments, and federal
funds sold approximate their fair value.
Securities Available for Sale. Fair values for investment securities are based
on quoted market prices.
Loans Receivable. For variable-rate loans that reprice frequently and have no
significant change in credit risk, fair values are based on carrying values.
Fair values for fixed rate loans are estimated using discounted cash flow
analyses, using interest rates currently being offered for loans with similar
terms to borrowers of similar credit quality. Fair values for impaired loans
are estimated using discounted cash flow analyses or underlying collateral
values, where applicable.
Deposit Liabilities. The fair values disclosed for demand deposits are, by
definition, equal to the amount payable on demand at the reporting date (that
is, their carrying amounts). The carrying amounts of variable-rate, fixed-term
money market accounts and certificates of deposit approximate their fair values
at the reporting date. Fair values for fixed-rate certificates of deposits and
IRA's are estimated using a discounted cash flow calculation that applies
interest rates currently being offered to a schedule of aggregated expected
maturities on time deposits.
-7-
Short-Term Borrowings. The carrying amounts of federal funds purchased,
borrowings under repurchase agreements, and other short-term borrowings maturing
within 90 days approximate their fair values. Fair values of other short-term
borrowings are estimated using discounted cash flow analyses based on the
Corporation's current incremental borrowing rates for similar types of borrowing
arrangements.
Long-Term Borrowings. The fair value of the Corporation's long-term debt is
estimated using a discounted cash flow analysis based on the Corporation's
current incremental borrowing rate for similar types of borrowing arrangements.
Accrued Interest. The carrying amounts of accrued interest approximate their
fair values.
Off-Balance-Sheet Instruments. The Corporation generally does not charge
commitment fees. Fees for standby letters of credit and other off-balance-sheet
instruments are not significant.
Comprehensive income
Under generally accepted accounting principles, comprehensive income is
defined as the change in equity from transactions and other events from nonowner
sources. It includes all changes in equity except those resulting from
investments by shareholders and distributions to shareholders. Comprehensive
income includes net income and certain elements of "other comprehensive income"
such as foreign currency transactions; accounting for futures contracts;
employers accounting for pensions; and accounting for certain investments in
debt and equity securities.
The Corporation has elected to report its comprehensive income in the
statement of changes in of shareholders' equity. The only element of "other
comprehensive income" that the Corporation has is the unrealized gain or loss on
available for sale securities.
The components of the change in net unrealized gains (losses) on
securities were as follows:
(Dollars in thousands) 2003 2002 2001
Gross unrealized holding gains (losses)
arising during the year ($ 1,187) $ 2,701 ($ 265)
Reclassification adjustment for (gains)
losses realized in net income ( 199) ( 21) ( 11)
------- -------- ---------
Net unrealized holding gains (losses) before ( 1,386) 2,680 ( 276)
taxes
Tax effect 471 ( 911) 94
------- -------- ---------
Net change ($ 915) $ 1,769 ($ 182)
======= ======== =========
NOTE 2. INVESTMENTS
At December 31, 2003 and 2002 the investment securities portfolio was
comprised of securities classified as "available for sale", resulting in
investment securities being carried at fair value.
The amortized cost and fair values of investment securities available for
sale at December 31 were:
Amortized Gross Gross Fair
Cost Unrealized Unrealized Value
Gains Losses
(Dollars in thousands)
2003
U. S. Treasury securities and obligations of U. S.
Government corporations and agencies $ 15,050 $ 51 $ 115 $ 14,986
Obligations of states and political subdivisions 22,022 1,185 3 23,204
Mortgage-backed securities 45,867 448 186 46,129
Corporate bonds 1,945 0 18 1,927
Equity securities 2,472 395 39 2,828
-------- ------- -------- --------
Totals $ 87,356 $ 2,079 $ 361 $ 89,074
======== ======= ======== ========
Amortized Gross Gross Fair
Cost Unrealized Unrealized Value
Gains Losses
(Dollars in thousands)
2002
U. S. Treasury securities and obligations of U. S.
Government corporations and agencies $ 5,018 $ 195 $ 0 $ 5,213
Obligations of states and political subdivisions 25,691 2,012 0 27,703
Mortgage-backed securities 52,238 926 36 53,128
Corporate bonds 1,943 0 158 1,785
Equity securities 2,112 270 105 2,277
-------- ------- -------- --------
Totals $ 87,002 $ 3,403 $ 299 $ 90,106
======== ======= ======== ========
-8-
NOTE 2. INVESTMENTS (Continued)
The amortized cost and fair values of investment securities available for
sale at December 31, 2003, by contractual maturity are shown below. Contractual
maturities will differ from expected maturities because borrowers may have the
right to call or prepay obligations with or without call or prepayment
penalties.
(Dollars in thousands) Amortized Fair Value
Cost
Due in one year or less $ 2,007 $ 2,037
Due after one year through five years 14,890 14,849
Due after five years through ten years 2,521 2,633
Due after ten years 19,599 20,598
Mortgage-backed securities 45,867 46,129
Equity securities 2,472 2,828
-------- --------
$ 87,356 $ 89,074
======== ========
Proceeds from sales of securities available for sale during 2003, 2002,
and 2001, were $ 20,839,000, $ 1,223,000, and $ 5,427,000, respectively. Gross
gains and losses on 2003 sales were $ 525,612 and $ 326,485, respectively.
Gross gains and losses on 2002 sales were $ 65,533 and $ 44,872, respectively.
Gross gains and losses on 2001 sales were $ 57,840 and $ 46,394, respectively.
..
The Corporation owned $ 2,668,800 of Federal Home Loan Bank stock, $
54,000 of Atlantic Central Bankers Bank stock and $ 189,000 of Federal Reserve
Bank stock at December 31, 2003. At December 31, 2002 the Corporation's stock
ownership was $ 2,024,600 of Federal Home Loan Bank stock, $ 54,000 of Atlantic
Central Bankers Bank stock and $ 189,000 of Federal Reserve Bank stock. Market
value approximates cost since none of the stocks are actively traded.
Securities with a market value of $ 70,143,000 and $ 67,047,000 at
December 31, 2003 and 2002, respectively, were pledged to secure public funds
and for other purposes as required or permitted by law.
NOTE 3. CONCENTRATION OF CREDIT RISK
The Corporation grants agribusiness, commercial, residential and consumer
loans to customers in South Central Pennsylvania, principally Franklin and
Cumberland Counties. Although the Corporation maintains a diversified loan
portfolio, a significant portion of its customers' ability to honor their
contracts is dependent upon economic sectors for construction contractors, non-
residential building operators, sales finance, sub-dividers and developers.
Management evaluates each customer's creditworthiness on a case-by-case basis.
The amount of collateral obtained, if deemed necessary by the Corporation upon
the extension of credit, is based on management's credit evaluation of the
customer. Collateral held varies but generally includes equipment and real
estate.
NOTE 4. ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses is summarized as follows:
(Dollars in thousands) 2003 2002 2001
Balance at beginning of period $ 3,734 $ 3,104 $ 2,691
Recoveries 17 11 7
Provision for loan losses charged to income 491 720 504
------- ------- -------
Total 4,242 3,835 3,202
Losses 81 101 98
------- ------- -------
Balance at the end of period $ 4,161 $ 3,734 $ 3,104
======= ======= =======
NOTE 5. LOANS TO RELATED PARTIES
The Corporation has granted loans to the officers and directors of the
Corporation and its subsidiary and to their associates. Related party loans are
made on substantially the same terms, including interest rates and collateral,
as those prevailing at the time for comparable transactions with unrelated
persons and do not involve more than normal risk of collectibility. The
aggregate dollar amount of these loans was $ 2,630,000 at December 31, 2003, and
$ 1,636,000 at December 31, 2002. During 2003, $ 1,885,000 of new loans were
made and repayments totaled $ 891,000. Outstanding loans to employees totaled
$ 2,218,000 and $ 2,176,000 at December 31, 2003 and 2002, respectively.
NOTE 6. DELINQUENT AND NONACCRUAL LOANS
Loans 90 days or more past due (still accruing interest) were as follows
at December 31:
2003 2002 2001
Commercial, financial and agricultural $ 1,594,000 $ 190,000 $ 188,000
Real estate mortgages 1,134,000 1,245,000 392,000
Consumer 15,000 11,000 64,000
----------- ----------- ---------
Total $ 2,743,000 $ 1,446,000 $ 644,000
=========== =========== =========
-9-
NOTE 6. DELINQUENT AND NONACCRUAL LOANS (Continued)
The following table shows the principal balances of nonaccrual loans as
of December 31:
2003 2002 2001
Nonaccrual loans $ 130,000 $ 85,000 $ 56,000
========= ======== ========
Interest income that would have been accrued
at original contract rates $ 12,727 $ 9,177 $ 8,636
Amount recognized as interest income 391 2,304 4,028
--------- -------- --------
Foregone revenue $ 12,336 $ 6,873 $ 4,608
========= ======== ========
The Corporation had no impairment of loans as of December 31, 2003, 2002,
and 2001.
During 2003, the Corporation foreclosed on loans secured by two real
estate properties. These properties were sold during 2003 at a gain of $ 5,764,
which is included in other income on the statements of income. Gains from sales
of foreclosed property for the years ended December 31, 2002 and 2001 were $
2,736 and $ 4,150, respectively. The Corporation is holding a property that was
obtained through foreclosure during 2001. The carrying value of $ 211,317 for
this property is included in other assets on the balance sheet at December 31,
2003 and 2002.
NOTE 7.FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The Corporation is a party to financial instruments with off-balance-sheet
risk in the normal course of business to meet the financial needs of its
customers and to reduce its own exposure to fluctuations in interest rates.
These financial instruments include commitments to extend credit and standby
letters of credit. Those instruments involve, to varying degrees, elements of
credit and interest rate risk in excess of the amount recognized in the balance
sheets. The contract amounts of those instruments reflect the extent of
involvement the Corporation has in particular classes of financial instruments.
The Corporation's exposure to credit loss in the event of nonperformance
by the other party to the financial instrument for commitments to extend credit
and standby letters of credit and financial guarantees written is represented by
the contractual amount of those instruments. The Corporation uses the same
credit policies in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
Contract or
Notional Amount
(Dollars in thousands) 2003 2002
Financial instruments whose contract amounts
represent credit risk at December 31:
Commitments to extend credit $ 86,481 $ 70,197
Standby letters of credit and financial
guarantees written 9,469 4,996
Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in
the contract. Commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. Since many of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements. The
Corporation evaluates each customer's creditworthiness on a case-by-case basis.
The amount of collateral obtained, if deemed necessary by the Corporation upon
extension of credit, is based on management's credit evaluation of the customer.
Collateral held varies but may include accounts receivable, inventory, real
estate, equipment, and income-producing commercial properties.
Standby letters of credit and financial guarantees written are conditional
commitments issued by the Corporation to guarantee the performance of a customer
to a third party. Those guarantees are primarily issued to support public and
private borrowing arrangements. The credit risk involved in issuing letters of
credit is essentially the same as that involved in extending loans to customers.
The Corporation holds collateral supporting those commitments when deemed
necessary by management.
During 2003, the Corporation entered into purchase commitments of
$ 721,610 related to the construction of a new branch office. At December 31,
2003, $ 234,763 of these commitments had been paid.
NOTE 8.PREMISES AND EQUIPMENT
A summary of bank premises and equipment is as follows:
(Dollars in thousands) 2003 2002
Land $ 1,358 $ 851
Buildings and improvements 7,870 7,053
Leasehold improvements 199 199
Furniture and equipment 7,587 6,768
Construction in progress 334 236
--------- --------
Total 17,348 15,107
Less accumulated depreciation and amortization 6,180 5,258
--------- --------
Bank premises and equipment, net $ 11,168 $ 9,849
========= ========
Depreciation expense amounted to $ 943,484 in 2003, $ 803,123 in 2002, and
$ 755,174 in 2001.
-10-
NOTE 9. RETIREMENT PLANS
The Corporation maintains a 401(k) profit-sharing plan for those employees
who meet the eligibility requirements set forth in the plan. Employer
contributions to the plan are based on corporate performance and are at the
discretion of the Corporation's Board of Directors. In addition, there is a
provision for an employer match of 50 cents on the dollar for employee
contributions up to 6% of the employees' eligible compensation. Substantially
all of the Corporation's employees are covered by the plan and the contributions
charged to operations were $ 754,498, $ 650,065, and $ 538,062, for 2003, 2002,
and 2001, respectively.
The Corporation has a deferred compensation arrangement with certain
present and former board directors whereby a director or his beneficiaries will
receive a monthly retirement benefit at age 65. The arrangement is funded by an
amount of life insurance on the participating director calculated to meet the
Corporation's obligations under the compensation agreement. The cash value of
the life insurance policies is an unrestricted asset of the Corporation. The
estimated present value of future benefits to be paid, which is included in
other liabilities, amounted to $ 122,029 and $ 124,057 at December 31, 2003 and
2002, respectively. Total annual expense for this deferred compensation plan was
$ 12,325 for 2003, $ 12,456 for 2002, and $ 19,064 for 2001.
The Corporation also has a supplemental discretionary deferred
compensation plan for executive officers and directors. The plan is funded
annually with salary and fee reductions which are placed in a trust account
invested by the Corporation's trust department. Total amount contributed to the
plan was $ 58,800, $ 27,050, and $ 44,300, for 2003, 2002, and 2001,
respectively.
The Corporation adopted three supplemental retirement and salary
continuation plans for directors and executive officers. These plans are funded
with single premium life insurance on the plan participants. The cash value of
the life insurance policies is an unrestricted asset of the Corporation. The
estimated present value of future benefits to be paid totaled $ 952,296 and
$ 744,251 at December 31, 2003 and 2002, respectively, which is included in
other liabilities. Total annual expense for these plans amounted to $ 245,460,
$ 257,468, and $ 175,460, for 2003, 2002, and 2001, respectively.
NOTE 10. STOCK COMPENSATION PLANS
During 2000 the Corporation implemented two stock option plans (one for
employees and one for nonemployee directors). Under the Corporation's stock
option plans the Corporation may grant options to its directors, officers, and
employees for up to 253,575 shares of common stock. Both incentive stock
options and nonqualified stock options may be granted under the plans. The
exercise price of each option equals the market price of the Corporation's stock
on the date of grant and an option's maximum term is ten years.
A summary of the status of the Corporation's stock option plans at
December 31, 2003, 2002, and 2001 is presented below:
Shares Weighted Shares Weighted Shares Weighted
Average Average Average
Exercise Price Exercise Exercise Price
Price
- - - - - - - 2003 - - - - - - - - - - - 2002 - - - - - - - - - - - - - 2001 - - - - -
Outstanding at beginning of 67,363 $ 37.56 43,092 $ 35.31 21,191 $ 34.26
year
Granted 24,514 53.70 24,822 41.40 22,171 36.32
Exercised 1,102 34.01 0 0 270 35.83
Forfeited 0 0 551 34.01 0 0
------- ------- ------- ------- ------- -------
Options exercisable at year end 90,775 $ 41.97 67,363 $ 37.56 43,092 $ 35.31
======= ======= ======= ======= ======= =======
Weighted-average fair value of
options granted during the
year $ 13.79 $ 13.01 $ 13.75
======= ======= =======
Information pertaining to options outstanding at December 31, 2003 is as
follows:
- - - - - - - - - - - - Options Outstanding - - - - - - - - - - - - Options Exercisable - -
- - - - -
Exercise Prices Number Weighted Average Weighted Number Weighted
Outstanding Remaining Average Exercisable Average
Contractual Life Exercise Exercise Price
Price
$ 35.83 2,626 6.25 years $ 35.83 2,626 $ 35.83
$ 34.01 16,642 6.50 years $ 34.01 16,642 $ 34.01
$ 35.95 2,888 7.25 years $ 35.95 2,888 $ 35.95
$ 36.37 19,283 7.50 years $ 36.37 19,283 $ 36.37
$ 37.38 2,776 8.25 years $ 37.38 2,776 $ 37.38
$ 41.90 22,046 8.50 years $ 41.90 22,046 $ 41.90
$ 45.79 2,264 9.25 years $ 45.79 2,264 $ 45.79
$ 54.51 22,250 9.50 years $ 54.51 22,250 $ 54.51
------ ------
Outstanding at
end of year 90,775 8.07 years $ 41.97 90,775 $ 41.97
====== ======
The fair value of each option granted is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted-average
assumptions:
Years Ended December 31,
2003 2002 2001
Dividend yield 1.4% 1.6% 1.5%
Expected life 9.47 years 9.47 years 8.47 years
Expected volatility 20.84% 28.36% 19.77%
Risk-free interest rate 3.40% 3.50% 5.33%
NOTE 10. STOCK COMPENSATION PLANS (Continued)
The Corporation accounts for the plans under the recognition and
measurement principles of APB Opinion No. 25 and related Interpretations. No
stock-based employee compensation cost is reflected in net income for options
granted since all options granted under the plan had an exercise price equal to
the market value of the underlying common stock on the date of grant. The
following table illustrates the effect on net income and earnings per share if
the Corporation had applied the fair value recognition provisions of FASB
Statement No.123 to stock-based employee compensation.
Years Ended December 31,
2003 2002 2001
(In thousands, except per share data)
Net income As reported $ 6,980 $ 5,915 $ 5,092
Pro forma 6,757 5,702 4,891
Basic earnings per share As reported $ 2.76 $ 2.36 $ 2.05
Pro forma 2.67 2.27 1.97
Diluted earnings per share As reported $ 2.68 $ 2.30 $ 2.02
Pro forma 2.59 2.22 1.94
During 2000 the Corporation implemented an employee stock purchase plan
under which 82,688 shares of common stock have been reserved for issuance to
employees. The number of shares which may be issued to each participant is
determined annually, based on individual earnings, and their cost is equal to
85% of the fair market value as established by the average of the average of the
daily high bid and daily low offer quotations for the shares reported in the OTC
Bulletin Board service, during the ten trading days immediately preceding the
date of purchase. If no bid or offer quotation for the shares is reported
through the OTC Bulletin Board service during the ten business day period, the
fair market value is the price of the last trade reported through the OTC
Bulletin Board service prior to the purchase date. A total of 73,240 shares of
common stock remained reserved at December 31, 2003 for future grants under the
plan. Employees purchased 4,281, 2,076, and 2,132 shares at a weighted average
price of $ 39.41, $ 34.59, and $ 29.53 per share in 2003, 2002, and 2001,
respectively.
Shares of common stock registered and available for issuance through
approved plans at December 31, 2003 are as follows:
Number
of Shares
Stock option plans 161,428
Employee stock purchase plan 73,240
Dividend reinvestment plan 375,845
-------
610,513
=======
NOTE 11. INCOME TAXES
The components of federal income tax expense are summarized as follows:
(Dollars in thousands) 2003 2002 2001
Current year provision $ 2,788 $ 2,356 $ 2,051
Deferred income taxes
(benefits) ( 110) ( 131) ( 113)
------- ------- -------
Net federal income tax expense $ 2,678 $ 2,225 $ 1,938
======= ======= =======
Federal income taxes were computed after reducing pretax accounting income
for non-taxable income in the amount of $ 1,835,294, $ 1,857,654, and
$ 1,392,288 for 2003, 2002, and 2001, respectively.
A reconciliation of the effective applicable income tax rate to the
federal statutory rate is as follows:
2003 2002 2001
Federal income tax rate 34.0% 34.0% 34.0%
Reduction resulting from:
Nontaxable income 6.3 6.7 6.4
----- ---- -----
Effective income tax rate 27.7% 27.3% 27.6%
==== ==== ====
Deferred tax liabilities have been provided for taxable temporary
differences related to accumulated depreciation and unrealized gains on
available for sale securities. Deferred tax assets have been provided for
deductible temporary differences related to the allowance for loan losses,
directors' deferred compensation and unrealized losses on available for sale
securities. The net deferred tax assets (liabilities) included in the
accompanying consolidated balance sheets include the following components:
(Dollars in thousands) 2003 2002
Total deferred tax assets $ 1,902 $ 1,664
Total deferred tax liabilities ( 1,450) ( 1,802)
------- --------
Net deferred tax asset (liability) $ 452 ($ 138)
======= ========
The Corporation has not recorded a valuation allowance for deferred tax
assets as they feel that it is more likely than not that they will be ultimately
realized.
-12-
NOTE 11. INCOME TAXES (Continued)
The tax effects of each type of significant item that gave rise to
deferred taxes are:
(Dollars in thousands) 2003 2002
Net unrealized losses (gains) on securities available for ($ 584) ($ 1,064)
sale
Depreciation ( 866) ( 738)
Deferred compensation 205 187
Allowance for loan losses 1,373 1,224
Retirement plans and salary continuation 324 253
------- --------
Net deferred tax asset (liability) $ 452 ($ 138)
NOTE 12. DEPOSITS
Included in interest bearing deposits at December 31 are NOW account
products with balances totaling $ 146,627,000 and $ 137,963,000 for 2003 and
2002, respectively. Also included in interest bearing deposits at December 31,
2003 and 2002 are money market account products with balances totaling
$ 29,641,000 and $ 19,228,000, respectively.
At December 31, 2003 and 2002 time deposits of $ 100,000 and over
aggregated $ 18,845,000 and $ 17,846,000, respectively. Interest expense
on time deposits of $ 100,000 and over was $ 546,000, $ 710,000, and
$ 1,336,000 for 2003, 2002,and 2001, respectively.
At December 31, 2003 the scheduled maturities of certificates of deposit
are as follows:
2004 $ 48,968
2005 17,477
2006 21,675
2007 8,760
2008 and thereafter 779
--------
$ 97,659
========
The Corporation accepts deposits of the officers and directors of the
Corporation and its subsidiary on the same terms, including interest rates, as
those prevailing at the time for comparable transactions with unrelated persons.
The aggregate dollar amount of deposits of officers and directors totaled
$ 992,000 and $ 634,000 at December 31, 2003 and 2002, respectively.
Total overdrafts of the Bank of $ 343,000 and $ 90,000 at December 31,
2003 and 2002, respectively, were reclassified as loans for financial reporting
purposes.
NOTE 13. LIABILITIES FOR BORROWED MONEY
Federal funds purchased and securities sold under agreements to repurchase
generally mature within one day from the transaction date. Information
concerning securities sold under agreements to repurchase is summarized as
follows:
2003 2002
Average balance during the year $ 23,014,000 $ 24,057,000
Average interest rate during the year 1.04% 1.66%
Maximum month-end balance during the year $ 29,440,000 $ 29,185,000
Securities underlying the agreements at year-
end:
Carrying value $ 39,152,000 $ 38,184,000
Estimated fair value $ 39,640,000 $ 40,000,000
At December 31, the Corporation had notes outstanding with the Federal
Home Loan Bank of Pittsburgh as follows:
- - - - - - - - - Amount - - - - - - - Maturity Interest Convertible Frequency & Basis
- - Date Rate to for Adjustable
Adjustable Rate
Rate
2003 2002
$ 1,000,000 $ 1,000,000 1/04 6.42% Fixed rate
0 1,000,000 4/03 6.58% Fixed rate
5,000,000 5,000,000 2/12 4.70% (1)
7,500,000 7,500,000 9/08 5.06% 9/15/03 (2) Quarterly based on 3 months
LIBOR plus .15%
5,000,000 5,000,000 10/08 4.66% 10/7/03 (2) Quarterly based on 3 months
LIBOR plus .15%
5,000,000 5,000,000 2/11 4.50% 2/7/02 (2) Quarterly based on 3 months
LIBOR plus .19%
3,000,000 3,000,000 3/11 3.94% 3/25/02 (2) Quarterly based on 3 months
LIBOR plus .13%
5,000,000 0 5/06 2.08% Fixed Rate
1,000,000 0 5/05 1.67% Fixed Rate
1,848,130 0 5/10 2.85% Fixed Rate
1,778,980 0 5/08 2.43% Fixed Rate
350,000 350,000 4/20 7.40% Fixed Rate
350,000 350,000 4/05 7.35% Fixed Rate
------------ ------------
$ 36,827,110 $ 28,200,000
-13-
NOTE 13. LIABILITIES FOR BORROWED MONEY (Continued)
(1) The 3 month LIBOR is evaluated quarterly and the loan converts to an
adjustable rate if the 3 month LIBOR is greater than 8%. The rate
would then adjust quarterly based on 3 month LIBOR plus .20%.
(2) The rate can adjust to an adjustable rate based on market rates.
Interest rates are fixed, but, as indicated above, some of the notes can
convert to adjustable rates. Interest only is paid on a monthly basis. The
notes contain prepayment penalty charges, but management has no intention to pay
off early.
Two of the above borrowings are term notes that require monthly principal
reductions of the note balance. The aggregate amount of future principal
payments required on these two notes at December 31, 2003 is as follows:
2004 $ 652,538
2005 669,718
2006 687,354
2007 705,457
2008 474,497
Thereafter 437,546
-----------
$ 3,627,110
===========
The Corporation also has available a $ 15 million line of credit with the
Federal Home Loan Bank of Pittsburgh. The interest rate is variable and can
change daily based on FHLB's cost of borrowing. Collateral for all outstanding
advances and the line consists of certain securities and the Corporation's 1-4
family mortgage loans totaling $ 188,944,000 and $ 151,165,000 at December 31,
2003 and 2002, respectively. The Corporation also has available a line of
credit with Atlantic Central Bankers Bank of $ 6 million at December 31, 2003
and 2002. The ACBB line of credit is unsecured and the rate is based on the
daily Federal Funds rate. There were no borrowings under either line of credit
at December 31, 2003 on 2002.
Also included in other borrowed funds are borrowings against certain life
insurance policies that are used to fund deferred compensation benefits for
certain directors. Interest rates are fixed at 8%. Collateral is the cash
surrender value of the policies as disclosed in Note 9. The total balance of
these loans was $ 366,000 and $ 339,000 at December 31, 2003 and 2002,
respectively.
Total interest on borrowed funds charged to operations was $ 1,498,734,
$ 1,517,619, and $ 1,420,799, for 2003, 2002, and 2001, respectively.
NOTE 14. ORRSTOWN FINANCIAL SERVICES, INC. (PARENT COMPANY ONLY) FINANCIAL
INFORMATION
The following are the condensed balance sheets, income statements and
statements of cash flows for the parent company:
Balance Sheets
December 31
(Dollars in thousands) 2003 2002
Assets
Cash $ 1,385 $ 1,312
Securities available for sale 2,794 2,238
Investment in wholly-owned subsidiaries 40,043 35,594
Property and equipment (net of depreciation) 0 1
Other assets 32 71
-------- --------
Total assets $ 44,254 $ 39,216
======== ========
Liabilities
Accrued expenses $ 593 $ 489
Deferred taxes 126 65
Notes payable 700 700
-------- --------
Total liabilities 1,419 1,254
-------- --------
Shareholders' Equity
Common stock, no par value - $ .1041 stated 264 250
value per share, 10,000,000 shares
authorized with 2,537,011 shares issued at
December 31, 2003; 2,398,405 shares issued
at December 31, 2002
Additional paid-in capital 32,928 25,913
Retained earnings 8,509 9,750
Accumulated other comprehensive income 1,134 2,049
-------- --------
Total shareholders' equity 42,835 37,962
-------- --------
Total liabilities and shareholders' equity $ 44,254 $ 39,216
======== ========
-14-
NOTE 14. ORRSTOWN FINANCIAL SERVICES, INC. (PARENT COMPANY ONLY) FINANCIAL
INFORMATION (Continued)
Income Statements
Years Ended December 31
2003 2002 2001
(Dollars in thousands)
Income
Dividends from wholly-owned subsidiary $ 1,415 $ 1,010 $ 1,000
Other interest and dividend income 134 130 121
Other income 92 29 ( 6)
Gain on sale of investment securities 128 6 1
------- ------- -------
Total Income 1,769 1,175 1,116
------- ------- -------
Expenses
Interest on borrowings 52 52 52
Other expenses 190 179 161
------- ------- -------
Total Expenses 242 231 213
------- ------- -------
Income before income taxes and equity in 1,527 944 903
undistributed income of subsidiaries
Income tax expense (benefit) 30 ( 29) ( 39)
------- ------- -------
Income before equity in undistributed income 1,497 973 942
of subsidiaries
------- ------- -------
Equity in undistributed income of Subsidiaries
Net income of subsidiaries 6,898 5,952 5,150
Less: dividends ( 1,415) ( 1,010) ( 1,000)
------- ------- -------
Equity in undistributed net income of
subsidiaries 5,483 4,942 4,150
------- ------- -------
Net income $ 6,980 $ 5,915 $ 5,092
======= ======= =======
Statements of Cash Flows
Years Ended December 31
(Dollars in thousands) 2003 2002 2001
Cash flows from operating activities:
Net income $ 6,980 $ 5,915 $ 5,092
Adjustments to reconcile net income to cash
provided by operating activities:
Security (gains) ( 128) ( 6) ( 1)
Equity in undistributed income of subsidiary ( 5,483) ( 4,942) ( 4,150)
Increase (decrease) in other liabilities 104 95 48
(Increase) decrease in other assets 40 ( 14) 27
-------- -------- --------
Net cash provided by operating activities 1,513 1,048 1,016
-------- -------- --------
Cash flows from investing activities:
Purchase of available for sale securities ( 791) ( 329) ( 127)
Sales of available for sale securities 543 208 120
Purchases of property and equipment 0 0 ( 2)
Sales of property and equipment 0 5 100
-------- -------- --------
Net cash provided (used) by investing ( 248) ( 116) 91
activities
-------- -------- --------
Cash flows from financing activities:
Cash dividends paid ( 2,126) ( 1,722) ( 1,411)
Cash paid in lieu of fractional stock ( 22) 0 ( 20)
dividends
Proceeds from sale of stock 956 838 1,009
-------- -------- --------
Net cash provided (used) by financing ( 1,192) ( 884) ( 422)
activities
-------- -------- --------
Net increase (decrease) in cash 73 48 685
Cash, beginning balance 1,312 1,264 579
-------- -------- --------
Cash, ending balance $ 1,385 $ 1,312 $ 1,264
======== ======== ========
-15-
NOTE 15. REGULATORY MATTERS
Dividends paid by Orrstown Financial Services, Inc. are generally provided
from the subsidiary bank's dividends to the parent company. Under provisions of
the Pennsylvania Banking Code, cash dividends may be paid from accumulated net
earnings (retained earnings) as long as minimum capital requirements are met.
The minimum capital requirements stipulate that the bank's surplus or additional
paid-in capital be equal to the amount of capital. Orrstown Bank is well above
these requirements and the balance of $ 32,734,000 in its retained earnings at
December 31, 2003 is fully available for cash dividends. Orrstown Financial
Services' balance of retained earnings at December 31, 2003 is $ 8,509,000 and
would be available for cash dividends, although payment of dividends to such
extent would not be prudent or likely. The Federal Reserve Board, which
regulates bank holding companies, establishes guidelines which indicate that
cash dividends should be covered by current period earnings.
The Corporation is also subject to various regulatory capital requirements
administered by federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory, and possibly additional
discretionary actions by regulators that, if undertaken, could have a direct
material effect on the Corporation's financial statements. Under capital
adequacy guidelines, the Corporation is required to maintain minimum capital
ratios. The leverage ratio compares capital to total adjusted balance sheet
assets, while the risk-based ratios compare capital to risk-weighted assets and
off-balance-sheet activity in order to make capital levels more sensitive to
risk profiles of individual banks. A comparison of Orrstown Financial Services'
capital ratios to regulatory minimums at December 31 is as follows:
Orrstown Financial Regulatory
Services Minimum
2003 2002 Requirements
Leverage ratio 8.92% 8.78% 4%
Risk-based capital ratios:
Tier I (core capital) 12.15% 12.68% 4%
Combined Tier I and Tier II (core
capital plus allowance for loan
losses) 13.38% 13.94% 8%
As of December 31, 2003 the most recent notification, from the Federal
Reserve Board, categorized the Corporation as well capitalized under the
regulatory framework for prompt corrective action. There are no conditions or
events since that notification that management believes have changed the
Corporation's category.
NOTE 16. LEASES
The Corporation leases land and building space associated with certain
branch offices, remote automated teller machines, and certain data processing
equipment under agreements which expire at various times from 2004 through 2008.
Total rent expense charged to operations in connection with these leases was $
218,769, $ 180,766, and $ 172,309 for 2003, 2002, and 2001, respectively.
The total minimum rental commitments under operating leases at
December 31, 2003 are as follows:
Due in the year ending December 31:
2004 $ 141,169
2005 80,920
2006 81,539
2007 78,695
2008 71,862
---------
$ 454,185
=========
NOTE 17. COMPENSATING BALANCE ARRANGEMENTS
The Corporation maintains deposit balances at several correspondent banks
which provide check collection and item processing services to the Corporation.
The balances with these correspondent banks, at times, exceed federally insured
limits, which management considers to be a normal business risk.
Required deposit balances at the Federal Reserve were $ 65,000 at both
December 31, 2003 and 2002. Required deposit balances at Atlantic Central
Bankers Bank were $ 540,000 at both December 31, 2003 and 2002.
-16-
NOTE 18. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of the Corporation's financial instruments were
as follows at December 31:
- - - - 2003 - - - - - - - - - 2002 - - - - -
(Dollars in thousands) Carrying Fair Carrying Fair
Amount Value Amount Value
FINANCIAL ASSETS
Cash, due from banks, and short-term
investments $ 13,284 $ 13,284 $ 11,751 $ 11,751
Federal funds sold 3,829 3,829 8,217 8,217
Securities available for sale 89,074 89,074 90,106 90,106
Restricted bank stocks 2,912 2,912 2,268 2,268
Loans 345,054 281,391
Allowance for loan losses ( 4,161) ( 3,734)
--------- --------
Net loans 340,893 344,897 277,657 286,073
Accrued interest receivable 1,647 1,647 1,606 1,606
--------- --------- --------- ---------
Total financial assets $ 451,639 $ 455,643 $ 391,605 $ 400,021
========= ========= ========= =========
FINANCIAL LIABILITIES
Deposits $ 358,643 $ 360,997 $ 319,168 $ 321,156
Short-term borrowed funds 29,440 29,440 20,808 20,808
Long-term borrowed funds 37,193 38,497 28,539 29,942
Accrued interest payable 397 397 403 403
--------- --------- --------- ---------
Total financial liabilities $ 425,673 $ 429,331 $ 368,918 $ 372,309
========= ========= ========= =========
NOTE 19. SUBSEQUENT EVENT
On January 2, 2004, the Board of Directors of Orrstown Financial
Services, Inc. approved a 2-for-1 stock split payable February 10, 2004. Under
this split, shareholders will receive one additional share of stock for each
share owned.
-17-
Management's Discussion and Analysis of Consolidated
Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with the
selected supplementary financial information
presented in this report.
Summary
For the year ended December 31, 2003, Orrstown Financial Services, Inc. (the
Corporation) and its wholly owned subsidiary Orrstown Bank (the Bank) recorded
net income of $ 6,980,000, an increase of 18.0% over 2002 earnings of
$ 5,915,000, which was a 16.2% increase over net income of $ 5,092,000 in 2001.
Net income per share (EPS) has increased over this time period from $ 2.05 in
2001 to $ 2.36 in 2002 and $ 2.76 in 2003. The per share amounts have been
restated to reflect the 5% stock dividend paid to shareholders on September 15,
2001 and the 5% stock dividend paid to shareholders on May 30, 2003.
The Corporation's earnings performance continues to be well above peer group
averages as measured by various ratio analyses. Two widely recognized
performance indicators are the return on average assets (ROA) and the return on
average equity (ROE). The return on average assets was 1.57% in 2003, 1.53% in
2002, and 1.50% in 2001. The return on average equity was 17.20% in 2001,
17.19% in 2002, and 17.24% in 2003. Peer averages for publicly traded community
banks with $500 million in assets or less, have been approximately 0.90% for ROA
and 10% for ROE during the past few years.
Net Interest Income
Net interest income is the amount by which interest income on earning assets
exceeds interest paid on interest bearing liabilities. The amount of net
interest income is affected by changes in interest rates, account balances or
volume and the mix of earning assets and interest bearing liabilities. Net
interest income is still the primary source of commercial bank profits despite
the continued industry wide push to build noninterest income streams.
For the year ended December 31, 2003, net interest income totaled $ 16,727,000,
an increase of $ 1,539,000, or 10.1%, over 2002. The 2002 total was
$ 15,188,000, or 14.2%, over 2001. On a taxable equivalent basis, net interest
income increased by 9.5% in 2003 and 15.2% in 2002. Marginal tax rates used in
the taxable equivalent equation were 34% for all three years presented.
The Corporation's taxable equivalent net interest spread was 3.88% in 2001,
4.06% in 2002, and 3.90% in 2003. The net interest margin, which factors in
noninterest bearing funds sources, has moved from 4.38% to 4.43% to 4.20%,
respectively. Average earning assets represented 94.0% of total average assets
in 2003, 93.5% in 2002, and 92.9% in 2001 as growth in interest bearing assets
has consistently outstripped growth in nonearning assets.
The historically low interest rate environment of 2002 continued into 2003. In
June 2003, the Federal Reserve Board cut the federal funds rate 25 basis points.
The prime lending rate followed suit, lowering from 4.25% to 4.00%, where it
stood at December 31, 2003. Volume factors were responsible for the 9.5% growth
in net interest income, on a tax equivalent basis, that was achieved during
2003. Interest earning assets grew 15.6%, or $ 56,370,000 during 2003, on an
average daily basis and interest bearing liabilities grew 14.2%, or
$ 43,722,000, on an average daily basis. Thus free funds were up by
$ 12,648,000, but net interest spread declined to 3.90% from 4.06% and net
interest margin declined from 4.43% to 4.20%. The growth of our interest
earning assets enabled us to grow net interest income during a period of spread
contraction throughout the entire industry. Our deposit mix, which is heavily
laden with variable rate transaction accounts with discretionary pricing,
enabled us to lower cost of funds and hold spreads at the aforementioned levels.
The Corporation's balance sheet is positioned to hold spreads in a flat or
slightly falling interest rate environment but is well positioned for spread
increases should there be a rising rate environment.
-18-
ANALYSIS OF NET
INTEREST INCOME
Average Balances and Interest Rates
Taxable Equivalent
Basis
2003 2002 2001
Tax Tax Tax Tax Tax Tax
Average Equivalent Equivalent Average Equivalent Equivalen Average Equivalent Equivalent
(Dollars in Thousands) Balance Interest Rate Balance Interest Rate Balance Interest Rate
ASSETS:
Interest Earning
Assets:
Federal funds sold
& interest bearing
bank balances $ 14,678 $ 158 1.08% $ 16,830 $ 277 1.65% $ 16,291 $ 500 3.07%
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
-
Investment securities:
Taxable investment
securities 63,972 2,381 3.72 54,643 2,891 5.29 51,056 3,270 6.40
Tax-exempt investment
securities 24,509 2,022 8.25 24,853 2,076 8.35 15,891 1,363 8.58
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total investment
securities 88,481 4,403 4.98 79,496 4,967 6.25 66,947 4,633 6.92
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Loans:
Taxable loans 310,311 19,444 6.27 261,114 18,473 7.07 229,815 19,117 8.32
Tax-exempt loans 3,522 252 7.16 3,182 245 7.70 3,288 290 8.82
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total Loans 313,833 19,696 6.28 264,296 18,718 7.08 233,103 19,407 8.33
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total interest-
earning 416,992 24,257 5.82 360,622 23,962 6.64 316,341 24,540 7.76
Non-Interest Earning
Assets:
Cash and due
from banks 9,580 8,853 8,242
Bank premises and
equipment 10,505 9,427 9,136
Other assets 10,604 10,229 9,542
Less allowance for
loan losses (3,944)
(3,366) (2,833)
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total $ 443,737 $385,765 $340,428
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
LIABILITIES AND SHAREHOLDERS' EQUITY:
Interest Bearing
Liabilities:
Interest bearing
demand deposits $ 170,832 $ 2,035 1.19 $136,500 $ 2,202 1.61 $ 99,103 $ 2,455 2.48
Savings deposits 26,602 140 0.53 23,558 201 0.85 20,787 301 1.45
Time deposits 97,539 2,840 2.91 94,043 3,666 3.90 102,856 5,591 5.44
Short term borrowings 23,294 243 1.04 24,057 398 1.65 24,275 909 3.74
Long term 34,013 1,499 4.41 30,400 1,518 4.99 28,279 1,421 5.02
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total interest
bearing 352,280 6,757 1.92 308,558 7,985 2.59 275,300 10,677 3.88
Non-Interest Bearing Liabilities:
Demand deposits 47,416 39,688 32,628
Other 3,550 3,111 2,888
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total 403,246 351,357 310,816
Liabilities
Shareholders' Equity 40,491 34,408 29,612
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Total $ 443,737 1.62 $385,765 2.21 $340,428 3.38
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Net interest income/net
interest spread $ 17,500 3.90% $ 15,977 4.06% $ 13,863 3.88%
---------- ----------- ----- --------- ----------- ----- --------- --------- -----
Net interest margin 4.20% 4.43% 4.38%
----- ----- -----
-19-
Noninterest Income and Expenses
Other income, excluding securities gains, increased $ 894,000, or 16.7% in 2003.
Loan demand and growth was quite good during the year, thus increasing loan fees
in general. The Bank's entry into the Federal Home Loan Bank of Pittsburgh's
Mortgage Partnership Program, in May 2003, plus an abundance of residential
mortgage refinancing opportunities during the year, allowed an increase of
$ 238,000 in secondary mortgage market revenue in 2003 versus 2002. Continued
balance sheet growth provided deposit service charge opportunities as well.
Fees from debit card usage, bounce protection and merchant accounts grew nicely
during 2003. The growth in debit card activity outstripped the cutback in
interchange fees that was suffered on August 1, 2003. The debit card area will
require close analysis during 2004.
Other expenses rose $ 1,322,000, or 11.3% in 2003 due primarily to the
Corporation's continued above average growth pattern. In addition, the Bank
opened its twelfth full service branch during May 2003 in Chambersburg,
Pennsylvania. This became the fourth branch in the Chambersburg Region, where
the Bank has been gaining market share. Capital expenditure and additional
personnel were required to open the new branch plus accommodate the
Corporation's overall growth. Commission based employees in the loan and asset
management areas had a productive year, adding to the growth in salaries and
benefits. Despite the 11.3% increase in noninterest expenses, the Corporation
was able to generate an efficiency ratio of 54.6% for 2003, following 54.5% for
2002 and 55.6% during 2001. The Corporation has consistently maintained an
efficiency ratio below 60%, which is an enviable level for a community bank with
assets under $ 500 million.
The table that follows provides additional information regarding noninterest
income and noninterest expense changes over the past three years:
ANALYSES OF NONINTEREST INCOME AND EXPENSES
Year Ended December 31 % Change
(Dollars in Thousands) 2003 2002 2001 2003-2002 2002-2001
OTHER INCOME:
Service charges on deposit accounts $ 2,628 $ 2,257 $ 1,890 16.4% 19.4%
Loan service charges and fees 848 485 445 74.8% 9.0%
ATM fees 167 177 186 -5.6% -4.8%
Other service charges, commissions and fees 223 252 113 -11.5% 123.0%
Trust department income 1,463 1,386 1,219 5.6% 13.7%
Brokerage income 485 394 261 23.1% 51.0%
Cash surrender value increases 335 327 302 2.4% 8.3%
Other operating income 84 61 53 37.7% 15.1%
Subtotal before securities transactions 6,233 5,339 4,469 16.7% 19.5%
--------- --------- -------- ------ ------
Securities gains (losses) 199 21 11 847.6% 90.9%
--------- --------- -------- ------ ------
Total other income $ 6,432 $ 5,360 $ 4,480 20.0% 19.6%
--------- --------- -------- ------ ------
OTHER EXPENSES:
Salaries 4,456 4,035 3,506 10.4% 15.1%
Employee benefits 2,331 1,958 1,645 19.1% 19.0%
Occupancy and equipment expenses 2,109 1,800 1,676 17.2% 7.4%
Data processing expenses 535 493 435 8.5% 13.3%
ATM expenses 203 176 200 15.3% -12.0%
Telephone 230 265 249 -13.2% 6.4%
Printing and supplies 268 246 232 8.9% 6.0%
Postage 191 189 174 1.1% 8.6%
Directors fees 308 253 241 21.7% 5.0%
Advertising 267 218 196 22.5% 11.2%
Pennsylvania shares tax 287 245 211 17.1% 16.1%
Contributions 194 251 69 -22.7% 263.8%
Other operating expenses 1,631 1,559 1,413 4.6% 10.3%
--------- --------- -------- ------ ------
Total operating expenses $ 13,010 $ 11,688 $10,247 11.3% 14.1%
--------- --------- -------- ------ ------
noninterest income as a % of
noninterest expense 49.4% 45.9% 43.7%
-20-
Federal Income Taxes
The Corporation's effective federal income tax rate for 2003 was 27.7%, as
compared to 27.3% in 2002 and 27.6% in 2001. Corporate income tax rates for
2004 are forecast to be similar but slightly above 2003 levels. The Corporation
is firmly entrenched in the 34% bracket so all taxable income will be taxed at
34% in 2004.
Asset Quality and Credit Risk Analysis
The quality of the Corporation's asset structure continues to be strong. A
substantial amount of time is devoted by management to overseeing the investment
of funds in loans and securities and the formulation of policies directed toward
the profitability and minimization of risk associated with the investments.
Credit Risk Analysis
The Bank follows generally conservative lending practices and continues to carry
a high quality loan portfolio with no unusual or undue concentrations of credit.
No loans are extended to nondomestic borrowers or governments, consistent with
past practice and policy. Net charge-offs historically have been quite low,
when compared to industry standards, and represented only .02% of average
outstanding loans during 2003 and .03% of average 2002 loans. Nonperforming
loans, as represented by nonaccrual and restructured items, were .45% and .54%
of outstanding loans at December 31, 2003 and 2002, respectively. Loans 90 days
or more past due and still accruing represented .68% and .51% of outstanding
loans at December 31, 2003 and 2002, respectively.
Allowance for Loan Losses
Historically, the Corporation has had an enviable record regarding its control
of loan losses, but lending is a banking service that inherently contains
elements of risk. The Bank policy related to the allowance for loan losses is
considered to be a critical accounting policy because the allowance for loan
losses represents a particularly sensitive accounting estimate. The amount of
the allowance is based on management's evaluation of the collectibility of the
loan portfolio, including the nature of the loan portfolio, credit
concentrations, trends in historical loss experience, specific impaired loans,
and economic conditions. The allowance for loan losses is established through a
provision for loan losses charged to expense. Loans are charged against the
allowance for loan losses when management believes that the collectibility of
the principal is unlikely. The allowance is an amount that management believes
will be adequate to absorb possible losses on existing loans that may become
uncollectible, based on evaluations of the collectibility of loans and prior
loan loss experience. The evaluations take into consideration such factors as
changes in the nature and volume of the loan portfolio, overall portfolio
quality, review of specific problem loans, and current economic conditions that
may affect the borrowers' ability to pay.
Through this review and evaluation process, an amount deemed adequate to meet
current growth and future loss expectations is charged to operations. The
provision for loan losses amounted to $ 491,000, $ 720,000, and $ 504,000 for
2003, 2002 and 2001, respectively. These provisions compared to net charge-offs
of $ 64,000, $ 90,000 and $ 91,000 for 2003, 2002 and 2001, respectively. The
allowance for loan losses was increased 11.4% during 2003 while loans increased
22.6%. The reserve at December 31, 2003 represented 1.21% of loans outstanding.
Net charge-offs for 2003 represented only .02% of average loans outstanding.
The reserve at December 31, 2003 represented 65.0 years of coverage based upon
2003 net charge-offs and 3,201% of nonaccrual loans. In addition, approximately
50% of the allowance was unallocated under internal evaluation procedures as of
December 31, 2003.
SUMMARY OF LOAN LOSS EXPERIENCE
Year Ended December 31
(Dollars in Thousands) 2003 2002 2001 2000 1999
Amount of loans outstanding at end of $ 345,054 $ 281,391 $ 249,816 $ 209,181 $ 180,691
period
---------- --------- ---------- --------- -----------
Daily average loans outstanding $ 313,833 $ 264,296 $ 233,103 $ 192,902 $ 169,458
---------- --------- ---------- --------- -----------
Balance of allowance for possible loan losses
at beginning of period $ 3,734 $ 3,104 $ 2,691 $ 2,455 $ 1,971
Loans charged off 81 101 98 129 128
Recoveries of loans previously charged 17 11 7 5 65
off
---------- --------- ---------- --------- -----------
Net loans charged off (recovered) 64 90 91 124 63
Additions to allowance charged to 491 720 504 360 547
expense
---------- --------- ---------- --------- -----------
Balance at end of period $ 4,161 $ 3,734 $ 3,104 $ 2,691 $ 2,455
---------- --------- ---------- --------- -----------
Ratio of net charge-offs to
average loans outstanding 0.02% 0.03% 0.04% 0.06% 0.04%
---------- --------- ---------- --------- -----------
Ratio of reserve to gross loans
outstanding at December 31 1.21% 1.33% 1.24% 1.29% 1.36%
---------- --------- ---------- --------- -----------
-21-
Risk Elements
Nonperforming assets are comprised of nonaccrual and restructured loans and
other real estate owned (OREO) not including bank premises. OREO represents
property acquired through foreclosure or settlements of loans and is carried at
the lower of the principal amount of the loan outstanding at the time acquired
or the estimated fair value of the property. The excess, if any, of the
principal balance at the time acquired over the carrying amount is charged
against the reserve for loan losses. The Bank's loan loss history has been much
better than peer standards and analysis of the current credit risk position is
favorable. The allowance for loan losses is ample given the current composition
of the loan portfolio and adequately covers the credit risk management sees
under present economic conditions. Management is prepared to make any reserve
adjustments that may become necessary as economic conditions change.
NONPERFORMING ASSETS
December 31
(Dollars in Thousands) 2003 2002 2001 2000 1999
Loans on nonaccrual (cash) basis $ 130 $ 85 $ 56 $ 12 $ 64
Loans whose terms have been renegotiated to provide a
reduction or deferral of interest or principal because of a
deterioration in the financial position of the 1,410 1,428 0 0 0
borrower
OREO 211 211 211 0 0
------ -------- ----- ----- -----
Total nonperforming loans and OREO $1,751 $ 1,724 $ 267 $ 12 $ 64
------ -------- ----- ----- -----
Ratio of nonperforming assets to total loans
and OREO 0.51% 0.61% 0.11% 0.01% 0.04%
------ -------- ----- ----- -----
Ratio of nonperforming assets to total assets 0.37% 0.42% 0.07% 0.00% 0.02%
------ -------- ----- ----- -----
OTHER CREDIT RISK ELEMENTS:
Loans past due 90 or more days and still accruing $2,743 $ 1,446 $ 644 $ 814 $ 97
------ -------- ----- ----- -----
Ratio of other credit risk elements to total
loans and OREO 0.79% 0.51% 0.26% 0.39% 0.05%
------ -------- ----- ----- -----
Ratio of other credit risk elements to total assets 0.58% 0.35% 0.17% 0.26% 0.04%
------ -------- ----- ----- -----
Total nonperforming and other risk assets $4,494 $ 3,170 $ 911 $ 826 $ 161
------ -------- ----- ----- -----
Ratio of total risk assets to total loans and OREO 1.30% 1.13% 0.36% 0.39% 0.09%
------ -------- ----- ----- -----
Ratio of total risk assets to total assets 0.95% 0.77% 0.24% 0.26% 0.06%
------ -------- ----- ----- -----
Critical Accounting Estimates
The Bank policy related to the allowance for loan losses is considered to be a
critical accounting policy because the allowance for loan losses represents a
particularly sensitive accounting estimate. The amount of the allowance is
based on management's evaluation of the collectibility of the loan portfolio,
including the nature of the loan portfolio, credit concentrations, trends in
historical loss experience, specific impaired loans, and economic conditions.
The allowance for loan losses is established through a provision for loan losses
charged to expense. Loans are charged against the allowance for loan losses
when management believes that the collectibility of the principal is unlikely.
The allowance is an amount that management believes will be adequate to absorb
possible losses on existing loans that may become uncollectible, based on
evaluations of the collectibility of loans and prior loan loss experience. The
evaluations take into consideration such factors as changes in the nature and
volume of the loan portfolio, overall portfolio quality, grouping of like loans,
grading of individual loan quality, review of specific problem loans, the
examination of underlying collateral and current economic conditions that may
affect the borrowers' ability to pay.
Future Impact of Recently Issued Accounting Standards
Financial Accounting Standards Board (FASB) Statement 148, Accounting for Stock-
Based Compensation-Transition and Disclosure, an amendment of FASB 123, amends
FASB Statement No. 123, Accounting for Stock-Based Compensation, to provide
alternative methods of transition for an entity that voluntarily changes to the
fair value based method of accounting for stock-based employee compensation. It
also amends the disclosure provisions of Statement 123 to require prominent
disclosure about the effects on reported net income of an entity's accounting
policy decisions with respect to stock-based employee compensation. Finally,
this Statement amends APB Opinion No. 28, Interim Financial Reporting, to
require disclosure about those effects in interim financial information.
Management does not expect there to be a significant impact from this statement,
since they have elected not to expense options under the fair value based
method.
-22-
Future Impact of Recently Issued Accounting Standards (Continued)
Financial Accounting Standards Board Statement 150 - Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and Equity, was
issued May of 2003 and is effective for financial instruments entered into or
modified after May 31, 2003. This statement establishes standards for how an
issuer classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an issuer
classify a financial instrument that is within its scope as a liability (or an
asset in some circumstances). Many of those instruments were previously
classified as equity. Provisions of this statement are consistent with the
Board's proposal to revise the definition of liabilities to encompass certain
obligations that a reporting entity can or must settle by issuing its own
equity shares, depending on the nature of the relationship established between
the holder and the issuer. Management does not expect there to be a
significant impact from this statement since the Corporation currently does
not have any obligations requiring settlement by the issuance of its own
shares of stock.
In December 2003, the Financial Accounting Standards Board released Financial
Interpretation No. 46, Consolidation of Variable Interest Entities (FIN 46).
This Interpretation of Accounting Research Bulletin No. 51, Consolidated
Financial Statements, addresses consolidation by business enterprises of
variable interest entities, which have one or more of the following
characteristics:
1. The equity investment at risk is not sufficient to permit the entity to
finance its activities without additional subordinated financial support
provided by any parties, including the equity holders.
2. The equity investors lack one or more of the following essential
characteristics of a controlling financial interest:
a. The direct or indirect ability to make decisions about the entity's
activities through voting rights or similar rights;
b. The obligation to absorb the expected losses of the entity;
c. The right to receive the expected residual returns of the entity.
3. The equity investors have voting rights that are not proportionate to
their economic interest, and the activities of the entity involve or
are conducted on behalf of an investor with the disproportionately
small voting interest.
Management does not expect this interpretation to have a significant impact on
the Corporation's liquidity, capital resources or operations. The Corporation
has investments in entities that will be guided by FIN 46 but none that appear
to have the aforementioned characteristics.
Liquidity, Rate Sensitivity and Interest Rate Risk Analysis
The primary function of asset/liability management is to assure adequate
liquidity and rate sensitivity. Liquidity management involves the ability to
meet the cash flow requirements of customers who may be either depositors
wanting to withdraw funds or borrowers needing assurance that sufficient funds
will be available to meet their credit needs. Interest rate sensitivity
management requires the maintenance of an appropriate balance between interest
sensitive assets and liabilities. Interest bearing assets and liabilities that
are maturing or repricing should be adequately balanced to avoid fluctuating net
interest margins and to enhance consistent growth of net interest income through
periods of changing interest rates.
The Corporation has consistently followed a strategy of pricing assets and
liabilities according to prevailing market rates while largely matching
maturities, within the guidelines of sound marketing and competitive practices.
The goal is to maintain a predominantly matched position with very few planned
mismatches. Rate spreads will be sacrificed at times in order to enable the
overall rate sensitivity position to stay within the guidelines called for by
asset/liability management policy. Rate sensitivity is measured by monthly gap
analysis, quarterly rate shocks, and periodic simulation. Investment and
pricing decisions are made using both liquidity and sensitivity analyses as
tools. The schedule that follows reflects the degree to which the Corporation
can adjust its various portfolios to meet interest rate changes. Additionally,
the Bank is a Federal Home Loan Bank (FHLB) member, and standard credit
arrangements available to FHLB members provide increased liquidity.
-23-
Liquidity, Rate Sensitivity and Interest Rate Risk Analysis (Continued)
RATE SENSITIVITY ANALYSIS AT DECEMBER 31,
2003
Interest Sensitivity Period
After 3 After 6
Within 3 Within 6 Within 12 After
(Dollars in Thousands) Months Months Months 1 Year Total
---------- ---------- ---------- ---------- ----------
RATE SENSITIVE ASSETS (RSA):
Loans 159,625 11,387 19,878 154,164 345,054
Investment securities 12,211 7,609 11,939 60,227 91,986
Other earning assets 4,830 0 0 0 4,830
---------- ---------- ---------- ---------- ----------
Total RSA 176,666 18,996 31,817 214,391 441,870
---------- ---------- ---------- ---------- ----------
RATE SENSITIVE LIABILITIES
(RSL):
Interest bearing deposits 73,170 13,991 17,056 202,150 306,367
Short term borrowed funds 29,440 0 0 0 29,440
Long term borrowed funds 1,000 0 0 36,193 37,193
---------- ---------- ---------- ---------- ----------
Total RSL 103,610 13,991 17,056 238,343 373,000
---------- ---------- ---------- ---------- ----------
RATE SENSITIVITY GAP:
Period 73,056 5,005 14,761 (23,952) 68,870
Cumulative 73,056 78,061 92,822 68,870
GAP AS A PERCENT OF TOTAL
ASSETS:
Period 15.47% 1.06% 3.12%
Cumulative 15.47% 16.52% 19.65%
RSA/RSL cumulative 1.71 1.66 1.69
The asset biased, or positive, gap position indicates that earnings are
naturally enhanced, or more easily maintained, in a rising rate environment.
This indicates that the balance sheet is well positioned to react to anticipated
rate increases during 2004 and positioned adequately to avoid material earnings
damage if rates do not rise.
Capital Adequacy and Regulatory Matters
The Corporation maintains a strong capital base which provides adequate
resources to absorb both normal and unusual risks inherent to the banking
business. Internal capital generation, net income retained after the
declaration of dividends, plus dividend reinvestment participation, have been
the primary methods employed to increase capital accounts. Total shareholders'
equity rose $ 4,873,000 during 2003, or an increase of 12.8% over 2002. This
followed growth of 21.8% and 16.8% during 2002 and 2001, respectively. The 2003
increase would have been greater were it not for a $ 915,000 reduction in
unrealized gain on securities. The increasing earnings stream during this
period has allowed the Corporation to steadily increase cash dividends paid to
shareholders. In 2003 cash dividends rose $ 403,000, or 23.4% over 2002 levels
while net income rose 18.0% during the period. This followed a 22.1% increase
in dividend payout for 2002 versus 2001. Dividends per share have moved from
$ 0.568 to $ 0.686 to $ 0.841 for 2001 through 2003, respectively.
CAPITAL AND DIVIDEND RATIOS
(Dollars in Thousands) 2003 2002 2001
At December 31:
Shareholders' equity $ 42,835 $ 37,962 $ 31,162
Equity / assets 9.07% 9.25% 8.34%
For the Year:
Average equity / average 9.13% 8.92% 8.70%
assets
Dividend payout 30.45% 29.12% 27.71%
Return on average equity 17.24% 17.19% 17.20%
Dividends paid $ 2,126 $ 1,723 $ 1,411
Regulatory
Regulatory Capital Measures: Minimums
Tier I capital ratio 12.2% 12.7% 12.3% 4.0%
Total (Tier I and Tier II) 13.4% 13.9% 13.6% 8.0%
capital ratio
Leverage ratio 8.9% 8.8% 8.2% 4.0%
The maintenance of a strong capital base, above regulatory risk based minimums
and industry averages, has been an integral part of the Corporation's operating
philosophy. Management foresees no problem in maintaining capital ratios well
in excess of regulatory requirements.
-24-
Capital Adequacy and Regulatory Matters (Continued)
The Corporation and its banking subsidiary are subject to periodic examinations
by the Federal Reserve Bank and the Pennsylvania Department of Banking. During
2003, four examinations were conducted at the parent and subsidiary levels. The
examinations included, but were not limited to, capital adequacy, asset quality,
liquidity provisions, sensitivity to market risk, asset/liability management,
information technology activities, adherence to banking laws and regulations,
risk assessment and management practices of both the Bank and the Holding
Company, trust activities and transfer agent activities. No comments were
received from regulatory agencies which, if implemented, would have a material
effect on Orrstown Financial Services, Inc.'s liquidity, capital resources, or
operations.
Summary of Quarterly Financial Data
The unaudited quarterly results of operations for the years ended December 31, are as follows:
2003 2002
Quarter Ended Quarter Ended
(Dollars in Thousands) March June September December March June September December
Interest income $ 5,700 $ 5,884 $ 5,843 $ 6,057 $ 5,605 $ 5,727 $ 5,933 $ 5,908
Interest expense 1,702 1,716 1,667 1,672 2,062 2,034 2,037 1,852
-------- --------- ------- --------- ------- --------- ------- -------
Net interest income 3,998 4,168 4,176 4,385 3,543 3,693 3,896 4,056
Provision for loan 252 24 24 191 150 150 150 270
losses
-------- --------- ------- --------- ------- --------- ------- -------
Net interest income
after
provision for loan 3,746 4,144 4,152 4,194 3,393 3,543 3,746 3,786
losses
Securities gains 178 23 5 1 17 (6) 9
(losses) (7)
Other income 1,395 1,591 1,679 1,568 1,177 1,392 1,344 1,426
Other expense 3,119 3,218 3,228 3,445 2,688 2,813 2,993 3,194
-------- --------- ------- --------- ------- --------- ------- -------
Income before income
taxes 2,200 2,510 2,626 2,322 1,883 2,139 2,091 2,027
Applicable income taxes 656 693 891 438 549 642 509 525
-------- --------- ------- --------- ------- --------- ------- -------
Net income $ 1,544 $ 1,817 $ 1,735 $ 1,884 $ 1,334 $ 1,497 $ 1,582 $ 1,502
-------- --------- ------- --------- ------- --------- ------- -------
PER COMMON SHARE DATA:
Net income $ 0.61 $ 0.72 $ 0.69 $ 0.74 $ 0.53 $ 0.60 $ 0.63 $ 0.60
Diluted net income $ 0.60 $ 0.70 $ 0.66 $ 0.72 $ 0.52 $ 0.59 $ 0.61 $ 0.58
Dividends 0.191 0.210 0.210 0.230 0.162 0.162 0.171 0.191
PERFORMANCE STATISTICS:
Return on average 1.52% 1.67% 1.50% 1.60% 1.49% 1.60% 1.58% 1.46%
assets
Return on average 16.15% 18.38% 16.70% 17.68% 16.93% 18.08% 17.81% 16.04%
equity
Average equity / avg. 9.41% 9.08% 8.96% 9.07% 8.82% 8.82% 8.88% 9.13%
assets
All per share amounts have been adjusted to give retroactive recognition to a 5% stock dividend effective May 30, 2003.
-25-
Selected Five -Year Financial
Data
Orrstown Financial Services, Inc. and its Wholly-owned Subsidiaries
Year Ended December 31
(Dollars in Thousands) 2003 2002 2001 2000 1999
Summary of Operations
Interest income $ 23,484 $ 23,173 $ 23,978 $ 21,758 $ 18,324
Interest expense 6,757 7,985 10,677 10,318 8,074
----------- ----------- --------- --------- ----------
Net interest income 16,727 15,188 13,301 11,440 10,250
Provision for loan losses 491 720 504 360 547
----------- ----------- --------- --------- ----------
Net interest income after provision for
loan losses 16,236 14,468 12,797 11,080 9,703
Securities gains (losses) 199 21 11 114 423
Other operating income 6,233 5,339 4,469 3,628 3,158
Other operating expenses 13,010 11,688 10,247 9,113 8,218
----------- ----------- --------- --------- ----------
Income before income taxes 9,658 8,140 7,030 5,709 5,066
Applicable income tax 2,678 2,225 1,938 1,537 1,311
----------- ----------- --------- --------- ----------
Net income $ 6,980 $ 5,915 $ 5,092 $ 4,172 $ 3,755
----------- ----------- --------- --------- ----------
Per Common Share Data*
Income before taxes $ 3.82 $ 3.24 $ 2.83 $ 2.32 $ 2.07
Applicable income taxes 1.06 0.89 0.78 0.63 0.54
Net income 2.76 2.36 2.05 1.70 1.54
Diluted net income 2.68 2.30 2.02 1.69 1.54
Cash dividend paid 0.841 0.686 0.568 0.517 0.465
Book value at December 31 16.88 15.07 12.48 10.80 8.94
Average shares outstanding - 2,527,185 2,510,144 2,485,042 2,457,876 2,441,984
basic
Average shares outstanding - 2,607,769 2,566,681 2,518,041 2,469,732 2,441,984
diluted
Stock Price Statistics*
Close $ 67.00 $ 44.76 $ 37.14 $ 36.28 $ 34.47
High 68.00 47.62 42.63 39.91 36.28
Low 44.76 36.71 33.33 33.79 22.78
Price earnings ratio at close 24.3 19.0 18.1 21.4 22.4
Price to book at close 4.0 3.0 3.0 3.4 3.9
Year-End Balance Sheet Data
Total assets $ 472,393 $ 410,298 $ 373,728 $ 311,903 $ 265,053
Total loans 345,054 281,391 249,816 209,181 180,691
Total investment securities 91,986 92,374 70,125 72,053 61,964
Deposits - noninterest 52,276 42,704 39,881 31,716 25,264
bearing
Deposits - interest bearing 306,367 276,464 241,287 210,292 179,125
Total deposits 358,643 319,168 281,168 242,008 204,389
Liabilities for borrowed 66,633 49,347 58,043 40,228 36,228
money
Total shareholders' equity 42,835 37,962 31,162 26,674 21,868
Trust assets under management
market value 294,000 231,000 221,000 206,000 182,000
Performance Statistics
Average equity/average assets 9.12% 8.92% 8.70% 8.38% 8.81%
Return on average equity 17.24% 17.19% 17.20% 17.42% 17.02%
Return on average assets 1.57% 1.53% 1.50% 1.46% 1.50%
*Per share amounts have been restated to reflect:
The 5% stock dividend effective May 30, 2003
The 5% stock dividend effective September 15, 2001
The 7 1/2% stock dividend effective November 19, 1999
-26-
Market, Dividend & Investor Information
Market and Dividend Information
The common stock of Orrstown Financial Services, Inc. is traded in the over-the-
counter market under the symbol ORRF. At the close of business December 31,
2003, there were approximately 2,338 shareholders of record, with a total of
2,537,011 shares outstanding. The table below sets forth the range of high and
low quarterly sales prices and dividends declared per common share.
2003 2002
Market Price Quarterly Market Price Quarterly
High Low Divideed High Low Dividend
First quarter $48.57 $44.76 $0.191 $39.05 $36.71 $0.162
Second quarter $58.00 $46.19 $0.210 $47.62 $37.38 $0.162
Third quarter $67.50 $60.00 $0.210 $47.62 $41.90 $0.171
Fourth quarter $68.00 $63.75 $0.230 $44.76 $43.81 $0.191
$0.841 $0.686
Investor Information
Annual Meeting
The annual meeting of Orrstown Financial Services, Inc. stockholders is
scheduled for May 4, 2004 at 9:00 a.m. at Orrstown Bank, 77 East King Street,
Shippensburg, PA 17257. All stockholders are cordially invited to attend.
Annual and Quarterly Reports
Copies of the annual and quarterly reports may be obtained at any office of
Orrstown Bank, or by writing to Patricia A. Corwell, Vice President &
Shareholder Relations Officer, Orrstown Bank, P.O. Box 250, Shippensburg, PA
17257.
Form 10-K
A copy of the corporation's Form 10-K, as filed with the Securities and Exchange
Commission, may be obtained by writing to Orrstown Bank, P.O. Box 250,
Shippensburg, PA 17257.
Transfer Agent
The transfer agent for Orrstown Financial Services, Inc. is Orrstown Bank, 77
East King Street, P.O. Box 250, Shippensburg, PA 17257.
Market Makers
E.E. Powell & Co., Inc. Ryan Beck & Co., Inc.
1100 Gulf Tower 220 South Orange Avenue
Pittsburgh, PA 15219 Livingston, NJ 07039
(800) 289-7865 (800) 342-2325
Boenning & Scattergood, Inc.
Four Tower Bridge
200 Barr Harbor Drive, Suite 300
West Conshohocken, PA 19428
(800) 883-1212
Ferris, Baker Watts, Inc. Janney Montgomery Scott, LLC
100 Light Street 1801 Market Street
Baltimore, MD 21202 10th Floor
(800) 436-2000 Philadelphia, PA 19103
(800) 526-6397
-27-
Exhibit 14
ORRSTOWN FINANCIAL SERVICES, INC.
CODE OF ETHICS POLICY
FOR SENIOR FINANCIAL OFFICERS
It is the policy of Orrstown Financial Services, Inc. (ORRF) that its employees,
directors, and agents are held to the highest standards of honest and ethical
conduct when conducting the affairs of the Corporation. Because the equity
shares of ORRF are publicly traded, senior financial officers of ORRF are held
to an especially high set of ethical standards, which are further described
below. Senior financial officers of ORRF will not commit acts contrary to these
standards of ethical conduct nor shall they condone the commission of such acts
by others within the ORRF organization.
For purposes of this policy, a senior financial officer is defined as all
Regulation O executive officers along with the Chief Executive Officer (CEO),
Chief Financial Officer (CFO), Chief Accounting Officer (CAO), controller, or
any person serving in an equivalent capacity regardless of whether or not they
are designated as executive officers of the Corporation and/or Bank for
Regulation O purposes.
General Standards of Ethical Behavior
Senior financial officers will:
* Conduct their personal and professional affairs in a way that avoids both
real and apparent conflicts of interest between their interests and the
interests of the Corporation and subsidiaries.
* Refrain from engaging in any activity that would compromise their
professional ethics or otherwise prejudice their ability to carry out their
duties to the Corporation and subsidiaries.
* Communicate to executive management of the Corporation and to accountants
engaged in financial audits of the Corporation and subsidiaries, all
relevant unfavorable as well as favorable information and professional
judgments or opinions.
* Encourage open communication and full disclosure of financial information
by providing a well understood process under which management is kept
informed of financial information of importance, including any departures
from sound policy, practice, and accounting norms.
* Ensure that all relevant staff members understand the Corporation's open
communication and full disclosure standards and processes.
* Refrain from disclosing confidential information acquired in the course of
their work except where authorized, unless legally obligated to do so.
* Inform subordinates, as appropriate, regarding the confidentiality of
information acquired in the course of their work and monitor, as needed, to
ensure that subordinates maintain their confidentiality.
* Refrain from using or appearing to use confidential information acquired in
the course of their work for unethical or illegal advantage, either
personally or indirectly through others.
Standards Regarding Financial Records and Reporting
Senior Financial Officers will:
* Establish appropriate systems and procedures to ensure that business
transactions are recorded on the Corporation's book in accordance with
Generally Accepted Accounting Principals (GAAP), establishing Corporation
policy, and appropriate regulatory pronouncements and guidelines.
* Establish appropriate policies and procedures for the protection and
retention of accounting records and information as required by applicable
law, regulation, or regulatory guidelines.
* Establish and administer financial accounting controls that are appropriate
to ensure the integrity of the financial reporting process and the
availability of timely, relevant information for the safe, sound, and
profitable operation of the Corporation and subsidiaries.
* Completely disclose all relevant information reasonably expected to be
needed by the Corporation's and subsidiaries regulatory examiners and
internal and external auditors for the full, complete, and successful
discharge of their duties and responsibilities.
Exhibit 21
SUBSIDIARIES OF THE REGISTRANT
1. Orrstown Bank, Orrstown, Pennsylvania; a state-chartered bank organized
under Pennsylvania Banking Code of 1965.
2. Pennbanks Insurance Company Cell P1 is a reinsurer of credit, life and
disability insurance, which services customers of Orrstown Bank.
Exhibit 23.1
CONSENT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Orrstown Financial Services, Inc.
We consent to the incorporation by reference in to previously filed
Registration Statements (Form S-4 No. 33-18888, Form S-3 No. 333-53405, Form S-8
No. 333-33714, Form S-8 No. 333-34504, and Form S-8 No. 333-33712) of Orrstown
Financial Services, Inc. of our report dated February 4, 2004, appearing in the
2003 annual report to shareholders incorporated by reference in this Form 10-K
of Orrstown Financial Services, Inc. for the year ended December 31, 2003.
/S/ SMITH ELLIOTT KEARNS & COMPANY, LLC
--------------------------------------------------
SMITH ELLIOTT KEARNS & COMPANY, LLC
Chambersburg, Pennsylvania
March 10, 2004
Exhibit 31.1
CERTIFICATION
I, Kenneth R. Shoemaker, President and CEO, certify, that:
1. I have reviewed this annual report on Form 10-K of Orrstown Financial
Services, Inc.
2. Based on my knowledge, the annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report.
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report.
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:
(a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision to
ensure that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this annual report based on such evaluation; and
(c) disclosed in this annual report any change in the registrant's internal
control over financial reporting that occurred during the registrant's most
recent fiscal quarter that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over financial reporting.
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
registrant's auditors and the audit committee of registrant's board of directors
(or persons performing the equivalent function):
(a) all significant deficiencies and material weaknesses in the design or
operation of the internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control over
financial reporting.
By: /s/ Kenneth R. Shoemaker
----------------------------
Kenneth R. Shoemaker
President and CEO
(Principal Executive Officer)
March 10, 2004
Exhibit 31.2
CERTIFICATION
I, Bradley S. Everly, Sr. Vice President and CFO, certify, that:
1. I have reviewed this annual report on Form 10-K of Orrstown Financial
Services, Inc.
2. Based on my knowledge, the annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report.
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report.
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:
(a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision to
ensure that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this annual report based on such evaluation; and
(c) disclosed in this annual report any change in the registrant's internal
control over financial reporting that occurred during the registrant's most
recent fiscal quarter that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over financial reporting.
5. The registrant's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
registrant's auditors and the audit committee of registrant's board of directors
(or persons performing the equivalent function):
(a) all significant deficiencies and material weaknesses in the design or
operation of the internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
(b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control over
financial reporting.
By: /s/ Bradley S. Everly
----------------------------
Bradley S. Everly
Sr. Vice President and CFO
(Principal Financial Officer)
March 10, 2004
Exhibit 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OR THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Orrstown Financial Services, Inc.
(the Corporation) on Form 10-K for the period ending December 31, 2003 as filed
with the Securities and Exchange Commission on the date therein specified (the
"Report"), I, Kenneth R. Shoemaker, President and Chief Executive Officer of the
Corporation, certify, pursuant to 18 U.S.C. section 1350, as adopted pursuant to
section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the
Corporation as of and for the period covered by the report.
/s/ Kenneth R. Shoemaker
---------------------------------
Kenneth R. Shoemaker
President and Chief Executive Officer
Dated: March 10, 2004
----------------
Exhibit 32.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OR THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Orrstown Financial Services, Inc.
(the Corporation) on Form 10-K for the period ending December 31, 2003 as filed
with the Securities and Exchange Commission on the date therein specified (the
"Report"), I, Bradley S. Everly, Senior Vice President and Chief Financial
Officer of the Corporation, certify, pursuant to 18 U.S.C. section 1350, as
adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the
Corporation as of and for the period covered by the report.
/s/ Bradley S. Everly
----------------------------
Bradley S. Everly
Senor Vice President and
Chief Financial Officer
Dated: March 10, 2004
----------------