FORM 10-Q
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2008
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to .
Commission File No. 000-26719
MERCANTILE BANK CORPORATION
(Exact name of registrant as specified in its charter)
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Michigan
(State or other jurisdiction of
incorporation or organization)
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38-3360865
(IRS Employer Identification No.) |
310 Leonard Street, NW, Grand Rapids, MI 49504
(Address of principal executive offices) (Zip Code)
(616) 406-3000
(Registrants telephone number, including area code)
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 þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o |
Accelerated filer þ |
Non-accelerated filer o (Do not check if a smaller reporting company) |
Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).
Yes o No þ
At November 5, 2008, there were 8,532,108 shares of Common Stock outstanding.
MERCANTILE BANK CORPORATION
2
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
MERCANTILE BANK CORPORATION
CONSOLIDATED BALANCE SHEETS
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September 30, |
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December 31, |
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2008 |
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2007 |
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(Unaudited) |
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ASSETS |
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Cash and due from banks |
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$ |
25,694,000 |
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$ |
29,138,000 |
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Short term investments |
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87,000 |
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292,000 |
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Federal funds sold |
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4,820,000 |
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0 |
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Total cash and cash equivalents |
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30,601,000 |
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29,430,000 |
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Securities available for sale |
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144,019,000 |
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136,673,000 |
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Securities held to maturity (fair value of $63,888,000 at
September 30, 2008 and $66,440,000 at December 31, 2007) |
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64,002,000 |
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65,330,000 |
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Federal Home Loan Bank stock |
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15,681,000 |
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9,733,000 |
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Loans and leases |
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1,870,799,000 |
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1,799,880,000 |
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Allowance for loan and lease losses |
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(29,511,000 |
) |
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(25,814,000 |
) |
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Loans and leases, net |
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1,841,288,000 |
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1,774,066,000 |
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Premises and equipment, net |
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32,958,000 |
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34,351,000 |
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Bank owned life insurance policies |
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41,459,000 |
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39,118,000 |
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Accrued interest receivable |
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9,044,000 |
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9,957,000 |
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Other assets |
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28,307,000 |
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22,745,000 |
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Total assets |
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$ |
2,207,359,000 |
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$ |
2,121,403,000 |
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LIABILITIES AND SHAREHOLDERS EQUITY |
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Deposits |
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Noninterest-bearing |
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$ |
109,154,000 |
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$ |
133,056,000 |
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Interest-bearing |
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1,466,559,000 |
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1,458,125,000 |
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Total deposits |
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1,575,713,000 |
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1,591,181,000 |
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Securities sold under agreements to repurchase |
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105,986,000 |
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97,465,000 |
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Federal funds purchased |
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0 |
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13,800,000 |
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Federal Home Loan Bank advances |
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285,000,000 |
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180,000,000 |
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Subordinated debentures |
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32,990,000 |
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32,990,000 |
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Other borrowed money |
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19,393,000 |
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4,013,000 |
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Accrued expenses and other liabilities |
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16,929,000 |
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23,799,000 |
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Total liabilities |
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2,036,011,000 |
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1,943,248,000 |
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Shareholders equity |
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Preferred stock, no par value; 1,000,000 shares
authorized, none issued |
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0 |
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0 |
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Common stock, no par value: 20,000,000 shares authorized;
8,532,535 shares outstanding at September 30, 2008 and
8,527,197 shares outstanding at December 31, 2007 |
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172,480,000 |
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172,938,000 |
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Retained earnings (deficit) |
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(1,593,000 |
) |
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4,948,000 |
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Accumulated other comprehensive income |
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461,000 |
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269,000 |
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Total shareholders equity |
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171,348,000 |
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178,155,000 |
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Total liabilities and shareholders equity |
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$ |
2,207,359,000 |
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$ |
2,121,403,000 |
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See accompanying notes to consolidated financial statements.
3
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
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Three Months |
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Three Months |
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Nine Months |
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Nine Months |
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Ended |
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Ended |
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Ended |
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Ended |
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September 30, |
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September 30, |
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September 30, |
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September 30, |
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2008 |
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2007 |
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2008 |
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2007 |
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(Unaudited) |
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(Unaudited) |
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(Unaudited) |
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(Unaudited) |
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Interest income |
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Loans and leases, including fees |
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$ |
27,161,000 |
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$ |
34,076,000 |
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$ |
82,707,000 |
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$ |
101,012,000 |
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Securities, taxable |
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1,932,000 |
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1,827,000 |
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5,925,000 |
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5,418,000 |
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Securities, tax-exempt |
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|
709,000 |
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|
703,000 |
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2,142,000 |
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2,103,000 |
|
Federal funds sold |
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40,000 |
|
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|
168,000 |
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|
157,000 |
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|
343,000 |
|
Short term investments |
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1,000 |
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|
5,000 |
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|
6,000 |
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|
13,000 |
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|
|
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|
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Total interest income |
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29,843,000 |
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36,779,000 |
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90,937,000 |
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108,889,000 |
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Interest expense |
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Deposits |
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14,180,000 |
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19,357,000 |
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46,144,000 |
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57,361,000 |
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Short term borrowings |
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483,000 |
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|
900,000 |
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|
1,506,000 |
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|
2,598,000 |
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Federal Home Loan Bank advances |
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2,839,000 |
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1,759,000 |
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|
7,834,000 |
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|
4,343,000 |
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Long term borrowings |
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613,000 |
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|
713,000 |
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1,750,000 |
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2,104,000 |
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Total interest expense |
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18,115,000 |
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22,729,000 |
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57,234,000 |
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66,406,000 |
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|
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|
Net interest income |
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|
11,728,000 |
|
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|
14,050,000 |
|
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|
33,703,000 |
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|
42,483,000 |
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Provision for loan and lease losses |
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|
1,900,000 |
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|
|
2,800,000 |
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|
|
17,200,000 |
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|
6,170,000 |
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Net interest income after provision
for loan and lease losses |
|
|
9,828,000 |
|
|
|
11,250,000 |
|
|
|
16,503,000 |
|
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|
36,313,000 |
|
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|
|
|
|
|
|
|
|
|
|
|
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Noninterest income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Services charges on accounts |
|
|
488,000 |
|
|
|
402,000 |
|
|
|
1,472,000 |
|
|
|
1,184,000 |
|
Earnings on bank owned life
insurance policies |
|
|
455,000 |
|
|
|
321,000 |
|
|
|
1,308,000 |
|
|
|
927,000 |
|
Mortgage banking activities |
|
|
103,000 |
|
|
|
127,000 |
|
|
|
516,000 |
|
|
|
341,000 |
|
Other income |
|
|
771,000 |
|
|
|
657,000 |
|
|
|
2,169,000 |
|
|
|
1,884,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total noninterest income |
|
|
1,817,000 |
|
|
|
1,507,000 |
|
|
|
5,465,000 |
|
|
|
4,336,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Noninterest expense |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and benefits |
|
|
5,584,000 |
|
|
|
5,425,000 |
|
|
|
17,031,000 |
|
|
|
17,330,000 |
|
Occupancy |
|
|
967,000 |
|
|
|
881,000 |
|
|
|
2,899,000 |
|
|
|
2,462,000 |
|
Furniture and equipment depreciation,
rent and maintenance |
|
|
482,000 |
|
|
|
529,000 |
|
|
|
1,502,000 |
|
|
|
1,524,000 |
|
Nonperforming asset costs |
|
|
804,000 |
|
|
|
343,000 |
|
|
|
2,345,000 |
|
|
|
584,000 |
|
Other expense |
|
|
2,676,000 |
|
|
|
2,391,000 |
|
|
|
7,842,000 |
|
|
|
6,448,000 |
|
|
|
|
|
|
|
|
|
|
|
|
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|
Total noninterest expenses |
|
|
10,513,000 |
|
|
|
9,569,000 |
|
|
|
31,619,000 |
|
|
|
28,348,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before federal income
tax expense (benefit) |
|
|
1,132,000 |
|
|
|
3,188,000 |
|
|
|
(9,651,000 |
) |
|
|
12,301,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal income tax expense (benefit) |
|
|
53,000 |
|
|
|
821,000 |
|
|
|
(4,380,000 |
) |
|
|
3,430,000 |
|
|
|
|
|
|
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|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
1,079,000 |
|
|
$ |
2,367,000 |
|
|
$ |
(5,271,000 |
) |
|
$ |
8,871,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
|
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|
|
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|
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|
Basic earnings (loss) per share |
|
$ |
0.13 |
|
|
$ |
0.28 |
|
|
$ |
(0.62 |
) |
|
$ |
1.05 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted earnings (loss) per share |
|
$ |
0.13 |
|
|
$ |
0.28 |
|
|
$ |
(0.62 |
) |
|
$ |
1.05 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash dividends per share |
|
$ |
0.04 |
|
|
$ |
0.14 |
|
|
$ |
0.27 |
|
|
$ |
0.41 |
|
|
|
|
|
|
|
|
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|
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|
|
|
|
|
|
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|
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|
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|
Average basic shares outstanding |
|
|
8,472,569 |
|
|
|
8,458,601 |
|
|
|
8,468,951 |
|
|
|
8,450,524 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average diluted shares outstanding |
|
|
8,530,347 |
|
|
|
8,491,612 |
|
|
|
8,468,951 |
|
|
|
8,488,226 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
4
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF
CHANGES IN SHAREHOLDERS EQUITY
(Unaudited)
|
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|
|
Accumulated |
|
|
|
|
|
|
|
|
|
|
Retained |
|
|
Other |
|
|
Total |
|
|
|
Common |
|
|
Earnings |
|
|
Comprehensive |
|
|
Shareholders |
|
|
|
Stock |
|
|
(Deficit) |
|
|
Income (Loss) |
|
|
Equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, January 1, 2008 |
|
$ |
172,938,000 |
|
|
$ |
4,948,000 |
|
|
$ |
269,000 |
|
|
$ |
178,155,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Employee stock purchase plan, 7,307 shares |
|
|
60,000 |
|
|
|
|
|
|
|
|
|
|
|
60,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividend reinvestment plan, 3,361 shares |
|
|
34,000 |
|
|
|
|
|
|
|
|
|
|
|
34,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock option exercises, 2,000 shares |
|
|
16,000 |
|
|
|
|
|
|
|
|
|
|
|
16,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock tendered for stock option exercises,
1,123 shares |
|
|
(16,000 |
) |
|
|
|
|
|
|
|
|
|
|
(16,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense |
|
|
465,000 |
|
|
|
|
|
|
|
|
|
|
|
465,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash dividends ($0.27 per share) |
|
|
(1,017,000 |
) |
|
|
(1,270,000 |
) |
|
|
|
|
|
|
(2,287,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income (loss): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss for the period from
January 1, 2008 through September 30, 2008 |
|
|
|
|
|
|
(5,271,000 |
) |
|
|
|
|
|
|
(5,271,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in net unrealized gain
(loss) on securities available for sale,
net of reclassifications and tax effect |
|
|
|
|
|
|
|
|
|
|
(424,000 |
) |
|
|
(424,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in net fair value of interest
rate swaps, net of reclassifications
and tax effect |
|
|
|
|
|
|
|
|
|
|
616,000 |
|
|
|
616,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(5,079,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, September 30, 2008 |
|
$ |
172,480,000 |
|
|
$ |
(1,593,000 |
) |
|
$ |
461,000 |
|
|
$ |
171,348,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
5
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF
CHANGES IN SHAREHOLDERS EQUITY
(Continued)
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other |
|
|
Total |
|
|
|
Common |
|
|
Retained |
|
|
Comprehensive |
|
|
Shareholders |
|
|
|
Stock |
|
|
Earnings |
|
|
Income/(loss) |
|
|
Equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, January 1, 2007 |
|
$ |
161,223,000 |
|
|
$ |
11,794,000 |
|
|
$ |
(1,102,000 |
) |
|
$ |
171,915,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payment of 5% stock dividend, 401,023 shares |
|
|
11,131,000 |
|
|
|
(11,135,000 |
) |
|
|
|
|
|
|
(4,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Employee stock purchase plan, 2,737 shares |
|
|
72,000 |
|
|
|
|
|
|
|
|
|
|
|
72,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividend reinvestment plan, 2,219 shares |
|
|
60,000 |
|
|
|
|
|
|
|
|
|
|
|
60,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock option exercises, 51,942 shares |
|
|
641,000 |
|
|
|
|
|
|
|
|
|
|
|
641,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock tendered for stock option exercises,
18,291 shares |
|
|
(587,000 |
) |
|
|
|
|
|
|
|
|
|
|
(587,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense |
|
|
253,000 |
|
|
|
|
|
|
|
|
|
|
|
253,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash dividends ($0.41 per share) |
|
|
|
|
|
|
(3,493,000 |
) |
|
|
|
|
|
|
(3,493,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income for the period from January 1,
2007 through September 30, 2007 |
|
|
|
|
|
|
8,871,000 |
|
|
|
|
|
|
|
8,871,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in net unrealized gain (loss)
on securities available for sale,
net of reclassifications and tax effect |
|
|
|
|
|
|
|
|
|
|
(4,000 |
) |
|
|
(4,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,867,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, September 30, 2007 |
|
$ |
172,793,000 |
|
|
$ |
6,037,000 |
|
|
$ |
(1,106,000 |
) |
|
$ |
177,724,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
6
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months |
|
|
Three Months |
|
|
Nine Months |
|
|
Nine Months |
|
|
|
Ended |
|
|
Ended |
|
|
Ended |
|
|
Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(Unaudited) |
|
|
(Unaudited) |
|
|
(Unaudited) |
|
|
(Unaudited) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
1,079,000 |
|
|
$ |
2,367,000 |
|
|
$ |
(5,271,000 |
) |
|
$ |
8,871,000 |
|
Adjustments to reconcile net income (loss)
to net cash from operating activities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
789,000 |
|
|
|
802,000 |
|
|
|
2,005,000 |
|
|
|
2,290,000 |
|
Provision for loan and lease losses |
|
|
1,900,000 |
|
|
|
2,800,000 |
|
|
|
17,200,000 |
|
|
|
6,170,000 |
|
Stock-based compensation expense |
|
|
155,000 |
|
|
|
84,000 |
|
|
|
465,000 |
|
|
|
253,000 |
|
Proceeds from the sale of mortgage loans
held for sale |
|
|
6,144,000 |
|
|
|
10,813,000 |
|
|
|
35,118,000 |
|
|
|
20,626,000 |
|
Origination of mortgage loans held for sale |
|
|
(6,070,000 |
) |
|
|
(10,689,000 |
) |
|
|
(34,714,000 |
) |
|
|
(20,343,000 |
) |
Net gain on sales of mortgage loans
held for sale |
|
|
(74,000 |
) |
|
|
(124,000 |
) |
|
|
(404,000 |
) |
|
|
(283,000 |
) |
Earnings on bank owned life insurance |
|
|
(455,000 |
) |
|
|
(321,000 |
) |
|
|
(1,308,000 |
) |
|
|
(927,000 |
) |
Net change in: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accrued interest receivable |
|
|
(727,000 |
) |
|
|
(1,172,000 |
) |
|
|
913,000 |
|
|
|
(856,000 |
) |
Other assets |
|
|
1,127,000 |
|
|
|
525,000 |
|
|
|
(95,000 |
) |
|
|
(1,591,000 |
) |
Accrued expenses and other liabilities |
|
|
(3,473,000 |
) |
|
|
(342,000 |
) |
|
|
(6,870,000 |
) |
|
|
2,035,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash from operating activities |
|
|
395,000 |
|
|
|
4,743,000 |
|
|
|
7,039,000 |
|
|
|
16,245,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows for investing activities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan and lease originations and payments, net |
|
|
(37,587,000 |
) |
|
|
(21,810,000 |
) |
|
|
(89,450,000 |
) |
|
|
(57,038,000 |
) |
Purchases of: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities available for sale |
|
|
(14,706,000 |
) |
|
|
(1,955,000 |
) |
|
|
(67,967,000 |
) |
|
|
(10,412,000 |
) |
Securities held to maturity |
|
|
(226,000 |
) |
|
|
(1,335,000 |
) |
|
|
(226,000 |
) |
|
|
(3,742,000 |
) |
Federal Home Loan Bank stock |
|
|
(708,000 |
) |
|
|
0 |
|
|
|
(5,948,000 |
) |
|
|
(25,000 |
) |
Proceeds from: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Maturities, calls and repayments of
available for sale securities |
|
|
2,205,000 |
|
|
|
2,866,000 |
|
|
|
60,426,000 |
|
|
|
6,241,000 |
|
Maturities, calls and repayments of
held to maturity securities |
|
|
0 |
|
|
|
126,000 |
|
|
|
1,535,000 |
|
|
|
2,786,000 |
|
Purchases of premises and equipment, net |
|
|
(69,000 |
) |
|
|
(403,000 |
) |
|
|
(645,000 |
) |
|
|
(2,964,000 |
) |
Purchases of bank owned life insurance |
|
|
0 |
|
|
|
(311,000 |
) |
|
|
(1,033,000 |
) |
|
|
(1,177,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash for investing activities |
|
|
(51,091,000 |
) |
|
|
(22,822,000 |
) |
|
|
(103,308,000 |
) |
|
|
(66,331,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase (decrease) in deposits |
|
|
31,009,000 |
|
|
|
1,974,000 |
|
|
|
(15,468,000 |
) |
|
|
(5,919,000 |
) |
Net increase in securities sold under
agreements to repurchase |
|
|
23,686,000 |
|
|
|
3,696,000 |
|
|
|
8,521,000 |
|
|
|
3,211,000 |
|
Net decrease in federal funds purchased |
|
|
(16,000,000 |
) |
|
|
(5,800,000 |
) |
|
|
(13,800,000 |
) |
|
|
(6,500,000 |
) |
Proceeds from Federal Home Loan Bank advances |
|
|
31,500,000 |
|
|
|
15,000,000 |
|
|
|
186,500,000 |
|
|
|
105,000,000 |
|
Maturities of Federal Home Loan Bank advances |
|
|
(31,500,000 |
) |
|
|
(15,000,000 |
) |
|
|
(81,500,000 |
) |
|
|
(65,000,000 |
) |
Net increase in other borrowed money |
|
|
5,148,000 |
|
|
|
186,000 |
|
|
|
15,380,000 |
|
|
|
523,000 |
|
Employee stock purchase plan |
|
|
20,000 |
|
|
|
25,000 |
|
|
|
60,000 |
|
|
|
72,000 |
|
Dividend reinvestment plan |
|
|
4,000 |
|
|
|
16,000 |
|
|
|
34,000 |
|
|
|
60,000 |
|
Stock option exercises, net |
|
|
0 |
|
|
|
24,000 |
|
|
|
0 |
|
|
|
54,000 |
|
Payment of cash dividends |
|
|
(339,000 |
) |
|
|
(1,185,000 |
) |
|
|
(2,287,000 |
) |
|
|
(3,493,000 |
) |
Cash paid in lieu of fractional shares on
stock dividend |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
(4,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash from financing activities |
|
|
43,528,000 |
|
|
|
(1,064,000 |
) |
|
|
97,440,000 |
|
|
|
28,004,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
7
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months |
|
|
Three Months |
|
|
Nine Months |
|
|
Nine Months |
|
|
|
Ended |
|
|
Ended |
|
|
Ended |
|
|
Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
(Unaudited) |
|
|
(Unaudited) |
|
|
(Unaudited) |
|
|
(Unaudited) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents |
|
|
(7,168,000 |
) |
|
|
(19,143,000 |
) |
|
|
1,171,000 |
|
|
|
(22,082,000 |
) |
Cash and cash equivalents at beginning of period |
|
|
37,769,000 |
|
|
|
48,441,000 |
|
|
|
29,430,000 |
|
|
|
51,380,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
30,601,000 |
|
|
$ |
29,298,000 |
|
|
$ |
30,601,000 |
|
|
$ |
29,298,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures of cash flow information |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid during the period for: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
$ |
19,845,000 |
|
|
$ |
22,613,000 |
|
|
$ |
63,503,000 |
|
|
$ |
65,566,000 |
|
Federal income tax |
|
|
0 |
|
|
|
355,000 |
|
|
|
0 |
|
|
|
4,175,000 |
|
Transfers from loans and leases to foreclosed assets |
|
|
3,311,000 |
|
|
|
131,000 |
|
|
|
5,028,000 |
|
|
|
2,830,000 |
|
See accompanying notes to consolidated financial statements.
8
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. |
|
SIGNIFICANT ACCOUNTING POLICIES |
|
|
|
Basis of Presentation: The unaudited financial statements for the three and nine months
ended September 30, 2008 include the consolidated results of operations of Mercantile Bank
Corporation and its consolidated subsidiaries. These subsidiaries include Mercantile Bank of
Michigan (our bank), our banks three subsidiaries, Mercantile Bank Mortgage Company, LLC
(our mortgage company), Mercantile Bank Real Estate Co., LLC (our real estate company), and
Mercantile Insurance Center, Inc. (our insurance center). These consolidated financial
statements have been prepared in accordance with the instructions for Form 10-Q and Item 303(b)
of Regulation S-K and do not include all disclosures required by accounting principles generally
accepted in the United States of America for a complete presentation of our financial condition
and results of operations. In the opinion of management, the information reflects all
adjustments (consisting only of normal recurring adjustments) which are necessary in order to
make the financial statements not misleading and for a fair presentation of the results of
operations for such periods. The results for the period ended September 30, 2008 should not be
considered as indicative of expected results for a full year. For further information, refer to
the consolidated financial statements and footnotes included in our annual report on Form 10-K
for the year ended December 31, 2007. |
|
|
|
We formed a business trust, Mercantile Bank Capital Trust I (the trust), in 2004 to issue
trust preferred securities. We issued subordinated debentures to the trust in return for the
proceeds raised from the issuance of the trust preferred securities. In accordance with FASB
Interpretation No. 46, the trust is not consolidated, but instead we report the subordinated
debentures issued to the trust as a liability. |
|
|
|
Earnings Per Share: Basic earnings per share is based on weighted average common shares
outstanding during the period exclusive of unvested restricted shares outstanding. Diluted
earnings per share include the dilutive effect of additional potential common shares issuable
under stock options and restricted shares and are determined using the treasury stock method.
Stock-based awards for 262,619 shares and 319,436 shares of common stock for the three and nine
month periods ended September 30, 2008, respectively, were antidilutive and were not included in
determining diluted earnings per share. Stock-based awards for 140,177 shares and 112,514
shares of common stock for the three and nine month periods ended September 30, 2007,
respectively, were antidilutive and were not included in determining diluted earnings per share. |
|
|
|
Stock Dividend: All per share amounts and average shares outstanding have been adjusted
for all periods presented to reflect the 5% stock dividend distributed on May 4, 2007. The
Statement of Changes in Shareholders Equity reflects a transfer from retained earnings to
common stock for the value of the shares distributed. The impact of the 2007 stock dividend was
previously reported as a $14,948,000 increase to common stock and a $14,952,000 decrease to
retained earnings in our quarterly reports on Form 10-Q in 2007. The financial statements in
our annual report for the year ended December 31, 2007 on Form 10-K, and in our quarterly
reports on Form 10-Q in 2008 properly reflect this stock dividend as an $11,131,000 increase to
common stock and an $11,135,000 decrease to retained earnings. Management determined this
difference was not material and did not require restatement of quarterly reports on Form 10-Q
filed in 2007. |
9
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. |
|
SIGNIFICANT ACCOUNTING POLICIES (Continued) |
|
|
|
Allowance for Loan and Lease Losses: The allowance for loan and lease losses
(allowance) is a valuation allowance for probable incurred credit losses, increased by the
provision for loan and lease losses and recoveries, and decreased by charge-offs. Management
estimates the allowance balance required based on past loan loss experience, the nature and
volume of the portfolio,
information about specific borrower situations and estimated collateral values, and economic
conditions. Allocations of the allowance may be made for specific loans and leases, but the
entire allowance is available for any loan or lease that, in managements judgment, should be
charged-off. Loan and lease losses are charged against the allowance when management believes
the uncollectibility of a loan or lease balance is likely. |
|
|
|
A loan or lease is impaired when full payment under the loan or lease terms is not expected.
Impairment is evaluated in aggregate for smaller-balance loans of similar nature such as
residential mortgage, consumer and credit card loans, and on an individual loan basis for other
loans. If a loan or lease is impaired, a portion of the allowance is allocated so that the loan
or lease is reported, net, at the present value of estimated future cash flows using the loans
or leases existing rate or at the fair value of collateral if repayment is expected solely from
the collateral. Loans and leases are evaluated for impairment when payments are delayed,
typically 30 days or more, or when serious deficiencies are identified within the credit
relationship. |
|
|
|
Derivatives: Derivative financial instruments are recognized as assets or liabilities
at fair value. The accounting for changes in the fair value of derivatives depends on the use
of the derivatives and whether the derivatives qualify for hedge accounting. Our current
derivatives consist of interest rate swap agreements, which are used as part of our asset
liability management to help manage interest rate risk. We do not use derivatives for trading
purposes. |
|
|
|
Changes in the fair value of derivatives that are designated as a hedge of the variability of
cash flows to be received on various loans and are effective are reported in other comprehensive
income. They are later reclassified into earnings in the same periods during which the hedged
transaction affects earnings and are included in the line item in which the hedged cash flows
are recorded (e.g., interest income related to our current interest rate swaps). If hedge
accounting does not apply, changes in the fair value of derivatives are recognized immediately
in current earnings as noninterest income or expense. |
|
|
|
If designated as a hedge, we formally document the relationship between derivatives as hedged
items, as well as the risk-management objective and the strategy for undertaking hedge
transactions. This documentation includes linking cash flow hedges to specific assets on the
balance sheet. If designated as a hedge, we also formally assess, both at the hedges inception
and on an ongoing basis, whether the derivative instruments that are used are highly effective
in offsetting changes in cash flows of the hedged items. Ineffective hedge gains and losses are
recognized immediately in current earnings as noninterest income or expense. We discontinue
hedge accounting when we determine the derivative is no longer effective in offsetting changes
in the cash flows of the hedged item, the derivative is settled or terminates, or treatment of
the derivatives as a hedge is no longer appropriate or intended. |
10
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. |
|
SIGNIFICANT ACCOUNTING POLICIES (Continued) |
|
|
|
Adoption of New Accounting Standards: In December 2007, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 141(R),
Business Combinations, to further enhance the accounting and financial reporting related to
business combinations. SFAS No. 141(R) establishes principles and requirements for how the
acquirer in a business combination (1) recognizes and measures in its financial statements the
identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the
acquiree, (2) recognizes and measures the goodwill acquired in the business combination or a
gain from a bargain purchase, and (3) determines what information to disclose to enable users of
the financial statements to evaluate the nature and financial effects of the business
combination. SFAS No. 141(R) applies prospectively to business combinations for which the
acquisition date is on or after the beginning of the first annual reporting period beginning on
or after December 15, 2008. Therefore, the effects of the adoption of SFAS No. 141(R) will
depend upon the extent and magnitude of acquisitions after December 31, 2008. |
|
|
|
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, which defines fair
value, establishes a framework for measuring fair value and expands disclosures about fair value
measurements. SFAS No. 157 applies to other accounting pronouncements that require or permit
fair value measurements, the FASB having previously concluded in those accounting pronouncements
that fair value is the relevant measurement attribute. SFAS No. 157 does not require any new
fair value measurements and was originally effective beginning January 1, 2008. In February
2008, the FASB issued FASB Staff Position (FSP) FAS 157-2. FSP FAS 157-2 allows entities to
electively defer the effective date of SFAS No. 157 until January 1, 2009 for nonfinancial
assets and nonfinancial liabilities except those recognized or disclosed at fair value on an
annual or more frequently recurring basis. We will apply the fair value measurement and
disclosure provisions of SFAS No. 157 to nonfinancial assets and liabilities effective January
1, 2009. The application of such is not expected to be material to our results of operations or
financial position. On October 10, 2008, the FASB issued FSP FAS 157-3 to clarify the
application of fair value measurements of a financial asset when the market for that asset is
not active. This clarifying guidance became effective upon issuance, including prior periods
for which financial statements had not been issued, such as the period ended September 30, 2008.
This new guidance had no effect on our consolidated results of operations or financial
position. See Note 10 for a discussion regarding the January 1, 2008 implementation of SFAS No.
157 relating to our financial assets and liabilities. |
|
|
|
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and
Liabilities. SFAS No. 159 permits entities to choose to measure eligible items at fair value at
specified election dates. For items for which the fair value option has been elected,
unrealized gains and losses are to be reported in earnings at each subsequent reporting date.
The fair value option is irrevocable unless a new election date occurs, may be applied
instrument by instrument, with a few exceptions, and applies only to entire instruments and not
to portions of instruments. SFAS No. 159 provides an opportunity to mitigate volatility in
reported earnings caused by measuring related assets and liabilities differently without having
to apply complex hedge accounting. SFAS No. 159 was effective beginning January 1, 2008.
Through September 30, 2008, we have not elected the fair value option for any of our financial
assets or liabilities. |
11
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. |
|
SIGNIFICANT ACCOUNTING POLICIES (Continued) |
|
|
|
In March 2008, the FASB issued SFAS No. 161, Disclosures About Derivative Instruments and
Hedging Activities an Amendment of FASB Statement No. 133. SFAS No. 161 expands disclosure
requirements regarding an entitys derivative instruments and hedging activities. Expanded
qualitative disclosures that will be required under SFAS No. 161 include: (1) how and why an
entity uses derivative instruments; (2) how derivative instruments and related hedged items are
accounted for under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities,
and related interpretations; and (3) how derivative instruments and related hedged items affect
an entitys financial statements. SFAS No. 161 is effective beginning January 1, 2009. We do
not expect SFAS No. 161 to have a material effect on our derivative disclosures upon adoption. |
|
|
|
In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting
Principles. SFAS No. 162 is intended to improve financial reporting by identifying a consistent
framework, or hierarchy, for selecting accounting principles to be used in the preparation of
financial statements of nongovernmental entities that are presented in conformity with U.S.
generally accepted accounting principles (GAAP). SFAS No. 162 directs the GAAP hierarchy to
the entity, not the independent auditors, as the entity is responsible for selecting accounting
principles for financial statements that are presented in conformity with GAAP. SFAS No. 162 is
effective 60 days following the Securities and Exchange Commissions approval of the Public
Company Accounting Oversight Board amendments to remove the GAAP hierarchy from the auditing
standards. We do not expect SFAS No. 162 to have a material effect on our consolidated results
of operations or financial position upon adoption. |
|
2. |
|
LOANS AND LEASES |
|
|
|
Our total loans and leases at September 30, 2008 were $1,870.8 million compared to $1,799.9
million at December 31, 2007, an increase of $70.9 million, or 3.9%. The components of our
outstanding balances at September 30, 2008 and December 31, 2007, and the percentage changes in
loans and leases from the end of 2007 to the end of the third quarter 2008 are as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent |
|
|
|
September 30, 2008 |
|
|
December 31, 2007 |
|
|
Increase/ |
|
|
|
Balance |
|
|
% |
|
|
Balance |
|
|
% |
|
|
(Decrease) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real Estate: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Construction and land
development |
|
$ |
277,401,000 |
|
|
|
14.8 |
% |
|
$ |
263,868,000 |
|
|
|
14.7 |
% |
|
|
5.1 |
% |
Secured by 1-4 family
properties |
|
|
141,534,000 |
|
|
|
7.6 |
|
|
|
135,517,000 |
|
|
|
7.5 |
|
|
|
4.4 |
|
Secured by multi-family
properties |
|
|
51,342,000 |
|
|
|
2.7 |
|
|
|
51,951,000 |
|
|
|
2.9 |
|
|
|
(1.2 |
) |
Secured by nonresidential
properties |
|
|
867,411,000 |
|
|
|
46.4 |
|
|
|
855,872,000 |
|
|
|
47.6 |
|
|
|
1.3 |
|
Commercial |
|
|
525,148,000 |
|
|
|
28.1 |
|
|
|
484,645,000 |
|
|
|
26.9 |
|
|
|
8.4 |
|
Leases |
|
|
2,254,000 |
|
|
|
0.1 |
|
|
|
2,865,000 |
|
|
|
0.1 |
|
|
|
(21.3 |
) |
Consumer |
|
|
5,709,000 |
|
|
|
0.3 |
|
|
|
5,162,000 |
|
|
|
0.3 |
|
|
|
10.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loans and leases |
|
$ |
1,870,799,000 |
|
|
|
100.0 |
% |
|
$ |
1,799,880,000 |
|
|
|
100.0 |
% |
|
|
3.9 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
3. |
|
ALLOWANCE FOR LOAN AND LEASE LOSSES |
|
|
|
The following is a summary of the change in our allowance for loan and lease losses account for
the three and nine months ended September 30, 2008 and September 30, 2007: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended |
|
|
Nine months ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at beginning of
period |
|
$ |
31,881,000 |
|
|
$ |
22,800,000 |
|
|
$ |
25,814,000 |
|
|
$ |
21,411,000 |
|
Charge-offs |
|
|
(4,462,000 |
) |
|
|
(795,000 |
) |
|
|
(14,030,000 |
) |
|
|
(3,287,000 |
) |
Recoveries |
|
|
192,000 |
|
|
|
52,000 |
|
|
|
527,000 |
|
|
|
563,000 |
|
Provision for loan and
lease losses |
|
|
1,900,000 |
|
|
|
2,800,000 |
|
|
|
17,200,000 |
|
|
|
6,170,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at September 30 |
|
$ |
29,511,000 |
|
|
$ |
24,857,000 |
|
|
$ |
29,511,000 |
|
|
$ |
24,857,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4. |
|
PREMISES AND EQUIPMENT NET |
|
|
|
Premises and equipment are comprised of the following: |
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
Land and improvements |
|
$ |
8,538,000 |
|
|
$ |
8,534,000 |
|
Buildings and leasehold improvements |
|
|
24,883,000 |
|
|
|
24,559,000 |
|
Furniture and equipment |
|
|
12,460,000 |
|
|
|
12,164,000 |
|
|
|
|
|
|
|
|
|
|
|
45,881,000 |
|
|
|
45,257,000 |
|
Less: accumulated depreciation |
|
|
12,923,000 |
|
|
|
10,906,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Premises and equipment, net |
|
$ |
32,958,000 |
|
|
$ |
34,351,000 |
|
|
|
|
|
|
|
|
Depreciation expense totaled $0.7 million during the third quarter of 2008 and 2007.
Depreciation expense totaled $2.0 million during the first nine months of 2008 and 2007.
13
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
5. |
|
DEPOSITS |
|
|
|
Our total deposits at September 30, 2008 were $1,575.7 million compared to $1,591.2 million at
December 31, 2007, a decrease of $15.5 million, or 1.0%. The components of our outstanding
balances at September 30, 2008 and December 31, 2007, and percentage change in deposits from the
end of 2007 to the end of the third quarter 2008 are as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent |
|
|
|
September 30, 2008 |
|
|
December 31, 2007 |
|
|
Increase/ |
|
|
|
Balance |
|
|
% |
|
|
Balance |
|
|
% |
|
|
(Decrease) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Noninterest-bearing demand |
|
$ |
109,154,000 |
|
|
|
6.9 |
% |
|
$ |
133,056,000 |
|
|
|
8.4 |
% |
|
|
(18.0 |
)% |
Interest-bearing checking |
|
|
47,023,000 |
|
|
|
3.0 |
|
|
|
44,491,000 |
|
|
|
2.8 |
|
|
|
5.7 |
|
Money market |
|
|
15,566,000 |
|
|
|
1.0 |
|
|
|
11,872,000 |
|
|
|
0.7 |
|
|
|
31.1 |
|
Savings |
|
|
54,885,000 |
|
|
|
3.5 |
|
|
|
80,750,000 |
|
|
|
5.1 |
|
|
|
(32.0 |
) |
Time, under $100,000 |
|
|
48,730,000 |
|
|
|
3.1 |
|
|
|
52,675,000 |
|
|
|
3.3 |
|
|
|
(7.5 |
) |
Time, $100,000 and over |
|
|
254,708,000 |
|
|
|
16.1 |
|
|
|
343,296,000 |
|
|
|
21.6 |
|
|
|
(25.8 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
530,066,000 |
|
|
|
33.6 |
|
|
|
666,140,000 |
|
|
|
41.9 |
|
|
|
(20.4 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Out-of-area time,
under $100,000 |
|
|
146,441,000 |
|
|
|
9.3 |
|
|
|
100,703,000 |
|
|
|
6.3 |
|
|
|
45.4 |
|
Out-of-area time,
$100,000 and over |
|
|
899,206,000 |
|
|
|
57.1 |
|
|
|
824,338,000 |
|
|
|
51.8 |
|
|
|
9.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,045,647,000 |
|
|
|
66.4 |
|
|
|
925,041,000 |
|
|
|
58.1 |
|
|
|
13.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total deposits |
|
$ |
1,575,713,000 |
|
|
|
100.0 |
% |
|
$ |
1,591,181,000 |
|
|
|
100.0 |
% |
|
|
(1.0 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6. |
|
SHORT-TERM BORROWINGS |
|
|
|
Information relating to our securities sold under agreements to repurchase follows: |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
Twelve Months Ended |
|
|
September 30, 2008 |
|
December 31, 2007 |
|
|
|
|
|
|
|
|
|
Outstanding balance at end of period |
|
$ |
105,986,000 |
|
|
$ |
97,465,000 |
|
Average interest rate at end of period |
|
|
1.97 |
% |
|
|
2.94 |
% |
|
|
|
|
|
|
|
|
|
Average balance during the period |
|
$ |
90,171,000 |
|
|
$ |
88,685,000 |
|
Average interest rate during the period |
|
|
2.06 |
% |
|
|
3.67 |
% |
|
|
|
|
|
|
|
|
|
Maximum month end balance during the period |
|
$ |
105,986,000 |
|
|
$ |
102,881,000 |
|
Securities sold under agreements to repurchase (repurchase agreements) generally have original
maturities of less than one year. Repurchase agreements are treated as financings and the
obligations to repurchase securities sold are reflected as liabilities. Securities involved
with the agreements are recorded as assets of our bank and are held in safekeeping by
correspondent banks. Repurchase agreements are offered principally to certain large deposit
customers. Repurchase agreements were secured by securities with a market value of $108.0
million and $108.1 million as of September 30, 2008 and December 31, 2007, respectively.
14
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
7. |
|
FEDERAL HOME LOAN BANK ADVANCES |
|
|
|
Our outstanding balances at September 30, 2008 totaled $285.0 million and mature at varying
dates from October 2008 through June 2012, with fixed rates of interest from 2.95% to 5.30% and
averaging 3.90%. At December 31, 2007, outstanding balances totaled $180.0 million with
maturities ranging from January 2008 through January 2012 and fixed rates of interest from 4.01%
to 5.34% and averaging 4.71%. |
|
|
|
Each advance is payable at its maturity date and is subject to a prepayment fee if paid prior to
the maturity date. The advances are collateralized by residential mortgage loans, first
mortgage liens on multi-family residential property loans, first mortgage liens on commercial
real estate property loans, and substantially all other assets of our bank, under a blanket lien
arrangement. Our borrowing line of credit as of September 30, 2008 totaled $318.2 million, with
availability of $23.6 million. |
|
|
|
Maturities of FHLB advances currently outstanding during the next five years are: |
|
|
|
|
|
2008 |
|
$ |
25,000,000 |
|
2009 |
|
|
70,000,000 |
|
2010 |
|
|
65,000,000 |
|
2011 |
|
|
85,000,000 |
|
2012 |
|
|
40,000,000 |
|
8. |
|
COMMITMENTS AND OFF-BALANCE-SHEET RISK |
|
|
|
Our bank is a party to financial instruments with off-balance-sheet risk in the normal course of
business to meet the financing needs of our customers. These financial instruments include
commitments to extend credit and standby letters of credit. Loan 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. Standby letters of credit are conditional commitments issued by
our bank to guarantee the performance of a customer to a third party. 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. |
|
|
|
These instruments involve, to varying degrees, elements of credit risk in excess of the amount
recognized, if any, in the balance sheet. Our banks maximum exposure to loan loss in the event
of nonperformance by the other party to the financial instrument for commitments to extend
credit and standby letters of credit is represented by the contractual notional amount of those
instruments. Our bank uses the same credit policies in making commitments and conditional
obligations as it does for on-balance sheet instruments. Collateral, such as accounts
receivable, securities, inventory, and property and equipment, is generally obtained based on
managements credit assessment of the borrower. If required, estimated loss exposure resulting
from these instruments is expensed and recorded as a liability. The balance of the liability
account was $0.5 million as of September 30, 2008 and December 31, 2007. |
15
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
8. |
|
COMMITMENTS AND OFF-BALANCE-SHEET RISK (Continued) |
|
|
|
A summary of the contractual amounts of our financial instruments with off-balance-sheet risk at
September 30, 2008 and December 31, 2007 follows: |
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
Commercial unused lines of credit |
|
$ |
340,129,000 |
|
|
$ |
377,493,000 |
|
Unused lines of credit secured by 1-4 family
residential properties |
|
|
31,379,000 |
|
|
|
33,083,000 |
|
Credit card unused lines of credit |
|
|
9,457,000 |
|
|
|
9,035,000 |
|
Other consumer unused lines of credit |
|
|
4,734,000 |
|
|
|
6,910,000 |
|
Commitments to make loans |
|
|
26,801,000 |
|
|
|
66,196,000 |
|
Standby letters of credit |
|
|
65,231,000 |
|
|
|
81,292,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loan and lease commitments |
|
$ |
477,731,000 |
|
|
$ |
574,009,000 |
|
|
|
|
|
|
|
|
|
|
Certain of our commercial loan customers have entered into interest rate swap agreements
directly with our correspondent banks. To assist our commercial loan customers in these
transactions, and to encourage our correspondent banks to enter into the interest rate swap
transactions with minimal credit underwriting analyses on their part, we have entered into risk
participation agreements with the correspondent banks whereby we agree to make payments to the
correspondent banks owed by our commercial loan customers under the interest rate swap agreement
in the event that our commercial loan customers do not make the payments. We are not a party to
the interest rate swap agreements under these arrangements. As of September 30, 2008, the total
notional amount of the underlying interest rate swap agreements was $53.4 million, with a net
fair value from our commercial loan customers perspective of negative $919,000. We made no
payments during the first nine months of 2008 in regards to the risk participation agreements
and have accrued no liability for such potential payments. These risk participation agreements
are considered financial
guarantees in accordance with FASB Interpretation No. 45 and are therefore recorded as
liabilities at fair value, generally equal to the fees collected at the time of their execution.
These liabilities are accreted into income during the term of the interest rate swap
agreements, generally ranging from four to fifteen years. |
|
9. |
|
HEDGING ACTIVITIES |
|
|
|
Our interest rate risk policy includes guidelines for measuring and monitoring interest rate
risk. Within these guidelines, parameters have been established for maximum fluctuations in net
interest income. Possible fluctuations are measured and monitored using net interest income
simulation. Our policy provides for the use of certain derivative instruments and hedging
activities to aid in managing interest rate risk to within the policy parameters. |
16
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
9. |
|
HEDGING ACTIVITIES (Continued) |
|
|
|
A majority of our assets are comprised of commercial loans on which the interest rates are
variable, while a majority of our liabilities are comprised of fixed rate certificates of
deposit and FHLB advances. Due to this repricing mismatch, we may periodically enter into
derivative financial instruments to mitigate the exposure in cash flows resulting from changes
in interest rates. |
|
|
|
Summary information about interest rate swaps at September 30, 2008 follows. There were no
interest rate swaps in effect as of December 31, 2007. |
|
|
|
|
|
Notional amounts |
|
$ |
275,000,000 |
|
Weighted average pay rates |
|
|
5.00 |
% |
Weighted average receive rates |
|
|
5.33 |
% |
Weighted average maturity |
|
10.7 Months |
|
Net fair value (after-tax) |
|
$ |
616,000 |
|
Our interest rate swaps qualify as cash flow hedges that convert the variable rate cash inflows
on certain of our prime-based commercial loans to a fixed rate of interest. The interest rate
swaps pay interest to us at stated fixed rates and require that we make interest payments based
on the average prime rates.
The net after-tax derivative gain included in accumulated other comprehensive income at
September 30, 2008 is projected to be reclassified into interest income in conjunction with the
recognition of interest payments on the related commercial loans through the stated maturity
dates of the various interest rate swaps, with approximately $531,000 of net after-tax income
expected to be recognized in interest income over the next twelve months. During the first nine
months of 2008, a net after-tax derivative gain of $185,000 was reclassified from other
accumulated comprehensive income as an increase in interest income.
Retrospective hedge effectiveness for our cash flow hedges is determined using a dollar offset
ratio on a quarterly basis. There were no components of our derivative instruments that were
excluded from the assessment of hedge effectiveness. There were no ineffective gains or losses
associated with cash flow hedges during the first nine months of 2008.
On October 30, 2008, we terminated all of our interest rate swaps. The termination coincides
with our decision to not lower our prime rate in association with the Federal Open Market
Committees reduction of the targeted federal funds rate by 50 basis points announced on October
29, 2008. Virtually all of our prime-based commercial floating rate loans are tied to the
Mercantile Bank Prime Rate, while our interest rate swaps utilized the Wall Street Journal Prime
Rate. The resulting
difference negatively impacted the effectiveness of our interest rate swaps, so we believed it
was prudent to terminate them. The aggregate fair value of the interest rate swaps on October
30, 2008 was approximately $2.4 million, which will be accreted into interest income on loans
and leases during upcoming reporting periods based on the original term of the interest rate
swaps as follows: approximately $525,000 during the fourth quarter 2008; $765,000 first quarter
2009; $525,000 second quarter 2009; $250,000 third and fourth quarters 2009; and $100,000 first
quarter 2010.
17
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
10. |
|
FAIR VALUES |
|
|
|
As discussed in Note 1, effective January 1, 2008, we implemented SFAS No. 157 relating to our
financial assets and liabilities. SFAS No. 157 establishes a fair value hierarchy that
prioritizes the use of inputs used in valuation methodologies into the following three levels: |
|
|
|
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that
we have the ability to access as of the measurement date. |
|
|
|
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for
similar assets or liabilities in active markets; quoted prices for identical or similar assets
or liabilities in markets that are not active; or other inputs that are observable or can be
derived from or corroborated by observable market data by correlation or other means. |
|
|
|
Level 3: Significant unobservable inputs that reflect our own assumptions about the assumptions
that market participants would use in pricing an asset or liability. |
|
|
|
The following is a description of our valuation methodologies used to measure and disclose the
fair values of our financial assets and liabilities on a recurring or nonrecurring basis: |
|
|
|
Securities available for sale. Securities available for sale are recorded at fair value on a
recurring basis. Fair value measurement is based on quoted prices, if available. If quoted
prices are not available, fair values are measured using independent pricing models. Level 2
securities include U.S. Government Agency bonds and mortgage-backed securities issued or
guaranteed by U.S. Government Agencies. Upon further evaluation of our securities portfolio
during the third quarter, we concluded that all of our investments previously categorized as
Level 1 securities are more appropriately categorized as Level 2 securities. We have no Level 1
or 3 securities. |
|
|
|
Securities held to maturity. Securities held to maturity are carried at amortized cost when we
have the positive intent and ability to hold them to maturity. The fair value of held to
maturity securities, as disclosed in the accompanying consolidated financial statements, is
based on quoted prices, if available. If quoted prices are not available, fair values are
measured using independent pricing models. |
|
|
|
Mortgage loans held for sale. Mortgage loans held for sale are carried at the lower of cost or
fair value and are measured on a nonrecurring basis. Fair value is based on independent quoted
market prices, where applicable, or the prices for other mortgage whole loans with similar
characteristics. As of September 30, 2008, we determined that the fair value of our mortgage
loans held for sale was similar to the cost; therefore, we carried the $1.7 million of such
loans at cost so they are not included in the nonrecurring table below. |
18
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
10. |
|
FAIR VALUES (Continued) |
|
|
|
Loans and leases. We do not record loans and leases at fair value on a recurring basis.
However, from time to time, we record nonrecurring fair value adjustments to collateral
dependent loans and leases to reflect partial write-downs or specific reserves that are based on
the observable market price or current estimated value of the collateral. These loans and
leases are reported in the nonrecurring table below at initial recognition of impairment and on
an ongoing basis until recovery or charge-off. At time of foreclosure or repossession,
foreclosed and repossessed assets are adjusted to fair value less costs to sell upon transfer of
the loans and leases to foreclosed and repossessed assets, establishing a new cost basis. At
that time, they are reported in our fair value disclosures related to nonfinancial assets. |
|
|
|
Derivatives. For interest rate swaps, we measure fair value utilizing models that use primarily
market observable inputs, such as yield curves and option volatilities, and accordingly, are
classified as Level 2. |
|
|
|
Assets and Liabilities Measured at Fair Value on a Recurring
Basis |
|
|
|
The balances of assets and liabilities measured at fair value on a recurring basis as of
September 30, 2008 are as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quoted |
|
|
|
|
|
|
|
|
|
|
|
|
|
Prices in |
|
|
|
|
|
|
|
|
|
|
|
|
|
Active |
|
|
Significant |
|
|
|
|
|
|
|
|
|
|
Markets for |
|
|
Other |
|
|
Significant |
|
|
|
|
|
|
|
Identical |
|
|
Observable |
|
|
Unobservable |
|
|
|
|
|
|
|
Assets |
|
|
Inputs |
|
|
Inputs |
|
|
|
Total |
|
|
(Level 1) |
|
|
(Level 2) |
|
|
(Level 3) |
|
|
Securities available for sale |
|
$ |
144,019,000 |
|
|
$ |
0 |
|
|
$ |
144,019,000 |
|
|
$ |
0 |
|
Derivatives |
|
|
948,000 |
|
|
|
0 |
|
|
|
948,000 |
|
|
|
0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
144,967,000 |
|
|
$ |
0 |
|
|
$ |
144,967,000 |
|
|
$ |
0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We had no assets or liabilities measured at Level 3 during the first nine months of 2008;
however, in previous Form 10-Q and Form 10-K filings we indicated that our securities available
for sale were measured at Level 1. We recently re-reviewed documentation provided to us by our
third party securities pricing vendor and determined that the measurement tools utilized to
determine the fair value of our securities more closely reflects a Level 2 categorization than
Level 1 as previously reported. There have been no significant measurement methodology
changes employed by our securities pricing vendor.
19
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
10. |
|
FAIR VALUES (Continued) |
|
|
|
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis |
|
|
|
The balances of assets and liabilities measured at fair value on a nonrecurring basis as of
September 30, 2008 and related gains (losses) for the three and nine months ended September 30,
2008 are as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quoted |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Price in |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Active |
|
|
Significant |
|
|
|
|
|
|
|
|
|
|
|
|
|
Markets for |
|
|
Other |
|
|
Significant |
|
|
Total Gains (Losses) |
|
|
|
|
|
|
|
Identical |
|
|
Observable |
|
|
Unobservable |
|
|
Three Months |
|
|
Nine Months |
|
|
|
|
|
|
|
Assets |
|
|
Inputs |
|
|
Inputs |
|
|
Ended |
|
|
Ended |
|
|
|
Total |
|
|
(Level 1) |
|
|
(Level 2) |
|
|
(Level 3) |
|
|
Sept 30, 2008 |
|
|
Sept 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Impaired loans (1) |
|
$ |
34,298,000 |
|
|
$ |
0 |
|
|
$ |
34,298,000 |
|
|
$ |
0 |
|
|
$ |
(1,732,000 |
) |
|
$ |
(11,560,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
34,298,000 |
|
|
$ |
0 |
|
|
$ |
34,298,000 |
|
|
$ |
0 |
|
|
$ |
(1,732,000 |
) |
|
$ |
(11,560,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Represents carrying value and related write-downs and specific reserves for
which adjustments are based on the estimated value of the property. |
|
|
Nonfinancial Assets and Liabilities Subject to FSP FAS 157-2 Deferral Provisions |
|
|
|
We will apply the fair value measurement and disclosure provisions of SFAS No. 157 effective on
January 1, 2009 to nonfinancial assets and liabilities measured on a nonrecurring basis. We
measure the fair value of the following on a nonrecurring basis: (1) long-lived assets and (2)
foreclosed and repossessed assets. |
|
11. |
|
REGULATORY MATTERS |
|
|
|
We are subject to regulatory capital requirements administered by federal banking agencies.
Capital adequacy guidelines and prompt corrective action regulations involve quantitative
measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory
accounting practices. Capital amounts and classifications are also subject to qualitative
judgments by regulators about components, risk weightings, and other factors, and the regulators
can lower classifications in certain cases. Failure to meet various capital requirements can
initiate regulatory action that could have a direct material effect on our financial statements. |
|
|
|
The prompt corrective action regulations provide five classifications, including well
capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and
critically undercapitalized, although these terms are not used to represent overall financial
condition. If not well capitalized, regulatory approval is required to accept brokered
deposits. Subject to limited exceptions, no institution may make a capital distribution if,
after making the distribution, it would be undercapitalized. If an institution is
undercapitalized, it is subject to being closely monitored by its principal federal regulator,
its asset growth and expansion are restricted, and plans for capital restoration are required.
In addition, further specific types of restrictions may be imposed on the institution at the
discretion of the federal regulator. At September 30, 2008 and December 31, 2007, the most
recent regulatory notifications categorized the Bank as well capitalized under the regulatory
framework for prompt corrective action. |
20
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
11. |
|
REGULATORY MATTERS (Continued) |
|
|
|
Our actual capital levels and minimum required levels were (dollars in thousands): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Minimum Required |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
to be Well |
|
|
|
|
|
|
|
|
|
|
Minimum Required |
|
Capitalized Under |
|
|
|
|
|
|
|
|
|
|
for Capital |
|
Prompt Corrective |
|
|
Actual |
|
Adequacy Purposes |
|
Action Regulations |
|
|
Amount |
|
Ratio |
|
Amount |
|
Ratio |
|
Amount |
|
Ratio |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total capital (to risk
weighted assets) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated |
|
$ |
229,320 |
|
|
|
10.9 |
% |
|
$ |
168,925 |
|
|
|
8.0 |
% |
|
$ |
NA |
|
|
NA |
Bank |
|
|
226,055 |
|
|
|
10.7 |
|
|
|
168,570 |
|
|
|
8.0 |
|
|
|
210,712 |
|
|
|
10.0 |
% |
Tier 1 capital (to risk
weighted assets) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated |
|
|
202,887 |
|
|
|
9.6 |
|
|
|
84,463 |
|
|
|
4.0 |
|
|
NA |
|
NA |
Bank |
|
|
199,677 |
|
|
|
9.5 |
|
|
|
84,285 |
|
|
|
4.0 |
|
|
|
126,428 |
|
|
|
6.0 |
|
Tier 1 capital (to
average assets) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated |
|
|
202,887 |
|
|
|
9.3 |
|
|
|
86,915 |
|
|
|
4.0 |
|
|
NA |
|
NA |
Bank |
|
|
199,677 |
|
|
|
9.2 |
|
|
|
86,752 |
|
|
|
4.0 |
|
|
|
108,440 |
|
|
|
5.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total capital (to risk
weighted assets) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated |
|
$ |
235,700 |
|
|
|
11.4 |
% |
|
$ |
165,562 |
|
|
|
8.0 |
% |
|
$ |
NA |
|
|
NA |
Bank |
|
|
232,435 |
|
|
|
11.3 |
|
|
|
165,292 |
|
|
|
8.0 |
|
|
|
206,615 |
|
|
|
10.0 |
% |
Tier 1 capital (to risk
weighted assets) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated |
|
|
209,886 |
|
|
|
10.1 |
|
|
|
82,781 |
|
|
|
4.0 |
|
|
NA |
|
NA |
Bank |
|
|
206,621 |
|
|
|
10.0 |
|
|
|
82,646 |
|
|
|
4.0 |
|
|
|
123,969 |
|
|
|
6.0 |
|
Tier 1 capital (to
average assets) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated |
|
|
209,886 |
|
|
|
10.0 |
|
|
|
84,169 |
|
|
|
4.0 |
|
|
NA |
|
NA |
Bank |
|
|
206,621 |
|
|
|
9.8 |
|
|
|
84,061 |
|
|
|
4.0 |
|
|
|
105,076 |
|
|
|
5.0 |
|
Our consolidated capital levels as of September 30, 2008 and December 31, 2007 include the $32.0
million in trust preferred securities issued by the trust subject to certain limitations.
Federal Reserve guidelines limit the amount of trust preferred securities which can be included
in our Tier 1 capital to 25% of total Tier 1 capital. As of September 30, 2008 and December 31,
2007, all $32.0 million of the trust preferred securities were included as Tier 1 capital.
21
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
11. |
|
REGULATORY MATTERS (Continued) |
|
|
|
Our and our banks ability to pay cash and stock dividends is subject to limitations under
various laws and regulations and to prudent and sound banking practices. We have paid three
cash dividends on our common stock during 2008. On January 8, 2008, we declared a $0.15 per
share cash dividend on our common stock, which was paid on March 10, 2008 to record holders as
of February 8, 2008. On April 8, 2008, we declared an $0.08 per share cash dividend on our
common stock, which was paid on June 10, 2008 to record holders as of May 9, 2008. On July 10,
2008, we declared a $0.04 per share cash dividend on our common stock, which was paid on
September 10, 2008 to record holders as of August 8, 2008. On October 9, 2008, we declared a
$0.04 per share cash dividend on our common stock, which is payable on December 10, 2008 to
record holders as of November 10, 2008. |
22
MERCANTILE BANK CORPORATION
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
Forward Looking Statements
This report contains forward-looking statements that are based on managements beliefs,
assumptions, current expectations, estimates and projections about the financial services industry,
the economy, and our company. Words such as anticipates, believes, estimates, expects,
forecasts, intends, is likely, plans, projects, and variations of such words and similar
expressions, are intended to identify such forward-looking statements. These statements are not
guarantees of future performance and involve certain risks, uncertainties and assumptions (Future
Factors) that are difficult to predict with regard to timing, extent, likelihood and degree of
occurrence. Therefore, actual results and outcomes may materially differ from what may be
expressed or forecasted in such forward-looking statements. We undertake no obligation to update,
amend, or clarify forward looking-statements, whether as a result of new information, future events
(whether anticipated or unanticipated), or otherwise.
Future Factors include, among others, changes in interest rates and interest rate relationships;
demand for products and services; the degree of competition by traditional and non-traditional
competitors; changes in banking regulation; changes in tax laws; changes in prices, levies, and
assessments; the impact of technological advances; governmental and regulatory policy changes; the
outcomes of contingencies; trends in customer behavior as well as their ability to repay loans;
changes in local real estate values; changes in the national and local economies; and risk factors
described in our annual report on Form 10-K for the year ended December 31, 2007 or in this report.
These are representative of the Future Factors that could cause a difference between an ultimate
actual outcome and a preceding forward-looking statement.
Introduction
The following discussion compares the financial condition of Mercantile Bank Corporation and its
consolidated subsidiaries, Mercantile Bank of Michigan (our bank), our banks three subsidiaries
Mercantile Bank Mortgage Company, LLC (our mortgage company), Mercantile Bank Real Estate Co.,
LLC (our real estate company) and Mercantile Insurance Center, Inc. (our insurance center), at
September 30, 2008 to December 31, 2007 and the results of operations for the three and nine months
ended September 30, 2008 and September 30, 2007. This discussion should be read in conjunction
with the interim consolidated financial statements and footnotes included in this report. Unless
the text clearly suggests otherwise, references in this report to us, we, our, or the
company include Mercantile Bank Corporation and its consolidated subsidiaries referred to above.
Critical Accounting Policies
Accounting principles generally accepted in the United States of America are complex and require
management to apply significant judgment to various accounting, reporting and disclosure matters.
Management must use assumptions and estimates to apply these principles where actual measurements
are not possible or practical. Managements Discussion and Analysis of Financial Condition and
Results of Operations should be read in conjunction with our unaudited financial statements
included in this report. For a complete discussion of our significant accounting policies, see
footnotes to our Consolidated Financial Statements included on pages F-37 through F-42 in our Form
10-K for the fiscal year ended December 31, 2007 (Commission file number 000-26719). Below is a
discussion of our allowance for loan and lease losses policy. This policy is critical because it
is highly dependent upon subjective or complex judgments, assumptions and estimates. Changes in
such estimates may have a significant impact on the financial statements, and actual results may
differ from those estimates. Management has reviewed the application of this policy with the Audit
Committee of the companys Board of Directors.
23
MERCANTILE BANK CORPORATION
Allowance for Loan and Lease Losses: The allowance for loan and lease losses (allowance)
is a valuation allowance for probable incurred credit losses, increased by the provision for loan
and lease losses and recoveries, and decreased by charge-offs. Management estimates the allowance
balance required based on past loan loss experience, the nature and volume of the portfolio,
information about specific borrower situations and estimated collateral values, and economic
conditions. Allocations of the allowance may be made for specific loans and leases, but the entire
allowance is available for any loan or lease that, in managements judgment, should be charged-off. Loan and lease losses are charged
against the allowance when management believes the uncollectibility of a loan or lease balance is
likely.
A loan or lease is impaired when full payment under the loan or lease terms is not expected.
Impairment is evaluated in aggregate for smaller-balance loans of similar nature such as
residential mortgage, consumer and credit card loans, and on an individual loan basis for other
loans. If a loan or lease is impaired, a portion of the allowance is allocated so that the loan or
lease is reported, net, at the present value of estimated future cash flows using the loans or
leases existing rate or at the fair value of collateral if repayment is expected solely from the
collateral. Loans and leases are evaluated for impairment when payments are delayed, typically 30
days or more, or when serious deficiencies are identified within the credit relationship.
Financial Condition
During the first nine months of 2008, our assets increased from $2,121.4 million on December 31,
2007, to $2,207.4 million on September 30, 2008. This represents an increase in total assets of
$86.0 million, or 4.1%. The asset growth was comprised primarily of a $67.2 million increase in
net loans and a $12.0 million increase in securities. The growth in total assets was primarily
funded by a $105.0 million increase in Federal Home Loan Bank advances and an $8.5 million increase
in securities sold under agreements to repurchase (repurchase agreements), which more than offset
a $15.5 million decrease in deposits and a $13.8 million decrease in federal funds purchased.
Commercial loans and leases increased by $64.4 million during the first nine months of 2008, and at
September 30, 2008, totaled $1,723.6 million, or 92.1% of the total loan and lease portfolio. The
growth in our commercial loan and lease portfolio has slowed over the past several quarters,
especially in comparison to our strong growth since our inception almost 11 years ago. The slower
growth was initially due to the competitive pricing and underwriting environments within our
markets. These competitive pressures, from financial institutions and other entities such as
private equity funds, had negatively impacted the volume of loans we booked and accelerated the
level of loan payoffs. Despite these competitive pressures, we remained committed to our
traditionally high standards of underwriting and believed the long term benefits of this
conservative posture outweighed the short term negative impact to our net interest income and net
income. More recently, the slower commercial loan and lease growth reflects the impact of our
capital management strategies which in part generally limits new extensions of credit to existing
borrowers and new borrowing relationships which meet specified customer profitability parameters.
The continued significant concentration of the loan and lease portfolio in commercial loans and
leases is consistent with our stated strategy of focusing a substantial amount of our efforts on
wholesale banking. Corporate and business lending is an area of expertise of our senior
management team, and our commercial lenders have extensive commercial lending experience, with most
having at least 10 years experience. Of each of the loan categories that we originate, commercial
loans and leases are most efficiently originated and managed; thus limiting overhead costs by
necessitating the attention of fewer full-time employees. Our commercial lending business
generates the largest portion of local deposits and is our primary source of demand deposits.
24
MERCANTILE BANK CORPORATION
The following table summarizes our loans secured by real estate, excluding residential mortgage
loans representing permanent financing of owner occupied dwellings and home equity lines of credit,
as of September 30, 2008:
|
|
|
|
|
Residential Vacant Land |
|
$ |
21,692,000 |
|
Residential Land Development |
|
|
56,441,000 |
|
Residential Construction |
|
|
22,157,000 |
|
Commercial Vacant Land |
|
|
28,952,000 |
|
Commercial Land Development |
|
|
26,539,000 |
|
Commercial Construction NonOwner Occupied |
|
|
96,491,000 |
|
Commercial Construction Owner Occupied |
|
|
18,129,000 |
|
Commercial NonOwner Occupied |
|
|
559,039,000 |
|
Commercial Owner Occupied |
|
|
357,792,000 |
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
1,187,232,000 |
|
|
|
|
|
Residential mortgage loans and consumer loans increased an aggregate $6.6 million during the first
nine months of 2008. As of September 30, 2008, residential mortgage and consumer loans totaled a
combined $147.2 million, or 7.9% of the total loan and lease portfolio. Although we plan to
increase our non-commercial loan portfolios in future periods, we expect the commercial sector of
our lending efforts and resultant assets to remain the dominant loan portfolio category given our
wholesale banking strategy.
Our credit policies establish guidelines to manage credit risk and asset quality. These guidelines
include loan review and early identification of problem loans and leases to provide appropriate
loan and lease portfolio administration. The credit policies and procedures are meant to minimize
the risk and uncertainties inherent in lending. In following these policies and procedures, we
must rely on estimates, appraisals and evaluations of loans and leases and the possibility that
changes in these could occur quickly because of changing economic conditions. Identified problem
loans and leases, which exhibit characteristics (financial or otherwise) that could cause the loans
and leases to become nonperforming or require restructuring in the future, are included on the
internal watch list. Senior management reviews this list regularly.
The level of net loan and lease charge-offs and nonperforming assets increased throughout 2007.
Although we were never directly involved in the underwriting of or the investing in subprime
residential real estate loans, the apparent substantial and rapid collapse of this line of business
during 2007 throughout the United States had a significant negative impact on the residential real
estate development lending portion of our business. The resulting decline in real estate prices
and slowdown in sales stretched the cash flow of our local developers and eroded the value of our
underlying collateral, causing elevated levels of nonperforming assets and net loan and lease
charge-offs.
25
MERCANTILE BANK CORPORATION
As of December 31, 2007, nonperforming assets totaled $35.7 million, or 1.68% of total assets, an
increase from the $9.6 million, or 0.46% of total assets, as of December 31, 2006. As of December
31, 2007, nonperforming loans secured by real estate, combined with foreclosed properties, totaled
$28.6 million, or about 80% of total nonperforming assets. Nonperforming loans and foreclosed
properties associated with the development of residential real estate totaled $11.1 million, with
another $3.2 million in nonperforming loans secured by, and foreclosed properties consisting of,
residential properties. Net loan and lease charge-offs during 2007 totaled $6.7 million, or 0.38%
of average total loans and leases. Net loan and lease charge-offs during the fourth quarter of
2007 totaled $3.9 million, or about 58%, of the total net loan and lease charge-offs for all of
2007. During 2006, net loan and lease charge-offs totaled $4.9 million, or 0.29% of average total
loans and leases.
During the first quarter of 2008, we experienced a sudden and rapid deterioration in a number of
commercial loan relationships which previously had been performing fairly well. An analysis of
certain commercial borrowers revealed a reduced capability on the part of these borrowers to make
required payments as indicated by factors such as delinquent loan payments, diminished cash flow,
deteriorating financial performance, or past due property taxes, and in the case of commercial and
residential development projects slow absorption or sales trends. In addition, commercial real
estate is the primary collateral source for many of these borrowing relationships and recently completed evaluations and
appraisals in many cases reflected significant declines from the original estimated values.
During the second quarter of 2008, we found that the financial condition of some of our borrowers
and guarantors had become increasingly strained, as real estate remained unsold or insufficiently
leased and liquid sources of repayment were exhausted or significantly depleted. Completed
evaluations and appraisals in the second quarter of 2008 often reflected substantial declines from
the original estimated values, and in some cases even in comparison to property value estimates
made within the past several quarters.
While we continued to face a distressed operating environment during the third quarter of 2008, we
experienced a marked slowdown in borrowing relationships that deteriorated to nonperforming status.
In addition, we saw notable improvement in a number of larger commercial loan relationships.
Although we experienced a small net increase in the level of nonperforming assets during the third
quarter, the rate of increase was considerably lower than over the past few quarters.
As of September 30, 2008, nonperforming assets totaled $47.8 million, or 2.17% of total assets,
compared to $46.6 million, or 2.16% of total assets, as of June 30, 2008, and to $25.9 million, or
1.23% of total assets, as of September 30, 2007. As of September 30, 2008, nonperforming loans
secured by real estate, combined with foreclosed properties, totaled $43.1 million, or about 90% of
total nonperforming assets. Nonperforming loans and foreclosed properties associated with the
development of residential real estate totaled $15.9 million, with another $5.2 million in
nonperforming loans secured by, and foreclosed properties consisting of, residential properties.
Nonperforming assets consisting of owner occupied commercial properties and nonowner occupied
commercial properties totaled $5.3 million and $14.4 million, respectively. Approximately 36
percent of nonperforming loans were contractually current on payments as of September 30, 2008.
26
MERCANTILE BANK CORPORATION
Net loan and lease charge-offs in the third quarter of 2008 were $4.3 million, or an annualized
0.91% of average total loans and leases, compared to $4.3 million (0.95%) and $5.0 million (1.11%)
during the second and first quarters of 2008, respectively. Net loan and lease charge-offs
associated with commercial-related loans and residential-related loans totaled $3.6 million and
$0.7 million during the third quarter of 2008, and $10.0 million and $3.6 million during the first
nine months of 2008, respectively. Gross loan and lease charge-offs totaled $4.5 million during
the third quarter of 2008, of which approximately $3.0 million, or 66%, reflect the charge-off of
specific reserves that were created through provisions for loan and lease losses in prior quarters.
The following table provides a breakdown of nonperforming assets as of September 30, 2008 and net
loan and lease charge-offs during the first nine months of 2008 by property type:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nonperforming |
|
|
Foreclosed |
|
|
Net Loan & Lease |
|
|
|
Loans |
|
|
Properties |
|
|
Charge-Offs |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential Land Development |
|
$ |
12,205,000 |
|
|
$ |
1,637,000 |
|
|
$ |
1,298,000 |
|
Residential Construction |
|
|
2,058,000 |
|
|
|
0 |
|
|
|
559,000 |
|
Residential Owner Occupied / Rental |
|
|
4,680,000 |
|
|
|
518,000 |
|
|
|
1,708,000 |
|
Commercial Land Development |
|
|
1,198,000 |
|
|
|
1,071,000 |
|
|
|
1,599,000 |
|
Commercial Construction |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Commercial Owner Occupied |
|
|
4,405,000 |
|
|
|
930,000 |
|
|
|
627,000 |
|
Commercial NonOwner Occupied |
|
|
12,862,000 |
|
|
|
1,532,000 |
|
|
|
3,219,000 |
|
Commercial NonReal Estate |
|
|
4,639,000 |
|
|
|
55,000 |
|
|
|
4,452,000 |
|
Consumer NonReal Estate |
|
|
0 |
|
|
|
0 |
|
|
|
41,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
42,047,000 |
|
|
$ |
5,743,000 |
|
|
$ |
13,503,000 |
|
|
|
|
|
|
|
|
|
|
|
Securities increased $12.0 million during the first nine months of 2008, totaling $223.7 million as
of September 30, 2008. Proceeds from called U.S. Government Agency bonds totaled $54.0 million
during the first nine months of 2008, with another $6.4 million received from principal paydowns on
mortgage-backed securities and $1.5 million from matured municipal securities. The proceeds were
invested back into the securities portfolio, with $36.0 million invested in U.S. Government Agency
bonds and $22.3 million invested in mortgage-backed securities. We also purchased $9.6 million in
bonds issued through the Michigan Strategic Fund during the first nine months of 2008, while FHLB
of Indianapolis stock increased $5.9 million to support the increased level of FHLB advances. Our
securities portfolio continues to be primarily comprised of U.S. Government Agency bonds,
mortgage-backed securities issued or guaranteed by U.S. Government Agencies, investment-grade
tax-exempt municipal securities and FHLB of Indianapolis stock.
Market values on our U.S. Government Agency bonds, mortgage-backed securities issued or guaranteed
by U.S. Government Agencies and investment-grade tax-exempt municipal securities are obtained from
a third party vendor on a monthly basis. Our vendor utilizes evaluated pricing models that vary by
type of security and incorporate available market data. Standard inputs include issuer and type of
security, benchmark yields, reported trades, broker/dealer quotes, and issuer spreads. The market
value of other securities is estimated at carrying value as those financial instruments are
generally bought and sold at par value. We believe our valuation methodology provides for a
reasonable estimation of market value, and that it is consistent with the requirements of SFAS No.
157. Reference is made to Note 10 for additional information.
27
MERCANTILE BANK CORPORATION
Cash and cash equivalents increased $1.2 million during the first nine months of 2008, totaling
$30.6 million on September 30, 2008. Cash and due from bank balances were down $3.4 million, while
short-term investments decreased $0.2 million. In addition, we were in a federal funds sold
position of $4.8 million on September 30, 2008, compared to a federal funds purchased position of
$13.8 million on December 31, 2007. Our commercial lending and wholesale funding focus results in
relatively large day-to-day fluctuations of our cash and cash equivalent balances. The average
cash and cash equivalents during the first nine months of 2008 equaled $30.5 million, which
includes an average federal funds sold balance of $8.2 million.
Premises and equipment at September 30, 2008 equaled $33.0 million, a decrease of $1.4 million over
the past nine months. Purchases of premises and equipment during the first nine months of 2008
totaled $0.6 million. Depreciation expense during the first nine months of 2008 equaled $2.0
million.
Deposits decreased $15.5 million during the first nine months of 2008, totaling $1,575.7 million as
of September 30, 2008. Local deposits decreased $136.1 million, while out-of-area deposits
increased $120.6 million. As a percent of total deposits, local deposits equaled 33.6% on
September 30, 2008, a decrease from the 41.9% as of December 31, 2007. Noninterest-bearing
checking accounts declined $23.9 million during the first nine months of 2008, totaling $109.2
million on September 30, 2008. A portion of the decline reflects the transfers of monies into
repurchase agreements as part of our sweep program, but it also appears that the distressed economy
is resulting in some of our business customers having lower checking account balances than typical.
Savings balances and local certificates of deposit were down a combined $118.4 million during the
first nine months of 2008, totaling $358.3 million on September 30, 2008. In recent months, we
have experienced depositors purposely reducing their deposit balances with us, in large part
reflecting their concerns over our financial health and that of the entire banking industry, with
some larger depositors transferring portions of their deposit balances to other financial
institutions or into brokerage accounts. We have also lost deposits during 2008 due to relatively
high certificate of deposit rates offered by some financial institutions located in our markets.
While we believe our certificate of deposit rates, which in most cases exceed the rates offered in
the brokered deposit markets, are competitive, some financial institutions in our markets have been
offering certificate of deposit rates that far exceed our rates, in some cases by as much as 100 basis points. Although disappointed by
the loss of local deposits, we believe it prudent to obtain lower-costing funds via other funding
sources, and we are hopeful of regaining a majority of the lost deposits in future periods.
Out-of-area deposits increased $120.6 million during the first nine months of 2008, totaling
$1,045.6 million as of September 30, 2008. Out-of-area deposits consist primarily of certificates
of deposit obtained from depositors located outside our market areas and placed by deposit brokers
for a fee, but also include certificates of deposit obtained from the deposit owners directly. The
owners of out-of-area deposits include individuals, businesses and municipal governmental units
located throughout the United States. Notwithstanding our decision to increase the use of FHLB
advances due to lower interest rates offered on FHLB advance products in comparison to the
relatively higher interest rate environment in the brokered deposit markets, out-of-area deposits
increased during the first nine months of 2008 to offset the reduction in local deposits and fund
earning asset growth.
Repurchase agreements increased $8.5 million during the first nine months of 2008, totaling $106.0
million as of September 30, 2008. As part of our sweep account program, collected funds from
certain business noninterest-bearing checking accounts are invested into over-night
interest-bearing repurchase agreements. Such repurchase agreements are not deposit accounts and
are not afforded federal deposit insurance. A majority of the increase in repurchase agreements
reflects transfers from noninterest-bearing checking accounts.
28
MERCANTILE BANK CORPORATION
Federal funds purchased declined by $13.8 million during the first nine months of 2008, as we were
in a federal funds sold position as of September 30, 2008 compared to a $13.8 million purchased
position as of December 31, 2007. FHLB advances increased $105.0 million during the first nine
months of 2008, totaling $285.0 million as of September 30, 2008. The FHLB advances are
collateralized by residential mortgage loans, first mortgage liens on multi-family residential
property loans and first mortgage liens on commercial real estate property loans, and substantially
all other assets of our bank, under a blanket lien arrangement. Our borrowing line of credit as of
September 30, 2008 totaled $318.2 million, with availability of $23.6 million. FHLB advances,
along with out-of-area deposits, are the primary components of our wholesale funding program.
Liquidity
Liquidity is measured by our ability to raise funds through deposits, borrowed funds, capital or
cash flow from the repayment of loans and securities. These funds are used to meet deposit
withdrawals, fund loans and securities, and operate our company. Liquidity is generally achieved
through the growth of local and out-of-area deposits, advances from the FHLB and federal funds
purchased, as well as liquid assets such as securities available for sale, matured and called
securities, and federal funds sold. Asset and liability management is the process of managing our
balance sheet to achieve a mix of earning assets and liabilities that maximizes profitability,
while providing adequate liquidity.
Our liquidity strategy is to fund loan growth with deposits, repurchase agreements and FHLB
advances, and to maintain an adequate level of short- and medium-term investments to meet typical
daily loan and deposit activity. Although deposit and repurchase agreement growth from customers
located in our market areas has historically generally increased, this growth has not been
sufficient to meet our historical substantial loan growth and provide monies for additional
investing activities. To assist in providing the additional needed funds, we have regularly
obtained monies from wholesale funding sources. Wholesale funds, primarily comprised of
certificates of deposit from customers outside of our market areas and advances from the FHLB,
totaled $1,345.6 million, or 67.9% of combined deposits and borrowed funds as of September 30,
2008. As of December 31, 2007, wholesale funds totaled $1,118.8 million, or 59.4% of combined
deposits and borrowed funds.
Although local deposits have historically generally increased as new business, governmental and
individual deposit relationships are established and as existing customers increase balances in
their accounts, the relatively high reliance on wholesale funds will likely remain. As part of our
interest rate risk management strategy, a majority of our wholesale funds have a fixed rate and
mature within one year, reflecting the fact that a majority of our loans and leases have a floating rate tied to
either the Prime or LIBOR rates. While this funding strategy increases inherent liquidity risk, we
believe the increased liquidity risk is sufficiently mitigated by the benefits derived from an
interest rate risk management standpoint. In addition, we have developed a comprehensive
contingency funding plan which we believe further mitigates the increased liquidity risk.
Wholesale funds are generally a lower all-in cost source of funds when compared to the interest
rates that would have to be offered in our local markets to generate a commensurate level of funds.
Interest rates paid on new out-of-area deposits and FHLB advances are generally similar to
interest rates paid on new certificates of deposit issued to local customers. In addition, the
overhead costs associated with wholesale funds are considerably less than the overhead costs that
would be incurred to administer a similar level of local deposits, especially if the estimated
costs of a required expanded branching network were taken into account. We believe the relatively
low overhead costs reflecting our limited branch network mitigate our high reliance on wholesale
funds and resulting relatively low net interest margin.
29
MERCANTILE BANK CORPORATION
As a member of the FHLB of Indianapolis, our bank has access to the FHLB borrowing programs. At
September 30, 2008, advances from the FHLB totaled $285.0 million, an increase of $105.0 million
from the $180.0 million outstanding at December 31, 2007. Based on available collateral as of
September 30, 2008, our bank could borrow an additional $23.6 million. Our bank has the ability to
borrow money on a daily basis through a correspondent bank via an established unsecured federal
funds purchased line, totaling $30.0 million as of September 30, 2008. The average balance of
federal funds purchased during the first nine months of 2008 equaled $5.2 million, compared to an
average $8.2 million federal funds sold position during the same time period.
During the fourth quarter of 2008, we established a line of credit through the discount window
provided by the Federal Reserve Bank of Chicago. Our availability is expected to be approximately
$60.0 million based on the balance of our municipal securities portfolio that will serve as
collateral in the event that we do utilize the line of credit. Currently, we do not expect to use
this line of credit on an ongoing basis, but rather maintain the availability as part of our
contingency funding plan.
In addition to typical loan funding and deposit flow, we must maintain liquidity to meet the
demands of certain unfunded loan commitments and standby letters of credit. As of September 30,
2008, our bank had a total of $412.5 million in unfunded loan commitments and $65.2 million in
unfunded standby letters of credit. Of the total unfunded loan commitments, $385.7 million were
commitments available as lines of credit to be drawn at any time as customers cash needs vary, and
$26.8 million were for loan commitments expected to close and become funded within the next twelve
months. We monitor fluctuations in loan balances and commitment levels and include such data in
managing our overall liquidity.
We monitor our liquidity position and funding strategies on an ongoing basis, but recognize that
unexpected events, changes in economic or market conditions, earnings problems, declining capital
levels or situations beyond our control could cause either short or long term liquidity challenges.
We have developed a comprehensive contingency funding plan that provides a framework for meeting
both temporary and longer-term liquidity disruptions. Depending upon the particular circumstances
of a liquidity situation, possible strategies may include obtaining funds via one or a combination
of the following sources of funds: established lines of credit at a correspondent bank, the Federal
Reserve Bank of Chicago and the FHLB, brokered certificate of deposit market, wholesale securities
repurchase markets, issuance of term debt, sale of assets, or sale of common stock or other
securities.
Capital Resources
Shareholders equity is a noninterest-bearing source of funds that generally provides support for
asset growth. Shareholders equity decreased by $6.9 million during the first nine months of 2008,
from $178.2 million on December 31, 2007, to $171.3 million at September 30, 2008. The decrease is
primarily attributable to the net loss of $5.3 million recorded during the first nine months of
2008 and the payment of cash dividends totaling $2.3 million.
We are subject to regulatory capital requirements primarily administered by federal bank regulatory
agencies. Failure to meet the various capital requirements can initiate regulatory action that
could have a direct material effect on the financial statements. The capital ratios of the company
and our bank as of September 30, 2008 and December 31, 2007 are disclosed under Note 11 of the
Notes to Consolidated Financial Statements.
30
MERCANTILE BANK CORPORATION
Our and our banks ability to pay cash dividends is subject to limitations under various laws and
regulations and to prudent and sound banking practices. We have paid three cash dividends on our
common stock during 2008. On January 8, 2008, we declared a $0.15 per share cash dividend on our
common stock, which was paid on March 10, 2008 to record holders as of February 8, 2008. On April
8, 2008, we declared an $0.08 per share cash dividend on our common stock, which was paid on June
10, 2008 to record holders as of May 9, 2008. On July 10, 2008, we declared a $0.04 per share cash
dividend on our common stock, which was paid on September 10, 2008 to record holders as of August
8, 2008. On October 9, 2008, we declared a $0.04 per share cash dividend on our common stock,
which is payable on December 10, 2008 to record holders as of November 10, 2008. While we want to
maximize shareholder value, which includes the return of capital through cash dividends, given the
current economic environment and its impact on our financial performance, we believe it was prudent
to pay a reduced cash dividend during the second, third and fourth quarters of 2008.
Results of Operations
We recorded net income for the third quarter of 2008 of $1.1 million ($0.13 per basic and diluted
share), which represents a 54.4% decrease from net income of $2.4 million ($0.28 per basic and
diluted share) recorded during the third quarter of 2007. We recorded a net loss for the first
nine months of 2008 of $5.3 million ($0.62 per basic and diluted share), compared with net income
of $8.9 million ($1.05 per basic share and diluted share) recorded during the first nine months of
2007. Net income for the first nine months of 2007 includes a one-time $1.2 million ($0.8 million
after-tax) expense associated with the financial retirement package for former Chairman and Chief
Executive Officer Gerald R. Johnson Jr. which was recorded during the second quarter of 2007 in
conjunction with Mr. Johnsons retirement effective June 30, 2007. Excluding this one-time
expense, net income for the first nine months of 2007 was $9.7 million ($1.14 per basic and diluted
share).
The decline in net income during the third quarter of 2008 in comparison to the third quarter of
2007 is primarily the result of significantly lower net interest income, while the decline in net
income during the first nine months of 2008 in comparison to the same time period in 2007 also
reflects significantly lower net interest income but also includes a substantially higher provision
for loan and lease losses. With our near term asset sensitive position, whereby we have a higher
magnitude of assets subject to repricing than the magnitude of liabilities subject to repricing, we
have experienced a decline in net interest income which has more than offset growth in earning
assets. The higher provision expense depicts the deteriorating quality of certain of our
commercial loans over the past 12 to 18 months, reflecting the negative impact of the distressed
local, state and national economies on our borrowers cash flows and the reduction of collateral
values.
31
MERCANTILE BANK CORPORATION
Interest income during the third quarter of 2008 was $29.8 million, a decrease of 18.9% from the
$36.8 million earned during the third quarter of 2007. Interest income during the first nine
months of 2008 was $90.9 million, a decrease of 16.5% from the $108.9 million earned during the
first nine months of 2007. The reduction in interest income is primarily attributable to a
declining interest rate environment and an increase in nonperforming assets, which more than offset
growth in earning assets. During the third quarter of 2008, earning assets averaged $2,073.8
million, $81.7 million higher than average earning assets of $1,992.1 million during the third
quarter of 2007. Average loans were up $79.7 million and average securities increased $6.9
million. During the first nine months of 2008, earning assets averaged $2,039.6 million, $69.2
million higher than average earning assets of $1,970.4 million during the same time period in 2007.
Average loans were up $63.2 million and average securities increased $6.6 million. Negatively
impacting interest income was the decreased yield on earning assets. During the third quarter of
2008 and 2007, earning assets had an average yield (tax equivalent-adjusted basis) of 5.77% and
7.38%, respectively. During the first nine months of 2008 and 2007, earning assets had a weighted
average yield of 6.00% and 7.45%, respectively. With approximately 60% of our total loans and
leases tied to Prime or LIBOR rates, our earning asset yield has been substantially impacted by the
steep reduction in market interest rates since late third quarter of 2007. Between mid-September
2007 and late April 2008, the Federal Open Market Committee (FOMC) lowered the targeted federal
funds rate by a total of 325 basis points. The resulting similar decline in the Prime and LIBOR
rates, combined with an increased level of nonperforming assets, a very competitive loan and
deposit environment and a flat to inverted yield curve over an extended period of time, have
significantly negatively impacted our yield on earning assets and level of interest income.
The decision by the FOMC to lower the targeted federal funds rate by 50 basis points in early
October 2008 will place additional pressure on our yield on earning assets and level of interest
income in future periods. Although the FOMC decided to lower the targeted federal funds rate by
another 50 basis points in late October 2008, we decided to keep the Mercantile Bank Prime Rate
unchanged. Virtually all of our prime-based commercial floating rate loans are tied to the
Mercantile Bank Prime Rate. Despite the recent 100 basis point reduction in the targeted federal
funds rate, deposit rates have remained substantially unchanged. Steady deposit rates, combined
with an already very low Prime Rate, have placed significant pressure on our net interest income
and net interest margin, and we believed it was prudent to not lower the Mercantile Bank Prime Rate
in association with the FOMC rate reduction in late October. We had $581.6 million in prime-based
loans that would have declined by 50 basis points and another $40.8 million in prime-based loans
that would have declined by 25 basis points if we would have lowered the Mercantile Bank Prime Rate
in late October 2008. Additional future reductions in the targeted federal funds rate are
forecasted by some market participants and analysts. If further reductions occur, we plan to
decide then whether to change or maintain the Mercantile Bank Prime Rate.
In conjunction with our decision to not lower the Mercantile Bank Prime Rate in late October 2008,
we also made the decision to terminate all of our interest rate swaps. The aggregate fair value of
our interest rates swaps totaled $2.4 million, which will be accreted into interest income on loans
and leases in future periods. Attention is directed to Note 9 for additional information on this
decision and its impact on future period interest income.
32
MERCANTILE BANK CORPORATION
Interest expense during the third quarter of 2008 was $18.1 million, a decrease of 20.3% from the
$22.7 million expensed during the third quarter of 2007. Interest expense during the first nine
months of 2008 was $57.2 million, a decrease of 13.8% from the $66.4 million expensed during the first nine months
of 2007. The reduction in interest expense is primarily attributable to a declining interest rate
environment, which more than offset an increase in interest-bearing liabilities necessitated by
asset growth. During the third quarter of 2008, interest-bearing liabilities averaged $1,876.3
million, $95.4 million higher than average interest-bearing liabilities of $1,780.9 million during
the third quarter of 2007. Average FHLB advances were up $150.8 million and average long-term
borrowings increased $15.5 million, while average interest-bearing deposits were down $76.4
million. During the first nine months of 2008, interest-bearing liabilities averaged $1,835.4
million, $72.2 million higher than average interest-bearing liabilities of $1,763.2 million during
the same time period in 2007. Average FHLB advances were up $138.7 million, long-term borrowings
increased $8.1 million and short-term borrowings were up $7.1 million, while average
interest-bearing deposits were down $81.8 million. A decline in the cost of interest-bearing
liabilities provided for a reduction of interest expense. During the third quarter of 2008 and
2007, interest-bearing liabilities had a weighted average rate of 3.83% and 5.06%, respectively.
During the first nine months of 2008 and 2007, interest-bearing liabilities had a weighted average
rate of 4.15% and 5.04%, respectively. The lower average cost of interest-bearing liabilities is
primarily due to the decline in market interest rates.
Net interest income during the third quarter of 2008 was $11.7 million, a decline of 16.5% from the
$14.1 million earned during the third quarter of 2007. Net interest income during the first nine
months of 2008 was $33.7 million, a decline of 20.7% from the $42.5 million earned during the same
time period in 2007. The decrease in net interest income was primarily due to a decline in the net
interest margin, which more than offset the positive impact from growth in earning assets. The net
interest margin during the third quarter of 2008 was 2.30%, compared to the 2.86% during the third
quarter of 2007. During the first nine months of 2008, the net interest margin was 2.26%, compared
to 2.94% during the same time period in 2007. The decline in our net interest margin during both
time periods primarily reflects our yield on earning assets declining at a far greater rate than
the reduction in our cost of funds. Our relatively high reliance on fixed rate certificates of
deposit and FHLB advances results in a lagged reduction in our cost of funds in comparison to the
reduction in our yield on earning assets.
The following table sets forth certain information relating to our consolidated average
interest-earning assets and interest-bearing liabilities and reflects the average yield on assets
and average cost of liabilities for the third quarter of 2008 and 2007. Such yields and costs are
derived by dividing income or expense by the average daily balance of assets or liabilities,
respectively, for the period presented. Tax-exempt securities interest income and yield have been
computed on a tax equivalent basis using a marginal tax rate of 35%. Securities interest income
was increased by $300,000 in the third quarter of 2008 and 2007 for this adjustment.
33
MERCANTILE BANK CORPORATION
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters ended September 30, |
|
|
|
2008 |
|
|
2007 |
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
Balance |
|
|
Interest |
|
|
Rate |
|
|
Balance |
|
|
Interest |
|
|
Rate |
|
|
|
|
|
|
|
|
|
|
|
(dollars in thousands) |
|
|
|
|
|
|
|
|
|
ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans and leases |
|
$ |
1,852,848 |
|
|
$ |
27,161 |
|
|
|
5.82 |
% |
|
$ |
1,773,151 |
|
|
$ |
34,077 |
|
|
|
7.62 |
% |
Securities |
|
|
212,341 |
|
|
|
2,941 |
|
|
|
5.54 |
|
|
|
205,426 |
|
|
|
2,830 |
|
|
|
5.51 |
|
Federal funds sold |
|
|
8,319 |
|
|
|
40 |
|
|
|
1.90 |
|
|
|
12,845 |
|
|
|
168 |
|
|
|
5.13 |
|
Short-term investments |
|
|
279 |
|
|
|
1 |
|
|
|
1.00 |
|
|
|
653 |
|
|
|
5 |
|
|
|
4.50 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest-earning
assets |
|
|
2,073,787 |
|
|
|
30,143 |
|
|
|
5.77 |
|
|
|
1,992,075 |
|
|
|
37,080 |
|
|
|
7.38 |
|
|
|
Allowance for loan and
lease losses |
|
|
(32,358 |
) |
|
|
|
|
|
|
|
|
|
|
(23,508 |
) |
|
|
|
|
|
|
|
|
Other assets |
|
|
131,430 |
|
|
|
|
|
|
|
|
|
|
|
128,030 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
2,172,859 |
|
|
|
|
|
|
|
|
|
|
$ |
2,096,597 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND
SHAREHOLDERS EQUITY |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing deposits |
|
$ |
1,440,508 |
|
|
$ |
14,180 |
|
|
|
3.91 |
% |
|
$ |
1,516,905 |
|
|
$ |
19,357 |
|
|
|
5.06 |
% |
Short-term borrowings |
|
|
97,833 |
|
|
|
483 |
|
|
|
1.96 |
|
|
|
92,323 |
|
|
|
900 |
|
|
|
3.87 |
|
FHLB advances |
|
|
285,777 |
|
|
|
2,839 |
|
|
|
3.89 |
|
|
|
135,000 |
|
|
|
1,759 |
|
|
|
5.10 |
|
Long-term borrowings |
|
|
52,222 |
|
|
|
613 |
|
|
|
4.59 |
|
|
|
36,694 |
|
|
|
713 |
|
|
|
7.60 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest-bearing
liabilities |
|
|
1,876,340 |
|
|
|
18,115 |
|
|
|
3.83 |
|
|
|
1,780,922 |
|
|
|
22,729 |
|
|
|
5.06 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Noninterest-bearing
deposits |
|
|
110,036 |
|
|
|
|
|
|
|
|
|
|
|
115,248 |
|
|
|
|
|
|
|
|
|
Other liabilities |
|
|
17,242 |
|
|
|
|
|
|
|
|
|
|
|
23,946 |
|
|
|
|
|
|
|
|
|
Shareholders equity |
|
|
169,241 |
|
|
|
|
|
|
|
|
|
|
|
176,481 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and
shareholders equity |
|
$ |
2,172,859 |
|
|
|
|
|
|
|
|
|
|
$ |
2,096,597 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income |
|
|
|
|
|
$ |
12,028 |
|
|
|
|
|
|
|
|
|
|
$ |
14,351 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest rate spread |
|
|
|
|
|
|
|
|
|
|
1.94 |
% |
|
|
|
|
|
|
|
|
|
|
2.32 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest rate margin
on average assets |
|
|
|
|
|
|
|
|
|
|
2.20 |
% |
|
|
|
|
|
|
|
|
|
|
2.72 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest margin on
earning assets |
|
|
|
|
|
|
|
|
|
|
2.30 |
% |
|
|
|
|
|
|
|
|
|
|
2.86 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provisions for loan and lease losses during the third quarter of 2008 were $1.9 million, compared
to $2.8 million during the third quarter of 2007. Provisions for loan and lease losses during the
first nine months of 2008 were $17.2 million, compared to $6.2 million that was expensed during the
same time period in 2007. The increased provisions in year-to-date 2008 primarily reflect a higher
volume of net loan and lease charge-offs and the need to increase the allowance to account for
identified weaknesses in parts of our loan and lease portfolio generally resulting from the
distressed local, state and national economies. We were witnessing the impact of the declining
economic environment not only on residential real estate development that we saw throughout 2007,
but on other sectors as well. Our real estate collateral values, both residential and commercial,
have deteriorated and the cash flow of some of our borrowers is increasingly strained. As a
result, during the first six months of 2008 we downgraded numerous commercial loan relationships,
which in turn necessitated the sizable provision for loan and lease losses.
34
MERCANTILE BANK CORPORATION
Our provisions for loan and lease losses were considerably lower during the third quarter of 2008
in relation to the first and second quarters of 2008. While we continued to face a distressed
operating environment during the third quarter of 2008, we experienced a marked slowdown in
borrowing relationships that deteriorated to nonperforming status. In addition, we saw notable
improvement in a number of larger commercial loan relationships. Although we experienced a small
net increase in the level of nonperforming assets during the third quarter, the rate of increase
was considerably lower than over the past few quarters.
Net loan and lease charge-offs in the third quarter of 2008 were $4.3 million, or an annualized
0.91% of average total loans and leases, compared to $4.3 million (0.95%) and $5.0 million (1.11%)
during the second and first quarters of 2008, respectively. Net loan and lease charge-offs
associated with commercial-related loans and residential-related loans totaled $3.6 million and
$0.7 million during the third quarter of 2008, and $10.0 million and $3.6 million during the first
nine months of 2008, respectively.
Gross loan and lease charge-offs totaled $4.5 million during the third quarter of 2008, of which
approximately $3.0 million, or 66%, reflect the charge-off of specific reserves that were created
through provisions for loan and lease losses in prior quarters. The allowance, as a percentage of
total loans and leases outstanding, was 1.58% as of September 30, 2008, compared to 1.43% as of
December 31, 2007 and 1.38% as of September 30, 2007.
In each reporting period, we adjust the allowance to the amount we believe is necessary to maintain
the allowance at adequate levels. Through the loan and lease review and credit departments, we
attempt to allocate specific portions of the allowance based on specifically identifiable problem
loans and leases. The evaluation of the allowance is further based on, but not limited to,
consideration of the internally prepared Reserve Analysis, composition of the loan and lease
portfolio, third party analysis of the loan and lease administration processes and loan and lease
portfolio and general economic conditions. In addition, the historically strong commercial loan
growth and expansions into new markets are taken into account.
The Reserve Analysis, used since our inception and completed monthly, applies reserve allocation
factors to outstanding loan and lease balances to calculate an overall allowance dollar amount.
For commercial loans and leases, which continue to comprise a vast majority of our total loans and
leases, reserve allocation factors are based upon the loan ratings as determined by our
standardized grade paradigms. For retail loans, reserve allocation factors are based on the type
of credit. Adjustments for specific loan relationships, including impaired loans and leases, are
made on a case-by-case basis. The reserve allocation factors are primarily based on the recent
levels and historical trends of net loan and lease charge-offs and nonperforming assets, the
comparison of the recent levels and historical trends of net loan and lease charge-offs and
nonperforming assets with a customized peer group consisting of ten similarly-sized publicly traded
banking organizations conducting business in the states of Michigan, Illinois, Indiana or Ohio, the
review and consideration of our loan and lease migration analysis and the experience of senior
management making and administering similar loans and leases over a period of many years. We
regularly review the Reserve Analysis and make adjustments periodically based upon identifiable
trends and experience.
35
MERCANTILE BANK CORPORATION
Noninterest income during the third quarter of 2008 was $1.82 million, an increase of 20.6% over
the $1.51 million earned during the third quarter of 2007. Noninterest income during the first
nine months of 2008 was $5.47 million, an increase of 26.0% over the $4.34 million earned during
the same time period in 2007. Service charge income on deposits and repurchase agreements
increased $288,000 (24.3%), and income from mortgage banking activities increased $175,000 (51.3%)
during the first nine months of 2008 when compared to the same time period during 2007, the former
primarily reflecting a decrease in the earnings credit rate and improved collection of overdraft
service charges, with the latter primarily reflecting a higher volume of refinance activity due to
the lower interest rate environment. Earnings on bank owned life insurance policies increased
$381,000 (41.1%) during the first nine months of 2008 when compared to the first nine months of
2007, primarily resulting from increased investments and improved yields. We recorded increased
fee income in virtually all other major fee income categories.
Noninterest expense during the third quarter of 2008 was $10.5 million, an increase of 9.9% over
the $9.6 million expensed during the third quarter of 2007. Noninterest expense during the first
nine months of 2008 was $31.6 million, an increase of 11.5% over the $28.3 million expensed during
the same time period in 2007. Employee salary and benefit expenses were $0.2 million higher during
the third quarter of 2008 than the level expensed during the third quarter of 2007, but were $0.3
million lower during the first nine months of 2008 than the level expensed during the first nine
months of 2007. The salary and benefit expenses for the first nine months of 2007 include a
one-time $1.2 million expense associated with the financial retirement package for former Chairman and Chief Executive Officer Gerald R. Johnson,
Jr., in conjunction with Mr. Johnsons retirement effective June 30, 2007. If this expense is
excluded, our employee salary and benefit expenses were up $0.9 million during the first nine
months of 2008 when compared to the same time period in 2007. The adjusted increases during both
time periods primarily reflect the hiring of additional staff related to our expansion in Oakland
County in late 2007 and annual pay raises. Costs associated with the administration and resolution
of problem assets, including legal costs, property tax payments, appraisal fees and write-downs on
foreclosed properties, totaled $2.3 million during the first nine months of 2008, compared to $0.6
million during the same time period in 2007. FDIC deposit insurance assessments totaled $1.0
million during the first nine months of 2008, compared to $0.4 million during the first nine months
of 2007. The FDIC recently issued a proposal to modify the current deposit insurance assessment
methodology, which if approved, would result in additional expense starting January 1, 2009.
Due to our loss before federal income tax expense during the first two quarters of 2008 and the
first nine months of 2008, we recorded a relatively small federal income tax expense during the
third quarter of 2008 and a federal income tax benefit during the first nine months of 2008.
During the third quarter of 2008, we recorded net income before federal income tax of $1.1 million
and a federal income tax expense of $0.1 million, compared to net income before federal income tax
of $3.2 million and federal income tax expense of $0.8 million during the third quarter of 2007.
During the first nine months of 2008, we recorded a loss before federal income tax of $9.7 million
and a federal income tax benefit of $4.4 million, compared to net income before federal income tax
of $12.3 million and federal income tax expense of $3.4 million during the same time period in
2007. Our effective tax rate during the third quarter of 2008 was 4.7%, compared to 25.8% during
the third quarter of 2007. Our effective tax rate during the first nine months was (45.4%),
compared to 27.9% during the same time period in 2007. The differences in effective tax rates
primarily reflect the significant difference in income before federal income tax expense (benefit),
and the relationship of tax-exempt income to income (loss) before federal income tax expense
(benefit).
36
MERCANTILE BANK CORPORATION
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Our primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk.
All of our transactions are denominated in U.S. dollars with no specific foreign exchange exposure.
We have only limited agricultural-related loan assets and therefore have no significant exposure
to changes in commodity prices. Any impact that changes in foreign exchange rates and commodity
prices would have on interest rates is assumed to be insignificant. Interest rate risk is the
exposure of our financial condition to adverse movements in interest rates. We derive our income
primarily from the excess of interest collected on our interest-earning assets over the interest
paid on our interest-bearing liabilities. The rates of interest we earn on our assets and owe on
our liabilities generally are established contractually for a period of time. Since market
interest rates change over time, we are exposed to lower profitability if we cannot adapt to
interest rate changes. Accepting interest rate risk can be an important source of profitability
and shareholder value; however, excessive levels of interest rate risk could pose a significant
threat to our earnings and capital base. Accordingly, effective risk management that maintains
interest rate risk at prudent levels is essential to our safety and soundness.
Evaluating the exposure to changes in interest rates includes assessing both the adequacy of the
process used to control interest rate risk and the quantitative level of exposure. Our interest
rate risk management process seeks to ensure that appropriate policies, procedures, management
information systems and internal controls are in place to maintain interest rate risk at prudent
levels with consistency and continuity. In evaluating the quantitative level of interest rate
risk, we assess the existing and potential future effects of changes in interest rates on our
financial condition, including capital adequacy, earnings, liquidity and asset quality. Our
interest rate risk policy provides for the use of certain derivative instruments and hedging
activities to aid in managing interest rate risk to within policy parameters. During the first
nine months of 2008, we entered into interest rate swaps to convert the variable rate cash flows on certain of our prime-based commercial loans to a fixed rate of
interest. Further discussion of our use of, and the accounting for, interest rate swaps is
included in Notes 1 and 9 to the Consolidated Financial Statements.
37
MERCANTILE BANK CORPORATION
We use two interest rate risk measurement techniques. The first, which is commonly referred to as
GAP analysis, measures the difference between the dollar amounts of interest sensitive assets and
liabilities that will be refinanced or repriced during a given time period. A significant
repricing gap could result in a negative impact to our net interest margin during periods of
changing market interest rates. The following table depicts our GAP position as of September 30,
2008 (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Within |
|
|
Three to |
|
|
One to |
|
|
After |
|
|
|
|
|
|
Three |
|
|
Twelve |
|
|
Five |
|
|
Five |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
Years |
|
|
Years |
|
|
Total |
|
Assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial loans and leases (1) |
|
$ |
965,895 |
|
|
$ |
75,205 |
|
|
$ |
622,157 |
|
|
$ |
60,299 |
|
|
$ |
1,723,556 |
|
Residential real estate loans |
|
|
60,489 |
|
|
|
11,955 |
|
|
|
55,479 |
|
|
|
13,611 |
|
|
|
141,534 |
|
Consumer loans |
|
|
1,617 |
|
|
|
735 |
|
|
|
2,810 |
|
|
|
547 |
|
|
|
5,709 |
|
Investment securities (2) |
|
|
26,761 |
|
|
|
1,383 |
|
|
|
42,194 |
|
|
|
153,364 |
|
|
|
223,702 |
|
Federal funds sold |
|
|
4,820 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
4,820 |
|
Short-term investments |
|
|
87 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
87 |
|
Allowance for loan and lease losses |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
(29,511 |
) |
Other assets |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
137,462 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
|
1,059,669 |
|
|
|
89,278 |
|
|
|
722,640 |
|
|
|
227,821 |
|
|
|
2,207,359 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing checking |
|
|
47,023 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
47,023 |
|
Savings |
|
|
54,885 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
54,885 |
|
Money market accounts |
|
|
15,566 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
15,566 |
|
Time deposits < $100,000 |
|
|
51,664 |
|
|
|
104,201 |
|
|
|
39,306 |
|
|
|
0 |
|
|
|
195,171 |
|
Time deposits $100,000 and over |
|
|
359,923 |
|
|
|
629,627 |
|
|
|
164,364 |
|
|
|
0 |
|
|
|
1,153,914 |
|
Short-term borrowings |
|
|
105,986 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
105,986 |
|
FHLB advances |
|
|
25,000 |
|
|
|
50,000 |
|
|
|
210,000 |
|
|
|
0 |
|
|
|
285,000 |
|
Long-term borrowings |
|
|
37,383 |
|
|
|
0 |
|
|
|
15,000 |
|
|
|
0 |
|
|
|
52,383 |
|
Noninterest-bearing checking |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
109,154 |
|
Other liabilities |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
16,929 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities |
|
|
697,430 |
|
|
|
783,828 |
|
|
|
428,670 |
|
|
|
0 |
|
|
|
2,036,011 |
|
Shareholders equity |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
171,348 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total sources of funds |
|
|
697,430 |
|
|
|
783,828 |
|
|
|
428,670 |
|
|
|
0 |
|
|
|
2,207,359 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net asset (liability) GAP |
|
$ |
362,239 |
|
|
$ |
(694,550 |
) |
|
$ |
293,970 |
|
|
$ |
227,821 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative GAP |
|
$ |
362,239 |
|
|
$ |
(332,311 |
) |
|
$ |
(38,341 |
) |
|
$ |
189,480 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent of cumulative GAP to
total assets |
|
|
16.4 |
% |
|
|
(15.1 |
)% |
|
|
(1.7 |
)% |
|
|
8.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Floating rate loans that are currently at interest rate floors are treated as fixed
rate loans and are reflected using maturity date and not next repricing date. |
|
(2) |
|
Mortgage-backed securities are categorized by expected final maturities based upon
prepayment trends as of September 30, 2008. |
38
MERCANTILE BANK CORPORATION
The second interest rate risk measurement we use is commonly referred to as net interest income
simulation analysis. We believe that this methodology provides a more accurate measurement of
interest rate risk than the GAP analysis, and therefore, it serves as our primary interest rate
risk measurement technique. The simulation model assesses the direction and magnitude of
variations in net interest income resulting from potential changes in market interest rates. Key
assumptions in the model include prepayment speeds on various loan and investment assets; cash
flows and maturities of interest-sensitive assets and liabilities; and changes in market conditions
impacting loan and deposit volume and pricing. These assumptions are inherently uncertain, subject
to fluctuation and revision in a dynamic environment; therefore, the model cannot precisely
estimate net interest income or exactly predict the impact of higher or lower interest rates on net
interest income. Actual results will differ from simulated results due to timing, magnitude, and
frequency of interest rate changes and changes in market conditions and the companys strategies,
among other factors.
We conducted multiple simulations as of September 30, 2008, whereby it was assumed that changes in
market interest rates occurred ranging from up 200 basis points to down 200 basis points in equal
quarterly instalments over the next twelve months. The following table reflects the suggested
impact on our net interest income over the next twelve months, which is well within our policy
parameters established to manage and monitor interest rate risk.
|
|
|
|
|
|
|
|
|
|
|
Dollar Change In |
|
Percent Change In |
Interest Rate Scenario |
|
Net Interest Income |
|
Net Interest Income |
Interest rates down 200 basis points |
|
$ |
(15,000 |
) |
|
|
0.0 |
% |
Interest rates down 100 basis points |
|
|
1,955,000 |
|
|
|
4.2 |
|
No change in interest rates |
|
|
3,536,000 |
|
|
|
7.5 |
|
Interest rates up 100 basis points |
|
|
5,172,000 |
|
|
|
11.0 |
|
Interest rates up 200 basis points |
|
|
6,774,000 |
|
|
|
14.5 |
|
In addition to changes in interest rates, the level of future net interest income is also dependent
on a number of other variables, including: the growth, composition and absolute levels of loans,
deposits, and other earning assets and interest-bearing liabilities; level of nonperforming assets;
economic and competitive conditions; potential changes in lending, investing and deposit gathering
strategies; client preferences; and other factors.
Item 4. Controls and Procedures
As of September 30, 2008, an evaluation was performed under the supervision of and with the
participation of our management, including our Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and procedures. Based
on that evaluation, our management, including our Chief Executive Officer and Chief Financial
Officer, concluded that our disclosure controls and procedures were effective as of September 30,
2008. There have been no significant changes in our internal controls over financial reporting
during the quarter ended September 30, 2008 that have materially affected, or are reasonably likely
to materially affect, our internal controls over financial reporting.
39
PART II OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, we may be involved in various legal proceedings that are incidental to our
business. In our opinion, we are not a party to any current legal proceedings that are material to
our financial condition, either individually or in the aggregate.
Item 1A. Risk Factors
In addition to the risk factors disclosed in our annual report on Form 10-K for the year ended
December 31, 2007, the following risk factors could affect our
business, financial condition or results of operations.
Difficult market conditions have adversely affected our industry.
Dramatic declines in the housing market over the past year, with falling home prices and increasing
foreclosures, unemployment and under-employment, have negatively impacted the credit performance of
real estate related loans and resulted in significant write-downs of asset values by financial
institutions. These write-downs, initially of asset-backed securities but spreading to other
securities and loans, have caused many financial institutions to seek additional capital, to reduce
or eliminate dividends, to merge with larger and stronger institutions and, in some cases, to fail.
Reflecting concern about the stability of the financial markets generally and the strength of
counterparties, many lenders and institutional investors have reduced or ceased providing funding
to borrowers, including to other financial institutions. This market turmoil and tightening of
credit have led to an increased level of commercial and consumer delinquencies, lack of consumer
confidence, increased market volatility and widespread reduction of business activity generally.
The resulting economic pressure on consumers and lack of confidence in the financial markets has
adversely affected our business, financial condition and results of operations. Market
developments may affect consumer confidence levels and may cause adverse changes in payment
patterns, causing increases in delinquencies and default rates, which may impact our charge-offs
and provision for credit losses. A worsening of these conditions would likely exacerbate the
adverse effects of these difficult market conditions on us and others in the financial institutions
industry.
Current levels of market volatility are unprecedented.
The capital and credit markets have been experiencing volatility and disruption for more than 12
months. Recently, the volatility and disruption have reached unprecedented levels. In some cases,
the markets have produced downward pressure on stock prices and credit availability for certain
issuers without regard to those issuers underlying financial strength. If current levels of
market disruption and volatility continue or worsen, there can be no assurance that we will not
experience an adverse effect, which may be material, on our ability to access capital and on our
business, financial condition and results of operations.
The soundness of other financial institutions could adversely affect us.
Our ability to engage in routine funding transactions could be adversely affected by the actions
and commercial soundness of other financial institutions. Financial services institutions are
interrelated as a result of trading, clearing, counterparty or other relationships. We have
exposure to many different industries and counterparties, and we routinely execute transactions
with counterparties in the financial industry. As a result, defaults by, or even rumors or
questions about, one or more financial services institutions, or the financial services industry
generally, have led to market-wide liquidity problems and could lead to losses or defaults by us or
by other institutions. Many of these transactions expose us to credit risk in the event of default
of our counterparty or client. In addition, our credit risk may be exacerbated when the collateral
held by us cannot be realized upon or is liquidated at prices not sufficient to recover the full
amount of the financial instrument exposure due us. There is no assurance that any such losses
would not materially and adversely affect our results of operations.
40
There can be no assurance that recently enacted legislation will stabilize the U.S. financial
system.
On October 3, 2008, President Bush signed into law the Emergency Economic Stabilization Act of 2008
(the EESA). The legislation was the result of a proposal by Treasury Secretary Henry Paulson to
the U.S. Congress in response to the financial crises affecting the banking system and financial
markets and threats to investment banks and other financial institutions. Pursuant to the EESA, the
U.S. Treasury will have the authority to, among other things, purchase up to $700 billion of
mortgages, mortgage-backed securities and certain other financial instruments from financial
institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets.
On October 14, 2008, the U.S. Department of Treasury announced a program under the EESA pursuant to
which it would make senior preferred stock investments in participating financial institutions (the
TARP Capital Purchase Program). On October 14, 2008, the Federal Deposit Insurance Corporation
announced the development of a guarantee program under the systemic risk exception to the Federal
Deposit Act (FDA) pursuant to which the FDIC would offer a guarantee of certain financial
institution indebtedness in exchange for an insurance premium to be paid to the FDIC by issuing
financial institutions (the FDIC Temporary Liquidity Guarantee Program). There can be no
assurance, however, as to the actual impact that the EESA and its implementing regulations, the
FDIC programs, or any other governmental program will have on the financial markets. The failure
of the EESA, the FDIC, or the U.S. Government to stabilize the financial markets and a continuation
or worsening of current financial market conditions could materially and adversely affect our
business, financial condition, results of operations, access to credit or the trading price of our
common stock.
The impact on us of recently enacted legislation, in particular the Emergency Economic
Stabilization Act of 2008 and its implementing regulations, and actions by the FDIC, cannot be
predicted at this time.
The programs established or to be established under the EESA and Troubled Asset Relief Program may
have adverse effects upon us. We may face increased regulation of our industry. Compliance with
such regulation may increase our costs and limit our ability to pursue business opportunities.
Also, participation in specific programs may subject us to additional restrictions. For example,
participation in the TARP Capital Purchase Program would limit (without the consent of the
Department of Treasury) our ability to increase our dividend or to repurchase our common stock for
so long as any securities issued under such program remain outstanding. It would also subject us to
additional executive compensation restrictions. Similarly, programs established by the FDIC under
the systemic risk exception of the FDA, whether we participate or not, may have an adverse effect
on us. Participation in the FDIC Temporary Liquidity Guarantee Program likely will require the
payment of additional insurance premiums to the FDIC. We may be required to pay significantly
higher Federal Deposit Insurance Corporation premiums even if we do not participate in the FDIC
Temporary Liquidity Guarantee Program because market developments have significantly depleted the
insurance fund of the FDIC and reduced the ratio of reserves to insured deposits. The effects of
participating or not participating in any such programs, and the extent of our participation in
such programs cannot reliably be determined at this time.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Not applicable.
Item 3. Defaults upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
41
Item 5. Other Information
Not applicable.
Item 6. Exhibits
|
|
|
EXHIBIT NO. |
|
EXHIBIT DESCRIPTION |
|
|
|
3.1
|
|
Our Articles of Incorporation are incorporated by reference to Exhibit 3.1 of our
Form 10-Q for the quarter ended June 30, 2004 |
|
|
|
3.2
|
|
Our Amended and Restated Bylaws dated as of January 16, 2003 are incorporated by
reference to Exhibit 3.2 of our Registration Statement on Form S-3 (Commission File No.
333-103376) that became effective on February 21, 2003 |
|
|
|
31
|
|
Rule 13a-14(a) Certifications |
|
|
|
32.1
|
|
Section 1350 Chief Executive Officer Certification |
|
|
|
32.2
|
|
Section 1350 Chief Financial Officer Certification |
42
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned, thereunto duly authorized, on November
5, 2008.
|
|
|
|
|
|
MERCANTILE BANK CORPORATION
|
|
|
By: |
/s/ Michael H. Price
|
|
|
|
Michael H. Price |
|
|
|
Chairman of the Board, President and Chief
Executive Officer
(Principal Executive Officer) |
|
|
|
|
|
|
By: |
/s/ Charles E. Christmas
|
|
|
|
Charles E. Christmas |
|
|
|
Senior Vice President, Chief Financial Officer
and Treasurer
(Principal Financial and Accounting Officer) |
|
43
EXHIBIT INDEX
|
|
|
EXHIBIT NO. |
|
EXHIBIT DESCRIPTION |
|
|
|
3.1
|
|
Our Articles of Incorporation are incorporated by reference to Exhibit 3.1 of our
Form 10-Q for the quarter ended June 30, 2004 |
|
|
|
3.2
|
|
Our Amended and Restated Bylaws dated as of January 16, 2003 are incorporated by
reference to Exhibit 3.2 of our Registration Statement on Form S-3 (Commission File No.
333-103376) that became effective on February 21, 2003 |
|
|
|
31
|
|
Rule 13a-14(a) Certifications |
|
|
|
32.1
|
|
Section 1350 Chief Executive Officer Certification |
|
|
|
32.2
|
|
Section 1350 Chief Financial Officer Certification |
44