10-Q 1 sept2002.txt FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549-1004 QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended September 30, 2002 ------------------ Commission file number: 33-66014 -------- FNB Financial Corporation ------------------------- (Exact name of registrant as specified in its charter) Commonwealth of Pennsylvania 23-2466821 ------------------------------- ---------------------- (State or other jurisdiction of I.R.S. Employer incorporation or organization) Identification No.) 101 Lincoln Way West, McConnellsburg, PA 17233 -------------------------------------------- ------------- (Address of principal executive offices) (Zip code) Registrant's telephone number, including area code: 717-485-3123 --------------- 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 shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES X NO ------- ------ Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding at September 30, 2002 ------------------------------- --------------------------------- (Common stock, $0.315 par value) 800,000 FNB FINANCIAL CORPORATION INDEX Page PART I - FINANCIAL INFORMATION Condensed consolidated balance sheets - September 30, 2002 and December 31, 2001 4 Condensed consolidated statements of income - Three months ended September 30, 2002 and 2001 5 Condensed consolidated statements of income - Nine months ended September 30, 2002 and 2001 6 Condensed consolidated statements of comprehensive income - Nine months ended September 30, 2002 and 2001 7 Condensed consolidated statements of cash flows - Nine months ended September 30, 2002 and 2001 8 Notes to condensed consolidated financial Statements 9 - 10 Management's discussion and analysis of financial condition and results of operations 11 - 14 PART II - OTHER INFORMATION 16 Signatures 17 Certifications of Principal Executive Officer and Principal Financial Officer 18 - 21 Exhibits 22 - 24 PART I - FINANCIAL INFORMATION FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY CONDENSED CONSOLIDATED BALANCE SHEETS

*Condensed from audited financial statements. The accompanying notes are an integral part of these condensed financial statements. FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF INCOME Three Months Ended September 30, 2002 and 2001 (UNAUDITED)

The accompanying notes are an integral part of these condensed financial statements. FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF INCOME Nine Months Ended September 30, 2002 and 2001 (UNAUDITED)

The accompanying notes are an integral part of these condensed financial statements. FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME Nine Months Ended September 30, 2002 and 2001 (UNAUDITED)

The accompanying notes are an integral part of these condensed financial statements. FNB FINANCIAL CORPORATION AND ITS WHOLLY-OWNED SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS Nine Months Ended September 30, 2002 and 2001

The accompanying notes are an integral part of these condensed financial statements. FNB FINANCIAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS SEPTEMBER 30, 2002 (UNAUDITED) REVIEW OF INTERIM FINANCIAL STATEMENTS The condensed consolidated financial statements as of and for the three and nine month periods ended September 30, 2002 and 2001 have been reviewed by independent certified public accountants. Their report on their review is attached as Exhibit 99 to this 10-Q. NOTE 1 - BASIS OF PRESENTATION The financial information presented at and for the nine months ended September 30, 2002 and September 30, 2001 is unaudited. Information presented at December 31, 2001, is condensed from audited year-end financial statements. However, this unaudited information reflects all adjustments, consisting solely of normal recurring adjustments, that are, in the opinion of management, necessary for a fair presentation of the financial position, results of operations and cash flows for the interim period. NOTE 2 - PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the corporation and its wholly-owned subsidiary, The First National Bank of McConnellsburg. All significant inter- company transactions and accounts have been eliminated. NOTE 3 - CASH FLOWS For purposes of the statements of cash flows, the corporation has defined cash and cash equivalents as those amounts included in the balance sheet captions "cash and due from banks" and "federal funds sold". As permitted by Statement of Financial Accounting Standards No. 104, the corporation has elected to present the net increase or decrease in deposits in banks, loans and deposits in the statement of cash flows. NOTE 4 - FEDERAL INCOME TAXES For financial reporting purposes the provision for loan losses charged to operating expense is based on management's judgment, whereas for federal income tax purposes, the amount allowable under present tax law is deducted. Additionally, certain expenses are charged to operating expense in the period the liability is incurred for financial reporting purposes, whereas for federal income tax purposes, these expenses are deducted when paid. As a result of these timing differences, deferred taxes were computed after reducing pre- tax accounting income for nontaxable municipal and loan income. NOTE 5 - OTHER COMMITMENTS In the normal course of business, the bank makes various commitments and incurs certain contingent liabilities which are not reflected in the accompanying financial statements. These commitments include various guarantees and commitments to extend credit. The bank does not anticipate any losses as a result of these transactions. FNB FINANCIAL CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SUMMARY Net income for the first nine months of 2002 was $ 892,279 compared to $ 734,902 for the first nine months of 2001. This represents an increase of $ 151,377 or 21.4% from 2001. Net income on an adjusted per share basis for the first nine months of 2002 was $ 1.12 which is an increase of $ 0.20 from the $ 0.92 per share for the nine months ended September 30, 2001. NET INTEREST INCOME Total interest and dividend income for the first nine months of 2002 was $ 6,190,288 compared to $ 6,655,285 for the first nine months of 2001, a decrease of $ 464,997. This decrease was due primarily to the downward trend of effective yields on earning assets as rates continue to be well below yields realized in 2001. Although the loan portfolio has grown by $ 11,543,918 or 13.2% over totals at the end of the first nine months of 2001, the decreasing interest rate environment along with a shift of earning assets from investments to Federal funds has resulted in a 7.0% decrease in total interest income from first nine months of 2001. Due to the depressed interest rate environment, investment securities with call features have been exercised by the issuer resulting in excess funds being invested in lower yielding federal funds until such time as they can be invested in loans or other securities. This situation has improved during the second and third quarters of 2002 as loan demand increased and allowed the bank to place some excess funds into higher yielding loans. In order to sustain desired net interest margins, deposit rates were lowered to decrease our funding costs. Interest expense for the nine months ended September 30, 2002, was $ 2,844,362, a decrease of $ 768,282 from the $ 3,612,644 for the same period in 2001. Total deposits increased $ 3,900,334 from totals at September 30, 2001. This increase was concentrated in demand deposit accounts. This coupled with the aforementioned general reduction in deposit rates decreased the cost of funds enough to more than compensate for the decrease in interest income and allowed us to produce a 10% increase in net interest income over first nine months of 2001. The tax-adjusted net interest margin has increased 31 basis points for the first nine months of 2002 from that of the first nine months of 2001. Management will continue to competitively price its loan and deposit products while maintaining desired net interest spreads. PROVISION AND ALLOWANCE FOR LOAN LOSSES Activity in the allowance for loan losses is summarized as follows:

We utilize a comprehensive systematic review of our loan portfolio on a quarterly basis in order to determine the adequacy of the Allowance for Loan losses. Each quarter the loan portfolio is categorized into various Pools as follows: POOL #1 Specific allowances for any individually identified trouble loans POOL #2 Commercial and Industrial POOL #3 Commercial and Industrial -- Real Estate Secured POOL #4 Consumer Demand and Installment POOL #5 Guaranteed Loans and Farmers and Commercial POOL #6 Consumer Mortgage and Home Equity POOL #7 Real Estate Secured -- Farmland POOL #8 Off-Balance Sheet Commitments Lines of credit and non-secured commercial loans with balances of $ 100,000 and over are individually reviewed. Also, loans that are 90 days or more past due or have been previously classified as substandard are individually reviewed. Allocations to the Allowance for Loan Losses are based upon classifications assigned to those loans. Loan classifications utilized are consistent with OCC regulatory guidelines and are as follows: Allowance Factors ----------------- Loss Charge-off Doubtful 20% - 50% Substandard 10% - 20% Special Mention 5% - 10% Watch 1% - 5% The remaining portion of the Pools are evaluated as groups with allocations made to the Allowance based on historical loss experience, current and anticipated trends in delinquencies, and general economic conditions within the bank's trading area. In addition to the aforementioned internal loan review, the Bank engages an outside Firm to conduct annually an independent loan review in order to validate the methodologies used internally and to independently test the adequacy of the Allowance for Loan Losses. Delinquencies are well below peer group averages and management is not aware of any problem loans that are indicative of trends, events, or uncertainties that would significantly impact operations, liquidity or capital. NON-INTEREST INCOME AND EXPENSES Total non-interest income for the first nine months of 2002 increased $ 36,772 over totals for the first nine months of 2001 due to service charges on deposit accounts, trust referral income and net earnings from the Company's investment in CBIA, which is a joint venture with several other community banks to provide property and casualty insurance products. Operating expenses for the period ended September 30, 2002, were $ 2,575,680, a $ 35,095 increase from the operating expenses incurred for the same period in 2001 of $ 2,540,585. This increase was mainly the result of personnel changes. INCOME TAX EXPENSE Our income tax provision for the first nine months of 2002 was $ 307,912 as compared to $ 155,327 for the first nine months of 2001. We continue to operate with a marginal tax rate of 34% throughout 2002. The effective income tax rate for the first nine months of 2002 was 25.6%, a 8.1% increase compared to 17.5% for the first nine months of 2001. BALANCE SHEET AND EQUITY CHANGES Total assets as of September 30, 2002, were $ 133,022,048, an increase of $ 861,532 from the period ending December 31, 2001, representing an increase of 0.6%. This increase was primarily due to increases in loans. Loans as of September 30, 2002, were $ 98,672,896 compared to $ 91,050,008 as of December 31, 2001, an increase of $ 7,622,888 or 8.4%, a result of commercial loan settlements. Total equity as of September 30, 2002, was $ 14,195,740, 10.7% of total assets, as compared to $ 13,387,997, 10.13% of total assets as of December 31, 2001. The Company's risk based capital ratios continue to exceed regulatory minimum requirements. CONTROLS AND PROCEDURES (a) Evaluation of disclosure controls and procedures. The company maintains controls and procedures designed to ensure that information required to be disclosed in the reports that the company files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission. Based upon their evaluation of those controls and procedures performed within 90 days of the filing date of this report, the chief executive and chief financial officers of the company concluded that the company's disclosure controls and procedures were adequate. (b) Changes in internal controls. The Company made no significant changes in its internal controls or in other factors that could significantly affect these controls subsequent to the date of the evaluation of the controls by the chief executive and chief financial officers. PART II - OTHER INFORMATION PART II - OTHER INFORMATION Item 1 - Legal Proceedings -------------------------- None Item 2 - Changes in Securities ------------------------------ None Item 3 - Defaults Upon Senior Securities ---------------------------------------- Not Applicable Item 4 - Submission of Matters to a Vote of Security Holders ------------------------------------------------------------ None Item 5 - Other Information -------------------------- None Item 6 - Exhibits and Reports on Form 8-K ----------------------------------------- a. Exhibits: Exhibit Number referred to Description of Item 601 of Regulation S-K Exhibit Exhibit 99 Report of Independent Accountant's on Interim Financial Statements Exhibit 99.1 Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350 Exhibit 99.2 Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 b. Reports on Form 8-K - None 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. Date November 12, 2002 /s/John C. Duffey ----------------- -------------------------------- John C. Duffey, President and Director of the Company and President/CEO of the Bank) (Duly Authorized Officer) Date November 12, 2002 /s/Dale M. Fleck ----------------- -------------------------------- Dale M. Fleck Controller of the Bank (Principal Financial & Accounting Officer) CERTIFICATION I, John C. Duffy, President and CEO, certify, that: -------------------------------- 1. I have reviewed this quarterly report on Form 10-Q of FNB Financial Corporation. ------------------------- 2. Based on my knowledge, the quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report. 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d- 14) for the registrant and we have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and (c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date. 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): (a) all significant deficiencies in the design or operation of the internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls. 6. The registrant's other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect the internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: November 12, 2002 By:/s/John C. Duffey ---------------------- ----------------------- John C. Duffey President & CEO (Principal Executive Officer) CERTIFICATION I, Dale M. Fleck, Controller, certify, that: ------------------------- 1. I have reviewed this quarterly report on Form 10-Q of FNB Financial Corporation. ------------------------- 2. Based on my knowledge, the quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report. 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d- 14) for the registrant and we have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and (c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date. 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): (a) all significant deficiencies in the design or operation of the internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls. 6. The registrant's other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect the internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: November 12, 2002 By:/s/Dale M. Fleck --------------------- --------------------- Dale M. Fleck Controller (Principal Financial Officer) Exhibit 99 INDEPENDENT ACCOUNTANT'S REPORT Board of Directors FNB Financial Corporation McConnellsburg, Pennsylvania We have reviewed the accompanying consolidated balance sheet of FNB Financial Corporation and Subsidiary as of September 30, 2002 and the related consolidated statements of income for the three and nine month periods ended September 30, 2002 and 2001 and consolidated statements of comprehensive income for the nine months ended September 30, 2002 and 2001 and consolidated statements of cash flows for the nine months ended September 30, 2002 and 2001. These financial statements are the responsibility of the corporation's management. We conducted our reviews in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the consolidated financial statements take as a whole. Accordingly, we do not express such an opinion. Based on our reviews, we are not aware of any material modifications that should be made to the accompanying consolidated financial statements for them to be in conformity with generally accepted accounting principles. /s/ Smith Elliott Kearns & Company, LLC --------------------------------------- SMITH ELLIOTT KEARNS & COMPANY, LLC Chambersburg, Pennsylvania November 11, 2002 EXHIBIT 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of FNB Financial Corporation (the "Company") on Form 10-Q for the period ending September 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, John C. Duffey, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the final condition and results of operations of the Company. /s/ John C. Duffey ------------------------ John C. Duffey Chief Executive Officer November 12, 2002 EXHIBIT 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of FNB Financial Corporation (the "Company") on Form 10-Q for the period ending September 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Dale M. Fleck, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the final condition and results of operations of the Company. /s/ Dale M. Fleck ------------------------ Dale M. Fleck Chief Financial Officer November 12, 2002

FNB FINANCIAL CORP /PA/ 10-Q