UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2010
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number: 2-88927
FIRST KEYSTONE CORPORATION
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2249083
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) identification No.)
111 West Front Street, Berwick, PA 18603
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (570) 752-3671
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements
for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, a non-accelerated filer, or a smaller
reporting company. See definitions of "large accelerated filer,"
"accelerated filer," and "small reporting company" in Rule 12b-2 of
the Exchange Act.
Large accelerated filer [ ]
Accelerated filer [X]
Non-accelerated filer [ ]
Smaller reporting company [ ]
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practical date:
On November 5, 2010 there were 5,444,177 shares of the Registrant's
common stock outstanding.
PART I. - FINANCIAL INFORMATION
Item. 1 Financial Statements
FIRST KEYSTONE CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands)
September December
2010 2009
(Unaudited)
ASSETS
Cash and due from banks $ 4,742 $ 4,199
Interest-bearing deposits in
other banks 17,159 7,227
Federal funds sold 3,000 0
Investment securities available-
for-sale carried at estimated
fair value 304,901 269,685
Investment securities, held-to-
maturity securities estimated
fair value of $7,322 and $4,936 7,274 4,974
Restricted securities at cost 8,139 8,139
Loans, net of unearned income 413,193 406,697
Allowance for loan losses (5,217) (5,322)
________ ________
Net loans $407,976 $401,375
________ ________
Premises and equipment, net 11,919 11,465
Accrued interest receivable 4,420 4,213
Cash surrender value of bank owned
life insurance 18,195 17,622
Goodwill 19,133 19,133
Prepaid FDIC insurance 2,216 2,780
Other assets 6,247 7,518
________ ________
TOTAL ASSETS $815,321 $758,330
======== ========
LIABILITIES AND STOCKHOLDERS EQUITY
LIABILITIES
Deposits
Non-interest bearing $ 65,466 $ 61,779
Interest bearing 562,133 518,790
________ ________
TOTAL DEPOSITS $627,599 $580,569
Short-term borrowings 23,024 17,462
Long-term borrowings 73,415 82,976
Accrued interest and other expenses 2,934 3,101
Other liabilities 1,622 55
________ ________
TOTAL LIABILITIES $728,594 $684,163
________ ________
STOCKHOLDERS' EQUITY
Common stock, par value $2.00
per share 11,375 11,375
Surplus 30,175 30,269
Retained earnings 44,582 41,346
Accumulated other comprehensive
income (loss) 6,699 (2,583)
Less treasury stock, at cost, 243,641
shares in 2010 and 247,641 shares
in 2009 (6,104) (6,240)
________ ________
TOTAL STOCKHOLDERS' EQUITY $ 86,727 $ 74,167
________ ________
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $815,321 $758,330
======== ========
See Accompanying Notes to Consolidated Financial Statements
1
FIRST KEYSTONE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009
(Unaudited)
(Amounts in thousands except per share data)
2010 2009
INTEREST INCOME
Interest and fees on loans $6,205 $6,216
Interest and dividend income on
securities 3,371 3,213
Deposits in banks 9 4
______ ______
Total Interest Income $9,585 $9,433
______ ______
INTEREST EXPENSE
Deposits $2,208 $2,823
Short-term borrowings 61 85
Long-term borrowings 823 990
______ ______
Total Interest Expense $3,092 $3,898
______ ______
Net interest income $6,493 $5,535
Provision for loan losses 1,075 150
______ ______
Net interest income after
provision for loan losses $5,418 $5,385
______ ______
NON-INTEREST INCOME
Trust department $ 153 $ 112
Service charges and fees 372 433
Bank owned life insurance income 193 184
ATM fees and debit card income 204 178
Gain on sale of loans 336 57
Investment securities gains
(losses) - net (11) (11)
Recovery on loss due to defalcation 800 0
Other 26 120
______ ______
Total non-interest income $2,073 $1,073
NON-INTEREST EXPENSES
Salaries and employee benefits $2,281 $2,023
Occupancy, net 291 307
Furniture and equipment 308 283
Professional services 315 132
State shares tax 177 177
FDIC Insurance 213 204
Other 703 762
______ ______
Total non-interest expenses $4,288 $3,888
______ ______
Income before income taxes $3,203 $2,570
Income tax expense 713 484
______ ______
Net Income $2,490 $2,086
====== ======
PER SHARE DATA
Basic $ .45 $ .39
Diluted .45 .39
Cash dividends .23 .23
See Accompanying Notes to Consolidated Financial Statements
2
FIRST KEYSTONE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009
(Unaudited)
(Amounts in thousands except per share data)
2010 2009
INTEREST INCOME
Interest and fees on loans $18,290 $18,621
Interest and dividend income on
securities 10,235 9,574
Deposits in banks 21 7
_______ _______
Total interest income $28,546 $28,202
INTEREST EXPENSE
Deposits $ 6,991 $ 8,650
Short-term borrowings 169 286
Long-term borrowings 2,725 2,947
_______ _______
Total interest expense $ 9,885 $11,883
_______ _______
Net interest income $18,661 $16,319
Provision for loan losses 1,675 600
_______ _______
Net interest income after
provision for loan losses $16,986 $15,719
_______ _______
NON-INTEREST INCOME
Trust department $ 500 $ 338
Service charges and fees 1,140 1,241
Bank owned life insurance income 573 557
ATM fees and debit card income 597 504
Gain on sale of loans 532 153
Investment securities gains
(losses) - net 198 122
Recovery on loss due to defalcation 800 0
Other 224 504
_______ _______
Total non-interest income $ 4,564 $ 3,419
_______ _______
NON-INTEREST EXPENSE
Salaries and employee benefits $ 6,719 $ 5,890
Occupancy, net 983 877
Furniture and equipment 1,001 827
Professional services 665 303
State shares tax 531 523
FDIC Insurance 634 979
Other 2,154 2,165
_______ _______
Total non-interest expenses $12,687 $11,564
_______ _______
Income before income taxes $ 8,863 $ 7,574
Income tax expense 1,873 1,223
_______ _______
Net Income $ 6,990 $ 6,351
======= =======
PER SHARE DATA
Basic $ 1.28 $ 1.17
Diluted 1.28 1.17
Cash Dividends .69 .69
See Accompanying Notes to Consolidated Financial Statements
3
FIRST KEYSTONE CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED September 30, 2010 AND 2009
(Unaudited)
(Amounts in thousands)
2010 2009
OPERATING ACTIVITIES
Net income $ 6,990 $ 6,351
Adjustments to reconcile net
income to net cash provided
by operating activities:
Provision for loan losses 1,675 600
Provision for depreciation
and amortization 742 526
Premium amortization on
investment securities 531 199
Accretion of core deposit
net discount 214 200
Discount accretion on investment
securities (1,025) (891)
Gain on sale of mortgage loans (532) (153)
Proceeds from sale of mortgage
loans 15,860 14,751
Originations of mortgage loans
for resale (11,635) (19,300)
Gain(loss) on sale of foreclosed
real estate (20) 5
Gain on sales of investment
securities (198) (122)
Deferred income tax (benefit) 73 (145)
(Increase) decrease in interest
receivable and other assets (1,072) 113
Decrease in prepaid FDIC Insurance 564 0
Increase in cash surrender value
of bank owned life insurance (573) (557)
Increase (decrease) in interest
payable, accrued expenses
and other liabilities 47 (173)
________ ________
Net Cash Provided by Operating
Activities $ 11,641 $ 1,404
INVESTING ACTIVITIES
Purchases of investment
securities available-for-sale $(52,958) $(87,155)
Purchase of investment securities
held-to-maturity (5,036) (2,000)
Proceeds from sales of investment
securities available-for-sale 18,216 53,932
Proceeds from maturities and
redemptions of investment
securities available-for-sale 14,297 17,440
Proceeds from bank owned life
insurance 0 530
Proceeds from maturities and
redemption of investment
securities held-to-maturity 2,733 12
Net (increase) decrease in loans (12,715) 4,394
Purchase of premises and equipment (1,160) (2,685)
Proceeds from sale of foreclosed
assets 200 155
Purchase of investment in real
estate venture (1,084) 0
________ ________
Net Cash Used by Investing
Activities $(37,507) $(15,377)
________ ________
FINANCING ACTIVITIES
Net increase in deposits $ 47,032 $ 71,797
Net increase (decrease) in
short-term borrowings 5,562 (32,049)
Proceeds from long-term borrowings 7,000 0
Repayment of long-term borrowings (16,541) (7,038)
Proceeds from sale of treasury stock 42 0
Cash dividends (3,754) (3,753)
________ ________
Net Cash Provided by Financing
Activities $ 39,341 $ 28,957
Increase in Cash and Cash
Equivalents 13,475 14,984
Cash and Cash Equivalents, Beginning 11,426 9,951
________ ________
Cash and Cash Equivalents, Ending $ 24,901 $ 24,935
======== ========
SUPPLEMENTAL DISCLOSURE OF
CASH FLOW INFORMATION
Cash paid during period for:
Interest $ 10,144 $ 11,975
Income Taxes 1,436 1,151
See Accompanying Notes to Consolidated Financial Statements
4
FIRST KEYSTONE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2010
(Unaudited)
Note 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accounting policies of First Keystone Corporation and
Subsidiary (the "Corporation") are in accordance with accounting
principles generally accepted in the United States of America and
conform to common practices within the banking industry. The more
significant policies follow:
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of
First Keystone Corporation and its wholly owned Subsidiary, First
Keystone Community Bank (the "Bank"). All significant inter-company
balances and transactions have been eliminated in consolidation.
NATURE OF OPERATIONS
The Corporation, headquartered in Berwick, Pennsylvania,
provides a full range of banking, trust and related services through
its wholly owned Bank subsidiary and is subject to competition from
other financial institutions in connection with these services. The
Bank serves a customer base which includes individuals, businesses,
public and institutional customers primarily located in the
Northeast Region of Pennsylvania. The Bank has 15 full service
offices and 17 ATMs located in Columbia, Luzerne, Montour and Monroe
Counties. The Corporation and its subsidiary must also adhere to
certain federal banking laws and regulations and are subject to
periodic examinations made by various federal agencies.
SEGMENT REPORTING
The Corporation's banking subsidiary acts as an independent
community financial services provider, and offers traditional
banking and related financial services to individual, business and
government customers. Through its branch and automated teller
machine network, the Bank offers a full array of commercial and
retail financial services, including the taking of time, savings and
demand deposits; the making of commercial, consumer and mortgage
loans; and the providing of other financial services. The Bank also
performs personal, corporate, pension and fiduciary services through
its Trust Department.
Management does not separately allocate expenses, including the
cost of funding loan demand, between the commercial, retail, trust
and mortgage banking operations of the Corporation. Currently,
management measures the performance and allocates the resources of
First Keystone Corporation as a single segment.
USE OF ESTIMATES
The preparation of these consolidated financial statements in
conformity with accounting principles generally accepted in the
United States of America, requires management to make estimates and
assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at
the date of these consolidated financial statements and the reported
amounts of income and expenses during the reporting periods. Actual
results could differ from those estimates.
INVESTMENT SECURITIES
The Corporation classifies its investment securities as either
"Held to Maturity" or "Available for Sale" at the time of purchase.
Debt securities are classified as Held to Maturity when the
Corporation has the ability and positive intent to hold the
securities to maturity. Investment securities Held to Maturity are
carried at cost adjusted for amortization of premium and accretion
of discount to maturity.
5
Debt securities not classified as Held to Maturity and equity
securities are included in the Available for Sale category and are
carried at fair value. The amount of any unrealized gain or loss,
net of the effect of deferred income taxes, is reported as other
comprehensive income (loss) in the Consolidated Statement of Changes
in Stockholders' Equity. Management's decision to sell Available for
Sale securities is based on changes in economic conditions
controlling the sources and applications of funds, terms,
availability of and yield of alternative investments, interest rate
risk and the need for liquidity.
The cost of debt securities classified as Held to Maturity or
Available for Sale is adjusted for amortization of premiums and
accretion of discounts to expected maturity. Such amortization and
accretion, as well as interest and dividends is included in interest
income from investments. Realized gains and losses are included in
net investment securities gains and losses. The cost of investment
securities sold, redeemed or matured is based on the specific
identification method.
RESTRICTED SECURITIES
Restricted equity securities consist of stock in Federal Home
Loan Bank of Pittsburgh ("FHLB Pittsburgh"), Atlantic Central
Bankers Bank ("ACBB") and Federal Reserve Bank and do not have a
readily determinable fair value because their ownership is
restricted, and they can be sold back only to the FHLB Pittsburgh,
ACBB, the Federal Reserve Bank or to another member institution.
Therefore, these securities are classified as restricted equity
investment securities, carried at cost, and evaluated for
impairment. At September 30, 2010 and December 31, 2009, the
Corporation held $6,661,000 in stock of FHLB Pittsburgh, $35,000 in
stock of ACBB and $1,443,000 in stock of Federal Reserve Bank.
The Corporation evaluated its holding of restricted stock for
impairment and deemed the stock to not be impaired due to the
expected recoverability of cost, which equals the value reflected
within the Corporation's consolidated financial statements. The
decision was based on several items ranging from the estimated true
economic losses embedded within FHLB's mortgage portfolio to the
FHLB's liquidity position and credit rating. The Corporation
utilizes the impairment framework outlined in GAAP to evaluate stock
for impairment. The following factors were evaluated to determine
the ultimate recoverability of the cost of the Corporation's
restricted stock holdings; (i) the significance of the decline in
net assets of the FHLB as compared to the capital stock amount for
the FHLB and the length of time this situation has persisted; (ii)
commitments by the FHLB to make payments required by law or
regulation and the level of such payments in relation to the
operating performance of the FHLB; (iii) the impact of legislative
and regulatory changes on the institutions and, accordingly, on the
customer base of the FHLB; (iv) the liquidity position of the FHLB;
and (v) whether a decline is temporary or whether it affects the
ultimate recoverability of the FHLB stock based on (a) the
materiality of the carrying amount to the member institution and (b)
whether an assessment of the institution's operational needs for the
foreseeable future allow management to dispose of the stock. Based
on the analysis of these factors, the Corporation determined that
its holdings of restricted stock were not impaired at September 30,
2010 and December 31, 2009.
LOANS
Loans are stated at their outstanding unpaid principal
balances, net of deferred fees or costs, unearned income and the
allowance for loan losses. Interest on installment loans is
recognized as income over the term of each loan, generally, by the
actuarial method. Interest on all other loans is primarily
recognized based upon the principal amount outstanding on an actual
day basis. Loan origination fees and certain direct loan origination
costs have been deferred with the net amount amortized using the
interest method over the contractual life of the related loans as an
interest yield adjustment.
Mortgage loans held for resale are carried at the lower of cost
or market on an aggregate basis. These loans are sold without
recourse to the Corporation.
6
Past-Due Loans - Generally, a loan is considered to be past due
when scheduled loan payments are in arrears 15 days or more.
Delinquent notices are generated automatically when a loan is 15
days past due. Collection efforts continue on loans past due beyond
60 days that have not been satisfied, when it is believed that some
chance exists for improvement in the status of the loan. Past due
loans are continually evaluated with the determination for charge
off being made when no reasonable chance remains that the status of
the loan can be improved.
Non-Accrual Loans - Generally, a loan is classified as non accrual
and the accrual of interest on such a loan is discontinued
when the contractual payment of principal or interest has become 90
days past due or management has serious doubts about further
collectibility of principal or interest, even though the loan
currently is performing. A loan may remain on accrual status if it
is in the process of collection and is either guaranteed or well
secured. When a loan is placed on non accrual status, unpaid
interest credited to income in the current year is reversed and
unpaid interest accrued in prior years is charged against the
allowance for loan losses.
Certain non accrual loans may continue to perform, that is,
payments are still being received. Generally, the payments are
applied to principal. These loans remain under constant scrutiny and
if performance continues, interest income may be recorded on a cash
basis based on management's judgement as to collectibility of
principal.
Allowance for Loan Losses - The allowance for loan losses is
established through provisions for loan losses charged against
income. Loans deemed to be uncollectible are charged against the
allowance for loan losses and subsequent recoveries, if any, are
credited to the allowance.
A principal factor in estimating the allowance for loan losses
is the measurement of impaired loans. A loan is considered impaired
when, based on current information and events, it is probable that
the Corporation will be unable to collect all amounts due according
to the contractual terms of the loan agreement. Under current
accounting standards, the allowance for loan losses related to
impaired loans is based on discounted cash flows using the effective
interest rate of the loan or the fair value of the collateral for
certain collateral dependent loans.
The allowance for loan losses is maintained at a level
estimated by management to be adequate to absorb potential loan
losses. Management's periodic evaluation of the adequacy of the
allowance for loan losses is based on the Corporation's past loan
loss experience, known and inherent risks in the portfolio, adverse
situations that may affect the borrower's ability to repay
(including the timing of future payments), the estimated value of
any underlying collateral, composition of the loan portfolio,
current economic conditions, and other relevant factors. This
evaluation is inherently subjective as it requires material
estimates including the amounts and timing of future cash flows
expected to be received on impaired loans that may be susceptible to
significant change.
PREMISES AND EQUIPMENT
Premises, improvements, and equipment are stated at cost less
accumulated depreciation computed principally utilizing the straight
line method over the estimated useful lives of the assets. Long
lived assets are reviewed for impairment whenever events or changes
in business circumstances indicate that the carrying value may not
be recovered. Maintenance and minor repairs are charged to
operations as incurred. The cost and accumulated depreciation of the
premises and equipment retired or sold are eliminated from the
property accounts at the time of retirement or sale, and the
resulting gain or loss is reflected in current operations.
MORTGAGE SERVICING RIGHTS
The Corporation originates and sells real estate loans to
investors in the secondary mortgage market. After the sale, the
Corporation may retain the right to service these loans. When
originated mortgage loans are sold and servicing is retained, a
servicing asset is capitalized based on relative fair value at the
date of sale. Servicing assets are amortized as an offset to other
fees in proportion to, and over the period of, estimated net
servicing income. The unamortized cost is included in other assets
in the accompanying consolidated balance sheet. The servicing rights
are periodically evaluated for impairment based on their relative
fair value.
7
FORECLOSED REAL ESTATE
Real estate properties acquired through, or in lieu of, loan
foreclosure are held for sale and are initially recorded at fair
value on the date of foreclosure establishing a new cost basis.
After foreclosure, valuations are periodically performed by
management and the real estate is carried at the lower of carrying
amount or fair value less cost to sell and is included in other
assets. Revenues derived from and costs to maintain the assets and
subsequent gains and losses on sales are included in other non
interest income and expense. The total of foreclosed real estate
properties included in other assets amounted to $960,000 at
September 30, 2010 and $330,000 at December 31, 2009.
BANK OWNED LIFE INSURANCE
The Corporation invests in Bank Owned Life Insurance (BOLI)
with split dollar life provisions. Purchase of BOLI provides life
insurance coverage on certain employees with the Corporation being
owner and beneficiary of the policies.
INVESTMENTS IN REAL ESTATE VENTURES
The Bank is a limited partner in real estate ventures that own
and operate affordable residential low income housing apartment
buildings for elderly residents. The investments are accounted for
under the effective yield method. Under the effective yield method,
the Bank recognizes tax credits as they are allocated and amortizes
the initial cost of the investment to provide a constant effective
yield over the period that the tax credits are allocated to the
Bank. Under this method, the tax credits allocated, net of any
amortization of the investment in the limited partnerships, are
recognized in the consolidated statements of income as a component
of income tax expense. The amount of tax credits allocated to the
Bank were $187,000 in 2010 and 2009. The amortization of the
investments in the limited partnerships were $120,000 and $116,000
for the nine months ended September 30, 2010 and 2009. The carrying
value of the investments as of September 30, 2010 and December 31,
2009 were $1,653,000 and $690,000, respectively, and is included in
other assets in the accompanying consolidated balance sheets.
INCOME TAXES
The provision for income taxes is based on the results of
operations, adjusted primarily for tax exempt income. Certain items
of income and expense are reported in different periods for
financial reporting and tax return purposes. Deferred tax assets and
liabilities are determined based on the differences between the
consolidated financial statement and income tax bases of assets and
liabilities measured by using the enacted tax rates and laws
expected to be in effect when the timing differences are expected to
reverse. Deferred tax expense or benefit is based on the difference
between deferred tax asset or liability from period to period.
GOODWILL, OTHER INTANGIBLE ASSETS, AND PREMIUM DISCOUNT
Goodwill resulted from the acquisition of the Pocono Community
Bank in November 2007 and of certain fixed and operating assets
acquired and deposit liabilities assumed of the branch of another
financial institution in Danville, Pennsylvania, in January 2004.
Such goodwill represents the excess cost of the acquired assets
relative to the assets fair value at the dates of acquisition.
During the first quarter of 2008, $152,000 of liabilities were
recorded related to the Pocono acquisition as a purchase accounting
adjustment resulting in an increase in the excess purchase price.
The amount was comprised of the finalization of severance agreements
and contract terminations related to the acquisition. In accordance
with current accounting standards, goodwill is not amortized.
Management performs an annual evaluation for impairment. Any
impairment of goodwill results in a charge to income. The
Corporation periodically assesses whether events or changes in
circumstances indicate that the carrying amounts of goodwill and
other intangible assets may be impaired. Goodwill is tested for
impairment at the reporting unit level and an impairment loss is
recorded to the extent that the carrying amount of goodwill exceeds
its implied fair value. The Corporation has tested the goodwill
included in its consolidated balance sheet at December 31, 2009, and
has determined there was no impairment as of that date. No assurance
can be given that future impairment tests will not result in a
charge to earnings.
8
Intangible assets are comprised of core deposit intangibles and
premium discount (negative premium) on certificates of deposit
acquired. The core deposit intangible is being amortized over the
average life of the deposits acquired as determined by an
independent third party. Premium discount (negative premium) on
acquired certificates of deposit resulted from the valuation of
certificate of deposit accounts by an independent third party. The
book value of certificates of deposit acquired was greater than
their fair value at the date of acquisition which resulted in a
negative premium due to higher cost of the certificates of deposit
compared to the cost of similar term financing.
STOCK BASED COMPENSATION
The Corporation sponsors a stock option plan. Compensation cost
is recognized for stock options to employees based on the fair value
of these awards at the date of grant. A Black Scholes model is
utilized to estimate the fair value of stock options. Compensation
expense is recognized over the requisite service period.
PER SHARE DATA
FASB ASC 260-10 Earnings Per Share ((SFAS) No. 128, "Earnings
Per Share"), requires dual presentation of basic and fully diluted
earnings per share. Basic earnings per share is calculated by
dividing net income by the weighted average number of shares of
common stock outstanding at the end of each period. Diluted earnings
per share is calculated by increasing the denominator for the
assumed conversion of all potentially dilutive securities. The
Corporation's dilutive securities are limited to stock options. The
most recent options issued were in December 2007.
CASH FLOW INFORMATION
For purposes of reporting consolidated cash flows, cash and
cash equivalents include cash on hand and due from other banks and
interest bearing deposits in other banks. The Corporation considers
cash classified as interest bearing deposits with other banks and
federal funds sold as a cash equivalent since they are represented
by cash accounts essentially on a demand basis.
TRUST ASSETS AND INCOME
Property held by the Corporation in a fiduciary or agency
capacity for its customers is not included in the accompanying
consolidated financial statements since such items are not assets of
the Corporation. Trust Department income is generally recognized on
a cash basis and is not materially different than if it were
reported on an accrual basis.
RECENT ACCOUNTING PRONOUNCEMENTS
FASB ASC 820-10 - In February 2008, the FASB issued new
guidance impacting FASB ASC 820-10, Fair Value Measurements and
Disclosures (FASB Staff Position No. 157-2). The staff position
delays the effective date of FASB ASC 820-10 (SFAS No. 157) for
nonfinancial assets and nonfinancial liabilities, except for items
that are recognized or disclosed at fair value in the financial
statements on a recurring basis. The delay expired January 1, 2009,
and the expiration of the delay did not have a material impact on
the Corporation's consolidated financial positions or results of
operations.
FASB ASC 805 - In December 2007, the FASB issued new guidance
impacting FASB ASC 805, Business Combinations (SFAS No 141R -
Business Combinations). The new guidance establishes principles and
requirements for how an acquiring company (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
9
information to disclose to enable users of the financial statements
to evaluate the nature and financial effects of the business
combination. The new standard became effective for the Corporation
on January 1, 2009. The adoption of this standard did not have a
material impact on the Corporation's consolidated financial position
or results of operations.
FASB ASC 810-10 - In December 2007, the FASB issued FASB ASC
810-10, Consolidation (Statement No. 160 - Noncontrolling Interests
in Consolidated Financial Statements - an amendment of ARB No. 51).
FASB ASC 810-10 requires the ownership interests in subsidiaries
held by parties other than the parent be clearly identified, labeled
and presented in the consolidated balance sheet within equity, but
separate from the parent's equity. It also requires the amount of
consolidated net income attributable to the parent and the
noncontrolling interest to be clearly identified and presented on
the face of the consolidated statement of income. The new standard
became effective for the Corporation on January 1, 2009. The
adoption of this standard did not have a material impact on the
Corporation's consolidated financial position or results of
operations.
FASB ASC 815-10 - In March 2008, the FASB issued FASB ASC 815-10,
Derivatives and Hedging (Statement No. 161 - Disclosures about
Derivative Instruments and Hedging Activities - an amendment of FASB
Statement No. 133). FASB ASC 815-10 requires enhanced disclosures
about how and why an entity uses derivative instruments, how
derivative instruments and related items are accounted for and how
derivative instruments and related hedged items affect an entity's
financial position, financial performance and cash flows. The new
standard became effective for the Corporation on January 1, 2009.
The adoption of this standard did not have a material impact on the
Corporation's consolidated financial position or results of
operations.
FASB ASC 855 - In May 2009, the FASB issued FASB ASC 855,
Subsequent Events (Statement No. 165 - Subsequent Events). FASB ASC
855 establishes the period after the balance sheet date during which
management shall evaluate events or transactions that may occur for
potential recognition or disclosure in financial statements and the
circumstances under which an entity shall recognize events or
transactions that occur after the balance sheet date. FASB ASC 855
also requires disclosure of the date through which subsequent events
have been evaluated. The Corporation adopted this standard for the
interim reporting period ending June 30, 2009. The adoption of this
standard did not have a material impact on the Corporation's
consolidated financial position or results of operations.
FASB ASC 860 - In June 2009, the FASB issued new guidance
impacting FASB ASC 860, Transfers and Servicing (Statement No. 166 -
Accounting for Transfers of Financial Assets, an amendment of FASB
Statement No. 140). The new guidance removes the concept of a
qualifying special purpose entity and limits the circumstances in
which a financial asset, or portion of a financial asset, should be
derecognized when the transferor has not transferred the entire
financial asset to an entity that is not consolidated with the
transferor in the financial statements being presented and/or when
the transferor has continuing involvement with the transferred
financial asset. The new standard will become effective for the
Corporation on January 1, 2010. The Corporation is currently
evaluating the impact of adopting the new standard on the
consolidated financial statements.
FASB ASC 810-10 - In June 2009, the FASB issued new guidance
impacting FASB ASC 810-10, Consolidation (Statement No. 167 -
Amendments to FASB Interpretation No. 46R). The new guidance amends
tests for variable interest entities to determine whether a variable
interest entity must be consolidated. FASB ASC 810-10 requires an
entity to perform an analysis to determine whether an entity's
variable interest or interests give it a controlling financial
interest in a variable interest entity. This standard requires
ongoing reassessments of whether an entity is the primary
beneficiary of a variable interest entity and enhanced disclosures
that provide more transparent information about an entity's
involvement with a variable interest entity. The new guidance will
become effective for the Corporation on January 1, 2010 and the
Corporation is currently evaluating the impact of adopting the
standard on the consolidated financial statements.
FASB ASC 105-10 - In June 2009, the FASB issued FASB ASC 105-10,
Generally Accepted Accounting Principles (Statement No. 168 -
The FASB Accounting Standards Codification and the Hierarchy of
Generally Accepted Accounting Principles). The new guidance replaces
SFAS No. 162 and establishes the FASB Accounting Standards
Codification as the source of authoritative accounting principles
recognized by the FASB to be applied by nongovernmental entities in
the preparation of financial statements in conformity with generally
accepted accounting
10
principles ("GAAP"). Rules and interpretative releases of the
Securities and Exchange Commission under federal securities laws are
also sources of authoritative GAAP for SEC registrants. The new
standard became effective for financial statements issued for
interim and annual periods ending after September 15, 2009. The
adoption of this statement did not have a material impact on the
Corporation's consolidated financial position or results of
operations. Technical references to generally accepted accounting
principles included in the Notes to Consolidated Financial
Statements are provided under the new FASB ASC structure with the
prior terminology included parenthetically.
FASB ASC 715-20-50 - In December 2008, the FASB issued new
guidance impacting FASB ASC 715-20-50, Compensation Retirement
Benefits - Defined Benefit Plans - General (FASB Staff Position No.
132R- 1, Employers' Disclosures about Postretirement Benefit Plan
Assets). This provides guidance on an employer's disclosures about
plan assets of a defined benefit pension or other postretirement
plan. The guidance requires disclosure of the fair value of each
major category of plan assets for pension plans and other
postretirement benefit plans. This standard becomes effective for
the Corporation on January 1, 2010. The Corporation is currently
evaluating the impact of adopting the new guidance on the
consolidated financial statements, but it is not expected to have a
material impact.
FASB ASC 825-10-50 - In April 2009, the FASB issued new
guidance impacting FASB ASC 825-10-50, Financial Instruments (FASB
Staff Position No. FAS 107-1 and APB 28-1, Interim Disclosures about
Fair Value of Financial Instruments). This guidance amends existing
GAAP to require disclosures about fair values of financial
instruments for interim reporting periods as well as in annual
financial statements. The guidance also amends existing GAAP to
require those disclosures in summarized financial information at
interim reporting periods. The Corporation adopted this standard for
the interim reporting period ending March 31, 2009.
FASB ASC 320-10 - In April 2009, the FASB issued new guidance
impacting FASB ASC 320-10, Investments - Debt and Equity Securities
(FASB Staff Position No. FAS 115-2, Recognition and Presentation of
Other Than Temporary Impairments). This guidance amends the other
than temporary impairment guidance in U.S. generally accepted
accounting principles for debt securities. If an entity determines
that it has an other than temporary impairment on a security, it
must recognize the credit loss on the security in the income
statement. The credit loss is defined as the difference between the
present value of the cash flows expected to be collected and the
amortized cost basis. FASB ASC 320-10 expands disclosures about
other than temporary impairment and requires that the annual
disclosures in existing generally accepted accounting principles be
made for interim reporting periods. The Corporation adopted this
guidance for the interim reporting period ending March 31, 2009.
FASB ASC 820 - In April 2009, the FASB issued new guidance
impacting FASB ASC 820, Fair Value Measurements and Disclosures
(FASB Staff Position No. FAS 157-4, Determining Fair Value When the
Volume and Level of Activity for the Asset or Liability Have
Significantly Decreased and Identifying Transactions That Are Not
Orderly). This provides additional guidance on determining fair
value when the volume and level of activity for the asset or
liability have significantly decreased when compared with normal
market activity for the asset or liability. A significant decrease
in the volume or level of activity for the asset or liability is an
indication that transactions or quoted prices may not be
determinative of fair value because transactions may not be orderly.
In that circumstance, further analysis of transactions or quoted
prices is needed, and an adjustment to the transactions or quoted
prices may be necessary to estimate fair value. The Corporation
adopted this guidance for the interim reporting period ending March
31, 2009 and it did not have a material impact on the Corporation's
consolidated financial position or results of operations.
SAB 111 - In April 2009, the Securities and Exchange Commission
issued Staff Accounting Bulletin No. 111 ("SAB 111"). SAB 111 amends
Topic 5.M in the Staff Accounting Bulletin series entitled Other
Than Temporary Impairment of Certain Investments in Debt and Equity
Securities. On April 9, 2009, the FASB issued new guidance impacting
FASB ASC 320-10, Investments - Debt and Equity Securities (FASB
Staff Position No. FAS 115-2 and FAS 124-2, Recognition and
Presentation of Other Than Temporary Impairments). SAB 111 maintains
the previous views related to equity securities and amends Topic 5.M
to exclude debt securities from its scope. SAB 111 was effective for
the Corporation as of March 31, 2009. There was no material impact
to the Corporation's consolidated financial position or results of
operations upon adoption.
11
SAB 112 - In June 2009, the Securities and Exchange Commission
issued Staff Accounting Bulletin No. 112 ("SAB 112"). SAB 112
revises or rescinds portions of the interpretative guidance included
in the Staff Accounting Bulletin series in order to make the
interpretative guidance consistent with the recent pronouncements by
the FASB, specifically FASB ASC 805 and FASB ASC 810-10 (SFAS No.
141R and SFAS No. 160). SAB 112 was effective for the Corporation as
of June 30, 2009. There was no material impact to the Corporation's
consolidated financial position or results of operations upon
adoption.
FASB ASC 323 - In November 2008, the FASB Emerging Issues Task
Force reached a consensus on FASB ASC 323, Investments - Equity
Method and Joint Ventures (Issue No. 08-6, Equity Method Investment
Accounting Considerations). The new guidance clarifies the
accounting for certain transactions and impairment considerations
involving equity method investments. An equity investor shall not
separately test an investee's underlying assets for impairment but
will recognize its share of any impairment charge recorded by an
investee in earnings and consider the effect of the impairment on
its investment. An equity investor shall account for a share
issuance by an investee as if the investor had sold a proportionate
share of its investment, with any gain or loss recognized in
earnings. The new guidance became effective for the Corporation on
January 1, 2009 and did not have a material impact on the
Corporation's consolidated financial position or results of
operations.
FASB ASC 350 - In November 2008, the FASB Emerging Issues Task
Force reached a consensus on FASB ASC 350, Intangibles - Goodwill
and Other (Issue No. 08-7, Accounting for Defensive Intangible
Assets). The new guidance clarifies how to account for defensive
intangible assets subsequent to initial measurement. The guidance
applies to acquired intangible assets in situations in which an
entity does not intend to actively use an asset but intends to hold
the asset to prevent others from obtaining access to the asset. A
defensive intangible asset should be accounted for as a separate
unit of accounting with an expected life that reflects the
consumption of the expected benefits related to the asset. The
benefit from holding a defensive intangible asset is the direct and
indirect cash flows resulting from the entity preventing others from
using the asset. The new guidance was effective for intangible
assets acquired on or after January 1, 2009 and did not have a
material impact on the Corporation's consolidated financial position
or results of operations.
FASB ASC 260-10 - In June 2008, the FASB issued new guidance
impacting FASB ASC 260-10, Earnings Per Share (FSP No. EITF 03-06-1,
Determining Whether Instruments Granted in Share Based Payment
Transactions are Participating Securities). This new guidance
concluded that all outstanding unvested share based payment awards
that contain rights to nonforfeitable dividends participate in
undistributed earnings with common shareholders and therefore are
considered participating securities for purposes of computing
earnings per share. Entities that have participating securities that
are not convertible into common stock are required to use the "two
class" method of computing earnings per share. The two class method
is an earnings allocation formula that determines earnings per share
for each class of common stock and participating security according
to dividends declared (or accumulated) and participation rights in
undistributed earnings. This new guidance was effective for fiscal
years beginning after December 15, 2008 and interim periods within
those fiscal years. This new guidance became effective for the
Corporation on January 1, 2009 and did not have a material impact on
the Corporation's consolidated financial position or results of
operations.
FASB ASC 820-10 - In August 2009, the FASB issued an update
(ASC No. 2009-05, Measuring Liabilities at Fair Value) impacting
FASB ASC 820-10, Fair Value Measurements and Disclosures. The update
provides clarification about measuring liabilities at fair value in
circumstances where a quoted price in an active market for an
identical liability is not available and the valuation techniques
that should be used. The update also clarifies that when estimating
the fair value of a liability, a reporting entity is not required to
include a separate input or adjustment to other inputs relating to
the existence of a restriction that prevents the transfer of the
liability. This update became effective for the Corporation for the
reporting period ending September 30, 2009 and did not have a
material impact on the Corporation's consolidated financial position
or results of operations.
FASB ASC 820-10 - In September 2009, the FASB issued an update
(ASC No. 2009-12, Investments in Certain Entities That Calculate Net
Asset Value per Share (or its equivalent)) impacting FASB ASC 820-10,
Fair Value Measurements and Disclosures. The amendments in this
update permit, as a practical expedient, a reporting entity to
measure the fair value of an investment that is within the scope of
the amendments in this update on the
12
basis of the net asset value per share of the investment (or its
equivalent) if the net asset value of the investment is calculated
in a manner consistent with the measurement principles of Topic 946,
Financial Services Investment Companies. The amendments in this
update also require disclosures by major category of investment
about the attributes of investments within the scope of the
amendments in this update, such as the nature of any restrictions on
the ability to redeem an investment on the measurement date. This
update becomes effective for the Corporation for interim and annual
reporting periods ending after December 15, 2009. The Corporation is
currently evaluating the impact of adopting the new guidance on the
consolidated financial statements, but it is not expected to have a
material impact.
FASB ASC 505-20 - In January 2010, the FASB issued an update
(ASC No. 2010-01, Accounting for Distributions to Shareholders with
Components of Stock and Cash) impacting FASB ASC 505-20, Equity,
Stock Dividends and Stock Splits. The amendments in this update
clarify that the stock portion of a distribution to shareholders
that allows them to elect to receive cash or stock with a potential
limitation on the total amount of cash that all shareholders can
elect to receive in the aggregate is considered a share issuance
that is reflected in earnings per share and is not a stock dividend.
This update became effective for the Corporation for interim and
annual periods ending after December 15, 2009 and did not have a
material impact on the Corporation's consolidated financial position
or results of operations.
FASB ASC 810-10 - In January 2010, the FASB issued an update
(ASC No. 2010-02, Accounting and Reporting for Decreases in
Ownership of a Subsidiary - a Scope Clarification) impacting FASB
ASC 810-10, Consolidation. The amendments in this update address
implementation issues related to the changes of ownership provisions
originally issued as FASB Statement 160. It also improves the
disclosures related to retained investments in a deconsolidated
subsidiary or a preexisting interest held by an acquirer in a
business combination. This update became effective for the
Corporation for interim and annual periods ending after December 15,
2009 and did not have a material impact on the Corporation's
consolidated financial position or results of operations.
FASB ASC 820-10 - In January 2010, the FASB issued an update
(ASC No. 2010-06, Improving Disclosures about Fair Value
Measurements) impacting FASB ASC 820-10, Fair Value Measurements and
Disclosures. The amendments in this update require new disclosures
about significant transfers in and out of Level 1 and Level 2 fair
value measurements. The amendments also require a reporting entity
to provide information about activity for purchases, sales,
issuances and settlements in level 3 fair value measurements and
clarify disclosures about the Level of disaggregation and
disclosures about inputs and valuation techniques. This update
becomes effective for the Corporation for interim and annual
reporting periods beginning after December 15, 2009. The Corporation
is currently evaluating the impact of adopting the new guidance on
the consolidated financial statements.
ADVERTISING COSTS
It is the Corporation's policy to expense advertising costs in
the period in which they are incurred. Advertising expense for the
nine months ended September 30, 2010 and 2009 was approximately
$172,000 and $190,000, respectively.
RECLASSIFICATIONS
Certain amounts in the consolidated financial statements of
prior periods have been reclassified to conform with presentation
used in the 2010 consolidated financial statements. Such
reclassifications have no effect on the Corporation's consolidated
financial condition or net income.
13
Note 2. ALLOWANCE FOR LOAN LOSSES
Changes in the allowance for loan losses for the periods ended
September 30, 2010, and September 30, 2009, were as follows:
(amounts in thousands)
September 30, September 30,
2010 2009
____ ____
Balance, January 1 $5,322 $5,195
Provision charged to operations 1,675 600
Loans charged off (1,826) (559)
Recoveries 46 39
______ ______
Balance, September 30 $5,217 $5,275
====== ======
At September 30, 2010, the total recorded investment in loans
that are considered to be impaired as defined by FASB ASC 310-10-35
Receivable Subsequent Measurement (SFAS No. 114) was $3,975,000. No
additional charge to operations was required to provide for the
impaired loans since the total allowance for loan losses is
estimated by management to be adequate to provide for the loan loss
allowance required by the standard along with any other potential
losses.
At September 30, 2010, there were no significant commitments to
lend additional funds with respect to non accrual and restructured
loans.
Non accrual loans at September 30, 2010 and December 31, 2009
were $3,975,000 and $2,948,000, respectively, all of which were
considered impaired.
Loans past due 90 days or more and still accruing interest
amounted to $437,000 and $140,000 on September 30, 2010 and December
31, 2009, respectively.
Note 3. SHORT-TERM BORROWINGS
Federal funds purchased, securities sold under agreements to
repurchase and Federal Home Loan Bank advances generally represent
overnight or less than 30 day borrowings. U.S. Treasury tax and loan
notes for collections made by the Bank are payable on demand.
Note 4. LONG-TERM BORROWINGS
Long-term borrowings are comprised of advances from the Federal
Home Loan Bank. Under terms of a blanket agreement, collateral for
the loans are secured by certain qualifying assets of the
Corporation's banking subsidiary which consist principally of first
mortgage loans and certain investment securities.
Note 5. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
AND CONCENTRATIONS OF CREDIT RISK
The Corporation is a party to financial instruments with off
balance sheet risk in the normal course of business to meet the
financing needs of its customers. These financial instruments
include commitments to extend credit and standby letters of credit.
Those instruments involve, to varying degrees, elements of credit
and interest rate risk in excess of the amount recognized in the
consolidated balance sheets. The contract or notional amounts of
those instruments reflect the extent of involvement the Corporation
has in particular classes of financial instruments. The Corporation
does not engage in trading activities with respect to any of its
financial instruments with off-balance sheet risk.
14
The Corporation's exposure to credit loss in the event of
nonperformance by the other party to the financial instrument for
commitments to extend credit and standby letters of credit is
represented by the contractual notional amount of those instruments.
The Corporation uses the same credit policies in making
commitments and conditional obligations as it does for on balance
sheet instruments.
The Corporation may require collateral or other security to
support financial instruments with off balance sheet credit risk.
The contract or notional amounts at September 30, 2010 and December
31, 2009 were as follows:
(amounts in thousands)
September 30, December 31,
2010 2009
____ ____
Financial instruments whose
contract amounts represent
credit risk:
Commitments to extend credit $57,462 $63,247
Financial standby letters of
credit 804 843
Performance standby letters
of credit 5,707 5,806
Commitments to extend credit are agreements to lend to a
customer as long as there is no violation of any condition
established in the contract. Commitments generally have fixed
expiration dates or other termination clauses that may require
payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. The Corporation
evaluates each customer's creditworthiness on a case by case basis.
The amount of collateral obtained, if deemed necessary by the
Corporation upon extension of credit, is based on management's
credit evaluation of the counter party. Collateral held varies but
may include accounts receivable, inventory, property, plant and
equipment, and income producing commercial properties.
Standby letters of credit are conditional commitments issued by
the Corporation to guarantee the performance of a customer to a
third party. The credit risk involved in issuing letters of credit
is essentially the same as that involved in extending loan
facilities to customers. The Corporation may hold collateral to
support standby letters of credit for which collateral is deemed
necessary.
The Corporation grants commercial, agricultural, real estate
mortgage and consumer loans to customers primarily in the counties
of Columbia, Luzerne, Montour, and Monroe Pennsylvania. It is
management's opinion that the loan portfolio was well balanced and
diversified at September 30, 2010, to the extent necessary to avoid
any significant concentration of credit risk. However, its debtors
ability to honor their contracts may be influenced by the region's
economy.
15
Note 6. STOCKHOLDERS' EQUITY
Changes in Stockholders' Equity for the period ended September
30, 2010, were are follows:
(Amounts in thousands, except common share data)
Compre-
Common hensive
Stock Surplus Income
_____ _______ _____
Balance at January 1, 2010 $11,375 $30,269
Comprehensive Income:
Net Income $ 6,990
Change in unrealized
gain (loss) on
investment securities
available-for-sale,
net of reclassification
adjustment and tax effects 9,282
_______
Total Comprehensive
income (loss) $16,272
=======
Issuance of 4,051 shares
of treasury stock upon
exercise of employee
stock options (94)
Cash dividends -
$.69 per share
_______ _______
Balance at September 30, 2010 $11,375 $30,175
======= =======
(Amounts in thousands, except common share data)
Accumulated
Other
Retained Comprehensive
Earnings Income (Loss)
________ _____________
Balance at January 1, 2010 $41,346 $(2,583)
Comprehensive Income:
Net Income 6,990
Change in unrealized
gain (loss) on
investment securities
available-for-sale,
net of reclassification
adjustment and tax effects 9,282
Total Comprehensive
income (loss)
Issuance of 4,051 shares
of treasury stock upon
exercise of employee
stock options
Cash dividends -
$.69 per share (3,754)
_______ ______
Balance at September 30, 2010 $44,582 $6,699
======= ======
(Amounts in thousands, except common share data)
Treasury
Stock Total
_____ _____
Balance at January 1, 2010 $(6,240) $74,167
Comprehensive Income:
Net Income 6,990
Change in unrealized
gain (loss) on
investment securities
available-for-sale,
net of reclassification
adjustment and tax effects 9,282
Total Comprehensive
income (loss)
Issuance of 4,051 shares
of treasury stock upon
exercise of employee
stock options 136 42
Cash dividends -
$.69 per share (3,754)
_______ _______
Balance at September 30, 2010 $(6,104) $86,727
======= =======
NOTE 7. MANAGEMENT'S ASSERTIONS AND COMMENTS REQUIRED TO
BE PROVIDED WITH FORM 10Q FILING
In management's opinion, the consolidated interim financial
statements reflect fair presentation of the consolidated financial
position of First Keystone Corporation and Subsidiary, and the
results of their operations and their cash flows for the interim
periods presented. Further, the consolidated interim financial
statements are unaudited; however they reflect all adjustments,
which are in the opinion of management, necessary to present fairly
the consolidated financial condition and consolidated results of
operations and cash flows for the interim periods presented and that
all such adjustments to the consolidated financial statements are of
a normal recurring nature. The independent registered public
accounting firm, J. H. Williams & Co., LLP, reviewed these
consolidated financial statements as stated in their accompanying
review report.
The results of operations for the nine month period ended
September 30, 2009, are not necessarily indicative of the results to
be expected for the full year.
These consolidated interim financial statements have been
prepared in accordance with requirements of Form 10Q and therefore
do not include all disclosures normally required by generally
accepted accounting principles applicable to financial institutions
as included with consolidated financial statements included in the
Corporation's annual Form 10K filing. The reader of these
consolidated interim financial statements may wish to refer to the
Corporation's annual report or Form 10K for the period ended
December 31, 2009, filed with the Securities and Exchange
Commission.
16
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders of First Keystone Corporation:
We have reviewed the accompanying consolidated balance sheet of
First Keystone Corporation and Subsidiary as of September 30, 2010,
and the related consolidated statements of income for the three and
nine month periods ended September 30, 2010 and 2009 and cash flows
for the nine month periods ended September 30, 2010 and 2009. These
consolidated interim financial statements are the responsibility of
the management of First Keystone Corporation and Subsidiary.
We conducted our reviews in accordance with the standards of the
Public Company Accounting Oversight Board (United States). A review
of interim financial information consists principally of applying
analytical procedures and making inquiries of persons responsible
for financial and accounting matters. It is substantially less in
scope than an audit conducted in accordance with the standards of
the Public Company Accounting Oversight Board (United States), the
objective of which is the expression of an opinion regarding the
financial statements taken 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 consolidated interim financial statements
referred to above for them to be in conformity with accounting
principles generally accepted in the United States of America.
We have previously audited, in accordance with the auditing
standards of the Public Company Accounting Oversight Board (United
States), the consolidated balance sheet of First Keystone
Corporation and Subsidiary as of December 31, 2009, and the related
consolidated statements of income, changes in stockholders' equity,
and cash flows for the year then ended (not presented herein); and
in our report dated March 12, 2010, we expressed an unqualified
opinion on those consolidated financial statements. In our opinion,
the information set forth in the accompanying consolidated balance
sheet as of December 31, 2009, is fairly stated, in all material
respects, in relation to the consolidated balance sheet from which
it has been derived.
/s/ J. H. Williams & Co., LLP
J. H. Williams & Co., LLP
Kingston, Pennsylvania
November 8, 2010
17
Item 2. First Keystone Corporation Management's Discussion
and Analysis of Financial Condition and
Results of Operation as of September 30, 2010
This quarterly report contains certain forward-looking
statements (as defined in the Private Securities Litigation Reform
Act of 1995), which reflect management's beliefs and expectations
based on information currently available. These forward looking
statements are inherently subject to significant risks and
uncertainties, including changes in general economic and financial
market conditions, the Corporation's ability to effectively carry
out its business plans and changes in regulatory or legislative
requirements. Other factors that could cause or contribute to such
differences are changes in competitive conditions, and pending or
threatened litigation. Although management believes the expectations
reflected in such forward looking statements are reasonable, actual
results may differ materially.
The Dodd Frank Wall Street Reform and consumer Protection Act may
affect our financial condition, results of operations, liquidity and
stock price.
On July 21, 2010, the Dodd Frank Wall Street Reform and
Consumer Protection Act, or the Dodd Frank Act, was signed into law.
The Dodd Frank Act provisions affecting large and small financial
institutions, including several provisions that will profoundly
affect how community banks and bank holding companies will be
regulated in the future. Among other things, these provisions relax
rules regarding interstate branching, allow financial institutions
to pay interest on business checking accounts, change the scope of
federal deposit insurance coverage, and impose new capital
requirements on bank holding companies. In addition, there is
significant uncertainty about the full impact of the Dodd Frank Act
because many of its provisions require subsequent regulatory rule
making.
The Dodd Frank Act establishes the Bureau of Consumer Financial
Protection as an independent entity within the Federal Reserve,
which will be given authority to promulgate consumer protection
regulations applicable to all entities offering financial services
or products, including banks. Additionally, the Dodd Frank Act
includes a series of provisions covering mortgage loan origination
standards affecting, among other things, originator compensation,
minimum repayment standards, and pre payments.
The Dodd Frank Act contains numerous other provisions affecting
financial institutions of all types, many of which may have an
impact on the Corporation's operating environment in substantial and
unpredictable ways. Consequently, the Dodd Frank Act is likely to
affect our cost of doing business, it may limit or expand the
activities in which the Corporation permissibly may engage, and it
may affect the competitive balance within the Corporation's industry
and market areas.
The Dodd Frank Act and the regulations to be adopted thereunder
are expected to subject the Corporation and other financial
institutions to additional restrictions, oversight and costs that
may have an adverse impact on its business, financial condition,
results of operations or the price of the Corporation's common
stock, and the Corporation's ability to continue to conduct business
consistent with historical practices.
RESULTS OF OPERATIONS
First Keystone Corporation realized earnings for the third
quarter of 2010 of $2,490,000, an increase of $404,000 or 19.4% from
the third quarter of 2009. Nine months net income for the period
ended September 30, 2010, amounted to $6,990,000, an increase of
$639,000 or 10.1% from the $6,351,000 net income reported September
30, 2009. Net interest income increased in both the third quarter
of 2010 and for the first nine months of 2010 when compared to the
same period in 2009. The higher net interest income in 2010 was due
to a positively sloped yield curve and an expansion of our net
interest margin. Earnings in the third quarter were adversely
affected by our decision to increase our provision for loan losses
resulting from the write down of two commercial loans during the
quarter. An increase in non interest income of $1,000,000 was due
primarily to the Recovery on loss due to defalcation. Finally, non
interest expense increased during the third quarter by $400,000 due
to additional hires associated with our Mountain Top office and
Professional services due to additional costs associated with
regulatory compliance. Earnings for the nine months ended September
30, 2010 were positively affected by increased interest income and
non interest income. The increase of 10.1% in net income during the
first three
18
quarters of 2010 was accomplished even though Occupancy Expense was
up $106,000 and Furniture and equipment expense was up $174,000. On
a per share basis, net income per share was $1.28 for the first nine
months of 2010, as compared to $1.17 for the first nine months of
2009, while dividends were at $.69 per share, unchanged from the
first three quarters of 2009.
Year to date net income annualized amounts to a return on
average common equity of 1.14% and a return on assets of 11.63%.
For the nine months ended September 30, 2009, these measures were
1.15% and 11.97%, respectively on an annualized basis.
NET INTEREST INCOME
The major source of operating income for the Corporation is net
interest income, defined as interest income less interest expense.
In the third quarter of 2010, interest income amounted to
$9,585,000, an increase of $152,000 or 1.6% from the third quarter
of 2009. Interest expense amounted to $3,092,000 in the third
quarter of 2010, a decrease of $806,000 or 20.7% from the third
quarter of 2009. Accordingly, net interest income amounted to
$6,493,000 in the third quarter of 2010, an increase of $958,000, or
17.3% from the third quarter of 2009. Year to date for the nine
months ended September 30, 2010, total interest income increased
$344,000, or 1.2% to $28,546,000 from $28,202,000 in the first nine
months of 2009. Total interest expense decreased $1,998,000, or
16.8% to $9,885,000 for the first nine months of 2010 from
$11,883,000 in the first nine months of 2009. This resulted in net
interest income increasing $2,342,000 to $18,661,000 as of September
30, 2010 from $16,319,000 as of September 30, 2009, an increase of
14.4%.
Our net interest margin for the quarter ended September 30,
2010, was 3.73% compared to 3.60% for the quarter ended September
30, 2009. For the nine months ended September 30, 2010, our net
interest margin was 3.62% compared to 3.59% for the first nine
months of 2009.
PROVISION FOR LOAN LOSSES
The provision for loan losses for the quarter ended September
30, 2010, was $1,075,000 compared to $150,000 for the third quarter
of 2009. Year to date, the provision for loan losses amounts to
$1,675,000 in 2010 as compared to the $600,000 provision for the
period ended September 30, 2009. The increased provision for loan
losses came as result of increased net charge offs. Net charge offs
amounted to $1,780,000 for the nine months ended September 30, 2010,
as compared to $520,000 for the first nine months of 2009.
The allowance for loan losses as a percentage of loans, net of
unearned interest was 1.26% as of September 30, 2010, and 1.31% as
of December 31, 2009.
NON-INTEREST INCOME
Total non interest or other income was $2,073,000 for the
quarter ended September 30, 2010, as compared to $1,073,000 for the
quarter ended September 30, 2009. Excluding investment securities
gains and losses, non interest income was $2,084,000 for the third
quarter of 2010, as compared to $1,084,000 in the third quarter of
2009, an increase of 92.3% and was impacted primarily by the
Recovery on loss due to defalcation. For the nine months ended
September 30, 2010, total non interest income was $4,564,000, as
compared to $3,419,000, or a 33.5% increase from the first nine
months of 2009. Excluding investment securities gains and losses,
non-interest income for the nine months ended September 30, 2010 was
$4,366,000, an increase of 32.4% from the $3,297,000 reported in
2009. For the nine months ended September 30, 2010, the increase in
non-interest income was primarily the result of an increase Trust
Department income, Gains on sale of loans and the aforementioned
Recovery on loss due to defalcation.
19
NON-INTEREST EXPENSES
Total non interest, or other expenses, was $4,288,000 for the
quarter ended September 30, 2010, as compared to $3,888,000 for the
quarter ended September 30, 2009, an increase of $400,000 or 10.3%.
The majority of the increase in non interest expenses in the third
quarter of 2010 relate to higher salaries related to our new
Mountaintop Office and increases in Professional fees incurred to
assist with regulatory compliance.
For the nine months ended September 30, 2010, total non
interest expense was $12,687,000, an increase of $1,123,000, or 9.7%
over the first nine months of 2009. Expenses associated with
employees (salaries and employee benefits) continue to be the
largest category of non interest expenses. Salaries and benefits
amount to 53.0% of total non interest expense for the nine months
ended September 30, 2010, as compared to 50.9% for the first nine
months of 2009. Salaries and benefits amounted to $6,719,000 for
the nine months ended September 30, 2010, an increase of $829,000,
or 14.1% over the first nine months of 2009. The increase is
associated with additional hires in August 2009 as well as salary
and benefit increases. Net occupancy expense, including furniture
and equipment, amounted to $1,984,000 for the nine months ended
September 30, 2010, an increase of $280,000, or 16.4% from 2009.
The increase reflects costs associated with a new branch opening and
a new core processing system. Professional services increased
$362,000 or 119.5% from the first nine months of 2009. FDIC
insurance amounted to $634,000 as of September 30, 2010, a
substantial decrease of $345,000 compared to 2009. Other non
interest expenses amounted to $2,685,000, relatively unchanged from
2009. Even with the increase in non interest expenses in 2010, our
overall non interest expense continues at slightly more than 2.1% of
average assets on an annualized basis. This places us among the
leaders of our peer financial institutions at controlling non
interest expense.
INCOME TAXES
Effective tax planning has helped produce favorable net income.
The effective total income tax rate was 22.3% for the third quarter
of 2010 as compared to 18.8% for the third quarter of 2009. For the
nine months ended September 30, 2010, our tax expense amounted to
$1,873,000 for an effective tax rate of 21.1% as compared to an
effective tax rate of 16.1% for the first nine months of 2009.
ANALYSIS OF FINANCIAL CONDITION
ASSETS
Total assets increased to $815,321,000 as of September 30,
2010, an increase of $56,991,000, or 7.5% over year end 2009. Total
deposits increased to $627,599,000 as of September 30, 2010, an
increase of $47,030,000, or 8.1% over year end 2009.
The Corporation used the increase in total deposits to fund
primarily an increase in investment securities since loan demand was
weak. In addition, borrowings were reduced. Total borrowings
decreased $3,999,000 from December 31, 2009. Short term borrowings
increased to $23,024,000 as of September 30, 2010, up from
$17,462,000 at year end 2009. Long term borrowings decreased to
$73,415,000 as of September 30, 2010, down $9,561,000 from
$82,976,000 at year end 2009.
EARNING ASSETS
Our primary earning asset, loans, net of unearned income
increased slightly to $413,193,000 as of September 30, 2010, an
increase of $6,496,000, or 1.6% from year end 2009. The loan
portfolio is well diversified and the slow increase in the portfolio
has been caused primarily by reduced originations of both consumer
loans and commercial loans.
20
In addition to loans, another primary earning asset is our
investment portfolio which increased in size from December 31, 2009,
to September 30, 2010. Available for sale securities amounted to
$304,901,000 as of September 30, 2010, an increase of $35,216,000,
or 13.1% from year end 2009. Held to maturity securities increased
to $7,274,000 as of September 30, 2010, an increase of $2,300,000,
or 46.2% since year end 2009. Interest bearing deposits with banks
increased to $17,159,000 on September 30, 2010, as compared to
$7,227,000 as of December 31, 2009. Additionally, federal funds
sold increased to $3,000,000 compared to $0 at December 31, 2010.
ALLOWANCE FOR LOAN LOSSES
Management performs a quarterly analysis to determine the
adequacy of the allowance for loan losses. The methodology in
determining adequacy incorporates specific allocations together with
a risk/loss analysis on various segments of the portfolio according
to an internal loan review process. Management maintains its loan
review and loan classification standards consistent with those of
its regulatory supervisory authority. Management feels, considering
the conservative portfolio composition, which is largely composed of
commercial and small retail loans (mortgages and installments) with
minimal classified assets, low delinquencies, and favorable loss
history, that the allowance for loan loss is adequate to cover
foreseeable future losses.
Any loans classified for regulatory purposes as loss, doubtful,
substandard, or special mention that have not been disclosed under
Industry Guide 3 do not (i) represent or result from trends or
uncertainties which management reasonably expects will materially
impact future operating results, liquidity, or capital resources, or
(ii) represent material credits about which management is aware of
any information which causes management to have serious doubts as to
the ability of such borrowers to comply with the loan repayment
terms.
The Corporation follows the guidance in FASB ASC 310-10-35
Receivables Subsequent Measurement SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan" - Refer to Note 2 above for
details.
NON-PERFORMING ASSETS
Non performing assets consist of non accrual and restructured
loans, other real estate and foreclosed assets, together with the
loans past due 90 days or more and still accruing. As of September
30, 2010, total non performing assets were $5,372,000 as compared to
$3,418,000 on December 31, 2009. Non performing assets to total
loans and foreclosed assets was 1.3% as of September 30, 2010, and
..84% as of December 31, 2009.
The recorded investment in loans that are considered to be
impaired was $3,975,000 at September 30,2010 and $2,595,000 at
September 30, 2009, all of which were on non accrual basis. The
related reserve for loan losses for those loans was $665,000 at
September 30, 2010 and $364,000 at September 30, 2009. At December
31, 2009 the recorded investment in loans that are considered to be
impaired was $2,948,000, all of which were on non accrual basis.
The related reserve for loan losses for those loans was $834,000.
21
Table: Non-Performing Assets
(Amounts in thousands)
9/30/2010 12/31/2009 9/302009
Non-accruing loans:
Commercial secured
by real estate $1,476 $1,933 $2,287
Commercial - other 625 797 0
Tax exempt 0 0 0
Real estate -
residential 1,874 218 308
Consumer 0 0 0
______ ______ ______
Total non-accruing loans $3,975 $2,948 $2,595
Restructured loans 0 0 0
______ ______ ______
Total impaired loans 3,975 2,948 2,595
Loans past-due 90 days
or more and
still accruing 437 140 0
Other real estate owned 960 330 133
______ ______ ______
Total non-performing
assets $5,372 $3,418 $2,728
====== ====== ======
As of September 30, 2010, the decrease in non accruing loans
since June 30, 2010 consisted of three commercial real estate
borrowers with loans which totaled approximately $3,659,000
returning to the accrual basis. In addition, loans charged off
during the quarter included $1,392,000 in commercial secured by real
estate, $2,000 in commercial other, $11,000 residential real estate,
and $23,000 other consumer loans.
Interest income received on non performing loans as of
September 30, 2010, was $36,000 compared to $38,000 as of September
31, 2009. Interest income, which would have been recorded on these
loans under the original terms as of September 30, 2010, and
September 30, 2009 was $261,000 and $94,000, respectively. As of
September 30, 2010 and September 30, 2009, there were no outstanding
commitments to advance additional funds with respect to these non
performing loans.
DEPOSITS AND OTHER BORROWED FUNDS
Total deposits increased by $47,030,000 as non interest bearing
deposits increased by $3,687,000 and interest bearing deposits
increased by $43,343,000 as of September 30, 2010, from year end
2009. Total short term and long term borrowings decreased by
$3,999,000 from year end 2009.
CAPITAL STRENGTH
Normal increases in capital are generated by net income, less
cash dividends paid out. Also, accumulated other comprehensive
income derived from unrealized gains or losses on investment
securities, available for sale, increased shareholders' equity, or
capital net of taxes, by $6,699,000 as of September 30, 2010, and
decreased capital by $2,583,000 as of December 31, 2009. Treasury
stock as of September 30, 2010 and December 31, 2009 had an effect
of our reducing our total stockholders' equity by $6,104,000 on
September 30, 2010 and $6,240,000 on December 31, 2009.
Total stockholders' equity was $86,727,000 as of September 30,
2010, and $74,167,000 as of December 31, 2009. Leverage ratio and
risk based capital ratios remain very strong. As of September 30,
2010, our leverage ratio was 7.31% compared to 7.44% as of December
31, 2009. In addition, Tier I risk based capital and total risk
based capital ratio as of September 30, 2010, were 10.97% and
11.93%, respectively. The same ratios as of December 31, 2009, were
10.86% and 11.90%, respectively.
22
LIQUIDITY
The liquidity position of the Corporation remains adequate to
meet customer loan demand and deposit fluctuation. Managing
liquidity remains an important segment of asset liability
management. Our overall liquidity position is maintained by an
active asset liability management committee.
Management feels its current liquidity position is
satisfactorily given a very stable core deposit base which has
increased annually. Secondly, our payments on loans and principal
paydowns on our mortgage backed securities provide a steady source
of funds. Also, short term investments and maturing investment
securities represent additional sources of liquidity. Finally,
short term borrowings are readily accessible at the Federal Reserve
Bank discount window, Atlantic Central Bankers Bank, or the Federal
Home Loan Bank.
ITEM 3. Quantitative and Qualitative Disclosures
About Market Risk
There have been no material changes in the Company's
quantitative and qualitative market risks since December 31, 2009.
The composition of rate sensitive assets and rate sensitive
liabilities as of September 30, 2010 is very similar to December 31,
2009.
ITEM 4. Controls and Procedures
a) Evaluation of disclosure controls and procedures. The
company maintains disclosure controls and procedures (as defined in
Rule 13a-15(e) under the Securities Exchange Act of 1934, as
amended) 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 disclosure controls and procedures performed as
of the end of the period covered by this report, the chief executive
officer and chief financial officer of the company concluded that
the company's disclosure controls and procedures were adequate. The
company believes that a control system, no matter how well designed
and operated, cannot provide absolute assurance that the objectives
of the control system are met, and no evaluation of controls can
provide absolute assurance that all control issues and instances of
fraud, if any, within a company have been detected.
b) Changes in internal control over financial reporting. The
company made no changes in its internal control over financial
reporting or in other factors that has materially affected, or is
reasonably likely to materially affect, the company's internal
control over financial reporting during the last fiscal quarter.
23
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
None.
Item 1A. There have been no material changes to the risk
factors disclosed in Item 1A "Risk Factors" in our
Annual Report on Form 10K for the year ended December
31, 2009.
Item 2. Changes in Securities, Use of Proceeds and Issuer
Purchases of Equity Securities
Total
Number Maximum
of Shares Number of
Purchased Shares That
as Part of May Yet Be
Total Publicly Purchased
Number Average Announced Under the
of Shares Price Paid Plans or Plans or
Period Purchased per Share Programs Programs
______ _________ _________ ________ ________
July 1 -
July 31,
2010 ---- ---- ---- 112,098
August 1 -
August 31,
2010 ---- ---- ---- 112,098
Sept. 1 -
Sept. 30,
2010 ---- ---- ---- 112,098
Total ---- ---- ---- 112,098
Item 3. Defaults Upon Senior Securities
None.
Item 4. Removed and Reserved
Item 5. Other Information
The Company made no material changes to the procedures
by which shareholders may recommend nominees to the
Company's Board of Directors.
24
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits required by Item 601 Regulation S-K
Exhibit Number Description of Exhibit
______________ ______________________
3i Articles of Incorporation, as amended
(Incorporated by reference to Exhibit 3(i) to
the Registrant's Report on Form 10Q for the
quarter ended March 31, 2006).
3ii By-Laws, as amended (Incorporated by reference
to Exhibit 3(ii) to the Registrant's Report on
Form 10Q for the quarter ended March 31, 2006).
10.1 Supplemental Employee Retirement Plan
(Incorporated by reference to Exhibit 10 to the
Registrant's Report on Form 10Q for the quarter
ended September 30, 2005).
10.2 Management Incentive Compensation Plan
(Incorporated by reference to Exhibit 10 to the
Registrant's Report on Form 10Q for the quarter
ended March 31, 2010).
10.3 Profit Sharing Plan (Incorporated by reference
to Exhibit 10 to the Registrant's Report on Form
10Q for the quarter ended September 30, 2006).
10.4 First Keystone Corporation 1998 Stock Incentive
Plan (Incorporated by reference to Exhibit 10 to
the Registrant's Report on Form 10Q for the
quarter ended September 30, 2006).
14 Code of Ethics (Incorporated by reference to
Exhibit 14 to the Registrant's Report on Form 8K
dated January 9, 2007).
31.1 Rule 13a-15(a) and 15d-15(e) Certification of
Chief Executive Officer.
31.2 Rule 13a-15(a) and 15d-15(e) Certification of
Chief Financial Officer.
32.1 Section 1350 Certification of Chief Executive
Officer.
32.2 Section 1350 Certification of Chief Financial
Officer.
25
FIRST KEYSTONE CORPORATION
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly cause this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
FIRST KEYSTONE CORPORATION
Registrant
November 8, 2010 /s/ Matthew P. Prosseda
Matthew P. Prosseda
Chief Executive Officer
(Principal Executive Officer)
November 8, 2010 /s/ Diane C.A. Rosler
Diane C.A. Rosler
Chief Financial Officer
(Principal Accounting Officer)
26
INDEX TO EXHIBITS
Exhibit Description
_______ ___________
3i Articles of Incorporation, as amended
(Incorporated by reference to Exhibit 3(i) to
the Registrant's Report on Form 10Q for the
quarter ended March 31, 2006).
3ii By-Laws, as amended (Incorporated by reference
to Exhibit 3(ii) to the Registrant's Report on
Form 10Q for the quarter ended March 31, 2006).
10.1 Supplemental Employee Retirement Plan
(Incorporated by reference to Exhibit 10 to the
Registrant's Report on Form 10Q for the quarter
ended September 30, 2005).
10.2 Management Incentive Compensation Plan
(Incorporated by reference to Exhibit 10 to the
Registrant's Report on Form 10Q for the quarter
ended March 31, 2010).
10.3 Profit Sharing Plan (Incorporated by reference
to Exhibit 10 to the Registrant's Report on Form
10Q for the quarter ended September 30, 2006).
10.4 First Keystone Corporation 1998 Stock Incentive
Plan (Incorporated by reference to Exhibit 10 to
the Registrant's Report on Form 10Q for the
quarter ended September 30, 2006).
14 Code of Ethics (Incorporated by reference to
Exhibit 14 to the Registrant's Report on Form 8K
dated January 9, 2007).
31.1 Rule 13a-15(e) and 15d-15(e) Certification of
Chief Executive Officer.
31.2 Rule 13a-15(e) and 15d-15(e) Certification of
Chief Financial Officer.
32.1 Section 1350 Certification of Chief Executive
Officer.
32.2 Section 1350 Certification of Chief Financial
Officer.
27