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PEBO > SEC Filings for PEBO > Form 10-Q on 24-Oct-2013All Recent SEC Filings

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Form 10-Q for PEOPLES BANCORP INC


24-Oct-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
                            SELECTED FINANCIAL DATA
The following data should be read in conjunction with the Unaudited Consolidated
Financial Statements and the Management's Discussion and Analysis that follows:
                                                At or For the Three Months Ended         At or For the Nine Months Ended
                                                          September 30,                           September 30,
                                                     2013               2012                 2013               2012
SIGNIFICANT RATIOS
Return on average stockholders' equity                 4.61  %            8.86  %              7.52  %           10.41  %
Return on average assets                               0.53  %            1.04  %              0.87  %            1.21  %
Net interest margin                                    3.26  %            3.30  %              3.18  %            3.38  %
Efficiency ratio (a)                                  72.47  %           70.06  %             71.94  %           68.36  %
Pre-provision net revenue to average assets
(b)                                                    1.26  %            1.34  %              1.25  %            1.47  %
Average stockholders' equity to average
assets                                                11.46  %           11.73  %             11.62  %           11.61  %
Average loans to average deposits                     73.29  %           67.65  %             69.12  %           68.31  %
Dividend payout ratio                                 60.11  %           24.36  %             34.67  %           21.33  %
ASSET QUALITY RATIOS
Nonperforming loans as a percent of total
loans (c)(d)                                           1.05  %            1.63  %              1.05  %            1.63  %
Nonperforming assets as a percent of total
assets (c)(d)                                          0.59  %            0.94  %              0.59  %            0.94  %
Nonperforming assets as a percent of total
loans and other real estate owned (c)(d)               1.06  %            1.75  %              1.06  %            1.75  %
Allowance for loan losses to loans net of
unearned interest (d)                                  1.60  %            1.88  %              1.60  %            1.88  %
Allowance for loan losses to nonperforming
loans (c)(d)                                         151.79  %          113.71  %            151.79  %          113.71  %
Recovery of loan losses to average loans
(annualized)                                          (0.35 )%           (0.39 )%             (0.46 )%           (0.59 )%
Net (recoveries) charge-offs as a percentage
of average loans (annualized)                         (0.26 )%            0.15  %             (0.33 )%            0.13  %
CAPITAL INFORMATION (d)
Tier 1 common capital ratio                           14.09  %           13.86  %             14.09  %           13.86  %
Tier 1 capital ratio                                  14.09  %           15.85  %             14.09  %           15.85  %
Total risk-based capital ratio                        15.46  %           17.16  %             15.46  %           17.16  %
Leverage ratio                                         9.14  %           10.13  %              9.14  %           10.13  %
Tangible equity to tangible assets (e)                 8.16  %            8.37  %              8.16  %            8.37  %
PER SHARE DATA
Earnings per share - Basic                    $        0.24      $        0.45        $        1.17      $        1.56
Earnings per share - Diluted                           0.23               0.45                 1.16               1.56
Cash dividends declared per share                      0.14               0.11                 0.40               0.33
Book value per share (d)                              20.97              20.77                20.97              20.77
Tangible book value per common share (d)(e)   $       14.23      $       14.28        $       14.23      $       14.28
Weighted-average shares outstanding - Basic      10,589,126         10,530,800           10,574,130         10,522,874
Weighted-average shares outstanding - Diluted    10,692,555         10,530,876           10,664,999         10,522,905
Common shares outstanding at end of period       10,596,797         10,534,445           10,596,797         10,534,445

(a) Non-interest expense (less intangible asset amortization) as a percentage of fully tax-equivalent net interest income plus non-interest income (excluding gains or losses on investment securities and asset disposals).

(b) These amounts represent non-GAAP financial measures since they exclude the provision for loan losses and all gains and losses included in earnings. Additional information regarding the calculation of these measures can be found later in this section under the caption "Pre-Provision Net Revenue".

(c) Nonperforming loans include loans 90 days past due and accruing, renegotiated loans and nonaccrual loans. Nonperforming assets include nonperforming loans and other real estate owned.

(d) Data presented as of the end of the period indicated.

(e) These amounts represent non-GAAP financial measures since they exclude the balance sheet impact of intangible assets acquired through acquisitions on both total stockholders' equity and total assets. Additional information regarding the calculation of these measures can be found later in this discussion under the caption "Capital/Stockholders' Equity".


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Forward-Looking Statements
Certain statements in this Form 10-Q which are not historical fact are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. Words such as "anticipate", "estimates", "may", "feels", "expects", "believes", "plans", "will", "would", "should", "could" and similar expressions are intended to identify these forward-looking statements but are not the exclusive means of identifying such statements. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially. Factors that might cause such a difference include, but are not limited to:
(1) the success, impact, and timing of Peoples' business strategies, including the successful integration of the recently completed Ohio Commerce acquisition and the insurance business acquisitions completed in the first half of 2013, the expansion of consumer lending activity and rebranding efforts;

(2) competitive pressures among financial institutions or from non-financial institutions may increase significantly, including product and pricing pressures and Peoples' ability to attract, develop and retain qualified professionals;

(3) changes in the interest rate environment due to economic conditions and/or the fiscal policies of the U.S. government and Federal Reserve Board, which may adversely impact interest margins;

(4) changes in prepayment speeds, loan originations and charge-offs, which may be less favorable than expected and adversely impact the amount of interest income generated;

(5) adverse changes in the economic conditions and/or activities, including impacts from the implementation of the Budget Control Act of 2011 and the American Taxpayer Relief Act of 2012, as well as continuing economic uncertainty in the U.S., the European Union, and other areas, which could decrease sales volumes and increase loan delinquencies and defaults;

(6) legislative or regulatory changes or actions, including in particular the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 and the regulations promulgated and to be promulgated thereunder, which may subject Peoples, its subsidiaries or one or more acquired companies to a variety of new and more stringent legal and regulatory requirements which adversely affect their respective businesses;

(7) deterioration in the credit quality of Peoples' loan portfolio, which may adversely impact the provision for loan losses;

(8) changes in accounting standards, policies, estimates or procedures which may adversely affect Peoples' reported financial condition or results of operations;

(9) adverse changes in the conditions and trends in the financial markets, including political developments, which may adversely affect the fair value of securities within Peoples' investment portfolio and interest rate sensitivity of Peoples' consolidated balance sheet;

(10) Peoples' ability to receive dividends from its subsidiaries;

(11) Peoples' ability to maintain required capital levels and adequate sources of funding and liquidity;

(12) the impact of larger or similar sized financial institutions encountering problems, which may adversely affect the banking industry and/or Peoples' business generation and retention, funding and liquidity;

(13) the costs and effects of regulatory and legal developments, including the outcome of potential regulatory or other governmental inquiries and legal proceedings and results of regulatory examinations;

(14) Peoples' ability to secure confidential information through the use of computer systems and telecommunications networks, including those of its third-party vendors and other service providers, may prove inadequate, which could adversely affect customer confidence in Peoples and/or result in Peoples incurring a financial loss;

(15) the overall adequacy of Peoples' risk management program; and

(16) other risk factors relating to the banking industry or Peoples as detailed from time to time in Peoples' reports filed with the Securities and Exchange Commission ("SEC"), including those risk factors included in the disclosure under "ITEM 1A. RISK FACTORS" of Peoples' 2012 Form 10-K.


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All forward-looking statements speak only as of the filing date of this Form 10-Q and are expressly qualified in their entirety by the cautionary statements. Although management believes the expectations in these forward-looking statements are based on reasonable assumptions within the bounds of management's knowledge of Peoples' business and operations, it is possible that actual results may differ materially from these projections. Additionally, Peoples undertakes no obligation to update these forward-looking statements to reflect events or circumstances after the filing date for this Form 10-Q or to reflect the occurrence of unanticipated events except as may be required by applicable legal requirements. Copies of documents filed with the SEC are available free of charge at the SEC's website at www.sec.gov and/or from Peoples' website - www.peoplesbancorp.com under the "Investor Relations" section.
This discussion and analysis should be read in conjunction with the audited Consolidated Financial Statements, and notes thereto, contained in Peoples' 2012 Form 10-K, as well as the Unaudited Consolidated Financial Statements, ratios, statistics and discussions contained elsewhere in this Form 10-Q. Business Overview
The following discussion and analysis of Peoples' Unaudited Consolidated Financial Statements is presented to provide insight into management's assessment of the financial condition and results of operations.
Peoples offers diversified financial products and services through 50 financial service locations and 47 ATMs in southeastern Ohio, west central West Virginia and northeastern Kentucky through its financial service units - Peoples Bank, National Association ("Peoples Bank") and Peoples Insurance Agency, LLC ("Peoples Insurance"), a subsidiary of Peoples Bank. Peoples Bank is a member of the Federal Reserve System and subject to regulation, supervision and examination by the Office of the Comptroller of the Currency.
Peoples' products and services include traditional banking products, such as deposit accounts, lending products and trust services. Peoples provides services through traditional offices, ATMs and telephone and internet-based banking. Peoples also offers a complete array of insurance products and makes available custom-tailored fiduciary and wealth management services. Brokerage services are offered by Peoples exclusively through an unaffiliated registered broker-dealer.
Critical Accounting Policies
The accounting and reporting policies of Peoples conform to US GAAP and to general practices within the financial services industry. The preparation of the financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could materially differ from those estimates. Management has identified the accounting policies that, due to the judgments, estimates and assumptions inherent in those policies, are critical to understanding Peoples' Unaudited Consolidated Financial Statements and Management's Discussion and Analysis at September 30, 2013, which were unchanged from the policies disclosed in Peoples' 2012 Form 10-K.
Summary of Recent Transactions and Events The following is a summary of recent transactions and events that have impacted or are expected to impact Peoples' results of operations or financial condition:
At the close of business on October 11, 2013, Peoples Bank completed the acquisition of Ohio Commerce and its single full-service office in Beachwood, Ohio. Under the terms of the agreement, Peoples Bank paid $13.75 in cash for each share of Ohio Commerce common stock for a total cash consideration of $16.5 million. At September 30, 2013, Ohio Commerce had total assets of $123.4 million, total loans of $97.7 million and total deposits of $111.3 million. Management expects this transaction to be accretive to Peoples' earnings starting in 2014 as one-time acquisition costs will more than offset the incremental 2013 earnings.

During 2013, Peoples has taken steps to reduce its investment in BOLI contracts and redeploy the funds in order to enhance long-term shareholder return. The first action was a $5.2 million partial withdrawal of the original premium paid, which was completed in May 2013. The next action was a request for a full surrender of certain BOLI policies, which had a cash surrender value of $42.8 million and cost basis of $36.5 million at June 30, 2013. In late July 2013, Peoples Bank received $36.2 million from the liquidation of the underlying investments in connection with the surrender request. The remaining cash surrender value of approximately $6.6 million is recorded as a receivable and is expected to be paid out by the end of January 2014 in accordance with the terms of the BOLI policies (collectively the "BOLI Surrender").


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The BOLI Surrender proceeds initially will be redeployed into Peoples Bank's investment portfolio, while the long-term goal is to ultimately use the proceeds to fund future loan growth. This redeployment is expected to increase Peoples' annual net interest income by at least $1 million. The BOLI Surrender caused Peoples to incur a $2.2 million federal income tax liability in the third quarter of 2013 for the gain associated with the policies surrendered.

On January 2, 2013, Peoples Insurance acquired a commercial insurance agency office and related customer accounts in the Pikeville, Kentucky area (the "Pikeville Acquisition"). On April 5, 2013, Peoples Insurance acquired McNelly Insurance and Consulting Agency, LLC and related customer accounts in Jackson, Ohio. On May 15, 2013, Peoples Insurance acquired two additional insurance agency offices and related customer accounts in Jackson, Ohio. These acquisitions are expected to help Peoples maintain revenue diversity by continuing to grow the fee-based businesses.

Peoples periodically has taken actions to reduce interest rate exposure within the investment portfolio and the entire balance sheet, which have included the sale of low yielding investment securities and repayment of high-cost borrowings. These actions included the sale of $68.8 million of investment securities, primarily low or volatile yielding residential mortgage-backed securities, during the first quarter of 2013. Some of the proceeds from these investment sales were reinvested in securities during the first quarter with the remaining reinvested early in the second quarter of 2013. In future quarters, Peoples intends to use the cash flow generated from the investment portfolio to fund loan growth.

On December 19, 2012, Peoples repaid the entire $30.9 million aggregate outstanding principal amount of its Series A and Series B Junior Subordinated Debentures and the proceeds were used by PEBO Capital Trust I to redeem 22,975 Series B 8.62% Capital Securities having an aggregate liquidation amount of $23.0 million, held by institutional investors as well as 928 outstanding Common Securities and 7,025 Series B 8.62% Capital Securities, having an aggregate liquidation amount of $8.0 million, held by Peoples (the "Trust Preferred Redemption"). This transaction resulted in Peoples incurring a pre-tax loss of $1.0 million for the redemption premium and unamortized issuance costs. Peoples funded $24.0 million of the repayment with a term note from an unaffiliated financial institution at a significantly lower interest rate, and the balance with cash on hand. As a result of the Trust Preferred Redemption, Peoples will realize an annual interest expense savings of $1.1 million beginning in 2013. Through the nine months of 2013, as a result of the Trust Preferred Redemption, Peoples realized interest expense savings of approximately $0.8 million.

On September 17, 2012, Peoples introduced its new brand as part of a company-wide brand revitalization. The brand is Peoples' promise, which is a guarantee of satisfaction and quality. Peoples will continue to incur costs throughout 2013 associated with the brand revitalization, including marketing due to advertisement, and depreciation for the revitalization of its branch network.

Since the second quarter of 2011, Peoples has experienced generally improving trends in several asset quality metrics, after a three-year trend of higher credit losses and nonperforming assets than Peoples' long-term historical levels. Additionally, the amount of criticized loans has decreased due in part to Peoples upgrading the loan quality ratings of various commercial loans. These conditions have resulted in recoveries of or lower provisions for loan losses.

Peoples' net interest income and margin are impacted by changes in market interest rates based upon actions taken by the Federal Reserve Board either directly or through its Open Market Committee. These actions include changing its target Federal Funds Rate (the interest rate at which banks lend money to each other), Discount Rate (the interest rate charged to banks for money borrowed from the Federal Reserve Bank) and longer-term market interest rates (primarily U.S. Treasury securities). Longer-term market interest rates also are affected by the demand for U.S. Treasury securities. The resulting changes in the yield curve slope have a direct impact on reinvestment rates for Peoples' earning assets.

The Federal Reserve Board has maintained its target Federal Funds Rate at a historically low level of 0% to 0.25% since December 2008 and has maintained the Discount Rate at 0.75% since December 2010. The Federal Reserve Board continues to indicate there is the potential for these short-term rates to remain unchanged until certain inflation and unemployment rates are achieved.


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Since late 2008, the Federal Reserve Board has taken various actions to lower longer-term market interest rates as a means of stimulating the economy - a policy commonly referred to as "quantitative easing". These actions have included the buying and selling of mortgage-backed and other debt securities through its open market operations. As a result, the slope of the U.S. Treasury yield curve has fluctuated significantly. Substantial flattening occurred in late 2008, in mid-2010 and since early third quarter of 2011, while moderate steepening occurred in the second half of 2009, late 2010 and mid 2013.

The impact of these transactions and events, where material, is discussed in the applicable sections of this Management's Discussion and Analysis.

EXECUTIVE SUMMARY
Net income for the quarter ended September 30, 2013 was $2.5 million, or $0.23 per diluted share, compared to $4.8 million and $0.45 per diluted share a year ago. On a year-to-date basis, net income was $12.5 million through September 30, 2013, compared to $16.5 million a year ago, representing earnings per diluted share of $1.16 and $1.56, respectively. Peoples' third quarter and year-to-date 2013 earnings were reduced by $2.2 million (or $0.21 per diluted share) due to the additional income tax expense associated with the BOLI Surrender. Also contributing to the lower year-to-date earnings were additional operating costs associated with various strategic investments to grow revenue over the past year, plus a lower recovery of loan losses.
Peoples had a recovery of loan losses of $0.9 million and $3.4 million for the three and nine months ended September 30, 2013, respectively, as several asset quality metrics maintained favorable trends. In comparison, Peoples recorded recovery of loan losses of $1.0 million and $4.2 million for the three and nine months ended September 30, 2012, respectively.
Net interest income was $13.7 million in the third quarter of 2013, compared to $13.2 million for the linked quarter and $13.3 million for the third quarter of 2012, while net interest margin was 3.26%, 3.15% and 3.30%, respectively. The linked quarter improvements were driven mostly by $405,000 of additional interest income for prepayment fees and interest recovered on nonaccrual loans, which added 10 basis points to net interest margin. Compared to the prior year, the prolonged low interest rate environment continued to put downward pressure on asset yields, causing net interest margin to compress. However, the impact on net interest income was offset by higher loan balances. On a year-to-date basis, net interest income was $39.8 million and net interest margin was 3.18% versus $40.4 million and 3.38%, respectively, a year ago. These decreases were the result of declining asset yields due to the reinvestment of funds at lower interest rates.
Non-interest income, which excludes gains and losses on investment securities, asset disposals and other transactions, for the third quarter of 2013 was up 4% from the linked quarter. This increase was due mostly to higher deposit account service charges driven by additional overdraft fees. Year-over-year, total non-interest income grew 12% for the third quarter and 7% on a year-to-date basis. Much of this growth was the result of increased insurance and investment income due to acquisitions completed in the second half of 2012 and first half of 2013. Insurance income was up 38% compared to prior year and 21% on a year-to-date basis, while trust and investment income increased by 12% and 16%, respectively. These increases were partially offset by lower mortgage banking income due to fewer loans being sold in the secondary market.
Total non-interest expense was $17.3 million for the quarter ended September 30, 2013, 5% higher than the linked quarter and 10% higher than the prior year third quarter. Contributing to the increase during the third quarter of 2013 was the pension settlement charges of $264,000 that Peoples recognized and acquisition-related expenses of $182,000. Peoples also has incurred additional expenses in 2013 for the costs associated with strategic investments, such as adding new talent and the branch refresh project. As a result, Peoples' non-interest expense totaled $49.9 million through nine months of 2013, an increase of 8% over $46.4 million in the first nine months of 2012. At September 30, 2013, total assets were $1.92 billion, up $19.9 million from the prior quarter-end but unchanged compared to year-end 2012. Total investment securities increased $17.2 million, to $690.5 million at September 30, 2013, due mostly to the BOLI Surrender. At September 30, 2013, gross loan balances were $1.06 billion, $26.9 million higher than the prior quarter-end amount and up 7% compared to year-end 2012, with growth occurring in both commercial and consumer balances. The allowance for loan losses was $16.9 million, or 1.60% of gross loans, compared to $17.8 million and 1.81% of gross loans at December 31, 2012. Total liabilities were $1.70 billion at September 30, 2013, up $16.8 million for the quarter but comparable to December 31, 2012. Retail deposit balances were essentially flat with the prior quarter-end and down 3% compared to year-end 2012. Non-interest-bearing deposits were substantially higher than both June 30, 2013 and December 31, 2012, due largely to a single commercial customer maintaining a higher than normal balance at quarter-end. Throughout 2013, Peoples


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has experienced a decline in retail interest-bearing deposits driven mostly by lower money market account and certificate of deposit ("CD") balances. At September 30, 2013, total borrowed funds were $231.0 million, up $12.8 million from June 30, 2013 and $54.4 million higher than year-end as Peoples has funded the majority of loan growth using short-term borrowings.
At September 30, 2013, total stockholders' equity was $222.2 million, up $3.1 million for the quarter but consistent with December 31, 2012. During 2013, the market value of Peoples' available-for-sale investment portfolio declined causing a $9.2 million reduction in stockholders' equity. In contrast, earnings have exceeded dividends declared by $8.1 million. Regulatory capital ratios remained significantly higher than "well capitalized" minimums. Peoples' Tier 1 Common Capital ratio remained stable at 14.09% at September 30, 2013, versus 14.06% at December 31, 2012, while the Total Risk-Based Capital ratio was 15.46% versus 15.43% at December 31, 2012. In addition, Peoples' tangible equity to tangible asset ratio was 8.16% and tangible book value per common share was $14.23 at September 30, 2013, versus 8.28% and $14.52 at December 31, 2012, respectively.
RESULTS OF OPERATIONS
Net Interest Income
Net interest income, the amount by which interest income exceeds interest expense, remains Peoples' largest source of revenue. The amount of net interest income earned by Peoples each quarter is affected by various factors, including changes in market interest rates due to the Federal Reserve Board's monetary policy, the level and degree of pricing competition for both loans and deposits in Peoples' markets, and the amount and composition of Peoples' earning assets and interest-bearing liabilities.


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The following tables detail Peoples' average balance sheets for the periods presented:

                                                                                  For the Three Months Ended
. . .
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