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Cardinal Financial 10-Q 2005

Documents found in this filing:

  1. 10-Q/A
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2

 

U.S. SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

 

FORM 10-Q/A

(Amendment No. 1)

 

ý Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934

 

For the quarterly period ended September 30, 2004

 

or

 

o 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:  0-24557

 

CARDINAL FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)

 

Virginia

 

54-1874630

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification No.)

 

 

 

8270 Greensboro Drive, Suite 500
McLean, Virginia

 

22102

(Address of principal executive offices)

 

(Zip Code)

 

 

 

(703) 584-3400

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes  ý    No  o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act)

 

Yes  ý    No  o

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

 

18,444,739 shares of common stock, par value $1.00 per share,

outstanding as of October 31, 2004

 

 



 

EXPLANATORY NOTE

 

This Amendment No. 1 reflects the following:

 

1.               The correction of the fair value measurement of mortgage loans held for sale by George Mason Mortgage, LLC (“GMM”) as of July 7, 2004, the date that the Company acquired GMM.  These mortgage loans were sold at a gain prior to September 30, 2004.  This correction results in a $740,000 decrease in recorded goodwill and a corresponding decrease in gains previously recognized from the sale of held for sale loans from July 7, 2004 to September 30, 2004.

 

2.               The correction of the fair value measurement of the construction to permanent loans held for sale at GMM.  This adjustment results in a $235,000 increase to loans held for sale and a corresponding decrease to goodwill.  In addition, adjustments were recorded, unrelated to purchase accounting, to correctly state unearned fees and costs recorded post acquisition which resulted in a decrease of $138,000 to loan service charges, a decrease of $86,000 to salaries and benefits expense and a decrease to loans held for sale of $52,000.

 

3.               The correction of the fair value measurement of the pipeline of mortgage loan commitments of GMM that were unfunded as of the purchase date.  During the period from July 7, 2004 to September 30, 2004, substantially all of these loan commitments were converted to loans held for sale and subsequently sold at a gain.  This correction results in a $455,000 decrease in recorded goodwill, a $421,000 decrease in gains on the sale of loans held for sale from July 7, 2004 to September 30, 2004, and an increase of $34,000 in loans held for sale.

 

4.               The correction of a liability and associated salary and benefits expense related to the Company’s Supplemental Employee Retirement Plan established as of the acquisition date of GMM.  This correction results in a $235,000 increase to liabilities and a corresponding increase to salaries and benefits expense.

 

5.               The reversal of GMM loss reserves that were recorded on loans held for sale and other fair value adjustments.  This adjustment results in a decrease of $397,000 to goodwill, a decrease of $122,000 to the allowance for loan losses, and a decrease of $275,000 to other liabilities.

 

6.               The correction of an accrual of management fee income at GMM to reflect actual quarter to date September 30, 2004 income.  This adjustment results in a $128,000 increase in non-interest income, an increase of $258,000 to other assets, and a decrease of $130,000 to goodwill.

 

7.               The correction of the September 30, 2004 measurement of the fair values of derivative instruments and other accounts associated with the Company’s economic hedging of interest rate risk related to loan commitments and loans held for sale.  These adjustments result in a decrease of $17,000 to the derivative asset, an increase of $546,000 to the derivative liability and an increase of $563,000 to loans held for sale.  The $563,000 adjustment to loans held for sale includes an increase of $586,000 in the basis of the loans as of September 30, 2004 for the value of the loan commitments transferred to the loan balance upon funding of the loan, and a lower of cost or market adjustment of $24,000 as of September 30, 2004.  These corrections relate to loan commitments and loans held for sale originated after the date of the acquisition.

 



 

These corrections affect, among other captions, net income before income taxes, the provision for income taxes, the resulting net income after tax to common shareholders and the basic and diluted earnings per share calculations.  Beginning and ending cash and cash equivalents for all reporting periods are unchanged.

 

This report on Form 10-Q/A for the period ended September 30, 2004 reflects corrections and restatements of the following unaudited financial statements:  (a) Consolidated Statements of Condition at September 30, 2004 (Unaudited); (b) Consolidated Statements of Income (Unaudited) for the Three and Nine Months ended September 30, 2004; (c) Consolidated Statements of Comprehensive Income (Loss) (Unaudited) for the Three and Nine Months ended September 30, 2004; (d) Consolidated Statements of Changes in Shareholders’ Equity (Unaudited) for the Nine Months ended September 30, 2004; and (e) Consolidated Statements of Cash Flows (Unaudited) for the Nine Months ended September 30, 2004.  For a more detailed description of the corrections and restatements, see Note 3 – “Restatement of Consolidated Financial Statements” to the accompanying Notes to the Consolidated Financial Statements and “Restatement of Consolidated Financial Statements” in Item 2 – “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this report on Form 10-Q/A.  This report on Form 10-Q/A also restates certain financial information for the applicable periods set forth in Item 2 -  “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and amends Item 4 -  “Controls and Procedures.”  Other items in this report of Form 10-Q/A are not affected by the corrections and restatements and appear unchanged from our original Form 10-Q for the period ended September 30, 2004.  The issued financial statements contained in the Company’s original Form 10-Q for the period ended September 30, 2004, as filed on November 22, 2004, should not be relied upon.

 



 

CARDINAL FINANCIAL CORPORATION

 

INDEX TO FORM 10-Q/A

 

PART I – FINANCIAL INFORMATION

2

 

 

Item 1. Financial Statements:

2

 

 

Consolidated Statements of Condition
At September 30, 2004 as Restated (Unaudited) and December 31, 2003

2

 

 

Consolidated Statements of Income (Unaudited)
Three and Nine Months ended September 30, 2004 as Restated and 2003

3

 

 

Consolidated Statements of Comprehensive Income (Loss) (Unaudited)
Three and Nine Months ended September 30, 2004 as Restated and 2003

4

 

 

Consolidated Statements of Changes In Shareholders’ Equity (Unaudited)
Nine Months Ended September 30, 2004 as Restated and 2003

5

 

 

Consolidated Statements of Cash Flows (Unaudited)
Nine Months ended September 30, 2004 as Restated and 2003

6

 

 

Notes to Consolidated Financial Statements (Unaudited) as Restated

7

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

20

 

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

40

 

 

Item 4. Controls and Procedures

41

 

 

PART II – OTHER INFORMATION

43

 

 

Item 1. Legal Proceedings

43

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

43

Item 3. Defaults Upon Senior Securities

43

Item 4. Submission of Matters to a Vote of Security Holders

43

Item 5. Other Information

43

Item 6. Exhibits

43

 

 

SIGNATURES

44

 



 

 

PART I – FINANCIAL INFORMATION

 

Item 1.  Financial Statements

 

CARDINAL FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CONDITION

 

At September 30, 2004 and December 31, 2003

 

(In thousands, except share data)

 

 

 

September 30,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

 

 

As Restated

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

13,726

 

$

9,555

 

Federal funds sold

 

25,580

 

3,528

 

 

 

 

 

 

 

Total cash and cash equivalents

 

39,306

 

13,083

 

 

 

 

 

 

 

Investment securities available-for-sale

 

159,981

 

130,762

 

Investment securities held-to-maturity

 

148,034

 

142,852

 

 

 

 

 

 

 

Total investment securities

 

308,015

 

273,614

 

 

 

 

 

 

 

Other investments

 

6,797

 

3,517

 

Loans held for sale at lower of cost or market, net

 

347,471

 

 

 

 

 

 

 

 

Loans receivable, net of deferred fees and costs

 

438,957

 

336,002

 

Allowance for loan losses

 

(5,168

)

(4,344

)

 

 

 

 

 

 

Loans receivable, net

 

433,789

 

331,658

 

 

 

 

 

 

 

Premises and equipment, net

 

14,917

 

6,707

 

Deferred tax asset

 

4,636

 

4,473

 

Goodwill

 

14,725

 

22

 

Accrued interest receivable and other assets

 

7,659

 

3,174

 

 

 

 

 

 

 

Total assets

 

$

1,177,315

 

$

636,248

 

 

 

 

 

 

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

$

819,934

 

$

474,129

 

Other borrowed funds

 

159,353

 

74,457

 

Mortgage funding checks

 

76,250

 

 

Warehouse financing

 

12,596

 

 

Escrow liabilities

 

3,519

 

 

Accrued interest payable and other liabilities

 

12,066

 

2,250

 

 

 

 

 

 

 

Total liabilities

 

1,083,718

 

550,836

 

 

 

 

 

 

 

Preferred stock, $1 par value, 10,000,000 shares authorized; Series A preferred stock, cumulative convertible, 0 and 1,364,062 shares outstanding in 2004 and 2003, respectively

 

 

1,364

 

Common stock, $1 par value, 50,000,000 shares authorized; 18,441,155 and 16,377,337 shares outstanding in 2004 and 2003, respectively

 

18,441

 

16,377

 

Additional paid-in capital

 

92,792

 

86,790

 

Accumulated deficit

 

(16,877

)

(18,614

)

Accumulated other comprehensive loss

 

(759

)

(505

)

 

 

 

 

 

 

Total shareholders’ equity

 

93,597

 

85,412

 

 

 

 

 

 

 

Total liabilities and shareholders’ equity

 

$

1,177,315

 

$

636,248

 

 

See accompanying notes to consolidated financial statements.

 

2



 

CARDINAL FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF INCOME

 

Three and nine months ended September 30, 2004 and 2003

(In thousands, except share and per share data)

(Unaudited)

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2004

 

2003

 

2004

 

2003

 

 

 

As Restated

 

 

 

As Restated

 

 

 

Interest income:

 

 

 

 

 

 

 

 

 

Loans receivable

 

$

5,826

 

$

4,166

 

$

15,425

 

$

12,298

 

Loan held for sale

 

3,268

 

 

3,268

 

 

Federal funds sold

 

49

 

17

 

96

 

98

 

Investment securities available-for-sale

 

1,536

 

754

 

4,360

 

4,047

 

Investment securities held-to-maturity

 

1,432

 

1,207

 

4,260

 

1,207

 

Other investments

 

78

 

35

 

162

 

90

 

 

 

 

 

 

 

 

 

 

 

Total interest income

 

12,189

 

6,179

 

27,571

 

17,740

 

 

 

 

 

 

 

 

 

 

 

Interest expense:

 

 

 

 

 

 

 

 

 

Deposits

 

3,668

 

2,062

 

8,448

 

6,528

 

Other borrowed funds

 

1,116

 

279

 

1,887

 

470

 

Warehouse financing

 

211

 

 

211

 

 

 

 

 

 

 

 

 

 

 

 

Total interest expense

 

4,995

 

2,341

 

10,546

 

6,998

 

 

 

 

 

 

 

 

 

 

 

Net interest income

 

7,194

 

3,838

 

17,025

 

10,742

 

 

 

 

 

 

 

 

 

 

 

Provision for loan losses

 

529

 

356

 

918

 

602

 

 

 

 

 

 

 

 

 

 

 

Net interest income after provision for loan losses

 

6,665

 

3,482

 

16,107

 

10,140

 

 

 

 

 

 

 

 

 

 

 

Non-interest income:

 

 

 

 

 

 

 

 

 

Service charges on deposit accounts

 

296

 

238

 

798

 

684

 

Loan service charges

 

129

 

74

 

414

 

342

 

Investment fee income

 

150

 

184

 

498

 

473

 

Net gain on sales of loans

 

1,398

 

175

 

1,460

 

259

 

Net realized gain on investment securities available-for-sale

 

3

 

291

 

245

 

1,201

 

Management fee income

 

802

 

 

802

 

 

Other non-interest income

 

6

 

9

 

9

 

35

 

 

 

 

 

 

 

 

 

 

 

Total non-interest income

 

2,784

 

971

 

4,226

 

2,994

 

 

 

 

 

 

 

 

 

 

 

Non-interest expense:

 

 

 

 

 

 

 

 

 

Salary and benefits

 

4,802

 

1,678

 

8,904

 

4,869

 

Occupancy

 

932

 

317

 

1,893

 

1,093

 

Professional fees

 

578

 

221

 

922

 

872

 

Depreciation

 

583

 

276

 

1,215

 

731

 

Data processing

 

255

 

216

 

647

 

671

 

Telecommunications

 

197

 

99

 

405

 

294

 

Other operating expenses

 

1,546

 

877

 

3,760

 

2,676

 

 

 

 

 

 

 

 

 

 

 

Total non-interest expense

 

8,893

 

3,684

 

17,746

 

11,206

 

 

 

 

 

 

 

 

 

 

 

Net income before income taxes

 

556

 

769

 

2,587

 

1,928

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

172

 

 

850

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

384

 

$

769

 

$

1,737

 

$

1,928

 

 

 

 

 

 

 

 

 

 

 

Dividends to preferred shareholders

 

 

124

 

 

371

 

 

 

 

 

 

 

 

 

 

 

Net income to common shareholders

 

$

384

 

$

645

 

$

1,737

 

$

1,557

 

 

 

 

 

 

 

 

 

 

 

Earnings per common share - basic

 

$

0.02

 

$

0.06

 

$

0.10

 

$

0.15

 

 

 

 

 

 

 

 

 

 

 

Earnings per common share - diluted

 

$

0.02

 

$

0.06

 

$

0.09

 

$

0.15

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding - basic

 

18,439,021

 

10,072,262

 

18,101,639

 

10,058,202

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding - diluted

 

18,697,179

 

10,344,977

 

18,361,013

 

10,249,184

 

 

See accompanying notes to consolidated financial statements.

 

3



 

CARDINAL FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

Three and nine months ended September 30, 2004 and 2003

(Dollars in thousands)

(Unaudited)

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2004

 

2003

 

2004

 

2003

 

 

 

As Restated

 

 

 

As Restated

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

384

 

$

769

 

$

1,737

 

$

1,928

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

Unrealized gain (loss) on available-for-sale investment securities:

 

 

 

 

 

 

 

 

 

Unrealized holding gain (loss) arising during the period, net of tax

 

2,537

 

(2,169

)

(93

)

(2,079

)

Less: reclassification adjustment for gains included in net income, net of tax

 

2

 

291

 

161

 

1,201

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income (loss)

 

$

2,919

 

$

(1,691

)

$

1,483

 

$

(1,352

)

 

See accompanying notes to consolidated financial statements.

 

4



 

CARDINAL FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

Nine months ended September 30, 2004 and 2003

(In thousands)

(Unaudited)

 

 

 

Preferred
Shares

 

Preferred
Stock

 

Common
Shares

 

Common
Stock

 

Additional
Paid-in
Capital

 

Accumulated
Deficit

 

Accumulated
Other
Comprehensive
Income (Loss)

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2002

 

1,365

 

$

1,365

 

10,044

 

$

10,044

 

$

51,231

 

$

(24,273

)

$

2,345

 

$

40,712

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock options exercised

 

 

 

32

 

32

 

110

 

 

 

142

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividends on preferred stock

 

 

 

 

 

 

(371

)

 

(371

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Preferred stock converted to common stock

 

(1

)

(1

)

1

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Change in unrealized loss on investment securities available-for-sale

 

 

 

 

 

 

 

(3,280

)

(3,280

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

 

1,928

 

 

1,928

 

Balance, September 30, 2003

 

1,364

 

$

1,364

 

10,077

 

$

10,077

 

$

51,341

 

$

(22,716

)

$

(935

)

$

39,131

 

Balance, December 31, 2003

 

1,364

 

$

1,364

 

16,377

 

$

16,377

 

$

86,790

 

$

(18,614

)

$

(505

)

$

85,412

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock options exercised

 

 

 

93

 

93

 

306

 

 

 

399

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Public offering shares issued

 

 

 

945

 

945

 

5,358

 

 

 

6,303

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Preferred stock converted to common stock

 

(1,364

)

(1,364

)

1,026

 

1,026

 

338

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Change in unrealized loss on investment securities available-for-sale

 

 

 

 

 

 

 

(254

)

(254

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income, as restated

 

 

 

 

 

 

1,737

 

 

1,737

 

Balance, September 30, 2004, as restated

 

 

$

 

18,441

 

$

18,441

 

$

92,792

 

$

(16,877

)

$

(759

)

$

93,597

 

 

See accompanying notes to consolidated financial statements.

 

5



 

CARDINAL FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

Nine months ended September 30, 2004 and 2003

(In thousands)

(Unaudited)

 

 

 

2004

 

2003

 

 

 

As Restated

 

 

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

1,737

 

$

1,928

 

Adjustments to reconcile net income to net cash used in operating activities:

 

 

 

 

 

Depreciation

 

1,215

 

731

 

Amortization of premiums and discounts

 

1,557

 

1,719

 

Provision for loan losses

 

918

 

602

 

Loans held for sale originated and acquired

 

(1,247,010

)

(30,318

)

Proceeds from the sale of loans held for sale

 

900,999

 

29,792

 

Gain on sale of loans held for sale

 

(1,460

)

(259

)

Gain on sale of investment securities available-for-sale

 

(245

)

(1,201

)

(Increase) decrease in accrued interest receivable, other assets, goodwill and deferred tax asset

 

(19,351

)

3,235

 

Decrease in accrued interest payable, escrow liabilities and other liabilities

 

(13,335

)

(17,879

)

 

 

 

 

 

 

Net cash used in operating activities

 

(374,975

)

(11,650

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Purchase of premises and equipment

 

(9,425

)

(829

)

Proceeds from sale, maturity and call of investment securities available-for-sale

 

23,719

 

88,535

 

Proceeds from maturity and call of investment securities held-to-maturity

 

5,490

 

 

Proceeds from sale of other investments

 

7,442

 

350

 

Purchase of investment securities available-for-sale

 

(78,959

)

(222,938

)

Purchase of investment securities held-to-maturity

 

(30,514

)

 

Purchase of other investments

 

(10,098

)

(2,483

)

Redemptions of investment securities available-for-sale

 

22,817

 

51,204

 

Redemptions of investment securities held-to-maturity

 

21,089

 

 

Net cash acquired in acquisition

 

27,599

 

 

Net increase in loans receivable

 

(103,592

)

(41,736

)

 

 

 

 

 

 

Net cash used in investing activities

 

(124,432

)

(127,897

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Net increase in deposits

 

345,805

 

35,732

 

Net increase in other borrowed funds

 

27,152

 

27,170

 

Net increase in warehouse financing and mortgage check fundings

 

88,846

 

 

Proceeds from FHLB advances - long term

 

45,000

 

34,000

 

Repayments of FHLB advances - long term

 

(7,875

)

(417

)

Proceeds from public offering

 

6,303

 

 

Proceeds from trust preferred issuance

 

20,000

 

 

Stock options exercised

 

399

 

142

 

Dividends on preferred stock

 

 

(371

)

 

 

 

 

 

 

Net cash provided by financing activities

 

525,630

 

96,256

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

26,223

 

(43,291

)

 

 

 

 

 

 

Cash and cash equivalents at beginning of the period

 

13,083

 

63,371

 

 

 

 

 

 

 

Cash and cash equivalents at end of the period

 

$

39,306

 

$

20,080

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

Cash paid during the period for interest

 

$

9,622

 

$

6,924

 

Cash paid for income taxes

 

80

 

 

 

 

 

 

 

 

Supplemental schedule of noncash investing and financing activities:

 

 

 

 

 

The Company acquired all of the issued and outstanding membership interests of George Mason Mortgage, LLC for $17.0 million. In conjunction with the acquisition, liabilities were assumed as follows:

 

 

 

 

 

Fair value of assets acquired

 

$

356,562

 

 

 

Goodwill

 

14,703

 

 

 

Cash paid

 

(17,000

)

 

 

Fair value of liabilities assumed

 

$

354,265

 

 

 

 

See accompanying notes to consolidated financial statements.

 

6



 

CARDINAL FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2004

As Restated

(Unaudited)

 

Note 1

 

Organization

 

Cardinal Financial Corporation (the ”Company” or “Cardinal”) was incorporated on November 24, 1997 under the laws of the Commonwealth of Virginia as a bank holding company whose activities consist of investment in its wholly owned subsidiaries.  The Company opened Cardinal Bank, N.A. (the “Bank”) in 1998 and Cardinal Wealth Services, Inc., an investment services subsidiary, in 1999.  In 1999, the Company opened two additional banking subsidiaries and, in late 2000, completed an acquisition of Heritage Bancorp, Inc. and its banking subsidiary, The Heritage Bank (“Heritage”).  These banking subsidiaries were consolidated into the Bank as of March 1, 2002.  On April 15, 2004, the Company received approval from the Federal Reserve Bank of Richmond to be a financial holding company.  In December 2004, Cardinal Bank, N.A. converted to a state chartered institution and changed its name to Cardinal Bank.

 

Basis of Presentation

 

In the opinion of management, the accompanying consolidated financial statements have been prepared in accordance with the requirements of Regulation S-X, Article 10.  Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.  However, all adjustments that are, in the opinion of management, necessary for a fair presentation have been included.  The results of operations for the three and nine months ended September 30, 2004 are not necessarily indicative of the results to be expected for the full year ending December 31, 2004.  The unaudited interim financial statements should be read in conjunction with the audited financial statements and notes to financial statements that are included in the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2003 (the “2003 Form 10-KSB”).

 

Note 2

 

Summary of Significant Accounting Policies

 

The following accounting policies have been updated as a result of the acquisition of George Mason Mortgage, LLC (“GMM”).  For a complete list of the Company’s significant accounting polices, see the Notes to the Consolidated Financial Statements that are presented in the 2003 Form 10-KSB.

 

(a) Loans held for sale

 

Loans originated and intended for sale in the secondary market are carried at the lower of cost or estimated fair value on an aggregate loan basis as determined by outstanding commitments from investors.  Net unrealized losses, if any, are recognized through a valuation allowance by charges to operations.  Cost basis includes unpaid principal

 

7



 

balances, origination premiums or discounts, and origination fees and direct costs that are deferred at the time of origination.

 

(b) Gain on sale of loans

 

Gains or losses on the sale of loans are recognized at the date of settlement and are based on the difference between the selling price and the carrying value of the related loans sold.  Fees and direct costs originally deferred associated with the origination of the loans held for sale are recognized as an adjustment to the gain on sale when the loans are sold.

 

(c) Management fee income

 

Management fee income represents income earned for the management and operational support provided by GMM to other mortgage banking companies (the “managed companies”).  The relationship of GMM to these managed companies is solely as a mortgage banking advisor.  There are no fiduciary or other special relationships with regard to each of the managed companies.  Fees earned by GMM are accrued monthly based on individual contractual arrangements with each of the managed companies. 

 

(d) Derivatives and hedging activities

 

The Company accounts for its derivatives and hedging activities in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 133, Accounting for Derivative Instruments and Hedging Activity, as amended by SFAS No. 138, Accounting for Certain Derivative Instruments and Certain Hedging Activities and SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities. 

 

In the normal course of business, the Company enters into contractual commitments, including loan commitments and rate lock commitments to extend credit to finance residential mortgages.  These commitments, which contain fixed expiration dates, offer the borrower an interest rate guarantee provided the loan meets underwriting guidelines and closes within the time frame established by the Company.  Interest rate risk arises on these commitments and subsequently closed loans if interest rates move between the time of the interest rate lock and the delivery of the loan to the investor.  Loan commitments related to mortgage loans that are intended to be sold are considered derivatives in accordance with the guidance of SEC Staff Accounting Bulletin No. 105, Application of Accounting Principles to Loan Commitments. Accordingly, the fair value of these derivatives at the end of the reporting period has been determined through an analysis of changes in market interest rates from the interest rate lock date and the loan closing date. 

 

To mitigate the effect of the interest rate risk inherent in providing loan commitments, the Company economically hedges its commitments by entering into best efforts delivery forward loan sale contracts.  These forward contracts are marked to market through earnings and are not designated as accounting hedges under SFAS No. 133.  The change in the fair value of loan commitments and the change in the fair value of forward sales contracts generally move in opposite directions and, accordingly, the impact of changes in these valuations on net income during the loan commitment period is generally inconsequential. 

 

Although the forward loan sale contracts also serve as an economic hedge of loans held for sale, forward contracts have not been designated as accounting hedges under

 

8



 

SFAS No. 133 and, accordingly, loans held for sale are accounted for at the lower of cost or market in accordance with SFAS No. 65, Accounting for Certain Mortgage Banking Activities.

 

(e) Business combinations

 

The acquisition of GMM was accounted for as a purchase as required by SFAS No. 141 Business Combinations.  The purchase accounting method requires that the cost of an acquired entity be allocated to the assets acquired and liabilities assumed based on their estimated fair values at the date of acquisition.  The difference between the fair values and the purchase price is recorded as goodwill.  In addition, SFAS No. 141 requires that identified intangible assets acquired in a business combination must be separately valued and recognized on the balance sheet if they meet certain requirements.  As of September 30, 2004, the Company had not identified any intangible assets related to its acquisition of GMM, but began the process of evaluating potential identifiable intangibles. 

 

(f) Reclassifications

 

Certain amounts for the 2003 periods have been reclassified to conform to the presentation for the 2004 periods.  In addition, we have reclassified $244,000 of salaries and benefits expense to gain on loan sales from the Form 10-Q as originally filed to the Form 10-Q/A as these were direct origination costs initially deferred until the loans were sold.

 

(g) Stock-Based Compensation

 

At September 30, 2004, the Company had two stock-based employee compensation plans, the 1999 Stock Option Plan and the 2002 Equity Compensation Plan.  These plans are described more fully in Footnote 14 of the 2003 Form 10-KSB.

 

As permitted under SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure, which amended SFAS No. 123, Accounting for Stock-Based Compensation, the Company has elected to continue to follow the intrinsic value method in accounting for its stock-based employee compensation arrangements as defined by Accounting Principles Board Opinion (“APB”) No. 25, Accounting for Stock Issued to Employees, and related interpretations including Financial Accounting Standards Board Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation, an interpretation of APB No. 25.  The following table illustrates the effect on net income and earnings per common share as if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation.

 

9



 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

(Dollars in thousands)

 

2004

 

2003

 

2004

 

2003

 

 

 

As Restated

 

 

 

As Restated

 

 

 

Net income to common shareholders

 

$

384

 

$

645

 

$

1,737

 

$

1,557

 

Deduct: Total stock-based employee compensation expense determined under fair value- based method for all awards

 

(753

)

(106

)

(1,428

)

(434

)

Pro forma net income (loss)

 

$

(369

)

$

539

 

$

309

 

$

1,123

 

 

 

 

 

 

 

 

 

 

 

Earnings (loss) per common share:

 

 

 

 

 

 

 

 

 

Basic - as reported

 

$

0.02

 

$

0.06

 

$

0.10

 

$

0.15

 

Basic - pro forma

 

(0.02

)

0.05

 

0.02

 

0.11

 

Diluted - as reported

 

0.02

 

0.06

 

0.09

 

0.15

 

Diluted - pro forma

 

(0.02

)

0.05

 

0.02

 

0.11

 

 

The weighted average per share fair values of grants made for the three months ended September 30, 2004 and 2003 were $3.30 and $2.80, respectively.  The weighted average per share values of grants made for the nine months ended September 30, 2004 and 2003 were $3.08 and $2.12, respectively.  The fair values of the options granted were estimated as of grant date using the Black - Scholes option - pricing model based on the following weighted average assumptions:

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2004

 

2003

 

2004

 

2003

 

Estimated option life

 

10 years

 

10 years

 

10 years

 

10 years

 

Risk free interest rate

 

4.29

%

4.23

%

4.12

%

3.96

%

Expected volatility

 

11.80

%

20.40

%

11.80

%

20.40

%

Expected dividend yield

 

0.00

%

0.00

%

0.00

%

0.00

%

 

There were options to purchase 219,000 and 508,518 shares of common stock granted during the three and nine months ended September 30, 2004, respectively.  Of those grants, 200,000 and 375,204 immediately vested on the grant date for the three and nine months ended September 30, 2004, respectively.

 

Note 3

 

Restatement of Consolidated Financial Statements

 

The unaudited Consolidated Statement of Condition at September 30, 2004, the unaudited Consolidated Statements of Income for the three and nine months ended September 30, 2004, the unaudited Consolidated Statements of Comprehensive Income (Loss) for the three and nine months ended September 30, 2004, the unaudited Consolidated Statements of Changes in Shareholders’ Equity for the nine months ended September 30, 2004 and the unaudited Consolidated Statements of Cash Flows for the nine months ended September 30, 2004 have been restated to correct certain errors.  The effect of this restatement on net income to common shareholders for both the three and nine months ended September 30, 2004 was a

 

10



 

decrease of $871,000.  Additionally, basic and diluted earnings per share for the three months ended September 30, 2004 were corrected to $0.02 from $0.07.  Basic earnings per share was corrected to $0.10 from $0.14 for the nine months ended September 30, 2004.  Diluted earnings per share was corrected to $0.09 from $0.14 for the nine months ended September 30, 2004.  The following is a summary of the principal reasons for the correction and adjustments:

 

1.               The correction of the fair value measurement of mortgage loans held for sale by George Mason Mortgage, LLC (“GMM”) as of July 7, 2004, the date that the Company acquired GMM.  These mortgage loans were sold at a gain prior to September 30, 2004.  This correction results in a $740,000 decrease in recorded goodwill and a corresponding decrease in gains previously recognized from the sale of held for sale loans from July 7, 2004 to September 30, 2004.

 

2.               The correction of the fair value measurement of the construction to permanent loans held for sale at GMM.  This adjustment results in a $235,000 increase to loans held for sale and a corresponding decrease to goodwill.  In addition, adjustments were recorded, unrelated to purchase accounting, to correctly state unearned fees and costs recorded post acquisition which resulted in a decrease of $138,000 to loan service charges, a decrease of $86,000 to salaries and benefits expense and a decrease to loans held for sale of $52,000.

 

3.               The correction of the fair value measurement of the pipeline of mortgage loan commitments of GMM that were unfunded as of the purchase date.  During the period from July 7, 2004 to September 30, 2004, substantially all of these loan commitments were converted to loans held for sale and subsequently sold at a gain.  This correction results in a $455,000 decrease in recorded goodwill, a $421,000 decrease in gains on the sale of loans held for sale from July 7, 2004 to September 30, 2004, and an increase of $34,000 in loans held for sale.

 

4.               The correction of a liability and associated salary and benefits expense related to the Company’s Supplemental Employee Retirement Plan established as of the acquisition date of GMM.  This correction results in a $235,000 increase to liabilities and a corresponding increase to salaries and benefits expense.

 

5.               The reversal of GMM loss reserves that were recorded on loans held for sale and other fair value adjustments.  This adjustment results in a decrease of $397,000 to goodwill, a decrease of $122,000 to the allowance for loan losses, and a decrease of $275,000 to other liabilities.

 

6.               The correction of an accrual of management fee income at GMM to reflect actual quarter to date September 30, 2004 income.  This adjustment results in a $128,000 increase in non-interest income, an increase of $258,000 to other assets, and a decrease of $130,000 to goodwill.

 

7.               The correction of the September 30, 2004 measurement of the fair values of derivative instruments and other accounts associated with the Company’s economic hedging of interest rate risk related to loan commitments and loans held for sale.  These adjustments result in a decrease of $17,000 to the derivative asset, an increase of $546,000 to the derivative liability and an increase of $563,000 to loans held for sale.  The $563,000 adjustment to loans held for sale includes an increase of $586,000 in the basis of the loans as of September 30, 2004 for the value of the loan commitments transferred to the loan balance upon funding of the loan, and a lower of cost or market adjustment of $24,000 as of September 30, 2004.  These corrections relate to loan commitments and loans held for sale originated after the date of the acquisition.

 

11



 

A summary of the impact of the restatement on net income to common shareholders follows:

 

 

 

September 30, 2004

 

(Dollars in thousands)

 

For the Three
Months Ended

 

For the Nine
Months Ended

 

Net income to common shareholders, as previously reported

 

$

1,255

 

$

2,608

 

Restatement for fair value adjustment on loans held for sale

 

(740

)

(740

)

Restatement for fair value adjustment on unfunded commitments

 

(421

)

(421

)

Accrual of September 30, 2004 management fee income receivable

 

128

 

128

 

Accrual of Supplemental Employee Retirement Plan expense

 

(235

)

(235

)

Restatement for fair value of construction loans held for sale

 

(52

)

(52

)

Adjustment to provision for income taxes

 

449

 

449

 

Net income to common shareholders, as restated

 

$

384

 

$

1,737

 

 

The following Notes have been amended in connection with the restatement:  Note 2 - “Summary of Significant Accounting Policies,” Note 4 – “Acquisition,” Note 6 - “Segment Information,” and Note 7 - “Earnings Per Common Share.”

 

The following table presents the captions from the Consolidated Statements of Condition at September 30, 2004 that were affected by the corrections:

 

CONSOLIDATED STATEMENTS OF CONDITION

 

September 30, 2004

(Dollars in thousands)

 

 

 

September 30,
2004

 

September 30,
2004

 

 

 

As Restated

 

As Previously
Reported

 

Loans held for sale at lower of cost or market, net

 

$

347,471

 

$

346,692

 

Allowance for loan losses

 

(5,168

)

(5,291

)

Loans receivable, net

 

433,789

 

433,666

 

Goodwill

 

14,725

 

16,682

 

Accrued interest receivable and other assets

 

7,659

 

7,418

 

Total assets

 

1,177,315

 

1,178,129

 

Accrued interest payable and other liabilities

 

12,066

 

12,009

 

Total liabilities

 

1,083,718

 

1,083,661

 

Accumulated deficit

 

(16,877

)

(16,006

)

Total shareholders’ equity

 

93,597

 

94,468

 

Total liabilities and shareholders’ equity

 

1,177,315

 

1,178,129

 

 

The following table presents the captions from the Consolidated Statements of Income for the three and nine months ended September 30, 2004 that were affected by the corrections:

 

12



 

CONSOLIDATED STATEMENTS OF INCOME

Three and nine months ended September 30, 2004

(Dollars in thousands)

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2004

 

2004

 

2004

 

2004

 

 

 

As Restated

 

As Previously
Reported

 

As Restated

 

As Previously
Reported

 

Non-interest income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loan service charges

 

$

129

 

$

267

 

$

414

 

$

552

 

Net gain on sales of loans

 

1,398

 

2,802

 

1,460

 

2,864

 

Management fee income

 

802

 

674

 

802

 

674

 

Total non-interest income

 

2,784

 

4,198

 

4,226

 

5,640

 

 

 

 

 

 

 

 

 

 

 

Non-interest expense:

 

 

 

 

 

 

 

 

 

Salary and benefits

 

4,802

 

4,896

 

8,904

 

8,998

 

Total non-interest expense

 

8,893

 

8,987

 

17,746

 

17,840

 

Net income before income taxes

 

556

 

1,876

 

2,587

 

3,907

 

Provision for income taxes

 

172

 

621

 

850

 

1,299

 

Net income

 

384

 

1,255

 

1,737

 

2,608

 

Earnings per common share - basic

 

$

0.02

 

$

0.07

 

$

0.10

 

$

0.14

 

Earnings per common share - diluted

 

$

0.02

 

$

0.07

 

$

0.09

 

$

0.14

 

 

The following table presents the captions from the Consolidated Statements of Other Comprehensive Income (Loss) for the three and nine months ended September 30, 2004 that were affected by the corrections:

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

Three and nine months ended September 30, 2004 and 2003

(Dollars in thousands)

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2004

 

2004

 

2004

 

2004

 

 

 

As Restated

 

As Previously
Reported

 

As Restated

 

As Previously
Reported

 

Net income

 

$

384

 

$

1,255

 

$

1,737

 

$

2,608

 

Comprehensive income

 

2,919

 

3,790

 

1,483

 

2,354

 

 

13



 

The following table presents the captions from the Consolidated Statement of Changes in Shareholders’ Equity for the nine months ended September 30, 2004 that were affected by the corrections:

 

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

Nine months ended September 30, 2004 and 2003

 

(In thousands)

 

 

 

As Restated

 

As Previously
Reported

 

 

 

 

 

 

 

Accumulated deficit

 

$

(16,877

)

$

(16,006

)

 

 

 

 

 

 

Total shareholders’ equity

 

93,597

 

94,468

 

 

The following table presents the captions of the Consolidated Statements of Cash Flows for the nine months ended September 30, 2004 that were affected by the corrections:

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

Nine Months Ended September 30, 2004

 

 

 

As Restated

 

As Previously
Reported

 

 

 

 

 

 

 

Cash flows from operating activities

 

$

(374,975

)

$

(374,984

)

 

 

 

 

 

 

Cash flows from investing activities

 

(124,432

)

(150,003

)

 

Supplemental schedule of noncash investing and financing activities:

The Company acquired all of the issued and outstanding membership interests of George Mason Mortgage, LLC for $17.0 million. In conjunction with the acquisition, liabilities were assumed as follows:

 

Fair value of assets acquired

 

$

356,562

 

$

372,725

 

Goodwill

 

14,703

 

16,682

 

Cash paid

 

(17,000

)

(17,000

)

Downstream of capital to GMM

 

 

(8,000

)

Fair value of liabilities assumed

 

$

354,265

 

$

364,407

 

 

14



 

Note 4

 

Acquisition

 

Effective July 7, 2004, the Bank completed its acquisition of GMM from United Bank – Virginia, a wholly owned subsidiary of United Bankshares, Inc.  GMM was acquired in a cash transaction for $17.0 million and is operating as a subsidiary of the Bank.  This transaction was accounted for as a purchase and GMM’s assets and liabilities were recorded at fair value as of the purchase date.  GMM’s operating results are included in the consolidated results since the date of the acquisition.  This transaction resulted in the recognition of $14.7 million of goodwill, as restated.  GMM’s primary sources of revenue include net interest income earned on loans held for sale, gain on the sale of loans and management fees earned.  Loans are made pursuant to purchase commitments and are sold servicing released.  The Bank purchased GMM primarily to diversify its sources of income and increase non-interest income and to provide for increased residential loans for its portfolio.

 

The following unaudited pro forma condensed combined financial information presents the results of operations of the Company as if GMM had been acquired on January 1, 2003.

 

 

 

Three Months Ended
September 30, 2004

 

Nine Months Ended

 

(Dollars in thousands)

 

 

September 30, 2004

 

September 30, 2003

 

 

 

 

 

 

 

 

 

Net interest income

 

$

7,308

 

$

21,146

 

$

17,422

 

 

 

 

 

 

 

 

 

Non-interest income

 

4,605

 

23,157

 

31,277

 

 

 

 

 

 

 

 

 

Provision for loan losses

 

529

 

918

 

602

 

 

 

 

 

 

 

 

 

Non-interest expense

 

9,415

 

35,698

 

34,935

 

 

 

 

 

 

 

 

 

Net income before income taxes

 

1,969

 

7,687

 

13,162

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

652

 

2,365

 

5,091

 

 

 

 

 

 

 

 

 

Net income

 

$

1,317

 

$

5,322

 

$

8,071

 

 

 

 

 

 

 

 

 

Earnings per common share - basic

 

$

0.07

 

$

0.30

 

$

0.31

 

 

 

 

 

 

 

 

 

Earnings per common share - diluted

 

0.07

 

0.29

 

0.31

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding -basic

 

18,439,021

 

18,101,639

 

10,058,202

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding -diluted

 

18,697,179

 

18,361,013

 

11,272,231

 

 

The purchase price is allocated to identifiable tangible and intangible assets at their fair values. Any portion of the purchase price that cannot be assigned to specifically identifiable tangible and intangible assets acquired less liabilities assumed is recorded as goodwill. 

 

The following table provides a reconciliation of the excess cost of the acquisition to the Company over the fair value of net assets acquired from GMM (in thousands):

 

15



 

Cash paid by the Company

 

$

17,000

 

Fair value of loans held for sale

 

(1,204

)

Fair value of construction to permanent loans held for sale

 

(235

)

Fair value of unfunded commitments

 

(455

)

Fair value of reserve for loans losses

 

(397

)

Fair value of management fee accrual

 

(130

)

Merger costs

 

124

 

Goodwill

 

$

14,703

 

 

The total fair value adjustments at July 7, 2004 for loans held for sale resulted in an adjustment of $1.9 million.  Included in the fair value adjustment was a $1.2 million increase in mortgage loans held for sale, $455,000 of fair value attributable to the acquired pipeline and a $235,000 fair value adjustments to construction to permanent loans held for sale.   Also, fair value adjustments of $122,000 related to the removal of an allowance for loan losses recorded on loans held for sale and a $275,000 reduction of the other loss reserves were recorded in other liabilities.  In addition, a fair value adjustment of $130,000 was recorded for management fee income that was earned by GMM prior to the acquisition.

 

No adjustments were recorded for GMM’s other borrowed funds, as they were determined to be at fair value as all borrowed funds are short term and have variable interest rates tied to the Federal Reserve’s discount rate.  All other assets and liabilities of GMM are current assets and liabilities and were determined to be recorded at their fair values.

 

Note 5

 

Trust Preferred Securities

 

In July 2004, the Company formed a new wholly-owned subsidiary, Cardinal Statutory Trust I (the “Trust”), for the purpose of issuing $20.0 million of floating rate junior subordinated deferrable interest debentures (“trust preferred securities”).  These trust preferred securities are due in 2034 and have an interest rate of LIBOR (London Interbank Offering Rate) plus 2.40%, which adjusts quarterly.  These securities are redeemable at a premium through March 2008 and at par thereafter.  The Company has guaranteed payment of these securities.  The $20.6 million payable by the Company to the Trust is included in other borrowed funds in the Consolidated Statements of Condition.  The Trust is an unconsolidated subsidiary since the Company is not the primary beneficiary of this entity under FIN 46R.  The additional $619,000 that is payable by the Company to the Trust relates to the capital of the Trust.  The Company utilized the proceeds from the issuance of the trust preferred securities to make a capital contribution into the Bank.

 

16



 

Note 6

 

Segment Information

 

In 2003 and for the first six months of 2004, the Company operated and reported in two business segments, commercial banking and investment services.  As of July 7, 2004, the Company began operating in a third business segment, mortgage banking, with the completion of its acquisition of GMM.  The commercial banking segment includes both commercial and consumer lending and provides customers such products as commercial loans, real estate loans, and other business financing and consumer loans.  In addition, this segment also provides customers with several choices of deposit products including demand deposit accounts, savings accounts and certificates of deposit.  The mortgage banking segment engages primarily in the origination and acquisition of residential mortgages for sale into the secondary market on a best efforts basis.  The investment services segment provides advisory services to businesses and individuals, including financial planning and retirement/estate planning.

 

Information about the reportable segments, and reconciliation of this information to the consolidated financial statements at and for the three and nine months ended September 30, 2004 and 2003, follows:

 

At and for the Three Months Ended September 30, 2004, as restated:

 

 

 

Commercial
Banking

 

Mortgage
Banking

 

Investment
Services

 

Intersegment
Elimination

 

Other