Balance Sheet Review
During the 2nd quarter of 2002, average loans grew $69.4 million, or .9%, compared to the 1st quarter of 2002, and declined by $201.3 million, or 2.6%, when compared to the 2nd quarter of 2001. The increase over the 1st quarter 2002 was the result of growth in average personal, home equity, and business loans, but offset by lower business and personal real estate loans. The region's economy remains sluggish and customers with lines of credit to finance inventories and receivables have been slow to add new debt. The same remains true for other commercial lending activities including business real estate and construction lending. Personal real estate loans decreased $28.5 million this quarter, continuing the trend whereby principal amortization, coupled with lower origination of variable rate loans, resulted in lower loan balances. Long-term fixed rate real estate loans originated by the Company are routinely sold to the secondary market. During the quarter personal loans, mainly automobile lending, grew by $36.8 million on average, reversing the trend of several previous quarters. The completion of major incentive programs offered by the auto companies over the last two quarters allowed the Company to offer more competitive products and increase loan balances.
Available for sale investment securities declined on average by $150.4 million during the quarter. This decrease in average securities resulted from maturities of existing securities, the proceeds of which were used mainly to make new loans and reduce outstanding debt. The total investment securities portfolio amounted to $3.5 billion at June 30, 2002 and is comprised mainly of U.S. Government and agencies (33%), mortgage backed (38%), and other asset backed (22%) investment securities.
Total average deposits increased $85.5 million during the 2nd quarter compared to the 1st quarter of this year, and grew by $380.5 million or 4.0% when compared to the 2nd quarter of last year. The increase over the 1st quarter was due mainly to the continued growth in money market, interest checking and certain short-term jumbo certificates of deposit offset by lower long-term retail certificates of deposit.
During the quarter, average borrowings decreased by $209.9 million primarily due to maturities of FHLB borrowings and lower Federal funds purchased.
Net Interest Income
In the 2nd quarter, net interest income totaled $124.4 million, an increase of approximately $3.8 million or 3.15% (12.6% annualized) compared to the 1st quarter of this year. The net interest margin for the current quarter improved to 4.47% compared with 4.34% in the 1st quarter this year and 4.44% last year.
Stable interest rates continued again this quarter, allowing for consistent earning asset yields, but much lower deposit and other borrowing costs. Total interest expense decreased $4.7 million in the current quarter compared with the 1st quarter of 2002 and the overall cost of interest bearing liabilities decreased 18 basis points to 1.59%. Average rates on deposits declined 19 basis points to 1.57% in the 2nd quarter, mainly due to the downward re-pricing of rates on certificates of deposit. Lower certificate of deposit balances also reduced interest costs. Rates on non-maturity deposits remained consistent with the previous quarter and have not changed significantly over the past two quarters.
Interest income decreased $869 thousand during the current quarter and the yield on earning assets amounted to 5.85%, down only 4 basis points from the previous quarter. Interest on loans decreased $1.3 million in the 2nd quarter 2002 compared with the 1st quarter mainly due to lower rates on variable rate loans, but was offset by higher earnings on the Company's investment portfolio. This growth in earnings was the result of increased interest on certain U.S. Treasury bonds indexed with inflation, but offset by a reduction in the overall portfolio due to normal maturities.
With interest rates continuing to remain stable and the economy somewhat sluggish, net interest income should continue to improve over the next two quarters following the same pattern of lower certificate of deposit rates, but stable earning asset yields.
Non-Interest Income
For the 2nd quarter of 2002, non-interest income totaled $69.8 million compared with $70.7 million in the same quarter of last year, a decrease of 1.2%. Excluding securities transactions, non-interest income was essentially flat with the prior year.
Trust fees for the quarter increased slightly over the 1st quarter of 2002 but were 6.1% less than in the 2nd quarter 2001. Large one-time personal trust fees in 2001 caused the decline in trust fees in 2002. Asset valuation issues continue to restrain growth in total trust fees. Deposit account fees in the 2nd quarter grew 8.1%, or $1.7 million, over amounts recorded in the 1st quarter of the current year. Such fees also increased 6.7% over amounts recorded in the 2nd quarter of last year. The growth in fees over the 1st quarter was mainly the result of higher income earned on overdraft fees, which were up $1.5 million. Bond trading revenues have shown strong results over the last six quarters, but declined slightly in the current quarter compared with the previous quarter. Bond revenues exceeded results in the 2nd quarter of last year by 6.9%.
Credit card fees grew seasonally in the 2nd quarter compared with the 1st quarter, increasing 10.4%. Compared with the 2nd quarter last year, such fees increased by 3.9%. This increase over last year was mainly the result of higher cardholder transaction and debit card fees, partly offset by lower merchant fees. Merchant fees continued to be constrained by a combination of lower retail sales and lower profit margins, while growth in debit card fees remained strong, increasing 18.3% over fees recorded in the same period last year. Other non-interest income for the quarter included a gain of $1.7 million (net of intangible costs) on the sale of two branches in rural Kansas with deposits totaling $38 million. Gains on branch sales in the 2nd quarter of 2001 totaled $1.5 million. These gains were partly offset by the write-down of $350 thousand in the Company's interest in a venture capital partnership. Other non-interest income in the 1st quarter of 2002 included a pre-tax gain of $3.4 million on the sale of student loans and a gain of $1.5 million on the sale of a minority interest in a community bank.
Net securities losses amounted to $328 thousand in the 2nd quarter 2002 compared to net gains of $510 thousand in the 2nd quarter of last year. The loss in the current quarter resulted from the pre-tax write-down of $700 thousand relating to a venture capital investment.
Non-Interest Expense
Non-interest expense for the quarter amounted to $113.0 million, a decrease of $1.0 million or .9% from amounts recorded in the 1st quarter 2002 and 1.1% higher than amounts recorded in the same quarter last year. Excluding a non-recurring contribution in the 1st quarter of 2002 of $2.1 million, non-interest expense would have increased 1.7% over the previous quarter.
Compared to the 1st quarter 2002, salaries and benefits expense decreased 4.0%, mainly due to lower incentive payments and benefit costs. Compared to the 2nd quarter of last year, salaries and benefits grew 3.9% as a result of higher medical and pension plan costs. Full-time equivalent employees totaled 5,021 and 5,113 at June 30, 2002 and 2001, respectively. As was the case last quarter, occupancy, supplies and communication, and marketing costs continued to show solid expense control. Also, during the quarter the Company made a final contract termination payment of $1.7 million to an outside service provider as part of its project to internalize its mainframe computer operation. Even with this payment, outside data processing and software costs grew only $600 thousand as cost efficiencies from this project began to be realized. In 2002, new accounting rules discontinued the amortization of goodwill. Had these rules been in effect during 2001, earnings per share would have increased by $.02 in the 2nd quarter and $.03 in the 1st six months.
Income Taxes
The effective tax rate for the 2nd quarter was 32.8% compared with 31.4% in the 1st quarter of this year and 33.3% for the 2nd quarter of 2001. Compared to the previous year, the lower effective tax rate was impacted by both the elimination of non-deductible goodwill amortization, and the additional accrual of state and Federal rehabilitation credits to be received on the renovation of a downtown Kansas City office building.
Credit Quality
Net loan charge-offs for the 2nd quarter 2002 amounted to $6.7 million compared to $7.4 million in the 1st quarter of 2002 and $8.0 million in the 2nd quarter of last year. The ratio of net charge-offs to average loans was .35% this quarter compared with .39% in the 1st quarter 2002 and .40% in the 2nd quarter 2001. The decrease in net loan charge-offs in the current quarter compared to the 1st quarter of this year resulted from higher recoveries on business, business real estate and credit card loans and lower charge-offs on personal loans. Compared to 2nd quarter 2001, the reduction in net charge-offs was the result of lower losses on credit card loans of $1.0 million. Lower delinquency rates, improved underwriting controls and fewer bankruptcies on credit card and personal loans were responsible for lower credit losses.
For the 2nd quarter 2002, net charge-offs on average credit card loans amounted to 3.60% compared with 3.58% in the 1st quarter of this year and 4.41% in the 2nd quarter 2001. Personal loan charge-offs amounted to .37% of average loans this quarter compared to .43% in the 1st quarter this year. The provision for loan losses for the quarter totaled $6.7 million, down from $7.4 million in the 1st quarter this year. The allowance for loan losses at June 30, 2002 amounted to $130.0 million, or 1.68% of total loans, and represents 450% of total non-performing assets.
Total non-performing assets amounted to $28.9 million at June 30, 2002, and $28.5 million at March 31, 2002. Non-performing assets are comprised of non-accrual loans ($27.2 million) and foreclosed real estate ($1.7 million). Loans past due more than 90 days and still accruing interest totaled $20.6 million at June 30, 2002.
Other
Commerce maintains a treasury stock buyback program; and effective February 2002, was re-authorized by the Board of Directors to repurchase up to 3 million shares of its common stock. During the quarter ended June 30, 2002, the Company purchased approximately 421,000 shares of treasury stock at an average cost of $44.86 per share.
Forward Looking Information
This information contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements include future financial and operating results, expectations, intentions and other statements that are not historical facts. Such statements are based on current beliefs and expectations of Commerce's management and are subject to significant risks and uncertainties. Actual results may differ materially from those set forth in the forward-looking statements.