Successful Strategies
®
®
Annual Report 2003
GOLDEN TOWER AWARDS
January ................................................................Suzanne Huey
February ................................................................Linda Bellich
March ...............................................................Barbara Nichols
April .................................................................... Joseph Dell Jr.
May ................................................................... Brook McGinnis
June ......................................................................... Lynn Lovell
July ................................................................... Elaine Bonanno
August ................................................................... Susan Spaid
September ..................................................... Janice Demharter
October ...............................................................Suzanne Parks
November .................................................................Bill Staffen
December ...................................................... Carson Greene Jr.
First Commonwealth has a culture
of being community-oriented. Two
awards—the Golden Tower Award
and the Spirit of Community Service
Award—were created to recognize
examples of exceptional volunteerism
among First Commonwealth employees.
SPIRIT OF COMMUNITY SERVICE AWARDS
Golden Tower recipients receive
January......................................Karen Schmidt, Nancy Garman
personalized crystal Golden Tower
awards and $1,000 is donated to
the charity of their choice. Spirit of
February ................................ Bernadette Mutz, Jane Pedersen
March ............................. Ron Golemboski, Carrie Shuttleworth
April .....................................................Rusty Flynn, Marie List
Community Service Award recipients
May ..........................................Beverly Helsel, Brenda Horner
receive certifi cates and $500 is donated
June .......................................... Alice Mento, Brenda Thornhill
to the charity of their choice. The
July
...............................................Lisa Boone, Patricia Conley
First Commonwealth Annual Report
August ................................... Cindy Brumbaugh, Linda Malisko
2003 is dedicated to the distinguished
September ...................................Terri Plyler, Jennifer Wilhelm
service of these individuals, some of
whom are highlighted in the report.
October .................................... Karen Simmermon, Valerie Weis
November ............................... Karen Holencik, Jean McGarvey
Congratulations to all of the
December ........................................Sharon Davis, Janet Minor
2003 award winners.
B
First Commonwealth
2003 Annual Report
®
®
A MESSAGE TO SHAREHOLDERS.............................................2
SUCCESSFUL STRATEGIES ......................................................4
EXTENDING OUR PRESENCE .................................................6
A SUCCESSFUL APPROACH TO CORPORATE INTEGRITY................8
2003: A YEAR OF SUCCESSFUL STRATEGIES............................9
AFFILIATE MANAGEMENT....................................................10
BOARD OF DIRECTORS........................................................11
CORPORATE INFORMATION/MARKET AREA.............................12
INDEPENDENT AUDITORS’ REPORT........................................13
CONSOLIDATED FINANCIAL STATEMENTS................................14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS .................18
QUARTERLY SUMMARY OF FINANCIAL DATA...........................41
SELECTED FINANCIAL DATA ................................................42
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS ..............43
COMMON STOCK INFORMATION ............................................59
SHAREHOLDER INFORMATION...............................................60
2003 Annual Report
1
T he year 2003 was one that challenged all fi nancial services
companies, including First Commonwealth. The historic low
interest rates have continued to compress net interest margins
making revenue growth diffi cult to achieve. Despite the economic
challenges, First Commonwealth achieved very successful results
for the year.
Net income for 2003 was $53.3 million, which translates
into $0.90 basic and diluted earnings per share. Return on
assets was 1.12% and return on equity was 12.95% for the year.
Total assets increased 15% for the year to $5.2 billion while
total nonperforming
loans declined 40%.
Shareholder value was
enhanced with a total return of 29% for the year with a current
dividend yield of 4.5%.
On December 5, 2003 the acquisition of Pittsburgh Financial,
with $373 million in assets, was consummated. This represents an
important step to increase our presence in the Pittsburgh market.
This step was followed by the announcement on December 12, 2003
that GA Financial Inc., the parent company of Great American
Federal, had agreed to join First Commonwealth, adding another
$890 million in assets in the Pittsburgh region. Together, these
two acquisitions will add nineteen community offi ces to the newly
formed Pittsburgh region, allowing First Commonwealth to more
effectively compete in this growing market.
The branding initiative launched in fall 2002 was successfully
completed with the installation of new signage at all the community
offi ce and affi liate locations. First Commonwealth has become a
recognizable brand throughout our markets while maintaining
the community orientation and personalized service for which we
2
First Commonwealth
S uccessful Strategies come from a
disciplined planning process that carefully
evaluates the current economic climate,
understands past and present trends, and
analyzes future possibilities. This process
identifi es the services our clients desire and
defi nes how First Commonwealth can meet
those needs. At First Commonwealth, we have
transformed annual planning and budgeting
into a continuous process with an
eighteen month forecast completed
every month.
Successful Strategies were implemented in large part
through the unifi ed branding program that began in late 2002.
Every First Commonwealth affi liate became part of a new
single First Commonwealth identity with a common name, logo,
colors, signage, and marketing strategy. Though the look of
Joseph Dell Jr.
Joseph Dell Jr.
SENIOR VICE PRESIDENT FOR CORPORATE LENDING, Indiana Offi ce
JOE DELL TRACES HIS COMMITMENT
TO COMMUNITY SERVICE BACK TO HIS
Family Life, a prevention arm of the child
welfare system. He also coaches his
childhood. His parents, says Joe, “raised
daughter’s softball team and serves on
me to help people. Volunteerism is just an
several boards and committees. “Service
extension of my upbringing.” The young
is a First Commonwealth tradition,” Joe
Cub Scout who once sold brooms and
says. “We take seriously our responsibility
cushions for the Lions Club and helped his
to keep communities strong.”
church is now president of the Center for
4
First Commonwealth
First Commonwealth changed dramatically, every unit responded
positively to being part of one unifi ed identity. Most importantly,
the focus of First Commonwealth, to build strong communities,
remained intact. Every First Commonwealth employee understands
and embraces the philosophy that personalized service is a First
Commonwealth tradition that transcends corporate identity.
To reinforce its historical commitment to building strong
communities, First Commonwealth adopted a program to publicly
recognize employees who so generously have given their time and
talent to improving their communities. In addition to the awards,
First Commonwealth made signifi cant contributions to civic and
charitable organizations throughout its seventeen-county market
area. Specifi c contributions were made in the name of the award
winning employees to charities of their choice.
BARBARA NICHOLS
BARBARA NICHOLS
COMMUNITY FINANCIAL MANAGER, Downtown New Castle Offi ce
BARBARA NICHOLS SAYS SHE
SCREAMED WHEN WORD ARRIVED
employees to be community servants. She
is very involved in marketing and produc-
that she had received the Golden Tower
ing her local children’s theatre program. In
Award. “Luckily,” she jokes, “it was after
addition, she teaches Sunday school and
hours.” Extremely honored to be recog-
serves on the boards of the YMCA and the
nized for her efforts to improve her
New Castle Playhouse. “I have a good life,”
community, Barbara believes First
she says, “and I have always felt I should
Commonwealth is right to encourage its
give something back to the community.”
2003 Annual Report
5
A nother successful strategy for 2003 has been the expansion
into new markets, particularly into markets with higher
growth potential. This strategy has been advanced through the
recent acquisitions in the Pittsburgh market area.
In August 2003, First Commonwealth announced an
agreement to acquire Pittsburgh Financial Corporation, a
transaction that was consummated on December 5, 2003.
Headquartered in Wexford—north of Pittsburgh—Pittsburgh
Financial was the holding company of BankPittsburgh with seven
community offi ces and total assets of $373 million. Pittsburgh
Financial employees, clients, and communities are now benefi ting
from the corporate strength and
product depth of the fi nancial services
of First Commonwealth.
On December 12, 2003, First Commonwealth and GA
Financial Inc. jointly announced their intention to merge Great
American Federal into First Commonwealth Bank and join with
the former BankPittsburgh as part of the newly formed Pittsburgh
BROOK MCGINNIS
BROOK MCGINNIS
VICE PRESIDENT, Indiana Offi ce
THE FATHER OF FOUR CHILDREN
RANGING IN AGE FROM FOUR TO TEN,
his community a better place for children.
He is particularly proud of spearheading
Brook McGinnis has long been committed
the Playtime Park project, Indiana
to providing opportunities for area youth.
County’s fi rst community built playground.
From his college days when he was a “Big
Brook also serves as a District Chair for
Brother” in the Big Brothers and Sisters
the Boy Scouts of America, a Sunday
Program to the present day, he has
school teacher, and a member of several
dedicated his time and talent to making
other organizations.
6
First Commonwealth
region of First Commonwealth Bank. Great American Federal brings
twelve full-service community offi ces and $890 million in assets to
this robust new region.
The dedicated employees of these two fi ne banks will form
the nucleus of a dynamic new region with substantial growth
opportunities. The shareholders of both organizations will also
benefi t from being part of a larger organization with substantially
increased liquidity.
Throughout 2003, First Commonwealth
continued to maximize its community offi ce delivery
network by consolidating, closing, and selling offi ces
in slower growth markets. Plans continue to proceed
for the development of de novo offi ces in key locations
and the renovation and relocation of other important
community offi ces. The use of our enhanced Internet
banking and bill payment sites (WebBank and
WebPay) continue to grow dramatically, rounding out
a complete client delivery network.
Elaine Bonanno
Elaine Bonanno
COMMUNITY FINANCIAL CENTER MANAGER II, VICE PRESIDENT, Ebensburg Offi ce
ELAINE BONANNO BEGAN VOLUN-
TEERING TO STAY INVOLVED IN
needed track for student athletes. Happy
to help her own children as well as
her children’s lives. She helped with her
others, Elaine also taught Sunday school.
daughter’s cheerleading squad and
Now, she volunteers for friendship and
became a track team booster. This led to
fun as an offi cer of the Ebensburg Rotary
her involvement on the Northern Cam-
Club, the Cambria County Industrial
bria Track/Sports Complex Committee
Development Corporation, and several
which raised funds to provide a much
other organizations.
2003 Annual Report
7
L ong before the recent spate of corporate corruption, First
Commonwealth held itself to the highest standards to ensure
corporate integrity and reliability. First Commonwealth always
has and will continue to be proactive in fully complying with the
requirements of the Sarbanes-Oxley Act of 2002 as well as other
requirements as promulgated by the Securities and Exchange
Commission and the New York Stock Exchange. First Commonwealth
is recognized as a leader in its risk management culture.
First Commonwealth utilizes the Balanced Scorecard, a strategic
management and measurement system that enables organizations to
clarify their vision and strategy. This strategy is then translated into
measurable actions that are portrayed in a strategy map with four
perspectives; fi nancial, clients, processes, and employees. The Balanced
Scorecard tool is also being utilized by the Board to manage compliance
with corporate governance requirements.
Harvard Business School professor
Dr. Robert S. Kaplan, well-known
cocreator of the Balanced Scorecard,
used First Commonwealth’s practices as a model for an educational
conference in October 2003. During “Improving Corporate Governance:
A Balanced Scorecard Approach,” Dr. Kaplan demonstrated how First
Commonwealth utilizes the Balanced Scorecard not only to plan for
fi nancial success but also to hold its Board members and top executives
Bill Staffen
Bill Staffen
VICE PRESIDENT, Indiana Offi ce
AN AVID OUTDOOR SPORTSMAN WHO
HAS NEVER BELIEVED IN TAKING
Conservation Offi cer for the Pennsylvania
Game Commission, a volunteer for the
his community for granted, Bill Staffen
Muscular Dystrophy telethon, and a
has spent decades helping others. He has
member of several other civic and
been a volunteer fi refi ghter for 33 years
charitable organizations. “My philosophy
and an EMT and board of directors
is that you can’t just take from your
member of Citizens Ambulance Service.
community, you have to give something
In addition, he serves as a Wildlife
back,” he says.
Robert S. Kaplan, who used First
Commonwealth as an excellent
example of the Balanced Scorecard
Approach, is Professor of Leadership
Development at Harvard Business
School. His research, teaching, and
consulting focus on linking cost and
performance management systems
to strategy implementation and
operational excellence.
8
First Commonwealth
to the highest standards of competencies and performance. By being clear
on objectives and expectations, and by holding executives and Board
members accountable, First Commonwealth demonstrates that it has a
“well functioning system,” Kaplan said “…even realizing cost savings in the
regulatory process.”
In compliance with one corporate governance requirement, the
non-management members of the Board have established a meeting
schedule without management’s presence. At their fi rst meeting the
non-management directors elected David Dahlmann as the Lead
Director. Shareholders may communicate in writing directly with the
Lead Director at the Corporate Headquarters address. Other information
related to First Commonwealth’s compliance with corporate governance
requirements can be found in the 2003 Proxy Statement and in the
corporate area of our Web site at www.fcbanking.com.
A t the close of 2003, First Commonwealth stands in an excellent
position for increasing its value for shareholders. With a successful
new branding strategy, new partners, and a clear and ambitious business
strategy, First Commonwealth is poised for another successful year.
First Commonwealth remains committed to improvement for all its
stakeholders: employees, clients, communities, and shareholders.
Janice Demharter
Janice Demharter
OFFICE SALES MANAGER, Sarver Offi ce
JANICE DEMHARTER ASKED THAT
THE HIGHLAND MEALS ON WHEELS
Janice has dedicated time and talent to
many charitable and civic organizations
program be the recipient of her Golden
over the years, including Habitat for
Tower Award charitable gift. She served
Humanity, the March of Dimes, Relay
on the steering committee for that
for Life, the Chamber of Commerce, and
organization and believes in its mission
others. The Business and Professional
to this day. An employee of First
Women’s Club named Janice their
Commonwealth for over 35 years,
2003 Woman of the Year.
2003 Annual Report
9
Front row (L to R): Sue A. McMurdy, Gerard M. Thomchick, Richard R. Applegate
Back row (L to R): William A. Mrozowski, Johnston A. Glass, Anthony S. Hewitt
Richard R. Applegate
PRESIDENT & CHIEF EXECUTIVE OFFICER
First Commonwealth Financial
Advisors Inc.
4035 William Flynn Highway
Allison Park, PA 15101
(412) 492-8787
Johnston A. Glass
PRESIDENT & CHIEF EXECUTIVE OFFICER
First Com mon wealth Bank
Central Offi ces
Phil a del phia and Sixth Streets
In di ana, PA 15701
(724) 349-3400
Anthony S. Hewitt
PRESIDENT & CHIEF EXECUTIVE OFFICER
First Com mon wealth Insurance Agency
First Com mon wealth Place
654 Phil a del phia Street
In di ana, PA 15701
(724) 349-6056
Sue A. McMurdy
PRESIDENT & CHIEF EXECUTIVE OFFICER
First Com mon wealth Systems Cor po ra tion
22 North Sixth Street
Indiana, PA 15701
(724) 349-4310
William A. Mrozowski
PRESIDENT & CHIEF EXECUTIVE OFFICER
First Commonwealth Trust Com pa ny
614 Philadelphia Street
Indiana, PA 15701
(724) 465-3282
Gerard M. Thomchick
PRESIDENT & CHIEF EXECUTIVE OFFICER
First Com mon wealth Professional
Resources In c.
22 North Sixth Street
Indiana, PA 15701
(724) 349-7220
PRESIDENT
Com mon wealth Trust Credit Life
Insurance Company
2700 North Third Street, Suite 2000
Phoenix, AZ 85004
CHAIRMAN & PRESIDENT
FraMal Holdings Corporation
1105 North Market Street
Wilmington, DE 19899
10
First Commonwealth
Front row (L to R): E. James Trimarchi, Dale P. Latimer, Laurie Stern Singer, James W. Newill
Middle row (L to R): Joseph E. O’Dell, Ray T. Charley, Johnston A. Glass, Alan R. Fairman
Back row (L to R): Edward T. Côté, David R. Tomb Jr., Esq., John A. Robertshaw Jr., David S. Dahlmann
Ray T. Charley
GREENSBURG
Chief Executive Offi cer, Thomi Company
Edward T. Côté
LIGONIER
Associate, The Wakefi eld Associates
David S. Dahlmann
GREENSBURG
Adjunct Professor, Saint Vincent College
Alan R. Fairman
DUBOIS
Partner, Fairman Drilling Company
Johnston A. Glass
INDIANA
Vice Chairman, First Com mon wealth
Financial Corporation, and President and
Chief Executive Offi cer, First
Commonwealth Bank
Dale P. Latimer
NEW AL EX AN DRIA
Chairman of the Board and
Chief Executive Offi cer,
R & L Development Company
James W. Newill
HIGHLAND BEACH, FL
Certifi ed Public Ac coun tant, Former
President, J.W. Newill Com pa ny
Joseph E. O'Dell
INDIANA
President and Chief Executive Offi cer,
First Com mon wealth Financial Cor po ra tion
John A. Robertshaw, Jr.
GREENSBURG
President, Robertshaw Management, Ltd.
Laurie Stern Singer
ALLISON PARK
President, Al legh eny Valley
Development Cor po ra tion
David R. Tomb Jr., Esq.
INDIANA
Attorney at Law
E. James Trimarchi
INDIANA
Chairman of the Board,
First Commonwealth Fi nan cial Corporation
2003 Annual Report
11
Corporate Executive Offi ces
Corporate Description
First Commonwealth Fi nan cial Cor po ra tion is a Penn syl va nia busi ness
cor po ra tion es tab lished in 1983, reg is tered as a bank holding com pa ny
by the Board of Gov er nors of the Fed er al Reserve System.
President
Executive Offi ces
Old Courthouse Square
22 North Sixth Street
Indiana, Pennsylvania
Mail Address
Gerard M. Thomchick
Senior Executive Vice President
and Chief Operating Offi cer
John J. Dolan
Executive Vice President and
Chief Financial Offi cer
Post Offi ce Box 400
Indiana, Pennsylvania 15701-0400
Telephone (724) 349-7220
Sue A. McMurdy
Senior Vice President and
Chief Information Offi cer
Executive Offi cers
E. James Trimarchi
Chairman of the Board
Joseph E. O’Dell
President and Chief
Ex ec u tive Offi cer
Johnston A. Glass
Vice Chairman, Growth
David R. Tomb, Jr.
Senior Vice President,
Secretary and Treasurer
Thaddeus J. Clements
Senior Vice President,
Human Re sourc es
William R. Jarrett
Senior Vice President,
Risk Man age ment
R. John Previte
Senior Vice Pres i dent,
In vest ments
Market Area by County
For shareholder in for ma tion
see page 60.
For other information call our
Convenience Banking Center
at 1-800-711-BANK (2265)
or visit our Web site:
www.fcbanking.com
Elk
Jefferson
Lawrence
Butler
Armstrong
Beaver
Indiana
Clearfield
Centre
Allegheny
Cambria
Blair
Westmoreland
Huntingdon
Washington
Somerset
Bedford
12
First Commonwealth
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
REPORT OF INDEPENDENT AUDITORS
Shareholders and Board of Directors
First Commonwealth Financial Corporation
We have audited the accompanying consolidated balance sheet of First Commonwealth Financial Corporation
and subsidiaries (the “Company”) as of December 31, 2003, and the related consolidated statement of income,
changes in shareholders’ equity, and cash flows for the year then ended. These financial statements are the
responsibility of the Company’s management. Our responsibility is to express an opinion on these financial
statements based on our audit. The financial statements of the Company for the years ended December 31,
2002 and 2001, were audited by other auditors whose report dated January 22, 2003, expressed an unqualified
opinion on those statements.
We conducted our audit in accordance with auditing standards generally accepted in the United States.
Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the 2003 financial statements referred to above present fairly, in all material respects, the
consolidated financial position of the Company at December 31, 2003 and the consolidated results of their
operations and their cash flows for the year then ended in conformity with accounting principles generally
accepted in the United States.
Pittsburgh, Pennsylvania
January 28, 2004
13
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollar Amounts in Thousands)
December 31,
2003 2002
ASSETS
Cash and due from banks $ 82,510 $ 81,114
Interest-bearing bank deposits 5,362 1,973
Securities available for sale, at market 1,969,176 1,482,771
Securities held to maturity, at amortized cost, (Market value
$109,609 in 2003 and $204,887 in 2002) 104,254 197,838
Loans 2,825,337 2,609,440
Unearned income (455) (806)
Allowance for credit losses (37,385) (34,496)
Net loans 2,787,497 2,574,138
Premises and equipment 46,538 45,730
Other real estate owned 1,866 1,651
Goodwill 29,854 8,131
Amortizing intangibles, net 3,256 29
Other assets 158,882 131,368
Total assets $ 5,189,195 $ 4,524,743
LIABILITIES
Deposits (all domestic):
Noninterest-bearing $ 408,647 $ 377,466
Interest-bearing 2,879,628 2,666,658
Total deposits 3,288,275 3,044,124
Short-term borrowings 634,127 469,065
Other liabilities 41,875 30,230
Company obligated mandatorily redeemable
capital securities of subsidiary trust -0- 35,000
Subordinated debentures 75,304 -0-
Other long-term debt 718,668 544,934
Total long-term debt 793,972 579,934
Total liabilities 4,758,249 4,123,353
SHAREHOLDERS’ EQUITY
Preferred stock, $1 par value per share, 3,000,000 shares authorized, none issued -0- -0-
Common stock $1 par value per share, 100,000,000 shares authorized;
63,704,445 shares issued and 60,712,020 shares outstanding in 2003;
62,525,408 shares issued and 58,962,539 shares outstanding in 2002 63,704 62,525
Additional paid-in capital 79,581 64,885
Retained earnings 312,261 296,165
Accumulated other comprehensive income 15,173 25,851
Treasury stock (2,992,425 and 3,562,869 shares at December 31, 2003
and 2002, respectively at cost) (37,779) (44,981)
Unearned ESOP shares (1,994) (3,055)
Total shareholders’ equity 430,946 401,390
Total liabilities and shareholders’ equity $ 5,189,195 $ 4,524,743
The accompanying notes are an integral part of these consolidated financial statements.
14
Interest Income
Interest and fees on loans
Interest and dividends on investments:
Taxable interest
Taxable interest
Taxable interest
Interest exempt from Federal income taxes
Dividends
Interest on Federal funds sold
Interest on bank deposits
Total interest income
Interest Expense
Interest on deposits
Interest on short-term borrowings
Interest on mandatorily redeemable capital securities
of subsidiary trust
of subsidiary trust
of subsidiary trust
Interest on subordinated debentures
Interest on other long-term debt
Interest on other long-term debt
Interest on other long-term debt
Total interest on long-term debt
Total interest on long-term debt
Total interest on long-term debt
Total interest expense
Net interest income
Provision for credit losses
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollar Amounts in Thousands, except per share data)
Years Ended December 31,
2003 2002 2001
$
164,441 $ 179,901 $ 202,173
66,716 84,137 93,961
10,561 9,520 9,534
2,038 1,973 2,661
4 6 492
13 31 70
243,773 275,568 308,891
60,100 78,572 118,165
6,755 6,029 11,227
-0- 3,325 3,325
3,560 -0- -0-
29,826 34,747 34,453
33,386 38,072 37,778
100,241 122,673 167,170
143,532 152,895 141,721
12,770 12,223 11,495
Net interest income after provision for credit losses
130,762 140,672 130,226
Other Income
Securities gains
Trust income
Service charges on deposits
Gain on sale of branches
Insurance commissions
Income from bank owned life insurance
Merchant discount income
Other income
Total other income
Other Expenses
Salaries and employee benefits
Net occupancy expense
Furniture and equipment expense
Data processing expense
Pennsylvania shares tax expense
Intangible amortization
Litigation settlement
Litigation settlement
Litigation settlement
Restructuring charges
Other operating expenses
Total other expenses
Income before income taxes
Applicable income taxes
5,851 642 3,329
5,142 5,008 4,995
13,013 11,538 11,160
3,041 -0- 777
3,305 3,631 3,192
4,342 4,711 4,618
3,557 3,573 3,446
10,193 8,992 9,588
48,444 38,095 41,105
61,144 58,149 54,521
7,456 6,750 6,520
10,096 9,970 9,050
2,520 2,124 3,296
4,301 3,937 3,825
43 203 490
(610) 8,000 -0-
-0- 6,140 -0-
27,705 31,057 28,186
112,655 126,330 105,888
66,551 52,437 65,443
13,251 8,911 15,254
Net Income
$
53,300 $ 43,526 $ 50,189
Average Shares Outstanding
Average Shares Outstanding Assuming Dilution
59,002,277 58,409,614 57,885,478
59,387,055 58,742,018 58,118,057
Per Share Data:
Basic Earnings Per Share
Diluted Earnings Per Share
$
$
0.90 $ 0.75 $ 0.87
0.90 $ 0.74 $ 0.86
The accompanying notes are an integral part of these consolidated financial statements.
15
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(Dollar Amounts in Thousands)
Common
Stock
Additional
Paid-in
Capital
Accumulated
Retained Other Comprehensive Treasury
Income (Loss)
Earnings
Stock
Unearned
ESOP
Shares
Total
Shareholders’
Equity
Balance at December 31, 2000
$ 62,525
$
67,223
$ 272,169
$
(7,808)
$
(54,666)
$
(5,287)
$ 334,156
Comprehensive income
Net income
Other comprehensive income, net of tax:
Unrealized holding gains (losses) on
securities arising during the period
securities arising during the period
securities arising during the period
Less: reclassification adjustment
for gains on securities included
in net income
Total other comprehensive income
Total comprehensive income
Cash dividends declared
Cash dividends declared
Cash dividends declared
Decrease in unearned ESOP shares
Discount on dividend reinvestment
plan purchases
Treasury stock reissued
Treasury stock reissued
Treasury stock reissued
Tax benefit of stock options
Balance at December 31, 2001
Comprehensive income
Net income
Other comprehensive income, net of tax:
Unrealized holding gains (losses) on
securities arising during the period
securities arising during the period
securities arising during the period
Less: reclassification adjustment
for gains on securities included
in net income
Total other comprehensive income
Total comprehensive income
Cash dividends declared
Cash dividends declared
Cash dividends declared
Decrease in unearned ESOP shares
Discount on dividend reinvestment plan
purchases
Treasury stock reissued
Treasury stock reissued
Treasury stock reissued
Tax benefit of stock options
Balance at December 31, 2002
Comprehensive income
Net income
Other comprehensive income, net of tax:
Unrealized holding gains (losses) on
securities arising during the period
securities arising during the period
securities arising during the period
Less: reclassification adjustment
for gains on securities included
in net income
Unrealized holding gains on
derivatives used in cash flow hedging
relationship arising during the period
relationship arising during the period
relationship arising during the period
Total other comprehensive income
Total comprehensive income
Cash dividends declared
Cash dividends declared
Cash dividends declared
Decrease in unearned ESOP shares
Discount on dividend reinvestment plan
purchases
Treasury stock reissued
Treasury stock reissued
Treasury stock reissued
Tax benefit of stock options
Stock issued for acquisition
Balance at December 31, 2003
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
50,189
-0-
-0-
-0-
18,639
-0-
-0-
-0-
-0-
31
-0-
-0-
50,189
(34,139)
-0-
-0-
-0-
-0-
62,525
(612)
(735)
269
66,176
-0-
-0-
-0-
288,219
-0-
-0-
-0-
-0-
86
-0-
-0-
43,526
(35,580)
-0-
-0-
-0-
-0-
62,525
(637)
(964)
224
64,885
-0-
-0-
-0-
296,165
(2,128)
16,511
16,511
-0-
-0-
-0-
-0-
-0-
8,703
(394)
17,148
17,148
-0-
-0-
-0-
-0-
-0-
25,851
-0-
43,526
-0-
-0-
-0-
17,542
-0-
53,300
-0-
-0-
-0-
-0-
-0-
-0-
-0-
120
-0-
(6,951)
-0-
(3,734)
-0-
-0-
53,300
(37,204)
-0-
-0-
-0-
-0-
-0-
7
(10,678)
(10,678)
-0-
-0-
-0-
-0-
-0-
-0-
$ 312,261
$
15,173
$
-0-
-0-
-0-
1,179
$ 63,704
(706)
(1,076)
535
15,823
79,581
$
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
3,235
-0-
(51,431)
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
6,450
-0-
(44,981)
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
-0-
7,202
-0-
-0-
(37,779)
$
-0-
50,189
-0-
18,639
-0-
-0-
-0-
-0-
1,161
-0-
-0-
-0-
(4,126)
(2,128)
16,511
66,700
(34,139)
1,192
(612)
2,500
269
370,066
-0-
43,526
-0-
17,542
-0-
-0-
-0-
-0-
1,071
-0-
-0-
-0-
(3,055)
(394)
17,148
60,674
(35,580)
1,157
(637)
5,486
224
401,390
-0-
53,300
-0-
(6,951)
-0-
(3,734)
-0-
-0-
-0-
-0-
1,061
-0-
-0-
-0-
-0-
(1,994)
7
(10,678)
42,622
(37,204)
1,181
(706)
6,126
535
17,002
$ 430,946
The accompanying notes are an integral part of these consolidated financial statements.
16
Operating Activities
Net income
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for credit losses
Depreciation and amortization
Net gains on sales of assets
Net gains on sales of branches
Income from increase in cash surrender value of
bank owned life insurance
Stock option tax benefit
Stock option tax benefit
Stock option tax benefit
Changes net of acquisition:
Decrease in interest receivable
Decrease in interest payable
Increase (decrease) in income taxes payable
Change in deferred taxes
Other-net
Net cash provided by operating activities
Investing Activities
Changes net of acquisition:
Transactions with securities held to maturity:
Sales
Maturities and redemptions
Purchases of investment securities
Transactions with securities available for sale:
Sales
Maturities and redemptions
Purchases of investment securities
Proceeds from sales of loans and other assets
Investment in bank owned life insurance
Net decrease (increase) in interest-bearing bank deposits
Net increase in loans
Purchases of premises and equipment
Purchases of premises and equipment
Purchases of premises and equipment
Net cash provided (used) by investing activities
Financing Activities
Changes net of acquisition:
Proceeds from issuance of other long-term debt
Proceeds from issuance of other long-term debt
Proceeds from issuance of other long-term debt
Repayments of other long-term debt
Repayments of other long-term debt
Repayments of other long-term debt
Proceeds from issuance of subordinated debentures
Discount on dividend reinvestment plan purchases
Dividends paid
Net increase (decrease) in Federal funds purchased
Net increase in other short-term borrowings
Sale of branch and deposits, net of cash received
Reissuance of treasury stock
Net increase (decrease) in deposits
Net cash provided (used) by financing activities
Net increase (decrease) in cash and cash equivalents
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollar Amounts in Thousands)
Years Ended December 31,
2003 2002 2001
$
53,300 $ 43,526 $ 50,189
12,770 12,223 11,495
7,498 7,360 7,760
(6,483) (498) (3,392)
(3,034) -0- (777)
(4,342) (4,711) (4,618)
535 224 269
3,754 2,860 3,559
(1,120) (2,280) (19,387)
(843) (2,754) 3,491
(2,235) (594) (831)
(2,525) 2,408 (1,165)
57,275 57,764 46,593
-0- -0- -0-
93,700 110,769 133,666
-0- (15,266) (28,772)
62,941 15,328 85,737
954,406 545,791 497,640
(1,414,519) (547,799) (785,610)
138,535 102,225 90,241
-0- (5,000) (15,000)
4,135 2,278 (3,823)
(121,400) (154,614) (178,465)
(5,227) (6,382) (7,886)
(287,429) 47,330 (212,272)
10,000 18,200 9,500
(12,500) (101,425) (974)
30,929 -0- -0-
(706) (637) (612)
(36,630) (35,208) (33,809)
(37,500) (56,650) 91,425
202,562 97,980 64,138
(21,288) -0- (9,591)
5,923 4,656 2,500
82,901 (49,026) 39,384
223,691 (122,110) 161,961
(6,463) (17,016) (3,718)
Cash and cash equivalents acquired with acquisition
Cash and cash equivalents at January 1
Cash and cash equivalents at December 31
7,859 -0- -0-
81,114 98,130 101,848
82,510 $ 81,114 $ 98,130
$
The accompanying notes are an integral part of these consolidated financial statements.
17
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2003, 2002 and 2001
NOTE 1—Statement of Accounting Policies
General
The following summary of accounting and reporting
policies is presented to aid the reader in obtaining a better
understanding of the financial statements and related financial
data of First Commonwealth Financial Corporation and its
subsidiaries (the “Corporation”) contained in this report.
The financial information is presented in accordance with
generally accepted accounting principles and general practice
for financial institutions in the United States of America.
In preparing financial statements, management is required
to make estimates and assumptions that affect the reported
amount of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements.
In addition, these estimates and assumptions affect revenues
and expenses in the financial statements and as such, actual
results could differ from those estimates.
Through its subsidiaries which include one commercial
bank, a nondepository trust company, insurance agency
and financial advisor, the Corporation provides a full range
of loan, deposit, trust, insurance and financial advisory
services primarily to individuals and small to middle-market
businesses in seventeen counties in central and western
Pennsylvania. Under current conditions, the Corporation is
reporting one business segment.
The Corporation is subject to regulations of certain state
and federal agencies. These regulatory agencies periodically
examine the Corporation for adherence to laws and
regulations. As a consequence, the cost of doing business
may be affected.
Basis of Presentation
The accompanying consolidated financial statements include
the accounts of the Corporation and its wholly owned
subsidiaries. All material intercompany transactions have
been eliminated in consolidation.
Investments of 20 to 50 percent of the outstanding common
stock of investees are accounted for using the equity method
of accounting.
Reclassifications
Financial statement amounts in prior periods have been
reclassified to conform to the presentation format used in
2003. The reclassifications had no effect on the Corporation’s
financial condition or results of operations.
Securities
Debt securities that the Corporation has the positive intent
and ability to hold to maturity are classified as securities
held-to-maturity and are reported at amortized cost. Debt and
equity securities that are bought and held principally for the
18
purpose of selling them in the near term are to be classified as
trading securities and reported at fair value, with unrealized
gains and losses included in earnings. Debt and equity
securities not classified as either held-to-maturity securities
or trading securities are classified as securities available-
for-sale and are reported at fair value, with unrealized gains
and losses excluded from earnings and reported as a separate
component of shareholders’ equity, net of deferred taxes.
The Corporation has securities classified as either held-to-
maturity or available-for-sale. The Corporation does not
engage in trading activities. Effective January 1, 2003 the
Corporation changed the method it utilizes to determine
the net gain or loss on the sale of securities from the
specific identification method to the average cost method.
This change did not result in a material change to the
Corporation’s financial condition or results of operations.
Loans
Loans are carried at the principal amount outstanding.
Unearned income on installment loans and leases is taken
into income on a declining basis which results in an
approximately level rate of return over the life of the loan or
lease. Interest is accrued as earned on nondiscounted loans.
The Corporation considers a loan to be past due and still
accruing interest when payment of interest or principal is
contractually past due but the loan is well secured and in the
process of collection. For installment, mortgage, term and
other loans with amortizing payments scheduled monthly, 90
days past due is reached when four monthly payments are
due and unpaid. For demand, time and other multi-payment
obligations with payments scheduled other than monthly,
delinquency status is calculated using number of days instead
of number of payments. Revolving credit loans, including
personal credit lines and home equity lines, are considered
to be 90 days past due when the borrower has not made the
minimum payment for four billing cycles.
A loan is placed in nonaccrual status when based on current
information and events, it is probable that the Corporation will
be unable to fully collect principal or interest due according
to the contractual terms of the loan. A loan is also placed in
nonaccrual status when based on regulatory definitions, the
loan is maintained on a “cash basis” due to the weakened
financial condition of the borrower. When a determination
is made to place a loan in nonaccrual status, all accrued and
unpaid interest for the current year is reversed against interest
income and uncollected interest for previous years is charged
against the allowance for credit losses. Generally, consumer
and residential mortgage loans, which are well-secured
and/or in the process of collection, are not normally placed
in nonaccrual status. Nonaccrual loans are restored to accrual
status when, based on a sustained period of repayment by
the borrower in accordance with the contractual terms of the
loan, the Corporation expects repayment of the remaining
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
contractual principal and interest, or when the loan otherwise
becomes well secured and in the process of collection.
The Corporation considers a loan to be renegotiated when
the loan terms have been renegotiated to a below market
condition to provide a reduction or deferral of principal or
interest as a result of the deteriorating financial position
of the borrower and the loan is in compliance with the
restructured terms.
The Corporation considers a loan to be impaired when, based
on current information and events, it is probable that the
Corporation will be unable to collect principal or interest
due according to the contractual terms of the loan. Impaired
loans include nonaccrual loans and renegotiated loans.
Loan impairment is measured based on the present value of
expected cash flows discounted at the loan’s effective interest
rate or, as a practical expedient, at the loan’s observable
market price or the fair value of the collateral if the loan is
collateral dependent.
Payments received on impaired loans are applied against the
recorded investment in the loan. For loans other than those
that the Corporation expects repayment through liquidation
of the collateral, when the remaining recorded investment in
the impaired loan is less than or equal to the present value of
the expected cash flows, income is recorded on a cash basis.
Loans deemed uncollectible are charged off through the
allowance for credit losses. Factors considered in assessing
ultimate collectibility include past due status, financial
condition of the borrower, collateral values and debt covenants
including secondary sources of repayment by guarantors.
Payments received on previously charged off loans are
recorded as recoveries in the allowance for credit losses.
Mortgage Servicing Rights
When the Corporation purchases or originates mortgage
loans with a definitive plan to sell or securitize those loans
and retain the mortgage servicing rights, the Corporation
measures the mortgage servicing rights at cost by allocating
the cost of the mortgage loans between the mortgage
servicing rights and the mortgage loans (without the
mortgage servicing rights) based on their relative fair values
at the date of purchase or origination. When the Corporation
does not have a definitive plan at the purchase or origination
date and later sells or securitizes the mortgage loans and
retains the mortgage servicing rights, the Corporation
allocates the amortized cost of the mortgage loans between
the mortgage servicing rights and the mortgage loans
(without mortgage servicing rights) based on their relative
fair values at the date of sale. The amount capitalized as the
right to service mortgage loans is recognized as a separate
asset and amortized in proportion to, and over the period of,
estimated net servicing income (servicing revenue in excess
of servicing cost). Mortgage servicing rights are periodically
evaluated for impairment based on fair values.
Loan Fees
Loan origination and commitment fees, net of associated
direct costs, are deferred and the net amount is amortized
as an adjustment to the related loan yield on the interest
method, generally over the contractual life of the related
loans or commitments.
Other Real Estate Owned
Real estate, other than bank premises, is recorded at the
lower of cost or fair value less selling costs at the time of
acquisition. Expenses related to holding the property, net of
rental income, are generally charged against earnings in the
current period.
Allowance for Credit Losses
The Corporation maintains an allowance for credit losses at
a level deemed sufficient to absorb losses that are inherent
in the loan and lease portfolios at each balance sheet date.
Management and the Corporation’s Board of Directors review
the adequacy of the allowance on a quarterly basis to ensure
that the provision for credit losses has been charged against
earnings in an amount necessary to maintain the allowance at
a level that is appropriate based on management’s assessment
of probable estimated losses. The Corporation’s methodology
for assessing the appropriateness of the allowance for credit
losses consists of several key elements. These elements
include a specific allowance for primary watch list classified
loans, a formula allowance based on historical trends, an
additional allowance for special circumstances and an
unallocated allowance. While allocations are made to specific
loans and pools of loans, the total allowance is available
for all loan losses. The Corporation consistently applies the
following comprehensive methodology and procedure at the
subsidiary bank level.
The allowance for primary watch list classified loans
addresses those loans maintained on the Corporation’s
primary watch list that are assigned a rating of substandard,
doubtful or loss. Substandard loans are those with a
well-defined weakness or a weakness that jeopardizes
the repayment of the debt. A loan may be classified as
substandard as a result of impairment of the borrower’s
financial condition and repayment capacity. Loans for which
repayment plans have not been met or collateral equity
margins do not protect the Corporation may also be classified
as substandard. Doubtful loans have the characteristics of
substandard loans with the added characteristic that collection
or liquidation in full, on the basis of presently existing facts
and conditions, is highly improbable. Although the possibility
of loss is extremely high for doubtful loans, the classification
of loss is deferred until pending factors, which might improve
the loan, have been determined. Loans rated as doubtful in
whole or in part are placed in nonaccrual status. Loans which
are classified as loss are considered uncollectible and are
charged to the allowance for credit losses at the next meeting
19
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 1—Statement of Accounting Policies (continued)
Bank Owned Life Insurance
Allowance for Credit Losses (continued)
of the Corporation’s Credit Committee after placement in
this category. There were no loans classified as loss on the
primary watch list as of December 31, 2003.
Each of the classified loans on the primary watch list are
individually analyzed to determine the level of the potential
loss in the credit under the current circumstances. The
specific reserve established for these classified loans on
the primary watch list is based on careful analysis of the
loan’s performance, the related collateral value, cash flow
considerations and the financial capability of any guarantor.
The allowance for primary watch list classified loans is equal
to the total amount of potential unconfirmed losses for the
individual classified loans on the watch list. Primary watch list
loans are managed and monitored by assigned account officers
within the Corporation in conjunction with senior management.
The allowance based on historical trends uses charge-
off experience of the Corporation to estimate potential
unconfirmed losses in the balances of the loan and lease
portfolios. The historical loss experience percentage is
based on the charge-off history for the greater of the eight
most recent quarters or the twenty most recent quarters.
Historical loss experience percentages are applied to non-
classified loans from the primary watch list, as well as all
other loans and leases which are not on the watch list, to
obtain the portion of the allowance for credit losses which
is based on historical trends. Before applying the historical
loss experience percentages, loan balances are reduced by the
portion of the loan balances which are subject to guarantee
by a government agency. Loan balances are also adjusted for
unearned discount on installment loans.
The additional allowance for special circumstances provides
management with the opportunity to estimate additional
potential allowance amounts which may be needed to
cover specific factors. The special factors that management
currently evaluates consist of portfolio risk or concentrations
of credit and economic conditions. Portfolio risks include
unusual changes or recent trends in specific portfolios such
as unexpected changes in the trends or levels of delinquency,
unusual repossession activities or large levels of unsecured
loans in a portfolio.
The Corporation also maintains an unallocated allowance.
The unallocated allowance is used to cover any factors or
conditions that may cause a potential credit loss but are
not specifically identifiable. It is prudent to maintain an
unallocated portion of the allowance because no matter how
detailed an analysis of potential credit losses is performed
these estimates by definition lack precision. Management
must make estimates using assumptions and information that
is often subjective and changing rapidly.
20
The Corporation purchased insurance on the lives of certain
groups of employees. The policies accumulate asset values
to meet future liabilities including the payment of employee
benefits such as health care. Increases in the cash surrender
value are recorded as other income in the Consolidated
Statements of Income. The cash surrender value of bank
owned life insurance is reflected in “other assets” on the
Consolidated Balance Sheets in the amount of $103,625 and
$92,644 at December 31, 2003 and 2002, respectively. The
increase in cash surrender value of bank owned life insurance
during 2003 includes $6,646 acquired as the result of a
business combination completed during 2003.
Premises and Equipment
Premises and equipment are carried at cost less accumulated
depreciation and amortization. Depreciation is computed on the
straight-line and accelerated methods over the estimated useful
life of the asset. Accelerated depreciation methods are used for
furniture and equipment while straight-line depreciation is used
for buildings and improvements. Charges for maintenance and
repairs are expensed as incurred. Where a lease is involved,
amortization is charged over the term of the lease or the
estimated useful life of the improvement, whichever is shorter.
The Corporation records computer software in accordance
with the American Institute of Certified Public Accountants’
Statement of Position 98-1, “Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use”
(“SOP 98-1”). The statement identifies the following three
stages of software development: the preliminary project stage,
the application development stage and the post-implementation
stage. In compliance with SOP 98-1, the Corporation expenses
costs incurred during the preliminary project state and capitalizes
certain costs incurred during the application development stage.
Once software is in operation, maintenance costs are expensed
over the maintenance period while upgrades that result in
additional functionality or enhancement are capitalized. Training
and data conversion costs are expensed as incurred. Capitalized
costs are amortized on a straight-line basis over a period of 3-7
years, depending on the life of the software license.
Business Combinations
The Corporation accounts for business combinations in
accordance with the Financial Accounting Standards Board
(“FASB”) Statement No. 141, “Business Combinations”
(“FAS No. 141”) which requires the purchase method of
accounting for business combinations initiated after June
30, 2001. Under the purchase method, net assets of the
business acquired are recorded at their estimated fair value
as of the date of acquisition with any excess of the cost of
the acquisition over the fair value of the net tangible and
intangible assets acquired recorded as goodwill. Results of the
acquired business are included in the Corporation’s income
statement from the date of the acquisition.
Goodwill and Other Intangible Assets
Cash and Cash Equivalents
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands, except per share data)
Goodwill and other intangible assets with indefinite useful
lives are tested for impairment at least annually and written
down and charged to results of operations in periods in which
their recorded value is more than their estimated fair value. No
impairment of goodwill or other intangibles has been identified
since the adoption of FASB Statement No. 142, “Goodwill and
Other Intangible Assets” (“FAS No. 142”) on January 1, 2002.
Prior to the adoption of FAS No. 142, goodwill was amortized
on a straight-line basis over a period of 15-25 years. Goodwill
amortization expense was $920 for 2001 representing basic
and diluted earnings per share of $0.016.
Accounting for the Impairment of Long-Lived Assets
The Corporation reviews long-lived assets, such as premises
and equipment and intangibles for impairment whenever events
or changes in circumstances, such as a significant decrease
in the market value of an asset or the extent or manner in
which an asset is used, indicate that the carrying amount of an
asset may not be recoverable. If there is an indication that the
carrying amount of an asset may not be recoverable, future
undiscounted cash flows expected to result from the use of the
asset are estimated. If the sum of the expected cash flows is
less than the carrying value of the asset, a loss is recognized
for the difference between the carrying value and fair market
value of the asset. Long-lived assets classified as held for sale
are measured at the lower of their carrying amount or fair value
less cost to sell. Depreciation or amortization is discontinued
on long-lived assets classified as held for sale.
Income Taxes
The Corporation records taxes in accordance with the asset
and liability method utilized by FASB Statement No. 109
(“FAS No. 109”), whereby deferred tax assets and liabilities
are recognized for the future tax consequences attributable to
differences between the financial statement carrying amount
of existing assets and liabilities and their respective tax bases
given the provisions of the enacted tax laws. Deferred tax assets
are reduced, if necessary, by the amount of such benefits that
are not expected to be realized based upon available evidence.
Comprehensive Income Disclosures
“Other Comprehensive Income” (comprehensive income,
excluding net income) for the 2003 period includes two
components, the change in unrealized holding gains and losses
on available for sale securities and the change in unrealized
gains and losses on derivatives used in cashflow hedging
relationships. Both components of other comprehensive
income are reported net of related tax effects in the statement
of changes in shareholders’ equity. Prior to 2003 other
comprehensive income includes only one component, which is
the change in unrealized holding gains and losses on available
for sale securities, net of related tax effects.
For purposes of reporting cash flows, cash and cash
equivalents include cash on hand, amounts due from banks
and Federal funds sold. Generally, Federal funds are sold for
one-day periods.
Employee Stock Ownership Plan
Accounting treatment for the Corporation’s Employee Stock
Ownership Plan (“ESOP”) described in NOTE 21 follows
Statement of Position 93-6 (“SOP 93-6”) “Employers
Accounting for Employee Stock Ownership Plans” for ESOP
shares acquired after December 31, 1992 (“new shares”). The
Corporation has elected, as permitted under SOP 93-6, not to
adopt this statement for ESOP shares acquired on or before
December 31, 1992 (“old shares”).
ESOP shares purchased subject to debt guaranteed by
the Corporation are recorded as a reduction of common
shareholders’ equity by charging unearned ESOP shares.
As shares are committed to be released to the ESOP trust
for allocation to plan participants, unearned ESOP shares
is credited for the average cost of the shares to the ESOP.
Compensation cost recognized for new shares in accordance
with the provisions of SOP 93-6 is based upon the fair market
value of the shares committed to be released. Additional paid-
in capital is charged or credited for the difference between the
fair value of the shares committed to be released and the cost
of those shares to the ESOP. Compensation cost recognized
for old shares committed to be released is recorded at the cost
of those shares to the ESOP.
Dividends on both old and new unallocated ESOP shares are
used for debt service and are reported as a reduction of debt
and accrued interest payable. Dividends on allocated ESOP
shares are charged to retained earnings and allocated or paid
to the plan participants. The average number of common
shares outstanding used in calculating earnings per share
excludes all unallocated ESOP shares.
Employee Stock Option Plan
Current accounting guidelines permit two alternate methods
of accounting for stock-based compensation, the intrinsic
value method of APB Opinion No. 25 “Accounting for Stock
Issued to Employees” (“APB 25”) and the fair value method
of FASB Statement No. 123 “Accounting for Stock-Based
Compensation” (“FAS No. 123”). In December 2002, the
FASB issued Statement No. 148, “Accounting for Stock-
Based Compensation-Transition and Disclosure” (“FAS
No. 148”). FAS No. 148 did not amend FAS No. 123 to
require companies to account for employee stock options
using the fair value method but required all companies with
stock-based compensation to provide additional disclosures,
regardless of whether they account for that compensation
using the fair value method of FAS No. 123 or the intrinsic
value method of APB No. 25. As permitted under FAS
21
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands, except per share data)
NOTE 1—Statement of Accounting Policies (continued)
Employee Stock Option Plan (continued)
No. 123, the Corporation has elected to use the intrinsic
value method to measure stock based compensation under
APB 25 and to disclose in a footnote to the financial
statements, net income and earnings per share determined
as if the fair value methodology of FAS No. 123 had been
implemented. No stock-based employee compensation
expense is reflected in the Corporation’s net income as
reported in the Consolidated Statements of Income because
all stock options granted under the Corporation’s plan had
an exercise price equal to the market value of the underlying
common stock on the date of the grant.
Management has considered various factors in its decision
to account for stock-based compensation, including stock
options granted, using the intrinsic value method of APB
25. Generally, expenses are easily measured as of the date
they are incurred. At some point the Corporation must pay
cash to cover these expenses. This is not the case with the
methodology for expensing stock options. The amount
expensed for the purposes of this disclosure is equivalent to a
theoretic value calculated on the date the option was granted.
Calculating a value of the option at the grant date requires
a variety of assumptions that may have little to do with the
actual realization of value by the option holder. In fact, many
of the options are forfeited or expire for a variety of reasons
without ever being exercised.
Additionally, valuation models operate under the assumption
that the options are similar to those that are actively traded.
In reality they are not marketable. Also there exists times
where executives are unable to exercise their options due to
trading restrictions. This limits the ability of certain option
holders to benefit from some periods of volatility. Changes in
the assumptions used could affect the estimated impact of the
stock options and this disclosure.
The variety of methodologies and assumptions permitted
to be used by each reporting company gives rise to a high
degree of subjectivity in estimating the impact of the options.
Management is concerned that due to the lack of uniformity
and variations in assumptions, there may not be reasonable
comparability between institutions. See NOTE 24 for
additional information.
The following table illustrates the effect on net income and
earnings per share if the Corporation had applied the fair
value recognition provisions of FAS No. 123 to stock-based
employee compensation:
22
Net income, as reported
Deduct: Total stock-based
employee compensation expense
determined under fair value
based method for all awards,
net of related tax effect
net of related tax effect
net of related tax effect
Pro forma net income
2003
December 31,
2002
2001
$ 53,300 $ 43,526 $ 50,189
(1,352) (2,278) (1,978)
$ 51,948 $ 41,248 $ 48,211
Earnings per share:
Basic—as reported
Basic—pro forma
Diluted—as reported
Diluted—pro forma
Average shares outstanding
Average shares outstanding
assuming dilution
$
$
$
$
0.90 $ 0.75 $ 0.87
0.88 $ 0.71 $ 0.83
0.90 $ 0.74 $ 0.86
0.87 $ 0.70 $ 0.83
59,002,277 58,409,614 57,885,478
59,387,055 58,742,018 58,118,057
Derivative Instruments and Hedging Activities
The Corporation accounts for derivative instruments and
hedging activities utilizing guidelines established in FASB
Statement No. 133 “Accounting for Derivative Instruments
and Hedging Activities” (“FASB No. 133”), as amended.
The Corporation recognizes all derivatives as either assets
or liabilities on the balance sheet and measures those
instruments at fair value. Changes in fair value of derivatives
designated and accounted for as cash flow hedges, to the
extent they are effective as hedges, are recorded in “Other
Comprehensive Income,” net of deferred taxes. Any hedge
ineffectiveness would be recognized in the income statement
line item pertaining to the hedged item.
Management periodically reviews contracts from various
functional areas of the Corporation to identify potential
derivatives embedded within selected contracts. Management
has identified potential embedded derivatives in certain
loan commitments for residential mortgages where the
Corporation has intent to sell to an outside investor. Due
to the short-term nature of these loan commitments and
the minimal historical dollar amount of commitments
outstanding, the corresponding impact on the Corporation’s
financial condition and results of operation has not been
material. The Corporation had no freestanding derivative or
hedging instruments prior to the third quarter of 2003 when it
entered into an interest rate swap that is described in NOTE 7.
Earnings Per Common Share
Basic earnings per share excludes dilution and is computed
by dividing income available to common shareholders by the
weighted-average number of common shares outstanding for
the period less unallocated ESOP shares.
Diluted earnings per share reflects the potential dilution that
could occur if securities or other contracts to issue common
stock were exercised or converted into common stock or
resulted in the issuance of common stock that then shared
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
in the earnings of the entity. For all periods presented the
dilutive effect on average shares outstanding is the result of
compensatory stock options outstanding.
New Accounting Pronouncements
Effective January 1, 2003, the Corporation adopted FASB
Statement No. 146 “Accounting for Costs Associated with
Exit or Disposal Activities” (“FAS No. 146”). FAS No.
146 replaced EITF Issue No. 94-3, “Liability Recognition
for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred
In a Restructuring).” The standard requires companies to
recognize costs associated with exit or disposal activities
when they are incurred rather than at the date of a
commitment to an exit or disposal plan. Statement No. 146
is applicable to exit or disposal activities initiated after
December 31, 2002. Adoption of FAS No. 146 did not have
a material impact on the Corporation’s financial condition or
results of operations.
In November, 2002, the FASB issued FASB Interpretation
No. 45 (“FIN 45”), “Guarantor’s Accounting and Disclosure
Requirements for Guarantees of Indebtedness of Others.”
The disclosure requirements of FIN 45 are effective for
financial statements of interim or annual periods ending after
December 15, 2002, and require disclosure of the nature of
the guarantee, the maximum potential of future payments the
guarantor could be required to make under the guarantee and
the current amount of the liability, if any, for the guarantor’s
obligation under the guarantee. The recognition requirements
of FIN 45 are to be applied prospectively to guarantees issued
or modified after December 31, 2002. This interpretation
expands the disclosures to be made by a guarantor in its
financial statements about its obligations under certain
guarantees and requires the guarantor to recognize a liability
for the fair value of an obligation assumed under a guarantee.
FIN 45 clarifies the requirements of FASB Statement No.
5 (“FAS No. 5”) “Accounting for Contingencies,” relating
to guarantees. In general, FIN 45 applies to contracts or
indemnification agreements that contingently require the
guarantor to make payments to the guaranteed party based
on changes in an underlying that is related to an asset,
liability, or equity security of the guaranteed party. Certain
guarantee contracts are excluded from both the disclosure and
recognition requirements of this interpretation, including, but
not limited to, guarantees related to employee compensation,
residual value guarantees under capital lease arrangements,
commercial letters of credit, loan commitments, subordinated
interests in Special Purpose Entities and guarantees of a
company’s own future performance. Other guarantees are
subject to the disclosure requirements of FIN 45 but not
the recognition provisions and include, among others, a
guarantee accounted for as a derivative instrument under
FAS No. 133, a parent’s guarantee of debt owed to a third
party by its subsidiary or vice versa and a guarantee which is
based on performance not price. Guarantees that have been
entered into by the Corporation are disclosed in NOTE 13.
The adoption of FIN 45 did not have a material impact on the
Corporation’s financial condition or results of operations.
In January 2003, the FASB issued FASB Interpretation
No. 46 (“FIN 46”), “Consolidation of Variable Interest
Entities.” As defined by FIN 46 a variable interest entity
(“VIE”) is a corporation, partnership, trust or any other legal
structure used for business purposes that either (a) does not
have equity investors with voting rights or (b) has equity
investors that do not provide sufficient financial resources
for the entity to support its activities. This interpretation also
defines when the assets, liabilities, noncontrolling interest
and results of operations of a VIE should be included in a
company’s consolidated financial statements. Companies that
hold variable interests in an entity will need to consolidate
that entity if the company’s interest in the VIE is such
that the company will obtain a majority of the entity’s
expected residual returns, should such occur. FIN 46 applied
immediately to variable interest entities created after
January 31, 2003. The effective date of FIN 46 for pre-
existing variable interest entities that are not special purpose
entities has been deferred until the first quarter of 2004.
Based on the criteria established in FIN 46 as interpreted by
the Securities and Exchange Commission, the Corporation
deconsolidated its investment in First Commonwealth Capital
Trust I, a Delaware business trust (the “Trust”) during the
fourth quarter of 2003. The Trust was established in 1999 to
issue capital securities through a private offering to qualified
investors and to issue common securities to the Corporation.
The Trust used the proceeds from the sale of the capital
securities to buy junior subordinated debentures from the
Corporation with the same economic terms as the capital
securities. The Trust distributes the cash payments it receives
from the Corporation on the debentures to the holders of the
capital securities and the common securities. The Trust will
redeem all of the outstanding capital securities when the
debentures are paid at maturity on September 1, 2029. The
deconsolidation of the Trust resulted in an increase in long-
term debt during the fourth quarter of 2003 of approximately
$1,083 as a result of the subordinated debentures no longer
being eliminated in consolidation and the capital securities
no longer being included in the Consolidated Balance Sheet
at December 31, 2003. The Consolidated Balance Sheet also
reflects an increase in “Other Assets” in the same amount,
which represents the Corporation’s investment in the Trust.
Although net income has not changed as a result of the
deconsolidation of the Trust, “Other Revenue” has increased
by the income generated by the Trust, which represents the
difference between the Trust’s interest income from the
subordinated debentures and the Trust’s interest expense
from the capital securities. The Consolidated Statement of
Income also reflects an increase in “Interest Expense on
Long-term Debt” of approximately $103 as a result of the
23
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 1—Statement of Accounting Policies (continued)
New Accounting Pronouncements (continued)
interest expense on the subordinated debentures no longer
being eliminated in consolidation and the interest expense
on the capital securities no longer being included in the
Consolidated Statement of Income.
As part of its community reinvestment initiatives, the
Corporation invests in qualified affordable housing
projects as a limited partner. The Corporation receives
federal affordable housing tax credits for these limited
partnership investments. The Corporation’s maximum
potential exposure to these partnerships is $3,556, consisting
of the limited partnership investments plus unfunded
commitments as of December 31, 2003. The Corporation’s
preliminary determination is that these investments will
not be consolidated but continue to be accounted for under
the equity method whereby the Corporation’s portion of
partnership losses are recognized as incurred. The adoption
of FIN 46 is not expected to have a material impact on the
Corporation’s financial condition or results of operations.
In April 2003, the FASB issued Statement No. 149
“Amendment of Statement 133 on Derivative Instruments
and Hedging Activities” (“FAS No. 149”). FAS No. 149
amends and clarifies accounting for derivative instruments,
including certain derivative instruments embedded in other
contracts, and for hedging activities under FAS No. 133. In
particular, FAS No. 149 clarifies under what circumstances a
contract with an initial net investment meets the characteristic
of a derivative and when a derivative contains a financing
component that warrants special reporting in the statement
of cash flows. This statement is effective for contracts
entered into or modified after June 30, 2003 and for hedging
relationships designated after June 30, 2003. The adoption
of FAS No. 149 did not have a material impact on the
Corporation’s financial condition or results of operations.
In May 2003, the FASB issued Statement No. 150
“Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity” (“FAS No.
150”). FAS No. 150 represents the first phase of the FASB’s
broader project on (1) distinguishing between liability
and equity instruments and (2) accounting for instruments
that have characteristics of both liabilities and equity.
This statement requires issuers to classify as liabilities the
following three types of freestanding financial instruments:
(1) mandatorily redeemable financial instruments,
(2) obligations to repurchase the issuer’s equity shares by
transferring assets and (3) certain obligations to issue a
variable number of shares. A freestanding financial instrument
is one that is entered into separately and apart from any of
the entity’s other financial instruments or equity transactions
or is entered in conjunction with some other transaction but
can be legally detached and exercised on a separate basis.
FAS No. 150 is relatively narrow in scope as it specifies
only that certain instruments must be classified as liabilities
but does not include additional guidance on the concept
of what constitutes either a “liability” or “equity.” Entities
will continue to apply existing guidance on determining
the balance sheet classification of instruments that do not
specifically fall within the scope of FAS No. 150. FAS No.
150 applied immediately to financial instruments entered into
or modified after May 31, 2003. For all other instruments that
exist, this statement went into effect at the beginning of the
first interim period beginning after June 15, 2003. Adoption
of FAS No. 150 did not have a material impact on the
Corporation’s financial condition or results of operations.
On May 15, 2003, the Securities and Exchange Commission
issued Staff Interpretation Topic D-107, which indicated that
unless lease residuals were individually insured, no related
amount should be considered in minimum lease payments.
This interpretation is more restrictive than criteria previously
utilized by many financial services companies in determining
whether leases qualified for financing lease treatment. A
majority of the Corporation’s automobile leases have residual
insurance coverage that includes a deductible and/or cap
on maximum coverage for each year of lease originations.
Interpretations of Topic D-107 have concluded that residual
insurance policies with deductibles and caps calculated on
a group basis do not meet the definition of “individually
insured” even though: (1) individual lease losses are covered
after consideration of the deductible in place and (2) the caps
on loss coverage included in the policies are unlikely to be
exceeded. Consequently, a majority of the Corporation’s
automobile leases outstanding at December 31, 2003 would
not qualify as financing leases. Management has determined
that the impact of changing from financing lease treatment to
operating lease treatment is not material to the Corporation’s
financial condition or results of operations and is not
anticipated to be material to future results of operations or
financial condition; therefore, no restatement of previously
issued financial statements is required. The Corporation had
discontinued automobile leasing in April of 2003.
24
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands, except per share data)
In December 2003, the FASB issued Statement No.
132(R) “Employers’ Disclosures about Pensions and Other
Postretirement Benefits” (“FAS No. 132(R)”). The FASB’s
revision of Statement No. 132 retains all of the disclosure
items that were provided in FAS No. 132 and requires
new annual disclosures about the types of plan assets,
investment strategy, measurement date, plan obligations
and cash flows as well as the expanded disclosures of
assumptions used in various calculations. The statement
also requires interim reporting of the components of the net
periodic benefit cost recognized. FAS No. 132(R) does not
change the measurement or recognition for pension or other
postretirement benefit plans. This statement is effective for
financial statements with fiscal years ending after December 15,
2003. Disclosure requirements for future benefit payments are
effective for fiscal years ending after June 15, 2004.
NOTE 2—Supplemental Comprehensive Income Disclosures
The following table identifies the related tax effects allocated to each component of other comprehensive income in the
Statements of Changes in Shareholders’ Equity:
December 31, 2003
Tax
(Expense)
Benefit Amount
Net of
Net of
Net of
Tax
Pretax
Amount
December 31, 2002
Pretax
Amount
Tax
(Expense)
Benefit
Net of
Net of
Net of
Tax
Amount
December 31, 2001
Tax
(Expense)
Benefit Amount
Net of
Tax
Pretax
Amount
Unrealized gains (losses) on securities:
Unrealized holding gains (losses)
arising during the period
Less: reclassification adjustment
$ (10,693)
$ 3,742
$ (6,951)
$ 26,987 $ (9,445) $ 17,542
$ 28,676
$(10,037) $ 18,639
for gains realized in net income
(5,745)
2,011
(3,734)
(606)
212
(394)
(3,274)
1,146
(2,128)
Unrealized gains (losses) on derivatives
used in cash flow hedging relationships:
Unrealized holding gains
arising during the period
Net unrealized gains (losses)
Other comprehensive income
11
(16,427)
$ (16,427)
(4)
5,749
$ 5,749
7
(10,678)
$(10,678)
-0-
-0-
17,148
26,381
$ 26,381 $ (9,233) $ 17,148
(9,233)
-0-
-0-
-0-
(8,891)
$(8,891)
-0-
16,511
$ 16,511
25,402
$ 25,402
NOTE 3—Supplemental Cash Flow Disclosures
NOTE 4—Pending Business Combination
2003
2002
2001
Cash paid during the year for:
Interest
Income taxes
$ 101,361 $ 124,953 $ 186,558
16,080 $ 12,010 $ 11,890
$
Noncash investing and financing activities:
ESOP loan reductions
$
1,061 $ 1,071 $ 1,161
Loans transferred to
other real estate owned
and repossessed assets
Gross increase (decrease) in
market value adjustment
to securities available
for sale
$
4,270 $ 5,029 $ 5,246
$
(16,438) $ 26,381 $ 25,402
Gross increase in market
value adjustment of
derivative instruments
Treasury stock reissued for
business combination
$
$
11 $ -0- $ -0-
203 $ 830 $ -0-
In December 2003, the Corporation signed a definitive
agreement to acquire GA Financial, Inc. (“GAF”),
an $890,274 asset savings and loan holding company
operating a twelve branch network in Allegheny County in
Pennsylvania as of December 31, 2003. Under terms of the
agreement, the shareholders of GAF can elect to receive
$35.00 in cash or an equivalent of First Commonwealth
common stock for each GAF share owned, subject to
proration as provided in the definitive agreement to ensure
that 40% of the aggregate merger consideration will be paid
in cash and 60% in First Commonwealth common stock.
Common stock received by GAF shareholders is expected to
qualify as a tax-free exchange. Completion of this transaction
is subject to shareholder and regulatory approvals.
25
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 5—Business Combination
Effective December 5, 2003, the Corporation acquired
100% of the outstanding shares of Pittsburgh Financial
Corp. (“PFC”), a financial holding company, which was
headquartered in Wexford, Pennsylvania. PFC was the parent
company of Pittsburgh Savings Bank (d/b/a BankPittsburgh).
As a result of the merger, PFC merged into First
Commonwealth Financial Corporation and BankPittsburgh
merged into First Commonwealth Bank.
The acquisition of PFC is a significant step for the
Corporation to implement its strategy for expansion into
the Pittsburgh, Pennsylvania market. The acquisition of
BankPittsburgh adds a new customer base, which presents
the opportunity for First Commonwealth Bank to offer
insurance, trust and financial planning services to a larger
base of customers.
Shareholders of PFC elected to receive $20.00 in cash or
an equivalent of First Commonwealth common stock for
each PFC share owned. The aggregate purchase price of the
transaction was $28,589, which included $11,587 in cash and
common stock valued at $17,002. The value of the 1,179,037
issued shares of First Commonwealth common stock was based
on the average market price of First Commonwealth’s common
stock over the ten-day period ending three trading days prior
to consummation of the acquisition. As of December 31, 2003,
the Corporation had recorded a liability for the cash settlement
of the transaction in the amount of $11,587.
The merger was accounted for as a purchase transaction
whereby the identifiable tangible and intangible assets and
liabilities of PFC have been recorded at their fair values
as of the acquisition date. Purchase accounting valuation
adjustments, which represent the difference between the
carrying value and the fair value of identifiable tangible
and intangible assets and liabilities were recorded in the
Consolidated Balance Sheet as of December 31, 2003.
Preliminary goodwill in the amount of $21,723 was
recorded as a result of the transaction. As prescribed under
the purchase method of accounting, the results of PFC’s
operations have been included in the consolidated financial
statements since the acquisition date.
The customer deposit base of $3,270 was the only amortizing
intangible that was recorded with the transaction. An average
annual amorization expense in the amount of $289.5 will
be recorded in the Consolidated Income Statement over the
average useful life. The weighted-average useful life of the
customer deposit base intangible is 12 years. The goodwill
that was recorded with the transaction is not deductible for
tax purposes.
Effective March 1, 2002, the Corporation acquired all of
the outstanding shares of Strategic Capital Concepts, Inc.
(“SCC”) and Strategic Financial Advisors, Inc. (“SFA”),
26
each a Pennsylvania corporation headquartered in Allison
Park, Pennsylvania. As a registered investment advisor,
SCC provided financial planning, asset management and
consulting services to individuals, businesses, retirement
plans, trusts and estates. SFA offered investment and
insurance products as well as employee benefit services. Each
of the outstanding shares of SCC and SFA were exchanged
for shares of the Corporation’s common stock. In addition,
the shareholders of SCC and SFA are entitled to receive
additional shares of the Corporation’s common stock for each
of the years 2002 through 2005 based on a formula defined
in the merger agreement which takes into consideration the
financial performance of SCC and SFA after the merger date.
The merger was accounted for as a purchase transaction
whereby the identifiable tangible and intangible assets
and liabilities of SCC and SFA have been recorded at their
fair values at the acquisition date. Goodwill in the amount
of $1,656 was recorded as a result of the transaction. As
prescribed under the purchase method of accounting, the
results of operations of SCC and SFA from the date of
acquisition are included in the Corporation’s financial
statements for 2002.
In October 2002, SFA was merged into SCC and the name
was changed to First Commonwealth Financial Advisors, Inc.
This acquisition should expand the Corporation’s product
offerings and positively impact fee based revenue, which is a
continuing priority.
NOTE 6—Cash and Due From Banks on Demand
Regulations of the Board of Governors of the Federal
Reserve System impose uniform reserve requirements on all
depository institutions with transaction accounts (checking
accounts, NOW accounts, etc.). Reserves are maintained
in the form of vault cash or a noninterest-bearing balance
held with the Federal Reserve Bank. The subsidiary bank
maintained with the Federal Reserve Bank average balances
of $844 during 2003 and $1,896 during 2002.
NOTE 7—Derivative Instruments
During the third quarter of 2003 the Corporation entered
into an interest rate swap with a notional amount of $25,000
which was initiated to hedge exposure to the variability in
the future cash flows derived from adjustable rate loans.
The interest rate swap will convert the interest receivables
generated by the first $25,000 of principal outstandings of
three month LIBOR based adjustable commercial loans from
an adjustable rate to a fixed rate. The swap is a traditional
pay-floating and receive-fixed interest rate swap with a
three year term. The transaction is classified as a cash
flow hedge whereby the fair value of the swap is recorded
as an asset or liability and changes in the fair value are
recorded as “Other Comprehensive Income” a component of
shareholders’ equity. During 2003, the hedge transaction had
no ineffectiveness.
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 8—Securities Available For Sale
Below is an analysis of the amortized cost and approximate fair values of securities available for sale at December 31, 2003
and 2002:
2003
2002
Gross
Amortized Unrealized Unrealized
Gains
18
Losses
-0-
Gross
$ 24,301
Cost
$
$
Approximate
Fair
Value
24,319
$
$
U.S. Treasury Securities
Obligations of U.S. Government
Corporation and Agencies:
Gross
Amortized Unrealized Unrealized
Gains
87
Cost
3,509
Losses
Gross
$
$
Approximate
Fair
Value
-0- $
3,596
Mortgage Backed Securities
1,210,347
12,702
(8,298)
1,214,751
870,777
24,623
(39)
895,361
Other
Other
Other
252,243
803
(1,008)
252,038
101,464
1,324
-0-
102,788
Obligations of States and
Political Subdivisions
Debt Securities Issued
by Foreign Governments
156,790
4,650
(99)
161,341
115,936
2,800
(107)
118,629
50
-0-
-0-
50
75
-0-
-0-
75
Corporate Securities
204,843
8,607
(216)
213,234
235,460
9,000
(472)
243,988
Other Mortgage Backed Securities
Total Debt Securities
4,178
1,852,752
36
26,816
-0-
(9,621)
4,214
1,869,947
51,388
1,378,609
958
38,792
-0-
(618)
52,346
1,416,783
Equities
Total Securities Available for Sale
93,103
$1,945,855
6,126
$ 32,942
-0-
$ (9,621)
99,229
$ 1,969,176
64,392
$ 1,443,001
2,978
$ 41,770
(1,382)
$ (2,000)
65,988
$ 1,482,771
Mortgage backed securities include mortgage backed
obligations of U.S. Government agencies and corporations,
mortgage backed securities issued by other organizations
and other asset backed securities. These obligations have
contractual maturities ranging from less than one year to
30 years and have an anticipated average life to maturity
ranging from less than one year to approximately 19 years. All
mortgage backed securities contain a certain amount of risk
related to the uncertainty of prepayments of the underlying
mortgages. Interest rate changes have a direct impact upon
prepayment speeds, therefore the Corporation uses computer
simulation models to test the average life and yield volatility
of all mortgage backed securities under various interest rate
scenarios to insure that volatility falls within acceptable limits.
At December 31, 2003 and 2002, the Corporation owned no
high risk mortgage backed securities as defined by the Federal
Financial Institutions Examination Council’s Supervisory
Policy Statement on Securities Activities.
The amortized cost and estimated market value of debt
securities at December 31, 2003, by contractual maturity,
are shown below. Expected maturities will differ from
contractual maturities because borrowers may have the right
to call or repay obligations with or without call or prepayment
penalties.
Amortized Approximate
Cost
Fair Value
Due within 1 year $ 52,829 $ 53,199
Due after 1 but within 5 years 286,636 286,529
Due after 5 but within 10 years 15,600 16,212
Due after 10 years 283,162 295,042
638,227 650,982
Mortgage Backed Securities 1,214,525 1,218,965
Total Debt Securities $ 1,852,752 $ 1,869,947
Proceeds from the sales of securities available for sale were
$62,941, $15,328 and $85,737 during 2003, 2002 and 2001,
respectively. Gross gains of $5,709, $609 and $3,419 and
gross losses of $-0-, $-0- and $224 were realized on those
sales during 2003, 2002 and 2001, respectively.
Securities available for sale with an approximate fair value of
$949,602 and $712,827 were pledged at December 31, 2003
and 2002, respectively, to secure public deposits and for other
purposes required or permitted by law.
27
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 9—Securities Held to Maturity
Below is an analysis of the amortized cost and approximate fair values of debt securities held to maturity at December 31, 2003
and 2002:
2003
2002
Gross
Amortized Unrealized Unrealized
Gains
Losses
Gross
Cost
Approximate
Fair
Value
Gross
Amortized Unrealized Unrealized
Gains
Losses
Gross
Cost
Approximate
Fair
Value
Obligation of U.S. Government
Corporation and Agencies:
Mortgage Backed Securities
$
8,143
$
444
$
-0-
$
8,587
$
63,535
$
1,713
$
-0-
$
65,248
Other
10,000
366
-0-
10,366
15,000
934
-0-
15,934
76,716
4,322
-0-
81,038
96,869
3,685
-0-
100,554
Obligations of States and
Political Subdivisions
Debt Securities Issued By
Foreign Governments
Corporate Securities
8,987
223
408
-0-
-0-
-0-
408
408
-0-
9,210
22,026
725
-0-
(8)
408
22,743
Total Securities Held to Maturity
$ 104,254
$ 5,355
$
-0-
$
109,609
$
197,838
$
7,057
$
(8)
$
204,887
The amortized cost and estimated market value of debt
securities at December 31, 2003, by contractual maturity,
are shown below. Expected maturities will differ from
contractual maturities because borrowers may have the
right to call or repay obligations with or without call or
prepayment penalties.
Amortized Approximate
Cost
Fair Value
Due within 1 year $ 23,025 $ 23,646
Due after 1 but within 5 years 13,734 14,465
Due after 5 but within 10 years 29,362 31,683
Due after 10 years 29,990 31,228
96,111 101,022
Mortgage Backed Securities 8,143 8,587
Total Debt Securities $ 104,254 $ 109,609
There were no sales of securities held to maturity in 2003,
2002 or 2001.
Securities held to maturity with an amortized cost of $98,173
and $149,119 were pledged at December 31, 2003 and 2002,
respectively, to secure public deposits and for other purposes
required or permitted by law.
NOTE 10—Other Than Temporary Impairment
of Investments
The following table presents the gross unrealized losses and
fair values at December 31, 2003 by investment category and
time frame for which the loss has been outstanding:
Less Than 12 Months
Description of Securities
Fair Value
Unrealized
Losses
U.S. Treasury Obligations
$
-0- $ -0-
U.S. Government
Agency Obligations
U.S. Government Agency
CMO and MBS
101,423 (1,008)
687,974 (8,298)
Corporate Securities
21,448 (216)
Municipal Securities
Total Securities
10,286 (99)
$
821,131 $ (9,621)
There were no unrealized losses in the investment portfolio
that were outstanding for twelve months or more. In addition,
there were no unrealized losses on equity securities.
Management does not believe any individual unrealized loss
as of December 31, 2003 represents an other-than-temporary
impairment. The unrealized losses are primarily attributed to
changes in interest rates. Finally, the Corporation has both
the intent and the ability to hold the securities contained
in the previous table for a time necessary to recover the
amortized cost.
28
NOTE 11—Loans (all domestic)
Relationship to impaired loans:
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
Loans at year end were divided among these general
categories:
December 31,
2003
2002
Commercial, financial,
agricultural and other $ 655,740 $ 633,955
Real estate loans:
Construction and land development 27,063 20,998
1-4 family dwellings 821,159 739,018
Other real estate loans 771,861 663,220
Loans to individuals for household,
family and other personal expenditures 521,481 505,139
Leases, net of unearned income 28,033 47,110
Subtotal 2,825,337 2,609,440
Unearned income (455) (806)
Total loans and leases $ 2,824,882 $ 2,608,634
Most of the Corporation’s business activity was with
customers located within Pennsylvania. The portfolio is well
diversified, and as of December 31, 2003 and 2002, there
were no significant concentrations of credit.
The following table identifies the amount of nonperforming
loans as of December 31:
Loans on nonaccrual basis $ 12,459 $ 23,450
Past due loans 10,586 14,774
Renegotiated loans 195 207
Total nonperforming loans $ 23,240 $ 38,431
2003
2002
NOTE 12—Allowance for Credit Losses
Description of changes:
Allowance at January 1
Additions:
Recoveries of previously
charged off loans
Provisions charged to
operating expense
From acquisition
Deductions:
Loans charged off
Allowance at December 31
2003
2001
34,496 $ 34,157 $ 33,601
2002
$
1,705 2,048 1,281
12,770 12,223 11,495
3,109 -0- -0-
14,695 13,932 12,220
37,385 $ 34,496 $ 34,157
$
2003
2002
2001
Recorded investment in
impaired loans at end
of period
Average balance of impaired
loans for the year
Allowance for credit losses
related to impaired loans
Impaired loans with an
allocation of the allowance
for credit losses
Impaired loans with no
allocation of the allowance
for credit losses
Income recorded on impaired
loans on a cash basis
$
$
$
$
$
$
12,654 $ 23,657 $ 23,731
19,866 $ 24,740 $ 16,133
2,048 $ 5,204 $ 3,835
6,327 $ 15,065 $ 16,266
6,327 $ 8,592 $ 7,465
1,185 $ 286 $ 750
NOTE 13—Financial Guarantees
The Corporation is a party to financial instruments with
off-balance sheet risk in the normal course of business to
meet the financial needs of its customers. These financial
instruments include commitments to extend credit, standby
letters of credit and commercial letters of credit. Those
instruments involve, to varying degrees, elements of credit
and interest rate risk in excess of the amount recognized
in the balance sheet. The contract or notional amount of
those instruments reflects the extent of involvement the
Corporation has in particular classes of financial instruments.
As of December 31, 2003 and 2002, the Corporation did
not own or trade other financial instruments with significant
off-balance sheet risk including derivatives such as futures,
forwards, option contracts and the like, although such
instruments may be appropriate to use in the future to manage
interest rate risk. See NOTE 7 for a description of interest
rate swaps.
The Corporation’s exposure to credit loss in the event of
nonperformance by the other party of the financial instrument
for commitments to extend credit, standby letters of credit
and commercial letters of credit written is represented
by the contract or 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 following table identifies the
notional amount of those instruments at December 31, 2003
and 2002:
2003
2002
Financial instruments whose contract
amounts represent credit risk:
Commitments to extend credit $ 620,403 $ 535,692
Standby letters of credit $ 28,836 $ 32,301
Commercial letters of credit $ 328 $ 385
Commitments to extend credit are agreements to lend to a
customer as long as there is no violation of any condition
29
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 13—Financial Guarantees (continued)
established in the contract. Commitments generally have
fixed expiration dates or other termination clauses and 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, residential and
income-producing commercial properties.
Standby letters of credit and commercial letters of credit
written are conditional commitments issued by the
Corporation to guarantee the performance of a customer to a
third party. Those guarantees are primarily issued to support
public and private borrowing arrangements. The credit risk
involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers.
Current notional amounts outstanding at December 31,
2003 for financial standby letters of credit and performance
standby letters of credit include amounts of $9,510 and $927,
respectively, issued during 2003 and subject to the provisions
of FIN 45. There is currently no liability recorded on the
Corporation’s balance sheet related to these letters of credit.
NOTE 14—Premises and Equipment
Premises and equipment are described as follows:
Land
Buildings and improvements
Leasehold improvements
Furniture and equipment
Software
Subtotal
Less accumulated depreciation
and amortization
Estimated
Useful Life
2003
2002
Indefinite $ 7,177 $ 6,023
5-50 Years 47,438 46,995
5-40 Years 10,043 9,112
2-10 Years 58,028 52,732
16,599 15,777
3-7 Years
139,285 130,639
92,747 84,909
Total premises and equipment
Total premises and equipment
Total premises and equipment
$ 46,538 $ 45,730
Depreciation and amortization related to premises and
equipment was $7,261 in 2003, $6,840 in 2002 and $6,153
in 2001.
The Corporation leases various premises and assorted
equipment under noncancellable agreements. Total future
minimal rental commitments at December 31, 2003 were
as follows:
Premises Equipment
2004 $ 1,779 $ 314
2005 1,638 313
2006 1,592 313
2007 1,555 101
2008 1,389 101
Thereafter 5,584 -0-
Total $ 13,537 $ 1,142
Under the terms of various lease agreements, increases in
utilities and taxes may be passed on to the lessee. Such
adjustments are not reflected in the above table. Additionally,
various lease renewal options are available and are not
included in the minimum lease commitments until such
options are exercised. Total lease expense amounted to
$1,939 in 2003, $1,699 in 2002 and $2,105 in 2001.
NOTE 15—Interest-Bearing Deposits
Components of interest-bearing deposits at December 31
were as follows:
2003
2002
NOW and Super NOW accounts $ 110,618 $ 71,649
Savings and MMDA accounts 1,302,451 1,100,889
Time deposits 1,466,559 1,494,120
Total interest-bearing deposits $ 2,879,628 $ 2,666,658
Interest-bearing deposits at December 31, 2003 and 2002,
include allocations from NOW and Super NOW accounts
of $405,521 and $374,695, respectively, into Savings and
MMDA accounts. These reallocations are based on a formula
and have been made to reduce the Corporation’s reserve
requirement in compliance with regulatory guidelines.
Included in time deposits at December 31, 2003 and 2002,
were certificates of deposit in denominations of $100 or more
of $398,716 and $489,702, respectively.
Interest expense related to $100 or greater certificates of
deposit amounted to $18,227 in 2003, $21,685 in 2002 and
$27,922 in 2001.
Included in time deposits at December 31, 2003, were
certificates of deposit with the following scheduled
maturities:
2004 $ 645,251
2005 389,610
2006 209,984
2007 136,991
2008 and thereafter 84,723
$ 1,466,559
30
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 16—Short-term Borrowings
NOTE 17—Capital Securities and Subordinated Debentures
Short-term borrowings at December 31 were as follows:
2003
2002
Ending Average Average Ending Average Average
Balance Balance Rate
Balance Balance Rate
Capital Securities and Subordinated Debentures outstanding
at December 31 are as follows:
2003
2002
Amount
Rate
Amount Rate
120,000
151,860 1.33% 146,395 30,044 1.76%
$ 14,100 $ 68,455 1.32% $ 51,600 $ 63,169 1.86%
Federal funds
purchased
Borrowings from
FHLB
Securities
sold under
agreements
to repurchase 450,140 326,226 1.16% 222,577 225,793 1.78%
Treasury, tax
and loan
note option
49,887 7,592 0.87%
48,493 20,902 1.47%
Total
$ 634,127 $554,133 1.22% $469,065 $339,908 1.77%
Maximum
total at any
month-end
$ 699,326
$469,065
Interest expense on short-term borrowings for the years
ended December 31 is detailed below:
$
Federal funds purchased
Borrowings from FHLB
Securities sold under
agreements to repurchase
Treasury, tax and loan note option
Treasury, tax and loan note option
Treasury, tax and loan note option
Total interest on
short-term borrowings
$
2003
2002
2001
902 $ 1,176 $ 1,527
2,019 530 243
3,768 4,015 8,483
66 308 974
6,755 $ 6,029 $ 11,227
Company obligated mandatorily
redeemable capital securities
of First Commonwealth
Capital Trust I due 2029
$
-0-
$35,000 9.50%
Subordinated Debentures:
Owed to Pittsburgh
Home Capital
Trust I and
due 2028
Owed to First
Commonwealth
Capital Trust I
and due 2029
Owed to First
Commonwealth
Capital Trust II
and due 2033
Total junior subordinated
debentures owed to
unconsolidated
subsidiary trusts
Total consolidated debt
obligations related to
subsidiary trusts
$ 8,292
8.56%
$
-0-
36,083
9.50%
-0-
30,929
LIBOR +2.85% -0-
$ 75,304
$
-0-
$ 75,304
$35,000
The Corporation has established two trusts, First
Commonwealth Capital Trust I and First Commonwealth
Capital Trust II, of which 100% of the common equity
is owned by the Corporation. The trusts were formed for
the purpose of issuing company obligated mandatorily
redeemable capital securities to third-party investors and
investing the proceeds from the sale of the capital securities
solely in junior subordinated debt securities (“subordinated
debentures”) of the Corporation. The subordinated debentures
held by each trust are the sole assets of the trust.
Proceeds from subordinated debentures issued to First
Commonwealth Capital Trust II in December 2003 are
anticipated to be used to partially finance the pending
business combination of GAF (See NOTE 4). Interest on the
debentures is paid quarterly at a floating rate of LIBOR plus
2.85% which is reset quarterly. The Corporation may redeem
the debentures, in whole or in part, at its option on or after
January 23, 2009, at a redemption price equal to 100% of the
principal amount of the debentures, plus accrued and unpaid
interest to the date of the redemption. Deferred issuance costs
of $471 are being amortized on a straight-line basis over the
term of the securities.
31
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 17—Capital Securities and Subordinated
Debentures (continued)
Subordinated debentures outstanding at December 31, 2003
also include $8,292 previously issued by PFC to Pittsburgh
Home Capital Trust I. These debentures were assumed by the
Corporation when it acquired PFC in December 2003, and have
since been called and paid by the Corporation in January 2004.
The subordinated debentures issued to First Commonwealth
Capital Trust I have the same economic terms as the capital
securities issued by the trust. The trust will redeem all of the
outstanding capital securities when the debentures are paid
at maturity. Subject to regulatory approvals, the Corporation
may redeem the debentures, in whole or in part, at any time
on or after September 1, 2009 at a redemption price equal
to 104.75% of the principal amount of the debentures on
September 1, 2009, declining ratably on each September 1
thereafter to 100% on September 1, 2019, plus accrued and
unpaid interest to the date of the redemption. The Corporation
may also redeem the debentures prior to September 1, 2009,
upon the occurrence of certain tax or bank regulatory events,
subject to regulatory approval.
NOTE 18—Other Long-term Debt
Other long-term debt at December 31 follows:
2003
2002
Amount
Weighted average Weighted average
contractual rate
effective rate
Amount
Weighted average Weighted average
contractual rate
effective rate
ESOP loan due December 2005
ESOP loan due March 2006
Repos due:
2008
Borrowings from FHLB due:
2004
2005
2006
2007
2008
2009
2010
2011
2014
2016
2017
2019
2020
2022
$ 1,994 LIBOR +1% LIBOR +1%
620 8.50% 8.50%
22,522 5.51% 2.46%
19,271 5.81% 1.38%
8,555 5.46% 2.05%
6,104 6.01% 2.67%
21,319 5.20% 4.08%
438,413 5.39% 5.26%
11,557 6.49% 3.52%
140,025 5.70% 4.47%
5,895 5.68% 5.68%
17,964 5.40% 4.64%
1,748 5.65% 5.65%
6,271 6.17% 6.17%
7,789 5.72% 5.72%
817 7.37% 7.37%
7,804 5.90% 5.90%
$ 718,668
$
3,055
LIBOR +1%
LIBOR +1%
-0-
-0-
-0-
-0-
-0-
5,000
415,000
-0-
80,000
6,525
10,000
1,844
6,542
8,091
842
8,035
544,934
$
6.94%
5.38%
5.14%
5.68%
5.40%
5.65%
6.17%
5.72%
7.37%
5.90%
6.94%
5.38%
5.14%
5.68%
5.40%
5.65%
6.17%
5.72%
7.37%
5.90%
The weighted-average effective rates of long-term debt in the
schedule above include the effects of the purchase accounting
valuation adjustments that were recorded for the acquisition
that was discussed in NOTE 5.
All Federal Home Loan Bank stock, along with an interest in
unspecified mortgage loans and mortgage-backed securities,
with an aggregate statutory value equal to the amount of the
above advances, have been pledged as collateral with the
Federal Home Loan Bank of Pittsburgh.
Capital securities included in total long-term debt on the
Consolidated Balance Sheets are excluded from this NOTE,
but are described in NOTE 17.
Scheduled loan payments for other long-term debt are
summarized as follows:
2004
2005
2006
2007
2008 Thereafter
$23,629 $ 12,981
Long-term debt
payments
Purchase
valuation
amortization $ 3,920 $ 3,243
$ 9,547
$ 19,607 $459,279 $175,658
$ 3,096
$ 2,835 $ 2,201 $ 2,672
The amounts on the purchase valuation amortization row
in the table above include fair market adjustments from the
business combination, which is described in NOTE 5.
NOTE 19—Common Share Commitments
At December 31, 2003 and 2002, the Corporation had
100,000,000 common shares authorized. 63,704,445 shares
were issued at December 31, 2003, and 62,525,408 shares
were issued at December 31, 2002. Issued shares were reduced
by 2,992,425 shares of treasury stock at December 31,
2003 and 3,562,869 shares of treasury stock at December 31,
32
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
2002. The Corporation may be required to issue additional
shares to satisfy common share purchases related to the
employee stock ownership plan described in NOTE 22. The
dilutive effective of stock options outstanding on average
shares outstanding in the diluted earnings per share reported
on the income statement were 384,778, 332,404 and 232,579
shares at December 31, 2003, 2002 and 2001, respectively.
Treasury shares consisting of 552,781 and 447,001 were
reissued during 2003 and 2002 upon exercise of stock
options. Treasury shares consisting of 17,663 and 67,484 were
reissued in 2003 and 2002, respectively, to fund the business
combination with SCC and SFA as described in NOTE 5.
During 2003, 1,179,037 common shares were issued to fund
the business combination with PFC, which is also described
in NOTE 5.
NOTE 20—Restructuring Charges
The Corporation incurred restructuring charges of $6,140
during 2002 in accordance with EITF 94-3. These
restructuring charges were comprised of the following:
$4,652 of employee separation costs consisting of severance
packages for 95 employees from various affiliates of the
Corporation including all levels of staff from the executive
management level to back office support staff, $1,068 related
to realignment of the various Boards of Directors and Board
committees and $420 primarily related to the write-off of
obsolete signage and supplies. These amounts are included as
restructuring charges, as a component of Other Expenses on
the Consolidated Statements of Income.
These restructuring charges resulted from the merger of
the charters of the Corporation’s two commercial banks
(First Commonwealth Bank and Southwest Bank) and
the adoption of a new common brand and identity for all
financial services subsidiaries.
Actual termination benefits paid and charged against the total
severance liability were $2,823 and $1,263 during 2003 and
2002, respectively, leaving a remaining unpaid liability for
severance costs of $566 at December 31, 2003. No additional
severance accruals or adjustments were recorded during 2003
related to the 2002 restructuring.
$
Tax at statutory rate
Increase (decrease) resulting from:
Amount
23,293
Income from bank owned
life insurance
Other nontaxable income
State income taxes
Other
Other
Other
Total tax provision
(1,520)
(7,332)
-0-
(1,190)
13,251
$
2003
% of Pretax Income
35.0
(2.3)
(11.0)
0.0
(1.8)
19.9
NOTE 21—Income Taxes
The income tax provision consists of:
2003 2002
2001
Current tax provision for
income exclusive of
securities transactions:
$
Federal
State
Securities transactions
Total current tax provision
Deferred tax provision (benefit)
$
Total tax provision
13,438 $ 9,279 $ 14,865
-0- 1 55
2,048 225 1,165
15,486 9,505 16,085
(2,235) (594) (831)
13,251 $ 8,911 $ 15,254
Temporary differences between financial statement carrying
amounts and tax bases of assets and liabilities that represent
significant portions of the deferred tax assets (liabilities) at
December 31, 2003 and 2002, were as follows:
2003
2002
Deferred tax assets:
Allowance for credit losses $ 13,107 $ 12,074
Postretirement benefits other than pensions 1,040 1,036
Basis difference in assets acquired 4,710 -0-
Severance expense 250 1,186
Other 1,140 948
Total deferred tax assets 20,247 15,244
Deferred tax liabilities:
Accumulated accretion of bond discount (124) (327)
Unrealized gain on securities available
for sale (8,166) (13,920)
Lease financing deduction (6,439) (9,272)
Loan origination fees and costs (1,562) (1,774)
Basis difference in assets acquired -0- (337)
Pension expense -0- (399)
Accumulated depreciation (1,343) (578)
Other (574) (574)
Total deferred tax (liabilities) (18,208) (27,181)
Net deferred tax asset (liability) $ 2,039 $ (11,937)
The total tax provision for financial reporting differs from the
amount computed by applying the statutory income tax rate
to income before taxes. The differences are as follows:
2002
2001
Amount
Amount
Amount
$ 18,353
% of Pretax Income
35.0
Amount
Amount
Amount
22,905
$
% of Pretax Income
35.0
(1,649)
(6,216)
1
(1,578)
$ 8,911
(3.1)
(11.9)
0.0
(3.0)
17.0
(1,616)
(5,521)
55
(569)
15,254
$
(2.5)
(8.4)
0.1
(0.9)
23.3
33
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 22—Retirement Plans
All employees with at least one year of service are eligible to
participate in the employee stock ownership plan (“ESOP”).
Contributions to the plan are determined by the Board of
Directors, and are based upon a prescribed percentage of
the annual compensation of all participants. During a prior
period, the ESOP acquired shares of the Corporation’s
common stock in a transaction, whereby the Corporation
borrowed the required funds and concurrently loaned this
amount to the ESOP. The borrowed amount represents
leveraged and unallocated shares, and accordingly has been
recorded as long-term debt and the offset as a reduction of
common shareholders’ equity. Compensation costs related to
the plan were $938 in 2003, $940 in 2002 and $1,173 in 2001
(See NOTE 24).
The employees of PFC were covered by a leveraged ESOP
plan. The PFC ESOP had unallocated ESOP shares of 43,174
at the merger date. The plan has been terminated effective
December 5, 2003, pending liquidation of unallocated ESOP
shares with a fair value of $620 to be utilized to pay off the
outstanding PFC ESOP loan payable. Remaining shares will
be allocated to the participants of the PFC ESOP plan. No
compensation cost for the PFC ESOP plan is required to be
recognized in the Consolidated Statements of Income.
The Corporation also has a savings plan pursuant to the
provisions of section 401(k) of the Internal Revenue code.
Under the terms of the plan, each participant will receive an
automatic employer contribution to the plan in an amount
equal to 3% of compensation. Each participating employee
may contribute up to 80% of compensation to the plan
of which up to 4% is matched 100% by the employer’s
contribution. The 401(k) plan expense was $2,606 in
2003, $2,616 in 2002 and $2,583 in 2001. Prior to the plan
amendment effective February 1, 2002, the Corporation’s
401(k) plan permitted each participating employee to
contribute 10% of compensation to the plan of which up to
4% was matched 100% by the employer’s contribution.
The 401(k) plan of PFC was merged into the Corporation’s
401(k) plan effective January 1, 2004, whereby all eligible PFC
employees began to participate in the Corporation’s plan with
no lapse in credited service. During the period from the merger
date of December 5, 2003, until December 31, 2003, the PFC
employees continued to participate in the PFC plan and to
receive employer contributions under the terms of the plan.
Upon shareholder approval at the regular 1998 meeting,
the Corporation established a “Supplemental Executive
Retirement Plan” (“SERP”) to provide deferred
compensation for a select group of management. The purpose
of this plan is to restore some of the benefits lost to the highly
compensated employees compared to other employees due
to limits and restrictions incorporated into the Corporation’s
401(k) and ESOP plans. The Corporation’s 401(k) and
34
ESOP plans include restrictions on maximum compensation,
actual deferral percentage, actual contribution, maximum
contribution and maximum salary reduction which are
required in order to meet specific legal requirements.
Participants in the SERP may elect to contribute up to
25% of compensation (compensation in excess of limits
of the Corporation’s 401(k) and ESOP plans) into the
SERP, through salary reduction. The Corporation will
make an elective contribution to the SERP equal to the
elective deferred compensation of the participant for the
plan year. Each participant of the SERP will also receive
a matching contribution equal to 100% of the employee’s
elective contribution up to 4%, and an additional non-
elective contribution from the employer equal to 8% of plan
compensation. In addition, the Corporation may make an
extra non-elective contribution for plan participants.
The SERP will continue to supplement the Corporation’s
401(k) and ESOP plans and will therefore be modified at
the same time and in the same respect as the basic plans are
modified in future periods. The SERP plan expense was $235
in 2003, $133 in 2002 and $150 in 2001.
Pension Plans of Acquired Subsidiaries
The noncontributory defined benefit pension plan of
Southwest Bank covered all eligible employees and provided
benefits based on each employee’s years of service and
compensation. On December 31, 1998, the participant’s
accrued benefit was frozen and participation in the First
Commonwealth Financial Corporation ESOP plan with no
lapse in credited service began. The Southwest Bank Pension
Plan was terminated effective December 31, 2001. As the
result of the plan termination, an asset reversion of $1,271 and
a gain, net of applicable excise tax, of $277 were recognized.
Net periodic pension cost of this plan for each of the last
three years was as follows:
Service cost
Interest cost on projected benefit obligation
Expected return on plan assets
Net amortization and deferral
Net periodic pension cost (benefit)
2003 2002
2001
-0- $ -0- $ -0-
-0- -0- 346
-0- -0- (438)
-0- -0- (33)
-0- $ -0- $ (125)
$
$
Due to the termination of the plan, there were no benefit
obligations and no assets held as of December 31, 2003
and 2002.
PFC participated in a multi-employer defined benefit pension
plan that covered all eligible employees and provided
benefits based on each employee’s years of service and
compensation. No contributions were made to the plan and
no compensation cost was recognized in the Consolidated
Statements of Income. The estimated withdrawal liability at
December 31, 2003 is $374.
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
Postretirement Benefits other than Pensions for
Acquired Subsidiary
Employees of Southwest Bank were also covered by a post
retirement benefit plan. The measurement date for this plan
was October 1.
Net periodic benefit cost of this plan was as follows:
Service cost
Interest cost on projected benefit obligation
Amortization of transition obligation
Loss amortization
Net periodic benefit cost
$
2003 2002
2001
-0- $ -0- $ 6
338 273 232
2 2 2
121 60 65
$ 461 $ 335 $ 305
equivalent to Medicare Part D. The preceding measures of the
accumulated postretirement benefit obligation or net periodic
postretirement benefit cost do not reflect the effects of the Act
on the Corporation’s plan. The Corporation has elected to defer
recognizing the effects of the Act in accounting and reporting
for its plan until authoritative accounting guidance, including
guidance on accounting for the federal subsidy is issued. That
guidance, when issued, could impact reported calculations.
The health care cost trend rate assumption can have a
significant impact on the amounts reported for this plan. A
one-percentage-point change in assumed health care cost
trend rates would have the following effects:
1-Percentage- 1-Percentage-
Point Increase Point Decrease
The following table sets forth the plan’s funded status and
the amounts recognized on the Corporation’s Consolidated
Balance Sheet as of December 31:
Effect on total of service and
interest cost components $ 23 $ (20)
Effect on postretirement benefit
obligation $ 372 $ (314)
2003
2002
Accumulated post retirement benefit obligation:
Retirees $ 5,901 $ 5,142
Actives -0- -0-
Total accumulated postretirement benefit obligation 5,901 5,142
Plan assets at fair value -0- -0-
Accumulated postretirement benefit obligation
in excess of plan assets 5,901 5,142
Unrecognized transition obligation (14) (16)
Unrecognized net loss (2,844) (2,165)
Accrued benefit liability recognized
on the balance sheet $ 3,043 $ 2,961
The following table sets forth the change in benefit obligation:
2003
2002
Benefit obligation at beginning of year $ 5,142 $ 4,151
Service cost -0- -0-
Interest cost 338 273
Benefit payments (379) (245)
Actuarial loss 800 963
Benefit obligation at end of year $ 5,901 $ 5,142
The discount rate used in determining the actuarial present
value of the accumulated postretirement benefit obligation
was 6.25% for 2003 and 6.75% for 2002. The health care
cost trend rates used for 2003 were projected at an initial rate
of 8.00% for 2004 decreasing over time to an annual rate
of 4.25% in 2008 for both indemnity plan participants and
non-indemnity plan participants. For 2002, rates used were
projected at an initial rate of 9.00% for 2003 decreasing over
time to an annual rate of 4.25% in 2008 for both indemnity
plan participants and non-indemnity plan participants.
The Medicare Prescription Drug, Improvement and
Modernization Act of 2003 (the “Act”) introduces a
prescription drug benefit under Medicare Part D. The Act also
introduces a federal subsidy to sponsors of retiree health care
benefit plans that provide a benefit that is at least actuarially
NOTE 23—Unearned ESOP Shares
The Corporation had borrowed amounts which were
concurrently loaned to the First Commonwealth Financial
Corporation Employee Stock Ownership Plan Trust
(“ESOP”) on the same terms. The combined balances of the
ESOP related loans were $1,994 at December 31, 2003 and
$3,055 at December 31, 2002.
The loans have been recorded as long-term debt on the
Corporation’s Consolidated Balance Sheets. A like amount
of unearned ESOP shares was recorded as a reduction of
common shareholders’ equity. Unearned ESOP shares,
included as a component of shareholders’ equity, represent
the Corporation’s prepayment of future compensation
expense. The shares acquired by ESOP are held in a suspense
account and will be released to the ESOP for allocation to
the plan participants as the loan is reduced. Repayment of the
loans is scheduled to occur over a remaining two-year period
from contributions to the ESOP by the Corporation and
dividends on unallocated ESOP shares.
The following is an analysis of ESOP shares held in suspense:
See NOTE 1 for the definition of “old shares” and “new shares”
Shares in suspense
December 31, 2001
Shares allocated during 2002
Shares in suspense
December 31, 2002
Shares allocated during 2003
Shares in suspense
December 31, 2003
Total Old Shares
New Shares
372,560 91,214 281,346
(100,894) (24,702) (76,192)
271,666 66,512 205,154
(96,118) (23,533) (72,585)
175,548 42,979 132,569
The fair market value of the new shares remaining in
suspense was approximately $1,890 and $2,359 at
December 31, 2003 and 2002, respectively.
35
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands, except per share data)
NOTE 23—Unearned ESOP Shares (continued)
Interest on ESOP loans was $60 in 2003, $109 in 2002 and
$263 in 2001. During 2003, 2002 and 2001, dividends on
unallocated shares in the amount of $184, $242 and $301,
respectively, were used for debt service while all dividends
on allocated shares were allocated or paid to the participants.
Unearned ESOP shares of PFC at December 31, 2003 are
excluded from the preceding analysis. The PFC ESOP
plan was terminated effective December 5, 2003.
Unallocated shares remaining after liquidation of shares to
fund the PFC ESOP loan payable will be allocated to PFC
ESOP participants.
NOTE 24—Stock Option Plan
At December 31, 2003, the Corporation had a stock-based
compensation plan, which is described below. All of the
exercise prices and related number of shares have been
restated to reflect historical stock splits. The plan permits
the Executive Compensation Committee to grant options for
up to 4.5 million shares of the Corporation’s common stock
through October 15, 2005. Although the vesting requirements
and terms of future options granted are at the discretion of
the Executive Compensation Committee, all options granted
from 1997 through 2003 were exercisable by December 31
of the grant year respectively, and expire ten years from the
grant date. All equity compensation plans are approved by
security holders.
At December 5, 2003, the Corporation completed its
merger with PFC, at which time all outstanding PFC
options were converted to First Commonwealth options at
a conversion rate of 1.387. These options were not granted
from the Corporation’s existing stock option plan. First
Commonwealth assumed the option plans of PFC. Under
these plans, a total of 62,322 First Commonwealth shares
were reserved for issuance due to the exercise of previously
granted PFC options assumed in the merger. No further
grants will be made under these plans.
Equity Compensation Plan Information as of
December 31, 2003:
Number of Weighted Average
Options Exercise Price of
Outstanding Options Outstanding
Shares
Available for
Future Grant
Equity compensation
plans approved by
security holders
2,965,726
$ 11.51 74,274
36
The Corporation has elected, as permitted by FAS No. 123,
to apply APB Opinion 25 and related interpretations in
accounting for its plan. Accordingly, no compensation cost
has been recognized for its stock options outstanding. Had
compensation cost for the Corporation’s stock option plan
been determined based upon the fair value at the grant dates
for awards under the plan consistent with the method of
FAS No. 123, the Corporation’s net income and earnings per
share would have been reduced to the pro forma amounts
shown below:
2003
2002
2001
As
Pro
As
Reported Forma Reported
Forma Reported Forma
$ 53,300 $ 51,948 $ 43,526 $ 41,248 $ 50,189 $ 48,211
Pro
Pro
As
Net income
Basic earnings
$
per share
Diluted earnings
$
per share
0.90 $
0.88 $
0.75
0.90 $
0.87 $
0.74
$
$
0.71 $
0.87 $
0.83
0.70 $
0.86 $
0.83
The fair value of each option granted is estimated on the date
of the grant using the Black-Scholes options pricing model
with the following weighted average assumptions used:
2003
2002
5.14% per annum 5.13% per annum 5.59% per annum
2001
Dividend yield
Expected
volatility
40.3%
Risk-free
interest rate
4.1%
Expected
54.0%
5.0%
55.1%
5.1%
option life
7.0 years
7.0 years
10.0 years
A summary of the status of the Corporation’s outstanding
stock options as of December 31, 2003, 2002, and
2001 and changes for the years ending on those dates is
presented below:
2003
2002
2001
Weighted
Average
Exercise
Price
Shares
Weighted
Average
Exercise
Price
Weighted
Average
Exercise
Price
Shares
Shares
2,841,772 $ 11.33 2,687,887 $ 11.13 2,210,651 $ 11.12
62,322 $ 7.60
-0- $ 0.00
641,912 $12.06
820,775 $ 11.70
(549,215) $10.71
(447,001) $ 10.51
(31,065) $12.91 (219,889) $ 11.90
-0- $ 0.00
796,743 $ 10.75
(256,174) $ 9.76
(63,333) $ 11.89
Outstanding at
beginning
of year
PFC converted
options at
merger
Granted
Exercised
Forfeited
Outstanding at
end of year 2,965,726 $11.51 2,841,772 $ 11.33 2,687,887 $ 11.13
Exercisable at
end of year 2,965,726 $11.51 2,841,772 $ 11.33 2,687,887 $ 11.13
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands, except per share data)
The following table summarizes information about the stock
options outstanding at December 31, 2003:
Options Exercisable
Options Outstanding
Weighted-
Average Weighted-
Number Remaining Average Number
Weighted-
Price At 12/31/03
Average
Outstanding Contract Exercise Exercisable Exercise
At 12/31/03
45,078
293,747
429,976
1,298,938
897,987
45,078
$ 7.21
293,747
$ 9.23
$ 10.75
429,976
$ 11.47 1,298,938
897,987
$ 12.88
Price
$ 7.21
$ 9.23
$10.75
$11.47
$12.88
Life
7.2
2.9
7.1
6.7
7.5
Range
of Exercise
Prices
$ 5.41-$ 8.99
$ 9.00-$ 9.99
$ 10.00-$ 10.99
$ 11.00-$ 11.99
$ 12.00-$ 15.00
Total
2,965,726
6.6
$ 11.51 2,965,726
$11.51
NOTE 25—Commitments and Contingent Liabilities
There are no material proceedings to which the Corporation
or its subsidiaries are a party, or of which their property is the
subject, except proceedings which arise in the normal course
of business and, in the opinion of management, will not have
a material adverse effect on the consolidated operations or
financial position of the Corporation and its subsidiaries.
NOTE 26—Related Party Transactions
Some of the Corporation’s or its subsidiaries’ directors,
executive officers, principal shareholders and their related
interests, had transactions with the subsidiary banks in the
ordinary course of business. All deposit and loan transactions
were made on substantially the same terms, such as
collateral and interest rates, as those prevailing at the time
for comparable transactions. In the opinion of management,
these transactions do not involve more than the normal risk of
collectibility nor do they present other unfavorable features.
It is anticipated that further such transactions will be made in
the future.
The following is an analysis of loans to those parties whose
aggregate loan balances exceeded $60 during 2003:
Balances December 31, 2002 $ 4,603
Advances 5,956
Repayments (6,911)
Other 1,129
Balances December 31, 2003 $ 4,777
“Other” primarily reflects the change in those classified as
a “related party” usually as a result of mergers, resignations
or retirements.
NOTE 27—Regulatory Restrictions and Capital Adequacy
The amount of funds available to the parent from its
subsidiary banks is limited by restrictions imposed on all
financial institutions by banking regulators. At December 31,
2003, dividends from subsidiary banks were restricted not to
exceed $84,489. These restrictions have not had, and are not
expected to have, a significant impact on the Corporation’s
ability to meet its cash obligations.
The Corporation is subject to various regulatory capital
requirements administered by the Federal banking agencies.
Failure to meet minimum capital requirements can initiate
certain mandatory and possibly additional discretionary
actions by regulators that, if undertaken, could have a direct
material effect on the Corporation’s financial statements.
Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Corporation and
its banking subsidiaries must meet specific capital guidelines
that involve quantitative measures of the Corporation’s
assets, liabilities and certain off-balance sheet items as
calculated under regulatory accounting practices.
The Corporation’s capital amounts and classification are
also subject to qualitative judgments by the regulators about
components, risk weighting and other factors.
Quantitative measures established by regulation to ensure
capital adequacy require the Corporation to maintain
minimum amounts and ratios of total and Tier I capital
(common and certain other “core” equity capital) to risk
weighted assets, and of Tier I capital to average assets. As
of December 31, 2003, the Corporation and its banking
subsidiaries meet all capital adequacy requirements to which
they are subject.
As of December 31, 2003, the most recent notifications from
the Federal Reserve Board and Federal Deposit Insurance
Corporation categorized First Commonwealth Bank as well
capitalized under the regulatory framework for prompt
corrective action. To be considered as well capitalized, the
bank must maintain minimum total risk-based capital, Tier
I risk-based capital and Tier I leverage ratios as set forth in
the following table. There are no conditions or events since
that notification that management believes have changed the
institution’s category.
37
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 27—Regulatory Restrictions and Capital Adequacy (continued)
Actual
Amount
Ratio
Regulatory Minimum
Ratio
Amount
To Be Well Capitalized Under
Prompt Corrective Action Provisions
Amount
Ratio
As of December 31, 2003
Total Capital to Risk Weighted Assets
First Commonwealth Financial Corporation
First Commonwealth Bank
Tier I Capital to Risk Weighted Assets
First Commonwealth Financial Corporation
First Commonwealth Bank
Tier I Capital to Average Assets
First Commonwealth Financial Corporation
First Commonwealth Bank
As of December 31, 2002
Total Capital to Risk Weighted Assets
First Commonwealth Financial Corporation
First Commonwealth Bank
Tier I Capital to Risk Weighted Assets
First Commonwealth Financial Corporation
First Commonwealth Bank
Tier I Capital to Average Assets
First Commonwealth Financial Corporation
First Commonwealth Bank
$
$
$
$
$
$
$
$
$
$
$
$
494,541
403,313
14.5%
12.0%
457,156
365,929
13.4%
10.9%
457,156
365,929
9.4%
7.6%
436,850
402,319
14.0%
13.0%
402,354
367,823
12.9%
11.9%
402,354
367,823
8.9%
8.2%
$
$
$
$
$
$
$
$
$
$
$
$
273,207
269,734
136,603
134,867
146,571
145,263
249,240
246,779
124,620
123,389
135,282
133,944
8.0%
8.0%
4.0%
4.0%
3.0%
3.0%
8.0%
8.0%
4.0%
4.0%
3.0%
3.0%
N/A
337,167
N/A
202,300
N/A
242,105
N/A
308,474
N/A
185,084
N/A
223,239
$
$
$
$
$
$
N/A
10.0%
N/A
6.0%
N/A
5.0%
N/A
10.0%
N/A
6.0%
N/A
5.0%
NOTE 28—Condensed Financial Information of First Commonwealth Financial Corporation (parent company only)
Balance Sheets
Statements of Income
December 31,
2003
2002
Assets
Cash $ 1,376 $ 13,844
Securities available for sale 33,052 1,407
Loans to affiliated parties 439 498
Investment in subsidiaries 462,894 413,542
Investment in unconsolidated subsidiary trusts 2,280 -0-
Investment in jointly-owned company 5,622 5,081
Premises and equipment 5,887 6,095
Dividends receivable from subsidiaries 11,517 3,394
Receivable from subsidiaries 6,085 7,625
Other assets 5,126 1,936
Total assets $ 534,278 $ 453,422
Liabilities and Shareholders’ Equity
Accrued expenses and other liabilities $ 14,199 $ 3,755
Dividends payable 9,714 9,139
Loans payable 2,613 3,055
Subordinated debentures payable 76,806 36,083
Shareholders’ equity 430,946 401,390
Total liabilities and shareholders’ equity $ 534,278 $ 453,422
Interest and dividends
Dividends from subsidiaries
Interest expense
Net securities gains (losses)
Other revenue
Operating expenses
Income before taxes and equity
in undistributed earnings
of subsidiaries
Applicable income tax benefits
Income before equity in undistributed
earnings of subsidiaries
Equity in undistributed earnings
of subsidiaries
Net income
Years Ended December 31,
2001
2003 2002
$
48 $ 48 $ 42
64,907 43,609 40,442
(3,629) (3,570) (3,724)
742 -0- -0-
253 -0- 16
(9,237) (9,161) (7,033)
53,084 30,926 29,743
4,570 5,304 3,495
57,654 36,230 33,238
(4,354) 7,296 16,951
$ 53,300 $ 43,526 $ 50,189
38
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollar Amounts in Thousands, except per share data)
Statements of Cash Flows
Operating Activities
Net income
Adjustments to reconcile net
income to net cash provided
by operating activities:
Depreciation and amortization
Net gains on sale of assets
Decrease (increase) in prepaid
income taxes
Undistributed equity
in subsidiaries
Other—net
Other—net
Other—net
Stock option tax benefit
Stock option tax benefit
Stock option tax benefit
Net cash provided
by operating activities
Years Ended December 31,
2001
2003 2002
$ 53,300 $ 43,526 $ 50,189
835 537 1,140
(739) -0- -0-
256 (397) 431
(4,482) (7,296) (16,951)
(2,193) 1,270 (592)
535 225 269
47,512 37,865 34,486
Investing Activities
Transactions with securities available for sale:
Purchases of investment securities
Sales of investment securities
Net change in loans to affiliated parties
Purchases of premises and equipment
Changes in receivable from and net
investment in subsidiary
Net cash used by
investing activities
(32,785) (943) (123)
1,766 -0- -0-
59 42 (61)
(125) (33) (90)
(28,918) 436 (792)
(60,003) (498) (1,066)
Financing Activities
Issuance of subordinated debentures
Discount on dividend reinvestment
plan purchases
Treasury stock acquired
Treasury stock reissued
Cash dividends paid
Net cash used by
financing activities
Net increase (decrease) in cash
Cash at beginning of year
Cash acquired with acquisition
Cash at end of year
30,929 -0- -0-
(706) (637) (612)
-0- -0- -0-
5,923 4,655 2,499
(36,630) (35,208) (33,809)
(484) (31,190) (31,922)
(12,975) 6,177 1,498
13,844 7,667 6,169
507 -0- -0-
$ 1,376 $ 13,844 $ 7,667
Cash dividends declared per common share were $0.625,
$0.605 and $0.585 for 2003, 2002 and 2001, respectively.
Dividends from subsidiaries for 2003 included a special
dividend in the amount of $11,436 that was received from
First Commonwealth Bank, a wholly owned subsidiary.
After distribution of the special dividend, which was within
guidelines established by the banking regulators, First
Commonwealth Bank remains classified as a well-capitalized
institution. During 2003, the parent company also received
a dividend-in-kind from First Commonwealth Bank in the
amount of $8,797, which was received in the form of an
investment holding company subsidiary. The subsidiary,
known as FraMal Holdings Corporation, was acquired by
First Commonwealth Bank in the acquisition, which is
described in NOTE 5.
During 2003, the parent company obtained a one-year line of
credit to be used for general operating cashflows. The line of
credit was with an unrelated financial institution for $15,000,
and as of December 31, 2003, had no amounts outstanding.
NOTE 29—Fair Values of Financial Instruments
Below are various estimated fair values at December 31,
2003 and 2002, as required by Statement of Financial
Accounting Standards No. 107 (“FAS No. 107”). Such
information, which pertains to the Corporation’s financial
instruments, is based on the requirements set forth in FAS
No. 107 and does not purport to represent the aggregate
net fair value of the Corporation. It is the Corporation’s
general practice and intent to hold its financial instruments
to maturity, except for certain securities designated as
securities available for sale, and not to engage in trading
activities. Many of the financial instruments lack an available
trading market, as characterized by a willing buyer and
seller engaging in an exchange transaction. Therefore, the
Corporation had to use significant estimations and present
value calculations to prepare this disclosure.
Changes in the assumptions or methodologies used to
estimate fair values may materially affect the estimated
amounts. Also, management is concerned that there may not
be reasonable comparability between institutions due to the
wide range of permitted assumptions and the methodologies
in absence of active markets. This lack of uniformity gives
rise to a high degree of subjectivity in estimating financial
instrument fair values.
The following methods and assumptions were used by the
Corporation in estimating financial instrument fair values:
Cash and short-term instruments: The balance sheet carrying
amounts for cash and short-term instruments approximate
the estimated fair values of such assets.
Securities: Fair values for securities held to maturity and
securities available for sale are based on quoted market
prices, if available. If quoted market prices are not available,
fair values are based on quoted market prices of comparable
instruments. The carrying value of nonmarketable equity
securities, such as Federal Home Loan Bank stock, is
considered a reasonable estimate of fair value.
Loans receivable: The estimated fair values of all loans
are estimated by discounting the future cash flows using
interest rates currently offered for loans with similar terms to
borrowers of similar credit quality.
Off-balance sheet instruments: Many of the Corporation’s
off-balance sheet instruments, primarily loan commitments
and standby letters of credit, are expected to expire without
being drawn upon, therefore, the commitment amounts do not
necessarily represent future cash requirements. Management
has determined that due to the uncertainties of cash flows and
39
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
(Dollar Amounts in Thousands)
NOTE 29—Fair Values of Financial Instruments (continued)
difficulty in predicting the timing of such cash flows, fair values
were not estimated for these instruments for both periods.
Deposit liabilities
Deposit liabilities: Management estimates that the fair value
of deposits is based on a market valuation of similar deposits.
The carrying value of variable rate time deposit accounts
and certificates of deposit approximate their fair values at
the report date. Also, fair values of fixed rate time deposits
for both periods are estimated by discounting the future
cash flows using interest rates currently being offered and a
schedule of aggregated expected maturities.
Short-term borrowings
Short-term borrowings: The estimated fair values of
borrowings from the Federal Home Loan Bank were
estimated based on the estimated incremental borrowing rate
for similar types of borrowings. The carrying amounts of
other short-term borrowings such as Federal funds purchased,
securities sold under agreement to repurchase and treasury,
tax and loan notes were used to approximate fair value.
Long-term debt
Long-term debt: The fair value of long-term debt is estimated
by discounting the future cash flows using the Corporation’s
estimated incremental borrowing rate for similar types of
borrowing arrangements.
The following table presents carrying amounts and estimated
fair values of the Corporation’s financial instruments at
December 31, 2003 and 2002:
Carrying Amount
Estimated Fair Value
Carrying Amount
Estimated Fair Value
2003
2002
Financial assets
Cash and due from banks
Interest-bearing deposits with banks
Securities available for sale
Investments held to maturity
Loans, net
Financial liabilities
Deposits
Short-term borrowings
Long-term debt
$
$
$
$
$
$
$
$
82,510
5,362
1,969,176
104,254
2,787,497
3,288,275
634,127
793,972
$
$
$
$
$
$
$
$
82,510
5,362
1,969,176
109,609
2,858,032
3,193,216
634,361
863,444
$
$
$
$
$
$
$
$
81,114
1,973
1,482,771
197,838
2,574,138
3,044,124
469,065
579,934
$
$
$
$
$
$
$
$
81,114
1,973
1,482,771
204,887
2,631,557
3,011,354
469,381
642,127
40
The unaudited quarterly results of operations for the years ended December 31, 2003 and 2002 are as follows:
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
QUARTERLY SUMMARY OF FINANCIAL DATA—UNAUDITED
(Dollar Amounts in Thousands, except per share data)
Third Quarter
59,605
$
24,616
34,989
3,495
$
Fourth Quarter
60,665
24,409
36,256
2,350
Interest income
Interest expense
Net interest income
Provision for credit losses
Net interest income after provision
for credit losses
Securities gains
Other operating income
Litigation settlement
Other operating expenses
Income before income taxes
Applicable income taxes
Net income
First Quarter
62,317
$
25,471
36,846
3,460
33,386
2,234
8,837
(610)
28,382
16,685
3,381
13,304
$
2003
Second Quarter
$
$
61,186
25,745
35,441
3,465
31,976
3,221
9,977
-0-
28,382
16,792
3,365
13,427
31,494
166
13,691
-0-
28,005
17,346
3,511
13,835
$
Basic earnings per share
Diluted earnings per share
Average shares outstanding
Average shares outstanding assuming dilution
0.23
$
$
0.23
58,703,260
58,934,248
0.23
$
$
0.23
58,769,160
59,101,475
0.23
$
$
0.23
58,950,258
59,376,716
33,906
230
10,088
-0-
28,496
15,728
2,994
12,734
$
0.21
$
$
0.21
59,577,396
60,122,832
Interest income
Interest expense
Net interest income
Provision for credit losses
Net interest income after provision
for credit losses
Securities gains
Other operating income
Litigation settlement
Restructuring charges
Other operating expenses
Income before income taxes
Applicable income taxes
Net income
2002
First Quarter
70,523
$
32,481
38,042
2,917
Second Quarter
$
69,878
31,945
37,933
3,008
Third Quarter
68,784
$
30,457
38,327
3,103
Fourth Quarter
66,383
$
27,790
38,593
3,195
35,125
39
8,572
8,000
-0-
27,665
8,071
433
7,638
$
34,925
576
9,583
-0-
3,116
28,721
13,247
2,290
10,957
$
35,224
26
9,597
-0-
2,473
27,240
15,134
2,947
12,187
$
35,398
1
9,701
-0-
551
28,564
15,985
3,241
12,744
$
Basic earnings per share
Diluted earnings per share
Average shares outstanding
Average shares outstanding assuming dilution
0.13
$
$
0.13
58,142,359
58,484,806
0.19
$
$
0.19
58,359,322
58,851,264
0.21
$
$
0.21
58,521,562
58,862,215
0.22
$
$
0.22
58,608,857
58,765,383
41
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
SELECTED FINANCIAL DATA
(Dollar Amounts in Thousands, except per share data)
The following selected financial data is not covered by the auditor’s report and should be read in conjunction with
Management’s Discussion and Analysis of Financial Condition and Results of Operations, which follows, and with the
consolidated financial statements and related notes. Financial statement amounts for prior periods have been reclassified to
conform to the presentation format used in 2003. The reclassifications had no effect on the Corporation’s financial condition or
results of operations.
Interest income
Interest expense
Net interest income
Provision for credit losses
Net interest income after
provision for credit losses
Securities gains
Other operating income
Litigation settlement
Restructuring charges
Other operating expenses
Income before taxes
Applicable income taxes
Net income
Per Share Data
Net income
Dividends declared
Average shares outstanding
Per Share Data Assuming Dilution
Net income
Dividends declared
Average shares outstanding
At End of Period
Total assets
Investment securities
Loans and leases, net of
unearned income
Allowance for credit losses
Deposits
Company obligated mandatorily redeemable
capital securities of subsidiary trust
Subordinated debentures
Other long-term debt
Shareholders’ equity
Key Ratios
Return on average assets
Return on average equity
Net loans to deposits ratio
Dividends per share as a percent of
net income per share
Average equity to average assets ratio
$
$
$
$
$
$
$
2003
2002
2001
2000
Years Ended December 31,
243,773
100,241
143,532
12,770
130,762
5,851
42,593
(610)
-0-
113,265
66,551
13,251
53,300
$
$
275,568
122,673
152,895
12,223
140,672
642
37,453
8,000
6,140
112,190
52,437
8,911
43,526
$
$
308,891
167,170
141,721
11,495
130,226
3,329
37,776
-0-
-0-
105,888
65,443
15,254
50,189
$
$
311,882
174,539
137,343
10,030
127,313
1,745
31,938
-0-
-0-
99,461
61,535
14,289
47,246
1999
296,089
152,653
143,436
9,450
133,986
565
33,660
-0-
-0-
95,569
72,642
19,612
53,030
$
$
0.90
0.625
59,002,277
$
0.75
0.605
$
58,409,614
$
0.87
0.585
$
57,885,478
$
0.82
0.565
$
57,558,929
$
0.88
0.515
$
60,333,092
0.90
0.625
59,387,055
$
0.74
0.605
$
58,742,018
$
0.86
0.585
$
58,118,057
$
0.82
0.565
$
57,618,671
$
0.88
0.515
$
60,569,322
5,189,195
2,073,430
2,824,882
37,385
3,288,275
-0-
75,304
718,668
430,946
1.12%
12.95%
84.77%
69.44%
8.68%
$ 4,524,743
1,680,609
$ 4,583,530
1,762,408
$ 4,372,312
1,636,337
$ 4,340,846
1,592,389
2,608,634
34,496
3,044,124
35,000
-0-
544,934
401,390
0.96%
11.09%
84.56%
80.67%
8.64%
2,567,934
34,157
3,093,150
35,000
-0-
629,220
370,066
1.11%
13.85%
81.92%
67.24%
8.01%
2,490,827
33,601
3,064,146
2,500,059
33,539
2,948,829
35,000
-0-
621,855
334,156
1.10%
15.65%
80.19%
68.90%
7.00%
35,000
-0-
603,355
286,683
1.25%
15.44%
83.64%
58.52%
8.10%
42
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Introduction
This discussion and the related financial data are presented to
assist in the understanding and evaluation of the consolidated
financial condition and the results of operations of First
Commonwealth Financial Corporation including its subsidiar-
ies (the “Corporation”) for the years ended December 31, 2003,
2002 and 2001 and are intended to supplement, and should be
read in conjunction with, the consolidated financial statements
and related footnotes.
management reasonably could have used for the accounting
estimate in the current period or the changes in the accounting
estimates from period to period could have a material impact on
the Corporation’s financial condition or results of operations.
Accounting policies related to the allowance for credit losses are
considered to be critical because they are highly dependent on
subjective or complex judgments, assumptions and estimates
by management.
Sections of this financial review, as well as the notes to the
consolidated financial statements, contain 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 and may
contain the words “expect,” “estimate,” “project,” “anticipate,”
“should,” “intend,” “probability,” “risk,” “target,” “objective,”
and similar expressions or variations on such expressions.
These forward-looking statements are inherently subject to
significant risks and uncertainties, including but not limited to:
changes in general economic and financial market conditions,
the Corporation’s ability to effectively carry out its business
plans, changes in regulatory or legislative requirements,
changes in competitive conditions and continuing consolidation
of the financial services industry. Although management
believes the expectations reflected in such forward-looking
statements are reasonable, actual results could differ materially.
Readers are cautioned not to place undue reliance on these
forward-looking statements, which reflect management’s
analysis only as of the date hereof. The Corporation undertakes
no obligation to publicly revise or update these forward-
looking statements to reflect events or circumstances that arise
after the date hereof.
Effective December 5, 2003, the Corporation acquired all of the
outstanding shares of Pittsburgh Financial Corporation
(“PFC”). In addition, the Corporation acquired all of the
outstanding shares of Strategic Capital Concepts, Inc. (“SCC”)
and Strategic Financial Advisors, Inc. (“SFA”), effective
March 1, 2002. As required under the purchase method of
accounting, the results of PFC, SCC and SFA have been
included in the Corporation’s financial statements since their
respective acquisition dates. In October 2002, SFA was merged
into SCC and the name was changed to First Commonwealth
Financial Advisors, Inc.
Financial statement amounts in prior periods have been
reclassified to conform to the presentation format used in 2003.
The reclassifications had no effect on the Corporation’s
financial condition or results of operations.
Critical Accounting Policies and Significant Estimates
The Corporation considers accounting policies and estimates to
be critical to reported financial results if (1) the estimate
requires management to make assumptions about matters that
are highly uncertain and (2) the different estimates that
The allowance for credit losses is a reserve established through a
provision for credit losses charged to expense, which represents
management’s best estimate of probable losses that are inherent
in the existing loan portfolio as of the balance sheet date. The
allowance includes amounts calculated in accordance with
FASB Statement No. 114 “Accounting by Creditors for
Impairment of a Loan” as amended by FASB Statement No. 118,
and amounts determined in accordance with FASB Statement
No. 5 “Accounting for Contingencies.”
The Corporation’s methodology for assessing the
appropriateness of the allowance for credit losses consists of
several key elements including a specific allowance for primary
watch list classified loans, a formula allowance based on
historical trends and an allowance for special circumstances.
These key elements are described in detail in the “Statement
of Accounting Policies” in NOTE 1 to the “Consolidated
Financial Statements.” The Corporation also maintains an
unallocated allowance to cover any factors or conditions that
may cause a credit loss but are not specifically identifiable and to
account for imprecision. These factors include (1) delays
in obtaining information, including unfavorable information
about a borrower’s financial condition and (2) changes in the
composition of the loan portfolio that may reduce the correlation
between historical loss and delinquency statistics used to
establish allocation estimates and credit losses inherent to the
current portfolio.
Results of Operations
Net income was $53.3 million in 2003, an increase of $9.8
million from the 2002 results of $43.5 million. This compared to
$50.2 million that was registered in 2001.
The change in net income for the 2003 period reflected an
increase in security gains compared to the corresponding period
of 2002 and a gain on the sale of two branches in the 2003
period. In addition, the effects of restructuring costs and a
litigation settlement negatively impacted net income for 2002.
The restructuring charges consisted principally of severance
amounts paid to employees as part of the plan to consolidate the
multiple bank charters and develop the First Commonwealth
brand and identity for all of the financial services subsidiaries.
Payments to retiring directors as part of the realignment for the
Corporation’s new vision on corporate governance were also
included in restructuring charges. The litigation settlement
related to a lender liability action filed in 1994 against one of the
43
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Net Interest Income
Net interest income, the engine that powers revenue growth for
the Corporation, is defined as the difference between income
on earning assets and the cost of funds supporting those assets.
Net interest income declined to $143.5 million in 2003
compared to $152.9 million in 2002 and $141.7 million in
2001. Both interest income and interest expense declined
compared to 2002 levels primarily as a result of the dramatic
decrease in interest rates that began in 2001 and continued
through 2002 into 2003. During this unparalleled period of low
interest rates, the Corporation, as well as the financial services
industry in general, has been challenged by margin
compression, as the cost of funds has not declined in the same
magnitude or at the same pace as asset yields. The following is
an analysis of the average balance sheets and net interest
income for each of the three years in the period ended
December 31, 2003:
Corporation’s subsidiary banks and followed an adverse pre-
trial judgment by the trial judge on procedural grounds. A
partial recovery from insurance for the claim related to the
litigation settlement was received in 2003.
In addition to the restructuring and litigation expenses that
were incurred during 2002, the decrease in net income from
the 2001 period to the 2002 period included a decrease in
security gains.
Diluted earnings per share was $0.90 for 2003 compared to
$0.74 and $0.86 for 2002 and 2001, respectively. Return on
average assets was 1.12% and return on equity was 12.95%
during 2003 compared to 0.96% and 11.09%, respectively for
2002 and 1.11% and 13.85%, respectively for 2001.
The following is an analysis of the impact of changes in net
income on diluted earnings per share:
2003
vs.
2002
0.74
$
(0.18)
(0.01)
0.09
(0.01)
(0.01)
0.02
0.05
0.02
(0.04)
(0.01)
0.00
0.00
0.15
0.10
0.03
0.03
(0.07)
0.90
2002
vs.
2001
$ 0.86
0.16
(0.01)
(0.05)
0.01
0.00
0.00
(0.01)
(0.01)
(0.05)
(0.01)
0.02
0.02
(0.14)
(0.10)
(0.03)
(0.03)
0.11
$ 0.74
Net income per share, prior year
Increase (decrease) from changes in:
Net interest income
Provision for credit losses
Security transactions
Insurance commissions
Income from bank owned life insurance
Service charges on deposits
Sale of branches
Other income
Salaries and employee benefits
Occupancy and equipment costs
Outside data processing expense
Goodwill amortization
Litigation settlement
Restructuring charges
Rebranding costs
Other operating expenses
Applicable income taxes
Net income per share
$
44
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Average
Balance
2003
Income/ Yield or
Expense Rate(a)
Average Balance Sheets and Net Interest Analysis
(Dollar Amounts in Thousands)
2002
Average
Balance
Income/
Expense
Yield or
Rate(a)
Average
Balance
2001
Income/ Yield or
Expense Rate(a)
Assets
Interest-earning assets:
Time deposits with banks
Tax free investment securities
Taxable investment securities
Federal funds sold
Loans, net of unearned income (b)(c)
Total interest-earning assets
Noninterest-earning assets:
Cash
Allowance for credit losses
Other assets
Total noninterest-earning assets
Total Assets
Liabilities and Shareholders’ Equity
Interest-bearing liabilities:
Interest-bearing demand deposits (d)
Savings deposits (d)
Time deposits
Short-term borrowings
Long-term debt
Total interest-bearing liabilities
$
1,289
226,780
1,605,191
358
2,640,935
4,474,553
$
13
10,561
68,754
4
164,441
243,773
1.03% $
7.16
4.28
1.05
6.46
5.71
1,785
198,687
1,495,824
359
2,597,862
4,294,517
$
31
9,520
86,110
6
179,901
275,568
1.74% $
7.37
5.76
1.72
7.13
6.66
1,842
197,544
1,527,181
9,521
2,548,596
4,284,684
$
70
9,534
96,622
492
202,173
308,891
3.81%
7.42
6.33
5.17
8.11
7.43
66,614
(36,172)
233,040
263,482
$ 4,738,035
69,735
(34,813)
211,302
246,224
$ 4,540,741
72,806
(34,078)
198,051
236,779
$ 4,521,463
$ 457,327
792,755
1,524,974
554,133
594,383
3,923,572
$
1,699
7,028
51,373
6,755
33,386
100,241
0.37% $ 416,184
0.89
727,996
1,592,585
3.37
1.22
339,908
5.62
670,258
2.55
3,746,931
$
3,410
9,375
65,787
6,029
38,072
122,673
0.82% $ 388,495
1.29
684,298
1,728,056
4.13
300,173
1.77
5.68
663,063
3,764,085
3.27
$ 7,039
16,061
95,065
11,227
37,778
167,170
1.81%
2.35
5.50
3.74
5.70
4.44
Noninterest-bearing liabilities and capital:
Noninterest-bearing demand
deposits (d)
Other liabilities
Shareholders’ equity
Total noninterest-bearing
funding sources
Total Liabilities and
Shareholders’Equity
380,772
22,241
411,450
814,463
380,878
20,493
392,439
793,810
368,983
26,008
362,387
757,378
$ 4,738,035
$ 4,540,741
$ 4,521,463
Net Interest Income and Net Yield
on Interest-Earning Assets
$ 143,532
3.47%
$ 152,895
3.80%
$ 141,721
3.53%
(a) Yields on interest-earning assets have been computed on a tax equivalent basis using the 35% Federal income tax statutory rate.
(b) Income on nonaccrual loans is accounted for on the cash basis, and the loan balances are included in interest-earning assets.
(c) Loan income includes net loan fees.
(d) Average balances do not include reallocations from noninterest-bearing demand deposits and interest-bearing demand deposits
into savings deposits which were made for regulatory purposes.
Earning assets yields, on a tax-equivalent basis, declined 95
basis points (0.95%) during 2003 to 5.71% from 6.66%
registered in 2002, after decreasing from 7.43% in 2001. The
cost of funds for 2003 dropped 72 basis points (0.72%) below
2002 costs of 3.27%, after decreasing 117 basis points
(1.17%) from 2001 costs of 4.44%. Average earning assets
were $4,474.6 million and average interest-bearing liabilities
were $3,923.6 million for 2003, compared to $4,294.5 million
and $3,746.9 million, respectively in 2002. 2002 averages
were basically flat when compared to 2001 averages in
both components.
Interest and fees on loans declined $15.5 million for 2003 com-
pared to 2002 after declining $22.3 million for 2002 compared
to 2001 levels. The decreases are primarily the result of declin-
ing yields in a lower interest rate environment. Tax-equivalent
loan yields fell 67 basis points (0.67%) during 2003 to 6.46%
from 7.13% after a decline of 98 basis points (0.98%) during
2002 from the 2001 levels. Installment loan yields fell 92 basis
points (0.92%) and the yields on home equity lines of credit
declined 81 basis points (0.81%) compared to the prior year.
The increase in average loan volumes was not enough to
offset the reduced interest income caused by declining yields.
During 2003, the Corporation took advantage of the lower
interest rate cycle and continued to change the mix of the loan
portfolio. Average mortgage loans declined during 2003 as
consumers refinanced their loans at near record levels. The
Corporation continued to offer competitive mortgage loans
but generally sold them immediately after origination along
with the related servicing rights. The Corporation has recently
started to retain fixed rate mortgages with maturities of 15
45
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
years or less as well as adjustable rate mortgages. Average
commercial and municipal loans offset the decline in 1-4
family mortgage loans and grew $142.9 million, primarily in
shorter term and variable rate lending. In addition, 2003
included increases in average installment loans of $41.4
million over 2002 levels. The Corporation has continued to
capitalize on lending opportunities with small to mid-sized
commercial borrowers, including loans generated through its
preferred Small Business Administration (“SBA”) lender
status. The Corporation has consistently been one of the top
small business lenders in Pennsylvania.
Interest income on investments declined $16.3 million for
2003 compared to 2002 primarily due to interest rate
decreases. Interest rate decreases were also the primary cause
of the decline of $10.5 million in interest income on
investments in 2002 compared to 2001 levels. Yields on
investments for 2003 continued to decline, falling to 4.64%
compared to 5.95% for 2002 and 6.45% for 2001. As with the
loan category, the increase in average investment security
volumes was not enough to offset the reduced interest income
caused by declining yields. All categories of interest income
on investments were negatively impacted by interest rate
changes with the largest decline being registered in the U.S.
government agency category, declining $20.4 million due to
interest rates declining 162 basis points (1.62%) for 2003
compared to 2002. This decline was partially offset by an
increase of $10.4 million in interest income on U.S.
government agency securities as a result of average volume
increases from 2003 to 2002. Prepayment speeds of mortgage
backed securities (“MBS”) continued to accelerate in 2003 as
interest rates continued to decline. Interest rate changes have a
direct impact on prepayment speeds. As interest rates increase,
prepayments tend to decline and average lives of MBS
increase. As interest rates decrease, prepayment speeds tend to
increase and average lives of MBS decline, which accelerates
the amount of premium amortization that is realized, further
reducing the yields in current periods. Using computer
simulation modeling, the Corporation tests the average life and
yield volatility of all MBS under various interest rate scenarios
on a continuing basis to insure that volatility falls within
acceptable limits. The Corporation holds no “high risk”
securities nor does the Corporation own any securities of a
single issuer exceeding 10% of shareholders’ equity other than
U.S. government and agency securities.
Interest on deposits dropped $18.5 million for 2003 compared
to 2002 primarily as result of decreases due to interest rates of
$16.9 million. The Corporation also registered decreases in
interest expense of $1.6 million due to declines in average
volumes of deposits in 2003 compared to 2002. The rate on
savings deposits fell 40 basis points (0.40%) resulting in a
decrease to interest expense of $3.2 million for 2003
compared to 2002, while the rate on time deposits for 2003
also declined, down 76 basis points (0.76%), compared to
2002 resulting in a decrease to interest expense of $11.6
46
million. The deposit mix changed in 2003 as clients registered
a preference for savings products, which jumped $64.8
million or 8.9%, while time deposits dropped $67.6 million or
4.2% due to continued economic uncertainties. Average
interest-bearing demand deposit balances for 2003 also
advanced, up $41.1 million over 2002 balances. During its
management of deposit levels and mix, the Corporation
continues to evaluate the cost of time deposits compared to
alternative funding sources as it balances its goals of
providing clients with the competitive rates they are looking
for while also minimizing the Corporation’s cost of funds.
Interest expense on short-term borrowings rose $726
thousand during 2003 primarily as a result of volume
increases of $3.8 million which were partially offset by rate
decreases of $3.1 million. Average short-term borrowings
rose by $214.2 million for 2003 compared to 2002 while the
cost of short-term borrowings fell by 55 basis points (0.55%)
compared to the prior year. All categories of short-term
borrowing costs declined from year-to-year. The increase in
short-term borrowings is due in part to $100 million of long-
term debt that matured during the fourth quarter of 2002 and
was replaced with short-term borrowings. In addition, the
increase in short-term borrowings can be attributed to an
ALCO strategy implemented to mitigate the risk of further
declines in net interest income resulting from a low or
declining interest rate environment. The increase in short-
term borrowings funded the purchase of U.S. government
agency securities maturing in approximately 3.5 years.
Interest expense on long-term debt declined $4.7 million for
2003 compared to the 2002 period as decreases due to volume
of $4.3 million were further reduced by decreases due to rate
of $376 thousand. Average long-term debt for 2003 decreased
by $75.9 million compared to 2002. This was due in part to
the $100 million of long-term debt that matured during the
fourth quarter of 2002 that was replaced by short-term
borrowings. Long-term debt includes additional subordinated
debentures in the amount of $30.9 million, which were issued
during 2003, bearing an adjustable interest rate based upon
the three-month LIBOR and maturing in 30 years. The
proceeds will be used by the Corporation to partially fund the
pending acquisition of GA Financial, Inc. (“GAF”). Refer to
NOTE 17 for further discussion of subordinated debentures
that are included in long-term debt.
Net interest margin (net interest income, on a tax-equivalent
basis as a percentage of average earning assets) declined to
3.47% for 2003, a decrease of 33 basis points (0.33%)
compared to 2002. The year-to-year decrease in the margin was
due to asset yields declining more quickly than the cost of
funds as interest rates fell to historic lows. Continued pressure
on net interest income is anticipated by the Corporation, despite
active management of interest rate risk. The Corporation’s use
of computer simulation to manage interest rate risk is described
in the “Interest Sensitivity” section of this discussion.
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following table shows the effect of changes in volumes and rates on interest income and interest expense:
Analysis of Year-to-Year Changes in Net Interest Income
(Dollar Amounts in Thousands)
Total
Change
2003 Change from 2002
Change Due
to Volume
Change Due
to Rate
Total
Change
2002 Change from 2001
Change Due
to Volume
Change Due
to Rate
(18)
$
(16,315)
(2)
(15,460)
(31,795)
(18,472)
726
(4,686)
(22,432)
(9,363)
$
$
(9)
8,367
-0-
3,070
11,428
(1,622)
3,799
(4,310)
(2,133)
$ 13,561
(9)
$
(24,682)
(2)
(18,530)
(43,223)
(16,850)
(3,073)
(376)
(20,299)
$ (22,924)
(39)
$
(10,526)
(486)
(22,272)
(33,323)
(39,593)
(5,198)
294
(44,497)
$ 11,174
(2)
$
(1,950)
(473)
3,995
1,570
(5,925)
1,486
410
(4,029)
$ 5,599
(37)
$
(8,576)
(13)
(26,267)
(34,893)
(33,668)
(6,684)
(116)
(40,468)
$ 5,575
Interest-earning assets:
Time deposits with banks
Securities
Federal funds sold
Loans
Total interest income
Interest-bearing liabilities:
Deposits
Short-term borrowings
Long-term debt
Total interest expense
Net interest income
Changes in interest income or expense not arising solely as a result of volume or rate variances are allocated to rate variances due to interest sensitivity of
consolidated assets and liabilities.
Provision for Credit Losses
The provision for credit losses is an amount added to the
allowance against which credit losses are charged. The amount
of the provision is determined by management based upon its
assessment of the size and quality of the loan portfolio and the
adequacy of the allowance in relation to the risks inherent
within the loan portfolio. The provision for credit losses was
$12.8 million in 2003 compared to $12.2 million in 2002 and
$11.5 million in 2001. The allowance for credit losses was
$37.4 million at December 31, 2003, which represents a ratio
of 1.42% of average loans outstanding, slightly up from the
1.33% reported at December 31, 2002.
Net charge-offs for 2003 rose $1.1 million over 2002 levels.
The most significant components of this year-to-year change
were increases in net charge-offs in the following categories:
commercial loans not secured by real estate (up $579
thousand), loans secured by 1-4 family real estate (up $1.1
million) and construction loans (up $381 thousand). These
increases in net charge-offs were partially offset by decreases
in commercial real estate loans of $204 thousand, loans to
individuals of $683 thousand and lease financing receivables of
$103 thousand. Net charge-offs as a percent of average loans
outstanding at December 31, 2003 were 0.49% compared to
0.46% and 0.43% at December 31, 2002 and 2001, respec-
tively. For an analysis of credit quality, see the “Credit Review”
section of this discussion.
The following table presents an analysis of the consolidated
allowance for credit losses for the five years ended
December 31, 2003:
47
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Summary of Loan Loss Experience
(Dollar Amounts in Thousands)
Loans outstanding at end of year
$ 2,824,882
$ 2,608,634
$ 2,567,934
$ 2,490,827
$ 2,500,059
Average loans outstanding
$ 2,640,935
$ 2,597,862
$ 2,548,596
$ 2,503,036
$ 2,408,450
2003
2002
2001
2000
1999
Allowance for credit losses:
Balance, beginning of year
Addition as a result of acquisition
Loans charged off:
Commercial, financial and agricultural
Loans to individuals
Real estate-construction
Real estate-commercial
Real estate-residential
Lease financing receivables
Total loans charged off
Recoveries of loans previously charged off:
Commercial, financial and agricultural
Loans to individuals
Real estate-construction
Real estate-commercial
Real estate-residential
Lease financing receivables
Total recoveries
Net loans charged off
Provision charged to expense
$
34,496
3,109
6,424
3,288
384
1,111
3,172
316
14,695
1,047
641
-0-
-0-
17
-0-
1,705
12,990
12,770
$
34,157
-0-
$
33,601
-0-
$
33,539
-0-
$
32,304
-0-
6,085
4,040
3
1,315
2,065
424
13,932
1,287
710
-0-
-0-
46
5
2,048
11,884
12,223
3,297
4,199
-0-
2,300
1,818
606
12,220
456
757
-0-
-0-
49
19
1,281
10,939
11,495
4,335
5,521
-0-
130
874
407
11,267
406
826
-0-
-0-
42
25
1,299
9,968
10,030
1,821
6,126
-0-
427
1,035
187
9,596
290
1,057
-0-
-0-
33
1
1,381
8,215
9,450
Balance, end of year
$
37,385
$
34,496
$
34,157
$
33,601
$
33,539
Ratios:
Net charge-offs as a percentage of
average loans outstanding
Allowance for credit losses as a percentage of
average loans outstanding
0.49%
1.42%
0.46%
1.33%
0.43%
1.34%
0.40%
1.34%
0.34%
1.39%
Noninterest Income
Net securities gains increased $5.2 million during 2003 to $5.9
million from the $642 thousand reported in 2002 and compared
to $3.3 million in 2001. The securities gains during the 2003
period resulted primarily from the sales of Pennsylvania bank
stocks with book values of $7.6 million and fixed rate corporate
bonds classified as securities “available for sale” with book
values of $35 million. The corporate bonds sold during 2003
had an average remaining life of one year, and the proceeds
were reinvested in adjustable rate trust preferred securities with
maturities of 30 years and mortgage backed securities with an
average life of 3.6 years. This reinvestment strategy was
initiated to partially mitigate the Corporation’s exposure to low
and declining interest rates. The securities gains during 2002
resulted primarily from the sales of Pennsylvania bank stocks,
U.S. Treasury securities and fixed rate corporate bonds
classified as securities “available for sale” with book values of
$1.1 million, $1.5 million and $3.0 million, respectively. The
securities gains during 2001 resulted primarily from the sales
of fixed rate corporate bonds classified as “available for sale”
and Pennsylvania bank stocks with book values of $37.4
million and $12.7 million, respectively.
Trust income of $5.1 million for 2003 was relatively flat
compared to 2002 and 2001 where the reported amount was
$5.0 million for both years. Although fee revenue continues to
be negatively impacted due to low market values, the market
value of the assets managed has started to rebound during the
fourth quarter of 2003. The enhanced referral programs and
integrated growth plans for financial affiliates continue to
help offset this trend. The Corporation’s continued success in
building relationships with commercial clients provides fee
based affiliates with additional sales opportunities through
the Total Solutions Financial Management (“TSFM”) process.
This strategy combines products, services and professional
staff from the Corporation’s trust, insurance, financial
advisory and banking affiliates and partners them in providing
comprehensive financial services offerings.
Service charges on deposits are the most significant component
of noninterest income and increased $1.5 million for 2003
compared to 2002. Increases in nonsufficient funds fees
(“NSF”) of $2.1 million helped to pace the year-to-year rise.
NSF charges were partially offset by decreases in account
maintenance fees on deposit accounts of $424 thousand
compared to 2002 levels. Standardization of service fee
48
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
routines accomplished during conversion of the Corporation’s
deposit system during 2001 and added emphasis on collection
of fees had positive effects on fee revenue for 2003 and 2002.
Management strives to implement reasonable fees for services
and closely monitors collection of those fees.
The 2003 period included a $3.0 million gain which occurred
when First Commonwealth Bank, a wholly-owned subsidiary
of the registrant, sold two of its branch offices. The sale
included $29.2 million in deposit liabilities and $4.4 million in
loans associated with the two offices. The 2001 period included
a $777 thousand gain on the sale of one branch. The sale
included $10.4 million in deposit liabilities.
Insurance commissions decreased $326 thousand for 2003 after
increasing $439 thousand for 2002 from 2001 commissions of
$3.2 million. Decreases in 2003 were primarily due to decreases
in annuity commissions. Insurance commissions for 2002
included increases in personal lines, annuities and employee
benefit plans compared to 2001. As part of the previously
discussed TSFM process, the Corporation’s insurance
subsidiary will continue to have expanded opportunities to
meet the insurance needs of commercial clients. In addition, the
Corporation has developed “FOCUS”, a financial planning tool
designed to help clients prioritize and assess their financial
needs. The “FOCUS” concept results in a systematic approach
covering a wide range of personal financial goals including
appropriate insurance coverage. This category should also be
favorably impacted by the integration of First Commonwealth
Financial Advisors into these advisory models.
Income from bank owned life insurance was $4.3 million
for 2003 compared to $4.7 million for 2002 and compared
to $4.6 million for 2001. The 2002 period included an
additional investment in bank owned life insurance of $5.0
million and the 2001 period included an additional investment
of $15.0 million.
Other income for 2003 was $10.2 million, representing a $1.2
million increase compared to 2002, which followed a $596
thousand decrease from the $9.6 million achieved in 2001. The
increase in other income for 2003 over 2002 levels includes
increases in STAR interchange fees and income from the
increase in cash surrender value of split dollar life insurance of
$629 thousand and $248 thousand, respectively. Other income
for 2002 included an increase in interchange income of $164
thousand. The 2001 period included a gain related to the sale of
a block of 30 year mortgages as well as a gain from the
termination of a subsidiary’s defined benefit pension plan.
Noninterest Expense
Total other expenses for 2003 decreased $13.6 million to
$112.7 million compared to $126.3 million in 2002. The 2002
amount represented an increase of $20.4 million compared to
$105.9 million reported in 2001. The decrease in other
expenses for 2003 and the increase in other expenses for 2002
were primarily the result of nonrecurring charges that were
incurred during 2002 for the previously described litigation
settlement and corporate restructuring of $8.0 million and $6.1
million, respectively. These restructuring charges resulted from
the merger of the Corporation’s banking subsidiaries,
Southwest Bank and First Commonwealth Bank, which
occurred in October 2002. Because of this merger, there was a
consolidation of support functions with some staff positions
being eliminated. The personnel within the branches and
relationship managers in corporate services continued to serve
in the same capacity in order to ensure a smooth transition.
Also, related to the merger, the structures of all of the Boards of
Directors and Board committees for the Corporation were
realigned. As a result of these activities, restructuring charges
of $6.1 million are reported on the income statement for the
2002 period. Ongoing savings from the restructuring were
reflected in the 2003 period. Other charges incurred during
2002 as a part of the restructuring, related principally to writing
off obsolete signs and supplies due to the name change under
one charter and amounted to $420 thousand. Also impacting
other operating expense for the period were $1.8 million of
costs incurred principally in the fourth quarter of 2002
associated with development of the First Commonwealth
brand. Total noninterest expense as a percent of average assets
was 2.38% for 2003 compared to 2.76% for 2002 and 2.32%
for 2001.
Employee costs were $61.1 million in 2003, representing
1.29% of average assets compared to $58.1 million and 1.28%
of average assets for 2002. Employee costs for 2001 were
$54.5 million and 1.21% of average assets. Salary costs for the
2003 period increased $1.6 million compared to 2002, while
salary costs for the 2002 period increased $2.2 million
compared to 2001 levels. Employee benefit costs rose $1.4
million for 2003 compared to 2002 and also rose $1.4 million
for 2002 compared to 2001. Hospitalization costs continue to
reflect the largest increases in employee benefit costs with
increases of $1.1 million or 23.1% in 2003 and $943 thousand
or 24.7% in 2002. The Corporation strives to provide quality
employee benefits while effectively managing costs.
Net occupancy expense increased $706 thousand during 2003
compared to expenses of $6.8 million during 2002 and $6.5
million for 2001. The 2003 period included increases in
building repairs and maintenance, net rental expense and
utilities compared to 2002 costs. Much of these increases were
due to increased utility costs and snow removal expenses
resulting from the harsh winter. The 2003 period also included
an increase in the amortization of the purchase accounting
adjustments related to premises of $328 thousand over the 2002
period. An adjustment of $291 thousand was taken during the
2003 period for the write-off of the remaining purchase
accounting adjustment for three branch offices that were closed
during 2003. These branch offices were closed and their clients
are served at nearby existing branch offices. The Corporation
continues to actively evaluate its branch delivery network to
optimize client service in existing branch offices and to
49
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
continue expansion into growth markets. The execution of
these initiatives may continue to impact occupancy and other
expenses in future periods. Increases in building insurance,
building rental costs and building repairs and maintenance in
2002 were only partially offset by declines in most other
building expense categories.
vehicles previously leased) in the amounts of $1.4 million,
$637 thousand, $428 thousand, $420 thousand and $402
thousand, respectively, compared to 2002 costs. Directors’ fees
for the 2003 period reflected decreases of $349 thousand
resulting from the restructuring of the Corporation’s Boards of
Directors and committees during 2002.
Furniture and equipment expenses increased $126 thousand to
$10.1 million in 2003. Increases were largely due to continued
increases in depreciation expense. Furniture and equipment
expenses of $10.0 million for 2002 reflected increases of $920
thousand over 2001 levels resulting primarily from increases in
depreciation on computer software and software maintenance
offset in part by reduced equipment lease expense. The 2002
period was also impacted by a full year of depreciation as well
as maintenance charges on systems that were placed in service
during the later part of 2001. The systems were replacements of
software that is utilized by the Corporation’s data processing
subsidiary to process loan and deposit accounts. The new
application software has enabled the Corporation’s banking
subsidiary to provide enhanced products and services,
including internet banking. Technology advances continue to
drive the ability of financial services companies to provide
expanded services through traditional channels as well as
nontraditional and emerging delivery systems to meet the
changing needs of our clients.
Outside data processing expense increased $396 thousand
for the 2003 period to $2.5 million compared to $2.1 million
for the 2002 period and $3.3 million for 2001. This
category was positively impacted in 2002 by the conversion
of Southwest Bank from outsourced processing to that
provided by a subsidiary of the Corporation. This category
will be unfavorably impacted by the acquisition of PFC until
the systems, which are processed through an outsourced
processing vendor, are converted to the systems that are
provided by a subsidiary of the Corporation. These
conversions are scheduled to be completed by the end of the
second quarter of 2004. Outside data processing costs are
managed by the Corporation’s data processing subsidiary.
Its needs are evaluated based on technology, efficiency and
cost considerations.
Other operating expenses decreased $3.4 million to $27.7
million for 2003. Other operating expenses for 2002 increased
$2.9 million compared to $28.2 million for 2001. The 2003
period included decreases in other professional fees and
services, advertising, expenses related to training and seminars,
telephone and loss on the sale of other assets (primarily
The 2002 period includes increased losses on sale of assets of
$472 thousand, due primarily to the loss on sale of vehicles
previously leased, compared to 2001. Other professional fees in
2002 rose by $822 thousand over 2001 and included consulting
fees related to implementation of the Corporation’s “Balanced
Scorecard” performance measurement system, enhancements
to product and customer profitability systems, corporate
restructuring and common branding and identity. Consultants
were also utilized to assist in the ongoing efforts to develop a
world class sales culture and to generate new deposit dollars
and relationships. Corporate restructuring and movement
toward a sales culture also impacted the decision to have
employee benefit plans reviewed by outside specialists during
2002. Advertising and promotion expenses rose a combined
$2.3 million for the 2002 period due partially to expenditures
related to the $1.8 million launch of the new corporate brand
and identity. This exciting campaign was designed to educate
and build enthusiasm among current as well as potential clients
and the communities we serve. Also impacting these categories
were expenses incurred in the successful marketing campaign
for free checking products introduced during 2002. These
products are expected to have a favorable impact on deposit
growth, interest expense and service charge revenue in future
periods as well as providing potential add-on sales of other
financial products and services.
Income tax expense was $13.3 million during 2003
representing an increase of $4.4 million above the 2002
amount of $8.9 and compared to $15.3 million in 2001. The
Corporation’s effective tax rate was 19.9% for 2003
compared to 17.0% for 2002 and 23.3% for 2001. Although
the 2003 effective tax rate was an increase over the 2002 rate,
it was still favorable to the statutory tax rate and the 2001
effective rate. The Corporation’s 2003 effective tax rate
continues to be favorably impacted by tax-free municipal
income. Pretax income in the 2002 period was reduced by the
$8.0 million litigation settlement as well as the $6.1 million
restructuring charges. The decline in pretax income from the
2001 period allowed the effect of nontaxable income to have
a greater impact on the effective tax rate in 2002 than in 2001.
50
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Aggregate Contractual Obligations and Off-Balance Sheet Arrangements
The following table summarizes the Corporation’s contractual obligations to make future payments as of December 31, 2003.
Payments for borrowings do not include interest. Payments related to operating leases are based on actual payments specified in the
underlying contracts.
(Dollar Amounts In Thousands)
Federal Home Loan Bank advances
Repurchase agreements
Subordinated debentures
ESOP loan
Operating leases
Total contractual obligations
Footnote
Reference
18
18
17
18
14
1 Year
or Less
$ 22,152
-0-
8,292
1,477
2,093
$ 34,014
After 1 But
Within 3 Years
After 3 But
Within 5 Years
After 5 Years
Total
$ 21,392
-0-
-0-
1,136
3,856
$ 26,384
$ 458,886
20,000
-0-
-0-
3,146
$ 482,032
$ 175,658
-0-
67,012
-0-
5,584
$ 248,254
$ 678,088
20,000
75,304
2,613
14,679
$ 790,684
The preceding table excludes unamortized premiums and
discounts on Federal Home Loan Bank advances because these
premiums and discounts do not represent future cash obligations.
The preceding table also excludes the Corporation’s cash
obligations upon maturity of certificates of deposit whose
maturities are described in NOTE 15 to the “Consolidated
Financial Statements.” Subordinated debentures in the amount of
$8,292 thousand previously issued by PFC and due in 2028 were
called and subsequently paid in full in January 2004 and are
included as due within 1 year above.
The following table summarizes the Corporation’s off-balance
sheet commitments as of December 31, 2003. Commitments to
extend credit and standby letters of credit are presented at
contractual amounts; however, since many of these commitments
are expected to expire unused or only partially used, the total
amounts of these commitments do not necessarily reflect future
cash requirements.
(Dollar Amounts In Thousands)
Commitments to extend credit
Standby letters of credit
Total lending-related commitments
Footnote
Reference
13
13
Amount
$ 620,403
28,836
$ 649,239
Commitments to extend credit include unfunded loan
commitments as well as the undrawn portions of revolving and
closed-end lines of credit as of December 31, 2003. The
contractual provisions of these commitments normally include
fixed expiration dates or termination clauses, specific interest
rates and clauses indicating that funding is contingent upon
borrowers maintaining stated credit standards at the time of
loan funding.
Standby letters of credit are written conditional commitments
issued by the Corporation to guarantee the performance of a
client to a third party. In the event the client does not perform in
accordance with the terms of the agreement with the third party,
the Corporation would be required to fund the commitment. The
maximum potential amount of future payments the Corporation
could be required to make is represented by the contractual
amount of the commitment. If the commitment is funded, the
Corporation would be entitled to seek repayment from the
client. The Corporation’s policies generally require that
standby letter of credit arrangements contain security and debt
convenants similar to those contained in loan agreements.
Liquidity
Liquidity is a measure of the Corporation’s ability to efficiently
meet normal cash flow requirements of both borrowers and
depositors. In the ordinary course of business, funds are
generated from deposits (primary source) and the maturity or
repayment of earning assets, such as securities and loans. As an
additional secondary source, short-term liquidity needs may be
provided through the use of overnight Federal funds purchased,
borrowings through the use of lines available for repurchase
agreements and borrowings from the Federal Reserve Bank.
Additionally, the Corporation’s banking subsidiary is a member
of the Federal Home Loan Bank and may borrow under
overnight and term borrowing arrangements. The sale of
earning assets may also provide an additional source of
liquidity. In addition to the previously described funding
sources, the Corporation also has the ability to access the
capital markets.
Liquidity risk stems from the possibility that the Corporation
may not be able to meet current or future financial obligations,
or the Corporation may become overly reliant on alternative
funding sources. The Corporation maintains a liquidity risk
management policy to manage this risk. This policy identifies
the primary sources of liquidity, establishes procedures for
monitoring and measuring liquidity and quantifies minimum
liquidity requirements based on board approved limits. The
policy also includes a liquidity contingency plan to address
funding needs to maintain liquidity under a variety of business
conditions. The Corporation’s liquidity position is monitored
by the Asset/Liability Management Committee (“ALCO”).
The Corporation’s long-term liquidity source is a large core
deposit base and a strong capital position. Core deposits are the
most stable source of liquidity a bank can have due to the long-
term relationship with a deposit customer. Deposits increased
$244.2 million in 2003 and included increases in savings and
51
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
noninterest-bearing demand deposits, which were partially
offset by decreases in time deposits. Noncore deposits, which
are time deposits in denominations of $100 thousand or more,
represented 12.1% of total deposits at December 31, 2003.
Noncore deposits decreased by $91.0 million in 2003 and $7.6
million in 2002 due in part to changes in public funds balances.
Although the Corporation’s primary source of funds remains
traditional deposits from within the communities served by its
banking subsidiary, future sources of deposits utilized could
include the use of brokered time deposits offered outside the
Corporation’s traditional market area. Time deposits of $100
thousand or more at December 31, 2003, 2002 and 2001 had
remaining maturities as follows:
Maturity Distribution of Large Certificates of Deposit
(Dollar Amounts in Thousands)
2003
2002
2001
Amount
Percent
Amount
Percent
Amount
Percent
Remaining Maturity:
3 months or less
Over 3 months through 6 months
Over 6 months through 12 months
Over 12 months
Total
$ 77,603
50,132
69,239
201,742
$ 398,716
19%
13
17
51
100%
$ 97,862
54,758
114,596
222,486
$ 489,702
20%
11
24
45
100%
$ 133,017
57,222
89,436
217,643
$ 497,318
27%
11
18
44
100%
Loans, net of unearned income and the allowance for credit
losses, increased $213.4 million during 2003 as increases were
noted in all categories with the exception of leases. Most
notable were increases in commercial loans secured by real
estate of $108.6 million and increases in residential loans
secured by real estate of $82.1 million compared to year-end
2002. Net loans in the amount of $245.8 million were acquired
with the BankPittsburgh acquisition.
Below is a schedule of loans by classification for the five years
ended December 31, 2003:
Loans by Classification
(Dollar Amounts in Thousands)
2003
Amount Percent
2002
2001
2000
1999
Amount
Percent
Amount
Percent
Amount
Percent
Amount
Percent
Commercial, financial,
agricultural and other $ 655,740
27,063
Real estate-construction
771,861
Real estate-commercial
821,159
Real estate-residential
521,481
Loans to individuals
28,033
Net leases
23%
1
27
29
19
1
$ 633,955
20,998
663,220
739,018
505,139
47,110
24%
1
26
28
19
2
$ 529,300
14,727
638,576
849,787
473,515
63,326
21%
1
25
33
18
2
$ 443,618
37,146
560,066
932,915
450,154
68,975
18%
2
22
37
18
3
$ 417,300
41,734
495,789
980,506
502,465
65,893
16%
2
20
39
20
3
Gross loans and leases
Unearned income
Total loans, and
leases net of
unearned income
2,825,337
(455)
100%
2,609,440
(806)
100%
2,569,231
(1,297)
100%
2,492,874
(2,047)
100%
2,503,687
(3,628)
100%
$ 2,824,882
$ 2,608,634
$ 2,567,934
$ 2,490,827
$ 2,500,059
Based upon the Corporation’s historical ability to fund liquidity
needs from other sources, the current available for sale
portfolio is deemed more than adequate, as the Corporation
does not anticipate a need to liquidate the investments until
maturity. A schedule of the contractual maturity distribution of
securities held to maturity and securities available for sale at
December 31, 2003, follows:
An additional source of liquidity is marketable securities that
the Corporation holds in its investment portfolio. These
securities are classified as “securities available for sale.”
While the Corporation does not have specific intentions to sell
these securities, they have been designated as “available for
sale” because they may be sold for the purpose of obtaining
future liquidity, for management of interest rate risk or as part
of the implementation of tax management strategies. As of
December 31, 2003, securities available for sale had an
amortized cost of $1,946 million and an approximate fair value
of $1,969 million. Gross unrealized gains were $32.9 million
and gross unrealized losses were $9.6 million.
52
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Maturity Distribution of Securities Held to Maturity
(Dollar Amounts in Thousands)
U.S. Government
Agencies and
Corporations
$ 10,003
2,686
5,165
289
$ 18,143
States and
Political
Subdivisions
$ 4,035
13,329
29,362
29,990
$ 76,716
Other
Securities
$ 8,990
405
-0-
-0-
$ 9,395
Total
Amortized
Cost
$ 23,028
16,420
34,527
30,279
$ 104,254
Weighted
Average
Yield*
6.78%
7.04
7.32
7.06
7.08
Maturity Distribution of Securities Available for Sale At Amortized Cost
(Dollar Amounts in Thousands)
U.S. Treasury,
and other
U.S. Government
Agencies and
Corporations
$
31,317
280,450
405,627
769,497
$ 1,486,891
States and
Political
Subdivisions
$
1,468
7,010
12,114
136,198
$ 156,790
Other
Securities
$ 21,055
41,052
-0-
240,067
$ 302,174
Total
Amortized
Cost
Weighted
Average
Yield*
$
53,840
328,512
417,741
1,145,762
$ 1,945,855
3.81%
2.84
3.80
4.65
4.14
Within 1 year
After 1 but within 5 years
After 5 but within 10 years
After 10 years
Total
Within 1 year
After 1 but within 5 years
After 5 but within 10 years
After 10 years
Total
* Yields are calculated on a tax-equivalent basis.
Interest Sensitivity
Market risk is the risk of loss arising from adverse changes in
the fair value of financial instruments due to changes in
interest rates, currency exchange rates or equity prices. The
Corporation’s market risk is composed primarily of interest
rate risk. Interest rate risk results principally from timing
differences in the repricing of assets and liabilities, changes in
the relationship of rate indices and the potential exercise of
freestanding or embedded options.
The objective of interest rate sensitivity management is to
maintain an appropriate balance between the stable growth of
income and the risks associated with maximizing income
through interest sensitivity imbalances. While no single number
can accurately describe the impact of changes in interest rates
on net interest income, interest rate sensitivity positions, or
“gaps,” when measured over a variety of time periods, can
be informative.
An asset or liability is considered to be interest-sensitive if the
rate it yields or bears is subject to change within a
predetermined time period. If interest-sensitive assets (“ISA”)
exceed interest-sensitive liabilities (“ISL”) during a prescribed
time period, a positive gap results. Conversely, when ISL
exceeds ISA during a time period, a negative gap results.
The cumulative gap at the 365-day repricing period was
negative in the amount of $809 million or 15.59% of total
assets at December 31, 2003. A positive gap tends to indicate
that earnings will be impacted favorably if interest rates rise
during the period and negatively when interest rates fall during
the time period. A negative gap tends to indicate that earnings
will be affected inversely to interest rate changes. In other
words, as interest rates fall, a negative gap should tend to
produce a positive effect on earnings and when interest rates
rise, a negative gap should tend to affect earnings negatively.
The primary components of ISA include adjustable rate
loans and investments, loan repayments, investment
maturities and money market investments. The primary
components of ISL include maturing certificates of deposit,
money market deposits, savings deposits, NOW accounts
and short-term borrowings.
The following table lists the amounts and ratios of assets and
liabilities with rates or yields subject to change within the
periods indicated as of December 31, 2003 and 2002:
53
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Loans
Investments
Other interest-earning assets
Total interest-sensitive assets
Certificates of deposit
Other deposits
Borrowings
Total interest-sensitive liabilities
Gap
ISA/ISL
Gap/Total assets
Loans
Investments
Other interest-earning assets
Total interest-sensitive assets
Certificates of deposit
Other deposits
Borrowings
Total interest-sensitive liabilities
Gap
ISA/ISL
Gap/Total assets
0-90 Days
$ 1,057,021
241,163
5,362
1,303,546
325,957
1,413,069
634,878
2,373,904
$ (1,070,358)
(Dollar Amounts in Thousands)
2003
91-180 Days
181-365 Days
$ 178,006
116,979
-0-
294,985
242,706
-0-
1,407
244,113
$ 50,872
$ 291,352
189,610
-0-
480,962
249,361
-0-
21,290
270,651
$ 210,311
0.55
20.63%
1.21
0.98%
1.78
4.05%
0-90 Days
$ 962,398
292,206
1,973
1,256,577
354,625
1,172,538
469,735
1,996,898
$ (740,321)
0.63
16.36%
2002
91-180 Days
181-365 Days
$ 157,172
162,578
-0-
319,750
170,687
-0-
905
171,592
$ 148,158
1.86
3.27%
$ 295,273
262,287
-0-
557,560
263,882
-0-
1,483
265,365
$ 292,195
2.10
6.46%
Cumulative
0-365 Days
$ 1,526,379
547,752
5,362
2,079,493
818,024
1,413,069
657,575
2,888,668
$ (809,175)
0.72
15.59%
Cumulative
0-365 Days
$ 1,414,843
717,071
1,973
2,133,887
789,194
1,172,538
472,123
2,433,855
$ (299,968)
0.88
6.63%
Although the periodic gap analysis provides management with
a method of measuring current interest rate risk, it only
measures rate sensitivity at a specific point in time, and as a
result may not accurately predict the impact of changes in
general levels of interest rates or net interest income. This is
exemplified as the gap analysis shows the Corporation’s
earnings to be negatively impacted by rising rates, but
computer modeling indicates that rising rates would have a
favorable impact on earnings. Therefore, to more precisely
measure the impact of interest rate changes on the
Corporation’s net interest income, management simulates the
potential effects of changing interest rates through computer
modeling. The income simulation model used by the
Corporation captures all assets, liabilities, and off-balance sheet
financial instruments, accounting for significant variables that
are believed to be affected by interest rates. These variables
include prepayment speeds on mortgage loans and mortgage
backed securities, cash flows from loans, deposits and
investments and balance sheet growth assumptions. The model
also captures embedded options, such as interest rate caps/
floors or call options, and accounts for changes in rate
relationships as various rate indices lead or lag changes in
market rates. The Corporation is then better able to implement
strategies which would include an acceleration of a deposit rate
54
reduction or lag in a deposit rate increase. The repricing
strategies for loans would be inversely related.
The Corporation’s asset/liability management policy guidelines
limit interest rate risk exposure for the succeeding twelve-
month period. Simulations are prepared under the base case
where interest rates remain flat, and most likely case where
interest rates are defined using projections of economic factors.
Additional simulations are produced estimating the impact on
net interest income of a 200 basis point (2.00%) movement
upward or downward which cannot result in more than a 5.0%
decline in net interest income when compared to the base case.
The analysis at December 31, 2003, indicated that a 200 basis
point (2.00%) increase in interest rates would increase net
interest income by 56 basis points (0.56%) above the base case
scenario and a 200 basis point (2.00%) decrease in interest
rates would decrease net interest income by 671 basis points
(6.71%) below the base case scenario over the next twelve
months. While the 200 basis points (2.00%) declining rate
scenario currently exceeds the -5.00% policy limit by 171 basis
points (1.71%), it is recognized by the Corporation that this
declining rate scenario is unrealistic in the current rate
environment with the Federal funds rate at only 1.00%.
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Corporation’s “Asset/Liability Management Committee”
(“ALCO”) is responsible for the identification, assessment and
management of interest rate risk exposure, liquidity, capital
adequacy and investment portfolio position. The primary
objective of the ALCO process is to ensure that the
Corporation’s balance sheet structure maintains prudent levels
of risk within the context of currently known and forecasted
economic conditions and to establish strategies which provide
the Corporation with appropriate compensation for the
assumption of those risks. The ALCO attempts to mitigate
interest rate risk through the use of strategies such as asset
sales, asset and liability pricing and matched maturity funding.
The ALCO strategies are established by the Corporation’s
senior management.
The Corporation entered into an interest rate swap transaction
during the third quarter of 2003. The swap has a three-year
maturity and involves hedging adjustable LIBOR based
commercial loans with a receive-fixed and pay-floating interest
rate swap of $25 million notional amount. The purpose of the
swap was to reduce the Corporation’s exposure to further
declines in interest rates. The ALCO continues to evaluate the
use of additional derivative instruments to protect against the
risk of adverse price or interest rate movements on the values
of certain assets and liabilities.
Another strategy aimed at reducing the Corporation’s exposure
to falling interest rates was implemented during 2003. U.S.
government agency securities maturing in approximately 3.5
years were purchased with short-term borrowings. The amount
of this transaction averaged approximately $138 million for
the year.
Final loan maturities and rate sensitivities of the loan portfolio
excluding consumer installment and mortgage loans and before
unearned income at December 31, 2003, were as follows
(Dollar Amounts in Thousands):
Commercial and industrial
Financial institutions
Real estate-construction
Real estate-commercial
Other
Totals
Loans at fixed interest rate
Loans at variable interest rates
Totals
Credit Review
Within One Year
One to 5 Years
After 5 Years
$ 207,848
0
8,486
76,495
31,105
$ 323,934
$ 110,732
115
739
144,509
15,264
$ 271,359
98,360
172,999
$ 271,359
$ 85,942
300
17,838
550,857
204,434
$ 859,371
245,636
613,735
$ 859,371
Total
$ 404,522
415
27,063
771,861
250,803
$ 1,454,664
Maintaining a high quality loan portfolio is of great importance
to the Corporation. The Corporation manages the risk
characteristics of the loan portfolio through the use of prudent
lending policies and procedures and monitors risk through a
periodic review process provided by internal auditors,
regulatory authorities and our loan review staff. These reviews
include the analysis of credit quality, diversification of industry,
compliance to policies and procedures and an analysis of
current economic conditions.
In the management of its credit portfolio, the Corporation
emphasizes the importance of the collectibility of loans and
leases as well as asset and earnings diversification. The
Corporation immediately recognizes as a loss all credits judged
to be uncollectible and has established an allowance for credit
losses that may exist in the portfolio at a point in time, but have
not been specifically identified.
The Corporation’s written lending policy requires certain
underwriting standards to be met prior to funding any loan,
including requirements for credit analysis, collateral value
coverage and documentation. The principal factor used to
determine potential borrowers’ credit worthiness is business
cash flows or consumer income available to service debt
payments. Secondary sources of repayment, including
collateral and guarantees, are frequently obtained.
The lending policy provides limits for individual and bank
committee lending authorities. In addition to the bank loan
approval process, requests for borrowing relationships which
will exceed one million dollars must also be approved by the
Corporation’s Credit Committee. This Committee consists of a
minimum of three members of the Corporation’s Board of
Directors. The Corporation has an additional level of approval
for credit relationships between $500 thousand and $1.0
million. This procedure requires approval of those credits by a
committee consisting of senior lenders of the Corporation.
Commercial and industrial loans are generally granted to small
and middle market customers for working capital, operations,
expansion or asset acquisition purposes. Operating cash flows
of the business enterprise are identified as the principal source
of repayment, with business assets held as collateral. Collateral
margins and loan terms are based upon the purpose and
structure of the transaction as set forth in loan policy.
Commercial real estate loans are granted for the acquisition or
improvement of real property. Generally, commercial real
estate loans do not exceed 75% of the appraised value of
property pledged to secure the transaction. Repayment of such
55
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
loans is expected from the operations of the subject real estate
and is carefully analyzed prior to approval.
Real estate construction loans are granted for the purposes of
constructing improvements to real property, both commercial
and residential. On-site inspections are conducted by qualified
individuals prior to periodic permanent project financing,
which is generally committed prior to the commencement of
construction financing.
Real estate loans secured by 1-4 family residential housing
properties are granted subject to statutory limits in effect for
the bank regarding the maximum percentage of appraised
value of the mortgaged property. Residential loan terms are
normally established in compliance with secondary market
requirements. Residential mortgage portfolio interest rate risk
is controlled by secondary market sales, variable interest rate
loans and balloon maturities.
Loans to individuals represent financing extended to consumers
for personal or household purposes, including automobile
financing, education, home improvement and personal
expenditures. These loans are granted in the form of
installment, credit card or revolving credit transactions.
Consumer credit worthiness is evaluated on the basis of ability
to repay, stability of income sources and past credit history.
The Corporation maintains an allowance for credit losses at a
level deemed sufficient to absorb losses which are inherent in
the loan and lease portfolios at each balance sheet date.
Management reviews the adequacy of the allowance on a
quarterly basis to ensure that the provision for credit losses has
been charged against earnings in an amount necessary to
maintain the allowance at a level that is appropriate based on
management’s assessment of probable estimated losses. The
Corporation’s methodology for assessing the appropriateness of
the allowance for credit losses consists of several key elements.
These elements include a specific allowance for primary watch
list classified loans, a formula allowance based on historical
trends, an additional allowance for special circumstances and
an unallocated allowance.
While the Corporation consistently applies the following
comprehensive methodology and procedure described in
NOTE 1 “Accounting Policies,” allowance for credit loss
methodologies incorporate management’s current judgments
about the credit quality of the loan portfolio as well as
collection probabilities for problem credits. Although
management considers the allowance for credit losses to be
adequate based on information currently available, additional
allowance for credit loss provisions may be necessary due to
changes in management estimates and assumptions about asset
impairment, information about borrowers that indicate changes
in the expected future cash flows or changes in economic
conditions. The allowance for credit losses and the provision
for credit losses are significant elements of the Corporation’s
financial statements, therefore management periodically
reviews the processes and procedures utilized in determining
the allowance for credit losses to identify potential
enhancements to these processes including development of
additional management information systems to ensure that all
relevant factors are appropriately considered in the allowance
analysis. In addition, the Corporation maintains a system of
internal controls which are independently monitored and tested
by internal audit and loan review staff to ensure that the loss
estimation model is maintained in accordance with internal
policies and procedures as well as generally accepted
accounting principals.
Since all identified losses are immediately charged off, no
portion of the allowance for credit losses is restricted to any
individual credit or groups of credits, and the entire allowance
is available to absorb any and all credit losses. For analytical
purposes, the following table sets forth an allocation of the
allowance for credit losses at December 31 according to the
categories indicated. Management feels the unallocated portion
of the reserve is necessary due to the uncertain economic and
geo-political environment and its impact on a variety of sectors
such as health care and lodging. During 2003, the unallocated
allowance was reduced due to an additional allocation to
fourteen commercial loans. The increase in allocations to the
commercial, industrial, financial, agricultural and real estate-
commercial portfolios resulted from an increase in loan
volumes in these categories and the BankPittsburgh acquisition
within the metropolitan Pittsburgh market.
Allocation of the Allowance for Credit Losses
(Dollar Amounts in Thousands)
2003
2002
2001
2000
1999
Commercial, industrial, financial, agricultural and other
Real estate-construction
Real estate-commercial
Real estate-residential
Loans to individuals
Lease financing receivables
Unallocated
Total
Allowance as percentage of average total loans
$
$
10,739
330
11,361
4,910
4,614
202
5,229
37,385
1.42%
$
7,856
600
7,201
5,294
3,035
259
10,251
$ 34,496
$
6,315
432
9,808
7,379
3,845
401
5,977
$ 34,157
$
6,263
643
9,064
10,211
4,938
638
1,844
$ 33,601
$
6,321
831
7,675
9,928
5,131
586
3,067
$ 33,539
1.33%
1.34%
1.34%
1.39%
56
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
While the allowance for credit losses as a percentage of
average total loans outstanding increased from 1.33% in 2002
to 1.44% in 2003, the allowance for credit losses as a
percentage of actual loans outstanding remained at 1.32% for
both periods. The allowance as a percentage of average total
loans outstanding for 2003 was impacted by the inclusion of
BankPittsburgh loans since the acquisition.
Other than those described below, there are no material credits
that management has serious doubts as to the borrower’s ability
to comply with the present loan repayment terms. The
following table identifies nonperforming loans at December 31.
A loan is placed in a nonaccrual status at the time when
ultimate collectibility of principal or interest, wholly or
partially, is in doubt. Past due loans are those loans which are
contractually past due 90 days or more as to interest or
principal payments but are well secured and in the process of
collection. Renegotiated loans are those loans which terms
have been renegotiated to provide a reduction or deferral of
principal or interest as a result of the deteriorating financial
position of the borrower.
Nonperforming and Impaired Assets and Effect on Interest Income Due to Nonaccrual
(Dollar Amounts in Thousands)
Loans on nonaccrual basis
Past due loans
Renegotiated loans
Total nonperforming loans
Nonperforming loans as a percentage of total loans
Allowance as percentage of nonperforming loans
Other real estate owned
Gross income that would have been recorded
at original rates
Interest that was reflected in income
Net reduction to interest income due to nonaccrual
2003
$ 12,459
10,586
195
$ 23,240
0.82%
160.86%
$ 1,866
$ 1,962
1,185
777
$
The reduction of income due to renegotiated loans was less
than $50 thousand in any year presented.
Nonperforming loan levels at December 31, 2003 decreased
$15.2 million compared to 2002 levels as nonaccrual loans
and past due loans decreased by $11.0 million and $4.2
million, respectively. The decrease in nonaccrual loans was
due to eight commercial loans that paid in full or were
charged down and/or charged off. The largest improvement
was related to a credit with a balance of $6.2 million at
December 31, 2002 and bearing an 80% guaranty of a U.S.
government agency. The credit was resolved in the fourth
quarter of 2003 without any additional charge-off being
recorded. A second credit, which was $3.2 million at year-end
2002, continues to be resolved through the liquidation of
collateral and exercising other remedies. The balance
outstanding at December 31, 2003 for this credit was $1.8
million, a decrease of $1.4 million from the prior year. While
the final resolution of this credit is uncertain, management’s
estimate of the potential loss on this credit is reserved.
The decrease in past due loans for the 2003 period included
decreases in all major categories with the most significant
decreases in loans secured by residential real estate (down
$2.5 million), loans secured by commercial real estate (down
$607 thousand) and other commercial loans (down $839
thousand). The decrease in past due loans was due to
successful collection strategies. The renegotiated loan
category at December 31, 2003, included the one credit that
2002
$ 23,450
14,774
207
$ 38,431
1.47%
89.76%
$ 1,651
$ 1,542
286
$ 1,256
2001
$ 22,899
17,781
832
$ 41,512
1.62%
82.28%
$ 1,619
$ 1,422
750
672
$
2000
$ 10,698
22,086
2,263
$ 35,047
1.41%
95.87%
1999
$ 12,765
15,815
62
$ 28,642
1.15%
117.10%
$ 1,661
$ 1,707
$
$
750
333
417
$
$
724
458
266
was outstanding at the end of December 31, 2002. Interest
income on nonaccrual loans increased for 2003 due to final
resolution of several large credits that included collection of
some interest income.
The Corporation’s loan portfolio continues to be monitored by
senior management to identify potential portfolio risks and
detect potential credit deterioration in the early stages. The
Corporation has a “Watchlist Committee” which includes credit
workout officers of the bank and meets bi-weekly to review
watchlist credits for workout progress or deterioration. Loan
loss adequacy and the status of significant nonperforming
credits are monitored on a quarterly basis by a committee made
up of senior officers of the bank and parent company. These
committees were established to provide additional internal
monitoring and analysis in addition to that provided by the
Credit Committees of the bank and parent company. Credit risk
is mitigated during the loan origination process through the use
of sound underwriting policies and collateral requirements and
its previously described committee structure. Management also
attempts to minimize loan losses by analyzing and modifying
collection techniques on a periodic basis. Management believes
that the allowance for credit losses and nonperforming loans
remained safely within acceptable levels.
Capital Resources
Equity capital stood at $430.9 million at December 31, 2003, a
$29.6 million rise compared to December 31, 2002. Dividends
declared reduced equity by $37.2 million during 2003 as
57
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
dividends were increased over 2002 levels. The retained net
income of $16.1 million remained in permanent capital to fund
future growth and expansion. Long-term debt payments and
fair value adjustment to unearned ESOP shares in 2003
increased equity by $1.2 million. The market value adjustment
to securities available for sale decreased equity by $10.7
million in 2003. Amounts paid to fund the discount on
reinvested dividends reduced equity by $706 thousand.
Proceeds from the issuance of treasury shares to provide for
stock options exercised increased equity by $5.9 million during
2003, while the tax benefit related to the stock options
increased equity by $535 thousand. Equity capital in 2003 was
also impacted by the issuance of stock related to acquisitions
from 2003 and 2002, which resulted in increases in the
amounts of $17.0 million and $203 thousand, respectively.
A capital base can be considered adequate when it enables the
Corporation to intermediate funds responsibly and provide
related services while protecting against future uncertainties.
The evaluation of capital adequacy depends on a variety of
factors, including asset quality, liquidity, earnings history and
prospects, internal controls and management caliber. In
consideration of these factors, management’s primary emphasis
with respect to the Corporation’s capital position is to maintain
an adequate and stable ratio of equity to assets. See NOTE 27
to the “Consolidated Financial Statements” for an analysis of
regulatory capital guidelines and the Corporation’s capital
ratios relative to these measurement standards.
Risk Management
In the normal course of business the Corporation assumes
various types of risk. The Corporation has identified twenty-six
standard risks which have been summarized into seven major
risk categories. The seven major risk categories include credit
risk, market risk, liquidity risk, compliance/legal risk, opera-
tional risk, reputation risk and strategic risk. Credit risk, market
risk and liquidity risk are discussed in this Management’s
Discussion and Analysis of Financial Condition and Results of
Operations section. The remaining major risk categories are
defined as follows: compliance/legal risk— the risk rising from
violations of, or noncompliance with laws, rules, regulations,
prescribed practices, or ethical standards; operational risk—
threat created by inadequate information systems, operational
problems, weak internal control systems, fraud, or any other
unforeseen catastrophes; reputation risk—the risk to earnings
or capital arising from negative public opinion; and strategic
risk—the risk arising from adverse business decisions or
improper implementation of those decisions. These factors and
others could impact the Corporation’s business, financial
condition and results of operation.
Corporate management has taken strong and wide-ranging
actions to enhance the awareness of and proactively manage
risk within the Corporation. In addition to establishing a
comprehensive policy and procedure manual that is updated
and regularly communicated throughout the Corporation, the
58
Senior Vice President, Risk Management, an executive officer
level position, oversees all aspects of the risk process. Our
committee structure embraces a risk management culture,
which begins with the Risk Committee that provides oversight
and monitoring of key risk areas. The Risk Committee, which
is chaired by the Senior Vice President, Risk Management, and
has representation from all of the disciplines across the
organization, meets to discuss and assess current and emerging
risks as well as to identify solutions and mitigants. Credit
quality and loan loss adequacy issues are addressed by the
Credit Quality, Watch List and Loan Loss Reserve committees.
Additional committees include Security, which is responsible
for coordinating the security program; Privacy, which focuses
on safeguarding client information; ALCO, which monitors
interest rate and liquidity risks; and Disclosure, which evaluates
internal controls regarding information utilized in certain
regulatory reports, as well as reviewing those reports and the
disclosure process to ensure that disclosures are timely,
complete and accurate.
The Risk Department has specific procedures to analyze and
quantify risks in the seven major risk categories. Gaps between
inherent risks and mitigants are quantified and presented to the
Risk Committee for their review. Management continually
reviews the mitigants and controls to ensure their continuity.
The Internal Audit Department validates the existence and
effectiveness of the controls. Risk gaps are compiled to develop
a risk rating, which is incorporated into the balanced scorecard
measure and is reported to the Board of Directors. An
analytical review of key indicators, both monetary and
nonmonetary, as well as other current information that may
become available through discussions with management serves
as an early warning system to detect potential deteriorating
internal controls. All significant new initiatives and products
are subject to a risk assessment prior to being presented for
implementation. An annual assessment of risk is also
performed to identify potential threat areas to our computer
systems. Our internal audit staff performs routine and
consistent information technology reviews of identified risk
areas, security measures and control processes.
With these processes in place the Corporation believes that its
objective of establishing a risk culture that identifies, measures,
controls and monitors events or actions that may adversely
affect our organization has been achieved. Our goal is not to
eliminate risk but to understand fully the risk the Corporation is
assuming and appropriately manage those risks.
Inflation and Changing Prices
Management is aware of the impact inflation has on interest
rates and therefore, the impact it can have on a bank’s
performance. The ability of a financial institution to cope with
inflation can only be determined by analyzing and monitoring
its asset and liability structure. The Corporation monitors its
asset and liability position with particular emphasis on the mix
of interest-sensitive assets and liabilities in order to reduce the
FIRST COMMONWEALTH FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
effect of inflation upon its performance. However, it must be
remembered that the asset and liability structure of a financial
institution is substantially different from an industrial
corporation in that virtually all assets and liabilities are
monetary in nature, meaning that they have been or will be
converted into a fixed number of dollars regardless of changes
in general price levels. Examples of monetary items include
cash, loans and deposits. Nonmonetary items are those assets
and liabilities which do not gain or lose purchasing power
solely as a result of general price level changes. Examples of
nonmonetary items are premises and equipment.
Inflation can have a more direct impact on categories of
noninterest expenses such as salaries and wages, supplies and
employee benefit costs. These expenses are very closely
monitored by management for both the effects of inflation and
increases relating to such items as staffing levels, usage of
supplies and occupancy costs.
COMMON STOCK INFORMATION
First Commonwealth Financial Corporation (the “Corporation”) is listed on the New York Stock Exchange under the symbol
“FCF.” The approximate number of holders of record of the Corporation’s common stock is 15,500. The table below sets forth the
high and low sales prices per share and cash dividends declared per share for common stock of the Corporation.
Period
2003
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Period
2002
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
High Sale
Low Sale
$ 12.55
$ 13.30
$ 14.00
$ 14.98
$
$
$
$
11.50
11.57
12.60
13.15
High Sale
Low Sale
$ 14.00
$ 14.12
$ 13.37
$ 12.35
$
$
$
$
11.51
12.53
11.62
10.84
Cash Dividends
Per Share
$
$
$
$
0.155
0.155
0.155
0.160
Cash Dividends
Per Share
$
$
$
$
0.150
0.150
0.150
0.155
59
OUR MISSION
THE MISSION OF FIRST COMMONWEALTH FINANCIAL CORPORATION
IS TO MAXIMIZE THE LONG-TERM TOTAL RETURN TO SHAREHOLDERS.
Shareholder Value
First Commonwealth is committed to building shareholder
Send Certificates For Transfers and Address Changes To:
Receive and Deliver Department
value. It is our mission, our highest priority. Value is
P.O. Box 11002
delivered through a combination of total return (dividend
yields plus market price appreciation), market liquidity
Church Street Station
New York, NY 10286
(the ease of buying or selling First Commonwealth shares),
and shareholder services. This section of our annual report
summarizes the many services that are made available to
our shareholders.
Annual Meeting
The Annual Meeting of Shareholders will be held at:
First Commonwealth Place
654 Philadelphia St., Indiana, PA
On Monday, April 19, 2004 at 3:00 PM.
Dividend Payments
Subject to the approval of the Board of Directors,
quarterly cash dividends are paid on or about the 15th
day of January, April, July and October.
Dividend Reinvestment
First Commonwealth Financial Corporation's Dividend
Reinvestment Plan offers shareholders an opportunity to
reinvest their dividends in additional shares of the Corpora-
tion's common stock. Once enrolled in the plan, participants
Common Stock
First Commonwealth Financial Corporation common
may also purchase shares through voluntary cash invest-
ments. For more information on the plan, please call The
stock is listed on The New York Stock Exchange and is
Bank of New York, Plan Administrator, at 1-800-524-4458.
traded under the symbol FCF. Current market prices for
For shareholders who do not participate in the Dividend
First Commonwealth Financial Corporation common
Reinvestment Plan, Automated Direct Dividend Deposit
stock can be obtained from your local stock broker or by
Service is available for direct deposit of quarterly dividend
calling the Corporation at (724) 349-7220 (in Indiana,
payments to a checking or savings account. To enroll, please
PA) or 1-800-331-4107 (outside Indiana, PA).
Transfer Agent
The Bank of New York
Telephone Inquiries: 1-800-524-4458
1-610-382-7833 (outside the U.S.)
call The Bank of New York at 1-800-524-4458 for an
Authorization Form (completed forms must be received by
the Bank 30 days prior to dividend payment date).
Form 10K
A copy of the Form 10K as filed with the Securities and
1-888-269-5221 (Hearing Impaired—TDD Phone)
Exchange Commission will be provided to any shareholder
Address Shareholder Inquiries To:
Shareholder Relations Department
P.O. Box 11258
Church Street Station
New York, NY 10286
E-Mail Address:
Shareowners@bankofny.com
The Bank of New York's Stock Transfer Website:
http://www.stockbny.com
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on request to the Corporation, to the attention of the
Corporate Secretary.
Investor/Shareholder Inquiries
Requests for information or assistance regarding the
corporation should be directed to the Corporation, to the
attention of Shareholder Relations, 1-800-331-4107.
Additional Investor/Shareholder Information
Form 10K and other corporate filings to the Securities and
Exchange Commission are available on the Corporation’s
website at www.fcbanking.com under “Investor Relations”.
The “Investor Relations” section of the website also includes
additional information of interest to shareholders such as:
press releases, historical stock prices, dividend declarations
and corporate governance information, including the
Corporation’s “Code of Ethics”.
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First Commonwealth Fi nan cial Cor po ra tion
Old Courthouse Square
22 North Sixth Street
Indiana, Pennsylvania 15701-0400
(724) 349-7220
(800) 711-BANK (2265)
www.fcbanking.com